READING INTERNATIONAL INC - Quarter Report: 2013 September (Form 10-Q)

UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

Washington, D.C.  20549

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FORM 10-Q

(Mark One)

þQUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(D) OF THE SECURITIES EXCHANGE ACT OF 1934

For the quarterly period ended:  September 30, 2013

OR

 

¨TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(D) OF THE SECURITIES EXCHANGE ACT OF 1934

For the transition period from ___________ to ___________

 

Commission file number 1-8625

READING INTERNATIONAL, INC.

(Exact name of Registrant as specified in its charter)

 

 

Registrant’s telephone number, including area code: (213) 235-2240

 

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 twelve 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  þ  No  ¨

Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (§ 232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files).  Yes þ No ¨

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, or a non-accelerated filer.  See definition of “accelerated filer and large accelerated filer” in Rule 12b-2 of the Exchange Act.  (Check one):  Large accelerated filer ¨  Accelerated filer þ  Non-accelerated filer ¨

Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act).  Yes  ¨  No  þ

Indicate the number of shares outstanding of each of the issuer’s classes of common stock, as of the latest practicable date.  As of November 6, 2013, there were 21,890,029 shares of Class A Nonvoting Common Stock, $0.01 par value per share and 1,495,490 shares of Class B Voting Common Stock, $0.01 par value per share outstanding.

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READING INTERNATIONAL, INC. AND SUBSIDIARIES

 

TABLE OF CONTENTS

 

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PART 1 - Financial Information

Item 1 - Financial Statements

Reading International, Inc. and Subsidiaries

Condensed Consolidated Balance Sheets (Unaudited)

(U.S. dollars in thousands)

See accompanying notes to consolidated financial statements.

 

 

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Reading International, Inc. and Subsidiaries

Condensed Consolidated Statements of Income (Unaudited)

(U.S. dollars in thousands, except per share amounts)

 

See accompanying notes to consolidated financial statements.

 

 

 

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Reading International, Inc. and Subsidiaries

Condensed Consolidated Statements of Comprehensive Income (Loss) (Unaudited)

(U.S. dollars in thousands)

 

 

See accompanying notes to consolidated financial statements.

 

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Reading International, Inc. and Subsidiaries

Condensed Consolidated Statements of Cash Flows (Unaudited)

(U.S. dollars in thousands)

 

See accompanying notes to consolidated financial statements.

 

 

 

 

 

 

 

 

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Reading International, Inc. and Subsidiaries

Notes to Condensed Consolidated Financial Statements (Unaudited)

For the Nine Months Ended September 30, 2013

 

Note 1 – Basis of Presentation

Reading International, Inc., a Nevada corporation (“RDI” and collectively with our consolidated subsidiaries and corporate predecessors, the “Company,” “Reading” and “we,” “us,” or “our”), was founded in 1983 as a Delaware corporation and reincorporated in 1999 in Nevada.  Our businesses consist primarily of:

The accompanying unaudited condensed consolidated financial statements were prepared in accordance with accounting principles generally accepted in the United States of America (“US GAAP”) for interim reporting and with the instructions to Form 10-Q and Rule 10-01 of Regulation S-X of the Securities and Exchange Commission (“SEC”) for interim reporting.  As such, certain information and disclosures typically required by US GAAP for complete financial statements have been condensed or omitted.  The financial information presented in this quarterly report on Form 10-Q for the period ended September 30, 2013 (the “September Report”) should be read in conjunction with our Annual Report filed on Form 10-K for the year ended December 31, 2012 (our “2012 Annual Report”) which contains the latest audited financial statements and related notes.  The periods presented in this document are the three (“2013 Quarter”) and nine (“2013 Nine Months”) months ended September 30, 2013 and the three (“2012 Quarter”) and nine (“2012 Nine Months”) months ended September 30, 2012.

In the opinion of management, all adjustments of a normal recurring nature considered necessary to present fairly in all material respects our financial position as of September 30, 2013 and the results of our operations and cash flows for the three and nine months ended September 30, 2013 and 2012 have been made.  The results of operations for the three and nine months ended September 30, 2013 are not necessarily indicative of the results of operations to be expected for the entire year.

Expiring Debt and Liquidity Requirements

Expiring Long-Term Debt

As indicated in our 2012 Annual Report, the term of our Australian NAB Corporate Term Loan matures on June 30, 2014.  Accordingly, the outstanding balance of this debt of $61.4 million (AUS$65.8 million) is classified as current on our September 30, 2013 balance sheet.  The Australian NAB Corporate Term Loan is secured by the majority of our theater and entertainment-themed retail center (“ETRC”) properties in Australia. 

Additionally, the term of our US Cinema 1, 2, 3 Term Loan matures on June 27, 2014.  Accordingly, the outstanding balance of this debt of $15.0 million is classified as current on our September 30, 2013 balance sheet.

We are currently in the process of renegotiating these loans with our current lenders while also seeking possible replacement loans with other lenders.  While no assurances can be given that we will be successful, we currently anticipate that these loans will either be extended or replaced prior to their maturities.

 

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Liberty Theatre Term Loans

On May 29, 2013, we replaced our Liberty Theater Term Loan with a loan securitized by our Orpheum and Minetta Lane theaters with a note balance of $7.5 million.  For more details on this new loan, see Note 11 – Notes Payable.

Tax Settlement Liability

As indicated in our 2012 Annual Report, in accordance with the agreement between the U.S. Internal Revenue Service and our subsidiary, Craig Corporation, it is obligated to pay $290,000 per month, $3.5 million per year, in settlement of its tax liability for the tax year ended June 30, 1997.

For the abovementioned liabilities, we believe that we have the required liquidity to meet the obligations either through the extension or replacement of maturing debt or the generation of cash from our operating activities.  Together with our $37.8 million of cash and cash equivalents, we expect to meet our anticipated short-term working capital requirements for the next twelve months.

Marketable Securities

We had investments in marketable securities of $57,000 and $55,000 at September 30, 2013 and December 31, 2012, respectively.  We account for these investments as available for sale investments.  We assess our investment in marketable securities for other-than-temporary impairments in accordance with Financial Accounting Standards Board (“FASB”) Accounting Standards Codification (“ASC”) 320-10 for each applicable reporting period.  These investments have a cumulative gain of $11,000 included in accumulated other comprehensive income at September 30, 2013.  For the three and nine months ended September 30, 2013, our net unrealized gain (loss) on marketable securities was ($2,000) and $2,000, respectively.  For the three and nine months ended September 30, 2012, our net unrealized gain (loss) on marketable securities was $3,000 and ($4,000), respectively.  During the nine months ended September 30, 2012, we sold $3.0 million of our marketable securities with a realized gain of $109,000.  During the nine months ended September 30, 2013, we did not buy or sell any marketable securities.

Deferred Leasing Costs

We amortize direct costs incurred in connection with obtaining tenants for our properties over the respective term of the lease on a straight-line basis.

Deferred Financing Costs

We amortize direct costs incurred in connection with obtaining financing over the term of the loan using the effective interest method, or the straight-line method, if the result is not materially different.  In addition, interest on loans with increasing interest rates and scheduled principal pre-payments, is also recognized using the effective interest method.

Accounting Pronouncements Adopted During 2013

No new pronouncements were adopted during the nine months ended September 30, 2013.

New Accounting Pronouncements

In July 2013, the FASB issued ASU 2013-11, Presentation of an Unrecognized Tax Benefit When a Net Operating Loss Carryforward, a Similar Tax Loss, or a Tax Credit Carryforward Exists ("ASU 2013-11"). ASU 2013-11 is effective for the first interim or annual period beginning on or after December 15, 2013 with early adoption permitted. ASU 2013-11 amends ASC Topic 740, Income Taxes, to provide guidance and reduce diversity in practice on the financial statement presentation of an unrecognized tax benefit when a net operating loss carryforward, a similar tax loss, or a tax credit carryforward exists. We do not believe that the application of this standard will impact our company.

