Smith Douglas Homes Corp

to Unaudited Condensed Consolidated Financial Statements

Note 1 - Description of business and summary of significant accounting policies:

Nature of business

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

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

Initial Public Offering and Reorganization Transactions

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

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

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

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

Basis of presentation

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

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

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

Principles of consolidation and non-controlling interests

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

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

The non-controlling interests in the unaudited condensed consolidated statements of income for the three and six months ended June 30, 2024 represent the portion of earnings attributable to the economic interest in Smith Douglas Holdings LLC held by the Continuing Equity Owners. The non-controlling interests in the unaudited condensed consolidated balance sheet as of June 30, 2024 represent the portion of the net assets of the Company attributable to the Continuing Equity Owners, based on the portion of the LLC Interests owned by such unit holders. As of June 30, 2024, the non-controlling interests were 82.7%.

Use of estimates in the preparation of unaudited condensed consolidated financial statements

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

Business combination

On July 31, 2023, the Company acquired substantially all of the assets of Devon Street Homes, L.P. (Devon Street) and accounted for the transaction as a business combination in accordance with Accounting Standards Codification (ASC) Topic 805, Business Combinations, recognizing the identifiable assets acquired and liabilities assumed at their fair values as of the acquisition date. As disclosed in previous filings, the Company's acquisition accounting for the Devon Street business combination was preliminary as of December 31, 2023 and March 31, 2024. The Company has completed the purchase price allocation for the acquisition of Devon Street Homes, L.P. as of June 30, 2024 with no material adjustments from the amounts disclosed within Note 16 of the Company’s Annual Report on Form 10-K for the year ended December 31, 2023.

Revenue recognition

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

When the Company executes sales contracts with its homebuyers, or when it requires advance payment from homebuyers for custom changes, upgrades or options related to their homes, the cash deposits received are recorded as contract liabilities until the homes are closed or the contracts are canceled. The Company either retains or refunds to the customer deposits on canceled sales contracts, depending upon the applicable provisions of the contract or other circumstances. As of June 30, 2024 and December 31, 2023, customer deposits totaled $9.5 million and $7.2 million, respectively. Substantially all customer deposits are recognized in revenue within one year of being received from homebuyers.

Share-based payments

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

Income taxes

After consummation of the IPO, Smith Douglas Homes Corp. became subject to U.S. federal, state, and local income taxes with respect to its allocable share of taxable income of Smith Douglas Holdings LLC assessed at the prevailing corporate tax rates. Smith Douglas Holdings LLC operates as a limited liability company and is treated as a partnership for income tax purposes. Accordingly, it incurs no significant liability for federal or state income taxes since the taxable income or loss is passed through to its members. Smith Douglas Holdings LLC incurs liabilities for certain state taxes payable directly by it, which are not significant and for which the expense is included in the provision for income taxes in the accompanying unaudited condensed consolidated statements of income for the three and six months ended June 30, 2024 and in selling, general and administrative costs in the accompanying unaudited condensed consolidated statements of income for the three and six months ended June 30, 2023.

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

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

The Company recognizes the tax benefit from an uncertain tax position only if it is more likely than not that the tax position will be sustained on examination by the taxing authority, based on the technical merits of the position. As of June 30, 2024 and December 31, 2023, there wereno known items which would result in a significant accrual for uncertain tax positions.

Tax receivable agreement

In connection with the IPO and related transactions, the Company entered into a Tax Receivable Agreement (TRA) with Smith Douglas Holdings LLC and the Continuing Equity Owners that will provide for the payment by Smith Douglas Homes Corp. to the Continuing Equity Owners of 85% of the amount of tax benefits, if any, that Smith Douglas Homes Corp. realizes (or in some circumstances is deemed to realize) related to the tax basis adjustments described in Note 12 as such savings are realized.

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

Recent rules and accounting pronouncements

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

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

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

Note 2 ‑ Real estate inventory and capitalized interest:

A summary of real estate inventory is as follows as of June 30, 2024 and December 31, 2023 (in thousands):

The Company capitalizes into real estate inventory interest costs incurred on homes under construction during the construction period until substantial completion. The Company does not capitalize interest on homes where construction has been suspended.

