Don’t Get Too Bullish On Lennar Even Though It’s A Good Buy

Lennar Reveals Signs Of Slowing In The Housing Industry 

Lennar (NYSE: LEN) reported a fantastic 2nd quarter but there are signs with the report that makes us think we’ve reached a peak in the housing market. The company’s New Orders and Backlog suggest that not only are sales slowing under the weight of rising prices and higher interest rates but the company’s ability to meet the demand is also flagging. New Orders rose by a meager 4% in volume compared to a much stronger 32% in the prior year while the backlog rose by 16%. The good news is that Lennar’s business is basically assured for the foreseeable future and that’s great news for the dividend. The bad news is that share prices might not rebound very strongly even though the stock is trading at the very deep value of 3.5X its earnings. 

"While our second-quarter results demonstrate strength and excellent performance throughout the quarter, the weight of a rapid doubling of interest rates over six months, together with accelerated price appreciation, began to drive buyers in many markets to pause and reconsider. We began to see these effects after quarter-end,” said Stuart Miller, executive chairman of Lennar. 

Lennar Has Good Quarter, Guides Weak 

Lennar had a good quarter but we can’t help thinking the strength seen in Q2 is because home buyers are eager to get ahead of interest rates. The company reported $8.36 billion in net sales which is good for a gain of 30% over last year which beat the consensus by 330 basis points but the guidance is weak. The company is guiding for deliveries of 16,000 to 18,000 which, based on our math, leaves revenue far short of the Marketbeat.com consensus even assuming an increase in average selling price. As for Q2, revenue strength was driven by a 14% increase in deliveries coupled with a 16% increase in average selling prices. 

Lennar was able to widen its margin versus last year but margin growth may have peaked as well. The company reported a 340 basis point improvement in home gross margin and a 490 basis point improvement in the net margin. This left the adjusted earnings at $4.69 or up 59% from last year and $0.74 better than the consensus. 

Looking forward, the company’s revenue growth is assured for the next few quarters despite the slowdown in YOY new order growth but margin contraction is expected. The value of new orders rose by 20% while the value of the backlog increased by 33% or slightly more than double the pace of volume growth. As for the margin, the gross margin is expected to come in between 28.5% and 29.5% for Q3 or down as much as 100 bps from the current quarter. In our view, there is a great risk the margin will contract more than expected. 

Lennar Returns Capital To Shareholders 

Given the economic conditions, the fact Lennar is returning capital to shareholders may make all the difference. The company pays a healthy 2.35% dividend and it buys back shares. The dividend is incredibly safe at only 8.5% of earnings and it is expected to grow. The company has been increasing the payout for the last 5 years at a very high 50% CAGR. In regard to repurchases, Lennar bought back 4.1 million shares for roughly $320 million or about 1.7% of the market cap prior to the 2Q release. 

Turning to the chart, shares of Lennar are up about 2.5% in premarket trading and may be indicating a bottom but we are not expecting a big move out of the stock. While Lennar may be at the bottom, the price action is still well below the 30-day moving average and potentially strong resistance at the $71 level. Even if the stock can get above $71 it is still below another key resistance point that could keep the market moving sideways over the next quarter or two.