UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-Q
[ X ] Quarterly Report Pursuant to Section 13 or 15(d) of the Securities
Exchange Act of 1934
FOR THE QUARTERLY PERIOD ENDED MARCH 31, 1999
Commission File Number 0-22334
LODGENET ENTERTAINMENT CORPORATION
---------------------------------------------------------------
(Exact name of registrant as specified in its charter)
DELAWARE 46-0371161
- ------------------------------- -------------------------------
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification Number)
3900 WEST INNOVATION STREET, SIOUX FALLS, SOUTH DAKOTA 57107
- --------------------------------------------------------------------------------
(Address of Principal Executive Offices) (ZIP code)
(605) 988-1000
---------------------------------------
(Registrant's telephone number,
including area code)
_______________________________________________________________
(Former name, former address and former fiscal year,
if changed since last report
Indicate by check mark whether the Registrant (1) has filed all reports
required to be filed by Section 13 or 15(d) of the Securities Exchange Act of
1934 during the preceding 12 months (or for such shorter period that the
Registrant was required to file such reports), and (2) has been subject to such
filing requirements for the past 90 days. Yes X No .
--- ---
At April 30, 1999, there were 11,942,387 shares outstanding of the
Registrant's common stock, $0.01 par value.
THIS REPORT CONTAINS A TOTAL OF 17 PAGES
LodgeNet Entertainment Corporation Form 10-Q
LODGENET ENTERTAINMENT CORPORATION
INDEX
Page
No.
PART I. FINANCIAL INFORMATION
Item 1 -- Financial Statements:
Consolidated Balance Sheets as of December 31, 1998 and
March 31, 1999 (Unaudited)....................................... 3
Consolidated Statements of Operations (Unaudited) for
the Three Months Ended March 31, 1998 and 1999................... 4
Consolidated Statements of Cash Flows (Unaudited) for
the Three Months Ended March 31, 1998 and 1999................... 5
Notes to Consolidated Financial Statements........................... 6
Item 2 -- Management's Discussion and Analysis of Financial Condition
and Results of Operations....................................... 8
Item 3 -- Quantitative and Qualitative Disclosures About Market Risk...... 15
PART II. OTHER INFORMATION
Item 1 -- Legal Proceedings............................................... 16
Item 2 -- Changes in Securities........................................... 16
Item 3 -- Defaults Upon Senior Securities................................. 16
Item 4 -- Submission of Matters to a Vote of Security Holders............. 16
Item 5 -- Other Information............................................... 16
Item 6 -- Exhibits and Reports on Form 8-K................................ 16
SIGNATURES................................................................ 17
SPECIAL NOTE REGARDING FORWARD-LOOKING STATEMENTS -- CERTAIN STATEMENTS IN
THIS QUARTERLY REPORT ON FORM 10-Q CONSTITUTE "FORWARD-LOOKING STATEMENTS"
WITHIN THE MEANING OF THE SECURITIES ACT OF 1933, AS AMENDED, AND THE
SECURITIES EXCHANGE ACT OF 1934, AS AMENDED. WHEN USED IN THIS QUARTERLY
REPORT, THE WORDS "EXPECTS," "ANTICIPATES," "ESTIMATES," "BELIEVES," "NO
ASSURANCE," AND SIMILAR EXPRESSIONS, AND STATEMENTS WHICH ARE MADE IN THE
FUTURE TENSE, ARE INTENDED TO IDENTIFY SUCH FORWARD-LOOKING STATEMENTS. SUCH
FORWARD-LOOKING STATEMENTS INVOLVE KNOWN AND UNKNOWN RISKS, UNCERTAINTIES AND
OTHER FACTORS, WHICH MAY CAUSE THE COMPANY'S ACTUAL PERFORMANCE OR
ACHIEVEMENTS TO BE MATERIALLY DIFFERENT FROM ANY FUTURE RESULTS, PERFORMANCE
OR ACHIEVEMENTS EXPRESSED OR IMPLIED BY SUCH FORWARD-LOOKING STATEMENTS. IN
ADDITION TO THE RISKS AND UNCERTAINTIES DISCUSSED IN THIS QUARTERLY REPORT,
SUCH FACTORS INCLUDE, AMONG OTHERS, THE FOLLOWING: THE IMPACT OF COMPETITION
AND CHANGES TO THE COMPETITIVE ENVIRONMENT FOR THE COMPANY'S PRODUCTS AND
SERVICES, CHANGES IN TECHNOLOGY, RELIANCE ON STRATEGIC PARTNERS, UNCERTAINTY
OF LITIGATION, CHANGES IN GOVERNMENT REGULATION AND OTHER FACTORS DETAILED,
FROM TIME TO TIME, IN THE COMPANY'S FILINGS WITH THE SECURITIES AND EXCHANGE
COMMISSION. THESE FORWARD-LOOKING STATEMENTS SPEAK ONLY AS OF THE DATE OF
THIS QUARTERLY REPORT. THE COMPANY EXPRESSLY DISCLAIMS ANY OBLIGATION OR
UNDERTAKING TO RELEASE PUBLICLY ANY UPDATES OR REVISIONS TO ANY
FORWARD-LOOKING STATEMENTS CONTAINED HEREIN TO REFLECT ANY CHANGE IN THE
COMPANY'S EXPECTATIONS WITH REGARD THERETO OR ANY CHANGE IN EVENTS,
CONDITIONS OR CIRCUMSTANCES ON WHICH ANY SUCH STATEMENT IS BASED.
- ---------------
As used herein (unless the context otherwise requires) "LodgeNet", "the
Company" and/or "the Registrant" means LodgeNet Entertainment Corporation and
its majority-owned subsidiaries.
