Good morning, and welcome to the First Quarter 2022 Earnings Conference Call for D.R. Horton, America’s Builder, the largest builder in the United States. I will now turn the call over to Jessica Hansen, Vice President of Investor Relations for D.R. Horton.

Thank you, Holly, and good morning. Welcome to our call to discuss our results for the first quarter of fiscal 2022. Before we get started, today’s call includes forward-looking statements as defined by the Private Securities Litigation Reform Act of 1995. Although D.R. Horton believes any such statements are based on reasonable assumptions, there is no assurance that actual outcomes will not be materially different. All forward-looking statements are based upon information available to D.R. Horton on the date of this conference call and D.R. Horton does not undertake any obligation to publicly update or revise any forward-looking statements. Additional information about factors that could lead to material changes in performance is contained in D.R. Horton’s Annual Report on Form 10-K, which is filed with the Securities and Exchange Commission. This morning’s earnings release can be found on our website at investor.drhorton.com, and we plan to file our 10-Q later today or tomorrow. After this call, we will post updated investor and supplementary data presentations to our Investor Relations site on the Presentations section under News and Events for your reference. Now, I will turn the call over to David Auld, our President and Chief Executive Officer.

Thank you, Jessica, and good morning. I am pleased to also be joined on this call by Mike Murray and Paul Romanowski, our Executive Vice Presidents and Co-Chief Operating Officers; and Bill Wheat, our Executive Vice President and Chief Financial Officer. The D.R. Horton team delivered an outstanding first quarter, highlighted by a 48% increase in earnings to $3.17 per diluted share. Our consolidated pretax income increased 45% to $1.5 billion. On a 19% increase in revenues our consolidated pretax profit margin improved 380 basis points to 21.2%. Our homebuilding return on inventory for the trailing 12 months ended December 31 was 38.5%, and our consolidated return on equity for the same period was 32.4%. These results reflect our experienced teams, their production capabilities and our ability to leverage D.R. Horton’s scale across our broad geographic footprint. Even with the recent rise in mortgage rates, housing market conditions remain very robust, and we are focused on maximizing returns while continuing to increase our market share. There are still significant challenges in the supply chain, including shortages in certain building materials and a very tight labor market. We are focused on building the infrastructure and processes to support a higher level of home starts while working to stabilize and then reduce construction cycle times to our historical norms. After starting construction on 25,500 homes this quarter, our homes in inventory increased 30% from a year ago to 54,800 homes with only 1,000 unsold completed homes across the nation. Our January home starts and net sales orders were in line with our targets, and we are well-positioned to achieve double-digit volume growth in 2022. We believe our strong balance sheet, liquidity and low leverage position us very well to operate effectively through changing economic conditions. We plan to maintain our flexible operational and financial position by generating strong cash flows from our homebuilding operations, while managing our product offerings, incentives, home pricing, sales pace and inventory levels to optimize returns. Mike?

Earnings for the first quarter of fiscal 2022 increased 48% to $3.17 per diluted share, compared to $2.14 per share in the prior year quarter. Net income for the quarter increased 44% to $1.1 billion, compared to $792 million. Our first quarter home sales revenues increased 17% to $6.7 billion on 18,396 homes closed, down from 18,739 homes closed in the prior year quarter. Our average closing price for the quarter was $361,800, up 19% from the prior year quarter, while the average size of our homes closed was down 1%. Paul?

Our net sales orders in the first quarter increased 5% to 21,522 homes, while the value increased 29% from the prior year to $8.3 billion. A year ago, our first quarter net sales orders were up 56% due to the surge in housing demand during the first year of the pandemic when we had significantly more completed homes available to sell and prior to the significant supply chain challenges we’ve experienced since. Our average number of active selling communities decreased 3% from the prior year quarter and was up 3% sequentially. Our average sales price on net sales orders in the first quarter was $383,600, up 22% from the prior year quarter. The cancellation rate for the first quarter was 15%, down from 18% in the prior year quarter. New home demand remains very strong despite the recent rise in mortgage rates. Our local teams are continuing to sell homes later in the construction cycle so we can better ensure the certainty of the home close date for our homebuyers, with virtually no sales occurring prior to the start of home construction. We plan to continue managing our sales pace in the same manner during the spring, and we expect our number of net sales orders in our second quarter to be equal to or up by no more than a low-single-digit percentage compared to the same quarter in the prior year. Our January home sales and net sales order volume were in line with our plans, and we are well-positioned to deliver double-digit volume growth in fiscal 2022 with 29,300 homes in backlog, 54,800 homes in inventory, a robust lot supply and strong trade and supplier relationships. Bill?

