Meritage Homes Corporation

contain forward-looking statements including, but not limited to, our views regarding the health of the housing market, potential disruptions to our business from COVID-19, economic conditions and changes in interest rates, community counts and absorption, projected first quarter and full year 2021 home closings and revenue, gross margins, SG&A expenses, tax rates, and diluted earnings per share, as well as others. Those and any other projections represent the current opinions of management which are subject to change at any time and we assume no obligation to update them. Any forward-looking statements are inherently uncertain. Our actual results may be materially different than our expectations due to a wide variety of risk factors which we have identified and listed on this slide as well as in our press release and most recent filings with the Securities and Exchange Commission. specifically our 2019 Annual Report on Form 10-K and subsequent quarterly reports on Form 10-Q which contain a more detailed discussion of those risks. We've also provided a reconciliation of certain non-GAAP financial measures referred to in our press release as compared to their closest related GAAP measures. With us today to discuss our results are Steve Hilton, Executive Chairman, Phillippe Lord, CEO, and Hilla Sferruzza, Executive VP and CFO of Meritage Homes. We expect this call to last about an hour. A replay will be available on our website within approximately two hours after we conclude the call and will remain active through February 11th. I'll now turn it over to Mr. Hilton. Steve?

Thank you, Emily. I'd like to welcome everyone participating in our call today and hope that you and your families are continuing to stay safe and healthy. I'll start by giving a brief overview of our significant accomplishments in 2020 and current market trends. Phillippe will cover our strategy and quarterly performance. Hila will provide a financial overview of the quarter and 2021 guidance. Despite the gravity and impact of the pandemic that affected so many individuals across the globe, 2020 ended up being a great year for the home building industry and for Meritage in particular. We set the bar for new operational and financial records every quarter during the year, culminating in our all-time highest annual sales orders and home closings, and in turn our best average absorption pace of 5.2 per month since 2005. We also delivered our greatest annual home closing revenue and home closing gross profit, and the second strongest annual home closing gross margin in our company's history. Even beyond the balance sheet and income statement, 2020 was quite a year. We closed our 135,000th home, and as the industry leader in energy efficiency, we were the first home builder to introduce MERV 13 nationwide, the most advanced air filtration system offered today for residential construction, which controls and improves air exchange within the home. In keeping with our commitment to innovation and enhancing the customer experience, We rolled out 100% contactless selling to our customers. Our homebuyers can begin their search online, qualify for a mortgage, tour our models virtually, electronically remit their earnest deposit, sign a sales agreement, and even close on a home online if states allow it. We are driving digital enhancements to continuously improve the way customers, employees, and trade partners interact with Meritage. We'll have more to share with you on this initiative throughout 2021. We pride ourselves on our reputation as a premium home builder focused on customer satisfaction. 2020 marked the eighth straight year of award-winning recognition for Meridish, as we received various Avid Diamond, Gold, and Benchmark awards across nine separate divisions. In line with our dedication to fostering healthy communities in which we live and work, We donated over half a million dollars to our Meredith Care Foundation to nonprofits like Feeding America and AmeriCares that are focused on helping those affected by COVID-19, fighting hunger, and combating homelessness. And to promote racial equity nationwide, we donated $200,000 to En-ROADS and the United Negro College Fund and began our multi-year partnership with these organizations. Our board of directors and management are committed to drive DEI, diversity, equity, and inclusion throughout our organization and our industry. We'll have more to share on DEI in 2021 as well. And we were also one of only three public homeowners who Forbes recognized as one of America's best mid-sized companies. Our employees accomplished all these milestones in 2020 while keeping the health and safety of our fellow team members, customers, and trades front of mind during this difficult year. Thank you to everyone at Meredith for their hard work. As we turn to 2021 and beyond, we look to the favorable macroeconomic factors to provide some visibility to future demand. The housing market remains robust with low mortgage interest rates and under-survived new and existing homes for sale and advantageous demographic trends and new home ownership for the millennial and baby boom generations. The home building industry has already experienced an uptick in demand prior to COVID-19, and after a brief pause in late March and early April, 2020's unprecedented strength in the housing market was particularly focused on increased demand for healthier and safer homes at affordable price points. We anticipate these fundamentals to continue into the foreseeable future, which align well with our strategic focus on entry-level and first move-up homes. I'll now turn it over to Phillippe to discuss strategy and our quarterly performance. Phillippe?

