Earnings Call Transcript - MTH Q3 2025

Operator, Operator

Greetings. Welcome to the Meritage Homes Third Quarter 2025 Analyst Call. Please note that this conference is being recorded. I will now turn the conference over to Emily Tadano, VP of Investor Relations and External Communications. Thank you. You may begin.

Emily Tadano, VP of Investor Relations and External Communications

Thank you, operator. Good morning, and welcome to our analyst call to discuss our third quarter 2025 results. We issued the press release yesterday after the market closed. You can find it along with the slides we'll refer to during this call on our website at investors.meritagehomes.com or by selecting the Investor's Relations link at the bottom of our homepage. Please refer to Slide 2, cautioning you that our statements during this call as well as in the earnings release and accompanying slides contain forward-looking statements. Those and any other projections represent the current opinions of management, which are subject to change at any time, and we assume no obligation to update them. Any forward-looking statements are inherently uncertain. Our actual results may be materially different than our expectations due to a wide variety of risk factors, which we have identified and listed on this slide as well as in our earnings release and most recent filings with the Securities and Exchange Commission, specifically our 2024 annual report on Form 10-K and Form 10-Q for subsequent quarters. We have also provided a reconciliation of certain non-GAAP financial measures referred to in our earnings release as compared to their closest related GAAP measures. Share and per share amounts have been retroactively restated to reflect our January 2, 2025, stock split for all prior periods. With us today to discuss our results are Steve Hilton, Executive Chairman; Phillippe Lord, CEO; and Hilla Sferruzza, Executive Vice President and CFO of Meritage Homes. We expect today's call to last about an hour. A replay will be available on our website later today. I'll now turn it over to Mr. Hilton.

Steven Hilton, Executive Chairman

Thank you, Emily. Welcome to everyone listening in on our call. Today, I'll start by highlighting our third quarter results and current market trends. Phillippe will cover how our strategy is creating differentiation for us in the context of the evolving market conditions and will also cover our quarterly performance. Hilla will provide a financial overview of the quarter and forward-looking guidance. Market conditions were softer than initially expected in Q3 as consumer confidence continued to decline amid a tough economic backdrop and ongoing affordability concerns. Even with these headwinds, we grew our orders 4% year-over-year to 3,636 units on a greater community count and achieved an average absorption pace of 3.8. We leaned in on our strategy focused on affordable move-in ready homes and a 60-day closing-ready guarantee to provide homebuyers certainty in a changing environment. Our quick sale to close process contributed to another quarter with exceptional backlog conversions, with more than 60% of our orders in Q3 closing this quarter, generating a 211% backlog conversion rate this quarter on 3,685 home deliveries and home closing revenue of $1.4 billion. Excluding $14.5 million in combined real estate inventory impairments and terminated land deal charges, our adjusted gross margin and adjusted diluted EPS in the third quarter were in line with our guidance at 20.1% and $1.55, respectively. We also increased our book value per share 8% year-over-year. Q3 was the fifth consecutive quarter where we achieved year-over-year community count growth. We are starting to see the benefit of the high volume of land acquisition and development spend over the last few years, ending the quarter with 334 communities, which was a 20% increase year-over-year. We continue to focus on balancing volume, profitability, and a solid balance sheet, and we are satisfied with our results this quarter, considering the current economic environment. And with that, I'll now turn it over to Phillippe.

