(EDGAR Online via COMTEX) -- ITEM 7. Management's Discussion and Analysis of Financial Condition and Results of Operations
The following discussion and analysis of our financial condition and results of operations should be read in conjunction with our consolidated audited financial statements and related notes included elsewhere in this report. This discussion contains forward-looking statements and involves numerous risks and uncertainties, including but not limited to those described in the "Item 1A. Risk Factors" section of this report. Actual results could differ materially from those set forth in any forward-looking statements. See "Cautionary Statement Regarding Forward-Looking Statements."
We conduct all of our business in or through our operating company, Five Point Operating Company, LP (the "operating company"). We are, through a wholly owned subsidiary, the sole managing general partner and owned, as of December 31, 2021, approximately 62.9% of the operating company. The operating company directly or indirectly owns equity interests in:
Five Point Land, LLC, which owns The Newhall Land & Farming Company, a California limited partnership, the entity that is developing Valencia (formerly known as Newhall Ranch), our community in northern Los Angeles County, California;
The Shipyard Communities, LLC (the "San Francisco Venture"), which is developing Candlestick and The San Francisco Shipyard, our communities in the City of San Francisco, California;
Heritage Fields LLC (the "Great Park Venture"), which is developing Great Park Neighborhoods, our community in Orange County, California;
Five Point Office Venture Holdings I, LLC (the "Gateway Commercial Venture"), which owns portions of the Five Point Gateway Campus, a commercial office and medical campus located within the Great Park Neighborhoods; and
Five Point Communities, LP and Five Point Communities Management, Inc. (together, the "management company"), which provide development and property management services for the Great Park Neighborhoods and the Five Point Gateway Campus.
The operating company consolidates and controls the management of all of these entities, except for the Great Park Venture and the Gateway Commercial Venture. The operating company owns a 37.5% percentage interest in the Great Park Venture and a 75% interest in the Gateway Commercial Venture and accounts for its interest in both using the equity method. Please review "Structure and Formation of Our Company", "Our Communities" and "Commercial" under Part I, Item 1 of this report for a description of our organizational structure, each of our communities and our commercial venture.
Changes to Board and Executive Positions
On February 9, 2022, Daniel Hedigan was appointed as our Chief Executive Officer. Mr. Hedigan is an industry veteran with over 40 years of experience in the residential real estate sector and extensive expertise in mixed-use planned communities. Preceding Mr. Hedigan's appointment, and effective as of September 30, 2021, our founder, Emile Haddad, stepped down from his roles as Chairman, Chief Executive Officer and President and transitioned to a senior advisory role. Mr. Haddad remains a member of the Board of Directors, and as the company founder, the Board elected him as Chairman Emeritus. Concurrent with Mr. Haddad's transition, the Board of Directors named Stuart Miller as Executive Chairman of the Board. In January 2022, Erik Higgins, our Chief Financial Officer, informed us of his plans to resign following the filing of this annual report, and the Board of Directors appointed our Vice President and Corporate Controller, Leo Kij, to serve as interim Chief Financial Officer upon Mr. Higgins' resignation. In addition, in February 2022, Lynn Jochim transitioned from her position as President and Chief Operating Officer into an advisory role pursuant to a three-year advisory agreement.
In 2021, our Valencia and Great Park Neighborhood communities saw significant homebuyer demand which in turn led to strong land sale activity. At Valencia, we continued to invest in the development of infrastructure with a focus on completing utility improvements and community amenities in our initial neighborhoods. By the end of 2021, our guest builders had opened 14 of our initial 18 neighborhoods for home sales and had sold 346 homes since sales began in May 2021. Homes in our initial neighborhoods consist of a wide mix of attached and detached single family homes that are attracting first time buyers along with trade-up buyers. In the fourth quarter of 2021, homebuilders purchased 643 homesites from us on approximately 57 acres of land for an aggregate gross purchase price of $167.3 million.
At the Great Park Neighborhoods, in which we have a 37.5% percentage interest and manage all aspects of the development cycle, a robust demand for homes in our community drove home sales by builders to a total of 655 homes, an increase of approximately 11% over 589 homes sold in 2020. The high-quality schools and amenities at Great Park Neighborhoods and a strong Table of Contents
local economy continue to attract homebuyers to our community. Additionally, a limited supply of new home inventory in Orange County has led to strong price appreciation among the single family attached and detached products available at the Great Park Neighborhoods. In 2021, the Great Park Venture closed the sale of 887 homesites on approximately 72 acres of land for an aggregate gross purchase price of $393.3 million. The Great Park Venture made distributions and related payments with proceeds from the land sales, of which we received approximately $98.3 million for both our ownership interests and incentive management fee compensation.
