Item 1B.
Unresolved Staff Comments
Not Applicable.
We lease our corporate headquarters in Aliso Viejo, California. The lease on this facility consists of approximately 15,800 square feet and expires in December 2018. In addition, we lease divisional offices in Northern and Southern California, including approximately 6,800 square feet through April 2017 in Roseville, approximately 6,100 square feet through May 2018 in Walnut Creek, and approximately 1,400 square feet through July 2015 in Agoura Hills. For information on land owned and controlled by us for use in our homebuilding activities, please refer to Item 1 - Business.
Item 3.
Item 3.
Legal Proceedings
None.
Item 4.
Item 4.
Mine Safety Disclosures
Not Applicable.
PART II
Item 5.
Item 5.
Market for Registrant’s Common Equity, Related Stockholder Matters and Issuer Purchases of Equity Securities
Our common stock is listed on the New York Stock Exchange under the ticker symbol “NWHM” and began trading on January 31, 2014. The following table sets forth the high and low intra-day sales prices per share of our common stock for the periods indicated, as reported by the NYSE.
The following performance graph shows a comparison of the cumulative total returns to stockholders of the Company, as compared with the Standard & Poor’s 500 Composite Stock Index and the Dow Jones Industry Group-U.S. Home Construction Index.
The performance graph and related information shall not be deemed to be “soliciting material” or to be “filed” with the Securities and Exchange Commission, nor shall such information be incorporated by reference into any filing under the Securities Act of 1933 or Securities Exchange Act of 1934, each as amended, except to the extent that we specifically incorporate it by reference.
The above graph is based upon common stock and index prices calculated as of the end of each period. The Company’s common stock closing price on December 31, 2014 was $14.48 per share. The stock price performance of the Company’s common stock depicted in the graph above represents past performance only and is not necessarily indicative of future performance.
As of March 6, 2015, we had 8 holders of record of our common stock. We currently intend to retain our future earnings, if any, to finance the development and expansion of our business and, therefore, do not intend to pay cash dividends on our common stock for the foreseeable future. Any future determination to pay dividends will be at the discretion of our board of directors and will depend on our financial condition, results of operations, capital requirements, restrictions contained in any financing instruments and such other factors as our board of directors deems relevant. Accordingly, you may need to sell your shares of our common stock to realize a return on your investment, and you may not be able to sell your shares at or above the price you paid for them. See Item 1A, “Risk Factors-Risks Related to Ownership of Our Common Stock-We do not intend to pay dividends on our common stock for the foreseeable future.”
Item 6.
Item 6.
Selected Financial Data
The following sets forth our selected financial data and other operating data on a historical basis. You should read the following selected financial data in conjunction with our consolidated financial statements and the related notes and with “Management’s Discussion and Analysis of Financial Condition and Results of Operations,” which are included elsewhere in this annual report on Form 10-K.
Our historical consolidated balance sheet information as of December 31, 2014, 2013, 2012 and 2011, and consolidated statement of operations information for the years ended December 31, 2014, 2013, 2012 and 2011 and for the period from August 18, 2010 (inception) through December 31, 2010 and the period from January 1, 2010 through August 17, 2010 have been derived from the historical consolidated financial statements audited by Ernst & Young LLP, independent registered public accounting firm.
(1)
During the years ended December 31, 2011 and 2010, the Company entered into a fee building services agreement that allowed us to independently operate a design center and directly market upgrade options to the landowners’ homebuyers. We recognized revenue for these option upgrades in accordance with ASC 360-20, "Property, Plant and Equipment, Real Estate Sales", as more fully described in the notes to the consolidated financial statements. During the years ended December 31, 2011 and 2010, we recognized revenue for these option upgrades of $3.2 million and $2.8 million, which is included above in home sales. The cost of these option upgrades, included above in cost of home sales, was $2.5 million and $2.2 million during the years ended December 31, 2011 and 2010, respectively. These revenues and costs were for the delivery of option upgrades on 47 and 49 homes, respectively, which are included in the operating data for fee building services.
(2)
“Operating and Financial Data - Unconsolidated Joint Ventures” reflects the data for the ventures and not our share thereof. We own economic interests in our unconsolidated joint ventures, which include our capital interests that generally range from 5% to 50% plus, in each case, a share of the distributions from the joint ventures in excess of our capital interest. These economic interests vary among our different joint ventures. A description of such share of distributions in excess of our capital interest for each of our joint ventures is described under “Business-Joint Ventures.” Such financial data is not included in our financial data for GAAP purposes, but is recognized in our results of operations as a component of equity in net income (loss) of unconsolidated joint ventures. We have interests in several unconsolidated joint ventures and this information has been included to provide additional information about the operations and financial condition of our unconsolidated joint ventures. This data is included for informational purposes only.
(3)
We have entered into agreements with our unconsolidated joint ventures to provide management services related to the underlying projects. Pursuant to the agreements, we receive a management fee based on each project’s revenues. During the years ended December 31, 2014, 2013, 2012 and 2011, we earned $9.6 million, $8.3 million, $2.9 million and $0.8 million, respectively, in management fees, which have been recorded as fee building revenue.
Item 7.
Item 7.
Management’s Discussion and Analysis of Financial Condition and Results of Operations
You should read the following in conjunction with the sections of this annual report on Form 10-K entitled “Risk Factors,” “Cautionary Note Concerning Forward-Looking Statements,” “Selected Financial Data” and “Business” and our historical financial statements and related notes thereto included elsewhere in this annual report on Form 10-K. This discussion contains forward-looking statements reflecting current expectations that involve risks and uncertainties. Actual results and the timing of events may differ materially from those contained in these forward-looking statements due to a number of factors, including those discussed in the section entitled “Risk Factors” and elsewhere in this annual report on Form 10-K.
Consolidated Financial Data
Results of Operations
Year Ended December 31, 2014 Compared to Year Ended December 31, 2013
Net New Home Orders and Backlog
Net new home orders for the year ended December 31, 2014 increased 10% to 79, compared to 72 during the same period in 2013. Our overall “absorption rate” (the rate at which home orders are contracted, net of cancellations) for the year ended December 31, 2014 was 23.2 per average selling community (1.9 monthly), compared to 24.0 per average selling community (2.0 monthly) during the same period in 2013.
Our cancellation rate of buyers who contracted to buy a home, but did not close escrow (as a percentage of overall orders), was approximately 13% for the year ended December 31, 2014 as compared to 20% for the same period in 2013. Our average number of selling communities increased by 0.4 for the year ended December 31, 2014 compared to the same period in 2013.
Backlog reflects the number of homes, net of actual cancellations, for which we have entered into a sales contract with a customer, but for which we have not yet delivered the home. Backlog has not been reduced to reflect our historical cancellation rate. Homes in backlog are generally closed within three to seven months, although we may experience cancellations of sales contracts prior to delivery. The number of homes in backlog as of December 31, 2014 compared to December 31, 2013 increased 173% as a result of increased net new home orders and a decrease of new home deliveries. The dollar value of backlog increased $74.8 million, or 631%, as of December 31, 2014 compared to December 31, 2013 primarily due to the opening of two new communities in Irvine, California with average sales prices of $2.0 million and $2.8 million.
Home Sales Revenue and New Homes Delivered
New home deliveries decreased by 29, or 35%, during the year ended December 31, 2014 compared to the same period in 2013. The decrease in new home deliveries was primarily due to the closeout of one community in Sacramento, California, coupled with the mid-year opening of three new communities.
During the year ended December 31, 2014, home sales revenue increased by $20.4 million, or 57%, from the same period in 2013 due to an increase in the average sales price of homes delivered, offset partially by a decrease in the number of new homes delivered. The increase in average sales price of homes delivered was primarily due to the opening of two new communities in Irvine, California as noted above.
Homebuilding
(1)
Non-GAAP financial measure (as discussed below).
Homebuilding gross margin represents home sales revenue less cost of home sales. Our homebuilding gross margin decreased to 15.0% for the year ended December 31, 2014 as compared to 18.7% for the same period in 2013. During the fourth quarter of 2014, we delivered 11 homes at two communities in Irvine, California. These deliveries generated $27.5 million of home sales revenue and occurred on finished lots purchased from a masterplan community developer. Under the terms of our purchase agreement, we acquire finished lots in these communities under a favorable option structure in exchange for payment of a profit participation and a higher cost of land to the developer. The profit participation and higher cost of land in these two communities were the primary reason homebuilding gross margin percentage decreased.
Excluding interest in cost of home sales, adjusted homebuilding gross margin percentage was 16.0% for the year ended December 31, 2014, compared to 20.2% for the same period in 2013. Adjusted homebuilding gross margin is a non-GAAP financial measure. We believe that by adding interest in cost of home sales back to homebuilding gross margin, investors are able to assess the performance of our homebuilding business excluding our interest cost, allowing a focus on the performance of the underlying homebuilding operations. We believe this information is meaningful as it isolates the impact that leverage has on homebuilding gross margin and permits investors to make better comparisons with our competitors who adjust gross margins in a similar fashion. See the table above reconciling this non-GAAP financial measure to homebuilding gross margin, the nearest GAAP equivalent.
Fee Building
Fee building revenues include (i) billings to independent third-party land owners for general contracting services, and (ii) management fees from our unconsolidated joint ventures for construction management services. Cost of fee building includes (i) labor, subcontractor, and other indirect costs that are reimbursable by the land owner, and (ii) G&A expenses that are attributable to fee building activities.
Billings to land owners are a function of construction activity and reimbursable costs are incurred as homes are started. The total billings and reimbursable costs are driven by the pace at which the land owner has us execute its development plan. Management fees from our unconsolidated joint ventures are collected over the project's life and increase as homes and lots are delivered. Fee building revenues increased to $93.6 million for the year ended December 31, 2014 compared to $47.6 million for the same period during 2013, primarily due to the increase in construction activity in the fee building communities. Included in fee building revenues were (i) $84.0 million and $39.3 million of billings to land owners for the years ended December 31, 2014 and 2013, respectively, and (ii) $9.6 million and $8.3 million of management fees from our unconsolidated joint ventures for the years ended December 31, 2014 and 2013, respectively.
The Company’s fee building revenues have historically been concentrated in a small number of customers. For the years ended December 31, 2014, 2013 and 2012, one customer comprised 87%, 75% and 95% of fee building revenue, respectively. As of December 31, 2014 and 2013, one customer comprised 98% and 82% of contracts and accounts receivables, respectively.
Cost of fee building increased to $89.1 million for the year ended December 31, 2014 compared to $42.3 million for the same period during 2013. The amount of G&A expenses included in cost of fee building were $9.3 million and $5.4 million for the years ended December 31, 2014 and 2013, respectively. The increase in billings to land owners and the related increase in G&A expenses were the primary reasons fee building gross margin percentage decreased to 4.8% from 11.0% for the years ended December 31, 2014 and 2013, respectively.
Abandoned Project Costs
Pre-acquisition costs, which consist primarily of due diligence costs for specific projects, are expensed to abandoned project costs when we determine continuation of the respective project is not probable. During the year ended December 31, 2014, abandoned project costs decreased slightly to $0.8 million from $0.9 million during the year ended December 31, 2013.
Equity in Net Income of Unconsolidated Joint Ventures
As of December 31, 2014 and 2013, we had ownership interests in 12 and 11, respectively, unconsolidated joint ventures. We own economic interests in our unconsolidated joint ventures, which include our capital interests that generally range from 5% to 50% plus, in each case, a share of the distributions from the joint ventures in excess of our capital interest. These economic interests vary among our joint ventures. The unconsolidated joint ventures produced $41.2 million and $35.4 million in net income during the years ended December 31, 2014 and 2013, respectively. The net income of our unconsolidated joint ventures increased primarily due to land sales revenue recognized by one joint venture during the fourth quarter of 2014. Our equity in net income from unconsolidated joint ventures was $8.4 million for the year ended December 31, 2014, compared to equity in net income of $4.7 million for the same period in 2013.
The following sets forth supplemental operational and financial information about our unconsolidated joint ventures. Such information is not included in our financial data for GAAP purposes, but is recognized in our results as a component of equity in net income of unconsolidated joint ventures. This data is included for informational purposes only.
Net new home orders from unconsolidated joint ventures increased to 288 from 156, or 85%, for the years ended December 31, 2014 and 2013, respectively, primarily due to an increase in the number of average selling communities. The absorption rate for unconsolidated joint ventures for the year ended December 31, 2014 was 33.9 per average selling community (2.8 monthly), compared to 43.3 per average selling community (3.6 monthly) during the same period in 2013.
The cancellation rate of unconsolidated joint venture projects was approximately 9% for the year ended December 31, 2014 as compared to 7% for the same period in 2013. The number of homes in backlog from unconsolidated joint ventures as of December 31, 2014 increased by 13 from December 31, 2013 primarily due to the 85% increase in net new home orders, offset partially by an increase in new home deliveries. The dollar value of backlog as of December 31, 2014 compared to December 31, 2013 increased due to the increase in the number of homes in backlog and the average sales price of backlog. The average sales price of backlog increased by $846,000 primarily due to a change in product mix.
New homes delivered from unconsolidated joint ventures increased to 275 from 148, or 86%, for the years ended December 31, 2014 and 2013, respectively, primarily due to an increase in community count. Home sales revenue from unconsolidated joint ventures increased to $224.5 million from $183.0 million, or 23%, during the years ended December 31, 2014 and 2013, respectively, primarily due to the increase in new homes delivered, offset partially by the decrease in average sales price of homes delivered resulting from a change in community mix.
(1)
Non-GAAP financial measure (as discussed below).
Excluding interest in cost of home sales, adjusted unconsolidated joint ventures homebuilding gross margin percentage was 23.6% for the year ended December 31, 2014, compared to 29.0% for the same period in 2013. Adjusted unconsolidated joint ventures homebuilding gross margin is a non-GAAP financial measure. We believe that by adding interest in cost of unconsolidated joint venture home sales back to unconsolidated joint ventures homebuilding gross margin, investors are able to assess the performance of our unconsolidated joint ventures excluding interest cost, allowing a focus on the performance of the underlying unconsolidated joint venture homebuilding operations. We believe this information is meaningful as it isolates the impact that leverage has on unconsolidated joint venture homebuilding gross margin and permits investors to make better comparisons with our competitors who adjust gross margins in a similar fashion. See the table above reconciling this non-GAAP financial measure to unconsolidated joint venture homebuilding gross margin, the nearest GAAP equivalent.
(1)
Amounts include $33.9 million of backlog dollar value and 145 lots related to purchase contracts between an unconsolidated joint venture and the Company.
During the year ended December 31, 2014, our Foster City and Cannery Park joint ventures began selling lots and the Foster City joint venture also began delivering lots. No such activity occurred during the year ended December 31, 2013.
(1)
Non-GAAP financial measure (as discussed below).
Excluding interest in cost of land sales, adjusted unconsolidated joint ventures land gross margin percentage was 25.8% for the year ended December 31, 2014, compared to none for the same period in 2013. Adjusted unconsolidated joint ventures land gross margin is a non-GAAP financial measure. We believe that by adding interest in cost of unconsolidated joint venture land sales back to unconsolidated joint ventures land gross margin, investors are able to assess the performance of our unconsolidated joint ventures excluding interest cost, allowing a focus on the performance of the underlying unconsolidated joint venture land operations. We believe this information is meaningful as it isolates the impact that leverage has on unconsolidated joint venture land gross margin and permits investors to make better comparisons with our competitors who adjust gross margins in a similar fashion. See the table above reconciling this non-GAAP financial measure to unconsolidated joint venture land gross margin, the nearest GAAP equivalent.
The table below summarizes lots owned and controlled by our unconsolidated joint ventures as of the dates presented:
(1)
Consists of lots that are under purchase and sale agreements.
Selling, General and Administrative Expenses
Selling and marketing expenses incurred during the year ended December 31, 2014 increased to 5.6% of home sales revenue compared to 5.0% for the same period in 2013. The increase in selling and marketing expense during the year ended December 31, 2014 as compared to the same period in 2013 is primarily due to an increase in the number of sales personnel and marketing costs related to three new communities that opened during the second quarter of 2014 that began delivering homes in the fourth quarter of 2014.
During the year ended December 31, 2014, G&A expenses increased to $12.4 million from $7.1 million for the same period in 2013. The increase was primarily attributable to (i) an increase of $1.8 million in stock-based compensation due to new option and restricted share unit awards granted during the first quarter of 2014, (ii) an increase in personnel as a result of the increase in, and level of activity of our projects, and (iii) an increase in outside services, professional fees and board of director costs related to public company requirements, and other costs incurred to support our growth. G&A expenses as a percentage of home sales revenue increased to 22.1% for the year ended December 31, 2014 from 19.9% for the year ended December 31, 2013.
Guaranty Fee Income
During the years ended December 31, 2014 and 2013, we recognized $18,927 and $113,562, respectively, in guaranty fee income from one of our unconsolidated joint ventures for certain loan guaranties provided over a 12-month period by us on behalf of the unconsolidated joint venture, which ended during the first quarter of 2014.
Other Expense, Net
Other expense, net, increased slightly during the year ended December 31, 2014 compared to the same period in 2013 due primarily to an increase in state franchise tax fees, offset partially by interest earned on our cash balances.
Provision for Taxes
During 2013 and for the first 30 calendar days of 2014, we were a Delaware LLC, which was treated as a partnership for income tax purposes and was subject to certain minimal taxes and fees; however, income taxes on taxable income or losses realized by us were the obligation of the members. Federal and state taxes provided during 2013 and the first 30 calendar days of 2014 relate to a subsidiary that is treated as a C Corporation.
On January 30, 2014, the Company completed its IPO and reorganized from a Delaware LLC into a Delaware corporation. For the year ended December 31, 2014, the Company recorded a tax provision of $0.2 million. The effective tax rate for the year ended December 31, 2014 differs from the 35% statutory tax rate due to (i) the recognition of a tax benefit of $1.5 million for cumulative net deferred tax assets resulting from the Company's conversion to a taxable entity, (ii) the recognition of a domestic production activities deduction, (iii) tax credits related to delivering energy efficient homes, and (iv) state income taxes. The net deferred tax asset primarily relates to differences between the financial statement basis and tax basis for investments in unconsolidated joint ventures, accrued warranties and accrued benefits. Additionally, the tax provision was reduced by the exclusion of pre-conversion earnings from taxable income for the three months ended March 31, 2014.
Net Income
As a result of the foregoing factors, net income during the year ended December 31, 2014 was $4.8 million compared to net income of $6.7 million during the same period in 2013.
Interest Incurred
Interest, which was incurred principally to finance land acquisition, land development and home construction, totaled $1.9 million and $1.1 million for the years ended December 31, 2014 and 2013, respectively, all of which was capitalized to real estate inventory. Interest incurred during the year ended December 31, 2014 compared to the year ended December 31, 2013 increased as a result of a higher average outstanding notes payable balance, offset partially by a decrease in the weighted average interest rate.
Lots Owned and Controlled
(1)
Includes lots that we control under purchase and sale agreements or under executed non-binding letters of intent that are subject to customary conditions and have not yet closed. There can be no assurance that such acquisitions will occur.
(2)
Subject to agreements with property owners.
