Good morning, and welcome to the Toll Brothers Fourth Quarter Fiscal Year 2023 Conference Call. All participants will be in listen-only mode. After today's presentation, there will be an opportunity to ask questions. Please limit yourself to one question and one follow-up. Please also note this event is being recorded. I would now like to turn the conference over to Douglas Yearley, CEO. Please go ahead, sir.

Thank you, Rocco. Good morning. Welcome and thank all of you for joining us. Before I begin, I ask you to read our statement on forward-looking information in our earnings release from last night and on our website. I caution you that many statements on this call are forward-looking based on assumptions about the economy, world events, housing and financial markets, interest rates, the availability of labor and materials, inflation, and many other factors beyond our control, that could significantly affect future results. With me today are Marty Connor, Chief Financial Officer; Rob Parahus, President and Chief Operating Officer; Fred Cooper, Senior VP of Finance and Investor Relations; Wendy Marlett, Chief Marketing Officer; and Gregg Ziegler, Senior VP and Treasurer. Fiscal 2023 and the fourth quarter were terrific for Toll Brothers. Our income and earnings per share for the full year were all-time highs and we ended the year with a 72% increase in fourth quarter signed contracts compared to Q4 2022. We delivered 2,755 homes and generated $2.95 billion in home sales revenues in the fourth quarter, $211 million above the midpoint of our guidance. Our adjusted gross margin was 29.1% and our SG&A expense as a percentage of home sales revenues was 8.2%, each beating guidance by 60 basis points. The combination of top-line outperformance and improved operating efficiency resulted in net income of $445.5 million or $4.11 per diluted share, our second best fourth quarter ever behind only last year's fourth quarter. Over the full year, we delivered 9,597 homes at an average price of approximately $1,030,000, generating record homebuilding revenues of $9.9 billion. Our full-year adjusted gross margin was 28.7%, a 120 basis-point increase over 2022 and 20 basis points better than guidance. SG&A expense as a percentage of home sales revenues was 9.2%, an improvement of 90 basis points compared to last year and also 20 basis points better than guidance. Earnings in fiscal year 2023 were $1.4 billion or $12.36 per diluted share, both company records. Our book value per share was $65.49 at year-end and our return on beginning equity was 22.8%. We accomplished these results despite mortgage rates reaching generational highs, global unrest, gridlock in Washington, and fears of a recession. Our success was due in large part to our strategies of not chasing sales at a lower margin in the second half of 2022, increasing our supply of spec homes, and focusing on operational efficiency. Turning to market conditions, we continued to see solid demand for our homes in the fourth quarter as a tight resale market continued to drive buyers to new homes. We signed 2,038 net contracts at an average price of $989,000, up 72% in units compared to Q4 2022. The average price was down 11% year-over-year, but essentially flat over the prior three quarters of 2023. The decline in ASP was due primarily to mix. In fact, we raised our average net price after incentives by $16,000 in the quarter. Remember that our mix shifts and lower ASPs should not be a surprise. It means our strategy of broadening our product offerings to include lower price points and capture greater market share and growth opportunities is working. Along these lines, our affordable luxury and active adult communities were our strongest performers in the quarter. Unit sales of affordable luxury homes are up 109% in Q4 2023 compared to Q4 2022, and active adult was up 82%. In Q4, affordable luxury accounted for approximately 46% of our unit sales, luxury was 31%, and active adult was 