Cavco
Who are they
Cavco Industries makes manufactured homes. They have numerous brands and levels of products. They make classic mobile homes, as well as modular construction and custom floor plans. They also have a mortgage origination arm and an insurance broker.
Business overview
Cavco touts their homes as affordable alternatives to site built homes. They tout the average manufactured home price as $108,000 compared to $365,000 for a site built home. I have found several other figures, but this generally lines up with most analysis. This makes manufactured or modular homes an alternative to expensive entry level homes.
Cavco claims their target customers are first time homebuyers and senior citizens looking to downsize. Basically, people who want smaller, cheaper houses.
They can also make money by originating mortgages and selling insurance too. This makes them a one stop shop for homebuyers.
Cavco has a pristine balance sheet. They have virtually no debt, and enough cash to cover it if they wanted to. They use the cash to buy back shares and make acquisitions. The lack of debt gives them an advantage in downtimes over traditional home builders as they don't have interest payments to make. When times are good, the lack of debt gives them higher cash flows to grow the business.
Management
The CEO has been in his role since 2019 and with the company since 2008. He owns $7 million of stock. The company buys back stock and is shareholder friendly. They also have a history of good performance, steadily increasing ROIC and making strategic acquisitions to grow the company. Insiders own about 6% of the company.
The previous CEO resigned in 2019 after an alleged insider trader scandal, so there is a less than stellar history.
Bull cases
There is a shortage of affordable housing in the US. The US association of homebuilders claims there is no market in the US in which a new home can be built profitably at a price point average first time homeowners can afford. They are biased, but anecdotally, I agree. Cavco, and other manufactured home builders can offer a much more affordable product. This is a big tailwind.
The company claims that modular homes are generally manufactured less than 350 miles from its final location. This means that Cavco can expand by buying different regional operators. They have successfully done this in the past. They also have historically invested in improving their factories and workforce. I think good long term holds must reinvest into their business to remain competitive. Cavco does this.
Lastly, I think there will be a shortage of used homes going on the market. Many homeowners now have mortgages with rates below 3%. These people are rate locked into their homes and will be hesitant to sell. This will put increased demand into the new home marketplace, and the only way to do that affordably is through manufactured homes.
There is value in the sector. The largest modular home builder in the US is Clayton homes, which has been owned by Berkshire Hathaway since 2003. If Buffet thinks it is a solid sector, who am I to disagree?
Bear cases
Cavco’s earnings increased greatly during covid. They did make acquisitions during that time, so some of the earnings increase is likely to be permanent. However, earnings are expected to fall this year by about 20%. This is similar to a lot of other home construction stocks.
High interest rates could eat into their business. They do have an advantage in owning their own mortgage broker. This allows them to pay points to lower their customer’s interest rates. That would cut into margins, but allow them to continue selling in mortgage rates dent the housing market. They could also suffer if the housing market as a whole slows down. I think this is less of a problem since there is a housing shortage, and they are one of the lowest cost producers of housing.
They could run out of acquisition targets. Manufactured homes have 3 large players and numerous small ones. Cavco is one of the big three. This would slow their growth. Personally, I think this is not an imminent thing, but possibly a long term issue.
Valuation
According to Morningstar, CVCO has a 5 year average P/E of 21.17. It is currently trading around 13X forward earnings. Its closest comp, Skyline Champion (ticker SKY), is trading around 17x. This indicates the stock is potentially undervalued. Morningstar ranks it as 4 stars, and it is only a few dollars above a full 5 star rating (around $300). It might actually be below that by the time you read this.
The biggest question is how much will their earnings fall as the market normalizes. Before covid they made $8.25/share. If they go back to that figure, the stock would be trading at 37x earnings. That would be very overvalued. The company has made acquisitions and improved operations since then, so it is unlikely to fall that hard. The analyst average has earnings clocking in around $23.30/share next year (which ends in June). This would give the stock a 13x multiple as of now, cheap by historical standards. Because of the lack of analyst coverage, no estimates are available for further years.
I think there is a high likelihood of this stock being undervalued, or at the very worst, appropriately valued. Full disclosure, I took advantage of a drop in share price while writing this to purchase a few shares, so I am now an owner. I think the odds of earnings holding up is much higher than a pre-covid regression. I did a quick DCF and the market seems to be pricing about 7% growth, which is far below their historical growth rates. Which is also promising.
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