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CINEDIGM DIGITAL CINEMA CORP. - 10-Q - MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
(Edgar Glimpses Via Acquire Media NewsEdge) The following discussion and analysis should be read in conjunction with our
historical consolidated financial statements and the related notes included
elsewhere in this document.
This report contains forward-looking statements within the meaning of the
federal securities laws. These include statements about our expectations,
beliefs, intentions or strategies for the future, which are indicated by words
or phrases such as "believes," "anticipates," "expects," "intends," "plans,"
"will," "estimates," and similar words. Forward-looking statements represent, as
of the date of this report, our judgment relating to, among other things, future
results of operations, growth plans, sales, capital requirements and general
industry and business conditions applicable to us. These forward-looking
statements are not guarantees of future performance and are subject to risks,
uncertainties, assumptions and other factors, some of which are beyond the
Company's control that could cause actual results to differ materially from
those expressed or implied by such forward-looking statements.
OVERVIEW
Cinedigm Digital Cinema Corp. was incorporated in Delaware on March 31, 2000
("Cinedigm", and collectively with its subsidiaries, the "Company").
The Company is a digital cinema services, software and content marketing and
distribution company supporting and capitalizing on the conversion of the
exhibition industry from film to digital technology and the accelerating shift
in the home entertainment market to digital and video-on-demand services from
physical goods such as DVDs. The Company provides a digital cinema platform that
combines technology solutions, financial advice and guidance, and software
services to content owners and distributors and to movie exhibitors. Cinedigm
leverages this digital cinema platform with a series of business applications
that utilize the platform to capitalize on the new business opportunities
created by the transformation of movie theatres into networked entertainment
centers. The two main applications provided by Cinedigm include (i) its
end-to-end digital entertainment content acquisition, marketing and distribution
business focused on the distribution of alternative content and independent film
in theatrical and ancillary home entertainment markets; and (ii) its
operational, analytical and transaction processing software
applications. Historically, the conversion of an industry from analog to digital
has created new revenue and growth opportunities as well as an opening for new
players to emerge to capitalize on this technological shift.
The Company reports its financial results in four primary segments as follows:
(1) the first digital cinema deployment ("Phase I Deployment"), (2) the second
digital cinema deployment ("Phase II Deployment"), (3) digital cinema services
("Services") and (4) media content and entertainment ("Content &
Entertainment"). The Phase I Deployment and Phase II Deployment segments are the
non-recourse, financing vehicles and administrators for the Company's digital
cinema equipment (the "Systems") installed in movie theatres nationwide. The
Services segment provides services, software and support to the Phase I
Deployment and Phase II Deployment segments as well as directly to exhibitors
and other third party customers. Included in these services are asset management
services for a specified fee via service agreements with Phase I Deployment and
Phase II Deployment as well as third party exhibitors as buyers of their own
digital cinema equipment; and software license, maintenance and consulting
services to Phase I and Phase II Deployment, various other exhibitors, studios
and other content organizations. These services primarily facilitate the
conversion from analog to digital cinema and have positioned the Company at what
it believes to be the forefront of a rapidly developing industry relating to the
distribution and management of digital cinema and other content to theatres and
other remote venues worldwide. The Content & Entertainment segment, which
includes our newly acquired wholly-owned subsidiary New Video Group, Inc. ("New
Video") as described below, provides content marketing and distribution services
in both theatrical and ancillary home entertainment markets to alternative and
independent film content owners and to theatrical exhibitors.
In April 2012, the Company issued 7,857,143 shares of Class A common stock at a
public offering price of $1.40 per share, less stock issuance fees and expenses
of approximately $1.0 million, resulting in net proceeds to the Company of $10.0
million.
On April 19, 2012, the Company entered into a stock purchase agreement for the
purchase of all of the issued and outstanding capital stock of New Video Group,
Inc. ("New Video"), an independent home entertainment distributor of quality
packaged goods entertainment and digital content that provides distribution
services in the DVD, BD, Digital and VOD channels for more than 500 independent
rights holders (the "New Video Acquisition"). The Company agreed to pay $10.0
million in cash and 2,525,417 shares of Class A common stock at $1.51 per share,
subject to certain transfer restrictions, plus up to an additional $6.0 million
in cash or Class A common stock, at the Company's discretion, if certain
business unit financial performance targets are met during the fiscal years
ended March 31, 2013, 2014 and 2015. In addition, the Company has agreed to
register the resale of the shares of Class A common stock paid as part of the
purchase price. The New Video Acquisition was consummated on April 20, 2012. The
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Company is currently in the process of finalizing the fair value of assets
acquired and liabilities assumed. Merger and acquisition expenses, consisting
primarily of professional fees, directly related to the New Video Acquisition
totaled $1.9 million, of which $1.3 million was incurred during the three months
ended June 30, 2012.
The following organizational chart provides a graphic representation of our
business and our four reporting segments:
[[Image Removed]]
We have incurred consolidated net losses, including the results of our
non-recourse deployment subsidiaries, of $1,784 and $10,640 during the three
months ended December 31, 2012 and 2011, respectively, and $9,547 and $17,263
for the nine months ended December 31, 2012 and 2011, respectively, and we have
an accumulated deficit of $230,858 as of December 31, 2012. Included in our
consolidated net losses were $6,889 during the three months ended December 31,
2011 of income attributed to discontinued operations. We also have significant
contractual obligations related to our debt for the remainder of the fiscal year
ended March 31, 2013 and beyond. We may continue generating consolidated net
losses, including our non-recourse deployment subsidiaries, for the foreseeable
future. Based on our cash position at December 31, 2012, and expected cash flows
from operations, we believe that we have the ability to meet our obligations
through at least December 31, 2013. Failure to generate additional revenues,
raise additional capital or manage discretionary spending could have an adverse
effect on our financial position, results of operations or liquidity.
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Results of Continuing Operations for the Three Months Ended December 31, 2012
and 2011
Revenues
For the Three Months Ended December 31,
($ in thousands) 2012 2011 $ Change % Change
Phase I Deployment $ 10,282 $ 10,530 $ (248 ) (2 )%
Phase II Deployment 3,321 2,976 345 12 %
Services 3,979 5,736 (1,757 ) (31 )%
Content & Entertainment 5,630 551 5,079 922 %
$ 23,212 $ 19,793 $ 3,419 17 %
Revenues increased $3.4 million or 17% during the three months ended
December 31, 2012 with the organic growth in revenues in Content and
Entertainment as well as the New Video Acquisition, more than offsetting a
decrease in Services revenues. Total deployment revenues were approximately flat
year on year as total Cinedigm financed Systems grew by 688 screens and average
screen turns declined modestly compared to the prior year period. Additionally,
two studio releases were moved into fourth quarter of the current fiscal year.
Total Phase 2 DC financed Systems installed and ready for content increased to
2,503 at December 31, 2012 from 1,652 Systems at December 31,
2011. Non-deployment revenues grew 53% period over period inclusive of New Video
and declined 14% period on period assuming New Video had been included on a
pro-forma basis within the three months ended December 31, 2011 operating
results.
In the Services segment, a $1.8 million, or 31%, decrease in revenues net of
intercompany services and $1.1 million, or 17.6%, decrease inclusive of
intercompany service fees, was primarily due to a decrease in software revenues
year over year. In the prior period, the Company earned a significant one-time
license fee tied to the sale of its digital delivery business to Technicolor. In
addition, certain exhibitor and distributor installations were delayed until the
fiscal fourth quarter by installation and acceptance testing schedules of our
customers. Digital cinema servicing fees increased modestly as 845 Phase 2 DC
Cinedigm-Financed and Exhibitor-Buyer Structure Systems were installed during
the three months ended December 31, 2012. A total of 7,963 Phase 2 Systems were
generating service fees at December 31, 2012 versus 5,012 Phase 2 Systems at
December 31, 2011. The deployment period for Phase 2 Systems ended at January
31, 2013. Cinedigm also services an additional 3,724 screens in its Phase I
deployment subsidiary. We expect growth in services as we (i) commence
international servicing and software installations in Australia, the Caribbean,
Brazil and Europe in the fourth quarter of the current fiscal year from our over
1,000 international screen backlog; (ii) recognize additional revenues from
existing software installations as well as recently signed software customers
upon installation in the remainder of this fiscal year and next fiscal year; and
(iii) continued growth in software and cinema services from our strong sales
pipeline.
