ITEM 1. BUSINESS
GENERAL
WCI Communities, Inc. (the Company, WCI or We), a Delaware corporation that was formed in August 1998 through predecessor companies, is a fully integrated homebuilding and real estate services company with over 50 years of experience in the design, construction and operation of leisure-oriented, amenity-rich master-planned communities. We began our operations in Florida through companies that principally focused on developing amenitized communities in the state. In the late 1990’s, we changed our business model to capture greater revenues and gross margins by becoming the principal homebuilder in most of our communities. In May 2004, we initiated homebuilding operations outside of Florida with the acquisition of Spectrum Communities, a developer and homebuilder based in the Northeast U.S. In February 2005, we acquired Renaissance Housing Corporation, a homebuilder and high-rise tower developer based in the Mid-Atlantic U.S. These acquisitions, which are fully integrated with our operations, established our position in the Northeast and Mid-Atlantic U.S. luxury residential markets and broadened our capabilities to take advantage of future opportunities in the mid- and high-rise urban residential market. When this report uses the words “we,” “us,” and “our,” these words refer to WCI Communities, Inc. and its subsidiaries, unless the context otherwise requires.
On August 4, 2008, WCI and 126 of its subsidiaries (excluding its Watermark real estate brokerage, our WCI Mortgage business and certain other joint ventures in which we are a partner) (the Debtors) filed voluntary petitions for reorganization relief under the provisions of Chapter 11 of Title 11 of the United States Bankruptcy Code (the Code) in the United States Bankruptcy Court for the District of Delaware in Wilmington, Case No. 08-11643 (KJC). The list of the Debtors and Tax Identification Numbers is located on the docket for Case No. 08-11643 (KJC) [Docket No. 64] and http://chapter11.epiqsystems.com/wcicommunities.
We continue to operate our businesses and manage our properties as debtors and debtors-in-possession under the jurisdiction of the Bankruptcy Court and in accordance with the applicable provisions of the Bankruptcy Code and orders of the Bankruptcy Court. As part of the “first day” relief, we obtained Bankruptcy Court approval to, among other things, continue to pay critical vendors and vendors with lien rights, meet our pre-petition payroll obligations, pay deficit funding obligations to our various community associations and clubs, maintain our cash management systems, sell homes free and clear of liens, pay our taxes, continue to provide employee benefits and maintain our insurance programs. Certain of these payment obligations are subject to monetary limits without specific approval for each transaction. The filing of the Chapter 11 petitions triggered repayment obligations under a number of our debt instruments and agreements. As a result, all of our debt obligations became immediately payable. We believe that any efforts to enforce the payment obligations are stayed as a result of the Chapter 11 filings.
On September 24, 2008, pursuant to authorization from the Delaware Bankruptcy Court, the Company entered into a $150 million Debtor-In-Possession Credit Agreement (the DIP Agreement) with a syndicate of lenders, some of which were lenders under the Company’s pre-petition secured debt facilities, led by Wachovia Bank, N.A., acting as administrative agent, and Bank of America, N.A. acting as collateral agent. The Court also granted the Company final authority to continue using its on-hand cash collateral during the Chapter 11 case. The DIP Credit Agreement includes an $80 million term loan and a $70 million revolving credit facility (collectively, the DIP Loans). The $80 million term loan was a required borrowing on the closing date, approximately $50 million of which was used to repay the outstanding balance under the Company’s Third Consolidated, Amended and Restated Revolving Credit Construction Loan Agreement, dated as of September 22, 2005 (the Pre-Petition Tower Facility) with the remainder to be used for general corporate purposes. Availability of funds under the revolving credit facility is subject to a limitation on the amount of cash and cash equivalents held by the Company. The Company may also request the issuance of up to $25 million in letters of credit. As part of the order, the Company granted the prepetition agents and the lenders various forms of protection, including liens and administrative claims to protect against the diminution of the collateral value to the extent provided in the
final order approving the DIP Agreement. The DIP Agreement initially matures on September 24, 2009, subject to a six-month extension period. Borrowings under the DIP Agreement bear interest at the Eurodollar Rate plus 6.0% or an index base rate plus 5.0%.
We conduct development and homebuilding operations in the following markets:
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Florida:
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East Coast-Fort Lauderdale, Miami Beach, West Palm Beach/Boca Raton, Palm Coast, Daytona Beach and Jacksonville; and
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West Coast-Naples, Marco Island, Fort Myers, Sarasota/Bradenton/Venice, Tampa, Ocala and Pensacola;
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New York-Dutchess, Rockland, Suffolk and Westchester counties;
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New Jersey-Hudson and Middlesex counties;
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Connecticut-Fairfield County;
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Massachusetts-Middlesex County;
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Virginia-Arlington, Fairfax and Loudon counties; and
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Maryland-Howard and Prince Georges counties.
As of December 31, 2008, we have 54 locations where we are building or selling single- and multi-family homes or mid- and high-rise residential units. In total, we control approximately 12,000 acres of land.
Our principal business lines include single- and multi-family (traditional) homebuilding, mid- and high-rise (tower) homebuilding, and real estate services. We also develop and operate amenity facilities, sell selected land parcels, and enter into real estate joint ventures, generally within our communities. See the Notes to the consolidated financial statements included in this Annual Report on Form 10-K for further information regarding our business segments for each of the three years ended December 31, 2008.
BUSINESS STRATEGY
During the first quarter of 2009, the Company continued its cost reduction initiatives including a significant reduction of overhead, consolidation of operating divisions, closing of sales offices and rejection of leases/ contracts through the Bankruptcy Code, and further concentrated its efforts on selling speculative inventory and non-core assets.
In addition, due to the continuing deterioration of the housing industry nationally and in Florida in particular, and the challenging economic conditions and lack of visibility in the marketplace (including unpredictability in projecting pricing trends and housing recovery timeframes), the Company adopted a plan in early 2009 to currently suspend all new homebuilding construction activities except under limited circumstances, subject, however, to completion of existing homes under construction or subject to pending purchase contracts. This plan also contemplates the continuation of the sale of our speculative inventory and the ongoing maintenance of our communities, amenities operations and real estate services.
As part of the Company’s overall strategy to explore alternatives to emerge from bankruptcy in an expeditious manner, the Company also engaged its financial/restructuring advisor to assist with a comprehensive marketing process for the sale or reorganization of the Company, as well as the disposition of certain assets. The Company continues to explore strategic alternatives.
On March 31, 2009, the Company filed Form 15 with the Securities and Exchange Commission (the SEC) to deregister its common stock under Section 12(g) of the Securities Exchange Act of 1934, as amended (the Exchange Act), and suspended the Company’s reporting obligations under Sections 13(a) and 15(d) of the
Exchange Act. Upon the filing of Form 15, the Company’s obligation to file periodic and current reports with the SEC, including Forms 10-K, 10-Q and 8-K, was immediately suspended, except for its December 31, 2008 Form 10-K. The Company was eligible to file Form 15 because it recently determined that its common stock is held of record by less than 300 persons. The Form 15 also terminates the Company’s reporting obligation with respect to its notes. The Company plans to continue posting quarterly and annual financial information on its website.
HOMEBUILDING ACTIVITIES
The following discussion of homebuilding, tower and marketing activities was primarily how the company operated prior to it filing voluntary petitions under Chapter 11 of the code. The discussion of these activities should be read in conjunction with the discussion under Business Strategy appearing previously in this section.
Marketing and Sales
We believe our proprietary marketing systems and the depth of experience of our marketing group create an increased number of selling opportunities for us and enhance our marketing presence and brand recognition. Our marketing programs reach prospective purchasers, locally, nationally and internationally through advertisements placed in demographic specific periodicals and other media. We generally advertise in newspapers, magazines and on billboards. The Internet is an important resource we use in promoting and in providing information to our customers. A visitor to our website, http://www.wcicommunities.com, can obtain detailed information regarding our communities and residences.
We maintain sales centers with community scale models and lifestyle and home demonstration displays. We also maintain professionally decorated model homes staffed by our own sales personnel, which demonstrate the features of our products and the community lifestyles. Brochures, scaled architectural models, walk-in kitchen and bathroom models and other marketing materials are used to assist sales associates in explaining and demonstrating the tower residences to be built. Local realtors are integral to our marketing process and significantly impact our sales activities in many of our communities.
With regard to our traditional homebuilding operations, we offer customers a wide selection of standard options and upgrades to finish their homes. In addition, some of our larger traditional homebuilding communities offer design studios staffed with professional designers where the many options and upgrades available to purchasers of our products are displayed and demonstrated to assist the buyer’s selection process.
We use a wide range of sales incentives in order to attract traditional and tower residence buyers and have been using these incentives increasingly in the continuing difficult economic market conditions. These incentives are an important aspect of our sales and marketing of homes, and we rely on them more heavily in promoting communities experiencing weaker demand or to promote the sale of completed unsold homes. Without the use of these marketing incentives and discounts, our ability to sell homes would be adversely impacted. Generally, these incentives fall into one of three categories: (1) cash discounts against the purchase price; (2) golf or sports club memberships, tangible merchandise such as automobiles, provided free or at a reduced price; and (3) payment of the buyer’s loan closing costs, travel related expenses, and/or certain future expenses for a limited time period such as ad valorem taxes or property owner’s association assessments. The use of incentives depends largely on local economic and competitive market conditions.
The purchaser will enter into a sales agreement and provide us with a refundable cash payment to reserve the traditional homebuilding or tower residential unit. The sales agreement typically involves a short rescission period, after which the agreement becomes binding on both parties and the deposit becomes partially or entirely non-refundable, subject to HUD regulations, if applicable. Historically, the non-refundable deposit requirements for traditional homes and for tower residences generally approximate 10% to 15% and 10% to 20%, respectively of the total purchase price. Additionally, customers are generally required to pay additional deposits when they select options or upgrade features for their traditional homes. Most of our sales contracts stipulate that when
customers cancel their contracts with us we have the right to retain their earnest money and option deposits; however, we sometimes choose to refund such deposits. Reported new orders include the number and value of contracts net of any cancellations occurring during the reporting period. Only outstanding sales agreements that have been signed by both the home purchaser and us are reported and included in backlog.
Traditional Homebuilding Backlog. At December 31, 2008 and 2007, we had a backlog of signed contracts for 60 and 317 traditional home units, respectively, with sales values aggregating $38.2 million and $191.5 million, respectively. At March 31, 2009, we had a backlog of signed contracts for 62 units with sales values aggregating $34.9 million.
Tower Residences Backlog. At December 31, 2008 and 2007, we had a backlog of signed contracts with sales values aggregating $13.3 million and $20.4 million, respectively. At March 31, 2009, we had a backlog of signed contracts for 22 units with sales values aggregating $13.3 million.
See Business Strategy above for a description of current suspension of new home construction activity.
Traditional homes
We design, sell and build traditional homes serving primary, second and retirement home buyers although, as discussed above, during the first quarter of 2009 we suspended new home construction activity pending market recovery. This suspension of new home construction activity does not impact the completion of homes under construction nor our continuing efforts to sell speculative home inventory. Our homes have ranged from approximately 1,000 square feet to over 6,000 square feet in living space. The average selling price per gross new order for the year ended December 31, 2008 was approximately $491,000. We build most of these homes within our master-planned communities, which often feature attractive amenities, including hotels, such as Ritz-Carlton, Hyatt, Regent International, and Starwood’s Luxury Collection. Many of our communities also include golf courses designed by Raymond Floyd, Peter Jacobson, Greg Norman and other notable golf course architects. We believe that this approach increases the value of our homes and communities and helps us attract affluent purchasers. Additionally, we sometimes sell selected lots directly to other builders and consumers for the design and construction of custom homes.
In addition to using model homes, we also build speculative homes. These speculative homes enhance our marketing and sales efforts to prospective homebuyers as well as to independent brokers, who often represent homebuyers requiring a completed home for immediate delivery. We typically sell our speculative homes while they are under construction or immediately following completion. Our unsold completed single- and multi-family homes at December 31, 2008 were 234 units compared to 477 units at December 31, 2007.
Construction. We typically act as the general contractor in the construction of our residences. Our employees provide purchasing and quality assurance for, and construction management of, the homes we build, while the material and labor components of our houses are provided by subcontractors. We typically do not maintain significant inventories of construction materials, except for work in progress materials for homes under construction. We compete with other homebuilders for qualified subcontractors, raw materials and lots in the markets where we operate. We employ construction managers to monitor homes under construction, participate in major design and building decisions, coordinate the activities of subcontractors and suppliers, review the work of subcontractors for quality and cost controls and monitor compliance with zoning and building codes. Depending upon the size and complexity of a home’s design, the weather, and the availability of labor, materials and supplies, our construction time ranges from about 4 to 12 months for our single- and multi-family homes.
Tower residences
We design, sell and build luxury residential towers and condominium hotels targeted to primary and affluent, leisure-oriented home purchasers. Residences available for sale in our towers have ranged in size from approximately 500 square feet to over 11,000 square feet in living space. The average selling price per gross new
order for a tower unit in 2008 was approximately $833,000. Due to the continuing difficult market conditions, we did not commence constructing any towers in 2008 and have no towers under construction going into 2009.
Design. We commence the design and planning of towers by conducting extensive research relating to the market, customer base, product requirements, pricing and absorption. Our research effort is directed by project managers specializing in the development of towers. We also contract for the services of an experienced third party general contractor during the early stages to assist in design, engineering and the estimation of construction costs.
Construction. We hire experienced and bonded third party general contractors specializing in the construction of residential towers to construct these buildings. By hiring experienced general contractors to construct our towers, we mitigate many of the risks associated with construction. As the developer of the towers that we build, we manage the entire process from planning to closing of completed residences to turnover of the condominium association to residents. Historically we generally collected from each purchaser cash deposits over a period of time ranging from 10% to 20% of a residence purchase price to cover a portion of estimated construction costs. Once construction is completed, closings of sold residences occur, at which time we are paid the balance of the purchase price for the residences sold.
REAL ESTATE SERVICES
Realty brokerage
We have a franchise agreement with Prudential Real Estates Affiliates, Inc. that gives us the exclusive right to provide residential brokerage services as Prudential Florida Realty in seven geographic areas across nine counties in Florida and commercial brokerage services in Naples, Florida. The exclusive franchise areas are in Lee, Collier, Martin, Palm Beach, Broward, Charlotte, and Dade Counties and in portions of Hillsborough and Manatee Counties. As consideration under the agreement, we pay Prudential a royalty based on gross commission revenue on a monthly basis. Additionally, through a separate subsidiary, we provide new home and certain resale brokerage services. As of December 31, 2008, our realty brokerage operations had 43 offices and approximately 1,745 sales agents.
Title insurance/Other insurance
We provide title insurance and closing services through WCI Title which underwrites its policies on behalf of large national title insurers and derives its revenues from commissions on title insurance premiums and closing services provided to our customers, third party residential closings and commercial closings. In addition to the foregoing, WCI Title, d/b/a Florida Homes & General Lines Insurance (FHGLI), provides quotes for homeowners and other general lines of insurance from various insurers and if such insurance is purchased by a homeowner, FHGLI is entitled to a commission from the applicable market’s general agency, which is paid from the premium paid by the purchaser.
Mortgage banking
Prior to June 2006, we provided residential mortgage banking services to our buyers, as well as third party purchasers through our subsidiary, Financial Resources Group, Inc., which also did business as WCI Mortgage. In June 2006, we sold our mortgage banking operations to a newly formed joint venture, WCI Mortgage LLC. In conjunction with the formation of WCI Mortgage LLC, we sold a 50.1% interest in the newly formed company to Wells Fargo Ventures, LLC. WCI Mortgage LLC began originating and funding mortgage loans for our new home and re-sale customers beginning in the third quarter of 2006.
AMENITY MEMBERSHIP AND OPERATIONS
Our recreational amenities, including golf courses with clubhouses, fitness, tennis and recreational facilities, guest lodging, marinas and a variety of restaurants, are central to our mission to deliver high quality residential lifestyles. Amenities at our communities are owned by either community residents or non-residents in equity membership programs, unaffiliated third parties, or retained by us. As we plan the development of new communities, the ownership of the amenities is structured to cater to the preferences and expectations of community residents.
LAND SALES
We leverage our expertise and experience in master planning by strategically selling land within our communities for construction of products we do not choose to build. This enables us to create a more well-rounded community by selling land to developers who will construct residential, commercial, industrial and rental properties, which we may prefer not to develop at the time or in general. We sometimes sell selected lots to other builders and to end users for the design and construction of homes.
OTHER INVESTMENTS
We selectively enter into business relationships through partnerships and joint ventures with unrelated parties. These partnerships and joint ventures are utilized to acquire, develop, market and operate homebuilding, timeshare, amenities, and/or real estate services projects. As of December 31, 2008, we participated in 10 real estate joint ventures, including 6 that are consolidated in our financial statements. We may be required to make additional cash contributions to the partnerships and joint ventures pursuant to agreements. In the first quarter of 2009, we exited two joint ventures, Ocala 623 Land Development LLC and Renaissance at Woodlands LLC. See footnotes to the consolidated financial statements for further details.
LAND ACQUISITION POLICY
We complete market studies and other analyses before entering into a contract to acquire land. We generally purchase land or obtain an option to purchase land, which may require certain site improvements prior to construction including site planning and engineering, as well as constructing road, sewer, water, utilities, drainage and recreational facilities and other amenities. We may enter into land development joint ventures from time to time as a means of accessing land, reducing our risk profile, leveraging our capital base and enhancing our returns on capital.
The majority of the land we acquire typically includes all necessary entitlements (e.g. zoning, master development plan approvals and environmental impact approvals) so that we have the right to begin development or construction. In certain circumstances, we will purchase land without all necessary entitlements where we identify an opportunity to build on the property in a manner consistent with our strategy. Although entitlements are typically obtained prior to the acquisition of land, we are usually required to obtain other governmental approvals and permits during the course of land development and construction of residences.
Our land purchase agreements are typically subject to a number of conditions including, but not limited to, our ability to obtain necessary governmental approvals. If all governmental approvals are not obtained prior to a pre-determined contractual deadline, we may extend the deadline or cancel the contract and our initial deposit will be returned to us. In addition, we typically have the right to cancel any of our agreements and forfeit our deposit. In such instances, we are generally unable to recover any pre-development costs.
We also enter into lot option contracts, in which we obtain the right, but generally not the obligation, to buy lots at predetermined prices on a defined schedule commensurate with anticipated home closings or planned land development. Our option contracts are generally non-recourse, which limits our financial exposure to our money
deposited with sellers. This enables us to control lot positions with minimal capital investment, which substantially reduces the risks associated with land ownership and development. Although we purchase and develop land primarily to support our homebuilding activities, we also sell lots and land to other developers and homebuilders.
During 2008 and continuing through the first quarter of 2009, due to the unfavorable condition of the residential real estate market, we did not enter into any new land and lot contracts. In addition, we re-evaluated our land and lots under contract considering the significant changes in economic and market conditions. For the year ended December 31, 2008, we recorded write-offs of approximately $16.3 million in forfeited deposits, pre-development costs and estimated future payments associated with the termination of land and lot option contracts. As of December 31, 2008, we had no remaining active land or lot option purchase contracts.
OUR COMMUNITIES
The following table sets forth summary information about our communities, including remaining acres, remaining entitled units and remaining number of tower sites.
Our communities
As of December 31, 2008
(1) Florida: East Coast-Fort Lauderdale, Miami Beach, West Palm Beach, Palm Coast, Daytona Beach and Jacksonville;
(2) Florida: West Coast-Naples, Marco Island, Fort Myers, Sarasota/Bradenton/Venice, Tampa, Ocala and Pensacola;
(3) New York-Dutchess, Rockland, Suffolk and Westchester counties;
(4) New Jersey-Hudson County;
(5) Connecticut-Fairfield County;
(6) Virginia-Arlington, Fairfax and Loudon counties; and
(7) Maryland-Howard and Prince Georges counties.
(8) Includes communities where we are building or selling traditional homes or residential tower units.
(9) Entitlement is the approval to develop the property for the specific planned use under state and local planning laws. The number of entitled units shown in the table above represents the maximum number of units expected to be allowed under such approvals. Units are comprised of single- and multi-family homes as well as mid- and high-rise residences.
(10) Excludes 15 completed towers where we offer finished units for sale.
EMPLOYEES
As of December 31, 2008, we had approximately 1,450 employees, of which approximately 1,070 were amenities and real estate services employees. As of March 31, 2009, we had approximately 1,250 employees, of which approximately 960 were amenities and real estate services employees.
SEASONALITY
We have historically experienced, and in the future expect to continue to experience, seasonal variability in revenue, profit and cash flow. Factors expected to contribute to this variability include: the timing of the introduction and start of construction of new towers; the timing of tower residence sales; the timing of closings of homes, lots and parcels; our ability to continue to acquire land and options on land on acceptable terms; the timing of regulatory approvals for development and construction; the condition of the real estate market and general economic conditions in Florida, Northeast and Mid-Atlantic United States; prevailing interest rates and the availability of financing, both for us and for the purchasers of our homes; weather conditions; and the cost and availability of materials and labor.
Our historical financial performance is not necessarily a meaningful indicator of future results, and, in particular, we expect financial results to vary from project to project and from quarter to quarter. Our revenue may therefore fluctuate significantly on a quarterly basis, and we believe that quarter-to-quarter comparisons of our results should not be relied upon as an indication of future performance.
COMPETITION
The homebuilding industry and real estate development is highly competitive and we compete against numerous developers and others in the real estate business in and near the areas where our communities are located. We, therefore, may be competing for investment opportunities, financing, available land, raw materials and skilled labor with entities that possess greater financial, marketing and other resources. Competition generally may increase the bargaining power of property owners seeking to sell, and industry competition may be increased by future consolidation in the real estate development industry. Due to the continuing deterioration of the housing markets, we are increasingly competing with foreclosed homes and “short sale” transactions.
REGULATORY AND ENVIRONMENTAL MATTERS
Our operations are subject to Federal, State and local laws and regulations. In particular, development of property is subject to comprehensive Federal and State environmental legislation. This regulatory framework, in general, encompasses areas like traffic considerations, availability of municipal services, use of natural resources, impact of growth, utility services, conformity with local and regional plans, together with a number of other safety and health regulations. Permits and approvals mandated by regulation for development of any magnitude are often numerous, significantly time-consuming and onerous to obtain, and not guaranteed. Such permits, once expired, may or may not be renewed and development for which the permit is required may not be completed if such renewal is not granted. These requirements have a direct bearing on our ability to further develop communities. Our mortgage activities and the activity of title insurance agencies must also comply with various Federal and State laws, consumer credit rules and regulations and other rules and regulations unique to such activities. In particular, we have been impacted by the new Fannie Mae guidelines applicable to Florida condominiums. See “Risk Associated with Fannie Mae Requirements for Attached Condominium Projects in Florida” in Risk Factors section below. Although we believe that our operations are in full compliance in all material respects with applicable federal, state and local requirements, our operations may be materially impacted and our growth and development opportunities may be limited and more costly as a result of legislative, regulatory or municipal requirements.
Our operating costs may also be affected by the cost of complying with existing or future environmental laws, ordinances and regulations, which require a current or previous owner or operator of real property to bear the costs of removal or remediation of hazardous or toxic substances on, under or in the property. Environmental site assessments conducted at our properties have not revealed any environmental liability or compliance concerns that we believe would have a material adverse effect on our business, assets, results of operations or liquidity, nor are we aware of any material environmental liability or concerns. Although we conduct environmental site assessments with respect to our own properties, there can be no assurance that the environmental assessments that we have undertaken have revealed all potential environmental liabilities, or that an environmental condition does not otherwise exist as to any one or more of our properties that could have a material adverse effect on our business, results of operations and financial condition.
AVAILABLE INFORMATION
As we noted under “Business Strategy” above, the Company’s reporting obligations under Section 13 (a)and 15(d) of the Exchange Act have been suspended and the Company is not required to file any further periodic reports with the SEC after this Form 10-K for the year ended December 31, 2008.
We make available free of charge on or through our Internet website (http://www.wcicommunities.com) our previously filed Annual Reports on Form 10-K, Quarterly Reports on Form 10-Q, Current Reports on Form 8-K, and, if applicable, amendments to those reports. These filings are available to the public over the Internet at the SEC’s website at http://www.sec.gov. You may also read and copy any document we filed with the SEC at the SEC’s public reference room located at 100 F Street, NE, Washington, DC 20549. Please call the SEC at 1-800-SEC-0330 for further information on the public reference room.
We also have a Corporate Governance webpage. You can access our Corporate Governance webpage through our website, http://www.wcicommunities.com by clicking on the “Investors” link to the heading “Governance.”
ITEM 1A.
ITEM 1A. RISK FACTORS
Investors are cautioned that certain statements contained in this document, as well as some statements by the Company in periodic press releases and those in “Management’s Discussion and Analysis of Financial Condition and Results of Operations” in Item 7, are “forward-looking statements” within the meaning of the Private Securities Litigation Reform Act of 1995. Statements which are predictive in nature, which depend upon or refer to future events or conditions, or which include words such as “expects”, “anticipates”, “intends”, “plans”, “believes”, “estimates”, “hopes”, and similar expressions constitute forward-looking statements. In addition, any statements concerning future financial performance (including future revenues, earnings, cash flows or growth rates), ongoing business strategies or prospects, and possible future Company actions, which may be provided by management, are also forward-looking statements. Forward-looking statements are based on current expectations and beliefs concerning future events and are subject to risks and uncertainties about the Company, economic and market factors and the homebuilding industry, among other things. These statements are not guaranties of future performance.
If one or more of the assumptions underlying our forward-looking statements proves incorrect, then our actual results, performance or achievements could differ materially from those expressed in, or implied by the forward-looking statements contained in this report. Therefore, we caution you not to place undue reliance on our forward-looking statements.
The following cautionary discussion of risks and uncertainties relevant to our business includes factors we believe could cause our actual results to differ materially from expected and historical results. Other factors beyond those listed below, including factors unknown to us and factors known to us which we have not determined to be material, could also adversely affect us.
Risk Associated with Operating Budgets and Financial Covenants-Our cash collateral order includes operating budgets and financial covenants that limit our operating flexibility.
The cash collateral order requires us to maintain certain financial budgets and covenants that, among other things, restrict our ability to take specific actions, even if we believe such actions are in our best interest. These include, among other things, restrictions on our ability to:
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incur indebtedness;
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incur liens and enter into sale/leaseback transactions except for model homes subject to certain limitations;
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make or own investments;
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enter into transactions with affiliates;
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engage in new lines of business;
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consolidate, merge and sell all or substantially all of our assets;
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issue guarantees of debt;
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agree to amendment or modification to our organizational documents;
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incur or create claims; and
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make additional payments on pre-petition indebtedness.
Subject to the provisions of the cash collateral order, we are authorized to use the cash collateral in a manner that is not materially inconsistent with the budgets. Modifications to the budgets may be made subject to approval.
Risk Associated with Our Cost Structure-We may not succeed in our attempts to improve our cost structure.
We may have difficulty in generating cost savings and operational improvements in the future and in adapting our cost structure adequately to adjust for significant changes in home sales, and to offset price reductions and increases in raw material or labor costs. Price reductions are often required pursuant to remain competitive with our peers and are sometimes necessary to win additional business. In addition, our cost structure may be adversely affected by changes in the laws, regulations, policies or other activities of governments, agencies and similar organizations where such actions may affect the development of residential communities, the cost thereof or applicable tax rates, or affect the cost of legal and regulatory compliance or the cost of financing.
Risk Associated with Potential Future Asset Impairments and other Restructuring Charges-We may suffer future asset impairment and other restructuring charges, including write downs of goodwill or assets.
From time to time in the past, we have recorded asset impairment losses related to specific residential communities. Generally, we record asset impairment losses when we determine that our estimates of the future undiscounted cash flows from an operation will not be sufficient to recover the carrying value of that asset. During 2007 and 2008, we recorded substantial long-lived asset impairment losses. In light of the shifting nature of the competitive environment in which we operate, it is possible that we will incur similar losses and charges in the future, and those losses and charges may be significant.
Risk Associated with Cyclical Nature of Home Sales and Construction-The cyclical nature of home sales and construction may adversely affect our business.
Our business is directly related to homes construction and sales. Home sales and construction are highly cyclical and depend on general economic conditions and other factors, including consumer spending and
preferences as well as changes in interest rate levels and consumer confidence. The current economic decline has resulted in a significant reduction in home sales which will continue to have a material adverse effect on our business, results of operations and financial condition.
Risk Associated with our Reorganization-If we are unable to successfully reorganize our capital structure and operations and implement our reorganization plan through the Chapter 11 proceedings, the debtors may be required to liquidate their assets.
Commencing August 4, 2008, the Company and certain of our subsidiaries filed voluntary petitions for reorganization relief under Chapter 11 of the Bankruptcy Code. At that time, risks that the Company faced related to the Chapter 11 filings included, but were not limited to, the following:
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The prospect that the Chapter 11 cases might adversely affect our business prospects and/or our ability to operate during the reorganization cases.
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We might have had difficulty continuing to obtain and maintain contracts necessary to continue our operations at affordable rates with competitive terms.
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We might have had difficulty maintaining existing customer relationships.
