Undeniably, the U.S. housing market is being hammered now and then, thanks to various ongoing industry headwinds. Sales, permits, starts and existing home sales have all witnessed a decelerating growth rate. The slowdown of mortgage application, which is obvious as interest rates have trended higher and refinance business has dissipated, led to the downtrend. The increases in new and existing home sales prices through 2018, together with interest rate hikes have resulted in a halt in housing market recovery. Moreover, labor shortages, trade-driven material price increases and limited approved land availability have muted sentiment around the housing market’s strength and margin sustainability.
Notably, homebuilders like PulteGroup, Inc. PHM, Toll Brothers, Inc. TOL, Lennar Corporation LEN, D.R. Horton, Inc. (DHI) and KB Home KBH have suffered as a result. The Zacks Building Products - Home Builders industry has collectively declined 34.8% year to date.
Nonetheless, homebuilders remain optimistic and believe that the market has taken a natural pause. The industry is expected to witness higher demand, backed by fundamental economic strength and solid job market.
Given the current scenario, quality homebuilding stocks could offer a safe haven because of their stability and the fact that these are fundamentally strong enough to withstand the industry woes.
Among the industry bellwethers, Lennar and D.R. Horton are the most prominent ones. Both the companies have strong business lines as well as solid prospects, and carry a Zacks Rank #3 (Hold). You can see the complete list of today’s Zacks #1 Rank (Strong Buy) stocks here.
Before drawing a head-to-head comparison between Lennar and D.R. Horton, let’s check out a few key statistics of the companies.
What Defines the Housing Giants?
With a market cap of $13.5 billion, D.R. Horton offers a diverse line of homes across various price points through a multi-brand platform. Moreover, the company enjoys one of the broadest geographic diversities in the industry and is not dependent on any particular market.
D.R. Horton has been fast acquiring homebuilding companies in desirable markets. The recent acquisitions were that of Terramor Homes (one of the leading homebuilders in Raleigh, North Carolina) and Classic Builders (one of the largest homebuilders in Des Moines, IA) this December. Meanwhile, in the fiscal third quarter, the company acquired two small private builders, namely Lexington Homes and Permian Homes. The first buyout was carried out to enter the Spokane, WA market and the other one was intended to bolster its position as the largest builder in the Midland/Odessa market in Texas. Among these, the most notable one is the October 2017 acquisition of 75% stake in Forestar Group, a residential and mixed-use real estate development company. The deal helped D.R. Horton to expand operations in Texas.
Conversely, Lennar, with a market cap of $13.4 billion, offers a wide range of homes for first-time, move-up and active adult buyers in 19 states and more than 40 markets across America. While Lennar’s Homebuilding and Financial Services divisions are the primary drivers of near-term revenues and earnings, its Multi-Family business unit provides diversification as well as complementary long-term growth opportunities.
In February, Lennar acquired CalAtlantic Group Inc., creating one of the country’s largest homebuilders in the top U.S. markets.
Ongoing housing market headwinds have dealt a massive blow to the share price performance of the collective industry. D.R. Horton and Lennar are not an exception in this regard. D.R. Horton and Lennar have declined 29.6% and 34.9%, respectively, so far this year.
That said, when compared with the industry’s collective performance, D.R. Horton have fared better than Lennar.
Earnings Growth Rate
The ability to consistently boost profit levels defying industry woes is a defining characteristic of the best companies. Analysts expect D.R. Horton’s earnings to grow at a 12.3% rate over the next three to five years. Comparatively, Lennar’s earnings are expected to grow 17.2% over the same time frame. Hence, Lennar’s higher growth rate implies greater potential for capital appreciation.
The expected current-year earnings growth rate for D.R. Horton stands at 3.7% compared with 29.1% for Lennar.
Hence, Lennar is a clear winner in terms of earnings growth expectation.
Meanwhile, considering a more comprehensive earnings history, both Lennar and D.R. Horton have delivered positive surprises in three of the trailing four quarters. However, Lennar has a superior average earnings surprise of 68.9% compared with D.R. Horton’s 8.6%.
Profitability and Returns
Profitability and returns are a measure of the quality of a company’s business and growth opportunities. Return on Capital (ROC) of Lennar is 7.4% while that of D.R. Horton is 13.3%. This signifies that D.R. Horton’s business generates a higher return on investment than Lennar’s.
Again, Return on Equity (ROE) is a measure of a company’s efficiency in utilizing shareholders’ funds. ROE in the trailing 12 months for Lennar and D.R. Horton is 12.9% and 18.3%, respectively. While Lennar has met the industry level of 12.9%, D.R. Horton has an edge here.
Let’s have a look at the stocks’ P/E, P/B and P/S ratios compared with the homebuilding industry.
The trailing 12-month price-to-earnings (P/E) multiple for Lennar and D.R. Horton are 7.7 and 8, respectively, while the industry’s is 8.1. Lennar’s shares look a shade cheaper compared with D.R. Horton.
Again, trailing 12-month price-to-book (P/B) multiple for Lennar is 0.96 compared with 1.48 for D.R. Horton. The industry’s P/B is 1.04x.
Trailing 12-month price-to-sales (P/S) multiples for Lennar and D.R. Horton are 0.75 and 0.96, respectively, compared with the industry’s 0.69.
Lennar is the cheaper of the two stocks on both P/E and P/B basis.
To gauge the market risk of a particular stock, investors use beta. Stocks with beta above 1 are more volatile than the market as a whole. Conversely, a beta below 1 implies below average systematic risk. Both Lennar and D.R. Horton have a beta of 1.25 — above 1 — considering the ongoing housing market wrath.
Lennar appears to be a comparatively better investment option than D.R. Horton, in terms of earnings growth expectation, surprise history and valuation. Both the companies remain positive about the overall homebuilding market, which will continue to gain on solid demand for homes, favorable job market and strength in economy defying industry woes.
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