25SEP200317075567 25SEP200317162060 No securities regulatory authority has expressed an opinion about these securities and it is an offence to claim otherwise. This preliminary prospectus constitutes a public offering of these securities only in those jurisdictions where they may be lawfully offered for sale and therein only by persons permitted to sell such securities. These securities have not been and will not be registered under the United States Securities Act of 1933, as amended (the ‘‘U.S. Securities Act’’) or any state securities laws and may not be offered or sold in the United States except in compliance with the registration requirements of the U.S. Securities Act and applicable state securities laws or pursuant to an exemption therefrom. Accordingly, the securities will only be offered or sold within the United States pursuant to Rule 144A under the U.S. Securities Act and thereafter may only be reoffered or resold in the United States or to a U.S. person pursuant to the registration requirements of the U.S. Securities Act and applicable state securities laws or an exemption therefrom. See ‘‘Plan of Distribution’’. PRELIMINARY PROSPECTUS Initial Public Offering October 2, 2003 CINEPLEX GALAXY INCOME FUND $ 1 1 Units This prospectus qualifies the distribution (the ‘‘Offering’’) of 1 units (the ‘‘Units’’) of Cineplex Galaxy Income Fund (the ‘‘Fund’’). The Fund is an unincorporated, open-ended, limited purpose trust established under the laws of the Province of Ontario. The Fund was created to indirectly acquire and hold 1 % of the outstanding limited partnership units of Cineplex Galaxy LP (together with its general partner and subsidiaries, the ‘‘Partnership’’) assuming no exercise of the Over-Allotment Option (as defined herein) ( 1 % if the Over-Allotment Option is exercised in full). Following closing of the Offering (‘‘Closing’’), 1 % of the outstanding limited partnership units of Cineplex Galaxy LP will be held by the Investors (as defined herein) assuming no exercise of the Over-Allotment Option ( 1 % if the Over-Allotment Option is exercised in full). See ‘‘Funding and Related Transactions’’ and ‘‘Use of Proceeds’’. Cineplex Galaxy LP has been formed to acquire substantially all of the business assets of Cineplex Odeon Corporation (‘‘COC’’) and all of the shares of Galaxy Entertainment Inc. (‘‘GEI’’). Following Closing, the Partnership will be one of the two leading film exhibition companies in Canada, with 81 theatres and 731 screens operating under the Cineplex Odeon and Galaxy brands. Box office revenues from these theatres represented approximately 29% of total Canadian box office revenues for the first eight months of 2003. See ‘‘Business of the Partnership’’. The Fund intends to make monthly distributions of its available cash to the maximum extent possible. The first such payment is expected to be made to holders of Units (the ‘‘Unitholders’’) on or about 1 , 2003 in respect of the period from Closing to 1 , 2003. See ‘‘Description of the Fund — Cash Distributions’’. There is currently no market through which the Units may be sold and purchasers may not be able to resell Units purchased under this prospectus. In connection with the Offering, the Underwriters (as defined herein) may over-allot or effect transactions that stabilize or maintain the market price of the Units at levels other than those which otherwise might prevail on the open market. See ‘‘Plan of Distribution’’. An investment in the Units is subject to a number of risks that should be considered by a prospective purchaser. The ability of the Fund to make cash distributions will be dependent upon, among other things, the operations and assets of the Partnership. Cash distributions are not guaranteed. See ‘‘Risk Factors’’. Price: $10.00 per Unit Price to the Public (1) Underwriters’ Fee Net Proceeds to the Fund (2) Per Unit ..................................... $10.00 $ 1 $ 1 Total Offering (3) ................................ $ 1 $ 1 $ 1 Notes: (1) The price of the Units has been determined by negotiation between the Fund, Cineplex Odeon Corporation, Galaxy Entertainment Inc. and the Underwriters. (2) Before deducting the expenses of the Offering, which are estimated to be approximately $ 1 , which expenses, together with the Underwriters’ fees, will be paid by the Partnership from the proceeds of the Offering. (3) The Fund has granted the Underwriters an over-allotment option, exercisable for a period of 30 days from the Closing, to purchase up to an additional 1 Units on the same terms as set out above solely to cover over-allotments, if any, and for market stabilization purposes (the ‘‘Over-Allotment Option’’). If the Over-Allotment Option is exercised in full, the total ‘‘Price to the Public’’, ‘‘Underwriters’ Fee’’ and ‘‘Net Proceeds to the Fund’’ will be $ 1 , $ 1 and $ 1 , respectively. If the Over-Allotment Option is exercised in full, the Fund will indirectly hold a 1 % interest in the Partnership. This prospectus qualifies the distribution of the Over-Allotment Option and the issuance and subsequent transfer of the Units issuable upon exercise of that option. See ‘‘Plan of Distribution’’. This prospectus also qualifies the distribution by the Fund of the exchange rights described under ‘‘Funding and Related Transactions — Exchange Agreement’’ and the 1 Units issuable upon the exercise of the exchange rights. RBC Dominion Securities Inc. and Scotia Capital Inc. (the ‘‘Underwriters’’), as principals, conditionally offer the Units, subject to prior sale, if, as and when issued and delivered by the Fund to, and accepted by, the Underwriters in accordance with the conditions contained in the Underwriting Agreement referred to under ‘‘Plan of Distribution’’ and subject to the approval of certain legal matters on behalf of the Fund and Cineplex Galaxy LP by Goodmans LLP and on behalf of the Underwriters by Torys LLP. Subscriptions for the Units will be received subject to rejection or allotment in whole or in part and the right is reserved to close the subscription books at any time without notice. A book-entry only certificate representing the Units will be issued in registered form to The Canadian Depository for Securities Limited (‘‘CDS’’) or its nominee and will be deposited with CDS on the date of the Closing which is expected to occur on or about 1 , 2003, or such later date as the Fund and the Underwriters may agree, but in any event not later than 1 , 2003. A purchaser of Units will receive only a customer confirmation from a registered dealer that is a CDS participant and from or through which the Units are purchased. Scotia Capital Inc. is a subsidiary of a Canadian chartered bank that is a member of a syndicate of financial institutions that have made credit facilities available to Galaxy Entertainment Inc. and to which Galaxy Entertainment Inc. is currently indebted. In addition, the Canadian banks of which the Underwriters are subsidiaries have agreed to make credit facilities available to the Partnership. Accordingly, under applicable securities laws, the Fund may be considered a ‘‘connected issuer’’ to such Underwriters. See ‘‘Debt Financing’’ and ‘‘Plan of Distribution’’. A copy of this preliminary prospectus has been filed with the securities regulatory authorities in each of the provinces and territories of Canada but has not yet become final for the purposes of the sale of securities. Information contained in this preliminary prospectus may not be complete and may have to be amended. The securities may not be sold until a receipt for the prospectus is obtained from the securities regulatory authorities.
Transcript
25SEP200317075567 25SEP200317162060
No securities regulatory authority has expressed an opinion about these securities and it is an offence to claim otherwise. This preliminary prospectus constitutes a public offeringof these securities only in those jurisdictions where they may be lawfully offered for sale and therein only by persons permitted to sell such securities. These securities have notbeen and will not be registered under the United States Securities Act of 1933, as amended (the ‘‘U.S. Securities Act’’) or any state securities laws and may not be offered or soldin the United States except in compliance with the registration requirements of the U.S. Securities Act and applicable state securities laws or pursuant to an exemption therefrom.Accordingly, the securities will only be offered or sold within the United States pursuant to Rule 144A under the U.S. Securities Act and thereafter may only be reoffered or resoldin the United States or to a U.S. person pursuant to the registration requirements of the U.S. Securities Act and applicable state securities laws or an exemption therefrom. See‘‘Plan of Distribution’’.
PRELIMINARY PROSPECTUSInitial Public Offering October 2, 2003
CINEPLEX GALAXY INCOME FUND$ 11 Units
This prospectus qualifies the distribution (the ‘‘Offering’’) of 1 units (the ‘‘Units’’) of Cineplex Galaxy Income Fund (the ‘‘Fund’’). The Fund isan unincorporated, open-ended, limited purpose trust established under the laws of the Province of Ontario. The Fund was created to indirectlyacquire and hold 1 % of the outstanding limited partnership units of Cineplex Galaxy LP (together with its general partner and subsidiaries, the‘‘Partnership’’) assuming no exercise of the Over-Allotment Option (as defined herein) ( 1 % if the Over-Allotment Option is exercised in full).Following closing of the Offering (‘‘Closing’’), 1 % of the outstanding limited partnership units of Cineplex Galaxy LP will be held by theInvestors (as defined herein) assuming no exercise of the Over-Allotment Option ( 1 % if the Over-Allotment Option is exercised in full). See‘‘Funding and Related Transactions’’ and ‘‘Use of Proceeds’’.Cineplex Galaxy LP has been formed to acquire substantially all of the business assets of Cineplex Odeon Corporation (‘‘COC’’) and all of theshares of Galaxy Entertainment Inc. (‘‘GEI’’). Following Closing, the Partnership will be one of the two leading film exhibition companies inCanada, with 81 theatres and 731 screens operating under the Cineplex Odeon and Galaxy brands. Box office revenues from these theatresrepresented approximately 29% of total Canadian box office revenues for the first eight months of 2003. See ‘‘Business of the Partnership’’.The Fund intends to make monthly distributions of its available cash to the maximum extent possible. The first such payment is expected to bemade to holders of Units (the ‘‘Unitholders’’) on or about 1 , 2003 in respect of the period from Closing to 1 , 2003. See ‘‘Description of theFund — Cash Distributions’’.There is currently no market through which the Units may be sold and purchasers may not be able to resell Units purchased under this prospectus.In connection with the Offering, the Underwriters (as defined herein) may over-allot or effect transactions that stabilize or maintain the marketprice of the Units at levels other than those which otherwise might prevail on the open market. See ‘‘Plan of Distribution’’.An investment in the Units is subject to a number of risks that should be considered by a prospective purchaser. The ability of the Fund to make cashdistributions will be dependent upon, among other things, the operations and assets of the Partnership. Cash distributions are not guaranteed. See‘‘Risk Factors’’.
Price: $10.00 per UnitPrice to the Public(1) Underwriters’ Fee Net Proceeds to the Fund(2)
Notes:(1) The price of the Units has been determined by negotiation between the Fund, Cineplex Odeon Corporation, Galaxy Entertainment Inc. and the Underwriters.
(2) Before deducting the expenses of the Offering, which are estimated to be approximately $ 1 , which expenses, together with the Underwriters’ fees, will be paidby the Partnership from the proceeds of the Offering.
(3) The Fund has granted the Underwriters an over-allotment option, exercisable for a period of 30 days from the Closing, to purchase up to an additional 1 Unitson the same terms as set out above solely to cover over-allotments, if any, and for market stabilization purposes (the ‘‘Over-Allotment Option’’). If theOver-Allotment Option is exercised in full, the total ‘‘Price to the Public’’, ‘‘Underwriters’ Fee’’ and ‘‘Net Proceeds to the Fund’’ will be $ 1 , $ 1 and $ 1 ,respectively. If the Over-Allotment Option is exercised in full, the Fund will indirectly hold a 1 % interest in the Partnership. This prospectus qualifies thedistribution of the Over-Allotment Option and the issuance and subsequent transfer of the Units issuable upon exercise of that option. See ‘‘Plan of Distribution’’.This prospectus also qualifies the distribution by the Fund of the exchange rights described under ‘‘Funding and Related Transactions — Exchange Agreement’’ andthe 1 Units issuable upon the exercise of the exchange rights.
RBC Dominion Securities Inc. and Scotia Capital Inc. (the ‘‘Underwriters’’), as principals, conditionally offer the Units, subject to prior sale, if, asand when issued and delivered by the Fund to, and accepted by, the Underwriters in accordance with the conditions contained in the UnderwritingAgreement referred to under ‘‘Plan of Distribution’’ and subject to the approval of certain legal matters on behalf of the Fund and CineplexGalaxy LP by Goodmans LLP and on behalf of the Underwriters by Torys LLP. Subscriptions for the Units will be received subject to rejection orallotment in whole or in part and the right is reserved to close the subscription books at any time without notice. A book-entry only certificaterepresenting the Units will be issued in registered form to The Canadian Depository for Securities Limited (‘‘CDS’’) or its nominee and will bedeposited with CDS on the date of the Closing which is expected to occur on or about 1 , 2003, or such later date as the Fund and theUnderwriters may agree, but in any event not later than 1 , 2003. A purchaser of Units will receive only a customer confirmation from aregistered dealer that is a CDS participant and from or through which the Units are purchased.Scotia Capital Inc. is a subsidiary of a Canadian chartered bank that is a member of a syndicate of financial institutions that have made creditfacilities available to Galaxy Entertainment Inc. and to which Galaxy Entertainment Inc. is currently indebted. In addition, the Canadian banks ofwhich the Underwriters are subsidiaries have agreed to make credit facilities available to the Partnership. Accordingly, under applicable securitieslaws, the Fund may be considered a ‘‘connected issuer’’ to such Underwriters. See ‘‘Debt Financing’’ and ‘‘Plan of Distribution’’.
A copy of this preliminary prospectus has been filed with the securities regulatory authorities in each of the provinces and territories of Canada but has not yet become final forthe purposes of the sale of securities. Information contained in this preliminary prospectus may not be complete and may have to be amended. The securities may not be solduntil a receipt for the prospectus is obtained from the securities regulatory authorities.
TABLE OF CONTENTS
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ELIGIBILITY FOR INVESTMENT . . . . . . . . 1 CINEPLEX ODEON CORPORATIONMANAGEMENT’S DISCUSSION ANDDEFINITION OF EBITDA AND ANALYSIS OF FINANCIAL CONDITIONNORMALIZED EBITDA . . . . . . . . . . . . . 1 AND RESULTS OF OPERATIONS . . . . . . 53
FORWARD-LOOKING STATEMENTS . . . . . 2GALAXY ENTERTAINMENT INC.
Subject to compliance with the prudent investment standards and general investment provisions andrestrictions of the statutes referred to below (and, where applicable, the regulations made under those statutes)and, in certain cases, subject to the satisfaction of additional requirements relating to investment or lendingpolicies, standards, procedures and goals and, in certain cases, subject to the filing of such policies, standards,procedures or goals, the Units offered under this prospectus would not, if the date hereof was the date of theClosing, be precluded as investments under the following statutes:
Insurance Companies Act (Canada); Pension Benefits Act (Ontario);Pension Benefits Standards Act, 1985 (Canada); Trustee Act (Ontario);Trust and Loan Companies Act (Canada); Loan and Trust Corporations Act (Ontario);Cooperative Credit Associations Act (Canada); An Act respecting insurance (Quebec) for anLoan and Trust Corporations Act (Alberta); insurer incorporated under the laws of theInsurance Act (Alberta); Province of Quebec, other than a guaranteeEmployment Pension Plans Act (Alberta); fund;Alberta Heritage Savings Trust Fund Act (Alberta); An Act respecting trust companies and savingsPension Benefits Standards Act (British Columbia); companies (Quebec) for a trust corporationFinancial Institutions Act (British Columbia); investing its own funds and funds received asThe Insurance Act (Manitoba); deposits and a savings corporation investing itsThe Trustee Act (Manitoba); own funds;The Pension Benefits Act (Manitoba); Supplemental Pension Plans Act (Quebec); andPension Benefits Act (Nova Scotia); The Pension Benefits Act, 1992 (Saskatchewan).Trustee Act (Nova Scotia);
In the opinion of Goodmans LLP, counsel to the Fund and Cineplex Galaxy LP, and of Torys LLP, counsel tothe Underwriters, provided that the Fund is a mutual fund trust under the Income Tax Act (Canada) (the‘‘Tax Act’’) on the date of this prospectus: (i) the Units will be qualified investments under the Tax Act for trustsgoverned by registered retirement savings plans, registered retirement income funds, deferred profit sharingplans and registered education savings plans, each as defined in the Tax Act (collectively, the ‘‘Plans’’) on thatdate; and (ii) based, in part, on a certificate of the Fund as to certain factual matters, the Units, if issued on thedate of this prospectus, would not on that date constitute ‘‘foreign property’’ for the purposes of the tax imposedunder Part XI of the Tax Act on those Plans (other than registered education savings plans), registeredinvestments and other tax exempt entities, including most registered pension funds or plans. Registerededucation savings plans are not subject to the foreign property rules. See ‘‘Certain Canadian Federal Income TaxConsiderations’’ and ‘‘Risk Factors’’.
DEFINITION OF EBITDA AND NORMALIZED EBITDA
References to ‘‘EBITDA’’ are to earnings before interest, income taxes and amortization. References to‘‘Normalized EBITDA’’ are to EBITDA adjusted for certain items that management believes facilitates thecomparison of historical periods. As described in the section ‘‘Reconciliation of Historical Results to EBITDAand Normalized EBITDA’’, Normalized EBITDA: (i) excludes losses on impairment of theatre assets,(ii) excludes costs incurred in connection with COC’s reorganization, (iii) excludes gains realized in theextinguishment of certain indebtedness in connection with COC’s reorganization, (iv) excludes the effect ofrestructuring charges, (v) excludes the effect of gain on investment disposal, (vi) excludes the effects of certaintheatres that were closed by COC as a part of its reorganization process as well as certain assets to be retainedby COC that are not integral to COC’s film exhibition business, (vii) reflects amendments to contractual leasearrangements achieved by COC through its reorganization, (viii) excludes the effect of management fees to beterminated on closing, (ix) excludes foreign currency exchange effects which, as a result of the transactionsdescribed in this prospectus, the Partnership does not expect to continue to incur, and (x) excludes gains ondisposal of certain theatre assets. All of such adjustments are based on historical information or contractualcommitments.
Because the Fund distributes substantially all of its cash on an on-going basis (after providing for certainamounts described elsewhere in this prospectus), management believes that EBITDA and Normalized EBITDA
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are important measures in evaluating the performance of the Partnership and in determining whether to investin Units of the Fund. Specifically, management believes that Normalized EBITDA is the appropriate measurefrom which to make adjustments to determine the Distributable Cash of the Fund.
EBITDA and Normalized EBITDA are not earnings measures recognized by generally accepted accountingprinciples in Canada (‘‘GAAP’’) and do not have standardized meanings prescribed by GAAP. Therefore,EBITDA and Normalized EBITDA may not be comparable to similar measures presented by other issuers.Investors are cautioned that EBITDA and Normalized EBITDA should not be construed as an alternative to netincome or loss determined in accordance with GAAP as indicators of the Partnership’s performance or to cashflows from operating, investing and financing activities as measures of liquidity and cash flows. For areconciliation of EBITDA and Normalized EBITDA to income/(loss) from operations, based on the historicalfinancial statements contained elsewhere in this prospectus presented in accordance with GAAP, see‘‘Reconciliation of Historical Results to EBITDA and Normalized EBITDA’’.
FORWARD-LOOKING STATEMENTS
Certain statements in this prospectus may constitute ‘‘forward-looking’’ statements that involve known andunknown risks, uncertainties and other factors that may cause the actual results, performance or achievementsof the Fund or the Partnership, or industry results, to be materially different from any future results,performance or achievements expressed or implied by such forward-looking statements. When used in thisprospectus, such statements use such words as ‘‘may’’, ‘‘will’’, ‘‘expect’’, ‘‘believe’’, ‘‘plan’’ and other similarterminology. These statements reflect current expectations regarding future events and operating performanceand speak only as of the date of this prospectus. Forward-looking statements involve significant risks anduncertainties, should not be read as guarantees of future performance or results, and will not necessarily beaccurate indications of whether or not such results will be achieved. A number of factors could cause actualresults to differ materially from the results discussed in the forward-looking statements, including, but notlimited to, the factors discussed under ‘‘Risk Factors’’. Although the forward-looking statements contained inthis prospectus are based upon what management believes are reasonable assumptions, neither the Fund nor thePartnership can assure investors that actual results will be consistent with these forward-looking statements.These forward-looking statements are made as of the date of this prospectus, and the Fund and the Partnershipassume no obligation to update or revise them to reflect new events or circumstances.
TRADEMARKS
The trademarks ‘‘Cineplex’’, ‘‘Cineplex Odeon’’ and ‘‘Galaxy’’, among others, are trademarks owned byCOC or GEI that will be owned by the Partnership on completion of this Offering. On Closing, CineplexGalaxy LP, GEI, the Trust and the Fund will enter into a licence agreement pursuant to which the Trust and theFund and, in the case of the trademarks owned by GEI, Cineplex Galaxy LP, will be granted a licence to usethese trademarks in Canada. In addition, COC and its affiliates will be permitted to continue to use certaintrademarks, including the ‘‘Cineplex’’ and ‘‘Cineplex Odeon’’ trademarks, following Closing.
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PROSPECTUS SUMMARY
The following is a summary of the principal features of the Offering and should be read together with the moredetailed information and financial data and statements contained elsewhere in this prospectus. Cineplex Galaxy LP,together with its general partner and subsidiaries, are collectively referred to herein as the ‘‘Partnership’’. References inthis prospectus to the Partnership include, for the periods prior to Closing, the businesses of COC and GEI to beacquired by Cineplex Galaxy LP. Unless otherwise indicated, the disclosure contained in this prospectus assumes that(i) the steps under the heading ‘‘Funding and Related Transactions’’ have been completed, and (ii) theOver-Allotment Option is not exercised. In this prospectus, unless otherwise indicated, all dollar amounts areexpressed in Canadian dollars and references to ‘‘$’’ are to Canadian dollars. Please refer to the ‘‘Glossary of Terms’’at the end of this prospectus for a list of defined terms used herein.
Box office data for the first eight months of 2003 is from A.C. Nielsen EDI. Although there may be certain smallindependent theatres which do not report to A.C. Nielsen, these figures are widely used in the film exhibition industryand management believes they are reliable.
The Fund
The Fund is an unincorporated, open-ended, limited purpose trust established under the laws of theProvince of Ontario, created to indirectly acquire and hold all of the Class A LP Units, representing 1 % ofthe outstanding limited partnership units of Cineplex Galaxy LP (‘‘LP Units’’), and 1 % of the outstandingshares of Cineplex Galaxy GP. Following completion of the Offering, all of the Class B LP Units, representing
1 % of the outstanding LP Units, and 1 % of the outstanding shares of Cineplex Galaxy GP, will be heldby the Investors. Effective on Closing, Cineplex Galaxy LP will own substantially all of the theatre businessassets of COC and all of the shares of GEI. See ‘‘Description of the Fund’’ and ‘‘Business of the Partnership’’.
Business of the Partnership
The Partnership is one of the two leading film exhibition companies in Canada. The Partnership owns,operates or has an interest in 81 theatres with 731 screens in six provinces. The Partnership’s box office revenuesfor the first eight months of 2003 represented approximately 29% of total Canadian box office revenues.
Film Exhibition Industry
Demand for theatrical films in Canada has shown stable growth over the past 10 years, with box officerevenue growing at a compound annual growth rate of 9.7%, achieving a record level of approximately$946 million in 2002, according to Screen Digest. This record of long-term growth in the Canadian filmexhibition industry is primarily a function of the following factors:
• Record attendance: Approximately 128 million patrons attended movies in 2002, compared to 74 million in1992, representing a compound annual growth rate of 5.6%.
• Stronger box office economics: Average ticket prices increased from $5.10 in 1992 to $7.39 in 2002,representing a compound annual growth rate of 3.8%.
• Increased frequency of attendance by movie-goers: Film attendance frequency increased from 2.8 movies percapita per year in 1992 to 4.2 movies in 2002.
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The following chart demonstrates the sustained growth of Canadian box office revenues since 1965:
Canadian Box Office Revenues (1965-2002)
$0
$250
$500
$750
$1,000
1965 1970 1975 1980 1985 1990 1995 2000
in M
illi
ons
CAGR since 1965 = 6.7%
CAGR since 1997 = 13.5%
Source: Screen Digest, 2003.
The exceptional growth in attendance levels and box office revenues since 1997 is attributable to threemajor factors: the positive market response to the modernization of theatre circuits, increased studio marketingexpenditures and the greater number of ‘‘blockbuster’’ film releases. The industry modernization was driven bymajor exhibitors upgrading their theatre circuits to the modern multiplex format, which was introduced inCanada in 1997. Modern multiplexes improved the movie-going experience through amenities such as stadiumseating, large screens, digital sound and expanded concession offerings. Film studios markedly increased theirspending on production and marketing to benefit from this response to modern multiplexes which also drivesadditional revenue streams from downstream markets.
The following table presents information regarding the Canadian film exhibition industry since 1997:
AnnualAverage Attendance
Box Office Ticket FrequencyYear Revenues Attendance Price Total Screens Per Capita
The Partnership and Famous Players had a combined market share of approximately 75% of the totalCanadian box office revenues for the first eight months of 2003. The third largest industry participant,AMC Entertainment Inc., had approximately a 6% market share during the same period, and three othercompanies held regional market positions with national shares between 2% and 5%.
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Current Industry Trends
Importance of Theatrical Success in Establishing Movie Brands and Subsequent Markets
Theatrical exhibition is the initial and most important distribution channel for new motion picture releases.A successful theatrical release which ‘‘brands’’ a film is often the determining factor in its popularity and value in‘‘downstream’’ distribution channels, such as home video, DVD and pay-per-view, network and syndicatedtelevision.
Increased Investment in Production and Marketing of Films by Studios
Additional revenues generated by films in domestic, international and downstream markets have driven themajor studios to increase spending on producing and marketing new theatrical releases at a compound annualgrowth rate of 7.2% over the past ten years, from US$6.5 billion in 1992 to over US$13 billion in 2002.
Increased Supply of Successful Films
Studios are increasingly producing films in series, such as Harry Potter, Lord of the Rings, Star Wars and TheMatrix. When the first film in a series is successful, subsequent films in that series benefit from existing publicawareness and anticipation. The result is that such features typically attract large audiences and generate strongbox office revenues.
The success of a broader range of film genres also benefits film exhibitors. The studios’ success in producingand marketing a wide variety of diverse yet commercially appealing movies such as Chicago, Seabiscuit, My BigFat Greek Wedding, Crouching Tiger, Hidden Dragon and A Beautiful Mind has expanded the demographic base ofregular movie-goers and also contributed to greater per capita attendance.
Favourable Demographic Attendance Trends
The demographic segment of the movie-going population in the U.S. that attends the most movies isbetween 12 to 17 years of age. This group is expanding and continues to be the largest segment of movie-goers.The ‘‘baby boom’’ generation, currently between the ages of 39 and 57, is also attending more movies in the U.S.Management believes that similar trends exist in Canada. According to Statistics Canada, these segments of thepopulation are expected to increase in Canada over the next few years. Management believes that thesedemographic trends will result in higher attendance levels and continued growth in the film exhibition business.
Convenient and Affordable Form of Out-of-Home Entertainment
With an average movie ticket price in Canada of only $7.39 in 2002, the movie-going experience continuesto provide value and compares favourably to alternative forms of out-of-home entertainment in Canada such asprofessional sporting events or live theatre.
Reduced Seasonality of Revenues
Historically, film exhibition industry revenues have been seasonal, with the most marketable motionpictures generally being released during the summer and the late-November through December holiday season.More recently, the seasonality of motion picture exhibition attendance has become less pronounced as filmstudios have expanded the historical summer and holiday release windows and increased the number of heavilymarketed films released during traditionally weaker periods.
Diversification of Revenue Streams
While box office revenues continue to account for the largest portion of exhibitors’ revenues, expandedconcession offerings, advertising, games, promotions and other ancillary revenue streams have increased as ashare of total revenues. The margins on these other revenue streams, particularly advertising, are much higherthan on admission sales and have enhanced the profitability of the industry in general.
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Business Overview
The Partnership operates theatres under the Cineplex Odeon brand, which has enjoyed an establishedurban market presence in Canada for over 20 years, and the newer Galaxy brand, which is rapidly developing areputation as a primary entertainment destination in mid-sized communities.