Thank you, Steve. Since 2016, our strategy has centered around the entry-level and first move-up markets, offering customers affordable yet high-quality homes. The strength in the housing market this past year enabled us to capture pricing power, which combined with our streamlined, more efficient operating model, produced growing sales volume, higher margins, improved SG&A leverage, and our strong Q4 results. Slide five. The fourth quarter of 2020 was another record quarter for Meritage, which reflected the continued momentum of the first nine months of the year. We sold 3,170 homes, four homes this quarter, which was 52% higher than the same quarter of 2019. This represented the third highest quarterly orders only to be surpassed by Q2 and Q3 earlier this year. Home closing revenue of $1.4 billion in the current quarter increased 28% year-over-year. In the fourth quarter of 2020, we delivered our best quarterly home closing gross margin since 2006 by improving 425 to 24% from 19.8% in the prior year. 2020 lacked the normal cadence of seasonality. The housing market remained robust during a traditionally quiet time of the year. Capitalizing on the overall industry demand, as well as the expansion of our community mix towards entry-level homes, which sell at a higher pace than our first-move homes, our absorption of 5.3 per month per quarter was up 87% year-over-year, even as we increased pricing in all of our geographies in line with strong local market demand. The per-store absorption accelerated faster than total order growth, demonstrating our capacity to generate significant sales volumes once we achieve our 300 community target. Five out of the nine states had absorption increase over 100% year-over-year this quarter, despite a 19% decline in average active communities. We continue to focus on growing our spec inventory for our entry-level communities, as well as refining our offerings for the first move-up market, which has also experienced solid demand over the last two quarters. Entry-level comprised almost 70% of total orders for the quarter, up from 55% in the fourth quarter last year. Entry level represented 67% of our average active communities during the current quarter, compared to 45% a year ago. As we have hit our relative product mix goal, we expect these ratios to sustain for the near to mid-term, although mix in individual geographies is always adjusting with communities opening and closing. Our first move of communities also experienced improved demand year-over-year, with absorption 91% higher than a year ago. Slide six. All our regions reflected solid year-over-year performance in Q4. The strength in the market was driven by low interest rates, limited supply, and shifting buyer preferences for single-family, less densely populated homes. Our east region led in terms of order growth with a 76% improvement over the fourth quarter of 2019. Absorption in the east region increased 118% year-over-year for the quarter, offset by a 20% decline in August community count. 64% of our average active communities in each region sold entry-level products during the quarter. The East Region performance and products mix are now in line with the rest of the company. The shift to entry-level is nearly there, and average absorption exceeds 5 per month. Our center region, comprised of our Texas market, increased orders by 46% over the fourth quarter of 2019, despite a 20% reduction in average community count. Energy level communities represented 71% of the central region's average active communities during the fourth quarter of 2020. This region continues to see solid demand with shifting migration into the state, particularly in the tech sector, with Austin and Dallas, where we're seeing outside demand even by today's standards. Our fourth quarter 2020 orders in the west region were up 34% over the same quarter in the prior year. and many others, driven by a 65% increase in absorption and partially offset by 18% fewer average communities. Entry level communities represent 67% of the West Region's average active communities during the quarter. Colorado had our highest per store absorption in the company this quarter, with an average of 6.4 homes per month in the fourth quarter of 2020, compared to 2.5 in the prior year. This produced a 48% year-over-year growth in orders, reflecting the hard shift down the ASP price band over the last four to six quarters. Turning to slide seven, we closed 32% more homes in the fourth quarter of 2020 than prior year, and our backlog was 4,672 units at the end of the fourth quarter, reflecting the high absorption pace we achieved this quarter. Of the 3,744 home closings this quarter, 71% came from previously started spec inventory compared to 61% a year ago. At December 31, 2020, less than 10% of total specs were completed versus one-third, which is our typical run rate. We are selling more specs in early stages of production to meet the surge in demand and are focusing our production efforts on completing our backlog inventory. Our backlog conversion rate has decreased to 71% in the fourth quarter this year compared to 80% last year, reflecting the early stages of construction in our sold homes. We expect similar trends over the next couple of quarters as demand in the market absorbs our spec inventory at an accelerated pace. Spec building is the core tenant of our entry-level market focus strategy, which results in a higher spec inventory in these communities compared to first move-up communities. We try to keep a four to six month supply of specs on the ground of our entry-level products. We ended the fourth quarter of 2020 with a little over 2,000 five-liner spec homes in inventory or an average of 12.9 per community compared to approximately 3,000 or an average of 12.4 last year, reflecting the significant sales order growth during the fourth quarter. While our specs per community grew, our total spec counts did not quite achieve our goal of 3,000 as these homes converted to backlog as quickly as we started them. However, we are still focused on increasing our specs in January as we move into the spring selling season. I will now turn it over to Hilla to provide additional analysis of our financial results. Hilla?

