FORM 10-Q
(Mark One)
Commission file number 1-8625
READING INTERNATIONAL, INC.
Registrant’s telephone number, including area code: (213) 235-2240
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 twelve 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 þ No o
Indicate by check mark whether the registrant is an accelerated filer (as defined in Rule 12b-2 of the Exchange Act).
Indicate the number of shares outstanding of each of the issuer’s classes of common stock, as of the latest practicable date. As of August 3, 2004, there were 19,916,876 shares of Class A Nonvoting Common Stock, $0.01 par value per share and 1,982,414 shares of Class B Voting Common Stock, $0.01 par value per share outstanding.
READING INTERNATIONAL, INC. AND SUBSIDIARIES
INDEX
PART I – Financial Information
Item 1 – Financial Statements
Reading International, Inc. and Subsidiaries
See accompanying notes to consolidated financial statements.
1
Reading International, Inc. and SubsidiariesCondensed Consolidated Balance Sheets(dollars in thousands, except per share amounts)
2
3
4
Note 1 – Basis of Presentation
Reading International, Inc. a Nevada corporation (“RII”) along with its consolidated subsidiaries (the “Company” or “Reading”) is the corporate successor to the Reading Railroad, initially organized in Pennsylvania in 1833. RII was incorporated in 1999 and, following the consummation of a consolidation transaction on December 31, 2001 (the “Consolidation”) is now the owner of the consolidated businesses and assets of Reading Entertainment (“RDGE”), Craig Corporation (“CRG”) and Citadel Holding Corporation (“CDL”). Its businesses consist primarily of:
The accompanying unaudited condensed consolidated financial statements were prepared in accordance with accounting principles generally accepted in the United States of America (“US GAAP”) for interim reporting and with the instructions to Form 10-Q and Rule 10-01 of Regulation S-X of the Securities and Exchange Commission for interim reporting. As such, certain information and footnote disclosures typically required by US GAAP for complete financial statements have been condensed or omitted. There have been no material changes in the information disclosed in the notes to the condensed consolidated financial statements contained in the Company’s Annual Report on Form 10-K for the year ended December 31, 2003 (“2003 Annual Report”). The financial information presented in this quarterly report on Form 10-Q for the period ended June 30, 2004 (the “June Report”), including the information under the heading, Management’s Discussion and Analysis of Financial Condition and Results of Operations, should be read in conjunction with the Company’s 2003 Annual Report which contains the latest audited financial statements and related footnotes.
In the opinion of management, all adjustments of a normal recurring nature considered necessary to present fairly in all material respects the Company’s financial position, results of its operations and cash flows for the three and six months ended June 30, 2004 have been made. The results of operations for the six months ended June 30, 2004 are not necessarily indicative of the results of operations to be expected for the entire year. Certain amounts in previously issued financial statements have been reclassified to conform to the 2004 presentation.
Note 2 – Stock-Based Compensation
The Company has a stock based compensation plan for certain employees and non-employee directors which is fully described in the 2003 Annual Report. The Company accounts for the plan under the recognition and measurement principles of Accounting Principles Board Opinion No. 25,Accounting for Stock Issued to Employees, and related Interpretations. Under Accounting Principles Board Opinion No. 25, no stock-based employee compensation cost has been reflected in net income, as all options granted under the plan had an
5
exercise price equal to the market value of the underlying common stock on the date of grant. Accounting Principles Board Opinion No. 25 does not apply to non-employees and would require that the Company record compensation expense for non-employees. However, Accounting Principles Board Opinion No. 25 applies to non-employee directors when stock options are granted in connection with the non-employee directors’ board services. As such, no compensation expense has been recorded.
Statement of Financial Accounting Standards (“SFAS”) No. 123, Accounting for Stock-Based Compensation, as amended by SFAS No. 148, Accounting for Stock-Based Compensation – Transition and Disclosure (“SFAS Nos. 123 and 148”) established disclosure requirements using the fair value basis method of accounting for stock-based compensation. As permitted by SFAS Nos. 123 and 148, the Company has elected to continue using the intrinsic value method of accounting prescribed under APBO No. 25. The following table illustrates the effect on net (loss) income and net (loss) income per common share as if the Company had applied the fair value provisions of SFAS Nos. 123 and 148 to measure stock-based compensation (dollars in thousands):
Note 3 – Business Segments
Reading’s operations are organized into three reportable business segments within the meaning of SFAS No. 131, Disclosures about Segments of an Enterprise and Related Information. The Company’s reportable segments are: (1) cinema,(2) live theater and (3) rental/real estate. The Company’s cinema segment is primarily engaged in the development, ownership and operation of multiplex cinemas. The live theater segment is engaged in the ownership and operation of “Off Broadway” style live theaters. Reading’s rental and real estate segment is primarily engaged in the development, ownership and operation of commercial properties, including ETRCs. Corporate results include interest income earned with respect to the Company’s cash balances, interest expense, general and administrative expenses, minority interest expense and other (income) expense.
