KB Home, Another Reason To Shed Home Building Stocks

Key Points

• KB Homes reported a weak quarter that has put pressure on share prices. 
• The guidance is also weak and may be overly optimistic. 
• Evidence suggests a deep downturn is happening in the homebuilding sector right now. 

The analysts have been upping their ratings on home-building stocks over the past month or so but results from KB Home NYSE: KBH belie hope that is put into this sector. Demand for housing remains high and inventory low, but these dynamics are supporting the long-term outlook for housing while the near-term outlook crumbles.

The biggest takeaway is that momentum seen in 2022 has peaked, and the contraction in 2023 home-building revenue is about to begin. The question that needs to be answered is how deep the contraction will be and when will it end. Based on the FOMC's latest hints about inflation and interest rates, it looks like it will be much later in 2023 if the end of the contraction happens this year at all. 

Looking at the data, the downturn in housing is gaining momentum and could leave activity in worse condition than the Housing Bubble. The latest NAHB survey has home builder sentiment at the lowest levels since 2008 (not counting spring 2020) and the traffic of prospective buyers near the lowest levels on record.

This is compounded by the housing starts data, which is trending lower with a quickness, at the lowest levels in 3 years and expected to continue falling well into the spring building season. The home builders are a quality lot, but conditions more than suggest that this is not the time to buy them. 

KB Home Hits The Peak Of Business 

KB Home had a decent quarter and posted revenue growth, margin expansion and EPS growth, but in a way that left the market feeling cold. The $1.94 billion in revenue is up 15.5% from last year but missed the analysis consensus, and the guidance is less than favorable. The revenue gains were driven by a 3% increase in volume sales compounded by a 15.5% increase in prices but don’t expect these trends to continue.

The guidance calls for both volume and pricing to contract in the FQ1 period and leave the revenue and earnings down on a YOY basis. The good news is the guidance is roughly in line with the Marketbeat.com consensus estimates, the bad news is that outlook is still deteriorating, and weakness should be expected rather than strength. 

In regard to earnings, the company reported $2.47 in GAAP EPS which is up 29% from last year but missed by a solid $0.39 which is worth 1300 basis points of expected growth. The guidance here is also negative, with expected EPS below last year's level and being pressured by dwindling orders and falling home prices.

Looking forward, the company is expecting to see margin come in around 9.5% to 10.5% versus 14.4% in Q4, which is a big hit to profitability. Backlogs are expected to support the company’s full-year outlook, but even here, there are risks. Not only is the backlog down by 25% on a value basis, but the net new orders for Q4 fell by 80% as new orders declined and cancellations increased. In this light, there is a huge risk the Q1 outlook is overly optimistic. 

The Analysts Start Downgrading KB Homes

The analysts were boosting KB Home targets in January, but that has ended. The Q4 results and outlook have already sparked at least one revision, and are not bullish. The team at UBS lowered its price target to $45 from $48, which is not likely the last. The consensus rating is still a Moderate Buy, but the consensus target assumes the stock is already fairly valued and it will likely trend lower in the near to mid-term. 

The chart of KBH was promising and suggested a breakout could happen with the release. The bad news is the release has capped gains at the $35 level, and can be expected to continue doing so for the foreseeable future. If the stock can regain its footing, most investors should expect sideways trading in the range of $27.50 to $35. KB Home is trading at a deep value to the broad market, and it pays a very safe dividend.