Meritage Homes Corp (MTH) 2014 Q4 法說會逐字稿

Good morning and welcome to the Meritage Homes fourth-quarter conference call.

(Operator Instructions)

Please note, that this event is being recorded. I would now like to turn the conference over to Mr. Brent Anderson, Vice President of Investor Relations Meritage Homes. Please go ahead.

Thank you, Robert. Good morning, everyone. Welcome to our analyst conference call today. Our fourth quarter of 2014 ended on December 31, and we issued our press release this morning before the market opened. If you need a copy of the release or the slides that will accompany our webcast today, you can find them on our website at investors.meritagehomes.com or by selecting the Investors link at the bottom of our homepage.

Please refer to slide 2 of our presentation. Our statements during the call and the accompanying materials contain projections and forward-looking statements, which are the current opinions of Management and subject to change. We undertake no obligation to update these projections or opinions. Additionally, our actual results may be materially different than our expectations due to various risk factors. For information regarding these risk factors please see our press release and most recent filings with the Securities and Exchange Commission, specifically our 2013 annual report on Form 10-K and our more recent 10-Qs.

We expect to file our 2014 10-K within the next several weeks. Today's presentation also includes certain non-GAAP financial measures as defined by the SEC. To comply with the SEC rules we have provided a reconciliation of these non-GAAP measures in our earnings press release.

With me today to discuss our results are Steve Hilton, Chairman and CEO of Meritage Homes; and Larry Seay, our Executive Vice President and CFO. We expect the call to run about an hour and a replay of the call will be available on our website within an hour or so after we conclude the call. It will remain active for 30 days.

I'll now turn it over to Mr. Hilton to review our fourth-quarter results. Steve?

Thank you, Brent. Welcome to everyone on this call and thank you for your continued interest in Meritage Homes.

After an exceptionally strong rebound in the US housing market in 2013, 2014 grew at a more reasonable rate and we saw greater variability between markets, as opposed to the broad-based recovery we saw earlier in the cycle. Home price inflation slowed even in higher demand markets and incentives returned in some markets where prices had been rapidly increasing over the last couple of years. One such market was Phoenix, which we've seen stabilizing most recently.

While home prices were more muted than last year, our average prices rose due to a combination of selling larger homes in more desirable communities as well as some market appreciation. As a result, we generated increases in total home closing revenues, order value and backlog value that exceeded our unit volume growth.

Anticipating that price inflation would subside and be less of a driver of our future revenue growth and profitability, we focused on expanding into additional high-quality market to further diversify and broaden our community base. We acquired Legendary Communities in August 2014. With them we gained a solid position in the Atlanta, Georgia market and the number one position in the Greenville, South Carolina market.

Those two additional markets have great long-term growth potential for Meritage as the fifth and sixth new markets we've entered since 2011. Those new markets added to our community count, and we ended the year with a total of 229 active communities representing a 22% growth over 2013.

Those strategic investments directly contributed to our significant increase in orders, closings, backlog, revenue, gross profit and net earnings for both the fourth quarter and the full year 2014 and have much more potential for future growth. We also benefited from the favorable market conditions in Texas while other markets softened during 2014. Our diversified position in key markets across the US has and should continue to be beneficial for Meritage throughout the cycle.

We are aware of the concerns and debates about the potential effects of lower oil prices on the energy industry and housing markets, especially in Houston. We haven't seen a drop in demand there nor have we reduced our prices. We believe we are well positioned with our community locations and price points in Houston, which should allow us to sustain our sales pace in 2015 even though we have fewer communities open in Texas than we had a year ago.

We are being very cautious in Texas at this point and are not securing new land positions in Houston. We are monitoring the situation and are prepared to act as we get more clarity.

While the oil and gas industry is negatively impacted by lower prices, many other industries and consumers benefit from lower oil prices, which should help soften the impact on the overall economy. No one can say for certain what the future holds, but we believe the US economy and the housing market continue to grow despite a decline in the single industry.

Interest rates remain at historically low levels, employment numbers have improved and recent changes to the mortgage industry make it easier for buyers to get loan financing, all of which are positive conditions for homebuilders. We are confident in our market position, as Meritage is strategically located in many of the highest quality markets in the country for long-term growth, and we have avoided entering markets with limited profit potential just for the sake of short-term expansion. That strategy has enabled us to produce strong returns for our shareholders over the long term, and we expect this to continue into the future.

