NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)
1. ORGANIZATION AND BASIS OF PRESENTATION
Organization and Description of the Business
LGI Homes, Inc., a Delaware corporation (the “Company”, “us,” “we,” or “our,”), is engaged in the development of communities and the design, construction, marketing and sale of new homes. At
March 31, 2017
, we had operations in Texas, Arizona, Florida, Georgia, New Mexico, Colorado, North Carolina, South Carolina, Washington and Tennessee.
Basis of Presentation
The unaudited consolidated financial statements have been prepared in accordance with U.S. Generally Accepted Accounting Principles (“GAAP”) for interim financial information and with the instructions to Form 10-Q and Article 10 of Regulation S-X. Accordingly, they do not include all of the information and footnotes required by GAAP for complete financial statements. These financial statements should be read in conjunction with the consolidated financial statements included in our Annual Report on Form 10-K for the fiscal year ended December 31, 2016. The accompanying unaudited consolidated financial statements include all adjustments that are of a normal recurring nature and necessary for the fair presentation of our results for the interim periods presented. Results for interim periods are not necessarily indicative of results to be expected for the full year.
The accompanying unaudited financial statements as of
March 31, 2017
, and for the
three
months ended
March 31, 2017
and
2016
, include the accounts of the Company and its subsidiaries. All intercompany balances and transactions have been eliminated in consolidation.
Use of Estimates
The preparation of financial statements in conformity with GAAP requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenues and expenses during the reporting period. Actual results could differ from those estimates, and these differences could have a significant impact on the financial statements. The significant accounting estimates include real estate inventory and cost of sales, impairment of real estate inventory and property and equipment, goodwill, warranty reserves, our earnout liability, our liability under our self-funded health benefit plan, the fair value of the convertible debt, loss contingencies, incentive compensation expense, and income taxes.
Recently Adopted Accounting Standards
Effective January 1, 2017, we adopted the Financial Accounting Standards Board (the “FASB”) Accounting Standards Update (“ASU”) No. 2016-09,
“Compensation - Stock Compensation: Improvements to Employee Share-Based Payment Accounting”
(“ASU 2016-09”), which includes multiple amendments intended to simplify aspects of share-based payment accounting and how they are presented in the financial statements. Under previous guidance, excess tax benefits and deficiencies from stock-based compensation arrangements were recorded in equity when the awards vested or were settled. ASU 2016-09 requires prospective recognition of excess tax benefits and deficiencies in the income statement, resulting in the recognition of excess tax benefits of
$0.6 million
in income tax expense, rather than in additional paid-in capital, for the three months ended
March 31, 2017
.
In addition, under ASU 2016-09, excess income tax benefits from stock-based compensation arrangements are classified as cash flow from operations, rather than as cash flow from financing activities. We have elected to apply the cash flow classification guidance of ASU 2016-09 prospectively, resulting in an increase to operating cash flow of
$0.6 million
for the three months ended
March 31, 2017
.
In recording share-based compensation expense, ASU 2016-09 allows companies to make a policy election as to whether they will include an estimate of awards expected to be forfeited or whether they will account for forfeitures as they occur. We have elected to continue to account for forfeitures as they occur, as forfeitures have historically been immaterial.
ASU 2016-09 requires excess tax benefits and deficiencies to be prospectively excluded from assumed future proceeds in the calculation of diluted shares, resulting in an increase in diluted weighted average shares outstanding of
51,597
shares for the
three months ended
March 31, 2017
.
Recently Issued Accounting Pronouncements
In November 2016, the FASB issued ASU No. 2016-18,
“Statement of Cash Flows (Topic 230): Restricted Cash” (“ASU 2016-18”)
, which
provides guidance on the presentation of restricted cash or restricted cash equivalents in the statement of cash flows by requiring it be included with cash and cash equivalents when reconciling the beginning-of-period and end-of-period total amounts shown on the statement of cash flows, thereby reducing previous diversity in practice. This amendment will be effective for us in our fiscal year beginning January 1, 2018. We do not expect the adoption of ASU 2016-18 will have a material effect on our consolidated statement of cash flows or disclosures.
