Toll Brothers, Inc.

Good morning and welcome to the Toll Brothers second quarter earnings conference call. All participants will be in listen-only mode. Should you need assistance, please signal a conference specialist by pressing the star key followed by zero. After today's presentation, there will be an opportunity to ask questions. To ask a question, you may press star then one on your telephone keypad. To withdraw your question, please press star then two. The company is planning to end the call at 9.30 when the market opens. During the Q&A, please limit yourself to one question and one follow-up. Please note, this event is being recorded. I would now like to turn the conference over to Douglas Yearley, CEO. Please go ahead.

Thank you, Drew. Welcome and thank you for joining us. With me today are Marty Connor, Chief Financial Officer, Fred Cooper, Senior VP of Finance and Investor Relations, Wendy Marlette, Chief Marketing Officer, and Greg Ziegler, Senior VP and Treasurer. Before I begin, I ask you to read the statement on forward-looking information in our earnings release of last night and on our website. I caution you that many statements on this call are forward-looking based on assumptions about the economy, world events, housing and financial markets, the impact of the pandemic, interest rates, inflation, and many other factors beyond our control that could significantly affect future results. I'm very pleased with our second quarter results as we beat our guidance on nearly every metric. We delivered 2,271 homes for record second quarter home building revenue of $1.84 billion. Our adjusted gross margin of 24.4% increased 150 basis points year over year and was 100 basis points above our guidance. SG&A as a percentage of home building revenue was 11.9%, an improvement of 190 basis points year over year and 110 basis points better than guidance. Pre-tax income of $169.8 million and EPS of $1.01 per share increased 66% and 71% respectively compared to the prior year period. Contracts and backlog in both dollars and units were all-time records. Our backlog at quarter end was valued at $8.7 billion on 10,104 units, up 58% in dollars and 57% in units compared to last year. We signed 3,487 net new contracts for $3.1 billion in the quarter. On a year-over-year basis, our net signed contracts in the second quarter were up 85% in units and 97% in dollars. As a result of our excellent results in the quarter and based on the significant visibility our backlog provides, we are raising our full-year guidance on nearly all key metrics. We are increasing our full year 2021 projected home deliveries by 100 units to 10,300 at the midpoint. And we now project return on beginning equity of 14.5% for fiscal year 2021, representing a 570 basis point improvement over 2020. Our strong order growth coupled with significant and consistent price increases sets the stage for meaningful revenue earnings margin and ROE growth in fiscal year 2022. While we are not providing formal guidance for 2022 at this point, we believe our 2022 return on beginning equity is expected to exceed 20% and that our gross margin for 2022 will significantly exceed fiscal year 2021's gross margin. Demand remains very strong. We continue to raise prices in nearly all of our communities during the second quarter and into the start of our third quarter. We also continue to strategically moderate sales paces by limiting monthly lot releases to two to four lots per community. We have steadily expanded this allocation strategy to now cover about two-thirds of our communities. up from about one-third in January 2021. For communities that are on allocation, we raise prices as we release lots to a priority list of high-interest buyers or through a competitive sealed bid process. This allows us to maximize price and therefore margins and align our sales pace to a manageable level of production. We are very pleased with the effectiveness of this strategy. For the three weeks ended May 23, non-binding reservation deposits were up 19% over the comparable period last year. The market did not dictate this 19% deposit growth. We did. We will continue to evaluate the number of communities on allocation to balance profitability and growth. We believe the housing market is positioned for sustained strength driven by the long-term supply-demand imbalance resulting from the past decade of underproduction of new homes, low interest rates, a tight resale market, favorable demographics, especially as millennials enter their home-buying years, migration from higher-cost metropolitan markets into attractive, more affordable markets enabled by the remote work trend. and the greater overall appreciation of one's home that has emerged over the past year and an improving economy. All of these tailwinds should be here for some time and sustain the strong housing market. Whole Brothers customers specifically are also benefiting from the strong stock market and rising existing home prices. Our buyers who have a home to sell are confident they can sell it quickly and at an appreciated value. We are seeing an increase in demand in markets like Boise, Reno, Vegas, Austin, Phoenix, Denver, and all of Florida from buyers who are migrating out of higher cost coastal markets. These relocating buyers are not experiencing affordability issues as we raise prices. The shift to more permanent work from home arrangements means our customers increasingly want to personalize their homes to fit their evolving lifestyles. The design choices we offer is a distinct competitive advantage. This quarter, our buyers added on average $162,000, or approximately 24% of the base price, in lot premiums, options, and upgrades. This is up from our long-term average of about 21%. These features and upgrades are generally accretive gross margin. While