I will review some of our highlights for the fourth-quarter results and Larry will recap the full-year results. Turning to slide 5, we generated good revenue growth year over year in the fourth quarter. We combined a 27% increase in home closing revenues with a 2% increase in average closing price to deliver a 29% increase in home closing revenue over the fourth quarter of 2013.

Texas accounted for about half of that increase with 53% growth in home closing revenue. Our east region delivered 40% more home closing revenues than the fourth quarter of 2013 with the additions of Georgia and South Carolina this year in combination with strong growth in Tennessee, all three of the new markets for us in the last two years.

Florida's fourth-quarter closes were down 8% year over year as a result of lower backlog from fewer communities in the first two quarters of 2014 compared to the prior year. We also had an 8% increase in closing revenue from our west region over year-over-year revenue growth in California and Colorado more than offset the decline in Arizona. Those revenue gains offset the expected year-over-year tightening in home closing gross margins and we delivered a 13% increase in total home closing and gross profit.

Turning to slide 6, as we have been experiencing in recent quarters, our home closing gross profit margins continue to trend back towards more normalized levels as home price inflation has slowed relative to our cost inflation in recent quarters. Additionally, the effective purchase accounting adjustments on the closing of the homes acquired from Legendary reduced our home closing gross margin by approximately 48 basis points in the quarter.

Our effective tax rate for the fourth quarter was approximately 26% in 2014 compared to 30% in 2013, significantly below the statutory corporate tax rate of approximately 35%. Manufacturing credits account for some of the reduction but the majority was from federal energy tax credits. We have earned more than $20 million in energy tax credits over the last two years due to our industry-leading energy efficient homes. Tax credits represent a tangible benefit for our shareholders in addition to the many benefits that our homeowners enjoy. The net result was a 7% increase in fourth-quarter net earnings over 2013.

Turning to slide 7, our fourth-quarter orders increased 12%, primarily reflecting a 24% increase in our actively selling communities mainly in Georgia and the Carolinas. We saw a smaller increase in our orders due to fewer average sales per community consistent with general market trends.

Our average sales per community of 5.6 for the fourth quarter of 2014 were 10% lower than the fourth quarter of 2013, which was at 6.2. The decline is partially explained by the fact that Legendary Communities generated a little more than 3 sales per community during the quarter, which is lower than our other markets but consistent with our operating strategy.

In addition, California, Colorado and Florida, which had the highest sales pace a year ago, slowed some in 2014 but remained above our average sales pace for the Company. Texas orders were down 8% from the fourth quarter of 2013 due to 13% fewer actively selling communities, which was partially offset by an increase in average sales per community.

With that, I'll turn it over to Larry to review our full-year results and a few other highlights. Larry?

Thanks, Steve. Turning to slide 8, we reported net earnings of $142.2 million for the full year of 2014, a14% increase over 2013's net earnings of $124.5 million. Earnings before taxes increased 17% year over year, mainly due to a 16% increase in home closing gross profit for the year. Our full-year home closing revenue increased 20% over 2013 reflecting an 11% increase in closings combined with an 8% increase in average prices.

Home closing revenue growth was led by our east region which grew 50% over 2013. It includes our newest markets in Tennessee, Georgia and the Carolinas in addition to our strategic Florida positions. Texas home closing revenue grew 39% for the full year in combination with the east region's gains more than offset the decline in our west region.

Our home closing gross margin for the year 2014 was 21.2%, 80 basis points lower than it was in 2013 and our second-highest annual margin since 2005. The margin contraction is generally explained by the fact that rapid price inflation had driven margins to unusually high levels in 2013, especially in Arizona and California, and they trended back toward long-term, historical levels in 2014. Purchase accounting on home closings from our acquisition of Legendary Communities also accounted for approximately one-third of the total decrease in home closing gross margin percentage for the year.

Commissions and other sales costs were up 20 basis points, while G&A for the year was down 20 basis points. While we've gotten some leverage from the additional divisions and communities we've added, we're still ramping up or incurring integration costs relating to our acquisition companies during 2014. We expect to gain additional leverage as these new divisions are fully online and contributing more revenue to offset corporate overhead.

Slide 9. Net orders for the full year were up 6% in 2014 over 2013 and total order value increased 13% driven by our east and central regions, which grew total order value by 38% and 23% respectively. We ended the year with backlog of orders valued at 23% higher in total than our backlog at year end 2013. Units were up 14% and our average price per unit of approximately $400,000 was 8% higher than 2013's $371,000 average price.