Information about the Company’s cinema, live theater and rental/real estate segment operations for the three and six months ended June 30, 2004 and 2003 is presented in the following tables (dollars in thousands):
6
7
Note 4 — Foreign Currency and Derivative Instruments
As fully described in the Company’s 2003 Annual Report, Reading has cinema and real estate operations and significant assets in Australia and New Zealand. To the extent possible, Reading conducts its Australian and New Zealand operations on a self-funding basis. The carrying value of the Company’s Australian and New Zealand assets fluctuates due to changes in the exchange rates between the US dollar and the functional currency of Australia (Australian dollar) and New Zealand (New Zealand dollar). The Company has no derivative financial instruments to hedge foreign currency exposure.
Presented in the table below are the currency exchange rates for Australia and New Zealand as of June 30, 2004 and December 31, 2003.
Note 5 – Loss Per Share
Basic loss per share is computed by dividing net loss to common stockholders by the weighted average number of common shares outstanding during the period. Diluted loss per share is computed by dividing net loss to common stockholders by the weighted average number of common shares outstanding during the period after giving effect to all potentially dilutive common shares that would have been outstanding if the dilutive common shares had been issued. Stock options give rise to potentially dilutive common shares.
For the three months and six months ended June 30, 2004 and 2003, respectively, the Company recorded net losses. As such, the incremental shares of 693,255 and 339,806 in 2004 and 2003, respectively from stock options to purchase shares of common stock were excluded from the computation of diluted loss per share because they were anti-dilutive in those periods.
Note 6 — Comprehensive Income
US GAAP requires that the effect of foreign currency translation adjustments and unrealized gains and/or losses on securities that are available-for-sale (“AFS”) be classified as comprehensive income. The following table sets forth the Company’s comprehensive income for the periods indicated (dollars in thousands):
8
Note 7 — Rental Property and Property and Equipment
As of June 30, 2004 and December 31, 2003, Reading had investments in rental property and property and equipment as follows (dollars in thousands):
Note 8 – Goodwill and Intangible Assets
As of January 1, 2002, in accordance with SFAS No. 142, Goodwill and Other Intangible Assets, Reading does not amortize goodwill and instead, performs annual impairment reviews of its goodwill and other intangible assets. As of June 30, 2004 and December 31, 2003, Reading had goodwill of $5,070,000 and $5,090,000, respectively, consisting of the following (dollars in thousands):
9
Reading has intangible assets other than goodwill which are subject to amortization and are being amortized over various periods. The Company amortizes its beneficial lease over 20 years and its option fees and acquisition costs over 10 years. For the six months ended June 30, 2004, the amortization expense totaled $561,000.
Intangible assets subject to amortization consist of the following (dollars in thousands):
Note 9 – Income Tax
The income tax provision (benefit) for the three and six months ended June, 2004 and 2003 was comprised of the following amounts (dollars in thousands), respectively:
Note 10 – Minority Interest
10
Note 11 – Other (Income) Expense
Other (income) expense is comprised of the following (dollars in thousands):
Note 12 – Loan Agreement
The Company is in final discussions with a major Australian bank to document an accepted Offer to Loan, to refinance its existing AUD$30,000,000 loan facility in Australia and to increase its borrowing to AUD$55,000,000. Subject to full documentation of the new loan facility, the bank has advanced the Company a temporary additional facility, increasing the old facility to AUD$32,250,000.