The CEG business expanded significantly to revenues of $5.6 million due to
organic growth and the acquisition of New Video which was completed on April 20,
2012 during the first quarter of the fiscal year ending March 31, 2013. Total
CEG revenues increased 3%, period over period, inclusive of New Video in both
periods on a pro-forma basis. CEG has grown its historical fee-for-service
theatrical releasing efforts (Indie Direct) as well as expanded the New Video
ancillary market distribution efforts of distributing both movies and television
entertainment content into digital, video on demand and physical goods (DVDs and
Blu-Ray discs). CEG is utilizing the combined resources of its existing
theatrical releasing infrastructure and the New Video home entertainment
distribution capabilities to acquire the North American distribution rights in
all media for independent films as well as to launch several programmatic
alternative content channels. During the three months ended December 31, 2012,
CEG acquired the distribution rights to 3 additional independent film and ended
the quarter with 11 independent films under contract. Subsequent to quarter end,
CEG has acquired 2 additional independent films for a total of 13 acquired
during this fiscal year and has an active acquisition pipeline. CEG has released
4 movies from this slate year to date and expects to release an additional 2 of
these movies in our fiscal fourth quarter. The Citadel was released theatrically
on November 9th and In Our Nature was released theatrically on December 7th.
Both of these titles will be released into the home entertainment markets in our
fiscal fourth quarter. CEG recognized modest theatrical and ancillary revenues
in this quarter from these 2 releases and incurred "J-Curve" costs on its
current quarter and future releases of $0.4 million in the quarter. Based upon
ancillary revenue pre-sales, as well as preliminary DVD purchases and expected
transactional video-on-demand results, CEG expects to be profitable on these
titles.
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Direct Operating Expenses
For the Three Months Ended December 31,
($ in thousands) 2012 2011 $ Change % Change
Phase I Deployment $ 138 $ 238 $ (100 ) (42 )%
Phase II Deployment 189 132 57 43 %
Services 1,247 1,033 214 21 %
Content & Entertainment 1,595 701 894 128 %
$ 3,169 $ 2,104 $ 1,065 51 %
Direct operating expenses increased by 51% primarily due to the acquisition of
New Video and the resulting 53% total non-deployment revenue growth. Excluding
the impact of the purchase of New Video, direct operating costs decreased by
$0.4 million from the three months ended December 31, 2011 on a pro-forma basis.
The decrease in direct operating costs in the Phase I Deployment segment was
primarily due to modest decreases in property taxes and insurance incurred on
deployed Systems. The increase in direct operating costs in the Phase II
Deployment segment was primarily due to increases in property taxes and
insurance incurred as a result of increased deployed Systems. The increase in
the Services segment was primarily related to (i) additional administrative and
financial personnel required to service our growing Phase 2 screens; and (ii)
additional personnel costs to support the software development requirements of
our current and new customers as well as new product development efforts. The
increase in the Content & Entertainment segment was directly related to our
acquisition of New Video and the approximately $0.4 million of "J-Curve"
expenses related to advances and marketing for movie releases during the three
months ended December 31, 2012. We expect such expenses to be offset by revenues
in future quarters from ancillary home entertainment revenue streams. In
accordance with GAAP, Cinedigm must recognize its upfront content acquisition
and marketing expenses at the time of a theatrical release of a movie. We expect
to recover those expenses as well as earn our fee based profits over the ensuing
12-36 months from revenues earned on the distribution of the movie in the
ancillary home entertainment markets. This timing difference creates a "J-Curve"
and will continue in future periods as we increase our distribution activities
and we will also experience an increase in direct operating expenses
corresponding with additional revenue growth.
Selling, General and Administrative Expenses
For the Three Months Ended December 31,
($ in thousands) 2012 2011 $ Change % Change
Phase I Deployment $ 16 $ 24 $ (8 ) (33 )%
Phase II Deployment 36 44 (8 ) (18 )%
Services 1,035 830 205 25 %
Content & Entertainment 2,307 381 1,926 506 %
Corporate 2,871 3,024 (153 ) (5 )%
$ 6,265 $ 4,303 $ 1,962 46 %
Selling, general and administrative expenses increased $2.0 million or 46% in
support of the 53% increase in non-deployment revenues. Total selling, general
and administrative expense declined by approximately 8% inclusive of New Video
in both periods on a pro-forma basis. This limited expense growth rate is the
result of the restructuring activities undertaken by the Company in the second
half of the fiscal year ended March 31, 2012 and focused expense management. The
increase in the Services segment was mainly due to payroll and related employee
expenses for additional management, sales resources, software development and
quality assurance staff to support the significant recent software customer
additions. The Content & Entertainment segment increased 506% as a result of our
acquisition of New Video and the additional staff to support our expanded
releasing activities this year. The decrease within Corporate was mainly due to
(i) reduced personnel expenses and (ii) insurance, accounting and legal expenses
partially offset by increased financial staffing, travel and sales costs. Future
increases in selling, general and administrative expenses will be tied to
additional revenues as we support our recent new software business contracts and
expanding sales pipeline and our additional content acquisition and distribution
activities with additional sales and service headcount.
Restructuring expense
During the three months ended December 31, 2011, the Company completed a
strategic assessment of its resource requirements within its ongoing businesses
which resulted in a workforce reduction, severance and employee related expense
of $832. The Company had no restructuring expenses in this quarter.
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--------------------------------------------------------------------------------Depreciation and Amortization Expense on Property and Equipment
For the Three Months Ended December 31,
($ in thousands) 2012 2011 $ Change % Change
Phase I Deployment $ 7,137 $ 7,138 $ (1 ) - %
Phase II Deployment 1,849 1,682 167 10 %
Services 37 75 (38 ) (51 )%
Content & Entertainment 7 2 5 250 %
Corporate 125 99 26 26 %
$ 9,155 $ 8,996 $ 159 2 %
Depreciation and amortization expense increased $0.2 million or 2%. The increase
in the Phase II Deployment segment represents depreciation on the increased
number of Phase 2 DC Systems which were not in service during the fiscal year
ended March 31, 2012. We expect the depreciation and amortization expense in the
Phase II Deployment segment to remain at similar levels as the Phase 2
deployment period has ended and we do not expect to add international Systems
that require consolidation on our balance sheet. We expect modest additional
growth in Services and Corporate depreciation and amortization expense tied to
technology investments supporting our software expansion. Content depreciation
will in the future reflect the additional depreciation from New Video and
additional depreciation and amortization related to our acquisition of content
distribution rights.
Amortization of intangible assets
Amortization of intangible assets increased to $0.7 million from $0.1 million
for the three months ended December 31, 2012, principally due to the
amortization of intangible assets that were allocated preliminary purchase in
connection with the New Video Acquisition.
