Exhibit 99.3
ITEM 8. FINANCIAL STATEMENTS
REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM
The Partners
American Real Estate Partners, L.P.:
We have audited the accompanying consolidated balance sheets of American
Real Estate Partners, L.P. and subsidiaries as of December 31, 2003 and 2002,
and the related consolidated statements of earnings, changes in partners' equity
and comprehensive income, and cash flows for each of the years in the three-year
period ended December 31, 2003. In connection with our audits of the
consolidated financial statements, we have also audited the financial statement
schedule as listed in the Index at Item 15(a)2. These consolidated financial
statements and the financial statement schedule are the responsibility of the
Partnership's management. Our responsibility is to express an opinion on these
consolidated financial statements and the financial statement schedule based on
our audits.
We conducted our audits in accordance with the standards of the Public
Company Accounting Oversight Board (United States). Those standards require that
we plan and perform the audit to obtain reasonable assurance about whether the
financial statements are free of material misstatement. An audit includes
examining, on a test basis, evidence supporting the amounts and disclosures in
the financial statements. An audit also includes assessing the accounting
principles used and significant estimates made by management, as well as
evaluating the overall financial statement presentation. We believe that our
audits provide a reasonable basis for our opinion.
In our opinion, the consolidated financial statements referred to above
present fairly, in all material respects, the financial position of American
Real Estate Partners, L.P. and subsidiaries as of December 31, 2003 and 2002 and
the results of their operations and their cash flows for each of the years in
the three-year period ended December 31, 2003 in conformity with U.S. generally
accepted accounting principles. Also, in our opinion, the related financial
statement schedule, when considered in relation to the basic consolidated
financial statements taken as a whole, presents fairly, in all material
respects, the information set forth therein.
/s/ KPMG LLP
New York, New York
March 12, 2004
F-1
AMERICAN REAL ESTATE PARTNERS, L.P. AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
DECEMBER 31, 2003 AND 2002
(IN $000'S EXCEPT PER UNIT AMOUNTS)
DECEMBER 31,
-------------------------------------
2003 2002
------------ ------------
ASSETS
Real estate leased to others:
Accounted for under the financing method (Notes 4, 14 and 15) ............ $ 137,356 $ 155,458
Accounted for under the operating method, net of accumulated depreciation
(Notes 5, 14 and 15) .................................................... 76,443 204,242
Properties held for sale (Notes 5 and 14) ................................. 128,813 4,300
Investment in U.S. Government and Agency obligations (Note 6) ............. 61,573 336,051
Note receivable due from affiliate (Note 12) .............................. -- 250,000
Cash and cash equivalents (Note 2) ........................................ 467,704 54,871
Marketable equity and debt securities (Note 7) ............................ 80,522 26,728
Mortgages and notes receivable (Note 11) .................................. 50,328 56,216
Investment in NEG Holding LLC (Note 10) ................................... 69,346 108,880
Equity interest in GB Holdings, Inc. (Note 8) ............................. 30,854 37,280
Hotel, casino and resort operating properties net of accumulated
depreciation:
Stratosphere Corporation hotel and casino (Note 9) ....................... 174,249 171,430
Hotel and resort (Notes 5 and 13) ........................................ 41,526 44,346
Land and construction-in-progress ......................................... 43,459 40,415
Deferred tax asset (Note 19) .............................................. 82,450 25,522
Receivables and other assets .............................................. 45,307 44,737
------------ ------------
Total ................................................................... $ 1,489,930 $ 1,560,476
============ ============
LIABILITIES AND PARTNERS' EQUITY
Mortgages payable (Notes 4, 5 and 15):
Real estate leased to others ............................................. $ 98,128 $ 171,848
Properties held for sale ................................................. 82,861 --
------------ ------------
180,989 171,848
Credit facility due affiliates (Notes 10 and 16) .......................... -- 10,940
Senior notes due affiliates (Notes 10 and 16) ............................. -- 148,637
Interest payable-senior notes (Note 16) ................................... -- 44,360
Accounts payable, accrued expenses and other liabilities .................. 53,844 54,515
Preferred limited partnership units:
$10 liquidation preference, 5% cumulative pay-in-kind; 9,900,000
authorized; 9,796,607 issued and outstanding as of December 31, 2003
(Note 18) ............................................................... 101,649 --
------------ ------------
336,482 430,300
------------ ------------
Commitments and contingencies (Notes 3 and 22)
Limited partners:
Preferred units, $10 liquidation preference, 5% cumulative pay-in-kind
redeemable; 9,400,000 authorized; 9,330,963 issued and outstanding as of
December 31, 2002 (Note 18) ............................................. -- 96,808
Depositary units; 47,850,000 authorized; 47,235,484 outstanding .......... 1,184,870 1,071,857
General partner ........................................................... (19,501) (26,568)
Treasury units at cost:
1,137,200 depositary units (Note 25) ...................................... (11,921) (11,921)
------------ ------------
Partners' equity (Notes 2, 3 and 17) ...................................... 1,153,448 1,130,176
------------ ------------
Total ................................................................... $ 1,489,930 $ 1,560,476
============ ============
See notes to consolidated financial statements.
F-2
AMERICAN REAL ESTATE PARTNERS, L.P. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF EARNINGS
YEARS ENDED DECEMBER 31, 2003, 2002 AND 2001
(IN $000'S EXCEPT PER UNIT AMOUNTS)
YEARS ENDED DECEMBER 31,
--------------------------------------------
2003 2002 2001
------------ ------------ ------------
Revenues:
Hotel and casino operating income (Note 9) ....... $ 163,701 $ 156,315 $ 144,354
Land, house and condominium sales ................ 13,265 76,024 55,566
Interest income on financing leases .............. 13,115 14,722 16,935
Interest income on U.S. Government and Agency
obligations and other investments (Notes 11
and 12) ......................................... 22,543 30,344 30,367
Rental income .................................... 11,636 10,516 10,431
Hotel and resort operating income (Note 13) ...... 14,592 14,918 12,276
Accretion of investment in NEG Holding LLC
(Note 10) ....................................... 30,142 32,879 9,834
Oil and gas operating income ..................... -- -- 33,176
NEG management fee ............................... 7,967 7,637 2,699
Dividend and other income (Notes 7 and 11) ....... 3,061 2,720 4,877
Equity in earnings (loss) of GB Holdings,
Inc. (Note 8) ................................... (3,466) 305 1,807
------------ ------------ ------------
276,556 346,380 322,322
------------ ------------ ------------
Expenses:
Hotel and casino operating expenses (Note 9) ..... 135,429 131,659 127,956
Cost of land, house and condominium sales ........ 9,129 54,640 42,599
Hotel and resort operating expenses (Note 13) .... 11,138 12,553 10,792
Interest expense (Notes 7, 14, 15 and 18) ........ 20,640 27,369 34,765
Oil and gas operating expenses ................... -- -- 5,569
Depreciation and amortization .................... 17,773 17,613 20,814
General and administrative expenses (Note 3) ..... 14,081 14,134 13,011
Property expenses ................................ 5,475 4,682 3,028
------------ ------------ ------------
213,665 262,650 258,534
------------ ------------ ------------
Operating income .................................. 62,891 83,730 63,788
Other gains and (losses):
Provision for loss on real estate ................ (750) (3,212) (3,184)
Gain on sale of marketable equity and debt
securities ...................................... 2,607 -- 6,749
Write-down of equity securities available for
sale (Note 7) ................................... (961) (8,476) --
Write-down of mortgages and notes receivable
(Note 7) ........................................ (18,798) -- --
Gain on sales and disposition of real estate
(Note 14) ....................................... 7,121 8,990 1,737
Loss on limited partnership interests ........... -- (3,750) --
Minority interest in net earnings of
Stratosphere Corporation (Note 9) ............... -- (1,943) (450)
------------ ------------ ------------
Income from continuing operations before
income taxes .................................... 52,110 75,339 68,640
Income tax benefit (expense) (Note 19) ........... 6,495 (7,480) 30,077
------------ ------------ ------------
Income from continuing operations ................ 58,605 67,859 98,717
------------ ------------ ------------
Discontinued operations:
Income from discontinued operations .............. 6,139 6,007 6,117
Gain on sales and disposition of real estate ..... 3,353 -- --
------------ ------------ ------------
Income from discontinued operations ............... 9,492 6,007 6,117
------------ ------------ ------------
Net earnings ...................................... $ 68,097 $ 73,866 $ 104,834
============ ============ ============
Net earnings attributable to (Note 3):
Limited partners ................................ $ 59,360 $ 63,168 $ 66,190
General partners ................................ 8,737 10,698 38,644
------------ ------------ ------------
$ 68,097 $ 73,866 $ 104,834
============ ============ ============
Net earnings per limited partnership unit (Note 2):
Basic earnings:
Income from continuing operations ............... $ 1.03 $ 1.15 $ 1.21
Income from discontinued operations ............. 0.20 0.12 0.13
------------ ------------ ------------
Basic earnings per LP unit ....................... $ 1.23 $ 1.27 $ 1.34
============ ============ ============
Weighted average limited partnership units
outstanding ..................................... 46,098,284 46,098,284 46,098,284
============ ============ ============
Diluted earnings:
Income from continuing operations ............... $ 0.96 $ 1.02 $ 1.09
Income from discontinued operations ............. 0.17 0.10 0.10
------------ ------------ ------------
Diluted earnings per LP unit ..................... $ 1.13 $ 1.12 $ 1.19
============ ============ ============
Weighted average limited partnership units and
equivalent partnership units outstanding ........ 54,489,943 56,466,698 55,599,112
============ ============ ============
See notes to consolidated financial statements.
F-3
AMERICAN REAL ESTATE PARTNERS, L.P. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CHANGES IN PARTNERS'
EQUITY AND COMPREHENSIVE INCOME
YEARS ENDED DECEMBER 31, 2003, 2002 AND 2001
(IN $000'S)
GENERAL LIMITED PARTNERS' EQUITY
PARTNER'S ------------------------ HELD IN TREASURY TOTAL
EQUITY DEPOSITARY PREFERRED ------------------------ PARTNERS'
(DEFICIT) UNITS UNITS AMOUNTS UNITS EQUITY
---------- ---------- ---------- ---------- ---------- ----------
Balance, December 31, 2000 (as previously
reported) .................................. $ 22,498 $ 944,340 $ 87,808 $ (11,921) 1,137 $1,042,725
NEG, Inc. acquisition (Note 1) ............... (119,705) -- -- -- -- (119,705)
---------- ---------- ---------- ---------- ---------- ----------
Balance, December 31, 2000 (Restated) ........ (97,207) 944,340 87,808 (11,921) 1,137 923,020
Comprehensive income:
Net earnings ................................. 38,644 66,190 -- -- -- 104,834
Reversal of unrealized loss on sale of debt
securities ................................. 78 3,818 -- -- -- 3,896
Net unrealized losses on securities available
for sale ................................... (269) (13,257) -- -- -- (13,526)
---------- ---------- ---------- ---------- ---------- ----------
Comprehensive income ......................... 38,453 56,751 -- -- -- 95,204
Pay-in-kind distribution (Note 18) ........... -- (4,390) 4,390 -- -- --
---------- ---------- ---------- ---------- ---------- ----------
Balance, December 31, 2001 (Restated) ........ (58,754) 996,701 92,198 (11,921) 1,137 1,018,224
Comprehensive income:
Net earnings ................................. 10,698 63,168 -- -- -- 73,866
Reversal of unrealized loss on sale of debt
securities ................................. 211 10,384 -- -- -- 10,595
Adjustment to reverse unrealized loss on
investment securities reclassified to notes
receivable ................................. 131 6,451 -- -- -- 6,582
Net unrealized losses on securities available
for sale ................................... (5) (237) -- -- -- (242)
---------- ---------- ---------- ---------- ---------- ----------
Comprehensive income ......................... 11,035 79,766 -- -- -- 90,801
Net adjustment for acquisition of minority
interest (Note 9(a)) ....................... 21,151 -- -- -- -- 21,151
Pay-in-kind distribution (Note 18) ........... -- (4,610) 4,610 -- -- --
---------- ---------- ---------- ---------- ---------- ----------
Balance, December 31, 2002 (Restated) ........ (26,568) 1,071,857 96,808 (11,921) 1,137 1,130,176
Comprehensive income:
Net earnings ................................. 8,737 59,360 -- -- -- 68,097
Reversal of unrealized loss on sale of debt
securities ................................. 15 746 -- -- -- 761
Net unrealized gains on securities available
for sale ................................... 183 8,991 -- -- -- 9,174
Sale of marketable equity securities available
for sale ................................... (6) (274) -- -- -- (280)
---------- ---------- ---------- ---------- ---------- ----------
Comprehensive income ......................... 8,929 68,823 -- -- -- 77,752
Pay-in-kind distribution (Note 18) ........... -- (2,391) 2,391 -- -- --
Recognition of deferred tax asset at date of
bankruptcy (Note 19) ....................... 946 46,581 -- -- -- 47,527
Capital distribution (Note 1) ................ (2,808) -- -- -- -- (2,808)
Reclassification of Preferred LP units to
liabilities (Note 18) ...................... -- -- (99,199) -- -- (99,199)
---------- ---------- ---------- ---------- ---------- ----------
Balance, December 31, 2003 ................... $ (19,501) $1,184,870 $ -- $ (11,921) 1,137 $1,153,448
========== ========== ========== ========== ========== ==========
Accumulated other comprehensive gain (loss) at December 31, 2003, 2002 and
2001 was $9,174, ($242) and ($17,178), respectively.
See notes to consolidated financial statements.
