The housing industry took a beating during the economic crisis, and many companies are still trying to recover. With signs of a renaissance flickering, now is the time to find solid investments in the residential construction sector. I selected five housing-related stocks- DR Horton Inc (NYSE:DHI), KB Home (NYSE:KBH), Lennar Corporation (NYSE:LEN), Owens Corning Inc (NYSE:OC) and PulteGroup Inc (NYSE:PHM) for my research, because they are major pillars in the housing industry. (Although Owens Corning doesn't build homes, it provides the materials that the other companies use to do so. For this reason, it is an interesting company to consider.)
While these stocks are benefiting from positive catalysts such as an improving housing market, they are facing headwinds like high price volatility and still unpredictable unemployment numbers. The management of these factors differentiates a good and bad investment in this industry.
DR Horton Inc
DR Horton Inc is a large residential builder that specializes in the development, construction and sale of homes in 25 states throughout the US. Stock in the $4.6 billion dollar company is currently trading at around $14.50 per share, close to both the high of its 52-week range ($8.03 - $14.79) and its one-year target estimate of $15. DR Horton has a price to earnings ratio of 38, and it pays a dividend of $0.15 for a yield of 1%.
Like much of the industry, DR Horton has struggled to regain its footing after the housing bubble burst. The company's share price tumbled to its 52-week low ($8.03) when its end of the year results were announced in early October. Its price has been climbing ever since, hitting a new high of $14.79 on February 3, 2012. The outlook is good as the National Association of Home Builders announced that its builder sentiment index rose for the fifth consecutive month. Horton had a quarterly revenue growth of 15%, and the company is still operating with a reasonable debt to equity ratio of 65. This is a decent stock to consider right now, as investors can catch it low, before employment increases and improved customer confidence pushes prices and dividends higher.
Unlike DR Horton, KB Home hasn't seen that solid first step necessary to make a big run. This Los Angeles, CA-based company is involved in homebuilding and financial services throughout Arizona, California, Colorado, Florida, Maryland, Nevada, North Carolina, Texas, and Virginia. The firm has a market cap of just under $1 billion; its shares are currently trading for around $12.50 (with a 52-week range of $5.02 - $15.07), and the company pays a dividend of $0.25 for a yield of 2%.
Although the housing industry is improving, KB Home is a bit late getting to the party. The company enjoyed a quarterly revenue increase of 6.4%; its earnings were down a hefty 20%, and stock prices tumbled 15% over the past year. Even with the decline, it appears that KB Home will have a tough 2012, with its price to book (somewhat high at 2.16) and its prices to earnings (a cumbersome 31.77) suggesting that the stock is over priced. This is confirmed by its one-year target, which at $9.50 represents another 25% decline over its share price. Although the residential construction sector is showing signs of recovery, KB Home isn't there yet. I recommend anyone holding this stock to consider liquidating their positions at this time.
Headquartered in Miami, FL, Lennar Corporation is involved in homebuilding, financial services, and real estate businesses throughout the United States. Stock for the $4.5 billion company is currently trading at $23.50 per share (with a 52-week range of $12.14 - $24.10) and has a one-year target estimate of $24.50. The company pays a dividend of $0.16 and has a yield of 0.70%.
Lennar is another company that showed mixed results in 2011, with a 10.8% increase in quarterly revenue, but a 5.5% drop in earnings. The share price appears slightly high (price to book of 1.66 and forward price to earnings ratio of 18), but the real concern is how investors are handling it. Lennar is one of the most shorted stocks on the S&P 500, with 24% of its float held short. The company has been in a negative cash flow situation for the last year, averaging a loss of $67 million per quarter over that span. The company has over $1 billion in total cash. This indicates that it will be able to survive for a while, but a weak share price, small dividend and potential money problems suggest that investors should move their money elsewhere.
PulteGroup is based in Bloomfield Hills, MI, building single and multi-family housing under the brands of Pulte Homes, Del Webb, and Centex. Much like Lennar, PulteGroup has struggled to turn the corner, even though sentiment in the housing sector is improving. Even though quarterly revenue was up 6.5%, the company lost money; three of the last four quarters the company has seen a decline, with an average loss of around $69 million during that time. The stock has gained nearly 16.5% in the past 12 months, yet still stands at just under $9 per share (its 52-week range is $3.29 - $9.31). A new decline in share price is indicated by its $7.33 target, although it is not strongly supported by either its price to book ratio (currently at 1.77) or its forward price to earnings ratio of 16.75.
PulteGroup appears to be on the verge of another tough year. The slow start to 2012 already has analysts nervous, and UBS downgraded Pulte to hold from buy. The company has to overcome a free cash flow of more than $111 million, high volatility (beta of 1.79) and an oppressive debt to equity ratio of 179 as it tries to turn around its fortunes. While the company has more than $1 billion in total cash, the numbers do not stack up in favor of PulteGroup Inc at this time. I would recommend either holding the stock or selling existing positions on a high.
Owens Corning Inc
The Toledo, OH company is a worldwide manufacturer and supplier of glass fiber products that have a variety of applications in the construction industry. The company was recently named Canada's "Industry Supplier of the Year."
After plunging at the end of its fiscal year in October, the company's stock had rebounded from a low near $20 per share to a high of $35 in January. The price dropped 15% in early February with the announcement that earnings were below Wall Street expectations. The future looks bright; however, for Owens Corning. The one-year target for the stock is $38, a projected increase of nearly 25% that is supported by its price to book ratio of 1.07 and its low forward price to earnings ratio of 9.01. The company enjoyed a solid quarterly revenue growth of over 22%, while watching its earnings climb by more than 113%. Although its total cash ($50 million) is less than half of its free cash flow deficit (-110 million), the company appears to be turning the corner just in time, and investors could see nice gains this year.
Looking for Safety in Residential Construction
While the housing market continues a methodical climb out of the disastrous real estate bubble, performance is uneven among the players involved. DR Horton Inc appears to be the best prepared for immediate success, and I would recommend closely-watched positions in its stock and in Owens Corning Inc. KB Home, Lennar Corporation and PulteGroup Inc all seem to be farther removed from profitability, and I would not recommend taking new positions in any of the three at this time.
Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.