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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
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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 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 $2,611 and $230 during the three months
ended September 30, 2012 and 2011, respectively, and we have an accumulated
deficit of $228,985 as of September 30, 2012. Included in our consolidated net
losses were $10 and $432 during the three months ended September 30, 2012 and
2011, respectively, of income attributed to discontinued operations. We also
have significant contractual obligations related to our debt for the remainder
of the fiscal year ended March 31, 2013 and beyond. We may continue generating
consolidated net losses, including our non-recourse deployment subsidiaries, for
the foreseeable future. Based on our cash position at September 30, 2012, and
expected cash flows from operations, we believe that we have the ability to meet
our obligations through at least September 30, 2013. Failure to generate
additional revenues, raise additional capital or manage discretionary spending
could have an adverse effect on our financial position, results of operations or
liquidity.
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Results of Continuing Operations for the Three Months Ended September 30, 2012
and 2011
Revenues
For the Three Months Ended September 30,
($ in thousands) 2012 2011 $ Change % Change
Phase I Deployment $ 10,615 $ 11,745 $ (1,130 ) (10 )%
Phase II Deployment 3,525 3,916 (391 ) (10 )%
Services 4,866 4,721 145 3 %
Content & Entertainment 3,603 646 2,957 458 %
$ 22,609 $ 21,028 $ 1,581 8 %
Revenues increased $1.6 million or 8% during the three months ended
September 30, 2012 with the organic growth in revenues in Content and
Entertainment as well as the New Video Acquisition, more than offsetting a
decrease in deployment revenues. The year on year comparison in Services was
also impacted as the three months ended September 30, 2011 was our largest
deployment quarter ever with 1,455 screens installed as compared to 875 screens
installed during the three months ended September 30, 2012. In addition,
deployment revenues in Phase 1 and Phase 2 declined due to a number of
unexpected releasing decisions during the period made by the major studios: (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 quarter 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 Digital Cinema's ("DC")
financed Systems installed and ready for content increased to 2,359 at
September 30, 2012 from 1,580 Systems at September 30, 2011. Non-deployment
revenues grew 58% period over period inclusive of New Video and 5% period on
period assuming New Video had been included within the three months ended
September 30, 2011 operating results.
The $0.1 million, or 3%, increase in revenues in the Services segment was
primarily due to a modest increase in digital cinema servicing fees as 875 Phase
2 DC Cinedigm-Financed and Exhibitor-Buyer Structure Systems were installed
during the three months ended September 30, 2012 and a total of 7,128 installed
Phase 2 Systems were generating service fees in contrast to 4,258 Phase 2
Systems at September 30, 2011. Software revenues also declined modestly as an
increase in TDS license fees and recurring exhibition software maintenance fees
offset much of the reduction in Phase 2 installations and resulting license fees
as compared to the prior year period. The fiscal quarter ended September 30,
2011 was the Company's largest deployment quarter ever with 1,455 Phase 2
installations driving digital cinema activation fees and software license fees
to be approximately $2.4 million higher than earned from the 875 installations
this quarter, the Company's second highest quarter ever. We expect continued
growth in services as we (i) complete the remaining deployments from our 1,406
domestic screen backlog; (ii) commence international servicing and software
installations in Australia, the Caribbean and Europe in the fourth quarter of
the current fiscal year; (iii) recognize additional revenues from recently
signed software customers upon installation in the remainder of this fiscal year
and next fiscal year; and (iv) continue growth in software and cinema services
from our strong sales pipeline.
As of September 30, 2012, Cinedigm provides its digital cinema services through
both its Phase II deployment subsidiary and third party Exhibitor-Buyer
Structure customers to a total of 7,128 Phase 2 DC screens in comparison to
4,258 at September 30, 2011 and 5,609 at March 31, 2012. Cinedigm also services
an additional 3,724 screens in its Phase I deployment subsidiary as of
September 30, 2012. We will deploy additional Phase 2 DC Systems under various
non-recourse credit facility commitments and will receive fees through the
Exhibitor-Buyer Structure and CDF2 Holdings, LLC ("Holdings").
