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heavyd
ParticipantPowayseller, every single one of the factors you mention is well known to the markets — old news, in fact. Investors have known about Iraq, high fuel prices, fairly soft employment numbers, and the potential for a housing slowdown for well over a year and so these have all been fully discounted.
So what will move markets?
Anything that differs dramatically from the above trends. You don’t need ‘good’ news to move a market or individual stocks; you just need newsflow that is not worse than consensus. Which is what we’ve had the last couple of months.
ParticipantI’m with no such reality on this market’s move; newsflow has been overwhelmingly positive over the last 4-6 weeks in terms of interest rates, energy costs, and geopolitics, even housing has been no worse than expectations. And for the most part corporates have reported decent earnings without a lot of nasty surprises. In the absence of negative newsflow, and without a lot of attractive alternatives, markets tend to float upward.
US housing stocks have been CRUSHED…over the last 15 months or so. TOL US is down 51% since its high in July 2005 while the S&P500 is up 10% over the same period…investors begain pricing in a housing slowdown well over a year ago, and to date the worst-case scenarios just haven’t panned out. These stocks are up because they were technically oversold in July and because they’re now trading on single-digit PE multiples…even after analysts have cut 2007 earnings estimates by over 50%.
Markets react to changing expectations…they move up on news that is good RELATIVE TO previous expectations, and they move DOWN when expectations are not met.
ParticipantThanks for clarifying Gross vs Operating margin — I was looking at EBITDA margins to try to get a sense of actual cash margins, but I am not an expert on the accounting standards used by builders. Anyway you slice it, seems there are still fat margins and nobody is feeling any pain yet…besides the guy who bought from a builder 12 months ago!
Brookfield in 2005 has g.m. of about 34%, down to 32% in the June quarter. McMillin as you suspected is a private company. Standard-Pacific is listed and used to have 50%+ exposure to CA; now this is below 30% and includes lots of NorCal exposure.
Anecdotally, one thing I have begun to see in sales listings for homes around Carmel Valley and even Fairbanks Ranch is seller’s willingness to rent or lease out the property.
ParticipantYeah, fact is in Scripps Ranch and Carmel Valley the big builders so far are offering very meager discounts, maybe a few thousand $$ in help towards closing costs and some minor upgrades. They don’t appear to be panicked, but then again the peak Summer selling season just ended.
Unfortunately, I don’t think Davidson is publicly traded. Or if it is, it’s one brand among several at a larger builder.
Taking a quick look at these companies’ SEC filings, it appears they do provide commentary on the strength / weakness of regional markets, but not to the point where they disclose margins on individual developments.
Say what you want about them, the guys that run these housing companies are pretty smart. Their main cost is land, I believe, and I am certain they build in a nice, fat cushion when they bid on parcels.
And if that cushion starts to get too thin, guess what? They start to cut corners on materials and labor. I understand many of the homes that were being finished in the middle of the last trough are rife with defects.
ParticipantActually, No Such Reality, my statements are based entirely on facts. For example…
Labor is equal to about 30% of revenues at a typical family restaurant. I am drawing this data from the latest 10-Q from Ruby Tuesday. I don’t have the data for California Pizza Kitchen (their pizza blows, by the way), but I’m willing to bet it’s similar. If these guys make a 15% OP margin, then labor is actually closer to 40% of costs, on average. To me, that’s material.
And the latest data I have, from the 2003-4 school year, show that median spending per pupil is about $6,800 per year in CA. In districts that serve a relatively high proportion of migrant labor (legal and illegal alike), the median is closer to $4,000 per student. I am pulling this data from some RAND Corp reports that are available via subscription.
Me? I couldn’t care less whether my occasional night out costs $60 or $65. The point I am trying to make is that draining the workforce of an enormous pool of cheap labor will inevitably lead to significant wage inflation. That’s fine with me.
But my own experience has been that the very people who whine about rising costs are the same ones who whine about the presence of illegal labor in this state. They are ultimately related and it’s tough to have one without the other.
ParticipantAgain, the figures I am citing are pulled directly from the builders’ 8-K statements, filed with the SEC. You can assume they understate margins, but given how closely the Street has picked apart these companies’ financials over the past few years, you need to offer more than a hunch.
Gross margin at Toll Brothers in the fiscal year ended October 2005 was precisely 32.2% and this represents the peak, clearly (gross margin back in 2001 was 26.5%).
At Lennar, fiscal 2005 (Nov year end) showed a gross margin of just 16.1%, up from 14.5% in FY2001.
Toll Brothers focuses more on high-end developments, which should explain much of the difference. In terms of actual cashflows, I am guessing Toll Brothers’ margin last year was around 25%; these guys are not stupid, and it appears they have been cashflow +ive at the operating level in every one of the last 20 years.
