We acquired KGMB-TV in Honolulu, Hawaii as part of the Lee acquisition in October 2000. Because we also own KHON-TV in Honolulu and both stations are rated among the top four television stations in the Honolulu market, we have been operating KGMB-TV under various temporary waivers to the FCC’s current ownership rules. On July 2, the FCC released its Report and Order and Notice of Proposed Rulemaking containing new local television ownership rules that we expect to become effective in the next 60-90 days. We are currently evaluating the Report and Order to explore our possibilities for retaining both stations, as well as the impact that the new regulations will have on our television business. At this point, we do not expect the Report and Order to have a material adverse effect on the Company.
FCC regulations require most commercial television stations in the United States to be currently broadcasting in digital format. Thirteen of our sixteen television stations (excluding “satellite” stations) are currently broadcasting in digital format. Two stations have received an extension that expires in December 2003. The other station, WBPG, is not subject to the usual DTV deadlines because it was not issued a second channel for DTV operation. Rather, WBPG will be required to convert to DTV operation by the conclusion of the DTV transition period. In addition, five of our satellite stations are not currently broadcasting in digital format. Four of these have received extensions that expire in August 2003 and one has an extension that expires in December 2003. We believe that the continued grant of extensions is appropriate because the delays are due to conditions largely beyond our control. However, no assurances can be given that further extensions will be granted. Based upon the FCC’s treatment of certain broadcasters who were not granted extensions to the original May 2002 deadline, we believe that the FCC will issue a formal admonishment to any broadcaster whose extension request is denied and may issue a monetary fine if the station has not commenced digital broadcasting within six months of the date of the FCC’s admonishment. We cannot predict the extent, if any, of the monetary fine, nor can we predict the other actions the FCC will take if the station does not commence digital broadcasts within six months after the date of the fine.
The Company is a party to various legal proceedings arising in the ordinary course of business. In the opinion of management of the Company, however, there are no legal proceedings pending against the Company that are likely to have a material adverse effect on the Company.
Effective July 1, 2003, Emmis acquired, for a purchase price of $105.2 million, a controlling interest of 50.1% in a partnership that owns six radio stations in the Austin, Texas metropolitan area. These six stations are KLBJ-AM, KLBJ-FM, KXMG-FM, KROX-FM, KGSR-FM and KEYI-FM. We financed the acquisition through borrowings under our credit facility and the acquisition will be accounted for as a purchase. In addition, Emmis has the option, but not the obligation, to purchase our 49.9% partner’s entire interest in the partnership after a period of approximately five years based on an 18-multiple of trailing 12-month cash flow.
On June 6, 2003 EOC amended its credit facility to allow for the acquisition of the controlling interest in the Austin partnership, as described above. Specifically, the amendment increased the amount of Investments (as defined in the credit facility) that EOC could make to allow for the investment in the partnership. In addition to permitting the Austin acquisition, the amendment provided additional room under certain financial covenants applicable to the Revolver, Term A loan and Term B loan. More specifically, required decreases in senior leverage and total leverage ratios were delayed from November 30, 2003 to June 1, 2004.
Effective June 5, 2003, Emmis sold its mobile television production company, Mira Mobile Television, to Shooters Production Services, Inc. for $3.9 million in cash, plus payments for working capital. Emmis received $3.3 million of the purchase price at closing and received a promissory note due October 31, 2005 for the remaining $0.6 million. Emmis had acquired this business in connection with the Lee acquisition in October 2000. The book value of the long-lived assets as of May 31, 2003 was $3.1 million and the operating performance of Mira Mobile was not material to the Company.
The following discussion pertains to Emmis Communications Corporation (“ECC”) and its subsidiaries (collectively, “Emmis” or the “Company”) and to Emmis Operating Company and its subsidiaries (collectively “EOC”). Unless otherwise noted, all disclosures contained in the Management’s Discussion and Analysis of Financial Condition and Results of Operation in the Form 10-Q apply to Emmis and EOC.
The Company’s revenues are affected primarily by the advertising rates its entities charge. These rates are in large part based on the entities’ ability to attract audiences/subscribers in demographic groups targeted by their advertisers. Broadcast entities’ ratings are measured principally four times a year by Arbitron Radio Market Reports for radio stations and by A.C. Nielsen Company for television stations. Because audience ratings in a station’s local market are critical to the station’s financial success, the Company’s strategy is to use market research and advertising and promotion to attract and retain audiences in each station’s chosen demographic target group.
In addition to the sale of advertising time for cash, stations typically exchange advertising time for goods or services which can be used by the station in its business operations. The Company generally confines the use of such trade transactions to promotional items or services for which the Company would otherwise have paid cash. In addition, it is the Company’s general policy not to pre-empt advertising spots paid for in cash with advertising spots paid for in trade.
CRITICAL ACCOUNTING POLICIES
Critical accounting policies are defined as those that encompass significant judgments and uncertainties, and potentially lead to materially different results under different assumptions and conditions. We believe that our critical accounting policies are those described below.
Impairment of Goodwill and Indefinite-lived Intangibles
The annual impairment tests for goodwill and indefinite-lived intangibles under SFAS No. 142 require us to make certain assumptions in determining fair value, including assumptions about the cash flow growth rates of our businesses. Additionally, the fair values are significantly impacted by macro-economic factors, including market multiples at the time the impairment tests are performed. Accordingly, we may incur additional impairment charges in future periods under SFAS No. 142 to the extent we do not achieve our expected cash flow growth rates, or to the extent that market values decrease.
Allocations for Purchased Assets
We typically engage an independent appraisal firm to value assets acquired in a material acquisition. We use the appraisal report to allocate the purchase price of the acquisition. To the extent that purchased assets are not allocated appropriately, depreciation and amortization expense could be materially different.
