10-K 1 d446574d10k.htm FORM 10-K Form 10-K
Table of Contents

 

 

UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

Form 10-K

 

þ ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

For the Fiscal Year Ended December 31, 2012

or

 

¨ TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

For the Transition Period From                 to                

Commission File Number: 001-33662

Forestar Group Inc.

(Exact Name of Registrant as Specified in Its Charter)

 

Delaware   26-1336998
(State or Other Jurisdiction of
Incorporation or Organization)
  (I.R.S. Employer
Identification No.)

6300 Bee Cave Road

Building Two, Suite 500

Austin, Texas 78746-5149

(Address of Principal Executive Offices, including Zip Code)

Registrant’s telephone number, including area code: (512) 433-5200

Securities registered pursuant to Section 12(b) of the Act:

 

Title of Each Class

 

Name of Each Exchange On Which Registered

Common Stock, par value $1.00 per share

Preferred Share Purchase Rights

 

New York Stock Exchange

New York Stock Exchange

Securities registered pursuant to Section 12(g) of the Act: None

Indicate by check mark if the registrant is a well-known seasoned issuer, as defined in Rule 405 of the Securities Act.     Yes  ¨    No  þ

Indicate by check mark if the registrant is not required to file reports pursuant to Section 13 or 15(d) of the Act.     Yes  ¨    No  þ

Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days.     Yes  þ    No  ¨

Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (§ 232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files).     Yes  þ    No  ¨

Indicate by check mark if disclosure of delinquent filers pursuant to Item 405 of Regulation S-K (§ 229.405) is not contained herein, and will not be contained, to the best of registrant’s knowledge, in definitive proxy or information statements incorporated by reference in Part III of this Form 10-K or any amendment to this Form 10-K.     þ

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, or a smaller reporting company. See the definitions of “large accelerated filer,” “accelerated filer” and “smaller reporting company” in Rule 12b-2 of the Exchange Act.

 

Large accelerated filer ¨   Accelerated filer þ    Non-accelerated filer ¨   Smaller reporting company ¨
  (Do not check if a smaller reporting company)

Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act).     Yes  ¨    No  þ

The aggregate market value of the Common Stock held by non-affiliates of the registrant, based on the closing sales price of the Common Stock on the New York Stock Exchange on June 30, 2012, was approximately $318 million. For purposes of this computation, all officers, directors, and ten percent beneficial owners of the registrant (as indicated in Item 12) are deemed to be affiliates. Such determination should not be deemed an admission that such directors, officers, or ten percent beneficial owners are, in fact, affiliates of the registrant.

As of March 11, 2013, there were 34,621,448 shares of Common Stock outstanding.

DOCUMENTS INCORPORATED BY REFERENCE

Selected portions of the Company’s definitive proxy statement for the 2013 annual meeting of stockholders are incorporated by reference into Part III of this Form 10-K.

 

 

 


Table of Contents

TABLE OF CONTENTS

 

         Page  

PART I.

    

Item 1.

  Business      3   

Item 1A.

  Risk Factors      26   

Item 1B.

  Unresolved Staff Comments      39   

Item 2.

  Properties      39   

Item 3.

  Legal Proceedings      39   

Item 4.

  Mine Safety Disclosures      39   

PART II.

    

Item 5.

  Market for Registrant’s Common Equity, Related Stockholder Matters and Issuer Purchases of Equity Securities      40   

Item 6.

  Selected Financial Data      42   

Item 7.

  Management’s Discussion and Analysis of Financial Condition and Results of Operations      43   

Item 7A.

  Quantitative and Qualitative Disclosures About Market Risk      66   

Item 8.

  Financial Statements and Supplementary Data      68   

Item 9.

  Changes in and Disagreements With Accountants on Accounting and Financial Disclosure      110   

Item 9A.

  Controls and Procedures      110   

Item 9B.

  Other Information      110   

PART III.

    

Item 10.

  Directors, Executive Officers and Corporate Governance      111   

Item 11.

  Executive Compensation      111   

Item 12.

  Security Ownership of Certain Beneficial Owners and Management and Related Stockholder Matters      111   

Item 13.

  Certain Relationships and Related Transactions, and Director Independence      112   

Item 14.

  Principal Accountant Fees and Services      112   

PART IV.

    

Item 15.

  Exhibits and Financial Statement Schedules      112   

SIGNATURES 

       116   

 

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PART I

 

Item 1. Business

Overview

Forestar Group Inc. is a real estate and natural resources company. We own directly or through ventures almost 136,000 acres of real estate located in 10 states and 14 markets. We have over 750,000 net acres of oil and natural gas mineral interests, consisting of fee ownership and leasehold interests located in eight oil and natural gas basins and 14 states in the continental U.S. We have about 121,000 acres of timber, primarily in Georgia, and about 17,000 acres of timber under lease. In 2012, we had revenues of $173 million and net income of $13 million. Unless the context otherwise requires, references to “we,” “us,” “our” and “Forestar” mean Forestar Group Inc. and its consolidated subsidiaries. Unless otherwise indicated, information is presented as of December 31, 2012, and references to acreage owned include all acres owned by ventures regardless of our ownership interest in a venture.

Strategic Acquisition

On September 28, 2012, we acquired 100 percent of the outstanding common stock of CREDO Petroleum Corporation (Credo) in an all cash transaction for $14.50 per share, representing an equity purchase price of approximately $146.4 million. In addition, we paid in full $8.8 million of Credo’s outstanding debt. Credo is an independent oil and natural gas exploration, development and production company based in Denver, Colorado. The acquired assets include leasehold interests in the Bakken and Three Forks formations of North Dakota, the Lansing – Kansas City formation in Kansas and Nebraska, and the Tonkawa and Cleveland formations in Texas.

We manage our operations through three business segments:

 

   

Real estate,

 

   

Mineral resources, and

 

   

Fiber resources.

A summary of significant business segment assets at year-end 2012 follows:

 

LOGO

 

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Our real estate segment provided 70 percent of our 2012 consolidated revenues. We secure entitlements and develop infrastructure, primarily for single-family residential and mixed-use communities. We own about 100,000 acres in a broad area around Atlanta, Georgia, with the balance located primarily in Texas. We invest in projects principally in our strategic growth corridors, regions across the southern half of the United States that possess key demographic and growth characteristics that we believe make them attractive for long-term real estate investment. We also develop and own directly or through ventures, multifamily communities as income producing properties, primarily in our target markets. Once these multifamily communities reach stabilization, we expect to market the properties for sale.

We have 15 real estate projects representing about 26,000 acres in the entitlement process, principally in Georgia. We also have about 74 entitled, developed or under development projects in seven states and 11 markets encompassing almost 15,000 remaining acres, comprised of land planned for about 24,000 residential lots and about 2,400 commercial acres. We own and manage projects both directly and through ventures. We sell land at any point within the value chain when additional time required for entitlement or investment in development will not meet our return criteria. In 2012, we sold over 9,300 acres of undeveloped land through our retail land sales program at an average price of about $2,100 per acre.

Our mineral resources segment provided 26 percent of our 2012 consolidated revenues. We promote the exploitation, exploration and development of oil and natural gas on our 590,000 net mineral acres owned and may participate in working interests or drill as an operator. The four principal areas of ownership are Texas, Louisiana, Alabama and Georgia. The majority of our revenues are from oil and natural gas royalties from over 542 gross productive wells operated by third parties in Texas and Louisiana and lease bonus payments received. Historically, these operations require low capital investment and are low risk. In addition, we have approximately 162,000 net mineral acres leased from others and overriding royalty interests associated with our 2012 acquisition of Credo, of which 37,000 acres are held by production at year-end 2012. The principal areas of operations of our leasehold interests are in Nebraska, Kansas, Oklahoma, North Dakota and Texas and include 394 gross oil and natural gas wells with working interest ownership of which we operate approximately 136 wells.

Our fiber resources segment provided 4 percent of our 2012 consolidated revenues. We sell wood fiber from our land, primarily in Georgia, and lease land for recreational uses. We have about 121,000 acres of timber we own directly or through ventures and about 17,000 acres of timber under lease.

Our real estate origins date back to the 1955 incorporation of Lumbermen’s Investment Corporation, which in 2006 changed its name to Forestar (USA) Real Estate Group Inc. We have a decades-long legacy of residential and commercial real estate development operations, primarily in Texas. Our mineral resources origins date back to the mid-1940s when we started leasing our oil and natural gas mineral interests to third-party exploration and production companies. In 2007, Temple-Inland distributed all of the issued and outstanding shares of our common stock to its stockholders, which we will refer to as the “spin-off”.

Our results of operations, including information regarding our business segments, are discussed in Item 7, Management’s Discussion and Analysis of Financial Condition and Results of Operations, and in Item 8, Financial Statements and Supplementary Data.

Strategy

Our strategy is:

 

   

Recognizing and responsibly delivering the greatest value from every acre; and

 

   

Growing through strategic and disciplined investments.

We are focused on delivering the greatest real estate value from every acre through the entitlement and development of strategically-located residential and mixed-use communities. We secure entitlements by delivering thoughtful plans and balanced solutions that meet the needs of the communities where we operate. Moving land through the entitlement and development process creates significant real estate value. Residential development activities target lot sales to national and regional home builders who build quality products and have strong and effective marketing and sales programs. The lots we deliver in the majority of our communities are for mid-priced homes, predominantly in the first and second move-up categories. We also actively market

 

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and sell undeveloped land through our retail sales program. We develop multifamily commercial tracts ourselves as a merchant builder or we may venture with capital partners for the construction, operation, and sale of income producing properties.

We seek to maximize value from our owned oil and natural gas mineral interests through promoting leasing, exploration and production activity by increasing the acreage leased, lease rates, royalty interests, negotiating additional interests in production and by entering into seismic exploration agreements and joint ventures. In addition, we lease mineral interests for exploration and production and participate in working interests or drill as an operator on both our owned and leased mineral interests. We realize value from our undeveloped land by selling fiber and by managing it for future real estate development and conservation uses. We also generate cash flow and earnings through recreational leases.

We are committed to disciplined investment in our business. Approximately 61 of our real estate projects were acquired in the open market, with the remainder coming from entitlement efforts associated with our low basis lands principally located in and around Atlanta, Georgia. Our mineral interest investments are typically in conventional and unconventional oil and liquid-rich plays.

Our portfolio of assets in combination with our strategy, management expertise, stewardship and reinvestment in our business, position Forestar to maximize and grow long-term value for shareholders.

2012 Strategic Initiatives

In 2012, we announced Triple in FOR, new strategic initiatives designed to further enhance shareholder value by:

 

   

Accelerating value realization of our real estate and natural resources by increasing total residential lot sales, oil and natural gas production, and total segment EBITDA.

 

   

Optimizing transparency and disclosure by expanding reported oil and natural gas resources, providing additional information related to groundwater interests, and establishing a progress report on corporate responsibility efforts.

 

   

Raising our net asset value through strategic and disciplined investments by pursuing growth opportunities which help prove up our asset value and meet return expectations, developing a low-capital, high-return multifamily business, and accelerating investment in lower-risk oil and natural gas opportunities.

2012 Highlights

Real Estate

 

   

Sold 1,365 developed residential lots, a 22% increase compared with 2011

 

   

Nearly 1,340 lots under option contracts at year-end

 

   

Generated $18.4 million in gross profit from residential lot sales, including our share of venture activity, up 60% compared with 2011

 

   

Acquired entire interest in 17 residential and mixed-use real estate projects from the CL Realty and TEMCO ventures for a net investment of approximately $23.5 million

 

   

Sold over 9,300 acres of undeveloped land for about $19 million through our retail sales program

 

   

Sold two stabilized multifamily communities, Broadstone Memorial and Las Brisas, generating nearly $40 million in cash flow

 

   

Completed construction of Promesa, a 289-unit multifamily community in Austin, Texas

 

   

Initiated construction of two new multifamily venture properties, with locations in Austin and Denver

Mineral Resources

 

   

Oil production increased over 144% compared with 2011

 

   

Year-end 2012 proven reserves were 5.6 million barrels of oil equivalent (BOE), up 87% compared with 2011, principally due to the acquisition of Credo, which accounted for 3.7 million BOE

 

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Nearly 30 additional oil and natural gas wells completed; 936 total producing gross wells at year-end 2012

 

   

Over 8,900 net mineral acres leased to third party exploration and production companies

Real Estate

In our real estate segment, we conduct a wide array of project planning and management activities related to the acquisition, entitlement, development and sale of real estate, primarily residential and mixed-use communities. We own and manage our projects either directly or through ventures, which we use to achieve a variety of business objectives, including more effective capital deployment, risk management, and leveraging a partner’s local market contacts and expertise.

We have real estate in 10 states and 14 markets encompassing almost 136,000 acres, including about 100,000 acres located in a broad area around Atlanta, Georgia, with the balance located primarily in Texas. Our development projects are principally located in the major markets of Texas.

Our strategy for creating value in our real estate segment is to move acres up the value chain by moving land located in growth corridors but not yet entitled, through the entitlement process, and into development. The chart below depicts our real estate value chain:

 

LOGO

We have approximately 95,000 undeveloped acres located in the path of population growth. As markets grow and mature, we intend to secure the necessary entitlements, the timing for which varies depending upon the size, location, use and complexity of a project. We have over 26,000 acres in the entitlement process, which includes obtaining zoning and access to water, sewer and roads. Additional entitlements, such as flexible land use provisions, annexation, and the creation of local financing districts generate additional value for our business and may provide us the right to reimbursement of major infrastructure costs. We have almost 15,000 acres entitled, developed and under development, comprised of land planned for about 24,000 residential lots and about 2,400 commercial acres. We use return criteria, which include return on cost, internal rate of return, and cash multiples, when determining whether to invest initially or make additional investment in a project. When investment in

 

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development meets our return criteria, we will initiate the development process with subsequent sale of lots to homebuilders or, for commercial tracts, internal development, sale to or venture with commercial developers. We sell land at any point within the value chain when additional time required for entitlement or investment in development will not meet our return criteria. In 2012, we sold over 9,300 acres of undeveloped land through our retail land sales program at an average price of about $2,100 per acre.

A summary of our real estate projects in the entitlement process(a) at year-end 2012 follows:

 

Project

  

County

   Project
Acres(b)
 

California

     

Hidden Creek Estates

   Los Angeles      700   

Terrace at Hidden Hills

   Los Angeles      30   

Georgia

     

Ball Ground

   Cherokee      500   

Crossing

   Coweta      230   

Fincher Road

   Cherokee      3,890   

Fox Hall

   Coweta      960   

Garland Mountain

   Cherokee/Bartow      350   

Martin’s Bridge

   Banks      970   

Mill Creek

   Coweta      770   

Serenity

   Carroll      440   

Waleska

   Cherokee      90   

Wolf Creek

   Carroll/Douglas      12,230   

Yellow Creek

   Cherokee      1,060   

Texas

     

Lake Houston

   Harris/Liberty      3,700   

San Jacinto

   Montgomery      150   
     

 

 

 

Total

        26,070   
     

 

 

 

 

(a) 

A project is deemed to be in the entitlement process when customary steps necessary for the preparation of an application for governmental land-use approvals, like conducting pre-application meetings or similar discussions with governmental officials, have commenced, or an application has been filed. Projects listed may have significant steps remaining, and there is no assurance that entitlements ultimately will be received.

 

(b) 

Project acres, which are the total for the project regardless of our ownership interest, are approximate. The actual number of acres entitled may vary.

Products

The majority of our projects are single-family residential and mixed-use communities. In some cases, commercial land uses within a project enhance the desirability of the community by providing convenient locations for resident support services. We sometimes undertake projects consisting exclusively of commercial tracts and, on occasion, we invest in a venture to develop a single commercial project.

We develop lots for single-family homes and develop multifamily properties as a merchant builder on our commercial tracts or other developed sites we may purchase. In addition, we sell commercial tracts that are substantially ready for construction of buildings for retail, office, industrial or other commercial uses. We sell residential lots primarily to national and regional homebuilders and, to a lesser extent, local homebuilders. We have 74 entitled, developed or under development projects in seven states and 11 markets, principally in the major markets of Texas, encompassing almost 15,000 remaining acres, comprised of land planned for about 24,000 residential lots and about 2,400 commercial acres. We focus our lot sales on the first and second move-up

 

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primary housing categories. First and second move-up segments are homes priced above entry-level products yet below the high-end and custom home segments. As a multifamily merchant builder, we develop and own directly or through ventures multifamily communities as income producing properties, primarily in our target markets. Once these multifamily communities reach stabilization, we expect to market the properties for sale. We also actively market and sell undeveloped land through our retail sales program.

Commercial tracts are developed internally or sold to or ventured with commercial developers that specialize in the construction and operation of income producing properties, such as apartments, retail centers, or office buildings. We also sell land designated for commercial use to regional and local commercial developers. We have about 2,400 acres of entitled land designated for commercial use.

Cibolo Canyons is a significant mixed-use project in the San Antonio market area. Cibolo Canyons includes 2,100 acres planned to include approximately 1,475 residential lots, of which 734 have been sold as of year-end 2012 at an average price of $67,000 per lot. The residential component is planned to include not only traditional single-family homes but also an active adult section and condominiums. The commercial component is planned to include about 150 acres designated for multifamily and retail uses, of which 96 acres have been sold as of year-end 2012. Located at Cibolo Canyons is the JW Marriott® San Antonio Hill Country Resort & Spa, a 1,002 room destination resort and two PGA Tour® Tournament Players Club® (TPC) golf courses designed by Pete Dye and Greg Norman. The resort hotel began operations in January 2010. We have the right to receive from a legislatively created special improvement district (SID) nine percent of hotel occupancy revenues and 1.5 percent of other resort sales revenues collected as taxes by the SID through 2034 and to reimbursement of certain infrastructure costs related to the mixed-use development.

 

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A summary of activity within our projects in the development process, which includes entitled(a), developed and under development single-family and mixed-use projects, at year-end 2012 follows:

 

              Residential Lots(c)      Commercial Acres(d)  

Project

  

County

   Interest
Owned(b)
  Lots Sold
Since
Inception
     Lots
Remaining
     Acres
Sold
Since
Inception
     Acres
   Remaining(f)
 

Projects we own

                

California

                

San Joaquin River

   Contra Costa/Sacramento    100%                             288   

Colorado

                

Buffalo Highlands

   Weld    100%             164                   

Johnstown Farms

   Weld    100%     170         443         2         7   

Pinery West

   Douglas    100%                             111   

Stonebraker

   Weld    100%             603                   

Texas

                

Arrowhead Ranch

   Hays    100%             259                 6   

Bar C Ranch

   Tarrant    100%     292         907                   

Barrington Kingwood

   Harris    100%     48         132                   

Cibolo Canyons

   Bexar    100%     734         741         96         54   

Harbor Lakes

   Hood    100%     203         246         2         19   

Hunter’s Crossing

   Bastrop    100%     397         93         38         71   

Lakes of Prosper

   Collin    100%             285                   

La Conterra

   Williamson    100%     120         380                 58   

Maxwell Creek

   Collin    100%     808         191         10           

Oak Creek Estates

   Comal    100%     131         516         13           

Stoney Creek

   Dallas    100%     144         610                   

Summer Creek Ranch

   Tarrant    100%     820         454         35         44   

Summer Lakes

   Fort Bend    100%     473         657         56           

Summer Park(g)

   Fort Bend    100%             210         27         63   

The Colony

   Bastrop    100%     438         711         22         31   

The Preserve at Pecan Creek

   Denton    100%     370         424                 7   

Village Park

   Collin    100%     504         256         3         2   

Westside at Buttercup Creek

   Williamson    100%     1,413         83         66           

Other projects (11)

   Various    100%     2,493         171         227         38   

Georgia

                

Seven Hills

   Paulding    100%     653         434         26         113   

Villages of Burt Creek

   Dawson    100%             1,715                 57   

Towne West

   Bartow    100%             2,674                 121   

Other projects (18)

   Various    100%     1,729         3,040         3         705   

Florida

                

Other projects (3)

   Various    100%     708         137                   

Missouri and Utah

                

Other projects (2)

   Various    100%     499         55                   
       

 

 

    

 

 

    

 

 

    

 

 

 
          13,147         16,591         626         1,795   
       

 

 

    

 

 

    

 

 

    

 

 

 

Projects in entities we consolidate

                

Texas

                

City Park

   Harris    75%     1,210         101         50         115   

Lantana

   Denton    55%(e)     957         1,291                 12   

Timber Creek

   Collin    88%             614                   

Willow Creek

   Walter/Fort Bend    90%             231                   

Other projects (2)

   Various    Various     7         202                 129   

Georgia

                

The Georgian

   Paulding    75%     289         1,052                   
       

 

 

    

 

 

    

 

 

    

 

 

 
          2,463         3,491         50         256   
       

 

 

    

 

 

    

 

 

    

 

 

 

Total owned and consolidated

          15,610         20,082         676         2,051   
       

 

 

    

 

 

    

 

 

    

 

 

 

Projects in ventures that we account for using the equity method

                

Texas

                

Entrada

   Travis    50%             821                   

Fannin Farms West

   Tarrant    50%     324         24                 12   

Harper’s Preserve

   Montgomery    50%     202         1,523                 72   

Lantana

   Denton    Various(e)     1,470         62         16         42   

Long Meadow Farms

   Fort Bend    37%     1,003         796         119         180   

Southern Trails

   Brazoria    80%     576         407                   

Stonewall Estates

   Bexar    50%     305         83                   

Other projects (1)

   Nueces    50%                             15   
       

 

 

    

 

 

    

 

 

    

 

 

 

Total in ventures

          3,880         3,716         135         321   
       

 

 

    

 

 

    

 

 

    

 

 

 

Combined Total

          19,490         23,798         811         2,372   
       

 

 

    

 

 

    

 

 

    

 

 

 

 

(a) 

A project is deemed entitled when all major discretionary governmental land-use approvals have been received. Some projects may require additional permits and/or non-governmental authorizations for development.