Phillippe Lord, CEO

Thank you, Steve. Starting at the macro level, we were encouraged by the Fed's rate cut in Q3. However, the recent trend in lower mortgage rates has not translated to a notable improvement in demand or a reduction in the use of incentives thus far due to the lack of consumer confidence. Throughout the quarter, our customers were feeling less optimistic about the economy, the cost of living, and employment, which increased hesitancy around a home purchase decision. We believe the biggest impediment to an improved housing market relates to buyer psychology. So this quarter, we continue to lean into our full range of possible incentives on a customer-by-customer basis. Even though we anticipate the incentive burden to continue running far north of where we typically are as an industry for the near future, we do expect the cost and utilization rate of incentives to begin to taper off as market conditions stabilize. We remain optimistic about the long-term outlook for the housing market, given favorable demographic trends in home buying and a long-standing undersupply of affordable homes in our price range. As we analyze our performance this period, we believe that our strategy differentiates us from our peers in a few ways. First, our spec strategy, combined with a 60-day closing-ready guarantee, move-in ready homes, and a focus on external realtor engagement, enabled us to compete for customers in a different way by providing them certainty and securing incremental sales orders and closings. Second, our 100% spec strategy and the significant improvements we have made in our cycle times over the past 6 quarters give us the flexibility to ramp up or slow down our starts pace based on real-time local demand. In the third quarter, we intentionally slowed our starts by 19% year-over-year to remain within our target range of 4 to 6 months' supply of specs on the ground while not impacting our sales velocity. Additionally, our scale and land pipeline enable us to reassess our land spend routinely based on market conditions while still maintaining our targeted level of lot supply. Through our ability to control land, we constantly review our controlled lots to determine if there are any future lots that we should renegotiate or walk away from. As such, we reduced the number of lots we acquired this quarter by about 5,800 lots or 70% year-over-year without sacrificing near-term community count growth. With the current economic backdrop, we are evaluating these constant real-time adjustments as we look to maximize our assets by choosing a balanced pace and price. In an effort to optimize our portfolio community-by-community, we determine where we'll keep pushing for our 4 net sales per month pace, which is where we operate the most efficiently, and where we choose to temporarily moderate the sales pace due to the inelasticity of demand. While we are primarily focused on pace as an entry-level spec builder, we are not willing to sell our homes at any clearing price just to chase incremental sales where we know it's compromising the integrity of our land values. In other words, we are not going to compromise the quality land book we have worked so hard to acquire just to hit an enterprise order number. For us, it is about optimizing every community in our land book. By pulling these levers, we are intently focused on optimizing our returns. At the end of the third quarter, we have yet again achieved our highest community count in company history at 334. The team also found ways to improve our cycle times even further to approximately 105 calendar days from about 110 calendar days in Q2. By slowing land spend, we maintained a strong balance sheet with a focus on liquidity and returned $85 million to shareholders in the third quarter. Now turning to Slide 4. Third quarter 2025 orders were 4% higher year-over-year due to a 14% increase in average community count that was partially offset by a 7% decrease in average absorption pace. The cancellation rate of 11% this quarter remained lower than the historical average, reflecting the limited time between a sale and closing with our 60-day closing-ready commitment. Our third quarter 2025 ending community count of 334 was up 20% year-over-year compared to 278 at September 30, 2024, and also up 7% sequentially compared to 312 at June 30, 2025. During the quarter, we brought over 45 new communities online throughout all of our regions. To date, this year, we have opened nearly 130 community openings. With today's efficient supply chain and available labor capacity, we were even able to pull forward some of our openings that were slated for October. So now we anticipate holding our community count fairly steady from Q3 to Q4 to end the year with a mid-double-digit year-over-year growth. Based on our current land pipeline, we expect another additional double-digit year-over-year growth for 2026 year-end community count. ASPs on order this quarter of $389,000 was down 4% from the prior year due to increased use of incentives and discounts. We offered a wide range of possible incentives and tailored a solution to each customer's need. As we are in the final days of October, I wanted to provide some high-level commentary on what we are seeing so far in Q4. Demand this month feels very similar to September, taking into account some additional seasonality. Lower mortgage interest rates have not sparked outsized demand, but we believe we can achieve our internal sales order targets through our incentive offerings and by leaning into our broker relationships. Now moving on to the regional level trends on Slide 5. The local demand environment in each of our regions continues to vary market-by-market in Q3. Some of our most favorable markets, Dallas, Houston, Southern California, as well as North and South Carolinas, achieved a strong absorption pace as market conditions continue to hold steady in those geographies. Conversely, our teams continue to work through challenges in Austin, San Antonio, certain parts of Florida, and Northern California amid softer market conditions this quarter. Colorado remained tough given the impact of stressed affordability. These headwinds were primarily an affordability concern and a lack of buyer urgency and not directly impacted by the increase in existing home inventory, especially when considering Florida and Texas, as most of the resale inventory is not directly comparable to our entry-level product nor does it offer our incentives. Regardless of the geography, we saw an uptick in the use of incentives in all of our markets as consumer sentiment and affordability concerns remain challenged. Now turning to Slide 6. In Q3, we moderated starts, which totaled approximately 3,000 homes in the third quarter of 2025, 19% less than last year's Q3 to align with the softer demand environment and expected Q4 seasonality. The 60-day closing-ready guarantee element of our strategy enables us to quickly convert sales to closing. With a 211% backlog conversion rate, our ending backlog declined from approximately 2,300 units as of September 30, 2024, to 1,700 units as of September 30, 2025. A higher backlog conversion and shorter cycle times allow us to turn our home inventory about 3 times per year. With 3 consecutive quarters of backlog conversion rate above 200%, we now believe our long-term backlog conversion will be between 175% and 200%. Since 50% or more of our deliveries have been generated from inter-quarter sales for several quarters now, the aggregate of total specs and backlog is our preferred metric to analyze the right inventory levels at each of our communities. We had approximately 8,000 specs and backlog units as of September 30, 2025, as compared to about 9,100 units as of September 30, 2024. We had approximately 6,400 spec homes in inventory as of September 30, 2025, down 6% from approximately 6,800 specs as of September 30, 2024, and down 8% sequentially from Q2. The 19 specs per store this quarter translated to 5 months' supply compared to 24 specs per store and 6 months in last year's third quarter. Our completed specs comprised 47% of our total count as of September 30, 2025. Although this is slightly higher than our target of about 1/3 complete specs, we were comfortable holding on to some of our specs to preserve margins and plan to work down this inventory by year-end. With that, I will now turn it over to Hilla to walk through our financial results.

