Gross margin falls
In 2Q16, Lennar’s (LEN) gross margin rose 40 basis points sequentially to 23.1%. In 2Q15, the company’s gross margin was 23.8%, 70 basis points higher than in 2Q16. The year-over-year comparison tells you much more than the sequential comparison since homebuilding is very seasonal.
Interestingly, Lennar is committed to the first-time homebuyer and is still guiding for a gross margin of 23%–24% for 2016. Given that entry-level home pricing is lower, margins are typically lower, which shows that Lennar feels it can meet strong demand without cutting prices.
Branching out into the hot rental market
We’re seeing a continuing trend in growth in multifamily construction, with close to 1.3 million building permits. Lennar is building out its multifamily construction sector to take advantage of the hot rental market. Toll Brothers (TOL) is also hitting this area but is focusing more on urban luxury apartments.
Lennar isn’t the only homebuilder increasing its focus on the first-time homebuyer. While starter homes may have lower margins, there’s a tremendous need for affordable housing. D.R. Horton (DHI) launched a new brand targeting entry-level buyers. KB Home (KBH) has exposure there, as well.
Soon we’ll hear from PulteGroup (PHM), a large, diversified builder with exposure at lower price points. An alternative way to invest in the homebuilding sector is through the SPDR S&P Homebuilders ETF (XHB) or the iShares U.S. Home Construction ETF (ITB).
Focus on the first-time homebuyer
Lennar is focusing on the high-end first-time homebuyer and the move-up market, so its average selling prices remain higher than those of D.R. Horton or PulteGroup. Further, Lennar has wide geographic exposure.
Given the plight that Millennials find themselves in, many have become renters. Lennar has been building out its apartment strategy and has benefited from good timing. Rents are soaring, and vacancies remain at historic lows. This approach is a good way for the company to take advantage of current conditions and wait for the first-time homebuyer to return.
In the next article in this series, we’ll see if Lennar beat analysts’ estimates for earnings per share in 2Q16.