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Note 2 – Equity and Stock Based Compensation

Stock-Based Compensation

During the nine months ended September 30, 2013 and 2012, we issued 217,890 and 155,925, respectively, of Class A Nonvoting shares to an executive employee associated with the vesting of his prior years’ stock grants.  During the three and nine months ended September 30, 2013, we accrued $188,000 and $564,000, respectively, in compensation expense associated with the vesting of executive employee stock grants. During the three and nine months ended September 30, 2012, we accrued $238,000 and $714,000, respectively, in compensation expense associated with the vesting of executive employee stock grants.

Employee/Director Stock Option Plan

We have a long-term incentive stock option plan that provides for the grant to eligible employees, directors, and consultants of incentive or nonstatutory options to purchase shares of our Class A Nonvoting Common Stock and Class B Voting Common Stock.  Currently we issue options under our 2010 Stock Incentive Plan. 

 

When the Company’s tax deduction from an option exercise exceeds the compensation cost resulting from the option, a tax benefit is created.  FASB ASC 718-20 relating to Stock-Based Compensation (“FASB ASC 718-20”), requires that excess tax benefits related to stock option exercises be reflected as financing cash inflows instead of operating cash inflows.  For the three and nine months ended September 30, 2013 and 2012, there was no impact to the unaudited condensed consolidated statement of cash flows because there were no recognized tax benefits from stock option exercises during these periods.

 

FASB ASC 718-20 requires companies to estimate forfeitures.  Based on our historical experience and the relative market price to strike price of the options, we do not currently estimate any forfeitures of vested or unvested options.

 

In accordance with FASB ASC 718-20, we estimate the fair value of our options using the Black-Scholes option-pricing model, which takes into account assumptions such as the dividend yield, the risk-free interest rate, the expected stock price volatility, and the expected life of the options.  As we intend to retain all earnings, we exclude the dividend yield from the calculation.  We expense the estimated grant date fair values of options issued on a straight-line basis over the vesting period.

 

For the 50,000 and 90,000 options granted during the nine months ended September 30, 2013 and 2012, respectively, we estimated the fair value of these options at the date of grant using a Black-Scholes option-pricing model with the following weighted average assumptions: 

 

 

 

Based on the above calculation and prior years’ assumptions, and, in accordance with the FASB ASC 718-20, we recorded compensation expense for the total estimated grant date fair value of $18,000 and $112,000 for the three and nine months ended September 30, 2013, respectively, and $27,000 and $197,000 for the three and nine months ended September 30, 2012, respectively.  At September 30, 2013,  

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the total unrecognized estimated compensation cost related to non-vested stock options granted was $223,000, which we expect to recognize over a weighted average vesting period of 2.04 years.  62,500 options were exercised during the nine months ended September 30, 2013 having an intrinsic value of $132,000 for which we received $249,000 of cash.   Additionally, 75,000 options were exercised during the nine months ended September 30, 2013 having an intrinsic value of $124,000 for which we did not receive any cash but the employee elected to exchange 53,136 personally owned shares of the company at a market price of $5.66 per share for the 75,000 shares based on an exercise price of $4.01 for the related options.  95,000 options were exercised during the nine months ended September 30, 2012 having an intrinsic value of $136,000 for which we received $308,000 of cash.  Additionally, 41,000 options were exercised during the nine months ended September 30, 2012 having a realized value of $103,000 for which we did not receive any cash but the consultant elected to receive the net incremental number of in-the-money shares of 15,822 based on an exercise price of $4.01 and a market price of $6.53.  The intrinsic, unrealized value of all options outstanding, vested and expected to vest, at September 30, 2013 was $417,000 of which 87.2% are currently exercisable.

 

Pursuant to both our 1999 Stock Option Plan and our 2010 Stock Incentive Plan, all stock options expire within ten years of their grant date.  The aggregate total number of shares of Class A Nonvoting Common Stock and Class B Voting Common Stock authorized for issuance under our 2010 Stock Incentive Plan is 1,250,000.  At the discretion of our Compensation and Stock Options Committee, the vesting period of stock options is usually between zero and four years.

 

We had the following stock options outstanding and exercisable as of September 30, 2013 and December 31, 2012:

 

The weighted average remaining contractual life of all options outstanding, vested, and expected to vest at September 30, 2013 and December 31, 2012 was approximately 4.99 and 5.32 years, respectively.  The weighted average remaining contractual life of the exercisable options outstanding at September 30, 2013 and December 31, 2012 was approximately 3.77 and 4.28 years, respectively.

 

Note 3 – Business Segments

We organize our operations into two reportable business segments within the meaning of FASB ASC 280-10 - Segment Reporting.  Our reportable segments are (1) cinema exhibition and (2) real estate.  The cinema exhibition segment is engaged in the development, ownership, and operation of multiplex cinemas.  The real estate segment is engaged in the development, ownership, and operation of commercial properties.  Incident to our real estate operations we have acquired, and continue to hold, raw land in urban and suburban centers in Australia, New Zealand, and the United States.

The tables below summarize the results of operations for each of our principal business segments for the three and nine months ended September 30, 2013 and 2012, respectively.  Operating expense

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includes costs associated with the day-to-day operations of the cinemas and the management of rental properties including our live theater assets (dollars in thousands):

 

 

 

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Note 4 – Operations in Foreign Currency

We have significant assets in Australia and New Zealand.  To the extent possible, we conduct our Australian and New Zealand operations on a self-funding basis.  The carrying value of our Australian and New Zealand assets and liabilities fluctuate due to changes in the exchange rates between the U.S. dollar and the functional currency of Australia (Australian dollar) and New Zealand (New Zealand dollar).  We have no derivative financial instruments to hedge against the risk of foreign currency exposure.

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Presented in the table below are the currency exchange rates for Australia and New Zealand as of September 30, 2013 and December 31, 2012:

 

 

Note 5 – Earnings (Loss) Per Share

 

Basic earnings (loss) per share is computed by dividing the net income (loss) attributable to Reading International, Inc. common shareholders by the weighted average number of common shares outstanding during the period.  Diluted earnings (loss) per share is computed by dividing the net income (loss) attributable to Reading International, Inc. common shareholders by the weighted average number of common shares outstanding during the period after giving effect to all potentially dilutive common shares that would have been outstanding if the dilutive common shares had been issued.  Stock options and non-vested stock awards give rise to potentially dilutive common shares.  In accordance with FASB ASC 260-10 - Earnings Per Share, these shares are included in the diluted earnings per share calculation under the treasury stock method.  The following is a calculation of earnings (loss) per share (dollars in thousands, except share data):

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For the three and nine months ended September 30, 2013, the weighted average common stock – diluted included 133,992 of common stock compensation and in-the-money incremental stock options and for the three and nine months ended September 30, 2012, the weighted average common stock – diluted included 222,040 of common stock compensation and in-the-money incremental stock options.  In addition, 729,865 of out-of-the-money stock options were excluded from the computation of diluted earnings (loss) per share for the three and nine months ended September 30, 2013, and 682,827 of out-of-the-money stock options were excluded from the computation of diluted earnings (loss) per share for the three and nine months ended September 30, 2012.