In August 2016, the FASB issued ASU No. 2016-15,
“Statement of Cash Flows - Classification of Certain Cash Receipts and Cash Payments,” (“ASU 2016-15”)
, which addresses specific classification issues and is intended to reduce diversity in current practice regarding the manner in which certain cash receipts and cash payments are presented and classified in the cash flow statement. ASU 2016-15 will be effective for annual reporting periods beginning after December 15, 2017, and early adoption is permitted. We are currently evaluating the impact that the adoption of ASU 2016-15 will have on our consolidated financial statements and disclosures.
In February 2016, the FASB issued ASU No. 2016-02,
“Leases,” (“ASU 2016-02”),
which amends the existing accounting standards for lease accounting, including requiring lessees to recognize most leases on their balance sheets. Topic 842
“Leases,”
will be effective for annual reporting periods beginning after December 15, 2018, and early adoption is permitted. ASU 2016-02 requires a modified retrospective transition approach for all leases existing at, or entered into after, the date of initial application, with an option to use certain transition relief. We are currently evaluating the impact that the adoption of ASU 2016-02 will have on our consolidated financial statements and disclosures.
In May 2014, the FASB issued ASU No. 2014-09, “
Revenue from Contracts with Customers” (“ASU 2014-09”)
, which provides guidance for revenue recognition. ASU 2014-09 affects any entity that either enters into contracts with customers to transfer goods or services or enters into contracts for the transfer of nonfinancial assets and supersedes the revenue recognition requirements in Topic 605, “Revenue Recognition,” and most industry-specific guidance. This ASU also supersedes some cost guidance included in Subtopic 605-35, “Revenue Recognition-Construction-Type and Production-Type Contracts.”
ASU
2014-09’s core principle is that a company will recognize revenue when it transfers promised goods or services to customers in an amount that reflects the consideration to which a company expects to be entitled in exchange for those goods or services. In doing so, companies will need to use more judgment and make more estimates than under today’s guidance, including identifying performance obligations in the contract, estimating the amount of variable consideration to include in the transaction price and allocating the transaction price to each separate performance obligation. As part of our assessment work-to-date, we have formed an implementation work team and are continuing our contract review and documentation. ASU 2014-09 and related FASB updates are effective for us beginning January 1, 2018 and, at that time, we expect to adopt the new standard under the modified retrospective approach. We are continuing to evaluate the impact of this accounting pronouncement and do not expect the adoption of ASU 2014-09 to have a material impact on our consolidated financial statements and disclosures.
2. REAL ESTATE INVENTORY
Our real estate inventory consists of the following (in thousands):
|
|
|
|
|
|
|
|
|
|
|
|
March 31,
|
|
December 31,
|
|
|
2017
|
|
2016
|
Land, land under development, and finished lots
|
|
$
|
490,685
|
|
|
$
|
477,461
|
|
Information centers
|
|
15,608
|
|
|
13,589
|
|
Homes in progress
|
|
152,910
|
|
|
94,686
|
|
Completed homes
|
|
129,555
|
|
|
131,945
|
|
Total real estate inventory
|
|
$
|
788,758
|
|
|
$
|
717,681
|
|
Inventory is stated at cost unless the carrying amount is determined not to be recoverable, in which case the affected inventory is written down to fair value.
Land, development and other project costs, including interest and property taxes incurred during development and home construction and net of expected reimbursements of development costs, are capitalized to real estate inventory. Land development and other common costs that benefit the entire community, including field construction supervision and related direct overhead, are allocated to individual lots or homes, as appropriate. The costs of lots are transferred to homes in progress when home construction begins. Home construction costs and related carrying charges are allocated to the cost of individual homes using the specific identification method. Costs that are not specifically identifiable to a home are allocated on a pro rata basis using either the lot size or relative sales value. Inventory costs for completed homes are expensed to cost of sales as homes are sold. Changes to estimated total development costs subsequent to initial home closings in a community are generally allocated to the remaining unsold lots and homes in the community on a pro rata basis.
The life cycle of a community generally ranges from
two
to
five
years, commencing with the acquisition of land, continuing through the land development phase, and concluding with the construction and sale of homes. A constructed home is used as the community sales office during the life of the community and then sold. Actual individual community lives will vary based on the size of the community, the sales absorption rate, and whether the property was purchased as raw land or finished lots.
Interest and financing costs incurred under our debt obligations, as more fully discussed in Note 4, are capitalized to qualifying real estate projects under development and homes in progress.
