D.R. Horton, Inc.

Greetings, and welcome to the first quarter 2020 earnings conference call for D.R. Horton, America's builder, the largest builder in the United States. At this time, all participants are in listen-only mode. A question and answer session will follow the formal presentation. If anyone should require operator assistance during the conference, please press star zero on your telephone keypad. As a reminder, this conference is being recorded. It's now my pleasure to introduce your host, Jessica Hansen, Vice President, Investor Relations for D.R. Horton. Please go ahead.

Thank you, Kevin, and good morning. Welcome to our call to discuss our results for the first quarter of fiscal 2020. Before we get started, today's call may include comments that constitute forward-looking statements as defined by the Private Securities Litigation Reform Act of 1995. Although D.R. Horton believes any such statements are based on reasonable assumptions, there is no assurance that actual outcomes will not be materially different. All forward-looking statements are based upon information available to D.R. Horton on the date of his conference call, and D.R. Horton does not undertake any obligation to publicly update or revise any forward-looking statements. Additional information about issues that could lead to material changes in performance is contained in D.R. Horton's annual report on Form 10-K, which is filed with the Securities and Exchange Commission. This morning's earnings release can be found on our website at investor.deerwharton.com, and we plan to file our 10-Q in the next day or two. After this call, we will post updated investor and supplementary data presentations to our investor relations site on the presentation section under news and events for your reference. Now, I will turn the call over to David Ald, our president and CEO.

Thank you, Jessica, and good morning. In addition to Jessica, I am pleased to be joined on this call. by Mike Murray, our Executive Vice President and Chief Operating Officer, and Bill Wendt, our Executive Vice President and Chief Financial Officer. The D.R. Horton team started the year off strong. Our consolidated pre-tax income for the quarter increased 39% to $523 million, on a 14% increase in revenue to $4 billion. Our pre-tax profit margin improved 230 basis points to 13%, and our net sales orders increased 19%. Our home building return on inventory for the trailing 12 months into December 31st was 18.7%, and our consolidated return on equity for the same period was 18.2%. These results reflect the strength of our operational teams, our ability to leverage dealholding scale across our broad geographic footprint, and our product positioning to offer homes at affordable price points across multiple brands. we continue to see good demand and a limited supply of homes at affordable prices across our markets, while economic fundamentals and financing availability remain solid. Our strategic focus is to continue consolidating market share while growing our revenues and profits, generating strong annual cash flows and returns, and maintaining a flexible financial position. With a conservative balance sheet that includes an ample supply of homes, lots, and land to support growth, We are well positioned for the remainder of 2020 and future years. Mike?

Diluted earnings per share for the first quarter of fiscal 2020 increased 53% to $1.16 per share compared to $0.76 per share in the prior year quarter. Net income for the quarter increased 50% to $431 million compared to $287 million. Our first quarter results include a tax benefit of $32.9 million related to federal energy-efficient homes tax credits that were retroactively reinstated. Our consolidated pre-tax income increased 39% to $523 million in the first quarter, and our home building pre-tax income increased 30% to $462 million. Our first quarter home sales revenues increased 13%. to $3.9 billion on 12,959 homes closed, up from $3.4 billion on 11,500 homes closed in the prior year. Our average closing price for the quarter was up 1% from last year to $298,100, and the average size of our homes closed was down 2%, reflecting our ongoing efforts to keep our homes affordable.

Bill? Net sales orders in the first quarter increased 19% to 13,126 homes, and the value of those orders was $3.9 billion, up 22% from $3.2 billion in the prior year. Our significant sales price increase over the prior year quarter reflects the moderation in demand that occurred in late calendar 2018. Our average number of active selling communities increased 6% from the prior year and was flat sequentially. Our average sales price increased on net sales orders in the first quarter was $300,900, up 3% from the prior year. The cancellation rate for the first quarter was 20%, compared to 24% in the same quarter last year. Jessica?

Our gross profit margin on home sales revenue in the first quarter was 21%, flat sequentially from the September quarter, up 100 basis points compared to the prior year quarter, and in line with our expectations. Based on today's market conditions, we currently expect our home sales gross margin in the second quarter to be consistent with the first quarter, subject to possible fluctuations due to product and geographic mix, as well as the relative impact of warranty, litigation, and purchase accounting. Bill?

In the first quarter, home building SG&A expense as a percentage of revenues was 9.2%, down 30 basis points from 9.5% in the prior year quarter. We remain focused on controlling our SG&A while ensuring that our infrastructure adequately supports our growth.

Mike? We ended the first quarter with 30,200 homes in inventory. 18,400 of our total homes were unsold, of which 5,600 were completed. Our first quarter home building investments in lots, land, and development totaled $1.3 billion, of which $890 million was for purchases of land and finished lots. while $410 million was for land development. Our underwriting criteria and operational expectations for new communities remain consistent. At a minimum, 20% annual pre-tax return on inventory and a return of our initial cash within 24 months. David?

At December 31st, our home building lot position consisted of approximately 320,000 lots, of which 39% were owned and 61% were controlled through purchase contracts. 33% of our total owned lots are finished and at least 56% of our controlled lots are or will be finished when we purchase them. We continue working to increase our lot position being developed by third parties by supporting the growth of Four Star's national lot manufacturing platform and expanding our relationship with lot developers across the country. Our current lot portfolio includes an ample supply of lots for homes at affordable price points and continues to provide a strong competitive advantage. Mike?

