EXHIBIT 99.2
Supplemental Discussion of the Financial Results of Caesars Entertainment’s Commercial Mortgage-Backed Securities Related Properties
The properties securing Caesars Entertainment’s commercial mortgage-backed securities (“CMBS Properties”) originally borrowed $6,500.0 million of CMBS financing (the “CMBS Financing”). The CMBS Financing is secured by the assets of the CMBS Properties and certain aspects of the financing are guaranteed by Caesars Entertainment (“Caesars”). The CMBS properties are Harrah’s Las Vegas, Rio, Flamingo Las Vegas, Harrah’s Atlantic City, Paris Las Vegas, and Harrah’s Laughlin.
In this discussion, the words “we” and “our” refer to the CMBS Properties. We are providing this financial information pursuant to the Second Amended and Restated Loan Agreement, dated as of August 31, 2010 (the “CMBS Loan Agreement”), related to the CMBS Financing.
Subsequent to the filing of our annual report on Form 10-K for the year ended December 31, 2011, including Exhibit 99.2 thereto, we identified certain deferred tax gains primarily related to the contribution of O’Shea’s Casino and certain other assets to a subsidiary of Caesars Entertainment Operating Company, Inc. in connection with their development of a retail, dining and entertainment corridor located between the Imperial Palace Hotel and Casino and the Flamingo Las Vegas on the Las Vegas strip. The net impact on the financial statements included herein of correcting for this error is to reduce our deferred tax liabilities and increase our stockholder’s equity by $22.8 million as of December 31, 2011. There are no cash impacts as a result of this correction.
OPERATING RESULTS FOR CMBS PROPERTIES
Overall CMBS Properties Results
The following tables represent CMBS Properties’ unaudited combined balance sheets as of March 31, 2012 and December 31, 2011, and their unaudited combined statements of operations and unaudited combined statements of cash flows for the quarters ended March 31, 2012 and 2011.
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CMBS PROPERTIES
COMBINED BALANCE SHEETS
(UNAUDITED)
(In millions)
March 31, 2012 | December 31, 2011 | |||||||
Assets | ||||||||
Current assets | ||||||||
Cash and cash equivalents | $ | 106.3 | $ | 151.2 | ||||
Receivables, net | 70.2 | 77.2 | ||||||
Deferred income taxes | 14.1 | 14.0 | ||||||
Prepayments and other current assets | 68.7 | 62.2 | ||||||
Inventories | 10.7 | 10.6 | ||||||
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Total current assets | 270.0 | 315.2 | ||||||
Property and equipment, net | 5,064.6 | 5,094.2 | ||||||
Goodwill | 1,690.6 | 1,690.6 | ||||||
Intangible assets other than goodwill | 529.0 | 543.7 | ||||||
Restricted cash | 83.1 | 74.0 | ||||||
Deferred charges and other | 105.0 | 109.3 | ||||||
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$ | 7,742.3 | $ | 7,827.0 | |||||
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Liabilities and Stockholder’s Equity | ||||||||
Current liabilities | ||||||||
Accounts payable | $ | 32.2 | $ | 29.0 | ||||
Interest payable | 7.5 | 7.7 | ||||||
Accrued expenses | 140.5 | 154.5 | ||||||
Current portion of long-term debt | 83.7 | — | ||||||
Due to affiliates, net | 34.1 | 15.9 | ||||||
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Total current liabilities | 298.0 | 207.1 | ||||||
Long-term debt | 4,824.2 | 5,026.0 | ||||||
Deferred credits and other | 28.7 | 32.4 | ||||||
Deferred income taxes | 1,518.9 | 1,523.4 | ||||||
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6,669.8 | 6,788.9 | |||||||
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Total equity | 1,072.5 | 1,038.1 | ||||||
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$ | 7,742.3 | $ | 7,827.0 | |||||
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CMBS PROPERTIES
COMBINED STATEMENTS OF OPERATIONS
(UNAUDITED)
(In millions)
Quarter Ended March 31, | ||||||||
2012 | 2011 | |||||||
Revenues | ||||||||
