STRATUS PROPERTIES INC 10-Q

Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations . In Management’s Discussion and Analysis of Financial Condition and Results of Operations (MD&A), “we,” “us,” “our” and "Stratus" refer to Stratus Properties Inc. and all entities owned or controlled by Stratus Properties Inc. You should read the following discussion in conjunction with our consolidated financial statements and accompanying notes, related MD&A and discussion of our business and properties included in our Annual Report on Form 10-K for the year ended December 31, 2021 (2021 Form 10-K) filed with the United States (U.S.) Securities and Exchange Commission (SEC) and the unaudited consolidated financial statements and accompanying notes included in this Form 10-Q. The results of operations reported and summarized below are not necessarily indicative of future operating results, and future results could differ materially from those anticipated in forward-looking statements (refer to “Cautionary Statement” and Part II, Item 1A. “Risk Factors” herein and Part I, Item 1A. “Risk Factors” of our 2021 Form 10-K for further discussion). All subsequent references to “Notes” refer to Notes to Consolidated Financial Statements (Unaudited) located in Part I, Item 1. “Financial Statements” herein, unless otherwise stated. OVERVIEW We are a diversified real estate company with headquarters in Austin, Texas. We are engaged primarily in the acquisition, entitlement, development, management, leasing and sale of multi-family and single-family residential real estate properties and commercial properties in the Austin, Texas area and other select markets in Texas. We generate revenues and cash flows from the sale of our developed and undeveloped properties and the lease of our retail, mixed-use and multi-family properties. Our portfolio consists of approximately 1,700 acres of undeveloped acreage and acreage under development for commercial and multi-family and single-family residential projects, as well as several completed commercial and residential projects. Refer to Note 9 for discussion of our operating segments and “Business Strategy” below for a discussion of our business strategy. BUSINESS STRATEGY Results of Our Strategic Planning Process Over the last six quarters, we have generated pre-tax earnings of $218.9 million and after-tax cash flow of approximately $166 million from the sales of Block 21 (including $6.9 million of proceeds held in escrow for a year after the sale), The Santal and The Saint Mary. Our Board of Directors (Board) and management team engaged in a strategic planning process, which included consideration of the uses of proceeds from the sale of Block 21 and other recent sales in 2021, and of our long-term business strategy. As a result of our Board’s strategic planning process, in August 2022, we announced that our Board has approved returning $50.0 million cash to stockholders, subject to obtaining required consents from Comerica Bank. This return of capital could be in the form of share repurchases, dividends or a combination. After streamlining our business through the sale of Block 21, our Board has decided to continue our successful development program, with our proven team focusing on pure residential and residential-focused mixed-use projects in Austin and other select markets in Texas, which we believe continue to be attractive locations. We believe by methodically developing and enhancing the value of our properties and then selling them or holding them for lease, we can create long-term value for our stockholders. Our development plans require significant additional capital. We plan to continue to develop properties using project-level debt and third-party equity capital through joint ventures in which we receive development management fees and asset management fees, with our potential returns increasing above our relative equity interest in each project as negotiated return hurdles are achieved. We expect to reduce our reliance on our revolving credit facility and retain sufficient cash to operate our business, taking into account risks associated with changing market conditions. As previously disclosed, we are exploring a potential sale or refinancing of Kingwood Place, Jones Crossing and West Killeen Market, and we are also pursuing other projects, which may produce additional cash to return to stockholders, subject to market conditions and obtaining any required consents. We have undeveloped properties currently undergoing active planning, including our two large projects Holden Hills and Section N. Refer to “Recent Development Activities” below for a discussion of these projects. We will re-evaluate our strategy as development progresses on these and other projects in our pipeline, and as market conditions stabilize. 18 Table of Contents OVERVIEW OF FINANCIAL RESULTS On May 31, 2022, we completed the previously announced sale of Block 21 to Ryman Hospitality Properties, Inc. (Ryman) for $260.0 million, subject to certain purchase price adjustments, and including Ryman’s assumption of $136.2 million of existing mortgage debt, with the remainder paid in cash. Our net proceeds of cash and restricted cash totaled $112.3 million (including $6.9 million of post-closing escrow amounts to be held for 12 months after the closing, subject to a longer retention period with respect to any required reserve for pending claims). We recorded a pre-tax gain on the sale of $119.7 million ($94.1 million net of taxes) in second-quarter 2022. Block 21 was our wholly owned mixed-use real estate property in downtown Austin, Texas. Block 21 contains the 251-room W Austin Hotel and is home to Austin City Limits Live at the Moody Theater, a 2,750-seat entertainment venue that serves as the location for the filming of Austin City Limits, the longest running music series in American television history. Block 21 also includes Class A office space, retail space and the 3TEN ACL Live entertainment venue and business. The sale of Block 21 eliminated