Four Star, our majority-owned subsidiary, is a publicly traded residential lot manufacturer operating in 51 markets across 20 states. At December 31st, Four Star's lot position consisted of 44,500 lots, of which 32,200 are owned and 12,300 are controlled through purchase contracts. Eighty percent of Four Star's own lots are already under contract with D.R. Horton, or subject to a right of first offer under the Master Supply Agreement. During the first quarter of fiscal 2020, Four Star delivered 2,422 lots and is on track to deliver 10,000 lots in fiscal 2020 and generate $800 to $850 million of revenue. Four Star expects to deliver 12,000 lots and generate $900 million to $1 billion of revenue in fiscal 2021. These expectations are for Four Star's standalone results. Four Star is separately capitalized from D.R. Horton and is committed to maintaining a long-term net debt-to-capital ratio of 40% or lower. At December 31st, Four Star's net debt-to-capital ratio was 9.7%. Four Star has approximately $720 million of liquidity to fund its continued growth, which includes $370 million of unrestricted cash and $350 million of available capacity on its revolving credit facility. Four Star hosted their quarterly earnings call last Thursday, and has an updated presentation on their investor site at investor.fourstar.com that describes Four Star's unique lot manufacturing model and its significant growth and value creation opportunity. Jessica?

Financial services pre-tax income in the first quarter increased 29% to $30.5 million, and the pre-tax profit margin was 29.6%, up from 27.7% in the prior year. 97% of our mortgage company's loan originations during the quarter related to homes closed by our home building operations, and our mortgage company handled the financing for 65% of our home buyers. FHA and VA loans accounted for 49% of the mortgage company's volume. Borrowers originating loans with DHI mortgage this quarter had an average FICO score of 720 and an average loan-to-value ratio of 89%. First-time homebuyers represented 50% of the clothings handled by our mortgage company, reflecting our continued focus on offering homes at affordable price points for entry-level buyers. David?

DHI Communities is our multifamily rental company focused on suburban garden-style apartments with operations primarily in Texas, Arizona, and Florida. During the quarter... The H.I. Communities sold its third apartment project located in Phoenix for $61.5 million and recognized a gain on sale of $31.2 million. The H.I. Communities has four projects under active construction and one project that was substantially complete at the end of the quarter. The H.I. Communities total assets were $210 million at December 31st. Bill?

Our balanced capital approach focuses on being flexible, opportunistic, and disciplined. Our balance sheet strength and operating results are providing increased flexibility, and we are utilizing our strong position to enhance the long-term value of the company. During the first three months of fiscal 2020, our cash used in home building operations was $178.4 million, compared to $396.8 million in the prior year period. At December 31st, we had $2.6 billion of home building liquidity, consisting of $1.2 billion of unrestricted home building cash and $1.4 billion of available capacity on our home building revolving credit facility. Our home building leverage improved 370 basis points to 19.5%. The balance of our home building public notes outstanding at the end of the quarter was $2.4 billion, and we have $500 million of senior notes maturing on February 15th, which we plan to repay utilizing cash on hand and our revolving credit facility as necessary. At December 31st, our stockholders' equity was $10.2 billion, and book value per share was $27.92, up 14% from a year ago. During the quarter, we paid cash dividends of $64.6 million. We also repurchased 3 million shares of common stock for $163.1 million, resulting in $732.6 million remaining on our stock repurchase authorization at December 31st, 2019. our outstanding share count was down 2% year over year. Jessica?

Looking forward to the second quarter of fiscal 2020, we expect to generate consolidated revenues in a range of $4.25 to $4.4 billion and to close approximately 13,800 to 14,300 homes. We expect our home sales gross margin in the second quarter to be approximately 21%, and home building SG&A in the second quarter to be around 9% of home building revenues. Based on today's market conditions and our first quarter results, we now expect to generate consolidated revenues for the full year of $18.5 to $19.1 billion and to close between 60,000 and 61,500 homes. We expect our income tax rate in the second, third, and fourth quarters to be between 23% and 24%. We still expect to generate cash flow from home building operations in excess of $1 billion for the full fiscal year of 2020, and we expect our outstanding share count to be down approximately 2% at the end of the year compared to the end of fiscal 2019. David?

In closing, our results reflect the strength of our well-established operating platform across the country. We are focused on consolidating market share while growing our revenues and profits and generating strong annual cash flows and returns while maintaining a flexible financial position. Our return on equity of 18.2% and our home building return on inventory of 18.7% demonstrate our consistent focus and efforts. We are well positioned to continue this performance with our conservative balance sheet, broad geographic footprint, affordable product offering across multiple brands, attractive finish lot and land position, and most importantly, our outstanding experienced team across the country. Thank you to the entire D.O. Horton team for your focus and hard work. We are incredibly well positioned to continue growing and improving our operations. This concludes our prepared remarks. We will now host questions.

Thank you. We'll now be conducting a question and answer session. We ask that you please ask one question and one follow-up, then return to the queue. If you'd like to be placed in the question queue, please press star 1 on your telephone keypad. Once again, that is star one to be placed in the question queue, and we ask you to please ask one question and one follow-up, then return to the queue. Our first question today is coming from Carl Reikhardt from BTIG. Your line is now live.

