KB Home

And now I would like to turn the call over to Jill Peters, Senior Vice President, Investor Relations. Thank you, Jill. You may begin.

Thank you, John. Good afternoon, everyone, and thank you for joining us today to review our results for the fourth quarter of fiscal 2023. On the call are Jeff Mezger, Chairman, President, and Chief Executive Officer, Rob McGibney, Executive Vice President and Chief Operating Officer, Jeff Kaminski, Executive Vice President and Chief Financial Officer. Bill Hollinger, Senior Vice President and Chief Accounting Officer. And Thad Johnson, Senior Vice President and Treasurer. 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 various factors, including those detailed in today's press release and in our 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 measure of adjusted housing gross profit margin, which excludes inventory-related charges, and any other non-GAAP measure referenced during today's discussion to its most directly comparable gap measure can be found in today's press release and or on the investor relations page of our website at kbhome.com. And with that, here is Jeff Mezger.

Thank you, Jill. Good afternoon, everyone, and Happy New Year. We finished the year strong with a fourth quarter performance that exceeded our guidance across our key financial metrics. We produced total revenues of $1.7 billion and diluted earnings per share of $1.85. Our outperformance on closings at just over 3,400 homes was driven primarily by our continued improvement in build times, along with a strong backlog of buyers who are committed to a timely closing when their home is completed. With respect to margins, they remain solid at just under 21% in gross and 11% in operating income margins. In addition, we returned nearly $180 million of capital to shareholders, primarily through share repurchases. These results contributed to a healthy financial performance for 2023. We delivered more than 13,200 homes, driving revenues of $6.4 billion and diluted earnings above $7 per share. Our top line? together with an operating margin exceeding 11% and the repurchase of 11% of our shares outstanding at the start of the year contributed to 15% growth in book value per share to over $50. The strength of our results is notable when considering that our initial 2023 revenue guidance was about 5.5 billion equating to roughly 11,400 deliveries given the uncertainty in market conditions at the start of the year. As our new fiscal year gets underway, market conditions are improving, with rates having declined and consumer confidence increasing, all while resale inventory remains low. We believe our company is well positioned, given shorter build times, a solid backlog, normalized cancellation rates, and planned community count growth. The same factors that characterize the market today, low inventory levels, solid employment, and wage growth, are those that we believe will sustain the longer-term health of the housing market. Demographics have been and will continue to be a significant factor with the largest generational cohorts, millennial and Gen Z, demonstrating a strong desire for homeownership. One of our most important operational achievements of this past year was a significant reduction in our build times, which favorably impacted our business in several respects. Rob will share the details in a moment, but for now, I will highlight the shorter construction times helped to drive the outperformance in our deliveries and revenue relative to our expectations. In addition, the quicker conversion of homes and production to deliveries has unlocked a meaningful amount of cash. Going forward, faster build times will boost our selling efforts as a built-to-order home with quicker delivery dates becomes even more compelling to a home buyer, and the cost to lock the interest rate on the mortgage for a shorter period of time will be lower. We begin 2024 with a healthy backlog of more than 5,500 homes valued at approximately 2.7 billion. Typically, our ending backlog represents about 40% of our subsequent year's deliveries, which aligns with our anticipated closings for this year. We expect our remaining deliveries in 24 to come from net orders in the first half of the year that will drive starts, as well as sales of inventory homes. We have nearly 7,000 homes in production of which approximately 30% are unsold. On our last earnings call in September, we shared our projection of a monthly absorption pace per community and range of net orders for our 2023 fourth quarter based on normal seasonality, assuming then current market conditions. As the quarter progressed, interest rates increased each week from late September through the end of October which over this period significantly curbed demand and impacted our net order results. We elected not to take a sales at any price approach and pursue lower margin orders in a softer demand period as we did not need additional orders to achieve our fourth quarter delivery target. And we're also well positioned for deliveries in our 2024 first quarter. As interest rates have now declined, since the end of our fiscal year, demand has improved significantly. For the first five weeks of our first quarter, our net orders are 904 as compared to 403 in the comparable period of the prior year. Our orders in December were higher than November, which is unusual given that December is typically a slower sales month. To us, this speaks to the pent-up demand for homeownership. That said, on a year-over-year basis, the comparison is somewhat distorted due to the low net orders in the prior year period. While we expect our net order comparison to moderate from the quarter-to-date level for the full quarter, we do expect it will be very favorable. We believe we are well positioned to respond to this strengthening in buyer demand given our product positioning and price points as well as planned community count growth. With that, I'll pause for a moment and ask Rob to provide an operational update. Rob.

