XML 40 R28.htm IDEA: XBRL DOCUMENT

Description of business and summary of significant accounting policies (Policies)

3 Months Ended

Mar. 31, 2024

Description of business and summary of significant accounting policies [Abstract]

Smith Douglas Homes Corp. (the Company) was incorporated in the state of Delaware on June 20, 2023 (Date of Formation) for the purpose of facilitating an initial public offering (IPO) of its common stock and executing other related transactions in order to carry on the business of Smith Douglas Holdings LLC and its consolidated subsidiaries as a publicly-traded entity.

The Company is a builder of single-family homes in communities in certain markets in the southeastern and southwestern United States. The Company’s homes and communities are primarily targeted to first-time and empty-nest homebuyers. The Company currently operates in metropolitan Atlanta, Birmingham, Charlotte, Huntsville, Nashville, Raleigh and Houston. The Company operates a land-light business model whereby the Company typically purchases finished lots via lot-option contracts from various third-party land developers or land bankers. Additionally, the Company offers title insurance services through an unconsolidated title company.

Initial Public Offering and Reorganization Transactions

The Company successfully closed an IPO of 8,846,154 shares of Class A common stock at a public offering price of $21.00 per share on January 16, 2024, which included 1,153,846 shares of Class A common stock issued pursuant to the underwriters’ option to purchase additional shares of Class A common stock. The net proceeds from the IPO aggregated approximately $172.8 million. Shares of Class A common stock began trading on the New York Stock Exchange under the ticker symbol "SDHC" on January 11, 2024.

In connection with the IPO, Smith Douglas Holdings LLC amended and restated its existing limited liability company agreement to, among other things, (i) recapitalize all existing ownership interests in Smith Douglas Holdings LLC into 44,871,794 LLC Interests (before giving effect to the use of proceeds from the IPO, as described below), (ii) appoint Smith Douglas Homes Corp. as the sole managing member of Smith Douglas Holdings LLC upon its acquisition of LLC Interests in connection with the IPO, and (iii) provide certain redemption rights to the owners of the LLC Interests in Smith Douglas Holdings LLC, exclusive of the Company (the Continuing Equity Owners).

Simultaneously, Smith Douglas Homes Corp. amended and restated its certificate of incorporation to, among other things, provide (i) for Class A common stock, with each share of Class A common stock entitling its holder to one vote per share on all matters presented to the stockholders generally; (ii) for Class B common stock, with each share of Class B common stock entitling its holder to ten votes per share on all matters presented to the stockholders generally, until the aggregate number of shares of Class B common stock then outstanding is less than 10% of the aggregate number of shares of Class A common stock and Class B common stock then outstanding (Sunset Date), and from and after the occurrence of the Sunset Date, each share of Class B common stock will entitle its holder to one vote per share on all matters presented to the stockholders generally; (iii) that shares of Class B common stock may only be held by the Continuing Equity Owners and their respective permitted transferees; and (iv) for preferred stock, which can be issued by the board of directors in one or more series without stockholder approval. As a result, Smith Douglas Homes Corp. became a holding company and the sole managing member of Smith Douglas Holdings LLC and controls the business and affairs of Smith Douglas Holdings LLC. After giving effect to the use of net proceeds as described below, Smith Douglas Homes Corp. issued 42,435,897 shares of Class B common stock to the Continuing Equity Owners, which is equal to the number of LLC Interests held by such Continuing Equity Owners, for nominal consideration.

Subsequent to the IPO, Smith Douglas Homes Corp. used the net proceeds to: (i) purchase 6,410,257 newly issued LLC Interests for approximately $125.2 million directly from Smith Douglas Holdings LLC at a price per unit equal to $21.00 per share (IPO price) of Class A common stock less the underwriting discount; and (ii) purchase 2,435,897 LLC Interests from the Continuing Equity Owners on a pro rata basis for $47.6 million in aggregate at a price per unit equal to the IPO price per share of Class A common stock less the underwriting discount.