A summary of capitalized interest is as follows (in thousands):

Note 3 ‑ Variable interest entities:

The Company enters into lot option agreements to procure finished lots for the construction of homes in the future. Pursuant to these option agreements, the Company generally provides a deposit to the seller as consideration for the right to purchase lots at different times in the future at predetermined prices. Such contracts enable the Company to defer acquiring portions of properties owned by third parties or unconsolidated entities until the Company has determined whether and when to exercise the option, which may serve to reduce the Company’s financial risks associated with long‑term land holdings.

Based on the provisions of the relevant accounting guidance, the Company has concluded that when it enters into an option or purchase agreement to acquire lots from an entity, a variable interest entity (VIE) may be created. The Company evaluates all option and purchase agreements and amendments for land to determine if the related entity is a VIE. As required by ASC Topic 810, Consolidation, the Company assesses whether it is the primary beneficiary for each VIE. In order to determine if the Company is the primary beneficiary, the Company must first assess whether it has the ability to control the activities of the VIE that most significantly impact its economic performance. Such activities include, but are not limited to, the ability to determine the budget and scope of land development work, if any; the ability to control financing decisions for the VIE; the ability to acquire additional land into the VIE or dispose of land in the VIE not under contract with the Company; and the ability to change or amend the existing option contract with the VIE. If the Company does not control such activities, the Company is not considered the primary beneficiary of the VIE. If the Company has the ability to control such activities, the Company will continue its analysis by determining if the Company is also expected to absorb a potentially significant amount of the VIE’s losses or, if no party absorbs the majority of such losses, if the Company will benefit from a potentially significant amount of the VIE’s expected gains. As of June 30, 2024 and December 31, 2023, the Company was not identified as the primary beneficiary of any VIEs associated with option and purchase agreements. Therefore, no such VIEs required consolidation under ASC Topic 810.

In all cases, creditors of the entities with which the Company has option agreements have no recourse against the Company and the maximum exposure to loss in option agreements is limited to the Company’s option deposits and any capitalized pre‑acquisition costs.

In certain instances where the Company has entered into option agreements to purchase finished lots from a land banker, the Company may also enter into an agreement to complete the development of the lots on behalf of the land banker at a fixed cost. The Company may be at risk for items over budget related to the development of the property under option. Any unpaid amounts under these development agreements are recorded as development reimbursement receivables from land bankers and are included within other assets in the accompanying unaudited condensed consolidated balance sheets.

As of June 30, 2024, the Company had deposits of $66.3 million related to land option agreements with an aggregate remaining purchase price of $834.4 million. As of December 31, 2023, the Company had deposits of $57.1 million related to land option agreements with an aggregate remaining purchase price of $652.1 million.

For lot option contracts where the lot seller entity is not required to be consolidated under the variable interest model, the Company considers whether such contracts should be accounted for as financing arrangements. Lot option contracts that may be considered financing arrangements include those entered into with third‑party land banks or developers in conjunction with such third parties acquiring a specific land parcel(s) on the Company’s behalf, at the Company’s direction, and those with other landowners where the Company or its designee makes improvements to the optioned land parcel(s) during the applicable option period. For these lot option contracts, the Company records the remaining purchase price of the associated land parcel(s) in inventory in its consolidated balance sheets with a corresponding financing obligation if the Company determines that it is effectively compelled to exercise the option to purchase the land parcel(s). In making this determination with respect to a land option contracts, the Company considers the non‑refundable deposit(s), any capitalized pre‑acquisition costs and additional costs associated with abandoning the contract. As a result of such evaluations of lot option contracts, no lot option contracts were determined to be financing arrangements for which the remaining purchase price should be recorded as a financing obligation in the accompanying unaudited condensed consolidated balance sheets.

Note 4 ‑ Investments in unconsolidated entities:

The Company has non‑controlling equity interests in various entities for which the Company applies the equity method of accounting. The Company’s proportionate share of the entities’ income was approximately $0.2 million and $0.4 million during the three and six months ended June 30, 2024, respectively, and approximately $0.2 million and $0.4 million during the three and six months ended June 30, 2023, respectively. The entities distributed approximately $0.2 million and $0.4 million to the Company during the three and six months ended June 30, 2024, respectively, and approximately $0.3 million and $0.7 million to the Company during the three and six months ended June 30, 2023, respectively. The Company contributed approximately $0.6 million to the entities during the three and six months ended June 30, 2024. Investments in unconsolidated entities totaled approximately $0.7 million and $0.1 million as of June 30, 2024 and December 31, 2023, respectively, and are included within other assets in the accompanying unaudited condensed consolidated balance sheets.