 

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(b) 

Interest owned reflects our net equity interest in the project, whether owned directly or indirectly. There are some projects that have multiple ownership structures within them. Accordingly, portions of these projects may appear as owned, consolidated or accounted for using the equity method.

 

(c) 

Lots are for the total project, regardless of our ownership interest. Lots remaining represent vacant developed lots, lots under development and future planned lots and are subject to change based on business plan revisions.

 

(d) 

Commercial acres are for the total project, regardless of our ownership interest, and are net developable acres, which may be fewer than the gross acres available in the project.

 

(e) 

The Lantana project consists of a series of 26 partnerships in which our voting interests range from 25 percent to 55 percent. We account for three of these partnerships using the equity method and we consolidate the remaining partnerships.

 

(f) 

Excludes acres associated with commercial and income producing properties.

 

(g) 

Formerly Waterford Park.

A summary of our significant commercial and income producing properties at year-end 2012 follows:

 

Project

   County    Market    Interest
Owned(a)
    Type    Acres      Description

Radisson Hotel

   Travis    Austin      100    Hotel      2       413 guest rooms and suites

Promesa

   Travis    Austin      100    Multifamily      16       289 unit luxury apartment

Eleven(b)

   Travis    Austin      25    Multifamily      3       257 unit luxury apartment

360o (b)

   Arapahoe    Denver      20    Multifamily      4       304 unit luxury apartment

 

(a) 

Interest owned reflects our net equity interest in the project, whether owned directly or indirectly.

 

(b) 

Construction in progress.

Our net investment in owned and consolidated real estate by geographic location follows:

 

State

   Entitled,
Developed,
and Under
Development
Projects
     Undeveloped
Land and
Land in
Entitlement
     Income
Producing
Properties
     Total  
     (In thousands)  

Texas

   $ 301,879       $ 9,385       $ 55,259       $ 366,523   

Georgia

     23,467         56,622                 80,089   

Colorado

     21,290                         21,290   

California

     8,915         15,362                 24,277   

Tennessee

                     11,422         11,422   

North Carolina

                     5,954         5,954   

Other

     6,276         1,319                 7,595   
  

 

 

    

 

 

    

 

 

    

 

 

 

Total

   $ 361,827       $ 82,688       $ 72,635       $ 517,150   
  

 

 

    

 

 

    

 

 

    

 

 

 

Over 70% of our net investment in real estate is in the major markets of Texas.

Markets

Current U.S. single-family residential market conditions are showing signs of stability with improvement in various markets; however, high unemployment rates, difficult financing environment for purchasers and competition from foreclosure inventory continue to negatively influence housing markets. It is difficult to predict when and at what rate these broader negative conditions will improve. Declining finished lot inventories and lack of real estate development is increasing demand for our developed lots, principally in the Texas markets. Multifamily market conditions continue to be strong, with many markets experiencing healthy occupancy levels and positive rent growth. This improvement has been driven primarily by limited new construction activity, reduced single-family mortgage credit availability, and the increased propensity to rent among the 18 to 34 year old demographic of the U.S. population.

 

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We target investments primarily in markets within our strategic growth corridors, which we define as areas possessing favorable growth characteristics for population, employment and household formation. These markets are generally located across the southern half of the U.S., and we believe they represent attractive long-term real estate investment opportunities. Demand for residential lots, single-family housing, and commercial land is substantially influenced by these growth characteristics, as well as by immigration and in-migration. Currently, most of our development projects are located within the major markets of Texas.

Our ten strategic growth corridors encompass 164,000 square miles, or approximately 4.6 percent of the total land area in the U.S. According to 2010 census data, 91.7 million people, 30 percent of the U.S. total, reside in these corridors. The population density in these growth corridors is over six times the national average and is projected to grow to over 10 times the national average between 2010 and 2040. During that time, the corridors are projected to garner approximately 49 percent of the nation’s population growth and 40 percent of total employment growth. Estimated housing demand from these ten growth corridors from 2010 to 2040 exceeds 24 million new homes.

Forestar Strategic Growth Corridors

Our value creation strategy includes not only entitlement and development on our own lands but also growth through strategic and disciplined investment in acquisitions that meet our investment criteria. We continually monitor the markets in our strategic growth corridors for opportunities to purchase developed lots and land at prices that meet our return criteria.

 

LOGO

Competition

We face competition for the acquisition, entitlement, development and sale of real estate in our markets. Our major competitors include other landowners who market and sell undeveloped land and numerous national, regional and local developers. In addition, our projects compete with other development projects offering similar amenities,

 

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products and/or locations. Competition also exists for investment opportunities, financing, available land, raw materials and labor, with entities that may possess greater financial, marketing and other resources than us. The presence of competition may increase the bargaining power of property owners seeking to sell. These competitive market pressures sometimes make it difficult to acquire, entitle, develop or sell land at prices that meet our return criteria. Some of our real estate competitors are well established and financially strong, may have greater financial resources than we do, or may be larger than us and/or have lower cost of capital and operating costs than we have and expect to have.

The land acquisition and development business is highly fragmented, and we are unaware of any meaningful concentration of market share by any one competitor. Enterprises of varying sizes, from individuals or small companies to large corporations, actively engage in the real estate development business. Many competitors are local, privately-owned companies. We have a few regional competitors and virtually no national competitors other than national homebuilders that, depending on business cycles and market conditions, may enter or exit the real estate development business in some locations to develop lots on which they construct and sell homes. During periods when access to capital is restricted, participants with weaker financial conditions tend to be less active. We believe the current environment is one where participants with stronger financial conditions will have a competitive advantage and where fewer participants will be active.

Mineral Resources

We typically lease our mineral interests owned to third parties for the exploration and production of oil and natural gas, principally in Texas and Louisiana. When we lease our mineral interests, we may negotiate a lease bonus payment and retain a royalty interest and may take an additional participation in production, including a working interest. Working interests refer to well interests in which we pay a share of the costs to drill, complete and operate a well and receive a proportionate share of the production revenues.

On September 28, 2012, we acquired 100 percent of the outstanding common stock of Credo in an all cash transaction for $14.50 per share, representing an equity purchase price of approximately $146.4 million. In addition, we paid in full $8.8 million of Credo’s outstanding debt. Credo is an independent oil and natural gas exploration, development and production company based in Denver, Colorado. The acquired assets include leasehold interests in the Bakken and Three Forks formations of North Dakota, the Lansing – Kansas City formation in Kansas and Nebraska, and the Tonkawa and Cleveland formations in Texas.

Products

Mineral Interests Owned

We own mineral interests beneath approximately 590,000 net acres located in the United States, principally in Texas, Louisiana, Georgia and Alabama. Our minerals revenue is primarily from oil and natural gas royalty interests, lease bonus payments and delay rentals received, working interests and other related activities. We engage in leasing certain portions of these mineral interests to third parties for the exploration and production of oil and natural gas, and we are increasingly leveraging our mineral interests to participate in wells drilled on or near our mineral acreage.

 

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Our strategy for maximizing value from our owned mineral interests is to move acres up the minerals value chain by increasing the net acreage leased, the lease bonus amount per acre and the size of retained royalty interests. Additionally, we may participate in working interests in the drilling, completion and production of oil and natural gas on or nearby our mineral interests. The chart below depicts our owned minerals value chain.

 

LOGO

At year-end 2012, of our 590,000 net acres of owned mineral interests, about 522,000 net acres are available for lease. We have about 68,000 net acres leased for oil and natural gas exploration activities, of which about 39,000 net acres are held by production from over 542 gross oil and natural gas royalty wells that are operated by others, in which we have working interest ownership in nine of these wells.

Our principal areas of ownership follow:

East Texas and Gulf Coast Basins

We have about 251,000 net mineral acres in East Texas and about 144,000 net mineral acres in Louisiana located within the East Texas and Gulf Coast Basins. These basins contain numerous oil and natural gas producing formations consisting of conventional, unconventional, and tight sand reservoirs. Of these reservoirs, we have mineral interests in and around production trends in the Wilcox, Frio, Cockfield, James Lime, Pettet, Travis Peak, Cotton Valley, Austin Chalk, Haynesville Shale, and Bossier formations. A significant portion of our Louisiana net mineral acres were severed from the surface estate shortly before our spin-off. Under Louisiana law, a mineral servitude that is not producing minerals or which has not been the subject of good-faith drilling operations will cease to burden the property upon the tenth anniversary of the date of its creation.

Fort Worth Basin

We have about 1,000 net mineral acres in the Fort Worth Basin. This basin contains numerous oil and natural gas producing formations consisting of conventional, unconventional, and tight sand reservoirs. Of these reservoirs, we have mineral interests in and around the Barnett Shale.

 

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Alabama & Georgia

We have about 40,000 net mineral acres in Alabama and about 152,000 net mineral acres in Georgia. These areas have historically had very little oil and natural gas exploration activity.

A summary of our net mineral acres(a) owned at year-end 2012 follows:

 

State

   Unleased      Leased(b)      Held By
Production(c)
     Total(d)  

Texas

     213,000         12,000        27,000        252,000  

Louisiana

     115,000         17,000        12,000        144,000  

Georgia

     152,000         —          —          152,000  

Alabama

     40,000         —          —          40,000  

California

     1,000         —          —          1,000  

Indiana

     1,000         —          —          1,000  
  

 

 

    

 

 

    

 

 

    

 

 

 
     522,000         29,000        39,000        590,000  
  

 

 

    

 

 

    

 

 

    

 

 

 

 

(a) 

Includes ventures.

 

(b) 

Includes leases in primary lease term or for which a delayed rental payment has been received. In the ordinary course of business, leases covering a significant portion of leased net mineral acres may expire from time to time in a single reporting period.

 

(c) 

Acres being held by production are producing oil or natural gas in paying quantities.

 

(d) 

Texas, Louisiana, California and Indiana net acres are calculated as the gross number of surface acres multiplied by our percentage ownership of the mineral interest. Alabama and Georgia net acres are calculated as the gross number of surface acres multiplied by our estimated percentage ownership of the mineral interest based on county sampling. Excludes 477 net mineral acres located in Colorado including 379 acres leased and 29 acres held by production.

A summary of our Texas and Louisiana net mineral acres owned (a) by county or parish at year-end 2012 follows:

 

Texas

        

Louisiana(b)

 

County

   Net Acres         

Parish

   Net Acres  

Trinity

     46,000         Beauregard      79,000  

Angelina

     42,000         Vernon      39,000  

Houston

     29,000         Calcasieu      17,000  

Anderson

     25,000         Allen      7,000  

Cherokee

     24,000         Rapides      1,000  

Sabine

     23,000         Other      1,000  
          

 

 

 

Red River

     14,000              144,000  
          

 

 

 

Newton

     13,000           

San Augustine

     13,000           

Jasper

     12,000           

Other

     11,000           
  

 

 

    

 

    
     252,000           
  

 

 

    

 

    

 

 

(a) 

Includes ventures.

 

(b) 

A significant portion of our Louisiana net mineral acres were severed from the surface estate shortly before our spin-off. Under Louisiana law, a mineral servitude that is not producing minerals or which has not been the subject of good-faith drilling operations will cease to burden the property upon the tenth anniversary of the date of its creation.

 

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We engage in leasing certain portions of our owned mineral interests to third parties for the exploration and production of oil and natural gas. Leasing mineral acres for exploration and production can create significant value because we may negotiate a lease bonus payment and retain a royalty interest in all revenues generated by the lessee from oil and natural gas production. The significant terms of these arrangements include granting the exploration company the rights to oil or natural gas it may find and requiring that drilling be commenced within a specified period. In return, we may receive an initial payment (bonus), subsequent payments if drilling has not started within the specified period (delay rentals), and a percentage interest in the value of any oil or natural gas produced (royalties). If no oil or natural gas is produced during the required period, all rights are returned to us. Historically, our capital requirements for our owned mineral acres have been minimal and primarily consist of acquisition costs allocated to mineral interests and administrative costs.

Our royalty revenues are contractually defined and based on a percentage of production and are received in cash. Our royalty revenues fluctuate based on changes in the market prices for oil and natural gas, the inevitable decline in production in existing wells, and other factors affecting the third-party oil and natural gas exploration and production companies that operate wells on our minerals including the cost of development and production.

Most leases are for a three to five year term although a portion or all of a lease may be extended by the lessee as long as actual production is occurring. Financial terms vary based on a number of market factors including the location of the mineral interest, the number of acres subject to the agreement, our mineral interest, proximity to transportation facilities such as pipelines, depth of formations to be drilled and risk.

Mineral Interests Leased

At year-end 2012, we have approximately 162,000 net mineral acres leased from others and overriding royalty interests associated with our acquisition of Credo. Credo’s operations principally are in Nebraska, Kansas, Oklahoma, North Dakota and Texas. These operations include nearly 37,000 net acres held by production and 394 gross oil and natural gas wells with working interest ownership, of which 136 are operated by us. In addition, we have approximately 15,000 net mineral acres leased from others in Georgia, Alabama and Texas not related to our acquisition of Credo.

Our principal areas of net mineral interests leased as a result of our acquisition of Credo follow:

Nebraska and Kansas

We have about 122,000 net mineral acres in this area. Kansas acreage is located on or near the Central Kansas Uplift and in the western Kansas counties of Logan, Lane, Thomas and Gove. The Nebraska acreage is located in the southwest portion of Nebraska in the counties of Dundee, Red Willow and Hitchcock. We currently own interests in 73 gross producing wells with an average working interest of 44.8 percent.

Oklahoma

We have about 17,000 net mineral acres primarily located on the northern shelf of the Anadarko Basin of Oklahoma, where we own interests in approximately 184 gross producing wells with an average working interest of 30.7 percent. All of this acreage is currently held by production.

North Dakota

We have about 6,000 net acres in or near the core of the Bakken and Three Forks play. Most of the acreage is located on the Fort Berthold Indian Reservation, south and west of the Parshall Field. We own interests in 35 gross producing oil wells with an average working interest of 8.3 percent. Where a well has been drilled on a spacing unit, in most cases we expect additional development wells to be drilled on those spacing units in the future.

Texas

We have about 3,000 net mineral acres primarily in Hemphill, Tyler and Fayette counties. We own interests in 34 gross producing wells. These wells have an average working interest of 21.9 percent.

 

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A summary of our net mineral acres leased from others as a result of our acquisition of Credo as of year-end 2012 follows:

 

State

   Undeveloped      Held By
Production
     Total(b)  

Nebraska

     77,000         2,000        79,000  

Kansas

     40,000         3,000        43,000  

Oklahoma

     —          17,000        17,000  

North Dakota

     4,000         2,000        6,000  

Texas

     1,000         2,000        3,000  

Other(a)

     3,000         11,000        14,000  
  

 

 

    

 

 

    

 

 

 
     125,000         37,000        162,000  
  

 

 

    

 

 

    

 

 

 

 

(a) Includes approximately 8,400 net acres of overriding royalty interests.

 

(b) Excludes approximately 15,000 net acres leased in Georgia, Alabama and Texas not related to our acquisition of Credo.

Most leases are for a three to five year term although a portion or all of a lease may be extended as long as production is occurring. Financial terms vary based on a number of factors including the location of the leasehold interest, the number of acres subject to the agreement, proximity to transportation facilities such as pipelines, depth of formations to be drilled and risk.

Water Interests

We have water interests in about 1.5 million acres which includes a 45 percent nonparticipating royalty interest in groundwater produced or withdrawn for commercial purposes or sold from approximately 1.4 million acres in Texas, Louisiana, Georgia and Alabama, and about 20,000 acres of ground water leases in central Texas. We have not received significant revenues or earnings from these interests.

Proved Reserves

Our net proved oil and natural gas reserves as of year-end 2012, 2011 and 2010 set forth in the table below, all of which are located in the United States, are based on the reserve report prepared by Netherland, Sewell & Associates, Inc. (NSAI), a petroleum engineering firm, in accordance with the definitions and guidelines of the Securities and Exchange Commission (SEC).

 

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Net quantities of proved oil and natural gas reserves, principally located in the Nebraska, Kansas, North Dakota, East Texas, Gulf Coast and Fort Worth Basins, related to our royalty and working interests follow (excludes Credo reserves for year-end 2011 and 2010):

 

     Net Reserves  
     Oil
(Barrels)
     Natural Gas
(Mcf)
 
     (In thousands)  

Consolidated entities:

     

Proved developed

     2,416         10,448   

Proved undeveloped

     804         1,274   
  

 

 

    

 

 

 

Year-end 2012

     3,220         11,722   

Year-end 2011

     1,064         8,203   

Year-end 2010

     609         6,659   

Our share of ventures accounted for using the equity method:

     

Proved developed

             2,572   

Proved undeveloped

               
  

 

 

    

 

 

 

Year-end 2012

             2,572   

Year-end 2011

             3,283   

Year-end 2010

             3,871   

Total consolidated and our share of equity method ventures:

     

Proved developed

     2,416         13,020   

Proved undeveloped

     804         1,274   
  

 

 

    

 

 

 

Year-end 2012

     3,220         14,294   

Year-end 2011(a)

     1,064         11,486   

Year-end 2010(a)

     609         10,530   

 

(a)

In 2011 and 2010, consolidated entities and equity method ventures did not include any proved undeveloped reserves. In 2012, proved undeveloped reserves are a result of our acquisition of Credo.

 

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The following summarizes the changes in proved reserves for 2012:

 

     Net Reserves  
     Oil
(Barrels)
    Natural Gas
(Mcf)
 
     (In thousands)  

Consolidated entities:

    

Year-end 2011

     1,064        8,203   

Revisions of previous estimates

     45        (2,163

Extensions and discoveries

     86        241   

Acquisitions

     2,396        7,109   

Production

     (371     (1,668
  

 

 

   

 

 

 

Year-end 2012

     3,220        11,722   

Our share of ventures accounted for using the equity method:

    

Year-end 2011

            3,283   

Revisions of previous estimates

            (390

Extensions and discoveries

              

Production

            (321
  

 

 

   

 

 

 

Year-end 2012

            2,572   

Total consolidated and our share of equity method ventures:

    

Year-end 2012

     3,220        14,294   

We do not have any estimated reserves of synthetic oil, synthetic natural gas or products of other non-renewable natural resources that are intended to be upgraded into synthetic oil and natural gas.

Reserve estimates were based on the economic and operating conditions existing at year-end 2012, 2011 and 2010. For 2012, 2011 and 2010, oil prices are based on a twelve month average spot price of $94.71, $92.71 and $75.96 per barrel of West Texas Intermediate Crude and natural gas prices are based on a twelve month average price of $2.76, $4.12 and $4.38 per MMBTU per the Henry Hub spot market. All prices were adjusted for quality, transportation fees and regional price differentials. Since the determination and valuation of proved reserves is a function of the interpretation of engineering and geologic data and prices for oil and natural gas and the cost to produce these reserves, the reserves presented should be expected to change as future information becomes available. For an estimate of the standardized measure of discounted future net cash flows from proved oil and natural gas reserves, please read Note 20 — Supplemental Oil and Gas Disclosures (Unaudited) to our consolidated financial statements included in this Annual Report on Form 10-K.

In 2012, decreases in gas prices accounted for about 800,000 Mcf of downward revisions in natural gas reserves for our consolidated entities and about 330,000 Mcf of downward revisions for our equity method ventures. The remaining downward revisions in natural gas reserves for our consolidated entities were attributable to adverse performance from reducing the total fluid withdrawal in a natural water drive reservoir, adverse performance from increasing total fluid withdrawal rate in another natural water drive reservoir, from unfavorable performance from newer wells in over-pressured reservoirs that are exhibiting pressure-dependent permeability reductions, and generally due to higher operating pressures adversely affecting natural gas well performances in a higher back-pressure environment.