Our gross profit margin on home sales revenues in the first quarter was 27.4%, up 50 basis points sequentially from the September quarter. The increase in our gross margin from September to December reflects the broad strength of the housing market. The strong demand for homes combined with a limited supply has allowed us to continue to raise prices and maintain a very low level of sales incentives in most of our communities. On a per square foot basis, our home sales revenues were up 3.4% sequentially while our cost of sales per square foot increased 2.9%. We expect our construction and lot costs will continue to increase. However, with the strength of today’s market conditions, we expect to offset most cost pressures with price increases in the near term. We currently expect our home sales gross margin in the second quarter to be similar to or slightly better than the first quarter. Jessica?

In the first quarter, homebuilding SG&A expense as a percentage of revenues was 7.5%, down 40 basis points from 7.9% in the prior year quarter. Our homebuilding SG&A expense as a percentage of revenues was lower than any first quarter in our history, and we remain focused on controlling our SG&A while ensuring our infrastructure adequately supports our business. Paul?

We have increased our housing inventory in response to the strength of demand and are focused on expanding our production capabilities further. We started 25,500 homes during the quarter, up 12% from the first quarter last year, bringing our trailing 12-month starts to 94,200 homes. We ended the quarter with 54,800 homes in inventory, up 30% from a year ago. 25,600 of our total homes at December 31 were unsold, of which only 1,000 were completed. Our average construction cycle time for homes closed in the first quarter has increased by almost two weeks since our fourth quarter and two months from a year ago. Although we have not seen much improvement in the supply chain yet, we are focused on working to stabilize and then reduce our construction cycle times to historical norms. Mike?

At December 31, our homebuilding lot position consisted of approximately 550,000 lots, of which 24% were owned and 76% were controlled through purchase contracts. 23% of our total owned lots are finished and at least 47% of our controlled lots are or will be finished when we purchase them. Our growing and capital-efficient lot portfolio is a key to our strong competitive position and is supporting our efforts to increase our production volume to meet demand. Our first quarter homebuilding investments in lots, land and development totaled $2.2 billion, of which $1.2 billion was for finished lots, $570 million was for land development and $390 million was to acquire land. Paul?

Forestar, our majority-owned residential lot manufacturer, operates in 55 markets across 23 states. Forestar continues to execute extremely well and now expects to grow its lot deliveries this year to a range of 19,500 to 20,000 lots with a pretax profit margin of 13.5% to 14%. At December 31, Forestar’s owned and controlled lot position increased 33% from a year ago to 103,300 lots. 58% of Forestar’s owned lots are under contract with D.R. Horton or subject to a right of first offer based on executed purchase and sale agreements. $330 million of our finished lots purchased in the first quarter were from Forestar. Forestar is separately capitalized from D.R. Horton and had approximately $500 million of liquidity at quarter end with a net debt to capital ratio of 33.9%. With its current capitalization, strong lot supply and relationship with D.R. Horton, Forestar plans to continue profitably growing their business. Bill?

Financial services pretax income in the first quarter was $67.1 million with a pretax profit margin of 36.4% compared to $84.1 million and 44.9% in the prior year quarter. For the quarter, 98% of our mortgage company’s loan originations related to homes closed by our homebuilding operations, and our mortgage company handled the financing for 66% of our home buyers. FHA and VA loans accounted for 44% of the mortgage company’s volume. Borrowers originating loans with DHI Mortgage this quarter had an average FICO score of 721 and an average loan-to-value ratio of 88%. First-time homebuyers represented 55% of the closings handled by the mortgage company this quarter. Mike?

Our rental operations generated pretax income of $70.1 million on revenues of $156.5 million in the first quarter compared to $8.6 million of pretax income on revenues of $31.8 million in the same quarter of fiscal 2021. Our rental property inventory at December 31 was $1.2 billion compared to $386 million a year ago. We sold one multifamily rental property of 350 units for $76.2 million during the quarter. There were no sales of multifamily rental properties during the prior year quarter. We sold two single-family rental properties totaling 225 homes during the quarter for $80.3 million compared to one property sold in the prior year quarter for $31.8 million. At December 31, our rental property inventory included $519 million of multifamily rental properties and $642 million of single-family rental properties. As a reminder, our multifamily and single-family rental sales and inventories are reported in our rental segment and are not included in our homebuilding segment’s homes closed, revenues or inventories. In fiscal 2022, we continue to expect our rental operations to generate more than $700 million in revenues. We also expect to grow the inventory investment in our rental platform by more than $1 billion this year based on our current projects in development and our significant pipeline of future projects. We are positioning our rental operations to be a significant contributor to our revenues, profits and returns in future years. Bill?