Hilla Sferruzza, Executive Vice President and CFO

Thank you, Phillippe. Let's turn to Slide 7 and cover our Q3 results in more detail. Third quarter 2025 home closing revenue of $1.4 billion was 12% lower than the prior year as a result of both 7% lower home closing volume and a 5% decrease in ASP on closings to $380,000 per home. The decline in ASP is primarily due to the increased use of incentives and discounting as well as some geographic mix to a lesser extent. Home closing gross margin of 19.1% in the third quarter of 2025 was down 570 basis points from 24.8% in the third quarter of 2024, reflecting the increased use of incentives, inventory-related impairment and walkaway charges, higher lot costs and reduced leverage of fixed costs on lower home closing revenue, all of which were partially offset by improved direct costs and shorter cycle times. Our Q3 2025 margins included $8.7 million of real estate inventory impairments and $5.8 million of walkaway charges for land deals we are no longer pursuing. This compared to no impairments and $2 million in terminated land walkaway charges in the prior year. Excluding these inventory-related charges, adjusted margins were 20.1% and 24.9% in the third quarters of 2025 and 2024, respectively. As a result of the elevated land development costs that began in 2022 and the typical 18- to 24-month timeline required to bring on a new community, our current land basis is fully comprised of this higher cost land and is a greater percentage of our revenue than both historical levels and prior years. However, incremental green shoots related to the current price of land and development costs are encouraging. As many builders have terminated some of their option land, we believe there are opportunities to upgrade our pipeline and find cheaper or better positioned lots. We are also actively rebidding land development spend wherever possible. We expect the stabilizing land acquisition and development conditions we are now experiencing will be beneficial to our gross margin in late 2027 and into 2028. During the quarter, our procurement team's persistent hunt for cost savings led to a 3% year-over-year reduction in our direct cost per square foot. We continue to find available labor in our markets, potentially stemming from slower multifamily construction and reduced starts in the industry, which was a factor in our improved cycle times that Phillippe mentioned earlier. As we look at our margins this quarter, the lower revenue due to the timing of closings under our new strategy also resulted in about 50 basis points in lost gross margin leverage compared to the prior quarter. Our long-term gross margin target remains at 22.5% to 23.5%. For this target to occur, we believe economic conditions need to stabilize, which will allow us to pull back on the incentive burden, and we can again benefit from the scale and efficiency of our spec strategy and streamlined operations. SG&A as a percentage of home closing revenue in the third quarter of 2025 was 10.8% compared to 9.9% for the third quarter of 2024, primarily as a result of higher commission rates and technology costs as well as loss leverage on lower home closing revenue, all of which were partially offset by lower compensation costs. Q3 external commission rates were higher year-over-year as they helped to secure volume in a tougher selling environment. Our co-broke percentage was in the low 90s and remained similar to the first half of this year. Our newer divisions continued to temporarily negatively impact our overall SG&A as they ramp up to be able to contribute a mature division's revenue profile while they are already incurring a full overhead expense structure. We continue to assess all aspects of SG&A to find ways to reduce overhead dollars and leverage and explore ways to lean in with technology to improve back-office efficiencies. We maintain our long-term SG&A target of 9.5% once we achieve higher closing volumes. The third quarter's effective income tax rate was 22.6% this year compared to 21.6% for the third quarter of 2024. The higher tax rate in '25 reflects fewer homes qualifying for energy tax credits under the Inflation Reduction Act, given the new higher construction threshold required to earn the tax credits this year. Overall, lower home closing revenue and gross profit as well as higher SG&A and tax rates led to a 48% year-over-year decrease in third quarter 2025 diluted EPS to $1.39 from $2.67 in 2024. Excluding the $14.5 million in combined real estate inventory impairments and terminated land charges, our adjusted diluted EPS for the third quarter of 2025 was $1.55. To highlight a few of the results for the first 9 months of 2025, on a year-over-year basis, orders were up 1%, closings were down 3%, and our home closing revenue decreased 8% to $4.4 billion. Excluding $20.1 million in combined real estate inventory impairments and terminated land charges this year as compared to $3.9 million in 2024, our year-to-date adjusted gross margin of 21.2% was 440 basis points lower than the adjusted gross margin of 25.6% last year. SG&A as a percentage of home closing revenue was 90 basis points higher at 10.7%, and net earnings decreased 40% to $369 million. Excluding the inventory-related charges, adjusted diluted EPS for the first 9 months of 2025 was $5.35 compared to $8.40 in 2024. Before we move on to the balance sheet, I wanted to share our customers' third quarter credit metrics. As expected, FICO scores, DTIs and LTVs remained relatively consistent with our historical averages. While most of our customers can qualify for a mortgage without financing incentives, many are nonetheless asking for them to help address their affordability concerns. On to Slide 8. Our balance sheet remains healthy at September 30, 2025, with cash of $729 million, nothing drawn on our credit facility and a net debt to cap of 17.2%. As a reminder, our net debt-to-cap ceiling remains in the mid-20% range. Given current economic conditions, we intentionally reduced land spend by 14% year-over-year and redeployed some of that excess cash by returning capital to shareholders. Our spend on land acquisition and development, net of reimbursements totaled $528 million for the third quarter of 2025. The decision to slow land spend isn't expected to have a material impact on our near or midterm growth plans. Our full year 2025 land spend target remains around $2 billion. To maximize shareholder value creation, we returned $85 million of cash to shareholders this quarter compared to $57 million in the third quarter of 2024. We recognize the current undervaluation of our stock, so we bought back over 772,000 shares for $55 million this quarter. This spend was 83% more than the prior year and 22% greater sequentially. To date, in 2025, we have spent $145 million on share repurchases, reducing our 2024 year-end outstanding share count by almost 3%. During the third quarter, our Board approved an additional $500 million in authorized share repurchases. And as of September 30, 2025, $664 million remain available under the program. Although we do not anticipate buying back the entire $500 million in a very short period of time, we do anticipate accelerating our quarterly repurchases notably and incrementally, we can and will also repurchase shares opportunistically based on market conditions. We increased our quarterly cash dividend 15% year-over-year to $0.43 per share in 2025 from $0.375 per share in 2024. Our cash dividends totaled $30 million in the third quarter of 2025 and $92 million year-to-date. For the first 9 months of the year, we returned a total of $237 million of capital to shareholders or 64% of our total earnings so far this year. On Slide 9. In the third quarter of 2025, we secured nearly 2,000 net new lots under control, which included the impact of 400 terminated lots. These terminations were in connection with our routine quarterly reviews where we identify certain land deals that no longer meet our underwriting standards or are in locations where we think there are better opportunities to upgrade our existing pipeline. In the third quarter of 2024, we put nearly 7,800 net new lots under control. As of September 30, 2025, we owned or controlled a total of about 80,800 lots, equating to a 5.3-year supply of lots based on the last 12 months of closings. We also had nearly 21,000 lots that were undergoing diligence at the end of the quarter. When it comes to financing land purchases, we remain focused on utilizing more off-balance sheet financing opportunities, and we analyze every deal for land banking consideration as we look to balance margin and IRR. About 69% of our total lot inventory at September 30, 2025, was owned and 31% optioned compared to the prior year, where we had a 64% owned inventory and a 36% optioned lot position. Finally, I'll direct you to Slide 10 for our guidance. For Q4 2025, we are projecting total home closings between 3,800 and 4,000 units, home closing revenue of $1.46 billion to $1.54 billion, home closing gross margin of 19% to 20%, an effective tax rate of about 24.5%, and diluted EPS in the range of $1.51 to $1.70. The expected home closing gross margin decline from Q3 to the midpoint of Q4 guidance is a function of the anticipated higher incentive environment that historically coincides with most builders' year-end and the closing of some of our completed specs that do not reflect all of the cost savings we've achieved in the last quarter or so. With that, I'll turn it back over to Phillippe.