The initial term of our development management agreement with the Great Park Venture expired on December 31, 2021 but has been extended by mutual agreement of the parties through April 30, 2022. We are currently in discussions with the other members of the Great Park Venture regarding renewal of the agreement. While we currently expect the development management agreement to be renewed, we can provide no assurance as to the terms or timing of any such renewal, or that such renewal will be completed at all.
In response to the COVID-19 pandemic, we took immediate steps to protect the health and well-being of our associates and to preserve the financial strength of the company. The substantial majority of our associates are still working remotely with access to necessary systems and resources to ensure business continuity. We will transition our associates back to our offices when we believe it is appropriate after taking into account all federal, state and local laws, rules and regulations.
Factors That May Influence our Results of Operations
Fluctuations in the Economy and Market Conditions
Our results of operations are subject to various risks and fluctuations in value and demand, many of which are beyond our control. Our business could be impacted by, among other things, downturns in economic conditions at the national, regional or local levels, particularly where our communities are located, inflation and increases in interest rates, significant job losses and unemployment levels, and declines in consumer confidence and spending.
Inflation poses a risk to our business due to the possibility that higher prices would increase our development expenditures. In particular, our development expenditures are influenced by the price of oil, which is used in our development activities, including grading and paving roads. However, inflation can also indirectly improve our revenues by increasing the amount that homebuyers and commercial buyers are willing to pay for newly constructed homes and commercial buildings, which in turn, increases the amount that homebuilders and commercial developers are willing to pay for our residential and commercial lots.
Supply and Demand for Residential and Commercial Properties
We generate most of our revenue from land sales, which are dependent on demand from homebuilders, commercial developers and commercial buyers, which is in turn dependent on the prices that homebuyers, commercial buyers and renters are expected to pay. In addition, sales of homesites typically include participation provisions that allow us to share in the profits realized by the homebuilders if the overall profitability of a block of homes exceeds an agreed-upon margin. Because our revenue is influenced by the prices that homebuyers and commercial buyers are willing to pay for homes or commercial buildings in our region, our results of operations may be influenced by, among other things, the overall supply and demand for housing and commercial properties, the prevailing interest rates for mortgages, and the availability of mortgage financing for residential and commercial developers and residential and commercial buyers.
Timing of Obtaining the Necessary Approvals for Development Activities
As a developer of real property in California, we are subject to numerous land use and environmental laws and regulations. Before we can begin developing our communities or development areas within them, we must obtain entitlements, permits and approvals. Depending upon the type of the approval being sought, we may also need to complete an environmental impact report, remediate environmental impacts or agree to finance or develop public infrastructure within the community or applicable development area, each of which would impose additional costs on us. In the event that we materially modify any of our existing entitlements, approvals or permits, we may also need to go through a discretionary approval process before the relevant governmental authority or go through an additional or supplemental environmental review and certification process.
In addition, laws and regulations governing the approval processes provide third parties with the opportunity to challenge our entitlements, permits and approvals. The prospect of these third-party challenges creates additional uncertainty. Third-party challenges in the form of litigation can adversely affect the length of time or the cost required to obtain the necessary governmental approvals to develop, or result in the denial of our right to develop the particular community or development area in accordance with our current development plans. Furthermore, adverse decisions arising from any litigation can increase the cost or length of time to obtain ultimate approval of a project, if such approval is obtained at all, and can adversely affect the design, scope, plans and profitability of a project, which can negatively affect our financial condition and results of operations. See Part I, Item 3, of this report for a discussion of legal proceedings.
As a result of many of the factors described above, we have historically experienced, and expect to continue to experience, variability in results of operations between comparable periods.
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Our four reportable operating segments include our three community segments, Valencia, San Francisco and Great Park, and our Commercial segment:
Our Valencia segment (formerly Newhall) includes operating results related to the Valencia community and agricultural operations in Los Angeles and Ventura Counties, California. Our investment in the Valencia Landbank Venture is also reported in the Valencia segment.
Our San Francisco segment includes operating results for the Candlestick and The San Francisco Shipyard communities, as well as results attributable to the development management services that we previously provided to affiliates of Lennar Corporation ("Lennar") in the San Francisco Bay Area. Our last remaining management agreement with Lennar was terminated in early 2020.
Our Great Park segment includes operating results for the Great Park Neighborhoods community as well as development management services provided by the management company for the Great Park Venture.
Our Commercial segment includes the operating results of the Gateway Commercial Venture's ownership in the Five Point Gateway Campus as well as property management services provided by the management company for the Gateway Commercial Venture.
