Having just indicated it was exploring funding options, Meritage Homes secured US$500m on Monday from the sale of a US$500m convertible bond issue, capping the funding with a derivative to achieve a high yield-like outcome.
Meritage, which focuses on entry-level housing, is the first US homebuilder to issue CBs in a decade, according to LSEG data.
“We saw really strong investor demand,” one equity-linked banker told IFR. “The stock-borrow in this name is limited and trading liquidity is not ideal, but there are not a lot of alternatives [within the CB market] for investors to gain exposure to homebuilding.”
JP Morgan, Bank of America and Goldman Sachs drew a full house, allowing them to price the four-year CBs at a 1.75% coupon and 32.5% conversion premium, the aggressive ends of 1.75%–2.25% and 27.5%–32.5% talk.
Highlighting the appeal to long-only investors, Meritage shares fell by just 1% while the CB issue was being marketed to US$175.32, near all-time highs following blistering first-quarter results reported a week prior.
The equity derivative purchased offset earnings dilution from the CBe up to a share price of US$350.64, double the US$175.32 reference price.
The capped call, whereby the CBs embedded call option is repurchased and warrants are sold at a higher strike price, has become a popular alternative for highly rated companies to achieve fixed-income like economics on a CB issue. Of the 34 CB issues in the US this year, 23 have incorporated a capped call, according to IFR data.
The split-rated Meritage (Ba1/BBB–) historically has funded in the high-yield markets.
The homebuilder plans to redeem US$250m principal of 6% debt due 2025 after buying back US$150m of those bonds in September last year.
Meritage has US$450m principal of 3.875% bonds maturing in 2029 that currently trade at 91, providing a 6% YTM.
The homebuilder has been aggressively purchasing land to fund future development. In the first quarter, it spent US$430m to acquire and develop land, a 39% increase, as part of planned US$2bn–$2.5bn capex later this year and beyond.
“Our land financing strategy focuses on managing our capital while being mindful of balance sheet metrics and margin goals,” Meritage CFO Hilla Sferruzza said on Meritage’s first quarter earnings call April 25.
Sferruzza also said the company was evaluating opportunities in the “near term” to address the 2025 debt maturity, this week’s CB issue being that opportunity.
Meritage finished the quarter with US$1bn of debt, putting its debt-to-cap at 17.5% or below its mid-20s leverage target. Including US$905m of cash, net debt-to-cap drops to just 2%.
The CB issue meets the targeted leverage goal even as the company focuses on returning capital to shareholders.