Basis of presentation

In accordance with accounting principles generally accepted in the United States of America (U.S. GAAP), since the Continuing Equity Owners continue to hold a controlling interest in Smith Douglas Holdings LLC after the IPO (i.e., there was no change in control of Smith Douglas Holdings LLC), the financial statements of the combined entity represent a continuation of the financial position and results of operations of Smith Douglas Holdings LLC. Accordingly, the historical cost basis of assets, liabilities, and equity of Smith Douglas Holdings LLC are carried over to the condensed consolidated financial statements of the combined company as a common control transaction.

The accompanying unaudited condensed consolidated financial statements for the periods prior to the Reorganization Transactions and IPO have been presented to combine the previously separate entities. These unaudited condensed consolidated financial statements have been prepared in accordance with U.S. GAAP and the applicable rules and regulations of the Securities and Exchange Commission for interim financial information. As such, these financial statements do not include all information and footnotes required by U.S. GAAP for annual financial statements. In the opinion of management, the unaudited condensed consolidated financial statements include all adjustments, consisting of normal recurring adjustments, necessary for the fair presentation of the Company’s financial position, results of operations and cash flows as of the dates and for the periods presented. A reclassification to the interim condensed consolidated financial statements and notes has been made to the prior year amount to conform to the current year presentation, which is not material.

These interim financial statements should be read in conjunction with the Company’s audited consolidated financial statements and notes thereto as of and for the year ended December 31, 2023, which are included in the Company’s Annual Report on Form 10-K for the year ended December 31, 2023. Historically, the homebuilding industry has experienced seasonal fluctuations; therefore, interim results are not necessarily indicative of results for the full fiscal year.

Principles of consolidation and non-controlling interest

Principles of consolidation and non-controlling interests

The accompanying condensed consolidated financial statements include the accounts of Smith Douglas Homes Corp. and Smith Douglas Holdings LLC and its wholly-owned subsidiaries. Smith Douglas Holdings LLC is considered a variable interest entity and Smith Douglas Homes Corp. is the primary beneficiary and sole managing member of Smith Douglas Holdings LLC and has decision making authority that significantly affects the performance of the entity. Accordingly, the Company consolidates Smith Douglas Holdings LLC and reports non-controlling interests representing the economic interest in Smith Douglas Holdings LLC held by the Continuing Equity Owners.

All intercompany balances and transactions have been eliminated in consolidation. Investments in unconsolidated entities in which the Company has less than a controlling financial interest are accounted for using the equity method.

The non-controlling interests in the condensed consolidated statement of income for the three months ended March 31, 2024 represent the portion of earnings attributable to the economic interest in Smith Douglas Holdings LLC held by the Continuing Equity Owners. The non-controlling interests in the condensed consolidated balance sheet as of March 31, 2024 represent the portion of the net assets of the Company attributable to the Continuing Equity Owners, based on the portion of the LLC Interests owned by such unit holders. As of March 31, 2024, the non-controlling interests were 82.7%.

Use of estimates in the preparation of condensed consolidated financial statements

The preparation of financial statements in conformity with U.S. GAAP requires management to make estimates and judgments that affect the amounts reported in the consolidated financial statements and accompanying notes. Actual results could differ from those estimates.

Business combinations

From time to time, the Company may enter into business combinations. In accordance with Accounting Standards Codification (ASC) Topic 805, Business Combinations, the Company generally recognizes the identifiable assets acquired and the liabilities assumed at their fair values as of the date of acquisition. The Company measures goodwill as the excess of consideration transferred over the net of the acquisition date fair values of the identifiable assets acquired and liabilities assumed. Goodwill is assigned to each reporting unit based upon the relative fair value of tangible assets acquired. The acquisition method of accounting requires the Company to make significant estimates and assumptions regarding the fair values of the elements of a business combination as of the date of acquisition, including the fair values of real estate inventory and contingent consideration. Significant estimates and assumptions impacting the fair value of the acquired real estate inventory include subjective and/or complex judgments regarding items such as estimates of future net proceeds, discount rate, and costs to complete. Significant estimates and assumptions impacting the fair value of contingent consideration include subjective and/or complex judgments regarding items such as the gross margin discount rate, gross margin volatility, drift rate, and cost of debt.