Note 5 – Notes payable:

As of June 30, 2024, the Company has a $250.0 million unsecured revolving credit facility that was entered into concurrently with the IPO (the Amended Credit Facility), which replaced the previous $175.0 million unsecured revolving credit facility. The Amended Credit Facility matures in January 2027, except that the Company may request aone-year extension of such maturity date. The Amended Credit Facility also includes a $100.0 million accordion feature, subject to additional commitments, and provides that up to $20.0 million may be used for letters of credit.

The borrowings and letters of credit outstanding under the Amended Credit Facility may not exceed the borrowing base as defined in the Amended Credit Facility. The borrowing base primarily consists of a percentage of commercial land, land held for development, lots under development and finished lots held by the Company.

Borrowings under the Amended Credit Facility bear interest, at the borrower’s option, at either a base rate or Secured Overnight Financing Rate (which may be a daily simple rate or based on 1-, 3- or 6-month interest periods, in each case at the borrower’s option), plus an applicable margin. The applicable margin ranges from 2.35% to 3.00% based on the Company’s leverage ratio as determined in accordance with a pricing grid defined in the Amended Credit Facility. Interest is payable in arrears on the last business day of each month or at the end of each 1-, 3- or 6-month interest period, as applicable. As of June 30, 2024, the interest rate on outstanding borrowings under the Amended Credit Facility was 7.76%. Borrowings under the previous credit facility bore interest at the Prime Rate, as defined, plus an applicable margin ranging from minus 25 basis points to 20 basis points based on the Company’s leverage ratio as determined in accordance with a pricing grid. As of December 31, 2023, the interest rate on outstanding borrowings was 8.25%.

The Amended Credit Facility contains certain financial covenants, including requirements to maintain (i) a minimum tangible net worth equal to the sum of (a) $130.0 million, (b)32.5% of pre‑tax income earned in any fiscal quarter after June 30, 2023, (c)75% of the equity proceeds of Smith Douglas Homes Corp. from the IPO and (d)50% of any new equity proceeds of Smith Douglas Homes Corp. and its subsidiaries after the IPO, (ii) a maximum leverage ratio of 60%, (iii) a minimum ratio of EBITDA to interest incurred of 2.00 to 1.00, and (iv) a minimum liquidity requirement of $15.0 million. The Amended Credit Facility also contains various covenants that, among other restrictions, limit the ability of Smith Douglas Homes LLC and the other borrowers to incur additional debt and to make certain investments and distributions. Additionally, the Amended Credit Facility contains certain covenants that restricts certain activities of Smith Douglas Homes Corp. The Amended Credit Facility also contains customary events of default relating to, among other things, failure to make payments, breach of covenants and breach of representations. If an event of default occurs and is continuing, the borrowers may be required to immediately repay all amounts outstanding under the Amended Credit Facility. As of June 30, 2024, the Company was in compliance with all covenants related to the Amended Credit Facility.

As of June 30, 2024, there wereno outstanding borrowings under the Amended Credit Facility. As of December 31, 2023, outstanding borrowings under the previous credit facility totaled $71.0 million. As of June 30, 2024 and December 31, 2023, there wereno outstanding letters of credit. Availability as determined in accordance with the Borrowing Base, as defined, totaled approximately $219.8 million as of June 30, 2024.

On July 31, 2023, the Company entered into athree-year seller note payable of $5.0 million as part of the consideration for the acquisition of Devon Street which bears interest at 8% per annum. The seller note is payable inquarterly installments of principal and accrued interest beginning September 30, 2023 through maturity on September 30, 2026. The seller is currently employed as the division president of the Houston division. As of June 30, 2024 and December 31, 2023, the balance on the seller note payable was $3.9 million and $4.6 million, respectively, which is included in notes payable in the accompanying unaudited condensed consolidated balance sheets.

