Good afternoon. Welcome to the final presentation of our 2-day conference, our 16th annual J.P. Morgan Home Building and Building Products Conference. I we have with us Forestar Group, CEO Dan Bartok and CFO Jim Allen, in true fireside chat style with the backgrounds. Really appreciate that. It gives me a smile at the end of a of a long 2-day conference. You know, appreciate you guys joining us, of course. You know, first off, just I'll say welcome. Again, thanks for your time today.
Thanks for having us. Appreciate it.
Love to jump in just on the market opportunity that you guys still have in front of you. You know, what is your current estimated market share of the lot development market, and what's your goal over the next two or three years in terms of where you're hoping to take that share?
Yeah. We look at, you know, what's our, what's our percentage of lot sales to kind of housing starts. I think we're close to that 2% number today. In other words, 1 out of 50 homes, started in America is on a lot that Forestar has developed. Our goal is to get that to 1 out of 20, so basically a 5% market share. Whether we can get there in 3 years or not is, you know, is a little questionable, but we're gonna be on that path. I think we'll probably be in that 3 to 4 range within 3 years.
By the way, for those joining, you might see my name on the bottom corner, but my name is Mike Rehard, and, you know, happy to host this presentation. I'm the senior analyst covering the home building and building product names for JP Morgan. You know, welcome all those that are joining us, you know, towards the end of the second day. Parenthetically, we've had a great conference over the last 2 days with Forestar being our 18th company participating. Put out a bunch of notes and research. You know, I encourage you to take a look. We'll have a takeaways report out hopefully Friday morning as well, or at least we plan to.
You know, welcome your questions on the conference over the coming days. The research is not promised, but in typical fashion, we do typically put a report out after the conference. Sorry about that, Dan and Jim. That's my short little advertisement.
I thought you were gonna say we're saving the best for last anyway. That's okay.
That goes without saying, but I'm glad you said it. You know, I appreciate that, you know, 3%-4% range, you know, in the next 3 years. You know, obviously, you guys have always had multiple paths of growth in front of you. I was hoping maybe to kind of take us through those different paths of growth, you know, be it, you know, deeper penetration with D.R. Horton, your third-party business, you know, non-Horton business, you know, geographic expansion, maybe that kind of is an overlap of the two prior categories. How do you think about achieving that share? And more importantly, I think, how does that translate into a growth algorithm over the next couple of years to the extent that the market stabilizes?
Well, I think number one of priority for us is to continue to build market share within D.R. Horton. Today I think we're probably about 18%-19% of the homes that they're starting are on lots that Forestar has developed. I think there's room for us to continue penetrating their priorities. The stated goal for, I think, for both companies is to get us up to about 1/3 of the lots that they need are coming from Forestar. There's certain divisions that I'm already at that 30%-40%. I think it is, it's clearly achievable. You know, it's a matter of continuing to expand that throughout their footprint. Second is really build selling lots to builders other than D.R. Horton.
Over the trailing twelve months, I think we were at about 15% of our sales, which was builders other than Horton. We're on a pretty good track there. Again, I think our stated goal has been to get that at least up to 30% of our total sales. I think we're making some pretty significant progress on that. I think that that trend line will continue for us. You know, so I think from a, from a customer base, I think both of those are achievable, and I think, you know, pretty much at hand. As far as opening new markets, we already have offices now in 34 different cities, even though we're operating in 50 markets. In most of the major markets, we can make some incremental additions to markets that we're in.
There's a couple markets that we actually dropped out of here that we're getting ready to get back into. About two years ago, when we kind of slowed up some land back, we didn't replace some deals as stuff was a little bit pricey at the time, and now we're seeing opportunities to reenter a couple of those markets. It's really growing depth and growing market share within the markets that we're in is our primary focus.
Right. Just on the third-party sales, I think I heard you say 30% of your sales is the goal. You know, just remind us again, I apologize if I missed it, where you are currently. You know, and I know you've had different, you know, partners over time. If you could kind of remind us of, you know, how many other builders you typically do business with on a quarterly basis, and you know, where do you think that can, you know? I know the goal is 30%, but how do you think about it over the next year or two?
Yeah, I think it's gonna be lumpy. I think you're gonna have some quarters where we may hit that 30%. I think on a trailing twelve basis, we're probably 2 to 3 years from having that as more of a steady state. For the number of builders, I don't... Jim, do you know that off the top of your head? I think it's like a dozen, something like that.
Gotcha.
Different builders that we have contracts with and are closing lots with. Again, from quarter to quarter, that may vary depending on those deliveries.
