UNITED STATES
SECURITIES AND EXCHANGE COMMISSION

WASHINGTON, D.C. 20549

 

FORM 10-Q

 

x  QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

 

For the quarterly period ended September 30, 2007

 

or

 

o  TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

 

Commission File Number 1-9977

 

MERITAGE HOMES CORPORATION

(Exact Name of Registrant as Specified in Its Charter)

 

Maryland

 

86-0611231

(State or Other Jurisdiction

 

(I.R.S. Employer

of Incorporation or Organization)

 

Identification No.)

 

 

 

17851 North 85th Street, Suite 300

 

 

Scottsdale, Arizona

 

85255

(Address of Principal Executive Offices)

 

(Zip Code)

 

(480) 515-8100

(Registrant’s Telephone Number, Including Area Code)

 

Indicate by check mark whether the registrant:  (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days.

Yes x No o

 

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, or a non-accelerated filer. See definition of “accelerated filer and large accelerated filer” in Rule 12b-2 of the Exchange Act. (Check one):

 

Large Accelerated Filer x

 

Accelerated Filer o

 

Non-Accelerated Filer o

 

Indicate by a checkmark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act).

 

Yes o No x

 

Common shares outstanding as of November 7, 2007: 26,249,296.

 

 



 

MERITAGE HOMES CORPORATION

FORM 10-Q FOR THE QUARTER ENDED SEPTEMBER 30, 2007

 

TABLE OF CONTENTS

 

PART I.

FINANCIAL INFORMATION

 

 

 

 

 

 

Item 1.

Financial Statements

 

 

 

 

 

 

 

Unaudited Condensed Consolidated Balance Sheets as of September 30, 2007 and December 31, 2006

 

 

 

 

 

 

 

Unaudited Condensed Consolidated Statements of Operations for the Three and Nine Months Ended September 30, 2007 and 2006

 

 

 

 

 

 

 

Unaudited Condensed Consolidated Statements of Cash Flows for the Nine Months Ended September 30, 2007 and 2006

 

 

 

 

 

 

 

Notes to Unaudited Condensed Consolidated Financial Statements

 

 

 

 

 

 

Item 2.

Management’s Discussion and Analysis of Financial Condition and Results of Operations

 

 

 

 

 

 

Item 3.

Quantitative and Qualitative Disclosures About Market Risk

 

 

 

 

 

 

Item 4.

Controls and Procedures

 

 

 

 

 

PART II.

OTHER INFORMATION

 

 

 

 

 

 

Item 1.

Legal Proceedings

 

 

 

 

 

 

Item 1A.

Risk Factors

 

 

 

 

 

 

Item 2.

Unregistered Sales of Equity Securities and Use of Proceeds

 

 

 

 

 

 

Item 3.

Not Applicable

 

 

 

 

 

 

Item 4.

Not Applicable

 

 

 

 

 

 

Item 5.

Not Applicable

 

 

 

 

 

 

Item 6.

Exhibits

 

 

 

 

 

SIGNATURES

 

 

 

 

 

INDEX OF EXHIBITS

 

 



 

PART I - FINANCIAL INFORMATION

 

Item 1. Financial Statements

 

MERITAGE HOMES CORPORATION AND SUBSIDIARIES
UNAUDITED CONDENSED CONSOLIDATED BALANCE SHEETS

(in thousands, except share amounts)

 

 

 

September 30,

 

December 31,

 

 

 

2007

 

2006

 

 

 

 

 

 

 

Assets:

 

 

 

 

 

Cash and cash equivalents

 

$

45,297

 

$

56,710

 

Receivables

 

93,573

 

68,725

 

Real estate

 

1,504,137

 

1,530,602

 

Real estate not owned

 

34,062

 

5,269

 

Deposits on real estate under option or contract

 

106,768

 

167,132

 

Investments in unconsolidated entities

 

57,387

 

114,250

 

Property and equipment, net

 

37,143

 

40,712

 

Deferred tax asset, net

 

110,390

 

28,119

 

Goodwill

 

57,538

 

129,659

 

Intangibles, net

 

8,099

 

9,492

 

Prepaid expenses and other assets

 

21,074

 

19,855

 

 

 

 

 

 

 

Total assets

 

$

2,075,468

 

$

2,170,525

 

 

 

 

 

 

 

Liabilities:

 

 

 

 

 

Accounts payable

 

$

79,641

 

$

117,443

 

Accrued liabilities

 

206,729

 

266,683

 

Home sale deposits

 

29,698

 

42,022

 

Liabilities related to real estate not owned

 

22,575

 

4,269

 

Loans payable and other borrowings

 

255,167

 

254,640

 

Senior and senior subordinated notes

 

628,760

 

478,636

 

 

 

 

 

 

 

Total liabilities

 

1,222,570

 

1,163,693

 

 

 

 

 

 

 

Stockholders’ Equity:

 

 

 

 

 

Common stock, par value $0.01. Authorized 125,000,000 shares; issued and outstanding 34,140,364 and 34,035,084 shares at September 30, 2007 and December 31, 2006, respectively

 

341

 

340

 

Additional paid-in capital

 

341,691

 

332,652

 

Retained earnings

 

699,628

 

862,602

 

Treasury stock at cost, 7,891,068 shares

 

(188,762

)

(188,762

)

 

 

 

 

 

 

Total stockholders’ equity

 

852,898

 

1,006,832

 

 

 

 

 

 

 

Total liabilities and stockholders’ equity

 

$

2,075,468

 

$

2,170,525

 

 

See accompanying notes to condensed consolidated financial statements

 

3



 

MERITAGE HOMES CORPORATION AND SUBSIDIARIES
UNAUDITED CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS

(in thousands, except per share amounts)

 

 

 

Three Months Ended
September 30,

 

Nine Months Ended
September 30,

 

 

 

2007

 

2006

 

2007

 

2006

 

 

 

 

 

 

 

 

 

 

 

Home closing revenue

 

$

574,667

 

$

875,743

 

$

1,718,530

 

$

2,624,968

 

Land closing revenue

 

3,902

 

2,453

 

6,156

 

15,159

 

Total closing revenue

 

578,569

 

878,196

 

1,724,686

 

2,640,127

 

 

 

 

 

 

 

 

 

 

 

Cost of home closings

 

(489,412

)

(689,648

)

(1,437,637

)

(1,998,048

)

Cost of land closings

 

(3,814

)

(2,232

)

(5,708

)

(13,809

)

Home impairments

 

(147,538

)

(8,308

)

(243,437

)

(15,603

)

Land impairments

 

(847

)

 

(847

)

 

Total cost of closings and impairments

 

(641,611

)

(700,188

)

(1,687,629

)

(2,027,460

)

 

 

 

 

 

 

 

 

 

 

Home closing gross (loss)/profit

 

(62,283

)

177,787

 

37,456

 

611,317

 

Land closing gross (loss)/profit

 

(759

)

221

 

(399

)

1,350

 

Total closing gross (loss)/profit

 

(63,042

)

178,008

 

37,057

 

612,667

 

 

 

 

 

 

 

 

 

 

 

Commissions and other sales costs

 

(49,598

)

(55,934

)

(145,003

)

(156,810

)

General and administrative expenses

 

(21,308

)

(34,347

)

(76,385

)

(128,413

)

Goodwill and related impairments

 

(45,000

)

 

(72,952

)

 

(Loss)/earnings from unconsolidated entities, net

 

(14,441

)

4,238

 

(9,495

)

15,077

 

Interest expense and other income, net

 

972

 

2,482

 

7,775

 

7,867

 

 

 

 

 

 

 

 

 

 

 

(Loss)/earnings before income taxes

 

(192,417

)

94,447

 

(259,003

)

350,388

 

Benefit/(provision) for income taxes

 

73,865

 

(34,908

)

98,991

 

(134,058

)

 

 

 

 

 

 

 

 

 

 

Net/(loss) earnings

 

$

(118,552

)

$

59,539

 

$

(160,012

)

$

216,330

 

 

 

 

 

 

 

 

 

 

 

(Loss)/earnings per common share:

 

 

 

 

 

 

 

 

 

Basic

 

$

(4.52

)

$

2.28

 

$

(6.10

)

$

8.15

 

Diluted

 

$

(4.52

)

$

2.25

 

$

(6.10

)

$

7.94

 

 

 

 

 

 

 

 

 

 

 

Weighted average number of shares:

 

 

 

 

 

 

 

 

 

Basic

 

26,249

 

26,087

 

26,216

 

26,554

 

Diluted

 

26,249

 

26,490

 

26,216

 

27,259

 

 

See accompanying notes to condensed consolidated financial statements

 

4



 

MERITAGE HOMES CORPORATION AND SUBSIDIARIES
UNAUDITED CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS

(in thousands)

 

 

 

Nine Months Ended
September 30,

 

 

 

2007

 

2006

 

 

 

 

 

 

 

Cash flows from operating activities:

 

 

 

 

 

Net (loss)/earnings

 

$

(160,012

)

$

216,330

 

Adjustments to reconcile net (loss)/earnings to net cash used in operating activities:

 

 

 

 

 

Depreciation and amortization

 

13,457

 

15,272

 

Real estate related impairments

 

244,284

 

16,233

 

Goodwill-related impairments

 

72,952

 

 

Increase in deferred taxes

 

(81,424

)

 

Stock-based compensation

 

6,735

 

9,397

 

Excess income tax benefit from stock-based awards

 

(346

)

(11,190

)

Loss/(income) from earnings from unconsolidated entities (includes $24.5 million of impairments to joint ventures in 2007)

 