our Hotel and Entertainment segments. As a result, our hotel and entertainment operations, as well as the leasing operations associated with Block 21, are reported as discontinued operations for all periods presented in the financial statements included in this Form 10-Q. Refer to Note 4 for further discussion. As described in this report and in our 2021 Form 10-K, in December 2021, one of our wholly owned subsidiaries sold The Santal multi-family property for $152.0 million, which after closing costs and payment of the outstanding project loan, generated net proceeds of approximately $74 million. In January 2021, one of our subsidiaries sold The Saint Mary multi-family property for $60.0 million of which we received $21.9 million after closing costs, payment of the construction loan, reserves for remaining costs of the partnership and distributions to noncontrolling interest owners. Net proceeds from the sales were used to pay down the balance of our $60.0 million Comerica Bank credit facility and for other corporate purposes. Our Real Estate Operations encompass our activities associated with our acquisition, entitlement, development and sale of real estate. The current focus of our real estate operations is multi-family and single-family residential properties and residential-focused mixed-use properties. We may sell or lease the real estate we develop, depending on market conditions. Real estate that we develop and then lease becomes part of our Leasing Operations. Revenue in our Real Estate Operations may be generated from the sale of properties that are developed, undeveloped or under development, depending on market conditions. Developed property sales can include an individual tract of land that has been developed and permitted for residential use or a developed lot with a residence already built on it. In addition to our developed properties, we have a development portfolio that consists of approximately 1,700 acres of commercial and multi-family and single-family residential projects under development or undeveloped land held for future use. Revenue in our Leasing Operations is generated from the lease of space at retail and mixed-use properties that we developed and the lease of residences in the multi-family projects that we developed. We also generate income from the sale of our leased properties, depending on market conditions. Our total stockholders’ equity increased to $262.4 million at June 20, 2022, from $158.1 million at December 31, 2021, and $98.9 million at December 31, 2020, primarily as a result of gains realized on the sale of Block 21 in May 2022 and our sales of The Santal and The Saint Mary in December 2021 and January 2021, respectively. Our revenues totaled $11.1 million in second-quarter 2022 and $14.2 million for the first six months of 2022, compared with $5.6 million in second-quarter 2021 and $17.0 million for the first six months of 2021. The increase in revenues in second-quarter 2022, compared to second-quarter 2021, is primarily a result of the sales of undeveloped real estate properties as well as a completed Amarra Villas home in our Real Estate Operations segment in second-quarter 2022, partially offset by a decrease in leasing revenue as a result of the sale of The Santal multi-family project in late 2021. The decrease in revenues for the first six months of 2022, compared to the first six months of 2021, is primarily a result of a decrease in leasing revenue following the sales of The Saint Mary and The Santal multi-family projects in 2021. Refer to "Results of Operations" below for further discussion of our segments. Our net income attributable to common stockholders totaled $96.6 million, or $11.53 per diluted share in second-quarter 2022, compared to a net loss of $10.2 million, or $1.23 per diluted share, in second-quarter 2021. During the first six months of 2022 our net income attributable to common stockholders totaled $98.9 million, or $11.82 per diluted share, compared to a net loss attributable to common stockholders of $1.2 million, or $0.15 per diluted share, during the first six months of 2021. Our results for the 2022 periods include a $119.7 million pre-tax gain 19 Table of Contents ($94.1 million net of taxes) on the sale of Block 21. Refer to Note 4 under the heading “Block 21 - Discontinued Operations” for additional discussion. The results during the first six months of 2022 also include a $4.8 million pre-tax gain recognized on the reversal of accruals for costs to lease and construct buildings under a master lease arrangement that Stratus entered into in connection with its sale of The Oaks at Lakeway in 2017. Refer to Note 4 under the heading “The Oaks at Lakeway” for additional discussion. Our net losses attributable to common stockholders in the 2021 periods include net losses from discontinued operations of $5.9 million and $8.4 million for second-quarter 2021 and the first six months of 2021, respectively, as our former hotel and entertainment operations included in Block 21 were impacted by the COVID-19 pandemic. Our net losses attributable to common stockholders in the 2021 periods also include charges to general and administrative expenses for consulting, legal and public relation costs incurred in connection with our successful proxy contest and our real estate investment trust (REIT) exploration process. Our results for the first six months of 2021 were positively impacted by the $22.9 million pre-tax gain ($16.2 million net of noncontrolling interests) on the January 2021 sale of The Saint Mary, a 240-unit luxury garden-style multi-family project in the Circle C community. Market Conditions Our industry has continued to experience increases in costs of land, construction materials (such as rebar, concrete and lumber) and labor, along with supply chain constraints. In addition, interest rates have been rising and bank credit has been tightening in our industry. These factors are having an adverse impact on the projected profitability of our new projects and have