Our balanced capital approach focuses on being disciplined, flexible and opportunistic. During the three months ended December, our cash used in homebuilding operations was $115 million as we invested significant operating capital to increase our homes in inventory to meet the current strong demand. At December 31, we had $4.1 billion of homebuilding liquidity consisting of $2.1 billion of unrestricted homebuilding cash and $2 billion of available capacity on our homebuilding revolving credit facility. We believe this level of homebuilding cash and liquidity is appropriate to support the scale and activity of our business and to provide flexibility to adjust to changing market conditions. Our homebuilding leverage was 17.3% at the end of December and homebuilding leverage net of cash was 6.9%. Our consolidated leverage at December 31 was 25.1%, and consolidated leverage net of cash was 15.2%. At December 31, our stockholders’ equity was $15.7 billion and book value per share was $44.25, up 29% from a year ago. For the trailing 12 months ended December, our return on equity was 32.4% compared to 24.4% a year ago. During the quarter, we paid cash dividends of $80.1 million, and our Board has declared a quarterly dividend at the same level as last quarter to be paid in February. We repurchased 2.7 million shares of common stock for $278.2 million during the quarter. Our remaining share repurchase authorization at December 31 was $268 million. We remain committed to returning capital to our shareholders through both dividends and share repurchases on a consistent basis and to reducing our outstanding share count each fiscal year. Jessica?

As we look forward to the second quarter of fiscal 2022, we are expecting market conditions to remain similar with strong demand from homebuyers, but continuing supply chain challenges. We expect to generate consolidated revenues in our March quarter of $7.3 billion to $7.7 billion and homes closed by our homebuilding operations to be in a range between 19,000 and 20,000 homes. We expect our home sales gross margin in the second quarter to be approximately 27.5% and homebuilding SG&A as a percentage of revenues in the second quarter to be approximately 7.5%. We anticipate the financial services pretax profit margin in the range of 30% to 35%, and we expect our income tax rate to be approximately 24% in the second quarter. For the full fiscal year, we continue to expect to close between 90,000 and 92,000 homes, while we now expect to generate consolidated revenues of $34.5 billion to $35.5 billion. We forecast an income tax rate for fiscal 2022 of approximately 24%, and we also continue to expect that our share repurchases will reduce our outstanding share count by approximately 2% at the end of fiscal 2022 compared to the end of fiscal 2021. We still expect to generate positive cash flow from our homebuilding operations this year after our investments in homebuilding inventories to support double-digit growth. We will then continue to balance our cash flow utilization priorities among increasing the investment in our rental operations, maintaining conservative homebuilding leverage and strong liquidity, paying an increased dividend and consistently repurchasing shares. David?

In closing, our results reflect our experienced teams and production capabilities, industry-leading market share, broad geographic footprint and diverse product offerings across multiple brands. Our strong balance sheet, liquidity and low leverage provide us with significant financial flexibility to capitalize on today’s robust market and to effectively operate in changing economic conditions. We plan to maintain our disciplined approach to investing capital to enhance the long-term value of the company, which includes returning capital to our shareholders through both dividend and share repurchases on a consistent basis. Thank you to the entire D.R. Horton team for your focus and hard work. We are incredibly well positioned to continue growing and improving our operations in 2022. This concludes our prepared remarks. We will now host questions.

Holly, can you open the line for questions, please?

Ladies and gentlemen, the floor is now open for questions. Your first question for today is coming from John Lovallo with UBS. John, your line is live.

Good morning, everyone, and thank you for taking my questions. The first one, gross margins across the industry have risen to levels that are probably not sustainable over the longer term. I guess the question is, do you believe that this kind of mid to high 20% margin range could persist at DHI for maybe a couple of years? And then as we move forward, what has structurally changed in your opinion that would allow you to have trend margins that are maybe 100 to 200 basis points above the historical average?

Sure, John. We’re very pleased with where our gross margins have gotten through this cycle, and certainly, the strength in the market has been a large driver of that. We probably would never sit here today and say that those are sustainable at these levels through cycles. Typically, gross margin does get somewhat competed away when markets soften. That being said, we’re at extremely strong levels today and can still generate very strong returns even with some margin compression, and we’ll continue to meet the market over time. In terms of what we believe is sustainable, though, compared to our historical averages, certainly, we’re carrying less interest in our cost of sales today. And with what we’ve done from a deleveraging and our balance sheet focus, we would expect that to be a sustainable cost advantage. And then there’s scale advantages with where we’ve gotten in terms of our volume and our building efficiencies with our labor trades and our material suppliers; we would expect some component of the scale advantages to be sustainable as well.

And John, we talked a little bit about this. Internally, we talk a lot about it. The industry is changing. It’s just a much more disciplined industry than it was through the last cycle. As we gained market share, as others have gained market share, there’s just less — at least in my mind, my expectation is, there’ll be less volatility at the cycle up and down. It’s just real businesses today, not speculators.

Yes, that makes a lot of sense. Okay. And then my second question, in an environment where rates are likely to rise here, what do you view as the strategic advantages of implementing a predominantly spec-focused building model and targeting entry-level buyers, perhaps maybe versus a build-to-order model targeting better financed buyers?

