Toll Brothers (NYSE: TOL) is one of the largest home-building companies in the United States. In 2023, the company's revenue was nearly $10 billion, putting it in fourth place behind giants like Lennar Corp (NYSE: LEN) and  D.R. Horton (NYSE: DHI).

Shares have performed well in 2024, providing a total return of 38%, significantly outpacing the market and its industry. The iShares U.S. Home Construction ETF (BATS: ITB) has returned just under 17%. The consumer discretionary stock reported fiscal Q3 2024 financial results on Aug. 21.

Let’s examine Toll Brothers' annual report to understand its operations. We'll then review the firm’s earnings results and try to reconcile them with recent economic data. I’ll close by providing some outlook on the firm.

Toll Brothers: Luxury is the Name of the Game

Toll Brothers is in the business of building, selling, marketing, and arranging financing for luxury home communities. Most of the company’s business focuses on single-family homes, but it also has a significant multi-family business. The company’s homes are expensive. In the last quarter, the average price of homes it delivered was $968,000.

The company delivered over 46,000 homes in the five years ended October 2023 in over 900 separate communities. These communities are “master-planned” and may include features like parks, trails, pools, or community areas.

Toll Brothers Surpasses EPS Forecasts, Shares Climb in Response

Toll Brothers beat estimates on adjusted earnings per share (EPS) and revenue, and the market rewarded it. Adjusted EPS was a particularly good beat, coming in at $3.60 versus consensus estimates of $3.31. This was a surprise of 10% and a decrease of around 3.5% from a year ago.

Revenue came in $20 million above expected at $2.73 billion, an increase of 1.5% from a year ago. Additionally, the company raised its full-year adjusted EPS guidance to a mid-point of $14.63 from the $14.00 previously expected. On the day of the release, shares jumped over 5%.

Housing Data Challenges Toll Brothers' Outlook

The decrease in earnings is not surprising given that several economic indicators important to Toll Brothers have shown unfavorable readings as of late. For example, construction spending growth was negative for the first time since October 2022. Spending fell 0.4% and 0.3% month over month in May and June, respectively. These numbers are even worse when looking specifically at residential spending.

Building permits fell by over 10% from February to May of this year. In July, they hit the lowest level since June 2020. Housing starts have also dropped considerably since February. These measures are indicators of demand for housing; however, they are somewhat forward-looking and may not have fully affected Toll Brothers' revenues. They could put pressure on revenues going forward.

Lower Rates and Customer Strength May Benefit Toll Brothers

However, other factors will likely help Toll Brothers, namely mortgage rates. The U.S. 30-Year Fixed Rate Mortgage Average has been down nearly 75 basis points since May and could continue to drop. The expected Federal Reserve rate cuts could benefit homebuilders like Toll Brothers, and these cuts may lower mortgage rates even further.

According to the CME FedWatch Tool, there is a 35% chance of a 50-basis point rate cut and a 65% chance of just a 25-basis point rate cut as of Aug. 21. The 50-basis point cut percentage jumped from 29% in just one day, likely on news of one of the largest revisions in job growth numbers on Aug. 21.

The Labor Department found that from March 2023 to March 2024, the economy added 818,000 fewer jobs than it previously calculated. This makes it more likely that the Fed will cut rates, as the economy is weaker than previously thought. It may need monetary policy stimulus faster than expected to secure a “soft landing.".

Another factor that could help Toll, compared to other homebuilding companies, is its customers' feelings about the economy's future. Look at the “Expectations” component of the University of Michigan Consumer Sentiment Index, broken down by income group.

It shows that people in the top third of incomes in the U.S. only feel 2% worse about the economy's future than they have on average over the past 10 years. In contrast, Americans in the bottom and middle thirds feel 10% worse about the economy's future than they have on average. This is favorable for the future demand for Toll Brothers' luxury homes compared to builders focusing on lower- and middle-income groups.