This Form 10-Qconsists of 22 sequentially numbered pages.

 

 

**FORM 10-Q**

 

**SECURITIES AND EXCHANGE COMMISSION**

 

**WASHINGTON, D.C. 20549**

 

**QUARTERLY REPORT UNDER SECTION 13OR 15 (d) OF THESECURITIES EXCHANGE ACT OF 1934**

 

**Forthe quarterly period ended June 30, 2003**

 

**Commissionfile number 0-17189**

 

**CALIFORNIA COASTAL COMMUNITIES,INC.**

(Exactname of registrant as specified in its charter)

 

| **Delaware**                                                                  |   | **02-0426634**                        |
|-------------------------------------------------------------------------------|--------|---------------------------------------|
| (State or other  jurisdiction of  incorporation or organization.)             |   | (I.R.S. Employer  Identification No.) |
|                                                                          |   |                                  |
| **6  Executive Circle, Suite 250  Irvine, California**                        |   | **92614**                             |
| (Address of  principal executive offices)                                     |   | (Zip Code)                            |
|                                                                          |   |                                  |
| Registrant’s  telephone number, including area code: **(949)  250-7700** |

 

Indicate by check mark whether the registrant (1) hasfiled all reports required to be filed by Section 13 or 15 (d) of theSecurities Exchange Act of 1934 during the preceding 12 months (or for suchshorter period that the registrant was required to file such reports), and (2)has been subject to such filing requirements for the past 90 days:

 

Yes   ý       No   o

 

Indicate by check mark whether the registrant is anaccelerated filer (as defined in Rule 12b-2 of the Act).

 

Yes   o       No   ý

 

The number of shares ofCommon Stock outstanding at July 31, 2003 was 10,057,212.

 

 

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CALIFORNIA COASTALCOMMUNITIES, INC.

 

FORM 10-Q

 

FOR THE QUARTERENDED JUNE 30, 2003

 

I N D E X

 
| Part I -  | Financial Information:                                             |
|----------------|--------------------------------------------------------------------|
|           |                                                               |   |
|           | Item 1 -                                                           | Consolidated Financial  Statements |
|           |                                                               |   |
|           |                                                               | Consolidated Balance Sheets  -  June 30, 2003 and December 31, 2002 (unaudited) |
|           |                                                               |   |
|           |                                                               | Consolidated  Statements of Operations -  Three and Six Months Ended June 30, 2003 and 2002 (unaudited) |
|           |                                                               |   |
|           |                                                               | Consolidated  Statements of Cash Flows -  Six Months Ended June 30, 2003 and 2002 (unaudited) |
|           |                                                               |   |
|           |                                                               | Notes to  Consolidated Financial Statements |
|           |                                                               |   |
|           | Item  2 -                                                          | Management’s  Discussion and Analysis of Financial Condition and Results of Operations |
|           |                                                               |   |
|           | Item  3 -                                                          | Quantitative  and Qualitative Disclosures About Market Risk |
|           |                                                               |   |
|           | Item  4 -                                                          | Evaluation  of Disclosure Controls and Procedures |
|           |
| Part II - | Other Information:                                                 |   |
|           |                                                               |   |
|           | Item  1 - Legal Proceedings                                        |   |
|           |                                                               |   |
|           | Item  4 – Submission of Matters to a Vote of Security Holders |   |
|           |                                                               |   |
|           | Item 6 -  Exhibits and Reports on Form 8-K                         |   |
|           |                                                               |   |
| SIGNATURE      |
|                |                                                                    |  |  |

 

2

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PART I.  FINANCIAL INFORMATION

 

ITEM 1 – FINANCIAL STATEMENTS

 

CALIFORNIA COASTALCOMMUNITIES, INC.

 

CONSOLIDATED BALANCESHEETS

 

(in millions)

 

(unaudited)

 
|                                                                                                       |   | **June  30,  2003** |   | **December  31, 2002** |   |
|------------------------------------------------------------------------------------------------------------|--------|--------------------------|--------|------------------------|--------|
|                                                                                                       |   |                     |   |                   |   |
| ASSETS                                                                                                     |   |                     |   |                   |   |
|                                                                                                       |   |                     |   |                   |   |
| Cash and cash  equivalents                                                                                 |   | $                        | 5.3    |                   | $      | 9.2 |   |
| Real estate held  for current development or sale                                                          |   | 39.4                     |   | 25.0                   |   |
| Land held for  future development                                                                          |   | 152.8                    |   | 151.9                  |   |
| Other assets                                                                                               |   | 1.8                      |   | 1.5                    |   |
|                                                                                                       |   |                     |   |                   |   |
|                                                                                                       |   | $                        | 199.3  |                   | $      | 187.6 |   |
|                                                                                                       |   |                     |   |                   |   |
| LIABILITIES AND  STOCKHOLDERS’ EQUITY                                                                 |   |                     |   |                   |   |
|                                                                                                       |   |                     |   |                   |   |
| Liabilities:                                                                                               |   |                     |   |                   |   |
| Accounts payable  and accrued liabilities                                                                  |   | $                        | 4.3    |                   | $      | 5.0 |   |
| Project debt                                                                                               |   | 18.1                     |   | 9.8                    |   |
| Other  liabilities                                                                                         |   | 12.1                     |   | 12.9                   |   |
|                                                                                                       |   |                     |   |                   |   |
| Total  liabilities                                                                                         |   | 34.5                     |   | 27.7                   |   |
|                                                                                                       |   |                     |   |                   |   |
| Minority  interest                                                                                         |   | 3.9                      |   | —                 |   |
|                                                                                                       |   |                     |   |                   |   |
| Commitments and  contingencies                                                                             |   |                     |   |                   |   |
|                                                                                                       |   |                     |   |                   |   |
| Stockholders’  equity:                                                                                |   |                     |   |                   |   |
| Common  Stock—$.05 par value; 11,000,000 shares authorized; 10,057,212 shares issued  and outstanding |   | .5                       |   | .5                     |   |
| Excess  Stock—$.05 par value; 11,000,000 shares authorized; no shares outstanding                     |   | —                   |   | —                 |   |
| Capital in  excess of par value                                                                            |   | 142.2                    |   | 141.3                  |   |
| Retained  earnings                                                                                         |   | 20.6                     |   | 20.5                   |   |
| Accumulated  other comprehensive loss                                                                      |   | (2.4                     | )      | (2.4                   | )      |
| Total  stockholders’ equity                                                                           |   | 160.9                    |   | 159.9                  |   |
|                                                                                                       |   |                     |   |                   |   |
|                                                                                                       |   | $                        | 199.3  |                   | $      | 187.6 |   |

 

See theaccompanying notes to consolidated financial statements.

 

3

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CALIFORNIA COASTALCOMMUNITIES, INC.

 

CONSOLIDATEDSTATEMENTS OF OPERATIONS

 

(in millions,except per share amounts)

 

(unaudited)

 
|                                                                      |   | **Three  Months Ended  June 30,** |   | **Six Months  Ended  June 30,** |   |
|---------------------------------------------------------------------------|--------|-----------------------------------|--------|---------------------------------|--------|
|                                                                      |   | **2003**                          |   | **2002**                        |   | **2003** |   | **2002** |   |
|                                                                      |   |                              |   |                            |   |   |   |   |   |
| Revenues                                                                  |   | $                                 | 9.2    |                            | $      | 5.1 |   | $ | 13.1 |   | $ | 8.0 |   |
|                                                                      |   |                              |   |                            |   |   |   |   |   |
| Costs  of sales                                                           |   | 7.6                               |   | 4.4                             |   | 10.9 |   | 7.1 |   |
|                                                                      |   |                              |   |                            |   |   |   |   |   |
| Gross  operating profit                                                   |   | 1.6                               |   | .7                              |   | 2.2 |   | .9 |   |
|                                                                      |   |                              |   |                            |   |   |   |   |   |
| Selling,  general and administrative expenses                             |   | .9                                |   | .9                              |   | 1.7 |   | 1.9 |   |
| Interest  expense                                                         |   | —                            |   | —                          |   | .1 |   | .1 |   |
| Income from unconsolidated joint  ventures                                |   | (.2                               | )      | —                          |   | (.3 | ) | (.6 | ) |
| Other  expense (income), net                                              |   | .6                                |   | (.6                             | )      | .7 |   | (.6 | ) |
|                                                                      |   |                              |   |                            |   |   |   |   |   |
| Income before income taxes                                                |   | .3                                |   | .4                              |   | — |   | .1 |   |
|                                                                      |   |                              |   |                            |   |   |   |   |   |
| Provision  (benefit) for income taxes                                     |   | —                            |   | (.2                             | )      | (.1 | ) | (1.5 | ) |
|                                                                      |   |                              |   |                            |   |   |   |   |   |
| Net  income                                                               |   | $                                 | .3     |                            | $      | .6 |   | $ | .1 |   | $ | 1.6 |   |
|                                                                      |   |                              |   |                            |   |   |   |   |   |
| Other  comprehensive income:                                              |   |                              |   |                            |   |   |   |   |   |
|                                                                      |   |                              |   |                            |   |   |   |   |   |
| Unrealized gain on short-term  investments – available for sale      |   | —                            |   | .5                              |   | — |   | — |   |
| Less:  Reclassification adjustment for gains  included in net income |   | —                            |   | (1.0                            | )      | — |   | (1.3 | ) |
|                                                                      |   |                              |   |                            |   |   |   |   |   |
| Total  comprehensive income                                               |   | $                                 | .3     |                            | $      | .1 |   | $ | .1 |   | $ | .3 |   |
|                                                                      |   |                              |   |                            |   |   |   |   |   |
| Earnings  per common share – basic                                   |   | $                                 | .03    |                            | $      | .06 |   | $ | .01 |   | $ | .16 |   |
|                                                                      |   |                              |   |                            |   |   |   |   |   |
| Earnings  per common share – diluted                                 |   | $                                 | .03    |                            | $      | .06 |   | $ | .01 |   | $ | .15 |   |

 

See theaccompanying notes to consolidated financial statements.

 

4

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CALIFORNIA COASTALCOMMUNITIES, INC.