Year Ended December 31, 2013 Compared to Year Ended December 31, 2012
Net New Home Orders and Backlog
Net new home orders for the years ended December 31, 2013 and 2012 were 72 for both periods. Our overall “absorption rate” (the rate at which home orders are contracted, net of cancellations) for the year ended December 31, 2013 was 24.0 per average selling community (2.0 monthly), compared to 18.0 per average selling community (1.7 monthly) during the same period in 2012.
Our cancellation rate, excluding our unconsolidated joint ventures, of buyers who contracted to buy a home, but did not close escrow (as a percentage of overall orders), was approximately 20% for the year ended December 31, 2013 as compared to 16% for the same period in 2012. Our average number of selling communities decreased by one for the year ended December 31, 2013 compared to the same period in 2012.
Backlog reflects the number of homes, net of actual cancellations, for which we have entered into a sales contract with a customer, but for which we have not yet delivered the home. Backlog has not been reduced to reflect our historical cancellation rate. Homes in backlog are generally closed within three to six months, although we may experience cancellations of sales contracts prior to delivery. The number of homes in backlog as of December 31, 2013 compared to December 31, 2012 decreased 42% as a result of a 55% increase in new home deliveries and no change in net new home orders. The dollar value of backlog increased $1.3 million, or 12%, as of December 31, 2013 compared to December 31, 2012 primarily due to an increase in average sales price of the homes in backlog. The average sales price of backlog increased by $384,000, or 94%, during the year ended December 31, 2013 primarily due to a change in product mix, driven by the introduction of sales in a higher priced community during the same period. The increase in the dollar amount of backlog generally results in an increase in operating revenues in subsequent periods.
Home Sales Revenue and New Homes Delivered
New home deliveries increased by 29, or 55%, during the year ended December 31, 2013 compared to the same period in 2012. The increase in new home deliveries was primarily attributable to an increase in deliveries at one community in Northern California to 62, from 9 for the years ended December 31, 2013 and 2012, respectively.
During the year ended December 31, 2013, average sales price of homes delivered decreased $22,000, or 5%, from the same period in 2012. This increase is primarily due to a slight change in product mix.
Homebuilding
(1)
Non-GAAP financial measure (as discussed below).
Cost of home sales includes the cost of land, land development, home construction, capitalized interest, indirect costs of construction, estimated warranty costs, real estate taxes and direct costs incurred during development and home construction that benefit the project and is dependent upon the number of new home deliveries and the price at which we can acquire land and raw materials. Cost of home sales increased to $29.0 million from $20.8 million during the year ended December 31, 2013 when compared to the same period in 2012. The increase in cost of home sales primarily relates to the 55% increase in new home deliveries.
Cost of home sales as a percentage of home sales revenue decreased to 81.3% from 85.9% for the year ended December 31, 2013 when compared to the same period in 2012, respectively, due to a larger number of new home deliveries from communities with a lower cost of land.
Homebuilding gross margin represents home sales revenue less cost of home sales. Our homebuilding gross margin increased to 18.7% for the year ended December 31, 2013 as compared to 14.1% for the same period in 2012 primarily due to a shift in product mix to higher margin communities and improved overall market conditions.
Excluding interest in cost of home sales, adjusted homebuilding gross margin percentage was 20.2% for the year ended December 31, 2013, compared to 15.5% for the same period in 2012. Adjusted homebuilding gross margin is a non-GAAP financial measure. We believe that by adding interest in cost of home sales back to homebuilding gross margin, investors are able to assess the performance of our homebuilding business excluding our interest cost, allowing a focus on the performance of the underlying homebuilding operations. We believe this information is meaningful as it isolates the impact that leverage has on homebuilding gross margin and permits investors to make better comparisons with our competitors who adjust gross margins in a similar fashion. See the table above reconciling this non-GAAP financial measure to homebuilding gross margin, the nearest GAAP equivalent.
Fee Building
As of December 31, 2013 and 2012, we had 11 and five, respectively, fee building agreements with independent third-party land owners and 11 and four, respectively, construction management agreements with our unconsolidated joint ventures to provide construction management services. Fee building revenue increased to $47.6 million for the year ended December 31, 2013 compared to $28.3 million for the same period during 2012. The increase in fee building revenue and cost is due to the six new fee building agreements with increased construction activity during the year ended December 31, 2013 and the increase in management fees from unconsolidated joint ventures primarily as a result of increased new home deliveries from unconsolidated joint ventures during the year ended December 31, 2013.
We collect management fees from our unconsolidated joint ventures over the life of the project, and these fees increase as homes are delivered. Management fees were $8.3 million and $2.9 million for the years ended December 31, 2013 and 2012, respectively, and are included in fee building revenues. The 186% increase in management fees from unconsolidated joint ventures was the primary reason fee building gross margin percentage increased to 11.0% from 6.2% for the years ended December 31, 2013 and 2012, respectively.
Cost of fee building increased to $42.3 million for the year ended December 31, 2013 compared to $26.5 million for the same period during 2012. Cost of fee building includes overhead expenses that are attributable to the fee building projects and direct labor, subcontractor costs and other indirect project costs that are reimbursed by the independent third-party land owner. The amount of reimbursable labor, subcontractor and indirect project costs are primarily driven by the pace at which the land owner has us execute its development plan. The amount of overhead expenses included in cost of fee building were $5.4 million and $3.1 million for the years ended December 31, 2013 and 2012, respectively.
Abandoned Project Costs
Pre-acquisition costs, which consist primarily of due diligence costs for specific projects, are expensed to abandoned project costs when we determine continuation of the respective project is not probable. During the year ended December 31, 2013, abandoned project costs increased to $0.9 million from $0.4 million during the year ended December 31, 2012, primarily due to the increase in project investigation activity.
Equity in Net Income (Loss) of Unconsolidated Joint Ventures
As of December 31, 2013 and 2012, we had ownership interests in eleven and five, respectively, unconsolidated joint ventures. We own economic interests in our unconsolidated joint ventures, which include our capital interests that generally range from 5% to 50% plus, in each case, a share of the distributions from the joint ventures in excess of our capital interest. These economic interests vary among our joint ventures. The unconsolidated joint ventures produced $35.4 million and $8.7 million in net income during the years ended December 31, 2013 and 2012, respectively. Our equity in net income from unconsolidated joint ventures was $4.7 million for the year ended December 31, 2013, compared to equity in net income of $0.3 million for the same period in 2012. The change was primarily due to the 148 and 42 new home deliveries during the years ended December 31, 2013 and 2012, respectively, partially offset by losses from unconsolidated joint ventures that are not yet delivering homes.
The following sets forth supplemental operational and financial information about our unconsolidated joint ventures. Such information is not included in our financial data for GAAP purposes, but is recognized in our results of operations as a component of equity in net income (loss) of unconsolidated joint ventures. This data is included for informational purposes only.
Net new home orders from unconsolidated joint ventures increased to 156 from 96, or 63%, for the years ended December 31, 2013 and 2012, respectively, primarily due to the opening of six new selling communities, offset by the closeout of three selling communities. The absorption rate for unconsolidated joint ventures for the year ended December 31, 2013 was 43.3 per average selling community (3.6 monthly), compared to 32 per average selling community (5.3 monthly) during the same period in 2012.
The cancellation rate of unconsolidated joint venture projects was approximately 7% for the year ended December 31, 2013 as compared to 5% for the same period in 2012. The dollar value and average sales price of backlog as of December 31, 2013 compared to December 31, 2012 decreased due to the closeout of three higher priced communities in Irvine, CA and the increase in net new home orders at four lower priced communities in Santa Clarita, CA during the year ended December 31, 2013. The number of homes in backlog from unconsolidated joint ventures as of December 31, 2013 increased 15% from December 31, 2012 primarily due to the 63% increase in net new home orders, offset partially by an increase in new home deliveries.
New homes delivered from unconsolidated joint ventures increased to 148 from 42, or 252%, for the periods ended December 31, 2013 and 2012, respectively, primarily due to an increase in community count and the 2012 period only having deliveries in the last three months of the year compared to a full year of activity in 2013. The increase in new home deliveries also lead to a significant increase in home sales revenue from unconsolidated joint ventures to $183.0 million from $56.0 million, or 227%, during the years ended December 31, 2013 and 2012, respectively. The average sales price of homes delivered saw a slight decrease during the year ended December 31, 2013 compared to the same period in 2012 due to the introduction of deliveries in a lower priced community in Santa Clarita, CA.
(1)
Non-GAAP financial measure (as discussed below).
Excluding interest in cost of home sales, adjusted unconsolidated joint ventures homebuilding gross margin percentage was 29.0% for the year ended December 31, 2013, compared to 28.2% for the same period in 2012. Adjusted unconsolidated
joint ventures homebuilding gross margin is a non-GAAP financial measure. We believe that by adding interest in cost of unconsolidated joint venture home sales back to unconsolidated joint ventures homebuilding gross margin, investors are able to assess the performance of our unconsolidated joint venture business excluding interest cost, allowing a focus on the performance of the underlying unconsolidated joint venture homebuilding operations. We believe this information is meaningful as it isolates the impact that leverage has on unconsolidated joint venture homebuilding gross margin and permits investors to make better comparisons with our competitors who adjust gross margins in a similar fashion. See the table above reconciling this non-GAAP financial measure to unconsolidated joint venture homebuilding gross margin, the nearest GAAP equivalent.
The table below summarizes lots owned and controlled by our unconsolidated joint ventures as of the dates presented:
(1)
Consists of 1,279 lots and 1,042 lots that are under purchase and sale agreements, as of December 31, 2013 and 2012, respectively.
During the year ended December 31, 2013, the number of lots owned by our unconsolidated joint ventures increased by 928 due to the acquisition of 1,076 lots, offset by 148 new home deliveries.
Selling, General and Administrative Expenses
Selling and marketing expense incurred during the year ended December 31, 2013 decreased to 5.0% of home sales revenue compared to 6.9% for the same period in 2012. The decrease in selling and marketing expense is primarily due to a 47% increase in home sales revenue during the year ended December 31, 2013 as compared to the same period in 2012 and a decrease in the amount of outside broker commission payments during the year ended December 31, 2013.
During the year ended December 31, 2013, G&A expenses increased to $7.1 million from $4.5 million for the same period in 2012, primarily due to a 65% increase in personnel as a result of the increase in, and level of activity of our projects. G&A expenses as a percentage of home sales revenue increased to 19.9% for the year ended December 31, 2013 from 18.5% for the year ended December 31, 2012 also due to the 65% increase in personnel.
Guaranty Fee Income
During the years ended December 31, 2013 and 2012, we recognized $113,562 and $85,172 respectively in guaranty fee income from one of our unconsolidated joint ventures for certain loan guaranties provided over a 12-month period by us on behalf of the unconsolidated joint venture. The loan guaranties were outstanding for a full year in the 2013 period, compared to only nine months in the 2012 period. As a result, guaranty fee income increased slightly during the year ended December 31, 2013 as compared to the same period in 2012.
Other Expense, Net
Other expense, net increased slightly during the year ended December 31, 2013 compared to the same period in 2012 due to an increase in fees paid to state regulatory agencies.
Provision For Taxes
We were a limited liability company during the years ended December 31, 2013 and 2012 which is treated as a partnership for income tax purposes and is subject to certain minimal taxes and fees; however, income taxes on taxable income or losses realized by us are the obligation of the members. We have a subsidiary that is treated as a C Corporation, and Federal and state income taxes are provided for this entity.
Provision for income taxes increased to $0.3 million for the year ended December 31, 2013 compared to $71,255 for the year ended December 31, 2012. The increase in provision for income taxes is primarily due to the increase in income from fee building activity during the year ended December 31, 2013 compared to the year ended December 31, 2012.
Net Income (Loss)
As a result of the foregoing factors, net income during the year ended December 31, 2013 was $6.7 million compared to a net loss during the same period in 2012 of $1.4 million.
Interest Incurred
Interest, which was incurred principally to finance land acquisition, land development and home construction, totaled $1.1 million and $0.6 million for the year ended December 31, 2013 and 2012, respectively, all of which was capitalized to real estate inventory. The increase in interest incurred during the year ended December 31, 2013 compared to the year ended December 31, 2012 was primarily attributable to our increase in average outstanding debt balances, which was the result of the increase in the number of projects and the growth in our real estate inventory.
Lots Owned and Controlled
(1)
Includes 260 and 183 lots as of December 31, 2013 and 2012, respectively, that are under purchase contracts and 147 and 32 lots that are under non-binding letters of intent as of December 31, 2013 and 2012, respectively.
(2)
Subject to agreements with property owners.
Our lots owned increased 5% to 386 as of December 31, 2013 primarily due to the acquisition of three communities containing 101 lots, offset by new home deliveries.
Liquidity and Capital Resources
Overview
Our principal uses of capital for the year ended December 31, 2014 were land purchases, land development, home construction, investments in unconsolidated joint ventures, operating expenses and the payment of routine liabilities. Our principal source of capital for the year ended December 31, 2014 was the sale of common stock in our IPO and secondarily, advances from our unsecured credit facility.
Cash flows for each of our communities depend on their stage in the development cycle, and can differ substantially from reported earnings. Early stages of development or expansion require significant cash outlays for land acquisitions, entitlements and other approvals, and construction of model homes, roads, utilities, general landscaping and other amenities. Because these costs are a component of our real estate inventories and not recognized in our consolidated statement of operations until a home
is delivered, we incur significant cash outlays prior to our recognition of earnings. In the later stages of community development, cash inflows may significantly exceed earnings reported for financial statement purposes, as the cash outflow associated with home and land construction was previously incurred. From a liquidity standpoint, we and our unconsolidated joint ventures are actively acquiring and developing lots to increase our lot supply and community count. As we continue to expand our business, we expect cash outlays for land purchases and land development to exceed our cash generated by operations. During the year ended December 31, 2014, we delivered 53 homes and purchased 136 lots. During the year ended December 31, 2013, we delivered 82 homes and purchased 101 lots. During the year ended December 31, 2014, our unconsolidated joint ventures delivered 275 homes, 266 lots, and purchased 2,504 lots. During the year ended December 31, 2013, our unconsolidated joint ventures delivered 148 homes, no lots, and purchased 1,076 lots.
We exercise strict controls and believe we have a prudent strategy for company-wide cash management, including those related to cash outlays for land and inventory acquisition, development and investments in unconsolidated joint ventures. We ended 2014 with $44.1 million of cash and cash equivalents, a $34.5 million increase from December 31, 2013, primarily as a result of $75.8 million in net proceeds from our IPO and net advances from our notes payable of $95.9 million, partially offset by real estate inventory expenditures of $119.6 million and net contributions to unconsolidated joint ventures of $24.0 million. We intend to generate cash from the sale of our inventory, net of loan release payments on our notes payable when applicable, but we intend to redeploy the net cash generated from the sale of inventory to acquire and develop strategic and well-positioned lots that represent opportunities to generate future income.
As of December 31, 2014 and 2013, we had $11.9 million and $6.1 million, respectively, in accounts payable that related to costs incurred under our fee building agreements. Funding to pay these amounts is the obligation of the independent third-party land owner, which is generally funded on a monthly basis. Similarly, contracts and account receivable as of the same dates included $13.2 million and $6.6 million, respectively, related to the payment of the above payables. As of December 31, 2014, we have not experienced any losses from uncollectable contracts and accounts receivable related to our fee building projects.
We intend to employ both debt and equity as part of our ongoing financing strategy, coupled with redeployment of cash flows from continuing operations, to provide us with the financial flexibility to access capital on favorable terms. In that regard, we expect to employ prudent levels of leverage to finance the acquisition and development of our lots and construction of our homes. As of December 31, 2014, we had $144.0 million of aggregate loan commitments, of which $113.8 million was outstanding. We will consider a number of factors when evaluating our level of indebtedness and when making decisions regarding the incurrence of new indebtedness, including the purchase price of assets to be acquired with debt financing, the estimated market value of our assets and the ability of particular assets, and our company as a whole, to generate cash flow to cover the expected debt service. As a means of sustaining our long-term financial health and limiting our exposure to unforeseen dislocations in the debt and financing markets, we currently expect to remain conservatively capitalized. However, our charter does not contain a limitation on the amount of debt we may incur and our board of directors may change our target debt levels at any time without the approval of our stockholders.
We intend to finance future acquisitions and developments with the most advantageous source of capital available to us at the time of the transaction, which may include a combination of common and preferred equity, secured and unsecured corporate level debt, property-level debt and mortgage financing and other public, private or bank debt.
Land Acquisition Notes
During 2012, we entered into a note with a land seller, secured by real estate, which bears interest at 7.0% per annum. The note provides for a commitment of $9.5 million all of which had been funded as of December 31, 2014. During February 2015, we made a principal reduction payment of $2.5 million and extended the maturity date of the note. The note matures on the earlier of (i) 10 days following entitlement approval, or (ii) February 15, 2016 and requires certain mandatory pay downs totaling $1.0 million based on the occurrence of certain project-related events. Interest is payable monthly and the remaining principal is due at maturity.
In March 2014, we acquired real estate with a purchase price of $21.5 million. Concurrent with this transaction we entered into a $17.0 million note with the land seller, secured by real estate, which bore interest at 1.0% per annum. The note matured on June 30, 2014 and was repaid in full.
Secured Revolving Construction Notes
In May 2014, we entered into two secured revolving construction loans with a bank related to model and production homes for a specific project. The loans are secured by real estate and bear interest at the bank's prime rate plus 2.0%, or 5.25% at December 31, 2014. The total commitment under the construction loans is $9.5 million, with funding and repayment requirements based on the project development and sales cycle. As of December 31, 2014, we had $5.7 million available to borrow under the revolving construction loans. The loans mature on November 27, 2016. Interest is payable monthly, with all unpaid principal and interest due at maturity.
Senior Unsecured Revolving Credit Facility
As of December 31, 2014, we were party to a senior unsecured revolving credit facility ("Credit Facility") which has a maximum commitment of $125.0 million and matures on June 26, 2017. We may borrow under our Credit Facility in the ordinary course of business for general corporate purposes. Interest on the Credit Facility is paid monthly at a rate of the one-month LIBOR plus a margin ranging from 2.25% to 3.00% depending on our leverage ratio as calculated at the end of each fiscal quarter. As of December 31, 2014, the outstanding principal balance was $100.5 million, the interest rate was 2.41% per annum, and we had $24.5 million of availability under the Credit Facility.
Covenant Compliance
Under our Credit Facility, we are required to comply with certain financial covenants, including but not limited to those set forth in the table below:
As of December 31, 2014 and 2013, we were in compliance with all financial covenants.
We believe that our leverage ratios provide useful information to the users of our financial statements regarding our financial position and cash and debt management. The ratio of debt-to-capital and the ratio of net debt-to-capital are calculated as follows:
(1)
The ratio of debt-to-capital is computed as the quotient obtained by dividing notes payable by the sum of total notes payable plus equity, exclusive of noncontrolling interest.
(2)
The ratio of net debt-to-capital is computed as the quotient obtained by dividing net debt (which is notes payable less cash to the extent necessary to reduce the debt balance to zero) by total capital, exclusive of noncontrolling interest. The most directly comparable GAAP financial measure is the ratio of debt-to-capital. We believe the ratio of net debt-to-capital is a relevant financial measure for investors to understand the leverage employed in our operations and as an indicator of our ability to obtain financing. We believe that by deducting our cash from our notes payable, we provide a measure of our indebtedness that takes into account our cash liquidity. We believe this provides useful information as the ratio of debt-to-capital does not take into account our liquidity and we believe that the ratio net of cash provides supplemental information by which our financial position may be considered. Investors may also find this to be helpful when comparing our leverage to the leverage of our competitors that present similar information. See the table above reconciling this non-GAAP financial measure to the ratio of debt-to-capital.
