Meritage Homes plans to become profitable again next year, even if current conditions continue and sales prices stay the same, CEO Steve Hilton told analysts during its second quarter conference call Tuesday July 28.
The company's ink will change from red to black because it is getting better at building smaller homes faster and for less and the land they'll be building on will be considerably cheaper, Hilton said.
But for the time being, the company still logged a loss for its second quarter of $74 million, $2.37 a share, but that includes sizeable impairments of $64 million most of it related to terminating an option contract on 1,200 lots outside of Phoenix.
New orders were off too from last year's second quarter but at 1,147 they were up from the first quarter's 987.
Still, the company has been able to reduce its general and administrative expenses by 33% in the past year, maintain a gross margin of 12.3% excluding impairments, and increase its cash to $385 million. Its net debt/capital, at 32.6%, was also an improvement. Its cancellation rate at 23% was the lowest it has been since 2005.
That might be partially due to its increased number of spec home sales, which have climbed to nearly half of all the houses it sold in the quarter. Part of the company's strategy is to increase the number of speculative homes it has to four or five in each community, but sales have been happening so quickly that the company has only been able to keep about two per community.
"These homes are getting sold almost as quickly as they are getting started," said Hilton. "The tax credit, I think that is driving demand for entry-level buyers." He said he hopes it gets expanded.
Entry-level and first-time move up buyers have become Meritage's bread and butter, accounting for the majority if its sales. It's new smaller, less-expensive-to-build homes are resonating with that market. The down side is that it has slightly decreased its average selling price.
Another contributing factor to the number of homes Meritage was able to sell is that its number of communities has fallen by 16% from a year ago from 213 to 178. But the company will be bringing on more by the end of the year that should boost profit ratios because the land was bought at distressed prices. Hilton said some of the company's new land is being bought at between 2/3 and 3/4 of what it originally cost, in the $25,000 to $30,000 range.
"We have a few deals in Florida, several in Phoenix, a couple in California, one or two in Colorado," Hilton said. "We're not doing anything in Vegas. We see the market there continuing to do worse. And not much in Texas, the opportunities are not as interesting yet."
And the company is shopping for more land, particularly in California, Colorado and Florida, where it says it has shortages. Meritage is running into competition in the discounted land bargain bin from other public builders who are also looking to pick up deals.
"There are seven to eight public builder competitors competing for finished lots," said Hilton. "There's definitely competition today for lots and it's a little different than it was a few months back when we were competing with the investors. There is no question that public builders are back buying lots again. A lot of transactions have not closed yet, but I do see the land departments of our competitors being pretty active."
The company also did some work in the first half of the year on its debt, choosing to retire $24 million in bond debt by buying the notes back at an average of 41 cents on the dollar. The company issued 783,000 shares of common stock to fund the repurchase. By paying it off early, the company gained $9 million in savings. "It would be like issuing stock in the high $20s or $30s per share," said Hilton of the value gained. "We thought it was a pretty fair trade."
It also has decided to eliminate its $150 million revolving credit facility which will free it from covenants and restrictions and save the company roughly $2 million a year. It does plan to put in place a new credit source for its letters of credit, the company said.