The Company also has loans payable to banks collateralized by vehicles purchased from the proceeds of the loans with an outstanding balance of $5,000 and $8,000 as of June 30, 2024 and December 31, 2023, respectively, which are included in accrued expenses and other liabilities in the accompanying unaudited condensed consolidated balance sheets.

Future maturities of notes payable to third parties, including borrowings under the Amended Credit Facility, are as follows as of June 30, 2024 (in thousands):

Note 6 ‑ Fair value of financial instruments:

ASC Topic 820, Fair Value Measurements and Disclosures, establishes a framework for measuring fair value and disclosing fair value measurements. ASC Topic 820 establishes a three‑level hierarchy, which requires an entity to maximize the use of observable inputs and minimize the use of unobservable inputs in measuring fair value. The valuation hierarchy is based upon the transparency of inputs to the valuation of an asset or liability on the measurement date.

A financial instrument’s level within the fair value hierarchy is based on the lowest level of any input that is significant to the fair value measurement. The Company’s assessment of the significance of particular inputs to those fair value measurements requires judgment and considers factors specific to each asset or liability.

The Company’s financial instruments measured or disclosed at fair value are summarized below. The summary excludes cash and cash equivalents, receivables and accounts payable, all of which had fair values approximating their carrying values due to the liquid nature and short maturities of these instruments.

The carrying value of the borrowings under the Credit Facility approximates fair value due to variable rate terms that approximate market rates.

The carrying value of the seller note payable approximates fair value because the interest rate on the note approximates market rates as of June 30, 2024 and December 31, 2023.

The fair value of the contingent consideration related to the Devon Street acquisition as of the acquisition date was estimated using a Monte Carlo simulation to model the likelihood of achieving the agreed‑upon gross margin target based on available information as of the acquisition date. The valuation methodology includes assumptions and judgments regarding the gross margin discount rate, gross margin volatility, drift rate, and cost of debt, which are primarily Level 3 assumptions. The contingent consideration liability is remeasured at fair value on a quarterly basis. As of June 30, 2024 and December 31, 2023, the Company remeasured the fair value of contingent consideration related to the Devon Street acquisition and adjusted the liability to $4.6 million and $3.3 million, respectively, based on actual results achieved, revised gross margin forecasts, and accretion of the liability. The Company recorded contingent consideration adjustments resulting in $1.2 million of expense and $1.3 million of expense for the three and six months ended June 30, 2024, respectively, which is included in other expense (income), net in the accompanying unaudited condensed consolidated statement of income. As of June 30, 2024, there were approximately 8 months remaining under the contingent consideration agreement.

Note 7 ‑ Warranty reserves:

A summary of the activity in the Company’s warranty liability account is as follows (in thousands):

Note 8 ‑ Leases:

The Company leases certain office space and equipment for use in its operations. The Company recognizes lease expense for these leases on a straight-line basis over the lease term. Some leases contain renewal options and, in accordance with ASC Topic 842, Leases, the lease term includes those renewals only to the extent that they are reasonably certain to be exercised.

Lease cost included in the accompanying unaudited condensed consolidated statements of income as a component of selling, general and administrative costs is presented in the table below (in thousands).

The following table presents additional information about the Company’s leases (dollars in thousands):

ROU assets are included within other assets and lease liabilities are included within accrued expenses and other liabilities in the accompanying unaudited condensed consolidated balance sheets.

As of June 30, 2024, the Company had additional operating leases, primarily for division office space, that had not yet commenced with undiscounted fixed lease payments of approximately $1.1 million. These operating leases will commence in 2024 with lease terms ranging from 2 to 6 years.

Note 9 ‑ Commitments and contingencies:

The Company is subject to certain contingent liabilities resulting from litigation, claims, and other commitments which arise in the ordinary course of business. Management and legal counsel believe that the probable resolution of such contingencies will not materially affect the financial position, results of operations, or cash flows of the Company. In the normal course of business, the Company posts letters of credit and performance and other surety bonds related to certain development obligations with local municipalities, government agencies and developers. As of June 30, 2024 and December 31, 2023, performance and surety bonds totaled $33.0 million and $26.1 million, respectively. As of June 30, 2024 and December 31, 2023, there wereno outstanding letters of credit.