That still suggests we have a long way to go before the various financing and upgrade incentives make a real dent in their cash earnings. It’s worth keeping in mind (here I am stating the obvious) that the $10,000 in upgrades they offer as an incentive probably cost them at most $6,000-7,000 out of pocket.
Lastly, I wouldn’t use $1m for a 3,000 sq foot home (=$333/sq ft) as a national average. That is rather ordinary for here in SoCal but would be considered fairly pricey in a lot of parts of the country away from the 2 coasts.
I don’t know what kinds of conclusions you can draw from the above examples…on a home with $1m ‘retail’ value, which gives the builder a 25% cash margin, how much debt is the builder using to finance construction, net of prepayments from the lucky buyer?
Someone smarter than me should be able to figure out the cash cost of the builder holding onto that home for an extra month while waiting for a buyer…that will get you closer to the kind of incentive they will be willing to offer and still come out ahead (or with a minimal loss).
ParticipantSure, labor (illegal and otherwise) is “only” 10% of the farms’ operating costs. But at the packers it’s higher…and the majority of short-haul trucking in and out of the Valley is done by immigrants these days. That’s just CA’s agriculture industry…think about the entire hotel and F&B industry in CA — labor is a much higher % of their costs, direct or otherwise. Likewise construction. There is no doubt there would be significant upward pressure on wages in the near-term if illegal aliens are prosecuted and / or repatriated.
ParticipantFor publicly traded companies, financial results are a matter of the public record. TOL made gross margin of 35% as recently as Q42005; it has come off to just below 30% in the June quarter this year, but clearly they have plenty of room to throw in $5000-10000 worth of options on a $1m house and still make a great return (34% in 2005 — not too shabby). We have a long way to go before any of the large, publicly traded builders starts to feel pain.
ParticipantGreat comment about “entitlement” in some of the up and coming communities in Coastal N. County, Rudy. I see a lot more Aston Martins and Lambos here in Carmel Valley than I ever do hanging around in La Jolla and Del Mar.
Participant“Sending the illegals home” would result in massive wage inflation in agriculture, construction, and services.
Ever visited a farm in the Central Valley? Or walked around a construction site anywhere in CA? Or gone behind the scenes at a locall hotel or restaurant? All of these businesses employ immigrant labor, much of it illegal.
In a state where unemployment is already low at ~5%, where do you think we’d find people to fill the millions of jobs vacated by the illegal immigrants we send home?
Overnight you would see cash wages rise by 20-30% in order to entice legal workers into these low-end jobs. And these employers would also begin paying more in health insurance, etc.
And all of these costs would immediately be passed on to consumers.
Who wants to see inflation move from 2-3% pa to double digits?
The majority of consumers here in CA are net beneficiaries of the widespread employment of illegal aliens. Most debate centers around the significant costs involved in providing education, healthcare, etc to this very large component of the workforce, but few talk about the very positive effects this group has on prices.
ParticipantWarren Buffet generally drives (or more accurately, is driven in) a Lincoln Towncar. In fact, he just donated one to a charity that was sold on Ebay for about $70K. So nothing special there.
A family friend who founded NTAP a decade ago (think he might have been a billionaire for a few days during the height of the tech bubble) drives a Toyota Prius.
Some wealthy people just aren’t “car guys”. Jay Leno owns literally dozens of cars, whereas I understand Tiger Woods actually drives the Buicks he endorses, which (as a car guy) just blows my mind.
ParticipantYeah, that kind of scenario envisions HUGE job losses and as you say, would be a lot worse than a simple recession.
I try to look at what kinds of price levels will get cashflow-oriented investors back into the market here.
If I assume current rent levels, and interest rates around these levels, then I think a 25-30% correction from current levels would really get professional investors interested.
And that would get us back to equilibrium quickly.
But again, this assumes a soft landing.
ParticipantAccording to your formula, the point where selling price = capitalized value represents some level of cashflow yield over time, which is the right way to approach this. But a couple of questions:
Why settle on a period of 8-10 years?
Also, try running this calculation using a property where you know approximate rental income and asking price. What I think you will find is that selling prices need to fall a long, long way before your model shows them as attractive.
I rent a 3BR in Carmel Valley and according to your model, the price of similar units on the market nearby will have to fall by 40-50% before they make sense on a cashflow basis!
ParticipantWhy am I not surprised the 25 year old talks about the importance of ‘flash’? I think it was Chrispy who pointed out that the truly wealthy typically do not make a show of their wealth or achievements — after all, who do they need to impress? And while I can agree that avoiding debt altogether is difficult and sometimes unwise, unthinking reliance on debt financing has destroyed a lot more fortunes than it has created. These days, real wealth is created by people with great ideas. And great ideas are usually funded, in the initial stages, with venture capital or cash savings — not debt.
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