Interest expense
For the Three Months Ended December 31,
($ in thousands) 2012 2011 $ Change % Change
Phase I Deployment $ 1,686 $ 2,527 $ (841 ) (33 )%
Phase II Deployment 592 680 (88 ) (13 )%
Corporate 4,412 4,396 16 - %
$ 6,690 $ 7,603 $ (913 ) (12 )%
Interest expense decreased $0.9 million or 12%. The 33% decrease in interest
paid and accrued within the non-recourse Phase I Deployment segment relates to
the continued repayment of Phase 1 DC's 2010 Term Loans from free cash flow and
the resulting reduced debt balance offset by additional hedging costs from the
hedge put in place in June 2010. Interest decreased within the Phase II
Deployment segment related to the non-recourse credit facilities with KBC Bank
NV (the "KBC Facilities") as we are continuing to repay the KBC Facilities from
free cash flow and benefiting from the resulting reduced debt balance. The
increase in interest paid and accrued within Corporate is related to the amended
and restated note with an affiliate of Sageview Capital LP (the "2010
Note"). Interest on the 2010 Note is 8% PIK Interest and 7% per annum paid in
cash. Through September 30, 2011, the Company had an interest reserve set aside
to cover cash interest payments on this note. Beginning October 1, 2011, the
Company has paid its cash interest expense through the cash flows from
operations.
Non-cash interest expense was approximately $2.4 million and $2.3 million for
the three months ended December 31, 2012 and 2011, respectively. PIK interest
was $1.9 million and $1.8 million for the three months ended December 31, 2012
and 2011, respectively. The remaining amounts for the three months ended
December 31, 2012 and 2011 represent the accretion of $0.4 million and $0.5
million, respectively, on the note payable discount associated with the 2010
Note which will continue over the term of the 2010 Note and the accretion of
approximately $0.1 million in each of the periods on the note payable discount
associated with the 2010 Term Loans which will continue over the term of the
2010 Term Loans.
Change in fair value of interest rate swaps
The change in fair value of the interest rate swaps was a gain of $0.3 million
for the three months ended December 31, 2012 and a gain of $0.6 million for the
three months ended December 31, 2011. The swap agreement in the prior year
related to the prior credit facility, which was terminated on May 6, 2010 upon
the completion of the Phase I Deployment refinancing. It has been
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--------------------------------------------------------------------------------replaced by new swap agreements related to the 2010 Term Loans entered into on
June 7, 2010 which became effective on June 15, 2011.
Adjusted EBITDA
The Company measures its financial success based upon growth in revenues and
earnings before interest, depreciation, amortization, other income (expense),
net, stock-based compensation, allocated costs attributable to discontinued
operations, restructuring expenses, merger and acquisition expenses and certain
other items ("Adjusted EBITDA"). Further, the Company analyzes this measurement
excluding the results of its Phase 1 DC and Phase 2 DC subsidiaries, and
includes in this measurement intercompany service fees earned by its digital
cinema servicing group from the Phase I and Phase II Deployments, which are
eliminated in consolidation (See Note 9 Segment Information for further
details). This measure isolates the financial and capital structure impact of
the Company's non-recourse Phase 1 DC and Phase 2 DC subsidiaries.
The Company reported increased Adjusted EBITDA (including its Phase 1 DC and
Phase 2 DC subsidiaries) of $14.5 million for the three months ended
December 31, 2012 in comparison to $14.3 million for the three months ended
December 31, 2011. Adjusted EBITDA from non-deployment businesses increased 59%
to $2.2 million during the three months ended December 31, 2012 from $1.4
million during the three months ended December 31, 2011 and grew 81% from the
three months ended September 30, 2012. These results reflect the growth of CEG,
which more than offset declines in Services. Finally, as previously described
and inclusive in these results, the Company incurred approximately $0.4 million
of "J-Curve" content distribution costs in the three months ended December 31,
2012 in advance of earning ancillary home entertainment revenues. The Company
continues to benefit from growth in its installed Systems, growth in software
license and maintenance fees and the inherent operating leverage embedded in its
business model. Phase 1 DC and Phase 2 DC revenues are expected to be relatively
flat going forward as the domestic deployment period ended at January 31, 2013
and any remaining domestic and international installations will be through an
Exhibitor-Buyer structure or other servicing partnerships. Based on the expected
growth in and recently signed software contracts and the expansion in CEG driven
by the acquisition of New Video and the Company's independent film releasing
slate, the Company expects Adjusted EBITDA performance to continue to improve
during the remainder of the fiscal year ended March 31, 2013 relative to prior
year results. The Company intends to invest in the growth of its business
through the acquisition of content distribution rights, related marketing
related expenditures and through the continued development of additional
software products and services.
Adjusted EBITDA is not a measurement of financial performance under U.S.
generally accepted accounting principles ("GAAP") and may not be comparable to
other similarly titled measures of other companies. The Company uses Adjusted
EBITDA as a financial metric to measure the financial performance of the
business because management believes it provides additional information with
respect to the performance of its fundamental business activities. For this
reason, the Company believes Adjusted EBITDA will also be useful to others,
including its stockholders, as a valuable financial metric.
Management presents Adjusted EBITDA because it believes that Adjusted EBITDA is
a useful supplement to net loss from continuing operations as an indicator of
operating performance. Management also believes that Adjusted EBITDA is a
financial measure that is useful both to management and investors when
evaluating the Company's performance and comparing our performance with the
performance of our competitors. Management also uses Adjusted EBITDA for
planning purposes, as well as to evaluate the Company's performance because
Adjusted EBITDA excludes certain non-recurring or non-cash items, such as
stock-based compensation charges, that management believes are not indicative of
the Company's ongoing operating performance.
The Company believes that Adjusted EBITDA is a performance measure and not a
liquidity measure, and a reconciliation between net loss from continuing
operations and Adjusted EBITDA is provided in the financial results. Adjusted
EBITDA should not be considered as an alternative to income from operations or
net loss from continuing operations as an indicator of performance or as an
alternative to cash flows from operating activities as an indicator of cash
flows, in each case as determined in accordance with GAAP, or as a measure of
liquidity. In addition, Adjusted EBITDA does not take into account changes in
certain assets and liabilities as well as interest and income taxes that can
affect cash flows. Management does not intend the presentation of these non-GAAP
measures to be considered in isolation or as a substitute for results prepared
in accordance with GAAP. These non-GAAP measures should be read only in
conjunction with the Company's condensed consolidated financial statements
prepared in accordance with GAAP.
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--------------------------------------------------------------------------------Following is the reconciliation of the Company's consolidated Adjusted EBITDA to
consolidated GAAP net loss from continuing operations:
For the Three Months Ended December 31,
($ in thousands) 2012 2011
Net loss from continuing operations $ (1,784 ) $ (3,751 )
Add Back:
Amortization of capitalized software costs 302 130
Depreciation and amortization of property and
equipment 9,155 8,996
Amortization of intangible assets 739 84
Interest income (2 ) (21 )
Interest expense 6,690 7,603
Other income, net (103 ) (175 )
Income on investment in non-consolidated
entity (678 ) 343
Change in fair value of interest rate swap (349 ) (597 )
Stock-based expenses 43 142
Stock-based compensation 513 561
Restructuring expenses - 832
Allocated costs attributable to discontinued
operations - 119
Adjusted EBITDA $ 14,526 $ 14,266
Adjustments related to the Phase I and Phase
II Deployments:
Depreciation and amortization of property and
equipment $ (8,986 ) $ (8,820 )
Amortization of intangible assets (13 ) (12 )
Income from operations (4,159 ) (4,275 )
Intersegment services fees earned (1) 845 245
Adjusted EBITDA from non-deployment businesses $ 2,213 $ 1,404
(1) Intersegment revenues of the Services segment represent service fees earned
from the Phase I and Phase II Deployments.