Note 13– Subsequent Events
During the second quarter 2004, the Company contracted with the principal stockholders of Australia-based Anderson Cinemas to acquire, subject to due diligence and the satisfaction of certain other conditions to closing, their interest in that circuit. As ownership of the various cinemas in the circuit was divided amongst a variety of entities and subject to the claims of a variety of creditors, the acquisitions, which closed subsequent to the end of the second quarter, were ultimately structured as the acquisition of (i) the shares of one company, which owns as its sole asset the 10-screen leasehold cinema at Epping (a suburb of Melbourne), (ii) agreements to lease with respect to two leasehold cinemas currently under construction at Rhodes Peninsula (8 screens) (a suburb of Sydney) and Westlakes (7 screens) (a suburb of Adelaide), and (iii) three existing leasehold cinemas at Colac (2 screens), Melton (5 screens) and Sunbury (5 screens) (all suburbs of Melbourne). In total, the Company paid approximately AUD$6.0 million and assumed liabilities estimated at approximately AUD$10.0 million (including approximately AUD$7.0 million in connection with the fit out of the Rhodes Peninsula and Westlakes cinemas). The Rhodes Peninsula and Westlakes cinemas are currently scheduled to open in the fourth quarter 2004.
During the second quarter of 2004, we entered into four separate agreements which, together, provide for the acquisition of six existing New Zealand cinemas, representing 27 screens, and in the case of three of these cinemas, the fee interests underlying such cinemas. The cinemas are being acquired for an aggregate purchase price of NZ$10.4 million, representing a multiple of approximately 5 times projected cash flow. The fee interests are being acquired for an aggregate purchase price of NZ$11.0 million, representing a cap rate of approximately 9%. The agreements are subject to a number of conditions, including satisfactory completion of due diligence. The Due Diligence period is scheduled to expire on August 11, and we currently anticipate that the transactions will close prior to the end of August. The acquisitions are consistent with our plan to expand our cinema operations in Australia and New Zealand. Upon the closing of the acquisitions, we will own directly 7 cinemas representing 37 screens and own indirectly through our Berkeley joint venture an additional 21 screens in 4 cinemas in New Zealand. Two of the newly acquired cinemas have the capacity for 4 additional screens, and our Berkeley joint venture will open this December an additional 8-screen state-of-the-art multiplex in the Auckland area. Completion of these expansion screens and this additional cinema will increase our New Zealand screen count to 70 screens in 12 cinemas. It is anticipated that substantially all of the acquisition costs of these cinemas and fee interests will be financed through New Zealand based bank financing.
11
During the second quarter of 2004, the Company entered into a letter of intent with a possible purchaser of the Company’s cinemas in Puerto Rico specifying a sale price of approximately $6.5 million. These assets are currently carried on our books at $2.2 million. On August 4, 2004, we agreed to an extension of the due diligence period through August 25, 2004, in order to provide the Buyer with additional time to negotiate lease assignment terms with one of the Company’s landlords. The sale of these cinemas remains subject to due diligence and the negotiation and execution of definitive transactional documents. Accordingly, no assurances can be given that the letter of intent will eventually result in a sale of the Company’s cinemas in Puerto Rico.
On August 4, 2004, we entered into an agreement to purchase for $12 million the approximately 7,840 square-foot fee interest underlying our current leasehold estate in the Cinemas 1, 2 & 3 property located in Manhattan on 3rd Avenue between 58th Street and 59th Street. The ownership of the Cinemas 1, 2 & 3 property is currently divided into three ownerships: the fee interest (which we now have under contract to purchase), the ground lease and improvements, (which are owned by Sutton Hill Capital LLC but which we, as described in our Annual Report on Form 10-K, have an option to purchase as a part of a pool of assets in 2010), and our current space lease which also runs until 2010. This fee interest is being acquired consistent with our business philosophy of owning, where feasible, the fee interests underlying our various cinema and theater properties. In consideration of Sutton Hill Capital’s agreement to sell its interest in the ground lease and improvements to us outside of the aforementioned option to purchase, we will grant them an option to acquire a 25% membership interest in the LLC set up to acquire the fee interest in the Cinemas property.
On June 10, 2004, we were advised by the purchaser of our Sutton Cinema complex on 57th Street in Manhattan that they intend to pre-pay the $13 million purchase money promissory note issued to us in connection with our sale of our interest in that property last year. On August 2, 2004, we received a notice from the purchaser triggering a 30-day review period with regards to our potential investment in the redevelopment of that property. We are currently reviewing whether or not to exercise our option to acquire at cost up to a 25% interest in the mixed use retail and residential condominium redevelopment currently planned for that property, or to accept, in lieu of that option, $650,000. Exercise of the option to acquire a 25% interest would require an investment of approximately $2.2 million.