23%. On a dollar basis, affordable luxury was 38%, luxury was 43%, and active adult was 19%. Geographically, our Pacific region was up nearly 250% in agreements in the fourth quarter versus the prior year, followed by our Mountain region, which saw a 127% increase and the South at 87%. Our strongest markets in the quarter were Denver, Boise, Southern California, all of Texas, and the Mid-Atlantic from Atlanta up the Eastern Seaboard to Boston. In terms of cadence for the quarter, demand followed the typical seasonal pattern with September being the strongest for deposits. October was stronger than expected given the rise in mortgage rates, and we were encouraged that we did not have to increase incentives to drive sales in that month. As I mentioned, we actually raised our average price by $16,000 in the quarter, broken down as a $12,000 increase in base price and a $4,000 decrease in incentives. Demand has remained solid into the start of our first quarter and is consistent with normal seasonality. As a reminder, historically net orders declined about 20% from our fourth to our first quarter primarily because of the holiday months of November and December following our first quarter. We are anticipating a modestly better trend this year as we are encouraged by the recent 75 basis point decline in mortgage rates. With inflation easing over the past few quarters, we believe rates may drop further and the timing of the rate decline is setting up nicely for the upcoming spring selling season. This timing also plays well into our strategy of increasing our spec supply and growing our community count. In the fourth quarter, spec homes represented approximately 42% of our orders and 33% of our deliveries. We expect that spec sold in fiscal 2024 will account for approximately 35% of deliveries in 2024. Remember, we define a spec as any home without a buyer that has a foundation poured. We sell our specs at various stages of construction, which allows many of our buyers the opportunity to still personalize their homes with finishes that match their taste. Specs allow us to buy down mortgage rates, and we also benefit from a faster, more efficient construction schedule. The other 65% of our projected 2024 deliveries are either in our backlog, which stood at nearly 6,600 homes and $6.95 billion at fiscal year-end, or our build-to-order homes that have already sold or will be sold in this first quarter. This provides a solid base of high-margin homes to drive 2024 results. We expect community count growth to also help drive results in fiscal 2024. We plan to increase community count by 10% this year and are targeting 410 operating communities at year-end. Importantly, we control sufficient land for community count growth beyond 2024. At fiscal year-end 2023, we controlled approximately 70,700 lots, 49% of which were optioned. Excluding the 6,578 lots committed to home buyers in our backlog, our option land represented 54% of lots. We continue to target an overall mix of 60% optioned and 40% owned over the longer term. We also continue to be selective and disciplined in our approach to buying land. We assess all land deals, whether they involve new land opportunities or take-downs under existing options, with underwriting standards focused on both margins and returns. This approach and our overall focus on capital efficiency have helped drive our ROE over 20% for the past two years. In our fourth quarter, we repurchased $326 million of our common stock, bringing our full year repurchases to $556 million at an average price of $72 per share. During fiscal 2023, we repurchased approximately 7% of our diluted shares outstanding at the beginning of the year. We also paid $91 million in dividends in fiscal 2023. Buybacks and dividends will remain an important part of our capital allocation priorities well into the future. We have budgeted another $400 million of share repurchases in fiscal 2024. With that, I'll turn it over to Marty.

