Forestar Group Inc (FOR) 2012 Q2 法說會逐字稿

Good day ladies and gentlemen and welcome to Forestar Group Second Quarter 2012 Earnings Conference Call. My name is Regina and I will be your conference Operator for today. At this time all participants are in listen-only mode. Later, we will be conducting a question and answer session.

(Operator Instructions)

Today's event is being recorded for replay purposes. I would now like to turn the conference over to your host for today, Miss Anna Torma, Senior Vice President of Corporate Affairs. Please go ahead ma'am.

Thanks, and good afternoon. I would like to welcome each of you who have joined us by conference call or webcast to discuss Forestar's Second Quarter 2012 results. I'm Anna Torma, and joining me on the call today is Jim DeCosmo, President and CEO, and Chris Nines, Chief Financial Officer. This call is being webcast and copies of the earnings release and presentation slides are now available on the Investor Relations section of our website at forestargroup.com.

Before we get started, let me remind you to please review the warning statements in our press release and our slides, as we will make forward-looking statements during the presentation. Thanks for your interest in Forestar, now let me turn the call over to Jim for some introductory remarks.

Thank you, Anna, and I'd also like to welcome everybody's who's joining us on the call this afternoon. You can't help but watch the Olympics and be inspired. Did you happen to see Michael Phelps or Oscar Pistorius? Both tremendous athletes. Two different stories yet so much in common. Have you ever seen their eyes before they competed? They were intense. You could see incredible focus, conviction, and even a touch of fear. Those are such captivating moments. They're eyes reflected all the discipline, determination, and an unwavering spirit that led to their medals and their achievements. What we witnessed in the Olympics is a culmination of years of training with ups and downs, and through times of fear, defeat, victory and uncertainty.

And you know, that reminds me a lot of the difficult economy in markets all of us are investing and operating in today. But just like any great athlete, I believe that Forestar team has got the right strategy, skill and tenacity, not only to compete but to win. Today's we're primarily competing in two arenas. Real estate and oil and gas.

Now these markets are heading in the right direction but we're still a long way from 1.5 million starts a year. Our team strategy is to invest in and create great communities where you and I would want to live and grow in cities, locations close to jobs, good schools and affordable living. And that's what's selling today.

Oil and gas in North America is in the midst of a world-class renaissance. For the first time in 40 years oil production in the US has gone up. Oil imports are down to 48% from 60% less than ten years ago as US dollars working and staying at home. Oil and gas teams' focus is to increase production of reserves plus provide you with more transparency relative to the potential value of our oil and gas assets. We expect the acquisition of CREDO and enhance returns expand and diversify portfolio and improve our ability to generate additional reserves.

Overall, there's no question. Challenges exist. But I'm confident that our team's position is well-prepared to win. We scored a few points in the first half of 2012, and I can tell you -- I still think there's many more to come. Now, I'll turn the call over to Chris to review financials.

Thank you, Jim. In the Second Quarter 2012 Forestar reported earnings of $811,000, or $0.02 per share, compared with a net loss of $3.9 million, or $0.11 per share in the Second Quarter of 2011. This year-over-year improvement was driven principally by higher real estate and mineral resources segment results. Second Quarter 2012 results include approximately $1.6 million in expenses, after tax, associated with the pending acquisition of CREDO Petroleum. Second Quarter 2011 results include $1.8 million in costs, after tax, paid to outside advisors related to the proposed private debt offerings which were withdrawn due to the deterioration in terms available to us in the capital markets.

In Second Quarter 2012, mineral Resources reported total segment earnings of $3.9 million compared with $3.1 million in Second Quarter 2011. This improvement is principally due to higher oil production largely related to activity in the Upper Wilcox Formation in Louisiana, and Often Chalk in East Texas.

Real Estate reported segment earnings of $7.7 million in Second Quarter 2012 compared with $1 million in Second Quarter 2011. This improvement includes the benefit of increased lot sales, additional commercial tract sales, and the $3.4 million gain related to the sale of 800 acres from the Light Farms venture.

Fiber Resources reported total segment earnings of $600,000 in Second Quarter 2012 compared with $700,000 Second Quarter 2011. Let me remind you that Second Quarter 2011 results included a $200,000 gain associated with the termination of the timber lease. The following slide highlights our balance sheet strength and liquidity which is the strongest since we were spun out of Temple-Inland at year-end 2007.

Through Second Quarter 2012, we've seen the benefit of our strategic initiatives to accelerate value realization. In the first quarter we sold our 25% interest in Pallisades West which resulted in pre-tax cash proceeds of $32 million. In the second quarter, the Light Farms venture sold 800 acres, generating $25 million in cash and reducing our consolidated debt by $31 million. In addition, the closing of two multi-family ventures in Second Quarter resulted in the reimbursement of our pro-rata share of previous investment in these properties, generating almost $11 million in cash. As a result, at the end of the second quarter we had $45 million in cash and only $202 million in consolidated debt. This is the lowest level of debt we have had since becoming a public company. And, our financial leverage is measured by total debt to total capital was only 28%, and available liquidity was $189 million.

This balance sheet strength and financial flexibility have forced our well-positioned to take advantage of strategic and disciplined growth opportunities going forward. Now, let me turn the call back over to Jim for some additional operating highlights.

Thanks Chris. Let me share with you just a few of our Second Quarter 2012 accomplishments. Number one, our share of oil production was up over 120% compared with the second quarter of 2011. There were seven new wells that came online during the quarter increasing the total to 541 wells generating royalties.