The acquisition method of accounting also requires the Company to refine these estimates over a measurement period not to exceed one year to reflect new information obtained about facts and circumstances that existed as of the acquisition date that, if known, would have affected the measurement of the amounts recognized as of that date. If the Company is required to adjust provisional amounts that have been recorded for the fair values of assets and liabilities in connection with acquisitions, these adjustments could have a material impact on the Company’s financial condition and results of operations. If the subsequent actual results and updated projections of the underlying business activity change compared with the assumptions and projections used to develop these values, the Company could record future impairment charges.

Note 19 describes the business combination completed during the year ended December 31, 2023 and the estimates, assumptions used, and areas for which the acquisition accounting is not yet finalized.

Cash and cash equivalents

The Company considers all highly liquid investments with original maturities of three months or less to be cash equivalents. As of March 31, 2024 and December 31, 2023, the majority of cash and cash equivalents were in demand deposit accounts with major financial institutions. At various times throughout the year, the Company may have cash deposited with these financial institutions that exceeds federally insured limits, and the Company could be negatively impacted if the underlying financial institutions fail or are subject to other adverse conditions. To date, the Company has experienced no loss or diminished access to cash in its demand deposit accounts.

Real estate inventory

Real estate inventory consists primarily of the capitalized costs of finished homes, homes under construction, and residential lots. The Company includes the costs of lot acquisitions, development, direct home construction, capitalized interest, closing costs and direct and certain indirect overhead costs incurred during home construction in real estate inventory.

Real estate inventory is stated at cost unless a community is determined to be impaired, at which point the inventory is written down to fair value as required by ASC Topic 360‑10, Property, Plant, and Equipment. The Company reviews its real estate inventory for indicators of potential impairment on a quarterly basis at the community level considering market and economic conditions, current sales absorption rates and recent profitability of new home sales. When an indicator of impairment is identified, the Company prepares and analyzes cash flows at the community level on an undiscounted basis. If the undiscounted cash flows are less than the community’s carrying value, the Company generally estimates the fair value using the estimated future discounted cash flows of the respective community. A community with a fair value less than its carrying value is written down to such fair value and resulting losses are reported within cost of home closings in the accompanying condensed consolidated statements of income. No impairments were recognized during the three months ended March 31, 2024 and 2023.

Deposits on real estate under option or contract

Deposits paid related to land and lot option purchase contracts are recorded and classified as deposits on real estate under option or contract until the related lots are purchased. Deposits are reclassified as a component of real estate inventory at the time the deposit is used to offset the acquisition price of the lots based on the terms of the underlying agreements. To the extent they are nonrefundable, deposits are expensed to cost of home closings if the option agreement is terminated or lot acquisition is no longer considered probable. There were no write offs of deposits associated with terminated option contracts during the three months ended March 31, 2024 and 2023. Since the Company’s land and lot option contracts typically do not require specific performance, the Company does not consider such contracts to be contractual obligations to purchase the lots and total exposure to loss under such contracts is limited to nonrefundable deposits and any capitalized preacquisition costs. See Note 10 for information on land and lot option contracts.

Real estate not owned

In limited circumstances, the Company may sell finished lots it owns to a land banker and simultaneously enter into an option agreement to repurchase those finished lots. In accordance with ASC 606‑10‑55‑70, these transactions are considered a financing arrangement rather than a sale because of the Company’s options to repurchase these parcels at a higher price. As of March 31, 2024 and December 31, 2023, approximately $13.6 million and $16.8 million, respectively, was recorded to real estate not owned, with a corresponding amount of approximately $13.6 million and $16.8 million, respectively, recorded to liabilities related to real estate not owned for the remaining balance of net cash received from the transactions for lots not yet repurchased (see Note 16 for information on transactions with related parties). The liabilities related to real estate not owned are excluded from the Company’s debt covenant calculations.

