Lennar Corporation — Q2 2017 Form 10-Q
Reporting period: Quarter and six months ended May 31, 2017. Lennar is a diversified homebuilder with financial services, Rialto real estate finance/investment, and multifamily operations. Results include WCI Communities from its February 10, 2017 acquisition; prior-year comparatives exclude WCI.
Financial performance
- Quarter revenue: $3.262 billion, versus $2.746 billion a year earlier. Homebuilding revenue was $2.886 billion; Financial Services $208.4 million; Rialto $68.0 million; and Multifamily $99.8 million.
- Quarter earnings: Earnings before tax were $309.6 million, versus $327.8 million. Net earnings attributable to Lennar were $213.6 million, or $0.91 per diluted share, compared with $218.5 million, or $0.95 per diluted share. Net earnings including noncontrolling interests were $200.7 million.
- Six-month results: Revenue was $5.599 billion, versus $4.739 billion. Net earnings attributable to Lennar were $251.7 million, or $1.07 per diluted share, versus $362.5 million, or $1.58 per diluted share. The 2017 period included a $140 million litigation charge.
- Homebuilding: Second-quarter home sales revenue rose 18%; deliveries increased 15% to 7,687 excluding unconsolidated entities, and average selling price rose to $374,000 from $362,000. Gross margin on home sales declined to 21.5% from 23.1%; homebuilding operating margin was 12.1%. Sales incentives averaged $22,700 per delivered home, or 5.7% of home sales revenue.
- Orders and backlog: Second-quarter net new orders increased 12% to 8,898 homes. Backlog at May 31 was 10,201 homes valued at $4.003 billion, versus 9,014 homes valued at $3.336 billion a year earlier.
- Cash flow and liquidity: Six-month operating cash use was $159.8 million, compared with $175.4 million. Investing cash use was $873.5 million, including $611.1 million for the WCI acquisition. Financing provided $687.7 million. Cash and equivalents were $984.0 million, down from $1.330 billion at November 30, 2016.
- Debt and capital: Lennar Homebuilding debt was $5.768 billion, up from $4.576 billion at November 30, 2016. Homebuilding debt-to-total-capital was 44.1%, and net debt-to-total-capital was 40.7%, versus 39.4% and 33.4%, respectively, at fiscal year-end. Stockholders’ equity was $7.323 billion. Lennar reported compliance with credit covenants and no borrowings under its $2.0 billion revolving credit facility at quarter-end.
Material changes and notable items
- Lennar acquired WCI for approximately $642.6 million in cash, funded primarily with working capital and new 4.125% senior notes. WCI added Florida luxury-home operations and 51 active communities; provisional purchase accounting included $156.6 million of goodwill.
- In January and April, Lennar issued $600 million of 4.125% notes due 2022 and $650 million of 4.50% notes due 2024. It used part of the latter proceeds to redeem $400 million of 12.25% notes due 2017.
- The Fourth Circuit upheld the Maryland property judgment. Lennar accrued a $140 million litigation loss, then purchased the property for $114 million and paid approximately $124 million in interest and other closing costs.
- Homebuilding equity losses from unconsolidated entities widened to $21.5 million in the quarter, primarily due to venture operating expenses without significant home or land sales. Six-month homebuilding operating earnings also reflected the litigation charge.
- Rialto reported a quarter operating loss of $6.5 million, but management cited $6.2 million of earnings net of noncontrolling interests. The FDIC exercised clean-up call rights over a portfolio, requiring Rialto to liquidate and sell remaining assets by July 10, 2017.
Outlook, risks, and contingencies
- Management expected fiscal 2017 deliveries of 29,500–30,000 homes and described its growth objective as 7%–10%, with 2017 growth expected to be somewhat above that goal following the WCI acquisition.
- Management cited improving housing demand, employment, wages and consumer confidence, but also land and labor shortages and rising construction costs. It expected third-quarter 2017 gross margin to be somewhat below the prior-year quarter as costs outpaced selling-price increases and competition persisted.
- The company intends to shift toward shorter-term land acquisitions, reduce overhead relative to revenue, invest in technology, and eventually move toward a pure-play homebuilding business; possible transactions could include joint ventures, restructurings, spin-offs or public offerings.
- Key risks include construction and labor cost inflation, housing-market or credit deterioration, interest-rate changes, land availability and valuation, execution of the WCI integration and multifamily projects, mortgage repurchase claims, and legal or regulatory outcomes. Management identified no material change in previously reported risk factors.
- At quarter-end Lennar had $463.0 million of letters of credit and $1.2 billion of surety bonds outstanding; estimated future costs to complete work associated with the bonds were $575.4 million. Management did not anticipate draws that would materially affect results.
Important facts for investors to verify
- Whether WCI integration, acquisition financing and provisional purchase accounting produce the expected growth and returns.
- Whether homebuilding margins stabilize despite higher construction and land costs, and whether orders and backlog convert into deliveries at expected prices.
- How much of the year-over-year six-month earnings decline reflects the one-time $140 million litigation charge versus underlying operating trends.
- Whether rising homebuilding debt and net leverage remain manageable alongside land investment, joint-venture commitments and planned growth.
- The ultimate disposition and financial effect of the FDIC portfolio clean-up call, mortgage repurchase claims, guarantees and other contingencies.