Meritage Homes Corp (MTH) 2003 Q4 法說會逐字稿

Good day, everyone. Welcome to the Meritage fourth quarter 2003 earnings results conference call. Today's call is being recorded. At this time, for opening remarks and introductions, I would like to turn the call over to Mr. Chuck Dornwind. Please, go ahead, sir,.

Thank you, and good morning, and welcome to the Meritage Corporation conference call to discuss operating results for the fourth quarter and year ended December 31, 2003. Participating on the call today from the company's management are Steven Hilton and John Landon, Co-Chairmen and Co-Chief Executive Officers and Larry Seay, Chief Financial Officer. Before we begin, I would like to remind everyone that during the course of this conference call, certain projections and other forward-looking statements may be made regarding future events or the future financial performance of the company. We refer you to the disclosures that the company files with the Securities and Exchange Commission, specifically those containing the company's most recently filed Form 10-K and 10-Q, and the year end earnings press release dated January 28, 2004. These documents describe important factors that may cause actual results to deliver materially from those contained in any projections or forward-looking statements made during this conference call. We also refer you to the year end press release which is located on our website for the definition and discussion of the use of EBITDA, a non-GAAP financial measure. I would now like to turn the call over to Steven Hilton.

Good morning and thank you for joining us as we discuss Meritage's fourth quarter and full year 2003 results. Along with this conference call you may also follow along with a slide show presentation which can be accessed through our website at www.meritagehomes.com. We will recap-- first recap our fourth quarter and full year performance and then we will discuss the outlook for 2004. Lastly, we will discuss our liquidity, balance sheet and other financial information. After that we will be happy to answer your questions.

We will start on Slide 4. 2003 marked our 16th consecutive year of record revenue and net earnings. We set full year records for home closing revenue, net earnings, diluted earnings per share, homes ordered and closed and homes in backlog. For the full year 2003, home closing revenue reached $1.5 billion, up 31% from last year's record of $1.1 billion, and net earnings in increased 35% to $94.4 million or $6.84 better diluted share, a 29% increase from the full year of 2002. We received orders for 6,152 homes, up 37 % from last year, and closed 5,642 homes during the year, up 23% from 2002. The number of homes in backlog reached all time year-end record of 2,580, up 25% from the year end 2002.

For the fourth quarter 2003, Meritage set all-time quarterly records for home closing revenues, net earnings, diluted earnings per share and the number of homes closed. We also and set a fourth-quarter record for homes ordered. Net earnings up 32% to $31.6 million. Diluted earnings per share were up 31% to $2.26 per share, and the number of homes ordered up 7% to 1,147. Each of these will be discussed in more detail throughout our presentation.

On Slide 6, home closing revenue was up 28% over the prior year's quarter to $472 million, and the number of closings increased 20% to 1,784. For the fourth quarter of 2003, the three year rolling compounded annual growth rate for revenue and closings were 41% and 38% , respectively. On Slide 7, the fourth quarter increase in closing was led by our California division, with a 55% gain, a result of strong demand in that market. The number of homes closed in Texas increased 27% from the fourth quarter of 2002 to 840, primarily reflecting an increase in the number of communities delivering homes. Closings in Arizona were up 20%, quarter over quarter, to 649, as our Arizona operations continued to add active communities. Somewhat offsetting these increases was a 35% reduction in the number of homes closed in Nevada during the quarter, which primarily was a direct result of earlier than anticipated sellout of some of the Las Vegas communities.

For the full year 2003, home closing revenue reached all-time record high of $1.5 billion, up 31% over the $1.1 billion in 2002, and the number of homes closed increased 23% to an all-time record of 5,642. This brought the three-year compound annual growth rate for home closing revenue to 42% and 36% for closings. On Slide 9, we will now review the number of closings by region for the full year 2003 versus 2002. The number of home closings in Texas increased 35% to 2,828. A portion of this increase the 2003 full-year impact of our mid-year 2002 acquisition of Hammonds Homes. Including the first half of Hammonds 2002 closings, which occurred prior to our purchase of the company, Texas closings would have increased 13% year-over-year up from the 2,508 closings in 2002.