Thank you, Jeff. I will begin by providing some additional color on our fourth quarter net order results and discuss the steps we took to help buyers address higher mortgage interest rates. Our business strategy remains consistent in optimizing each asset on a community-by-community basis, balancing pace, price, and margins. As a component of that strategy, we elected not to chase a sales target at significantly lower margins during the fourth quarter amid the rapid rise in interest rates and their impact on affordability. Mortgage rates on the average 30-year fixed loan rose approximately 60 basis points from the time of our last earnings call in September to their peak in late October. To put it in perspective, this has the same effect as a nearly 6% increase in the purchase price of a home. an impactful change that would have been costly for us to offset, particularly in a slower demand period. With our built-to-order model, we work from a large backlog, which allows us to thoughtfully execute our sales strategy without the pressure of having to cover inventory at any price to achieve our quarterly delivery plan. We worked with buyers as they adjusted to the rising rate environment during the fourth quarter and took steps to promote targeted rate-buy-down programs. roughly 60% of our orders had some form of mortgage concession associated with them, including rate locks. This is an important tool, especially for our built-to-order buyers, as we provide customers the ability to lock their rate up front. As a result, there is a higher degree of confidence, both for buyers and for us, of the likelihood of closing, even if rates continue to rise. Our lock program comes with a one-time float down option that customers can utilize if rates decline between the time of the initial lock and the close of escrow, which lessens rate-related anxiety in the buying decision. For buyers that use our rate buy down program, the cost of the lock is built into the rate. With mortgage rates retreating, the selling environment has become more favorable, and we've resumed a faster pace of sales at higher margins than we would have otherwise achieved during the fourth quarter. To position ourselves for 2024 deliveries and increase the number of homes available to close during the spring selling season, we ramped up our starts during the fourth quarter. We started 2,589 homes, ending the quarter with nearly 7,000 homes in production, of which about 70% are sold, consistent with our targeted range. Shifting now to operations, once again, our divisions did an excellent job in reducing their build times during the quarter, contributing to substantial improvement over the course of 2023. In December 2022, our construction times exceeded eight and a half months. By year end 2023, they were five and a half months. Our progress earlier in the year was primarily on the front end of the build cycle. We maintained those improvements and picked up nearly two weeks in the fourth quarter in the latter stages from drywall to final, which is the bucket that most of our deliveries came from. We expect to continue driving efficiency throughout our construction process to return to our historical build times of between four and five months. While compressing our build times, we also reduced our direct construction costs. We finished the year with an average savings of about $18,000 per home relative to peak cost in August of 2022. Although the cost of some materials, such as stucco, masonry, flooring, and concrete, pressured the cost of homes started in the fourth quarter, we experienced a reduction in lumber costs, which offset some of the cost increases. Most importantly, we were able to maintain the vast majority of our savings throughout the year. Our key operational priorities remain consistent for 2024, executing our built-to-order model and providing the combination of best price and value to our customers while continuing to deliver high satisfaction levels to our buyers. We are focused on the reduction in our build times, incremental cost reductions through value engineering, and community account growth from on-time grand openings. And with that, I will turn the call back over to Jeff.

Thanks, Rob. Switching gears to our mortgage joint venture, KBHS Home Loans, 87% of the mortgage is funded during the quarter, were financed through our JV, which is more than 10 percentage points higher year over year. This is a positive development as higher capture rates help us manage our backlog more effectively. The average cash down payment was 16%, consistent throughout the year, equating to roughly $78,000. The household income of our KBHS customers averaged $127,000, And they had an average FICO score of 741, the highest credit score reported for the past several years. Even with one half of our customers purchasing their first home, we are attracting buyers with strong credit that are able to qualify at elevated mortgage rates while making a significant down payment. We spent approximately $485 million to acquire and develop land during the quarter. contributing to a full-year investment of $1.8 billion, the majority of which was spent on developing land we already owned. In 2024, we expect to accelerate our investment activity to support our future growth while remaining diligent with respect to our underwriting criteria, product strategy, and price points. As to our lot position, it stood at roughly 56,000 lots owner-controlled at quarter end of which 40,800 are owned. About 65% of these owned lots were tied up in 2020 or prior, before the run-up in land prices. We remain focused on capital efficiency, developing lots in smaller phases, and balancing development with our start space to manage our inventory of finished lots. We believe we are well positioned, as we currently own or control essentially all the lots we need, to achieve our delivery growth targets through 2025. Our objective remains to achieve at least a top five position in each of our served markets, and all our divisions have a roadmap in place to achieve this ranking. Our ending community count was essentially flat relative to the prior year. We opened 24 new communities during the fourth quarter, achieving nearly all our planned grand openings, although many opened at the end of November which limited their contribution to net orders. That said, these new communities, along with our first quarter openings, have us well positioned for the spring selling season. We expect our ending community count to grow sequentially as the year unfolds, and we believe we will exit the year with a meaningfully higher number of open communities. Our balance sheet is in excellent shape. And we intend to continue allocating our strong operating cash flow toward reinvestment and growth and a return of capital to our shareholders in 2024. Since we began our share repurchase initiative in our 2021 third quarter, we have deployed approximately $750 million to buy back over 20% of the outstanding shares at that time at an average price of $39.79 per share. which has been significantly accretive to both our book value and diluted earnings per share. During this same timeframe, including our regularly quarterly dividends, we have returned roughly $885 million to shareholders. In closing, I want to recognize the entire KB Home team for their dedication to our buyers and their contributions to our achievements in 2023. There's another year during which we navigated changing market conditions while remaining strategic and flexible with a focus on the longer term. Our business is solidly profitable, and we remain an industry leader in third-party customer satisfaction rankings. We have a recognized brand that consumers trust and an award-winning sustainability program. We look forward to sharing our results with you as 2024 unfolds. With that, I'll now turn the call over to Jeff for the financial review.

