How Housing's Rise Will Benefit This Stock

With the consumer confidence index at a six-year peak, and interest rates still below historical highs, Americans have begun to invest in longer-lived assets again. As house sales and prices accelerate, homebuilders and dealers are enjoying favorable conditions after seven rough years. To fully exploit the situation, Meritage Homes (NYSE: MTH), has added growth to its business through an acquisition.

Let's take a peek whether the acquisition and the positive circumstances would benefit the company or not.

How fruitful was Meritage's latest acquisition?

Meritage Homes has entered the Nashville, Tenn., market by acquiring the assets and operations of Phillips Builders. Since 1952, Phillips Builders has made more than 200,000 homes in Nashville. The acquisition will provide a foothold to Meritage in the Nashville housing market, which is currently breaking previous records.

As reported by the Nashville Business Journal , Tennessee's economic recovery has helped lower unemployment, boosting the state's housing industry. During Q1 2013, home construction was up by 34% in the region, while new home sales were up 21%. Sharply rising demand has created a shortage of supply.

Considering the facts, Meritage has taken a wise and timely step. The acquisition will bring in approximately 500 lots for Meritage, representing roughly 2.2% of Meritage's current 22,605 properties. It is expected that through this acquisition, Meritage will close 150-200 homes in 2014.  

Earnings analysis

In Q2 2013, Meritage posted an outstanding performance. Its sale revenues increased by 49% year over year, primarily due to an increase in the number of orders received and the price increases introduced during the year. The orders Meritage received increased by 21%, while average sale prices rose by 23%.

Its net income grew much faster than its revenues, improving 252% to reached $28.1 million year over year. Per-share earnings rose by 208% to reach $0.74, compared to $0.24 last year. This growth in net income and EPS was driven by effective management of ongoing business expenses, a 3% improved gross margin and 55% higher home closing revenue compared to Q2 2012.

Source: Second Quarter 2013 Analyst Call 

Strong balance sheet

Meritage's balance sheet has also improved over time. Its cash & equivalents in June 2013 increased by 19.56% and 72.6% compared to December and June 2012, respectively. Its debt-to-capital ratio decreased by 0.9% from December 2012, and by 6.9% from June 2012, even though it added $75.4 million in debt this year. All these factors have improved the liquidity position of the company.

Future outlook

The housing market index reached 59 out of 100 in August,  its highest number yet in 2013. Anything about 50 signals positive sentiment among homebuilders. According to Global Property Guide, in Q1 2013 the S&P/Case-Shiller seasonally adjusted national home price index jumped to 8.31%, the biggest year-over-year increase since April 2006, the point after which the sector collapsed.

Based on these figures, Meritage's management has raised its expectations for fiscal 2013. It expects revenue in in the range of $1.7 billion to $1.8 billion which is 42% to 51% higher than full year 2012 revenues. Diluted EPS is expected to be in the range of $2.65 to $2.85.

Due to the positive industry environment, a valuable acquisition, and an improved backlog of the company, I think Meritage could easily hit this target. In Q2 2013, its final backlog value increased by 76% year over year. 

Where are competitors headed?

While Meritage is expanding its business in Nashville, its competitor KB Home (NYSE: KBH  ) is strengthening its leading position in Eastvale, Tenn. As stated in the company's news release, KB Home has announced plans for 207 built-to-order homes there. This will expand KB's market share in the region.

 In the second quarter of FY13 where Meritage's sales revenues increased by 49%,KB's revenues increased by 73% compared to the same quarter last year. This significant improvement resulted in the reduction of company's net loss by 88%, from $21.1 million in 2Q 2012 to $3 million in 2Q 2013. (Source: Quarter Earnings Release )

Conclusion

KB Home bears net losses on its financial statements, but Meritage has shown a strong growth in order volumes in its last reported earnings -- marking its ninth consecutive quarter of year-over-year growth. With an improving industry behind it, and a smart acquisition under its belt, Meritage could enjoy a profitable future.


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