The CEG business expanded significantly to revenues of $3.6 million due to
organic growth and the acquisition of New Video which was completed on April 20,
2012 during the first quarter of the fiscal year ending March 31, 2013. Total
CEG revenues increased 8%, period over period, inclusive of New Video in both
periods. CEG has grown its historical fee-for-service theatrical releasing
efforts (Indie Direct) as well as expanded the New Video ancillary market
distribution efforts of distributing both movies and television entertainment
content into digital, video on demand and physical goods (DVDs and Blue Ray).
CEG is utilizing the combined resources of its existing theatrical releasing
infrastructure and the New Video home entertainment distribution capabilities to
acquire the North American distribution rights in all media for independent
films as well as to launch several programmatic alternative content channels.
During the seasonally slow three months ended September 30, 2012, CEG acquired
the distribution rights to 1 additional independent film and ended the quarter
with 6 independent films under contract. Subsequent to quarter end, CEG has
acquired 4 additional independent films for a total of 10
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acquired during this fiscal year and has an active acquisition pipeline. CEG
expects to release 7 of these movies in the current fiscal year with The Citadel
having been released theatrically on November 9th and In Our Nature to be
released on December 7th. In addition, CEG theatrically released its first movie
from this ten movie slate, The Invisible War, in June 2012. CEG recognized
modest theatrical and ancillary revenues in this quarter as the title was not
released into ancillary markets until very late September 2012. Based upon
ancillary revenue pre-sales, as well as preliminary transactional
video-on-demand results, CEG will be profitable on this title.
Direct Operating Expenses
For the Three Months Ended September 30,
($ in thousands) 2012 2011 $ Change % Change
Phase I Deployment $ 94 $ 118 $ (24 ) (20 )%
Phase II Deployment 158 50 108 216 %
Services 1,280 950 330 35 %
Content & Entertainment 1,396 579 817 141 %
$ 2,928 $ 1,697 $ 1,231 73 %
Direct operating expenses increased by 73% due to the acquisition of New Video
and the resulting 58% total non-deployment revenue growth. Excluding the impact
of the purchase of New Video, direct operating costs increased by $0.5 million
from the three months ended September 30, 2011. 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 along with a large
indie direct fee for service movie release. In addition, we incurred
approximately $0.15 million of "J-Curve" expenses related to advances and
marketing for movie releases during the three months ended September 30, 2012
that we expect to be offset by revenues in future quarters from ancillary home
entertainment revenue streams. In accordance with GAAP, Cinedigm must recognize
its upfront content acquisition and marketing expenses at the time of a
theatrical release of a movie. We expect to recover those expenses as well as
earn our fee based profits over the ensuing 12-36 months from revenues earned on
the distribution of the movie in the ancillary home entertainment markets. This
timing difference creates a "J-Curve" and will continue in future periods as we
increase our distribution activities and we will also experience an increase in
direct operating expenses corresponding with additional revenue growth.
Selling, General and Administrative Expenses
For the Three Months Ended September 30,
($ in thousands) 2012 2011 $ Change % Change
Phase I Deployment $ 56 $ 52 $ 4 8 %
Phase II Deployment 26 32 (6 ) (19 )%
Services 906 716 190 27 %
Content & Entertainment 2,192 592 1,600 270 %
Corporate 3,126 2,679 447 17 %
$ 6,306 $ 4,071 $ 2,235 55 %
Selling, general and administrative expenses increased $2.2 million or 55% in
support of the 58% increase in non-deployment revenues. Total selling, general
and administrative expense declined by approximately 1% period over period
inclusive of New Video in both periods. This limited expense growth rate is the
result of the restructuring activities undertaken by the Company in the second
half of the fiscal year 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 sales resources during the previous fiscal year
to support the expanding digital cinema exhibitor servicing 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 270% 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
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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 September 30, 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 shift in its business from physical to
digital content distribution and shift to a greater share of its own theatrical
releasing product, resulted in a workforce reduction and severance and employee
related expense of $340.
