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KB Home (KBH) on a Bull Run: Here's Why It Can Scale Higher

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Shares of one of the largest homebuilders in the U.S., KB Home (KBH - Free Report) have rallied nearly 40% so far this year, beating the Zacks categorized Building-Residential/Commercial industry’s gain of 25.7%. That said, we have noticed that the company has outperformed the industry in each of the 4-week, 12-week and 52-week time frames, giving the stock a Momentum Score of ‘B’.

The company’s consistent bottom-line outperformance on the back of a healthy housing industry and strong demand trends has lent the stock some momentum.



Also, earnings estimates have risen over the past few weeks, suggesting that sentiments on KB Home are moving in the right direction.

Over the last 90 days, the Zacks Consensus Estimate for current year earnings rose 4.9% to $1.61. Also, earnings estimates for the next year have inched up 7.8% in the same time frame.

This positive trend signifies bullish analyst sentiments, and the company’s Zacks Rank #2 (Buy) indicates robust fundamentals and expectations of outperformance in the near term. You can see the complete list of today’s Zacks #1 Rank (Strong Buy) stocks here.

Notably, the company has a Value Style Score of ‘A’, putting it in the top 20% of all stocks we cover from this perspective. We find the price-to-book ratio as the best multiple for valuing homebuilders because of their asset-driven nature. KB Home currently has a trailing 12 month P/B ratio of 1.09, which is fairly below the highs scaled by this stock over the past five years. This indicates that the stock is undervalued compared to its historical levels.

Also, this level compares favorably with that witnessed by the Building-Residential/Commercial industry over the last one year, as the current P/B for the industry is 1.68. Hence, its lower-than-market position hints at more upside in the quarters ahead.

Meanwhile, KB Home seeks to boost scale in existing geographic footprint, improve profitability per unit, generate higher operating margin and drive earnings while generating positive cash flow to redeploy for growth and debt reduction.

KB Home’s focus on four strategic initiatives to drive its profit and revenues bode well for fiscal 2017 and beyond. These initiatives include boosting community count, achieving higher revenue per community and increased profitability per unit, and increasing asset efficiency and return on capital invested. Moreover, the company focuses on profit per unit by improving cost efficiencies without compromising on the quality of products.

The company invests aggressively in land acquisition and development, mainly in high-end locations, which is critical for community count as well as top-line growth. The company has consistently increased its land and development investments over the year. KB Home invested $1.4 billion in land and development in fiscal 2016 and has acquired land required for fiscal 2017, which is expected to generate a steady source of revenues.

However, at present, skilled labor shortages are a cause of concern for homebuilding companies like D.R. Horton Inc. (DHI - Free Report) , Toll Brothers Inc. (TOL - Free Report) and PulteGroup Inc. (PHM - Free Report) . Labor shortages are resulting in higher wages while land prices are on the rise due to limited availability. There could be more inflation ahead as well. This is eating into homebuilders’ margins. Also, lack of geographic diversity exposes KB Home to fluctuations in a few markets and does not allow it to capitalize on the strong housing demand in other regions.

Nonetheless, we are optimistic about the company’s prospects given its aggressive land acquisition strategy, encouraging growth initiatives coupled with positive analyst sentiment and estimate revisions. Also, a solid industry rank (top 21% out of 265 industries) signals that the stock is likely to benefit from favorable broader factors in the immediate future.

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