Seeking Alpha
We cover over 5K calls/quarter
Profile| Send Message|
( followers)  

Beazer Homes USA (NYSE:BZH)

Q2 2014 Earnings Call

May 01, 2014 10:00 am ET

Executives

Carey Phelps - Director of Investor Relations & Corporate Communications

Allan P. Merrill - Chief Executive Officer, President and Director

Robert L. Salomon - Chief Financial Officer, Chief Accounting Officer, Executive Vice President and Controller

Analysts

Michael Jason Rehaut - JP Morgan Chase & Co, Research Division

Alan Ratner - Zelman & Associates, LLC

David Goldberg - UBS Investment Bank, Research Division

Daniel Mark Oppenheim - Crédit Suisse AG, Research Division

Eli Hackel - Goldman Sachs Group Inc., Research Division

James McCanless - Sterne Agee & Leach Inc., Research Division

Adam Rudiger - Wells Fargo Securities, LLC, Research Division

Joel Locker - FBN Securities, Inc., Research Division

Alex Barrón - Housing Research Center, LLC

Operator

Good morning, and welcome to the Beazer Homes Earnings Conference Call for quarter ended March 31, 2014. Today's call is being recorded and a replay will be available on the company's website later today. In addition, PowerPoint slides, intended to accompany this call, are available on the Investor Relations section of the company's website at www.beazer.com. At this point, I will turn the call over to Carey Phelps, Director of Investor Relations.

Carey Phelps

Thank you. Good morning, and welcome to the Beazer Homes conference call discussing our results for the second quarter of fiscal 2014. Before we begin, you should be aware that during this call, we will be making forward-looking statements. Such statements involve known and unknown risks, uncertainties and other factors, which are described in our SEC filings, including our Form 10-K, which may cause actual results to differ materially. Any forward-looking statement speaks only as of the date on which such statement is made. And except as required by law, we do not undertake any obligation to update or revise any forward-looking statement, whether as a result of new information, future events or otherwise. New factors emerge from time to time, and it is not possible for management to predict all such factors.

Joining me today are Allan Merrill, our President and Chief Executive Officer; and Bob Salomon, our Executive Vice President and Chief Financial Officer. Following their prepared remarks, we will take questions in the time remaining. I will now turn the call over to Allan.

Allan P. Merrill

Thank you, Carey, and thank you, all, for joining us. As one of the last home builders to report this spring, we know that there had been mixed reports about the strength and durability of the housing recovery. While it is clear the industry is not enjoying a so-called V-shaped recovery, affordability remains healthy, rental rates keeps rising, new and used home supply is limited, and crucially lenders seem to be tiptoeing back into the purchase money mortgage origination business. And after a long period of dormancy, we are seeing encouraging signs in the first-time buyer segment. Overall, our sense is that, as long as mortgage rates don't spike again like they did last May, new-home sales should continue on a slow but deliberate improvement path, with home prices inching up in most markets.

At Beazer, with our operational turnaround in full swing, we have a number of achievements to be pleased about this quarter. Our sales absorption rates were ahead of our expectations, home pricing was a bit better than expected and gross margins were stronger than we anticipated. Specifically for the second quarter, we increased adjusted EBITDA at $18.5 million, up from $15.2 million last year. We sold 3.3 homes per community per month, higher than we have recorded for any of the previous 3 quarters. We expanded gross margins by 340 basis points to 22.5%. We grew ASPs by 7.5%. We ended the quarter with $300 million in unrestricted cash and we spent $129 million on land and land development compared to only $63 million last year. We also activated one of our largest land held for future development assets located in California, creating more opportunity for unit and profitability growth next year. In addition, just after the end of the quarter, we successfully completed a bond refinancing, which will save the company over $8 million in annual interest expense.

Of course, not everything went our way during the quarter. As we reported in early April, orders and closings for the quarter were impacted by both the decline in our active community count, which we expected, and by severe winter weather, which we didn't. Overall, orders were down 9% and closings were down 13% versus last year. This contributed to SG&A as a percentage of sales being higher than we expected in the quarter. And as I will discuss in detail in a minute, the weather has contributed to some delays in opening new communities. But even with these challenges, our confidence in making this -- in making money this year is undiminished and in fact, we are modestly increasing our expectations for full year EBITDA.

Last November, we introduced our 2B10 plan, to reach $2 billion in revenue with a 10% EBITDA margin over the next 2 to 3 years. This plan calls for improvement in 5 key metrics, including sales per community, ASP, average community count, gross margin and SG&A. While there are a number of different combinations that can lead us to $2 billion in revenue with a 10% EBITDA margin, at that time we provided some specific targets that could get us there.

Bob will go through our progress against these metrics in just a minute, but first I want to address a topic you've all heard a lot about recently and that's the weather. On the sales front, it's tough to quantify how many potential buyers stayed indoors due to the frigid conditions. Surprisingly, we actually saw a small uptick in absorption rates in our East segment this quarter, allowing us to record that 3.3 sales per community per month for the company, one of the strongest paces we have recorded in years.

We weren't so fortunate dodging the weather with closings. We have identified 44 closings in our East segment, which got pushed into the third quarter as a result of harsh weather conditions. Missing these closings, obviously reduced revenue. It also decreased our SG&A leverage and slightly shifted our geographic mix of closings, which impacted both ASPs and gross margins. So yes, Mother Nature impacted our income statement in a few different ways. But in the context of our full year results, we don't expect that differing these closings into the third quarter will make a very big difference.