March 31, 1999 Page 2
LodgeNet Entertainment Corporation Form 10-Q
PART I -- FINANCIAL INFORMATION
ITEM 1 -- FINANCIAL STATEMENTS
LODGENET ENTERTAINMENT CORPORATION
CONSOLIDATED BALANCE SHEETS
(Dollar amounts in thousands)
December 31, March 31,
1998 1999
---------------- ----------------
Assets (Unaudited)
Current assets:
Cash and cash equivalents $ 5,240 $ 3,718
Accounts receivable, net of allowance for doubtful accounts 27,586 26,638
Prepaid expenses and other 6,086 6,801
---------------- ----------------
Total current assets 38,912 37,157
Property and equipment, net of accumulated depreciation 209,437 209,225
Investments in and advances to unconsolidated affiliates 32,701 30,072
Debt issuance costs, net of accumulated amortization 6,637 9,778
Other assets, net 18,343 15,884
---------------- ----------------
$ 306,030 $ 302,116
---------------- ----------------
---------------- ----------------
Liabilities and Stockholders' Equity
Current liabilities:
Accounts payable $ 13,705 $ 13,550
Accrued expenses and other 9,410 18,050
Current maturities of long-term debt 5,718 5,657
Deferred revenue 2,318 2,369
---------------- ----------------
Total current liabilities 31,151 39,626
Long-term debt 262,375 260,809
Minority interest in consolidated subsidiary 730 730
---------------- ----------------
Total liabilities 294,256 301,165
---------------- ----------------
Commitments and contingencies
Stockholders' equity:
Common stock, $.01 par value, 20,000,000 shares authorized; 11,942,387 shares
outstanding at December 31, 1998 and
March 31, 1999 119 119
Additional paid-in capital 123,706 123,715
Accumulated other comprehensive loss (1,512) (1,317)
Accumulated deficit (110,539) (121,566)
---------------- ----------------
Total stockholders' equity 11,774 951
---------------- ----------------
$ 306,030 $ 302,116
---------------- ----------------
---------------- ----------------
The accompanying notes are an integral part of these
consolidated financial statements.
March 31, 1999 Page 3
LodgeNet Entertainment Corporation Form 10-Q
LODGENET ENTERTAINMENT CORPORATION
CONSOLIDATED STATEMENTS OF OPERATIONS (UNAUDITED)
(Dollar amounts in thousands)
Three Months Ended March 31,
-------------------------------
1998 1999
------------- -------------
Revenues:
Guest Pay $ 31,849 $ 38,969
Other 4,498 2,996
------------- -------------
Total revenues 36,347 41,965
------------- -------------
Direct costs:
Guest Pay 13,071 15,850
Other 3,009 2,398
------------- -------------
Total direct costs 16,080 18,248
------------- -------------
Gross profit 20,267 23,717
------------- -------------
Operating expenses:
Guest Pay operations 6,137 5,867
Selling, general and administrative 4,826 4,341
Depreciation and amortization 12,578 14,425
------------- -------------
Total operating expenses 23,541 24,633
------------- -------------
Operating loss (3,274) (916)
Equity in losses of unconsolidated affiliates -- (3,844)
Interest expense (5,302) (6,603)
Interest income 92 393
Provision for income taxes (151) (57)
------------- -------------
Net loss $ (8,635) $ (11,027)
------------- -------------
------------- -------------
Per common share (basic and diluted):
Net loss $ (0.76) $ (0.92)
------------- -------------
------------- -------------
Weighted average shares outstanding 11,356,675 11,942,387
------------- -------------
------------- -------------
The accompanying notes are an integral part of these
consolidated financial statements.
March 31, 1999 Page 4
LodgeNet Entertainment Corporation Form 10-Q
LODGENET ENTERTAINMENT CORPORATION
CONSOLIDATED STATEMENTS OF CASH FLOWS (UNAUDITED)
(Dollar amounts in thousands)
Three Months Ended March 31,
-------------------------------
1998 1999
------------- -------------
Operating activities:
Net loss $ (8,635) $ (11,027)
Adjustments to reconcile net loss to net cash provided
by operating activities:
Depreciation and amortization 12,578 14,425
Equity in losses of unconsolidated affiliates -- 3,844
Change in operating assets and liabilities:
Accounts receivable (275) 362
Prepaid expenses and other (607) (713)
Accounts payable (5,229) (160)
Accrued expenses and other 2,794 8,690
Other (136) 1,947
------------- -------------
Net cash provided by operating activities 490 17,367
------------- -------------
Investing activities:
Property and equipment additions (18,772) (13,163)
Investment in unconsolidated affiliates (4,662) (608)
------------- -------------
Net cash used for investing activities (23,434) (13,771)
------------- -------------
Financing activities:
Proceeds from long-term debt 1,204 75,000
Repayment of long-term debt -- (9)
Repayment of capital lease obligations (88) (180)
Borrowings under revolving credit facility 21,500 2,000
Repayments of revolving credit facility -- (78,500)
Debt issuance costs -- (3,440)
Stock option activity 147 --
------------- -------------
Net cash provided by (used for) financing activities 22,763 (5,129)
------------- -------------
Effect of exchange rates on cash -- 11
------------- -------------
Decrease in cash and cash equivalents (181) (1,522)
Cash and cash equivalents at beginning of period 1,021 5,240
------------- -------------
Cash and cash equivalents at end of period $ 840 $ 3,718
------------- -------------
------------- -------------
Supplemental cash flow information:
Cash paid for interest $ 1,743 $ 4,146
------------- -------------
------------- -------------
The accompanying notes are an integral part of these
consolidated financial statements.
March 31, 1999 Page 5
LodgeNet Entertainment Corporation Form 10-Q
LODGENET ENTERTAINMENT CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
Note 1 -- Basis of Presentation
The accompanying consolidated financial statements as of March 31, 1999,
and for the three month periods ended March 31, 1998 and 1999, have been
prepared by LodgeNet Entertainment Corporation (the "Company"), without
audit, pursuant to the rules and regulations of the Securities and Exchange
Commission (the "Commission"). The information furnished in the accompanying
consolidated financial statements reflects all adjustments, consisting only
of normal recurring adjustments, which, in the opinion of management, are
necessary for a fair presentation of such financial statements.