 

CONSOLIDATEDSTATEMENTS OF CASH FLOWS

 

(in millions)

 

(unaudited)

 
|                                                                                                                      |   | **Six Months  Ended  June 30,** |   |
|---------------------------------------------------------------------------------------------------------------------------|--------|---------------------------------|--------|
|                                                                                                                      |   | **2003**                        |   | **2002** |   |
|                                                                                                                      |   |                            |   |   |   |
| Cash flows from  operating activities:                                                                                    |   |                            |   |   |   |
| Net income                                                                                                                |   | $                               | .1     |   | $ | 1.6 |   |
| Adjustments to  reconcile to cash used in operating activities:                                                           |   |                            |   |   |   |
| Non-cash  interest expense                                                                                                |   | .1                              |   | .1 |   |
| Deferred income  taxes                                                                                                    |   | —                          |   | (.1 | ) |
| Gains on sales  of short-term investments                                                                                 |   | —                          |   | (1.2 | ) |
| Stock-based  compensation expense                                                                                         |   | —                          |   | .3 |   |
| Gains on sales  of real estate held for current development or sale                                                       |   | (2.2                            | )      | (.9 | ) |
| Proceeds from  home sales                                                                                                 |   | 13.1                            |   | 8.0 |   |
| Changes in  assets and liabilities:                                                                                       |   |                            |   |   |   |
| Investments in  real estate held for current development or sale                                                          |   | (25.3                           | )      | (11.4 | ) |
| Investments in  land held for future development                                                                          |   | (.9                             | )      | (3.0 | ) |
| Decrease  (increase) in other assets                                                                                      |   | (.3                             | )      | .7 |   |
| Decrease in  accounts payable, accrued and other liabilities, net                                                         |   | (.7                             | )      | (2.4 | ) |
|                                                                                                                      |   |                            |   |   |   |
| Cash used in  operating activities                                                                                        |   | (16.1                           | )      | (8.3 | ) |
|                                                                                                                      |   |                            |   |   |   |
| Cash flows from  investing activities:                                                                                    |   |                            |   |   |   |
| Proceeds from  sales of short-term investments                                                                            |   | —                          |   | 7.4 |   |
|                                                                                                                      |   |                            |   |   |   |
| Cash provided by  investing activities                                                                                    |   | —                          |   | 7.4 |   |
|                                                                                                                      |   |                            |   |   |   |
| Cash flows from  financing activities:                                                                                    |   |                            |   |   |   |
| Borrowings of  project debt                                                                                               |   | 14.3                            |   | .1 |   |
| Minority  interest                                                                                                        |   | 3.9                             |   | — |   |
| Repayments of  project debt                                                                                               |   | (6.0                            | )      | (2.7 | ) |
| Release of  restricted cash                                                                                               |   | —                          |   | 1.5 |   |
|                                                                                                                      |   |                            |   |   |   |
| Cash provided by  (used in) financing activities                                                                          |   | 12.2                            |   | (1.1 | ) |
|                                                                                                                      |   |                            |   |   |   |
| Net decrease in  cash and cash equivalents                                                                                |   | (3.9                            | )      | (2.0 | ) |
|                                                                                                                      |   |                            |   |   |   |
| Cash and cash  equivalents - beginning of period                                                                          |   | 9.2                             |   | 8.7 |   |
|                                                                                                                      |   |                            |   |   |   |
| Cash and cash  equivalents - end of period                                                                                |   | $                               | 5.3    |   | $ | 6.7 |   |
|                                                                                                                      |   |                            |   |   |   |
| Supplemental  disclosures of cash flow information:                                                                       |   |                            |   |   |   |
| Cash paid during  the period for income taxes                                                                             |   | $                               | (.6    | ) | $ | (.5 | ) |
|                                                                                                                      |   |                            |   |   |   |
| Supplemental  disclosures of non-cash investing and financing activities:                                                 |   |                            |   |   |   |
| Utilization of  pre-Reorganization net operating losses to offset tax liabilities, credited  to stockholder’s equity |   | —                          |   | .7 |   |
| Reclassification  adjustment for gains included in net income                                                             |   | —                          |   | (1.3 | ) |

 

See theaccompanying notes to consolidated financial statements.

 

5

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CALIFORNIA COASTALCOMMUNITIES, INC.

 

NOTES TOCONSOLIDATED FINANCIAL STATEMENTS

(UNAUDITED)

 

**Note 1 - Basis of Presentation**

 

The accompanying financial statements have been preparedby California Coastal Communities, Inc. and its consolidated subsidiaries (the“Company”), without audit, pursuant to the rules and regulations of theSecurities and Exchange Commission. Certain information and footnotedisclosures normally included in financial statements prepared in accordancewith generally accepted accounting principles have been condensed or omittedpursuant to such rules and regulations. The Company believes that theseunaudited consolidated financial statements reflect all material adjustments(consisting only of normal recurring adjustments) and disclosures necessary forthe fair presentation of the results of operations and statements of financialposition when read in conjunction with the Financial Statements and Notes theretoincluded in the Company’s Annual Report on Form 10-K for the year endedDecember 31, 2002, and the current year’s previously issued Quarterly Report onForm 10-Q. The results for interim periods are not necessarily indicative ofthe results to be expected for the full year. This report containsforward-looking statements. Readers are cautioned that any such forward-lookingstatements are not guarantees of future performance and involve risks anduncertainties that actual events or results may differ materially from thosedescribed herein as a result of various factors including, without limitation,the factors discussed generally in this report.

 

# **Note 2 – Significant Accounting Policies**

 

#### *Earnings Per Common Share*

 

For the three and six months endedJune 30, 2003 and 2002, the weighted-average number of common sharesoutstanding was 10.1 million. Earnings per share, assuming dilution, iscomputed using the weighted-average number of common shares outstanding and thedilutive effect of potential common shares outstanding. For the three and sixmonths ended June 30, 2003, and the three and six months ended June 30, 2002,the average market price of the Company’s common stock exceeded the exerciseprice of outstanding stock options, but not the exercise price of outstandingwarrants. Therefore, the dilutive effect of the 754,996 common shares frompotential exercise of options is reflected in the 10.8 million weighted averagecommon shares outstanding assuming dilution in the related statement ofoperations.

 

*Stock-Based Compensation – Change in Accounting*

 

Prior to the second quarter of 2003, the Companyaccounted for its stock-based employee compensation plan using the recognitionand measurement principles (intrinsic value method) of Accounting Principles Board(“APB”) Opinion No. 25, “Accounting for Stock Issued to Employees,” (“APB 25”)and the related Financial Accounting Standards Board (“FASB”) InterpretationNo. 44 “Accounting for Certain Transactions Involving Stock Compensation” (“FIN44”). As a result of the May 2001 repricing of outstanding stock options, theCompany accounted for the options as variable awards and recorded non-cashstock-based compensation expense on a cumulative basis as the differencebetween the option exercise price and the quoted market price of the Company’scommon stock. From May 2001 through the first quarter of 2003, non-cashcompensation expense was reflected for price adjustments recorded pursuant tovariable accounting for repriced options.

 

During the second quarter of 2003, the Company adoptedthe fair value recognition provisions of FASB Statement of Financial Standards(“SFAS”) No. 123, “Accounting for Stock-Based Compensation” (“SFAS 123”). Forthis change in accounting, the Company selected the “modified prospective method”under the provisions of SFAS No. 148 “Accounting for Stock-Based Compensation –Transition and Disclosure – an Amendment of FASB Statement No. 123” (“SFAS148”). Under this method, the change is retroactive to January 1, 2003 andcompensation cost recognized for the three and six months ended June 30, 2003is the same as that which would have been recognized had the recognitionprovisions of SFAS 123 been applied from its original effective date. Inaccordance with SFAS 148, results for prior years have not been restated. SFAS123 states that the adoption of the fair value based method is a change to apreferable method of accounting. Management believes that use of the fair valuebased method to record employee stock-based compensation expense is consistentwith the accounting for all other forms of compensation. The following tableillustrates the effect on net income and

 

6

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earnings per share if the fair value based method had been applied toall outstanding awards in each period (in millions, except per share amounts):

 
|                                                                                                         |   | **Three months ended  June 30,** |   | **Six months ended  June 30,** |   |
|--------------------------------------------------------------------------------------------------------------|--------|----------------------------------|--------|--------------------------------|--------|
|                                                                                                         |   | **2003**                         |   | **2002**                       |   | **2003** |   | **2002** |   |
| Net  income, as reported                                                                                     |   | $                                | .3     |                           | $      | .6 |   | $ | .1 |   | $ | 1.6 |   |
| Add:  Stock-based employee compensation expense included in reported net income,  net of related tax effects |   | —                           |   | .2                             |   | — |   | .3 |   |
| Proforma  net income                                                                                         |   | $                                | .3     |                           | $      | .8 |   | $ | .1 |   | $ | 1.9 |   |
|                                                                                                         |   |                             |   |                           |   |   |   |   |   |
| Earnings  per share:                                                                                         |   |                             |   |                           |   |   |   |   |   |
| Basic  – as reported                                                                                    |   | $                                | .03    |                           | $      | .06 |   | $ | .01 |   | $ | .16 |   |
| Basic  – Proforma                                                                                       |   | $                                | .03    |                           | $      | .08 |   | $ | .01 |   | $ | .19 |   |
| Diluted  – as reported                                                                                  |   | $                                | .03    |                           | $      | .06 |   | $ | .01 |   | $ | .15 |   |
| Diluted  – Proforma                                                                                     |   | $                                | .03    |                           | $      | .08 |   | $ | .01 |   | $ | .18 |   |

 