Where the weather really hurt us, was in land development. In Maryland, where we have 13 communities under active development, schools were closed as many as 15 days in some districts. That's nearly an entire school month. On many of those days, local governments followed suit by either shutting down early or not opening at all. In those areas, no permits were issued, no inspections were performed and no one at the municipal level reviewed any site plans. Just as importantly, we didn't dig any trenches, lay pipes, grade lots or pave streets on those days either. Beyond Maryland, we experienced some version of these issues in New Jersey, Northern Virginia, Indianapolis, Raleigh, National and even here in Atlanta. Just in those markets, we have 30 communities slated to open still this year. And while our folks in the field fought valiantly to not lose any time on our development schedules, we were not totally successful. In all, we had 5 expected community openings slip from Q2 to Q3, and another 8 move from Q3 to Q4 due to weather.

So where do we stand on our active community count? During the second quarter, we opened 17 communities, but we had expected to be a little higher on our community count by the end of the quarter. Year-over-year our average active community count was down 6.7%, compared to the 5% we had anticipated. In addition to our 138 active communities at the end of March, we also had 62 communities under development, 50 of which are expected to go active by year end, and 23 of these purchases have been approved but have not yet closed.

In recent quarters, we have acknowledged that one of the biggest risks in our forecast was accurately predicting the timing of our land development efforts. Between delays due to short-staffed municipalities, shortages of specialized trades or equipment, and the extended windows required to schedule utility providers, we expected to have a few hiccups along the way, which is why we gave ranges on our quarterly community count estimates. And all of that was before we had to deal with the worst winter weather in memory.

Between the weather issues and a few other challenges, the bottom line is this: we are having to adjust modestly our previously communicated forecast for our average active community count. We are moving our Q3 expected average active community count to a range of 140 to 150. That means we'll be essentially flat year-over-year in the third quarter. For our fiscal fourth quarter, we now expect to average approximately 155 active communities, an increase of approximately 15% over last year, but 5 communities fewer than our prior estimate. And for the full year, we expect our average active community count to be approximately 145 or flat of last year.

And I realized that's a lot of detail about the weather in our community counts, but we want to be accountable for what we told you, and community count is one area where we came up a little short this quarter. Yes, I'm disappointed by the change, but I'm actually pleased with how modest the adjustments are in light of the massive number of developments we have underway. And more broadly, this issue shouldn't detract from the sales and margin results we have recorded or our improving EBITDA expectations for the year.

With that, I'm going to turn the call over to Bob to provide more detail in the quarter, and the progress we've made on our 2B10 plan. Bob?

Robert L. Salomon

Thanks, Allan. Back to the community count, with challenges covered, I'm going to take you through both our quarterly results and more importantly, the LTM results on each driver of our 2B10 plan.

Starting with revenues. For the quarter, our total revenue was lower than expected at $270 million. On a trailing 12-month basis, total revenues are in excess of $1.3 billion, up 13% versus a year ago. We sold 3.3 homes per community per month during the quarter without sacrificing margin dollars. This compares with a number well below resales per community per month reported by most of our peers. On a trailing 12-month basis, our sales per community per month held steady at 2.9, and compares favorably to 2.7 a year ago.

Our ASP was $272,000 for the quarter, up 7.5% versus last year. On a trailing 12-month basis, our ASP was $266,000, 13% higher than a year ago. Usually it doesn't make much sense to look at sequential trends in ASP. However, because there was a sequential decline, we wanted to illustrate that mix between segments and within segments was the reason. We could see that on these segments and its higher ASPs comprised the much lower portion, call it 6% less, of our closings this quarter than last, some of which was due to weather. You can also see that our West segment where prices have risen steadily, was impacted by a different mix this quarter. Our Texas business and 1 very affordable townhome community in Las Vegas, played a much larger role in our closings this quarter than California, which contributed a decline in ASPs within that segment.

On a year-over-year basis, the trend in higher prices is intact. In fact, our ASP in backlog is the highest it's been in recent memory, the $295,000, up $30,000 or 11% over last year. As a result, we expect our third quarter ASP to return to a level above what we reported in either of our first 2 quarters this year.

Primary reason for our revenue decrease this quarter was lower backlog conversion, driven by several factors. We had more homes scheduled to close in future quarters this year versus last year, a higher percentage of closing pushed into future quarters, in part due to weather issues that impacted 44 expected closings in our East segment and we had fewer specs sales within the quarter that closed by March 31.

If I look to the third quarter and the composition of our backlog, I believe that our conversion rate will be within the range of 55% to 60%.

For the quarter, our home building gross margin was 22.5%, up 340 basis points from last year. Our gross profit dollars per closing increased to $54,900 for the quarter, up $6,800 or 14% from last year. The margins were definitely above our internal expectations and we are of course very pleased by that.

But before any of us get too carried away by this 1 quarter, let me point out a few things that benefited our Q2 margins. First, our mix of closing featured fewer East segment closings than expected. My estimate is that missing the closings due to weather added about 30 basis points to our margins. And second, we benefited from a credit on an outstanding warranty matter of $1.4 million, which added another 50 basis points.

As a result of these factors, do not expect quarterly margins in the back half of the year, to be quite as high as they were in Q2. But from the full year, we do expect home building gross margins to be at the high end of the range we previously reported, somewhere between 21.5% and 22.2%. Achieving this level of margin will represent great progress this year and will leave room for further improvement in fiscal 2015, as we benefit from the new communities we are preparing to open. While other builders may be fighting the headwinds of not be able to sustain their high gross margins, we think we still got room to grow. As it relates to our 2B10 plan, gross margin on the trailing 12-month basis was 21.3%, up 350 basis points from last year. And gross profit dollars increased to $54,700 per home closed on a trailing 12-month basis, from $41,500 last year, representing the 32% year-over-year improvement.

SG&A was 16.2% of revenues this quarter. While we expected the second quarter's SG&A ratio to be the highest of the year, we did not expect for it to be quite that high. However, we can easily determine the reasons for the large ratio this quarter. First, as expected, we had increased spending related to our coming soon communities, as well as our normal seasonal promotions at the start of the spring selling season. And second, the piece that was unexpected, were our lower closings in part due to weather. Because that second piece is only temporary, then it has no impact on our full view of the full year, we still believe that our full year fiscal 2014 SG&A will be between 12.5% and 13%.