Certain information and footnote disclosures, normally included in
financial statements prepared in accordance with generally accepted
accounting principles, have been condensed or omitted pursuant to the rules
and regulations of the Commission. Although the Company believes that the
disclosures are adequate to make the information presented herein not
misleading, it is recommended that these unaudited consolidated financial
statements be read in conjunction with the more detailed information
contained in the Company's Annual Report on Form 10-K for 1998, as filed with
the Commission. The results of operations for the three month period ended
March 31, 1999 are not necessarily indicative of the results of operations
for the full year.
The consolidated financial statements include the accounts of LodgeNet
Entertainment Corporation and its majority-owned subsidiaries. All
significant inter-company accounts and transactions have been eliminated in
consolidation.
Note 2 -- Property and Equipment, Net
Property and equipment was comprised as follows at (in thousands of dollars):
December 31, March 31,
1998 1999
------------ ------------
Land, building and equipment $ 48,105 $ 49,963
Free-to-guest equipment 16,237 17,078
Guest pay systems:
Installed 257,980 265,962
System components 24,933 26,407
Software costs 8,640 9,173
------------ ------------
Total 355,895 368,583
Less - depreciation and amortization (146,458) (159,358)
------------ ------------
Property and equipment, net $ 209,437 $ 209,225
------------ ------------
------------ ------------
March 31, 1999 Page 6
LodgeNet Entertainment Corporation Form 10-Q
Note 3 -- Financing Transaction
On February 25, 1999, the Company amended and restated its bank credit
facility (the "Bank Facility"), increasing the capacity of the Bank Facility
to $150 million, comprised of a $75 million term loan and a $75 million
revolving credit facility. The $76.5 million outstanding at December 31, 1998
under the previous revolving credit facility was repaid with proceeds from
the term loan. In addition to the $75 million term loan, the Bank Facility
provides a $75 million revolving credit facility, which may be increased at
the Company's request to $100 million, subject to certain limitations.
Quarterly repayments on the term loan begin in February 2001 and are as
follows for the respective fiscal years (in thousands of dollars): 2001 --
$15,000; 2002 -- $18,750; 2003 -- $18,750; 2004 -- $22,500. The revolving
credit facility matures in February 2005. Loans under the Bank Facility bear
interest at the Company's option of (1) the bank's prime rate plus a margin
of from 1.00% to 1.75%, or (2) the eurodollar rate plus a margin of from
2.00% to 2.75%; both depending on leverage as defined. The margins applicable
to the bank's prime rate and/or the eurodollar rate loans are subject to
quarterly adjustment as defined in the agreement.
The Bank Facility includes terms and conditions which require the
maintenance of certain financial ratios and place certain limitations on
capital expenditures, investments, additional indebtedness, liens,
guarantees, and certain payments or distributions in respect of common stock
of the Company. Loans under the Bank Facility are secured by a first priority
security interest in all of the Company's assets. As of March 31, 1999, there
were no amounts outstanding under the revolving credit facility, and the
Company was in compliance with all covenants, terms and conditions of the
Bank Facility.
Note 4 -- Comprehensive Income
Effective January 1, 1998, the Company adopted SFAS No. 130, "Reporting
Comprehensive Income". This statement established standards for reporting and
disclosure of comprehensive income and its components. Comprehensive income
reflects the change in equity of a business enterprise during a period from
transactions and other events and circumstances from non-owner sources. For
the Company, comprehensive income primarily represents net income adjusted
for foreign currency translation adjustments. Comprehensive loss was $10,832
and $8,558 for the quarters ended March 31, 1999 and 1998, respectively.
Note 5 -- Reclassification
Beginning in 1999, the Company has chosen to reflect the results of its
free-to-guest business within the "other" components of revenues and direct
costs in the statements of operations. Accordingly, the statement of
operations for the three months ended March 31, 1998 includes these
reclassifications to conform to the 1999 presentation. These changes had no
impact on total revenues, direct costs or net loss for the period.
Note 6 -- Effect of Recently Issued Accounting Standards
In June 1998, the Financial Accounting Standards Board issued Statement
of Financial Accounting Standard ("SFAS") No. 133, "Accounting for Derivative
Instruments and Hedging Activities". SFAS No. 133 establishes accounting and
reporting standards requiring that every derivative instrument (including
certain derivative instruments embedded in other contracts) be recorded in
the balance sheet as either an asset or liability measured as its fair value.
The statement requires that changes in the derivative's fair value be
recognized currently in earnings unless specific hedge accounting criteria
are met. Special accounting for qualifying hedges allows a derivative's gains
and losses to offset related results on the hedged item in the income
statement and requires that a company must formally document, designate and
assess the effectiveness of transactions that receive hedge accounting. SFAS
No. 133 is effective for fiscal years beginning after June 15, 1999. The
Company has not yet quantified the impacts of SFAS No. 133 on its financial
statements and has not determined the timing of adoption. However, SFAS No.
133 could increase volatility in earnings and other comprehensive income.
March 31, 1999 Page 7
LodgeNet Entertainment Corporation Form 10-Q
ITEM 2 -- MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS
THE FOLLOWING DISCUSSION SHOULD BE READ IN CONJUNCTION WITH, AND IS
QUALIFIED IN ITS ENTIRETY BY REFERENCE TO, THE CONSOLIDATED FINANCIAL
STATEMENTS OF THE COMPANY, INCLUDING THE NOTES THERETO, APPEARING ELSEWHERE
HEREIN.