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Results of Continuing Operations for the Nine Months Ended December 31, 2012 and
2011
Revenues
For the Nine Months Ended December 31,
($ in thousands) 2012 2011 $ Change % Change
Phase I Deployment $ 31,332 $ 33,859 $ (2,527 ) (7 )%
Phase II Deployment 10,398 9,877 521 5 %
Services 12,997 13,674 (677 ) (5 )%
Content & Entertainment 11,998 1,452 10,546 726 %
$ 66,725 $ 58,862 $ 7,863 13 %
Revenues increased $7.9 million or 13% during the nine months ended December 31,
2012 with the organic growth in revenues in Content and Entertainment as well as
the New Video Acquisition, more than offsetting decreases in deployment and
Services revenues. Phase 1 and Phase 2 Deployment revenues declined by $2.0
million for the nine months ended December 31, 2012 partially due to a number of
unexpected releasing decisions made by the major studios during the Company's
fiscal second quarter: (i) studios avoided releasing wide titles in the weekends
around the Dark Knight Rises; (ii) studios reduced the breadth of releases
and/or delayed releases in light of the shootings at a Dark Knight Rises
screening in Aurora, CO in July; (iii) studios reduced the breadth and/or number
of releases around the Olympics in August; and (iv) several wide releases were
delayed due to production, marketing or 3D conversion issues. The delayed
releases have been moved to the fourth quarter of this fiscal year as well as
the first and second quarters of the next fiscal year. Based on announced
release plans, actual results and our internal estimates, we do not expect
studio releasing patterns like those experienced during the fiscal quarter ended
September 30, 2012 to negatively impact the remainder of the fiscal year. Phase
2 DC's financed Systems installed and ready for content were 2,503 at
December 31, 2012, up from 1,652 at December 31, 2011. Non-deployment revenues
grew 65% inclusive of New Video and declined 1% assuming New Video had been
included within the nine months ended December 31, 2011 operating results on a
pro-forma basis.
In the Services segment, a $0.7 million, or 5%, decrease in revenues was
primarily due to (i) lower results in Software license fees reflecting the
decline in Phase 2 installations year over year as well as several exhibitor and
studio distributor customers delaying software installations until the fiscal
fourth quarter and (ii) decreased exhibitor activation fees, partially offset by
increased digital cinema servicing fees. During the nine months ended
December 31, 2012, 1,519 Phase 2 DC Cinedigm-Financed and Exhibitor-Buyer
Structure Systems were installed and a total of 7,963 installed Phase 2 Systems
were generating service fees versus 5,012 Phase 2 Systems at December 31, 2011.
Cinedigm also services an additional 3,724 screens in its Phase I deployment
subsidiary. We expect growth in Services as we (i) commence international
servicing and software installations in Australia, the Caribbean, Brazil and
Europe in the fourth quarter of the current fiscal year from our over 1,000
international screen backlog; (ii) recognize additional revenues from existing
software installations as well as recently signed software customers upon
installation in the remainder of this fiscal year and next fiscal year; and
(iii) continued growth in software and cinema services from our strong sales
pipeline.
The CEG business expanded significantly to revenues of $12.0 million due to
organic growth and the acquisition of New Video which was completed on April 20,
2012 during the first quarter of the fiscal year ending March 31, 2013. Total
CEG revenues increased by $0.4 million, period over period, inclusive of New
Video in both periods. CEG has grown its historical fee-for-service theatrical
releasing efforts (Indie Direct) as well as has expanded the New Video ancillary
market distribution efforts of distributing both movies and television
entertainment content into digital, video on demand and physical goods (DVDs and
Blu-Ray discs). CEG is utilizing the combined resources of its existing
theatrical releasing infrastructure and the New Video home entertainment
distribution capabilities to acquire the North American distribution rights in
all media for independent films as well as to launch several programmatic
alternative content channels. During the nine months ended December 31, 2012,
CEG acquired the distribution rights to 7 additional independent films and ended
the period with 11 independent films acquired. CEG has acquired a total of 13
acquired this fiscal year and has an active acquisition pipeline. CEG expects to
release 6 of these movies during this fiscal year, including The Invisible War
having been released theatrically on June 22nd and into home entertainment
markets in September, The Citadel having been released theatrically on November
9th and In Our Nature having been released theatrically on December 7th. CEG has
been achieved strong profitability on The Invisible War and expects additional
positive results due to movie's nomination for the Academy Award for Best
Documentary. In addition, CEG expects both fiscal third quarter releases to be
profitable based upon ancillary revenue pre-sales, DVD pre-orders as well as
projected transactional video-on-demand results.
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Direct Operating Expenses
For the Nine Months Ended December 31,
($ in thousands) 2012 2011 $ Change % Change
Phase I Deployment $ 347 $ 466 $ (119 ) (26 )%
Phase II Deployment 513 256 257 100 %
Services 3,643 3,003 640 21 %
Content & Entertainment 4,029 1,669 2,360 141 %
$ 8,532 $ 5,394 $ 3,138 58 %
Direct operating expenses increased by 58% due to the acquisition of New Video
and the resulting 65% total non-deployment revenue growth. Excluding the impact
of the purchase of New Video, direct operating costs increased by $0.2 million
from the nine months ended December 31, 2011 on a pro-forma basis. The decreased
operating costs in the Phase I Deployment segment and the modest increase in
direct operating costs in the Phase II Deployment segment was primarily due to
respective decreases and increases in property taxes and insurance incurred on
deployed Systems. The increase in the Services segment was primarily related to
(i) additional administrative and financial personnel required to service our
growing Phase 2 screens; and (ii) additional personnel costs to support the
software development requirements of our current and new customers as well as
new product development efforts. The increase in the Content & Entertainment
segment was directly related to our acquisition of New Video along with a large
indie direct fee for service movie release. In addition, we incurred
approximately $1.0 million of expenses related to advances and marketing for
movie releases during the nine months ended December 31, 2012 that we expect to
result in revenues in future quarters from ancillary home entertainment revenue
streams. In accordance with GAAP, Cinedigm must recognize its upfront content
acquisition and marketing expenses at the time of a theatrical release of a
movie. We expect to recover those expenses as well as earn our fee based profits
over the ensuing 12-36 months from revenues earned on the distribution of the
movie in the ancillary home entertainment markets. This timing difference
creates a "J-Curve" and will continue in future periods as we increase our
distribution activities and we will also experience an increase in direct
operating expenses corresponding with additional revenue growth.
Selling, General and Administrative Expenses
For the Nine Months Ended December 31,
($ in thousands) 2012 2011 $ Change % Change
Phase I Deployment $ 89 $ 199 $ (110 ) (55 )%
Phase II Deployment 87 134 (47 ) (35 )%
Services 2,831 2,420 411 17 %
Content & Entertainment 6,194 1,390 4,804 346 %
Corporate 9,263 7,641 1,622 21 %
$ 18,464 $ 11,784 $ 6,680 57 %
Selling, general and administrative expenses increased $6.7 million or 57% in
support of the 65% increase in non-deployment revenues. Total selling, general
and administrative expense declined approximately 2% inclusive of New Video in
both periods on a pro-forma basis. This expense growth rate below the revenue
growth rate is the result of the restructuring activities undertaken by the
Company in the second half of the fiscal year ended March 31, 2012 and focused
expense management. The increase in the Services segment was mainly due to
payroll and related employee expenses for increased staffing as we added
servicing resources to support the expanding digital cinema exhibitor management
efforts as well as additional management, sales resources, software development
and quality assurance staff to support the significant recent software customer
additions. The Content & Entertainment segment increased 21% as a result of our
acquisition of New Video and the additional staff to support our expanded
releasing activities this year. The increase within Corporate was mainly due to
(i) the addition of financial and corporate resources from New Video; (ii)
increased insurance, accounting and legal expenses related to our business
growth and the acquisition of New Video; and (iii) increased travel and sales
costs. Future increases in selling, general and administrative expenses will be
tied to additional revenues as we support our recent new software business
contracts and expanding sales pipeline and our additional content acquisition
and distribution activities with additional sales and service headcount.
39
--------------------------------------------------------------------------------Merger and Acquisition Expenses
Merger and acquisition expenses included in corporate expenses for the nine
months ended December 31, 2012 of $1.3 million include professional fees
incurred which pertained to the purchase of New Video which was consummated in
April 2012.
