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Text: On the call are Jeff Mezger, Chairman, President and Chief Executive Officer; Matt Mandino, Executive Vice President and Chief Operating Officer; Jeff Kaminski, Executive Vice President and Chief Financial Officer; Bill Hollinger, Senior Vice President and Chief Accounting Officer; and Thad Johnson, Senior Vice President and Treasurer.
And with that, here is Jeff Mezger.
We delivered healthy results in the second quarter marked by one of the strongest quarters for both operating and gross margin performance in some time.
Operationally, our divisions are doing an excellent job of navigating this environment of demand strength and well-publicized supply chain constraints as we effectively balance pace, price and starts to optimize our assets and manage our production.
With our full year coming into better view, we are poised for continued returns-focused growth expanding our scale to about $6 billion in revenues and generating a return on equity of roughly 20%.
As for the details of the quarter, we produced total revenues of $1.44 billion and diluted earnings per share of $1.50.
We achieved an operating income margin of 11.3% driven by several factors.
In addition to strong market conditions, we are benefiting from solid performance in our newer communities, operating leverage from both the increase in our community absorption rate as well as overall higher revenues, disciplined management of our SG&A costs and the ongoing tailwind from lower interest amortization.
Our profitability per unit grew meaningfully on a sequential basis to nearly $47,000.
We achieved or surpassed our expectations across our financial metrics, although deliveries were at the low end of our range as some of our deliveries shifted into the third quarter due to supply shortages and municipal delays.
That said, with the benefit of local scale in most of our divisions, we are relying on our long-standing relationships with subcontractors and trade partners to mitigate delays.
With the progression of our work in process and our success in accelerating starts, we are confident in our ability to achieve full-year deliveries of between 14,000 and 14,500 homes.
Our balance sheet is solid.
Having worked through the bulk of our inactive assets, our inventory has rotated into a higher-quality portfolio of communities.
We have grown our equity while reducing our debt resulting in a significantly lower leverage ratio, which we expect will decline further by year-end.
We recently completed a $390 million debt offering, the net proceeds from which together with a portion of our existing cash will be used to retire our '21 maturity in full.
Ultimately the offering will contribute to a reduction of our debt levels and lower our average borrowing rate, providing an ongoing tailwind to our future margins.
We continue to allocate the substantial cash we are generating in a consistent manner prioritizing our future growth to drive greater earnings and returns.
In addition, our balanced approach includes returning cash to stockholders, primarily through our quarterly dividend, which we have raised in each of the past few years and reducing our debt, as I just mentioned.
In the second quarter, we invested $575 million in land acquisition and development, expanding our lot position sequentially by 7,800 lots to roughly 77,500 lots owned or controlled with 45% of the total optioned.
This growth in active inventory, together with improving margins, should help to drive further improvement in our return on equity.
As we discussed last quarter, we are assuming a lower monthly absorption in our underwriting as compared to our current pace and no inflation either in ASP or costs.
In addition, we are pursuing moderately sized deals in our preferred submarkets averaging between 100 and 150 lots and staying on strategy and positioning these new communities to be attainable near the median household income for that sub-market.
We believe using this disciplined approach helps to manage our risk as we acquire land throughout this cycle.
While we expect our near-term growth to come primarily from our existing markets as we work to gain market share and expand our scale, we are also selectively entering new markets.
Along with our success in Seattle and recent reentry into Charlotte, we are announcing today that we have started up a division in Boise, Idaho, a top 25 housing market.
We see a meaningful opportunity in this fast-growing metro area to offer our personalized homes at affordable prices and we are excited about extending our market strategy to Boise.
We now have over 900 lots under control and anticipate our first land parcel closing in the third quarter.
We successfully opened 33 new communities in the second quarter.
However, as a result of the heightened demand for our homes, we sold out more communities than we had projected and also experienced slippage in some community openings.
Jeff will provide more detail on our community count expectations for this year in a moment.
Looking forward to 2022 with our strong lot pipeline, we remain on track for double-digit year-over-year community count growth.
As we prepare for the significant acceleration of new community openings over the next six quarters, we have also stayed focused on building our backlog to drive our revenues for the balance of this year and into 2022.
Our monthly absorption rate rose to seven net orders per community during the second quarter, even as we managed sales primarily through price increases and secondarily through lot releases in order to balance pace, price and starts.