The Partnership’s modern multiplex theatres are designed to provide patrons with a premium movie-goingexperience and maximize profitability by matching the number of screens with the size of the market served tooptimize revenues and minimize costs. The Partnership’s auditorium seating capacities are varied withinindividual theatres, enabling it to maximize revenues by shifting films to smaller or larger auditoriums inresponse to changing attendance levels. In addition, the Partnership is able to achieve significant efficiencies bystaggering show times and consolidating box office, concession, projection and lobby facilities, which enables thePartnership to improve operating margins.
The Partnership will continue to be affiliated with the Loews Cineplex theatre group, one of the world’slargest film exhibition companies, which will control or have an interest in 324 theatres with 3,164 screens afterClosing. Through this affiliation, the Partnership benefits from Loews Cineplex’s strong relationships with realestate developers, concession suppliers and advertisers.
The Partnership’s revenues are primarily generated from box office and concession sales, which in turn aredriven by attendance and price levels. Box office and concession revenues accounted for approximately 68% and27% respectively, of the Partnership’s pro forma combined revenues for the twelve months ended December 31,2002. The Partnership has generated strong growth in normalized revenues and normalized EBITDA, asexhibited in the charts below. Normalized revenues increased approximately 26.7% and 26.1% for the 2001 and2002 fiscal years, respectively, as compared to their respective prior fiscal years. Normalized revenues decreasedby approximately 1.7% for the twelve months ended June 30, 2003 as compared to the twelve months endedDecember 31, 2002. This decline in normalized revenues was primarily the result of relatively higher attendancevolumes (and therefore greater box office and concession revenues) during the six months ended June 30, 2002,which was in turn largely driven by the strong film releases in that period such as Spider-Man and Ice Age.
Normalized EBITDA increased approximately 73.3% and 51.0% for the 2001 and 2002 fiscal years,respectively, as compared to their respective prior fiscal years. In each period there are non-cash accountingadjustments related to GAAP lease accounting. The impact of these adjustments in the twelve-month periodended June 30, 2003 is to reduce normalized EBITDA by $1.5 million as compared to the twelve-month periodended December 31, 2002. Normalized EBITDA in the twelve-month period ended June 30, 2003 decreased to$58.8 million from $63.0 million in the twelve months ending December 31, 2002 as a result of the decline inrevenues in the related periods and the above stated GAAP adjustments.
Normalized Revenue(1) Normalized EBITDA(1)
(millions) (millions)
(1) Normalized revenue and normalized EBITDA represent the historical revenue and earnings before interest, taxes and amortization,adjusted for certain items that management believes facilitates the comparison of historical periods. See ‘‘Reconciliation of HistoricalRevenue to Normalized Revenue’’ and ‘‘Reconciliation of Historical Results to EBITDA and Normalized EBITDA’’, for a descriptionof these items. Normalized revenue and normalized EBITDA are not earnings measures recognized by GAAP and do not have a
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standardized meaning prescribed by GAAP. Therefore, normalized revenue and normalized EBITDA may not be comparable to similarmeasures presented by other issuers.
(2) Twelve months ended June 30, 2003.
Competitive Strengths
A Leading Canadian Exhibitor in a Consolidated Market
The Partnership’s theatres accounted for approximately 29% of Canadian box office revenues in the firsteight months of 2003. The Partnership’s size and market position make it strategically important to filmdistributors, concession suppliers, advertisers and real estate owners and developers.
Modern Theatre Circuit
The Partnership’s modern theatre circuit allows it to provide patrons with a premium movie-goingexperience, tailored to address specific market needs. Sixty-four percent of the Partnership’s screens arelocated in modern multiplex theatres, which generated 72% of the Partnership’s pro forma revenues for thetwelve-month period ended December 31, 2002.
Prominent Local Market Positions
The Cineplex Odeon theatres are generally located in major markets at very visible and prominent sites inhigh traffic areas. The Galaxy theatres represent a primary entertainment destination in the majority of theirmarkets, with 17 of Galaxy’s 18 theatres located in markets with no other modern multiplex theatre.
Enhanced Theatre Portfolio
The restructuring of Cineplex Odeon Corporation’s theatre portfolio in 2001-2002 significantly enhancedthe Partnership’s operational flexibility and has created a meaningful competitive advantage over competitorsthat have been less aggressive in closing under-performing theatres and renegotiating leases.
Well Positioned to Grow Through New Theatre Development
The Partnership is well capitalized and strategically positioned to take advantage of opportunities to buildnew theatres in both smaller and larger markets. The Partnership’s experience and track record in identifyingnew locations and successfully developing theatres will provide ongoing growth opportunities for thePartnership.
Experienced Management Team
Led by Ellis Jacob, Stephen Brown, Dan McGrath and Gord Nelson, the Partnership has assembled amanagement team with an average of 15 years of Canadian film exhibition industry experience and ademonstrated ability to increase cash flow and improve operating performance.
Relationship with Loews Cineplex Theatre Group
The Partnership will continue to be affiliated with the Loews Cineplex theatre group. The Loews Cineplextheatre group is one of the world’s largest film exhibition companies, which will control or have an interest in324 theatres with 3,164 screens after Closing, primarily in major cities throughout the United States, Canada,Mexico, Spain, Germany and South Korea.
7
Strategy
The Partnership’s business strategy is to continue to enhance its position as a leading exhibitor in theCanadian market by focusing on providing customers with a premium movie-going experience. Key elements ofthe Partnership’s strategy include:
Leveraging Market Specific Operating Focus
The Partnership utilizes its distinct Cineplex Odeon and Galaxy brands and market specific operating focusto serve the widest range of markets, with a premium movie-going experience tailored to the specific needs ofeach location.
Maximizing Operating Efficiencies
The Partnership’s prominent market position enables it to effectively manage film, concession and othertheatre-level costs, thereby maximizing operating efficiencies. The Partnership will continue to make efforts toachieve operating savings from the integration of COC’s and GEI’s former management infrastructures.
Capitalizing on Ancillary Revenue Opportunities
The Partnership seeks to expand and further develop ancillary revenue opportunities, such as advertising,promotions, games and special events. These activities generate attractive margins and involve limitedincremental operating expense. Management believes that the Partnership’s size and market position will allowit to exploit new ancillary revenue opportunities more quickly and profitably than most of its competitors.
Pursuing Selected Growth Opportunities
The Partnership seeks to enhance its competitive position by improving and refurbishing theatres andseeking selected complementary development and acquisition opportunities. Management believes that thePartnership has the financial strength, experience and flexibility to pursue attractive development andacquisition opportunities that are accretive to the Fund. The Partnership currently expects to open three newtheatres each year, if opportunities are available.
8
Summary of Distributable Cash
The following analysis has been prepared by management on the basis of the information contained in thisprospectus, more recent financial results available to management and management’s estimate of the amount ofexpenses and expenditures to be incurred by the Partnership as well as the effects of certain new theatres. Thisanalysis is not a forecast or a projection of future results. The actual results of operations of the Partnership forany period, whether before or after Closing, will likely vary from the amounts set forth in the following analysis,and such variation may be material.
Management believes that, upon completion of the Offering and the transactions described under ‘‘Fundingand Related Transactions’’, the Partnership will generate EBITDA from certain theatres that have been open forless than one year or are scheduled to open prior to December 31, 2003 and incur interest expenses,administrative costs and taxes that will differ from those contained in the historical financial statements or in theunaudited pro forma combined financial statements that are included elsewhere in this prospectus. In addition,in calculating cash available for distribution, the Partnership intends to continue to make maintenance capitalexpenditures consistent with its past practice. Although management does not have firm commitments for all ofthe aforementioned items and, accordingly, the complete financial effects of all of those items are not objectivelydeterminable, management believes that the following represents a reasonable estimate of what DistributableCash would have been for the twelve months ended June 30, 2003 had the Fund been in existence during suchtime:
(1) Assuming that the Fund and the Partnership were in existence for the period indicated.
(2) Certain financial information has been derived from the financial information of COC and GEI contained elsewhere in this prospectus.See ‘‘Definition of EBITDA and Normalized EBITDA’’. Normalized EBITDA is not a recognized measure under GAAP and does nothave a standardized meaning prescribed by GAAP. Therefore, Normalized EBITDA may not be comparable to similar measurespresented by other issuers. See ‘‘Reconciliation of Historical Results to EBITDA and Normalized EBITDA’’.
(3) As a result of the consolidation of the COC and GEI businesses, the Partnership intends to eliminate certain duplicative andunnecessary administrative and operating expenses. The basis for this adjustment is an anticipated reduction in: (i) head office andregional management staff; and (ii) professional fees resulting from the consolidation of the two businesses under commonmanagement.
(4) Four Galaxy theatres were opened during the twelve-month period ended June 30, 2003, one Cineplex Odeon theatre in NorthEdmonton was opened in July 2003 and two Galaxy theatres which are currently under construction are scheduled to open prior toDecember 31, 2003 (collectively, the ‘‘New Theatres’’). Collectively, the five open New Theatres generated $0.7 million and $2.5 millionof cash flow for the twelve months ended June 30, 2003 and for the twelve months ended August 31, 2003, respectively (after reflecting
9
estimated loss in cash flow from two adjacent theatres in North Edmonton). Management estimates that if the five New Theatres thatare currently open had been open throughout the entire twelve months ended June 30, 2003, such theatres would have generatedadditional cash flow of $7.1 million (after reflecting estimated loss in cash flow from two adjacent theatres in North Edmonton).Management estimates that if the seven New Theatres had been open throughout the entire twelve months ended June 30, 2003, suchtheatres would have generated additional cash flow of $9.1 million (after reflecting estimated loss in cash flow from two adjacenttheatres in North Edmonton). See ‘‘Management’s Discussion and Analysis of Combined Financial Condition and Results ofOperations — Outlook’’. Pursuant to the terms of the Support Agreement, approximately $21.9 million of the proceeds of this Offeringwill be held in escrow to fund shortfalls, if any, as described in the Support Agreement, in the anticipated cash flows to be generatedfrom the New Theatres for the period from Closing until no later than December 31, 2006. The escrow amount will be reduced, and maybe fully released on, each of December 31, 2004 and December 31, 2005 based upon actual cash flow performance of the New Theatresfor the preceding twelve months to the extent certain cash flow targets for the New Theatres are met. See ‘‘Support Agreement’’.
(5) Adjustments to reflect the impact of: (i) certain non-cash theatre occupancy accounting adjustments related to the amortization ofdeferred tenant inducements and the difference between the straight-line rent expense and the cash rent payments actually made;(ii) capital taxes paid by COC that will no longer be applicable; and (iii) an adjustment to reflect deferred revenue relating to the sale ofgift certificates.
(6) Adjustments to reflect (i) changes to certain contractual arrangements, specifically related to beverage supply agreements and taxespayable on film costs; and (ii) certain one-time expenses pertaining to periods prior to July 1, 2002.
(7) Represents estimated interest expense on the New Credit Facilities described under ‘‘Debt Financing’’, based on assumed drawings of$110 million at an interest rate of 6.0%, based on three-year floating-to-fixed interest swap rates on the term credit facility.
(8) The Partnership estimates that, subsequent to the Offering, it will incur additional general and administrative costs on a continuing basisin connection with reporting to Unitholders, investor relations and other related expenses.
(9) Represents estimated large corporation taxes of $141,000 per year and no income taxes assuming the Fund was in existence for thetwelve months ended June 30, 2003.
(10) Calculated on a fully-diluted basis.
10
Selected Financial Information
The following selected financial information of Cineplex Odeon Corporation and GalaxyEntertainment Inc. has been derived from and should be read in conjunction with the historical financialstatements of Cineplex Odeon Corporation and Galaxy Entertainment Inc. contained elsewhere in thisprospectus.
12-month Six-month Six-monthperiod ended period ended period ended
2000(1) 2001(1) 2002(1) June 30, 2003(2) June 30, 2002 June 30, 2003
(1) Financial information is based on the financial information of each of COC and GEI contained elsewhere in this prospectus. Financialinformation in respect of 2000 is based upon the financial statements of GEI for the year ended December 31, 2000 and the financialstatements of COC for the year ended February 28, 2001; financial information in respect of 2001 is based upon the financial statementsof GEI for the year ended December 31, 2001 and the financial statements of COC for the year ended February 28, 2002; financialinformation in respect of 2002 is based upon the audited combined financial statements of GEI and COC for the period endedDecember 31, 2002 (which statements include twelve months of financial information in respect of GEI and nine months of financialinformation in respect of COC) and includes financial information of COC for the period from January 1, 2002 to March 31, 2002 whichis unaudited.
(2) The amounts for the twelve months ended June 30, 2003 are unaudited and have been derived from the financial results for the yearended December 31, 2002 and the six-month period ended June 30, 2003 and 2002 and COC’s three-month period ended March 31,
11
2002 included in this table and elsewhere in this prospectus. The results of operations for this period are not necessarily indicative of theresults of operations to be expected in any given fiscal year.
(3) The amounts are derived from the audited historical financial statements of COC and GEI included elsewhere in this prospectus.
(4) See ‘‘Definition of EBITDA and Normalized EBITDA’’. EBITDA is not a recognized measure under GAAP and does not have astandardized meaning prescribed by GAAP. Therefore, EBITDA may not be comparable to similar measures presented by other issuers.See ‘‘Reconciliation of Historical Results to EBITDA and Normalized EBITDA’’.
(5) Income (loss) from continuing operations is calculated as Net Income excluding tax.
(6) Normalized Revenue and Normalized EBITDA represent the historical revenue and earnings before interest, taxes and amortization,adjusted for certain items that management believes facilitates the comparison of historical periods. See ‘‘Reconciliation of HistoricalRevenue to Normalized Revenue’’ and ‘‘Reconciliation of Historical Results to EBITDA and Normalized EBITDA’’, for a descriptionof these items. Normalized Revenue and Normalized EBITDA are not earnings measures recognized by GAAP and do not have astandardized meaning prescribed by GAAP. Therefore, Normalized Revenue and Normalized EBITDA may not be comparable tosimilar measures presented by other issuers.
(7) Numbers of theatres and screens have been adjusted to reflect theatres that were closed as a result of COC’s reorganization andproperties that will not be transferred to the Partnership on Closing.
12
The Offering
Offering: 1 Units.
Amount: $ 1
Price: $10.00 per Unit.
Units: Each Unit represents an equal undivided beneficial interest in the Fund and anydistributions from the Fund. Each Unit is transferable and entitles the holderthereof to (i) an equal participation in distributions of the Fund; (ii) rights ofredemption; and (iii) one vote at all meetings of Unitholders. See ‘‘Description ofthe Fund’’.
Use of Proceeds: The Fund will use the proceeds from the Offering to subscribe for units (the‘‘Trust Units’’) and Series 1 notes (the ‘‘Series 1 Trust Notes’’) of the Trust. TheTrust will, in turn, (i) subscribe for Class A LP Units representing, aftercompletion of the Offering, approximately 1 % of the outstanding LP Units(ii) subscribe for shares in the capital of Cineplex Galaxy GP (representing, aftercompletion of the Offering, approximately 1 % of the outstanding shares ofCineplex Galaxy GP) and (iii) advance funds under the Galaxy Notes to CineplexGalaxy Acquisition (which will subsequently amalgamate with GEI). CineplexGalaxy LP will use the proceeds of the Offering, together with the proceeds fromthe New Credit Facilities, to, among other things, repay notes issued by CineplexGalaxy LP to certain of the Investors as consideration for Cineplex Galaxy LP’sacquisition of substantially all of the theatre business assets of COC, to subscribefor shares of Cineplex Galaxy Acquisition and to pay the expenses of thisOffering. Cineplex Galaxy Acquisition will use funds received by it from theissuance of the Galaxy Notes to acquire all the shares of GEI from certain of theInvestors and, following the amalgamation of GEI and Cineplex GalaxyAcquisition, to repay existing debt of GEI to third parties. In addition, a portionof the proceeds received by Cineplex Galaxy LP from the issue of LP Units andto GEI pursuant to the Galaxy Notes will be placed in an escrow account to bereleased as prescribed by the Support Agreement. See ‘‘Debt Financing’’,‘‘Funding and Related Transactions’’, ‘‘Support Agreement’’ and ‘‘Use ofProceeds’’.
Over-Allotment Option: The Fund has granted to the Underwriters, for a period of 30 days following theClosing, the Over-Allotment Option to purchase up to 1 additional Units atthe price of $10.00 per Unit payable in cash against delivery of such additionalUnits. If the Over-Allotment Option is exercised, the Underwriters will receive afee of $ 1 per additional Unit purchased pursuant to such option. If theOver-Allotment Option is exercised, the additional proceeds received will be usedby the Fund to subscribe for additional Trust Units and Series 1 Trust Notes ofthe Trust. The Trust will, in turn, subscribe for additional Class A LP Units.Cineplex Galaxy LP will use the proceeds from the Over-Allotment Option toacquire Class B LP Units from certain Investors and to repay the Over-AllotmentNotes issued to certain Investors as consideration for Cineplex Galaxy LP’sacquisition of substantially all of the theatre assets of COC. If theOver-Allotment Option is not exercised in full, additional Class B LP Units andshares of Cineplex Galaxy GP will be issued to such Investors in repayment of theOver-Allotment Notes. If the Over-Allotment Option is exercised in full, theFund will hold an indirect approximate 1 % interest in Cineplex Galaxy LPand an indirect approximate 1 % interest in Cineplex Galaxy GP. See ‘‘Planof Distribution’’.
13
Investors’ Interest: Assuming no exercise of the Over-Allotment Option, the Investors will holdClass B LP Units representing 1 % of the issued and outstanding LP Unitsand 1 % of the outstanding shares of Cineplex Galaxy GP. Pursuant to theExchange Agreement, the Investors will be entitled to effectively exchange theirholdings of Class B LP Units for Units. In addition, subject to certain restrictions,the Investors will be granted ‘‘piggy-back’’ registration rights and certainInvestors will be granted demand registration rights. See ‘‘Principal Unitholders’’,‘‘Funding and Related Transactions — Investors’ Interest’’, ‘‘— ExchangeAgreement’’ and ‘‘— Securityholders Agreement’’. The Investors have agreed toenter into a 180-day lock-up arrangement with the Underwriters. See ‘‘Plan ofDistribution’’.
Distribution Policy of the The Fund intends to make distributions of its available cash to the maximumFund: extent possible to the Unitholders. The Fund intends to make equal monthly cash
distributions to Unitholders of record on the last business day of each month, lessestimated cash amounts required for expenses and other obligations of the Fundand cash redemptions of Units and any tax liability. The initial cash distributionfor the period from the Closing to 1 , 2003 is expected to be paid on or before
1 , 2003 and is estimated to be $ 1 per Unit (assuming that the Closingoccurs on 1 , 2003). See ‘‘Description of the Fund — Cash Distributions’’ and‘‘Certain Canadian Federal Income Tax Considerations’’.
Distribution Policy of the The Trust intends to make monthly cash distributions to the Fund of its monthlyTrust: cash receipts, after satisfaction of its interest obligations, if any, and less any
estimated cash amounts required for expenses and other obligations of the Trustand reserves for any principal repayments in respect of the Trust Notes. See‘‘Description of the Trust — Cash Distributions’’.
Distribution Policy of Cineplex Galaxy LP intends to make monthly cash distributions of itsCineplex Galaxy LP: distributable cash for that month, which will consist generally of its EBITDA less
any estimated cash amounts required for debt service obligations, other expenseobligations, maintenance capital expenditures, taxes, reserves (including amountson account of capital expenditures and to stabilize distributions to Unitholders)and such other amounts as may be considered appropriate by CineplexGalaxy LP. Capital and other expenditures may also be financed with drawingsunder one or more credit facilities to be established on behalf of the Partnership,other borrowings or additional issuances of Units. See ‘‘Description of CineplexGalaxy LP — Distributions’’ and ‘‘Debt Financing’’.
Distribution Policy GEI intends to make monthly cash distributions of its distributable cash for thatof GEI: month, which will consist generally of its EBITDA less any estimated cash
amounts required for debt service obligations (including payments in respect ofthe Galaxy Debt), other expense obligations, maintenance capital expenditures,taxes, reserves (including amounts on account of capital expenditures) and suchother amounts as may be considered appropriate by GEI. Capital and otherexpenditures may also be financed with drawings under one or more creditfacilities to be established on behalf of the Partnership, other borrowings oradditional issuances of Units. See ‘‘Debt Financing’’.
Risk Factors: An investment in the Units is subject to a number of risks that should beconsidered by a prospective purchaser. Cash distributions by the Fund are notguaranteed and will be based indirectly upon the business operated by thePartnership, which is susceptible to a number of risks. These risks, and other risksassociated with an investment in the Units, include those related to: reliance onfilm production and performance; increased capital expenses resulting from the
14
development of digital technologies for film exhibition; reliance on keypersonnel; the acquisition and development of new theatre sites; alternative filmdelivery methods and other forms of entertainment; unauthorized copying offilms; rising insurance and labour costs; ability to generate additional ancillaryrevenue; the competitive environment of the film exhibition industry;dependance on relationships with major film distributors; dependance onrelationships with primary concession suppliers; dependence on the Partnership;the fact that cash distributions are not guaranteed and will fluctuate with businessperformance; the legal attributes of the Units; the absence of a prior publicmarket; the distribution of securities on redemption or termination of the Fund;Unitholder liability; dilution of existing Unitholders and holders of LP Units;control of the Partnership by the LCE Shareholders; leverage and restrictivecovenants in agreements relating to current and future indebtedness of thePartnership; future sales of Units by the Investors; investment eligibility andforeign property; income tax matters; restrictions on potential growth;restrictions on non-resident Unitholders; and liquidity of Units. See ‘‘RiskFactors’’.
15
28SEP200306482801
Structure Following Closing
The following chart illustrates, on a simplified basis, the structure of the Fund (including jurisdiction ofestablishment/incorporation of the various entities) following completion of this Offering and the indirectinvestment by the Fund in Cineplex Galaxy LP and related transactions (as described in more detail in ‘‘Fundingand Related Transactions’’). See ‘‘The Fund, the Trust and Cineplex Galaxy LP’’, ‘‘Description of the Fund’’,‘‘Description of the Trust’’, ‘‘Description of Cineplex Galaxy LP’’ and ‘‘Description of Cineplex Galaxy GP’’.
Cineplex Galaxy LimitedPartnership(Manitoba)
Galaxy Entertainment Inc.(Ontario)
Assets of Cineplex(2)
Odeon Corporation
Cineplex GalaxyGeneral Partner
Corporation(Canada)
Cineplex GalaxyTrust
(Ontario)
Cineplex Galaxy
Income Fund(Ontario)
Unitholders
Investors(1)
100%
• %
• %
• %
• %
generalpartner
100%Trust NotesTrust Units
100%
GalaxyNotes
(1) Only Investors who are members of the LCE Group will hold shares of Cineplex Galaxy GP.
(2) Excludes certain assets and associated liabilities of COC which are not integral to its film exhibition operations as well as six CineplexOdeon theatres in Canada which do not meet the strategic or financial criteria for acquisition by Cineplex Galaxy LP.
16
THE FUND, THE TRUST AND CINEPLEX GALAXY LP
The Fund is an unincorporated, open-ended, limited purpose trust established under the laws of theProvince of Ontario on October 2, 2003 by a declaration of trust (the ‘‘Fund Declaration of Trust’’). Theprincipal and head office of the Fund is located at 1303 Yonge Street, Toronto, Ontario M4T 2Y9. The Fund hasbeen established to acquire and hold the Trust Units and the Trust Notes. See ‘‘Description of the Fund.’’
The Trust is an unincorporated, open-ended, limited purpose trust established under the laws of theProvince of Ontario by a declaration of trust (the ‘‘Trust Declaration of Trust’’). The principal and head office ofthe Trust is located at 1303 Yonge Street, Toronto, Ontario M4T 2Y9. The Trust has been created to (i) acquireand hold Class A LP Units, which, on Closing, will represent 1 % of the outstanding LP Units, (ii) acquireand hold shares of Cineplex Galaxy GP, which, following completion of the Offering, will represent 1 % ofthe outstanding shares of Cineplex Galaxy GP, and (iii) advance funds under the Galaxy Notes to CineplexGalaxy Acquisition (which will subsequently amalgamate with GEI). See ‘‘Description of the Trust’’.
Cineplex Galaxy LP is a limited partnership formed under the laws of the Province of Manitoba. CineplexGalaxy LP has been created to acquire and hold substantially all of the theatre business assets currently ownedby COC and all the shares of GEI as described under ‘‘Funding and Related Transactions’’. See ‘‘Description ofCineplex Galaxy LP’’.
For a description of the structure of the Fund before and after completion of the Offering and relatedtransactions, see ‘‘Funding and Related Transactions’’.
FILM EXHIBITION INDUSTRY
Overview
The motion picture industry consists of three principal activities: production, distribution and exhibition.Production involves the development, financing and production of feature-length motion pictures. Distributioninvolves the promotion and exploitation of motion pictures in a variety of different channels. Theatricalexhibition is the primary initial distribution channel for new motion picture releases. The theatrical success of amovie is typically the most important factor in determining its popularity and value in later forms of exhibition,such as home video, DVD and pay-per-view, network and syndicated television.
Demand for theatrical films in Canada has shown stable growth over the past ten years, with box officerevenue growing at a compound annual growth rate of 9.7%, achieving a record level of approximately$946 million in 2002, according to Screen Digest. This record of long-term growth in the Canadian filmexhibition industry is primarily a function of the following factors:
• Record attendance: Approximately 128 million patrons attended movies in 2002, compared to 74 million in1992, representing a compound annual growth rate of 5.6%.
• Stronger box office economics: Average ticket prices increased from $5.10 in 1992 to $7.39 in 2002,representing a compound annual growth rate of 3.8%.
• Increased frequency of attendance by movie-goers: Film attendance frequency increased from 2.8 movies percapita per year in 1992 to 4.2 movies in 2002.
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28SEP200316495767
The following chart demonstrates the sustained growth of Canadian box office revenues since 1965:
Canadian Box Office Revenues (1965-2002)
$0
$250
$500
$750
$1,000
1965 1970 1975 1980 1985 1990 1995 2000
in M
illi
ons
CAGR since 1965 = 6.7%
CAGR since 1997 = 13.5%
Source: Screen Digest, 2003.
The exceptional growth in attendance levels and box office revenues since 1997 is attributable to threemajor factors: the positive market response to the modernization of theatre circuits, increased studio marketingexpenditures and the greater number of ‘‘blockbuster’’ film releases. The industry modernization was driven bymajor exhibitors upgrading their theatre circuits to the modern multiplex format, which was introduced inCanada in 1997. Modern multiplexes improved the movie-going experience through amenities such as stadiumseating, large screens, digital sound and expanded concession offerings. Film studios’ markedly increased theirspending on production and marketing to benefit from this response to modern multiplexes which also drivesadditional revenue streams from downstream markets.
As a result of the transition to modern multiplexes, the Canadian film exhibition industry experiencedsignificant new theatre construction and re-screening of older theatres from 1997 through 2000. Over 1,270 newscreens opened in Canada during this period, with the industry reaching a peak of approximately 2,940 screensat the end of 2000. This expansion resulted in intensified competition for patronage and rendered many oldertheatres obsolete. The new screens, combined with the difficulty of closing older theatres as a result of theirlong-term, non-cancelable leases, created an oversupply of screens in many markets. However, since 2000,approximately 320 screens in Canada have been closed through restructuring and portfolio rationalizations.These closures have supported an increase in profitability and annual attendance per screen from 40,743 in 2000to 46,487 in 2002.
18
The following table presents information regarding the Canadian film exhibition industry since 1997:
AnnualAverage Attendance
Box Office Ticket FrequencyYear Revenues Attendance Price Total Screens Per Capita
Management believes the theatre overbuilding that resulted in unfavourable market conditions in 2000 and2001 is unlikely to recur for the following reasons:
• A majority of the desirable locations in Canada are now served by modern multiplex theatres of anappropriate size relative to their markets, making new theatre construction generally uneconomic inthese markets.
• The industry experience of 2000 and 2001 has limited the access to capital for expansion in competitivemarkets.
• Theatre owners have increased their focus on increasing return on invested capital rather than marketshare, revenue growth or screen additions, which was prompted in part by ownership changes.