Number two, lot sales were up over 50% compared with the second quarter of 2011, and our pipeline-to-builder option contracts at 1,435 lots remained strong. Number three, we sold over 105,000 tons of fiber with nearly all of our available land leased for hunting and recreation.

Number four, we closed two new multi-family ventures, one community located in downtown Austin, the other one located adjacent to the Denver, Colorado Tech Center- both great locations. Number five, we announced an affinitive agreement to acquire CREDO Petroleum for $146 million.

Number six, and as we highlighted on our last call, we closed on the sale of 800 acres at Light Farms. It's an undeveloped community located near Dallas, Texas. And number seven, we converted the non-performing loan for Discovery at Spring Trails project in the segment earnings of $1.1 million.

Let's take a look our mineral segment results. Overall, our second quarter mineral resources earnings of $3.9 million were up almost $1 million compared to 2011, and that's principally due to $2.5 million increase in royalties. The primary driver was oil production which was up over 120% year-over-year; and we received over $400,000 in delay rentals. Revenues were partially offset by lower lease bonus and the incremental operating costs associated with building out a first-class oil and gas team.

Now let's take a look at the increase in well count and oil production. Drilling activity -- but more importantly - oil production continues to increase. Oil counted for 48% of total production in the second quarter. Of the seven wells completed, five were oil and two were natural gas. This is a significant shift from 2011 when nearly 70% of the wells added were natural gas producers.

The chart on the right illustrates a marked increase in our sale of oil production over the same timeframe, a trend we expect to continue. Our interest in oil production is an expected increase from about 88,000 barrels in 2008 to an estimated 225,000 barrels in 2012; and that's excluding any benefit from the acquisition of CREDO. However, we do expect CREDO to make a sizeable contribution to oil production given their working interest in the Bakken and Three Forks in North Dakota, and in operations in Kansas and Nebraska. Excuse me.

Going forward, recognizing the responsibly delivering the greatest value from every acre will take on a little bit different meaning. Geologists and geophysicist will be developing great prospects with engineering and operations responsible for producing the value. After the close of CREDO, the team will be prioritizing opportunities on over 720,000 net mineral acres.

New production continues to be diversified across the number formation and basins with 40 new wells coming online just in the last 12 months. The majority of activity is located in the Upper Wilcox Formation in the West Gordon Field, and that's located in Beauregard Parish, Louisiana. And the Austin Chalk Formation that's located in Newton County, Texas which is currently leased in Louisiana. Both formations are heavily weighted toward liquid. Of the seven wells completed in the Second Quarter, there was one Austin Chalk, one Fremantle, and five Wilcox wells. Also at the end of the quarter there was one well drilling in Austin Chalk and one Upper Wilcox well in completion. I'm encouraged by our progress and anticipate that as natural gas prices recover over time we should see even more activity.

Second quarter fiber resources segment earnings were down about $100,000 compared with the second quarter of 2011, which is reflective of less Timberland acreage. As a reminder, the second quarter 2011 includes a $200,000 gain associated with the termination of the timber lease. During the quarter we sold over 105,000 tons of fiber with average pricing was up over 14%. That's compared to the same quarter last year which was mostly due to higher saw timber prices

Recreational leasing activity remains strong as we had nearly all of our available land leased for recreational and hunting uses. With all the ups and mostly downs in the economy over the last four years, there's one thing for certain. I think it's the last thing our neighbors want to give up. You know, I'm glad we can provide that opportunity for our hunting club.

Let's shift gears to real estate. There's a growing consensus that the housing market is in recovery. I believe that's true in general but there's still considerable variability among markets as well as products. For example, multi-family's leading the housing recovery and has been more consistent across markets while single family starts and sales have just recently begun to grow. I think it's important to keep things in perspective. It's true that the housing market is better. It's recovering, but keep in mind we're coming off the bottom in a duration we hadn't seen since the Depression. We still have a ways to go.

Now, what gets very little media coverage is land and lot inventories. In most markets that are experiencing recovery, A-quality lots are practically all spoken for and builders are very hesitant to move to riskier location where the majority of the available inventory is located. In fact, there's more demand for undeveloped land in good locations than finished lots in B-locations.

Now, to the extent the developed has land or lots in good locations and available credit, they're in the driver's seat. And that's our focus in a competitive advantage. If our ability to deliver lots in communities where perspective homebuyers can invest with confidence, then they're where they want to live.

The chart on the right show Forestar's recovery live sales since the trough in 2009. It's much improved yet far below our potential. Let's take a look at our second quarter real estate results. For the quarter, year-over-year segment earnings were up about $6.7 million. This year's results were driven by a $3.4 million gain from the sale of our 800 acre Light Farms venture, increased residential and commercial sales, and about a $400,000 reduction in operating costs.

The next slide provides a little bit more detail on quarterly lot sales in addition to lots on a contract. Our Second Quarter 2012 Residential Lot Sales were up over 50% compared to Second Quarter 2011. However, 109 of the 427 lots were sold in but as we closed out of our River Plantation community in Tampa, Florida. The last lot sales average earned $19,700 a lot, but excluding the sale the residential lots were still 12% above quarter -- the second quarter of 2011 -- with sales pricing averaging $53,000 a lot. At the bottom of the slide we have highlighted the life of project cash flows from River Plantation. The project generated over $30 million in revenues and total costs of $23.3 million resulting in project cash flows of about $6.8 million. So, despite the housing market collapse in Florida, this project still generated pretty strong return.

At quarter end, a backlog of lots under contract was back up to 1,435 which includes about 75% of our lots that are currently in development. We're encouraged by the momentum in improving sales but we still got a long ways to go before returning to a normalized market of 1.5 million housing starts a year.