Investments in unconsolidated entities

Investments in unconsolidated entities, in which the Company has an ownership percentage interest or otherwise exercises significant influence, are accounted for under the equity method of accounting and are carried at cost, adjusted for the Company’s proportionate share of earnings or losses and distributions. Such investments are included in other assets in the accompanying condensed consolidated balance sheets. For cash flow classification, to the extent distributions do not exceed cumulative earnings, the Company designates such distributions as return on capital. Distributions in excess of cumulative earnings are treated as return of capital.

The Company regularly reviews its investments in unconsolidated entities to determine whether there is a decline in fair value below book value. If there is a decline that is other-than-temporary, the investment is written down to fair value. There were no other-than-temporary impairments of investments in unconsolidated entities recognized during the three months ended March 31, 2024 and 2023.

Property and equipment

Property and equipment are recorded at cost. Depreciation is generally recorded using the straight-line method over the estimated useful lives of the assets, which range from two to five years. Expenditures for maintenance and repairs are charged to expense as incurred. Additions and betterments are capitalized. The cost of property and equipment sold or otherwise disposed of, and the accumulated depreciation thereon, is eliminated from the property and equipment and accumulated depreciation accounts, and gains and losses are reflected in other income in the accompanying condensed consolidated statements of income.

Other assets

Other assets consist of the following (in thousands):

	March 31, 2024		December 31, 2023

Development reimbursement receivables from land bankers (Note 10)	$	6,231	$	10,550
Debt issuance costs, net of accumulated amortization		1,691		721
Prepaid insurance and other expenses		2,692		3,481
Operating lease right-of-use assets		1,647		1,789
Other assets		3,330		2,090
Total other assets	$	15,591	$	18,631

Debt issuance costs represent the fees associated with the Company’s revolving credit facility. These costs are recorded in the accompanying condensed consolidated balance sheets within other assets and amortized using the straight-line method over the term of the credit facility. As of March 31, 2024 and December 31, 2023, debt issuance costs net of accumulated amortization totaled approximately $1.7 million and $0.7 million, respectively. Amortization of debt issuance costs was approximately $0.3 million and $0.2 million for the three months ended March 31, 2024 and 2023, respectively, and is included in interest expense in the accompanying condensed consolidated statements of income.

Goodwill

Goodwill totaled $25.7 million as of March 31, 2024 and December 31, 2023, respectively, and represents the excess of the purchase price of the Devon Street acquisition (see Note 19) above the preliminary estimate of fair value of the net assets acquired at the acquisition date. The Company assesses goodwill for impairment each year as of October 1 and between annual evaluations if events or circumstances change that would more likely than not reduce the fair value of the reporting unit to which the goodwill was assigned below its carrying amount. When evaluating goodwill for impairment, the Company may perform the optional qualitative assessment by considering factors including macroeconomic conditions, industry and market conditions, overall financial performance and other relevant entity-specific events. If the Company bypasses the qualitative assessment, or if the Company concludes that it is more likely than not that the fair value of a reporting unit is less than its carrying value, the Company will perform quantitative impairment testing by comparing the fair value of a reporting unit with its carrying amount. The Company performed its annual impairment assessment for goodwill as of October 1, 2023 and concluded there was no impairment of the recorded balance. As of March 31, 2024 and December 31, 2023, no events or changes in circumstances indicate the carrying value may not be recoverable.

Warranty reserves

Homebuyers are provided with a limited warranty against certain building defects for up to one year after the home closing and a limited warranty against structural claims for up to 10 years after the home closing. The Company estimates the costs to be incurred under these warranties and records a liability in the amount of such costs at the time revenue is recognized. Such costs primarily include repairs of minor construction and cosmetic defects associated with homeowner claims. The Company estimates warranty reserves based on historical data and trends for its communities and periodically assesses the adequacy of its recorded warranty liability and adjusts the amounts as necessary. Warranty reserves are included in accrued expenses and other liabilities in the accompanying condensed consolidated balance sheets, and additions and adjustments to the reserves are included in cost of home closings within the accompanying condensed consolidated statements of income. Actual warranty costs could differ from the current estimates.