Moving on to slide 10, we ended the year with $103.3 million in cash and cash equivalents compared to $363.7 million at December 31, 2013. We invested much of our cash into new markets and growth of our existing markets during the year, including our acquisition of Legendary Communities for approximately $130.7 million.

We also invested in approximately $205 million in land and development during the fourth quarter of 2014 for a total of approximately $705 million in total land development expenditures for the year. We expect that land spend in 2015 will be about the same as in 2014 depending upon the economy and market conditions.

We contracted for about 2,000 lots during the fourth quarter and ended the year with approximately 30,300 total lots under control, an increase of approximately 4,600 during the year. Of the 30,300 lots under control, approximately 65% were owned and 35% optioned.

At year end, our net debt to capital ratio was 42.9% in 2014 compared to 39.8% in 2013. We increased our revolving credit facility by $200 million to $400 million during 2014 to provide additional reserve liquidity, but we had nothing drawn against that credit line at the end of the year.

With that, I will turn it back over to Steve before we begin Q&A.

Thank you, Larry. 2014 was another year of growth and improved profitability for Meritage Homes. Despite market conditions cooling off in some markets compared to 2013, we expanded into two more markets making it six additional geographies for Meritage in the last four years. We grew our community count both within our established market as a whole and across our new markets. We expect to grow that again in 2015 based upon our current projections.

We grew our drive top-line sales and revenue, average home prices, gross profit and net earnings for the year. We maintained our balance sheet strength and flexibility, and we earned ratings upgrades from all three major rating agencies during 2014.

Based on our year-end 2014 community count that is 22% higher than it was at the beginning of 2014, we expect to show continued growth in 2015, orders closing and closing revenue, but we are tempering our expectations somewhat until we have greater clarity about near-term market strength. We expect our full-year 2015 home closing gross margin to be consistent with what we just reported in our fourth quarter. Because the first two quarters of 2014 present more difficult year-over-year comparisons, we are projecting lower quarterly margins in the first half of 2015, improving both sequentially and year over year in the second half of the year.

We also anticipate lower closing volumes due to seasonality in the first quarter growing as we progress through the year. We are therefore confident we will show meaningful earnings growth for the year. 2014 was the year of investing for future growth, and we should see the returns on those investments as we move through 2015.

Thank you for your interest in Meritage Homes. We will now open up for questions. The operator will remind you of the instructions. Operator?

(Operator Instructions)

Stephen Kim, Barclays.

Thanks very much, guys. I wanted to follow up if I could, Steve, with your comments about the gross margin. I was wondering whether or not there was anything in there that you were factoring in for either a deterioration in Texas in your specific commentaries about the margins in the back half and volumes as well? Or anything else that you might feel is worth calling out? Thanks.

It is hard to pinpoint precisely what the effect is going to be in Texas, but certainly things are probably going to get a little softer, particularly in Houston. But I think some of our other markets are going to improve, and we might get some lift in our margins, particularly maybe in Arizona and in California. I don't have any precise commentary for you on how we did our calculations, but we did take that into account when we talked about our guidance for the year.

Okay. That's fine. I was wondering if you could comment a little bit, specifically on Phoenix then? I would say a couple years ago you were fairly early in identifying the risk in that market, particularly with land prices. I remember meeting with you in very early 2013 and we were talking about that. I was curious given your comments now about how Phoenix may be stabilizing or even getting a little bit better. Are you thinking that there's opportunities now in the Phoenix market?

We are only three weeks into the year, four weeks into the year, it is hard to call a trend, but the first few weeks are looking pretty good. I think it is going to be maybe our best month in the last six months as far as sales. The year is starting out nicely. That said, December was pretty weak.

I'm optimistic that 2015 is going to better year in Phoenix. I would say, we have all the land that we need. I don't expect we're going to be buying any land in Phoenix this year, and I would say generally land in Phoenix is overpriced. Caveat emptor to anybody who's looking to buy land in Phoenix.

Great. Thanks very much for that.

Michael Rehaut, JPMorgan.

Thanks, good morning, everyone. First question, I was hoping, Larry, perhaps to get a little more granularity? Also, on the directional guidance of the gross margins, really appreciate, of course, your thoughts on that metric. Down sequentially in the first quarter. If you could just give us any sense of the degree of magnitude there, 50, 100 or more or maybe within that range?

