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If you're looking for a stock to buy and capitalize on the recovery in the economy, there might not be a better play than Lennar Corp. (NYSE: LEN). The company appears to be firing on all cylinders, and boasts some of the most impressive numbers of any homebuilder I've seen. With Lennar recently reporting earnings, we get a chance to look behind-the-scenes at just how well this company is doing.
Headline earnings were impressive with revenues up 22%, and EPS tripling to $.21. The company delivered over 3,200 homes, which represented a 20% increase from last year. This increase was surprising, as arguably the top name in home building, Toll Brothers (NYSE: TOL) showed an increase of 14% in unit sales. In addition, Lennar reported new orders up 40% with nearly 4,500 homes expected. Given that the average selling price for the company is about $250,000, this clearly shows a recovery in the housing market is occurring. As proof of this fact, one only needs to look at multiple homebuilders' backlogs to see the future strength in the market.
As the clear leader at this price point, Lennar reported its backlog in number of units increased 61%, and the dollar value nearly doubled. For point of comparison, KB Home (NYSE: KBH) showed an increase in their backlog as well, but nowhere near as strong as Lennar's results. Specifically, KB Home reported a 22% increase in units, and a 38% increase in dollars in their backlog. Since KB Home's average selling price is about $233,000 you can see these two companies compete for essentially the same homebuyer. I've also noticed that even if you go up the scale in home pricing, companies like Toll Brothers show equally impressive growth in their expected builds as well. The biggest difference between these three companies is their cancellation rate.
At first glance, Lennar's cancellation rate of 16% seems high. The company expects nearly 4,500 new homes to be delivered which means this cancellation rate places about 717 of these contracts in jeopardy. That being said, KB Home recently reported a cancellation rate of 26%, which makes Lennar look better. Lennar has some work to do to catch Toll Brothers' cancellation rate of just 2.4%. However, it could be argued that Toll Brothers' cancellations are much lower because the company caters to a higher-end clientele. Of course, one critical factor in the health of a homebuilder is their balance sheet.
While Lennar did burn through some of their cash and cash equivalents, the company still holds over $660 million. With long-term debt at $3.469 billion, there is certainly some risk in buying the stock. However, the company has taken several steps to improve its profitability in the future. For instance, Lennar's gross margin improved 3.1% year-over-year, and the company's selling general and administrative expenses dropped from 14.9% to 13.2% of revenue. This increased efficiency should lead to greater cash flow in the future, as the homebuilding market continues its recovery.
This leaves investors with essentially two choices if they're looking for exposure to the homebuilding segment. The first option is the higher-end Toll Brothers, which caters to clientele purchasing properties with much higher values. The company's miniscule cancellation rate should give investors confidence that Toll Brothers backlog will turn into results. When it comes to mainstream homebuilders, Lennar seems to be the best choice. With such huge growth in their backlog, even a 16% cancellation rate should mean tremendous growth year-over-year. Analysts are currently expecting EPS growth of just 6% over the next several years. In my opinion, this rate looks extremely low considering that in the last 4 quarters the company beat earnings estimates three times. In particular, one quarter ago the company beat estimates by 100%, and in the most recent report after adjustments beat earnings by over 23%. I would suggest that investors use these numbers as the starting point for your own research, and decide if Lennar can help you build profits for yourself.
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