Lennar Corporation — Q3 2017 Form 10-Q
Business context and period. This unaudited report covers the three and nine months ended August 31, 2017, compared with the same 2016 periods. Lennar operates homebuilding, financial services, Rialto real estate investment and finance, and multifamily businesses. The 2017 results include WCI Communities from its February 10 acquisition; 2016 comparisons exclude WCI.
Financial performance
| Metric | Q3 2017 | Q3 2016 | Nine months 2017 | Nine months 2016 |
|---|---|---|---|---|
| Total revenue | $3.261 billion | $2.834 billion | $8.861 billion | $7.573 billion |
| Net earnings attributable to Lennar | $249.2 million | $235.8 million | $500.9 million | $598.4 million |
| Diluted EPS | $1.06 | $1.01 | $2.13 | $2.59 |
| Homebuilding home-sales gross margin | 22.8% | 22.6% | 21.9% | 22.8% |
- Q3 revenue increased about 15% and Lennar-attributable earnings about 6% year over year. Nine-month revenue increased about 17%, while earnings fell about 16%, primarily reflecting a $140 million litigation charge and lower homebuilding margins.
- Home deliveries rose 12% in Q3 to 7,598; net new orders rose 8% to 7,610. Average delivered home prices were $376,000 versus $363,000. Backlog was 10,212 homes, up from 9,253 a year earlier.
- Q3 homebuilding operating margin on home sales was 13.6%. Homebuilding SG&A was 9.2% of home-sales revenue, versus 9.3% a year earlier. Q3 gross margin benefited from $10.3 million of insurance recoveries; nine-month margin declined mainly due to higher construction costs.
- Q3 segment earnings: Financial Services $49.1 million, Multifamily $9.1 million, and Rialto $3.2 million net of noncontrolling interests. Financial Services earnings were slightly lower year over year; Multifamily benefited from joint-venture property sales. Rialto continued to be weighed down by direct investment losses and real estate owned impairments.
Cash flow, debt and liquidity
- For the nine months, operating cash flow was positive $327.7 million, versus negative $3.1 million in 2016. Investing cash flow was negative $957.6 million, principally reflecting the WCI acquisition and investments/contributions to unconsolidated entities. Financing cash flow was positive $138.0 million. Cash and cash equivalents ended at $837.7 million, down from $1.330 billion at November 30, 2016.
- Homebuilding debt was $5.524 billion at August 31, versus $4.576 billion at November 30, 2016. Homebuilding debt-to-total-capital was 42.2%; net debt-to-total-capital, a non-GAAP measure, was 39.6%, versus 33.4% at fiscal year-end. Total stockholders’ equity was $7.554 billion.
- The company reported no borrowings under its $2.0 billion unsecured revolving credit facility and said it was in compliance with debt covenants. Its reported covenant leverage ratio was 43.9% against a 65% maximum; the liquidity test was 2.11 against a 1.00 minimum. These covenant measures are calculated under the credit agreement.
- Financial Services and Rialto also rely on warehouse facilities to fund mortgage and loan activity. Their borrowings were $719.5 million and $182.7 million, respectively; those facilities are non-recourse to Lennar and are expected to be renewed or replaced.
Material changes, outlook and risks
- Lennar acquired WCI for approximately $642.6 million in cash, funded primarily with working capital and proceeds from senior notes. The acquisition added luxury-home operations in Florida and expanded Lennar’s Financial Services business.
- Debt financing changed materially: Lennar issued $600 million of 4.125% notes due 2022 and $650 million of 4.50% notes due 2024; it retired $400 million of 12.25% notes and redeemed $250 million of WCI 6.875% notes.
- A Maryland property contract dispute resulted in a $140 million litigation accrual. Following the appeals court decision, Lennar purchased the property for $114 million and paid approximately $124 million in interest and other closing costs; attorney-fee reimbursement was accrued separately.
- Management described housing demand as improving and expects to maintain a 7%–10% company growth goal, with 2017 growth toward the higher end. It expected approximately 29,000 fiscal 2017 home deliveries, but said roughly 950 deliveries were delayed into 2018 by Hurricanes Harvey and Irma. Management anticipated lower Q4 2017 gross margins than Q4 2016, citing construction-cost increases, competitive pressures and delayed deliveries.
- Management intends to shift toward shorter-term land acquisitions, reduce SG&A, and over time return to a “pure play” homebuilding company; it may consider restructurings, joint ventures, spin-offs or public offerings for other businesses. Rialto’s direct investments were expected to wind down over the next few quarters.
- Key exposures include housing-market and construction-cost changes, interest rates and mortgage availability, land and inventory valuations, litigation, warranty and mortgage-loan repurchase claims, joint-venture guarantees and commitments, and refinancing or renewal of warehouse facilities. Lennar disclosed $1.2 billion of surety bonds and $549.5 million of letters of credit; management did not anticipate material draws. The company also had a $182.1 million remaining equity commitment to its multifamily venture.
Important facts for investors to verify
- How much of reported growth and earnings reflects WCI, and how comparable are the periods excluding the acquisition?
- Whether delivery guidance of approximately 29,000 homes remains achievable after the hurricane-related deferrals, and whether Q4 margins weakened as management expected.
- Whether debt, cash availability and covenant headroom remain adequate given increased homebuilding debt and ongoing land and venture investment.
- How the Maryland litigation costs, inventory/land-bank arrangements, joint-venture guarantees and remaining multifamily commitment develop.
- Whether Rialto impairment levels and mortgage-related exposures, including potential repurchase claims, exceed recorded provisions.