TRI Pointe Homes' (TPH) CEO Doug Bauer on Q2 2014 Results - Earnings Call Transcript

Aug. 9.14 | About: TRI Pointe (TPH)

TRI Pointe Homes (NYSE:TPH)

Q2 2014 Earnings Conference Call

August 7, 2014 10:00 AM ET

Executives

Glen Keeler - VP and Corporate Controller

Doug Bauer - CEO

Mike Grubbs - CFO

Tom Mitchell - COO and President

Analysts

Mark Weintraub - Buckingham Research

Will Randall - Citigroup

Rob Hansen - Deutsche Bank

Allen Ratner - Zelman and Associates

Steve Stelmach - FBR

Brendan Lynch – Sidoti

Jay McCanless - Sterne Agee

Alex Barron - Housing Research Center

Operator

Greetings and welcome to the TRI Pointe Homes Second Quarter 2014 Earnings Results Conference Call. At this time all participants are in a listen-only mode. A brief question-and-answer session will follow the formal presentation. (Operator Instructions). As a reminder, this conference is being recorded.

It is now my pleasure to introduce your host, Glen Keeler, Chief Accounting Officer. Thank you, you may begin.

Glen Keeler

Good morning. Welcome to TRI Pointe Homes second quarter 2014 earnings conference call. Earlier today, the Company released its financial results for the quarter. Documents detailing these results are available on the Company's Investor Relations website at www.tripointehomes.com.

Before the call begin, I would like to remind everyone that certain statements made in the course of this call are not based on historical information and constitute forward-looking statements. These statements are based on management's current expectations and beliefs and are subject to a number of risks and uncertainties that could cause actual results to differ materially from those described or implied in these forward-looking statements.

I refer you to the Company's filings made with SEC for a more detailed discussion of the risks and factors that could cause actual results to differ materially from those expressed or implied in any forward-looking statements made today. The Company undertakes no duty to update these forward-looking statements that are made during the course of this call.

Additionally, non-GAAP financial measures will be discussed on this conference call. The Company's presentation of this information is not intended to be considered in isolation or as a substitute for the financial information presented in accordance with GAAP. Reconciliations of these non-GAAP financial measures to the most comparable measures prepared in accordance with GAAP can be accessed through the filings with the SEC at www.sec.gov.

Hosting the call today is Doug Bauer, TRI Pointe Homes’ Chief Executive Officer; Mike Grubbs, the Company's Chief Financial Officer; and Tom Mitchell, the Company’s Chief Operating Officer and President.

With that, I will now turn the call over to Doug.

Doug Bauer

Thank you, Glen, I would also like welcome everyone to today’s call. Legacy TRI Pointe Homes again delivered across all financial metrics during the second quarter of 2014 which continues to reflect our management’s strength and our emphasis on growth.

Net income was 6.1 million and $0.19 per diluted share is nearly three times the prior year period. New home orders increased 45% to 190 and we had an average 12.3 active selling communities. Home sales revenue grew 84% to 87.3 million and gross margins increased 440 basis points to 23.7% compared to the same period a year ago.

We also remained active in the land market acquiring 198 lots valued at $36.4 million ending the quarter with 3,828 lots owned or controlled. This activity will continue to provide future growth. Subsequent to quarter end on July 7th, we closed the merger with WRECO, the homebuilding subsidiary of Weyerhaeuser. We were very proud that our TRI Pointe team accomplished these excellent results while also completing this merger with WRECO which is solid evidence of the capacities and depth at the Company. To that end, I would like to thank our team for their focus and dedication in completing this transformational transaction.

Needless to say, we are very excited about the combination of TRI Pointe Homes with these five great homebuilding companies that offer leading brands, experienced leadership, and what we consider to be some of the best long-term housing markets in the country.

The first is Maracay Homes, which was founded in 1994 and purchased by WRECO in 2006. Maracay operates in the premium first-time and move-up market segments of Phoenix and Tucson with base prices ranging from the low $200,000 to the high 400,000 while owning or controlling over 2,500 lots.

The second is Pardee Homes the largest of the WRECO companies was found in 1921 and purchased by Weyerhaeuser in 1969. It is primarily engaged in the construction sales of single family homes and the development of master plan communities in southern California and Las Vegas. The company’s base prices range from the low $200,000 in the Inland Empire and Las Vegas markets to $1 million in the San Diego area. Pardee owns or controls nearly 19,000 lots of which over 5000 lots are located in San Diego with the company is the number one builder.