Thanks. Good morning, everybody. I wanted to ask, hey, I wanted to ask something you guys often have talked about is the idea of getting your cash back out of your investments and land within two years. And with some of your peers moving to some of the products and markets that you serve, I'm just curious as to your perspective, David, on the land market in general for affordable homes and your ability to continue to run the model where you're getting cash out in two years.

Well, the cash out in two years is something we've stayed with through this from the downturn on. And I can tell you that that model has worked very well for us, and I don't see that changing. And as to the overall market for buying land, again, it comes back to the people we have embedded in these markets and the relationships they have with the landowners. And we feel very good about our opportunity to replace what we're building through, and through this process, through this market, have seen that happen over and over and over again.

Great. Thanks. And then on similar lines, with looking like SARTs are going to pick up with orders strong for lots of folks, I'm curious as to your perspective on the labor market subs in particular and what you're seeing and thinking about in terms of the potential for increases in cost there this year as these orders get built out. Thanks so much.

I think there's always going to be that pressure on the cost side. definitely labor is getting tighter and continues to I think going to restrict a lot of people's ability to deliver houses. Again, you know, it goes back to kind of the operating profile we adopted and continue and that is consistent starts throughout the community, expanding the labor base via efficiency, not necessarily just bodies and We feel very good about what we've accomplished. We have a very loyal trade base. I think I said on the last call, our trades don't have to go trace their paychecks. So all of that combines to put us in a great position. So is it going to be a problem? I think less so for us than other people. Great. Thanks so much, David.

Thank you. Our next question is coming from John Lovallo from Bank of America Merrill Lynch. The line is now live.

Hey, guys, thank you for taking my questions as well. The first one on the order ASP, a little bit over $300,000 in the quarter, that was up pretty nicely year over year. And I know you mentioned that there's some normalization off of a challenging period last year. But just curious if we kind of break down that number. Is that kind of regional and product mix driven, or are you taking pricing? I don't like to like this.

Part of it is regionally driven. If you look at our orders this year, the South Central was down 2% in terms of just the mix, the overall mix, and that's actually our lowest ASP region. So we continue to expect just modest sales price increases as we move throughout the year, enough to cover our cost increases, but on a like-for-like basis, you know, nothing significant in the way of price.

Okay, that's helpful. And then Just curious how you're thinking about the four-star investment. If the plan is to kind of continue to dilute your stake through issuing equity at a four-star, or are you now considering any plans to potentially sell down your actual ownership position?

Yes, we're still on track with our plan there, John, to ultimately deconsolidate four-star. We were pleased when they were able to issue their first primary equity offering. in September, which diluted our position down from the original 75%. Here in December, we're sitting at 65%. We would expect additional equity issuances from Forrester over time that could continue to dilute our position. And then, as we've also said all along, there's the potential that we could sell some of our shares. And at the point in time that we are ready to do that, we will have a plan in place that will complement the primary equity issuance and and those two things together would result in further dilution in our ownership position. Great.

Thanks very much, guys.

Thank you. Our next question is coming from Alan Ratner from Zellman & Associates. Your line is now live.

Hey, guys. Good morning. Nice corner, and thanks for taking my questions here. So first of all, I think last quarter you guys commented just when you thought about the full year, your best guess at that point would be that gross margins would be kind of similar in that 21% range, and you obviously hit that this quarter, and 2Q Guide is similar as well. So just first off, is there any changing in thinking in terms of the progression in margins through the year? Obviously a very strong sales environment. So how should we think about as the year progresses what happens to margins?

I think we're going to see consistent margins into the second quarter, and then, frankly, as usual this time of the year, the spring selling season will really dictate where margins go in Q3 and Q4. Early returns on the spring selling season have been very positive, so we're confident in giving our guidance of consistent margins into Q2, but we're going to have to wait and see what happens in the next several weeks. Great.

I appreciate that. The second question, you know, if I look at your homes in inventory, that's been at least on a year-over-year basis been trending lower for the last several quarters. I think this quarter you're down about 10% year-over-year. And obviously last year was elevated a bit because of the sales, the tougher sales environment. But are you seeing a greater component of sales coming from to be built, or have you changed your thought process at all in terms of the optimal? number of specs per community that would be translating to that type of decline we're seeing, or are you trying to ramp that higher as the spring gets underway?

A couple of things going on with that number, Alan. One, the comparison to the prior year, we're actually down 5%. We've changed the way we report homes in inventory to exclude the model homes. So last year we were at – where were we last year? Like 31 – 31.8. 31.8. And so this year we're at 30,200, so we're down slightly from last year. And last year may have been a bit elevated with the softer sales and operating environment we saw in the fourth calendar quarter of 18. Another thing we've talked about is getting better at turning our housing inventory to drive a higher return with those investment dollars. And then we're also seeing, you know, the ability to push starts in, you know, as we're seeing demand come on. we're not noticing any kind of a difference in the mix between to-be-built versus our spec starts, you know, continuing, you know, probably an 80-20 consistent approach to that. Got it. Okay.

That's very helpful. Thanks a lot.

Thank you. Our next question is coming from Stephen Kim from Evercore ISI. Your line is now live.

Thanks very much, guys. Strong quarter. Thanks for all the info. First question I have for you is on the land spend. The land spend was fairly high relative to our expectations this quarter. I'm talking specifically on the acquisition number of 890. And, you know, the percentage of revs, that was probably the highest we've seen in six years. And given your discipline and given your outlook on the business and your intention to – basically get a return on that spend within 24 months, it seems that there's a fair amount of optimism that's implied by that strong land spend. So I was wondering if you could talk a little bit more about that, maybe break that down for us at least qualitatively in terms of was that strong land spend fairly equally distributed across the country? Were there certain opportunities that emerged in a particular region or a particular product type that, you know, garnered a lion's share of that? Just talk about the relatively strong land spend in greater detail.