Allowance for Doubtful Accounts
Our allowance for doubtful accounts requires us to estimate losses resulting from our customers’ inability to make payments. We specifically review historical write-off activity by market, large customer concentrations, and changes in our customer payment patterns when evaluating the adequacy of the allowance for doubtful accounts. If the financial condition of our customers were to deteriorate, resulting in an impairment of their ability to make payments, then additional allowances might be required.
Results of Operations for the Three Months Ended May 31, 2003 Compared to May 31, 2002
Net revenues:
Radio net revenues for the three months ended May 31, 2003 increased $1.9 million, or 3.0%. Our reported results for the prior year included $1.2 million in net revenues from our Denver radio stations that we sold in May 2002. We typically monitor the performance of our stations against the aggregate performance of the markets in which we operate. For the quarter ended May 31, 2003, net revenues of our domestic radio stations were up 4.6% excluding the revenues from our Denver radio stations in the prior year, whereas net revenues of our domestic radio markets were up only 2.1%, based on Miller-Kaplan reports for the period. We were able to outperform the markets in which we operate due to higher ratings, resulting, in part, from increased promotional spending in prior quarters. The higher ratings allowed us to charge higher rates for the advertisements we sold. Our advertising inventory sellout percentage remained relatively unchanged year over year.
Television net revenues for the three months ended May 31, 2003 increased $3.1 million, or 5.5%. Net political advertising revenues for the three months ended May 31, 2002 and 2003 were approximately $2.3 million and $1.0 million, respectively. Excluding net political advertising revenues, television net revenues would have increased $4.4 million, or 8.0%. This increase is due to our television stations selling a higher percentage of their inventory and charging higher rates due to ratings improvements. Also, our commitment to training and developing local sales forces has enabled us to increase our share of local advertising revenues.
Publishing revenues for the three months ended May 31, 2003 increased $0.5 million, or 3.2%. The national advertising environment is especially difficult for our publishing division. Our magazines have been able to overcome shortfalls in national advertising revenues by producing more custom publications and from an increase in special advertiser sections in our magazines.
On a consolidated basis, net revenues for the three months ended May 31, 2003 increased $5.6 million, or 4.1% due to the effect of the items described above.
Station operating expenses, excluding noncash compensation:
Radio station operating expenses, excluding noncash compensation, increased $0.8 million, or 2.2% for the three months ended May 31, 2003. Our reported results for the prior year included $0.7 million in operating expenses for our Denver radio stations that we sold in May 2002. The increase relates to higher sales-related costs and higher insurance and health-related costs.
Television station operating expenses, excluding noncash compensation, increased $1.4 million, or 3.9% for the three months ended May 31, 2003. This increase is principally due to higher programming costs and higher insurance and health-related costs.
Publishing operating expenses, excluding noncash compensation, increased $1.1 million, or 7.3% for the three months ended May 31, 2003. As previously discussed, our publishing division has replaced lost national advertising revenues with revenues from custom publications and special advertiser sections, which are more expensive to produce due principally to editorial and production costs. Our publishing division also experienced higher insurance and health-related costs.
On a consolidated basis, station operating expenses, excluding noncash compensation, for the three months ended May 31, 2003 increased $3.3 million, or 3.9%, due to the effect of the items described above.
Noncash compensation expenses:
Noncash compensation expenses for the three months ended May 31, 2003 were $7.1 million compared to $5.4 million for the same period of the prior year, an increase of $1.7 million or 31.9%. In the three months ended May 31, 2003, $2.4 million, $2.4 million, $0.9 million and $1.4 million was attributable to our radio, television, publishing and corporate divisions, respectively. In the three months ended May 31, 2002, $2.4 million, $1.7 million, $0.7 million and $0.6 million was attributable to our radio, television, publishing and corporate divisions, respectively. Noncash compensation includes compensation expense associated with restricted common stock issued under employment agreements, common stock issued to employees at our discretion, Company matches in our 401(k) plan, and common stock issued to employees pursuant to our stock compensation program. Our stock compensation program resulted in noncash compensation expense of approximately $4.4 million and $4.5 million for the three months ended May 31, 2002 and 2003, respectively. Effective March 1, 2003, Emmis discontinued its profit sharing plan, but doubled its 401(k) match to $2 thousand per employee, with one-half of the contribution made in Emmis stock. This resulted in approximately $1 million of additional noncash compensation expense in the three months ended May 31, 2003 over the same period in the prior year. The remaining increase of $0.7 million is primarily attributable to expense associated with restricted stock issued under employment agreements signed during the quarter.
Corporate expenses, excluding noncash compensation:
Corporate expenses, excluding noncash compensation, for the three months ended May 31, 2003 were $5.8 million compared to $5.1 million for the same period of the prior year, an increase of $0.7 million or 12.3%. These costs increased due to higher insurance and health care costs, professional fees associated with evaluating new business opportunities, merit increases and funding for training and diversity initiatives.
Depreciation and amortization:
Radio depreciation and amortization expense for the three months ended May 31, 2003 was $2.0 million compared to $2.1 million for the same period of the prior year, a decrease of $0.1 million or 5.7%. Although radio depreciation and amortization expense decreased slightly in our first fiscal quarter, we expect it to be higher for the remainder of the fiscal year as a result of the Austin radio acquisition, which closed in July 2003. Actual amounts will depend on the allocation of the purchase price based on the appraisal of the assets, which has not yet been finalized.
Television depreciation and amortization expense for the three months ended May 31, 2003 was $7.7 million compared to $6.9 million for the same period of the prior year, an increase of $0.8 million or 10.4%. The increase was mainly attributable to depreciation of equipment purchased for the conversion of our analog equipment to digital equipment.
