Housing Stocks: LGIH, TPH Why did they run up so much

LGIH – LGI Homes

LGIH - Narrative About: Engages in the design, construction, marketing, and sale of new homes. It also deals with the residential land development business. It builds in 77 communities in Texas, Arizona, Florida, Georgia, New Mexico, Colorado, North Carolina, South Carolina, Washington, Tennessee and Minnesota. It owns or has rights to build on a total of 37,063 lots. Market’s Narrative The turnaround in housing market for oil dependent states which accounts for half of their business Expansion outside of Texas: In Q1 of 2013, Texas represented 90% of the company's total closings. By Q3 of 2015, that dropped to 53%. For the full year 2016, Texas represented 51% of all closings. Reported record number of closings YTD driven by organic growth (bulk from Texas) and rising housing prices

Increasing number of closings; Expansion into new areas outside of Texas/Central

LGIH – Business Model for affordable homes LGIH buyer profile: Entry-level market. They have average credit score in the 650s with an annual household income of approximately $60,000 per year. 75% of our customers utilized FHA financing, 15% obtained a VA loan, 5% used USDA and another 5% used conventional financing. (When LGIH went public, 40% of their clients used USDA financing) According to LGIH, there is continued demand from customers to move from their rental situation to home ownership. Customers are looking for lower monthly payment. Value land acquisition for more affordable homes: Experienced in converting raw land into residential communities given LGIH’s history as a successful land developer. LGIH targets land away from city centers, but still close to major thoroughfares, retail districts and centers of business. Less competition when acquiring land and offers affordable prices in locations with access to retail and employment centers

Earnings highlights Net Income increased 73.0% to $33.7 million, or $1.55 Basic EPS and $1.40 Diluted EPS Home Sales Revenues increased 69.2% to $365.9 million Home Closings increased 64.4% to 1,729 homes Average Home Sales Price increased 2.9% to $211,623 Gross Margin as a Percentage of Homes Sales Revenues was 25.1% as compared to 26.3%. (the decline was due to higher construction costs) Ending backlog increased 70.9% to 1,328 units Active Selling Communities at September 30, 2017 increased to 77 from 59 Looking forward, LGIH noted it believes it can add 20-30 communities over the next two years

Peer comparison LGIH shows slightly better margins than competitors. LGIH highlights its land banking as the main driver of its cost leadership. Hurricane impact: The hurricane season did some damage in Texas but LGI estimates the damage to less than $100,000 and competitor Lennar (LEN) is bullish on 2018 in affected areas as it expects the rebuilding efforts to result in increased economic activity and increased demand for new homes, which bodes well for LGI.

LGIH 3Q Earnings beat Reported record closings of 542 homes in Sept and Quarterly closings of 1729 in 3Q17 2Q Earnings beat Reported record closings of 623 homes in June (vs. 355) and Quarterly closings of 1511 in 2Q17

Conclusion: Buy on duration This year’s run up was caused by a record revenues and volume growth, and P/E re-rating. PE ratios show that LGIH at 12x which is par with the stalwarts (LEN, DHI). It was probably was 5- 7x P/E prior to the run up. We like that LGIH’s revenue growth is expected to be 30-40%y/y compared to the bigger housing stocks that are growing 10%-20%y/y However, it is difficult to have accurate valuations for housing stocks without doing full macro, interest rates and housing price analysis per state. For the housing industry, we pick LGIH as the stock to buy on duration

TPH – Tri Pointe Group

TPH - Narrative As of 9M17, TPH owned or controlled approximately 28,000 lots of which 59% are located in California. California

Increasing number of closings; High exposure to California

Acceleration in 3Q closings

Earnings highlights Average sales price of homes delivered of $584,000 compared to $568,000, an increase of 3% Cancellation rate of 15% compared to 17%, a decrease of 200 basis points Expect to have 131 active selling communities by end of year 2017 from 127 in 9M17. Expecting gross margins at 21-22% for 4Q “Based on the midpoint of our 2017 delivery guidance the number of years of lots owned or controlled is 5.9. Our goal is to shorten the duration of our land pipeline to approximately five years by continue to focus on accelerating our long-dated California asset and investing in faster turning communities in our markets outside of California.”

TPH 3Q Earnings beat 2Q Earnings beat

Conclusion: Buy on duration Organic sales growth is driving the price appreciation for TPH in the 3Q. We recommend buying this stock on a duration