Stale Backlogs Are Hurting Homebuilders

Includes: CTX, MDC
by: Herb Greenberg

I was just on Kudlow & Co. and Larry was going on and on (and on!) about housing stocks – about how great it is they’re rising. He was responding to my comment that the quality of housing backlogs is suspect. “There are so many incentives to buy,” I said, “that people can easily cancel.”

Which is what they’re apparently doing. Just as we are going back-and-forth, and I mean just, Doug Kass was sending me instant messages about the Centex (CTX) pre-earnings blowup. Among the reasons for its decision to slice its forecast for earnings from continuing operations by half: cancellations. (Seems people can’t sell their existing homes.)

My point in all of this is I’ve had this information on my desk for several weeks from a very smart hedge fund manager about backlog quality, which he says increasingly appears to be turning into three-day-old fish. “If the backlog is old and not moving, it’s more likely the contracts will never close and the company will eventually have to fess up to the fact that the sales picture isn’t nearly so robust.” For example, at the end of the June quarter, MDC Holdings (NYSE:MDC) reported a backlog of 2,076 homes in Arizona, suggesting a backlog based on order and closing rates of between seven and nine months. Drilling down, its Richmond American unit snared buyers in Phoenix with a $1 down promotion that expired just before quarter’s end, for a quick move-in and close by December 22 – just before the end of another quarter.

“If backlog is growing in relation to orders and closings,” said this hedge fund manager, who is short several housing stocks (not including MDC), “it’s probably an indication that there’s either a lot of ‘aged’ backlog that many never close and/or a lot of artificially induced backlog similar to what MDC is encouraging.

"In either case, investors need to be very wary of relying on those backlog figures. Just like with aged receivables or inventory, aged backlog may not have much value.” And smell, to boot.

CTX 1-year chart:

MDC 1-year chart:

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