LGI Homes, Inc. — Form 10-Q Summary
Reporting period: Three and nine months ended September 30, 2014. The unaudited filing covers LGI Homes, a homebuilder operating across several U.S. states. The 2013 comparative financial statements reflect the Predecessor and do not include the acquired LGI/GTIS joint ventures on the same consolidated basis; pro forma comparisons are therefore useful context.
Financial and operating highlights
| Metric | Q3 2014 | Q3 2013 | Nine months 2014 | Nine months 2013 |
|---|---|---|---|---|
| Home sales revenue | $92.5 million | $37.0 million | $274.8 million | $95.0 million |
| Homes closed | 557 | 240 | 1,704 | 637 reported; 1,112 pro forma |
| Average selling price | $166,097 | $154,313 | $161,296 | $149,188 reported; $147,452 pro forma |
| Gross margin | 27.3% | 26.9% | 26.6% | 27.2% reported; 27.5% pro forma |
| Operating income | $9.9 million | $5.3 million | $30.8 million | $12.9 million |
| Net income | $7.0 million | $5.2 million reported; $7.8 million pro forma | $20.7 million | $12.6 million reported; $19.0 million pro forma |
| Adjusted EBITDA margin | 11.9% | 14.8% reported; 12.1% pro forma | 12.7% | 14.5% reported; 12.5% pro forma |
Q3 diluted EPS was $0.34; nine-month diluted EPS was $0.99. EPS was not presented for 2013 because the Predecessor was organized as partnerships and limited liability companies. Adjusted EBITDA and adjusted gross margin are non-GAAP measures and should not be treated as substitutes for GAAP earnings or cash flow.
- Balance sheet at September 30: Cash was $46.2 million, down from $54.1 million at December 31, 2013. Real estate inventory was $292.0 million, up from $142.0 million; total assets were $379.7 million.
- Debt and liquidity: Notes payable were $160.2 million, compared with $35.5 million at year-end. The revolving facility’s stated capacity was raised to $200 million, but the borrowing base was $175.4 million, leaving $15.2 million available. The facility matures April 28, 2017; the company reported compliance with its covenants.
- Cash flow, nine months: Operating activities used $129.6 million, primarily reflecting investment in inventory and land-related costs. Investing activities used $0.8 million; financing activities provided $122.5 million, principally from net borrowing. Cash declined by $7.9 million.
- Scale and backlog: Active communities increased to 34 from 22 on a pro forma basis. Owned and controlled lots reached 21,638, up 33.8% from year-end. Backlog was 242 homes valued at $42.4 million; the cancellation rate was 31.6%, versus 25.7% in 2013.
Material changes and management commentary
- Reported revenue and closings grew sharply, partly because the company acquired the remaining interests in the LGI/GTIS joint ventures in November 2013 and began consolidating them. On a pro forma basis, Q3 home sales revenue rose 36.1% and closings rose 24.3%; for the nine months, revenue rose 67.6% and closings rose 53.2%.
- Q3 gross margin was broadly stable year over year on a pro forma basis. Nine-month gross margin declined to 26.6% from 27.5% pro forma, reflecting higher construction and lot costs and $2.4 million of purchase-accounting step-up amortization, partly offset by higher selling prices.
- Management cited opportunities to expand in existing markets, add price points and enter new markets, while cautioning that higher-price products may have lower absorption. It expected operating cash outlays for land, development, construction and expenses to exceed operating cash generated in 2014, but believed available cash, operating cash and revolver capacity would cover foreseeable needs for at least 12 months.
- Expansion included construction starts in Denver and entry into the Charlotte market. On October 2, 2014, the company acquired Oakmont-related assets for approximately $15.0 million, net of about $1.0 million of assumed liabilities, plus a closing-based earn-out; assets included roughly 150 homes under construction and 1,000 owned or controlled lots.
Risks, contingencies and unusual items
- Borrowings bear variable interest, currently at the 3.75% floor. Management estimated that a 100-basis-point increase would add approximately $1.6 million to annual interest expense. Higher mortgage rates could also reduce housing affordability and demand.
- Land option and purchase contracts covered 8,538 lots, with $11.9 million of deposits and $125.1 million of remaining purchase commitments if completed. The company generally may terminate by forfeiting deposits, subject to contract terms.
- Outstanding performance and surety bonds were $6.5 million. Management did not expect material draws. The company also disclosed unsecured environmental indemnities; it reported no known environmental claims and no related reserves.
- Ordinary-course real-estate claims were not expected by management to materially affect results. Inventory and warranty estimates, land values, construction costs, labor and material availability, weather, financing access, and the cyclical and seasonal housing market are notable risks.
- The 2014 tax burden differs substantially from 2013 because the Predecessor was generally taxed as a partnership before the reorganization; the current-year effective tax rate was 34.4%. Other income included a gain from sale of land outside core homebuilding operations.
- In July 2014, the company bought approximately 1,902 acres in South Carolina from an entity owned and managed by a Family Principal for about $15.4 million. This related-party transaction merits review.
Important facts for investors to verify
- Use pro forma, rather than reported, 2013 results when assessing underlying growth after the GTIS acquisition; confirm the adjustments and their limits.
- Track the conversion of the expanded lot and inventory base into closings, backlog, margins and operating cash flow, including the elevated cancellation rate.
- Monitor revolver borrowing-base availability, covenant headroom, debt costs and the funding required for land commitments and expansion.
- Assess whether selling prices and product mix can offset construction and lot-cost inflation without weakening absorption or margins.
- Review the Oakmont earn-out, integration and market-entry execution, as well as the South Carolina related-party land purchase and associated disclosures.