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We might not have been able to further diversify our customer base and maintain our customer base in our non-Debtor entities, both during and assuming successful emergence from Chapter 11.
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Because Debtor entity transactions outside the ordinary course of business are subject to the prior approval of the Court, our ability to respond timely to certain events or take advantage of certain opportunities might have been limited.
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The Debtors might not have been able to obtain Court approval or such approval might have been delayed with respect to motions made in the Chapter 11 cases.
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We might have been unable to retain and motivate key executives and associates through the process of reorganization, and we might have had difficulty attracting new employees.
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We might have had difficulty selling non-core assets in a timely manner due to customer concerns.
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There was no assurance as to our ability to maintain sufficient financing sources to fund our reorganization plan and meet future obligations. We might have been unable to operate pursuant to the terms of our DIP Credit Facility, including the financial covenants and restrictions contained therein, or to negotiate and obtain necessary approvals, amendments, waivers, extensions or other types of modifications, and to otherwise fund and execute our business plans during the Chapter 11 cases. Failure to continue to operate pursuant to the terms of the DIP Credit Facility would have materially adversely impacted our business, financial condition and operating results by severely restricting our liquidity.
Even assuming a successful emergence from Chapter 11, there can be no assurance as to the overall long-term viability of our operational reorganization, including our ability to generate sufficient cash to support our operating needs, fulfill our objectives without incurring substantial indebtedness that will hinder our ability to compete, adapt to market changes and grow our business in the future.
In addition, the uncertainty regarding the eventual outcome of our reorganization and the effect of other unknown adverse factors, could threaten our existence as a going concern. Continuing on a going-concern basis is dependent upon, among other things, implementation of the reorganization plan and the transactions contemplated thereby, maintaining the support of key vendors and customers, and retaining key personnel, along with financial, business, and other factors, many of which are beyond our control.
Reliance on Key Employees and Management-We may lose or fail to attract and retain key salaried employees and management personnel.
An important aspect of our competitiveness is our ability to attract and retain key salaried employees and management personnel. Our ability to do so is influenced by a variety of factors, including the compensation we award, and could be adversely affected by our recent financial performance.
National and Regional Economic Conditions-A deterioration in national and regional economic conditions have adversely impacted our business.
Our real estate sales, revenues, financial condition and results of operations have declined due to a continuing deterioration of regional or national economies. Our sales and revenues have been disproportionately affected by worsening economic conditions in the Florida, Midwestern, Northeastern and Mid-Atlantic United States because we generate a disproportionate amount of our sales from customers in those regions. In addition, a significant percentage of our residential units are second home purchases of which the buyers are particularly sensitive to the state of the economy.
The homebuilding industry is cyclical and is significantly affected by changes in general and local economic conditions, such as employment levels; availability of financing for homebuyers; interest rates; consumer confidence; levels of new and existing homes for sale; demographic trends; and housing demand. Adverse economic changes may affect some of the markets in which we operate more than others. If adverse conditions affect any of our markets, they could have a proportionately greater impact on us than on some other homebuilding companies. An excess supply of housing, including homes held for sale by investors and speculators, and homes in foreclosure or short-sale transactions, can also lower new home prices and reduce our gross margins on new homes sales.
As a result of the foregoing, potential customers may be less willing or able to buy our homes, or we may take longer or incur more costs to build them. We may not be able to recapture increased costs by raising prices in many cases because of market conditions or because we fix our prices in advance of delivery by signing home sales contracts. We may be unable to change the mix of our home offerings or the affordability of our homes to maintain our margins or satisfactorily address changing market conditions in other ways. In addition, cancellations of home sales contracts in backlog may increase as homebuyers’ sentiment changes and they fail to honor their contracts.
Real estate inventory risks are substantial for our homebuilding business. Our long-term ability to build homes depends upon our acquiring land suitable for residential building at affordable prices in locations where our potential customers want to live. We must anticipate demand for new homes and opportunistically seek and make acquisitions of land for replacement and expansion of land inventory within our current markets and for new markets. In some markets, this has become more difficult and costly.
The risks inherent in controlling or purchasing and developing land increase as consumer demand for housing decreases. The value of undeveloped land, building lots and housing inventories can also fluctuate significantly as a result of changing market conditions. In addition, inventory carrying costs can be significant and can result in reduced margins or losses in a poorly performing project or market. In weak economic or market conditions, we may have to sell homes or land for a lower profit margin or at a loss, and we may have to record inventory impairment charges. We cannot make any assurances that the measures we employ to manage inventory risks and costs will be successful.
In light of the much weaker market conditions recently encountered, our expectations have changed and we have discontinued our purchases of land and lots. We have recently terminated land option contracts and have written off earnest money deposits and pre-acquisition costs related to these option contracts. We have also recorded inventory impairment charges related to certain projects.
For the year ended December 31, 2008, we recorded real estate inventory impairment losses of approximately $601.0 million compared to $319.0 million in 2007 and $98.2 million in 2006.
For the year ended December 31, 2008, we recorded land and lot option write-offs of approximately $16.3 million compared to approximately $22.9 million in 2007 and $41.4 million in 2006. If conditions in the homebuilding industry worsen, we may have additional impairment charges and write-offs of land and lot options.
Risks Associated with Fannie Mae Requirements for Condominium Projects in Florida - The new Fannie Mae requirements may make it more difficult to sell condominium units in Florida where much of our operations are concentrated.
There are currently excessive unsold inventories of condominium project units in Florida resulting from the increase in building new condominium projects and the conversion of apartments to condominium ownership that occurred during the last several years. The increase in the number of units available is one of the factors that caused home prices to reach historical lows, particularly in the condominium market. Fannie Mae assessed the performance of mortgage loans secured by condominiums located in Florida and found that the number of loans currently delinquent or in default is at an all time high. As a result, Fannie Mae modified some of the terms under which it will accept loans secured by condominium projects. These new Fannie Mae standards for condominium development in Florida went into effect January 15, 2009.
Some of these new underwriting guidelines include:
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A new delinquent condominium assessment dues policy (no more than 15% of the total units in a condominium project can be more than 30 days past due);
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A new presale requirement (70% of the total units in the project or phase must be under contract or conveyed to purchasers); and
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Additional ineligible projects (condominium projects where more than 20% of the total space is used for non-residential purposes and projects where a single entity owns more than 10% of the total units in the project).
These new Fannie Mae requirements may make it even more difficult to sell condominium units in Florida, where much of our operations are concentrated.
Risks Associated with Our Geographic Concentration in Florida-Because of our geographic concentration in Florida, an economic downturn in Florida could reduce our sales, revenues and/or negatively affect our financial condition and results of operations.
We currently develop and sell a substantial majority of our properties in Florida. Consequently, the current economic reduction in demand for new homes in Florida has reduced our sales, revenues and negatively affected our financial condition and results of operations. The timing of improvement in these market conditions and/or the extent of further declines cannot be predicted. In addition, the appeal of becoming an owner of one of our residential units may decrease if potential purchasers do not continue to view the locations of our communities as attractive primary, second home or retirement destinations.
Inability to Successfully Develop Communities-If we are not able to develop our communities successfully, our revenues, financial condition and results of operations could be diminished.
Before a community generates any revenues, material expenditures are required to acquire land, to obtain development approvals and to construct significant portions of project infrastructure, amenities, model homes and sales facilities. It generally takes several years for a community development to achieve cumulative positive cash flow. Our inability to develop and market our communities successfully and to generate positive cash flows from these operations in a timely manner would have a material adverse effect our financial condition and results of operations.
Risks Associated with Construction-Problems in the construction of our communities could result in substantial increases in cost and could disrupt our business which would reduce our profitability.
We must contend with the risks associated with construction activities, including the inability to obtain insurance or obtaining insurance at significantly increased rates, cost overruns, shortages of lumber, steel, concrete or other materials, shortages of labor, labor disputes, unforeseen environmental or engineering problems, work stoppages and natural disasters, any of which could delay construction and result in a substantial increase in costs which would reduce our profitability. Claims may be asserted against us for construction defects, personal injury or property damage caused by the subcontractors, and these claims may give rise to liability. Where we hire general contractors, if there are unforeseen events like the bankruptcy of, or an uninsured or under-insured loss claimed against, our general contractors, we may become responsible for the losses or other obligations of the general contractors, which may materially and adversely affect our financial condition and results of operations. Should losses in excess of insured limits occur, the losses could adversely affect our financial condition and results of operations. In addition, our results of operations could be negatively impacted in the event that a general contractor experiences significant cost overruns or delays and is not able to absorb such impacts or if purchasers make claims for rescission arising out of substantial delays in completion of a building and their units.
Risk of Increased Consumer Interest Rates-Because many of our customers finance their home purchases, increased interest rates could lead to fewer home sales which would reduce our revenues.
Many purchasers of our homes obtain mortgage loans to finance a substantial portion of the purchase price of their homes. In general, housing demand is adversely affected by increases in interest rates, housing costs and unemployment and by decreases in the availability of mortgage financing. If mortgage interest rates increase and the ability or willingness of prospective buyers to finance home purchases is adversely affected, our sales, revenues, financial condition and results of operations may be negatively affected.
Availability of Land-Because our business depends on the acquisition of new land, the unavailability of land could reduce our revenues and/or negatively affect our results of operations.
Our operations and revenues are highly dependent on our ability to expand our portfolio of land parcels. We may compete for available land with entities that possess significantly greater financial, marketing and other resources. Competition generally may reduce the amount of land available as well as increase the cost of such land. An inability to effectively carry out any of our sales activities and development resulting from the unavailability of land may adversely affect our business, financial condition and results of operations.
Insurance-Increased insurance risk and adverse changes in economic conditions could negatively affect our business.
Insurance and surety companies are continuously re-examining their business risks, and have taken actions including increasing premiums, requiring higher self-insured retentions and deductibles, requiring additional collateral on surety bonds, reducing limits, restricting coverages, imposing exclusions, such as mold damage, sabotage and terrorism, and refusing to underwrite certain risks and classes of business. Any increased premiums, mandated exclusions, change in limits, coverages, terms and conditions or reductions in the amounts of bonding capacity available may adversely affect our ability to obtain appropriate insurance coverage’s at reasonable costs, which could have a material adverse effect on our financial condition and results of operations. A substantial increase in insurance costs could have a negative impact on contract recessions or cancellations by unit purchasers.
Community Relations-Poor relations with the residents of our communities could negatively impact sales, which could cause our revenues and/or results of operations to decline.
As a community developer, we may be expected by community residents from time to time to resolve any real or perceived issues or disputes that may arise in connection with the operation or development of our communities. Any efforts made by us in resolving these issues or disputes could be deemed unsatisfactory by the affected residents and any subsequent action by these residents could negatively impact sales, which could cause our revenues and/or results of operations to decline. In addition, we could be required to make material expenditures related to the settlement of such issues or disputes or modify our community development plans.
Variability in Our Results-We experience variability in our results of operations in each quarter and accordingly, quarter-to-quarter comparisons should not be relied upon as an indicator of our future performance. In addition, as a result of such fluctuations, the price of our securities may experience volatility.
We have historically experienced, and in the future expect to continue to experience, variability in our revenues, profits and cash flows. Our historical financial performance is not necessarily a meaningful indicator of future results and we expect financial results to vary from project to project and from quarter to quarter. In particular, our revenue recognition policy for tower residences can cause significant fluctuation in our total revenue from quarter to quarter. We believe that quarter-to-quarter comparisons of our results should not be relied upon as an indicator of future performance. As a result of such fluctuations, the price of our securities may experience volatility.
Risks of Seasonality-We may be negatively impacted by seasonal factors, which could limit our ability to generate revenue and cash flow.
Because many of our Florida customers prefer to close on their home purchases before the winter, and due to the typical timing of tower construction commencement and completion, the fourth quarter of each year often produces a disproportionately large portion of our total year’s revenues, profits and cash flows. Historically, 30% to 40% of our total revenues are generated in the fourth quarter. Therefore, delays or significant negative economic events that occur in the fourth quarter may have a disproportionate effect on revenues, profits and cash flows for the year.
Risks Associated with Natural Disasters-Our sales, revenues, financial condition and results of operations may be adversely affected by natural disasters.
The Florida climate presents risks of natural disasters. To the extent that hurricanes, severe storms, floods or other natural disasters or similar events occur, our business may be adversely affected. Our Northeast and Mid-Atlantic regions may also become subject to severe winter conditions that may adversely affect our business. Although we insure for losses resulting from natural disasters, such insurance may not be adequate to cover business interruption or losses resulting therefrom, which may have a material adverse effect on our financial condition and results of operations.
Risks Associated with Our Industry-Laws and regulations related to property development may subject us to additional costs and delays which could reduce our revenues and/or results of operations.
We are subject to a variety of statutes, ordinances, rules and regulations governing certain developmental matters, building and site design which may impose additional costs and delays on us. In particular, we may be required to obtain the approval of numerous governmental authorities regulating such matters as permitted land uses, levels of density and the installation of utility services such as gas, electric, water and waste disposal. In addition, certain fees, some of which may be substantial, may be imposed to defray the cost of providing certain governmental services and improvements. We also may be subject to additional costs or delays or may be precluded from building a project entirely because of “no growth” or “slow growth” initiatives, building permit
allocation ordinances, building moratoriums, restrictions on the availability of utility services or similar governmental regulations that could be imposed in the future. These ordinances, moratoriums or restrictions, if imposed, could cause our costs to increase and delay our planned or existing projects, which could in turn reduce our revenues and/or results of operations.
In addition, some of the land that we have acquired and some of the land that we may acquire has not yet received all of the planning approvals or entitlements necessary for planned development or future development. Failure to obtain entitlement of this land on a timely basis may adversely affect our future results.
Environmental Regulation-Compliance with applicable environmental laws may substantially increase our costs of doing business which could negatively impact our financial condition and results of operations.
We are subject to various environmental laws and regulations relating to the operation of our properties, which are administered by numerous federal, state and local governmental agencies. Our growth and development opportunities may be limited and more costly as a result of legislative, regulatory or municipal requirements. The inability to grow our business or pay these costs could reduce our profits. In addition, our operating costs may also be affected by our compliance with, or our being subject to, environmental laws, ordinances and regulations relating to hazardous or toxic substances of, under, or in such property. These costs could be significant and could result in decreased profits or the inability to develop our land as originally intended.
Changes in Accounting Principles, Interpretations and Practices-Changes in accounting principles, interpretations and practices may affect our reported revenues, earnings and results of operations.
Generally accepted accounting principles and their accompanying pronouncements, implementation guidelines, interpretations and practices for certain aspects of our business are complex and may involve subjective judgments, such as, revenue recognition, inventory valuations and income tax provisions. Changes in interpretations could significantly affect our reported revenues and operating results, and could add significant volatility to those measures without a comparable underlying change in cash flows from operations.
Legal Proceedings-Our cash flows and results of operations could be adversely affected if legal claims are brought against us and are not resolved in our favor.
The Company and certain of our subsidiaries are involved in various claims and litigation arising in the normal course of business. Prior to our Chapter 11 filing, we received a large number of lawsuits and rescission claims from contract purchasers who were seeking rescission and return of deposit funds. These cases were stayed as a result of the Company’s Chapter 11 filing. In the opinion of management, the outcome of these matters will not have a material adverse effect on our financial condition, results of operations or cash flows. However, it is possible that future results of operations for any particular quarterly or annual period could be materially affected by changes in our estimates and assumptions related to these proceedings, or due to the ultimate resolution of the litigation, or if additional legal actions are bought against us.
Product Liability Litigation-Warranty claims that arise in the ordinary course of business may be costly, which could adversely affect our business.
As a homebuilder, we have been, and continue to be, subject to construction defect, product liability and home warranty claims, including moisture intrusion and related mold claims, arising in the ordinary course of business. These claims are common to the homebuilding industry and can be costly.
We and certain of our subsidiaries have been, and continue to be, named as defendants in various construction defect claims, product liability claims, complaints and other legal actions that include claims related to moisture intrusion and mold and claims related to defective drywall. See “Legal Proceedings” below. Furthermore, plaintiffs may, in certain of these legal proceedings, seek class action status with potential class
sizes that vary from case to case. Class action lawsuits can be costly to defend, and if we were to lose any certified class action suit, it could result in substantial potential liability for us. We record reserves for such matters in accordance with accounting principles generally accepted in the United States. With respect to certain general liability exposures, including construction defect, moisture intrusion and related mold claims and product liability, interpretation of underlying current and future trends, assessment of claims and the related liability and reserve estimation process is highly judgmental due to the complex nature of these exposures, with each exposure exhibiting unique circumstances. Furthermore, once claims are asserted for construction defects, it is difficult to determine the extent to which the assertion of these claims will expand geographically. Although we have obtained insurance for construction defect claims, such policies may not be available or adequate to cover any liability for damages, the cost of repairs, and/or the expense of litigation surrounding current claims, and future claims may arise out of uninsurable events or circumstances not covered by insurance and not subject to effective indemnification agreements with our subcontractors.
Management-Management systems and personnel may not be sufficient to effectively manage current operations.
Our business strategy involves selling existing residential home inventory. Achieving our strategy is critical in order to achieve cash flow sufficient to maintain operations. Any condition that would deny, limit or delay our ability to sell residential inventory units will impact the number of employees available to manage operations.
An inability to hire or retain personnel necessary to operate our facilities may adversely affect our ability to achieve our strategy.
Maintaining current levels of our business will strain existing management resources and operational, financial and management information systems to the point that they may no longer be adequate to support our operations, requiring us to make significant expenditures in these areas.
ITEM 1B.
ITEM 1B. UNRESOLVED STAFF COMMENTS
Not applicable.
ITEM 2.
ITEM 2. PROPERTIES
As of December 31, 2008, we owned approximately 149,000 square feet of office and amenity space throughout Florida. In addition, we leased approximately 68,500 square feet of office space in Bonita Springs, Florida, which serves as our corporate headquarters, and approximately 314,200 aggregate square feet of office space in other locations throughout Florida, New York, New Jersey, Connecticut and Virginia, which serve our divisional homebuilding operations and as branch office space for our related real estate services businesses.
ITEM 3.
ITEM 3. LEGAL PROCEEDINGS
Chapter 11 Proceedings
On August 4, 2008, WCI and 126 of its subsidiaries (excluding our Watermark real estate brokerage, our WCI Mortgage business and certain other joint ventures in which we are a partner) (the Debtors) filed voluntary petitions for reorganization relief under the provisions of Chapter 11 of the Code in the United States Bankruptcy Court for the District of Delaware (“Bankruptcy Court”) in Wilmington, Case No. 08-11643 (KJC). The list of the Debtors and Tax Identification Numbers is located on the docket for Case No. 08-11643 (KJC) [Docket No. 64] and http://chapter11.epiqsystems.com/wcicommunities.
Other litigation
The Company and certain of its subsidiaries have been named as defendants in various claims, complaints and other legal actions arising in the normal course of business. In most cases, the lawsuits involving the Company and/or its Debtors, have been stayed as a result of the Company’s Chapter 11 filing.
The Company has received filed claims, letters and phone calls alleging defective drywall. As a consequence of the Company’s Chapter 11 filing, the Company believes that any issues or claims that may relate to Chinese drywall constitute pre-petition claims that are subject to treatment and discharge in the Company’s Chapter 11 plan. The Company was granted permission by the Bankruptcy Court to implement an alternate dispute resolution procedure to liquidate certain pre-petition claims, including any claims relating to alleged defective drywall and to permit recovery from responsible third parties. On February, 24 2009, the Court issued an Order Approving Alternative Dispute Resolution Procedures (ADR Procedure) allowing the Company to implement the ADR Procedure and process claims, including any claims related to alleged defective drywall. The $11 million reserve established by the Company for homes with one or more air conditioning coil replacements (which may or may not be related to Chinese drywall), are pre-petition claims subject to the automatic stay and reflected in the liabilities on the balance sheet that are subject to adjustment, compromise, and modification in the Chapter 11 proceedings.
On March 10, 2009, a purported class action lawsuit was filed in the U.S. District Court, Southern District of Florida (Case No. 09-CV-60371), against Knauf Plasterboard, Tianjin Co., Knauf Gips KG, Rothchilt International Ltd., and WCI Communities, Inc. on behalf of all owners who purchased homes in Florida from WCI Communities, Inc. that allegedly contain defective drywall. The plaintiffs voluntarily dismissed their claims against the Company, without prejudice, after the plaintiffs were notified on the Company’s pending Chapter 11 proceeding.
In addition, on or about January 23, 2008, an action was filed in the United States District Court for the Southern District of Florida against the Company and its subsidiary, The Resort at Singer Island Properties, Inc. (RSI), on behalf of a purported class of the purchasers of hotel condominium units in The Resort at Singer Island who have entered into rental management agreements with respect to those condominium units. The aggregate purchase price of these units was approximately $138.7 million. The complaint in the action, Mastrella, et al. v. WCI Communities, Inc., et al., alleges that the Company and RSI violated Section 12(a)(1) of the Securities Act of 1933 by not registering the offering of these units with the Securities and Exchange Commission. The complaint seeks rescission of the condominium purchase agreements and rental management agreements. The Company and RSI believe they have meritorious defenses, and intend to vigorously defend the action. These cases have been stayed as a result of the Company’s Chapter 11 filing.
ITEM 4.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
There were no matters submitted to a vote of security holders during the quarter ended December 31, 2008.
PART II
ITEM 5.
ITEM 5. MARKET FOR REGISTRANT’S COMMON EQUITY, RELATED STOCKHOLDER MATTERS AND ISSUER PURCHASES OF EQUITY SECURITIES
Our common stock traded on the New York Stock Exchange (the NYSE) under the symbol WCI until August 4, 2008, when the NYSE suspended trading of our common stock. We did not appeal the suspension. On August 5, 2008, our common stock began trading on the Pink Sheet Electronic Quotation service under the symbol WCIMQ. On August 11, 2008, the NYSE filed with the SEC Form 25, Notification of Removal of Listing and/or Registration under Section 12(b) of the Exchange Act, notifying the SEC of its intention to terminate the listing of our common stock at the opening of business on August 21, 2008. On March 31, 2009, WCI Communities, Inc. (Pink Sheets:WCIMQ) filed Form 15 with the SEC to deregister its common stock under Section 12(g) of the Exchange Act, and suspended the Company’s reporting obligations under Sections 13(a) and 15(d) of the Exchange Act. Upon the filing of Form 15, the Company’s obligation to file periodic and current reports with the SEC, including Forms 10-K, 10-Q and 8-K, was immediately suspended, except for its December 31, 2008 Form 10-K. The Company was eligible to file Form 15 because it determined immediately prior to filing of Form 15 that its common stock was held of record by less than 300 persons. The Form 15 also terminated the Company’s reporting obligation with respect to its notes.
The following table sets forth the high and low price of the shares of WCI common stock for the periods indicated as reported on the NYSE and the Pink Sheet Electronic Quotation service.
We have not paid any cash dividends on our common stock to date and expect that, for the foreseeable future, we will not do so.
The payment of dividends is within the discretion of our Board of Directors and any decision to pay dividends in the future will depend upon an evaluation of a number of factors, including our earnings, capital requirements, operating and financial condition and any contractual limitations then in effect. In this regard, the indentures governing our outstanding senior subordinated notes contain restrictions on the amount of dividends we may pay on our common stock. In addition, our DIP Agreement restricts the amount of dividends we may pay.
As of March 31, 2009, there were approximately 192 record holders of WCI common stock.
Please refer to Item 12 of this report and the notes to our consolidated financial statements for a discussion of the shares of WCI common stock that may be issued under existing equity compensation plans, all of which have been approved by shareholders, and a description of our equity incentive plans and the types of grants, in addition to options, that may be made under the plans.
ITEM 6.
ITEM 6. SELECTED FINANCIAL DATA
The following table sets forth our selected historical consolidated financial data for each of the five years in the period ended December 31, 2008. Balance sheet data as of December 31, 2008 and 2007 and statements of operations data for the years ended December 31, 2008, 2007 and 2006 have been derived from our audited consolidated financial statements which are included in Item 8 of this report. The following information should be read in conjunction with “Management’s Discussion and Analysis of Financial Condition and Results of Operations” and our audited historical consolidated financial statements, including the introductory paragraphs and related notes thereto, appearing in Items 7 and 8 of this report.
(1) Loss from continuing operations, net of tax includes pre-tax impairment charges of $36.6 million relating to property and equipment. See footnotes to the consolidated financial statements for further details.
(2) Loss from continuing operations, net of tax includes pre-tax impairment charges of $1.3 million and $59.5 million relating to goodwill and $4.5 million and $10.7 million relating to an investment in a joint venture for the years ended December 31, 2008 and 2007, respectively. See footnotes to the consolidated financial statements for further details.
(3) Gross margin includes approximately $601.0 million, $319.0 million and $98.2 million of asset impairment losses and approximately $16.3 million, $22.9 million and $41.4 million in forfeited deposits, predevelopment costs and estimated payments associated with the termination or probable termination of land and lot option contracts for the years ended December 31, 2008, 2007 and 2006, respectively. See footnotes to the consolidated financial statements for further details.
(4) Net income includes $15.7 million net of tax in expenses related to early repayment of approximately $345.0 million of our 10 5/8% Senior Subordinated Notes. The statement of operations and balance sheet include the effects of the acquisition of Renaissance Housing Corporation in February 2005. The statement of operations was positively impacted by the sale of approximately 500 acres of undeveloped land in Jupiter, Florida for $100.0 million in May 2005. This transaction produced approximately $77.0 million of gross margin.
(5) Net income includes $11.1 million net of tax in cash proceeds received from the sale of our class B limited partnership interest in Bighorn Development Limited Partnership. The statement of operations and balance sheet includes the effects of the acquisition of Spectrum Communities in May 2004.
(6) Debt excludes accounts payable and other liabilities, customer deposits, income taxes payable and community development district obligations. In 2008, subordinated notes totaling $815.0 million are included in liabilities subject to compromise and are excluded from debt.
ITEM 7.
ITEM 7. MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
CRITICAL ACCOUNTING POLICIES AND ESTIMATES
The discussion and analysis of our financial condition and results of operations are based upon our consolidated financial statements, which have been prepared in accordance with accounting principles generally accepted in the United States. The preparation of these financial statements requires us to make estimates and judgments that affect the reported amounts of assets, liabilities, revenues and expenses, and related disclosure of contingent assets and liabilities. We evaluate our estimates on an on-going basis. We base our estimates on historical experience and on various other assumptions that we believe are reasonable under the circumstances, the results of which form the basis for making judgments about the carrying values of assets and liabilities that are not readily apparent from other sources. Actual results may differ from these estimates under different assumptions or conditions.
We believe the following critical accounting policies affect our more significant judgments and estimates used in the preparation of our consolidated financial statements:
Revenue recognition-Traditional Homebuilding. Because the construction cycle for our traditional homes is generally less than one year, we recognize homebuilding revenues when homes close and title to and possession of the property is formally transferred to the buyer. The majority of our homebuilding revenues are received in cash within one or two days subsequent to closing. We include amounts in transit from title companies at the end of each reporting period in cash and cash equivalents.
Revenue recognition-Tower Homebuilding. Revenue recognition for multi-family condominiums (tower) residences under construction commences and continues to be recognized on the percentage-of-completion method where the planned construction period is greater than one year and the requirements of Statement of Financial Accounting Standards (SFAS) 66, Accounting for Sale of Real Estate, as described below, are met. Revenue is recorded as a portion of the value of non-cancelable tower unit contracts when (1) construction is beyond a preliminary stage, (2) the buyer is committed to the extent of being unable to require a full refund of its deposits except for non-delivery of the residence, (3) a substantial percentage of residences in the tower are under non-cancelable contracts, (4) collectibility of sales prices are reasonably assured and (5) aggregate sales proceeds and costs can be reasonably estimated. In accordance with paragraph 37 (e) of SFAS 66, the ability to estimate aggregate sales proceeds of a condominium project is required in order to use the percentage-of-completion method of revenue and profit recognition. If this criterion is not met, proceeds shall be accounted for on the deposit method. We believe if changes, such as a rapid decline in the market, indicate that we can no longer estimate the sales proceeds or costs of a condominium project, (e.g., additional incentives will be required, the amount of which cannot be estimated), then we should no longer apply the percentage-of-completion method and any previously recognized profit should be evaluated for realizability based on evaluation of collectibility and impairment of the project.
Under the percentage-of-completion method, revenue is recognized in proportion to the percentage of total costs incurred in relation to estimated total costs. We collect deposits at a level that we believe is significant enough to ensure the collectibility of the full purchase price when the units are delivered at their completion. After entering into a sales agreement, historically our tower residence purchasers typically provide us with cash payments of approximately 10% to 20% of the total purchase price of the tower residence. Actual revenues and costs to complete building construction in the future could differ from our current estimates. If our estimates of tower revenues and development costs are significantly different from actual amounts, then our revenues, related cumulative profits and costs of sales may be revised in the period that estimates change. In November 2006, the Financial Accounting Standards Board ratified Emerging Issues Task Force Issue No. 06-8, Applicability of a Buyer’s Continuing Investment under FASB Statement No. 66 for Sales of Condominiums (EITF 06-8). EITF 06-8 provides guidance in assessing the collectibility of the sales price which is required in order to recognize
profit under the percentage-of-completion method pursuant to SFAS 66. See Note 2 to the consolidated financial statements under Item 8 of this document for further discussion concerning the application of paragraph 37 (e) and the impact to 2007 and for further discussion of the future application of EITF 06-8.