Cash Flows - Year Ended December 31, 2014 Compared to Year Ended December 31, 2013
For the year ended December 31, 2014 as compared to the year ended December 31, 2013, the comparison of cash flows is as follows:
•
Net cash used in operating activities was $112.2 million in the 2014 period versus $11.8 million in the 2013 period. The change was primarily a result of an increase in cash outflows for real estate inventories to $119.6 million in the 2014 period compared to $21.8 million in the 2013 period. The increase in real estate inventories resulted primarily from the acquisition of 136 lots and increased development activity at the Company’s existing projects.
•
Net cash used in investing activities was $24.9 million in the 2014 period compared to $8.5 million in the 2013 period. During the year ended December 31, 2014, our net contributions to unconsolidated joint ventures increased to $24.0 million compared to $8.1 million during the year ended December 31, 2013 and was the primary reason net cash used in investing activities increased.
•
Net cash provided by financing activities was $171.6 million in the 2014 period versus $23.8 million in the 2013 period. The change was primarily a result of the receipt of proceeds of our IPO of $75.8 million, net of the underwriting discount and offering expenses, compared to contributions from members of $21.6 million in the 2013 period. In addition, net borrowings of notes payable were $95.9 million during the 2014 period versus $2.2 million during the 2013 period.
As of December 31, 2014, our unrestricted cash balance was $44.1 million. In January 2014, we completed an IPO of our common stock and received proceeds of $75.8 million, net of the underwriting discount and offering expenses. We intend to use the proceeds for the acquisition of land, including the land described under "Off-Balance Sheet Arrangements and Contractual Obligations" and for development, home construction, investment in joint ventures and other related purposes.
Based on the foregoing, we believe we have sufficient cash and sources of financing for at least the next twelve months.
Off-Balance Sheet Arrangements and Contractual Obligations
In the ordinary course of business, we enter into land option contracts in order to procure lots for the construction of our homes. We are subject to customary obligations associated with entering into contracts for the purchase of land and improved lots. These purchase contracts typically require a cash deposit and the purchase of properties under these contracts is generally contingent upon satisfaction of certain requirements by the sellers, including obtaining applicable property and development entitlements. We also utilize option contracts with land sellers as a method of acquiring land in staged takedowns, to help us manage the financial and market risk associated with land holdings, to reduce the use of funds from our corporate financing sources, and to enhance our return on equity. Option contracts generally require a non-refundable deposit for the right to acquire lots over a specified period of time at pre-determined prices. We generally have the right at our discretion to terminate our obligations under both purchase contracts and option contracts by forfeiting our cash deposit with no further financial responsibility to the land seller. As of December 31, 2014, we had $6.1 million of non-refundable cash deposits and no refundable cash deposits pertaining to land option contracts and purchase contracts with an aggregate remaining purchase price of $196.0 million (net of deposits).
Our utilization of land option contracts is dependent on, among other things, the availability of land sellers willing to enter into option arrangements, the availability of capital to financial intermediaries to finance the development of optioned lots, general housing market conditions, and local market dynamics. Options may be more difficult to procure from land sellers in strong housing markets and are more prevalent in certain geographic regions.
As of December 31, 2014, the outstanding principal balance of our Credit Facility was $100.5 million, the interest rate was 2.41% per annum and we had approximately $24.5 million of availability. As of December 31, 2014, the outstanding principal balance of our secured revolving construction loans was $3.8 million, the interest rate was 5.25% per annum and we had approximately $5.7 million of availability under the construction loans.
We expect that the obligations under our Credit Facility and other loan agreements will generally be satisfied in the ordinary course of business and in accordance with applicable contractual terms.
Off-Balance Sheet Arrangements
As of December 31, 2014, we held membership interests in 12 unconsolidated joint ventures, eight of which related to homebuilding activities and four related to land development as noted below. We were a party to four loan-to-value maintenance agreements related to unconsolidated joint ventures as of December 31, 2014. The following table reflects certain financial and other information related to our unconsolidated joint ventures as of December 31, 2014 (in thousands):
(1)
Scheduled maturities of the unconsolidated joint venture debt as of December 31, 2014 are as follows: $11.3 million matures in 2015, $40.3 million matures in 2016, $34.0 million matures in 2017, $0 matures in 2018 and $2.3 million matures in 2019.
(2)
Future capital commitment represents our proportionate share of estimated future contributions to the respective unconsolidated joint ventures as of December 31, 2014. Actual contributions may differ materially.
(3)
Certain members of the Company's board of directors are affiliated with entities that have an investment in these joint ventures.
(4)
The debt associated with this joint venture consists of a land seller note.
(5)
Land development joint ventures.
As of December 31, 2014, the unconsolidated joint ventures were in compliance with their respective loan covenants, where applicable, and we did not make any loan-to-value maintenance related payments during the year ended December 31, 2014.
Contractual Obligations Table
The following table summarized our future estimated cash payments under existing contractual obligations as of December 31, 2014, including estimated cash payments due by period. Our purchase obligations primarily represent commitments for land purchases under purchase and land option contracts with non-refundable deposits and commitments for subcontractor labor and material to be utilized in the normal course of business.
(1)
Long-term debt represents our senior unsecured revolving credit facility, two construction loans, and a note payable with a land seller. Contractual maturity for the construction loans is in the 1-3 Years category; however, the loans are secured by real estate and are paid down in conjunction with home closings. During the first quarter of 2015, the maturity of the land seller note payable was extended to 2016 in conjunction with a principal reduction payment of $2.5 million. For a more detailed description of our long-term debt, please see Note 8 of the notes to our consolidated financial statements.
(2)
Includes $196.0 million (net of deposits) of the remaining purchase price for all land option and land purchase contracts and $19.5 million of subcontractor labor and material commitments as of December 31, 2014 for which we are responsible if the subcontractor completes the work as specified in their respective commitments, excluding purchase obligations made on behalf of the owner(s) of fee build projects for which we do not have risk of loss.
(3)
During the first quarter of 2015, we entered into four new option contracts with one land seller for the acquisition of 195 lots in four communities within Orange County, CA with a total purchase price of $251.8 million. This amount is not reflected above.
Inflation
Our homebuilding and fee building segments can be adversely impacted by inflation, primarily from higher land, financing, labor, material and construction costs. In addition, inflation can lead to higher mortgage rates, which can significantly affect the affordability of mortgage financing to homebuyers. While we attempt to pass on cost increases to customers through increased prices, when weak housing market conditions exist, we are often unable to offset cost increases with higher selling prices.
Seasonality
Historically, the homebuilding industry experiences seasonal fluctuations in quarterly operating results and capital requirements. We typically experience the highest new home order activity in spring and summer, although this activity is also highly dependent on the number of active selling communities, timing of new community openings and other market factors. Since it typically takes four to seven months to construct a new home, we deliver more homes in the second half of the year as spring and summer home orders convert to home deliveries. Because of this seasonality, home starts, construction costs and related cash outflows have historically been highest in the second and third quarters, and the majority of cash receipts from home deliveries occur during the second half of the year. We expect this seasonal pattern to continue over the long-term, although it may be affected by volatility in the homebuilding industry.
Critical Accounting Policies
See Note 1 to the accompanying notes to consolidated financial statements included in this Annual Report on Form 10-K.
Recently Issued Accounting Standards
See Note 1 to the accompanying notes to consolidated financial statements included in this Annual Report on Form 10-K.
Item 7A.
Item 7A.
Quantitative and Qualitative Disclosures About Market Risk
We are exposed to market risks related to fluctuations in interest rates on our outstanding variable rate debt. We did not utilize swaps, forward or option contracts on interest rates or commodities, or other types of derivative financial instruments as of or during the year ended December 31, 2014. We have not entered into and currently do not hold derivatives for trading or speculative purposes. Many of the statements contained in this section are forward looking and should be read in conjunction with our disclosures under the heading “Cautionary Note Concerning Forward-Looking Statements.”
The table below details the principal amount and the average interest rates for the outstanding debt for each category based upon the expected maturity or disposition dates. The fair value of our variable rate debt, which consists of our unsecured revolving credit facility and two secured construction loans, is based on quoted market prices for the same or similar instruments as of December 31, 2014.
Based on the current interest rate management policies we have in place with respect to our outstanding debt, we do not believe that the future market rate risks related to the above securities will have a material adverse impact on our financial position, results of operations or liquidity.
Item 8.
Item 8.
Financial Statements and Supplementary Data
The information required by this item appears beginning on page 66.
Item 9.
Item 9.
Changes in and Disagreements with Accountants on Accounting and Financial Disclosure
Not Applicable.
Item 9A.
Item 9A.
Controls and Procedures
Our management, under the supervision and with the participation of our chief executive officer and chief financial officer, has reviewed and evaluated the effectiveness of the design and operation of our disclosure controls and procedures, as defined in Securities Exchange Act Rules 13a-15(e) and 15d-15(e), as of the end of the period covered by this Form 10-K (the “Evaluation Date”). Based on such evaluation, management has concluded that our disclosure controls and procedures were effective at the reasonable assurance level as of the Evaluation Date. In designing and evaluating the disclosure controls and procedures, management recognized that any controls and procedures, no matter how well designed and operated, can provide only reasonable assurance of achieving the desired control objectives, and management necessarily was required to apply its judgment in evaluating the cost-benefit relationship of possible controls and procedures.
Our management determined that as of December 31, 2014, there were no changes in our internal control over financial reporting that occurred during the fiscal year then ended that have materially affected, or are reasonably likely to materially affect, our internal control over financial reporting.
This annual report does not include an attestation report of our independent registered public accounting firm due to the exemption provided by the JOBS Act for emerging growth companies.
Item 9B.
Item 9B.
Other Information
None.
PART III
Item 10.
Item 10.
Directors, Executive Officers and Corporate Governance
The information required in response to this item is incorporated by reference from the information contained in our 2015 Proxy Statement under the captions "Board of Directors," "Executive Officers," "Section 16(A) Beneficial Ownership Reporting Compliance," and "Corporate Governance."
The information required in response to this item is incorporated by reference to our 2015 Proxy Statement under the captions "Executive Compensation," and "Corporate Governance - Compensation Committee Interlocks and Insider Participation."
Item 12.
Item 12.
Security Ownership of Certain Beneficial Owners and Management and Related Stockholder Matters
The information required in response to this item is incorporated by reference to our 2015 Proxy Statement under the captions "Ownership of The New Home Company Stock" and "Equity Compensation Plan Information."
Item 13.
Item 13.
Certain Relationships and Related Transactions, and Director Independence
The information required in response to this item is incorporated by reference to our 2015 Proxy Statement under the caption "Certain Relationships and Related Party Transactions."
Item 14.
Item 14.
Principal Accounting Fees and Services
The information required in response to this item is incorporated by reference to our 2015 Proxy Statement under the caption "Audit Committee Matters."
PART IV
Item 15.
Item 15.
Exhibits and Financial Statement Schedules
(a) The following documents are filed as part of this annual report on Form 10-K:
(1)
Financial Statements:
(2)
Financial Statement Schedules
All other schedules have been omitted since the required information is presented in the financial statements and the related notes or is not applicable.
(3)
Exhibits
The exhibits filed or furnished as part of this annual report on Form 10-K are listed in the Index to Exhibits immediately preceding those exhibits, which Index is incorporated in this Item by reference.
REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM
The Board of Directors and Stockholders of
The New Home Company Inc.
We have audited the accompanying consolidated balance sheets of The New Home Company Inc. (the "Company") as of December 31, 2014 and 2013, and the related consolidated statements of operations, equity, and cash flows for each of the three years in the period ended December 31, 2014. These financial statements are the responsibility of the Company’s management. Our responsibility is to express an opinion on these financial statements based on our audits.
We conducted our audits in accordance with the standards of the Public Company Accounting Oversight Board (United States). Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. We were not engaged to perform an audit of the Company’s internal control over financial reporting. Our audits included consideration of internal control over financial reporting as a basis for designing audit procedures that are appropriate in the circumstances, but not for the purpose of expressing an opinion on the effectiveness of the Company’s internal control over financial reporting. Accordingly, we express no such opinion. An audit also includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements, assessing the accounting principles used and significant estimates made by management, and evaluating the overall financial statement presentation. We believe that our audits provide a reasonable basis for our opinion.
In our opinion, the financial statements referred to above present fairly, in all material respects, the consolidated financial position of The New Home Company Inc. at December 31, 2014 and 2013, and the consolidated results of its operations and its cash flows for each of the three years in the period ended December 31, 2014, in conformity with U.S. generally accepted accounting principles.
/s/ Ernst & Young LLP
Irvine, California
March 6, 2015
THE NEW HOME COMPANY INC.
CONSOLIDATED BALANCE SHEETS
See accompanying notes to the consolidated financial statements.
THE NEW HOME COMPANY INC.
CONSOLIDATED STATEMENTS OF OPERATIONS
See accompanying notes to the consolidated financial statements.
THE NEW HOME COMPANY INC.
CONSOLIDATED STATEMENTS OF EQUITY
See accompanying notes to the consolidated financial statements.
THE NEW HOME COMPANY INC.
CONSOLIDATED STATEMENTS OF CASH FLOWS
See accompanying notes to the consolidated financial statements.
1. Organization and Summary of Significant Accounting Policies
Organization
The New Home Company Inc. (the “Company”), a Delaware Corporation, and its subsidiaries are primarily engaged in all aspects of residential real estate development, including acquiring land and designing, constructing and selling homes located in California.
Initial Public Offering
The Company completed its initial public offering ("IPO") on January 30, 2014. In preparation for the IPO, the Company reorganized from a Delaware limited liability company ("LLC") into a Delaware corporation, issuing 8,636,250 shares of common stock to the former members of the LLC in the Company's formation transactions, and changed its name to The New Home Company Inc. As a result of the IPO, the Company issued and sold 8,984,375 shares of common stock (including 1,171,875 shares sold pursuant to the underwriter's exercise of their option to purchase additional shares from the Company) at the public offering price of $11.00 per share. In accordance with the terms of the IPO, with net proceeds received from the underwriters exercise of their option to purchase additional shares, the Company repurchased 1,171,875 shares of its common stock issued to a member of the LLC in connection with the Company's formation transactions. The Company received proceeds of $75.8 million, net of the underwriting discount, offering expenses and the repurchase of shares. Upon the close of the IPO and as of December 31, 2014, the Company had 16,448,750 common shares outstanding.
Basis of Presentation
The consolidated financial statements include the accounts of the Company and its wholly owned subsidiaries. All significant intercompany accounts have been eliminated upon consolidation.
The accompanying financial statements have been prepared in accordance with U.S. generally accepted accounting principles (“GAAP”) as contained within the Financial Accounting Standards Board (“FASB”) Accounting Standards Codification (“ASC”).
Unless the context otherwise requires, the terms “we”, “us”, “our” and “the Company” refer to the Company.
Use of Estimates
The preparation of the Company’s consolidated financial statements in conformity with GAAP requires management to make estimates and assumptions that affect the amounts reported in the accompanying consolidated financial statements and notes. Accordingly, actual results could differ materially from these estimates.
Segment Reporting
ASC 280, "Segment Reporting" (“ASC 280”) established standards for the manner in which public enterprises report information about operating segments. In accordance with ASC 280, we have determined that our homebuilding division and our fee building division are our operating segments. Corporate is a non-operating segment.
Cash and Cash Equivalents and Concentration of Credit Risk
We define cash and cash equivalents as cash on hand, demand deposits with financial institutions, and short term liquid investments with a maturity date of less than three months from the date of purchase. The Company’s cash balances exceed federally insurable limits. The Company monitors the cash balances in its operating accounts and adjusts the cash balances as appropriate; however, these cash balances could be impacted if the underlying financial institutions fail or are subject to other adverse conditions in the financial markets. To date, the Company has not experienced a loss or lack of access to cash in its operating accounts.
Restricted Cash
Restricted cash of $0.3 million and $0.1 million as of December 31, 2014 and 2013, respectively, is held in accounts for payments of subcontractor costs incurred in connection with various fee building projects.
Real Estate Inventories and Cost of Sales
We capitalize pre-acquisition, land, development and other allocated costs, including interest, during development and home construction. Pre-acquisition costs, including non-refundable land deposits, are expensed to abandoned project costs when we determine continuation of the respective project is not probable. During the years ended December 31, 2014, 2013 and 2012, the Company reduced its real estate inventory balance by $0.8 million, $0.9 million and $0.4 million, respectively, for projects no longer being pursued. The associated expense is reflected as abandoned project costs in the accompanying consolidated statements of operations.
Land, development and other common costs are typically allocated to real estate inventories using a methodology that approximates the relative-sales-value method. Home construction costs per production phase are recorded using the specific identification method. Cost of sales for homes delivered includes the allocation of construction costs of each home and all applicable land acquisition, land development and related common costs (both incurred and estimated to be incurred) based upon the relative-sales-value of the home within each project. Changes to estimated total development costs subsequent to initial home deliveries in a project are generally allocated on a relative-sales-value method to remaining homes in the project. Inventory is stated at cost, unless the carrying amount is determined not to be recoverable, in which case inventory is written down to fair value. We review our real estate assets at each project on a periodic basis or whenever indicators of impairment exist. Real estate assets include projects actively selling, projects under development, or projects held for future development. Indicators of impairment include, but are not limited to, significant decreases in local housing market values and selling prices of comparable homes, significant decreases in gross margins and sales absorption rates, costs significantly in excess of budget, and actual or projected cash flow losses.
If there are indicators of impairment, we perform a detailed budget and cash flow review of the applicable real estate inventories to determine whether the estimated remaining undiscounted future cash flows of the project are more or less than the asset’s carrying value. If the undiscounted cash flows are more than the asset’s carrying value, no impairment adjustment is required. However, if the undiscounted cash flows are less than the asset’s carrying value, the asset is deemed impaired and is written down to fair value.
When estimating undiscounted cash flows of a project, we make various assumptions, including: (i) expected sales prices and sales incentives to be offered, including the number of homes available, pricing and incentives being offered by us or other builders in other projects, and future sales price adjustments based on market and economic trends; (ii) expected sales pace and cancellation rates based on local housing market conditions, competition and historical trends; (iii) costs expended to date and expected to be incurred including, but not limited to, land and land development costs, home construction costs, interest costs, indirect construction and overhead costs, and selling and marketing costs; (iv) alternative product offerings that may be offered that could have an impact on sales pace, sales price and/or building costs; and (v) alternative uses for the property.
