Homebuilders Pulte and Centex Get Desperate

On April 8th, Pulte Homes (PHM) made a bold move in acquiring Centex Corporation (CTX) in a stock-for-stock deal valued at $3.1 billion, including $1.8 billion in debt, making the combined company the largest U.S. homebuilder by market cap.

Could more consolidation be waiting in the wings for homebuilders, all of which are struggling to regain their footing amidst the slippery slope that is the housing market?

The deal actually does make sense for both sides. The combined companies expect to retire over $41 billion in debt immediately, realize $350 million a year in savings, and move past competitor D.R. Horton (DHI) as the largest U.S. homebuilder.

The purchase price represents a 38% premium to Centex's closing price on Tuesday. As part of the transaction, Centex stakeholders will get 0.975 shares of Pulte stock. After the merger is complete, Pulte shareholders will own roughly 68% of the new company while Centex shareholders will hold a 32% stake.

Wall Street appears to like the deal. Morningstar analyst Eric Landry noted that Pulte is paying "a really good price" for Centex. Centex's prevalence in the first-time homebuyer market should compliment Pulte's strength (retirement housing construction). Pulte will also gain greater exposure to Centex's strong presence in Texas and Carolina.

While the move will raise the new company's liquidity position ($3.4 billion at the end of March), there are significant causes for concern. The homebuilder segment has been crushed by Wall Street over the past 2 years, reflecting a housing meltdown playing out on Main Street. If home prices are still retrenching, Pulte will be effectively doubling their land exposure.

Home values fell 19% year-over-year in January and have plummeted 29% from the high water mark set in mid-2006.

On February 5, Pulte beat the Street in reporting revenues of $1.78 billion for the fourth quarter, down 43% from the year-ago period. Profits, however, fell short of expectations with Pulte realizing a $338 million loss, or $1.33/share. As of year-end 2008, dollar-volume backlog was 75% lower than the year-end 2007.

Pulte shares dropped 9% in the wake of the deal while Centex rose 20%.