Phillippe Lord, CEO

Thank you, Hilla. In closing, please turn to Slide 11. Q3 was characterized by softer home buying demand, which we navigated by continuing to offer affordability and certainty to our customers. We also focused on maximizing each asset by pushing certain communities and geographies to a higher sales pace and pulling back on other communities in weaker markets where we slowed our pace to preserve gross margin. We also intentionally reduced our starts pace and land spend to align with current market conditions while we improve cycle times and increase our community count to set us up for near-term future growth. We believe our flexible strategy is our competitive advantage and allows us to maximize our financial performance and redeploy capital to return to shareholders, all while maintaining a healthy liquidity position. With that, I will now turn the call over to the operator for instructions on the Q&A.

Operator, Operator

Our first questions come from Alan Ratner with Zelman.

Alan Ratner, Analyst

Thanks for all the info so far, much appreciated. So my question relates to the strategy pivot that you guys have been embarking on and kind of the impact that's had on your overall return profile. And I know there's a lot of moving pieces here. And a lot of the ROE compression we've seen is just a function of the market and the margin compression, which is kind of independent of that. But if I look at your inventory turnover right now over the last 12 months, you're down to about 0.7x and before the pivot, that was north of 1. And I know you mentioned the kind of accumulation of completed specs and that number trending higher than your long-term plans there. I'm just curious, should we think about this as like a trough and as you move towards recalibrating that completed spec number, is there an opportunity to see more meaningful cash generation and improvement on that turns? Or is this something that you would say is still kind of in the early innings and might take a little bit longer to materialize?

Phillippe Lord, CEO

Thanks, Alan. Yes, I would say, I don't know about the early innings, but we're still optimizing everything within our current strategy. You highlighted the specs as our cycle times have been reduced and we've put a finer point on the move-in ready strategy and the closing ready guarantee when we can actually release homes for sale to fit inside the window. I think there's an opportunity to optimize our spec strategy. I think when things are working really well and everything is fully optimized, we can get closer to a 4-month supply of specs versus the current 5 to 6. So as we look into 2026, we think there's a real opportunity to do that. The other thing I would say is, obviously, we've been in significant growth mode. And so we've been building up our land pipeline. It's taken quite a bit longer than it used to to bring lots to the market due to the regulatory environment. But I think we're getting better at that as well. The environment is getting better. And I think there's some opportunity for us to get more efficient with our land book as well in our existing strategy. Now that we know exactly what type of deals we're looking for for our new strategy, I think the deal sizes can get smaller and more efficient as well. So between those two things, we feel like those are the biggest opportunities for us to drive a higher ROE and generate more free cash flow.

Hilla Sferruzza, Executive Vice President and CFO

I think also this quarter, Alan, was a unique opportunity. This is the first quarter that we've ticked kind of above our target of the third of completed specs, and that was intentional, right? Part of it was an accelerated cycle time, but part of it was intentional. We weren't willing to sell inventory below a certain margin. So you're seeing that reset. Phillippe mentioned the reduction in spec starts, so you're seeing that reset start this quarter. And as we sell those specs into Q1, you should see a more efficient balance for us going forward.

