Stock Wars: KB Home Vs. LGI Homes

Benzinga’s weekly Stock Wars matches up two leaders in a major industry sector, with the goal of determining which company is the better investment.

This week, the duel is between a pair of homebuilding companies: KB Home KBH and LGI Homes Inc LGIH.

The Case For KB Home: KB Home was founded as Kaufman & Broad in 1956 by Donald Bruce Kaufman and Eli Broad. The company’s initial focus was Detroit’s northeast suburbs, which was experiencing a wave of first-time homebuyers moving out of the Motor City. Kaufman and Broad decided to shift their focus in 1960 from Detroit to Phoenix.

Now headquartered in Westwood, California, it operates in 45 markets across the country and has been publicly traded since 1986.

Builder Magazine ranked KB Home as the nation’s seventh-largest homebuilding company. Since the beginning of the year, KB Home has opened 53 new communities across eight states.

On July 20, it announced that it would include MERV-13 rated air filters at all of its new communities, adding in its press announcement that these filters “are a higher standard than those available from most other homebuilders.” In 2020, it became the first builder to guarantee all of its homes are Energy Star certified.

In its second-quarter earnings report published June 23, KB Home reported total revenues of $1.4 billion, up from $913 million one year earlier, and net income of $143 million, up from $51.9 million in second-quarter 2020. The quarter’s basic earnings per share (EPS) was $1.55, compared to 57 cents in the prior year, and the diluted EPS was $1.50, up from 55 cents one year earlier.

While acknowledging that second quarter 2020 was burdened with the public health measures related to the COVID-19 pandemic, Chairman, President and CEO Jeffrey Mezger noted the company’s “ability to optimize our assets was evident in our gross margin rising above 21%, which drove our operating margin to exceed 11%, both of which represented the best quarterly margins we have generated in many years.”

With the average selling price on its residences up 13% year-over-year to $409,800 and a 216% increase in homebuilding operating income from second-quarter 2020 of $51.6 million to the new quarter’s $162.9 million, Mezger stated the company is operating from a position of strength despite difficulties that continue to bedevil the homebuilding industry.

“Operationally, our team remains resilient, focused on delivering exceptional customer satisfaction amid the challenges associated with the incredible demand and supply chain constraints that have characterized this housing market over the past year,” he said. “As we continue to generate strong net orders, we have also been able to scale up our production, matching starts to sales.

“With a backlog value above $4 billion, we are poised to deliver a substantial increase in revenue this year, at solid margins that we anticipate will contribute to a return on equity of roughly 20%. As we look to 2022, our backlog, together with our expected community count growth, positions our company for another year of healthy expansion.”

At last check, KB Home was trading at $41.24, sandwiched between its 52-week high of $52.48 and its 52-week low of $30.25.

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The Case For LGI Homes: LGI Homes was founded by Thomas Lipar in 2003 and initially focused on creating residences for first-time buyers in the Houston metropolitan area. The company expanded in Florida and Georgia in 2013, and also conducted its initial public offering that year.

Today, LGI Homes has a presence in 18 states and is ranked by Builder Magazine as the nation’s tenth-largest homebuilding company. Since the beginning of this year, LGI Homes has acquired two regional homebuilders — Buffington Homebuilding Group Ltd. in Austin and KenRoe Inc. in Minneapolis — and has opened 15 new communities in 11 states.

The company’s most recent quarterly earnings report was for the first quarter, published on May 4. In this report, the company reported homes sales revenues of $705.9 million, up from $454.7 million one year earlier, and net income of $99.6 million, up from $42.8 million in the previous year.

LGI Homes’ basic EPS was $3.99, up from $1.69 in first quarter 2020, and its diluted EPS was $3.95, up from $1.67 in the prior year.

Chairman and CEO Eric Lipar pointed out that the company increased its closings by 39.6% year-over-year to 2,651 new homes and “set a first-quarter record with an average of eight closings per community, per month. Net orders were the highest in our history and we finished with a record 5,632 homes in backlog valued at $1.6 billion, representing year-over-year increases of 199.7% and 257.6%, respectively.”

Lipar added the company’s average sales price per home closed in the first quarter was $275,655, an 11.2% year-over-year increase, while the gross margin as a percentage of home sales revenues was 26.9%, a 350-basis-point rise.

“During the first four months of the year we have sold a record-breaking number of homes and believe the fundamentals driving the ongoing surge in demand show no signs of abating anytime soon,” Lipar said, adding that LGI Homes is currently operating in the strongest demand environment we have ever experienced. We are confident that our unique business model, strong balance sheet and talented team of dedicated employees position us to maintain our exceptional first quarter momentum throughout the rest of the year.”

At last check, LGI Homes was trading at $160.06, closer to its 52-week high of $188 than to its 52-week low of $95.54.

The Verdict: Recent data from the National Association of Home Builders found the share of prospective buyers looking to purchase a newly built-home peaked at 42% in the fourth quarter of 2020 and dropped to 38% and 33%, respectively, in the first two quarters of this year — a situation primarily attributed to rising prices on new homes, which itself was fueled by the increased costs of goods used in residential construction.

“Builders are contending with shortages of building materials, buildable lots and skilled labor as well as a challenging regulatory environment,” said NAHB Chief Economist Robert Dietz. “This is putting upward pressure on home prices and sidelining many prospective home buyers even as demand remains strong in a low-inventory environment.”

Despite this challenging environment, both KB Home and LGI Homes have been turning in very strong financial performances. However, KB Home’s stock should be trading much closer to its 52-week high, especially in view of its second-quarter earnings report, and other companies in the industry seem to be growing at a greater speed — it was ranked as the fifth-largest homebuilder by Builder Magazine last year but slipped two berths for this year’s rankings. Nonetheless, it is still a bigger company than LGI Homes.

From a stock perspective, both companies are a solid investment at this point in time. How things will shake out for builders remains to be seen: lumber prices have fallen from an astonishing peak earlier this year, so it is possible the supply bottlenecks could loosen.

As both companies are heading in the right direction and are showing no signs of being hobbled by the problems facing their wider industry, we have to declare a tie in this Stock Wars duel.

Photo: Paul Brennan/Pixabay.