 

Note 6 – Property and Equipment

 

Acquisitions

 

Coachella, California Land Acquisition

 

On January 10, 2012, Shadow View Land and Farming, LLC, a limited liability company owned by our Company, acquired a 202-acre property, zoned for the development of up to 843 single-family residential units, located in the City of Coachella, California.  The property was acquired at a foreclosure auction for $5.5 million which currently has a net carrying value of $4.0 million.  The property was acquired as a long-term investment in developable land. Half of the funds used to acquire the land were provided by Mr. James J. Cotter, our Chairman, Chief Executive Officer and controlling shareholder.  Upon the approval of our Conflicts Committee, these funds were converted on January 18, 2012 into a 50% interest in Shadow View Land and Farming, LLC.  We are the managing member of this company.

 

Disposals

 

Indooroopilly Sale

 

On November 20, 2012, we sold our Indooroopilly property for $12.4 million (AUS$12.0 million).  This property’s operational results are included in income (loss) from discontinued operations on our Condensed Consolidated Statements of Operations for the three and nine months ended September 30, 2012. The condensed statement of operations for Indooroopilly is as follows (dollars in thousands):

 

 

 

Taringa Sale

On February 21, 2012, we sold our three properties in the Taringa area of Brisbane, Australia consisting of approximately 1.1 acres for $1.9 million (AUS$1.8 million).

 

Property Held for Sale – Moonee Ponds

 

In May 2013, we announced our intent to sell and began actively marketing our 3.3-acre Moonee Pond property in Australia.  The current carrying value of this property on our books is $11.6 million (AUS$12.4 million) which has been classified as land held for sale on our September 30, 2013 condensed consolidated balance sheet.  The operations of this property were not material and thus not separately presented as discontinued operations.  On October 15, 2013, we entered into a definitive purchase and sale agreement to sell this property for a sale price of AUS$23.0 million payable in full on April 16, 2015.  See Note 18 – Subsequent Events.

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Operating Property

 

As of September 30, 2013 and December 31, 2012, property associated with our operating activities is summarized as follows (dollars in thousands):

 

Depreciation expense for property and equipment was $3.2 million and $10.4 million for the three and nine months ended September 30, 2013, respectively, and $3.6 million and $11.0 million for the three and nine months ended September 30, 2012, respectively.

 

Casualty Loss – Wellington, New Zealand Parking Structure

 

On July 21, 2013, Wellington, New Zealand experienced a strong earthquake that damaged our parking structure adjacent to our Courtenay Central shopping center.  The parking structure has been closed pending repairs to the structure.  We estimate the cost to repair the structure will be approximately $1.6 million (NZ$2.0 million) of which our earthquake insurance will cover approximately $944,000 (NZ$1.2 million) after our $710,000 (NZ$844,000) insurance deductable.  For the three and nine months ended September 30, 2013, we recorded a casualty loss of $257,000 (NZ$315,000) based on the associated net book value of the property as an other income (expense) and a $944,000 (NZ$1.2 million) insurance receivable in our current receivables at September 30, 2013.   Our reduction in operating income will also be offset somewhat by our business interruption insurance subject to the relevant deductible.

 

Investment and Development Property

 

As of September 30, 2013 and December 31, 2012, our investment and development property is summarized as follows (dollars in thousands):

 

At the beginning of 2010, we curtailed the development activities of our properties under development and are not currently capitalizing interest expense.  As a result, we did not capitalize any interest during the three and nine months ended September 30, 2013 or 2012.    

 

 

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Note 7 – Investments in Unconsolidated Joint Ventures and Entities

Our investments in unconsolidated joint ventures and entities are accounted for under the equity method of accounting except for Rialto Distribution, which is accounted for as a cost method investment, and, as of September 30, 2013 and December 31, 2012, included the following (dollars in thousands):

 

For the three and nine months ended September 30, 2013 and 2012, we recorded our share of equity earnings from our investments in unconsolidated joint ventures and entities as follows (dollars in thousands):

 

 

Note 8 – Goodwill and Intangible Assets

 

In accordance with FASB ASC 350-20-35, Goodwill - Subsequent Measurement and Impairment, we perform an annual impairment review in the fourth quarter of our goodwill and other intangible assets on a reporting unit basis, or earlier if changes in circumstances indicate an asset may be impaired.  No such circumstances existed during the 2013 Quarter.  As of September 30, 2013 and December 31, 2012, we had goodwill consisting of the following (dollars in thousands):

 

 

We have intangible assets other than goodwill that are subject to amortization, which we amortize over various periods.  We amortize our beneficial leases over the lease period, the longest of which is 30 years; our trade name using an accelerated amortization method over its estimated useful life of 45 years; and our other intangible assets over 10 years.  For the three and nine months ended September 30, 2013, the amortization expense of intangibles totaled $620,000 and $1.7 million, respectively, and, for the three and nine months ended September 30, 2012, the amortization expense of intangibles totaled $638,000 and $1.8 million, respectively.  The accumulated amortization of intangibles includes $777,000 and $817,000 of the amortization of acquired leases which are recorded in operating expense for the nine months ended September 30, 2013 and 2012, respectively.

 

Intangible assets subject to amortization consist of the following (dollars in thousands):

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Note 9 – Prepaid and Other Assets

 

Prepaid and other assets are summarized as follows (dollars in thousands):

 

 

 

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Note 10 – Income Tax

 

The provision for income taxes is different from the amount computed by applying U.S. statutory rates to consolidated losses before taxes.  The significant reason for these differences is as follows (dollars in thousands):

 

 

Pursuant to FASB ASC 740-10 – Income Taxes (“FASB ASC 740-10”), a provision should be made for the tax effect of earnings of foreign subsidiaries that are not permanently invested outside the United States.  Our intent is that earnings of our foreign subsidiaries are not permanently invested outside the United States.  Current earnings were available for distribution in the Reading Australia and Reading New Zealand consolidated group of subsidiaries as of September 30, 2013.  We have provided $0.4 million in withholding tax expense in relation to those earnings. We believe the U.S. tax impact of a dividend from our Australian and New Zealand subsidiaries, net of loss carry forward and potential foreign tax credits, would not have a material effect on the tax provision as of September 30, 2013.

 

Deferred income taxes reflect the “temporary differences” between the financial statement carrying amounts of assets and liabilities for financial reporting purposes and the amounts used for income tax purposes, adjusted by the relevant tax rate.  In accordance with FASB ASC 740-10, we record net deferred tax assets to the extent we believe these assets will more likely than not be realized.  In making such determination, we consider all available positive and negative evidence, including scheduled reversals of deferred tax assets and liabilities, projected future taxable income, tax planning strategies, and recent financial performance.  FASB ASC 740-10 presumes that a valuation allowance is required when there is substantial negative evidence about realization of deferred tax assets, such as a pattern of losses in recent years, coupled with facts that suggest such losses may continue. 

 

We have accrued $21.7 million in total tax liabilities as of September 30, 2013, of which $13.7 million has been classified as taxes payable – current and $8.0 million have been classified as taxes payable – long-term.  As part of current tax liabilities, we have accrued $3.5 million in connection with the negotiated Tax Court judgment, dated January 6, 2011, implementing our agreement with the IRS as to the final disposition of the 1996 tax litigation matter.  We believe that the $21.7 million represents an adequate provision for our income and other tax exposures, including income tax contingencies related to foreign withholding taxes.

 

In accordance with FASB ASC 740-10-25 – Income Taxes - Uncertain Tax Positions (“FASB ASC 740-10-25”), we record interest and penalties related to income tax matters as part of income tax expense.

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The following table is a summary of the activity related to unrecognized tax benefits, excluding interest and penalties, for the periods ending September 30, 2013 and December 31, 2012, and December 31, 2011 (dollars in thousands):

 

For the three months ended September 30, 2013, we recorded a change of approximately $0.1 million to our gross unrecognized tax benefits.  The net tax balance is approximately $2.4 million, of which $1.3 million would impact the effective rate if recognized.