First of all, John, what we would say is that we’re able to more closely time the application for the mortgage, the qualification for the mortgage and the closing of that mortgage. So the buyer is spending less time in backlog when they’re buying a house that has already started the production process. That allows us to have fewer bad things happen to their potential credit profile where then they fall out of backlog and no longer qualify, and less interest rate risk while they’re in that cycle. And then finally, just a continued focus on affordability — we’re going to continue to seek to be affordable for our homebuyers in our markets.

Got it. Thank you guys.

Your next question is coming from Stephen Kim with Evercore ISI. Stephen, your line is live.

Yes. Thanks very much, guys. I appreciate all the color here. I was particularly intrigued by your comment about the number of homes you have under construction, 56,600, I think. And I think you also mentioned that your cycle time increased about two weeks. So correct me if I’m wrong, but that would imply, I think, that your time from start to close is about 7.5 months. First of all, is that correct?

Roughly, yes.

Yes.

So if I think about your 56,600 homes and assume that you’ll — you assume basically a 7.5-month cycle time, that would imply that you should be able to close 45,280 over the next two quarters. Your guidance for the second — this next quarter is, I think, for 19,000 to 20,000 homes, so considerably less than half of that amount. And so I’m curious as to — is there anything wrong with the way I’m thinking about how your homes on your construction should ultimately result in closings over the next two quarters, given your cycle time is 7.5 months. And if therefore, we should be thinking that there might be an acceleration in 3Q closings on that basis? Or if this represents some conservatism about extending cycle times?

Thank you, Steve. I think one of the things you need to look at is how long those houses have been in production. We started a substantial number of those homes in the most recent quarter. I think we stepped up our starts from Q4 to Q1 by about 3,000 homes. So those homes are obviously going to take a little longer to deliver in the process.

And as we’re looking at the remainder of the year, the guidance we’re providing for Q2 is based on where the homes are in construction today. But yes, as we look at the full year based on when we started the homes, and we look at where our guidance is for the full year, we are a bit more back-end loaded in terms of our closings in Q3 and Q4 than historically. Part of that is because of the elongated construction times that we have not yet seen improved, and it’s based on where our homes in construction currently sit in terms of the construction cycle.

Yes. Great. That’s very helpful. My second question relates to your initiatives in the rental area, which I think is — you’ve talked about growing that inventory, and therefore, I would assume the associated revenues pretty significantly on a longer-term basis. My question is twofold: one, is there a rule of thumb that we could think what — let’s say, every $1 billion of inventory on a steady-state basis might yield in terms of a level of revenues that we could be forecasting? And then secondly, conceptually, do you think that the demand for selling your rental properties is likely to be more resilient in the face of a rising rate environment than perhaps sales to folks who would be looking to actually move in? I know that’s your core business, but nevertheless, there is so much concern that many people have about rising rates and the impact on the entry-level buyer that I was curious as to whether you felt like there was a backstop behind that buyer for rental operators that are sort of getting in line and would love to buy the homes that you’re building for rent.

Well, I’ll start, Steve. I guess, first, we’re still growing this business and learning this business. Still a little bit early for us to be able to generalize on averages in terms of what level of revenue we might see per unit. We’re building across our entire homebuilding footprint. So every property is unique in terms of size and the product and the market in which it’s in. So we’re individually underwriting each one relative to whether it’s a better for-rent community versus a for-sale community. Obviously, we’ve been very pleased with the value that we’ve been able to generate thus far and very excited about the opportunity of growing this business and adding value over time and been very pleased with the demand that there has been for our communities thus far and the execution that we’ve seen in terms of our sales thus far.

Yes, Stephen, we see such strong demand today for this product in this low interest rate environment. And I think to your question of if we see rates tick up, do we see that shift? We like the ability to be in the market with this rental platform and be able to adjust to those shifts and market conditions. We do believe that we’re going to continue to see strong demand — maybe not as strong as it is today given such a new category, but we feel good about our position and the number of communities we’re planning.

Sounds good. Thanks very much, guys.

Your next question is coming from Mike Rehaut with JPMorgan. Mike, your line is live.

Great. Thanks. Good morning, everyone. First question I had was on the SG&A side. You came in nicely below your prior guidance at 7.5% versus 8% before versus your 8% guidance and down 40 bps year-over-year. You’re also guiding for, I guess, 2Q guidance to be down only 10 bps year-over-year. So I was just curious around what were the sources of the significantly better-than-expected results in the first quarter, and why you don’t expect further leverage in the second quarter similar to the first?

Sure. Thanks, Mike. In the current environment where we’re seeing such significant average selling price increases, that’s certainly one driver of the SG&A leverage on the P&L. A little difficult to predict exactly where the average ASP might fall in a particular quarter. The trend over time has been upward over the last several quarters, though, and that’s certainly a contributor to it. So I would say, we’re probably a little bit conservative in projecting out the level of increases in our ASPs. We are very actively building infrastructure to support the significant increase in scale that we have seen across our business over the last year and that we’re projecting for the rest of the coming year, and so we are anticipating significant increases in our SG&A spend to support that. And so we’re just basically balancing that versus our expectations for our closings. And with our closings expectations essentially roughly flat with last year in Q2 based on our guidance, we’re not getting the volume leverage, but we are still seeing the leverage from selling price increases.