Then, when you talked about the expected year-over-year improvement in the back half, would that be more driven by just the burn off of the purchase accounting in Legendary? Or, is there any other types of drivers either from a geographic or land cost standpoint that's driving your outlook for the improvement in the back half year over year?

Sure. Mainly the first quarter, particularly comparative to the prior year's first quarter, we are just dealing with prior year having just better margins, so of course were going to have a tough comparison that also drives a tougher comparisons on the bottom line number, too.

It's tough to give you any real specific, but I think you said 50 to 100 basis points, I think it is probably something in that range. I might also point out that maybe within that number is about another 25 bps from Legendary. It is going to be, from what we can tell, about the same number it was in the fourth quarter in the first quarter. Then, as you said, it should burn off pretty quickly after that.

The overall improvement in the year is mainly driven by just a better overhead leverage in some of the construction overhead numbers, which are in cost of sales and some of those fixed costs, so not necessarily predicting an improvement in margins because of an improvement in market conditions or a change in mix or anything like that.

Okay. Just to clarify, when I was are referring to the 50 to 100 I was referring sequentially 4Q to 1Q, that's what you were talking about as well?

Correct.

Okay. Then just second question, Steve, you also reiterated from the press release about perhaps that while you still expect year-over-year growth you're tempering your expectations at the same time. I was just curious about what that really means?

If you're entering the year with 20% community count growth, does it reflect perhaps a view that your sales pace might continue to be down year over year in the first half? Just any further quantification or rough quantification on what that means when you say you still expect to grow but less so?

Look, I'm really bullish about the business. Our western markets, Arizona and California, have nowhere to go but up. I think they are going to improve. I'm excited about what we're we are doing in the southeast, particularly in the South, what we have in Atlanta and the Carolinas and Nashville. We're really starting to get our Tampa business going, and we've got a great franchise in Orlando.

We have great positions in Texas, but I'm cautious like everybody else is about what the impact of the lower oil prices is on the Houston and through a lesser degree the Dallas and some of the other Texas markets. I don't know that we're going to see the impact of it for a couple quarters, so I think I've got reasonable visibility the next couple quarters but after that, we will just have to wait and see.

We are looking for pretty good growth everywhere else. Our community count is growing in Texas. That could offset some lower absorptions per community.

Okay, thank you.

Michael Dahl, Credit Suisse.

Hi, thanks for taking my question. Steve, just to follow up on that last point. I thought in the opening remarks you had made a comment that you thought you could hold pace in Texas, but with that last one you were saying community count could offset some lower absorption. What is the baseline for your expectations for Texas in 2015 from a pace standpoint?

What do you mean what is the baseline? The baseline would be what we did in 2014, I guess.

So, flat absorptions, you are saying?

Yes.

Okay, got it. Then, as far as the energy tax credits, is that -- how should we think about, from a modeling standpoint, that the tax rate for the near term? Is that something that's going to continue to help at the same magnitude?

I think it is hard to model it quarter to quarter, but I think if you look back over the last three years or so, you can see that we've had a consistently lower tax rate than most of our peers because of our, I will call it, extreme energy efficiency program. It is unfortunate we can't bring this up into the gross margin, but it is part of our cost structure, building these energy efficient homes that qualify for this federal tax credit, and I don't see any reason why the government won't continue to renew that year over year. Structurally we will continue to get those credits and be able to obtain a lower tax rate and benefit not only our consumers by having great homes that are extremely energy efficient but our shareholders by paying lower taxes.

Okay. From a quarterly standpoint?

I was just going to answer that question. We don't get to count the credits until Congress passes the extender bill and the President signs it, which is why we booked it in the fourth quarter of 2014. It just depends on when Congress does that. Until they do it, we can't recognize the benefit. The benefit is running about 2% or so.

But until we -- and what happens is that builds up quarter by quarter and then we get the benefit of the full year in the fourth quarter, so that's why the adjustment in the fourth quarter is so large. If you could book it each quarter, it would be about a 2% benefit. Our normalized tax rate is about 35.5%, so you get about a 2% improvement, if you could book it on a ratable basis throughout the year.

Got it. Okay, that make sense. Thank you.

Ivy Zelman, Zelman & Associates.

Thank you, good afternoon, guys, or good morning I should say. Steve, you sound balanced in your views. I know you're bullish longer term. Give us a sense of what you may be expecting from the benefits of the mortgage market on the margin incrementally getting a little bit better for today's consumer?

