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FOR > SEC Filings for FOR > Form 10-Q on 9-May-2013All Recent SEC Filings

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Quarterly Report

Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations

Management's Discussion and Analysis of Financial Condition and Results of Operations should be read in conjunction with the financial statements and Management's Discussion and Analysis of Financial Condition and Results of Operations in our 2012 Annual Report on Form 10-K. Unless otherwise indicated, information is presented as of first quarter-end 2013, and references to acreage owned includes all acres owned by ventures regardless of our ownership interest in a venture.

Forward-Looking Statements

This Quarterly Report on Form 10-Q 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 risks 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 the 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, oil and gas reserves, revenue, capital expenditure and lease operating expense accruals associated with our oil and gas working interests, and depletion of our oil and gas properties;

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 gas drilling and production activities;

fluctuations in oil and 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;

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.

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Other factors, including the risk factors described in Item 1A of our 2012 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.


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 gas production, and total segment EBITDA.

Optimizing transparency and disclosure by expanding reported oil and 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 gas opportunities.

Segment Reporting Change

In first quarter 2013, we strategically changed our reportable segments to better reflect the underlying market fundamentals and operating strategy of our core business operations, real estate and oil and gas. With this change, we aggregated our fiber and water resource operating results in other natural resources. All prior period segment information has been reclassified to conform to the current year presentation.

Results of Operations

A summary of our consolidated results by business segment follows:

                                                               First Quarter
                                                           2013            2012
                                                              (In thousands)
      Real estate                                        $  78,689       $  17,922
      Oil and gas                                           15,504           9,426
      Other natural resources                                3,278             744

      Total revenues                                     $  97,471       $  28,092

      Segment earnings:
      Real estate                                        $  19,446       $  11,577
      Oil and gas                                            5,127           7,128
      Other natural resources                                1,252            (863 )

      Total segment earnings                                25,825          17,842
      Items not allocated to segments:
      General and administrative expense                    (4,958 )        (4,362 )
      Share-based compensation expense                     (10,415 )        (5,231 )
      Interest expense                                      (4,539 )        (3,891 )
      Other corporate non-operating income                      31              64

      Income before taxes                                    5,944           4,422
      Income tax expense                                    (1,993 )        (1,620 )

      Net income attributable to Forestar Group Inc.     $   3,951       $   2,802

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Significant aspects of our results of operations follow:

First Quarter 2013

Real estate segment earnings benefited from selling Promesa for $41,000,000, a 289-unit multifamily property we developed in Austin, generating approximately $10,881,000 in segment earnings. In addition, segment earnings also benefited from increased residential lot sales activity, undeveloped land sales from our retail program and commercial tract sales.

Oil and gas segment earnings decreased principally due to lower oil and gas production volumes and average prices and lower delay rental payments received related to our owned mineral interests. This decrease was partially offset by higher working interest production volume and earnings attributable to our exploration and production operations as result of our acquisition of Credo in 2012.

Other natural resources segment earnings benefited from higher levels of harvesting activity which was driven by customer demand and was partially offset by costs of our water resources initiatives.

Share-based compensation expense increased principally as result of a 26 percent increase in our stock price which impacted the value of vested cash-settled awards.

First Quarter 2012

Real estate segment earnings benefited from an $11,675,000 gain from the sale of our 25 percent interest in Palisades West LLC for $32,095,000. Segment earnings were negatively impacted by lower undeveloped land sales from our retail sales program.

Oil and gas segment earnings benefited from increased oil production volumes and higher average oil prices. This increase was partially offset by a decrease in lease bonus payments and increased costs from additional oil and gas personnel.

Other natural resources segment earnings was negatively impacted by lower harvest volumes and increased professional services costs associated with our water initiatives.

Share-based compensation expense increased principally as result of new awards granted in first quarter 2012 when compared with awards granted in first quarter 2011.

Current Market Conditions

Currently, 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.