The process of estimating oil and natural gas reserves is complex, involving decisions and assumptions in evaluating the available geological, geophysical, engineering and economic data. Accordingly, these estimates are imprecise. Actual future production, oil and natural gas prices, capital costs, operating costs, revenues, taxes and quantities of recoverable oil and natural gas reserves might vary from those estimated. Any variance could materially affect the estimated quantities and present value of proved reserves. In addition, estimates of proved reserves may be adjusted to reflect production history, development, prevailing oil and natural gas prices and other factors, many of which are beyond our control.

 

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The primary internal technical person in charge of overseeing our reserves estimates has a Bachelor of Science in Petroleum Engineering and a Masters of Business Administration in Finance and Accounting. He has over 30 years of experience in the exploration and production business as well as experience in natural gas processing, refining and marketing, coal, geothermal, manufactured utilities and electricity generation.

As part of our internal control over financial reporting, we have a process for reviewing well production data and division of interest percentages prior to submitting well level data to NSAI to prepare reserve estimates on our behalf. Prior to inclusion in this Annual Report on Form 10-K, our primary internal technical person and other members of management review the reserve estimates prepared by NSAI, including the underlying assumptions and estimates upon which they are based, for accuracy and reasonableness.

Production

Oil and natural gas produced and average unit prices related to our royalty and working interests follows:

 

     For the Year  
     2012      2011      2010  

Consolidated entities:

        

Oil production (barrels)

     371,300         151,900         115,400   

Average price per barrel

   $ 85.09       $ 96.84       $ 73.09   

Natural gas production (millions of cubic feet)

     1,667.7         1,128.6         1,223.6   

Average price per thousand cubic feet

   $ 2.76       $ 4.01       $ 4.32   

Our share of ventures accounted for using the equity method:

        

Natural gas production (millions of cubic feet)

     321.3         493.4         572.8   

Average price per thousand cubic feet

   $ 2.40       $ 3.81       $ 4.12   

Total consolidated and our share of equity method ventures:

        

Oil production (barrels)

     371,300         151,900         115,400   

Average price per barrel

   $ 85.09       $ 96.84       $ 73.09   

Natural gas production (millions of cubic feet)

     1,989.0         1,622.0         1,796.4   

Average price per thousand cubic feet

   $ 2.71       $ 3.95       $ 4.26   

Total BOE (barrel of oil equivalent)(a)

     702,800         422,200         414,800   

Average price per barrel of oil equivalent

   $ 52.61       $ 50.02       $ 38.77   

 

(a) 

Natural gas is converted to barrels of oil equivalent (BOE) using the conversion of six Mcf to one barrel of oil.

In fourth quarter 2012, operations acquired from Credo produced approximately 116,600 barrels of oil at an average price of $79.94 per barrel and 225 MMcf of natural gas at an average price of $3.64 per Mcf.

At year-end 2012, production lifting costs, which exclude ad valorem and severance taxes, were $7.47 per BOE related to 403 gross wells in which we have a working interest. At year-end 2011, production lifting costs, which exclude ad valorem and severance taxes, were $8.88 per BOE related to seven gross wells in which we have a working interest. At year-end 2010, production lifting costs were $10.83 per BOE related to six gross wells in which we have a working interest.

 

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Drilling and Other Exploratory and Development Activities; Present Activities

The following tables set forth the number of gross and net oil and natural gas wells in which we participated:

 

     Gross Wells  

Year

          Exploratory      Development  
     Total      Oil      Gas      Dry      Oil      Gas      Dry  

2012(a)

     40         8         1         9         16         2         4   

2011

     38         1         7         2         10         18           

2010(b)

     23         1         5         1                 16           

 

(a) 

Of the gross wells drilled in 2012, we operated 11 or 27.5 percent. The remaining wells represent our participations in wells operated by others. All of the dry holes were located in Kansas and Nebraska.

 

(b) 

Includes seven development gas wells drilled on property held by an equity method venture.

 

     Net Wells  

Year

          Exploratory      Development  
     Total      Oil      Gas      Dry      Oil      Gas      Dry  

2012(a)

     13.0         3.0                 4.9         2.6         0.2         2.3   

2011

     4.6         0.2         0.4         0.4         2.4         1.2           

2010(b)

     1.7         0.1         0.3         0.1                 1.2           

 

(a) Of the net wells drilled in 2012, we operated 7.6 or 58.4 percent. The remaining wells represent our participations in wells operated by others. All of the dry holes were located in Kansas and Nebraska.

 

(b) Includes 0.9 development gas wells drilled on property held by an equity method venture.

At year-end 2012, there were eight wells being drilled and there were 11 wells in some stage of the completion process requiring additional activities prior to generating sales.

In 2012, we conducted exploratory activities related to unproven properties in Georgia, Alabama, Kansas and Nebraska by acquiring leases and seismic data, and evaluating leasehold and existing mineral acreage for potential exploratory drilling. The leases have terms ranging from one to five years. In 2011, we conducted exploratory activities in Georgia and Alabama. We did not conduct any exploratory or development activities in 2010.

 

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Delivery Commitments

We have no oil or natural gas delivery commitments.

Wells and Acreage

The number of gross wells as of year-end 2012, 2011 and 2010, follows:

 

     Gross Wells  
     Oil      Natural Gas      Total  

Consolidated entities:

        

Year-end 2012(a)

     491         422         913  

Year-end 2011

     273         234         507  

Year-end 2010

     262         209         471  

Ventures accounted for using the equity method:

        

Year-end 2012

             23         23  

Year-end 2011

             23         23  

Year-end 2010

             23         23  

Total consolidated and equity method ventures:

        

Year-end 2012

     491         445         936  

Year-end 2011

     273         257         530  

Year-end 2010

     262         232         494  

 

(a) 

Excludes 1,181 overriding royalty interest wells.

We have royalty interests in 542 gross wells at year-end 2012, 530 at year-end 2011, and 494 at year-end 2010. We have working interests in 403 gross wells at year-end 2012, eight wells at year-end 2011, and six wells at year-end 2010. Total net wells from our royalty and working interests were 174, 47 and 43 at year-end 2012, 2011 and 2010.

The amounts above include two gross wells (0.05 net wells) with multiple completions. We did not have any wells with production of synthetic oil, synthetic natural gas or products of other non-renewable natural resources that are intended to be upgraded into synthetic oil and natural gas as of year-end 2012, 2011 or 2010. Our plugging liabilities are accrued on the balance sheet based on the present value of our estimated future obligation.

At year-end 2012, our working interests represent approximately 87,000 gross developed acres and 30,000 net developed acres leased from others that are held by production. We had approximately 219,000 gross undeveloped acres and 140,000 net undeveloped acres at year-end 2012. We have approximately 58,000 gross and 33,000 net undeveloped acres scheduled to expire in 2013, some of which we are currently evaluating for lease extension.

Capital Expenditure Budget

Our anticipated 2013 mineral resources capital expenditure budget for drilling and completion is $72.5 million, of which we have allocated $43.7 million to the Williston Basin of North Dakota to participate as a non-operator in an estimated 54 gross wells in the Bakken and Three Forks formations. Our average working interest in these wells is expected to be approximately 8.0 percent. An additional $14.5 million is allocated for 82 gross wells in the Lansing – Kansas City formation of Kansas and Nebraska through a combination of operated and non-operated working interests with the remaining $14.3 million allocated to 42 operated and non-operated gross wells across a number of formations principally in Texas, Louisiana and Oklahoma.

 

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Our 2013 capital expenditure budget is subject to various conditions, including third-party operator drilling plans, oilfield services and equipment availability, commodity prices and drilling results. Although a portion of our capital expenditure budget is allocated to acquiring additional leasehold interests, if we decide to pursue incremental leasehold acquisitions, it would require us to adjust our budget. Other factors that could cause us to adjust our budget include commodity prices, service or material costs, or the performance of wells.

Markets

Oil and natural gas revenues are influenced by prices of, and supply and demand for oil and natural gas. These commodities as determined by both regional and global markets depend on numerous factors beyond our control, including seasonality, the condition of the domestic and global economies, political conditions in other oil and natural producing countries, the extent of domestic production and imports of oil and natural gas, the proximity and capacity of natural gas pipelines and other transportation facilities, supply and demand for oil and natural gas and the effects of federal, state and local regulation. The oil and natural gas industry also competes with other industries in supplying the energy and fuel requirements of industrial, commercial and individual consumers. Mineral leasing activity is influenced by the location of our mineral interests owned relative to existing or projected oil and natural gas reserves and by the proximity of successful production efforts to our mineral interests and by the evolution of new plays and improvements in drilling and extraction technology.

Competition

The oil and natural gas industry is highly competitive, and we compete for prospective properties, producing properties, personnel and services with a substantial number of other companies that may have greater resources. Many of these companies explore for, produce and market oil and natural gas, carry on refining operations and market the end products on a worldwide basis. The primary areas in which we encounter substantial competition are in locating and acquiring desirable leasehold acreage for our drilling and development operations, locating and acquiring attractive producing oil and natural gas properties, attracting highly-skilled personnel and obtaining purchasers and transporters of the oil and natural gas we produce. We also face competition from alternative fuel sources, including coal, heating oil, imported LNG, nuclear and other nonrenewable fuel sources, and renewable fuel sources such as wind, solar, geothermal, hydropower and biomass. Competitive conditions may also be substantially affected by various forms of energy legislation and/or regulation considered from time to time by the United States government. It is not possible to predict whether such legislation or regulation may ultimately be adopted or its precise effects upon our future operations. Such laws and regulations may, however, substantially increase the costs of exploring for, developing or producing oil and natural gas and may prevent or delay the commencement or continuation of our operations.

In locations where our mineral interests owned are close to producing wells and proven reserves, we may have multiple parties interested in leasing our minerals. Conversely, where our mineral interests are in or near areas where reserves have not been discovered, we may receive nominal interest in leasing our minerals. When oil and natural gas prices are higher, we are likely to receive greater interest in leasing our minerals close to producing areas because the economics will support more exploration and extraction activities. Portions of our Texas and Louisiana minerals are in close proximity to producing wells and proven reserves. Being a mineral owner may afford us the opportunity to achieve favorable terms from oil and natural gas operators.

Fiber Resources

We sell wood fiber from portions of our land, primarily in Georgia, and lease land for recreational uses.

We have about 121,000 acres of timber we own directly or through ventures and about 17,000 acres of timber under lease. We manage our timberland in accordance with the Sustainable Forestry Initiative® program of Sustainable Forestry Initiative, Inc. At year-end 2012, 99 percent of available acres of our land including ventures, primarily in Georgia, are leased for recreational purposes. Most recreational leases are for a one-year term but may be terminated by us on 30 days’ notice to the lessee. These leases do not inhibit our ability to harvest timber.

 

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Fiber sales volumes and recreational leasing has decreased in year 2012 and 2011 when compared with 2010 primarily due to the sale of over 217,000 acres of timberland since year-end 2008.

Information about our principal timber products follows:

 

     For the Year  
     2012      2011      2010  

Pulpwood tons sold

     370,200         266,200         392,900   

Average pulpwood price per ton

   $ 9.83       $ 8.69       $ 9.93   

Sawtimber tons sold

     123,700         56,800         144,300   

Average sawtimber price per ton

   $ 21.77       $ 16.13       $ 17.94   

Total tons sold

     493,900         323,000         537,200   

Average price per ton

   $ 12.82       $ 10.00       $ 12.08   

Information about our recreational leases follows:

 

     For the Year  
     2012      2011      2010  

Average recreational acres leased

     129,800         174,500         208,100   

Average price per leased acre

   $ 8.73       $ 8.80       $ 8.32   

Markets

We have an agreement to sell wood fiber to Temple-Inland, acquired by International Paper in first quarter 2012, at market prices, primarily for use at International Paper’s Rome, Georgia mill complex. The agreement expires at year-end 2013. Base prices are determined by independent sources and are indexed to third-party sources. Payment for timber is advanced to us on a quarterly basis. We also sell wood fiber to other parties at market prices.

Competition

We face significant competition from other landowners for the sale of our wood fiber. Some of these competitors own similar timber assets that are located in the same or nearby markets. However, due to its weight, the cost for transporting wood fiber long distances is significant, resulting in a competitive advantage for timber that is located reasonably close to paper and building products manufacturing facilities. A significant portion of our wood fiber is reasonably close to such facilities so we expect continued demand for our wood fiber.

Employees

We have approximately 130 employees. None of our employees participate in collective bargaining arrangements. We believe we have a good relationship with our employees.

Environmental Regulations

Our operations are subject to federal, state and local laws, regulations and ordinances relating to protection of public health and the environment. Changes to laws and regulations may adversely affect our ability to harvest and sell timber, develop minerals, remediate contaminated properties or develop real estate. These laws and regulations may relate to, among other things, the protection of timberlands, endangered species, timber harvesting practices, protection and restoration of natural resources, air and water quality, and remedial standards for contaminated property and groundwater. Additionally, these laws may impose liability on property owners or operators for the costs of removal or remediation of hazardous or toxic substances on real property, without regard to whether the owner or operator knew, or was responsible for, the presence of the hazardous or toxic substances. The presence of, or the failure to properly remediate, such substances may adversely affect the value of a property, as well as our ability to sell the property or to borrow funds using that property as collateral or the ability to produce oil and natural gas from that property. Environmental claims generally would not be covered by our insurance programs.

 

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The particular environmental laws that apply to any given real estate development site vary according to the site’s location, its environmental condition, and the present and former uses of the site and adjoining properties. Environmental laws and conditions may result in delays, may cause us to incur substantial compliance or other costs and can prohibit or severely restrict development activity or mineral production in environmentally sensitive regions or areas, which could negatively affect our results of operations.

We own approximately 288 acres in several parcels in or near Antioch, California, portions of which were sites of a Temple-Inland paper manufacturing operation that are in remediation. The remediation is being conducted voluntarily with oversight by the California Department of Toxic Substances Control, or DTSC. We have received certificates of completion on all but one 80 acre tract, a portion of which includes subsurface contamination. We estimate the remaining cost to complete remediation activities is about $1.6 million as of year-end 2012.

Oil and natural gas operations are subject to numerous federal, state and local laws and regulations controlling the generation, use, storage and discharge of materials into the environment or otherwise relating to the protection of the environment. These laws and regulations affect our operations and costs as a result of their effect on crude oil and natural gas exploration, development and production operations. Failure to comply with these laws and regulations may result in the assessment of administrative, civil and criminal penalties, including the assessment of monetary penalties, the imposition of investigatory and remedial obligations, the suspension or revocation of necessary permits, licenses and authorizations, the requirement that additional pollution controls be installed and the issuance of orders enjoining future operations or imposing additional compliance requirements.

Compliance with environmental laws and regulations increases our overall cost of business, but has not had, to date, a material adverse effect on our operations, financial condition or results of operations. It is not anticipated, based on current laws and regulations, that we will be required in the near future to expend amounts (whether for environmental control facilities or otherwise) that are material in relation to our total exploration and development expenditure program in order to comply with such laws and regulations. However, given that such laws and regulations are subject to change, we are unable to predict the ultimate cost of compliance or the ultimate effect on our operations, financial condition and results of operations.

Legal Structure

Forestar Group Inc. is a Delaware corporation. The following chart presents the ownership structure for our significant subsidiaries. It does not contain all our subsidiaries and ventures, some of which are immaterial entities.

 

LOGO

Our principal executive offices are located at 6300 Bee Cave Road, Building Two, Suite 500, Austin, Texas 78746-5149. Our telephone number is (512) 433-5200.

 

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Available Information

From our Internet website, http://www.forestargroup.com, you may obtain additional information about us including:

 

   

our annual reports on Form 10-K, quarterly reports on Form 10-Q, current reports on Form 8-K, including amendments to these reports, and other documents as soon as reasonably practicable after we file them with the Securities and Exchange Commission;

 

   

beneficial ownership reports filed by officers, directors, and principal security holders under Section 16(a) of the Securities Exchange Act of 1934, as amended (or the “Exchange Act”); and

 

   

corporate governance information that includes our:

 

   

corporate governance guidelines,

 

   

audit committee charter

 

   

management development and executive compensation committee charter,

 

   

nominating and governance committee charter,

 

   

standards of business conduct and ethics,

 

   

code of ethics for senior financial officers, and

 

   

information on how to communicate directly with our board of directors.

We will also provide printed copies of any of these documents to any stockholder free of charge upon request. In addition, the materials we file with the SEC may be read and copied at the SEC’s Public Reference Room at 100 F Street, NE, Washington, DC 20549. Information about the operation of the Public Reference Room is available by calling the SEC at 1-800-SEC-0330. The SEC also maintains an Internet site (http://www.sec.gov) that contains reports, proxy and information statements, and other information that is filed electronically with the SEC.

Executive Officers

The names, ages and titles of our executive officers are:

 

Name

   Age     

Position

James M. DeCosmo

     54       President and Chief Executive Officer

Christopher L. Nines

     41       Chief Financial Officer

Bruce F. Dickson

     59       Chief Real Estate Officer

Flavious J. Smith, Jr.

     54       Chief Oil and Gas Officer

Phillip J. Weber

     52       Executive Vice President

Charles T. Etheredge, Jr.

     49       Executive Vice President

David M. Grimm

     52       Chief Administrative Officer, General Counsel and Secretary

Charles D. Jehl

     44       Chief Accounting Officer

James M. DeCosmo has served as our President and Chief Executive Officer since 2006. He served as Group Vice President of Temple-Inland from 2005 to 2007, and previously served as Vice President, Forest from 2000 to 2005 and as Director of Forest Management from 1999 to 2000. Prior to joining Temple-Inland, he held various land management positions throughout the southeastern United States. Mr. Decosmo also serves on the Policy Advisory Board of the Harvard Housing Institute.

Christopher L. Nines has served as our Chief Financial Officer since 2007. He served as Temple-Inland’s Director of Investor Relations from 2003 to 2007 and as Corporate Finance Director from 2001 to 2003. He was Senior Vice President of Finance for ConnectSouth Communications, Inc. from 2000 to 2001.

 

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Bruce F. Dickson has served as our Chief Real Estate Officer since March 2011. From 2009 through March 2011, he was the owner of Fairchild Investments LLC, a real estate investment firm. He served Standard Pacific Corp., as Southeast Region President, from 2004 to 2009 and as Austin Division President from 2002 to 2004. From 1991-2001, he held region or division president positions with D.R. Horton, Inc., Milburn Homes and Continental Homes. His prior experience includes investment banking and financial services.

Flavious J. Smith, Jr. has served as our Chief Oil and Gas Officer since October 2012. From 2008 to 2012, he served as our Executive Vice President. He served as Division Land Manager for EOG Resources, Inc. from 2005 to 2008. He owned and operated Flavious Smith Petroleum Properties, an independent oil and natural gas operator, from 1989 to 2005, and previously held various leadership positions with several oil and gas and energy-related companies.

Phillip J. Weber has served as our Executive Vice President since October 2009. He served the Federal National Mortgage Association (Fannie Mae) as Senior Vice President — Multifamily from 2006 to October 2009, as Chief of Staff to the CEO from 2004 to 2006, as Chief of Staff to non-Executive Chairman of the Board and Corporate Secretary from 2005 to 2006, and as Senior Vice President, Corporate Development in 2005.

Charles T. Etheredge, Jr. has served as our Executive Vice President since 2006. He was a member of Guaranty Bank’s commercial real estate lending segment from 1992 to 2006, where he served as Senior Vice President and Managing Director for the Eastern Region from 1999 to 2006 and as Vice President and Division Manager from 1997 to 1999.

David M. Grimm has served as our Chief Administrative Officer since 2007, in addition to holding the offices of General Counsel and Secretary since 2006. Mr. Grimm served Temple-Inland as Group General Counsel from 2005 to 2006, Associate General Counsel from 2003 to 2005, and held various other legal positions from 1992 to 2003. Prior to joining Temple-Inland, Mr. Grimm was an attorney in private practice in Dallas, Texas.

Charles D. Jehl has served as our Chief Accounting Officer since 2006. He served as Chief Operations Officer and Chief Financial Officer of Guaranty Insurance Services, Inc. from 2005 to 2006 and as Senior Vice President and Controller from 2000 to 2005. From 1989 to 1999, Mr. Jehl held various financial management positions within Temple-Inland’s financial services segment.

 

Item 1A. Risk Factors.

General Risks Related to our Operations

Both our real estate and mineral resources businesses are cyclical in nature.

The operating results of our business segments reflect the general cyclical pattern of each segment. While the cycles of each industry do not necessarily coincide, demand and prices in each may drop substantially in an economic downturn. Real estate development of residential lots is further influenced by new home construction activity. Mineral resources may be further influenced by national and international commodity prices, principally for oil and natural gas. Cyclical downturns may materially and adversely affect our business, liquidity, financial condition and results of operations.

We may be unable to achieve some or all of our Triple in FOR strategic initiatives.