3. ACCRUED EXPENSES AND OTHER LIABILITIES
Accrued and other current liabilities consist of the following (in thousands):
|
|
|
|
|
|
|
|
|
|
|
|
March 31,
|
|
December 31,
|
|
|
2017
|
|
2016
|
Inventory related obligations
|
|
$
|
16,303
|
|
|
$
|
16,352
|
|
Taxes payable
|
|
9,131
|
|
|
5,040
|
|
Retentions and development payable
|
|
6,999
|
|
|
8,506
|
|
Accrued compensation, bonuses and benefits
|
|
4,720
|
|
|
7,800
|
|
Accrued interest
|
|
2,681
|
|
|
1,645
|
|
Warranty reserve
|
|
1,650
|
|
|
1,600
|
|
Other
|
|
5,658
|
|
|
5,446
|
|
Total accrued expenses and other liabilities
|
|
$
|
47,142
|
|
|
$
|
46,389
|
|
Inventory Related Obligations
We own lots in certain communities in Florida, Arizona, and Texas that have Community Development Districts (“CDD”) or similar utility and infrastructure development special assessment programs that allocate a fixed amount of debt service associated with development activities to each lot. This obligation for infrastructure development is attached to the land, is typically payable over a
30
-year period, and is ultimately assumed by the homebuyer when home sales are closed. Such obligations represent a non-cash cost of the lots.
Estimated Warranty Reserve
We typically provide homebuyers with a
one
-year warranty on the house and a
ten
-year limited warranty for major defects in structural elements such as framing components and foundation systems.
Changes to our warranty accrual are as follows (in thousands):
|
|
|
|
|
|
|
|
|
|
|
|
Three Months Ended March 31,
|
|
|
2017
|
|
2016
|
Warranty reserves, beginning of period
|
|
$
|
1,600
|
|
|
$
|
1,325
|
|
Warranty provision
|
|
352
|
|
|
509
|
|
Warranty expenditures
|
|
(302
|
)
|
|
(509
|
)
|
Warranty reserves, end of period
|
|
$
|
1,650
|
|
|
$
|
1,325
|
|
4. NOTES PAYABLE
Revolving Credit Agreement
In May 2015, we entered into a Credit Agreement (the “Credit Agreement”) with several financial institutions, and Wells Fargo Bank, National Association, as administrative agent. The Credit Agreement provided for a revolving credit facility up to
$300.0 million
. On May 27, 2016, we entered into an Amended and Restated Credit Agreement (the “A&R Credit Agreement”) with several financial institutions, and Wells Fargo Bank, National Association, as administrative agent. The A&R Credit Agreement has substantially similar terms and provisions as the Credit Agreement but provided for a
$360.0 million
revolving credit facility, which could be increased by our request up to
$400.0 million
, subject to the terms and conditions of the A&R Credit Agreement. On September 12, 2016, the A&R Credit Agreement was amended to permit up to
$4.0 million
of deferred purchase price indebtedness related to land purchases at any given time. On December 28, 2016 and February 28, 2017, the A&R Credit Agreement
was increased by
$25.0 million
and
$15.0 million
, respectively, to
$400.0 million
in accordance with the accordion feature of the A&R Credit Agreement.
The A&R Credit Agreement matures on
May 27, 2019
. Prior to each annual anniversary of the A&R Credit Agreement, we may request a one-year extension of the maturity date. The A&R Credit Agreement is guaranteed by each of our subsidiaries having gross assets equal to or greater than
$0.5 million
. Prior to the occurrence of a trigger event under the A&R Credit Agreement, the revolving credit facility is unsecured. As of
March 31, 2017
, the borrowing base under the A&R Credit Agreement was
$400.0 million
, of which
$350.0 million
was outstanding,
$6.7 million
represented letter of credit assurances, and
$43.3 million
was available to borrow.
Interest is paid monthly on borrowings under the A&R Credit Agreement at LIBOR plus
3.25%
. The A&R Credit Agreement applicable margin for LIBOR loans ranges from 3.00% to 3.50% based on our leverage ratio. At
March 31, 2017
, LIBOR was
0.93%
.
The A&R Credit Agreement contains various financial covenants, including a tangible net worth ratio, a leverage ratio, a minimum liquidity amount, and an EBITDA to interest expense ratio. The A&R Credit Agreement contains various covenants that, among other restrictions, limit the amount of our additional debt and our ability to make certain investments. At
March 31, 2017
, we were in compliance with all of the covenants contained in the A&R Credit Agreement.