We are sensitive to affordability as we work to stay within appropriate range near the median household income of each submarket.
Our order ASP has climbed in the past three months, reflecting a combination of mix as well as rising prices.
Our largest sequential net order increase was in our West Coast region.
Although this region carries our highest average selling price, it remains competitive with resales within our submarkets.
Our Los Angeles/Ventura business provides a good example.
This division generated the strongest sequential order growth in the second quarter.
And although it operates at a higher ASP, it is still below the median resale price of homes in its submarkets which are as much as $100,000 higher and selling within a few weeks of being listed.
Resale prices have moved significantly and our relative position has actually been enhanced.
As to lot releases, our approach is similar to how we gauge interest in a new community.
Homebuyers complete an application and go through their initial credit process to join a list of qualified buyers.
We then work through that list as we release lots.
We are typically raising prices in conjunction with each lot release and have not seen a decrease in the conversion of qualified buyers even as base prices have risen.
Our teams work hard to earn our place as the number one customer ranked national homebuilder in third party customer satisfaction surveys by prioritizing service and the relationships we have with our buyers and we're focused on continuing to do so during this time of limited supply.
The metrics that we monitor internally for shifts in affordability are stable.
Buyers are not adjusting the size of the homes they are purchasing to stay in the market.
Although we offer floor plans below 1,600 square feet in over 75% of our communities, buyers are still selecting homes averaging 2,100 feet, which is consistent with their choices over the past couple of years.
As is evident in our results, the desire for homeownership is strong and we believe will remain so for the foreseeable future.
There are two primary factors in forming our view.
The first is an acute shortage of supply stemming not only from limited resale inventory, but also from the under production of new homes over the past 15 years.
This deficit will take many years to correct and until inventory reverts to more normalized levels, the imbalance between supply and demand should continue to support new home sales.
Another key factor is demographics.
The size of the millennial population and the pent-up demand from this cohort together with the Gen Zs now reaching their homebuying years form a large and healthy pool of prospective buyers.
These demographic groups value personalization and we believe we are well positioned to capture increases in home sales given our expertise in serving the first-time buyer which represents 64% of our deliveries this past quarter with our built-to-order approach.
Net orders were 4,300, our best second quarter since 2007 with strength throughout the quarter resulting in year-over-year growth of 145%.
This comparison narrowed at the end of May when we experienced a significant acceleration in order rates that has lasted for the past year.
We are matching starts to sales and in the first half of this year we have quickly scaled up our production to start over 8,500 homes.
To put this in context, the homes we started in the past two quarters represent about 75% of the total homes we started for the full year 2020.
Almost 95% of the homes in production are already sold and we remain committed to our built-to-order business model.
We value the visibility that our even flow [Phonetic] production provides and the flexibility that it affords in positioning our communities to move with demand.
Offering a personalized home creates meaningful differentiation for our Company, which we view as an advantage because buyers value choice.
Nearly 80% of our orders in the second quarter were for personalized homes, which also creates an additional revenue stream from our design studios and with lot premiums.
Our studio revenue per unit rose sequentially in the second quarter and is continuing to average about 9% of our higher base prices.
We continually monitor the frequency of studio selections and had been raising prices on some products, enhancing an already accretive studio margin.
As to lot premiums, we have found over time that if buyers can pick the home they want and build that home on a lot they choose, they're willing to pay for that choice and we can generate additional revenue.
Every incremental dollar of lot premium is an additional dollar of margin.
Between studio revenue and lot premiums, we are averaging about $40,000 per home today and believe there is opportunity to continue to grow this going forward.
We ended the quarter with a robust backlog value of $4.3 billion, up 126% year-over-year representing over 10,000 homes.
As I referenced earlier, our backlog supports the higher revenues we anticipate this year and sets the stage for another year of revenue growth in 2022.
KBHS Home Loans, our mortgage joint venture, continued to be a solid partner for our customers handling the financing for 75% of the homes we delivered in the second quarter.
These buyers have a strong and consistent credit profile with an average down payment of about 13% or over $50,000 and an average FICO score that inched up to 727.
The majority of our buyers are opting for conventional loans similar to the past few years.