Thank you, Phillippe. Let's turn to slide 8 and cover our Q4 financial results in a little more detail. As Philippe noted, the 28% year-over-year closing revenue growth in the fourth quarter was the net impact of 32% increase in home closings and 4% decline in ASPs. While this ASP decline reflects the shift in product mix towards affordable entry-level homes, it also includes price increases throughout 2020 in all of our geographies from strong market demand. We had our highest quarterly home closing gross revenue since 2006 this quarter, reaching 24.0%, a 420 BIP improvement from the prior year. The margin reflects our ASP increases achieved throughout the year, the additional leveraging of fixed costs from higher closing volumes, as well as operational efficiency. We have our entry-level and first move-up construction processes really dialed in today. We know all of the components of our homes intimately and continue to focus on reducing our cost of materials. Due to consistent purchasing volumes and a limited number of SKUs, we are able to negotiate lower pricing and bulk purchasing discounts from our vendors. This consistency and transparency also provides scheduling visibility to our trades and suppliers, allowing all of us to be more efficient and enabling us to attract local labor as we look to be the builder of choice for our contractors. With this clarity, we have maintained a tight control over our production and gained confidence to start our spec homes on a structured cadence. To date, we've not experienced elongated cycle times from shortages in the labor pool, but we continue to monitor this space for any changes. As we look into early 2021, we acknowledge that the rising cost of lumber and other commodities are impacting construction costs across the building sector. Although lumber inflation has retreated a bit from its highs earlier in the year, these costs still remain elevated. We've been able to mitigate the cost inflation with price increases during 2020, although this is also an area that we are watching closely. SG&A, as a percentage of home closing revenue, was 9.3% for the current quarter, which was our lowest quarterly percentage since 2007. The 80-biff improvement over prior year reflects greater leverage of fixed expenses from efficiencies and higher closing revenue and ongoing permanent cost benefits from technology enhancements, particularly relating to our sales and marketing efforts. We believe we can sustain strong margins in 2021 despite higher commodity costs, but we will incur a minimal negative impact to our SG&A leverage over the next several quarters. As expected, we will have some additional costs relating to achieving our 300 community goal prior to the incremental closings and revenue from that new business. However, we expect to improve our SG&A leverage beyond 2021 once our higher community count starts materially contributing to closings. Included in our Q4 results are $20.3 million of impairment charges on land sales. The impairments consist of two projects, one in California that is no longer in strategy for us as it is not an entry-level or first move-up product, and another in our active adult market that we are looking to wind down. We anticipate those sales will close in the first half of 2021. The fourth quarter's effective income tax rate was 21.9% in 2020 compared to 6.3% in the prior year. In 2019, the extension of the eligible energy tax credits on qualifying homes occurred in December, resulting in the beneficial impact for full year 2018 and 19 reflected in Q4 2019, generating the low tax rate. With the extension of the 45L provisions into 2021, we expect to continue receiving energy tax credits under a significant percentage of our closings into this year. Our fourth quarter diluted EPS, with $3.97, increasing 50% year-over-year compared to $2.65 in the same quarter of 2019. To highlight just a few items for the full-year 2020 results, on a year-over-year basis, we generated a 70% increase in net earnings, orders were up 43%, and closings were up 28%. We delivered $4.5 billion in full-year home closing revenues, A 310 BIP increase in home closing gross margin to 22.0% and a 90 BIP improvement in SG&A as a percentage of home closing revenue ending the year at 10.0%. The trends I just covered for Q4 were primarily in place most of 2020, translating to these record results. Moving on to slide 9. We continue to focus on strengthening our balance sheet even as we push toward our 300 community goal. We achieved several objectives this quarter. Late in the quarter, we amended our revolving credit facility to extend the maturity date to 2025, changing our revolver to a five-year maturity. We opportunistically repurchased 100,000 shares for a total of $8.8 million in advance of the routine first quarter employee share issuance in 2021. On November 13, 2020, our Board of Directors authorized an additional $100 million for share repurchases under the existing Stock Repurchase Program, and we also received two credit rating upgrades. At December 31, 2020, our cash balance was $746 million, reflecting positive cash flow from operations of $530 million despite increased land acquisition and development spend. Our net debt-to-cap reached an all-time low of 10.5%. We've previously noted that we've adjusted our maximum net debt to cap target to high 20s, low 30s range from our prior low to mid 40s range as our assets turn quicker with entry level and first move up offerings. We intend to use our excess cash on hand to aggressively pursue our community growth target while also ensuring we do not overextend our balance sheet or liquidity. On to slide 10. We already control all the land we need to achieve our 300 community goal. Our focus now is on developing the land to prepare the communities to open. We also plan to increase our spend on additional land and development in order to sustain this growth level beyond 2022. We spent $506 million on land and development this quarter, our highest spend in a single quarter in the company's history and over a 100% increase year over year. For full year 2020, we invested nearly $1.3 billion in land and development. We anticipate spending more than $1.5 billion annually in 2021 and beyond to sustain and replenish our 300 communities. In the fourth quarter of 2020, we secured a quarterly record of approximately 11,200 new lots, which translates to 69 new communities. We put nearly 29,500 gross new lots under control in 2020, a 63% increase as compared to about 18,000 lots in 2019. Adjusting for land sales and terminations, we secured approximately 27,200 net new lots in 2020, representing 192 new communities, of which approximately 81% are entry level. At year-end, with over 55,500 total lots under control, we had a 4.7-year supply of lots based on trailing 12-month closings, in line with our target of a 4-5 year supply of lots on hand. We increased our land book by 34% from December 31, 2019. We are using options or staggered purchasing terms where financially feasible, allowing us to preserve our liquidity. About 59% of our total inventory at December 31st, 2020 was owned and 41% was optioned, an improvement compared to the prior year of 63% owned and 37% optioned. We've been putting larger land positions under contract, several hundred lots at a time, to address our accelerated sales pace. Larger, higher-volume entry-level communities reduce community-level costs per lot and allow us to minimize the community count churn and the inefficiencies associated with opening and closing out of communities. For full year 2020, our new lots under control have an average community size of about 140 lots. Finally, I'll direct you to slide 11. were encouraged by the continued strength in the housing market. For full year 2021, we are projecting total closings to be between 11,500 and 12,500 units, total home closing revenue of 4.2 to 4.6 billion, home closing gross margin of 22 to 23%, an effective tax rate of about 23%, and diluted EPS in the range of 1050 to 1150. We ended 2020 with 195 active communities, down from 244 in the prior year. During the year, we opened up 105 communities, up 40% from 75 in 2019. Since we anticipate continued strong sales demand in 2021, community count will remain plus minus 200 for Q1 and Q2 as new community openings will be offset by community closings. and our projected volume of closings between 11,500 and 12,500 for the full year, we expect to end 2021 with approximately 235 to 245 communities. The community count growth will continue into Q1 and Q2 of 22 when we anticipate achieving our goal of operating 300 communities by June 2022. As for Q1 2021, We are projecting total closings to be between 26 and 2,900 units, home closing revenue of $950 million to $1.05 billion, home closing gross margin of approximately 22.5%, and diluted EPS in the range of 225 to 250. With that, I'll turn it back over to Philippe.