In adopting SFAS 123 retroactive to January 1, 2003,the Company has reversed $476,000 of non-cash stock-based compensation expenserecorded in the first quarter of 2003 as prescribed by SFAS 148. Accordingly,the following amounts from the Company’s financial statements for the threemonths ended March 31, 2003 have been revised from amounts previously reported toaccount for stock compensation expense under the fair value method prescribedby SFAS 123, in accordance with the modified prospective method of SFAS 148 (inmillions, except per share amounts):

 
|                                          |   | **March 31, 2003** |   |
|-----------------------------------------------|--------|--------------------|--------|
|                                          |   | **As Reported**    |   | **As Adjusted** |   |
|                                          |   |               |   |   |   |
| Other  liabilities                            |   | $                  | 12.8   |   | $ | 12.7 |   |
| Capital  in excess of par value               |   | 141.7              |   | 141.3 |   |
| Retained  earnings                            |   | 19.7               |   | 20.3 |   |
| Stockholders’  equity                    |   | 159.5              |   | 159.6 |   |
|                                          |   |               |   |   |   |
| Selling,  general and administrative expenses |   | 1.3                |   | .8 |   |
| Loss  before income taxes                     |   | (.8                | )      | (.3 | ) |
| Provision  (benefit) for income taxes         |   | —             |   | (.1 | ) |
| Net  loss                                     |   | (.8                | )      | (.2 | ) |
|                                          |   |               |   |   |   |
| Loss  per common share – basic           |   | (.08               | )      | (.02 | ) |
| Loss  per common share – diluted         |   | (.08               | )      | (.02 | ) |
|                                               |        |                    |        |  |  |  |  |

 

*Impairment of Long-Lived Assets*

 

The Company assesses the impairment of long-livedassets, including land held for future development and real estate held forcurrent development or sale in accordance with SFAS No.144 “Accounting for theImpairment or Disposal of Long-Lived Assets” (“SFAS 144”). These assets arecarried at cost, unless the carrying amount of the parcel or subdivision isdetermined not to be fully recoverable, in which case the impaired real estateis written down to fair value. Impairment write-downs are recorded asadjustments to the cost basis of the real estate. Long-lived assets arereviewed for impairment whenever events or changes in circumstances indicatethat the carrying amount of an asset may not be recoverable. As provided bySFAS 144, impairment is evaluated by comparing an asset’s carrying value to theundiscounted estimated cash flows expected from the asset’s operations andeventual disposition. If the sum of the undiscounted estimated future cashflows is less than the carrying value of the asset, an impairment loss isrecognized based on the fair value of the asset. If an impairment occurs, thefair value of an asset for purposes of SFAS 144 is deemed to be the amount awilling buyer would pay a willing seller for such asset in a currenttransaction.

 

7

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*Recent Accounting Pronouncements*

 

InNovember 2002, the FASB issued FIN 45, “Guarantors Accounting and DisclosureRequirements for Guarantees, Including Indirect Guarantees and Indebtedness ofOthers,” an interpretation of FASB Statements No. 5, 57 and 107, and rescissionof FIN 34, “Disclosure of Indirect Guarantees of Indebtedness of Others.” FIN45 elaborates on the disclosures to be made by the guarantor in its interim andannual financial statements about its obligations under certain guarantees thatit has issued. It also requires that a guarantor recognize, at the inception ofa guarantee, a liability for the fair value of the obligation undertaken inissuing the guarantee. The initial recognition and measurement provisions ofthis interpretation are applicable on a prospective basis to guarantees issuedor modified after December 31, 2002. The Company adopted the disclosureprovision of such interpretation on December 31, 2002, and the recognitionprovision on January 1, 2003, as required. The Company’s adoption of suchinterpretation did not have a material impact on its results of operations orfinancial position. Additional disclosures are presented in Note 6 to theseconsolidated financial statements.

 

InDecember 2002, the FASB issued SFAS 148, which amends SFAS 123, to providealternative methods to account for the transition from the intrinsic valuemethod of recognition of stock-based employee compensation in accordance withAPB 25 to the fair value recognition provisions under SFAS 123. The Companyadopted the recognition provisions of SFAS 123 during the second quarter of2003 pursuant to the “modified prospective method” of adoption allowed by SFAS148, as described above. In addition, SFAS 148 amends the disclosurerequirements of SFAS 123 to require prominent disclosure in both annual andinterim financial statements about the method of accounting for stock-basedemployee compensation and the proforma effects had the fair value recognitionprovisions of SFAS 123 been used for all periods presented. The Company hasprovided the required disclosures above. The adoption of SFAS 148 may have asignificant impact on the Company’s future consolidated results of operationsdue to the elimination of the potential future effects of variable accountingfor repriced stock options.

 

InJanuary 2003, the FASB issued FIN 46, “Consolidation of Variable InterestEntities”. In general, a variable interest entity is a corporation,partnership, trust, or any other legal structure used for business purposes thateither (a) does not have equity investors with voting rights or (b) has equityinvestors that do not provide sufficient financial resources for the entity tosupport its activities. FIN 46 requires certain variable interest entities tobe consolidated by the primary beneficiary of the entity if the investors inthe entity do not have the characteristics of a controlling financial interestor do not have sufficient equity at risk for the entity to finance itsactivities without additional subordinated financial support from otherparties. The Company adopted all requirements of FIN 46 effective January 1,2003, including those which apply immediately to variable interest entitiescreated after January 31, 2003, and certain of the disclosure requirements applicablein all financial statements issued after January 31, 2003, regardless of whenthe variable interest entity was established and the consolidation requirementsapplicable to older entities in the first fiscal year or interim periodbeginning after June 25, 2003. The adoption of the requirements of FIN 46 didnot have a material impact on its financial position or results of operationsbecause the Company has no variable interest entities.

 

In May 2003, the FASB issued SFAS No. 150, “Accountingfor Certain Instruments with Characteristics of Both Liabilities and Equity,”(“SFAS 150”) which establishes standards for how an issuer classifies andmeasures certain financial instruments with characteristics of both liabilitiesand equity. SFAS 150 requires that an issuer classify a financial instrumentthat is within its scope, which may have previously been reported as equity, asa liability (or an asset in some circumstances). This statement is effectivefor financial instruments entered into or modified after May 31, 2003, andotherwise is effective at the beginning of the first interim period beginningafter June 15, 2003 for public companies. The Company does not believe that theadoption of SFAS 150 will have a significant impact on its financial statements.

 

**Note 3 - Land Held for Future Development**

 

The Company owns approximately 350 acres located inOrange County, California overlooking the Pacific Ocean and the Bolsa Chicawetlands (which were sold by the Company to the State of California in 1997),surrounded by the City of Huntington Beach and approximately 35 miles south ofdowntown Los Angeles. The Company’s holdings include 208 acres on a mesa northof the Bolsa Chica wetlands (“Bolsa Chica Mesa”), approximately 100 acres on,or adjacent to, the Huntington Mesa and 42 acres of lowlands which wereacquired by the Company in September 1997.

 

A Local Coastal Program (“LCP”) fordevelopment of up to 2,500 homes on the Bolsa Chica Mesa was approved by theOrange County Board of Supervisors in December 1994 and by the CaliforniaCoastal Commission (the “Coastal Commission”) in January 1996. In October 1997,in response to a trial court decision in connection with a lawsuit whichchallenged the 1996 approvals of the Coastal Commission (the “Coastal Act Lawsuit”),the Coastal

 

8

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Commission approved modifications to the LCP whicheliminated the filling of Warner Pond and thereby reduced the maximum number ofhomes to be built from 2,500 to no more than 1,235 homes on the Bolsa ChicaMesa. The Orange County Board of Supervisors subsequently accepted the CoastalCommission’s suggested modifications. However, this approval was challenged incourt and appealed to the Court of Appeals.

 

In November 2000, in response to the April 1999 Courtof Appeal’s decision in the Coastal Act Lawsuit which prohibited relocation ofa 14-acre grove of dying eucalyptus trees which serves as raptor habitat, theCoastal Commission held another public hearing on the LCP and decided to limitdevelopment to only the upper bench of the Bolsa Chica Mesa (the “Upper Mesa”).The Coastal Commission’s November 2000 suggested modifications to the LCP wouldprohibit the Company and other landowners from development on the approximately100-acre lower bench of the Bolsa Chica Mesa (the “Lower Mesa”). In May 2001,the County of Orange declined to consider the Coastal Commission’s November2000 suggested modifications. In their response to the Coastal Commission, theCounty stated that the Commission’s suggested modifications were infeasible andunacceptable. In particular, the County noted that the Commission’s suggestedmodifications would remove 140 acres of viable residentially-zoned land fromthe County’s plan.

 

In January 2001, the Company challenged the CoastalCommission’s November 2000 decision to substantially change the previouslyapproved LCP. The Company’s petition alleged that the Coastal Commissionarbitrarily abandoned decades of prior approvals that would have permitteddevelopment on the entire Bolsa Chica Mesa. The petition challenged theCommission’s November 2000 decision as to how to protect certain raptor habitaton the Bolsa Chica Mesa, including the Commission’s recommendation that theLower Mesa not be developed. On February 14, 2003 the court issued a rulingwhich denied the Company’s petition on the grounds that the CoastalCommission’s November 2000 decision expired by operation of law when the Countyrejected the Coastal Commission’s suggested modifications. As a result, theCoastal Commission’s decision to prohibit development on the Lower Mesa is nolonger of any force or effect. In addition, the court’s opinion recommendedthat the Company put a new, legally reviewable plan before the Commission and,accordingly, the Company is continuing its pursuit of reasonable development onthe Bolsa Chica Mesa as discussed below.

 

The Company is currently pursuing approval of permitsfor development of the Upper Mesa. During May 2002, the County of OrangePlanning Commission approved the Company’s site plan for development of 379single-family homes on the Upper Mesa. In response to an appeal, in July 2002,the Orange County Board of Supervisors upheld the Planning Commission’s priorapproval of the site plan and tentative tract map. The planned community on theUpper Mesa is currently expected to offer a broad mix of home choices, rangingin size from 1,560 square feet to 4,450 square feet. This development plan alsorequires approval by the Coastal Commission. The Company submitted a CoastalDevelopment Permit (“CDP”) application for this plan to the Coastal Commissionin November 2002. The Company is in the process of responding to comments fromthe Coastal Commission staff to have its CDP application deemed complete andcurrently expects the Coastal Commission to hold a public hearing on the CDPearly next year, however, there can be no assurance that further delays willnot be encountered. The Company does not believe that the Coastal Commissionprocess will permanently prevent it from developing a planned community atBolsa Chica; however, there can be no assurance in that regard, or as to whendevelopment could commence, or as to the number of acres or homes the Companywill be permitted to develop, or that further litigation or administrativedelay will not result.