On a trailing 12-month basis, SG&A, as a percentage of revenue, was 13.7%, which was slightly improved over last year despite our results this quarter. And looking at the graph on the right on a per closing basis, we continue to be among the lowest cost operators in the industry.

With our year-over-year LTM improvements in both gross margins and SG&A, our LTM adjusted EBITDA reached a $103.5 million this quarter. And as we increased our closings in the back half of the fiscal year, we expect to see further improvements.

On the second quarter, we spent $128.6 million in land and land development, more than double last year's second quarter spend. Included in this year's number, is $11 million of noncash acquisitions, primarily related to land in Las Vegas that we received from the Inspirada joint venture selling. Also on the slide, we've included a couple of photos to provide a sense of the equipment required to complete -- to compete land development efforts at our larger sites. By doubling up the crews on sites, we're trying to cut into delay created by weather or municipal issues.

For the full year, we still expect to spend in excess of $500 million on land and land development exclusive of any potential land deals. With our increased land spending, our inventory levels have continued to rise. At the end of March, we had nearly $1.5 billion of total inventory, up over $300 million from last year. And our lot count is up over 18% with over 29,000 owned and controlled lots at March 31.

During the quarter, we activated a $30 million asset out of land held for future development. This community located outside of Sacramento in Rancho Cordova is expected to open in the summer of 2015. As we have grown our total inventory in recent quarters and activated several large parcels, our land held for future development has declined as a percentage of total inventory from 31% a year ago, to 21% this year improving the ratio of our assets working for our shareholders.

At the end of March, we had a total of $306 million of land held for future development, all of which we hope to bring active in the next several years. Approximately 80% of this land is located in California, equally divided between Northern and Southern California. Most of the land in the North is impacted by the moratorium on permits related to repairs needed on levies in Sacramento.

I should note that our 2B10 plan and its related targets were developed without any assumed benefit from these assets. And while margins for this land held for future development properties will likely be below our current company average, any EBITDA generated from these assets will be additive to our results and will generate significant cash for investment.

In early April, we refinanced our 9.125% senior notes due 2018, with new $325 million, 5.75% unsecured, senior notes due 2019. As a result, we expect to save $8.4 million in cash interest per year. Because this transaction occurred after the end of the quarter, the onetime cost of the refinancing, will show up in our Q3 results. We will take a noncash loss of about $20 million to redeem the higher cost debt, but with an immediate earnings improvement and a payback of about 2 years, we think that it was a prudent move.

Looking at the remainder of our capital structure on a pro forma basis with our new 2019 notes, we have no significant debt maturities until 2016, $300 million in unrestricted cash and an undrawn $150 million revolver, all providing us with sufficient liquidity to meet our 2B10 objectives.

Finally, we currently estimate that we will be able to use approximately $445 million, or $14 per share in deferred tax assets to offset our future tax liabilities. While the exact timing is not known, we currently expect to start bringing a portion of the tax asset back onto our balance sheet sometime during fiscal 2015.

With that, let me turn the call back over to Allan to review our expectations for the remainder of the fiscal year.

Allan P. Merrill

Thank you, Bob. With the exception of the modest reduction in community counts, which I discussed earlier, our other full year expectations are all unchanged or improved. We still expect to report positive net income, obviously, a major milestone for the company and in fact we are again raising our expectations for full year adjusted EBITDA. We now expect EBITDA growth of $45 million over last year, a more than 50% year-over-year improvement. That's a $5 million increase since our last call.

We are also increasing the expected range of our ASPs to $280,000 to $290,000, and focusing our expectations for gross margins at the high end of our prior range, likely between 21.5% and 22%. We continue to expect 3 to 3.1 sales per community per month with a significant contribution from our soon-to-open communities. And SG&A as a percentage of revenue between 12.5% and 13% despite the higher ratio this quarter.

All in all, things are progressing well for us. I'd like to take just a minute to acknowledge our teams' efforts. They're the ones who have put this company on their backs and carried us to a better place. They have been consistently generating better results with no excuses for legacy assets or the legacy debt load. They have demonstrated that we can outperform on absorption rates, while improving gross margins, reducing SG&A ratios and investing for the future. This is led to 3 straight years of large-scale increases in EBITDA, which will soon translate into GAAP profitability for our shareholders.

So to my Beazer colleagues, thank you for your focus, your intensity and your accountability.

For those of you on the call, thank you for joining us today, and thank you for your patience as we execute our improvement plans. We look forward to sharing our continuing progress in the quarters ahead.

At this point, I'll turn the call over to the operator to take us into Q&A.

Question-and-Answer Session

Operator

[Operator Instructions] Our first question comes from the line of Mr. Michael Rehaut from JPMC.

Michael Jason Rehaut - JP Morgan Chase & Co, Research Division

The first question I had was on sales pace and you continue to make good progress, I think, given the challenges in the weather and in comparison to your -- many of your peers that several of them have had sales pace down 10%, 15% or so, and just wanted to focus on that for a moment. I mean, certainly, I think part of it is -- if I can put words in here, improvement off of levels that you weren't satisfied with and that you saw a lot of improvement opportunity over the last couple of years, but as you go forward, I mean, is that something that you would expect to improve a little bit further? I mean, certainly it's kind of in the range of your goals, but would you want that to be more in a 3 to 4% -- 3 to 4 sales per month or how do you see that changing from here on in?

