10-Q

UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

FORM 10-Q

x    QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE 

   SECURITIES EXCHANGE ACT OF 1934

For the quarterly period ended March 31, 2007

OR

¨    TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE

    SECURITIES EXCHANGE ACT OF 1934

Commission file number 001-31625

WILLIAM LYON HOMES

(Exact name of registrant as specified in its charter)

Delaware	33-0864902
(State or other jurisdiction of	(I.R.S. Employer
incorporation or organization)	Identification No.)
4490 Von Karman Avenue
Newport Beach, California	92660
(Address of principal executive offices)	(Zip Code)

(949) 833-3600

(Registrant’s telephone number, including area code)

Not Applicable

(Former name, former address and former fiscal year,

if changed since last report)

Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter 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  x                    NO  ¨

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, or a non-accelerated filer. See definition of “accelerated filer and large accelerated filer” in Rule 12b-2 of the Exchange Act. (Check one):

Large accelerated filer  ¨                    Accelerated filer  x                    Non-accelerated filer  ¨

Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act).

YES  ¨                    NO  x

Indicate the number of shares outstanding of each of the issuer’s classes of common stock, as of the latest practicable date.

Class of Common Stock	Outstanding at May 1, 2007
Common stock, par value $.01	1,000

WILLIAM LYON HOMES

INDEX

	Page No.
PART I.    FINANCIAL INFORMATION
Item 1.    Financial Statements:
Consolidated Balance Sheets — March 31, 2007 (unaudited) and December 31, 2006	3
Consolidated Statements of Operations — Three Months Ended March 31, 2007 and 2006 (unaudited)	4
Consolidated Statement of Stockholders’ Equity — Three Months Ended March 31, 2007 (unaudited)	5
Consolidated Statements of Cash Flows — Three Months Ended March 31, 2007 and 2006 (unaudited)	6
Notes to Consolidated Financial Statements	7
Item 2.    Management’s Discussion and Analysis of Financial Condition and Results of Operations	32
Item 3.    Quantitative and Qualitative Disclosures About Market Risk	49
Item 4.    Controls and Procedures	49
PART II.    OTHER INFORMATION	50
Item 1.    Legal Proceedings	50
Item 1A. Risk Factors	51
Item 2.    Not Applicable	51
Item 3.    Not Applicable	51
Item 4.    Not Applicable	51
Item 5.    Not Applicable	51
Item 6.    Exhibits	51
SIGNATURES	52
EXHIBIT INDEX	53

2

PART I.    FINANCIAL INFORMATION

Item 1.    Financial Statements.

WILLIAM LYON HOMES

CONSOLIDATED BALANCE SHEETS

(in thousands except number of shares and par value per share)

ASSETS
	March 31, 2007		December 31, 2006
	(unaudited)
Cash and cash equivalents	$	31,409	$	38,732
Receivables — Note 7		50,017		119,491
Real estate inventories — Notes 2 and 3
Owned		1,490,781		1,431,753
Not owned		186,880		200,667
Investments in and advances to unconsolidated joint ventures — Note 4		4,928		3,560
Property and equipment, less accumulated depreciation of $11,537 and $12,465 at March 31, 2007 and December 31, 2006, respectively		16,777		16,828
Deferred loan costs		10,841		11,258
Goodwill		5,896		5,896
Other assets		19,707		50,410
	$	1,817,236	$	1,878,595
LIABILITIES AND STOCKHOLDERS’ EQUITY
Accounts payable	$	43,875	$	48,592
Accrued expenses		67,588		111,871
Liabilities from inventories not owned		131,564		131,564
Notes payable — Note 4		320,315		304,096
7 5/8% Senior Notes due December 15, 2012 — Note 4		150,000		150,000
10 3/4% Senior Notes due April 1, 2013 — Note 4		247,298		247,218
7 1/2% Senior Notes due February 15, 2014 — Note 4		150,000		150,000
		1,110,640		1,143,341
Minority interest in consolidated entities — Notes 2 and 4		101,009		109,859
Stockholders’ equity — Note 8
Common stock, par value $.01 per share; 3,000 shares authorized; 1,000 shares outstanding at March 31, 2007 and December 31, 2006, respectively		—		—
Additional paid-in capital		48,867		43,213
Retained earnings		556,720		582,182
		605,587		625,395
	$	1,817,236	$	1,878,595

See accompanying notes.

3

WILLIAM LYON HOMES

CONSOLIDATED STATEMENTS OF OPERATIONS

(in thousands)

(unaudited)

	Three Months Ended March 31,
	2007			2006
Operating revenue
Home sales	$	192,680		$	307,381
Lots, land and other sales		13,361			—
		206,041			307,381
Operating costs
Cost of sales — homes		(158,008	)		(229,443	)
Cost of sales — lots, land and other		(11,793	)		(430	)
Impairment loss on real estate assets —  Note 3		(3,554	)		—
Sales and marketing		(13,473	)		(13,124	)
General and administrative		(11,514	)		(18,589	)
Other		(111	)		(826	)
		(198,453	)		(262,412	)
Equity in (loss) income of unconsolidated joint ventures — Note 4		(642	)		3,638
Minority equity in income of consolidated entities — Note 2		(2,283	)		(5,226	)
Operating income		4,663			43,381
Financial advisory expenses — Note 8		—			(1,500	)
Other income, net		1,141			1,241
Income before provision for income taxes		5,804			43,122
Provision for income taxes — Note 7
Provision for income taxes		(501	)		(16,908	)
Reduction of deferred tax assets as a result of election to be taxed as an “S” corporation for income tax purposes effective on January 1, 2007		(31,887	)		—
		(32,388	)		(16,908	)
Net (loss) income	$	(26,584	)	$	26,214

See accompanying notes.

4

WILLIAM LYON HOMES

CONSOLIDATED STATEMENT OF STOCKHOLDERS’ EQUITY

Three Months Ended March 31, 2007

(in thousands)

(unaudited)

	Common Stock			Additional Paid-In Capital		Retained Earnings			Total
	Shares	Amount
Balance — December 31, 2006	1	$	—	$	43,213	$	582,182		$	625,395
Income tax benefit and related interest recognized as the result of the adoption of FIN 48 — Note 7	—		—		5,654		1,122			6,776
Net loss	—		—		—		(26,584	)		(26,584	)
Balance — March 31, 2007	1	$	—	$	48,867	$	556,720		$	605,587

See accompanying notes.

5

WILLIAM LYON HOMES

CONSOLIDATED STATEMENTS OF CASH FLOWS

(in thousands)

(unaudited)

	Three Months Ended March 31,
	2007			2006
Operating activities
Net (loss) income	$	(26,584	)	$	26,214
Adjustments to reconcile net (loss) income to net cash used in operating activities:
Depreciation and amortization		631			581
Impairment loss on real estate assets		3,554			—
Equity in loss (income) of unconsolidated joint ventures		642			(3,638	)
Distributions of income from unconsolidated joint ventures		—			2,599
Minority equity in income of consolidated entities		2,283			5,226
State income tax refund credited to additional paid-in capital		—			10
Provision for income taxes		32,388			16,908
Net changes in operating assets and liabilities:
Receivables		76,250			110,389
Real estate inventories — owned		(62,502	)		(139,225	)
Real estate inventories — not owned		13,787			—
Deferred loan costs		417			241
Other assets		(1,184	)		(8,696	)
Accounts payable		(4,717	)		(11,259	)
Accrued expenses		(44,784	)		(77,103	)
Net cash used in operating activities		(9,819	)		(77,753	)
Investing activities
Investments in and advances to unconsolidated joint ventures		(2,010	)		(91	)
Purchases of property and equipment		(580	)		(605	)
Net cash used in investing activities		(2,590	)		(696	)
Financing activities
Proceeds from borrowing on notes payable		452,603			569,098
Principal payments on notes payable		(436,384	)		(494,758	)
Minority interest distributions, net		(11,133	)		(23,266	)
Net cash provided by financing activities		5,086			51,074
Net decrease in cash and cash equivalents		(7,323	)		(27,375	)
Cash and cash equivalents — beginning of period		38,732			52,369
Cash and cash equivalents — end of period	$	31,409		$	24,994
Supplemental disclosures of cash flow information
Real estate inventories and minority interest from previously consolidated variable interest entity	$	—		$	14,000
Other assets and minority interest from previously consolidated variable interest entity	$	—		$	8,404
Income tax benefit credited to additional paid-in capital and retained earnings	$	6,776		$	1,092

See accompanying notes.

6

WILLIAM LYON HOMES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

(unaudited)

Note 1 — Basis of Presentation and Significant Accounting Policies

William Lyon Homes, a Delaware corporation, and subsidiaries (the “Company”) are primarily engaged in designing, constructing and selling single family detached and attached homes in California, Arizona and Nevada.

The unaudited consolidated financial statements of the Company have been prepared in accordance with U.S. generally accepted accounting principles for interim financial information and in accordance with the rules and regulations of the Securities and Exchange Commission. The consolidated financial statements do not include all of the information and footnotes required by U.S. generally accepted accounting principles for complete financial statements. The consolidated financial statements included herein should be read in conjunction with the Company’s Annual Report on Form 10-K for the year ended December 31, 2006.

The interim consolidated financial statements have been prepared in accordance with the Company’s customary accounting practices. In the opinion of management, all adjustments (consisting of normal recurring accruals) considered necessary for a presentation in accordance with U.S. generally accepted accounting principles have been included. Operating results for the three months ended March 31, 2007 are not necessarily indicative of the results that may be expected for the year ending December 31, 2007.

The preparation of the Company’s financial statements in conformity with U.S. generally accepted accounting principles requires management to make estimates and assumptions that affect the reported amounts of the assets and liabilities as of March 31, 2007 and December 31, 2006 and revenues and expenses for the periods presented. Accordingly, actual results could differ materially from those estimates in the near-term.

Certain reclassifications have been made to the prior year financial statements to conform to the current period presentation.

The consolidated financial statements include the accounts of the Company and all majority-owned and controlled subsidiaries and joint ventures, and certain joint ventures and other entities which have been determined to be variable interest entities in which the Company is considered the primary beneficiary (see Note 2). Investments in joint ventures which have not been determined to be variable interest entities in which the Company is considered the primary beneficiary are accounted for using the equity method because the Company has a 50% or less voting or economic interest (and thus such joint ventures are not controlled by the Company). The accounting policies of the joint ventures are substantially the same as those of the Company. All significant intercompany accounts and transactions have been eliminated in consolidation.

The Company designs, constructs and sells a wide range of homes designed to meet the specific needs of each of its markets. For internal reporting purposes, the Company is organized into five geographic home building regions and its mortgage origination operation. Because each of the Company’s geographic home building regions has similar economic characteristics, housing products and class of prospective buyers, the geographic home building regions have been aggregated into a single home building segment.

The Company evaluates performance and allocates resources primarily based on the operating income of individual home building projects. Operating income is defined by the Company as operating revenue less operating costs plus equity in (loss) income of unconsolidated joint ventures less minority equity in income of consolidated entities. Accordingly, operating income excludes certain expenses included in the determination of net income. All other segment measurements are disclosed in the Company’s Annual Report on Form 10-K for the year ended December 31, 2006.

7

WILLIAM LYON HOMES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS  (Continued)

(unaudited)

A provision for warranty costs relating to the Company’s limited warranty plans is included in cost of sales at the time the home sale is recorded. The Company generally reserves approximately one percent of the sales price of its homes against the possibility of future charges relating to its one-year limited warranty and similar potential claims. Factors that affect the Company’s warranty liability include the number of homes under warranty, historical and anticipated rates of warranty claims, and cost per claim. The Company periodically assesses the adequacy of its recorded warranty liability and adjusts the amounts as necessary. Changes in the Company’s warranty liability during the three months ended March 31 are as follows (in thousands):

	March 31,
	2007			2006
Warranty liability, beginning of period	$	23,364		$	20,219
Warranty provision during period		1,891			2,992
Warranty payments during period		(4,017	)		(4,438	)
Warranty charges related to pre-existing warranties during period		240			994
Warranty liability, end of period	$	21,478		$	19,767

In September 2006, the FASB issued SFAS No. 157, Fair Value Measurements, (“FAS 157”). FAS 157 defines fair value, establishes a framework for measuring fair value in generally accepted accounting principles and expands disclosures about fair value measurements. FAS 157 is effective for financial statements issued for fiscal years beginning after November 15, 2007, and interim periods within those fiscal years. FAS 157 is not expected to materially affect how the Company determines fair value.

Note 2 — Consolidation of Variable Interest Entities

In January 2003, the Financial Accounting Standards Board issued Interpretation No. 46, Consolidation of Variable Interest Entities, as amended (“Interpretation No. 46”) which addresses the consolidation of variable interest entities (“VIEs”). Under Interpretation No. 46, arrangements that are not controlled through voting or similar rights are accounted for as VIEs. An enterprise is required to consolidate a VIE if it is the primary beneficiary of the VIE.

Under Interpretation No. 46, a VIE is created when (i) the equity investment at risk is not sufficient to permit the entity to finance its activities without additional subordinated financial support from other parties or (ii) equity holders either (a) lack direct or indirect ability to make decisions about the entity through voting or similar rights, (b) are not obligated to absorb expected losses of the entity or (c) do not have the right to receive expected residual returns of the entity if they occur. If an entity is deemed to be a VIE, pursuant to Interpretation No. 46, an enterprise that absorbs a majority of the expected losses or residual returns of the VIE is considered the primary beneficiary and must consolidate the VIE.

Based on the provisions of Interpretation No. 46, the Company has concluded that under certain circumstances when the Company (i) enters into option agreements for the purchase of land or lots from an entity and pays a non-refundable deposit, (ii) enters into land banking arrangements or (iii) enters into arrangements with a financial partner for the formation of joint ventures which engage in homebuilding and land development activities, a VIE may be created under condition (ii) (b) or (c) of the previous paragraph. The Company may be deemed to have provided subordinated financial support, which refers to variable interests that will absorb some or all of an entity’s expected losses if they occur. For each VIE created, the Company has computed expected losses and residual returns based on the probability of future cash flows as outlined in Interpretation No. 46. If the Company has been determined to be the primary beneficiary of the VIE, the assets, liabilities and operations of the VIE have been consolidated with the Company’s financial statements.

8

WILLIAM LYON HOMES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS  (Continued)

(unaudited)

Supplemental consolidating financial information of the Company, specifically including information for the joint ventures and land banking arrangements consolidated under Interpretation No. 46, is presented below to allow investors to determine the nature of assets held and the operations of the consolidated entities. Investments in consolidated entities in the financial statements of wholly-owned entities presented below use the equity method of accounting. Consolidated real estate inventories-owned include land deposits under option agreements or land banking arrangements (excluding the consolidated land banking arrangements as previously described in this paragraph) of $32,057,000 and $34,517,000 at March 31, 2007 and December 31, 2006, respectively.

The joint ventures which have been determined to be VIEs are each engaged in homebuilding and land development activities. Certain of these joint ventures have not obtained construction financing from outside lenders, but are financing their activities through equity contributions from each of the joint venture partners. Creditors of these VIEs have no recourse against the general credit of the Company. Income allocations and cash distributions to the Company are based on predetermined formulas between the Company and the joint venturers as specified in the applicable partnership or operating agreements. The Company generally receives, after partners’ priority returns and return of partners’ capital, approximately 50% of the profits and cash flows from the joint ventures.

The Company enters into purchase agreements with various land sellers. In some instances, and as a method of acquiring land in staged takedowns, thereby minimizing the use of funds from the Company’s revolving credit facilities and other corporate financing sources and limiting the Company’s risk, the Company transfers its right in such purchase agreements to entities owned by third parties (“land banking arrangements”). These entities use equity contributions and/or incur debt to finance the acquisition and development of the lots. The entities grant the Company an option to acquire lots in staged takedowns. In consideration for this option, the Company makes a non-refundable deposit of 15% to 25% of the total purchase price. The Company is under no obligation to purchase the balance of the lots, but would forfeit remaining deposits and be subject to penalties if the lots were not purchased. The Company does not have legal title to these entities or their assets and has not guaranteed their liabilities. These land banking arrangements help the Company manage the financial and market risk associated with land holdings. As described above, Interpretation No. 46, requires the consolidation of the assets, liabilities, and operations of four of the Company’s land banking arrangements including, as of March 31, 2007, real estate inventories of $55,316,000. The Company participates in one land banking arrangement, which is not a VIE in accordance with Interpretation No. 46, and is not consolidated as of March 31, 2007 and December 31, 2006, respectively. The deposits related to the unconsolidated land banking arrangement have been recorded in the accompanying consolidated balance sheets.

In addition, the Company participates in another land banking arrangement, which is not a VIE in accordance with Interpretation No. 46, but is consolidated in accordance with SFAS No. 49, Accounting for Product Financing Arrangements, (“FAS 49”). Under the provisions of FAS 49, the Company has determined it is economically compelled, based on certain factors, to purchase the land in the land banking arrangement, and therefore, must record the remaining purchase price of the land of $131,564,000, which is included in real estate inventories not owned and liabilities from inventories not owned in the accompanying balance sheet.