delayed projects under construction and the commencement of construction on new projects. In addition, on completed projects, we are experiencing increased borrowing costs on our variable rate debt and increased operating costs due to inflation. To manage these risks, we go through extensive pricing exercises culminating with competitive bids from reputable contractors based on final plans and specifications. Because we engage third-party general contractors to construct our projects on a fixed-price or guaranteed maximum price basis, our exposure to cost increases on projects under construction is limited; however, rising costs and delays in delivery of materials may increase the risk of default by contractors and subcontractors. To date, these rising costs have not had a material impact on our financial results, as we have been able to realize higher rents and sales prices; however, this may not continue to be the case in the future. Refer to “Risk Factors” included in Part II, Item 1A. herein. RECENT DEVELOPMENT ACTIVITIES Current Residential Activities Barton Creek In second-quarter 2022, we sold a six-acre undeveloped multi-family tract of land for $2.5 million. As of June 30, 2022, two developed Amarra Drive Phase III lots remained unsold. The Villas at Amarra Drive (Amarra Villas) project is a 20-unit development in the Barton Creek community for which we completed construction and sale of the first seven homes between 2017 and 2019. We began construction on the next two Amarra Villas homes during first-quarter 2020, one of which was completed and sold for $2.4 million in second-quarter 2022. In 2021, we began construction of one additional home and in March 2022, we began construction on another two homes. We began construction on the remaining eight homes in second-quarter 2022. Construction on the last 12 units continue to progress, and as of August 12, 2022, 3 homes were under contract to sell and 9 Amarra Villas homes remain available for sale of the 20-unit project. In third-quarter 2021, we began construction on The Saint June, a 182-unit luxury garden-style multi-family project within the Amarra development. The Saint June is comprised of multiple buildings featuring one, two and three bedroom units for lease with amenities that include a resort-style clubhouse, fitness center, pool and extensive green space. The first units of The Saint June are currently expected to be completed in fourth-quarter 2022 with completion of the project expected in first-quarter 2023. We continue to progress the development plans for Holden Hills, our final large residential development within the Barton Creek community consisting of 495 acres and designed to feature 475 unique residences to be developed in multiple phases with a focus on health and wellness, sustainability and energy conservation. We have obtained construction permits for Phase I, and subject to obtaining financing and other market conditions, we currently expect to start infrastructure construction in late 2022 and to complete site work for Phase I, including the construction of road, utility, drainage and other required infrastructure, approximately 20 to 22 months from the start of construction. Accordingly, our current projections anticipate that we could start building homes and/or selling home sites in late 20 Table of Contents 2024. We may sell the developed home sites, or may elect to build and sell, or build and lease, homes on some or all of the home sites, depending on financing and market conditions. Using a conceptual approach similar to that used for Holden Hills, we continue to progress the development plans for Section N, our approximately 570-acre tract located along Southwest Parkway in the southern portion of the Barton Creek community. If successful, this new project would be designed as a dense, mid-rise, mixed-use project surrounded by an extensive greenspace amenity, resulting in a significant potential increase in development density, as compared to our prior plans. The Annie B In September 2021, we purchased the land and announced plans for The Annie B, a proposed luxury high-rise rental project in downtown Austin to be developed as a 400-foot tower, consisting of approximately 440,000 square feet with 316 luxury multi-family units for lease. We currently expect to begin construction in 2023, subject to obtaining financing and other market conditions. The Saint George In December 2021, we purchased the land for The Saint George, a 316-unit luxury wrap-style, multi-family project to be constructed in north-central Austin. We entered into a construction loan for this project in July 2022 and began construction in third-quarter 2022. We currently expect to achieve substantial completion by mid-2024. Lantana Multi-Family, Magnolia Place, Jones Crossing, Kingwood Place and Other Residential We have advanced development plans for the multi-family component of Lantana Place, a partially developed, mixed-use development project located south of Barton Creek in Austin, and, subject to securing an acceptable capital structure and other market conditions, currently expect to begin construction in 2023. The multi-family component is now known as The Saint Julia and is expected to consist of 306 units. During second-quarter 2022, we sold an undeveloped tract of land in Austin for $0.6 million. In August 2022, we sold 28 acres of undeveloped residential land for $3.2 million at Magnolia Place, an H-E-B, L.P (H-E-B) grocery shadow-anchored, mixed-use project in Magnolia, Texas. We also continue to evaluate options for the multi-family component of Jones Crossing, an H-E-B grocery anchored, mixed-use development located in College Station, Texas. In September 2021, we entered into a contract to sell a multi-family tract of land currently planned for approximately 275 multi-family units for $5.5 million at Kingwood Place, an H-E-B grocery anchored, mixed-use project in Kingwood, Texas. If consummated, the sale is expected to close in the second half of 2022. For further