I know it is too early in January, but the correlation to Phoenix getting better, maybe is it anything to do with the mortgage market getting better or consumers getting more aware? How excited is the mortgage market improvement getting you for 2015's outlook?

I think there's some marginal improvements. It's not the panacea that I'm hoping for. I'm hoping there's more to come. I've been studying the new Fannie Freddie 3% down payment to see if we had any impact from that yet. It is been pretty nominal. Of course, it is more expensive to the consumer to take advantage of the lower down payment loan --

Are you marketing that program to your potential buyers in going out with more aggressive campaigns to educate them?

We are going to be. It just came out, for us, a few weeks ago. We have had a handful buyers take advantage of it. Our mortgage company is going to begin to market it more aggressively.

We're going to see if we can garner some more sales activity with it, but the credit scores of our buyers are about the same as they have been throughout the entire last year. They're in the 740s. I think we're 741. Our FHA book has dropped down. It was about 18% a year ago. It is 8% now, since the lowering of the FHA loan limits. It's come down quite a bit.

Our down payments have come up a little bit like 16%, 17% with that. It would be nice to see the FHA piece of our business increase. We are trying to do more we call entry-level plus homes, particularly in the South and the Southeast, which will fit more under the FHA caps. I think we will get buyers to have more access to financing opportunities to buy new homes, so we are optimistic about the increase in availability of credit.

That's really helpful, Steve. Then just my second question relates to acquisition opportunities. You've had a good job over the last several years of incrementally expanding your company and diversifying into new markets.

It seems as if the private builder balance sheets may not be as secure as obviously the public, so are you seeing any capitulation and willing sellers incrementally come to market, or are the opportunities for acquisitions more stable or even declining?

I think everybody is taking a little bit of a pause right now. I don't see a lot of -- the phone is not ringing like it was a year ago. We are not as aggressively looking maybe as much as we were a year ago, but our eyes are always open.

I think for us, we have four or five markets we want to really increase our market share and become more relative in, particularly in the South and get bigger in, so we're really focused on that right now. We will see what happens the first couple quarters. There may be more M&A activity over the summer than there is probably right now.

If I can sneak in one more on the cost side? Have you have seen any release from the constraints around labor in Arizona, for example, where the business has definitely slowed? Maybe just an overall view on what the costs of stick and brick and labor will look like and land going forward in 2015 in your assumptions?

We've clearly taken back some costs out West. In Arizona, we've taken back several thousand dollars per house. The only cost pressure we have nationally is concrete and a little bit of drywall. Most of our other costs we've been pretty much holding the line on. Clearly, those markets that were slower in 2014 than they were in 2013, we took some cost back.

Great, thanks, guys. Appreciate it.

David Goldberg, UBS.

Thanks, nice quarter, everybody.

Thanks.

I want to ask a question, following up on Ivy's question, and not so much the negotiating power in terms of labor. I'm wondering on the land side of business, Steve, you mentioned not buying a lot of land. I think you said you're not buying any land in Houston right now. Obviously, there's a lot of uncertainty in the market.

Are you finding that it is getting easier to get some leverage on land sellers in terms of buying more options and putting more land under control under options? Are you looking at that in terms of some of these markets where there is more uncertainty, instead of walking away from deals maybe trying to get more option-focused deals?

Not necessarily. Like in Arizona, not that we've been really that interested in buying land because the market softened out here so early in 2014, but there's just been no movement. Sellers hadn't softened on prices and hadn't proposed a lot of term deals or options, and I would say the same for Houston. October, November last year people started putting the brakes on land deals in Houston and maybe some other parts of Texas. But we haven't -- no one's really panicked and no one's changed anything up. I think it's a wait-and-see situation everywhere.

That's helpful. Just as a follow up, I was wondering if you could talk about consumer demand for energy efficiency homes and products and the work you guys do on the green side and really maybe thinking about relative to oil prices and natural gas prices? Is there any sensitivity or is it let the buyer just appreciate lower energy bills? Even if the change is $50 versus $100 because their bill would have come down, they are not sensitive to it, or does demand actually fluctuate based on what's going on in the energy market and the cost of energy market?

I don't think oil prices translate to home energy bills that well. I don't think there is a direct correlation. It is more at the gas pump than it is -- (multiple speakers).

I do think -- I have read and people talk about and now people are more comfortable driving farther to buy a home. Maybe some locations in the farther reaches of town will become more viable, particularly for entry-level buyers. I think for them, though, it is more financing issue then it is gas price.