Closings in California were up 24% to 735 for the full year, reflective of a strong California home building market and an increase in active selling communities from ten a year in 2002 to 14 at year end 2003. The number of home closings increased by 409 in Nevada to 564, which was primarily due to a full-year impact of our fourth quarter 2002 acquisition of PermaBilt homes. This would be an 18% increase over the 476 closings for PermaBilt'sfull year 2002, including the nine months prior to our purchase of the company. Somewhat offsetting these increases was a reduction in Arizona home closings of 13%, due to the earlier-than-anticipated sellout of some communities, and the delay in opening their replacements, which impacted closings earlier in the year. However, as these replacement communities began delivering homes in the fourth quarter, closings in Arizona rebounded, increasing 20% over the fourth quarter of 2002.

Moving on to Slide 10. Pretax margin for the fourth quarter of 2003 was 53 basis points over the prior year's quarter, from 10.3% to 10.8%, primarily a result of the 101 basis point improvement in gross margin partially off set by a 49 basis point increase in SG&A expenses. The 101 increase in fourth quarter gross margin was primarily caused by the absence of one time purchase accounting adjustments related to the 2002 Hammonds and PermaBilt acquisitions, as well as favorable pricing in most of our markets. The 49 basis-point increase in SG&A was primarily the result of somewhat higher external brokerage commissions and an overall increase in administrative costs ahead of revenues. Net earnings for the fourth quarter of 2003 were up 32%, from $24 million to an all-time quarterly record of $31.6 million. Diluted earnings per share also reached an all-time quarterly record of $2.26, up 31% from our $1.72 during the fourth quarter of 2002.

Our full year pretax margin was up 16 basis points from 10.1% to 10.3%, mainly as result of a 70 basis point improvement in gross margin, caused primarily by the same fourth quarter factors, partially offset by a 45 basis point increase in SG&A expenses, caused primarily by marketing costs incurred for new communities in advance of home closings. For the full year of 2003, net earnings were up 35%, from $69.9 million to a record $94.4 million, and diluted earnings per share reached $6.84 per share, up 29% from the $5.31 per share last year. I will now turn the call over to John Landon. John?

Thank you, Steve, and good morning everyone. I'm going to begin on Slide 12. Fourth quarter orders were particularly strong in California and Arizona, where we saw increases in the number of orders taken of 76% and 55%, respectively. This increase was due mainly to the introduction of new communities during the second half of 2003 and the continuation of strong demand for homes in those markets.

During the fourth quarter of 2003, Texas benefitted from a significant improvement in Austin orders as that market continued to recover from a weaker 2002. While we believe the demand for homes in Houston remains good, fourth quarter orders were temporarily impacted by timing issues with lot completions in some of our most successful communities. This, along with softness in some areas of the Dallas market, offset the gains in Austin, resulting in an overall18% reduction in the number of new orders taken over the prior year's fourth quarter of Texas. We believe that, overall, the Texas housing market remains steady. With the already established Texas divisions and the addition of our San Antonio division, we anticipate sales and closing growth there in 2004.

Although the number of neworders in Nevada decreased 32% from last year's fourth quarter, we believe the Las Vegas market remains very strong and we anticipate order activity will rebound in the second and third quarters of 2004 as six new communities are planned to open for sales. Although the overall number of new home orders was up a modest 7% for the quarter, the dollar value of orders increased 29%. due to a shift in order mix for the higher-priced homes, particularly in the California and Nevada markets. Moving to Slide 13. The number of new home orders for the full year of 2003 tops 6,000 for the first time in Meritage history, reaching an all-time high of 6,152, up 37% from 4,504 in 2002. Overall order activity for the year was especially good inTexas and Arizona, both of which posted increases of over 30%. While the 807 orders taken in California for the year was relatively in line with 2002, orders were up significantly during the fourth quarter, providing good momentum going into 2004.

Moving to Slide 14. We ended 2003 with 2,580 homes in backlog, with a dollar value of $711 million, up 25% and 32% from the end of 2002, respectively. Unit backlog was up in all of our regions, although only modestly at 3% in Texas. As stated previously, we remain positive about the Texas market overall. Moving to Slide 15. The average home price in backlog was up 6% from year end 2002 to 2003. Most notably, the average price in Nevada increased 18%, due to a shift in sales toward our higher-priced homes. The average priced sale in backlog dropped 7% in Arizona, due to an increase in sales of our more moderate priced product.