Management believes that the type of modern multiplex format developed in recent years will continue tosatisfy consumer demands, and that another revolutionary change of theatre formats is unlikely to occur in theforeseeable future.
The Canadian film exhibition industry is characterized by higher levels of growth relative to the industry inthe U.S. Attendance in Canada grew at a compound annual growth rate of 5.1% from 1997 to 2002 compared toonly 3.3% for the U.S. Management believes that the Canadian market has further potential for growth, asindicated by its lower annual attendance frequency per capita of 4.2x in 2002 compared to 6.1x in the U.S.
The Partnership and Famous Players had a combined market share of approximately 75% of the totalCanadian box office revenues for the first eight months of 2003. The third largest industry participant,AMC Entertainment Inc., had approximately a 6% market share during the same period, and three othercompanies held regional market positions with national shares between 2% and 5%. By contrast, theU.S. market is much more fragmented, with the five largest theatre circuits accounting for 62% of total U.S. box
19
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office revenues in 2002. The following chart indicates the approximate market shares of various participants inthe Canadian film exhibition industry:
Market Share of Canadian Box Office RevenuesEight Months Ending August 31, 2003
Other7.9%Guzzo
3.5%Landmark
2.9%
Empire4.6%
AMC6.3%
Famous Players45.6%
The Partnership29.2%
Source: A.C. Nielsen EDI data.
Current Industry Trends
Management believes that the following market trends will drive the continued growth and profitability ofthe film exhibition industry in Canada:
Importance of Theatrical Success in Establishing Movie Brands and Subsequent Markets
Theatrical exhibition is the initial and most important distribution channel for new motion picture releases.A successful theatrical release which ‘‘brands’’ a film is often the determining factor in its popularity and value in‘‘downstream’’ distribution channels, such as home video, DVD and pay-per-view, network and syndicatedtelevision. Management believes that the critical importance of theatrical exhibition in the overall distribution offilms will ensure a steady supply of films supported by strong marketing.
Increased Investment in Production and Marketing of Films by Studios
Additional revenues generated by films in domestic, international and downstream markets have driven themajor studios to increase spending on producing and marketing new theatrical releases at a compound annualgrowth rate of 7.2% over the past ten years, from US$6.5 billion in 1992 to over US$13 billion in 2002. Increasedmarketing by major studios is focused on attracting larger audiences to theatres. This is reflected by theincreased number of ‘‘blockbuster’’ films that generated gross box office revenues in the U.S. and Canada inexcess of $100 million which increased from 11 in 1992 to 24 in 2002. The increased number of blockbuster filmshas generated more revenue for the major studios which management believes has generally been reinvested inproducing and marketing larger budgeted films.
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26SEP200300592079
The following chart demonstrates the increase in average spending per film in the U.S., particularlysince 1997:
U.S. Film Production and Marketing Investment — Average Spending per Film
Source: Motion Picture Association of America, 2003.
Increased Supply of Successful Films
Studios are increasingly producing films in series, such as Harry Potter, Lord of the Rings, Star Wars and TheMatrix. When the first film in a series is successful, subsequent films in that series benefit from existing publicawareness and anticipation. The result is that such features typically attract large audiences and generate strongbox office revenues. Management believes that as studios increasingly produce franchise films, exhibitors willbenefit from these films’ greater and more reliable revenues.
The success of a broader range of film genres also benefits film exhibitors. The studios’ success in producingand marketing of a wide variety of diverse yet commercially appealing movies such as Chicago, Seabiscuit, My BigFat Greek Wedding, Crouching Tiger, Hidden Dragon and A Beautiful Mind has expanded the demographic base ofregular movie-goers and also contributed to greater per capita attendance. The flexibility provided by differentsized auditoriums at modern multiplexes allows a wider variety of films to be available in a broader range ofmarkets. Management believes that this trend has contributed to the increased stability of theatre cash flows inrecent years.
Favourable Demographic Attendance Trends
The demographic segment of the movie-going population in the U.S. with the highest attendance, as well asconcessions and games spending, is between 12 to 17 years of age. In 1997, 42% of this segment of the total U.S.population attended movies at least once per month; by 2002 this figure had increased to 46%. Managementbelieves that similar movie-going and spending trends exist in Canada. According to Statistics Canada, theCanadian population between 10 to 19 years of age is expected to continue to increase over the next few years.
Another segment of the population in the U.S. that is attending more movies is the ‘‘baby boom’’generation, currently between the ages of 39 and 57. In Canada, this segment has increased from 22% of thepopulation in 1990 to over 28% in 2002 and, according to Statistics Canada, is expected to continue to increaseover the next few years. Management believes that this segment of the population has an increasing amount ofleisure time to attend films and, accordingly, they have become a significant target audience for film production.
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28SEP200306480215
Management believes that these demographic trends will result in higher attendance levels and continuedgrowth in the film exhibition business.
Convenient and Affordable Form of Out-of-Home Entertainment
Management believes that patrons are attending movies more frequently due to the appeal of movie-goingas a convenient and affordable form of out-of-home entertainment. With an average movie ticket price inCanada of only $7.39 in 2002, the movie-going experience continues to provide value and compares favourablyto alternative forms of out-of-home entertainment in Canada such as professional sporting events or live theatre,as demonstrated below. Also, management believes that the modern multiplex theatre format represents ahighly attractive entertainment destination, with an array of amenities, broad choice of movies and diversity ofconcession offerings.
Relative Price Range of Selected Out-of-Home Entertainment in Canada
$0.00
$50.00
$100.00
$150.00
$200.00
NHL NBA Major LeagueBaseball
Live Theatre Partnership’sMovie Tickets
Tic
ket P
rice
$3.50
$13.50
$182.00
$152.00 $151.15
$116.00
$13.48 $20.00
$6.00
$26.00
Source: NHL, NBA, MLB and Mirvish Productions (Toronto only).
Reduced Seasonality of Revenues
Historically, film exhibition industry revenues have been seasonal, with the most marketable motionpictures generally being released during the summer and the late-November through December holiday season.More recently, the seasonality of film exhibition attendance has become less pronounced as film studios haveexpanded the historical summer and holiday release windows and increased the number of heavily marketedfilms released during traditionally weaker periods. For example, successful films such as Hannibal, Spy Kids andIce Age were released in February and March, months with historically fewer major releases. This trend hasbenefited exhibitors by allowing them to more effectively leverage their fixed cost base throughout the year whileproviding greater stability of revenues and profitability. Management believes that this trend has reduced thetraditional seasonality of cash flows in the film exhibition industry and has increased aggregate box officerevenues as improved attendance in non-peak periods has not impacted attendance in traditional peak periods.
Diversification of Revenue Streams
While box office revenues continue to account for the largest portion of exhibitors’ revenues, concessionofferings, advertising, games, promotions and other ancillary revenue streams have increased as a share of totalrevenues. The margins on these other revenue streams, particularly advertising, are much higher than onadmission sales and have enhanced the profitability of the industry in general.
22
BUSINESS OF THE PARTNERSHIP
Overview
The Partnership is one of the two leading film exhibition companies in Canada. The Partnership owns,operates or has an interest in 81 theatres with 731 screens in six provinces. The Partnership’s box office revenuesfor the first eight months of 2003 represented approximately 29% of total Canadian box office revenues.
Cineplex Galaxy LP will be formed on Closing by the combination of the Cineplex Odeon and Galaxy filmexhibition businesses. This combination brings together two businesses with complementary target markets andstrategies. The Partnership operates theatres under the Cineplex Odeon brand, which has enjoyed an establishedurban market presence in Canada for over 20 years, and the newer Galaxy brand, which is rapidly developing areputation as a primary entertainment destination in mid-sized communities.
The Partnership’s 63 Cineplex Odeon theatres hold a leading market share in some of the most importantmarkets in Canada with more than 74% of the Cineplex Odeon screens being located in the top ten censusmetropolitan areas. The Cineplex Odeon theatres had approximately a 24% share of the total film exhibitionmarket in Canada, measured by box office revenues for the first eight months of 2003. Approximately 70% ofCineplex Odeon’s box office revenues were generated from modern multiplex theatres in the first eight monthsof 2003.
The Partnership’s 18 Galaxy theatres are all located in mid-sized markets (with regional populations of50,000 to 200,000 people). Since its inception in 1999, the Galaxy theatre circuit has grown to become the fourthlargest theatre circuit in Canada with an approximate 5% share of the total film exhibition market, measured bybox office revenues for the first eight months of 2003. Over 86% of Galaxy’s box office revenues were generatedfrom modern multiplex theatres in the first eight months of 2003. In all but one of Galaxy’s markets, thePartnership is the only operator of a modern multiplex theatre. Management believes that additionaldevelopment opportunities for new Galaxy theatres exist in underserved mid-sized markets in Canada.
The Partnership will continue to be affiliated with the Loews Cineplex theatre group, one of the world’slargest film exhibition companies, which will control or have an interest in 324 theatres with 3,164 screens afterClosing. Through this affiliation, the Partnership benefits from Loews Cineplex’s strong relationships with realestate developers, concession suppliers and advertisers. In addition, the Partnership maintains long-standingrelationships with all of the major film distributors, which generally provide the Partnership access to all of thefilms available in the marketplace.
The Partnership’s revenues are primarily generated from box office and concession sales, which in turn aredriven by attendance and price levels. Box office and concession revenues accounted for approximately 68% and27%, respectively, of the Partnership’s pro forma combined revenues for the twelve months ended December 31,2002. The Partnership has generated strong growth in normalized revenues and normalized EBITDA, asexhibited in the charts below. Normalized revenues increased approximately 26.7% and 26.1% for the 2001 and2002 fiscal years, respectively, as compared to their respective fiscal years. Normalized revenues decreased byapproximately 1.7% for the twelve months ended June 30, 2003 as compared to the twelve months endedDecember 31, 2002. This decline in normalized revenues was primarily the result of relatively higher attendancevolumes (and therefore greater box office and concession revenues) during the six months ended June 30, 2002,which was in turn largely driven by the strong film releases in that period such as Spider-Man and Ice Age.
Normalized EBITDA increased approximately 73.3% and 51.0% for the 2001 and 2002 fiscal years,respectively, as compared to their respective prior fiscal years. In each period there are non-cash accountingadjustments related to GAAP lease accounting. The impact of these adjustments in the twelve-month periodended June 30, 2003 is to reduce normalized EBITDA by $1.5 million as compared to the twelve-month periodended December 31, 2002. Normalized EBITDA in the twelve-month period ended June 30, 2003 decreased to
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2OCT200319092063
$58.8 million from $63.0 million in the twelve months ending December 31, 2002 as a result of the decline inrevenues in the related periods and the above stated GAAP adjustments.
Normalized Revenue(1) Normalized EBITDA(1)
(millions) (millions)
(1) Normalized revenue and normalized EBITDA represent the historical revenue and earnings before interest, taxes and amortization,adjusted for certain items that management believes facilitates the comparison of historical periods. See ‘‘Reconciliation of HistoricalRevenue to Normalized Revenue’’ and ‘‘Reconciliation of Historical Results to EBITDA and Normalized EBITDA’’, for a descriptionof these items. Normalized revenue and normalized EBITDA are not earnings measures recognized by GAAP and do not have astandardized meaning prescribed by GAAP. Therefore, normalized revenue and normalized EBITDA may not be comparable to similarmeasures presented by other issuers.
(2) Twelve months ended June 30, 2003.
Competitive Strengths
The following factors provide the Partnership with competitive advantages within the Canadian filmexhibition industry.
A Leading Canadian Exhibitor in a Consolidated Market
The Partnership’s theatres accounted for approximately 29% of Canadian box office revenues in the firsteight months of 2003. Based on box office revenues for this period, the Partnership and Famous Playersaccounted for approximately 75% of the film exhibition business in Canada. The remaining market competitorshave significantly smaller market positions and are primarily regional or local operators. The Partnership’s sizeand market position make it strategically important to film distributors, concession suppliers, advertisers andreal estate owners and developers.
Modern Theatre Circuit
The Partnership’s modern theatre circuit allows it to provide patrons with a premium movie-goingexperience, tailored to address specific market needs. Over the past seven years, the Partnership has investedapproximately $253 million in developing and upgrading its theatre circuit. As a result, 64% of the Partnership’sscreens are located in modern multiplex theatres, which generated 72% of the Partnership’s pro forma revenuesfor the twelve-month period ended December 31, 2002. The Partnership focuses on appropriately sizing itstheatres for each market and has an average of 9.0 screens per location, compared to the industry average of6.9 per location. Modern multiplexes also generally provide expanded concession offerings and ancillary revenueopportunities, which enhance profit potential. Management believes that the significant amounts spent by thePartnership building and refurbishing its theatre circuit over the past seven years should also result in lowermaintenance capital expenditure requirements for the Partnership in the near future.
Prominent Local Market Positions
The Cineplex Odeon theatres are generally located in major markets at very visible and prominent sites inhigh traffic areas. Of Cineplex Odeon’s 583 screens, 382 are located in free film zones, allowing the Partnershipto select from among all movies released, and management considers only five of the Cineplex Odeon locations
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to be highly competitive. The Galaxy theatres represent a primary entertainment destination in the majority oftheir markets with 17 of Galaxy’s 18 theatres located in markets with no other modern multiplex theatre.
Enhanced Theatre Portfolio
The restructuring of COC’s theatre portfolio in 2001-2002 significantly enhanced the Partnership’soperational flexibility and has created a meaningful competitive advantage over other exhibitors that have beenless aggressive in closing under-performing theatres and renegotiating leases. During its restructuringproceedings, COC conducted a comprehensive evaluation of its theatre portfolio, rejecting leases for 30locations (of a total of 109 locations at the time) and negotiating rent reductions and lease termination rights at43 continuing locations. Lease termination rights provide strategic flexibility to close underperforming locationsif necessary. See ‘‘— Cineplex Odeon Corporation Restructuring’’. COC was the only significant film exhibitorin Canada to undergo a formal reorganization. As the Partnership’s competitors rationalize their theatreportfolios, management believes that the Partnership’s theatre circuit will benefit from migration of patronage insome markets.
Well Positioned to Grow through New Theatre Development
The Partnership is well capitalized and strategically positioned to take advantage of opportunities to buildnew theatres in both mid-sized and large markets. The Partnership’s experience and track record in identifyingnew locations and successfully developing theatres will provide ongoing growth opportunities for thePartnership. The Partnership will continue to selectively pursue opportunities for Cineplex Odeon theatres inurban locations where it can effectively compete and continue to develop Galaxy theatres to enhance the movie-going experience of modern multiplexes to currently underserved markets. The Partnership’s experience willenable it to identify and build new theatres that deliver attractive returns to Unitholders. In 2003 to date, fivenew theatres have opened in Canada, four of which were built by the Partnership. On average, the last fiveCineplex Odeon theatres and last five Galaxy theatres built by the Partnership in film zones with no othermodern multiplex theatre have generated theatre level cash flow in relation to original capital cost (net of tenantinducements) during the twelve months ended June 30, 2003 in excess of 18% and 20%, respectively.
Experienced Management Team
Led by Ellis Jacob, Stephen Brown, Dan McGrath and Gord Nelson, the Partnership has assembled amanagement team with an average of 15 years of Canadian film exhibition industry experience and ademonstrated ability to increase cash flow and improve operating performance. The management team’s strongrelationships with major film distributors, concession suppliers, real estate owners and developers and otherbusiness partners also contribute to the Partnership’s operating performance. The senior management team issupported by regional and theatre-level managers focused on providing a premium movie-going experiencewhile at the same time minimizing operating costs. The management team’s interests are aligned with those ofthe Fund and the Unitholders through their ownership interests and incentive compensation. See ‘‘ExecutiveCompensation’’.
Relationship with Loews Cineplex Theatre Group
The Partnership will continue to be affiliated with the Loews Cineplex theatre group. The Loews Cineplextheatre group is one of the world’s largest film exhibition companies, which will control or have an interest in324 theatres with 3,164 screens after Closing, primarily in major cities throughout the United States, Canada,Mexico, Spain, Germany and South Korea. In the U.S., the Loews Cineplex theatre group operates 1,491 screensin 141 theatres and has the number one market share in the metropolitan areas of New York, Chicago andDetroit thus far in 2003. More than 75% of its U.S. theatres are located in the top ten designated metropolitanareas in the United States, and more than 90% of its U.S. theatres are located in the top 25 designatedmetropolitan areas. Through its affiliation with the Loews Cineplex theatre group, the Partnership will benefitfrom strong relationships with real estate developers, suppliers, advertisers and promotional partners.
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Strategy
The Partnership’s business strategy is to continue to enhance its position as a leading exhibitor in theCanadian market by focusing on providing customers with a premium movie-going experience. Key elements ofthe Partnership’s strategy include:
Leveraging Market Specific Operating Focus
The Partnership utilizes its distinct Cineplex Odeon and Galaxy brands and market specific operating focusto serve the widest range of markets with a premium movie-going experience tailored to the specific needs ofeach location. The Cineplex Odeon brand is among the oldest in the industry and is recognized for providingpremium quality theatre experiences. Most Cineplex Odeon theatres are located in major metropolitan marketsat prominent locations in high traffic areas. The Galaxy brand is focused on providing a premium movie-goingexperience in formerly underserved mid-sized markets in order to become a primary entertainment destinationwithin the community. The Partnership’s operating strategy includes a concentrated local marketing effort andcommunity interaction in all markets. Management currently believes there is an opportunity to apply Galaxy’smarket-specific operating focus to a number of existing Cineplex Odeon theatres located in mid-sized markets.
Maximizing Operating Efficiencies
The Partnership’s prominent market position enables it to effectively manage film, concession and othertheatre-level costs, thereby maximizing operating efficiencies. The Partnership will aggressively seek to achieveincremental operating savings by, among other things, implementing best practices and negotiating improvedsupplier contracts, in conjunction with the Loews Cineplex theatre group when appropriate. In addition, thePartnership expects to achieve operating synergies upon the combination of the operations of COC and GEIthrough the reduction of general and administrative expenses and by achieving economies of scale and scope.
Capitalizing on Ancillary Revenue Opportunities
The Partnership seeks to expand and further develop ancillary revenue opportunities, such as advertising,promotions, games and special events. These activities generate attractive margins and involve limitedincremental operating expense. The combination of Cineplex Odeon theatres and Galaxy theatres gives thePartnership the ability to offer advertisers a larger number of screens, which is expected to increase advertisingrevenue for the Partnership. Management believes that the Partnership’s size and market position will allow it toexploit new ancillary revenue opportunities more quickly and profitably than most of its competitors.
Pursuing Selected Growth Opportunities
The Partnership seeks to enhance its competitive position by seeking selected complementary developmentopportunities, improving and refurbishing theatres and pursuing selective acquisition opportunities. ThePartnership intends to only pursue expansion opportunities that meet certain strategic and financial returncriteria. The Partnership’s new theatre strategy will focus on locations unserved by a modern multiplex theatre inexpanding urban and suburban markets as well as mid-sized communities. Management believes that thePartnership has the financial strength, experience and flexibility to pursue attractive development andacquisition opportunities that are accretive to the Fund. The Partnership currently expects to open three newtheatres each year, if opportunities are available.
Operations
The Partnership’s revenues are primarily generated from box office and concession sales, which in turn aredriven by attendance and price levels. In addition, ancillary revenues from sources such as advertising andpromotions are an increasingly important component of the Partnership’s overall revenues and future growth.
Box Office and Concessions
Box office revenues accounted for approximately 68% of the Partnership’s pro forma revenues for thetwelve months ended December 31, 2002. The Partnership strives to provide its patrons with a premium movie-going experience, including a high level of customer service. This level of service, combined with targeted filmselection and the overall appeal of those films, drives attendance at the Partnership’s theatres. Tickets are sold at
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the Partnership’s theatres through box offices and automated ticketing machines, as well as remotely via thetelephone and, in the case of certain Cineplex Odeon theatres, the Internet. The Partnership also offerscorporate sales, group ticketing and gift certificates.
Concession revenues accounted for approximately 27% of the Partnership’s pro forma revenues for thetwelve months ended December 31, 2002. Concession sales have a much higher margin than admission sales.The Partnership’s theatres feature prominent and appealing primary concession stations designed for rapid andefficient service. Auxiliary concession stations offering a wide variety of products are also located throughoutmany of the Partnership’s larger theatres for additional sales. The Partnership continually seeks to increaseconcession sales by:
• Optimizing the product mix and introducing new product offerings, including offering ‘‘combos’’ of avariety of concession items.
• Training employees to cross-sell and up-sell products and providing incentives for such sales.
• Establishing visually appealing displays throughout the Partnership’s theatres.
• Reviewing appropriate pricing.
• Running special promotions.
• Targeting concession offerings to accommodate local tastes and patron requests.
Management believes that the Partnership has favourable concession supply contracts and has developed anefficient concession purchasing and distribution supply chain, enhanced by its close relationship with the LoewsCineplex theatre group. The Partnership negotiates directly with manufacturers for many of its concession itemsin order to obtain competitive prices and to ensure adequate supplies.
Ancillary Revenues
The Partnership is continually developing and expanding its revenue streams from sources other than boxoffice and concession revenues. Ancillary revenues accounted for 5% of the Partnership’s pro forma revenues forthe twelve months ended December 31, 2002.
Advertising. Advertising currently represents the Partnership’s largest source of ancillary revenues. ThePartnership’s in-theatre advertising programs currently consist of rolling stock and slide commercials (which areshown before feature presentations), video monitors, display signage, third party branding and productsampling. The Partnership offers advertisers a variety of packages that include options such as on-screen andin-lobby advertising, as well as third party branding and product sampling. In-theatre advertising generates highmargins because it utilizes existing theatre assets and personnel with minimal incremental capital and operatingcosts. The Partnership also acts as an agent on a commission basis for selling in-theatre advertising for severalother theatre exhibition circuits. Management believes that the concentration of Cineplex Odeon theatres inmajor metropolitan markets and the Partnership’s role as an agent for other exhibitors in Canada provides anattractive platform for advertisers by allowing them to target a large and desirable customer base. Managementexpects that the addition of the Galaxy theatres to this group will further enhance its attractiveness to screenadvertisers.
The potential addition of digital delivery and projection technologies may further improve the quality of themedia that the Partnership offers for sale to advertisers, enable the Partnership to streamline the delivery ofadvertising content and allow for more interactive and targeted marketing. The Partnership is evaluating third-party proposals that would provide it with cost-effective digital projection and delivery equipment.
In-theatre advertising is more broadly used by advertisers in many international markets than it is inCanada. For example, in-theatre advertising spending as a proportion of all advertising expenditures is threetimes higher in Europe than in Canada. Management believes that Canadian advertising sales will grow asin-theatre media becomes more accepted and new technologies emerge.
Games revenue. The Partnership’s theatre experience is complemented by games rooms featuring a broadvariety of current and popular game machines. The game machines are owned by third party suppliers, with thePartnership receiving a percentage of all sales. The third parties service and rotate game machines on a regularbasis.
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Other. The Partnership also generates ancillary revenues by leasing its theatres for motion picturepremieres and screenings, broadcasting sporting events, other entertainment related events, corporate eventsand private parties. Some of the Partnership’s theatres have earned reputations as the ‘‘preferred’’ theatres forthese events within their markets. Other sources of ancillary revenues include management fees (for bookingand operating non-owned theatres) and fees from ATMs located in theatre lobbies. The Partnership also haspromotional partnerships, which enhance its marketing capabilities. The Partnership is continually exploringadditional ancillary revenue opportunities.
Theatre Circuit
The Partnership owns, operates or has an interest in 81 theatres with 731 screens with an average of9.3 screens per Cineplex Odeon theatre and an average of 8.2 screens per Galaxy theatre. The Canadian filmexhibition industry as a whole has an average of approximately 6.9 screens per theatre. Approximately 75% ofthe Partnership’s screens have an age of seven years or less, approximately 64% of the Partnership’s auditoriumsfeature stadium seating and approximately 84% of the Partnership’s auditoriums have digital sound.
The Partnership’s modern multiplex theatres are designed to provide patrons with a premium movie-goingexperience and maximize profitability by matching the number of screens with the size of the market served. Inaddition, the Partnership’s auditorium seating capacities are varied within individual theatres, enabling it tomaximize revenues by shifting films to smaller or larger auditoriums in response to changing attendance levels.The Partnership is also able to achieve significant efficiencies by staggering show times and consolidating boxoffice, concession, projection and lobby facilities, which enables the Partnership to improve operating margins.
The table below shows the locations of screens and theatres operated by the Partnership:
Combined box officeshare by province
Cineplex Odeon for the first eighttheatres Galaxy theatres months of 2003(1)
In addition, the Partnership expects to open two Galaxy theatres in the next four months: one inSt. Thomas, Ontario (six screens) and one in Guelph, Ontario (ten screens).
The Partnership owns three theatres, leases 71 theatres independently and leases seven theatres with jointventure partners. In general, the Partnership leases theatres under long-term leases, with original terms typicallyranging from 15 to 20 years (with lease payment increases typically every five years) and containing variousrenewal options, usually in intervals of five to ten years and, in some cases, termination rights. Leases for 22theatres expire within five years (17 of which have renewal options). The Partnership’s theatre leases generallyprovide for minimum rental payments. Leases for four of the Partnership’s theatres also include a paymentbased upon a percentage of sales volume. The leases for several of the Cineplex Odeon theatres which wererenegotiated during COC’s restructuring provide both the tenant and the landlord the right to terminate thelease by providing notice, in some cases only upon the occurrence of certain events beyond the Partnership’scontrol. However, at the majority of these locations, the Partnership owns the equipment at the theatre whichwould make it economically difficult for a landlord to bring in a new theatre tenant.
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Two of the leased theatres will be leased by the Partnership from COC for nominal rent for an initial termof ten years (with four five-year renewal options). The Partnership may terminate either of these leases onsix months’ notice to COC. COC may terminate these leases by paying the Partnership an amount equal to thelast 12 months’ cash flow divided by the then current yield of the Fund. If COC terminates one of these leases, arestrictive covenant prohibiting future use of the property as a theatre will apply to COC. This restrictivecovenant will also apply if COC terminates one of the leases, but not the other. In the event of any termination,the Partnership will retain ownership of any equipment in the theatre. The Partnership will also leaseapproximately 25,000 square feet from COC in Toronto for its head office for an initial term of five years.
The Partnership operates seven theatres with local partners in the Province of Quebec. At five of thesetheatres, the Partnership manages all operations, administration and film booking. At the other two, thePartnership’s role is limited to film booking at both theatres and administrative services at one theatre. The jointventure agreements for these seven theatres all provide the Partnership and its joint venture partners with theright to offer to buy or sell its respective interest pursuant to a prescribed sale process.
After Closing, COC will retain ownership of six theatres in Canada which do not meet the strategic orfinancial criteria of Cineplex Galaxy LP, three of which are drive-in theatres. The Partnership intends to operatethese non-strategic theatres for COC for a fee based on a percentage of the revenues generated by such theatres.These theatres will continue to be operated under the Cineplex Odeon brand.
Theatre Management
Employee Training and Management. New theatre managers are required to complete an intensive andcomprehensive training program designed to encompass all phases of theatre operations, including thePartnership’s operating philosophy, guest service values, policies, procedures and standards. Theatre managersare also required to attend ongoing training programs. In addition, the Partnership has an incentivecompensation program for theatre-level employees that rewards employees for maximizing revenues andcontrolling operating expenses while complying with the Partnership’s operating standards.
Management Information Systems. Integrated theatre and corporate information systems enablemanagement to effectively manage the Partnership and enhance its ability to generate high margins. ThePartnership’s information reporting systems provide management with real-time information and daily reportsthat address all aspects of theatre operations, including box office receipts, concession sales, film booking,theatre operating performance data and payroll and workforce information.
The Partnership’s corporate systems capture transactional data from theatre-level systems nightly andincorporate such data into a centralized depository. This data is then used by management to monitor andmanage the performance of the theatres operated by the Partnership. By having access to real-time performancedata and theatre level and corporate systems, management can monitor theatre-level operations, adjust filmschedules and schedule the Partnership’s hourly workforce in immediate reaction to local attendance. ThePartnership updates its management information systems on a regular basis.