12
Item 2 – Management’s Discussion and Analysis of Financial Condition and Results of Operations
Reading International, Inc. (“RII,” and collectively with its consolidated subsidiaries, “the Company”) consider ourselves to be essentially a cinema exhibition and live theater operating company with a strong focus on the development and holding of real estate assets. Our business operations include:
We manage our worldwide cinema business under various different brands:
Including the 22 screens acquired subsequent to the end of the second quarter as a part of our acquisition of substantially all of the assets of the Australia based Anderson Circuit, we currently operate (directly or indirectly through consolidated entities or majority owned unincorporated joint ventures) 231 screens in 34 cinema complexes, including two cinema complexes (comprising an aggregate of 9 screens) which we operate under management contracts in which we have no ownership interest. In addition, we have 50% unincorporated joint venture interests in 26 screens in five cinema complexes in New Zealand (including one 5-screen cinema which our joint venture operates under a management agreement and in which our joint venture has no ownership interest) and a 331/3% unincorporated joint venture interest in a 16-screen cinema complex in Australia.
As previously reported to you, during the first quarter of 2004, we entered heads of agreement to fit-out and lease two new cinemas comprising 16 screens currently under development in Australia. Since the close of the first quarter, we have, in addition, entered into agreements for lease with respect to the fit-out and leasing of two additional cinemas, comprising a total of 15 screens. In the aggregate, these agreements cover four cinemas comprising 31 screens. It is currently anticipated that two of these cinemas comprising 15 screens will be completed and open for business before the end of the year, and that the remaining two cinemas comprising 16 screens will be completed in the third and fourth quarters of 2005. In addition, our New Zealand joint venture is currently in the process of developing an 8-screen leasehold cinema in a suburb of Auckland, which we anticipate will be completed and open for business before the end of the year.
We currently operate 17 cinemas with 115 screens in Australia; when complete, the fit-outs will increase our holdings to 21 cinemas with 146 screens in Australia. Worldwide, prior to the completion of the acquisition of the Anderson cinemas, we operated 29 cinemas with 204 screens. With the completion of that acquisition, we now operate 33 cinemas with 226 screens. Upon completion of the four fit-outs currently under agreements for lease or heads of agreement, we will have 37 cinemas with 257 screens. In addition, the completion of the 8-screen cinema currently under construction in suburban Auckland will increase the size of our New Zealand joint venture’s operation to 34 screens in six cinemas.
13
Our business plan is to continue to identify, develop and acquire cinema and live theater properties, focusing on those opportunities where we can acquire either the fee interest underlying the operating entertainment assets, or long term leases, which we believe provide flexibility with respect to the usage of such leasehold assets. In the near term, we are focusing principally on the operation of our existing cinema and live theater assets and in the development of five parcels of undeveloped real estate in Melbourne, Brisbane, and Sydney in Australia, and in Wellington in New Zealand while taking advantage of those opportunities that may present themselves to strategically expand our existing cinema circuits. Since the close of the first quarter, we entered into agreements for lease with the two anchor tenants aggregating approximately 44,000 square feet of our approximately 95,000 square foot shopping center development in a suburb of Brisbane. Accordingly, we are now moving forward with the preparation of final construction drawings for that project, and anticipate that the shopping center will be open for business in the fourth quarter of 2005. In addition, on June 30, 2004, we acquired an adjoining 12,500 square-foot parcel, which we believe will allow us, in accordance with our initial plans for the project, to add a state-of-the-art multiplex to the shopping center.
A significant portion of our business is conducted in Australia and New Zealand, and as such, we are subject to a certain degree of currency risk. We do not engage in currency hedging activities. Rather, to the extent possible, we operate our Australian and New Zealand operations on a self-funding basis. Our policy in Australia and New Zealand is to match revenue and expenses, whenever possible, in local currencies. As a result, a majority of our expenses in Australia and New Zealand have been procured in local currencies. Due to the developing nature of our operations in Australia and New Zealand, our revenues are not yet significantly greater than our operating expenses. The resulting natural operating hedge has led to a negligible foreign currency effect on our earnings. As we continue to progress our acquisition and development activities in Australia and New Zealand, we cannot assure you that the foreign currency effect on our earnings will be insignificant in the future.
