The New Home Company Inc.
Q4 2019 Earnings Call Transcript

Published: 15 Feb 2020

[Operator:]

Greetings. Welcome to The New Home Company Fourth Quarter 2019 Results Conference Call. At this time, all participants are in a listen-only mode. A question-and-answer session will follow the formal presentation. [Operator Instructions] Please note that this conference is being recorded.I will now turn the conference over to your host, Drew Mackintosh, Investor Relations. Mr. Mackintosh, you may begin.

[Drew Mackintosh:]

Good morning. Welcome to The New Home Company's earnings conference call. Earlier today, the company released its financial results for the fourth quarter of 2019. Documents detailing these results are available in the Investor Relations section of the company's website at nwhm.com.Before the call begins, I'd like to remind everyone that certain statements made in the course of this call, which are not historical facts, are forward-looking statements that involve risks and uncertainties. A discussion of such risks and uncertainties and other important factors that could cause actual operating results to differ materially from those in the forward-looking statements are detailed in the company's filings made with the SEC, including in its most recent annual report on Form 10-K and in its quarterly reports on Form 10-Q. The company undertakes no duty to update these forward-looking statements that are made during the course of this call.Additionally, non-GAAP financial measures may be discussed in this conference call. Reconciliations of these non-GAAP financial measures to the most comparable measures prepared in accordance with GAAP can be accessed through The New Home Company's website and in its filings with the SEC.Hosting the call today is Larry Webb, Executive Chairman; Leonard Miller, President and Chief Executive Officer; and John Stephens, Chief Financial Officer.With that, I will now turn the call over to Larry.

[Larry Webb:]

Thanks, Drew, and good afternoon to everyone joining us on the call today. As we go over our results for the fourth quarter and full year 2019. Discuss current homebuilding market trends and provide some color on the future of The New Home Company.The fourth quarter of 2019 capped a year of retrenchment for our company, which was marked by strong cash flow generation and cost curtailments. As we made further strides towards our goal of lowering our leverage ratios, and streamlining our cost structure, all while moving our product offerings to the more affordable segment of the market. We generated $63 million of cash flow from operations in the fourth quarter through a combination of accelerated backlog conversion, strategic land sales and prudent reinvestment in our business.This brought our total cash flow from operations for the year to $121 million, a considerable sum given the size of our company. It also lowered our net debt-to-capital ratio to 49.2%, a 980 basis point reduction as compared to the end of 2018 and a 1,090 basis point improvement from the first quarter of 2019.On the cost front, we kept our SG&A expense blow 10% for the fourth quarter. Thanks to our efforts to reduce personnel expenses and employ more efficient marketing and advertising methods. Our SG&A ratio excluding severance charges for the full year came in at 11.3%, a 100 basis points lower than it was in 2018. The success we had in 2019 reducing our leverage and improving our cost structure relative to 2018 has put our company on a much more solid foundation as we begin 2020.We also entered the new year as a company rapidly transforming itself into a more diverse and affordably priced homebuilder. Average selling prices in the fourth quarter of 2019 decline 13% year-over-year. A downward trend that should continue into 2020 and beyond as we close out of our more higher price legacy communities and open more affordably priced ones.In fact, 15 of our next 18 community openings over the next 24 months will be priced below conforming loan limits and 13 we'll have base pricing below FHA limits. These communities will shift our company away from the coastal areas of California and into the more inland parts of the state as well as the very strong Phoenix market.Based upon our current projections, entry level deliveries, we'll jump 25% of closings in 2019 to just under half in 2020 then moved closer to three quarters of our closings by 2021. Based on our view of the long-term housing dynamics in our markets and the sales trends we've witnessed at the more affordable price communities, we've already rolled out. We believe this product we positioning will lead to better order activity and higher profit margins over time.Supplementing the encouraging outlook of our company is the continued favor both fundamental backdrop of our industry, which is characterized by low levels of new and existing home inventory, consumer confidence near historical highs, and then encouraging interest rate environment.Last month, the National Association of REALORS indicated that existing home inventory hit the lowest levels since they began tracking the figure in 1999. This is especially true in California. The need to replenish the housing stock of our nation is real and will not be resolved anytime soon. These macro tailwinds give us great momentum as we enter the spring selling season and have created a sense of urgency on behalf of home buyers to typically both well for our industry.We have a lot to be excited about both from an industry and company specific standpoint and I'm optimistic for what the future holds. Additionally, I'd like to note that our recent leadership transition has gone extremely smoothly.With that, I'd like to turn the call over to Leonard, who will provide more color on our operations this quarter.