discussion of our multi-family and single-family residential properties, refer to MD&A and the related sections in Items 1. and 2. “Business and Properties” in our 2021 Form 10-K. Current Commercial Activities Magnolia Place In August 2021, we began construction on the first phase of development of Magnolia Place, our H-E-B grocery shadow-anchored, mixed-use project in Magnolia, Texas. Magnolia Place is currently planned to consist of four retail buildings totaling approximately 35,000 square feet, five retail pad sites to be sold or ground leased, 194 single-family lots and approximately 500 multi-family units. The first phase of development consists of two retail buildings totaling 18,987 square feet, all five pad sites and the road, utility and drainage infrastructure necessary to support the entire development. Infrastructure construction was completed in second-quarter 2022. The two retail buildings were completed in July 2022 and turned over to our retail tenants to begin their finish-out process. In mid-2021, H-E-B began construction on its 95,000-square-foot grocery store on an adjoining 18-acre site owned by H-E-B, which is expected to open in fourth-quarter 2022. During second-quarter 2022, we sold one completed pad site for $2.3 million. Lantana Place As of June 30, 2022, we had signed leases for approximately 90 percent of the retail space at Lantana Place, including the anchor tenant, Moviehouse & Eatery, and a ground lease for an AC Hotel by Marriott. Lantana Place is our partially developed, mixed-use development project within the Lantana community south of Barton Creek in Austin, Texas. 21 Table of Contents Kingwood Place Kingwood Place is our H-E-B-anchored, mixed-use development project in Kingwood, Texas (in the greater Houston area). We have constructed approximately 152,000 square feet of retail space at Kingwood Place, including an H-E-B grocery store, and we have signed ground leases on four of the retail pads. One pad site remains available for lease. As of June 30, 2022, we had signed leases for approximately 90 percent of the retail space, including the H-E-B grocery store. We are exploring a potential sale or refinancing of Kingwood Place. Jones Crossing As of June 30, 2022, we had signed leases for substantially all of the retail space at the first phase of Jones Crossing. Jones Crossing is our H-E-B-anchored, mixed-use project in College Station, Texas. We are exploring a potential sale or refinancing of Jones Crossing. West Killeen Market As of June 30, 2022, we had signed leases for approximately 70 percent of the retail space at West Killeen Market, our retail project located in Killeen, Texas, shadow-anchored by an adjacent H-E-B grocery store. We have entered into a contract to sell the last remaining pad site for $1.0 million and the sale is expected to close in third-quarter 2022. We are exploring a potential sale or refinancing of West Killeen Market. For further discussion of our commercial properties, refer to MD&A and the related sections in Items 1. and 2. “Business and Properties” in our 2021 Form 10-K. Potential Development Projects and Pipeline Our development plans for The Annie B, Holden Hills, Section N and The Saint Julia will require significant additional capital, which we currently intend to pursue through project-level debt and third-party equity capital arrangements through joint ventures in which we receive development management fees and asset management fees, and with our potential returns increasing above our relative equity interest in each project as negotiated return hurdles are achieved. We are also pursuing other development projects. These potential development projects and projects in our pipeline require extensive additional permitting and will be dependent on market conditions and financing. Because of the nature and cost of the approval and development process and uncertainty regarding market demand for a particular use, there is uncertainty regarding the nature of the final development plans and whether we will be able to successfully execute the plans. RESULTS OF OPERATIONS We are continually evaluating the development and sale potential of our properties and will continue to consider opportunities to enter into transactions involving our properties, including possible sales, joint ventures or other arrangements. As a result, and because of numerous factors affecting our business activities as described herein and in our 2021 Form 10-K, our past operating results are not necessarily indicative of our future results. We use operating income or loss to measure the performance of each operating segment. Corporate, eliminations and other includes consolidated general and administrative expenses, which primarily consist of employee compensation and other costs described herein. 22 Table of Contents The following table summarizes our operating results (in thousands): Three Months Ended Six Months Ended June 30, June 30, 2022 2021 2022 2021 Operating income (loss): Real Estate Operations a $ 2,471 $ (807) $ 1,103 $ 1,329 Leasing Operations 1,465 1,139 7,521 b 25,292 c Corporate, eliminations and other d (3,441) (6,212) (6,608) (10,518) Operating income (loss) $ 495 $ (5,880) $ 2,016 $ 16,103 Interest expense, net $ — $ (779) $ (15) $ (1,835) Net income (loss) from continuing operations $ 532 $ (4,306) $ 2,344 $ 13,868 Net income (loss) from discontinued operations $ 95,925 e $ (5,898) $ 96,300 e $ (8,406) Net loss (income) attributable to noncontrolling interests in subsidiaries $ 164 $ 41 $ 249 $ (6,681) Net income (loss) attributable to common stockholders $ 96,621 $ (10,163) $ 98,893 $ (1,219) a. Includes sales commissions and other revenues together with related expenses. b. Includes a $4.8 million pre-tax gain recognized on the reversal of accruals for costs to lease and construct buildings under a master lease arrangement that Stratus entered into in connection with its sale of The Oaks at Lakeway in 2017. Refer to Note 4 under the heading “The Oaks at Lakeway” for additional