SPECIAL NOTE REGARDING FORWARD-LOOKING STATEMENTS -- CERTAIN STATEMENTS IN
THIS QUARTERLY REPORT ON FORM 10-Q CONSTITUTE "FORWARD-LOOKING STATEMENTS"
WITHIN THE MEANING OF THE SECURITIES ACT OF 1933, AS AMENDED, AND THE
SECURITIES EXCHANGE ACT OF 1934, AS AMENDED. WHEN USED IN THIS QUARTERLY
REPORT, THE WORDS "EXPECTS," "ANTICIPATES," "ESTIMATES," "BELIEVES," "NO
ASSURANCE," AND SIMILAR EXPRESSIONS, AND STATEMENTS WHICH ARE MADE IN THE
FUTURE TENSE, ARE INTENDED TO IDENTIFY SUCH FORWARD-LOOKING STATEMENTS. SUCH
FORWARD-LOOKING STATEMENTS INVOLVE KNOWN AND UNKNOWN RISKS, UNCERTAINTIES AND
OTHER FACTORS, WHICH MAY CAUSE THE COMPANY'S ACTUAL PERFORMANCE OR
ACHIEVEMENTS TO BE MATERIALLY DIFFERENT FROM ANY FUTURE RESULTS, PERFORMANCE
OR ACHIEVEMENTS EXPRESSED OR IMPLIED BY SUCH FORWARD-LOOKING STATEMENTS. IN
ADDITION TO THE RISKS AND UNCERTAINTIES DISCUSSED IN THIS QUARTERLY REPORT,
SUCH FACTORS INCLUDE, AMONG OTHERS, THE FOLLOWING: THE IMPACT OF COMPETITION
AND CHANGES TO THE COMPETITIVE ENVIRONMENT FOR THE COMPANY'S PRODUCTS AND
SERVICES, CHANGES IN TECHNOLOGY, RELIANCE ON STRATEGIC PARTNERS, UNCERTAINTY
OF LITIGATION, CHANGES IN GOVERNMENT REGULATION AND OTHER FACTORS DETAILED,
FROM TIME TO TIME, IN THE COMPANY'S FILINGS WITH THE SECURITIES AND EXCHANGE
COMMISSION. THESE FORWARD-LOOKING STATEMENTS SPEAK ONLY AS OF THE DATE OF
THIS QUARTERLY REPORT. THE COMPANY EXPRESSLY DISCLAIMS ANY OBLIGATION OR
UNDERTAKING TO RELEASE PUBLICLY ANY UPDATES OR REVISIONS TO ANY
FORWARD-LOOKING STATEMENTS CONTAINED HEREIN TO REFLECT ANY CHANGE IN THE
COMPANY'S EXPECTATIONS WITH REGARD THERETO OR ANY CHANGE IN EVENTS,
CONDITIONS OR CIRCUMSTANCES ON WHICH ANY SUCH STATEMENT IS BASED.
OVERVIEW
LodgeNet is a specialized communications company which provides video
on-demand, network-based video games, high speed internet access, cable
television programming and other interactive entertainment and information
services to the lodging industry utilizing its proprietary b-LAN-REGISTERED
TRADEMARK- open system architecture.
GUEST PAY SERVICES. Guest Pay services are purchased by guests on a
per-view or hourly basis and include Guest Scheduled-SM- on-demand movies and
network-based Nintendo-Registered Trademark- video games. Guest Pay packages
may also include additional services such as satellite-delivered basic and
premium cable television programming, and other interactive entertainment and
information services that are paid for by the hotel and provided to guests at
no charge. The growth that the Company has experienced has principally
resulted from its rapid expansion of Guest Pay services, which the Company
began installing in 1986. In May 1992, the Company introduced and began
installing its on-demand Guest Pay service. It has been the Company's
experience that rooms featuring the on-demand Guest Pay service generate
significantly more revenue and gross profit per room than comparable rooms
having only the scheduled format.
The Company's Guest Pay revenues depend on a number of factors,
including the number of rooms equipped with the Company's systems, Guest Pay
buy rates, hotel occupancy rates, hotel guest demographics, the popularity,
selection and pricing of the Company's program offerings and the length of
time programming is available to the Company prior to its release to the home
video and cable television markets. The primary direct costs of providing
Guest Pay services are (i) license fees paid to studios for non-exclusive
distribution rights to recently-released major motion pictures, (ii) nominal
one-time license fees paid for independent films, (iii) license fees for
video games and other services, and (iv) the commission retained by the
hotel. Guest Pay operating expenses include costs of system maintenance and
support, in-room marketing, programming delivery and distribution, data
retrieval, insurance and personal property taxes.
The Company provides video games and interactive multimedia
entertainment and information services including folio review, video
checkout, guest satisfaction survey, advertising and merchandising services
through its Guest Pay systems. In 1993, the Company entered into a seven-year
non-exclusive license agreement with Nintendo of America, Inc. ("Nintendo")
to provide hotels with a network-based Super Nintendo-Registered Trademark-
video game playing system. During 1998, the Company entered into a new,
ten-year non-exclusive license agreement with Nintendo to become the first
provider of Nintendo 64 ("N64-Registered Trademark-") video games to the
lodging industry. The company anticipates the rollout of the N64 game
technology to begin during the second quarter of 1999.
March 31, 1999 Page 8
LodgeNet Entertainment Corporation Form 10-Q
During the three months and twelve months ended March 31, 1999, the
Company installed its systems in the following number of rooms, net of
de-installations:
Three Months Twelve Months
Ended Ended
March 31, 1999 March 31, 1999
------------------ ------------------
Guest Pay rooms 18,870 82,072
------------------ ------------------
------------------ ------------------
Nintendo game system rooms 3,252 74,632
------------------ ------------------
------------------ ------------------
The room installations for the twelve months ended March 31, 1999
represent increases of 15.4% for Guest Pay and 15.7% for Nintendo, over the
room bases at March 31, 1998.