9

WILLIAM LYON HOMES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS  (Continued)

(unaudited)

Summary information with respect to the Company’s consolidated and unconsolidated land banking arrangements is as follows as of March 31, 2007 (dollars in thousands):

	Consolidated		Unconsolidated
Total number of land banking projects		5		1
Total number of lots		1,074		323
Total purchase price	$	272,164	$	64,000
Balance of lots still under option and not purchased:
Number of lots		956		323
Purchase price	$	233,966	$	64,000
Forfeited deposits if lots are not purchased	$	49,585	$	5,428

10

WILLIAM LYON HOMES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS  (Continued)

(unaudited)

CONDENSED CONSOLIDATING BALANCE SHEET BY FORM OF OWNERSHIP

(in thousands)

	March 31, 2007
	Wholly- Owned		Variable Interest Entities Under Interpretation No. 46		Eliminating Entries			Consolidated Total
ASSETS
Cash and cash equivalents	$	19,142	$	12,267	$	—		$	31,409
Receivables		49,973		44		—			50,017
Real estate inventories
Owned		1,296,099		194,682		—			1,490,781
Not owned		131,564		55,316		—			186,880
Investments in and advances to unconsolidated joint ventures		4,928		—		—			4,928
Investments in consolidated entities		76,523		—		(76,523	)		—
Other assets		53,221		—		—			53,221
Intercompany receivables		—		4,458		(4,458	)		—
	$	1,631,450	$	266,767	$	(80,981	)	$	1,817,236
LIABILITIES AND STOCKHOLDERS’ EQUITY
Accounts payable and accrued expenses	$	98,831	$	12,632	$	—		$	111,463
Liabilities from inventories not owned		131,564		—		—			131,564
Notes payable		243,900		76,415		—			320,315
7 5/8% Senior Notes due December 15, 2012		150,000		—		—			150,000
10 3/4% Senior Notes due April 1, 2013		247,298		—		—			247,298
7 1/2% Senior Notes due February 15, 2014		150,000		—		—			150,000
Intercompany payables		4,270		188		(4,458	)		—
Total liabilities		1,025,863		89,235		(4,458	)		1,110,640
Minority interest in consolidated entities		—		—		101,009			101,009
Owners’ capital
William Lyon Homes		—		76,523		(76,523	)		—
Others		—		101,009		(101,009	)		—
Stockholders’ equity		605,587		—		—			605,587
	$	1,631,450	$	266,767	$	(80,981	)	$	1,817,236

11

WILLIAM LYON HOMES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS  (Continued)

(unaudited)

CONDENSED CONSOLIDATING BALANCE SHEET BY FORM OF OWNERSHIP

(in thousands)

	December 31, 2006
	Wholly-Owned		Variable Interest Entities Under Interpretation No. 46		Eliminating Entries			Consolidated Total
ASSETS
Cash and cash equivalents	$	24,123	$	14,609	$	—		$	38,732
Receivables		118,260		1,231		—		$	119,491
Real estate inventories
Owned		1,248,735		183,018		—			1,431,753
Not owned		131,564		69,103		—			200,667
Investments in and advances to unconsolidated joint ventures		3,560		—		—			3,560
Investments in consolidated entities		76,833		—		(76,833	)		—
Other assets		84,392		—		—			84,392
Intercompany receivables		—		3,367		(3,367	)		—
	$	1,687,467	$	271,328	$	(80,200	)	$	1,878,595
LIABILITIES AND STOCKHOLDERS’ EQUITY
Accounts payable and accrued expenses	$	146,286	$	14,177	$	—		$	160,463
Liabilities from inventories not owned		131,564		—		—			131,564
Notes payable		233,688		70,408		—			304,096
7 5/8% Senior Notes due December 15, 2012		150,000		—		—			150,000
10 3/4% Senior Notes due April 1, 2013		247,218		—		—			247,218
7 1/2% Senior Notes due February 15, 2014		150,000		—		—			150,000
Intercompany payables		3,316		51		(3,367	)		—
Total liabilities		1,062,072		84,636		(3,367	)		1,143,341
Minority interest in consolidated entities		—		—		109,859			109,859
Owners’ capital
William Lyon Homes		—		76,833		(76,833	)		—
Others		—		109,859		(109,859	)		—
Stockholders’ equity		625,395		—		—			625,395
	$	1,687,467	$	271,328	$	(80,200	)	$	1,878,595

12

WILLIAM LYON HOMES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS  (Continued)

(unaudited)

CONDENSED CONSOLIDATING STATEMENT OF OPERATIONS BY FORM OF OWNERSHIP

(in thousands)

	Three Months Ended March 31, 2007
	Wholly-Owned			Variable Interest Entities Under Interpretation No. 46			Eliminating Entries			Consolidated Total
Operating revenue
Sales	$	187,382		$	18,659		$	—		$	206,041
Management fees		708			—			(708	)		—
		188,090			18,659			(708	)		206,041
Operating costs
Cost of sales		(156,836	)		(13,673	)		708			(169,801	)
Impairment loss on real estate assets		(3,554	)		—			—			(3,554	)
Sales and marketing		(12,325	)		(1,148	)		—			(13,473	)
General and administrative		(11,506	)		(8	)		—			(11,514	)
Other		(111	)		—			—			(111	)
		(184,332	)		(14,829	)		708			(198,453	)
Equity in loss of unconsolidated joint ventures		(642	)		—			—			(642	)
Equity in income of consolidated entities		1,659			—			(1,659	)		—
Minority equity in income of consolidated entities		—			—			(2,283	)		(2,283	)
Operating income		4,775			3,830			(3,942	)		4,663
Other income, net		1,029			112			—			1,141
Income before provision for income taxes		5,804			3,942			(3,942	)		5,804
Provision for income taxes		(32,388	)		—			—			(32,388	)
Net (loss) income	$	(26,584	)	$	3,942		$	(3,942	)	$	(26,584	)

13

WILLIAM LYON HOMES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS  (Continued)

(unaudited)

CONDENSED CONSOLIDATING STATEMENT OF OPERATIONS BY FORM OF OWNERSHIP

(in thousands)

	Three Months Ended March 31, 2006
	Wholly- Owned			Variable Interest Entities Under Interpretation No. 46			Elimination Entries			Consolidated Total
Operating revenue
Sales	$	271,220		$	36,161		$	—		$	307,381
Management fees		1,072			—			(1,072	)		—
		272,292			36,161			(1,072	)		307,381
Operating costs
Cost of sales		(206,559	)		(24,386	)		1,072			(229,873	)
Sales and marketing		(11,469	)		(1,655	)		—			(13,124	)
General and administrative		(18,531	)		(58	)		—			(18,589	)
Other		(826	)		—			—			(826	)
		(237,385	)		(26,099	)		1,072			(262,412	)
Equity in income of unconsolidated joint ventures		3,638			—			—			3,638
Equity in income of consolidated entities		4,994			—			(4,994	)		—
Minority equity in income of consolidated entities		—			—			(5,226	)		(5,226	)
Operating income		43,539			10,062			(10,220	)		43,381
Financial advisory expenses		(1,500	)		—			—			(1,500	)
Other income, net		1,083			158			—			1,241
Income before provision for income taxes		43,122			10,220			(10,220	)		43,122
Provision for income taxes		(16,908	)		—			—			(16,908	)
Net income	$	26,214		$	10,220		$	(10,220	)	$	26,214

14

WILLIAM LYON HOMES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS  (Continued)

(unaudited)

Note 3 — Real Estate Inventories

Real estate inventories consist of the following (in thousands):

	March 31, 2007		December 31, 2006
Inventories owned:
Deposits	$	32,057	$	34,517
Land		663,868		676,274
Construction in progress		609,102		548,762
Completed inventory, including model homes		185,754		172,200
Total	$	1,490,781	$	1,431,753
Inventories not owned: (1)
Variable interest entities — land banking arrangement	$	55,316	$	69,103
Other land options contracts		131,564		131,564
Total inventories not owned	$	186,880	$	200,667

(1) Includes the consolidation of certain lot option arrangements and land banking arrangements determined to be VIEs under Interpretation No. 46 in which the company is considered the primary beneficiary (See Note 2 above) and the consolidation of a certain land banking arrangement recorded as a product financing arrangement. Amounts are net of deposits.

The Company accounts for its real estate inventories under Financial Accounting Standards Board Statement of Financial Accounting Standards No. 144, Accounting for the Impairment or Disposal of Long-Lived Assets (“Statement No. 144”). Statement No. 144 requires impairment losses to be recorded on real estate inventories when indicators of impairment are present and the undiscounted cash flows estimated to be generated by real estate inventories are less than the carrying amount of such assets. When an impairment loss is required for real estate inventories, the related assets are adjusted to their estimated fair value.

The results of operations for the three months ended March 31, 2007, include a non-cash charge of $3,554,000 to record an impairment loss on real estate assets held by the Company at one of its homebuilding projects. The impairment was primarily attributable to slower than anticipated home sales and lower than anticipated net revenue due to softening market conditions. As a result, the future undiscounted cash flows estimated to be generated were determined to be less than the carrying amount of the assets. Accordingly, the related real estate assets were written-down to their estimated fair value. The non-cash charge is reflected in impairment loss on real estate assets in the accompanying consolidated statements of income.

Fair value represents the amount at which an asset could be bought or sold in a current transaction between willing parties, that is, other than a forced or liquidation sale. The estimation process involved in determining if assets have been impaired and in the determination of fair value is inherently uncertain because it requires estimates of current market yields as well as future events and conditions. Such future events and conditions include economic and market conditions, as well as the availability of suitable financing to fund development and construction activities. The realization of the Company’s real estate projects is dependent upon future uncertain events and conditions and, accordingly, the actual timing and amounts realized by the Company may be materially different from those estimated.

15

WILLIAM LYON HOMES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS  (Continued)

(unaudited)

Note 4 — Investments in and Advances to Unconsolidated Joint Ventures

The Company and certain of its subsidiaries are general partners or members in joint ventures involved in the development and sale of residential projects. The consolidated financial statements of the Company include the accounts of the Company, all majority-owned and controlled subsidiaries and certain joint ventures which have been determined to be variable interest entities in which the Company is considered the primary beneficiary (see Note 2). The financial statements of joint ventures which have not been determined to be variable interest entities in which the Company is considered the primary beneficiary are not consolidated with the Company’s financial statements. The Company’s investments in unconsolidated joint ventures are accounted for using the equity method because the Company has a 50% or less voting or economic interest (and thus such joint ventures are not controlled by the Company). Condensed combined financial information of these unconsolidated joint ventures as of March 31, 2007 and December 31, 2006 is summarized as follows:

CONDENSED COMBINED BALANCE SHEETS

(in thousands)

	March 31, 2007		December 31, 2006
	(unaudited)
ASSETS
Cash and cash equivalents	$	772	$	328
Receivables		333		309
Real estate inventories		42,766		40,913
Investment in unconsolidated joint venture		1,220		2,048
Property and equipment		984		985
Other assets		68		—
	$	46,143	$	44,583
LIABILITIES AND OWNERS’ CAPITAL
Accounts payable	$	1,505	$	765
Notes payable		38,525		38,525
Advances from William Lyon Homes		3,741		1,825
		43,771		41,115
Owners’ capital
William Lyon Homes		1,187		1,735
Others		1,185		1,733
		2,372		3,468
	$	46,143	$	44,583

16

WILLIAM LYON HOMES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS  (Continued)

(unaudited)

CONDENSED COMBINED STATEMENTS OF OPERATIONS

(in thousands)

	Three Months Ended March 31,
	2007			2006
Operating revenue
Land sales	$	—		$	10,420
Operating costs
Cost of sales — land		—			(7,801	)
General and administrative		—			—
Other		(418	)		(259	)
		(418	)		(8,060	)
Equity in (loss) income of unconsolidated joint ventures		(903	)		4,792
Operating (loss) income		(1,321	)		7,152
Other income, net		38			124
Net (loss) income	$	(1,283	)	$	7,276
Allocation to owners:
William Lyon Homes	$	(642	)	$	3,638
Others		(641	)		3,638
	$	(1,283	)	$	7,276

Income and loss allocations and cash distributions to the Company are based on predetermined formulas between the Company and the joint venture partners as specified in the applicable partnership or operating agreements. The Company generally receives, after partners’ priority returns and return of partners’ capital, approximately 50% of the profits and cash flows from joint ventures.

The Company is a member in an unconsolidated limited liability company formed for the purpose of acquiring and developing land in Nevada. At March 31, 2007, the unconsolidated joint venture had outstanding land acquisition and development debt of $36,775,000, of which the Company guaranteed $18,387,500. If the unconsolidated joint venture liability company were to default on its obligation to repay the debt, the Company would be obligated to pay one-half of the outstanding balance, together with one-half of the accrued but unpaid interest thereon. The current maturity date of the debt is June 30, 2007, but such maturity date may be extended under certain circumstances to June 30, 2008. The debt bears interest at prime plus 0.5% (8.75% at March 31, 2007) and is secured by the real estate inventories of the unconsolidated joint venture limited liability company in the book amount of $40,101,000 at March 31, 2007.

Note 5 — Senior Notes

As of March 31, 2007, the Company had the following outstanding Senior Note obligations (collectively, the “Senior Notes”) (in thousands):

7 5/8% Senior Notes due December 15, 2012	$	150,000
10 3/4% Senior Notes due April 1, 2013		247,298
7 1/2% Senior Notes due February 15, 2014		150,000
	$	547,298

17

WILLIAM LYON HOMES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS  (Continued)

(unaudited)

7 ⁵/8% Senior Notes

On November 22, 2004, the Company’s 100% owned subsidiary, William Lyon Homes, Inc., a California corporation, (“California Lyon”) closed its offering of $150,000,000 principal amount of 7 ⁵/8% Senior Notes due December 15, 2012 (the “7 ⁵/8% Senior Notes”). The notes were sold pursuant to Rule 144A. The notes were issued at par resulting in net proceeds to the Company of approximately $148,500,000. California Lyon agreed to file a registration statement with the Securities and Exchange Commission relating to an offer to exchange the notes for publicly tradeable notes having substantially identical terms. On January 12, 2005, the Securities and Exchange Commission declared the registration statement effective and California Lyon commenced an offer to exchange any and all of its outstanding $150,000,000 aggregate principal amount of 7 ⁵/8% Senior Notes due December 15, 2012, which are not registered under the Securities Act of 1933, for a like amount of its new 7 ⁵/8% Senior Notes due December 15, 2012, which are registered under the Securities Act of 1933, upon the terms and subject to the conditions set forth in the prospectus dated January 12, 2005. The exchange offer was completed for $146,500,000 principal amount of the 7 ⁵/8% Senior Notes on February 18, 2005. The remaining $3,500,000 principal amount of the old notes remains outstanding. The terms of the new notes are identical in all material respects to those of the old notes, except for certain transfer restrictions, registration rights and liquidated damages provisions relating to the old notes. Interest on the 7 ⁵/8% Senior Notes is payable semi-annually on December 15 and June 15 of each year.

Except as set forth in the Indenture governing the 7 ⁵/8% Senior Notes, the 7 ⁵/8% Senior Notes are not redeemable prior to December 15, 2008. Thereafter, the 7 ⁵/8% Senior Notes will be redeemable at the option of California Lyon, in whole or in part, at a redemption price equal to 100% of the principal amount plus a premium declining ratably to par, plus accrued and unpaid interest, if any. In addition, on or before December 15, 2007, California Lyon may redeem up to 35% of the aggregate principal amount of the notes with the proceeds of qualified equity offerings at a redemption price equal to 107.625% of the principal amount, plus accrued and unpaid interest, if any.

10 ³/4% Senior Notes

California Lyon filed a Registration Statement on Form S-3 with the Securities and Exchange Commission for the sale of $250,000,000 of Senior Notes due 2013 (the “10 ³/4% Senior Notes”) which became effective on March 12, 2003. The offering closed on March 17, 2003 and was fully subscribed and issued. The notes were issued at a price of 98.493% to the public, resulting in net proceeds to the Company of approximately $246,233,000. The purchase price reflected a discount to yield 11% under the effective interest method and the notes have been reflected net of the unamortized discount in the accompanying consolidated balance sheet. Interest on the 10 ³/4% Senior Notes is payable on April 1 and October 1 of each year.

Except as set forth in the Indenture governing the 10 ³/4% Senior Notes, the 10 ³/4% Senior Notes are not redeemable prior to April 1, 2008. Thereafter, the 10 ³/4% Senior Notes will be redeemable at the option of California Lyon, in whole or in part, at a redemption price equal to 100% of the principal amount plus a premium declining ratably to par, plus accrued and unpaid interest, if any. In addition, on or before April 1, 2006, California Lyon may redeem up to 35% of the aggregate principal amount of the notes with the proceeds of qualified equity offerings at a redemption price equal to 110.75% of the principal amount, plus accrued and unpaid interest, if any.

7 ¹/2% Senior Notes

On February 6, 2004, California Lyon closed its offering of $150,000,000 principal amount of 7 ¹/2% Senior Notes due 2014 (the “7 ¹/2% Senior Notes”). The notes were sold pursuant to Rule 144A and outside the

18

WILLIAM LYON HOMES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS  (Continued)

(unaudited)

United States to non-U.S. persons in reliance on Regulation S. The notes were issued at par, resulting in net proceeds to the Company of approximately $147,600,000. California Lyon agreed to file a registration statement with the Securities and Exchange Commission relating to an offer to exchange the notes for publicly tradeable notes having substantially identical terms. On July 16, 2004, the Securities and Exchange Commission declared the registration statement effective and California Lyon commenced an offer to exchange any and all of its outstanding $150,000,000 aggregate principal amount of 7 ¹/2% Senior Notes due 2014, which are not registered under the Securities Act of 1933, for a like amount of its new 7 ¹/2% Senior Notes due 2014, which are registered under the Securities act of 1933, upon the terms and subject to the conditions set forth in the prospectus dated July 16, 2004. The exchange offer was completed for the full principal amount of the 7 ¹/2% Senior Notes on August 17, 2004. The terms of the new notes are identical in all material respects to those of the old notes, except for certain transfer restrictions, registration rights and liquidated damages provisions relating to the old notes. Interest on the 7 ¹/2% Senior Notes is payable on February 15 and August 15 of each year.

