Homebuilder Lennar (NYSE: LEN ) managed to beat excessively pessimistic Street estimates with its second-quarter results, but the results were anything but impressive. The company's net income slumped 65% from a year ago, reflecting prevalent and lasting weakness in the housing industry.
The picture
The housing market has not budged an inch in the past few months. Factors such as frequent foreclosures, high availability of homes, and sluggish purchases continue to compress home prices.
Lennar has exploited general pricing weakness by purchasing large amounts of undeveloped land at cheap rates. The home giant operates through two units: Lennar Homebuilding and Rialto Investments. The Rialto unit, which saw its operating earnings surging 92% to $9.8 million, helped the company keep its head above water. The jump in operating earnings primarily resulted from interest income generated from real estate loans on the land itself.
But the Lennar Homebuilding unit dragged everything down. Revenue from home sales fell by 6%, to $649.8 million, and took the operating margin on home sales down 230 basis points, to 4.4%. Overall revenue saw a decline of 6%, coming in at $764.5 million this quarter. This was primarily triggered by the cost of revenue as a percentage of revenue rising from 82% to 94% year on year.
This trend of sagging sales will likely continue well into the future; backlogs, often considered a barometer for future business growth, slipped 1%. Further, the rate of cancellation of orders stood at 17%.
Lennar's interest coverage ratio of 1.2 and debt-to-equity ratio of 124% may appear dangerous, but the company ended the quarter with cash and cash equivalents of $1.1 billion, which is about one-third of its entire market cap. This cash cushion could help to tide the company over until the market improves.
Diluted earnings per share for Lennar came in at $0.07, compared to $0.21 a year ago, exceeding the Street's estimate by $0.03. Great, but what's really to celebrate?
The dimensions
On a positive note, the time from ground-breaking to house sale has been shortened to limit reliance on standing inventories, which is certainly necessary in this kind of market.
The use of energy-efficient techniques in new homes is being used to lure customers as well. Competitor KB Home (NYSE: KBH ) introduced such features in its condominiums last month, while PulteGroup (NYSE: PHM ) has already teamed up with Energy Services Network to deliver homes with "greener" profiles. These tactics seem to be gaining some traction.
But these efforts may not be enough to give the gaunt business scenario a much-needed turnaround. Recent quarters have shown a deep-rooted trend of poor performance. While competitor KB Home has seen a 27% year-on-year fall in revenue, PulteGroup has been plagued with a 20% year-on-year decline in home sales. Even D.R. Horton (NYSE: DHI ) saw its revenue plummeting by 18%.
We knew the housing crisis would be long and painful, especially for new-home builders. Clearly, we're not at a stage where capacity is being outdone by demand. I don't see that day on the horizon, either.
The Foolish bottom line
The Foolish investor should know that homebuilders do not have assistance from federal tax credits anymore, like they did last year. High unemployment continues to keep potential buyers at bay. Plus, banks are suddenly careful about whom they lend to. I'd stay away from this stock until there's some clarity on the housing scenario writ large.
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