Alan Ratner, Analyst

Got it. Okay. That's helpful. And second question, just on the community count growth outlook in '26. It sounds like it's going to be another very strong year there. How should we think about the interplay there with margin? And I guess what I mean by that is this year you guys have posted double-digit community count growth. We know the market is not up double digits in terms of demand, which is partly why your margins are lower and your absorptions are lower. If we kind of just assume demand stays where it is, does that necessarily mean that your margins are going to take another step lower as you try to push through more supply? Or are there kind of puts and takes that we need to consider independent of that?

Phillippe Lord, CEO

Yes, I think there's puts and takes. I don't think the new communities that we're opening up, as we look at what we opened up this year and then what we are opening up next year, are going to be a tailwind to margins. I also don't think they're going to be a headwind. Even though we're bringing them on at a higher land basis, they were underwritten at a higher land basis at a different revenue and absorption profile. So as we underwrite those new deals and look at those new deals, I think they're coming on at margins similar to where we're at today. I wish I could tell you that they were coming on at our long-term target, but given the current incentive load that we're experiencing in the market, I think they're coming on more in line with where we are today than where our long-term goals are as a company.

Hilla Sferruzza, Executive Vice President and CFO

Yes, sticks and bricks and land are aligned, although I think we've mentioned this repeatedly on the last couple of years of calls, the higher volume that we'll be getting from the incremental communities should help leverage the fixed components better. So while the margin profile before overhead is the same, that extra volume should really help us leverage the entire structure.

Phillippe Lord, CEO

And I would just tell you that as we think about next year, although we're not prepared to give out anything, we're not expecting currently the market to get better, but the significant and meaningful community count growth that we're going to start the year out with and then the additional communities that we'll bring on through the year, if the market were to stay where it is today, that will provide the growth that we need as a company.

Operator, Operator

Our next questions come from the line of Trevor Allinson with Wolfe Research.

Trevor Allinson, Analyst

I wanted to follow up on the spec commentary. Your total specs, your spec per communities are the lowest they've been in a while. You're talking about potentially over time moving back down the lower end of your 4- to 6-month range. Is that something you expect to achieve here more near-term? And then how should we think about over the next couple of quarters, your starts relative to your sales?

Phillippe Lord, CEO

Yes. So the answer is yes. I think as we look at our current cycle times, and we look at sort of fine-tuning our strategy and the amount of finished inventory we need to meet the closing-ready guarantee and provide the realtors with the inventory they're looking for, we see an opportunity to bring our spec count on a per store basis further down. It's about 19. I would love to see that closer to 16 based on current market conditions. So we'll work to accomplish that throughout next year. But as far as starts, the starts are going to align with our sales pace, but you should see an increase in starts because of our community count growth. So as we roll through Q4 and work through some of the older inventory we have, and then we start to start more homes at the lower cost that we're seeing in our sticks, then we ramp up our community count from where we are today, you'll see an increase in starts for those reasons. But we're going to align our starts cadence with our sales goals for next year, which we will provide in Q1.

Trevor Allinson, Analyst

Okay. Makes a lot of sense. And then a question on your expectation for orders in Q4. I know you don't guide directly to that, but just given so many of your closings are intra-quarter sales, it seems like you're perhaps expecting orders to be higher in Q4 than Q3. I guess one, is that the case? And then two, if so, is that a decision to lean into volumes here again to work down inventory that's driving what seems to be a little bit better than normal seasonal expectation on orders.

Phillippe Lord, CEO

Yes, I don't think we're expecting Q4 absorptions per store to be greater than what Q3 was. We have a lot of new communities, so certainly, that's providing some tailwind to our closing guidance. Really, you just look at our closing guidance and assume a 200% backlog conversion, you can kind of back into our sales pace. As far as your question about leaning into volume, I would say no. Other than trying to clear out some older specs at some older direct costs that we want to get rid of so we can redeploy that capital and start new homes at much lower cost. We're going to be really focused on optimizing the profitability of each community. And as we said in our prepared comments, we feel like chasing incremental volume right now is not in the best interest of our business. That doesn't mean we feel like we're going to get much lower than where we are today, but I'm not sure we're going to try to push absorptions per store much harder than we're pushing today.

Operator, Operator

Our next questions come from the line of Stephen Kim with Evercore ISI.

Stephen Kim, Analyst

Just had a couple of clarifying questions here. First, I guess, when you talk about margins from new communities coming on at levels that are pretty similar to today, margins typically rise as you progress through a community, kind of opens up with conservative pricing, etc., and then you sort of grow into a higher margin. So when you mean these communities are coming on at a similar margin, do you mean over the life of the community? Or do you actually mean that even when they first open up, they're going to come on at margins that are very similar to your company average right now?

Phillippe Lord, CEO

Yes, I mean, I think to your point, in a normal market environment, we typically open up our communities, really try to find the market and then we build up our backlog and grow our margins through the life stage of a community. But we're not in a typical market right now. And unfortunately, with discounts and incentives and the competitive environment and affordability, I'm not sure we currently feel like there's a ton of upside through the life span of a community right now. So as we're modeling our future projections, the new communities are coming on similar to the margin profile we have today, and we're not necessarily predicting them to get better. Now obviously, if incentives moderate, affordability gets stronger, and people start feeling more confident, the opportunity across our entire land book to improve margins exists not only in the new communities that we're bringing on.