Oil prices have weakened reflecting market concerns about world economic activity and oil demand. Natural gas prices have remained depressed due to abundant supplies and high inventories; however, prolonged cold weather throughout the 2012 - 2013 heating season has taken working gas in storage numbers below the midpoint of the five year average. In the East Texas Basin, exploration and production activity generally remains limited to drilling on liquid rich gas prospects due to relatively high oil, condensate and to a lesser extent, natural gas liquid prices. In the Gulf Coast Basin, in Louisiana, activity remains strong as operators continue to focus exploration efforts to oil and high liquid natural gas plays. These conditions may impact the demand for new mineral leases, new exploration activity and the amount of royalty revenues we receive.

Business Segments

We manage our operations through three business segments:

Real estate,

Oil and gas, and

Other natural resources.

We evaluate performance based on segment earnings (loss) before unallocated items and income taxes. Segment earnings (loss) consist of operating income, equity in earnings (loss) of unconsolidated ventures, gain on sales 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

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consist of general and administrative expense, 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 over 135,000 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 about 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 commercial and income producing properties, primarily a hotel at first quarter-end 2013, and multifamily properties we may develop and sell as a merchant builder.

A summary of our real estate results follows:

                                                                 First Quarter
                                                              2013           2012
                                                                 (In thousands)
Revenues                                                    $  78,689      $  17,922
Cost of sales                                                 (53,046 )      (10,331 )
Operating expenses                                             (6,972 )       (7,544 )

                                                               18,671             47
Interest income primarily on loan secured by real estate        1,110             -
Gain on sale of assets                                             -          11,675
Equity in earnings of unconsolidated ventures                     756            550
Less: Net income attributable to noncontrolling interests      (1,091 )         (695 )

Segment earnings                                            $  19,446      $  11,577

In first quarter 2013, cost of sales includes $29,707,000 in carrying value related to Promesa, a 289-unit multifamily property we developed as a merchant builder and sold. In addition, in first quarter 2013, cost of sales include $6,146,000 related to multifamily construction contract costs we incurred as general contractor and paid to subcontractors associated with our development of two multifamily venture properties. Interest income principally represents earnings from a loan we hold which is secured by a mixed-use real estate community in Houston.

In first quarter 2012, gain on sale of assets represents an $11,675,000 gain from the sale of our 25 percent interest in Palisades West LLC for $32,095,000.

Revenues in our owned and consolidated ventures consist of:

                                                           First Quarter
                                                         2013         2012
                                                          (In thousands)
          Residential real estate                      $ 19,102     $  8,498
          Commercial real estate                          1,251           -
          Undeveloped land                                2,709          733
          Commercial and Income producing properties     54,171        7,278
          Other                                           1,456        1,413

          Total revenues                               $ 78,689     $ 17,922

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Residential real estate revenues principally consist of the sale of single-family lots to national, regional and local homebuilders. In first quarter 2013, residential real estate revenues increased principally as a result of increased lot sales volume due to demand for finished lot inventory by homebuilders in markets where supply has diminished.

Market conditions for undeveloped land sales under our retail sales program remain challenging due to limited credit availability, low consumer confidence and alternate investment options to buyers in the market. However, in first quarter 2013, undeveloped land sales increased as compared to first quarter 2012. We sold approximately 919 acres for $2,709,000 or $2,900 per acre, generating approximately $2,212,000 in segment earnings.

In first quarter 2013, commercial and income producing properties revenue increased primarily as result of selling Promesa for $41,000,000, a 289-unit multifamily property in Austin which we developed as a merchant builder and operated until the sale. As a result, we recognized segment earnings of $10,881,000 related to this sale. In addition, in first quarter 2013, income producing properties revenue increased as a result of construction revenues of $6,439,000 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, both of which are included in income producing properties revenue. Revenues also increased as a result of higher occupancy levels and revenue per available room from our 413 guest room hotel in Austin.