The third is Quadrant Homes, which is founded in 1956 and acquired by Weyerhaeuser in 1969 operating in the Puget Sound region of Washington State. The company owns or controls over 1,300 lots in this region and operates in move-up urban infill, and luxury market segments with base prices ranging from the low $300,000 to over $900,000.

The fourth is Trendmaker Homes which is founded in 1971 and was purchased by WRECO in 1980. Trendmaker Homes operates in the premium up-move segment of the Houston market, offering product in the high $300,000 to nearly $700,000 range while owning or controlling over 1,800 lots.

Lastly Winchester Homes was founded WRECO in 1979, operating in the Washington DC suburbs and the Northern Virginia market. The company operates in the move-up and custom home segments offering product in the high $300,000 range to over $1 million in Northern Virginia while owning or controlling over 3,100 lots.

Now, I would like to give some information on WRECO’s performance for the second quarter 2014 compared to the same period in the prior year. Since the transaction closed in July 7, 2014, these results were included in Weyerhaeuser’s results for the second quarter ending June 30, 2014, and were included in TRI Pointe's results, Form 10-Q or earnings release.

Later today we will post on our website a supplemental information package which will reflect the last ten quarters of key operational and financial data related to the WRECO homebuilding companies. Please note that this data does not reflect the changes that we expect WRECO will experience in the future as a result of joining TRI Pointe including changes in the financing cost structure and personal needs of the combined businesses.

Despite some of the softening market conditions during the second quarter, the WRECO homebuilding companies achieved 763 new home orders from an average of 99 active selling communities as compared to 947 orders from an average of 85 active selling communities in the prior year. The decrease in orders impacted the number of homes and backlog which ended the quarter at 1,191 homes compared to 1,449 homes in the prior period.

However, it marked an increase compare to the first quarter of 2014 up from 1,056. Despite those lower units and backlog compared to the prior year period, the dollar value of backlog increased to $670 million, compared to $666 million as a result of an increase in the average sales price of homes and backlog of 22% to $563,000 compared to $460,000 in the prior period.

The WRECO homebuilding companies also expanded on several financial metrics during the second quarter of 2014. Home sales revenue increased 20% to $310 million as compared to the $258 million in the prior year period on similar unit deliveries of 628 compared to 636 in the prior year. The average sales price of homes delivered increased 22% to $493,000 to the second quarter of 2014 compared to $405,000 in the prior year.

Homebuilding gross margins were consistent at 21.6% for both the second quarter of 2014 and 2013. Selling, general and administrative expenses as a percentage of home sales revenue improved to 13.6% compared to 16.1% in the prior year. WRECO’s historical SG&A includes an allocation of Weyerhaeuser that may not be indicative of the actual level of expense that will be incurred by WRECO now it is part of the Company. Finally net income increased 188% to 24.2 million compared to 8.4 million in the prior year.

With the length and complexity of this merger now behind us, the TRI Pointe management team is excited about building of what is already a strong foundation at the five WRECO homebuilding companies and delivering long-term annual growth for our shareholders.

Looking forward the new TRI Pointe is well positioned as we move in to 2015 and beyond base on the following key drivers. First with the combined 3,100 lots under control including 19,000 in supply-constrained California and Las Vegas, we have the roadmap to generate substantial cash flow and profits from both land sales and homebuilding for several years.

Second as a pure play home builder with our proven growth-oriented leadership, we will focus to five WRECO homebuilding companies on profitability and growth versus a subsidiary of a timber-focused company.

And third with the size and scale of the new combined Company, we have the opportunity to generate incremental income from additional sources like mortgage, insurance, escrow, and increasing the power of our national purchasing program.

TRI Pointe’s management team will focus on the following key objectives in an effort to ensure the success of the new combined company.

First, it increases cycle times resulting in growth of new home deliveries with a focus on reducing spending and capturing other operational efficiencies across all brands in each of our markets.

Second, utilizing our long California land position at Pardee we plan to increase deliveries and continue to look at selected land sales that will generate cash lump profits to be reinvested in the homebuilding business.

And third, remaining disciplined in our land acquisition strategy that focuses on locations along major transportation employment centers, turning projects in the point of sale to close out at approximately 36 months.