 

On September 2, 1997, the Companycompleted a recapitalization (the “Recapitalization”) and applied theprinciples required by the American Institute of Certified Public Accountant’sSOP 90-7, “Financial Reporting by Entities in Reorganization Under theBankruptcy Code” (“Fresh-Start Reporting”) and the carrying value of land heldfor development (Bolsa Chica) was adjusted to fair value as of September 2,1997, after consideration of the October 1997 Coastal Commission actiondiscussed above. The fair value was determined in 1997 using discountedestimated cash flows expected from the asset’s operations and eventualdisposition. In addition, given the significance of the Bolsa Chica asset tothe financial statements of the Company, the value of the Company’s stockimmediately following the closing of the Recapitalization was used as anindicator of value of the subject property. Following the November 2000 CoastalCommission action, an assessment of impairment was conducted by the Company forthe year ended December 31, 2000. The Company updated its analysis at each yearend since December 31, 2000, and has noted no indicators of impairment sincethat date. Future costs incurred for capitalizable development activities forthe Bolsa Chica project will increase the basis of the land. An estimate forthese costs has been included in the Company’s estimated undiscounted futurecash flow forecast used in its impairment analyses. In accordance with theCompany’s policy described in Note 2 – Impairment of Long-Lived Assets, sincethe estimated undiscounted future cash flows from the

 

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upper bench of the Bolsa Chica mesa and theCompany’s additional 242 acres at Bolsa Chica exceed its June 30, 2003 carryingvalue, the Company believes that there has been no impairment.

 

The estimation process involved in the determinationof value is inherently uncertain since it requires estimates as to futureevents and market conditions. Such estimation process assumes the Company’sability to complete development and dispose of its real estate properties inthe ordinary course of business based on management’s present plans andintentions. Economic, market, environmental and political conditions may affectmanagement’s development and marketing plans. In addition, the implementationof such development and marketing plans could be affected by the availabilityof future financing for development and construction activities. Accordingly,the ultimate values of the Company’s land held for future development aredependent upon future economic and market conditions, the availability offinancing, and the resolution of political, environmental and other relatedissues. The development of the Company’s Bolsa Chica Mesa project is dependentupon various governmental approvals and economic factors. Accordingly, theamount ultimately realized from such project may differ materially from currentestimates and the project’s carrying value.

 

**Note 4 - Project Debt**

 

In conjunction with the acquisitionof single-family residential lots, the Company’s homebuilding subsidiary,Hearthside Homes, Inc., enters into construction loan agreements with acommercial bank. These loan facilities finance a portion of the land acquisitionand the majority of the construction of infrastructure and homes. The loans aresecured by deeds of trust on individual projects and require principalrepayments upon the delivery of homes. The loans bear an interest rate of primeplus three-fourths percent (4.75% at June 30, 2003).  The following amounts were available and outstanding under theseloan facilities as of June 30, 2003 and December 31, 2002 ($ in millions):

 
|         |   |                    |   |                |   |               |     | **Outstanding at** |   |
|--------------|--------|-------------------------|--------|---------------------|--------|--------------------|----------|--------------------|--------|
| **Project**  |   | **Amount  of Facility** |   | **Number  of Lots** |   | **Maturity  Date** |     | **June 30,  2003** |   | **December 31,  2002** |   |
|         |   |                    |   |                |   |               |     |               |   |   |   |
| North Corona |   | $                       | 17.1   |                | 93     |               | 10/29/03 |               | $      | 8.8 |   | $ | 6.4 |   |
| Riverside    |   | 7.8                     |   | 37                  |   | 7/28/03            |     | —             |   | 2.1 |   |
| Riverside    |   | 6.4                     |   | 47                  |   | 10/10/03           |     | 1.4                |   | 1.3 |   |
| Chino        |   | 15.4                    |   | 77                  |   | 5/30/04            |     | 7.9                |   | — |   |
|         |   | $                       | 46.7   |                |   |               |     |               | $      | 18.1 |   | $ | 9.8 |   |

 

Construction period interest wascapitalized to projects in the construction stage in the amount ofapproximately $100,000 and $300,000 for the three and six months ended June 30,2003, respectively, and less than $100,000 for each of the three and six monthsended June 30, 2002.

 

**Note 5 – Income Taxes**

 

The following is a summary of thetax provision (benefit):

 
|                                     |   | **Three Months Ended  June 30,** |   | **Six Months Ended  June 30,** |   |
|------------------------------------------|--------|----------------------------------|--------|--------------------------------|--------|
|                                     |   | **2003**                         |   | **2002**                       |   | **2003** |   | **2002** |   |
| Current  tax (benefit)                   |   | $                                | — |                           | $      | .1 |   | $ | — |   | $ | (.1 | ) |
| Deferred  tax (benefit)                  |   | .1                               |   | .1                             |   | — |   | (.1 | ) |
| Reduction in  contingent tax liabilities |   | (.1                              | )      | (.4                            | )      | (.1 | ) | (1.3 | ) |
| Provision  (benefit) for income taxes    |   | $                                | — |                           | $      | (.2 | ) | $ | (.1 | ) | $ | (1.5 | ) |

 

Deferred tax benefits resulting from reductions in thedeferred tax asset valuation allowance on net operating losses (“NOLs”) arerecorded when the Company concludes that it is more likely than not that itwill utilize additional NOLs to offset taxable income. Increases in thedeferred tax asset valuation allowance on NOLs are recorded when the Companycannot conclude that it is more likely than not that it will utilize additionalNOLs to offset taxable income. Pursuant to Fresh-Start Reporting, during thesecond quarter of 2003 and 2002, deferred tax benefits resulting fromreductions in valuation allowances on pre-Reorganization NOLs of approximately$900,000 and $200,000, respectively, were reflected by increasing the Company’scapital in excess of par value.

 

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During 1998, the Company executed asettlement agreement with the Internal Revenue Service (“IRS”) with respect toadjustments proposed to the tax returns of the Company and its consolidatedsubsidiaries, including formerly affiliated entities, for the years endedDecember 31, 1989, 1990 and 1991. As a result of this agreement, in February1999 the Company paid $759,000 in full settlement of the IRS claims. Nearly allof the state jurisdictions in which the Company filed amended returns for 1989,1990 and 1991 have accepted such returns, thereby reducing the Company’sexposure to potential claims to approximately $100,000 as of June 30, 2003. Inconjunction with periodic reviews of the adequacy of reserves for estimatedstate income taxes, the Company reduced its reserves by approximately $900,000and $400,000 during the first and second quarters of 2002, and by approximately$100,000 during the second quarter of 2003. The Company has consistentlyevaluated its tax reserves based on an analysis of open statutes by state. Taxreserves are reduced by the estimated exposure for each individual state uponthe expiration of the state’s statute of limitations. Each reduction inestimated tax liabilities has been reflected as an income tax (benefit).

 

The Internal Revenue Code (the“Code”) generally limits the availability of NOLs if an ownership change occurswithin any three-year period under Section 382. If the Company were toexperience an ownership change of more than 50%, the use of all remaining NOLswould generally be subject to an annual limitation equal to the value of theCompany’s equity before the ownership change, multiplied by the long-termtax-exempt rate. The federal NOLs available as of June 30, 2003 wereapproximately $181 million. The amount of federal NOLs which expire if notutilized is approximately $6 million, $20 million, $8 million, $19 million and$128 million for 2005, 2006, 2007, 2008 and thereafter, respectively.

 

The Company amended its certificateof incorporation in October 1999, in response to an unsolicited written consentfrom a majority of its stockholders,  inorder to protect the ability of the Company to utilize its tax losscarryforwards. Since the Company’s use of its NOLs would be severely restrictedif it experiences an ownership change of more than 50%, the Company’s majoritystockholders requested that the Board of Directors enact the amendments, whichwere determined to be in the best interest of the Company and its stockholders.The amendments prohibit future purchases of the Company’s common stock bypersons who would become new 5% holders, and also prohibit current holders ofover 5% from increasing their positions, except in certain permissiblecircumstances which would not jeopardize the Company’s ability to use its NOLs.While these amendments reduced the Company’s risk of an ownership changeoccurring due to the acquisition of shares by 5% stockholders, the risk remainsthat an ownership change could result from the sale of shares by existing 5%stockholders. The Company estimates that after giving effect to varioustransactions by stockholders who hold a 5% or greater interest in the Company,it has experienced a three-year cumulative ownership shift of approximately 8%as of June 30, 2003.

 

**Note 6 – Other Liabilities**

 

Other liabilities were comprised of the following (inmillions):

 
|                                                |   | **June 30,  2003** |   | **December 31,  2002** |   |
|-----------------------------------------------------|--------|--------------------|--------|------------------------|--------|
| Net deferred  taxes and other tax liabilities       |   | $                  | 2.7    |                   | $      | 3.7 |   |
| Accrued pensions  and benefits                      |   | 4.8                |   | 4.8                    |   |
| Home warranty  reserves                             |   | 1.2                |   | 1.2                    |   |
| Contingent  indemnity and environmental obligations |   | 4.5                |   | 4.4                    |   |
| Unamortized  discount                               |   | (1.1               | )      | (1.2                   | )      |
|                                                |   | $                  | 12.1   |                   | $      | 12.9 |   |

 

Contingent indemnity and environmental obligationsprimarily reflect reserves before related discount (recorded pursuant toFresh-Start Reporting) for contingent indemnity obligations for businessesdisposed of by former affiliates and unrelated to the Company’s currentoperations, and a liability of a subsidiary of the Company for PCBcontamination on its 42-acre Bolsa Chica lowlands property as further describedbelow.