Allan P. Merrill

Well, Mike, you've hit a couple of different points there. I mean, if we just start with the 2B10 plan, which isn't the be all and end all, it's our current focal point for financial outcomes. We have used 3.2 as kind of a target there. On a trailing 12-month basis, we're at 2.9. So I do think that there is an opportunity for us to make incremental improvements over the next year or 2. I think longer term, it depends on the environment we're in. There are clearly -- there have been in the past environments where 3.2 would be an immodest objective. I think in the current environment, it's a very healthy, if not industry-leading objective. And so I'd like to reserve the right to adjust that based on broader market conditions, but I think for where we are right now, the modest pace of the recovery, I think being in that low 3 range is a pretty good place to be.

Michael Jason Rehaut - JP Morgan Chase & Co, Research Division

Okay. Also, the -- looking at the gross margins by region, the East, I guess it was a 200 bp decline year-over-year, and part of that, I guess, is due to a warranty charge, but was it -- the other part, either just due to higher operational costs in the quarter related to weather or if you can go into that a little bit more?

Allan P. Merrill

There was a warranty charge in the East, about $1 million in the quarter. And we are really in the midst of a significant repositioning of our divisions in the East segment. We've got a few closeout communities. We had costs associated with startups. So I think we are in the midst of a significant transition in the East. There is no reason structurally longer term why the East margins will be an order of magnitude less than in the rest of the company. We wouldn't be making the investments there that we are making if we thought that was the case. So I would say there is a little bit of translational noise. I can't really say that there is a ton of weather noise in there, but clearly some closeout and startup costs.

Michael Jason Rehaut - JP Morgan Chase & Co, Research Division

Okay. Just one other quick one if I could. Interest not qualified for capitalization ran about $16 million in the quarter, it was $16 million last year, does that run rate change at all with the debt issuance and refinancing?

Robert L. Salomon

Yes, Mike, I think it will change a bit, but then also, if you remember, it's highly dependent upon how many new assets we bring on the balance sheet as we continue to invest. I think over the next several quarters that should trend downwards. Helped by the refinancing as well.

Operator

Next question comes from Ivy Zelman from Zelman & Associates.

Alan Ratner - Zelman & Associates, LLC

It's actually Alan on for Ivy. Allan you gave us obviously a great detail as far as how the weather impacted the development side of the business, just curious if you can give us some commentary about how the sales, and also pricing environment progressed through the quarter? We have heard from some other builders that they have seen a pretty significant snap back in activity in March once the weather had been subsided a bit, doesn't look like you faced as much of the headwind as some of your peers giving a commentary on absorptions being stronger than you were expecting, but curious to see how that progressed through the quarter, and also kind of where you see the incentive environment today both from a company standpoint, as well as what you're seeing in the industry?

Allan P. Merrill

Okay. So that was a two-fer. We've got absorption rates and incentives. And I'll try and deal with both of those. So on the progression during the quarter, there is no question, January was not a huge number, it was fairly similar to where we were last year in January. February was a good step-up. Now, we always admit that in February, we expect and kind of create a step-up, because we were on one of our big national promos during that period of time. I think we've got very disciplined on not using that as an opportunity or an excuse to lower prices. But it rallies enthusiasm and it's kind of our kickoff to the sales season. It's disappointing that we've been copied and more and more folks are kind of pulling those spring selling events forward, but the fact is it still has effect on our results. And we did see broader-based less promotionally-driven traffic activity and sales activity in March. I think one thing I'm a little cautious about, and it's not a big negative, but it is the case that Easter was in March last year, and it was in April this year. And as I have sort of had a chance to look at partial April data, which let me just anticipate the question, I would tell you, I think March was a lot better than last year, and I think April is a little softer than last year, as I look at traffic level, I don't know what the April sales are yet, but I do think part of that March pickup that you're hearing about was a little bit of a year-over-year difference in the holiday calendar. I can't speak for others have I sensed a bit of that. I don't see that things have become different in April. I think that there is in comparative differentials that we're dealing with, because as I say, where Easter and Passover were. In terms of the incentive environment, it's interesting. We've got a variety of strategies around the company on incentives. And I kind of anticipated this question. So I pulled some things that I thought I would share. On an overall basis, our incentives are down about a percentage point from where they were a year ago. And you can look at the gross margin improvement and say, "Aha! I see it! That's -- you've reduced incentives and there it is in your margin." There is a lot of truth in that. But if the risk of making everybody's heads explode, I'm going to give you the longer-form answer, which is a little bit more complicated. We have divisions where our incentives are below 3% of sales prices. And we have divisions where our incentives were north of 10% of sales prices. Now it would be easy to assume that there is a strict correlation between the level of the incentive and how robust the market is. But interestingly, the divisions in our company with the highest gross margins in the quarter, were also with a higher end of our incentives. In conversely, one of our divisions with really low incentives is one of the ones where we still have a lot of opportunity for improvement in margins. So I think, as investors and we as managers, need to be careful that there are couple of other things going on when you look at incentives. I am pleased that they're down. But I think it's important that we look at base pricing. I also think it's crucial you look at included features, because as base pricing, included features and option pricing changes, you've then got to -- a richer context in which to think about the incentives. So all of that was not meant to obfuscate. It's just to be careful of simple sound bites on incentives. They are modestly down, but I would tell you that I wouldn't be unhappy if I had to tell you that they were up, because it fit in to a included features, option pricing, base price strategy that was increasing absorption rate in margins. I'd be very pleased in that context for incentives to go up. So I think we try and compete in every community, every single day and there is not some overarching, we must reduce incentives, we want to get our paces up to the levels that we've talked about. We want to drive gross margins, and we expect and had been benefited from letting our local presidents make decisions at the community level, how to dial that in. So I know how that's not exactly the context of answer maybe that you were looking for, but I've been -- I was sort of anxious for somebody to ask the incentive question, because I wanted to make sure that we didn't just let the simple answers suffice.