In summary, the future value of these five homebuilding companies along with legacy TRI Pointe resides in growing earnings through a well-disciplined and proven operating strategy. We understand that it will take solid execution on our part as we have demonstrated since starting our company in 2009. This will capitalize the company that is prudently leveraged is well positioned to drive long-term growth, utilizing our excellent assets experience and vision to be a next generation home builder will allow our shareholder, employees and trade partners to transfer for the long-term.

As a result of our successful completion of the retail transition and the completion of the reverse Morris Trust we believe it is important to provide some sense of earnings power of the combined Company as we look out beyond 2014.

One of the reasons we decided to provide initial guidance for more than a year out is that it's difficult to determine the relevance of our 2014 earnings due to one-time non-recurring expenses and purchase price accounting adjustments that will significantly overshadow the results.

Additionally, given the structure of the transaction as a reverse Morris Trust, the net legacy TRI Pointe’s historical financial results will go away. We wanted to provide some additional transparency on a more stabilized operations and growth profile as a combined Company.

Consequently in 2015 we expect to grow new home deliveries in excess of 25% over the 2014 combined deliveries of legacy TRI Pointe Homes and WRECO along with land sales consistent the previous historical volumes at the WRECO home building companies. To that end we are providing an initial EPS range of 1.25 to 1.40 for 2015.

We believe these earnings expectations in 2015 help to demonstrate the increased scale and established footprint of the combined company. Further as we continue to implement our strategic goals and objectives our newly acquired WRECO assets for future growth we believe TRI Pointe should inherently be able to improve its profitability and cash flow.

With that I’d like to turn the call over to Mike to discuss legacy TRI Pointe's quarter in more detail and provide some additional guidance for the remaining six months of 2014. Mike?

Mike Grubbs

Thanks Doug and good morning. I would also like to welcome everyone to today’s call. This morning I’m going to highlight some of the results and key financial metrics from our second quarter for legacy TRI Pointe, provide some clarity regarding the reverse Morris Trust transaction accounting and our expectations and outlook for the third quarter and remaining six months of 2014 for the combined Company. We’ll then open it up for some questions.

As Doug mentioned we’re very pleased with our results for legacy TRI Pointe second quarter, our home sales revenue is 87.3 million on a 103 deliveries with an average sales price of 848,000. Our home building gross margins improved to 23.7% while our SG&A expense as a percentage of home sales revenue improved 11.2% for the quarter, which resulted in net income of 6.1 million or $0.19 per diluted share or $0.20 per diluted share excluding the retail related transaction expenses incurred during the quarter.

As for our selling communities we opened six new communities during the second quarter, three in Southern California, two in North California and one in Colorado. We also closed two communities both of which were in Southern California leaving us with 14 after selling locations. For the second quarter we averaged 12.3 selling locations versus 6.8 selling communities during the same period last year and 10 selling communities in the first quarter of 2014.

We continued to see strong absorption rates in our communities with 5.2 orders per month per average selling community during the second quarter of 2014 which was an increase sequentially from an absorption rate of 4.6 orders per month from the previous quarter. Our cancellation rate for the second quarter was 9% compared to 8% from last quarter and 6% for the comparable period over a year ago. Our new home order activity resulted in quarter ending backlog of 282 homes, up 54% compared to the same period in the prior year with an average sales price in backlog of 822,000 up 40% as compared to 2013.

Meanwhile our dollar value of backlog increased to 115% year-over-year to 232 million. The increase in the average sales price of homes and backlog was largely due to the change in product mix so more of a move-up product at our communities compared with prior year.

As we have communicated previously our average sales price for homes delivery will decline during the second half of the year for legacy TRI Pointe as we [indiscernible] delivery homes for some of our newer communities. During the quarter TRI Pointe converted 53% of our 2014 first quarter ending backlog by delivering 103 homes with an average price of 848,000.

Our average sales price increased 7% sequentially from 791,000 last quarter and 62% year-over-year from 522,000 in the second quarter of 2013. Once again between the mix and the introduction of new projects our average sales price of homes delivered is expected to decrease in the second half of the year for legacy TRI Pointe. For home building gross margins we improved 23.7% compared to 22.5% in the first quarter of 2014 and 19.3% for the second quarter of 2013.

Excluding the interest in cost of home sales our adjusted home building gross margin was 24.3% for the quarter, an increase of 400 basis points from 20.3% for the same period in 2013. This improvement compared to the prior year is a direct result of the deliveries from our communities where we’ve been achieving an accelerated absorption pace along with increased pricing.

