Despite Missing Expectations, Lennar's Management Feels Optimistic About the Rest of 2019

The first quarter was tougher than management had hoped, but lower interest rates are bringing buyers back to the housing market.

Tyler Crowe
Tyler Crowe
Apr 28, 2019 at 7:04AM
Industrials

Homebuilding looked like it was going to be a tough business heading into 2019. Interest rates at the end of last year were inching close to 5%, the highest they have been in the past eight years. That and a tight housing market were keeping potential homebuyers out of the market. Because of these factors, America's largest homebuilder, Lennar (NYSE:LEN) (NYSE:LEN-B), was anticipating a slow start to the year.

While the company certainly suffered early on in the quarter and some weather events delayed several home deliveries, the company's new orders were stronger than originally anticipated. Let's dig into the numbers of the most recent quarter to see how the company will be able to maintain strong order growth throughout the rest of the year.

A newly constructed home.

Image source: Getty Images.

By the numbers

Metric Q1 2019 Q4 2018 Q1 2018
Revenue $3.87 billion $6.46 billion $2.98 billion
Homebuilding operating income $369.5 million $803.3 million $413.9 million
Net income $239.9 million $796.1 million $136.8 million
EPS (diluted) $0.74 $2.42 $0.53

DATA SOURCE: LENNAR EARNINGS RELEASE. EPS = EARNINGS PER SHARE.

One plus in these results is that the company's revenue and earnings were up significantly compared with this time last year. The caveat of these numbers is that most of those gains came from closing Lennar's acquisition of CalAtlantic. Management noted that most of the increases in homes sold and net new orders came from bringing CalAtlantic into the fold. After adjusting for one-time closing costs, earnings before taxes were down 14.5% compared with this time last year.

LEN deliveries by region for Q1 2018, Q4 2018, and Q1 2019. Shows year-over-year growth in all segments.

Data source: Lennar. Chart by author.

Despite Lennar's results not living up to management's expectations, there were still some positive signs for the year. For one, net new orders (10,463) significantly outpaced deliveries (8,820), which should help to replenish the company's backlog that declined compared with this time last year. At the end of the quarter, backlog stood at $7.1 billion.

Lennar's backlog decline is also partially attributed to some shifting around of its portfolio. Its West region, which includes California, was down significantly, while its East region grew. Since the West has some of the highest average selling prices, shifting away from this region is going to have a considerable impact on its backlog.

US 30 Year Mortgage Rate Chart

US 30 Year Mortgage Rate data by YCharts.

What management had to say

In the company's fourth-quarter earnings report, management noted that the housing market was showing signs of decline, as rising interest rates were tampering demand. This past quarter, though, interest rates started to decline again and are now close to a percentage point lower than they were three months ago.

So in the company's press release, Chairman Stuart Miller noted how falling interest rates were helping the market stabilize and the company is now expecting new orders to pick up throughout the year.

We continued to see choppiness in the marketplace during our first quarter, consistent with what we highlighted on our fourth quarter conference call. However, during the quarter, mortgage interest rates subsided and ultimately pulled back and home prices moderated, providing a catalyst for the new home market to correct itself. Accordingly, sequentially throughout the first quarter, we saw increased interest in new home purchases as part of an improving and stabilizing housing market. We continue to believe that the basic underlying housing market fundamentals of low unemployment, higher wages and low inventory levels remain favorable.

During the first quarter, we advanced our strategy of reverting to our pure-play core homebuilding platform. We completed the sale of our Berkshire Hathaway real estate brokerage business, the majority of our retail title business along with our title insurance underwriter and our retail mortgage business.

LEN Chart

LEN data by YCharts.


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Better days ahead after a slow start?

It's impossible to predict what will happen with interest rates or how people are going to react to interest rates, but the recent decline in interest rates and the Federal Reserve's current policy to delay any further rate hikes in 2019 should most definitely bolster new home sales. That could be doubly true if people look to lock in these lower rates now and not take the chance on them rising again.

Lennar will likely continue to benefit from its scale as one of the largest homebuilders in the U.S., and management's share repurchases should boost earnings per share over time -- it has a lot of stock dilution over the past decade to recoup. At nine times earnings, shares look rather cheap. One thing to keep in mind, though, is that homebuilders in general sell for a hefty discount to the overall market and prospects could turn in an instant if interest rates were to start ticking back up again. Invest accordingly.