Reggie Middleton is an entrepreneurial investor who guides a small team of independent analysts, engineers & developers to usher in the era of peer-to-peer capital markets.
1-212-300-5600
reggie@veritaseum.com
For those that wondered what my stance on Lennar is after raising cash through property sales and tax refunds, here is my update to the Voodoo analysis.
Summary
The worst housing slump in recent history has taken its toll on US home builders, with most of them reporting consecutive quarterly losses in the second half of 2007. Lennar, in particular, reported negative earnings for the fifth consecutive quarter in 4Q2007, witnessing a negative EPS of $6.08 compared with a negative $1.23 in 4Q2006. Its large inventory write-down of approximately $2.4 bn in 2007 along with losses on land sale deal with Morgan Stanley Real Estate significantly impacted its operating performance in 2007. As the US housing woes deepen amid deteriorating US and global economic fundamentals and the economy edges definitively closer to the hard landing that we I have been anticipating I believe that declining consumer confidence and buying power will continue to impact housing demand. This should further depress Lennar's new home prices in 2008 and 2009 and significantly impact its operating and net profit margins..
Key Points
Disappointing 4Q2007 results - Lennar's revenues declined 49.0% to $2.2 bn in 4Q2007 versus $4.3 bn in 4Q2006. Revenues from the homebuilding segment declined 50.5% to $1.9 bn in 4Q2007 from $4.0 bn in 4Q2006, primarily off a 50.4% decline in home deliveries and a 2.1% decline in average sale price. Lennar's new home orders declined 50.4% to 4,761 units in 4Q2007 from 9,606 units in 4Q2006. As Lennar reduced its existing inventory through price incentives, its order backlog declined 65.5% y-o-y to 4,009 units at the end of 4Q2007 with an operating backlog of 64 days. In addition, Lennar also reported a $1.8 bn charge relating to valuation adjustment write-off including $0.17 bn for goodwill write-offs. Overall, Lennar witnessed its highest quarterly loss in 4Q2007, with diluted earnings of a negative $6.08 per share compared to a negative of $1.23 in 4Q2006.
Large inventory impairment and write-down - In 2007, Lennar recorded a huge $2.4 bn charge on account of inventory impairment under FAS144 in 2007 compared with $501.8 mn in 2006 owing to fast declining home prices in its key markets. With the US residential sector not expected to recover over the next couple of years, we believe Lennar would continue to write down its inventory until 2010. We expect Lennar to record $221 mn and $139 mn of inventory impairment in 2008 and 2009, respectively to accurately reflect the market value of its inventories in view of further decline in U.S residential housing prices.
Financial engineering by Lennar - By concluding the deal with Morgan Stanley Real Estate towards the end of FY2007 involving the sale of 11,000 lots for $1.3 bn at a 60% discount, Lennar could claim losses of $775 mn from the transaction and obtain a tax refund of $270 mn (part of overall refund of $852 mn) against taxes paid in successful years of operation (2005 and 2006). Further, the possibility that the two year carry-back period under tax rules could get extended to five years would bail out Lennar from potential liquidity problems to some extent since it could claim refund of taxes from 2002 onwards and resultantly, may not opt for selling its land at current lower prices.
Although the end of 4Q2007 saw Lennar with sizeable cash balances, we believe that the company is still considerably leveraged with debt-to-equity of 74.2% at the end of 4Q2007. At the end of 4Q2007, Lennar had net debt of $2.0 bn as a stand alone entity while as a consolidated entity including JV's recourse debt was $2.5 bn. Moreover, we believe that the cash balance will be eroded by operating losses in the coming years, requiring the company to raise further debt amid conditions of deteriorating housing sector.
Reggie Middleton is an entrepreneurial investor who guides a small team of independent analysts, engineers & developers to usher in the era of peer-to-peer capital markets.
1-212-300-5600
reggie@veritaseum.com