Sure, Stephen. You know, as you know, you study our land spend. There is some lumpiness kind of from quarter to quarter. And so, you know, one quarter, just based on the timing of when deals close and when they get ready to go, And based on our business plans, there can be a bit of lumpiness there. One thing I would point out is that over half of our land acquisition spend is for finished lots. And so we continue to dedicate a lot of our spend to finished lots, which turn very quickly. And so I would really just attribute, I wouldn't say there's necessarily any changes in our plans, but I would attribute a bit of this to a little bit of the lumpiness, point out that finished lots are a heavy part of this. of the spend, but we are optimistic. We do see growth, certainly in fiscal 20, and right now we still see very good underlying fundamentals for the business, and so we're still actively replenishing our land and lot supply.

And we have to replenish it at a faster rate as we continue to grow our sales and closing space. So you've seen our owned lot count remain relatively flat for quite some time, so it's really just a function of having to replenish at a faster rate.

Great. Yeah, that's helpful. The second question relates to the broader macro environment or rather the broader environment with respect to housing policy. We've seen some interesting moves here as of late. We've seen the average BTIs, the high BTIs and high LTV lending be curtailed or reined back by the FHFA. And, yeah, we've also heard the CFPB weigh in here and suggest they're going to move to an APOR spread versus the DPI. I was curious as to whether or not you have looked into this. Some of what we've heard is that the move to the APOR spread would actually be stimulative to entry-level housing on top of the dropping rates. That would seem to be extremely favorable for your business, and I was curious if you had looked at that at all and if you have any view on whether or not these broader factors may be positive for your business the way it would appear to us.

Sure. High level, I think we'd agree with what you're saying. That being said, it's super early and out there, and it's not something that we've spent a lot of time on. I'm sure our mortgage company would have a much more detailed response for you. But anything, you know, that continues to improve mortgage standards and makes it easier for people to get into a house clearly would be a benefit for our business. That being said, as David mentioned in his opening, Financing availability is still good. I mean, people that should be buying houses are who are buying houses today, and we're not necessarily in favor of people with, you know, significantly high DTIs or really low credit scores being in a house because we're very cognizant of what happened last cycle, and we don't want any repeat of that.

Thanks a lot, guys.

Thank you. Our next question is coming from Truman Patterson from Wells Fargo. Your line is now live.

Hi. Good morning, guys. Let me just throw on a congrats on a good quarter as well. So your guidance is for, you know, mid to high single-digit closing growth. You bumped up the high end a little bit. But is there anything structurally limiting you from going above the high end of that guidance, particularly on the land side? I'm thinking availability of lots, your ability to get lots developed. And that also includes, you know, municipality constraints, delaying community openings that might create any kind of gap outs.

You know, we're really excited about the way this year started off the first quarter and through the first several weeks of January. And we have increased our guidance as a result of that. You know, structurally, it's a question of the lots that are out in front of us. We feel good about the community positioning we have, getting some communities opened. but right now we're not going to increase our guidance based on where we are today in the spring-summer season, but we will certainly look to deliver all the homes we can at the best returns we can do in fiscal 20.

Okay, so put another way, there's nothing structurally limiting you on the land side from going above that if the market's a bit healthier than what you expect as of today?

There's a finite number of homes we can build over the next eight and a half, nine months and deliver by September 30th. But, you know, we're comfortable with our guidance range today, and we're just going to have to see, you know, what the spring is going to give us and, you know, where we end up in our inventory positioning in March and into April and May.

Our guidance already incorporates a higher housing inventory turnover than what we did last year, so it reflects an improvement. in terms of building, selling, and closing more houses this year than last year, which is what we continue to be focused on is those efficiencies in the business. But that is what limits further upside to our current guidance.

Okay. Okay. And then sticking on the land side, your option lots jumped nicely this quarter. You know, as you all continue rotating towards more option land, how should we think about where that growth comes from? Is it primarily through four-star, is it more of an even balance between four-star and your third-party developers? And then any way you can put out a target over the next couple years, what do you think you can get that option land bank as a percentage total up to?

You know, we're not going to set a hard target. Internally, we talk about goals, but that's an internal conversation. And it's kind of a balanced approach. program. I think the four-star platform is getting built out. We're very happy with the progress we're making there, but we are also equally focused on our third-party developers, and they are a part of the DR Horton family, and that pipeline continues to get better and bigger, and so it's a collection of the two. It's primarily just focus. You know, we're we're treating capital as if it's a precious commodity, and we're going to try to treat it better than anybody else in the industry.

All right. Thank you.

Thank you. Our next question is coming from Matthew Boulay from Barclays. Your line is now live.

Good morning. Thank you for taking my questions. So I wanted to ask on the SG&A side, since your guidance implies sort of flat percentage year over year, you know, although you are growing the top line and kind of managing that inventory positioning, is there any reason why we wouldn't see a bit more leverage and, you know, how should we think about that beyond the next quarter? Thank you.