As we have previously mentioned and discussed our deliveries for the balance of the year will reflect a shift in mix to newer communities which have recently come to market. These communities have not achieved the same pricing increases resulting in slightly lower margins that we had achieved during the first half of 2014.

On the expense side, our SG&A expense increased to 9.8 million from 5.9 million in the second quarter of 2013, but SG&A expense as a percentage of home sales revenue improved to 11.2% or 120 basis points from 12.4% in the previous year’s quarter.

From a balance sheet perspective at the end of the quarter, we had approximately 26 million in cash on hand and 542 million of real estate inventory. During the quarter in anticipation of the merger transaction closing, we entered into and closed a $425 million unsecured revolving credit facilities which replace and fully paid off our previous credit facilities and project loans.

As of June 30, 2014, we had outstanding revolver debt of 210 million at an average interest of approximately 3% and our ratio of net debt to capital was 37.6%. I want to take a little time really to discuss the WRECO transaction and make sure everyone understand the accounting treatment as a basis to move forward primarily given the complexity of Reverse Morris Trust transaction.

In this transaction, WRECO is considered to be the accounting acquirer and legacy TRI Pointe is the accounting acquiree therefore as Doug mentioned the consolidated financial statements for all periods prior to the confirmation of the transaction will only reflect the historical consolidated financial statements of WRECO.

As I mentioned, legacy TRI Pointe is considered to be accounting acquiree therefore WRECO will apply purchase accounting to the assets and liabilities of TRI Ponte. In addition the purchase consideration in reverse acquisition is determined with reference to the value of the accounting acquiree Tri Pointe. The purchase consideration is based on the closing price of TRI Pointe’s common stock on July 7th of $15.85, times the outstanding shares of TRI Pointe which was approximately 500 million.

This amount has been added to the equity value of WRECO to arrive at the starting balance of approximately 1.4 billion in equity for the combined company. While we have not completed our purchase price accounting related to the fair value of TRI Pointe assets and liabilities, we felt that it is really important to be able to give you some approximate starting points from a balance sheet purpose.

TRI Pointe and WRECO's real estate inventory was approximately 500 million and 1.5 billion as of June 30th respectively. To provide a sense of the potential impact of the fair value on TRI Pointe's real estate inventory in our March 31, 2014 pro forma financials included in our filings with the SEC the projected increased inventory was approximately 27 million. As such we were estimating the beginning real estate inventory balance to be approximately 2 billion.

As far as debt outstanding, TRI Pointe assumes the 900 million of senior notes issued by WRECO upon the closing of the transaction, 739 million of the 868 million net proceeds were distributed to Weyerhaeuser for the terms of the transaction agreement. In addition to the 900 million of senior notes, TRI Pointe has 210 million outstanding under its 425 million unsecured revolving credit facility for a total balance of debt of over 1.1 billion with the combined company.

In addition, there will be goodwill of approximately 150 million to 170 million depending on the final determination of purchase price accounting. At the close date of July 7th total cash for the combined company was approximately 150 million and there was an additional liquidity of approximately 215 million in our unsecured revolver.

I also want to take a moment to address our book value, it is important to understand that the structure of the merger was that of Reverse Morris Trust which WRECO as the accounting acquirer. In a tradition merger, WRECO’s asset would have recorded at fair value but due to the unique nature of Reverse Morris Trust the assets of WRECO come over their original basis. We feel this is one of the advantages of this transaction as there are a number of assets that have basis well below their fair market value that will contribute growth and profitability to the combined Company going forward.

As we previously discussed, the real value of this transaction overtime is that this combined company will have greater earnings and cash flow than legacy TRI Pointe platform. Furthermore, as Doug explained, we also plan to increase deliveries and opportunistically sell land where we can realize attractive returns through cycling inventory at a faster rate to generate the increased profitability and cash flow to either pay that debt or fund future growth.

I would like to now give some color for the balance of 2014 related to the combined company. We are establishing guidance for the remaining six months of 2014 for deliveries in a range of 2,000 to 2,100 homes which will generate home sales revenue of 1.1 billion to 1.2 billion representing the combined average sales price of 550,000.

For the remaining months of 2014, we expect to open 25 new communities offset by taking final orders of 16 communities resulting in 123 active selling communities as of December 31, 2014.

During the third quarter we expect to deliver approximately 55% of our combined 1,473 units in backlog as of June 30, 2014. In addition as previously discussed our third quarter results will be negatively impacted by approximately 35 million to 40 million of the 46 million one-time non-recurring expenses related to advisory, legal, accounting, finance, transition and other related expenses as previously outlined in our filings with the SEC.