Moving to Slide 16. We have historically determined actively selling communities using regional specific criteria due to product offering differences between regions. For our Arizona, California and Nevada divisions we determined community count based on the number of model product lines offered at each separate location, because we offer several separate and unique product lines. However, in Texas, where the customers generally offer a broad range of home designs on differing lot sizes without separating them into individual product lines, we have historically differentiated our communities by lot size. For example, one geographic location with similar product may have been counted as two communities if the community had two lot sizes. In an effort to better standardize the community count companywide, we are changing the methodology for determining separate communities in Texas. Beginning December 31, 2003, the determining factor for differentiating a community in Texas will be made similar to our western regions, where we count contiguous parcels as separate communities if product lines built there are unique. Based on our previous criteria, we had 155 actively selling communities as of year end 2003, as compared to 123 using our better standardized criteria. For the year ending 2002, for comparative purposes, we reported 128 active communities. The number of communities on December 31, 2002 was 108, resulting in a 14% increase year over year.

Moving to Slide 17. We continue to adhere to our strategy of growing through the expansion of existing markets, Greenfield startup operations, and selective acquisitions. In 2003, we began the startup operation in San Antonio with one community. San Antonio was profitable in its first year of operation, and as we enter 2004, we control 2,000 lots and expect to be opening seven communities by year end,. As illustrated by our recent acquisition of Citation Homes of Southern California, we continue to acquire relatively small builders and new markets with the goal of growing our operations. We consider revenue to be organic one year after purchase. As you can see by the slide, our organic revenue has been the major component of our growth in recent years. While we continue to explore potential acquisitions candidates, no new purchases are imminent at this time and we have therefore assumed no acquisitions in our 2004 plan, resulting in 97% of our 2004 revenue coming from rganic operations, up 85% in 2003.

Moving to -- 2003 was a robust year for public home builders, with the weighted average share price of the top 18 public home builders up over 70% from January 1,2003 to December 31, 2003. The U.S. home ownership rate is at all-time high at nearly 69%. We feel the most important factor in housing demand is demographics. Using current demographic trends, we believe the home ownership rate will continue to rise as first generation baby boomers enter their peak buying years, second generation baby boomers move into the first home buying cycle, and immigrants continue to move into the U.S. and purchase homes. Given an improving job market and stable mortgage rates, we anticipate 2004 should be another good year for the housing industry.

Slide 18. We are current projecting home closing revenue to be in the $1.7 billion to $1.8 billion range for 2004, up 16% to 23% over 2003. Assuming future growth in the 20% to 25% range, including potential acquisitions, we anticipate exceeding $3 billion in revenue by 2007. Slide 19. Along with this revenue increase, we anticipate diluted earnings per share to approximate $7.50 to $7.85 per share in 2004. This would represent a four-year, compound annual growth rate of 24-26%. For the first quarter of 2004, we anticipate diluted earnings per share to approximate $1.25 to $1.35 per share. Slide 20. Meritage book value per share was $31.26 per share as of December 31, 2003, up 29% from $24.24 at year end 2002. We anticipate our book value per share to grow aproximately $39 per share by the end of 2004, to grow to aproximately $39 per share at the end of 2004, assuming no common stock issuances or repurchases.

During 2003 we repurchased 164 shares of our common stock at an average price of $31.53 per share. In comparison to the current book value per share, we believe this was an excellent investment. During 2004 we plan to be somewhat more aggressive with our stock buyback program than we were in 2003. We are proud of our performance in 2003 and are also optimistic about what lies ahead in 2004. We look forward to reporting our first quarter 2004 progress to you in April. I will now turn the call over to Larry Seay to discuss our balance sheet and liquidity in more detail. Larry.

Thanks, John. As long as has been the case at Meritage we believe balance sheet management is the key component to our success. At year end, Meritage had aproximately $678 million in real estate inventory, representing an annual turnover rate of 1.9 times, down slightly from the 2.1 times at year end 2002. As of December 31, 2003 we had aproximately 2900 -- 29,600 lots under control, or about 5.3 year supply based on historical closings, down slightly from 5.6 years as of December 31, 2002. We currently control aproximately 85% of our lots through option contracts. Our return on capital for 2003 remains in the top third of the industry at 14%.