the strength in the housing market has been well documented, so too have cost increases for materials such as lumber and copper. To date, we have been able to more than offset these cost pressures with price increases, and our gross margin projections for this year and next reflect our confidence in our ability to continue managing costs. At corner end, we owned or optioned approximately 74,500 lots. Our strong land position provides a firm foundation for outsized growth over the next several years. And we are currently benefiting from the significant percentage of our land that was put under control at pre-pandemic prices. Notwithstanding our 85% order growth this quarter, we met our Q2 guidance of 320 communities at quarter end. And while we project community cap to drop to 310 at the end of our third quarter, Due simply to the timing of certain community sellouts and openings, we continue to project 340 communities at fiscal year end. We also reaffirm our guidance for 10% community count growth in fiscal 22, and this guidance is based solely on the land that we already control today. Our strategic expansion into new markets and products, especially the affordable luxury niche, has positioned us well for growth. We now operate in over 50 markets in 24 states with communities in both high growth and high barrier to entry markets. We offer the widest variety of homes in the industry, appealing to growing families and affluent customers with our luxury move-up homes, as well as to millennials and first-time buyers with our expanding affordable luxury business, and for baby boomers, our active adult communities. This product and market expansion has helped fuel the increase in our backlog to record levels. For example, in the 12 months ended April 30, 2021, nearly 16% of contracts were from markets where we had no presence five years ago. This is up from approximately 6% in the comparable period last year. First-time homebuyers who are primary buyers in our affordable luxury market accounted for 30% of our deliveries this quarter compared to 25% one year ago. We have also seen our active adult segment strengthen with the rollout of vaccines. Orders in our active adult segment were up 135% compared to the second quarter of last year. With our increased focus on capital efficiency, a record backlog and expanding gross margins, We are projecting ROE growth this year and next. With fiscal year 2022, ROE expected to exceed 20%. We believe this growth is sustainable due to actions we have taken in many aspects of our business. This starts with the structural and permanent changes we have made to how we acquire and develop land. As we have discussed over the past 18 months, we have totally revamped our land underwriting standards to require higher risk-adjusted returns. We have also increased the amount of land that we acquire through more capital-efficient structures like land banks, joint ventures, seller financing, and other strategies that allow us to option more land. At second quarter end, the percentage of lots that we optioned versus owned grew to 49% from 46% at the end of the first quarter and 40% one year ago. Since we have just about met our previously announced 50-50 target, we are now updating our target to 60% optioned land and 40% owned. Our focus on ROE also includes our expansion into more affordable luxury homes, which can be built more quickly and efficiently on less expensive land. We are improving ROE by returning capital to shareholders through share repurchases and dividends. Since fiscal 2016, we have bought back approximately one-third of the outstanding shares at an average price of $37.20. And in April, we increased our quarterly dividend by 55% to 17 cents per share. These actions reflect our confidence in the sustainability of our substantial cash flows moving forward. We project approximately $750 million in cash generated from operating activities this year. Our highest priority for capital allocation continues to be investment in the growth of our business, whether through disciplined land buying or strategic home builder acquisitions, followed by returning capital to shareholders and reducing our leverage. As we enter the second half of our fiscal year, which historically has been when we generate the majority of our excess cash flow, we expect to be more programmatic in our stock repurchases. We are also committed to improving the capital efficiency and earnings consistency of our city living and apartment living businesses. With respect to our city living urban condo business, we are very pleased with the renewed demand coming out of New York City. where we signed 44 contracts in our second quarter, including 27 at 77 Charlton in West Soho, up from 33 total for all of the city living business in the first quarter of 2021. Going forward, we intend to develop most of our city living buildings off balance sheet in joint ventures with project level financing. We expect this to significantly reduce the amount of capital committed to the city living business and improve return on equity. Our apartment living platform is performing very well. We recorded a $10.7 million gain on sale this quarter and expect more through the balance of the year. But we recognize that this business can also be an inconsistent contributor to earnings and thus ROE. As we have mentioned before, we are monetizing some of our land in this business through joint venture formations. And going forward, we intend to defer closing on any new land for the apartment business until third-party equity and debt capital is committed. Additionally, we are likely to increase the number of projects that we sell at stabilization versus holding longer term. These new strategies should make earnings more consistent and improve ROAs. Now let me turn it over to Marty.