Convertible Notes
We issued
$85.0 million
aggregate principal amount of our
4.25%
Convertible Notes due 2019 (the “Convertible Notes”) in November 2014. The Convertible Notes mature on
November 15, 2019
. Interest on the Convertible Notes is payable semiannually in May and November at a rate of
4.25%
. Prior to May 15, 2019, the Convertible Notes are convertible only upon satisfaction of any of the specified conversion events. On or after May 15, 2019, note holders can convert their Convertible Notes at any time at their option.
When issued, the conversion of the Convertible Notes could only be settled in shares of our common stock. Our stockholders approved the flexible settlement provisions of the Convertible Notes on April 30, 2015, which allows us to settle the conversion of the Convertible Notes using any combination of cash and shares of our common stock. It is our intent and belief that we have the ability to settle in cash the conversion of any Convertible Notes that the holders elect to convert. The initial conversion rate of the Convertible Notes is
46.4792
shares of our common stock for each
$1,000
principal amount of Convertible Notes, which represents an initial conversion price of approximately
$21.52
per share of our common stock. The conversion rate is subject to adjustments upon the occurrence of certain specified events.
At
March 31, 2017
, the Convertible Notes are convertible because the closing sale price of our common stock was greater than
130%
of the
$21.52
conversion price on at least 20 trading days during the 30 trading day period ending on
March 31, 2017
. As a result, the holders of the Convertible Notes may elect to convert some or all of their Convertible Notes in accordance with the terms and provisions of the indenture governing the Convertible Notes during the conversion period of April 1, 2017 through June 30, 2017 (inclusive). As of the date of the filing of this Quarterly Report on Form 10-Q, none of the holders of the Convertible Notes have elected to convert their Convertible Notes.
When the Convertible Notes were issued, the fair value of
$76.5 million
was recorded to notes payable.
$5.5 million
of the remaining proceeds was recorded to additional paid in capital to reflect the equity component and the remaining
$3.0 million
was recorded as a deferred tax liability. The carrying amount of the Convertible Notes is being accreted to face value over the term to maturity.
Notes payable consist of the following (in thousands):
|
|
|
|
|
|
|
|
|
|
|
|
March 31, 2017
|
|
December 31, 2016
|
|
|
|
Notes payable under credit facility ($400.0 million revolving credit facility at March 31, 2017) maturing on May 27, 2019; interest paid monthly at LIBOR plus 3.25%; net of approximately $2.6 million of debt issuance costs at March 31, 2017 and $2.7 million at December 31, 2016
|
|
$
|
347,374
|
|
|
$
|
322,253
|
|
4.25% Convertible Notes due November 15, 2019; interest paid semi-annually at 4.25%; net of debt issuance costs of approximately $1.4 million and $1.6 million at March 31, 2017 and December 31, 2016, respectively; and approximately $4.8 million and $5.2 million in unamortized discount at March 31, 2017 and December 31, 2016, respectively
|
|
78,781
|
|
|
78,230
|
|
Total notes payable
|
|
$
|
426,155
|
|
|
$
|
400,483
|
|
Capitalized Interest
Interest activity, including debt issuance costs and accretion of discount, for notes payable for the periods presented is as follows (in thousands):
|
|
|
|
|
|
|
|
|
|
|
|
Three Months Ended March 31,
|
|
|
2017
|
|
2016
|
Interest incurred
|
|
$
|
5,074
|
|
|
$
|
4,348
|
|
Less: Amounts capitalized
|
|
(5,074
|
)
|
|
(4,348
|
)
|
Interest expense
|
|
$
|
—
|
|
|
$
|
—
|
|
|
|
|
|
|
Cash paid for interest
|
|
$
|
3,159
|
|
|
$
|
2,263
|
|
Included in interest incurred was amortization of debt issuance costs for notes payable and amortization of Convertible Notes discount of
$0.9 million
and
$1.0 million
for the
three months ended
March 31, 2017
and
2016
, respectively.
5. INCOME TAXES
We file U.S. federal and state income tax returns. As of
March 31, 2017
, we have no unrecognized tax benefits. We are not presently under exam for income tax by any taxing jurisdiction and we are no longer subject to exam for years before 2013 (2012 for Texas).
Our effective tax rate of
30.1%
is lower than the statutory rate primarily as a result of a decrease in the rate for the federal Domestic Production Activity Deduction and the deductions in excess of compensation cost (“windfalls”) for share-based payments, offset by an increase in rate for state income taxes, net of the federal benefit.