9,495

 

(15,077

)

Distributions of earnings from unconsolidated entities

 

12,229

 

13,958

 

Changes in assets and liabilities:

 

 

 

 

 

Increase in real estate

 

(147,413

)

(192,132

)

Decrease/(increase) in deposits on real estate under option or contract

 

16,003

 

(35,410

)

Increase in receivables and prepaid expenses and other assets

 

(24,919

)

(26,844

)

Decrease in accounts payable and accrued liabilities

 

(110,650

)

(39,158

)

Decrease in home sale deposits

 

(12,324

)

(19,018

)

Net cash used in operating activities

 

(161,933

)

(67,639

)

 

 

 

 

 

 

Cash flows from investing activities:

 

 

 

 

 

Investments in unconsolidated entities

 

(25,851

)

(43,057

)

Distributions of capital from unconsolidated entities

 

32,910

 

15,563

 

Purchases of property and equipment

 

(10,739

)

(21,328

)

Proceeds from sales of property and equipment

 

732

 

1,006

 

Net cash used in investing activities

 

(2,948

)

(47,816

)

 

 

 

 

 

 

Cash flows from financing activities:

 

 

 

 

 

Net borrowings under line of credit agreement

 

8,000

 

206,400

 

Proceeds from loans payable and other borrowings

 

 

1,214

 

Repayments of loan payable and other borrowings

 

(1,309

)

 

Proceeds from issuance of senior subordinated notes

 

150,000

 

 

Debt issuance costs

 

(5,428

)

 

Purchase of treasury stock

 

 

(105,384

)

Payments of senior notes

 

 

(1,254

)

Excess income tax benefit from stock-based awards

 

346

 

11,190

 

Proceeds from stock option exercises

 

1,859

 

12,913

 

Net cash provided by financing activities

 

153,468

 

125,079

 

 

 

 

 

 

 

Net decrease/(increase) in cash and cash equivalents

 

(11,413

)

9,624

 

Cash and cash equivalents at beginning of period

 

56,710

 

65,812

 

Cash and cash equivalents at end of period

 

$

45,297

 

$

75,436

 

 

See supplemental disclosures of cash flow information at Notes 7 and 11.

 

See accompanying notes to condensed consolidated financial statements

 

5



 

MERITAGE HOMES CORPORATION AND SUBSIDIARIES

NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

FOR THE NINE MONTHS ENDED SEPTEMBER 30, 2007 AND 2006

 

NOTE 1 - ORGANIZATION AND BASIS OF PRESENTATION

 

Organization. Meritage Homes is a leading designer and builder of single-family attached and detached homes in the historically high-growth regions of the western and southern United States based on the number of home closings. We offer first-time, move-up, active adult and luxury homes to our targeted customer base. We have operations in three regions:  West, Central and East, which are comprised of 14 metropolitan areas in Arizona, Texas, California, Nevada, Colorado and Florida. Through our successors, we commenced our homebuilding operations in 1985. Meritage Homes Corporation was incorporated in 1988 in the State of Maryland.

 

Our homebuilding and marketing activities are conducted under the name of Meritage Homes in each of our markets, except for certain communities in Arizona, where we also operate under the name of Monterey Homes, and in Texas, where we also operate in certain communities as Legacy Homes and Monterey Homes. At September 30, 2007, we were actively selling homes in 221 communities, with base prices ranging from approximately $114,000 to $1,007,000.

 

Basis of Presentation. The accompanying consolidated financial statements have been prepared in accordance with accounting principles generally accepted in the United States and include the accounts of Meritage Homes Corporation and those of our consolidated subsidiaries, partnerships and other entities in which we have a controlling financial interest, and of variable interest entities (see Note 3) in which we are deemed the primary beneficiary (collectively, “us”, “we”, “our” and the “Company”). Intercompany balances and transactions have been eliminated in consolidation. In the opinion of management, the accompanying financial statements include all adjustments necessary for the fair presentation of our results for the interim periods presented.

 

The unaudited condensed statements of operations for the three and nine months ended September 30, 2007 are not necessarily indicative of the results to be expected for the full year. These condensed consolidated financial statements should be read in conjunction with our 2006 Annual Report on Form 10-K.

 

Real Estate. Real estate is stated at the lower of cost or fair value and includes the costs of land acquisition, land development and home construction, capitalized interest, real estate taxes and direct overhead costs incurred during development and construction that benefit the entire community. Land and development costs are typically allocated to individual lots on a relative value basis. The costs of these lots are transferred to homes under construction when construction begins. Home construction costs are accumulated on a per-home basis. Cost of home closings includes the specific construction costs of the home and all related land acquisition, land development and other common costs (both incurred and expected to be incurred) based upon the total number of homes expected to be closed in each community. Any changes to the estimated total development costs of a community are allocated on a relative value basis to the remaining homes in the community. When a home is closed, we generally have not yet paid all costs incurred to complete it. At the time of close, we record a liability and a charge to cost of sales for the amount we expect will ultimately be paid to complete the home.

 

In accordance with Statement of Financial Accounting Standards (“SFAS”) No. 144, “Accounting for the Impairment or Disposal of Long-Lived Assets” (“SFAS No. 144”), land inventory and related communities under development are reviewed for potential write-downs annually or when impairment indicators are present. SFAS No. 144 requires that in the event the undiscounted cash flows projected for those assets are less than their carrying amounts, an impairment charge is recorded to bring the assets to fair value. Our determination of fair value is based on projections and estimates, including future sales prices, construction costs and absorption rates. Changes in these expectations may lead to a change in the outcome of our impairment analysis. Our analysis is completed at the community level; therefore, changes in local conditions may affect one or several of our communities. For those assets deemed to be impaired, the impairment to be recognized is measured as the amount by which the carrying amount exceeds the fair value of the assets.

 

6



 

The real-estate and joint-venture impairment charges recorded during the three- and nine-month periods ended September 30, 2007 and September 30, 2006 were as follows (in thousands):

 

 

 

Three Months Ended
September 30,

 

Nine Months Ended
September 30,

 

 

 

2007

 

2006

 

2007

 

2006

 

 

 

 

 

 

 

 

 

 

 

Terminated option/purchase contracts

 

 

 

 

 

 

 

 

 

West

 

$

34,273

 

$

 

$

46,484

 

$

2,364

 

Central

 

12,699

 

1,724

 

17,449

 

1,795

 

East

 

746

 

2,911

 

19,904

 

3,311

 

Total

 

$

47,718

 

$

4,635

 

$

83,837

 

$

7,470

 

 

 

 

 

 

 

 

 

 

 

Real estate inventory impairments

 

 

 

 

 

 

 

 

 

West

 

$

63,299

 

$

3,673

 

$

111,821

 

$

7,384

 

Central

 

22,844

 

 

28,890

 

749

 

East

 

13,677

 

 

18,889

 

 

Total

 

$

99,820

 

$

3,673

 

$

159,600

 

$

8,133

 

 

 

 

 

 

 

 

 

 

 

Impairments of joint venture investments

 

 

 

 

 

 

 

 

 

West

 

$

1,680

 

$

 

$

2,800

 

$

 

Central

 

21,689

 

 

21,689

 

 

East

 

 

 

 

 

Total

 

$

23,369

 

$

 

$

24,489

 

$

 

 

 

 

 

 

 

 

 

 

 

Impairments of land held for sale

 

 

 

 

 

 

 

 

 

West

 

$

 

$

 

$

 

$

 

Central

 

847

 

 

847

 

 

East

 

 

 

 

 

Total

 

$

847

 

$

 

$

847

 

$

 

 

 

 

 

 

 

 

 

 

 

Total impairments

 

 

 

 

 

 

 

 

 

West

 

$

99,252

 

$

3,673

 

$

161,105

 

$

9,748

 

Central

 

58,079

 

1,724

 

68,875

 

2,544

 

East

 

14,423

 

2,911

 

38,793

 

3,311

 

Total

 

$

171,754

 

$

8,308

 

$

268,773

 

$

15,603

 

 

The impairment charges were based on our fair value calculations, which are affected by current market conditions, such as the continued downturn of the homebuilding market, assumptions and expectations, all of which are highly subjective and may differ significantly from actual results if market conditions change.

 

Off-Balance-Sheet Arrangements – Joint Ventures. We participate in homebuilding and land development joint ventures from time to time as a means of accessing larger parcels of land and lot positions, expanding our market opportunities, managing our risk profile and leveraging our capital base. Based on the structure of these joint ventures, they may or may not be consolidated into our results. Our joint venture partners generally are other homebuilders, land sellers or other real estate investors. We generally do not have a controlling interest in these ventures, which means the venture could fail to take actions we believe should be undertaken, including the sale of the underlying property to repay debt or recoup all or part of the partners’ investments, and in some cases take actions with which we disagree.

 

We and/or our joint venture partners occasionally provide limited repayment guarantees on a pro rata basis on the debt of the land development joint ventures. At September 30, 2007, our share of these limited pro rata repayment guarantees was approximately $39.7 million.

 

In addition, we and/or our joint venture partners occasionally provide guarantees that are only applicable if and when the joint venture directly, or indirectly through agreement with its joint venture partners or other third parties, causes the joint venture to voluntarily file a bankruptcy or similar liquidation or reorganization action or take other actions that are fraudulent or improper (commonly referred to as “bad boy guarantees”). These types of guarantees typically are on a pro rata basis among the joint venture partners and are designed to protect the respective secured lender’s remedies with respect to its mortgage or other secured lien on the joint venture’s underlying property. To date, no such guarantees have been invoked and we believe that the actions

 

7



 

that would trigger the guarantee would generally be disadvantageous to the joint venture and to us; however, there can be no assurances that certain of our ventures will not elect to take actions that could trigger a bad boy guarantee, as it may be considered in their economic best interest to do so. At September 30, 2007, we had outstanding guarantees of this type totaling approximately $91.7 million. We believe these guarantees, as defined, unless invoked as described above, are not considered guarantees or indebtedness under our revolving credit facility or senior and senior subordinated indentures.