Stephen Kim, Analyst

Yes. Okay. That's encouraging. It sounds like you're being pretty conservative there, which is good. I wanted to follow up on the incentives. You've used the phrase quite a few times about how you had to increase incentives and obviously, we understand why. But I wanted to clarify how much of the increase in incentives that we've seen over the last couple of quarters is due to greater spend on forward purchase commitments versus other incentives?

Hilla Sferruzza, Executive Vice President and CFO

A few of our peers have mentioned that the incentive pool is composed of about one-third financing related and two-thirds not financing related. We might be slightly closer to a 40-60 split, but overall it's very similar. Generally, all incentives have increased somewhat. While the cost of financing incentives is lower, we are seeing a higher number of people interested in those financing incentives, and overall incentives have increased in a proportional manner. There is a prevailing belief that customers have more negotiating power in the current environment, which they may or may not possess. However, in the competitive landscape, they seem to be negotiating every deal, and the push for affordability through financing incentives and general discounts remains consistent with the pace observed over the past couple of years.

Stephen Kim, Analyst

And that's 40%. How much of that is specifically related to forward purchase commitments?

Hilla Sferruzza, Executive Vice President and CFO

It's primarily forward purchase commitments. There's some additional layering of maybe like 3-2-1s or 2-1; there's some early signs that ARMs are gaining some traction, but it's a low percentage of the total volume.

Operator, Operator

Our next questions come from the line of Michael Rehaut with JPMorgan.

Michael Rehaut, Analyst

First question on incentives. When we think about the decline you experienced in the third quarter sequentially, it was significantly higher than many of your peers that have reported thus far. In contrast, your outlook for the fourth quarter, being flat to up 100, seems a bit more favorable. I'm curious if that's mainly due to the real-time elements of how you sell and close deals intra-quarter. I'm also considering that you mentioned an intensified focus on reducing some of the finished specifications. I'm uncertain if that had a disproportionate effect on the third quarter that won't be repeated in the fourth quarter. I'm trying to better understand the dynamics behind the stronger decline in the third quarter and the outlook for the fourth quarter being flat to up.

Phillippe Lord, CEO

Thank you for the question. I'll let Hilla chime in on this. I want to ensure I'm understanding your inquiry correctly because we are not projecting improved margins in Q4. What you're focusing on is prior to impairments. If we exclude our impairments and walkaways from this quarter, we anticipate a modest sequential decline in margins, aligning more closely with 19.5% compared to the 20% we previously indicated for Q3. The reason we're not forecasting stable or increased margins in Q4 after excluding impairments and walkaways is that we believe we will be clearing some older specifications in Q4, which will slightly reduce our margin profile. I just wanted to clarify that, Michael, and make sure we’re addressing your question, but we are not guiding towards better margins in Q4.

Michael Rehaut, Analyst

Yes. No, I think that's right. Yes, go ahead Hilla.

Hilla Sferruzza, Executive Vice President and CFO

No, perfect. I think I was just going to agree with everything that Phillippe just said. So our margins last quarter without impairments were 21.4%. Our margins this quarter without impairments were 20.1%. So there was a pullback. Now we said about 50 basis points of lost leverage. The rest is just market conditions. So there was a decline from Q2 to Q3, although maybe not as material as it seems if you're taking it inclusive of the impairments. And then that incremental tick down into the Q4 guidance is both a function of clearing some of that older spec inventory that has a different cost basis and then again just echoing our peers, Q4 seems to be a period of time where folks try to hit certain targets and maybe the incentive environment runs a little frothier than it typically does in our sector. So we're actually modeling some increased incentives just in acknowledgment of that trend. If we can come in better than that, obviously, we're going to try to get it. But we know that the last couple of months of the year tend to be a little bit higher in incentive usage in our sector as a whole.

Michael Rehaut, Analyst

Yes, no, no. I was looking at the wrong line in the model. So that was my fault, but I appreciate the clarification there. I guess secondly, I just wanted to shift to share repurchase, your comments around, I believe, just kind of directionally saying perhaps you're looking at a higher level going forward. And I think starting out the year or earlier this year, you talked about maybe a $15 million per quarter cadence, if I remember that right, and you've exceeded that somewhat regularly since then. Should we be thinking more of, I don't know, something in a $50 million to $100 million range going forward? I'm just trying to get my arms around how you're thinking about share repurchase currently relative to maybe what you laid out earlier in the year.

Hilla Sferruzza, Executive Vice President and CFO

Yes. So I think we definitely think $15 million is too low. We think that our current cadence is probably the floor, right? So I think what we've done this quarter is probably a fair number to model. Opportunistically, we're definitely comfortable going deeper than that. But I think that our current cadence is a fair amount to consider on a go-forward basis for us.

Operator, Operator

Our next questions come from the line of John Lovallo with UBS.

John Lovallo, Analyst

The first one is certainly recognizing that soft consumer confidence has held back demand despite the drop in rates so far. I mean it sounds to us like the desire to own is still very strong. Traffic is reasonably good, and rates as early as today could start tweaking down even lower. I mean I guess the question is, how quickly, in your opinion, could the sales environment change with improved consumer confidence? And along those same lines, how quickly can you guys react to that change?

