Q1 2025 Earnings Summary
- Management expects strong sequential growth in contracts in Q2, targeting 3,000 contracts, reflecting confidence in demand without needing to lower prices. They believe this is achievable "without much move in the pricing of the homes."
- The company is confident in maintaining strong gross margins of 27.25%, supported by a favorable mix toward higher-margin regions like the Pacific and more luxury products. They have a "great level of confidence in the conservatism we have brought to the pricing" to achieve their margin guidance.
- Toll Brothers' focus on affluent buyers shields it from affordability pressures affecting lower price segments. Approximately 26% of buyers paid all cash, and the average loan-to-value for buyers who took a mortgage was 68%, indicating the financial strength of their customer base. This allows the company to maintain demand and margins despite higher interest rates.
- Softening demand in key markets: The company reported softer demand in certain markets during the first quarter, including Jacksonville, Tampa, San Antonio, Phoenix, Reno, Salt Lake City, and Portland. This softness, particularly at lower price points, could negatively impact overall sales if it persists.
- Increase in inventory and cautious approach to new spec starts: Toll Brothers has seen a significant increase in inventory, particularly in construction in progress. They acknowledged that they are "pumping the brakes a little bit" on new spec home starts and are being more cautious, which could indicate concerns about future demand and potential challenges in selling existing inventory.
- Potential pressure on margins due to higher SG&A expenses and increased incentives: The company experienced higher SG&A expenses due to lower deliveries and increased selling and marketing costs. If the current mixed demand environment continues, they may need to offer more incentives to stimulate sales, which could pressure gross margins.
-
Gross Margin Outlook
Q: Can you maintain gross margins despite mixed markets?
A: Management reaffirms confidence in maintaining their gross margin guidance of 27.25% for the year, even if the mixed market conditions persist. They attribute this to a favorable mix shift towards higher-margin luxury homes and strategic management of incentives and pricing. The company is prepared to adjust between price and pace depending on market conditions. -
Spec Inventory Strategy
Q: How are you managing spec inventory levels?
A: The company increased spec homes under construction to meet their delivery guidance, with 3,200 specs at framing or beyond, 1,000 at foundation, and 1,600 at the permit stage. They plan to reduce new spec starts and are strategically timing construction based on market conditions and seasonality, focusing more on well-performing markets. -
Land Spend and Cost Inflation
Q: Will you adjust land spending if the market remains mixed?
A: If the spring selling season continues to be mixed, they plan to reduce land spending and be more conservative in certain markets. With a strong pipeline of owned and optioned land, they can continue growing communities without acquiring new land. Land cost inflation is modest at low to mid-single digits, and they are finding unique opportunities like converting suburban office properties to residential use. Approximately 30% of their land bank is still priced pre-COVID. -
Spring Selling Season Outlook
Q: What is your outlook on the spring selling season?
A: The company describes the spring selling season as "mixed." If this continues, they will adjust operations accordingly, including reducing land spend. They are confident in achieving 3,000 contracts in Q2 without significant changes to pricing, balancing their pace and price strategy. -
Market Conditions in Specific Regions
Q: Which markets are performing well or facing challenges?
A: Strong markets include Southern California and Washington D.C., with no negative impacts from wildfires or employment uncertainties. Softer markets in Q1 were Jacksonville, Tampa, San Antonio, Phoenix, Reno, Salt Lake City, and Portland, but recent activity shows some improvement in these areas. -
Buyer Behavior Amidst Higher Rates
Q: Are buyers returning despite higher interest rates?
A: In some markets, affluent buyers are proceeding with purchases, recognizing that rates may not decline significantly soon. Their buyers are less sensitive to rates, with 26% paying all cash and loan-to-value ratios at 68%. However, in areas with significant price appreciation or increased inventory, some buyers remain hesitant. -
SG&A Expenses and Leverage
Q: What's driving higher SG&A expenses in the first half?
A: Higher SG&A in the first half is mainly due to lower revenue levels. In the second half, increased revenue of $6.6 billion, up from $6 billion in the prior year, is expected to improve SG&A leverage, reducing expenses to the low 8% range. -
Spec Margin and Incentive Trends
Q: How are spec margins and incentives trending?
A: Spec margins are running about 200 to 250 basis points below average but performed better in Q1. Average incentives decreased from $68,000 in Q4 to $62,000 in Q1, and further down to $55,000 at the start of Q2. They are raising prices and reducing incentives in strong markets but may adjust in others as needed. -
Unique Land Acquisition Opportunities
Q: What opportunities are you seeing in land acquisition?
A: The company is capitalizing on unique opportunities, such as converting underutilized suburban office properties into residential developments. These deals often have easier entitlements and attractive margins, contributing to low land cost inflation. -
Spec Inventory Concentration
Q: Are specs mainly in lower price points?
A: Specs are distributed across all price points but lean towards the affordable luxury segment. They are more comfortable building specs for $800,000 homes than for those priced at $2 million or $3 million.