The corporate systems described above are provided to the Partnership by COC under the ServicesAgreement. See ‘‘— Services Agreement’’.
Quality Control. The Partnership has several programs in place to maintain quality and consistency withinits theatres, including a quality assurance program in all of its theatres to maintain clean, comfortable andmodern facilities. Regional managers and head office personnel also conduct regular inspections of thePartnership’s theatres. In addition, the Partnership operates a program that involves unannounced visits byunidentified customers who report on the quality of service, film presentation and cleanliness of each theatre.The Partnership also undertakes a stringent review of each new theatre opened with the intent of improvingfuture theatres from both a physical layout and cost perspective.
New Theatre Development
The Partnership is planning on enhancing its presence in mid-sized and larger markets both through theselective addition of new modern multiplex theatres at attractive locations and the remodeling, expansion and
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stadium retrofit of existing proven locations. Management believes that there remain select opportunities forprofitable new theatre development in Canada. These opportunities are available in underserved mid-sizedmarkets and some larger growing markets. Management believes that the Partnership is well positioned tocapitalize on these opportunities given its strong relationship with real estate developers, its access to capital andexperience in developing new theatres. In 2003 to date, five new theatres have opened in Canada, four of whichwere built by the Partnership.
The Partnership uses both in-house resources and outside consultants to identify and monitor developmentopportunities. Key considerations in site selection include demographic measures such as population growth,target age groups and average household income, as well as competing entertainment opportunities, trafficcounts and surrounding retail sales. Management believes that maintaining good relationships with real estatedevelopers is an important factor in securing new sites.
Any new project must also meet the Partnership’s strategic and financial objectives. The Partnershipprepares detailed financial projections based on its research to determine whether a new site would be accretiveto Unitholders.
Management expects that the Partnership will develop an average of three new theatres each year for thenext five years. The Partnership has already identified and has agreed to develop one new theatre and refurbisha second over the course of 2004 and 2005. Although theatre construction costs vary by size and location, atypical seven screen Galaxy theatre would cost approximately $5 million to build and a typical 12 screen CineplexOdeon theatre would cost approximately $12 million to build. This development program will be financed fromavailable credit facilities (see ‘‘Debt Financing’’), as well as contributions from landlords. In the Partnership’sexperience, landlords are willing to contribute a significant portion of the cost of building a new theatre.Management believes that the combination of capital spending appropriate to the relevant market and theattractive cash flow provided by new theatre locations in underserved markets should serve as an attractivesource of growth for the Fund.
In addition to constructing new theatres, the Partnership may selectively pursue accretive acquisitionopportunities of existing theatres in attractive markets.
Film Licensing
Relationships with Distributors. An important aspect of maintaining consistent box office revenues is havingaccess to all films available in the marketplace. In the first eight months of 2003, over 90% of all box officerevenues in Canada came from films distributed by the top nine distributors. No one film distributor accountedfor more than 20% of all box office revenues during this period. The Partnership maintains close relationshipswith all of the major distributors, as well as with smaller art and specialized distributors. As shown in thefollowing chart, the Partnership does not rely on any one distributor for its supply of films.
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28SEP200318112718
Partnership Film Supply By DistributorEight Month Period Ending August 31, 2003
Alliance Atlantis18%
Sony16%
Warner Bros.10%
Universal13%Buena Vista
(Disney)12%
TwentiethCentury
Fox9%
Paramount6%
DreamWorks4%
MGM/UA3%
Other9%
Source: A.C. Nielsen EDI data.
Evaluation of Films. The Partnership licenses films on a film-by-film and theatre-by-theatre basis bynegotiating directly with film distributors. Prior to negotiating for a film license, the Partnership evaluates theprospects for upcoming films. Criteria considered for each film include cast, director, plot, performance ofsimilar films, estimated film rental costs and expected rating from the provincial rating agencies. Successfullicensing depends upon management’s knowledge of trends and historical film preferences of the residents inmarkets served by each theatre, as well as on the availability of commercially successful motion pictures. Becausethe patrons of the Partnership’s theatres enjoy a wide variety of film genres, all types of movies fromindependent art and foreign films to Hollywood blockbusters are shown at the Partnership’s theatres. ThePartnership’s film buyers have significant experience in evaluating content across genres, and as a result caneffectively select films that they anticipate will play well in specific theatres.
Licensing Zones. In Canada, distributors establish film licensing zones ranging from several city blocks toseveral square kilometres, depending primarily upon population density. If there is more than one theatre in azone, a distributor will determine which theatre within that zone will show a film based on factors such as theexhibitor’s willingness to meet the distributor’s exhibition demands (such as film terms, length of run andscreening of trailers), location, quality of theatre and compatibility of the theatre with the film (e.g., soundtechnology). Over 70% of the Partnership’s screens are in film licensing zones where the Partnership is currentlythe sole exhibitor (‘‘free film zones’’). In these free film zones, film licenses are obtained by selecting a film fromamong those films being offered and through direct negotiations with the distributor.
Film Rental Fees. The rental fees for the films exhibited by the Partnership are based either on (a) agreedupon, or ‘‘firm’’, terms established prior to the opening of the film or (b) a mutually agreed settlement upon theconclusion of the film’s run. Under a firm terms formula, the Partnership pays the distributor a specifiedpercentage of box office receipts, with the percentages declining over the term of the film’s run. Firm term filmrental fees are generally the greater of (1) up to 70% of box office admissions, gradually declining to as low as30% over a negotiated period of time, and (2) a specified percentage of the excess of box office receipts afterdeducting a negotiated house allowance. The Partnership sometimes negotiates film rental fees where thedistributor is paid a fixed percentage over the license period. Rental fees that are subject to a settlement processare negotiated upon conclusion of the film’s run based upon how the film actually performs.
Duration of Film Licenses. The duration of the film licenses obtained by the Partnership are negotiatedwith distributors on a case-by-case basis, and depend on the performance of each film. Marketable movies thatare expected to have high box office revenues will generally have longer license terms than movies with moreuncertain performance and popularity.
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Marketing and Advertising
Distributors build awareness of major film releases through multimedia advertising campaigns that theyorganize and substantially all of which they finance. The Partnership strives to complement these efforts bymarketing a differentiated experience and environment in which films are presented. The Partnership’s effortscentre on seasonal calendar programs that extend across its theatre circuit. These programs are communicatedprimarily through newspapers, radio, Internet and in-theatre programs and are sometimes supported bydistributors and other promotional partners. This focus on enhancing the movie-going experience iscomplemented by a number of promotions and events, as well as community-based programs, such as benefitpremieres and advance screening programs. The Partnership leverages its promotional partnerships to achieveincreased traffic to its theatres and brand awareness through out-of-theatre campaigns involving a variety ofpromotional efforts. Management believes that these marketing efforts help to increase attendance, concessionsales and customer loyalty.
As new theatres are developed in a community, the Partnership will actively promote and market thetheatre in the months prior to opening. Management believes this focused marketing establishes the applicablebrand early within the community.
The Partnership utilizes advertising and movie schedules on marquees, in newspapers and throughtelephone services, as well as its own and other websites to inform patrons of film selections and show times. Inaddition, previews of both coming attractions and films presently playing on the Partnership’s screens are alsoexhibited and the Partnership’s logos are frequently included in film studio advertisements.
The Partnership currently operates a ‘‘Galaxy Elite’’ loyalty program through which its 60,000 membersearn points each time they attend a movie at a Galaxy theatre. Points may be redeemed for refreshment couponsand gift certificates. Galaxy Elite members receive a free weekly newsletter by email providing up-to-date showtimes and movie news. The Partnership also sends a weekly ‘‘reelm@il’’ email to approximately 300,000 CineplexOdeon patrons with show times for local theatres and movie trailers. The Partnership expects to implement anintegrated loyalty program at all of its theatres within the coming year.
The Partnership uses the Internet to allow patrons to access show times, view movie trailers, enter contestsand access links to promotional partners. Patrons can obtain information about the Partnership as well as showtimes by accessing the Partnership’s websites at www.cineplex.com or www.galaxycinemas.com. The informationon these websites is not part of this prospectus and not incorporated into this prospectus by reference.
Employees
The Partnership employs approximately 3,424 people, of which approximately 22% are full-time employeesand approximately 78% are part-time employees. Approximately 6% of the Partnership’s employees arerepresented by unions. The Partnership considers its employee relations to be very good.
Services Agreement
Effective on the Closing, the Fund, the Trust, Cineplex Galaxy LP, Cineplex Galaxy GP, COC and GEI willenter into the Services Agreement pursuant to which COC will provide certain services to the Fund, CineplexGalaxy LP, Cineplex Galaxy GP and GEI.
Under the Services Agreement, COC will provide to the Fund, Cineplex Galaxy LP, Cineplex Galaxy GPand GEI technology systems administration and maintenance, and software applications development andsupport services. See ‘‘— Theatre Circuit — Theatre Management — Management Information Systems’’.
In consideration for the provision of its services, COC will receive from Cineplex Galaxy LP an annual feeequal to US$500,000 (to be increased annually to adjust for increases in the consumer price index), plusUS$25,000 (to be increased annually to adjust for increases in the consumer price index) for each additionalgroup of eight theatre locations built or acquired by the Partnership following Closing (net of any theatreclosures). The service fee is subject to adjustment, to be determined by the parties to the Services Agreement, ifCOC is requested to provide additional services. The initial term of the Services Agreement shall be for a periodof ten years. The Services Agreement will be renewable for further five year periods upon expiry of each term,
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subject to the approval of the directors of Cineplex Galaxy GP who are independent of the LCE Group. TheServices Agreement may be terminated following certain customary events of default (including a materialdecline in performance by COC under the Services Agreement) or upon six months’ written notice if membersof the LCE Group cease to hold more than 10% of the Units on a fully diluted basis. The Services Agreementmay not be assigned by COC, directly or through a change of control of COC, except to another member of theLCE Group, without the prior consent of a majority of the directors of Cineplex Galaxy GP who areindependent of the members of the LCE Group.
Competition
The Partnership competes with other exhibitors on a local market-by-market basis. Management believesthat the principal competitive factors in the industry are:
• The ability to secure an appropriate variety of film product on favourable licensing terms.
• The seating capacity, location, quality and reputation of an exhibitor’s theatres.
• The level of customer service and amenities such as stadium seating and variety of concession offerings.
• The quality of projection and sound equipment at an exhibitor’s theatres.
• The ability and willingness to promote the films to be exhibited.
The Partnership’s theatres are subject to varying degrees of competition because competitors varysubstantially in size, number and proximity at each location. Forty of the Partnership’s 63 Cineplex Odeontheatres and 17 of the Partnership’s 18 Galaxy theatres are located in free film zones. In addition to competingfor patrons at its existing theatres, the Partnership also faces competition in acquiring and developing newtheatre sites and acquiring existing theatres. However, management believes that the Partnership’s prominentpresence in its core markets and the resulting operating efficiencies and expertise will continue to give thePartnership a competitive advantage over many of its competitors in those markets.
In most competitive local markets, Famous Players is the Partnership’s principal competitor. The remainingfilm exhibitors in Canada have significantly smaller market positions than the Partnership and primarily operateregional or local theatres.
In addition to competing with other exhibitors, the Partnership competes for the public’s leisure time anddisposable income with alternative forms of out-of-home entertainment such as sporting events, music concerts,live theatre and restaurants. The Partnership also competes with a number of at-home entertainmentalternatives and secondary movie distribution channels, such as cable and satellite television, DVDs and videocassettes, as well as pay-per-view services and downloads via the Internet.
Management believes that movie theatres compete well with alternative forms of out-of-homeentertainment as a result of their lower cost and higher availability. Management also believes that with theadvent of modern multiplex theatres, the cinema has become a meeting place as well as an entertainmentdestination. In the U.S. and Canada, annual attendance at first-run feature films in 2002 was approximately1.8 billion. By comparison, annual attendance in 2002 for four professional sports leagues — Major LeagueBaseball, the National Basketball Association, the National Football League and the National HockeyLeague — was 121 million.
Seasonality
Historically, the Partnership’s revenues have been seasonal with the most marketable motion picturesgenerally being released during the summer and the late-November through December holiday season. Morerecently, the seasonality of film exhibition attendance has become less pronounced as film studios haveexpanded the historical summer and holiday release windows and increased the number of heavily marketedfilms released during traditionally weaker periods. In addition, Cineplex Odeon theatres in major metropolitanmarkets give the Partnership access to a patronage that enjoys a wide variety of film genres, many of which arereleased on a less seasonal basis.
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Trademarks
Management believes the trademarks ‘‘Cineplex’’, ‘‘Cineplex Odeon’’ and ‘‘Galaxy’’ enjoy significant brandawareness in the Canadian film exhibition market. These trademarks, together with other trademarks owned byCOC and GEI, will be owned by the Partnership on completion of this Offering. The Partnership regularly addsto its portfolio of trademarks and takes a pro-active approach to protecting its brand identities. COC and itsaffiliates will be permitted to use certain trademarks, including the ‘‘Cineplex’’ and ‘‘Cineplex OdeonTrademarks’’ following Closing pursuant to a licence agreement with the Partnership.
Cineplex Odeon Corporation Restructuring
Background
Faced with significant operating shortfalls, excessive financial leverage and an inability to satisfactorilyachieve an informal restructuring with its key stakeholders, Loews Cineplex Theatres, Inc. (‘‘LCT’’), the parentcompany of COC at the time, filed for bankruptcy protection on February 15, 2001 under chapter 11 of theU.S. Bankruptcy Code. In Canada, COC had undertaken significant new theatre construction and re-screening ofolder theatres from 1997 through 2000. This expansion, together with significant expansion by COC’scompetitors, resulted in intensified competition for patronage and rendered many older theatres obsolete. Thenew screens, combined with the difficulty of closing older theatres as a result of their long-term, non-cancelableleases, created an oversupply of screens in many of COC’s markets. In light of these issues and its parentcompany’s decision to file for bankruptcy protection in the U.S., COC and certain of its Canadian subsidiariesfiled for creditor protection in Canada under the Companies’ Creditors Arrangement Act (the ‘‘CCAA’’) onFebruary 15, 2001. The CCAA restructuring filing was a separate Canadian reorganization conducted by COC.The CCAA proceedings were coordinated with the LCT chapter 11 proceedings based on the fact that LCT wasthe sole shareholder and largest creditor of COC. LCT and COC each emerged from its restructuringproceedings separately on March 21, 2002.
Management believes that the conditions which resulted in the restructuring of COC are unlikely toreoccur, primarily because a large proportion of the desirable locations in Canada are now served by modernmultiplex theatres of an appropriate size relative to their markets, making new theatre construction generallyuneconomic in these markets. Management also believes that the modern multiplexes constructed in recentyears will continue to satisfy consumer demands, and that another revolutionary change of theatre formats isunlikely to occur in the foreseeable future.
Portfolio Restructuring
The restructuring proceedings did not materially impact the day-to-day operations of COC. Pursuant to theCCAA proceedings, COC had the right during its restructuring to unilaterally repudiate and terminatecontractual obligations and agreements and to treat such obligations as affected claims in its restructuring plan.COC’s main contractual obligations, which were either repudiated and treated as affected claims or renegotiatedon terms acceptable to COC, were its theatre leases. The CCAA proceedings allowed COC to repositionsubstantially all of the leases which it believed required amendments on terms acceptable to COC. COC alsocompromised substantial guarantee obligations which existed prior to February 2001 based on certainguarantees provided by COC for theatre leases operated by LCT and/or its subsidiaries in the United States.Upon emergence from the CCAA on March 21, 2002, COC was positioned with a reorganized lease portfoliowhich allowed it to regain its competitive position in the Canadian market.
During the restructuring, COC closed 30 theatres in Canada. These theatres generated approximately$8.4 million in theatre-level cash flow losses for fiscal 2001. Theatre-level cash flow is measured by subtractingthe operating costs of a theatre (film rental costs, concession costs and other theatre operating costs) from therevenues generated by the theatre. In addition, since filing under the CCAA, COC has closed12 under-performing theatres by allowing leases to expire and selling properties. Also, as a result of therestructuring, COC was able to renegotiate ten theatre leases to provide solely for percentage rent, and38 theatre leases to provide shorter terms or a right in favour of COC to terminate such leases on very shortnotice (generally 30 to 90 days). These renegotiations significantly enhanced COC’s flexibility in responding tochanging market conditions.
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For additional information about the restructuring, see the notes to the consolidated financial statementsof COC.
Regulatory Environment
Competition Law
In 2000, the Competition Bureau commenced an investigation into certain alleged practices on the part ofdistributors and exhibitors of motion pictures in Canada (including Cineplex Odeon) which the CompetitionBureau believed might be having the effect of depriving certain exhibitors (i.e., exhibitors other than CineplexOdeon and Famous Players) access to top-grossing films. The investigation was terminated in 2002 without anyaction being taken by the Competition Bureau against any distributor or exhibitor.
Quebec Cinema Act
In the province of Quebec, film distributors and theatre operators must be licensed under the QuebecCinema Act and must obtain a permit for the exhibition of each print of a film. Generally, a permit will only beissued for English language prints if the distributor also makes the same number of French-dubbed prints of thesame film available to exhibitors for exhibition at the same time. However, distributors may obtain a provisionalpermit if a French-dubbed version does not exist when an application is made, allowing a distributor to distributeany number of English language prints for an initial 45 day period. In the Partnership’s experience, most majorEnglish language films are released simultaneously in both English and French.
Environmental
The Partnership owns, manages and/or operates theatres and other properties which are subject to certainfederal, provincial and local laws and regulations relating to environmental protection, including those governingpast or present releases of hazardous materials. Certain of these laws and regulations may impose liability oncertain classes of persons for the costs of investigation or remediation of such contamination, regardless of faultor the legality of the original disposal. These persons include the present or former owner or a person in care orcontrol of a contaminated property and companies that generated, disposed of or arranged for the disposal ofhazardous substances found at the property. As a result, the Partnership may incur costs to clean upcontamination present on, at or under its leased and owned properties, even if such contamination was presentprior to the commencement of the Partnership’s operations at the site and was not caused by its activities.
Other
The Partnership’s operations are subject to federal, provincial and local laws governing matters such asconstruction, renovation and operation of theatres (including accessibility for disabled people), as well as wagesand working conditions, health and sanitation requirements and licensing. Management believes that thePartnership’s theatres are in material compliance with all such laws.
SUMMARY OF DISTRIBUTABLE CASH
The following analysis has been prepared by management on the basis of the information contained in thisprospectus, more recent financial results available to management and management’s estimate of the amount ofexpenses and expenditures to be incurred by the Partnership as well as the effects of certain new theatres. Thisanalysis is not a forecast or a projection of future results. The actual results of operations of the Partnership forany period, whether before or after Closing, will likely vary from the amounts set forth in the following analysis,and such variation may be material.
Management believes that, upon completion of the Offering and the transactions described under ‘‘Fundingand Related Transactions’’, the Partnership will generate EBITDA from certain theatres that have been open forless than one year or are scheduled to open prior to December 31, 2003 and incur interest expenses,administrative costs and taxes that will differ from those contained in the historical financial statements or in theunaudited pro forma combined financial statements that are included elsewhere in this prospectus. In addition,in calculating cash available for distribution, the Partnership intends to continue to make maintenance capital
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expenditures consistent with its past practice. Although management does not have firm commitments for all ofthe aforementioned items and, accordingly, the complete financial effects of all of those items are not objectivelydeterminable, management believes that the following represents a reasonable estimate of what DistributableCash would have been for the twelve months ended June 30, 2003 had the Fund been in existence during suchtime:
(1) Assuming that the Fund and the Partnership were in existence for the period indicated.
(2) Certain financial information has been derived from the financial information of COC and GEI contained elsewhere in this prospectus.See ‘‘Definition of EBITDA and Normalized EBITDA’’. Normalized EBITDA is not a recognized measure under GAAP and does nothave a standardized meaning prescribed by GAAP. Therefore, Normalized EBITDA may not be comparable to similar measurespresented by other issuers. See ‘‘Reconciliation of Historical Results to EBITDA and Normalized EBITDA’’.
(3) As a result of the consolidation of the COC and GEI businesses, the Partnership intends to eliminate certain duplicative andunnecessary administrative and operating expenses. The basis for this adjustment is an anticipated reduction in: (i) head office andregional management staff; and (ii) professional fees resulting from the consolidation of the two businesses under commonmanagement.
(4) Four Galaxy theatres were opened during the twelve-month period ended June 30, 2003, one Cineplex Odeon theatre in NorthEdmonton was opened in July 2003 and two Galaxy theatres which are currently under construction are scheduled to open prior toDecember 31, 2003 (collectively, the ‘‘New Theatres’’). Collectively, the five open New Theatres generated $0.7 million and $2.5 millionof cash flow for the twelve months ended June 30, 2003 and for the twelve months ended August 31, 2003, respectively (after reflectingestimated loss in cash flow from two adjacent theatres in North Edmonton). Management estimates that if the five New Theatres thatare currently open had been open throughout the entire twelve months ended June 30, 2003, such theatres would have generatedadditional cash flow of $7.1 million (after reflecting estimated loss in cash flow from two adjacent theatres in North Edmonton).Management estimates that if the seven New Theatres had been open throughout the entire twelve months ended June 30, 2003, suchtheatres would have generated additional cash flow of $9.1 million (after reflecting estimated loss in cash flow from two adjacenttheatres in North Edmonton). See ‘‘Management’s Discussion and Analysis of Combined Financial Condition and Results ofOperations — Outlook’’. Pursuant to the terms of the Support Agreement, approximately $21.9 million of the proceeds of this Offeringwill be held in escrow to fund shortfalls, if any, as described in the Support Agreement, in the anticipated cash flows to be generatedfrom the New Theatres for the period from Closing until no later than December 31, 2006. The escrow amount will be reduced, and maybe fully released on, each of December 31, 2004 and December 31, 2005 based upon actual cash flow performance of the New Theatresfor the preceding twelve months to the extent certain cash flow targets for the New Theatres are met. See ‘‘Support Agreement’’.
(5) Adjustments to reflect the impact of (i) certain non-cash theatre occupancy accounting adjustments related to the amortization ofdeferred tenant inducements and the difference between the straight-line rent expense and the cash rent payments actually made;(ii) capital taxes paid by COC that will no longer be applicable; and (iii) an adjustment to reflect deferred revenue relating to the sale ofgift certificates.
(6) Adjustments to reflect: (i) changes to certain contractual arrangements, specifically related to beverage supply agreements and taxespayable on film costs; and (ii) certain one-time expenses pertaining to periods prior to July 1, 2002.
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(7) Represents estimated interest expense on the New Credit Facilities described under ‘‘Debt Financing’’, based on assumed drawings of$110 million at an interest rate of 6.0%, based on three-year floating-to-fixed interest swap rates on the term credit facility.
(8) The Partnership estimates that, subsequent to the Offering, it will incur additional general and administrative costs on a continuing basisin connection with reporting to Unitholders, investor relations and other related expenses.
(9) Represents estimated large corporation taxes of $141,000 per year and no income taxes assuming the Fund was in existence for thetwelve months ended June 30, 2003.
(10) Calculated on a fully-diluted basis.
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SELECTED FINANCIAL INFORMATION
The following selected financial information of COC and GEI has been derived from and should be read inconjunction with the historical financial statements of COC and GEI contained elsewhere in this prospectus.
12-month Six-month Six-monthperiod ended period ended period ended
2000(1) 2001(1) 2002(1) June 30, 2003(2) June 30, 2002 June 30, 2003
(1) Financial information is based on the financial information of each of COC and GEI contained elsewhere in this prospectus. Financialinformation in respect of 2000 is based upon the financial statements of GEI for the year ended December 31, 2000 and the financialstatements of COC for the year ended February 28, 2001; financial information in respect of 2001 is based upon the financial statementsof GEI for the year ended December 31, 2001 and the financial statements of COC for the year ended February 28, 2002; financialinformation in respect of 2002 is based upon the audited combined financial statements of GEI and COC for the period endedDecember 31, 2002 (which statements include twelve months of financial information in respect of GEI and nine months of financialinformation in respect of COC) and includes financial information of COC for the period from January 1, 2002 to March 31, 2002 whichis unaudited.
(2) The amounts for the twelve months ended June 30, 2003 are unaudited and have been derived from the financial results for the yearended December 31, 2002 and the six-month period ended June 30, 2003 and 2002 and COC’s three-month period ended March 31,2002 included in this table and elsewhere in this prospectus. The results of operations for this period are not necessarily indicative of theresults of operations to be expected in any given fiscal year.
(3) The amounts are derived from the audited historical financial statements of COC and GEI included elsewhere in this prospectus.
(4) See ‘‘Definition of EBITDA and Normalized EBITDA’’. EBITDA is not a recognized measure under GAAP and does not have astandardized meaning prescribed by GAAP. Therefore, EBITDA may not be comparable to similar measures presented by other issuers.See ‘‘Reconciliation of Historical Results to EBITDA and Normalized EBITDA’’.
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(5) Income (loss) from continuing operations is calculated as Net Income excluding tax.
(6) Normalized Revenue and Normalized EBITDA represent the historical revenue and earnings before interest, taxes and amortization,adjusted for certain items that management believes facilitates the comparison of historical periods. See ‘‘Reconciliation of HistoricalRevenue to Normalized Revenue’’ and ‘‘Reconciliation of Historical Results to EBITDA and Normalized EBITDA’’ for a description ofthese items. Normalized Revenue and Normalized EBITDA are not earnings measures recognized by GAAP and do not have astandardized meaning prescribed by GAAP. Therefore, Normalized Revenue and Normalized EBITDA may not be comparable tosimilar measures presented by other issuers.
(7) Numbers of theatres and screens have been adjusted to reflect theatres that were closed as a result of COC’s reorganization andproperties that will not be transferred to the Partnership on Closing.
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RECONCILIATION OF HISTORICAL REVENUE TO NORMALIZED REVENUE
Because the Fund will distribute substantially all of its cash on an ongoing basis (after providing for certainretained amounts), management believes that Normalized Revenue is an important measure in evaluating theperformance of the Partnership and in determining whether to invest in the Units. However, NormalizedRevenue is not a recognized earnings measure under GAAP and does not have a standardized meaningprescribed by GAAP. Therefore, Normalized Revenue may not be comparable to similar measures used by otherissuers. Investors should be cautioned that Normalized Revenue should not be construed as an alternative torevenue determined in accordance with GAAP as an indicator of the Partnership’s performance or to cash flowsfrom operating, investing and financing activities as a measure of liquidity and cash flows. Management definesand has computed Normalized Revenue based on the definition of ‘‘Normalized Revenue’’ in the SelectedFinancial Information of this prospectus. The following table reconciles Normalized Revenue to revenue, basedon the historical combined financial statements and pro forma financial statements of the Partnership for theperiods indicated.
Twelve-month Six-month Six-monthperiod ended period ended period ended
2000(1) 2001(1) 2002(1) June 30, 2003(2) June 30, 2002 June 30, 2003
(1) Financial information is based on the financial results of each of COC and GEI contained elsewhere in this prospectus. Financialinformation in respect of 2000 is based upon the financial statements of GEI for the year ended December 31, 2000 and the financialstatements of COC for the year ended February 28, 2001; financial information in respect of 2001 is based upon the financial statementsof GEI for the year ended December 31, 2001 and the financial statements of COC for the year ended February 28, 2002; financialinformation in respect of 2002 is based upon the combined financial statements of GEI and COC for the year ended December 31, 2002(which statements include twelve months of financial information in respect of GEI and nine months of financial information in respectof COC) and includes financial information of COC for the period from January 1, 2002 to March 31, 2002 which is unaudited.
(2) The amounts for the twelve months ended June 30, 2003 are unaudited and have been derived from the combined financial results forthe year ended December 31, 2002 and the six-month period ended June 30, 2003 and 2002 and COC’s three-month period endedMarch 31, 2002 included in this table and elsewhere in this prospectus. The results of operations for this period are not necessarilyindicative of the results of operations to be expected in any given fiscal year.
(3) These amounts are taken from the audited historical financial statements of COC and GEI included elsewhere in this prospectus.