Publishing depreciation and amortization expense for the three months ended May 31, 2003 was $0.2 million compared to $0.6 million for the same period of the prior year, a decrease of $0.4 million or 63.2%. The decrease was mainly attributable to certain intangible assets becoming fully amortized during fiscal 2003.
Corporate depreciation and amortization expense for the three months ended May 31, 2003 was $1.5 million compared to $1.1 million for the same period of the prior year, an increase of $0.4 million or 31.8%. The increase was mainly attributable to higher depreciation expense related to computer equipment and software purchases over the past twelve months.
On a consolidated basis, depreciation and amortization expense for the three months ended May 31, 2003 was $11.4 million compared to $10.8 million for the same period of the prior year, an increase of $0.6 million or 5.5%, due to the effect of the items described above.
Operating income:
Radio operating income for the three months ended May 31, 2003 was $25.0 million compared to $23.8 million for the same period of the prior year, an increase of $1.2 million or 5.2%. This increase is attributable to higher net revenues, partially offset by higher station operating expenses, as discussed above.
Television operating income for the three months ended May 31, 2003 was $12.0 million compared to $11.7 million for the same period of the prior year, an increase of $0.3 million or 2.2%. This increase was driven by higher net revenues, partially offset by higher station operating expenses, higher noncash compensation and higher depreciation and amortization expense, as discussed above.
Publishing operating income for the three months ended May 31, 2003 was $0.2 million compared to $0.6 million for the same period of the prior year, a decrease of $0.4 million, or 72.2%. The decrease was primarily attributable to the shift in revenue mix, as discussed above.
On a consolidated basis, operating income for the three months ended May 31, 2003 was $28.5 million compared to $29.2 million for the same period of the prior year, a decrease of $0.7 million or 2.4%. This decrease principally related to the changes in radio, television and publishing operating income and higher corporate expenses and higher noncash compensation expense, as discussed above.
Interest expense:
With respect to Emmis, interest expense for the three months ended May 31, 2003 was $22.8 million compared to $29.9 million for the same period of the prior year, a decrease of $7.1 million or 23.9%. This decrease is attributable to a decrease in the interest rates we pay on amounts outstanding under our credit facility, which is variable rate debt, and repayments of amounts outstanding under our credit facility and our senior discount notes. The decreased interest rates reflected both a decrease in the base interest rate for our credit facility due to a lower overall interest rate environment, and a decrease in the margin applied to the base rate resulting from the June 2002 credit facility amendment. A portion of the decrease in interest expense is attributable to the expiration of interest rate swap agreements originally entered into in fiscal 2001. These swaps, which began expiring in February 2003, had an original aggregate notional amount of $350.0 million and fixed LIBOR at a weighted-average 4.76%. As of May 31, 2003, outstanding swaps totaled $190.0 million and fixed LIBOR at a weighted-average 4.72%. These remaining contracts expire during the remainder of fiscal 2004. In the quarter ended May 31, 2002, we repaid amounts outstanding under our credit facility with the proceeds of our Denver radio asset sales in May 2002 and a portion of the proceeds from our equity offering in April 2002, with the remaining portion being used to reduce amounts outstanding under our senior discount notes in the quarter ended August 31, 2002. We reduced our total debt outstanding by $270.6 million during the year ended February 28, 2003. With respect to EOC, interest expense for the three months ended May 31, 2003 was $16.3 million compared to $22.4 million for the same period of the prior year, a decrease of $6.2 million or 27.6%. This decrease is also primarily attributable to a decrease in the interest rates we pay on amounts outstanding under our credit facility, and repayments of amounts outstanding under our credit facility. The difference between interest expense for Emmis and EOC is due to interest expense associated with the senior discount notes, for which ECC is the obligor, and thus it is excluded from the results of operations of EOC.
Income before income taxes and accounting change:
With respect to Emmis, income before income taxes and accounting change for the three months ended May 31, 2003 was $5.6 million compared to $4.2 million for the same period in the prior year, an increase of $1.4 million, or 32.5%. The increase is mainly attributable to better operating results at our stations and a reduction in interest expense as a result of the factors described above, partially offset by the gain on sale of our Denver radio assets of $8.9 million included in the prior year. With respect to EOC, income before income taxes and accounting change for the three months ended May 31, 2003 was $12.1 million compared to $11.7 million for the same period in the prior year, an increase of $0.4 million, or 3.4%. The increase is mainly attributable to better operating results at our stations and a reduction in interest expense as a result of the factors described above, partially offset by the gain on sale of our Denver radio assets of $8.9 million included in the prior year.
Net income (loss):
With respect to Emmis, net income was $0.4 million for the three months ended May 31, 2003, compared to a net loss of $167.8 million in the prior year. The increase in net income is mainly attributable to (1) the inclusion in the prior year of a $167.4 million impairment charge, net of a deferred tax benefit, under the cumulative effect of accounting change as an accumulated transition adjustment attributable to the adoption on March 1, 2002 of SFAS No. 142, “Goodwill and Other Intangible Assets”, and (2) better operating results at our stations and a reduction in interest expense as a result of the factors described above, partially offset by the gain on sale of our Denver radio assets of $8.9 million included in the prior year, all net of tax. With respect to EOC, net income was $6.8 million for the three months ended May 31, 2003, compared to a net loss of $160.5 million in the prior year. The increase in net income is mainly attributable to (1) the inclusion in the prior year of a $167.4 million impairment charge, net of a deferred tax benefit, under the cumulative effect of accounting change as an accumulated transition adjustment attributable to the adoption on March 1, 2002 of SFAS No. 142, “Goodwill and Other Intangible Assets”, and (2) better operating results at our stations and a reduction in interest expense as a result of the factors described above, partially offset by the gain on sale of our Denver radio assets of $8.9 million included in the prior year, all net of tax.