Many assumptions are interdependent and a change in one may require a corresponding change to other assumptions. For example, increasing or decreasing sales absorption rates has a direct impact on the estimated per unit sales price of a home, the level of time sensitive costs (such as indirect construction, overhead and carrying costs), and selling and marketing costs (such as model maintenance costs and advertising costs). Depending on the underlying objective of the project, assumptions could have a significant impact on the projected cash flow analysis. For example, if our objective is to preserve operating margins, our cash flow analysis will be different than if the objective is to increase sales. These objectives may vary significantly from project to project and over time. If assets are considered impaired, impairment is determined by the amount the asset’s carrying value exceeds its fair value. Fair value is determined based on estimated future cash flows discounted for inherent risks associated with real estate assets. These discounted cash flows are impacted by expected risk based on estimated land development; construction and delivery timelines; market risk of price erosion; uncertainty of development or construction cost increases; and other risks specific to the asset or market conditions where the asset is located when assessment is made. These factors are specific to each project and may vary among projects. For the years ended December 31, 2014 and 2013, the projects were reviewed for impairment and no impairment adjustments relating to homebuilding real estate inventories were recorded. During the year ended December 31, 2012, the Company initiated a change in use and sold certain finished lots not under construction in one of its projects in Northern California. This change in use resulted in an impairment of $0.3 million for the related land held for sale, which is reflected in cost of land sales in the accompanying consolidated statement of operations. The remaining finished lots under construction for the same project were completed and sold to the respective homebuyers, including the model homes, during the year ended December 31, 2012.
Capitalization of Interest
We follow the practice of capitalizing interest to inventories owned during the period of development and to investments in unconsolidated joint ventures in accordance with ASC 835, "Interest" (“ASC 835”). Homebuilding interest capitalized as a component of cost of real estate inventories is included in cost of home sales as related homes or lots are sold. Interest capitalized to investment in unconsolidated joint ventures is included as a reduction of income from or increase in loss from unconsolidated joint ventures when the related homes or lots are sold to third parties. To the extent our debt exceeds our qualified assets as defined in ASC 835, we expense a portion of the interest incurred by us. Qualified assets represent projects that are actively selling or under development as well as investments in unconsolidated joint ventures accounted for under the equity method until such equity investees begin their principal operations.
Revenue Recognition
Home Sales and Profit Recognition
In accordance with ASC 360, "Property, Plant, and Equipment", revenues from home sales and other real estate sales are recorded and a profit is recognized when the respective homes are closed. Home sales and other real estate sales are closed when all conditions of escrow are met, including delivery of the home or other real estate asset, title passage, appropriate consideration is received and collection of associated receivables, if any, is reasonably assured. Sales incentives are a reduction of revenues when the respective home is closed. When it is determined that the earnings process is not complete, the sale and the related profit are deferred for recognition in future periods. The profit we record is based on the calculation of cost of sales, which is dependent on our allocation of costs, as described in more detail above in the section entitled “Real Estate Inventories and Cost of Sales.”
Fee Building
The Company enters into fee building agreements to provide services whereby it will build homes on behalf of independent third-party property owners. The independent third-party property owner funds all project costs incurred by the Company to build and sell the homes. The Company primarily enters into cost plus fee contracts where it charges independent third-party property owners for all direct and indirect costs plus a negotiated management fee. For these types of contracts, the Company recognizes revenue based on the actual total costs it has expended plus the applicable management fee. The management fee is typically a fixed fee based on a percentage of the cost or home sales revenue of the project depending on the terms of the agreement with the independent third-party property owner. In accordance with ASC 605, "Revenue Recognition" ("ASC 605"), revenues from fee building services are recognized over a cost-to-cost approach in applying the percentage-of-completion method. Under this approach, revenue is earned in proportion to total costs incurred, divided by total costs expected to be incurred. The total estimated cost plus the management fee represents the total contract value. The Company recognizes revenue based on the actual labor and other direct costs incurred, plus the portion of the management fee it has earned to date. In the course of providing its services, the Company routinely subcontracts for services and incurs other direct costs on behalf of its clients. These costs are passed through to clients and, in accordance with industry practice and GAAP, are included in the Company’s revenue and cost of revenue. Under certain agreements, the Company is eligible to receive additional incentive compensation as certain financial thresholds defined in the agreement are achieved. The Company recognizes revenue for any incentive compensation when such financial thresholds are probable of being met and such compensation is deemed to be collectible, generally at the date the amount is communicated to us by the independent third-party property owner.
The Company also enters into fee building and management contracts with third parties and its unconsolidated joint ventures where it provides construction supervision services, as well as sales and marketing services, and does not bear financial risks for any services provided. In accordance with ASC 605, revenues from these services are recognized over a proportional performance method or completed performance method. Under this approach, revenue is earned as services are provided in proportion to total services expected to be provided to the client or on a straight line basis if the pattern of performance cannot be determined while costs are recognized as incurred. Revenue recognition for any portion of the fees earned from these services that are contingent upon a financial threshold or specific event is deferred until the threshold is achieved or the event occurs.
The Company’s fee building revenues have historically been concentrated in a small number of customers. For the years ended December 31, 2014, 2013 and 2012, one customer comprised 87%, 75% and 95% of fee building revenue, respectively. As of December 31, 2014 and 2013, one customer comprised 98% and 82% of contracts and accounts receivables, respectively.
Variable Interest Entities
The Company accounts for variable interest entities in accordance with ASC 810, "Consolidation" (“ASC 810”). Under ASC 810, a variable interest entity (“VIE”) is created when: (a) the equity investment at risk in the entity is not sufficient to permit the entity to finance its activities without additional subordinated financial support provided by other parties, including the equity holders; (b) the entity’s equity holders as a group either (i) lack the direct or indirect ability to make decisions about the entity, (ii) are not obligated to absorb expected losses of the entity or (iii) do not have the right to receive expected residual returns of the entity; or (c) the entity’s equity holders have voting rights that are not proportionate to their economic interests, and the activities of the entity involve or are conducted on behalf of the equity holder with disproportionately few voting rights. If an entity is deemed to be a VIE pursuant to ASC 810, the enterprise that has both (i) the power to direct the activities of a VIE that most significantly impact the entity’s economic performance and (ii) the obligation to absorb the expected losses of the entity or right to receive benefits from the entity that could be potentially significant to the VIE is considered the primary beneficiary and must consolidate the VIE.
Under ASC 810, a non-refundable deposit paid to an entity may be deemed to be a variable interest that will absorb some or all of the entity’s expected losses if they occur. Our land purchase and lot option deposits generally represent our maximum exposure to the land seller if we elect not to purchase the optioned property. In some instances, we may also expend funds for due diligence, development and construction activities with respect to optioned land prior to takedown. Such costs are classified as real estate inventories, which we would have to write off should we not exercise the option. Therefore, whenever we enter into a land option or purchase contract with an entity and make a non-refundable deposit, a VIE may have been created.
As of December 31, 2014 and 2013, the Company was not required to consolidate any VIEs. In accordance with ASC 810, we perform ongoing reassessments of whether we are the primary beneficiary of a VIE.
Noncontrolling Interest
During 2013, the Company entered into a joint venture agreement with a third-party property owner. In accordance with ASC 810, the Company analyzed this arrangement and determined that it was not a variable interest entity; however, the Company determined it was required to consolidate the joint venture as it is the managing member with the powers to direct the major decisions of the entity. As of December 31, 2014 and 2013, the third-party owner had made contributions of $2.3 million and $1.2 million, respectively, net of losses and distributions.
Investments in Unconsolidated Joint Ventures
We first analyze our homebuilding and land development joint ventures to determine if they are variable interest entities under the provisions of ASC 810 (as discussed above) when determining whether the entity should be consolidated. If we conclude that our homebuilding and land development joint ventures are not variable interest entities, then, in accordance with the provisions of ASC 810, limited partnerships or similar entities must be further evaluated under the presumption that the general partner, or the managing member in the case of a limited liability company, is deemed to have a controlling interest and therefore must consolidate the entity unless the limited partners or non-managing members have: (1) the ability, either by a single limited partner or through a simple majority vote, to dissolve or liquidate the entity, or kick-out the managing member/general partner without cause, or (2) substantive participatory rights that are exercised in the ordinary course of business. Under the provisions of ASC 810, we may be required to consolidate certain investments in which we hold a general partner or managing member interest.
As of December 31, 2014 and 2013, the Company concluded that some of its joint ventures were variable interest entities. The Company concluded that it was not the primary beneficiary of the variable interest entities and accounted for these entities under the equity method of accounting.
Under the joint venture operating agreements, future capital contributions are determined based on the operating budgets and needs of the joint venture, which will likely vary throughout the life of each joint venture based on the circumstances unique to the project. In addition to required contributions, the Company selectively provides guaranties for debt held by certain of its unconsolidated joint ventures. Such guarantees facilitated the financing of our joint ventures' development projects and arose in the ordinary course of business. As of December 31, 2014 and 2013, our unconsolidated joint ventures had outstanding debt secured by financial guaranties of $61.4 million and $39.1 million, respectively, of which 12.6% and 11.5% respectively, was guaranteed by the Company. The guarantees will remain in place through the repayment of the notes, which mature at various dates through 2017. Payments under the guarantees are triggered by events of default, as defined in the various credit facilities. As of December 31, 2014, there were no events of default that would require payments under the guarantees.
Investments in our unconsolidated joint ventures are accounted for under the equity method of accounting. Under the equity method, we recognize our proportionate share of earnings and losses generated by the joint venture upon the delivery of lots or homes to third parties. Our proportionate share of intra-entity profits and losses are eliminated until the related asset has been sold by the unconsolidated joint venture to third parties. Our ownership interests in our unconsolidated joint ventures vary, but are generally less than or equal to 50%. The unconsolidated joint ventures accounting policies are generally consistent with those of the Company.
We review real estate inventory held by our unconsolidated joint ventures for impairment, consistent with our real estate inventories. We also review our investments in unconsolidated joint ventures for evidence of other-than-temporary declines in value. To the extent we deem any portion of our investment in unconsolidated joint ventures as not recoverable, we impair our investment accordingly. For the years ended December 31, 2014, 2013 and 2012, no impairments related to investment in unconsolidated joint ventures were recorded.
Selling and Marketing Expense
Selling and marketing costs incurred to sell real estate projects are capitalized if they are reasonably expected to be recovered from the sale of the project or from incidental operations, and are incurred for tangible assets that are used directly through the selling period to aid in the sale of the project or services that have been performed to obtain regulatory approval of sales. All other selling and marketing costs are expensed in the period incurred.
Warranty Reserves
We offer warranties on our homes that generally cover various defects in workmanship or materials, or to cover structural construction defects for one-year periods. Estimated future direct warranty costs are accrued and charged to cost of sales in the period when the related homebuilding revenues are recognized. Amounts are accrued based upon the Company’s historical rates. Due to the Company’s limited history related to homebuilding sales, the Company also considers the historical experience of its peers in determining the amount of its warranty reserve. In addition, the Company receives warranty payments from its clients for certain of its fee building projects where it has the contractual risk of construction. These payments are recorded as warranty reserve accruals. Indirect warranty overhead salaries and related costs are charged to the reserve in the period incurred. We assess the adequacy of our warranty accrual on a quarterly basis and adjust the amounts recorded if necessary. Our warranty accrual is included in accrued expenses and other liabilities in the accompanying consolidated balance sheets.
Contracts and Accounts Receivable
Contracts and accounts receivable primarily represent the fees earned but not collected and reimbursable project costs incurred in connection with fee building agreements. The Company periodically evaluates the collectability of its contracts receivable, and, if it is determined that a receivable might not be fully collectible, an allowance is recorded for the amount deemed uncollectible. This allowance for doubtful accounts is estimated based on management’s evaluation of the contracts involved and the financial condition of its clients. Factors considered in evaluations include, but are not limited to:
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client type;
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historical contract performance;
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historical collection and delinquency trends;
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client credit worthiness; and
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general economic conditions.
As of December 31, 2014 and 2013, no allowance was recorded related to contracts and accounts receivable.
Property and Equipment
Property and equipment are recorded at cost and depreciated using the straight-line method over their estimated useful lives ranging from three to five years. Leasehold improvements are stated at cost and are amortized using the straight-line method over the shorter of either their estimated useful lives or the probable term of the lease. For the years ended December 31, 2014, 2013 and 2012, the Company incurred depreciation expense of $0.4 million, $0.2 million and $0.1 million, respectively.
Income Taxes
Income taxes are accounted for in accordance with ASC 740, "Income Taxes" (“ASC 740”). As a result of the conversion from an LLC to a taxable entity in connection with the Company's IPO, the Company recognized a cumulative net deferred tax asset of $1.5 million related to the difference between the financial statement basis and tax basis of the assets and liabilities as of January 30, 2014. Subsequent to the conversion, the consolidated provision for, or benefit from, income taxes are calculated using the asset and liability method, under which deferred tax assets and liabilities are recorded based on the difference between the financial statement and tax basis of assets and liabilities using enacted tax rates in effect for the year in which the differences are expected to reverse.
Deferred tax assets are evaluated on a quarterly basis to determine if adjustments to the valuation allowance are required. In accordance with ASC 740, we assess whether a valuation allowance should be established based on the consideration of all available evidence using a “more likely than not” standard with respect to whether deferred tax assets will be realized. The ultimate realization of deferred tax assets depends primarily on the generation of future taxable income during the periods in which the differences become deductible. The value of our deferred tax assets will depend on applicable income tax rates. Judgment is required in determining the future tax consequences of events that have been recognized in our consolidated financial statements and/or tax returns. Differences between anticipated and actual outcomes of these future tax consequences could have a material impact on our consolidated financial statements.
ASC 740 defines the methodology for recognizing the benefits of uncertain tax return positions as well as guidance regarding the measurement of the resulting tax benefits. These provisions require an enterprise to recognize the financial statement effects of a tax position when it is more likely than not (defined as a likelihood of more than 50%), based on the technical merits, that the position will be sustained upon examination. In addition, these provisions provide guidance on derecognition, classification, interest and penalties, accounting in interim periods, disclosure, and transition. The evaluation of whether a tax position meets the more-likely-than-not recognition threshold requires a substantial degree of judgment by management based on the individual facts and circumstances. Actual results could differ from estimates.
Stock-Based Compensation
We account for share-based awards in accordance with ASC 718, "Compensation - Stock Compensation" (“ASC 718”). ASC 718 requires that the cost resulting from all share-based payment transactions be recognized in the financial statements. ASC 718 requires all entities to apply a fair-value-based measurement method in accounting for share-based payment transactions with employees except for equity instruments held by employee share ownership plans.
Recently Issued Accounting Standards
The Company qualifies as an “emerging growth company” pursuant to the provisions of the Jumpstart Our Business Startups Act of 2012, or the JOBS Act, enacted on April 5, 2012. Section 102 of the JOBS Act provides that an “emerging growth company” can take advantage of the extended transition period provided in Section 7(a)(2)(B) of the Securities Act of 1933, as amended, for complying with new or revised accounting standards. As previously disclosed, the Company has chosen, irrevocably, to “opt out” of such extended transition period, and as a result, will comply with new or revised accounting standards on the relevant dates on which adoption of such standards is required for non-emerging growth companies.
In May 2014, the Financial Accounting Standards Board ("FASB") and International Accounting Standards Board issued their converged standard on revenue recognition, Accounting Standards Update ("ASU") 2014-09, “Revenue from Contracts with Customers” ("ASU 2014-09"). This standard outlines a single comprehensive model for companies to use in accounting for revenue arising from contracts with customers and supersedes most current revenue recognition guidance, including industry-specific guidance. The core principle of the revenue model is that revenue is recognized when a customer obtains control of a good or service. A customer obtains control when it has the ability to direct the use of and obtain the benefits from the good or service. Transfer of control is not the same as transfer of risks and rewards, as it is considered in current guidance. The Company will need to apply the new guidance to determine whether revenue should be recognized over time or at a point in time. This standard will be effective for the first interim period within annual reporting periods beginning after December 15, 2016, with no early adoption permitted, and the Company can choose to apply this standard retrospectively for each prior reporting period presented or retrospectively with the cumulative effect of initially applying the standard recognized at the date of the initial application in retained earnings. The Company is in the process of evaluating the effects of ASU 2014-09 on its revenue recognition.
In June 2014, the FASB issued ASU No. 2014-12, Accounting for Share-Based Payments When the Terms of an Award Provide That a Performance Target Could Be Achieved after the Requisite Service Period (“ASU 2014-12”), which requires that a performance target that affects vesting and that could be achieved after the requisite service period be treated as
a performance condition. A reporting entity should apply existing guidance in ASC 718, Compensation - Stock Compensation, as it relates to awards with performance conditions that affect vesting to account for such awards. The amendments in ASU 2014-12 are effective for interim and annual periods beginning after December 15, 2015. Early adoption is permitted. Our adoption of ASU 2014-12 is not expected to have a material effect on our consolidated financial statements or disclosures.
In August 2014, the FASB issued ASU No. 2014-15, Disclosure of Uncertainties About an Entity's Ability to Continue as a Going Concern, (“ASU 2014-15”), which requires management to perform interim and annual assessments on whether there are conditions or events that raise substantial doubt about the entity's ability to continue as a going concern within one year of the date the financial statements are issued and to provide related disclosures, if required. The amendments in ASU 2014-15 are effective for the annual period ending after December 15, 2016, and for annual and interim periods thereafter. Early adoption is permitted. Our adoption of ASU 2014-15 is not expected to have a material effect on our consolidated financial statements or disclosures.
2. Computation of Earnings (Loss) Per Share
Basic and diluted earnings (loss) per share for the years ended December 31, 2014, 2013 and 2012 give effect to the conversion of the Company’s members’ equity into common stock on January 30, 2014 as though the conversion had occurred as of the beginning of the reporting period or the original date of issuance, if later. The number of shares converted was based on the actual IPO price of $11.00 per share.
Because their effect is anti-dilutive, the Company excludes stock options from the calculation of diluted earnings per share when the combined exercise price, unrecognized stock-based compensation and assumed excess tax benefits upon exercise are greater than the average market price for the Company's common stock. As a result, 796,864 stock options were not included in the calculation of diluted earnings per share for the year ended December 31, 2014.
The following table sets forth the components used in the computation of basic and diluted earnings (loss) per share for the years ended December 31, 2014, 2013 and 2012:
3. Contracts and Accounts Receivable
Contracts and accounts receivable consist of the following:
Billed contracts receivable represent amounts billed to clients that have yet to be collected. Unbilled contracts receivable represents the contract revenue recognized but not yet billable pursuant to contract terms or administratively not invoiced. All unbilled receivables as of December 31, 2014 and 2013 are expected to be billed and collected within twelve months. Accounts payable at December 31, 2014 and 2013 includes $11.9 million and $6.1 million, respectively, related to costs incurred under the Company’s fee building contracts.
4. Real Estate Inventories and Capitalized Interest
Real estate inventories are summarized as follows:
All of our deposits and pre-acquisition costs are non-refundable, except for $0 and $50,000 as of December 31, 2014 and 2013, respectively.
Model homes, homes completed, and homes under construction include all costs associated with home construction, including land, development, indirects, permits, materials and labor. Land held and land under development includes costs incurred during site development such as land, development, indirects, and permits.
Interest is capitalized to inventory during development and other qualifying activities. Interest capitalized as cost of inventory is included in cost of sales as related homes are closed. For the years ended December 31, 2014, 2013 and 2012 interest incurred, capitalized and expensed was as follows:
5. Unconsolidated Joint Ventures
As of December 31, 2014 and 2013, the Company had ownership interests in 12 and 11, respectively, unconsolidated joint ventures with ownership percentages that generally range from 5% to 50%. The condensed combined balance sheets for our unconsolidated joint ventures accounted for under the equity method are as follows:
The condensed combined statements of operations for our unconsolidated joint ventures accounted for under the equity method are as follows:
The Company has entered into agreements with its unconsolidated joint ventures to provide management services related to the underlying projects (collectively referred to as the “Management Agreements”). Pursuant to the Management Agreements, the Company receives a management fee based on each project’s revenues from its unconsolidated joint ventures. For the years ended December 31, 2014, 2013 and 2012, the Company earned $9.6 million, $8.3 million, and $2.9 million, respectively, in management fees, which have been recorded as fee building revenues in the accompanying consolidated statements of operations.