The next slide provides an update on two fairly recent acquisitions -- Discovery at Spring Trails and Barrington, acquisitions contributing to cash flow and earnings. I'm proud to report two of our recent acquisitions contributed almost 25% of the real estate segment earnings this quarter. In the second quarter 2011 we purchased the $32 million distressed non-performing bank loan for $21 million. At the time of acquisition the note was secured by over 2,100 future lots and 19 commercial acres in a master plan mixed-use community called Discovery at Spring Trails. The project is located just southeast of the woodlands in Houston, Texas, and just a few miles from the new Exxon Mobile campus that's under construction.

Now, relative to those acquisition criteria, Discover is right down the middle of the fairway, a highly desirable community for builders, home buyers and a strong submarket of Houston. Financially, Discovery generates near-term earning in cash flow with minimal capital contributions. During the second quarter the bankruptcy court-planned reorganization became effective e which affirmed a $33.8 million outstanding loan balance. And, as a result, we received almost $2.8 million in cash and generated $1.1 million in earnings.

In addition, during the third quarter 2011 for $9 million we acquired a project called Barrington, comprised of 180 developed lots, and entitled the $4 million in reimbursement rights. Barrington is now a successful master plan community in Kingwood, a suburb of Houston, Texas. During the second quarter we sold 11 lots for over $102,000 each with a total gross profit of over $0.5 million. These two acquisitions generated $1.6 million in earnings during the quarter and both are exceeding our own writing and return requirements.

Let's shift gears and review our progress in our multi-family business. Our multi-family pipeline continues to develop in a time when demand exceeds supply in many markets. We have two communities, Broadstone and Las Brisas, is most stabilized and benefiting from strong occupancy and rent growth. Broadstone's 100% owned and located in Houston's energy quarter, and Las Brisas is 59% owned and located in North Austin. Both properties are currently being marketed for sale and expected to close in the second half of this year. Assuming both properties close, these transactions could generate pre-tax proceeds of nearly $40 million, further strengthening our balance sheet and improving our liquidity.

We have three projects under construction with Promasa being our only wholly-owned project. During the quarter we released a major milestone in two new multi-family communities. The first project, which is marketed as Eleven, is located in downtown Austin; the second being marketed as 360 is located in Denver, Colorado Tech Center. Insistent with our business model, both projects are being developed as ventures that leverage our investment in sights, which coinvest equity partners, and securing project level financing. As projects reach economic stabilization they'll become candidates for sale, generating promoting interest and return on invested capital.

Now let me provide you a little more color on the project under construction beginning with Promasa. This is Promasa, a very attractive class A multi-family project located in Austin, Texas, right across the street from brand new state-of-the-art middle and high school campuses. I've toured the amenities in apartments and I'll tell you that they're very impressive in offering an appealing and desirable lifestyle, somewhere where you and I would want to live. I encourage you to visit the website to learn more. Construction is about 80% complete and we expect to deliver the last units by year end. We're currently on plan with about 39% of the project leased up and expect to be stabilized in the second quarter of next year. Upon completion, we'll have $34 million invested in the project which includes about $15 million in project level financing. Once stabilized, we'll begin to valuate sales prospects.

The next project is called Eleven, one of our new ventures. In June we formed a venture with Canyon-Johnson Urban Funds [CJUF] for the development of Eleven, which is in an excellent location overlooking downtown Austin. Eleven will be a podium-style building with 257 units with high quality finishes and tailored lifestyle amenities. In addition, Eleven incorporates our emphasis on sustainable drying and we expect it to achieve Austin's Energy Green Building certification. Construction is underway and the first units are expected to be delivered in the third quarter of next year. We're looking forward to working with Canyon-Johnson and building an exceptional community on this great site.

At the time we closed the venture we received $3.7 million reimbursement of our prior investment in land and soft costs and we retained a 25% ownership interest in the project. As part of the agreement we'll receive management fees, promoted interest, and return on invested capital. The location of a multi-family project is critically important to its success. Often the multi-family rental and job market metrics are some of the strongest in the nation with the number one driver of demand being jobs. Eleven's in an outstanding location. As the slide illustrates, the site's adjacent to downtown Austin and over 100,000 nearby jobs; plus the residents will have stunning views of the skyline and a short walk to downtown, or to the University of Texas. Our new project recently started is located in Denver's Tech's Center.

In late June we also formed a venture with Guggenheim Real Estate for the development of a multi-family community in Denver called 360. The project consists of two rad-style four-story buildings and in total holds 304 apartments. The apartment homes will have access to a suite of lifestyle amenities and is also designed to obtain Energy Star certification. Construction is underway and the first units are expected to be delivered in the third quarter of next year. Once again, we're looking forward to working with our new partners and investing in Denver's Tech Center. Forestar has a 20% ownership interest in the venture and we received $7.2 million reimbursement of prior expenditures for land acquisition and pre-development costs.

Once again, we'll receive management fees during construction and lease out and promoted interest in return on invested capital at time of sale. 360 is located adjacent to the Denver Tech Center just east of I-25 South. Like Eleven, 360 is located in a strong rental and job growth market, plus, next to a major employment center that supports 150,000 jobs with convenient access to light rail. The real bonus will be the fabulous views of the Rockies' to the West. We think living in a 360 apartment home will be a real pleasure. This is a golden site.

