Meritage Homes CORP: Form 10-Q for the period ended Jun 30, 2022

Overview and Outlook

The housing market was strong for the majority of the second quarter of 2022, although the unprecedented demand that has been present the past several years showed signs of slowing in June, which we believe was in response to rising interest rates that impact affordability, as well as a return of regular seasonality. We think the continuing low supply of housing inventory and favorable demographics are positive factors for housing demand, but anticipate that demand will slow as the market adjusts to the higher interest rates and general inflation-related increases in household costs. We expect that current buyer psychology and market volatility will continue to impact demand, sales incentives and home pricing in the near term, but we feel that our all-spec strategy for entry-level homes differentiates us from some other new home builders, as it provides our customers with a shorter timeline to close and the ability to lock in their interest rates, helping to alleviate some of the uncertainty surrounding their monthly payments.

The longstanding supply chain constraints and labor shortages that presented themselves in 2021, caused by COVID-19 and other economic-related disruptions, have impacted production costs and cycle times in the homebuilding industry as a whole and have continued throughout the second quarter of 2022. We have been successful, to date, in offsetting the higher costs with sales price increases due to the elevated buyer demand in recent quarters, although we have experienced elongated cycle times. We continue to carefully navigate this constrained operating environment by expanding our trade base and strengthening critical relationships, although we are uncertain that we will be able to continue to offset future cost increases, if any, with incremental price increases moving forward.

Our focus on maintaining a high level of customer satisfaction and building energy-efficient homes was recognized and rewarded again in 2022. For the ninth time since 2013, we received the ENGERY STAR® Partner of the Year award for Sustained Excellence, and thirteen of our divisions received Avid Awards for excellence in customer service performance in the homebuilding industry.

Summary Company Results

Total home closing revenue was $1.4 billion on 3,221 homes closed for the three months ended June 30, 2022 compared to $1.3 billion on 3,273 homes closed for the second quarter of 2021. This 11.4% increase in home closing revenue year-over-year was entirely driven by the 13.2% increase in average sales price ("ASP") on closings due to pricing power resulting from strong buyer demand as volume fell slightly by 1.6% due to production delays, as previously mentioned. In addition to higher home closing revenue, second quarter home closing gross margin improved 430 basis points to 31.6%, for home closing gross profit of $444.7 million compared to $345.3 million in the second quarter of 2021. The margin improvement is primarily due to pricing power experienced over the past few quarters due to elevated demand, resulting in ASP increases more than offsetting materials and labor cost increases. Gross margin in the second quarter of 2022 also benefited from lower cost of land for entry-level homes and lower amortization of previously capitalized interest, the result of lower interest rates from our debt refinancing transactions in recent years. Commissions and other sales costs decreased $4.5 million, and as a percentage of home closing revenue improved 90 basis points in the three months ended June 30, 2022 as compared to prior year, due to lower commission expense and technological efficiencies in marketing. General and administrative expenses increased $4.8 million, or 11.1%, due to costs associated with higher headcount and a return of travel expenses as COVID-19 restrictions have lifted. Higher home closing revenues provided leverage on these fixed expenses, and as a result, general and administrative expenses as a percentage of revenue were consistent quarter over quarter despite the dollar increase. During the three months ended June 30, 2021, we recognized an $18.2 million loss on early extinguishment of debt in connection with our debt refinancing in April 2021. There were no such transactions during the second quarter of 2022. Earnings before income taxes improved by $116.0 million, or 54%, year over year to $331.7 million for the second quarter of 2022. These improved year-over-year results were partially offset with a higher effective income tax rate of 24.6% as compared to 22.4% in 2021 due to the elimination of tax credits for energy efficient homes, resulting in net earnings of $250.1 million in the second quarter of 2022 versus $167.4 million in the second quarter of 2021. Similar to the second quarter, year-to-date results reflect a $210.4 million increase in home closing gross profit compared to the six months ended June 30, 2021. Higher gross profit, technology-enabled marketing and commission savings, leverage of higher home closing revenue on fixed expenses, no loss on early extinguishment of debt in 2022 and a higher effective tax rate of 24.3% led to net income of $467.3 million for the six months ended June 30, 2022 compared to $299.2 million for the 2021 period.

In addition to growth in home closing revenue and improved profitability, we had another record breaking quarter in home orders, with the highest second quarter orders in Company history of 3,767 for the three months ended June 30, 2022, a 6.4% increase over 3,542 in the same period of 2021. The growth in orders was attributable to a 33.1% increase in average active communities, partially offset by a 20.0% lower orders pace of 4.4 per month compared to 5.5 per month in 2021. Home order value increased 20.7% year-over-year, to $1.8 billion during the three months ended June 30, 2022, versus $1.5 billion in the same period of 2021. The increase in order value is due to the higher volume combined with a 13.5% increase in ASP on orders. Order cancellation rates increased to 13% for the second quarter of 2022, compared to 8% for the prior year period, a reflection of the softening in the market. For the six months ended June 30, 2022, home orders and home order value increased 9.2% and 25.6%, respectively, over the prior year, with a cancellation rate of 11% compared to 9% for the prior year period. We ended the second quarter of 2022 with 7,241 homes in backlog valued at $3.4 billion, a 31.4% increase in units and a 48.4% increase in value over June 30, 2021.