Thanks, Doug. As Doug mentioned, we are very pleased with our fourth quarter and full year results. Our revenue, net income, and earnings per share were all full year records. In fiscal year 2023's fourth quarter, we delivered 2,755 homes and generated home sales revenues of $2.95 billion, down 27% in homes and 18% in dollars from one year ago, reflecting the challenging sales environment from back then. The average price of homes delivered was up 13% to $1,071,000. Fourth quarter net income was $445.5 million or $4.11 per diluted share compared to $640.5 million and $5.63 per diluted share one year ago. Remember that last year's net income included a net after-tax benefit of approximately $103 million related to the proceeds from the settlement of a legal claim. Our fourth quarter adjusted gross margin, which excludes interest and inventory write-downs, was 29.1% in 2023, up 10 basis points compared to 29.0% in the fourth quarter of 2022, reflecting our strategy from over a year ago not to aggressively chase sales at the expense of margin when the market was softer. SG&A as a percentage of revenues was 8.2% in the quarter compared to 7.7% in the same quarter one year ago. The year-over-year percentage increase in SG&A was primarily related to less revenue leverage. Compared to 2022, total SG&A dollars were actually down $33 million in the quarter and $68 million for the year despite inflationary pressures. Joint-venture, land sales, and other income was $36 million in the fourth quarter compared to $152.5 million in the fourth quarter of fiscal year 2022, which again included the aforementioned litigation recovery of $141 million on a pre-tax basis. Joint-venture, land sales, and other income in Q4 2023 included approximately $32 million of gains from the sale of stabilized apartment communities developed by Toll Brothers Apartment Living and held in joint-venture. Despite very challenging market conditions, we were able to sell two apartment communities at reasonable prices in the quarter, which is a testament to the quality of our apartment living communities. We expect to sell additional apartment communities this year. Write-offs included in home sales cost of revenues totaled $8.3 million in the quarter compared to $22.1 million in the prior year period. Land sale write-offs were $12.9 million related to the planned sale of a City Living land parcel into a joint venture. In the fourth quarter, 26% of our buyers paid all cash, consistent with the 25% in the third quarter and up from our long-term average of 20%. Buyers who did take a mortgage averaged an LTV of 69% in the quarter. Our cancellation rate as a percentage of backlog was 3.4% in the fourth quarter, consistent with where this rate has been for all of 2023. We continued to generate strong cash flow in fiscal 2023 with $1.3 billion of cash flow from operations. We ended the fiscal year with over $3 billion of liquidity, including $1.3 billion of cash and $1.8 billion available under our revolving bank credit facility, which has more than four years of duration remaining. In fiscal year 2023, we invested $2.3 billion in land acquisition and land development. We also returned $653 million to shareholders through share repurchases and dividends and reduced our senior debt by $400 million. Over the past two years, we returned $1.3 billion to shareholders by repurchasing 18.9 million shares. Our net debt to capital ratio was 17.7% at fiscal year-end, and we have no significant debt maturities until fiscal 2026. Our balance sheet is in great shape. Turning to our guidance, I'd like to remind you of the usual caveats regarding forward-looking statements. We are projecting first quarter deliveries of approximately 1,800 to 1,900 homes with an average price of between $985,000 and $1,005,000. Consistent with normal seasonal patterns, first quarter deliveries are expected to be the low point of the year with deliveries for the full fiscal year weighted to the second half. For full fiscal year 2024, we are projecting new-home deliveries of between 9,850 and 10,350 homes with an average price between $940,000 and $960,000. We expect our adjusted gross margin in the first quarter of fiscal 2024 to be 28% and for the full year to be approximately 27.9%. The slight decline in our projected gross margin for Q1 from Q4 reflects the impact of the slower sales environment in the second half of fiscal 2022 and the first quarter of fiscal 2023, as more sales from that period will be delivering in Q1 than delivered in Q4. We expect interest and cost of sales to be approximately 1.4% in the first quarter and for the full year. This reflects the continuing benefit of our lower leverage. We project first quarter SG&A as a percentage of home sales revenues to be approximately 12.4% versus 12.1% one year ago. Included in first-quarter SG&A is about $12 million of our annual accelerated stock-compensation expense that should not recur in the remainder of the year's quarters. For the full year, we project SG&A as a percentage of home sales revenues to be approximately 9.9%. The year-over-year projected increases in SG&A margin are due primarily to the impacts of lower revenue leverage, community count growth, and cost inflation. We continue to focus on cost control and operating efficiencies. We've made a lot of progress, but we are not done and are working to achieve additional cost savings in fiscal 2023 and beyond. Other income, income from unconsolidated entities, and land sales gross profit is expected to be a loss of $10 million in the first quarter, but a gain of $125 million for the full year, which includes the sale of stabilized apartment communities. We do not expect any sales in the first quarter but expect to sell a number of our communities by the end of the year. We project the first quarter and full year tax rate of approximately 26%. Our weighted average share count is expected to be approximately $106 million for the first quarter and $104 million for the full year. This assumes we repurchase a targeted $400 million of common stock this year, with most of that occurring later in the year aligned with our anticipated higher cash flow. Based on land we currently own or control, we expect to grow community count by 10% by the end of fiscal 2024. Putting this all together, we project approximately $12 to $12.50 of earnings per share for the full year, which would move our book value to approximately $78 per share at fiscal year-end 2024. With that, I'll turn it back over to Doug.

