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Steve Hilton – Chairman and CEO

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Michael Rehaut – JP Morgan Securities

Meritage Homes Corporation (MTH) The J.P. Morgan Homebuilding & Building Products Conference Call May 22, 2013 9:15 AM ET

Michael Rehaut – JP Morgan Securities

All right moving right along. We are going to continue the program with Meritage Homes and we are thrilled to have with us Steve Hilton, Chairman and CEO along with Brent Anderson, Vice President of Investor Relations. As I mentioned yesterday morning in my opening remarks, Meritage is one of our overweight rated stocks and the way we approach stock selection, we actually have a relative rating system, which means that within a context of how we approach the Group and we are positive in the Group even in underweight name doesn’t necessarily mean we expect the stock to go down rather just lag its peers within a broader context.

For Meritage really the way we view it as attractive is that it’s trading right now at a sizable discount to its peers on normalized earnings around 6.7, 7 times versus the Group at 8 yet we expect above average order growth and solid gross margin improvement and so those above average fundamental metrics make it particularly attractive. Meritage also conducted a successful Analyst Day last March I believe in Orlando featuring its Southeast expansion strategy, which is going very well and also allows for better confidence I think in some of the growth attributes for the company.

So, without any further ado, I’ll turn it over to Steve and prepared remarks of roughly 20 minutes so we have plenty of time for Q&A. Thank you.

Steve Hilton

Thank you, Mike. We really appreciate the support of JP Morgan and the opportunity here to participate in the conference here today. It’s certainly easier to appear at a homebuilding conference from the (inaudible) all up into the right and all the investors and attendants were just pleased with our holdings and the Group in general so it’s really good time to be in New York. Before I start my presentation, I’ll direct everyone to our customary language on slide two. I ask that you review that before making any investment decisions so we can move right into slide three.

I’m sure most of you are familiar with Meritage Homes. We are the ninth largest homebuilder in the U.S. We are also a top five single-family builder in many of our markets. The pie chart on this page shows that our western markets California, Colorado and Arizona grew to approximately 0.5 of our home closing revenue in 2012 and to 56% in the first quarter of 2013. The same levels at Texas represented from 2008 to 2011 Texas is now back to about a third of our business, where it was in 2007.

While the addition of our three new markets in the Southeast that region has grown to about 17% of our home closing revenue, we expect it to become a greater percentage in the next few years. We have grown our trailing 12-months orders by 53% since the fourth quarter of 2011 part of the reason for that is Meritage is primarily a move-up homebuilder and that market segment has been stronger as home prices have been pricing over the last year or so.

11 of the 16 markets that we are in are in the top 20 markets for the housing in 2012. We have been in most of these markets for many years and we choose those markets for the long-term growth potential due to long-term demographic trends. These markets where the ones that best weathered the downturn in the housing cycle or have been the most resilient markets that have rebounded quickly, as their housing market has improved. 2012 was the first year of a surprisingly strong rebound in the U.S. Housing market and Meritage benefited even more than the markets in general due to our strategic position and operational execution not only are we strategically position some of the best broader markets but our communities are primarily in the best submarkets, where we are offering a differentiated and highly desirable product with our exciting new plans and industry leading energy efficiency.

We believe our average orders per community reflect the combination of better homes in better locations and at approximately three sales per community per month we have considerable growth potential by getting that back to the 3.5 to 4 range which we should see in a more healthy normal market. We grow our community count by 12% year-over-year in the first quarter and expect to grow another 10% or so by the end of this year. Our backlog value at the end of the quarter was up 89% which gives us the visibility and more comfort in our guidance that we issued at the end of the first quarter. While our performances vary between markets all of our markets showed year-over-year growth in almost every selling metric last quarter.

Our West region has been the main driver of our overall growth, California, Colorado and Arizona grew their total order value by 113%, 87% and 64% respectively in the first quarter as a result of strong order growth and larger increases in ASPs. Though our East region is smaller in total Florida and the Carolinas more than doubled their total order value year-over-year as well. One of the keys to the recovery is been extremely high levels of home affordability due to relatively low prices combined with the record low interest rates. Despite the increase in home prices over the last year both our home prices and mortgage payments are still very affordable relative to incomes in all of our markets. This is the metric that we monitor closely as it should have the key indicator that the market was overcooked in 2005 and we should have paid a lot more attention to this metric.

We believe we are still in the early innings to recovery in the single family homebuilding market. Housing demand is outpacing supply and there is a great deal of pent-up demand from young adults in Boomerang Buyers. Housing starts are less than 45% of normal levels and we are well below the midpoint of peak permit levels in virtually all of our markets as shown in this chart on slide 13. We’ve been under building for several years and have just begun to make up for that gap which could take many more years to get to full recovery.

