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Fitch Rates Meritage's Proposed $100MM Convertible Senior Notes 'BB-/RR3'

Wednesday, September 12, 2012 10:10 AM


Fitch Ratings has assigned a 'BB-/RR3' rating to Meritage Homes Corporation's (NYSE: MTH) proposed offering of $100 million principal amount of convertible senior unsecured notes due 2032. This issue will be rated on a pari passu basis with all other senior unsecured debt. Net proceeds from the notes offering will be used for working capital and general corporate purposes. The Rating Outlook is Stable. A complete list of ratings follows at the end of 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.

Builder and investor enthusiasm have for the most part surged so far in 2012. However, national housing metrics have not entirely kept pace. Year-over-year comparisons have been solidly positive on a consistent basis. Yet, month to month the national statistics (single-family starts, new home, and existing home sales) have been erratic and, at times, below expectations. In any case, year to date these housing metrics are well above 2011 levels. As Fitch has noted in the past, recovery will likely occur in fits and starts. (MTH reported net order growth of 43% for the six months ended June 30, 2012, far exceeding national data and implying market share gains.)

Fitch's housing forecasts for 2012 have been raised since early spring but still assume only a moderate rise off a very low bottom. In a slowly growing economy with relatively similar distressed home sales competition, less competitive rental cost alternatives, and new home inventories at historically low levels, single-family housing starts should improve about 12%, while new home sales increase approximately 10.5% and existing home sales grow 5.6%. Further moderate improvement is forecast for 2013.

MTH's sales are reasonably dispersed among its 15 metropolitan markets within seven states. The company ranks among the top 10 builders in such markets as Houston, Dallas/Fort Worth, San Antonio and Austin, TX; Orlando, FL; Phoenix, AZ; Riverside/San Bernardino, CA; Denver, CO; and Sacramento, CA. The company also builds in the East Bay/Central Valley, CA; Las Vegas, NV; Inland Empire, CA; Tucson, AZ; and Raleigh-Durham, NC. MTH also recently announced its entry into the Charlotte, North Carolina market with operations anticipated to commence during the second half of 2012. Currently, about 65%-70% of MTH's home deliveries are to first- and second-time trade-up buyers, 30%-35% to entry-level buyers, less than 5% are to luxury home buyers and less than 5% to active adult (retiree) 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 downside risk in market downturns and provides the opportunity to hold land with minimal investment.

However, as of June 30, 2012, only 17% 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 17,586 at June 30, 2012. This represents a five-year supply of total lots controlled based on trailing 12-months deliveries. On the same basis, MTH's owned lots represent a supply of 4.1 years.

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 $81.6 million and investments and securities of $103.8 million at June 30, 2012. The company's debt totaled $596.1 million at the end of the second quarter. MTH has no major debt maturities until April 2017, when approximately $100 million of senior subordinated notes mature.

In July 2012, the company completed a public offering of 2,645,000 shares of its common stock. Net proceeds of $87.1 million will be used for working capital and other general corporate purposes. Additionally, MTH recently entered into a new $125 million unsecured revolving credit facility due 2015.

These transactions, together with the proposed notes issuance, provide the company with additional liquidity as Fitch expects MTH to be cash flow negative in 2012 by about $125 million-$175 million as it continues to rebuild its land position. Fitch expects the company will increase its land spending in 2012 to about $350 million-$400 million from the $246.6 million spent in 2011. Through the first half of 2012, land and development spending totaled approximately $191 million. Fitch is comfortable with this strategy given the company's liquidity position and debt maturity schedule. Fitch expects MTH over the next few years will maintain liquidity (consisting of cash and investments and a revolving credit facility) of at least $200 million-$250 million, a level which Fitch believes is appropriate given the challenges still facing the industry.

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.

A negative rating action could be triggered if the industry recovery dissipates; MTH's operating performance for this year is well below Fitch's current forecast for revenues ($1 billion) and modest pretax profits; and 2013 revenues drop high-single digits while the pretax loss is significantly higher than 2011 levels; and MTH's liquidity position falls sharply, perhaps below $200 million. Positive rating actions may be considered if the recovery in housing is better than Fitch's current outlook and shows durability; MTH shows sustained improvement in credit metrics; and the company continues to maintain a healthy liquidity position.

Fitch has the following ratings for MTH with a Stable Outlook:

--Long-term Issuer Default Rating (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 debtholders. 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.

Additional information is available at 'www.fitchratings.com'. The ratings above were solicited by, or on behalf of, the issuer, and therefore, Fitch has been compensated for the provision of the ratings.

Applicable Criteria and Related Research:

--'Corporate Rating Methodology' (Aug. 8, 2012);

--'Liquidity Considerations for Corporate Issuers' (June 12, 2007).

Applicable Criteria and Related Research:

Liquidity Considerations for Corporate Issuers

http://www.fitchratings.com/creditdesk/reports/report_frame.cfm?rpt_id=328666

Corporate Rating Methodology

http://www.fitchratings.com/creditdesk/reports/report_frame.cfm?rpt_id=684460

ALL FITCH CREDIT RATINGS ARE SUBJECT TO CERTAIN LIMITATIONS AND DISCLAIMERS. PLEASE READ THESE LIMITATIONS AND DISCLAIMERS BY FOLLOWING THIS LINK: HTTP://FITCHRATINGS.COM/UNDERSTANDINGCREDITRATINGS. IN ADDITION, RATING DEFINITIONS AND THE TERMS OF USE OF SUCH RATINGS ARE AVAILABLE ON THE AGENCY'S PUBLIC WEBSITE 'WWW.FITCHRATINGS.COM'. PUBLISHED RATINGS, CRITERIA AND METHODOLOGIES ARE AVAILABLE FROM THIS SITE AT ALL TIMES. FITCH'S CODE OF CONDUCT, CONFIDENTIALITY, CONFLICTS OF INTEREST, AFFILIATE FIREWALL, COMPLIANCE AND OTHER RELEVANT POLICIES AND PROCEDURES ARE ALSO AVAILABLE FROM THE 'CODE OF CONDUCT' SECTION OF THIS SITE.

(Source: Business Wire )
(Source: Quotemedia)

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