Our effective rate of
30.1%
differed from the prior year rate of
34.4%
due to the recognition of windfalls in tax expense in the current year compared to recognition in Additional Paid-in Capital in the prior year, see Note 1 above, Recently Adopted Accounting Standards.
Income taxes paid were
$0.0 million
and
$5.2 million
for the
three months ended
March 31, 2017
and
2016
, respectively.
6. EQUITY
Shelf Registration Statement and ATM Offering Programs
We have an effective shelf registration statement on Form S-3 (the “Registration Statement”), to offer and sell from time to time various securities with a maximum offering price of
$300.0 million
. As of
March 31, 2017
, we have an at the market common stock offering program (the “2016 ATM Program”) under the Registration Statement, which enables us to offer and sell, from time to time, shares of our common stock having an aggregate offering price of up to
$25.0 million
in accordance with the terms and provisions of the Equity Distribution Agreement dated September 7, 2016 between us and the sales agents named therein. During the three months ended March 31, 2017, we issued and sold
150,000
shares of our common stock under the 2016 ATM Program and received net proceeds of approximately
$4.7 million
. At
March 31, 2017
we have the ability to sell up to
$11.0 million
aggregate offering price of additional shares of our common stock under the 2016 ATM Program.
In June 2016, we concluded our prior
$30.0 million
at the market common stock offering program (the “2015 ATM Program”). During the three months ended March 31, 2016, we issued and sold
150,000
shares of our common stock under the 2015 ATM Program and received net proceeds of approximately
$3.5 million
.
7. EARNINGS PER SHARE
The following table sets forth the computation of basic and diluted earnings per share for the
three
months ended
March 31, 2017
and
2016
:
|
|
|
|
|
|
|
|
|
|
|
|
Three Months Ended March 31,
|
|
|
2017
|
|
2016
|
Numerator (in thousands):
|
|
|
|
|
Numerator for basic and dilutive earnings per share
|
|
$
|
11,780
|
|
|
$
|
11,700
|
|
Denominator:
|
|
|
|
|
Basic weighted average shares outstanding
|
|
21,360,167
|
|
|
20,288,619
|
|
Effect of dilutive securities:
|
|
|
|
|
Convertible Notes - treasury stock method
|
|
1,161,326
|
|
|
130,942
|
|
Stock-based compensation units
|
|
266,159
|
|
|
41,512
|
|
Diluted weighted average shares outstanding
|
|
22,787,652
|
|
|
20,461,073
|
|
|
|
|
|
|
Basic earnings per share
|
|
$
|
0.55
|
|
|
$
|
0.58
|
|
Diluted earnings per share
|
|
$
|
0.52
|
|
|
$
|
0.57
|
|
Antidilutive non-vested restricted stock units excluded from calculation of diluted earnings per share
|
|
49,392
|
|
|
22,985
|
|
In accordance with Accounting Standards Codification (“ASC”) 260-10,
Earnings Per Share
, we calculated the dilutive effect of the Convertible Notes using the treasury stock method since we have the intent and ability to settle the principal amount of the outstanding Convertible Notes in cash. Under the treasury stock method, the Convertible Notes have a dilutive impact on diluted earnings per share to the extent that the average market price of our common stock for a reporting period exceeds the conversion price of
$21.52
per share.
During the
three
months ended
March 31, 2017
and
2016
, the average market price of our common stock exceeded the conversion price of
$21.52
per share, therefore the calculation of diluted earnings per share for both the
three
months ended
March 31, 2017
and
2016
includes the effect of approximately
1.2 million
and
0.1 million
shares of our common stock related to the conversion spread of the Convertible Notes, respectively.
Effective January 1, 2017, we adopted ASU No. 2016-09 which requires excess tax benefits and deficiencies to be prospectively excluded from assumed future proceeds in the calculation of diluted shares, resulting in an increase in diluted weighted average shares outstanding of
51,597
shares for the three months ended March 31, 2017.