[Leonard Miller:]

Thanks Larry, and good afternoon to everyone on the call. As Larry mentioned, we continue to execute on our goals of cash flow generation, cost containment and product repositioning in the fourth quarter, putting us in a much better position today than we were one year ago. Our team members did an excellent job adjusting their operational focus to meet these goals. This meant more being more aggressive on the sales front, turning through slower selling communities to converting cash and making tough decisions with respect to our headcount and our land portfolio.In some cases, these efforts came at the expense of profitability as evidenced by our weaker gross margin performance in 2019. However, now that we are in a better place strategically, financially, and structurally, we believe that we can start to make improvements to our gross margins as we move through higher price legacy assets and selectively raised prices where demand has improved. We've increased prices across a number of our communities to start 2020 and continue to see year-over-year order growth for the month of January.In terms of the overall industry dynamics, I concur with Larry that the market feels considerably better today than it was last year. We finished 2019 with five consecutive months of year-over-year order improvements, and have experienced solid traffic for the start the year. A great signed at home buyers are looking to get a head start on purchasing a home ahead of the spring. With respect to our input costs, land and labor continue to move higher in most markets, while material costs are flattened.In terms of the local market color, stronger order activity at more affordable price points has been a consistent theme in all of our markets. However, we did see some stabilization and improvement at higher price points during the fourth quarter. The coastal areas of Northern and Southern California has shown signs of life recently, but it came at the expense of pricing across the market. We continue to believe that these markets will be impacted by affordability, and in the case of Southern California, the decline of the foreign buyer segments.The demand trends are much more stable in the inland parts of the state were higher order rates have led to a reduction in incentive activity and moderate price increases. Phoenix continues to be one of the best housing markets in the country and will finally start to be a material contributor to our results with seven new communities coming online this year, five with base prices within FHA loan limits. We are excited about these community rollouts as well as our other affordable communities slated to open over the coming quarters. We believe that we have found a compelling edge for our company at lower price points in each of our markets with a continued emphasis on unique designs and desirable locations that sets ourselves apart from the competition.Now, I'd like to turn it over to John for more detail on our financial results for this quarter.

[John Stephens:]