Restructuring expense
During the nine months ended December 31, 2012, the Company completed a
strategic assessment of its resource requirements within its Content &
Entertainment reporting segment which, based upon the continued integration of
the New Video Acquisition, continued to shift in its business from physical to
digital content distribution and shift to a greater share of its own theatrical
releasing product, resulting in a workforce reduction and severance and employee
related expense of $340. During the nine months ended December 31, 2011, the
Company completed a strategic assessment of its resource requirements within its
ongoing businesses which resulted in a workforce reduction, severance and
employee related expense of $832.
Depreciation and Amortization Expense on Property and Equipment
For the Nine Months Ended December 31,
($ in thousands) 2012 2011 $ Change % Change
Phase I Deployment $ 21,412 $ 21,416 $ (4 ) - %
Phase II Deployment 5,478 4,914 564 11 %
Services 114 121 (7 ) (6 )%
Content & Entertainment 17 4 13 325 %
Corporate 351 264 87 33 %
$ 27,372 $ 26,719 $ 653 2 %
Depreciation and amortization expense increased $0.7 million or 2%. The increase
in the Phase II Deployment segment represents depreciation on the increased
number of Phase 2 DC Systems which were not in service during the fiscal year
ended March 31, 2012. We expect the depreciation and amortization expense in the
Phase II Deployment segment to remain at similar levels as the Phase 2
deployment period has ended and we do not expect to add international Systems
that require consolidation on our balance sheet. In addition, we expect modest
additional growth in Services and Corporate depreciation and amortization
expense tied to technology investments supporting our software expansion.
Content depreciation will in the future reflect the acquisition of New Video
results and additional depreciation and amortization related to our acquisition
of content distribution rights.
Amortization of intangible assets
Amortization of intangible assets increased to $1.1 million from $0.3 million
for the nine months ended December 31, 2012, principally due to the amortization
of intangible assets that were allocated preliminary purchase in connection with
the New Video Acquisition.
Interest expense
For the Nine Months Ended December 31,
($ in thousands) 2012 2011 $ Change % Change
Phase I Deployment $ 6,078 $ 7,969 $ (1,891 ) (24 )%
Phase II Deployment 1,809 1,739 70 4 %
Corporate 13,557 12,835 722 6 %
$ 21,444 $ 22,543 $ (1,099 ) (5 )%
Interest expense decreased $1.1 million or 5%. The 24% decrease in interest
paid and accrued within the non-recourse Phase I Deployment segment relates to
the continued repayment of Phase 1 DC's 2010 Term Loans from free cash flow and
the resulting reduced debt balance offset by additional hedging costs from the
hedge put in place in June 2010. Interest increased within the Phase II
Deployment segment related to the KBC Facilities as we added approximately $14.0
million and $3.5 million of additional non-recourse Phase 2 debt during the
fiscal year ended March 31, 2012 and nine months ended December 31, 2012,
respectively, to fund the purchase of Systems from Barco. Phase 2 DC's
non-recourse interest expense is expected to continue to decrease as it did this
quarter as we continue to repay the KBC Facilities from free cash flow and the
benefit from the resulting reduced debt balance. The increase in interest paid
and accrued within Corporate is related to the 2010 Note. Interest on the 2010
Note is 8% PIK Interest and 7% per annum paid in cash. Through September 30,
2011, the Company had an interest reserve set aside to cover
40
--------------------------------------------------------------------------------cash interest payments on this note. Beginning October 1, 2011, the Company has
paid its cash interest expense through the cash flows from operations.
Non-cash interest expense was approximately $7.3 million and $7.0 million for
the nine months ended December 31, 2012 and 2011, respectively. PIK interest was
$5.7 million and $5.2 million for the nine months ended December 31, 2012 and
2011, respectively. The remaining amounts for the nine months ended December 31,
2012 and 2011 represent the accretion of $1.4 million and $1.6 million,
respectively, on the note payable discount associated with the 2010 Note which
will continue over the term of the 2010 Note and the accretion of $0.2 million
for both periods on the note payable discount associated with the 2010 Term
Loans which will continue over the term of the 2010 Term Loans.
Change in fair value of interest rate swaps
The change in fair value of the interest rate swaps was a gain of $1.0 million
for the nine months ended December 31, 2012 and a gain of less than $0.1 million
for the nine months ended December 31, 2011. The swap agreement in the prior
year related to the prior credit facility, which was terminated on May 6, 2010
upon the completion of the Phase I Deployment refinancing. It has been replaced
by new swap agreements related to the 2010 Term Loans entered into on June 7,
2010 which became effective on June 15, 2011.
Adjusted EBITDA
The Company reported lower Adjusted EBITDA (including its Phase 1 DC and Phase 2
DC subsidiaries) of $42.1 million for the nine months ended December 31, 2012 in
comparison to $44.8 million for the nine months ended December 31, 2011.
Adjusted EBITDA from non-deployment businesses was $4.3 million during the nine
months ended December 31, 2012, declining from $5.5 million during the nine
months ended December 31, 2011. This decline was primarily driven by two
factors: (i) the fiscal year 2012 period was Cinedigm's largest deployment
period ever with approximately 3,419 screens installed versus 2,356 screens this
fiscal year representing an approximately $3.2 million difference period over
period in digital cinema services and software EBITDA all other factors held
constant from the reduction in installations; (ii) as previously discussed, a
number of unexpected releasing decisions made by the major studios reduced
deployment EBITDA by $2.0 million predominantly in fiscal second quarter as
compared to prior year: (i) studios avoided releasing wide titles in the
weekends around the Dark Knight Rises; (ii) studios reduced the breadth of
releases and/or delayed releases in light of the shootings at a Dark Knight
Rises screening in Aurora, CO in July; (iii) studios reduced the breadth and/or
number of releases around the Olympics in August; and (iv) several wide releases
were delayed due to production, marketing or 3D conversion issues. The delayed
releases have been moved to the third and fourth quarters of this fiscal year as
well as the first and second quarters of the next fiscal year. Based on
announced release plans, actual results and our internal estimates, we do not
expect studio releasing patterns like those experienced during the fiscal
quarter ended September 30, 2012 to negatively impact the remainder of the
fiscal year. Finally, as previously described and inclusive in these results,
the Company incurred approximately $1.0 million of "J-Curve" content
distribution costs and $0.6 million of related revenues in the nine months ended
December 31, 2012 in advance of earning additional ancillary home entertainment
revenues. The Company continues to benefit from growth in its installed Systems,
growth in software license and maintenance fees and the inherent operating
leverage embedded in its business model. Phase 1 DC and Phase 2 DC revenues are
expected to be relatively flat going forward as the domestic deployment period
ended at January 31, 2013 and any remaining domestic and international
installations will be through an Exhibitor-Buyer structure or other servicing
partnerships. Based on the expected growth in and recently signed software
contracts and the expansion in CEG driven by the acquisition of New Video and
our independent film release slate, the Company expects Adjusted EBITDA
performance to continue to improve during the remainder of the fiscal year ended
March 31, 2013 relative to prior year results. The Company intends to invest in
the growth of its business through the acquisition of content distribution
rights, related marketing related expenditures and through the continued
development of additional software products and services.
Adjusted EBITDA is not a measurement of financial performance under U.S.
generally accepted accounting principles ("GAAP") and may not be comparable to
other similarly titled measures of other companies. The Company uses Adjusted
EBITDA as a financial metric to measure the financial performance of the
business because management believes it provides additional information with
respect to the performance of its fundamental business activities. For this
reason, the Company believes Adjusted EBITDA will also be useful to others,
including its stockholders, as a valuable financial metric.
Management presents Adjusted EBITDA because it believes that Adjusted EBITDA is
a useful supplement to net loss from continuing operations as an indicator of
operating performance. Management also believes that Adjusted EBITDA is a
financial measure that is useful both to management and investors when
evaluating the Company's performance and comparing our performance with the
performance of our competitors. Management also uses Adjusted EBITDA for
planning purposes, as well as to evaluate the Company's performance because
Adjusted EBITDA excludes certain non-recurring or non-cash items, such as
stock-based compensation charges, that management believes are not indicative of
the Company's ongoing operating performance.