Thanks, Marty. Two years ago in December 2021, the 30-year mortgage rate was around 3%. It doubled to 6% in December 2022, and a little over a month ago, it broke through 8%. It's extraordinary to think the mortgage rates have moved from 3% to 8% in two years. And yet during that time, we produced two consecutive years of record revenues and earnings with ROEs above 20%. We also increased our adjusted gross margin by 370 basis points, decreased our SG&A margin by 170 basis points, and today, we are projecting another year of earnings above $12 per share. And we are not the only ones to have achieved strong results in the face of rising rates. It is clear the business model of the public builders has fundamentally changed. We have grown revenues and gained market share, lowered leverage, de-risked balance sheets with a focus on capital efficiency, cash flows, and ROE, and returned a substantial amount of capital to our investors. Today, Toll Brothers trades at approximately 7 times earnings and 1.3 times book value. The average PE multiple for equally weighted S&P 500 is about 16 times. In my opinion, our valuations deserve a fresh look. Before we open it up to questions, I'd like to thank the entire Toll Brothers team for staying focused on our customers, adapting to market conditions, and consistently executing on our core strategies. Most importantly, you've helped position the company for continued success in 2024 and beyond. For that, I'm truly grateful. Now let's open it up to questions. Rocco, we're ready to go.

Yes, sir. We will now begin the question-and-answer session. As a reminder, the company is planning to end the call at 9:30 when the market opens. During the Q&A, please limit yourself to one question and one follow-up. And today's first question comes from Stephen Kim with Evercore. Please go ahead.

Yes, thanks very much, guys. Appreciate all the color. Congrats on the good results. I guess my first question is related to your ongoing product mix shift, the affordable luxury in particular. I was curious if you could give us a sense for how long do you think this process of adjusting your mix is going to take. Is this something that we could see stabilize by year-end 2024? Do you think you will have gotten your mix sort of where you want it, or is it going to be something that's going to be a multi-year process? And can you help us understand what an expected range of absorptions should be sales per community per month, once your mix does stabilize at the levels that you want?

Sure. It's a fluid process, Steve. We're really proud of this move we made into some lower price still affordable, still luxury product. As I've talked about, with 75 million millennials out there, we were not going to wait for them to hit their forties and buy their move-up home, which is what Toll Brothers has always been about. And I'm really proud of how we brought the 3-series BMW and we went after the more affluent first-time buyer. I think it'll stabilize around 45% of our business on a unit basis. Now remember, because the price is a bit lower on a dollar value, that may be down 5 points or so from that 45%. And based on the numbers we just gave you for where we are right now, we're getting pretty close to that. In the fourth quarter, we were spot on with affordable luxury being 46% of our unit sales and it reflected about 38% of our dollar value. So it's fluid. We continue to focus on more and more of those opportunities, but we're getting close to what I think is a good mix. Quarter-by-quarter, it may vary a little bit, but we're about there. And as I also mentioned, the affordable luxury and the active adult empty-nester, which also tends to be a bit lower priced, naturally, those segments led in order growth, fourth quarter 2023 over 2022. So the strategy is paying off, those segments are performing well and they should, right? 75 million millennials and 75 million boomers are driving the most action in those two segments for us. So we're getting close to where we want to be with a little bit of fluidity as it moves quarter to quarter, but most of the hard work is behind us.

And absorptions?

Thank you. So the last couple of years we've been running at 24, 25 sales per community per year for the company. I think heading into 2024, particularly with rates moving down, economic outlooks beginning to improve, a sense that the FED is done or very close to being done, we believe we're going to do better than that 24 to 25 overall for the company. And of course, we have higher absorptions in both affordable luxury and active adult move down because the price point is lower, and there's more buyers with those demographics. So let's just say if the average is 26 for the company, maybe affordable luxury, active adult is pushing up to 30 and move up is in call it the 22 to 24 range.

Thank you for the information. The next question relates to inventory. Marty, could you share your expectations for inventory dollars for either the average full year 2024 or by the end of 2024? You might express this in terms of inventory turns or just the dollar change. Also, what was your sticks and bricks number at the end of the fourth quarter?

I'll let the team scramble to find that sticks and bricks number. In terms of inventory turns, it's a focus of ours. Our spec strategy should improve that. Our mix shift to more affordable luxury and more active adult, which are easier to help with that turns, they're quicker to build should be important for us. We do have a number of specs that are already in our inventory balance right now, so I don't think you're going to see our inventory balance grow dramatically this year compared to where it is right now, Stephen. And right now, what do we got for construction in progress?