 

In May 2002, Dresser Industries, Inc. (“Dresser”)filed litigation, captioned Dresser Industries, Inc. vs. California CoastalCommunities, Inc. and RESCO Holdings, Inc. (a former affiliate), in the 58thJudicial District Court of Jefferson County, Texas. Dresser seeks a declaratoryjudgment regarding the rights and obligations of the parties under a January1988 purchase agreement, whereby Dresser acquired an engineering andconstruction business from a former parent of the Company, and the formerparent agreed to indemnify Dresser against certain pre-closing claims. Dresseralso seeks unspecified damages for breach of the 1988 purchase agreement, alongwith attorneys’ fees and costs. Dresser’s indemnity claims relate to several hundredlawsuits encompassing approximately 2,500 contested asbestos claims made bythird parties in connection with work in facilities with which the disposed-ofbusiness was

 

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allegedly connected. The Company was not formed until September 1988and, upon being spun-off in December 1988, indemnified its former parent forits parent’s potential liabilities under the January 1988 purchase agreementwith Dresser to the extent that any such liabilities are not covered byinsurance. However, the Company believes its former parent’s agreement toindemnify Dresser for any third-party asbestos claims expired in March 1991under the terms of the January 1988 purchase agreement. This litigation is inthe early stages of discovery and the Company intends to vigorously defenditself in this case and related matters. The Company also believes that it hasa number of other meritorious defenses to this litigation. Given thepreliminary nature of these proceedings, the Company is not able to assess itspotential exposure with any degree of accuracy. While the Company currentlybelieves its reserves are adequate, damage awards in asbestos cases can involveamounts that would have a material adverse effect on the Company’s business,operations and financial condition, in the event that such an award was to berendered against the Company.

 

In September 1997, the Company acquired 42 acres inthe Bolsa Chica lowlands with the intent of selling it to the State ofCalifornia in connection with their planned restoration of 1,000 acres ofadjacent wetlands. While the State continues to express interest in acquiringthis property, no such agreement has been reached to date and there can be noassurances that any agreement will ever be reached. However, in anticipation ofentering into a purchase agreement, the State performed limited soils samplingon this property and notified the Company in 1999 that it had discoveredcontamination from a group of chemicals called PCBs. The source of thecontamination is presently unknown; however, the Company has never conductedany development, business or operations on this property. In January 2002, theState’s Department of Toxic Substances Control (“DTSC”) became the regulatoryagency responsible for overseeing the Company’s efforts to remediate thecontamination on this property. On July 1, 2002 a subsidiary of the Companyentered into a consent order with DTSC regarding remediation. The Company’ssubsidiary is in the process of preparing a Remedial Investigation Workplan,and upon obtaining DTSC approval, will perform additional sampling on theproperty to determine the nature and extent of contamination. As of June 30,2003, the Company has accrued approximately $1.3 million for environmental testingand remediation of this property. While the accrual reflects the estimate forthe minimum costs which are probable and estimable, such accrual may not beadequate to satisfy the full amount of remediation that may be required by theDTSC. Until additional soils sampling and analysis are completed later thisyear, the Company cannot accurately estimate how much, if any, additional costsmay ultimately be incurred; however, the Company has been advised that costscould range up to approximately $500,000 to $1.5 million in excess of thecurrent accrual. There is no maximum limitation to the subsidiary of theCompany’s obligation to remediate under the DTSC consent order. Other parties,who have yet to be identified, may be responsible for all or a portion of theseremediation costs. If any such party is subsequently identified, the Company’ssubsidiary may be entitled to seek reimbursement for some or all of its costs;however, there can be no assurance in that regard.

 

The Company provides a home warranty reserve toreflect its contingent liability for product warranty. The Company generallyrecords a provision as homes are delivered, based upon historical and industryexperience, subject to certain minimums. The home warranty reserve activity forthe six month periods is presented below:

 
|                           |   | **June 30,  2003** |   | **June 30,  2002** |   |
|--------------------------------|--------|--------------------|--------|--------------------|--------|
|                           |   |               |   |               |   |
| Balance at beginning of period |   | $                  | 1.2    |               | $      | 1.2 |   |
| Provision                      |   | .1                 |   | —             |   |
| Payments                       |   | (.1                | )      | (.1                | )      |
| Balance at end of period       |   | $                  | 1.2    |               | $      | 1.1 |   |

 

**Note 7 –Minority Interest**

 

In April 2003, the Company entered into a LimitedLiability Company (“LLC”) joint venture agreement for the purpose of designing,constructing and selling 77 homes in Chino, California. The LLC acquired the 77lots in May 2003 and is currently constructing the on-site infrastructure forthe homes. Hearthside Homes, Inc. (one of the Company’s principal subsidiaries)is the Managing Member of the LLC, manages its operations and contributedcapital of approximately $400,000 (approximately 10%) to the venture. Minorityinterest represents the non-Managing Member’s equity interest in the ventureincluding a capital contribution of approximately $4.0 million (approximately90%), as adjusted for the member’s allocation of profits and losses. Profitsand losses are generally allocated 50% to each member, after a 10% preferredreturn on invested capital. The losses of the non-Managing Member are limitedto the amount of its capital contribution of approximately $4 million.

 

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##### **Note 8 – Commitments and Contingencies**

 

The Company and its formeraffiliates have, through a variety of transactions effected since 1986,disposed of several assets and businesses, many of which are unrelated to theCompany’s current operations. By operation of law or contractual indemnityprovisions, the Company may have retained liabilities relating to certain ofthese assets and businesses.  There isgenerally no maximum obligation or amount of indemnity provided for suchliabilities. A portion of such liabilities are supported by insurance or byindemnities from certain of the Company’s previously affiliated companies. TheCompany believes its balance sheet reflects adequate reserves for thesematters; however there can be no assurance in that regard.

 

*LegalProceedings*

 

See Note 6 for a discussion of pending litigationfiled against the Company by Dresser.

 

There are various other lawsuits and claims pendingagainst the Company and certain subsidiaries. In the opinion of the Company’smanagement, ultimate liability, if any, will not have a material adverse effecton the Company’s financial condition or results of operations; however therecan be no assurance in that regard.

 

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ITEM 2 -                MANAGEMENT’SDISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS

 

**General**

### * *

The Company is a residential landdevelopment and homebuilding company with properties located primarily insouthern California. The principal activities of the Company and its consolidatedsubsidiaries include: (i) obtaining zoning and other entitlements for landit owns and improving the land for residential development; and(ii) designing, constructing and selling single-family residential homesin southern California. Once the residential land owned by the Company isentitled, the Company may build homes, sell unimproved land to other developersor homebuilders, sell improved land to homebuilders, or participate in jointventures with other developers, investors or homebuilders to finance andconstruct infrastructure and homes. During 2003, the Company will focus itsimmediate efforts to (i) obtain approval from the California CoastalCommission (“Coastal Commission”) for development permits to build 379 homes on the upper bench of the BolsaChica Mesa (“Upper Mesa”), as further described in Note 3 to the Company’sConsolidated Financial Statements; and (ii)  maintain profitablehomebuilding operations. However, the Company may also consider other strategicand joint venture opportunities; and there can be no assurance that the Companywill accomplish, in whole or in part, all or any of these strategic goals.

 

Over the last three years (2000 –2002), the Company has generated gross margins from homebuilding activities andcash flows on assets other than Bolsa Chica. The Company currently has on-goingsouthern California projects in Riverside County near the cities of NorthCorona and Riverside, and in the city of Chino in San Bernardino County. Thesehomebuilding projects are expected to generate significant cash flows andimproved gross margins through 2004. However, the Company’s inventory ofentitled land available for homebuilding projects is still limited. Given thislimited inventory of buildable lots, the Company is continuing to pursueresidential land development and lot acquisition opportunities. Due to delaysin approvals for homebuilding at Bolsa Chica, continuation of homebuildingoperations beyond the first quarter of 2005 is dependent upon acquisition ofsuitable, entitled residential lots within the southern California area orCoastal Commission approval of the Company’s development plan for 379 homes onthe Upper Mesa.

 

Bolsa Chica is the Company’sprincipal asset, representing 77% of total assets at June 30, 2003. It hasrequired and continues to require significant investments for entitlement andland development activities. Due to the November 2000 Coastal Commissionrecommendation to limit residential development to only the Upper Mesa, theCompany is faced with further delays in implementing its plans for residentialdevelopment on the Bolsa Chica Mesa. The Company is currently pursuing approvalof development permits for the Upper Mesa. In May 2002, the County of OrangePlanning Commission approved the Company’s site plan for development of 379single-family homes on the Upper Mesa. In response to an appeal, in July 2002,the Orange County Board of Supervisors upheld the Planning Commission’s priorapproval of the site plan and tentative tract map. This development plan alsorequires approval by the Coastal Commission. The Company submitted a CDPapplication for this plan to the Coastal Commission in November 2002. TheCompany is currently in the process of responding to comments from the CoastalCommission staff to have its CDP application deemed complete and currentlyexpects the Coastal Commission to hold a public hearing on the CDP early nextyear. The Company does not believe that the Coastal Commission process willultimately prevent it from developing a planned community at Bolsa Chica;however, there can be no assurance in that regard, or as to when developmentcould commence, or as to the number of acres or homes the Company will bepermitted to develop, or that further litigation or administrative delay will notresult.

 

The Bolsa Chica LandTrust and other environmental groups have periodically suggested that theCompany consider selling the Bolsa Chica Mesa to a nonprofit corporation or theState of California. Historically, there has been no source of funding tofinance such a transaction. However, in November 2002, voters approved a $3.4billion bond measure on California’s ballot known as Proposition 50 andentitled the “Water Quality, Supply and Safe Drinking Water Projects. CoastalWetlands Purchase and Protection. Bonds.” The bond initiative includes anunquantified line item for the State of California to pursue the acquisition ofall or a part of the Bolsa Chica Mesa. The State is conducting an appraisal ofthe Bolsa Chica Mesa, however, there can be no assurances that the Company willever receive an offer from the State for the Bolsa Chica Mesa; reach a mutuallyacceptable agreement on price and terms; or that a sale transaction will everbe completed.