Casino | $ | 308.2 | $ | 294.7 | ||||
Food and beverage | 127.7 | 122.0 | ||||||
Rooms | 112.5 | 108.9 | ||||||
Other | 44.2 | 44.6 | ||||||
Less: casino promotional allowances | (87.3 | ) | (85.0 | ) | ||||
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Net revenues | 505.3 | 485.2 | ||||||
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Operating expenses | ||||||||
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Casino | 161.9 | 155.1 | ||||||
Food and beverage | 60.4 | 57.4 | ||||||
Rooms | 30.8 | 27.4 | ||||||
Property, general, administrative, and other | 126.2 | 127.7 | ||||||
Depreciation and amortization | 39.1 | 38.5 | ||||||
Write-downs and reserves, net of recoveries | 2.0 | 2.2 | ||||||
Income on interests in non-consolidated affiliates | (0.5 | ) | (0.6 | ) | ||||
Corporate expense | 24.0 | 22.3 | ||||||
Acquisition and integration costs | — | 0.3 | ||||||
Amortization of intangible assets | 14.8 | 14.9 | ||||||
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Total operating expenses | 458.7 | 445.2 | ||||||
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Income from operations | 46.6 | 40.0 | ||||||
Interest expense, net of interest capitalized | (52.3 | ) | (54.5 | ) | ||||
Gains on early extinguishments of debt | 45.8 | 33.2 | ||||||
Other income, including interest income | 0.2 | — | ||||||
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Income before income taxes | 40.3 | 18.7 | ||||||
Provision for income taxes | (14.5 | ) | (6.7 | ) | ||||
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Net income | $ | 25.8 | $ | 12.0 | ||||
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CMBS PROPERTIES
COMBINED STATEMENTS OF CASH FLOWS
(UNAUDITED)
(In millions)
Quarter Ended March 31, | ||||||||
2012 | 2011 | |||||||
Cash flows (used in)/provided by operating activities | $ | (21.2 | ) | $ | 11.7 | |||
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Cash flows from investing activities | ||||||||
Acquisitions of property and equipment, net of change in construction payables | (11.6 | ) | (3.8 | ) | ||||
Change in restricted cash | (11.4 | ) | (50.2 | ) | ||||
Other | (0.7 | ) | (1.2 | ) | ||||
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Cash flows used in investing activities | (23.7 | ) | (55.2 | ) | ||||
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Cash flows from financing activities | ||||||||
Cash paid for early extinguishments of debt | (71.8 | ) | (73.5 | ) | ||||
Cash received from Caesars Entertainment for financing transactions | 71.8 | 73.5 | ||||||
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Cash flows used in financing activities | — | — | ||||||
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Net decrease in cash and cash equivalents | (44.9 | ) | (43.5 | ) | ||||
Cash and cash equivalents, beginning of period | 151.2 | 121.8 | ||||||
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Cash and cash equivalents, end of period | $ | 106.3 | $ | 78.3 | ||||
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Cash paid for interest | $ | 41.7 | $ | 42.3 | ||||
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COMBINED OPERATING RESULTS
Quarter Ended March 31, | Percentage Favorable/ (Unfavorable) | |||||||||||
(Dollars in millions) | 2012 | 2011 | ||||||||||
Casino revenues | $ | 308.2 | $ | 294.7 | 4.6 | % | ||||||
Net revenues | 505.3 | 485.2 | 4.1 | % | ||||||||
Income from operations | 46.6 | 40.0 | 16.5 | % | ||||||||
Net income | 25.8 | 12.0 | 115.0 | % | ||||||||
Operating margin* | 9.2 | % | 8.2 | % | 1.0 | pts |
* | Operating margin is calculated as income/(loss) from operations divided by net revenues for the respective period. |
Net revenues for the first quarter of 2012 were $505.3 million, up $20.1 million, or 4.1%, from the year-earlier period. The increase in net revenues was due mainly to higher casino revenues at the properties in Nevada and higher food and beverage revenues at the Atlantic City property.