Note 10 - Stockholders’/ Members’ equity:

The following table summarizes the capitalization and voting rights of the Company’s classes of stock as of June 30, 2024:

The following table summarizes Class A common stock reserved for issuances as of June 30, 2024:

The Company’s board of directors is authorized to direct the Company to issue shares of preferred stock in one or more series and the discretion to determine the number and designation of such series and the powers, rights, preferences, privileges and restrictions, including voting rights, dividend rights, conversion rights, redemption privileges and liquidation preferences, of each series of preferred stock. Through June 30, 2024, no series of preferred stock have been issued.

Holders of shares of Class A common stock are entitled to receive dividends when and if declared by the board of directors out of funds legally available therefor, subject to any statutory or contractual restrictions on the payment of dividends and to any restrictions on the payment of dividends imposed by the terms of any outstanding preferred stock. Upon dissolution or liquidation, after payment in full of all amounts required to be paid to creditors and to the holders of preferred stock having liquidation preferences, if any, the holders of shares of Class A common stock will be entitled to receive pro rata the remaining assets available for distribution. Holders of shares of Class A common stock do not have preemptive, subscription, redemption, or conversion rights. There are no redemption or sinking fund provisions applicable to the Class A common stock.

Except in certain limited circumstances, holders of Class B common stock do not have any right to receive dividends or to receive a distribution upon dissolution or liquidation. Additionally, holders of shares of Class B common stock do not have preemptive, subscription or redemption rights. There are no redemption or sinking fund provisions applicable to the Class B common stock. Any amendment of the Company’s amended and restated certificate of incorporation that gives holders of Class B common stock (1) any rights to receive dividends or any other kind of distribution, (2) any right to convert into or be exchanged for shares of Class A common stock, or (3) any other economic rights (except for payments in cash in lieu of receipt of fractional stock) will require, in addition to any stockholder approval required by applicable law, the affirmative vote of holders of a majority of the voting power of the outstanding shares of Class A common stock voting separately as a class. The Company must, at all times, maintain (i) aone-to-one ratio between the number of shares of Class A common stock issued by Smith Douglas Homes Corp. and the number of LLC Interests owned by Smith Douglas Homes Corp., and (ii) maintain aone-to-one ratio between the number of shares of Class B common stock owned by the Continuing Equity Owners and the number of LLC Interests owned by them.

Shares of Class B common stock will be issued in the future only to the extent necessary to maintain aone-to-one ratio between the number of LLC Interests held by the Continuing Equity Owners and the number of shares of Class B common stock issued to the Continuing Equity Owners. Shares of Class B common stock are transferable only together with an equal number of LLC Interests. Only permitted transferees of LLC Interests held by the Continuing Equity Owners will be permitted transferees of Class B common stock. Shares of Class B common stock automatically transferred to Smith Douglas Homes Corp. upon the redemption or exchange of their LLC Interests pursuant to the terms of the Smith Douglas LLC Agreement will be canceled and may not be reissued.

As of June 30, 2024, Smith Douglas Homes Corp. holds a 17.3% economic interest in Smith Douglas Holdings LLC through its ownership of 8,846,154 LLC Interests but consolidates Smith Douglas Holdings LLC as sole managing member. The remaining 42,435,897 LLC Interests representing an 82.7% interest are held by the Continuing Equity Owners and presented in the unaudited condensed consolidated financial statements as non-controlling interests.

The LLC Interests held by Continuing Equity Owners include a redemption right which may be settled by the Company, at the Company’s election, through the (1) issuance of a new share of Class A Common Stock for each LLC Interest redeemed or (2) settled by cash proceeds received from a qualifying offering of Class A Common Stock. The LLC Interests are not classified as temporary equity as the cash settlement is limited to the proceeds from a new offering of Class A Common Stock which is equity-classified.

Distributions to Members Related to Their Income Tax Liabilities

As a limited liability company treated as a partnership for income tax purposes, Smith Douglas Holdings LLC does not incur significant federal, state or local income taxes, as these taxes are primarily the obligations of its members. Under the LLC Agreement, Smith Douglas Holdings LLC is required to distribute cash, to the extent that Smith Douglas Holdings LLC has cash available, on a pro rata basis to its members to the extent necessary to cover the members’ tax liabilities, if any, with respect to each member’s share of Smith Douglas Holdings LLC taxable earnings. Smith Douglas Holdings LLC makes such tax distributions to its members quarterly, based on an estimated tax rate and projected year-to-date taxable income, with a final accounting once actual taxable income or loss has been determined. Smith Douglas Holdings LLC made tax distributions to the Continuing Equity Owners totaling approximately$11.8 million and $26.3 millionfor the three and six months ended June 30, 2024, respectively.