 

The Company believes that the BolsaChica Mesa can ultimately be developed and will realize an amount that issubstantially in excess of the $152.8 million book value presently reflected inthe Company’s consolidated financial statements, although there can be noassurance in that regard. The Company also believes that the current andhistoric public trading prices of the Company’s common stock have notadequately reflected the Bolsa Chica Mesa’s true value. However, there can beno assurance that such public trading price will ever reflect what the Companymay believe to be

 

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the true value of the Bolsa Chica Mesa. From time totime, the Company has received outside appraisals on an “as developed basis”which have supported the Company’s beliefs. Therefore, the Company has nopresent intention of selling the Bolsa Chica Mesa to the State at any pricethat is not substantially in excess of present book value.

 

Land held for future development(Bolsa Chica) is carried at fair value which was established as of September 2,1997, following adoption of Fresh-Start Reporting as discussed in Note 3 to theConsolidated Financial Statements, as adjusted by subsequent activity. TheCompany’s real estate properties (real estate held for current development orsale and land held for future development) are subject to a number ofuncertainties which can affect the values of those assets. These uncertaintiesinclude litigation or appeals of regulatory approvals (as discussed above) andavailability of adequate capital, financing and cash flow. In addition, futurevalues may be adversely affected by increases in property taxes, increases inthe costs of labor and materials and other development risks, changes ingeneral economic conditions, including higher mortgage interest rates, andother real estate risks such as the general demand for housing and the supplyof competitive products. Real estate properties do not constitute liquid assetsand, at any given time, it may be difficult to sell a particular property foran appropriate price.

 

**Impact ofInflation; Changing Prices and Economic Conditions**

 

Real estate and residential housingprices are affected by inflation, which can cause increases in the price ofland, raw materials and subcontracted labor. Unless these increased costs arerecovered through higher sales prices, gross margin from home sales woulddecrease. If interest rates increase, construction and financing costs wouldalso increase, which can also result in lower gross margin from home sales. Thevolatility of interest rates could have an adverse effect on the Company’sfuture operations and liquidity. Among other things, these conditions mayaffect adversely the demand for housing and the availability of mortgagefinancing and may reduce the credit facilities offered to the Company.

 

There can be no assurance regardingthe continued health of the southern California residential real estate market.In particular, (i) the slow-down in the national economy during the pastseveral years, (ii) the significant decreases in the value of national stockmarket indices and the resulting volatility of those markets; (iii) the eventsof September 11, 2001 and their continuing effects on the economy; (iv)economic uncertainty related to the recent war with Iraq; and (v) the State ofCalifornia’s $38 billion estimated budget deficit, collectively appear to beexerting recessionary pressures on the California economy and may have anegative impact on the southern California housing market.

 

While low mortgage rates appear tohave sustained housing demand to date, any future increase in mortgage rates orsignificant loss of jobs in southern California would most likely slow demandfor new homes. Increases in home mortgage interest rates make it more difficultfor the Company’s customers to qualify for home mortgage loans, potentiallydecreasing home sales volume and prices. The tight supply of new homes insouthern California has resulted in significant home price increases over thelast five years. As a result, the affordability of new homes has been decliningand could further jeopardize future demand.

 

All of the Company’s activehomebuilding projects are located in the “Inland Empire” area of southernCalifornia, which includes Riverside and San Bernardino counties. The Inland Empirehas experienced significant population and job growth in the past decade. Whilecontinued growth is expected, partially due to the limited supply of affordablypriced housing in coastal areas such as Orange County, there can be noassurance that economic, demographic or other factors will not slow, diminishor cause such growth to discontinue. The Company is continuing to pursue landdevelopment and lot acquisition opportunities throughout southern California.

 

**Critical Accounting Policies**

 

In the preparation of the Consolidated FinancialStatements, the Company applies accounting principles generally accepted in theUnited States. The application of generally accepted accounting principles mayrequire management to make estimates and assumptions that affect the amountsreported in the financial statements and accompanying results. Listed below arethose policies that the Company believes are critical and require the use ofcomplex judgment in their application. The Company’s critical accounting policiesinclude the evaluation of the impairment of long-lived assets and theevaluation of the probability of being able to realize the future benefitsindicated by its significant federal tax net operating losses.

 

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*Stock-BasedCompensation*

 

Prior to the second quarter of 2003, the Companyaccounted for its stock-based employee compensation plan using the recognitionand measurement principles (intrinsic value method) of Accounting PrinciplesBoard (“APB”) Opinion No. 25, “Accounting for Stock Issued to Employees,” andthe related Financial Accounting Standards Board (“FASB”) Interpretation No. 44“Accounting for Certain Transactions Involving Stock Compensation” (“FIN 44”).As a result of the May 2001 repricing of outstanding stock options, the Companyaccounted for the options as variable awards and recorded non-cash stock-basedcompensation expense on a cumulative basis as the difference between the optionexercise price and the quoted market price of the Company’s common stock. FromMay 2001 through the first quarter of 2003, non-cash compensation expense wasreflected for price adjustments recorded pursuant to variable accounting forrepriced options.

 

During the second quarter of 2003, the Company adoptedthe fair value recognition provisions of FASB Statement of Financial StandardsNo. 123, “Accounting for Stock-Based Compensation” (“SFAS 123”). For thischange in accounting, the Company selected the “modified prospective method”under the provisions of SFAS No. 148 “Accounting for Stock-Based Compensation –Transition and Disclosure – an Amendment of FASB Statement No. 123” (“SFAS148”). Under this method, the change is retroactive to January 1, 2003, andcompensation cost recognized for the three and six months ended June 30, 2003is the same as that which would have been recognized had the recognitionprovisions of SFAS 123 been applied from its original effective date. Inaccordance with SFAS 148, results for prior years have not been restated. SFAS123 states that the adoption of the fair value based method is a change to apreferable method of accounting. Management believes that use of the fair valuebased method to record employee stock-based compensation expense is consistentwith the accounting for all other forms of compensation. The adoption of SFAS123 may have a significant impact on the Company’s future consolidated resultsof operations, due to the elimination of the potential future effects ofvariable accounting for repriced stock options.

 

*Impairmentof Long-Lived Assets*

 

The Company assesses the impairment of long-livedassets including land held for future development (the Bolsa Chica project) andreal estate held for current development or sale in accordance with Statementof Financial Accounting Standards (“SFAS”) No. 144, “Accounting for theImpairment or Disposal of Long-Lived Assets”. These assets are carried at cost,unless the carrying amount of the parcel or subdivision is determined not to befully recoverable, in which case the impaired real estate is written down tofair value. Impairment write-downs are recorded as adjustments to the costbasis of the real estate. Given the significance of the carrying value of landheld for future development, the application of SFAS No. 144 in evaluating anypotential impairment is critical to the Company’s consolidated financialstatements, as discussed further in Note 2 to the Consolidated FinancialStatements. Accordingly, the amount ultimately realized from the Bolsa Chicaproject may differ materially from current estimates and the project’s carryingvalue.

 

*IncomeTaxes*

 

The Company accounts for income taxes on the liabilitymethod. Deferred income taxes are determined based on the difference betweenthe consolidated financial statement and tax bases of assets and liabilities.The liability method requires an evaluation of the probability of being able torealize the future benefits indicated by deferred tax assets, such as tax netoperating losses (“NOLs”). A valuation allowance related to the deferred taxasset is recorded when uncertainties preclude the Company from determining thatit is more likely than not that some portion or all of the deferred tax assetwill be realized. Given the significance of the Company’s historical federaltax NOLs, as discussed in Note 5 to the Consolidated Financial Statements, theapplication of the Company’s policy in evaluating the expected future benefitof NOLs is critical. In applying those policies, estimates and judgments affectthe amounts at which certain assets and liabilities are recorded. The Companyapplies its accounting policies on a consistent basis. As circumstances change,they are considered in the Company’s estimates and judgments, and futurechanges in circumstances could result in changes in amounts at which assets andliabilities are recorded.

 

*HomebuildingRevenues and Cost of Sales*

 

The Company’s homebuildingoperation generates revenues from the sale of homes to homebuyers. The majorityof these homes are designed to appeal to move-up homebuyers and the homes aregenerally offered for sale in advance of their construction. Sales contractsare usually subject to certain contingencies such as the buyer’s ability toqualify for financing. Revenue from the sale of homes is recognized at closingwhen title passes to the buyer, and the earnings process is complete. As aresult, the Company’s revenue recognition process does not involve significantjudgments or estimates. However, the Company does rely on certain estimates todetermine the related construction costs and resulting gross margins associatedwith revenues recognized. The Company’s construction costs are comprised ofdirect and allocated costs, including estimated costs for future warranties andindemnities. The Company’s estimates are based on historical results, adjustedfor current factors.

 

*WarrantyCosts*

 

Warranty reserves are established as homes closeescrow on a per-unit basis in an amount estimated to be adequate to coverexpected warranty-related costs for materials and outside labor to be incurredduring the warranty period. Reserves are determined based upon historical datawith respect to similar product types and geographical

 

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areas. There can be no assurance that the amount reserved will besufficient to fully satisfy all warranty-related costs ultimately incurredduring the warranty period.

 

*LitigationReserves*

 

The Company and certain of its subsidiaries have beennamed as defendants in various cases arising in the normal course of businessand regarding disposed assets and businesses of the Company or formeraffiliates. The Company has reserved for costs expected to be incurred withrespect to these cases based upon information provided by its legal counsel.There can be no assurance that total litigation costs actually incurred willnot exceed the amount of such reserve.

 

**RecentAccounting Pronouncements**

 

See discussion regarding recentaccounting pronouncements in Note 2 to the Consolidated Financial Statements.

