Capstone project

MICROECONOMICSDan Shanahan

CAPSTONE PROJECT

THE FORECASTING FRAMEWORK

GDP = C + I + G + (X – M)

• ECRI Leading Index

• Stock Market

• Yield Curve Spread

• Consumer Confidence

• Retail Sales

• Home Sales

• ISM Manufacturing Index

• Budge Deficit

• Trade Report

•Global Economy

• U.S. ECRI Leading Index

• U.S. Stock Market

• Yield Curve Spread

GDP INDICATORS

• The ECRI Weekly leading index has fallen consistently for the past 6 months.

• Signs of a turning point are evident from decreases in the unemployment rate, oil prices and inflation.

• Worry of exports decreasing as a result of the strong dollar should be offset by domestic economic strength.

6 Month Annualized Growth Rate

ECRI LEADING INDEX

Source: www.economy.com/dismal

• The S&P 500 has grown roughly 5% (trend line) in the past six months.

• Low inflation numbers, decreasing unemployment figures, and a low rate environment have fueled business investment and confidence.

• The S&P is expected to continue its steady increase as the economy inches back to full employment.

US STOCK MARKET – S&P 500 INDEX 6 Month Period

Source: www.Bloomberg.com

• The yield curve is currently steep signifying an economic expansion.

• Inflation signs are currently low; however, the Fed plans to raise interest rates in the second half of 2015.

• When short-term interest rates (Fed Funds rate) rise, this may flatten out the yield curve temporarily and hinder the economic expansion and fight inflation in the near future.

YIELD CURVE

As of 2/18. Source: www.treasury.gov

• GPD for 2014Q4 grew by 2.6%.

• Consumer spending contributed 2.9 percentage points.

• Investment contributed 1.2 percentage points (inventory and fixed)

• Government spending reduced growth by .5 percentage points while net exports reduced growth by 1%.

• As a whole, GDP was 2.4% higher than 2013 (fastest growth since 2010).

GDP Report

Right-hand side of Framework

GDP = C + I + G + (X – M)


• Retail Sales

• Home Sales

• ISM Manufacturing Index

• Budge Deficit

• Trade Report

•Global Economy

CONSUMPTION (The 800 LB GORILLA)


• Retail Sales

• Home Sales

• Consumer confidence continued its upward trend in the month of Jan exceeding expectations and climbing 9.8 points to 102.9 and reaching its highest level since mid-2007.

• Net job increases and the low price of oil are fueling this hike in consumer confidence.

• Consumers and businesses alike are expecting improvements in the economic landscape in the coming months.

CONSUMER CONFIDENCE


• Retail sales declined 0.8% in January, largely due to a plunge in gasoline prices.

• Sales were 3.3% above their year-ago level, and 6.6% excluding gasoline stations.

• The outlook remains positive, and eventually the reduction in gas prices will equate to increased consumer spending instead of savings as has been the case recently.

RETAIL SALES


• New home sales in December grew 11.6%, exceeding expectations.

• Year-over-year they have increased by 8.8%.

• The level of residential construction is rising at a healthy pace, but still far below its pre-housing boom average, which indicates there is still room for additional increases.

• The recovery in job growth and household income is likely to persist for another 2-3 years if the housing market is to return to normalcy.

NEW HOME SALES


ISM Manufacturing Index

• ISM index for January came in lower than expected at 53.5, which marks the lowest reading since Jan 2014.

• The decrease is attributed to a weak global economy, a decrease in oil prices and a stronger dollar, which is having an adverse affect on manufacturers.

• Manufacturing seems to be losing its momentum.

INVESTMENT


• The federal government is near the same position it was a year ago.

• The federal government ran a budget deficit of $17.5 billion in Jan, which is $7.2 billion greater than last year.

• Notably, outlays for Social Security and Medicare increased by $9.3 billion or 4.7% compared to year-ago levels.

• Net interest on the debt payments dropped by 8.8% or $1.6 billion.

Treasury Budget

GOVERNMENT SPENDING


• The US trade deficit widened to $46.6 billion in Dec 2014, due to a steep increase in the petroleum deficit and a strong dollar.

• This monthly deficit is the largest its been in more than two years, and well above consensus forecasts.