Alan Ratner - Zelman & Associates, LLC

No. And I think that's really helpful and we certainly appreciate the mix between base price and incentives. And I guess, what I was really hoping to get out with the question which you touched on was just the idea that we heard from some builders talking about Phoenix for an example where builders are outright cutting price and, I guess, what I'm really curious on your thought is, just directionally, this price across your footprint, would you call it still showing upward momentum when you take into account all of those factors or are you seeing markets where all those pieces together account either maybe some net price reductions?

Allan P. Merrill

So that's an easier question. And I would say that we look across the footprint. I do think that prices are inching, and I use that word advisedly, inching upward across our footprint. I would tell you that there are certain product types and lot width where we have seen a substantial change in the number of competing communities. And just as a specific example, if you were to look at community counts in Phoenix, which I'm sure most of the folks on this call have done, they're up over 100 communities year-over-year on a base of about 300. You have 100 more communities in Phoenix. What's interesting is, if you break it down to what are the home sizes that are being sold and the lot width that are available, there has clearly been a dramatic bunching up in certain lot width and certain home sizes, and you can too many new communities too quickly attacking exactly the same buyer profile. I think those can create the dynamics that you are describing. Speaking for us, broadly and specifically about Phoenix, we have not seen an environment of net price reductions, but I can -- I just described for you the circumstances that I think might be culpable for what you've heard.

Operator

Next question comes from David Goldberg from UBS.

David Goldberg - UBS Investment Bank, Research Division

I wanted to start by asking a question I think you guys did an excellent job talking about some of the delays in terms of entitlements from the weather and even on the development side, but I was thinking about build cycles, and kind of where build cycles are now, kind of laying foundations to actually closing homes, and how that was affected by weather, and how long that really takes to normalize, and what that kind of does to return assumptions if it gets extended 10 or 15 days in a 100-day build cycle?

Allan P. Merrill

So there is -- that's a really rich question in terms of build cycles, because I think it's broader than just the context of weather. I would tell you that if the only thing going on in any of our markets were adverse weather, the good news is that you can "catch up" relatively quickly. And it's not -- it doesn't become a lingering problem. Land development is different. There is a linearity to the progression of land development where x has to come before y, which has to come before z. In the home construction process, you can multitask and you can be doing multiple things at the same time to cut -- try and catch up some of those days. So we did lose some closings because we weren't able to complete the homes during the period. I couldn't give you an exact metric on what that did to cycle time, but clearly it elongated as we just want to be able to be on the job sites safely or get our contractors on the job sites safely. I don't think that that issue, weather specifically as we think about cycle times as kind of a go-forward issue -- although I can tell you I was talking to my guys in Maryland yesterday and 6 inches of rain made for a decidedly tough day in the market. But I think the bigger question is cycle times more broadly, and I think there are a couple of markets for us, Houston and Dallas just jump off the page, where we're struggling a little bit to sustain our cycle times because of labor availability issues. And we have seen 5-day, 8-day, 10-day expansions in our cycle times in those markets. It's particularly acute on the framing side of the business right now, and it is the spring selling season. And so we've got different builders particularly in Houston, with different specs strategies. It's definitely created a bottleneck. And we tried to -- we've tried to deal with it by doing a better job at setting expectations with buyers upfront. Because it’s one thing to be 10 days late, it's another thing to be a lot more than 10 days late and not have communicated that to the buyer. So I'm worried about it from a customer experience and perspective not just the return criteria. I haven't calculated it. It's -- I'm sure it's just a simple algorithm to add 10 days to cycle time in a handful of markets. At this point, that doesn't feel to us like it's not changing our margin progression in either of those markets. There are some cost side pressures there. I'm happy to say that the pricing environment has been sufficiently strong that we have been able to absorb that. I will be worried if our cycle times across the country expand like that, but it really has been for us at least pretty isolated to those 2 markets.

David Goldberg - UBS Investment Bank, Research Division

That's great color. I just want to follow-up on the comment you made about starting to see some first-time buyers come back in the market, and clearly, I think, mortgage market liquidity loosening, we're starting to hear signs of that too, but I'm wondering if you think there is any aspects of first time -- the limited amount of first-time buyers in the market coming from a lack of supply. It feels like a lot of builders -- and you talked about Phoenix and you can buy a 3,500 square foot home on a number of different lots in Phoenix today that you maybe you had a lot less choice last year at this time. But I'm wondering how much of the issue, if any, do you think from the lack of first-time buyers is coming from a lack of supply and that the builders just haven't built the products, but demand might be there, not sort of like the levels that we saw in last cycle but better than what -- better than completely absent as some builders seem to indicate?

Allan P. Merrill

I think the death of the first-time buyers has been greatly exaggerated to paraphrase Mark Twain. And I do think part of the responsibility is ours as an industry. I think a larger portion relates to the legacy of the mortgage crisis and the housing crisis but what we're observing is that this first-time buyer population, perspective first-time buyer population is older and more affluent than prior first-time buyer cohorts. And they are bifurcating in some interesting ways. There is a larger portion of single-only buyers and there are larger portion of, what I would call, purely location buyers. And that's putting some pressure on us as an industry to understand and execute infill. So I think that we have some responsibility for that. But I think that the good thing is we haven't tried to solve the problem by building dozens of tracts of moderately priced and smaller affordable units in the desert, on a "build it and they will come" basis. Because I do think these buyers are a little different. I think the amenity feature, I think in the house, I think the access to transportation. I do think that the locations have to change. So I would say that, I think, if the focus was purely on price, that would be a mistake. And frankly, we have seen some successful examples of folks using either remote locations or dramatically reduced optionality to drive that price, and they can have it. Our view is, let’s be in the places where people want to be, these first-time buyers, but accepting the burdens those are harder to find and the product, the product is not a cookie cutter. We have got to be right for each market in those locations. So I'm -- because of that being my view, I don't think we, Beazer, can solve by problem by putting sticks in the air. There is a portion of the market that others can probably address by putting sticks in the air. We want to be very selective. I mean, we want to be on great real estate no matter what, not just have units for units sake. So I think your question is nuanced and interesting. I think what our reaction is a little different from what you've heard from some others about how to attack the first-time buyer opportunity.