We achieved our long-term growth target of 300 active communities by ending the second quarter of 2022 with 303 active communities, up from 226 at June 30, 2021 and sequentially from 268 at March 31, 2022. This reflects the opening of 49 new communities during the second quarter, despite an environment of supply chain constraints and limited labor availability. During the six months ended June 30, 2022 we have purchased approximately 7,600 lots for $301.4 million, spent $492.0 million on land development and started construction on 9,039 homes.

Company Positioning

We believe that the investments in our new communities designed for the first-time and first move-up homebuyer, our commitment to an all-spec strategy for our entry-level homes, our simplified first move-up design studio process, and industry-leading innovation in energy-efficient product offerings and automation create a differentiated strategy that has aided us in our growth in the highly competitive new home market.

Our focus includes the following strategies:

• Expanding our community count and market share;
• Continuously improving the overall home buying experience through simplification and innovation;
• Simplifying our production process to allow us to more efficiently build our homes and reduce our construction costs, which in turn allows us to competitively price our homes and deliver them on a shorter timeline;
• Improving our home closing gross profit by growing closing volume, allowing us to better leverage our overhead;
• Leveraging and expanding on technological solutions through digital offerings to our customers, such as our virtual home tours, interactive maps, digital financial services offerings and online warranty portal; and
• Increasing homeowner satisfaction by setting industry standards for energy-efficiency and offering healthier, safer homes that come equipped with standard features such as multi-speed HVAC systems to save energy and improve air quality and enhanced security features.

In order to maintain focus on growing our business, we also remain committed to the following:

• Carefully managing our liquidity and a strong balance sheet; we ended the quarter with a 25.3% debt-to-capital ratio and a 20.6% net debt-to-capital ratio;
• Maximizing returns to our shareholders, most recently through our improved financial performance and share repurchase program;
• Achieving or maintaining a position of at least 5% market share in all of our markets;
• Managing construction efficiencies and costs through national and regional vendor relationships with a focus on timely, quality construction and warranty management;
• Promoting a positive environment for our employees through our commitment to foster diversity, equity and inclusion ("DE&I") and providing market-competitive benefits in order to develop and motivate our employees and to minimize turnover and to maximize recruitment efforts;
• Maintaining a healthy orders pace through the use of our consumer and market research to ensure that we build homes that offer our buyers their desired features and amenities; and
• Continuing to innovate and promote our energy efficiency program and our M.Connected® Automation Suite to create differentiation for the Meritage brand.

Critical Accounting Estimates

The critical accounting estimates that we deem to involve the most difficult, subjective or complex judgments include valuation of real estate and cost of home closings, warranty reserves and valuation of deferred tax assets. There have been no significant changes to our critical accounting estimates during the six months ended June 30, 2022 compared to those disclosed in Item 7. Management’s Discussion and Analysis of Financial Condition and Results of Operations, included in our 2021 Annual Report on Form 10-K.

Home Closing Revenue, Home Orders and Order Backlog

The composition of our closings, home orders and backlog is constantly changing and is based on a changing mix of communities with various price points between periods as new projects open and existing projects wind down and close-out. Further, individual homes within a community can range significantly in price due to differing square footage, option selections, lot sizes and quality and location of lots (e.g. cul-de-sac, view lots, greenbelt lots). These variations result in a lack of meaningful comparability between our home orders, closings and backlog due to the changing mix between periods. The tables on the following pages present operating and financial data that we consider most critical to managing our operations (dollars in thousands):

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(1) Home orders for any period represent the aggregate sales price of all homes ordered, net of cancellations. We do not include orders contingent upon the sale of a customer’s existing home or a mortgage pre-approval as a sales contract until the contingency is removed.

(1) Home orders for any period represent the aggregate sales price of all homes ordered, net of cancellations. We do not include orders contingent upon the sale of a customer’s existing home or a mortgage pre-approval as a sales contract until the contingency is removed.

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(1) Cancellation rates are computed as the number of canceled units for the period divided by the gross sales units for the same period.

(1) Our backlog represents net sales that have not closed.

