At the moment, I am not concerned. At the current price my personal belief is that LGIH is somewhere between mildly undervalued and fairly valued.
I must say that I agree with Othalan, and my guess is that it would prove to be very short-sighted to close out a position at this point. Here’s my paraphrasing from the first quarter conference call in March:
We ended February with 65 active communities and we believe we’ll have between 75 and 80 active selling communities by the end of 2017… We believe our average sales price in 2017 will continue to increase as a result of product and geographic mix as well as favorable market conditions…So, it feels really good. Last week was the best sales week we’ve had in LGI history. So, we’re feeling confident that the closing number will catch-up and we’ll close more than 4700 this year.
Perhaps you missed that “best sales week in LGI history!”
And a final thought. They keep saying “over 4700.” Let’s say they beat their estimate by a tiny 1% over 4700, or 4747 closings, up 14% from 4163. But that means revenue would be up considerably more. They are predicting the average price will be up about 7.5% this year. So that 4747 closings is equivalent to 5103 closings at last year’s average price. Thus sales revenue will be up 22.6%, and earnings will be up perhaps 25%, to $4.25. (Since they estimated $4.00 to $4.50 that means they are figuring exactly like I am).
With earnings growing at 25%, if they attain a PE of only 11 their stock price would be $46.75, up 47.6% in just one year. (And imagine if they beat their estimates by 2% instead of 1%!)
I think that you and I are on the same page with LGIH. But, what I wonder is what “sales” he was referring to. There are three possible meanings that I can think of. 1) closings, 2) mortgage commitment received and “sale” entered into backlog, 3) “sale” as in a salesman getting a signed contract.
If he meant closings, then those would have been included in March sales. So while good in itself, it would mean that the other weeks in March weren’t very good. If it means a sale entered into backlog, that is good as the closing would show up in April or May closings. If it means contract signed on the dotted line, it might be good, depending upon the quality of the buyer.
Time will tell. We do need that really good April closing number.
They make a very clear distinction between closings and sales. A sale is selling the house, getting a contract. The closing comes 6-8 weeks later, when it is finalized and that’s when they get paid by the mortgage bank, and the money goes into revenue. There’s really no ambiguity about it.
For example, in January they made a point of saying that although closings were weak, sales quite were strong.
They make a very clear distinction between closings and sales
I think LGIH is the only company that doesn’t disclose sales. FWIW, between sale and close there are healthy cancellation. I think the 4Q had more than 25% cancellation.
The closing comes 6-8 weeks later, when it is finalized and that’s when they get paid by the mortgage bank, and the money goes into revenue. There’s really no ambiguity about it.
So January sales should have been closed in late Feb or March? This Feb 3 press release asserted that January sales were “strong”:
With earnings growing at 25%, if they attain a PE of only 11 their stock price would be $46.75, up 47.6% in just one year. (And imagine if they beat their estimates by 2% instead of 1%!)
Saul,
That scenario is possible and probably likely. Nevertheless, I sold a partial position (25% of my position) today because I think that the stock will likely continue to fall until the market believes their sales are not declining in 2017. I intend to buy back once I think the shares have bottomed.
One thing to keep in mind is that normally closings come 6-8 weeks after sale. But, they had low inventory. I take it as “falling behind”, or finishing homes was/is not keeping up with sales. I may be reading too much into it (or maybe not enough?), but it seems like if sales in January that normally would take 6-8 weeks to close could pretty easily slide into April. I could be way off base on this, but trying to look at all angles with open mind. Sold out of LGIH a while back, but have been watching and considering getting back in.
Saul,
good analysis. I still feel home builders do not have a very good business model. LGIH has very nice valuation now due to their credibility may be in danger. I guess the April close has to be strong, otherwise, there will be a lot downside. I feel if you already hold it, just hold it for another month. But I will be very careful to initiate new position now, even means I will miss possible big upside.
it seems like if sales in January that normally would take 6-8 weeks to close could pretty easily slide into April.
I think the issue here is cancellation. Sales are only contracts which gets cancelled all the time. In the last quarter Q4 the cancellation rate was something like 25%. Perhaps LGIH is suffering higher cancellation. BTW, rest of the industry is not having the challenges like LGIH.
Interesting a lot of luxury home builders are doing fine. One possibility is LGIH’s focus on entry level home, may not be best when people have more secured job and general economy is doing fine. People will always want to live a little bit better if possible, they may skip entry level home and instead buying a better home at better location, even the price may be higher.
One other point: let’s not forget they have already missed their own guidance, albeit for a single month. They said just a few weeks ago:
As we have previously stated, our goal is to close more than 4,700 homes in 2017. We believe we will close 375 – between 375 and 425 homes in March, surpassing last year’s March closing number of 367 and gaining momentum to reach our closing goal in 2017.
Their midpoint for March was 400 and they closed 365. If they can’t predict just a few weeks in advance, why do you think they’ll be able to hit their prediction for 2017?