Liquidity and Capital Resources
Our primary sources of liquidity are cash provided by operations and cash available through revolver borrowings under our credit facility. Our primary uses of capital have been historically, and are expected to continue to be, funding acquisitions, capital expenditures, working capital and debt service and, in the case of ECC, preferred stock dividend requirements. Since we manage cash on a consolidated basis, any cash needs of a particular segment or operating entity are met by intercompany transactions. See Investing Activities below for a discussion of specific segment needs.
At May 31, 2003, we had cash and cash equivalents of $9.4 million and net working capital for Emmis and EOC of $37.3 million and $38.4 million, respectively. At February 28, 2003, we had cash and cash equivalents of $16.1 million and net working capital for Emmis and EOC of $28.0 million and $29.1 million, respectively. The increase in net working capital primarily relates to lower accrued interest, since semi-annual interest on our senior subordinated notes was paid in March 2003, and lower accrued salaries and commissions, since year-end bonuses were paid prior to May 31, 2003.
Effective July 1, 2003, Emmis acquired, for a purchase price of $105.2 million, a controlling interest of 50.1% in a partnership that owns six radio stations in the Austin, Texas metropolitan area. We financed the acquisition through borrowings under the credit facility.
Operating Activities
With respect to Emmis, net cash flows provided by operating activities were $1.4 million for the three months ended May 31, 2003 compared to $0.5 million for the same period of the prior year. With respect to EOC, net cash flows provided by operating activities were $1.4 million for the three months ended May 31, 2003 compared to net cash flows used in operating activities of $0.4 million for the same period of the prior year. The increase in cash flows provided by operating activities for the three months ended May 31, 2003 as compared to the same period in the prior year is due to our increase in net revenues less station operating expenses and corporate expenses, partially offset by year-end bonus payments and interest payments during the quarter. Cash flows provided by operating activities are historically the highest in our third and fourth fiscal quarters as a significant portion of our accounts receivable collections is derived from revenues recognized in our second and third fiscal quarters, which are our highest revenue quarters.
Investing Activities
Cash flows used in investing activities for both Emmis and EOC were $17.6 million for the three months ended May 31, 2003 compared to cash provided by investing activities of $131.4 million in the same period of the prior year. This decrease is primarily attributable to our purchase of a television station in the three months ended May 31, 2003 as opposed to our sale of radio stations in the three months ended May 31, 2002, partially offset by a reduction in capital expenditures in the three months ended May 31, 2003 over the same period in the prior year. Investment activities include capital expenditures and business acquisitions and dispositions.
As discussed in Note 3 to the accompanying condensed consolidated financial statements, effective March 1, 2003, Emmis acquired substantially all of the assets of television station WBPG-TV in Mobile, AL – Pensacola, FL from Pegasus Communications Corporation for a cash purchase price of approximately $11.7 million, including transaction costs of $0.2 million. The acquisition was financed through borrowings under the credit facility and was accounted for as a purchase.
Capital expenditures primarily relate to leasehold improvements to various office and studio facilities, broadcast equipment purchases, tower upgrades and computer equipment replacements. In the three month periods ended May 31, 2003 and 2002, we had capital expenditures of $3.0 million and $3.8 million, respectively. We anticipate that future requirements for capital expenditures will include capital expenditures incurred during the ordinary course of business, including approximately $6 million in fiscal 2004 for the conversion to digital television. Although we expect that substantially all of our stations will broadcast a digital signal by the end of our fiscal 2004, we will incur approximately $8 million of additional costs, after fiscal 2004, to upgrade the digital signals of three of our local stations and four of our satellite stations. We expect to fund such capital expenditures with cash generated from operating activities and borrowings under our credit facility.
Financing Activities
Cash flows provided by financing activities for both Emmis and EOC were $9.5 million for the three months ended May 31, 2003. Cash flows used in financing activities for Emmis and EOC were $72.9 million and $72.0 million, respectively, for the same period of the prior year.
In April 2002, ECC completed the sale of 4.6 million shares of its Class A common stock at $26.80 per share resulting in total proceeds of $123.3 million. The net proceeds of $120.2 million were contributed to EOC and 50% of the net proceeds were used in April 2002 to repay outstanding borrowings under our credit facility. The remainder was invested, and in July 2002 distributed to ECC to redeem approximately 22.6% of ECC’s $370.0 million, face value, senior discount notes. As indicated in Investing Activities above, net proceeds of $135.5 million from the sale of two radio stations in Denver were also used to repay outstanding indebtedness under the credit facility during the three months ended May 31, 2002.
As of May 31, 2003, EOC had $998.6 million of long-term corporate indebtedness outstanding under its credit facility ($698.6 million) and senior subordinated notes ($300.0 million), and an additional $8.7 million of other indebtedness. As of May 31, 2003, total indebtedness outstanding for Emmis included all of EOC’s indebtedness as well as $204.1 million of senior discount notes. Emmis also had $143.8 million of convertible preferred stock outstanding. All outstanding amounts under our credit facility bear interest, at our option, at a rate equal to the Eurodollar rate or an alternative Base Rate plus a margin. As of May 31, 2003, our weighted average borrowing rate under our credit facility was approximately 4.5% and our overall weighted average borrowing rate, after taking into account amounts outstanding under our senior subordinated notes and senior discount notes, was approximately 6.7%. The overall weighted average borrowing rate for EOC, which would exclude the senior discount notes, was approximately 5.6%.