Turning to Slide 22. Our net debt to capital ratio at year end was 45%, in line with the 44% at the end of the previous year and at the low end of our target range of 45-55%. Debt to trailing fourth quarter EBITDA remained steady at 1.9 times. During the year we enhanced our liquidity position by completing two add-on offerings, totalling $125 million in aggregrate provable amount of our 9.75% senior notes due in 2011, bringing the total principal amount of our senior subordinate notes to $280 million. We also increased our bank credit facility from $250 million to $400 million during the fourth quarter of 2003 and extended the maturity date by 18 months to May of 2006.

Our liquidity at year end was very strong with aproximately $312 million of additional bank credit available under our credit facility. After considering our most restrictive bank covenants, approximately $160 million of this amount was immediately available to borrow. On that slide, too, the bank line includes letters of credit. The actual outstanding amounts not including the letters of credit under a bank line was $63 million in the current year and $108 million in the prior year. We worked -- we continue to work with the company's auditors, KPMG, to apply FIN 46. FIN-46R was issued during December of 2003 and made several revisions to the original pronouncement. For non-specific performing option agreements entered into before January 31, 2004, we have not consolidated any land or option agreements because we have either determined that these agreements should not be consolidated in accordance with FIN 46R, or we have made an exhaustive effort to obtain the information necessary to perform the required evaluations of these non-specific performance agreements and been unable to do so.

Accordingly, we believe, and KBMG agrees, that FIN 46R does not require its implementation in regards to these agreements. We have consolidated specific performance option agreements entered into prior to January 1, 2004, due to their specific performance nature. The company is developing a framework to implement FIN 46R as it relates to land and option agreements and contracts entered into after December 31, 2003, and discussing this framework with KPMG. This analysis is ongoing and we anticipate that a more complete discussion and disclosure of FIN 46R will be included in the company's December 31, 2003, report on Form 10-K. I would also like to point out that we made a last-minute change in our press release, increasing the top end of of our full year guidance to $7.85, and that change did not get reflected in the bullet points on the first page. So, the correct number is $7.85. I'll now turn this call back over to Steve.

Thank you, Larry. Once again, we are quite pleased with the company's performance for 2003 and remain confident about our outlook for 2004. That ends our formal comments. I will now open the floor for questions. The conference call operator will provide you with instructions on how to raise through your questions.

Thank you. Our question and answer session will be conducted electronically today. If you would like to ask a question, please signal by pressing star one on your touchtone telephone. We will take as many questions as time permits and will respond in the order that you signal us. If you are using a speaker phone, make sure your mute button is turned off to allow your signal to reach our equipment. Once again, please press star one it you would like to ask a question. Our first question today comes from Margaret Whelan from UBS.

Good morning. This is William Lamb, on Margaret's behalf. Two questions. One is realizing you probably don't like to do this, but we were wondering if you could comment on your recent order trends, you know, in the month of January?

Boy, William, the month is not even over yet, still have a weekend left. I think, you know, we can say we are off to a good start but I wouldn't want to give anything more than right now. It's still pretty early.

In terms of -- in terms of acquisitions, are you -- what type -- are you seeing -- just curious if you can kind us an update on that?

John, do you want to take that?

Yes. You know, we are always out there meeting people, and are in the market for looking at acquisitions that fit our criteria of being a companies that we can grow, and in the markets we want to be in and culturally fit in with is. So having said that, as we've said in the past, we will continue to look in the south and west. We would like to get to, and we plan to get to, Florida and we like Denver, and we like some other cities that are in the southwest. Atlanta is another one. We had been talking in the past about southern, California. Most recently, as you guys know, we just acquired Citation Homes, so we were able to enter that market. We are very happy and excited about the potential that we have in that market being the second largest market in the U.S. So, you know, our strategy hasn't changed. We will continue to grow our business organically with some startups and selective acquisitions in key markets. And Texas, Atlanta and Denver are three that we continue to -- I mean, Florida, Atlanta and Denver are the three we continue to look at.

If I may just throw in one more question. In terms of guidance details, I was wondering if you can talk about when what you expect in terms of ASPs on deliveries in margin?

Excuse me? Will, do you want to restate the question?

I was just wondering if you could give us a little more detail on guidance in terms of home prices that, you know, you expect deliveries in margins? I apologize if I missed that earlier.