Except as set forth in the Indenture governing the 7 ¹/2% Senior Notes, the 7 ¹/2% Senior Notes are not redeemable prior to February 15, 2009. Thereafter, the 7 ¹/2% Senior Notes will be redeemable at the option of California Lyon, in whole or in part, at a redemption price equal to 100% of the principal amount plus a premium declining ratably to par, plus accrued and unpaid interest, if any. In addition, on or before February 15, 2007, California Lyon may redeem up to 35% of the aggregate principal amount of the notes with the proceeds of qualified equity offerings at a redemption price equal to 107.50% of the principal amount, plus accrued and unpaid interest, if any.

*    *    *    *    *

The Senior Notes are senior unsecured obligations of California Lyon and are unconditionally guaranteed on a senior unsecured basis by William Lyon Homes, a Delaware corporation (“Delaware Lyon”), which is the parent company of California Lyon, and all of Delaware Lyon’s existing and certain of its future restricted subsidiaries. The Senior Notes and the guarantees rank senior to all of the Company’s and the guarantors’ debt that is expressly subordinated to the Senior Notes and the guarantees, but are effectively subordinated to all of the Company’s and the guarantors’ senior secured indebtedness to the extent of the value of the assets securing that indebtedness.

Upon a change of control as described in the respective Indentures governing the Senior Notes (the “Senior Notes Indentures”), California Lyon will be required to offer to purchase the Senior Notes at a purchase price equal to 101% of the principal amount, plus accrued and unpaid interest, if any.

If the Company’s consolidated tangible net worth falls below $75,000,000 for any two consecutive fiscal quarters, California Lyon will be required to make an offer to purchase up to 10% of each class of Senior Notes originally issued at a purchase price equal to 100% of the principal amount, plus accrued and unpaid interest, if any.

California Lyon is 100% owned by Delaware Lyon. Each subsidiary guarantor is 100% owned by California Lyon or Delaware Lyon. All guarantees of the Senior Notes are full and unconditional and all of such guarantees are joint and several. There are no significant restrictions on the ability of Delaware Lyon or any guarantor to obtain funds from subsidiaries by dividend or loan.

The Senior Notes Indentures contain covenants that limit the ability of Delaware Lyon and its restricted subsidiaries to, among other things: (i) incur additional indebtedness; (ii) pay dividends or make other distributions or repurchase its stock; (iii) make investments; (iv) sell assets; (v) incur liens; (vi) enter into

19

WILLIAM LYON HOMES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS  (Continued)

(unaudited)

agreements restricting the ability of Delaware Lyon’s restricted subsidiaries (other than California Lyon) to pay dividends; (vii) enter into transactions with affiliates; and (viii) consolidate, merge or sell all or substantially all of Delaware Lyon’s and California Lyon’s assets. These covenants are subject to a number of important exceptions and qualifications as described in the Senior Notes Indentures.

The foregoing summary is not a complete description of the Senior Notes and is qualified in its entirety by reference to the Senior Notes Indentures.

The net proceeds of the offerings were used to repay amounts outstanding under revolving credit facilities and other indebtedness. The remaining proceeds were used to pay fees and commissions related to the offering and for other general corporate purposes.

At March 31, 2007, the Company had approximately $243,899,000 of secured indebtedness (excluding approximately $76,415,000 of secured indebtedness of consolidated entities — see Note 2) and approximately $193,157,000 of additional secured indebtedness available to be borrowed under the Company’s credit facilities, as limited by the Company’s borrowing base formulas.

Supplemental consolidating financial information of the Company, specifically including information for California Lyon, the issuer of the 10 ³/4% Senior Notes, the 7 ¹/2% Senior Notes and the 7 ⁵/8% Senior Notes, and Delaware Lyon and the guarantor subsidiaries is presented below. Investments in subsidiaries are presented using the equity method of accounting. Separate financial statements of California Lyon and the guarantor subsidiaries are not provided, as the consolidating financial information contained herein provides a more meaningful disclosure to allow investors to determine the nature of assets held and the operations of the combined groups.

20

WILLIAM LYON HOMES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS  (Continued)

(unaudited)

CONSOLIDATING BALANCE SHEET

March 31, 2007

(in thousands)

	Unconsolidated
	Delaware Lyon		California Lyon		Guarantor Subsidiaries		Non-Guarantor Subsidiaries		Eliminating Entries			Consolidated Company
ASSETS
Cash and cash equivalents	$	—	$	11,436	$	7,089	$	12,884	$	—		$	31,409
Receivables		—		16,271		33,700		46		—			50,017
Real estate inventories
Owned		—		1,294,231		1,868		194,682		—			1,490,781
Not Owned		—		186,880		—		—		—			186,880
Investments in and advances to unconsolidated joint ventures		—		4,928		—		—		—			4,928
Property and equipment, net		—		2,319		14,458		—		—			16,777
Deferred loan costs		—		10,841		—		—		—			10,841
Goodwill		—		5,896		—		—		—			5,896
Other assets		—		16,808		2,899		—		—			19,707
Investments in subsidiaries		605,587		76,977		8,503		—		(691,067	)		—
Intercompany receivables		—		1,138		179,581		4,458		(185,177	)		—
	$	605,587	$	1,627,725	$	248,098	$	212,070	$	(876,244	)	$	1,817,236
LIABILITIES AND STOCKHOLDERS’ EQUITY
Accounts payable	$	—	$	30,545	$	698	$	12,632	$	—		$	43,875
Accrued expenses		—		63,026		4,398		164		—			67,588
Liabilities from inventories not owned		—		131,564		—		—		—			131,564
Notes payable		—		211,242		32,658		76,415		—			320,315
7 5/8% Senior Notes		—		150,000		—		—		—			150,000
10 3/4% Senior Notes		—		247,298		—		—		—			247,298
7 1/2% Senior Notes		—		150,000		—		—		—			150,000
Intercompany payables		—		183,847		1,138		192		(185,177	)		—
Total liabilities		—		1,167,522		38,892		89,403		(185,177	)		1,110,640
Minority interest in consolidated entities		—		—		—		—		101,009			101,009
Stockholders’ equity		605,587		460,203		209,206		122,667		(792,076	)		605,587
	$	605,587	$	1,627,725	$	248,098	$	212,070	$	(876,244	)	$	1,817,236

21

WILLIAM LYON HOMES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS  (Continued)

(unaudited)

CONSOLIDATING BALANCE SHEET

December 31, 2006

(in thousands)

	Unconsolidated
	Delaware Lyon		California Lyon		Guarantor Subsidiaries		Non-Guarantor Subsidiaries		Eliminating Entries			Consolidated Company
ASSETS
Cash and cash equivalents	$	—	$	12,253	$	11,222	$	15,257	$	—		$	38,732
Receivables		—		56,084		62,174		1,233		—			119,491
Real estate inventories
Owned		—		1,246,889		1,846		183,018		—			1,431,753
Not owned		—		200,667		—		—		—			200,667
Investments in and advances to unconsolidated joint ventures		—		3,560		—		—		—			3,560
Property and equipment, net		—		2,493		14,335		—		—			16,828
Deferred loan costs		—		11,258		—		—		—			11,258
Goodwill		—		5,896		—		—		—			5,896
Other assets		—		47,724		2,686		—		—			50,410
Investments in subsidiaries		625,395		77,281		8,502		—		(711,178	)		—
Intercompany receivables		—		1,138		169,983		3,367		(174,488	)		—
	$	625,395	$	1,665,243	$	270,748	$	202,875	$	885,666		$	1,878,595
LIABILITIES AND STOCKHOLDERS’ EQUITY
Accounts payable	$	—	$	33,301	$	1,084	$	14,207	$	—		$	48,592
Accrued expenses		—		104,501		7,198		172		—			111,871
Liabilities from inventories not owned		—		131,564		—		—		—			131,564
Notes payable		—		174,329		59,359		70,408		—			304,096
7 5/8% Senior Notes		—		150,000		—		—		—			150,000
10 3/4% Senior Notes		—		247,218		—		—		—			247,218
7 1/2% Senior Notes		—		150,000		—		—		—			150,000
Intercompany payables		—		173,299		1,138		51		(174,488	)		—
Total liabilities		—		1,164,212		68,779		84,838		(174,488	)		1,143,341
Minority interest in consolidated entities		—		—		—		—		109,859			109,859
Stockholders’ equity		625,395		501,031		201,969		118,037		(821,037	)		625,395
	$	625,395	$	1,665,243	$	270,748	$	202,875	$	885,666		$	1,878,595

22

WILLIAM LYON HOMES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS  (Continued)

(unaudited)

CONSOLIDATING STATEMENT OF OPERATIONS

Three Months Ended March 31, 2007

(in thousands)

	Unconsolidated
	Delaware Lyon			California Lyon			Guarantor Subsidiaries			Non-Guarantor Subsidiaries			Eliminating Entries			Consolidated Company
Operating revenue
Sales	$	—		$	146,835		$	40,548		$	18,658		$	—		$	206,041
Management fees		—			708			—			—			(708	)		—
		—			147,543			40,548			18,658			(708	)		206,041
Operating costs
Cost of sales		—			(125,304	)		(31,634	)		(13,571	)		708			(169,801	)
Impairment loss on real estate assets		—			(3,554	)		—			—			—			(3,554	)
Sales and marketing		—			(10,212	)		(2,113	)		(1,148	)		—			(13,473	)
General and administrative		—			(11,420	)		(86	)		(8	)		—			(11,514	)
Other		—			—			(111	)		—			—			(111	)
		—			(150,490	)		(33,944	)		(14,727	)		708			(198,453	)
Equity in loss of unconsolidated joint ventures		—			(433	)		(209	)		—			—			(642	)
(Loss) income from subsidiaries		(26,584	)		7,867			—			—			18,717			—
Minority equity in income of consolidated entities		—			—			—			—			(2,283	)		(2,283	)
Operating (loss) income		(26,584	)		4,487			6,395			3,931			16,434			4,663
Other income, net		—			387			635			119			—			1,141
(Loss) income before provision for income taxes		(26,584	)		4,874			7,030			4,050			16,434			5,804
Provision for income taxes		—			(32,388	)		—			—			—			(32,388	)
Net (loss) income	$	(26,584	)	$	(27,514	)	$	7,030		$	4,050		$	16,434		$	(26,584	)

23

WILLIAM LYON HOMES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS  (Continued)

(unaudited)

CONSOLIDATING STATEMENT OF OPERATIONS

Three Months Ended March 31, 2006

(in thousands)

	Unconsolidated
	Delaware Lyon		California Lyon			Guarantor Subsidiaries			Non-Guarantor Subsidiaries			Eliminating Entries			Consolidated Company
Operating revenue
Sales	$	—	$	229,846		$	41,374		$	36,161		$	—		$	307,381
Management fees		—		1,072			—			—			(1,072	)		—
		—		230,918			41,374			36,161			(1,072	)		307,381
Operating costs
Cost of sales		—		(180,123	)		(26,476	)		(24,346	)		1,072			(229,873	)
Sales and marketing		—		(9,814	)		(1,655	)		(1,655	)		—			(13,124	)
General and administrative		—		(18,489	)		(42	)		(58	)		—			(18,589	)
Other		—		—			(826	)		—			—			(826	)
		—		(208,426	)		(28,999	)		(26,059	)		1,072			(262,412	)
Equity in income (loss) of unconsolidated joint ventures		—		3,767			(129	)		—			—			3,638
Income from subsidiaries		26,214		17,153			—			—			(43,367	)		—
Minority equity in income of consolidated entities		—		—			—			—			(5,226	)		(5,226	)
Operating income		26,214		43,412			12,246			10,102			(48,593	)		43,381
Financial advisory expense		—		(1,500	)		—			—			—			(1,500	)
Other income, net		—		248			839			154			—			1,241
Income before provision for income taxes		26,214		42,160			13,085			10,256			(48,593	)		43,122
Provision for income taxes		—		(16,908	)		—			—			—			(16,908	)
Net income	$	26,214	$	25,252		$	13,085		$	10,256		$	(48,593	)	$	26,214

24

WILLIAM LYON HOMES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS  (Continued)

(unaudited)

CONSOLIDATING STATEMENT OF CASH FLOWS

Three Months Ended March 31, 2007

(in thousands)

	Unconsolidated
	Delaware Lyon			California Lyon			Guarantor Subsidiaries			Non-Guarantor     Subsidiaries			Eliminating Entries			Consolidated Company
Operating activities:
Net (loss) income	$	(26,584	)	$	(27,514	)	$	7,030		$	4,050		$	16,434		$	(26,584	)
Adjustments to reconcile net (loss) income to net cash (used in) provided by operating activities:
Depreciation and amortization		—			250			381			—			—			631
Equity in loss of unconsolidated joint ventures		—			433			209			—			—			642
Minority equity in income of consolidated entities		—			—			—			—			2,283			2,283
Equity in loss (earnings) of subsidiaries		26,584			(7,867	)		—			—			(18,717	)		—
Impairment loss on real estate asset		—			3,554			—			—			—			3,554
Provision for income taxes		—			32,388			—			—			—			32,388
Net changes in operating assets and liabilities:
Receivables		—			46,589			28,474			1,187			—			76,250
Intercompany receivables/payables		—			—			(9,598	)		(950	)		10,548			—
Real estate inventories owned		—			(50,816	)		(22	)		(11,664	)		—			(62,502	)
Real estate inventories not owned		—			13,787			—			—			—			13,787
Deferred loan costs		—			417			—			—			—			417
Other assets		—			(971	)		(213	)		—			—			(1,184	)
Accounts payable		—			(2,756	)		(386	)		(1,575	)		—			(4,717	)
Accrued expenses		—			(41,976	)		(2,800	)		(8	)		—			(44,784	)
Net cash (used in) provided by operating activities		—			(34,482	)		23,075			(8,960	)		10,548			(9,819	)
Investing activities:
Net change in investment in unconsolidated joint ventures		—			(1,801	)		(209	)		—			—			(2,010	)
Purchases of property and equipment		—			(76	)		(504	)		—			—			(580	)
Investments in subsidiaries		—			8,171			(1	)		—			(8,170	)		—
Advances (to) from affiliates		—			(9,542	)		—			—			9,542			—
Net cash (used in) provided by investing activities		—			(3,248	)		(714	)		—			1,372			(2,590	)
Financing activities:
Proceeds from borrowings on notes payable		—			229,598			216,998			6,007			—			452,603
Principal payments on notes payable		—			(192,685	)		(243,699	)		—			—			(436,384	)
Minority interest distributions, net		—			—			—			(11,133	)		—			(11,133	)
Advances (to) from affiliates		—			—			207			11,713			(11,920	)		—
Net cash provided by (used in) financing activities		—			36,913			(26,494	)		6,587			(11,920	)		5,086
Net decrease in cash and cash equivalents		—			(817	)		(4,133	)		(2,373	)		—			(7,323	)
Cash and cash equivalents at beginning of year		—			12,253			11,222			15,257			—			38,732
Cash and cash equivalents at end of year	$	—		$	11,436		$	7,089		$	12,884		$	—		$	31,409

25

WILLIAM LYON HOMES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS  (Continued)

(unaudited)

CONSOLIDATING STATEMENT OF CASH FLOWS

Three Months Ended March 31, 2006

(in thousands)

	Unconsolidated
	Delaware Lyon			California Lyon			Guarantor Subsidiaries			Non-Guarantor     Subsidiaries			Eliminating Entries			Consolidated Company
Operating activities
Net income	$	26,214		$	25,252		$	13,085		$	10,256		$	(48,593	)	$	26,214
Adjustments to reconcile net income to net cash (used in) provided by operating activities:
Depreciation and amortization		—			183			398			—			—			581
Equity in (income) loss of unconsolidated joint ventures		—			(3,767	)		129			—			—			(3,638	)
Distributions of income from unconsolidated joint ventures		—			1,599			1,000			—			—			2,599
Minority equity in income of consolidated entities		—			—			—			—			5,226			5,226
Equity in earnings of subsidiaries		(26,214	)		(17,153	)		—			—			43,367			—
State income tax refund credited to additional paid-in capital		—			10			—			—			—			10
Provision for income taxes		—			16,908			—			—			—			16,908
Net changes in operating assets and liabilities:
Receivables		—			64,410			31,450			14,529			—			110,389
Intercompany receivables/payables		—			—			(12,876	)		11,815			1,061			—
Real estate inventories		—			(101,831	)		(890	)		(36,504	)		—			(139,225	)
Deferred loan costs		—			241			—			—			—			241
Other assets		—			(8,480	)		(216	)		—			—			(8,696	)
Accounts payable		—			(1,464	)		(183	)		(9,612	)		—			(11,259	)
Accrued expenses		—			(74,778	)		(1,008	)		(1,317	)		—			(77,103	)
Net cash (used in) provided by operating activities		—			(98,870	)		30,889			(10,833	)		1,061			(77,753	)
Investing activities
Net change in investment in and advances to unconsolidated joint ventures		—			148			(239	)		—			—			(91	)
Purchases of property and equipment		—			(311	)		(294	)		—			—			(605	)
Investments in subsidiaries		—			27,285			1,646			—			(28,931	)		—
Advances to affiliates		—			(17,440	)		—			—			17,440			—
Net cash provided by investing activities		—			9,682			1,113			—			(11,491	)		(696	)
Financing activities
Proceeds from borrowings on notes payable		—			346,995			196,168			25,935			—			569,098
Principal payments on notes payable		—			(269,008	)		(225,750	)		—			—			(494,758	)
Minority interest contributions, net		—			—			—			(23,266	)		—			(23,266	)
Advances from (to) affiliates		—			—			(1,475	)		(8,955	)		10,430			—
Net cash provided by (used in) financing activities		—			77,987			(31,057	)		(6,286	)		10,430			51,074
Net (decrease) increase in cash and cash equivalents		—			(11,201	)		945			(17,119	)		—			(27,375	)
Cash and cash equivalents at beginning of period		—			18,934			6,687			26,748			—			52,369
Cash and cash equivalents at end of period	$	—		$	7,733		$	7,632		$	9,629		$	—		$	24,994

26

WILLIAM LYON HOMES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS  (Continued)

(unaudited)

Note 6 — Related Party Transactions

On October 26, 2000, the Company’s Board of Directors (with Messrs. William Lyon and William H. Lyon abstaining) approved the purchase of 579 lots for a total purchase price of $12,581,000 from an entity controlled by William Lyon and William H. Lyon. The terms of the purchase agreement provide for an initial option payment of $1,000,000 and a rolling option takedown of the lots. In addition, one-half of the net profits in excess of six percent from the development are to be paid to the seller. Phased takedowns of approximately 20 lots each occurred at periodic intervals for each of several product types through September 2004. As of December 31, 2004, all lots were purchased under this agreement. In addition, one-half of the net profits, as defined, in excess of six percent from the development are to be paid to the seller. During the three months ended March 31, 2007, $8,305,000 was paid to the seller, and a total amount has been paid of $14,015,000 as of March 31, 2007. This land acquisition qualified as an affiliate transaction under the Company’s 12 ¹/2% Senior Notes due July 1, 2003 Indenture dated as of June 29, 1994, as amended (“Old Indenture”). Pursuant to the terms of the Old Indenture, the Company determined that the land acquisition is on terms that are no less favorable to the Company than those that would have been obtained in a comparable transaction by the Company with an unrelated person. The Company delivered to the Trustee under the Old Indenture a resolution of the Board of Directors of the Company set forth in an Officers’ Certificate certifying that the land acquisition is on terms that are no less favorable to the Company than those that would have been obtained in a comparable transaction by the Company with an unrelated person and the land acquisition was approved by a majority of the disinterested members of the Board of Directors of the Company. Further, the Company delivered to the Trustee under the Indenture a determination of value by a real estate appraisal firm which is of regional standing in the region in which the subject property is located and is MAI certified.