Before we end the review, I want to take a minute to update you on our Triple in FOR strategic initiatives. We remain focused on executing our Triple in FOR initiatives and that's simply tripling our operating results as compared to our history. During the second quarter we made good progress towards achieving our target. Increased residential lot sales, higher oil production, and greater segment earnings are all solid evidence.

Our announced acquisition of CREDO will allow us to report addition categories or reserves in the future, plus the option to operate -- a tool we hadn't have in the past. The closing of the two multi-family ventures is a significant step in the development of the multi-family business. In addition to the 815 stabilized units, we now have 850 units under construction, a good start in building our pipeline and creating a low-capital, high-return, multi-family business. In addition, our recent acquisitions will make a meaningful contribution to the business from both the cash flow and in earnings perspective. Like our other acquisitions, we expect CREDO to make a meaningful financial contribution while spending additional benefits.

We're looking forward to finalizing our acquisition of CREDO Petroleum. Closing is targeted for late in the third quarter but that's obviously subject to customary closing conditions and approval of CREDO shareholders. There are a number of key and compelling benefits to be realized from the acquisition, three in particular.

First, CREDO will provide scale by essentially doubling our production in reserves. Second, the combination of results in a 720,000 acre mineral portfolio in ten North American basins, which should raise the profile for oil and gas investors. And three, the ability to operate adds a valuable tool to the business and improves our ability to prove up and report additional reserve categories

We believe the acquisition of CREDO will generate attractive returns, but by far, the most important, we believe the acquisition will create additional value for shareholders. In conclusion, let me leave you with four important thoughts.

Number one, our oil and gas team's 110% committed to driving value by increasing our oil and gas production reserves and provide additional transparency. And, after CREDO's closed, we'll be providing additional insights in our plan.

Number two, our real estate team is focused on generating sales. And that includes finished lots, paper lots, residential and commercial tract sales. Number three, we'll continue to develop our multi-family business and as properties reach their economic maturity, we'll harvest the value. Number four, like our recent acquisitions, we'll continue to make strategic and additional investments that contribute to near-term cash flow, earnings, and most importantly, create shareholder value.

Now, what does this all mean? I'm simply saying that we're absolutely committed to delivering Triple in FOR. That's demonstrating the value and the potential of our business and asset. How? Through solid operating results and growing the business through investments that are accretive to value and return. I think that typifies the second quarter, solid operating results driven principally from core operations with just a minimal contribution from land sales.

We're clearly living in a time of uncertainty for the economy and markets, and unfortunately it may last for a while. Nonetheless, I believe that we've got the right skill-sets, the strategy and the spirit -- not to just muddle through uncertain times but to win. I want to thank you for joining us on the call this afternoon, and we certainly appreciate your interest in Forestar. Now, I'd like to open up the call for questions.

(Operator instructions)

Gentlemen, your first question today come from the line of Mark Weintraub, with Buckingham Research.

Thank you. Jim, you had mentioned in Broadstone and Las Brisas, you said something about $40 million in proceeds -- Could you just repeat what you had said there?

I had said, assuming that those sales close smart; they'll generate about $40 million in cash proceeds pre tax.

Okay. And, I guess as I look at it, the way I was reading the slide, if the NOI is about $3.3 million and you accrue a cap rate of about 6%, that could give us about a gross value for that; and then the same way for Las Brisas, and you own 59% of that. That's obviously much higher than $40 million. Is that because there's debt on these assets or -- ?

Yes. There's debt on both of them Mark. On Broadstone I think it's about $26.5 million or $27 million, and on Las Brisas I believe it's about $31 million.

Okay. And, I know that I can get your book value on Broadstone form your K, do you know what it is on Las Brisas -- what your equity book is on Las Brisas offhand?

Mark, I'm going to give you a number. I think it's about $6 million to $8 million.

Okay. Great. And then, I was looking at the oil production ramp which you were showing in 2012 over the last couple of years, do you have a sense as to with the new wells that have been drilled, excluding CREDO, would that oil production - and assuming prices were where they are let's say - would you be anticipating that that oil production would ramp higher in 2013? And if so, roughly by what magnitude?

mark, that's really difficult to answer. Obviously the expectation is that our oil production would continue to grow. I think there's a number of interesting wells that are being drilled as well as are contemplated. You know, until those wells are drilled and we begin to see some of the initial results it's going to be very difficult to forecast. For example, I had mentioned that the Austin Chalk is trending to the east in Louisiana on about a -- we have a well that's drilling on about a 10,000 acre block. And, assuming that it's of the same quality as the previous four, that could make a really big difference, so, until that well gets completed and we see some results, that's going to be a tough one to call. In addition, as there continues to be a lot of activity in the Upper Wilcox but we'll know more and be able to tell you more at the end of the year when we report reserves.

Okay. The Austin Chalk well, do you expect to have the information on that by the end of the year? Is that -- ?

Yes. I would hope that the Austin Chalk well that I mentioned we should have -- be able to make some comments on the next call.

Okay. I'll slip back into queue. Thank you.

Thank you Mark.

Your next question is from the line of Robert Howard with Prospective Partners.

Robert, how are you today?

Pretty good. Pretty good. I was just wondering if natural gas prices having come back a lot the last couple of months, is that too soon to see if there'd be any impact on gas drilling or is still the focus really on oil, or how quickly is it possible there be any movement for gas wells?

Robert, a majority of activity is still very much oil and liquids related. We, like most everybody in the oil and gas business, are encouraged by the recent uplift in natural gas prices but, you know, the high-to's are $3, that's still not going to generate a lot of activity. I think when you begin to inch up closer to $4 and certainly $5 we'll certainly see quite a bit of interest in some gas assets. What I will say is that, you know, internally we are believers in long-term natural gas. And, even though there's not a lot of activity in the majority of all the rigs are dedicated to oil or liquids, we continue to build prospects and opportunities so that when that day arrives we'll be ready to take advantage of the opportunity.

