LGIH - What's actually going on!

Investment Analysis Clubs Saul’s Investing Discussions
21

Really, they would have to be almost straight up lying if they aren’t seeing very strong sales.

What the company said is: “Although January closings were down year over year, sales are off to a strong start in 2017 and demand for homeownership remains solid. Assuming that general economic conditions, including interest rates and mortgage availability, in the remainder of 2017 are similar to those in the fourth quarter of 2016, we believe we are on track to close more than 4,700 homes this year.”

I’m not willing to assume that. I could well be wrong. That’s what makes a market.

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22

Mister Fungi (love the name & the pizza by the way)

I don’t think that a 0.25% hike in interest rates (or 2) does not make for very dissimilar general economic conditions

23

When the guidance for 4700 closings was initially announced, I posed the question-“doesn’t the number seem a little light”. Comments were that to the effect that the company is being conservative and will be looking to beat guidance. Do people still believe this after the slow start? I must admit my confidence is wavering with the slowing closings and possible rising interest rates.
Scott

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24

I have to say, in my couple years of reading this baord, the following is one of the strongest endorsements I’ve heard from Saul…I bought as much as I could afford…

Hey guys, I’ve always said that
A: I make plenty of mistakes, and
B: Don’t buy anything on the basis of what I do. I’m not an advisor and you have to make your own decisions. In this case I was clear that I was just telling you what I did, and why. You are all welcome to disagree if you wish.

Here’s what I was seeing:

Here’s what Revenue looks like (in millions):


2012		143
2013		246
2014		383
2015		630

As you see revenue more than quadrupled in three years. It looks like it will be about $830 million in 2016 (up 32%).

Here’s what EPS looks like:


2012		0.43
2013		1.07
2014		1.38
2015		2.50

As you see they more than sextupled in three years. It looks like it will be about $3.30 to $3.50 in 2016 (up 32% to 40%).

Here’s what Cash Flow per share looks like (in dollars per share):


2012		1.04
2013		1.33
2014		2.43
2015		3.17

Their number of closings have been:


2012		1062
2013		1617
2014		2356
2015		3404
2016            4163

They more than tripled in three years. And quadrupled in four.

Their average price per closing is also rising rapidly as they expand:


2012		$135,000
2013		$149,000
2014		$163,000
2015		$185,000

And will be over $200,000 in 2016.

Average gross margins have been very stable:


2012		28.0%
2013		27.3%
2014		28.2%
2015		27.8%

Now here’s the good part:
Their current P/S ratio is about 0.7 (!)
Their current P/E ratio is 8.8 (!)

Now some of you want me to believe that the smart young guys who accomplished all this have suddenly lost their touch completely, and their business is collapsing, because of one low month of closings. Or because of a quarter point rise from almost zero interest rates. You’ve got to be kidding. Sorry, but I just don’t believe it. Especially when they tell me that sales were strong in January, the GDP is growing like mad, employment is good, wages are finally rising, etc etc. Nope, I don’t believe it. But that’s just me!

Saul

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25

Saul, have you invested in a home builder before? Just wondering what’s worth knowing about the cyclicality. I imagine if the housing market did slow down, LGIH would be hit hard. I don’t see that happening now or anything…just wondering if that can happen quickly and unpredictably.

Bear

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26

Saul, have you invested in a home builder before? Just wondering what’s worth knowing about the cyclicality. I imagine if the housing market did slow down, LGIH would be hit hard. I don’t see that happening now or anything…just wondering if that can happen quickly and unpredictably.

The truth is Bear that I really don’t know, but I agree with you, I don’t see it happening now, but probably any huge uncertainty (like the election, for instance) can reduce housing purchases, but we seemed to have weathered that as Management says sales were strong in January. We’ll have to see. A PE of 8.8 does seem to provide some cushion though, but who knows, maybe the bottom could drop out totally. But in that scenario, probably whatever we invested in would be way down.

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27

By the way, as you can see at a glance from Gaucho Chris’ list of monthly closings, they can be up just 10% one month and 75% two months later, on more than one occasion. In other words, they vary.

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28

Thanks Saul, I always look forward to reading your point of view.

Wish you and us all a prosperous 2017.

Kindest Regards,
Steve

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29

there seems to be some randomness at work here and these are different markets and different geographic areas.

Location, location, location, location, location, and location . . . All real estate market performance is dependent on location, ranging from 1) region, 2) to metro area, 3) to proximity to major city, 4) to proximity to schools, transportation, shopping, entertainment venues, etc. to 5) neighborhood, to 6) specific lot site.

It is my considered opinion that LGI Homes understands this very well. They are in a sweet spot of their growth cycle such that they can be very discriminating about where they site the communities they build. They don’t have to build (in fact, probably not able to build) so many houses just to maintain their market presence that they’re forced into buying property in inferior locations.