For the three months ended March 31, 2007 and 2006, the Company incurred reimbursable on-site labor costs of $50,000 and $29,000, respectively, for providing customer service to real estate projects developed by entities controlled by William Lyon and William H. Lyon, and $2,000 and $1,000 was due to the Company at March 31, 2007 and December 31, 2006, respectively, for reimbursable on-site labor costs.

For each of the three month periods ended March 31, 2007 and 2006, the Company incurred charges of $189,000 related to rent on its corporate office, from a trust of which William H. Lyon is the sole beneficiary.

Effective September 1, 2004, the Company entered into an aircraft consulting and management agreement with an affiliate (the “Affiliate”) of William Lyon to operate and manage the Company’s aircraft. The terms of the agreement provide that the Affiliate shall consult and render its advice and management services to the Company with respect to all functions necessary to the operation, maintenance and administration of the aircraft. The Company’s business plan for the aircraft includes (i) use by Company executives for traveling on Company business to the Company’s divisional offices and other destinations, (ii) charter service to outside third parties and (iii) charter service to William Lyon personally. Charter services for outside third parties are contracted for at market rates. As compensation to the Affiliate for its management and consulting services under the agreement, the Company pays the Affiliate a fee equal to (i) the amount equal to 107% of compensation paid by the affiliate for the pilots supplied pursuant to the agreement, (ii) $50 per operating hour for the aircraft and (iii) $9,000 per month for hangar rent. In addition, all maintenance work, inspections and repairs performed by the Affiliate on the aircraft are charged to the Company at the Affiliate’s published rates for maintenance, inspections and repairs in effect at the time such work is completed. The total compensation paid to the Affiliate under the agreement amounted to $357,000 and $361,000 for the three months ended March 31, 2007 and 2006, respectively.

Effective July 1, 2006, General William Lyon entered into a time sharing agreement (“the Agreement”) with the Company pertaining to his personal use of the aircraft. The agreement calls for General Lyon to reimburse

27

WILLIAM LYON HOMES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS  (Continued)

(unaudited)

the company for all costs incurred by the Company during his personal flights plus a surcharge on fuel consumption of two times the cost. Pursuant to the agreement and the rates charged to General Lyon prior to the agreement, the Company had earned revenue of $59,000 and $79,000 for charter services provided to William Lyon personally, during the three months ended March 31, 2007 and 2006, respectively, and $392,000 and $333,000 was due to the Company at March 31, 2007 and December 31, 2006, respectively.

The Company and one of the Company’s directors, Alex Meruelo, are parties to an agreement pursuant to which Mr. Meruelo is eligible to receive a finder’s fee based upon the cash distributions received by a subsidiary of the Company from a joint venture development project relating to a portion of the Fort Ord military base in Monterey County, California. The joint venture development project resulted from Mr. Meruelo’s introduction of the Company to Woodman Development Company, LLC (“Woodman”) and the subsequent formation of East Garrison Partners I, LLC (“EGP”) as a joint venture between Woodman and Lyon East Garrison Company I, LLC (“EGC”). The finder’s fee will equal 5% of all net cash distributions distributed by EGP to EGC with respect to EGC’s existing 50% interest in EGP that are in excess of distributions with respect to certain deficit advances, deficit preferred returns, returns of capital and preferred returns on unreturned capital. The calculation of the finder’s fee will be based on net cash distributions received from EGP on land sales and will not be determined on the basis of any revenues, profits or distributions received from any affiliate of EGC for the construction and sale or leasing of residential or commercial buildings on such lots. Mr. Meruelo is not obligated to perform any services for EGC other than the introduction to Woodman.

The Company offers home mortgage loans to its employees and directors through its mortgage company subsidiary, William Lyon Financial Services. These loans are made in the ordinary course of business and on substantially the same terms, including interest rates and collateral, as those prevailing at the time for comparable transactions with other persons. These loans do not involve more than the normal risk of collectibility or present other unfavorable features and are sold to investors typically within 7 to 15 days.

Note 7 — Income Taxes

Effective January 1, 2007, the Company made an election in accordance with federal and state regulations to be taxed as an “S” corporation rather than a “C” corporation. Under this election, the Company’s taxable income flows through to and is reported on the personal tax returns of its shareholders. The shareholders are responsible for paying the appropriate taxes based on this election. The Company does not pay any federal taxes under this election and is only required to pay certain state taxes based on a rate of approximately 1.5% of taxable income. As a result of this election, the Company’s provision for income taxes for the three months ended March 31, 2007 included a reduction of deferred tax assets of $31,887,000 due to the elimination of any future tax benefit by the Company from such assets. In addition, unused recognized built in losses in the amount of $19,414,000 are no longer available to the Company.

Effective January 1, 2007, the company adopted the provisions of FASB Interpretation No. 48, “Accounting for Uncertainty in Income Taxes—an interpretation of FASB Statement No. 109” (“FIN 48”). FIN 48 prescribes a recognition threshold and a measurement attribute for the financial statement recognition and measurement of tax positions taken or expected to be taken in a tax return. For those benefits to be recognized, a tax position must be considered “more-likely-than-not” to be sustained upon examination by taxing authorities. The Company has taken positions in certain taxing jurisdictions for which it is more likely than not that previously unrecognized tax benefits will be recognized. In accordance with the provisions of FIN 48, effective January 1, 2007, the Company recorded an income tax refund receivable of $5,654,000 and recognized the associated tax benefit as an increase in additional paid-in capital. In connection therewith, the Company recorded interest receivable of $1,122,000 and recognized the associated tax benefit as an increase in retained earnings.

28

WILLIAM LYON HOMES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS  (Continued)

(unaudited)

The Company and its subsidiaries file income tax returns in the U.S. federal jurisdiction and various state jurisdictions. The Company is subject to U.S. federal income tax examination for calendar tax years ending 2002 through 2006. The Company is subject to various state income tax examinations for calendar tax years ending 2001 through 2006.

The Company currently is under state income tax examination in the states of California and Arizona.

Note 8 — Tender Offer

On May 18, 2006, General William Lyon announced the completion of a tender offer to purchase all of the outstanding shares of the common stock of the Company not already owned by him for $109.00 net per share in cash. The shares tendered in the offer, together with the shares already owned by General Lyon, The William Harwell Lyon 1987 Trust and The William Harwell Lyon Separate Property Trust, represented over 90% of the outstanding shares of the Company.

After receiving deliveries of a sufficient number of tendered shares to reach the 90% threshold, General Lyon and the two trusts contributed all the shares of the Company owned by them to WLH Acquisition Corp., a corporation owned by General Lyon and the two trusts. On July 25, 2006, WLH Acquisition Corp. was then merged with and into the Company under the “short-form” merger provisions of Delaware law, with the Company continuing as the surviving corporation of the merger. At the effective time of the merger, each outstanding share of the Company’s common stock (except for shares owned by WLH Acquisition Corp. and by stockholders who properly exercise their appraisal rights in accordance with Delaware law) was cancelled and converted into the right to receive $109.00 per share in cash, without interest, which is the same consideration that was paid for shares of the Company in the tender offer by General Lyon.

As a consequence of the merger, the Company’s equity now consists solely of 1,000 shares of common stock outstanding held by General Lyon and the two trusts.

The Company incurred $3,165,000 in financial advisory expenses related to the tender offer, of which $1,500,000 was incurred during the three months ended March 31, 2006, and is reflected as financial advisory expenses in the accompanying consolidated statement of income.

See Note 9 for information on certain lawsuits which have been filed relating to General Lyon’s proposal.

Note 9 — Commitments and Contingencies

The Company’s commitments and contingent liabilities include the usual obligations incurred by real estate developers in the normal course of business. In the opinion of management, these matters will not have a material effect on the Company’s consolidated financial position, results of operations or cash flows.

Litigation Arising from General Lyon’s Tender Offer

On March 17, 2006, the Company’s principal stockholder commenced a tender offer (the “Tender Offer”) to purchase all outstanding shares of the Company’s common stock not already owned by him. Initially, the price offered in the Tender was $93 per share, but it has since been increased to $109 per share.

29

WILLIAM LYON HOMES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS  (Continued)

(unaudited)

Two purported class action lawsuits were filed in the Court of Chancery of the State of Delaware in and for New Castle County, purportedly on behalf of the public stockholders of the Company, challenging the Tender Offer and challenging related actions of the Company and the directors of the Company. Stephen L. Brown v. William Lyon Homes, et al., Civil Action No. 2015-N was filed on March 20, 2006, and Michael Crady, et al. v. General William Lyon, et al., Civil Action No. 2017-N was filed on March 21, 2006 (collectively, the “Delaware Complaints”). On March 21, 2006, plaintiff in the Brown action also filed a First Amended Complaint. The Delaware Complaints name the Company and the directors of the Company as defendants. These complaints allege, among other things, that the defendants have breached their fiduciary duties owed to the plaintiffs in connection with the Tender Offer and other related corporate activities. The plaintiffs sought to enjoin the Tender Offer and, among other things, to obtain attorneys’ fees and expenses related to the litigation.

On March 23, 2006, the Company announced that its Board had appointed a special committee of independent directors who are not members of the Company’s management or employed by the Company (the “Special Committee”) to consider the Tender Offer. The members of the Special Committee are Harold H. Greene, Lawrence M. Higby, and Dr. Arthur Laffer. The Company also announced that the Special Committee had retained Morgan Stanley & Co. as its financial advisor and Gibson, Dunn & Crutcher LLP as its legal counsel.

On March 24, 2006, the Delaware Chancery Court consolidated the Delaware Complaints into a single case entitled In re: William Lyon Homes Shareholder Litigation, Civil Action No. 2015-N (the “Consolidated Delaware Action”).

On April 10, 2006, the parties to the Consolidated Delaware Action executed a Memorandum of Understanding (“MOU”), detailing a proposed settlement subject to the Delaware Chancery Court’s approval. Pursuant to the MOU, General Lyon increased his offer of $93 per share to $100 per share, extended the closing date of the offer to April 21, 2006, and, on April 11, 2006, filed an amended Schedule TO. Plaintiffs in the Consolidated Delaware Action have determined that the settlement is “fair, reasonable, adequate, and in the best interests of plaintiffs and the putative Class.” The Special Committee also determined that the price of $100 per share was fair to the shareholders, and recommended that the Company’s shareholders accept the revised Tender Offer and tender their shares. Thereafter, General Lyon also decided to further extend the closing date of the Tender Offer from April 21, 2006 to April 28, 2006.

On April 23, 2006, Delaware Chancery Court conditionally certified a class in the Consolidated Delaware Action. The parties to the Consolidated Delaware Action agreed to a Stipulation of Settlement, and on August 9, 2006, the Delaware Chancery Court certified a class in the Consolidated Delaware Action, approved the settlement, and dismissed the Consolidated Delaware Action with prejudice as to all defendants and the class. On February 16, 2007, the fee award to Plaintiffs’ counsel was appealed to the Supreme Court of the State of Delaware. Under the appealed award, the Company has no expected liability for Plaintiffs’ counsel fees, which are expected to be paid by General Lyon.

A purported class action lawsuit challenging the Tender Offer was also filed in the Superior Court of the State of California, County of Orange. On March 17, 2006, a complaint captioned Alaska Electrical Pension Fund v. William Lyon Homes, Inc., et al., Case No. 06-CC-00047, was filed. On April 5, 2006, plaintiff in the Alaska Electrical action filed an Amended Complaint (the “California Action”). The complaint in the California Action names the Company and the directors of the Company as defendants and alleges, among other things, that the defendants have breached their fiduciary duties to the public stockholders. Plaintiff in the California Action also sought to enjoin the Tender Offer, and, among other things, to obtain attorneys’ fees and expenses related to the litigation.

30

WILLIAM LYON HOMES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS  (Continued)

(unaudited)

On April 20, 2006, the California court denied the request of plaintiff in the California Action to enjoin the Tender Offer. Plaintiff filed a motion to certify a class in the California Action which was later taken off calendar, and the Company filed a motion to stay the California Action. On July 5, 2006, the California Court granted the Company’s motion to stay the California Action.

The Company is a defendant in various lawsuits related to its normal business activities. In the opinion of management, disposition of the various lawsuits will have no material effect on the consolidated financial statements of the Company.

See Note 2 for information relating to the Company’s land banking arrangements.

In some jurisdictions in which the Company develops and constructs property, assessment district bonds are issued by municipalities to finance major infrastructure improvements. As a land owner benefited by these improvements, the Company is responsible for the assessments on its land. When properties are sold, the assessments are either prepaid or the buyers assume the responsibility for the related assessments. Assessment district bonds issued after May 21, 1992 are accounted for under the provisions of Statement 91-10, “Accounting for Special Assessment and Tax Increment Financing Entities” issued by the Emerging Issues Task Force of the Financial Accounting Standards Board on May 21, 1992, and recorded as liabilities in the Company’s consolidated balance sheet, if the amounts are fixed and determinable.

As of March 31, 2007, the Company had $17.4 million of outstanding irrevocable standby letters of credit to guarantee the Company’s financial obligations under certain land banking arrangements, joint venture agreements and other contractual arrangements in the normal course of business. The beneficiary may draw upon these letters of credit in the event of a contractual default by the Company relating to each respective obligation. These letters of credit have a stated term of 12 months and have varying maturities through 2009, at which time the Company may be required to renew the letters of credit to coincide with the term of the respective arrangement.

The Company also had outstanding performance and surety bonds of $268.0 million at March 31, 2007 related principally to its obligations for site improvements at various projects. The Company does not believe that draws upon these bonds, if any, will have a material effect on the Company’s financial position, results of operations or cash flows.

The Company has provided unsecured environmental indemnities to certain lenders, joint venture partners and land sellers. In each case, the Company has performed due diligence on the potential environmental risks, including obtaining an independent environmental review from outside environmental consultants. These indemnities obligate the Company to reimburse the guaranteed parties for damages related to environmental matters. There is no term or damage limitation on these indemnities; however, if an environmental matter arises, the Company could have recourse against other previous owners.

See Notes 4 and 5 for additional information relating to the Company’s guarantee arrangements.

31

Item 2.    Management’s Discussion and Analysis of Financial Condition and Results of Operations

WILLIAM LYON HOMES

MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION

AND RESULTS OF OPERATIONS

The following discussion of results of operations and financial condition should be read in conjunction with the consolidated financial statements and notes thereto included in Item 1, as well as the information presented in the Annual Report on Form 10-K for the year ended December 31, 2006.