CIP is $5.5 billion.

Thank you. And our next question today comes from Mike Dahl with RBC Capital Markets. Please go ahead.

Hi, thanks for taking my question. Just to follow up on that, Marty. I think it's interesting, the inventory dynamic, because as you're kind of shifting towards spec and projecting this increase in deliveries, your backlog is still down, and your construction in progress is actually down both sequentially and year-on-year. Maybe some of that is the mix shift to lower-priced homes, but it does seem to imply your expectations for a pretty significant increase in inventory turns or improvement in cycle times. So can you just elaborate a little bit on that more and give us a sense, maybe of where you're at in terms of current homes under production, in unit terms for specs, and how you expect to stage that through the spring?

Sure. So in addition to the 6,600 or so homes that are in backlog, we have roughly another 2,700, 2,800 homes in various stages of construction that we define as quick move-in or spec homes. Around 400 to 500 of those are at CO or beyond. And I think we're very comfortable at that level. As it relates to the inventory balance, our backlog came down rather significantly from the end of last year to the beginning of this year, and it's been replaced, if you will, in the inventory with these spec homes that I just mentioned.

And then Marty, to clarify further, the finished specs, which are homes that a client can move into within the next couple of months, total only 1.5 homes per community that are at or very close to Certificate of Occupancy, and we can present these as an alternative to a resale home that is currently not on the market.

And remember, we define a spec as a home that has a foundation poured. Not all specs are full go to completion. Many of them are sold in the construction process at various stages of completion. And we very actively manage the stages of go, no go in advancing the construction on those homes.

Thank you. And our next question today comes from Michael Rehaut with JP Morgan. Please go ahead.

Thanks. Good morning, everyone. And congrats on the results.

Thanks, Mike.

Thanks, Mike.

First question. I just wanted to circle back to some of the commentary around the more recent trends and the outlook for first quarter orders being a little better than historical seasonality. And importantly, you kind of highlighted that you didn't really have to raise incentives in October, and I believe you raised pricing during the quarter, the past quarter, about 1%, 1.5%. Given where we are today and maybe some of the more recent trends that we've seen going into the current quarter, and some of the optimism, I guess, that you talked about around the recent decline in rates into the spring. How should we think about, like-for-like pricing in 2024 particularly as you're still seeing pockets of inflation here or there across the construction cost spectrum?

Great question, Mike. While we can't predict exactly where things will end up in spring, I feel more optimistic now than I did a year ago. On October 19th, we saw a 30-year no point mortgage rate at 8.25%, but as of this morning, it's down to 7.25%. That's a decrease of 100 basis points in just six weeks. Although I can't confirm that this change has had an immediate impact on our recent results due to seasonal factors, it certainly bodes well for the spring season. The timing of this rate drop in December aligns perfectly with the mid-January launch of the spring season, which is typically when most homes are sold. The 10-year rate stands at 417 basis points, and historically, the spread between the 10-year and the 30-year mortgage is about 170 basis points. If we were to apply that historic spread today, we would see a 578 mortgage based on the 10-year rate. We believe there's still room for the 10-year rate to decrease. As confidence grows in the longer-term macroeconomic outlook, I expect the spread will narrow toward that historic 170 basis points. While I can't predict future rates, I am optimistic that the current rate of 7.25% may improve, which sets us up well for spring. Our pricing power will vary by market, and we make decisions based on specific local communities. We expect to see growth in community counts, but this is a net figure, considering that some communities will sell out while new ones open in 2024. There's been a lot of excitement surrounding these new community launches due to pent-up demand. While I understand this is a vague response, it's the best I can provide. Given the current interest rates, market sentiment, our company's positioning, new community openings, and our strategy to offer homes at various stages of completion, we are feeling optimistic. As a result, we believe we can increase prices while also managing to reduce incentives gradually.

