With the latest earnings season well underway, the homebuilders are reporting on the second quarter and they are all telling the same story. After the economy hit a wall in late March, business took a step back as consumers braced for the worst. The recession disproportionately affected lower-paid workers, who are generally not paid enough to buy a home. Many white-collar workers were unaffected, as they were able to work from home. And the COVID-19 crisis created a stampede out of the cities and into the suburbs.
Just about every builder has reported a sea change in traffic and inquiries between the months of March and May. PulteGroup (NYSE:PHM) gave its version of the story last week in its second-quarter earnings report. Here's what it had to report.
A tale of two quarters
The contrast in new home demand between April and June was so stark that the months felt like they belonged in completely different quarters. In April, the economy abruptly stopped; in June, the housing sector roared back dramatically due to the acceleration of some trends that had been building for years.
The exodus out of the cities had been in place for the past couple of years, but the coronavirus and attendant shelter-in-place orders made city apartment dwellers yearn for open space and more square footage. Historically, Millennials had preferred luxury apartments with all the amenities in urban, walkable environments. This made sense when they were young adults without children. As more start families, the appeal of single-family homes has increased. COVID-19 accelerated this movement. PulteGroup CEO Ryan Marshall had this to say about the big trends in orders:
Following a period of demand weakness beginning in late March and into April as COVID-19 first impacted the country, new home sales experienced a material acceleration as the second quarter progressed. The recovery in demand reflects a number of factors, including: low interest rates, a restricted supply of existing-home inventory, pent-up demand following the economic shutdown, the appeal of single-family living in a new home, and a desire among some buyers to exit more densely populated urban centers.
Orders turned around dramatically during the second quarter. On the conference call, Marshall described the change:
I am very pleased to report that the recovery in new home demand that we experienced over the course of the second quarter was nothing short of outstanding. Our second-quarter results show a remarkable rebound in demand, as April net new orders fell 53% from last year, only to see year-over-year orders increase 50% for the month of June.
In June, orders rose 77% for the first-time homebuyer segment, 48% for the move-up segment, and 21% for the active adult segment. There have been concerns about how COVID-19 could depress the active adult segment, but the company reported that orders have been improving each month. That said, the main story here is the first-time homebuyer data.
Higher margins mean no price cutting despite a drop in average selling prices
Revenues increased 3% for the quarter, driven by a 6% increase in closings and a 3% drop in average selling prices. Pulte's drop in average selling prices was driven by increased demand for lower-priced entry-level homes, a phenomenon we are seeing across the industry.
Gross margins increased, which means these lower-priced homes are still highly profitable and the company isn't cutting prices to move inventory. Pulte reported that its spec inventory was quickly absorbed during the crisis as inventory shortages remain, and many potential buyers preferred to look at a home nobody is currently occupying. Earnings per share increased 50% year-over-year to $1.29.
An aggressive response to the crisis helps, but Pulte still lags
Pulte was aggressive in reacting to the COVID-19 crisis, furloughing employees, suspending its buybacks, and taking down its revolving line of credit. As of the earnings call, Pulte has rehired most of the people it furloughed in May. Land spend was reduced as well, falling 27% from the first quarter and 47% on a year-over-year basis. As a result of these measures, cash on hand was $1.7 billion at the end of the quarter.
Pulte has generally lagged the performance of its peer group so far this year. Below is a chart comparing Pulte's performance to that of Lennar, D.R. Horton, LGI Homes, and Meritage Homes.
That said, Pulte probably has the best financials of the bunch. Below is a table that looks at the different financial metrics. Of the group, Pulte has the fastest EPS growth, lowest price-to-earnings ratio, and is tied for the highest dividend yield. The stock is up 13.6% since earnings were announced, so perhaps it will catch up with its peers.
|2019-to-2020 EPS Growth||2020 P/E Ratio||Dividend Yield|
Is Pulte a buy here? It is hard not to like the homebuilders as a sector. The economic backdrop -- with record low interest rates, the supply-demand imbalance, and the exodus of buyers out of the urban areas -- will remain a tailwind for the company, potentially for years. Value investors may find the Pulte story compelling.