Right. Right. You know, just thinking about growth more broadly over the next year or 2, you know, prior to the market volatility, you know, I know the company's talked about, you know, growing at least 15%-20% a year in terms of volume. Is it still a reasonable goal for Forestar as the market volatility kind of smooths out or, you know, the market hopefully continues to normalize here? You know, how should we think about that, those growth goals over the next couple of years?
I believe that is a reasonable goal for us within our current capital, you know, stack today. You know, if you look back over the last 5 years, we went from 1,500 lots a year to almost 18,000 lots. Our growth has actually been much more rapid than 20% a year on an annualized basis. We believe that we can achieve that from where we're at today. That's if we didn't raise any additional capital, just kind of within our current capital stack.
Right. Right. You know, it's interesting because we spoke with D.R. Horton yesterday, you might have seen that, and we asked them about, you know, Forestar and, you know, their plans to ultimately are still there in terms of, you know, eventually deconsolidating your statements from theirs, and, you know, that would require getting below 35%. You know, initially it was thought of that that might be done through a combination of their selling their shares, but also you issuing primary shares. You know, your cash flow has been a lot stronger. Your balance sheet has been, you know, reasonable levels of leverage. So you haven't had to necessarily raise additional funds.
I mean, you know, your comments around potentially raising money to accelerate growth, I mean, how do you see it? Maybe this is more of a question for Jim. But, you know, how do you think about the balance between perhaps accelerating growth, which might require more capital, or, you know, kind of just continuing on the path you are or have been for the last couple of years, which is, you know, kind of growing within your means, within your balance sheet, within your cash flow generation, that would not necessitate any additional capital raises?
Well, our financing plan has always been to have a balance or a blend between equity and debt and to maintain a net debt-to-capital ratio of 40% or less. Today we're about 25%. Our liquidity, total liquidity is about $650 million. We're, you know, we're in good shape. We can, you know, continue to grow at, you know, 15%-20% with our current capital structure. Equity would allow us to accelerate that, but, you know, that's really opportunistic depending on our stock price. You know, as it's been trading at a discount to book value, it's probably not the right time for us to issue equity at this point.
Right. Right. Okay. You know, maybe shifting a little bit to, you know, going back to the industry backdrop again. You know, the regional banking crisis has obviously been a big topic. I think it was one of the questions on your recent earnings call. You know, how have to the extent that you've seen things change at this point, you know, how have lending standards and credit availability changed so far this year for land developers? You know, does this create, or has this begun to create any opportunities for Forestar in terms of, you know, opportunistic acquisitions of either, you know, certain land parcels or even other lot developers if so?
Sure. We've added actually a new slide to our investor deck, which I'm sure you've probably noticed, but if not, it actually shows a recent survey from NAHB that says, you know, majority of respondents or the highest level of respondents, like in the last decade, have said financing development, land development financing is harder to get. That and coupled with the fact that cost of capital has increased, effective, you know, interest rates of 10% or higher, and compare that with our, you know, our weighted average debt of 4.6%. You know, we do have an advantage in the cost of capital, but I think that will, you know, will present opportunities. You know, we have built our liquidity in anticipation of seeing those opportunities.
We haven't seen the level of distress yet that, you know, that we thought we might. We are seeing opportunities. We're beginning to see opportunities.
The other interesting part, Mike, is, you know, having no project level debt and not relying on the banks to approve any given acquisition or approve a debt for that also gives us a leg up when we're acquiring land. You know, being a credible counterparty, you know, where the seller knows that we can just write a check, you know, basically with our own approval, not having to get an appraisal and go through the process of getting the bank loan approved, gives a little bit of a leg up on tying up land for acquisition as the local developers as well.
Right. Right. No, I mean, I think, I think it could be very interesting for you guys over the next, you know, couple of years, potentially. You know, obviously, you know, it's, it's very dependent on, you know, how quickly, you know, things might stabilize that might then limit opportunities, let's say. Still, I mean, even in normal times, I would think, you know, the ability to acquire and aggregate, you know, assets is, is gonna be a competitive advantage over time. Yeah. Let's shift to some of the, you know, income statement, you know, lines of, of profitability. Love to start with gross margins. You know, your gross margins have ranged a decent amount over the last few years from high teens to low twenties.
You know, how should we think about this metric over the next two or three years as the market normalizes?
