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D R Horton Inc
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Good morning, and welcome to the First Quarter 2022 Earnings Conference Call for D.R. Horton, America’s Builder, the largest builder in the United States.
I will now turn the call over to Jessica Hansen, Vice President of Investor Relations for D.R. Horton.
Thank you, Holly, and good morning. Welcome to our call to discuss our results for the first quarter of fiscal 2022. Before we get started, today’s call includes forward-looking statements as defined by the Private Securities Litigation Reform Act of 1995. Although D.R. Horton believes any such statements are based on reasonable assumptions, there is no assurance that actual outcomes will not be materially different.
All forward-looking statements are based upon information available to D.R. Horton on the date of this conference call and D.R. Horton does not undertake any obligation to publicly update or revise any forward-looking statements. Additional information about factors that could lead to material changes in performance is contained in D.R. Horton’s Annual Report on Form 10-K, which is filed with the Securities and Exchange Commission.
This morning’s earnings release can be found on our website at investor.drhorton.com, and we plan to file our 10-Q later today or tomorrow. After this call, we will post updated investor and supplementary data presentations to our Investor Relations site on the Presentations section under News and Events for your reference.
Now, I will turn the call over to David Auld, our President and CEO.
Thank you, Jessica, and good morning. I am pleased to also be joined on this call by Mike Murray and Paul Romanowski, our Executive Vice Presidents and Co-Chief Operating Officers; and Bill Wheat, our Executive Vice President and Chief Financial Officer. The D.R. Horton team delivered an outstanding first quarter, highlighted by a 48% increase in earnings to $3.17 per diluted share.
Our consolidated pretax income increased 45% to $1.5 billion. On a 19% increase in revenues and our consolidated pretax profit margin improved 380 basis points to 21.2%. Our homebuilding return on inventory for the trailing 12 months ended December 31 was 38.5%, and our consolidated return on equity for the same period was 32.4%.
These results reflect our experienced teams, their production capabilities and our ability to leverage D.R. Horton’s scale across our broad geographic footprint. Even with the recent rise in mortgage rates, housing market conditions remain very robust, and we are focused on maximizing returns while continuing to increase our market share.
There are still significant challenges in the supply chain, including shortages in certain building materials and a very tight labor market. We are focused on building the infrastructure and processes to support a higher level of home starts while working to stabilize and then reduce construction cycle times to our historical norms.
After starting construction on 25,500 homes this quarter, our homes and inventory increased 30% from a year ago to 54,800 homes with only 1,000 unsold completed homes across the nation. Our January home starts and net sales holders were in line with our targets, and we are well-positioned to achieve double-digit volume growth in 2022.
We believe our strong balance sheet, liquidity and low leverage position us very well to operate effectively through changing economic conditions. We plan to maintain our flexible operational and financial position by generating strong cash flows from our homebuilding operations, while managing our product offerings, incentives, home pricing, sales base and inventory levels to optimize returns. Mike?
Earnings for the first quarter of fiscal 2022 increased 48% to $3.17 per diluted share, compared to $2.14 per share in the prior year quarter. Net income for the quarter increased 44% to $1.1 billion, compared to $792 million. Our first quarter home sales revenues increased 17% to $6.7 billion on 18,396 homes closed, up from $5.7 billion on 18,739 homes closed in the prior year. Our average closing price for the quarter was $361,800, up 19% from the prior year quarter, while the average size of our homes closed was down 1%. Paul?
Our net sales orders in the first quarter increased 5% to 21,522 homes, while the value increased 29% from the prior year to $8.3 billion. A year ago, our first quarter net sales orders were up 56% due to the surge in housing demand during the first year of the pandemic when we had significantly more completed homes available to sale and prior to the significant supply chain challenges we’ve experienced since.
Our average number of active selling communities decreased 3% from the prior year quarter and was up 3% sequentially. Our average sales price on net sales orders in the first quarter was $383,600, up 22% from the prior year quarter. The cancellation rate for the first quarter was 15%, down from 18% in the prior year quarter.
New home demand remains very strong despite the recent rise in mortgage rates. Our local teams are continuing to sell homes later in the construction cycle so we can better ensure the certainty of the home close date for our homebuyers with virtually no sales occurring prior to start of home construction.
We plan to continue managing our sales pace in the same manner during the spring, and we expect our number of net sales orders in our second quarter to be equal to the same quarter in the prior year were up by no more than a low-single digit percentage. Our January home sales and net sales order volume were in line with our plans, and we are well-positioned to deliver double-digit volume growth in fiscal 2022 with 29,300 homes in backlog, 54,800 homes in inventory, a robust lot supply and strong trade and supplier relationships. Bill?
Our gross profit margin on home sales revenues in the first quarter was 27.4%, up 50 basis points sequentially from the September quarter. The increase in our gross margin from September to December reflects the broad strength of the housing market. The strong demand for homes combined with a limited supply has allowed us to continue to raise prices and maintain a very low level of sales incentives in most of our communities.
On a per square foot basis, our home sales revenues were up 3.4% sequentially while our cost of sales per square foot increased 2.9%. We expect our construction and lot costs will continue to increase. However, with the strength of today’s market conditions, we expect to offset most cost pressures with price increases in the near-term. We currently expect our home sales gross margin in the second quarter to be similar to or slightly better than the first quarter. Jessica?
In the first quarter, homebuilding SG&A expense as a percentage of revenues was 7.5%, down 40 basis points from 7.9% in the prior year quarter. Our homebuilding SG&A expense as a percentage of revenues was lower than any first quarter in our history, and we remain focused on controlling our SG&A while ensuring our infrastructure adequately supports our business. Paul?