6. Other Assets
Other assets consist of the following:
As a result of the conversion from an LLC to a taxable entity in connection with the Company's IPO, the Company recognized a cumulative net deferred tax asset of $1.5 million related to the difference between the financial statement basis and tax basis of the assets and liabilities as of January 30, 2014 (See Note 13).
7. Accrued Expenses and Other Liabilities
Accrued expenses and other liabilities consist of the following:
During the years ended December 31, 2014 and 2013, the Company elected to institute a fully discretionary employee incentive compensation plan to various non-executive employees. As of December 31, 2014 and 2013, the accrual for incentive compensation is $3.1 million and $1.8 million, respectively, of which $1.2 million and $0.5 million was reimbursable by our joint ventures and fee building projects.
Completion reserves relate to liabilities for completed subcontractor work on delivered homes for which invoices have not been remitted as of the balance sheet date.
Changes in our warranty accrual are detailed in the table set forth below:
As a result of an assessment of historical and anticipated rates of warranty costs related to fee building projects, management reduced the reserve by $0.5 million during the year ended December 31, 2012, which has been included in fee building revenue in the accompanying consolidated statements of operations.
8. Notes Payable
Notes payable consisted of the following:
On June 26, 2014, the Company entered into a senior unsecured revolving credit facility (the "Unsecured Facility") with a bank to borrow up to $125.0 million, limited by borrowing base provisions and financial covenants. Any outstanding principal is due upon maturity, which is June 26, 2017, with the potential for a one-year extension of the term of the loan, subject to specified conditions and the payment of an extension fee. The Company may repay advances at any time without premium or penalty. Interest is payable monthly and is charged at a rate of 1-month LIBOR plus a margin ranging from 2.25% to 3.00% depending on the Company’s leverage ratio as calculated at the end of each fiscal quarter. As of December 31, 2014, the availability under the facility was $24.5 million and the interest rate was 2.41%. In connection with the agreement, the Company is required to maintain certain financial covenants, including (i) a minimum tangible net worth, as defined; (ii) leverage ratios, as defined; (iii) a minimum liquidity covenant; (iv) a minimum fixed charge coverage ratio based on EBITDA to interest incurred; and (v) from and after January 1, 2015, a speculative unit limitation. As of December 31, 2014, the Company was in compliance with all financial covenants.
On September 26, 2013, the Company entered into a secured revolving credit facility with a bank to borrow up to $30.0 million. The secured revolving credit facility was repaid in full with proceeds from the Unsecured Facility. Prior to repayment, the secured revolving credit facility bore interest at a rate of 1-month LIBOR plus a margin ranging from 3.25% to 4.25%, depending on leverage ratios.
In March 2014, the Company acquired real estate with a purchase price of $21.5 million. Concurrent with the acquisition, it entered into a $17.0 million note with the land seller, secured by real estate, which bore interest at 1.0% per annum. The note matured on June 30, 2014 and was repaid in full. In 2012, the Company entered into a $9.5 million note with a land seller, secured by real estate, which bears interest at 7.0% per annum. During February 2015, we made a principal reduction payment of $2.5 million and extended the maturity date of the note. The note matures on the earlier of (i) 10 days following entitlement approval, or (ii) February 15, 2016 and requires certain mandatory pay downs totaling $1.0 million based on the occurrence of certain project-related events. Interest is payable monthly and the remaining principal is due at maturity.
In May 2014, the Company entered into two construction loans with a bank related to model and production homes for a specific project. The loans are secured by real estate and bear interest at the bank's prime rate plus 2.0%, or 5.25% at December 31, 2014. The total commitment under the construction loans is $9.5 million. As of December 31, 2014, the Company had $5.7 million available to borrow under the construction loans. The loans mature on November 27, 2016. Interest is payable monthly with all unpaid principal and interest due at maturity. As of December 31, 2013, the Company had one construction loan related to model homes, which was repaid during the first quarter of 2014 and the remaining commitment was closed.
Notes payable have stated maturities as follows for the years ending December 31:
9. Fair Value Disclosures
ASC 820, "Fair Value Measurements and Disclosures," defines fair value as the price that would be received for selling an asset or paid to transfer a liability in an orderly transaction between market participants at measurement date and requires assets and liabilities carried at fair value to be classified and disclosed in the following three categories:
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Level 1 - Quoted prices for identical instruments in active markets
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Level 2 - Quoted prices for similar instruments in active markets; quoted prices for identical or similar instruments in markets that are inactive; and model-derived valuations in which all significant inputs and significant value drivers are observable in active markets at measurement date
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Level 3 - Valuations derived from techniques where one or more significant inputs or significant value drivers are unobservable in active markets at measurement date
Fair Value of Financial Instruments
The accompanying consolidated balance sheets include the following financial instruments: cash and cash equivalents, restricted cash, contracts and accounts receivable, due from affiliates, accounts payable, accrued expenses and other liabilities, and notes payable.
The Company considers the carrying value of cash and cash equivalents, restricted cash, contracts and accounts receivable, accounts payable, and accrued expenses and other liabilities to approximate the fair value of these financial instruments based on the short duration between origination of the instruments and their expected realization. The fair value of amounts due from affiliates is not determinable due to the related party nature of such amounts. As of December 31, 2014 and 2013, the fair value of the Company's notes payable approximated the carrying value. The Company has determined that its notes payable are classified as Level 3 within the fair value hierarchy. Estimated fair values of the outstanding notes payable at December 31, 2014 and 2013 were based on cash flow models discounted at market interest rates that considered underlying risks of the debt.
Non-Recurring Fair Value Adjustments
Nonfinancial assets and liabilities include items such as inventory and long lived assets that are measured at cost when acquired and adjusted for impairment to fair value, if deemed necessary. During the years ended December 31, 2014 and 2013, the Company did not record any fair value adjustments to those nonfinancial assets and liabilities remeasured at fair value on a nonrecurring basis.
10. Commitments and Contingencies
Legal Matters
The Company is a defendant in various lawsuits related to its normal course of business. We are also subject to local, state and federal laws and regulations related to land development activities, house construction standards, sales practices, employment practices and environmental protection. As a result, we are subject to periodic examinations or inquiry by agencies administering these laws and regulations.
We record a reserve for potential legal claims and regulatory matters when they are probable of occurring and a potential loss is reasonably estimable. We accrue for these matters based on facts and circumstances specific to each matter and revise these estimates when necessary.
In view of the inherent difficulty of predicting outcomes of legal claims and related contingencies, we generally cannot predict their ultimate resolution, related timing or eventual loss. If our evaluations indicate loss contingencies that could be material are not probable, but are reasonably possible, we will disclose their nature with an estimate of possible range of losses or a statement that such loss is not reasonably estimable. At December 31, 2014 and 2013, the Company did not have any accruals for asserted or unasserted matters.
As an owner and developer of real estate, the Company is subject to various environmental laws of federal, state and local governments. The Company is not aware of any environmental liability that could have a material adverse effect on its financial condition or results of operations. However, changes in applicable environmental laws and regulations, the uses and conditions of real estate in the vicinity of the Company’s real estate and other environmental conditions of which the Company is unaware with respect to the real estate could result in future environmental liabilities.
Performance Bonds
We obtain surety bonds in the normal course of business to ensure completion of certain infrastructure improvements of our projects. At December 31, 2014 and 2013, the Company had outstanding surety bonds totaling $12.2 million and $2.7 million, respectively. The beneficiaries of the bonds are various municipalities and other organizations. In the unlikely event that any such surety bond issued by a third party is called because the required improvements are not completed, the Company could be obligated to reimburse the issuer of the bond.
Leases
We lease our corporate headquarters in Aliso Viejo, California. The lease on this facility consists of approximately 15,800 square feet and expires in December 2018. In addition, we lease divisional offices in Northern and Southern California, including approximately 6,800 square feet through April 2017 in Roseville, approximately 6,100 square feet through May 2018 in Walnut Creek, and approximately 1,400 square feet through July 2015 in Agoura Hills. As of December 31, 2014, future minimum lease payments under non-cancelable operating lease agreements are as follows:
For the years ended December 31, 2014, 2013 and 2012, rental expense was $0.7 million, $0.5 million and $0.2 million, respectively, and is included in general and administrative expenses.
11. Related Party Transactions
During the years ended December 31, 2014, 2013 and 2012, the Company incurred construction-related costs on behalf of its unconsolidated joint ventures totaling $8.0 million, $5.4 million and $2.2 million, respectively. As of December 31, 2014 and 2013, $1.1 million and $0.3 million, respectively, are included in due from affiliates in the accompanying consolidated balance sheets.
The Company has entered into agreements with its unconsolidated joint ventures to provide management services related to the underlying projects. Pursuant to the Management Agreements, the Company receives a management fee based on each project’s revenues. During the years ended December 31, 2014, 2013 and 2012, the Company earned $9.6 million, $8.3 million, and $2.9 million, respectively, in management fees, which have been recorded as fee building revenue in the accompanying consolidated statements of operations. As of December 31, 2014 and 2013, $1.6 million and $0.2 million, respectively, of management fees are included in due from affiliates in the accompanying consolidated balance sheets.
The Company has entered into loan guaranties on behalf of certain of its unconsolidated joint ventures in order to secure performance under the loans and maintain certain loan-to-value ratios. The Company has also entered into agreements with its partners in each of the unconsolidated joint ventures whereby the Company and the partners are apportioned liability under the guaranties according to their respective capital interest. In addition, the agreements provide the Company, to the extent the partner has an unpaid liability under the guaranties, the right to receive distributions from the unconsolidated joint venture that would otherwise be made to the partner. The loans underlying the guaranties comprise acquisition and development loans, construction revolvers and model loans, and the guaranties remain in force until the loans are satisfied, which is expected to occur over a period between March 2015 and May 2017. Due to the nature of the loans, the outstanding balance at any given time is subject to a number of factors including the status of site improvements, the mix of horizontal and vertical development underway, the timing of phase build outs, and the period necessary to complete the escrow process for homebuyers. With respect to guaranties regarding specific performance, the Company is not generally subject to financial liability, but is only required to complete the project with funds provided by the beneficiary of the guaranty. As of December 31, 2014 and 2013, $61.4 million and $39.1 million, respectively, was outstanding under the loans, of which 12.6% and 11.5%, respectively was guaranteed by the Company. In connection with providing the loan guaranties, the Company recognized $18,927, $113,562 and $85,172 during the years ended December 31, 2014, 2013 and 2012, respectively, as guaranty fee income in the accompanying consolidated statements of operations. As of December 31, 2014 and 2013, $0 and $85,172, respectively, were included in due from affiliates related to guaranty fee income.
Berchtold Capital Partners, an entity owned by Mr. Michael Berchtold, one of the Company's non-employee directors, served as an advisor to the Company, providing general advice and guidance in connection with the Company's IPO, as well as assisting with the selection of the members of the Company's board of directors, the selection of and interacting with the Company's compensation consultant and advising the executives and board of managers regarding governance and compensation matters. The Company paid Berchtold Capital Partners $562,500 for these services, including $500,000 upon completion of our IPO. Amounts paid to Berchtold are included in offering expenses and were offset against the proceeds of our IPO.
As of December 31, 2014, the Company had investments in certain unconsolidated joint ventures totaling $20.4 million. Certain members of the Company's board of directors are affiliated with entities that also had an investment in these joint ventures and are owners of more than 10% of the outstanding common stock of the Company.
TL Fab LP, an affiliate of Mr. Paul Heeschen, one of the Company's non-employee directors, was engaged by the Company and some of its unconsolidated joint ventures as a trade contractor to provide metal fabrication services. The Company and its unconsolidated joint ventures incurred $1.2 million for these services for the year ended December 31, 2014, of which $147,277 was due to TL Fab LP at December 31, 2014. These amounts were capitalized to real estate inventories by the Company and its unconsolidated joint ventures and will be included in cost of home sales at the time of home deliveries.
12. Stock-Based Compensation
On August 18, 2010, the Company granted equity based units to certain members of management valued on the date of grant at $1.9 million with a four year vesting period. Recipients of the equity based units had the right to receive certain distributions, if any, from the Company following return of capital to its equity members. The share based units vested upon completion of the IPO, and the remaining unrecognized compensation expense of $316,667 was recognized during the first quarter of 2014, and is included in general and administrative expense in the accompanying consolidated statement of operations.
The 2014 Long-Term Incentive Plan (“2014 Incentive Plan”), was adopted by our board of directors in January 2014. The 2014 Incentive Plan provides for the grant of equity-based awards, including options to purchase shares of common stock, stock appreciation rights, restricted and unrestricted stock awards, restricted stock units and performance awards. The 2014 Incentive Plan will automatically expire on the tenth anniversary of its effective date. Our board of directors may terminate or amend the 2014 Incentive Plan at any time, subject to any requirement of stockholder approval required by applicable law, rule or regulation and provided that the rights of a holder of an outstanding award may not be impaired without the consent of the holder.
The number of shares of our common stock that may be issued under the 2014 Incentive Plan is 1,644,875 shares. To the extent that shares of the Company's common stock subject to an outstanding option, stock appreciation right, stock award or performance award granted under the 2014 Incentive Plan or any predecessor plan are not issued or delivered by reason of the expiration, termination, cancellation or forfeiture of such award or the settlement of such award in cash, then such shares of common stock generally shall again be available under the 2014 Incentive Plan.
The Company has issued stock option and restricted stock unit awards under the 2014 Incentive Plan. The exercise price of stock-based awards may not be less than the market value of the Company's common stock on the date of grant. The fair value for stock options is established at the date of grant using the Black-Scholes model for time-based vesting awards. The Company's stock option and restricted stock awards typically vest over a one to three year period and expire ten years from the date of grant.
A summary of the Company’s common stock option activity as of and for the year ended December 31, 2014 is presented below:
A summary of the Company’s restricted stock units as of and for the year ended December 31, 2014 is presented below:
The expense related to the Company's stock-based compensation programs, included in general and administrative expense in the accompanying consolidated statements of operations, was as follows:
The following table presents details of the assumptions used to calculate the weighted-average grant date fair value of common stock options granted by the Company:
We used the "simplified method" to establish the expected term of the common stock options granted by the Company. Our restricted stock awards are valued based on the closing price of our common stock on the date of grant. At December 31, 2014, the amount of unearned stock-based compensation currently estimated to be expensed through 2017 related to unvested common stock options and restricted stock units is $3.0 million, net of estimated forfeitures. The weighted-average period over which the unearned stock-based compensation is expected to be recognized is 2.0 years . If there are any modifications or cancellations of the underlying unvested awards, the Company may be required to accelerate, increase or cancel any remaining unearned stock-based compensation expense.
13. Income Taxes
As discussed in Note 1, during 2013 and for the first 30 calendar days of 2014, the Company was a Delaware LLC which was treated as partnership for income tax purposes and was subject to certain minimal taxes and fees; however, income taxes on taxable income or losses realized by the Company were the obligation of the members.
The (provision) benefit for income taxes includes the following:
The effective tax rate differs from the federal statutory rate of 35% due to the following items:
The Company accounts for income taxes in accordance with ASC 740, which requires an asset and liability approach for measuring deferred taxes based on temporary differences between the financial statements and tax bases of assets and liabilities existing at each balance sheet date using enacted tax rates for the years in which taxes are expected to be paid or recovered. The components of our deferred income tax asset are as follows:
Each quarter we assess our deferred tax asset to determine whether all or any portion of the asset is more likely or not unrealizable under ASC 740. We are required to establish a valuation allowance for any portion of the asset we conclude is more likely or not unrealizable. Our assessment considers, among other things, the nature, frequency and severity of prior cumulative losses, forecasts of future taxable income, the duration of statutory carryforward periods, our utilization experience with operating loss and tax credit carryforwards and the planning alternatives, to the extent these items are applicable.
The Company classifies any interest and penalties related to income taxes assessed by jurisdiction as part of income tax expense. The Company has concluded that there were no significant uncertain tax positions requiring recognition in its financial statements, nor has the Company been assessed interest or penalties by any major tax jurisdictions related to any open tax periods.
14. Segment Information
The Company’s operations are organized into two reportable segments: homebuilding and fee building. In accordance with ASC 280, in determining the most appropriate reportable segments, we considered similar economic and other characteristics, including product types, average selling prices, gross profits, production processes, suppliers, subcontractors, regulatory environments, land acquisition results, and underlying demand and supply.
The reportable segments follow the same accounting policies as our consolidated financial statements described in Note 1. Operational results of each reportable segment are not necessarily indicative of the results that would have been achieved had the reportable segment been an independent, stand-alone entity during the periods presented. Financial information relating to reportable segments was as follows:
15. Pro Forma Net Income (Loss) and Earnings (Loss) per Share (Unaudited)
The pro forma amounts reflect the income tax provision as if the Company was a taxable corporation as of the beginning of the period, and assume the Company filed a consolidated tax return for the periods presented. Accordingly, the historical net income from the Company's sole taxable subsidiary would have been offset by losses from other entities, resulting in the elimination of income tax expense recorded for the year ended December 31, 2012.
For the year ended December 31, 2014, the pro forma tax provision assumes the Company's taxable income for the year would have included pre-tax income earned between January 1, 2014 and January 30, 2014, prior to the conversion to a taxable corporation. In addition, a net deferred income tax asset of $1.5 million was recognized as a result of the conversion to a taxable entity during the first quarter of 2014. However, the pro forma results exclude the effect of the conversion adjustment because of its nonrecurring nature.
Basic and diluted earnings per share and pro forma basic and diluted earnings per share give effect to the conversion of the Company's members' equity into common stock on January 30, 2014 as though the conversion had occurred as of the beginning of the reporting period or the original date of issuance, if later. See Note 2.
16. Results of Quarterly Operations (Unaudited)
The following table presents our unaudited quarterly financial data. In our opinion, this information has been prepared on a basis consistent with that of our audited consolidated financial statements and all necessary material adjustments, consisting of normal recurring accruals and adjustments, have been included to present fairly the unaudited quarterly financial data. Our quarterly results of operations for these periods are not necessarily indicative of future results of operations:
(1)
Some amounts do not add to our full year results presented on our consolidated statement of operations due to rounding differences in quarterly and annual weighted average share calculations
Report of Independent Auditors
The Members
LR8 Investors, LLC
We have audited the accompanying consolidated financial statements of LR8 Investors, LLC, which comprise the consolidated balance sheets as of December 31, 2014 and 2013, and the related consolidated statements of operations, members’ capital, and cash flows for each of the three years in the period ended December 31, 2014, and the related notes to the consolidated financial statements.
Management’s Responsibility for the Financial Statements
Management is responsible for the preparation and fair presentation of these financial statements in conformity with U.S. generally accepted accounting principles; this includes the design, implementation, and maintenance of internal control relevant to the preparation and fair presentation of financial statements that are free of material misstatement, whether due to fraud or error.
Auditor’s Responsibility
Our responsibility is to express an opinion on these financial statements based on our audits. We conducted our audits in accordance with auditing standards generally accepted in the United States. Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement.