Leases

ASC Topic 842, Leases, provides practical expedients and accounting policy elections for ongoing lease accounting. The Company has elected the recognition exemption for short-term leases for all leases that qualify. Under this exemption, the Company will not recognize right-of-use (ROU) assets or lease liabilities for those leases that qualify as a short-term lease (a lease term of 12 months of less), which includes not recognizing ROU assets or lease liabilities for existing short-term leases of those assets in transition. The Company has also elected the practical expedient to not separate lease and non-lease components for all existing asset classes.

Revenue recognition

The Company recognizes revenue when a home closes with a homebuyer, which is the time at which title and possession of the property are transferred to that homebuyer and all cash consideration due from the homebuyer is received. The Company’s performance obligation, to deliver the home, is generally satisfied in less than one year from the original contract date.

When the Company executes sales contracts with its homebuyers, or when it requires advance payment from homebuyers for custom changes, upgrades or options related to their homes, the cash deposits received are recorded as contract liabilities until the homes are closed or the contracts are canceled. The Company either retains or refunds to the customer deposits on canceled sales contracts, depending upon the applicable provisions of the contract or other circumstances. As of March 31, 2024 and December 31, 2023, customer deposits totaled $9.0 million and $7.2 million, respectively. Substantially all customer deposits are recognized in revenue within one year of being received from homebuyers.

Cost of home closings

Cost of home closings includes the costs of lot acquisition, development, direct home construction, capitalized interest, closing costs, direct and certain indirect overhead costs and estimated warranty for the homes. Estimates of costs incurred or to be incurred but not paid are accrued and expensed at the time of closing.

Share-based payments

Equity-based compensation is accounted for as an expense in accordance with the fair value recognition and measurement provisions of U.S. GAAP which requires compensation cost for the grant-date fair value of equity-based awards to be recognized over the requisite service period. The Company accounts for forfeitures when they occur, and any compensation expense previously recognized on unvested equity-based awards will be reversed when forfeited. The fair value of restricted stock units (RSUs) is based on the fair value of the Class A common stock at the time of grant.

Income taxes

After consummation of the IPO, Smith Douglas Homes Corp. became subject to U.S. federal, state, and local income taxes with respect to its allocable share of taxable income of Smith Douglas Holdings LLC assessed at the prevailing corporate tax rates. Smith Douglas Holdings LLC operates as a limited liability company and is treated as a partnership for income tax purposes. Accordingly, it incurs no significant liability for federal or state income taxes since the taxable income or loss is passed through to its members. Smith Douglas Holdings LLC incurs liabilities for certain state taxes payable directly by it, which are not significant and for which the expense is included in the provision for income taxes in the accompanying condensed consolidated statement of income for the three months ended March 31, 2024 and in selling, general and administrative costs in the accompanying condensed consolidated statement of income for the three months ended March 31, 2023.

In calculating the provision for interim income taxes, in accordance with ASC Topic 740, Income Taxes, an estimated annual effective tax rate is applied to year-to-date ordinary income. At the end of each interim period, the Company estimates the effective tax rate expected to be applicable for the full fiscal year. This differs from the method utilized at the end of an annual period.

For annual periods, income taxes are accounted for using the asset and liability method. Under this method, deferred tax assets and liabilities are recognized for the estimated future tax consequences attributable to differences between the financial statement carrying amounts of existing assets and liabilities and their respective tax bases. In assessing the realizability of deferred tax assets, management considers whether it is more-likely-than-not that the deferred tax assets will be realized. Deferred tax assets and liabilities are calculated by applying existing tax laws and the rates expected to apply to taxable income in the years in which those temporary differences are expected to be recovered or settled. The effect of a change in tax rates on deferred tax assets and liabilities is recognized in the year of the enacted rate change.

