Meritage Homes Corporation — Q2 2018 Form 10-Q
Period: Three and six months ended June 30, 2018; financial statements are unaudited. Meritage builds single-family homes across nine states in the West, Central and East regions and also operates a title company. It reported 253 actively selling communities at quarter-end.
Financial performance
| Metric | Q2 2018 | Q2 2017 | Six months 2018 | Six months 2017 |
|---|---|---|---|---|
| Home closing revenue | $872.4M | $797.8M | $1,600.9M | $1,458.4M |
| Homes closed | 2,139 | 1,906 | 3,864 | 3,487 |
| Home closing gross margin | 18.3% | 17.7% | 17.7% | 17.0% |
| Net earnings | $53.8M | $41.6M | $97.7M | $65.2M |
| Diluted EPS | $1.31 | $0.98 | $2.37 | $1.54 |
Q2 home closing revenue grew 9.4%, primarily from 12.2% more closings; average selling price declined 2.6% to $407,800 as the mix shifted toward entry-level homes. Q2 home closing gross profit increased $18.6M. For the first half, home closing revenue rose 9.8% and gross profit increased $35.7M. Effective tax rates fell to 24.4% for Q2 and 18.6% for the first half, from 34.2% and 34.8%, respectively, reflecting tax reform and, year to date, retroactive energy-efficient home tax credits.
Cash, debt and liquidity
- Cash and cash equivalents were $169.4M at June 30, 2018, versus $170.7M at year-end 2017. Total assets were $3.395B and stockholders’ equity was $1.683B.
- Six-month operating cash flow was negative $10.5M, compared with negative $130.7M in 2017; increased real estate investment remained a major cash use. Investing cash flow was negative $16.1M and financing cash flow was positive $25.2M.
- Debt, including senior notes and other borrowings, totaled $1.311B. Debt-to-capital was 43.8% and net debt-to-capital was 40.4%. No Credit Facility borrowings were outstanding; $702M was available after letters of credit.
- In March, the company issued $200M of additional 6.00% senior notes due 2025, using net proceeds to repay Credit Facility borrowings, including borrowings used to redeem $175M of 4.50% notes due in March 2018. In June, it expanded its unsecured revolving facility to $780M and extended maturity to July 2022.
Operating changes and outlook
- Q2 net orders increased 4.5% to 2,250 homes; first-half orders increased 7.5% to 4,608. Backlog at quarter-end was 3,619 homes valued at $1.529B, up 5.6% in units and 5.5% in value year over year.
- East was the strongest growth region: Q2 home closing revenue increased 30.0%, with margin improving to 16.5% from 14.4%. West revenue declined 5.4%; Central revenue increased 14.9%.
- Management described housing demand as healthy, citing a solid economy, low unemployment, wage growth and limited entry-level housing supply. First-time buyers represented nearly half of Q2 orders; 34.0% of selling communities targeted that segment, versus 24.5% a year earlier.
- Management emphasized expanding entry-level communities, improving margins and cost control, and growing lot supply. It anticipated opening more than 20 Central-region communities during the rest of 2018 and 20 new West-region communities over the next several quarters, about half aimed at first-time buyers. No formal full-year earnings or revenue guidance is provided in the filing.
Risks, contingencies and unusual items
- Management identified higher mortgage rates, labor and material cost inflation, land availability and pricing, cancellations, slower sales absorption, real-estate impairment, severe weather and construction-defect claims among key risks. The filing specifically warns that tariffs on imported building supplies, including lumber, could raise construction costs and pressure margins.
- Warranty reserves were $23.7M and include case-specific matters involving Florida stucco claims, a solar component and a Texas foundation-design issue. The insurer initially denied the Texas matter’s claim; Meritage disputes the denial and believes reserves, including potential contractor and insurer recoveries, are adequate.
- The company reported a $4.8M favorable settlement from long-standing litigation involving a former Nevada joint venture, included in first-half other income. First-half land closings generated a $1.9M loss, versus a $2.5M gain in the comparable 2017 period.
- Surety bonds outstanding were $345.3M, with estimated remaining work of $161.0M; letters of credit totaled $78.0M. The company said significant draws were unlikely. It reported compliance with Credit Facility covenants and effective disclosure controls.
- On July 25, 2018, the board authorized a new share repurchase program of up to $100M, replacing the prior program. The company said it did not intend to pay cash dividends in the foreseeable future.
Key facts for investors to verify
- Whether order and backlog growth converts into closings while the average selling price is affected by the shift to entry-level homes.
- Whether gross-margin gains persist as labor, materials, tariffs and land costs change, particularly across regions.
- Cash needs for land purchases and development, and the sustainability of operating cash flow as community growth continues.
- Developments in the Texas foundation, Florida stucco and other warranty matters, including insurance and contractor recoveries.
- Use of the new $100M repurchase authorization, alongside debt levels and available credit capacity.