You know, as if to the extent we're delivering on our closings guidance and showing mid to high single-digit growth and revenue, we do expect to see leverage on our SG&A and improvement year over year. We're very pleased with the 30 basis points we saw in the first quarter. Based on what we see today and the volume we see in Q2, we do expect SG&A to be relatively flat with last year in Q2. But overall, we do expect some leverage for the year.

Okay. I appreciate that. And then, As you just mentioned, I believe to the prior question, your guidance for the Q2 closings does imply kind of a continued uptick on that conversion of your inventory positioning. But you did also mention earlier that labor is kind of not surprisingly getting tighter. So can you speak a bit about that balance and, you know, what exactly are you guys doing on the ground that supports that improving efficiency? Thank you.

You know, it gets back to, to me, it gets back to relationships with the trade base. And for the last, I don't know, ever since the downturn, we've had a steady and consistent level of production going in our communities. And so our trade base has gotten better at building the houses. And, you know, when they're not out there chasing work, you know, They can build more houses. What I look at is the same labor. We build more square footage with the same labor hours. Thank you. So it's a process. It's something we've worked on all the way through this cycle. I think early on we felt like labor was going to be the constraint on housing. And we have done I think a great job of managing the trade base and making sure that those guys were making money and we were still delivering houses at a reasonable cost.

Matt, the other thing we look at here and we watch from a high-level perspective is what our build times are doing and our process when we start a house, do we get it completed and then closed? We're not seeing those times elongate, which would be real more acute indicators of labor shortages in various markets. The longstanding deep relationships we have with a lot of the labor suppliers combined with a more efficient plan set, if you will, in our communities and focus on the first-time homebuyer and affordability has driven our ability to continue to turn houses a little bit better, and we're going to see a lot of improvement in that metric this year.

All right. Thank you for the caller, and congrats again on the quarter.

Thank you. Thank you. Our next question is coming from Michael Reholt from J.P. Morgan. Your line is now live.

Thanks. Good morning, everyone, and again, congrats on the quarter. First question I had was on your outlook for the year for community count and sales pace. I believe last quarter you talked about, and correct me if I'm wrong, but you'd expect community count, average community count for the year to be up year over year, low single digits. I was wondering if that's still the expectation. I believe it's been flat sequentially more or less for the last few quarters. But, you know, I guess the expectation would be to drift upward a little bit. And then also on the sales pace, you had a nice improvement year over year. And I was just curious if that was more driven by market conditions or certain, you know, product or geographic mix shifts and how you think about the next quarter or two.

Sure. So when we think about community count, Mike, It's the hardest one for us to predict, quite honestly, which is why we never give formal guidance on it. I think our basis would be that we would anticipate it to tick up at some point as we move throughout the year, but when that inflection point actually happens, it's hard to call exactly. In terms of the sales pace, as we mentioned in the script, That does reflect the moderation in demand we saw in late calendar 2018. So we did have, although we generally don't talk about comps, we did have a relatively easy comp when you look at that. And what our guidance reflects for the year from a closings perspective would infer that our sales year-over-year increase is going to moderate from Q1, and it will fluctuate Q2, Q3, Q4 in a range that supports that closings growth guidance that we've alluded to.

No, that's helpful. Thanks, Jessica, for that. I guess, secondly, you know, bigger picture, kind of maybe piggybacking off an earlier question of owned versus optioned, you know, maybe said a different way. You know, your lot option percentage has obviously, while huge amounts of progress, impressive progress over the last few years, Now it's kind of been in that low 60s type of range, 60 to 61, 62 maybe over the last three, four quarters. That increase over the last few years has been a big, big driver of your improved return profile. Just trying to get a sense of over the next two or three years, certainly you're not going to do the same type of degree of change on the lot option profile. As you have before, maybe you'll drift up a little bit. I do recall you guys talking about a 70% number perhaps, but maybe now that's not as concrete. But how should we think about over the next two or three years the next big lever of improvement in returns? Would it be more from a share repurchasing standpoint or or are there other levers that perhaps we're not thinking about?

Yeah, Mike, we expect it to be just continued incremental improvement on all fronts. We do expect to continue to, and our goal is to continue to push that option percentage upward. We're not going to set necessarily an upward target, but we do expect to incrementally improve that. As Four Star grows, builds out its platform even further, that's going to continue to be part of that growth story as well as expanding relationships with our developers. We've already alluded to on this call, we're expecting to turn our housing inventory faster this year. And so that's going to be an incremental lever in terms of returns this year. And then as our operations are more efficient and generate more cash, that gives us more flexibility on the capital allocation side. And so over the last several years, we have instituted an increasing level of share repurchases and dividend payouts to shareholders, which has enhanced our ROE. And so as we continue to incrementally improve each year, I think each one of those levers is going to allow us to continue to incrementally improve both operational returns and returns to the shareholders.

Great. Thanks so much.

Thank you. Thanks, Matt. Thank you. Our next question today is coming from Jack Masinko from SIG. Your line is now live.

Hi. Good morning. I wanted to revisit the PACE question a little bit more. The one cue here, this was, I think, the probably the high-water mark since the crisis on sales pace. And I'm curious, the guide would suggest that, you know, pace will continue to improve through the year, maybe at a slower clip. But the improvement, you know, looking past year over year with the easy columns, but the improvement over the last four or five quarters, is that all product segmentation, or are you seeing lift across all your product types? I'm curious if there's any regional differential changes that could drive maybe incremental pace improvement through the latter half of this year, maybe into next year?

