In an earlier article here, I argued that Gafisa (GFA) could more than double while Lennar (LEN) is riskier. Since then, the stocks have risen by 8.5% and 19.6%, respectively. Gafisa continues to be rated near a "strong buy" while Lennar is a weak "buy" - a sentiment that I more or less share. Based on my multiples analysis and DCF model, I find that Lennar is fairly valued and will be outperformed by Gafisa.
From a multiples perspective, Gafisa is substantially cheaper. It trades at only a respective 8.7x and 4.8x past and forward earnings while Lennar trades at a respective 46.1x and 18.3x past and forward earnings. Yes, Gafisa has struggled operationally but at these multiples there is, in my view, limited room for contraction. And for those bullish on a recovery, Gafisa is well positioned to benefit from high risk-adjusted returns with its beta of 2.5, which is 47% more sensitive to the macro than Lennar is.
At the third-quarter earnings call, Lennar's CEO, Stuart Mill, noted the role of government in the housing market and how reliant the company is on it:
The government remains the primary financing resource in the housing market. FHA, VA, Fannie and Freddie are the primary drivers of the housing finance market, but are constrained by government oversight and mandate that is risk adverse and primarily focused on the preservation of existing capital. Additionally, there is a prevailing desire in Washington to have the government exit the mortgage finance business. This combination of drivers is shrinking available capital needed for demand to turn into actual sales.
Lennar's Rialto business adds even greater risk. Rialto purchases distressed assets at bargain prices and then, leveraging its solid ability to work out loans, attempts to flip it for a profit. It's risky and may likely be more speculative than what some investors bargained for. Despite improving financially, the company is still highly leveraged. With that said, Lennar had relatively strong fourth-quarter results and indicated sustainability to the bottom line. Sales in homebuilding grew 12.5% year-over-year to $817M, driven by greater average selling prices and volumes. The backlog has further increased with consolidated ordering up a staggering 20.8% upside.
Consensus estimates for Lennar's EPS forecast that it will grow by 52.1% to $0.73 in 2012 and then by 65.8% and 48.8% in the following two years. Of the 17 revisions to estimates, nine have gone down for a net change of -6.1%. Modeling a CAGR of 55.4% for EPS over the next three years and then discounting backwards by a WACC of 9% yields a fair value figure of $21.86, implying that the stock will be flat over the next two years. Assuming a multiple of 19x and 2012 EPS of $1.16, implies the same thing.
Gafisa, on the other hand, is truly a value play. Yes, fourth-quarter preliminary results were soft. Launched declined 62% year-over-year and hit the bottom end of guidance for the year. Tenda had a negative impact on the BRL $582M worth of launches, as well as in sales. Even still, the company is rightfully shifting away from Tenda and toward Alphaville. Receivables securitization has further mitigated cash flow burn.
Consensus estimates for Gafisa's EPS forecast that it will decline by 60.9% to $0.43 in 2011 and then grow by 79.1% and 46.8% in the following two years. Assuming a multiple of 9.8x and a conservative 2013 EPS of $1.03, the rough intrinsic value of the stock is $10.09, which implies that valuation may double. One estimate has fallen for a net change of -9.6%, hence I pushing my price target out one more year to 2013.