For the first quarter of 2012, income from operations rose $6.6 million, or 16.5%, to $46.6 million from $40.0 million in the year-ago first quarter. This increase was primarily due to the income impact of higher revenues.
Net income for the first quarter of 2012 was $25.8 million, up $13.8 million, or 115.0%, from the first quarter of 2011 due primarily to the increase in income from operations and higher gains from early extinguishments of debt as further discussed below.
OTHER FACTORS AFFECTING NET INCOME
Expense/(income) | Quarter Ended March 31, | Percentage Favorable/ (Unfavorable) | ||||||||||
(In millions) | 2012 | 2011 | ||||||||||
Interest expense, net of interest capitalized | $ | 52.3 | $ | 54.5 | 4.0 | % | ||||||
Gains on early extinguishments of debt | (45.8 | ) | (33.2 | ) | 38.0 | % | ||||||
Provision for income taxes | 14.5 | 6.7 | (116.4 | )% |
Gains on early extinguishments of debt during the quarters ended March 31, 2012 and 2011 relate to amounts recognized as a result of purchase and sale agreements with certain lenders to acquire mezzanine loans under the CMBS Financing. These events are discussed more fully in the “Liquidity and Capital Resources” section that follows herein.
LIQUIDITY AND CAPITAL RESOURCES
Cost Savings Initiatives
Caesars Entertainment has undertaken comprehensive cost-reduction efforts to right size expenses with business levels through its implementation of “Project Renewal,” an initiative designed to reinvent certain aspects of Caesars’ functional and operating units to gain significant cost reductions and streamline its operations. As part of Project Renewal, Caesars designed a shared-services organization that will enable more efficient decision making and sharing of best practices. Caesars anticipates that it will have a permanently lower cost structure and will benefit from greater concentration of specified talent and quicker decision making.
In accordance with our shared-services agreement with Caesars Entertainment, we estimate that Project Renewal and previous cost savings programs produced $12.6 million in incremental cost savings for the first quarter of 2012 when compared to the same period of 2011. Additionally, as of March 31, 2012, we estimate that, once fully implemented, these cost-savings programs will produce additional annual cost savings of $56.6 million.
Capital Spending and Development
We incur capital expenditures in the normal course of business and we perform ongoing refurbishment and maintenance at our existing casino entertainment facilities to maintain our quality standards. We also continue to pursue development and
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acquisition opportunities for additional casino entertainment and other hospitality facilities that meet our strategic and return on investment criteria.
Our planned development projects, if they go forward, will require, individually and in the aggregate, significant capital commitments and, if completed, may result in significant additional revenues. The commitment of capital, the timing of completion, and the commencement of operations of development projects are contingent upon, among other things, negotiation of final agreements and receipt of approvals from the appropriate political and regulatory bodies. We must also comply with covenants and restrictions set forth in the CMBS Loan Agreement.
Our capital spending for the quarter ended March 31, 2012 totaled $11.6 million, including a decrease of $0.2 million of construction payables. Estimated total capital expenditures for 2012 are expected to be between $50.0 million and $60.0 million.
Cash used for capital expenditures in the normal course of business is typically made available from cash flows generated by our operating activities while cash used for future development projects may be funded from established debt programs, specific project financing, or additional debt offerings.
Liquidity
Our cash and cash equivalents, excluding restricted cash, totaled $106.3 million at March 31, 2012, compared to $151.2 million at December 31, 2011. Restricted cash, including $29.0 million included in prepayments and other current assets, totaled $112.1 million at March 31, 2012. Nearly all of the restricted cash consists of cash reserved under loan agreements for development projects and certain expenditures incurred in the normal course of business, such as interest service, real estate taxes, property insurance, and capital improvements.
The CMBS Properties are highly leveraged and a significant amount of our liquidity needs are for debt service. As of March 31, 2012 , we had $4,907.9 million book value of indebtedness outstanding, including capital lease indebtedness, and cash paid for interest for the quarter ended March 31, 2012 was $41.7 million.
