KB Home

Good afternoon. My name is Devin, and I will be your conference operator today. I would like to welcome everyone to the KB Home 2020 second quarter earnings conference call. At this time, all participants are in a listen-only mode. Following the company's opening remarks, we will open the lines for questions. Today's conference call is being recorded and will be available for replay at the company's website, kbhome.com, through July 24th. Now, I would like to turn the call over to Joe Peters, Senior Vice President, Investor Relations. Joe, you may begin.

Thank you, Devin. Good afternoon, everyone, and thank you for joining us today to review our results for the second quarter of fiscal 2020. On the call are Jeff Mesger, Chairman, President, and Chief Executive Officer. Matt Mandino, Executive Vice President and Chief Operating Officer. Jeff Kaminsky, Executive Vice President and Chief Financial Officer. Bill Hollinger, Senior Vice President and Chief Accounting Officer, and Thad Johnson, Senior Vice President and Treasurer. Before we begin, let me note that during this call, items will be discussed that are considered forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995. These statements are not guarantees of future results, and the company does not undertake any obligation to update them. Due to factors outside of the company's control, including those detailed in today's press release and in filings with the Securities and Exchange Commission, actual results could be materially different from those stated or implied in the forward-looking statements. In addition, a reconciliation of the non-GAAP measures referenced during today's discussion to their most directly comparable GAAP measures can be found in today's press release, and or on the investor relations page of our website at kbhome.com. And with that, I will turn the call over to Jeff Mesger.

Thank you, Jill. Good afternoon. We hope you, your families, and your colleagues are healthy and staying safe. We entered the second quarter well-positioned with a substantial backlog, expanding profitability, and poised for momentum and net order growth, in what looked to be a strong selling season. About two weeks later, a national emergency was declared for the COVID-19 pandemic, and every state in which we operate issued stay-at-home restrictions, effectively shutting down their local economies. While residential construction was deemed an essential activity and we were able to continue to construct and deliver homes in the majority of our markets, We curtailed many aspects of our business until we gained better visibility on market dynamics and the economy. These steps allowed us to effectively navigate through the disruption, and with our absorption pace now beginning to normalize, we have quickly reestablished a steady rhythm to our business in selling, starting, and delivering homes. As we emerged from the second quarter, and look to 2021 and beyond, we are a more efficient business and believe we are well positioned to restore our higher volume delivery levels. I'm proud of the entire KB Home team for their extraordinary effort and dedication to our customers and our company. In spite of the challenges we faced, our teams executed well, safely delivering 2,500 homes to our customers, which produced total revenues of $914 million and diluted earnings per share of 55 cents, representing year-over-year growth of 8%. Getting into the details of our results, our profitability increased, marking a highlight of the quarter with a 100 basis point year-over-year expansion in our housing gross profit margin, which fueled a 19% increase in our pre-tax income. We have a strong balance sheet with no goodwill and $1.4 billion in liquidity. Our leverage ratio is healthy at 41.5%, reflecting a 430 basis point improvement as compared to the prior year quarter. On a net basis, our ratio is 32.4%. Throughout these past few months, a high priority has been and remains the health and well-being of our employees, customers, and business partners, and their families. This guiding principle drove our decision to temporarily close our communities in mid-March and then move in early April to a limited reopening by appointment only, with only one customer group permitted in our sales centers, model homes, and design studios at any one time. We continue with this approach until more fully reopening in the third week of May, now accepting walk-in traffic while still restricting the number of customer groups allowed in our communities at any one time to two. This was a conservative path to follow, quickly closing our communities during three of the busiest sales weeks of the year and reopening more slowly than some other builders did. We felt We needed to take aggressive action in the interest of safety while continuing to effectively run our business. At the same time, we took steps to enhance our virtual selling and studio tools. We set up systems to allow customers to visit our communities and tour homes privately without a KB home employee present. We also created a process by which buyers could finalize their studio selections online. Once we resumed welcoming walk-in traffic in all of our communities and design studios, we continued to offer these options along with