In 2012, we announced Triple in FOR, new strategic initiatives designed to further enhance shareholder value by accelerating value realization of our real estate and natural resources, optimizing transparency and disclosure, and raising net asset value through strategic and disciplined investments. Our initiatives include: increasing total residential lot sales; increasing oil and natural gas production; increasing total segment EBITDA; expanding reported oil and natural gas resource potential; providing additional information regarding groundwater interests; establishing a progress report on corporate responsibility; pursing growth opportunities which help prove up our asset value and meeting return expectations; developing a low-capital, high-return multifamily business; and accelerating investment in lower-risk oil and natural gas opportunities.

 

 

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All of these activities and initiatives have inherent risks and there remain significant challenges and uncertainties, including economic and general business conditions, that could limit our ability to achieve anticipated benefits associated with announced strategic initiatives and affect our financial results. We may not achieve any or all of these goals and are unable to predict whether these initiatives will produce significant revenues, profits or increases in net asset value.

The real estate and mineral resource industries are highly competitive and a number of entities with which we compete are larger and have greater resources, and competitive conditions may adversely affect our results of operations.

The real estate and mineral resource industries in which we operate are highly competitive and are affected to varying degrees by supply and demand factors and economic conditions, including changes in interest rates, new housing starts, home repair and remodeling activities, credit availability, consumer confidence, unemployment, housing affordability, changes in oil and natural gas prices, and federal energy policies.

The competitive conditions in the real estate industry may result in difficulties acquiring suitable land at acceptable prices, lower sales volumes and prices, increased development costs and delays in construction. We compete with numerous regional and local developers for the acquisition, entitlement, and development of land suitable for development. We also compete with some of our national and regional home builder customers who develop real estate for their own use in homebuilding operations, many of which are larger and have greater resources, including greater marketing and technology budgets. Any improvement in the cost structure or service of our competitors will increase the competition we face.

We face intense competition from both major and independent oil and natural gas companies in seeking to acquire desirable producing properties, seeking new properties for future exploration and seeking the human resource expertise necessary to effectively develop properties. Many of our competitors have financial and other resources substantially greater than ours, and some of them are fully integrated oil and natural gas companies. These companies may be able to pay more for development prospects and productive oil and natural gas properties and are able to define, evaluate, bid for, purchase and subsequently drill a greater number of properties and prospects than our financial or human resources permit, effectively reducing our ability to participate in drilling on certain of our acreage as a working interest owner. Our ability to develop and exploit our oil and natural gas properties and to acquire additional quality properties in the future will depend upon our ability to successfully evaluate, select and acquire suitable properties and join in drilling with reputable operators in this highly competitive environment.

Our business, financial condition and results of operations may be negatively affected by any of these factors.

Our activities are subject to environmental regulations and liabilities that could have a negative effect on our operating results.

Our operations are subject to federal, state and local laws and regulations related to the protection of the environment. Compliance with these provisions or the promulgation of new environmental laws and regulations may result in delays, may cause us to invest substantial funds to ensure compliance with applicable environmental regulations and can prohibit or severely restrict timber harvesting, real estate development or mineral production activity in environmentally sensitive regions or areas.

Significant reductions in cash flow from slowing real estate, mineral resources or fiber resources market conditions could lead to higher levels of indebtedness, limiting our financial and operating flexibility.

We must comply with various covenants contained in our senior secured credit facility, the indenture governing our 3.75% convertible senior notes due 2020, and any other future debt arrangements. Significant reductions in cash flow from slowing real estate, mineral resources or fiber resources market conditions could require us to increase borrowing levels under our revolving loans under our senior secured credit facility or borrow under other debt arrangements and lead to higher levels of indebtedness, limiting our financial and operating flexibility, and ultimately limiting our ability to comply with our debt covenants. Realization of any of these factors could adversely affect our financial condition and results of operations.

 

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Restrictive covenants under our senior secured credit facility may limit the manner in which we operate.

Our senior secured credit facility contains various covenants and conditions that limit our ability to, among other things:

 

   

incur or guarantee additional debt;

 

   

pay dividends or make distributions to our stockholders;

 

   

repurchase or redeem capital stock or subordinated indebtedness;

 

   

make loans, investments or acquisitions;

 

   

incur restrictions on the ability of certain of our subsidiaries to pay dividends or to make other payments to us;

 

   

enter into transactions with affiliates;

 

   

create liens;

 

   

merge or consolidate with other companies or transfer all or substantially all of our assets; and

 

   

transfer or sell assets, including capital stock of subsidiaries.

As a result of these covenants, we are limited in the manner in which we conduct our business and we may be unable to engage in favorable business activities or finance future operations or capital needs.

Debt within some of our ventures may not be renewed or may be difficult or more expensive to replace.

As of December 31, 2012, our unconsolidated joint ventures had approximately $38.4 million of debt, substantially all of which was non-recourse to us. Many lenders have substantially curtailed or ceased making real estate acquisition and development loans. When debt within our ventures matures, some of our ventures may be unable to renew existing loans or secure replacement financing, or replacement financing may be more expensive. If our ventures are unable to renew existing loans or secure replacement financing, we may be required to contribute additional equity to our ventures which could increase our risk or increase our borrowings under our senior secured credit facility, or both. If our ventures secure replacement financing that is more expensive, our profits may be reduced.

We may not be able to generate sufficient cash flow to service all of our indebtedness and may be forced to take other actions to satisfy our obligations under our indebtedness, which may not be successful.

As of December 31, 2012, we had approximately $294.1 million of consolidated debt outstanding. On February 26, 2013 we issued $125 million aggregate principal amount of our 3.75% convertible senior notes due 2020. Our aggregate borrowing under the revolving line of credit under our senior secured credit facility is $200 million but may be increased up to $300 million, subject to certain conditions. Our ability to make scheduled payments or to refinance these or future debt obligations depends on our financial and operating performance, which is subject to prevailing economic and competitive conditions and to certain financial, business and other factors beyond our control. We cannot assure you that we will maintain a level of cash flows from operating activities sufficient to permit us to pay the principal, premium, if any, and interest on our indebtedness.

If our cash flows and capital resources are insufficient to fund our debt service obligations, we may be forced to reduce or delay capital expenditures, sell assets or operations, seek additional debt or equity capital or restructure or refinance our indebtedness. We cannot assure you that we would be able to take any of these actions, that these actions would be successful and permit us to meet our scheduled debt service obligations or that these actions would be permitted under the terms of our existing or future debt agreements. In the absence of such operating results and resources, we could face substantial liquidity problems and might be required to dispose of material assets or operations to meet our debt service and other obligations.

Despite current indebtedness levels, we and our subsidiaries may be able to incur substantially more debt.

We and our subsidiaries may be able to incur substantial additional indebtedness in the future. If new debt is added to our and our subsidiaries’ current debt levels, the related risks that we and they now face could intensify.

 

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Current global financial conditions have been characterized by increased volatility which could have a material adverse effect on our business, prospects, liquidity, financial condition and results of operations.

Current global financial conditions and recent market events have been characterized by increased volatility and the resulting tightening of the credit and capital markets has reduced the amount of available liquidity and overall economic activity. We cannot assure you that debt or equity financing, the ability to borrow funds or cash generated by operations will be available or sufficient to meet or satisfy our initiatives, objectives or requirements. Our inability to access sufficient amounts of capital on terms acceptable to us for our operations could have a material adverse effect on our business, prospects, liquidity, financial condition and results of operations.

Our business may suffer if we lose key personnel.

We depend to a large extent on the services of certain key management personnel. These individuals have extensive experience and expertise in our business segments in which they work. The loss of any of these individuals could have a material adverse effect on our operations. We do not maintain key-man life insurance with respect to any of our employees. Our success will be dependent on our ability to continue to employ and retain skilled personnel in each of our business segments.

Risks Related to Our Real Estate Operations

Tepid demand for new housing or commercial tracts in the markets where we operate could adversely impact our profitability.

The residential development industry is cyclical and is significantly affected by changes in general and local economic conditions, such as employment levels, availability of financing for home buyers, interest rates, consumer confidence and housing demand. Adverse changes in these conditions generally, or in the markets where we operate, could decrease demand for lots for new homes in these areas. Despite improved single-family housing market conditions in some markets, aggregate annual new home starts remain substantially below historical norms. Current mortgage credit standards continue to limit the availability of mortgage loans to acquire new and existing homes. Decline in housing demand could negatively affect our real estate development activities, which could result in a decrease in our revenues and earnings.

Furthermore, the market value of undeveloped land and lots held by us, including commercial tracts, can fluctuate significantly as a result of changing economic and real estate market conditions. If there are significant adverse changes in economic or real estate market conditions, we may have to hold land in inventory longer than planned. Inventory carrying costs can be significant and can result in losses or lower returns and adversely affect our liquidity.

Development of real estate entails a lengthy, uncertain and costly entitlement process.

Approval to develop real property entails an extensive entitlement process involving multiple and overlapping regulatory jurisdictions and often requiring discretionary action by local governments. This process is often political, uncertain and may require significant exactions in order to secure approvals. Real estate projects must generally comply with local land development regulations and may need to comply with state and federal regulations. The process to comply with these regulations is usually lengthy and costly, may not result in the approvals we seek, and can be expected to materially affect our real estate development activities, which may adversely affect our business, liquidity, financial condition and results of operations.

Our real estate development operations are currently concentrated in the major markets of Texas, and a significant portion of our undeveloped land holdings are concentrated in Georgia. As a result, our financial results are dependent on the economic growth and strength of those areas.

The economic growth and strength of Texas, where the majority of our real estate development activity is located, are important factors in sustaining demand for our real estate development activities. Further, the future economic growth and real estate development opportunities in broad area around Atlanta, Georgia may be

 

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adversely affected if its infrastructure, such as roads, utilities, and schools, are not improved to meet increased demand. There can be no assurance that these improvements will occur. As a result, any adverse impact to the economic growth and health, or infrastructure development, of those areas could materially adversely affect our business, liquidity, financial condition and results of operations.

Our real estate development operations are highly dependent upon national, regional and local homebuilders.

We are highly dependent upon our relationships with national, regional, and local homebuilders to purchase lots in our residential developments. If homebuilders do not view our developments as desirable locations for homebuilding operations, our business, liquidity, financial condition and results of operations will be adversely affected.

In addition, we enter into contracts to sell lots to builders. A builder could decide to delay purchases of lots in one of our developments due to adverse real estate conditions wholly unrelated to our areas of operations, such as the corporate decisions regarding allocation of limited capital or human resources. Further, home mortgage credit standards have tightened substantially and many markets have excess housing inventory so fewer new houses are being constructed and sold. As a result, some builders are experiencing liquidity shortfalls and may be unwilling or unable to close on previously committed lot purchases and, upon the occurrence of any such event, we cannot assure you that we would be able to recover any damages from such builders. As a result, we may sell fewer lots and may have lower sales revenues, which could have an adverse effect on our business, liquidity, financial condition and results of operations.

Our strategic partners may have interests that differ from ours and may take actions that adversely affect us.

We enter into strategic alliances or venture relationships as part of our overall strategy for particular developments or regions. While these partners may bring development experience, industry expertise, financing capabilities, and local credibility or other competitive attributes, they may also have economic or business interests or goals that are inconsistent with ours or that are influenced by factors unrelated to our business. We may also be subject to adverse business consequences if the market reputation or financial condition of a partner deteriorates.

A formal agreement with a partner may also involve special risks, such as: we may not have voting control over the venture; the venture partner may take actions contrary to our instructions or requests, or contrary to our policies or objectives with respect to the real estate investments; the venture partner could experience financial difficulties and actions by a venture partner may subject property owned by the venture to liabilities greater than those contemplated by the venture agreement or have other adverse consequences.

As a result, actions by a partner may have the result of subjecting venture property to liabilities in excess of those contemplated by the terms of the applicable agreement or have other adverse consequences. Accordingly, we cannot assure you that any such arrangements will achieve the results anticipated or otherwise prove successful.

Our partners’ inability to fund their capital commitments and otherwise fulfill their operating and financial obligations related to a venture could have an adverse effect on the venture and us.

When we enter into a venture, we may rely on our venture partner to fund its share of capital commitments to the venture and to otherwise fulfill its operating and financial obligations. Failure of a venture partner to timely satisfy its funding or other obligations to the venture could require us to elect whether to increase our financial or other operating support of the venture in order to preserve our investment, which may reduce our returns or cause us to incur losses, or to not fund such obligations, which may subject the venture and us to adverse consequences.

Delays or failures by governmental authorities to take expected actions could reduce our returns or cause us to incur losses on certain real estate development projects.

We rely on governmental utility and special improvement districts (“SID”) to issue bonds as a revenue source for the districts to reimburse us for qualified expenses, such as road and utility infrastructure costs. Bonds

 

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must be supported by districts tax revenues, usually from ad valorem taxes. Slowing new home sales, decreasing real estate prices or difficult credit markets for bond sales can reduce or delay district bond sale revenues, causing such districts to delay reimbursement of our qualified expenses. Failure to receive timely reimbursement for qualified expenses could adversely affect our cash flows and reduce our returns or cause us to incur losses on certain real estate development projects.

We are unable to control the approval or timing of reimbursements or other payments from the SID in which our Cibolo Canyons project is located. Delays or failure by the SID to approve infrastructure costs for reimbursement or to issue bonds, or lower than expected revenues generated from taxes, could negatively impact the timing of our future cash flows.

The SID in which our Cibolo Canyons project is located is an independent governmental entity not affiliated with us. The SID has an elected governing board of directors comprised of members living within the district, none of whom are affiliated with us. Reimbursement of our infrastructure costs, and timing of payment, is subject to approval and determination by the SID. The SID is also obligated to pay to us certain amounts generated from hotel occupancy revenues and other resort sales revenues collected as taxes by the SID within the district. The amount of revenues collected by the SID will be impacted by hotel occupancy and resort sales, each of which could be lower than projected. If the revenues collected by the SID are lower than expected, then the amount of our future cash flows from the SID could be adversely affected. The amount and timing of receipts form the SID will be impacted by decisions made by the SID in regard to whether and when to issue bonds that would generate funds to support payments to us. Decisions by the SID to delay approval of reimbursements or issuance of bonds could negatively impact the timing of our future cash flows.

Unfavorable changes in apartment markets and economic conditions could adversely affect multifamily occupancy levels and rental rates.

Market and economic conditions may significantly affect multifamily occupancy levels and rental rates and therefore profitability. In general, factors that may adversely affect market and economic conditions include the following:

 

   

the economic climate, which may be adversely impacted by a reduction in jobs, industry slowdowns and other factors;

 

   

local conditions, such as oversupply of, or reduced demand for, apartment homes;

 

   

declines in household formation;

 

   

favorable residential mortgage rates;

 

   

rent control or stabilization laws, or other laws regulating rental housing, which could prevent us from raising rents to offset increases in operating costs; and;

 

   

competition from other available apartments and other housing alternatives and changes in market rental rates.

Any of these factors would adversely affect our ability to achieve desired operating results from our multifamily communities.

Development and construction risks could impact our profitability.

We may develop and construct multifamily communities through wholly-owned projects or through ventures with unaffiliated parties. Our development and construction activities may be exposed to the following risks:

 

   

we may incur construction costs for a property that exceed original estimates due to increased materials, labor or other costs or unforeseen environmental or other conditions, which could make completion of the property uneconomical, and we may not be able to increase rents to compensate for the increase in construction costs;

 

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we may be unable to complete construction and/or lease-up of a community on schedule and meet financial goals for development projects;

 

   

an adverse incident during construction or development could adversely affect our ability to complete construction, conduct operations or cause substantial losses, including personal injury or loss of life, damage to or destruction of property, equipment, pollution or other environmental contamination, regulatory penalties, suspension of operations, and attorney’s fees and other expenses incurred in the prosecution or defense of litigation; and

 

   

because occupancy rates and rents at a newly developed community may fluctuate depending on a number of factors, including market and economic conditions, we may be unable to meet our profitability goals for that community.

Possible difficulty of selling multifamily communities could limit our operational and financial flexibility.

Purchasers may not be willing to pay acceptable prices for multifamily communities that we wish to sell. Furthermore, general uncertainty in the real estate markets has resulted in conditions where pricing of certain real estate assets may be difficult due to uncertainty with respect to capitalization rates and valuations, among other things. Also, if we are unable to sell multifamily communities or if we can only sell multifamily communities at prices lower than are generally acceptable, then we may have to take on additional leverage in order to provide adequate capital to execute our business strategy.

Increased competition and increased affordability of residential homes could limit our ability to retain residents, lease apartment homes or increase or maintain rents.

Our multifamily communities compete with numerous housing alternatives in attracting residents, including other multifamily communities and single-family rental homes, as well as owner occupied single and multifamily homes. Competitive housing in a particular area and the increasing affordability of owner occupied single and multifamily homes caused by declining housing prices, mortgage interest rates and government programs to promote home ownership could adversely affect our ability to retain residents, lease apartment homes and increase or maintain rents.

Acquired multifamily development sites and communities may not achieve anticipated results.

We may selectively acquire multifamily communities that meet our investment criteria. Our acquisition activities and their success may be exposed to the following risks:

 

   

an acquired community may fail to achieve expected occupancy and rental rates and may fail to perform as expected;

 

   

we may not be able to successfully integrate acquired properties and operations;

 

   

our estimates of the costs of repositioning or redeveloping the acquired property may prove inaccurate, causing us to fail to meet profitability goals; and

 

   

we may be unable to obtain third party co-investment for development of communities.

Failure to succeed in new markets may limit our growth.

We may from time to time commence development activity or make acquisitions outside of our existing market areas if appropriate opportunities arise. Our historical experience in existing markets does not ensure that we will be able to operate successfully in new markets. We may be exposed to a variety of risks if we choose to enter new markets, including, among others:

 

   

an inability to evaluate accurately local apartment or housing market conditions and local economies;

 

   

an inability to obtain land for development or to identify appropriate acquisition opportunities;

 

   

an inability to hire and retain key personnel; and

 

   

lack of familiarity with local governmental and permitting procedures.

 

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Risks Related to Our Mineral Resources Operations

We may be unable to realize the expected benefits of acquiring Credo, and the Credo acquisition may adversely affect our business, financial condition and results of operations.

The success of the Credo acquisition will depend, in part, on our ability to achieve the synergies and value creation from combining our existing business with that of Credo. It will also depend, in part, on our ability to promptly and effectively integrate Credo’s operations into our existing operations and integrate Credo’s employees into our company. The integration of Credo’s business may result in unforeseen expenses. In addition, our increased indebtedness and higher debt-to-equity ratio following the Credo acquisition may have the effect, among other things, of reducing our flexibility to respond to changing business or economic conditions and will increase interest costs. In addition, it is possible that, in connection with the Credo acquisition, our capital expenditures could be higher than we anticipated and that we may not realize the expected benefits of such capital expenditures. Credo’s leased acreage is subject to expiration in the ordinary course of business and as a result the gross and net acres acquired could decrease materially in subsequent reporting periods if delay rentals are not paid or if the acreage is not held by production. As a result of the Credo acquisition, based on the purchase price allocation, we recorded goodwill and other intangibles of approximately $58.4 million. If we are unable to successfully integrate the Credo operations, there can be no assurance that such changes would not materially impact the carrying value of our goodwill.

Our operations are subject to the numerous risks of oil and natural gas drilling and production activities.

Our oil and natural gas drilling and production activities are subject to numerous risks, many of which are beyond our control. These risks include the risk of fire, explosions, blow-outs, pipe failure, abnormally pressured formations and environmental hazards. Environmental hazards include oil spills, gas leaks, ruptures, discharges of toxic gases, underground migration and surface spills or mishandling of any toxic fracture fluids, including chemical additives. In addition, title problems, weather conditions and mechanical difficulties or shortages or delays in delivery of drilling rigs and other equipment could negatively affect our operations. If any of these or other similar industry operating risks occur, we could have substantial losses. Substantial losses also may result from injury or loss of life, severe damage to or destruction of property, clean-up responsibilities, environmental damage, regulatory investigation and penalties and suspension of operations. In accordance with industry practice, we maintain insurance against some, but not all, of the risks described above. We cannot assure you that our insurance will be adequate to cover losses or liabilities. Also, we cannot predict the continued availability of insurance at premium levels that justify its purchase.

Expenditures related to drilling activities could lead to higher levels of indebtedness.

We expect increasing drilling expenditures that we plan to pay for with cash flow from operations and borrowings under our senior secured credit facility. We cannot assure you that we will have sufficient capital resources in the future to finance all of our planned drilling expenditures. If cash flows from operations decrease for any reason, our ability to undertake exploration and development activities could be adversely affected and we may have to borrow additional capital under our credit facility to finance such activities. Such borrowings, if available, could lead to higher levels of indebtedness, limiting our financial and operating flexibility and limiting our ability to comply with the debt covenants under our credit facility.

The lack of availability or high cost of drilling rigs, equipment, supplies, personnel and oil field services could adversely affect our ability to execute our exploitation and development plans on a timely basis and within our budget.