8. STOCK-BASED COMPENSATION
Non-performance Based Restricted Stock Units
The following table summarizes the activity of our time-vested restricted stock units (“RSUs”):
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Three Months Ended March 31,
|
|
|
2017
|
|
2016
|
|
|
Shares
|
|
Weighted Average Grant Date Fair Value
|
|
Shares
|
|
Weighted Average Grant Date Fair Value
|
Beginning balance
|
|
133,853
|
|
|
$
|
20.13
|
|
|
107,814
|
|
|
$
|
16.48
|
|
Granted
|
|
61,986
|
|
|
$
|
31.64
|
|
|
46,378
|
|
|
$
|
21.78
|
|
Vested
|
|
(10,719
|
)
|
|
$
|
15.17
|
|
|
(9,305
|
)
|
|
$
|
14.78
|
|
Forfeited
|
|
(406
|
)
|
|
$
|
24.71
|
|
|
(1,731
|
)
|
|
$
|
16.24
|
|
Ending balance
|
|
184,714
|
|
|
$
|
24.27
|
|
|
143,156
|
|
|
$
|
18.31
|
|
During the
three months ended
March 31, 2017
, we issued
27,764
RSUs to senior management for the time based portion of our 2017 long-term incentive compensation program,
18,366
RSUs for 2016 bonuses to managers under our Annual Bonus Plan and
15,856
RSUs to other employees. Generally, the RSUs granted cliff vest on the third anniversary of the grant date and will be settled in shares of our common stock.
We recognized
$0.3 million
and
$0.2 million
of stock-based compensation expense related to outstanding RSUs grants for the
three months ended
March 31, 2017
and
2016
, respectively. At
March 31, 2017
, we had unrecognized compensation cost of
$3.2 million
related to unvested RSUs, which is expected to be recognized over a weighted average period of
2.5
years.
Performance Based Restricted Stock Units
The Compensation Committee of our Board of Directors has granted awards of Performance-Based RSUs (“PSUs”) under the LGI Homes, Inc. 2013 Equity Incentive Plan to certain members of senior management based on the three-year performance cycles. The PSUs provide for shares of our common stock to be issued based on the attainment of certain performance metrics over the applicable
three
-year period. The number of shares of our common stock that may be issued to the recipients for the PSUs range from
0%
to
200%
of the target amount depending on actual results as compared to the target performance metrics. The PSUs vest upon the determination date for the actual results at the end of the
three
-year period and require that the recipients continue to be employed by us through the determination date. The PSUs will be settled in shares of our common stock.
The following table summarizes the activity of our PSUs:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Period Granted
|
|
Performance Period
|
|
Target PSUs Outstanding at December 31, 2016
|
|
Target PSUs Granted
|
|
Target PSUs Vested
|
|
Target PSUs Forfeited
|
|
Target PSUs Outstanding at March 31, 2017
|
|
Weighted Average Grant Date Fair Value
|
2014
|
|
2014 - 2016
|
|
59,980
|
|
|
—
|
|
|
(59,980
|
)
|
|
—
|
|
|
—
|
|
|
$
|
17.09
|
|
2015
|
|
2015 - 2017
|
|
120,971
|
|
|
—
|
|
|
—
|
|
|
—
|
|
|
120,971
|
|
|
$
|
13.34
|
|
2016
|
|
2016 - 2018
|
|
87,605
|
|
|
—
|
|
|
—
|
|
|
—
|
|
|
87,605
|
|
|
$
|
21.79
|
|
2017
|
|
2017 - 2019
|
|
—
|
|
|
111,035
|
|
|
—
|
|
|
—
|
|
|
111,035
|
|
|
$
|
31.64
|
|
Total
|
|
|
|
268,556
|
|
|
111,035
|
|
|
(59,980
|
)
|
|
—
|
|
|
319,611
|
|
|
|
At
March 31, 2017
, management estimates that the recipients will receive approximately
200%
,
169%
and
100%
of the 2015, 2016 and 2017 target number of PSUs, respectively, at the end of the applicable
three
-year performance cycle based on projected performance compared to the target performance metrics. We recognized
$1.0 million
and
$0.6 million
of total stock-based compensation expense related to outstanding PSU grants for the
three months ended
March 31, 2017
and
2016
, respectively. PSUs granted in 2014 vested on March 15, 2017 at
200%
of the target amount,
119,960
shares. At
March 31, 2017
, we had unrecognized compensation cost of
$6.3 million
, based on the target amount, related to unvested PSUs, which is expected to be recognized over a weighted average period of
1.5
years.