• In the near term, the strong US dollar should hold down the value of nominal imports.

Trade Report

NET EXPORTS


• The US Economy is poised to continue its upward trend.

• Consumption and Investment strength are currently outweighing the drag on GDP from government spending and net exports. With lower unemployment levels, a low interest rate environment and housing on the mend, it is expected that the US economy will continue its bullish stance.

• The strong dollar, low oil prices and the anticipated short-term rate hike by the Fed in the second half of the year must be closely monitored moving forward, as they may have an impact on the economic growth forecast.

• All in all the US economy remains a bullish bet.

US Economic Forecast Summary

• Founded in 1954

• Homebuilder covering 17 states in the US specializing in first homes, move-ups and multigenerational homes.

• Publically traded company as of 1972

• Comprised of 16 subsidiaries specializing in development, financing, title and closing services, and asset management.

• Homebuilding and Financial services are main revenue drivers.

Lennar Homes Background

Source: www.lennar.com

• Revenues—$5.9 billion, up 45% year-over-year. EBIT—$681.94 million, up 207% year-over-year.

• Net earnings—$479.7 million, down 29% year-over-year. Decrease due to $177 million tax provision in 2013, compared to a $435.2 million tax benefit in 2012.

• Earnings equate to $2.15 per diluted share.

• Gross margins were 24.9% versus 22.7% in 2012 due to less sales incentives offered to buyers, and an increase in the average sales price of homes.

• $3.286 billion market cap

• Company liquidity covers last twelve months of consolidated interest expenses by 2.75 times. Leverage ratio stand at 48%

Lennar 2013 Financials

Source: 2013 Annual Report

• Rivalry competition – High

• Buyer power – Moderate

• Supplier power – Low/Moderate

• Threat of substitutes – Low

• Threat of new entrants – Low/Moderate

Porter’s 5 forces Analysis

Competitors

Source: http://www.probuilder.com/professional-builder-2014-housing-giants

Strengths• Brand name: Top three

builder in US• Innovative and

technological savviness. • Information system

knowledge through division coverage

Weaknesses• High expense ratio• Low customer service

ratings

Opportunities• Building out land acquired

during recession• Financing department:

Increase product line for buyers

• Acquisitions: Finance company purchases with stock options

Threats• Tighter lending guidelines• Higher interest rate

environments• Recession (economic

slowdown)• Higher material costs

(inflation)

SWOT analysis

Well-Time Strategies

• Based on the S&P Homebuilders ETF (XHB), the homebuilder market has been slowly trending upwards for the past 6 months, and decreasing the supply deficits experienced during the great recession.

• Homebuilders are relying on the continued economic rebound, i.e. job creation, wage growth and a low rate environment to fuel supply even further and get back to pre-recession levels. The market estimates this will take an additional 2-3 years to accomplish.

Homebuilder cycle trend

Source: yahoo.finance/echarts

• After head-and-shoulders technical formation in June 2005, stock lost 90%+ of its value.

• From Feb 2009 (bottom of recession) to current date, stock has regained 75% of its pre-recession stock value.

• Given rebound in stock value, Lennar should survey market for potential acquisitions that they can complete using stock option financing.

Acquisitions

Source: finance.yahoo/echarts

• In a lower interest rate environment, Lennar would be wise to extend their debt maturities and retire a majority of their short-term debt. This would safeguard the company against future rate increases as a result of potential inflation.

• Lennar has taken steps in the right direction in this regard. In 2013, Lennar retired $351.1 million of convertible notes into Class A common stock. In addition, they issued $255 million of 4.750% senior notes due 2022.

Extend debt maturities

• The economic rebound has been fruitful for the homebuilding market. Lennar is poised to capitalize on this upward trending market.

• Lennar is positioned to take advantage of acquisitions using stock options as the majority method of financing. They should target local developers who have a strong-hold on strong local communities that are hard to access.

• Lennar has already begun locking in long-term debt and retiring short-term debt. They should continue with these efforts.

• Given Lennar has a finance department, they should market new finance products to incentivize homeowners to purchase their homes instead of competitors. Incentives can be exercised with caution to gain market share away from other builders, while staying with in regulatory lending guidelines.

Lennar Summary

Documents

Capstone project