Okay. Bill. So before I just hit on the second question, just to make sure I understand, given the expectation for the stronger revenue growth on a full year basis, it seems like it’s safe to assume maybe more than like a 10 bps SG&A leverage for the full year. If I’m thinking about that right, given you have the higher confidence, let’s say, around an ASP for the full year at least. If you could comment on that, that would be helpful. And then secondly, just on the rental income side that was a source of upside, I believe, relative to our expectations. I believe relative to guidance as well, if I’m not mistaken. 45% of a margin, is that the right — that 45%? Just any guidance or thoughts around how to think about the remainder of the year relative to the revenue generation you continue to expect?

Okay. Well, first to wrap up the SG&A question. We’re not guiding specifically to the full year on SG&A. However, with the kind of heavier volume expected in our annual guidance in Q3 and Q4, we would expect to see more leverage on SG&A probably than 10 basis points in Q3 and Q4 versus Q2. With respect to the rental expectations, we’ve guided annually to more than $700 million of revenue. We’ve been very pleased with the margins and the execution we’ve seen on the sales recently. The margin this quarter, obviously, was very strong. Some projects will continue to generate those margins, others could certainly be short of that. We haven’t specifically guided to the margin on that business as of yet because each project is unique. In terms of volume in the coming quarter, we would expect Q2 volume to be relatively similar to Q1, in which we closed two single-family properties and one multifamily property. And then for the year, basically lining that out to the $700 million of revenue.

Okay. Thank you so much.

Your next question is coming from Alan Ratner with Zelman. Alan, your line is live.

Hey, good morning. Great quarter. Thanks for taking my questions. First one, I might be parsing the comments a little bit too much here, so I just want to get some clarification. I think you guys said earlier that you expect to offset most cost increases with price increases. And obviously, up to this point, it’s — based on the margin trajectory, you’ve been able to offset more than the cost increases. So I’m just curious if that’s a change in your thinking. Whether you’re going to be maybe a little bit less aggressive pushing prices as 2022 progresses? Or am I reading too much into that comment?

Alan, as we continue to increase our starts for demand, I would say at some point, there’s going to be more of an equilibrium. And at that point, margins and ASPs should stabilize — we don’t know. Again, we’re return-based with absorption targets, start targets; being able to sustain a level of starts drives efficiencies through the entire process. We don’t know what the future is. We do know that we can operate within that future and maximize the results, both returns and market share gains.

And part of that thought process also, Alan, is our continued focus on affordability. And so although the market is really strong today and we continue to take price, we’re probably not out there like some other builders trying to take every last dollar of price. We’re doing what we can to meet the market and try to stay affordable in spite of rising cost conditions.

And we’re always focused on product, communities, land, how do we drive more and more efficiency into the process so that we can maintain a more affordable living cost. That’s market scale and consistency and starts. As we continue to drive market share gains and consolidate labor, we’re in a better position to acquire land, and it’s an ongoing continuous effort to get a little bit better every day.

Got it. Both of that makes a lot of sense, and Jessica, your follow-on comment there was actually something I was going to ask next and that’s that your price increases, especially on the order side, have been very strong. And we’re starting to hear from some builders talking about their desire to actually bring that average price back down a little bit over the next year or two as they introduce new communities. Maybe they’re a little bit further out or maybe the floor plans are a bit smaller. So should we think about that similarly with you guys? Are you actually kind of looking at that average price and kind of your standing in the marketplace and trying to actually bring that down on at least an absolute basis going forward?

We’re always focused on affordability. We don’t want to overprice at any point in time. We’re looking at product, communities, land, how we can drive efficiencies so we can maintain a more affordable offering. Driving market share and consistency in starts helps. It’s everything we’ve done: simplifying product, maintaining affordability and having well-located communities with long running times.

Makes a lot of sense. If I can sneak in one last one just on January. You and others have obviously highlighted very strong demand continue in January. I’m curious if you’ve seen any notable shifts in sentiment or activity across your price points given the uptick here in rates? Are you seeing maybe more discretionary buyers jumping in because they’re concerned rates are going to continue climbing, like in your active adult business or Emerald? Or has the strength been pretty consistent with what you’ve seen prior to this move?

Alan, I don’t think we’ve seen in the last month any real discernible difference. We still have more buyers in all of our markets than we have homes available. We are continuing to release those homes at a later stage of construction and meeting that demand as inventory reaches that stage. It’s hard to gauge whether it’s a significant shift; we still are seeing strong demand across all of our markets and across all price points.

All price points.

Perfect. All right. Thanks for the time, guys. Appreciate it.