Interest rates are relevant, but not as important as most people think. Counter-intuitively, the first time buyer’s market is probably less sensitive then the trade up market. Here’s why I say so.
First, let’s be real, a quarter point increase in rates won’t disqualify anybody but the most borderline qualifiers in the first place. It’s my experience (I’ve sold real estate in the distant past, but I don’t imagine this has changed much) that most people do not buy at the ragged edge of where they qualify, they almost always want to leave a cushion. If I’m not mistaken (check me on this) the Fed said due to the large degree of uncertainty in the current environment that they are most likely to hold steady or increase very slowly. Next, for those folks who really do get knocked out of the market due to a small increase there is an equal or greater number of buyers who were looking at a higher price category that will now be pushed down into the range where LGI sells. Net change in market size: 0+. Once a renter has made the emotional commitment to become an owner, the interest rate per se is irrelevant. Down and monthly are the primary financial considerations. There is no indication that mortgages are drying up, in fact just the opposite from what I’ve read. Banks are brimming with cash and competing vigorously to place loans. Also, because LGI has such a short closing cycle, they don’t have to worry very much about losing closings on completed sales due to a rise in interest rates. Most, if not all of their sales close within the rate lock period. (do they release sales figures? I’ve not done the research, but one could check how many sales fail to close, my guess is it’s a small percentage. And there are many reasons other than rate increase for a sale to fail to close).

The one thing that might be a downside for them is skilled labor. But again, I don’t think they are big enough for it to seriously impair their ability to build homes. Of course, there are a host of things that can impact them like weather, war, revolution, and so forth, but if those unpredictables are part of your investing considerations maybe you’re better off burying cash in a mason jar in some secret location.

They’ve other advantages that have been covered over and over on this board, so I won’t rehash them here - if you’re unfamiliar with the discussions, go back and read LGI threads over the last year or so.

BR
Long LGIH

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30

One thing that we don’t know is actually going on is to what extent the January closings reflect lower sales contracts and to what extent they reflect cancellations. The sales-to-closing process is as follows: The prospective buyer signs a standard contract and pays a deposit, typically $1,000. Within two weeks the buyer supplies documentation showing qualification to obtain a mortgage. Up to that time, the buyer can cancel the contract and recover the deposit. After the 14 days, the sale is included in the backlog of new (gross) orders. Closing occurs normally with in 1 to 2 months after inclusion in the backlog. LGIH reports backlog and also reports the cancellation percentage. This percentage seems very high to me: 23.5, 31.3 and 27.2% at fiscal year ends 2013, 2014, 2015. I didn’t look at a quarterly to see if this information is included therein. Given the variation in previous annual reports, the effect of any higher cancellation levels in fourth quarter might be lost in the “noise” of Q’s 1 to 3. I would rather see fewer contracts than see higher cancellations.

In any case, we will have February closings before the Q4/annual report comes out. And we had better see 250-plus closings and if not it won’t matter whether it is contract signings or cancellations that are the culprits.

KC, long LGIH

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31

First, I would like to say hi to everybody here as I just discovered this board. Very very interesting board and lot of knowledge. Thank you all for sharing.

Regarding LGIH I have noted the following:

In July 2016 they closed 306 units compared to 311 a year earlier. The stock lost more than 10% on the news in early August which is I guess when they reported the numbers. This may be the same market reaction again.

I’ll dig deeper, but I really like the value this stock represents.

Best,
Dominic

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32

Here’s what Cash Flow per share looks like (in dollars per share):

2012 1.04
2013 1.33
2014 2.43
2015 3.17

I don’t follow this industry - would you mind explaining how you compute these? how are you adjusting the CFFO numbers?

33

do they release sales figures? I’ve not done the research, but one could check how many sales fail to close, my guess is it’s a small percentage. And there are many reasons other than rate increase for a sale to fail to close seems weird to quote myself, but oh well . . .

Anyway, another poster (I should have noted the handle) reported this figure (annually) and I was shocked at how high the percentage was: In the 20% plus range. My experience (many,many years ago) when selling real estate was that this would be unacceptable at virtually any broker.

There are a raft of reasons that people cancel real estate contracts, and first time buyers are the most likely to do so. Research has shown that a very large financial commitment like buying a house is a much bigger emotional stress than getting married. Buyer’s remorse sets in quickly. People buying their first home often need a lot of hand holding (I recall getting a phone call at 3:00 AM one morning from a stressed buyer asking me what the status of his closing was, I replied I would check on it for him after the sun comes up). But given all that, 20%+ flips (jargon for failed sale) is extraordinary - or was anyway, maybe it’s more common now. I don’t know.

As noted, some of it can be attributed to LGIH focus on first time buyers cold feet. Then there’s all the other reasons like change in health, job, family situation, and of course failure to actually qualify due to buyer omissions or exaggerations (or blatant lies) on the pre-qualifying forms, and so on.