Well, you know, as you know, we underwrite to a return, not necessarily to margin. In our portfolio, we have a mix of slower turning projects with higher margins and faster turning projects with lower margins. Our margin is always kind of a blend between those two things, and it's really dependent on, you know, what which projects have deliveries in the quarter. You know, we have seen margins increase. You know, part of that is just the increase in Forestar sourced projects, Forestar sourced land. Today, about 60% of our owned lots are Forestar sourced. About 25%-30% of our sales are from Forestar sourced lots. We have seen a correlation, an increase in margin due to that.
Otherwise, it's really just a blend between projects, and we'll continue to price our lots at market and, you know, give and take whatever margin, you know, the market gives us.
Right. Currently you're at 25%-30% Forestar sourced. Is there a number that you hope to achieve over the next year or two or even longer term that would ostensibly, you know, drive the margin higher?
There's no particular target. I mean, it will likely trend higher given the percentage of lots owned, that are Forestar sourced. We have no particular target there.
Okay. Okay.
We really look at each deal individually whether it's sourced by a builder or by us, we're looking for, you know, the best real estate opportunities. Again, it's a blend of pricing as well as velocity. We're really looking for the best return versus, you know, as Jim said, we're really underwriting to the return and how fast we can turn our capital more so than we are the actual margin on a given project.
Right. Right. I guess similarly, you know, on SG&A, you know, in fiscal 2021 it was around 5%, kinda crept up to 6% in 2022. It's gonna be a little higher this year, at least it's trending that way. How should we think about this metric going forward as well as you maybe return to a growth mode?
Well, as you know, we went through a lot of growth. When you think about 2020, 2021, 2022 and our rapidly increasing revenue base, we were also building out our team and our infrastructure. I think you saw, you know, we really kind of hit that mid to upper single digit SG&A. You know, frankly, sales over the last couple of quarters were levels of half of the revenue of a year ago, even though we've stayed profitability and our profitability percentage was same. We didn't get that leverage off our SG&A, our SG&A percentage went up. I think as we return to growth and our revenues regain that, you know, kind of pace where we were at, you'll see our SG&A go back to that mid to high single digits.
Right. Right. Maybe also just talking a little bit about lot ASPs. It's been interesting that despite the rise in home prices, your lot ASPs have been pretty steady, maybe only going from the mid-80s in fiscal 2021 to, you know, the high 80s over the last couple of years. How should we think about this number going forward, you know, either through, you know, geographic mix or just, you know, broad housing appreciation in the markets? How should we think about the lot ASPs for you guys?
Well, that one's always, you know, tough to predict because it is a mix, based on geography and to a lesser extent, lot size. You know, over time, I mean, we have, we've tended to do less in the Western states, some of the more expensive, lot, you know, regions with, more expensive lot prices. You know, we've had that mix shift. To Dan's point, we may, you know, we may go back into some of those markets. We'll look at that.
It really is dependent on that, on that mix and really hard to predict.
Yeah. I mean, you think about I have markets where the average lot sale price is $250,000 and markets where the average lot sale price is $50,000. You know? It really can influence quite a bit that ASP based on which projects you're closing lots in the given quarter.
You know, I mean, on that point, you know, obviously, it does seem like your business is predominantly still perhaps Texas and Southeast driven. You know, any plans to maybe increase the exposure on the West Coast or Pacific Northwest or those areas that you would not only drive a higher lot ASP mix, but also, you know, higher revenues and, and profits ostensibly?
Yeah. Obviously, Pacific Northwest is one of the markets that we were in. We were in pretty heavy. As projects rolled off, we weren't able to find projects that underwrote to our standards, so we ended up with nothing up there. Now we are looking at opportunities to reenter that market. I think that's one place you'll probably see us, you know, reenter with a higher pricing. California, kind of same thing. You know, when you look at, you know, some of our exposure early on, it was higher than it was and for the right opportunities, we'll reenter those markets. You know, your point about Texas and Florida, we still allocate our capital based on housing permits and housing starts more than we do on dollars.
There'll always be, you know, kind of a heavier emphasis in Texas and Florida 'cause that's really where housing starts are at. You know, over 55%, I think of our owned and controlled lots are in those two states. I don't see that changing too much because again, when you look at how we map out all the MSAs, we track a little over 100 different MSAs today. You know, that's predominantly where, you know, the busiest markets.
Right. Right. Maybe talking a little bit about cycle times. You know, for those listening, you know, I have a couple more questions and, but, that would kind of push me towards the end of my list. If people have questions and would like to, you know, for me to ask, again, hit the ask a question icon on your dashboard, or even just ping me on Bloomberg, and I'd be happy to pass those along to the company. You know, wanted to hit on, cycle times actually for a moment, and maybe just take us through, you know, where cycle times are currently, where they were at its worst, and, you know, where could they be on a more normalized basis.