Operating Results

Companywide. In the second quarter of 2022, home closing revenue improved 11.4% to $1.4 billion on 3,221 closings compared to $1.3 billion on 3,273 closings in the second quarter of 2021. The increase in home closing revenue year-over-year was driven entirely by the 13.2% increase in ASP on closings, as closing volume declined marginally by 1.6% due to elongated construction cycle times caused by the ongoing supply chain and labor constraints. We achieved our highest second quarter home orders of 3,767 homes valued at $1.8 billion in the second quarter of 2022 as compared to 3,542 homes valued at $1.5 billion in the second quarter of 2021. The higher order volume is due to a 33.1% increase in average active communities, while orders pace declined 20.0% to 4.4 per month, down from 5.5 in the second quarter of 2021 although still higher than our historical normalized average pace. The 20.7% increase in home order value year-over-year reflects the combined result of higher volumes and rising ASPs as strong demand through most of the second quarter of 2022 continued to provide pricing power. We ended the quarter with 303 actively selling communities, up from 226 at June 30, 2021 and up sequentially from 268 at March 31, 2022. Order cancellations increased to 13% and 11% for the three and six month periods in 2022, respectively, as compared to 8% and 9% during the three month and six month periods in 2021, respectively, as demand softened in the latter part of the quarter from prior sustained robust levels, which we believe is due to rapidly rising interest rates which are impacting affordability and buyer psychology, and a slight return of regular seasonality. To help alleviate concerns for our customers surrounding their purchase and future monthly payments, over the past several months we have purchased fixed interest rate locks on eligible floating-rate loans for some of the homes in our backlog scheduled to close throughout the remainder of 2022. We believe that our strategy centered on affordable entry-level and first move-up homes and delivering homes that offer surprisingly more value to our homebuyers provides us with an opportunity to expand our customer base to include buyers that will become priced out of move-up communities.

For the six months ended June 30, 2022, home closing revenue improved by 13.2%, or $309.8 million, with 6,079 closings valued at $2.7 billion, compared to 6,163 closings valued at $2.3 billion during the six months ended June 30, 2021. Similar to the second quarter results, home closing revenue in the first half of 2022 increased as a result of higher ASPs achieved over recent quarters, while volume was relatively flat as result of production delays. Orders volume and value both increased year-over-year, with 7,641 units valued at $3.6 billion for the six months ended June 30, 2022, 9.2% and 25.6% higher, respectively from prior year results. Demand for our affordable entry-level homes coupled with a 33.3% increase in average active communities drove the increase in order volume. Orders pace decreased to 4.6 per month during the six months ended June 30, 2022 versus 5.6 in the same period of 2021, largely due to the softening of demand in the second quarter, as discussed above, and metering of orders in the first quarter of 2022. We ended the quarter with 7,241 homes in backlog valued at $3.4 billion, compared to 5,509 units valued at $2.3 billion at June 30, 2021, increases of 31.4% and 48.4%, respectively. Increasing order volumes and construction cycle delays in recent quarters have both contributed to the increase in backlog units, while rising ASPs have positively impacted backlog value.

West. The West Region closed 925 homes in the second quarter of 2022, down 2.0% from 944 homes in 2021 due to production delays as discussed above. Despite the lower volume, the Region improved home closing revenue by 10.7% to $486.1 million resulting from a $60,200 increase in ASP. A limited supply of homes and a full year of strong market appreciation continued to drive prices upward in the second quarter 2022, and order value in the West Region increased $54.1 million, or 9.4%, year-over-year despite lower order volume. Order volume decreased 6.4% in the second quarter of 2022 to 1,075 homes from 1,149 homes in the 2021 period, as a 35.3% increase in average active communities was offset by a 30.9% decrease in orders pace to 3.8 per month in the second quarter of 2022 as compared to 5.5 per month in 2021. The West Region's orders pace was negatively impacted by the cancellation rate which increased to 17% for the three months ended June 30, 2022, compared to 7% for the same period in the prior year, a reflection of the softening market as well as a general decrease in market demand. We expect demand for our homes in this Region to remain consistent in the near-term, as baby boomer and millennials continue to experience life events aligned with homebuying and we believe our affordable entry-level homes are an attractive alternative to the move-up homes that they may be priced out of.

Year-to-date results in the West Region were similar to those of the second quarter. The number of homes closed versus prior year was virtually flat, but home closing revenue increased 14.0% driven by a 15.1% higher ASP. Order volume in the West Region declined only 1.2% year-to-date, as a 26.8% decline in year-to-date orders pace was offset by a 34.0% increase in the average number of actively selling communities. Order value was positively impacted by a 18.5% increase in ASP, which resulted in 17.1% higher order value for the six months ended June 30, 2022. The West Region ended the second quarter of 2022 with 2,257 homes in backlog valued at $1.3 billion, up from 2,045 units valued at $954.7 million at June 30, 2021, increases of 10.4% and 32.0%, respectively.

