Company Reports

Shares of Lennar traded lower on Sept. 20 after the no-moat-rated homebuilder reported its fiscal third-quarter results (ended Aug. 31) and issued fourth-quarter guidance. We believe the market was disappointed with Lennar's home sales gross profit margin of 22.5%, which was 190 basis points lower than the year-ago quarter and 50 basis points below management's guidance. Furthermore, management expects fourth-quarter gross margin to remain around 22.5%. Nevertheless, the leadership has done a good job managing selling, general, and administrative expenses, which were 6.7% of home sales during the third quarter, better than management's guidance of 7.3%-7.5%. Lennar has not shied away from using sales incentives to support a steady sales pace, and elevated incentives have been a gross margin headwind. However, with mortgage rates trending lower, and our view that rates will continue to ease, we suspect that Lennar will be able to begin pulling back on incentives. Indeed, we forecast home sales gross margin will improve to 24% over the next few years as demand for new homes strengthens, bolstering Lennar's pricing power. That said, we also see more competition from the resale market as lower rates loosen the rate lock-in effect.

US homebuilders enjoyed a robust demand environment from 2020-22 despite the pandemic. We believe several factors explain the pandemic-era housing surge, including increased suburban and cross-state migration (due in part to the rise of flexible work arrangements), government stimulus (which bolstered household savings), and record-low mortgage rates (which supported affordability despite rising home prices). However, home sales activity began to decline in 2022 as rising mortgage rates and high home prices reduced homeownership affordability. Total housing starts declined 3% in 2022 and another 9% in 2023.

US homebuilders enjoyed a robust demand environment from 2020-22 despite the covid-19 pandemic. We believe several factors explain the pandemic-era housing surge, including increased suburban and cross-state migration (due in part to the rise of flexible work arrangements), government stimulus (which bolstered household savings), and record-low mortgage rates (which supported affordability despite rising home prices). However, home sales activity began to decline in 2022 as rising mortgage rates and high home prices reduced homeownership affordability. Total housing starts declined 3% in 2022 and another 9% in 2023.

Lennar's fiscal second-quarter (as of May 31) earnings report was largely in line with our expectations. Homeownership affordability remains challenging for many prospective buyers, with the average 30-year fixed mortgage rate persisting around 7%. Nevertheless, Lennar continues to enjoy a steady sales pace, supported by its use of sales incentives and less competition from the supply-constrained existing for-sale market.

Lennar reported solid fiscal first-quarter (ended Feb. 29) results that featured a strong year-over-year rebound in new orders, home sales gross margin expansion (up 60 basis points year over year to 21.8%), and EPS of $2.57, which was well above the $2.21 FactSet consensus estimate. Nevertheless, Lennar's stock price slipped almost 8% on March 14, likely due to first-quarter revenue falling 1% shy of the consensus estimate as elevated sales incentives continue to put downward pressure on net selling prices.

US homebuilders enjoyed a robust demand environment from 2020-22 despite the COVID-19 pandemic. We believe several factors explain the pandemic-era housing surge, including increased suburban and cross-state migration (due in part to the rise of flexible work arrangements), government stimulus (which bolstered household savings), and record-low mortgage rates (which supported affordability despite rising home prices). However, home sales activity began to decline in 2022 as rising mortgage rates and high home prices reduced homeownership affordability. Total housing starts declined 3% in 2022 and another 9% in 2023.

New single-family home sales increased 4% in 2023 to 666,000 units, as homebuilders capitalized on a dearth of existing for-sale inventory while also offering more sales incentives, cutting base home prices, and building smaller homes to improve affordability. By the fourth quarter of 2023, homebuilders began to pull back on sales incentives as the average 30-year fixed mortgage rate retreated from 7.62% in October 2023 to 6.64% in January 2024. However, mortgage rates have trended higher recently, and we now forecast the average 30-year fixed rate will be 6.50% in 2024, up from our previous forecast of 6.10%. Even so, that’s lower than the 2023 average of 6.81%, and we think homebuilders won’t hesitate to increase sales incentives if needed; they still enjoyed above-average gross profit margins last year with elevated incentives. As such, in 2024, we think new-home sales will increase 9% to 730,000 units and single-family housing starts will increase 4% to 985,000 units. However, we expect total housing starts will decline roughly 5% to 1,345,000 units due to a 23% decline in multifamily starts to 360,000 units, as there’s currently approximately 1,000,000 multifamily units under construction—the largest backlog in at least 50 years.

No-moat Lennar’s fiscal fourth-quarter total revenue and adjusted earnings per share were solidly ahead of FactSet consensus estimates. Revenue increased 8% year over year to $11.0 billion (7% above consensus) and adjusted EPS grew 3% to $5.17 (13% above consensus). Management’s strategy to improve affordability through sales incentives and price reductions has attracted more buyers, and the company is targeting about a 10% increase in home deliveries next year, to 80,000. Considering Lennar’s willingness to adjust net pricing to drive a steady sales pace, we think management’s delivery target is achievable and implies solid market share gains for Lennar in 2024.

U.S. homebuilders enjoyed a robust demand environment from 2020 to 2022 despite the COVID-19 pandemic. We believe several factors explain the pandemic-era housing surge, including increased suburban and cross-state migration (due in part to the rise of flexible work arrangements), government stimulus (which bolstered household savings), and record-low mortgage rates (which supported affordability despite rising home prices). However, home sales activity began to decline in 2022 as rising mortgage rates and high home prices reduced homeownership affordability.