We are continuing in accordance with our business plan to dispose of or reposition those assets which either no longer fit with our entertainment-based business focus or which have a higher and better use as non-entertainment oriented properties:
Results of Operations
During the quarter ended June 30, 2004, we operated 29 cinemas with 204 screens and four live theaters comprising seven stages. Unconsolidated joint ventures in which we have interests operated an additional six cinemas with 42 screens. In addition, along with the three ETRC’s that we developed in Australia and New Zealand, we have fee interests in five developed commercial properties in the United States, and hold for development an additional five parcels (aggregating approximately 60 acres) in urbanized areas of Australia and
14
New Zealand. Two of these parcels are in areas designated by the provincial government of Victoria, Australia as “major activity areas.”
The tables below summarize the results of operations for each of our principal business segments for the three (“2004 Quarter”) and six (“2004 Six Months”) months ended June 30, 2004 and the three (“2003 Quarter”) and six (“2003 Six Months”) months ended June 30, 2003, respectively. Operating expenses include costs associated with the day-to-day operations of the cinemas and live theaters and the management of rental properties.
15
16
Cinema
Included in the cinema segment above is revenue and expense from the operations of 28 cinema complexes with a total of 200 screens.
17
Live Theater
We operate our live theater segment through Liberty Theaters and its wholly owned theater operating companies, of leasing theater auditoriums to the producers of “Off Broadway” theatrical productions and providing various box office and concession services. Liberty Theaters generates revenues by:
We also own a four auditorium theater complex, the Royal George in Chicago (main stage 452 seats, cabaret 199 seats, great room 100 seats and gallery 60 seats). We own the fee interest in each of these theaters.
Live theater revenue decreased approximately $228,000, or 17.8%, in the 2004 Quarter and $481,000, or 20.4%, in the 2004 Six Months when compared to the same period in 2003 primarily due to increased “dark time” (the period when the theater carries no production). The productions lost in the third and fourth quarters of 2003 were not replaced through most of the first quarter of 2004.
Live theater operating expenses decreased $41,000, or 6% in the 2004 Quarter compared to the 2003 Quarter, and $127,000 in the 2004 Six Months compared to the 2003 Six Months. This is consistent with the absence of replacement productions in 2004.
As a result, live theater net income decreased $198,000 in the 2004 Quarter when compared to the same period in the 2003 Quarter, and $358,000 for the comparable Six Month period.
Our live theater rental weeks for the 2004 Quarter were 78 compared to 78 theater weeks rented in the 2003 Quarter, and 140 in the 2004 Six Months compared to 148 theater weeks rented in the 2003 Six Months. The theaters are currently running the following shows:
18
Rental / Real Estate
The Wellington ETRC is now approximately 89% leased (62% excluding the cinema space which is occupied by our own cinema). This lease up level reflects our determination to limit our leasing activity in the Wellington ETRC while we work on plans for the development of phase two of that project. The ancillary retail space at our Perth and Auburn ETRC’s is now approximately 72% leased.
We own certain unimproved tracts of land which are currently either in various stages of development or held for sale, namely:
Revenue for the real estate/rental segment increased $715,000 in the 2004 Quarter and $1,695,000 for the 2004 Six Months when compared to 2003. Rental revenue increased at our Australian and New Zealand ETRCs due to higher occupancy rates, assisted by currency effects. In addition, we have recently completed renegotiation of the rents with our tenants at our Union Square property in Manhattan, which are anticipated to increase our net rental cash flow from that building by approximately $350,000 from $400,000 per annum to $750,000 per annum. This is in addition to our income from our live theater operation at the property.
19
Depreciation expense for the real estate/rental segment increased $361,000 in the 2004 Quarter and $696,000 in the 2004 Six Months when compared to the 2003 Quarter and the 2003 Six Months. The significant drivers of the increase were additional depreciation recorded on assets acquired after the second quarter of 2003, and currency.
Net income for the real estate/rental segment was $157,000 for the 2004 Quarter compared to a net loss of $408,000 recorded in the same period of 2003. The increase in net income is primarily due to increased rentals at our Australian ETRCs and the positive effect of currency fluctuation on net income. The increase in net income was somewhat offset by the increase in depreciation expense, due in part to depreciation on assets acquired subsequent to the 2003 Quarter and currency fluctuation. A similar rationale pertained to the 2004 Six Month net income of $494,000 compared with a $583,000 net loss in 2003.