F-4
AMERICAN REAL ESTATE PARTNERS, L.P. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
YEARS ENDED DECEMBER 31, 2003, 2002 AND 2001
(IN $000'S)
YEARS ENDED DECEMBER 31,
--------------------------------------
2003 2002 2001
---------- ---------- ----------
Cash flows from operating activities:
Income from continuing operations ............................... $ 58,605 $ 67,859 $ 98,717
Adjustments to reconcile net earnings to net cash provided by
operating activities:
Depreciation and amortization .................................. 17,773 17,613 20,814
Preferred LP interest expense .................................. 2,450 -- --
Gain on sale of marketable equity securities ................... (2,607) -- (6,749)
Gain on sales and disposition of real estate ................... (7,121) (8,990) (1,737)
Loss on limited partnership interests .......................... -- 3,750 --
Provision for loss on real estate .............................. 750 3,212 3,184
Write-down of equity securities available for sale ............. 961 8,476 --
Write-down of mortgages and notes receivable ................... 18,798 -- --
Minority interest in net earnings of Stratosphere Corporation .. -- 1,943 450
Equity in losses (earnings) of GB Holdings, Inc ................ 3,466 (305) (1,807)
Deferred gain amortization ..................................... (2,038) (2,038) (849)
Accretion of investment in NEG Holding LLC ..................... (30,142) (32,879) (9,834)
Deferred income tax (benefit) expense .......................... (7,147) 7,480 (30,077)
Change in fair market value of derivative contracts ............ -- -- 716
Changes in operating assets and liabilities:
(Increase) decrease in land and construction-in-progress .... (6,556) 24,215 7,753
Decrease in accounts payable, accrued expenses
and other liabilities ....................................... (40,503) (3,037) (1,359)
Decrease in receivables and other assets ..................... 1,424 4,068 4,570
---------- ---------- ----------
Net cash provided by continuing operations ................... 8,113 91,367 83,792
---------- ---------- ----------
Income from discontinued operations ............................. 9,492 6,007 6,117
Depreciation and amortization .................................. 4,212 3,616 3,383
Net gain from property transactions ............................ (3,353) -- --
---------- ---------- ----------
Net cash provided by discontinued operations .................. 10,351 9,623 9,500
---------- ---------- ----------
Net cash provided by operating activities ..................... 18,464 100,990 93,292
---------- ---------- ----------
Cash flows from investing activities:
Increase in mortgages and notes receivable ...................... (31,112) (23,200) (15,583)
Repayments of mortgages and notes receivable .................... 12,200 23,000 --
Net proceeds from the sales and disposition of real estate ...... 15,290 20,513 3,656
Principal payments received on leases accounted for under the
financing method ............................................... 5,310 5,941 6,858
Additions to hotel, casino and resort operating property ....... (19,734) (4,577) (62,662)
Acquisitions of rental real estate .............................. -- (18,226) --
Additions to rental real estate ................................. (413) (181) (1,064)
Decrease (increase) in investment in U.S. Government and Agency
Obligations (Note 2) ........................................... 274,478 (22,410) 162,046
Disposition of marketable equity & debt securities............... 3,843 -- 17,929
Disposition proceeds on sale mortgages and notes receivable ..... 2,621 -- --
Increase in marketable equity & debt securities ................. (45,140) (4,415) --
Decrease (increase) in note receivable from affiliate ........... 250,000 -- (250,000)
Decrease in minority interest in Stratosphere Corp............... -- (44,744) --
Decrease in investment in Stratosphere Corp ..................... 788 -- --
Investment in NEG, Inc .......................................... (148,101) -- --
Investment in NEG Holding LLC ................................... -- -- (4,379)
Guaranteed payment from NEG Holding LLC ......................... 18,229 21,653 3,625
Priority distribution from NEG Holding LLC ...................... 40,506 -- --
Oil and natural gas acquisition, exploration and development
expenditures ................................................... -- -- (26,432)
Decrease in due to affiliate .................................... -- (68,815) (8,716)
Increase in investment in joint ventures ........................ -- -- (5,856)
Other ........................................................... 589 197 (29)
---------- ---------- ----------
Net cash provided by (used in) continuing operations .......... 379,354 (115,264) (180,607)
Cash flows from discontinued operations:
Net proceeds from the sales and disposition of real estate .... 5,336 -- --
---------- ---------- ----------
Net cash provided by (used in) investing activities ........... 384,690 (115,264) (180,607)
---------- ---------- ----------
(table continued on next page)
F-5
AMERICAN REAL ESTATE PARTNERS, L.P. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS -- (CONTINUED)
YEARS ENDED DECEMBER 31,
--------------------------------------
2003 2002 2001
---------- ---------- ----------
Cash Flows from financing activities:
Debt:
Repayment of credit facility ......................................... -- -- (25,000)
Proceeds from credit facility ........................................ -- -- 10,940
Repayment of senior notes ............................................ -- -- (10,500)
Proceeds from mortgages payable ...................................... 20,000 12,700 --
Payments on mortgages payable ........................................ (3,837) (462) (6,457)
Periodic principal payments .......................................... (6,484) (7,198) (6,840)
Balloon payments ..................................................... -- -- (1,756)
---------- ---------- ----------
Net cash provided by (used in) financing activities ................. 9,679 5,040 (39,613)
---------- ---------- ----------
Net increase (decrease) in cash and cash equivalents ................... 412,833 (9,234) (126,928)
Cash and cash equivalents, beginning of year ........................... 54,871 64,105 191,033
---------- ---------- ----------
Cash and cash equivalents at end of year ............................... $ 467,704 $ 54,871 $ 64,105
========== ========== ==========
Supplemental information:
Cash payments for interest, net of amounts capitalized............... $ 62,324 $ 36,646 $ 51,910
========== ========== ==========
Cash payments for income taxes ....................................... $ -- $ -- $ 1,200
========== ========== ==========
Supplemental schedule of noncash investing and financing activities:
Reclassification of real estate to operating lease ..................... $ 5,065 $ 13,403 $ 3,082
Reclassification from hotel and resort operating properties ............ -- -- (1,167)
Reclassification of real estate from financing lease ................... (5,065) (13,503) (9,754)
Reclassification of real estate from operating lease ................... (126,263) -- --
Reclassification of real estate to property held for sale............... 126,263 100 6,672
Decrease in mortgages and notes receivable ............................. (3,453) -- --
Decrease in deferred income ............................................ 2,565 -- --
Increase in real estate accounted for under the operating method ....... 888 -- --
Reclassification of real estate to (from) construction-in-progress ..... -- -- 1,167
Reclassification from marketable equity and debt securities ............ -- (20,494) --
Reclassification from receivable and other assets ...................... (1,631) -- --
Reclassification to mortgages and notes receivable ..................... 1,631 20,494 --
---------- ---------- ----------
$ -- $ -- $ --
========== ========== ==========
Net unrealized gains (losses) on securities available for sale ......... $ 9,174 $ (242) $ (13,526)
========== ========== ==========
Increase in equity and debt securities ............................. $ 1,200 $ 2,890 $ 2,500
========== ========== ==========
Contribution of note from NEG Holding LLC .......................... $ 10,940 $ -- $ --
========== ========== ==========
Transfer of assets and liabilities to NEG Holding LLC............... $ -- $ -- $ 87,066
========== ========== ==========
See notes to consolidated financial statements.
F-6
AMERICAN REAL ESTATE PARTNERS, L.P. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
DECEMBER 31, 2003, 2002 AND 2001
1. DESCRIPTION OF BUSINESS AND BASIS OF PRESENTATION
On July 1, 1987, American Real Estate Holdings Limited Partnership (the
"Subsidiary"), in connection with an exchange offer (the "Exchange"), entered
into merger agreements with American Real Estate Partners, L.P. (the "Company")
and each of thirteen separate limited partnerships (collectively, the
"Predecessor Partnerships"), pursuant to which the Subsidiary acquired all the
assets, subject to the liabilities of the Predecessor Partnerships.
By virtue of the Exchange, the Subsidiary owns the assets, subject to the
liabilities, of the Predecessor Partnerships. The Company owns a 99% limited
partner interest in the Subsidiary. American Property Investors, Inc. (the
"General Partner") owns a 1% general partner interest in both the Subsidiary and
the Company representing an aggregate 1.99% general partner interest in the
Company and the Subsidiary. The General Partner is owned and controlled by Mr.
Carl C. Icahn ("Icahn" or "Mr. Icahn").
On August 16, 1996 the Company amended its Partnership Agreement to permit
non-real estate related acquisitions and investments which has allowed and
continues to permit the Company to take advantage of investment opportunities it
believes exist outside of the real estate market in order to seek to enhance
unitholder value and further diversify its assets. The Amendment permits the
Company to invest in securities issued by companies that are not necessarily
engaged as one of their primary activities in the ownership, development or
management of real estate to further diversify its investments while remaining
in the real estate business and continuing to pursue suitable investments in the
real estate markets. Under the Amendment, investments may include equity and
debt securities of domestic and foreign issuers. The portion of the Company's
assets invested in any one type of security or any single issuer will not be
limited.
The Company will conduct its activities in such a manner so as not to be
deemed an investment company under the Investment Company Act of 1940 (the "1940
Act"). Generally, this means that no more than 40% of the Company's total assets
will be invested in investment securities as such is defined in the 1940 Act. In
addition, the Company does not intend to invest in securities as its primary
business and will structure its investments to continue to be taxed as a
partnership rather than as a corporation under the applicable publicly traded
partnership rules of the Internal Revenue Code.
The Company and its consolidated subsidiaries are engaged in the following
operating businesses: (i) rental real estate, (ii) hotel, casino and resort
operations, (iii) land, house and condominium development, (iv) participation
and management of oil and gas operating properties and (v) investment in
securities including investment in other entities and marketable equity and debt
securities.
In March 2000, the Company purchased an additional 50,000 shares of the
Stratosphere Corporation ("Stratosphere") from an affiliate of the General
Partner resulting in the Company owning approximately 51% of Stratosphere and
has included its accounts on a consolidated basis. In December 2002, the Company
purchased the remaining 49% minority interest. See Note 9.
In October 2003, the Company acquired certain debt and equity securities
of National Energy Group, Inc. ("NEG") from entities affiliated with Icahn for
an aggregate consideration of $148.1 million. NEG owns a 50% interest in NEG
Holding LLC ("Holding LLC") which owns oil and gas properties managed by NEG.
The other 50% interest in Holding LLC is held by an Icahn affiliate and managing
member. In connection with the acquisition of stock in NEG, the excess of cash
disbursed over the historical cost which amounted to $2.8 million was charged to
the General Partner's equity.
In accordance with generally accepted accounting principles, assets
transferred between entities under common control are accounted for at
historical costs similar to a pooling of interests, and the financial statements
of previously separate companies for periods prior to the acquisition are
restated on a combined basis. There is no minority interest allocated to the
other NEG stockholders because of NEG's negative equity. See Note 10.
F-7
AMERICAN REAL ESTATE PARTNERS, L.P. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
Financial Statements and Principles of Consolidation -- The consolidated
financial statements are prepared in accordance with accounting principles
generally accepted in the United States and include only those assets,
liabilities and results of operations, which relate to the Company and its
wholly owned and majority owned subsidiaries. All material intercompany accounts
and transactions have been eliminated in consolidation. The Company accounts for
its investments in subsidiaries that are less than 50% owned under the equity
method of accounting.
Net Earnings Per Limited Partnership Unit -- Basic earnings per share are
based on earnings after the preferred pay-in-kind distribution to Preferred
Unitholders. The resulting net earnings available for limited partners are
divided by the weighted average number of shares of limited partnership units
outstanding.
Diluted earnings per share uses net earnings attributable to limited
partner interests as the numerator with the denominator based on the weighted
average number of units and equivalent units outstanding. The Preferred units
are considered to be unit equivalents. The number of limited partnership units
used in the calculation of diluted income per limited partnership unit increased
as follows: 8,391,659, 10,368,414 and 9,500,828 limited partnership units for
the years ended December 31, 2003, 2002 and 2001, respectively, to reflect the
effects of the conversion of preferred units.
For accounting purposes, NEG's earnings prior to the NEG acquisition in
October 2003 have been allocated to the General Partner and therefore excluded
from the computation of basic and diluted earnings per limited partnership unit.
Cash and Cash Equivalents -- The Company considers short-term investments,
which are highly liquid with original maturities of three months or less at date
of purchase, to be cash equivalents. Included in cash and cash equivalents at
December 31, 2003 and 2002 are investments in government backed securities of
approximately $378,000,000 and $5,467,000, respectively.
Marketable Equity and Debt Securities and Investment in U.S. Government
and Agency Obligations -- Investments in equity and debt securities are
classified as either held-to-maturity or available for sale for accounting
purposes. Investments in U.S. Government and Agency Obligations are classified
as available for sale. Available for sale securities are carried at fair value
on the balance sheet of the Company. Unrealized holding gains and losses are
excluded from earnings and reported as a separate component of Partners' Equity.
Held-to-maturity securities are recorded at amortized cost.
A decline in the market value of any held-to-maturity or available for
sale security below cost that is deemed to be other than temporary results in a
reduction in carrying amount to fair value. The impairment is charged to
earnings and a new cost basis for the security is established. Dividend income
is recorded when declared and interest income is recognized when earned.
MORTGAGES AND NOTES RECEIVABLE
a. The Company has generally not recognized any profit in connection
with the property sales in which certain purchase money mortgages receivable
were taken back. Such profits are being deferred and will be recognized when the
principal balances on the purchase money mortgages are received.
b. The Company has provided development financing for certain real
estate projects. The security for these loans is either a second mortgage or a
pledge of the developers' ownership interest in the properties. Such loans are
subordinate to construction financing and are generally referred to as mezzanine
loans. Current mezzanine loans accrue interest at approximately 22% per annum.
Generally interest is not paid periodically but is due at maturity or earlier
from unit sales or refinancing proceeds. The Company defers recognition of
interest income on mezzanine loans pending receipt of principal and interest
payments.
