LGI Homes, Inc. — Q2 2019 Form 10-Q
Reporting period: Quarter and six months ended June 30, 2019. Comparisons are with the corresponding 2018 periods. Amounts below are in U.S. dollars.
Business context
LGI Homes develops communities and builds and sells move-in-ready homes across multiple U.S. markets under the LGI Homes and Terrata Homes brands. It reported 93 active communities at quarter-end, up from 79 a year earlier, and 3,172 home closings in the first half, compared with 3,059.
Key financial and operating metrics
| Metric | Q2 2019 | Q2 2018 | Six months 2019 | Six months 2018 |
|---|---|---|---|---|
| Home sales revenue | $461.8 million | $419.8 million | $749.4 million | $698.9 million |
| Home closings | 1,944 | 1,815 | 3,172 | 3,059 |
| Average sales price | $237,567 | $231,321 | $236,262 | $228,464 |
| Gross margin | 24.1% | 26.1% | 23.7% | 25.6% |
| Net income | $46.1 million | $47.6 million | $64.4 million | $74.9 million |
| Diluted EPS | $1.82 | $1.90 | $2.55 | $3.01 |
| Adjusted EBITDA margin (non-GAAP) | 14.8% | 16.4% | 12.8% | 14.9% |
Q2 operating income was $58.4 million, down 6.0%; first-half operating income was $79.5 million, down 14.5%. First-half gross margin dollars were $177.6 million, compared with $179.0 million. Management also reported first-half adjusted gross margin of 25.8%, versus 27.2%; this non-GAAP measure excludes capitalized interest and purchase-accounting adjustments.
Cash and cash equivalents were $37.6 million at June 30, 2019, down from $46.6 million at year-end 2018. First-half operating cash flow was negative $18.9 million, an improvement from negative $95.7 million a year earlier, largely reflecting lower inventory-related cash outflows. Investing cash flow was negative $0.3 million and financing cash flow was positive $10.1 million.
Total assets were $1.486 billion, including $1.329 billion of real estate inventory. Notes payable were $664.9 million, versus $653.7 million at year-end. The revolving credit facility was $550 million; the company reported $167.1 million available to borrow, net of deferred purchase price obligations. The company said it complied with all credit covenants. It reported no interest expense in the income statement because interest costs were capitalized to qualifying inventory; first-half interest incurred was $23.5 million.
Material changes and management commentary
- Revenue growth reflected more closings and a higher average selling price. First-half revenue rose 7.2%; first-half closings rose 3.7% and average selling price rose 3.4%.
- Profit and margins declined despite revenue growth. Management attributed margin pressure to higher construction, lot and overhead costs, increased capitalized interest recognized in cost of sales, and Wynn Homes purchase-accounting adjustments. Selling costs also increased with advertising, staffing and community expansion.
- Performance varied by region: West revenue grew substantially with California and Nevada expansion, while Northwest and Florida revenue declined, partly due to community close-outs or transitions and inventory availability. Southeast growth included the Wynn Homes acquisition.
- Backlog at June 30 was 1,648 homes valued at $410.0 million, versus 1,184 homes and $296.9 million a year earlier. First-half net orders were 4,196 and the cancellation rate was 17.8%, compared with 3,427 and 22.5%, respectively.
- Owned or controlled lots increased to 54,191 from 51,442 at year-end. Real estate inventory rose to $1.329 billion, including an increase in homes in progress.
Outlook, risks and unusual items
- Management stated it believed cash on hand, operating cash flows and borrowing capacity or access to capital would fund current and foreseeable liquidity needs for at least the next 12 months. No specific earnings or revenue guidance was provided in the filing.
- The $70 million principal amount of 4.25% Convertible Notes matures November 15, 2019. Holders could elect conversion beginning May 15, 2019; management stated its intent and belief that it could settle conversions in cash.
- The company’s $300 million Senior Notes bear 6.875% interest and mature in 2026. Revolving-credit borrowings carry a variable LIBOR-based rate. A hypothetical 100-basis-point increase was estimated to raise annual interest cost by approximately $3.1 million.
- Land purchase contracts covered 23,215 lots with aggregate commitments of $745.5 million and related deposits of $42.7 million. Outstanding letters of credit, surety bonds and financial guarantees totaled $91.5 million. Management did not expect material losses from these commitments, contingencies or ordinary-course claims.
- Other income included a gain on land sold outside core homebuilding operations. The company adopted lease accounting in 2019, recognizing $5.4 million of right-of-use assets and lease liabilities at adoption; lease liabilities were $5.3 million at quarter-end.
- Key stated risks include housing and mortgage-rate conditions, affordability, land and construction-cost inflation, labor and material availability, development delays, access to capital, and execution in new markets and acquisitions. Management said disclosure controls were effective and reported no material change in internal control over financial reporting during the quarter.
Important facts for investors to verify
- Whether margin pressure and higher selling and construction costs persist as the company expands communities and markets.
- How the November 2019 Convertible Notes maturity is settled, and the resulting effect on cash, shares and liquidity.
- Whether inventory growth, land commitments and development spending convert into closings and operating cash flow as expected.
- Backlog conversion and cancellations: deposits are generally minimal and may be refundable if buyers cannot obtain financing.
- Non-GAAP adjusted gross margin and EBITDA reconciliations, and the underlying effects of capitalized interest and purchase accounting on reported results.