Contracts receivable. Amounts due under tower sales contracts, to the extent recognized as revenue under the percentage-of-completion method, are recorded as contracts receivable. We review the collectibility of contracts receivable on a quarterly basis and provide for estimated losses due to potential customer defaults. The majority of our tower buildings are registered with the Department of Housing and Urban Development (HUD) under the Interstate Land Sales Full Disclosure Act. The sales agreement is subject to a short rescission period, after which, the agreement becomes binding on both parties and the cash deposits become partially or entirely non-refundable, subject to HUD regulations. In those cases where we register a tower building with HUD, in the event a purchaser defaults after 15% or more of the respective purchaser’s total purchase price has been paid under the sales agreement, we are only entitled to retain the deposits in an amount equal to 15% of the total purchase price of the residence. Although after completion of a building, we may elect to deregister with HUD to allow us to retain the full deposit in the event of purchaser default. In addition, certain states in which we are constructing towers may be more restrictive on the retention of customer deposits in the event of purchaser defaults under the sales agreement, including New Jersey which has a limit of 10% plus 100% of purchase price amounts collected toward customer-selected options.
Revenue recognition-Amenity Membership and Operations. Revenues from amenity operations include the sale of equity memberships and marina slips, non-equity memberships, billed membership dues and fees for services provided. Equity membership and marina slip sales are recognized at the time of closing. Equity membership sales are initially recorded using the deposit or cost recovery methods of accounting. Revenue recognition for each equity club program is reevaluated on a periodic basis based upon changes in circumstances. If no material contingencies exist, such as a developer rescission clause, and if we can demonstrate that we are likely to recover proceeds in excess of remaining carrying value, the full accrual method is then applied. Non-equity membership initiation fees represent initial payments for rights to use the amenity facilities. The non-equity membership initiation fees are deferred and amortized to amenity membership revenues over 20 years, which represents the estimated average depreciable life of the amenity facilities. Dues are billed on a quarterly or annual basis in advance and recorded as deferred revenue and then recognized as revenue ratably over the term of the membership year. Revenues for services are recorded when the service is provided.
Real estate inventories and cost of sales. In accordance with SFAS 67, Accounting for Costs and Initial Rental Operations for Real Estate Projects, real estate inventories including land, common development costs, amenities to be sold or transferred in connection with the sale of individual units and estimates for costs to complete, are allocated to each parcel or lot based on the estimated relative sales value of each parcel or lot, as compared to the sales value of the total project, while site specific development costs are allocated directly to the benefited land. For amenities to be sold separately or retained by us, capitalized costs in excess of its estimated fair value as of the substantial completion date are allocated as common costs to each parcel or lot benefited based on estimated relative sales value. We use the specific identification method for the purpose of accumulating costs associated with home and tower construction. We allocate and relieve all applicable land acquisition, land development and related costs (both incurred and estimated to be incurred) to cost of sales for homes closed based upon the relative sales values of homes expected to be closed in each project.
When a home is closed, we usually have not yet paid all incurred costs necessary to complete the home. Each month, we record as a liability and as a charge to cost of sales the amount we estimate to have incurred related to completed homes that have been closed. Actual costs to complete in the future could differ from our current estimated amounts.
Stock-based compensation expense. Prior to January 1, 2006, we accounted for stock option awards granted in accordance with the recognition and measurement provisions of Accounting Principles Board Opinion No. 25, Accounting for Stock Issued to Employees, (APB 25) and related Interpretations, as permitted by SFAS No. 123, Accounting for Stock-Based Compensation, (SFAS 123). Share-based employee compensation expense
related to stock options was not recognized in our consolidated statements of income prior to January 1, 2006, as all stock options granted had an exercise price equal to or greater than the market value of the common stock on the date of the grant. Effective January 1, 2006, we adopted the provisions of SFAS 123R using the modified-prospective-transition method. Under this transition method, compensation expense recognized during 2006 included: (a) compensation expense for all share-based awards granted prior to, but not yet vested as of January 1, 2006, based on the grant date fair value estimated in accordance with the original provisions of SFAS 123, and (b) compensation expense for all share-based awards granted subsequent to January 1, 2006, based on the grant date fair value estimated in accordance with the provisions of SFAS 123R. In accordance with the modified-prospective-transition method, results for prior periods have not been restated.
The calculation of share-based employee compensation expense involves estimates that require management’s judgments. These estimates include the fair value of each of our stock option awards, which is estimated on the date of grant using a lattice option-pricing model as discussed in the Notes to our condensed consolidated financial statements included under Item 8 of this document. The fair value of our stock option awards, which are subject to graded vesting, is expensed on a straight-line basis over the vesting period of the options. For 2005 and 2006 stock option awards expected volatility is based on historical volatility of our stock. For stock option awards prior to 2005, expected volatility was based on an average of our homebuilding peer group. The risk-free rate for periods within the contractual life of the option is based on the yield curve of a zero-coupon U.S. Treasury bond on the date of option measurement with a maturity equal to the expected term of the option granted. We use historical data to estimate stock option exercises and forfeitures within our valuation model. The expected term of stock option awards granted is derived primarily from historical exercise experience under our share-based payment plans and represents the period of time that stock option awards granted are expected to be outstanding.
Warranty costs. We establish warranty reserves for traditional and tower residences at the time we recognize revenue by charging cost of sales and crediting a warranty liability. The warranty reserves are estimated by management to be adequate to cover expected warranty-related costs for materials and labor required under our warranty obligation periods. We generally provide our single- and multi-family home buyers with a one to three year limited warranty, respectively, for all materials and labor and a ten year warranty for certain structural defects. We generally provide our tower home buyers a three year warranty for the unit and common elements of the tower. Our warranty cost accruals are based upon our historical warranty cost experience in each market in which we operate and adjust the accruals as appropriate to reflect qualitative risks associated with the type of homes we build and the geographic areas in which we build them. Actual future warranty costs could differ from our currently estimated amounts.
Capitalized interest and real estate taxes. We capitalize interest, up to an amount not to exceed total interest incurred, and real estate taxes on parcels, lots, homes, towers and amenity facilities (the “Projects”) while under active development. The capitalization period ends when the asset is substantially complete and ready for its intended use or sale. The amount of interest capitalized in an accounting period is determined by applying the Company’s weighted average annualized interest rate to the amount of accumulated expenditures related to the Projects under development during the period. For homebuilding projects, land sales and amenities conveyed through equity membership sales, capitalized interest and real estate taxes are apportioned on relative sales value and relieved to cost of sales, respectively, with each home closing, land sale or membership sold. For tower buildings, capitalized interest and real estate taxes are amortized to cost of sales under the percentage-of-completion method. For owned and operated assets, capitalized interest and real estate taxes are included in the base cost of the assets and depreciated. If the various underlying estimates related to interest capitalization and amortization are revised, then more or less interest and real estate taxes would be capitalized and/or allocated and relieved to cost of sales.
Community development district obligations. In connection with certain real estate development activities, bond financing is utilized in many of our communities to construct on-site and off-site infrastructure improvements. Some bonds are repaid directly by us while other bonds only require us to pay non-ad valorem
assessments related to lots not yet delivered to residents. We also guarantee district shortfalls under certain bond debt service agreements. In accordance with EITF 91-10, Accounting for Special Assessments and Tax Increment Financing Entities, we annually estimate the amount of bond obligations that we may be required to fund in the future. If our estimates of the amount of bond obligations that we may be required to fund are significantly different from actual amounts funded, our real estate inventories and costs of sales may be revised on a prospective basis.
Impairment of long-lived assets held for use. Inventory considered held for use is stated at the lower of cost or fair value in accordance with SFAS 144, “Accounting for the Impairment or Disposal of Long Lived Assets” (SFAS No. 144). We record valuation adjustments on land inventory and related communities under development (including tower projects), and amenities considered held and used (classified as property, plant and equipment), when the carrying amount exceeds its fair value. An impairment loss shall be recognized only if the carrying amount of the asset is not recoverable and exceeds its fair value. The carrying amount is not recoverable if it exceeds the sum of the undiscounted cash flows expected to result from the use and eventual disposition of the asset. An impairment loss shall be measured as the amount by which the carrying amount exceeds its fair value.
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Current or Future Communities, including land under contract. When the profitability of a current community deteriorates, the sales pace significantly declines or some other factor indicates a possible impairment in the recoverability of the asset, the asset is reviewed for impairment by comparing the estimated future undiscounted cash flow for the community to its carrying value. If the estimated future undiscounted cash flow is less than the asset’s carrying value, the asset is written down to its estimated current fair value. Such indicators include gross margin or sales pace significantly below expectations, construction costs or land development costs significantly in excess of budgeted amounts, significant delays or changes in the planned development for the community, and other known qualitative factors. We also consider potential changes to the product offerings in a community, including changes to the community amenities, and any alternative strategies for the land, such as the sale of the land either in whole or in parcels or lots. We determine estimated current fair value primarily by discounting the estimated future cash flow related to the asset. In estimating the cash flow for a community, we use various estimates such as (a) the expected annual sales pace to absorb the planned number of units based upon economic conditions that may have either a short-term or long-term impact on the market in which the community is located, competition within the market, and historical sales rates of the community or similar communities owned by us or historical sales rates of similar product offerings in the market; (b) the expected net sales prices in the short-term based upon current pricing estimates, as well as estimated increases in future sales prices based upon historical sales prices in the community or in similar communities owned by us or historical sales prices of similar product offerings in the market; (c) the expected costs to be expended in the future, including, but not limited to, land and land development, home construction, construction overhead, sales and marketing, real estate taxes, community association costs, and interest costs expected to be capitalized. In certain circumstances we utilize third party appraisals to assist us in determining estimated fair values. We evaluate land held for future communities, whether owned or under contract, to determine whether or not we expect to proceed with the development of the land as originally contemplated. The evaluation involves the same types of estimates described above as well as an evaluation of the regulatory environment in which the land is located and the estimated costs and probability of obtaining the necessary approvals. Based upon this review, we decide (a) as to land under contract to be purchased, whether the contract will likely be terminated or renegotiated, and (b) as to land we own, whether the land will likely be developed as previously planned or in an alternative manner, or should be sold. We then further determine whether costs that have been capitalized are recoverable or should be written off.
Our determination of fair value requires discounting the estimated cash flows at a rate commensurate with the inherent risks associated with the assets and related estimated cash flows. The discount rate used in determining each community’s fair value depends on the stage of development, location and other specific factors that increase or decrease the risks associated with the estimated cash flows. The
discount rates that we used during the periods in 2006-2007 in the determination of fair values ranged from 12% to 18%. The discount rates that we used during the year ended December 31, 2008 in the determination of fair values ranged from 20% to 22%.
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Property and Equipment. Included in our property and equipment are recreational amenity assets that are considered held and used. With respect to these assets, if events or changes in circumstances, such as a significant decline in membership or membership pricing, significant increases in operating costs, or changes in use, indicate that the carrying value may be impaired, an impairment analysis is performed. Our analysis consists of determining whether the asset’s carrying amount will be recovered from its undiscounted estimated future operating cash flows, including estimated residual cash flows, such as the sale of the asset. These cash flows are estimated based on various assumptions that are subject to economic and market uncertainties including, among others, demand for golf and marina club memberships, competition within the market, changes in membership pricing and costs to operate each property. If the carrying amount of the asset exceeds the sum of its undiscounted future operating and residual cash flows, an impairment loss is recorded for the difference between estimated fair value of the asset and the net carrying amount. We estimate the fair value by using discounted cash flow analysis using concepts similar to the ones discussed above. In certain circumstances, we utilize third party appraisals to assist us in determining estimated fair values.
Impairment of long-lived assets to be disposed of. Inventory considered held for sale is stated at the lower of cost or fair value, less costs to sell in accordance with SFAS 144. We record valuation adjustments on completed inventories of tower units and traditional homes, and investments in amenities when the cost exceeds fair value, less costs to sell. Our estimated selling costs are based on recent experience, which ranges from 5% to 7% of sales prices and includes selling commissions, sales, marketing and closing costs.
Completed Inventory. When the profitability of our completed traditional homes and tower units deteriorates, the sales pace significantly declines or some other factor indicates a possible impairment in the recoverability of the assets, we further estimate the assets’ fair values. Such assets are considered held for sale and the assets’ fair values are determined primarily by discounting the estimated future cash flows related to the asset. In estimating the cash flows for completed homes and tower units, we use various estimates such as (a) expected sales pace to absorb the number of units based upon economic conditions that may have either a short-term or long-term impact on the market in which the units are located, competition within the market, historical sales rates of the units within the specific community or the estimated impact of our pricing reductions and sales incentives; and (b) expected net sales prices in the near-term based upon current pricing estimates, as well as estimated increases in future sales prices based upon historical sales prices of the units within the specific community or in similar communities owned by us or historical sales prices of similar product offerings in the market. Our determination of fair value requires discounting the estimated cash flows at a rate commensurate with the inherent risks associated with selling the assets and related estimated cash flows. The discount rates that we used during the periods in 2006-2007 in the determination of fair values ranged from 8% to 12%. The discount rates that we used during the year ended December 31, 2008 in the determination of fair values ranged from 15% to 18%.
Investments in Amenities. When the underlying recreational amenity is substantially complete and available for its intended use, we consider the asset held for sale. When the profitability of our equity club membership sales deteriorates, the sales pace significantly declines or some other factor indicates a possible impairment in the recoverability of the recreational amenity assets, the assets’ fair values are determined primarily by discounting the estimated future cash flows specifically related to membership sales and asset development expenditures. In estimating the cash flows, we use various estimates such as (a) sales pace to absorb the number of memberships based upon economic conditions that may have either a short-term or long-term impact on the market in which the assets are located, competition within the market, historical sales rates of the memberships for the specific amenity or the estimated impact of our pricing reductions and sales incentives; and (b) net sales prices in the near-term based upon current pricing estimates, as well as estimated changes in future
sales prices based upon historical sales prices of the memberships for the specific recreational amenity or in similar recreational amenities owned by us or historical sales prices of similar membership offerings in the market. Our determination of fair value requires discounting the estimated cash flows at a rate commensurate with the inherent risks associated with selling the memberships and related estimated cash flows. The discount rates that we used during the periods 2006-2007 in the determination of fair values ranged from 10% to 14%. The discount rates that we used during the year ended December 31, 2008 in the determination of fair values ranged from 15% to 18%.
Due to uncertainties used in the estimation process, the significant volatility in demand for new housing and luxury golf and marina memberships, and the long life cycles of many of our communities, actual results could significantly differ from our estimates.
Goodwill. Goodwill represents the excess of the purchase price paid over the fair value of the net assets acquired in business combinations. Evaluating goodwill for impairment involves the determination of the fair value of our reporting units in which we have recorded goodwill as well as determining the carrying value of the reporting unit. A reporting unit is a component of an operating segment for which discrete financial information is available and reviewed by management on a regular basis. Inherent in the determination of fair value of our reporting units are certain estimates and judgments, including the interpretation of current economic indicators and market valuations as well as our strategic plans with regard to our operations. We review goodwill annually (or whenever indicators of impairment exist) for impairment in accordance with SFAS No. 142, Goodwill and Other Intangible Assets, (SFAS 142). We typically use an income approach to determine the fair value of our reporting units when performing our impairment test of goodwill in accordance with SFAS 142. The income approach establishes fair value by methods which discount or capitalize earnings and/or cash flow by a discount or capitalization rate that reflects market rate of return expectations, market conditions and the risk of the relative investment. If the fair value of a reporting unit is less than the carrying value of the reporting unit, an impairment would be recorded. In determining the fair value of our reporting units under the income approach, our expected cash flows are affected by various assumptions. The most significant assumptions affecting our expected cash flows are the discount rate, projected revenue growth rate and costs of development.
Litigation. The Company and certain of its subsidiaries have been named as defendants in various claims, complaints and other legal actions arising in the normal course of business. In addition, the Company has experienced a significant increase in the number of rescission claims and legal actions brought by resident contract purchasers alleging that various factors give them rescission rights under the Interstate Land Sales Act and other federal and state laws. Although the Company intends to vigorously contest these claims, there can be no assurance that the Company will prevail in each claim. However, future results of operations for any particular quarterly or annual period could be materially affected by changes in our estimates and assumptions related to these proceedings, or due to the ultimate resolution of the litigation.
Deferred Income Tax. Deferred income taxes or income tax benefits are provided for temporary differences between amounts recorded for financial reporting and for income tax purposes. In accordance with SFAS No. 109, “Accounting for Income Taxes” (SFAS 109), we periodically evaluate our deferred tax assets to determine if valuation allowances are required. SFAS 109 requires that companies assess whether valuation allowances should be established based on the consideration of all available evidence using a “more likely than not” standard. See notes to the consolidated financial statements under Item 8 of this document for further discussion.
Business Environment
Chapter 11 Reorganization
On August 4, 2008, WCI and 126 of its subsidiaries (excluding our Watermark real estate brokerage, our WCI Mortgage business and certain other joint ventures in which we are a partner) (the “Debtors”) filed voluntary petitions for reorganization relief under the provisions of Chapter 11 of the Code in the United States Bankruptcy
Court for the District of Delaware in Wilmington, Case No. 08-11643 (KJC). The list of the Debtors and Tax Identification Numbers is located on the docket for Case No. 08-11643 (KJC) [Docket No. 64] and http://chapter11.epiqsystems.com/wcicommunities.
We continue to operate our businesses and manage our properties as debtors and debtors-in-possession under the jurisdiction of the Bankruptcy Court and in accordance with the applicable provisions of the Code and orders of the Bankruptcy Court. As part of the “first day” relief, we obtained Bankruptcy Court approval to, among other things, continue to pay critical vendors and vendors with lien rights, meet our pre-petition payroll obligations, pay deficit funding obligations to our various community associations and clubs, maintain our cash management systems, sell homes free and clear of liens, pay our taxes, continue to provide employee benefits and maintain our insurance programs. Certain of these payment obligations are subject to monetary limits without specific approval for each transaction. The filing of the Chapter 11 petitions triggered repayment obligations under a number of our debt instruments and agreements. As a result, all of our debt obligations became immediately payable. We believe that any efforts to enforce the payment obligations are stayed as a result of the Chapter 11 filings.
Process for Plan of Reorganization. In order to exit Chapter 11 successfully, the Debtors will need to propose, and obtain confirmation by the Bankruptcy Court of, a plan of reorganization that satisfies the requirements of the Code. A plan of reorganization would resolve, among other things, the Debtors’ pre-petition obligations, set forth the revised capital structure of the newly reorganized entity and provide for corporate governance subsequent to exit from bankruptcy.
Currently we have the exclusive right to file a Chapter 11 plan or plans prior to April 30, 2009 and the exclusive right to solicit acceptance thereof until June 1, 2009. Pursuant to Section 1121 of the Code, the exclusivity periods may be expanded or reduced by the Bankruptcy Court, but in no event can the exclusivity periods to file and solicit acceptance of a plan or plans of reorganization be extended beyond 18 months and 20 months, respectively.
As a result of our Chapter 11 proceedings and other matters described herein, including uncertainties related to the fact that we have not yet had time to complete and obtain confirmation of a plan or plans of reorganization, there is substantial doubt about our ability to continue as a going concern. Our ability to continue as a going concern, including our ability to meet our ongoing operational obligations, is dependent upon, among other things:
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our ability to generate and maintain adequate cash;
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the cost, duration and outcome of the restructuring process;
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our ability to comply with the terms of the DIP financing order and, if necessary, seek further extensions of our ability to use cash collateral;
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our ability to achieve profitability following a restructuring given housing market challenges; and
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our ability to retain key employees.
These challenges are in addition to those operational and competitive challenges that we face in connection with our business. In conjunction with our advisors, we are implementing strategies to aid our liquidity and our ability to continue as a going concern. However, such efforts may not be successful.
We have taken and will continue to take aggressive actions to maximize cash receipts and minimize cash expenditures with the understanding that certain of these actions may make us less able to take advantage of future improvements in the homebuilding market. We continue to take steps to reduce our general and administrative expenses by streamlining activities and increasing efficiencies, which have led and will continue to lead to reductions in the workforce. However, much of our efforts to reduce general and administrative
expenses are being offset by professional and consulting fees associated with our Chapter 11 proceedings. We have and will continue to analyze each community based on anticipated sales absorption rates, net cash flows and financial returns taking into consideration current market factors in the homebuilding industry. In order to generate cash and reduce our inventory to levels consistent with our business plan, we have taken and will continue to take the following actions, to the extent possible given the limitations resulting from our Chapter 11 proceedings:
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limiting or eliminating any new arrangements to acquire land;
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engaging in bulk sales of land and unsold homes;
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reducing the number of unsold homes under construction and limiting and/or curtailing development activities in any development where we do not expect to deliver homes in the near future;
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renegotiating terms or abandoning our rights under option contracts;
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considering other asset dispositions including the possible sale of underperforming assets, communities, divisions and joint venture interests;
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reducing our unsold finished home levels; and
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pursuing other initiatives designed to monetize our assets.
BUSINESS STRATEGY
During the first quarter of 2009, the Company continued its cost reduction initiatives including a significant reduction of overhead, consolidation of operating divisions, closing of sales offices and rejection of leases/ contracts through the Bankruptcy Code, and further concentrated its efforts on selling speculative inventory and non-core assets.
In addition, due to the continuing deterioration of the housing industry nationally and in Florida in particular, and the challenging economic conditions and lack of visibility in the marketplace (including unpredictability in projecting pricing trends and housing recovery timeframes), the Company adopted a plan in early 2009 to currently suspend all new homebuilding construction activities except under limited circumstances, subject however, to completion of existing homes under construction or subject to pending purchase contracts. This plan also contemplates the continuation of the sale of our speculative inventory and the ongoing maintenance of our communities, amenities operations and real estate services.
As part of the Company’s overall strategy to explore alternatives to emerge from bankruptcy in an expeditious manner, the Company also engaged its financial/restructuring advisor to assist with a comprehensive marketing process for the sale or reorganization of the Company, as well as the disposition of certain assets. The Company continues to explore strategic alternatives.
RESULTS OF OPERATIONS
Overview
(a) Our gross margin includes overhead expenses directly associated with each line of business. See the condensed consolidated statements of operations for the details of other components that are part of the condensed consolidated loss before minority interest and income taxes for each period.
Reduced demand for our products and services experienced by each of our principal lines of business, lower sales prices, increased use of incentives and discounts, and asset impairment and land option abandonment charges contributed to significant decreases in revenue and gross margin for the year ended December 31, 2008.
For the year ended December 31, 2008, we recorded 805 gross orders, for combined traditional and tower homebuilding with an aggregate value of $486.0 million compared to 900 gross orders with an aggregate value of $599.3 million for the same period a year ago.
For the year ended December 31, 2008, we recorded real estate inventory impairment losses of approximately $601.0 million, recorded $36.6 million of property and equipment impairment losses, recorded goodwill impairment charges of approximately $1.3 million, recorded an impairment charge of approximately $4.5 million related to investments in two joint ventures, and recorded $16.3 million in lot option and land purchase abandonment charges. For the year ended December 31, 2007, we recorded real estate impairment losses of approximately $319.0 million, recorded goodwill impairment charges of approximately $59.5 million, recorded an impairment charge of approximately $10.7 million for an investment in a joint venture, and recorded $22.9 million in lot option and land purchase abandonment charges.
The tax benefit as a percentage of loss from continuing operations before income taxes for the year ended December 31, 2008 was approximately 2.0%. This was almost entirely due to recording valuation allowance for our deferred tax assets during 2008.
We believe the challenging market conditions are attributable to a national softening in demand for new homes as well as an oversupply of homes available for sale, particularly in our Florida market. We believe the decline in demand for our new homes is related to concerns of prospective home buyers regarding the direction of home prices, interest rates, availability of acceptable financing and their inability to sell their current homes. In addition to the traditional homebuyer, it appears that speculators and investors have significantly reduced their participation in the new home market. Many of our markets have been impacted by an overall increase in the supply of homes available for sale, as speculators and investors attempt to sell the homes they previously purchased or cancel contracts for homes under construction. High cancellation rates reported by other builders, and the increased cancellation rates we have experienced, are adding to the supply of homes in the marketplace. The weakness in the housing market has accelerated during 2008 as a result of the factors above, including increased foreclosures, lack of consumer confidence, significant disruptions in the broader financial markets and severe constraints in the credit markets.
The continuing deterioration of conditions in the markets in which we operate has had, and likely will continue to have for an extended period of time, a negative impact on our liquidity. Some of the factors which have adversely affected us include, but are not limited to, declines in new home orders; increased cancellations; defaults and rescission claims; increased use of incentives and discounts; reduced margins; significant tower project delays and increased interest and insurance costs; general contractor financial instability; impairments to our assets; and credit rating downgrades. All of these factors, and others which may arise in the future, have adversely impacted and will likely continue to adversely impact our financial condition.
Homebuilding
Traditional homebuilding
Year ended December 31, 2008 compared to year ended December 31, 2007
Traditional home revenues decreased 59.4% for the year ended December 31, 2008 compared to the year ended December 31, 2007 due primarily to a 46.6% decline in home deliveries and a 24.1% decrease in average selling price per home closed. We closed 423 units in our Florida market for the year ended December 31, 2008 compared to 671 units in the same period last year. The Northeast U.S. and Mid-Atlantic U.S. markets closed a combined 107 units for the year ended December 31, 2008 compared to 321 units in the same period last year. The Northeast U.S. market experienced a 67.1% decrease in home deliveries primarily as a result of one community where deliveries increased to 155 units in the twelve months ended December 31, 2007 due to construction delays in prior periods that pushed deliveries into 2007. The decreases in the average selling price per home closed for the year ended December 31, 2008 reflect the overall challenging market conditions, our focus on selling existing unsold completed homes, and the change in the mix of homes closed.
Lot revenues decreased to $6.8 million from $16.4 million for the year ended December 31, 2008. From time to time, we sell certain lots for custom homes directly to prospective residents or custom homebuilders as part of our strategy to serve a broad range of customers. Lot sales are not a primary driver of the traditional homebuilding segment and therefore will fluctuate from time to time.
The decreases in home gross margin for the year ended December 31, 2008 were due to lower selling prices, continued use of discounts and incentives and the recording of asset impairment losses. Sales discounts and incentives for the year ended December 31, 2008 totaled approximately $74.2 million compared to $119.5 million for the same period last year. Home gross margin for the year ended December 31, 2008 was favorably impacted by $5.1 million in forfeited deposits from contract cancellations compared to $12.3 million for the same period in 2007.
We continue to focus on selling finished homebuilding product by lowering sales prices in our communities to meet the competitive market and to generate cash flow. In addition, we re-evaluated our undiscounted expected cash flows related to our communities under development. As a result we recorded $254.2 million of asset impairment and lot option abandonment losses for the year ended December 31, 2008, compared to $149.6
million for the year ended December 31, 2007. If conditions in the homebuilding industry worsen in the future, we may be required to evaluate additional homes and projects which may result in additional impairment charges and such charges could be significant.
The following table presents traditional homebuilding impairment and lot option abandonment charges by geographic location:
Contract values of new orders decreased 35.8% for the year ended December 31, 2008 compared to the same period in 2007, primarily due to the decline in the number of new orders and the decrease in average selling price. For the year ended December 31, 2008 our Florida, Northeast U.S and Mid-Atlantic U.S markets had net new order declines of 1, 140 and 25 units, respectively, compared to the same period in 2007. The 80.0% decrease in backlog contract values reflects an 81.1% decrease in backlog units offset with a 5.5% increase in the average sales price of homes under contract to $637,000 in 2008 compared to $604,000 in 2007. The decline in backlog contract values and units can be attributed to the weak homebuilding sales experienced in most of our markets and our cancellation rate. Our cancellation rate on traditional homes for the year ended December 31, 2008 was approximately 49.4%, of contracts signed, compared to 50.0% for the same period in 2007. Based on recent cancellation experience, we do not expect to completely deliver the 60 units in backlog at December 31, 2008.
We employ a wide range of sales incentives and discounts to market our homes to prospective buyers, particularly in these difficult market conditions. These incentives are an important aspect of our sales and marketing of homes, and we have relied heavily on them during this sustained downturn in the housing industry. Without the use of these marketing incentives and discounts, our ability to sell homes would be adversely impacted.
Year ended December 31, 2007 compared to year ended December 31, 2006
Traditional home revenues decreased 34.9% for the year ended December 31, 2007 due primarily to the 37.1% decline in home deliveries, partially offset by a 3.7% increase in average selling price per home closed. In 2007, we closed 671 units in our Florida market compared to 1,312 in 2006. The Northeast U.S. and Mid-Atlantic U.S. markets closed 255 units and 66 units for the year compared to 152 units and 113 in 2006. The Northeast U.S. market experienced a 67.8% increase in home deliveries in 2007, primarily as a result of one community where deliveries increased to 155 units due to construction delays in prior periods that pushed
deliveries into 2007. The increase in the average selling price per home closed for the year ended December 31, 2007 was positively impacted by a 10.1% increase contributed by the Florida market, as well as the $1.2 million average price achieved by our Mid-Atlantic U.S. market. The Florida and Northeast U.S. markets achieved average selling prices per home closed of $709,000 and $553,000 for the year ended December 31, 2007, respectively. During 2006, Florida, Northeast U.S and Mid-Atlantic U.S achieved average selling prices per home closed of $644,000, $562,000 and $1.2 million, respectively.