Units sold in our owned and consolidated ventures consist of:

                                                  First Quarter
                                               2013          2012
                  Residential real estate:
                  Lots sold                        355           137
                  Revenue per lot sold       $  52,460     $  62,023
                  Commercial real estate:
                  Acres sold                         3            -
                  Revenue per acre sold      $ 382,741     $      -
                  Undeveloped land:
                  Acres sold                       919           320
                  Revenue per acre sold      $   2,949     $   2,293

Operating expenses consist of:

                                                       First Quarter
                                                     2013        2012
                                                      (In thousands)
               Employee compensation and benefits   $ 1,372     $ 2,125
               Property taxes                         1,996       1,943
               Professional services                  1,170       1,257
               Depreciation and amortization          1,029       1,047
               Other                                  1,405       1,172

               Total operating expenses             $ 6,972     $ 7,544

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

                                                                      First Quarter-End
                                                                     2013            2012
Owned and consolidated ventures:
Entitled, developed and under development projects
Number of projects                                                        65             66
Residential lots remaining                                            19,938         22,830
Commercial acres remaining                                             2,048          2,123
Undeveloped land and land in the entitlement process
Number of projects                                                        14             16
Acres in entitlement process                                          25,980         27,590
Acres undeveloped                                                     88,789         96,606
Ventures accounted for using the equity method:
Ventures' lot sales (for first three months)
Lots sold                                                                 91            148
Average price per lot sold                                         $  49,642       $ 44,570
Ventures' entitled, developed and under development projects
Number of projects                                                         7              7
Residential lots remaining                                             3,625          4,093
Commercial acres sold (for first three months)                            -              -
Average price per acre sold                                        $      -        $     -
Commercial acres remaining                                               321            333
Ventures' undeveloped land and land in the entitlement process
Acres sold (for first three months)                                       -             135
Average price per acre sold                                        $      -        $  2,600
Acres undeveloped                                                      5,655          5,655

We underwrite 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.

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

                          Developed,                        Commercial
                          and Under                         and Income
                         Development      Undeveloped       Producing
           State           Projects           Land          Properties         Total
                                                 (In thousands)
           Texas          $  301,413       $    9,136       $   25,000       $  335,549
           Georgia            23,425           56,668               -            80,093
           Colorado           21,343               -                -            21,343
           California          8,915           15,659               -            24,574
           Tennessee           7,221               -            11,630           18,851
           Other               5,617            1,135            5,942           12,694

           Total          $  367,934       $   82,598       $   42,572       $  493,104

Oil and Gas

Our oil and gas segment is focused on promoting the exploitation, exploration and development of oil and gas on our mineral and leasehold interests, participating in working interests and operating wells.

We lease portions of our 590,000 net mineral acres owned located principally in Texas, Louisiana, Georgia and Alabama to other oil and gas companies in return for lease bonus, delay rental and royalty revenues and may exercise an option to participate in oil and gas production that may be discovered on our acreage or we may elect to drill on our acreage ourselves as an operator. At first quarter-end 2013, we have about 37,000 net acres under lease to others and about 29,000 net acres held by production related to our owned mineral interests.

In addition, we have approximately 202,000 net mineral acres leased from others 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 the acquisition of Credo in third quarter 2012, we are now an independent oil and gas exploration, development and production company. Our leasehold interests include 30,000 net acres held by production and 422 gross oil and gas wells with working interest ownership, of which 142 are operated by us. These leasehold interests include nearly 6,000 net mineral acres in the Bakken and Three Forks formation.

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A summary of our oil and gas results follows:

                                                           First Quarter
                                                         2013          2012
                                                           (In thousands)
       Revenues                                        $ 15,504      $  9,426
       Cost of oil and gas producing activities          (7,834 )        (913 )
       Operating expenses                                (2,690 )      (1,553 )

                                                          4,980         6,960
       Equity in earnings of unconsolidated ventures        147           168

       Segment earnings                                $  5,127      $  7,128

First quarter 2013 results include $9,620,000 in revenue and $1,650,000 in segment earnings associated with our third quarter 2012 acquisition of Credo.

Revenues consist of:

                                               First Quarter
                                             2013         2012
                                              (In thousands)
                      Oil production (a)   $ 13,188     $  6,752
                      Gas production          1,729        1,190
                      Other                     587        1,484

                      Total revenues       $ 15,504     $  9,426

(a) Oil production includes revenues from oil, condensate and natural gas liquids (NGLs).

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