In addition we anticipate how the negative impact on our gross margin related to the purchase accounting adjustment for legacy TRI Pointe real estate inventory which will be marked after fair value resulting in an increase to cost of sales for the balance of 2014 and beyond.

To provide a sense the potential impact, the impact of cost of sales reflected in our March 31, 2014 pro forma financial statements included in our filings with the SEC was approximately 23 million for the full year 2014. Finally as we discussed since WRECO is the accounting acquirer the basis of the weighted average number of common shares outstanding for the first quarter and second quarter 2014 is that of WRECO which was 129.7 million shares. TRI Pointe’s 31.6 million shares are added to WRECO shares outstanding upon close.

As such we are expecting weighted average shares without considering the dilutive impact of outstanding equity awards to be approximately 158.9 million shares for the three months ended September 30, 2014, 161.3 million shares for the three months ended December 31, 2014 and 145 million shares for the full year 2014.

Finally, as Doug touched on, for 2015 our preliminary expectations for earnings per diluted share will range from $1.25 to $1.40.

With that we’d now like to turn the call back over to the operator and take some questions.

Question-and-Answer Session

Operator

Thank you. We will now be conducting a question-and-answer session. (Operator Instructions) Thank you. Our first question comes from the line of Mark Weintraub with Buckingham Research. Please proceed with your question.

Mark Weintraub - Buckingham Research

Thank you. Two questions. First, if you could, you had indicated that in the 2015 guidance you were assuming I believe land sales fairly consistent with historical WRECO. Could you frame for us roughly what historical WRECO land sales had been totaling?

Doug Bauer

Hi Mark this is Doug. Land sales historically have been recurring item for the party companies and throughout the WRECO organization and over the last five years it’s averaged nearly $100 million.

Mark Weintraub - Buckingham Research

Okay, great. And then second, just on the step up of basis, that was very helpful. Is it fair to assume that about $23 million, roughly half of it would probably show up in the third quarter, is that a reasonable way to think of it?

Doug Bauer

Yes, Mark for anything other than that that’s probably a fair assumption. I think it’s going to turn a little bit quicker in the third than it would in the fourth quarter, but we just have not completed our analysis to be able to determine that.

Mark Weintraub - Buckingham Research

Okay, great. And then most of the stepped up basis will have, not all I guess, but much of it will have played out through the second half of this year, is that correct?

Doug Bauer

It turns fairly quickly because they are higher margin projects are the ones that are delivering units in the next two to three quarters so it turns fairly quickly.

Operator

Our next question comes from the line of Will Randall with Citigroup. Please proceed with your question.

Will Randall - Citigroup

First, I just want to say congratulations on the progress, legacy TRI Pointe while completing this transformational acquisition. My first question, it seems like the biggest opportunity here, and you alluded to a couple of the points, the cycle times and obviously your asset turns on land, given the big book you’ve acquired. Can you talk about the opportunities there and how you plan to move the needle for I assume 2016 as it may take a year really to get the plan in place?

Tom Mitchell

Will, I didn’t make it out from the bill today.

Will Randall - Citigroup

Hi Tom.

Tom Mitchell

This is Tom. Yes, we’re excited about the opportunity obviously. We think that the operational efficiency we’re going to create will really have a pretty strong impact, but as you said over a little longer period of time approximately about 12 months to 24 months, and we’re going to look at all five of the companies and really turn it into what you would expect given your look at TRI Pointe over the last 18 months.

Will Randall - Citigroup

So, more of a merchant builder, if you will. As a follow up, thank you for the initial 2015 guidance. Can you walk us through...

Doug Bauer

I will just add to that and as I pointed out on my remarks, we are going to continue to not only look at cycle times but also by repositioning the assets and it’s really focused as we continue to focus since we started TRI Pointe 2009 and turning those assets from the start of sales to closings in 36 months. So those are obviously things that we've been successful in doing for the last five years and we think we can continue to improve on those type of operating philosophies as we put these companies together.

Will Randall – Citigroup

And then just on your 2015 guidance, directionally speaking, can you walk us through some of your operating assumptions? I know you don't want to quantify them, but just directionally how we should think about things like gross margin, SG&A, as well as top line drivers?