Central. The Central Region experienced similar trends as the West Region in the second quarter of 2022. The Central Region closed 1,048 homes and generated $422.3 million in home closing revenue, as compared to 1,154 homes valued at $403.8 million in the second quarter of 2021. The 9.2% decrease in closings caused by elongated construction cycle times was more than offset by 15.2% higher ASP for a 4.6% increase in home closing revenue. Order volume of 1,096 homes in the second quarter of 2022 was relatively even with 1,101 homes in 2021, as a 26.0% increase in average active communities was offset by a 21.7% decrease in orders pace. The orders pace in the second quarter of 2022 of 4.7 per month is down from 6.0 in 2021; however, it is still above our expected normalized orders pace. The orders pace decline can be attributed to a higher cancellation rate of 17%, up from 9% for the same period in 2021, as well as general buyer concerns over declining affordability. A 15.2% increase in ASP on sales orders led to a 14.7% improvement in order value to $491.4 million in the second quarter of 2022, compared to $428.4 million in 2021.

For the six months ended June 30, 2022, home closings in the Central Region were down 9.3% and home closing revenue was up 6.6%. Orders and ASP on orders both improved year-over-year, with increases of 7.9% and 17.5%, respectively, resulting in a 26.8% increase in order value of $1.0 billion on 2,392 homes. The Central Region orders pace continued to exceed normalized levels and had the highest year-to-date in the Company, at 5.2 homes per month, down from 6.0 in 2021 due to softening demand and metering of sales orders in the first quarter of 2022. The Region ended the quarter with 2,349 units in backlog, up 35.9%, and backlog value of $1.0 billion, up 55.5% compared to the prior year.

East. While the West and Central Regions both showed signs of cooling in orders during the second quarter of 2022, the East Region had improvements in nearly all metrics and geographies, most notably in Florida. Home closing volume and revenue both improved year-over-year, closing 1,248 homes at $500.5 million in the second quarter of 2022, compared to 1,175 closings and $421.6 million in home closing revenue in the comparable prior year period, improvements of 6.2% and 18.7%, respectively. Orders and order value in the East Region grew by 23.5% and 39.2%, respectively, for the second quarter of 2022 with 1,596 units valued at $686.2 million compared to 1,292 units valued at $493.1 million in the prior year period, as pricing power drove up ASP by 12.7%, although South Carolina experienced a decrease in ASP on orders due to product mix shift. Florida contributed significantly to the orders growth in the Region, being the only state in the Company to increase orders pace year-over-year. As a whole, the East Region orders pace declined 9.6% to 4.7 per month, down from 5.2 per month for the same period in 2021.

The year-to-date results of the East Region were similar to those of the second quarter, with 5.8% and 18.4% improvements in home closing volume and revenue, respectively, compared to 2021, providing 2,369 closings and $934.7 million in home closing revenue for the six months ended June 30, 2022. Orders improved by 19.0% as a 14.8% decrease in orders pace for the six months ended June 30, 2022 was offset by a 40.8% increase in average active communities. Order value improved year over year by 33.9% due to increased volume and a 12.5% increase in ASP on orders. The East Region ended the quarter with 2,635 homes in backlog valued at $1.1 billion compared to 1,735 homes valued at $692.3 million at June 30, 2021, a 51.9% increase in units and 64.2% in value from strong demand and pricing power.

Land Closing Revenue and Gross Profit/(Loss)

From time to time, we may sell certain lots or land parcels to other homebuilders, developers or investors if we feel the sale will provide a greater economic benefit to us than continuing home construction or where we are looking to diversify our land positions in a specific geography, particularly with assets that no longer align with our strategy. As a result of such sales, we recognized land closing revenue of $3.4 million and $13.0 million for the three months ending June 30, 2022 and 2021, respectively, and profit of $0.7 million for the three months ended June 30, 2022 and a loss of $0.3 million for the same period in 2021. Year-to-date land sales resulted in profits of $11.4 million and $0.2 million in 2022 and 2021, respectively.

Other Operating Information (dollars in thousands)

(1) Home closing gross profit represents home closing revenue less cost of home closings, including impairments, if any. Cost of home closings includes land and lot development costs, direct home construction costs, an allocation of common community costs (such as architectural, legal and zoning costs), interest, sales tax, impact fees, warranty, construction overhead and closing costs.

Companywide. Home closing gross margin for the second quarter of 2022 improved 430 basis points to 31.6% compared to 27.3% in the second quarter of 2021. The improvement in home closing gross margin is due to pricing power experienced over the past few quarters resulting from elevated demand, which allowed the ASP of home closings to accelerate at a greater pace than direct costs which have also risen significantly. In addition, gross margin was positively impacted by the lower cost of land for entry-level home sites, lower amortization of interest expense that was previously capitalized, as the result of lower interest expense from our debt refinancing transactions in recent years, and better leveraging of fixed construction overhead costs due to higher home closing revenue. Higher home closing revenue combined with the margin improvement led to a $99.4 million increase in home closing gross profit of $444.7 million for the three months ended June 30, 2022, compared to $345.3 million for the three months ended June 30, 2021. For the six months ended June 30, 2022 and 2021, gross margin was up 490 basis points to 31.0% versus 26.1%, respectively, for the same reasons noted for the second quarter.

