Forestar Group Inc (FOR) 2007 Q4 法說會逐字稿

Good day and welcome to the fourth-quarter 2007 Forestar Real Estate Group Inc. earnings conference call. My name is Candace and I will be your coordinator for today. At this time, all participants are in a listen-only mode. (OPERATOR INSTRUCTIONS). I would now like to turn the presentation over to your host for today's conference, Mr. Chris Nines, Chief Financial Officer. Sir, you may proceed.

Thank you and good morning. This is Chris Nines, Chief Financial Officer of Forestar Real Estate Group. I would like to welcome each of you who have joined us by conference call or web cast this morning to discuss the results for fourth-quarter and full-year 2007. Joining me this morning is Jim DeCosmo, President and CEO of Forestar Real Estate Group. Let me remind you to please review the warning statements in our press release and our slides concerning forward-looking statements as we will make forward-looking statements during this presentation. This morning, Jim DeCosmo and I will present fourth-quarter and full-year 2007 financial results. At the completion of our presentation, we will be happy to take your questions. Thanks again for your interest in Forestar Real Estate Group, and I would now like to turn the call over to Jim DeCosmo. Jim?

Thank you, Chris, and good morning to those who have joined us on our first earnings conference call. We value your time as well as your interest in Forestar.

This is certainly one of the most difficult housing markets we've seen, yet I tell you this -- in these markets, we've got the greatest opportunity. We're fortunate unlike many other real estate entities and homebuilders to have generated positive earnings in 2007.

Let me share with you three important points relating to Forestar. One, we have a strong portfolio of assets. We have 105 projects in nine states and 12 markets primarily in the major markets of Texas and Atlanta. The majority of our projects for lot inventory in the major markets of Texas [are] some of the healthiest markets in the nation and they accounted for over 90% of our lot sales in 2007.

Of our 373,000 acres of real estate, we have approximately 305,000 low basis acres in around Atlanta, the nation's fourth-largest job market in 2007 adding over 52,000 jobs, a fundamental driver of housing demand. Natural resources, 620,000 net mineral acres and approximately 350,000 timber-producing acres.

Number two, we have the right strategy and business model. Creating long-term shareholder value through the entitlement and development of real estate is central to our business. Given the low basis and low capital requirement for entitlement will continue to entitlement at full capacity, creating significant value. Our investments in development will be limited to projects where market conditions support sales. Realization of value from natural resources. Our natural resources generated $35 million in revenue in 2007 with minimal expense. Growing the business through strategic and disciplined investment. In 2007, our acquisitions were limited to nine investments totaling approximately $54 million. We passed on many acquisitions to better position Forestar for future opportunities that we believe will be the most attractive in the cycle.

And number three and most important, an experienced and proven team. A portfolio and strategy are critical, but key to success is having a team in place that can deliver and execute under all market conditions. I am confident that our team has been through the cycle and will deliver results and we're excited about our opportunities going forward. I will turn it over to Chris for a review the financials.

Thanks Jim. Fourth-quarter 2007 results were essentially breakeven on the net income and pro forma earnings per share basis. However, for the year 2007, Forestar reported net income of $24.8 million and pro forma diluted earnings of $0.69 per share. Full-year 2007 pro forma diluted shares outstanding were 36.1 million shares.

Now let me focus on the financial results for our two segments, Real Estate and Natural Resources. Forestar's Real Estate segment includes about 373,000 acres of land owned directly or through ventures located in 10 states and 13 markets. Forestar's Natural Resources include 622,000 net acres of oil and gas mineral interests and sells wood fiber from our land primarily located in Georgia.

Our real estate operation reported a segment loss of $200,000 in fourth quarter 2007, compared with segment earnings of $15.4 million in fourth quarter 2006. For the year 2007, Real Estate reported segment earnings of $39.5 million compared with $70.3 million in 2006. Real estate segment results for 2007 were negatively affected by a slowdown in residential lot sales activity. In addition, full-year 2007 Real Estate segment earnings include a $6.5 million impairment expense primarily associated with a commercial golf club operation and development in Granbury, Texas.