Mike Grubbs

Obviously dough mentioned the delivery account we are reflecting for 2014 roughly 2,100 units from that number you would add the combined first and second quarter obviously from a GAAP standpoint you would only add WRECO’s deliveries but we’re referring to the combined company when we’re saying that we think we’re going to have deliveries in excess of 25% of that number from the growth perspective. So that gets you around the 4,200, 4,300 units and we think we’ll potentially exceed that.

Talking about average sales price again we managed average sales prices around 550,000 that’s probably a fairly decent run rate for 2015 as well we’ll have look to at that number as we move forward and update everybody on that.

Margins from a perspective we mentioned that TRI Pointe legacy homebuilding margin is going to come in little a bit in the second half of this year -- WRECO from the historical perspective, their margins have been roughly around 21%, 21.5% historically I think for the balance of first part of this year. We see that maybe coming a little bit in the second half of year just based on the some of the softening of the markets. And then SG&A that’s certainly a big focus of our as we look out 12 to 24 months and it something that we were able to achieve here at legacy TRI Pointe, that is a big metric for us that we look to achieve operational efficiencies over the next couple of years around 100 basis points a year.

Doug Bauer

Well, we think this is a good starting point in light of current market conditions and its significant growth in light of where the current market is, so we’re very proud of where we believe this combined company is going to go in 2015 after you go through this tough period and onetime adjustments of 2014.

Operator

Our next question comes from the line of Nishu Sood with Deutsche Bank. Please proceed with your question.

Rob Hansen - Deutsche Bank

Thanks. This is Rob Hansen on for Nishu. So I think Pardee had somewhere around 19,000 lots or so. What -- like how much would you consider kind of excess on a lot basis? And how do you think about -- once you deploy that, once you sell that land -- you talked about $100 million in land sales per year, how do you think about deploying that cash? Where is it going to go to? Is it going to go towards debt repayment or are you going to funnel it back into land elsewhere? How do you think about all that?

Doug Bauer

As Mike mentioned, we will look to increase those returns in cycle inventory and land sales as part of our recurrent -- part of our business to either fund future growth in the homebuilding business and to our pay down debt. We’ve indicated over the length of our company that we want to keep a prudent balance sheet and keep our debt to capital at below 50%, so all those things will be factored into the increase cash flow and profitability of the company.

Rob Hansen - Deutsche Bank

Okay and then just wanted to kind of return to the guidance for -- for a moment. We really appreciate that. And I know you haven't given any numbers, but in terms of SG&A and I'm not asking for necessarily next year, but just kind of a long-term target, what is the goal ultimately to have that as kind of a percentage of revenues now that you have the much larger company?

Doug Bauer

Historically builders of this size would be somewhere in 11% range, the WRECO companies at the end of the second quarter were north of 14% as I indicated in my remarks, so we'll like to see over the next three years a gradual reduction to where we think the industry is more normally situated.

Rob Hansen - Deutsche Bank

Okay. And on that 14%, how much of that was just due to the allocation to Weyerhaeuser?

Doug Bauer

It’s a combination of overhead and selling, its combination of all factors.

Operator

Our next question comes from the line of Allen Ratner with Zelman and Associates. Please proceed with your question.

Allen Ratner - Zelman and Associates

Doug, just on the comment about focusing on the turns on WRECO’s assets, I was hoping you could give us a little bit of insight on how you think about absorptions going forward. If you look at the TRI Pointe absorption rate up to this point, you guys have done a fantastic job, absorptions have been in the five per month range and obviously that’s not necessarily a sustainable level as the company grows, but WRECO’s absorption is more in the two to three per month range.

So when you say focusing on the turns do you see an opportunity to really bring that absorption rate closer to legacy TRI Pointe, or is that something that you think maybe two to three is more normal thinking about going forward?

Tom Mitchell

Hi Allen this is Tom. It’s a good question one we’ve been working quite a bit on. Obviously absorption is fairly dependent on individual market. So there is a variety as we look at the different WRECO companies there. But I think the goal is to try to optimize each one of those companies and get it to perform at little higher turns. I think we’d be targeting in that 2 to 4 range versus some of the 2 to 3 ranges that you see currently in the WRECO companies. And likewise, I think at TRI Pointe we’ll have a little acceleration from that, but four would be more the norm than over 5 we’ve experiencing lately.