41
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The Company believes that Adjusted EBITDA is a performance measure and not a
liquidity measure, and a reconciliation between net loss from continuing
operations and Adjusted EBITDA is provided in the financial results. Adjusted
EBITDA should not be considered as an alternative to income from operations or
net loss from continuing operations as an indicator of performance or as an
alternative to cash flows from operating activities as an indicator of cash
flows, in each case as determined in accordance with GAAP, or as a measure of
liquidity. In addition, Adjusted EBITDA does not take into account changes in
certain assets and liabilities as well as interest and income taxes that can
affect cash flows. Management does not intend the presentation of these non-GAAP
measures to be considered in isolation or as a substitute for results prepared
in accordance with GAAP. These non-GAAP measures should be read only in
conjunction with the Company's condensed consolidated financial statements
prepared in accordance with GAAP.
Following is the reconciliation of the Company's consolidated Adjusted EBITDA to
consolidated GAAP net loss from continuing operations:
For the Nine Months Ended December 31,
($ in thousands) 2012 2011
Net loss from continuing operations $ (9,273 ) $ (8,437 )
Add Back:
Amortization of capitalized software costs 829 494
Depreciation and amortization of property and
equipment 27,372 26,719
Amortization of intangible assets 1,120 253
Interest income (20 ) (96 )
Interest expense 21,444 22,543
Other income, net (494 ) (606 )
Income on investment in non-consolidated
entity (1,340 ) 343
Change in fair value of interest rate swap (1,025 ) (29 )
Stock-based expenses 343 704
Stock-based compensation 1,527 1,479 Merger and acquisition expenses 1,267 -
Restructuring expenses 340 832
Allocated costs attributable to discontinued
operations - 623
Adjusted EBITDA $ 42,090 $ 44,822
Adjustments related to the Phase I and Phase
II Deployments:
Depreciation and amortization of property and
equipment $ (26,890 ) $ (26,330 )
Amortization of intangible assets (39 ) (39 )
Income from operations (13,563 ) (16,312 )
Intersegment services fees earned (1) 2,661 3,323
Adjusted EBITDA from non-deployment businesses $ 4,259 $ 5,464
(1) Intersegment revenues of the Services segment represent service fees earned
from the Phase I and Phase II Deployments.
42
--------------------------------------------------------------------------------Critical Accounting Policies
The following is a discussion of our critical accounting policies.
PROPERTY AND EQUIPMENT
Property and equipment are stated at cost, less accumulated depreciation and
amortization. Depreciation expense is recorded using the straight-line method
over the estimated useful lives of the respective assets as follows:
Computer equipment and software 3-5 years
Digital cinema projection systems 10 years
Machinery and equipment 3-10 years
Furniture and fixtures 3-6 years
Leasehold improvements are being amortized over the shorter of the lease term or
the estimated useful life of the improvement. Maintenance and repair costs are
charged to expense as incurred. Major renewals, improvements and additions are
capitalized.
Useful lives are determined based on an estimate of either physical or economic
obsolescence, or both. During the three months ended December 31, 2012 and 2011,
the Company has not made any revisions to estimated useful lives, nor recorded
any impairment charges on its fixed assets of our continuing operations.
CAPITALIZED SOFTWARE DEVELOPMENT COSTS
Internal Use Software
The Company accounts for internal use software development costs based on three
distinct stages. The first stage, the preliminary project stage, includes the
conceptual formulation, design and testing of alternatives. The second stage, or
the program instruction phase, includes the development of the detailed
functional specifications, coding and testing. The final stage, the
implementation stage, includes the activities associated with placing a software
project into service. All activities included within the preliminary project
stage are considered research and development and expensed as incurred. During
the program instruction phase, all costs incurred until the software is
substantially complete and ready for use, including all necessary testing, are
capitalized, Capitalized costs are amortized when the software is ready for its
intended use on a straight-line basis over estimated lives ranging from three to
five years.
Software to be Sold, Licensed or Otherwise Marketed
Software development costs that are incurred subsequent to establishing
technological feasibility, when it is determined that the software can be
produced to meet its design specifications, are capitalized until the product is
available for general release. Amounts capitalized as software development costs
are amortized using the greater of revenues during the period compared to the
total estimated revenues to be earned or on a straight-line basis over estimated
lives ranging from three to five years, except for deployment software which is
for ten years. The Company reviews capitalized software costs to determine if
any impairment exists on a periodic basis.
GOODWILL AND INDEFINITE-LIVED INTANGIBLE ASSETS
Goodwill is the excess of the purchase price paid over the fair value of the net
assets of an acquired business. Goodwill and intangible assets with indefinite
lives are not amortized; rather, they are tested for impairment on at least an
annual basis.
The Company's process of evaluating goodwill for impairment involves the
determination of fair value of its goodwill reporting units: Software and
CEG. The Company conducts its annual goodwill impairment analysis during the
fourth quarter of each fiscal year, measured as of March 31, unless triggering
events occur which require goodwill to be tested at another date. As discussed
in Note 1 to the financial statements, goodwill increased as a result of the New
Video Acquisition. During the three months ended December 31, 2012 and 2011, no
impairment charge was recorded for goodwill related to the Company's continued
operations.
43--------------------------------------------------------------------------------For further details on the Company's process for evaluating goodwill for
impairment, refer to the Company's Form 10-K. Information related to the
goodwill allocated to the Company is detailed below:
Content &
($ in thousands) Phase I Phase II Services Entertainment Corporate Consolidated
As of March 31, 2012 $ - $ - $ 4,197 $ 1,568 $ - $ 5,765
Goodwill resulting
from the New Video
Acquisition - - - 1,336 - 1,336
As of December 31,
2012 $ - $ - $ 4,197 $ 2,904 $ - $ 7,101
As of December 31, 2012, the Company's finite-lived intangible assets consisted
of customer relationships and agreements, theatre relationships, covenants not
to compete, a favorable operating lease, trade names and trademarks. The
Company's indefinite-lived asset resulted from the New Video Acquisition in
April 2012. For the three months ended December 31, 2012 and 2011, no impairment
charge was recorded for intangible assets.
REVENUE RECOGNITION
Phase I Deployment and Phase II Deployment
Virtual print fees ("VPFs") are earned pursuant to contracts with movie studios
and distributors, whereby amounts are payable by a studio to Phase 1 DC, CDF I
and to Phase 2 DC, when movies distributed by the studio are displayed on
screens utilizing the Company's Systems installed in movie theatres. VPFs are
earned and payable to Phase 1 DC and CDF I based on a defined fee schedule with
a reduced VPF rate year over year until the sixth year (calendar 2011) at which
point the VPF rate remains unchanged through the tenth year. One VPF is payable
for every digital title displayed per System. The amount of VPF revenue is
dependent on the number of movie titles released and displayed using the Systems
in any given accounting period. VPF revenue is recognized in the period in which
the digital title first plays on a System for general audience viewing in a
digitally-equipped movie theatre, as Phase 1 DC's, CDF I's and Phase 2 DC's
performance obligations have been substantially met at that time.
Phase 2 DC's agreements with distributors require the payment of VPFs, according
to a defined fee schedule, for ten years from the date each system is installed;
however, Phase 2 DC may no longer collect VPFs once "cost recoupment," as
defined in the agreements, is achieved. Cost recoupment will occur once the
cumulative VPFs and other cash receipts collected by Phase 2 DC have equaled the
total of all cash outflows, including the purchase price of all Systems, all
financing costs, all "overhead and ongoing costs", as defined, and including the
Company's service fees, subject to maximum agreed upon amounts during the
three-year rollout period and thereafter, plus a compounded return on any billed
but unpaid overhead and ongoing costs, of 15% per year. Further, if cost
recoupment occurs before the end of the eighth contract year, a one-time "cost
recoupment bonus" is payable by the studios to the Company. Any other cash
flows, net of expenses, received by Phase 2 DC following the achievement of cost
recoupment are required to be returned to the distributors on a pro-rata basis.
