As second-quarter earnings roll through, one segment of the real estate market that seems to be full of cautious optimism is new home construction. Certainly, the fact that sales of new homes in June 2020 were up 6.9% above the previous year is a sign of a healthy market.
Not all homebuilders have reported their earnings yet, but a look at a few homebuilder earning reports show some common factors: strong sales, a move toward entry-level homes, and continued strength in the West and South.
A quarter of new records
D.R. Horton (NYSE: DHI) had a record quarter, selling 5,931 more homes than it did one year ago. It reported net sales orders of 21,519 homes, resulting in a 25% increase in consolidated pre-tax income and a 10% increase in revenues to $5.4 billion.
Meritage Homes (NYSE: MTH) set an all-time company record in May for single-month orders, selling a total of 1,320 homes. It then went on to set another record in June of over 1,500 orders and finished the quarter with sales 32% higher than last year. It also saw 78% earnings growth in the second quarter of 2020 over 2019 and over $1 billion of revenue in Q2 2020. Meritage's earnings per share was $2.38, up from $1.31 a year ago.
On the company's earnings call, CEO and Chairman of the Board Steven J. Hilton expressed astonishment at the rapid increase saying, "I can't remember another time like this in all my 35 years leading Meritage."
PulteGroup (NYSE: PHM) reported in the second quarter that sales revenue rose 3% year over year to $2.5 billion with a 6% rise in closings, to 5,937 homes. Like other builders, it saw its prices decline, down 3% in its average sale price to $416,000. Earnings per share was up 35% to $1.15.
Homebuilders are seeing particularly strong demand for lower-priced homes
Meritage reported that 70% of their total second-quarter 2020 orders were entry level and 26% were first move-up. Many builders started their pivot to entry-level homes several years ago and are reaping the benefits. PulteGroup began this transition in 2016 and has a goal of having 35% of its homes sold to first-time buyers. In the last quarter, 31% of its homes were sold to entry-level buyers.
On the D.R. Horton earnings call, President David Auld said that the company has reset its product and positioning everywhere it can and that it's driving the company's returns. Its average sales price on net sales orders was $294,500, which was down 2% from the previous year.
For builders, the challenge is to lower prices while still keeping gross profit margins high. To do this, they need to consider land prices as well as the cost of construction.
Land acquisition is starting again, slowly
When the pandemic first took hold, a lot of builders didn't just pause construction, they also stopped acquiring land. Some builders have gone back to looking at land. Meritage purchased just under 6,000 lots in the second quarter and has plans to have 300 communities by 2022.
D.R. Horton, which is a larger builder, has 32,800 homes in inventory as of June 30, 2020. With 335,500 lots in its portfolio, 34% of which are owned, the company is hoping that the homebuying trend will continue. Like other companies, D.R. Horton pumped the brakes on buying land during the spring, but the demand for homes has caused it to need more lots.
PulteGroup currently has 163,000 lots under control, 46% of which are options. Like both Meritage and D.R. Horton, it has been buying more lots and increasing its development spend.
Growth in Texas and Florida
The West continues to be a place of expansion for homebuilders, but high prices have meant that builders have had to adjust by either pivoting toward entry-level communities or expanding into new lower-priced areas. Meritage saw the highest absorption rate in Arizona, but California produced the largest year-over-year growth.
Meritage reported that demand in Dallas and Houston were strong despite the weak energy market. PulteGroup's President Ryan R. Marshall noted that the urban exodus has started to have an impact. The company is seeing an increase in San Antonio, Texas, as well as the Sarasota area of Florida.
For D.R. Horton, the Southeast and South Central markets are the places where it holds the most inventory and sees the most sales.
Are homebuilder stocks a buy?
Many homebuilder stocks have rebounded strongly from March's slump. However, while homebuilders are flying high right now, there's no guarantee that the currently strong real estate market will continue. Another concern is that the current low inventory of existing homes for sale will shift and a flood of foreclosed homes could drag down existing home prices. However, builders such as D.R. Horton, PulteGroup, and Meritage are well-positioned if the market changes direction again.