Thank you, Hilla. Moving on to slide 12. Our results in 2020 validate that we have a solid strategy and are executing at a high level. We are achieving strong closing revenue growth due to market strength combined with an increase in both pace and price. While we are increasing prices in all of our geographies in alignment with local market conditions, we are also optimizing sales volume. Spec building has allowed us to sell at a greater pace and capture market share while not sacrificing profit. Our efficiencies allowed us to accelerate 2020 closings into 2020, which in turn will let us redeploy the capital to fuel future growth. Our balance sheet strength reflects increases in operating cash flow and our lowest levels of net debt to capital. This in turn provides a long runway for growth as well as a safety net in the event of a market downturn. Since the start of 2019, we've accelerated investments in land acquisition and development to support and sustain future growth levels In the fourth quarter, we spent a record $506 million on land and secured approximately 11,200 new lots. We already control all the land necessary to achieve our 300 active community goal by mid-2022. Our strong land position enables us to focus on developing lots to get those communities open and to continue to replenish the land pipeline beyond 2022. To summarize on slide 13, we are entering 2021 with a heavy backlog of almost 4,700 souls homes and more than 2,500 specs completed or under construction, giving us some additional visibility in 2021. With a solid strategy, strong balance sheet, a healthy land position, and a great team that is executing high level, we are well positioned for growth. In conclusion, I would like to thank all marriage employees for their dedication and job well done in 2020, and I look forward to a great 2021. With that, I will now turn the call over to the operator for instructions on the Q&A.

Brock? Thank you. At this time, we'll be conducting a 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 your line is in the question queue. You may press star 2 if you would like to remove your question from the queue. For participants using speaker equipment, it may be necessary to pick up your handset before pressing the star keys. Our first question today is from Alan Ratner of Zellman and Associates. Please proceed with your question.

Actually, good morning. It's Ivy Zellman and congrats on a strong fourth quarter and a great 2020. Remarkable. I don't know if, Hilla, this is more directed for you and your comments around buying larger land parcels and that's something that really allowed for you guys to expand more broadly the entry-level product offering. Can you talk about what you're seeing in land prices? I know that it might be a little bit better than buying finished lots in master plan communities, but just give us an idea of what overall lot inflation looks like for 2020 and what you see for 2021.