9. FAIR VALUE DISCLOSURES
ASC Topic 820,
Fair Value Measurements
(“ASC 820”)
,
defines fair value as “the price that would be received to sell an asset or paid to transfer a liability in an orderly transaction between market participants at the measurement date” within an entity’s principal market, if any. The principal market is the market in which the reporting entity would sell the asset or transfer the liability with the greatest volume and level of activity, regardless of whether it is the market in which the entity will ultimately transact for a particular asset or liability or if a different market is potentially more advantageous. Accordingly, this exit price concept may result in a fair value that differs from the transaction price or market price of the asset or liability.
ASC 820 provides a framework for measuring fair value under GAAP, expands disclosures about fair value measurements, and establishes a fair value hierarchy, which requires an entity to maximize the use of observable inputs and minimize the use of unobservable inputs when measuring fair value. The three levels of the fair value hierarchy are summarized as follows:
Level 1
- Fair value is based on quoted prices in active markets for identical assets or liabilities.
Level 2
- Fair value is determined using significant observable inputs, generally either quoted prices in active markets for
similar assets or liabilities, or quoted prices in markets that are not active.
Level 3
- Fair value is determined using one or more significant inputs that are unobservable in active markets at the
measurement date, such as a pricing model, discounted cash flow, or similar technique.
We utilize fair value measurements to account for certain items and account balances within our consolidated financial statements. Fair value measurements may also be utilized on a nonrecurring basis, such as for the impairment of long-lived assets.
The fair value of financial instruments, including cash and cash equivalents and accounts receivable and accounts payable, approximate their carrying amounts due to the short term nature of these instruments. As of
March 31, 2017
, the revolving credit facility’s carrying value approximates market value since it has a floating interest rate, which increases or decreases with market interest rates and our leverage ratio.
In order to determine the fair value of the Convertible Notes listed below, the future contractual cash flows are discounted at our estimate of current market rates of interest, which were determined based upon the average interest rates of similar convertible notes within the homebuilding industry (Level 2 measurement).
The following table below shows the level and measurement of liabilities at
March 31, 2017
and
December 31, 2016
(in thousands):
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
March 31, 2017
|
|
December 31, 2016
|
|
|
Fair Value Hierarchy
|
|
Carrying Value
|
|
Estimated Fair Value
|
|
Carrying Value
|
|
Estimated Fair Value
|
Convertible Notes
|
|
Level 2
|
|
$
|
78,781
|
|
|
$
|
80,244
|
|
|
$
|
78,230
|
|
|
$
|
79,514
|
|
10. RELATED PARTY TRANSACTIONS
Magnolia Reserve
We have an option contract to purchase
106
finished lots in Montgomery County, Texas, from an affiliate of a family member of our chief executive officer for a total base purchase price of approximately
$8.0 million
. The lots are being purchased in takedowns of at least
21
lots during successive six month periods, subject to
5%
annual price escalation and certain price protection terms. During the
three months ended
March 31, 2017
and
2016
, we did not purchase any finished lots under the option contract. As of
March 31, 2017
, we have
64
finished lots remaining under the option contract, to be purchased in takedowns of at least
21
lots during each six-month period, for a total base purchase price of approximately
$4.8 million
. We have a
$100,000
non-refundable deposit at
March 31, 2017
related to this option contract. The third takedown of
21
lots under this option contract occurred on April 28, 2017.
Consulting Fees
We had a
three
year consulting agreement with a family member of our chief executive officer for
$100,000
per year payable on a monthly basis which was terminated in June 2016 by mutual agreement of the parties. Consulting fees were
$25,000
for the
three months ended
March 31, 2016
.
Home Sales to Affiliates
In the three months ended March 31, 2017, we closed on
three
homes to an affiliate of one of our directors for approximately
$0.7 million
. We had
no
home closings to affiliates during the
three months ended
March 31, 2016
.
11. COMMITMENTS AND CONTINGENCIES
Contingencies
In the ordinary course of doing business, we become subject to claims or proceedings from time to time relating to the purchase, development, and sale of real estate. Management believes that these claims include usual obligations incurred by real estate developers and home builders in the normal course of business. In the opinion of management, these matters will not have a material effect on our combined financial position, results of operations or cash flows.