Jeff. Thank you, Jeff, and good afternoon, everyone. I will now cover highlights of our financial performance for the 2023 fourth quarter and full year, as well as comment on our outlook for 2024. In the quarter, we produced solid results with housing revenues exceeding the high end of our guidance range and an operating income margin of nearly 11%. In addition, our robust cash flow supported significant share repurchases along with $483 million in land investment. Entering our 2024 first quarter, improving housing market conditions in our well-positioned portfolio of open selling communities have generated strong momentum with significantly higher net orders in the first five weeks compared to the corresponding year earlier period. In the 2023 fourth quarter, Our housing revenues were $1.66 billion compared to $1.93 billion in the prior year period, reflecting a 10% decrease in the number of homes delivered and a 5% decline in their overall average selling price. Though fourth quarter deliveries were down relative to our 2022 results, we achieved our third consecutive quarter of sequential cycle time improvement, which contributed to the higher than expected number of homes delivered. Looking ahead to the 2024 first quarter and the full year, we anticipate improved housing market conditions and continued favorable supply chain trends. As a result, for the first quarter, we expect to generate housing revenues in a range of $1.4 to $1.5 billion. For the 2024 full year, We are forecasting housing revenues in a range of $6.4 to $6.8 billion, supported by our backlog of sold homes, projected net orders per community, reduced construction cycle time, and expected growth in community health. In the fourth quarter, our overall average selling price of homes delivered decreased to approximately $487,000, due to both mixed shifts and the impact of pricing adjustments and other home buyer concessions, such as mortgage rate locks and buy downs. We believe our 2024 first quarter average selling price will be approximately $477,000. For the full year, we are projecting an overall average selling price in a range of $480,000 to $490,000. Home building operating income for the 2023 fourth quarter totaled $180.9 million compared to $278.2 million for the year earlier quarter. Our home building operating income margin was 10.9% compared to 14.4% in the 2022 fourth quarter. Excluding inventory related charges of approximately $1.2 million in the 2023 period versus approximately $27.9 million a year ago, our operating margin was 10.9% compared to 15.8%. We anticipate our 2024 first quarter home building operating income margin will be approximately 10.5% and the four year metric to be approximately 11%. Our 2023 fourth quarter housing gross profit margin declined 170 basis points from the year earlier quarter to 20.7%. Excluding inventory related charges, Our margin for the quarter was 20.8%, down from 23.9% in the 2022 fourth quarter, mainly due to price decreases and other home buyer concessions, along with higher construction costs. We are forecasting a housing gross profit margin for the 2024 first quarter and full year of approximately 21%. This gross margin outlook assumes the current improved market environment remains stable. If the recent favorable economic trends continue through the spring selling season and beyond, we believe there is upside to our full-year estimate as further declines in mortgage interest rates combined with the pent-up demand for housing and continued tight resale inventory conditions would provide an opportunity to reduce homebuyer concessions. Our selling general and administrative expense ratio for the 2023 fourth quarter increased 190 basis points from a year ago to 9.9%, mainly reflecting higher costs associated with certain performance-based employee compensation plans and sales commissions, as well as reduced operating leverage from lower housing revenues. We are forecasting our 2024 first quarter SG&A ratio to be approximately 10.5%, up from 10.1% in the year earlier quarter mainly reflecting higher costs, including marketing and advertising expenses, associated with the planned increase in our community count during the year as we position our operations for growth. We expect that our 2024 full-year SG&A expense ratio will be approximately 10%. Our income tax expense of $49.3 million for the fourth quarter represented an effective tax rate of approximately 25%. the rate was favorably impacted by $5.8 million of federal energy tax credits, reflecting a benefit of our industry-leading sustainability initiatives. However, these credits were lower than expected, largely due to the impact of recently issued IRS guidance that unexpectedly specified a higher energy standard for single-family homes built in California than for other states. We expect our effective tax rate for the 2024 first quarter and full year to be approximately 24%. Overall, we reported net income of $150.3 million or $1.85 per diluted share for the 2023 fourth quarter compared to $216.4 million or $2.47 per diluted share for the prior year period which were among the highest fourth quarter levels in our history. Reflecting on the full year, we're very pleased with our operational execution in 2023, in which we overcame volatile housing market conditions and stiff headwinds from rising mortgage rates to perform significantly better than our original expectations for the year. Relative to the full year guidance we provided during our 2023 first quarter earnings call in March, Our full year housing revenue of $6.37 billion exceeded the midpoint of our guidance range by over $800 million, or approximately 15%. In addition, our 11.3% operating income margin exceeded the midpoint of our guidance range by 80 basis points. Turning now to community count, our fourth quarter average was essentially flat year over year at 236, We ended the year with 242 active communities, up 5% sequentially. We expect to end the 2024 first quarter with approximately 240 communities, which would result in a year-over-year decrease in the average community count for the quarter in the low single-digit range. We expect our quarter in community count to increase sequentially through the remainder of 2024, starting in the second quarter, as openings each quarter are expected to outpace sellouts. We anticipate ending the year with approximately 270 communities, an increase of 12%, and higher compared to the expectation last quarter of 265 communities at year end. We believe our four-year average count will be up about 5%. We invested $483 million in land, land development and fees during the 2023 fourth quarter, up 9% compared to the $443 million from the year earlier period, with $136 million of the total representing new land acquisitions. We ended the quarter with a pipeline of approximately 56,000 lots owned or under contract that we expect will drive significant new community openings and community count growth in 2024, as I noted earlier. During the fourth quarter, we repurchased approximately 3.6 million shares of our common stock at a total cost of $162 million. For the year, we repurchased 9.2 million shares at an average cost of 11% below our year-end book value per share. With $164 million remaining under our current common stock repurchase authorization, we intend to continue to repurchase shares with the pace, volume, and timing based on considerations of our operating cash flow, liquidity outlook, land investment opportunities and needs, the market price of our shares, and the housing market in general economic environments. We generated nearly $1.1 billion of cash flows from operations in 2023 as compared to $183 million in 2022, which drove an increase of nearly $400 million in our year-end cash balance while also funding $411 million of stock repurchases, $150 million of debt repayments, and $57 million of dividends, which included a 33% increase in the dividend rate effective in the third quarter. At year end, we had total liquidity of $1.81 billion, including $727 million of cash and $1.08 billion available under our unsecured revolving credit facility with no cash borrowings outstanding. Regarding our financial leverage, we're very pleased with the steady progress and favorable trend over the past five years that resulted in a 19 percentage point improvement in our leverage ratio. Over the past year, our debt to capital ratio improved by 270 basis points to 30.7% at year end 2023, compared to 33.4% at the end of the previous year. We have no debt maturities until our term loans 2026 expiration with our next senior note maturity in June 2027. In conclusion, we are pleased with our strong 2023 operational and financial performance and remain optimistic about the outlook for the housing market given the favorable fundamental demographic trends, constrained inventory of resale homes available for sale, and continued underproduction of new homes. In addition, we believe our strong financial position, including our liquidity profile and long runway for debt maturities, will allow us to continue to be opportunistic with capital deployment in 2024 and beyond. In 2024, we plan to execute on the core principles of our unique built-to-order business model and returns-focused growth strategy, carefully allocating capital with a focus on enhancing long-term stockholder value. We believe we are well positioned to achieve our objectives supported by the recent decline in mortgage interest rates, our solid portfolio of communities and anticipated expanded community count, improving cycle times, and healthy net order activity during the first five weeks of the new fiscal year ahead of the spring selling season. We will now take your questions. John, please open the lines.