discussion. c. Includes a $22.9 million pre-tax gain on the January 2021 sale of The Saint Mary. d. Includes consolidated general and administrative expenses and eliminations of intersegment amounts. The decreases in 2022 from the comparable prior year periods are primarily the result of $3.3 million incurred in second-quarter 2021 and $4.4 million incurred for the first six months of 2021 for consulting, legal and public relation costs for our successful proxy contest and the REIT exploration process. e. Includes a $119.7 million pre-tax gain ($94.1 million net of taxes) on the May 2022 sale of Block 21. As a result of the May 2022 sale of Block 21, we currently have two operating segments: Real Estate Operations and Leasing Operations (refer to Note 9). The following is a discussion of our operating results by segment. Real Estate Operations The following table summarizes our Real Estate Operations results (in thousands): Three Months Ended Six Months Ended June 30, June 30, 2022 2021 2022 2021 Revenues: Developed property sales $ 2,382 $ 575 $ 2,382 $ 4,615 Undeveloped property sales 5,444 — 5,444 2,500 Commissions and other 101 198 124 218 Total revenues 7,927 773 7,950 7,333 Cost of sales, including depreciation 5,456 1,580 6,847 6,004 Operating income (loss) $ 2,471 $ (807) $ 1,103 $ 1,329 23 Table of Contents Developed Property Sales. The following table summarizes our developed property sales (dollars in thousands): Three Months Ended June 30, 2022 2021 Homes Revenues Average Cost Per Home Lots Revenues Average Cost Per Lot Barton Creek Amarra Drive: Amarra Villas homes 1 $ 2,382 $ 2,382 — $ — $ — Phase III lots — — — 1 575 233 Total Residential 1 $ 2,382 1 $ 575 Six Months Ended June 30, 2022 2021 Homes Revenues Average Cost Per Home Lots/Units Revenues Average Cost Per Lot/Unit Barton Creek Amarra Drive: Amarra Villas homes 1 $ 2,382 $ 2,382 — $ — $ — Phase III lots — — — 3 2,215 299 W Austin Hotel & Residences Project Condominium Unit — — — 1 2,400 1,721 Total Residential 1 $ 2,382 4 $ 4,615 The increase in revenues from developed property sales in second-quarter 2022 compared to second-quarter 2021, reflects the sale of an Amarra Villas home for $2.4 million in 2022. The decrease in revenues from developed property sales for the first six months of 2022, compared to the first six months of 2021, reflects no lot sales in the 2022 period, as inventory of developed properties in our Real Estate Operations segment is limited. In addition, the first six months of 2021 included revenue from the sale of our last condominium unit at the W Austin Hotel & Residences. Undeveloped Property Sales. During second-quarter 2022 and the first six months of 2022, we closed $5.4 million of undeveloped property sales consisting of (i) a six-acre multi-family tract of land in Amarra Drive for $2.5 million, (ii) a completed pad site at Magnolia Place for $2.3 million and (iii) a tract of land in Austin for $0.6 million. During the first six months of 2021, we sold a five-acre multi-family tract of land in Amarra Drive for $2.5 million. Cost of Sales. Cost of sales includes costs of property sold, project operating and marketing expenses and allocated overhead costs, partly offset by reductions for certain municipal utility district (MUD) reimbursements. Cost of sales increased to $5.5 million in second-quarter 2022 and $6.8 million for the first six months of 2022, compared to $1.6 million in second-quarter 2021 and $6.0 million for the first six months of 2021, primarily reflecting higher real estate revenues in the 2022 periods. 24 Table of Contents Leasing Operations The following table summarizes our Leasing Operations results (in thousands): Three Months Ended Six Months Ended June 30, June 30, 2022 2021 2022 2021 Rental revenue $ 3,200 $ 4,863 $ 6,280 $ 9,681 Rental cost of sales, excluding depreciation 870 2,192 1,854 4,244 Depreciation 865 1,532 1,717 3,076 Gain on sale of assets — — (4,812) (22,931) Operating income $ 1,465 $ 1,139 $ 7,521 $ 25,292 Rental Revenue. Rental revenue primarily includes revenue from Lantana Place, Jones Crossing, Kingwood Place and West Killeen Market, and until their sales in December 2021 and January 2021, respectively, our multi-family projects The Santal and The Saint Mary. The decrease in rental revenue in the 2022 periods, compared with the 2021 periods, primarily reflects the sale of The Santal in December 2021, partly offset by increased revenue at Lantana Place. The Santal had rental revenue of $2.3 million in second-quarter 2021 and $4.5 million during the first six months of 2021. Rental Cost of Sales and Depreciation. Rental cost of sales and depreciation expense decreased in second-quarter 2022 and the first six months of 2022, compared with the 2021 periods, primarily as a result of the sale of The Santal. Gain on Sale of Assets. For the first six months of 2022, we recognized a gain on the reversal of accruals for costs to lease and construct buildings under a master lease arrangement that Stratus entered into in connection with its sale of The Oaks at Lakeway in 2017. Refer to Note 4 under the heading “The Oaks at Lakeway” for further discussion. In January 2021, one of our subsidiaries sold The Saint Mary for $60.0 million. After closing costs and payment of the outstanding construction loan, the sale generated net proceeds of approximately $34 million. In first-quarter 2021, after establishing a reserve for remaining costs of the partnership, we received $20.9 million from the subsidiary in connection with the sale and $12.9 million of the net proceeds were distributed to the noncontrolling interest owners. We recognized a pre-tax gain on the sale of $22.9 million ($16.2 million net of noncontrolling interests) for the first six months of 2021. Corporate, Eliminations and Other Corporate, eliminations and other (refer to Note 9) includes consolidated general and administrative expenses, which primarily consist of employee compensation and other costs. Consolidated general and administrative expenses