Certainly cancellations is an issue. It’s true that contracts get canceled for any number of reasons, and with first time buyers (who are not trading their house up or even down for that matter) cancellations tend to be higher than someone who already owns a house.
But, it’s not the only reason that a sale might not close when expected. Some percentage of buyers will want a certain model house built on a certain lot. So the contract is signed before construction has even begun. That can push closing out 3 months or more.
There’s really no way of knowing why a sale did not close in the normal 6 weeks. We don’t have all the information the builder has.
Some percentage of buyers will want a certain model house built on a certain lot. So the contract is signed before construction has even begun.
LGIH model is not that. They built spec and sell it. If they don’t have inventory then they don’t have inventory to sell. It is not the execution, i.e., ability to deliver the house that is sold, is the issue.
One other point: let’s not forget they have already missed their own guidance, albeit for a single month. They said just a few weeks ago:
As we have previously stated, our goal is to close more than 4,700 homes in 2017. We believe we will close 375 – between 375 and 425 homes in March, surpassing last year’s March closing number of 367 and gaining momentum to reach our closing goal in 2017.
Their midpoint for March was 400 and they closed 365. If they can’t predict just a few weeks in advance, why do you think they’ll be able to hit their prediction for 2017?
Great point Bear! After re-going thru everything, I don’t know how I missed it. For now, I will probably stay on the sidelines depending what the share price does.
I think as a company, it is good value where it is now with upside. But seeing how market acts/overreacts with this one, we could see a pretty big drop if April numbers aren’t impressive.
Of course, should go right back up if numbers are strong and support guidance.
<<FWIW, between sale and close there are healthy cancellation. I think the 4Q had more than 25% cancellation.>>
Since I have been around the construction and real estate business for a good number of years I do have some knowledge of the industry although it’s been a few years since I have been active being semi retired and I also don’t have much direct experience with new homes sales so beware.
I am not sure where the heavy cancellations are coming from especially 25%. Did the company provide that number? I can’t imagine in the real estate business a 25% rate. In a tight real estate market it is hard for me to picture that one out of four mostly families I assume choose a home they like sign all the paperwork, place a deposit (I assume) and then back out before closing. In existing home sales the deposit is not refundable, believe me a lot of behind the scenes work has gone on to complete all of the details of the sale. The family on the other hand had their hopes high on a brand new home. Something doesn’t seem right here, are the salespeople not doing their jobs by “selling” homes to tons of prospects that aren’t following thru to closings. If they are losing 25% of the customers between the sale and the close that ain’t just ain’t right as we say in Missouri.
long LGIH
Since I have been around the construction …I am not sure where the heavy cancellations are coming from especially 25%.
The 25% cancellation rate is par for the course. I don’t want to question your real estate experience but clearly you don’t have an idea about what you are talking about.
the cancellation rate for the fourth quarter was 27.7% and for the year, our cancellation rate was 24.5%
soycapital: I am not sure where the heavy cancellations are coming from especially 25%. Did the company provide that number? I can’t imagine in the real estate business a 25% rate. […] The family on the other hand had their hopes high on a brand new home.
Soycapital, while I certainly don’t have your experience in real estate sales, the 25% cancellation rate makes sense to me. What you may be missing is that LGIH customers often did not have their hopes high on a brand new home.
I agree with you that if a family is looking for a home and happens to find one they like being sold by LGIH, everything from sale to close is mostly formalities with a low cancellation rate.
However, this is not the LGIH business model. They are marketing directly to first time home buyers with the argument that home ownership will save them money compared to renting (and all the other benefits). Many of those potential customers will not have considered buying a home. By making the deposit fully refundable for any reason (no risk) they likely attract many customers who would otherwise not have taken the time to seriously pursue the option.
The fact that they have this 25%+ cancellation rate and have been growing revenue as fast as they have and have run into inventory shortages (demand is higher than available finished homes) tells me this marketing strategy is working great.
FWIW I got out of LGIH yesterday, but it was primarily conviction related as I used that money to buy more UBNT and TWLO. I plan on continuing to follow LGIH and that certainly won’t be difficult with the multitudinous posts on the company.
I will say that I’m not pleased with the trajectory of LGIH against their stated goals. That said, I’m inclined to believe the downside to LGIH is pretty limited due to valuation and increasing home prices. So, while I believe it is a fairly safe investment, I have more conviction in the other two names and both are in the range where I want to be a buyer.
I had trimmed LGIH previously and it was a relatively small position. I’m trying to limit my small positions as I seem to do much better with my higher conviction positions (go figure).
I had trimmed LGIH previously and it was a relatively small position. I’m trying to limit my small positions as I seem to do much better with my higher conviction positions (go figure).
I always let my portfolio lead me. I try to stay neutral and eliminate the bad guys and add to the good guys.