Thanks, Alan.

Your next question is coming from Carl Reichardt with BTIG. Carl, your line is live.

Thanks. Hey, everybody. Paul, I think you are the one who said this that you’re working to stabilize and then reduce cycle times. Pragmatically, what specifically do you do to make that happen, given that builders are effectively outsourcers? And why and how do you do that better at Horton than, say, a peer would?

Carl, I think a lot of it is our people. Our people are phenomenal problem solvers, and it’s part of the culture; the decentralized nature means they take ownership and see problems and fix them. We’ve tried to guide the divisions to understand capacity within communities and consistently start homes to meet that capacity. When they do that, capacity increases because people in those communities get better at building those houses. We’re seeing that. Completing homes even though not at our historical norm, I believe we are completing homes more rapidly than many peers. We focus on consistent starts, limited product, limited options, making it easier for trades to get in and out, reducing SKUs for suppliers and ordering early in some cases. Anything that can eliminate or break a bottleneck — our people in the field are doing it.

Fair enough. Thanks, David. And then I wanted to ask about lot count. You’re over 550,000 under control now and the buildup spend significant, right? I mean, I think it was up 40% last year. So at some point, these lots got to come to market. If you think about how they might, is this — you could have bigger communities going forward, you could have more communities going forward in existing markets, i.e., potentially more share, or new markets? Can you sort of break out as you look at your lot position now, how those different elements fit into the long-term puzzle here — bigger communities, more communities in existing markets, new markets?

All of the above. We’re continually evaluating new markets. At the same time, the mandate to teams in the field is to aggregate market share. We feel that local scale drives a lot of value in the business and the lot supply is a key part of it. It just takes longer to get a neighborhood approved and get lots built today than it did a year or two ago, so while our controlled lot position has increased to support future deliveries, it’s taking longer to finish those lots. Our market count has continued to expand — we are in 102 markets today, up just four sequentially — and we continue to fill out more of our Midwestern and Ohio Valley footprint and look at additional markets that make sense to expand into as well.

Thanks, everybody.

Thank you.

Your next question is coming from Matthew Bouley with Barclays. Matthew, your line is live.

Good morning, everyone. Thank you for taking the questions. I have a question on cancellations and interest rates, given how low cancellations are at this point. I know you do those stress tests on the backlog and have talked about sort of flexing a 100 basis point increase in mortgage rates. But I guess to what degree does the speed of rates rising coupled with these extended cycle times play into all that? I mean we had a 50 basis point rise in just four weeks. You got buyers in backlog that may have to wait several months at this point. So how do we think about risk to an uptick in cancellations here?

Well, I think as you look at those stress tests that we do, and we’ve run it again, we’re seeing a slight uptick in cancellations but still nominal. The interest rate increases we’ve seen to date have spurred further demand much more so than they’ve knocked people out of qualification and ability to qualify.

And part of it is also selling homes later in the construction cycle so buyers are not having to lock rates for longer or be worried about what an interest rate move does. If we’re selling closer to completion and closing, there’s less risk in that regard as well.

Okay. Good. That makes sense. And then second one on the cycle times again. Maybe they improve at some point, maybe they don’t. But assuming there’s not a significant amount of new building products capacity coming online this year, are there any structural changes you’re making to the supply chain? Even if it’s not possible in every single building material, is there anything you can do with more prefab packages? I heard you say earlier simplification of SKUs. Are any of these changes structural in nature or simply adjusting to whatever the market is at any point?

I think as David mentioned before, it’s everything everywhere. We empower our local business leaders to solve bottlenecks that are unique to their market, and there are some broader issues where our national and regional purchasing teams partner with manufacturers and trade partners to give them forward visibility to our expected demand and help understand how product moves from manufacturer through distribution to our jobsites. It’s increased communication, simplification of product, and a lot of market-by-market fixes. Prefab and packages are part of it where appropriate, but it’s a mix and it’s largely about improved coordination and visibility.

Great. Well, thank you for the color.

Thank you.

Your next question is coming from Susan Maklari with Goldman Sachs. Susan, your line is live.

Thank you. Good morning, everyone.

Good morning.

My first question: thinking about the potential use of more incentives in the market — given that inventory is so low, do you think that the likelihood of seeing any meaningful increase in incentives is much lower than in the past? Would we need to see a lot more inventory on the ground for anything to meaningfully change?

I don’t see any change in incentives coming now. At some point inventory may catch up with demand, but currently inventory is significantly out of balance, especially in fast-growth areas like Florida, Texas and Arizona. It will be very difficult to catch up with demand in the next couple of years given the difficulty of getting lots and getting houses built.

Okay. That’s helpful. My follow-up: even if the supply chain normalizes, could we face a structurally tighter labor environment for construction relative to pre-COVID? If so, how do you overcome that and continue to increase production?