 

We and our joint venture partners are also typically obligated to the project lenders to complete land development improvements if the joint venture does not perform the required development.  Provided we and the other joint venture partners are in compliance with these completion obligations, the project lenders are generally obligated to fund these improvements through any financing commitments available under the applicable joint venture development and construction loans.  In addition, we and our joint venture partners have from time to time provided unsecured indemnities to joint venture project lenders.  These indemnities generally obligate us to reimburse the project lenders only for claims and losses related to matters for which such lenders are held responsible and our exposure under these indemnities is limited to specific matters such as environmental claims.  As part of our project acquisition due diligence process to determine potential environmental risks, we generally obtain, or the joint venture entity generally obtains, an independent environmental review from outside consultants.

 

We and our joint venture partners sometimes agree to indemnify third party surety providers with respect to performance bonds issued on behalf of certain of our joint ventures. If a joint venture does not perform its obligations, the surety bond could be called. If these surety bonds are called and the joint venture fails to reimburse the surety, we and our joint venture partners would be obligated to indemnify the surety. These surety indemnity arrangements are generally joint and several obligations with our other joint venture partners. As of September 30, 2007, we had approximately $45.3 million of surety bonds outstanding subject to these indemnity arrangements. None of these bonds have been called to date and we believe it is unlikely that any of these bonds will be called.

 

The joint venture obligations, guarantees and indemnities discussed above are generally provided by us or one or more of our subsidiaries. In joint ventures involving other homebuilders or developers, support for these obligations is generally provided by the parent companies of the joint venture partners. In connection with our periodic real estate impairment reviews, we accrue for any such commitments where we believe our obligation to pay is probable and can be reasonably estimated. In such situations, our accrual represents the portion of the total joint venture obligation related to our relative ownership percentage. In cases where our venture partners, some of whom are homebuilders or developers who may be experiencing financial difficulties as a result of current market conditions, may be unable to fulfill their pro rata share of a joint venture obligation, we may be fully responsible for these commitments if such commitments are joint and several. We continue to monitor these matters and will reserve for those obligations if and when they become probable and can be reasonably estimated.

 

Off-Balance-Sheet Arrangements – Other. We often acquire finished building lots from various development entities pursuant to option and purchase agreements. The purchase price typically approximates the market price at the date the contract is executed. We believe this lot acquisition strategy reduces the financial requirements and risks associated with direct land ownership and land development. Under these option and purchase agreements, we are usually required to make deposits in the form of cash or letters of credit, which may be forfeited if we fail to perform under the applicable agreements. As of September 30, 2007, we had entered into option and purchase agreements with an aggregate purchase price of approximately $1.3 billion and had made deposits of approximately $118.3 million ($106.8 million excluding our projects designated as real estate not owned) in the form of cash and approximately $31.1 million in letters of credit.

 

We obtain letters of credit and performance, maintenance and other bonds in support of our related obligations with respect to the development of our projects. The amount of these obligations outstanding at any time varies depending on the stage and level of our development activities. In the event the letters of credit or bonds are drawn upon, we would be obligated to reimburse the issuer of the letter of credit or bond. At September 30, 2007, we had approximately $37.1 million in outstanding letters of credit and $248.4 million in performance bonds for such purposes. We believe it is unlikely that any significant amounts of these letters of credit or bonds will be drawn upon.

 

Intangibles, Net. Intangible assets consist primarily of non-compete agreements acquired in connection with our September 2005 acquisition of Greater Homes. These intangible assets were valued at the acquisition date utilizing accepted valuation procedures and are being amortized over their estimated useful lives. The cost and accumulated amortization of our intangible assets was $7.4 million and $5.4 million, respectively, at September 30, 2007. In the first nine months of 2007, amortization expense was $0.8 million. Amortization expense is expected to be approximately $0.2 million in the remaining three months of 2007 and $0.7, $0.7 and $0.4 million per year in 2008, 2009 and 2010, respectively.

 

8



 

Additionally, in accordance with AICPA Statement of Position 98-1, “Accounting for Costs of Computer Software Developed or Obtained for Internal Use,” we have capitalized software costs at September 30, 2007 with a basis of $5.4 million, which is net of accumulated amortization of $7.2 million. In the first nine months of 2007, amortization expense was approximately $1.8 million related to the capitalized software costs and is expected to be approximately $0.3 million for the remaining three months of 2007 and $1.3, $1.3, $1.3, $1.0 and $0.2 million in 2008, 2009, 2010, 2011 and 2012, respectively. Additionally, we have $0.7 million of capitalized software costs that are still in the application stage.

 

Accrued Liabilities. Accrued liabilities consist of the following (in thousands):

 

 

 

At
September 30, 2007

 

At
December 31, 2006

 

Accruals related to real estate development and construction activities

 

$

94,419

 

$

120,604

 

Payroll and other benefits

 

32,795

 

54,893

 

Accrued taxes

 

2,962

 

9,112

 

Warranty reserves

 

30,639

 

28,437

 

Other accruals

 

45,914

 

53,637

 

Total

 

$

206,729

 

$

266,683

 

 

Warranty Reserves. As is customary in the homebuilding industry, we have obligations related to post-construction warranties and defects related to homes closed. We have established reserves for these obligations based on historical data and trends with respect to similar product types and geographic areas. Warranty reserves are included in accrued liabilities on the accompanying consolidated balance sheets. Additions to warranty reserves are included in cost of sales within the accompanying consolidated statements of earnings. We periodically review the adequacy of our warranty reserves, and believe they are sufficient to cover potential costs for materials and labor related to post-construction warranties and defects. A summary of changes in our warranty reserves follows (in thousands):

 

 

 

Three Months Ended
September 30,

 

Nine Months Ended
September 30,

 

 

 

2007

 

2006

 

2007

 

2006

 

Balance, beginning of period

 

$

30,986

 

$

26,494

 

$

28,437

 

$

25,168

 

Additions to reserve

 

3,658

 

6,075

 

14,370

 

16,468

 

Warranty claims and expenses

 

(4,005

)

(5,428

)

(12,168

)

(14,495

)

Balance, end of period

 

$

30,639

 

$

27,141

 

$

30,639

 

$

27,141

 

 

Recently Issued Accounting Pronouncements. There were no new accounting pronouncements issued during the quarter ended September 30, 2007 that are expected to have a material effect on our operating results or financial position.

 

FIN 48.    We adopted FASB Interpretation No. 48, “Accounting for Uncertainty in Income Taxes — an Interpretation of FASB Statement No. 109” (“FIN 48”) on January 1, 2007. FIN 48 clarifies the accounting and reporting for uncertainties in income tax law. This interpretation prescribes a comprehensive model for the financial statement recognition, measurement, presentation and disclosure of uncertain tax positions taken or expected to be taken in a company’s income tax returns. The cumulative effect of adopting FIN 48 was an increase in tax reserves and a decrease of $3.0 million to the January 1, 2007 retained earnings balance.

 

At January 1, 2007, our unrecognized tax benefits were $19.2 million, which would, if recognized, provide a benefit to us of $6.5 million and decrease our effective tax rate. We record interest and penalties related to uncertain tax positions in income tax expense. At January 1, 2007, approximately $1.9 million of the unrecognized tax benefits represents potential interest and penalties on uncertain tax positions. The decrease in unrecognized tax benefits during the first nine months of 2007 was $13.5 million and includes $0.8 million of interest. There are currently no unrecognized tax benefits that relate to items which would be affected by expiring statutes of limitation within the next 12 months.

 

We conduct business and are subject to tax in the U.S. and several states. With few exceptions, we are no longer subject to U.S. federal, state, or local income tax examinations by tax authorities for years prior to 2002. Our U.S. income tax return for 2003 has been examined by the IRS. The examination was completed in the second quarter of 2007, and there were no material changes to report. In the third quarter, the IRS commenced examination of one of our wholly-owned Texas limited partnership entities for the year 2004. At this time, there are no adjustments.

 

9



 

NOTE 2 – REAL ESTATE AND CAPITALIZED INTEREST

 

Real estate consists of the following (in thousands):

 

 

 

At
September 30, 2007

 

At
December 31, 2006

 

 

 

 

 

 

 

Homes under contract under construction

 

$

535,405

 

$

589,241

 

Finished home sites and home sites under development

 

624,098

 

592,949

 

Unsold homes, completed and under construction

 

255,334

 

271,559

 

Model homes

 

59,237

 

39,131

 

Model home lease program

 

20,667

 

26,831

 

Land held for development

 

9,396

 

10,891

 

 

 

$

1,504,137

 

$

1,530,602

 

 

Subject to sufficient qualifying assets, we capitalize development period interest costs incurred in connection with the development and construction of real estate. Capitalized interest is allocated to qualified real estate assets as incurred and charged to cost of home closings when the associated revenue is recognized. Certain information regarding capitalized interest follows (in thousands):

 

 

 

Three Months Ended
September 30,

 

Nine Months Ended
September 30,

 

 

 

2007

 

2006

 

2007

 

2006

 

Capitalized interest, beginning of period

 

$

45,514

 

$

27,835

 

$

33,016

 

$

23,939

 

Interest incurred

 

16,459

 

13,874

 

47,095

 

38,049

 

Interest expensed

 

(2,319

)

 

(2,638

)

 

Interest amortized to cost of home closings

 

(12,601

)

(12,508

)

(30,420

)

(32,787

)

Capitalized interest, end of period

 

$

47,053

 

$

29,201

 

$

47,053

 

$

29,201

 

 

At September 30, 2007, approximately $2.7 million of the capitalized interest is related to our joint venture investments and is a component of “Investments in unconsolidated entities” on our balance sheet.