The Company's base of installed rooms was comprised as follows at March 31:
1998 1999
------------------------ ------------------------
Rooms % Rooms %
------------ -------- ------------ --------
Guest Pay Rooms:
Scheduled 24,476 4.6 12,867 2.1
On-demand 509,128 95.4 602,809 97.9
------------ -------- ------------ --------
533,604 100.0 615,676 100.0
------------ -------- ------------ --------
------------ -------- ------------ --------
Nintendo game system rooms 474,944 549,576
------------ ------------
------------ ------------
Total rooms served, representing rooms receiving one or more of the
Company's services, including rooms served by international licensees, were as
follows at March 31:
1998 1999
-------- --------
Total Rooms Served 636,960 719,670
-------- --------
-------- --------
FREE-TO-GUEST SERVICES. In addition to Guest Pay services, the Company
provides cable television programming for which the hotel, rather than its
guests, pays the charges. Free-to-guest services include the satellite
delivery of various programming channels through a satellite earth station,
which generally is owned or leased by the hotel. The hotel pays the Company a
fixed monthly charge per room for each programming channel provided. The
Company obtains its free-to-guest programming pursuant to multi-year
agreements with the programmers and pays a fixed monthly fee per room which
varies depending on incentive programs in effect from time to time from the
programming networks. Results from free-to-guest services are included in the
"other" components of revenues and direct costs in the statements of
operations.
RESIDENTIAL SERVICES. Effective November 30, 1998, the operations of
the Company's majority-owned subsidiary, ResNet Communications, LLC
("ResNet") were merged with two non-affiliated entities to form a new entity,
Global Interactive Communications Corporation ("GICC"). The Company has a 30%
equity interest in GICC. GICC's business consists of providing cable
television programming and telecommunications services to the multi-family
dwelling unit market. The Company will account for its investment in GICC
using the equity method of accounting for an investment. As a result of this
accounting treatment, and because the Company believes that there is a high
probability that GICC will operate at a loss for the foreseeable future as it
pursues its business plan, the Company expects to recognize continuing losses
in connection with its investment in GICC. These losses will be reflected as
"equity in losses of unconsolidated affiliates" in the Company's operating
statements.
Currently, there is no public market for the securities of GICC, and
there can be no assurance as to when, if at all, any such market may develop.
The financial and operating performance of GICC, the market acceptance for
its securities and general market conditions, among other factors, are not
subject to the Company's control and may each affect the value of the
Company's investment in and notes receivable from GICC. The Company has no
continuing obligation to make any additional investments into GICC.
March 31, 1999 Page 9
LodgeNet Entertainment Corporation Form 10-Q
DISCUSSION AND ANALYSIS OF RESULTS OF OPERATIONS
THREE MONTHS ENDED MARCH 31, 1998 AND 1999
REVENUE ANALYSIS
The Company's total revenue for the first quarter of 1999 increased 15.5%,
or $5.6 million, in comparison to the first quarter of 1998. The following table
sets forth the components of the Company's revenue (in thousands) for the
quarter ending March 31:
1998 1999
--------------------------- -----------------------------
Percent Percent
of Total of Total
Amount Revenue Amount Revenue
------------ ----------- ------------- -----------
Guest Pay $ 31,849 87.6 $ 38,969 92.9
Other 4,498 12.4 2,996 7.1
------------ ----------- ------------- -----------
Total $ 36,347 100.0 $ 41,965 100.0
------------ ----------- ------------- -----------
------------ ----------- ------------- -----------
GUEST PAY SERVICES. Guest Pay revenue increased 22.4%, or $7.1 million,
in the first quarter of 1999 in comparison to the same quarter of 1998. This
increase was attributable to a 15.5% increase in the average number of
installed Guest Pay rooms and a 5.6% increase in average monthly revenue per
room. The following table sets forth information in regard to average monthly
revenue per installed Guest Pay room for the quarter ending March 31:
1998 1999
----------- -----------
Average monthly revenue per room:
Movie revenue $ 17.29 $ 18.05
Video game and other service revenue 3.11 3.49
----------- -----------
Total per Guest Pay room $ 20.40 $ 21.54
----------- -----------
----------- -----------
Average movie revenue per room increased 4.4% in the first quarter of
1999 compared to the same quarter of 1998. This increase was due to higher
average movie prices, partially offset by lower hotel occupancy levels.
Average video game and other service revenue per room increased 12.2%
primarily as a result of the increase in the number of rooms with information
and other services installed, partially offset by a decrease in average
monthly video game revenue per room.
OTHER. Revenue from other sources includes revenue from (i)
free-to-guest services provided to hotels not receiving Guest Pay services,
(ii) international license arrangements, and (iii) sales of televisions,
system equipment, and service parts and labor. Additionally, in 1998, other
revenue includes revenue generated by ResNet. The decrease in the first
quarter of 1999 from the first quarter of 1998 of $1.5 million or 33.4%, is
primarily due to $1.2 million of revenue generated by ResNet in the first
quarter of 1998.
March 31, 1999 Page 10
LodgeNet Entertainment Corporation Form 10-Q
EXPENSE ANALYSIS
DIRECT COSTS. The following table sets forth information in regard to
the Company's direct costs (in thousands) and gross profit margin for the
quarter ending March 31:
1998 1999
----------- -----------
Direct costs:
Guest Pay $ 13,071 $ 15,850
Other 3,009 2,398
----------- -----------
$ 16,080 $ 18,248
----------- -----------
----------- -----------
Gross profit margin:
Guest Pay 59.0% 59.3%
Other 33.1% 20.0%
Composite 55.8% 56.5%
Guest Pay direct costs increased 21.3%, or $2.8 million, in the first
quarter of 1999 as compared to the year earlier quarter. Since Guest Pay
direct costs (primarily studio license fees, video game license fees and the
commission retained by the hotel) are primarily based on related revenue,
such direct costs tend to vary directly with revenue. As a percentage of
revenue, such costs decreased from 41.0% in the first quarter of 1998 to
40.7% in the current quarter, primarily due to a slight decrease in
commissions earned by the hotels.