Thank you, sir. We will now conduct the question and answer session. If you would like to ask a question, please press star 1 on your telephone keypad. A confirmation tone will indicate that your line is in the queue. You may press star 2 to remove a question from the queue. For participants using speaker equipment, it may be necessary to pick up your handset before pressing the star keys. We ask that you please limit yourself to one question and one follow-up. Thank you. One moment, please, while we poll for questions. And the first question comes from the line of John Lavala with UBS. Please proceed with your question.

Hi, guys. Thank you for taking my questions. The first one is, you know, it appears that the sort of slight downshift in home sales revenue, the outlook from $6.5 to $7 billion to $6.4 to $6.8 billion was driven by the lower 4Q orders. So the first question is, you know, is that correct? And, you know, if that is correct, rates are down about 50 basis points from when you gave that initial guideline. So is there not enough time in the first half of the year to sort of make up the 300 to 400 home delta and sort of stay on that 6.5 to 7 billion trend?

Right, yeah, I think I can take that. So, yeah, thanks for the question. When we look at the change in the full year, it wasn't a terribly significant move. It was about 2% at the midpoint or about $150. You are right in saying it was about $70 million to pull forward into the fourth quarter. And, you know, what happened in the fourth quarter, we had higher deliveries than we expected, and the sales were a little bit lighter than what we were planning for. So our year-end backlog came down a little bit more than what we were anticipating when we provided that guide. But I would term it, John, mostly as just refinement of the full-year guide. We do believe there is upside. We're trying to forecast the year based on The improved conditions that we have today, not necessarily looking at continued improvement as we go through the year. We're very encouraged by the start of the year and the first five weeks of sales that we've seen and remain optimistic about our potential in 2024. Okay, that's helpful.

So it seems like a little bit of conservatism maybe. All right, in terms of the gross margin, it's expected to be about 21% in the first quarter and then 21% for the full year. I mean, are you expecting a relatively flat gross margin in each quarter? And if so, what would drive that consistency versus the normal kind of second half step up that we would expect?

Right. Yeah, we have a relatively steady trend in 2023, a little less variability than we normally see. It's been a pretty choppy market, as you know, so we're trying to base everything off of current sales rates and current backlog margins and what we're seeing embedded in the orders right now. Our current backlog margins are actually a little bit higher than our guide, but we always like to have a little bit of room there in case there's some contingencies relating to either quick moving units or continued need for incentives or whatever. So yeah, I would expect to see a relatively consistent gross margin profile for the year at this point in time. That said, we still have a lot of sales to make for the back half of the year and we'll have a better visibility of that as we get more into the spring selling season. to see how that variability can go on the gross margin side. But we like the favorable economic trends we're seeing. Mortgage rates coming down, solid employment, growing economy, pent-up demand for housing, the resale inventory tightness. All of those, to me, suggest opportunities to reduce concessions, which would be pretty much right to the gross margin line to the extent we're able to do that if market conditions continue to improve.