Results of Operations

Overview and Recent Results

Selected financial and operating information for the Company including its wholly-owned projects and joint ventures as of and for the periods presented is as follows:

	Three Months Ended March 31,
	2007									2006
	Wholly-Owned			Joint Ventures			Consolidated Total			Wholly-Owned			Joint Ventures			Consolidated Total
Selected Financial Information (dollars in thousands)
Homes closed		383			38			421			516			65			581
Home sales revenue	$	174,021		$	18,659		$	192,680		$	271,220		$	36,161		$	307,381
Cost of sales		(144,891	)		(13,117	)		(158,008	)		(206,129	)		(23,314	)		(229,443	)
Gross margin	$	29,130		$	5,542		$	34,672		$	65,091		$	12,847		$	77,938
Gross margin percentage		16.7	%		29.7	%		18.0	%		24.0	%		35.5	%		25.4	%
Number of homes closed
California		202			38			240			263			65			328
Arizona		138			—			138			99			—			99
Nevada		43			—			43			154			—			154
Total		383			38			421			516			65			581
Average sales price
California	$	587,700		$	491,000		$	572,400		$	640,800		$	556,300		$	624,100
Arizona		293,800			—			293,800			417,900			—			417,900
Nevada		343,400			—			343,400			398,100			—			398,100
Total	$	454,400		$	491,000		$	457,700		$	525,600		$	556,300		$	529,100
Number of net new home orders
California		381			90			471			296			96			392
Arizona		112			—			112			116			—			116
Nevada		86			—			86			139			—			139
Total		579			90			669			551			96			647
Average number of sales locations during period
California		31			7			38			24			7			31
Arizona		6			—			6			6			—			6
Nevada		10			—			10			11			—			11
Total		47			7			54			41			7			48

32

	As of March 31,
	2007						2006
	Wholly-Owned		Joint Ventures		Consolidated Total		Wholly-Owned		Joint Ventures		Consolidated Total
Backlog of homes sold but not closed at end of period
California		482		104		586		641		154		795
Arizona		165		—		165		413		—		413
Nevada		103		—		103		149		—		149
Total		750		104		854		1,203		154		1,357
Dollar amount of homes sold but not closed at end of period (dollars in thousands)
California	$	302,772	$	47,392	$	350,164	$	459,291	$	77,222	$	536,513
Arizona		41,973		—		41,973		133,658		—		133,658
Nevada		36,722		—		36,722		51,012		—		51,012
Total	$	381,467	$	47,392	$	428,859	$	643,961	$	77,222	$	721,183
Lots controlled at end of period
Owned lots
California		4,725		1,096		5,821		4,237		1,225		5,462
Arizona		4,117		2,568		6,685		2,721		1,738		4,459
Nevada		1,256		—		1,256		1,460		—		1,460
Total		10,098		3,664		13,762		8,418		2,963		11,381
Optioned lots(1)
California						1,612						4,101
Arizona						3,107						6,012
Nevada						1,013						2,137
Total						5,732						12,250
Total lots controlled
California						7,433						9,563
Arizona						9,792						10,471
Nevada						2,269						3,597
Total						19,494						23,631

(1) Optioned lots may be purchased by the Company as wholly-owned projects or may be purchased by newly formed joint ventures.

On a consolidated basis, the number of net new home orders for the three months ended March 31, 2007 increased 3.4% to 669 homes from 647 homes for the three months ended March 31, 2006. The number of homes closed on a consolidated basis for the three months ended March 31, 2007, decreased 27.5% to 421 homes from 581 homes for the three months ended March 31, 2006. On a consolidated basis, the backlog of homes sold but not closed as of March 31, 2007 was 854, down 37.1% from 1,357 homes a year earlier, and up 40.9% from 606 homes at December 31, 2006.

Homes in backlog are generally closed within three to six months. The dollar amount of backlog of homes sold but not closed on a consolidated basis as of March 31, 2007 was $428.9 million, down 40.5% from $721.2 million as of March 31, 2006 and up 45.1% from $295.5 million as of December 31, 2006. The cancellation rate of buyers who contracted to buy a home but did not close escrow at the Company’s projects was approximately 25% during the three months ended March 31, 2007 compared to 28% during the three months ended March 31, 2006. The inventory of completed and unsold homes was 72 homes as of March 31, 2006.

The average number of sales locations during the quarter ended March 31, 2007 was 54, up 12.5% from 48 in the comparable period a year ago, as a result of the Company’s focus begun in 2005 to increase the number of sales locations in each of its markets. The Company’s number of new home orders per average sales location decreased to 12.4 for the quarter ended March 31, 2007 as compared to 13.5 for the quarter ended March 31, 2006.

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In general, housing demand is adversely affected by increases in interest rates and housing prices. Interest rates, the length of time that assets remain in inventory, and the proportion of inventory that is financed affect the Company’s interest cost. If the Company is unable to raise sales prices sufficiently to compensate for higher costs or if mortgage interest rates increase significantly, affecting prospective buyers’ ability to adequately finance home purchases, the Company’s sales, gross margins and operating results may be adversely impacted.

Comparison of Three Months Ended March 31, 2007 to March 31, 2006

Consolidated operating revenue for the three months ended March 31, 2007 was $206.0 million, a decrease of $101.4 million, or 33.0%, from consolidated operating revenue of $307.4 million for the three months ended March 31, 2006. Revenue from sales of wholly-owned homes decreased to $174.0 million in the 2007 period from $271.2 million in the 2006 period. This decrease was comprised of (i) a decrease of $70.0 million due to a decrease in the number of wholly-owned homes closed to 383 in 2007 from 516 in 2006 and (ii) a decrease of $27.4 million due to a decrease in the average sales price of wholly-owned homes closed to $454,400 in the 2007 period from $525,600 in the 2006 period. Consolidated operating revenue includes revenue from sales of joint ventures due to the adoption of Interpretation No. 46. Revenue from sales of joint venture homes decreased $17.5 million, or 48.3%, to $18.7 million in the 2007 period from $36.2 million in the 2006 period. This decrease was comprised of (i) a decrease of $2.5 million due to a decrease in the average sales price of joint venture homes closed to $491,000 in the 2007 period from $556,300 in the 2006 period and (ii) a decrease of $15.0 million due to a decrease in the number of joint venture homes closed to 38 in 2007 from 65 in 2006. Revenue from sales of lots, land and other was $13.4 million in the 2007 period with no comparable amount in the 2006 period, primarily due to the sale of a golf course in one of the Company’s markets in the 2007 period and other bulk sales of land in Arizona. The decrease in the average sales price of units closed in wholly-owned projects and in joint venture projects was due to a change in product mix and the softening of sales in certain of the Company’s markets.

Total operating income decreased to $4.7 million in the 2007 period from $43.4 million in the 2006 period. The excess of revenue from sales of homes over the related cost of sales (gross margin) decreased by $43.3 million to $34.7 million in the 2007 period from $78.0 million in the 2006 period primarily due to (i) a decrease in the number of homes closed to 421 in the 2007 period from 581 in the 2006 period, (ii) a decrease in average sales prices to $457,700 in the 2007 period from $529,100 in the 2006 period and (iii) a decrease in gross margin percentage to 18.0% in the 2007 period from 25.4% in the 2006 period. The decrease in period-over-period gross margin percentage primarily reflects the earlier close out of projects with higher average gross margin percentages, a shift in product mix and the decrease in average sales prices in certain of the Company’s markets. The excess of revenue from sales of lots, land and other over the related cost of sales (gross margin) increased to $1.6 million in the 2007 period from $(0.4) million in the 2006 period primarily due to the bulk sale of land in certain of the Company’s markets in the 2007 period, as described above. In the 2006 period, the Company incurred costs related to the abandonment and write-off of project pre-acquisition costs and land options deposits for a potential project.

Operating costs for the three months ended March 31, 2007 included an impairment loss on real estate assets of $3.6 million. The impairment was primarily attributable to slower than anticipated home sales and lower than anticipated net revenue due to softening market conditions. Accordingly, the real estate assets were written-down to their estimated fair value. Sales and marketing expense increased slightly to $13.5 million in the 2007 period from $13.1 million in the 2006 period primarily due to an increase of $0.2 million in direct selling expenses. General and administrative expenses decreased by $7.1 million to $11.5 million in the 2007 period from $18.6 million in the 2006 period, primarily as a result of a decrease of $6.9 million in bonus expense to $1.3 million in the 2007 period from $8.2 million in the 2006 period. Selling, general and administrative expense as a percentage of home sales revenue was 13.0% in the 2007 period compared to 10.3% in the 2006 period. Other operating costs consist of losses realized by golf course operations at certain of the Company’s projects which decreased to $(0.1) million in the 2007 period compared to $(0.8) million in the 2006 period. Equity in (loss) income from unconsolidated joint ventures decreased to $(0.6) million in the 2007 period from $3.6 million in the 2006 period.

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Minority equity in income of consolidated entities decreased to $2.3 million in the 2007 period from $5.2 million in the 2006 period, primarily due to a decrease in the number of joint venture homes closed to 38 in the 2007 period from 65 in the 2006 period.

The Company incurred financial advisory expenses of $1.5 million in the 2006 period with no comparable amount in the 2007 period due to the tender offer described in Note 8 to “Notes to Consolidated Financial Statements”.

Total interest incurred decreased to $17.5 million in the 2007 period from $18.7 million in the 2006 period, primarily as a result of a decrease in the average principal balance of debt outstanding offset by an increase in interest rates. All interest incurred was capitalized in the 2007 and 2006 periods.

The provision for income taxes increased to $32.4 million in the 2007 period from $16.9 million in the 2006 period. Effective January 1, 2007, the Company elected to change its tax status to an “S” Corporation from a “C” Corporation, which required the Company to reduce its deferred tax assets by $31.9 million. See Note 7 of “Notes to Consolidated Financial Statements” for further discussion.

As a result of the factors outlined above, net loss for the 2007 period was $26.6 million compared to net income of $26.2 million in the 2006 period.

Financial Condition and Liquidity

The Company provides for its ongoing cash requirements principally from internally generated funds from the sales of real estate, outside borrowings and by forming new joint ventures with venture partners that provide a substantial portion of the capital required for certain projects. The Company currently has outstanding 7 ⁵/8% Senior Notes due 2012, 10 ³/4% Senior Notes due 2013 and 7 ¹/2% Senior Notes due 2014 and maintains secured revolving credit facilities (“Revolving Credit Facilities”). The Company has financed, and may in the future finance, certain projects and land acquisitions with construction loans secured by real estate inventories, seller provided financing and land banking transactions. The Company believes that its current borrowing capacity and increases reasonably available to it, cash on hand and anticipated net cash flows from operations are and will be sufficient to meet its current and reasonably anticipated liquidity needs on both a near-term and long-term basis (and in any event for the next twelve months) for funds to build homes, run its day-to-day operations, acquire land and capital assets and fund its mortgage operations. There is no assurance, however, that future cash flows will be sufficient to meet the Company’s future capital needs. The amount and types of indebtedness that the Company may incur may be limited by the terms of the indentures and credit or other agreements governing the Company’s senior note obligations, revolving credit facilities and other indebtedness.

The ability of the Company to meet its obligations on its indebtedness will depend to a large degree on its future performance which in turn will be subject, in part, to factors beyond its control, such as prevailing economic conditions either nationally or in regions in which the Company operates, the outbreak of war or other hostilities involving the United States, mortgage and other interest rates, changes in prices of homebuilding materials, weather, the occurrence of events such as landslides, soil subsidence and earthquakes that are uninsurable, not economically insurable or not subject to effective indemnification agreements, availability of labor and homebuilding materials, changes in governmental laws and regulations, the timing of receipt of regulatory approvals and the opening of projects, and the availability and cost of land for future development. The Company cannot be certain that its cash flow will be sufficient to allow it to pay principal and interest on its debt, support its operations and meet its other obligations. If the Company is not able to meet those obligations, it may be required to refinance all or part of its existing debt, sell assets or borrow more money. The Company may not be able to do so on terms acceptable to it, if at all. In addition, the terms of existing or future indentures and credit or other agreements governing the Company’s senior note obligations, revolving credit facilities and other indebtedness may restrict the Company from pursuing any of these alternatives.

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7 ⁵/8% Senior Notes

On November 22, 2004, the Company’s 100% owned subsidiary, William Lyon Homes, Inc., a California corporation, (“California Lyon”) closed its offering of $150.0 million principal amount of 7 ⁵/8% Senior Notes due 2012 (the “7 ⁵/8% Senior Notes”). The notes were sold pursuant to Rule 144A. The notes were issued at par resulting in net proceeds to the Company of approximately $148.5 million. California Lyon agreed to file a registration statement with the Securities and Exchange Commission relating to an offer to exchange the notes for publicly tradeable notes having substantially identical terms. On January 12, 2005, the Securities and Exchange Commission declared the registration statement effective and California Lyon commenced an offer to exchange any and all of its outstanding $150.0 million aggregate principal amount of 7 ⁵/8% Senior Notes due 2012, which are not registered under the Securities Act of 1933, for a like amount of its new 7 ⁵/8% Senior Notes due 2012, which are registered under the Securities Act of 1933, upon the terms and subject to the conditions set forth in the prospectus dated January 12, 2005. The exchange offer was completed for $146.5 million principal amount of the 7 ⁵/8% Senior Notes on February 18, 2005. The remaining $3.5 million principal amount of the old notes remains outstanding. The terms of the new notes are identical in all material respects to those of the old notes, except for certain transfer restrictions, registration rights and liquidated damages provisions relating to the old notes. Interest on the 7 ⁵/8% Senior Notes is payable semi-annually on December 15 and June 15 of each year. Based on the current outstanding principal amount of the 7 ⁵/8% Senior Notes, the Company’s semi-annual interest payments are $5.7 million.

Except as set forth in the Indenture governing the 7 ⁵/8% Senior Notes, the 7 ⁵/8% Senior Notes are not redeemable prior to December 15, 2008. Thereafter, the 7 ⁵/8% Senior Notes will be redeemable at the option of California Lyon, in whole or in part, at a redemption price equal to 100% of the principal amount plus a premium declining ratably to par, plus accrued and unpaid interest, if any. In addition, on or before December 15, 2007, California Lyon may redeem up to 35% of the aggregate principal amount of the notes with the proceeds of qualified equity offerings at a redemption price equal to 107.625% of the principal amount, plus accrued and unpaid interest, if any.

10 ³/4% Senior Notes

California Lyon filed a Registration Statement on Form S-3 with the Securities and Exchange Commission for the sale of $250.0 million of Senior Notes due 2013 (the “10 ³/4% Senior Notes”) which became effective on March 12, 2003. The offering closed on March 17, 2003 and was fully subscribed and issued. The notes were issued at a price of 98.493% to the public, resulting in net proceeds to the Company of approximately $246.2 million. The purchase price reflected a discount to yield 11% under the effective interest method and the notes have been reflected net of the unamortized discount in the accompanying consolidated balance sheet. Interest on the 10 ³/4% Senior Notes is payable on April 1 and October 1 of each year. Based on the current outstanding principal amount of the 10 ³/4% Senior Notes, the Company’s semi-annual interest payments are $13.4 million.

Except as set forth in the Indenture governing the 10 ³/4% Senior Notes, the 10 ³/4% Senior Notes are not redeemable prior to April 1, 2008. Thereafter, the 10 ³/4% Senior Notes will be redeemable at the option of California Lyon, in whole or in part, at a redemption price equal to 100% of the principal amount plus a premium declining ratably to par, plus accrued and unpaid interest, if any. In addition, on or before April 1, 2006, California Lyon may redeem up to 35% of the aggregate principal amount of the notes with the proceeds of qualified equity offerings at a redemption price equal to 110.75% of the principal amount, plus accrued and unpaid interest, if any.

7 ¹/2% Senior Notes

On February 6, 2004, California Lyon closed its offering of $150.0 million principal amount of 7 ¹/2% Senior Notes due 2014 (the “7 ¹/2% Senior Notes”). The notes were sold pursuant to Rule 144A and outside the United States to non-U.S. persons in reliance on Regulation S. The notes were issued at par, resulting in net proceeds to the Company of approximately $147.6 million. California Lyon agreed to file a registration statement with the Securities and Exchange Commission relating to an offer to exchange the notes for publicly tradeable notes having substantially identical terms. On July 16, 2004, the Securities and Exchange Commission declared

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the registration statement effective and California Lyon commenced an offer to exchange any and all of its outstanding $150.0 million aggregate principal amount of 7 ¹/2% Senior Notes due 2014, which are not registered under the Securities Act of 1933, for a like amount of its new 7 ¹/2% Senior Notes due 2014, which are registered under the Securities act of 1933, upon the terms and subject to the conditions set forth in the prospectus dated July 16, 2004. The exchange offer was completed for the full principal amount of the 7 ¹/2% Senior Notes on August 17, 2004. The terms of the new notes are identical in all material respects to those of the old notes, except for certain transfer restrictions, registration rights and liquidated damages provisions relating to the old notes. Interest on the 7 ¹/2% Senior Notes is payable on February 15 and August 15 of each year. Based on the current outstanding principal amount of 7 ¹/2% Senior Notes, the Company’s semi-annual interest payments are $5.6 million.

Except as set forth in the Indenture governing the 7 ¹/2% Senior Notes, the 7 ¹/2% Senior Notes are not redeemable prior to February 15, 2009. Thereafter, the 7 ¹/2% Senior Notes will be redeemable at the option of California Lyon, in whole or in part, at a redemption price equal to 100% of the principal amount plus a premium declining ratably to par, plus accrued and unpaid interest, if any. In addition, on or before February 15, 2007, California Lyon may redeem up to 35% of the aggregate principal amount of the notes with the proceeds of qualified equity offerings at a redemption price equal to 107.50% of the principal amount, plus accrued and unpaid interest, if any.

*  *  *  *  *

The 7 ⁵/8% Senior Notes, the 10 ³/4% Senior Notes and the 7 ¹/2% Senior Notes (collectively, the “Senior Notes”) are senior unsecured obligations of California Lyon and are unconditionally guaranteed on a senior unsecured basis by William Lyon Homes, a Delaware corporation (“Delaware Lyon”), which is the parent company of California Lyon, and all of Delaware Lyon’s existing and certain of its future restricted subsidiaries. The Senior Notes and the guarantees rank senior to all of the Company’s and the guarantors’ debt that is expressly subordinated to the Senior Notes and the guarantees, but are effectively subordinated to all of the Company’s and the guarantors’ senior secured indebtedness to the extent of the value of the assets securing that indebtedness.