Corporate
General and administrative expense includes expense that is not directly attributable to other operating segments. The increase in expense was $406,000 in the 2004 Quarter when compared to the 2003 Quarter and $567,000 in the 2004 Six Months. The increase is primarily due to a one-time recovery of litigation expense in the 2003 quarter, increased professional fees and certain travel related expenses.
For the 2004 Quarter, other income was $750,000, compared to other income of $2,230,000 in the 2003 Quarter. The six month periods showed flat income. During the quarter, other income was primarily due to $923,000 in gains recognized for currency fluctuation in connection with certain cash transfers that were transacted in the quarter. In 2003, we recorded a gain on the settlement of litigation involving a joint venture in Australia as fully described in the 2003 Annual Report.
Acquisitions
Business Plan, Capital Resources and Liquidity
Business Plan
Our business plan is to continue to identify, develop and acquire cinema and live theater properties, focusing, where reasonably available, on those opportunities where we can acquire either the fee interest underlying such operating assets, or long term leases, which provide flexibility with respect to the usage of such leasehold estates. We are currently concentrating our acquisitions and development activities primarily in Australia and New Zealand, as we believe that there are currently better opportunities in these markets than domestically. Since the first of the year in Australia, we have entered into various agreements relating to the development of four new state-of-the-art cinemas aggregating 31 screens and have acquired four cinemas comprising 22 screens. Our New Zealand joint venture has acquired the management rights to a 5-screen cinema, and is currently in the process of constructing a new 8-screen cinema in a suburb of Auckland. In June
20
we opened an Angelika Film Center in Plano, Texas, which we are operating under a long-term management arrangement.
We intend to dispose of our interest in Puerto Rico, and have entered into a letter of intent with respect to such a disposition transaction, and have already disposed of all of our agricultural interests and assets. We continue to close under-performing cinema assets, or to sell those which have value as real estate significantly in excess of their value as cinemas.
Contractual Obligations
The following table provides information with respect to the maturities and scheduled principal repayments of the Company’s secured debt and lease obligations at June 30, 2004 (in thousands):
Liquidity and Capital Resources
Our ability to generate sufficient cash flows from operating activities in order to meet our obligations and commitments drives our liquidity position. This is further affected by our ability to obtain adequate, reasonable financing and/or to convert non-performing or non-strategic assets into cash. We cannot separate liquidity from capital resources in achieving our long-term goals in order to meet our debt servicing requirements.
Operating Activities
Cash provided by operations was $380,000 in the 2004 Six Months compared to cash used of $90,000 in the 2003 Six Months. The change is primarily due to an increase in our liabilities driven by an increase in our accounts payable.
Investing Activities
Cash used in investing activities during the first six months of 2004 was $5,759,000 compared to $2,058,000 during the same period in 2003. In the 2004 Six Months, we had increased purchases of equipment and property development expenditures as we continued to expand and grow our cinema operations. We made deposits on equipment necessary for the fit-out of two state-of-the-art cinemas due to open in the fourth quarter
21
of 2004. We also advanced deposit monies against the purchase of the Anderson Cinemas, completion of which occurred in July 2004.
Financing Activities
Cash used in financing activities was $1,346,000 for the first six months of 2004 compared to $1,802,000 for the same period in 2003. This decrease is directly attributable to a decrease in distributions to minority interests in the 2004 Six Months compared to the 2003 Six Months.
Summary
Our cash position at June 30, 2004 was $14,346,000.
We have put into place several measures that are expected to have or have already had a positive effect on our overall liquidity, including:
Potential uses for funds during 2004 that would reduce our liquidity, other than those relating to working capital needs and debt service requirements include:
Based upon the current levels of the consolidated operations, anticipated cost savings and future growth, we believe our cash flow from operations, together with both the existing and anticipated lines-of-credit and other sources of liquidity (including future potential asset sales) will be adequate to meet our anticipated requirements for interest payments and other debt service obligations, working capital, capital expenditures and other operating needs. There can be no assurance, however, that the business will continue to generate cash flow at or above current levels or that estimated cost savings or growth can be achieved. Future operating performance and our ability to service or refinance existing indebtedness, will be subject to future economic conditions and to financial and other factors, such as access to first-run films, many of which are beyond our control. If our cash flow from operations and/or proceeds from anticipated borrowings should prove to be insufficient to meet our funding needs, our current intention is either:
22
At the present time, included among the assets that are securing our AUD$32,250,000 loan facility are our 50-acre Burwood property, our three-acre Moonee Ponds property and our four-acre Newmarket property. Because of Australian operating losses incurred as we entered into the Australian market, these assets could be liquidated without the payment of any income taxes.