 

NOTE 3 - VARIABLE INTEREST ENTITIES AND CONSOLIDATED REAL ESTATE NOT OWNED

 

FASB Interpretation No. 46 (as revised), “Consolidation of Variable Interest Entities” (“FIN 46R”) requires the consolidation of entities in which an enterprise absorbs a majority of the entity’s expected losses, receives a majority of the entity’s expected residual returns, or both, as a result of ownership, contractual or other financial interests in the entity. Prior to the issuance of FIN 46R, entities were generally consolidated when an enterprise had a controlling financial interest through ownership of a majority voting interest in the entity.

 

Based on the provisions of FIN 46R, we have concluded that when we enter into an option or purchase agreement to acquire land or lots and pay a non-refundable deposit, a variable interest entity, or VIE, may be created because we are deemed to have provided subordinated financial support that will absorb some or all of an entity’s expected losses if they occur. For each VIE created, we compute expected losses and residual returns based on the probability of future cash flows as outlined in FIN 46R. If we are the primary beneficiary of the VIE, we will consolidate the VIE in our financial statements.

 

We have applied FIN 46R by developing a methodology to determine whether or not we are the primary beneficiary of the VIE. Part of this methodology requires the use of estimates in assigning probabilities to various future cash flow possibilities relative to changes in the fair value and changes in the development costs associated with the property. Although we believe that our methodology properly identifies our primary beneficiary status with these VIEs, changes in the probability and other estimates could produce different conclusions.

 

In most cases, creditors of the entities with which we have option agreements have no recourse against us and the maximum exposure to loss in our option agreements is limited to our option deposit and any capitalized pre-acquisition costs. Often, we are at risk for items over budget related to land development on property we have under option. In these cases, we have contracted to complete development at a fixed cost on behalf of the land owner. Some of our option deposits may be refundable if certain contractual conditions are not performed by the party selling the lots to us.

 

10



 

The table below presents a summary of our lots under option or contract at September 30, 2007 (dollars in thousands):

 

 

 

 

 

 

 

Option/Earnest
Money Deposits

 

 

 

Number of
Lots

 

Purchase
Price

 

Cash

 

Letters of
Credit

 

 

 

 

 

 

 

 

 

 

 

Option contracts recorded on balance sheet as real estate not owned (1), (2)

 

1,059

 

$

34,062

 

$

11,487

 

$

 

Option contracts not recorded on balance sheet – non-refundable deposits, committed (1)

 

17,474

 

 

927,083

 

 

74,729

 

 

30,660

 

Purchase contracts not recorded on balance sheet – non-refundable deposits, committed (1)

 

2,212

 

109,212

 

28,534

 

409

 

Total committed (on and off balance sheet)

 

20,745

 

1,070,357

 

114,750

 

31,069

 

Option contracts not recorded on balance sheet – non-refundable, uncommitted (1)(3)

 

1,554

 

74,490

 

3,255

 

 

Purchase contracts not recorded on balance sheet – refundable deposits, uncommitted (4)

 

3,356

 

121,902

 

250

 

 

Total uncommitted

 

4,910

 

196,392

 

3,505

 

 

Total lots under option or contracts

 

 

25,655

 

$

1,266,749

 

$

118,255

 

$

31,069

 

 

 

 

 

 

 

 

 

 

 

 

Total option contracts not recorded on balance sheet

 

24,596

 

$

1,232,687

 

$

106,768

(5)

31,069

 

 


(1)           Deposits are non-refundable except if certain contractual conditions are not performed by the selling party.

 

(2)           The purpose and nature of these consolidated lot option contracts (VIEs) is to provide the Company the option to purchase these lots in anticipation of building homes on these lots in the future. Specific performance contracts are included in this balance.

 

(3)           Although we have made minimal non-refundable deposits, we have not completed our acquisition evaluation process and we have not internally committed to purchase these lots.

 

(4)           Deposits are refundable at our sole discretion. We have not completed our acquisition evaluation process and we have not internally committed to purchase these lots.

 

(5)           Amount is reflected in our balance sheet in the line item “deposits on real estate under option or contract” as of September 30, 2007.

 

Generally, our options to purchase lots remain effective so long as we purchase a pre-established minimum number of lots each month or quarter, as determined by the respective agreement. Although the pre-established number is typically structured to approximate our expected rate of home construction starts, during a weakened homebuilding market as we are currently experiencing, we may purchase lots at an absorption level that exceeds our sales and home starts pace.

 

NOTE 4 - INVESTMENTS IN UNCONSOLIDATED ENTITIES

 

We participate in homebuilding and land development joint ventures from time to time as a means of accessing larger parcels of land and lot positions, expanding our market opportunities, managing our risk profile and leveraging our capital base. Based on the structure of these joint ventures, they may or may not be consolidated into our results. Our joint venture partners generally are other homebuilders, land sellers or other real estate investors. We generally do not have a controlling interest in these ventures, which means our joint venture partners could cause the venture to take actions we disagree with, or fail to take actions we believe should be undertaken, including the sale of the underlying property to repay debt or recoup all or part of the partners’ investments.

 

We also enter into mortgage and title business joint ventures. The mortgage joint ventures are engaged in mortgage brokerage activities and they originate and provide services to both our clients and other homebuyers. The mortgages originated by these ventures are primarily funded by third-party mortgage lenders with limited recourse back to us or our joint ventures. Our mortgage and title joint venture investment as of September 30, 2007 was $1.8 million.

 

For land development joint ventures, we, and in some cases our joint venture partners, usually receive an option or other similar arrangement to purchase portions of the land held by the joint venture. Option prices are generally negotiated prices that approximate market value when we enter into the option contract. For homebuilding and land development joint

 

11



 

ventures, our share of the joint venture earnings relating to lots we purchase from the joint ventures is deferred until homes are delivered by us and title passes to a homebuyer. Therefore, we allocate such joint venture earnings to the land acquired by us as a reduction in the basis of the property.

 

See Note 1 “Off Balance Sheet Arrangements—Joint Ventures” section for additional discussion related to our joint ventures and off-balance sheet obligations and guarantees.

 

Summarized condensed financial information related to unconsolidated joint ventures that are accounted for using the equity method follows (in thousands):

 

 

 

At
September 30, 2007

 

At
December 31, 2006

 

Assets:

 

 

 

 

 

Cash

 

$

10,796

 

$

14,392

 

Real estate

 

623,266

 

723,753

 

Other assets

 

27,988

 

25,722

 

Total assets

 

$

662,050

 

$

763,867

 

 

 

 

 

 

 

Liabilities and equity:

 

 

 

 

 

Accounts payable and other liabilities

 

$

18,344

 

$

26,639

 

Notes and mortgages payable

 

465,027

 

471,197

 

Equity of:

 

 

 

 

 

Meritage (1)

 

59,105

 

93,792

 

Others

 

119,574

 

172,239

 

Total liabilities and equity

 

$

662,050

 

$

763,867

 

 

 

 

Three Months Ended
September 30,

 

Nine Months Ended
September 30,

 

 

 

2007

 

2006

 

2007

 

2006

 

Revenues

 

$

85,550

 

$

26,933

 

$

133,810

 

$

72,865

 

Costs and expenses

 

(68,693

)

(13,923

)

(107,247

)

(31,588

)

Net earnings of unconsolidated entities

 

$

16,857

 

$

13,010

 

$

26,563

 

$

41,277

 

Meritage’s share of pre-tax earnings (2) (3)

 

$

8,937

 

$

4,353

 

$

15,076

 

$

15,883

 

 


(1)           Balance represents Meritage’s interest, as reflected in the financial records of the respective joint ventures. This balance may differ from the balance reflected in our consolidated balance sheets due to the following items:  (i) timing differences for revenue and distributions recognition, (ii) step-up basis and corresponding amortization, (iii) income deferrals as discussed in Note 3 below and (iv) joint-venture asset impairments recorded only in our financial statements.

 

(2)           The joint venture financial statements above represent the most recent information available to us. As our portion of pre-tax earnings is recorded on the accrual basis and includes both actual earnings reported to us as well as accrued expected earnings for the period noted above not yet provided to us by our joint venture partners, our relative portion of total net earnings of the unconsolidated joint ventures in the table may reflect a different time frame than that represented by the joint venture financials. Additionally, during the three and nine months ended September 30, 2007, we recorded $23.4 million and $24.5 million, respectively, of impairments related to our joint venture assets. See Note 1 “Real Estate” for detail of our joint-venture-related impairments.

 

(3)           Our share of pre-tax earnings is recorded in “Earnings from unconsolidated entities, net” on our consolidated statements of operations. Our share of pre-tax earnings excludes joint venture earnings related to lots we purchased from the joint ventures. Those earnings are deferred until homes are delivered by us and title passes to a homebuyer.

 

At September 30, 2007 and December 31, 2006, our investments in unconsolidated entities includes $3.7 million and $2.8 million, respectively, related to the difference between the amounts at which our investments are carried and the amount of underlying equity in net assets. These amounts are amortized as the assets of the respective joint ventures are sold. We amortized approximately $614,000 and $169,000 in the third quarters of 2007 and 2006, respectively. We amortized approximately $875,000 and $932,000 in the first nine months of 2007 and 2006, respectively.