We believe Meritage is well positioned to capitalize on growth opportunities presented as the market recovery continues. We have a strong balance sheet to finance additional growth; we believe our market research correctly guides us to make intelligent decisions regarding our allocation of capital which have been positioned to the highest demand regions over the last few years. We’re expanding to promising new markets and differentiate Meritage as the leader in energy efficient homebuilding. In addition to those revenue drivers we’re also growing homebuilding margins and using operating leverage to accelerate our bottom-line earnings growth faster than our top-line.

I’ll touch on each of those a little more in the slides to come. Looking at our balance sheet we have a healthy balance sheet with approximately $453 million of total cash and securities at March 31, 2013 and net debt to capital ratio of 37.6% and no debt maturities until 2017. We’ve grown our lot supply to more than 21,000 lots at the end of March or approximately 4.6 years supply based on standard trailing 12 months closing calculation. And we believe that one of our core capabilities is the market research analysis that households invest that capital for the highest returns.

Our strategic operations group provides that market research and intelligence we use to underwrite land acquisitions and optimize our operations at the community sales level. They also help to guide our product development based upon customer surveys and actual household level data analysis which has resulted in many innovative design features that customers prefer today, sorry didn’t have the slides going correctly here. In addition to help us to find and select the best submarkets in each of our divisions and evaluate potential land acquisitions this group has enhanced the utility by adopting a new methodology that will identify improving submarkets so that we can see which C markets are becoming B markets allowing us to stay ahead of the competition in a very competitive land market.

We have invested almost $0.5 billion over the last five quarters in acquisition development growing our total lot supply and directing them more towards the higher growth markets in the West and the Southeast which have contributed to our strong growth. Based upon our lot supply and pipeline of new positions we expect to grow our community count by 15% to 20% by the end of 2013. Taking a closer look at each of our markets our West region has been the strongest growth region driving our performance since the beginning of 2012. California has been our highest growth market over the last 12 months with strong price appreciation to extremely low inventories of homes for sale.

We believe this will continue to be a strong demand market and more than doubled our numbers of lots control in California over the last 12 months. Phoenix has had similar characteristics high demand and low supply driving price appreciation and Meritage is arguably the best land position in the market. Colorado is also one of the strongest markets and we have some great locations in high growth areas around Denver and in Fort Collins as well as new home design they’re proving to be very appealing to homebuyers. Our Southeast region has been a strong driver. Meritage is the largest single family homebuilder in Orlando where we have a very good land position in highly coveted submarkets. Our sales phase there has been second only to California and Colorado over the last 12 months.

We’ve been leveraging our experience in Orlando to expand the Tampa market. And we entered the Carolinas with a strong operation, strong startup operation in Raleigh in late 2011 which has been our most successful new division in Meritage history returning to profit in its full year of operation. We expanded on our success thereby starting operation in Charlotte in 2012 and have secured a solid land position focused on the 2nd and 3rd move-up buyers in that market. With these new divisions we begun to build a much larger presence in the Southeast where we see many of the same long-term favorable demographic trends as in our other markets and are searching for the right set of conditions and opportunities to enter promising new markets in that area and expand the region.

Our Central region in Texas was our strongest region for much of the five year period prior to 2012. While the other markets are achieving more impressive growth now our Texas markets are important to Meritage success in the future and we have good growth opportunities there. Houston is our largest division with 25 active communities and solid land positions in some of the most attractive quarters in that market. Austin has similarly strong lot position and growth opportunities, DFW and San Antonio are looking to rebuild their pipeline with well located communities that can help them increase their absorptions in their margins. Meritage is saving the standard for energy efficient homes and is building that reputation in the minds of realtors and homebuyers as well as other industry participants.

We were the first production homebuilder to build 100% to energy start specifications and have met those most stringent standards and gone well beyond that in our newer communities with some of the lowest HERS scores in the industry. Lowest HERS scores translate to lower operating cost for the homeowner and can increase both the current affordability of homes and the resale value. Meritage has received national and local recognition for our accomplishments in this area including a list of first and this year achieved the EPA’s Energy Star Sustained Excellence Award for 2013 quicker than any other large scale production homebuilder. We are committed to continue innovation in advanced construction techniques and home performance.

A couple of our latest innovations include the adoption of the Nexia Home Intelligence System which allows the homeowner to monitor and control their light, security, temperature appliances and energy usage. We plan to offer this system in all of our new communities starting this year. We’re also evaluating a new system of insulated concrete panels that offer similar energy efficiency through our current standard with a potential for recognizing of additional advantages that have been stronger, more durable and faster construction to traditional stick-built homes. We are in the prototyping stage at this point and we’ve build six houses in the metropolitan Phoenix area with this system.

We demonstrated that earnings leverage in our model last quarter generating 83% increase in gross profit on the 62% increase in home closing revenue and a 720 basis point improvement in pre-tax income from a 230 basis point increase in home closing gross margin. We’re able to leverage our overhead expenses and capitalize the greater portion of our interest incurred as assets under construction grow dropping more dollars to the bottom-line.