Income Taxes -- No provision has been made for Federal, state or local
income taxes on the results of operations generated by partnership activities as
such taxes are the responsibility of the partners. Stratosphere and NEG, the
Company's corporate subsidiaries, account for their income taxes under the asset
and liability method. Deferred tax assets and liabilities are recognized for the
future tax consequences attributable to differences between the financial
statement carrying amounts of existing assets and
F-8
AMERICAN REAL ESTATE PARTNERS, L.P. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
liabilities and their respective tax bases and operating loss and tax credit
carry forwards. Deferred tax assets and liabilities are measured using enacted
tax rates expected to apply to taxable income in the years in which those
temporary differences are expected to be recovered or settled. The effect on
deferred tax assets and liabilities of a change in tax rates is recognized in
income in the period that includes the enactment date.
Leases -- The Company leases to others substantially all its real
property under long-term net leases and accounts for these leases in accordance
with the provisions of Financial Accounting Standards Board Statement No. 13,
"Accounting for Leases," as amended. This Statement sets forth specific criteria
for determining whether a lease is to be accounted for as a financing lease or
an operating lease.
a. Financing Method-Under this method, minimum lease payments to be
received plus the estimated value of the property at the end of the lease are
considered the gross investment in the lease. Unearned income, representing the
difference between gross investment and actual cost of the leased property, is
amortized to income over the lease term so as to produce a constant periodic
rate of return on the net investment in the lease.
b. Operating Method-Under this method, revenue is recognized as rentals
become due and expenses (including depreciation) are charged to operations as
incurred.
Properties -- Properties held for investment, other than those
accounted for under the financing method, are carried at cost less accumulated
depreciation unless declines in the values of the properties are considered
other than temporary at which time the property is written down to net
realizable value. A property is classified as held for sale at the time
management determines that the criteria in SFAS 144 have been met. Properties
held for sale are carried at the lower of cost or net realizable value. Such
properties are no longer depreciated and their operations are included in
discontinued operations.
Depreciation -- Depreciation is computed using the straight-line method
over the estimated useful life of the particular property or property
components, which range from 3 to 45 years.
Use of Estimates -- Management has made a number of estimates and
assumptions relating to the reporting of assets and liabilities, revenues and
expenses and the disclosure of contingent assets and liabilities to prepare
these financial statements in conformity with generally accepted accounting
principles. Actual results could differ from those estimates. The more
significant estimates include the valuation of (i) long-lived assets, (ii)
mortgages and notes receivable, (iii) marketable equity and debt securities,
(iv) costs to complete for land, house and condominium developments, (v)
gaming-related liability and loyalty programs and (vi) deferred tax assets.
Revenue Recognition
1. Revenue from real estate sales and related costs are recognized at
the time of closing primarily by specific identification. The Company follows
the guidelines for profit recognition set forth by Financial Accounting
Standards Board (FASB) Statement No. 66, "Accounting for Sales of Real Estate."
2. Casino revenues and promotional allowances -- The Company recognizes
revenues in accordance with industry practice. Casino revenue is the net win
from gaming activities (the difference between gaming wins and losses). Casino
revenues are net of accruals for anticipated payouts of progressive and certain
other slot machine jackpots. Revenues include the retail value of rooms, food
and beverage and other items that are provided to customers on a complimentary
basis. A corresponding amount is deducted as promotional allowances. The cost of
such complimentaries is included in "Hotel and casino operating expenses".
3. Sales, advertising and promotion -- These costs are expensed as
incurred.
Land and Construction-in-Progress -- These costs are stated at the
lower of cost or net realizable value. Interest is capitalized on expenditures
for long-term projects until a salable condition is reached. The capitalization
rate is based on the interest rate on specific borrowings to fund the projects.
F-9
AMERICAN REAL ESTATE PARTNERS, L.P. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
Investment in NEG Holding LLC -- Due to the substantial uncertainty
that the Company will receive any distribution above the priority and guaranteed
payment amounts, the Company accounts for its investment in Holding LLC as a
preferred investment whereby guaranteed payment amounts received and receipts of
the priority distribution amount are recorded as reductions in the investment
and income is recognized from accretion of the investment up to the priority
distribution amount, including the guaranteed payments (based on the interest
method) (see Note 10). Following receipt of the guaranteed payments and priority
distributions, the residual interest in the investment will be valued at zero.
The Company periodically evaluates the propriety of the carrying amount
of its investment in Holding LLC to determine whether current events or
circumstances warrant adjustments to the carrying value and/or revisions to
accretion of income. The Company currently believes that no such impairment has
occurred and that no revision to the accretion of income is warranted.
Accounting for Impairment of a Loan -- If it is probable that based
upon current information the Company will be unable to collect all amounts due
according to the contractual terms of a loan agreement, the Company considers
the asset to be "impaired". Reserves are established against impaired loans in
amounts equal to the difference between the recorded investment in the asset and
either the present value of the cash flows expected to be received, or the fair
value of the underlying collateral if foreclosure is deemed probable or if the
loan is considered collateral dependent.
Accounting for the Impairment of Long-Lived Assets and for Long-Lived
Assets to be Disposed of -- Long-lived assets held and used by the Company and
long-lived assets to be disposed of, are reviewed for impairment whenever events
or changes in circumstances, such as vacancies and rejected leases, indicate
that the carrying amount of an asset may not be recoverable.
In performing the review for recoverability, the Company estimates the
future cash flows expected to result from the use of the asset and its eventual
disposition. If the sum of the expected future cash flows (undiscounted and
without interest charges) is less than the carrying amount of the asset an
impairment loss is recognized. Measurement of an impairment loss for long-lived
assets that the Company expects to hold and use is based on the fair value of
the asset. Long-lived assets to be disposed of are reported at the lower of
carrying amount or fair value less cost to sell.
Recent Accounting Standards:
1. In May 2003, the FASB issued SFAS 150 "Accounting for Certain
Financial Instruments with Characteristics of both Liabilities and Equity." SFAS
150 is effective at the beginning of the first interim period beginning after
June 15, 2003. The Company adopted SFAS 150 on July 1, 2003 and has reclassified
its preferred units to a liability account. See Note 18.
2. In January 2003, the FASB issued FASB Interpretation 46 (revised
December 2003), Consolidation of Variable Interest Entities, which addresses how
a business enterprise should evaluate whether it has a controlling financial
interest in an entity through means other than voting rights and accordingly
should consolidate the entity. FIN 46R, issued in December 2003 as a revision to
the original interpretation, clarifies the application of ARB 51, Consolidated
Financial Statements, to certain entities in which the equity investors do not
have the characteristics of a controlling financial interest or do not have
sufficient equity at risk for the entity to finance its activities without
additional subordinated financial support.
The Company is required to apply FIN 46R to variable interests created
after January 2003. For variable interest entities created prior to January
2003, for which FIN 46 has not been applied prior to December 24, 2003, the
interpretation will be applied in reporting periods ending after March 15, 2004.
The Company has an investment in a variable interest entity, which owns
oil and natural gas operating properties. The variable interest entity has net
assets of $161 million. The Company has determined that it is not the primary
beneficiary of the variable interest entity. The maximum exposure to losses as a
result of its involvement with the variable interest entity is $69 million.
3. RELATED PARTY TRANSACTIONS
F-10
AMERICAN REAL ESTATE PARTNERS, L.P. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
a. At December 31, 2002, the Company had a $250 million note receivable
from Mr. Icahn, Chairman of the General Partner, which was repaid in October
2003. (See Note 12).
b. In addition, in 1997 the Company entered into a license agreement
for a portion of office space from an affiliate. The license agreement dated as
of February 1, 1997 expires May 22, 2004 unless sooner terminated in accordance
with the agreement. Pursuant to the license agreement, the Company has the non-
exclusive use of 3,547 square feet of office space and common areas (of an
aggregate 21,123 rentable square feet sublet by such affiliate) for which it
paid $17,068 per month, together with 16.79% of certain "additional rent". In
November 2000, the Company reduced its office size to approximately 2,275 square
feet, which decreased its monthly rental to $11,185 plus 10.77% of certain
additional rent. In the years ended December 31, 2003, 2002 and 2001, the
Company paid such affiliate approximately $159,000, $153,000 and $147,000 of
rent, respectively, in connection with this licensing agreement. The terms of
such sublease were reviewed and approved by the Audit Committee. The agreement
expires in May 2004. If the Company must vacate the space, it believes there
will be adequate alternative space available.
c. Stratosphere received as reimbursement from affiliates of the General
Partner approximately $2,993,000, $1,675,000 and $1,343,000 in the years ended
December 31, 2003, 2002 and 2001, respectively, for administrative services
performed by Stratosphere personnel.
Stratosphere received hotel revenue of approximately $3,000, $123,000
and $600,000 in the years ended December 31, 2003, 2002 and 2001, respectively,
in connection with a tour and travel agreement entered into with an affiliate of
the General Partner. Stratosphere also received approximately $101,000 in hotel
and food revenue from an affiliate of the General Partner in the year ended
December 31, 2003 in connection with a conference held at Stratosphere.
d. The General Partner and its affiliates may realize substantial fees,
commissions and other income from transactions involving the purchase,
operation, management, financing and sale of the Company's properties, subject
to certain limitations relating to properties acquired from the Predecessor
Partnerships in the Exchange. Some of such amounts may be paid regardless of the
overall profitability of the Company and whether any distributions have been
made to Unitholders. As new properties are acquired, developed, constructed,
operated, leased, financed and sold, the General Partner or its affiliates may
perform acquisition functions, development and construction oversight and other
land development services, property management and leasing services, either on a
day-to-day basis or on an asset management basis, and other services and be
entitled to fees and reimbursement of expenses relating thereto, including
property management fees, real estate brokerage and leasing commissions, fees
for financing either provided or arranged by the General Partner and its
affiliates, development fees, general contracting fees and construction
management fees. The terms of any transactions between the Company and the
General Partner or its affiliates must be fair and reasonable to the Company and
customary to the industry. There were no significant fees paid in the years
ended December 31, 2003, 2002, and 2001.
e. NEG received management fees from an affiliate of approximately
$7,967,000, $7,637,000 and $2,699,000 in the years ended December 31, 2003, 2002
and 2001, respectively.
f. NEG entered into an agreement to manage TransTexas Gas Corporation,
an Icahn affiliate, for a fee of $312,500 per month.
g. For the year ended December 31, 2003, the Company paid approximately
$81,000 to an affiliate of the General Partner for telecommunication services.
h. See Note 26 in connection with the acquisition of Arizona Charlie's
Decatur and Arizona Charlie's Boulder from Icahn and an entity affiliated with
Icahn.
F-11
AMERICAN REAL ESTATE PARTNERS, L.P. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
4. REAL ESTATE LEASED TO OTHERS ACCOUNTED FOR UNDER THE FINANCING METHOD
Real estate leased to others accounted for under the financing method
is summarized as follows (in $000's):
DECEMBER 31,
-------------------------
2003 2002
---------- ----------
Minimum lease payments receivable $ 161,785 $ 180,943
Unguaranteed residual value ..... 74,651 87,160
---------- ----------
236,436 268,103
Less unearned income ............ 99,080 112,645
---------- ----------
$ 137,356 $ 155,458
========== ==========
The following is a summary of the anticipated future receipts of the
minimum lease payments receivable at December 31, 2003 in ($000's):
YEAR ENDING
DECEMBER 31, AMOUNT
--------------- ----------
2004............ $ 17,797
2005............ 15,686
2006............ 15,491
2007............ 14,577
2008............ 13,221
Thereafter...... 85,013
---------
$ 161,785
=========
At December 31, 2003, approximately $107,543,000 of the net investment
in financing leases was pledged to collateralize the payment of nonrecourse
mortgages payable.
5. REAL ESTATE LEASED TO OTHERS ACCOUNTED FOR UNDER THE OPERATING METHOD
a. Real estate leased to others accounted for under the operating
method is summarized as follows (in $000's):
DECEMBER 31,
-------------------------
2003 2002
---------- ----------
Land ........................ $ 24,040 $ 55,034
Commercial Buildings ........ 83,252 194,521
---------- ----------
107,292 249,555
Less accumulated depreciation 30,849 45,313
---------- ----------
$ 76,443 $ 204,242
========== ==========
As of December 31, 2003 and 2002, accumulated depreciation on the hotel
and resort operating properties (not included above) amounted to approximately
$12,341,000 and $9,665,000, respectively (See Note 13).
F-12
AMERICAN REAL ESTATE PARTNERS, L.P. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
The following is a summary of the anticipated future receipts of
minimum lease payments under non-cancelable leases at December 31, 2003 (in
$000's):
YEAR ENDING
DECEMBER 31, AMOUNT
------------ --------
2004........ $ 9,967
2005........ 8,802
2006........ 5,443
2007........ 3,874
2008........ 2,810
Thereafter.. 5,799
--------
$ 36,695
========
At December 31, 2003, approximately $15,630,000 of net real estate
leased to others was pledged to collateralize the payment of non-recourse
mortgages payable.
b. Real estate held for sale (in $000's):
DECEMBER 31,
-------------------------
2003 2002
---------- ----------
Leased to others ............ $ 146,416 $ --
Vacant ...................... 2,550 4,300
---------- ----------
148,966 4,300
Less accumulated depreciation 20,153 --
---------- ----------
$ 128,813 $ 4,300
========== ==========
The following is a summary of income from discontinued operations (in
$000's):
DECEMBER 31,
----------------------------------
2003 2002 2001
-------- -------- --------
Rental income ......................... $ 18,548 $ 17,409 $ 16,456
Hotel & resort operating income ....... 3,912 3,679 4,142
-------- -------- --------
22,460 21,088 20,598
-------- -------- --------
Mortgage interest expense ............. 6,247 5,691 5,599
Depreciation and amortization ......... 4,212 3,616 3,383
Property expenses ..................... 2,546 2,589 2,127
Hotel and resort operating expenses ... 3,316 3,185 3,372
-------- -------- --------
16,321 15,081 14,481
-------- -------- --------
Income from discontinued operations $ 6,139 $ 6,007 $ 6,117
======== ======== ========
At December 31, 2003, approximately $105,984,000, respectively, of real
estate held for sale was pledged to collateralize the payment of non-recourse
mortgages payable.