West. The West Region home closing gross margin improved 460 basis points to 30.6% for the second quarter of 2022 compared to 26.0% in the second quarter of 2021. For the six months ended June 30, 2022, home closing gross margin also improved, by 540 basis points to 30.8% versus 25.4% for the same period in the prior year. The improvements in home closing margin are due to rising ASPs that have more than offset rising commodity and labor costs, as well as the other factors noted above.

Central. Home closing gross margin in the Central Region improved 250 basis points to 32.1% for the second quarter of 2022 from 29.6% in the prior year quarter. Gross margin also improved for the six months ended June 30, 2022, up 280 basis points to 31.2% as compared to 28.4% for the same 2021 period. Home closing gross margin in the Central Region benefited from pricing power as ASP growth exceeded cost increases, lower cost of land for entry-level homes, lower amortization of interest expense and leverage of higher home closing revenue on fixed construction costs, as discussed above.

East. The East Region saw the greatest improvement in home closing gross margin at 550 basis points year-over-year to 32.0% in the second quarter of 2022 versus 26.5% for the comparable 2021 period. Similarly, for the six months ended June 30, 2022, gross margin was up 620 basis points to 31.0% versus 24.8% for the same period in the prior year. The improvement in gross margin for both the three and six months ended June 30, 2022 compared to the respective 2021 periods is due to pricing power more than offsetting rising commodity and labor costs, greater leverage of overhead costs on higher closing volume and also benefited from the other factors previously discussed.

Financial Services Profit (in thousands)

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Financial services profit represents the net profit of our financial services operations, including the operating profit generated by our wholly-owned title and insurance companies, Carefree Title and Meritage Insurance, as well as our portion of earnings from a mortgage joint venture. Financial services profit decreased $0.5 million in the second quarter of 2022 to $4.1 million versus $4.6 million in 2021, and by $1.0 million for the six months ended June 30, 2022 to $7.4 million versus $8.4 million, due to a change in mix of financial services closing volume in markets where we provide financial services, as Carefree Title does not provide title and escrow services in all of the markets in which we have homebuilding operations.

Selling, General and Administrative Expenses and Other Expenses (dollars in thousands)

Commissions and Other Sales Costs. Commissions and other sales costs are comprised of internal and external commissions and related sales and marketing expenses such as advertising and sales office costs. These costs were $69.4 million, or 4.9% of home closing revenue, for the three months ended June 30, 2022, $4.5 million and 90 basis points lower than the prior year comparable period. For the six months ended June 30, 2022, commissions and other sales costs decreased $6.7 million and 90 basis points compared to the corresponding prior year period. For both the three and six month comparative periods, the percentage decrease resulted from lower commissions paid to third party brokers that bring prospective buyers to our communities, greater leverage of overhead expenses on higher home closing revenue and leveraging of digital marketing solutions.

General and Administrative Expenses. General and administrative expenses represent corporate and divisional overhead expenses such as salaries and bonuses, occupancy, insurance and travel expenses. For the three months ended June 30, 2022, general and administrative expenses increased $4.8 million to $47.9 million, up from $43.2 million for the 2021 period and were consistent as a percentage of home closing revenue at 3.4%. For the six months ended June 30, 2022 and 2021, general and administrative expenses were $87.9 million or 3.3% of home closing revenue, as compared to $81.1 million or 3.5% of home closing revenue in 2021. The increase in general administrative expenses year-over-year for both three and six month periods is due primarily to a higher employee headcount. In addition, travel related expenses resumed some normalcy in the second quarter of 2022 as restrictions related to COVID-19 have eased.

Interest Expense. Interest expense is comprised of interest incurred, but not capitalized, on our senior notes, other borrowings, and our amended and restated unsecured revolving credit facility ("Credit Facility"), if any. We incurred no interest expense during the three months ended June 30, 2022, and $41,000 in the six month period ended June 30, 2022, compared to $77,000 and $0.2 million in the three and six months ended June 30, 2021, respectively.

Other (Expense)/Income, Net. Other (expense)/income, net, primarily consists of (i) sublease income, (ii) interest earned on our cash and cash equivalents, (iii) payments and awards related to legal settlements and (iv) our portion of pre-tax income or loss from non-financial services joint ventures. For the three and six months ended June 30, 2022, Other (expense)/income, net was expense of $0.5 million and $0.8 million, respectively, compared to income of $1.4 million and $2.2 million in the 2021 comparable three and six-month periods, respectively.

Loss on Early Extinguishment of Debt. Loss on early extinguishment of debt of $18.2 million for the three and six months ended June 30, 2021 is related to the early redemption of our $300.0 million 7.00% Senior Notes due 2022 during the second quarter of 2021. There were no similar charges for the three and six months ended June 30, 2022. See Note 6 in the accompanying unaudited consolidated financial statements for more information related to the early redemption of our Senior Notes due 2022.

Income Taxes.

