Forestar Group Inc. — Form 10-Q Summary
Business context and period: This filing covers Forestar’s first quarter of fiscal 2019, the three months ended December 31, 2018. Forestar is a residential lot developer operating in 35 markets across 16 states. D.R. Horton owns 75% of the company and is a major customer and strategic partner. Forestar reported one operating segment, real estate.
Financial performance and position
- Revenue: $38.5 million, up from $30.9 million in the prior-year quarter. Residential real estate revenue was $32.5 million, land and lot banking $2.2 million, and commercial real estate $3.5 million.
- Profitability: Continuing-operations pretax income was $4.9 million versus a $10.3 million loss. Net income attributable to Forestar was $3.3 million, or $0.08 per diluted share, compared with a $17.6 million loss, or $0.42 per share. Gross profit was $7.8 million (revenue less cost of sales), versus $8.3 million; the corresponding gross margin was approximately 20% versus 27%.
- Cash flow: Operating activities used $164.1 million, compared with $22.3 million used a year earlier, primarily reflecting increased land acquisition and development. Investing activities were approximately cash-neutral; financing activities used $0.6 million. Cash, cash equivalents and restricted cash fell by $164.7 million to $170.3 million.
- Liquidity and debt: Unrestricted cash was $154.2 million and restricted cash was $16.1 million. Debt, net, was $112.9 million, consisting principally of convertible notes due 2020; no revolving-credit borrowings were outstanding. The $380 million revolving facility had $376.6 million available after letters of credit, and the company reported compliance with its covenants.
- Balance sheet: Real estate increased to $693.2 million from $498.0 million, reflecting $163.5 million of acquisitions and $57.3 million of development investment during the quarter. Total assets were $918.7 million and total equity was $678.0 million.
Material changes versus the prior-year quarter
- Residential lot sales volume increased to 518 lots from 255, principally due to sales to D.R. Horton. Forestar sold D.R. Horton 455 lots for $29.0 million, generating $4.4 million in gross profit.
- Reported results improved substantially, but comparisons include significant prior-year items: $18.1 million of merger-related costs within SG&A, a $5.8 million impairment charge, and $7.0 million of equity-method earnings that included a $7.8 million gain on a multifamily project sale. The prior-year quarter also included $7.2 million of discontinued-operations tax benefit.
- Interest expense was zero in the current quarter versus $2.1 million a year earlier; Forestar said interest costs were capitalized as active real estate projects increased.
- Forestar adopted ASC 606 on October 1, 2018 using the modified retrospective method. The company reported no impact on the amount or timing of revenue for the quarter.
Outlook, risks and other notable items
- Management’s strategy is to expand a geographically diversified lot-development platform through short-duration, phased projects, with D.R. Horton and other homebuilders as customers. The filing provides no quantitative earnings or revenue guidance.
- Management said it was evaluating longer-term capital structure, liquidity and working-capital needs. It may seek capital through public debt or equity offerings or additional bank financing; a $500 million equity shelf registration had been filed.
- At quarter-end, Forestar owned or controlled approximately 25,600 residential lots; more than 9,400 were under contract to sell to D.R. Horton, and D.R. Horton had rights of first offer on nearly 9,400 lots. Related-party transactions and customer concentration are relevant considerations.
- Key stated risks include housing demand and mortgage-credit conditions, interest rates, land entitlement and development approvals, labor and materials costs, capital access, surety-bond availability, partner performance, debt-covenant compliance, and the influence of D.R. Horton’s controlling ownership. The company had $82.9 million of surety bonds outstanding.
- Forestar reported ordinary-course litigation and said it did not expect the proceedings to have a material adverse effect, while noting charges in an individual period could be significant. It reported no significant interest-rate or commodity-price exposure and no foreign-currency exposure.
Important facts for investors to verify
- Whether the higher lot-sale volume and revenue translate into sustainable margins, given the quarter’s lower gross margin.
- How rapidly the company can deploy its cash into acquisitions and development while managing substantial operating cash outflows.
- The terms, volume and economics of D.R. Horton sales, land options, rights of first offer and other related-party arrangements.
- Available liquidity after accounting for restricted cash, letters of credit, surety obligations, and the borrowing-base and covenant terms of the revolving facility.
- How much of the prior-year comparison reflects nonrecurring merger costs, impairment, venture gains and discontinued-operations tax benefits rather than underlying operating trends.