On November 21 this year, CamWest Development, one of the biggest private home building companies, was acquired by another mid-cap home building enterprise, Toll Brothers Inc. (TOL). It gave the acquiring company an easy entry into the Seattle real estate market. Since the Seattle housing market seems to be recovering with steady growth in housing sales, both closed and pending, I see an option of investment. Perhaps it was noticed by the company's management team as well. Not to mention that the acquisition will increase the home construction and production rate a few notches up, thus augmenting the total revenue in the end.
Remember, rival competitors, especially PulteGroup (PHM), has been consistently establishing its presence in the Southern California area, with its acquisition of the Torrey Highlands in San Diego this month, been preceded by the same in Los Angeles, Bay Area and Vista.
As shared by Martin P. Connor, Toll Brothers' Chief Financial Officer in the latest financial report (fourth quarterly report) - "We believe that earnings growth can come from increasing our community count, but that significant margin improvement will only be achieved once we see the return of some urgency to the market, which should lead to increased sales prices and paces.”
He said it all, and more so, when the current unemployment rate among college graduates is well below 5%, we can expect the market to bounce back anytime. We are just seeing some rehashing of real properties by the Baby Boomer generation, in the light of current economic conditions. But what about the financial report by the way? Let's check the present health of the company.
We saw growth of around $200 million in the inventories section of the balance sheet. Might I say that the company is all set for increasing the scale of production? Yes, it shows in the increasing number of house building contracts in almost all the operating segments, except North. Current assets have gone up, which is necessary in case of increased operation of a company. Mortgage loan receivables have gone down by $30 million. Should I say that the company is being extra careful in lending out mortgage loans, because of the rising number of foreclosures and short sales? In short, the balance sheet convinces me.
But what about the income statement? The company shows an operating loss of ($47.75) million in 2011, down from ($167.76) million in 2010. Gross profit margin of 7.47% is pretty comparable with 7.1% of Lennar Corp. Nonetheless, gross profit margins of D. R. Horton (DHI), NVR and M.D.C. Holdings (MDC), at 16.87%, 19.84% and 19.04% respectively, are in the double digits. So something must not be working properly for Toll Brothers. If we dig deeper into it, the company has been incurring operating losses since 2008, and mainly because of selling, general and administrative expense, which should be attributed to the company's management.
In short, Mr. Connor, your planning seems to be good, but it doesn't really show in the financial reports, sad indeed!
In conclusion, Toll Brothers doesn't look so viable to me at the moment. But it seems strange that the market price has actually gone up during the last three months by over 28%, which is surprising since the company's PE ratio stands at 46.57x, much higher than some other companies that are doing better. If you ask me, I would rather go for companies with better return on investment. You differ with me? I want to hear what you have to say.
Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.