An audit involves performing procedures to obtain audit evidence about the amounts and disclosures in the financial statements. The procedures selected depend on the auditor’s judgment, including the assessment of the risks of material misstatement of the financial statements, whether due to fraud or error. In making those risk assessments, the auditor considers internal control relevant to the entity’s preparation and fair presentation of the financial statements in order to design audit procedures that are appropriate in the circumstances, but not for the purpose of expressing an opinion on the effectiveness of the entity’s internal control. Accordingly, we express no such opinion. An audit also includes evaluating the appropriateness of accounting policies used and the reasonableness of significant accounting estimates made by management, as well as evaluating the overall presentation of the financial statements.
We believe that the audit evidence we have obtained is sufficient and appropriate to provide a basis for our audit opinion.
Opinion
In our opinion, the financial statements referred to above present fairly, in all material respects, the consolidated financial position of LR8 Investors, LLC at December 31, 2014 and 2013, and the consolidated results of its operations and its cash flows for each of the three years in the period ended December 31, 2014, in conformity with U.S. generally accepted accounting principles.
/s/ Ernst & Young LLP
February 27, 2015
LR8 Investors, LLC
(A Delaware Limited Liability Company)
Notes to Consolidated Financial Statements
December 31, 2014
1. Organization and Summary of Significant Accounting Policies
LR8 Investors, LLC (“Investors”), a Delaware limited liability company, was formed with an effective date of September 22, 2010, for the purpose of acquiring and owning 100% of LR8 Owner, LLC (“Owner”, and together with Investors, the “Company”), a Delaware limited liability company.
Owner was formed with an effective date of September 22, 2010 to acquire approximately 51 acres of land for the development and sale of 169 homes in a community known as Lambert Ranch, located in Irvine, California (the “Project”). As of December 31, 2014, all homes had been sold and closed.
As of December 31, 2014, the members of Investors (individually, the “Member”, and collectively, the “Members”) and their respective percentage interests are as follows:
The New Home Company Southern California LLC (“TNHC”) 5%
MFCI8 LR, LLC (“MFCI8”) 95%
Investors is scheduled to terminate on December 31, 2060, unless sooner terminated by the provisions provided for in the limited liability company agreement (the “Agreement”).
Distributions, income and losses are to be allocated in accordance with the provisions of the Agreement.
The liability of each Member is limited to the amount of capital contributions required to be made by such Member in accordance with the provisions of the Agreement.
Basis of Presentation
The accompanying consolidated financial statements have been prepared in accordance with U.S. generally accepted accounting principles (“GAAP”) as contained within the Financial Accounting Standards Board (“FASB”) Accounting Standards Codification (“ASC”). This basis of accounting contemplates the recovery of the Company’s assets and the satisfaction of its liabilities in the normal course of business.
Principles of Consolidation
The consolidated financial statements include the accounts of LR8 Investors, LLC and its wholly owned and controlled subsidiary. The accounting policies of the subsidiary are substantially the same as those of Investors. All significant intercompany accounts and transactions have been eliminated in consolidation.
Use of Estimates
The preparation of the Company’s consolidated financial statements in conformity with GAAP requires management to make estimates and assumptions that affect the reported amounts of assets, liabilities, revenues and expenses, and the disclosure of commitments and contingencies. Actual results could differ materially from those estimates.
Cash
The Company considers all highly liquid investments that are readily convertible to cash, with original maturity dates of three months or less, to be cash and cash equivalents. Financial instruments that potentially subject the Company to significant concentrations of credit risk consist principally of cash deposited with financial institutions in excess of amounts insured by the Federal Deposit Insurance Corporation. The Company has not experienced any losses related to uninsured cash balances.
Restricted Cash
Restricted cash of $0 and $752,032 as of December 31, 2014 and 2013, respectively, is held in various accounts and serves as additional collateral for certain notes payable.
Real Estate Inventories and Cost of Sales
Real estate inventories are carried at cost. Development costs, including land, land development, direct costs of construction, indirect costs, interest, and property taxes incurred during the development period, are capitalized. Capitalization of development costs ends when the assets are substantially complete and ready for sale.
Costs of home sales are allocated based on specific identifications, or relative sales value, depending on the nature of the costs. Project-specific costs are amortized to cost of sales as homes are closed based upon a method that approximates relative sales value. A provision for warranty costs is included in cost of home sales at the time the sale of a home is recorded. Selling and marketing costs are expensed in the period incurred.
Real estate inventories are stated at cost, unless the carrying amount is determined not to be recoverable, in which case the inventories are written down to fair value in accordance with ASC 360, Property, Plant, and Equipment. ASC 360 requires that real estate assets be tested for impairment whenever events or changes in circumstances indicate that their carrying amounts may not be recoverable.
Impairment of assets is measured by comparing the carrying amount of an asset to the undiscounted future net cash flows expected to be generated by the asset. These evaluations for impairment are significantly impacted by estimates of the amounts and timing of revenues, costs and expenses, and other factors. If real estate assets are considered to be impaired, the impairment to be recognized is measured by the amount by which the carrying value of the assets exceeds the fair value of the assets. Fair value is determined based on estimated future cash flows discounted for inherent risks associated with the real estate assets, or other valuation techniques.
As of December 31, 2014 and 2013, the Company determined that the carrying amounts of its real estate inventories were not impaired based upon undiscounted future cash flow of the underlying Project.
Revenue Recognition
In accordance with ASC 360, revenues from home sales and other real estate sales are recorded and a profit is recognized when the respective units are closed. Home sales and other real estate sales are closed when all conditions of escrow are met, including delivery of the home, title passage, appropriate consideration is received and collection of associated receivables, if any, is reasonably assured. Sales incentives are a reduction of revenues when the respective unit is closed. When it is determined that the earnings process is not complete, the sale and the related profit are deferred for recognition in future periods.
Income Taxes
As a limited liability company, the Company is subject to certain minimal taxes and fees; however, income taxes on income reported by the Company are the obligation of the Members.
The Company applies the provisions of ASC 740, Accounting for Uncertainty in Income Taxes. Based on its evaluation, under ASC 740, the Company has concluded that there are no significant uncertain tax positions requiring recognition in its financial statements, nor has the Company been assessed interest or penalties by any major tax jurisdictions. The Company’s evaluation was performed for the tax years ended December 31, 2014, 2013, and 2012.
2. Real Estate Inventories
Real estate inventories consisted of the following:
Construction in progress consists primarily of construction costs for homes and common area facilities, which are in various stages of development.
The Company incurred, capitalized, and amortized interest costs as follows:
3. Other Assets
Other assets consisted of the following:
4. Accrued Expenses and Other Liabilities
Accrued expenses and other liabilities consisted of the following:
The Company offers warranties on its homes that generally cover various defects in workmanship, materials, or to cover structural construction defects. Estimated future direct warranty costs are accrued and charged to cost of sales in the period when the related homebuilding revenues are recognized. The Company assesses the adequacy of its warranty accrual on a quarterly basis and adjusts the amounts recorded if necessary. The Company’s warranty accrual is included in accrued expenses and other liabilities in the accompanying consolidated balance sheets.Changes in the Company’s warranty liability are as follows:
The completion reserve includes project costs for homes that have closed but for which invoices from vendors have not yet been received. The Company periodically assesses the adequacy of its completion reserve and adjusts the amounts as necessary.
5. Due to Affiliates and Related-Party Transactions
Due to affiliates consisted of the following:
During the years ended December 31, 2014, 2013, and 2012, TNHC incurred construction-related costs on the Company’s behalf of $788,760, $2,284,409 and $1,718,734, respectively. The Company capitalized $598,992, $1,242,817 and $1,070,738 of these amounts to real estate inventories and charged the remaining $189,768, $1,041,592 and $750,090 to selling and marketing expenses incurred from affiliates in the accompanying consolidated statements of operations. As of December 31, 2014 and 2013, $18,795 and $162,009, respectively, is included in due to affiliates in the accompanying consolidated balance sheets.
Pursuant to the Development Management Agreement as referenced in the operating agreement, TNHC shall receive an overhead fee from the Company in an amount equal to 3.0% of the Project’s revenues. This amount will be paid as follows:
0.75% of the projected gross sales revenue of the Project, paid in equal monthly installments beginning with the commencement of grading work, based upon a 23-month period;
0.75% of the projected gross sales revenue of the Project, paid in equal monthly installments beginning with the commencement of construction of the model homes, based upon a 28-month period;
0.75% of the gross sales revenue from each home sold, payable upon the close of escrow;
0.75% of the gross sales revenue from each home sold, payable upon each Member having reached a 15% IRR on its capital contributions.
During the years ended December 31, 2014, 2013, and 2012, TNHC earned $229,321, $3,791,914 and $2,468,337, respectively, in overhead fees, which have been recorded by the Company as overhead fees to affiliates in the accompanying consolidated statements of operations. As of December 31, 2014 and 2013, $0 and $28,530, respectively, was due to TNHC for such fees and has been included in due to affiliates in the accompanying consolidated balance sheets.
During the years ended December 31, 2014, 2013, and 2012, the Company incurred $120,000 in project coordination fees due to an affiliate of MFCI8. The Company has capitalized these amounts to real estate inventories. As of December 31, 2014 and 2013, no amounts were due to this affiliate.
During the years ended December 31, 2014, 2013, and 2012, the Company incurred $18,927, $113,562 and $85,172, respectively, for certain loan guaranties provided to the Company by TNHC, which were recorded by the Company as guaranty fees to affiliates in the accompanying consolidated statements of operations. As of December 31, 2014 and 2013, $0 and $85,172, respectively, was due to TNHC.
6. Notes Payable
The Company had notes payable secured by real estate outstanding as follows:
The Company repaid all outstanding principal and interest due on the note payable as of March 31, 2014.
7. Commitments and Contingencies
The Company’s commitments and contingencies include the usual obligations and litigation incurred by real estate developers in the normal course of business. In the opinion of management, there are no material loss contingencies.
The Company obtains performance bonds in the normal course of business to ensure completion of the infrastructure of the Project. As of December 31, 2014 and 2013, the Company had $1,670,694 and $5,697,236, respectively, in performance bonds outstanding with various cities, governmental entities, and others, for which the Company had disbursed $180,113 and $588,928, respectively, in cash collateral to third parties.
8. Subsequent Events
The Company has evaluated subsequent events through February 27, 2015, the date the consolidated financial statements were available for issuance.
Report of Independent Auditors
The Members
Larkspur Land 8 Investors, LLC
We have audited the accompanying consolidated financial statements of Larkspur Land 8 Investors, LLC, which comprise the consolidated balance sheets as of December 31, 2014 and 2013, and the related consolidated statements of operations, members’ capital, and cash flows for each of the three years in the period ended December 31, 2014, and the related notes to the consolidated financial statements.
Management’s Responsibility for the Financial Statements
Management is responsible for the preparation and fair presentation of these financial statements in conformity with U.S. generally accepted accounting principles; this includes the design, implementation, and maintenance of internal control relevant to the preparation and fair presentation of financial statements that are free of material misstatement, whether due to fraud or error.
Auditor’s Responsibility
Our responsibility is to express an opinion on these financial statements based on our audits. We conducted our audits in accordance with auditing standards generally accepted in the United States. Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement.
An audit involves performing procedures to obtain audit evidence about the amounts and disclosures in the financial statements. The procedures selected depend on the auditor’s judgment, including the assessment of the risks of material misstatement of the financial statements, whether due to fraud or error. In making those risk assessments, the auditor considers internal control relevant to the entity’s preparation and fair presentation of the financial statements in order to design audit procedures that are appropriate in the circumstances, but not for the purpose of expressing an opinion on the effectiveness of the entity’s internal control. Accordingly, we express no such opinion. An audit also includes evaluating the appropriateness of accounting policies used and the reasonableness of significant accounting estimates made by management, as well as evaluating the overall presentation of the financial statements.
We believe that the audit evidence we have obtained is sufficient and appropriate to provide a basis for our audit opinion.
Opinion
In our opinion, the financial statements referred to above present fairly, in all material respects, the consolidated financial position of Larkspur Land 8 Investors, LLC at December 31, 2014 and 2013, and the consolidated results of its operations and its cash flows for each of the three years in the period ended December 31, 2014, in conformity with U.S. generally accepted accounting principles.
/s/ Ernst & Young LLP
February 27, 2015
Larkspur Land 8 Investors, LLC
(A Delaware Limited Liability Company)
Notes to Consolidated Financial Statements
December 31, 2014
1. Organization and Summary of Significant Accounting Policies
Larkspur Land 8 Investors, LLC (“Investors”), a Delaware limited liability company, was formed on June 23, 2011, for the purpose of acquiring and owning 100% of Larkspur Land 8 Owner, LLC (“Owner”, and together with Investors, the “Company”), a Delaware limited liability company.
Owner was formed on June 23, 2011 to acquire approximately 17 acres of land for the development and sale of 85 homes in a community known as Rose Lane, located in Larkspur, California (the “Project”).
As of December 31, 2014, the members of Investors (individually, the “Member”, and collectively, the “Members”) and their respective percentage interests are as follows:
Investors will terminate on December 31, 2061, unless sooner terminated pursuant to the provisions of the limited liability company agreement (the “Agreement”).
Distributions, income and losses are to be allocated in accordance with the provisions of the Agreement.
The liability of each Member is limited to the amount of capital contributions required to be made by such Member in accordance with the provisions of the Agreement.
Basis of Presentation
The accompanying consolidated financial statements have been prepared in accordance with U.S. generally accepted accounting principles (“GAAP”) as contained within the Financial Accounting Standards Board (“FASB”) Accounting Standards Codification (“ASC”). This basis of accounting contemplates the recovery of the Company’s assets and the satisfaction of its liabilities in the normal course of business.
Principles of Consolidation
The consolidated financial statements include the accounts of Larskpur Land 8 Investors, LLC and its wholly owned and controlled subsidiary. The accounting policies of the subsidiary are substantially the same as those of Investors. All significant intercompany accounts and transactions have been eliminated in consolidation.
Use of Estimates
The preparation of the Company’s consolidated financial statements in conformity with GAAP requires management to make estimates and assumptions that affect the reported amounts of assets, liabilities, revenues and expenses, and the disclosure of commitments and contingencies. Actual results could differ materially from those estimates.
Cash
The Company considers all highly-liquid investments that are readily convertible to cash, with original maturity dates of three months or less, to be cash and cash equivalents. Financial instruments that potentially subject the Company to significant concentrations of credit risk consist principally of cash deposited with financial institutions in excess of amounts insured by the Federal Deposit Insurance Corporation. The Company has not experienced any losses related to uninsured cash balances.
Restricted Cash
As of December 31, 2014 and 2013, restricted cash of $4,251,585 and $1,660,075, respectively, is held in a separate account and serves as additional collateral for certain notes payable.
Real Estate Inventories and Cost of Sales
Real estate inventories are carried at cost. Development costs, including land, land development, direct costs of construction, indirect costs, interest and property taxes incurred during the development period, are capitalized. Capitalization of development costs ends when the assets are substantially complete and ready for sale.
Costs of home sales are allocated based on specific identification, or relative sales value, depending on the nature of the costs. Project specific costs are amortized to cost of sales as homes are closed based upon a method that approximates relative sales value. A provision for warranty costs is included in cost of homes sold at the time the sale of a home is recorded. Selling and marketing costs are expensed in the period incurred.
Real estate inventories are stated at cost, unless the carrying amount is determined not to be recoverable, in which case the inventories are written down to fair value in accordance with ASC 360, Property, Plant and Equipment. ASC 360 requires that real estate assets be tested for impairment whenever events or changes in circumstances indicate that their carrying amounts may not be recoverable.
Impairment of assets is measured by comparing the carrying amount of an asset to the undiscounted future net cash flows expected to be generated by the asset. These evaluations for impairment are significantly impacted by estimates of the amounts and timing of revenues, costs and expenses, and other factors. If real estate assets are considered to be impaired, the impairment to be recognized is measured by the amount by which the carrying value of the assets exceeds the fair value of the assets. Fair value is determined based on estimated future cash flows discounted for inherent risks associated with the real estate assets, or other valuation techniques.
As of December 31, 2014 and 2013, the Company determined that the carrying amounts of its real estate inventories were not impaired based upon undiscounted future cash flows of the underlying Project.
Revenue Recognition
In accordance with ASC 360, revenues from home sales and other real estate sales are recorded and a profit is recognized when the respective units are closed. Home sales and other real estate sales are closed when all conditions of escrow are met, including delivery of the home, title passage, appropriate consideration is received and collection of associated receivables, if any, is reasonably assured. Sales incentives are a reduction of revenues when the respective unit is closed. When it is determined that the earnings process is not complete, the sale and the related profit are deferred for recognition in future periods.
Income Taxes
As a limited liability company, the Company is subject to certain minimal taxes and fees; however, income taxes on income reported by the Company are the obligation of the Members.
The Company applies the provisions of ASC 740, Accounting for Uncertainty in Income Taxes. Based on its evaluation, under ASC 740, the Company has concluded that there are no significant uncertain tax positions requiring recognition in its financial statements, nor has the Company been assessed interest or penalties by any major tax jurisdictions. The Company’s evaluation was performed for the tax years ended December 31, 2014, 2013, and 2012.
2. Real Estate Inventories
Real estate inventories consisted of the following:
Construction in progress consists primarily of construction costs for homes and common area facilities, which are in various stages of development.
The Company incurred, capitalized and amortized interest costs as follows:
3. Other Assets
Other assets consisted of the following:
Receivables are amounts related to overpayments made to and due from trade partners during the year ended December 31, 2014.
4. Accrued Expenses and Other Liabilities
Accrued expenses and other liabilities consisted of the following:
The Company offers warranties on its homes that generally cover various defects in workmanship or materials or to cover structural construction defects. Estimated future direct warranty costs are accrued and charged to cost of sales in the period when the related homebuilding revenues are recognized. The Company assesses the adequacy of its warranty reserve on a quarterly basis and adjusts the amounts recorded if necessary. The Company’s warranty reserve is included in accrued expenses and other liabilities on the accompanying consolidated balance sheets.
Changes in the Company’s warranty reserve are as follows:
The completion reserve includes project costs for homes that have closed but for which invoices from vendors have not yet been received. The Company periodically assesses the adequacy of its completion reserve and adjusts the amounts as necessary.
5. Due to Affiliates and Related-Party Transactions
Due to affiliates consisted of the following:
During the years ended December 31, 2014, 2013, and 2012, TNHC incurred construction-related costs on the Company’s behalf of $1,820,028, $711,671 and $298,468, respectively. The Company has capitalized $888,078, $605,191 and $298,468 of these amounts to real estate inventories and charged the remaining $931,950, $106,480 and $0 to selling and marketing expenses incurred from affiliates in the accompanying consolidated statements of operations. As of December 31, 2014 and 2013, $151,948 and $1,136, respectively, is included in due to affiliates in the accompanying consolidated balance sheets.
Pursuant to the Development Management Agreement as referenced in the operating agreement, TNHC shall receive an overhead fee from the Company in an amount equal to 3.0% of the Project revenues. This amount will be paid as follows:
1)
1.0% of the projected gross sales revenue of the Project, paid in equal monthly installments beginning with the commencement of grading work, based upon a 25-month period;
2)
1.0% of the projected gross sales revenue of the Project, paid in equal monthly installments beginning with the commencement of the construction of the model homes, based upon a 27-month period;
3)
1.0% of the gross sales revenue from each home sold, payable upon each Member having reached a 15% IRR on its capital contributions.