Right. No, that all makes sense, Doug, and I appreciate the answer. Maybe secondly, just kind of looking at some of the broad strokes around order trends, you talked about sales pace maybe being potentially around 26% versus maybe that's up about 10% or so versus the last year or two. Talking about community count also about 10%. So you're talking about roughly a 20% growth in orders. If those numbers kind of flow through, that would still kind of trail the midpoint of your closings for the year. And so you'd actually end up with a backlog down year-over-year once again in 2024. As a result, in order to have closings growth in 2025, you'd actually have to further turn your beginning year backlog faster, maybe something 1.8 times or something around that if you're having a moderate level of closings growth. Is that something you're comfortable with in that type of scenario? Obviously, you talked about spec increasing as a percent of sales. I don't know if that would continue to increase over the next year or two. You have turned your beginning backlog in that 1.5 times to 2 times range in the past. So is that a scenario that is reasonable in your view?

We are dedicated to our new specifications strategy. In the industry, we are definitely on the lower end regarding the percentage of our homes that are spec-built. We approach this strategy with caution. However, as we have strategically reduced our price points, we see more opportunities to construct additional spec homes. We recognize that there is a gap in the tight resale market for buyers who wish to move in sooner, especially those who couldn't find what they wanted and prefer an earlier move-in date compared to the typical 12-month construction time for custom orders. Therefore, the strategy is effective, and we are committed to it. As mentioned earlier, many builders consider a spec home to be one that is considerably advanced with no options for customization. In our case, we often list our spec homes when they are still in the framing stage, and frequently, we slow down construction while drywall is being hung to allow buyers to choose their flooring, kitchen cabinets, countertops, plumbing fixtures, and more. This provides buyers the chance to engage in the design studio process and create a home that reflects their lifestyle, while still ensuring a faster delivery than starting from scratch before obtaining a building permit. This strategy has been implemented for two full years now, and it is proving to be effective, contributing to our growth moving forward.

Thank you. And our next question today comes from Alan Ratner with Zelman & Associates. Please go ahead.

Hey, guys. Good morning. Congrats on the great year.

Thanks, Alan.

Doug, a couple questions. I know you're still somewhat early on in the spec shift, but I'm curious if you can give a little bit of color in terms of how specs kind of just perform in comparison to build to order. Obviously, margin is probably the main focal point. But do you see any differences in kind of how spec buyers behave when rates are volatile in either direction, either up or down, or any other kind of interesting observations you've taken as you've grown that part of your business?

Sure. So let me first start on the numbers. Our specs sell for about $200,000 less than build-to-order, and that's because of two things. We generally don't build a spec on the high-lot premium lots. We save the best lots for those clients who want to go build-to-order because we know the build-to-order crowd, when they get into our design studio, they spend a lot more money. And so part of that $200,000 lower price is a more average lot premium and it's less upgrades. We make sure the specs are fully curated with great finishes. We bring in nationally acclaimed designers that do the interior design of our model homes, to come up with great packages, but we don't go wild and we don't overdo it. And so naturally, that price is a couple of hundred thousand dollars lower. We also tend to build more specs in less expensive communities because you have more buyers. The lower you go in price, the bigger the market you have. Generally, specs gross margin is about 250 basis points lower than build-to-order.

Right now.

At this moment in time.

Right.

We are pleased to see that the spread is tightening a bit. As part of our new business model, we embrace this change and are not disappointed. In fact, we’re quite happy with it. With our build-to-order model, we are currently at 26.5%, which includes lot premiums and upgrades, up from 21%. Customers opting for build-to-order are selecting the best lots with higher premiums and investing more in both structural and finish upgrades. As we mentioned, our gross margin from the design studios has increased to 40%, indicating that the build-to-order model is generating excellent margins. We are comfortable integrating a spec margin that is 2.5 points lower because the overall results are strong, and we are achieving high margins. I hope this clarifies the price point and margin breakdown for spec offerings.