The debt service requirements of EOC over the next twelve month period (net of interest under our credit facility) are expected to be $44.6 million. This amount is comprised of $24.4 million for interest under our senior subordinated notes and $20.2 million for repayment of term notes under our credit facility. Although interest will be paid under the credit facility at least every three months, the amount of interest is not presently determinable given that the credit facility bears interest at variable rates. ECC has no additional debt service requirements in the next twelve-month period since interest on its senior discount notes accretes into the principal balance of the notes until March 2006. However, ECC has preferred stock dividend requirements of $9.0 million for the next twelve-month period. The terms of ECC’s preferred stock provide for a quarterly dividend payment of $.78125 per share on each January 15, April 15, July 15 and October 15.
At July 2, 2003, after giving effect to our purchase of a controlling interest in a partnership that owns six Austin radio stations, we had $120.0 million available under our credit facility, less $1.8 million in outstanding letters of credit. As part of our business strategy, we continually evaluate potential acquisitions of radio and television stations, as well as publishing properties. If we elect to take advantage of future acquisition opportunities, we may incur additional debt or issue additional equity or debt securities, depending on market conditions and other factors. In addition, Emmis will have the option, but not the obligation, to purchase our 49.9% partner’s entire interest in the Austin partnership after a period of approximately five years based on an 18-multiple of trailing 12-month cash flow.
Emmis has explored the possibility of separating its radio and television businesses into two publicly traded companies. However, in the current operating environment, Emmis does not intend to effectuate the separation absent a significant acquisition of either radio or television properties.
Intangibles
At May 31, 2003, approximately 80% of our total assets consisted of intangible assets, such as FCC broadcast licenses, goodwill, subscription lists and similar assets, the value of which depends significantly upon the operational results of our businesses. In the case of our radio and television stations, we would not be able to operate the properties without the related FCC license for each property. FCC licenses are renewed every eight years; consequently, we continually monitor our stations’ compliance with the various regulatory requirements. Historically, all of our FCC licenses have been renewed at the end of their respective periods, and we expect that all FCC licenses will continue to be renewed in the future.
New Accounting Pronouncements
On March 1, 2003, the Company adopted Statement of Financial Accounting Standards No. 145,Rescission of SFAS Nos. 4, 44, and 64, Amendment of SFAS No. 13, and Technical Corrections (SFAS No. 145”). SFAS No. 145 rescinds SFAS No. 4,Reporting Gains and Losses from Extinguishment of Debt, and an amendment of that Statement, and SFAS No. 64,Extinguishments of Debt Made to Satisfy Sinking-Fund Requirements. SFAS No. 145 also rescinds SFAS No. 44,Accounting for Leases, to eliminate an inconsistency between the required accounting for sale-leaseback transactions and the required accounting for certain lease modifications that have economic effects that are similar to sale-leaseback transactions. SFAS No. 145 also amends other existing authoritative pronouncements to make various technical corrections, clarify meanings, or describe their applicability under changed conditions. This pronouncement requires gains and losses related to debt transactions to be classified in income from continuing operations. Although we did not have any gains or losses from debt transactions in the current year, we had recorded an extraordinary loss of $2.2 million, net of tax, in the prior year in connection with a debt extinguishment. Accordingly, we retroactively reclassified the loss of $3.6 million to include it in income from continuing operations.
On March 1, 2003, the Company adopted Financial Accounting Standards Board Interpretation No. 45,Guarantor’s Accounting and Disclosure Requirements for Guarantees, Including Indirect Guarantees of Indebtedness of Others(“FIN 45”). FIN 45 applies to contracts or indemnification agreements that contingently require the guarantor to make payments to the guaranteed party based on changes in an underlying that is related to an asset, liability, or an equity security of the guaranteed party. FIN 45‘s disclosure requirements were effective for financial statements of interim or annual periods ending after December 15, 2002. FIN 45‘s initial recognition and initial measurement provisions were applicable on a prospective basis to guarantees issued or modified after December 31, 2002, irrespective of the guarantor’s fiscal year-end. The Company adopted the disclosure requirements of FIN 45 for its fiscal 2003 annual report. Adoption of the initial recognition and initial measurement requirements of FIN 45 did not materially impact the Company’s financial position or results of operations.
Regulatory and Other Matters
We acquired KGMB-TV in Honolulu, Hawaii as part of the Lee acquisition in October 2000. Because we also own KHON-TV in Honolulu and both stations are rated among the top four television stations in the Honolulu market, we have been operating KGMB-TV under various temporary waivers to the FCC’s current ownership rules. On July 2, the FCC released its Report and Order and Notice of Proposed Rulemaking containing new local television ownership rules that we expect to become effective in the next 60-90 days. We are currently evaluating the Report and Order to explore our possibilities for retaining both stations, as well as the impact that the new regulations will have on our television business. At this point, we do not expect the Report and Order to have a material adverse effect on the Company.
FCC regulations require most commercial television stations in the United States to be currently broadcasting in digital format. Thirteen of our sixteen television stations (excluding “satellite” stations) are currently broadcasting in digital format. Two stations have received an extension that expires in December 2003. The other station, WBPG, is not subject to the usual DTV deadlines because it was not issued a second channel for DTV operation. Rather, WBPG will be required to convert to DTV operation by the conclusion of the DTV transition period. In addition, five of our satellite stations are not currently broadcasting in digital format. Four of these have received extensions that expire in August 2003 and one has an extension that expires in December 2003. We believe that the continued grant of extensions is appropriate because the delays are due to conditions largely beyond our control. However, no assurances can be given that further extensions will be granted. Based upon the FCC’s treatment of certain broadcasters who were not granted extensions to the original May 2002 deadline, we believe that the FCC will issue a formal admonishment to any broadcaster whose extension request is denied and may issue a monetary fine if the station has not commenced digital broadcasting within six months of the date of the FCC’s admonishment. We cannot predict the extent, if any, of the monetary fine, nor can we predict the other actions the FCC will take if the station does not commence digital broadcasts within six months after the date of the fine.