Switching gears, we published our 14th Annual Sustainability Report in April, the longest-running report in our industry.
We've been on this journey for over 15 years.
And the commitment we have made to sustainable homebuilding has resulted in KB Home being the industry leader in energy efficiency.
We have built over 150,000 ENERGY STAR certified homes to-date, more than any other builder, and have the lowest published average Home Energy Rating System, or HERS, index score among production homebuilders.
And we're striving to be even better with an aggressive goal to further improve our average HERS score from 50 down to 45 by 2025, a level which translates into an additional estimated reduction in a KB Home's carbon emission of about 8% per year.
In closing, we are poised for an incredible year of expansion in revenues, margins and return on equity as we execute on our ongoing plan to increase our scale while driving a higher ROE.
Equally as important, we are positioned for a strong start to 2022 with the expected increase in our year-end backlog and projected community count growth next year.
We are pleased with how this year has unfolded and look forward to updating you on our continued progress.
I will now cover highlights of our financial performance for the 2021 second quarter and provide our current outlook for the third quarter and full year.
During the quarter, we generated improvements in all our key profitability measures and continued to enhance our balance sheet strength and liquidity.
With our operations performing well, we leveraged 58% growth in housing revenues to generate a 216% increase in operating income for the quarter.
In addition, our net orders reached their highest second-quarter level in 14 years.
Based on our robust financial results and our order performance, we are once again raising our outlook for the remainder of 2021.
Our housing revenues of $1.44 billion for the quarter increased from $910 million in the prior-year period, reflecting a 40% increase in homes delivered and a 13% increase in overall average selling price.
Considering our current backlog and construction cycle times, we anticipate our 2021 third quarter housing revenues will be in a range of $1.5 billion to $1.58 billion.
For the full year, we are projecting housing revenues in the range of $5.9 billion to $6.1 billion.
We believe we are very well positioned to achieve this top line performance due to our strong second quarter net orders and ending backlog of over 10,000 homes, representing nearly $4.3 billion in ending backlog value.
In the second quarter, our overall average selling price of homes delivered increased to nearly $410,000, reflecting strong housing market conditions, which enabled us to raise prices in the vast majority of our communities, as well as product and geographic mix shifts of homes delivered.
For the 2021 third quarter we are projecting an overall average selling price of $420,000.
We believe our ASP for the full year will be in a range of $415,000 to $425,000.
Homebuilding operating income significantly improved to $162.9 million as compared to $51.6 million in the year-earlier quarter, reflecting an increase of 560 basis points in operating income margin to 11.3% due to meaningful improvements in both our housing gross profit margin and SG&A expense ratio.
Excluding inventory related charges of $0.5 million in the current quarter and $4.4 million of inventory-related charges and $6.7 million of severance charges in the year-earlier quarter, this metric improved to 11.4% from 6.9%.
We expect our homebuilding operating income margin, excluding the impact of any inventory-related charges, to further improve to a range of 11.7% to 12.1% for the 2021 third quarter.
For the full year, we expect our operating margin, excluding any inventory-related charges, to be in the range of 11.5% to 12%.
Our housing gross profit margin for the second quarter expanded to 21.4%, up 320 basis points from the prior-year period.
The current quarter metric reflected the favorable pricing environment over the past several quarters when most of the orders relating to the second quarter deliveries were booked, increased operating leverage due to higher housing revenues and lower amortization of previously capitalized interest.
Excluding inventory related charges, our gross margin for the quarter increased to 21.5% from 18.7% for the prior-year period.
Our adjusted housing gross profit margin, which excludes inventory-related charges as well as the amortization of previously capitalized interest, was 24.2% for the 2021 second quarter compared to 21.9% for the same 2020 period.
Our continued gross margin improvement trend demonstrates that we have been successful in offsetting input cost inflation with selling price increases.
In addition, with our strategy of locking in material and labor costs at the time each home starts, we have largely mitigated the impact of cost inflation during the construction process.
Assuming no inventory-related charges, we expect a sequential increase in our 2021 third quarter housing gross profit margin to approximately 21.7% and further improvement in the fourth quarter.
Considering this expected favorable trend, we believe our full year housing gross profit margin, excluding inventory-related charges, will be within the range of 21.5% to 22% representing a 215 basis point year-over-year increase at the midpoint.