He wants to know if the average sales prices are going to increase or decrease, and what our margins are going to do.

Right.

You know, I think both should be steady. Well, not-- possibly average sales prices might come down a little bit as we increase our mix from our other lower priced areas. But we had a lot of closings, you know, in the fourth quarter in California which influenced the average sales price, as we mentioned earlier. So, we don't -- I don't think we expect a lot of changes in those numbers. Is that right, Larry?

Yes. I guess I would say that you shouldn't look at the average sales price of orders taken in the fourth quarter as necessarily an indication that our sales prices are going to increase by $50,000 per home. Our guidance that we provided you kind of gives you an average sales price in the $260,000 range, and that is very consistent, you know, and maybe just a bit down from what our year end backlog average prices were, about $275,000. So within that $10,000 to $15,000 range, I think, is as close as we are going to be able to get.

Good job and thank you.

You're welcome.

We will go next to Robert Manowitz with UBS.

Hi, good morning.

Good morning.

Was wondering if you could talk a little bit about Citation from two respects. One, how did the transaction kind of come about? My guess is you did not -- did not go through sort of an auction process. And then secondly, can you give us just some parameters on the earnout that's been structured into the deal?

You know, it is -- it was very much similar to a lot of our other deals. This was a relationship that developed over a period of years. Got to know the principals, the Allen family, and learned a lot about their business and how they do their business, and we developed a relationship over a period of time and we were able to consummate a transaction that was at the right time for both companies. Larry, do you want to take the second part of the question?

Yes. Our earnout is very similar to the earnouts we have done in the past, which it is a three-year earnout based on 20% of the net earnings, pretax earnings, of the company after a capital charge. So, that will, because of the way the deal was structured, that earnout will be expensed as it is earned over the duration of the earnout. And it is paid annually.

Right. And then one last question on California. Is it a reasonable kind of projection to look for something like 200 orders next year? Am I in the right ballpark, or is there something that I'm --

For calendar '04?

For calendar '04, but specifically for southern California.

We actually provided guidance on that in the press release at 175, I believe.

That would be -- that is closings, I believe. You're saying orders.

Orders, I would say that is probably a fair number.

Okay. Great. Thank you.

We will take our next question from Jim Wilson with JMP Securities.

Good morning, guys. Was wondering if you could give color on '04, and even if you have any thoughts on where you are trying to drive '05 as far as community count in your four main markets or states -- I guess it is five now?

Based off of our restated community count of 108 at the end of the -- excuse me, 123 at the end of '03, we think community count will probably end up at the end of '04 somewhere up in the 5-to-10% range.

Okay, and is that sort of similar growth across markets, or is Vegas still down because of difficulty of getting product? Or-

Vegas will increase pretty dramatically, because we have a very few communities open right now. We are opening many between now and the end of the year. So that we'll have a pretty good increase in Vegas, but won't feel the full effects of it until next year, when we will be able to substantially increase our number of orders because of the extra communities. Of course, San Antonio, we have a lot of communities coming online and that will have a pretty dramatic increase over the next couple of years. And we will continue to organically grow the rest of our businesses, you know, in all the other markets, you know, in that 5-15% range.

And so does the total, Larry, does that include Citation as part of the beginning balance?

Yes.

Okay. So that's -- so Citation you add in to that, in effect?

Right.

And the thoughts are still the goal 10% plus as you move forward for the year, so that might be the outlook for '05?

Yes.

Okay. Great. Okay. Thanks.

We will take our next question from Craig Kucera with Friedman, Billings and Ramsey.

Good morning, thanks. I wanted to ask your thoughts on where you are seeing price appreciation on some of land that you guys are out taking a look at?

John?

I think the place where prices continue to rise probably most dramatically would be in the Vegas market. You know, all our markets continue to have land moving up in price. The good news in Vegas, though, is they still let you get some density even though the land prices have moved up significantly. California we are still seeing land moving up. Really, you could say across the board land continues to move up, but most notably would be in the Vegas and California markets.

I just add on to that the good news with that is, we have a really strong land position in Las Vegas now. I believe it is about 2800 lots. We have been able to lock in at prices that we think are on the low side of today's market prices. And we feel pretty comfortable with our land position in all of our markets. We don't feel like we are short really in any of the markets we do business in.