Depreciation and Amortization Expense on Property and Equipment
For the Three Months Ended September 30,
($ in thousands) 2012 2011 $ Change % Change
Phase I Deployment $ 7,137 $ 7,139 $ (2 ) - %
Phase II Deployment 1,828 1,599 229 14 %
Services 35 27 8 30 %
Content & Entertainment 5 1 4 400 %
Corporate 115 103 12 12 %
$ 9,120 $ 8,869 $ 251 3 %
Depreciation and amortization expense increased $0.3 million or 3%. The increase
in the Phase II Deployment segment represents depreciation on the increased
number of Phase 2 DC Systems which were not in service during the fiscal year
ended March 31, 2012. We expect the depreciation and amortization expense in
the Phase II Deployment segment to remain at similar levels as limited future
Phase 2 DC Systems will be added that require consolidation on our balance sheet
and we expect modest additional growth in Services and Corporate depreciation
and amortization expense tied to technology investments supporting our software
expansion. Content depreciation will in the future reflect the additional
depreciation from New Video and additional depreciation and amortization related
to our acquisition of content distribution rights.
Interest expense
For the Three Months Ended September 30,
($ in thousands) 2012 2011 $ Change % Change
Phase I Deployment $ 2,080 $ 2,714 $ (634 ) (23 )%
Phase II Deployment 602 522 80 15 %
Corporate 4,599 4,333 266 6 %
$ 7,281 $ 7,569 $ (288 ) (4 )%
Interest expense decreased $0.3 million or 4%. The 23% 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 non-recourse credit facilities with KBC Bank
NV (the "KBC Facilities") as we added approximately $14.0 million of additional
non-recourse Phase 2 debt during the fiscal year ended March 31, 2012 to fund
the purchase of Systems from Barco. Phase 2 DC's non-recourse interest expense
is expected to increase modestly with the growth in deployments during the
fiscal year ending March 31, 2013 as the Company does not expect to incur any
significant increase in non-recourse indebtedness to fund these deployments. 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 September 30, 2012 and 2011, respectively. PIK interest
was $1.9 million and $1.7 million for the three months ended September 30, 2012
and 2011, respectively. The remaining amounts for the three months ended
September 30, 2012 and 2011 represent the accretion of $0.4 million on the note
payable discount associated with the 2010 Note which will continue over the term
of the 2010 Note
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and the accretion of $0.1 million 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 September 30, 2012 and a loss of $0.8 million for the
three months ended September 30, 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 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, allowance
for doubtful accounts 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 11 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 lower Adjusted EBITDA (including its Phase 1 DC and Phase 2
DC subsidiaries) of $14.1 million for the three months ended September 30, 2012
in comparison to $16.9 million for the three months ended September 30, 2011.
Adjusted EBITDA from non-deployment businesses increased 48% from the quarter
ended June 30, 2012 to $1.2 million during the three months ended September 30,
2012, and fell from from $3.2 million during the three months ended
September 30, 2011. This decline was primarily driven by two factors: (i) the
fiscal year 2012 second quarter was Cinedigm's largest deployment quarter ever
with 1,455 screens installed versus 875 this quarter representing an
approximately $2.3 million difference year over year in digital cinema services
and software EBITDA from the reduction in installations; (ii) as previously
discussed, a number of unexpected releasing decisions made by the major studios
reduced deployment EBITDA by $0.8 million 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 $0.15 million of
"J-Curve" content distribution costs in the three months ended September 30,
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 remaining growth in service revenues is expected to be
through installations within the Exhibitor-Buyer Structure or Systems financed
by Holdings, which the Company does not consolidate into its Consolidated
Statements of Operations. Based on the expected growth in and recently signed
software contracts and the expansion in CEG driven by the acquisition of New
Video, 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 although the Company intends to invest in the growth of its
business through the acquisition of content distribution rights and through
related marketing related expenditures as well as through 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
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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.