Our effective tax rate was 24.6% and 22.4% for the three months ended June 30, 2022 and 2021, respectively, and 24.3% and 21.6% for the six months ended June 30, 2022 and 2021. The higher tax rates in 2022 is due to the expiration of the Internal Revenue Code §45L new energy efficient homes credits on December 31, 2021.

Liquidity and Capital Resources

We have historically generated cash and funded our operations primarily from cash flows from operating activities. Additional sources of funds may include additional debt or equity financing and borrowing capacity under our Credit Facility. We exercise strict controls and believe we have a prudent strategy for Company-wide cash management, including those related to cash outlays for land acquisition and development and speculative inventory construction. Our principal uses of cash include acquisition and development of new and previously controlled land and lot positions, home construction, operating expenses, and the payment of interest and routine liabilities. From time to time, we opportunistically repurchase our common stock and senior notes.

Cash flows for each of our communities depend on their stage of the development cycle, and can differ substantially from reported earnings. Early stages of development or expansion require significant cash outlays for land acquisitions, zoning plat and other approvals, community and lot development, and construction of model homes, roads, utilities, landscape and other amenities. Because these costs are a component of our inventory and are not recognized in our income statement until a home closes, we incur significant cash outlays prior to recognition of earnings. In the later stages of a community, cash inflows may significantly exceed earnings reported for financial statement purposes, as the cash outflow associated with home and land construction was previously incurred. Similarly, in times of community count growth, we incur significant outlays of cash through the land purchase, development and community opening stages whereas in in times of community count stability, these cash outlays are incurred in a more even-flow cadence with cash inflows from actively selling communities that are contributing closing volume and home closing revenue. Conversely, in a down turn environment, cash outlays for land and community count growth may be scaled back.

Short-term Liquidity and Capital Resources

Over the course of the next twelve months, we expect that our primary demand for funds will be for the construction of homes, as well as acquisition and development of both new and existing lots, operating expenses, including general and administrative expenses, interest payments and opportunistic common stock repurchases. We expect to meet these short-term liquidity requirements primarily through our cash and cash equivalents on hand and our net cash flows provided by operations.

Between our cash and cash equivalents on hand combined with the availability of liquidity from our Credit Facility, we believe that we currently have sufficient liquidity. Nevertheless, we may seek additional capital to strengthen our liquidity position, enable us to acquire additional land inventory in anticipation of improving market conditions, and/or strengthen our long-term capital structure.

Long-term Liquidity and Capital Resources

Beyond the next twelve months, our principal demands for funds will be for the construction of homes, land acquisition and development activities needed to grow our lot supply and active community count, payments of principal and interest on our senior notes as they become due or mature and common stock repurchases. We expect our existing and generated cash will be adequate to fund our ongoing operating activities as well as providing capital for investment in future land purchases and related development activities. To the extent the sources of capital described above are insufficient to meet our long-term cash needs, we may also conduct additional public offerings of our securities, refinance or secure new debt or dispose of certain assets to fund our operating activities. There can be no assurances that we would be able to obtain such additional capital on terms acceptable to us, if at all, and such additional equity or debt financing could dilute the interests of our existing stockholders or increase our interest costs.

Material Cash Requirements

We are a party to many contractual obligations involving commitments to make payments to third parties. These obligations impact both short-term and long-term liquidity and capital resource needs. Certain contractual obligations are reflected on our unaudited consolidated balance sheet as of June 30, 2022, while others are considered future commitments for materials or services not yet provided. Our contractual obligations primarily consist of principal and interest payments on our senior notes, loans payable and other borrowings, including our Credit Agreement, letters of credit and surety bonds and operating leases. We have no debt maturities until 2025. We also have certain short-term lease commitments, commitments to fund our existing unconsolidated joint ventures and other purchase obligations in the normal course of business. Other material cash requirements include land acquisition and development costs, home construction costs and operating expenses, including our selling, general and administrative expenses, as previously discussed. We plan to fund these commitments primarily with cash flows generated by operations, but may also utilize additional debt or equity financing and borrowing capacity under our Credit Facility. Our maximum exposure to loss on our purchase and option agreements is generally limited to non-refundable deposits and capitalized pre-acquisition costs.

For information about our loans payable and other borrowings, including our Credit Facility, and senior notes, reference is made to Notes 5 and 6 in the accompanying notes to the unaudited consolidated financial statements included in this Quarterly Report on Form 10-Q and are incorporated by reference herein. For information about our lease obligations, reference is made to Note 4 in the consolidated financial statements included in the Annual Report on Form 10-K for the year ended December 31, 2021.

Reference is made to Notes 1, 3, 4, and 15 in the accompanying notes to the unaudited consolidated financial statements included in this Quarterly Report on Form 10-Q and are incorporated by reference herein. These Notes discuss our off-balance sheet arrangements with respect to land acquisition contracts and option agreements, and land development joint ventures, including the nature and amounts of financial obligations relating to these items. In addition, these Notes discuss the nature and amounts of certain types of commitments that arise in connection with the ordinary course of our land development and homebuilding operations, including commitments of land development joint ventures for which we might be obligated, if any.