Operator

Next question comes from Dan Oppenheim from Crédit Suisse.

Daniel Mark Oppenheim - Crédit Suisse AG, Research Division

Wondering if you can talk a little bit more about SG&A. I think you were talking about increasing costs on the list of community openings costs there and so we'll see seasonal incentives, but it describes the season here as a modest recovery, and then also, in terms of plans for potentially using incentives strategically, do you think as we look at SG&A over the coming quarters we should be expecting a bit more from the incentives coming in there, understanding that it may be for some strategic reason there be it the modest recovery here?

Robert L. Salomon

Our incentives are in cost of goods sold. So they'd be up above, not there. I think the simple answer Dan is, you should look for our SG&A in dollar terms to be higher in the third and fourth quarter than it was in the second quarter, but keep an eye on full year between 12.5% and 13%.

Operator

Next question comes from Eli Hackel from Goldman Sachs.

Eli Hackel - Goldman Sachs Group Inc., Research Division

Allan, just want to go back to some of the comments you made about credit loosening, clearly it has been slow so far this recovery. I wonder if you can just go on a little bit more detail about what you're seeing. Is it more from the nonbank originators than the bank originators? Is it on the FICO or is there some debt level reduction that they'd be able to -- that they're taking a little bit more detail that would be appreciative?

Allan P. Merrill

Yes, I think it's that interesting. It's the big money center banks that have seen their share start to erode, and I think it's because there are still these legacy issues. I can't imagine that dozens if not hundreds or thousands of lawyers and folks they have working on legacy problems, and so the folks that are I think a little bit more nimble working within the QM rules and not writing crazy loans are aggressive, they're hungry. I called it last quarter the animal spirits. And I see it every day with our mortgage choice lenders. They want to lend. One of the things that is going on now, and it's frustrating to me, I wish had a perfect answer for it, I don't. But I genuinely believe this. I think a lot of buyers, particularly first-time buyers and first move-up buyers, who were first-time buyers more than 5 years ago, have a very different view of what is required and what is actually required. I think people believe they've got to have 20% down. I mean, I'd love to have $1 for every news article about 20% down, somebody spouting off about how that's what's going to make America great again. I think it's gotten in people's heads. It doesn't take 20% down. You and I know that. And so, it is an ongoing challenge for us for -- to communicate to buyers that you have a great opportunity to qualify. You are well employed, you don't have a recent bankruptcy or a significant default. And even if you have those things, but they have seasoned and you have repaired your credit, you have an opportunity to qualify. And I do think that banks have to be better salespeople, I think builders have to be better hand holders and I think the narrative will shift here. I don't know if there's going to be tipping point moment where the light bulb goes off and everybody says, "Aha, I get it." I doubt that. It's not our -- that's not our view. But I think there's a really significant disconnect between what banks are willing to do within this much stricter confines of the current lending environment and what consumers think they'll do. And that's a hard problem to solve with a silver bullet. I think one of the things that we do with mortgage choice pretty well is we can say to a prospect, we've got a couple of lenders that we picked for this community, both of whom would like to earn your business, why don’t you talk to both of them. Now it is the case and it is -- I'm sorry to be in my sales soapbox again. It is the case that we're going to see better rates, better fees, better service as a result of that competition. But there's sort of a different aspect to it, that I haven't talked a lot about it, which is if it changes the buyer's belief set, as to the likelihood that they'll actually qualify, that's a big deal. And I think that's really kind of a main theme for us as we try and refine connecting mortgage choice with these first-time buyers. That yes you're going to get a better rate but you also, it may be a gating issue, you got a better chance of qualifying. And I talked, Eli, before and I won't repeat the whole anecdote. I think there were tons of tons of structural overlays the banks have put in place around the purchase money business, because the refi business was more profitable. I mean, that boom you heard a year ago was refi business dying and it's taken time for the banks and the regulators to remove some of those impediments. I think they are doing that. I still think it's sticky because buyers don't believe it.

Eli Hackel - Goldman Sachs Group Inc., Research Division

And then just one quick one, just on the land held for future development, it sounds like you won't develop over the next couple of years, is there an opportunity, understanding maybe sell it sooner versus later to a third-party to reinvest that capital elsewhere within the company, or you really want to hold onto for next couple of years and develop it yourself?

Allan P. Merrill

There are different answers for different parcels. I think the Sacramento stuff, we like that market. I have been there a lot lately. We have activated a big asset. We've got other assets up there that are levy constrained. I like our position very much. I talked a little bit about it before, but if you look at an aerial photo of Sacramento, you'd find a across in the middle of the city where I-5 and I-80 intersect. We own essentially the northeast quadrant, the southwest quadrant of the busiest interchange in northern California. I like that land a lot. Now, we need the levies repaired, so we can go back to building in those locations, but those are -- I think those are excellent sites. We have other sites around the company where the right answer may be to sell them. I think our issue is what's the good stewards of our investor capital. And we'll make that decision asset by asset, but I don't think there is a stubbornness on our part or an unwillingness to monetize them where it makes sense. And without making a specific prediction that is not a thought process far removed from ours in real time.

Operator

Next question comes from Jay McCanless from Sterne Agee.

James McCanless - Sterne Agee & Leach Inc., Research Division

First question I had, the guidance for positive net income for the year, does that exclude the onetime charge for the debt refinancing or doesn't included it?

Allan P. Merrill

We believe we will be positive GAAP net income including net charge.

James McCanless - Sterne Agee & Leach Inc., Research Division

Okay. And then if you could repeat the gross margin detail for the back half of the year, I missed that?

Allan P. Merrill

I think what Bob said about that is that because we did have the benefit, a little mix shift and the warranty recovery in that 22.5%, we think that the back half will be below that, and we believe that the full year will be between 21.5% and 22%.