We continue to use our highly energy efficient homes as a selling tool, not only against our competition but against resale. We believe it to be very effective. It is important for our brand, it builds credibility for our Company and it is big part of our culture and our strategy.

Thank you.

Peter Galbo, Bank of America Merrill Lynch. Mr. Galbo?

I think we lost him.

Nishu Sood, Deutsche Bank.

Thanks. First question, clarifying on the gross margin guidance, 2015 should be consistent with where you were in 4Q, does that include or exclude the purchase accounting effect?

That includes the purchase accounting effect.

Got it, okay. Second question I wanted to ask was in terms of your significant community count growth over the last two years, mostly was outside of Texas, which probably will turn out to be a good thing given the oil price risk. Looking ahead, and I know, Steve, you've said you have a balanced view on growth, but where do you see your incremental dollars going? Is it simply a case of anywhere but Texas, or what regions are you more or less excited given the varied landscape we see across the country?

We had a big push in the South and the Southeast. We really focused on Atlanta, focused on the Carolinas. California, we are very focused on, particularly closer to the coast. Our business in Northern California is really strong right now. So we are continuing to look for in-fill opportunities in particular in California.

We probably won't be buying much land in Arizona this year, and we're going to be very cautious about Texas. Most of our other markets, Florida, we are looking at some other markets close to our core markets in Florida that we potentially could be building some homes in. There's a lot of opportunities out there within the markets that we are already building in.

Got it, great, thank you.

Adam Rudiger, Wells Fargo Securities.

Hi, thank you. I'm just thinking about the absorption pace and the impact from Legendary. From what I can tell it looks like maybe about a 7 point impact this quarter of the 9%-ish decline. I know it is a tough question, but if all else stayed the same, would it be right to think about similar declines on a year-over-year basis until you anniversary the acquisition?

Probably. Larry, what do you --?

It is certainly going to have an impact, but it is not that large of impact. You're talking about a pretty small differential, so it is hard to quantify. It is like slicing hairs. It is going to have a little bit of impact. Whether it is that much, I don't know, but I think it is probably appropriate if you were going to make a flat absorption per community absorption assumption to go, yes, they are going to have an adjustment on that for Legendary going forward until you get the year-over-year comp.

Okay. Then, I want to go back to the Texas for a second, only because, Steve, you mentioned -- I think earlier you said community count will be going there. It's been declining, so I just wanted to make sure I understood that correctly that -- at least declined this quarter that your expectation is that community count throughout 2015 are declining? Just put that in the context of your cautious comments?

We bought some land positions there in 2014 and in 2013. They are going to be coming online in Dallas, Houston and Austin. Our community count will be increasing back towards the previous levels. With the slowdown we may see absorptions per community declining that would mitigate the increase in store count.

Got it. Thank you.

Jade Rahmani, KBW.

Hi, yes, thanks for taking my question. This is actually Ryan Tomasello on for Jade. On the marketing and commissions front, are you guys doing anything to drive higher sales there? And would you expect that expense to increase going forward into 2015?

We were doing lots of things everyday to drive higher sales internally and externally, but I wouldn't say that there's anything on the horizon that should increase our cost. Larry, would you agree with that statement?

Yes, I think we have some programs going on, motivational programs that cost a little money, but it is not that much money to spur our sales force. Of course, we are continuing to focus on advertising, particularly Internet advertising and model decoration and improving that, so we do have some cost in there, but it is not very significant.

Okay, great, thanks. For backlog conversion, do you expect that to trend at similar levels quarter to quarter to those that we saw in 2014?

It is always a little higher in the fourth quarter, but I think overall for the year it should be pretty similar to what we saw.

Okay, great, thank you.

Stephen East, Evercore ISI.

Thank you. Good morning, guys. Steve, we've heard from several builders during conference calls that incentives are picking up, et cetera. Yet, when we are out, broadly speaking, but when we are out in the field we are just not seeing that in a big way. Would you mind running through your markets, at least where you are seeing some movement in incentives and maybe markets that just aren't moving that direction?

West to east, Northern California, very strong. We opened several new communities over the last couple months. Had people almost waiting in line, strong sales right out of the chute, nominal incentives or no incentives. Southern California, Inland Empire, acting more like Phoenix. Coastal communities we have only a couple there, pretty strong, hardly any incentives at all.