Thanks, Doug. Good morning, everyone. We had a terrific quarter. Our business continues to fire on all cylinders, especially our production teams out in the field. We delivered 2,271 homes at an average price of approximately $809,000. generating record second quarter home building revenue of $1.84 billion. Deliveries were up 18% in units and 21% in dollars compared to one year ago. Our second quarter pre-tax income was $169.8 million compared to $102.1 million in the second quarter of 2020. Net income was $127.9 million, or $1.01 per share diluted, compared to $75.7 million and 59 cents per share diluted one year ago. It's important to note that our second quarter pre-tax and net income included a $34.2 million pre-tax charge, or 20 cents per share after tax, related to the early redemption of debt. Without this one-time charge, earnings per share would have been $1.21. Second quarter adjusted gross margin was 24.4% compared to 22.9% in fiscal year 2020 second quarter, and 100 basis points better than projected. The outperformance was due primarily to pricing power, higher margin option sales, favorable mix, operational efficiencies, and cost controls. Looking forward, we are now projecting adjusted gross margin for full year 2021 of 24.6%, up 30 basis points from prior guidance. Despite recent increases in material and labor costs led by lumber prices, we are confident in our adjusted gross margin projection for the second half of fiscal year 2021 and our ability to further expand it in fiscal year 2022. With new home demand far outstripping supply, we have been able to push prices, which has more than offset cost increases. We are intensely focused on our construction budgets and managing building costs. Before we build any of our homes, we have contracts in place for substantially all of our components and trades, and we develop conservative budgets that include a significant contingency on top of our contracted costs. When input costs rise and our trades request price increases, our first priority is to protect the margin of the homes in our backlog, where sales prices have already been set, and to postpone negotiating those cost increases to the next home sold. We have generally been successful with this strategy due to our strong relationships with our trades and our operating scale. I would also point out that our expansion into affordable luxury has made us a better, more efficient builder at all price points. The efficiency required to compete at lower price points has driven us to optimize the designs of our homes and adopt more streamlined construction processes. We've taken these practices and lessons learned to all of our product lines, which has made us a leaner, more efficient, production-focused builder Importantly, as we have optimized our plans and refined choice for our customers, we have improved their customer experience. In addition, we have been fine-tuning our strategy related to our spec homes. On average, 15 to 20% of our deliveries each year are built on spec. Our strategy is now to delay selling these homes until we reach at least 50% completion, allowing us to maximize the price at which we sell these homes. All of these factors give us confidence in the gross margin in our backlog and our projections for the remainder of this year and into next. Turning back to our second quarter results, as Doug mentioned, SG&A as a percentage of revenue in the quarter was 11.9% of revenues. 190 basis point improvement over the prior year period and 110 basis points better than our guidance. We attribute this primarily to leverage resulting from higher revenue, the continuing impact of the cost savings initiatives taken in 2020, reductions in advertising spend, and our relentless focus on controlling overhead. Joint venture, land sales, and other income was $21.5 million in the second quarter, compared to $16 million in the same quarter last year and our projection of $7 million. Better than expected performance here was due to the sale of an apartment building in suburban Atlanta that had been projected for our third quarter. In addition, our mortgage and title operations were more profitable than projected. Our balance sheet remains strong. We ended our second quarter with approximately $2.5 billion of liquidity, including $715 million of cash, and $1.79 billion available under our $1.9 billion revolving bank credit facility. In the second quarter, we invested approximately $430 million in land and acquisition and development. We also redeemed $250 million of our 5.58% notes due in 2024 in the quarter, which resulted in the $34 million charge I noted earlier. In total, in the first half of fiscal year 21, we retired approximately $440 million of debt and have reduced our debt to capital ratio at quarter end to 42.2% on a gross basis and 35.6% on a net basis, compared to 43.8% and 35.8% respectively at the end of the first quarter of fiscal year 2021. We continue to target a net debt to capital ratio in the high 20% range by fiscal year end. We also continue to project approximately $750 million in cash generation from operating activities in fiscal year 21. As Doug noted, we will continue to use our cash to invest in the growth of our business with excess cash returned to shareholders and used to further reduce our financial leverage, including repaying $410 million of our 5.875% public notes that are due in February 22, when they become callable at PAR in mid-November 21. As we look forward to the second half of fiscal 21, we are increasing our guidance for nearly all key metrics. We now expect full-year deliveries of between 10,200 and 10,400 units, with approximately 2,675 to be delivered in the third quarter. Our third quarter deliveries guidance reflects the slow COVID-impacted sales environment from mid-March to the end of May in 2020. We estimate an average delivered price for the full year of between $805,000 and $825,000 per home. This is up $15,000 at the midpoint compared to previous guidance. Average delivered price for the third quarter is expected to be between $820,000 and $840,000. As I mentioned earlier, we project adjusted gross margin of 24.6% for the full fiscal year, up from our previous projection of 24.3%. We expect adjusted gross margin to be approximately 24.8% in the third quarter, which implies a fourth quarter margin of 25.4%. We expect our gross margin to grow further from Q4 in fiscal year 2022. As Doug said, we have increased our projected return on beginning equity for fiscal year 21 by 570 basis points to 14.5%, and we expect it to exceed 20% in fiscal year 22. We expect full-year interest and cost of sales to be approximately 2.4%, which is also what we expect in the third quarter, versus 2.5% in fiscal 2020. Excuse me. As a result of the debt reductions I discussed earlier, we expect this interest expense to continue to decline in fiscal 2022 and beyond. We expect SG&A as a percentage of revenue to be approximately 11.8% for the full year and 11.6% in the third quarter. In addition to revenue leverage and the ongoing benefit of past cost-saving actions, we expect the benefit from lower sales commissions that we are now paying to outside brokers. We expect community accounts to be $310 at the end of our third quarter and $340 at fiscal year-end, with an additional 10% growth in community accounts by fiscal year-end 2022. Our full-year guide for other income, income from unconsolidated entities, and land sales gross margin is now $110 million for the full year, up $30 million from our prior guidance, with approximately $20 million projected for the third quarter. The increase is primarily due to greater profitability in our mortgage and title operations, along with gains we are projecting from the sale of an additional apartment living project this year. Now, let me turn the call back to Doug.