Following is the reconciliation of the Company's consolidated Adjusted EBITDA to
consolidated GAAP net loss from continuing operations:
For the Three Months Ended September 30,
($ in thousands) 2012 2011
Net loss from continuing operations $ (2,621 ) $ (662 )
Add Back:
Amortization of capitalized software costs 277 152
Depreciation and amortization of property and
equipment 9,120 8,869
Amortization of intangible assets 223 77
Interest income (3 ) (24 )
Interest expense 7,281 7,569
Other income, net (193 ) (385 )
Income on investment in non-consolidated
entity (631 ) -
Change in fair value of interest rate swap (255 ) (219 )
Stock-based expenses (5 ) 562
Stock-based compensation 528 464
Restructuring expenses 340 -
Allocated costs attributable to discontinued
operations - 504
Adjusted EBITDA $ 14,061 $ 16,907
Adjustments related to the Phase I and Phase
II Deployments:
Depreciation and amortization of property and
equipment $ (8,965 ) $ (8,738 )
Amortization of intangible assets (13 ) (15 )
Income from operations (4,760 ) (6,611 )
Intersegment services fees earned (1) 898 1,702
Adjusted EBITDA from non-deployment businesses $ 1,221 $ 3,245
(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 Six Months Ended September 30, 2012 and
2011
Revenues
For the Six Months Ended September 30,
($ in thousands) 2012 2011 $ Change % Change
Phase I Deployment $ 21,050 $ 23,329 $ (2,279 ) (10 )%
Phase II Deployment 7,077 6,901 176 3 %
Services 9,018 7,938 1,080 14 %
Content & Entertainment 6,368 901 5,467 607 %
$ 43,513 $ 39,069 $ 4,444 11 %
Revenues increased $4.4 million or 11% during the six months ended September 30,
2012 with the organic growth in revenues in Content and Entertainment as well as
the New Video Acquisition, more than offsetting a decrease in deployment
revenues. Phase 1 and Phase 2 Deployment revenues declined by $2.1 million for
the six months ended September 30, 2012 due to a number of unexpected releasing
decisions made by the major studios: (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. Phase 2 DC's financed Systems installed and ready for content were
2,359 at September 30, 2012 from 1,580 at September 30, 2011. Non-deployment
revenues grew 74% period over period inclusive of New Video and 9% period on
period assuming New Video had been included within the six months ended
September 30, 2011 operating results.
The $1.1 million, or 14%, increase in revenues in the Services segment was
primarily due to (i) increased digital cinema servicing fees as 1,519 Phase 2 DC
Cinedigm-Financed and Exhibitor-Buyer Structure Systems were installed during
the six months ended September 30, 2012 and a total of 7,128 installed Phase 2
Systems were generating service fees in contrast to 4,258 Phase 2 Systems at
September 30, 2011; and (ii) a flat year on year results in Software license fee
and maintenance revenues reflecting the decline in Phase 2 installations offset
by increased license and maintenance fees from other studio and exhibition
software license and maintenance fees. We expect continued growth in services as
we (i) complete the remaining deployments from our 1,406 domestic screen
backlog; (ii) commence international servicing and software installations in
Australia, the Caribbean and Europe in the fourth quarter of the current fiscal
year; and (iii) experience continued growth in software and digital cinema
services from our strong sales pipeline.
As of September 30, 2012, Cinedigm provides its digital cinema services through
both its Phase II deployment subsidiary and third party Exhibitor-Buyer
Structure customers to a total of 7,128 Phase 2 DC screens in comparison to
4,258 at September 30, 2011 and 5,609 at March 31, 2012. Cinedigm also services
an additional 3,724 screens in its Phase I deployment subsidiary as of
September 30, 2012. We will deploy additional Phase 2 DC Systems under various
non-recourse credit facility commitments and will receive fees through the
Exhibitor-Buyer Structure and Holdings.
The CEG business expanded significantly to revenues of $6.4 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 $0.2 million, period over period, inclusive of New
Video in both periods. CEG has grown its historical fee-for-service theatrical
releasing efforts (Indie Direct) as well as expand the New Video ancillary
market distribution efforts of distributing both movies and television
entertainment content into digital, video on demand and physical goods (DVDs and
Blue Ray). CEG is utilizing the combined resources of its existing theatrical
releasing infrastructure and the New Video home entertainment distribution
capabilities to acquire the North American distribution rights in all media for
independent films as well as to launch several programmatic alternative content
channels. During the six months ended September 30, 2012, CEG acquired the
distribution rights to 3 additional independent films and ended the period with
6 independent films acquired. Subsequent to quarter end, CEG has acquired 4
additional independent films for a total of 10 acquired this fiscal year and has
an active acquisition pipeline. CEG expects to release 7 of these movies in this
fiscal year with The Citadel having been released theatrically on November 9th
and In Our Nature to be released on December 7th. In addition, CEG theatrically
released its first movie from this slate, The Invisible War, in June 2012. CEG
recognized little theatrical and ancillary revenues in this period as the title
was not released into ancillary markets until very late September 2012. Based
upon ancillary revenue pre-sales as well as preliminary transactional
video-on-demand results, CEG will be profitable on this title.
