What this means for the S&P 500 is that Q3 earnings growth will likely fall short of the +50% expected by the average market participant (such as ourselves). What this means for the market is a massive reset of earnings expectations akin to what happened in early 2020 when the Coronavirus Pandemic first shut down the global economy.
The home builders are, or were, we should say, in a golden age that would still persist if not for supply chain challenges. Now, with those headwinds in place and apparently growing, the entire industry’s earnings outlook has come into question. The good news is that demand remains strong and backlogs are building, the bad news is that we don’t know how long headwinds will last and what will happen to the market in that time.
So, Lennar posted $6.94 billion in net consolidated revenue for a gain of 18% over last year. The bad news is that the market, in general, is expecting an S&P 500 company to outperform its consensus estimate by an average of 2500 basis points, Lennar missed the consensus by 440 basis points.
Internally, gains were driven by an increase in deliveries coupled with an increase in selling price. Lennar reports deliveries up 10% over last year but 600 basis points shy of expectation. In regards to earnings, the company has been able to outpace inflationary pressures with pricing increases that resulted in a 420 basis point improvement to gross margin. The gross margin came in at 27.3% versus 23.1% last year with a notable decline in SG&A expense as well.
While gross margin came in at a record high, SG&A expense as a percentage of revenue came in at a record low. As for earnings, the company reported fantastic earnings despite the revenue shortfall with the GAAP $4.52 in EPS $1.26 ahead of consensus. Q3 adjusted earnings were as expected at $3.27.
Looking forward, the business should remain strong but will continue to be hampered by supply chain challenges. The company reported a 5% increase in new orders by units and a 31% increase in the backlog that promises to keep Lennar busy for many quarters. Notably, price increases for both new orders and average backlog are up substantially more than the order volume. The average price of a new order is up 19% while the value of the backlog is up 52%. The bad news is that Lennar lowered its guidance for deliveries by 15% due to its headwinds and challenges.
Headwinds are cutting into Lennar’s results but its results are still good and driving substantial cash flows. The company not only improved its cash position over the past quarter but it repurchased 2.5 million shares at a cost of $246.50 million and paid down $300 million in debt.
The reduction in debt and ensuing balance sheet Improvement led S&P to upgrade the company’s debt to investment grade which means all three rating agencies rank the company investment-grade. The data from Marketbeat.com also shows that Lennar also pays a healthy if not large dividend that comes with a very high expectation of double-digit increases this year and next.
Shares of Lennar are down more than 3% in the wake of the earnings report and guidance downgrade and may fall farther. In the near term, price action may find some support near the $55 level but we see this dock moving down to the $92 level or lower. Our target for firm support is near the $90 level where price action has bounced before. If price action can’t hold up at this level there may be a bigger problem in the housing sector than we suspect.