TMHC - Taylor Morrison: Comes Down To Supply-Demand

2023-08-30 06:04:52 ET

Summary

• Taylor Morrison is benefiting from strong US demographics and a current housing supply shortage.
• TMHC is exposed to favorable regional markets, such as Texas and the post-industrial East, and has been able to navigate labor shortages and material inflation.
• The company's low valuation and upcoming build-to-rent business provide potential for profit growth or at least stability as they accelerate starts and land acquisition.

Taylor Morrison Home Corporation ( TMHC ) is a stock that lies at the heart of counter-acting trends in US housing. Higher rates matter for the home buyer, but US demographics are pretty strong, especially in destinations that are tax and living cost favourable. The current housing supply is insufficient, and S/D dynamics are actually pretty solid for these businesses that should otherwise be highly cyclical. Cyclical but quality businesses always tend to trade cheaper than recession resistant ones, which is probably why Buffett moved a big chip into home builders . The fundamentals mitigate some of the dangers associated with the sector in a rate hiking environment. TMHC is exposed to some pretty good regional markets in the US, and its performance has been pretty good despite labour shortages and material inflation. Pricing action has been possible and has gained traction in some key markets. The stock is pretty cheap at TTM PEs. We quite like TMHC.

Q2 Update

Q2 has been pretty impressive considering the rate environment. TMHC's business model is to invest in land and build properties to sell. Some of the mix is build to order, but there is mostly speculative exposure in the mix where TMHC doesn't have a buyer until the building is done, about 40:60 as of Q2. They also have a new build to rent business which is still developing properties, but will be a more recurring source of cash flows in the future once the development phase is over in a couple of years.

Let me also offer a brief update on our growing build-to-rent business, Yardly. As of the second quarter, we owned or controlled approximately 7,200 lots across approximately 30 projects, of which about half are already under some phase of development.

- Erik Heuser, C-Suite Officer at TMHC

They operate in the following markets.

And the following is the run-rate distribution between the segments.

We are bulls on post-industrial America, and like the eastern exposure being the largest. Moreover, high exposure to central regions, especially Texas, is favourable considering the exodus that is happening to these regions thanks to more lax regulation and taxes. We are bearish on traditionally marquee property markets like San Francisco and Manhattan, we think their declines are going to become secular, and that there is essentially no stopping a permanent shift of people to these other parts of America. Corporations have already started to follow and likely will continue to follow. East and Central is growing in the mix comparing to the 10-K figures, where West was by far the largest.

The company is actually managing to battle higher building costs. Based on our coverage of building materials, prices are still inflating at around 7% YoY, higher even in specialty materials. Lumber prices are coming up now after getting dumped to lows. There is also the matter of worker availability, which remains a bit of a bottleneck. TMHC is battling the higher costs with pricing efforts, both through higher direct prices but also reducing promotional incentives that were present before. The markets where there is most scope to do this is Florida, Texas and even some parts of SoCal. Sacramento is doing good. Portland is apparently not going that well, with the market looking pretty toppy there.

Bottom Line

There are some pressures. The speculative sales are growing in the mix, and they will continue to grow in the mix towards the end of the year which usually gets a little more volatile since there is seasonally less business. This will cause some gross margin compression from mix effects. Moreover, new sales are going to be delivered at higher inventory costs due to continued inflation in building prices. It is possible that we come to a point where prices can't go up much more in many regions while there is still some building materials inflation. Also, higher labour costs may continue to kick in. There could be an afterburn of margin pressures in the coming years. Higher rates are also scary for these markets, and usually the effects from monetary policy are lagged, so we may yet see some issues.

On the plus side, the multiple is low. We are at about run-rate 6x PE on TMHC, which offers quite a lot of earnings yield. Also, the build to rent business is coming online soon, and starts are increasing substantially YoY for TMHC. Land acquisition is accelerating, so as long as market conditions support a positive gross margin, and it should, profit growth or at least profit stability is pretty likely.

During the quarter, we successfully accelerated our start volume by 36% sequentially and 6% year-over-year to approximately 3,500 homes.

- Curt VanHyfte, Interim CEO

Ultimately, we are pretty confident in the S/D imbalances mitigating a lot of the pressure from rates, especially in the market to which TMHC is exposed. We quite like what we see here.

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