Natural Resources segment earnings were $7.5 million in fourth quarter of 2007 compared with only $2.8 million in fourth quarter 2006. Let me remind you that fourth quarter 2007 segment results benefit from a $2.2 million gain from the partial termination of a timber lease with the Jones Company in connection with the formation of the Ironstob venture. Jim will discuss the Ironstob venture in more detail in just a few moments. Full-year 2007 segment earnings for Natural Resources were $26.5 million compared with $33 million in 2006. Let me remind you that 2006 was a record year for our mineral activities. Natural Resources segment earnings in 2007 were in line with our 2004 to 2006 average annual run rate and the primary driver of lower segment earnings for Natural Resources in 2007 compared with 2006 was lower natural gas production and pricing.

Now let me turn the call back over to Jim, who will walk you through our real estate pipeline, our key performance indicators and our 2007 highlights.

Thank you, Chris. I will review the year-end status of our real estate value creation pipeline, followed by three slides and provide a review of our key performance indicators. That is the metrics we track and manage and focus on.

Our real estate value creation pipeline is comprised of four basic value categories with the strategy being to drive product in acreage to the value chain from left to the right. At year end '07, we had approximately 328,000 low basis undeveloped acres. The vast majority of this segment is comprised of acreage we selected from the 2 million acre land portfolio once owned by Temple-Inland, principally located in and around Atlanta. We have 28,590 acres of entitlement process and a little over 14,000 acres entitled and just over 2400 acres in the development category yielding our 2007 year-end land portfolio of just under 373,000 acres. In addition, we have an estimated 24,760 lots in entitled category and just over 5000 lots in development for a total estimated lot count of just under 30,000. The amount reflected in acreage is approximately 17,000 acres of undeveloped acreage in a joint venture formed in the fourth quarter of 2007 and I will provide you additional insight on what is called the Ironstob venture in an upcoming slide.

Now let me move to our key performance indicators for our Real Estate segment. In the fourth quarter of 2007, we sold 309 lots at an average lot price of $45,900 and at an average profit of $12,600. We sold 23 commercial acres at $390,600 per acre and 693 undeveloped acres at an average price of $5900 an acre. In 2007, we sold 1707 lots at an average price of $52,900 a lot and at an average profit of $19,400. Over 90% of our 2007 lot sales were in our Texas markets. In 2007, we sold 198 commercial acres at $261,200 per acre and 2617 undeveloped acres at an average price of $6700 an acre. The turmoil in the credit and the credit mortgaging markets have slowed our sales velocity, yet our prices continue to hold up well, reflecting the quality of our portfolio. The most significant issue in our markets is the combination of poor buyer sentiment and significantly tighter lending standards, not necessarily pricing, affordability or inventory issues.

Now let me turn to our entitlement KPIs. Acres moved into the entitlement process, 4300 in 2007 and 4900 acres in 2006; acres entitled, 1700 in 2007 and 2200 in 2006. Total estimated lots for both years is approximately 4300 and total commercial acreage for both years is 160. We have moved only one project of 180 acres into development. Not shown on this slide but at the end of 2007, we had 24 projects totaling 28,590 acres in the entitlement process; 18 in Atlanta, two in California and four in Texas. We remain very focused on our entitlement activities and as we have said on a number of occasions, securing entitlement crates multiples of value at a relatively low level of investment. Entitling real estate is one of our primary strengths and core competencies.

Now let me move to our key performance indicators for our Natural Resources segment. Let me go to the bottom line. Even though our [2000] natural resource revenues were off $10 million compared to 2006, as Chris said 2006 was an all-time record for royalty interest principally driven by strong gas production and price. 2007 was in line with the average run rate of the last three years. In 2007, net mineral acres leased and price were off slightly. The average rate per acre was influenced primarily by a lease in Alabama. This is the first leasing activity we have experienced in what is called the Conasauga and Floyd gas plays in Alabama and Georgia. We're very encouraged by the activity in the region, however, it's going to take time before the true potential can be determined. The number of producing wells is up by 37 year-over-year while the net royalty interest is off marginally due primarily to new wells being located in plays where we have a lower mineral interest.