Lot revenues decreased $21.6 million for the year. From time to time, we sell certain lots for custom homes directly to prospective residents or custom homebuilders as part of our strategy to serve a broad range of customers. Lot sales are not a primary strategy of the traditional homebuilding segment and therefore will fluctuate from time to time.
The decrease in the home gross margin percentage to (7.2%) from 10.6% in 2006 was primarily due to increased utilization of sales discounts, incentives, and the recording of impairment losses on inventories, and charges related to lot option and land purchase abandonments. Impairment charges and charges related to lot option and land purchase abandonments included in cost of sales reduced gross margin by 2,150 basis points in 2007 and 1,120 basis points in 2006. Sales discounts and incentives for the year ended December 31, 2007 totaled approximately $119.5 million compared to approximately $58.3 million in 2006. Home gross margin for 2007 was favorably impacted by $12.3 million in forfeited deposits from contract cancellations compared to $5.7 million in 2006. The Florida, Northeast U.S. and Mid-Atlantic U.S. markets, achieved gross margins of (11.4%), (2.3%) and 9.5%, respectively for the year ended December 31, 2007 compared to 10%, 9.5% and 15.2% in 2006, respectively.
We recorded approximately $139.0 million of asset impairment losses for the year ended December 31, 2007, compared to $93.7 in 2006. During 2007, due to the unfavorable residential real estate market, we did not enter into any new land and lot contracts. In addition, we re-evaluated our traditional homebuilding land and lots under contract considering the significant changes in economic and market conditions. For the year ended December 31, 2007, we recorded write-offs of approximately $10.7 million in forfeited deposits, pre-development costs and estimated future payments associated with the termination or probable termination of land and lot option contracts. For the year ended December 31, 2006, the write-offs totaled approximately $26.3 million. If conditions in the homebuilding industry worsen in the future, we may be required to evaluate additional projects for potential impairment which may result in additional impairment charges and such charges could be significant.
Contract values of net new orders decreased 65.2%, primarily due to the decline in the number of gross new orders and the effects of cancellations and defaults. For 2007, our Florida, Mid-Atlantic and Northeast U.S. markets had gross new order declines of 269, 118 and 4 units, respectively, compared to 2006.
The 71.9% decrease in backlog contract values reflects a 63.6% decrease in backlog units combined with a 23.1% decrease in the average sales price of homes under contract to $604,000 in 2007 compared to $785,000 in 2006. The decrease in average sales price of homes under contract can be attributed to sales discounts and a shift in product mix. The decline in backlog contract values and units can be attributed to the weak homebuilding sales experienced in most of our markets and an increase in our cancellation rate. Our cancellation rate on traditional homes for 2007 was approximately 49.5% of gross new contracts signed, as compared to 40.5% in 2006. Based on recent cancellation experience, we do not expect to completely deliver all of the 317 units in backlog at December 31, 2007.
During 2007, we used significant incentives and discounts to sell units. We employ a wide range of sales incentives and discounts to market our homes to prospective buyers, particularly in these difficult market conditions. These incentives are an important aspect of our sales and marketing of homes, and we rely on them more heavily in promoting communities experiencing weaker demand or to promote the sale of completed unsold homes. Without the use of these marketing incentives and discounts, our ability to sell homes would be adversely impacted.
Tower homebuilding
Year ended December 31, 2008 compared to year ended December 31, 2007
Tower revenues were favorably impacted by $11.1 million in forfeited deposits for the year ended December 31, 2008 compared to $21.7 million for the year ended December 31, 2007. The significant reduction of towers under construction recognizing revenue during the year ended December 31, 2008 as compared to 2007, and the reversal of revenue due to tower unit defaults contributed to the decline in revenues. One tower was under construction and recognizing revenue for the year ended December 31, 2008 compared to 11 towers for 2007. During the year ended December 31, 2008, we recorded 107 defaulted contracts that resulted in the reversal of approximately $119.3 million in revenue compared to 211 defaulted contracts and the reversal of $231.9 million in revenue in the same period of 2007. In addition, during the year ended December 31, 2008, we recorded 107 defaulted contracts, related to one of our tower projects in Florida. These defaults did not impact our tower revenue or gross margin since we had previously ceased using percentage-of-completion accounting during the fourth quarter of 2007. The twelve months ended December 31, 2008, was affected by the rescission of 24 contracts at The Watermark in connection with the previously disclosed agreement with the State of New Jersey Department of Community Affairs. The impact was a reversal of approximately $27.1 million of revenue and $4.2 million of gross margin, plus the return of approximately $5.4 million in deposits. During the year ended December 31, 2008, we recorded revenue of approximately $166.3 million in connection with the closing of 203 units from our inventory of completed and unsold tower units.
For the year ended December 31, 2008, tower gross margin was impacted by $321.1 million of land option abandonment charges and asset impairment losses. In addition, for the year ended December 31, 2008, gross margin was negatively impacted by approximately $7.9 million in costs associated with the hotel operations of our tower segment.
All towers under construction were completed at June 30, 2008. For the year ended December 31, 2007, tower gross margin was impacted by several changes in estimated revenues and costs, including (1) a $11.2 million increase to the contracts receivable default reserve that was required to absorb the effect of the 211 defaulted contracts and to update the balance of the reserve to reflect expected future defaults, (2) a $7.9 million increase in interest costs associated with increased tower construction cycle times, (3) a $5.9 million increase in insurance costs, (4) a $38.4 million increase in tower construction costs, incentives and sales discounts and other
costs and, (5) impairment losses of approximately $159.2 million related to certain completed tower units. The changes in estimates of tower construction costs are accounted for on a cumulative basis in the period that the change occurs. Future gross margins in towers currently under construction may be materially impacted by any additional changes in estimates.
The following table presents tower homebuilding impairment and land option abandonment charges by geographic location:
For the year ended December 31, 2008, we recorded 265 gross new orders with a contract value of approximately $220.7 million offset by defaults and cancellations of 283 contracts with a contract value of approximately $324.1 million. Included in the 283 cancellations and defaults were 107 defaults, with a contract value of approximately $132.7 million, related to one of our tower projects in Florida.
Year ended December 31, 2007 compared to year ended December 31, 2006
Tower revenues recognized using the percentage-of-completion method decreased $716.3 million. Tower revenues were favorably impacted in 2007 by $21.7 million in forfeited deposit income compared to $4.8 million in 2006. The decline in tower unit sales in buildings under construction, fewer towers under construction recognizing revenue, and slower construction cycles contributed to the decline in percentage-of-completion revenues. Eleven towers with a total sellout value of $1.5 billion were under construction and recognizing revenue during the year ended December 31, 2007 compared to 24 towers with a total sellout value of $2.4 billion in 2006. During 2007, we recorded 211 defaulted contracts that resulted in the reversal of approximately $231.9 million of revenue compared to 46 defaulted contracts and the reversal of approximately $46.5 million of revenue in 2006. The impact to gross margin was charged against the contracts receivable default reserve.
For the year ended December 31, 2007, tower gross margin was impacted by several changes in estimated revenues and costs, including (1) a $11.2 million increase to the contracts receivable default reserve that was required to absorb the effect of the 211 defaulted contracts and to update the balance of the reserve to reflect expected future defaults, (2) a $7.9 million increase in interest costs associated with increased tower construction cycle times, (3) a $5.9 million increase in insurance costs, (4) a $26.6 million increase in tower construction costs, incentives and sales discounts and other costs, (5) a $38.4 million reserve applied to the cumulative gross margin recognized for one of our uncompleted tower projects, (6) impairment losses of approximately $159.2 million related to certain completed tower units, one uncompleted tower project and undeveloped tower land sites
and, (7) write-offs of approximately $11.7 million in forfeited deposits, pre-development costs and estimated future payments associated with the termination or probable termination of land and lot option contracts. The changes in estimates of tower construction costs are accounted for on a cumulative basis in the period that the change occurs. Future gross margins in towers currently under construction may be materially impacted by any additional changes in estimates.
During the year ended December 31, 2007 one of our tower projects continued use of the percentage-of-completion. While the general real estate market, and specifically the Florida tower market, has deteriorated during the past two years, we determined that we had the ability to reasonably estimate the aggregate sales proceeds and costs of the tower project which supported the use of the percentage-of-completion method of revenue and profit recognition though September 2007. We ceased the future use of percentage-of-completion accounting as of October 1, 2007, reserved 100% of the previously recognized cumulative profit totaling $38.4 million, and reverted to the deposit method of accounting. The accounting for units at closing will be determined by the facts and circumstances at that time ranging from the cost recovery method, if the collection of sales proceeds is not reasonably assured (paragraph 35 of SFAS 66) to full accrual method if all conditions of paragraph 5 of SFAS 66 are met.
We recorded approximately $159.2 million of asset impairment losses for the year ended December 31, 2007, compared to none in 2006. During 2007, due to the unfavorable residential real estate market, we did not enter into any new land and lot contracts. In addition, we re-evaluated our tower homebuilding land under contract considering the significant changes in economic and market conditions. For the year ended December 31, 2007, we recorded write-offs of approximately $11.7 million in forfeited deposits, pre-development costs and estimated future payments associated with the termination or probable termination of land and lot option contracts. For the year ended December 31, 2006, the write-offs totaled approximately $0.6 million.
For the year ended December 31, 2007, we recorded 31 gross new orders with a contract value of approximately $32.3 million offset by the default of 211 contracts with a contract value of approximately $231.9 million. Similar to the traditional homebuilding division, our tower division experienced a significant decline in gross new orders, partly due to the increased supply of existing tower units for sale on the market in Florida, as well as reduced participation in the new home market by investors and speculators.
The 91.1% decrease in backlog contract values was due to the completion of towers combined with no new towers under construction. We have 2 towers under construction at December 31, 2007.
Real estate services
Year ended December 31, 2008 compared to year ended December 31, 2007
Real estate services revenues for the year ended December 31, 2008, including real estate brokerage and title operations, decreased 21.1%. The decrease in revenue is due to the decrease in the average sales price per transaction offset by an increase in brokerage transaction volume.
During the year ended December 31, 2008, Prudential Florida WCI Reality brokerage transaction volume increased 6.2% to 6,653 closings from 6,262 closings in 2007. The average sales price per transaction decreased 24.1% to $330 from $440 in 2007. The decrease in gross margin percentage for the year ended December 31,
2008, was primarily due to the decrease in revenue without a proportional decrease in fixed overhead cost associated with Prudential Florida WCI Realty partially offset by the reduced overhead contributed by the title operations.
Year ended December 31, 2007 compared to year ended December 31, 2006
Real estate services revenues, including real estate brokerage and title operations, for the year ended December 31, 2007 decreased 16.1% primarily due to a decrease in the volume of transactions associated with our Prudential Florida WCI Realty brokerage operations and the sale of our mortgage banking operations in June 2006.
During 2007, Prudential Florida WCI Realty brokerage transaction volume decreased 20.1% to 6,262 closings from 7,842 in 2006. The decrease in the number of transactions is primarily due to the decline in demand for homes in the Florida market. In June 2006, we sold our mortgage banking operations, formerly operated under the business name of Financial Resources Group, Inc., to a newly formed joint venture, WCI Mortgage LLC. In conjunction with the formation of WCI Mortgage LLC, we sold a 50.1% interest in the newly formed company to Wells Fargo Ventures, LLC. WCI Mortgage LLC began originating and funding mortgage loans for our new home and resale customers, beginning in the third quarter of 2006. WCI Mortgage LLC is accounted for as an unconsolidated joint venture in our financial statements.
The decrease in gross margin percentage for both periods was primarily due to the decrease in revenue without a proportional decrease in fixed overhead costs associated with Prudential Florida WCI Realty combined with approximately a $1.6 million write off related to unoccupied leased facilities, partially offset by the reduced overhead and increased revenues contributed by the title operations.
Other revenues and cost of sales
Amenity membership and operations
Year ended December 31, 2008 compared to year ended December 31, 2007
Total amenity membership and operations revenue increased 1.0% for the year ended December 31, 2008. For the year ended December 31, 2008, we recorded $33.3 million of impairment losses related to our investments in equity club memberships compared to $20.2 million in 2007. For the year ended December 31, 2007, the company recognized $2.1 million of previously deferred revenue related to slip sales at one of our marinas in Florida. In April 2007, we sold a non-golf recreational facility for $47.5 million (excluding closing costs) and recorded a pre-tax gain of approximately $20.1 million. The gain from the sale and the operations has been reflected as discontinued operations in the statements of income. Amenity gross margins continue to be adversely affected by deficits associated with new amenity operations and slow absorption of membership sales.
Year ended December 31, 2007 compared to year ended December 31, 2006
Total amenity membership and operations revenue decreased 9.2% due to reduced operating revenue from the sale of two non-golf recreational amenity assets offset by the recognition of $2.1 million of previously deferred revenue related to slip sales at one of our marinas in Florida. During 2007, we sold two non-golf recreational facilities for $55.7 million (excluding closing costs) and recorded a pre-tax gain of approximately $22.4 million. The gain from the sales and the operations has been reflected as discontinued operations. In
addition to the impact of selling the recreational facility and golf club, the revenues for the year ended December 31, 2007 were impacted by the continued decline in luxury membership sales and increased competition in the Florida market.
Gross margin was adversely impacted by recording approximately $20.2 million of asset impairment and abandonment charges for the year ended December 31, 2007, compared to $4.5 million in 2006. See “Notes to Consolidated Financial Statements” for additional explanation. Amenity gross margins continue to be adversely affected by deficits associated with new amenity operations and slow absorption of membership sales.
Land Sales
Year ended December 31, 2008 compared to year ended December 31, 2007
During 2008, we sold a residential project that resulted in revenue of approximately $79.4 million with gross margin of $6.1. During 2007, we sold 7 commercial parcels located in our Florida market for $18.1 million in revenue with a gross margin of 52.4%. For the year ended December 31, 2008, we recorded $8.8 million of impairment losses on certain land parcels. Land sales are ancillary to our overall operations and are expected to continue in the future, but may significantly fluctuate.
Year ended December 31, 2007 compared to year ended December 31, 2006
During 2007, we sold 7 commercial parcels located in our Florida market for $18.1 million in revenue with a gross margin of 52.4%. We sold no commercial parcels in our Northeast U.S. and Mid-Atlantic U.S. Markets. Land sales are ancillary to our overall operations and are expected to continue in the future, but will significantly fluctuate.
Other Revenues and Costs of Sales
Other revenues and cost of sales includes our property management operations which are an ancillary business primarily providing management services to our communities and other miscellaneous revenues and costs.
Other income and expense
Year ended December 31, 2008 compared to year ended December 31, 2007
Other income for the year ended December 31, 2008 includes interest income on mortgage notes, customer deposits and other non-operating fee income and expenses, respectively. The hurricane recoveries in 2007 represent the final settlement of our Hurricane Wilma claims. Included in other expense (income) for the year ended December 31, 2008 is approximately $14.6 million of expense related to the write-off of minority interest losses related to a consolidated joint venture in which the company is funding 100% of the operations. Also included in other expense is $4.5 million for the write-off of capitalized costs related to our unsuccessful debt restructuring efforts prior to our filing petitions for reorganization relief.
During the year end December 31, 2008, we recorded $36.6 million of asset impairment losses related to certain recreational amenities owned and operated by us and classified as property and equipment.
During 2007, we removed the cash flow hedge designation related to an interest rate swap agreement as the result of our bank facility modifications and we are no longer applying hedge accounting. The non-cash mark-to-market resulted in a $929,000 loss for the year ended December 31, 2008. The losses are included in other expense (income). In addition, due to our filing of petitions under Chapter 11 of the Bankruptcy Code, the interest rate swap agreement was terminated by the counterparty and the fair value on the termination date became due and payable as a secured obligation to the counterparty. We incurred $27.8 million of restructuring costs for the year ended December 31, 2008 associated with our reorganization under Chapter 11.
Selling, general and administrative expenses (SG&A) including real estate taxes, decreased 29.8% to $131.3 million for the year ended December 31, 2008. General and administrative costs decreased 42.6% for the respective period due to cost reductions in salaries and benefits as compared to the same period in 2007, and the non-recurring costs incurred in 2007 related to our engagement of Goldman Sachs & Co. as our financial advisor to assist us in a thorough review of the Company’s business plans, capital structure and growth prospects, with the objective of enhancing the Company’s value for all of our shareholders. Sales and marketing expenditures decreased 33.0% during the year ended December 31, 2008, primarily due to the reduction in advertising expenditures and sales office overhead reductions.
Interest incurred decreased 23.0% for the year ended December 31, 2008. Interest capitalized decreased 80.1% for the year ended December 31, 2008, primarily due to the decrease in real estate inventories under development in each period. As of the filing of the petitions for reorganization, we discontinued accruing interest on pre-petition unsecured debt obligations. Contractual interest for the year ended December 31, 2008 equaled $129.1 million.
Year ended December 31, 2007 compared to year ended December 31, 2006
Other income for the year ended December 31, 2007 includes interest income and other non-operating fee income and expenses. The hurricane recoveries represent settlement amounts from our Hurricane Wilma claims.
During the year ended December 31, 2007, we recorded approximately $10.7 million of valuation adjustments to our investments in unconsolidated entities in accordance with Accounting Principles Board 18. The Company did not record any adjustments to its investments in unconsolidated entities related to SFAS 144 or APB 18 during 2006 or 2005. These valuation adjustments were calculated based on current market conditions and assumptions made by management, which may differ materially from actual results if market conditions change.
During 2007, we removed the cash flow hedge designation related to an interest rate swap agreement as the result of our bank facility modifications and we are no longer applying hedge accounting. The non-cash mark-to-market loss recorded in 2007 was approximately $8.8 million.
SG&A expenses including real estate taxes, decreased 3.2% to $187.0 million for the year ended December 31, 2007. General and administrative costs increased 6.5% primarily due to approximately $10 million in costs related to the engagement of Goldman Sachs & Co. and other outside advisors in connection with the
proxy contest, in our response to the tender offer, and the company sale process. Sales and marketing expenditures decreased 28.7%, primarily due to the reduction in advertising expenditures and sales office overhead reductions.
Interest incurred increased 15.8% for the year ended December 31, 2007 primarily as a result of the average debt balance increasing to $1.9 billion for 2007 as compared to $1.7 billion in the same period last year. Interest capitalized decreased 34.6%, primarily due to the decrease in real estate inventories under development.
We review goodwill annually (or whenever indicators of impairment exist) for impairment in accordance with SFAS No. 142. Our 2007 goodwill impairment charges of approximately $59.5 million were comprised of approximately $38.1 million related to specific homebuilding acquisitions made during the years 2004-2005, and approximately $21.4 million related to our homebuilding and amenities operations in Florida. Our real estate services goodwill was considered not impaired based on our estimated fair values of the reporting units exceeding the carrying value of those reporting units.
As a result of our modifications and amendments to our various bank facilities that occurred during 2007, we wrote-off approximately $7.7 million of previously capitalized loan costs that were considered to have no future value.
Total Taxes
Deferred federal and state income tax assets primarily represent the deferred tax benefits arising from temporary differences between book and tax income which will be recognized in future years as an offset against future taxable income. In accordance with SFAS No. 109, “Accounting for Income Taxes” (SFAS 109), we evaluate our deferred tax assets quarterly to determine if valuation allowances are required. SFAS 109 requires that companies assess whether valuation allowances should be established based on the consideration of all available evidence using a “more likely than not” standard. Given the continued downturn in the homebuilding industry during the fourth quarter of 2008, resulting in additional inventory and intangible impairments, land purchase option write-offs and operating losses, we are currently in a three year cumulative loss position at December 31, 2008. According to SFAS 109, a three year cumulative loss is significant negative evidence in considering whether deferred tax assets are realizable, and also precludes relying on projections of future taxable income to support the recovery of deferred tax assets. During 2008, we continued recording valuation allowances against our deferred tax assets. The remaining deferred tax assets for which there is no valuation allowance relate to amounts that can be realized through future reversals of existing taxable temporary differences or through carryback to the 2007 year. Our approximate $195.0 million of federal net operating loss carryforwards remaining after carrybacks to 2006, expire December 31, 2028.
LIQUIDITY AND CAPITAL RESOURCES
The matters described herein, to the extent that they relate to future events or expectations, may be significantly affected by our Chapter 11 proceedings. Those proceedings will involve, or may result in, various restrictions on our activities, limitations on financing, the need to obtain Bankruptcy Court and Creditors’ Committee approval for various matters and uncertainty as to relationships with vendors, suppliers, customers and others whom we may conduct or seek to conduct business.
Significant Liquidity Events
The filing of the Chapter 11 petitions triggered repayment obligations under a number of our debt instruments and agreements. As a result, all of our debt obligations became immediately payable. We believe that any efforts to enforce the payment obligations are stayed as a result of the Chapter 11 filings.
Debtor-in-Possession Financing
On September 24, 2008, pursuant to authorization from the Bankruptcy Court, the Company entered into a $150 million Debtor-In-Possession Credit Agreement (the “DIP Agreement”) with a syndicate of lenders, some of which were lenders under the Company’s pre-petition secured debt facilities, led by Wachovia Bank, National Association, acting as administrative agent, and Bank of America, N.A. acting as collateral agent. The Court also granted the Company final authority to continue using its on-hand cash collateral during the Chapter 11 case. The DIP Credit Agreement includes an $80 million term loan and a $70 million revolving credit facility (collectively, the “DIP Loans”). The $80 million term loan was a required borrowing on the closing date, approximately $50 million of which was used to repay the outstanding balance under the Company’s Third Consolidated, Amended and Restated Revolving Credit Construction Loan Agreement, dated as of September 22, 2005 (the “Pre-Petition Tower Facility”) with the remainder to be used for general corporate purposes. Availability of funds under the revolving credit facility is subject to a limitation on the amount of cash and cash equivalents held by the Company. The Company may also request the issuance of up to $25 million in letters of credit. As part of the order, the Company granted the prepetition agents and the lenders various forms of protection, including liens and administrative claims to protect against the diminution of the collateral value to the extent provided in the final order approving the DIP Agreement. The DIP Agreement initially matures on September 24, 2009, subject to a six-month extension period. Borrowings under the DIP Agreement bear interest at the Eurodollar Rate plus 6.0% or an index base rate plus 5.0%.
The Company’s obligations under the DIP Agreement are guaranteed by substantially all of our subsidiaries (the “Guarantors”). The Company is required to make certain mandatory repayments under the DIP Agreement in the event it sells certain assets, including bulk unit sales, subject to certain exceptions. Certain mandatory repayments may permanently reduce the original borrowing capacity, as further defined in the DIP Agreement.
The DIP Agreement and the related guarantees are secured by first priority liens on substantially all of the Company’s and the Guarantors’ assets. The DIP Agreement includes certain covenants that impose substantial restrictions on the Company’s and the Guarantors’ financial and business operations, including the ability to, among other things, incur or secure other debt, make investments, sell assets and pay dividends or repurchase stock. In addition, the Company is required to maintain an Appraised Value Ratio, as defined, of not less than 1.26 to 1.0, and to meet certain monthly cash flow variance tests. At February 28, 2009, we were in compliance with these covenants.
Sources and Uses of Cash
Cash and cash equivalents totaled $113.2 million as of December 31, 2008 and $188.8 million at December 31, 2007. Restricted cash totaled $12.3 million at December 31, 2008 and $20.4 million at December 31, 2007.
Cash provided by operating activities
For the year ended December 31, 2008, cash provided by operating activities totaled $253.9 million, which included the following significant items:
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A net loss of $936.8 million, which includes asset impairment losses and land acquisition termination costs of $659.5 million.
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A decrease in contracts receivable of $358.3 million due to cash collections, combined with contract defaults and cancellations.
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A decrease of $196.5 million in real estate inventories primarily due to closings of homes and land parcels.
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A $83.1 million income tax refund.
Cash used in investing activities
For the year ended December 31, 2008, cash used in investing activities totaled $2.6 million, which was comprised of a net $2.5 million increase in property and equipment.
Cash used in financing activities
For the year ended December 31, 2008, cash used in financing activities totaled $326.8 million and included the following significant items:
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Combined net repayments of $386.0 million on our revolving credit facility, term note, and other mortgages and notes payable.
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During the September 2008 quarter and in conjunction with our Chapter 11 filing, we obtained Debtor-in-Possession financing including proceeds of approximately $80 million from the Term Loan portion.
The Company has been experiencing a reduction in availability and in some cases cancellation of surety bond capacity and continuation of outstanding bonds. In addition to increasing cost of surety bond premiums there may be some cases where we may have to obtain a letter of credit or some other type of collateral to secure necessary surety bonds or, if unable to secure such bonds, may elect to post alternative forms of collateral with government entities or escrow agents.
The following table summarizes our payments under debt, operating lease and purchase obligations as of December 31, 2008:
(1) The filing of the Chapter 11 petitions triggered repayment obligations under a number of our debt instruments and agreements. As a result, all of our debt obligations became immediately payable. We believe that any efforts to enforce the payment obligations are stayed as a result of the Chapter 11 filings. The $78.9 million appearing in 2009 relates to outstanding amounts under our Debtor-in-Possession Term Note and a $1.8 million pre-petition secured note.
(2) Interest payments on our Debtor-in-Possession Term Note, Revolving Credit Facility and Senior Secured Term Note have been estimated assuming that the outstanding balances and underlying fixed or variable interest rates that existed at December 31, 2008 do not change until contractual maturity of the specific debt. Does not include contractual interest on subordinated notes classified as “Liabilities Subject to Compromise.”
(3) Total obligations exclude future estimated payments related to community development district obligations. (See Notes to our consolidated financial statements)
OFF-BALANCE SHEET ARRANGEMENTS
We selectively enter into business relationships through the form of partnerships and joint ventures with unrelated parties. These partnerships and joint ventures are utilized to acquire, develop, market and operate homebuilding, amenities and real estate projects. In connection with the operation of these partnerships and joint ventures, the partners may agree to make additional cash contributions to the partnerships pursuant to the partnership agreements. We believe that future contributions, if required, will not have a significant impact on our liquidity or financial position. If we fail to make required contributions, we may lose some or all of our interest in such partnerships or joint ventures. Effective February 2009, our interests in two joint ventures were dissolved and we were released from any further obligations under the joint venture agreements. See the Notes to Consolidated Financial Statements for further discussion.
In the normal course of business, we enter into contractual arrangements to acquire developed and undeveloped land parcels and lots. As of December 31, 2008, we currently have no remaining active land or lot option purchase contracts.
Standby letters of credit and performance bonds, issued by third party entities, are used to guarantee our performance under various contracts, principally in connection with the development of our projects and land purchase obligations. As of December 31, 2008 we had approximately $37.1 million in letters of credit outstanding. Performance bonds do not have stated expiration dates; rather, we are released from the bonds as the contractual performance is completed. These bonds, which approximated $74.5 million as of December 31, 2008, are typically outstanding over a period of approximately one to five years.
INFLATION
The homebuilding industry is affected by inflation as it relates to the cost to acquire land, land improvements, homebuilding raw materials and subcontractor labor. We compete with other builders and real estate developers for raw materials and labor. On certain occasions we have experienced vendors limiting the supply of raw materials which slows the land, home and tower development process and requires us to obtain raw materials from other vendors, typically at higher prices. Unless these increased costs are recovered through higher sales prices, our gross margins would be impacted. Because the sales prices of our homes in backlog are fixed at the time a buyer enters into a contract to acquire a home, any inflation in the costs of raw materials and labor costs greater than those anticipated may result in lower gross margins.
In general, if interest rates increase, construction and financing costs could increase, which would result in lower future gross margins. Increases in home mortgage interest rates may make it more difficult for our customers to qualify for home mortgage loans, potentially decreasing home sales revenue.
CAUTIONARY STATEMENT REGARDING FORWARD-LOOKING INFORMATION
Certain information included herein and in other company reports, Securities and Exchange Commission filings, statements and presentations is forward-looking within the meaning of the Private Securities Litigation Reform Act of 1995, including, but not limited to, statements about the company’s ability to operate its business while in Chapter 11 proceedings, anticipated operating results, financial resources, ability to acquire land, ability to sell homes and properties, ability to deliver homes from backlog, and ability to secure materials and subcontractors. Such forward-looking information involves important risks and uncertainties that could significantly affect actual results and cause them to differ materially from expectations expressed herein and in other company reports, filings, statements and presentations.
