LGI Homes: Small Cap Growth With Big Potential

| About: LGI Homes, (LGIH)

Summary

LGIH is a bargain deal with a forward P/E ratio of only 8.59.

Building exclusively in expanding markets will lead to incredible growth.

The increase in real estate inventory, particularly finished homes, should lead to continued revenue growth in the future.

What they do:

LGI Homes (NASDAQ:LGIH) is a homebuilder headquartered in The Woodlands, TX. They specialize in building practical and affordable housing in certain growing markets within the U.S. These areas include Texas, Arizona, Georgia, and New Mexico. These guys seem to have a grasp on the markets that are seeing the most rapid expansion, notably the Houston market. With the development of hydraulic fracturing technology we are seeing an energy renaissance within the Houston area. Exxon is building headquarters in The Woodlands (about 40 minutes north of Houston) and LGIH may be able to capitalize on the relocation of thousands of employees. Energy companies are expanding and hiring, allowing Houston to grow at a quick pace.

LGIH also just bought land 35 minutes from Charlotte, NC, a large financial hub that is home to Wachovia and Bank of America. It is a strong economy and one in which homes should sell quickly.

10Q analysis:

LGHI has increased land deposits and option payments from $2.97 million on December 31, 2013 to $13.38 million on March 31, 2014. These current land options represent a potential $137.9 million of land assets that can be acquired when necessary.

According to the company's 10Q, year over year real estate inventory has increased by 35.5 million (25%) and sales have increased by $40.18 million (112%) (using pro forma numbers which show higher sales for 3 months ending March 31 2013, because they do not reflect recurring items). Cost of sales increased by 30.16 million (115%) (again utilizing the pro forma data for 3 months ending March 31, 2014) in the same time period. LGIH is expanding at an extreme pace, and I do think that they can continue that growth. With an increase in real estate inventory, comes an increase in revenue, as long as they can continue finding home buyers. Keep in mind that real estate inventory includes land, sales offices, houses in progress, and completed homes.

Sales as a Function of Real Estate Inventory
Quarter Ending Value of Completed Homes Ending Value of Homes in Progress Sales in the Following Quarter
Q3 2013 14,251,842 19,123,622 65,034,000
Q4 2013 28,470,007 27,722,361 75,919,000
Q1 2014 30,476,000 41,487,000 ?
Click to enlarge

Completed homes grew by about $2 million from December 31, 2013 to March 31, 2014, and homes in progress increased from $27 million to $41 million within the same time period. In my opinion, this should be good news for this quarter's earnings. The most important statistic is completed homes because it shows the dollar amount of homes ready to sell. Revenue can only be recognized when a "sale is closed, title and possession are transferred to the buyer, and the Company has no significant continuing involvement with the home." This leads to the conclusion that a home must be completed before it can be sold, and revenue can be recognized. With the addition of new completed homes, and a massive increase in homes in progress, we should see some tremendous growth in sales within the next 12 to 18 months.

Potential Negatives:

If you have scoured the most recent 10Q the most alarming number may be the decrease of 41 million in operating cash flow. That is a significantly large number, but it is not a cause for alarm. The majority of this decrease corresponded with an increase in real estate inventory and options for buying land.

Another issue to look into involves a note payable of $48 million due in 2015. Considering cash on hand was only $25.6 million on March 31st of 2014 this could be a big problem. As long as revenue continues to grow at a decent pace, an increase in cash on hand will solve this issue without taking a large bite out of earnings.

The last item of concern is a related party transaction, in which LGIH pays a family principal $100,000 a year for consulting services. The nature of the services are not described, but one could argue that they are taking advantage of shareholder money in order to unfairly help out a related party. It could also be a completely justified expenditure, but it is tough to make that call.

Overall:

With a forward P/E of only 8.59 this stock looks like a great buy, even in current declining market conditions. I strongly believe LGIH will continue to post gains in revenue, especially with the recent investments made in expanding markets.

Disclaimer: I am not a registered investment advisor and do not provide specific investment advice. The information contained herein is for informational purposes only. Nothing in this article should be taken as a solicitation to purchase or sell securities. Before buying or selling any stock you should do your own research and reach your own conclusion. It is up to investors to make the correct decision after necessary research. Investing includes risks, including loss of principal.

Disclosure: The author is long LGIH. The author wrote this article themselves, and it expresses their own opinions. The author is not receiving compensation for it (other than from Seeking Alpha). The author has no business relationship with any company whose stock is mentioned in this article.