Q2 2024 Earnings Summary
- Strong demand is continuing into the third quarter, with May sales per community per month at 2.4, better than normal seasonal trends, indicating robust buyer interest.
- Toll Brothers has good visibility into future growth, controlling sufficient land to grow community count in 2025 and 2026, with a healthy flow of land deals meeting their underwriting standards.
- The company is effectively managing costs and improving productivity, with general and administrative expenses flat year-over-year despite increased community count, leveraging technological investments to enhance efficiency.
- The company's increasing reliance on spec home sales, which carry lower margins due to lower lot premiums, fewer upgrades, and higher incentives, could lead to overall margin compression in future periods. In the second half of the fiscal year, spec deliveries are expected to far exceed 50% of total deliveries, and the spec margins are anticipated to be lower than in the first half. , ,
- Anticipated increases in SG&A expenses due to inflationary pressures, higher marketing costs associated with selling spec homes, and upfront costs of opening new communities could reduce profitability margins in upcoming quarters. The company acknowledges that SG&A as a percentage of sales is expected to tick up due to these factors.
- Rising land costs could pressure future margins. The company noted that land cost inflation is running at around 5% per year, and only 42% of their lots were contracted prior to 2021. As they acquire new lots at higher prices, they may face challenges maintaining margins if they cannot pass these costs onto buyers.
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Gross Margin Outlook
Q: Why will gross margins settle at 27%-28% despite positive trends?
A: Management expects gross margins to settle in the 27% to 28% range long term due to a higher concentration of lower-margin spec home deliveries in the second half, increased incentives on completed specs, and building on lower-premium lots. While they are encouraged by recent strong trends, they cautiously maintain this guidance to balance gross margin with revenue growth and achieve high returns on equity. -
Spec Homes Impact on Margins
Q: How do spec homes affect your gross margins?
A: Spec homes generally carry lower gross margins because they are built on less valuable lots with lower premiums, include fewer upgrades (which are typically margin accretive), and may require higher incentives if sold upon completion. Despite lower margins, spec homes expand our market by appealing to buyers who want to move in sooner. -
Land Pipeline and Community Growth
Q: Can you sustain community count growth with current lot inventory?
A: We have sufficient land controlled to grow community count 10% in '24 over '23 and continue this growth into 2025 and 2026. With approximately 70,000 lots, we're well-positioned to support long-term growth without needing significant increases in lot acquisitions. We are also seeing a strong deal flow of 10 to 25 deals a week, ensuring future growth. -
SG&A Leverage and Operating Margins
Q: How are you achieving SG&A leverage, and is it sustainable?
A: Our SG&A expenses have remained flat year-over-year despite increased revenue due to operational efficiencies and technological investments. We're getting more done with the same or fewer people, having implemented new ERP, CRM, and HR systems that enhance productivity. This contributes to improved operating margins. -
M&A Strategy and Market Expansion
Q: What is your approach to M&A in the current landscape?
A: While the M&A market is active, we're focusing on organic growth within our existing geographic footprint. We're acquiring land opportunities from smaller builders facing capital constraints but are cautious about acquisitions that require paying a premium. M&A isn't off the table, but we're being selective and careful. -
Impact of Resale Inventory in Florida
Q: How is rising resale inventory in Florida affecting your business?
A: Despite modest increases in resale inventory in some Florida markets, we aren't seeing a significant impact on our business. Florida remains a solid good market, with recent sales being strong, and we have no concerns about these trends affecting our performance. -
Brokerage Commissions and SG&A Impact
Q: How are changes in brokerage commissions affecting SG&A?
A: Brokerage commissions are coming down industry-wide, and we're reducing them in many markets from around 2.5%-3% to 2%-2.5%, with some markets moving to flat fees. This trend is a tailwind on the selling expense component of SG&A, improving our cost structure. -
Order Trends and Seasonal Cadence
Q: How are orders trending, and will spec homes affect seasonality?
A: Early indications in May show order rates higher than historical trends, with sales per community per month at 2.4, surpassing normal seasonal expectations. Although the third quarter is typically down about 15% from the second, we're currently performing better, partly due to increased spec home offerings that attract buyers wanting to move in sooner. -
Land Cost Inflation
Q: How should we model lot cost inflation over the next few years?
A: Lot costs have been increasing at about 5%, which is a reasonable rate to model for future inflation. Additionally, 42% of our lots were contracted before 2021, helping us manage costs despite market pressures.