Quantitative and Qualitative Disclosures About Market Risk
Management monitors and evaluates changes in market conditions on a regular basis. Based upon the most recent review, management has determined that there have been no material developments affecting market risk since the filing of the Company’s Annual Report on Form 10-K for the year ended February 28, 2003.
Item 3. Quantitative and Qualitative Disclosures About Market Risk
Discussion regarding these items is included in management’s discussion and analysis of financial condition and results of operations.
Item 4. Controls and Procedures
Quarterly Evaluation of the Companies’ Disclosure Controls
Within the 90 days prior to the date of this Quarterly Report on Form 10-Q, the Company evaluated the effectiveness of the design and operation of its “disclosure controls and procedures” (“Disclosure Controls”). This evaluation (the “Controls Evaluation”) was performed under the supervision and with the participation of management, including our Chief Executive Officer (“CEO”) and Chief Financial Officer (“CFO”).
CEO and CFO Certifications
Immediately following the Signatures section of this Quarterly Report, there are two separate forms of “Certifications” of the CEO and the CFO for each of Emmis Communications Corporation and Subsidiaries and Emmis Operating Company and Subsidiaries. The first form of Certification (the “Rule 13a-14 Certification”) is required in accord with Rule 13a-14 of the Securities Exchange Act of 1934 (the “Exchange Act”). This Controls and Procedures section of the Quarterly Report includes the information concerning the Controls Evaluation referred to in the Rule 13a-14 Certifications and it should be read in conjunction with the Rule 13a-14 Certifications for a more complete understanding of the topics presented.
Disclosure Controls
Disclosure Controls are procedures designed to ensure that information required to be disclosed in our reports filed under the Exchange Act, such as this Quarterly Report, is recorded, processed, summarized and reported within the time periods specified in the U.S. Securities and Exchange Commission’s (the “SEC”) rules and forms. Disclosure Controls are also designed to ensure that such information is accumulated and communicated to our management, including the CEO and CFO, as appropriate to allow timely decisions regarding required disclosure.
Limitations on the Effectiveness of Controls
The Company’s management, including the CEO and CFO, does not expect that our Disclosure Controls will prevent all error. A control system, no matter how well designed and operated, can provide only reasonable, not absolute, assurance that the control system’s objectives will be met. Further, the design of a control system must reflect the fact that there are resource constraints, and the benefits of controls must be considered relative to their costs. Because of the inherent limitations in all control systems, no evaluation of controls can provide absolute assurance that all control issues within the Company have been detected. These inherent limitations include the realities that judgments in decision-making can be faulty, and that breakdowns can occur because of simple error or mistake. Controls can also be circumvented by the individual acts of some persons, by collusion of two or more people, or by management override of the controls. The design of any system of controls is based in part upon certain assumptions about the likelihood of future events, and there can be no assurance that any design will succeed in achieving its stated goals under all potential future conditions. Over time, controls may become inadequate because of changes in conditions or deterioration in the degree of compliance with policies or procedures. Because of the inherent limitations in a cost-effective control system, misstatements due to error may occur and not be detected.
Scope of the Controls Evaluation
The evaluation of our Disclosure Controls included a review of the controls’ objectives and design, the Company’s implementation of the controls and the effect of the controls on the information generated for use in this Quarterly Report. In the course of the Controls Evaluation, we sought to identify data errors, controls problems or acts of fraud and confirm that appropriate corrective actions, including process improvements, were being undertaken. This type of evaluation is performed on a quarterly basis so that the conclusions of management, including the CEO and CFO, concerning controls effectiveness can be reported in our Quarterly Reports on Form 10-Q and Annual Report on Form 10-K. The overall goals of these various evaluation activities are to monitor our Disclosure Controls and to modify them as necessary. Our intent is to maintain the Disclosure Controls as dynamic systems that change as conditions warrant.
Among other matters, we sought in our evaluation to determine whether there were any “significant deficiencies” or “material weaknesses” in the Company’s internal controls, and whether the Company had identified any acts of fraud involving personnel with a significant role in the Company’s internal controls. This information was important both for the Controls Evaluation generally, and because items 5 and 6 in the Rule 13a-14 Certifications of the CEO and CFO require that the CEO and CFO disclose that information to our Board’s Audit Committee and our independent auditors, and report on related matters in this section of the Quarterly Report. In professional auditing literature, “significant deficiencies” are referred to as “reportable conditions,” which are control issues that could have a significant adverse effect on the ability to record, process, summarize and report financial data in the financial statements. Auditing literature defines “material weakness” as a particularly serious reportable condition where the internal control does not reduce to a relatively low level the risk that misstatements caused by error or fraud may occur in amounts that would be material in relation to the financial statements and the risk that such misstatements would not be detected within a timely period by employees in the normal course of performing their assigned functions. We also sought to deal with other controls matters in the Controls Evaluation, and in each case if a problem was identified, we considered what revision, improvement and/or correction to make in accordance with our ongoing procedures.
From the date of the Controls Evaluation to the date of this Quarterly Report, there have been no significant changes in internal controls or in other factors that could significantly affect internal controls, including any corrective actions with regard to significant deficiencies and material weaknesses.
Conclusion
Based upon the Controls Evaluation, our CEO and CFO have concluded that, subject to the limitations noted above, our Disclosure Controls are effective to ensure that material information relating to Emmis Communications Corporation and Subsidiaries and Emmis Operating Company and Subsidiaries is made known to management, including the CEO and CFO, particularly during the period when our periodic reports are being prepared.