I think we're seeing generally increased absorptions at our more affordable price points, whether that's the entire community or certain plans within more of the traditional Horton branded communities. We are not heavily exposed to the luxury end of the market So we're not experiencing if there is any lift there or not lift going on there. We can't speak to that very well. But across all of our geographies, we're feeling pretty good about the traffic, pretty good about the demand in the most recent quarter and in the quarters leading up to it.

And then maybe the January trend in the last couple weeks, would it be consistent with what we saw in the fiscal first or did that build sort of continue in the most recent couple weeks?

You know, I'd say we've seen normal seasonality week to week as we've progressed in January. You know, it seems like historically people talked about Super Bowl Sunday being the kickoff to the spring selling season. And we've noticed the past few years that that seems to be starting a little bit earlier. And maybe it's because the Cowboys, you know, didn't make the playoffs. People are buying houses sooner. But we're excited for the Chiefs. And I think... And the 49ers.

And the 49ers.

Equal opportunity.

Just one more for me. A couple of the job sites you've got, it looks like you're trying to build a team on the single-family rental side. Can you just refresh us on the strategy there and the thoughts, own versus build, for others and how you're thinking about the business today?

Yeah, we're currently thinking about the business. We're still early stages on it, and we're trying to get in and really understand the operations of the business and see where we add the most value to that process. You know, today it's probably more dipping our toe in the water on the own side, but we are certainly looking at it hard, and I've not shut the door on any possibility today.

All right. Thanks for taking the question. Thank you, Jeff.

Thanks. Our next question is coming from Ken Zenner from KeyBank Capital Markets.

Good morning, all. Good morning. Good morning, Ken. So you beat your closing guidance. I assume that was on higher intra-quarter order closings. Can you confirm that? And what was the percent for intra-quarter order closings in this one Q versus last year?

You are correct that we beat that. This quarter, it was 40% that we sold and closed in the same quarter, which is slightly higher than we would typically do. I don't know that I have. Oh, I do have last year. Last year was 37%. Okay.

And then related to that, is there any shift in terms of, I mean, that's where I would expect to see efficiency showing up. So could you talk about if there's anything that you're thinking about in regards to that increase in that percent and talk about the margin spread that you're, or the trend that you guys have been seeing between the, backlog closings, specifically the inter-quarter closing units?

On the first part, Ken, I would say it's pretty much in line with what we would expect, especially with the number of completed specs that we have. That allows us the opportunity to sell and close more homes within a quarter. So I would expect that trend to continue. Last year in the second quarter, we actually sold and closed 45% homes in the same quarter, sold and closed. If you look at the margin differential, that stays relatively consistent in that there is a slight differential and a slightly lower margin on specs than there is build jobs. That being said, really the only big differential is on our completed specs that have been completed and unsold for a period of, you know, multiple months. So the earlier we sell it as a spec, the tighter that differential is. And as a reminder, about 80% of what we close in a quarter started as a spec. So when you see that 21% home sales margin we reported this quarter, that's by and large a spec growth margin.

Why is that spec margin a bit lower versus backlog if there's price appreciation? I mean, what is it that's moving? Is it that you have to discount it? That seems inconsistent with

No, it's that we're underwriting to a return. And as we turn our spec housing more quickly than build jobs, we're able to work for a slightly lower gross margin and get an equivalent return. In a build job, you're actually going to lose the price appreciation if you lock in before you start construction. So we like selling more in real time and capturing that margin as we move along the way.

And a lot of our build job sales are actually – Sales of homes that we had planned to start anyway, they were in the production planning process to start. They just had not started yet, but they were released to sale on the sales floor. Our average time in backlog for a customer that's in a build job is not terribly long because our homes, you know, generally when building to an affordable price point, homes build fairly efficiently. And so the customer is not sitting for a long period of time going through a large process design selection process, lengthy permitting process until we get to start. A lot of these homes will be starting, you know, very soon after they sign the contract. So it's a very tight margin differential between just a traditional spec sale to the marketplace.

I appreciate that. And if I could, one last question. Did you guys pull most of your permits in California to get ahead of the solar mandate? Thank you.

No, I don't think so. We're responding to the market out there, and certainly the solar mandate is going to increase cost, but pulling a permit and building a house when there's not a market for it is going to create a whole lot less return than paying the additional cost. It's just kind of business as usual for us out there.

And the solar mandate was We've known about that for several years, that we've had the ability to prepare, and that's in our underwriting, and we knew those costs were coming. And as more and more homes are being built with solar, our base case expectation is that those costs will come down.

Excellent. Thank you very much.

Thank you. Our next question is coming from Buckhorn from Raymond James. Your line is now live.

Hey, thanks. Good morning. Quick question. Can you just – percentage of communities that you were able to raise price on on a same plan basis?

Buck, we don't have that information in terms of tracking, you know, across our neighborhoods. You know, we really have empowered our local operators to be looking to meet the market to drive return, and that is certainly a function of pace and margin, and they're looking to maximize that. at every community, you know, every week, every day, frankly, as to looking at what that pace is. And that's nothing that we're managing centrally. So, you know, we don't really have the ability to give you that color today.

When we talk about a lot, our revenues per square foot, that's a metric people, we've consistently reported, and we haven't given that yet today. Year over year, our revenue per square foot was up about 3%, and our stick and brick costs were down about half a percent. Sequentially, our revenues per square foot and our stick and brick costs per square foot were essentially flat.

