Home Building IndustrySector: Real Estate

Senior Analyst: Kento Okamoto

Industry Summary

Jan-

00

Sep-

00

May

-01

Jan-

02

Sep-

02

May

-03

Jan-

04

Sep-

04

May

-05

Jan-

06

Sep-

06

May

-07

Jan-

08

Sep-

08

May

-09

Jan-

10

Sep-

10

May

-11

Jan-

120.00

50.00

100.00

150.00

200.00

250.00Case-Shiller Index 20-city composite

Rating Neutral/OverweightUpside Potential• Indication of modest

recovery• Potentially undervalued

due to skepticismDownside Risk

• Possibility of another economic disaster

• High elasticity due to uncertainty

Industry Revenue ($MM)

20002001200220032004200520062007200820092010201120120

100,000

200,000

300,000

400,000

500,000

600,000

-40

-30

-20

-10

0

10

20

Growth % Revenue $ millionAction StatementHousing market seems to be on its path for recovery with mixed factors that can potentially shift the market outcome in different directions. Some major factors are:

Signs of recovery in residential home price Housing price increased for the first time since Sep-2010. Some

concrete signs of modest recovery.

30 year mortgage interest rate at all time low Golden opportunity for financing real estate purchases. Increase in

prime mortgage to support future growth of the market.

Subliminal risk of high demand elasticity Still concerned market may over-react to negative market news.

Industry Definition – House Construction

• Firms in this industry are primarily engaged in construction and remodeling of single-family houses and residential buildings. These firms may also hold their own financial services arm to provide clients with customized financial solution. Firms in this industry operate in multiple states, yet tend to hold strong position in their indigenous states.

NYSE: PHMNYSE: DHI NYSE: LEN

NYSE: KBH NYSE: RYL NYSE: TOL

Industry Breakdowns

East Midwest South West0

2

4

6

8

10

12

14

Pulte Group D.R.Horton

Lennar Corp KBHomes Inc.

Ryland Group Toll Brothers Inc.

# o

f S

tate

s

Industry breakdown by region 5983.6

829.78

6060.065080.91

1158.3

5407.58

DHI KBH LEN PHM RYL TOL

Industry breakdown by market cap ($MM)

3637

1405

34284137

891 1476

DHI KBH LEN PHM RYL TOL

Industry breakdown by revenue ($MM)

General Business Model

Home Building

Supplier

Base Material

Material Cost Construction

Customer

Mortgage Loans

Payments + Interest + (Collateral)

Mortgage

Banking

Home Builders

LandPurchase

Economic Landscape

Home Builders

Financial Entities

New Residenc

es

Foreclosed

Properties

Housing

Market

Demand

Consumers

Financing

Collateral

“Supply Side”

“Demand Side”

Absorption of Existing Inventory

Existing Home Sales and Remaining Inventory

2004-Q1

2004-Q3

2005-Q1

2005-Q3

2006-Q1

2006-Q3

2007-Q1

2007-Q3

2008-Q1

2008-Q3

2009-Q1

2009-Q3

2010-Q1

2010-Q3

2011-Q1

2011-Q3

2012-Q1

$0

$50

$100

$150

$200

$250

$300

0.0

10.0

20.0

30.0

40.0

50.0

60.0

70.0

80.0

90.0

National Median Housing price HOI

What does this trend tell us?• Steady decrease in existing house

inventory • Government support to prevent

foreclosure• Recovering consumer appetite for real

estate purchase

July-1

1

Augus

t-11

Sept

embe

r-11

Octob

er-1

1

Nov

embe

r-11

Decem

ber-11

Janu

ary-

12

Febr

uary

-12

Mar

ch-1

2

April-

12

May

-12

June

-12

July-1

20

500,000

1,000,000

1,500,000

2,000,000

2,500,000

3,000,000

3,500,000

4,000,000

4,500,000

5,000,000

f(x) = − 1933.63167385967 x + 81682045.7005374R² = 0.649292534628651

f(x) = 892.905096943982 x − 32095134.8085289R² = 0.40753258897442

Inventory Linear (Inventory)

Existing Home Sales Linear (Existing Home Sales)

Projected demand surplus, leading to opportunity for new

home buildingForeclosure rate down 2.99% in June v.PY

30-yr Mortgage rate and New Home Sales

Jun-

11

Jul-1

1

Aug-1

1

Sep-

11

Oct-1

1

Nov-1

1

Dec-1

1

Jan-

12

Feb-

12

Mar

-12

Apr-1

2

May

-12

Jun-

12

0

50

100

150

200

250

300

350

400

450

0.00

0.50

1.00

1.50

2.00

2.50

3.00

3.50

4.00

4.50

5.00

f(x) = − 0.00199848196308534 x + 85.7410224933074R² = 0.848049128570088

East MidwestSouth West30yr Mtg. Linear (30yr Mtg.)