We have increased our housing inventory in response to the strength of demand and are focused on expanding our production capabilities further. We started 25,500 homes during the quarter, up 12% from the first quarter last year, bringing our trailing 12-month starts to 94,200 homes. We ended the quarter with 54,800 homes in inventory, up 30% from a year ago. 25,600 of our total homes at December 31 were unsold, of which only 1,000 were completed.
Our average cycle or average construction cycle time for homes closed in the first quarter has increased by almost two weeks since our fourth quarter and two months from a year ago. Although, we have not seen much improvement in the supply chain yet, we are focused on working to stabilize and then reduce our construction cycle times to historical norms. Mike?
At December 31, our homebuilding lot position consisted of approximately 550,000 lots, of which 24% were owned and 76% were controlled through purchase contracts. 23% of our total owned lots are finished and at least 47% of our controlled lots are or will be finished when we purchase them.
Our growing and capital-efficient lot portfolio is a key to our strong competitive position and is supporting our efforts to increase our production volume to meet demand. Our first quarter homebuilding investments in lots, land and development totaled $2.2 billion, of which $1.2 billion was for finished lots, $570 million was for land development and $390 million was to acquire land. Paul?
Forestar, our majority-owned residential lot manufacturer, operates in 55 markets across 23 states. Forestar continues to execute extremely well and now expects to grow its lot deliveries this year to a range of 19,500 to 20,000 lots with a pretax profit margin of 13.5% to 14%. At December 31, Forestar’s owned and controlled lot position increased 33% from a year ago to 103,300 lots.
58% of Forestar’s owned lots are under contract with D.R. Horton or subject to a right of first offer based on executed purchase and sale agreements. $330,000 million of our finished lots purchased in the first quarter were from Forestar. Forestar is separately capitalized from D.R. Horton and had approximately $500 million of liquidity at quarter end with a net debt to capital ratio of 33.9%. With its current capitalization, strong lot supply and relationship with D.R. Horton, Forestar plans to continue profitably growing their business. Bill?
Financial services pretax income in the first quarter was $67.1 million with a pretax profit margin of 36.4% compared to $84.1 million and 44.9% in the prior year quarter. For the quarter, 98% of our mortgage company’s loan originations related to homes closed by our homebuilding operations, and our mortgage company handled the financing for 66% of our home buyers.
FHA and VA loans accounted for 44% of the mortgage company’s volume. Borrowers originating loans with DHI Mortgage this quarter had an average FICO score of 721 and an average loan-to-value ratio of 88%. First-time homebuyers represented 55% of the closings handled by the mortgage company this quarter. Mike?
Our rental operations generated pretax income of $70.1 million on revenues of $156.5 million in the first quarter compared to $8.6 million of pretax income on revenues of $31.8 million in the same quarter of fiscal 2021. Our rental property inventory at December 31 was $1.2 billion compared to $386 million a year ago. We sold one multifamily rental property of 350 units for $76.2 million during the quarter. There were no sales of multifamily rental properties during the prior year quarter.
We sold two single-family rental properties totaling 225 homes during the quarter for $80.3 million compared to one property sold in the prior year quarter for $31.8 million. At December 31, our rental property inventory included $519 million of multifamily rental properties and $642 million of single-family rental properties. As a reminder, our multifamily and single-family rental sales and inventories are reported in our rental segment and are not included in our homebuilding segments homes closed, revenues or inventories.
In fiscal 2022, we continue to expect our rental operations to generate more than $700 million in revenues. We also expect to grow the inventory investment in our rental platform by more than $1 billion this year based on our current projects in development and our significant pipeline of future projects. We are positioning our rental operations to be a significant contributor to our revenues, profits and returns in future years. Bill?
Our balanced capital approach focuses on being disciplined, flexible and opportunistic. During the three months ended December, our cash used in homebuilding operations was $115 million as we invested significant operating capital to increase our homes and inventory to meet the current strong demand. At December 31, we had $4.1 billion of homebuilding liquidity consisting of $2.1 billion of unrestricted homebuilding cash and $2 billion of available capacity on our homebuilding revolving credit facility.
We believe this level of homebuilding cash and liquidity is appropriate to support the scale and activity of our business and to provide flexibility to adjust to changing market conditions. Our homebuilding leverage was 17.3% at the end of December and homebuilding leverage net of cash was 6.9%. Our consolidated leverage at December 31 was 25.1%, and consolidated leverage net of cash was 15.2%.
At December 31, our stockholders’ equity was $15.7 billion and book value per share was $44.25, up 29% from a year ago. For the trailing 12 months ended December, our return on equity was 32.4% compared to 24.4% a year ago. During the quarter, we paid cash dividends of $80.1 million, and our Board has declared a quarterly dividend at the same level as last quarter to be paid in February.
We repurchased 2.7 million shares of common stock for $278.2 million during the quarter. Our remaining share repurchase authorization at December 31 was $268 million. We remain committed to returning capital to our shareholders through both dividends and share repurchases on a consistent basis and to reducing our outstanding share count each fiscal year. Jessica?
As we look forward to the second quarter of fiscal 2022, we are expecting market conditions to remain similar with strong demand from homebuyers, but continuing supply chain challenges. We expect to generate consolidated revenues in our March quarter of $7.3 billion to $7.7 billion and homes closed by our homebuilding operations to be in a range between 19,000 and 20,000 homes.
We expect our home sales gross margin in the second quarter to be approximately 27.5% and homebuilding SG&A as a percentage of revenues in the second quarter to be approximately 7.5%. We anticipate the financial services pretax profit margin in the range of 30% to 35%, and we expect our income tax rate to be approximately 24% in the second quarter. For the full fiscal year, we continue to expect to close between 90,000 and 92,000 homes, while we now expect to generate consolidated revenues of $34.5 billion to $35.5 billion.