Upon a change of control as described in the respective Indentures governing the Senior Notes (the “Senior Notes Indentures”), California Lyon will be required to offer to purchase the Senior Notes at a purchase price equal to 101% of the principal amount, plus accrued and unpaid interest, if any.

If the Company’s consolidated tangible net worth falls below $75.0 million for any two consecutive fiscal quarters, California Lyon will be required to make an offer to purchase up to 10% of each class of Senior Notes originally issued at a purchase price equal to 100% of the principal amount, plus accrued and unpaid interest, if any.

California Lyon is 100% owned by Delaware Lyon. Each subsidiary guarantor is 100% owned by California Lyon or Delaware Lyon. All guarantees of the Senior Notes are full and unconditional and all guarantees are joint and several. There are no significant restrictions on the ability of Delaware Lyon or any guarantor to obtain funds from subsidiaries by dividend or loan.

The Senior Notes Indentures contain covenants that limit the ability of Delaware Lyon and its restricted subsidiaries to, among other things: (i) incur additional indebtedness; (ii) pay dividends or make other distributions or repurchase its stock; (iii) make investments; (iv) sell assets; (v) incur liens; (vi) enter into agreements restricting the ability of Delaware Lyon’s restricted subsidiaries (other than California Lyon) to pay dividends; (vii) enter into transactions with affiliates; and (viii) consolidate, merge or sell all or substantially all of Delaware Lyon’s and California Lyon’s assets. These covenants are subject to a number of important exceptions and qualifications as described in the Senior Notes Indentures.

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The foregoing summary is not a complete description of the Senior Notes and is qualified in its entirety by reference to the Senior Notes Indentures.

The net proceeds of the offerings were used to repay amounts outstanding under revolving credit facilities and other indebtedness. The remaining proceeds were used to pay fees and commissions related to the offering and for other general corporate purposes.

At March 31, 2007, the Company had approximately $243.9 million of secured indebtedness, (excluding approximately $76.4 million of secured indebtedness of consolidated entities) and approximately $193.2 million of additional secured indebtedness available to be borrowed under the Company’s credit facilities, as limited by the Company’s borrowing base formulas.

Revolving Credit Facilities

As of March 31, 2007, the Company has seven revolving credit facilities which have an aggregate maximum loan commitment of $560.0 million, (including one facility of $150.0 million, one of $100.0 million, one of $90.0 million, one of $70.0 million and three of $50.0 million each), and mature at various dates through 2008. The revolving credit facilities have similar characteristics. The Company may borrow amounts, subject to applicable borrowing base and concentration limitations, as defined. During the last year of the term of each facility, the commitment amount will decrease ratably until the commitment under each facility is reduced to zero by the final maturity date, as defined in each respective agreement.

Availability under each credit facility is subject not only to the maximum amount committed under the respective facility, but also to both various borrowing base and concentration limitations. The borrowing base limits lender advances to certain agreed percentages of asset value. The allowed percentage generally increases as the asset progresses from land under development to residence subject to contract of sale. Advances for each type of collateral become due in whole or in part, subject to possible re-borrowing, and/or the collateral becomes excluded from the borrowing base, after a specified period or earlier upon sale. Concentration limitations further restrict availability under the credit facilities. The effect of these borrowing base and concentration limitations essentially is to mandate minimum levels of the Company’s investment in a project, with higher percentages of investment required at earlier phases of a project, and with greater absolute dollar amounts of investment required as a project progresses. Each revolving credit facility is secured by deeds of trust on the real property and improvements thereon owned by the Company in the subdivision project(s) approved by the respective lender, as well as pledges of all net sale proceeds, related contracts and other ancillary property. Also, each credit facility includes financial covenants, which may limit the amount that may be borrowed thereunder. Outstanding advances bear interest at various rates, which approximate the prime rate. As of March 31, 2007, $189.5 million was outstanding under these credit facilities, with a weighted-average interest rate of 7.871%, and the undrawn availability was $193.2 million as limited by the borrowing base formulas. Interest on the revolving credit facilities is calculated on the average, outstanding daily balance and is paid following the end of each month. During the three months ended March 31, 2007, the Company borrowed $222.4 million and repaid $178.8 million under these facilities. The maximum amount outstanding was $189.5 million and the weighted average borrowings were $144.6 million during the three months ended March 31, 2007. Interest incurred on the revolving credit facilities for the three months ended March 31, 2007 was $2.8 million. The Company routinely makes borrowings under its revolving credit facilities in the ordinary course of business within the maximum aggregate loan commitment amounts to fund its operations, including its land acquisition and home building activities, and repays such borrowings, as required by the credit facilities, with the net sales proceeds of sales of the real property, including homes, which secure the applicable credit facility.

Under the revolving credit facilities, the Company is required to comply with a number of covenants, the most restrictive of which require Delaware Lyon to maintain:

• A tangible net worth, as defined, of $200.0 million, adjusted upwards quarterly by 50% of Delaware Lyon’s quarterly net income after June 30, 2004;

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• A ratio of total liabilities to tangible net worth, each as defined, of less than 3.25 to 1; and

• Minimum liquidity, as defined, of at least $10.0 million.

As of and for the period ending March 31, 2007, the Company is in compliance with these covenants.

Construction Notes Payable

At March 31, 2007, the Company had construction notes payable on certain consolidated entities amounting to $76.4 million. The construction notes have various maturity dates and bear interest at rates ranging from 3% to prime plus 0.25% at March 31, 2007. Interest is calculated on the average daily balance and is paid following the end of each month.

Seller Financing

At March 31, 2007, the Company had $21.7 million of notes payable outstanding related to land acquisitions for which seller financing was provided. The seller financing notes are due at various dates through 2008 and bear interest of 12.0% at March 31, 2007. Interest is calculated on the average principal balance outstanding and is accrued and paid when the financing is repaid.

Revolving Mortgage Warehouse Credit Facilities

The Company, through its mortgage subsidiary and one of its unconsolidated joint ventures, has entered into two revolving mortgage warehouse credit facilities with banks to fund its mortgage origination operations. The original credit facility, which matures in May 2008, provides for revolving loans of up to $30.0 million outstanding, $20.0 million of which is committed (lender obligated to lend if stated conditions are satisfied) and $10.0 million is not committed (lender advances are optional even if stated conditions are otherwise satisfied). However, as in the past the Company expects the maturity to be extended by the lender at each maturity date for an additional year. The Company’s mortgage subsidiary and one of its unconsolidated joint ventures entered into an additional $45.0 million credit facility which matures in November 2007. The Company expects the maturity to be extended by the lender at each maturity date for an additional year. Mortgage loans are generally held for a short period of time and are typically sold to investors within 7 to 15 days following funding. The facilities are secured by substantially all of the assets of each of the borrowers, including the mortgage loans held for sale, all rights of each of the borrowers with respect to contractual obligations of third party investors to purchase such mortgage loans, and all proceeds of sale of such mortgage loans. The facilities, which have LIBOR based pricing, also contain certain financial covenants requiring the borrowers to maintain minimum tangible net worth, leverage, profitability and liquidity. These facilities are non-recourse and are not guaranteed by the Company. At March 31, 2007 the outstanding balance under these facilities was $32.7 million.

Land Banking Arrangements

The Company enters into purchase agreements with various land sellers. In some instances, and as a method of acquiring land in staged takedowns, thereby minimizing the use of funds from the Company’s revolving credit facilities and other corporate financing sources and limiting the Company’s risk, the Company transfers its right in such purchase agreements to entities owned by third parties (land banking arrangements). These entities use equity contributions and/or incur debt to finance the acquisition and development of the lots. The entities grant the Company an option to acquire lots in staged takedowns. In consideration for this option, the Company makes a non-refundable deposit of 15% to 25% of the total purchase price. Additionally, the Company may be subject to other penalties if lots are not acquired. The Company is under no obligation to purchase the balance of the lots, but would forfeit remaining deposits and be subject to penalties if the lots were not purchased. The Company does not have legal title to these entities or their assets and has not guaranteed their liabilities. These land banking arrangements help the Company manage the financial and market risk associated with land holdings.

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The use of these land banking arrangements is dependent on, among other things, the availability of capital to the option provider, general housing market conditions and geographic preferences. As described in Note 2 of “Notes to Consolidated Financial Statements”, Interpretation No. 46, requires the consolidation of the assets, liabilities and operations of four of the Company’s land banking arrangements including, as of March 31, 2007, real estate inventories of $55.3 million. The Company participates in one land banking arrangement, which is not a VIE in accordance with Interpretation No. 46, and is not consolidated as of March 31, 2007 and December 31, 2006. The deposits related to the unconsolidating land banking arrangement have been recorded in the accompanying consolidated balance sheet.

In addition, the Company participates in another land banking arrangement, which is not a VIE in accordance with Interpretation No. 46, but is consolidated in accordance with SFAS No. 49, Accounting for Product Financing Arrangements, (“FAS 49”). Under the provisions of FAS 49, the Company has determined it is economically compelled, based on certain factors, to purchase the land in the land banking arrangement, and therefore, must record the remaining purchase price of the land of $131.6 million, which is included in real estate inventories not owned and liabilities from inventories not owned in the accompanying balance sheet.

Summary information with respect to the Company’s consolidated and unconsolidated land banking arrangements is as follows as of March 31, 2007 (dollars in thousands):

	Consolidated		Unconsolidated
Total number of land banking projects		5		1
Total number of lots		1,074		323
Total purchase price	$	272,164	$	64,000
Balance of lots still under option and not purchased:
Number of lots		956		323
Purchase price	$	233,966	$	64,000
Forfeited deposits if lots were not purchased	$	49,585	$	5,428

Joint Venture Financing

The Company and certain of its subsidiaries are general partners or members in joint ventures involved in the development and sale of residential projects. As described more fully in Note 2 of “Notes to Consolidated Financial Statements”, in accordance with Interpretation No. 46 certain joint ventures have been determined to be variable interest entities in which the Company is considered the primary beneficiary. Accordingly, the assets, liabilities and operations of these joint ventures have been consolidated with the Company’s financial statements. The financial statements of joint ventures in which the Company is not considered the primary beneficiary are not consolidated with the Company’s financial statements. The Company’s investments in unconsolidated joint ventures are accounted for using the equity method because the Company has a 50% or less voting or economic interest (and thus such joint ventures are not controlled by the Company). Income allocations and cash distributions to the Company from the unconsolidated joint ventures are based on predetermined formulas between the Company and its joint venture partners as specified in the applicable partnership or operating agreements. The Company generally receives, after partners’ priority returns and returns of partners’ capital, approximately 50% of the profits and cash flows from joint ventures. See Note 2 of “Notes to Consolidated Financial Statements” for condensed combined financial information for the joint ventures whose financial statements have been consolidated with the Company’s financial statements. See Note 4 of “Notes to Consolidated Financial Statements” for condensed combined financial information for the unconsolidated joint ventures. Based upon current estimates, substantially all future development and construction costs incurred by the joint ventures will be funded by the venture partners or from the proceeds of construction financing obtained by the joint ventures.

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As of March 31, 2007, the Company’s investment in and advances to unconsolidated joint ventures was $4.9 million and the venture partners’ investment in such joint ventures was $1.2 million. As of March 31, 2007, these joint ventures had obtained financing from construction lenders which amounted to $38.5 million of outstanding indebtedness.

Assessment District Bonds

In some jurisdictions in which the Company develops and constructs property, assessment district bonds are issued by municipalities to finance major infrastructure improvements and fees. Such financing has been an important part of financing master-planned communities due to the long-term nature of the financing, favorable interest rates when compared to the Company’s other sources of funds and the fact that the bonds are sold, administered and collected by the relevant government entity. As a landowner benefited by the improvements, the Company is responsible for the assessments on its land. When the Company’s homes or other properties are sold, the assessments are either prepaid or the buyers assume the responsibility for the related assessments.

Cash Flows — Comparison of Three Months Ended March 31, 2007 to Three Months Ended March 31, 2006

Net cash used in operating activities decreased to $9.8 million in the 2007 period from $77.8 million in the 2006 period. The change was primarily as a result of (i) decreased expenditures in real estate inventories to $62.5 million in the 2007 period from $139.2 million in the 2006 period, (ii) a decrease in net changes in accrued expenses to a decrease of $44.8 million in the 2007 period from a decrease of $77.1 million in the 2006 period, (iii) a decrease in net changes in receivables to an increase of $76.3 million in the 2007 period from an increase of $110.4 million in the 2006 period, (iv) an increase in provision for income taxes to $32.4 million in the 2007 period from $16.9 million in the 2006 period and (v) a decrease in net (loss) income to net loss of $26.6 million in the 2007 period from net income of $26.2 million in the 2006 period.

The decrease in real estate inventories is primarily attributable to a decrease in land acquisitions and construction costs during the 2007 period. The decrease in net changes in accrued expenses is primarily attributable to (i) a net decrease in accrued bonus expense of $31.1 million during the 2007 period from a balance of $39.4 million as of December 31, 2006 compared to $8.3 million as of March 31, 2007 and (ii) a net decrease in income taxes payable of $6.3 million during the 2007 period from a balance of $4.1 million as of December 31, 2006 compared to $(2.2) million as of March 31, 2007. Comparatively, during the 2006 period, the net decrease in income taxes payable was $21.0 million in the 2006 period, from a balance of $35.5 million as of December 31, 2005 compared to a balance of $14.5 million as of March 31, 2006 and a net decrease in accrued bonus expense of $48.4 million from a balance of $71.8 million as of December 31, 2005 compared to a balance of $23.4 million as of March 31, 2006. The changes identified above during the first three months of the periods ending March 31, 2007 and 2006 are recurring in nature and are attributable to the timing of bonus payments and estimated income tax payments made each year, offset by normal accruals for the period. The decrease in net changes in receivables is attributable to a decrease in escrow proceeds receivable of $41.8 million during the 2007 period, from a balance of $47.3 million as of December 31, 2006 to a balance of $5.5 million as of March 31, 2007 compared to a net decrease of $80.8 million during the 2006 period, from a balance of $84.3 million as of December 31, 2005 to a balance of $3.5 million as of March 31, 2006. The large balance as of December 31, 2006 and 2005 was temporary in nature and primarily due to a significant number of homes closed in the last five days of the year of 192 in 2006 from 254 in 2005 where the homes had closed escrow but the Company had not yet received the funds from the escrow and title companies. The entire balance of escrow proceeds receivable at December 31, 2006 and 2005 was collected within the first few days of the following period. The remaining decrease in the change in receivables is primarily attributable to a net decrease in first trust deed mortgage notes receivables of $26.3 million during the 2007 period to $33.5 million as of March 31, 2007 from $59.7 million as of December 31, 2006 compared to a net decrease of $29.6 million during the 2006 period to $18.2 million as of March 31, 2006 from $47.8 million as of December 31, 2005. This decrease was also attributable to the significant number of homes closed in the last week of the year in 2006 and 2005 as described

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above. Substantially all of the balance of first trust deed mortgage notes receivables was collected in the first few days of January 2007 and 2006 when the loans were sold to third party investors.

The successful issuance of the 10 ³/4% Senior Notes in 2003 and the 7 ¹/2% Senior Notes and 7 ⁵/8% Senior Notes in 2004, offset by the repayment of the 12 ¹/2% Senior Notes, provided the Company with increased financial resources. The risks inherent in purchasing and developing land increase as consumer demand for housing decreases. Thus, the Company may have bought and developed land on which it cannot profitably build and sell homes. The market value of land, building lots and housing inventories can fluctuate significantly as a result of changing market conditions. In addition, inventory carrying costs can be significant and can result in losses in a poorly performing project or market. In the event of significant changes in economic or market conditions, the Company may have to sell homes at significantly lower margins or at a loss.

Net cash used in investing activities increased to $2.6 million in the 2007 period from $0.7 million in the 2006 period. The change was primarily as a result of an increase in net cash paid to investments in and advances to unconsolidated joint ventures to $2.0 million in the 2007 period from $0.1 million in the 2006 period.

Net cash provided by financing activities decreased to $5.1 million in the 2007 period from $51.1 million in the 2006 period, primarily as a result of minority interest distributions of $11.1 million in the 2007 period compared to $23.3 million in the 2006 period and a decrease in net borrowings on notes payable to $16.2 million in the 2007 period from $74.3 million in the 2006 period.

Off-Balance Sheet Arrangements

The Company enters into certain off-balance sheet arrangements including joint venture financing, option arrangements, land banking arrangements and variable interests in consolidated and unconsolidated entities. These arrangements are more fully described above and in Notes 2, 4 and 9 to Consolidated Financial Statements. In addition, the Company is party to certain contractual obligations, including land purchases and project commitments, which are detailed in the Company’s Annual Report on Form 10-K for the year ended December 31, 2006.

42

Description of Projects

The Company’s homebuilding projects usually take two to five years to develop. The following tables presents project information to each of the Company’s homebuilding divisions.