In 0

00’s

%

Mortgage rate movement and New home sales With low home price, what matters

to potential purchaser is the interest payment

• Current 30-yr mortgage rate down to approx. 3.5% v. 8.3% pre – 2008 crash

• Significant decrease in total interest payment for property purchases

• Signs of increasing demand in second home purchase by retired population

• Projected increase in prime mortgage, which could support the recovery of the real estate market as a whole

Golden opportunity to purchase a superior property in minimum sunk-cost

and interest payment

Future Outlook

Industry to experience organic recovery/growth• Strong projected growth in total industry revenue

and company orders • Profitability to recover with less loss from

depreciated property/options valueRisks to Consider

Sizable negative market news• As the market begins its process to

recovery, a sizable negative news on the market could scare out potential demand.

Loss of federal support or/and continuous over-regulation in lending standard

• Loss of federal lending support or overly strict lending policy could take away the golden opportunity for financing real estate purchase.

General Outlook

Jun-06 Jun-07 Jun-08 Jun-09 Jun-10 Jun-11 Jun-12

0

100,000

200,000

300,000

400,000

500,000

600,000

-40.0%

-30.0%

-20.0%

-10.0%

0.0%

10.0%

20.0%

30.0%

40.0%

f(x) = 0.0813392857142857 x − 0.455R² = 0.686571286715371

f(x) = − 0.006375 x + 0.211214285714286R² = 0.105497152506456

Total Industry Revenue

Median Orders (Selected)

Linear (Median Orders (Selected))

Gross Margin % (Selected)

Linear (Gross Margin % (Selected))

$MMTime-series analysis on total

revenue, orders, and profitability

Recommendation

Reiterate a Neutral/Overweight rating:

• Promising signs of modest market recovery seen in various key statistics and indicators

• Possibility of significantly outperforming the total real estate market as shortage in supply may become more imminent

• Contains subliminal risk of high demand elasticity as market confidence is still under repair Good potential for outstanding performance, yet with recognizable risk of disappointing outcome

Appendix

Company ComparableScale 1,000,000

Currency USD

Key Financials & Effectiveness                

Name TickerSalesTTM

SalesYear/Year

Net MarginTTM

Net MarginFY1

EPSTTM

EPSYear/Year

ROICTTM

PULTEGROUP, INC. PHM 4,354.72 1.10 (1.95%) 3.98% (0.22) 0.07 (3.93%)

KB HOME KBH 1,404.60 0.99 (4.68%) (5.25%) (0.85) 0.39 2.05%

LENNAR CORPORATION LEN 3,427.86 1.14 14.89% 16.12% 2.42 4.40 2.59%

D.R. HORTON, INC. DHI 4,116.10 1.18 21.67% 22.26% 2.58 32.25 2.31%

THE RYLAND GROUP, INC. RYL 1,000.22 1.19 (1.93%) 2.30% (0.43) 0.24 (2.77%)

TOLL BROTHERS, INC. TOL 1,677.74 1.16 5.41% 5.92% 0.54 1.19 5.52%

Median 1,404.60 1.12 (1.93%) 3.37% (0.36) 0.43 1.98%

High 7,552.00 1.35 21.67% 22.26% 2.58 32.25 5.52%

Low 921.66 0.99 (13.38%) (5.25%) (1.67) (0.57) (3.93%)

EV Multiples & Credit Ratios       Market Data & Price Multiples        

Name TickerEV/Sales

TTMNet Debt/

EV Name Ticker Price52 Week

HighPrice/

Book ValuePrice/

BV Tangible

PULTEGROUP, INC. PHM 1.51 0.23 PULTEGROUP, INC. PHM 13.28 13.91 1.76 2.80

KB HOME KBH 1.45 0.59 KB HOME KBH 10.72 13.12 1.51 2.24

LENNAR CORPORATION LEN 2.79 0.32 LENNAR CORPORATION LEN 32.27 32.85 1.63 1.94

D.R. HORTON, INC. DHI 1.69 0.11 D.R. HORTON, INC. DHI 18.62 19.35 1.68 1.71

THE RYLAND GROUP, INC. RYL 1.56 0.23 THE RYLAND GROUP, INC. RYL 26.01 27.15 2.51 -

TOLL BROTHERS, INC. TOL 4.05 0.20 TOLL BROTHERS, INC. TOL 32.41 33.68 1.81 2.07

Median 1.69 0.23 Median 22.32 23.25 1.72 2.07

High 4.05 0.71 High 32.41 33.68 2.51 2.80

Low 1.01 0.11 Low 10.72 13.12 1.51 1.71