Thank you. And our next question comes from the line of Stephen Kim with Evercore ISI. Please proceed with your question.

Great. Thanks a lot, guys. A lot to like here. You know, obviously strong performance and the market helped you out, but clearly it's clear the market's helped you out here in the first five weeks, but you also executed very well. So congratulations on that. My first question relates to just the absorption rate. implied, uh, you didn't really give a, you know, obviously an order number, but certainly sounds like, uh, 2024 in terms of sales per community per month is, uh, yeah, I don't want to put words in your mouth, but it certainly seems like it's going to be, uh, based on your closings guide, uh, at least as good as what you saw in 2023 and maybe, and probably better. And so in that regard, when we look at your historical absorption rate, um, You know, in the past, you were very comfortably, you know, in the four plus range on average for the year. You know, you got as high as in the sixes, you know, in 2021. And I'm kind of curious as where you feel comfortable with where absorption rates can ultimately settle out. And the reason I'm curious about this is because if I look way back, you know, into the early 2000s, for example, your absorption rates were substantially higher, you know, like seven per month and that kind of a thing. So just curious if you could give us some commentary about where you think a sort of sustainable level for absorptions is for your company given the way it's configured today.

Steve, I can start. First, thanks for the recognition on the job we did in Q4. Over the last five or six years, we've gone through kind of a whipsaw. We came out with returns-focused growth. We were working on lifting our margins. So we capped our absorptions at four until we got our margins higher. Now our margins are higher, and we keep using the term optimize the asset. And every community is a different story, but I would expect that it's probably around five on average. As we look at 23, we were soft coming into the year, and then it picked up. Then it softened again later in the year. So we fully expect our absorptions in 24 will be higher than 23 for the year. So I would think five a month. Market runs, we could go higher than that. But it's a per community analysis. How many lots do we have left? Is it easily replaceable? How do you run it? How big is the community? I think five is probably a good number.

All right. Yeah, that's really helpful. I appreciate that. And then your commentary about the margins and the incentives and all that, you've talked about the fact that the first five weeks here have gotten off to a good start. And the way you're talking about the incentives or the concessions, it sounds like you have not really reduced those concessions yet, right? And you think you may, as you go forward, can you help us understand what it is that you think would be the trigger for reducing incentives? Would it be, in fact, absorptions, let's say, in the late 1Q, early 2Q, kind of get into that five threshold in absorptions? Or, you know, would it be something else?

Yeah. Rob, you want to take that? You can walk through what we're doing and where we're trying to get to.

Yeah. So, Steve, you're right. We haven't really done anything different than what we were doing in Q3 as far as concessions that we were offering. Obviously, you heard from the prepared remarks, we've seen a big uptick in sales. So, that is how we're going to manage it. We always talk about optimizing each asset, balancing base, price, and margin. And as we go through Q1 or into Q2 and we start to see that at a community level get above what we think is optimal for that, we're going to We're first going to reduce those incentives, take it to price. We're going to be looking to lift margins on all those communities where we're seeing that happen. And we're encouraged early by what we're seeing here in the first part of Q1. So that seems pretty realistic for us.

Thank you. And the next question comes from the line of Alan Ratner with Zellman and Associates. Please proceed with your question.

Hey, guys. Happy New Year. Good afternoon. Thanks for all the great detail as always. Yeah, my first question, you know, in a similar vein on the incentives, you know, it doesn't sound like you really got, you know, kind of played that incentive game in the fourth quarter. And I think that makes a lot of sense given your sales strategy and whatnot. But clearly other builders did, which I think is, you know, perhaps maybe why orders were a bit lighter than you were expecting coming into the quarter. Have you seen, you know, maybe more of the spec builders begin to dial back those incentives that they were offering into year end? And if so, you know, any idea kind of how much net pricing has moved year to date from some of your competitors that did play that discounting game?

Rob, you got any thoughts on that?

Yeah, I really haven't. I mean, we've seen some change in behavior. It's kind of hard to track, you know, what's going on with individual builders and they'll have, you know, certain, deal of the day, deal of the week type things. But we do expect to see incentives overall come down as we move forward just based on the uptick in demand that we've seen. We did do a little more in Q3, especially in Q4 towards the beginning to generate some additional net orders. But as rates got to that 8% kind of threshold, we saw buyers really pull back and it just didn't seem prudent to chase sales with that going on in the With that going on in the market, we continue to start homes, and we're happy as we look back on it now that that's the approach that we took because we're seeing better sales, obviously. We didn't tank the margins, and sales are really picking up.

So that's been our approach. Got it. Okay, makes sense. Maybe a little bit early, but more of the expectation into the spring that that should come down. Second question, on the margin guide, and Jeff, I appreciate kind of the commentary there. I'm just curious, you know, what your underlying assumptions are on costs because, you know, obviously lumber was a big tailwind in 23 versus 22. You kind of mentioned some of the moving pieces there. I would imagine, you know, beginning of the year is kind of typically when you start to get some price increase announcements from your trades and, you know, they're probably seeing and hearing the same things you guys are as far as lower rates. So has that emboldened the suppliers, the trades to try to, push the envelope a little bit on cost yet, or are they still kind of content at the current level? Then what's your expectation there for the year?