But given all that, I would like to hear an explanation from LGIH, if they have one. It seems at least in part that their sales team may be engaged in some overly zealous closing tactics or something else bordering on the unsavory.

I’m long LGIH, but this is somewhat unnerving so far as I’m concerned.

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34

A poster above astutely noted that that the annual closing volume growth rate has been falling:
2015/14 growth: 44%
2016/15 growth: 22%
2017/16 growth: 12% (projected)

In my experience, falling growth rates typically lead to P/E compression, which we are now seeing.
However, as Saul has noted, the current P/E is only 8.8 - this is substantially below the norm for peer
companies of LGIH, which seem to run more typically in the 10 to 13 range for home builders, many of
whom have been growing at the rate now being forecast by LGIH.

I personally believe the stock is oversold and has the potential to rise significantly from here, based
on two simple projections:

  1. Continued rise in EPS, even if slower than past years
  2. Rise in P/E ratio to the lower end of the “normal” range for homebuilders

Assuming 20% EPS growth in 2017 and a rise in P/E from 8.8 to 11, the share price would be:

$27 x 1.2 x (11 / 8.8) = $40.5

This is a 50% increase from today’s price. I am buying more shares (but wishing I had sold some of what
I had back when LGIH was last at $40!).

Wes

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35

I’ve been studying LGIH. Haven’t committed yet, but looking.

Looking at a chart I would put a limit order in just about 25.00, with possible downside risk at
20 if we had a big market sell off.

Once a stock seems to break down, it always seems to continue to do so unless it’s a hot stock with enormous possible upside. Look at GILD today, another of SA’s stocks. The story changed, the stock broke down over the last 6 months or longer, and now today it continues to get whacked. I think of all the MF investors that had the opportunity to sell months ago, but were advised not to, to hold on.

You can do that with a NFLX or an AMZN, both exciting companies led by dynamic CEOs, but GILD?
GILD should have been sold in the low 90s, now 65.

Is LGIH one that will rebound, or continue to slide, I’m not that sure yet.
Until I feel one way or the other, I just stay on the sidelines and watch.

Chris

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36

Here’s what Cash Flow per share looks like (in dollars per share):

2012 1.04
2013 1.33
2014 2.43
2015 3.17

anybody care to explain how these are computed?

http://files.shareholder.com/downloads/AMDA-262U23/381940914…
last 10k

37

Here’s what Cash Flow per share looks like (in dollars per share):

2012 1.04
2013 1.33
2014 2.43
2015 3.17

anybody care to explain how these are computed?

Hi again, One Eye,
I calculated those about a year ago, and don’t remember exactly where the figures come from, and don’t want to go back through all the information to find them, but there is nothing there that seems out of line with their growth of revenue and earnings as far as I can see.
Saul

38

I calculated those about a year ago, and don’t remember exactly where the figures come from, and don’t want to go back through all the information to find them, but there is nothing there that seems out of line with their growth of revenue and earnings as far as I can see.

Reported CFFO is negative though - which again I think is cause this is a homebuilder and it seems to have some weird stuff going on (buying property beforehand, etc). I’ve never understood the right way to view this.

Just askin’…

39

Saul: I calculated those about a year ago, and don’t remember exactly where the figures come from, and don’t want to go back through all the information to find them, but there is nothing there that seems out of line with their growth of revenue and earnings as far as I can see.

OneEye: Reported CFFO is negative though - which again I think is cause this is a homebuilder and it seems to have some weird stuff going on (buying property beforehand, etc). I’ve never understood the right way to view this.

Just askin’…

I don’t know where those numbers could have come from, either. Only positive cash flow for LGIH has been from financing activities. I suppose that if one were to back out the “change in inventory”, the CFFO would be quite positive. Sort of a non-GAAP CFFO. Increasing inventory sucks up all other operational cash flow plus a big hunk of borrowing and proceeds of stock sales. Again, LGIH is investing in growth. Because the growth involves buying more “stuff to sell later” it is inventory. If the investment were in something like new stores it would be investing activities and CFFO would be positive. Wouldn’t change total cash flow, just which bucket in which it is reported.

I did send a couple of questions to IR.

KC

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40

some weird stuff going on (buying property beforehand, etc). I’ve never understood the right way to view this.

Primarily real estate inventory is causing the home builder while growing and expanding business to show negative cash flow from operations. There are two things that goes into “real estate inventory”, first is land inventory and the second is the “homes that are being build to sell” or “work-in-progress homes”. since LGIH is in a growth mode and the homes they sell are going up, naturally they will be carrying more inventory compared to previous year. So this causes the cash flow from operations to be negative.

So if you want to exclude and look at the cash flow with adjustment to the payable and receivables may be one way of getting those positive numbers.

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