Yes, that's all really helpful. Definitely gives us good insight into how that mix will unfold. So appreciate all the detail there. Second question I had is on the land side. I know there's been a few questions on inventory turns and things like that. You guys are making great progress towards the 60% option goal. I'm curious if you have a goal or a target or maybe you're content where it is today in terms of where your supply of owned lots can go. Obviously, as you option more land, that has some impact. But your supply of owned lots has been pretty steady in the four year range, maybe plus or minus over the last several years, even as the option share has moved higher. And I would think that would be one lever you could pull to further improve those turns. So is there a target in mind? How low could that number go with your business model? Obviously, all your peers are closer to two years, but you have a bit of a different model there. So any color you can give there would be great.

Sure, Alan. I think a long term goal for us is to get down to 2 to 2.5 years of owned land, with almost a year's worth of that owned land having a backlog home or a spec home on it in various stages of construction.

Thank you. And our next question today comes from Rafe Jadrosich with Bank of America. Please go ahead.

Hi, good morning. It's Rafe. Thanks for taking my question. Just following up on the last question on the difference between spec and BTO. Can you talk a little bit about the return on inventory on spec or return on equity on spec versus the build-to-order?

Sure. The spec homes on average take about two months less to build and deliver.

Got it.

So, Rafe, the return on equity from the spec homes is a little higher than the return on equity for the build-to-order homes. And the inverse relationship of the gross margin is the balance we're trying to play there.

Got it. That makes sense. It's very helpful. Regarding the commentary on orders for the first quarter, it appears that the current quarter is generally in line with typical seasonality, or perhaps slightly better. You currently have more communities available, and as you mentioned, mortgage rates have decreased. Why isn't the performance better than normal seasonality? Is it because October didn’t slow down as expected, or is it typically a slow time in December? Is there an issue with community timing? Why isn't it exceeding normal seasonality, especially with some positive factors in play this quarter?

It's a seasonal pattern. November and December are traditionally slower months due to the holidays from Thanksgiving to New Year's. However, I'm actually pleased with where we currently stand. Historically, we've noted that Q1 sees a 20% decline, largely because it includes November and December. We remain optimistic, especially with the sales we've experienced so far this quarter and the significant drop in rates we've observed in recent weeks. We believe that not only through New Year's but also into early January, there are strong reasons to expect a solid start to the spring season. We anticipate performing better than the usual 20% decline.

Rafe, when we talk about seasonal trends, we're talking about on a per community basis as well. So we've kind of already adjusted for a little bit more communities.

Right. And one week doesn't make a trend, but last week was a really good week. And I'm not going to read too much into that, but we're going to stay where we are, which is it feels seasonal. The norm is down 20%. We think we'll do a little better.

Thank you. And our next question today comes from Alex Barron with Housing Research Center. Please go ahead.

Thank you, everyone, and great job. I wanted to ask about incentives, especially rate incentives. What seems to be working better for you? What are you offering that is attracting clients?

Alex, it's a great question. It's very interesting for us, and this may be a bit different from the other builders. We have all the programs the other builders have. We've got the two-one buy down. We've got the three-two-one buy down. We'll take your 30-year rate from now 7.25% to 5.58%. You want it, we'll call our mortgage company and we'll figure it out. And it's a great front-end marketing tool. It's all over our website; it's all over the email marketing campaigns we have with our clients. It drives traffic into our communities, but very few take it. And the reason is, if we're buying your rate down, we're looking at a 30-year time frame. Most clients think to themselves, I'm going to be in this house five to seven years, which is the average amount of time that you're in a home, or they think, I think I can refi at some point before that five to seven years, and the incentive that Toll Brothers is wrapping into this rate buy down they have offered me as an alternative incentive to go have fun in the design studio and have a discount or a credit in that design studio. And I'd rather upgrade my house on them than take advantage of a rate buy-down. So it's driving traffic, it's conversation, but we are not seeing the stickiness that maybe others are. Part of it is, 26% of our buyers are all cash, and those that get a mortgage have a 69% LTV. I think maybe they're obviously more affluent; maybe they take a little lower mortgage than they would otherwise have. That's particularly true in active adult, where that LTV is probably closer to 50% because they have more equity coming out of their existing home and they're thinking to themselves, I'd rather use the money to upgrade my home and refi earlier than maybe the formula shows. And so we market the heck out of it, but we don't see a lot of takers.