PART II — OTHER INFORMATION
Item 6. Exhibits and Reports on Form 8-K
| | | | | The following exhibits are filed or incorporated by reference as a part of this report: |
| | | | | 3.1 | | Second Amended and Restated Articles of Incorporation of Emmis Communications Corporation, incorporated by reference from Exhibit 3.1 to the Company’s Form 10-K/A for the year ended February 29, 2000, and an amendment thereto relating to certain 12.5% Senior Preferred Stock incorporated by reference from Exhibit 3.1 to the Company’s current report on Form 8-K filed December 13, 2001. |
| | | | | 3.2 | | Amended and Restated Bylaws of Emmis Communications Corporation, incorporated by reference from Exhibit 3.2 to the Company’s Form 10-Q for the quarter ended November 30, 2002. |
| | | | | 3.3 | | Articles of Incorporation of Emmis Operating Company, incorporated by reference from Exhibit 3.4 to the Company's Form S-3/A File No. 333-62172 filed on June 21, 2001. |
| | | | | 3.4 | | Bylaws of Emmis Operating Company, incorporated by reference from Exhibit 3.5 to the Company's Form S-3/A File No. 333-62172 filed on June 21, 2001. |
| | On March 5, 2003, the Company filed a Form 8-K to update investors on the status of its previously announced intentions to separate its radio and television businesses. |
| | On April 15, 2003, the Company included on Form 8-K its press release announcing its financial results for the three and twelve months ended February 28, 2002 and 2003. |
Pursuant to the requirements of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized.
| | | EMMIS COMMUNICATIONS CORPORATION
|
|---|
| Date: July 15, 2003 | | By: /s/ WALTER Z. BERGER
Walter Z. Berger
Executive Vice President (Authorized Corporate
Officer), Chief Financial Officer and Treasurer |
CERTIFICATION OF PRINCIPAL EXECUTIVE OFFICER
I, Jeffrey H. Smulyan, certify that:
| 1. | | I have reviewed this quarterly report on Form 10-Q of Emmis Communications Corporation; |
| 2. | | Based on my knowledge, this quarterly report does not contain any untrue statement of a material fact or omit to state a material fact necessary to make the statements made, in light of the circumstances under which such statements were made, not misleading with respect to the period covered by this quarterly report; |
| 3. | | Based on my knowledge, the financial statements, and other financial information included in this quarterly report, fairly present in all material respects the financial condition, results of operations and cash flows of the registrant as of, and for, the periods presented in this quarterly report; |
| 4. | | The registrant’s other certifying officers and I are responsible for establishing and maintaining disclosure controls and procedures (as defined in Exchange Act Rules 13a-14 and 15d-14) for the registrant and we have: |
| a) | designed such disclosure controls and procedures to ensure that material information relating to the registrant, including its consolidated subsidiaries, is made known to us by others within those entities, particularly during the period in which this quarterly report is being prepared; |
| b) | evaluated the effectiveness of the registrant’s disclosure controls and procedures as of a date within 90 days prior to the filing date of this quarterly report (the “Evaluation Date”); and |
| c) | presented in this quarterly report our conclusions about the effectiveness of the disclosure controls and procedures based on our evaluation as of the Evaluation Date; |
| 5. | | The registrant’s other certifying officers and I have disclosed, based on our most recent evaluation, to the registrant’s auditors and the audit committee of registrant’s board of directors (or persons performing the equivalent function): |
| a) | all significant deficiencies in the design or operation of internal controls which could adversely affect the registrant’s ability to record, process, summarize and report financial data and have identified for the registrant’s auditors any material weaknesses in internal controls; and |
| b) | any fraud, whether or not material, that involves management or other employees who have a significant role in the registrant’s internal controls; and |
| 6. | | The registrant’s other certifying officers and I have indicated in this quarterly report whether or not there were significant changes in internal controls or in other factors that could significantly affect internal controls subsequent to the date of our most recent evaluation, including any corrective actions with regard to significant deficiencies and material weaknesses. |
Date: July 15, 2003
| | /s/ JEFFREY H. SMULYAN
Jeffrey H. Smulyan
Chairman of the Board, President and
Chief Executive Officer |
CERTIFICATION OF PRINCIPAL FINANCIAL OFFICER
I, Walter Z. Berger, certify that:
| 1. | | I have reviewed this quarterly report on Form 10-Q of Emmis Communications Corporation; |
| 2. | | Based on my knowledge, this quarterly report does not contain any untrue statement of a material fact or omit to state a material fact necessary to make the statements made, in light of the circumstances under which such statements were made, not misleading with respect to the period covered by this quarterly report; |
| 3. | | Based on my knowledge, the financial statements, and other financial information included in this quarterly report, fairly present in all material respects the financial condition, results of operations and cash flows of the registrant as of, and for, the periods presented in this quarterly report; |
| 4. | | The registrant’s other certifying officers and I are responsible for establishing and maintaining disclosure controls and procedures (as defined in Exchange Act Rules 13a-14 and 15d-14) for the registrant and we have: |
| a) | designed such disclosure controls and procedures to ensure that material information relating to the registrant, including its consolidated subsidiaries, is made known to us by others within those entities, particularly during the period in which this quarterly report is being prepared; |
| b) | evaluated the effectiveness of the registrant’s disclosure controls and procedures as of a date within 90 days prior to the filing date of this quarterly report (the “Evaluation Date”); and |
| c) | presented in this quarterly report our conclusions about the effectiveness of the disclosure controls and procedures based on our evaluation as of the Evaluation Date; |
| 5. | | The registrant’s other certifying officers and I have disclosed, based on our most recent evaluation, to the registrant’s auditors and the audit committee of registrant’s board of directors (or persons performing the equivalent function): |
| a) | all significant deficiencies in the design or operation of internal controls which could adversely affect the registrant’s ability to record, process, summarize and report financial data and have identified for the registrant’s auditors any material weaknesses in internal controls; and |
| b) | any fraud, whether or not material, that involves management or other employees who have a significant role in the registrant’s internal controls; and |
| 6. | | The registrant’s other certifying officers and I have indicated in this quarterly report whether or not there were significant changes in internal controls or in other factors that could significantly affect internal controls subsequent to the date of our most recent evaluation, including any corrective actions with regard to significant deficiencies and material weaknesses. |
Date: July 15, 2003
| | /s/ WALTER Z. BERGER
Walter Z. Berger
Executive Vice President, Treasurer
and Chief Financial Officer |
SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized.