F-13
AMERICAN REAL ESTATE PARTNERS, L.P. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
6. INVESTMENT IN U.S. GOVERNMENT AND AGENCY OBLIGATIONS
The Company has investments in U.S. Government and Agency Obligations
whose maturities range from 2004 to December 2008 as follows (in $millions):
DECEMBER 31,
-----------------------------------------------
2003 2002
--------------------- ---------------------
COST CARRYING COST CARRYING
BASIS VALUE BASIS VALUE
-------- -------- -------- --------
Available for Sale:
Matures in:
less than 1 year . $ 52.8 $ 52.8 $ 292.9 $ 292.9
2-5 years ........ 9.0 8.8 39.7 39.7
Thereafter ....... -- -- 3.4 3.4
-------- -------- -------- --------
$ 61.8 $ 61.6 $ 336.0 $ 336.0
======== ======== ======== ========
7. MARKETABLE EQUITY AND DEBT SECURITIES
DECEMBER 31,
-----------------------------------------------
2003 2002
--------------------- ---------------------
COST CARRYING COST CARRYING
(IN $MILLIONS) BASIS VALUE BASIS VALUE
-------- -------- -------- --------
Available for Sale:
Philip Service Corporation (b):
Equity ...................... $ -- $ -- $ 9.4 $ 0.2
Corporate bonds (c) ........... 45.1 51.6 -- --
Other ......................... 1.3 4.2 2.5 3.0
-------- -------- -------- --------
46.4 55.8 11.9 3.2
Held-to-maturity:
GB Notes(a) .................. 21.3 24.7 21.3 23.5
-------- -------- -------- --------
Total ....................... $ 67.7 $ 80.5 $ 33.2 $ 26.7
======== ======== ======== ========
a. In 1998 and 1999, the Company acquired an interest in the Sands
Hotel and Casino (the "Sands") located in Atlantic City, New Jersey by
purchasing the principal amount of approximately $31.4 million of First Mortgage
Notes ("Notes") issued by GB Property Funding Corp. ("GB Property"). GB Property
was organized as a special purpose entity for the borrowing of funds by Greate
Bay Hotel and Casino, Inc. ("Greate Bay"). The purchase price for such notes was
approximately $25.3 million. An affiliate of the General Partner also made an
investment in the Notes of GB Property. A total of $185 million of such Notes
were issued.
Greate Bay owned and operated the Sands, a destination resort complex,
located in Atlantic City, New Jersey. On January 5, 1998, GB Property and Greate
Bay filed for bankruptcy protection under Chapter 11 of the Bankruptcy Code to
restructure its long term debt.
Furthermore, in 1998 and 1999, the Company acquired an interest in the
Claridge Hotel and Casino (the "Claridge Hotel") located in Atlantic City, New
Jersey by purchasing the principal amount of $16.7 million of First Mortgage
Notes of the Claridge Hotel and Casino Corporation (the "Claridge Corporation").
The purchase price of such notes was approximately $15.1 million. A total of $85
million of such notes were issued. An affiliate of the General Partner also made
an investment in the Notes of the Claridge Corporation. In August 1999, the
Claridge Corporation announced that it had filed a voluntary petition under
Chapter 11 of the U.S. Bankruptcy Code to facilitate a financial restructuring.
The Company, the General Partner, and the directors and officers of the
General Partner were in the process of pursuing gaming applications to obtain
licenses from the New Jersey Casino Control Commission. In March 2000, in an
effort to facilitate the consummation of the reorganization process of Greate
Bay and Claridge Hotel, the Company entered into separate agreements to transfer
its interests in such entities to an affiliate of the General Partner for $40.5
million, which was equal to the Company's cost for
F-14
AMERICAN REAL ESTATE PARTNERS, L.P. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
such Notes. The affiliate of the General Partner was obligated to sell back to
the Company, and the Company was obligated to repurchase such interests at the
same price (together with a commercially reasonable interest factor), when the
appropriate licenses were obtained by the Company. The Company would also
acquire its proportionate share of all sale proceeds, stock rights, acquired
shares and other benefits, if any, that may have accreted to or obtained in
connection with such interests while held by the affiliate of the General
Partner. Subsequent to the transfer, the affiliate of the General Partner
purchased $1.7 million of the Claridge Notes for approximately $0.9 million on
the Company's behalf.
In July 2000, the U.S. Bankruptcy Court ruled in favor of the
reorganization plan proposed by affiliates of the General Partner which provided
for an additional investment of $65 million by the Icahn affiliates in exchange
for a 46% equity interest, with bondholders (which also includes the Icahn
affiliates) to receive $110 million in new notes and a 54% ownership position.
The plan, which became effective September 29, 2000, provided the Icahn
affiliates with a controlling interest.
In February 2001, the Icahn affiliates sold their entire Claridge
Corporation portfolio ($37.1 million face amount of Claridge Notes) for the
following additional interest in GB Holdings, Inc. ("GB Holdings"): (i) 779,861
common shares of GB Holdings ("GBH") and (ii) $15.96 million face amount of GB
Property First Mortgage Notes ("GB Notes"), plus $21.56 million in cash. The
Company recognized a gain of approximately $1.3 million as a result of this sale
in the year ended December 31, 2001. As a result, affiliates of the General
Partner were, in effect, holding on behalf of the Company (i) approximately 3.6
million common shares of GBH and (ii) $26.9 million face amount of GB Notes, to
which the Company would become entitled and obligated to purchase when it was
fully licensed. As of February 2001, the Company no longer had any interests in
the Claridge.
In May 2002, the Company was qualified as a holding company by the New
Jersey Casino Control Commission (the "Casino Control Commission") and in
accordance with the prior agreement repurchased its interest in the Sands,
located in Atlantic City, New Jersey, from affiliates of the General Partner. As
a result, the Company acquired approximately 3.6 million common shares (36%) of
GBH and $26.9 million face amount of GB Notes. The Company paid approximately
$68.8 million to reacquire its interests representing the affiliates' advances
plus accrued interest of approximately $11 million. In accordance with the
agreement, interest was accrued from March 2000 to May 2002 at an annual rate of
1 1/2% over the prime rate. Interest expense of approximately $919,000, and
$5,306,000 for the years ended December 31, 2002 and 2001, respectively, has
been included in "Interest expense" in the Consolidated Statements of Earnings.
As required by the New Jersey Casino Control Act (the "Casino Control Act"), the
Partnership Agreement was amended to provide that securities of the Company are
held subject to the condition that if a holder thereof is found to be
disqualified by the Casino Control Commission, pursuant to the provisions of the
Casino Control Act, such holder shall dispose of his interest in the Company in
accordance with the Casino Control Act.
In July 2003, GBH announced that its Board of Directors, acting through
a special committee, approved an exchange offer for the GB Notes. The proposed
transaction is subject to the consent of the holders of a majority in principal
amount of the GB notes, the approval of stockholders owning a majority of the
common stock of GBH, the effectiveness of required filings under applicable
securities laws and the receipt of all required governmental and third party
approvals. Mr. Icahn and his affiliated companies hold in excess of 77% of the
GBH stock and 58% of the existing debt, of which the Company owns approximately
36% of the common stock and 24% of the debt. The Company and Mr. Icahn intend to
support the proposed transaction. The GB Notes in the face amount of $110
million are due in September 2005 and bear interest at 11% per annum.
The proposed transaction would involve the following:
- An amendment to the existing note indenture to remove certain
provisions and covenants and release the liens on the Sands
assets; thereby allowing the transfer of these assets and
those now held at GBH to a wholly-owned indirect subsidiary of
GBH, Atlantic Coast Entertainment Holdings, Inc. ("Atlantic
Holdings").
- The solicitation of an exchange of the existing notes for new
notes due September 2008, which will bear interest at 3% per
annum payable at maturity.
- The payment of $100 per $1,000 in principal amount of the
existing notes exchanged plus accrued interest on the existing
notes.
F-15
AMERICAN REAL ESTATE PARTNERS, L.P. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
- The holders of a majority of the new notes will have an option
to convert into 72.5% of the Atlantic Holdings stock if all of
the existing notes participate in the exchange.
- The distribution to the GBH common stockholders of warrants
(following the occurrence of certain events) for 27.5% of the
common stock of Atlantic Holdings (on a fully diluted basis).
As the exchange will be accounted for as a modification of debt for
accounting purposes, this transaction is not expected to have a significant
impact on the Company's consolidated financial statements.
For accounting purposes, the Company reflects its interest in the GB
Notes as held to maturity.
The Company reflects its pro rata equity interest in Greate Bay as
"Equity interest in GB Holdings, Inc." in the Consolidated Balance Sheets (See
Note 8).
b. At December 31, 2002, the Company owned the following approximate
interests in Philip Service Corporation ("Philip"): (i) 1.8 million common
shares, (ii) $14.2 million in secured term debt, and (iii) $10.9 million in
accreted secured convertible payment-in-kind debt. The Company had an
approximate 7% equity interest in Philip and an Icahn affiliate had an
approximate 38% equity interest. Icahn affiliates also owned term and
payment-in-kind debt.
The secured term debt matures March 31, 2005 and bears interest at 9%
per annum. Interest was payable quarterly, in arrears, beginning July 1, 2000.
The secured convertible payment-in-kind debt matures March 31, 2005 and bears
interest at 10% per annum. Interest was accreted quarterly with interest on the
accreted interest also calculated at the rate of 10% per annum.
The market value of Philip's common stock declined steadily since it
was acquired by the Company. In 2002, based on a review of Philip's financial
statements, management of the Company deemed the decrease in value to be other
than temporary. As a result, the Company wrote down its investment in Philip's
common stock by charges to earnings of $8,476,000 and charges to other
comprehensive income ("OCI") of $761,000 in the year ended December 31, 2002.
This investment had been previously written down by approximately $6.8 million
in charges to earnings. The Company's adjusted carrying value of Philip's common
stock was approximately $200,000 at December 31, 2002.
In June 2003, Philip announced that it and most of its wholly owned
U.S. subsidiaries filed voluntary petitions under Chapter 11 of the Federal
Bankruptcy Code.
In the year ended December 31, 2003, management of the Company
determined that it was appropriate to write-off the balance of its investment in
the Philip's common stock by a charge to earnings of approximately $961,000; of
this amount $761,000 was previously charged to other comprehensive income in
2002, which was reversed in 2003, and included in the $961,000 charge to
earnings.
The Company also has a participation in Philip's debt with an original
cost at the date of their acquisition of approximately $19.7 million. At
December 31, 2001, such notes were classified as available-for-sale securities
and were written down through charges to OCI, to an estimated fair market value
of approximately $13.2 million. In 2002, upon concluding its review of these
investments, management determined that such investments were more properly
classified as notes receivable.
Approximately $6.6 million of charges to OCI were reversed and the
investments were reclassified at their original cost to "Mortgages and notes
receivable" at December 31, 2002. These adjustments had no effect on the
Company's reported earnings for the year ended December 31, 2002.
In 2003, the cost basis of the debt was approximately $22.1 million. As
previously mentioned, Philip filed for bankruptcy protection in June 2003.
Management of the Company reviewed Philip's financial statements, bankruptcy
documents and the prices of recent purchases and sales of the debt and
determined this investment to be impaired. Based upon this review, management
concluded the fair value of the debt to be approximately $3.3 million;
therefore, the Company recorded a write-down of approximately $18.8 million by a
charge to earnings which was included in "Write-down of mortgages and notes
receivable" in the Consolidated
F-16
AMERICAN REAL ESTATE PARTNERS, L.P. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
Statements of Earnings in the year ended December 31, 2003. In December 2003,
the Company sold two-thirds of its term and PIK debt with a basis of $2.2
million for $2.6 million generating a gain of $0.4 million.
Philip emerged from bankruptcy on December 31, 2003 as a private
company controlled by an Icahn affiliate. The Company's remaining interest in
the notes will be delivered and exchanged for approximately 443,000 common
shares representing a 4.4% equity interest in the new Philip valued at the
carrying value of the debt at December 31, 2003 of $1.1 million. Subsequent to
December 31, 2003, the Company received a bankruptcy distribution of
approximately $350,000.
c. In December 2003, the Company acquired approximately $86.9 million
principal amount of corporate bonds for approximately $45.1 million. Such bonds
were classified as available for sale securities. Available for sale securities
are carried at fair value on the Balance Sheet. Unrealized holding gains and
losses are excluded from earnings and reported as a separate component of
Partners' Equity. At December 31, 2003, the carrying value of the bonds was
approximately $51.6 million and accumulated other comprehensive gain was
approximately $6.5 million.
8. EQUITY INTEREST IN GB HOLDINGS, INC.
The Company reflects its pro rata equity interest in GB Holdings, Inc.,
which is approximately 36%, under this caption in the Consolidated Balance
Sheets. "Equity in the earnings (losses) of GB Holdings, Inc." of approximately
($3.4 million), $0.3 million and $1.8 million have been recorded in the
Consolidated Statements of Earnings in the years ended December 31, 2003, 2002
and 2001, respectively (See Note 7).
9. HOTEL AND CASINO OPERATING PROPERTY
In September 2000, Stratosphere Corp.'s Board of Directors approved
a going private transaction proposed by the Company and an affiliate of Icahn.
On February 1, 2001 the Company entered into a merger agreement with
Stratosphere Corp. ("Stratosphere") under which the Company would acquire the
remaining shares of Stratosphere that it did not currently own. The Company
owned approximately 51% of Stratosphere and Mr. Icahn owned approximately 38.6%.
The Company, subject to certain conditions, agreed to pay approximately $44.3
million for the outstanding shares of Stratosphere not currently owned by it.