The Company recognizes the tax benefit from an uncertain tax position only if it is more likely than not that the tax position will be sustained on examination by the taxing authority, based on the technical merits of the position. As of March 31, 2024 and December 31, 2023, there were no known items which would result in a significant accrual for uncertain tax positions.

Tax receivable agreement

In connection with the IPO and related transactions, the Company entered into a Tax Receivable Agreement (TRA) with Smith Douglas Holdings LLC and the Continuing Equity Owners that will provide for the payment by Smith Douglas Homes Corp. to the Continuing Equity Owners of 85% of the amount of tax benefits, if any, that Smith Douglas Homes Corp. realizes (or in some circumstances is deemed to realize) related to the tax basis adjustments described in Note 14 as such savings are realized.

In addition to tax expenses, the Company will also make payments under the TRA, which are expected to be significant. The Company will account for the income tax effects and corresponding TRA’s effects resulting from future taxable purchases or redemptions of LLC Interests of the Continuing Equity Owners by recognizing an increase in deferred tax assets, based on enacted tax rates at the date of the purchase or redemption. Further, the Company will evaluate the likelihood that it will realize the benefit represented by the deferred tax asset and, to the extent that management estimates that it is more likely than not that the Company will not realize the benefit, the Company will reduce the carrying amount of the deferred tax asset with a valuation allowance. The amounts to be recorded for both the deferred tax assets and the liability for obligations under the TRA will be estimated at the time of any purchase or redemption as a reduction to stockholders’ equity, and the effects of changes in any estimates after this date will be included in net income. Similarly, the effect of subsequent changes in the enacted tax rates will be included in net income. Judgement is required in assessing the future tax consequences of events that have been recognized in the Company’s financial statements. A change in the Company’s assessment of such consequences, such as realization of deferred tax assets, changes in tax laws or interpretations thereof could materially impact results.

Advertising costs

The Company expenses advertising costs as they are incurred. Advertising expense, which is included in selling, general and administrative costs in the accompanying condensed consolidated statements of income, was approximately $1.2 million and $1.0 million for the three months ended March 31, 2024 and 2023, respectively.

Recent accounting pronouncements

Recent rules and accounting pronouncements

In November 2023, the Financial Accounting Standards Board (FASB) issued Accounting Standards Update 2023-07, "Segment Reporting (Topic 280): Improvements to Reportable Segment Disclosures" (ASU 2023-07), which requires expanded disclosure of significant segment expenses and other segment items on an annual and interim basis. ASU 2023-07 is effective for the Company for annual periods beginning after January 1, 2024 and interim periods beginning after January 1, 2025. The Company is currently evaluating the impact ASU 2023-07 will have on its financial statement disclosures.

In December 2023, FASB issued ASU 2023-09, “Income Taxes (Topic 740): Improvements to Income Tax Disclosures” (ASU 2023-09), which requires expanded disclosure of the Company’s income rate reconciliation and income taxes paid. ASU 2023-09 is effective for the Company for annual periods beginning after January 1, 2025. The Company is currently evaluating the impact ASU 2023-09 will have on its financial statement disclosures.

In March 2024, the Securities and Exchange Commission (SEC) adopted the final rules that will require certain climate-related information in registration statements and annual reports. In April 2024, the SEC voluntarily stayed the new rules as a result of pending legal challenges. The new rules include a requirement to disclose material climate-related risks, descriptions of board oversight and risk management activities, the material impacts of these risks on a registrants' strategy, business model and outlook, and any material climate-related targets or goals, as well as material effects of severe weather events and other natural conditions and greenhouse gas emissions. Prior to the stay in the new rules, they would have been effective for annual periods beginning January 1, 2025, except for the greenhouse gas emissions disclosure which would have been effective for annual periods beginning January 1, 2026. The Company is currently evaluating the impact of these rules on its disclosures.