Yeah, Ivy, this is Phillippe, I'll take that. So certainly coming out of COVID, there was a pause on buying land across the industry. So we were actually saw some softness in land prices. that quickly changed as we moved into Q3 and Q4. I think people recognized that housing was going to be strong out of COVID. And so prices started to move up, but very modestly. As we look at 2020, I would say that for the most part, they were kind of flat with the pullback and then moving forward. As we're peaking into 2021, they're certainly starting to, land prices are starting to move up and we expect that to occur. Phoenix, some of the markets in the south are really where we're seeing the highest land cost pressure. As we continue to push out, to the tertiary markets where we're focused our entry-level strategy on. We're still seeing really favorable land residual prices across the board. As we move further out by those large deals, we're still securing land at similar prices than we were before. That being said, there's more people coming out there. We're seeing increased competition. And so we're expecting those land prices to increase as we move through 2021. But I would just tell you through 2020, we didn't see a lot of pressure.

Yeah, Ivy, one last comment. I think you hit the nail on the head. The larger community size allows us to reduce the per lot cost. We're not expecting on a percentage basis for the lot cost to represent a higher percentage in 21 than it did in 20. In fact, we may be able to see it kick down a little bit because we're better able to leverage the cost over a larger number of lots in an individual community.

Very helpful guys. So given that you're out in the tertiary markets, you know, we follow the single family rental industry and, you know, there's definitely a significant expansion and capital being allocated to build for rent. And we're hearing a lot of those projects are going out in the tertiary markets. Do you see that competition today and is it to concern you that it could cannibalize buyers? How do you frame that? I know you guys aren't doing build for rent, but do you have it from a competitive perspective, any concerns?

You know, so far we haven't seen a lot of those projects materialize. I know it's early and we certainly know of a number of projects that are in queue and are coming to the market. I think they're frankly two different buyers. I think obviously as home prices continue to increase, There'll be demand for SFD for rent, which is the whole thesis behind that strategy. But I still think home ownership is still highly appealing. And we don't feel like that's a direct competition for us where we sit. And finally, I'm not seeing a ton of that pushed that far out. I think it's sort of the second ring versus the third ring, if you will. And so where we're going, I think it's still more about the for sale market versus the for rent market.

I think, Ivy, your first question probably ties into the second one. When you're buying a couple hundred lots at a time, that's probably outside of the comfort zone of the for rent guys. They're looking for something a little smaller. So maybe those tertiary markets with a larger lot count are still at this time reserved for the home builder group.

Yeah, I just think what we see in the pipeline, not this year and maybe even beyond 21, but they're pushing further out just because land costs are up so much and they're trying to hit their return hurdles. But we'll obviously watch that play out. So, Phillippe, if you had to put your crystal ball and think about the future, what keeps you up at night the most about running the business today? And that's my final question. Thanks, guys.

I think, you know, We're very focused on affordability. That's the key to our strategy. Our entire pivot, that's the light on the dashboard that we're watching the most closely. Pricing, as you all know, the pricing power in the market is significant. Even with FHA limits being increased across the board, I still think that's a governor. And once you get past that, I think you move into a different part of the market and you get less buyers that can qualify. So it's really all about affordability for us. There's a lot of cost pressure out there. So as prices continue to escalate, we're going to be very mindful of affordability and making sure that we continue to position our product in the affordable segment of the market. which in turn goes back to your question about land prices and making sure that they don't escalate too much as well. So it's all about affordability for us as we move forward. We know exactly where we need to be to meet the long-term demand for affordable product, and that's what kind of keeps me up at night.

The next question is from John Lovallo of Bank of America. Please proceed with your question.

Hey, guys. Thank you for taking my questions as well. The first one, just on the 300 communities by mid-2022, that implies 40% to 45% growth in the first half of 2022. Given the sales pace today and the closeouts that are happening, how confident are you guys in hitting this 300-ish number by June?

Yeah, we're very confident. We put this flag out there a couple quarters back, and we focused on that. The entire organization is focused on getting there. As Hilla mentioned and I mentioned, we bought the land to get there, and we'll continue to buy land to make sure we achieve that goal. So we're very, very confident, and we're going to hit it.

John, I think we talked about this last quarter, but it might be repeating. The communities that are experiencing accelerated closeouts now, they were not in the 300 community count to begin with. Maybe they're closing a quarter or two early, but these were not communities that were going to be here six quarters from now. The communities that we have our eye on for those 300 community count goals, those are still either in the pipeline or have enough loss to sustain themselves through June 2022.

Yeah. That's helpful. And maybe just following up on that, you know, having land, you know, that's obviously a very good start. Are you any concerns about having, you know, being able to procure the labor, you know, to get these communities built out on time?