Results of Operations
The following tables and related discussions on the results of operations are for the fiscal years ended December 31, 2021 and 2020. Refer to Item 7, "Management's Discussion and Analysis of Financial Condition and Results of Operations" under Part II of our annual report on Form 10-K for the fiscal year ended December 31, 2020 for financial data and related comparative discussions on results of operations for the fiscal years ended December 31, 2020 and 2019.
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The Company The following table summarizes our consolidated historical results of operations for the years ended December 31, 2021 and 2020. Year Ended December 31, 2021 2020 (in thousands) Statement of Operations Data REVENUES: Land sales $ 139,500 $ 69,398 Land sales-related party 43,286 53,219 Management services-related party 39,081 28,132 Operating properties 2,527 2,870 Total revenues 224,394 153,619 COSTS AND EXPENSES: Land sales 106,012 85,753 Management services 31,459 20,486 Operating properties 6,822 5,127 Selling, general, and administrative 77,118 83,504 Total costs and expenses 221,411 194,870 OTHER INCOME: Interest income 94 1,369 Miscellaneous 3,720 356 Total other income 3,814 1,725 EQUITY IN EARNINGS FROM UNCONSOLIDATED ENTITIES 6,188 42,364 INCOME BEFORE INCOME TAX PROVISION 12,985 2,838 INCOME TAX BENEFIT (PROVISION) 325 (1,744) NET INCOME 13,310 1,094 LESS NET INCOME ATTRIBUTABLE TO NONCONTROLLING INTERESTS 6,742 1,522 NET INCOME (LOSS) ATTRIBUTABLE TO THE COMPANY $ 6,568 $ (428)
Revenues. Revenues increased by $70.8 million, to $224.4 million for the year ended December 31, 2021, from $153.6 million for the year ended December 31, 2020. The increase in revenues was primarily due to more land sales at our Valencia segment in 2021 compared to 2020.
Cost of land sales. The cost of land sales increased by $20.3 million, to $106.0 million for the year ended December 31, 2021, from $85.8 million for the year ended December 31, 2020. The increase in cost of land sales was attributable to more land sales at our Valencia segment in 2021 compared to 2020.
Cost of management services. Cost of management services increased by $11.0 million, or 53.6%, to $31.5 million for the year ended December 31, 2021, from $20.5 million for the year ended December 31, 2020. The increase was primarily due to an increase in intangible asset amortization expense at our Great Park segment.
Selling, general, and administrative. Selling, general, and administrative expenses decreased by $6.4 million, or 7.6%, to $77.1 million for the year ended December 31, 2021, from $83.5 million for the year ended December 31, 2020. The decrease was primarily attributable to a decrease in corporate employee related expenses, including share-based compensation, offset by an increase in selling and marketing costs at our Valencia segment.
Equity in earnings from unconsolidated entities. Our consolidated results reflect our share in the earnings or losses of our interests in our unconsolidated entities, including the Great Park Venture and the Gateway Commercial Venture, within equity in earnings from unconsolidated entities on our consolidated statement of operations. Our segment results for the Great Park segment and the Commercial segment present the results of the Great Park Venture and the Gateway Commercial Venture at the book basis of the ventures within the respective segments.
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Equity in earnings from unconsolidated entities decreased by $36.2 million, to $6.2 million for the year ended December 31, 2021, from $42.4 million for the year ended December 31, 2020. Equity in earnings for the year ended December 31, 2021 was primarily a result of recognizing our share of the net income of the Great Park Venture generated from land and home sales during the period. At the end of the first quarter of 2020, we recognized an other-than-temporary impairment of $26.9 million attributed to our investment in the Great Park Venture, which is included in equity in earnings from unconsolidated entities in our consolidated statement of operations for 2020. The impairment was primarily a result of expected delays in both the timing of land sales to builders and distributions to us causing a decline in the fair value of our investment in the Great Park Venture. In determining that the impairment was other-than-temporary, we concluded at the time that it was uncertain if a near term recovery of value that was lost as a result of delays to expected land sales from the impacts at the onset of the COVID-19 pandemic would occur. See Note 4 to our consolidated financial statements included under Part II, Item 8 of this report. Offsetting the impairment loss for the year ended December 31, 2020 was our share of the gains from the sale of three buildings and land by the Gateway Commercial Venture.