Direct costs associated with other revenue decreased $612,000 or 20.3%
in the first quarter of 1999 from the year earlier quarter. This decrease is
primarily due to $593,000 of direct costs incurred by ResNet in the first
quarter of 1998. As a percentage of related revenues, direct costs increased
to 80.0% of other revenue in the current quarter versus 66.9% in the first
quarter of 1998. The resulting decrease in gross profit from 33.1% in the
first quarter of 1998 to 20.0% in the current quarter is due to the fact that
the ResNet business, which generally earned a higher margin than the other
sources of other revenue, is not included in the 1999 results due to the
merger transaction previously described.
The Company's overall gross profit increased 17.0%, or $3.5 million, to
$23.7 million in the first quarter of 1999 on a 15.5% increase in revenues in
comparison to the same period in the prior year. The Company's overall gross
profit margin increased to 56.5% in the current quarter from 55.8% in the
year earlier quarter.
OPERATING EXPENSES. The following table sets forth information in
regard to the Company's operating expenses for the quarter ending March 31
(dollar amounts in thousands):
1998 1999
--------------------------- ---------------------------
Percent Percent
of Total of Total
Amount Revenues Amount Revenues
------------ ----------- ----------- -----------
Operating expenses:
Guest Pay operations $ 6,137 16.9 $ 5,867 14.0
Selling, general and administrative 4,826 13.3 4,341 10.3
Depreciation and amortization 12,578 34.6 14,425 34.4
------------ ----------- ----------- -----------
Total operating expenses $ 23,541 64.8 $ 24,633 58.7
------------ ----------- ----------- -----------
------------ ----------- ----------- -----------
Guest Pay operations expenses consist of costs directly related to the
operation of systems at the hotel sites. Additionally, prior to the ResNet
merger, costs incurred to operate the ResNet systems were included in Guest
Pay operations. Such costs totaled $746,000 in the first quarter of 1998.
Excluding the expenses incurred to operate the systems at residential sites,
expenses related to Guest Pay operations increased 8.8%, or $476,000 in the
first quarter of 1999 compared to the year earlier quarter. This increase is
primarily attributable to the 15.5% increase in average
March 31, 1999 Page 11
LodgeNet Entertainment Corporation Form 10-Q
installed Guest Pay rooms in the first quarter of 1999 as compared to the
year earlier quarter, partially offset by lower average operating and service
expenses incurred on a per room basis. Per average installed Guest Pay room,
such expenses were $3.24 per month in the first quarter of 1999 as compared
to $3.45 per month in the first quarter of 1998.
Selling, general and administrative expenses decreased 10.0%, or
$485,000 in the first quarter of 1999 compared to the year earlier quarter.
The decrease is primarily due to the ResNet merger as $740,000 of selling,
general and administrative expenses were incurred by ResNet in the first
quarter of 1998. As a percentage of revenue, such expenses were 10.3% in the
current quarter as compared to 13.3% in the year earlier quarter.
Depreciation and amortization expenses increased 14.7% to $14.4 million
in the first quarter of 1999 from $12.6 million in the year earlier quarter.
This increase is attributable to the increases in the number of installed
Guest Pay rooms, associated software and other capitalized costs such as
service vans, equipment and computers that are related to the increased
number of rooms in service since the year-earlier quarter. This increase was
partially offset by the ResNet merger as ResNet depreciation and amortization
during the first quarter of 1998 was $803,000.
OPERATING LOSS. The Company's operating loss, as a result of the
factors previously described, decreased to $916,000 in the current quarter
from $3.3 million in the same quarter of 1998.
EQUITY IN LOSSES OF UNCONSOLIDATED AFFILIATES. The Company obtained
equity interests in two entities during 1998. The Company acquired a 10%
interest in Across Media Networks, LLC ("AMN"), a company engaged in the
creation and distribution of digitally produced on-screen content for
television and the Internet. The Company has applied the equity method of
accounting for this investment to reflect the fact that the Company has had
certain financing obligations to AMN. Losses of $2.2 million related to this
investment were recorded in the first quarter of 1999. Additionally, as
previously described, the merger of ResNet with two other entities effective
November 30, 1998 to form GICC resulted in the Company obtaining a 30% equity
interest in GICC. The Company's portion of GICC's 1999 first quarter loss was
$1.6 million.
INTEREST EXPENSE. Interest expense increased to $6.6 million in the
current quarter from $5.3 million in the comparable quarter of 1998 due to
increases in long-term debt to fund the Company's continuing expansion of its
business. Total debt increased from $206.0 million at March 31, 1998 to
$266.5 million at March 31, 1999. Average principal amount of long-term debt
outstanding during the quarter ended March 31, 1999 was approximately $267
million (at an average interest rate of approximately 10.5%) as compared to
an average principal amount outstanding of approximately $195 million (at an
average interest rate of approximately 10.5%) during the comparable period of
1998.
INTEREST INCOME. Interest income increased to $393,000 in the first
quarter of 1999 from $92,000 during the same period of 1998. This increase is
primarily due to interest earned on loans to unconsolidated affiliates.
NET LOSS. For the reasons previously discussed, the Company's net loss
increased to $11.0 million in the first quarter of 1999 from a net loss of
$8.6 million in the same quarter a year earlier.