 

12



 

The Notes and mortgages payable balances noted in the table above represent the total debt of our unconsolidated joint ventures. Approximately $8.3 million of this debt, related to a single joint venture, matured on October 17, 2007. This joint venture is negotiating with its lender to allow the joint venture to attempt to consummate a sale of the joint venture's real estate securing such debt. Our investment in the property is less than $400,000 and the associated debt is non-recourse to the joint venture and its partners. An additional $21.5 million of the debt in the table above relates to another joint venture for which the venture received a non-payment default notice subsequent to September 30, 2007. The joint venture disputes that a default has occurred and is negotiating with its lender to resolve the matter, as well as seek the payment by the lender of approximately $2.0 million in construction draws related to development of the joint venture's real estate assets. Our investment related to this joint venture at September 30, 2007 was less than $800,000, which could be at risk if this matter is not resolved in our favor. This loan is also non-recourse to the venture and its partners but does have joint and several completion guarantees from the joint venture partners.

 

Subsequent to September 30, 2007, our joint venture partner in another venture informed us that they do not have the financial ability to continue to perform under the joint venture agreement, including continuing to purchase lots, make additional capital contributions or perform under guarantees or indemnities. We are now discussing these matters with our joint venture lenders. Our investment in this venture at September 30, 2007 was less than $400,000 and the debt of this venture (included in the table above) was $37.3 million with a first lender position and $24.6 million with a mezzanine lender.  Except for the existence of springing bad day guarantees, all of this debt is non-recourse to the partners. We are working with the lenders to restructure this joint venture, although it may be in our best interest to unwind the joint venture and bring a portion of the assets and associated debt on balance sheet.

 

We and our joint-venture partners are actively pursuing a successful resolution to these matters, including renegotiating the terms of the debt, a sale of the joint venture's assets, or unwinding the venture and bringing its assets onto our balance sheet. If we are unsuccessful in resolving the matters discussed above, we may need to further impair these assets. As the ventures’ debt obligations are non-recourse, our losses will be limited to the remaining investment balance, although we may have completion or other ancillary guarantees as discussed in Note 1.

 

In addition to joint ventures accounted for under the equity method summarized in the above table, our investments in unconsolidated entities include joint ventures recorded under the cost method. These joint ventures were formed to acquire large parcels of land, to perform off-site development work and to sell lots to the joint venture members and other third parties. At September 30, 2007, and December 31, 2006, our investments in unconsolidated entities recorded under the cost method were $10.0 and $17.7 million, respectively.

 

At September 30, 2007, our total investment in unconsolidated joint ventures of $57.4 million is primarily comprised of $14.1 million in our West Region and $39.7 million in our Central Region. At December 31, 2006, our total investment in unconsolidated joint ventures of $114.3 million was primarily comprised of $35.2 million in our West Region and $74.7 million in our Central Region.

 

NOTE 5 - - LOANS PAYABLE AND OTHER BORROWINGS

 

Loans payable consists of the following (in thousands):

 

 

September 30,

 

December 31,

 

 

 

2007

 

2006

 

$800 million unsecured revolving credit facility maturing May 2011 with extension provisions, and interest payable monthly at LIBOR (5.72% at September 30, 2007) plus 1.25% or prime (7.75% at September 30, 2007)

 

$

234,500

 

$

226,500

 

 

 

 

 

 

 

Model home lease program, with interest in the form of lease payments payable monthly approximating 8.25% at September 30, 2007

 

20,667

 

26,831

 

 

 

 

 

 

 

Other borrowings, acquisition and development financing

 

 

1,309

 

 

 

 

 

 

 

Total loans payable and other borrowings

 

$

255,167

 

$

254,640

 

 

In September 2007, we amended our senior unsecured credit facility (the “Credit Facility”) with Guaranty Bank and various other financial institutions to (i) reduce the total borrowing capacity to $800 million from $850 million, (ii) modify the applicable interest rate by 20.0 to 27.5 basis points, depending on the Company’s Leverage Ratio (as defined), (iii) reduce the Interest Coverage Ratio (as defined) for a period of up to nine consecutive quarters, and (iv) to further reduce the Interest Coverage Ratio for a period of up to three consecutive quarters.

 

In May 2007, we amended our Credit Facility with Guaranty Bank to extend the maturity to May 18, 2011 and make changes to certain covenants and definitions, including (i) changing certain aggregate asset-type limitations within the borrowing base, (ii) increasing the minimum consolidated tangible net worth requirement to $600 million plus 50% of consolidated net income (as defined) for each full fiscal quarter ending after December 31, 2006, plus an amount equal to 50% of the aggregate increases in consolidated tangible net worth (as defined) after December 31, 2006 by reason of the issuance and sale of equity interests, plus an amount equal to the net worth of any person that becomes a guarantor after December 31, 2006 by reason of merger or acquisition and (iii) changing the covenants relating to restrictions on the total land and unsold units that we may own.

 

13



 

The construction costs and related debt associated with certain model homes that are owned and leased to us by others and that we use to market our communities are required to be included on our balance sheet. We do not legally own these model homes, but we are reimbursed by the owner for our construction costs and we have the right, but not the obligation, to purchase these homes. Although we have no legal obligation to repay any amounts received from the third-party owner, such amounts are recorded as debt and are typically deemed repaid when we simultaneously exercise our option to purchase the model home and sell it to a third-party home buyer. Should we elect not to exercise our rights to purchase these model homes, the model home costs and related debt under the model lease program will be eliminated upon the termination of the lease, which generally has a maturity date of one to three years from the origination of the lease. During the first nine months of 2007, $6.2 million of such leases were exercised or terminated, $2.5 million of which were exercised or terminated in the third quarter of 2007.

 

NOTE 6 - SENIOR AND SENIOR SUBORDINATED NOTES

 

Senior notes consist of the following (in thousands):

 

 

 

September 30,
2007

 

December 31,
2006

 

7.73% senior subordinated notes due 2017

 

$

150,000

 

$

 

6.25% senior notes due 2015. At September 30, 2007 and December 31, 2006, there was approximately $1.3 and $1.4 million in unamortized discount, respectively

 

348,702

 

348,571

 

7.0% senior notes due 2014. At both September 30, 2007, and December 31, 2006, there was approximately $0.1 million in unamortized premium

 

130,058

 

130,065

 

 

 

$

628,760

 

$

478,636

 

 

Our Credit Facility and indentures for all our senior and senior subordinated notes contain covenants that require maintenance of certain levels of tangible net worth and compliance with certain minimum financial ratios, place limitations on the payment of dividends and redemptions of equity, and limit the incurrence of additional indebtedness, asset dispositions, mergers, certain investments and creations of liens, among other items. As of and for the quarter ended September 30, 2007, we were in compliance with these covenants. After considering our most restrictive bank covenants at September 30, 2007, we have additional borrowing availability under the Credit Facility of $442.4 million. The Credit Facility and indentures relating to our senior and senior subordinated notes restrict our ability to pay dividends, and at September 30, 2007, our maximum permitted amount available to pay dividends was $323.2 million.

 

Obligations to pay principal and interest on the Credit Facility and senior and senior subordinated notes are guaranteed by all of our subsidiaries (collectively, the “Guarantor Subsidiaries”), each of which is directly or indirectly 100% owned by Meritage Homes Corporation. Such guarantees are full and unconditional, and joint and several. We do not provide separate financial statements of the Guarantor Subsidiaries because Meritage (the parent company) has no independent assets or operations, the guarantees are full and unconditional and joint and several and there are no non-guarantor subsidiaries. There are no significant restrictions on the ability of the Company or any Guarantor Subsidiary to obtain funds from their respective subsidiaries, as applicable, by dividend or loan.

 

NOTE 7 - GOODWILL

 

Goodwill represents the excess of the purchase price of our acquisitions over the fair value of the assets acquired. The changes in the carrying amount of goodwill for the nine months ended September 30, 2007, follow (in thousands):

 

 

 

Corporate

 

West

 

Central

 

East

 

Total

 

Balance at December 31, 2006

 

$

1,323

 

$

37,277

 

$

53,970

 

$

37,089

 

$

129,659

 

Goodwill impairment

 

 

(24,890

)

(10,000

)

(36,996

)

(71,886

)

Non-cash amortization of excess tax basis

 

 

(88

)

(54

)

(93

)

(235

)

Balance at September 30, 2007

 

$

1,323

 

$

12,299

 

$

43,916

 

$

 

$

57,538

 

 

Analysis of the potential impairment of goodwill requires a two-step process, as stated in SFAS No. 142, “Goodwill and Other Intangible Assets”. The first step is the estimation of the fair value of each reporting unit. If step one indicates that impairment potentially exists, the second step is performed to measure the amount of the impairment, if any. Goodwill impairment exists when the estimated fair value of goodwill is less than its carrying value. At September 30, 2007, we completed the first step of our goodwill impairment analysis.

 

14



 

We estimated the fair value of our reporting units based on a discounted projection of future cash flows, supported with a market based valuation of our Company as a whole, and concluded that an impairment loss was probable and could be reasonably estimated for our reporting units. Based on these results, the goodwill balances were impaired as noted in the table above. The total impact of the goodwill impairments in the three months ended September 30, 2007 were $45.0 million and $71.9 million in the first nine months of 2007. There were no such impairments in 2006.