Okay, well, I appreciate that answer. It's very great. Many other builders have been using forward commitments to push close to completion specs. Are you guys doing any of that?

Yes. And the further along the home is, the less expensive the buy down is because you can lock a lower rate for 60 days or less cost than locking that rate for 90 or 120. So, yes.

Buydowns got cheaper over the last month as well.

Buydowns have definitely got cheaper. You're buying down from 7.25% instead of 8.25%. So that, thank you, Marty. That's exactly right. The other nice piece of news here that I'll throw in; the loan limit on a conforming Fannie Freddie is up $313,000 since 2018. It just went up again, and that helps the business.

Thank you. And our next question today comes from John Lovallo with UBS. Please go ahead.

Hey, guys, thank you first for squeezing me in here. Just a couple quick ones. The first one, just following up on Rafe's question. The comment that you guys made about a little bit better than normal seasonality, was that specific to absorption or was that for total orders in the first quarter for order growth?

Absorption.

As measured by deposits.

As measured right now by deposits.

Okay, that's really helpful. And then quick follow-up here. In your outlook, how are you guys sort of thinking about mortgage rates? I mean, I guess the question is, if rates were to stay at a similar level than they were today, how much risk is there for what you guys are talking about today?

Little. We sold a lot of houses at 8%. We'll sell more houses at 7.25%. And if my long monologue about where the ten-year is and where the 170 spread typically is and where we think things are coming, if I'm right and we can break through that 7% into the 6% land, yeah, every time there's a drop in rates, our business should get better. That's proven true over the past couple of years, so we are optimistic.

Thank you. And our final question today comes from Truman Patterson with Wolfe. Please go ahead.

Hey, good morning every guys and thanks for squeezing me in first. Just want to make sure for clarity, when you were talking about 2024 inventory dollars overall, kind of being flattish, is the expectation that included homes under construction and land as well, correct?

Yes. I mean the land spend is a little tough to really project this early compared to the end of the year, but yes.

Yea. Understood. Just two quick ones for me. You all rely pretty heavily on Realtors given your consumer base. I'm hoping you can remind us what portion of your sales have a Realtor associated with them? What's your kind of typical broker commission and just any thoughts on the preliminary NAR ruling and the impact on your business?

Sure. So two-thirds of our sales involve an outside Realtor representing our client. On average, we pay that Realtor 2.25% of the delivered price of the home. When you do the math, that comes out to 1.5% of total revenue of the company is with third-party Realtors. It's too early to comment on the NAR litigation. Obviously, there's appeals, and there's other litigation that has popped up since that case. But I think longer term, the industry, we are all encouraged to believe that the third-party commissions will be coming down.

Okay, perfect. And then Doug, you mentioned eventually getting to 60% option land. I'm just trying to understand, do you think that could potentially take a pause in 2024 on that progression? We've just been hearing that developer cost of capital and availability is tightening, so it might make it a little more expensive to option those deals, perhaps find better raw land, owned deals that you could possibly bring on your balance sheet. Just trying to understand how you're thinking about opportunities in 2024 there.

I think that's a valid point, Truman. The cost of land banking has increased, which has likely led us to engage in less land banking, contributing to us not optioning as much land. However, even though we currently have a 50% ownership and 50% optioned ratio, progressing to a 60-40 split may take some additional time. This doesn’t diminish our strong focus on capital efficiency and driving internal rates of return and return on equity. If we are not land banking, which helps keep it off our books for longer, we plan to negotiate favorable terms with our land sellers through purchase money mortgages. This means that although we may own the land, payment will be deferred to some point in the future. We're still very much focused on driving internal rates of return in our land underwriting, even if it takes a bit longer to increase the proportion of land we have under option.

Thank you. This concludes our question-and-answer session. I'd like to turn the conference back over to management for any closing remarks.

Thank you, Rocco, you've been terrific. Thank you everyone for your interest and support of our great company, and we wish all of you a wonderful holiday season.

Thank you. The conference has now concluded and we thank you all for attending today's presentation. You may now disconnect your lines and have a wonderful day.