At this time, the Company cannot estimate the timing or probability of the
achievement of cost recoupment.
Alternative content fees ("ACFs") are earned pursuant to contracts with movie
exhibitors, whereby amounts are payable to Phase 1 DC, CDF I and to Phase 2 DC,
generally either a fixed amount or as a percentage of the applicable box office
revenue derived from the exhibitor's showing of content other than feature
films, such as concerts and sporting events (typically referred to as
"alternative content"). ACF revenue is recognized in the period in which the
alternative content first opens for audience viewing.
Revenues are deferred for up front exhibitor contributions and are recognized
over the cost recoupment period, which is a period of ten years.
Services
For software multi-element licensing arrangements that do not require
significant production, modification or customization of the licensed software,
revenue is recognized for the various elements as follows: revenue for the
licensed software element is recognized upon delivery and acceptance of the
licensed software product, as that represents the culmination of the earnings
process and the Company has no further obligations to the customer, relative to
the software license. Revenue earned from consulting
44
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services is recognized upon the performance and completion of these services.
Revenue earned from annual software maintenance is recognized ratably over the
maintenance term (typically one year).
Revenue is deferred in cases where: (1) a portion or the entire contract amount
cannot be recognized as revenue, due to non-delivery or pre-acceptance of
licensed software or custom programming, (2) uncompleted implementation of
application service provider arrangements ("ASP Service"), or (3) unexpired
pro-rata periods of maintenance, minimum ASP Service fees or website
subscription fees. As license fees, maintenance fees, minimum ASP Service fees
and website subscription fees are often paid in advance, a portion of this
revenue is deferred until the contract ends. Such amounts are classified as
deferred revenue and are recognized as earned revenue in accordance with the
Company's revenue recognition policies described above.
Exhibitors who will purchase and own Systems using their own financing in the
Phase II Deployment, will pay an upfront activation fee that is generally $2
thousand per screen to the Company (the "Exhibitor-Buyer Structure"). These
upfront activation fees are recognized in the period in which these exhibitor
owned Systems are ready for content, as the Company has no further obligations
to the customer, and are generally paid quarterly from VPF revenues over
approximately one year. Additionally, the Company recognizes activation fee
revenue of between $1 thousand and $2 thousand on Phase 2 DC Systems and for
Systems installed by Holdings upon installation and are generally collected
upfront upon installation. The Company will then manage the billing and
collection of VPFs and will remit all VPFs collected to the exhibitors, less an
administrative fee that will approximate up to 10% of the VPFs collected.
The administrative fee related to the Phase I Deployment approximates 5% of the
VPFs collected. This administrative fee is recognized in the period in which the
billing of VPFs occurs, as performance obligations have been substantially met
at that time.
Content & Entertainment
CEG earns fees for the distribution of content in the home entertainment markets
via several distribution channels, including digital, video-on-demand, and
physical goods (e.g. DVD and Blu-Ray Disc). The fee rate earned by the Company
varies depending upon the nature of the agreements with the platform and content
providers. Generally, revenues are recognized at the availability date of the
content for a subscription digital platform, at the time of shipment for
physical goods, or point-of-sale for transactional and video-on-demand services.
CEG also has contracts for the theatrical distribution of third party feature
films and alternative content. CEG's distribution fee revenue and CEG's
participation in box office receipts is recognized at the time a feature film
and alternative content is viewed. CEG has the right to receive or bill a
portion of the theatrical distribution fee in advance of the exhibition date,
and therefore such amount is recorded as a receivable at the time of execution,
and all related distribution revenue is deferred until the third party feature
films' or alternative content's theatrical release date.
Recent Accounting Pronouncements
Recently Adopted Standards
In July 2012, the FASB issued a new accounting standard update, which amends
guidance allowing an entity to first assess qualitative factors to determine
whether the existence of events and circumstances indicates that it is more
likely than not that the indefinite - lived intangible asset is impaired. This
assessment should be used as a basis for determining whether it is necessary to
perform the quantitative impairment test. An entity would not be required to
calculate the fair value of the intangible asset and perform the quantitative
test unless the entity determines, based upon its qualitative assessment, that
it is more likely than not that its fair value is less than its carrying value.
The update provides further guidance of events and circumstances that an entity
should consider in determining whether it is more likely than not that the fair
value of an indefinite - lived intangible asset is less than its carrying
amount. The update also allows an entity the option to bypass the qualitative
assessment for any indefinite-lived intangible asset in any period and proceed
directly to performing the quantitative impairment test. An entity will be able
to resume performing the qualitative assessment in any subsequent period. This
update is effective for annual and interim periods beginning after September 15,
2012, with early adoption permitted. The Company adopted this standard on
October 1, 2012. The adoption of this standard did not have a material impact on
the condensed consolidated financial statements and disclosures.
In October 2012, the FASB issued a new accounting standard update, which aligns
the guidance on fair value measurements in the impairment test of unamortized
film costs with the guidance on fair value measurements in other instances
within GAAP. The amendments in this update eliminate certain requirements
related to an impairment assessment of unamortized film costs and clarify when
unamortized film costs should be assessed for impairment. This update does not
add any new guidance to the FASB's codification for Entertainment - Films. This
update is effective for the Company's impairment assessments performed on or
after December 15, 2012. The Company adopted this standard on January 1, 2013.
The adoption of this standard did not have a material impact on the condensed
consolidated financial statements and disclosures.
45
--------------------------------------------------------------------------------Liquidity and Capital Resources
We have incurred net losses each year since we commenced our operations. Since
our inception, we have financed our operations substantially through the private
placement of shares of our common and preferred stock, the issuance of
promissory notes, our initial public offering and subsequent private and public
offerings, notes payable and common stock used to fund various acquisitions.
Our business is primarily driven by the rapidly expanding digital cinema
marketplace and the primary revenue driver will be the increasing number of
digitally equipped screens, the growing demand for software to power these
screens and drive other efficiencies and the demand for entertainment content in
both theatrical and home ancillary markets. According to the Motion Picture
Association of America, during 2011 there were approximately 42,000 domestic
(United States and Canada) movie theatre screens and approximately 124,000
screens worldwide, of which approximately 28,000 of the domestic screens were
equipped with digital cinema technology, and 11,687 of those screens contained
our Systems and software. The Company's North American digital deployment period
ended at January 31, 2013 other than a modest special program for drive-in
theaters. We have deployed 3,724 screens in our Phase I Deployment, and through
December 31, 2012 have deployed 7,963 Phase 2 Systems. To date, the number of
digitally-equipped screens in the marketplace has been a significant determinant
of our potential revenue streams. The expansion of our content business into the
ancillary distribution markets increases our growth opportunities as the rapidly
evolving digital and entertainment landscape creates significant new growth
opportunities for the Company.
Beginning in May 2010, Phase 2 B/AIX, an indirect wholly-owned subsidiary of the
Company, entered into additional credit facilities, the KBC Facilities, to fund
the purchase of Systems from Barco, to be installed in movie theatres as part of
the Company's Phase II Deployment. As of December 31, 2012, the outstanding
principal balance of the KBC Facilities was $45.6 million.
As of December 31, 2012, we had negative working capital, defined as current
assets less current liabilities, of $8.3 million and cash and cash equivalents
and restricted cash totaling $23.1 million.