We forecast an income tax rate for fiscal 2022 of approximately 24%, and we also continue to expect that our share repurchases will reduce our outstanding share count by approximately 2% at the end of fiscal 2022 compared to the end of fiscal 2021. We still expect to generate positive cash flow from our homebuilding operations this year after our investments in home building inventories to support double-digit growth.
We will then continue to balance our cash flow utilization priorities among increasing the investment in our rental operations, maintaining conservative homebuilding leverage and strong liquidity, paying an increased dividend and consistently repurchasing shares. David?
In closing, our results reflect our experienced teams and production capabilities, industry-leading market share, broad geographic footprint and diverse product offerings across multiple brands. Our strong balance sheet, liquidity and low leverage provide us with significant financial flexibility to capitalize on today’s robust market and to effectively operate in changing economic conditions.
We plan to maintain our disciplined approach to investing capital to enhance the long-term value of the company, which includes returning capital to our shareholders through both dividend and share repurchases on a consistent basis. Thank you to the entire D.R. Horton team for your focus and hard work. We are incredibly well positioned to continue growing and improving our operations in 2022.
This concludes our prepared remarks. We will now host questions.
Holly, can you open the line for questions, please?
Ladies and gentlemen, the floor is now open for questions. [Operator Instructions] Your first question for today is coming from John Lovallo with UBS. John, your line is live.
Good morning, everyone, and thank you for taking my questions. The first one, gross margins across the industry have risen to levels that are probably not sustainable over the longer term. I guess the question is, do you believe that this kind of mid to high 20% margin range could persist at DHI for maybe a couple of years? And then as we move forward, what has structurally changed in your opinion that would allow you to have trend margins that are maybe 100 to 200 basis points above the historical average?
Sure, John. We’re very pleased with where our gross margins have gotten through this cycle, and certainly, the strength in the market has been a large driver of that. We probably would never sit here today and say that those are sustainable at these levels through cycles. Typically, gross margin does get somewhat competed away when markets soften. That being said, we’re at extremely strong levels today and can still generate very strong returns even with some margin compression, and we’ll continue to meet the market over time.
In terms of what we believe is sustainable, though, compared to our historical averages, certainly, we’re carrying less interest in our cost of sales today. And with what we’ve done from a deleveraging and our balance sheet focus, we would expect that to be a sustainable cost advantage. And then there’s scale advantages with where we’ve gotten in terms of our volume and our building efficiencies with our labor trades and our material suppliers, we would expect some component of the scale advantages to be sustainable as well.
And John, we talked a little bit about this. Internally, we talk a lot about it. The industry is changing. It’s just a much more disciplined industry than it was through the last cycle. As we gained in market share as the other public gain in market share. There’s just less – at least in my mind, my expectation is, there’ll be less volatility at the cycle up and down. It’s just the real businesses today, not speculators.
Yes, that makes a lot of sense. Okay. And then my second question, in an environment where rates are likely to rise here, what do you view as the strategic advantages of implementing a predominantly spec-focused building model and targeting entry-level buyers, perhaps maybe versus a build-to-order model targeting better financed buyers?
First of all, John, what we would say is that we’re able to more closely time the application for the mortgage, the qualification for the mortgage and the closing of that mortgage. So the buyer is spending less time in backlog when they’re buying a house that has already started the production process that allows us to have fewer bad things happen to their potential credit profile where then they fall out of backlog and no longer qualify less interest rate risk while they’re in that cycle. And then finally, just a continued focus on affordability, I mean we’re going to continue to seek to be affordable for our homebuyers and our markets.
Got it. Thank you guys.
Thanks, John.
Your next question is coming from Stephen Kim with Evercore ISI. Stephen, your line is live.
Yes. Thanks very much, guys. I appreciate all the color here. I was particularly intrigued by your comment about the number of homes you have under construction, 56,600, I think. And I think you also mentioned that your cycle time increased about two weeks. So correct me if I’m wrong, but that would imply, I think, that your time from start to close is about 7.5 months. First of all, is that correct?
Roughly, yes.
Yes.
Yes. So if I think about your 56,600 homes and assume that you’ll – you assume basically a 7.5-month cycle time, that would imply that you should be able to close 45,280 over the next two quarters. Your guidance for the second – this next quarter is, I think, for 19,000 to 20,000 homes, so considerably less than half of that amount. And so I’m curious as to – is there anything wrong with the way I’m thinking about, how your homes on your construction should ultimately result in closings over the next two quarters, given your cycle time is 7.5 months. And if therefore, we should be thinking that there might be an acceleration in 3Q closings on that basis? Or if you – if this represents some conservatism about extending cycle times?
Thank you, Steve. I think one of the things you need to look at is how long those houses have been in production. We started a substantial number of those homes in the most recent quarter. I think we stepped up our starts from Q4 to Q1 by about 3,000 homes. So those homes are obviously going to take a little longer to deliver in the process.
And as we’re looking at the remainder of the year, the guidance we’re providing for Q2 is based on where the homes are in construction today. But yes, as we look at the full year based on when we started the homes, and we look at where our guidance is for the full year, we are a bit more back-end loaded in terms of our closings in Q3 and Q4 than historically. We are part of that is because of the elongated construction times that we have not seen improved yet, and it’s based on where our homes in construction currently set in terms of the construction cycle.
Yes. Great. That’s very helpful. My second question relates to your initiatives in the rental area, which I think is – you’ve talked about growing that inventory, and therefore, I would assume the associated revenues pretty significantly on a longer-term basis. My question is twofold: one, is there a rule of thumb that we could think what – let’s say, every $1 billion of inventory on a steady-state basis might yield in terms of a level of revenues that we could be forecasting?
