Tuesday, October 27, 2009

Meritage Homes (MTH) Reduces Losses

Pardon my constant discussion of things like "company fundamentals" and "business outlook".  I do realize all the stock market is about is predicting the current algorithmic assumptions over the next 1/400th of a second, cross referenced by the action in the US dollar.  Everything else is just details.  But I persist - as I'm apparently a dinosaur of another era who once thought stocks were in some way, shape, or form a reflection of an underlying business.  Thankfully those who just begin learning about the casino stock market today don't have to bother learning all the things we used to... getting up to speed with that Etrade account is much quicker now.  Just stare at a chart of the US dollar minute by minute and place all your bets accordingly.

Anyhow, to amuse myself I still read earning reports... Meritage Homes (MTH), our one [domestic] home builder reported yesterday and it was a solid showing, considering where they were a year ago.  Of course (see previous paragraph) the results were put on the back burner and housing stocks were trading based on news updates on the progress of a new home buyer handout bill in Congress.  (fingers crossed!) Because it's all about "free market capitalism" in America.

We've cut back our position severely as it broke some support levels, but it is sort of just sitting there as a hostage to just how much more stealing from future generations of Americans we will do to keep this ponzi housing scheme going.   On that note, Simon Johnson and James Kwak (the guys over at the Baseline Scenario) wrote an editorial in the Washington Post entitled "The Home Buyer Tax Credit - Throwing Good Money After Bad" worth a read, but since we've argued against it countless times offering how senseless it is to push up home prices artificially - we won't bother rehashing.

But the tax credit stabilizes the housing market, people say. What does this mean? It means that the credit keeps housing prices artificially high. But housing is something that all people need. Why do we want it to be expensive?

A temporary tax credit has a similar effect, but for a shorter period of time. It boosts the price of a transaction that would have happened anyway. It may create additional transactions, but is that a good thing? If someone could not have afforded a house without the tax credit, then what is he or she going to do when the tax credit goes away and the price of the house falls? In effect, the tax credit is a way of making houses temporarily affordable that would not otherwise be affordable, and we know where that leads.

Ultimately our housing "policy" suffers from the idea that changing the level of prices on existing housing can provide a net benefit to society; because sales of existing houses are essentially zero-sum transactions, changing the price level is purely redistributive.

Ah Simon - you argue with so much sense and passion... I tried for a long time, but they have defeated me.  The masses want their free money, and their leaders deliver the goodies - it cannot be stopped.  I just sort of smirk nowadays.... if you don't smirk, you cry. ;)

As for Meritage, it is one of the better of a bad lot.... and it gives us something to trade around each time Kool Aid is raining from the heavens regarding the great housing recovery of 2008 2009 2010.  With heavy exposure to Texas - one of the more recession resistant areas in the country - Meritage has some geographic advantages but just as with almost every sector nowadays; almost all stocks just move in 1 monolith depending on if HAL9000 says today is a day to buy home builders or not.  So while I try to pretend I add value by picking ABC housing stock over XYZ housing stock, just throw a dart, call Senator Dodd, and get that new housing handout passed ... we all win here. Just think of it as a direct transfer of wealth from your grandchild to corporations (and speculators who invest in said corporations) ... to which I say, thank you grandchildren of America.

Meritage is doing what everyone in the space is doing, building smaller, and catering to the first time home builder because (drumroll) that's where the handouts are. 

Earnings report:
  • Meritage reported a net loss for the third quarter of 2009 of $18 million or $0.56 per share, compared to a net loss of $144 million or $4.69 per share in the third quarter of 2008. The improved results in 2009 benefited from lower pre-tax real estate-related impairment charges of $13 million in 2009, compared to $55 million of similar charges in 2008. Excluding these charges, the pre-tax losses from operations were $4 million in the third quarter of 2009 and $7 million in the third quarter of 2008.
  • Third quarter home closing revenue declined 38% year over year, due to 29% fewer homes closed, coupled with a 13% lower average closing price of approximately $228,000 in the third quarter of 2009, compared to approximately $262,000 in the third quarter of 2008. 
  • The lower average closing price reflects general market declines, in addition to Meritage's new series of more affordable homes, designed to appeal to first time and first move-up home buyers