 

We are still in the process of finalizing our goodwill analysis and expect to complete the full evaluation during the fourth quarter of fiscal 2007. Any adjustments to our analysis, further deterioration in the homebuilding market or decline in our stock price could result in additional impairments or other adjustments to our preliminary estimates once the second step of the goodwill impairment analysis is further refined and completed. These impairments and adjustments could be material. Any further adjustments to our preliminary estimates as a result of completing this evaluation will be recorded in the financial statements and disclosed in our annual report on Form 10-K for the year ending December 31, 2007.

 

NOTE 8 – (LOSS) EARNINGS PER SHARE

 

Basic and diluted earnings per common share are presented in conformity with SFAS No. 128, “Earnings per Share”. The following table presents the calculation of basic and diluted earnings per common share (in thousands, except per share amounts):

 

 

 

Three Months Ended
September 30,

 

Nine Months Ended
September 30,

 

 

 

2007

 

2006

 

2007

 

2006

 

Basic weighted average number of shares outstanding

 

26,249

 

26,087

 

26,216

 

26,554

 

 

 

 

 

 

 

 

 

 

 

Effect of dilutive securities:

 

 

 

 

 

 

 

 

 

Stock options and restricted stock (1)

 

 

403

 

 

705

 

 

 

 

 

 

 

 

 

 

 

Diluted weighted average shares outstanding

 

26,249

 

26,490

 

26,216

 

27,259

 

 

 

 

 

 

 

 

 

 

 

Net (loss) earnings

 

$

(118,552

)

$

59,539

 

$

(160,012

)

$

216,330

 

 

 

 

 

 

 

 

 

 

 

Basic (loss) earnings per share

 

$

(4.52

)

$

2.28

 

$

(6.10

)

$

8.15

 

 

 

 

 

 

 

 

 

 

 

Diluted (loss) earnings per share (1)

 

$

(4.52

)

$

2.25

 

$

(6.10

)

$

7.94

 

 


(1)           For periods with a net loss, basic weighted average shares outstanding are used for diluted calculations as required by accounting principles generally accepted in the United States.

 

At September 30, 2007, all 2.3 million outstanding stock options were anti-dilutive. For the three and nine months ended September 30, 2006, approximately 965,000 and 645,000 stock options, respectively, were anti-dilutive.

 

NOTE 9 - STOCK-BASED COMPENSATION

 

We have two stock compensation plans (together, the “Plans”), which were approved by our stockholders and are administered by our Board of Directors. The Plans authorize awards to officers, key employees, non-employee directors and consultants for up to 6,600,000 shares of common stock, of which 604,674 shares remain available for grant at September 30, 2007. We believe that such awards provide a means of performance-based compensation to attract and retain qualified employees and better align the interests of our employees with those of our stockholders. Generally, option awards are granted with an exercise price equal to the market price of Meritage stock at the date of grant, a five-year ratable vesting period and a seven-year contractual term.

 

15



 

The fair values of option awards are estimated using a Black-Scholes option pricing model that uses the assumptions noted in the following table:

 

 

 

Nine Months Ended September 30,

 

 

 

2007

 

2006

 

Expected volatility

 

42.61

%

46.36

%

Expected dividends

 

0

%

0

%

Expected term (in years)

 

4.56

 

5.02

 

Risk-free interest rate

 

4.89

%

5.03

%

Weighted average grant date fair value of options granted

 

$

20.49

 

$

24.97

 

 

As of September 30, 2007, we had $25.8 million of total unrecognized compensation cost related to non-vested stock-based compensation arrangements granted under the Plans that will be recognized on a straight-line basis over the remaining vesting periods, which we expect to be recognized over a weighted-average period of 3.3 years. For the three months ended September 30, 2007 and 2006, our total stock-based compensation expense was $2.5 million ($1.9 million net of tax) and $2.0 million ($1.5 million net of tax), respectively. For the nine months ended September 30, 2007 and 2006, our total stock-based compensation expense was $6.7 million ($5.1 million net of tax) and $9.3 million ($6.8 million net of tax), respectively. We granted 757,667 options and 96,333 shares of restricted stock during the first nine months of 2007.

 

In October 2007, we announced a tender offer to purchase, for a one-time cash payment of $1.50 per option, all stock options granted to employees and directors between January 1, 2005 and December 31, 2006 with a strike price in excess of $45.00. A total of 665,000 options were eligible for repurchase. The tender offer expired October 29, 2007 with 665,000 options tendered for an aggregate cash payment of $997,500. In connection with the repurchase, approximately $11.0 million of non-cash stock-based compensation charges will be recorded in the fourth quarter to reflect the accelerated vesting of the cancelled options, as required by accounting standards generally accepted in the United States.

 

NOTE 10 - INCOME TAXES

 

Components of the provision for income taxes (benefit) are (in thousands):

 

 

 

Three Months Ended
September 30,

 

Nine Months Ended
September 30,

 

 

 

2007

 

2006

 

2007

 

2006

 

Federal

 

$

(63,731

)

$

30,474

 

$

(86,162

)

$

116,469

 

State

 

(10,134

)

4,434

 

(12,829

)

17,589

 

Total

 

$

(73,865

)

$

34,908

 

$

(98,991

)

$

134,058

 

 

NOTE 11 - SUPPLEMENTAL DISCLOSURE OF CASH FLOW INFORMATION

 

The following presents certain supplemental cash flow information (in thousands):

 

 

 

Nine Months Ended
September 30,

 

 

 

2007

 

2006

 

Cash paid during the period for:

 

 

 

 

 

Interest

 

$

45,970

 

$

37,973

 

Income taxes

 

$

31,645

 

$

188,718

 

Non-cash operating activities:

 

 

 

 

 

Real estate not owned

 

$

28,793

 

$

3,748

 

FIN 48 adoption – unrecognized tax benefits

 

$

2,962

 

$

 

Non-cash investing activities:

 

 

 

 

 

Distributions from unconsolidated entities

 

$

27,562

 

$

7,645

 

 

NOTE 12 — OPERATING AND REPORTING SEGMENTS

 

As defined in SFAS No. 131, “Disclosures about Segments of an Enterprise and Related Information,” we have six operating segments (the six states in which we operate). The operating segments aggregating into our three reporting segments have been determined to have similar economic characteristics such as: historical and projected future operating

 

16



 

results, employment trends, land acquisition and land constraints, municipality behavior, and also meet the other qualitative aggregation criteria. Our reportable homebuilding segments are aggregated in the following Regions:

 

West:       California and Nevada

Central: Texas, Arizona and Colorado

East:       Florida

 

Management’s evaluation of segment performance is based on segment operating income, which we define as homebuilding and land revenues less cost of home construction, commissions and other sales costs, land development and other land sales costs and other costs incurred by or allocated to each segment. Each reportable segment follows the same accounting policies described in Note 1, “Organization and Basis of Presentation,” to the consolidated financial statements in our 2006 Annual Report on Form 10-K. Operating results for each segment may not be indicative of the results for such segment had it been an independent, stand-alone entity for the periods presented. The following segment information is in thousands:

 

 

 

Three Months Ended
September 30,

 

Nine Months Ended
September 30,

 

 

 

2007

 

2006

 

2007

 

2006

 

Revenue (1):

 

 

 

 

 

 

 

 

 

West

 

$

129,806

 

$

281,223

 

$

368,123

 

$

890,954

 

Central

 

409,675

 

549,890

 

1,234,514

 

1,558,302

 

East

 

39,088

 

47,083

 

122,049

 

190,871

 

Consolidated total

 

$

578,569

 

$

878,196

 

$

1,724,686

 

$

2,640,127

 

 

 

 

 

 

 

 

 

 

 

Operating (loss)/income (2):

 

 

 

 

 

 

 

 

 

West

 

$

(104,484

)

$

27,812

 

$

(175,477

)

$

133,332

 

Central

 

(6,788

)

71,542

 

53,843

 

231,180

 

East

 

(17,252

)

(1,380

)

(42,820

)

17,506

 

 

 

 

 

 

 

 

 

 

 

Segment operating/(loss) income

 

(128,524

)

97,974

 

(164,454

)

382,018

 

Corporate and unallocated (3)

 

(5,424

)

(10,247

)

(19,877

)

(54,574

)

Goodwill and related impairments

 

(45,000

)

 

(72,952

)

 

(Loss)/earnings from unconsolidated entities, net

 

(14,441

)

4,238

 

(9,495

)

15,077

 

Interest expense and other income, net

 

972

 

2,482

 

7,775

 

7,867

 

 

 

 

 

 

 

 

 

 

 

(Loss)/earnings before income taxes

 

$

(192,417

)

$

94,447

 

$

(259,003

)

$

350,388

 

 

 

 

At September 30, 2007

 

At December 31, 2006

 

Assets

 

 

 

 

 

West

 

$

567,479

 

$

602,039

 

Central

 

1,150,939

 

1,183,533

 

East

 

119,816

 

168,010

 

Corporate and unallocated (4)

 

237,234

 

216,943

 

Consolidated total

 

$

2,075,468

 

$

2,170,525

 

 


(1)           Revenue includes the following land closing revenue, by segment (in thousands): three months ended September 30, 2007 - $3,902 in Central Region; three months ended September 30, 2006 - $2,453 in Central Region. Nine months ended September 30, 2007 - $6,156 in Central Region; nine months ended September 30, 2006 - $11,475 in West Region and $3,684 in Central Region.

 

(2)           See Note 1 for a breakout of real estate-related impairments by Region.

 

(3)           Balance consists primarily of corporate costs and numerous shared service functions such as finance, legal and treasury that are not allocated to the operating segments.