private appointments, providing flexibility in the most comfortable way for our customers to engage with us and capturing efficiency to the process. We plan to continue enhancing our virtual efforts given their success. And in fact, we recently introduced our reimagined website, with a range of new tools to make the home buying experience even easier for our customers. Given the uncertainty that we were operating under, we quickly moved to defer land acquisition and to suspend land development, as well as put a hold on starts and production to preserve cash until we had more clarity on the status of our backlog and the direction of the economy. In addition, we adjusted our headcount to appropriately align our structure with anticipated volumes, a painful but necessary step that we expect will result in approximately $40 million in annualized savings. Our cash preservation actions were successful. We increased our cash balance by $145 million sequentially, and by nearly $450 million year over year, after adjusting for a modest level of cash that was drawn on our revolver in last year's second quarter. And we accomplished this increase in a quarter where our cash outlay is typically one of the highest of the year. During the quarter, we elected not to draw on our revolver as we were confident in our ability to generate adequate cash flow to operate our business. We did invest roughly $230 million in land acquisition and development, over 70% of which was used for development and fees early in the quarter. As conditions have improved in recent weeks, we have now fully resumed land development and increased our acquisition activity once again as well. From an orders perspective, my remarks this afternoon will focus on our gross orders with a separate discussion of cancellations. We believe this will provide more clarity on the underlying demand trends in our business and that we took a proactive approach to evaluate in our backlog, which materially impacted our net order results. I'll provide more detail on this in a few moments. At the time of our last earnings call in March, our year-over-year gross orders were positive, but quickly decelerated from that point and ended up declining 4% for the month. This decline became more pronounced in April, with gross orders down about 60% year over year, representing the low point for the quarter. We were encouraged to see an acceleration in gross orders at the beginning of May, as many counties and cities in our served markets began their phased approaches to reopening. In addition to the optimism fueled by the reopenings, demand was also driven by low mortgage interest rates, limited resale inventory, and a heightened desire among consumers to both own a new home for health and safety reasons and also to relocate away from dense urban areas. This improvement in our weekly gross order trends in the first week of May continued steadily as the month progressed. In the final week of the month, gross orders were at their best levels since the second week of March. Along the way, we did not take steps that would compromise margins in order to stimulate sales, and in fact, we were able to increase prices in about 60% of our communities for the quarter overall. From a geographic standpoint, the increase in demand was broad-based across our entire footprint, and I will highlight a couple of markets. In spite of the compounding effect of depressed oil prices, Houston's weekly gross orders were healthy in May, and by the final week of the month, at their best level since August of 2019. This performance reflects our affordable price points and the ability of Houston's diverse economy to withstand volatility in the oil market. As to California, which was the first state to issue stay-at-home restrictions, its local governments began lifting these orders at varying points during May, contributing to some unevenness in demand trends market by market. We saw solid order activity in several markets as they reopened, particularly the Inland Empire, Sacramento, and the Central Valley, and also in the Bay Area. With respect to cancellations, we entered the quarter with a substantial backlog of 5,800 buyers. As counties and cities shut down and layoffs, furloughs, and wage reductions intensified, we took a proactive approach to confirming the intentions and capabilities of our customers in backlog. This reassessment process resulted in significant order cancellations. In these situations, we refunded most deposits and maintained good relationships with our customers so that they would return to us when they were able and ready to buy again. In a number of our communities, we are seeing some of these buyers coming back to purchase a home upon returning to work. The combination of lower gross orders and higher cancellations resulted in a year-over-year increase in our cancellation rate to 43% in the second quarter. The majority of cancellations were on orders already in backlog at the beginning of the quarter, primarily on homes that had not yet been started, although roughly 20% of the cancellations were on homes that were scheduled for delivery during the second quarter. Of note, our Las Vegas and Orlando divisions, two of our larger volume businesses, were hit particularly hard, reflecting their