Okay. That's helpful. That's great. And switching over to just the multifamily investments, just curious if you could provide any potential quarterly timing of expected sales or closings, or how do you think of potential gains on sale from the multifamily division either this year or next year? How do you plan on growing that investment going forward?

Sure. In terms of timing, we expect to close a total of two projects in fiscal 2020 and We closed our first one here in Q1. We did state that one of our communities is substantially complete. And so, you know, in the process of stabilizing the community, the rental situation and marketing it. So we would expect to close that one later in fiscal 2020. Don't have a specific quarter guide for you on that. And then we do expect the investment level in the DHI communities to grow this year. We expect it to grow, you know, approximately 100% from the point at the start of the year. Over the course of this year, their pipeline is growing, and their number of projects will begin to grow more directly over the course of fiscal 2020, which will ultimately result in some future years delivering more than two a year. But the lead time, the pipeline on those deals is two to three years long, so we're still a couple years out from a significant increase of volume of project sales in DHI communities.

Super helpful.

Thank you.

Thank you. Our next question today is coming from Jay Romani from KBW. Your line is now live.

Thank you. With respect to single-family rental and multifamily, do you have any interest, does the company have any interest in creating a permanent capital vehicle to hold those assets? In my experience in the REIT sector, you know, the highest valuation is ascribed to continual, you know, recurring earnings rather than gain-on-sale type earnings where, you know, it's unpredictable to the markets. Just curious as to your thoughts on that.

Yeah, I understand that, Jay, and that's something we're aware of that as well, and that's one of the things that we're studying as we get further into this business. Our goals early on have been to ensure that we have a strong, efficient operating platform for beginning with multifamily, and as we look at the single-family rental space, we're looking to do the same thing there. And as we get that established, we then look to growing the platform and setting the capital base for it. And so as we look at the medium and longer-term plans for setting the capital base for both of those businesses, that's certainly something that we will be considering for the longer term.

Thanks very much. Turning to financial leverage, I was wondering if the total debt to capital at slightly below 20% is in line with your long-term target, or do you think there's potentially – improvement in that ratio in years to come?

Where we are today, we don't expect to increase our leverage. We expect to, as we're generating cash and adding to our equity base, that our leverage would not increase from here and we could see further decreases. Our stated maximum leverage is 35% or below, but obviously we've got a lot of headroom on that today, but that does give us room that in certain scenarios we've we would leave ourselves some room to invest further and increase leverage, but we don't see that in the short run.

Thanks very much. Thank you. Our next question is coming from Rohit Seth from SunTrust. Your line is now live.

Hey, thanks for taking my question. Can you give us an update on what's happening with the Freedom brand, any color on that buyer segment?

We continue to work on that product offering presentation and a lifestyle. It's something we're happy with. I think it will be a larger and larger portion of our deliveries in the future. It's a growing demographic and we think we can provide a, uh, product and, uh, lifestyle that, uh, people are going to move into.

Is, um, would you say, are you expecting a ramp in that business in your, in your annual guidance or is that annual guidance more driven by, uh, kind of that entry-level buyer?

It's, it's, it's still the entry-level buyer driving, driving the market. the, the Freedom brand for us is, is part of our long-term, uh, uh, meet the needs of as many buyers out there as we can. And I think as the market moves, it will become a more and more important part of what we're doing.

Understood. And then second question, on your gross margin guidance, 21%, can you maybe break out the cost buckets there? You know, what's your labor cost, inflation, expectation, material costs, and then line costs?

Really just more of the same. So, you know, modest increases. I'd say labor has stayed in the low single-digit percentage range. Now that we've kind of cycled through the lumber headwinds that we had, materials we essentially would expect to be net neutral. We always have some categories where costs are going up, but our purchasing teams do a fantastic job of finding other categories to lower our costs and offset whatever increases we're not able to. to push back on. And then land really has been kind of a low to mid-single-digit percentage increase, at least on a per-square-foot basis. And that really is not expected to change either. I mean, land costs aren't coming down. As home prices rise, land costs typically follow. So really just more of the same in 20 as what we experienced in 19. If you take out, you know, late calendar 18 and the incentive environment and the lumber costs that we cycled through.

Okay, I understand. And then what is the expectation for tariffs? The tariff impact or no impact?

What do you have in there? We've got price protection on most everything. If there is, you know, a modest impact from any of the tariffs, we've identified ways to offset that.

All right, great. Thank you. That's all I have.

Thank you. Our next question is coming from Mark Weintraub from Seaport Research. Your line is now live.

Thank you. You mentioned the very positive early returns on spring selling season. Was that largely just a reference to strong orders in January, or was it other things that color that comment?

The primary thing is the order trends. I mean, that's the first read we're getting on what's coming through. and they're coming in at a great pace that we've expected, and we're seeing good seasonal build week to week with that. And, you know, anecdotally, we're not hearing about any pushback or pressure on pricing from the customer side of the marketplace today.

Kind of following up on that, obviously, as Jessica just mentioned, you have a fairly benign cost environment now. It's as things heat up, labor does go higher, materials go higher, et cetera, do you have a sense as to what type of pricing power you might have in the current environment? And really, I recognize it's always a question of pace versus price, but I guess at some points in time, when you try and push price, it could have a bigger impact than at other times, and certainly we saw that in the last year or two. Do you think that we've created a bit more cushion in the environment so that there would be more leeway on price if costs start to go up, or do you think we haven't exited that environment?