Stratosphere stockholders not affiliated with Icahn would receive a cash price
of $45.32 per share and Icahn related stockholders would receive a cash price of
$44.33 per share. This transaction was completed in December 2002 after
shareholders' approval.
The acquisition by the Company of the minority shares not owned by an
Icahn affiliate has been accounted for as a purchase in accordance with
Financial Accounting Standards Board ("FASB") Statement No. 141, "Business
Combinations." The acquisition by the Company of the common stock held by an
Icahn affiliate has been recorded at historical cost. The excess of the
historical cost over the amount of the cash disbursed, which amounted to
$21,151,000, has been accounted for as a net addition to the General Partner's
equity.
The Company indirectly owns 100% of Stratosphere and consolidates
Stratosphere in its financial statements. The Stratosphere which offers the
tallest free-standing observation tower in the United States, is situated on
approximately 31 acres of land located at the northern end of the Las Vegas
Strip. The facility is a tourist-oriented gaming and entertainment destination
property, which has approximately 80,000 square feet of gaming space, 2,444
hotel rooms, eight restaurants and approximately 110,000 square feet of
developed retail space. The Stratosphere features three of the most visible
amusement rides in Las Vegas.
Stratosphere has invested approximately $95 million for the
construction of an additional 1,000 hotel rooms and related amenities and to
purchase the leasehold interest in the shopping center located on its premises.
The improvements were substantially completed in June 2001.
F-17
AMERICAN REAL ESTATE PARTNERS, L.P. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
Stratosphere's property and equipment consist of the following as of and
December 31, 2003 and 2002 (in $000's):
DECEMBER 31,
-----------------------
2003 2002
--------- ---------
Land and improvements, including land held for development $ 20,625 $ 20,110
Building and improvements ................................ 140,922 135,989
Furniture, fixtures and equipment ........................ 58,577 57,158
Construction in progress ................................. 4,179 329
--------- ---------
224,303 213,586
Less accumulated depreciation and amortization ........... (50,054) (42,156)
--------- ---------
$ 174,249 $ 171,430
========= =========
Included in property and equipment at December 31, 2002 are assets
recorded under capital leases of $1.9 million.
Stratosphere's operations for the years ended December 31, 2003, 2002 and
2001 have been included in "Hotel and casino operating income and expenses" in
the consolidated Statements of Earnings. Hotel and casino operating expenses
include all expenses except for approximately $12,276,000, $13,328,000 and
$11,257,000 of depreciation and amortization for the years ended December 31,
2003, 2002 and 2001, respectively, and $2,259,000 of income tax benefit for the
year ended December 31, 2003 and $2,412,000 and $513,000 of income tax provision
for the years ended December 31, 2002 and 2001, respectively. Such amounts have
been included in "Depreciation and amortization expense" and "Income tax benefit
(expense)" in the Consolidated Statements of Earnings.
F-18
AMERICAN REAL ESTATE PARTNERS, L.P. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
10. NATIONAL ENERGY GROUP
a. National Energy Group, Inc.
In October 2003, pursuant to a Purchase Agreement dated as of May 16,
2003, the Company acquired certain debt and equity securities of National Energy
Group, Inc. ("NEG") from entities affiliated with Mr. Icahn for an aggregate
consideration of approximately $148.1 million plus approximately $6.7 million of
accrued interest on the debt securities. The agreement was reviewed and approved
by the Audit Committee who were advised by its independent financial advisor and
legal counsel. The securities acquired were $148,637,000 in principal amount of
outstanding 10 3/4% Senior Notes due 2006 of NEG and 5,584,044 shares of common
stock of NEG. As a result of the foregoing transaction and the acquisition by
the Company of additional securities of NEG prior to the closing, the Company
beneficially owns in excess of 50% of the outstanding common stock of NEG.
NEG owns a 50% interest in NEG Holding LLC ("Holding LLC"), the other 50%
interest in Holding LLC is held by Gascon Partners ("Gascon") an Icahn affiliate
and managing member. Holding LLC owns NEG Operating LLC ("Operating LLC") which
owns operating oil and gas properties managed by NEG. Under the Holding LLC
operating agreement NEG is to receive guaranteed payments of approximately $47.9
million in addition to a priority distribution of approximately $148.6 million
before the Icahn affiliate receives any monies. Due to the substantial
uncertainty that NEG will receive any distribution above the priority and
guaranteed payments amounts, NEG accounts for its investment in Holding LLC as a
preferred investment. The Company consolidates NEG in its financial statements.
In connection with a credit facility obtained by Holding LLC, NEG and
Gascon have pledged as security their respective interests in Holding LLC.
b. Investment in NEG Holding LLC
As explained below, NEG's investment in Holding LLC is recorded as a
preferred investment. The initial investment was recorded at historical carrying
value of the net assets contributed with no gain or loss recognized on the
transfer.
Summarized financial information for Holding LLC for the years ended
December 31, is as follows (in $000's):
DECEMBER 31,
--------------------
2003 2002
-------- --------
Current assets ...................... $ 33,415 $ 42,126
Noncurrent assets(1) ................ 189,988 180,611
-------- --------
Total assets ........................ $223,403 $222,737
======== ========
Current liabilities ................. $ 14,253 $ 20,927
Noncurrent liabilities .............. 48,640 1,968
-------- --------
Total liabilities ................... 62,893 22,895
Member's equity ..................... 160,510 199,842
-------- --------
Total liabilities and member's equity $223,403 $222,737
======== ========
- ----------
(1) Primarily oil and gas properties
F-19
AMERICAN REAL ESTATE PARTNERS, L.P. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
DECEMBER 31,
----------------------------------
2003 2002 2001
-------- -------- --------
(IN $000'S)
Total revenues ....... $ 80,475 $ 39,509 $ 12,637
Costs and expenses ... (47,277) (32,064) (9,988)
-------- -------- --------
Operating income ..... 33,198 7,445 2,649
Other income (expense) (2,855) 6,481 (3,940)
-------- -------- --------
Net income (loss) .... $ 30,343 $ 13,926 $ (1,291)
======== ======== ========
Under Holding LLC Operating Agreement, NEG is to receive guaranteed
payments in addition to a priority distribution amount of $202.2 million before
Gascon receives any monies. The priority distribution is to be made on or before
November 1, 2006. Guaranteed payments are to be paid, on a semi annual basis,
based on an annual interest rate of 10.75% of the outstanding priority
distribution amount. After the payments to NEG, Gascon is to receive
distributions equivalent to the priority distribution amount and guaranteed
payments plus other amounts as defined. Following the above distributions to NEG
and Gascon, additional distributions, if any, are to be made in accordance with
their respective capital accounts. The order of distributions is listed below.
Because of the substantial uncertainty that NEG will receive any distributions
above the priority and guaranteed payment amounts, NEG accounts for its
investment in Holding LLC as a preferred investment.
Prior to September 2001, NEG owned and operated certain oil and gas
properties. At inception (September 12, 2001), NEG recorded the investment in
Holding LLC at the historical cost of the oil and gas properties that NEG
contributed into the partnership (in exchange for Holding LLC obligation to pay
NEG the priority distribution and guaranteed payments). Subsequently, NEG
accretes its investment in Holding LLC from the initial investment recorded up
to the priority distribution amount, including the guaranteed payments, at the
implicit rate of interest, recognizing the accretion income in earnings.
Accretion income is periodically adjusted for changes in the timing of cash
flows, if necessary due to unscheduled cash distributions. Receipt of guaranteed
payments and the priority distribution are recorded as reductions in the
preferred investment. The preferred investment is evaluated quarterly for other
than temporary impairment.
Because of the substantial uncertainty that NEG will receive any
distributions in excess of the priority distribution and the guaranteed payments
("residual interest"), the residual interest attributable to the investment in
Holding LLC is valued at zero. Upon payment of the priority distribution in
2006, NEG's investment in Holding LLC will be zero. Cash receipts, if any, after
the priority distribution and the guaranteed payments will be reported in income
as earned.
The following is a roll forward of the Investment in Holding LLC as of
December 31, 2003 (in $000s):
DECEMBER 31,
2003
---------
Investment in Holding LLC at beginning of period $ 108,880
Priority distribution from Holding LLC ......... (51,446)
Guaranteed payment from Holding LLC ............ (18,230)
Accretion of investment in Holding LLC ......... 30,142
---------
Investment in Holding LLC at end of period ..... $ 69,346
=========
Holding LLC Operating Agreement requires that distributions shall be made
to both NEG and Gascon as follows:
1. Guaranteed payments are to be paid to NEG, calculated on an annual
interest rate of 10.75% on the outstanding priority distribution amount. The
priority distribution amount includes all outstanding debt owed to entities
owned or controlled by Carl C. Icahn, including the amount of NEG's 10.75%
Senior Notes. As of December 31, 2003, the priority distribution amount
F-20
AMERICAN REAL ESTATE PARTNERS, L.P. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
was $148.6 million which equals the amount of NEG's 10.75% Senior Notes due the
Company. The guaranteed payments will be made on a semi-annual basis.
2. The priority distribution amount is to be paid to NEG. Such
payment is to occur by November 6, 2006.
3. An amount equal to the priority distribution amount and all
guaranteed payments paid to NEG, plus any additional capital contributions made
by Gascon, less any distribution previously made by NEG to Gascon, is to be paid
to Gascon.
4. An amount equal to the aggregate annual interest (calculated at
prime plus 1/2% on the sum of the guaranteed payments), plus any unpaid interest
for prior years (calculated at prime plus 1/2% on the sum of the guaranteed
payments), less any distributions previously made by NEG to Gascon, is to be
paid to Gascon.
5. After the above distributions have been made, any additional
distributions will be made in accordance with the ratio of NEG's and Gascon's
respective capital accounts.
In addition, the Holding LLC Operating Agreement contains a provision that
allows Gascon at any time, in its sole discretion, to redeem the NEG membership
interest in Holding LLC at a price equal to the fair market value of such
interest determined as if Holding LLC had sold all of its assets for fair market
value and liquidated. Since all of the NEG's operating assets and oil and
natural gas properties have been contributed to Holding LLC, as noted above,
following such a redemption, NEG's principal assets would consist solely of its
cash balances.
11. MORTGAGES AND NOTES RECEIVABLE
BALANCE AT
DECEMBER 31,
BALANCE MONTHLY (IN $000'S)
COLLATERALIZED BY PROPERTY INTEREST MATURITY AT PAYMENT ---------------------
TENANTED BY OR DEBTOR RATE DATE MATURITY AMOUNT 2003 2002
- -------------------------- -------- -------- -------- ------- --------- ---------
Peninsula/Hampton & Alex Hotel(b) Various Various -- -- $ 42,030 $ 23,200
Philip debt(c) .................. -- -- -- -- 1,091 20,494
Other ........................... -- -- -- -- 7,207 12,522
--------- ---------
$ 50,328 $ 56,216
========= =========
The Company has provided development financing for certain real estate
projects. The security for these loans is a pledge of the developers' ownership
interest in the properties. Such loans are subordinate to construction financing
and are generally referred to as mezzanine loans. The Company's mezzanine loans
accrue interest at approximately 22% per annum. However interest is not paid
periodically and is due at maturity or earlier from unit sales or refinancing
proceeds. The Company defers recognition of interest income on mezzanine loans
pending receipt of principal and interest payments.
a. On November 30, 2000, the Company entered into a mezzanine loan
agreement to fund $23 million in two tranches to an unaffiliated borrower. The
funds were to be used for certain initial development costs associated with a 65
unit condominium property located at 931 1st Avenue in New York City. The first
tranche of $10 million was funded on November 30, 2000 and provided for interest
accruing at a rate of 25% per annum, with principal and interest due at
maturity, May 29, 2003. Also, in November 2000, approximately $3.7 million of
the second tranche of the loan was funded. The balance of approximately $9.3
million was funded in installments during 2001. The second tranche provided for
interest accruing at a rate of 21.5% per annum with principal and interest due
at maturity, November 29, 2002. The loans were payable at any time from the
proceeds of unit sales after satisfaction of senior debt of approximately $45
million. The loans were secured by the pledge of membership interests in the
entity that owns the real estate. In May 2002, the Company received
approximately $31.3 million for prepayment of the mezzanine loans. The balance
of the prepayment of $8.3 million represented accrued interest ($7.9 million)
and exit fees ($0.4 million) which amounts were recognized as "Interest income
on U.S. Government and Agency obligations and other investments" and "Other
income" respectively, in the Consolidated Statements of Earnings for the year
ended December 31, 2002.
b. At December 31, 2002, the Company had funded two mezzanine loans for
approximately $23.2 million and had
F-21
AMERICAN REAL ESTATE PARTNERS, L.P. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
commitments to fund, under certain conditions, additional advances of
approximately $5 million. Both loans have an interest rate of 22% per annum
compounded monthly. The Peninsula loan, for a Florida condominium development,
which had a term of 24 months from the date of funding, February 2002, was
repaid in full in 2003. Approximately $6.8 million of interest income was
recorded and is included in "Interest income on U.S. Government and Agency
obligations and other investments" in the Consolidated Statements of Earnings.
The Alex Hotel loan, for a New York City hotel with approximately 200 rooms, has
a term of 36 months from the closing date, April 2002. At December 31, 2003,
accrued interest of approximately $4.4 million has been deferred for financial
statement purposes pending receipt of principal and interest payments in
connection with this loan. Origination fees of $3.0 million have been received
in connection with one of the mezzanine loans and approximately $1.5 million and
$1.1 million has been recognized as "Other income" in the Consolidated
Statements of Earnings in the years ended December 31, 2003 and 2002
respectively. In February 2003, the Company funded the Hampton mezzanine loan
for approximately $30 million on a Florida condominium development. The loan is
due in 18 months with one six month extension and has an interest rate of 22%
per annum compounded monthly. The Company has committed to fund an additional
$15 million if required by the borrower to complete the project. At December 31,
2003 accrued interest of approximately $6.7 million has been deferred for
financial statement purposes pending receipt of principal and interest payments
in connection with this loan.
c. See Note 7 with respect to Philip debt.