Our operating cash inflows are used for operating expenses, debt service costs, working capital needs, and capital expenditures in the normal course of business. From time to time, we retire portions of our outstanding debt through open market purchases, privately negotiated transactions or otherwise, using available cash on hand or established debt programs. From time to time, we distribute excess cash flow to Caesars Entertainment. The amount of excess cash flow that may be distributed is limited to 85% of excess cash flow with respect to such quarter, as defined in the CMBS Loan Agreement.
Our ability to fund our operations, pay our debt obligations, and fund planned capital expenditures depends, in part, upon economic and other factors that are beyond our control, and disruptions in capital markets and restrictive covenants related to our existing debt could impact our ability to secure additional funds through financing activities. We believe that our cash and cash equivalents balance and our cash flows from operations will be sufficient to meet our normal operating requirements during the next 12 months and to fund capital expenditures.
We cannot assure you that our business will generate sufficient cash flows from operations, or that future borrowings will be available to us, to fund our liquidity needs and pay our indebtedness. If we are unable to meet our liquidity needs or pay our indebtedness when it is due, we may have to reduce or delay refurbishment and expansion projects, reduce expenses, sell assets, or attempt to restructure our debt. Any such actions could negatively impact our competitive position and revenue generation. In addition, we have pledged a significant portion of our assets as collateral under certain of our debt agreements, and, if any of those lenders accelerate the repayment of borrowings, there can be no assurance that we will have sufficient assets to repay our indebtedness.
Capital Resources
In January 2012, we purchased $2.0 million of face value of CMBS Loans for $1.0 million, recognizing a gain of $1.0 million, net of deferred finance charges. In March 2012, we purchased $116.7 million of face value of CMBS Loans for $70.8 million, recognizing a gain of $44.8 million, net of deferred finance charges.
In April 2012, we purchased $83.7 million of face value of CMBS Loans for $50.2 million, recognizing a gain of $32.7 million, net of deferred finance charges. As a result of the above purchase, the principal balance is included in current portion of long-term debt on our combined balance sheet as of March 31, 2012.
Derivative Instruments
We have an interest rate cap agreement to partially hedge the risk of future increases in the variable rate of the CMBS Financing. The CMBS interest rate cap agreement, which was effective in January 2008 and terminates February 13, 2013, is
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for a notional amount of $6,500.0 million at a LIBOR cap rate of 4.5%. We are amortizing deferred losses from the interest rate cap frozen in accumulated other comprehensive loss (“AOCL”) into income over the original remaining term of the hedge forecasted transactions that are still probable of occurring. For the three months ended March 31, 2012, we recorded $5.2 million as an increase to interest expense, and we will record an additional $19.2 million as an increase to interest expense and AOCL through the termination date, all related to deferred losses on the interest rate cap. At March 31, 2012, $4,650.2 million of the interest rate cap was designated a cash flow hedging instrument for accounting purposes. Any future changes in fair value of the portion of the interest rate cap not designated as a hedging instrument will be recognized in interest expense during the period in which the changes in value occur.
The hedging relationship between the CMBS Financing and the interest rate cap has remained effective subsequent to each debt extinguishment. In connection with the extinguishments, we reclassified deferred losses out of AOCL and into interest expense associated with the hedge for which the forecasted future transactions are no longer probable of occurring.
GUARANTEES OF THIRD-PARTY DEBT AND OTHER OBLIGATIONS AND COMMITMENTS
Material changes to our aggregate indebtedness are discussed in the “Capital Resources” section of this Exhibit 99.2. As of March 31, 2012, there have been no material changes outside the ordinary course of business to our other known contractual obligations, which are set forth in the table included in the Supplemental Discussion of Caesars Commercial Mortgage-Backed Securities Related Properties filed as Exhibit 99.2 to our Annual Report on Form 10-K for the year ended December 31, 2011.
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