These risks and uncertainties include WCI’s ability to compete as a going concern in real estate markets where we conduct business; WCI’s ability to obtain court approval with respect to motions in the Chapter 11 proceedings prosecuted by it from time to time; the ability of WCI to develop, prosecute, confirm and
consummate one or more plans of reorganization with respect to the Chapter 11 cases; risks associated with third parties seeking and obtaining court approval to terminate or shorten the exclusivity period for WCI to propose and confirm one or more plans of reorganization, for the appointment of a Chapter 11 trustee or to convert the cases to Chapter 7 cases; WCI’s ability to obtain and maintain normal terms with vendors and service providers; WCI’s ability to maintain contracts that are critical to its operations; the potential adverse impact of the Chapter 11 cases on WCI’s liquidity or results of operations; the ability of WCI to fund and execute its business plan; the ability of WCI to attract, motivate and/or retain key executives and employees; WCI’s ability to maintain or increase historical revenues and profit margins; WCI’s ability to obtain necessary permits and approvals for the development of its lands; the availability of capital to WCI and our ability to effect growth strategies successfully; availability of labor and materials and material increases in insurance, labor and material costs; increases in interest rates and availability of mortgage financing; continued volatility in housing markets and economic conditions; the ability of prospective residential buyers to obtain mortgage financing due to tightening credit markets, appraisal problems or other factors; increases in construction and homeowner insurance and availability of insurance, the continuing negative buyer sentiment and erosion of consumer confidence; the negative impact of claims for contract rescission or increasing cancellation rates by contract purchasers; adverse legislation or regulations; impact of governmental regulations, including the Emergency Economic Stabilization Act and the American Recovery and Reinvestment Act, adverse legal proceedings; changes in generally accepted accounting principles; natural disasters; adverse weather conditions; terrorist acts and other acts of war; and changes in general economic, real estate and business conditions and other factors over which the company has little or no control. If one or more of the assumptions underlying our forward-looking statements proves incorrect, then the company’s actual results, performance or achievements could differ materially from those expressed in, or implied by the forward-looking statements contained in this report. Therefore, we caution you not to place undue reliance on our forward-looking statements. We undertake no obligation to update or revise any forward-looking statements, whether as a result of new information, future events or otherwise. This statement is provided as permitted by the Private Securities Litigation Reform Act of 1995.
ITEM 7A.
ITEM 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
We utilize fixed and variable rate debt. Changes in interest rates on fixed rate debt generally affect the fair market value of the instrument, but not our earnings or cash flow. Changes in interest rates on variable rate debt generally do not impact the fair market value of the instrument but does affect our earnings and cash flow. We are exposed to market risk primarily due to fluctuations in interest rates on our variable rate debt. Effective December 23, 2005, we hedged a portion of our exposure to changes in interest rates by entering into an interest swap agreement to lock in a fixed interest rate. The swap agreement effectively fixed the variable rate cash flows on our $300.0 million of variable rate senior term note and expires December 2010. On August 17, 2007, we amended the senior term note agreement, which required us to reduce the balance to $262.5 million and increased the interest rate. As a result, the underlying terms of the interest swap agreement no longer effectively matched the terms of the senior term note and we removed the designation of the swap agreement as a cash flow hedge. Subsequent changes in the fair value of the swap agreement are reflected in other income and expense in the consolidated statements of income. Due to our filing of petitions under Chapter 11 of the Code, the interest rate swap agreement was terminated by the counterparty and the fair value on the termination date became due and payable as a secured obligation to the counterparty. At December 31, 2008, the fair value of the swap agreement of ($10.6) million is reflected in liabilities subject to compromise in the consolidated balance sheet.
The Chapter 11 petitions triggered repayment obligations under a number of our debt instruments and agreements. As a result, all of our pre-petition debt obligations became immediately payable and have been reflected as such in the following table. We believe any efforts to enforce the payment obligations are stayed as a result of the Chapter 11 filings. Due to the filing of Chapter 11 petitions, we are unable to obtain or estimate a reasonable fair market value of our debt obligations (dollars in millions).
ITEM 8.
ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTAL DATA
Report of Independent Registered Public Accounting Firm
The Board of Directors and Shareholders of WCI Communities, Inc:
We have audited the accompanying consolidated balance sheets of WCI Communities, Inc. (the Company) as of December 31, 2008 and 2007, and the related consolidated statements of operations, shareholders’ equity, and cash flows for each of the three years in the period ended December 31, 2008. 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 at 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 WCI Communities, Inc. at December 31, 2008 and 2007, and the consolidated results of its operations and its cash flows for each of the three years in the period ended December 31, 2008, in conformity with U.S. generally accepted accounting principles.
The accompanying financial statements have been prepared assuming that the Company will continue as a going concern. As more fully described in Note 1, the Company filed a voluntary petition for reorganization under Chapter 11 of the United States Bankruptcy code on August 4, 2008, which raises substantial doubt about the Company’s ability to continue as a going concern. Management’s plans concerning these matters are also described in Note 1. The consolidated financial statements do not include any adjustments to reflect the possible future effects on the recoverability and classification of assets or the amounts and classification of liabilities that may result from the outcome of this uncertainty.
As discussed in Note 1 to the consolidated financial statements, the Company changed its method of accounting for income tax uncertainties as of January 1, 2007, and its method of accounting for share-based payments as of January 1, 2006.
/s/ Ernst & Young LLP
Miami, Florida
May 7, 2009
WCI Communities, Inc.
Debtor-in-Possession
Consolidated Balance Sheets
(In thousands, except per share data)
The accompanying notes are an integral part of these consolidated financial statements.
WCI Communities, Inc.
Debtor-in-Possession
Consolidated Statements of Operations
(In thousands, except per share data)
The accompanying notes are an integral part of these consolidated financial statements.
WCI Communities, Inc.
Debtor-in-Possession
Consolidated Statements of Changes in Shareholders’ (Deficit) Equity
(In thousands)
The accompanying notes are an integral part of these consolidated financial statements.
WCI Communities, Inc.
Debtor-in-Possession
Consolidated Statements of Cash Flows
(In thousands)
The accompanying notes are an integral part of these consolidated financial statements.
WCI Communities, Inc.
Debtor-in-Possession
Consolidated Statements of Cash Flows (Continued)
(In thousands)
The accompanying notes are an integral part of these consolidated financial statements.
WCI Communities, Inc.
Debtor-in-Possession
Notes to Consolidated Financial Statements
December 31, 2008
(In thousands, except per share data)
1. Chapter 11 Proceedings
On August 4, 2008, WCI Communities, Inc. (the Company, WCI or we) and 126 of its subsidiaries (excluding its Watermark real estate brokerage, our WCI Mortgage business and certain other joint ventures in which we are a partner) (the Debtors) filed voluntary petitions for reorganization relief under the provisions of Chapter 11 of Title 11 of the United States Bankruptcy Code in the United States Bankruptcy Court for the District of Delaware in Wilmington, Case No. 08-11643 (KJC). The list of the Debtors and Tax Identification Numbers is located on the docket for Case No. 08-11643 (KJC) [Docket No. 64] and http://chapter11.epiqsystems.com/wcicommunities.
We continue to operate our businesses and manage our properties as debtors and debtors-in-possession under the jurisdiction of the Bankruptcy Court and in accordance with the applicable provisions of the Bankruptcy Code and orders of the Bankruptcy Court. As part of the “first day” relief, we obtained Bankruptcy Court approval to, among other things, continue to pay critical vendors and vendors with lien rights, meet our pre-petition payroll obligations, pay deficit funding obligations to our various community associations and clubs, maintain our cash management systems, sell homes free and clear of liens, pay our taxes, continue to provide employee benefits and maintain our insurance programs. Certain of these payment obligations are subject to monetary limits without specific approval for each transaction. The filing of the Chapter 11 petitions triggered repayment obligations under a number of our debt instruments and agreements. As a result, all of our debt obligations became immediately payable. We believe that any efforts to enforce the payment obligations are stayed as a result of the Chapter 11 filings.
DIP Credit Agreement. On September 24, 2008, pursuant to authorization from the Delaware Bankruptcy Court, the Company entered into a $150,000 Debtor-In-Possession Credit Agreement (the DIP Agreement) with a syndicate of lenders, some of which were lenders under the Company’s pre-petition secured debt facilities, led by Wachovia Bank, National Association, acting as administrative agent, and Bank of America, N.A. acting as collateral agent. The Court also granted the Company final authority to continue using its on-hand cash collateral during the Chapter 11 case. The DIP Credit Agreement includes an $80,000 term loan and a $70,000 revolving credit facility (collectively, the DIP Loans). The $80,000 term loan was a required borrowing on the closing date, approximately $50,000 of which was used to repay the outstanding balance under the Company’s Third Consolidated, Amended and Restated Revolving Credit Construction Loan Agreement, dated as of September 22, 2005 (the Pre-Petition Tower Facility) with the remainder to be used for general corporate purposes. Availability of funds under the revolving credit facility is subject to a limitation on the amount of cash and cash equivalents held by the Company. The Company may also request the issuance of up to $25,000 in letters of credit. As part of the order, the Company granted the prepetition agents and the lenders various forms of protection, including liens and administrative claims to protect against the diminution of the collateral value to the extent provided in the final order approving the DIP Agreement. The DIP Agreement initially matures on September 24, 2009, subject to a six-month extension period. Borrowings under the DIP Agreement bear interest at the Eurodollar Rate plus 6.0% or an index base rate plus 5.0%.
The Company’s obligations under the DIP Agreement are guaranteed by substantially all of our subsidiaries (the Guarantors). The Company is required to make certain mandatory repayments under the DIP Agreement in the event it sells certain assets, including bulk unit sales, subject to certain exceptions. Certain mandatory repayments may permanently reduce the original borrowing capacity, as further defined in the DIP Agreement.
WCI Communities, Inc.
Debtor-in-Possession
Notes to Consolidated Financial Statements-(Continued)
December 31, 2008
(In thousands, except per share data)
The DIP Agreement and the related guarantees are secured by first priority liens on substantially all of the Company’s and the Guarantors’ assets. The DIP Agreement includes certain covenants that impose substantial restrictions on the Company’s and the Guarantors’ financial and business operations, including the ability to, among other things, incur or secure other debt, make investments, sell assets and pay dividends or repurchase stock. In addition, the Company is required to maintain an Appraised Value Ratio, as defined, of not less than 1.26 to 1.0, and to meet certain monthly cash flow variance tests. At December 31, 2008, we were in compliance with these covenants.
Notice to Creditors. Shortly after the Chapter 11 filing on August 4, 2008, the Debtors began notifying all known current or potential creditors of the Chapter 11 filing.
Appointment of Creditors’ Committee. The United States Trustee for the District of Delaware has appointed an official committee of unsecured creditors (the Creditors’ Committee). The Creditors’ Committee and its legal representatives have a right to be heard on all matters that come before the Bankruptcy Court with respect to the Debtors. There can be no assurance that the Creditors’ Committee will support the Debtors’ positions or ultimate plan of reorganization, once proposed. Disagreements between the Debtors and the Creditors’ Committee could protract the Chapter 11 proceedings, negatively impact the Debtors’ ability to operate and delay the Debtors’ emergence from the Chapter 11 proceedings.
Rejection of Executory Contracts. Under Section 365 and other relevant sections of the Bankruptcy Code, the Debtors may assume, assign, or reject certain executory contracts and unexpired leases, including, without limitation, leases of real property, subject to the approval of the Bankruptcy Court and certain other conditions. In general, rejection of an executory contract or unexpired lease is treated as a pre-petition breach of the executory contract or unexpired lease in question and, subject to certain exceptions, relieves the Debtors of performing their future obligations under such executory contract or unexpired lease but entitles the contract counterparty or lessor to a pre-petition general unsecured claim for damages caused by such deemed breach. Counterparties to such rejected contracts or leases can file claims against the Debtors’ estate for such damages. Generally, the assumption of an executory contract or unexpired lease requires the Debtors to cure most existing defaults under such executory contract or unexpired lease and provide adequate assurance of future performance.
Accordingly, any description of an executory contract or unexpired lease elsewhere in these Notes, including where applicable, our express termination rights or a quantification of our obligations, must be read in conjunction with, and is qualified by, any overriding rejection rights we have under Section 365 of the Bankruptcy Code.
We expect that liabilities subject to compromise and resolution in the Chapter 11 proceedings will arise in the future as a result of damage claims created by the Debtors’ rejection of various executory contracts and unexpired leases. Conversely, we expect that the assumption of certain executory contracts and unexpired leases may convert liabilities shown as subject to compromise to liabilities not subject to compromise. Due to the uncertain nature of many of the potential rejection claims, the magnitude of such claims is not reasonably estimable at this time. Such claims may be material.
Magnitude of Potential Claims. On November 1, 2008, the Debtors filed with the Bankruptcy Court schedules and statements of financial affairs setting forth, among other things, the assets and liabilities of the Debtors, subject to the assumptions contained in certain notes filed in connection therewith. The schedules can be
WCI Communities, Inc.
Debtor-in-Possession
Notes to Consolidated Financial Statements-(Continued)
December 31, 2008
(In thousands, except per share data)
found at the following website: http://chapter11.epiqsystems.com/WCC/claim/search.aspx. All of the schedules will be subject to further amendment or modification. Differences between amounts scheduled by the Debtors and claims by creditors will be investigated and resolved in connection with the claims resolution process. In light of the expected number of creditors, the claims resolution process may take considerable time to complete. Accordingly, the ultimate number and amount of allowed claims is not presently known, nor can the ultimate recovery with respect to allowed claims be presently ascertained.
Claim Bar Date. On December 2, 2008, the Bankruptcy Court entered an order setting the last day for filing proofs of claim in the Debtors Chapter 11 cases as February 2, 2009 at 4:00 p.m. Prevailing Eastern Time (the Bar Date). As of the Bar Date we had received approximately 3,700 claims and since the Bar Date we have received approximately 200 additional claims. Information regarding the proof of claim process and appropriate forms may be found at the following web site maintained for that purpose by the Debtors’ claims and noticing agent, Epiq Systems, Inc.: http://chapter11.epiqsystems.com/wcicommunities.
Costs of Reorganization. We have incurred and will continue to incur significant costs associated with the reorganization. The amount of these costs, which are being expensed as incurred, are expected to significantly affect our results of operations.
Effect of Filing on Creditors and Shareowners. Under the priority scheme established by the Bankruptcy Code, unless creditors agree otherwise and subject to other applicable exceptions, pre-petition liabilities and post-petition liabilities must be satisfied in full before shareowners are entitled to receive any distribution or retain any property under a plan of reorganization. The ultimate recovery to creditors and/or shareowners, if any, will not be determined until confirmation of a plan or plans of reorganization. No assurance can be given as to what values, if any, will be ascribed in the Chapter 11 cases to each of these constituencies or what types or amounts of distributions, if any, they would receive. A plan of reorganization could result in holders of our liabilities and/or securities, including our common stock, receiving no distribution on account of their interests and cancellation of their holdings. As discussed below, if the requirements of the Bankruptcy Code are met, a plan of reorganization can be confirmed notwithstanding its rejection by the holders of our stock and notwithstanding the fact that such holders do not receive or retain any property on account of their equity interests under the plan. Because of such possibilities, the value of our liabilities and securities, including our stock is highly speculative. We urge that appropriate caution be exercised with respect to existing and future investments in any of the liabilities and/or securities of the Debtors.
Process for Plan of Reorganization. In order to exit Chapter 11 successfully, the Debtors will need to propose, and obtain confirmation by the Bankruptcy Court of, a plan of reorganization that satisfies the requirements of the Bankruptcy Code. A plan of reorganization would resolve, among other things, the Debtors’ pre-petition obligations, set forth the revised capital structure of the newly reorganized entity and provide for corporate governance subsequent to exit from bankruptcy.
Currently, we have the exclusive right to file a Chapter 11 plan or plans prior to April 30, 2009 and the exclusive right to solicit acceptance thereof until June 1, 2009. Pursuant to Section 1121 of the Bankruptcy Code, the exclusivity periods may be expanded or reduced by the Bankruptcy Court, but in no event can the exclusivity periods to file and solicit acceptance of a plan or plans of reorganization be extended beyond 18 months and 20 months, respectively.
WCI Communities, Inc.
Debtor-in-Possession
Notes to Consolidated Financial Statements-(Continued)
December 31, 2008
(In thousands, except per share data)
As a result of our Chapter 11 cases and other matters described herein, including uncertainties related to the fact that we have not yet had time to complete and obtain confirmation of a plan or plans of reorganization, there is substantial doubt about our ability to continue as a going concern. Our ability to continue as a going concern, including our ability to meet our ongoing operational obligations, is dependent upon, among other things:
•
our ability to generate and maintain adequate cash;
•
the cost, duration and outcome of the restructuring process;
•
our ability to comply with the terms of the DIP financing order and, if necessary, seek further extensions of our ability to use cash collateral;
•
our ability to achieve profitability following a restructuring given housing market challenges; and
•
our ability to retain key employees.
These challenges are in addition to those operational and competitive challenges that we face in connection with our business. In conjunction with our advisors, we are implementing strategies to aid our liquidity and our ability to continue as a going concern. However, such efforts may not be successful.
We have taken and will continue to take aggressive actions to maximize cash receipts and minimize cash expenditures with the understanding that certain of these actions may make us less able to take advantage of future improvements in the homebuilding market. We continue to take steps to reduce our general and administrative expenses by streamlining activities and increasing efficiencies, which have led and will continue to lead to reductions in the workforce. However, much of our efforts to reduce general and administrative expenses are being offset by professional and consulting fees associated with our Chapter 11 cases. We have and will continue to analyze each community based on anticipated sales absorption rates, net cash flows and financial returns taking into consideration current market factors in the homebuilding industry. In order to generate cash and reduce our inventory to levels consistent with our business plan, we have taken and will continue to take the following actions, to the extent possible given the limitations resulting from our Chapter 11 cases:
•
limiting or eliminating any new arrangements to acquire land;
•
engaging in bulk sales of land and unsold homes;
•
reducing the number of unsold homes under construction and limiting and/or curtailing development activities in any development where we do not expect to deliver homes in the near future;
•
renegotiating terms or abandoning our rights under option contracts;
•
considering other asset dispositions including the possible sale of underperforming assets, communities, divisions and joint venture interests;
•
reducing our unsold finished home levels; and
•
pursuing other initiatives designed to monetize our assets.
WCI Communities, Inc.
Debtor-in-Possession
Notes to Consolidated Financial Statements-(Continued)
December 31, 2008
(In thousands, except per share data)
Liabilities Subject to Compromise
The following table summarizes the components of liabilities subject to compromise included on our Consolidated Balance Sheet as of December 31, 2008:
Liabilities subject to compromise refers to pre-petition obligations which may be impacted by the Chapter 11 reorganization process. These amounts represent our current estimate of known or potential pre-petition obligations to be resolved in connection with our Chapter 11 proceedings.
Differences between liabilities we have estimated and the claims filed, or to be filed, will be investigated and resolved in connection with the claims resolution process. We will continue to evaluate these liabilities throughout the Chapter 11 process and adjust amounts as necessary. Such adjustments may be material. In light of the expected number of creditors, the claims resolution process may take considerable time to complete. Accordingly, the ultimate number and amount of allowed claims is not presently known.
Reorganization Items, net
The following table summarizes the components included in reorganization items, net on our Consolidated Statements of Operations of the three and nine months ended December 31, 2008:
During the year ended December 31, 2008, cash paid for reorganization items was approximately $13,268.
The foregoing discussion provides general background information regarding our Chapter 11 Cases, and is not intended to be an exhaustive description. Additional information regarding our Chapter 11 Cases, including access to court documents and other general information about the Chapter 11 Cases, is available at http//chapter11.epiqsystems.com/wcicommunities. Financial information on the website is prepared according to requirements of federal bankruptcy law and the local Bankruptcy Court. While such financial information
WCI Communities, Inc.
Debtor-in-Possession
Notes to Consolidated Financial Statements-(Continued)
December 31, 2008
(In thousands, except per share data)
accurately reflects information required under federal bankruptcy law, such information may be unconsolidated, unaudited and prepared in a format different than that used in our consolidated financial statements prepared in accordance with generally accepted accounting principles in the United States and filed under the securities laws. Moreover, the materials filed with the Bankruptcy Court are not prepared for the purpose of providing a basis for investment decisions relating to our stock or debt or for comparison with other financial information filed with the Securities and Exchange Commission.
Business Strategy
During the first quarter of 2009 the Company continued its cost reduction initiatives including a significant reduction of overhead, consolidation of operating divisions, closing of sales offices and rejection of leases/ contracts through the Bankruptcy Code, and further concentrated its efforts on selling speculative inventory and non-core assets.
In addition, due to the continuing deterioration of the housing industry nationally and in Florida in particular, and the challenging economic conditions and lack of visibility in the marketplace (including unpredictability in projecting pricing trends and housing recovery timeframes), the Company adopted a plan in early 2009 to currently suspend all new homebuilding construction activities except under limited circumstances, subject however, to completion of existing homes under construction or subject to pending purchase contracts. This plan also contemplates the continuation of the sale of our speculative inventory and the ongoing maintenance of our communities, amenities operations and real estate services.
As part of the Company’s overall strategy to explore alternatives to emerge from bankruptcy in an expeditious manner, the Company also engaged its financial/restructuring advisor to assist with a comprehensive marketing process for the sale or reorganization of the Company, as well as the disposition of certain assets. The Company continues to explore strategic alternatives.
2. Significant Accounting Policies
A summary of the significant accounting principles and practices used in the preparation of the consolidated financial statements follows.
Basis of Financial Statement Presentation
The consolidated financial statements include the accounts of WCI Communities, Inc., our wholly owned subsidiaries and certain joint ventures which are not variable interest entities (VIE’s) but we have the ability to exercise control. The equity method of accounting is applied in the accompanying consolidated financial statements with respect to those investments in joint ventures which are not variable interest entities and we have less than a controlling interest, have substantive participating rights, or are not the primary beneficiary as defined in FIN 46-R, Consolidation of Variable Interest Entities. All material intercompany balances and transactions are eliminated in consolidation.
We prepare our financial statements in conformity with accounting principles generally accepted in the United States (GAAP). These principles require management to make estimates and assumptions that affect the amounts reported in the financial statements and accompanying notes. Actual results could differ from those estimates.
WCI Communities, Inc.
Debtor-in-Possession
Notes to Consolidated Financial Statements-(Continued)
December 31, 2008
(In thousands, except per share data)
In accordance with GAAP, we have applied the provisions of American Institute of Certified Public Accountants’ (AICPA) Statement of Position 90-7, Financial Reporting by Entities in Reorganization Under the Bankruptcy Code, in preparing the consolidated financial statements. SOP 90-7 requires that the financial statements, for periods subsequent to the Chapter 11 filing, distinguish transactions and events that are directly associated with the reorganization from the ongoing operations of the business. Accordingly, certain items of income, expense, gain or loss realized or incurred because we are in Chapter 11 are recorded in reorganization items, net on the accompanying consolidated statements of operations. Also, pre-petition obligations that may be impacted by the bankruptcy reorganization process have been classified on the consolidated balance sheet at December 31, 2008 in liabilities subject to compromise. These liabilities are reported at the amounts expected to be allowed by the Bankruptcy Court, even if they may be settled for lesser amounts. We have also prepared these consolidated financial statements on a going concern basis, which contemplates continuity of operations, realization of assets and satisfaction of liabilities in the ordinary course of business. Accordingly, our consolidated financial statements do not include any adjustments relating to the recoverability of assets and classification of liabilities that might be necessary should we be unable to continue as a going concern.
As a result of sustained losses and our Chapter 11 proceedings, the realization of assets and satisfaction of liabilities, without substantial adjustments and/or changes in ownership, are subject to uncertainty. Given this uncertainty, there is substantial doubt about our ability to continue as a going concern.
While operating as debtors-in-possession under Chapter 11 of the Bankruptcy Code, the Debtors may sell or otherwise dispose of or liquidate assets or settle liabilities, subject to the approval of the Bankruptcy Court or otherwise as permitted in the ordinary course of business, in amounts other than those reflected in the condensed consolidated financial statements. Further, a plan of reorganization could materially change the amounts and classifications in the historical condensed consolidated financial statements.
The preparation of financial statements in accordance with GAAP requires management to make estimates and assumptions that affect the amounts reported in the financial statements and accompanying notes. Actual results could differ from those estimates. Those estimates and assumptions which, in the opinion of management, are both significant to the underlying amounts included in the financial statements and as to which future events or information could change those estimates include:
•
impairment assessments of investments in unconsolidated joint ventures, long-lived assets, including our inventory, and goodwill;
•
classification of liabilities subject to compromise;
•
insurance and litigation related contingencies;
•
realization of deferred income tax assets and liability for unrecognized tax benefits; and
•
estimated costs associated with construction and development activities in connection with our homebuilding operations.
The accompanying consolidated financial statements do not purport to reflect or provide for the consequences of our Chapter 11 cases. In particular, the financial statements do not purport to show (1) as to assets, their realizable value on a liquidation basis or their availability to satisfy liabilities; (2) as to stockholders’ equity accounts, the effect of any changes that may be made in our capitalization; or (3) as to operations, the effect of any changes that may be made to our business. In addition, the financial statements do not reflect the
WCI Communities, Inc.
Debtor-in-Possession
Notes to Consolidated Financial Statements-(Continued)
December 31, 2008
(In thousands, except per share data)
amounts that may be allowed with respect to pre-petition claims and liabilities which may, as a result of the filing of proofs of claims by our creditors, result in liabilities in excess of those estimated by us in preparing the accompanying consolidated financial statements.
Revenue and Profit Recognition
Traditional homebuilding revenue is recognized at the time of closing under the completed contract method for single-family residences and for multi-family residences where the planned construction cycle is less than one year. The related profit is recognized when collectibility of the sales price is reasonably assured and the earnings process is substantially complete. When a sale does not meet the requirements for income recognition, profit is deferred until such requirements are met and the related sold inventory is classified as completed inventory.
Revenue for tower and multi-family traditional homebuilding residences under construction is recognized on the percentage-of-completion method when the planned construction period is greater than one year. Revenue is recorded as a portion of the value of non-cancelable contracts when construction of each project is beyond a preliminary stage, the buyer is committed to the extent of being unable to require a full refund except for non-delivery of the residence, a substantial percentage of residences are under non-cancellable contracts, collectibility of the sales prices are reasonably assured and costs can be reasonably estimated. In accordance with paragraph 37 (e) of Statement of Financial Accounting Standards (SFAS) 66, Accounting for Sale of Real Estate, the ability to estimate aggregate sales proceeds of a condominium project is required in order to use the percentage-of-completion method of revenue and profit recognition. If this criterion is not met, proceeds shall be accounted for on the deposit method. We believe if changes, such as a rapid decline in the market, indicate that we can no longer estimate the sales proceeds or costs of a condominium project, (e.g., additional incentives will be required, the amount of which cannot be estimated), then we should no longer apply the percentage-of-completion method and any previously recognized profit should be evaluated for realizability based on evaluation of collectibility and impairment of the project.
Revenue recognized is calculated based upon the percentage of total costs incurred in relation to estimated total costs. In accordance with the Statement of Position 81-1, Accounting for Performance of Construction-Type and Certain Production Type Contracts, changes in estimates of tower revenue and development costs are accounted for on a cumulative basis in the period that the change occurs. Our estimates of tower revenue and development costs are revised on a quarterly basis until a tower building is completed and delivered to unit owners. Subsequent to the completion of a tower, we may incur additional costs in order to finalize and close-out the project. All towers under construction were completed as of June 30, 2008. For the years ended December 31, 2008, 2007 and 2006, tower gross margin was impacted by approximately $15,400, $40,400 and $36,800, respectively, as a result of tower construction cost increases, an increase in interest costs associated with increased tower construction cycle times and changes in insurance and other costs. The impact to net (loss) income for the years ended December 31, 2008, 2007 and 2006, was $9,390, $24,590 and $22,400, respectively. The impact to diluted (loss) earnings per share for the years ended December 31, 2008, 2007 and 2006, was $.22, $.59 and $.52, respectively. The percentage-of-completion method is applied when we meet the applicable requirements under SFAS 66. Any amounts due under sales contracts, to the extent recognized as revenue are recorded as contracts receivable. Any sales after the residential building is completed are recorded as revenue on the completed contract method.
One of our previous projects was a tower containing 186 units and approximately 5,000 square feet of retail space that commenced construction in the fourth quarter 2005. At that time, all conditions of paragraph 37 of SFAS 66 were met and thus we recognized profit under the percentage-of-completion method. We continued use
WCI Communities, Inc.
Debtor-in-Possession
Notes to Consolidated Financial Statements-(Continued)
December 31, 2008
(In thousands, except per share data)
of the percentage-of-completion method through September 2007 and had recognized cumulative revenue and profit of $132,000 and $38,400, respectively. After relatively strong initial sales activity in late 2005 and early 2006 of 117 units, or 63% of total available units sold, there was limited activity in the tower. While the general real estate market, and specifically the Florida tower market, had deteriorated during the past two years, we determined that we had the ability to reasonably estimate the aggregate sales proceeds and costs of the tower project which supported the use of the percentage-of-completion method of revenue and profit recognition through September 2007.
During 2007, as we approached completion of the tower project, the following factors led us to determine that we could no longer reasonably estimate aggregate sales proceeds for the project:
•
further deterioration of the general real estate market;
•
further deterioration of the Florida tower market;
•
the Company had lowered pricing on most of its unsold finished tower inventory;
•
an overall tightening of credit availability for real estate financing;
•
discussions with existing contract holders evidencing significantly higher default expectations;
•
continued lack of interest from prospective buyers in the project.