From time to time, there are shortages of drilling rigs, equipment, supplies, oil field services or qualified personnel. During these periods, the costs and delivery times of rigs, equipment and supplies are substantially greater. In addition, the demand for, and wage rates of, qualified drilling rig crews rise as the number of active rigs in service increases. During times and in areas of increased activity, the demand for oilfield services will also likely rise, and the costs of these services will likely increase, while the quality of these services may suffer. If the lack of availability or high cost of drilling rigs, equipment, supplies, oil field services or qualified personnel

 

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were particularly severe in any of our areas of operation, we could be materially and adversely affected. Delays could also have an adverse effect on our results of operations, including the timing of the initiation of production from new wells.

Our drilling operations may be curtailed, delayed or cancelled as a result of a variety of factors that are beyond our control.

Our drilling operations are subject to a number of risks, including:

 

   

unexpected drilling conditions;

 

   

facility or equipment failure or accidents;

 

   

adverse weather conditions;

 

   

title problems;

 

   

unusual or unexpected geological formations;

 

   

fires, blowouts and explosions; and

 

   

uncontrollable flows of oil and natural gas or well fluids.

The occurrence of any of these events could adversely affect our ability to conduct operations or cause substantial losses, including personal injury or loss of life, damage to or destruction of property, natural resources and equipment, pollution or other environmental contamination, loss of wells, regulatory penalties, suspension of operations, and attorney’s fees and other expenses incurred in the prosecution or defense of litigation.

We may not find any commercially productive oil and natural gas reservoirs.

There is no assurance that new wells we drill will be productive or that we will recover all or any portion of our capital investment in the wells. In addition, drilling for oil and natural gas may be unprofitable. Wells that are productive but do not produce sufficient net revenues after drilling, operating and other costs are unprofitable.

Hydraulic fracturing, the process used for extracting oil and natural gas from shale and other formations, has come under increased scrutiny and could be the subject of further regulation that could impact the timing and cost of extractive activities.

Hydraulic fracturing is the primary production method used to extract reserves located in many of the unconventional oil and natural gas plays in the United States. The United States Environmental Protection Agency (the “EPA”) is currently engaged in a long-term study mandated by Congress regarding the potential impacts of hydraulic fracturing on drinking water resources that could influence federal and state legislative and regulatory developments. Pending federal regulatory developments include draft permitting guidance issued by EPA to regulate the underground injection of hydraulic fracturing fluids that use diesel fuel as a fracking fluid or propping agent; EPA air regulations for the oil and natural gas industry, issued in 2012, that among other things include a requirement that, commencing in January 2015, “reduced emissions completion” technology be used after hydraulic fracturing — although in response to a petition challenging these regulations, EPA has filed a motion with the D.C. Circuit to delay the challenges while it reconsiders unspecified aspects of the regulations; and U.S. Department of the Interior, Bureau of Land Management regulations originally proposed in May 2012 but which, in response to public comments, are to be revised and proposed again in the first quarter of 2013, to govern hydraulic fracturing on federal and tribal lands.

Depending on legislation that may ultimately be enacted or regulations that may be adopted at the federal, state and local levels, exploration, exploitation and production activities that entail hydraulic fracturing could be subject to additional regulation and permitting requirements. Individually or collectively, such new legislation or regulation could lead to operational delays, increased costs and other burdens that could delay the development of unconventional oil and natural gas resources from formations that are not commercial without the use of hydraulic fracturing. This could have a material effect on our oil and natural gas production operations and on the operators conducting activities on our minerals and on the cash flows we receive from them.

 

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Volatile oil and natural gas prices could adversely affect our cash flows and results of operations.

Our cash flows and results of operations are dependent in part on oil and natural gas prices, which are volatile. Oil and natural gas prices also impact the amounts we receive for selling and renewing our mineral leases. Moreover, oil and natural gas prices depend on factors we cannot control, such as: changes in foreign and domestic supply and demand for oil and natural gas; actions by the Organization of Petroleum Exporting Countries; weather; political conditions in other oil-producing countries, including the possibility of insurgency or war in such areas; prices of foreign exports; domestic and international drilling activity; price and availability of alternate fuel sources; the value of the U.S. dollar relative to other major currencies; the level and effect of trading in commodity markets; the effect of worldwide energy conservation measures and governmental regulations. Any substantial or extended decline in the price of oil and natural gas could have a negative impact on our business, liquidity, financial condition and results of operations.

Our estimated proved reserves are based on many assumptions that may prove to be inaccurate. Any material inaccuracies in these reserve estimates or underlying assumptions will materially affect the quantities and present value of our reserves and may have a material adverse effect on our financial condition.

The process of estimating oil and natural gas reserves is complex involving decisions and assumptions in evaluating the available geological, geophysical, engineering and economic data. Accordingly, these estimates are imprecise. Actual future production, oil and natural gas prices, revenues, taxes and quantities of recoverable oil and natural gas reserves might vary from those estimated. Any variance could materially affect the estimated quantities and present value of proved reserves. In addition, we may adjust estimates of proved reserves to reflect production history, development, prevailing oil and natural gas prices and other factors, many of which are beyond our control.

The estimates of our reserves as of December 31, 2012 are based upon various assumptions about future production levels, prices and costs that may not prove to be correct over time. In particular, estimates of oil and natural gas reserves, future net revenue from proved reserves and the standardized measure thereof for our oil and natural gas interests are based on the assumption that future oil and natural gas prices remain the same as the twelve month first-day-of-the-month average oil and natural gas prices for the year ended December 31, 2012. The average realized sales prices as of such date used for purposes of such estimates were $3.00 per thousand cubic feet (“mcf”) of natural gas and $89.26 per barrel of oil. The December 31, 2012 estimates also assume that the working interest owners will make future capital expenditures which are necessary to develop and realize the value of proved reserves.

The standardized measure of future net cash flows from our proved reserves is not necessarily the same as the current market value of our estimated reserves.

Any material inaccuracies in reserve estimates or underlying assumptions will materially affect the quantities and present value of our reserves. As required by SEC regulations, we base our present value of estimated future oil and natural gas revenues on prices and costs in effect at the time of the estimate. However, actual future net cash flows from our properties will be affected by numerous factors not subject to our control and will be affected by factors such as:

 

   

decisions and activities of the well operators;

 

   

supply of and demand for oil and natural gas;

 

   

actual prices we receive for oil and natural gas;

 

   

actual operating costs;

 

   

the amount and timing of capital expenditures;

 

   

the amount and timing of actual production; and

 

   

changes in governmental regulations or taxation.

 

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The timing of production will affect the timing of actual future net cash flows from proved reserves, and thus their actual present value. In addition, the 10% discount factor we use when calculating discounted future net cash flow, which is required by the SEC, may not be the most appropriate discount factor based on interest rates in effect from time to time and risks associated with us or the oil and natural gas industry in general. Any material inaccuracies in our reserve estimates or underlying assumptions will materially affect the quantities and present value of our reserves.

Our reserves and production will decline from their current levels.

The rate of production from oil and natural gas properties generally declines as reserves are produced. Our reserves will decline as they are produced which could materially and adversely affect our future cash flow, liquidity and results of operations.

A portion of our oil and natural gas production may be subject to interruptions that could have a material and adverse effect on us.

A portion of oil and natural gas production from our mineral interests may be interrupted, or shut in, from time to time for various reasons, including as a result of accidents, weather conditions, loss of gathering, processing, compression or transportation facility access or field labor issues, or intentionally as a result of market conditions such as oil and natural gas prices that the operators of our mineral leases, whose decisions we do not control, deem uneconomic. If a substantial amount of production is interrupted, our business, liquidity and results of operations could be materially and adversely affected.

We may acquire properties that are not as commercially productive as we initially believed.

From time to time, we seek to acquire oil and natural gas properties. Although we perform reviews of properties to be acquired in a manner that we believe is consistent with industry practices, reviews of records and properties may not necessarily reveal existing or potential problems, nor may they permit a buyer to become sufficiently familiar with the properties in order to assess fully their deficiencies and potential. Even when problems with a property are identified, we may assume environmental and other risks and liabilities in connection with acquired properties pursuant to the acquisition agreements. Moreover, there are numerous uncertainties inherent in estimating quantities of oil and natural gas reserves, actual future production rates and associated costs with respect to acquired properties. Actual reserves, production rates and costs may vary substantially from those assumed in our estimates.

We do not insure against all potential losses and could be materially and adversely affected by unexpected liabilities.

The exploration for, and production of, oil and natural gas can be hazardous, involving natural disasters and other unforeseen occurrences such as blowouts, cratering, fires and loss of well control, which can damage or destroy wells or production facilities, result in injury or death, and damage property and the environment. We maintain insurance against many, but not all, potential losses or liabilities arising from operations on our property in accordance with what we believe are customary industry practices and in amounts and at costs that we believe to be prudent and commercially practicable. In addition, we require third party operators to maintain customary and commercially practicable types and limits of insurance, but potential losses or liabilities may not be covered by such third party’s insurance which may subject us to liability as the mineral estate owner. The occurrence of any of these events and any costs or liabilities incurred as a result of such events could have a material adverse effect on our business, financial condition and results of operations.

We have limited control over the activities on properties we do not operate and are unable to ensure their proper operation and profitability.

The properties in which we have an interest are currently operated by other companies and involve third-party working interest owners. As a result, we have limited ability to influence or control the operation or future

 

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development of such properties, including compliance with environmental, safety and other regulations, or the amount of capital expenditures that we will be required to fund with respect to such properties other than drilling requirements in the lease. Moreover, we are dependent on the other working interest owners of such projects to fund their contractual share of the capital expenditures of such projects. These limitations and our dependence on the operator and other working interest owners for these projects could cause us to incur unexpected future costs and materially and adversely affect our business, liquidity, financial condition and results of operations.

In addition, operators determine when and where to drill wells and we have no influence over these decisions. The success and timing of the drilling and development activities on our properties therefore depends upon a number of factors currently outside of our control, including the operator’s timing and amount of capital expenditures, expertise and financial resources, inclusion of other participants in drilling wells and use of technology, and the operators of our properties may not have the same financial and other resources as other oil and natural gas companies with whom they compete. Further, new wells may not be productive or may not produce at a level to enable us to recover all or any portion of our capital investment where we have a non-operating working interest.

The ability to sell and deliver oil and natural gas produced from wells on our mineral interests could be materially and adversely affected if adequate gathering, processing, compression and transportation services are not obtained.

The sale of oil and natural gas produced from wells on our mineral interests depends on a number of factors beyond our control, including the availability, proximity and capacity of, and costs associated with, gathering, processing, compression and transportation facilities owned by third parties. These facilities may be temporarily unavailable due to market conditions, mechanical reasons or other factors or conditions, and may not be available in the future on terms the operator considers acceptable, if at all. Any significant change in market or other conditions affecting these facilities or the availability of these facilities, including due to the failure or inability to obtain access to these facilities on terms acceptable to the operator or at all, could materially and adversely affect our business, liquidity, financial condition and results of operations.

A significant portion of our Louisiana net mineral acres are subject to prescription of non-use under Louisiana law.

A significant portion of our Louisiana net mineral acres were severed from surface ownership and retained by creation of one or more mineral servitudes shortly before our spin-off. Under Louisiana law, a mineral servitude that is not producing minerals or which has not been the subject of good-faith drilling operations will cease to burden the property upon the tenth anniversary of the date of its creation. Upon such event, the mineral rights effectively will revert to the surface owner and we will no longer own the right to lease, explore for or produce minerals from such acreage.

Our water interests may require governmental permits, the consent of third parties and/or completion of significant transportation infrastructure prior to commercialization, all of which are dependent on the actions of others.

Many jurisdictions require governmental permits to withdraw and transport water for commercial uses, the granting of which may be subject to discretionary determinations by such jurisdictions regarding necessity. In addition, we do not own the executory rights related to our non-participating royalty interest, and as a result, third-party consent from the executor rights owner(s) would be required prior to production. The process to obtain permits can be lengthy, and governmental jurisdictions or third parties from whom we seek permits or consent may not provide the approvals we seek. We may be unable to secure a buyer at commercially economic prices for water that we have a right to extract and transport, and transportation infrastructure across property not owned or controlled by us is required for transport of water prior to commercial use. Such infrastructure can require significant capital and may also require the consent of third parties. We may not have cost effective means to transport water from property we own, lease or manage to buyers. As a result, we may lose some or all of our investment in water assets, or our returns may be diminished.

 

 

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Weather and climate may have a significant and adverse impact on us.

Demand for natural gas is, to a significant degree, dependent on weather and climate, which impacts, among other things, the price we receive for the commodities produced from wells on our mineral interests and, in turn, our cash flow and results of operations. For example, relatively warm temperatures during a winter season generally result in relatively lower demand for natural gas, higher inventory (as less natural gas is used to heat residences and businesses) and, as a result, relatively lower prices for natural gas production.

Also, the EPA has proposed regulations for the purpose of restricting greenhouse gas emissions from stationary sources. Such regulatory and legislative proposals to restrict greenhouse gas emissions, or to address climate change generally, could increase our operating costs as well operators incur costs to comply with new rules. Such increased costs may include installation of new or expanded emissions control systems, purchase of allowances to authorize greenhouse gas emissions, and increased taxes. There also could be an adverse impact on oil and natural gas markets.

Risks Related to Our Fiber Resources Operations

If the International Paper mill complex in Rome, Georgia were to permanently cease operations, the price we receive for our wood fiber may decline, and the cost of delivering logs to alternative customers could increase.

Prior to our 2007 spin-off from Temple-Inland, acquired by International Paper, we entered into an agreement to sell wood fiber to Temple-Inland at market prices, primarily for use at its Rome, Georgia mill complex. The agreement expires at year-end 2013, although we expect to continue sales following expiration of the agreement. A significant portion of our fiber resources revenues are generated through sales to the International Paper Rome, Georgia mill complex, which is a significant consumer of wood fiber within the immediate area in which a substantial portion of our Georgia timberlands are located. If the International Paper mill complex in Rome, Georgia was to permanently cease operations, was not willing to pay for wood fiber at a price we deem acceptable or was to cease purchasing wood fiber from us after the expiration of our agreement at year-end 2013, we may not be able to enter into agreements with alternative customers for the wood fiber, any agreements with alternative customers we do enter into may be for lower rates than we currently receive from International Paper and the cost of delivering wood fiber to such alternative customers could increase.

Our ability to harvest and deliver timber may be affected by our sales of timberland and may be subject to other limitations, which could adversely affect our operations.

We have sold over 217,000 acres of our timberland in accordance with our near-term strategic initiatives announced in 2009 and from our retail sales program, and we now own directly or through ventures about 121,000 acres with timber. Sales of our timberland reduce the amount of timber that we have available for harvest.

In addition, weather conditions, timber growth cycles, access limitations, availability of contract loggers and haulers, and regulatory requirements associated with the protection of wildlife and water resources may restrict harvesting of timberlands as may other factors, including damage by fire, insect infestation, disease, prolonged drought, flooding and other natural disasters. Although damage from such natural causes usually is localized and affects only a limited percentage of the timber, there can be no assurance that any damage affecting our timberlands will in fact be so limited. As is common in the forest products industry, we do not maintain insurance coverage with respect to damage to our timberlands.

The revenues, income and cash flow from operations for our fiber resources segment are dependent to a significant extent on the pricing of our products and our continued ability to harvest timber at adequate levels.

Other Risks

The market price of our common stock may fluctuate significantly

The market price of our common stock may be volatile in response to a number of factors, many of which are beyond our control, including actual or anticipated variations in our quarterly financial results, changes in

 

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financial estimates for us by securities analysts and announcements by our competitors of significant acquisitions, strategic partnerships, joint ventures or capital commitments. Our financial results may be below the expectations of securities analysts and investors. If this were to occur, the market price of our common stock could decrease, perhaps significantly. Any volatility or a significant decrease in the market price of our common stock could also negatively affect our ability to make acquisitions using shares of our common stock as consideration.

U.S. securities markets have experienced significant price and volume fluctuations. These fluctuations often have been unrelated to the operating performance of companies in these markets. Broad market and industry factors may negatively affect the market price of our common stock, regardless of our operating performance. If were to be the object of securities class action litigation as a result of volatility in our common stock price or for other reasons, it could result in substantial costs and diversion of our management’s attention and resources, which could negatively affect our financial results.

Provisions of Delaware law, our charter documents, our shareholder rights plan and the indenture governing the convertible senior notes may impede or discourage a takeover, which could cause the market price of our common stock to decline.

We are a Delaware corporation, and the anti-takeover provisions of Delaware law impose various impediments to the ability of a third party to acquire control of us, even if a change in control would be beneficial to our existing stockholders. In addition, our board of directors has the power, without stockholder approval, to designate the terms of one or more series of preferred stock and issue shares of preferred stock. We have implemented a shareholders’ rights plan, called a poison pill, which would substantially reduce or eliminate the expected economic benefit to an acquirer from acquiring us in a manner or terms not approved by our board of directors. These and other impediments to third party acquisition or change of control could limit the price investors are willing to pay for shares of our common stock, which could in turn reduce the market price of our common stock.

The repurchase rights in the convertible senior notes triggered by the occurrence of a fundamental change under the terms of the notes, as well as the additional shares of our common stock by which the conversion rate is increased in connection with certain make-whole fundamental change transactions under the terms of the notes could discourage a potential acquirer.

 

Item 1B. Unresolved Staff Comments.

None.

 

Item 2. Properties.

Our principal executive offices are located in Austin, Texas, where we lease approximately 32,000 square feet of office space. We also lease office space in Atlanta, Georgia; Dallas, Texas; Denver, Colorado; Fort Worth, Texas; and Lufkin, Texas. We believe these offices are suitable for conducting our business.

For a description of our properties in our real estate, mineral resources and fiber resources segments, see “Business — Real Estate”, “Business — Mineral Resources” and “Business — Fiber Resources”, respectively, in Part I, Item 1 of this Annual Report on Form 10-K.

 

Item 3. Legal Proceedings.

We are involved directly or through ventures in various legal proceedings that arise from time to time in the ordinary course of doing business. We believe we have established adequate reserves for any probable losses and that the outcome of any of the proceedings should not have a material adverse effect on our financial position or long-term results of operations or cash flows. It is possible, however, that charges related to these matters could be significant to results of operations or cash flow in any single accounting period.

 

Item 4. Mine Safety Disclosures.

Not Applicable.

 

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PART II

 

Item 5. Market for Registrant’s Common Equity, Related Stockholder Matters and Issuer Purchases of Equity Securities.

Market Information

Our common stock is traded on the New York Stock Exchange. The high and low sales prices in each quarter in 2012 and 2011 were:

 

     2012      2011  
     Price Range      Price Range  
     High      Low      High      Low  

First Quarter

   $ 17.12       $ 13.87       $ 20.77       $ 17.75   

Second Quarter

     15.97         12.00         19.95         14.64   

Third Quarter

     18.63         11.13         17.59         10.29   

Fourth Quarter

     17.80         13.61         15.95         9.94   

For the Year

     18.63         11.13         20.77         9.94   

Shareholders

Our stock transfer records indicated that as of March 11, 2013, there were approximately 3,669 holders of record of our common stock.

Dividend Policy

We currently intend to retain any future earnings to support our business and do not anticipate paying cash dividends in the foreseeable future. The declaration and payment of any future dividends will be at the discretion of our Board of Directors after taking into account various factors, including without limitation, our financial condition, earnings, capital requirements of our business, the terms of any credit agreements to which we may be a party at the time, legal requirements, industry practice, and other factors that our Board of Directors deems relevant.

Issuer Purchases of Equity Securities(a)

 

Period

   Total
Number of
Shares
Purchased(b)
     Average
Price Paid
per Share
     Total Number
of Shares
Purchased as
Part of
Publicly
Announced
Plan or
Programs
     Maximum
Number of
Shares That
May Yet be
Purchased
Under the
Plans or
Programs
 

Month 1 (10/1/2012 — 10/31/2012)

           $                 5,092,305   

Month 2 (11/1/2012 — 11/30/2012)

     28,881       $ 14.73         25,000         5,067,305   

Month 3 (12/1/2012 — 12/31/2012)

     70,097       $ 14.99         69,450         4,997,855   
  

 

 

       

 

 

    

Total

     98,978            94,450      
  

 

 

       

 

 

    

 

 

 

(a) 

On February 11, 2009, we announced that our Board of Directors authorized the repurchase of up to 7,000,000 shares of our common stock. We have purchased 2,002,145 shares under this authorization, which has no expiration date. We have no repurchase plans or programs that expired during the period covered by the table above and no repurchase plans or programs that we intend to terminate prior to expiration or under which we no longer intend to make further purchases.

 

(b) 

Includes shares withheld to pay taxes in connection with vesting of restricted stock awards and exercises of stock options.