38
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Direct Operating Expenses
For the Six Months Ended September 30,
($ in thousands) 2012 2011 $ Change % Change
Phase I Deployment $ 209 $ 228 $ (19 ) (8 )%
Phase II Deployment 324 124 200 161 %
Services 2,396 1,970 426 22 %
Content & Entertainment 2,434 968 1,466 151 %
$ 5,363 $ 3,290 $ 2,073 63 %
Direct operating expenses increased by 63% due to the acquisition of New Video
and the resulting 74% total non-deployment revenue growth. Excluding the impact
of the purchase of New Video, direct operating costs increased by $0.7 million
from the six months ended September 30, 2011. The flat 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 $0.4 million of
"J-Curve" expenses related to advances and marketing for movie releases during
the six months ended September 30, 2012 that we expect to result in revenues in
future quarters from ancillary home entertainment revenue streams. In accordance
with GAAP, Cinedigm must recognize its upfront content acquisition and marketing
expenses at the time of a theatrical release of a movie. We expect to recover
those expenses as well as earn our fee based profits over the ensuing 12-36
months from revenues earned on the distribution of the movie in the ancillary
home entertainment markets. This timing difference creates a "J-Curve" and will
continue in future periods as we increase our distribution activities and we
will also experience an increase in direct operating expenses corresponding with
additional revenue growth.
Selling, General and Administrative Expenses
For the Six Months Ended September 30,
($ in thousands) 2012 2011 $ Change % Change
Phase I Deployment $ 73 $ 175 $ (102 ) (58 )%
Phase II Deployment 51 90 (39 ) (43 )%
Services 1,796 1,590 206 13 %
Content & Entertainment 3,887 1,009 2,878 285 %
Corporate 6,392 4,617 1,775 38 %
$ 12,199 $ 7,481 $ 4,718 63 %
Selling, general and administrative expenses increased $4.7 million or 63% in
support of the 74% increase in non-deployment revenues. Total selling, general
and administrative expense declined approximately 1% period over period
inclusive of New Video in both periods. 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 38% 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.
Merger and Acquisition Expenses
Merger and acquisition expenses for the six months ended September 30, 2012 of
$1.3 million include professional fees incurred which pertained to the purchase
of New Video which was consummated in April 2012.
39
--------------------------------------------------------------------------------Restructuring expense
During the three months ended September 30, 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 shift in its business from physical to
digital content distribution and shift to a greater share of its own theatrical
releasing product, resulted in a workforce reduction and severance and employee
related expense of $340.
Depreciation and Amortization Expense on Property and Equipment
For the Six Months Ended September 30,
($ in thousands) 2012 2011 $ Change % Change
Phase I Deployment $ 14,275 $ 14,278 $ (3 ) - %
Phase II Deployment 3,629 3,232 397 12 %
Services 77 46 31 67 %
Content & Entertainment 10 2 8 400 %
Corporate 226 165 61 37 %
$ 18,217 $ 17,723 $ 494 3 %
Depreciation and amortization expense increased $0.5 million or 3%. The increase
in the Phase II Deployment segment represents depreciation on the increased
number of Phase 2 DC Systems which were not in service during the fiscal year
ended March 31, 2012. We expect the depreciation and amortization expense in
the Phase II Deployment segment to remain at similar levels as limited future
Phase 2 DC Systems will be added that require consolidation on our balance sheet
and we expect modest additional growth in Services and Corporate depreciation
and amortization expense tied to technology investments supporting our software
expansion. Content depreciation will in the future reflect the acquisition of
New Video results and additional depreciation and amortization related to our
acquisition of content distribution rights.