Okay. And, just kind of jumping over to the multi-family business, how much bigger do you see getting into that? I mean, you're sort of entering into a bunch of new projects it looks like. Are you still kind of in the ramping up phase on that or do you need to digest this a little bit before you add more? Or, how do you feel there?

Robert, we're still in the ramping up phase. We've got two projects that are stabilized and three under construction which in my opinion is a good start. The way that we've designed the business model, and consistent with my comments, it doesn't require a lot of capital. You know, for example, these two ventures that we just recently closed -- we don't have but maybe $4 million to $6 million in each one of those projects. So, it's not capital intensive. However, when you look at the returns considering the fees, and the promoted interest and the return on capital, it's very attractive. So, we'll continue to build that pipeline in that business. You know, as far as the balance sheet and the market allow us to, you know we're very sensitive to the balance sheet and I think the team's done a nice job of making sure that it remains healthy.

And the second point is the market, Robert. All the fundaments look really good today. But, there's going to be cases when we just can't find the sites or opportunities that'll pencil that you can underwrite. In fact, we were looking at a site in Houston that we really like and is in a great location, and had all the fundamentals that we were looking for, but as far as the underwriting when we look at the supply or the potential supply that was coming online it was -- we just had to pass on it. So, that's kind of an example of where the market will slow a company down like Forestar. It's just now a -- we just don't want to take that risk.

How many employees do you have working on kind of that segment? Do you have a group that's sort of dedicated just to multi-family, or what's -- ?

Yes. There's -- Robert, I would say that there's eight to ten employees in the multi-family part of the business. However, if you look at all of the employees involved in real estate, we're really flat because we've had a -- we've reduced the size of real estate dedicated to community development or to the projects. So, net, the head count is about the same.

Okay. And then you were just talking about the Barrington Kingwood location and you sold a lot of lots. How do those lots compare to the ones that remain? Are all the lots pretty similar? Or is that something that there's a wide disparity or mix of what the range of lot prices are?

The lots that remain in both of those projects are very similar to what's been selling. However, if you compare Barrington -- an average sales price to the rest of the portfolio it's at a higher price point. You know, $102,000 versus an average sales price of $55,000 -- it's just a little bit different product. It's not a custom product. It's more like a production custom. So, you know, that's the real driver there but to answer your question, the lots that are in front of us are not a whole lot different than what we've been selling in the past. But I would like to make this point, Robert, because I think you touched on something that's important to understand.

When we acquired the note for Discovery, it was our objectively to ultimately own the asset and to manage that. After taking it through a bankruptcy and with the settlement we actually like the position we're in better than what we underwrote, however, it generated earnings but not many lot sales. So, when we look at future lot sales in the ramp up, if that project is generating -- let's just call it -- $1 million a quarter in earnings and you netted $20,000 a lot in margin, that's equivalent to 50 lots a quarter times four a year is 200 lots a quarter, we had just internally, I guess, call that a lot equivalent unit. But it doesn't show up in a lot count, but it does in earnings which is ultimately the bottom line and the real charge for the organization and the Triple in FOR.

And, the lots that you're selling -- are these essentially going to a private builder and then building a house for someone who wants to go there or who's the, I guess -- who are you selling to?

Most -- Robert, most of the lots are sold to what is referred to production builders. They're national and regional builders both public and private so it is not the model where somebody buys the lot and then contracts with a custom home builder. It's not that. This is a home builder would, for example, a home builder may buy 20 lots from us and begin to sell homes and lots prior to starting construction, or they may even start construction and build a few speculative homes.

Robert Howard; and so you try to, I guess, sort of manage the supply that's going out on the market by not selling all of your lots at the same time. I mean, you sort of gradually put them out there to keep things from getting over saturated I would think.

Yes. Right now where we are in the market, Robert, there's not much of a chance for putting so much out there that we're going to saturate the market. If you recall in the comments I made is relative to the markets. Inventories, both new homes and lots especially in descent locations, in many cases you'll revisit a 40-year low. So, it's going to be difficult to over saturate the market today. I know there's a lot of buzz in the media today relative to the housing markets and as I said, It's better. But keep in mind where we're coming from.

Better is a relative word and also compared to what the norm is and what the average has been. So, I will tell you there's still a long way to go. And the last comment I'd make too is, fundamentally the biggest driver to homes, and apartment rentals, and everything else is jobs. And, if there's one thing that we keep our eye on in these markets and these economies is what's happening with jobs and how the economy is promoting itself to generate the jobs.

Okay, great. Thanks, Jim.

Thanks, Robert. Good talking to you.

Your next question comes from the line of Robert Holt with Holt Capital Partners.

Good afternoon.

Hey, Robert.

A question on the share-based compensation expense. Do you have a number you would share in terms of what you're budgeting for that for 2012? And, from an outsider looking in, is there a simple or sort of an intuitive relationship between the magnitudes of that expense in your stock price?

Robert, to you question and then also to the last comment that you made, it's obviously going to be impacted by stock price, but generally it's going to run anywhere from $2.5 million to $3 million a quarter. Something like that. That's been a fairly typical run rate.

And if the stock were to remain at current levels for the balance of the year would that still be the case in quarters three and four?

Yes, I think that'd probably pretty much still be the case.