 

(4)           Balance consists primarily of goodwill and intangibles, deferred tax assets and other corporate assets not allocated to the segments.

 

See additional segment discussions in Notes 1, 4 and 7.

 

17



 

Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations

 

Overview and Outlook

 

Results for the three and nine months ending September 30, 2007 reflect the continued deterioration of the homebuilding industry. Excess new and existing home supply has lead to increased competition and margin compression. Home buyers are opting to wait to purchase a home until they believe the price declines have reached a bottom and that their new home will not lose value. Additionally, for those buyers motivated to take advantage of the current conditions, difficulties in obtaining mortgage financing, as well as the inability to sell their existing homes, are causing increased cancellation rates and lower net orders. As the pressures in the industry increase, homebuilders have offered additional incentives and discounts, which continue to negatively impact the industry’s performance. As a result of these conditions, for the three and nine months ended September 30, 2007, we recorded $216.8 million and $341.7 million, respectively, of real estate and goodwill impairments.

 

In response to these conditions, we are focusing on the following initiatives: (1) consolidating overhead functions at our divisions to reduce our general and administrative cost burden, (2) reducing our total lot supply by renegotiating or opting out of lot purchase and option contracts, (3) exercising tight control over cash flows, particularly as related to spec home starts and land development spending for long-range projects, (4) increasing sales and marketing efforts to generate additional traffic, and (5) monitoring our customer satisfaction scores and making improvements based on the results of the surveys.

 

In addition, in September, we amended our revolving credit agreement. The amendment allows for a reduction in the minimum interest coverage ratio, our most restrictive covenant, providing additional flexibility to weather these difficult financial times. However, the amendment also permanently decreased our capacity under the credit agreement, which expires in 2011, to $800 million, from $850 million. If such declines continue throughout our industry, we may not have sufficient liquidity under our current credit facility to execute our business plan. We may be required to further modify the facility and assess the viability of other methods of raising equity and/or debt capital to provide us with adequate liquidity to weather the current market decline and emerge with enough resources to take advantage of opportunities when the market turn around begins. There can be no assurances, however, that if needed, we will be able to obtain such modifications or raise such capital on terms acceptable to us, or at all.

 

Total home closing revenue was $574.7 million for the three months ended September 30, 2007, decreasing 34.4% from $875.7 million for the same period last year. Net earnings for the third quarter of 2007 decreased $178.1 million to a loss of ($118.6) million from earnings of $59.5 million in the same period last year. This decrease is primarily due to the $45.0 million (pre-tax) of goodwill impairments and $171.8 million (pre-tax) of real estate-related impairments recorded in the third quarter of 2007 as compared to $8.3 million of real-estate impairments in the same period of 2006 (there were no goodwill impairments in 2006). For the nine months ended September 30, 2007, home closing revenue and net loss were $1.7 billion and $160.0 million, down $906.4 million and $376.3 million, respectively, from the same time in the prior year. These declines are due to the lower average home prices from competitive pressures and the increased use of incentives, as well as the $341.7 million (pre-tax) of real estate-related and goodwill-related impairments for the first three quarters of 2007.

 

At September 30, 2007, our backlog of approximately $1.0 billion decreased 39.1% when compared to September 30, 2006, but decreased only 15.4% compared to June 30, 2007. These decreases are due to fewer home sales, compounded by increased price concessions and incentives, as the average sales price in backlog decreased from $327.5 at September 30, 2006 to $312.2 at June 30, 2007 to $300.1 at September 30, 2007. In the third quarter of 2007, our cancellation rate on sales orders increased to 41.3% of gross orders (or 26.3% of beginning backlog) as compared to 37.2% (18.9% of beginning backlog), in the same period a year ago, and 36.6% (25.2% of beginning of backlog) for the three months ended June 30, 2007.

 

Critical Accounting Policies

 

The accounting policies we deem most critical to us include revenue recognition, real estate, goodwill, warranty reserves, off-balance-sheet arrangements, valuation of deferred tax assets and share-based payments. There have been no significant changes to our critical accounting policies during the three and nine months ended September 30, 2007 compared to those disclosed in Item 7. Management’s Discussion and Analysis of Financial Condition and Results of Operations, included in our 2006 Annual Report on Form 10-K.

 

18



 

The data provided below presents operating and financial data regarding our homebuilding activities (dollars in thousands):

 

Home Closing Revenue

 

 

 

Three Months Ended
September 30,

 

Nine Months Ended
September 30,

 

 

 

2007

 

2006

 

2007

 

2006

 

Total

 

 

 

 

 

 

 

 

 

Dollars

 

$

574,667

 

$

875,743

 

$

1,718,530

 

$

2,624,968

 

Homes closed

 

1,894

 

2,636

 

5,548

 

7,886

 

Average sales price

 

$

303.4

 

$

332.2

 

$

309.8

 

$

332.9

 

West Region

 

 

 

 

 

 

 

 

 

California

 

 

 

 

 

 

 

 

 

Dollars

 

$

104,989

 

$

210,941

 

$

306,380

 

$

665,935

 

Homes closed

 

229

 

382

 

631

 

1,166

 

Average sales price

 

$

458.5

 

$

552.2

 

$

485.5

 

$

571.1

 

Nevada

 

 

 

 

 

 

 

 

 

Dollars

 

$

24,817

 

$

70,282

 

$

61,743

 

$

213,544

 

Homes closed

 

71

 

177

 

174

 

538

 

Average sales price

 

$

349.5

 

$

397.1

 

$

354.8

 

$

396.9

 

West Region Totals

 

 

 

 

 

 

 

 

 

Dollars

 

$

129,806

 

$

281,223

 

$

368,123

 

$

879,479

 

Homes closed

 

300

 

559

 

805

 

1,704

 

Average sales price

 

$

432.7

 

$

503.1

 

$

457.3

 

$

516.1

 

Central Region

 

 

 

 

 

 

 

 

 

Arizona

 

 

 

 

 

 

 

 

 

Dollars

 

$

119,600

 

$

286,390

 

$

422,624

 

$

802,373

 

Homes closed

 

373

 

851

 

1,229

 

2,475

 

Average sales price

 

$

320.6

 

$

336.5

 

$

343.9

 

$

324.2

 

Texas

 

 

 

 

 

 

 

 

 

Dollars

 

$

263,504

 

$

247,926

 

$

759,592

 

$

719,396

 

Homes closed

 

1,038

 

1,063

 

3,024

 

3,090

 

Average sales price

 

$

253.9

 

$

233.2

 

$

251.2

 

$

232.8

 

Colorado

 

 

 

 

 

 

 

 

 

Dollars

 

$

22,669

 

$

13,121

 

$

46,142

 

$

32,849

 

Homes closed

 

64

 

36

 

125

 

89

 

Average sales price

 

$

354.2

 

$

364.5

 

$

369.1

 

$

369.1

 

Central Region Totals

 

 

 

 

 

 

 

 

 

Dollars

 

$

405,773

 

$

547,437

 

$

1,228,358

 

$

1,554,618

 

Homes closed

 

1,475

 

1,950

 

4,378

 

5,654

 

Average sales price

 

$

275.1

 

$

280.7

 

$

280.6

 

$

275.0

 

East Region

 

 

 

 

 

 

 

 

 

Florida

 

 

 

 

 

 

 

 

 

Dollars

 

$

39,088

 

$

47,083

 

$

122,049

 

$

190,871

 

Homes closed

 

119

 

127

 

365

 

528

 

Average sales price

 

$

328.5

 

$

370.7

 

$

334.4

 

$

361.5

 

 

Companywide. Home closing revenue for the quarter ended September 30, 2007 decreased 34.4% to $574.7 million from $875.7 million for the same time period a year ago as a result of a 28.1% decrease in homes closed and an 8.7% decrease in average sales price. The home closing decreases reflect lower sales prices as a result of competitive pricing pressures and slower sales pace experienced in late 2006 and early 2007, the period during which these sales were generated, as well as an increase in cancellations due to the lack of buyer confidence, as previously discussed.

 

19



 

West. The West Region’s $151.4 million decrease in home closing revenue for the third quarter of 2007 compared to the same time period in 2006 is due to significant decreases for both California and Nevada. In California, the number of homes closed declined 40.1% mostly due to a 45.1% cancellation rate. This cancellation rate generated additional price concessions on completed spec inventories, which further reduced average closing sales prices to $458.5 in the quarter ended September 30, 2007, a 17.0% decline from the prior year’s comparable quarter. The Region’s decreases were further impacted by the poor performance in Nevada, which experienced a $45.5 million or 64.7% decrease in home closing revenue, our largest per-state drop, due to a 59.9% decrease in number of homes closed and a 12.0% decrease in average sales price. For the nine months ended September 30, 2007, home closing revenue was $368.1, down $511.4 million or 58.1% from the first nine months of 2006. These significant declines highlight the difference between the 2007 closings that resulted from late 2006 and early 2007 sales, where both the slower absorption rate and price constraints of the current homebuilding downturn are evident, as compared to 2006 closings from late 2005 sales, which occurred during the height of the housing cycle. We expect that the slow sales pace we have experienced in 2006 and 2007 (compared to 2005) will continue and will affect closings in California and Nevada throughout the remainder of 2007 and in 2008.