Phoenix, I would say the incentives are -- it was a lot of incentivizing in November and December. A lot of builders were trying to get things off the books. We didn't participate, really, to the degree that maybe others did and our sales probably suffered a little bit in December. People have retreated from those incentives in January. Our sales, as I said earlier, were much strong in January. I feel like -- we have to see the first three weeks, we will have the best month in the last six months in Phoenix for January.

Colorado, really no change, very little change. January, it is a pretty cold month up there, it is not really a barometer month for Colorado. Texas, no change yet, but let's wait and see what we see in February and March, very cautious towards Texas.

Rest of the country, the East, Southeast, Florida, not hearing any real change incentives. Maybe a touch more incentives in Florida, but I'm not hearing them have any cause for concern.

Okay. All right, that's helpful. Then, going back to the land. I think David asked about land and options, et cetera.

65/35 you continue to move toward more optioning, but I was interested in the land banking environment and what you are seeing? Does the change with oil, et cetera get more difficult to do land banking, and how much more do you think you all can push that in 2015?

Land bankers are just like us. They look at land just like we look at it. They are cautious, and they are going to be hesitant to do land bank deals in Texas just like we are going to be hesitant to buy land right now. I don't see a lot of -- there's more land bankers have entered the business. Certainly, there's more opportunities for us, but I don't see our ratio changing that much going into 2015.

Okay. Thanks a lot.

Thanks.

Jay McCanless, Sterne, Agee.

Good morning, everyone. Steve, could you talk about Atlanta? With all of the recent acquisitions that have been made by the public builders in that market, are you seeing a heightened competitive environment there or an increase in inventories as people try to move through some of the things that they bought?

It is a very competitive land market. It is a very competitive housing market. I still think there's a lot of opportunity there for both public and private builders. You've got to be careful about where you plant your flags. I think there's more opportunity in Atlanta to make money than there is in a lot of other markets. We are really bullish on it.

We got a really good land position when we bought Legendary Homes. We want to expand that position and build on the team that we have there. It is a relatively small team, and grow that business. It is a relatively small business. The business we have in Greenville is bigger. We are excited about our entry into Atlanta.

Okay. Second question I had is, if you look at your land spend and how you're thinking about land spend for 2015, could you talk about -- I know you've already discussed Texas, but some of the other geographies where you would like put more money than less? Also whether you'd rather focus on first-time or move-up or luxury buyers, how you want to spread the money out in those two separate ways?

As I said before, I want to spend more money in the South and the Southeast. I want to try to drive our ASP down a bit, more first-time move up, do some entry-level plus, which is kind of a category in between entry level and first time in the Southeast.

We want to do some infill in the West. We're dedicating a lot of resources to pursuing infill in California. We have a couple infill communities opening up here in the first quarter, in California, we are really excited about. We're continuing to be bullish about our positioning Colorado.

Then, we will be cautious about Texas. We have quite a few new communities open up in Dallas that we are excited about, particularly in north Dallas. We will continue to keep our eyes open for new markets as we get later into the year to see what opportunities are out there as we continue to fill out and grow our existing markets.

Okay. If I could sneak one more in, could you just talk about option trends and also lot premiums what you're seeing generally this year versus last year? Thanks.

No real changes on either front. As I said earlier, there's a handful of new land makers that have come to the table that we are building relationships with. Some additional capacity, but I don't think our ratio of owned versus land bank is going to change much in 2015.

Lot premiums, same. People will pay a premium for a quality lot with a view or oversized or in a cul-de-sac but they won't pay a premium for a lot that is not a premium lot. Nothing has really changed in that area.

Okay, thanks.

Will Randow, Citigroup.

Hi. Thanks for taking my question. Can you give us a directional sense on how demand has been pacing over the last few months and potentially month to date for the Company, and particularly in your western markets that should be facing some easy comps?

Let me see. Give me a second here. The western markets were pretty slow in December. I think I talked about that a little earlier. Our Texas markets were pretty good, in the back half of last -- in the fourth quarter. What other color have we given on that, Larry?

I think we haven't said a whole lot about the current month, but the other guidance we provided is that we do see, even though the West was slow, we seem to have seen a little bit of strength there in improvement in January. So I guess, even though it was a little slow in December it seems like it is a little better in January in the West. We are hopeful that's setting off a little bit better spring selling season for us there.

I think I've said earlier, we are having a very strong January in Northern California. We are doing really well up there, and we are pretty pleased with what's happened in Phoenix so far in the first few weeks. Orlando is doing pretty good. We are, overall, real pleased with what's happened across the board for the first few weeks.

