Over the last six months, Lennar’s shares have sunk to $119.99, producing a disappointing 8.3% loss - a stark contrast to the S&P 500’s 7.3% gain. This was partly due to its softer quarterly results and may have investors wondering how to approach the situation.
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Why Do We Think Lennar Will Underperform?
Even with the cheaper entry price, we're cautious about Lennar. Here are three reasons you should be careful with LEN and a stock we'd rather own.
1. Backlog Declines as Orders Drop
We can better understand Home Builders companies by analyzing their backlog. This metric shows the value of outstanding orders that have not yet been executed or delivered, giving visibility into Lennar’s future revenue streams.
Lennar’s backlog came in at $5.24 billion in the latest quarter, and it averaged 16.5% year-on-year declines over the last two years. This performance was underwhelming and shows the company is not winning new orders. It also suggests there may be increasing competition or market saturation. 
2. Free Cash Flow Margin Dropping
If you’ve followed StockStory for a while, you know we emphasize free cash flow. Why, you ask? We believe that in the end, cash is king, and you can’t use accounting profits to pay the bills.
As you can see below, Lennar’s margin dropped by 9 percentage points over the last five years. Continued declines could signal it is in the middle of an investment cycle. Lennar’s free cash flow margin for the trailing 12 months was breakeven.
3. New Investments Fail to Bear Fruit as ROIC Declines
We like to invest in businesses with high returns, but the trend in a company’s ROIC can also be an early indicator of future business quality.
We like to invest in businesses with high returns, but the trend in a company’s ROIC is what often surprises the market and moves the stock price. Unfortunately, Lennar’s ROIC has decreased over the last few years. We like what management has done in the past, but its declining returns are perhaps a symptom of fewer profitable growth opportunities.
Final Judgment
We see the value of companies helping their customers, but in the case of Lennar, we’re out. Following the recent decline, the stock trades at 17.9× forward P/E (or $119.99 per share). While this valuation is reasonable, we don’t see a big opportunity at the moment. There are better stocks to buy right now. We’d suggest looking at one of our top digital advertising picks.
Stocks We Like More Than Lennar
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