The horizontal labor, I think is what you're referring to, the guys and the gals that push the tractors around and lay the pipe. No, I think if anything, the more concerns I have are around municipal approvals and that type of thing, which we've talked about. That's probably providing the biggest bottleneck for us to get out to the market. But as it relates to the trades and getting the land developed, I think we're still seeing pretty good performance. It's tighter just because of the amount of land that's under development across the board. But I think we're confident in our trade base that we'll be able to deliver. And that's not a big concern for us right now.

Okay. Thanks, guys.

Welcome. The next question is from Stephen Kim of Evercore ISI. Please proceed with your question.

Yeah, thanks very much guys. Obviously a good quarter. Just wanted to, two questions I had. One on your volumes that you're forecasting for next year. I think you gave a range of 11.5 to 12.5. Let's just deal with the high in that range because I think you guys are being pretty conservative, but Even at the high end of the range, you know, 12,500, I look back at what I think you probably started over the last six months, and it looks like you started well over 7,000 units. And then I think you also, over the six-month period. And so it would seem that 12,500 is pretty conservative in light of that, what you did over the last six months. And then you talk about the fact that cycle times really haven't elongated yet. and so I'm just kind of wondering you know what's embedded in your assumption for only getting to 12.5 is that truly a ceiling for you or is that just something that you're throwing out there based on wanting to be you know cautious and not presume too much about demand over the next six months?

Steven, I think you got all the right components of the answer in the question, which is we're not having issues on cycle times, as we've noted, and the sales pace is maintaining. We're not assuming that sales pace is going to decline. It's just the availability of lots in communities. We wanted to give the community account guidance with that midpoint. And I think as Phillippe covered, our goals are fairly static. We have the labor to get to those community count targets, but there's not a way to accelerate that. So the governor is really the availability of lots of communities, not elongated cycle times or concerns about demand.

And as Hila said earlier in the script, community count is going to be close to 200 for the first six months. So we're not going to see the community count grow to the back end of the year, which is going to be difficult to affect closings, you know, when we're in the last six months of the year, just opening these communities.

Yeah, if you look at it a different way, the way that we think about it is a lot of the closings that were forecasted probably in the analyst models for 2021, we got a big chunk of those into Q4. We pulled them up because our cycle times were shorter and we were able to get those closings into 2020. So if you kind of take the combination of the 2020-2021, you need to do a five rolling quarter. We're probably right on top of where you guys thought we would be just that came in Q4 of 2020 instead of Q1 of 2021.

Yeah, I think that's a really important point. We were just able to accelerate the closings in Q4 due to our efficiencies. So if you put Q4 back in there, you know, you get to that number.

Yeah, that's helpful. Obviously, the degree to which you can continue to surprise yourselves pleasantly is going to probably create the opportunity for upside in 21, obviously. In that regard, I wanted to talk about the margin that you reported in your 4Q. Again, real happy news here. You gave a number. By our reckoning, you were implying in your full year 2020 guide a gross margin somewhere around 22%. I assume you're going to say that some of that was a result of some things you thought would land in 1Q next year or 1Q21 that actually landed in 4Q20, but I've got to imagine maybe a little better pricing because you were selling specs, which are real-time with the market. If you can give us a little more granularity around what drove the increase in your gross margin that was in excess of what you had initially envisioned just a few months ago.

It's almost all leverage, right? We significantly exceeded our closing and revenue targets. So it's significant improvement in leverage, which is also the answer for why the guidance for Q1 of 21 drops a bit from the performance of Q4. Obviously, the guidance, the midpoint of the guidance that we gave for closings is 1,000 units less. The next question comes from Carl Reichart of BTIG. Please proceed with your question. Thanks, everyone.

I was curious about when you're looking at controlling more lots going forward on land bankers versus traditional sort of developer third party vanilla options. Are you seeing an expansion in opportunities to use land banking and are you using them? And obviously that was a big part of your strategy back in the early 2000s if I recall right. So I'm just kind of curious what you're seeing.

As we look at kind of look in the rears, most of it is through land development type of options where maybe we have stage takedowns, not that traditional off balance sheet financing that you're referring to. We're evaluating that each and every year. It's pretty expensive these days and we have a lot of cash. So we're trying to figure out the most efficient use of our capital. But certainly it's a lever that we continue to evaluate as we want to grow our business beyond the 300 and sustain that and then really maintain our balance sheet integrity going forward. So it's out there. We talk to those folks every quarter to understand where pricing is, et cetera. But we haven't deployed it just yet.