 

It is difficult to predict the timing and resolution of uncertain tax positions.  Based upon the Company’s assessment of many factors, including past experience and judgments about future events, we estimate that within the next 12 months the reserve for uncertain tax positions will increase within a range of $0.9 million to $1.8 million.  The reasons for such changes include but are not limited to tax positions expected to be taken during the next twelve months, reevaluation of current uncertain tax positions, expiring statutes of limitations, and interest related to the “Tax Audit/Litigation” settlement which occurred January 6, 2011.

 

Our company and subsidiaries are subject to U.S. federal income tax, income tax in U.S. states and possessions, and income tax in Australia and New Zealand. Generally, changes to our U.S. federal and most state income tax returns for the calendar year 2008 and earlier are barred by statutes of limitations.  Our income tax returns of Australia filed since inception in 1995 are generally open for examination because of operating losses.  The income tax returns filed in New Zealand for calendar year 2009 and afterward generally remain open for examination as of September 30, 2013.

 

 

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Note 11 – Notes Payable

Notes payable are summarized as follows (dollars in thousands):

 

Derivative Instruments

As indicated in Note 17 – Derivative Instruments, for both our Australian NAB Corporate Credit Facility (“NAB Loan”) and our U.S. Bank of America Revolver (“BofA Revolver”), we have entered into interest rate swap agreements for all or part of these facilities.  The loan agreement together with the swap results in us paying a total fixed interest rate of 7.90% (5.50% swap contract rate plus a 2.40% margin under the loan) for our NAB Loan and a total fixed interest rate of 4.19% (1.44% swap contract rate plus a 2.75% margin under the loan) for our BofA Revolver instead of the above indicated 5.04% and 3.02%, respectively, which are the obligatorily disclosed loan rates.  Additionally, on June 3, 2013, we entered into a new swap agreement for our BofA Revolver which will take effect on December 31, 2014 (see Note 17 – Derivative Instruments).

Notes Payable Refinancing and Payoff

US Bank of America Line of Credit

On June 28, 2013, we repaid the entire $2.0 million outstanding balance on our $5.0 million Bank of America line of credit.

US Sutton Hill Capital Note – Related Party

On June 18, 2013, we repaid our 8.25% note to Sutton Hill Capital (“SHC”) for $9.0 million. As the debtor on this note was Sutton Hill Properties, LLC, in which we have a 75% interest, the note was, in effect, paid $6.75 million by us and $2.25 million by our co-investor.

US Minetta and Orpheum Theatres Loan

On May 29, 2013, we refinanced our Liberty Theaters loan with a $7.5 million loan securitized by our Minetta and Orpheum theatres, having a maturity date of June 1, 2018, and bearing an interest rate of LIBOR plus a 2.75% margin with a LIBOR rate cap of 4.00% plus the 2.75% margin.  See Note 16 – Derivative Instruments.

 

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US Bank of America Revolver

On March 25, 2013, Bank of America extended the borrowing limit on our BofA Revolver from $30.0 million to $35.0 million and we borrowed $5.0 million on this revolver.  On April 1, 2013, we used $2.3 million of the revolver proceeds to partially repay our US Liberty Theaters Term Loan.

US Cinema 1, 2, 3 Term Loan

On March 20, 2013, pursuant to the loan agreement, we extended the term of our US Cinema 1, 2, 3 Term Loan by one year to June 28, 2014 for a renewal fee of $150,000.

 

Note 12 – Other Liabilities

Other liabilities are summarized as follows (dollars in thousands):

 

Included in our other liabilities are accrued pension costs of $7.2 million at September 30, 2013.  The benefits of our pension plans are fully vested, and, as such, no service costs were recognized for the three or nine months ended September 30, 2013 and 2012.  Our pension plans are unfunded; therefore, the actuarial assumptions do not include an estimate for any expected return on the plan assets.  For the three and nine months ended September 30, 2013, we recognized $66,000 and $231,000, respectively, of interest cost and $166,000 and $496,000, respectively, of amortized prior service cost.  For the three and nine months ended September 30, 2012, we recognized $87,000 and $264,000, respectively, of interest cost and $76,000 and $228,000, respectively, of amortized prior service cost.

 

 

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Note 13 – Commitments and Contingencies

Unconsolidated Debt 

 Total debt of unconsolidated joint ventures and entities was $666,000 and $703,000 as of September 30, 2013 and December 31, 2012.  Our share of unconsolidated debt, based on our ownership percentage, was $222,000 and $234,000 as of September 30, 2013 and December 31, 2012.  This debt is guaranteed by one of our subsidiaries to the extent of our ownership percentage.

Digital Projection 

We financed  a $15.5 million purchase of digital projection equipment with an operating lease for our U.S. cinema circuit during 2012.  For our Australia and New Zealand circuits, we are in the process of installing similar digital projection equipment for a cost of approximately $9.0 million and $2.8 million, respectively, using our cash on hand.

 

Note 14 – Noncontrolling interests

 

The components of noncontrolling interests are as follows (dollars in thousands):

 

 

The components of income attributable to noncontrolling interests are as follows (dollars in thousands):

 

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Summary of Controlling and Noncontrolling Stockholders’ Equity

A summary of the changes in controlling and noncontrolling stockholders’ equity is as follows (dollars in thousands):

 

AFC LLC Acquisition of Noncontrolling Interest

On June 28, 2013, we acquired the interest in AFC LLC that we did not already own in consideration of the release of certain claims we held against the owner of that interest under a guaranty agreement.  The removal of the AFC LLC noncontrolling interest balance of $76,000 was reflected as a change in our additional paid in capital pursuant to FASB ASC 810-10-45.

 

Note 15 – Common Stock

Common Stock Issuance

During the nine months ended September 30, 2013 and 2012, we issued 217,890 and 155,925, respectively, of Class A Nonvoting shares to an executive employee associated with his prior years’ stock grants. 

62,500 options were exercised during the nine months ended September 30, 2013 having an intrinsic value of $132,000 for which we received $249,000 of cash. Additionally, 75,000 options were exercised during the nine months ended September 30, 2013 having an intrinsic value of $124,000 for which we did not receive any cash but the employee elected to exchange 53,136 personally owned shares of the company at a market price of $5.66 per share for the 75,000 shares based on an exercise price of $4.01 for the related options.  95,000 options were exercised during the nine months ended September 30, 2012 having an intrinsic value of $136,000 for which we received $308,000 of cash.  Additionally, 41,000 options were exercised during the nine months ended September 30, 2012 having a realized value of

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$103,000 for which we did not receive any cash but the consultant elected to receive the net incremental number of in-the-money shares of 15,822 based on an exercise price of $4.01 and a market price of $6.53.    

 

Note 16 – Derivative Instruments

As more fully described in our 2012 Annual Report, we are exposed to interest rate changes from our outstanding floating rate borrowings.  We manage our fixed to floating rate debt mix to mitigate the impact of adverse changes in interest rates on earnings and cash flows and on the market value of our borrowings.  From time to time, we may enter into interest rate hedging contracts, which effectively convert a portion of our variable rate debt to a fixed rate over the term of interest rate swaps or fix the maximum variable rate with an interest rate cap.  For an explanation of the impact of swaps on our interest paid for the periods presented, see Note 11 – Notes Payable.

As part of our new US Minetta and Orpheum Theatres Loan, we entered into a five year LIBOR rate cap of 4.00% with a loan margin of 2.75%.  See Note 11 – Notes Payable. Additionally, on June 3, 2013, we entered into a new swap agreement for our BofA Revolver which will take effect on December 31, 2014 with a pay fixed rate of 1.15% and an expiration date of October 31, 2017.