Phillippe Lord, CEO

Thank you, John. To put it briefly, historical trends show that consumer confidence can shift rapidly. We’ve seen a decline in confidence over the past two quarters, which impacts our business swiftly. Customers are currently seeking deals to reassure them about their purchases, as they don’t feel it’s the right time to buy. This situation necessitates us to provide incentives to encourage them. However, as people become more optimistic about their job prospects, wage growth, and the overall economy, this can change fast. Psychological shifts can occur more quickly than changes in financial circumstances. If that optimism returns, we believe we’re well-positioned to take advantage of it with our ready-to-move inventory and available lots for building. Should buyer sentiment improve, we could quickly gain market share and reduce incentives as long as the industry aligns similarly. The pace of change can be swift, John, and we’ll see how things unfold in the spring as that presents an opportunity.

Hilla Sferruzza, Executive Vice President and CFO

That's the beauty of our strategy, right? Having the specs in the ground allows you to capitalize on that improvement today, with about 60% of our closings happening in the same period as our sales, we can see results the same quarter versus having a 2-, 3-quarter lag between when there's a sale and the closing. Conversely, our rate locks are also short term, right? They're in sync with our cycle. So there's a very, very quick opportunity to reset all of the components.

Phillippe Lord, CEO

And as we stated, we have the highest community count we've had in the history of the company. We feel like we have another solid double-digit growth projected for next year that we feel very good about those positions, those markets, the land, so we can really increase our market share in a better macro backdrop.

Operator, Operator

Okay. Our next questions come from the line of Susan Maklari with Goldman Sachs.

Susan Maklari, Analyst

My first question is around the current psychology that buyers have relative to your strategy. With the ability to close within 60 days, do you think that they are leaning more into your homes, your products? Do you think you're essentially gaining share with this strategy in this kind of an environment? And if so, who do you think you're taking that from? How do you think about it relative to your peers on the new home side relative to existing home sales?

Phillippe Lord, CEO

Yes, thanks, Susan. I believe that achieving 3.8 net sales per month in Q3 is a strong performance, particularly since many of the new communities we launched were opened late in the quarter. If we adjust for that timing, our results look even better. When I compare our performance to others in the industry, it seems quite impressive. I do think we are gaining market share from the existing home market. With the resale market being constrained due to the lock-in effect, realtors are increasingly directing customers towards new homes. Our product benefits from the certainty we provide, including a closing-ready guarantee and the ability for buyers to lock in their rates. They are assured of closing on their homes and receive a well-built, affordable product. Overall, while the industry is expected to shrink this year based on forecasts, our guidance suggests that we are experiencing a lesser decline than the sector overall. We are capturing share from other affordable builders as well as the existing home market.

Susan Maklari, Analyst

Yes. Okay. And then turning to the cost structure. You've done a nice job of working with your suppliers to find improvements in there and savings. In this kind of an environment and with the growth that you have already seen in the business over the last couple of years, can you talk about your ability to recognize further savings and what that could mean in the coming quarters?

Phillippe Lord, CEO

I believe we've done an excellent job reducing our costs. The savings our teams have achieved over the past four quarters are quite impressive. While this hasn’t completely mitigated the challenges from the current incentive environment, it has certainly brought us closer than we would have been otherwise. Our new projects are starting at significantly lower costs compared to last year, and our quick home-building capabilities allow us to reduce the number of specifications we're constructing, which optimizes our strategy. These significant efforts have positioned us well to achieve our current results. As I look ahead, there are factors that could help us continue reducing costs and cycle times, but there are also concerns. I’m hesitant to say there are clear opportunities. The market currently has a lot of capacity with reduced starts and a slowdown in multifamily construction, making labor more accessible. By sticking with our 100% spec strategy, we are attracting labor who want to work on our projects. Our streamlined purchasing could help us manage potential tariff impacts since our main suppliers can integrate different product lines into our offerings. However, there are signs that tariffs might increase costs in 2026. Additionally, ongoing immigration issues in the U.S. could also influence labor availability. It's challenging to predict whether conditions will improve or deteriorate from my perspective today. Nonetheless, I am very proud of what our team has achieved, and I believe we can maintain our current position.

Hilla Sferruzza, Executive Vice President and CFO

I think as we mentioned in our remarks, we're always going to push for more because we want more. But the real opportunities are going to manifest themselves once the newer land vintage comes through as we're working to negotiate land development contracts or renegotiate land development contracts and maybe see some slight savings in the land market. So it's going to be a little bit of a longer timeline until those become visible in the P&L. But I think that the kind of more material round of opportunities really lay on the land, land development side, although we are still going to push on the purchasing side, we're at a pretty low cost right now. So not sure there's something very, very material on that front.

Operator, Operator

Our next questions come from the line of Rafe Jadrosich with Bank of America.

Rafe Jadrosich, Analyst

Can you talk about the lot inflation that you're seeing today? And if there's any visibility going forward, how that should trend? I know you're saying that the costs start to come down as we go in the out years, but just like relative to where it is today, what's the expectation for '26?

Hilla Sferruzza, Executive Vice President and CFO

Yes. We're not providing that level of guidance on lot cost inflation or the land inflation, especially because we're not providing any 2026 guidance just quite yet. I don't think that we're any different than our peers. I think everyone said that what you're seeing is going to continue or maybe get even a little bit worse as you tip into 2026. And then hopefully, we'll all start seeing the improvement in the lot cost starting in '27 and then more meaningfully into '28. Obviously, a huge piece of that is a function of the incentive environment, a lot as a percentage of total revenue, even though obviously, it has an absolute cost on its own, but we're not prepared to provide any specific guidance on lot cost, but I would say we're not an outlier from what our peers are experiencing.