We do not engage in commodity trading or other similar activities. We had no derivative financial instruments at June 30, 2022 or December 31, 2021.

Operating Cash Flow Activities

During the six months ended June 30, 2022, net cash used in operating activities totaled $206.8 million versus $143.5 million during the six months ended June 30, 2021. Operating cash flows in the first six months of 2022 benefited from cash generated by net earnings of $467.3 million and an increase in accounts payable and accrued liabilities of $113.4 million due to timing of payments for routine transactions, offset by a $729.5 million increase in real estate assets largely related to the increase in homes under construction and a $90.4 million increase in other receivables, prepaids and other assets. The increase in other receivables, prepaids and other assets was largely due to the purchase of fixed rate interest locks for eligible buyers in our backlog. For the six months ended June 30, 2021, operating cash flows generated by net earnings were offset by a $469.7 million increase in real estate assets.

Investing Cash Flow Activities

During the six months ended June 30, 2022 and 2021, net cash used in investing activities totaled $18.3 million and $10.7 million, respectively. Cash used in investing activities in the first half of 2022 is mainly attributable to the purchases of property and equipment of $12.9 million and investments in unconsolidated entities of $5.7 million. Cash used in investing activities for the first half of 2021 consisted primarily of purchases of property and equipment of $11.0 million.

Financing Cash Flow Activities

During the six months ended June 30, 2022, net cash used in financing activities totaled $121.1 million, compared to net cash provided by financing activities of $92.9 million during the six months ended June 30, 2021. The net cash used in financing activities in 2022 primarily reflects $109.3 million in share repurchases. See 'Part II, Item 2 - Unregistered Sales of Equity Securities and Use of Proceeds' for more information about our authorized share repurchase program. The net cash provided by financing activities in 2021 primarily reflects the net proceeds of $450.0 million from the issuance of our 3.875% Senior Notes due 2029, offset by the early redemption of our 7.00% Senior Notes due 2022 of $300.0 million principal and associated early tender fees of $17.7 million, along with share repurchases of $27.5 million.

We believe that our leverage ratios provide useful information to the users of our financial statements regarding our financial position and cash and debt management. Debt-to-capital and net debt-to-capital are calculated as follows (dollars in thousands):

(1) Debt-to-capital is computed as senior notes, net and loans payable and other borrowings divided by the aggregate of total senior notes, net, loans payable and other borrowings and stockholders' equity.

(2) Net debt-to-capital is computed as net debt divided by the aggregate of net debt and stockholders' equity. Net debt is comprised of total senior notes, net and loans payable and other borrowings, less cash and cash equivalents. The most directly comparable GAAP financial measure is the ratio of debt-to-capital. We believe the ratio of net debt-to-capital is a relevant financial measure for investors to understand the leverage employed in our operations and as an indicator of our ability to obtain financing.

We have never declared cash dividends. Currently, we plan to utilize our cash to manage our liquidity and to grow community count. Future cash dividends, if any, will depend upon economic and financial conditions, results of operations, capital requirements, statutory requirements, restrictions imposed by our Credit Facility, as well as other factors considered relevant by our Board of Directors.

Credit Facility Covenants

Borrowings under the Credit Facility are unsecured, but availability is subject to, among other things, a borrowing base. The Credit Facility also contains certain financial covenants, including (a) a minimum tangible net worth requirement of $1.9 billion (which amount is subject to increase over time based on subsequent earnings and proceeds from equity offerings), and (b) a maximum leverage covenant that prohibits the leverage ratio (as defined therein) from exceeding 60%. In addition, we are required to maintain either (i) an interest coverage ratio (EBITDA to interest expense, as defined therein) of at least 1.50 to 1.00 or (ii) liquidity (as defined therein) of an amount not less than our consolidated interest incurred during the trailing 12 months. We were in compliance with all Credit Facility covenants as of June 30, 2022. Our actual financial covenant calculations as of June 30, 2022 are reflected in the table below.

(1) We are required to meet either the Interest Coverage Ratio or Minimum Liquidity, but not both.

Seasonality

Historically, we have experienced seasonal variations in our quarterly operating results and capital requirements. We typically sell more homes in the first half of the fiscal year than in the second half, which creates additional working capital requirements in the second and third quarters to build our inventories to satisfy the deliveries in the second half of the year. We typically benefit from the cash generated from home closings more in the third and fourth quarters than in the first and second quarters. During 2020, historical cycles were impacted by COVID-19 and since then have been further impacted by sustained increased demand and supply chain and labor constraints. Historical seasonality returned in 2022 and we expect it to continue over the long term, although it may, from time to time, be affected by short-term volatility in the homebuilding industry and in the overall economy.