Interest expense
For the Six Months Ended September 30,
($ in thousands) 2012 2011 $ Change % Change
Phase I Deployment $ 4,392 $ 5,442 $ (1,050 ) (19 )%
Phase II Deployment 1,217 1,059 158 15 %
Corporate 9,149 8,439 710 8 %
$ 14,758 $ 14,940 $ (182 ) (1 )%
Interest expense decreased $0.2 million or 1%. The 19% increase 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 of additional non-recourse Phase 2 debt during the fiscal year ended
March 31, 2012 to fund the purchase of Systems from Barco. Phase 2 DC's
non-recourse interest expense is expected to increase modestly with the growth
in deployments during the fiscal year ending March 31, 2013 as the Company does
not expect to incur any significant increase in non-recourse indebtedness to
fund these deployments. 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 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 $4.8 million and $4.6 million for
the six months ended September 30, 2012 and 2011, respectively. PIK interest was
$3.7 million and $3.4 million for the six months ended September 30, 2012 and
2011, respectively. The remaining amounts for the six months ended September 30,
2012 and 2011 represent the accretion of $0.9 million 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 on the note payable discount
associated with the 2010 Term Loans which will continue over the term of the
2010 Term Loans.
40--------------------------------------------------------------------------------
Change in fair value of interest rate swaps
The change in fair value of the interest rate swaps was a gain of $0.7 million
for the six months ended September 30, 2012 and a loss of $0.6 million for the
six months ended September 30, 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 $27.6 million for the six months ended September 30, 2012 in
comparison to $30.6 million for the six months ended September 30, 2011.
Adjusted EBITDA from non-deployment businesses was $2.0 million during the six
months ended September 30, 2012, declining from $4.1 million during the six
months ended September 30, 2011. This decline was primarily driven by two
factors: (i) the first half of fiscal year 2012 was Cinedigm's largest
deployment period ever with 2,059 screens installed versus 1,526 screens this
fiscal year representing an approximately $2.7 million difference period over
period in digital cinema services and software EBITDA from the reduction in
installations; (ii) as previously discussed, a number of unexpected releasing
decisions made by the major studios reduced deployment EBITDA by $0.8 million 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 $0.4 million of "J-Curve" content
distribution costs in the six months ended September 30, 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 remaining growth in service revenues is expected to be through installations
within the Exhibitor-Buyer Structure or Systems financed by Holdings, which the
Company does not consolidate into its Consolidated Statements of Operations.
Based on the expected growth in and recently signed software contracts and the
expansion in CEG driven by the acquisition of New Video, 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 although the
Company intends to invest in the growth of its business through the acquisition
of content distribution rights and through related marketing related
expenditures as well as through 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
41
--------------------------------------------------------------------------------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 Six Months Ended September 30,
($ in thousands) 2012 2011
Net loss from continuing operations $ (7,489 ) $ (4,686 )
Add Back:
Amortization of capitalized software costs 527 364
Depreciation and amortization of property and
equipment 18,217 17,723
Amortization of intangible assets 381 169
Interest income (22 ) (75 )
Interest expense 14,758 14,940
Other income, net (391 ) (431 )
Income on investment in non-consolidated
entity (662 ) -
Change in fair value of interest rate swap (676 ) 568
Stock-based expenses 300 562
Stock-based compensation 1,014 918 Merger and acquisition expenses 1,267 -
Restructuring expenses 340 -
Allocated costs attributable to discontinued
operations - 504
Adjusted EBITDA $ 27,564 $ 30,556
Adjustments related to the Phase I and Phase
II Deployments:
Depreciation and amortization of property and
equipment $ (17,904 ) $ (17,510 )
Amortization of intangible assets (26 ) (27 )
Income from operations (9,404 ) (12,037 )
Intersegment services fees earned (1) 1,816 3,078
Adjusted EBITDA from non-deployment businesses $ 2,046 $ 4,060
(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 September 30, 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.
43
--------------------------------------------------------------------------------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 September 30, 2012 and 2011, no
impairment charge was recorded for goodwill related to the Company's continued
operations.
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 September
30, 2012 $ - $ - $ 4,197 $ 2,904 $ - $ 7,101
As of September 30, 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 September 30, 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
44
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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 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
45
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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.
Recently Issued Standards
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 is currently evaluating the impact of the
update and does not expect the update to have a material impact to its condensed
consolidated financial statements.