Project (County) Product	Year of First Delivery	Estimated Number of Homes at Completion(1)	Cumulative Units Closed as of March 31, 2007	Backlog at March 31, 2007(2)(3)	Lots Owned as of March 31, 2007	Homes Closed for the Quarter Ended March 31, 2007	Sales Price Range(5)
SOUTHERN CALIFORNIA COASTAL REGION
ORANGE COUNTY DIVISION
Wholly-Owned:
Irvine:
Garland Park, Irvine	2005	166	166	0	0	2	$579,000—717,000
San Carlos	2007	152	10	6	10	10	$390,000—545,000
Columbus Grove:
Lantana	2006	102	40	25	62	1	$820,000—895,000
Kensington	2006	63	33	8	30	3	$690,000—850,000
Tustin:
Columbus Grove/Columbus Square:
Clarendon	2007	102	8	64	94	8	$270,000—655,000
Astoria	2007	102	5	9	93	5	$850,000—940,000
Mirabella	2008	60	0	0	60	0	$660,000—820,000
Cambridge Lane	2007	156	0	43	156	0	$500,000—560,000
Ainsley Park	2008	84	0	0	84	0	$625,000—725,000
Ciara	2007	67	7	18	60	7	$1,230,000—1,350,000
Verandas	2007	97	0	20	97	0	$678,000—760,000
Ladera Ranch:
Amarante II	2006	18	18	0	0	3	$1,056,000—1,140,000
Bellataire	2005	52	52	0	0	4	$1,220,000—1,260,000
Bellataire II	2006	23	23	0	0	1	$1,195,000—1,230,000
San Clemente:
Alora	2008	49	0	0	49	0	$1,125,000—1,275,000
San Juan Capistrano:
Floralisa	2005	80	55	11	25	1	$1,250,000—1,295,000
Estrella Rosa	2006	40	22	14	18	0	$1,675,000—1,725,000
TOTAL ORANGE COUNTY		1,413	439	218	838	45
LOS ANGELES DIVISION
Wholly-Owned:
Moorpark:
Meridian Hills:
Ashford	2006	113	9	9	104	5	$830,000—940,000
Marquis	2007	135	6	13	129	6	$880,000—1,025,000
Brighton (Affordable)	2008	17	0	0	17	0	$105,000—272,000
Los Angeles:
Arboreta at Rainbird	2008	140	0	0	140	0	$440,000—750,000
TOTAL LOS ANGELES		405	15	22	390	11
URBAN DEVELOPMENT DIVISION
Wholly-Owned:
Hawthorne:
360 South Bay(6):
The Flats	2008	188	0	0	188	0	$512,000—650,000
The Lotfs	2008	123	0	0	123	0	$560,000—800,000
The Rows	2008	94	0	0	94	0	$760,000—890,000
The Courts	2008	118	0	0	118	0	$625,000—805,000
The Gardens	2008	102	0	0	102	0	$760,000—1,040,000
TOTAL URBAN DEVELOPMENT . . . .		625	0	0	625	0

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Project (County) Product	Year of First Delivery	Estimated Number of Homes at Completion(1)	Cumulative Units Closed as of March 31, 2007	Backlog at March 31, 2007(2)(3)	Lots Owned as of March 31, 2007	Homes Closed for the Year Ended March 31, 2007	Sales Price Range(5)
SAN DIEGO DIVISION
Wholly-Owned:
San Diego:
Promenade North	2006	168	7	6	161	1	$385,000—505,000
Alcala Del Sur	2005	83	39	17	44	8	$660,000—705,000
Maybeck	2006	120	6	22	114	1	$710,000—790,000
Sunset Cove	2007	77	0	1	77	0	$591,000—611,000
Levanto	2008	100	0	0	100	0	$405,000—490,000
Santee:
Altair	2008	85	0	0	85	0	$420,000—480,000
Total Wholly-Owned:		633	52	46	581	10
Joint Ventures:
San Diego:
Ravenna	2005	199	163	29	36	15	$453,000—513,000
Amante	2005	127	110	15	17	4	$511,000—577,000
Treviso	2005	186	104	18	82	2	$366,000—506,000
Chula Vista:
Belleza at San Miguel Village	2005	195	186	9	9	0	$360,000—420,000
Total Joint Ventures:		707	563	71	144	21
TOTAL SAN DIEGO		1,340	615	117	725	31
SOUTHERN CALIFORNIA COASTAL REGION COMBINED TOTAL
Wholly-Owned		3,076	506	286	2,434	66
Joint Ventures		707	563	71	144	21
		3,783	1,069	357	2,578	87
NORTHERN CALIFORNIA COASTAL REGION
BAY AREA/CENTRAL VALLEY DIVISION
Wholly-Owned:
Contra Costa County:
Seagate at Bayside, Hercules	2005	96	83	10	13	3	$615,000—727,000
Rivergate I & II, Antioch	2006	167	106	5	61	2	$498,000—608,000
Vista Del Mar, Pittsburgh
Vineyard(6)	2007	155	0	0	155	0	$686,000—741,000
Victory(6)	2007	129	0	0	129	0	$706,000—806,000
Estate Custom Lots	2008	9	0	0	9	0	$144,000—400,000
San Joaquin County:
Seasons, Stockton	2005	145	143	2	2	5	$473,000—533,000
Stanislaus County:
Falling Leaf, Modesto
Trails	2006	100	7	2	93	2	$355,000—430,000
Groves	2006	131	13	8	118	4	$330,000—390,000
Meadows	2006	83	8	1	75	1	$461,000—526,000
Total Wholly-Owned		1,015	360	28	655	17
Joint Ventures:
Contra Costa County:
Vista Del Mar, Pittsburgh
Villages	2007	102	4	16	98	4	$303,000—497,000
Venue	2007	132	8	11	124	8	$363,000—629,000
Monterey County:
East Garrison	2008	604	0	0	604	0
Total Joint Ventures:		838	12	27	826	12
TOTAL BAY AREA/CENTRAL VALLEY		1,853	372	55	1,481	29

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Project (County) Product	Year of First Delivery	Estimated Number of Homes at Completion(1)	Cumulative Units Closed as of March 31, 2007	Backlog at March 31, 2007(2)(3)	Lots Owned as of March 31, 2007	Homes Closed for the Year Ended March 31, 2007	Sales Price Range(5)
SACRAMENTO DIVISION
Wholly-Owned:
San Joaquin County:
Ironwood III, Lathrop	2005	109	109	0	0	2	$487,000—544,000
Placer County:
Shady Lane at Whitney Ranch, Rocklin	2006	96	27	4	69	6	$461,000—471,000
Twin Oaks at Whitney Ranch, Rocklin	2006	92	11	6	81	4	$636,000—668,000
Sacramento County:
Verona at Anatolia, Rancho Cordova	2005	79	46	4	33	0	$440,000—465,000
Marquee at Fair Oaks(6)	2007	190	0	0	190	0	$386,000—478,000
Total Wholly-Owned:		566	193	14	373	12
Joint Ventures:
Sacramento County:
Big Horn, Elk Grove
Plaza Walk	2005	106	56	2	50	3	$324,000—385,000
Gallery Walk	2005	149	73	4	76	2	$230,000—319,000
Total Joint Ventures:		255	129	6	126	5
TOTAL SACRAMENTO		821	322	20	499	17
NORTHERN CALIFORNIA REGION COMBINED TOTAL
Wholly-Owned		1,581	553	42	1,028	29
Joint Ventures		1,093	141	33	952	17
		2,674	694	75	1,980	46
INLAND EMPIRE REGION
Wholly-Owned:
Riverside County:
Parkside/Vander Stelt, Corona	2007	122	31	22	91	13	$568,000—686,000
Kasbergen/Serafina, North Corona	2007	314	66	78	248	36	$323,000—413,000
Bridle Creek, Corona	2003	274	201	15	73	1	$693,000—870,000
Sequoia at Wolf Creek, Temecula	2005	125	108	10	17	11	$392,000—438,000
Savannah at Harveston Ranch, Temecula	2005	162	91	13	71	15	$334,000—386,000
San Bernardino County:
The Peaks at Citrus Heights, Fontana	2005	150	141	5	9	7	$597,000—680,000
Adelina, Fontana	2007	109	0	0	109	0	$350,000—426,000
Rosabella, Fontana	2008	114	0	0	114	0	$405,000—440,000
Amador, Rancho Cucamonga	2007	99	0	0	99	0	$375,000—447,000
Vintner’s Grove, Rancho Cucamonga
Solera SFD	2007	78	0	0	78	0	$535,000—625,000
Canela Triplex	2007	78	0	0	78	0	$405,000—475,000
Chapman Heights, Yucaipa
Braeburn	2005	113	72	4	41	7	$569,000—609,000
Crofton	2005	140	103	7	37	13	$443,000—473,000
Westland	2005	79	79	0	0	4	$498,000—521,000
Vista Bella	2009	108	0	0	108	0	$303,000—341,000
Redcort	2009	90	0	0	90	0	$337,000—362,000
INLAND EMPIRE REGION TOTAL		2,155	892	154	1,263	107
ARIZONA REGION
Wholly-Owned:
Maricopa County
Sonoran Foothills, Phoenix
Desert Crown	2004	124	124	0	0	1	$441,000—544,000
Desert Sierra	2004	212	212	0	0	1	$249,000—307,000
Copper Canyon Ranch, Surprise
Sunset Point	2004	282	269	12	13	9	$287,000—383,000
El Sendero Hills	2004	188	181	6	7	6	$377,000—470,000
Talavera, Phoenix	2006	134	72	34	62	26	$256,000—332,000
Coldwater Ranch	2008	368	0	0	368	0	$194,000—262,000

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Project (County) Product	Year of First Delivery	Estimated Number of Homes at Completion(1)	Cumulative Units Closed as of March 31, 2007	Backlog at March 31, 2007(2)(3)	Lots Owned as of March 31, 2007	Homes Closed for the Year Ended March 31, 2007	Sales Price Range(5)
Lehi Crossing, Mesa	2008	855	0	0	498	0
Rancho Mercado, Phoenix	2008	1,889	0	0	1,889	0	$206,000—294,000
Lyon’s Gate, Gilbert:
Pride	2006	650	145	73	505	41	$199,000—222,000
Savanna	2006	174	76	20	98	27	$209,000—295,000
Sahara	2006	169	70	20	99	27	$319,000—410,000
Acacia	2007	365	0	0	365	0	$221,000—301,000
Future Products	2007	213	0	0	213	0
Total Wholly-Owned:		5,623	1,149	165	4,117	138
Joint Ventures:
Maricopa County
Hastings Property, Queen Creek	2009	823	0	0	823	0	$159,000—484,000
Circle G at the Church Farm North, Queen Creek	2009	1,745	0	0	1,745	0	$156,000—484,000
Total Joint Ventures:		2,568	0	0	2,568	0
ARIZONA REGION TOTAL		8,191	1,149	165	6,685	138
NEVADA REGION
Wholly-Owned:
Clark County
Summerlin, Las Vegas
The Lyon Collection	2005	79	78	1	1	4	$624,000—659,000
Kingwood	2006	100	30	12	70	1	$415,000—501,000
North Las Vegas
The Cottages	2004	360	279	3	81	8	$232,000—262,000
La Tierra	2006	67	33	14	34	1	$315,000—345,000
Tierra Este	2007	126	0	0	126	0	$324,000—355,000
Carson Ranch, Las Vegas
West Series I	2005	71	67	0	4	0	$395,000—430,000
West Series II	2005	59	31	11	28	2	$456,000—511,000
East Series I	2007	103	34	6	69	4	$405,000—440,000
East Series II	2007	58	0	2	58	0	$456,000—511,000
West Park, Las Vegas
Villas	2006	191	22	16	169	5	$313,000—355,000
Courtyards	2006	113	18	10	95	4	$360,000—410,000
Mesa Canyon, Las Vegas	2008	49	0	0	49	0	$430,000—467,000
The Lyon Estates, Las Vegas	2008	129	0	0	129	0	$635,000—700,000
Mountain Falls, Pahrump:
Cascata	2005	147	137	0	10	2	$216,000—238,000
Tramonto	2005	212	137	9	75	1	$266,000—301,000
Tramonto Continuation	2010	91	0	0	91	0
Bella Sera	2005	129	74	5	55	5	$322,000—362,000
Ancora	2007	118	6	14	112	6	$206,000—228,000
NEVADA REGION TOTAL		2,202	946	103	1,256	43
GRAND TOTALS:
Wholly-Owned		14,637	4,046	750	10,098	383
Joint Ventures		4,368	704	104	3,664	38
		19,005	4,750	854	13,762	421

(1) The estimated number of homes to be built at completion is subject to change, and there can be no assurance that the Company will build these homes.

(2) Backlog consists of homes sold under sales contracts that have not yet closed, and there can be no assurance that closings of sold homes will occur.

(3) Of the total homes subject to pending sales contracts as of March 31, 2007, 761 represent homes completed or under construction and 93 represent homes not yet under construction.

(4) Lots owned as of March 31, 2007 include lots in backlog at March 31, 2007.

(5) Sales price range reflects base price only and excluded any lot premium, buyer incentive and buyer selected options, which vary from project to project.

(6) All or a portion of the lots in this project are not owned as of March 31, 2007. The Company consolidated the purchase price of the lots in accordance with certain related accounting pronouncements, and considers the lots owned at March 31, 2007.

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Income Taxes

Effective January 1, 2007, the Company made an election in accordance with federal and state regulations to be taxed as an “S” corporation rather than a “C” corporation. Under this election, the Company’s taxable income flows through to and is reported on the personal tax returns of its shareholders. The shareholders are responsible for paying the appropriate taxes based on this election. The Company does not pay any federal taxes under this election and is only required to pay certain state taxes based on a rate of approximately 1.5% of taxable income. As a result of this election, the Company’s provision for income taxes for the three months ended March 31, 2007 included a reduction of deferred tax assets of $31.9 million due to the elimination of any future tax benefit by the Company from such assets. In addition, unused recognized built in losses in the amount of $19.4 million are no longer available to the Company.

Effective January 1, 2007, the company adopted the provisions of FASB Interpretation No. 48, “Accounting for Uncertainty in Income Taxes—an interpretation of FASB Statement No. 109” (“FIN 48”). FIN 48 prescribes a recognition threshold and a measurement attribute for the financial statement recognition and measurement of tax positions taken or expected to be taken in a tax return. For those benefits to be recognized, a tax position must be considered “more-likely-than-not” to be sustained upon examination by taxing authorities. The Company has taken positions in certain taxing jurisdictions for which it is more likely than not that previously unrecognized tax benefits will be recognized. In accordance with the provisions of FIN 48, effective January 1, 2007, the Company recorded an income tax refund receivable of $5.7 million and recognized the associated tax benefit as an increase in additional paid-in capital. In connection therewith, the Company recorded interest receivable of $1.1 million and recognized the associated tax benefit as an increase in retained earnings.

The Company and its subsidiaries file income tax returns in the U.S. federal jurisdiction and various state jurisdictions. The Company is subject to U.S. federal income tax examination for calendar tax years ending 2002 through 2006. The Company is subject to various state income tax examinations for calendar tax years ending 2001 through 2006.

The Company currently is under state income tax examination in the states of California and Arizona.

Inflation

The Company’s revenues and profitability may be affected by increased inflation rates and other general economic conditions. In periods of high inflation, demand for the Company’s homes may be reduced by increases in mortgage interest rates. Further, the Company’s profits will be affected by its ability to recover through higher sales prices increases in the costs of land, construction, labor and administrative expenses. The Company’s ability to raise prices at such times will depend upon demand and other competitive factors.

Related Party Transactions

See Note 6 of the Notes to Consolidated Financial Statements for a description of the Company’s transactions with related parties.

Critical Accounting Polices

The Company’s financial statements have been prepared in accordance with accounting principles generally accepted in the United States. The preparation of these financial statements requires management to make estimates and judgments that affect the reported amounts of assets and liabilities at the date of the financial statements and the reported amounts of revenues and costs and expenses during the reporting period. On an on-going basis, management evaluates its estimates and judgments, including those which impact its most critical accounting policies. Management bases its estimates and judgments on historical experience and on various other

47

factors that are believed to be reasonable under the circumstances. Actual results may differ from these estimates under different assumptions or conditions. As disclosed in the Company’s Annual Report on Form 10-K for the year ended December 31, 2006, the Company’s most critical accounting policies are real estate inventories and cost of sales; impairment of real estate inventories; sales and profit recognition; and variable interest entities. Since December 31, 2006, there have been no changes in the Company’s most critical accounting policies and no material changes in the assumptions and estimates used by management.

Recently Issued Accounting Standards

In September 2006, the FASB issued SFAS No. 157, Fair Value Measurements, (“FAS 157”). FAS 157 defines fair value, establishes a framework for measuring fair value in generally accepted accounting principles and expands disclosures about fair value measurements. FAS 157 is effective for financial statements issued for fiscal years beginning after November 15, 2007, and interim periods within those fiscal years. FAS 157 is not expected to materially affect how the Company determines fair value.

Forward-Looking Statements

Investors are cautioned that certain statements contained in this Quarterly Report on Form 10-Q, as well as some statements by the Company in periodic press releases and some oral statements by Company officials to securities analysts and stockholders during presentations about the Company are “forward-looking statements” within the meaning of the Private Securities Litigation Reform Act of 1995 (the “Act”). Statements which are predictive in nature, which depend upon or refer to future events or conditions, or which include words such as “expects”, “anticipates”, “intends”, “plans”, “believes”, “estimates”, “hopes”, and similar expressions constitute forward-looking statements. In addition, any statements concerning future financial performance (including future revenues, earnings or growth rates), ongoing business strategies or prospects, and possible future Company actions, which may be provided by management are also forward-looking statements as defined in the Act. Forward-looking statements are based upon expectations and projections about future events and are subject to assumptions, risks and uncertainties about, among other things, the Company, economic and market factors and the homebuilding industry.