And in locking at your CREDO acquisition, the data that you presented on a PB-10 basis on slide 27, if you were to look at the value of that data would imply that the Forestar energy assets were worth about what you're paying for the CREDO assets. Would that same relationship hold true in terms of value and reserves on a 3P basis?

Pretty close, Robert. What the Forestar reserves, as I've said on a number of calls, are just PDP's for us. And CREDO, they're heavily weighted on PDP's but includes PDMP's as well as a few PUD's. But, they're heavily weighted on the PDP's. What you can't see in CREDO that we talked about after we announced the acquisition is a lot of the value in CREDO is in the Bakken, and the Bakken Three Forks. And it is early in its life - in its drilling life - so I think that in those reserves which were calculated as of the end of October 2011, there were only like six Bakken Three Forks wells. And, in the comments that we made just following the announcement of the agreement, we indicated that it could be up to 400 wells. So, that's the real driver in the value that we see in the company, in addition to obviously the benefits that it brings to Forestar.

What are your plans in terms of integrating the staff of CREDO with your existing folks?

Robert, the staff is located in Denver, and there are about 15 employees. And, we've got about the same number of employees in Fort Worth that are managing our Texas and Louisiana assets. You know, as you probably well know, these are very specialized employees so the majority off the knowledge, and skill sets, and capability of the CREDO employees are principally targeted toward the mid-continent, whereas the staff in Fort Worth is Texas and Louisiana.

In terms of Cipilo Canyon, can you give us lots sales data for the second quarter and how that compares to previous years?

I don't know if I've got Cipilo off the top of my head but the lots same was lower in the first half of 2012 principally due to us being in the process of putting some lots on the ground. We'd expect a pretty significant pickup in the second half of the year and I would say that 2012 lot sales in Cipilo would be equal to, maybe a bit more, than in 2011.

What's the status of revenues from the hotel?

The -- if you recall, we had a couple of very large payments in the latter half of 2011, and they are currently paying us, I think, about $300,000 to $330,000 a month. And then they'll do that -- indications are that the district will do that for a period of time and then they'll look at their finances and then see if they need to make any adjustments. It just depends on where they are in the year and the cycle, principally related to taxes and receipts.

And your -- last question. Your commercial lot sales, a certain number of per acre basis less then they had been in the past. Where were they located and could you give a little color on that?

Yes. Robert, the commercial tract sale -- I can't tell you exactly where it is, but I would say this. You will see a lot of variability in commercial tract sales. They could be as low as $50,000 an acre and then we'll have some that could be as high as $300,000 and $400,000 an acre. Over the last two or three years they've averaged about $90,000 to $100,000 an acre. But anytime you have a quarter with just one sale in it you're going to see -- there'll be some variability. It could have just as easily have been $200,000 an acre.

All right. Thank you very much.

Thank you, Robert.

Your next question comes from the line of Al Sebastian with Prospect Advisors.

Good afternoon.

Hey, Al. How are you doing?

Doing well, Jim. How are you?

I'm doing fine, thank you.

Jim, just a couple of odds and ends. In terms of the costs incurred for the CREDO acquisition, I guess, when you first announced the CREDO acquisition it was, I think, the cost to close was $7 million. Is that correct?

Yes. That's correct.

And you incurred $2.5 million, I think, in this quarter.

Correct.

So, I guess going forward that's what you continue to expect would be the $7 million to close?

Yes. That is correct. We paid roughly $2.5 million, $2.7 million, to date and our estimate of $7 million in transaction expense is still a good number.

Okay. Okay. In terms of the share repurchase program, did you repurchase any shares in the quarter?

No, we did not repurchase any stock in the second quarter. The entire second quarter we were blacked out.

And what are your expectations with regards to the share repurchase program?

Al, the same that that have been when we have available cash to reinvest back into the business, or to purchase stock, we'll look at all of the alternatives that we have, and use cash in a way that creates the greatest value for the business and shareholders.

Okay. Okay. With regards to the reporting of additional reserves associated with the Forestar acreage.

Yep.

Will you give us sort of a timeframe for that and what are the conditions? I mean, obviously, one of the conditions necessary is you purchased a -- or will be -- purchase a closing on CREDO. But what needs to happen to you to disclose the PUD's associated with the Forestar reserves. Is it simply hiring an independent reserve engineer? What needs to happen for that to occur?

The biggest thing that needed to happen was to be classified, if you will, as an operator. In order to report PDMP's and PUD's, you have to have both the ability and the intent. And the short way to think about that, Al, is you need to have the capital and you need to be an operator, which is what we'll formally be following the acquisition. You know, keep in mind that what we've done is we've in essence flipped the light switch. And so, on a go-forward basis as we structure agreements whether it's lease bonus or they're ventures, or have a restructure, we're going to restructure them in such a way to take a position that's going to better enable us to report PDMP's and PUD's.

Now, obviously if we operate, or when we choose to operate, it will be very straight-forward in our ability to report PDMP's and PUD's. And then you also had mentioned, with regards to the auditing and reserves, we currently have our reserves audited by Netherland and Sewell, and we'll continue to do that on a go-forward basis. We'll just expand the disclosure from, you know, in essence 1P to 3P's.

Okay, Jim. So, if I understand it correctly, internally you have an estimate according to Netherland and Sewell of your PUD, it's that you're under SEC guidelines you are not allowed to disclose them. Is that correct?

No. That's not correct. We focus on paying Netherland and Sewell to audit and estimate just our PDP's. Now on a go-forward basis we'll change that.