We provided guidance when we reported our first quarter results based on our backlog, market strength and pipeline, we said that we expect a 40% to 45% increase in home closing revenues for the remaining three quarters of 2013 driving a 350% to 400% increase from pre-tax earnings and diluted EPS of $2.20 to $2.45 for the full year 2013. We have greater confidence and our ability to produce earnings growth based upon all of the conditions for continued high demand, price appreciation and margin expansion combined with our operating leverage. As I said at the beginning, it’s good to see those charts keeping going and into the right direction.

I think we are now doing Q&A before I wrap up.

Michael Rehaut – JP Morgan Securities

Sure. I mean, do you wanted to open up and then we will…

Steve Hilton

So, in summary the key point is that we believe that this economy - this recovery has lags and it’s sustainable with even modestly approving - improving economy due to pent-up demand and record high affordability driven by - improved by our confidence. We are not overly concerned about the fiscal cliff or European debt or dramatic changes in mortgage financing. I mean, these are out of our control. We don’t believe that any of them are going to really have a big impact on the market and we are very positive about the future. So, with that, I’ll take any questions.

Question-and-Answer Session

Michael Rehaut – JP Morgan Securities

Great. Thanks, Steve. I’m just going to leadoff with one or two questions and I’ll turn it over to the floor. I think an important element of kind of understanding the upside potential for the spaces is aside from the overall market improvement in terms of volume, recovery in starts et cetera is on the margin side. And you so far have been able to have some very good improvement in that metric as people compare back to mid cycle or peak cycle margins over the last several years, how do you guys think about that in terms of your own business in terms of certainly getting back to mid cycle but even the - there is increased talk about what you could do, what the new mid cycle margin to be this time around versus last time if there is any upside to what you have been able to put out during the past cycle. How do you think about that?

Steve Hilton

Well I mean, I kind of with the net margins and I kind of think if you are going to be in the homebuilding business you should target a - if you are doing large scale business a net pretax margin around 10% certainly we have little ways before we can get to that but I think it’s not that far off. Certainly at the peak cycle it was higher there or it was in the 14%, 15% number, which was kind of gaudy and unsustainable. I don’t see us going back there because the recovery in the market has not been as broad-based at least in the early stages as we saw last time. But margin expansion is certainly the headline for the next couple of years and I think we’re focused on that as much as anybody.

Michael Rehaut – JP Morgan Securities

Great. Thanks. And I guess the second question, as you are building out the Southeast region lot of opportunity there. As you think maybe three to five years down the road are there any other major kind of footprints like multistory Southeast region that you can see yourselves implying the similar approach to?

Steve Hilton

Well there is several markets, several states in the Southeast that we are not in that at some point we want to be in. We are continuing to evaluate those markets for different opportunities whether they would be organic or through acquisitions but certainly Georgia, Tennessee, Kentucky, Alabama are all growth oriented markets. And there is also some markets in the West that we like to consider getting into it would be Washington, Idaho, Utah have some vibrant housing markets within those states.

So, I think, I think those are great growth opportunities for us and also to continuing to grow out the smaller markets that we have in the Southeast the three new markets certainly Raleigh, Charlotte and Tampa. And then I think we have opportunities even in the West in Colorado. We see our market share expanding there dramatically over the next 24 months particularly and the Northern markets of Denver, Boulder County, Fort Collins et cetera. So, I’m pretty bullish about our prospects for growth.

Michael Rehaut – JP Morgan Securities

Great. Thank you. So, with that, I’ll turn it over to the floor. Are there any questions in the audience? Right up front.

Unidentified Analyst

Hi. I wonder if you could talk a little bit about your relationship with some of the building products companies there have been some other move-up builders that have during the last year, you have been able to leverage just the lack of volume in the markets you get some of the products companies to offer promotions, concession so forth but then they have been able to pass through to your end customers as incentive. I’m wondering if A) you are able to do that and extract some of those promotions or concessions from the products companies and where you seeing what the pushback now from the products companies given that the demand environment has improved?

Steve Hilton

Well, we’ve a very good relationship with our national manufacturers and suppliers. We have a national purchasing group. It’s very focused on creating natural contracts and getting rebates for those products and our rebates have actually been expanding as suppose to shrinking. As we strengthened those relationships I think, we are up to maybe $2000 a house now if not a little bit more than that in rebates. And we are also because of our focus on energy efficiency we’re also being asked by a lot of the suppliers to prototype some of their new products.

We were just had a (shrift) last week with DuPont and working with them and working with Dow and working with a lot of other manufacturers on energy efficient products that we could bring to the market on a production setting and help them, help them explore the opportunities for some of those products. So, quite to the contrary, we’ve a very good and growing relationship with a lot of these national vendors.