I feel really good about the market conditions we're seeing today and the buyers that are coming in and their urgency to buy. So, you know, I would say we have some cushion to work with in that. But, again, we're not just looking at a margin number. It is a return number, as you alluded to before, the pace versus price. And so driving the communities at the planned absorptions we found drive the highest returns. And then the activity that gets that coming out of buyers seeing activities, seeing momentum, drives generally some pricing power and some margin expansion, executing at the community level. And that's really where our focus is. And as it's rolling up, we've seen pretty consistent margins in the last couple of quarters when we're looking at that into next quarter. We're optimistic about spring, and that's going to tell us where margins ultimately go for this year. Okay, great. And one last one.

Where are your thoughts on off-site manufacturing as a way to potentially mitigate or improve the labor side of things in time?

So we have, you know, a lot of our homes today are put together with trusses, roof trusses that are manufactured off-site. Others, we're doing wall panelizations. in certain markets, and it's something we continually evaluate to look at the most efficient from both a time and a cost perspective as to how to deliver the home at the best value to the buyer. So we're always evaluating it. We haven't seen a sea change in the economics of that today. Most of our homes are probably stick-framed with trusses would be probably the broad generalization to say, but there are some markets where we still build roofs on site. Great, thank you. Very, very across the country.

Thank you. Our next question is coming from Jamie Cameron from Whiplash. Your line is now live.

Hey, good morning. Just two questions on incentives. What are you guys doing with incentives now? And more importantly, what are you seeing from your competition?

Pretty stable environment there. Certainly on a year-over-year basis, our incentives are down significantly. But over the last couple of quarters, been pretty stable. It's a normal environment where there's usually some level of incentives related to closing costs. And then community by community, there could be some specific incentives, but nothing out of the ordinary, certainly in our business. And really, we're seeing a pretty rational environment across other builders as well, not hearing anything out of the ordinary.

I'd say the market is good. People are, as Bill said, performing rationally. It's a good time to be a home builder.

My second question, just talking about what your average lot per community is right now, and are you expecting that to trend up just to get the higher year-over-year unit closings? You talked about the guidance.

It's slightly trended up here over the last couple of years, Jay, as our absorptions have improved. That does allow our underwriting to hit our standards and use slightly larger communities. So I would say that is incorporated in what we're expecting for fiscal 20, but that's really just been more of the same of what we've experienced each of the last few years. Multiple product types in larger communities allows us to drive more absorption. I don't have our current average lot size or lot count. Rough, I would say probably 150, 200 lots. But obviously, we've got significant variation in that. We've got communities that are 30 lots. We've got communities that are 1,000 lots.

Some more options, some more owns. There's a big mix there.

Okay, great. Thanks for taking my question.

Thank you. Our next question is coming from Alex Barron from Housing Research Center. Your line is now live.

Come on. Yeah, thanks, guys. Yeah, it's a great quarter, great start to the year. I guess I just want to circle back a little bit to the guidance. So the last two quarters orders have been double digits, and a little bit off of that was maybe easier comp, but I guess I'm just curious, you guys just being conservative this early in the spring season, basically, giving the single digital growth guidance or delivery guidance?

So, Alex, not to be repetitive, but really it is a function of where we sit today, the number of houses we have, the number of houses we had going into the year. We did have a much easier comp this quarter compared to late calendar last year when the market was completely different of what it is. And to remind everyone, we heavily incentivized into December and really into the spring to continue those sales increases that we saw. I think we were the only builder in calendar fourth queue of 18 that had an up quarter. Our sales were up about 3%, and that really was just a function of how heavily we incentivized in December to get there. So October and November, you can read into, were very tough months. And that led into a good comp this year, 19% up, though. I mean, it's a good market, as Mike's alluded to several times. We feel very good about the market today. But we sit here today. We haven't seen the spring selling season. We've got 5% fewer houses in the ground. So if we're able to push and get a few more starts in and the spring stronger than expected, could there be a little upside? Potentially, but we don't see a whole lot. And we did already raise. the higher end of our guidance by about 500 homes.

And on balance, we're looking at much stronger returns in fiscal 2020 because we're still seeing a good pace. Even at the guidance level, we're seeing a good pace at better margins, better returns, and a better turn of our inventory this year as well. So we're very pleased with our positioning, with a good market backdrop, and with our plan for the year.

Got it. And then you mentioned that the best returns come from maintaining the sales pace pretty strong. So could we read that necessarily to be that you're not seeking to push prices too much to not upset that strong sales pace?

It depends on the community, Alex. It really just depends. If we've got another community, replacement community, ready to go behind it, we're going to most likely push more pace than we are price because that's the best thing we can do is continue to turn our inventories generate more revenue and profits in a shorter period of time. But if it's in an area of the country where we don't have a replacement community or for whatever reason that community is not replaceable, we're going to be more likely to push price. So it's always a balanced community by community.

Okay. Appreciate it. Thanks and good luck this year. Thank you, Alice.

Thank you. We've reached the end of our question and answer session. I'd like to turn the floor back over to David for any further closing comments.

Thank you, Kevin. We appreciate everybody's time on the call today and look forward to speaking to you again in April. And to the D.R. Horton team, outstanding first quarter. Thank you for your focus and hard work, and we've got a great year set up. Let's go deliver it.

Thank you. That does conclude today's teleconference. You may disconnect your line at this time and have a wonderful day. We thank you for your participation today.