We are currently in advanced discussions with our banker in Australia with a view to increasing our current temporary AUD$32,250,000 loan facility to AUD$55,000,000, achieving lower financing costs, obtaining capital repayment deferral and releasing the Burwood, Moonee Ponds and Newmarket properties from the corporate facility securitization pool. We can give no assurance that we will be successful in achieving any or all of these terms.
Critical Accounting Policies
The Securities and Exchange Commission defines critical accounting policies as those that are, in management’s view, most important to the portrayal of the company’s financial condition and results of operations and the most demanding in their calls on judgment. Although accounting for our core business of cinema and live theater exhibition with a real estate focus is relatively straightforward, we believe our most critical accounting policies relate to:
These critical accounting policies are fully discussed in our 2003 Annual Report and you are advised to refer to that discussion.
Financial Risk Management
Our internally developed risk management procedure, seeks to minimize the potentially negative effects of changes in foreign exchange rates and interest rates on the results of operations. Our primary exposure to fluctuations in the financial markets is currently due to changes in foreign exchange rates between U.S and Australia and New Zealand, and interest rates.
After the Consolidation on December 31, 2001, we began recognizing unrealized foreign currency translation gains and losses. As our operational focus continues to shift to Australia and New Zealand, unrealized foreign currency translation gains and losses could materially affect our financial position. We currently manage our currency exposure by creating natural hedges in Australia and New Zealand. This involves local country sourcing of goods and services as well as borrowing in local currencies.
Our exposure to interest rate risk arises out of our long-term debt obligations. Consistent with our internally developed guidelines, we seek to reduce the negative effects of changes in interest rates by changing the character of the interest rate on our long-term debt, converting a fixed rate into a variable rate and vice versa. Our internal procedures allow us to enter into derivative contracts on certain borrowing transactions to achieve this goal; however, to date, no such contracts had been utilized.
23
Inflation
We continually monitor inflation and the effects of changing prices. Inflation increases the cost of goods and services used. Competitive conditions in many of our markets restrict our ability to fully recover the higher costs of acquired goods and services through price increases. We attempt to mitigate the impact of inflation by implementing continuous process improvement solutions to enhance productivity and efficiency and, as a result, lower costs and operating expenses. In our opinion, the effects of inflation have been managed appropriately and as a result, have not had a material impact on our operations and the resulting financial position or liquidity.
Litigation
We are currently, and are from time to time, involved with claims and lawsuits arising in the ordinary course of our business. Some examples of the types of claims are:
Where we are the plaintiffs, we expense all legal fees on an on-going basis and make no provision for any potential settlement amounts until received. In Australia, the prevailing party is entitled to recover its attorneys fees, which typically works out to be approximately 60% of the amounts actually spent where first class legal counsel is engaged at customary rates. Where we are a plaintiff, we have likewise made no provision for the liability for such attorneys in the event we were determined not to be the prevailing party.
Where we are the defendants, we accrue for probable damages, which may not be covered by insurance, as they become known and can be reasonably estimated. In our opinion, any claims and litigation in which we are currently involved are not reasonably likely to have a material adverse effect on our business, results of operations, financial position or liquidity. However, we do not give any assurance as to the ultimate outcome of such claims and litigation. The resolution of such claims and litigation could be material to our operating results for any particular period, depending on the level of income for such period. Our current litigation is fully described in our Company’s 2003 Annual Report and you are advised to refer to that discussion.
Forward-Looking Statements
This quarterly report contains “forward-looking statements,” as defined under the Private Securities Litigation Reform Act of 1995, regarding, among other items:
24
These forward-looking statements are based on our expectations and are subject to a number of risks and uncertainties, some of which are beyond our control. These risks and uncertainties include, but are not limited to:
Although we believe we have the exhibition and real estate resources to achieve our objectives, actual results could differ materially from those anticipated by these forward-looking statements. There can be no assurance that events anticipated by these forward-looking statements will in fact transpire as expected.