| Date: July 15, 2003 | | By: /s/ WALTER Z. BERGER
Walter Z. Berger
Executive Vice President (Authorized Corporate
Officer), Chief Financial Officer and Treasurer |
CERTIFICATION OF PRINCIPAL EXECUTIVE OFFICER
I, Jeffrey H. Smulyan, certify that:
| 1. | | I have reviewed this quarterly report on Form 10-Q of Emmis Operating Company; |
| 2. | | Based on my knowledge, this quarterly report does not contain any untrue statement of a material fact or omit to state a material fact necessary to make the statements made, in light of the circumstances under which such statements were made, not misleading with respect to the period covered by this quarterly report; |
| 3. | | Based on my knowledge, the financial statements, and other financial information included in this quarterly report, fairly present in all material respects the financial condition, results of operations and cash flows of the registrant as of, and for, the periods presented in this quarterly report; |
| 4. | | The registrant’s other certifying officers and I are responsible for establishing and maintaining disclosure controls and procedures (as defined in Exchange Act Rules 13a-14 and 15d-14) for the registrant and we have: |
| a) | designed such disclosure controls and procedures to ensure that material information relating to the registrant, including its consolidated subsidiaries, is made known to us by others within those entities, particularly during the period in which this quarterly report is being prepared; |
| b) | evaluated the effectiveness of the registrant’s disclosure controls and procedures as of a date within 90 days prior to the filing date of this quarterly report (the “Evaluation Date”); and |
| c) | presented in this quarterly report our conclusions about the effectiveness of the disclosure controls and procedures based on our evaluation as of the Evaluation Date; |
| 5. | | The registrant’s other certifying officers and I have disclosed, based on our most recent evaluation, to the registrant’s auditors and the audit committee of registrant’s board of directors (or persons performing the equivalent function): |
| a) | all significant deficiencies in the design or operation of internal controls which could adversely affect the registrant’s ability to record, process, summarize and report financial data and have identified for the registrant’s auditors any material weaknesses in internal controls; and |
| b) | any fraud, whether or not material, that involves management or other employees who have a significant role in the registrant’s internal controls; and |
| 6. | | The registrant’s other certifying officers and I have indicated in this quarterly report whether or not there were significant changes in internal controls or in other factors that could significantly affect internal controls subsequent to the date of our most recent evaluation, including any corrective actions with regard to significant deficiencies and material weaknesses. |
Date: July 15, 2003
| | /s/ JEFFREY H. SMULYAN
Jeffrey H. Smulyan
Chairman of the Board, President and
Chief Executive Officer |
CERTIFICATION OF PRINCIPAL FINANCIAL OFFICER
I, Walter Z. Berger, certify that:
| 1. | | I have reviewed this quarterly report on Form 10-Q of Emmis Operating Company; |
| 2. | | Based on my knowledge, this quarterly report does not contain any untrue statement of a material fact or omit to state a material fact necessary to make the statements made, in light of the circumstances under which such statements were made, not misleading with respect to the period covered by this quarterly report; |
| 3. | | Based on my knowledge, the financial statements, and other financial information included in this quarterly report, fairly present in all material respects the financial condition, results of operations and cash flows of the registrant as of, and for, the periods presented in this quarterly report; |
| 4. | | The registrant’s other certifying officers and I are responsible for establishing and maintaining disclosure controls and procedures (as defined in Exchange Act Rules 13a-14 and 15d-14) for the registrant and we have: |
| a) | designed such disclosure controls and procedures to ensure that material information relating to the registrant, including its consolidated subsidiaries, is made known to us by others within those entities, particularly during the period in which this quarterly report is being prepared; |
| b) | evaluated the effectiveness of the registrant’s disclosure controls and procedures as of a date within 90 days prior to the filing date of this quarterly report (the “Evaluation Date”); and |
| c) | presented in this quarterly report our conclusions about the effectiveness of the disclosure controls and procedures based on our evaluation as of the Evaluation Date; |
| 5. | | The registrant’s other certifying officers and I have disclosed, based on our most recent evaluation, to the registrant’s auditors and the audit committee of registrant’s board of directors (or persons performing the equivalent function): |
| a) | all significant deficiencies in the design or operation of internal controls which could adversely affect the registrant’s ability to record, process, summarize and report financial data and have identified for the registrant’s auditors any material weaknesses in internal controls; and |
| b) | any fraud, whether or not material, that involves management or other employees who have a significant role in the registrant’s internal controls; and |
| 6. | | The registrant’s other certifying officers and I have indicated in this quarterly report whether or not there were significant changes in internal controls or in other factors that could significantly affect internal controls subsequent to the date of our most recent evaluation, including any corrective actions with regard to significant deficiencies and material weaknesses. |
Date: July 15, 2003
| | /s/ WALTER Z. BERGER
Walter Z. Berger
Executive Vice President, Treasurer
and Chief Financial Officer |