decreased to $3.4 million in second-quarter 2022 and $6.6 million for the first six months of 2022, compared to $6.2 million in second-quarter 2021 and $10.5 million for the first six months of 2021, primarily reflecting $3.3 million incurred in second-quarter 2021 and $4.4 million incurred for the first six months of 2021 for consulting, legal and public relation costs for our successful proxy contest and the REIT exploration process. Non-Operating Results Interest Expense, Net. Interest costs (before capitalized interest) totaled $1.5 million in second-quarter 2022 and $2.6 million for the first six months of 2022, compared with $2.1 million in second-quarter 2021 and $4.4 million for the first six months of 2021. Interest costs in the 2022 periods were lower, compared to the 2021 periods, primarily reflecting reductions in average debt balances, including the lower outstanding balance on the Comerica Bank credit facility and the repayment of The Santal loan. As of June 30, 2022, all of our debt was variable-rate debt, and for most of such debt, the interest rates have increased for the first six months of 2022 and may continue to rise in the future if prevailing market interest rates continue to climb. Capitalized interest totaled $1.5 million in second-quarter 2022 and $2.6 million for the first six months of 2022, compared to $1.2 million in second-quarter 2021 and $2.5 million for the first six months of 2021. Capitalized interest is primarily related to development activities at Barton Creek (primarily Section N), The Annie B, The Saint George and Magnolia Place. 25 Table of Contents Loss on Extinguishment of Debt. We recorded losses on extinguishment of debt totaling $163 thousand in second-quarter 2021 and $226 thousand for the first six months of 2021 associated with the repayment of The Saint Mary construction loan upon the sale of the property in first-quarter 2021 and the refinancing of the Jones Crossing construction loan in second-quarter 2021. (Provision for) Benefit from Income Taxes. We recorded a (provision for) benefit from income taxes of less than $(0.1) million in second-quarter 2022 and $0.3 million for the first six months of 2022, compared to $2.5 million in second-quarter 2021 and $(0.2) million for the first six months of 2021. Refer to Note 8 for further discussion of income taxes. Net Income (Loss) from Discontinued Operations. Net income (loss) from discontinued operations totaled $95.9 million in second-quarter 2022 and $96.3 million for the first six months of 2022, compared to $(5.9) million in second-quarter 2021 and $(8.4) million for the first six months of 2021. The net income in the 2022 periods primarily reflects a $119.7 million pre-tax gain ($94.1 million net of taxes) on the sale of Block 21. The net losses in the 2021 periods reflect the negative impacts that the COVID-19 pandemic had on the hotel and entertainment operations within our discontinued operations. Total Comprehensive Loss (Income) Attributable to Noncontrolling Interests in Subsidiaries . Our partners' share of losses (income) totaled $0.2 million in both second-quarter 2022 and for the first six months of 2022, compared to less than $0.1 million in second-quarter 2021 and $(6.7) million for the first six months of 2021. For the first six months of 2021, our partners were allocated $6.7 million of the gain from the sale of The Saint Mary. CAPITAL RESOURCES AND LIQUIDITY Volatility in the real estate market, including the markets in which we operate, can impact the timing of and proceeds received from sales of our properties, which may cause uneven cash flows from period to period. However, we believe that the unique nature and location of our assets will provide us positive cash flows over time. Comparison of Cash Flows for the Six Months Ended June 30, 2022 and 2021 Operating Activities. Cash used in operating activities totaled $43.6 million for the first six months of 2022, compared with $15.0 million for the first six months of 2021. Expenditures for purchases and development of real estate properties totaled $12.1 million for the first six months of 2022 and $4.9 million for the first six months of 2021, both primarily related to development of our Barton Creek properties, particularly Amarra Villas and, to a lesser extent, Holden Hills. The cash outflow resulting from the decrease in accounts payable, accrued liabilities and other during the first six months of 2022 is primarily related to the payment of awards under our Profit Participation Incentive Plan and the timing of tax payments, including property taxes. Investing Activities. Cash provided by investing activities totaled $77.8 million for the first six months of 2022 and $56.5 million for the first six months of 2021. During the first six months of 2022, we received net proceeds from the sale of Block 21 of $105.8 million (excluding the release of reserves previously presented as restricted cash but including $6.9 million of post-closing escrow amounts to be held for 12 months after the closing, subject to a longer retention period with respect to any required reserves for pending claims). During the first six months of 2021, we received proceeds, net of closing costs, from the sale of The Saint Mary of $59.5 million. Capital expenditures totaled $27.6 million for the first six months of 2022, primarily for The Saint June and Magnolia Place projects, and $2.4 million for the first six months of 2021, primarily for the Magnolia Place and Lantana Place projects. Financing Activities. Cash provided by (used in) financing activities totaled $6.2 million for the first six months of 2022 and $(38.8) million for the first six months of 2021. During the first six months of 2022, we had no net borrowings on the Comerica Bank credit facility, compared with net borrowings of $2.2 million for the first six months of 2021. During the first six months of 2022, net borrowings on other project and term loans totaled $6.9 million, primarily reflecting borrowings on the Magnolia Place and The Saint June construction loans. During the first six months of 2021, net repayments on other project and term loans totaled $26.7 million, primarily reflecting the repayment of The Saint Mary construction loan. Refer to “Credit Facility, Other Financing Arrangements and Liquidity Outlook” below for a discussion of our outstanding debt at June 30, 2022. 