Meritage Homes Corp. 10-Q Summary
Business Context and Reporting Period
Company: Meritage Homes Corporation
Filing Type: Form 10-Q (Quarterly Report)
Period Ended: September 30, 2010
Business Overview: Meritage is a designer and builder of single-family detached and attached homes in the western and southern United States. Operations are aggregated into three reporting segments: West (California, Nevada), Central (Texas, Arizona, Colorado), and East (Florida). As of September 30, 2010, the company was actively selling homes in 150 communities.
Key Financial Metrics
| Metric (in thousands) | Three Months Ended Sep 30, 2010 | Nine Months Ended Sep 30, 2010 | Nine Months Ended Sep 30, 2009 |
|---|---|---|---|
| Total Closing Revenue | $233,803 | $727,012 | $684,493 |
| Net Income/(Loss) | $1,219 | $8,045 | $(109,742) |
| Diluted EPS | $0.04 | $0.25 | $(3.52) |
| Home Closing Gross Margin | 18.2% | 18.4% | 0.2% |
| Adjusted Gross Margin (excl. impairments) | 18.5% | 18.6% | 12.9% |
| Cash and Cash Equivalents | $145,324 | $145,324 | $346,951 |
| Total Debt (Senior Notes) | $605,623 | $605,623 | $605,009 |
| Net Debt-to-Capital | 27.1% | 27.1% | 30.6% |
| Operating Cash Flow (9 months) | N/A | $38,163 | $157,434 |
Material Changes vs. Prior Period
- Profitability Turnaround: The company returned to profitability, reporting net income of $1.2 million for the quarter and $8.0 million for the nine-month period, compared to net losses of $17.8 million and $109.7 million in the same periods of 2009.
- Revenue Growth: Total closing revenue increased 0.9% quarter-over-quarter and 6.2% year-over-year (nine months), driven primarily by a 20.7% increase in average sales price, which offset a 16.5% decrease in closing units.
- Reduced Impairments: Real estate impairments dropped significantly to $0.8 million for the quarter and $1.6 million for the nine months ended September 30, 2010, compared to $13.2 million and $90.3 million in the prior year periods.
- Backlog Decline: Order backlog decreased 40.1% year-over-year to $242.4 million (902 homes), attributed to the expiration of the federal homebuyer tax credit and a reduction in active communities.
- Debt Restructuring: In the second quarter of 2010, the company issued $200 million of 7.15% senior notes due 2020 and repurchased $130 million of 7.0% notes due 2014 and $65 million of 6.25% notes due 2015, resulting in a $3.5 million loss on extinguishment of debt.
Outlook, Risks, and Management Commentary
- Market Conditions: Management notes that the homebuilding industry remains negatively impacted by the expiration of the homebuyer tax credit and concerns regarding a double-dip recession. Unemployment rates remain historically high, limiting home-buying decisions.
- Strategic Initiatives: The company is executing the "Meritage Forward" strategy, focusing on profitability through lower-cost product lines (Simply Smart Series), energy-efficient prototypes (MeritageGreen), and tight cash flow control. They are actively acquiring lots in select locations to align with this strategy.
- Chinese Drywall Contingency: The company has confirmed 90 homes (87 in Florida, 3 in Texas) were built with defective Chinese drywall. A net reserve of $1.1 million has been recorded for repairs and litigation. Management believes the Texas exposure is isolated but continues to investigate.
- Liquidity: The company maintains strong liquidity with $145.3 million in cash and cash equivalents and $265.6 million in investments. No bond maturities are due until 2015.
- Joint Venture Risks: The company faces litigation regarding completion guarantees in two Nevada-based joint ventures. While investments in these ventures have been fully impaired, the company disputes liability and believes existing legal reserves are sufficient.
Investor Verification Checklist
- Backlog Sustainability: Verify the impact of the 40% backlog decline on future revenue visibility given the current sales environment.
- Impairment Volatility: Monitor future quarters for potential real estate impairments, as fair value estimates rely on management projections of selling prices and absorption rates.
- Chinese Drywall Exposure: Track the outcome of ongoing investigations in Texas and Florida to ensure the $1.1 million reserve remains adequate.
- Debt Covenants: Confirm continued compliance with fixed charge coverage and leverage ratios, particularly as the company incurs interest expense exceeding capitalization limits.
- Joint Venture Litigation: Review updates on the Nevada joint venture lawsuits to assess potential exposure beyond the impaired investment value.