economy's dependence on travel and tourism and accounting for roughly 25% of our overall cancellations in the quarter. We are now comfortable with the stability of our backlog as our cancellation rate has returned to a more normalized level. As we move past the disruption and head into our third quarter, it now makes sense to return to evaluating our order trends on a net basis. So far in June, demand continues to accelerate and week over week net orders have further improved from May's levels. Overall, our net orders for the first three weeks of the month are modestly positive year over year, which is noteworthy given the strength in orders in June 2019. We're pleased to have ended the quarter with a backlog of nearly 5,100 orders and a value of $1.9 billion, considering the operating environment. That said, given our pause in land development, housing starts, and production during the quarter, We expect our backlog conversion in the second half of 2020 will be below historical levels as some of the deliveries that we would normally have anticipated will shift into 2021. On the mortgage side, KBHS has been a strong partner in supporting and communicating with our customers and in providing better predictability in managing through the closing process. The JV's capture rate increased in the second quarter to 76%, driving its income up about 90% year over year. This past quarter highlighted the power of the JV's technology, which enhances its ability to serve our homebuyers remotely and increases our efficiencies in delivering homes. KBHS offers a digital mortgage platform allowing customers to complete their loan application online or via the mobile app. The platform automatically verifies employment and assets, and borrowers can upload any other required documents electronically, simplifying the process and streamlining loan approval. At closing, borrowers can review all loan disclosures prior to closing and sign a majority of the documents electronically. Any documents requiring a wet signature can be signed curbside at the title company, or a remote notary can meet borrowers at their existing residence. The JV is also piloting a remote online notarization capability beginning in the third quarter for homebuyers with conventional loans in our Arizona, Florida, Nevada, and Texas divisions. This program will allow borrowers to sign all loan documents electronically. Our buyer's credit profile remains stable with an overall average FICO score of 720, which has been consistent over the past five years. Our first-time buyers, who represented 58% of our deliveries in the second quarter, a slight uptick both year-over-year and sequentially, have an average FICO score of close to 710. Turn our focus to our business model. We remain committed to built-to-order, as we view it as the right approach for our company and one that buyers value. Built-to-order offers certain advantages that we find very compelling. First, we can align our business to demand and build to our sales pace. This allows us to minimize our spec starts and cash tied up in production, thereby mitigating inventory risk and managing capital outflows, both important tools particularly as we navigated through the uncertain conditions of the past three months. Second, in working from a large backlog of sold homes, we can manage starts to achieve even flow production in our communities. This helps us to provide greater predictability on deliveries and margins with consistently higher margins on our bill-to-order sales. And finally, we're proponents of giving homebuyers choice. Consumers value personalization and a studio process, and we saw evidence of this in the second quarter with a year-over-year increase in studio revenue per home. We have long believed that our built-to-order model is one of the primary drivers behind our sustained high absorption rates over the years. In fact, during the second quarter, our gross orders of personalized homes performed better than orders on inventory homes. With built order representing roughly 75% of our business, we gained the benefits of this business model while maintaining adequate availability of homes available in each of our communities to meet the needs of buyers who want a quicker movement. In closing, while a second quarter posed numerous challenges, we emerged a stronger company as a result of the actions that we took and the efficiencies we gained, which have lowered our cost structure. Our balance sheet is strong, our backlog is stable, and our net orders are modestly positive in the first three weeks of June. While our deliveries and revenues will end the year lower than we had originally planned, we are a more efficient and profitable business than we would have otherwise been, with a gross margin that is approaching 19% for 2020 ahead of last year. We are mindful of the risk present in the economy, and that COVID-19 continues to pose, yet with our orders having normalized, we are working to restore our higher annual volume levels and intend to keep growing from there. We are encouraged as we look ahead to 2021 and the opportunity it provides. We look forward to updating you on our progress as we move through the balance of this year. With that, I'll now turn the call over to Jeff for the financial review.