Thanks for that. Then, for the four years of lot supply owned to controlled in Texas, how much of that is owned? How much of that is owned in Houston?

I don't have that at my fingertips. Larry, do you?

I don't have that number broken out by division to talk about on the call, sorry. It's not radically different from elsewhere though.

Okay. Great. Thanks, guys.

Thank you.

Joel Locker, FBN Securities.

Hi, guys. Just on your community count openings in the first quarter and throughout 2015, where do you think they are and is there any trajectory, whether it's stronger in the first part of year or second part of the year?

I don't want to give guidance for the quarter. I can tell you for the year we're probably going to be up 15%, maybe as high as 20%, but probably somewhere in the mid to high teens for the year.

That's on a net basis?

Yes, net.

Also looking at your absorptions, obviously, the Legendary is about half, right around 3 a quarter versus 6 a quarter, at least in the fourth quarter for your other Meritage communities. I was wondering can you bridge that gap, at least some maybe just going forward and then what kind of timeframe if you can bridge that gap?

Yes, I think that's part of our strategy to try and increase those sales per community for them. They have a little different strategy where they have more communities. They have some communities where they may share a model with another community and they have less overhead. They, strategy is a little different. Over time we hope to be able to increase the sales per community there in Atlanta and Greenville, but I don't really have a time table for that. It's probably going to take a year or two.

Great. All right, thanks a lot, guys.

Thank you.

Mr. Hilton, we have two remaining questions in the queue.

(Operator Instructions)

Since we are almost at 9:00 or almost at the end of the hour, let's take those two and we will call it a day, okay?

Sounds good.

Alex Barron, Housing Research Center.

Good morning, guys, and good job. I wanted to ask you about your spec strategy? Last quarter I think you guys talked about the desire to increase your specs. Wondering how that's working out and what your current thought process is on that?

I don't have the spec numbers in front of me, Larry, I think you have those. But --

Alex, I think we said we had been building specs but had decided to bring the number down a little bit, and we peaked at the end at 9/30 at a little over 1,300 total specs. We brought that down to about 1,250 and we will probably see that come down a little bit more from there.

Okay. Just in general, what's your overall outlook for 2015 as far as sales pace? Do you guys think it will be similar to 2014, higher or lower?

We are modeling the same, but we're certainly hopeful it is going to be higher.

Okay. Sounds good, thanks.

Thanks.

Peter Galbo, Bank of America Merrill Lynch.

This is Mike Roxland, can you hear me?

Yes.

Sorry about that. I appreciate you taking the question. I will make it really quick as most of my questions have been answered. Just one thing that you said, following up on the last one on specs. Obviously, you've now turned the corner with respect to your spec count bringing it down.

How are gross margins on spec trending versus your other build-to-order product? Certainly, some of your peers have indicated a widening disparity between spec margins and build-to-order products, so how are you seeing gross margins trend on spec versus build-to-order?

We haven't seen a big difference on margins on specs versus build-to-order. Historically, though, obviously there's generally a discount for a spec home versus a build-to-order, but most consumers today prefer to buy a spec home than a build-to-order because they've sold their house or they are a renter and they want to get into a home sooner. So, they don't associate a discount with that home. It's sort of an advantage to have inventory readily available.

If there is a discount it is generally small. If you have to discount it, it is probably because you built the wrong house in the wrong place with the wrong upgrades and the wrong plan and wrong elevation. Try to avoid that and try to be smart about it, and if we do our job we won't have to discount it.

Got it. Then just one quick follow up on input cost. What type of input cost depreciation are you factoring into your gross margin guidance for 2015?

Larry?

Are you saying -- what was the question again?

Sure, just trying to get a sense of the input cost depreciation that you are factoring into your gross margin guidance for the current year?

We generally assume that direct construction cost increases are offset by sales price increases, but the number is generally around 3% to 5% on the high side. It is not nearly as strong as it was a year or two ago when the market was hot. Or as Steve said earlier, in some markets we've been able to actually bring the cost down, so it is a fairly more inflation-oriented type increase today.

So you're basically assuming that your price appreciation will offset any cost inflation you will experience this year?

Correct.

Okay, great. Thank you. Good luck in 2015.

Thank you.

Thank you very much. That ends our call and prepared comments for today. We appreciate your participation and attention and we will look forward to talking to again next quarter. Have a good day.

The conference is now concluded. Thank you for attending today's presentation. You may now disconnect.