12. NOTE RECEIVABLE DUE FROM AFFILIATE
On October 17, 2003 Mr. Icahn, Chairman of the Board of the General
Partner, repaid the $250 million loan which had been made to him by the Company
on December 27, 2001. The Company made the two-year $250 million loan to Mr.
Icahn, secured by securities consisting of (i) 21,136,044 and 8,073,466 of the
Company's depositary units and preferred units, respectively, owned by Mr.
Icahn, such units having an aggregate market value on that date of $250 million
and (ii) shares of a private company owned by Mr. Icahn, which shares were
represented to have an aggregate book value of at least $250 million, together
with an irrevocable proxy on sufficient additional shares of the private company
so that the pledged shares and the shares covered by the proxy equal in excess
of 50% of the private company's shares. The interest on the loan was payable
semi-annually, at a per annum rate equal to the greater of (i) 3.9% and (ii) 200
basis points over 90 day LIBOR to be reset each calendar quarter. The applicable
rate in 2003 was 3.9% and in 2002 ranged from 3.9% to 4.03%. Interest income of
approximately $7.9 million, $9.9 million and $0.1 million was earned on this
loan in the years ended December 31, 2003, 2002 and 2001, respectively, and is
included in "Interest income on U.S. Government and Agency obligations and other
investments" in the Consolidated Statements of Earnings.
The Company entered into this transaction to earn interest income on a
secured investment. The terms of this transaction were reviewed and approved by
the Audit Committee.
13. HOTEL AND RESORT OPERATING PROPERTIES
a. The Company owns a hotel and resort property that is part of a master
planned community situated in the town of Mashpee located on Cape Cod in
Massachusetts. This property includes two golf courses, other recreational
facilities, condominium and time share units and land for future development.
Total initial costs of approximately $28 million were classified as
follows: approximately $17.4 million as "Hotel and resort properties", $8.9
million as "Land and construction-in-progress" and $1.7 million as "Other
assets" on the Consolidated Balance Sheet.
Resort operations have been included in the "Hotel and resort operating
income and expenses" in the Consolidated Statements of Earnings. Net hotel and
resort operations for this property ("hotel and resort operating income" less
"hotel and resort operating expenses") resulted in
F-22
AMERICAN REAL ESTATE PARTNERS, L.P. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
income of approximately $3,033,000, $1,909,000 and $712,000 for the years ended
December 31, 2003, 2002, and 2001, respectively. Hotel and resort operating
expenses include all expenses except for approximately $2,451,000, $1,833,000
and $970,000 for the years ended December 31, 2003, 2002 and 2001 of
depreciation and amortization, respectively, which is included in such caption
in the Consolidated Statements of Earnings.
Resort operations are highly seasonal in nature with peak activity
occurring from June to September.
b. The Company owns a hotel located in Miami, Florida which has a carrying
value of approximately $6.4 million and $6.3 million at December 31, 2003 and
2002, respectively, and is unencumbered by any mortgages. Approximately $1.3
million of capital improvements were completed in the year ended December 31,
2002.
The Company has a management agreement for the operation of the hotel with
a national management organization. As a result of the decision to sell the
property in 2004, net hotel and resort operations ("hotel and resort operating
revenues" less "hotel and resort operating expenses") totaled approximately
$596,000, $494,000 and $770,000 for the years ended December 31, 2003, 2002 and
2001, respectively and have been included in discontinued operations.
Depreciation expense of $210,000, $374,000 and $342,000 for the years ended
December 31, 2003, 2002 and 2001, respectively, have been included in
discontinued operations.
14. SIGNIFICANT PROPERTY TRANSACTIONS
Information on significant property transactions during the three-year
period ended December 31, 2003 is as follows:
a. In September 2002, the Company purchased an industrial building located
in Nashville, Tennessee for approximately $18.2 million. The building was
constructed in 2001 and is fully leased to two tenants, Alliance Healthcare and
Jet Equipment & Tools Inc., with leases expiring in 2011. The annual net
operating income is anticipated to be approximately $1.6 million increasing to
approximately $1.9 million by 2011. In October 2002, the Company closed a $12.7
million non-recourse mortgage loan on the Nashville, Tennessee property. The
loan bears interest at 6.4% per annum and matures in ten years. Required
payments are interest only for the first three years and then principal
amortization will commence based on a thirty-year amortization schedule.
At December 31, 2003 and 2002, the property had a carrying value of
approximately $18,066,000 and $17,584,000 respectively, and was encumbered by a
non-recourse mortgage in the amount of $12,700,000.
b. In October 2002, the Company sold a property located in North Palm
Beach, Florida for a selling price of $3.5 million. A gain of approximately $2.4
million was recognized in the year ended December 31, 2002.
c. In October 2003, the Company sold a property located in Columbia,
Maryland to its tenant for a selling price of $11 million. A gain of
approximately $5.8 million was recognized in the year ended December 31, 2003.
d. Due to favorable real estate market conditions and the mature nature of
the Company's real portfolio, the Company has engaged C.B. Richard Ellis, Inc.
to assist it in obtaining offers for its rental real estate portfolio. The
Company intends to utilize proceeds from any asset sales to continue to invest
in its core businesses, including real estate, gaming and entertainment and oil
and gas. The Company may also seek opportunities in other sectors including
industrial, manufacturing and insurance and asset management. In total, the
Company is marketing for sale properties with a book value of approximately $340
million individually encumbered by mortgage debt which in the aggregate is
approximately $180 million, a portion of which portfolio meets the criteria as
held for sale under SFAS 144 at December 31, 2003. There can be no assurance
that offers satisfactory to the Company will be received and, if received, that
the properties will ultimately be sold at prices acceptable to the Company.
The Company had properties under contract or as to which letters of intent
had been executed by potential purchasers, all of which contracts or letters of
intent are subject to purchaser's due diligence and other closing conditions.
Selling prices for the properties covered by the contracts or letters of intent
would total approximately $323 million but the
F-23
AMERICAN REAL ESTATE PARTNERS, L.P. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
properties are encumbered by aggregate mortgage debt of approximately $142
million which would have to be repaid out of the proceeds of the sales or
assumed by the purchaser. In 2003, net income from these properties totaled
approximately $7 million; interest expense was approximately $11 million; and
depreciation and amortization expense was approximately $4.2 million. In
accordance with generally accepted accounting principles, only the real estate
operating properties under contract or letter of intent, but not the financing
lease properties, were reclassified to "Properties held for sale" and the
related income and expense reclassified to "Income from discontinued
operations."
15. MORTGAGES PAYABLE
Mortgages payable, all of which are nonrecourse to the Company, are
summarized as follows (in $000's):
ANNUAL PRINCIPAL
RANGE OF INTEREST RATES RANGE OF MATURITIES AND INTEREST PAYMENT BALANCE AT DECEMBER 31,
- ----------------------- ------------------- -------------------- 2003 2002
-------- ---------
5.630% -- 8.430%....... 10/15/07 - 12/31/18 $19,328 $180,989 $166,287
9.000 -- 9.500......... 11/30/03 - 11/30/09 -- -- 5,561
------- -------- --------
$19,328 $180,989 $171,848
======= ======== ========
The following is a summary of the anticipated future principal payments of
the mortgages (in 000's):
YEAR ENDING
DECEMBER 31, AMOUNT
- ---------------- ---------
2004............ $ 6,489
2005............ 6,702
2006............ 7,360
2007............ 14,176
2008............ 58,817
2009 - 2013..... 66,905
2014 - 2018..... 20,540
-----------
$ 180,989
===========
a. See Note 14(a) for Mid-South Logistics financing in October 2002.
b. On May 16, 2003, the Company executed a mortgage note secured by a
distribution facility located in Windsor Locks, Connecticut and obtained funding
in the principal amount of $20 million. The loan bears interest at 5.63% per
annum and matures on June 1, 2013. Annual debt service is approximately
$1,382,000 per annum based on a 30 year amortization schedule.
16. SENIOR NOTES AND CREDIT FACILITY DUE AFFILIATES
F-24
AMERICAN REAL ESTATE PARTNERS, L.P. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
a. The Senior Notes of National Energy Group, Inc. ("Notes") were held in
their entirety by affiliates of Icahn at December 31, 2002. The Notes bear
interest at an annual rate of 10 3/4%, payable semiannually in arrears on May 1
and November 1 of each year. The Notes are senior, unsecured obligations of NEG,
ranking pari passu with all existing and future senior indebtedness of NEG, and
senior in right of payment to all future subordinated indebtedness of NEG.
Subject to certain limitations set forth in the indenture covering the Senior
Notes (the "Indenture"), NEG and its subsidiaries may incur additional senior
indebtedness and other indebtedness.
The Indenture contains certain covenants limiting NEG with respect to the
following: (i) asset sales; (ii) restricted payments; (iii) the incurrence of
additional indebtedness and the issuance of certain redeemable preferred stock;
(iv) liens; (v) sale and leaseback transactions; (vi) lines of business; (vii)
dividend and other payment restrictions affecting subsidiaries; (viii) mergers
and consolidations; and (ix) transactions with affiliates.
NEG was unable to reasonably determine the fair value of the Notes at
December 31, 2002, due to a lack of available market quotations, credit ratings
and inability to determine an appropriate discount rate.
In August 2001, NEG redeemed both $16.4 million of principal outstanding
under the notes and $4.8 million of Reinstated Interest for a cash consideration
of $10.5 million. NEG paid two Icahn affiliates approximately $0.4 million in
current interest on the redeemed senior note obligations at the date of
redemption related to interest owed from the last semi-annual interest payment
date of May 1, 2001, to the date of redemption. As this was a partial redemption
of the Notes, it has been accounted for as a modification of terms that changes
the amounts of future cash payments. Accordingly, the excess of redeemed
principal and interest over the redemption payment of $10.5 million is being
amortized as a reduction to interest expense over the remaining life of the
bonds. In connection with this transaction, NEG borrowed $10.9 million under its
existing credit facility with an Icahn affiliate.
In October 2003, the Company acquired these Notes. At December 31, 2003,
these Notes were eliminated in consolidation (See Note 10).
b. At December 31, 2002, NEG had $10.9 million outstanding under its
existing $100 million credit facility with Arnos, an Icahn affiliate. Arnos
continued to be the holder of the credit facility; however, the $10.9 million
note outstanding under the credit facility was contributed to Holding LLC as
part of Gascon's contribution to Holding LLC on September 12, 2001. In December
2001, the maturity date of the credit facility was extended to December 31, 2003
and NEG was given a waiver of compliance with respect to any and all covenant
violations. NEG was not in compliance with the minimum interest coverage ratio
at September 30, 2002; and December 31, 2002 and the current ratio at December
31, 2002, however, in December 2001, NEG was given a waiver of compliance with
respect to any and all covenant violations through December 31, 2003.
On March 26, 2003, Holding LLC distributed the $10.9 million note
outstanding under NEG'S revolving credit facility as a priority distribution to
NEG, thereby canceling the note. Also, on March 26, 2003, NEG, Arnos and
Operating LLC entered into an agreement to assign the credit facility to
Operating LLC. Effective with this assignment, Arnos amended the credit facility
to increase the revolving commitment to $150 million, increase the borrowing
base to $75 million and extend the revolving due date until June 30, 2004.
Concurrently, Arnos extended a $42.8 million loan to Operating LLC under the
amended credit facility. Operating LLC then distributed $42.8 million to Holding
LLC who, thereafter, made a $40.5 million priority distribution and a $2.3
million guaranteed payment to NEG. NEG utilized these funds to pay the entire
amount of the long-term interest payable on the Notes and interest accrued
thereon outstanding on March 27, 2003. The Arnos facility was canceled on
December 29, 2003 in conjunction with a third party bank financing.
F-25
AMERICAN REAL ESTATE PARTNERS, L.P. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
17. RIGHTS OFFERINGS
a. A registration statement relating to the 1995 Rights Offering (the
"1995 Offering") was filed with the Securities and Exchange Commission and
declared effective February 23, 1995.
On March 1, 1995, the Company issued to record holders of its Depositary
Units one transferable subscription right (a "Right"), for each seven Depositary
Units of the Company held on February 24, 1995, the record date. The Rights
entitled the holders thereof (the "Rights Holders") to acquire during the
subscription period at a subscription price of $55, six Depositary Units and one
5% cumulative pay-in-kind redeemable preferred unit representing a limited
partner interest ("Preferred Units"). The subscription period commenced on March
1, 1995 and expired at the close of business on March 30, 1995.
The Preferred Units have certain rights and designations, generally as
follows. Each Preferred Unit has a liquidation preference of $10.00 and entitles
the holder thereof to receive distributions thereon, payable solely in
additional Preferred Units, at the rate of $.50 per Preferred Unit per annum
(which is equal to a rate of 5% of the liquidation preference thereof), payable
annually on March 31 of each year (each, a "Payment Date"). On any Payment Date
commencing with the Payment Date on March 31, 2000, the Company with the
approval of the Audit Committee of the Board of Directors of the General Partner
may opt to redeem all, but not less than all, of the Preferred Units for a
price, payable either in all cash or by issuance of additional Depositary Units,
equal to the liquidation preference of the Preferred Units, plus any accrued but
unpaid distributions thereon. On March 31, 2010, the Company must redeem all,
but not less than all, of the Preferred Units on the same terms as any optional
redemption.
On April 12, 1995, the Company received approximately $108.7 million, the
gross proceeds of the 1995 Offering, from its subscription agent and a capital
contribution of approximately $2.2 million from its General Partner. The Company
issued 1,975,640 Preferred Units and an additional 11,853,840 Depositary Units.