It comes back to market scale and keeping labor aggregated and busy in the same locations. If you have a program releasing a consistent number of houses each month, the aggregation of labor provides a big advantage. Simplifying product, maintaining affordability, and having long-running communities helps. Our operators stay ahead of it and that scale advantage is important.

Okay. That’s very helpful. Thank you. Good luck.

Thank you.

Thanks, Susan.

Your next question is coming from Eric Bosshard with Cleveland Research. Eric, your line is live.

Good morning. A couple of things. First, the outlook on costs — if you could provide some clarity on where that goes and especially trying to figure out the movement in lumber, how that is flowing through? Where were trough lumber and where does the lumber impact go going forward, especially on the cost side?

Sure. I’ll start with lumber and then others can chime in on the rest of our cost structure. Lumber costs have remained really volatile. We had some opportunities to purchase at costs well below the peaks we saw last spring and into the summer. However, those reductions lasted a shorter period than we expected and lumber has been on the rise again for the last few months. There have been other supply chain delays that also caused volatility in lumber prices. We do hope to see a mix that leans towards slightly lower costs in Q2, which is baked into our Q2 gross margin guide for flat to slightly up gross margins, but we do expect lumber cost to trend back up in our closings starting in Q3. Other costs?

It’s a mixed bag, but generally we’re seeing slight cost pressures in most places and that’s been offset by price increases. Some lumber relief in Q2 and early Q3 will help, but as Jessica mentioned, lumber prices have gone back up and those increases will flow through closings later this fiscal year.

And really, with home prices continuing to increase, generally costs follow. We wouldn’t expect much cost relief until you see a slowdown in home price appreciation.

Okay. And then secondly, the modest increase in the revenue guide for the year with the same deliveries — it appears to be just an extrapolation of price. What else were the considerations in taking a more optimistic position on full year revenue growth, especially heading into the selling season?

Eric, it really is an extrapolation of where we see prices now. We’ve got more months of visibility into our selling prices and where closing prices moved up in Q1 and our visibility into Q2 that justified increasing the annual revenue guide. But with continued supply chain challenges and elongated cycle times, we didn’t feel we had more room on the volume side yet. So it’s solely price-driven and we feel good about that guidance for the year.

Okay. That makes sense. Thank you.

Your next question is coming from Rafe Jadrosich with Bank of America. Rafe, your line is live.

Hi, it’s Rafe. Good morning. Thanks for taking my question.

Good morning.

I wanted to start on the rental business. Can you talk a little bit about the returns you’re targeting in the rental business and how that could compare to homebuilding longer term? And will you be targeting different markets in the rental business compared to the homebuilding segment?

Rafe, we’re growing the rental business aggressively and have been very pleased with the returns on a trailing 12-month basis. The profits that segment generated relative to its inventory investment have been about 20% and that’s during a heavy growth ramp. We expect that to continue to increase as more projects deliver consistently. The markets we serve with rentals will line up closely with our homebuilding footprint. We’ve seen many markets accept the product very well and investors are excited about these projects.

And in terms of the pace of your home starts, the average ticked up a lot in the first quarter compared to the fourth quarter, about 1,000 a month. What’s allowing you to increase that pace sequentially? And how should we think about that going forward?

That’s in line with our plans and what we’ve set forth across our divisions and communities. We target an absorption pace per community and make sure permits and lots are in hand. It’s not easier today to put lots on the ground, but our operators stay ahead of this and it’s allowed us to sequentially increase our start pace. The key is our lot position, having a long lot position controlled and strong supplier relationships which position our operators to continue starting and increasing our start base.

Great. Thank you.

Your next question is coming from Mike Dahl with RBC Capital Markets. Mike, your line is live.

Good morning. Thanks for taking my questions. First, the order guidance for fiscal 2Q being flat to low-single digits — you’ve been successful getting inventory rebuild both sequentially and year-over-year. Your comps get a little easier in 2Q versus 1Q. Can you just talk about the moving pieces on that order guide and why there could be upside?

We’re still seeing a restriction on sales relative to where the inventory is getting to in production. We’re selling homes closer to delivery date which limits early orders. That’s the driver of our sales expectation. Our comp is up against a 35% increase last year in the second quarter, so it’s a tougher comparison. It gets easier in Q3 and Q4.

Got it. Okay. And my second question: following up on rentals as a potential backstop for for-sale demand, conceptually if for-sale demand slows, could institutional buyers purchase communities and convert to rentals? How would you view opportunities like that and what would it take on return dynamics to consider bulk sales that weren’t intended for bulk sale initially?

Mike, I’ve always believed the rental platform when built out will de-risk our land portfolio because it gives us another lever. Philosophically, we believe in the for-sale business and homeownership is important. Today our goal is to deliver more homes because demand is there. Every family we get into a home is a win. The rental platform will be its own business and because of our geographic platform and embedded divisions, our ability to scale and touch every market is a great opportunity for shareholders and our people.

