Cavco's Ratings Upside, Cheaper Homes Alternative?

Key Points

• As Cavco stock trades within a wide channel, investors may seek more directional data to justify an uptrend or downtrend. 
• Today's real estate market and further economic developments place the company's value proposition at the top of the alternatives list. Other names in the home building space seem to fall behind Cavco's business model. 
• Analyst ratings and management buybacks point to the stock's sustainable upside potential. Broader markets seem to agree through these valuation metrics.

Cavco Industries NASDAQ: CVCO investors have seen their holdings trend in a wide channel, from $270 up to roughly $310, virtually since the beginning of 2023. This could be a sign of imminent decisions, as market participants en masse await further clarification about the direction the stock may take, which ultimately boils down to the underlying principle of the industry and the economy.

It would be beneficial to refresh investor memory on the value proposition the company is looking to deliver to its respective audience and why today's real estate market exists.

Within the latest management presentation, executives take a whole slide (number four) to point out why Cavco's factory-built homes are well-positioned to ride on consumer needs for more affordable housing alternatives.

They cite sources that depict the current state of the United States housing market, its unaffordability and shortage of readily available homes, and the added headwind from rising mortgage rates further pricing out today's buyers.

As rent inflation trails the overall rate, it is increasing by the quarter, concluding in a growing population of potential customers who will look to Cavco for a solution to their needs.

The Product Fits

Factory-built homes are recognized as a flexible and more affordable alternative to traditionally developed units, and the best part is that there is no quality to be sacrificed on the flipside. By providing a portfolio of HUD-code homes, Modular homes, Park model homes, and Multi-family or Commercial homes at a maximum delivery timeline rate, Cavco is set to deliver faster than other names in the home construction industry, with more adaptability to market trends. Names like Lennar NYSE: LEN and D.R. Horton NYSE: DHI have been riding the tailwinds of major developments for those financiers and big investors who can afford them. 

As inflation grew rampant in the United States throughout 2022 and the first half of 2023, mortgage rates closely followed to reach a high of nearly 7.05%. With increased financing costs for homes, these same financiers and investors who supported the demand side of the equation in significant developments from D.R. and Lennar are now forced to back out of deals. Rising cancellation rates reflect just how much these interest rates can impact homebuyer sentiment, which directly affects the more prominent developers' future spending and development activity. 

By carrying shorter construction and delivery timelines, Cavco can quickly pivot on zoning and product preferences by customers, which makes it immune to these same cancellation rate dynamics affecting the more prominent players. The same flexibility and adaptability can be seen in Cavco's financials, as the company carries zero corporate debt while deploying significant amounts of capital to create value for investors. By returning up to $30 million to shareholders via share repurchases throughout the first quarter of 2023, investors can learn that as of recent prices not that far from today's, insiders had thought the stock to be cheap enough to buy.

Up and Away

Cavco analyst rating points to a 40.7% potential ceiling from today's prices, a more generous target than those assigned to Lennar (-7.6% downside) and D.R. Horton (-2.0% downside). These different sets of ratings point to investors as to what money likes in the sector, and it is voting for adaptability, affordability, and financial strength, all attributes held firmly by Cavco. Valuation multiples may also hint at investors which way the sector will be headed, as persistently unaffordable trends will likely remain for the near future.

Cavco stock sells today for 10.1x as a multiple of earnings, while Lennar and D.R. Horton trade for 7.2x and 7.1x, respectively. By assigning a higher multiple of earnings to Cavco, the broader market is telling investors that it is willing to pay a higher premium for the company's current - and future - underlying earnings; in other words, money likes Cavco's value proposition at the moment. So, what happens next if the tailwinds are present, and both Street analysts and executive insiders are aware of the potential upside? 

The stock has been trending since the beginning of 2023, so Cavco's chart must showcase a breakout from this range. To fuel an escape, investors will likely look for more 'directional' data, which can be a continuation in revenue and orders growth coupled with the persistent unaffordability in the broader real estate markets acting against, the more prominent developers.