Doug Bauer

The other part of our operating philosophy in cycle times Allen is also construction cycle times, the various companies build in some premium product stand points and we think there is some efficiencies and looking at how they establish a fact and deliver their product. So that’s the other thing that we’re referring to also when you look at the Winchester to Quadrant to Maracay to Trendmaker brands. We’re very cognizant of starting communities and selling them out in 36 months. So it’s not just absorption it’s also improving on construction cycle times.

Allen Ratner - Zelman and Associates

And just thinking about that absorption goal to improve those, what are the leverage you see at least in near term you see yourself focusing on on those, is it more pricing, is it changing the product to drive better selling pace, is it specking more? What are the ways you’re thinking about that as far as improving that absorption pace from the legacy WRECO?

Doug Bauer

I think it’s a combination of all those factors and also the fact that we as a historical TRI Pointe company have always focused more on the balancing and looking at each community from the ground up as far as maintaining pace and pricing in each one of the sub markets and I think that's something that we can continue to improve on with these company.

Allen Ratner - Zelman and Associates

Allen, the other thing I think we can do relative to some immediate results just really have the marketing and merchandising efforts be more consistent with how you’re seeing TRI Pointe product implemented. But we’ll be looking at future go forward products as well and I think we’ve got a great opportunity to have some success there.

Operator

Our next question comes from the line Steve Stelmach with FBR. Please proceed with your question.

Steve Stelmach - FBR

Going back to the land question, I think on pro forma basis you guys are right around a nine year supply of land. Considering your increased target on increasing cycle times and on land sales, where should we think that number goes over the longer term? Maybe you’re comfortable at sort of higher end of peers, or do you want to get more towards the lower end of lot supplies?

Doug Bauer

Steve, this is Doug. We message and continue to believe that we like to see that get down into the five range overall, but you got to be careful when you take that nine obviously it’s based if you look on our investors they actually provided it’s heavily skewed by the Pardee company.

Steve Stelmach - FBR

Understood, yes.

Doug Bauer

And a little bit of Winchester that owns and controls 3,100 lots. If you take out those companies they’re actually very much wanted to TRI Pointe in that cycle three to five, three to four year range. And when I say that I’m always thinking forward. I know the street looks at LTM but Pardee and Winchester is where you’ll see that average come down. So the overall average will probably be in that five year range.

Steve Stelmach - FBR

Okay.

Doug Bauer

And Steve just one thing on that.

Steve Stelmach - FBR

Yes.

Doug Bauer

Obviously land sale is a component of that but also just increase volume, when you look at the community account growth and the volume growth it will naturally begin to skew that down to the lower middle end of the range.

Steve Stelmach - FBR

Absolutely, yes. And so how should we think about balance sheet and leverage under that scenario? A little bit more efficient, a little bit higher turn Doug, I think you mentioned the 50% net debt to cap, is there a bias to go lower, or more static sort of number where we're at in terms of leverage?

Mike Grubbs

We are currently running in the mid-40s, low 40s, we have net debt to cap and our tolerance level is around that 50%, so that's -- when me take about where we’ll use the capital from some of the land sales as we monetize some of the land to either pay down debt to be a little bit more conservative on the debt side and that we’ll also use that capital to look at opportunities for future growth. Getting into 50% range is not where we want to be.

Operator

(Operator Instructions) Our next question comes from the line of Brendan Lynch with Sidoti. Please proceed with your question.

Brendan Lynch – Sidoti

Doug, I appreciate your walking us through your markets and lot position, and Mike, your comments on the book value. In trying to get a fair value assessment of WRECO's inventory. Can you give us some color on vintage of the lots that you have there? And also a break down by raw, partially developed, and finished?

Mike Grubbs

Well, I mean I can give some sort of indication on vantage and really where most of that kind of situation is in Pardee, when you look at Riverside County assets and I believe we’re actually on the website today putting up the project table but you can also refer to project tables in our previous filings whereby we show all the lot counts by project by county by region.

When you look at Riverside County [indiscernible] of that is between 1989 and 2000, Los Angles County is somewhere between 1987 and the most recent asset was in 2004 I believe. San Diego we have properties back -- Pacific Highlands Ranches which is in 1979, it’s a very significant asset and has a value way above its basis. But anyway in San Diego between 1979, I think the most recent asset was 2004, most of those were purchased in the late 90s or 2000. And then Nevada is some of that 1989 but most of that's more new properties in 2011.

Doug Bauer

Yes, Brendan, in Las Vegas, were really down to one legacy project that we have there that Mike was referring back to back to 80s purchase, but other than that in Las Vegas we're really more acting as a merchant builder and doing more recent acquisition.