26 Table of Contents During the first six months of 2021, we paid distributions to noncontrolling interest owners of $13.1 million, primarily related to the sale of The Saint Mary. No distributions to noncontrolling interest owners were paid during the first six months of 2022. Liquidity Outlook, Credit Facility and Other Financing Arrangements We had $102.4 million in cash and cash equivalents at June 30, 2022. As a result of our Board’s strategic planning process, in August 2022, we announced that our Board has approved returning $50.0 million cash to stockholders, subject to obtaining required consents from Comerica Bank. This return of capital could be in the form of share repurchases, dividends or a combination. We believe that our current cash and cash equivalents, financing arrangements and cash generated from operations will provide us with sufficient liquidity to satisfy our anticipated working capital needs, debt service requirements, expected capital expenditures, project funding commitments, and the approved return of $50.0 million cash to stockholders for at least the next 12 months. We expect to be able to extend or refinance all of our loans prior to their maturity dates. No assurances can be given that the results anticipated by our projections will occur. Refer to “Risk Factors” included in Part I, Item 1A. and Note 6 in our 2021 Form 10-K. At June 30, 2022, we had total debt of $116.0 million based on the principal amounts outstanding, compared with $107.9 million at December 31, 2021. Consolidated debt at December 31, 2021, excluded the Block 21 loan of approximately $137 million, which was presented in liabilities held for sale - discontinued operations. Using proceeds from the sale of Block 21, we repaid the outstanding amount under our $60.0 million Comerica Bank credit facility prior to June 30, 2022. At June 30, 2022, we had $49.0 million available under the credit facility. Letters of credit, totaling $11.0 million, have been issued under the credit facility, and secure our obligation to build certain roads and utilities facilities benefiting Holden Hills and Section N. Refer to “Debt Maturities and Other Contractual Obligations” below for a table illustrating the timing of principal payments due on our outstanding debt as of June 30, 2022. Our debt agreements require compliance with specified financial covenants. Refer to MD&A in our 2021 Form 10-K and Note 6 for a discussion of the financial covenants in our debt agreements. As of June 30, 2022, we were in compliance with all of our financial covenants. Stratus’ and its subsidiaries’ debt arrangements contain significant limitations that may restrict Stratus’ and its subsidiaries’ ability to, among other things: borrow additional money or issue guarantees; pay dividends, repurchase equity or make other distributions to equityholders; make loans, advances or other investments; create liens on assets; sell assets; enter into sale-leaseback transactions; enter into transactions with affiliates; permit a change of control; sell all or substantially all of its assets; and engage in mergers, consolidations or other business combinations. Our Comerica Bank credit facility, Amarra Villas credit facility, The Annie B land loan, The Saint George construction loan and Kingwood Place construction loan require Comerica Bank’s prior written consent for any common stock repurchases in excess of $1.0 million or any dividend payments. In May 2022, we entered into an amendment with Comerica Bank to extend the maturity date of the Comerica Bank credit facility from September 27, 2022, to December 26, 2022. We are in discussions with the lender to remove Holden Hills from the collateral pool for the facility, finance the Holden Hills project under a separate loan agreement and enter into a revised revolving credit facility with a lower borrowing limit secured by the remaining collateral under the facility. 27 Table of Contents DEBT MATURITIES AND OTHER CONTRACTUAL OBLIGATIONS The following table summarizes our debt maturities based on the principal amounts outstanding as of June 30, 2022, and the interest rate of each facility, all of which have variable rates, as of June 30, 2022, and December 31, 2021 (in thousands): Interest Rate at 2022 2023 2024 2025 2026 Total June 30, 2022 December 31, 2021 Comerica Bank credit facility a $ — $ — $ — $ — $ — $ — 4.88 % 5.00 % Jones Crossing loan — — — — 24,500 24,500 3.37 2.40 The Annie B land loan — 14,000 — — — 14,000 4.06 3.50 New Caney land loan — 4,275 — — — 4,275 3.78 3.10 Construction loans: Kingwood Place b 32,673 — — — — 32,673 3.56 2.60 Lantana Place 263 21,682 — — — 21,945 3.87 3.00 West Killeen Market 60 124 129 5,702 — 6,015 3.87 3.00 Magnolia Place — — 7,804 — — 7,804 4.37 3.50 Amarra Villas credit facility — — 2,469 — — 2,469 4.12 3.10 The Saint June — — 2,274 — — 2,274 3.87 — Total $ 32,996 $ 40,081 $ 12,676 $ 5,702 $ 24,500 $ 115,955 a. In May 2022, we entered into an amendment to extend the maturity date of the $60.0 million Comerica Bank credit facility from September 27, 2022, to December 26, 2022, pending completion of our discussions with the lender to amend the facility in connection with the financing of Holden Hills as discussed elsewhere in this report. b. Matures December 6, 2022. We have the option to extend the maturity date for two additional 12-month periods, subject to certain debt service coverage conditions. The pending sale of the multi-family tract, if consummated, would result in a principal paydown of approximately $5.1 million. We have the option to make an additional principal paydown, if necessary, in order to meet the debt service conditions. Other