With regard to production, oil & gas were both off year-over-year principally driven by a few high production wells playing out. The balance of our Natural Resource segment primarily consists of fiber sales. In 2007, volume was up while price was impacted by both mix and timber prices. Our Natural Resources continue to benefit from the strength of oil and gas markets and we remain focused on developing and capitalizing on our natural resource assets going forward.

2007 highlights -- even though these were difficult markets in 2007, we were very successful executing a number of significant value-creating initiatives. For a number of years, Forestar held a long-term timber lease with the Jones Company that prohibited any land sales or other activities without our [release], the exception being for eminent domain. We believe there was a value opportunity for both companies. During the fourth quarter of 2007, Ironstob was formed, a venture with the Jones Company comprised of approximately 17,000 acres principally located in Paulding County, Georgia, one of the fastest-growing counties in North Georgia. It happens to be the same location where we first began our real estate value creation activities in Georgia with the first two development projects, Bentwater and Seven Hills. Forestar is the managing member of the venture and will retain a 58% ownership interest. As with all of our ownership, our focus is to generate the greatest benefit and value from each and every acre.

Contingent on the formation of the venture was our release of 7000 acres to the Jones Company for a subsequent sale to the state for a wildlife management area. The sales price for the transaction was $6500 per acre. We believe this to be a true win for the County, for the Jones Company, as well as for Forestar.

As we announced in January, Glenn Cornell has joined our Forestar team in Georgia and as you can see, Glenn has had invaluable experience across an array of economic development initiatives in Georgia. Glenn brings a wealth of knowledge, experience and relationship to Forestar that are certain to bolster our value creation activities. Directing and generating economic development in the regions of our ownership creates value for multiple projects. This is Glenn's focus and his top priority, and of course Glenn will have the full support of our team and our partners in Atlanta.

We continue to make good progress at our Cibolo Canyons projects in San Antonio. In 2007, we closed the Marriott Golf Resort agreement with Marriott, TPC and Miller Global. The 1002-room resort is expected to be Marriott's largest golf resort in the U.S. with two TPC gold courses, one designed by Pete Dye and the other by Greg Norman. Opening is planned for June of 2010. As part of the agreement, we'll contribute 700 acres and 38 million to the project, and in exchange, Forestar will receive 9% of room revenue, 2.5% of resort operating revenues through 2034. In addition, Cibolo will host San Antonio's 2008 Parade of Homes, an event that creates a lot of excitement and activity and traffic for the project. For more information, and you get a better view of the project, I would encourage you to visit the project web site at the address at the bottom of the slides.

For the year, we invested $54.4 million in nine projects representing approximately 3700 acres. That is down from our acquisition investment of $74 million in 2006. Given the 2007 market conditions, we passed on a number of potential acquisitions and adjusted our focus towards real estate with solid fundamentals encumbered with financial issues. For example, the SEC forced liquidation of a public company, properties went to the courts and subsequently placed in a receivership. [Light] Ranch in Celina, Texas, a Dallas suburb, was one of those properties. Light Ranch is good solid real estate with financial issues. Underwriting the acquisition while in receivership exceeded our return criteria 35% return on [cost]. Now post closing, number one, we went back to the Texas Legislature for additional road powers to be included in the utility district, enabling reimbursement for all major roads. The value created is expected to exceed the purchase price. Number two, we negotiated an economic development agreement with the City of Celina, [incurring] water and sewage issues and enabling a development plan very similar to Lantana, which is one of our very successful Master Planned Communities that has received the Dallas Community of the Year Award two out of the last three years. Once again, additional value creation as well as a replacement for Lantana. As a result, Light Ranch has been named a finalist in Dallas Business Journal's prestigious Best Real Estate Deals of the Year competition.