Brendan Lynch – Sidoti

And for these lots that date back many years, are you currently developing those and building homes on those or are you -- are those being held for development in the future?

Doug Bauer

Yes it's really a combination of both of those Brendan, most of the older ones are in active development but some of them had significant entitlement periods to them and have not hit that active development yet.

Brendan Lynch – Sidoti

And when we get to that point where those are -- you're getting more deliveries out of those -- would we be ready to expect expanded gross margins based on the low cost basis?

Doug Bauer

Well in generally yes, I mean, every assets is absolutely different and we’re not here to talk about and disclose margins on every assets that we have in our balance. I think the other thing you asked was kind of breakdown of inventory, you can see that in our previous filings, but roughly for WRECO that billion 5 that they have inventory that’s about 450 million of real estate and development or for sale and there is residential lots of roughly 500 million, land and development was about 300 million and then land held for future is about 250 million.

Operator

Our next question comes from the line of Jay McCanless with Sterne Agee. Please proceed with your question.

Jay McCanless - Sterne Agee

Thanks for taking my questions. I apologize if I missed this. But did you guys give a community count growth expectation for 2015?

Doug Bauer

We did not Jay. We just gave a community count for the balance of 2014.

Jay McCanless - Sterne Agee

Okay. And then my second question, it’s following on a little bit of what you just talked about in the prior question, what percentage if you would be willing to give that of that, sounds like roughly $1 billion in active inventory from WRECO? What percentage of that is going to be coming online over the next two years, three years, et cetera? And if you could, maybe give us an idea of whether that's California, good California land or if it's BC lots? Any kind of color about the quality of it would help also.

Doug Bauer

We don’t typically disclose that kind of information but you refer to two categories real estate and development for sale and residential lots, I mean that’s all active communities that are coming to market or at market right now and that market being available for sale and units under construction.

Operator

Our next question comes from the line of Alex Barron with Housing Research Center. Please proceed with your question.

Alex Barron - Housing Research Center

Good morning guys. And congrats on the quarter’s results and the merger. I wanted to I guess focus a little bit on the SG&A. Can you guys give us a sense of I guess what the percentage or the dollars would be fixed versus variable or how you guys are thinking about that going forward?

Doug Bauer

Yes, we’re not really guiding to any of those numbers Alex. I mean obviously as part of the transaction we’re eliminating duplicative corporate they had a home office, we have an office so you will see some impact of that moving into 2015 or is it fairly significant allocation from Weyerhaeuser that we've replaced those services here and there may be at potentially lower cost.

Mike Grubbs

But as we said earlier Alex I mean historically home building companies operating at an efficient level of about 11% in the WRECO companies that the second quarter was north of 14% we think over the next three years there is gradual improvement in the SG&A number and its both combination of variable and fixed cost. So we look at the total expense and continue to refine and create operating leverage. And frankly we create more efficiency by the increase in deliveries too. As we indicated we think deliveries will increase 25% or so into 2015.

Doug Bauer

As you know I mean most of the SG&A costs are obviously associated with people and we think we have people in place and we can leverage their talent to deliver more products.

Alex Barron - Housing Research Center

Got it. And then I guess just to get a little bit more clarity on the comment about the ASP going lower as we move into next year, so I’m guessing part of that is because the legacy TRI Pointe was obviously much higher than WRECO but within the Legacy TRI Pointe, are you also expecting the ASP to go down because of product mix?

Doug Bauer

Yes, I think we previously mentioned that on several calls Alex. I mean it’s probably our peak on ASP right now. I think our backlog or deliveries were 848 and 822. We see that number coming down because a lot of the newer communities and we’re opening 24 new communities this year, 26 new communities are at lower price points, they’re more easily located, less coastal we have some different in product mix. So our ASP naturally at legacy TRI Pointe was trending down.

Operator

Thank you. We have reached the end of the question-and-answer session. Mr. Bauer, I would now like to turn the floor back over to you for closing comments.

Doug Bauer

Thank you. And thank you everyone for attending today’s call. And we look forward to talking to you all at the end of the third quarter and sharing more about the future growth of the six fine home building companies. So again thank you for being part of todays call and look forward to next quarter.

Operator

Ladies and gentlemen, this does conclude today’s teleconference. You may disconnect your lines at this time. Thank you for your participation and have a wonderful day.

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