EBITDA. As a result of increasing revenues from Guest Pay services, and
the other factors previously described, EBITDA (defined as "earnings before
interest, income taxes, depreciation and amortization") excluding equity in
losses of unconsolidated affiliates increased 45.2% to $13.5 million in the
first quarter of 1999 as compared to $9.3 million in the first quarter of
1998. EBITDA as a percentage of total revenues was 32.2% in the current
quarter as compared to 25.6% in the same quarter of 1998. EBITDA is included
herein because it is a widely accepted financial indicator used by certain
investors and financial analysts to assess and compare companies on the basis
of operating performance. EBITDA is not intended to represent an alternative
to net income (as determined in accordance with generally accepted accounting
principles) as a measure of performance, but management believes that it does
provide an important additional perspective on the Company's operating
results and the Company's ability to service its long-term debt and to fund
the Company's continuing growth.
March 31, 1999 Page 12
LodgeNet Entertainment Corporation Form 10-Q
SEASONALITY
The Company's quarterly operating results are subject to fluctuation
depending upon hotel occupancy rates and other factors. Typically, occupancy
rates are higher during the second and third calendar quarters due to
seasonal travel patterns.
LIQUIDITY AND CAPITAL RESOURCES
Historically, the growth of the Company's business has required
substantial amounts of capital. The Company has incurred operating and net
losses due in large part to the depreciation, amortization and interest
expenses related to the capital required to expand its lodging and
residential businesses. Historically, cash flow from operations has not been
sufficient to fund the cost of expanding the Company's business and to
service existing indebtedness. During 1998, capital expenditures were $69.7
million (of which $14.2 million was incurred by ResNet) and net cash provided
by operating activities was $13.2 (after the reduction of net cash used in
operating activities of $5.0 million by ResNet). During the first quarter of
1999, capital expenditures were approximately $13.2 million as compared to
$18.8 million in the first quarter of 1998, and net cash provided by
operating activities was $17.4 million as compared to $.5 million in the same
period of 1998.
Depending on the rate of growth of its lodging business and other
factors, the Company expects to incur capital expenditures of between
approximately $40 to $50 million during the remainder of 1999. In addition,
the Company's cash requirements during 1999 and 2000 are expected to include
(i) payments to OCC in connection with the settlement of the litigation
between the Company and OCC in equal amounts of $5.85 million on each of July
15, 1999 and July 15, 2000 pursuant to the terms of the multiple cross
licenses and (ii) deferred purchase payments of up to $1 million in each of
1999 and 2000 in connection with the Company's acquisition of Connect Group
Corporation. The foregoing statements regarding capital expenditures and cash
requirements are forward-looking statements and there can be no assurance in
this regard. The actual amount and timing of the Company's capital
expenditures will vary (and such variations could be material) depending upon
the number of new contracts for services entered into by the Company, the
costs of installations and other factors.
On February 25, 1999, the Company amended and restated its existing bank
credit facility. This amended facility (the "Bank Facility") consists of a
$150 million secured credit facility which combines a $75 million term loan
(the "Term Loan") and a $75 million revolving loan facility (the "Revolving
Loan"). Proceeds under the Term Loan were used to repay amounts outstanding
under the revolving loan facility that existed prior to the amendment and
restatement. Minimum required prepayments of borrowings under the Term Loan
for the respective years are (in thousands of dollars): 2001 -- $15,000; 2002
- --$18,750; 2003 -- $18,750; 2004 -- $22,500. The Bank Facility includes
covenants which require the maintenance of certain financial ratios and which
impose certain limitations on such matters as the incurrence of additional
indebtedness and payments in respect of common stock of the Company, among
others. As of March 31, 1999, the Company was in compliance with all such
covenants.
As previously described, effective November 30, 1998 the Company
contributed its interest in the ResNet business to GICC. The Company has no
continuing obligation to fund any of GICC's operating and/or investing
activities. During 1998, the Company provided $19.3 million to fund ResNet's
operating and investing activities, all of which funding occurred prior to
November 30, 1998.
The Company believes that its operating cash flows and borrowings
available under its revolving credit facility will be sufficient to fund the
Company's future growth as contemplated under its current business plan,
depending on the rate of the Company's growth and other factors. However, if
the Company's plans or assumptions change, if its assumptions prove to be
inaccurate or if the Company experiences unanticipated costs or competitive
pressures, the Company may be required to seek additional capital. There can
be no assurance that the Company will be able to obtain financing, if
additional long-term financing should be required, or, if such financing is
available, that the Company will be able to obtain it on acceptable terms.
Failure to obtain additional financing, if needed, could result in the delay
or abandonment of some or all of the Company's expansion plans.
March 31, 1999 Page 13
LodgeNet Entertainment Corporation Form 10-Q
YEAR 2000 INFORMATION
The Company has engaged in a comprehensive review of its internal
computer systems and software and external business relationships in regard
to Year 2000 issues.
STATE OF READINESS. The Company has a project team comprised of key
members from cross-organization departments. The team's objectives are to
gather information and facilitate research on Year 2000 issues that could
affect the Company, and to take necessary actions to eliminate or minimize
the impact of such issues. Internally the Company has nearly completed its
efforts to identify the computer hardware and software that is used both at
its in-house facilities as well as at its hotel properties. Research and
testing of these systems for Year 2000 compliance is in progress. The Company
expects to substantially complete its research and testing of internal
computer hardware and software by the end of the second quarter of 1999.
Correction or replacement of hardware and software containing Year 2000
issues is in progress and is estimated for completion by the end of the third
quarter of 1999.
Externally, the Company is working to identify third party business
relationships that are impacted by the Year 2000 issue. Research and review
of these relationships is in progress including contacting the third parties
to solicit information and assurances relating to potential Year 2000 issues
and reviewing responses. The Company expects to complete its review of third
party relationships by the end of the second quarter of 1999, although no
assurance can be given as to the Year 2000 remediation of third parties.
COSTS ASSOCIATED WITH YEAR 2000. Incremental costs are expected to be
comprised primarily of costs to purchase software upgrades and hardware.