Light Ranch is a good example of our ability to create value and grow the business through acquisitions. We believe the distressed markets will continue to create future opportunities. All of our 2007 acquisitions and investments are located in our strategic growth corridors with seven of nine investments in the major markets of Texas. We firmly believe these products will create long-term value for our shareholders.

In closing, I would say that we've made significant progress in 2007 even though it was a difficult year for the market. We expect 2008 to be at least as challenging as 2007, yet the same time to be a year of opportunity. Going forward, we will continue our entitlement activities at full capacity, creating significant value at relatively low investment levels. We will be disciplined in development investments, focusing only on those projects where market conditions support sales. We will operate our natural resources to maximize free cash flow, and last we will keep the business positioned to take advantage of growth opportunities, principally in our strategic growth corridors.

That's it for our prepared remarks. Now we will take questions for those who are participating on the call.

(OPERATOR INSTRUCTIONS). Christopher Chun, Deutsche Bank.

Just looking at the Real Estate segment results, I'm wondering if there were some costs elements that moved around, because just looking at the revenue I'm not sure if my quick math is correct. But it doesn't seem to get me all the way there in terms of a $13 million quarter over decline in segment earnings.

Chris, what potentially could be throwing you off a little bit is a number of these projects are in joint ventures which are accounted for through the equity method.

Okay. Let's say in terms of per acre or per lot costs quarter to quarter, was there no significant difference?

Chris, I would say there wasn't any material difference quarter to quarter in (inaudible). In a quarter, there's always going to be some mix issues, whether it's top line or in cost, but nothing significant.

Speaking of mix, Jim, I noticed that your residential lot per acre realizations were down a bit compared to full year 2007 levels. Was part of that explained by mix, or is that just a reflection of the markets softening where you are?

Chris, I would tell you that it's more of a lumpy business and more of a mix issue. On a quarterly basis, you're going to see more variation, and that is why I referred to the annual numbers. There's enough sales volume in there that it washes out a lot of that mix issue.

Okay. On the commercial side though, I saw that your per-acre value was very impressive. Can you talk about where that was and what drove the high per-acre price?

Chris, we don't talk about individual project sales within this portfolio. We have some really valuable commercial acreage. And when it goes to market it's going to be at a good price.

Okay. And then I had sort of a bigger picture question for you. I'm wondering, in thinking about the mix and the volume of your sales in terms of your undeveloped land and your residential lots, how do you start thinking about what land you ought to be selling in an undeveloped state and what land you should be keeping so that you can develop it for sale at a later time?

Chris, that's an ongoing process. We look at every tract, every acre that is in this portfolio and based on market conditions and our market projections, we'll determine if assets are candidates for entitlement and subsequent development or if they become candidates for monetization. I will tell you that our core strategy and belief is, and the reason why we selected this acreage from the Temple-Inland portfolio, is our belief at the value that can be created, I will tell you multiples of value, by taking it through the entitlement and development process. Back to what I said earlier, that is an ongoing process and it's based on what's happening in markets where the development of infrastructure or the lack thereof. So it's something that we're constantly looking at.

Let me also ask you a related question. When it comes to residential lots that you actually are developing, can you talk about how you think about how much to sell in a given quarter or a year if markets are relatively soft, and under what conditions you would just choose not to sell it and sort of wait out the market?

Chris, I think you can see from our financials that our position is generally to move with the market which is reflected in the average lot prices in '07 versus '06, and even versus '05. With regards to sales, we move with the market and we're not going to move any faster than the builders do. So as we said on a number of medications, there's no sense in putting inventory on the ground that's not going to generate sales.

And, finally, Jim, it occurs to me that based on per-lot price that you received, both in 4Q and on average in 2007 and the per-lot profit that you mentioned, that actually the per-lot costs were approximately $33,000 or $34,000 per lot in each case. Can you give us a breakdown in terms of what that $34,000 went toward in terms of maybe land acquisition costs versus actual development costs versus anything else that might be?