During the years ended December 31, 2014, 2013, and 2012, the Company incurred $601,344, $931,774 and $516,643, respectively in overhead fees payable to TNHC, which have been recorded by the Company as overhead fees to affiliates in the accompanying consolidated statements of operations. As of December 31, 2014 and 2013, $102,344 and $0, respectively, was due to TNHC for such fees and has been reflected in due to affiliates in the accompanying consolidated balance sheets.
The Company is provided certain loan guaranties by the Members on its construction note payable in order to secure performance under the loan and maintain certain loan-to-value ratios. Each of the Members is apportioned liability under the guaranties according to their respective percentage interest. As of December 31, 2014 and 2013, $11,340,718 and $11,761,791, respectively, was outstanding under the loan.
During the years ended December 31, 2014, 2013, and 2012, the Company incurred $120,000 in project coordination fees due to an affiliate of MFCI8. The Company has capitalized these amounts to real estate inventories. At December 31, 2014 and 2013, no amounts were due to this affiliate.
6. Notes Payable
The Company had notes payable secured by real estate outstanding as follows:
7. Commitments and Contingencies
The Company’s commitments and contingencies include the usual obligations incurred by real estate developers in the normal course of business. In the opinion of management, there are no material loss contingencies.
The Company obtains performance bonds in the normal course of business to ensure completion of the infrastructure of the Project. As of December 31, 2014 and 2013, the Company had $19,823,991 and $6,644,864, respectively, in performance bonds outstanding with various cities, governmental entities, and others, for which the Company had disbursed $1,285,009 and $716,025, respectively, in cash collateral to third parties.
8. Subsequent Events
The Company has evaluated subsequent events through February 27, 2015, the date the financial statements were available for issuance.
Report of Independent Auditors
The Members
TNHC Newport LLC
We have audited the accompanying financial statements of TNHC Newport LLC, which comprise the balance sheets as of December 31, 2014 and 2013, and the related statements of operations, members’ capital, and cash flows for the year ended December 31, 2014, and the period from March 1, 2013 (inception) to December 31, 2013, and the related notes to the financial statements.
Management’s Responsibility for the Financial Statements
Management is responsible for the preparation and fair presentation of these financial statements in conformity with U.S. generally accepted accounting principles; this includes the design, implementation, and maintenance of internal control relevant to the preparation and fair presentation of financial statements that are free of material misstatement, whether due to fraud or error.
Auditor’s Responsibility
Our responsibility is to express an opinion on these financial statements based on our audits. We conducted our audits in accordance with auditing standards generally accepted in the United States. Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement.
An audit involves performing procedures to obtain audit evidence about the amounts and disclosures in the financial statements. The procedures selected depend on the auditor’s judgment, including the assessment of the risks of material misstatement of the financial statements, whether due to fraud or error. In making those risk assessments, the auditor considers internal control relevant to the entity’s preparation and fair presentation of the financial statements in order to design audit procedures that are appropriate in the circumstances, but not for the purpose of expressing an opinion on the effectiveness of the entity’s internal control. Accordingly, we express no such opinion. An audit also includes evaluating the appropriateness of accounting policies used and the reasonableness of significant accounting estimates made by management, as well as evaluating the overall presentation of the financial statements.
We believe that the audit evidence we have obtained is sufficient and appropriate to provide a basis for our audit opinion.
Opinion
In our opinion, the financial statements referred to above present fairly, in all material respects, the financial position of TNHC Newport LLC at December 31, 2014 and 2013, and the results of its operations and its cash flows for the year ended December 31, 2014, and the period from March 1, 2013 (inception) to December 31, 2013, in conformity with U.S. generally accepted accounting principles.
/s/ Ernst & Young LLP
February 13, 2015
TNHC Newport LLC
(A Delaware Limited Liability Company)
Notes to Financial Statements
December 31, 2014
1. Organization and Summary of Significant Accounting Policies
TNHC Newport LLC, a Delaware limited liability company (the “Company”), was formed with an effective date of March 1, 2013. The Company was capitalized through cash and asset contributions by TNHC Meridian Investors LLC (“TNHC”) and NB Residences, LLC (“NB Residences”) (collectively, “the Members”). On April 1, 2013, the Company purchased 4.25 acres of land located in Newport Beach, California, for the development and sale of 79 homes in a community known as Meridian (“the Project”).
Subject to the operating agreement, distributions of net cash flow to the Members shall be in the following order of priority:
1)
To the Members in proportion to their respective accrued and unpaid First Priority Preference Amount, as defined; then
2)
To the Members in proportion to their respective Undistributed First Priority Capital Amount, as defined; then
3)
To the Members in proportion to their respective accrued and unpaid Second Priority Preference Amount, as defined; then
4)
To the Members in proportion to their respective Undistributed Second Priority Capital Amount, as defined; then
5)
To the Members in proportion to their respective Percentage Interests, as defined (TNHC 50% and NB Residences 50%).
Upon the formation of the Company, TNHC received a distribution of $4,618,808 from the Company in order to bring contribution percentages of each Member in line with the operating agreement, which was 35% for TNHC and 65% for NB Residences. During 2014, the Members amended the operating agreement to allow NB Residences to make a contribution of $4,500,000 without the requirement for TNHC to make a corresponding contribution. This contribution was designated as an increase to NB Residences Undistributed Second Priority Capital.
Subject to the operating agreement, income and loss are allocated to the Members generally in the same manner as distributions of net cash flow.
Pursuant to the operating agreement, the preferred return on First Priority Capital, as defined, for both Members is 20% per annum, compounded monthly. No First Priority Capital contributions have been made through December 31, 2014. The preferred return on Second Priority Capital, as defined, for both Members is 12% per annum, compounded monthly. As the payment for the preferred return is not guaranteed, it is not currently accrued on the financial statements.
The following is a summary of the preferred returns for the Members as of December 31, 2014:
Basis of Presentation
The accompanying financial statements have been prepared in accordance with U.S. generally accepted accounting principles (“GAAP”) as contained within the Financial Accounting Standards Board (“FASB”) Accounting Standards Codification (“ASC”). This basis of accounting contemplates the recovery of the Company’s assets and the satisfaction of its liabilities in the normal course of business. Management believes the Company has sufficient cash and access to capital to fund its operations.
Use of Estimates
The preparation of the Company’s financial statements in conformity with GAAP requires management to make estimates and assumptions that affect the reported amounts of assets, liabilities, revenues and expenses, and the disclosure of commitments and contingencies. Actual results could differ materially from those estimates.
Cash
The Company considers all highly liquid investments that are readily convertible to cash, with original maturity dates of three months or less, to be cash and cash equivalents. Financial instruments that potentially subject the Company to significant concentrations of credit risk consist principally of cash deposited with financial institutions in excess of amounts insured by the Federal Deposit Insurance Corporation. The Company has not experienced any losses related to uninsured cash balances.
Restricted Cash
Restricted cash of $500,000 as of December 31, 2014 and 2013, is held in a single account and serves as collateral for a letter of credit for certain performance bonds.
Real Estate Inventories and Cost of Sales
Real estate inventories are carried at cost. Development costs, including land, land development, direct costs of construction, indirect costs, interest, and property taxes incurred during the development period, are capitalized. Capitalization of development costs ends when the assets are substantially complete and ready for sale.
Costs of home sales are allocated based on specific identification or relative sales value, depending on the nature of the costs. Project-specific costs are amortized to cost of sales as homes are closed based upon a
method that approximates relative sales value. A provision for warranty costs is included in cost of homes sold at the time the sale of a home is recorded. Selling and marketing costs are expensed in the period incurred.
Real estate inventories are stated at cost, unless the carrying amount is determined not to be recoverable, in which case the inventories are written down to fair value in accordance with ASC 360, Property, Plant and Equipment. ASC 360 requires that real estate assets be tested for impairment whenever events or changes in circumstances indicate that their carrying amounts may not be recoverable.
Impairment of assets is measured by comparing the carrying amount of an asset to the undiscounted future net cash flows expected to be generated by the asset. These evaluations for impairment are significantly impacted by estimates of the amounts and timing of revenues, costs and expenses, and other factors. If real estate assets are considered to be impaired, the impairment to be recognized is measured by the amount by which the carrying value of the assets exceeds the fair value of the assets. Fair value is determined based on estimated future cash flows discounted for inherent risks associated with the real estate assets, or other valuation techniques.
As of December 31, 2014 and 2013, the Company determined that the carrying amounts of its real estate inventories were not impaired based upon undiscounted future cash flow of the underlying Project.
Revenue Recognition
In accordance with ASC 360, revenues from home sales and other real estate sales are recorded and a profit is recognized when the respective units are closed. Home sales and other real estate sales are closed when all conditions of escrow are met, including delivery of the home, title passage, appropriate consideration is received and collection of associated receivables, if any, is reasonably assured. Sales incentives are a reduction of revenues when the respective unit is closed. When it is determined that the earnings process is not complete, the sale and related profit are deferred for recognition in future periods.
Income Taxes
As a limited liability company, the Company is subject to certain minimal taxes and fees; however, income taxes on income reported by the Company are the obligation of the Members.
The Company applies the provisions of ASC 740, Accounting for Uncertainty in Income Taxes. Based on its evaluation, under ASC 740, the Company has concluded that there are no significant uncertain tax positions requiring recognition in its financial statements, nor has the Company been assessed interest or penalties by any major tax jurisdictions. The Company’s evaluation was performed for the tax years ended December 31, 2014 and 2013.
2. Real Estate Inventories
Real estate inventories consisted of the following:
Construction in progress consists primarily of construction costs for homes and common area facilities, which are in various stages of development.
The Company incurred, capitalized and amortized interest costs as follows:
3. Accrued Expenses and Other Liabilities
Accrued expenses and other liabilities consisted of the following:
The Company offers warranties on its homes that generally cover various defects in workmanship, materials, or to cover structural construction defects. Estimated future direct warranty costs are accrued and charged to cost of sales in the period when the related homebuilding revenues are recognized. The Company assesses the adequacy of its warranty accrual on a quarterly basis and adjusts the amounts recorded if necessary. The Company’s warranty accrual is included in accrued expenses and other liabilities in the accompanying balance sheets.
Changes in the Company’s warranty liability are as follows:
The completion reserve includes project costs for homes that have closed but for which invoices from vendors have not yet been received. The Company periodically assesses the adequacy of its completion reserve and adjusts the amounts as necessary.
4. Due to Affiliates and Related Party Transactions
Amounts due to affiliates consisted of the following:
During the year ended December 31, 2014, and the period from March 1, 2013 (inception) to December 31, 2013, TNHC incurred construction-related costs on the Company’s behalf totaling $1,274,951 and $281,535, respectively. The Company capitalized $543,376 and $280,917 of these amounts to real estate inventories for the year ended December 31, 2014, and the period from March 1, 2013 (inception) to December 31, 2013, respectively, and charged the remaining $731,575 and $21,618, respectively, to selling and marketing expenses incurred from affiliates in the accompanying statements of operations. As of December 31, 2014 and 2013, $166,874 and $16,615, respectively, was due to TNHC and is reflected in the accompanying balance sheets as due to affiliates.
Pursuant to the operating agreement, TNHC and NB Residences shall receive an overhead fee from the Company in an amount equal to 3.0% and 1.0%, respectively, of the Project revenues. This amount will be paid as follows:
1)
1.5% of the projected gross sales revenue of the Project to TNHC and 0.5% of the projected gross sales revenue of the Project to NB Residences, paid in equal monthly installments on or about the first day of each month over the projected life of the project, beginning April 1, 2013.
2)
1.5% of the projected gross sales revenue from each home sold to TNHC and 0.5% of the projected gross sales revenue from each home sold to NB Residences, payable upon the first day of the month following close of escrow.
During the year ended December 31, 2014, and the period from March 1, 2013 (inception) to December 31, 2013, TNHC earned $1,248,000 and $936,000, respectively, and NB Residences earned $415,800 and
$311,850, respectively, in monthly management fees, which have been recorded by the Company as overhead fees to affiliates in the accompanying statements of operations. During the year ended December 31, 2014, and the period from March 1, 2013 (inception) to December 31, 2013, TNHC earned $902,378 and $0, respectively, and NB Residences earned $300,793 and $0, respectively, in overhead fees earned from homes sold, which have also been recorded by the Company as overhead fees to affiliates in the accompanying statements of operations. As of December 31, 2014 and 2013, no amounts were outstanding for such fees.
TNHC provides certain loan guaranties related to the Company’s construction note payable (Note 5). In the event that these guaranties are called upon, they would be considered a cost of the Company and would be allocated appropriately to the Members in accordance with the operating agreement.
5. Notes Payable
The Company had notes payable outstanding as follows:
During the year ended December 31, 2014, the Company repaid, in full, all outstanding principal and interest associated with the initial construction note payable. The note bore interest at a rate of 8% and was repaid on June 27, 2014.
The Company has an additional construction note payable with a total commitment of $105,000,000, which is secured by the underlying project real estate inventories. The note matures in June 2016 and bears interest at a base prime rate with options at one-month LIBOR plus 3.25% (combined rate of 3.4% at December 31, 2014). As of December 31, 2014, $45,155,457 was available to be drawn under the note.
The Company has an unsecured note payable to a Member with a total commitment of $6,500,000. The note matures in September 2016 and bears interest at a rate of one-month LIBOR plus 3.25% (3.4% at December 31, 2014). As of December 31, 2014, $0 was available to be drawn under the note.
Notes payable have stated maturities as follows for the years ending December 31:
As of December 31, 2014, the Company had accrued interest of $2,050 related to the note payable to Member, which has been reflected in due to affiliates in the accompanying balance sheets. As of December 31, 2013, the Company had accrued interest of $12,251 related to the construction note, which has been reflected in accrued interest in the accompanying balance sheets.
6. Commitments and Contingencies
The Company’s commitments and contingencies include the usual obligations and litigation incurred by real estate developers in the normal course of business. In the opinion of management, there are no material loss contingencies.
The Company obtains performance bonds in the normal course of business to ensure completion of the infrastructure of the Project. As of December 31, 2014 and 2013, the Company had $4,933,386 and $3,000,000, respectively, in performance bonds outstanding with the city of Newport Beach, governmental entities, and others.
7. Subsequent Events
The Company has evaluated subsequent events through February 13, 2015, the date the financial statements were available for issuance.
Report of Independent Auditors
The Members
TNHC Meridian Investors LLC
We have audited the accompanying financial statements of TNHC Meridian Investors LLC, which comprise the balance sheets as of December 31, 2014 and 2013, and the related statements of operations, members’ capital, and cash flows for the year ended December 31, 2014, and the period from August 20, 2013 (inception) to December 31, 2013, and the related notes to the financial statements.
Management’s Responsibility for the Financial Statements
Management is responsible for the preparation and fair presentation of these financial statements in conformity with U.S. generally accepted accounting principles; this includes the design, implementation, and maintenance of internal control relevant to the preparation and fair presentation of financial statements that are free of material misstatement, whether due to fraud or error.
Auditor’s Responsibility
Our responsibility is to express an opinion on these financial statements based on our audits. We conducted our audits in accordance with auditing standards generally accepted in the United States. Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement.
An audit involves performing procedures to obtain audit evidence about the amounts and disclosures in the financial statements. The procedures selected depend on the auditor’s judgment, including the assessment of the risks of material misstatement of the financial statements, whether due to fraud or error. In making those risk assessments, the auditor considers internal control relevant to the entity’s preparation and fair presentation of the financial statements in order to design audit procedures that are appropriate in the circumstances, but not for the purpose of expressing an opinion on the effectiveness of the entity’s internal control. Accordingly, we express no such opinion. An audit also includes evaluating the appropriateness of accounting policies used and the reasonableness of significant accounting estimates made by management, as well as evaluating the overall presentation of the financial statements.
We believe that the audit evidence we have obtained is sufficient and appropriate to provide a basis for our audit opinion.
Opinion
In our opinion, the financial statements referred to above present fairly, in all material respects, the financial position of TNHC Meridian Investors LLC at December 31, 2014 and 2013, and the results of its operations and its cash flows for the year ended December 31, 2014, and the period from August 20, 2013 (inception) to December 31, 2013, in conformity with U.S. generally accepted accounting principles.
/s/ Ernst & Young LLP
March 5, 2015
TNHC Meridian Investors LLC
(A Delaware Limited Liability Company)
Notes to Financial Statements
December 31, 2014
1. Organization and Summary of Significant Accounting Policies
TNHC Meridian Investors LLC, a Delaware limited liability company (the “Company”), was formed with an effective date of February 20, 2013. The Company was initially capitalized through cash and asset contributions by The New Home Company Southern California LLC (“TNHC”). Effective August 20, 2013, TNHC Meridian Investors LLC amended and restated its limited liability agreement and concurrently admitted IHP Meridian LLC (“IHP”) as a member (TNHC and IHP, collectively, are referred to herein as the “Members”). The Company holds an interest in one unconsolidated joint venture, TNHC Newport LLC (the “Unconsolidated Joint Venture”).
Subject to the operating agreement, distributions of net cash flow to the Members shall be in the following order of priority:
1)
To the Members in proportion and up to the difference between their respective aggregate Special Preferred Return, as defined, and the aggregate amounts distributed previously; then
2)
To the Members in proportion to their respective Unreturned Special Capital Contributions, as defined; then
3)
To the Members in proportion and up to the difference between their respective aggregate Preferred Return, as defined, and the aggregate amounts distributed previously; then
4)
If there is a Controllable Cost Overrun, as defined, and a Profit Shortfall, as defined, an amount equal to 50% of the lesser of such Controllable Cost Overrun or such Profit Shortfall shall be distributed to the Members in the following proportion: 75% to IHP and 25% to TNHC; then
5)
To the Members in proportion and up to each Member’s Unreturned Capital Contribution, as defined; then
6)
To the Members in proportion to their respective Percentage Interests, as defined (TNHC 50% and IHP 50%).
Subject to the operating agreement, income and losses are allocated to the Members generally in the same manner as distributions of net cash flow.
Pursuant to the operating agreement, the Special Preferred Return on Unreturned Special Capital Contributions, as defined, for both Members is 20% per annum, compounded monthly. The preferred return on Unreturned Capital Contributions for both Members is 12% per annum, compounded monthly. As the payment for the preferred returns is not guaranteed, it is not currently accrued on the financial statements.
The following is a summary of the preferred returns for the Members as of December 31, 2014:
Basis of Presentation
The accompanying financial statements have been prepared in accordance with U.S. generally accepted accounting principles (“GAAP”) as contained within the Financial Accounting Standards Board (“FASB”) Accounting Standards Codification (“ASC”). This basis of accounting contemplates the recovery of the Company’s assets and the satisfaction of its liabilities in the normal course of business. Management believes the Company has sufficient cash and access to capital to fund its operations.
Use of Estimates
The preparation of the Company’s financial statements in conformity with GAAP requires management to make estimates and assumptions that affect the reported amounts of assets, liabilities, revenues and expenses, and the disclosure of commitments and contingencies. Actual results could differ materially from those estimates.