(4) Revenue represents the historical revenue for the periods indicated. Normalized revenues represent historical revenues adjusted toexclude the revenues attributable to certain theatres that were closed by COC as part of its reorganization and the revenues attributableto the six theatres that will remain with COC after the Closing that management believes facilitates the comparison of historical periods.
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RECONCILIATION OF HISTORICAL RESULTS TO EBITDA AND NORMALIZED EBITDABecause the Fund will distribute substantially all of its cash on an ongoing basis, management believes that
EBITDA and Normalized EBITDA are important measures in evaluating the performance of the Partnershipand in determining whether to invest in the Units. However, EBITDA and Normalized EBITDA are notrecognized earnings measures under GAAP and do not have standardized meanings prescribed by GAAP.Therefore, EBITDA and Normalized EBITDA may not be comparable to similar measures presented by otherissuers. Investors are cautioned that EBITDA and Normalized EBITDA should not be construed as analternative to net income or loss determined in accordance with GAAP as indicators of the Partnership’sperformance or cash flows from operating, investing and financing activities as a measure of liquidity and cashflows. The Partnership defines and has computed EBITDA and Normalized EBITDA as described under‘‘Definition of EBITDA and Normalized EBITDA’’. The following table reconciles EBITDA and NormalizedEBITDA to income (loss) from operations, based on the historical consolidated financial statements of each ofCOC and GEI for the periods indicated.
Twelve-month Six-month Six-monthperiod ended period ended period ended
2000(1) 2001(1) 2002(1) June 30, 2003(2) June 30, 2002 June 30, 2003
Notes:(1) Financial information is based on the financial results of each of COC and GEI contained elsewhere in this prospectus. Financial
information in respect of 2000 is based upon the financial statements of GEI for the year ended December 31, 2000 and the financialstatements of COC for the year ended February 28, 2001; financial information in respect of 2001 is based upon the financial statementsof GEI for the year ended December 31, 2001 and the financial statements of COC for the year ended February 28, 2002; financialinformation in respect of 2002 is based upon the audited combined financial statements of GEI and COC for the year endedDecember 31, 2002 (which statements include twelve months of financial information in respect of GEI and nine months of financialinformation in respect of COC) and includes financial information of COC for the period from January 1, 2002 to March 31, 2002 whichis unaudited.
(2) The amounts for the twelve months ended June 30, 2003 are unaudited and have been derived from the combined financial results forthe year ended December 31, 2002 and the six-month period ended June 30, 2003 and 2002 and COC’s three-month period endedMarch 31, 2002 included in this table and elsewhere in this prospectus. The results of operations for this period are not necessarilyindicative of the results of operations to be expected in any given fiscal year.
(3) EBITDA represents the historical earnings before interest, taxes, depreciation and amortization of COC and GEI and NormalizedEBITDA represents EBITDA adjusted for certain items that management believes facilitates the comparability of historical periods.Normalized EBITDA: (i) excludes losses on impairment of theatre assets, (ii) excludes costs incurred in connection with COC’sreorganization, (iii) excludes gains realized in the extinguishment of certain indebtedness in connection with COC’s reorganization,(iv) excludes the effect of restructuring charges, (v) excludes the effect of gain on investment disposal, (vi) excludes the effects of certaintheatres that were closed by COC as a part of its reorganization process as well as certain assets to be retained by COC that are notintegral to COC’s film exhibition business, (vii) reflects amendments to contractual lease arrangements achieved by COC through itsreorganization, (viii) excludes the effect of management fees to be terminated on Closing, (ix) excludes foreign currency exchangeeffects which, as a result of the transactions described in this prospectus, the Partnership does not expect to continue to incur, and(x) excludes gains on disposal of certain theatre assets. EBITDA and Normalized EBITDA are not earnings measures recognized byGAAP and do not have a standardized meaning prescribed by GAAP. Therefore, EBITDA and Normalized EBITDA may not becomparable to similar measures presented by other issuers.
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CONSOLIDATED CAPITALIZATION OF THE FUND
The following table sets forth the consolidated capitalization of the Fund both before and after giving effectto the Offering.
(1) The Fund was initially settled on October 2, 2003 with $10.00.
(2) Without giving effect to any exercise of the Over-Allotment Option granted to the Underwriters. Sufficient Units will be reserved forissuance to satisfy the Fund’s obligations to issue Units in connection with the exchange rights granted to the Investors pursuant to, andas contemplated by, the Exchange Agreement. See ‘‘Funding and Related Transactions — Exchange Agreement’’.
CONSOLIDATED CAPITALIZATION OF THE PARTNERSHIP
The following table sets forth the consolidated capitalization of the Partnership at each of the followingtimes: (i) immediately before the Offering and (ii) after giving effect to the Offering and the transactionscontemplated under ‘‘Funding and Related Transactions’’.
As at 1, 2003,after giving effect
Designation Authorized As at 1, 2003 to the Offering
(1) Without giving effect to any exercise of the Over-Allotment Option granted to the Underwriters.
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DEBT FINANCING
Cineplex Galaxy LP will implement a financing strategy that (i) incorporates revolving credit facilities and aterm credit facility; and (ii) maintains maximum flexibility to appropriately manage Cineplex Galaxy LP’sshort-term cash needs and the funding of future growth, including the development of new theatres or theacquisition of existing theatres.
Canadian financial institutions, including affiliates of the Underwriters, have provided a firm underwrittencommitment to make available to Cineplex Galaxy LP at Closing new credit facilities, which include revolvingcredit facilities of up to $60 million and a term credit facility in the amount of $110 million (the ‘‘New CreditFacilities’’), subject to the satisfaction of certain customary conditions.
As of September 26, 2003, GEI had long-term third party debt of $31 million. The New Credit Facilities,together with a portion of the proceeds of the Offering, will be used to repay such existing credit facilities. See‘‘Use of Proceeds’’.
Below is a brief summary of the New Credit Facilities:
Revolving Facilities: Two senior secured revolving credit facilities (collectively, the ‘‘Revolving Facilities’’),one in the principal amount of $20 million (the ‘‘Working Capital Facility’’) and the other in the principalamount of $40 million (the ‘‘Development Facility’’).
The Working Capital Facility is for general corporate purposes, including up to $10 million to stabilizemonthly cash distributions to be paid by the Partnership throughout the year. This facility is a three yearrevolving term loan. The Working Capital Facility is repayable in full at maturity.
The Development Facility is a revolving term loan with a three year term. The purpose of this facility is tofinance the development or acquisition of theatre projects approved by the Trustees. This facility is repayable atmaturity with no scheduled repayments of principal required prior to maturity.
Term Facility: Senior secured term facility in an amount of $110 million (the ‘‘Term Facility’’). The TermFacility will mature three years after the closing of the New Credit Facilities, with no scheduled repayments ofprincipal required prior to maturity.
Loans under the Revolving Facilities and the Term Facility are repayable without any prepayment penaltiesand will bear interest at a floating rate based on the Canadian dollar prime rate or on the bankers acceptancerates plus, in each case, an applicable margin to those rates. Letters of Credit are also available under theDevelopment Facility on customary terms for facilities of this nature.
Pursuant to the New Credit Facilities security will be granted over all of the Partnership’s assets, including:(i) Cineplex Galaxy LP’s shares of GEI, and (ii) the assets of Cineplex Galaxy LP, Cineplex Galaxy GP and GEI.The New Credit Facilities will also be guaranteed by GEI. The Trust will guarantee the indebtedness and grant asecurity interest over its assets, including a pledge of its Class A LP Units, shares of Cineplex Galaxy GP and theGalaxy Notes.
The New Credit Facilities will be subject to customary terms and conditions for borrowers of this nature,including limits on incurring additional indebtedness, granting liens or selling assets without the consent of thelenders. The New Credit Facilities will also be subject to the maintenance of a maximum ratio of total debt toEBITDA and a minimum ratio of EBITDA to fixed charges (i.e., the sum of taxes and debt service, includingcapital lease payments, and rent). A change of control (as defined in the credit agreement) of CineplexGalaxy LP will be an event of default under the New Credit Facilities. The New Credit Facilities may in certaincircumstances restrict Cineplex Galaxy LP’s ability to pay distributions on LP Units, including limitingdistributions unless sufficient funds are available for the repayments of indebtedness and the payment of interestexpenses and taxes. The New Credit Facilities will be in place on Closing and $ 1 is expected to be drawn atClosing.
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MANAGEMENT’S DISCUSSION AND ANALYSIS OF COMBINEDFINANCIAL CONDITION AND RESULTS OF OPERATIONS
The following management’s discussion and analysis of the Combined Cineplex Odeon Corporation and GalaxyEntertainment Inc. financial condition and results of operations should be read together with the combined financialstatements and related notes included elsewhere in this prospectus. This discussion contains forward-lookingstatements. Please see ‘‘Special Note Regarding Forward-Looking Statements’’ for a discussion of the risks,uncertainty and assumptions relating to these statements.
Overview
Cineplex Odeon Corporation (‘‘COC’’) and Galaxy Entertainment Inc. (‘‘GEI’’) (collectively ‘‘theCompany’’ or ‘‘Company’’) combined represent Canada’s second largest film exhibition company with theatresin six provinces. The Company’s theatre circuit is concentrated in major metropolitan and mid-sized marketswith principal geographic areas being Toronto, Montreal, Vancouver, Calgary, Edmonton, Ottawa andQuebec City. As of June 30, 2003, the Company owned, operated or had an interest in 755 screens in 88 theatresincluding 57 screens in seven theatres held in joint ventures.
Revenues
The Company generates revenues primarily from box office and concession sales. In addition, the Companygenerates ancillary revenues from screen advertising sales, promotional activities and theatre management fees.These revenues are affected primarily by attendance levels and by changes in the average per patron admissionand concession revenues. The commercial appeal of the films released during the period and the associated levelof marketing and promotion for those films by film studios and distributors drives attendance. Averageadmissions per patron are affected by the mix of film genres (e.g., its appeal to certain audiences, such aschildren, teens or young adults) and established ticket prices. Average concession revenue per patron is affectedby concession product mix, concession prices and type of film. Other ancillary revenues are generated from suchsources as game rooms, leasing theatres for motion picture premieres and screenings, private parties andcorporate events.
Expenses
Theatre operations and other expenses consist of fixed and variable expenses, including film rental,marketing and advertising, salaries and wages, lease expense, utilities, maintenance and other occupancy relatedcharges. Certain operating costs, such as film rental costs, salaries and wages and the cost of concessions, willvary directly with changes in revenues and attendance levels. Film rental fees are accrued on the related boxoffice receipts at either mutually agreed-upon (or ‘‘firm’’) terms, established prior to the opening of the film, oron a mutually agreed settlement upon conclusion of the film’s run, depending upon the film licensingarrangement. Although theatre salaries and wages include a fixed cost component, these expenses vary inrelation to revenues as theatre staffing levels are adjusted to handle fluctuations in attendance.
Lease expenses are primarily a fixed cost at the theatre level because the Company’s theatre leasesgenerally require a fixed monthly minimum rent payment. However, many of the Company’s theatre leases alsoinclude a percentage rent clause whereby the landlord is paid an additional amount of rent based upon revenuesover a specified threshold.
General and administrative expenses are primarily costs associated with executive and corporatemanagement and the overhead of the Company’s business, which includes functions such as film buying,marketing and promotions, operations and concession management, accounting and financial reporting, legal,treasury, construction and design, real estate development and administration and information systems. TheCompany’s general and administrative costs primarily consist of payroll, occupancy costs related to its corporateoffice in Toronto, Ontario, professional fees (such as audit and legal fees) and travel and related costs. TheCompany’s general and administrative staffing and associated costs are maintained at a level that it deemsappropriate to manage and support the size and nature of its theatre portfolio and its business activities.
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Accounting for Joint Ventures
The financial statements incorporate the operating results of joint ventures in which the Company has aninterest using the proportionate consolidation method as required by generally accepted accounting principles inCanada (‘‘GAAP’’).
Results of Operations
The following table presents certain of the Company’s financial data as a percentage of revenues. All costsin the table are expressed as a percentage of total operating revenues. The comparative amounts for June 30,2002 include six months of operations for COC.
Period Ended Six Months Ended Six Months EndedDecember 31, 2002 June 30, 2003 June 30, 2002
Results of Operations for the Period Ended December 31, 2002
The period ended December 31, 2002 includes the operations of the Company for the period that it was anentity under the common control of Onex Corporation (12 months ended December 31, 2002 for GEI and ninemonths ended December 31, 2002 for COC). During the period ended December 31, 2002, total operatingrevenues of $255.8 million and income before undernoted of $41.6 million were favourably impacted by anincrease in attendance volume due to the strong performance of films exhibited in the period includingSpider-Man, The Lord of the Rings, Star Wars, Harry Potter and My Big Fat Greek Wedding. Additionally, revenueswere favourably impacted by improvements in average admission revenues per patron and average concessionrevenues per patron as a result of product improvements and price adjustments. Accordingly, theatre operationsand other expenses were impacted with incremental costs commensurate with these revenue increases.
Six Months Ended June 30, 2003 Compared to the Six Months Ended June 30, 2002
The period ended June 30, 2003 includes the operations of GEI and COC for the six months ended June 30,2003. The period ended June 30, 2002 includes the operations of GEI for the six months ended June 30, 2002and the operations of COC for the three months ended June 30, 2002. However the discussion that follows ispresented as if COC was an entity under common control for the six month period January 1, 2002 throughJune 30, 2002.
Total revenues. Total revenues for the six months ended June 30, 2003 decreased $7.0 million, or 4.4%, to$152.2 million from $159.2 million for the six months ended June 20, 2002. A discussion of the factors affectingthe changes in box office, concession and other revenues is provided below.
Box office revenues. Box office revenues for the six months ended June 30, 2003 decreased $4.7 million, or4.4%, to $103.1 million from $107.8 million for the six months ended June 30, 2002. This decrease in boxoffice revenues was due primarily to lower attendance levels ($15.6 million) at existing theatres due to thelack of strong releases such as Spider-Man and Ice Age which played in the prior year. This was partially
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offset by additional revenues from the operation of new theatres ($2.7 million) and an improvement inaverage admission revenues per patron ($8.2 million) primarily as a result of price adjustments that wereimplemented.
Concession revenues. Concession revenues for the six months ended June 30, 2003 decreased $3.0 million,or 7.0%, to $40.5 million from $43.5 million for the six months ended June 30, 2002. The decrease inconcessions revenues was due primarily to lower attendance levels ($6.3 million) at existing theatrespartially offset by additional revenues from the operation of new theatres ($1.1 million) and animprovement in average concession revenues per patron ($2.2 million) as a result of productivityimprovements and price adjustments that were implemented.
Other revenues. Other revenues for the six months ended June 30, 2003 increased $0.9 million, or 10.5%,to $8.7 million from $7.8 million for the six months ended June 30, 2002. This increase was due primarily toadditional revenue from the operations of new theatres and increases in miscellaneous income.
Theatre operations and other expenses. Theatre operations and other expenses for the six months endedJune 30, 2003 decreased $2.3 million, or 2.1%, to $109.3 million from $111.6 million for the six months endedJune 30, 2002. The overall decrease in theatre operating costs was due primarily to lower attendance levels($8.6 million) at existing theatres and a decrease in other costs ($0.6 million) partially offset by the incrementalcosts associated with new theatres that were opened ($2.6 million) and the costs associated with theimprovement in admission revenue per patron ($4.3 million). As a percentage of total revenues, theatreoperations and other expenses increased to 71.8% in the six months ended June 30, 2003 from 70.1% in the sixmonths ended June 30, 2002.
Cost of concessions. Cost of concessions for the six months ended June 30, 2003 decreased $0.9 million, or11.0%, to $7.1 million from $8.0 million for the six months ended June 30, 2002. This decrease in cost ofconcessions was due primarily to lower attendance levels ($1.2 million) at existing theatres partially offset by theincremental costs associated with new theatres that were opened ($0.3 million). As a percentage of concessionrevenues, cost of concessions decreased from 18.4% in the six months ended June 30, 2002, to 17.6% in the sixmonths ended June 30, 2003.
General and administrative costs. General and administrative costs for the six months ended June 30, 2003increased $0.4 million, or 6.0%, to $6.9 million from $6.5 million for the six months ended June 30, 2002. Thisincrease in general and administrative costs was primarily due to inflationary increases. As a percentage of totalrevenues, general and administrative expenses increased to 4.6% in the six months ended June 30, 2003 from4.1% in the six months ended June 30, 2002.
Management Fee. The management fee, which was paid to Loews Cineplex Theatres, Inc. (‘‘LCT’’),remained constant at $5.2 million for both periods.
Income before undernoted. The Company reported income before undernoted for the six months endedJune 30, 2003 of $23.6 million as compared to income before undernoted of $27.8 million for the six monthsended June 30, 2002. This change was due to the aggregate effect of the factors described above.
Amortization costs. Amortization costs for the six months ended June 30, 2003 decreased $0.6 million, or5.4%, to $8.9 million from $9.5 million for the six months ended June 30, 2002. This decrease was due primarilyto theatres disposed of during the prior period.
Restructuring charges. Restructuring charges for the period ended June 30, 2002 primarily includeseverance payments associated with headcount reductions.
Loss (gain) on disposal of theatre assets. Loss (gain) on disposal of theatre assets primarily represents thegains or losses on theatres that were sold or otherwise disposed of. For the six months ended June 30, 2003 theCompany reported a nominal loss as compared to a gain on disposal of theatre assets of $7.0 million for the sixmonths ended June 30, 2002. The gain on disposal of theatre assets for the six months ended June 30, 2002, wasprimarily due to the write-off of unamortized tenant inducements on theatres repudiated in fiscal 2002.
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Interest on long-term debt. Interest on long-term debt for the six months ended June 30, 2003 decreased to$1.2 million from $1.3 million for the six months ended June 30, 2002. The decrease was due primarily to adecrease in interest expense related to the debtor-in-possession financing.
Interest income. Interest income represents interest earned on cash and cash equivalents. Interest incomefor the six months ended June 30, 2003 remained flat compared to the six months ended June 30, 2002.
Reorganization costs. Reorganization costs for the six months ended June 30, 2002 were $75.5 million ascompared to $nil for the six months ended June 30, 2003. Reorganization costs, directly associated with thereorganization proceedings under COC’s CCAA filing, include amounts related to (i) landlord claims related tothe repudiation of theatres in Canada and (ii) accruals or payments for professional and advisory fees incurreddirectly related to and subsequent to the bankruptcy filing on February 15, 2001. These charges were partiallyoffset by the termination of any remaining liabilities of $2.8 million under the Investment Canada Act due to thechange in ownership which resulted from the acquisition of LCT, COC’s parent company, by Onex Corporationand OCM Cinema Holdings, LLC.
Exchange loss (gain). The Company reported an exchange gain of $3.8 million for the six months endedJune 30, 2003 as compared to an exchange loss of $17.5 million for the period ended June 30, 2002. The changein foreign exchange was due primarily to an increase in the value of COC’s functional currency, the Canadiandollar, over the comparable levels in the corresponding period in 2002. In addition, a liability in the amount ofUS$233.8 million due to LCT was compromised as part of the bankruptcy proceedings and thus the Company’sexposure to exchange rate changes was significantly reduced.
Gain on Settlement of Liabilities Subject to Compromise. The Company reported a gain on settlement ofliabilities subject to compromise of $457.4 million for the six months ended June 30, 2002, compared to $nil forthe period ended June 30, 2003. The gain recorded for the six months ended June 30, 2002 was related to COC’semergence from CCAA protection and the extinguishment of certain liabilities as a result of the CCAA filing.
Net income. Net income for the six months ended June 30, 2003 decreased to $16.9 million from$381.5 million for the six months ended June 30, 2002, primarily representing the impact of the gain onsettlement of liabilities subject to compromise recognized in the six months ended June 30, 2002 offset by the neteffect of all of the other factors described above.
EBITDA
EBITDA is defined as income (loss) before interest expense, income taxes and amortization expense.Adjusted EBITDA excludes from EBITDA the loss (gain) on disposal of theatre assets, the gain on settlementof liabilities subject to compromise and other restructuring charges, reorganization costs and exchange (gain)loss. Company management uses adjusted EBITDA to evaluate performance primarily because of the significanteffect certain unusual, non-recurring or non-operational charges and other items have on EBITDA from periodto period. EBITDA adjusted for various unusual items is also used to define certain financial covenants in theCompany’s credit facilities. EBITDA and adjusted EBITDA are not presentations made in accordance withGAAP and are not measures of financial condition or profitability.
While the Company’s management uses these measures to remove non-cash items and non-operatingcharges in order to evaluate the performance of the business, they are not necessarily comparable to other
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similarly titled captions of other issuers due to differences in methods of calculation. The calculations ofEBITDA and adjusted EBITDA are shown below (expressed in thousands of Canadian dollars):
Period Ended Six Months Ended Six Months EndedDecember 31, 2002 June 30, 2003 June 30, 2002
Historically, the Company’s revenues have been seasonal, coinciding with the timing of major film releasesby the major distributors. The most marketable motion pictures are generally released during the summer andthe late-November through December holiday season. This may cause significant changes from quarter toquarter in attendance levels, theatre staffing levels and reported results. The Company’s second and fourthquarters include most of the summer and holiday periods, respectively, and typically represent its strongestquarters based on total revenue. More recently, the seasonality of film exhibition has become less pronounced asfilm studios have expanded the historical summer and holiday release windows and increased the number ofheavily marketed films released during traditionally weaker periods.
Liquidity and Capital Resources
Assets
Assets decreased $1.6 million to $299.2 million as at June 30, 2003 from $300.8 million as at December 31,2002. This decrease is due primarily to a decrease in cash and cash equivalents partially offset by increases inother current assets and property, equipment and leaseholds. The decrease in cash and cash equivalents is dueprimarily to an advance paid by COC to its parent company, LCT.
Deferred Revenue
Deferred revenues decreased $5.1 million to $4.5 million as at June 30, 2003 from $9.6 million as atDecember 31, 2002 primarily due to a seasonal decrease in gift certificates, advance ticket sales and outstandingpayments under screen advertising agreements.
Operating Activities
Cash flow is generated primarily from the sale of admission tickets, concession sales and other revenues.Generally, this provides the Company with positive working capital, since cash revenues are generally collectedin advance of the payment of certain expenses. Operating revenue levels are directly related to the success andappeal of the film product produced and distributed by the studios.
Cash provided by operations for the six months ended June 30, 2003 and the period ended December 31,2002 was primarily due to operating activities, partially offset by cash used to pay restructuring andreorganization related costs. Cash used in operating activities for the six months ended June 30, 2002 was
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primarily due to the payment of restructuring and reorganization related costs and payments of amounts underCOC’s plan of compromise, partially offset by cash generated from operations.
Investing Activities
Cash used in investing activities for the six months ended June 30, 2003 was primarily related to capitalexpenditures coupled with amounts advanced by COC (approximately $29.4 million) to its parent company,LCT. Cash used in investing activities for the period ended December 31, 2002 was primarily related to capitalexpenditures partially offset by the proceeds from the sale of assets. For the six months ended June 30, 2003, theCompany expended $26.6 million principally on the construction of four theatres containing a total of37 screens. For the period ended December 31, 2002, the Company expended $15.5 million principally on theconstruction of three theatres containing a total of 21 screens.
The Company funds capital expenditures through internally generated cash flow, cash on hand andfinancing activities, including allowances from landlords. Capital requirements have historically arisenprincipally in connection with acquisitions, construction of new theatres, adding new screens to existing theatresand upgrading the Company’s theatre facilities.
Financing Activities
Cash provided by financing activities for the six months ended June 30, 2003 was due primarily toborrowings from credit facilities and tenant inducements. Cash provided by financing activities for the periodended December 31, 2002 and for the six months ended June 30, 2002, was due primarily to borrowings pursuantto credit facilities and cash received from tenant inducements partially offset by the repayment of long-tem debtand the repurchase of GEI’s Class D shares.
The Company believes that it will be able to meet its future cash obligations with its cash and cashequivalents, cash flows from operations, funds available under existing credit facilities and the net proceeds ofthis offering.
Debt Facilities
Bank indebtedness. On July 21, 2000 GEI entered into a demand operating credit facility of up to$20 million. On April 11, 2002, this operating credit facility was increased to $25 million. In April 2003, thisoperating credit facility was increased to $35 million. The credit facility is used to finance working capitalrequirements and capital expenditures relating to theatre development, acquisitions, construction andrenovations. The credit facility bears interest at variable rates based on the prime lending rate or banker’sacceptances and is secured by certain assets of GEI. GEI pays a standby fee on the unadvanced portion of thecredit facility at a rate up to 0.375% per annum. At June 30, 2003, $5.5 million was available under this facility.
Exit Financing. On March 21, 2002, pursuant to the terms of its plan of reorganization, LCT entered into aUS$140 million Priority Secured Credit Facility (the ‘‘Credit Agreement’’) with Bankers Trust Company, asadministrative agent for the U.S. financial institution lenders, and Deutsche Bank AG, Canada Branch, asadministrative agent for the Canadian financial institution lenders. The Credit Agreement was comprised of twotranches: (i) an US$85 million Exit Revolving Credit Facility (including US$10 million available to COC), and(ii) a US$55 million Exit Term Loan (including US$20 million available to COC). On March 21, 2002, COCborrowed US$20 million under the Exit Term Loan facility for the purposes of claims distribution payments.COC has not borrowed any amounts under the Exit Revolving Credit Facility.
These facilities are guaranteed and secured by, among other things, a pledge of the stock of LCT’ssubsidiaries and liens on substantially all of LCT’s and COC’s assets. The maturity date of the Credit Agreementis March 31, 2007 and the facility bore interest at a rate of 4.94% at June 30, 2003. Principal repayments aremade quarterly and commenced May 31, 2002. The Exit Term Loan bears interest at the base rate plus 2.75% orthe adjusted eurodollar rate plus 3.75% for U.S. loans and at the Canadian prime rate plus 2.75% or the bankersacceptance rate plus 3.75% for Canadian loans. The Credit Agreement includes various financial covenants,which are required to be met on a consolidated basis by LCT.
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COC also had a mortgage payable on its corporate offices that had an original maturity date ofFebruary 2002. COC renegotiated the terms of the mortgage, including an extension of the maturity date toFebruary 2007. At June 30, 2003, the mortgage bore interest at 7.38%.
Future Obligations
The Company conducts a significant part of its operations in leased premises. The Company’s leasesgenerally provide for minimum rentals and many of the leases also include percentage rentals based upon salesvolume. The Company’s leases may also include escalation clauses and certain other restrictions, and mayrequire it to pay a portion of the real estate taxes and other property operating expenses. Lease terms generallyrange from 15 to 20 years and contain various renewal options, generally in intervals of five to ten years.
Market Risk
The Company is exposed to financial market risks, including changes in interest rates, foreign currencyexchange rates and other relevant market prices. As of June 30, 2003, the Company had four interest rate swapsin place. The principal value of these swaps was $8.0 million, and in accordance with the term of this instrumentthe Company receives a floating rate of interest and pays a fixed rate of between 3.86% to 5.3% for periods upto July 2005.
Interest Rate Risk
As of June 30, 2003, the Company had long-term debt or other obligations (including current maturities) of$31.1 million. Substantially all ($26.6 million) of this debt is variable rate debt. An increase or decrease ininterest rates would affect interest costs relating to this debt. For comparative purposes, for every change of0.125% in interest rates, the Company’s interest costs would change by approximately $33,000 per year.
Critical Accounting Policies
The Company prepares its financial statements in conformity with GAAP, which requires management tomake estimates, judgments and assumptions that the Company believes are reasonable based upon theinformation available. These estimates, judgments and assumptions affect the reported amounts of assets andliabilities and disclosure of contingent assets and liabilities at the date of the financial statements and thereported amounts of revenues and expenses during the reporting period. The policies which the Companybelieves are the most critical to aid in fully understanding and evaluating its reported financial results include thefollowing:
Revenues
Box office and concession revenues are recognized, net of applicable taxes, when admission and concessionsales are collected at the theatre. Amounts collected on screen advertising agreements are deferred andrecognized in the period earned. Amounts collected on the sale of gift certificates and advance ticket sales aredeferred and recognized when redeemed by the patron.