The following table sets forth the terms of our interest rate swap and cap derivative instruments at September 30, 2013:

 

In accordance with FASB ASC 815-10-35, Subsequent Valuation of Derivative Instruments and Hedging Instruments (“FASB ASC 815-10-35”), we marked our interest rate swap and cap instruments to market on the consolidated balance sheet resulting in an decrease in interest expense of $209,000 and $1.6 million during the three and nine months ended September 30, 2013, respectively, and an increase of  $351,000 and $1.8 million in interest expense during the three and nine months ended September 30, 2012, respectively.  At September 30, 2013 and December 31, 2012, we recorded as other long-term liabilities the fair market value of our interest rate swaps and cap of $4.2 million and $5.9 million, respectively.  In accordance with FASB ASC 815-10-35, we have not designated any of our current interest rate swap or cap positions as financial reporting hedges.

Note 17 – Fair Value of Financial Instruments

FASB ASC 820-10,  Fair Value Measurement (“FASB ASC 820-10”) establishes a fair value hierarchy that prioritizes the inputs to valuation techniques used to measure fair value.  The statement requires that assets and liabilities carried at fair value be classified and disclosed in one of the following three categories:

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We used the following methods and assumptions to estimate the fair values of the assets and liabilities:

Level 1 Fair Value Measurements – are based on market quotes of our marketable securities.

Level 2 Fair Value Measurements – Interest Rate Swaps and Caps – The fair value of interest rate swap and cap instruments are estimated based on market data and quotes from counter parties to the agreements which are corroborated by market data.

Level 3 Fair Value Measurements – Impaired Property – For assets measured on a non-recurring basis, such as real estate assets that are required to be recorded at fair value as a result of an impairment, our estimates of fair value are based on management’s best estimate derived from evaluating market sales data for comparable properties developed by a third party appraiser and arriving at management’s estimate of fair value based on such comparable data primarily based on properties with similar characteristics.

As of September 30, 2013 and December 31, 2012, we held certain items that are required to be measured at fair value on a recurring basis.  These included available for sale securities and interest rate derivative contracts.  Our available-for-sale securities primarily consist of investments associated with the ownership of marketable securities in New Zealand and the U.S.  Derivative instruments are related to our economic hedge of interest rates.

The fair values of the interest rate swap and cap agreements are determined using the market standard methodology of discounting the future cash payments and cash receipts on the pay and receive legs of the interest swap agreements that have the net effect of swapping the estimated variable rate note payment stream for a fixed rate payment stream over the period of the swap.  The variable interest rates used in the calculation of projected receipts on the interest rate swap agreements are based on an expectation of future interest rates derived from observable market interest rate curves and volatilities.  To comply with the provisions of FASB ASC 820-10, we incorporate credit valuation adjustments to reflect both our own nonperformance risk and the respective counterparty's nonperformance risk in the fair value measurements.  Although we have determined that the majority of the inputs used to value our derivatives fall within Level 2 of the fair value hierarchy, the credit valuation adjustments associated with our derivatives utilize Level 3 inputs, such as estimates of current credit spreads, to evaluate the likelihood of default by our counterparties and us.  However, as of September 30, 2013 and December 31, 2012, we have assessed the significance of the impact of the credit valuation adjustments on the overall valuation and determined that the credit valuation adjustments are not significant to the overall valuation of our derivatives.  As a result, we have determined that our derivative valuations in their entirety are classified in Level 2 of the fair value hierarchy.  The nature of our interest rate swap and cap derivative instruments is described in Note 16 – Derivative Instruments. 

We have consistently applied these valuation techniques in all periods presented and believe we have obtained the most accurate information available for the types of derivative contracts we hold.  Additionally, there were no transfers of assets and liabilities between levels 1, 2, or 3 during the nine months ended September 30, 2013.

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We measure and record the following assets and liabilities at fair value on a recurring basis subject to the disclosure requirements of FASB ASC 820-10 (dollars in thousands):

 

We measure the following liabilities at fair value on a recurring basis subject to the disclosure requirements of FASB ASC 820-10 (dollars in thousands):

 

The fair value of notes payable to related party cannot be determined due to the related party nature of the terms of the notes payable.

We estimated the fair value of our secured mortgage notes payable, unsecured notes payable, trust preferred securities, and other debt instruments by performing discounted cash flow analyses using an appropriate market discount rate.  We calculated the market discount rate by obtaining period-end treasury rates for fixed-rate debt, or LIBOR rates for variable-rate debt, for maturities that correspond to the maturities of our debt, adding appropriate credit spreads derived from information obtained from third-party financial institutions.  These credit spreads take into account factors such as our credit standing, the maturity of the debt, whether the debt is secured or unsecured, and the loan-to-value ratios of the debt.

 

Note 18 - Subsequent Events

Moonee Ponds Sale Agreement

On October 15, 2013, we entered into a definitive purchase and sale agreement with Moonee Ponds Pty Ltd, an affiliate of Leighton Properties Pty Ltd, for the sale of our properties located in Moonee Ponds, Victoria, Australia.  The agreement calls for a sale price of AUS$23.0 million payable in full on April 16, 2015.  Leighton Properties Pty Ltd. has guaranteed the purchaser’s performance.  Our attorney has received from the purchaser bank guaranties and checks to the value of AUS$2.3 million representing the agreed upon 10% deposit.  These amounts will be held by our attorney and released to us upon settlement on April 16, 2015. The contract is subject to approval by the Australian Foreign Investment Review Board.  While no assurances can be given, this approval process is currently not anticipated to take longer than thirty business days to complete from the agreement date.   Prior to settlement, Reading retains title to the properties, is responsible for their costs (including taxes and utilities), and is entitled to receive all of their revenues (the properties are currently used as a parking lot).   The properties comprise approximately 3.3 acres and are carried on our books at $11.6 million (AUS$12.4 million) at September 30, 2013.

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Item 2 – Management’s Discussion and Analysis of Financial Condition and Results of Operations

We are an internationally diversified company principally focused on the development, ownership, and operation of entertainment and real estate assets in the United States, Australia, and New Zealand.  Currently, we operate in two business segments:

We believe that these two business segments can complement one another as we can use the comparatively consistent cash flows generated by our cinema operations to fund the front-end cash demands of our real estate development business.

We manage our worldwide cinema exhibition businesses under various different brands:

Cinema Activities

We continue to consider opportunities to expand our cinema operations while continuing to cull those cinema assets which are underperforming or have unacceptable risk profiles on a go forward basis. 

Real Estate Activities

Although to date we have curtailed our real estate development activities, we are in the predevelopment stage on certain of our Manhattan U.S. properties and we remain opportunistic in our acquisitions of both cinema and real estate assets.  Our business plan is to begin the build-out of our existing undeveloped properties, such as our Wellington, New Zealand site, and to seek out additional, profitable real estate development opportunities while continuing to use and judiciously expand our presence in the cinema exhibition business by identifying, developing, and acquiring cinema properties when and where we believe to be appropriate.  In addition, we may sell all or portions of our properties in order to provide liquidity for other projects.  Finally, we will continue to investigate potential synergistic acquisitions that may not readily fall into either of our two currently identified segments.