Our selling, general and administrative expense ratio of 10.1% for the quarter improved from 12.6% for the 2020 second quarter.
The 250 basis point improvement reflected the continued benefit of overhead cost reductions implemented last year in the early stages of the pandemic, increased operating leverage from higher revenues and the severance charges in the year-earlier quarter.
Considering anticipated increases in future revenues and our continuing actions to contain costs, we believe that our 2021 third quarter SG&A expense ratio will be approximately 9.8% and our full year ratio will be in a range of 9.8% to 10.2%.
Our income tax expense for the quarter of $30.3 million, which represented an effective tax rate of 17%, reflected the favorable impact of $14.8 million of federal energy tax credits recorded in the quarter relating to qualifying energy-efficient homes.
We expect our effective tax rate for the full year to be approximately 20%, including the expected favorable impact of additional federal energy tax credits in the third and fourth quarters.
Overall, we produced net income for the second quarter of $143.4 million or $1.50 per diluted share compared to $52 million or $0.55 per diluted share for the prior-year period.
Turning now to community count, our second quarter average of 205 communities decreased 17% from the year-earlier quarter.
We ended the quarter with 200 communities as compared to 244 communities at the end of the 2020 second quarter.
On a sequential basis, our average community count decreased 8% from the first quarter and ending community count was down 4%.
The decreases were due to our strong absorption pace of seven monthly net orders per community during the quarter, which show 42 close-outs as well as community openings that were delayed to the third quarter.
Over the past 12 months our robust absorption pace has driven the close-out of over 150 selling communities.
Although they will not generate additional net orders, we will continue to produce revenues and profit in future quarters associated with nearly 80% of these sold-out communities as we work through the construction and delivery of the sold homes.
The upside from our strong pace of orders is now reflected in our backlog which will drive increased future housing revenues.
Our expectation of continued strong net order activity will drive elevated levels of community close-outs in the second half of this year.
Our goal is to offset the impact of these close-outs by opening a higher number of new communities in both the third and fourth quarters to achieve sequential growth.
We anticipate our 2021 third quarter ending community count will increase sequentially by approximately 5%, followed by another modest sequential improvement in the fourth quarter.
With our significant year-over-year increase in lot supply and our focus on developing and opening new communities as quickly as possible over the next six quarters, we believe we can achieve sequential increases in our quarter-end community count over that period.
We remain committed to our target of double-digit year-over-year growth in community count for 2022.
Favorable operating cash flow in the quarter generated primarily from homes delivered net of higher levels of land investment resulted in quarter and total liquidity of approximately $1.4 billion including $608 million of cash and $788 million available under our unsecured revolving credit facility.
Earlier this month, we completed the $390 million issuance of 4% 10-year senior notes and used a portion of the proceeds to redeem approximately $270 million of tendered 7% notes that mature on December 15, 2021.
We expect to realize a charge of approximately $5 million for this early extinguishment of debt in the third quarter.
It is our intention to redeem the remaining $180 million of the 7% notes at par value on September 15.
Once completed, this redemption, partially offset by the new issuance, will result in a net $16 million reduction in debt and an annualized interest savings of nearly $16 million, contributing to our continuing trend of lowering the interest amortization included in future housing gross profit margins.
In addition, we believe the $350 million of our maturity in 2022 of 7.5% senior notes represents another opportunity to reduce incurred interest and enhanced future gross margins.
In summary, given the size and composition of our quarter-end backlog of over 10,000 homes, along with our expanded production capacity, we expect further improvement in our financial results and return metrics in 2021 as compared to our expectations at the time of our last earnings call.
Using the midpoints of our new guidance ranges, we now expect a 45% year-over-year increase in housing revenues and further expansion in our operating margin to 11.75%.
This profitability level should drive a return on average equity of approximately 20% for the full year.
We believe our emphasis on returns-focused growth will continue to drive improved financial results, increased scale and higher returns to further enhance long-term stockholder value.
Alix, please open the lines.

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q2 earnings per share $1.50.
q2 revenue $1.44 billion versus refinitiv ibes estimate of $1.5 billion.
qtrly homes delivered rose 40% to 3,504.
net orders for quarter grew 145% to 4,300, with net order value increasing by $1.35 billion, or 196%, to $2.04 billion.

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