And then secondly, conceptually, do you think that the demand for selling your rental properties is likely to be more resilient in the face of a rising rate environment than perhaps sales to folks who would be looking to actually move in? I know that’s your core business, but nevertheless, there is so much concern that many people have about rising rates and the impact on the entry-level buyer that I was curious as to whether you felt like there was a backstop behind that buyer for rental operators that are sort of getting in line and would love to buy the homes that you’re building for rent.
Well, I’ll start, Steve. I guess, first, we’re still growing this business and learning this business. Still a little bit early for us to be able to generalize on averages in terms of what level of revenue we might see per unit. We’re building across our entire homebuilding footprint. So every property is unique in terms of size and the product and the market in which it’s in.
So we’re individually underwriting each one relative to whether it’s better for-rent community versus a for-sale community. Obviously, we’ve been very pleased with the value that we’ve been able to generate thus far and very excited about the opportunity of growing this business and adding value over time and been very pleased with the demand that there has been for our communities thus far and the execution that we’ve seen in terms of our sales thus far.
Yes. Stephen, we see such strong demand today for this product in this low interest rate environment. And I think to your question of if we see rates tick up, do we see that shift? We like the ability to be in the market with this rental platform and be able to adjust to those shifts and market conditions. We do believe that we’re going to continue to see strong demand. Maybe not as strong as it is today with such a new category, but we feel good about our position and the number of communities we’re planning.
Sounds good. Thanks very much, guys.
Your next question is coming from Mike Rehaut with JPMorgan. Mike, your line is live.
Great. Thanks. Good morning, everyone. First question I had was on the SG&A side. You came in nicely below your prior guidance at 7.5% versus 8% before versus your 8% guidance and down 40 bps year-over-year. You’re also guiding for, I guess, 2Q guidance to be down only 10 bps year-over-year. So I was just curious around what were the sources of the significantly better-than-expected results in the first quarter, and why you don’t expect further leverage in the second quarter similar to the first?
Sure. Thanks, Mike. In the current environment where we’re seeing such significant average selling price increases. That’s certainly one driver of the SG&A leverage on the P&L. A little difficult to predict exactly where the average ASP might fall in a particular quarter. The trend over time has been upward over the last several quarters, though, and that’s certainly a contributor to it. So I would say, we’re probably a little bit conservative in projecting out the level of increases in our ASPs.
We are very actively building infrastructure to support the significant increase in scale that we have seen across our business over the last year and that we’re projecting for the rest of the coming year, and so we are anticipating significant increases in our SG&A spend to support that. And so we’re just basically balancing that versus our expectations for our closings. And with our closings expectations essentially roughly flat with last year in Q2 based on our guidance, we’re not getting the volume leverage, but we are still seeing the leverage from selling price increases.
Okay. Bill. So before I just hit on the second question, just to make sure I understand, given the expectation for the stronger revenue growth on a full year basis, it seems like it’s safe to assume maybe more than like a 10 bps SG&A leverage for the full year. If I’m thinking about that right, given you have the higher confidence, let’s say, around an ASP for the full year at least. If you could comment on that, that would be helpful.
And then secondly, just on the rental income side that was a source of upside, I believe, relative to our expectations. I believe relative to guidance as well, if I’m not mistaken. 45% of a margin, is that the right – that 45%? Just any guidance or thoughts around how to think about the remainder of the year relative to the revenue generation you continue to expect?
Okay. Well, first to wrap up the SG&A question. We’re not guiding specifically to the full year on SG&A. However, with the kind of heavier volume expected in our annual guidance in Q3 and Q4, we would expect to see more leverage on SG&A probably than 10 basis points in Q3 and Q4 versus Q2.
With respect to the rental expectations, we’ve guided annually to more than $700 million of revenue. We’ve been very pleased with the margins and the execution we’ve seen on the sales recently. The margin this quarter, obviously, was very strong. Some projects will continue to generate those margins, others could certainly be short of that. We haven’t specifically guided to the margin on that business as of yet because each project is unique.
In terms of volume in the coming quarter, we would expect Q2 volume to be relatively similar to Q1, and which we closed two single-family properties and one multifamily property. And then for the year, basically lining that out to the $700 million of revenue.
Okay. Thank you so much.
Your next question is coming from Alan Ratner with Zelman. Alan, your line is live.
Hey, good morning. Great quarter. Thanks for taking my questions. First one, I might be parsing the comments a little bit too much here, so I just want to get some clarification. I think you guys said earlier that you expect to offset most cost increases with price increases. And obviously, up to this point, it’s – based on the margin trajectory, you’ve been able to offset more than the cost increases. So I’m just curious if that’s a change in your thinking. Whether you’re going to be maybe a little bit less aggressive pushing prices as 2022 progresses? Or am I reading too much into that comment?
I just – Alan, as we continue to increase our starts for demand, I would say at some point, there’s going to be more of an equilibrium. And at that point, margins and ASPs should mitigate some – we don’t know. Again, we’re return-based absorption targets, start targets, being able to sustain a level of starts drives efficiencies through the entire process. We don’t know what the future is. We do know that we can operate within that future and maximize the results, both returns and market share gains.
And part of that thought process also, Alan, is our continued focus on affordability. And so although the market is really strong today and we continue to take price, we’re probably not out there like some other builders trying to take every last dollar of price. We’re doing what we can to meet the market and try to stay affordable in spite of rising cost conditions.
Got it. Both of that makes a lot of sense, and Jessica, your follow-on comment there was actually something I was going to ask next and that’s that your price increases, especially on the order side, have been very strong. And we’re starting to hear from some builders talking about their desire to actually bring that average price back down a little bit over the next year or two as they introduce new communities. And maybe they’re a little bit further out or maybe the floor plans are a bit smaller. So should we think about that similarly with you guys? Are you actually kind of looking at that average price and kind of your standing in the marketplace and trying to actually bring that down on at least an absolute basis going forward?