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 10,852 of those screens contained
our Systems and software. We anticipate the vast majority of the North American
industry's screens to be converted to digital in the next 12 months. We have
deployed 3,724 screens in our Phase I Deployment, and will continue to complete
our efforts to convert up to an additional 10,000 domestic screens to digital in
our Phase II Deployment through December 31, 2012, of which 7,128 Systems have
been installed as of September 30, 2012. 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 September 30, 2012, the outstanding
principal balance of the KBC Facilities was $47.6 million.
As of September 30, 2012, we had negative working capital, defined as current
assets less current liabilities, of $6.7 million and cash and cash equivalents
and restricted cash totaling $26.0 million.
Operating activities provided net cash of $15.2 million and $17.7 million for
the six months ended September 30, 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. For the
near term, the Company expects receivables to remain steady or decline as we
enter the final stages of the Phase 2 Systems deployment. However, a significant
portion of the current Phase 2 deployments are being made under the
Exhibitor-Buyer Structure, where the Company passes the majority of the studio
payments to the exhibitor, less an administrative fee, and therefore operating
cash flow will be largely unaffected. 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
46
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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 provided net cash of $1.2 million and used net cash of
$10.9 million for the six months ended September 30, 2012 and 2011,
respectively. The increase is primarily attributed to the sale of previously
restricted available for sale investments, partially offset for cash paid for
the purchase of New Video, net of cash acquired, and decreased purchases of
Phase 2 DC Systems purchased compared to the prior year purchases. 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 $14.0 million and provided $0.3 million
for the six months ended September 30, 2012 and 2011, respectively. The
repayment of the 2010 Term Loans and the KBC facility during the six months
ended September 30, 2012 were offset in part by net proceeds from the sale of
common stock in April, 2012. Financing activities are expected to continue using
the net cash generated from the Phase 1 and Phase 2 DC operations, primarily for
principal repayments on the 2010 Term Loans and other existing debt facilities.
The Company expects to deploy Systems in our Phase II Deployment using a
combination of non-recourse Cinedigm-financed screens and the Exhibitor-Buyer
Structure. The method used to deploy Systems will vary depending on the
exhibitors' preference and the exhibitors' ability to finance Phase II
Systems. The number of Systems ultimately deployed by each method cannot be
predicted at this time, though we expect very few additional Phase 2 screens
deployed that will be consolidated into the Company's balance sheet as these
will be primarily carried out through Holdings.
We have contractual obligations that include long-term debt consisting of notes
payable, credit facilities, non-cancelable long-term capital lease obligations
for the Pavilion Theatre and other various computer related equipment,
non-cancelable operating leases consisting of real estate leases, and minimum
guaranteed obligations under theatre advertising agreements with exhibitors for
displaying cinema advertising. The capital lease obligation of the Pavilion
Theatre is paid by an unrelated third party, although Cinedigm remains the
primary lessee and would be obligated to pay if the unrelated third party were
to default on its rental payment obligations.
47
--------------------------------------------------------------------------------The following table summarizes our significant contractual obligations as of
September 30, 2012:
Payments Due
Contractual Obligations ($ in 2014 & 2016 &
thousands) Total 2013 2015 2017 Thereafter
Long-term recourse debt (1) $ 111,446 $ - $ 111,446 $ - $ -
Long-term non-recourse debt (2) 148,373 33,153 71,508 36,524 7,188
Capital lease obligations (3) 5,342 214 580 824 3,724
Debt-related obligations,
principal 265,161 33,367 183,534 37,348 10,912
Interest on recourse debt 13,381 6,935 6,446 - -Interest on non-recourse debt 16,655 6,599 8,053
1,806 197
Interest on capital leases (3) 5,978 930 1,724 1,480 1,844
Total interest 36,014 14,464 16,223 3,286 2,041
Total debt-related obligations $ 301,175 $ 47,831 $ 199,757 $ 40,634 $ 12,953
Operating lease obligations (4) $ 5,330 $ 1,478 $ 2,892 $ 960 $ -
Obligations to be included in
operating expenses $ 5,330 $ 1,478 $ 2,892 $ 960 $ -
Total non-recourse debt including
interest $ 165,028 $ 39,752 $ 79,561 $ 38,330 $ 7,385
(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
$21.2 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 September 30, 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.
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.
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.
48
--------------------------------------------------------------------------------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.
49--------------------------------------------------------------------------------
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