All right. Thanks, Philippe. And then the orders this particular quarter were, I think, stronger than we and a lot of other folks were looking for. And I'm interested whether or not pricing is not controlling absorption. And given that you want to try to keep your affordability at, as you stated earlier, a pretty consistent level and not get too over your skis on price, did you think about not doing phase releases to slow the order pace down? Or was it just a function of, look, demand's here. We've got the product, bird in the hand. Let's take the orders now. Because obviously the implication on the EPS guide is for a bit of potential at least for down earnings next year. So I'm just kind of curious about that thought, price versus pace this quarter, and then also just phase releases. Did you slow those down at all? Thanks.

Yeah, that's a great question. So the price and pace discussion, I think we've been echoing this. We're about both. But certainly, pace is really important. You guys saw the leverage we got out of the pace. Taking buyers out of the market today is, we believe, the right strategy when we have the product on the ground. And so we had the product on the ground and took those buyers, but not because we were compromising price. We're in some pretty good times right now where we can get and and we haven't gotten to the point where we believe we have to meter out sales. Honestly, sales are being metered out in some ways anyways. We get the lots on the ground and continue to keep the lots out in front of us. There's only so much we can do there and so that's kind of the governor.

The next question is from Adam Baumgarten of Credit Suisse. Please proceed with your question. Hey guys, good morning.

Given such low leverage that you guys are at now, Should we expect a rampant share repurchase or even kind of a renewed interest in acquisitions?

Good morning, Adam. We've mentioned in the past that we're looking to kind of keep the share count neutral. So whatever we intend to issue in employee awards annually, we try to repurchase at least that. That's our current strategy. It doesn't mean that we're not going to be opportunistic if we see dips in the stock price. Obviously, we purchased a million shares earlier. earlier this year. So we have enough cash to do both. We're not aggressively repurchasing shares above our target, but we are keeping our eye on the market for this.

And as far as the acquisition question, you know, I think Steve said this every single time. I'm going to carry the torch forward. We look at M&A all the time. We're open for business, but we have tremendous conviction in our strategy. and we're only looking at things that fit into our strategy. We feel like we can invest our capital in our existing teams and our existing markets and potentially new markets down the road and grow just as favorably organically. So we're looking and if there's something that fits, we're active around it, but we haven't found something just yet. Okay, got it.

And then just can you give us a sense for what type of like for like pricing you guys The next question comes from Michael Rehot.

of JP Morgan. Please proceed with your question.

Hi, this is Ladd Hillman on for Mike. Just following up on that, are there any regional standouts who've been able to push price more aggressively than other markets?

Well, I think it's more just about a community by community story, honestly. Some communities have more competition. We're in master plan communities where it's sort of build a row. And then other communities, we have... You know, we're sort of a standalone location infill where we feel like we have some more outside. So that's what I would tell you is sort of what we're seeing is when we don't have a ton of competition, we're able to push a little harder. And when we have a lot of competition, you know, we got to stay in line with what other builders are doing. Some of that, you know, I think Generally across the board, we're seeing pretty good appreciation as it relates to the markets that we're in, but it's more about on a community-by-community basis.

There's no place for not raising prices.

Got it. Okay. And so just following up on that, if I look at sort of the pace trends regionally, you know, the Carolinas, Colorado, Georgia seem to be particularly hot, almost the highest in the company, like six absorptions per month. and those have kind of continued but I was just curious in Arizona it seems like pace has decelerated you know from 6.5 per month last quarter to 4.8 this quarter and just any color on what's driving that slower pace is it related to price increases or mix or how you think you're comparing to the underlying market there?

Yeah that's more about just the loss on the ground and the community count inflection we've closed out of some really High selling communities in Phoenix. We're replacing them with some also really high selling communities. But it's just sort of the inflection that you're seeing. And we really haven't seen any slowdown in Phoenix yet. Although certainly we've been pushing prices aggressively there. But there's a lot of immigration going on in Phoenix and the market's really strong. So there's no slowdown in pace. It's just more from our perspective, it's an inflection of kind of community council.

The next question is from Charles Perron of Goldman Sachs. Please proceed with your question.

Hey, good morning, everyone. I'm in for Susan this morning. My first question is on the supply chain environment. We've heard of shortages across multiple building product companies, and I was wondering if you could provide some color on what you're seeing out there for you guys, but also what initiatives you're putting in place to ensure minimal impact on the home production.

Sure. I know we sound like a little bit of an outlier, but I think that's because of the strategy we put in place four years ago when we went through the rationalization of our product and everything that we were putting into our product. We partnered with our national trade vendors, our local trade vendors to understand the supply chain. And so we're not seeing a lot of issues on the labor and the supply chain, although we're certainly aware of them being out there. We're certainly aware. We talked to our other builder friends. We know what they're experiencing. But our business model has allowed us to sort of navigate that probably a little bit better. And we haven't seen that. That's why we were able to, again, close the homes we closed in Q4. Our cycle times are not getting elongated. and you see our margins, so we're maintaining a pretty good cost structure, although there's pricing power in there. What we have seen is just sort of COVID disruptions here and there. Certain plants being shut down, certain factories, sometimes crews being shut down and navigating that has been probably the trickiest part at this point. But the supply chain has been relatively stable from our perspective. And again, I think it just goes back to the alignment we have around our SKUs with our national vendors. They can pull in different product channels for us because we're not really changing a lot of what we're building and what we're putting in our homes on a quarter-by-quarter basis.