Cash
The Company considers all highly-liquid investments that are readily convertible to cash, with original maturity dates of three months or less, to be cash and cash equivalents. Financial instruments that potentially subject the Company to significant concentrations of credit risk consist principally of cash deposited with financial institutions in excess of amounts insured by the Federal Deposit Insurance Corporation. The Company has not experienced any losses related to uninsured cash balances.
Variable Interest Entities
The Company accounts for variable interest entities in accordance with ASC 810, Consolidation. Under ASC 810, a variable interest entity (“VIE”) is created when: (a) the equity investment at risk in the entity is not sufficient to permit the entity to finance its activities without additional subordinated financial support provided by other parties, including the equity holders; (b) the entity’s equity holders as a group either (i) lack the direct or indirect ability to make decisions about the entity, (ii) are not obligated to absorb expected losses of the entity or (iii) do not have the right to receive expected residual returns of the entity; or (c) the entity’s equity holders have voting rights that are not proportionate to their economic interests, and the activities of the entity involve or are conducted on behalf of the equity holder with disproportionately few voting rights. If an entity is deemed to be a VIE pursuant to ASC 810, the enterprise that has both (i) the power to direct the activities of a VIE that most significantly impact the entity’s economic performance and (ii) the obligation to absorb the expected losses of the entity or right to receive benefits from the entity that could be potentially significant to the VIE is considered the primary beneficiary and must consolidate the VIE.
As of December 31, 2014 and 2013, the Company was not required to consolidate any VIEs. In accordance with ASC 810, the Company performs ongoing reassessments of whether it is the primary beneficiary of a VIE.
The Company first analyzes the Unconsolidated Joint Venture to determine if it is a variable interest entity under the provisions of ASC 810 (as discussed above) when determining whether the entity should be consolidated.
Investment in Unconsolidated Joint Venture
If the Company concludes that the Unconsolidated Joint Venture is not a variable interest entity, then, in accordance with the provisions of ASC 810, limited partnerships or similar entities must be further evaluated under the presumption that the general partner, or the managing member in the case of a limited liability company, is deemed to have a controlling interest and therefore must consolidate the entity unless the limited partners or non-managing members have: (1) the ability, either by a single limited partner or through a simple majority vote, to dissolve or liquidate the entity, or kick-out the managing member/general partner without cause, or (2) substantive participatory rights that are exercised in the ordinary course of business. Under the provisions of ASC 810, the Company may be required to consolidate certain investments in which it holds a general partner or managing member interest.
As of December 31, 2014 and 2013, the Company concluded that the Unconsolidated Joint Venture was not a variable interest entity and accounted for this entity under the equity method of accounting. Under the Unconsolidated Joint Venture operating agreement, future capital contributions are determined based on the operating budgets and needs of the Unconsolidated Joint Venture, which will likely vary throughout the life of the Unconsolidated Joint Venture based on the circumstances unique to the Unconsolidated Joint Venture.
As of December 31, 2014, the Company had an ownership interest in one unconsolidated joint venture, with an ownership percentage of 32%. Investment in the Unconsolidated Joint Venture is accounted for under the equity method of accounting. Under the equity method, the Company recognizes its proportionate share of earnings and losses generated by the Unconsolidated Joint Venture upon the delivery of lots or homes to third parties. The Company’s proportionate share of profits and losses are eliminated until the related asset has been sold by the Unconsolidated Joint Venture to third parties.
The Company reviews the real estate inventory held by the Unconsolidated Joint Venture for impairments whenever events or changes in circumstances indicate that carrying amounts may not be recoverable. The Company also reviews its investment in the Unconsolidated Joint Venture for evidence of other-than-temporary declines in value.
To the extent the Company deems any portion of its investment in the Unconsolidated Joint Venture as not recoverable, the Company impairs its investment accordingly. As of December 31, 2014 and 2013, the Company determined that no portion of its investment in the Unconsolidated Joint Venture was impaired.
The balance sheets for the Unconsolidated Joint Venture are as follows:
During the period from March 1, 2013 to August 20, 2013, TNHC recognized $242,637 in losses related to the Unconsolidated Joint Venture prior to the admittance of IHP as a member in the Company. This amount is reflected as a difference between the Company’s equity in the Unconsolidated Joint Venture and the Company’s investment in the Unconsolidated Joint Venture as shown in the accompanying balance sheets.
The condensed statements of operations for the Unconsolidated Joint Venture are as follows:
Income Taxes
As a limited liability company, the Company is subject to certain minimal taxes and fees; however, income taxes on income reported by the Company are the obligation of the Members.
The Company applies the provisions of ASC 740, Accounting for Uncertainty in Income Taxes. Based on its evaluation, under ASC 740, the Company has concluded that there are no significant uncertain tax positions requiring recognition in its financial statements, nor has the Company been assessed interest or penalties by any major tax jurisdictions. The Company’s evaluation was performed for the tax years ended December 31, 2014 and 2013.
2. Due to Affiliate and Related Party Transactions
Pursuant to the operating agreement of the Unconsolidated Joint Venture, the Company receives a management fee from the Unconsolidated Joint Venture in an amount equal to 3.0% of Unconsolidated Joint Venture revenues. During the year ended December 31, 2014 and the period from August 20, 2013 (inception) to December 31, 2013, the Company earned $2,150,378 and $416,000, respectively, in management fees which have been recorded by the Company as management fee revenues from affiliates in the accompanying statements of operations.
Pursuant to the operating agreement, TNHC shall receive an overhead fee from the Company in an amount equal to 3.0%, less $500,000, of the Unconsolidated Joint Venture revenues. This amount will be paid as follows:
1)
1.5% of the projected gross sales revenue of the Unconsolidated Joint Venture, less $500,000, paid in equal monthly installments beginning on April 1, 2013, based upon a 33 month development period.
2)
1.5% of the projected gross sales revenue from each home sold, payable upon the first day of the month following close of escrow.
Pursuant to the operating agreement, IHP shall receive an overhead fee from the Company in an amount equal to $500,000. This amount will be in installments equal to one twelfth (1/12th) of any portion of the overhead fee received by TNHC. During the year ended December 31, 2014, and the period from August 20, 2013 (inception) to December 31, 2013, TNHC earned $1,143,600 and $381,200, respectively, and IHP earned $104,400 and $34,800, respectively, in monthly overhead fees, which have been recorded by the Company as overhead fees to the Members in the accompanying statements of operations. As of December 31, 2014 and 2013, no amounts were due to TNHC or IHP for such fees.
During the year ended December 31, 2014 and the period from August 20, 2013 (inception) to December 31, 2013, TNHC earned and received $827,180 and $0, respectively, and IHP earned $75,198 and $0, respectively, in overhead fees earned from homes sold, which have been recorded by the Company as overhead fees to the Members in the accompanying statements of operations. As of December 31, 2014, no amounts were due to TNHC and $75,198 was due to IHP and has been included in due to affiliate in the accompanying balance sheets. As of December 31, 2013, no amounts were due to TNHC and IHP for such fees.
3. Commitments and Contingencies
The Company’s commitments and contingencies include the usual obligations and litigation incurred by real estate developers in the normal course of business. In the opinion of management, there are no material loss contingencies.
4. Subsequent Events
The Company has evaluated subsequent events through March 5, 2015, the date the financial statements were available for issuance.
Report of Independent Auditors
The Members
TNHC-HW Foster City LLC
We have audited the accompanying financial statements of TNHC-HW Foster City LLC, which comprise the balance sheets as of December 31, 2014 and 2013, and the related statements of operations, members’ capital, and cash flows for the year ended December 31, 2014, and the period from July 2, 2013(inception) to December 31, 2013, and the related notes to the financial statements.
Management’s Responsibility for the Financial Statements
Management is responsible for the preparation and fair presentation of these financial statements in conformity with U.S. generally accepted accounting principles; this includes the design, implementation, and maintenance of internal control relevant to the preparation and fair presentation of financial statements that are free of material misstatement, whether due to fraud or error.
Auditor’s Responsibility
Our responsibility is to express an opinion on these financial statements based on our audits. We conducted our audits in accordance with auditing standards generally accepted in the United States. Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement.
An audit involves performing procedures to obtain audit evidence about the amounts and disclosures in the financial statements. The procedures selected depend on the auditor’s judgment, including the assessment of the risks of material misstatement of the financial statements, whether due to fraud or error. In making those risk assessments, the auditor considers internal control relevant to the entity’s preparation and fair presentation of the financial statements in order to design audit procedures that are appropriate in the circumstances, but not for the purpose of expressing an opinion on the effectiveness of the entity’s internal control. Accordingly, we express no such opinion. An audit also includes evaluating the appropriateness of accounting policies used and the reasonableness of significant accounting estimates made by management, as well as evaluating the overall presentation of the financial statements.
We believe that the audit evidence we have obtained is sufficient and appropriate to provide a basis for our audit opinion.
Opinion
In our opinion, the financial statements referred to above present fairly, in all material respects, the financial position of TNHC-HW Foster City LLC at December 31, 2014 and 2013, and the results of its operations and its cash flows for the year ended December 31, 2014, and the period from July 2, 2013 (inception) to December 31, 2013, in conformity with U.S. generally accepted accounting principles.
/s/ Ernst & Young LLP
February 13, 2015
TNHC-HW Foster City LLC
(A Delaware Limited Liability Company)
Notes to Financial Statements
December 31, 2014
1. Organization and Summary of Significant Accounting Policies
TNHC-HW Foster City LLC, a Delaware limited liability company (the “Company”), was formed with an effective date of July 2, 2013. The Company was capitalized through cash and asset contributions by TNHC Land Company LLC (“TNHC”) and HWFC Project, LLC (“Hillwood”) (collectively referred to herein as the “Members”). On October 3, 2014, the Company purchased approximately 15 acres of land located in Foster City, California for the development and sale of lots planned for 200 residential dwellings, 221 assisted and independent living apartments, a retail space, and a public use space, in a site known as Foster Square (the “Project”).
Subject to the operating agreement, distributions of net cash flow to the Members shall be in the following order of priority (taking into account, as applicable, each Member’s then existing preferred return amount and contribution account balances, and subject to any other applicable provisions of the operating agreement):
1.
To the Members in proportion to their respective accrued and unpaid First Priority Preference Amount, as defined; then
2.
To the Members in proportion to their respective Undistributed First Priority Capital Amount, as defined; then
3.
To the Members in proportion to their respective accrued and unpaid Second Priority Preference Amount, as defined; then
4.
To the Members in proportion to their respective Undistributed Second Priority Capital Amount, as defined; then
5.
To the Members in proportion to their respective Percentage Interests (TNHC 46.47% and Hillwood 53.53%).
Upon formation of the Company, TNHC received a distribution from the Company of $757,800 in order to bring the contribution percentages of each Member in line with the operating agreement, which at the time was 50% for TNHC and 50% for Hillwood. Upon acquisition of fee title to the Project site on October 3, 2014, the contribution percentages of the Members were adjusted, pursuant to the operating agreement, to 35% for TNHC and 65% for Hillwood.
Subject to the operating agreement, income and loss is allocated to the Members generally in the same manner as distributions of net cash flow.
Pursuant to the operating agreement, the preferred return on First Priority Capital, as defined, for both Members is 20% per annum, compounded monthly. The preferred return on Second Priority Capital, as defined, for both Members is 12% per annum, compounded monthly. As the payment for the preferred return is not guaranteed, it is not currently accrued on the financial statements. As of December 31, 2014, no contributions had been made that qualify as a First Priority Capital Amount, as defined.
The following is a summary of the preferred returns for the Members as of December 31, 2014:
Basis of Presentation
The accompanying financial statements have been prepared in accordance with U.S. generally accepted accounting principles (“GAAP”) as contained within the Financial Accounting Standards Board (“FASB”) Accounting Standards Codification (“ASC”). This basis of accounting contemplates the recovery of the Company’s assets and the satisfaction of its liabilities in the normal course of business.
Use of Estimates
The preparation of the Company’s financial statements in conformity with GAAP requires management to make estimates and assumptions that affect the reported amounts of assets, liabilities, revenues and expenses, and the disclosure of commitments and contingencies. Actual results could differ materially from those estimates.
Cash
The Company considers all highly-liquid investments that are readily convertible to cash, with original maturity dates of three months or less, to be cash and cash equivalents. Financial instruments that potentially subject the Company to significant concentrations of credit risk consist principally of cash deposited with financial institutions in excess of amounts insured by the Federal Deposit Insurance Corporation. The Company has not experienced any losses related to uninsured cash balances.
Restricted Cash
Restricted cash of $2,809,331 at December 31, 2014, includes $700,052 that serves as collateral for a letter of credit for certain performance bonds and $2,109,279 that serves as collateral for the construction costs related to a portion of the Project sold to a third party in December 2014. See discussion of post-closing development activities, as described in more detail in Note 1 under the caption entitled “Revenue Recognition.” The Company did not have restricted cash as of December 31, 2013.
Real Estate Inventories and Costs of Sales
Real estate inventories are carried at cost. Development costs including land, land development, direct costs of construction, indirect costs, interest, and property taxes incurred during the development period, are capitalized. Capitalization of development costs ends when the assets are substantially complete and ready for sale. Costs of land sales are allocated based on relative sales value. Selling and marketing costs are expensed in the period incurred.
Real estate inventories are stated at cost, unless the carrying amount is determined not to be recoverable, in which case the inventories are written down to fair value in accordance with ASC 360, Property, Plant, and Equipment. ASC 360 requires that real estate assets be tested for impairment whenever events or changes in circumstances indicate that their carrying amounts may not be recoverable.
Impairment of assets is measured by comparing the carrying amount of an asset to the undiscounted future net cash flows expected to be generated by the asset. These evaluations for impairment are significantly impacted by estimates of the amounts and timing of revenues, costs and expenses, and other factors. If real estate assets are considered to be impaired, the impairment to be recognized is measured by the amount by which the carrying value of the assets exceeds the fair value of the assets. Fair value is determined based on estimated future cash flows discounted for inherent risks associated with the real estate assets, or other valuation techniques.
As of December 31, 2014 and 2013, the Company determined that the carrying amounts of its real estate inventories were not impaired based upon undiscounted future cash flows of the underlying Project.
Revenue Recognition
In accordance with ASC 360, revenues from land sales are recorded and a profit is recognized when the respective lots are closed. Land sales are closed when all conditions of escrow are met, including delivery of the real estate asset, title passage, appropriate consideration is received and collection of associated receivables, if any, is reasonably assured. Sales incentives are a reduction of revenues when the respective lot is closed. When it is determined that the earnings process is not complete, the sale and the related profit are deferred for recognition in future periods.
During the year ended December 31, 2014, the Company sold land from the Project to two parties for a total of $71,250,000. Under the terms of the contracts, the Company is obligated to perform certain development activities after the close of escrow, including grading of property, utilities, backbone improvements, and improvement plans and permits. Due to this continuing involvement, the Company has recognized the land sale under the percentage-of-completion method, whereby revenue is recognized in proportion to total costs incurred divided by total costs expected to be incurred. As of December 31, 2014, $16,598,154 of revenue and $6,194,665 of profit remains deferred and will be recognized as development progresses.
Income Taxes
As a limited liability company, the Company is subject to certain minimal taxes and fees; however, income taxes on income reported by the Company are the obligation of the Members.
The Company applies the provisions of ASC 740, Accounting for Uncertainty in Income Taxes. Based on its evaluation, under ASC 740, the Company has concluded that there are no significant uncertain tax positions requiring recognition in its financial statements, nor has the Company been assessed interest or penalties by any major tax jurisdictions. The Company’s evaluation was performed for the tax years ended December 31, 2014 and 2013.
2. Real Estate Inventories
Real estate inventories consist of the following:
The Company incurred, capitalized and amortized interest costs as follows:
3. Due to Affiliates and Related-Party Transactions
Amounts due to affiliates consist of the following:
During the year ended December 31, 2014 and the period from July 2, 2013 (inception) to December 31, 2013, TNHC incurred construction-related costs on the Company’s behalf of $353,090 and $93,460, respectively. The total amounts were capitalized as real estate inventories for both periods.
Pursuant to the operating agreement, TNHC and Hillwood shall receive an overhead fee from the Company in an amount equal to 3.0% and 1.0%, respectively, of the Project’s gross sales revenue. This amount will be paid as follows:
1)
1.5% of the projected gross sales revenue of the Project to TNHC and 0.5% of the projected gross sales revenue of the Project to Hillwood, payable in equal monthly installments on or about the first day of the each month over the projected life of the project, beginning July 1, 2013;
2)
1.5% of the gross sales price of all or any portion of the Project site to TNHC and 0.5% of the gross sales price of all or any portion of the Project site to Hillwood, payable upon the first day of the month following closing of the sale.
During the year ended December 31, 2014 and the period from July 2, 2013 (inception) to December 31, 2013, TNHC earned $406,000 and $198,494 in monthly overhead fees and Hillwood earned $137,000 and $65,747 in monthly overhead fees, respectively, which have been recorded by the Company as overhead fees to affiliates in the accompanying statements of operations. During the year ended December 31, 2014 and the period from July 2, 2013 (inception) to December 31, 2013, TNHC earned $1,068,750 and $0 and Hillwood earned $356,250 and $0, respectively, in overhead fees from lots sold, which have also been recorded by the Company as overhead fees from affiliates in the accompanying statements of operations. As of December 31, 2014, $1,068,750 and $356,250 were due to TNHC and Hillwood, respectively, for overhead fees earned from lots sold and are reflected in the accompanying balance sheets as due to affiliates. As of December 31, 2014 and 2013, all monthly fees were paid in full.
4. Accrued Expenses and Other Liabilities
Accrued expenses and other liabilities of $1,200,099 at December 31, 2014, consist of initial cash deposits from a buyer to purchase lots from the Company. The Company did not have accrued expenses and other liabilities as of December 31, 2013.
5. Commitments and Contingencies
The Company’s commitments and contingencies include the usual obligations and litigation incurred by real estate developers in the normal course of business. In the opinion of management, there are no material loss contingencies.
The Company obtains performance bonds in the normal course of business to ensure completion of the infrastructure of the Project. As of December 31, 2014 and 2013, the Company had $5,680,620 and $0, respectively, in performance bonds outstanding with various cities, governmental entities, and others, for which the Company had distributed $700,052 and $0, respectively, in cash collateral to third parties.
6. Subsequent Events
The Company has evaluated subsequent events through February 13, 2015, the date the financial statements were available for issuance.
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Management Contract or Compensatory Plan or Arrangement
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Confidential treatment was requested with respect to omitted portions of this Exhibit, which portions have been filed separately with the U.S. Securities and Exchange Commission.
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Filed herewith
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The information in Exhibits 32.1 and 32.2 shall not be deemed "filed" for purposes of Section 18 of the Securities and Exchange Act of 1934, as amended (the "Exchange Act"), or otherwise subject to the liabilities of that section, nor shall they be deemed incorporated by reference in any filing under the Securities Act of 1933, as amended, or the Exchange Act (including this Report), unless the Registrant specifically incorporates the foregoing information into those documents by reference.
SIGNATURES
Pursuant to the requirements of Section 13 or 15(d) of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned, thereunto duly authorized.
The New Home Company Inc.
By:
/s/ H. Lawrence Webb
H. Lawrence Webb
Chief Executive Officer and Chairman
Date: March 6, 2015
Pursuant to the requirements of the Securities Exchange Act of 1934, this report has been signed below by the following persons on behalf of the registrant and in the capacities and on the dates indicated: