Weekly Equity Idea Highlight - 2019 10 11
Current market expectations for LGIH are overly pessimistic. Markets expect UAFRS-based (Uniform) ROA (ROA') to drop to cost of capital levels, with growth being cut by 2/3 going forward.The market is pricing LGIH like an imminent housing crisis could occur, when macro factors give reasons to expect continued tailwinds, in particular thanks to lower interest rates and how this is benefiting the company. This is likely to lead to returns remaining stronger for longer.
The market is also expecting LGIH to see a massive decline in growth. The market expects LGIH's growth rates to fall towards industry rates, but LGIH is still in a secular growth trend. They are one of the few homebuilders moving from a regional base to a national base, as they seek to become one of the top five largest homebuilders. This means growth is likely to be stronger for longer.
On top of this, management's alignment, focused on margins and growth, is likely to focus management to execute on their strategy, contrary to market expectations. Also, management is showing growing confidence about their growth rates outside of their legacy Texas business, and around overall new community ramp later this year.
Considering low market expectations, in terms of pessimism for both growth and Uniform ROA recovery, the company's strong position and strategy, and confidence about executing on their strategy for the business, current low equity valuations appear unreasonable, spelling potential for equity upside.
LGI Homes is a holding company. Through its subsidiaries, the company is engaged in the design, construction, and sale of new homes in markets in Texas, Arizona, Florida, Georgia, New Mexico, South Carolina, North Carolina, Colorado, Washington, Tennessee, Minnesota, Oklahoma, Alabama, California, Oregon, and Nevada. The company's product offerings include entry-level homes, including both detached homes and townhomes, and move-up homes sold, which are sold under its LGI Homes brand, and its luxury series homes, which are sold under its Terrata Homes brand. The company's homebuilding operations are organized and managed by seven divisions: West, Northwest, Central, Midwest, Florida, Southeast and Mid-Atlantic.
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