Redemption of Class C & Class D Units

On January 16, 2024, after the IPO, Smith Douglas Holdings LLC redeemed all of its Class C and Class D Units at an aggregate redemption price of $2.6 million.

Note 11 - Share-based payments:

In connection with the IPO, the stockholders approved the 2024 Incentive Award Plan (the 2024 Plan), which became effective on January 10, 2024. The 2024 Plan generally is administered by the board of directors of with respect to awards to non-employee directors and by the compensation committee with respect to other participants and authorizes the Company to grant incentive stock-based awards.

Under the 2024 Plan,2,051,282 shares of Class A common stock were initially reserved for issuance, which shares may be granted pursuant to a variety of equity-based compensation awards, including stock options, stock appreciation rights, RSUs, and other equity-based awards. The number of shares initially reserved for issuance pursuant to awards under the 2024 Plan includes an annual increase on the first day of each calendar year beginning on January 1, 2025 and ending on January 1, 2034, equal to (a) a number of shares of Class A common stock equal to 1% of the aggregate number of shares of Class A and Class B common stock outstanding on the last day of the immediately preceding calendar year or (b) such smaller number of shares of Class A common stock as determined by the board of directors. No more than 10,000,000 shares of Class A common stock may be issued upon the exercise of incentive stock options. As of June 30, 2024,1,613,310 shares of Class A common stock are available for future grant under the 2024 Plan.

In January 2024, the Company granted an aggregate of 440,727 RSUs to certain of the Company’s executives, directors, and employees under the 2024 Plan with an aggregate grant date fair value of $9.3 million. The awards vest in full upon theone-year anniversary of the closing date of the IPO, subject to the employee’s continued employment or the director’s continued service, with the exception ofone executive’s award that will vest insix equal installments on each of the firstsix anniversaries of the closing date of the IPO, subject to the employee’s continued employment through the applicable vesting date. Additionally, vesting is subject to certain change in control and qualifying termination provisions as provided in the award agreements.

As of June 30, 2024, all of the RSUs are outstanding and remain unvested. The fair value of the RSUs of $21.00 per unit was based on the fair value of a share of Class A common stock at the time of the IPO. Total compensation expense for RSUs was approximately $1.0 million and $1.9 million for the three and six months ended June 30, 2024, respectively and is included in selling, general and administrative costs in the accompanying unaudited condensed consolidated statements of income for the three and six months ended June 30, 2024.

The unamortized compensation cost related to RSUs of approximately $7.3 million as of June 30, 2024 is expected to be recognized over a weighted-average period of approximately 2.2 years.

Note 12 - Income taxes and tax receivable agreement:

Smith Douglas Homes Corp. is taxed as a subchapter C corporation and is subject to federal and state income taxes. Smith Douglas Homes Corp.’s sole material asset is its ownership interest in Smith Douglas Holdings LLC, which is a limited liability company that is taxed as a partnership for U.S. federal and certain state and local income tax purposes. Smith Douglas Holdings LLC’s net taxable income and related tax credits, if any, are passed through to its members and included in the members’ tax returns. The income tax burden on the earnings taxed to the non-controlling interest holders is not reported by the Company in its unaudited condensed consolidated financial statements under U.S. GAAP.

The estimated annual effective tax rate for the year ending December 31, 2024 is 20.8%. The difference between the estimated annual effective income tax rate and the U.S. federal statutory rate is primarily attributable to income allocable to non-controlling interests, which is not taxable, Smith Douglas Holdings LLC’s election to be taxed at the entity level, and state income taxes.

The Company’s income tax provision was $1.1 million for the three months ended June 30, 2024 and $2.0 million for the period from January 11, 2024 to June 30, 2024. As the IPO occurred during the six months ended June 30, 2024, and the Company hadno business transactions or activities prior to the IPO, no amounts related to the provision for income taxes were incurred for the period from January 1, 2024 to January 10, 2024.

