Fitch affirms Meritage Homes' rating of B+; outlook stable
May 19, 2011
– Fitch Ratings has affirmed its ratings for Meritage Homes
Corporation (NYSE: MTH), including the company's Issuer Default Rating (IDR) at 'B+'. The Rating Outlook is Stable. A complete list of ratings follows this release.
The ratings and Outlook for MTH are influenced by the company's execution of its business model, conservative land policies, geographic and product line diversity, acquisitive orientation and healthy liquidity position. While Fitch expects somewhat better prospects for the housing industry this year, there are still significant challenges facing the housing market, which are likely to meaningfully moderate the early stages of this recovery. Nevertheless, MTH has the financial flexibility to navigate through the still difficult market conditions and continue to selectively and prudently invest in land opportunities.
MTH's sales are reasonably dispersed among its 12 metropolitan markets within six states. The company ranks among the top ten builders in such markets as Houston, Dallas/Fort Worth, San Antonio and Austin, TX, Las Vegas, NV, Orlando, FL and Phoenix, AZ. The company also builds in Sacramento, East Bay and Riverside/San Bernardino, CA, Denver, CO and Tucson, AZ. Most recently, MTH entered the Raleigh-Durham, NC market and expects to begin its sales operations there later this year. Historically, about 70 - 75% of MTH's home deliveries are to first and second time trade up buyers, 10 - 15% to entry level buyers, 5% are to luxury home buyers and 5 - 10% to active adult (retiree) buyers. Currently, 60 - 65% of MTH's sales are to entry level and first time move-up buyers.
MTH employs conservative land and construction strategies. The company typically options or purchases land only after necessary entitlements have been obtained so that development or construction may begin as market conditions dictate. Under normal circumstances MTH extensively uses lot options, and that is expected to be the future strategy in markets where it is able to do so.
The use of non-specific performance rolling options gives the company the ability to renegotiate price/terms or void the option which limits down side risk in market downturns and provides the opportunity to hold land with minimal investment. However, as of March 31, 2011, only 16% of MTH's lots were controlled through options - a much lower than typical percentage due to considerable option abandonments and write-offs in recent years. Additionally, there are currently fewer opportunities to option lots and, in certain cases, the returns for purchasing lots outright are far better than optioning lots from third parties. Total lots controlled, including those optioned, were approximately 15,437 at March 31, 2011. This represents a 4.3 year supply of total lots controlled and 3.6 year supply of owned land based on trailing 12 months deliveries.
MTH successfully managed its balance sheet during the severe housing downturn, allowing the company to accumulate cash and pay down its debt as it pared down inventory. The company had unrestricted cash of $103.5 million and investments and securities of $273.9 million at March 31, 2011. MTH has no major debt maturities until 2015, when $284.4 million of senior notes become due.
Fitch expects MTH to be cash flow negative in 2011 as the company continues to rebuild its land position. The company expects to moderately increase its land spending in 2011 from the $236 million spent in 2010. Fitch is comfortable with this strategy given the company's liquidity position and debt maturity schedule. Fitch expects MTH over the next few years to maintain liquidity of at least $200 - 250 million, a level which Fitch believes is appropriate given the challenges still facing the industry.
Recent macroeconomic housing statistics (new and existing home sales, single-family housing starts) are weak and disappointing, especially during the month of February, although March statistics have shown some improvement.
However, there is a seasonal pick-up in the spring orders compared to the winter. The public builders have reported clear improvement in traffic. In certain markets, selling incentives appear to be rising, to the disadvantage of near-term margins, although new home prices are relatively stable. Builder comparisons are challenging during the first half of 2011 and then ease in the third and fourth quarters. If the economy continues its advance and a moderate number of jobs are added, macroeconomic housing metrics should, for the most part, rise at a single-digit pace this year. Fitch currently projects new single-family housing starts will increase 8.5% in 2011 following 5.8% growth in 2010. After falling 14.4% in 2010, new home sales are forecast to grow about 1.9% in 2011. Fitch expects existing home sales to stay flat in 2011 after a 4.8% decline in 2010.
Future ratings and Outlooks will be influenced by broad housing market trends as well as company specific activity, such as trends in land and development spending, general inventory levels, speculative inventory activity (including the impact of high cancellation rates on such activity), gross and net new order activity, debt levels and especially free cash flow trends and uses, and the company's cash position. Negative rating actions could occur if the anticipated recovery in housing does not materialize and the company prematurely steps up its land and development spending, leading to consistent and significant negative quarterly cash flow from operations and diminished
liquidity position. Positive rating actions may be considered if the recovery in housing is significantly better than Fitch's current outlook, MTH shows sustained improvement in credit metrics, and the company continues to maintain a healthy liquidity position.
Fitch has affirmed the following ratings for MTH with a Stable Outlook:
--IDR at 'B+';
--Senior unsecured debt at 'BB-/RR3';
--Senior subordinated debt at 'B-/RR6'.
The Recovery Rating (RR) of 'RR3' on the company's senior unsecured debt indicates good recovery prospects for holders of these debt issues. MTH's exposure to claims made pursuant to performance bonds and joint venture debt and the possibility that part of these contingent liabilities would have a claim against the company's assets were considered in determining the recovery for the unsecured debt holders. The 'RR6' on MTH's senior subordinated debt indicates poor recovery prospects in a default scenario. Fitch applied a liquidation value analysis for these RRs.