Film Rental Costs
Film rental costs are recorded based upon the terms of the respective film license agreements. In somecases the final film cost is dependent upon the ultimate duration of the film play and until this is known,management uses its best estimate of the ultimate settlement of these film costs. Film costs and the related filmcosts payable are adjusted to the final film settlement in the financial period the Company settles with thedistributors. Actual settlement of these film costs could differ from those estimates.
Loss (gain) on Disposal of Theatre Assets
Costs associated with theatre closures are recognized when management determines to dispose of anon-performing or non-strategic theatre property. These costs generally include the net book value of the
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related asset, and estimates made by management related to the cost of winding down operations at a particulartheatre location and the expected payments due under lease agreements to landlords, if applicable.
Long-Lived Assets
The Company assesses the recoverability of its long-lived assets by determining whether the carrying valueof these balances over the remaining life can be recovered through undiscounted projected cash flows associatedwith these assets. Generally this is determined on a theatre-by-theatre basis for theatre related assets. In makingits assessment, the Company also considers the useful lives of its assets, the competitive landscape in which thoseassets operate, the introduction of new technologies within the industry and other factors affecting thesustainability of asset cash flows.
Income Taxes
At December 31, 2002 the Company had $458.8 million of non-capital loss carryforwards that may beavailable to offset future taxable income. The balance of the non-capital loss available for carryforward expirebetween 2003 and 2009. No benefit has been recognized in the financial statements for these non-capital losscarryforwards. The Company is currently in discussions with tax authorities in respect to prior years’ issues thatcould potentially reduce non-capital loss carryforwards by as much as $186 million. As a result of thetransactions contemplated by this prospectus the majority of the value of these non-capital loss carryforwardswill remain with COC.
Recent Accounting Developments
In 2002, the Canadian Institute of Chartered Accountants (‘‘CICA’’) issued Handbook Section 3110, ‘‘AssetRetirement Obligations’’, which will be effective for annual and interim periods beginning on or after January 1,2004. This standard requires that the fair value of a liability for an asset retirement obligation be recognized inthe period in which it is incurred if a reasonable estimate of fair value can be made. The impact of adoptingthese pronouncements has not yet been determined by management.
In June 2003, the CICA issued Accounting Guideline 15, ‘‘Consolidation of variable interest entities’’ (the‘‘Guideline’’). In September 2003 the CICA amended the Guideline to make it effective for annual and interimperiod beginning on or after November 1, 2004. The Guideline addresses the application of consolidationprinciples to entities that are subject to control on a basis other than ownership of voting interests. The impact ofadopting this Guideline has not yet been determined by management.
Outlook
As a result of the transactions contemplated by this prospectus, the Company believes that the New CreditFacilities and its ongoing cash flow from operations will be sufficient to allow it to meet ongoing requirementsfor capital expenditures, investments in working capital and distributions. However, the Company’s needs maychange and in such event the Company’s ability to satisfy its obligations will be dependent upon future financialperformance, which in turn will be subject to financial, tax, business and other factors, including elementsbeyond the Company’s control.
Four Galaxy theatres were opened during the twelve-month period ended June 30, 2003 and one CineplexOdeon theatre in North Edmonton was opened in July 2003. Collectively, the five open New Theatres generated$0.7 million and $2.5 million of cash flow in the twelve months ending June 30, 2003 and the twelve monthsending August 31, 2003, respectively (after reflecting estimated loss in cash flow from two adjacent theatres inNorth Edmonton).
Management estimates that if the five New Theatres currently open had been open throughout the entiretwelve months ended June 30, 2003, such theatres would have generated additional cash flow of $7.1 million(after reflecting estimated loss in cash flow from two adjacent theatres in North Edmonton). In addition, theCompany has substantially completed the construction of an additional two Galaxy theatres in St. Thomas,Ontario (six screens) and Guelph, Ontario (ten screens) that are expected to open before the end of 2003.Management believes that if the two additional theatres and the five New Theatres had been open throughoutthe twelve months ended June 30, 2003, such theatres would have generated additional cash flow of $9.1 million(after reflecting estimated loss in cash flow from two adjacent theatres in North Edmonton). See ‘‘SupportAgreement’’.
Prior to the completion of this Offering, COC operated as a subsidiary of LCT and GEI operated as astand-alone operation. The transfer of substantially all of the theatre business assets of COC and theestablishment of GEI as a subsidiary of the Fund will result in net incremental expenses estimated to be$0.8 million annually in respect of administrative, management and other costs related to operating as a publiclytraded entity. Future strategic initiatives may be financed with borrowings or the additional issuance of units inthe Fund.
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CINEPLEX ODEON CORPORATION MANAGEMENT’S DISCUSSION AND ANALYSIS OFFINANCIAL CONDITION AND RESULTS OF OPERATIONS
The following management’s discussion and analysis of Cineplex Odeon Corporation’s financial condition andresults of operations should be read in conjunction with the financial statements and related notes included elsewherein this prospectus. This discussion contains forward-looking statements. Please see ‘‘Special Note Regarding Forward-Looking Statements’’ for a discussion of the risks, uncertainty and assumptions relating to these statements.
Overview
Cineplex Odeon Corporation (‘‘COC’’) is Canada’s second largest film exhibition company with theatres insix provinces. COC’s theatre circuit is concentrated in major metropolitan markets with its principal geographicareas being Toronto, Montreal, Vancouver, Calgary, Edmonton, Ottawa and Quebec City. As of March 31, 2002,COC owned, operated or had an interest in 644 screens in 76 theatres, including 57 screens in seven theatres inwhich COC held a joint venture interest.
Revenues
COC’s revenues are primarily generated from box office and concession sales. In addition, COC generatesancillary revenues from screen advertising sales, promotional activities and theatre management fees. Theserevenues are affected primarily by attendance levels and by changes in the average per patron admission andconcession revenues. The commercial appeal of films released during a period and the associated level ofmarketing and promotion for those films by film studios and distributors drives attendance. Average admissionper patron is affected by the mix of film genre (e.g., its appeal to certain audiences, such as children, teens oryoung adults) and established ticket prices. Average concession revenue per patron is affected by concessionproduct mix, concession prices and type of film. Other ancillary revenues are generated from such sources asgame rooms, leasing theatres for motion picture premieres and screenings, private parties and other corporateevents.
Expenses
Theatre operations and other expenses consist of fixed and variable expenses, including film rental,marketing and advertising, salaries and wages, lease expenses, utilities, maintenance and other occupancy-related charges. Certain operating costs, such as film rental costs, salaries and wages and the cost of concessions,will vary directly with changes in revenues and attendance levels. Film rental fees are accrued based on therelated box office receipts at either mutually agreed-upon (or ‘‘firm’’) terms, established prior to the opening ofthe film, or on a mutually agreed settlement upon conclusion of the film’s run, depending upon the film licensingarrangement. Although theatre salaries and wages include a fixed cost component, these expenses vary inrelation to revenues as theatre staffing levels are adjusted to handle fluctuations in attendance.
Lease expenses are primarily fixed costs at the theatre level because COC’s theatre leases generally requirea fixed monthly minimum rent payment. However, many of COC’s theatre leases also include a percentage rentclause whereby the landlord is paid an additional amount of rent based upon revenues over a specifiedthreshold.
General and administrative expenses are primarily costs associated with executive and corporatemanagement and the overhead of COC’s business, which includes functions such as film buying, marketing andpromotions, operations and concession management, accounting and financial reporting, legal, treasury,construction and design, real estate development and administration and information systems. COC’s generaland administrative costs primarily consist of payroll, occupancy costs related to its corporate office in Toronto,Ontario, professional fees (such as audit and legal fees) and travel and related costs. COC’s general andadministrative staffing and associated costs are maintained at a level that COC deems appropriate to manageand support the size and nature of its theatre portfolio and its business activities.
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Accounting for Joint Ventures
The financial statements incorporate the operating results of joint ventures in which COC has an interestusing the proportionate consolidation method as required by generally accepted accounting principles in Canada(‘‘GAAP’’).
Reorganization
On February 15, 2001, COC filed for creditor protection in Canada under the Companies’ CreditorsArrangement Act (‘‘CCAA’’). Among the factors that caused COC to file for creditor protection was the fact thatCOC had undertaken significant new theatre construction and rescreening of older theatres from 1997 through2000. This expansion resulted in intensified competition for patronage and rendered many older theatresobsolete. The new screens, combined with the difficulty of closing older theatres as a result of their long-term,non-cancelable leases, created an oversupply of screens in many of COC’s markets.
The key financial provisions of the Canadian plan of reorganization were as follows:
• the establishment of a distribution pool of up to $78.5 million for the settlement of liabilities subject tocompromise, which included unsecured and abandoned premises claims; and
• Loews Cineplex Entertainment Corporation, now known as Loews Cineplex Theatres, Inc. (‘‘LCT’’)agreed to convert a minimum of $35.0 million of its distribution payment into shares of COC’s commonstock.
Effects of Reorganization on Financial Condition and Results of Operations. During the period of COC’srestructuring proceedings — February 15, 2001 through March 21, 2002 — it incurred reorganization expensesof $236.3 million, of which: (i) $132.0 million represented charges related to landlord lease claims, which wereclassified as liabilities subject to compromise, (ii) $90.2 million represented a write-off of an amount receivablefrom a subsidiary of LCT, which was compromised as a result of the LCT Chapter 11 bankruptcy filing in theUnited States, and (iii) $16.9 million was accrued or paid for professional and advisory fees and other expensesdirectly related to and subsequent to the restructuring filing. These charges were partially offset by thetermination of any remaining liabilities of $2.8 million under the Investment Canada Act due to the change inownership which resulted from the acquisition of LCT, COC’s parent company, by Onex Corporation and OCMCinema Holdings, LLC.
During COC’s restructuring, it closed 30 locations with a total of 166 screens that generated negative$8.4 million in theatre-level cash flow in fiscal 2001. COC measures theatre-level cash flow by subtracting theoperating costs of that theatre (film rental costs, concession costs and other theatre operating costs) from therevenues generated by that theatre. COC also renegotiated the lease terms on 43 theatres, thereby significantlyreducing its occupancy costs.
COC’s restructuring proceedings and the implementation of its plan of reorganization significantlyimproved its operating results. As part of the reorganization, COC was able to:
• close theatres that generated marginal or negative cash flow and that were not of strategic importance;
• reduce operating costs by renegotiating certain leases; and
• reduce overhead levels.
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Results of Operations
The following table presents certain financial data as a percentage of revenues. All costs in the table areexpressed as a percentage of total operating revenues.
One-Month Ended Fiscal Year Ended Fiscal Year EndedMarch 31, 2002 February 28, 2002 February 28, 2001
Total revenues of $25.0 million and income before undernoted of $5.5 million for the one-month endedMarch 31, 2002 were strong due to COC’s emergence from its restructuring proceedings and increasedattendance volume due to the strong performance of films exhibited in the period including Ice Age, 40 Days and40 Nights, A Beautiful Mind and Time Machine. Theatre operations and other expenses were unfavorablyimpacted with incremental costs commensurate with the increased attendance as well as inflationary increases.However, these increases were partially offset by lower occupancy costs resulting from the significant number oftheatre closures under COC’s reorganization.
Fiscal Year Ended February 28, 2002 Compared to the Fiscal Year Ended February 28, 2001
Total revenues. Total revenues for fiscal 2002 decreased $7.7 million, or 3.0%, to $246.3 million from$254.0 million for fiscal 2001. A discussion of the factors affecting the changes in box office, concession andother revenues is provided below.
Box office revenues. Box office revenues for fiscal 2002 decreased $1.9 million, or 1.1%, to $167.0 millionfrom $168.9 million for fiscal 2001, primarily due to the significant number of theatre closures afterMarch 1, 2001 ($29.3 million) and lower attendance levels ($1.3 million) at existing theatres. Many of theclosed theatres were overlapping and underperforming theatres (including older, obsolete theatres thatcontributed only minimally to cash flow from operations or were operating at a loss). Offsetting this declinewere additional revenues from new theatres ($21.3 million) and an improvement in the average admissionrevenue per patron ($7.4 million), resulting primarily from price adjustments that were implementedthroughout the year.
Concession revenues. Concession revenues for fiscal 2002 decreased $3.4 million, or 4.8%, to $66.5 millionfrom $69.9 million for fiscal 2001, primarily due to the significant number of theatre closures ($12.6 million)and lower attendance levels at existing theatres ($0.5 million). Partially offsetting this decline were revenuesfrom new theatres that were opened in fiscal 2002 ($8.1 million) and an increase in the average concessionrevenue per patron as a result of productivity improvements ($1.6 million).
Other revenues. Other revenues for fiscal 2002 decreased $2.5 million, or 16.2%, to $12.8 million from$15.3 million for fiscal year 2001, primarily due to the significant number of theatre closures ($0.7 million)and a decrease in miscellaneous income ($2.1 million). Partially offsetting this decline were additionalrevenues from new theatres opened in fiscal 2002 ($0.3 million). Miscellaneous income declined primarily
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due to lower ancillary business resulting from uncertainty during the period in which COC was underCCAA protection.
Theatre operations and other expenses. Theatre operations and other expenses for fiscal 2002 decreased$30.5 million, or 14.0%, to $187.6 million from $218.1 million for fiscal 2001. The overall decline in theatreoperations was due to: (i) the closure of a significant number of older, obsolete theatres subsequent to March 1,2001 ($50.6 million), (ii) lower occupancy costs of $3.7 million primarily resulting from lease renegotiations,(iii) reductions in variable operating expenses commensurate with lower attendance levels ($0.7 million), and(iv) other cost savings ($1.2 million). Offsetting these declines in theatre operations were incremental costsassociated with new theatre openings in fiscal 2002 ($22.0 million) and variable costs associated with theimprovement in admission revenue per patron ($3.7 million). As a percentage of total operating revenues,theatre operations and other expenses were 76.2% in fiscal 2002, an improvement from 85.9% in fiscal 2001.
Cost of concessions. Cost of concessions for fiscal 2002 decreased $1.0 million, or 7.3%, to $12.3 millionfrom $13.3 million for fiscal 2001. This decrease in cost of concessions was due to the significant number oftheatre closures ($2.3 million) and lower attendance levels at existing theatres and other cost reductions($0.5 million in the aggregate). Offsetting this decline in concessions costs were additional costs incurred for newtheatre openings in fiscal 2002 ($1.8 million). As a percentage of concession revenues, cost of concessions was18.5% in fiscal 2002 compared to 19.0% in fiscal 2001.
General and administrative costs. General and administrative costs for fiscal 2002 decreased $4.6 million,or 30.1%, to $10.7 million from $15.3 million for fiscal 2001. This decrease in general and administrative costswas primarily due to lower overhead costs resulting from a reduced workforce, partially offset by normalinflationary increases. As a percentage of total operating revenues, general and administrative expensesdecreased from 6.0% in fiscal 2001 to 4.3% in fiscal 2002.
Management fee. The management fee, which is payable to LCT, decreased $1.1 million, or 9.4%, to$10.5 million in fiscal 2002 from $11.6 million in fiscal 2001, primarily due to the level of service required andlower revenue levels.
Income (loss) before undernoted. COC reported income before undernoted for fiscal 2002 of $25.3 millioncompared to a loss before undernoted of $4.3 million for fiscal 2001. This change was due to the aggregate effectof the factors described above.
Amortization costs. Amortization decreased $7.8 million, or 30.3%, to $18.0 million for fiscal 2002 from$25.8 million for fiscal 2001. This decrease in amortization costs was primarily due to the significant number oftheatre closures and impairment charges ($18.2 million), partially offset by new theatre openings in fiscal 2002($10.4 million).
Restructuring charges. Restructuring charges for fiscal 2002 increased $4.7 million, to $7.6 million, from$2.9 million for fiscal 2001. Restructuring charges in fiscal 2002 and 2001 related to severance paymentsassociated with headcount reductions and professional and advisory fees.
Gain on disposal of theatre assets. Gain on disposal of theatre assets represents the gains on theatres whichhave been disposed of, repudiated and abandoned or sold. It also includes the unamortized tenant inducementsand unamortized difference between the straight-line rent expense and the payments as stipulated under thelease agreements that were brought into income when certain theatres were repudiated. In fiscal 2002, COCrecorded a gain on theatres of $4.9 million as compared to a gain of $4.6 million in fiscal 2001. These gains areprimarily due to the write-off of unamortized tenant inducements on theatres repudiated.
Interest on long-term debt. Interest on long-term debt increased $0.9 million to $1.4 million for fiscal 2002from $0.5 million for fiscal 2001, primarily due to an increase in accrued interest on other long term liabilities($0.6 million) and the elimination of interest capitalized ($0.4 million). Partially offsetting this increase was adecrease in interest expense on COC’s mortgage ($0.1 million).
Reorganization costs. Reorganization costs decreased $22.9 million, or 17.5%, to $108.1 million for fiscal2002 from $131.0 million for fiscal 2001 primarily due to higher CCAA abandoned premise claim charges during
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fiscal 2001. These costs were partially offset by accruals and payments for professional and advisory fees relatedto and subsequent to the CCAA filing on February 15, 2001.
Loss on impairment of theatre assets. Loss on impairment of theatre assets decreased $2.6 million, to$87.0 million for fiscal 2002 from $89.6 million for fiscal 2001. The loss recorded for fiscal 2001 is primarily dueto the number of theatres that were closed and abandoned (26 locations) immediately after filing for CCAAprotection in February 2001, which represented virtually all of its negative performing assets at the time. Duringthe fiscal 2002 portfolio review, it was assessed that there were certain remaining locations that required anadditional impairment charge.
Gain on investment disposal. There was no gain on investment disposal for fiscal 2002. Included in fiscal2001 was an aggregate gain of $8.4 million from COC’s sale of its investments in Alliance AtlantisCommunications Inc. and a joint venture in Quebec.
Exchange loss. The exchange loss increased $3.8 million, or 27.0%, to $17.8 million for fiscal 2002 from$14.0 million for fiscal 2001 primarily due to the decline in value of COC’s functional currency, the Canadiandollar, over the comparable levels in fiscal 2001.
Net income (loss). The net loss was $209.6 million for fiscal 2002 compared to a net loss of $255.4 millionfor fiscal 2001
EBITDA
EBITDA is defined as income (loss) before interest expense, income taxes, and amortization expense.Adjusted EBITDA excludes from EBITDA gain on disposal of theatres and other restructuring charges,reorganization costs and exchange loss. COC’s management uses adjusted EBITDA to evaluate performanceprimarily because of the significant effect certain unusual, non-recurring or non-operational charges and otheritems have on EBITDA from period to period. EBITDA adjusted for various unusual items is also used todefine certain financial covenants in COC’s credit facilities. EBITDA and adjusted EBITDA are notpresentations made in accordance with GAAP and are not measures of financial condition or profitability.
While COC’s management uses these measures to remove non-cash items and non-operating charges inorder to evaluate the performance of the business, they are not necessarily comparable to other similarly titledcaptions of other issuers due to differences in methods of calculation. The calculations of EBITDA and adjustedEBITDA are shown below (expressed in thousands of Canadian dollars):
One Month Ended Fiscal Year Ended Fiscal Year EndedMarch 31, 2002 February 28, 2002 February 28, 2001
Historically, COC’s revenues have been seasonal, coinciding with the timing of major film releases by themajor distributors. The most marketable motion pictures are generally released during the summer and thelate-November through December holiday season. This may cause significant changes, from quarter to quarter,in attendance levels, theatre staffing levels and reported results. COC’s second and fourth quarters include mostof the summer and holiday periods, respectively, and typically represent its strongest quarters based on totalrevenues. More recently, the seasonality of film exhibition has become less pronounced as film studios haveexpanded the historical summer and holiday release windows and increased the number of heavily marketedfilms released during traditionally weaker periods.
Liquidity and Capital Resources
Assets
Assets increased $35.0 million to $227.8 million as at March 31, 2002 from $192.8 million as at February 28,2002 due to an increase in cash and cash equivalents from borrowings made under the Exit Term Loan Facility inthe amount of approximately $30 million that were held in cash and cash equivalents until an interimdistribution was made under the Canadian plan of reorganization in June 2002.
Deferred Revenue
Deferred revenues decreased $0.4 million to $5.7 million as at March 31, 2002 from $6.1 million as atFebruary 28, 2002 primarily due to a decrease in the amount of advance sales outstanding.
Operating Activities
Cash flow is generated primarily from the sale of admission tickets, concession sales and other revenues.Generally, this provides COC with positive working capital, since cash revenues are generally collected inadvance of the payment of certain expenses. Operating revenue levels are directly related to the success andappeal of the film product produced and distributed by the studios.
Cash provided by operations for the one month ended March 31, 2002 and for the fiscal year endedFebruary 28, 2002 was primarily due to operating activities, partially offset by cash used to pay restructuring andreorganization related costs. Cash used in operating activities for the fiscal year ended February 28, 2001 wasprimarily due to payment of restructuring and reorganization related costs, partially offset by cash generatedfrom operations.
Investing Activities
Cash used in investing activities for fiscal 2002 and 2001 was primarily due to capital expenditures. In fiscal2002, COC expended $25.5 million principally on the construction of two theatres in Ontario containing a totalof 28 screens. In fiscal 2001, COC expended $95.1 million principally on the construction of seven theatrescontaining a total of 98 screens. For the one month ended March 31, 2002 COC spent $0.2 million on capitalexpenditures.
COC funds capital expenditures through internally generated cash flow, cash on hand and financingactivities, including allowances from landlords. Capital requirements have historically arisen principally inconnection with acquisitions, construction of new theatres, adding new screens to existing theatres andupgrading COC’s theatre facilities.
Financing Activities
Cash provided from financing activities for the one month ended March 31, 2002 and for the fiscal yearended February 28, 2001 was primarily due to borrowings from the priority secured credit facility and borrowingsfrom LCT. In addition, tenant inducements of $Nil, $3.5 million and $32.5 million for the one month endedMarch 31, 2002 and twelve months ended February 28, 2002 and 2001, correspondingly were received. These
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cash flows were partially offset by the repayment of long-term debt. Cash used in financing activities for thefiscal year ended February 28, 2002 was primarily due to the repayment of long-term debt.
COC believes that it will be able to meet its future cash obligations with its available cash and cashequivalents, cash flow from operations, funds available under its existing credit facilities and the net proceeds ofthis offering.
Debt Facilities
DIP Facility. On February 15, 2001, in connection with COC’s CCAA filing, COC obtaineddebtor-in-possession financing, or a DIP facility, of which up to US$20 million was available to COC to fundoperating requirements and certain capital projects. The DIP facility was approved by the court on April 4, 2001.
As at March 31, 2002, COC had nothing drawn against the revolving credit portion of the DIP facility. TheDIP facility expired upon COC’s emergence from its restructuring proceedings on March 21, 2002.
Existing Credit Facilities. On March 21, 2002, LCT, pursuant to the terms of its plan of reorganization,entered into a US$140 million Priority Secured Credit Facility (the ‘‘Credit Agreement’’) with Bankers TrustCompany, as administrative agent for the U.S. financial institution lenders, and Deutsche Bank AG, CanadaBranch, as administrative agent for the Canadian financial institution lenders. The Credit Agreement wascomprised of two tranches: (i) a US$85 million Exit Revolving Credit Facility (including US$10 million availableto COC), and (ii) a US$55 million Exit Term Loan (including US$20 million available to COC). On March 21,2002, COC borrowed US$20 million under the Exit Term Loan facility for the purposes of claims distributionpayments. COC has not borrowed any amounts under the Exit Revolving Credit Facility.
These facilities are secured by, among other things, a pledge of the stock of LCT’s subsidiaries and liens onsubstantially all of LCT’s assets. The maturity date of the Credit Agreement is March 31, 2007 and the facilitybore interest at a rate of 7.4% at March 31, 2002. Principal repayments are made quarterly and commencedMay 31, 2002. The Exit Term Loan bears interest at the base rate plus 2.75% or the adjusted eurodollar rate plus3.75% for U.S. loans and at the Canadian prime rate plus 2.75% or the bankers acceptance rate plus 3.75% forCanadian loans. The Credit Agreement includes various financial covenants which are required to be met on aconsolidated basis by LCT.
COC also had a mortgage payable on its corporate offices that had an original maturity date ofFebruary 2002. COC renegotiated the terms of the mortgage, including an extension of the maturity date toFebruary 2007. The amendments to the mortgage were conditional on the successful implementation of COC’splan of reorganization under the CCAA. At March 31, 2002, the mortgage bore interest at 7.38%.
Future Obligations
COC conducts a significant part of its operations in leased premises. COC’s leases generally provide forminimum rentals and many of the leases also include percentage rentals based upon sales volume. COC’s leasesmay also include escalation clauses, and certain other restrictions, and may require it to pay a portion of the realestate taxes and other property operating expenses. Lease terms generally range from 20 to 40 years and containvarious renewal options, generally in intervals of five to ten years.
Market Risk
COC is exposed to financial market risks, including changes in interest rates, foreign currency exchangerates and other relevant market prices.
Interest Rate Risk
As at March 31, 2002, COC had long-term debt or other obligations (including current maturities) of$37.4 million. Substantially all ($31.9 million) of this debt is variable rate debt. Therefore, an increase ordecrease in interest rates would affect interest costs relating to this debt. For comparative purposes, for everychange of 0.125% in interest rates, COC’s interest costs would change by approximately $40,000 per year.
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Critical Accounting Policies
COC prepares its financial statements in conformity with GAAP, which requires management to makeestimates, judgments and assumptions that management believes are reasonable based upon the informationavailable. These estimates, judgments and assumptions affect the reported amounts of assets and liabilities anddisclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts ofrevenues and expenses during the reporting period. The policies which COC believes are the most critical to aidin fully understanding and evaluating its reported financial results include the following:
Revenues
Box office and concession revenues are recognized, net of applicable taxes, when admission and concessionsales are collected at the theatre. Amounts collected on screen advertising agreements are deferred andrecognized in the period earned. Amounts collected on the sale of gift certificates and advance ticket sales aredeferred and recognized when redeemed by the patron.
Film Rental Costs
Film rental costs are recorded based upon the terms of the respective film license agreements. In somecases the final film cost is dependent upon the ultimate duration of the film play and, until this is known,management uses its best estimate of the ultimate settlement of these film costs. Film costs and the related filmcosts payable are adjusted to the final film settlement in the financial period COC settles with the distributors.Actual settlement of these film costs could differ from those estimates.
Long-Lived Assets
COC assesses the recoverability of its long-lived assets by determining whether the carrying value of thesebalances over the remaining life can be recovered through undiscounted projected cash flows associated withthese assets. Generally this is determined on a theatre-by-theatre basis for theatre related assets. In making itsassessment, COC also considers the useful lives of its assets, the competitive landscape in which those assetsoperate, the introduction of new technologies within the industry and other factors affecting the sustainability ofasset cash flows.
Income Taxes
COC has $468 million of non-capital loss carryforwards that may be available to offset future taxableincome following its change in ownership resulting from the reorganization. These non-capital losscarryforwards reflect a reduction of $55 million due to the extinguishment of debt from the COC’sreorganization. The balance of the non-capital loss available for carryforward expires between 2003-2008. Nobenefit has been recognized in the financial statements for these non-capital loss carryforwards. The company iscurrently in discussions with tax authorities in respect to prior years’ issues that could potentially reducenon-capital loss carryforwards by as much as $186 million.
Outlook
Following the transactions contemplated by this prospectus, Cineplex Galaxy LP believes that theNew Credit Facilities and its ongoing cash flow from operations will be sufficient to allow it to meet ongoingrequirements for capital expenditures, including the development of new theatres, investments in workingcapital and distributions. However, Cineplex Galaxy LP’s needs may change and in such event CineplexGalaxy LP’s ability to satisfy its obligations will be dependent upon future financial performance, which in turnwill be subject to financial, tax, business and other factors, including elements beyond Cineplex Galaxy LP’scontrol.