The Company recorded a deferred tax asset of $10.5 million resulting from the step-up in basis allowed under Section 743(b) and 197 of the Internal Revenue Code related to the purchase of 2,435,897 LLC Interests from the Continuing Equity Owners discussed in Note 1, Description of business and summary of significant accounting policies, which is expected to be amortized over the useful lives of the underlying assets. The Company also recorded a deferred tax asset of $15.1 million resulting from the outside basis difference related to its investment in Smith Douglas Holdings LLC by applying the look-through method to record the Company's proportionate share of inside basis differences within Smith Douglas Holdings LLC. The Company recognizes deferred tax assets to the extent it believes these assets are more likely than not to be realized. In making such a determination, the Company considers all available positive and negative evidence, including future reversals of existing taxable temporary differences, projected future taxable income, tax planning strategies and recent results of operations. After considering all those factors, management has recorded a valuation allowance of $14.3 million for certain deferred tax assets the Company has determined are not more likely than not to be realized. The initial deferred tax asset of $15.1 million for the investment in Smith Douglas Holdings LLC and the related valuation allowance of $14.3 million were recorded against additional paid-in capital and included within increase in deferred tax asset from IPO and related transactions in the unaudited condensed consolidated statements of stockholders’/members’ equity.

As each of the Continuing Equity Owners elects to convert their LLC Interests into Class A common stock, Smith Douglas Homes Corp. will succeed to their aggregate historical tax basis which will create a net tax benefit to the Company. These tax benefits are expected to be amortized over 15.0 years pursuant to Sections 743(b) and 197 of the Code. The Company will only recognize a deferred tax asset for financial reporting purposes when it is more likely than not that the tax benefit will be realized.

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

The purchase of 2,435,897 LLC Interests from the Continuing Equity Owners triggered a tax basis increase subject to the provisions of the TRA. The Company recognized (i) a deferred tax asset in the amount of $10.5 million, (ii) a corresponding estimated liability of $10.4 million to the Continuing Equity Owners representing 85% of the projected tax benefits, and (iii) $0.1 million of additional paid-in capital.

Note 13 ‑ Transactions with related parties:

The Company rents office space under a lease with JBB Cherokee Holdings LLC, an entity affiliated by common ownership. Related party lease cost included in the accompanying unaudited condensed consolidated statements of income as a component of selling, general and administrative costs is presented in the table below (in thousands).

Payments under the office lease agreement, along with costs associated with the office space, totaled approximately $0.1 million and $0.2 million during the three and six months ended June 30, 2024, respectively, and approximately $0.1 million and $0.2 million during the three and six months ended June 30, 2023, respectively.

During the three and six months ended June 30, 2024, the Company incurred fees of $0.1 million and $0.4 million, respectively, in the aggregate from certain entities affiliated by common ownership for use of facilities related to business development and vendor relations, which is included in selling, general and administrative costs in the accompanying unaudited condensed consolidated statements of income. During the three and six months ended June 30, 2023, the Company incurred fees of $0.4 million for the use of these facilities. The Company paid fees for use of these facilities of $0.1 million during the three and six months ended June 30, 2024 and $0.4 million during the three and six months ended June 30, 2023.

While the Company typically enters into lot option agreements whereby a deposit is provided to the seller, the Company has in the past, in lieu of providing a deposit, invested a minority interest in certain of the land banking entities with which it contracts. During the three and six months ended June 30, 2023, the Company purchased 9 and 35 lots totaling approximately $0.8 million and $3.0 million, respectively, under lot option agreements with unconsolidated land bank entities in which the Company had a non‑controlling ownership interest. There wasno such activity during the six months ended June 30, 2024. The Company has identified these entities as VIEs; however, the Company has not been identified as the primary beneficiary of the VIEs and the entities are not consolidated in the accompanying unaudited condensed consolidated financial statements (see Note 3 for information related to VIEs).

The Company has entered into lot option transactions with a former member of Smith Douglas Holdings LLC’s Board of Managers. During the three and six months ended June 30, 2023, the Company sold 10 and 15 finished lots at cost for approximately $0.7 million and $1.0 million, respectively, to the then member of Smith Douglas Holdings LLC’s Board of Managers. During the three and six months ended June 30, 2023, the Company purchased 77 and 159 lots totaling $3.7 million and $8.3 million, respectively, related to these lot option agreements.