In accordance with paragraph 37(e) of SFAS 66, the ability to estimate aggregate sales proceeds of a condominium project is required in order to use the percentage-of-completion method of revenue and profit recognition. If this criterion is not met, proceeds shall be accounted on the deposit method. We believe if changes, such as a rapid decline in the market, indicate we are no longer able to estimate the sales proceeds or costs of a condominium project, (e.g., additional incentives will be required, the amount of which cannot be estimated), we should no longer apply the percentage-of-completion method and any previously recognized profit should be evaluated for realizability based on evaluation of collectibility and impairment of the project.
As a result of our inability to estimate the ultimate amount of aggregate sales proceeds of the tower project, we ceased the future use of percentage-of-completion accounting as of October 1, 2007, reserved 100% of the previously recognized cumulative profit totaling $38,438, and reverted to the deposit method of accounting.
Real estate services revenue primarily includes realty brokerage and title operations. Realty brokerage and title revenues are recognized upon closing of a sales contract. In June 2006, we sold our mortgage banking operations to a newly formed joint venture, WCI Mortgage LLC.
Revenues from amenity operations include the sale of equity memberships and marina slips, non-equity memberships, billed membership dues and fees for services provided. Equity membership and marina slip sales are recognized at the time of closing. Equity membership sales and the related cost of sales are initially recorded under the deposit or cost recovery method. Revenue recognition for each equity club program is reevaluated on a periodic basis based upon changes in circumstances. If we can demonstrate that it is likely we will recover proceeds in excess of remaining carrying value and no material contingencies exist, such as a developer rescission clause, the full accrual method is then applied. Non-refundable non-equity membership initiation fees represent initial payments for rights to use the amenity facilities. The non-equity membership initiation fees are deferred and amortized to amenity membership revenues over 20 years which represents the estimated average
WCI Communities, Inc.
Debtor-in-Possession
Notes to Consolidated Financial Statements-(Continued)
December 31, 2008
(In thousands, except per share data)
depreciable life of the amenity facilities. Dues are billed on an annual basis in advance and are recorded as deferred revenue and then recognized as revenue ratably over the term of the membership year. Revenues for services are recorded when the service is provided.
Revenue from land sales is recognized at the time of closing. The related profit is recognized in full when collectibility of the sales price is reasonably assured and the earnings process is substantially complete. When a sale does not meet the requirements for income recognition, profit is deferred under the deposit method and the related inventory is classified as completed inventory. The deferred income is recognized as our involvement is completed.
Sales incentives such as reductions in listed sales prices of homes, tower units, golf club memberships and marina slips are classified as a reduction of revenue. Sales incentives such as free products or services are classified as cost of sales.
Contracts Receivable
Amounts due under tower sales contracts, to the extent recognized as revenue under the percentage-of-completion method are recorded as contracts receivable. On a quarterly basis, we prepare an analysis for each specific tower and analyze each unit with respect to information we have that leads us to believe specific units are at risk of defaulting. Based on this analysis, actual defaults experienced at each tower location, and the current market environment, we estimate the number of defaults that may occur for future unit closings. This analysis requires us to make significant estimates and assumptions that affect the reported amounts in our financial statements. These estimates are subject to revision as additional information becomes available and actual defaults could differ materially from our estimates. At December 31, 2008, all of our contracts receivable have been closed out. At December 31, 2007, our contracts receivable balance of $358,327 is net of an allowance of $11,039 for estimated losses due to potential customer defaults.
For the year ended December 31, 2008, our aggregate tower unit default rate was approximately 34%, as compared to 24% for 2007. In 2006, our residential tower default rate was approximately 7% of total sold tower units.
The following table presents the activity in our contracts receivable reserve account.
Real Estate Inventories and Cost of Sales
Real estate inventories consist of land and land improvements, investments in amenities and tower residences and homes that are under construction or completed. Total land and common development costs are apportioned to each home, lot, amenity or parcel on the relative sales value method, while site specific
WCI Communities, Inc.
Debtor-in-Possession
Notes to Consolidated Financial Statements-(Continued)
December 31, 2008
(In thousands, except per share data)
development costs are allocated directly to the benefited land. Investments in amenities include clubhouses, golf courses, marinas, tennis courts and various other recreation facilities that we intend to recover through equity membership and marina slip sales.
We construct amenities in conjunction with the development of certain planned communities and account for related costs in accordance with SFAS 67, Accounting for Costs and Initial Rental Operations of Real Estate Projects. Amenities are transferred to common interest realty associations (CIRAs), sold as equity membership clubs, sold separately or retained and operated. The cost of amenities conveyed to a CIRA are classified as a common cost of the community and included in real estate inventories. These costs are allocated to cost of sales on the basis of the relative sales value of the homes sold. For amenities to be sold separately or retained by us, capitalized costs in excess of its estimated fair value as of the substantial completion date are allocated as common costs to each parcel or lot benefited based on estimated relative sales value. Costs of amenities retained and operated by us are accounted for as property and equipment.
Impairment of long-lived assets held for use. Inventory considered held for use is stated at the lower of cost or fair value in accordance with SFAS 144, Accounting for the Impairment or Disposal of Long Lived Assets. We record valuation adjustments on land inventory and related communities under development (including tower projects), and amenities considered held and used (classified as property, plant and equipment), when the carrying amount exceeds its fair value. An impairment loss shall be recognized only if the carrying amount of the asset is not recoverable and exceeds its fair value. The carrying amount is not recoverable if it exceeds the sum of the undiscounted cash flows expected to result from the use and eventual disposition of the asset. An impairment loss shall be measured as the amount by which the carrying amount exceeds its fair value.
•
Current or Future Communities, including land under contract. When the profitability of a current community deteriorates, the sales pace significantly declines or some other factor indicates a possible impairment in the recoverability of the asset, the asset is reviewed for impairment by comparing the estimated future undiscounted cash flow for the community to its carrying value. If the estimated future undiscounted cash flow is less than the asset’s carrying value, the asset is written down to its estimated current fair value. Such indicators include gross margin or sales pace significantly below expectations, construction costs or land development costs significantly in excess of budgeted amounts, significant delays or changes in the planned development for the community, and other known qualitative factors. We also consider potential changes to the product offerings in a community, including changes to the community amenities, and any alternative strategies for the land, such as the sale of the land either in whole or in parcels or lots. We determine estimated current fair value primarily by discounting the estimated future cash flow related to the asset. In estimating the cash flow for a community, we use various estimates such as (a) the expected annual sales pace to absorb the planned number of units based upon economic conditions that may have either a short-term or long-term impact on the market in which the community is located, competition within the market, and historical sales rates of the community or similar communities owned by us or historical sales rates of similar product offerings in the market; (b) the expected net sales prices in the short-term based upon current pricing estimates, as well as estimated changes in future sales prices based upon historical sales prices in the community or in similar communities owned by us or historical sales prices of similar product offerings in the market; (c) the expected costs to be expended in the future, including, but not limited to, land and land development, home construction, construction overhead, sales and marketing, real estate taxes, community association costs, and interest costs expected to be capitalized. In certain circumstances we utilize third party appraisals to assist us in determining estimated fair values. We evaluate land held for
WCI Communities, Inc.
Debtor-in-Possession
Notes to Consolidated Financial Statements-(Continued)
December 31, 2008
(In thousands, except per share data)
future communities, whether owned or under contract, to determine whether or not we expect to proceed with the development of the land as originally contemplated. The evaluation involves the same types of estimates described above as well as an evaluation of the regulatory environment in which the land is located and the estimated costs and probability of obtaining the necessary approvals. Based upon this review, we decide (a) as to land under contract to be purchased, whether the contract will likely be terminated or renegotiated, and (b) as to land we own, whether the land will likely be developed as previously planned or in an alternative manner, or should be sold. We then further determine whether costs that have been capitalized are recoverable or should be written off.
Our determination of fair value requires discounting the estimated cash flows at a rate commensurate with the inherent risks associated with the assets and related estimated cash flows. The discount rate used in determining each community’s fair value depends on the stage of development, location and other specific factors that increase or decrease the risks associated with the estimated cash flows. The discount rates that we used during the periods in 2006-2007 in the determination of fair values ranged from 12%-18%. The discount rates that we used during the year ended December 31, 2008 in the determination of fair values ranged from 20%-22%.
•
Property and Equipment. Included in our property and equipment are recreational amenity assets that are considered held and used. With respect to these assets, if events or changes in circumstances, such as a significant decline in membership or membership pricing, significant increases in operating costs, or changes in use, indicate that the carrying value may be impaired, an impairment analysis is performed. Our analysis consists of determining whether the asset’s carrying amount will be recovered from its undiscounted estimated future operating cash flows, including estimated residual cash flows, such as the sale of the asset. These cash flows are estimated based on various assumptions that are subject to economic and market uncertainties including, among others, demand for golf and marina club memberships, competition within the market, changes in membership pricing and costs to operate each property. If the carrying amount of the asset exceeds the sum of its undiscounted future operating and residual cash flows, an impairment loss is recorded for the difference between estimated fair value of the asset and the net carrying amount. We estimate the fair value by using discounted cash flow analysis using concepts similar to the ones discussed above. In certain circumstances we utilize third party appraisals to assist us in determining estimated fair values.
Impairment of long-lived assets to be disposed of. Inventory considered held for sale is stated at the lower of cost or fair value, less costs to sell in accordance with SFAS 144. We record valuation adjustments on completed inventories of tower units and traditional homes, and investments in amenities when the cost exceeds fair value, less costs to sell. Our estimated selling costs are based on recent experience, which ranges from 5%-7% of sales prices and includes selling commissions, sales, marketing and closing costs.
Completed Inventory. When the profitability of our completed traditional homes and tower units deteriorates, the sales pace significantly declines or some other factor indicates a possible impairment in the recoverability of the assets, we further estimate the assets’ fair values. Such assets are considered held for sale and the assets’ fair values are determined primarily by discounting the estimated future cash flows related to the asset. In estimating the cash flows for completed homes and tower units, we use various estimates such as (a) expected sales pace to absorb the number of units based upon economic conditions that may have either a short-term or long-term impact on the market in which the units are located, competition within the market, historical sales rates of the units within the specific community or the estimated impact of our pricing reductions and sales incentives; and (b) expected net sales prices in the near-term based upon current pricing estimates, as
WCI Communities, Inc.
Debtor-in-Possession
Notes to Consolidated Financial Statements-(Continued)
December 31, 2008
(In thousands, except per share data)
well as estimated increases in future sales prices based upon historical sales prices of the units within the specific community or in similar communities owned by us or historical sales prices of similar product offerings in the market. Our determination of fair value requires discounting the estimated cash flows at a rate commensurate with the inherent risks associated with selling the assets and related estimated cash flows. The discount rates that we used during the periods in 2006-2007 in the determination of fair values ranged from 8%-12%. The discount rates that we used during the year ended December 31, 2008 in the determination of fair values ranged from 15%-18%.
Investments in Amenities. When the underlying recreational amenity is substantially complete and available for its intended use, we consider the asset held for sale. When the profitability of our equity club membership sales deteriorates, the sales pace significantly declines or some other factor indicates a possible impairment in the recoverability of the recreational amenity assets, the assets’ fair values are determined primarily by discounting the estimated future cash flows specifically related to membership sales and asset development expenditures. In estimating the cash flows, we use various estimates such as (a) sales pace to absorb the number of memberships based upon economic conditions that may have either a short-term or long-term impact on the market in which the assets are located, competition within the market, historical sales rates of the memberships for the specific amenity or the estimated impact of our pricing reductions and sales incentives; (b) net sales prices in the near-term based upon current pricing estimates, as well as estimated changes in future sales prices based upon historical sales prices of the memberships for the specific recreational amenity or in similar recreational amenities owned by us or historical sales prices of similar membership offerings in the market. Our determination of fair value requires discounting the estimated cash flows at a rate commensurate with the inherent risks associated with selling the memberships and related estimated cash flows. The discount rates that we used in the periods of 2006-2007 in the determination of fair values ranged from 10%-14%. The discount rates that we used during the year ended December 31, 2008 in the determination of fair values ranged from 15%-18%.
In the event that market conditions or the Company’s operations deteriorate in the future, or current difficult market conditions extend beyond our expectations, including, but not limited to, a further decline in sales prices, reduced absorption of units in inventory, increased defaults or cancellations of tower unit and traditional home contracts, or increased costs of development, additional impairments may be necessary and any such charges could be significant.
Capitalized Interest and Real Estate Taxes
Interest and real estate taxes incurred relating to land under development and construction of homes and tower residences are capitalized to real estate inventories during the active development period. As prescribed by SFAS 34 Capitalization of Interest Cost, we include the underlying developed land costs in our calculation of capitalized interest for tower residences under construction, and include the underlying developed land costs and in-process homebuilding costs in our calculation of capitalized interest for traditional homes under construction. Capitalization ceases upon substantial completion of each home or tower.
Interest incurred relating to the construction of amenities is capitalized to real estate inventories for equity membership clubs or property and equipment for clubs to be retained and operated by us. Interest and real estate taxes capitalized to real estate inventories are amortized to costs of sales as related homes, lots, amenity memberships and parcels are sold. For tower and multi-family traditional homebuilding projects where the
WCI Communities, Inc.
Debtor-in-Possession
Notes to Consolidated Financial Statements-(Continued)
December 31, 2008
(In thousands, except per share data)
planned construction period is greater than one year, capitalized interest and real estate taxes are amortized to costs of sales under the percentage-of-completion method. Interest capitalized to property and equipment is depreciated on the straight-line method over the estimated useful lives of the related assets.
The following table is a summary of interest expense, net, and real estate taxes, net:
As of the filing of the petition for reorganization, we discontinued accruing interest on pre-petition unsecured debt obligations. Contractual interest for the year ended December 31, 2008 equaled approximately $129,130.
Warranty
We generally provide our single- and multi-family home buyers with a one to three year limited warranty, respectively, for all material and labor and a ten year warranty for certain structural defects. We provide our tower home buyers a three year warranty for the unit and common elements of the tower. Warranty reserves have been established by charging cost of sales and crediting a warranty liability. The amounts charged are estimated by management to be adequate to cover expected warranty-related costs under all unexpired warranty obligation periods. Our warranty cost accruals are based upon historical warranty cost experience and are adjusted as appropriate to reflect qualitative risks associated with the types of towers and homes built.
The following table presents the activity in our warranty liability account included in accounts payable and other liabilities.
WCI Communities, Inc.
Debtor-in-Possession
Notes to Consolidated Financial Statements-(Continued)
December 31, 2008
(In thousands, except per share data)
Cash, Cash Equivalents and Restricted Cash
We consider all highly liquid instruments with an original purchased maturity of three months or less as cash equivalents. Restricted cash consists principally of escrow accounts representing customer deposits restricted as to use. Cash as of December 31, 2008 and 2007 included $4,388 and $9,602, respectively, of amounts in transit from title companies for transactions closed at or near year-end.
Property and Equipment
Property and equipment, including amenities retained and operated by us, are recorded at cost less accumulated depreciation and are depreciated on the straight-line method over their estimated useful lives. If an operating amenity is converted to an equity club, the related assets are reclassified from property and equipment to real estate inventories, depreciation is ceased and accounted for in accordance with SFAS 144. Upon reclassification, the sale of equity memberships and the recognition of related cost of sales are determined in the same manner as other amenities that are being sold through an equity membership program.
Included in our property and equipment are recreational amenity assets that are considered held and used. With respect to these assets, if events or changes in circumstances, such as a significant decline in membership or membership pricing, significant increases in operating costs, or changes in use, indicate that the carrying value may be impaired, an impairment analysis is performed. Our analysis consists of determining whether the asset’s carrying amount will be recovered from its undiscounted estimated future operating cash flows, including estimated residual cash flows, such as the sale of the asset. These cash flows are estimated based on various assumptions that are subject to economic and market uncertainties including, among others, demand for golf and marina club memberships, competition within the market, changes in membership pricing and costs to operate each property. If the carrying amount of the asset exceeds the sum of its undiscounted future operating and residual cash flows, an impairment loss is recorded for the difference between estimated fair value of the asset and the net carrying amount. We estimate the fair value by using discounted cash flow analysis.
Expenditures for maintenance and repairs are charged to expense as incurred. Costs of major renewals and improvements, which extend useful lives, are capitalized.
Other Assets
Other assets primarily consist of income taxes receivable, prepaid expenses, community development district amounts, acquisition deposits and debt issue costs. Debt issue costs, principally loan origination and related fees, are deferred and amortized over the life of the respective debt using the straight-line method, which approximates the effective interest method.
Goodwill and Other Intangible Assets
Goodwill represents the excess of our cost of business operations acquired over the fair value of identifiable assets acquired net of liabilities assumed. SFAS 142, Goodwill and Other Intangible Assets provides guidance on accounting for intangible assets and eliminates the amortization of goodwill and certain identifiable intangible assets. Under the provisions of SFAS 142, intangible assets, including goodwill, that are not subject to amortization will be tested for impairment annually. Evaluating goodwill for impairment involves the determination of the fair value and the carrying value of our reporting units in which we have recorded goodwill.
WCI Communities, Inc.
Debtor-in-Possession
Notes to Consolidated Financial Statements-(Continued)
December 31, 2008
(In thousands, except per share data)
A reporting unit is a component of an operating segment for which discrete financial information is available and reviewed by our management on a regular basis. Inherent in the determination of fair value of reporting units are certain estimates and judgments, including the interpretation of current economic indicators and market valuations as well as our strategic plans with regard to our operations. We typically use an income approach to determine the fair value of our reporting units when performing our impairment test of goodwill in accordance with SFAS 142. The income approach establishes fair value by methods which discount or capitalize earnings and/or cash flow by a discount or capitalization rate that reflects market rate of return expectations, market conditions and the risk of the relative investment. If the fair value of a reporting unit is less than the carrying value of the reporting unit, an impairment would be recorded. In determining the fair value of our reporting units under the income approach, our expected cash flows are affected by various assumptions. The most significant assumptions affecting our expected cash flows are the discount rate, projected revenue growth rate and costs of development.
We review goodwill annually (or whenever indicators of impairment exist) for impairment in accordance with SFAS 142. Our 2008 goodwill impairment charges of approximately $1,343 were related to real estate service units whose operations have been merged into similar reporting units. Our 2007 goodwill impairment charges of approximately $59,534 were comprised of approximately $38,073 related to specific homebuilding acquisitions made during the years 2004-2005, and approximately $21,462 related to our homebuilding and amenities operations in Florida. Our real estate services goodwill was considered not impaired based on our estimated fair values of the reporting units exceeding the carrying value of those reporting units.
The components of our goodwill are as follows:
We have identifiable intangible assets with estimated finite useful lives of 5 years. These assets were acquired through acquisitions and are being amortized on the straight-line basis over their estimated useful lives and had accumulated amortization of $1,196 and $726 at December 31, 2008 and 2007, respectively. We amortized $395, $501 and $624 for the years ended December 31, 2008, 2007 and 2006, respectively.
WCI Communities, Inc.
Debtor-in-Possession
Notes to Consolidated Financial Statements-(Continued)
December 31, 2008
(In thousands, except per share data)
The estimated aggregate amortization expense remaining is as follows:
Accounts Payable and Other Liabilities
As a result of our Chapter 11 filing certain of our accounts payable and other liabilities have been classified in liabilities subject to compromise on the balance sheet as of December 31, 2008. The table below is presented before the reclassification to provide comparability to the prior year.
Accounts payable and other liabilities primarily consist of the following:
Customer Deposits
Customer deposits primarily represent amounts received from customers under real estate sales contracts.
Derivative Instruments and Hedging Activities
SFAS 133, Accounting for Derivative Instruments and Hedging Activities, requires companies to recognize derivative instruments as either assets or liabilities in the statement of financial position at fair value. The accounting for changes in the fair value (i.e., gains or losses) of a derivative instrument depends on whether it has been designated and qualifies as part of a hedging relationship. For derivative instruments that are designated and qualify as a cash flow hedge, the effective portion of the gain or loss on the derivative instrument is reported as a component of other comprehensive income and reclassified into earnings in the same line item associated with the forecasted transaction in the same period or periods during which the hedged transaction affects earnings.
We have an interest rate swap agreement with a counterparty that is a major financial institution. The swap agreement effectively fixed the variable rate cash flows on our senior term note for the entire 5-year term. The interest rate swap agreement expires December 2010. The swap agreement was designated as a cash flow hedge.
WCI Communities, Inc.
Debtor-in-Possession
Notes to Consolidated Financial Statements-(Continued)
December 31, 2008
(In thousands, except per share data)
For the years ended December 31, 2006 and 2005, we recognized a cumulative net unrealized gain of $803 and a loss of $1,826, respectively, on our interest rate swap which were included in other comprehensive income, net of taxes, and the related asset was included in other assets. The fair value of the interest rate swap agreement was estimated based on quoted market rates of similar financial instruments. The related gains or losses were recorded in shareholders’ equity as accumulated other comprehensive income or loss. On August 17, 2007, we amended the senior term note agreement, which required us to reduce the balance to $262,500 and increased the interest rate. As a result, the underlying terms of the interest swap agreement no longer effectively matched the terms of the senior term note and we removed the designation of the swap agreement as a cash flow hedge. Subsequent changes in the fair value of the swap agreement are reflected in other income and expense in the consolidated statements of income. Due to our filing of petitions under Chapter 11 of the Bankruptcy Code, the interest rate swap agreement was terminated by the counterparty and the fair value on the termination date became due and payable as a secured obligation to the counterparty. At December 31, 2008, the fair value of the swap agreement of ($10,575) is reflected in liabilities subject to compromise in the consolidated balance sheet.
Fair Value of Financial Instruments
In September 2006, the FASB issued SFAS 157, Fair Value Measurement. SFAS 157 defines fair value, establishes a framework for measuring fair value in generally accepted accounting principles and expands disclosures about fair value measurements. SFAS 157 was effective for our financial assets and liabilities on January 1, 2008. The FASB delayed the effective date of SFAS 157 for all non-financial assets and non-financial liabilities, except those that are recognized or disclosed at fair value in the financial statements on a recurring basis (at least annually) to fiscal years beginning after November 15, 2008.
SFAS 157’s valuation techniques are based on observable and unobservable inputs. Observable inputs reflect readily obtainable data from independent sources, while unobservable inputs reflect our market assumptions. The Standard classifies these inputs into the following hierarchy:
Level 1 Inputs-Quoted prices for identical instruments in active markets.
Level 2 Inputs-Quoted prices for similar instruments in active markets; quoted prices for identical or similar instruments in markets that are not active; and model-derived valuations whose inputs are observable or whose significant value drivers are observable.
Level 3 Inputs-Instruments with primarily unobservable value drivers.
We have one derivative instrument, an interest rate swap agreement, subject to valuation under SFAS 157:
The non-cash mark-to-market resulted in a loss of $929 for the year ended December 31, 2008. Due to our filing of petitions under Chapter 11 of the Bankruptcy Code, the interest rate swap agreement was terminated by the counterparty and the fair value on the termination date became due and payable as a secured obligation to the counterparty.
WCI Communities, Inc.
Debtor-in-Possession
Notes to Consolidated Financial Statements-(Continued)
December 31, 2008
(In thousands, except per share data)
Advertising Costs
Advertising costs consists primarily of television, radio, newspaper, direct mail, billboard, brochures and other media advertising programs. We expense advertising costs as incurred to selling, general and administrative costs. Tangible advertising costs such as architectural models and visual displays are capitalized to property and equipment or real estate inventories. Advertising expense was approximately $9,718, $17,964, and $31,577 for the years ended December 31, 2008, 2007 and 2006, respectively.
Income Taxes
We account for income taxes in accordance with SFAS 109, Accounting for Income Taxes. This approach requires recognition of income tax currently payable, as well as deferred tax assets and liabilities resulting from temporary differences by applying enacted statutory tax rates applicable to future years to differences between the financial statement carrying amounts and the tax bases of assets and liabilities. SFAS 109 requires that companies assess whether valuation allowances should be established based on the consideration of all available evidence using a “more likely than not” standard. We assess our deferred tax assets quarterly to determine if valuation allowances are required. See Note 18 for further discussion of the valuation allowances recorded in 2008.
Effective January 1, 2007, we adopted FASB Interpretation No. 48, Accounting for Uncertainty in Income Taxes, an interpretation of FASB Statement No. 109. FIN 48 defines the methodology for recognizing the benefits of tax return positions as well as guidance regarding the measurement of the resulting tax benefits. FIN 48 requires 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, FIN 48 provides 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 these estimates.
Stock-Based Compensation
At December 31, 2008, we have two stock incentive plans, which are described more fully in Note 17. Prior to January 1, 2006, we accounted for stock-based awards granted under the plans in accordance with the recognition and measurement provisions of APB 25 and related Interpretations, as permitted by SFAS 123 Accounting for Stock-Based Compensation. Compensation expense related to stock options was not recognized in our condensed consolidated statement of operations prior to January 1, 2006, as all stock option awards granted under the plans had an exercise price equal to the market value of the common stock on the date of the grant. Effective January 1, 2006, we adopted the provisions of SFAS 123R, Share-Based Payment, using the modified-prospective transition method. Under this transition method, compensation expense recognized subsequent to January 1, 2006 included: (a) compensation expense for all share-based awards granted prior to, but not yet vested as of January 1, 2006, based on the grant date fair value estimated in accordance with the original provisions of SFAS 123, and (b) compensation expense for all share-based awards granted subsequent to January 1, 2006, based on the grant date fair value estimated in accordance with the provisions of SFAS 123R. In accordance with the modified-prospective transition method, results for prior periods have not been restated.
WCI Communities, Inc.
Debtor-in-Possession
Notes to Consolidated Financial Statements-(Continued)
December 31, 2008
(In thousands, except per share data)
On November 10, 2005, the FASB issued FASB Staff Position SFAS 123(R)-3, Transition Election Related to Accounting for Tax Effects of Share-Based Payment Awards. The alternative transition method includes simplified methods to establish the beginning balance of the additional paid-in capital pool (APIC pool) related to the tax effects of employee stock-based compensation, and to determine the subsequent impact on the APIC pool. After evaluating SFAS 123(R)-3 we chose to elect the simplified method, and established our beginning pool balance using the short form method of SFAS 123R. No impact on net income resulted from our adoption of same.
Employee Benefit Plan
Company employees who meet certain requirements as to age and service are eligible to participate in our 401(k) benefit plan. For the years ended December 31, 2008, 2007 and 2006, our expenses related to the plan were $1,597, $2,356, and $3,083, respectively.
Shareholders’ Equity
In addition to common stock, we have 100,000 shares authorized of series common stock, $.01 par value per share, and 100,000 shares authorized of preferred stock, $.01 par value per share. No shares of series common stock or preferred stock are issued and outstanding.
Treasury stock is recorded at cost. Issuance of treasury shares is accounted for on a first-in, first-out basis. In September 2006, our Board of Directors approved the repurchase of an additional 3,000 shares. During the year ended December 31, 2006, we repurchased 3,000 shares at an average price of $23.02 per share. During the years ended December 31, 2008 and 2007, we received approximately 12 and 7 shares, respectively, to satisfy employees tax liability on shares issued in conjunction with our stock-based compensation program.
Earnings Per Share
Basic earnings per share is calculated by dividing net income available to common shareholders by the weighted average number of common shares outstanding for the period. Diluted earnings per share is calculated by dividing net income available to common shareholders by the weighted average number of shares outstanding including the dilutive effect of stock options and convertible notes. Options to purchase common stock, restricted stock units and performance stock grants totaling 1,384, 3,906 and 1,879 shares were excluded from the computation of diluted weighted average shares outstanding for 2008, 2007 and 2006, respectively, due to their antidilutive effect. Approximately 4,534 shares related to the contingent convertible notes were excluded from the calculation of diluted weighted average shares outstanding for the years ended 2008 and 2007 due to their antidilutive effect.
Information pertaining to the calculation of earnings per share for each of the three years ended December 31 is as follows:
WCI Communities, Inc.
Debtor-in-Possession
Notes to Consolidated Financial Statements-(Continued)
December 31, 2008
(In thousands, except per share data)
Consolidated Statement of Cash Flows-Supplemental Disclosures
Non-monetary transactions during 2008, 2007 and 2006:
New Accounting Pronouncements
In December 2007, the FASB issued SFAS 141R, Business Combinations and SFAS 160, Noncontrolling Interests in Consolidated Financial Statements, an amendment of ARB No. 51. SFAS 141R will change how business acquisitions are accounted for and will impact financial statements both on the acquisition date and in subsequent periods. SFAS 160 will change the accounting and reporting for minority interests, which will be recharacterized as noncontrolling interests and classified as a component of equity. SFAS 141R and SFAS 160 are effective for both public and private companies for fiscal years beginning on of after December 15, 2008. SFAS 141R will be applied prospectively. SFAS 160 requires retroactive adoption of the presentation and disclosure requirements for existing minority interests. All other requirements of SFAS 160 will be applied prospectively. Early adoption is prohibited for both standards. The impact on our financial statements for that period has not yet been determined.