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GALAXY ENTERTAINMENT INC. MANAGEMENT’S DISCUSSION AND ANALYSIS OFFINANCIAL CONDITION AND RESULTS OF OPERATIONS
The following discussion and analysis of Galaxy Entertainment Inc.’s financial condition and results ofoperations should be read together with the financial statements and related notes included elsewhere in thisprospectus. This discussion contains forward-looking statements. Please see ‘‘Special Note Regarding Forward-Looking Statements’’ for a discussion of the risks, uncertainties and assumptions relating to these statements.
Overview
Galaxy Entertainment Inc. (‘‘GEI’’) is the fourth largest film exhibition company in Canada with theatres infive provinces. As of December 31, 2001, GEI operated 109 screens in 13 theatres.
Revenues
GEI’s revenues are primarily generated from box office and concession sales. In addition, GEI generatesancillary revenue from screen advertising sales, promotional activities and theatre management fees. Revenuesare affected primarily by attendance levels and by changes in average per patron admission and concessionrevenues. Attendance is primarily affected by the commercial appeal of the films released during the periodreported and the level of marketing and promotion by film studios and distributors. Average admissions perpatron are affected by the mix of film genres (e.g., its appeal to certain audiences, such as children, teens oryoung adults) and established ticket prices. Average concession revenue per patron is affected by concessionproduct mix, concession prices and type of film. Other ancillary revenues are generated from such sources asgame rooms, leasing theatres for motion picture premieres and screenings, private parties and corporate events.
Expenses
Theatre operations and other expenses consist of fixed and variable expenses, including film rental,marketing and advertising, salaries and wages, lease expenses, utilities, maintenance and other occupancyrelated charges. Certain operating costs, such as film rental costs, salaries and wages, and the cost ofconcessions, vary directly with changes in revenues and attendance levels. Film rental fees are accrued based onthe related box office receipts at either mutually agreed-upon (or ‘‘firm’’) terms, established prior to the openingof the film or on a mutually agreed settlement upon conclusion of the film’s run, depending upon the filmlicensing arrangement. GEI purchases concession supplies to replace units sold. Although theatre salaries andwages include a fixed cost component, these expenses vary in relation to revenues as theatre staffing levels areadjusted to handle fluctuations in attendance. Lease expenses are primarily fixed costs at the theatre level, asGEI’s theatre leases generally require a fixed monthly minimum rent payment.
General and administrative expenses are related primarily to costs associated with executive and corporatemanagement and the overhead of GEI’s business, and include functions such as film buying, marketing andpromotions, operations and concession management, accounting and financial reporting, legal, treasury,construction and design, real estate development and administration, and information systems. GEI’s generaland administrative costs are comprised primarily of payroll, occupancy costs related to its corporate office inToronto, Ontario, professional fees (such as audit and legal fees) and travel and related costs. GEI’s general andadministrative staffing and associated costs are maintained at a level that it deems appropriate to manage andsupport the size and nature of its theatre portfolio and its business activities.
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Results of Operations
The following table presents certain financial data as a percentage of revenues. All costs in the table areexpressed as a percentage of total revenues.
Year Ended Year EndedDecember 31, 2001 December 31, 2000
Year Ended December 31, 2001 Compared to Year Ended December 31, 2000
Total revenues. Total revenues for fiscal 2001 increased by $16.8 million, to $28.2 million, from$11.4 million in 2000.
Factors affecting the major components of total revenues are discussed below.
Box office revenues: Box office revenues for 2001 increased by $11.5 million, to $19.2 million, from$7.7 million for 2000. The increase in box office revenues was due primarily to the opening of three new theatresand the acquisition of one new theatre in 2001, comprising a total of 32 new screens. In addition, box officerevenues in 2001 were increased by the inclusion of full-year revenues from four new theatres opened and fournew theatres acquired in fiscal 2000, comprising a total of 72 screens.
Concession revenues. Concession revenues for 2001 increased by $4.7 million, to $8.1 million, from$3.4 million for 2000. The increase in concessions revenues was due primarily to new theatres opened andacquired in 2001 and the full year effect of theatres opened in 2000.
Other revenues. Other revenues for 2001 increased $0.6 million, to $1.0 million, from $0.4 million for 2000.This increase was due primarily to revenue from the operations of new theatres.
Theatre operations and other expenses. Theatre operations and other expenses, such as film payroll,occupancy and other costs increased by $12.6 million in 2001 to $21.0 million from $8.3 million for 2000. Theoverall increase in theatre operating costs related primarily to the increase in number of theatres and screens in2001 compared to 2000.
Cost of concessions. Cost of concessions increased by $0.9 million in 2001 to $1.8 million from $0.9 millionfor 2000. This increase is also related to the increase in number of theatres and screens in 2001 comparedto 2000.
General and administrative costs. General and administrative costs for 2001 decreased by $0.3 million, or12.4%, to $2.4 million from $2.7 million in 2000. General and administrative costs in 2000 included a one timepayment made to the former president of GEI. As a percentage of total operating revenues, general andadministrative expenses decreased from 23.6% in fiscal 2000 to 8.3% in fiscal 2001.
Other expenses. In 2001, GEI recorded other expenses of $0.4 million related to the early termination of alease for a theatre operated by GEI.
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Amortization costs. Amortization costs for 2001 increased $2.9 million in 2001 to $4.4 million, from$1.5 million in 2000. The increase in amortization costs was due primarily to the significant number of newtheatres that were opened in 2001 ($0.4 million) and the impact of the full year operation of new theatres, whichcommenced operations in 2000 ($1.9 million).
Interest expense. Interest expense increased by $0.3 million in 2001 to $0.5 million, from $0.2 million in2000. This increase in interest expense was due primarily to higher levels of borrowing related to theconstruction of new theatres in 2001 and 2000.
Net loss. GEI’s net loss for 2001 decreased by $0.2 million, to $2.3 million, from a net loss of $2.5 millionfor 2000. In addition to the effect of the factors described above, the decrease in the net loss was affected by the$0.3 million decrease in income tax expense for 2001, to $0.1 million from $0.4 million for 2000.
EBITDA
EBITDA represents net loss before interest expense, income taxes and amortization expense. EBITDA isnot a presentation made in accordance with generally accepted accounting principles in Canada and is not ameasure of financial condition or profitability. In addition to net loss, GEI uses EBITDA to remove non-cashitems and non-operating charges in order to evaluate the performance of its business.
While GEI’s management uses this measure, they are not necessarily comparable to other similarly titledcaptions of other issuers due to differences in methods of calculation. The calculation of EBITDA isshown below:
Historically, GEI’s revenues have been seasonal, coinciding with the timing of major film releases by themajor distributors. The most marketable motion pictures are generally released during the summer and thelate-November through December holiday season. This may cause significant changes, from quarter to quarter,in attendance levels, theatre staffing levels and reported results. GEI’s second and fourth quarters include mostof the summer and holiday periods, respectively, and typically represent its strongest quarters based on totalrevenues. More recently, the seasonality of film exhibition has become less pronounced as film studies haveexpanded the historical summer and holiday release windows and increased the number of heavily marketedfilms released during traditionally weaker periods.
Liquidity and Capital Resources
Assets
Assets increased to $68.1 million at December 31, 2001 from $52.5 million at December 31, 2000. Theincrease in assets was primarily due to the three new theatre openings and one acquired theatre in 2001.
Deferred revenue
Deferred revenues increased by $0.4 million in 2001 to $0.8 million as at December 31, 2001 compared to$0.4 million at December 31, 2000, primarily due to the increase in the number of theatres and screens. Deferredrevenue relates primarily to the sale of gift certificates by GEI.
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Operating Activities
Cash flow is generated primarily from the sale of admission tickets, concession sales and other revenues.Generally, this provides GEI with positive working capital, since cash revenues are generally collected inadvance of the payment of certain expenses. Revenue levels are directly related to the success and appeal of thefilm product produced and distributed by the studios.
Net cash provided by operating activities was $4.3 million for the year ended December 31, 2001 comparedto $1.5 million for the year ended December 31, 2000. In 2001, GEI generated higher cash from operatingactivities due to new theatre openings and theatre acquisitions in the year. In addition, included in 2001operating cash flows was the inclusion of a full-year of cash generated from theatres opened and acquired in2000.
Investing Activities
Net cash used in investing activities was $22.3 million for fiscal 2001 compared to net cash used of $40.6million for fiscal 2000. Net cash used in investing activities for fiscal 2001 and 2000 was primarily due to capitalexpenditures. In fiscal 2001, $21.2 million GEI expended on the construction of 4 theatres totaling 32 screens. Infiscal 2000, $32.7 million was expended on the construction of 5 theatres totaling 48 screens. In addition, in fiscal2000, net cash used in investing activities included the acquisition of 4 new theatres, comprising of 32 screens, for$6.4 million.
GEI funds capital expenditures through internally generated cash flow, cash on hand and financingactivities, including allowances from landlords. Capital requirements have historically arisen principally inconnection with acquisitions, construction of new theatres, adding new screens to existing theatres andupgrading our theatre facilities. For the fiscal year ended December 31, 2001 and 2000, GEI spent $22.3 millionand $33.5 million, respectively, in capital expenditures. GEI intends to continue to grow its theatre circuitthrough selective new building, the expansion of existing theatres and acquisitions.
Financing Activities
Net cash provided by financing activities was $17.8 million for 2001 compared to $36.0 million for 2000.Included in 2001 cash from financing activities was $10.1 million in additional bank borrowings under GEI’scredit facilities used to open and acquire new theatres in 2001. Bank indebtedness increased by $10.1 million, to$12.1 million as at December 31, 2001, from $2.0 million at December 31, 2000 due to the financing of GEI’sconstruction of three new theatres in 2001. Cash provided by landlords as a contribution to leaseholdimprovements was $7.9 million in 2001 compared to $8.0 million in 2000. In 2000, cash from financing activitiesincluded the issuance of $25.5 million of Class D common shares and $2 million in bank borrowings, which wereused for the opening and acquisition of new theatres in 2000.
GEI believes that it will be able to meet its future cash obligations with available cash and cash equivalents,cash flow from operations, funds available under its existing credit facilities and the net proceeds of thisOffering.
Future Obligations
GEI conducts a significant part of its operations in leased premises. GEI’s leases generally provide forminimum rentals and many of the leases also include percentage rentals based upon sales volume. GEI’s leasesmay also include escalation clauses and certain other restrictions, and may require it to pay a portion of the realestate taxes and other property operating expenses. Lease terms generally range from 15 to 20 years and containvarious renewal options, generally in intervals of five to ten years.
Market Risk
GEI is exposed to financial market risks, including changes in interest rates, and other relevant marketprices. At December 31, 2001 GEI had one interest rate swap in place. The principal value of such swap was$2 million, and in accordance with the term of this instrument GEI receives a floating rate of interest and pays afixed rate of 3.86% for a period of three years.
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Interest Rate Risk
As of December 31, 2001, GEI had bank indebtedness of $12.1 million, which is based on a variable interestrate. An increase or decrease in interest rates would affect interest costs relating to this debt.
Critical Accounting Policies
GEI prepares its financial statements in conformity with accounting principles generally accepted inCanada, which requires management to make estimates, judgments and assumptions that GEI believes arereasonable based upon the information available. These estimates, judgments and assumptions affect thereported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of thefinancial statements and the reported amounts of revenues and expenses during the reporting period. Thepolicies which GEI believes are the most critical to aid in fully understanding and evaluating its reportedfinancial results include the following:
Revenues
Box office and concession revenues are recognized, net of applicable taxes, when admission and concessionsales are collected at the theatre. Amounts collected on the sale of gift certificates and advance ticket sales aredeferred and recognized when redeemed by the patron.
Film Rental Costs
Film costs are recorded based upon the terms of the respective film license agreements. In some cases thefinal film cost is dependent upon the ultimate duration of the film play and until this is known, management usesits best estimate of the ultimate settlement of these film costs. Film costs and the related film costs payable areadjusted to the final film settlement in the financial period GEI settles with the distributors. Actual settlement ofthese film costs could differ from those estimates.
Long-Lived Assets
GEI assesses the recoverability of its long-lived assets by determining whether the carrying value of thesebalances over the remaining life can be recovered through undiscounted projected cash flows associated withthese assets. Generally this is determined on a theatre-by-theatre basis for theatre related assets. In making itsassessment, GEI also considers the useful lives of its assets, the competitive landscape in which those assetsoperate, the introduction of new technologies within the industry and other factors affecting the sustainability ofasset cash flows.
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MANAGEMENT, TRUSTEES AND DIRECTORS
Trustees of the Fund
Stephen Pincus is the initial trustee of the Fund. Prior to filing the final prospectus of the Fund for theOffering, Mr. Pincus will cease to be a trustee and four individuals, three of whom will be independent of themembers of the LCE Group, will be appointed as trustees of the Fund.
Directors and Officers
The following table sets out, for each of the directors and senior officers of Cineplex Galaxy GP, theperson’s name, municipality of residence, positions with Cineplex Galaxy GP and the Fund and principaloccupation. On Closing, the three individuals who will serve as independent trustees of the Fund will beappointed to the board of directors of Cineplex Galaxy GP, as well as one additional director. The senior officersof Cineplex Galaxy GP will hold the same offices in Cineplex Galaxy LP. The term of office for each of thedirectors will expire at the time of the next annual meeting of securityholders of Cineplex Galaxy GP.
Name and Municipality of Residence Position Principal Occupation
Anthony Munk . . . . . . . . . . . . . . . . . . . . . . . . . . . Chairman, Director Managing Director, OnexNew York, New York Investment Corp.
Under the terms of the Securityholders Agreement, the LCE Shareholders will have the right to appoint aprescribed number of nominees to the board of directors of Cineplex Galaxy GP so long as the members of LCEGroup own at least 5% of the Units (on a fully diluted basis). See ‘‘Funding and Related Transactions —Securityholders Agreement’’.
Biographies
The following are brief profiles of the directors and officers of Cineplex Galaxy GP.
Anthony Munk, Chairman of the Board of Directors. Mr. Munk is currently a managing director of OnexInvestment Corp., a subsidiary of Onex Corporation which is a Toronto-based diversified company. Prior tojoining Onex in 1988, Mr. Munk was a vice-president with First Boston Corporation in London, England.Mr. Munk serves on the boards of Loews Cineplex, Galaxy Entertainment Inc., Cineplex Odeon Corporation,Barrick Gold Corporation and CMC Electronics Holdings Inc.
Timothy Duncanson, Director. Mr. Duncanson is currently a principal of Onex Corporation. Prior to joiningOnex in 1999, Mr. Duncanson was an associate in the mergers and acquisitions department of LazardFreres & Co., LLC and was also an investment analyst with Mutual Asset Management Ltd. Mr. Duncansonholds the Chartered Financial Analyst designation. He currently serves on the board of Cineplex OdeonCorporation.
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Ellis Jacob, Director and Chief Executive Officer. Mr. Jacob has 16 years experience in the motion pictureexhibition industry. Prior to assuming his current position as Chief Executive Officer, Mr. Jacob was ChiefExecutive Officer and co-founder of Galaxy Entertainment Inc. Prior to founding Galaxy Entertainment Inc.,Mr. Jacob represented Alliance Atlantis Communications Inc. as Integration Consultant from September 1998to the summer of 1999. From 1987 to 1998, Mr. Jacob held various positions with Cineplex Odeon Corporationas Vice-President, Finance, Chief Financial Officer, Executive Vice-President and, ultimately, Chief OperatingOfficer.
Mr. Jacob is a member of the board of directors and audit committee of Alliance AtlantisCommunications Inc., an integrated Canadian Entertainment company, and has agreed to serve as a director ofMotion Picture Distribution Inc. He is also a director of the Motion Picture Theatre Association of Canada.
Stephen Brown, Chief Financial Officer. Mr. Brown has been the Chief Financial Officer of GalaxyEntertainment Inc. since its inception in December 1998. Mr. Brown was one of the co-founders of GalaxyEntertainment Inc. and has played an integral role in the growth and development of Galaxy Entertainment Inc.From January 1990 until June 1998 Mr. Brown was employed in a number of different finance-related positionsat Cineplex Odeon Corporation. The last position Mr. Brown held at Cineplex Odeon Corporation was ChiefFinancial Officer.
Dan McGrath, Executive Vice-President. Mr. McGrath joined GEI in June 2000 as Executive Vice-President,responsible for the areas of operations, merchandising and marketing. From 1987 until 1994, Mr. McGrath heldvarious financial roles within Cineplex Odeon Corporation. From 1994, Mr. McGrath held the position ofVice-President, Operations for Canada and the United States. In 1998, Mr. McGrath was promoted to SeniorVice-President, Operations.
Mr. McGrath is a director and Treasurer for both the Motion Picture Theatre Association of Canada andthe Motion Picture Theatre Association of Ontario.
Gord Nelson, Senior Vice-President, Finance and Management Information Systems. Mr. Nelson joinedCineplex Odeon Corporation in December 1988 and has held various financial roles. From March 2003 topresent he has held the position of Senior Vice-President and Chief Financial Officer of Cineplex OdeonCorporation. From May 2000 to March 2003 Mr. Nelson held the position of Senior Vice-President, Finance andfrom May 1998 to May 2000 he held the position of Vice-President and Controller of Cineplex OdeonCorporation. While Mr. Nelson was an officer of Cineplex Odeon Corporation, it instituted proceedings underthe CCAA.
Robert O’Brien, Vice-President, Human Resources. Mr. O’Brien joined Cineplex Odeon Corporation inOctober of 1998 as Director of Human Resources and was promoted to Vice-President in August of 1999. Priorto joining Cineplex Odeon Corporation, Mr. O’Brien served for four years as the Vice-President of HumanResources for Marks and Spencer Canada and he has extensive experience in the retail sector. WhileMr. O’Brien was an officer of Cineplex Odeon Corporation, it instituted proceedings under the CCAA.
Committees of the Board
The board of directors of Cineplex Galaxy GP will have a compensation, nominating and corporategovernance committee and an audit committee.
Compensation, Nominating and Corporate Governance Committee. The compensation, nominating andcorporate governance committee will review and make recommendations to the directors concerning theappointment of officers of Cineplex Galaxy GP and Cineplex Galaxy LP. The committee will review annually theChief Executive Officer’s goals and objectives for the upcoming year and provide an appraisal of the ChiefExecutive Officer’s performance. The committee will also make recommendations concerning the remunerationof the directors. The committee will administer and make recommendations regarding the operation of thelong-term incentive plan and any employee bonus plans. The committee will also be responsible for developingthe Partnership’s approach to corporate governance issues, advising the board on filling vacancies on the boardand periodically reviewing the composition and effectiveness of the board and the contribution of individualdirectors.
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Audit Committee. The audit committee will assist Cineplex Galaxy GP’s directors in fulfilling theirresponsibilities of oversight and supervision of the accounting and financial reporting practices and procedures,the adequacy of internal accounting controls and procedures and the quality and integrity of financialstatements.
Remuneration of Directors of Cineplex Galaxy GP
Initial compensation for directors of Cineplex Galaxy GP will be $20,000 per year and $1,000 per directorfor attending board or committee meetings. Directors will receive $500 for attending meetings by telephone.Directors will also be reimbursed for out-of-pocket expenses for attending board and committee meetings.Directors will participate in the insurance and indemnification arrangements described below under‘‘— Insurance Coverage for the Fund and Related Entities and Indemnification’’. No directors compensationwill be paid to directors who are Trustees of the Fund, employees of members of the LCE Group or members ofmanagement of the Partnership.
Governance of the Fund
In lieu of a corporate governance committee, the Trustees will be directly responsible for developing theFund’s approach to governance issues, filling vacancies among the Trustees and periodically reviewingthe composition and effectiveness of the board of Trustees and the contribution of individual Trustees. Thecompensation, nominating and corporate governance committee of Cineplex Galaxy GP, which shall initially becomprised of three members, one of whom shall be an independent director appointed by the Fund and theother two of whom will be directors appointed by members of the LCE Group, will be responsible fordetermining the nominees to the board of Trustees. See ‘‘Funding and Related Transactions — SecurityholdersAgreement — Nomination of Trustees’’.
The Trustees will also be responsible for adopting and periodically reviewing and updating the Fund’swritten disclosure policy. This policy will, among other things:
• articulate the legal obligations of the Fund, its affiliates and their respective trustees, directors, officersand employees with respect to confidential information;
• identify spokespersons of the Fund who are the only persons authorized to communicate with thirdparties such as analysts, media and investors;
• provide guidelines on the disclosure of forward-looking information;
• require advance review by senior executives of Cineplex Galaxy LP of any selective disclosure of financialinformation to ensure the information is not material, to prevent the selective disclosure of materialinformation and to ensure that, if selective disclosure does occur, a news release is issued immediately;and
• establish ‘‘black-out’’ periods immediately prior to and following the disclosure of quarterly and annualfinancial results and immediately prior to the disclosure of certain material changes, during which periodsthe Fund, its affiliates and their respective trustees, directors, officers, employees and consultants may notpurchase or sell Units.
Audit Review
In lieu of an audit committee, the Trustees will directly fulfill their responsibilities of oversight andsupervision of the accounting and financial reporting practices and procedures of the Fund, the adequacy ofinternal accounting controls and procedures, and the quality and integrity of financial statements of the Fund. Inaddition, the Trustees will be responsible for directing the auditors’ examination of specific areas and for theselection of independent auditors of the Fund.
Remuneration of Trustees
Initial compensation for Trustees of the Fund will be $20,000 per Trustee per year and $1,000 per Trusteefor attending meetings of the Trustees. Trustees will receive $500 for attending meetings by telephone. The Fund
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or Cineplex Galaxy LP will also reimburse Trustees for out-of-pocket expenses for attending meetings. Trusteeswill participate in the insurance and indemnification arrangements described below under ‘‘— InsuranceCoverage for the Fund and Related Entities and Indemnification’’. See ‘‘Description of the Fund — Trustees’’.
Liability of Trustees
The Fund Declaration of Trust contains customary provisions limiting the liability of the Trustees. TheTrustees will not be liable to any Unitholder or any other person, in tort, contract or otherwise, for: any actiontaken or not taken in good faith in reliance on any documents that are, prima facie, properly executed; for anydepreciation of, or loss to, the Fund incurred by reason of the sale of any asset; for the loss or disposition ofmoney or securities; or any action or failure to act of any other person to whom the Trustees have delegated anyof their duties under the Fund Declaration of Trust; or for any other action or failure to act (including failure tocompel in any way any former Trustee to redress any breach of trust or any failure by any person to perform itsduties under or delegated to it under the Fund Declaration of Trust), unless, in each case, such liabilities ariseout of a breach of the Trustees standard of care, diligence and skill or breach of the restrictions on the Trustees’powers as set out in the Fund Declaration of Trust. If the Trustees have retained an appropriate expert, advisoror legal counsel with respect to any matter connected with their duties under the Fund Declaration of Trust, theTrustees may act or refuse to act based on the advice of such expert, advisor or legal counsel, and the Trusteeswill not be liable for and will be fully protected from any loss or liability occasioned by any action or refusal toact based on the advice of such expert, advisor or legal counsel. In the exercise of the powers, authorities ordiscretion conferred on the Trustees under the Fund Declaration of Trust, the Trustees are and will beconclusively deemed to be acting as Trustees of the Fund’s assets and will not be subject to any personal liabilityfor any debts, liabilities, obligations, claims, demands, judgments, costs, charges or expenses against or withrespect to the Fund or the Fund’s assets.
Insurance Coverage for the Fund and Related Entities and Indemnification
The Fund will obtain or cause to be obtained a policy of insurance for the Trustees of the Fund and for thetrustees, directors and officers of the Fund’s subsidiaries. The initial aggregate limit of liability applicable to theinsured trustees, directors and officers under the policy will be $ 1 million. Under the policy, each entity willhave reimbursement coverage to the extent that it has indemnified the trustees, directors and officers. The policywill include securities claims coverage, insuring against any legal obligation to pay on account of any securitiesclaims brought against the Fund, the Trust, Cineplex Galaxy GP, Cineplex Galaxy LP and any of their respectivesubsidiaries. The total limit of liability will be shared among the Fund, the Trust, Cineplex Galaxy GP, CineplexGalaxy LP and any of their respective subsidiaries and their respective trustees, directors and officers so that thelimit of liability will not be exclusive to any one of the entities or their respective trustees, directors and officers.
The by-laws of Cineplex Galaxy GP provide for the indemnification of its directors and officers from andagainst liability and costs in respect of any action or suit brought against them in connection with the executionof their duties of office, subject to certain limitations. The Fund Declaration of Trust and the Trust Declarationof Trust also provide for the indemnification of the Trustees and officers of the Fund and the trustees andofficers of the Trust, respectively, from and against liability and costs in respect of any action or suit broughtagainst them in connection with the execution of their duties of office, subject to certain limitations.
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EXECUTIVE COMPENSATION
Summary Compensation Table
The following table provides a summary of the compensation earned in respect of the 2002 fiscal year byeach of Cineplex Galaxy LP’s Chief Executive Officer and the four next most highly compensated executiveofficers (the ‘‘Named Executive Officers’’) of Cineplex Galaxy LP (based upon the compensation earned by suchindividuals in their capacities as officers of COC or GEI, as applicable, during such fiscal year).
Annual Compensation Long Term Compensation
Other Annual Other Number of All OtherName and Principal Position with Fiscal Salary Bonus(1) Compensation Compensation Options CompensationCOC/GEI Year ($) ($) ($) ($) Granted ($)
(1) These amounts represent the bonuses paid in respect of the year 2002. Bonus amounts were paid in cash in the year following thefinancial year in respect of which they were earned.
(2) Reflects payments in respect of car allowance.
(3) Amount reflects retention bonus of $126,667 earned by Mr. Nelson during the period of COC’s restructuring from February 2001 toMarch 2002.
(4) Reflects payments towards pension contribution.
Neither COC nor GEI had any share options outstanding or granted during 2002.
Employment Agreements
On Closing, each of Ellis Jacob, Stephen Brown, Dan McGrath and Gord Nelson will enter intoemployment agreements with Cineplex Galaxy LP. The agreements will provide that they devote substantially allof their time to Cineplex Galaxy LP, but may also provide services to the LCE Group. Each employmentagreement will provide that the executive will be provided with a compensation package (salary, incentives andbenefits). Each such executive will also be eligible to participate in the long-term incentive plan to be establishedby Cineplex Galaxy LP. See ‘‘— Long-term Incentive Plan’’.
Long-term Incentive Plan
The officers and key employees of the Partnership will be eligible to participate in Cineplex Galaxy LP’sLong-term Incentive Plan (the ‘‘LTIP’’). The purpose of the LTIP is to provide eligible participants withcompensation opportunities that will enhance the Partnership’s ability to attract, retain and motivate keypersonnel and reward officers and key employees for significant performance that results in the Fund exceedingits per Unit distributable cash targets. Pursuant to the LTIP, Cineplex Galaxy LP will set aside a pool of fundsbased upon the amount, if any, by which the Fund’s per Unit distributions exceed certain defined distributablecash threshold amounts. Cineplex Galaxy LP or a trustee will purchase Units in the market with this pool of
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funds and will hold the Units until such time as ownership vests to each participant. The board of directors ofCineplex Galaxy GP or its compensation, nominating and corporate governance committee will have the powerto, among other things: (i) determine those individuals who will participate in the LTIP; (ii) determine the levelof participation of each participant; and (iii) determine the time or times when LTIP awards will vest or be paidto each participant.
FUNDING AND RELATED TRANSACTIONS
Closing Transactions
Prior to Closing and the completion of the transactions contemplated in this ‘‘Funding and RelatedTransactions’’ section, the business of the Partnership has been operated by COC and GEI.
The Fund, the Trust, Cineplex Galaxy LP, Cineplex Galaxy GP, Loews Cineplex, GEI and the Investors willenter into the Investment and Acquisition Agreement on the date of the final prospectus. The Investment andAcquisition Agreement will provide, among other things, for the following terms governing the investment bythe Fund of the proceeds of the Offering:
Pre-Closing
• COC will establish Cineplex Galaxy LP and will incorporate and subscribe for common shares ofCineplex Galaxy GP which will act as general partner of Cineplex Galaxy LP.