Alan, we’re always focused on affordability. And we talk entirely about a sustainable run rate in these communities and that involves not overpricing at any point in time. So – but yes, we’re looking at product. We’re looking at communities, land, how do we drive more and more efficiency into the process so that we can maintain a more affordable living cost. And then that’s – to me, that’s market scale as consistency and starts. It’s – as we continue to drive market share gains, consolidate labor, we’re in a better position to acquire land and it’s just an ongoing continuous effort to get a little bit better every day.
Makes a lot of sense. If I can sneak in one last one just on January. You and others have obviously highlighted very strong demand continue in January. I’m curious if you’ve seen any notable shifts in sentiment or activity across your price points given the uptick here in rates? Are you seeing maybe more discretionary buyers jumping in because their concerned rates are going to continue climbing, so like in your active adult business or Emerald? Or has the strength been pretty consistent with what you’ve seen prior to this move?
Alan, I don’t think we’ve seen in the last month any real discernible difference. We still have more buyers in all of our markets than we have homes available. And so we are continuing to release those homes at a later stage of construction and so meeting that demand with the inventory as it gets to that point in its construction cycle. So hard to gauge whether it’s a significant shift of any sort, and we still are seeing strong demand across all of our markets and across all demand basis.
All price points.
Perfect. All right. Thanks for the time, guys. Appreciate it.
Thanks, Alan.
Your next question is coming from Carl Reichardt with BTIG. Carl, your line is live.
Thanks. Hey, everybody. Paul, I think you are the one who said this that you’re working to stabilize and then reduce cycle times. Pragmatically, what specifically do you do to make that happen, given that builders are outsourcers effectively? And why and how do you do that better at Horton than, say, a peer would?
Carl, I think a lot of the things at Horton is just because we just work harder than other. Everybody works hard, but our people are just phenomenal problem solvers, and it’s a part of the culture, the decentralized nature. I mean they take ownership and they saw problems. What we have tried to do is guide the divisions to understand the capacity within communities and consistently start homes to meet that capacity and when they do that, the capacity increases because the people in those communities get a little better at building those houses.
And we’re seeing that in – I don’t know what the industry average is, but I got to believe we are completing homes even though it is not to our historical norm steel more rapidly than our peers out there. But it’s a consistent starts, limited product, limited options, making it easier for these traits to get in and get out, reducing the SKUs that we’re asking our suppliers to hold and, in some cases, ordering early. In some cases – I mean anything, everything that we can do to eliminate or break a bottleneck and the people in the field are doing. And I can tell you 100 stories, but I’m not going to.
Fair enough. Thanks, David. And then I wanted to ask about lot count. You’re over 550,000 under control now and the buildup spend significant, right? I mean, I think it was up 40% last year. So at some point, these lots got to come to market. So if you think about how they might, is this – you could have bigger communities going forward. You could have more communities going forward. In existing markets, you could have new markets. Can you sort of break out as you look at your lot position now sort of as you grow where those different elements fit into the long-term puzzle here, kind of bigger communities, more communities in existing markets, i.e., potentially more share or new markets? Thanks.
Yes. D, all of the above. It will be…
I said that one already, but in terms of sort of the long-term split is kind of what I’m asking.
I don’t know that we’d see a big change in our long-term split. We are continually evaluating new markets. And at the same time, the mandate is to the teams in the field, aggregate your market share. We feel that local scale drives a lot of value in the business for us and the lot supply is a key part of it. I will tell you the frustration, it takes longer – just like it has to build a house, it takes longer to get a neighborhood approved. It takes longer to get lots built today than it did a year or two years ago. And so we’re continuing to challenge that. So just like our housing supply has increased relative to our current delivery levels, our lot – controlled lot position has increased to support those lots coming on just taking longer to get into the finish line.
And our market count has continued to expand. So we’re in 102 markets today. That’s up just four markets sequentially. We continue to fill out kind of the more Midwestern Ohio Valley part of our footprint and continue to look at additional markets that would make sense to expand into as well.
Thanks, everybody.
Thank you.
Your next question is coming from Matthew Bouley with Barclays. Matthew, your line is live.
Good morning, everyone. Thank you for taking the questions. So have a question on cancellations and interest rates, just given how low cancellations are at this point. I know you do those stress tests on the backlog and have talked about sort of flexing 100 basis points increase in mortgage rates. But I guess to what degree does the speed of rates rising coupled with these extended cycle times play into all that? I mean we had a 50 basis point rise in just four weeks. You got buyers in backlog that may have to wait several months at this point. So how do we think about risk to an uptick in cancellations here? Thank you.
Well, I think as you look at those stress tests that we do, and we’ve run it again and seeing a slight uptick in it, but still nominal and the interest rate increase we’ve seen today have spurred further demand much more so than knock people out of qualification and ability to qualify.
And I think Mike mentioned earlier, but that’s also part of the key to selling homes later in the construction cycle as they’re not having to lock for longer or be worried about what an interest rate move does. So if we’re selling closer to the time of completion and home closing, there’s less risk in that regard as well.
Yes. Okay. Good. That makes sense. And then second one on the cycle times again. Maybe they improve at some point, maybe they don’t. But assuming there’s not a significant amount of new building products capacity coming online this year. Are there any structural changes you’re making to the supply chain? Even if it’s not possible in every single building material, is there anything you can do with more prefab packages? For example, I heard you say earlier, simplification of SKUs. And any of these changes you’re making today, are they structural in nature? Or is it simply adjusting to whatever the market is at any point?
