KB Home quarterly earnings rise 78 percent

[HenryTo]

Stock up over 6.5% to $77 a share in AH trading. Simply amazing stuff.
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KB Home quarterly earnings rise 78 percent
Thu Jun 16, 2005 06:29 PM ET

NEW YORK, June 16 (Reuters) - KB Home (KBH.N: Quote, Profile, Research) , which builds moderately priced homes, on Thursday said quarterly profit rose 78 percent, boosted by higher sales and home prices and it increased its earnings forecast for the year.

For the fiscal second quarter ended May 31, KB Home said net income rose to $181.5 million, or $2.06 per share, from $102.1 million, or $1.20 a share, a year earlier.

Analysts on average had expected Los Angeles-based KB Home to post earnings of $1.78 per share excluding charges and $1.73 including items, according to Reuters Estimates.

In after-hours trading on the Inet brokerage system, KB Home's stock rose more than 6 percent to $77.10 from its close at $72.25 on the New York Stock Exchange.

KB Home also raised its full-year earnings estimate to $9.00 a share, up from a previously raised forecast of $7.88 per share.

Analysts' estimates have averaged $7.99 per share for the full year, according to Reuters Estimates.

Revenue in the most recent quarter rose 36 percent, to $2.13 billion, from $1.57 billion a year earlier. Housing revenue shot up 37 percent to $2.11 billion, reflecting the sale of 8,535 homes that rose 20 percent from a year earlier.

The higher number of houses sold and an increase in the average selling price accounted for the higher revenue growth. The average selling price during the quarter was $247,800, up from $216,800.

KB Home builds homes for first- and second-time buyers in the United States and France.

The U.S. home building industry has been on a roll for more than two years, driven by low interest rates and demand.

On Thursday, the Dow Jones U.S. Home Construction index , a wide barometer of home building stock activity, reached a record high of 984.87. The index closed at 983.64, up 1.52 percent.

Since the beginning of the year, KB shares are up more than 38.4 percent, while the Dow Jones U.S. Home Construction index has risen 22.3 percent.

KB ended the quarter with a backlog of 27,089 homes under contract and awaiting construction, up from 20,636 a year earlier. The value of the backlog grew 52 percent, to $6.79 billion.

New orders, which are not part of revenue, rose 15 percent during the quarter, to 12,290 reaching the highest level for any quarter in the company's history.

[nodoodahs]

For four fiscal years ending in 11/2004, they "earned" 1,380 in net income while generating only 753 in cash flow from operations. Generally speaking this is a pink flag in any particular year, and a red flag in multiple years or accumulated over several years. In their case, it's two out of the last four. For the last five fiscal years, the numbers are 1,590 in NI to 818 in OCF, with three reversals in five years.

For the most recent trailing twelve months, their cash from operations was negative -337 while they booked 529 in net income.

If a company generates more income than cash from operations, they do that through booking "accruals" either in the current or previous years, or from gaining cash through investing or financing activities that they then book as income. Sometimes it's done through "channel stuffing" i.e. selling now and booking revenues now but receiving payment much later (think "no payments and no interest until 2006!" for an example).

Quick check for earnings "quality": the ratio of OCF + Interest Paid + Income Tax Paid to Net Income + Interest Paid + Income Tax Paid should be greater than 1.00. This number is negative for KBH on a TTM basis, is 0.20 for fiscal 2004.

So ... how'd they do it?

Here's their inventory (balance sheet) as a ratio of revenues for the last five years.
42.8% 41.9% 44.0% 49.9% 59.1%
The number for the most recent TTM is 64.1%. The buildup in inventory shows on the cash flow statement, but when it's expressed as a percent of revenues it's corrected for any sales growth. Buildups of inventory compress the OCF and depress earnings quality; often it's a sign that revenues will decrease soon.

In the TTM period they generated net cash from financing of 496, primarily because they issued 826 in debt and issued 85 in capital stock. Their long term debt has more than doubled in two years and their common stock outstanding has gone from 100 mil to 128 mil in about five years. Some of this financing cash is showing up as income.

Their longterm debt to equity had been on a descent, but it has spiked dramatically in the last 1 1/2 years as a result of the reliance on outside financing.

Share dilution is increasing. In 2000, Diluted EPS= Basic EPS. For 2004, Diluted EPS = 92.8% of Basic EPS. If I were a buyer, I would want to look at the filings and find out why.

Earnings quality is vitally important, it's a harbringer of doom that is often seen long before the first earnings shortfall. Examples include Krispy Kreme, GM, XLNX, etc. Actually that's how I found XLNX as a short candidate, I was screening and noticed OCF < NI and dug a little deeper.

Perhaps KBH is a good short candidate in the future ...
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I haven’t seen a beatin’ like that since somebody stuck a banana in my pants and turned a monkey loose.

[HenryTo]

Bill,

I may be jumping the gun here but I saw a lot of reversals in most of the homebuilders during late morning and towards the end of the day.

Most noticeable was BHS which actually is down and closed at the low for the day.

Henry

[nodoodahs]

At first glance, they have some seriously poor quality earnings - but since the market never looks at earnings quality until there's a "surprise" expect this one to stay irrational for a while.

I'll dig a little deeper on them later tonight. From a quick peek, it looks like the operations are bleeding money and only debt issuance is keeping them able to state "earnings."
_________________
I haven’t seen a beatin’ like that since somebody stuck a banana in my pants and turned a monkey loose.