Operating activities provided net cash of $24.0 million and $29.8 million for
the nine months ended December 31, 2012 and 2011, respectively. Our business is
primarily driven by the emerging digital cinema marketplace and the primary
driver of its operating cash flow is the number of installed Systems and the
pace of continued installations. Generally, changes in accounts receivable from
our studio customers and others is a large component of operating cash flow, and
during a period of increasing system deployments, the Company expects studio
receivables to grow and negatively impact working capital and operating cash
flow. During periods of fewer deployments, the Company expects receivables to
decrease and positively impact cash flow, and eventually to stabilize. The CEG
business differs slightly from our deployment business as we will continue to
build receivables, the amount of which will depend upon the success of the
theatrical releases, through the end of this fiscal year which the Company
expects to collect upon during the first quarter of the next fiscal year. The
changes in the Company's trade accounts payable is also a significant factor,
but even in a period of deployments, the Company does not anticipate major
changes in payables activity. The Company is also subject to changes in interest
expense due to increasing debt levels to fund digital cinema installations, and
also has non-cash expense fluctuations, primarily resulting from the change in
the fair value of interest rate swap arrangements. We expect operating
activities to continue to be a positive source of cash.
Investing activities used net cash of $0.4 million and used net cash of $17.2
million for the nine months ended December 31, 2012 and 2011, respectively. The
decrease is primarily attributed to the sale of previously restricted available
for sale investments, more than offsetting cash paid for the purchase of New
Video, net of cash acquired. We expect cash used in investing activities to
decline significantly as we do not expect many additional Phase 2 DC System
deployments to be funded by the Company. All Phase 2 DC Systems purchased are
financed with non-recourse debt and exhibitor contributions. Cinedigm does not
fund any of the Systems capital expenditures from its operating cash flows.
Financing activities used net cash of $24.2 million and $6.7 million for the
nine months ended December 31, 2012 and 2011, respectively. The repayment of the
2010 Term Loans and the KBC facility during the nine months ended December 31,
2012 were offset in part by net proceeds from the sale of common stock in April,
2012. Financing activities are expected to continue using the net cash generated
from the Phase 1 and Phase 2 DC operations, primarily for principal repayments
on the 2010 Term Loans and other existing debt facilities.
We have contractual obligations that include long-term debt consisting of notes
payable, credit facilities, non-cancelable long-term capital lease obligations
for the Pavilion Theatre and other various computer related equipment,
non-cancelable operating leases consisting of real estate leases, and minimum
guaranteed obligations under theatre advertising agreements with exhibitors for
displaying cinema advertising. The capital lease obligation of the Pavilion
Theatre is paid by an unrelated third party, although Cinedigm remains the
primary lessee and would be obligated to pay if the unrelated third party were
to default on its rental payment
46
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obligations. The sub-lease agreement was amended during January 2013. The impact
of the capital lease amendment to the Company's condensed consolidated financial
statements is not expected to be material.
The following table summarizes our significant contractual obligations as of
December 31, 2012:
Payments Due
Contractual Obligations ($ in 2014 & 2016 &
thousands) Total 2013 2015 2017 Thereafter
Long-term recourse debt (1) $ 111,446 $ - $ 111,446 $ - $ -
Long-term non-recourse debt (2) 138,246 33,562 72,307 27,075 5,302
Capital lease obligations (3) 5,296 230 606 861 3,599
Debt-related obligations,
principal 254,988 33,792 184,359 27,936 8,901
Interest on recourse debt 11,698 7,074 4,624 - -Interest on non-recourse debt 14,583 6,118 6,959
1,379 127
Interest on capital leases (3) 5,742 920 1,698 1,443 1,681
Total interest 32,023 14,112 13,281 2,822 1,808
Total debt-related obligations $ 287,011 $ 47,904 $ 197,640 $ 30,758 $ 10,709
Operating lease obligations (4) $ 5,318 $ 1,447 $ 2,887 $ 984 $ -
Purchase commitments (5) 2,946 2,946 - - -
Obligations to be included in
operating expenses $ 8,264 $ 4,393 $ 2,887 $ 984 $ -
Total non-recourse debt including
interest $ 152,829 $ 39,680 $ 79,266 $ 28,454 $ 5,429
(1) The 2010 Note is due August 2014, but may be extended for one 12 month
period at the discretion of the Company to August 2015, if certain conditions set forth in the 2010 Note are satisfied. Includes interest of
$23.1 million on the 2010 Note to be accrued as an increase in the
aggregate principal amount of the 2010 Note ("PIK Interest").
(2) Non-recourse debt is generally defined as debt whereby the lenders' sole
recourse with respect to defaults by the Company is limited to the value
of the asset, which is collateral for the debt. The 2010 Term Loans are
not guaranteed by the Company or its other subsidiaries, other than Phase 1 DC and CDF I, and the KBC Facilities are not guaranteed by the Company
or its other subsidiaries, other than Phase 2 DC.
(3) Principally represents the capital lease and capital lease interest for the Pavilion Theatre. The Company has remained the primary obligor on the
Pavilion capital lease, and therefore, the capital lease obligation and
related assets under the capital lease remain on the Company's condensed
consolidated financial statements as of December 31, 2012. The Company
has, however, entered into a sub-lease agreement with the unrelated third
party purchaser which pays the capital lease and as such, has no
continuing involvement in the operation of the Pavilion Theatre. This
capital lease was previously included in discontinued operations.
(4) Includes the remaining operating lease agreement for one IDC lease now
operated and paid for by FiberMedia, consisting of unrelated third parties. FiberMedia currently pays the lease directly to the landlord and
the Company will attempt to obtain landlord consent to assign the facility
lease to FiberMedia. Until such landlord consents are obtained, the
Company will remain as the lessee.
(5) For additional Phase II Systems to be purchased from Barco with funds from
the increase in the non-recourse KBC Facility.
We may continue to generate net losses for the foreseeable future primarily due
to depreciation and amortization, interest on the 2010 Term Loans, interest on
the 2010 Note, software development, marketing and promotional activities and
the development of relationships with other businesses. Certain of these costs,
including costs of software development and marketing and promotional
activities, could be reduced if necessary. The restrictions imposed by the 2010
Note and the 2010 Credit Agreement may limit our ability to obtain financing,
make it more difficult to satisfy our debt obligations or require us to dedicate
a substantial portion of our cash flow to payments on our existing debt
obligations, thereby reducing the availability of our cash flow to fund working
capital, capital expenditures and other corporate requirements. We may seek to
raise additional capital for strategic acquisitions or working capital as
necessary. Failure to generate additional revenues, raise additional capital or
manage discretionary spending could have an adverse effect on our financial
position, results of operations or liquidity.
47
--------------------------------------------------------------------------------Seasonality
Revenues from our Phase I Deployment and Phase II Deployment segments derived
from the collection of VPFs from motion picture studios are seasonal, coinciding
with the timing of releases of movies by the motion picture studios. Generally,
motion picture studios release the most marketable movies during the summer and
the holiday season. The unexpected emergence of a hit movie during other periods
can alter the traditional trend. The timing of movie releases can have a
significant effect on our results of operations, and the results of one quarter
are not necessarily indicative of results for the next quarter or any other
quarter. We believe the seasonality of motion picture exhibition, however, is
becoming less pronounced as the motion picture studios are releasing movies
somewhat more evenly throughout the year.
Off-balance sheet arrangements
We are not a party to any off-balance sheet arrangements, other than operating
leases in the ordinary course of business, which are disclosed above in the
table of our significant contractual obligations, and Holdings. In addition, as
discussed further in Note 2 to the Condensed Consolidated Financial Statements,
the Company holds a 100% equity interest in Holdings, which is an unconsolidated
variable interest entity ("VIE"), which wholly owns Cinedigm Digital Funding 2,
LLC; however, the Company is not the primary beneficiary of the VIE.
Impact of Inflation
The impact of inflation on our operations has not been significant to
date. However, there can be no assurance that a high rate of inflation in the
future would not have an adverse impact on our operating results.
48--------------------------------------------------------------------------------
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