I think as David mentioned before, I mean, it’s everything everywhere. We definitely empower our local business leaders to solve the bottlenecks that are unique to their market, and there are some that are broader in nature and our national purchasing team and regional purchasing teams do a great job of partnering with those manufacturers and our trade partners to give them more forward visibility to our expected demands and then help to understand how that product gets from point of manufacturer through distribution, kind of get the product that’s being earmarked for us into the distribution chain through it on to our job sites when we need it. Not always a perfect process. We would certainly like it to be faster, but it’s increased communication, simplification of product and a lot of anything we need to do market by market.
Great. Well, thank you for the color.
Thank you.
Your next question is coming from Susan Maklari with Goldman Sachs. Susan, your line is live.
Thank you. Good morning, everyone.
Good morning.
My first question is, is thinking about the potential use for more incentives in the market – given the fact that the inventory is so low, do you think that the likelihood of us seeing any real meaningful increase there is actually much more – is actually much lower than it has been in the past. Do you think that we would need to see just a lot more on the ground in order for anything to meaningfully change?
I don’t see any change in the incentives coming. It’s – I’m sure at some point, the inventory will catch up with demand. It is still significantly out of balance, especially if you’re looking at the areas where the Florida, the Texas, the Arizonas, even across the Midwest where you have job growth and influx of people. It’s – you never say never, but the difficulty of getting lots on the ground and then getting houses built is – it’s going to be very difficult to catch up with demand anytime in the next couple of years.
Okay. That’s helpful.
Susan, you touched on it with the level of inventory out there, the use of incentives. I think you’d have to see a significant increase in the level of unsold inventories, especially unsold completed inventories. And today, we’re at 1,000 unsold completed homes at the end of December, very low for us this time of the year to be carrying that few homes.
Right. Okay. Thank you for that. And then my follow-up is, thinking about the operational pressures in the industry, even if the supply chain on the material side does eventually catch up and things there normalized, do you think that we could be facing an overall tighter labor environment and construction relative to where we were before COVID? And if so, how do you think about your ability to overcome that and continue to increase the level of production that you can deliver?
It goes back to market scale and even within submarkets being able to control a labor base and keeping them busy, keeping them in the same location. I just can’t over – I can’t oversell that advantage where you’ve got a program where we’re releasing 15, 20, 30 houses every month, month after month after month after month. The aggregation of labor in those kinds of communities is – it’s very advantageous in today’s world.
And it also gives you the ability to kind of direct some of that labor through the two or three or four or five a month absorption communities. So it’s market scale. It’s – again, everything that we’ve done, simplifying the product, trying to maintain affordability and then having well-located communities with long running times, so.
Okay. That’s very helpful. Thank you. Good luck.
Thank you.
Thanks, Susan.
Your next question is coming from Eric Bosshard with Cleveland Research. Eric, your line is live.
Good morning.
Good morning.
A couple of things. First of all, the outlook on costs, if you could just provide some clarity on where that goes and especially, trying to figure out the movement in lumber, how that is flowing through? Where were trough lumber and where the lumber impact goes going forward, especially on the cost side?
Sure. So I’ll start with lumber and then somebody else can chime in on the rest of our cost structure. Lumber costs have remained really volatile as I know you’re aware. We have had some opportunities to purchase at costs that were well below the peaks we saw, I guess, last spring and into the summer.
However, those reductions in prices lasted a shorter period of time than we really expected and really probably hoped and lumber has been on the rise again for the last few months. So there’s been other supply chain delays that also caused the volatility in lumber prices. We do hope that we’ll see a mix that leans towards slightly lower costs in Q2, which is baked into our Q2 gross margin guide for flat to slightly up gross margins, but then we do expect our lumber cost to trend back up in our closing starting in Q3. And other costs?
It’s kind of a mixed bag, but we would generally be seeing slight cost pressures in most places and so that’s been offset by price increases, I think. Some of the lumber relief we should see in Q2, early Q3, will help with some of that as well, but as Jessica mentioned, lumber prices have gone back up, and so those will be flowing through closings later this fiscal year.
And really with home prices continue to increase, I mean, generally, all costs typically follow. And so we really wouldn’t expect to see much in the way of cost relief until you see some sort of slowdown in home price appreciation.
Okay. And then secondly, it seems like just a math equation, but I know there’s more to it than that. But the incremental – the modest increase in the revenue guide for the year with the same deliveries, it appears that it’s just looking at price and extrapolating that out, but what else were the considerations and taking a bit more optimistic position on the full year revenue growth, especially in front of the selling season?
Yes, Eric, it really is just an extrapolation of where we see prices now. We’ve got a few more months of visibility into our selling prices and where our closing prices moved up to in Q1 and what our visibility is going into Q2 that we feel like the sales prices that are baked in and that we have visibility to that justified increasing, a pretty nice increase in our annual revenue guide.
But obviously, with the continued challenges on the supply chain, construction cycle times elongating, we didn’t really feel like we had any more room on the volume side as of yet. So it’s really solely priced, and we feel good about that guidance for the year.
Okay. That makes sense. Thank you.
Your next question is coming from Rafe Jadrosich with Bank of America. Rafe, your line is live.
Hi, it’s Rafe. Good morning. Thanks for taking my question.
Good morning.
I wanted to just start on the rental business. Can you talk a little bit about the returns you’re targeting in the rental business? And how that could compare to homebuilding longer-term? And then will you be targeting different markets in the rental business compared to the homebuilding segment?
So Rafe, what we’re seeing is we’re growing that business pretty aggressively, and we’ve been very pleased with actually the returns that, that business is produced on a trailing 12-month basis. The profits that segments generated relative to its inventory investment have been about 20% and that’s in a heavy growth ramp.