Yeah, first of all, on the suppliers, I mean, we haven't seen any significant change in behavior from the supply base. So, you know, it's pretty early, I'd say, on the market recovery and the mortgage rate decline to see that. You know, as we forecast margin, you know, we generally look at current pricing, current costs as we go forward. and assume current market conditions. So if things get better, you know, there's more upside. And, you know, we've just talked about concessions a little bit with the last couple questions. You know, one of the other important things on the concessions is to the extent they're tied to mortgage rates. So we're buying a rate down to X percent, for example. The lower the rates go, the less cost of that concession. So even if we were to maintain some of those incentives out there, they'd be less costly to us and less of a hit to gross margins, which is a real favorable. So at any rate, coming back to the cost side, yeah, I think it's still a little bit early on. Hopefully we won't see from some of our supply base aggressiveness on that. We did see costs come down quite nicely over the last 12 months, and to the extent those costs are baked into the backlog, those are already included in the forward guide and just assuming kind of business as usual from there.

Thank you. And our next question comes from the line of Matthew Boulay with Barclays. Please proceed with your question.

Good afternoon, everyone. Thanks for taking the questions. So, you know, you guided your ending backlog or you guided your deliveries, the ratio of ending backlog to deliveries of 40%, which you know, is very normal versus pre-COVID times, as you mentioned. It's a lot better in the past couple years, of course. So, does cycle times where they stand today kind of get you there, or would you still need some further improvement in cycle times, you know, in order to get to that number relative to where your backlog is today?

We've built the year, Matt, based on current cycle times. So, if we can continue to compress, and Rob's got a lot of plans at play to do that, it could could help us. But we have to be steady state when we're making our projections for you.

Yep, got it. Okay, thank you. And then, so I think in terms of spec, I think you said 30% of your production was unsold. Correct me if I'm wrong, but I recall in years past that may be a little higher. You might have been closer to more like 20%. Today is a little higher than normal. Can you remind us if there is any margin differential on kind of spec homes versus the bill to order and how you're thinking about any margin impact from mix of higher spec in 24?

Matt, we typically run about 25% unsold, and we're up at 30%. It's about 300 units, so it's not a crazy number. And as the year unfolds, we'll see how our orders are on on the bill to order because we like the predictability of the delivery with a predictable margin. And we just think it's a far better business. Typically, our inventory sales are running two to three percent points lower than the bill to order. So we would much rather prefer to keep running our business the way we have for the last 15 years. But there's a certain pace of starts you have to maintain in order to have your your scale and your franchise in that city with the contractor base. And we'll keep talking. We'll get all the dirt sales we can, the BTO sales. And if we have to fill in some inventory, we'll do that.

Thank you. And our next question comes from the line of Michael Rehart with JP Morgan. Please proceed with your question.

Hi, thanks. Good afternoon, and thanks for taking my questions. First, I just wanted to zero in a little bit again on the first quarter gross margin. You know, looking for a roughly flat or even, I guess, slightly up result, or I apologize, maybe roughly flattish result, you know, it's actually in a positive contrast to typically when you have you know, first quarter lower revenues, and you are expecting lower revenues sequentially, 4Q versus first, sorry, first quarter versus 4Q, you in the past have kind of pointed to some negative operating leverage, and we've seen a sequential contraction of gross margins anywhere of 100, 200 basis points at times over the last five, six, seven years. So I was wondering, you know, kind of what happened to that negative operating leverage, you know, if there had been any differences in mix or other drivers, because normally I think we would have expected some type of sequential step downs.

Right. Yeah, that's a good question, Mike. A couple of things. One, you're not seeing quite the same magnitude of change between our fourth quarter and first quarter as we have in certain years. So, you know, I think it's about, you know, a couple hundred million bucks or so at the midpoint, which isn't a tremendous impact on the leverage. But there is some, you know, there is some leverage loss there. But fundamentally, it's just offset by other factors, you know, and where we see the backlog coming through with the mix of deliveries that we expect in the first quarter that slightly higher margins that we've been tracking to. We did think we'd hit an inflection point in the fourth quarter with the low point of margin, which we have seen or we do expect, even though it's only up incrementally, still up, and hopefully we'll leave that in the rear view mirror for us. So those are really the two main factors, just a mix of business. And I think the other thing is we used to have a fairly large mix impact between fourth quarter and first quarter between West Coast and some of the other divisions that's been moderated a bit as we've been trying to rebalance the business. And frankly, some of the margins in the other regions have come up over the years quite nicely where we're just not seeing that same type impact on the first quarter.

