Gross margins are the basic profits earned from building individual homes
Analysts keep close tabs on a company’s gross margins, which are revenues less the cost of goods sold. This estimates the gross profit on building homes. But it ignores other expenses such as selling, general, and administrative costs, taxes, interest, and other corporate expenses. Major costs include land development, construction costs, materials, and labor.
In the fourth quarter, KB Home’s gross margins decreased 60 basis points year-over-year to 17.3%. Excluding special inventory and warranty charges, gross margins decreased 110 basis points to 18.7%.
Average selling prices continue to climb
KB Home’s (KBH) average selling prices rose 17% to $351,500 in the fourth quarter. The increase was driven by a change in the company’s geographic mix and higher average selling prices in Northern California.
Most other builders have noted large increases in average selling prices as well, but 17% is a standout. Average selling prices are a function of geographical exposure and average sizes. Luxury builders such as Toll Brothers (TOL) have been able to increase average selling prices by simply building bigger homes.
The days of high margins appear to be numbered, as KB Home warned it would be unable to meet its 20% gross margin goals for 2015. This extended to all of the builders, and the S&P SPDR Homebuilders ETF (XHB) fell as well.
The builders are working through the inventory of lots that were purchased cheaply after the housing bubble imploded. These companies are now beginning to build on more expensive lots, and that will depress margins going forward. Skilled labor shortages are another issue, and this affects not only KB Home but also rivals such as Lennar (LEN) and PulteGroup (PHM).