Thank you, Leonard, and good afternoon. For the 2019 fourth quarter, we generated a $7 million pretax loss as compared to a $22.4 million pretax loss in the year ago period.The current quarter pretax loss included a $6.6 million inventory impairment charge related to one luxury condominium community in Phoenix, and a $3.5 million impairment charge related to a land development joint venture in Southern California. Including these impairments, we generated a net after-tax loss of $3 million or $0.15 per diluted share for the quarter compared to a net after-tax loss, consist of $16.2 million or $0.80 per diluted share in the prior year fourth quarter.In addition, the 2019 fourth quarter included a net $1.2 million tax benefit related to the extension of the federal energy tax credit for 2018 and 2019 deliveries. Excluding impairments, adjusted net income for the 2019 fourth quarter was $3.1 million, or $0.15 per diluted share. Our home sales revenue for the fourth quarter exceeded the high end of our quarterly guidance by 9% or $14 million coming in at $174 million due to the increase sales demand experienced during the quarter and our ability to sell and close more spec homes. 29% of our Q4 deliveries for homes sold during the quarter.The deliveries were up 7% year-over-year while our average selling price was down 13% coming in at $878,000 per delivery for the quarter. The decrease in our average selling price was consistent with our continued transition to more affordable products, including more deliveries from our Sacramento operations and in the Inland Empire of Southern California.Based on the homes in backlog and spec homes available for first quarter delivery, we are estimating first quarter home sales revenue of between $75 million and $90 million and our average selling price for the first quarter to be approximately $875,000. Our backlog conversion rate for the quarter was 97% as compared to 61% in the year ago period. The improvement of our fourth quarter backlog conversion rate was a result of a higher population of specs that completed during the quarter that we were able to sell and deliver. For the first quarter, we estimate our backlog conversion rate will return to the mid 60% range.Our net new orders for the 2019 fourth quarter were up 106% over the prior year, and up 15% sequentially from the 2019 third quarter. The year-over-year and sequential order improvement was largely driven by an 83% increase in our fourth quarter monthly sales absorption rate due to stronger homebuyer demand in California.As a result of the higher fourth quarter backlog conversion rates and lower beginning backlog to start fourth quarter, the number of homes in our backlog was down 22% from the prior year, but was an improvement from the 33% decline in backlog units at the end of the 2019 third quarter, due to stronger fourth quarter order activity. The dollar value of our backlog stood at $126 million as of the end of the year.Our gross margin for the 2019 fourth quarter including impairments was 7.8% versus 8.1% in the prior year period. The 2019 fourth quarter included a $6.6 million inventory impairment charge, related to one luxury condominium community in Scottsdale that had a slower absorption and required more incentives than originally anticipated, while the 2018 fourth quarter included $10 million in inventory impairments.Excluding impairments, our gross margins from home sales was 11.6% for the quarter versus 13.5% in the prior year period. The 190 basis point reduction in gross margin before impairments was primarily related to higher incentives and interest costs. The lower gross margins relative to our quarterly guidance was largely due to a mix shift in delivering more homes at one higher price legacy community in Southern California or higher incentives were needed to sell nearly completed spec homes.Excluding impairments and interesting cost of sales, our gross margin from home sales for the 2019 fourth quarter was 16.8% as compared to 17.7% in the year ago period. For the 2020 first quarter, we are projecting home sales gross margin of between 11.8% and 12.1%.Our SG&A rate as a percentage of home sales revenue for the fourth quarter was 9.9% flat with the prior year despite a 7% decrease in home sales revenue, and was approximately 100 basis points lower than our quarterly guidance.Our overall G&A expense for the fourth quarter was approximately $650,000 less than the prior year period due largely to lower personnel expenses, and that was after allocating about $700,000 less in G&A costs to the fee business during the 2019 four quarter as compared to the prior year period.For the 2020 first quarter, we are projecting our SG&A rate to be in the low 16% range. The higher anticipated first quarter SG&A rate is the result of lower anticipated Q1 revenues due to seasonality and timing of deliveries. As is typical, we expect our SG&A rate to drop sequentially as we move through the balance of the year and increase our revenues.Our share of joint venture activity for the 2019 fourth quarter resulted in a pretax loss of $3.8 million and included $3.5 million impairment at our Southern California land development joint venture in Corona. The balance of the loss allocated to us was largely due to the write-off of certain capitalized selling and marketing expenses at two homebuilding joint ventures in connection with the adoption of the new revenue recognition accounting standard at the joint ventures.For the 2020 first quarter, we are anticipating about a break even to a slight loss from our joint ventures. Our fee building revenue for the fourth quarter was $31 million as compared to $42 million in the year ago period. The lower fee revenue for the quarter was due primarily to less construction activity at our Irvine fee building communities.For the 2020 first quarter, we are estimating fee building revenue of between $20 million and $30 million. Our effective tax rate for the fourth quarter was a 56.9% benefited compared to a 27.8% benefit in the year ago period. The higher benefit rate for the 2019 fourth quarter was primarily due to the extension of the federal energy credits during December 2019 for homes spec closed during 2018 and 2019.We estimate an effective income tax rate including discreet items of approximately 15% for the first quarter. We ended the year with 21 active communities up slightly from the 2018 fourth quarter. We expect our first quarter 2020 ending community count to be up one community on a sequential basis. And for the full year, we plan to open approximately 12 new communities, seven of which are located in Phoenix. However, on a net basis we expect our year-end community count to remain relatively flat from where we ended 2019.As a result of the strong operating cash flow that we generated during the quarter, we ended the year with $79 million in cash after paying down the balance outstanding under our revolving credit facility and repurchasing $5 million of our senior notes due 2022. For the full year 2019, we reduced our total debt by approximately $83 million and we ended the year with a debt balance of $305 million. We spent $25 million on land during the fourth quarter and $91 million for the full year. For 2020 we are budgeting land spend of between a $100 million to $125 million.I will now turn the call back to Larry for his concluding remarks.

[Larry Webb:]

Thanks, John. In conclusion, we made great strides in the fourth quarter to improve our balance sheet, right size our cost structure, and reposition our company to take greater advantage of that healthy demand trends we've witnessed at more affordable price points in our markets. 2019 was a year of retrenchment for our company, and we look forward to reaping the benefits of these efforts in the years to come.Finally, I'd like to thank all of our team members for their hard work in 2019, to get us where we needed to be from a strategic and financial standpoint. Your ability to execute a number of fronts and continually adjust to the ever changing landscape of our industry gives me great confidence in the future of The New Home Company.I'm also proud of our recent recognition as Professional Builder magazine's 2019 Builder the Year. A great honor for our entire team.That concludes our prepared remarks and now we'll be happy to take your questions.

[Operator:]

At this time, we will be conducting a question-answer-session. [Operator instructions] Our first question is from Alan Ratner, Zelman & Associates. Please proceed with your question.