 

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Performance Graph

In 2012, we changed our peer group to represent a mix of real estate and oil and gas exploration companies following our acquisition of Credo. We composed an index of our peers consisting of AV Homes Inc., Matador Resources Co., Approach Resources, Inc., Bluegreen Corporation, BRE Properties, Inc., Consolidated-Tomoka Land Co., Cousins Properties Incorporated, Contango Oil and Gas Co., Goodrich Petroleum Corp., Magnum Hunter Resources Corp., Penn Virginia Corp., Petroquest Energy Inc., Post Properties, Inc., Potlatch Corporation, Resolute Energy Corp., The St. Joe Company, and Tejon Ranch Co. Our old custom peer group (Old Custom Peer Index) consisted of Avatar Holdings Inc., Consolidated-Tomoka Land Co., Tejon Ranch Co. and The St. Joe Company. Our cumulative total shareholder return for the last five years compared to the Russell 2000 Index, New Custom Peer Index, and to the Old Custom Peer Index was as shown in the following graph (assuming $100 invested on January 1, 2008):

 

LOGO

Pursuant to SEC rules, returns of each of the companies in the Peer Index are weighted according to the respective company’s stock market capitalization at the beginning of each period for which a return is indicated.

 

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Item 6. Selected Financial Data.

 

     For the Year  
     2012     2011     2010     2009     2008  
     (In thousands, except per share amount)  

Revenues:

          

Real estate

   $ 120,115      $ 106,168      $ 68,269      $ 94,436      $ 98,859   

Mineral resources

     44,220        24,584        24,790        36,256        47,671   

Fiber resources

     8,256        4,821        8,301        15,559        13,192   
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Total revenues

   $ 172,591      $ 135,573      $ 101,360      $ 146,251      $ 159,722   
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Segment earnings (loss):

          

Real estate(a)

   $ 53,582      $ (25,704   $ (4,634   $ 3,182      $ 9,075   

Mineral resources

     21,581        16,023        22,783        32,370        44,076   

Fiber resources

     5,056        1,893        5,058        9,622        8,896   
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Total segment earnings (loss)

     80,219        (7,788     23,207        45,174        62,047   

Items not allocated to segments:

          

General and administrative expense(b)

     (25,176     (20,110     (17,341     (22,399     (19,318

Share-based compensation expense

     (14,929     (7,067     (11,596     (11,998     (4,516

Gain on sale of assets(c)

     16        61,784        28,607        104,047          

Interest expense

     (19,363     (17,012     (16,446     (20,459     (21,283

Other corporate non-operating income(d)

     191        368        1,164        375        279   
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Income before taxes

     20,958        10,175        7,595        94,740        17,209   

Income tax expense

     (8,016     (3,021     (2,470     (35,633     (5,235
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Net income attributable to Forestar Group Inc.

   $ 12,942      $ 7,154      $ 5,125      $ 59,107      $ 11,974   
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Diluted net income per common share

   $ 0.36      $ 0.20      $ 0.14      $ 1.64      $ 0.33   

Average diluted common shares outstanding

     35,482        35,781        36,377        36,102        35,892   

At year-end:

          

Assets

   $ 918,434      $ 794,857      $ 789,324      $ 784,734      $ 834,576   

Debt

   $ 294,063      $ 221,587      $ 221,589      $ 216,626      $ 337,402   

Noncontrolling interest

   $ 4,059      $ 1,686      $ 4,715      $ 5,879      $ 6,600   

Forestar Group Inc. shareholders’ equity

   $ 529,488      $ 509,526      $ 509,564      $ 512,456      $ 447,292   

Ratio of total debt to total capitalization

     36     30     30     30     43

 

 

 

(a) 

Real estate segment earnings (loss) include non-cash impairments of $45,188,000 in 2011, $11,271,000 in 2010, $10,619,000 in 2009 and $3,325,000 in 2008. Real estate segment earnings (loss) also include the effects of net (income) loss attributable to noncontrolling interests.

 

(b) 

In 2012, general and administrative expense includes $6,323,000 in costs associated with our acquisition of Credo and in 2011, includes $3,187,000 associated with proposed private debt offerings that we withdrew as a result of deterioration of terms available to us in the credit markets.

 

(c) 

Gain on sale of assets in 2011, 2010 and 2009 represents gains from timberland sales in accordance with our strategic initiatives announced first quarter 2009 and completed in 2011.

 

(d) 

In 2010, other corporate non-operating income principally represents interest income related to a loan to a third-party equity investor in the resort development located at our Cibolo Canyons development. We received payment in full plus interest in fourth quarter 2010.

 

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Item 7.    Management’s Discussion and Analysis of Financial Condition and Results of Operations.

Forward-Looking Statements

This Annual Report on Form 10-K and other materials we have filed or may file with the Securities and Exchange Commission contain “forward-looking statements” within the meaning of the federal securities laws. These forward-looking statements are identified by their use of terms and phrases such as “believe,” “anticipate,” “could,” “estimate,” “likely,” “intend,” “may,” “plan,” “expect,” and similar expressions, including references to assumptions. These statements reflect our current views with respect to future events and are subject to risk and uncertainties. We note that a variety of factors and uncertainties could cause our actual results to differ significantly from the results discussed in the forward-looking statements. Factors and uncertainties that might cause such differences include, but are not limited to:

 

   

general economic, market or business conditions in Texas or Georgia, where our real estate activities are concentrated;

 

   

our ability to achieve some or all of our strategic initiatives;

 

   

the opportunities (or lack thereof) that may be presented to us and that we may pursue;

 

   

our ability to hire and retain key personnel;

 

   

significant customer concentration;

 

   

future residential, multifamily or commercial entitlements, development approvals and the ability to obtain such approvals;

 

   

obtaining approvals of reimbursements and other payments from special improvement districts and timing of such payments;

 

   

accuracy of estimates and other assumptions related to investment in real estate, the expected timing and pricing of land and lot sales and related cost of real estate sales, impairment of long-lived assets, income taxes, share-based compensation and oil and natural gas reserves;

 

   

the levels of resale housing inventory and potential impact of foreclosures in our mixed-use development projects and the regions in which they are located;

 

   

fluctuations in costs and expenses;

 

   

demand for new housing, which can be affected by a number of factors including the availability of mortgage credit;

 

   

competitive actions by other companies;

 

   

changes in governmental policies, laws or regulations and actions or restrictions of regulatory agencies;

 

   

our realization of the expected benefits of acquiring CREDO Petroleum Corporation (Credo);

 

   

risks associated with oil and natural gas drilling production activities;

 

   

fluctuations in oil and natural gas commodity prices;

 

   

government regulation of exploration and production technology, including hydraulic fracturing;

 

   

the results of financing efforts, including our ability to obtain financing with favorable terms, or at all;

 

   

our ability to make interest and principal payments on our debt and satisfy the other covenants contained in our senior credit facility, indenture and other debt agreements;

 

   

our partners’ ability to fund their capital commitments and otherwise fulfill their operating and financial obligations;

 

   

the effect of limitations, restrictions and natural events on our ability to harvest and deliver timber;

 

   

inability to obtain permits for, or changes in laws, governmental policies or regulations effecting, water withdrawal or usage;

 

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the final resolutions or outcomes with respect to our contingent and other liabilities related to our business; and

 

   

our ability to execute our growth strategy and deliver acceptable returns from acquisitions and other investments.

Other factors, including the risk factors described in Item 1A of this Annual Report on Form 10-K, may also cause actual results to differ materially from those projected by our forward-looking statements. New factors emerge from time to time and it is not possible for us to predict all such factors, nor can we assess the impact of any such factor on our business or the extent to which any factor, or combination of factors, may cause results to differ materially from those contained in any forward-looking statement.

Any forward-looking statement speaks only as of the date on which such statement is made, and, except as required by law, we expressly disclaim any obligation or undertaking to disseminate any updates or revisions to any forward-looking statement to reflect events or circumstances after the date on which such statement is made or to reflect the occurrence of unanticipated events.

Strategy

Our strategy is:

 

   

Recognizing and responsibly delivering the greatest value from every acre; and

 

   

Growing through strategic and disciplined investments.

2012 Strategic Initiatives

In 2012, we announced Triple in FOR, new strategic initiatives designed to further enhance shareholder value by:

 

   

Accelerating value realization of our real estate and natural resources by increasing total residential lot sales, oil and natural gas production, and total segment EBITDA.

 

   

Optimizing transparency and disclosure by expanding reported oil and natural gas resources, providing additional information related to groundwater interests, and establishing a progress report on corporate responsibility efforts.

 

   

Raising our net asset value through strategic and disciplined investments by pursuing growth opportunities which help prove up our asset value and meet return expectations, developing a low-capital, high-return multifamily business, and accelerating investment in lower-risk oil and natural gas opportunities.

Strategic Acquisition

On September 28, 2012, we acquired 100 percent of the outstanding common stock of Credo in an all cash transaction for $14.50 per share, representing an equity purchase price of approximately $146,445,000. In addition, we paid in full $8,770,000 of Credo’s outstanding debt. Credo is an independent oil and natural gas exploration, development and production company based in Denver, Colorado. The acquired assets include leasehold interests in the Bakken and Three Forks formations of North Dakota, the Lansing – Kansas City formation in Kansas and Nebraska, and the Tonkawa and Cleveland formations in Texas.

 

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Results of Operations for the Years Ended 2012, 2011 and 2010

A summary of our consolidated results by business segment follows:

 

     For the Year  
     2012     2011     2010  
     (In thousands)  

Revenues:

      

Real estate

   $ 120,115      $ 106,168      $ 68,269   

Mineral resources

     44,220        24,584        24,790   

Fiber resources

     8,256        4,821        8,301   
  

 

 

   

 

 

   

 

 

 

Total revenues

   $ 172,591      $ 135,573      $ 101,360   
  

 

 

   

 

 

   

 

 

 

Segment earnings (loss):

      

Real estate

   $ 53,582      $ (25,704   $ (4,634

Mineral resources

     21,581        16,023        22,783   

Fiber resources

     5,056        1,893        5,058   
  

 

 

   

 

 

   

 

 

 

Total segment earnings (loss)

     80,219        (7,788     23,207   

Items not allocated to segments:

      

General and administrative expense

     (25,176     (20,110     (17,341

Share-based compensation expense

     (14,929     (7,067     (11,596

Gain on sale of assets

     16        61,784        28,607   

Interest expense

     (19,363     (17,012     (16,446

Other corporate non-operating income

     191        368        1,164   
  

 

 

   

 

 

   

 

 

 

Income before taxes

     20,958        10,175        7,595   

Income tax expense

     (8,016     (3,021     (2,470
  

 

 

   

 

 

   

 

 

 

Net income attributable to Forestar Group Inc.

   $ 12,942      $ 7,154      $ 5,125   
  

 

 

   

 

 

   

 

 

 

Significant aspects of our results of operations follow:

2012

 

   

Real estate segment earnings benefited from a $11,675,000 gain from the sale of our 25 percent ownership interest in Palisades West LLC, a $10,180,000 gain from the sale of Broadstone Memorial, a 401-unit multifamily investment property in Houston, $8,247,000 in earnings from an unconsolidated venture’s sale of Las Brisas, a 414-unit multifamily property near Austin, a $3,401,000 gain from a consolidated venture’s bulk sale of 800 acres near Dallas, and increased residential lot and commercial tract sales activity.

 

   

Mineral resources segment earnings benefited from increased lease bonus revenues, higher production volume and earnings attributable to our exploration and production operations from our acquisition of Credo in third quarter 2012, partially offset by lower oil and natural gas prices, increased costs associated with developing our water resources initiatives, and increased depletion and production severance taxes due to higher production volumes.

 

   

Fiber resources segment earnings increased principally as a result of higher levels of harvesting activity.

 

   

General and administrative expense includes $6,323,000 in transaction costs paid to outside advisors associated with our acquisition of Credo in 2012.

 

   

Share-based compensation increased principally as a result of our higher stock price in 2012 and its impact on cash-settled awards.

 

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Interest expense includes a $4,448,000 loss on extinguishment of debt in connection with the amendment and extension of our term loan.

2011

 

   

Real estate segment earnings were negatively impacted by $45,188,000 of non-cash impairment charges principally associated with residential development projects located near Atlanta, Denver, and the Texas gulf coast and with our decision to acquire certain assets from CL Realty and TEMCO, ventures in which we own a 50 percent interest. Segment earnings were positively impacted by increased undeveloped land sales and higher residential lot and tract sales. In addition, segment earnings were positively impacted by $3,083,000 as result of settled litigation and reallocation from us to noncontrolling financial interests of a previously recognized loss related to foreclosure of a lien on a property owned by a consolidated venture.

 

   

Mineral resources segment earnings declined primarily due to lower lease bonus revenues and increased costs associated with developing our water resources initiatives. These items were partially offset by increased oil production volumes and higher average oil prices.

 

   

Fiber resources segment earnings decreased principally due to lower harvest volume as a result of selling over 217,000 acres of timberland since year-end 2008.

 

   

General and administrative expenses includes $3,187,000 in costs paid to outside advisors associated with proposed private debt offerings that we withdrew as a result of deterioration of terms available to us in the credit markets.

 

   

Share-based compensation decreased principally as a result of a decline in our stock price in 2011 and its impact on cash-settled awards.

 

   

Gain on sale of assets represents the sale of about 57,000 acres of timberland for $87,061,000 in accordance with our 2009 strategic initiatives which we completed in 2011.

2010

 

   

Real estate segment earnings declined principally due to lower undeveloped land sales from our retail sales program and $11,271,000 of non-cash impairment charges principally associated with residential development projects located near Atlanta and Fort Worth, and commercial real estate tract near the Texas gulf coast.

 

   

Mineral resources segment earnings declined principally due to lower lease bonus revenues as a result of reduced leasing activity by exploration and production companies that concentrated investments in drilling activities to hold existing leases rather than leasing new mineral interests in our basins. This decline in lease bonus revenue was partially offset by increased oil and natural gas production and higher oil prices.

 

   

Fiber resources segment earnings decreased principally due to reduced harvest activity resulting from the sale of over 140,000 acres of timberland since first quarter 2009 and delaying harvest plans on about 55,000 acres classified as held for sale.

 

   

Gain on sale of assets represents the sale of about 24,000 acres of timberland for $38,778,000 in accordance with our 2009 strategic initiatives.

 

   

Interest expense decreased principally due to lower interest rates as a result of the maturity of our interest rate swap agreement, lower average debt levels outstanding and decreased amortization of prepaid loan fees due to refinancing and extending the maturity date of our senior credit facility.

Current Market Conditions

Current U.S. single-family residential market conditions are showing signs of stability with improvement in various markets; however, high unemployment rates, difficult financing environment for purchasers and competition from foreclosure inventory continue to negatively influence housing markets. It is difficult to predict

 

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when and at what rate these broader negative conditions will improve. Declining finished lot inventories and lack of real estate development is increasing demand for our developed lots, principally in the Texas markets. Multifamily market conditions continue to be strong, with many markets experiencing healthy occupancy levels and positive rent growth. This improvement has been driven primarily by limited new construction activity, reduced single-family mortgage credit availability, and the increased propensity to rent among the 18 to 34 year old demographic of the U.S. population.

Oil prices have weakened as compared with 2011 reflecting market concerns about world economic activity and oil demand. Natural gas prices have remained near low historical levels due to abundant supplies and high inventories. Shale resource drilling and production remains strong and working natural gas inventories are expected to remain relatively high. In the East Texas Basin, exploration and production companies continue to focus drilling on high liquid rich gas prospects due to relatively high condensate and natural gas liquid prices. In the Gulf Coast Basin, in Louisiana, activity has increased as operators have shifted exploration efforts to oil and high liquid natural gas plays. These conditions may impact the demand for new mineral leases on our owned minerals, new exploration activity and the amount of revenues we receive.

Pine sawtimber prices are beginning to show signs of improvement due to increased demand for solid wood products, principally lumber, while pine pulpwood demand remains steady and pricing is relatively flat.

Business Segments

We manage our operations through three business segments:

 

   

Real estate,

 

   

Mineral resources, and

 

   

Fiber resources.

We evaluate performance based on earnings before unallocated items and income taxes. Segment earnings (loss) consist of operating income, equity in earnings (loss) of unconsolidated ventures’, gain on sale of assets, interest income on loans secured by real estate and net (income) loss attributable to noncontrolling interests. Items not allocated to our business segments consist of general and administrative expenses, share-based compensation, gain on sale of strategic timberland, interest expense and other corporate non-operating income and expense. The accounting policies of the segments are the same as those described in the accounting policy note to the consolidated financial statements.

We operate in cyclical industries. Our operations are affected to varying degrees by supply and demand factors and economic conditions including changes in interest rates, availability of mortgage credit, consumer and home builder sentiment, new housing starts, real estate values, employment levels, changes in the market prices for oil, natural gas, and timber, and the overall strength or weakness of the U.S. economy.

Real Estate

We own directly or through ventures about 136,000 acres of real estate located in 10 states and 14 markets. Our real estate segment secures entitlements and develops infrastructure on our lands, primarily for single-family residential and mixed-use communities. We own nearly 100,000 acres in a broad area around Atlanta, Georgia, with the balance located primarily in Texas. We target investments principally in our strategic growth corridors, regions across the southern half of the United States that possess key demographic and growth characteristics that we believe make them attractive for long-term real estate investment. We own and manage our projects either directly or through ventures. Our real estate segment revenues are principally derived from the sales of residential single-family lots and tracts, undeveloped land and commercial real estate and from the operation of income producing properties, primarily a hotel and multifamily properties we develop.

 

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A summary of our real estate results follows:

 

     For the Year  
     2012     2011     2010  
     (In thousands)  

Revenues

   $ 120,115      $ 106,168      $ 68,269   

Cost of sales

     (70,039     (62,975     (45,485

Operating expenses

     (34,160     (36,184     (29,338
  

 

 

   

 

 

   

 

 

 
     15,916        7,009        (6,554

Interest income on loan secured by real estate

     3,430                 

Gain on sale of assets

     25,273                 

Equity in earnings (loss) of unconsolidated ventures

     13,897        (30,626     2,629   

Less: Net income attributable to noncontrolling interests

     (4,934     (2,087     (709
  

 

 

   

 

 

   

 

 

 

Segment earnings (loss)

   $ 53,582      $ (25,704   $ (4,634
  

 

 

   

 

 

   

 

 

 

In 2012, cost of sales include $10,977,000 related to multifamily construction contract costs we incurred as general contractor and paid to sub-contractors associated with our development of two multifamily properties. We did not have any non-cash impairment charges in 2012. Cost of sales includes non-cash impairment charges of $11,525,000 in 2011 principally associated with owned and consolidated residential development projects near Denver and the Texas gulf coast and $9,042,000 in 2010 principally associated with owned and consolidated residential development projects located near Atlanta and Fort Worth.

Interest income represents earnings from a loan we hold secured by a mixed-use community in Houston in which we have a first lien position.

In 2012, gain on sale of assets principally includes a $11,675,000 gain from the sale of our 25 percent ownership interest in Palisades West LLC, a $10,180,000 gain from the sale of Broadstone Memorial, a 401-unit multifamily investment property in Houston and a $3,401,000 gain from a consolidated venture’s bulk sale of 800 acres in Dallas.

In 2012, segment results include $8,247,000 in earnings associated with an unconsolidated venture’s sale of Las Brisas, a 414-unit multifamily property near Austin, for $40,400,000. Equity in earnings from unconsolidated ventures includes $11,013,000 in earnings related to this sale, of which ($2,766,000) was allocated to net income attributable to noncontrolling interests.

Equity in earnings (loss) of unconsolidated ventures include non-cash impairment charges of $33,663,000 in 2011 principally associated with our decision to acquire certain assets from CL Realty and TEMCO ventures and $2,229,000 in 2010 principally related to a commercial real estate tract located near the Texas gulf coast. In 2011 as a result of entering into the agreement with CL Realty to acquire certain assets, we offset $2,164,000 of deferred gains against our share of venture losses. In 2010, equity in earnings (loss) of unconsolidated ventures includes about $4,869,000 in gains that were previously deferred by us due to our continuing involvement with the property which was sold to a third party.

In 2011, segment earnings (loss) include a benefit of $1,741,000 as a result of settled litigation and $1,342,000 associated with reallocation of a previously recognized loss related to a foreclosure of a lien on a property owned by a consolidated venture. We allocated this loss to the noncontrolling financial interests as we believed the likelihood we will be subject to any potential lender liabilities related to this foreclosure is remote.

 

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Revenues in our owned and consolidated ventures consist of:

 

     For the Year  
     2012      2011      2010  
     (In thousands)  

Residential real estate

   $ 51,369       $ 36,586       $ 24,540   

Commercial real estate

     8,320         736         352   

Undeveloped land

     18,924         40,517         20,111   

Income producing properties

     38,656         26,820         21,225   

Other

     2,846         1,509         2,041   
  

 

 

    

 

 

    

 

 

 

Total revenues

   $ 120,115       $ 106,168       $ 68,269   
  

 

 

    

 

 

    

 

 

 

Residential real estate revenues principally consist of the sale of single-family developed lots to national, regional and local homebuilders. In 2012 and 2011, residential real estate revenues increased principally as a result of higher lot sales volume due to demand for finished lot inventory by homebuilders in markets where supply has diminished. In 2010, residential real estate revenues declined principally as a result of decreased demand for single-family lots due to the overall decline in the housing industry.