 

Results of Operations

At September 30, 2013, we owned and operated 51 cinemas with 429 screens, had interests in certain unconsolidated joint ventures and entities that own an additional 3 cinemas with 29 screens and managed 2 cinemas with 9 screens.  Regarding our real estate, during the period, we (i) owned and operated four Entertainment Themed Retail Centers (“ETRCs”) that we developed in Australia and New Zealand, (ii) owned the fee interests in four developed commercial properties in Manhattan and Chicago improved with live theaters comprising seven stages and ancillary retail and commercial space, (iii) owned the fee interests underlying one of our Manhattan cinemas, (iv) held for development an additional seven parcels aggregating approximately 129 acres located principally in urbanized areas of Australia and New Zealand, and (v) owned 50% of a 202-acre property which is zoned for the development of up to 843 single-family residential units in the U.S.  In addition, we continue to hold various properties used in our historic railroad operations.

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The tables below summarize the results of operations for each of our principal business segments for the three (“2013 Quarter”) and nine (“2013 Nine Months”) months ended September 30, 2013 and the three (“2012 Quarter”) and nine (“2012 Nine Months”) months ended September 30, 2012, respectively (dollars in thousands):

 

 

 

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Cinema Exhibition Segment

Included in the cinema exhibition segment above is revenue and expense from the operations of 51 cinema complexes with 429 screens during the 2013 Quarter and 52 cinema complexes with 437 screens during the 2012 Quarter, and management fee income from 2 cinemas with 9 screens in both years. The following tables detail our cinema exhibition segment operating results for the three months ended September 30, 2013 and 2012, respectively (dollars in thousands):

 

 

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The following tables detail our cinema exhibition segment operating results for the nine months ended September 30, 2013 and 2012, respectively (dollars in thousands):

 

 

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Real Estate Segment

The following tables detail our real estate segment operating results for the three months ended September 30, 2013 and 2012, respectively (dollars in thousands):

 

 

 

 

 

 

 

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The following tables detail our real estate segment operating results for the nine months ended September 30, 2013 and 2012, respectively (dollars in thousands):

 

 

 

 

 

 

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Corporate

Quarterly Results

General and administrative expense increased by $403,000 for the 2013 Quarter compared to the 2012 Quarter.  The increase in general and administrative expense during the 2013 Quarter was primarily related to an increase in pension costs and additional audit fees.

Net interest expense decreased by $1.4 million for the 2013 Quarter compared to the 2012 Quarter.  The decrease in interest expense during the 2013 Quarter resulted from an overall decrease in our worldwide debt balances and a decrease in the interest rates on our corporate loans in the U.S. and Australia. Additionally, our interest expense was lower in the 2013 Quarter due to a decrease in the fair value of our interest rate swap liabilities in 2013 compared to an increase in these liabilities during the same period in 2012 resulting in a comparative decrease in interest expense from the 2012 Quarter to the 2013 Quarter.

For the 2013 Quarter, our income tax expense increased by $851,000 compared to the 2012 Quarter primarily caused by an increase in pretax income in our Reading Australia operations.  No material corresponding increase in tax expense occurred for U.S. and New Zealand operations because of valuation allowances recorded against the net operating loss carryforwards of those operations..

For the 2012 Quarter, we recorded a loss from discontinued operations of $241,000 associated with the sale of our Indooroopilly property in November 2012.

Nine Months Results

General and administrative expense increased by $299,000 for the 2013 Nine Months compared to the 2012 Nine Months.  The increase in general and administrative expense during the 2013 Nine Months was due to the same reasons noted in the quarterly results.

Net interest expense decreased by $5.5 million for the 2013 Nine Months compared to the 2012 Nine Months.  The decrease in interest expense during the 2013 Nine Months was due to the same reasons noted above for the quarterly results.

The 2013 Nine Months income tax expense increased by $1.4 million compared to the 2012 Nine Months due to the same reasons noted in the quarterly results.

For the 2012 Nine Months, we recorded loss from discontinued operations of $121,000 associated with the sale of our Indooroopilly property in November 2012.

 

Net Income (Loss) Attributable to Reading International, Inc. Common Shareholders

We recorded a net income attributable to Reading International, Inc. common shareholders of $2.4 million for the 2013 Quarter compared to a net income of $363,000 for the 2012 Quarter and a net income of $5.9 million for the 2013 Nine Months compared to a net income of $361,000 for the 2012 Nine Months.  As described above, the increase in net income from 2012 to 2013 was primarily from the

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aforementioned decrease in interest expense coupled with strong operating income during the 2013 Quarter.

 

Acquisition

 

U.S. Land Parcel Acquisition

 

On January 10, 2012, Shadow View Land and Farming, LLC, a limited liability company owned by our Company, acquired a 202-acre property, zoned for the development of up to 843 single-family residential units, located in the U.S.  The property was acquired at a foreclosure auction for $5.5 million.  The property was acquired as a long-term investment in developable land. Half of the funds used to acquire the land were provided by Mr. James J. Cotter, our Chairman, Chief Executive Officer and controlling shareholder.  Upon the approval of our Conflicts Committee, these funds were converted on January 18, 2012 into a 50% interest in Shadow View Land and Farming, LLC.  We are the managing member of this company.    

 

Business Plan, Capital Resources, and Liquidity

Business Plan

Our cinema exhibition business plan is to continue to identify, develop, and acquire cinema properties, where reasonably available, that allow us to leverage our cinema expertise and technology over a larger operating base. 

Our real estate business plan is to begin development of our existing land assets, to be sensitive to opportunities to convert our entertainment assets to higher and better uses, or, when appropriate, to dispose of such assets.  Because we believe that current economic conditions present difficulties in obtaining the pre-construction leasing commitments necessary to justify commencement of construction, we are predominantly focusing our development efforts on improving and enhancing land entitlements and negotiating with end users for build-to-suit projects. 

In addition, we review opportunities to monetize our assets where such action leads to a financially acceptable outcome.  We will also continue to investigate potential synergistic acquisitions that may not readily fall into either of our two currently identified segments.  We financed a $15.5 million purchase of digital projection equipment with an operating lease for our U.S. cinema circuit during 2012.  For our Australia and New Zealand circuits, we are in the process of installing similar digital projection equipment for a cost of approximately $9.0 million and $2.8 million, respectively, using our cash on hand.

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Contractual Obligations

The following table provides information with respect to the maturities and scheduled principal repayments of our secured debt and lease obligations at September 30, 2013 (in thousands):

 

 

We base estimated interest on long-term debt on the anticipated loan balances for future periods calculated against current fixed and variable interest rates.

We adopted FASB ASC 740-10-25 on January 1, 2007.  As of adoption, the total amount of gross unrecognized tax benefits for uncertain tax positions was $12.5 million decreasing to $2.4 million as of September 30, 2013 primarily as a result of the settlement on January 6, 2011 of our Tax Audit/Litigation matter.

Unconsolidated Debt

Total debt of unconsolidated joint ventures and entities was $666,000 and $703,000 as of September 30, 2013 and December 31, 2012, respectively.  Our share of unconsolidated debt, based on our ownership percentage, was $222,000 and $234,000 as of September 30, 2013 and December 31, 2012, respectively.  This debt is guaranteed by one of our subsidiaries to the extent of our ownership percentage.

Off-Balance Sheet Arrangements

There are no off-balance sheet transactions, arrangements or obligations (including contingent obligations) that have, or are reasonably likely to have, a current or future material effect on our financial condition, changes in the financial condition, revenues or expenses, results of operations, liquidity, capital expenditures, or capital resources.

Currency Risk

We are subject to currency risk because we conduct a significant portion of our business in Australia and New Zealand.  Set forth below is a chart indicating the various exchange rates at certain points in time for the Australian and New Zealand Dollar vis-à-vis the US Dollar over the past 20 years.

