KB Home Kept at Neutral - Analyst Blog

On Aug 2, we maintained a Neutral rating on the U.S. homebuilder, KB Home ( KBH ), following its solid second-quarter 2013 results and the improving housing fundamentals. However, recent increases in mortgage rates, possible change in federal lending procedure and the lack of overall economic recovery keep us on the sidelines. KB Home carries a Zacks Rank # 3 (Hold).

Why the Neutral Rating ?

On Jun 27, 2013, KB Home announced solid second-quarter 2013 results. Loss of 4 cents per share was narrower than the Zacks Consensus Estimate of a loss of 5 cents. Earnings improved significantly from last year, riding on higher homebuilding revenues, improved housing gross margins and reduced SG&A ratio. Revenues increased 73% year over year and also beat the Zacks Consensus Estimate. Operating margins grew 7% driven by solid gross-margin expansion and better operating efficiencies emanating from KB Home's strategic actions.

In addition to the strengthening housing market, KB Home's strategic growth initiatives helped drive revenues and profitability in the quarter. The company gained from its strategic shift to higher prices, better-located communities and also from improving and refining its products to meet consumer preferences. In addition, KB Home's focus on pricing over sales pace also increased margins significantly.

Increased affordability, attractive financing options and higher rentals are boosting demand for new homes. Supply, however, remains limited by low home inventories, both for new and existing homes. A shortage of land and labor is restricting production of homes, both single and multi-family. Home prices are, thus, moving up sharply with the market demand gaining momentum and supply remaining limited. Further, KB Home's solid land position places it well to meet growing demand during the upturn, thus giving it a competitive edge over peers who are facing land availability constraints.

KB Home expects further profitability in the remaining two quarters and also in 2014 on the back of its strong land and backlog positions, increased community count, rising selling prices, increasing margins and SG&A leverage.

Following the solid second-quarter results, the estimates were revised upwards. The Zacks Consensus Estimate for 2013 rose a sharp 54% to 37 cents per share while that for 2014 increased by almost 1% to $1.18 over the last 60 days.

However, the recent increases in interest rates is concerning. The mortgage rates have started increasing from May 2013. High interest rates decrease demand for new homes as mortgage loans become expensive, thus lowering the buyers' purchasing power. Any change in federal lending procedure could also add to the woes.

Rising input costs, due to increasing costs of raw material and labor, is also a concern. As housing starts accelerate, both labor and construction material costs continue to experience an upward pricing pressure, which could prove to be a major deterrent for margins in the future quarters.

Other Stocks to Consider

Other stocks in the homebuilding sector that are performing well and deserve a mention include Lennar Corporation ( LEN ), Ryland Group Inc. ( RYL ) and Meritage Homes Corporation ( MTH ). All these companies carry a Zacks Rank #2 (Buy).

KB HOME (KBH): Free Stock Analysis Report

LENNAR CORP -A (LEN): Free Stock Analysis Report

MERITAGE HOMES (MTH): Free Stock Analysis Report

RYLAND GRP INC (RYL): Free Stock Analysis Report

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The views and opinions expressed herein are the views and opinions of the author and do not necessarily reflect those of Nasdaq, Inc.

The views and opinions expressed herein are the views and opinions of the author and do not necessarily reflect those of Nasdaq, Inc.

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