In 2012, commercial tract sales benefited from increased demand in our Texas markets as commercial credit became more readily available to third-party purchasers. In 2012, we sold about 83 commercial acres for $9,551,000 or $114,800 per acre from our owned and consolidated projects located in San Antonio, Houston, Dallas and Fort Worth, of which, $929,000 of profit was deferred as result of our continued involvement in post-closing construction obligations and will be recognized using the percentage of completion method. These sales generated combined segment earnings of $5,359,000. In 2011 and 2010, commercial real estate revenues were negatively impacted by limited availability of commercial real estate acquisition and development mortgages to potential third-party purchasers.

Market conditions for undeveloped land sales under our retail sales program remained challenging due to limited credit availability, low consumer confidence and alternate investment options to buyers in the marketplace. In 2012, undeveloped land sales include the sale of about 6,800 acres for $12,800,000 in three retail transactions resulting in combined segment earnings of about $9,700,000. In 2011, undeveloped land sales increased principally due to the sale of about 9,700 acres for $17,980,000. This sale represented a retail transaction of several non-contiguous tracts and resulted in segment earnings of about $13,396,000. In 2010, the average price per acre sold increased principally as a result of selling about 700 acres of land in the entitlement process for about $8,200 per acre.

In 2012, income producing properties revenue increased primarily as a result of construction revenues of $11,500,000 associated with our multifamily guaranteed maximum price construction contracts as general contractor. We are reimbursed for costs paid to sub-contractors plus earn a development and construction fee, and the sum of which is included in income producing properties revenue. In addition, 2012 and 2011 income producing revenues increased when compared with 2010 as a result of acquisitions and rent growth from a 401-unit multifamily investment property located in Houston, Texas, which was sold in 2012.

In 2012, other revenues include $1,611,000, from selling 11 acres of impervious cover rights to homebuilders resulting in about $1,416,000 in segment earnings.

 

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Units sold in our owned and consolidated ventures consist of:

 

     For the Year  
     2012      2011      2010  

Residential real estate:

        

Lots sold

     926         567         442   

Average price per lot sold

   $ 52,016       $ 56,697       $ 55,076   

Commercial real estate:

        

Acres sold

     83.2         4.0         2.4   

Average price per acre sold

   $ 114,846       $ 185,344       $ 146,047   

Undeveloped land:

        

Acres sold

     9,190         17,130         5,812   

Average price per acre sold

   $ 2,059       $ 2,365       $ 3,460   

Operating expenses consist of:

 

     For the Year  
     2012      2011      2010  
     (In thousands)  

Employee compensation and benefits

   $ 10,261       $ 7,798       $ 6,188   

Property taxes

     7,903         7,881         7,205   

Depreciation and amortization

     4,340         5,259         2,924   

Professional services

     4,050         4,938         4,471   

Environmental

     173         2,652         148   

Other

     7,433         7,656         8,402   
  

 

 

    

 

 

    

 

 

 

Total operating expenses

   $ 34,160       $ 36,184       $ 29,338   
  

 

 

    

 

 

    

 

 

 

In 2012, employee compensation and benefits increased primarily due to higher incentive compensation as a result of our improved operating results and value creation activities. In 2011, employee compensation and benefits increased principally due to developing and staffing our multifamily organization. In 2011, depreciation and amortization increased primarily as a result of a 401-unit multifamily investment property acquired in 2010 which we sold in 2012. In 2011, environmental costs increased principally as a result of a $2,500,000 charge related to environmental remediation activities at our San Joaquin River project located in Antioch, California.

 

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Information about our real estate projects and our real estate ventures follows:

 

     Year-End  
     2012      2011  

Owned and consolidated ventures:

     

Entitled, developed and under development projects

     

Number of projects

     67         54   

Residential lots remaining

     20,084         18,344   

Commercial acres remaining

     2,051         1,849   

Undeveloped land and land in the entitlement process

     

Number of projects

     15         16   

Acres in entitlement process

     26,070         27,590   

Acres undeveloped

     89,610         96,877   

Ventures accounted for using the equity method:

     

Ventures’ lot sales (for the year)

     

Lots sold

     439         550   

Average price per lot sold

   $ 52,080       $ 37,729   

Ventures’ entitled, developed and under development projects

     

Number of projects

     7         21   

Residential lots remaining

     3,716         8,767   

Commercial acres sold (for the year)

     12         22   

Average price per acre sold

   $ 239,754       $ 195,230   

Commercial acres remaining

     321         617   

Ventures’ undeveloped land and land in the entitlement process

     

Acres sold (for the year)

     135         19   

Average price per acre sold

   $ 2,600       $ 3,000   

Acres undeveloped

     5,655         5,790   

We underwrite real estate development projects based on a variety of assumptions incorporated into our development plans, including the timing and pricing of sales and leasing and costs to complete development. Our development plans are periodically reviewed in comparison to our return projections and expectations, and we may revise our plans as business conditions warrant. If as a result of changes to our development plans the anticipated future net cash flows are reduced such that our basis in a project is not fully recoverable, we may be required to recognize a non-cash impairment charge for such project.

In 2012, we acquired from CL Realty and Temco, 14 entitled, developed and under development projects and interests in three ventures accounted for using the equity method. The acquired assets represented approximately 1,130 fully developed lots, 4,900 planned lots, and over 460 commercial acres at time of acquisition, principally in the major markets of Texas. We also acquired two multifamily development sites in Charlotte and Nashville for $16,651,000 and one single-family project in North Dallas for $8,951,000. In addition, we completed the construction on a 289-unit multifamily project in Austin and at year-end 2012 our investment in this project was $30,057,000. This property is being marketed for sale and is targeted to close in the first half of 2013.

 

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Our net investment in owned and consolidated real estate by geographic location follows:

 

State

   Entitled,
Developed,
and Under
Development
Projects
     Undeveloped
Land and
Land in
Entitlement
     Income
Producing
Properties
     Total  
     (In thousands)  

Texas

   $ 301,879       $ 9,385       $ 55,259       $ 366,523   

Georgia

     23,467         56,622                 80,089   

Colorado

     21,290                         21,290   

California

     8,915         15,362                 24,277   

Tennessee

                     11,422         11,422   

North Carolina

                     5,954         5,954   

Other

     6,276         1,319                 7,595   
  

 

 

    

 

 

    

 

 

    

 

 

 

Total

   $ 361,827       $ 82,688       $ 72,635       $ 517,150   
  

 

 

    

 

 

    

 

 

    

 

 

 

Over 70% of our net investment in real estate is in the major markets of Texas.

Mineral Resources

We lease portions of our 590,000 net mineral acres owned located principally in Texas, Louisiana, Georgia and Alabama to oil and natural gas companies in return for lease bonus, delay rental and royalty revenues and may exercise an option to participate in oil and natural gas production that may be discovered on our acreage. At year-end 2012, we have about 29,000 net acres under lease and about 39,000 net acres held by production by third-parties.

On September 28, 2012, we acquired 100 percent of the outstanding common stock of Credo in an all cash transaction for $14.50 per share, representing an equity purchase price of approximately $146,445,000. In addition, we paid in full $8,770,000 of Credo’s outstanding debt. Credo is an independent oil and natural gas exploration, development and production company based in Denver, Colorado. The acquired assets include leasehold interests in the Bakken and Three Forks formations of North Dakota, the Lansing – Kansas City formation in Kansas and Nebraska, and the Tonkawa and Cleveland formations in Texas.

With this acquisition we now own working interests in about 394 gross oil and natural gas wells, of which 136 are operated by us. These leasehold interests include approximately 6,000 net mineral acres in the Bakken and Three Forks formations. At year-end 2012, the assets represent approximately 162,000 net mineral acres leased from others and overriding royalty interests, of which 37,000 are held by production. In fourth quarter 2012, the operations from this acquisition generated approximately $10,134,000 in revenues and $2,040,000 in segment earnings.

A summary of our mineral resources results follows:

 

     For the Year  
     2012     2011     2010  
     (In thousands)  

Revenues

   $ 44,220      $ 24,584      $ 24,790   

Cost of sales

     (12,176     (2,918     (1,097

Operating expenses

     (10,972     (7,037     (2,982
  

 

 

   

 

 

   

 

 

 
     21,072        14,629        20,711   

Equity in earnings of unconsolidated ventures

     509        1,394        2,072   
  

 

 

   

 

 

   

 

 

 

Segment earnings

   $ 21,581      $ 16,023      $ 22,783   
  

 

 

   

 

 

   

 

 

 

Cost of sales represents our share of oil and natural gas production severance taxes, which are calculated based on a percentage of oil and natural gas produced, exploration expenses, depletion and costs related to our oil

 

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and natural gas working interests and delay rental payments related to groundwater leases in central Texas. In 2012, cost of sales includes $6,892,000 related to our acquisition of Credo at third quarter-end 2012.

Equity in earnings of unconsolidated ventures includes our share of royalty revenue from producing wells in the Barnett Shale natural gas formation.

Revenues consist of:

 

     For the Year  
     2012      2011      2010  
     (In thousands)  

Royalties

   $ 23,553       $ 18,079       $ 13,073   

Working interests

     12,650         1,160         651   

Other lease revenues

     8,017         5,345         11,066   
  

 

 

    

 

 

    

 

 

 

Total revenues

   $ 44,220       $ 24,584       $ 24,790   
  

 

 

    

 

 

    

 

 

 

In 2012, royalty revenue increased principally as a result of increased oil and natural gas production which was partially offset by decreases in oil and natural gas prices in our owned and consolidated properties. Decrease in oil price is due to impact of decrease in prices of natural gas liquids. Increased oil production contributed about $8,465,000 which was offset by about $2,204,000 due to a decrease in oil prices. Increased natural gas production contributed about $1,125,000 which was offset by about $1,922,000 due to a decrease in natural gas prices.

In 2011, royalty revenue increased principally as a result of higher oil prices and increased oil production which was partially offset by decreases in natural gas production and lower prices in our owned and consolidated properties. Increased oil prices contributed about $3,608,000 and oil production increases contributed about $2,666,000, which was offset by decreased natural gas prices resulting in a reduction of about $350,000 and decreased natural gas production resulting in a reduction of about $411,000.

In 2010, royalty revenues increased as a result of higher oil prices and oil production partially offset by decreases in natural gas production in our owned and consolidated properties. Increased oil prices contributed about $1,873,000 and oil production increases contributed about $466,000. The production increase primarily relates to new oil wells commencing production in late 2009 and early 2010. Increased natural gas prices contributed about $245,000 which was offset by decreased natural gas production of about $774,000.

In 2012, working interest revenues increased principally due to increased oil and natural gas production associated with our acquisition of Credo at third quarter-end 2012. Increased oil production contributed about $13,861,000, which was partially offset by decreased oil prices of about $3,239,000. Increased natural gas production contributed about $1,199,000, which was offset by decreased natural gas prices of about $331,000.

In 2012, other lease revenues include $5,319,000 in lease bonus payments received from leasing over 8,900 net mineral acres owned to third-parties for an average of about $600 per acre and $2,219,000 related to delay rental payments received.

In 2011, other lease revenues include $2,250,000 in lease bonus payments received from leasing about 8,100 net mineral acres owned to third-parties for an average of about $280 per acre, $1,555,000 related to a mineral seismic exploration agreement associated with 31,100 acres in Louisiana and $992,000 related to delay rental payments received.

In 2010, other lease revenues include $7,655,000 in lease bonus payments received from leasing about 16,900 net mineral acres owned to third-parties for an average of about $460 per acre and $2,168,000 related to delay rental payments received. In addition, other lease revenues include about $1,126,000 as a result of an option exercised to extend an existing lease on over 3,200 acres.

 

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Oil and natural gas produced and average unit prices related to our royalty and working interests follows:

 

     For the Year  
     2012      2011      2010  

Consolidated entities:

        

Oil production (barrels)

     371,300         151,900         115,400   

Average price per barrel

   $ 85.09       $ 96.84       $ 73.09   

Natural gas production (millions of cubic feet)

     1,667.7         1,128.6         1,223.6   

Average price per thousand cubic feet

   $ 2.76       $ 4.01       $ 4.32   

Our share of ventures accounted for using the equity method:

        

Natural gas production (millions of cubic feet)

     321.3         493.4         572.8   

Average price per thousand cubic feet

   $ 2.40       $ 3.81       $ 4.12   

Total consolidated and our share of equity method ventures:

        

Oil production (barrels)

     371,300         151,900         115,400   

Average price per barrel

   $ 85.09       $ 96.84       $ 73.09   

Natural gas production (millions of cubic feet)

     1,989.0         1,622.0         1,796.4   

Average price per thousand cubic feet

   $ 2.71       $ 3.95       $ 4.26   

Total BOE (barrel of oil equivalent)(a)

     702,800         422,200         414,800   

Average price per barrel of oil equivalent

   $ 52.61       $ 50.02       $ 38.77   

 

(a) 

Natural gas is converted to barrels of oil equivalent (BOE) using the conversion of six Mcf to one barrel of oil.

In fourth quarter 2012, operations acquired from Credo produced approximately 116,600 barrels of oil at an average price of $79.94 per barrel and 225 MMcf of natural gas at an average price of $3.64 per Mcf.

At year-end 2012, there were 936 productive gross wells of which 542 were operated by others on our owned mineral acres and 394 wells were associated with our third quarter acquisition of Credo, of which 136 were operated by us. At year-end 2011 and 2010, there were 530 and 494 productive gross wells that were operated by others on our owned mineral acres.

Operating expenses consist of:

 

     For the Year  
     2012      2011      2010  
     (In thousands)  

Employee compensation and benefits

   $ 4,737       $ 2,407       $ 1,182   

Professional and consulting services

     3,908         2,906         566   

Depreciation

     435         318         269   

Property taxes

     312         257         255   

Other

     1,580         1,149         710   
  

 

 

    

 

 

    

 

 

 

Total operating expenses

   $ 10,972       $ 7,037       $ 2,982   
  

 

 

    

 

 

    

 

 

 

The increase in professional and consulting services in 2012 and 2011 when compared with 2010 is primarily due to non-cash amortization of contingent consideration paid to the seller of a water resources company acquired in 2010. These costs are being amortized ratably over the performance period assuming certain milestones are achieved by July 2014. Employee compensation and benefits increased as a result of incremental staffing to support our oil, natural gas and water interests. In 2012, total operating expenses include $1,202,000 related to our acquisition of Credo at third quarter-end 2012.

 

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Mineral Interests Owned

A summary of our oil and natural gas net mineral interests (a) owned at year-end 2012 follows:

 

State

   Unleased      Leased(b)      Held By
Production(c)
     Total(d)  
  

Texas

     213,000         12,000         27,000        252,000  

Louisiana

     115,000         17,000        12,000        144,000  

Georgia

     152,000         —          —          152,000  

Alabama

     40,000         —          —          40,000  

California

     1,000         —          —          1,000  

Indiana

     1,000         —          —          1,000  
  

 

 

    

 

 

    

 

 

    

 

 

 
     522,000         29,000        39,000        590,000  
  

 

 

    

 

 

    

 

 

    

 

 

 

 

(a) 

Includes ventures.

 

(b) 

Includes leases in primary lease term or for which a delayed rental payment has been received. In the ordinary course of business, leases covering a significant portion of leased net mineral acres owned may expire from time to time in a single reporting period.

 

(c) 

Acres being held by production are producing oil or natural gas in paying quantities.

 

(d) 

Texas, Louisiana, California and Indiana net acres are calculated as the gross number of surface acres multiplied by our percentage ownership of the mineral interest. Alabama and Georgia net acres are calculated as the gross number of surface acres multiplied by our estimated percentage ownership of the mineral interest based on county sampling. Excludes 477 net mineral acres located in Colorado including 379 acres leased and 29 acres held by production.

Mineral Interests Leased

A summary of our net mineral acres leased from others at year-end 2012 as a result of our acquisition of Credo follows:

 

State

   Undeveloped      Held By
Production
     Total(b)  

Nebraska

     77,000         2,000        79,000  

Kansas

     40,000         3,000        43,000  

Oklahoma

            17,000        17,000  

North Dakota

     4,000         2,000        6,000  

Texas

     1,000         2,000        3,000  

Other(a)

     3,000         11,000        14,000  
  

 

 

    

 

 

    

 

 

 
     125,000         37,000        162,000  
  

 

 

    

 

 

    

 

 

 

 

(a) Includes approximately 8,400 net acres of overriding royalty interests.

 

(b) Excludes approximately 15,000 net acres leased from others in Georgia, Alabama, and Texas not related to our acquisition of Credo.

Water Interests

In addition, we have water interests in about 1,534,000 acres, including a 45 percent nonparticipating royalty interest in groundwater produced or withdrawn for commercial purposes or sold from approximately 1,400,000 acres in Texas, Louisiana, Georgia and Alabama and about 20,000 acres of groundwater leases in central Texas. We have not received significant revenue or earnings from these interests.

 

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Fiber Resources

Our fiber resources segment focuses principally on the management of our timber holdings and recreational leases. We have about 121,000 acres of timber we own directly or through ventures, primarily in Georgia, and about 17,000 acres of timber under lease. Our fiber resources segment revenues are principally derived from the sales of wood fiber from our land and leases for recreational uses.

A summary of our fiber resources results follows:

 

     For the Year  
     2012     2011     2010  
     (In thousands)  

Revenues

   $ 8,256      $ 4,821      $ 8,301   

Cost of sales

     (1,661     (1,072     (1,640

Operating expenses

     (2,296     (2,060     (2,274
  

 

 

   

 

 

   

 

 

 
     4,299        1,689        4,387   

Gain on sale of assets, primarily timber termination

     694        181        671   

Equity in earnings (loss) of unconsolidated ventures

     63        23          
  

 

 

   

 

 

   

 

 

 

Segment earnings

   $ 5,056      $ 1,893      $ 5,058   
  

 

 

   

 

 

   

 

 

 

In 2012, fiber resources segment earnings increased principally as a result of higher levels of harvesting activity.

Revenues consist of:

 

     For the Year  
     2012      2011      2010  
     (In thousands)  

Fiber

   $ 6,332       $ 3,229       $ 6,491   

Recreational leases and other

     1,924         1,592         1,810   
  

 

 

    

 

 

    

 

 

 

Total revenues

   $ 8,256       $ 4,821       $ 8,301   
  

 

 

    

 

 

    

 

 

 

Fiber sold consists of:

 

     For the Year  
     2012      2011      2010  

Pulpwood tons sold

     370,200         266,200         392,900   

Average pulpwood price per ton

   $ 9.83       $ 8.69       $ 9.93   

Sawtimber tons sold

     123,700         56,800         144,300   

Average sawtimber price per ton

   $ 21.77       $ 16.13       $ 17.94   

Total tons sold

     493,900         323,000         537,200   

Average price per ton

   $ 12.82       $ 10.00       $ 12.08   

In 2012, total fiber tons sold increased principally as a result of accelerated harvesting levels to meet customer demand, primarily International Paper’s Rome, Georgia mill, and no longer delaying harvesting due to our previously announced strategic timberland sales initiative. The majority of our fiber sales were to International Paper at market prices. The decrease in total fiber tons sold in 2011when compared with 2010 is principally due to selling over 217,000 acres of timberland since year-end 2008.

 

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Information about our recreational leases follows:

 

     For the Year  
     2012      2011      2010  

Average recreational acres leased

     129,800         174,500         208,100   

Average price per leased acre

   $ 8.73       $ 8.80       $ 8.32   

Operating expenses consist of:

 

     For the Year  
     2012      2011      2010  
     (In thousands)  

Employee compensation and benefits

   $ 1,039       $ 945       $ 1,115   

Facility and long-term timber lease costs

     466         445         424   

Professional services

     431         374         342   

Other

     360         296         393   
  

 

 

    

 

 

    

 

 

 

Total operating expenses

   $ 2,296       $ 2,060       $ 2,274   
  

 

 

    

 

 

    

 

 

 

Items Not Allocated to Segments

Unallocated items represent income and expenses managed on a company-wide basis and include general and administrative expenses, share-based compensation, gain on sale of strategic timberland, interest expense and other corporate non-operating income and expense. General and administrative expenses principally consist of accounting and finance, tax, legal, human resources, internal audit, information technology and our board of directors. These functions support all of our business segments and are not allocated.