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We do not engage in currency hedging activities.  Rather, to the extent possible, we operate our Australian and New Zealand operations on a self-funding basis.  Our policy in Australia and New Zealand is to match revenues and expenses, whenever possible, in local currencies.  As a result, we have procured in local currencies the majority of our expenses in Australia and New Zealand.  As our U.S. operations are funded in part by the operational results of Australia and New Zealand, fluctuations in these foreign currencies affect such funding.  As we continue to progress with our acquisition and development activities in Australia and New Zealand, the effect of variations in currency values will likely increase.

Liquidity and Capital Resources

Our ability to generate sufficient cash flows from operating activities in order to meet our obligations and commitments drives our liquidity position.  This is further affected by our ability to obtain adequate, reasonable financing and/or to convert non-performing or non-strategic assets into cash. 

Currently, our liquidity needs arise primarily from:

We have a $15.5 million operating lease which we used to finance the implementation of digital projection in our U.S. cinema circuit during 2012.  For our Australia and New Zealand circuits, we are in the process of installing digital projection equipment for a cost of approximately $9.0 million and $2.8 million, respectively, using our cash on hand.

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Expiring Debt and Liquidity Requirements

Expiring Long-Term Debt

As indicated in our 2012 Annual Report, the term of our Australian NAB Corporate Term Loan matures on June 30, 2014.  Accordingly, the outstanding balance of this debt of $61.4 million (AUS$65.8 million) is classified as current on our September 30, 2013 balance sheet.  The Australian NAB Corporate Term Loan is secured by the majority of our theater and entertainment-themed retail center (“ETRC”) properties in Australia. 

Additionally, the term of our US Cinema 1, 2, 3 Term Loan matures on June 27, 2014.  Accordingly, the outstanding balance of this debt of $15.0 million is classified as current on our September 30, 2013 balance sheet. 

We are currently in the process of renegotiating these loans with our current lenders while also seeking possible replacement loans with other lenders.  While no assurances can be given that we will be successful, we currently anticipate that these loans will either be extended or replaced prior to their maturities.

Tax Settlement Liability

As indicated in our 2012 Annual Report, in accordance with the agreement between the U.S. Internal Revenue Service and our subsidiary, Craig Corporation, it is obligated to pay $290,000 per month, $3.5 million per year, in settlement for its tax liability for tax year ending June 30, 1997.

For the abovementioned liabilities, we believe that we have sufficient borrowing capacity under our various credit facilities, together with our $37.8 million of cash and cash equivalents, to meet our anticipated short-term working capital requirements for the next twelve months.

 

Operating Activities

Cash provided by operations was $16.2 million in the 2013 Nine Months compared to $12.5 million in the 2012 Nine Months.  The year-to-year increase in cash provided by operations of $3.8 million was due primarily to a $5.3 million increase in operational cash flows offset by a $1.5 million change in operating assets and liabilities.

Investing Activities

Cash used in investing activities for the 2013 Nine Months was $898,000 compared to $15.1 million of cash used in investing activities for the 2012 Nine Months, a change of $14.2 million.  The $898,000 of cash used in investing activities for the 2013 Nine Months was primarily related to:

 

offset by

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The $15.1 million of cash used in investing activities for the 2012 Nine Months was primarily related to:

offset by

Financing Activities

Cash used in financing activities for the 2013 Nine Months was $14.3 million compared to $6.7 million of cash used in financing activities for the same period in 2012 resulting in a change of $7.7 million.  The $14.3 million in cash used in financing activities during the 2013 Nine Months was primarily related to:

offset by

The $6.7 million in cash used in financing activities during the 2012 Nine Months was primarily related to:

offset by

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Critical Accounting Policies

The SEC defines critical accounting policies as those that are, in management’s view, most important to the portrayal of the company’s financial condition and results of operations and the most demanding in their calls on judgment.  Although accounting for our core business of cinema and live theater exhibition with a real estate focus is relatively straightforward, we believe our most critical accounting policies relate to:

We discuss these critical accounting policies in our 2012 Annual Report and advise you to refer to that discussion.

Financial Risk Management

Our internally developed risk management procedure, seeks to minimize the potentially negative effects of changes in currency exchange rates and interest rates on the results of operations.  Our primary exposure to fluctuations in the financial markets is currently due to changes in interest rates and currency exchange rates between U.S and Australia and New Zealand. 

As our operational focus continues to shift to Australia and New Zealand, unrealized foreign currency translation gains and losses could materially affect our financial position.  We currently manage our currency exposure by creating, whenever possible, natural hedges in Australia and New Zealand.  This involves local country sourcing of goods and services as well as borrowing in local currencies. 

Our exposure to interest rate risk arises out of our long-term debt obligations.  Consistent with our internally developed guidelines, we seek to reduce the negative effects of changes in interest rates by changing the character of the interest rate on our long-term debt, converting a variable rate into a fixed rate.  Our internal procedures allow us to enter into derivative contracts on certain borrowing transactions to achieve this goal.  Our Australian credit facilities provide for floating interest rates but require that not less than a certain percentage of the loans be swapped into fixed rate obligations using derivative contracts.

In accordance with FASB ASC 815-10-35, Subsequent Valuation of Derivative Instruments and Hedging Instruments (“FASB ASC 815-10-35”), we marked our interest rate swap and cap instruments to market on the consolidated balance sheet resulting in an decrease in interest expense of $209,000 and $1.6 million during the three and nine months ended September 30, 2013, respectively, and an increase of  $351,000 and $1.8 million in interest expense during the three and nine months ended September 30, 2012, respectively.  At September 30, 2013 and December 31, 2012, we recorded the fair market value of our interest rate swaps and cap of $4.2 million and $5.9 million, respectively, as other long-term liabilities.  In accordance with FASB ASC 815-10-35, we have not designated any of our current interest rate swap or cap positions as financial reporting hedges.

Inflation

We continually monitor inflation and the effects of changing prices.  Inflation increases the cost of goods and services used.  Competitive conditions in many of our markets restrict our ability to recover fully the higher costs of acquired goods and services through price increases.  We attempt to mitigate the impact of inflation by implementing continuous process improvement solutions to enhance productivity and efficiency and, as a result, lower costs and operating expenses.  In our opinion, we have managed the

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effects of inflation appropriately, and, as a result, it has not had a material impact on our operations and the resulting financial position or liquidity.

Litigation

We are currently, and are from time to time, involved with claims and lawsuits arising in the ordinary course of our business.  Some examples of the types of claims are:

Where we are the plaintiffs, we expense all legal fees on an on-going basis and make no provision for any potential settlement amounts until received.  In Australia, the prevailing party is entitled to recover its attorneys’ fees, which typically work out to be approximately 60% of the amounts actually spent where first class legal counsel is engaged at customary rates.  Where we are a plaintiff, we have likewise made no provision for the liability for the defendant’s attorneys' fees in the event we are determined not to be the prevailing party.

Where we are the defendants, we accrue for probable damages, which insurance may not cover, as they become known and can be reasonably estimated.  In our opinion, any claims and litigation in which we are currently involved are not reasonably likely to have a material adverse effect on our business, results of operations, financial position, or liquidity.  However, we do not give any assurance as to the ultimate outcome of such claims and litigation.  The resolution of such claims and litigation could be material to our operating results for any particular period, depending on the level of income for such period.  There have been no material changes to our litigation exposure since our 2012 Annual Report.

 

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Forward-Looking Statements

Our statements in this interim quarterly report contain a variety of forward-looking statements as defined by the Securities Litigation Reform Act of 1995.  Forward-looking statements reflect only our expectations regarding future events and operating performance and necessarily speak only as of the date the information was prepared.  No guarantees can be given that our expectation will in fact be realized, in whole or in part.  You can recognize these statements by our use of words such as, by way of example, “may,” “will,” “expect,” “believe,” and “anticipate” or other similar terminology.