So we would expect to see that continue to increase, especially when we get to have more of the projects delivering on a more consistent basis. And I would say that the markets we seek to serve with that, it’s going to line up very well with our homebuilding for sale footprint as well. We’ve seen a lot of markets accept the product very well, and the investor base very excited about those projects as well.
And then on – in terms of the pace of your home starts, obviously, the average ticked up a lot in the first quarter compared to the fourth quarter, I think about $1,000 a month. What’s allowing you to increase that pace sequentially? And then how should we think about that going forward?
Yes. I think that that’s in line with our plans and what we have set forth across all of our divisions and communities. We target an absorption pace per community plan well ahead to make sure that we have those permits in hand and lots in front of us. It’s not easier today to put lots on the ground any more than it is easier to build a home, but we have incredible operators in the field who stay ahead of this and it’s allowed us to continually sequentially quarter-over-quarter increase our start pace and that’s a cadence that we hope to continue. The real key to our ability to do that is our lot position, having that long lot position controlled and strong supplier relationships on will and the developer side puts our operators and positions to continue to start and increase our start base.
Great. Thank you.
Your next question for today is coming from Mike Dahl with RBC Capital Markets. Mike, your line is live.
Good morning. Thanks for taking my questions. Just a couple of follow-ups here, and maybe first one ties into the last one a little bit, but the order guidance for your fiscal 2Q being flat to low-single digits. It seems like you’ve been pretty successful getting some inventory rebuild both sequentially and year-on-year. Your comps get a little easier in 2Q versus 1Q. So can you just talk about the moving pieces on that order guide? And why there can be some upside there?
I think we’re still seeing a restriction on sales relative to where the inventory is getting to in production. So we’re still waiting to sell the homes closer to the delivery date, and so that’s kind of what’s really the real driver is on our sales expectation. Our comp is still up against a 35% increase last year in the second quarter. It does certainly get to be a much easier comp in Q3 and Q4 this year from a sales perspective.
Got it. Okay. And my second question, I wanted to follow-up on one of Steve’s questions from earlier around kind of rentals being potentially a backstop for sale because it’s kind of an interesting concept, especially as you scale that side of your business and the partnerships you have with buyers of those assets.
And so if the idea is, at some point in time, if for-sale demand were to slow, there could be an institutional buyer that would be looking at additional communities that you may have currently built as for sale, but someone may want to buy wholesale and turn to rentals. Can you talk a little bit more about how you would view opportunities like that? And I know the economics and the returns can look very different so maybe just even conceptually, what it would have to take in terms of what the moving pieces around the return dynamics, if you were to look at bulk sale in our community that was not intended for bulk sale at some point in the future?
Yes. Mike, I’ve always – we’ve always believed that the rental platform when we get it built out will derisk our land portfolio because it does give us another lever. But from a just a philosophical standpoint, we believe in the fore sale business. We believe home ownership in the country is very important.
Today, our goal is to deliver more homes because the demand is there, and it’s hard to believe, five years from now, homes are going to be more affordable than they are today. So every family we can get in the home, we feel like we – is a win for us and for that family. When we look at the risk in the rental platform, the ability to scale that up, the segment that’s going to create – it’s going to be a real business all on its own. And because of the geographic platform and the embedded divisions within that geography, our ability to scale that and touch every market is – we see as just great opportunity for our shareholders and for our people internally.
Okay. Thanks, Dave.
You bet.
Your next question is coming from Ken Zener with KeyBanc. Ken, your line is live.
Good morning, everybody.
Hey, Ken.
You guys were better because you paid for your own phones. I have two simple questions. One, obviously, with insatiable demand, how you guys are approaching the cycle time in construction? Basically, it looks like your investments in your inventory units are slowing, right? Cycle time is up 5% sequentially. You guys rose inventory 14%. Is that pretty much the move that you guys will pursue into the second half if the cycle times continue to compress that you’ll just throw more units into the ground to compensate for that slower cycle time?
We have start targets and we talk about consistent sustainable starts driving ultimately sales and closings, and it’s based on the capacity within divisions to deliver those homes.
Okay. That’s fine. I mean it seems to me that’s the way you’re approaching it. And I guess, realizing these conference call is long already, David, could you just – we spoke about this in the past, the interest rate you paid on your first home. You highlighted obviously the very strong demand, strong job growth. Can you guys just comment – I mean we recently wrote about it, but can you comment on the fact with your perspective about your comfort with the real rates being negative now compared to when you took your first mortgage rate? Just as a kind of a broad thought. Appreciate it.
It’s a great time. Housing is more affordable today than it certainly was in the 1980s. The ability to get into a house, lock down your homeownership or your housing cost for the next 20 years is a significant driving force in what’s going on because as overall cost inflation, interest rates, as those continue to move up, the people that have bought a house today, even if it’s at a price that’s 15%, 20% higher than it was last year, are – I mean it’s just a great thing.
So the other thing, Ken, that we really don’t talk much about, but it’s – when I was 20, I mean that was just – that was what was expected. You figured out a way to buy a house and that became less cool for use of a stupid term, as the millennials came into their 20s. But what I’m seeing and what my millennial daughter is telling me is, now it’s – that’s a big part of the narrative on social media is, it’s – people want to own homes again.
And it’s just – I think I’m amazed sometimes at some of the conversations around housing and I look at what it was and look at what it is. I look at the – just the demographic demand that’s out there, I look at the wealth effect of everything that’s happened over the last 10 years and the American public is. They’re in a good place, and from an affordability standpoint, home ownership is better than it was in the 1980s. So I’m very optimistic about what’s going on. I’m very optimistic about this company, and I’m just in all of our people and how – what they are accomplishing out there, so.
Thank you.
I don’t know if I answer your question, but I thought you got it I think.
All is clear. Thank you.
Okay.