Additionally, external consulting, programming and training costs may be
incurred. Estimated costs of Year 2000 compliance are not fully determined at
this time. The Company expects to incur less than $500,000 in aggregate
out-of-pocket costs in 1998 and 1999 to complete its Year 2000 compliance
program, excluding the costs of internal staffing. As of March 31, 1999 the
Company has incurred out-of-pocket costs totaling approximately $250,000
toward Year 2000 compliance efforts. Such funds have been provided from the
Company's bank credit facility. Although the Company intends to develop and
implement, if necessary, appropriate contingency plans to mitigate to the
extent possible the effects of any Year 2000 noncompliance, such plans may
not be adequate and the cost of Year 2000 compliance may be greater than
$500,000.
RISKS ASSOCIATED WITH YEAR 2000 ISSUES. The Company is highly dependent
upon its own information technology systems and those of its suppliers and
customers. The Company's or a third party's failure to correct a material
Year 2000 problem could result in a failure of or interruption in the
Company's business activities and operations. Such interruptions and failures
could materially and adversely affect the Company's results of operation,
liquidity and financial condition. The Company's Year 2000 project is
expected to reduce significantly the Company's level of uncertainty and the
possibility of significant or long-lasting interruptions of the Company's
business operations; however, the Company believes that it is impossible to
predict all of the areas in which material problems may arise.
CONTINGENCY PLANS. The Company has not yet completed specific
contingency plans for Year 2000 issues. The Company is in the process of
identifying the most reasonably likely worst-case scenarios, so that it may
attempt to secure alternate vendors and service providers for these functions
as well as to develop alternative systems which could be used to process data.
While the Company anticipates achieving Year 2000 compliance in a timely
manner, there can be no assurance that all processes will be compliant, that
there will be no significant delay or loss of revenues, or that no material
supply sources will be interrupted. However, the Company believes that its
planning and action efforts will help reduce any loss or disruption.
March 31, 1999 Page 14
LodgeNet Entertainment Corporation Form 10-Q
ITEM 3 -- QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
The Company is exposed to various market risks, including potential
losses resulting from adverse changes in interest rates and foreign currency
exchange rates. The Company does not enter into derivatives or other
financial instruments for trading or speculative purposes.
INTEREST. The Company manages its interest rate risk by balancing its
amount of fixed and variable rate debt. For fixed rate debt, interest rate
changes affect the fair market value but do not impact earnings or cash
flows. Conversely, for variable rate debt, interest rate changes generally do
not affect the fair market value but do impact future earnings and cash
flows, assuming other factors are held constant. At March 31, 1999, the
Company had fixed rate debt of $191.5 million and variable rate debt of $75
million. Assuming other variables remain constant (such as debt levels), a
one percentage point increase in interest rates would decrease the unrealized
fair market value of the fixed rate debt by an estimated $16.8 million. The
impact on earnings and cash flow for the next year resulting from a one
percentage point increase in interest rates would be approximately $750,000,
assuming other variables remain constant.
FOREIGN CURRENCY TRANSACTIONS. A minor portion of the Company's
revenues are derived from the sale of Guest Pay services in Canada. The
results of operations and financial position of the Company's operations in
Canada are measured in Canadian dollars and translated into U.S. dollars. The
effects of foreign currency fluctuations in Canada are somewhat mitigated by
the fact that expenses are generally incurred in Canadian dollars. The
reported income of the Company's Canadian subsidiary will be higher or lower
depending on a weakening or strengthening of the U.S. dollar against the
Canadian dollar. In addition, a minor portion of the Company's assets are
based in Canada and are translated into U.S. dollars at foreign currency
exchange rates in effect as of the end of each period, with the impact of
such translation reflected within the Company's consolidated stockholders'
equity. Accordingly, the Company's consolidated stockholders' equity will
fluctuate depending on the weakening or strengthening of the U.S. dollar
against the Canadian dollar. The Company manages its potential adverse
currency fluctuation risk by conducting the majority of its Canadian
operations in Canadian dollars.
March 31, 1999 Page 15
LodgeNet Entertainment Corporation Form 10-Q
PART II -- OTHER INFORMATION
ITEM 1 -- LEGAL PROCEEDINGS
The Company is subject to litigation arising in the ordinary course of
business. As of the date hereof, the Company believes the resolution of such
litigation will not have a material adverse effect upon the Company's
financial condition or results of operations.
ITEM 2 -- CHANGES IN SECURITIES AND USE OF PROCEEDS
Not applicable.
ITEM 3 -- DEFAULTS UPON SENIOR SECURITIES
Not applicable.
ITEM 4 -- SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
Not applicable.
ITEM 5 -- OTHER INFORMATION
Not applicable.
ITEM 6 -- EXHIBITS AND REPORTS ON FORM 8-K
a. EXHIBITS:
None.
b. REPORTS ON FORM 8-K:
The Company filed no Reports on Form 8-K during the quarter ended
March 31, 1999.
March 31, 1999 Page 16
LodgeNet Entertainment Corporation Form 10-Q
LODGENET ENTERTAINMENT CORPORATION
SIGNATURES
Pursuant to the requirements of the Securities and Exchange Act of 1934,
the Registrant has duly caused this report to be signed on its behalf by the
undersigned thereunto duly authorized.
LODGENET ENTERTAINMENT CORPORATION
------------------------------------------------
(Registrant)
Date: May 3, 1999 /s/ SCOTT C. PETERSEN
------------------------------------------------
Scott C. Petersen
President and Chief Executive Officer
(Principal Executive Officer)
Date: May 3, 1999 /s/ JEFFREY T. WEISNER
------------------------------------------------
Jeffrey T. Weisner
Senior Vice President, Chief Financial Officer
(Principal Financial Officer)
Date: May 3, 1999 /s/ RONALD W. PIERCE
------------------------------------------------
Ronald W. Pierce
Vice President, Corporate Controller
(Principal Accounting Officer)
March 31, 1999 Page 17