25
Item 3 – Quantitative and Qualitative Disclosure about Market Risk
The Securities and Exchange Commission requires that registrants include information about potential effects of changes in currency exchange and interest rates in their filings. Several alternatives, all with some limitations, have been offered. The following discussion is based on a sensitivity analysis, which models the effects of fluctuations in currency exchange rates and interest rates. This analysis is constrained by several factors, including the following:
Although the results of such an analysis may be useful as a benchmark, they should not be viewed as forecasts.
At June 30, 2004, approximately 51% and 17% of our assets were invested in assets denominated in Australian dollars (Reading Australia) and New Zealand dollars (Reading New Zealand), respectively, including approximately AUD$8,977,423 and NZ$6,642,640 respectively in cash and cash equivalents. At December 31, 2003, approximately 46% and 16% of our assets were invested in assets denominated in Australian dollars (Reading Australia) and New Zealand dollars (Reading New Zealand), respectively, including approximately AUD$18,800,000 and NZ$3,400,000, respectively in cash and cash equivalents.
Our policy in Australia and New Zealand is to match revenue and expenses, whenever possible, in local currencies. As a result, a majority of our expenses in Australia and New Zealand have been procured in local currencies. Due to the developing nature of our operations in Australia and New Zealand, our revenue is not yet significantly greater than our operating expense. The resulting natural operating hedge has led to a somewhat negligible foreign currency effect on our earnings.
Our policy is to borrow in local currencies to finance the development and construction of our ETRC’s in Australia and New Zealand whenever possible. As a result, the borrowings in local currencies have provided somewhat of a natural hedge against the foreign currency exchange exposure. Even so, approximately 67% and 34% of our Australian and New Zealand assets, respectively, remain subject to such exposure unless we elect to hedge our foreign currency exchange between the US and Australian and New Zealand dollars. At the present time, we have no plan to hedge such exposure.
Commencing in 2002, we also began recognizing unrealized foreign currency translation gains or losses which could materially affect our financial position. For the six months ended June 30, 2004 and for the year ended December 31, 2003, we have recorded a cumulative unrealized foreign currency translation gain of approximately $23,391,000 and $31,160,000, respectively.
Historically, we maintained most of our cash and cash equivalent balances in short-term money market instruments with original maturities of three months or less. Some of our money market investments may decline in value if interest rates increase. Due to the short-term nature of such investments, a change of 1% in short-term interest rates would not have a material effect on our financial condition.
26
Item 3A – Quantitative and Qualitative Disclosure about Interest Risk
The majority of our Australian and New Zealand bank loans have variable rates and a change of approximately 1% in short-term interest rate would have resulted in an increase or decrease of approximately $97,000 in our interest expense for the three months ended June 30, 2004.
During the second quarter of 2003, we renewed a loan agreement extending our AUD$30,000,000 loan facility in Australia. The amended and restated loan agreement provides for a fixed interest rate on a portion of the total loan facility.
Item 4 – Controls and Procedures
The Company maintains disclosure controls and procedures that are designed to ensure that information required to be disclosed in the Company’s Exchange Act reports, as amended, is recorded, processed, summarized and reported within the time periods specified in the Securities and Exchange Commission’s rules and forms and that such information is accumulated and communicated to the Company’s management, including its Chief Executive Officer and Chief Financial Officer, as appropriate, to allow for timely decisions regarding required disclosure. In designing and evaluating the disclosure controls and procedures, management recognizes that any controls and procedures, no matter how well designed and operated, can provide only reasonable assurance of achieving the desired control objectives, and management is required to apply its judgment in evaluating the cost-benefit relationship of possible controls and procedures.
The Company carried out an evaluation, as of the end of the quarterly period covered by the June Report, under the supervision and with the participation of the Company’s management, including the Company’s Chief Executive Officer and the Company’s Chief Financial Officer, of the effectiveness of the design and operation of the Company’s disclosure controls and procedures. Based on the foregoing, the Company’s Chief Executive Officer and Chief Financial Officer concluded that the Company’s disclosure controls and procedures were effective.
Nothing has come to management’s attention to indicate that there has been any change in the Company’s internal controls that has materially affected, or is reasonably likely to materially affect, the Company’s internal control over financial reporting.
27
PART II – Other Information
Item 1 — Legal Proceedings
Item 2 — Change in Securities
Not applicable.
Item 3 — Defaults upon Senior Securities
Item 4 — Submission of Matters to a Vote of Securities Holders
None
Item 5 — Other Information
Item 6 — Exhibits and Reports on Form 8-K
28
SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934, the Registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized.
29