New-home sales have rebounded since the spring of this year as sales incentives and price reductions have attracted buyers who have fewer options in the supply-constrained existing-home market. That said, homebuilder sentiment data tells us that smaller builders remain cautious. Even so, we forecast single-family starts to increase by 3% in 2024, to 0.92 million units. However, we project this increase in single-family starts will be more than offset by a 24% decline in multifamily starts, to 0.36 million units. Multifamily construction has been robust for the past three years, but a record construction backlog and higher construction and financing costs have tamed developers' appetite for new multifamily projects.

United States homebuilders enjoyed a robust demand environment from 2020-22 despite the COVID-19 pandemic. We believe several factors explain the pandemic-era housing surge, including increased suburban and cross-state migration (due in part to the rise of flexible work arrangements), government stimulus (which bolstered household savings), and record-low mortgage rates (which supported affordability despite rising home prices). However, home sales activity began to decline in 2022 as rising mortgage rates and high home prices reduced homeownership affordability.

Lennar reported fiscal third-quarter financial results that exceeded management's guidance and our own expectations. With a limited supply of existing homes for sale, more prospective buyers are turning to new construction especially as Lennar and other homebuilders can improve affordability through a mix of sales incentives, base price reductions, and smaller floorplans and lots. Such pricing actions help explain Lennar's lower average selling price and gross profit margin compared with the year-ago quarter, but strong new order growth has returned, and Lennar's profit margin is still above the historical average.

United States homebuilders enjoyed a robust demand environment from 2020-22 despite the COVID-19 pandemic. We believe several factors explain the pandemic-era housing surge, including increased suburban and cross-state migration (due in part to the rise of flexible work arrangements), government stimulus (which bolstered household savings), and record-low mortgage rates (which supported affordability despite rising home prices). However, home sales activity began to decline in 2022 as rising mortgage rates and high home prices reduced homeownership affordability.

New-home sales have remained resilient despite worsening housing affordability in recent months amid rising mortgage rates, with little relief in home prices in most markets. Year-to-date new-home sales through July were about even with the year-ago period, compared with a 22% decline in existing-home sales. The key to homebuilders’ relative success this year has been their ability to improve affordability by offering sales incentives, lowering base prices, and building smaller homes. According to the National Association of Home Builders, the share of builders offering incentives was 55% in August, up from 52% in July but down from 62% last year. One fourth of homebuilders reported lowering base prices by 6% on average. Homebuilders have also boosted production of speculative homes to capitalize on the tight supply of existing for-sale homes. Spec building also helps builders better manage construction cycle times and costs.

United States homebuilders enjoyed a robust demand environment from 2020-22 despite the COVID-19 pandemic. We believe several factors explain the pandemic-era housing surge, including increased suburban and cross-state migration (due in part to the rise of flexible work arrangements), government stimulus (which bolstered household savings), and record-low mortgage rates (which supported affordability despite rising home prices). However, home sales activity began to decline in 2022 as rising mortgage rates and high home prices reduced homeownership affordability.

Lennar’s fiscal second-quarter financial results exceeded our expectations as the homebuilder’s pricing actions have been well received by the marketplace. These pricing actions caused the average selling price of new orders to decline 11% year over year (to $457,000), but in return, new order growth returned (0.5% growth after a 10% year-over-year decline last quarter), and the firm’s order cancellation rate is normalizing (13.5% during the second quarter compared with 21.5% last quarter and 26% during fourth-quarter 2022). Management is targeting 18,000-19,000 new orders during the third quarter, or 25%-32% year-over-year growth.

United States homebuilders enjoyed a robust demand environment from 2020-22 despite the COVID-19 pandemic. We believe several factors explain the pandemic-era housing surge, including increased suburban and cross-state migration (due in part to the rise of flexible work arrangements), government stimulus (which bolstered household savings), and record-low mortgage rates (which supported affordability despite rising home prices). However, home sales activity began to decline in 2022 as rising mortgage rates and high home prices reduced homeownership affordability.

Through the first four months of 2023 (typically viewed as the “spring selling season” for homebuilders) new home sales significantly outperformed existing home sales. Indeed, April year-to-date new home sales declined roughly 10% year over year compared to over a 26% decline for existing home sales. New home sales improved sequentially during the first four months of the year, and April sales increased 11% year over year, albeit on an easy prior-year comparison (April 2022 new sales were down 24% year over year).

As the U.S. housing market softens, Lennar has proactively offered a combination of base price reductions and sale incentives (for example, mortgage rate buydowns) to persuade more-skittish consumers to purchase its homes and prevent order cancellations. This strategy appears to be working as intended as fiscal first-quarter orders declined 10% year over year, outperforming management’s guidance for a 14%-24% decline. The average selling price of new orders declined 9% to $452,000.

United States homebuilders enjoyed a robust demand environment from 2020-22 despite the COVID-19 pandemic. We believe several factors explain the pandemic-era housing surge, including increased suburban and cross-state migration (due in part to the rise of flexible work arrangements), government stimulus (which bolstered household savings), and record-low mortgage rates (which supported affordability despite rising home prices). However, home sales activity began to decline in 2022 as rising mortgage rates and high home prices reduced homeownership affordability.