The Company charters aircraft services from companies that are controlled by a related entity of the Company’s managing member. Expenses incurred and paid to these companies under a dry lease agreement for the use of the aircraft for business travel totaled approximately $46,000 and $78,000 for the three and six months ended June 30, 2024, respectively, and approximately $31,000 and $51,000 for the three and six months ended June 30, 2023, respectively, which are included in selling, general and administrative costs in the accompanying unaudited condensed consolidated statements of income.

Historically, since August 2016, one of the former members of Smith Douglas Holdings LLC’s Board of Managers was party to a consulting agreement with Smith Douglas Holdings LLC pursuant to which he provided services to Smith Douglas Holdings LLC in exchange for (i) an annual fee equal to approximately $0.6 million plus (ii) eligibility to earn an annual bonus, subject to the terms and conditions therein. During the three and six months ended June 30, 2023, the then member of Smith Douglas Holdings LLC’s Board of Managers earned fees under the consulting agreement of approximately $0.2 million and $0.3 million, respectively, which are included in selling, general and administrative costs in the accompanying unaudited condensed consolidated statements of income.

The Company hadtwo uncollateralized notes payable bearing interest at 2.12% and 2.56%, respectively, and other payables to certain related parties for the purchase of airplanes totaling approximately $0.9 million as of December 31, 2023, which are included in accrued expenses and other liabilities in the accompanying unaudited condensed consolidated balance sheets. The notes payable were repaid during the six months ended June 30, 2024.

The Company has related party receivables totaling approximately $0.1 million as of both June 30, 2024 and December 31, 2023 for various expenses paid by the Company on behalf of the related party, which are included in other assets in the accompanying unaudited condensed consolidated balance sheets.

As of December 31, 2023, the Company had a balance due to related parties of $11,000 for various expenses paid by the related parties on behalf of the Company, which is included in accrued expenses and other liabilities in the accompanying 2023 unaudited condensed consolidated balance sheet. There wasno such balance outstanding as of June 30, 2024.

Note 14 ‑ Segment information:

The Company operates one principal homebuilding business that is organized, managed and reported by geographic division. Management of the six geographic divisions report to the Company’s chief operating decision maker (CODM), which consists of the Chief Executive Officer and Chief Financial Officer of the Company. The CODM reviews the results of operations, including, among other things, total revenue and net income to assess profitability and allocate resources. Accordingly, the Company has presented its operations for the followingsix reportable segments: Alabama, Atlanta, Charlotte, Houston, Nashville, and Raleigh. Each reportable segment follows the accounting policies described in Note 1.

The following tables summarize financial information by segment (in thousands):

Note 15 - Earnings per share:

Basic earnings per share is computed by dividing net income attributable to Smith Douglas Homes Corp. by the weighted-average number of shares of Class A common stock outstanding during the period. Diluted earnings per share is computed by adjusting the net income available to Smith Douglas Homes Corp. and the weighted average shares outstanding to give effect to potentially dilutive securities. Shares of Class B common stock are not entitled to receive any distributions or dividends and are therefore excluded from this presentation since they are not participating securities.

All earnings prior to January 11, 2024, the date of the IPO, were entirely allocable to the non-controlling interests and, as a result, earnings per share information is not applicable for reporting periods prior to this date. Consequently, only earnings per share for net income for periods subsequent to January 10, 2024 are presented.

Basic and diluted earnings per share of common stock have been computed as follows (in thousands, except share and per share amounts):

Net income attributable to the non-controlling interests added back to net income in the fully dilutive computation has been adjusted for income taxes which would have been expensed had the income been recognized by Smith Douglas Homes Corp., a taxable entity. The weighted average common shares outstanding in the diluted computation per share assumes all outstanding LLC Interests are redeemed and the Company elects to issue Class A shares of common stock upon redemption rather than cash-settle.

The dilutive impact of LLC Interests assumed to be redeemed in exchange for the issuance of Class A common stock was included in the computation of diluted earnings per share under the if-converted method. The dilutive impact of unvested RSUs was included using the treasury stock method.