Trading in the Preferred Units commenced March 31, 1995 on the New York Stock
Exchange ("NYSE") under the symbol "ACP PR". The Depositary Units trade on the
NYSE under the symbol "ACP".
b. In September 1997, the Company completed its 1997 Rights Offering (the
"1997 Offering") to holders of its Depositary Units. The aggregate amount raised
in the 1997 Rights Offering was approximately $267 million. The Preferred and
Depositary Units issued under the 1997 Rights Offering carry the same rights and
designations as those issued in 1995.
On September 25, 1997, the Company received approximately $267 million,
the gross proceeds of the 1997 Offering, from its subscription agent and a
capital contribution of approximately $5.4 million from its General Partner.
Expenses incurred in connection with the 1997 Offering were approximately
$400,000. The Company issued an additional 5,132,911 Preferred Units and
20,531,644 Depositary Units. The Preferred and Depositary Units trade on the New
York Stock Exchange under the symbols "ACP PR" and "ACP", respectively.
At December 31, 2003, affiliates of the General Partner owned 8,477,139
Preferred Units and 39,896,836 Depositary Units.
18. PREFERRED UNITS
Pursuant to the terms of the Preferred Units, on February 21, 2003, the
Company declared its scheduled annual preferred unit distribution payable in
additional Preferred Units at the rate of 5% of the liquidation preference of
$10. The distribution was payable March 31, 2003 to holders of record as of
March 14, 2003. A total of 466,548 additional Preferred Units were issued. At
December 31, 2003 and 2002, 9,796,607 and 9,330,963 Preferred Units are issued
and outstanding, respectively.
Pursuant to the terms of the Preferred Units, on February 25, 2004, the
Company declared its scheduled annual preferred unit distribution payable in
additional Preferred Units at the rate of 5% of the liquidation preference of
$10. The distribution is payable on
F-26
AMERICAN REAL ESTATE PARTNERS, L.P. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
March 31, 2004 to holders of record as of March 12, 2004. In addition, the
Company increased the number of authorized Preferred Units to 10,400,000.
On July 1, 2003, the Company adopted Statement of Financial Accounting
Standards No. 150 (SFAS 150) "Accounting for Certain Financial Instruments with
Characteristics of both Liabilities and Equity." SFAS 150 requires that a
financial instrument, which is an unconditional obligation, be classified as a
liability. Previous guidance required an entity to include in equity financial
instruments that the entity could redeem in either cash or stock. Pursuant to
SFAS 150 the Company's Preferred Units, which are an unconditional obligation,
have been reclassified from "Partners' equity" to a liability account in the
consolidated Balance Sheets and the preferred pay-in-kind distribution for the
period from July 1, 2003 to December 31, 2003 of $2,449,000 and all future
distributions have been and will be recorded as "Interest expense" in the
Consolidated Statements of Operations.
19. INCOME TAXES
DECEMBER 31,
------------
(IN $000'S) 2003 2002
------------- -------------
a. The difference between the book basis and the tax basis of the net assets
of the Company, not directly subject to income taxes, is as follows:
Book basis of American Real Estate Partners' net assets excluding Stratosphere
Corp. and NEG, Inc.......................................................... $ 1,149,418 $ 1,177,329
Excess of tax over book (Excess of book over tax basis)........................ 79,238 (1,778)
------------- -------------
Tax basis of net assets........................................................ $ 1,228,656 $ 1,175,551
============= =============
b. Corporate income taxes
(i) The Company's corporations recorded the following income tax
(expense) benefit attributable to continuing operations for
Stratosphere and NEG for the years ended December 31, 2003,
2002 and 2001 (in $000's):
DECEMBER 31,
----------------------------------
2003 2002 2001
-------- -------- --------
Current $ (723) $ -- $ --
Deferred 7,218 (7,480) 30,077
-------- -------- --------
$ 6,495 $ (7,480) $ 30,077
======== ======== ========
(ii) The tax effect of significant differences representing net deferred
tax assets (the difference between financial statement carrying
values and the tax basis of assets and liabilities) for the Company
is as follows at December 31, 2003 and 2002 (in $000's):
DECEMBER 31,
-----------------------
2003 2002
--------- ---------
Deferred tax assets:
Depreciation ................... $ 40,191 $ 61,628
Net operating loss carryforwards 30,942 45,958
Investment in NEG Holding LLC .. 18,845 8,440
Other .......................... 8,347 9,950
--------- ---------
98,325 125,976
Valuation allowance ........... (15,875) (100,454)
--------- ---------
Net deferred tax assets ....... $ 82,450 $ 25,522
========= =========
At December 31, 2003, Stratosphere had net operating loss carryforwards
available for federal income tax purposes of approximately $28.5 million which
begin expiring in 2019.
SFAS 109 requires a "more likely than not" criterion be applied when
evaluating the realizability of a deferred tax asset. As of December 31, 2002,
given Stratosphere's history of losses for income tax purposes, the volatility
of the industry within which the
F-27
AMERICAN REAL ESTATE PARTNERS, L.P. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
Stratosphere operates, and certain other factors, Stratosphere had established a
valuation allowance for the deductible temporary differences, including the
excess of the tax basis of the Stratosphere's assets over the basis of such
assets for financial statement purposes and the tax carryforwards. However, at
December 31, 2003, based on various factors including the current earnings trend
and future taxable income projections, Stratosphere determined that it was more
likely than not that the deferred tax assets will be realized and removed the
valuation allowance.
In accordance with SFAS 109, the tax benefit of any deferred tax asset
that existed on the effective date of a reorganization should be reported as a
direct addition to contributed capital. Stratosphere has deferred tax assets
relating to both before and after Stratosphere emerged from bankruptcy in
September of 1998. The net decrease in the valuation allowance was $79.3 million
of which a net amount of $47.5 million was credited to partners' capital in the
year ended December 31, 2003.
At December 31, 2003, NEG had net operating loss carryforwards available
for federal income tax purposes of approximately $58 million, which expire in
2009. Net operating loss limitations may be imposed as a result of subsequent
changes in stock ownership of NEG. Prior to the formation of Holding LLC, the
income tax benefit associated with the loss carryforwards had not been
recognized since, in the opinion of management, there was not sufficient
positive evidence of future taxable income to justify recognition of a benefit.
Upon the formation of Holding LLC, management again evaluated all evidence, both
positive and negative, in determining whether a valuation allowance to reduce
the carrying value of deferred tax assets was still needed and concluded, based
on the projected allocations of taxable income by Holding LLC, NEG more likely
than not will realize a partial benefit from the loss carryforwards. In
accordance with SFAS 109, NEG recorded a deferred tax asset of $31.9 million in
September 2001, $25.5 million as of December 31, 2002, and $25.9 million as of
December 31, 2003. Ultimate realization of the deferred tax asset is dependent
upon, among other factors, NEG's ability to generate sufficient taxable income
within the carryforward periods and is subject to change depending on the tax
laws in effect in the years in which the carryfowards are used. As a result of
the recognition of expected future income tax benefits, subsequent periods will
reflect a full effective tax rate provision.
20. QUARTERLY FINANCIAL DATA (UNAUDITED) (IN $000'S, EXCEPT PER UNIT DATA)
THREE MONTHS ENDED(1)
--------------------------------------------------------------------------------------------
MARCH 31, JUNE 30, SEPTEMBER 30, DECEMBER 31,
-------------------- -------------------- -------------------- --------------------
2003 2002 2003 2002 2003 2002 2003 2002
-------- -------- -------- -------- -------- -------- -------- --------
Revenues ........................ $ 69,030 $ 82,995 $ 67,016 $ 89,008 $ 71,492 $ 80,906 $ 69,018 $ 93,471
======== ======== ======== ======== ======== ======== ======== ========
Operating Income ................ $ 14,524 $ 19,810 $ 15,033 $ 26,106 $ 14,811 $ 17,802 $ 18,523 $ 20,012
Gains (losses) on property
transactions .................. 1,138 1,639 (272) -- 501 2,891 5,754 4,460
Gain on sale of marketable
equity and debt securities .... -- -- -- -- 2,168 -- 439 --
Provision for loss on real estate (200) -- -- (926) (100) -- (450) (2,286)
Write-down of equity securities
available for sale ............ (961) -- -- (8,476) -- -- -- --
Write-down write-up of mortgages
& notes receivable ............ -- -- (18,798) -- -- -- -- --
Loss on limited partnership
interest ...................... -- -- -- -- -- -- -- (3,750)
Minority interest in net
earnings of Stratosphere Corp. -- (407) -- (589) -- (612) -- (335)
-------- -------- -------- -------- -------- -------- -------- --------
Income (loss) from continuing
operations before income tax .. 14,501 21,042 (4,037) 16,115 17,380 20,081 24,266 18,101
Income tax (expense) benefit .... (2,878) (1,595) (2,158) (1,854) (2,568) (2,031) 14,099 (2,000)
-------- -------- -------- -------- -------- -------- -------- --------
Income (loss) from continuing
operations .................... 11,623 19,447 (6,195) 14,261 14,812 18,050 38,365 16,101
Income from discontinued
operations .................... 1,629 1,502 3,427 1,502 2,933 1,502 1,503 1,501
-------- -------- -------- -------- -------- -------- -------- --------
Net earnings (loss) ............. $ 13,252 $ 20,949 $ (2,768) $ 15,763 $ 17,745 $ 19,552 $ 39,868 $ 17,602
======== ======== ======== ======== ======== ======== ======== ========
Net Earnings (loss) per limited
Partnership unit(2):
Basic earnings:
F-28
AMERICAN REAL ESTATE PARTNERS, L.P. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
THREE MONTHS ENDED(1)
--------------------------------------------------------------------------------------------
MARCH 31, JUNE 30, SEPTEMBER 30, DECEMBER 31,
-------------------- -------------------- -------------------- --------------------
2003 2002 2003 2002 2003 2002 2003 2002
-------- -------- -------- -------- -------- -------- -------- --------
Income (loss) from continuing
operations .................. $ .17 $ .35 $ (.20) $ .24 $ .26 $ .31 $ .82 $ .26
Income from discontinued
operations .................. .03 .03 .07 .03 .06 .03 .03 .03
-------- -------- -------- -------- -------- -------- -------- --------
Basic earnings (loss) per LP
unit ......................... $ .20 $ .38 $ (.13) $ .27 $ .32 $ .34 $ .85 $ .29
======== ======== ======== ======== ======== ======== ======== ========
Diluted earnings:
Income (loss) from continuing
operations .................. $ .15 $ .30 $ (.20) $ .21 $ .24 $ .27 $ .71 $ .22
Income from discontinued
operations .................. .03 .03 .07 .03 .05 .03 .03 .03
-------- -------- -------- -------- -------- -------- -------- --------
Diluted earnings (loss) per LP
unit ......................... $ .18 $ .33 $ (.13) $ .24 $ .29 $ .30 $ .74 $ .25
======== ======== ======== ======== ======== ======== ======== ========
- ----------
(1) All quarterly amounts have been restated for the effects of the
acquisition of NEG and the reporting of discontinued operations.
(2) Net earnings (loss) per unit is computed separately for each period and,
therefore, the sum of such quarterly per unit amounts may differ from the
total for the year.
21. SEGMENT REPORTING
The Company is engaged in six operating segments consisting of the
ownership and operation of (i) rental real estate, (ii) hotel and resort
operating properties, (iii) hotel and casino operating property, (iv) property
development, (v) investment in securities including investment in other limited
partnerships and marketable equity and debt securities and (vi) investment in
oil and gas operating properties. The Company's reportable segments offer
different services and require different operating strategies and management
expertise.
Non-segment revenue to reconcile to total revenue consists primarily
of interest income on treasury bills and other investments. Non-segment assets
to reconcile to total assets includes investment in U.S. Government and Agency
obligations, cash and cash equivalents, receivables and other assets.
The accounting policies of the segments are the same as those
described in Note 2.
The Company assesses and measures segment operating results based on
segment earnings from operations as disclosed below. Segment earnings from
operations is not necessarily indicative of cash available to fund cash
requirements nor synonymous with cash flow from operations.
The revenues, net earnings, assets and real estate investment capital
expenditures for each of the reportable segments are summarized as follows for
the years ended and as of December 31, 2003, 2002, and 2001 (in $000's):
DECEMBER 31,
-----------------------------------------
2003 2002 2001
--------- --------- ---------
Revenues:
Hotel & casino operating properties .... $ 160,235 $ 156,620 $ 146,161
Land, house and condominium sales ...... 13,265 76,024 55,566
Rental real estate ..................... 24,751 25,238 27,366
Hotel & resort operating properties .... 14,592 14,918 12,276
Oil & gas operating properties ......... 38,109 40,516 45,709
Other investments ...................... 13,874 15,283 7,097
--------- --------- ---------
Subtotal .............................. 264,826 328,599 294,175
F-29
AMERICAN REAL ESTATE PARTNERS, L.P. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
DECEMBER 31,
-----------------------------------------
2003 2002 2001
--------- --------- ---------
Reconciling items ........................ 11,730(1) 17,781(1) 28,147(1)
--------- --------- ---------
Total revenues ........................ $ 276,556 $ 346,380 $ 322,322
========= ========= =========
Net earnings:
Segment earnings:
Hotel & casino operating property ...... $ 24,806 $ 24,961 $ 18,205
Land, house and condominium sales ...... 4,136 21,384 12,967
Oil & gas operating properties ......... 38,109 40,516 40,140
Rental real estate ..................... 19,276 20,556 24,338
Hotel and resort operating properties .. 3,454 2,365 1,484
Other investments ...................... 13,874 15,283 7,097
--------- --------- ---------
Total segment earnings ................ 103,655 125,065 104,231
Interest income .......................... 11,730 17,781 28,147
Interest expense ......................... (20,640) (27,369) (34,765)
General and administrative expenses ...... (14,081) (14,134) (13,011)
Depreciation and amortization ............ (17,773) (17,613) (20,814)
--------- --------- ---------
Operating Income ....................... 62,891 83,730 63,788
Gain on sales and disposition of real
estate from continuing operations ...... 7,121 8,990 1,737
Loss on sale of limited partnership
interests .............................. -- (3,750) --
Write-down of mortgages and notes
receivable ............................. (18,798) -- --
Provision for loss on real estate ........ (750) (3,212) (3,184)
Write-down of equity securities available
for sale ............................... (961) (8,476) --
Gain on sale of marketable equity
securities ............................. 2,607 -- 6,749
Minority interest in net earnings of
Stratosphere Corp ...................... -- (1,943) (450)
Income tax benefit (expense) ............. 6,495 (7,480) 30,077
Income from discontinued operations ...... 9,492 6,007 6,117
General partner's share of net income .... (8,737) (10,698) (38,644)
--------- --------- ---------
Net earnings-limited partners' unitholders $ 59,360 $ 63,168 $ 66,190
========= ========= =========
- ----------
(1) Primarily interest income on U.S. Government and Agency obligations and
other short-term investments and Icahn note receivable.