James McCanless - Sterne Agee & Leach Inc., Research Division

And then just one other quick one, it sounds like M&A at least public to private is starting to pick up again, can you talk about the deal fall you're seeing there and where it compares to this time last year?

Allan P. Merrill

Yes, the deal flow is certainly up. I think, we've seen a lot of different deals. We continue to be very focused on our existing footprint and opportunities to drive more value from that footprint. Obviously, we haven't bought anything. You'd know about it if we had. I think we look at it like I guess other builders would, and in some cases it's an opportunity to replenish or add to our land supply. In others it may represent something more strategic as to a buyer profile or a product expertise. But I would say that there are several opportunities a month that we become aware of, maybe it's even higher than that. There's a lot of drama and a lot of complexity associated with M&A and so we try and only spend time thinking about those where we think it we're really the likely you are a right buyer for it. There are lot of shiny objects that go floating by and we wish others well, but we don't feel compelled to chase them all.

Operator

Next question comes from Adam Rudiger from Wells Fargo.

Adam Rudiger - Wells Fargo Securities, LLC, Research Division

On your prepared remarks, Allan, you talked about, I think, an opportunity to grow gross margins a bit more in contrast as in peers who have talked more stable ones, and I was wondering what you think the biggest leverage were for that continued expansion?

Allan P. Merrill

Yes. I admit, it's not really natural for us to sort of beat our chest, but I think that one of the things that's missing, is we've got pounded and appropriately so if our margins have been below our peers, but a lot of them had the great luxury and the foresight, they're all geniuses but they have loaded up on land in '10, '11 and '12, and I wish we had. I'd love to have the problem that my margins are too high. But we don't. So we suffered by that comparison over the last couple of years, but there is a regression to mean problem that they have gotten that we have different sides of. We are out competing with them in the market every day and have been for the last 18 months or so. And so the deals that we're putting on for '15 and '16 are the same deals that they are looking at for '15 and '16. From where we sit, we see opportunity. I think if we had been burning off of legacy positions, which were extraordinary purchases, it would be able a little harder to sustain. So it's -- I'd love to tell you it's a lot more complicated than that in the thousand things that we're doing to raise gross margins, and that's all true. But the bigger picture and simpler answer is, we just don't have the benefit of some of those well-timed legacy purchases.

Adam Rudiger - Wells Fargo Securities, LLC, Research Division

Okay. And does that suggest that the deals you're putting under -- for purchase agreements now have higher margins than current margins?

Allan P. Merrill

We are buying deals that are supportive of our ambition to grow gross margins.

Adam Rudiger - Wells Fargo Securities, LLC, Research Division

Okay and then secondly on margins, I look at your 2B10 plan, you talk about 22% growth, 12% SG&A, so that gets you to 10% margin although, and that's normally what people talk about as maybe a normal margin for the builders, but usually that's an operating margin, not an EBITDA one. So I was wondering if you threw the interest in there that reduces that goal a bit and I was wondering if that was what you think is the appropriate normal for Beazer, or is that just more of an interim goal?

Allan P. Merrill

I think when you're hiking across the desert, you identify a point on the horizon and you sort of set your sights on that. It doesn't mean that's the end goal. And that's kind of what 2B10 for us was. $2 billion people can kind of relate to that and 10% is a round number. I wouldn't interpret it a lot more deeply than that. Our ambition extends beyond both of those numbers. But I think at least it became specific and actionable stretch but not insane on both the revenue and on the margin side, so it sort of served that purpose. But I think our opportunities and our ambitions will exceed beyond both -- it will exceed both those numbers during the cycle.

Adam Rudiger - Wells Fargo Securities, LLC, Research Division

Okay, makes sense. And thanks for all the metaphors, makes it a lot easier to understand the -- walking the desert.

Allan P. Merrill

The team here is not as enthusiastic about all of my metaphors and analogies, some of them work better than others. But thank you.

Operator

Next question comes from Joel Locker from FBN Securities.

Joel Locker - FBN Securities, Inc., Research Division

Just I was curious about your cost per square foot, in the second quarter. What was it and maybe if you have it for a year ago also?

Allan P. Merrill

Joe, we don't break that out because I always wonder about what's included and what's not included. But I think if you use direct cost of around $40 a foot, you are in the right range. It's up a little bit in the last year, primarily in framing and materials and labor. But that is not a metric that we have tried to sort of wrap our hands around and communicate externally, because if our mix changes and all of a sudden my cost per square foot changes, and I can't tell you whether it was labor or materials or whether it's because we're building attached products instead of detached or 2-storys instead of 1-story. But $40 is still a pretty good number.

Joel Locker - FBN Securities, Inc., Research Division

All right. And on your underwriting you have, do you include any appreciation on the home price or the cost side?

Allan P. Merrill

We don't. And that's a stubbornness on my part. My view is I'd rather know what return I'm bargaining for. If everything stays the same, rather than at this point in the cycle trying to be smart enough to guestimate what might happen to prices at this location at specific dates in the future and what might happen with labor, materials, cost, by trade at this location in the future, it does end up being opportunities to make lots and lots of assumptions and I think adding up more and more assumptions doesn't make the analysis more accurate.

Joel Locker - FBN Securities, Inc., Research Division

All right and but what about hurdle rates, do you have a minimum IRR just -- I mean...

Allan P. Merrill

We do Joel and I -- others are probably going to hang up now because they're tired of me talking about it but we use what we call modified internal rate of returns, it's actually an Excel thing, we didn't invent it, but we forced the reinvestment rate in our cash flows to 15%, which is kind of a rough proxy for a unlevered cost to capital, and that therefore compresses a lot of IRRs with a 15% investment rate are really dramatically reduced in the MIRR math, but we target 20% -- we targeted 20% MIRR.