Chris, in our investor presentation that we posted late in December after we became public, there is a development example or a proxy toward the back of that presentation, and that's a pretty good reflection of the ratio to land costs to development costs.

So that slide would be pretty representative?

Yes, that was the intention of that charge, is to provide a little bit more transparency and insight into cost as well as to revenues and returns.

Mike Weintraub, Buckingham Research.

Jim, I guess I'm also struggling a little bit in understanding the fourth quarter, the real estate results, basically the breakeven. I understand there was a $3.9 million impairment expense. How much quality fixed costs are there in that real estate group, and/or could you break out for us what was the JV contribution? Perhaps that would help clarify a little bit what is going on.

What I would tell you is that in the fourth quarter, there was the impairment on the golf facility. I will tell you that our undeveloped land sales were down in the fourth quarter compared to a historical run rate. I would tell you that costs were probably up a little bit, a reflection of gearing up for the spend of becoming a public company.

Okay. And I guess as we try and put together models for profitability in '08 and/or '09, is there any guidance or help you can provide for us perhaps as a starting point? In terms of undeveloped land, how much might you have on the front burner, or how much are you potentially looking to sell this year? Or any type of metrics that you can share with us that can help us start establishing a view on annual earnings? I realize that it's the net asset values and it's over time realizing the values that matters. But, again, we do have to put together the '08 earnings models and any help you can give us is appreciated.

Sure. As I have expressed before, we don't give earnings guidance. But what I would tell you, I will repeat the comment I made toward the end of my summary comments. And that is that we'd expect 2008 to be at least as challenging as 2007.

Do you go into a year with a view on selling certain amounts of unentitled properties? Obviously, you probably are listing them before they get sold. What type of approach or game plan do you have going into '08 on that particular score?

Mark, you will see that there's a number of tracts that are listed on our website for sale, and that is generally the properties that are in the pipeline. I would tell you that on a go-forward basis that we would look at with -- the same way that we looked at our business historically.

And perhaps providing a little bit of color, how what exactly was that?

Mark, if you look back at our land sales over the last couple of years, you can see the run rate there with regards to acres and price.

I see, understood. Okay, thank you.

This will be our last question.

Chris Haley, Wachovia Securities.

Two questions, that would be a help. If we go back to the cost of the business excluding variable costs, SG&A, if I think of the corporate costs, going public costs, maintaining a public company costs and then the fixed costs in terms of personnel to keep the business going, how would you characterize the aggregate costs for the 2008-2009 period? I will follow-up with my second question.

Chris, I would tell you that there's quite a bit of information to respond to that question in our Form 10, and I would refer you to that data. I would say that from an operating expense, Forestar is a very lean business and a lean organization. We have approximately 90 employees and we feel confident with the organization we have in place, that we are positioned and prepared to run this business. Obviously considering G&A from being a segment within Temple-Inland and becoming public, there will be an adjustment to the G&A expense. But as I said, we have kept this organization as lean as we possibly can. So we obviously have attempted to minimize that cost.

Thank you. The follow-up question has to do with internal rates of return or hurdle rates that you look at from taking an unimproved piece of dirt and moving it into production with horizontal improvements for which you invest eventually intend to sell units to end-users, homebuilders, etc. Could you provide some color on the discount rates, hurdle rates that you look at to move unimproved dirt into production?

Chris, once again, I would refer you back to our investor presentation. There was an example, I believe it's on page 34, and there is a metric in there that we refer to as return on cost, that's 35%. The generally equates to an IRR somewhere in the mid 20s. So that is a metric we look at (MULTIPLE SPEAKERS).

Pretax or after tax?

Pretax.

Okay, so then that is a rough range that you use throughout. Is there any adjustments you make either for Atlanta or a Dallas or elsewhere -- Atlanta, Texas, elsewhere?

No, that is a rate we use whether we are looking at acquisitions or we are considering developments in our projects in and around Atlanta.

Thank you, Chris. That's our last call. I do want to thank everybody for participating in the call this morning and we are adjourned.

Thank you for your participation. You may now disconnect. Have a great day.