In March 2008, the FASB issued SFAS 161, Disclosures About Derivative Instruments and Hedging Activities-an amendment of FASB Statement No. 133. SFAS 161 expands the disclosure requirements in SFAS 133, Accounting for Derivative Instruments and Hedging Activities, regarding an entity’s derivative instruments and hedging activities. SFAS 161 is effective for fiscal years beginning after November 1, 2008. We do not expect the adoption of SFAS 161 to have a material effect on our consolidated financial statements.
In April 2008, the FASB issued FASB Staff Position 90-7-1, “An Amendment of AICPA Statement of Position 90-7,”. FSP 90-7-1, which was effective immediately and amends SOP 90-7, paragraph 38 to nullify the requirement regarding changes in accounting principles. Previously under paragraph 38 of SOP 90-7, changes in accounting principles that will be required in the financial statements of an emerging entity within the 12 months following the adoption of fresh-start accounting were required to be adopted at the time fresh-start reporting was adopted. As a result of the amendment, an entity emerging from bankruptcy that applies fresh-start reporting should follow only the accounting standards in effect at the date fresh-start reporting is adopted, which include those standards eligible for early adoption if an election is made to adopt early.
In May 2008, the FASB issued FASB Staff Position APB 14-1, Accounting for Convertible Debt Instruments That May Be Settled in Cash Upon Conversion (Including Partial Cash Settlement). FSP APB 14-1 specifies that issuers of such instruments should separately account for the liability and equity components in a manner that will reflect the entity’s nonconvertible debt borrowing rate on the instrument’s issuance date when
WCI Communities, Inc.
Debtor-in-Possession
Notes to Consolidated Financial Statements-(Continued)
December 31, 2008
(In thousands, except per share data)
interest cost is recognized in subsequent periods. Our 2003 4.0% contingent convertible senior subordinated notes due August 5, 2023 are within the scope of FSP APB 14-1. We will be required to record the debt portions of our 4.0% contingent convertible senior subordinated notes at their fair value on the date of issuance or subsequent amendment date and amortize the discount into interest expense over the life of the debt; however, there would be no effect on our cash interest payments. FSP APB 14-1 will be effective for financial statements issued for fiscal years beginning after December 15, 2008 and the interim periods within those fiscal years, and would be applied retrospectively to all periods presented. Early adoption is not permitted. We do not expect the adoption of FSP APB 14-1 to have a material effect on our consolidated financial statements.
Concentration Risks
Approximately 96% of our total revenues are generated from our Florida operations, with our Mid-Atlantic United States (Mid-Atlantic U.S.) and the Northeast United States (Northeast U.S.) markets comprising the remaining revenues. Consequently, the significant economic downturn in the Florida, Mid-Atlantic U.S. and Northeast U.S. markets has adversely affected our business, results of operations and financial condition.
3. Condensed Combined Financial Information of Entities in Chapter 11 Proceedings
Since the condensed consolidated financial statements of the Company include entities not in Chapter 11 reorganization proceedings, the following presents condensed combined financial information of the entities in Chapter 11 reorganization proceedings. The condensed combined financial information has been prepared, in all material respects, on the same basis as the condensed consolidated financial statements of the company.
WCI Communities, Inc.
Debtor-in-Possession
Notes to Consolidated Financial Statements-(Continued)
December 31, 2008
(In thousands, except per share data)
Condensed Combined Debtors-in-Possession Balance Sheet
WCI Communities, Inc.
Debtor-in-Possession
Notes to Consolidated Financial Statements-(Continued)
December 31, 2008
(In thousands, except per share data)
Condensed Combined Debtors-in-Possession Statement of Operations
WCI Communities, Inc.
Debtor-in-Possession
Notes to Consolidated Financial Statements-(Continued)
December 31, 2008
(In thousands, except per share data)
Condensed Combined Debtors-in-Possession Statement of Cash Flows
WCI Communities, Inc.
Debtor-in-Possession
Notes to Consolidated Financial Statements-(Continued)
December 31, 2008
(In thousands, except per share data)
4. Segment Information
We operate in three principal business segments: Tower Homebuilding, Traditional Homebuilding, which includes sales of lots, and Real Estate Services, which includes real estate brokerage and title operations. The reportable segments are each managed separately because they provide distinct products or services with different productions processes. Land Sales and Amenity Membership and Operations and Other have been disclosed for purposes of additional analysis.
The amount of previously capitalized interest included in cost of sales of each segment, thereby reducing segment gross margin, is also presented for purposes of additional analysis. The accounting policies of the segments are the same as those described in our significant accounting policies in Note 2. Asset information by business segment is not presented, since we do not prepare such information.
See the consolidated statements of operations for a reconciliation of gross margin to income before minority interests and income taxes for the years ended December 31, 2008, 2007 and 2006.
WCI Communities, Inc.
Debtor-in-Possession
Notes to Consolidated Financial Statements-(Continued)
December 31, 2008
(In thousands, except per share data)
5. Asset Impairments and Write Offs
The weakened market conditions that arose during late 2005 have persisted through 2008 and resulted in significantly lower than expected net new orders, revenues and gross margins and higher than expected cancellation rates. As a result, certain of our inventories and other long-lived assets were tested for impairment and we recorded asset impairment losses of approximately $600,985 and $319,040 for the years ended December 31, 2008 and 2007, respectively.
The following table quantifies our impairments for each of our inventory components:
In the event that market conditions or the Company’s operations deteriorate in the future, or current difficult market conditions extend beyond our expectations, including, but not limited to, a further decline in sales prices, reduced absorption of units in inventory, increased defaults or cancellations of tower unit and traditional home contracts, or increased costs of development, additional impairments may be necessary and any such charges could be significant.
Write-off of deposits and other costs
We evaluate deposits and other costs related to land option contracts for recoverability and write-off such deposits and others costs when it is no longer probable that we will pursue the purchase as originally planned. These decisions take into consideration changes in national and local market conditions, the willingness of land sellers to modify terms of the purchase agreement, the timing of required land purchases, and other factors. We wrote off approximately $16,321, $22,864 and $41,363 for the years ended December 31, 2008, 2007 and 2006, respectively related to forfeited deposits and other costs associated with the termination or probable termination of land option contracts.
WCI Communities, Inc.
Debtor-in-Possession
Notes to Consolidated Financial Statements-(Continued)
December 31, 2008
(In thousands, except per share data)
Valuation adjustments and land purchase deposit write-offs by geographic market:
6. Discontinued Operations
In April 2007, we sold a non-golf recreational facility for $47,500 (excluding closing costs) and recorded a pre-tax gain of approximately $20,100. In November 2007, we sold a non-golf amenity club for $8,220 (excluding closing costs) and recorded a pre-tax gain of approximately $2,350. In accordance with SFAS 144, the sale of the amenities qualifies as discontinued operations, and accordingly, we have reported the results of operations in discontinued operations in the accompanying condensed consolidated statements of income for all periods presented.
WCI Communities, Inc.
Debtor-in-Possession
Notes to Consolidated Financial Statements-(Continued)
December 31, 2008
(In thousands, except per share data)
The results from discontinued operations were as follows:
7. Mortgage Notes and Accounts Receivable
Mortgage notes and accounts receivable are summarized as follows:
Mortgage notes receivable are generated through the normal course of business, primarily land sales, and are collateralized by liens on property sold. Accounts receivable are generated through the normal course of amenity and other business operations and are unsecured. We assess the collectibility of accounts receivable and the need for an allowance for doubtful accounts based upon review of the individual receivables and collection history.
8. Real Estate Inventories
Real estate inventories are summarized as follows:
Work in progress includes tower units and homes that are finished, sold and ready for delivery. Work in progress also includes unsold tower units and homes in various stages of construction and tower land in the initial stages of site planning and tower design. Completed inventories consist of model homes used to facilitate sales
WCI Communities, Inc.
Debtor-in-Possession
Notes to Consolidated Financial Statements-(Continued)
December 31, 2008
(In thousands, except per share data)
and tower units and homes that were not subject to a sales contract. Including model homes, we had 234 and 477 completed single- and multi-family homes at December 31, 2008 and 2007, respectively. We had 506 and 391 completed tower residences at December 31, 2008 and 2007, respectively.
9. Land and Lot Purchase Arrangements
In the normal course of business, we enter into contractual arrangements to acquire developed and undeveloped land parcels and lots. The land and lot purchase arrangements are typically subject to a number of conditions including, but not limited to, the ability to obtain necessary governmental approvals. If all governmental approvals are not obtained prior to a pre-determined contractual deadline, we may extend the deadline or cancel the contract and the initial deposit will be returned. In addition, we typically have the right to cancel any agreement by forfeiture of the deposit. In such instances, we generally are not able to recover any pre-development costs we may have incurred.
Under the provisions of the Financial Accounting Standards Board Interpretation 46-R, Consolidation of Variable Interest Entities (VIEs), an interpretation of ARB 51, we have concluded that whenever we enter into an arrangement to acquire land or lots from an entity and pay a non-refundable deposit or enter into a partnership arrangement, a VIE may be created. If we are deemed to be the primary beneficiary of these arrangements, we would be required to consolidate the VIE. Our exposure to loss as a result of our involvement with the VIE is limited to our deposit and pre-development costs not the VIE’s total assets or liabilities that may be consolidated on the balance sheet. As of December 31, 2008, we have no remaining active arrangements to acquire land and lots.
10. Property and Equipment
Property and equipment consist of the following:
WCI Communities, Inc.
Debtor-in-Possession
Notes to Consolidated Financial Statements-(Continued)
December 31, 2008
(In thousands, except per share data)
For the year ended December 31, 2008, we recorded asset impairment losses of approximately $36,616 of which $36,210 related to recreational amenity assets and $406 related to certain of our sales offices. There were no such impairments recognized in 2007.
11. Investments in Unconsolidated Joint Ventures
Investments in unconsolidated joint ventures, which are not considered variable interest entities, represent our ownership interest in real estate limited partnerships and are accounted for under the equity method when we have less than a controlling interest, have substantive participating rights or we are not the primary beneficiary as defined in FIN 46R. At December 31, 2008 investments in unconsolidated joint ventures consists of the following:
We evaluate our investments in unconsolidated entities for impairment during each reporting period in accordance with APB Opinion No. 18, The Equity Method of Accounting for Investments in Common Stock. A series of operating losses of an investee or other factors may indicate that a decrease in value of our investment in the unconsolidated entity has occurred which is other-than-temporary. The amount of impairment recognized is the excess of the investment’s carrying value over its estimated fair value. The evaluation of our investments in unconsolidated entities includes two critical assumptions: (1) projected future distributions from the unconsolidated entities and (2) discount rates applied to the future distributions. Our assumptions on the projected future distributions from the unconsolidated entities are dependent on market conditions. Specifically, distributions are dependent on cash to be generated from the sale of inventory by the unconsolidated entities. Such inventory is also reviewed for potential impairment by the unconsolidated entities in accordance with SFAS 144. If a valuation adjustment is recorded by an unconsolidated entity in accordance with SFAS 144, our proportionate share is reflected in equity in earnings (loss) from unconsolidated entities with a corresponding decrease to our investment in unconsolidated entities.
In the third quarter of 2008, we exited two unconsolidated joint ventures, Ocala 623 Land Development LLC and Renaissance at Woodlands LLC. During the years ended December 31, 2008 and 2007, we recorded approximately $4,480 and $10,748, respectively, of valuation adjustments to our investments in these joint ventures in accordance with APB 18. Effective February 2009, our interests in these two joint ventures were dissolved and we were released from any further obligations under the joint venture agreements. The Company did not record any adjustments to its investments in unconsolidated entities related to SFAS 144 or APB 18 during 2006. These valuation adjustments were calculated based on current market conditions and assumptions made by management, which may differ materially from actual results if market conditions change. As a result of the dissolution of our interest in Renaissance at Woodlands LLC we were also released from a loan guarantee obligation of approximately $5,000.
WCI Communities, Inc.
Debtor-in-Possession
Notes to Consolidated Financial Statements-(Continued)
December 31, 2008
(In thousands, except per share data)
Our share of net earnings (loss) is based upon our ownership interest. We may be required to make additional cash contributions to the ventures, pursuant to the venture agreements, to avoid the loss of all or part of our interest in such ventures. Although our joint ventures do not have outstanding debt, the partners may agree to incur debt to fund partnership and joint venture operations in the future.
The basis differences between our investments in joint ventures and the equity in underlying net assets are primarily attributable to acquisition purchase accounting, agreed upon values among the Partners for contributed assets, deferred development fees and other basis differences. At December 31, 2008 and 2007, our basis in net partnership assets is less than our capital on the partnerships’ books by $921 and $1,594, respectively. The basis differences are realized by us primarily as the joint ventures sell underlying assets. The aggregate condensed financial information reflects the financial information of the unconsolidated joint ventures and is summarized as follows:
12. Debtor-In-Possession Financing
On September 24, 2008, pursuant to authorization from the Delaware Bankruptcy Court, we entered into a $150,000 Debtor-In-Possession Credit Agreement (the DIP Agreement) with a syndicate of lenders, some of which were lenders under our pre-petition secured debt facilities, led by Wachovia Bank, National Association, acting as administrative agent, and Bank of America, N.A., acting as collateral agent. The Court also granted WCI final authority to continue using its on-hand cash collateral during the Chapter 11 case. The DIP Credit Agreement includes an $80,000 term loan and a $70,000 revolving credit facility (collectively, the DIP Loans). The $80,000 term loan was a required borrowing on the closing date, approximately $50,000 of which was used to repay the outstanding balance under our Third Consolidated, Amended and Restated Revolving Credit Construction Loan Agreement, dated as of September 22, 2005, with the remainder to be used for general
WCI Communities, Inc.
Debtor-in-Possession
Notes to Consolidated Financial Statements-(Continued)
December 31, 2008
(In thousands, except per share data)
corporate purposes. Availability of funds under the revolving credit facility is subject to a limitation on the amount of cash and cash equivalents held by WCI. We may also request the issuance of up to $25,000 in letters of credit. As part of the order, we granted the pre-petition agents and the lenders various forms of protection, including liens and administrative claims to protect against the diminution of the collateral value to the extent provided in the final order approving the DIP Agreement. The DIP Agreement initially matures on September 24, 2009, subject to a six-month extension period. Borrowings under the DIP Agreement bear interest at the Eurodollar Rate plus 6.0% or an index base rate plus 5.0%. At December 31, 2008, the revolving credit facility was accruing interest at 8.25%.
Our obligations under the DIP Agreement are guaranteed by substantially all of our subsidiaries (the Guarantors). We are required to make certain mandatory repayments under the DIP Agreement in the event we sell certain assets, including bulk unit sales, subject to certain exceptions. Certain mandatory repayments may permanently reduce the original borrowing capacity, as further defined in the DIP Agreement.
The DIP Agreement and the related guarantees are secured by first priority liens on substantially all of WCI’s and the Guarantors’ assets. The DIP Agreement includes certain covenants that impose substantial restrictions on WCI’s and the Guarantors’ financial and business operations, including the ability to, among other things, incur or secure other debt, make investments, sell assets and pay dividends or repurchase stock. In addition, we are required to maintain an Appraised Value Ratio, as defined, of not less than 1.26 to 1.0, and to meet certain monthly cash flow variance tests. At December 31, 2008, we were in compliance with these covenants.
13. Pre-Petition Debt Obligations
Senior Secured Revolving Credit Facility
The filing of the Chapter 11 petitions triggered repayment obligations under a number of our debt instruments and agreements. As a result, all of our debt obligations became immediately payable. We believe that any efforts to enforce the payment obligations are stayed as a result of the Chapter 11 filings. In addition, we are no longer able to borrow funds under our pre-petition debt agreements.
In June 2006, we entered into a new senior unsecured revolving credit agreement (the Revolving Credit Facility). The Revolving Credit Facility provided for a $930,000 revolving loan and matures June 2010, subject to extensions at our request, not to exceed four years from the existing maturity date, and allows for prepayments and additional borrowings to the maximum amount, provided an adequate borrowing base is maintained. In April 2007 and August 2007, simultaneously with the amendment of the senior secured term note (the Term Loan), the Revolving Credit Facility was amended to reduce the borrowing capacity and modify certain financial and operational covenants. We also agreed to provide the lenders under the Revolving Credit Facility with mortgages and other security documents covering substantially all of our unsecured assets as security and to obtain appraisals and other property-specific reports. In addition, the lenders under the Revolving Credit Facility agreed to waive existing prohibitions on a defined Change of Control to accommodate the change in the membership of our Board of Directors. The Revolving Credit Facility allows an allocation of the unused balance for issuance of a maximum of $280,000 of stand-by letters of credit of which $36,616 is outstanding at December 31, 2008. At September 30, 2007, we failed to comply with the minimum EBITDA to Fixed Charges ratio as defined in the August 2007 amendment and we requested and received a limited waiver of default from the lenders under the Revolving Credit Facility in November 2007. Pursuant to the terms of the waiver the interest rate increased to the lender’s prime rate plus 2.00% or the Eurodollar base rate plus 3.50%, payable in arrears. At December 31, 2008, $498,924 of our outstanding balance under the Revolving Credit Facility was accruing interest at 5.69%.
WCI Communities, Inc.
Debtor-in-Possession
Notes to Consolidated Financial Statements-(Continued)
December 31, 2008
(In thousands, except per share data)
On January 16, 2008, we simultaneously further amended the Revolving Credit Facility and the Senior Secured Term Loan. This amendment provides for, among other things, a waiver of the EBITDA to Fixed Charges ratio for the quarters ending September 30, 2007 and December 31, 2007, and waiver of the Leverage Ratio for the quarter ending December 31, 2007. The borrowing capacity under the Revolving Credit Facility was reduced from $700,000 (under the August 2007 amendment) to $675,000 effective January 16, 2008, with subsequent reductions to $650,000 on February 28, 2008, to $600,000 on July 1, 2008 and to $550,000 on July 1, 2009. The amendment also specifies mandatory prepayments and limits the use of proceeds from the Revolving Credit Facility. The amendment converted $250,000 of the outstanding obligations to non-revolving status. The interest rate is the Eurodollar base rate plus 5.25% or the lender’s prime rate plus 3.75%. The interest rate can be increased up to 25 basis points based on the Adjusted Tangible Net Worth and the Leverage Ratio, as set forth below. The revised Revolving Credit Facility contains modifications to certain financial and operational covenants, which limit our ability, among other items, to repurchase subordinated debt and common stock, and to finance tower construction under the Revolving Credit Facility.
Senior Secured Term Loan
In December 2005, we entered into a $300,000 senior unsecured term note (the Term Loan). The Term Loan is a senior obligation guaranteed by all significant operating subsidiaries of the Company, and is cross-defaulted with our Revolving Credit Facility. The proceeds of the Term Loan were used to repurchase a portion of our outstanding 10-5/8% Senior Subordinated Notes due 2011. The Term Loan matures December 2010. We may prepay the Term Loan, in whole or in part, at any time without fees or penalty. Simultaneous with the closing of the Term Loan, we executed a swap agreement that effectively fixes the interest rate on the borrowing at 6.9% for the entire term of the Term Loan. The Term Loan contains customary covenants, including covenants that, in certain circumstances restrict our ability to incur additional indebtedness, pay dividends on capital stock, make other restricted payments, including investments, sell our assets and enter into consolidations, mergers and transfers of substantially all of our assets, and that require us to maintain specified financial ratios and satisfy financial condition tests. In June 2006, the Term Loan was amended to conform certain terms and covenants to those of the Revolving Credit Facility. In April 2007 and August 2007, simultaneously with the amendment of the Revolving Credit Facility, the Term Loan was amended to reduce the borrowing capacity and modify certain financial and operational covenants. We also agreed to provide the lenders under the Term Loan with mortgages and other security documents covering substantially all of our unsecured assets as security and to obtain appraisals and other property-specific reports. In addition, the lenders under the Term Loan agreed to waive existing prohibitions on a defined Change of Control to accommodate the change in the membership of our Board of Directors. At September 30, 2007, we failed to comply with the minimum EBITDA to Fixed Charges ratio as defined in the August 2007 amendment and we requested and received a limited waiver of default from the lenders under the Term Loan in November 2007. Pursuant to the terms of the waiver the interest rate increased to the LIBOR base rate plus 4.00% (5.69% at December 31, 2008), payable in arrears.
On January 16, 2008, we further simultaneously amended the Term Loan. This amendment provides for, among other things, a waiver of the EBITDA to Fixed Charges ratio for the quarters ending September 30, 2007 and December 31, 2007, and waiver of the Leverage Ratio for the quarter ending December 31, 2007. The borrowing capacity under the Term Note was reduced from $262,500 (under the August 2007 amendment) to $253,125 effective January 16, 2008, with subsequent reductions to $243,750 on February 28, 2008, to $225,000 on July 1, 2008 and to $206,250 on July 1, 2009. The amendment also specifies mandatory prepayments and limits the use of proceeds from the Term Note. The interest rate is LIBOR base rate plus 5.25%. The interest rate
WCI Communities, Inc.
Debtor-in-Possession
Notes to Consolidated Financial Statements-(Continued)
December 31, 2008
(In thousands, except per share data)
can be increased up to 25 basis points based on the ATNW and the Leverage Ratio, as set forth below. The revised Term Loan contains modifications to certain financial and operational covenants, which limit our ability, among other items, to repurchase subordinated debt and common stock, and to finance tower construction under the Term Loan.
Senior Subordinated Notes
As a result of the Chapter 11 petitions the notes became immediately payable and are included in liabilities subject to compromise at December 31, 2008.
In March 2005, we issued $200,000 of 6-5/8% senior subordinated notes (the 6-5/8% Notes). The 6-5/8% Notes mature March 15, 2015 and interest is payable semi-annually in arrears commencing on September 15, 2005. The 6-5/8% Notes are subordinated to all existing and future senior debt. The 6-5/8% Notes’ indenture contains certain financial and operational covenants that may limit us and our subsidiaries’ ability to incur additional debt, pay dividends, repurchase capital stock and make certain restricted investments. Proceeds from 6-5/8% Notes were used to repay approximately $199,000 of the outstanding balance under the senior unsecured credit facility.
In September 2003, we issued $125,000 of 7-7/8% senior subordinated notes (the 7-7/8% Notes). The 7-7/8% Notes mature October 1, 2013 and interest is payable semi-annually in arrears commencing on April 1, 2004. The 7-7/8% Notes are subordinated to all existing and future senior debt. The indenture agreement contains financial and operational covenants that may limit us and our subsidiaries ability to incur additional debt, pay dividends, repurchase capital stock and make certain restricted investments.
In April 2002, we issued $200,000 of 9-1/8% senior subordinated notes (the 9-1/8% Notes). The 9-1/8% Notes mature May 1, 2012 and interest is payable semi-annually in arrears commencing on November 1, 2002. The 9-1/8% Notes are subordinated to all existing and future senior debt. The 9-1/8% Notes, indenture agreement contains financial and operational covenants that may limit us and our subsidiaries ability to incur additional debt, pay dividends, repurchase capital stock and make certain restricted investments.
Junior Subordinated Notes
In February 2006, we issued $65,000 of junior subordinated notes (the Notes) in a private placement. The Notes bear interest at a fixed rate of 7.54%, payable quarterly in arrears through April 30, 2016 and thereafter at a variable rate equal to LIBOR plus 250 basis points, adjusted quarterly. The Notes mature April 30, 2036. The Notes are subordinated to all existing and future senior debt. Proceeds from the offering were used to repay $64,700 of the outstanding balances under the senior unsecured credit facility. As a result of the Chapter 11 petitions the notes became immediately payable and are included in liabilities subject to compromise at December 31, 2008.
In September 2005, we issued $100,000 of junior subordinated notes (the Notes) in a private placement. The Notes bear interest at a fixed rate of 7.25%, payable quarterly in arrears through October 30, 2015 and thereafter at a variable rate equal to LIBOR plus 250 basis points, adjusted quarterly. The Notes mature October 30, 2035. The Notes are subordinated to all existing and future senior debt. Proceeds from the offering were used to repay $98,000 of the outstanding balances under the senior unsecured credit facility. As a result of the Chapter 11 petitions the notes became immediately payable and are included in liabilities subject to compromise at December 31, 2008.
WCI Communities, Inc.
Debtor-in-Possession
Notes to Consolidated Financial Statements-(Continued)
December 31, 2008
(In thousands, except per share data)
Contingent Convertible Senior Subordinated Notes
In August 2003 we issued $125,000 of 4.0% contingent convertible senior subordinated notes (the 4% Notes) due 2023. The 4% Notes mature August 5, 2023 and interest is payable semi-annually in arrears commencing on February 5, 2004. The 4% Notes are subordinated to all existing and future senior debt. As a result of the Chapter 11 petitions the notes became immediately payable and are included in liabilities subject to compromise at December 31, 2008.
We have the right to redeem all or some of the 4% Notes under certain circumstances beginning in August 2006. Holders may require us to repurchase the 4% Notes in August 2008, 2013 and 2018 and upon the occurrence of a change in control as defined in the indenture. The 4% Notes can be converted into our common stock at a conversion price per share of $27.57 which is equal to a conversion rate of approximately 36.2713 common shares per $1,000 principal amount of the 4% Notes under certain circumstances prior to the maturity date. The 4% Notes are convertible at the holder’s option prior to the maturity date under the following circumstances:
(1) during any calendar quarter, if the closing sale price of our common stock price for at least 20 trading days in the period of 30 consecutive trading days is more than 120% of the conversion price per share ($27.57);
(2) if we have called the 4% Notes for redemption and the redemption has not yet occurred;
(3) subject to certain exceptions, during the five trading day period in which the average trading price of the 4% Notes per $1,000 principal amount was less than 95% of the product of the closing sale price of our common stock multiplied by the number of shares of our common stock issuable upon conversion of $1,000 principal amount of the 4% Notes;
(4) reduction of credit rating below B- or B1, credit rating suspended or withdrawn or credit agencies no longer rating the 4% Notes; or
(5) upon the occurrence of certain corporate transactions.
On December 15, 2004, we amended the Indenture governing our 4.0% contingent convertible senior subordinated notes to irrevocably elect to pay in cash the lesser of the “cash conversion price” (as defined in the amendment to the Indenture) or the principal amount of the notes in the event any notes are converted. In the event that the cash conversion price exceeds the principal amount of the notes converted (the “conversion premium”), we would have the option to satisfy the conversion premium in shares of common stock or cash.
In December 2006, Moody’s Investors Service downgraded WCI’s credit ratings, including its corporate family rating, to B1 from Ba3 and the ratings on a portion of our senior subordinated notes to B3 from B1. In January 2007, due to their continued negative outlook on the Company, Moody’s lowered our credit rating and rating on a portion of our senior subordinated debt to B2 from B1 and to Caa1 from B3, respectively. In November 2007, Moody’s further lowered our credit rating and rating on a portion of our senior subordinated debt to Caa2 from Caa1 and Caa3 from B2, respectively.
In connection with the reduction in our credit rating by Moody’s on our senior subordinated debt, a holder of our 4% Notes may now convert all or a portion of such 4% Notes. Upon conversion of the 4% Notes, we will pay cash equal to the lesser of the cash conversion price (as defined in the Supplemental Indenture) and 100
WCI Communities, Inc.
Debtor-in-Possession
Notes to Consolidated Financial Statements-(Continued)
December 31, 2008
(In thousands, except per share data)
percent of the principal amount of the Convertible Notes. In the event that the cash conversion price exceeds 100 percent of the principal amount of the 4% Notes, we may elect to issue common stock or pay an amount of cash equivalent to the difference between the cash conversion price and 100 percent of the principal amount of the 4% Notes. As of December 31, 2008, the cash conversion price per $1,000 aggregate principal amount of 4% Notes would result in the holder receiving an amount less than par and no holders have requested conversion.
14. Mortgages and Notes Payable
Mortgages and notes payable consist of the following:
In connection with the purchase of real estate assets located in Duchess County, New York, we entered into a promissory note payable to the seller for $3,550. The note is non-interest bearing for three years and then accrues interest at the applicable federal rate. The loan matures on the earlier of October 2009 or 60 days after all municipal approvals are received. We recorded a discount of $1,973 at an interest rate of 7% and will recognize the discount as interest expense over the life of the loan.
In September 2005, we entered into an amended and restated revolving credit construction loan agreement (the Tower Loan Agreement) that replaced the previous $290,000 revolving tower construction loan. The loan was repaid from proceeds of the DIP Loan.
In connection with the purchase of real estate assets located in Manatee County, Florida, we entered into two promissory notes payable to the sellers totaling $19,225. The notes were repaid in January 2008.
15. Community Development District Obligations
In connection with the development of certain of our communities, community development or improvement districts may utilize bond financing to fund construction or acquisition of certain on-site and off-site infrastructure improvements, near or at these communities. We utilize two primary types of bonds issued by the district, type “A” or “B” which are used to reimburse us for construction or acquisition of certain infrastructure improvements. The “A” bond is the portion of a bond offering that is ultimately intended to be assumed by the end-user, and the “B” bond is our obligation. The obligation to pay principal and interest on the bonds issued by the districts is assigned to each parcel within the district. If the owner of the parcel does not pay this obligation, a lien is placed on the property to secure the unpaid obligation. The bonds, including interest and redemption premiums, if any, and the associated lien on the property are typically payable, secured and satisfied by revenues, fees, or assessments levied on the property benefited. The amount of community development district and improvement district bond obligations issued and outstanding with respect to our communities totaled $107,754 and $149,810 at December 31, 2008 and 2007, respectively. Bond obligations at December 31, 2008 mature from 2011 to 2036.