Joel Locker - FBN Securities, Inc., Research Division

All right. And you still find a deal at those range?

Allan P. Merrill

We are and we've done deals above that, and we've done a few deals below that. And my view is, is 19% okay? It might be in a particular location with a specific risk profile. But I'd rather consciously make that bet than convince myself it was a 20%, because we were smart enough to guess by how much prices we're going to increase in March of 2016.

Operator

Next question comes from Alex Barrón from Housing Research Center.

Alex Barrón - Housing Research Center, LLC

I guess I was just saying that I'm trying to get my arms around the SG&A this quarter and how it relates to the remainder of the year. I was just trying to figure out if there is anything that's onetime in nature, I know you mentioned you're opening new communities, but I guess that's -- I'm assuming that's going to continue to happen every quarter?

Allan P. Merrill

Yes with that I think -- let me help you with that, Alex. SG&A in dollar terms will be higher in third and fourth quarter than it was this quarter. But lower in percentage of revenue terms and focus on 12.5% to 13% for the full year.

Operator

Our last question comes from Michael Rehaut from JPMorgan.

Michael Jason Rehaut - JP Morgan Chase & Co, Research Division

Just circling back to a couple of things, I just wanted to make sure I understood. A little clarifications if you will. First, Allan, if risk is going back on the incentives question, and I appreciate all the additional detail and thoughts around that, but I was hoping also to get a sense, I mean, you mentioned that pricing was kind of inching upwards across the footprint. Incentives down 1% year-over-year and again, understanding incentives aren't the end on deal, but just directionally, what did you see in incentives as well on a sequential basis this past quarter versus the previous quarter?

Allan P. Merrill

Boy, when you go from October, the first day of the previous quarter to March, the last day of the most recent quarter. Obviously, you're covering from tip to tip, really different environments, seasonal patterns and otherwise. So I have to tell you, I think that the sequential change for the quarters was pretty modest. Certainly less than a point in terms of improvement. I think it was modest improvement, but I just don’t spend a lot of time thinking about that and I'm sorry I don't have a metric for you. It didn't feel like we did things very differently. And so, when we end up looking at numbers at the end of the quarter, the weighted average moves a little bit but there wasn't any -- there was no enduring or searing message that sort of comes through there. I'm sorry I don't have anything better for you.

Michael Jason Rehaut - JP Morgan Chase & Co, Research Division

No that's fine. So then basically, you are saying is the -- you think it's essentially stable, more or less?

Allan P. Merrill

Yes. I think it's essentially stable.

Michael Jason Rehaut - JP Morgan Chase & Co, Research Division

Okay. And then also, again just a clarification, Bob, on that interest question, in terms of the savings from the actions you did on the debt side, given where your inventory levels are, all else equal, in other words, not assuming any changes going forward, that wouldn't have any type of at least immediate impact on that, let's say the $16 million that you did in the first quarter that was not qualified, that's more of -- it's still kind of relates more to the direction of the inventory balance?

Robert L. Salomon

Well, I think it's absolutely true Michael that our interest expense going forward will be less. So therefore, all things being equal, we will drop a bit less into the income statement because of that. As inventory improves and continues to grow, that will ratably also decease the interest expense below the line as we move forward.

Allan P. Merrill

But I think the simpler way to think about it, is if you kept inventory exactly flat, that savings would dollar for dollar show up in the disqualified interest, that's the only place it would go. What Bob was trying to give you Michael, is a little more nuanced view that we expect the inventory balance is going to grow. So there are going to be a couple of things reducing the interest below the line in subsequent quarters.

Michael Jason Rehaut - JP Morgan Chase & Co, Research Division

Right, right. Well that's what I was getting at in that. You already had that first driver of -- as inventory balance grows, but aside from that, with this action you did $60 million last year, you had a -- you're going to expect roughly $8 million in savings, so inventory balance aside, you're starting from a $8 million lower base.

Robert L. Salomon

Yes, figure about $2 million a quarter.

Operator

That concludes today's conference. Thank you all for participating. You may now disconnect.

Copyright policy: All transcripts on this site are the copyright of Seeking Alpha. However, we view them as an important resource for bloggers and journalists, and are excited to contribute to the democratization of financial information on the Internet. (Until now investors have had to pay thousands of dollars in subscription fees for transcripts.) So our reproduction policy is as follows: You may quote up to 400 words of any transcript on the condition that you attribute the transcript to Seeking Alpha and either link to the original transcript or to www.SeekingAlpha.com. All other use is prohibited.

THE INFORMATION CONTAINED HERE IS A TEXTUAL REPRESENTATION OF THE APPLICABLE COMPANY'S CONFERENCE CALL, CONFERENCE PRESENTATION OR OTHER AUDIO PRESENTATION, AND WHILE EFFORTS ARE MADE TO PROVIDE AN ACCURATE TRANSCRIPTION, THERE MAY BE MATERIAL ERRORS, OMISSIONS, OR INACCURACIES IN THE REPORTING OF THE SUBSTANCE OF THE AUDIO PRESENTATIONS. IN NO WAY DOES SEEKING ALPHA ASSUME ANY RESPONSIBILITY FOR ANY INVESTMENT OR OTHER DECISIONS MADE BASED UPON THE INFORMATION PROVIDED ON THIS WEB SITE OR IN ANY TRANSCRIPT. USERS ARE ADVISED TO REVIEW THE APPLICABLE COMPANY'S AUDIO PRESENTATION ITSELF AND THE APPLICABLE COMPANY'S SEC FILINGS BEFORE MAKING ANY INVESTMENT OR OTHER DECISIONS.

If you have any additional questions about our online transcripts, please contact us at: transcripts@seekingalpha.com. Thank you!

Source: Beazer Homes USA Management Discusses Q2 2014 Results - Earnings Call Transcript
This Transcript
All Transcripts