Lennar Corporation — Q2 2011 Form 10-Q
Business context and reporting period. Homebuilder and operator of mortgage/title services and Rialto real estate investments. The quarter and six-month period ended May 31, 2011; comparisons are with the corresponding 2010 periods. Dollar figures below are in millions unless stated otherwise.
Financial performance and position
| Metric | Q2 2011 | Q2 2010 | Six months 2011 | Six months 2010 |
|---|---|---|---|---|
| Total revenue | $764.5 | $814.5 | $1,322.5 | $1,388.9 |
| Net earnings attributable to Lennar | $13.8 | $39.7 | $41.2 | $33.2 |
| Basic and diluted EPS | $0.07 | $0.21 | $0.22 | $0.18 |
| Homebuilding gross margin on home sales | 19.4% | 20.6% | 19.6% | 20.0% |
| Homebuilding operating earnings | $21.2 | $29.5 | $56.7 | $34.9 |
| Financial Services operating earnings | $2.5 | $13.7 | $3.7 | $12.8 |
| Rialto operating earnings | $22.7 | $14.7 | $45.7 | $13.7 |
- Q2 revenue fell about 6%; Lennar-attributable earnings fell about 65%. For six months, revenue declined about 5%, while attributable earnings rose about 24%.
- Six-month operating cash flow was $4.6, versus $274.7 in 2010. Cash used in investing was $95.6 and cash used in financing was $171.7; cash and cash equivalents decreased $262.7 to $1,131.5. The 2010 operating cash flow included a $323.7 tax refund.
- At May 31, cash included $945.2 in Homebuilding, $116.7 in Financial Services and $69.6 in Rialto. Total assets were $8,699.2; total liabilities were $5,440.0 and total equity was $3,259.2.
- Homebuilding debt was $3,104.3, down from $3,128.2 at November 30, 2010. Homebuilding debt-to-total-capital was 53.9%; net debt-to-total-capital was 44.9%, up from 42.4% at November 30, 2010. Rialto notes payable were $752.3 and Financial Services debt was $189.5.
- Home deliveries were 2,682 in Q2 versus 2,912; new orders were 3,204 versus 3,207, and backlog was 2,470 homes ($633.7) versus 2,499 homes ($655.9) at May 2010. Reported sales incentives averaged $33,900 per home in Q2 versus $31,100.
Material changes and drivers
- Lower home deliveries drove the Q2 home sales revenue decline; home sales revenue fell 6%, deliveries excluding unconsolidated entities fell 9%, and average delivered home price rose 2% to $245,000. Higher incentives weighed on gross margin.
- Homebuilding results were mixed by region: East earnings improved, while Central and Houston remained profitable but weaker; West recorded an operating loss in Q2. Central’s six-month loss included $7.6 of costs to remedy liabilities of a previously acquired company.
- Financial Services earnings declined with lower mortgage and title activity; mortgage originations were $652 in Q2 versus $781, and the capture rate among Lennar homebuyers was 79% versus 85%.
- Rialto results benefited from loan interest income and gains associated with real estate acquired through foreclosure; six-month Rialto other income also included gains on sale of securities. Its operating earnings include substantial FDIC noncontrolling-interest earnings: $12.9 in Q2 and $24.8 for six months.
- Six-month Homebuilding results included a $37.5 litigation settlement, $15.4 Lennar’s share of a joint-venture debt-extinguishment gain, $10.0 of previously deferred management fees, and $8.4 of valuation adjustments to unconsolidated-entity investments. These items make period comparisons less indicative of ongoing operating performance.
Outlook, risks and unusual items
- Management described the housing market as challenging, citing tight credit, weak consumer confidence and slow sales, with little evidence of a spring selling season. It nevertheless said it believed Lennar was positioned for a profitable 2011 and highlighted strategic land investment, higher-margin communities, its “Everything’s Included” marketing platform and cost control.
- Management said Q2 new orders were flat year over year; May orders were up more than 30%, while the prior two months were down about 11%. It expected more favorable comparisons after the federal homebuyer tax credit ended in May 2010. No numerical full-year earnings guidance was provided.
- The company warned continued weak or deteriorating housing demand could cause pricing pressure, slower absorption and additional inventory, investment or option-deposit write-downs. Six-month valuation adjustments and write-offs were $26.6, compared with $16.2 a year earlier.
- Homebuilding unconsolidated-venture net recourse exposure was $105.2; maximum exposure before partner reimbursement agreements was $162.3. The company noted potential guarantee obligations, including joint-and-several exposure if partners cannot reimburse it. A venture’s Heritage Fields debt maturity was extended to 2018 with a reduced balance and a limited guarantee from partners.
- Rialto’s distressed-loan and real-estate valuations depend on estimates of collections, collateral values and market conditions. Loans receivable were $938.8, while Rialto REO rose to $530.7 from $258.1 at November 2010; $140.9 of loans were nonaccrual, with no allowance recorded against those loans based on collateral values.
- Financial Services warehouse facilities totaled $325 of commitments; one $175 facility matured July 29, 2011, and management expected renewal. Mortgage loan-sale representations and warranties expose the company to possible repurchase claims; the recorded loan-origination liability was $10.0.
- Warranty reserve was $91.2. Lennar had accrued $82.2 for confirmed and estimated Chinese-drywall issues; the net reserve for the issue was $14.0. About 970 affected homes had been identified, primarily in Florida, and further inspections could change estimates.
- The company reversed $10.8 of deferred-tax-asset valuation allowance in the six-month period, but the remaining allowance was $598.7. Federal tax examinations covered fiscal years 2005–2010; outcomes were not determinable.
Investor verification priorities
- Assess how much reported earnings depended on the litigation settlement, foreclosure-related gains, joint-venture debt gain, deferred fees and tax allowance reversal.
- Verify subsequent home orders, cancellations, backlog conversion, sales incentives and homebuilding margins against management’s 2011 profitability outlook.
- Review cash generation, debt maturities and refinancing capacity, including renewal of the July 2011 Financial Services warehouse facility.
- Monitor Rialto loan collections, nonaccrual balances, REO disposition values and the assumptions behind fair-value estimates.
- Track joint-venture guarantee exposure, collateral adequacy, Chinese-drywall claims, mortgage repurchase requests and tax examination developments.