We can give them more visibility earlier on in the cycle, right? We're not waiting for the customer to be halfway through the build and make decisions in the design studio. So for us, they're able to pre-order a couple months in advance and get the supplies ready. And it's a limited number of product offerings, a limited number of SKUs. So they have a lot more visibility that it's allowed them to match pace with us.

No, thank you for the call around that. And then my follow-up is on the SG&A margin outlook. I understand you think the SG&A margin will go up this year due to ramp-up in communities, but you also think it's going to improve beyond that. I'm just wondering if there's a rule of thumb we should follow to understand how much volume changes are impacting your SG&A, but also maybe community account growth as well?

I don't know that there's a great rule of thumb to use. It's a function of how quickly we have to staff up, where are we reaching tipping points and divisions, where the additional personnel on the ground need additional supervisory employees. So I don't know that there's a mathematical relationship that you can use for a model. I would just say, as we mentioned in the script, a 10% full-year SG&A, we're really proud to have achieved that in 2020. probably going to see it go a little north of that in 2021 as we have more folks working and more payments going out the door in advance of the revenues. But once we hit 2022, I would expect to see that number decline and continue to stay at a 10, sub-10 level.

The next question is from Jade Romani of KBW. Please proceed with your question.

Thank you very much. Just a big picture question. Wondering to what degree you think the impact of this pandemic have driven any pull forward of demand. Are there any customer survey data you are capturing at your local communities or overall demographics that you believe point to the sustainability of the current demand trends that you're seeing?

Yeah, I think the way we look at it, we think the number one driver right now is interest rates. and with interest rates where they are, homeownership is more accessible than it's been before. So people are taking advantage of these and I think that's driving a lot of what's happening. The second layer for us is really the supply conditions. The retail market is relatively non-existent right now. So I think the supply, if you wanna move, there's not a lot out there and that's driving the demand dislocation with supply. and then the third would be the pandemic. And certainly I think, you know, with the pandemic consumer behavior, people are thinking about what their housing situation looks like today and what it could look like. And they're thinking about, you know, where they're homeschooling their kids and working from home and et cetera, et cetera. And that's driving some behavior as well. But at the end of the day, I think this thing can continue as long as interest rates are low. That to me is the biggest, you know, will have the biggest impact on, you know, where we're at today and where we're going.

Thanks very much. It seems that those three factors you gave are all highly correlated because the reason interest rates are so low is due to the pandemic, due to the government interventions. At least that's a significant driver. And then the reason that supply conditions are so low is no one really is moving right now because of the risk factors there. So I guess are there, as you think about the land spend targeting the community count growth, are there risk management factors that you're also considering in terms of how you would manage to any potential downstream shortfall in demand that could occur?

Yeah, I mean, we're always managing the risk of our land book in a lot of ways. You know, from the very beginning of how we're sourcing land, What the right land prices are, how we manage the development, phasing, you know, keeping as much off book as we can. I think Hilla talked a lot about where we're comfortable taking our balance sheet as well. So we're not looking to get, you know, way long on land here. We're looking to find the right amount of, you know, four to five year supply to serve our sort of targeted 300 community count goal and the units that follow. So land is the most risky thing we do in our business and we're constantly looking at keeping as much of the land off balance as possible and other types of things.

So I think we demonstrated at the end of Q1, early Q2, that we certainly have the ability to pull the brakes if there's a sharp market correction. We can slow down certain development. We can't accelerate it, but we can certainly slow it down. We can also exit out of projects, and of course we would forfeit our sunk costs, but we could certainly avoid spending additional capital. Having said that, our underwriting standards have not changed. We've not assumed price appreciation. We've not assumed accelerated sales pace. So we're built to operate at a much lower absorption pace per month. So if that occurs, that's fine. We can certainly flex up like you've seen us do for the last three quarters, but we're not assuming that this type of success will continue when we're underwriting land. So we're already built for the normalization. Thank you very much.

We appreciate your support. We appreciate all the questions

and we apologize again for the technical difficulties we had early on. We'll make sure we get that right the next time and we'll see you next quarter. Appreciate everything. Stay safe and healthy.

This concludes today's conference. You may disconnect your lines at this time. Thank you for your participation.