Recent Issued Accounting Pronouncements

See Note 1 to our unaudited consolidated financial statements included in this report for discussion of recently issued accounting pronouncements.

Our fixed rate debt is made up primarily of $1.2 billion in principal of our senior notes. Except in limited circumstances, we do not have an obligation to prepay our fixed-rate debt prior to maturity and, as a result, interest rate risk and changes in fair value should not have a significant impact on our fixed rate borrowings until we would be required to repay such debt and access the capital markets to issue new debt. Our Credit Facility is subject to interest rate changes as the borrowing rates are based on SOFR or Prime (see Note 5 in the accompanying notes to the unaudited consolidated financial statements included in this Form 10-Q).

Our operations are interest rate sensitive. As overall housing demand is adversely affected by increases in interest rates, a significant increase in mortgage interest rates may negatively affect the ability of homebuyers to secure adequate financing. Higher interest rates and/or rapidly increasing interest rates could adversely affect our revenues, gross margins, net income and cancellation rates and would also increase our variable rate borrowing costs on our Credit Facility, if any. We do not enter into, or intend to enter into, derivative interest rate swap financial instruments for trading or speculative purposes.

In order to ensure that the information we must disclose in our filings with the SEC is recorded, processed, summarized and reported on a timely basis, we have developed and implemented disclosure controls and procedures. Our management, with the participation of our CEO and CFO, has reviewed and evaluated the effectiveness of our disclosure controls and procedures, as defined in Exchange Act Rules 13a-15(e) and 15d-15(e), as of June 30, 2022 (the “Evaluation Date”). Based on such evaluation, our management has concluded that, as of the Evaluation Date, our disclosure controls and procedures were effective at a reasonable assurance level in ensuring that information that is required to be disclosed in the reports we file or submit under the Exchange Act is recorded, processed, summarized and reported within the time periods specified in the SEC’s rules and forms, and that information required to be disclosed in our reports filed or submitted under the Exchange Act is accumulated and communicated to our management, including our CEO and CFO, as appropriate to allow timely decisions regarding required disclosure.

During the fiscal quarter covered by this Form 10-Q, there has not been any change in our internal control over financial reporting that has materially affected, or that is reasonably likely to materially affect, our internal control over financial reporting.

In addition to the other information set forth in this report, you should carefully consider the factors discussed in Part I, Item IA "Risk Factors" in our Annual Report on Form 10-K for the year ended December 31, 2021, which could materially affect our business, financial condition or future results. The risks described in our Annual Report on Form 10-K are not the only risks facing us. Additional risks and uncertainties not currently known to us or that we currently deem to be immaterial also may eventually prove to materially adversely affect our business, financial condition and/or operating results. Except as described below, there has been no material change in our risk factors as previously disclosed in our Annual Report on Form 10-K for the year ended December 31, 2021.

Increases in interest rates or decreases in mortgage availability may make purchasing a home more difficult or less desirable and may negatively impact the ability to sell new and existing homes.

In general, housing demand is adversely affected by increases in interest rates and a lack of availability of mortgage financing. Most of our buyers finance their home purchases through our mortgage joint venture or third party lenders providing mortgage financing. If mortgage interest rates increase and, consequently, the ability of prospective buyers to finance home purchases is adversely affected, our home sales and cash flow may be adversely affected and the impact may be material. Additionally, rapid increases in interest rates may negatively impact affordability of a home purchase for existing buyers in backlog who have not yet locked in a mortgage interest rate for their loan. This could lead to an increase in the number of contract cancellations in our reported sales order numbers. For example, although long-term interest rates remain low compared to historical averages, in the first half of 2022 they have trended upward and are anticipated to continue to increase in the near term. We may have the ability to offset the impact of rising interest rates on affordability by purchasing interest rate locks; however, there is no guarantee that interest rate locks will be available for us to purchase at desirable terms, or if they are available, there is no guarantee that they will be utilized by potential customers.

A homebuyers' ability to obtain a mortgage loan is largely subject to prevailing interest rates, lenders’ credit standards and appraisals, and the availability of government-supported programs, such as those from the Federal Housing Administration ("FHA"), the

Veterans Administration ("VA"), Federal National Mortgage Association ("Fannie Mae") and the Federal Home Loan Mortgage Corporation ("Freddie Mac"). If credit standards or appraisal guidelines are tightened, or mortgage loan programs are curtailed, potential buyers of our homes may not be able to obtain necessary mortgage financing. There can be no assurance that these programs will continue to be available or that they will be as accommodating as they currently are. Continued legislative and regulatory actions and more stringent underwriting standards could have a material adverse effect on our business if certain buyers are unable to obtain mortgage financing. A prolonged tightening of the financial markets could also negatively impact our business.

The above risks can also indirectly impact us to the extent our customers need to sell their existing homes to purchase a new home from us if the potential buyer of their home is unable to obtain mortgage financing.