And kind of year over year, can you kind of estimate what you're kind of seeing, and particularly in Vegas and California?

You mean as far as percentage price increases?

Yeah.

You know, anywhere from 10 to 30 or 30 40 %. You know, it is just -- you really got to take it down to sort of a microscope kind of look. I mean, north Las Vegas, you know, land prices have doubled in the last two to three years. But that is -- east Las Vegas hasn't increased at the same rate and the south side hasn't increased at the same rate. Parts of Sacramento, land prices have doubled in the last three years. But there's also areas of Phoenix where it has only gone up 10% a year. So, I think the same-- John, you can probably comment.

Let me add to that, we've got to remember, too, we're talking land prices and not necessarily lot prices. And you are talking as a lot to sales price of the home, it goes somewhere between maybe 20% or maybe a little bit low 20% to 30%. So, as a component of your total purchase price, land typically is only about a 10% of the total cost in the home, and then you add add the development of that land into that. But just the raw land is in that 10-15%. So if it goes up, you know, on the high side of 30%, it doesn't, you know, it impacts the price of your home, you know, some, obviously, but not to the extent that it sounds if you have a 30% increase in raw land.

Yeah. I would add that historically our land cost has been as the land our finished lot costs in total as a percentage of the total sales price has been stable in kind of the 21% range companywide.

Okay. Great, thanks for the detail. On your product mix, you know, in the fourth quarter we saw a little bit more shift into the higher price point product. Is that a trend that you see, say, for the next year or so?

I don't think you should read into the numbers that we shifted toward higher priced homes. I think it is just a function of us closing more homes in markets where they are higher priced, like California, like I said earlier. The average home price in California is significantly more than it is in our other markets. And because we closed more homes in California there in the latter part of the year than in the beginning part of the year, it skewed our average sales price but the company in no way, shape or form, is moving towards higher priced homes.

In Nevada, because we only have a couple of subdivisions, or maybe even one right now waiting for the new ones to open up, that one subdivision happens to be a high priced subdivision. So the mix has shifted radically.

I would say higher priced, not high priced.

Right. Higher priced.

Still in the high 200s base price, and that is not considered the high in Las Vegas.

And once those new subdivisions come online, that average price is going to come back down.

Okay. Great. And then finally, you alluded to the fact that you might be more active in some of your share buyback activity this next year. Can you give us an idea of kind of what you're expecting to take down, or kind of what you're thinking right now?

I think our goal is to try to buy back at least enough shares to make our options not dilutive, to cover the options that we issue on an annual basis.

Okay.

So we bought 164,000 back last year. I think we expect to buy at least that number back this year, maybe a little bit more..

Okay, thanks a lot. I appreciate it.

We will take our next question from Sam Kerner with Franklin Resources.

Hi, guys, great quarter.

Thank you.

And nice guidance. Just curious here, on San Antonio. Just what your expectations are there in terms of deliveries and revenue?

I will say this will be a year of opening a lot of communities. It will look like a large percentage increase, because we only closed, I think, 17 homes there in '03. So it will look as a percentage a large increase, but we plan to be open in seven communities by year end 2004, and deliveries will actually have the biggest impact in 2005. We will definitely, you know, increase, you know, we think closings will be somewhere around 100 for 2004, and then it will grow dramatically for 2005 and beyond.

Okay. And also on your backlog, you're showing that up 32% in dollar terms and yet, your guidance on sales is coming in at about half that clip. Are you just being conservative there?

Yeah, I think we are trying to be conservative. You know, it's still early in the year. And, you know, there is a lot of wood to chop to get to the finish line, so we'll see how things go. I think we would rather underestimate than overestimate at this point what our business is going to be this year.

And I think that has been pretty consistent throughout the years, that we've always tried to start out conservative and wait to see how the year unfolds and we are very positive about 2004. But, as Steve says, it is still just the beginning-- or the end of January here.

Okay. Great. Thank you.

And that is all the time we have remaining for questions. I'll turn the call back to Mr. Hilton for any closing comments.

Okay. Thank you for joining us today. We look forward to reviewing our first quarter 2004 results with you in April, and thank you very much for your time.

That does conclude today's conference call. We thank you all for your participation. You may now disconnect.