WCI Communities, Inc.
Debtor-in-Possession
Notes to Consolidated Financial Statements-(Continued)
December 31, 2008
(In thousands, except per share data)
The districts raise the money to make the principal and interest payments on the bonds by imposing assessments and user fees on the properties benefited by the improvements from the bond offerings. We pay a portion of the revenues, fees, and assessments levied by the districts on the properties we own that are benefited by the improvements. We may also agree to pay down a specified portion of the bonds at the time of each unit or parcel closing. In addition, we guarantee district shortfalls under some of the bond debt service agreements when the revenues, fees and assessments which are designed to cover principal and interest and other operating costs of the bonds are insufficient.
In accordance with EITF Issue 91-10, Accounting for Special Assessments and Tax Increment Financing, we record a liability, net of cash held by the districts that directly reduce our district obligations for the estimated developer obligations that are fixed and determinable and user fees that are required to be paid or transferred at the time the parcel or unit is sold to an end user. We reduce this liability by the corresponding assessment assumed by property purchasers and the amounts paid by us at the time of closing and transfer of the property. We have accrued $54,694 and $87,870 as of December 31, 2008 and 2007, respectively, as our estimated amount of bond obligations that we may be required to pay.
16. Income Taxes
The provision for income taxes consists of the following:
Income taxes payable (receivable) consists of the following:
WCI Communities, Inc.
Debtor-in-Possession
Notes to Consolidated Financial Statements-(Continued)
December 31, 2008
(In thousands, except per share data)
Deferred federal and state income tax assets primarily represent the deferred tax benefits arising from temporary differences between book and tax income which will be recognized in future years as an offset against future taxable income. If, for some reason, the combination of future years income (or loss) combined with the reversal of the timing differences results in a loss, such losses can be carried back to prior years or carried forward to future years to recover the deferred tax assets.
In accordance with SFAS 109, we evaluate our deferred tax assets quarterly to determine if valuation allowances are required. SFAS 109 requires that companies assess whether valuation allowances should be established based on the consideration of all available evidence using a “more likely than not” standard. Given the continued downturn in the homebuilding industry during the fourth quarter of 2008, resulting in additional inventory and intangible impairments, land purchase option write-offs and operating losses, we were, and continue to be, in a three year cumulative loss position at December 31, 2008 and 2007. According to SFAS 109, a three year cumulative loss is significant negative evidence in considering whether deferred tax assets are realizable, and also precludes relying on projections of future taxable income to support the recovery of deferred tax assets. Therefore, during 2008, we recorded an increase to the valuation allowance of approximately $313,000 against our deferred tax assets resulting in full valuation of our net deferred tax assets. Our approximate $195,000 of federal net operating loss carryforwards remaining after carryback to 2006 expire December 31, 2028.
Deferred tax assets and liabilities consist of the following:
WCI Communities, Inc.
Debtor-in-Possession
Notes to Consolidated Financial Statements-(Continued)
December 31, 2008
(In thousands, except per share data)
A reconciliation of the statutory rate and the effective tax rate from continuing operations follows:
Effective January 1, 2007, we adopted FASB Interpretation No. 48, Accounting for Uncertainty in Income Taxes, an interpretation of FASB Statement No. 109. FIN 48 defines the methodology for recognizing the benefits of tax return positions as well as guidance regarding the measurement of the resulting tax benefits. FIN 48 requires 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, FIN 48 provides 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 these estimates.
A reconciliation of the beginning and ending amount of gross unrecognized tax benefits is as follows:
At December 31, 2008, we had gross tax-affected unrecognized tax benefits of approximately $30,910, of which approximately $30,910 would impact the effective tax rate. Included in the balance sheet at December 31, 2008 are approximately $965 of items of which the ultimate deductibility are certain but the timing of the deduction is uncertain. Accordingly, we did not recognize the tax benefits associated with these timing differences.
WCI Communities, Inc.
Debtor-in-Possession
Notes to Consolidated Financial Statements-(Continued)
December 31, 2008
(In thousands, except per share data)
We classify estimated interest and penalties related to unrecognized tax benefits in our provision for income taxes. As of December 31, 2008 we have accumulated approximately $2,380 of gross interest expense and estimated penalties, of which approximately $2,380 would decrease the effective rate if recognized. It is reasonably possible that a gross amount of $856 will impact the effective tax rate within the twelve months following December 31, 2008.
We are periodically audited by federal and state taxing authorities. The outcome of these audits may result in taxes in addition to amounts previously paid. Tax returns for years 2005 - 2007 remain open and subject to examination by the Internal Revenue Service (IRS). We are currently under examination by the IRS for the year 2007. It is possible that examinations may be initiated by any jurisdiction where we operate and the results of which may increase our income tax liabilities, decrease the amount of deferred tax assets, and may materially change the amount of unrecognized income tax benefits for tax positions taken.
17. Stock Incentive Plans
We have two stock incentive plans, the Employee’s 2004 Stock Incentive Plan for key employees and the Non-Employee Directors’ Stock Incentive Plan (Non-Employee Directors’ Plan). Each plan is administered by a committee of the Board of Directors (the Executive Compensation Committee). Under the Employee’s 2004 Stock Incentive Plan, the Executive Compensation Committee approves the number of shares for which options, stock appreciation rights (SARs), and other equity based awards are to be granted. The maximum number of shares authorized to be granted as of December 31, 2008 was approximately 6,566 common shares which is based on 15% of the issued and outstanding shares of our common stock as provided in the 2004 Stock Incentive Plan. As of December 31, 2008, approximately 2,821 shares are available for future grant. Options and SAR’s vest on various schedules from grant date over periods of up to five years and are exercisable within ten years of the grant date, at which time the options and SAR’s expire. Non-employee directors’ compensation paid in the form of vested restricted stock units (RSUs) and common stock may also be issued from the 2004 Stock Incentive Plan. On March 31, 2009, the Company filed a Post-Effective Amendment to its registration statement for the Employees 2004 Stock Incentive Plan, to deregister all remaining unissued shares.
Under the Non-Employee Directors’ Plan, non-qualified stock options and SARs to purchase up to approximately 215 shares of our common stock may be granted to our non-employee directors. On May 17, 2006, our shareholders approved an amended and restated Non-Employee Directors’ Plan which increased the number of shares authorized for issuance to 565 and to permit issuance of other stock-based awards in addition to the stock options and SARs previously authorized. As of December 31, 2008, 345 shares are available for future grant. Beginning October 2005, all stock-based grants issued under the Non-Employee Directors Compensation Program immediately vest upon grant with the exception of the agreement entered into in December 2006 in connection with the election of our Vice Chairman of the Board of Directors. Under the agreement, the Vice Chairman received 80,000 stock options which vested in September 5, 2007; the options expired September 2, 2008. On March 31, 2009, the Company filed a Post-Effective Amendment to its registration statement for the Non-Employee Directors’ Plan, to deregister all remaining unissued shares.
Compensation expense recognized related to our share-based awards during the year ended December 31, 2008, 2007 and 2006 was approximately $2,111, $6,667 and $6,104, respectively. For the years ended December 31, 2008, 2007 and 2006, the total income tax benefit recognized in the consolidated statement of operations for share-based awards was approximately $0, $862 and $1,238, respectively. The tax deductions related to stock options exercised during the years ended December 31, 2008, 2007 and 2006 totaled approximately $0, $893 and $3,233, respectively.
WCI Communities, Inc.
Debtor-in-Possession
Notes to Consolidated Financial Statements-(Continued)
December 31, 2008
(In thousands, except per share data)
The fair value of each of our stock option awards is estimated on the date of grant using a lattice option pricing model. The fair value of our stock option awards, which are subject to graded vesting, is expensed on a straight-line basis over the vesting life of the stock options. Stock option awards expected volatility is based on an average of historical volatility of our stock. The risk-free rate for periods within the contractual life of the stock option award is based on the yield curve of a zero-coupon U.S. Treasury bond on the date the stock option award is granted with a maturity equal to the expected term of the stock option award granted. We use historical data to estimate stock option exercises and forfeitures. The expected term of stock option awards granted is derived primarily from historical exercise experience under our share-based payment plans and represents the period of time that stock option awards granted are expected to be outstanding.
The weighted average grant date fair value of options granted during the years ended December 31, 2008, 2007 and 2006 was $1.52, $8.63 and $10.70, respectively, per share at date of grant. No options were exercised in 2008. The total intrinsic value of options exercised during the years ended December 31, 2007 and 2006 was $1,205 and $7,207, respectively.
A summary of the changes in stock options and SARs during the year ended December 31, 2008 was as follows:
The fair value of stock options and stock appreciation rights granted in 2008, 2007 and 2006 was estimated using a lattice option pricing model with the following assumptions: contractual life of 10-years, dividend yield of 0% and expected volatility of 38% for 2008 and 2007 and 35% for 2006. The risk free interest rate assumptions range from 3.56% to 5.16%.
The fair value of nonvested shares is determined based on the closing price of the Company’s common stock on the grant date. The grant date fair value of the RSUs and PSGs was $3.53 in 2008, $5.95 to $23.80 in 2007 and $15.01 to $27.66 in 2006. The RSUs generally vest 100% two to three years from grant date except grants under the Non-Employee Directors’ Stock Incentive Plan immediately vest. The PSGs contingently vest over a period of one to three years upon the achievement of certain performance conditions. No expense was recognized for the 2008 and 2007 PSGs because the performance goals were deemed unattainable. During 2006, management determined the performance goals in the 2005 and 2006 PSGs were unobtainable and reversed $3,325 of compensation expense of which $1,075 related to prior periods as provided in SFAS 123R. In 2008 and 2007, approximately $26 and $87, respectively, of compensation expense was recognized as a result of change-in-control provisions in the 2004 Stock Incentive Plan, even though the performance goals are unattainable.
WCI Communities, Inc.
Debtor-in-Possession
Notes to Consolidated Financial Statements-(Continued)
December 31, 2008
(In thousands, except per share data)
A summary of our RSUs and PSGs activity for the year ended December 31, 2008 was as follows:
Historically, we have issued shares from our authorized but unissued shares to satisfy share option exercises. At December 31, 2008, there was approximately $977 of unrecognized compensation expense related to unvested share-based awards granted under our share-based payment plans, of which $762 relates to stock options and $215 relates to non-vested shares. That expense is expected to be recognized over a weighted-average period of approximately 9.6 months.
18. Transactions with Related Parties
Due to the nature of the following relationships, the terms of the respective agreements might not be the same as those which would result from transactions among wholly unrelated parties. All significant related party transactions require approval by our independent members of the Board of Directors.
We lease space in an office building from an entity affiliated through ownership interests with one of our directors. As a result of our Chapter 11 filing the lease was rejected effective January 31, 2009, and a new lease was executed with reduced rent and less rentable square feet. The new lease terminates February 1, 2010 unless terminated earlier at our election on or after November 1, 2009. Rent of $2,331, $3,085 and $2,635 was incurred for the years ended December 31, 2008, 2007 and 2006, respectively. We lease commercial office space from an entity whose shareholders include one of our directors, a former director, former chief executive officer and former chief financial officer with expiration in June 2009. Payments under the leases aggregated approximately $583, $786 and $808 in 2008, 2007 and 2006, respectively.
19. Commitments and Contingencies
We lease building space for our management offices, sales offices and other equipment and facilities. Minimum future commitments under non-cancelable operating leases having an initial or remaining term in excess of one year as of December 31, 2008 are as follows:
WCI Communities, Inc.
Debtor-in-Possession
Notes to Consolidated Financial Statements-(Continued)
December 31, 2008
(In thousands, except per share data)
Rental expense included base and operating cost reimbursements of $19,326, $31,143 and $27,631 was incurred for the years ended December 31, 2008, 2007 and 2006, respectively.
Standby letters of credit and performance bonds, issued by third party entities, are used to guarantee our performance under various contracts, principally in connection with the development of our projects and land purchase obligations. At December 31, 2008, we had approximately $37,082 in letters of credit outstanding which expire at various dates through 2009. Performance bonds do not have stated expiration dates; rather, we are released from the bonds as the contractual performance is completed. These bonds, which approximated $74,505 at December 31, 2008, are typically outstanding over a period of approximately one to five years. Our estimated exposure on the outstanding surety bonds is approximately $43,014 based on development remaining to be completed.
In accordance with various amenity and equity club documents, we operate the facilities until control of the amenities are transferred to the membership. In addition, we are required to fund the cost of constructing club facilities and acquiring related equipment and to support operating deficits prior to turnover. We do not currently believe these obligations will have any material adverse effect on our financial position or results of operations and cash flows.
We may be responsible for funding certain condominium and homeowner association deficits in the ordinary course of business. Although there has been an increased delinquency rate in association assessments, we do not currently believe these obligations will have any material adverse effect on our financial position or results of operations and cash flows.
The Company and certain of its subsidiaries have been named as defendants in various claims, complaints and other legal actions arising in the normal course of business. In most cases, the lawsuits involving the Company and/or its Debtors, have been stayed as a result of the Company’s Chapter 11 filing. In addition, in 2008 the Company has experienced a significant increase in the number of rescission claims and legal actions brought by resident contract purchasers alleging that various factors give them rescission rights under the Interstate Land Sales Act and other federal and state laws. Although the Company intends to vigorously contest these claims, there can be no assurance that the Company will prevail in each claim. In the opinion of management, the outcome of all these matters will not have a material adverse effect on the financial condition or results of operations of the Company, However, it is possible that future results of operations for any particular quarterly or annual period could be materially affected by changes in our estimates and assumptions related to these proceedings, or due to the ultimate resolution of the litigation, or if additional legal actions are bought against us.
The Company has received filed claims, letters and phone calls alleging defective drywall. As a consequence of the Company’s Chapter 11 filing, the Company believes that any issues or claims that may relate to Chinese drywall constitute pre-petition claims that are subject to treatment and discharge in the Company’s Chapter 11 plan. The Company was granted permission by the Bankruptcy Court to implement an alternate dispute resolution procedure to liquidate certain pre-petition claims, including any claims relating to alleged defective drywall and to permit recovery from responsible third parties. On February, 24 2009, the Court issued an Order Approving Alternative Dispute Resolution Procedures (ADR Procedure) allowing the Company to implement the ADR Procedure and process claims, including any claims related to alleged defective drywall. The $11 million reserve established by the Company for homes with one or more air conditioning coil replacements (which may or may not be related to Chinese drywall), are pre-petition claims subject to the automatic stay and reflected in the liabilities on the balance sheet that are subject to adjustment, compromise, and modification in the Chapter 11 proceedings.
WCI Communities, Inc.
Debtor-in-Possession
Notes to Consolidated Financial Statements-(Continued)
December 31, 2008
(In thousands, except per share data)
On March 10, 2009, a purported class action lawsuit was filed in the U.S. District Court, Southern District of Florida (Case No. 09-CV-60371), against Knauf Plasterboard, Tianjin Co., Knauf Gips KG, Rothchilt International Ltd., and WCI Communities, Inc. on behalf of all owners who purchased homes in Florida from WCI Communities, Inc. that allegedly contain defective drywall. The plaintiffs voluntarily dismissed their claims against the Company, without prejudice, after the plaintiffs were notified on the Company’s pending Chapter 11 proceeding.
In addition, on or about January 23, 2008, an action was filed in the United States District Court for the Southern District of Florida against the Company and its subsidiary, The Resort at Singer Island Properties, Inc. (RSI), on behalf of a purported class of the purchasers of hotel condominium units in The Resort at Singer Island who have entered into rental management agreements with respect to those condominium units. The aggregate purchase price of these units was approximately $138.7 million. The complaint in the action, Mastrella, et al. v. WCI Communities, Inc., et al., alleges that the Company and RSI violated Section 12(a)(1) of the Securities Act of 1933 by not registering the offering of these units with the Securities and Exchange Commission. The complaint seeks rescission of the condominium purchase agreements and rental management agreements. The Company and RSI believe they have meritorious defenses, and intend to vigorously defend the action. These cases have been stayed as a result of the Company’s Chapter 11 filing.
20. Supplemental Guarantor Information
Obligations to pay principal and interest on our senior subordinated notes are guaranteed fully and unconditionally by substantially all of our wholly owned subsidiaries. Separate financial statements of the guarantors are not provided, as subsidiary guarantors are 100% owned by the Company and guarantees are full, unconditional, joint and several. Supplemental consolidating financial information of the Company’s guarantors is presented below.
WCI Communities, Inc.
Debtor-in-Possession
Notes to Consolidated Financial Statements-(Continued)
December 31, 2008
(In thousands, except per share data)
Condensed Consolidating Balance Sheets
WCI Communities, Inc.
Debtor-in-Possession
Notes to Consolidated Financial Statements-(Continued)
December 31, 2008
(In thousands, except per share data)
Condensed Consolidating Balance Sheets
WCI Communities, Inc.
Debtor-in-Possession
Notes to Consolidated Financial Statements-(Continued)
December 31, 2008
(In thousands, except per share data)
Condensed Consolidating Statements of Operations
WCI Communities, Inc.
Debtor-in-Possession
Notes to Consolidated Financial Statements-(Continued)
December 31, 2008
(In thousands, except per share data)
Condensed Consolidating Statement of Cash Flows
WCI Communities, Inc.
Debtor-in-Possession
Notes to Consolidated Financial Statements-(Continued)
December 31, 2008
(In thousands, except per share data)
Condensed Consolidating Statement of Cash Flows
WCI Communities, Inc.
Debtor-in-Possession
Notes to Consolidated Financial Statements-(Continued)
December 31, 2008
(In thousands, except per share data)
Condensed Consolidating Statement of Cash Flows
WCI Communities, Inc.
Debtor-in-Possession
Notes to Consolidated Financial Statements-(Continued)
December 31, 2008
(In thousands, except per share data)
21. Quarterly Financial Information (unaudited)
Quarterly financial information for the years ended December 31, 2008 and 2007 is presented below:
(1) Includes pre-tax asset impairments of $6,866, $25,936, $467,119 and $101,064, in the first, second, third and fourth quarters, respectively, and write-offs of approximately $(97), $7,128, $9,532 and $(242) in the first, second, third and fourth quarters, respectively in forfeited deposits and pre-development costs associated with the termination of land and lot options.
(2) Includes pre-tax property and equipment impairments of approximately $32,331 and $4,285 and pre-tax investment in joint venture impairments of approximately $4,470 and $10, in the third and fourth quarters respectively.
(3) Includes pre-tax asset impairments of approximately $557, $35,145, $35,591 and $257,831, in the first, second, third and fourth quarters, respectively, and write-offs of approximately $505, $196, $352 and $21,811 in the first, second, third and fourth quarters respectively, in forfeited deposits and pre-development costs associated with the termination of land and lot options.
WCI Communities, Inc.
Debtor-in-Possession
Notes to Consolidated Financial Statements-(Continued)
December 31, 2008
(In thousands, except per share data)
(4) Includes pre-tax goodwill impairments of approximately $59,534 and pre-tax investment in joint venture impairment of approximately $10,748.
(5) Due to rounding, the sum of the quarterly earnings per share amounts may not equal the reported earnings per share for the year.
ITEM 9.
ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND FINANCIAL DISCLOSURE
None
ITEM 9A.
ITEM 9A. CONTROLS AND PROCEDURES
Conclusion Regarding the Effectiveness of Disclosure Controls and Procedures
The Company maintains disclosure controls and procedures that are designed to ensure that information required to be disclosed in the Company’s report under the Exchange Act is recorded, processed, summarized and reported within the time periods specified in the SEC rules and forms, and that such information is accumulated and communicated to the Company’s management, including its Chief Executive Officer and Chief Financial Officer, as appropriate, to allow timely decisions regarding required disclosures. Any controls and procedures, no matter how well designed and operated, can provide only reasonable assurance of achieving the desired control objectives. The Company’s management, with the participation of the Company’s Chief Executive Officer and Chief Financial Officer, has evaluated the effectiveness of the design and operation of the Company’s disclosure controls and procedures as of December 31, 2008. Based on such evaluation, such officers have concluded that, as of December 31, 2008, our disclosure controls and procedures were not effective solely due to our failure to file our Form 10-K on a timely basis. This failure was the result of our Chapter 11 bankruptcy process and our reorganization plans which have required substantial effort from our limited finance, accounting and management personnel. We continue to apply controls and procedures consistent with prior periods. The certifications of the Company’s Chief Executive Officer and Chief Financial Officer attached as Exhibits 31(a) and 31(b) to this Annual Report on Form 10-K include, in paragraph 4 of such certifications, information concerning the Company’s disclosure controls and procedures and internal control over financial reporting. Such certifications should be read in conjunction with the information contained in this Item 9A. for a more complete understanding of the matters covered by such certifications.
There was no change in the Company’s internal control over financial reporting that occurred during the quarter ended December 31, 2008 that has materially affected, or is reasonably likely to materially affect, the Company’s internal control over financial reporting.
Management’s Report on Internal Control over Financial Reporting
Our management is responsible for establishing and maintaining adequate internal control over financial reporting, as such term is defined in Exchange Act Rule 13a-15(f). Under the supervision and with the participation of our management, including our Chief Executive Officer and Chief Financial Officer, we conducted an evaluation of the effectiveness of our internal control over financial reporting based on the framework in Internal Control-Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission. Based on our evaluation under the framework in Internal Control-Integrated Framework, our management concluded that our internal control over financial reporting was effective as of December 31, 2008.
This annual report does not include an attestation report of the Company’s independent registered accounting firm regarding internal control over financial reporting. Management’s report was not subject to attestation by the Company’s independent registered public accounting firm pursuant to rules of the Securities and Exchange Commission that permit the Company to provide only management’s report in this annual report.
ITEM 9B.
ITEM 9B. OTHER INFORMATION
None
PART III
ITEM 10.
ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS AND CORPORATE GOVERNANCE
The information required by this Item will be included in this Form 10-K in accordance with General Instruction G(3).
The Company posts its Code of Business Conduct and Ethics on its Corporate Governance webpage at www.wcicommunities.com.
The Company’s Code of Business Conduct and Ethics applies to all directors, officers and employees, including our Chief Executive Officer, our Chief Financial Officer and our Chief Accounting Officer. We will post any amendments or waivers to the Code of Business Conduct and Ethics to the extent that they are required to be disclosed by the rules of the SEC, on our website. The information on the Company’s website is not incorporated by reference into this report. You can request a copy of these documents, excluding exhibits, at no cost, by addressing a request to:
WCI Communities, Inc.
Attention: Investor Relations
24301 Walden Center Drive
Bonita Springs, FL 34134
ITEM 11.
ITEM 11. EXECUTIVE COMPENSATION
The information required by this Item will be included in this Form 10-K in accordance with General Instruction G(3).
ITEM 12.
ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT AND RELATED STOCKHOLDER MATTERS
The information required by this Item will be included in this Form 10-K in accordance with General Instruction G(3).
The following table provides information as of December 31, 2008 with respect to the shares of WCI common stock that may be issued under existing equity compensation plans, all of which have been approved by the shareholders.
(1) Does not include 93,329 and 95,425 restricted stock units and performance share grants, respectively, because they have no exercise price.
(2) Our Employee’s 2004 Stock Incentive Plan provides for a maximum number of shares authorized to be granted based on 15% of the maximum number of the issued and outstanding shares of our common stock as provided in the Plan.
Please refer to the discussion of the Company’s equity incentive plans in Note 19 to the Company’s consolidated financial statements for a description of the plans and the types of grants, in addition to options, that may be made under the plans.
ITEM 13.
ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS, AND DIRECTOR INDEPENDENCE
The information required by this Item will be included in this Form 10-K in accordance with General Instruction G(3).
ITEM 14.
ITEM 14. PRINCIPAL ACCOUNTING FEES AND SERVICES
The information required by this Item will be included in this Form 10-K in accordance with General Instruction G(3).
PART IV
ITEM 15.
ITEM 15. EXHIBITS AND FINANCIAL STATEMENT SCHEDULES
(a) The following documents are filed as part of this report:
1. Financial Statements:
See Item 8 above.
2. Financial Statement Schedules:
Schedules for which provision is made in the applicable accounting regulations of the SEC (the “Commission”) are not required under the related instructions or are not applicable, and therefore have been omitted.
3. Exhibits:
* Filed herewith.
** Pursuant to Commission Release No. 33-8212, this certification will be treated as “accompanying” this Form 10-K and not “filed” as part of such report for purposes of Section 18 of Exchange Act, or otherwise subject to the liability of Section 18 of the Exchange Act and this certification will not be deemed to be incorporated by reference into any filing under the Securities Act of 1933, as amended, or the Exchange Act, except to the extent that the registrant specifically incorporates it by reference.
*** See footnote 2 to the consolidated financial statements.
**** Available on our webpage at www.wcicommunities.com.
(1) Incorporated by reference to the exhibits filed with WCI Communities, Inc.’s Registration Statement on Form S-1 (Registration No. 333-69048).
(2) Incorporated by reference to the exhibits filed with WCI Communities, Inc’s Registration Statement on Form S-4 (Registration No. 333-87250).
(3) Incorporated by reference to the exhibits with WCI Communities, Inc.’s Registration Statement on Form S-3 (Registration No. 333-108462).
(4) Incorporated by reference to the exhibits with WCI Communities, Inc.’s Registration Statement on Form S-4 (Registration No. 333-111184).
(5) Incorporated by reference to the exhibits filed with WCI Communities, Inc.’s Form 10-K for the year ended December 31, 2003 (Commission File 1-31255).
(6) Incorporated by reference to the exhibits filed with WCI Communities, Inc.’s 2004 Proxy Statement.
(7) Incorporated by reference to the exhibits filed with WCI Communities, Inc’s Form 10-K for the year ended December 31, 2004 (Commission File 1-31255).
(8) Incorporated by reference to the exhibits filed with WCI Communities, Inc.’s Form 8-K on March 11, 2005 (Commission File 1-31255).
(9) Incorporated by reference to the exhibits filed with WCI Communities, Inc.’s Form 8-K on May 24, 2005 (Commission File 1-31255).
(12) Incorporated by reference to the exhibits filed with WCI Communities, Inc.’s Form 8-K on October 3, 2005 (Commission File 1-31255).
(13) Incorporated by reference to the exhibits filed with WCI Communities, Inc.’s Form 8-K on December 28, 2005 (Commission File 1-31255).
(14) Incorporated by reference to the exhibits filed with WCI Communities, Inc.’s Form 10-Q for the quarterly period ended March 31, 2006 (Commission File No. 1-31255).
(16) Incorporated by reference to the exhibits filed with WCI Communities, Inc.’s From 8-K on May 22, 2006 (Commission File 1-31255).
(17) Incorporated by reference to the exhibits filed with WCI Communities, Inc.’s Form 8-K on June 13, 2006 (Commission File 1-31255).
(18) Incorporated by reference to the exhibits filed with WCI Communities, Inc’s Form 8-K on February 2, 2007 (Commission File 1-31255).
(19) Incorporated by reference to the exhibits filed with WCI Communities, Inc.’s Form 10-K for the year ended December 31, 2006 (Commission File 1-31255).
(20) Incorporated by reference to the exhibits filed with WCI Communities, Inc.’s Form 8-K on April 18, 2007 (Commission File 1-31255).
(21) Incorporated by reference to the exhibits filed with WCI Communities, Inc.’s Form 10-Q for the quarterly period ended March 31, 2007 (Commission File 1-31255).
(22) Incorporated by reference to the exhibits filed with WCI Communities, Inc.’s Form 8-K on August 15, 2007 (Commission File 1-31255).
(23) Incorporated by reference to the exhibits filed with WCI Communities, Inc.’s Form 8-K on August 21, 2007 (Commission File 1-31255).
(24) Incorporated by reference to the exhibits filed with WCI Communities, Inc.’s Form 8-K on January 17, 2008 (Commission File 1-31255).
(25) Incorporated by reference to the exhibits filed with WCI Communities, Inc.’s Form 10-K for the year ended December 31, 2007 (Commission File 1-31255).
(26) Incorporated by reference to the exhibits filed with WCI Communities, Inc.’s Form 8-K on March 19, 2008 (Commission File 1-31255).
(27) Incorporated by reference to the exhibits filed with WCI Communities, Inc.’s Form 8-K on August 6, 2008 (Commission File 1-31255).
(28) Incorporated by reference to the exhibits filed with WCI Communities, Inc.’s Form 8-K on November 12, 2008 (Commission File 1-31255).
(29) Incorporated by reference to the exhibits filed with WCI Communities, Inc’s Form 10-Q for the quarterly period ended March 31, 2008 (Commission File 1-31255).
(30) Incorporated by reference to the exhibits filed with WCI Communities, Inc’s Form 10-Q for the quarterly period ended September 30, 2008 (Commission File 1-31255).
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.
WCI Communities, Inc.
Registrant
By:
/s/ RUSSELL DEVENDORF
Name:
Russell Devendorf
Title:
Senior Vice President and
Chief Financial Officer
Date: May 8, 2009
Pursuant to the requirements of the Securities Exchange, Act of 1934, this report has been signed on behalf of the registrant and in the capacities and on the dates indicated.