Income tax provision. All operations are carried on through our subsidiaries, the majority of which are pass-through entities that are generally not subject to federal or state income taxation, as all of the taxable income, gains, losses, deductions, and credits are passed through to the partners, including the partners of the operating company and the San Francisco Venture. We are responsible for income taxes on our allocable share of the operating company's income or gain. Pre-tax income of $13.0 million for the year ended December 31, 2021 resulted in a tax benefit of $0.3 million. The tax benefit was primarily the result of a $0.8 million state tax benefit from a change in estimates when we filed our tax return for the tax year ended December 31, 2020 during 2021, offset by an increase in our net deferred tax liability after changes in our valuation allowance. We assessed the realization of the net deferred tax asset and the need for a valuation allowance, based on positive and negative evidence, and determined that at December 31, 2021 it was more likely than not that such net deferred tax assets would not be realized. Pre-tax income of $2.8 million for the year ended December 31, 2020 resulted in a tax provision of $1.7 million. The tax provision was primarily the result of a $2.9 million decrease to our net deferred tax asset offset by a $1.9 million decrease to our deferred tax asset valuation allowance. Additionally, we recognized approximately $0.8 million of current state tax provision as a result of California Assembly Bill 85, which suspended the use of net operating losses in tax years 2020 through 2021. Our effective tax rate, before changes in valuation allowance, for the year ended December 31, 2021 increased from the year ended December 31, 2020 due to an increase in executive compensation subject to limitations in 2021.
Net income attributable to noncontrolling interests. Until exchanged for our class A common shares or, at our election, cash, noncontrolling interests represent interests held by other partners in the operating company and other members of the San Francisco Venture. Net income attributable to the noncontrolling interests on the consolidated statement of operations represents the portion of earnings attributable to the interests in our subsidiaries held by the noncontrolling interests.
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Segment Results and Financial Information The following tables reconcile the results of operations of our segments to our consolidated results for the years ended December 31, 2021 and 2020 (in thousands). Year Ended December 31, 2021 Total Removal of reportable Corporate and Total under unconsolidated Valencia San Francisco Great Park Commercial segments unallocated management entities(1) Total consolidated REVENUES: Land sales $ 139,500 $ - $ 346,758 $ - $ 486,258 $ - $ 486,258 $ (346,758) $ 139,500 Land sales-related party 43,286 - 62,797 - 106,083 - 106,083 (62,797) 43,286 Home sales - - 26,172 - 26,172 - 26,172 (26,172) - Management services-related party(2) - - 38,675 406 39,081 - 39,081 - 39,081 Operating properties 1,979 548 - 8,475 11,002 - 11,002 (8,475) 2,527 Total revenues 184,765 548 474,402 8,881 668,596 - 668,596 (444,202) 224,394 COSTS AND EXPENSES: Land sales 106,012 - 301,247 - 407,259 - 407,259 (301,247) 106,012 Home sales - - 20,022 - 20,022 - 20,022 (20,022) - Management services(2) - - 31,459 - 31,459 - 31,459 - 31,459 Operating properties 6,822 - - 1,889 8,711 - 8,711 (1,889) 6,822 Selling, general, and administrative 18,340 5,190 30,658 4,473 58,661 53,588 112,249 (35,131) 77,118 Management fees-related party - - 25,969 - 25,969 - 25,969 (25,969) - Total costs and expenses 131,174 5,190 409,355 6,362 552,081 53,588 605,669 (384,258) 221,411 OTHER INCOME (EXPENSE): Interest income - - 496 - 496 94 590 (496) 94 Interest expense - - - (1,235) (1,235) - (1,235) 1,235 - Miscellaneous 1,672 1,070 - - 2,742 978 3,720 - 3,720 Total other income (expense) 1,672 1,070 496 (1,235) 2,003 1,072 3,075 739 3,814 EQUITY IN (LOSS) EARNINGS FROM UNCONSOLIDATED ENTITIES (903) - (1,409) - (2,312) - (2,312) 8,500 6,188 SEGMENT PROFIT (LOSS)/INCOME BEFORE INCOME TAX BENEFIT 54,360 (3,572) 64,134 1,284 116,206 (52,516) 63,690 (50,705) 12,985 INCOME TAX BENEFIT - - - - - 325 325 - 325 SEGMENT PROFIT (LOSS)/NET INCOME $ 54,360 $ (3,572) $ 64,134 $ 1,284 $ 116,206 $ (52,191) $ 64,015 $ (50,705) $ 13,310
(1) Represents the removal of the Great Park Venture and Gateway Commercial Venture operating results, which are included in the Great Park segment and Commercial segment operating results at 100% of each venture's historical basis, respectively, but are not included in our consolidated results as we account for our investment in each venture using the equity method of accounting.
(2) For the Great Park and Commercial segments, represents the revenues and expenses attributable to the management company for providing services to the Great Park Venture and the Gateway Commercial Venture, as applicable.
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Mar 11, 2022
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