Right. Okay, now that's helpful, Jeff. Appreciate that. I guess, secondly, on the SG&A guide, looking for it to be about flattish or, you know, maybe up 10 bps year over year. And that is, you know, against a revenue range that is flat to up 7%. So I'm just kind of curious, you know, let's, for argument's sake, and I know the midpoint is obviously maybe up 3%, 3.5%. Perhaps you're just, you know, kind of saying, relatively modest revenue growth, you know, not a lot of operating leverage. But to the extent that, you know, we were to see the higher end of that range up 7%, you know, would it be fair to assume or expect some level of modest SG&A leverage on that scenario? Or kind of are there other factors that are, you know, would kind of suppress that for fiscal 24th? Sure.

Yeah, so for starters, we always estimate the leverage impact on both the gross margin, the fixed costs included in the cost of sales, and the impact on gross margin, as well as our SG&A percentage. We always basically calculate those at the midpoint of the ranges. So as we have beats on the top line, you should be incrementally better on those two metrics, which is the case. As far as the uptick, as I mentioned in prepared remarks, we're in a different situation this year in January than we were last year. We're really facing the stiff headwinds of these mortgage rate increases. Not quite sure how the year was going to sort out. We did way better than we thought we were going to during the, let's say, February, March of last year and where the year ended up. And we had a little different approach on expenses. You know, you always get a little more, you're tighter on expenses. You're a little slower in replacing openings. Sometimes you freeze Fed count regardless of what's happening, you know, with the underlying positions. And this year we're in more of a growth-minded mindset. You know, we anticipate growth in community count. We want to grow the business and continue to take share. We're really happy with what we've seen on cycle times and our ability to take customers from order to close in a much shorter period of time. We're just in a more optimistic environment internally as we look at the market and we look at the company. If you want to grow the business, you have to invest in the business. We're putting a few more dollars into various areas in order to support that growth. I'd say at the high level, those are the drivers. When you really look at it, I mean, a lot of this, you're almost talking rounding. You know, it's 40 basis points is, you know, 6 million bucks or something at the midpoint. So it's not a huge issue. And like I was saying on the growth mindset, you know, with the community count going up, we're going to spend some money on particularly advertising and marketing. supporting those new openings. And our openings are up significantly as we plan them today. They're up about 50% over the prior year. So we have a lot of work to do and we want to support it with the right level of expense.

Thank you. And our next question comes from the line of Jay McCandless with Wedbush Securities. Please proceed with your question.

Hey, good afternoon. Thanks for taking my question. The first one I had It seems like you have more tailwinds this year between the cycle time getting better and sounds like incentives may be coming off a little bit. But could you talk about why you're not expecting any improvement in the full year gross margin for 24 versus 23?

Well, you know, like I said, we forecast it based on current costs, current conditions, and the current market. Even though it's an improved market, We didn't look forward and say, you know, let's assume a large increase or a significant increase in margins in the third and fourth quarter reflecting, for example, a reduction in concessions and customer incentives. We didn't want to take that type of an outlook into the forecast based on a relatively short period of time of improvement. We do expect that improvement to happen. We do anticipate that we'll see that improving market condition, but at this point in time, we just wanted to be a little bit cautious with making that in the future guidance numbers and leave it up to you guys. I mean, if you have more bullish outlook on the space and you're ready to make that stand right now, then you can adjust as you think appropriate, but Right now, we're forecasting based on what we're seeing in the backlog, what we're seeing in the current sales rates, the type of incentives that we need today to book our sales, and our visibility is only about 40% of the year right now with their backlog. So the spring selling season has taught us a lot. I think next quarter's call, we'll be able to dial in on a lot of these metrics more precisely and hopefully give you a little bit more detail on what's going on in the markets and hopefully talk a lot about the improvements that we're seeing continue as we get through the first quarter and the spring selling season.

My second question, could you talk about how many communities you were able to raise price in during the quarter? And as part of that, kind of a two-parter, was the price action in terms of competition from the other builders, was it as frenetic as what you saw in 22 or in the fall of 22 or was a little more well-behaved this year. Rob?

Yeah, so, you know, we didn't have as much pricing action during Q4 as what we talked about in Q3. I think we had 60, 65% of our communities with price increases. Because of mortgage rates going up the way that they did, you know, that just wasn't in the cards. The market wasn't there. We weren't, you know, as we optimize each community and asset, we weren't seeing the need to raise prices to slow down absorption. Um, you know, we, I think price increases, maybe it was about 25% of our communities, fairly small increases in the range of five or six K during the quarter. Um, you know, most of what we saw from other builders was incentive action, not necessarily price moves.

Thank you. And the next question comes from the line of Susan McCleary with Goldman Sachs. Please proceed with your question.

Thank you. Good afternoon, everyone. Thanks for squeezing in. My first question is, can you talk a bit about just the level of activity you're seeing in the design centers? Anything that's changed there as we've seen the move-in rates?

Susan, I'm not sure I heard the end of your question.

I heard you say design centers, and I didn't hear the rest of it.

Yeah, sorry. I'm on a train, and so can you hear me better now?

Yes.

Okay. Yeah, so just wondering if there was any change in sort of the trends that you were seeing in the design centers through the quarter and even into the first couple weeks of this year, just given the move-in rates.

No, they're very similar to what we saw all of last year and, frankly, the last several years. The spend in the studio has been very consistent. It's moved to more what I'll call value items. more permanent things, not necessarily finished, but room layouts and optional islands and things like that, less jacuzzis and sizzle stuff. But the spend has been very consistent.