Your next question is coming from Truman Patterson with Wolfe Research. Truman, your line is live.
Hey, good morning, everyone. Thanks for taking my questions here. So David, just want to follow-up on one of your prior comments about the public scanning market share, and I know it might be difficult to generalize, but I’m hoping to understand what you’re hearing on the ground from local operators regarding some of your private builder competitors.
Are they expecting their home inventory to jump significantly through 2022, expecting strong activity or strong active land or community count growth? Or are you expecting more of the same of a pretty constrained environment for your private builder peers? And I’m also asking this in light that you won’t make up 10% plus of the market, you all had really nice order growth in the quarter. But when you look at new home sales in the fourth quarter, it was down more than 20% plus. So I’m really hoping you can help us think through this as we move through 2022.
We actually were talking about this and getting ready for the call. The private builders and even some of the smaller public builders are going to have very difficult time delivering houses. I mean we’re having – it is hard for us. I mean it’s probably harder to complete and finish a house today as it’s been in my career in homebuilding.
And as these private guys who don’t have our scale, who don’t have our ability to driver result, their houses are setting and that’s going to cut off their access to the next house they start. Anecdotally, we are talking to the builders end markets, they’re just tired. They don’t – they’ve got six, seven, eight banks. They’re sideways with two of them, and they’re looking to us to take out their log supply and they maybe become a developer for us in that market.
So it’s – if the supply chains don’t loosen up, I think you’re going to see the consolidation accelerate in the market by the big box because what is the big constraint on the market on housing is the ability to get lots in front of you. And the private guys, they don’t have that ability that publics do and that’s – so when you look at new home sales decline, that doesn’t have anything to do with demand, that has to be built – 60% of the homes being built out, they’re being built by non-public.
And I think all of this cycle, you’re going to see that group’s ability to start houses continue to deteriorate and that is going to get picked up by the public. Even if the overall housing market – new home housing market declines, I think the top 10 [indiscernible] are going to pick up market share and they’re going to continue to grow. So that’s what happening.
Okay. Interesting. There’s clearly been a lot of discussion with the Fed likely raising rates this year. We can debate what sort of impact that might have on demand versus lack of supply and everything, but hypothetically, let’s say, demand does soften, which consumer segment do you all think holds up relatively better between entry-level, move-up, luxury, active adult? And are there any geographies that you all think might underperform?
This is – probably, I know somewhat of a contrarian view the way the market. Sometimes it reacts to entry-level builders, but we generally continue to think about an entry-level buyer as a buyer out of need rather than discretion. So although as prices continue to rise and/or rates are to increase and affordability gets negatively impacted, you do lose a subset of entry-level buyers that can qualify from.
We do expect over the long-term that to continue to be the lion’s share of the demand, which is why we continue to focus on affordability, because as I said, those buyers are buying out of need. Whereas the further the price curve you go, that’s a more discretionary buyer, maybe a little bit more financially savvy that is more focused on timing of an interest rate versus just an absolute monthly payment.
Okay. Thanks for taking my questions.
In the interest of time, your final question is coming from Deepa Raghavan with Wells Fargo Securities. Deepa, your line is live.
Hi, thanks very much for squeezing me in. A couple ones for me. So let me ask on the affordability issue. We look at trends, it just doesn’t correlate to the concern that’s out there on affordability. And Dave, like you pointed out, rates are still historically low and it looks like we could end up having the whole – the industry, the homebuilders could end up having good pricing power this year, too.
My question is, is the affordability issue being raised too ahead of its time? Or do you believe 2022 or 2023 can be structurally impaired or impacted from some buyers being priced out in this continually tight imbalanced environment?
As we’ve seen in our sales offices and demand, we’re not seeing people being priced out to can be read today, and we’re generally focused at a price point lower than most of our competitors in the markets that we serve. What I would say is that going forward, you see very good household income growth inflation is certainly out there. It’s across the board and as someone touched on before.
We could be at negative real interest rates to own a home, so it’s a very powerful economic decision to go ahead and buy a house today and lock in that interest rate relative to current inflation expectations. So still feel very good about the demand we’re seeing into 2022. Hard to predict much beyond that because you just don’t know, but we do like what we see in 2022 for sure.
Okay. That’s helpful. Dave, when we met you last summer, you mentioned expanding in Ohio Valley in parts of Midwest as newer markets. But can you talk through what’s the economic engine that will drive job growth there? It’s hard for us to conceive that post COVID with people decided to pack their bags and move to Ohio just because they can work remotely.
Yes. There is a big population base there now. You’ve got some of the best universities in the country that are there. You’re seeing a migration out of what we’ve historically been the tech areas and/or the think tank areas, financial areas into these incubators, which are these major universities.
I’m just – I’m a big believer that long-term, the quality of life, just the access to really smart people is going to drive companies and grow companies into these markets. You see it in Austin. You see it in Nashville, Columbus. It’s just across Indianapolis. There are brilliant people starting what are going to be great big companies that that find that that environment just a better place to be than some of the what has historically been high tech, high income markets. And the population of the U.S., it – those towns, those cities are great cities, and they offer a lot and that’s what...
All right. Thanks – yeah. Thanks very much. Appreciate the color and good luck.
Thank you.
That is all the time we have for questions today. I would like to turn the floor back over to David Auld for any closing comments.
Thank you, Holly. We appreciate everybody’s time on the call today and look forward to speak with you in our second quarter results in April and our the D.R. Horton family, outstanding first quarter. It’s amazing what’s the – our people are accomplishing it there, and Don Horton and the entire executive team are humbled with the opportunity to represent you. Thank you.
Thank you, ladies and gentlemen. This does conclude today’s conference call. You may disconnect your phone lines at this time, and have a wonderful day. Thank you for your participation.