Unidentified Analyst

And then the second question is just given what’s happened to lumber prices recently the decline that we have seen are you in position to forward purchase lumber and perhaps lock in lower prices today and see some of the margin benefit in the second half of this year?

Steve Hilton

Yeah to some degree, I mean, we go out 60 to 90 days in some cases a little bit more but I don’t expect us to be buying a big forward commitment or hedge. We don’t speculate in the lumber markets just like we don’t speculate in other commodities to go into our houses. But the decline in prices is positive and does help the bottom line and we are very excited about that.

Unidentified Analyst

Thanks.

Michael Rehaut – JP Morgan Securities

One right over here to the right.

Unidentified Analyst

Steve can you talk about your land strategy and how much land development you will do in-house?

Steve Hilton

Well we’re probably developing 75% to 80% of all of our lots that we are buying today. We have different strategy in every market. We bought a lot in Arizona in 2011 and early 2012. We’ve also bought quite a few positions around Orlando last year that were longer positions I think most of the distressed lot deals. We bought they were generally smaller 30, 40, 50 lot positions have been picked through and we’re not seeing as many of those so we’re buying more traditional land deals today directly from farmers or long-term land investors. But we allocate capital differently to every market depending upon the - we’re very opportunistic and seek out higher margin, lower risk development deals, where we can add value to the bottom line.

Michael Rehaut – JP Morgan Securities

Any other questions.

Unidentified Analyst

Yeah. I was just curious if you could I might have missed this, but what’s your expectation for community count growth?

Steve Hilton

We’re expecting to finish the year about 185. We are at 168. In the last quarter we made dip down a few communities this quarter but it should accelerate back in the third and the fourth quarter. We have a lot of turnover in our communities because we bought a lot of these smaller 30, 40, 50 lot positions from lenders in distressed situations in 2011and 2012 so we’re turning those over. Again, we’re placing those with longer land positions that are 100 or 102 lots versus smaller ones. So, 15% or so this year, we haven’t given guidance on next year but we expect that number to continue to grow.

Unidentified Company Representative

And just for perspective John that’s I think 20% year-over-year improvement in the quarter, Brent.

Unidentified Analyst

Steve, can you talk about your land strategy how it’s changed with prices moving up so much a lot of people have talked about Phoenix is almost untouchable at this point. Can you just talk about what’s different that you guys were doing now than what you had done in the couple of years ago and also if there are any markets that are showing signs of prices getting way ahead of themselves besides Phoenix?

Steve Hilton

Well, the biggest land broker in Phoenix is sitting right here in the mid row Nate Nathan, Dave Mullard so he can tell you about the market there. I got to be careful I don’t say anything too negative so I don’t want to hurt his business. But - but the land market in Phoenix has gotten ridiculously hot. We purposely slowed down our acquisitions of land there over the last several quarters.

Again like I said we bought quite a few lots more than $100 million of lots in 2011 and 2012 and it’s hard to find deals at (Pennsyl) not that there aren’t any I’m sure there are some but you have to definitely include appreciation in your analysis. I think, there is other places that are little more attractive for land acquisition not to say that Phoenix isn’t going to be attractive long-term but the market is trying to catch-up with itself a little bit on the land side.

And I think one of the - one of the areas that people have been focused on is more the peripheral markets the far West side, the far Southeast side. There has been a lot of land activity there recently but housing hasn’t picked up to the pace it has more in the A and B market. So, I think those markets are poised to takeoff but we’re going to see a little more action from the entry level buyer before the Miracle and the Pinal County and the (buck) guys of the world really start to - start to takeoff but there has been certainly lot of land speculation and builders are really jacket for position in that market and unfortunately that’s our home base and we have been there quite a long time so we kind of got out early and got a good position.

We have a lesser position in California. We kind of struggled to get a foothold in Southern California. We’ve done much better in Northern California. We have a very strong footprint in the East Bay going all the way out to Sacramento. We bought quite a few positions last year in the Roseville - Roseville area of Sacramento and inventory is extremely tight there on the per sale housing side and on the lot side and we think those positions are going to - are going to pay big benefits as well as the Elk Grove and Alvarado areas of Sacramento. So, Northern California was a big driver for us in the last cycle and we expect that this is going to be big driver for us as the market continues to recover as well. So, hopefully that answered your questions.

Michael Rehaut – JP Morgan Securities

Any other questions for Steve? Well, we have a little bit of time left but I think we’ll close it there. We covered a lot of topics. We really appreciate your time and we’ll continue with our next presentation I believe at top of the (inaudible). So, thanks again.

Steve Hilton

Okay. Thank you.

Michael Rehaut – JP Morgan Securities

I appreciate the time.

Steve Hilton

Okay. Thanks, Mike.

Michael Rehaut – JP Morgan Securities

Thank you. I appreciate it.

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