Okay. Okay. With regards to, you know, your middle resources. It does seem as though when you take a look at your mineral resources - why is more flowing into earnings. I mean, when I take a look at your margins, last year -- let's see -- in the second quarter of last year 67% was your margin. You know, earnings to revenues. And in the first quarter it was 63%, and in this quarter it was 55%. Why aren't we seeing more earnings associated with the level of revenues that you're generating there?

Two things. One, a little bit, is impacted by price. And then second, as I stated in the comments, we've beefed up the organization a little bit. And then the third thing, which is a big impact, is lease bonuses. If you have a quarter with quite a bit of lease bonus in there it's a big bump to revenue will change those margins and if you have a quarter with not much lease bonus then it's going to -- it'll change the margins quite a bit as well. And if I'm not mistaken, there's a little bit of lease bonus in the second quarter but not much.

Okay. Could you give us an update on what's going on with your water assets, because I know that you purchased about a year ago -- maybe it was a little bit longer? You purchased a water company in the Austin area. I think it was for $12 million. And you know, we've heard so much about these drought issues throughout the United States. Can you sort of give us some of the initiatives you're working on with regards to realizing the value for your water assets?

Sure. And you're right. There has been and continues to be a real water issue in simple Texas. The issues are focused on two primary components of the business, Al. The first is securing agreements with buyers, and that may be municipalities, it could be water authorities or it could be industrial users. And in that vein, you know, we use our resources to continue to work with those potential buyers in finding some good viable long-term solutions for their water needs. And second, the second part of business that we have to be very focused on is getting the permits for withdrawal. And, there's various districts and agencies that are responsible for granting those permits. It's almost -- Al, it's almost a bit of a chicken and egg type deal. But we're working on both of those simultaneously, on both the permitting side, as well as securing agreements with ultimate buyers.

Okay. And turning back to your real estate segment, looking at your key performance indicators. This is slide 32. Your average price per lot and your gross profit per lot were down quite a bit in the second quarter, as well as looking at your price per acre for commercial tract sales.

Yes.

Can you talk about that? I assume part of the issue there is probably your 109 residential sold at the River Plantation in Tampa, but could you just sort of flush this out a little bit better for us?

Al, that is it on the lot price. The River Plantation lots were sold for just under $20,000 a lot, so -- and that completed that project. So it was -- those were the last sales for River Plantation. Without those lots included in the average, I think the average lot price was like $53,000. And you'll see this from time to time. There was -- we had another project where we sold out the balance on 50 to 60 lots and it has the same impact on the quarterly average. But, it works itself out over time.

So I guess when you strip that out it's probably what you said, it's in the low $50's when you strip out the River Plantation sale.

I'm sorry, Al. Can you repeat that?

I guess if you take out the lot sales associated with the River Plantation it's sort of in the low $50's?

It's about $53,000. About $53,000.

About $53,000. And those sales at River Plantation, were those fully developed lots or were some of them in development, or paper lots, or what were they?

No, they were fully developed.

Okay.

They were fully developed.

And how about on the commercial -- and I might have missed this but you had sold 38 acres of the commercial tract sales for $47,000 per acre. It was a very low price per acre. Was there a particular reason for that as well? I know somebody asked a question about it but --

Yes. I'm not familiar with the exact sale, Al. But what I'll tell you it's going to be reflective of whatever the use is and its location. And, if I'm not mistaken, it's one sale. And anytime we have just one sale as a data point there's going to be a lot of variability. I think what's most constrictive if just to look at the average prices over time.

Let me as you just one last question, Jim, and it concerns your hotel in Austin, the Radisson. You really haven't talked much about it. It's on the books for about $20 million or $21 million, you know, net. Net of depreciation. Can you give us some sort of, you know, feel for what you plan on doing with that and what type of value potentially could be realized? Because when you take a look at what's going on in Austin and the location of the hotel, it doesn't -- hopefully -- I would think the value is significantly greater than what the stated book is. Could you help us with that?

Yes. Al, I'll tell you without estimating values I'd feel pretty confident and tell you that the value is certainly north of book. Today, that hotel, if you look at a return, it's throwing off a very nice return, it's cash flow, it's good earnings, it's performing really well, and it fits into the business nicely. Longer term, as you mentioned, it's very good real estate. Its main in Austin and we feel like that there's an opportunity to create and realize even further potential that value with the site so we're always looking at alternative uses or addition uses than what we have today but the sort answer, Al, is that it's a really good performing asset today and we like it. And, it's a good part of the business.

Thank you.

Thank you, Al.

Gentlemen, your next question is from the line of Eric Anderson from Hartford Financial.

Yes. Good afternoon. I wonder if I could turn your attention to slide No. 11 on which you call out some of the wells that I guess have been drilled or are in progress. And I wondered if you could just sort of point out for us the red, I guess the red dots. Are those the wells that are drilling or how should be interpret that?

Eric, the red stars are gas wells, and the green dots are oil and/or liquids wells. And that's the interpretation of those wells. So, you see that as I've mentioned a lot of the drilling activity has been in the Upper Wilcox and the West Gordon field, and if you're looking at the map, in the southeastern quadrant down there you see a lot of green dots there together.

That's the West Gordon field and it's drilling the Upper Wilcox, and that's principally oil. Just above in and to the left, right on the state line, you see a little conglomeration of the red stars. Those are actually the Austin Chalk wells that are heavily weighted toward natural gas liquids as well as condensate, which today is pricing somewhere between dry gas and oil. And then I had mentioned that the Austin Chalk is trimming to the east into Louisiana and just to the right or to the east of those dots is a little green block of acreage that's currently leased and that's where there's some drilling activity today targeting the Austin Chalk.