Okay. And then I guess any thoughts just as we think about this year, priorities for uses of cash, and we talked about still having some

um availability on the buybacks in there and just how you're thinking about that relative to perhaps land spend and some of the other larger buckets as you can tell from our balance sheet system we're in a very strong position right now and um first and foremost we're always going to be growing the company and that's where our first dollars would go but what what we saw is 23 involved was a lot of uh idle cash i'll call it nice problem to have but the cash that wasn't needed to fuel our growth and position us. And we were opportunistic and bought back a lot of our stock. And we've been somewhat programmatic about it for a few years now. We intend to continue to be active. And the level will be determined based on all the factors Jeff rattled off in the prepared comments on how are we doing on land spend and how's our liquidity position? How do we look? What's the stock price? And that will influence our behavior, but we do intend to stay in the market and continue to buy stock.

And the next question comes from the line of Alex Barron with Housing Research Center. Please proceed with your question.

Thanks, guys. You know, in the last couple of years with the rising rates, a lot of builders moved more towards housing. offering spec homes, and I guess it was understandable. But now that rates are going down, are you guys seeing more demand for bill to order? Is there any way you can gauge or measure that?

Well, Alex, we always tilt heavily to bill to order, and it was certainly the case in our deliveries in the fourth quarter as well. It's kind of interesting to me that the debate rages on bill to order versus spec. If you look at our delivery cadence and our revenues, one of the values of bill to order with a backlog is consistency in your results. And if you look back over the last two to three years, our deliveries quarter after quarter after quarter are in a very narrow range. We've been 2,800 to 3,300, 3,400, no broader than that from Q1 to Q4, from 21 to 22 to 23. So it speaks to the consistency that we've been able to produce irrespective of what people say about what's a better selling approach. And we still maintain that we get better margins, we have predictability, we can align our land development with our pace of sales and start. And it's just a far better rhythm and a better way to run the business. So my expectation as you look forward into 24 We have some inventory to sell, and we always will, but we'll tilt heavily to 70% bill to order. Great.

Well, best of luck. Thank you.

And the next question comes from the line of Joe Allersmeyer with Deutsche Bank. Please proceed with your question.

Hey, thanks a lot, everybody, for the question. I'll actually just batch my questions into one here, given the time. The first one, on the percentage of your land that you own and put under control before land inflation, can you just speak to maybe the development cost inflation that may have come in after that or will continue to come in after inflation took hold in that part of the process? And then two, if you could just maybe provide a little additional detail on this California tax credit surprise.

Rob, do you want to talk to the development cost? Then Jeff can go over tax.

Sure, yeah. You know, on the development cost, the vintage of our lots, you know, we've got the majority of our lots going back to 21 or before, so our land basis is solid. We have seen development cost increase, and there's been a lot of work, whether it's new home communities being built or the government work that's going on that's spreading that trade base pretty thin, so there was some pretty significant increases, inflation, and development costs. We think that that's settled down now, but it's kind of settled at a higher baseline. Although, you know, when we combine where we are, current development costs on those communities, plus our land basis, you know, we're in really good shape for our portfolio of the communities and how that all balances out.

Okay, yeah, in relation to the tax credit, the energy credit, It was pretty specific. It was on the homes that had been built in California. Really affected the 2023 energy credit relating to those homes. It came from a little bit of clarification from the IRS in early fourth quarter where they talked about where they actually changed the standard for Energy Star specific to California to a higher standard than we see in other states. So we were assuming the national standard for all of our operations, including our California operations. But once this new guidance came out, we had to make the adjustment to the rate or to the energy credits, which kicked the rate up. I think it was actually rounded up a percent, but it was less than a percent impact on the tax rate for the year.

Thank you. And our final question will come from the line from Jade Romani with KBW. Please proceed with your question.

Thank you very much. Could you provide any regional commentary on how demand is holding up, specifically on California, and if possible, also Phoenix and the Sunbelt markets? Thanks.

Rob, do you want to take that?

sure yeah you know since the uh since we've seen rates come down really the pickup in demand has been pretty widespread across our portfolio the west california has remained strong really they've done really well don't have anybody that's a big you know concern as far as sales pace or demand out of the west coast or california um you know really across the whole portfolio texas florida The demand pickup that we've seen since rates started coming down has really influenced sales in a positive direction. So no real outliers to speak of there, and optimistic about sales here as we progress throughout Q1.

Thank you. And as a follow-up, the Sunbelt market has really high multifamily supply right now. Any concerns about competition with that going into the spring selling season?

You want me to take that, Jeff?

Yeah, go.

There are a lot of multifamily completions coming online. We're seeing the starts of those multifamily units come down. They are a competitor to some extent, but we're primarily focused on resale. That's always our biggest competitor. While resales have been down somewhat, it's created an opportunity for us for new homes, especially on personalized homes. And, you know, we have to stay connected to what's going on with rents because that's an alternative, but we don't really see that as our primary competitor. We think people, you know, they want the American dream. They want to own a home and we're trying to make those homes as affordable as we can for them to get them into a new one.

And ladies and gentlemen, this concludes today's teleconference. Thank you for your participation. You may now disconnect your lines.