[Alan Ratner:]

So, first off congrats on the progress in the quarter I know, obviously it is a little bit of a push and pull there between the focus on cash generation, debt reduction and obviously trying to drive that margin higher. But I agree with you certainly much stronger starting point heading into 2020 then this time of year ago.My first question, on the gross margin, totally understand kind of the moving pieces there and as you try to move through some of those legacy projects, that the drag that's happening, I was curious if you might be able to frame for us, the more recent community openings that you've had targeted more at the entry level price point, how did the margins look on those verses, kind of the current company reported averages?

[Leonard Miller:]

Hey, Alan, it's Leonard. Thanks for the question and good to talk to you. All those new communities that we've opened up and really targeting lower price points, what I would say is that both the absorption rate, and the gross margin is well above the company's average on the gross margin standpoint. Specifically to your question is about 300 basis points to 400 basis points higher.

[Alan Ratner:]

Second question, I think there's a lot of mix signals coming out of California right now. Definitely, the data has improved quite a bit. We were even starting to hear a little bit of kind of anecdotal commentary that, that perhaps the foreign buyer was starting to come back a little bit as some of the Chinese trade talk rhetoric tone down a little bit.On the other hand, I know there's a lot of a concerns over the coronavirus now going on even hearing some people talking about that having a potential impact on the spring. So, I was curious if you could just talk a little bit about what you're seeing. I know that the foreign buyers in a small piece of the market in general, and I know you're kind of moving away from those coastal projects, but can you give us any insight into what the current climates like?

[Larry Webb:]

Alan, this is Larry. It's interesting because I anticipated you'd ask a coronavirus question and I feel like I'm the only person who's qualified to answer that is not a move on right now. I can tell you anecdotally, we made a strategic plan to exit in particularly, the upper end of the Orange County market a couple of years ago. And so as we sit here today are -- the majority of our communities are in South Orange County that was never very influenced by the Asian market to begin with. But on an anecdotal basis, I've been in pretty close contact with the three large landholders in Southern California. And they've all said that they're seeing an uptick in the Asian buyer. And so far at least we haven't seen any negative impact outside of the coronavirus. It just, has an impact on us because we weren't really selling to the Chinese buyer in a very significantly anyways. But I haven't heard any stories or any comments from any other builder or any master plans developers in they've seen any hit at all at this point.

[Operator:]

Our next question is from Sean Monaghan, Symphony Asset Management. Please proceed with your question.

[Sean Monaghan:]

Obviously, you've seen a lot of refinancing some of the home building space from last month and a half. I was just wondering if you guys could kind of give, any update on what you guys think about your debt levels and potential refinancing down the road?

[Leonard Miller:]

Yes, I mean, obviously, the bond high yield markets been very strong of late since the beginning of the year. And currently, many homebuilders have gone to market which has been very, very positive. We've also seen our bond sort of trade up here in the last couple months. We've got a little more than just over two years left till maturity. Obviously, it's something that we will continue to evaluate and at some point, we will look to refinance those, but we'll continue to evaluate sort of what is the price to do that relative to where, what we're trading at now and again, this is something that we have our eye on. But so there's a lot of considerations that go into that.

[Larry Webb:]

Sean, this is Larry, I think it's safe to say that a year ago, we were in a much more difficult position financially than we were today -- than we are today. But it was our primary goal to lower our leverage and John and Leonard and their team have done a really great job getting under 50% in one year, really less than one year. And it's our goal to keep improving the financial position of the company so that when the right opportunity occurs, we're going to be able to take advantage of that. But as we sit here today, we're primarily focused on maintaining our leverage at 50% or so and improving our margins.

[Operator:]

There are no further questions at this time. And I would now like to pass the call back over to Larry Webb for closing remarks.

[Larry Webb:]

Thanks a lot. Big picture the last year has not been easy. We set some pretty specific goals of reducing costs, both building materials as well as G&A. We also wanted to lower our leverage significantly. We were in the middle of a pivot towards more affordable housing and we wanted to continue that. And along the way, we wanted to never compromise on the quality of our homes, our customer service or how we treat our staff. We have gone through the last year and basically been pretty darn successful in all those areas. And we are -- we really feel like we've laid the foundation for the company now to take the extra cash that we brought into. To look for opportunities and over the next two to four years be improving everything that we do.Along the way we transitioned Leonard into being CEO, Leonard and John have done a fantastic job and I would say without a doubt, the company is in significantly better shape than it was 12 months ago. And we appreciate everything that both the bond and the equity holders have done for us with their confidence and we look forward to continuing to improve. Thank you.

[Operator:]

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