Rafe Jadrosich, Analyst

Okay. And then I think the midpoint of the revenue guidance implies that delivery ASP is up sequentially from what you did this quarter and then like the orders are basically sort of more flattish. Can you just talk about, one, like where the delivery ASP has been coming in the last couple of quarters, it's been a little bit below guidance. Is that just incentive and discounting environment? And then what's driving that improvement as we go into the fourth quarter?

Phillippe Lord, CEO

Yes. The areas where revenue and average selling prices have fallen short of our guidance in recent quarters can be entirely attributed to incentives. We've had to introduce additional incentives during the quarter to meet our absorption targets. Looking ahead to Q4, the increase in delivery numbers is primarily a result of growth in our community count. This is the main factor influencing those numbers. Any fluctuations in average selling price are related to the mix of communities we are opening and closing, compared to our previous mix. We're not expecting a significant increase in incentive load, although there may be a slight rise due to the aggressive behavior of many builders during the year-end nonseasonal home-buying period. However, the primary drivers remain the mix of communities and the additional volume resulting from our growing community count.

Operator, Operator

Our next questions come from the line of Jade Rahmani with KBW.

Jade Rahmani, Analyst

Can you comment on how existing home inventory is trending in your markets and if you're experiencing any increased competition? And if the 60-day guarantee is helping to offset if you're getting uptake from that?

Phillippe Lord, CEO

Yes. I think consistent with what others have said, certainly, there's more inventory in the market than there was a year ago. I think there are specific markets out there where we would say it's more relevant than others. But then I would also say, as I said in my prepared remarks, really when we see the existing home inventory increase in our markets, it's not very competitive. It's older homes. It's not as affordable. It's not in our price range. They're not offering the incentives that we are from a rate buy-down perspective. So we don't really feel like it's extremely competitive. And then, yes, our strategy is 100% built on competing when that inventory comes back. We are offering a new home exactly the way you can buy a used home, but you don't have to make the compromise. So we do believe that, that inventory comes back. We're going to be leaning even harder into our strategy around the move-in ready home, the closing-ready guarantee and our realtor strategy to make sure we're competing with that existing home inventory head-on.

Jade Rahmani, Analyst

In terms of the market commentary you provided, I don't think I heard Phoenix. Could you give an update on that market, please?

Phillippe Lord, CEO

Yes. We're hanging in there in Arizona. The economy is doing really well here. There's a lot of jobs being created here. And there's a real diverse set of jobs that are coming into the market. Obviously, the Semiconductor business is growing really fast here. So the economy is strong. Quality life is strong. It's very competitive. Affordability is really critical here. We're seeing one of the more competitive environments from our other peers as it relates to competing. So although there's strong demand environment and I think supply is manageable, the margin compression is significant in Phoenix due to the incentives and the affordability that we're trying to solve.

Operator, Operator

Our next questions come from the line of Jay McCanless with Wedbush Securities.

James McCanless, Analyst

Just a quick one for me. Thinking ahead to '26 and when you guys lined up the new strategy, you talked about how it would have a little abnormal seasonality. Is that what you're still expecting for next year and just to let the community count drive the volume growth? Is that how we should think about it and not really worry about what normal seasonality used to be for your business?

Phillippe Lord, CEO

Yes. I think what you're referring to is we were talking a little bit about the cadence of our business. So traditionally, when you're a move-up builder and you have longer cycle times, Q1 is traditionally a lower leverage quarter. Q2 is slightly better and then Q3 and Q4 are when you really close all the homes that you sell in the spring. Since we're selling homes real-time, we really feel like Q3 is our lowest leverage quarter. And then Q1 and Q2 are actually much stronger with Q4 being in the middle. So I would expect to see a similar pattern. But that all being said, we have significant community count growth and more coming for next year, which will sort of mute some of that because of the increased store count that we have that's going to increase our volume as long as the market stays consistent. So that's what you should look for. Again, I think Q1 and Q2 are going to be higher margin quarters for us as long as the spring selling season is there with Q2 and Q3 being modestly lower.

Hilla Sferruzza, Executive Vice President and CFO

So just to clarify, Jay, nothing has really changed. We don’t alter market dynamics, so the net sales per store remain consistent. It's simply a matter of how quickly we record those closings in the financial statement. That’s really the cadence, and I think that’s what you were referencing, but I wanted to make that clear.

James McCanless, Analyst

Yes, absolutely. And then could you talk about when the community count is expected to hit next year? Is it going to be front half loaded? Or what have you offset about that?

Phillippe Lord, CEO

We're not providing guidance for 2026 yet. In the first quarter, we'll offer more visibility. We want to wait another quarter to ensure that the cities are following through on their commitments and that development is progressing as expected. However, we are very optimistic about achieving another year of double-digit growth in community count next year, building on what we accomplished this year. I want to thank everyone who joined the call today for their continued interest in Meritage Homes. We hope you have a wonderful rest of the day and week. Thank you.

Operator, Operator

Ladies and gentlemen, thank you for your participation. This does conclude today's teleconference. We appreciate your participation. You may now disconnect.