 

**Liquidityand Capital Resources**

 

The principal assets in theCompany’s portfolio are residential land which must be held over an extendedperiod of time in order to be developed to a condition that, in management’sopinion, will ultimately maximize the return to the Company. Consequently, theCompany requires significant capital to finance its real estate development andhomebuilding operations. Historically, sources of capital have includedspecific property financings, asset sales and available internal funds. TheCompany is currently utilizing project debt, joint venture contributions andinternally generated cash to fund construction of the second phase of the NorthCorona project, the Riverside project and the Chino project, and is utilizinginternally generated cash to fund the first phase of the North Corona projectand the Bolsa Chica project. As of June 30, 2003, the Company had internallyfinanced approximately $17.0 million of investments in homebuilding projects.These projects are expected to generate approximately $22.0 million of positivecash flows during the next 24 months, based on present economic conditions andmarket assumptions. The Company’s cash and cash equivalents as of June 30, 2003were approximately $5.3 million. The Company believes that its cash and cashequivalents, future real estate sales proceeds, and funds available under itsproject debt agreements will be sufficient to meet anticipated operating andcapital investment requirements, primarily project development costs for homebuildingprojects and Bolsa Chica, along with general and administrative expenses andcertain liabilities, for the next 12 months.

 

The Company is subject to the usualobligations associated with entering into contracts for the purchase of landand improved homesites. These purchase contracts typically require a cashdeposit and the purchase of properties under these contracts is generallycontingent upon satisfaction of certain requirements, including obtainingapplicable property entitlements. The Company also utilizes option contractswith third-party land sellers and financial entities as a method of acquiringland in staged takedowns and minimizing the use of funds from other corporatefinancing sources. These option contracts also help to manage the financial andmarket risk associated with land holdings. Option contracts generally requirethe payment of a non-refundable cash deposit for the right to acquire lots overa specified period of time at predetermined prices. The Company has the rightat its discretion to terminate the obligations under these option agreements byforfeiting the cash deposit with no further financial responsibility. TheCompany may enter into land development and homebuilding joint ventures fromtime to time as a means of expanding its market opportunities, establishingstrategic alliances, managing its risk profile and leveraging the Company’scapital base. These joint ventures may obtain secured acquisition, developmentand construction financing, which minimizes the use of funds from othercorporate financing sources.

 

**Land Development**

 

*Oxnard.*  In February 2003, the Company entered intotwo option contracts to acquire land adjacent to the City of Oxnard in VenturaCounty, California aggregating approximately 168 acres. The Company is in theprocess of developing a land plan for the site, which includes an additional149 acres owned by other landowners, with the intention of entitling theproperty for residential development and annexing it to the City of Oxnard. TheCompany currently expects that the residential development plan will includeapproximately 1,100 single-family and approximately 400 multi-familyresidential sites; however, these numbers are subject to change during thecourse of the entitlement process. The option contracts allow for two years,plus up to two additional years through the exercise of extensions, for theCompany to complete these entitlement activities in advance of consummating thepurchase transactions. The Company has the right at its discretion to terminatethe obligations under these option agreements by forfeiting the cash depositswith no further financial responsibility.

 

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**Homebuilding**

 

*NorthCorona*.  In July 2001,the Company acquired 83 finished lots in Riverside County, California nearNorth Corona in the master-planned community known as Providence Ranch. Thecommunity of Providence Ranch and the adjacent community of Corona Valley, areplanned for a total of 2,600 homes, and are well-located to serve theemployment centers of the greater Los Angeles area, Orange County and theOntario international airport. The Company commenced home construction inOctober 2001, opened for sales in February 2002 and released 73 homes for saleduring 2002 at an average price of approximately $298,000. During 2002 and thefirst half of 2003, 58 homes and 15 homes were delivered, respectively. Salesof the three models and the remaining seven homesites will be deferred untilsales of the additional 93 lots which are discussed below are complete.

 

In October 2002, the Company acquired an additional 93finished lots in the Providence Ranch community. Construction of homes in thissecond phase began during the first quarter of 2003. These homes are being soldfrom the original model complex and as of August 4, 2003, 71 homes had beenreleased for sale at an average price of $340,000 and all 71 homes were inescrow. Completion of homes and close of escrows is scheduled to begin early inthe fourth quarter of 2003.

 

*Riverside*.  During 2002 and the first quarter of 2003,the Company acquired a total of 84 finished lots near the city of Riverside, inRiverside County, in the master-planned community known as Victoria Grove. Thiswell-established community is planned for a total of 855 homes. The Company isin escrow to acquire 41 additional lots for a total project of 125 homes,including two product types. The Company began home construction and opened forsales during August 2002 on the “Harvest” product which is comprised of 60homes, averaging 2,934 square feet.  All60 homes in the Harvest product type have been released for sale at an averagehome price of approximately $340,000. As of August 4, 2003, 24 homes had beendelivered, including 14 during the second quarter of 2003. All of the 36remaining homes are in escrow and are expected to close during the second halfof 2003.

 

 The Companybegan construction of homes on the larger “Jasper Ranch” product during thethird quarter of 2003, which is comprised of 65 homes, averaging 3,648 squarefeet.  The Company opened for sales onthese homes during June of 2003. As of August 4, 2003, 10 homes had beenreleased for sale at an average price of approximately $450,000 and three homeswere in escrow.

 

*Chino. *On May 30, 2003, the Company, through a jointventure, acquired 77 finished lots in Chino, California in San BernardinoCounty. This infill site is part of a new community encompassing 244 homes.Construction of homes averaging approximately 3,230 square feet is expected tobegin during the third quarter of 2003.

 

**Financial Condition**

 

*June 30, 2003 Compared with December 31, 2002*

 

Cash flows from homebuildingoperations for the first half of 2003 primarily reflect a use of cash forinvestments in real estate and construction costs of $25.3 million includingthe acquisition of 77 lots in Chino, California. These investments were fundedby sales proceeds of $13.1 million from deliveries of 42 homes, net borrowingunder project debt financing of $8.3 million, and joint venture capitalcontributed (minority interest) for the Chino project of $3.9 million. Othersignificant uses of cash include approximately $900,000 for investment in theBolsa Chica Mesa project, primarily for consultants engaged in the entitlementprocess, and selling, general and administrative expenses of approximately $1.7million. These items, as well as other activity discussed below and presentedin the Statements of Cash Flows, resulted in the $3.9 million decrease in cashand cash equivalents.

 

Accounts payable and accruedliabilities decreased by approximately $700,000, to a balance of $4.3 millionas of June 30, 2003, primarily reflecting payments of state income taxes.

 

The increase in capital in excessof par value of approximately $900,000 reflects reversal of valuation reserveon pre-Reorganization NOLs, pursuant to the Company’s evaluation that it ismore likely than not that the Company will utilize the NOLs to offset taxesotherwise payable.

 

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**Results of Operations**

 

The nature of the Company’s business, including itslimited inventory of buildable lots, is such that the number of active sellingcommunities over a given time period may often cause significant fluctuationsin operating results from quarter to quarter and from year to year.

 

*Three Months Ended June 30, 2003 Compared with the ThreeMonths Ended June 30, 2002*

 

The Company reported revenues of$9.2 million and gross operating profit of approximately $1.6 million for thesecond quarter of 2003, compared with $5.1 million in revenues and grossoperating profit of approximately $700,000 for the second quarter of 2002.Revenues in the current period reflect deliveries of 29 homes, including 14homes at the Company’s Riverside project, 14 homes at the North Corona projectand the final home at the Yucaipa project. The comparable period of the prioryear reflects deliveries of eight homes at the Yucaipa project and 11 homes atthe North Corona project. The current quarter’s gross margin of 17% is higherthan the prior period gross margin of 14% due to home price appreciationexperienced over the past year and the higher profitability of the Riversideproject as compared to the Yucaipa project.

 

The $600,000 other expense, net inthe current quarter as compared to $600,000 of income in the second quarter of2002, primarily reflects an additional accrual of approximately $700,000 forestimated environmental remediation costs and the absence in the current year’squarter of $800,000 in gains on sales of short-term investments, which wererealized during the second quarter of 2002.

 

During the three months ended June30, 2003, the Company recorded a tax benefit of approximately $100,000 inconnection with the reduction in reserves for contingent tax liabilities, whichoffset the deferred tax provision recorded for the current period. During thethree months ended June 30, 2002, the Company recorded a tax benefit of$200,000, including $400,000 in connection with the reduction in reserves forcontingent tax liabilities, following the expiration of statutes of limitationsin six states.

 

*Six Months Ended June 30, 2003Compared with the Six Months Ended June 30, 2002*

 

The Company reported revenues of$13.1 million and gross operating profit of approximately $2.2 million for thefirst half of 2003, compared with $8.0 million in revenues and gross operatingprofit of approximately $900,000 for the first half of 2002. Revenues in thefirst half of 2003 reflect deliveries of 42 homes, including the first 24 homesat the Company’s Riverside project, 15 homes at the North Corona project andthe final three homes at the Yucaipa project. The comparable period of theprior year reflects deliveries of an aggregate of 31 homes at the Yucaipa andNorth Corona projects. The gross margin for the first half of 2003 of 17% ishigher than the prior period gross margin of 11% due to home price appreciationexperienced over the past year and higher profitability of the Riversideproject as compared to the Yucaipa project.

 

The $200,000 increase in selling,general and administrative expenses during the first half of 2003, as comparedto the first half of 2002, primarily reflects an increase in accrued incentivecompensation for the Company’s homebuilding business, partially offset by theabsence of non-cash compensation expense recorded pursuant to variableaccounting for repriced stock options. During the second quarter of 2003, theCompany adopted Statement of Financial Accounting Standards No. 123 “Accountingfor Stock-Based Compensation” under the modified prospective method prescribedby SFAS No. 148 “Accounting for Stock-Based Compensation – Transition andDisclosure – an amendment of FASB Statement No. 123”, resulting in no suchexpense in the first half of 2003, compared with approximately $302,000 of suchexpense in the first half of 2002. The adoption, which was retroactive toJanuary 1, 2003, resulted in the reversal of $476,000 of non-cash compensationexpense recorded during the first quarter of 2003 as prescribed by SFAS 148.

 

The $300,000 decrease in incomefrom unconsolidated joint ventures from approximately $600,000 for the firsthalf of 2002 to approximately $300,000 for the first half of 2003 primarilyreflects reduced income from the Fairbanks Highlands project, due to thecompletion of home sales during the first half of 2002.

