Forestar Group Inc. — Q1 2017 Form 10-Q
Reporting period: Three months ended March 31, 2017. Forestar develops residential and mixed-use real estate and manages mineral, timber, recreational-lease and water interests. It had divested substantially all oil and gas working-interest properties by year-end 2016; remaining owned mineral assets were sold during Q1 2017. Unless otherwise noted, amounts below are in millions of dollars.
Financial results and liquidity
| Metric | Q1 2017 | Q1 2016 / comparison |
|---|---|---|
| Revenue | $22.3 | $37.6; down 40.7% |
| Operating income | $36.2 | $13.6 |
| Continuing-operations net income | $24.8 | $3.9 |
| Consolidated net income (loss) | $25.2 | $(4.3) |
| Diluted earnings (loss) per share | $0.59 | $(0.10) |
| Operating cash flow | $(2.4) | $5.0 |
| Investing cash flow | $74.7 | $51.4 |
| Cash and equivalents, March 31 | $337.4 | $265.8 at Dec. 31, 2016 |
| Debt, net, March 31 | $111.8 | $110.4 at Dec. 31, 2016 |
The reported operating income and profit were heavily affected by a $74.2 million gain on sale of owned mineral assets and a noncash $37.9 million goodwill impairment. The mineral sale generated $77.5 million of Q1 proceeds; a further $8.2 million was held in escrow pending title verification, with the related gain deferred. Consequently, headline profit and operating margin are not representative of recurring operations.
Real estate segment earnings were $10.5 million, down from $20.2 million, primarily reflecting the absence of prior-year multifamily and undeveloped-land sale gains and no retail-program undeveloped-land sales. Higher earnings from equity-method ventures partly offset the decline. Mineral segment earnings were $37.8 million, including the mineral-sale gain and impairment. Other segment loss narrowed to $0.4 million from $0.6 million. Interest expense fell to $2.2 million from $7.6 million, chiefly following debt reductions in 2016.
Total assets were $763.6 million and total equity $587.3 million at quarter-end. The company reported $337.4 million cash and $53.7 million net unused capacity on its senior secured revolver, with no revolver borrowings and $14.5 million of letters of credit outstanding. It reported compliance with debt covenants; leverage was 24.4%, interest coverage 22.65x, and tangible net worth $571.3 million against a $445.2 million requirement. The $125 million revolver matured May 15, 2017, with two one-year extension options.
Material changes and unusual items
- Q1 revenue declined mainly because 2016 included commercial and income-producing-property revenue and undeveloped-land sales; residential lot revenue rose, although owned/consolidated lot volume fell to 190 from 248. Average revenue per owned/consolidated lot increased 29%, reflecting product mix.
- The mineral-asset sale removed substantially all remaining owned mineral assets. The company also recorded a $3.0 million settlement payment in the Huffman litigation.
- Cash increased by $71.6 million, largely due to asset-sale proceeds. Operating cash flow was negative; management cited the absence of $14.7 million received in Q1 2016 from a failed like-kind exchange and the Q1 2017 legal settlement.
- At March 31, goodwill was zero, versus $37.9 million at year-end 2016. Receivables rose to $18.5 million, including $7.7 million held in escrow from the mineral sale.
Outlook, risks and contingencies
- No quantitative earnings or revenue guidance was provided. Management’s stated initiatives were reducing costs, completing sales of non-core assets, and reviewing capital allocation and capital structure.
- On April 13, 2017, Forestar agreed to be acquired by affiliates of Starwood Capital Group for $14.25 per share in cash, subject to shareholder approval and other conditions; closing was expected in Q3 2017. Conditions included specified asset dispositions. Termination fees and expense-reimbursement provisions may apply if the agreement ends in specified circumstances.
- After quarter-end, Forestar sold approximately 11,000 Georgia acres for $20 million (estimated gain $8.6 million) and approximately 4,400 Texas acres for $16 million (estimated gain $12 million).
- Key risks include merger completion and related disruption or termination costs; real-estate demand, pricing, entitlements and development costs; timing and approval of utility-district reimbursements; covenant and liquidity management as non-core assets are sold; and partners’ ability to meet commitments. Cibolo Canyons had $9.2 million of approved but unpaid infrastructure reimbursements, excluding interest, and reimbursement timing remains uncertain.
- The company maintained a $68.9 million valuation allowance against deferred tax assets, citing cumulative losses as significant negative evidence. Management said ordinary-course litigation and environmental reserves were adequate, while noting that charges in any period could be significant. The Huffman matter was settled for $3.0 million. Disclosure controls were judged effective, and no material change in internal control was reported.
Most important facts for investors to verify
- Whether the merger’s shareholder, disposition and other closing conditions were satisfied, and whether the $14.25-per-share transaction closed.
- Final mineral-sale proceeds and release of the $8.2 million escrow, including the deferred gain after title review.
- Revolver extension or replacement after its May 15, 2017 maturity, borrowing capacity and covenant headroom as collateral assets are sold.
- Real-estate lot-sale volumes, pricing and venture earnings, and whether recurring operating cash flow improves without reliance on asset-sale proceeds.
- Collection timing for Cibolo Canyons reimbursements and realizability of deferred tax assets.