DECEMBER 31,
------------------------------------
2003 2002 2001
---------- ---------- ----------
Assets:
Rental real estate ....................... $ 340,062 $ 359,700 $ 358,597
Hotel and casino operating property ...... 174,249 171,430 184,191
Land and construction-in-progress ........ 43,459 40,415 69,429
Hotel and resort operating properties .... 41,526 44,346 43,990
Other investments ........................ 231,050 479,104 458,372
---------- ---------- ----------
830,346 1,094,995 1,114,579
Reconciling items ........................ 659,584 465,481 469,772
---------- ---------- ----------
Total ................................... $1,489,930 $1,560,476 $1,584,351
========== ========== ==========
Real estate investment capital expenditures:
Acquisitions:
Rental real estate ....................... $ -- $ 18,226 $ --
Land and construction-in-progress ........ -- -- --
Hotel and casino operating property ...... -- -- --
Hotel and resort operating properties .... -- -- --
---------- ---------- ----------
$ -- $ 18,226 $ --
========== ========== ==========
Developments:
Rental real estate ....................... $ 413 $ 181 $ 1,064
Land and construction-in-progress ........ -- 1,138 3,804
Hotel and casino operating property ...... 18,667 2,582 48,909
Hotel and resort operating properties .... 1,067 1,995 13,753
---------- ---------- ----------
$ 20,147 $ 5,896 $ 67,530
========== ========== ==========
F-30
AMERICAN REAL ESTATE PARTNERS, L.P. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
22. COMMITMENTS AND CONTINGENCIES
a. In January 2002, Kmart Corp., a tenant leasing seven properties owned
by the Company which represent approximately $1,374,000 in annual rentals, filed
a voluntary petition for reorganization under Chapter 11 of the Federal
Bankruptcy Code. Pursuant to an order of the Bankruptcy Court, four leases have
been rejected representing approximately $713,000 in annual rents. The Company
recorded a provision for loss of approximately $1.9 million on the four
properties, whose leases were rejected, for the year ended December 31, 2001.
The Company has not been notified regarding the three remaining leases
representing approximately $661,000 in annual rents. At December 31, 2003 and
2002, the carrying value of the seven properties was approximately $5,482,000
and $6,529,000, respectively, which management believes is less than the
estimate of net realizable value.
Tiffiny Decorating Company ("Tiffiny"), a subcontractor to Great
Western Drywall ("Great Western"), filed a legal action against Stratosphere
Corporation, Stratosphere Development, LLC, American Real Estate Holdings
Limited Partnership (collectively referred to as the "Stratosphere Parties"),
Great Western, Nevada Title and Safeco Insurance, Case No. A443926 in the Eighth
Judicial District Court of the State of Nevada. The legal action asserts claims
that include breach of contract, unjust enrichment and foreclosure of lien. The
Stratosphere Parties have filed a cross-claim against Great Western in that
action. Additionally, Great Western has filed a separate legal action against
the Stratosphere Parties setting forth the same disputed issues. That separate
action, Case No. A448299 in the Eighth Judicial Court of the State of Nevada,
has been consolidated with the case brought by Tiffiny.
The initial complaint brought by Tiffiny asserts that Tiffiny performed
certain construction services at the Stratosphere and was not fully paid for
those services. Tiffiny claims the sum of $521,562 against Great Western, the
Statosphere Parties, and the other defendants, which the Stratosphere Parties
contend has been paid to Great Western for payment to Tiffiny.
Great Western is alleging that it is owed payment from the Stratosphere
Parties for work performed and for delay and disruption damages. Great Western
is claiming damages in the sum of $3,935,438 plus interest, costs and legal fees
from the Stratosphere Parties. This amount apparently includes the Tiffiny
claim.
The Stratosphere Parties have evaluated the project and have determined
that the amount of $1,004,059, of which $195,953 and $371,973 were disbursed to
Tiffiny and Great Western in 2002, respectively, is properly due and payable to
satisfy all claims for the work performed, including the claim by Tiffiny. The
remaining amount has been segregated in a separate interest bearing account. The
Stratosphere Parties intend to vigorously defend the action for claims in excess
of $1,004,059.
c. In January 2002, the Cape Cod Commission, (the "Commission"), a
Massachusetts regional planning body created in 1989, concluded that AREP's New
Seabury development is within its jurisdiction for review and approval (the
"Administrative Decision"). It is the Company's position that the proposed
residential, commercial and recreational development is in substantial
compliance with a special permit issued for the property in 1964 and is
therefore exempt from the Commission's jurisdiction and that Commission is
barred from exercising jurisdiction pursuant to a 1993 settlement agreement
between the Commission and a prior owner of the New Seabury property (the
"Settlement Agreement").
In February 2002, New Seabury Properties LLC ("New Seabury"), an AREP
subsidiary and owner of the property, filed in Barnstable County Massachusetts
Superior Court, a civil complaint appealing the Administrative Decision by the
Commission, and a separate civil complaint to find the Commission in contempt of
the Settlement Agreement. The Court subsequently consolidated the two complaints
into one proceeding. In July 2003, New Seabury and the Commission filed cross
motions for summary judgment.
F-31
AMERICAN REAL ESTATE PARTNERS, L.P. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
Also, in July 2003, in accordance with a Court ruling, the Commission
reconsidered the question of its jurisdiction over the initial development
proposal and over a modified development proposal that New Seabury filed in
March 2003. The Commission concluded that both proposals are within its
jurisdiction (the Second Administrative Decision). In August 2003, New Seabury
filed in Barnstable County Massachusetts Superior Court another civil complaint
appealing the Second Administrative Decision to find the Commission in contempt
of the Settlement Agreement.
In November 2003, the Court ruled in New Seabury's favor on its July 2003
motion for partial summary judgment, finding that the special permit remains
valid and that the modified development proposal is in substantial compliance
with the Special Permit and therefore exempt from the Commission's jurisdiction
(the Court did not yet rule on the initial proposal). Under the modified
development proposal New Seabury could potentially develop up to 278 residential
units and 145,000 square feet of commercial space. In March 2004, New Seabury
moved for Summary Judgment to dispose of remaining claims under all three
complaints and to obtain a final judgment from the Court. Also in March 2004,
the Commission cross-moved for summary judgment on certain claims under each
complaint. Under the initial proposal, New Seabury could potentially build up to
675 residential/hotel units and 80,000 square feet of commercial space. The
Company cannot predict the effect on the development process if it loses any
appeal or if the Commission is ultimately successful in asserting jurisdiction
over any of the development proposals.
The General Partner monitors all tenant bankruptcies and defaults and may,
when it deems it necessary or appropriate, establish additional reserves for
such contingencies.
In addition, in the ordinary course of business, the Company, its
subsidiaries and other companies in which the Company has invested are parties
to various legal actions. In management's opinion, the ultimate outcome of such
legal actions will not have a material effect on the Company's consolidated
financial statements taken as a whole.
23. FAIR VALUE OF FINANCIAL INSTRUMENTS
CASH AND CASH EQUIVALENTS, RECEIVABLES, NOTE RECEIVABLE DUE FROM AFFILIATE,
ACCOUNTS PAYABLE, ACCRUED EXPENSES AND OTHER LIABILITIES AND THE PREFERRED
LIMITED PARTNERSHIP UNITS LIABILITY
The carrying amount of cash and cash equivalents, receivables, note
receivable due from affiliate, and accounts payable, accrued expenses and other
liabilities and the Preferred Limited Partnership Units Liability are carried at
cost, which approximates their fair value.
MORTGAGES AND NOTES RECEIVABLE
The fair values of the mortgages and notes receivable past due, in process
of foreclosure, or for which foreclosure proceedings are pending, are based on
the discounted cash flows of the underlying lease. The fair values of the
mortgages and notes receivable satisfied after year end are based on the amount
of the net proceeds received.
The fair values of the mortgages and notes receivable which are current
are based on the discounted cash flows of their respective payment streams.
The approximate estimated fair values of the mortgages and notes
receivable held as of December 31, 2003 and 2002 are summarized as follows (in
$000's):
AT DECEMBER 31, 2003 AT DECEMBER 31, 2002
-------------------- --------------------
NET ESTIMATED NET ESTIMATED
INVESTMENT FAIR VALUE INVESTMENT FAIR VALUE
---------- ---------- ---------- ----------
Total $ 50,272 $ 55,000 $ 51,449 $ 53,973
======== ======== ======== ========
The net investment at December 31, 2003 and 2002 is equal to the carrying
amount of the mortgage receivable less any deferred income recorded.
F-32
AMERICAN REAL ESTATE PARTNERS, L.P. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
MORTGAGES PAYABLE
The approximate estimated fair values of the mortgages payable as of
December 31, 2003 and 2002 are summarized as follows (in $000's):
AT DECEMBER 31, 2003 AT DECEMBER 31, 2002
-------------------- --------------------
CARRYING ESTIMATED CARRYING ESTIMATED
VALUE FAIR VALUE VALUE FAIR VALUE
----- ---------- ----- ----------
Total $180,989 $185,000 $171,848 $190,000
======== ======== ======== ========
LIMITATIONS
Fair value estimates are made at a specific point in time, based on
relevant market information and information about the financial instrument.
These estimates are subjective in nature and involve uncertainties and matters
of significant judgment and therefore cannot be determined with precision.
Changes in assumptions could significantly affect the estimates.
24. EMPLOYEE BENEFIT PLANS
a. Employees of the Company who are members of various unions are covered
by union-sponsored, collectively bargained, multi-employer health and welfare
and defined benefit pension plans. The Company recorded expenses for such plans
of approximately $7,600,000, $6,500,000 and $4,900,000 for the years ended
December 31, 2003, 2002 and 2001, respectively. Sufficient information is not
available from the plans' sponsors to permit the Company to determine the
adequacy of the plans' funding status.
b. The Company has retirement savings plans under Section 401(k) of the
Internal Revenue Code covering its non-union employees. The plans allow
employees to defer, within prescribed limits, up to 15% of their income on a
pre-tax basis through contributions to the plans. The Company currently matches,
within prescribed limits, up to 6% of eligible employees' compensation at rates
ranging from 33% to 50%. The Company recorded charges for matching contributions
of approximately $422,000, $433,000 and $477,000, for the years ended December
31, 2003, 2002 and 2001, respectively.
25. REPURCHASE OF DEPOSITARY UNITS
The Company has previously been authorized to repurchase up to 1,250,000
Depositary Units. As of December 31, 2003, the Company has purchased 1,137,200
Depositary Units at an aggregate cost of approximately $11,921,000.
26. SUBSEQUENT EVENTS
On January 5, 2004, American Casino & Entertainment Properties LLC
("American Casino"), an indirect wholly-owned subsidiary of the Company, entered
into an agreement to acquire two Las Vegas casino/hotels, Arizona Charlie's
Decatur and Arizona Charlie's Boulder from Carl C. Icahn and an entity
affiliated with Mr. Icahn, for an aggregate consideration of $125.9 million. The
closing of the acquisition is subject to certain conditions, including among
other things, obtaining all approvals necessary under the gaming laws. The terms
of the transaction were approved by the Audit Committee, who received an opinion
from its financial advisor as to the fairness of the consideration to be paid
from a financial point of view. Upon receiving all approvals necessary under
gaming laws and upon closing of the acquisition, the AREH will transfer 100% of
the common stock of Stratosphere Corporation ("Stratosphere") to American
Casino. As a result, following the acquisition and contribution, American Casino
will own and operate three gaming and entertainment properties in the Las Vegas
metropolitan area.
Also, in January 2004, American Casino closed on its offering of Senior
Secured Notes Due 2012. The Notes, in the aggregate principal amount of $215
million, bear interest at the rate of 7.85% per annum. The proceeds will be
held in escrow pending receipt of all approvals necessary under gaming laws and
certain other conditions in connection with the acquisition of Arizona
Charlie's Decatur and Boulder. The amount raised in excess of the acquisition
cost and expenses will be used to repay intercompany debt and for general
business purposes by the Company and its subsidiaries.
Arizona Charlie's Decatur is located on approximately 17 acres of land,
four miles west of the Las Vegas strip. An estimated 500,000 people live within
a five-mile radius of the property. The property is easily accessible from
Route 95, a major highway in Las Vegas. Arizona Charlie's Decatur contains
approximately 52,000 square feet of gaming space, 258 hotel rooms, four
restaurants and three bars. The property targets repeat customers from the
surrounding communities. In 2003, revenues were $67.9 million.
Arizona Charlie's Boulder is located on approximately 24 acres of land,
seven miles east of the Las Vegas strip, near an I-515 interchange. The I-515
is the most heavily traveled east/west highway in Las Vegas. An estimated
423,000 people live within a five-mile radius of the property. Arizona Charlie's
Boulder contains approximately 41,000 square feet of gaming space, 303 hotel
rooms, four restaurants and a 202-space recreational vehicle park. As with the
Arizona Charlie's Decatur property, the property targets repeat customers from
the surrounding communities. In 2003, revenues were $31.2 million.
F-33