than the debt transactions discussed in Note 6, there have been no material changes in our contractual obligations since December 31, 2021. Refer to MD&A in our 2021 Form 10-K for further information regarding our contractual obligations. CRITICAL ACCOUNTING ESTIMATES There have been no changes in our critical accounting estimates from those discussed in our 2021 Form 10-K. NEW ACCOUNTING STANDARDS No new accounting standards in 2022 have had a material impact on us. OFF-BALANCE SHEET ARRANGEMENTS There have been no material changes in our off-balance sheet arrangements since December 31, 2021. Refer to Note 9 in our 2021 Form 10-K for further information. CAUTIONARY STATEMENT This Quarterly Report on Form 10-Q contains forward-looking statements in which we discuss factors we believe may affect our future performance. Forward-looking statements are all statements other than statements of historical fact, such as plans, projections or expectations related to the impacts of the COVID-19 pandemic, our ability to meet our future debt service and other cash obligations, future cash flows and liquidity, our expectations about the Austin and Texas real estate markets, the planning, financing, development, construction, completion and stabilization of our development projects, plans to sell, recapitalize, or refinance properties, future operational and financial performance, MUD reimbursements for infrastructure costs, regulatory matters, leasing activities, tax rates, 28 Table of Contents the impact of inflation and interest rate changes, future capital expenditures and financing plans, possible joint ventures, partnerships, or other strategic relationships, other plans and objectives of management for future operations and development projects, and future cash returns to stockholders, including any share repurchases and/or dividend payments. The words “anticipate,” “may,” “can,” “plan,” “believe,” “potential,” “estimate,” “expect,” “project,” "target," “intend,” “likely,” “will,” “should,” “to be” and any similar expressions and/or statements are intended to identify those assertions as forward-looking statements. Under our Comerica Bank debt agreements, we are not permitted to repurchase our common stock in excess of $1.0 million or pay dividends on our common stock without Comerica Bank's prior written consent. The declaration of dividends or decision to repurchase our common stock is at the discretion of our Board, subject to restrictions under our Comerica Bank debt agreements, and will depend on our financial results, cash requirements, projected compliance with covenants in our debt agreements, outlook and other factors deemed relevant by our Board. We caution readers that forward-looking statements are not guarantees of future performance, and our actual results may differ materially from those anticipated, expected, projected or assumed in the forward-looking statements. Important factors that can cause our actual results to differ materially from those anticipated in the forward-looking statements include, but are not limited to, the ongoing COVID-19 pandemic and any future major public health crisis, increases in inflation and interest rates, supply chain constraints, declines in the market value of our assets, increases in operating and construction costs, including real estate taxes and the cost of building materials and labor, our ability to pay or refinance our debt or comply with or obtain waivers of financial and other covenants in debt agreements and to meet other cash obligations, our ability to collect anticipated rental payments and close projected asset sales, the availability and terms of financing for development projects and other corporate purposes, our ability to enter into and maintain joint ventures, partnerships, or other strategic relationships, including risks associated with such joint ventures, our ability to implement our business strategy successfully, including our ability to develop, construct and sell or lease properties on terms our Board considers acceptable, market conditions or corporate developments that could preclude, impair or delay any opportunities with respect to plans to sell, recapitalize or refinance properties, our ability to obtain various entitlements and permits, a decrease in the demand for real estate in select markets in Texas where we operate, changes in economic, market and business conditions, including as a result of the war in Ukraine, reductions in discretionary spending by consumers and businesses, competition from other real estate developers, the termination of sales contracts or letters of intent because of, among other factors, the failure of one or more closing conditions or market changes, the failure to attract customers or tenants for our developments or such customers’ or tenants’ failure to satisfy their purchase commitments or leasing obligations, changes in consumer preferences, industry risks, changes in laws, regulations or the regulatory environment affecting the development of real estate, opposition from special interest groups or local governments with respect to development projects, weather- and climate-related risks, loss of key personnel, environmental and litigation risks, cybersecurity incidents and other factors described in more detail under the heading “Risk Factors” in Part I, Item 1A. of our 2021 Form 10-K, filed with the SEC, and “Risk Factors” included in Part II, Item 1A. herein. Investors are cautioned that many of the assumptions upon which our forward-looking statements are based are likely to change after the date the forward-looking statements are made. Further, we may make changes to our business plans that could affect our results. We caution investors that we undertake no obligation to update our forward-looking statements, which speak only as of the date made, notwithstanding any changes in our assumptions, business plans, actual experience, or other changes. Item 3. Quantitative and Qualitative Disclosures About Market Risk . Not applicable.