 

Central. During the three months ended September 30, 2007, the Central Region reported a $141.7 million decrease to $405.8 million of home closing revenue as compared to the prior year due to a decrease in number of homes closed of 24.4% to 1,475, although average sales price held relatively steady at $275,100 in 2007 as compared to $280,700 in 2006. Although we have experienced slowing in the Texas sales pace in recent quarters, Texas closings still remain stable, reflecting their strong backlog coming into 2007. Texas closed 1,038 homes in the third quarter of 2007, a 2.4% decrease from 1,063 in the same period of 2006; additionally, higher average sales prices on these homes, primarily due to sales mix, resulted in a 6.3% increase for Texas’ third quarter home closing revenue when compared to the third quarter of the prior year. Arizona continued to struggle as an oversupply of home inventory in the local market resulted in additional incentives and higher cancellations, reporting $119.6 million in home closing revenue in the third quarter of 2007 as compared to $286.4 in the third quarter of 2006, while Colorado reported an increase of $9.5 million in the third quarter of 2007 as compared to the same period a year ago as that operation continues to grow since its startup in early 2006. For the nine months ended September 30, 2007, home closing revenue was $1.2 billion for the Region, down $326.3 million or 21.0% from the first nine months of 2006 due primarily to the poor performance in Arizona, as noted.

 

East. In the East Region, closing revenue and homes closed were down $8.0 million and 8 units for the quarter ended September 30, 2007, decreases of 17.0% and 6.3%, respectively, versus the same quarter in the prior year. For the nine months ended September 30, 2007, home closing revenue was $122.0 million, down $68.8 million or 36.1% from the first nine months of 2006. These decreases reflect significantly eroded revenue in the Ft. Myers/Naples area, where we believe the homebuilding market is one of the weakest in the nation. For the nine months ended September 30, 2007, our Ft. Myers/Naples operation only closed 54 homes as compared to 200 closings in the same period of 2006, representing almost all of the 163 home closing unit decrease and $66.6 million of the closing revenue decrease. We currently do not have any new communities scheduled to open in Ft. Myers/Naples, and we are in the process of selling and closing our remaining inventory for this division. Going forward, Central Florida, which has lower average sales prices but higher sales volumes, will comprise the East Region.

 

20



 

Home Orders

 

 

 

Three Months Ended
September 30,

 

Nine Months Ended
September 30,

 

 

 

2007

 

2006

 

2007

 

2006

 

Total

 

 

 

 

 

 

 

 

 

Dollars

 

$

390,366

 

$

581,230

 

$

1,532,448

 

$

2,108,208

 

Homes ordered

 

1,435

 

1,870

 

5,242

 

6,576

 

Average sales price

 

$

272.0

 

$

310.8

 

$

292.3

 

$

320.6

 

West Region

 

 

 

 

 

 

 

 

 

California

 

 

 

 

 

 

 

 

 

Dollars

 

$

72,641

 

$

156,095

 

$

317,032

 

$

455,308

 

Homes ordered

 

180

 

304

 

714

 

832

 

Average sales price

 

$

403.6

 

$

513.5

 

$

444.0

 

$

547.2

 

Nevada

 

 

 

 

 

 

 

 

 

Dollars

 

$

13,629

 

$

28,444

 

$

69,264

 

$

111,093

 

Homes ordered

 

51

 

68

 

205

 

279

 

Average sales price

 

$

267.2

 

$

418.3

 

$

337.9

 

$

398.2

 

West Region Totals

 

 

 

 

 

 

 

 

 

Dollars

 

$

86,270

 

$

184,539

 

$

386,296

 

$

566,401

 

Homes ordered

 

231

 

372

 

919

 

1,111

 

Average sales price

 

$

373.5

 

$

496.1

 

$

420.3

 

$

509.8

 

Central Region

 

 

 

 

 

 

 

 

 

Arizona

 

 

 

 

 

 

 

 

 

Dollars

 

$

46,366

 

$

94,842

 

$

303,532

 

$

520,127

 

Homes ordered

 

188

 

314

 

1,035

 

1,504

 

Average sales price

 

$

246.6

 

$

302.0

 

$

293.3

 

$

345.8

 

Texas

 

 

 

 

 

 

 

 

 

Dollars

 

$

209,708

 

$

292,595

 

$

710,522

 

$

901,181

 

Homes ordered

 

850

 

1,148

 

2,854

 

3,630

 

Average sales price

 

$

246.7

 

$

254.9

 

$

249.0

 

$

248.3

 

Colorado

 

 

 

 

 

 

 

 

 

Dollars

 

$

13,408

 

$

13,324

 

$

52,377

 

$

37,970

 

Homes ordered

 

41

 

34

 

145

 

98

 

Average sales price

 

$

327.0

 

$

391.9

 

$

361.2

 

$

387.4

 

Central Region Totals

 

 

 

 

 

 

 

 

 

Dollars

 

$

269,482

 

$

400,761

 

$

1,066,431

 

$

1,459,278

 

Homes ordered

 

1,079

 

1,496

 

4,034

 

5,232

 

Average sales price

 

$

249.8

 

$

267.9

 

$

264.4

 

$

278.9

 

East Region

 

 

 

 

 

 

 

 

 

Florida

 

 

 

 

 

 

 

 

 

Dollars

 

$

34,614

 

$

(4,070

)*

$

79,721

 

$

82,529

 

Homes ordered

 

125

 

2

 

289

 

233

 

Average sales price

 

$

276.9

 

n/a

 

$

275.9

 

$

354.2

 

 


*           The negative order value is a result of the total value of orders cancelled exceeding the value of new orders for the quarter.

 

Companywide. Home orders for any period represent the aggregate sales price of all homes ordered by customers, net of cancellations. We do not include orders contingent upon the sale of a customer’s existing home as a sales contract until the contingency is removed.

 

Except for Texas, where until the current quarter, demand has been more stable, demand has been soft in some of our markets as early as the fall of 2005. We believe buyers are waiting for indications that home price decreases have reached a bottom, and that new home purchases will retain their value. Additionally, the mortgage lending crisis and resulting tighter underwriting standards are making it harder for our buyers (and buyers of their existing homes) to obtain loans. Home orders declined by 23.3% to 1,435 homes during the quarter ended September 30, 2007 with a value of $390.4 million, a decrease of 32.8% compared to the same quarter a year ago. Our actively selling community count increased 3.8% to 221 at September 30, 2007, over the same quarter a year ago, helping to partially offset slowing sales rates per community.

 

21



 

For the nine months ended September 30, 2007, total orders declined $575.8 million to $1.5 billion from the same period a year ago. Our cancellation rate for the quarter ended September 30, 2007 was 41.3% of gross unit sales for the quarter and 26.3% of beginning backlog as compared to 37.2% and 18.9%, respectively, for the same time period a year ago. The cancellation rates reflect the continuing hesitancy of our buyers to commit to a home purchase until they are confident the homebuilding market downturn has reached the bottom of its decline or because of difficulties in selling their existing homes. In response to these market conditions, we have increased incentives to home buyers in many of our markets. As the incentives reduce the sales price of our homes, the effect of these incentives is highlighted in the decline in average order sales price to $272,000 for the third quarter of 2007, down from $310,800 in the same quarter of the prior year and to $292,300 for the first nine months of 2007 as compared to $320,600 in the same period of 2006.

 

West. During the third quarter of 2007, our West Region continued to experience softer market conditions due to decreasing demand from investors and speculative buyers, higher inventory levels of unsold homes and homebuyers electing to defer purchase decisions in this transitional market. This Region of the country has been greatly affected by the current market declines as it had experienced the largest price appreciations in the prior years and we believe buyers are waiting for indications that prices have stabilized before making a decision to purchase a home. These factors all contributed to the three- and nine-month home order declines of $98.3 million and $180.1 million, respectively, over the same periods of the prior year. These declines are due to 24.7% and 17.6% declines in average selling prices coupled with 37.9% and 17.3% declines in units sold, respectively, for the three- and nine-month periods ended September 30, 2007, as compared to the same periods in 2006.

 

Central. For the third quarter of 2007, homes ordered declined by 417 homes to 1,079, and average sales prices dropped 6.8%, generating a $131.3 million decrease in the value of homes ordered over the prior year. For the nine months ended September 30, 2007, home orders declined 1,198 units, or 22.9%, from the same period of the prior year. These declines are due to the continuing downturn in the homebuilding market in this Region, which most sharply affected Arizona with a 51.1% decline in dollar value in the third quarter, primarily due to a 40.1% decline in number of home sales to 188. Texas, which in the first half of 2007 was one of our strongest markets, has also seen its sales decrease 26.0% and 21.4%, respectively, in the number of homes ordered in the quarter and nine months ended September 30, 2007 as compared to the same periods in 2006, reflecting some weakening markets, particularly in the Dallas/Ft. Worth areas.

 

East. In our East Region, net orders increased by 123 homes with a dollar value increase of $38.7 million for the three months ended September 30, 2007 compared to the same time period a year ago. These increases are partly the result of 30 negative sales in Ft. Myers in the third quarter of 2006, which were the result of cancellations greater than gross sales, with $13.4 million negative sales dollars for that period, and increases in our Central Florida Region, due to both an increase in actively-selling communities as well as diligent efforts to price homes at competitive rates to find the local market. As noted, going forward we expect the average sales prices of homes to continue to decline as Central Florida, a lower-priced area, comprises the significant portion of the East Region mix. In the Ft. Myers/Naples area, we have been unable to renegotiate prior land options and contracts for new land parcels at prices that are reasonable and, therefore, we are not adding new communities or new phases to existing communities. Unless we initiate new projects in Ft. Myers/Naples, due to our limited existing lot inventory, sales volumes for this area will continue to decline until our existing inventory is sold out.

 

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Order Backlog

 

 

 

At September 30,

 

 

 

2007

 

2006

 

Total

 

 

 

 

 

Dollars

 

$