Actual events and results may differ materially from those expressed or forecasted in the forward-looking statements due to a number of factors. The principal factors that could cause the Company’s actual performance and future events and actions to differ materially from such forward-looking statements include, but are not limited to, changes in general economic conditions either nationally or in regions in which the Company operates, terrorism or other hostilities involving the United States, whether an ownership change occurred which could, under certain circumstances, have resulted in the limitation of the Company’s ability to offset prior years’ taxable income with net operating losses, changes in home mortgage interest rates, changes in generally accepted accounting principles or interpretations of those principles, changes in prices of homebuilding materials, labor shortages, adverse weather conditions, the occurrence of events such as landslides, soil subsidence and earthquakes that are uninsurable, not economically insurable or not subject to effective indemnification agreements, changes in governmental laws and regulations, whether the Company is able to refinance the outstanding balances of its debt obligation at their maturity, the timing of receipt of regulatory approvals and the opening of projects and the availability and cost of land for future growth. While it is impossible to identify all such factors, additional factors which could cause actual results to differ materially from those estimated by the Company include, but are not limited to, those factors or conditions described under “Management’s Discussion and Analysis of Financial Condition and Results of Operations” and in the Company’s other filings with the Securities and Exchange Commission. The Company’s past performance or past or present economic conditions in the Company’s housing markets are not indicative of future performance or conditions. Investors are urged not to place undue reliance on forward-looking statements. In addition, the Company undertakes no obligation to update or revise forward-looking statements to reflect changed assumptions, the occurrence of anticipated or unanticipated events or changes to projections over time unless required by federal securities law.

48

Item 3.    Quantitative and Qualitative Disclosures About Market Risk

The Company’s Annual Report on Form 10-K for the year ended December 31, 2006, includes detailed disclosure about quantitative and qualitative disclosures about market risk. Quantitative and qualitative disclosures about market risk have not materially changed since December 31, 2006.

Item 4.    Controls and Procedures

Evaluation of Disclosure Controls and Procedures.    An evaluation was performed under the supervision and with the participation of the Company’s management, including its principal executive officer and principal financial officer, of the effectiveness of the Company’s disclosure controls and procedures (as defined in Rule 13a-15(e) and 15d-15(e) under the Securities Exchange Act of 1934, as amended). Based on that evaluation, the Company’s principal executive officer and principal financial officer concluded that the Company’s disclosure controls and procedures were effective as of the end of the period covered by this Quarterly Report. Although the Company’s disclosure controls and procedures have been designed to provide reasonable assurance of achieving their objectives, there can be no assurance that such disclosure controls and procedures will always achieve their stated goals under all circumstances.

Changes in Internal Control Over Financial Reporting.    There have been no significant changes in the Company’s internal control over financial reporting (as defined in Rule 13a-15(f) under the Securities Exchange Act of 1934, as amended) that occurred during the period covered by this Quarterly Report that has materially affected, or is reasonably likely to materially affect, the Company’s internal control over financial reporting.

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WILLIAM LYON HOMES

PART II.    OTHER INFORMATION

Item 1.    Legal Proceedings

Litigation Arising from General Lyon’s Tender Offer

As described above in Part I, Item 2 under the caption “Tender Offer”, on March 17, 2006, the Company’s principal stockholder commenced a tender offer (the “Tender Offer”) to purchase all outstanding shares of the Company’s common stock not already owned by him. Initially, the price offered in the Tender was $93 per share, but it has since been increased to $109 per share.

Two purported class action lawsuits were filed in the Court of Chancery of the State of Delaware in and for New Castle County, purportedly on behalf of the public stockholders of the Company, challenging the Tender Offer and challenging related actions of the Company and the directors of the Company. Stephen L. Brown v. William Lyon Homes, et al., Civil Action No. 2015-N was filed on March 20, 2006, and Michael Crady, et al. v. General William Lyon, et al., Civil Action No. 2017-N was filed on March 21, 2006 (collectively, the “Delaware Complaints”). On March 21, 2006, plaintiff in the Brown action also filed a First Amended Complaint. The Delaware Complaints name the Company and the directors of the Company as defendants. These complaints allege, among other things, that the defendants have breached their fiduciary duties owed to the plaintiffs in connection with the Tender Offer and other related corporate activities. The plaintiffs sought to enjoin the Tender Offer and, among other things, to obtain attorneys’ fees and expenses related to the litigation.

On March 23, 2006, the Company announced that its Board had appointed a special committee of independent directors who are not members of the Company’s management or employed by the Company (the “Special Committee”) to consider the Tender Offer. The members of the Special Committee are Harold H. Greene, Lawrence M. Higby, and Dr. Arthur Laffer. The Company also announced that the Special Committee had retained Morgan Stanley & Co. as its financial advisor and Gibson, Dunn & Crutcher LLP as its legal counsel.

On March 24, 2006, the Delaware Chancery Court consolidated the Delaware Complaints into a single case entitled In re: William Lyon Homes Shareholder Litigation, Civil Action No. 2015-N (the “Consolidated Delaware Action”).

On April 10, 2006, the parties to the Consolidated Delaware Action executed a Memorandum of Understanding (“MOU”), detailing a proposed settlement subject to the Delaware Chancery Court’s approval. Pursuant to the MOU, General Lyon increased his offer of $93 per share to $100 per share, extended the closing date of the offer to April 21, 2006, and, on April 11, 2006, filed an amended Schedule TO. Plaintiffs in the Consolidated Delaware Action have determined that the settlement is “fair, reasonable, adequate, and in the best interests of plaintiffs and the putative Class.” The Special Committee also determined that the price of $100 per share was fair to the shareholders, and recommended that the Company’s shareholders accept the revised Tender Offer and tender their shares. Thereafter, General Lyon also decided to further extend the closing date of the Tender Offer from April 21, 2006 to April 28, 2006.

On April 23, 2006, Delaware Chancery Court conditionally certified a class in the Consolidated Delaware Action. The parties to the Consolidated Delaware Action agreed to a Stipulation of Settlement, and on August 9, 2006, the Delaware Chancery Court certified a class in the Consolidated Delaware Action, approved the settlement, and dismissed the Consolidated Delaware Action with prejudice as to all defendants and the class. On February 16, 2007, the fee award to Plaintiffs’ counsel was appealed to the Supreme Court of the State of Delaware. Under the appealed award, the Company has no expected liability for Plaintiffs’ counsel fees, which are expected to be paid by General Lyon.

A purported class action lawsuit challenging the Tender Offer was also filed in the Superior Court of the State of California, County of Orange. On March 17, 2006, a complaint captioned Alaska Electrical Pension

50

Fund v. William Lyon Homes, Inc., et al., Case No. 06-CC-00047, was filed. On April 5, 2006, plaintiff in the Alaska Electrical action filed an Amended Complaint (the “California Action”). The complaint in the California Action names the Company and the directors of the Company as defendants and alleges, among other things, that the defendants have breached their fiduciary duties to the public stockholders. Plaintiff in the California Action also sought to enjoin the Tender Offer, and, among other things, to obtain attorneys’ fees and expenses related to the litigation.

On April 20, 2006, the California court denied the request of plaintiff in the California Action to enjoin the Tender Offer. Plaintiff filed a motion to certify a class in the California Action which was later taken off calendar, and the Company filed a motion to stay the California Action. On July 5, 2006, the California Court granted the Company’s motion to stay the California Action.

Item 1A.    Risk Factors

The Company’s Annual Report on Form 10-K for the year ended December 31, 2006, includes detailed disclosure about risk factors which should be carefully considered when evaluating any investment in the Company. Risk factors have not materially changed since December 31, 2006 except as described in the following paragraph.

Items 2, 3, 4 and 5.

Not applicable.

Item 6.    Exhibits

Exhibit No.	Description
10.1	First Amendment to the William Lyon Homes 2004 Executive Deferred Compensation Plan (Incorporated herein by reference to Exhibit 10.1 filed with the registrant’s Current Report on Form 8-K on January 31, 2007).
10.2	Loan Agreement dated as of January 30, 2007, by and between East Garrison Partners I, a California limited liability company, and Residential Funding Company, LLC, a Delaware limited liability company (Incorporated herein by reference to Exhibit 10.1 filed with the registrant’s Current Report on Form 8-K on February 8, 2007).
10.3	Completion Guaranty dated as of January 30, 2007, by and between California Lyon and other guarantors in favor of Residential Funding Company, LLC (Incorporated herein by reference to Exhibit 10.2 filed with the registrant’s Current Report on Form 8-K on February 8, 2007).
31.1	Certification of Chief Executive Officer Pursuant to Section 302 of The Sarbanes-Oxley Act of 2002
31.2	Certification of Chief Financial Officer Pursuant to Section 302 of The Sarbanes-Oxley Act of 2002
32.1	Certification of Chief Executive Officer Pursuant to 18 U.S.C. Section 1350, as Adopted Pursuant to Section 906 of The Sarbanes-Oxley Act of 2002
32.2	Certification of Chief Financial Officer Pursuant to 18 U.S.C. Section 1350, as Adopted Pursuant to Section 906 of The Sarbanes-Oxley Act of 2002

51

WILLIAM LYON HOMES

SIGNATURES

Pursuant to the requirements of the Securities and Exchange Act of 1934, the Registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized.

	WILLIAM LYON HOMES Registrant
Date:  May 10, 2007	By:	/s/    MICHAEL D. GRUBBS
		MICHAEL D. GRUBBS Senior Vice President, Chief Financial Officer and Treasurer (Principal Financial Officer)
Date:  May 10, 2007	By:	/s/    W. DOUGLASS HARRIS
		W. DOUGLASS HARRIS Senior Vice President, Corporate Controller and Corporate Secretary (Principal Accounting Officer)

52

EXHIBIT INDEX

Exhibit No.	Description
10.1	First Amendment to the William Lyon Homes 2004 Executive Deferred Compensation Plan (Incorporated herein by reference to Exhibit 10.1 filed with the registrant’s Current Report on Form 8-K on January 31, 2007).
10.2	Loan Agreement dated as of January 30, 2007, by and between East Garrison Partners I, a California limited liability company, and Residential Funding Company, LLC, a Delaware limited liability company (Incorporated herein by reference to Exhibit 10.1 filed with the registrant’s Current Report on Form 8-K on February 8, 2007).
10.3	Completion Guaranty dated as of January 30, 2007, by and between California Lyon and other guarantors in favor of Residential Funding Company, LLC (Incorporated herein by reference to Exhibit 10.2 filed with the registrant’s Current Report on Form 8-K on February 8, 2007).
31.1	Certification of Chief Executive Officer Pursuant to Section 302 of The Sarbanes-Oxley Act of 2002
31.2	Certification of Chief Financial Officer Pursuant to Section 302 of The Sarbanes-Oxley Act of 2002
32.1	Certification of Chief Executive Officer Pursuant to 18 U.S.C. Section 1350, as Adopted Pursuant to Section 906 of The Sarbanes-Oxley Act of 2002
32.2	Certification of Chief Financial Officer Pursuant to 18 U.S.C. Section 1350, as Adopted Pursuant to Section 906 of The Sarbanes-Oxley Act of 2002

53

EX-31.1

EXHIBIT 31.1

CERTIFICATION

I, William Lyon, certify that:

1. I have reviewed this quarterly report on Form 10-Q of William Lyon Homes;

2. Based on my knowledge, this report does not contain any untrue statement of a material fact or omit to state a material fact necessary to make the statements made, in light of the circumstances under which such statements were made, not misleading with respect to the period covered by this report;

3. Based on my knowledge, the financial statements, and other financial information included in this report, fairly present in all material respects the financial condition, results of operations and cash flows of the registrant as of, and for, the periods presented in this report;

4. The registrant’s other certifying officer(s) and I are responsible for establishing and maintaining disclosure controls and procedures (as defined in Exchange Act Rules 13a-15(e) and 15d-15(e)) and internal control over financial reporting (as defined in Exchange Act Rules 13a-15(f) and 15d-15(f)) for the registrant and have:

a) designed such disclosure controls and procedures, or caused such disclosure controls and procedures to be designed under our supervision, to ensure that material information relating to the registrant, including its consolidated subsidiaries, is made known to us by others within those entities, particularly during the period in which this report is being prepared;

b) designed such internal control over financial reporting, or caused such internal control over financial reporting to be designed under our supervision, to provide reasonable assurance regarding the reliability of financial reporting and the preparation of financial statements for external purposes in accordance with generally accepted accounting principles;

c) evaluated the effectiveness of the registrant’s disclosure controls and procedures, and presented in this report our conclusions about the effectiveness of the disclosure controls and procedures, as of the end of the period covered by this report based on such evaluation; and

d) disclosed in this report any change in the registrant’s internal control over financial reporting that occurred during the registrant’s most recent fiscal quarter (the registrant’s fourth fiscal quarter in the case of an annual report) that has materially affected, or is reasonably likely to materially affect, the registrant’s internal control over financial reporting; and

5. The registrant’s other certifying officer(s) and I have disclosed, based on our most recent evaluation of internal control over financial reporting, to the registrant’s auditors and the audit committee of registrant’s board of directors (or persons performing the equivalent functions):

a) all significant deficiencies and material weaknesses in the design or operating of internal control over financial reporting which are reasonably likely to adversely affect the registrant’s ability to record, process, summarize and report financial information; and

b) any fraud, whether or not material, that involves management or other employees who have a significant role in the registrant’s internal control over financial reporting.

Date: May 10, 2007

By:	/s/    WILLIAM LYON
	William Lyon Chairman and Chief Executive Officer

EX-31.2

EXHIBIT 31.2

CERTIFICATION

I, Michael D. Grubbs, certify that:

1. I have reviewed this quarterly report on Form 10-Q of William Lyon Homes;

2. Based on my knowledge, this report does not contain any untrue statement of a material fact or omit to state a material fact necessary to make the statements made, in light of the circumstances under which such statements were made, not misleading with respect to the period covered by this report;

3. Based on my knowledge, the financial statements, and other financial information included in this report, fairly present in all material respects the financial condition, results of operations and cash flows of the registrant as of, and for, the periods presented in this report;

4. The registrant’s other certifying officer(s) and I are responsible for establishing and maintaining disclosure controls and procedures (as defined in Exchange Act Rules 13a-15(e) and 15d-15(e)) and internal control over financial reporting (as defined in Exchange Act Rules 13a-15(f) and 15d-15(f)) for the registrant and have:

a) designed such disclosure controls and procedures, or caused such disclosure controls and procedures to be designed under our supervision, to ensure that material information relating to the registrant, including its consolidated subsidiaries, is made known to us by others within those entities, particularly during the period in which this report is being prepared;

b) designed such internal control over financial reporting, or caused such internal control over financial reporting to be designed under our supervision, to provide reasonable assurance regarding the reliability of financial reporting and the preparation of financial statements for external purposes in accordance with generally accepted accounting principles;

c) evaluated the effectiveness of the registrant’s disclosure controls and procedures, and presented in this report our conclusions about the effectiveness of the disclosure controls and procedures, as of the end of the period covered by this report based on such evaluation; and

d) disclosed in this report any change in the registrant’s internal control over financial reporting that occurred during the registrant’s most recent fiscal quarter (the registrant’s fourth fiscal quarter in the case of an annual report) that has materially affected, or is reasonably likely to materially affect, the registrant’s internal control over financial reporting; and

5. The registrant’s other certifying officer(s) and I have disclosed, based on our most recent evaluation of internal control over financial reporting, to the registrant’s auditors and the audit committee of registrant’s board of directors (or persons performing the equivalent function):

a) all significant deficiencies and material weaknesses in the design or operation of internal control over financial reporting which are reasonably likely to adversely affect the registrant’s ability to record, process, summarize and report financial information; and

b) any fraud, whether or not material, that involves management or other employees who have a significant role in the registrant’s internal controls over financial reporting.

Date: May 10, 2007

By:	/s/    MICHAEL D. GRUBBS
	Michael D. Grubbs Senior Vice President, Chief Financial Officer and Treasurer

EX-32.1

EXHIBIT 32.1

CERTIFICATION PURSUANT TO

18 U.S.C. SECTION 1350

AS ADOPTED PURSUANT TO

SECTION 906 OF THE SARBANES-OXLEY ACT OF 2002

In connection with the Quarterly Report of William Lyon Homes (the Company) on Form 10-Q for the period ending March 31, 2007 as filed with the Securities and Exchange Commission on the date hereof (the Report), I, William Lyon, Chief Executive Officer of the Company, certify, pursuant to 18 U.S.C. § 1350, as adopted pursuant to § 906 of the Sarbanes-Oxley Act of 2002, that, to my knowledge:

(1)  The Report fully complies with the requirements of section 13(a) or 15(d) of the Securities Exchange Act of 1934; and

(2)  The information contained in the Report fairly presents, in all material respects, the financial condition and result of operations of the Company.

/s/    WILLIAM LYON

William Lyon

Chairman and Chief Executive Officer

May 10, 2007

A signed original of this written statement required by Section 906 has been provided to William Lyon Homes and will be retained by William Lyon Homes and furnished to the Securities and Exchange Commission or its staff upon request.

EX-32.2

EXHIBIT 32.2

CERTIFICATION PURSUANT TO

18 U.S.C. SECTION 1350

AS ADOPTED PURSUANT TO

SECTION 906 OF THE SARBANES-OXLEY ACT OF 2002

In connection with the Quarterly Report of William Lyon Homes (the Company) on Form 10-Q for the period ending March 31, 2007 as filed with the Securities and Exchange Commission on the date hereof (the Report), I, Michael D. Grubbs, Chief Financial Officer of the Company, certify, pursuant to 18 U.S.C. § 1350, as adopted pursuant to § 906 of the Sarbanes-Oxley Act of 2002, that, to my knowledge:

(1)  The Report fully complies with the requirements of section 13(a) or 15(d) of the Securities Exchange Act of 1934; and

(2)  The information contained in the Report fairly presents, in all material respects, the financial condition and result of operations of the Company.

/s/    MICHAEL D. GRUBBS

Michael D. Grubbs

Senior Vice President, Chief Financial

Officer and Treasurer

May 10, 2007

A signed original of this written statement required by Section 906 has been provided to William Lyon Homes and will be retained by William Lyon Homes and furnished to the Securities and Exchange Commission or its staff upon request.