 

During the six months ended June30, 2003, the Company recorded a tax benefit of approximately $100,000 inconnection with the reduction in reserves for contingent tax liabilities.During the six months ended June 30, 2002, the

 

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Company recorded a tax benefit of $1.5 million,including $1.3 million in connection with the reduction in reserves forcontingent tax liabilities, reversal of $200,000 of alternative minimum taxespayable due to a change in the federal income tax law enacted in that quarter,and a $200,000 tax benefit from a reduction in the deferred tax asset valuationallowance on post-Reorganization state NOLs. The reduction in tax reserves in2002 was due to expiration of statutes of limitations or settlements in eightstates. These events reduced the Company’s exposure in each period.

 

*PaymentsUnder Contractual Obligations*

 

The Company has entered into certain contractual obligationsto make future payments for items such as project debt and leaseagreements.  A summary of the paymentsdue under specified contractual obligations, aggregated by category ofcontractual obligation, for specified time periods is presented below as ofJune 30, 2003 (in millions):

 
|             |   |      |   | **Payments  due by period** |   |
|------------------|--------|-----------|--------|-----------------------------|--------|
|             |   | **Total** |   | **Less  than 1  year**      |   | **1-3  years** |   | **3-5  years** |   | **More  than 5  years** |   |
|             |   |      |   |                        |   |   |   |   |   |   |   |
| Project debt     |   | $         | 18.1   |                        | $      | 18.1 |   | — |   | — |   | — |   |
| Operating leases |   | .3        |   | .2                          |   | .1 |   | — |   | — |   |
| Total            |   | $         | 18.4   |                        | $      | 18.3 |   | $ | .1 |   | — |   | — |   |
|                  |        |           |        |                             |        |  |  |  |  |  |  |  |  |  |

 

The Company’s purchase contracts which are made in thenormal course of its homebuilding business for land acquisition andconstruction subcontracts are generally cancelable at will. Other contractualobligations including the Company’s other tax liabilities, accrued benefitliability for a frozen retirement plan and other accrued pensions, homewarranty reserves and contingent indemnity and environmental obligations areestimated based on various factors. Payments are not due as of a given date,but rather are dependent upon the incurrence of professional services, thelives of annuitants and other factors. The estimation process involved in thedetermination of carrying values of these obligations is inherently uncertainsince it requires estimates as to future events and contingencies. The Companyhas provided additional disclosure in its Consolidated Financial Statements inNotes 6 and 8.

 

**Safe Harbor,Statement Under the Private Securities Litigation Act of 1995**

 

Certain of the foregoinginformation and the information following this Item 2 contains forward-lookingstatements that relate to future events or the Company’s future financialperformance.  These statements involveknown and unknown risks, uncertainties and other factors which may cause theCompany’s actual results, performance or achievements to be materiallydifferent from any future results, performances or achievements expressed orimplied by the forward-looking statements. In some cases, you can identify forward-looking statements byterminology such as “may”, “will”, “should”, “expects”, “plans”, “anticipates”,“believes”, “estimates”, “predicts”, “potential”, “continue”, or the negativeof such terms or other comparable terminology. These forward-looking statements include, but are not limited to, (1)statements about the Company’s plans, objectives, goals, expectations andintentions; (2) the number and types of homes and number of acres of land thatthe Company may develop and sell; (3) the timing and outcomes of litigation,regulatory approval processes or administrative proceedings (including, but notlimited to ongoing administrative proceedings related to the Company’sprincipal asset, the Bolsa Chica Mesa); (4) the Company’s ability to continuerelationships with current or future partners; (5) the Company’s ability toexpend resources to comply with environmental regulations and local permittingrequirements; (6) the effect of certain costs, contractual obligations and taxliabilities, both known and unknown, on the Company’s business, results ofoperations and financial condition; (7) the condition and adequacy of theCompany’s properties; (8) the Company’s ability to estimate cash flowprojections due to uncertainties in valuing real property; (9) the Company’sability to acquire residential lots in order to continue homebuildingoperations; (10) the adequacy of capital, financing and cash flow required tocontinue the Company’s operations and land development activities; (11) theadequacy of cash reserves for litigation, warranties and other contingentobligations; (12) the future condition of the real estate market in southernCalifornia; (13) the possible negotiation of a sale transaction with the Stateof California and the ability to realize a sales price for the Bolsa Chica Mesathat is substantially in excess of book value; (14) general economic andbusiness conditions; (15) interest rate changes; (16) the relative stability ofdebt and equity markets; (17) competition; (18) the availability and cost of rawmaterials used by the Company in its homebuilding operations; (19) shortagesand the cost of labor; (20) weather related slowdowns; (21) slow growth and nogrowth initiatives or moratoria; (22) governmental regulation, including theinterpretation of tax, labor and environmental laws; (23) changes in consumerconfidence and preferences; (24) accounting changes; (25) terrorist acts andother acts of war; (26) other factors over which the Company has little or nocontrol; and (27) other statements contained herein that are not historicalfacts.

 

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ITEM 3  -  QUANTITATIVE AND QUALITATIVE DISCLOSURESABOUT MARKET RISK

 

The Company utilizes project debtfinancing for acquisition, development and construction of homes. The interestrates on the Company’s project debt approximate the current rates available forsecured real estate financing with similar terms and maturities, and as aresult, their carrying amounts approximate fair value. While changes in interestrates generally do not impact the fair market value of the debt instrument,they do affect the Company’s earnings and cash flows. Holding the Company’svariable rate debt balance constant as of June 30, 2003, each one pointpercentage increase in interest rates would result in an increase in variablerate interest incurred for the next 12 months of approximately $200,000.

 

ITEM 4  -  EVALUATION OF DISCLOSURE CONTROLS ANDPROCEDURES

 

An evaluation was performed under the supervision andwith the participation of the Company’s management, including the ChiefExecutive Officer and Chief Financial Officer, of the effectiveness of thedesign and operation of the Company’s disclosure controls and procedures (asdefined in Exchange Act Rules 13a-14(c) and 15d-14(c)) as of June 30, 2003.Based on that evaluation, the Company’s management, including the ChiefExecutive Officer and Chief Financial Officer, concluded that (i) the Company’sdisclosure controls and procedures were effective as of the end of the period toensure that the information that the Company is required to disclose in thereports filed or submitted under the Exchange Act is recorded, processed,summarized and reported within the time periods specified in the Securities andExchange Commission’s rules and forms, and that (ii) the information that isrequired to be reported is accumulated and communicated to management,including the Company’s principal executive and financial officers, asappropriate, to allow timely decisions regarding required disclosure. Therehave been no significant changes in the Company’s internal controls or in otherfactors that could significantly affect the Company’s internal controls.

 

 

PART II - OTHERINFORMATION

 

ITEM 1 -                LegalProceedings

 

See Note 6 to the Consolidated Financial Statementsabove, and “Item 1 - Business - Corporate Indemnification Matters” and “Item 3- Legal Proceedings” in the Company’s Annual Report on Form 10-K for the yearended December 31, 2002.

 

ITEM  4 -               Submission of Matters to aVote of Security Holders

 

The Annual Meeting of the Company’sstockholders was held on May 14, 2003. A quorum of common stock was present inperson or by proxy. The following proposals were approved by the requisite voteof the Company’s stockholders entitled to vote, as follows:

 

Proposal No. 1: *TheDirector Proposal*.  TheCompany’s director proposal recommended election of four directors to aone-year term. Set forth below is a table of how the votes were cast for eachnominee, which constituted the affirmative votes for all nominees, by theholders of approximately 99.8% of the outstanding Common Stock represented inperson or by proxy at the annual Meeting.

 
| **Name**                |   | **Votes Cast  “For Nominee”** |   | **Votes  “Withheld”** |   |
|-------------------------|--------|-----------------------------------------|--------|---------------------------------|--------|
|                    |   |                                    |   |                            |   |
| Phillip  R. Burnaman II |   | 9,053,780                               |   | 20,516                          |   |
| Raymond  J. Pacini      |   | 9,065,133                               |   | 9,163                           |   |
| Thomas  W. Sabin, Jr.   |   | 9,052,780                               |   | 21,516                          |   |
| J.  Thomas Talbot       |   | 9,052,352                               |   | 21,944                          |   |

 

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Proposal No. 2: *TheAuditor Proposal*.   Theholders of Common Stock cast 9,051,861 votes for and 19,253 votes against theCompany’s proposal to ratify the appointment of Deloitte & Touche LLP asthe Company’s independent auditors for the fiscal year ending December 31,2003. Such votes constituted the affirmative vote for the Auditor Proposal bythe holders of approximately 99.8% of the outstanding Common Stock representedin person or by proxy at the Annual Meeting. There were 3,182 abstentions andno broker non-votes by the holders of shares of Common Stock with respect tothe Auditor Proposal.

 

ITEM 6 -                                                 Exhibitsand Reports on Form 8-K

 

(a)                                  Exhibits:

 

31.1                           Section302 Certificate of Raymond J. Pacini, Chief Executive Officer of CaliforniaCoastal Communities, Inc.

 

31.2                           Section302 Certificate of Sandra G. Sciutto, Chief Financial Officer of CaliforniaCoastal Communities, Inc.

 

32.1                           Section906 Certificate of Raymond J. Pacini, Chief Executive Officer of CaliforniaCoastal Communities, Inc.

 

32.2                           Section906 Certificate of Sandra G. Sciutto, Chief Financial Officer of CaliforniaCoastal Communities, Inc.

 

(b)                                 Reportson Form 8-K:

 

Current report on Form 8-K datedMay 7, 2003, attaching a press release reporting first quarter results.

 

**SIGNATURE**

 

Pursuant to the requirements of Section 13 or 15(d) ofthe Securities Exchange Act of 1934, the registrant has caused this report tobe signed on its behalf by the undersigned, thereunto duly authorized.

 

 
| Date:  August  7, 2003 |   | CALIFORNIA COASTAL COMMUNITIES, INC. |
|-----------------------------|--------|--------------------------------------|
|                        |   |                                 |   |
|                        |   |                                 |   |
|                        |   | By:                             | /s/ Sandra G. Sciutto |   |
|                        |   |                                 | SANDRA G. SCIUTTO |
|                        |   |                                 | Senior Vice President  and |
|                        |   |                                 | Chief Financial Officer |

 

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