Okay. So then for some of these prospect, for example, on the Austin Chalk you've got both like a green dot as well as red because it's a combination of --

Correct.

That helps to better understand this. Up in St. Augustine County, I'm aware that Devon's been drilling some pretty successful James Lime Wells. And I'm wondering is that stuff in your neighborhood or is that sort of away from where your acreage is?

Eric, if you look at some of the previous charts we've put together, we've got one that shows all the various prospects that we're both aware of as well as what we're developing. And it will show that there is James Lime present in St. Augustine as well as Sabine County.

So do you think that's an area that maybe you'll see increased activity from?

We certainly hope so. You know, as long as the markets stay in decent shape I think that some of the cooperators are currently focused on the James lime would continue to pursue those opportunities.

The 10,000 acre block that you reference were in Austin Chalk well was drilling, so you basically just said that's in the green area?

Yes. If you see Vernon Parrish in Louisiana, and there's a green block just below the Vernon, that well is drilling on the western end of that 10,000 acre block.

So if that were successful or the area gets derisked then you might possibly be able to lease the available yellow acreage above it?

Possibly. There's two different trends there of Austin Chalk, and if I'm not mistaken that's the black that's leased in the Masters Trend where there's the most activity but there's also another trend to the north where there's beginning to be a little bit of activity but I think over time with a little bit of help from pricing as technology advances we think that there'll be some pretty good prospects there as well.

So the green acreage is then in what's called Master's Creek?

Yes.

Okay. I understand that there's been some activity in and around that area. Maybe on the Texas side in the chalk of some wood buoying activity which is gaining a lot of traction several counties to the west, primarily in Madison, Leon, and Grimes County. Have you seen any activity or interest in the wood buying in this area?

Eric, not to date. And I'm speaking from my knowledge the oil and gas team is I'm sure has had some discussion. They certainly have their antennas up in wood buying. It's trending and it's activity but, I am not aware of a lot of activity associated with the wood buying in our basis and regions to date.

And my last question is are you allowed to say who some of the operators of the Austin Chalk wells are?

Yes. It's -- the biggest operator is Anadarko.

Okay. So those are some major players.

Yes.

Okay. I appreciate your help.

All right. Thank you, Eric.

You next question comes from the line of Mark Weintraub with Buckingham Research. Just a quick follow up on that line of inquiry. I remember a couple of years ago we were all very excited about the [sound of Gustine] and the potential for Haynesville. Obviously gas prices are lower. Have there been other developments that have made this acreage potentially of less interest or is just where the gas price is. Because obviously you do now have all of this acreage available now for lease again.

Yes. It's -- relative to dry gas prices, there's been very little activity, Mark. But in reference to what Eric was asking me about the James Lime, that's the same acreage. It's a different depth and a different formation. And, it's heavier weighted toward engrails and condensate so you're not going to get the oil price, but you're also not going to be getting the dry gas price. So the economics still works for these liquids today.

Okay. But have there been any developments that have been made in this area potentially less attractive on the dry gas side or is it just purely a function that gas prices are a lot lower than they were?

It's principally price, Mark.

Okay.

If you look -- there's a -- in our next conference we'll pull a chart together, Mark, and show you the various breaking costs per natural gas and you'll see that there's very little dry gas that works at $3.00 and certainly below $3.00 it's almost all a loss.

What price level would you expect this available for lease acreage would have a lot of suitors again?

Mark, I think when you start to get back up to the $4 to $5 range you'll begin to generate some activity. Seeing a $6 number, there'd be a lot of activity.

And then lastly, I just wanted to make sure that I'm understanding on the multi-family, the strategy. So in all likelihood, does the Promesa project, is that something that you'd probably look to monetize in 2013 while Eleven and 360 are more likely 2014?

That's true. That's accurate. Mark, The model is get them constructed, get them leased, get them stabilized, and then look at market conditions, but ultimately the plan is to sell them and monetize them.

Okay. Thanks so much.

Thank you Mark.

Your next question is from the line of Robert Holt with Holt Capital Partners.

Jim, you referenced about 400 potential drilling sites in the Bakken that CREDO has, are those family held by production or will they require drilling to hold the leases?

both. It's a combination of both. Right now the majority of the drilling is to hold acreage. And where that was accomplished in the last 12 to 18 months some of the operators are going back to in essence to manufacture the oil or develop the locations.

And with that many potential drill sites, does that begin to put Forestar in the classic ENP situation of overspending cash flow as far as the eye can see?

Robert, capital will be provided and will obviously be required, you know, based on the way we run our company I have very little appetite to have cash or outrun our ability to spend and outrun the coverage we have on the balance sheet.

So you'd be looking at JB partners or something around that line?

Let me say this. You may not be aware of this. The working interest in the Bakken nets out at about 8% or 9% so when a well, CREDO is not the operator in the Bakken in the three or four stages have a working interest and it nets out at about 8% or 9%, so the well is probably around $10 million for a round numbers and you're obligated for 8%, then CREDO's commitment assuming they chose to participate is roughly around $800,000 a well.

Operator. I'm sorry.

And that's okay. My bad for not making that clear to you. CREDO does operate wells in the Kansas Lansing, and Kansas as well as Nebraska. And those are conventional well that are running anywhere from $400,000 to $500,000 a piece.

Thank you very much.

Thank you Robert. We appreciate everybody who's on the call today, and hopefully everyone has a wonderful day. Thank you.

Ladies and Gentlemen, thank you so much for your participation today. This does conclude our presentation, and you may now disconnect.