Yeah. We used to look at an average first delivery on a first phase as being about 12 months, even though it might vary from market to market. From the day I put a shovel in the ground to actually turning that first revenue event was about a 12-month period on average. I'd say at the worst, that elongated by about 90 days. Instead of 12 months, it was taking us about 15 months. We're back down to about a 60-day elongation. We're starting to finally see maybe a little relief in transformers in some markets, which will help quite a bit.
Mm-hmm.
Also just you know, contractor availability seems to have loosened up. I think we'll be back to that 1 year. I still see us contracting back to normal, kind of normal periods. Now, does that happen in 2023 or 2024? You know, again, it'll it's still gonna be market by market and where activity is. I think we did a really good job over the last year of staging development. As we saw the market slowing rather than, you know, just mothballing a project, we might take it to a natural stopping point. We, we had a lot of lots that were graded that we didn't put pipe in the ground.
We got lots that had pipe in the ground where we decided not to put streets in yet, so that we should be able to turn those lots on a lot faster than starting from scratch.
Great. Great. You know, my last question is just more revolves around, I think part of the reason that your stock is where it is from a price to book standpoint is concerns around impairments. I'm sure you get this question a lot, so it's important for me to kind of at least hit on it during this forum. You know, in the second quarter, in your March quarter, you took a $19 million of impairments on 2 projects. How should we think about impairment risk going forward?
You know, with the recent, you know, more recent price stability or home price stability in the market over the last few months, does this get you a little further in the clear or, you know, or should we expect that there might be still a project here and there, where there might be an impairment going forward? Right. Well, as we've said before, we don't expect to see widespread impairments due to the market. Both of the impairments that we took last quarter were due to cost. Each of the projects had its own unique set of circumstances that caused those impairments. Neither was really based on the market or a deterioration in the market.
Again, we don't, you know, we don't expect to see widespread impairments due to the market going forward. There, you know, there could be isolated impairments due to cost. That's always, you know, there's potential for that, but otherwise, we don't see it.
Yeah. When I really think about it, you know, they're kind of unique item, unique situations in both of them. In one case, we had a project where, the city had kind of given us approval of, really an access road situation of, you know, being able to build that road. When it came time to pull the permit, they decided they wanted to redesign the road. Even though we only kind of had a piece of paper that said, "Go forward," they decided they wanted to change the rules. It ended up being a very elongated process as well as, a significant increase in the cost to access the property. When you roll all that back in, we didn't really have a ton of choice. You need to get the project approved.
Anyway, the cost run-up was something that, you know, the project just couldn't absorb. The other one was a similar situation in that it wasn't necessarily the city promised to do something. The city had approved some plans that we thought we could convince the city to go with a much less expensive route because it made sense. It was a logical thing. It would actually reduce the city's maintenance of those improvements over time. It was really about deep sewer in Florida, which you might imagine has a very high water table. We were trying to convince them that there was a much faster, easier way to put the sewer in the ground, you know, it came down to it. We guessed wrong.
We thought we could convince them to go with what seemed to us to be a more logical system. They held their guns and said, "This is the way it's designed, this is the way you got to build it." The project really couldn't absorb that additional cost. You know, basically put in a, you know, basically build a sewer in water below ground. It just didn't make a lot of sense. Anyway, it can be done, it was just very costly.
Right.
Unique situations, neither of which were market related. They were really, as Jim pointed out, really more about the cost of the project and, you know, maybe we learned a lesson there along the way.
Right. Understood. No, it's, you never fully appreciate some of the dynamics of land development until you work through, you hear some of these issues and problems, and each municipality is its own animal, I guess. Well, you know, that does it for me. I'm just checking on the question bank. We don't have any inbound questions. I'll just, again, say that if you do have a question, again, feel free to email me outside of the conference, and we can certainly pass those along. We'll conclude here. Again, Dan and Jim, you know, thanks again for spending some time with us today. Always learn a lot when we're able to sit down. Again, appreciate the fireplace backdrop.
You get extra stars for that. It really put a smile to my face, at least. I wanna say, you know, thanks, and enjoy the rest of the day. Now, for those that are still on, thanks for joining us over these last few days. Happy to connect over the next few days and next week, if you'd like to review takeaways from the conference. Either way, have a great rest of the day, and we'll see you soon.
Great. Well, thanks, Mike. Appreciate it.
Thanks.