These forward-looking statements reflect our expectation after having considered a variety of risks and uncertainties.  However, they are necessarily the product of internal discussion and do not necessarily completely reflect the views of individual members of our Board of Directors or of our management team.  Individual Board members and individual members of our management team may have different views as to the risks and uncertainties involved, and may have different views as to future events or our operating performance.

Among the factors that could cause actual results to differ materially from those expressed in or underlying our forward-looking statements are the following:

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The above list is not necessarily exhaustive, as business is by definition unpredictable and risky, and subject to influence by numerous factors outside of our control such as changes in government regulation or policy, competition, interest rates, supply, technological innovation, changes in consumer taste and fancy, weather, and the extent to which consumers in our markets have the economic wherewithal to spend money on beyond-the-home entertainment.

Given the variety and unpredictability of the factors that will ultimately influence our businesses and our results of operation, it naturally follows that no guarantees can be given that any of our forward-looking statements will ultimately prove to be correct.  Actual results will undoubtedly vary and there is no guarantee as to how our securities will perform either when considered in isolation or when compared to other securities or investment opportunities.

Finally, we undertake no obligation to update publicly or to revise any of our forward-looking statements, whether as a result of new information, future events or otherwise, except as may be required under applicable law.  Accordingly, you should always note the date to which our forward-looking statements speak.

Additionally, certain of the presentations included in this interim quarterly report may contain “non-GAAP financial measures.”  In such case, a reconciliation of this information to our GAAP financial statements will be made available in connection with such statements.

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Item 3 – Quantitative and Qualitative Disclosure about Market Risk

The SEC requires that registrants include information about potential effects of changes in currency exchange and interest rates in their filings.  Several alternatives, all with some limitations, have been offered.  We base the following discussion on a sensitivity analysis, which models the effects of fluctuations in currency exchange rates and interest rates.  This analysis is constrained by several factors, including the following:

Although the results of such an analysis may be useful as a benchmark, they should not be viewed as forecasts.

At September 30, 2013, approximately 52%  and 20% of our assets were invested in assets denominated in Australian dollars (Reading Australia) and New Zealand dollars (Reading New Zealand), respectively, including approximately $22.2 million in cash and cash equivalents.  At December 31, 2012, approximately 51% and 18% of our assets were invested in assets denominated in Australian dollars (Reading Australia) and New Zealand dollars (Reading New Zealand) including approximately $15.8 million in cash and cash equivalents.

Our policy in Australia and New Zealand is to match revenues and expenses, whenever possible, in local currencies.  As a result, we have procured in local currencies a majority of our expenses in Australia and New Zealand.  Due to the developing nature of our operations in Australia and New Zealand, our revenue is not yet significantly greater than our operating and interest expenses.  Despite this natural hedge, recent movements in foreign currencies have had an effect on our current earnings.  Although foreign currency has had an effect on our current earnings, the effect of the translation adjustment on our assets and liabilities noted in our other comprehensive income was an increase of $5.8 million and a decrease of $13.0 million for the three and nine months ended September 30, 2013, respectively.  As we continue to progress our acquisition and development activities in Australia and New Zealand, we cannot assure you that the foreign currency effect on our earnings will be negligible in the future.

Historically, our policy has been to borrow in local currencies to finance the development and construction of our ETRCs in Australia and New Zealand whenever possible.  As a result, the borrowings in local currencies have provided somewhat of a natural hedge against the foreign currency exchange exposure.  Even so, and as a result of our issuance of fully subordinated notes (TPS) in 2007, and their subsequent partial repayment, approximately 65% and 49% of our Australian and New Zealand assets, respectively, remain subject to such exposure unless we elect to hedge our foreign currency exchange between the US and Australian and New Zealand dollars.  If the foreign currency rates were to fluctuate by 10% the resulting change in Australian and New Zealand assets would be $13.3 million and $3.9 million, respectively, and the change in our quarterly net income (loss) would be $161,000 and $41,000, respectively.  Presently, we have no plan to hedge such exposure.

We record unrealized foreign currency translation gains or losses that could materially affect our financial position.  As of September 30, 2013 and December 31, 2012, we have recorded a cumulative unrealized foreign currency translation gain of approximately $51.6 million and $64.6 million, respectively.

Historically, we maintain most of our cash and cash equivalent balances in short-term money market instruments with original maturities of three months or less.  Due to the short-term nature of such

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investments, a change of 1% in short-term interest rates would not have a material effect on our financial condition.

While we have typically used fixed rate financing (secured by first mortgages) in the U.S., fixed rate financing is typically not available to corporate borrowers in Australia and New Zealand.  The majority of our Australian and New Zealand bank loans have variable rates.  The Australian facility provides for floating interest rates, but requires that not less than a certain percentage of the loan be swapped into fixed rate obligations (see Financial Risk Management above).  Taking into consideration our interest rate swaps and cap, a 1% increase or decrease in short-term interest rates would have resulted in approximately $166,000 increase or decrease in our 2013 Quarter’s interest expense.

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Item 4 – Controls and Procedures

We maintain disclosure controls and procedures that are designed to ensure that information required to be disclosed in the Company’s Exchange Act reports, as amended, is recorded, processed, summarized and reported within the time periods specified in the SEC’s rules and forms and that such information is accumulated and communicated to our management, including our Chief Executive Officer and Chief Financial Officer, as appropriate, to allow for timely decisions regarding required disclosure.  In designing and evaluating the disclosure controls and procedures, management recognizes that any controls and procedures, no matter how well designed and operated, can provide only reasonable assurance of achieving the desired control objectives, and our management is required to apply its judgment in evaluating the cost-benefit relationship of possible controls and procedures.

Under the supervision and with the participation of our management, including our principal executive officer and principal financial officer, we conducted an evaluation of our disclosure controls and procedures, as such, term is defined under Rule 13a-15(e) promulgated under the Securities Exchange Act of 1934, as amended (the “Exchange Act”).  Based on this evaluation, our principal executive officer and our principal financial officer concluded that our disclosure controls and procedures were effective as of the end of the period covered by this quarterly report.

Changes in Internal Control over Financial Reporting

No change in our internal control over financial reporting (as defined in Rule 13a-15(f) and 15d-15(f) under the Exchange Act) occurred during the quarter ended September 30, 2013 that has materially affected, or is reasonably likely to materially affect, our internal control over financial reporting.

 

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PART II – Other Information

 

Item 1 – Legal Proceedings

 

For a description of legal proceedings, please refer to Item 3 entitled Legal Proceedings contained in the Company’s Annual Report on Form 10-K for the year ended December 31, 2012.

 

Item 1A – Risk Factors

 

There have been no material changes in risk factors as previously disclosed in our annual report on Form 10-K filed on March 19, 2013 with the SEC for the fiscal year ended December 31, 2012.

 

Item 2 – Unregistered Sales of Equity Securities and Use of Proceeds

 

For a description of grants of stock to certain executives, see the Stock Based Compensation section under see Note 2 – Equity and Stock-Based Compensation to our Condensed Consolidated Financial Statements.

 

Item 3 – Defaults upon Senior Securities

 

None.

 

Item 5 – Other Information

 

None.

 

Item 6 – Exhibits

 

 

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SIGNATURES

Pursuant to the requirements of the Securities Exchange Act of 1934, the Registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized.

READING INTERNATIONAL, INC.

 

Date:November 6, 2013

 

By: /s/ James J. Cotter

James J. Cotter

Chief Executive Officer

 

Date:November 6, 2013

 

By: /s/ Andrzej Matyczynski

Andrzej Matyczynski

Chief Executive Officer

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