Meritage Homes Third Quarter 2026 Analyst Call - MERITAGE HOMES CORP

Financial Performance:

• Q3 2026 home closing revenue was $1.2 billion, a 17% year-over-year (YoY) decline driven by a 14% drop in closing volume and a 4% decrease in Average Selling Price (ASP) to $365,000.
• Adjusted home closing gross margin was 17.9% (GAAP margin was 17.4% after $6.6M inventory impairments and walk-away credits), down from 20.1% YoY, primarily due to higher lot costs, elevated incentive usage, and lost revenue leverage.
• Adjusted diluted EPS was $1.11, down from $1.39 YoY; reported net earnings were $68M (-32% YoY) to $99M.
• Q3 2026 orders totaled 3,083 (-15% YoY) with a 13% cancellation rate; cancellation rates remained stable quarter-over-quarter.
• Operating leverage on lower revenue and elevated incentive costs (including rate buy-downs) pressured margins, while direct costs per square foot declined nearly 5% YoY for the 14th consecutive quarter.
• SG&A expenses were 11% of revenue (-20 bps YoY); absolute SG&A dollars decreased YoY due to disciplined cost management and lower variable compensation.
• Balance sheet strength remains with $677M cash, zero debt on the credit facility, and a net debt-to-cap ratio of 18.9%.

Guidance and Future Outlook:

• Management declined to provide Q4 2026 or full-year 2027 financial guidance due to high macroeconomic volatility, rapidly rising mortgage rates, and an election cycle creating a lack of visibility.
• Full-year 2026 community count growth is expected to remain in the 5% to 10% range.
• Land acquisition and development spend is projected to be below $1.5 billion for the full year, a 38% decrease YoY, with further reductions anticipated in Q4.
• Long-term gross margin targets remain 22.5% to 23.5% under normalized market conditions; current elevated incentives and land costs from prior years are expected to weigh on margins through at least 2027.
• The company aims to return to a 4 net sales per month absorption pace over the long term, though near-term operations will likely hover between 3 and 4 net sales per month depending on market elasticity.

Business Segments and Product Lines:

• Active community count reached 348 (+4% YoY, +2% sequentially), with 34 new communities opened primarily in the East region.
• Strategic pivot towards First Move-Up (1MU) homes is underway, targeting 1MU to represent approximately one-third of the portfolio long-term to diversify the customer base and improve margin profiles.
• 1MU sales orders and closings are expected to increase in the back half of 2026 and throughout 2027.
• Total inventory (specs + backlog) is approximately 7,100 units, down 12% YoY; specs per store are approximately 15 (5 months supply), down from 19 a year ago.
• Approximately 34% of total specs were completed as of Q3, up from 30% in Q2, though the ratio remains below the 47% target in Q3 2025.

Market and Competitive Landscape:

• Mortgage rates rose from ~6.6% to 7.5% during Q3, exacerbating affordability pressures and consumer hesitation.
• Regional performance varied: Central region (Dallas/Houston) showed strong absorption (3.7 net sales/month); East region (South Florida/Jacksonville) benefited from constrained resale inventory; West region (CA, AZ) prioritized margin over volume due to high competition and affordability issues.
• Competition remains intense, with many peers shifting from speculative starts to Build-to-Order (BTO), though Meritage maintains a full-spec model with a 60-day close guarantee to differentiate speed and certainty.
• Over one-third of sales were driven by repeat realtors, highlighting strong broker relationships.
• Management believes demand is inelastic at current price points and that the market is currently "very inelastic," forcing a community-by-community approach to pricing and pace.

Risks and Challenges:

• Primary risks include persistent high mortgage rates, inflationary pressures on land and construction materials (tariffs, oil-based products), and potential labor cost increases from ICE activities.
• Elevated incentive usage (rate buy-downs) and real estate inventory impairments ($6.6M in Q3) pose immediate margin headwinds.
• Five communities were sold to Build-for-Rent (BFR) partners at discounted prices to optimize capital return, resulting in near-zero margin closings spread over Q3 2026 through Q2 2027.
• Macro uncertainties, including geopolitical events and the election cycle, contribute to unpredictable demand and timing of purchases.

Management Commentary and Tone:

• Management tone was cautious but confident in the company's balance sheet and operational flexibility, emphasizing a "defensive" posture focused on liquidity and cost control.
• Executives stressed the importance of controlling "controllables," specifically inventory levels, discretionary spend, and capital allocation.
• Philippe Lord highlighted a shift toward balancing price and pace over volume to preserve land value, noting that the current environment feels "as inelastic as it has in a long time."
• CFO Gila Speruza confirmed the company remains investment grade focused and will prioritize dividend payments and liquidity over share repurchases until market clarity returns.
• Leadership expressed confidence that demand will recover quickly if rates drop and political noise subsides, citing the company's agile structure to capitalize on a rebound.

Analyst Questions and Answers:

• Absorption Pace: Management confirmed an operational target of 3–4 net sales/month; running at 3 is efficient, while 4 is preferred but market-dependent. They may dip below 3 in the short term but aim to stay within the 3-4 range over a 12-month period.
• Incentives: Incentive levels are expected to remain elevated; Q3 numbers reflect real-time rate buy-down costs, and further guidance is withheld due to weekly volatility in rates and market conditions.
• Impairments/BFR: Impairments were specific to five communities sold to BFR partners, not whole markets. BFR remains a small (<5%) but useful part of the business for accelerating capital returns in distressed inventory situations.
• Liquidity and Cap Allocation: The company will prioritize maintaining a net debt-to-cap ratio in the low 20s and an investment-grade rating. Capital flexibility will be preserved by adjusting land spend and starts, which are identified as the primary levers for capital allocation.
• Competition: Competitors are generally managing inventory responsibly with a shift toward BTO; Meritage does not expect a massive inventory overhang in Q4, though regional pricing adjustments may occur.
• Labor: Supply chain and labor issues have not materially impacted cycle times or the 60-day close guarantee, thanks to the company's streamlined, repeatable product model.

Other Key Points:

• The company executed $285M in share repurchases year-to-date (Sept 30, 2026) and increased the quarterly dividend by 12% YoY to $0.48/share.
• Inventory was rationalized by selling five communities to institutional BFR partners to secure a guaranteed exit and accelerate capital return in select markets.
• The company holds 5.3 years of lot supply (71,800 lots controlled), with plans to rationalize land holdings in Q4 to align with a potential 2027 growth trajectory.
• Technology investments made over the last two years are beginning to drive efficiency in SG&A and operations, with further benefits expected in 2027.
• The 1MU product mix strategy is a long-term initiative to better serve a maturing customer base and improve portfolio diversification, with the goal of 1MU comprising one-third of the business.