Here is the key point... and shows you how dependent this market now is on (a) the distressed sale in existing homes and (b) the taxpayer handout in new homes
  • Sales of homes to entry level and first move-up buyers represented about two-thirds of the Company's third quarter 2009 sales

Positive margin improvements
  • The Company's gross profit margin excluding impairment charges reached its highest level in the last eight quarters, climbing to 14.5% from 12.3% in the prior quarter and 12.7% in the prior year's third quarter. Net of impairments, gross margins were 9.9% for the third quarter of 2009 and -1.7% for the third quarter of 2008. 
  • "We've significantly improved our gross margins despite pricing pressures by designing efficient homes that offer our buyers tremendous value, reducing our construction costs, and building communities in highly desirable locations. We have driven down our average construction costs by 30-40% in many of our markets, allowing us to offer lower prices while also improving our profitability per home," said Steven J. Hilton, chairman and chief executive officer of Meritage Homes.

Another positive
  • Net orders showed the first quarterly year-over-year increase in the past 15 quarters, since the beginning of the downturn in the housing market. Net orders of 1,098 homes in the third quarter were 8% higher than the prior year's sales of 1,013 homes. 
  • The increase was driven by gains of 53% in California, 40% in Colorado and 176% in Florida, which together made up 23% of third quarter 2009 sales. These strong increases in some of the Company's hardest hit markets were muted by minor decreases in the Company's largest markets, as Texas sales were 2% lower and Arizona was 4% lower than the previous year. 
While that distribution among states might not make sense on first glance consider CA, FL were in free fall and now bouncing - hence the huge % gains, while Texas was stable all along.  As for Arizona, I am not sure why it is not acting like California and Florida... either Meritage's developments are at the wrong price point or not catering to the first time buyer, or Arizona is lagging other real estate black hole states.

More of the "less bad" data... i.e. green shoots:
  • The third quarter cancellation rate of 20% was the lowest for Meritage in more than four years. By comparison, after the financial crisis in September of 2008, the third quarter 2008 cancellation rate was 40%. 
  • The Company has also reduced its average time from sale to close by approximately eight weeks since the beginning of 2008

Balance sheet improving:
  • Meritage has generated nearly $500 million cash flow from operations over the last eight quarters, and increased cash by $247 million over the last twelve months, ending with $366 million in cash, cash equivalents and restricted cash as of September 30, 2009. The increase in cash helped the Company reduce its net debt/capital ratio to 35%, from 46% one year earlier, after also retiring $24 million in debt in the first nine months of 2009.

Some general guidance:
  • "We have made excellent progress toward achieving our plan to return to profitability in 2010, and believe we will be profitable for the entire year, anticipating no material impairments as our markets stabilize and improve," said Mr. Hilton. "We have reduced our direct costs and overhead cost structure, redesigned homes and repositioned communities, allowing us to offer quality Meritage homes at very affordable and competitive prices. 
  • Based on our projections for the fourth quarter, we expect to generate positive cash flow from operations for the full year 2009, after cash used for lot acquisitions during the year, but before including the tax refunds of $108 million collected early this year. 
  • "Because we are not saddled with heavy debt or long land positions, as some homebuilders are, we are able to use our strong financial position and shorter lot supply to restock our balance sheet with new lower-cost lots that are generating better margins."  
As of September 30, 2009, Meritage had 162 actively selling communities in 12 metropolitan areas including Houston, Dallas/Ft. Worth, Austin, San Antonio, Phoenix/Scottsdale, Tucson, Las Vegas, Denver, Orlando, and the East Bay/Central Valley and Inland Empire of California.

[Jul 28, 2009: Meritage Homes Does Face Plant on Earnings]
[May 13, 2009: Replacing Lennar (LEN) with Meritage Homes]

Long Meritage Homes in fund; no personal position

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