Okay. Thanks, Dave.

You bet.

Your next question is coming from Ken Zener with KeyBanc. Ken, your line is live.

Good morning, everybody.

Hey, Ken.

You guys were better because you paid for your own phones. I have two simple questions. One, with insatiable demand, how are you approaching cycle time in construction? It looks like your investments in inventory units are slowing, right? Cycle time is up about two weeks sequentially. You guys rose inventory 14% sequentially. Is that pretty much the move you’ll pursue into the second half if cycle times continue to compress — you’ll just put more units in the ground to compensate for slower cycle time?

We have start targets and we talk about consistent, sustainable starts driving closings; it’s based on division capacity to deliver those homes.

Okay. That’s fine. And Dave, could you just comment on the fact with your perspective about comfort with real rates being negative now compared to when you took your first mortgage rate? Just a broad thought.

It’s a great time. Housing is more affordable today than it was in the 1980s. Locking in housing costs for 20 years is a significant driver as overall cost inflation and interest rates move up. People who buy today have a huge advantage. Home ownership is back in the narrative, particularly among millennials; it’s an important social and economic goal. I’m very optimistic about what’s going on and what our company is accomplishing.

Thank you.

Okay.

Your next question is coming from Truman Patterson with Wolfe Research. Truman, your line is live.

Hey, good morning, everyone. Thanks for taking my questions here. David, just want to follow up on your prior comments about public companies gaining market share. I know it might be difficult to generalize, but I’m hoping to understand what you’re hearing on the ground from local operators regarding some of your private builder competitors. Are they expecting their home inventory to jump significantly through 2022, or are you expecting more of the same constrained environment for private builders? I’m also asking this because while you all had nice order growth, new home sales in the fourth quarter were down over 20%. Can you help us think through this as we move through 2022?

We were talking about this before the call. Private builders and some smaller public builders will have a very difficult time delivering houses. It is hard for us as well; completing and finishing a house is very difficult in the current environment. Private builders who don’t have our scale or lot access will see their ability to start houses deteriorate, and that will cut off their next house starts. Anecdotally, we’re talking to builders who are tired and may look to us to take out their lot supply or become a developer for us in a market. If supply chains don’t loosen up, consolidation will accelerate; publics will pick up share because the key constraint is the ability to get lots in front of you and private guys don’t have that ability. So while new home sales may decline, it has less to do with demand and more to do with production constraints, and the top builders are likely to pick up share and continue to grow.

Okay. Interesting. Hypothetically, if demand softens with Fed rate hikes, which consumer segment do you think would hold up relatively better between entry-level, move-up, luxury, active adult? Are there geographies that might underperform?

We generally think of entry-level buyers as buying out of need rather than discretion. While price increases and rate increases can impact qualification, over the long term entry-level demand should remain the lion’s share of demand. That’s why we continue to focus on affordability. Buyers further up the price curve tend to be more discretionary and more sensitive to timing of interest rates compared to absolute monthly payment.

Okay. Thanks for taking my questions.

In the interest of time, your final question is coming from Deepa Raghavan with Wells Fargo Securities. Deepa, your line is live.

Hi, thanks very much for squeezing me in. A couple for me. On affordability: it doesn’t seem to correlate to the concern that’s out there. Rates are historically low and the industry could have pricing power this year. Is the affordability issue being raised too early? Or do you believe 2022 or 2023 could be structurally impaired with some buyers being priced out?

As we’ve seen in our sales offices, we’re not seeing people being priced out today. We generally focus at a price point lower than many competitors in our markets. Going forward, with household income growth and inflation, owning a home with a locked-in mortgage can still be a powerful economic decision. We feel good about demand into 2022 though it’s hard to predict beyond that.

Okay. That’s helpful. Dave, when we met last summer you mentioned expanding into the Ohio Valley and parts of the Midwest. What’s the economic engine that will drive job growth there? It’s hard to conceive post-COVID with people moving to Ohio just because they can work remotely.

There is a big population base there and some of the best universities in the country. We’re seeing migration into those areas and companies are starting up around those universities. Places like Austin and Nashville are examples; Columbus and Indianapolis are others. Long term, the quality of life and access to smart people will drive company formation and growth in those markets. They are great cities and they offer a lot.

All right. Thanks very much. Appreciate the color and good luck.

Thank you.

That is all the time we have for questions today. I would like to turn the floor back over to David Auld for any closing comments.

Thank you, Holly. We appreciate everybody’s time on the call today and look forward to speaking with you in our second quarter results in April. The D.R. Horton family delivered an outstanding first quarter. It’s amazing what our people are accomplishing out there, and Don Horton and the entire executive team are humbled by the opportunity to represent you. Thank you.

Thank you, ladies and gentlemen. This does conclude today’s conference call. You may disconnect your phone lines at this time, and have a wonderful day. Thank you for your participation.