We have provided unsecured environmental indemnities to certain lenders and other counterparties. In each case, we have performed due diligence on the potential environmental risks including obtaining an independent environmental review from outside environmental consultants. These indemnities obligate us to reimburse the guaranteed parties for damages related to environmental matters. There is no term or damage limitation on these indemnities; however, if an environmental matter arises, we may have recourse against other previous owners. In the ordinary course of doing business, we are subject to regulatory proceedings from time to time related to environmental and other matters. In the opinion of management, these matters will not have a material effect on our financial position, results of operations, or cash flows.
Land Deposits
We have land purchase option contracts, generally through cash deposits, for the right to purchase land or lots at a future point in time with predetermined terms. Amounts paid for land options and deposits on land purchase contracts are capitalized and classified as deposits to purchase. Upon acquisition of the land, these deposits are applied to the acquisition price of the land and recorded as a cost component of the land in real estate inventory. To the extent that any deposits are nonrefundable and the associated land acquisition process is terminated or no longer determined probable, the deposit and related pre-acquisition costs are charged to general and administrative expense. Management reviews the likelihood of the acquisition of contracted lots in conjunction with its periodic real estate impairment analysis.
Under ASC Topic 810,
Consolidation
(“ASC 810”), a nonrefundable deposit paid to an entity is deemed to be a variable interest that will absorb some or all of the entity
’
s expected losses if they occur. Non-refundable land purchase and lot option deposits generally represent our maximum exposure if we elect not to purchase the optioned property. In most instances, we will also expend funds for due diligence, development and construction activities with respect to optioned land prior to close. Such costs are classified as preacquisition costs, which we would have to absorb should the option not be exercised. Therefore, whenever we enter into a land option or purchase contract with an entity and make a nonrefundable deposit, we may have a variable interest in a VIE. In accordance with ASC 810, we perform ongoing reassessments of whether we are the primary beneficiary of a VIE and would consolidate the VIE if we are deemed to be the primary beneficiary. As of
March 31, 2017
and
December 31, 2016
, we determined we were not the primary beneficiary for any VIEs associated with non-refundable land deposit and option contracts.
The table below presents a summary of our lots under option or contract (in thousands, except for lot count):
|
|
|
|
|
|
|
|
|
|
|
|
March 31, 2017
|
|
December 31, 2016
|
Land deposits and option payments
|
|
$
|
10,715
|
|
|
$
|
9,954
|
|
Commitments under the land purchase option and deposit contracts if the purchases are consummated
|
|
$
|
243,271
|
|
|
$
|
234,198
|
|
Lots under land options and land purchase contracts
|
|
8,437
|
|
|
8,462
|
|
As of
March 31, 2017
, approximately
$3.4 million
of the land deposits are secured by mortgages or guaranteed by the seller or its affiliates.
Bonding, Letters of Credit and Financial Guarantees
We are committed to perform certain development and construction activities and provide certain guarantees in the normal course of business. We have outstanding letters of credit, performance and surety bonds and financial guarantees totaling
$34.7 million
and
$29.8 million
at
March 31, 2017
and
December 31, 2016
, respectively, related to our obligations for site improvements at various projects of which
$6.7 million
and
$6.3 million
, respectively, were issued under our revolving credit facility. Management does not believe that draws upon the letters of credit, performance and surety bonds or financial guarantees if any, will have a material effect on our consolidated financial position, results of operations, or cash flows.
12. SEGMENT INFORMATION
We operate
one
principal homebuilding business which is organized and reports by division. We have
six
operating segments at
March 31, 2017
: our Texas, Southwest, Southeast, Florida, Northwest and Midwest divisions. Our Texas division is our largest division and it comprised approximately
40%
and
50%
of total home sales revenues for the
three months ended
March 31, 2017
, and
2016
, respectively. As of March 31, 2017, the Midwest division had start-up activities and no revenues.
In accordance with ASC Topic 280,
Segment Reporting
(
“ASC Topic 280”
), operating segments are defined as components of an enterprise for which separate financial information is available that is evaluated regularly by the chief operating decision-maker (“CODM”) in deciding how to allocate resources and in assessing performance. The CODM primarily evaluates performance based on the number of homes closed, gross margin and net income.
The operating segments qualify for aggregation as
one
reporting segment. In determining the reportable segment, we concluded that all operating segments have similar economic and other characteristics, including similar home floor plans, average selling prices, gross margin, production construction processes, suppliers, subcontractors, regulatory environments, customer type, and underlying demand and supply. Each operating segment follows the same accounting policies and is managed by our management team. We have
no
inter-segment sales, as all sales are to external customers.