Homebuilder Lennar (LEN -2.11%) looks ready for the coming construction boom. The company has recently invested in growing inventory, and the resulting increase in its expenses may be keeping its share price from climbing as high as its competition. But this firm is proactively setting itself up for what could be a major surge in the sector, and that might provide you with a buying opportunity.
When the price doesn't justify the outlook, buy!
Finding an amazing stock doesn't necessarily depend entirely on whether the company is financially sound or has a superior business model. Its share price matters, too.
As you can see, Lennar's revenue is pretty much synchronized with total U.S. construction spending. Prior to the recession, Lennar managed to soar above the nation's construction output. Now that our national construction spending is regaining momentum, the company could repeat those superior gains.
Over the last year, Lennar's revenue has increased by about 31% to $4.8 billion. However, the stock's price has only gone up by 3.5% in that period. U.S. construction spending has begun to rise, from about $855 billion to $883 billion year over year.
Despite a 3.4% increase in industry spending, many other firms' shares have shot up much higher than Lennar's, likely because of the latter companies' increased expenses from inventory purchases.
Inventory caused the sell-off
But Lennar investors weren't celebrating when they noticed the company's increased expenses last quarter, up 205%.
But investors don't seem to realize that when a firm invests in growth, its quarterly expenses will increase. That's bad news for short-term investors, but it promises the possibility of future gains for those willing to wait. That expense pop, spurred on by the company's investments into building up its land inventory, likely caused Lennar's shares to plunge.
They could take years to pay off, but Lennar's investments in land could ultimately help the company profit from new home sales, which Morningstar estimates will grow by 137.5% by 2015. Many of those homes will be built on the same land Lennar recently purchased.
Comparing Lennar to the others
The unjustified sell-off of a company capitalizing on still-cheap land prices in an industry that's just beginning to turn around makes Lennar worth a look, but it won't tell you whether it is better than its peers. After scouring construction companies, two caught my eye; each has a fundamental flaw that leaves Lennar looking like the best in class.
Let's open the books of Jacobs Engineering (J 0.34%), one of the more typical construction firms. It has increased in price by about 50% in the last year, but hasn't really done anything to justify that surge. Jacobs has maintained a profit margin of around 3% to 5%, and investors seem to like that steadiness. But the company is not investing in the future like Lennar.
Now consider PulteGroup (PHM -2.36%), whose price has increased by about 22% over the last year. The company's inventory has actually dropped off, even as it should be preparing for an industry spending frenzy. Lennar's, in contrast, has surged. Take a look at the chart below, and decide which company is likely to benefit from the upcoming construction boom.
Surely, Jacobs and PulteGroup must know they are about to embark on a few years of supercharged construction projects throughout the U.S. But their efforts to prepare themselves suggest they simply don't have the capital.
Smart people run these companies, so it is not like they don't have a beat on the nuances in the industry. What they likely don't have, however, is the financial backbone to increase inventory (for reasons that may not be obvious to the public) during a time when the construction market may experience its largest growth in decades.
Due to Lennar's ability to accumulate inventory, it could be the company spearheading many of the anticipated construction projects. And with its share price rising much slower than its sector peers, this could be the one to achieve the most gains in the years ahead.