General and administrative expenses consist of:

 

     For the Year  
     2012      2011      2010  
     (In thousands)  

Professional services

   $ 9,468       $ 6,578       $ 2,937   

Employee compensation and benefits

     7,523         5,662         5,480   

Depreciation and amortization

     1,114         1,393         1,480   

Insurance costs

     944         1,083         1,235   

Facility costs

     766         800         1,214   

Other

     5,361         4,594         4,995   
  

 

 

    

 

 

    

 

 

 

Total general and administrative expenses

   $ 25,176       $ 20,110       $ 17,341   
  

 

 

    

 

 

    

 

 

 

In 2012, professional services include $6,323,000 in transaction costs paid to outside advisors associated with our acquisition of Credo. In 2012, employee compensation and benefits increased primarily due to higher incentive compensation associated with our improved operating results and value creation activities. In 2011, professional services include $3,187,000 in costs paid to outside advisors associated with proposed private debt offerings that we withdrew as a result of deterioration in terms available to us in the capital markets.

Our share-based compensation expense fluctuates because a portion of our awards are cash settled and as a result are affected by changes in the market price of our common stock. In 2012, share-based compensation increased principally as a result of increase in our stock price and its impact on cash-settled awards. In 2011, share-based compensation decreased principally as a result of a decline in our stock price and its impact on cash-settled awards.

Gain on sale of assets represents gains associated with our 2009 strategic initiatives, which we completed in 2011. In 2011, we recognized gains of $61,784,000 from the sale of 57,000 acres of timberland and in 2010, we recognized gains of $28,607,000 from the sale of 24,000 acres of timberland.

 

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In 2012, interest expense includes $4,448,000 loss on extinguishment of debt in connection with the amendment and extension of our term loan. Interest expense in 2012, excluding loss on extinguishment of debt, decreased principally due to lower interest rates and lower average levels of debt outstanding.

Income Taxes

Our effective tax rate and the benefit attributable to noncontrolling interests was 31 percent and 7 percent in 2012, 25 percent and 6 percent in 2011, and 30 percent and 3 percent in 2010. Our 2012 rate includes a benefit from percentage depletion associated with oil and natural gas produced and a charge from nondeductible acquisition expenses while our 2011 and 2010 rates include benefits for percentage depletion associated with oil and natural gas produced and charitable contributions related to timberland conservation.

We have not provided a valuation allowance for our federal deferred tax asset because we believe it is likely it will be recoverable in future periods based on considerations including taxable income in prior carryback years, future reversals of existing temporary differences, tax planning strategies and future taxable income. If these sources of income are not sufficient in future periods, we may be required to provide a valuation allowance for our federal deferred tax asset.

Capital Resources and Liquidity

Sources and Uses of Cash

We operate in cyclical industries and our cash flows fluctuate accordingly. Our principal operating cash requirements are for the acquisition and development of real estate and investment in oil and natural gas leasing and production activities, either directly or indirectly through ventures, taxes, interest and compensation. Our principal sources of cash are proceeds from the sale of real estate and timber, the cash flow from oil and natural gas and income producing properties, borrowings, and reimbursements from utility and improvement districts. Operating cash flows are affected by the timing of the payment of real estate development expenditures and the collection of proceeds from the eventual sale of the real estate, the timing of which can vary substantially depending on many factors including the size of the project, state and local permitting requirements and availability of utilities, and by the timing of oil and natural gas leasing and production activities. Working capital is subject to operating needs, the timing of sales of real estate and timber, oil and natural gas leasing and production activities, collection of receivables, reimbursement from utility and improvement districts and the payment of payables and expenses.

Cash Flows from Operating Activities

Cash flows from our real estate development activities, undeveloped land sales, income producing properties, timber sales, oil and natural gas properties and recreational leases and reimbursements from utility and improvement districts are classified as operating cash flows.

Net cash provided by (used for) operations was ($26,022,000) in 2012, $34,992,000 in 2011 and $13,551,000 in 2010.

In 2012, our expenditures for real estate development and acquisitions significantly exceeded non-cash real estate cost of sales, principally as result of acquiring real estate assets from CL Realty and Temco for $47,000,000. Subsequent to closing of this acquisition, we received $23,370,000 from the ventures, representing our pro-rata share of distributable cash. We invested $17,334,000 in construction of a 289-unit multifamily development property near Austin which was completed at year-end 2012. We acquired two multifamily development sites in Charlotte and Nashville for $16,651,000, acquired a single-family development project near Dallas for $8,951,000 and we paid $21,678,000 in federal and state taxes, net of refunds. In addition, we received $24,294,000 in net proceeds from a consolidated venture’s bulk sale of 800 acres near Dallas, $10,759,000 in reimbursements from two new multifamily ventures which represents our venture partners’ pro-rata share of costs we previously incurred and $8,524,000 in reimbursements from utility and improvement districts.

In 2011, the sale of 57,000 acres of timberland in accordance with our 2009 strategic initiatives generated net proceeds of $86,018,000. Expenditures for development and acquisitions exceeded non-cash real estate cost

 

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of sales principally due to our acquisition of a non-performing loan secured by a lien on approximately 900 acres of developed and undeveloped land near Houston for $21,137,000 and $32,789,000 in real estate acquisitions principally located in various Texas markets. We received $10,461,000 in reimbursements from utility and improvement districts, of which $8,656,000 was related to our Cibolo Canyons project and was accounted for as a reduction of our investment. We paid $25,335,000 in federal and state income taxes, net of refunds.

In 2010, operating cash flow was adversely affected by lower operating income primarily due to difficult conditions in the housing industry and lower proceeds from timberland sales in accordance with our 2009 strategic initiatives. Expenditures for real estate development were slightly less than non-cash cost of real estate sales due to a reduction in real estate development. In 2010, we sold about 24,000 acres of timberland in Georgia, Alabama and Texas generating net proceeds of $38,040,000, of which $24,392,000 was held by a qualified intermediary under IRC Section 1031.

Cash Flows from Investing Activities

Capital contributions to and capital distributions from unconsolidated ventures, business acquisitions and investment in oil and natural gas properties and equipment are classified as investing activities. In addition, proceeds from the sale of property and equipment, software costs and expenditures related to reforestation activities are also classified as investing activities.

In 2012, net cash (used for) investing activities was ($105,119,000) principally due to our acquisition of Credo for $152,915,000 purchase price, net of cash acquired. In addition, we invested in $21,416,000 in oil and natural gas properties and equipment. Partially offsetting our investment in Credo and oil and natural gas properties were proceeds received from the sale of our 25 percent ownership interest in Palisades West LLC for $32,095,000 and $29,474,000 in net proceeds from the sale of Broadstone Memorial, a 401-unit multifamily investment property in Houston. We also invested $2,735,000 in property and equipment, software and reforestation and received $10,336,000 in net distributions from unconsolidated ventures, of which $6,850,000 is associated with a venture’s sale of Las Brisas, a 414-unit multifamily property near Austin, representing a return of our investment.

In 2011, net cash (used for) investing activities was ($4,895,000). We invested $4,304,000 in oil and natural gas properties and equipment associated with our working interests and $2,044,000 in property, equipment, software and reforestation. Net cash return of investment in our unconsolidated ventures was $1,060,000.

In 2010, net cash (used for) investing activities was ($26,597,000). We acquired a 401 unit, multifamily investment property in Houston, Texas for $49,100,000. We used $23,045,000 of the proceeds held by a qualified intermediary under Internal Revenue Code Section 1031 and $26,500,000 of non-recourse borrowings to fund this acquisition. In addition, we acquired a water resources company in central Texas for $12,000,000.

Cash Flows from Financing Activities

In 2012, net cash provided by financing activities was $123,219,000. Our net increase in borrowings of $129,416,000 was principally used to fund our acquisition of Credo and our real estate development and acquisition expenditures and our investment in oil and natural gas properties. We paid $5,883,000 in financing fees primarily related to the amendment and extension of our senior secured credit facility. Also, in 2012, our other consolidated debt decreased by $57,491,000, of which $26,500,000 was due to the sale of Broadstone Memorial, a 401-unit multifamily investment property in Houston and the buyer’s assumption of the debt and $30,991,000 was due to our consolidated venture’s bulk sale of 800 acres in Dallas and the buyer’s assumption of debt. We also purchased about 94,450 shares of our common stock for $1,409,000 which was offset by $1,430,000 in proceeds from exercise of stock options.

In 2011, net cash (used for) financing activities was ($17,180,000) as we repurchased about 907,000 shares of our common stock for $12,977,000 and incurred $3,750,000 in deferred financing fees primarily related to supplementing and amending our senior secured credit facility.

In 2010, net cash (used for) financing activities was ($2,639,000) as we repurchased about 1,001,000 shares of our common stock for $15,178,000 and incurred $6,304,000 in bank fees primarily related to our amendment

 

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and extension of our senior credit facility, which was partially offset by a net increase in our debt of $18,170,000 which is principally due to $26,500,000 in non-recourse borrowings used to finance a 401 unit, multifamily investment property acquired in fourth quarter 2010.

Liquidity and Contractual Obligations

Liquidity

In 2012, we entered into a Second Amended and Restated Revolving and Term Credit Agreement in order to consolidate previous amendments and to effect the following principal amendments to: increase the term loan commitment from $130,000,000 to $200,000,000; extend the maturity date of the revolving loan to September 14, 2015 (with a one-year extension option) and of the term loan to September 14, 2017; reduce the interest rate spread over LIBOR from 4.5 percent to 4.0 percent, and eliminate the LIBOR rate floor of 2 percent; increase the minimum interest coverage ratio from 1.05x to 1.50x; reduce the unused fee rate from 0.45 percent per annum to 0.25 percent – 0.35 percent per annum based on usage; and eliminate the minimum value to commitment ratio covenant and replace it with a reduction to the borrowing base to the extent the ratio of the value of assets in the borrowing base to the aggregate commitments under the facility is less than 1.50x.We incurred fees of $5,486,000 related to this amendment. The amendment and restatement of the term loan was an extinguishment of debt under the accounting guidance and as result, we recognized a $4,448,000 loss in 2012 which is included in interest expense.

On September 28, 2012 we acquired 100 percent of outstanding stock of Credo in an all cash transaction for $14.50 per share, representing an equity purchase price of approximately $146,445,000. In addition, we paid in full $8,770,000 of Credo’s outstanding debt. This transaction was funded with approximately $70,000,000 in borrowings from our term loan, $35,000,000 in borrowings from our revolving line of credit with the balance paid from cash and short-term investments.

At year-end 2012, our senior secured credit facility provides for a $200,000,000 term loan and a $200,000,000 revolving line of credit. The term loan and revolving line of credit may be prepaid at any time without penalty. The revolving line of credit includes a $100,000,000 sublimit for letters of credit, of which $2,807,000 is outstanding at year-end 2012. Total borrowings under our senior secured credit facility (including the face amount of letters of credit) may not exceed a borrowing base formula. At year-end 2012, net unused borrowing capacity under our senior secured credit facility is calculated as follows:

 

     Senior
Credit Facility
 
     (In thousands)  

Borrowing base availability

   $ 400,000   

Less: borrowings

     (244,000

Less: letters of credit

     (2,807
  

 

 

 

Unused borrowing capacity

   $ 153,193   
  

 

 

 

Our unused borrowing capacity during 2012 ranged from a high of $170,396,000 to a low of $145,507,000. This facility is used primarily to fund our operating cash needs, which fluctuate due to timing of residential real estate sales, undeveloped land sales, oil and natural gas leasing and production activities and mineral lease bonus payments received, timber sales, payment of accounts payables and expenses and capital expenditures.

Our senior credit facility and other debt agreements contain financial covenants customary for such agreements including minimum levels of interest coverage and limitations on leverage. At year-end 2012, we were in compliance with the financial covenants of these agreements.

 

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The following table details our compliance with the financial and other covenants calculated as provided in the senior credit facility:

 

Financial Covenant

   Requirement   Year-End
2012

Interest Coverage Ratio(a)

   ³1.50:1.0   5.56:1.0

Revenues/Capital Expenditures Ratio(b)

   ³1.00:1.0   1.88:1.0

Total Leverage Ratio(c)

   £40%   29.7%

Net Worth(d)

   ³$449 million   $516 million

Collateral Value to Loan Commitment Ratio(e)

   ³1.50:1.0   1.87:1.0

 

 

 

(a) 

Calculated as EBITDA (earnings before interest, taxes, depreciation, depletion and amortization), plus non-cash compensation expense, plus other non-cash expenses, divided by interest expense excluding loan fees. This covenant is applied at the end of each quarter on a rolling four quarter basis.

 

(b) 

Calculated as total gross revenues (excluding the revenues of the Credo Entities), plus our pro rata share of the operating revenues from unconsolidated ventures, divided by capital expenditures. Capital expenditures are defined as consolidated development and acquisition expenditures plus our pro rata share of unconsolidated ventures’ development and acquisition expenditures. This covenant is applied at the end of each quarter on a rolling four quarter basis.

 

(c) 

Calculated as total funded debt divided by adjusted asset value. Total funded debt includes indebtedness for borrowed funds, secured liabilities, reimbursement obligations with respect to letters of credit or similar instruments, and our pro-rata share of joint venture debt outstanding. Adjusted asset value is defined as the sum of unrestricted cash and cash equivalents, timberlands, high value timberlands, raw entitled lands, entitled land under development, minerals business, Credo asset value, Special improvement district receipts (SIDR) reimbursements value, Cibolo Resort Special improvement district hotel occupancy tax (SIDHT) value and other real estate owned at book value without regard to any indebtedness and our pro rata share of joint ventures’ book value without regard to any indebtedness. This covenant is applied at the end of each quarter.

 

(d) 

Calculated as the amount by which consolidated total assets (excluding Credo acquisition goodwill over $50,000,000) exceeds consolidated total liabilities. At year-end 2012, the requirement is $449,000,000 computed as: $441,000,000 plus 85 percent of the aggregate net proceeds received by us from any equity offering, plus 75 percent of all positive net income, on a cumulative basis. This covenant is applied at the end of each quarter.

 

(e) 

Calculated as the total collateral value of timberland, high value timberland and our minerals business, raw entitled land that is part of mortgaged property, Credo asset value, SIDR reimbursements value, Cibolo Resort SIDHT value divided by total aggregate loan commitment. This covenant is applied at the end of each quarter.

To make additional investments, acquisitions, or distributions, we must maintain available liquidity equal to 10 percent of the aggregate commitments in place. At year-end 2012, the minimum liquidity requirement was $40,000,000, compared with $159,745,000 in actual available liquidity based on the unused borrowing capacity under our senior secured credit facility plus unrestricted cash and cash equivalents. As of year-end 2012, we were in compliance with these requirements. The failure to maintain such minimum liquidity does not constitute a default or event of default of our senior secured credit facility. In addition, we may elect to make distributions so long as the total leverage ratio is less than 30%, the interest coverage is greater than 3.0:1.0, the revenues / capital expenditures ratio exceeds 1.5:1.0, and available liquidity is not less than $125,000,000.

In 2012, we obtained a loan for construction of a 289-unit multifamily development project located near Austin which provides up to $19,548,000 in financing. The interest rate on the loan is equal to 1.75 basis points plus the highest base rate of (i) the lender’s prime rate, (ii) the Federal Funds Open Rate plus 50 basis points, and (iii) the Daily LIBOR Rate plus 100 basis points or if LIBOR option is chosen then the Daily LIBOR Rate plus 225 basis points. The loan has an initial term of 36 months and may be extended for two additional 12-month periods based on certain specified conditions. At year-end 2012, we have $18,771,000 outstanding on this loan.

 

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3.75% Convertible Senior Notes due 2020

On February 20, 2013, we entered into an underwriting agreement to sell $125,000,000 aggregate principal amount of 3.75% Convertible Senior Notes due 2020 (Notes), which includes $15,000,000 aggregate principal amount as a result of the underwriters exercising in full their option to purchase additional Notes. We closed the sale of the Notes on February 26, 2013.

The Notes will pay interest semiannually at a rate of 3.75 percent per annum and will mature on March 1, 2020. The Notes will have an initial conversion rate of 40.8351 per $1,000 principal amount (equivalent to a conversion price of approximately $24.49 per share of common stock and a conversion premium of 37.5 percent based on the closing share price of $17.81 per share of our common stock on February 20, 2013). The initial conversion rate is subject to adjustment upon the occurrence of certain events. Prior to November 1, 2019, the Notes will be convertible only upon certain circumstances, and thereafter will be convertible at any time prior to the close of business on the second scheduled trading day prior to maturity. Upon conversion, holders will receive cash, shares of our common stock or a combination thereof at our election.

Net proceeds from the offering were used to repay $68,000,000 under our revolving line of credit, and we also intend to use net proceeds for general corporate purposes, including investments in oil and natural gas exploration and drilling and real estate acquisition and development.

Contractual Obligations

At year-end 2012, contractual obligations consist of:

 

     Payments Due or Expiring by Year  
     Total      2013      2014-15      2016-17      Thereafter  
     (In thousands)  

Debt(a)

   $ 294,063       $ 8,683       $ 81,838       $ 203,542       $   

Interest payments on debt

     47,964         12,193         21,837         13,934           

Purchase obligations

     27,741         27,741                           

Operating leases

     17,041         2,742         5,450         4,557         4,292   

Other commitments

     45         45                           
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

Total

   $ 386,854       $ 51,404       $ 109,125       $ 222,033       $ 4,292   
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

 

 

(a) 

Items included in our balance sheet.

Interest payments on debt include interest payments related to our fixed rate debt and estimated interest payments related to our variable rate debt. Estimated interest payments on variable rate debt were calculated assuming that the outstanding balances and interest rates that existed at year-end 2012 remain constant through maturity.

Purchase obligations are defined as legally binding and enforceable agreements to purchase goods and services. Our purchase obligations include commitments for land acquisition and land development, engineering and construction contracts for development and service contracts.

Our operating leases are for timberland, facilities, equipment and groundwater. In 2008, we entered into a 10-year agreement to lease approximately 32,000 square feet in Austin, Texas as our corporate headquarters. At year-end 2012, the remaining contractual obligation is $7,794,000. Also included in operating leases is a long-term timber lease of about 16,000 acres that has a remaining lease term of 13 years and a remaining contractual obligation of $4,801,000 and about 20,000 acres of groundwater leases in central Texas with remaining contractual obligations of $2,454,000.

We have other long-term liabilities that are not included in the table because they do not have scheduled maturities.

 

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Off-Balance Sheet Arrangements

From time to time, we enter into off-balance sheet arrangements to facilitate our operating activities. At year-end 2012, our off-balance sheet unfunded arrangements, excluding contractual interest payments, purchase obligations, operating lease obligations and venture contributions included in the table of contractual obligations, consist of:

 

     Payments Due or Expiring by Year  
     Total      2013      2014-15      2016-17      Thereafter  
     (In thousands)  

Performance bonds

   $ 31,102       $ 30,879       $ 223       $       $   

Standby letters of credit

     2,807         1,287         1,520                   

Recourse obligations

     1,812         628         236         57         891   
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

Total

   $ 35,721       $ 32,794       $ 1,979       $   57       $ 891   
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

Performance bonds, letters of credit and recourse obligations provided on behalf of certain ventures would be drawn on due to failure to satisfy construction obligations as general contractor or for failure to timely deliver streets and utilities in accordance with local codes and ordinances. In connection with our unconsolidated venture operations, we have provided performance bonds and letters of credit aggregating $26,630,000 at year-end 2012.

In 2012, CJUF III RH Holdings, an equity method venture in which we own a 25 percent interest, obtained a senior secured construction loan in the amount of $23,936,000 to develop a 257-unit multifamily property in downtown Austin. There is no significant balance outstanding at year-end 2012. We have a construction completion guaranty, a repayment guaranty for 20 percent of the principal balance and unpaid accrued interest, and a standard non-recourse carve-out guaranty. The repayment guaranty will reduce from 20 percent to 0 percent upon achievement of certain conditions.

In 2012, FMF Peakview, an equity method venture in which we own a 20 percent interest, obtained a senior secured construction loan in the amount of $31,550,000 to develop a 304-unit multifamily property in Denver. There is no balance outstanding at year-end 2012. We have a construction completion guaranty, a repayment guaranty for 25 percent of the principal and unpaid accrued interest, and a standard non-recourse carve-out guaranty. Our sources of funding are our operating cash flows and borrowings under our senior credit facility. Our contractual obligations due in 2012 will likely be paid from operating cash flows and from borrowings under our senior credit facility.

At year-end 2012, we participate in three partnerships that have total assets of $15,533,000 and total liabilities of $48,123,000, which includes $31,792,000 of borrowings classified as current maturities. These partnerships are managed by third parties who intend to extend or refinance these borrowings; however, there is no assurance that this can be done. Although these borrowings are guaranteed by third parties, we may under certain circumstances elect or be required to provide additional equity to these partnerships. We do not believe that the ultimate resolution of these matters will have a significant effect on our earnings or financial position. Our investment in these partnerships is $397,000 at year-end 2012. These three partnerships are variable interest entities.

Cibolo Canyons — San Antonio, Texas

Cibolo Canyons consists of the JW Marriott® San Antonio Hill Country Resort & Spa development owned by third parties and a mixed-use development we own. We have about $78,096,000 invested in Cibolo Canyons at year-end 2012.

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