• COC will transfer substantially all of its theatre business assets to Cineplex Galaxy LP in considerationfor a non-interest bearing promissory note in the principal amount of $ 1 , a promissory note bearinginterest of a rate equal to 1 % (an ‘‘Over-Allotment Note’’) in the principal amount of $ 1 , theassumption of $ 1 of liabilities of COC and Class B LP Units.
• Cineplex Odeon (Quebec) Inc., a subsidiary of COC, will transfer substantially all of its theatre businessassets to Cineplex Galaxy LP in consideration for a non-interest bearing promissory note in the amountof $ 1 , an Over-Allotment Note in the principal amount of $ 1 , the assumption of $ 1 ofliabilities of Cineplex Odeon (Quebec) Inc. and Class B LP Units.
Closing
• The Fund will use approximately 91% of the proceeds of the Offering to subscribe for Trust Notes.
• The Fund will use the remainder of the proceeds of the Offering to subscribe for Trust Units.
• The Trust will use a portion of the proceeds of the sale of its Trust Units and Trust Notes to the Fund topurchase Class A LP Units representing a 1 % interest in Cineplex Galaxy LP, shares of CineplexGalaxy GP representing 1 % of the shares of Cineplex Galaxy GP and the Trust will use the balanceto loan Cineplex Galaxy Acquisition the amount of $ 1 pursuant to the Galaxy Notes.
• Cineplex Galaxy LP will use the proceeds of the sale of its Class A LP Units, together with the funds fromthe New Credit Facilities, to: (i) pay certain acquisition costs; (ii) repay the promissory notes issued toCOC and Cineplex Odeon (Quebec) Inc. (other than the Over-Allotment Notes); and (iii) subscribe forshares of Cineplex Galaxy Acquisition.
• Cineplex Galaxy LP will create Cineplex Galaxy Acquisition and subscribe for all of the outstandingshares of Cineplex Galaxy Acquisition.
• Cineplex Galaxy Acquisition will acquire all of the shares of GEI from certain of the Investors inexchange for shares of Cineplex Galaxy Acquisition and/or cash in the amount of $ 1 .
• Cineplex Galaxy LP will acquire the shares of Cineplex Galaxy Acquisition held by certain of theInvestors in exchange for Class B LP Units representing a 1 % interest in Cineplex Galaxy LP.
• Cineplex Galaxy Acquisition and GEI will amalgamate to form Galaxy Entertainment Inc., a wholly-owned subsidiary of Cineplex Galaxy LP.
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• Approximately $21.9 million of the proceeds paid to Cineplex Galaxy LP and GEI will be used to fundthe escrow account, which funds will be released as provided for in the Support Agreement.
• GEI will repay its outstanding indebtedness in the amount of $ 1 .
After Closing, COC will retain ownership of certain assets and associated liabilities which are not integral toits film exhibition operations as well as six theatres in Canada which do not meet the strategic or financialcriteria for acquisition by Cineplex Galaxy LP, three of which are drive-in theatres. The Partnership will operatethese non-strategic theatres for COC for a fee based on a percentage of the revenues generated by such theatres.
If the Over-Allotment Option is exercised in full, the Fund will use the proceeds received to subscribe foradditional Trust Units and Series 1 Trust Notes. The Trust will, in turn, subscribe for additional Class A LPUnits. Cineplex Galaxy LP will use a portion of the proceeds from the Over-Allotment Option to acquireClass B LP Units from certain Investors. The balance of the proceeds will be used to repay the Over-AllotmentNotes. If the Over-Allotment Option is not exercised in full, additional Class B LP Units and shares of CineplexGalaxy GP will be issued to holders of the Over-Allotment Notes in satisfaction of amounts owing undersuch notes.
The Investment and Acquisition Agreement will contain customary representations and warranties andrelated indemnities from Cineplex Galaxy LP in favour of the Trust and the Fund, including a representation andwarranty that this prospectus does not contain any misrepresentation (as that term is defined in the Securities Act(Ontario)). In addition, COC, GEI and Loews Cineplex will provide certain representations and warranties infavour of the Trust and the Fund, including a representation and warranty that this prospectus does not contain amisrepresentation. In addition, the Galaxy Investors will provide limited representations and warranties as totheir authority to enter into the agreement and title to the shares of GEI held by them.
The total maximum liability under all representations, warranties and indemnities will be limited, withoutduplication, in the case of COC, to the gross cash proceeds of this Offering, and in the case of Loews Cineplex,to the greater of (i) 50% of the gross cash proceeds of this Offering, and (ii) the aggregate net cash proceedsreceived by Loews Cineplex and the Galaxy Investors pursuant to the Investment and Acquisition Agreement,after repayment of all debt repaid in respect of current credit facilities of LCT, COC, Cineplex Odeon(Quebec) Inc. or GEI and after making all other payments (including, without limitation, funding the escrowaccount under the Support Agreement) in connection with this Offering. Loews Cineplex will not make anyrepresentations or warranties relating to GEI. However, Loews Cineplex will provide an indemnity for anymisrepresentation in the prospectus arising from information relating exclusively to GEI and any breach ofGEI’s representations or warranties, which indemnity shall be limited to the net cash proceeds received by theGalaxy Investors after repayment of all debt repaid in respect of current credit facilities of GEI, provided suchlimit shall not be less than $25 million.
All claims under the representations, warranties and indemnities will be subject to an aggregate deductibleof $500,000 and thereafter each set of claims must reach an aggregate threshold of $200,000. Any claims underthe Investment and Acquisition Agreement must first be made against COC, and only to the extent recoverycannot be obtained from COC can claims be made against Loews Cineplex.
The representations and warranties of Cineplex Galaxy LP, GEI, COC and Loews Cineplex will surviveClosing for a period of 18 months following Closing, except for certain limited representations and warranties,which will survive without limitation of time, and the ‘‘no misrepresentation’’ representation, warranty andindemnity which will survive for a period of three years.
The completion of the investment will be conditional upon, among other things, the completion of theOffering, the receipt of certain consents and the funds being made available under the New Credit Facilities.
If the investment does not close as provided by the Investment and Acquisition Agreement, the Fund willrefund to purchasers the consideration paid in respect of the Units offered under this prospectus.
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28SEP200306482801
Structure Following Closing
The following chart illustrates, on a simplified basis, the structure of the Fund (including jurisdiction ofestablishment/incorporation of the various entities) following completion of this Offering and the indirectinvestment by the Fund in Cineplex Galaxy LP and related transactions (as described in more detail in thepresent section, ‘‘Funding and Related Transactions’’).
Cineplex Galaxy LimitedPartnership(Manitoba)
Galaxy Entertainment Inc.(Ontario)
Assets of Cineplex(2)
Odeon Corporation
Cineplex GalaxyGeneral Partner
Corporation(Canada)
Cineplex GalaxyTrust
(Ontario)
Cineplex Galaxy
Income Fund(Ontario)
Unitholders
Investors(1)
100%
• %
• %
• %
• %
generalpartner
100%Trust NotesTrust Units
100%
GalaxyNotes
(1) Only Investors who are members of the LCE Group will hold shares of Cineplex Galaxy GP.
(2) Excludes certain assets and associated liabilities of COC which are not integral to its film exhibition operations as well as six CineplexOdeon theatres in Canada which do not meet the strategic or financial criteria for acquisition by Cineplex Galaxy LP.
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Investors’ Interests
Following completion of the Offering, the Investors will hold Class B LP Units representing 1 % of theissued and outstanding LP Units and 1 % of the issued and outstanding shares of Cineplex Galaxy GP.Pursuant to the terms of the Exchange Agreement, the Investors will be entitled to effectively exchange all or aportion of their Class B LP Units for Units, representing 1 % of the issued and outstanding Units on a fullydiluted basis following the Closing.
Exchange Agreement
On Closing, the Fund, the Trust, Cineplex Galaxy LP, Cineplex Galaxy GP and the Investors will enter intothe Exchange Agreement. The Exchange Agreement will grant each of the Investors, or any entity controlled bythem, the right to effectively exchange, through a series of steps to be described in the Exchange Agreement, allor any portion of their Class B LP Units for Units (the ‘‘exchange rights’’). In certain circumstances, theexchange rights will permit a holder of shares of COC to transfer such shares to the Trust in exchange for Unitsprovided that, immediately prior to such transfer, any remaining assets of COC, other than the retained interestto be exchanged, any debt of Cineplex Odeon (Quebec) Inc. and other immaterial assets relating to the theatrebusiness which remained in COC, will be transferred by COC to another entity. The exchange rights may beexercised by the Investors at any time at their discretion so long as all of the following conditions have been met:(a) the exchange would not cause the Fund to breach the restrictions respecting non-resident ownershipcontained in the Fund Declaration of Trust as described in ‘‘Description of the Fund — Limitation onNon-Resident Ownership’’; (b) the Fund is legally entitled to issue the Units in connection with the exercise ofthe exchange rights; and (c) the person receiving the Units upon the exercise of the exchange rights complieswith all applicable securities laws. Rights under the Exchange Agreement may be assigned by the Investors inwhole or in part in connection with a transfer of their direct or indirect ownership interests in CineplexGalaxy LP. The Exchange Agreement will provide that, to the extent Class B LP Units are exchanged for Unitsand such Units are subsequently transferred to a person who is not a member of the LCE Group, the Trust willbe entitled to acquire a corresponding number of shares of Cineplex Galaxy GP from the applicable Investors.
The Investors will also be granted ‘‘piggy-back’’ registration rights and certain of the Investors will begranted demand registration rights by the Fund, subject to certain restrictions, which will enable the Investors torequire the Fund to file a prospectus and otherwise assist with a public offering of Units, pursuant to the termsand conditions contained in the Exchange Agreement. In the event of a ‘‘piggy-back’’ offering, the Fund’sfinancing requirements would take priority.
Securityholders Agreement
On Closing, the Fund, the Trust, Cineplex Galaxy LP, Cineplex Galaxy GP and the Investors will enter into aunanimous securityholders agreement governing their securityholdings in, and the business and affairs of,Cineplex Galaxy LP and Cineplex Galaxy GP (the ‘‘Securityholders Agreement’’).
The following is a summary of certain provisions of the Securityholders Agreement, which summary is notintended to be complete. Reference is made to the Securityholders Agreement for a complete description andthe full text of its provisions.
Directors
The Securityholders Agreement will provide that the board of directors of Cineplex Galaxy GP (the‘‘Board’’) will be comprised of seven directors. For so long as members of the LCE Group hold, directly orindirectly, not less than 20% of the Units (on a fully-diluted basis), LCE Shareholders will have the right toappoint four directors to the Board. If the LCE Group’s ownership interest in Cineplex Galaxy LP falls below20%, LCE Shareholders will be entitled to appoint directors to the Board as follows:
(i) less than 20% and not less than 15% — three directors;
(ii) less than 15% and not less than 10% — two directors; and
(iii) less than 10% and not less than 5% — one director.
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If members of the LCE Group own, directly or indirectly, less than 5% of the Units (on a fully-dilutedbasis), LCE Shareholders will cease to have the right to appoint any directors of Cineplex Galaxy GP. The Fundwill be entitled to appoint three directors to the Board, who will initially be the three independent Trustees (asdescribed below). The balance, if any, of the Board will be independent of the LCE Group. These boardrepresentation rights are not transferable and if the LCE Group sells its interests, or a portion thereof, inCineplex Galaxy LP, its board representation rights, or a corresponding portion thereof, will terminate, exceptthat members of the LCE Group, directly or indirectly, may transfer such securities to another member of theLCE Group and retain such board representation rights.
Nomination of Trustees
On Closing, the board of the Fund will be comprised of four Trustees. One of the Trustees shall be anominee of the LCE Shareholders for so long as members of the LCE Group owns at least 20% of the Units (ona fully diluted basis) and the three remaining Trustees must be independent of the members of the LCE Group.The nominees for election of the three independent Trustees in the proxy-related materials sent to Unitholderswill be determined by the compensation, nominating and corporate governance committee of Cineplex GalaxyGP, which will be comprised of three members, two of whom, while members of the LCE Group hold at least20% of the outstanding Units of the Fund (on a fully-diluted basis), will be directors appointed by LCEShareholders and one of whom will be an independent director appointed by the Fund. If the LCE Group owns5% or more but less than 20% of the outstanding Units (on a fully-diluted basis), one member of suchcommittee will be a director of Cineplex Galaxy GP appointed by LCE Shareholders and the other two memberswill be independent directors appointed by the Fund. While such committee will be entitled to propose the threenominees for election as independent Trustees, there is no requirement that the Unitholders vote in favour ofthe proposed nominees.
Transfers
The Securityholders Agreement will provide that members of the LCE Group may only transfer theirinterests in Cineplex Galaxy GP (together with all rights under the Securityholders Agreement) to othermembers of the LCE Group, and provided that the transferee agrees to be bound by the provisions of theSecurityholders Agreement.
Share Issuances and Pre-Emptive Rights
The Securityholders Agreement will also provide that each of the Investors and LCE Shareholders will havepre-emptive rights to purchase interests in Cineplex Galaxy LP to maintain its pro rata ownership interest in theevent that Cineplex Galaxy LP decides to issue equity securities to third parties or issues equity or debt to anyexisting partner (including the Trust). If Cineplex Galaxy LP, or any of its subsidiaries, issues equity securities orindebtedness (other than the Galaxy Notes), the Investors and LCE Shareholders will be entitled to participatepro rata on the same basis. Upon exercise of this right, the Investors and LCE Shareholders will be entitled toparticipate in the issue of securities of Cineplex Galaxy LP at the most favourable price and on the mostfavourable terms as such securities are offered to any party. Cineplex Galaxy GP will not be entitled to issuesecurities without the prior approval of all of the shareholders of Cineplex Galaxy GP.
Securityholder Approval for Certain Matters
The Securityholders Agreement will provide that Cineplex Galaxy LP or Cineplex Galaxy GP may not takethe following actions without the prior approval of the LCE Shareholders so long as the LCE Group, directly orindirectly, collectively holds not less than 10% of the Units (on a fully-diluted basis): enter into any merger,consolidation, business combination or other corporate transaction, including acquisitions; sell, assign, convey orotherwise dispose of all or a material portion of the assets of the Fund or the Partnership or any of the Fund’sdirect or indirect interests in Cineplex Galaxy LP; adopt any plan or proposal to liquidate, dissolve or reorganizeor seek relief under bankruptcy or insolvency laws; change the size of the board of the Fund, the Trust orCineplex Galaxy GP or their respective subsidiaries; take any action that would hinder the business of CineplexGalaxy LP from being carried on in the ordinary course; take any action in contravention of a materialagreement or obligation; or agree to do any of the foregoing. These consent rights are not transferable and if the
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LCE Group directly or indirectly sells its interests, or a portion thereof, in Cineplex Galaxy LP or the Fund, suchthat it owns less than 10% of the Units (on a fully-diluted basis), its approval rights will terminate, except thatany member of the LCE Group may transfer their securities to another member of the LCE Group, togetherwith such approval rights.
Amendments
The Securityholders Agreement will provide that certain material agreements, including the SecurityholdersAgreement, the Cineplex Galaxy LP Agreement, the Services Agreement and the Fund Declaration of Trust,may only be amended with the approval of all of the shareholders of Cineplex Galaxy GP.
Galaxy Notes
On completion of the Offering, Cineplex Galaxy Acquisition will enter into an agreement with the Trustpursuant to which the Trust will loan to Cineplex Galaxy Acquisition an amount equal to $ 1 (the ‘‘GalaxyNotes’’), which will bear interest at a rate of 1 % per annum. Following the amalgamation of CineplexGalaxy Acquisition and GEI, the Galaxy Notes will become an obligation of GEI. The Galaxy Notes will besubordinated to the New Credit Facilities. In connection with the entering into of the Galaxy Notes, the Trustwill enter into an agreement with Cineplex Galaxy LP designed to ensure that the holders of Class B LP Unitsreceive distributions equal to distributions per Unit made to the Trust in respect of the Galaxy Notes. Pursuantto such agreement the Trust will agree to contribute funds to Cineplex Galaxy LP if Cineplex Galaxy LP isotherwise unable to pay the ‘‘catch-up payment’’ per Class B LP Unit out of the assets of Cineplex Galaxy LP.The ‘‘catch-up payment’’ is generally equal to a ‘‘specified portion’’ of any principal or interest repayments onthe Galaxy Notes received by the Trust. The ‘‘specified portion’’ is equal to the number of Class B LP Unitsoutstanding divided by the aggregate number of Units outstanding.
SUPPORT AGREEMENT
Effective on Closing, the Fund, Cineplex Galaxy LP, COC, GEI and the Galaxy Investors will enter into theSupport Agreement. Under the Support Agreement, certain of the Investors will provide financial support, for aperiod ending no later than December 31, 2006, for the $9.8 million of cash flows anticipated (the ‘‘AnticipatedCash Flows’’) to be generated each year in that period by certain theatres acquired by the Partnership on Closingwhich have not been open for a full year or are scheduled to open prior to December 31, 2003 (the‘‘New Theatres’’).
Under the terms of the Support Agreement, the Galaxy Investors and COC (the ‘‘Sellers’’) will agree toplace into an escrow account approximately $21.9 million, being three times an amount equal to (i) the$9.8 million anticipated to be generated each year by the New Theatres (net of the reduction in cash flowexpected at two Edmonton locations as a result of the opening of the new Cineplex Odeon North Edmontontheatre) less (ii) the $2.5 million of actual cash flow generated by such New Theatres from their respectiveopenings during the twelve-month period ending August 31, 2003 (after reflecting the change in cash flows fromadjacent theatres compared to the expected change). Subject to the release of funds from the escrow accountdescribed below, these funds will be held in the escrow account for a period ending no later than December 31,2006.
The New Theatres consist of one Cineplex theatre and four Galaxy theatres, all of which were openedbetween December 2002 and July 2003, and two Galaxy theatres currently under construction which arescheduled to open prior to December 31, 2003. The New Theatres which are open generated $0.7 million and$2.5 million of cash flow in the twelve months ended June 30, 2003 and the twelve months ending August 31,2003, respectively (after reflecting the change in cash flows from adjacent theatres compared to the expectedchange).
The Partnership may at its option draw on the escrow account to the extent that Anticipated Cash Flows forany quarter exceed net actual cash flows generated by the New Theatres (‘‘Actual Cash Flows’’) for that quarter.At the end of each fiscal year, starting on December 31, 2004, if Actual Cash Flows meet or exceed AnticipatedCash Flows for such year, the Sellers will be repaid amounts drawn on the escrow account during such year,together with the balance in the escrow account. For the purposes of the fiscal year ended December 31, 2004,
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the relevant period for determining repayments to the Sellers, if any, shall commence on the first day of themonth in which Closing occurs. If Actual Cash Flows are less than Anticipated Cash Flows for a fiscal year, therequired escrow will be reset to the amount of such shortfall multiplied by the number of years remaining in theescrow term.
Following December 31, 2006, the obligations of the Sellers under the Support Agreement will terminate.While the Support Agreement may provide for financial contribution over a period ending no later thanDecember 31, 2006, the release procedures contained therein may result in the release of the escrow funds asearly as December 31, 2004.
DESCRIPTION OF THE FUND
General
The Fund is an unincorporated, open-ended, limited purpose trust established under the laws of theProvince of Ontario pursuant to the Fund Declaration of Trust. It is intended that the Fund will qualify as amutual fund trust for the purposes of the Tax Act. The following is a summary of the material attributes andcharacteristics of the Units and certain provisions of the Fund Declaration of Trust, which summary does notpurport to be complete. Reference is made to the Fund Declaration of Trust for a complete description of theUnits and the full text of its provisions. See ‘‘Material Contracts’’.
Activities of the Fund
The Fund Declaration of Trust provides that the Fund is restricted to:
(i) acquiring, investing in, transferring, disposing of and otherwise dealing with securities of the Trust andother corporations, partnerships, trusts or other persons engaged, directly or indirectly, in the businessof film exhibition, as well as activities ancillary thereto, and such other investments as the Trustees maydetermine;
(ii) acquiring, investing in, transferring, disposing of and otherwise dealing with securities of any of theTrust, Cineplex Galaxy GP, Cineplex Galaxy LP or their respective subsidiaries in connection with theFund’s obligations under the Exchange Agreement;
(iii) temporarily holding cash in interest-bearing accounts, short-term government debt or short-terminvestment grade corporate debt for the purposes of paying the expenses and liabilities of the Fund,paying amounts payable by the Fund in connection with the redemption of any Units or other securitiesof the Fund and making distributions to Unitholders;
(iv) issuing Units and other securities of the Fund (including securities convertible or exchangeable intoUnits, or warrants, options or other rights to acquire Units or other securities of the Fund) (a) forobtaining funds to conduct the activities of the Fund, including raising funds for acquisitions anddevelopment; (b) in satisfaction of any non-cash distribution; (c) pursuant to any distributionreinvestment plans, incentive option plans or other compensation plans, if any, established by the Fund,the Trust, Cineplex Galaxy GP, Cineplex Galaxy LP or their respective subsidiaries; or (d) under theExchange Agreement;
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(v) issuing debt securities (including debt securities convertible into, or exchangeable for, Units or othersecurities of the Fund) or otherwise borrowing and mortgaging, pledging, charging, granting a securityinterest in or otherwise encumbering any of its assets as security;
(vi) guaranteeing the payment of any indebtedness, liability or obligation of the Trust, Cineplex Galaxy LP,Cineplex Galaxy GP or any of their respective subsidiaries or the performance of any obligation of anyof them, and mortgaging, pledging, charging, granting a security interest in or otherwise encumberingall or any part of its assets as security for such guarantee, and subordinating its rights under the TrustNotes to other indebtedness;
(vii) disposing of any part of the assets of the Fund;
(viii) issuing or redeeming rights and Units pursuant to any Unitholder rights plan adopted by the Fund;
(ix) repurchasing securities issued by the Fund, subject to the provisions of the Fund Declaration of Trustand applicable laws;
(x) satisfying the obligations, liabilities or indebtedness of the Fund; and
(xi) undertaking all other usual and customary actions for the conduct of the activities of the Fund in theordinary course as are approved by the Trustees from time to time, or as are contemplated by the FundDeclaration of Trust,
provided the Fund will not undertake any activity, take any action, omit to take any action or make anyinvestment which would result in the Fund not being considered a ‘‘mutual fund trust’’ for purposes of theTax Act, or would result in the Units being treated as ‘‘foreign property’’ for the purposes of the Tax Act.
Units
An unlimited number of Units may be issued pursuant to the Fund Declaration of Trust. Each Unit istransferable and represents an equal undivided beneficial interest in any distributions from the Fund, whether ofnet income, net realized capital gains (other than net realized capital gains distributed to redeemingUnitholders) or other amounts, and in the net assets of the Fund in the event of termination or winding-up ofthe Fund.
All Units are of the same class with equal rights and privileges. The Units issued pursuant to the Offeringare not subject to future calls or assessments, and entitle the holders thereof to one vote for each whole Unitheld at all meetings of Unitholders.
Except as set out under ‘‘Redemption at the Option of Unitholders’’ below, the Units have no conversion,retraction, redemption or pre-emptive rights.
Issuance of Units
The Fund Declaration of Trust provides that the Units or rights to acquire Units may be issued at the times,to the persons, for the consideration and on the terms and conditions that the Trustees determine, includingpursuant to any unitholder rights plan or any incentive option or other compensation plan established by theFund. Units may be issued in satisfaction of any non-cash distribution of the Fund to Unitholders on a pro ratabasis to the extent that the Fund does not have available cash to fund such distributions. The Fund Declarationof Trust also provides, unless the Trustees determine otherwise, that immediately after any pro rata distributionof Units to all Unitholders in satisfaction of any non-cash distribution, the number of outstanding Units will beconsolidated such that each Unitholder will hold after the consolidation the same number of Units as theUnitholder held before the non-cash distribution, except where tax was required to be withheld in respect of theUnitholder’s share of the distribution. In this case, each certificate, if any, representing a number of Units priorto the non-cash distribution is deemed to represent the same number of Units after the non-cash distributionand the consolidation. Where amounts so distributed represent income, non-resident holders will be subject towithholding tax and the consolidation will not result in such non-resident Unitholders holding the same numberof Units. Such non-resident Unitholders will be required to surrender the certificates, if any, representing theiroriginal Units in exchange for a certificate representing their post-consolidation Units.
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Trustees
The Fund will have a minimum of three Trustees and a maximum of ten Trustees, the majority of whommust be residents of Canada (within the meaning of the Tax Act) (except that prior to Closing, the Fund mayhave a minimum of one Trustee). Under the terms of the Fund Declaration of Trust, the board of Trustees willconsist of four members and LCE Shareholders have the right to appoint one of such Trustees so long asmembers of the LCE Group own at least 20% of the Units (on a fully diluted basis). The Trustees are tosupervise the activities and manage the affairs of the Fund.
The Fund Declaration of Trust provides that, subject to its terms and conditions, the Trustees will have full,absolute and exclusive power, control and authority over the trust assets and over the affairs of the Fund to thesame extent as if the Trustees were the sole and absolute legal and beneficial owners of the trust assets and willsupervise the investments and conduct the affairs of the Fund. Subject to such terms and conditions, the Trusteesare responsible for, among other things:
• acting for, voting on behalf of and representing the Fund as a holder of the Trust Units, Trust Notes andother securities of the Trust;
• maintaining records and providing reports to Unitholders;
• supervising the activities and managing the investments and affairs of the Fund;
• effecting payments of distributable cash from the Fund to Unitholders; and
• voting in favour of the Fund’s nominees to serve as trustees of the Trust.
Any one or more of the Trustees may resign upon 30 days’ written notice to the Fund, unless suchresignation would cause the number of remaining Trustees to be less than a quorum, and may, except in the caseof any Trustee appointed by LCE Shareholders, be removed by a resolution passed by a majority of the votes castat a meeting of the Unitholders (‘‘Ordinary Resolution’’) and the vacancy created by the removal or resignationmust be filled at the same meeting, failing which it may be filled by the affirmative vote of a quorum of theTrustees.
Trustees will be appointed at each annual meeting of Unitholders to hold office for a term expiring at theclose of the next annual meeting, provided that Unitholders shall not be entitled to vote on the appointment ofany Trustee appointed by the LCE Shareholders. A quorum of the Trustees, being the majority of the Trusteesthen holding office, may fill a vacancy in the Trustees, except a vacancy resulting from an increase in the numberof Trustees or from a failure of the Unitholders to elect the required number of Trustees. In the absence of aquorum of Trustees, or if the vacancy has arisen from a failure of the Unitholders to elect the required numberof Trustees, the Trustees will promptly call a special meeting of the Unitholders to fill the vacancy provided thatthe Unitholders will not be permitted to fill a vacancy created by an appointee of the LCE Shareholders ceasingfor any reason to be a Trustee. If the Trustees fail to call that meeting or if there are not Trustees then in office,any Unitholder may call the meeting. Except otherwise provided in the Fund Declaration of Trust, the Trusteesmay, between annual meetings of Unitholders, appoint one or more additional Trustees to serve until the nextannual meeting of Unitholders, but the number of additional Trustees will not at any time exceed one-third ofthe number of Trustees who held office at the expiration of the immediately preceding annual meeting ofUnitholders.
The Fund Declaration of Trust provides that the Trustees will act honestly and in good faith with a view tothe best interests of the Fund and in connection with that duty will exercise the degree of care, diligence and skillthat a reasonably prudent person would exercise in comparable circumstances. The Fund Declaration of Trustprovides that each Trustee will be entitled to indemnification from the Fund in respect of the exercise of theTrustee’s power and the discharge of the Trustee’s duties, provided that the Trustee acted honestly and in goodfaith with a view to the best interests of all the Unitholders or, in the case of a criminal or administrative actionor proceeding that is enforced by a monetary penalty, where the Trustee had reasonable grounds for believingthat his/her conduct was lawful.
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Cash Distributions
The Fund intends to make distributions of its available cash to the maximum extent possible to theUnitholders. The Fund intends to make equal monthly cash distributions to Unitholders of record on the lastbusiness day of each month, less estimated cash amounts required for expenses and other obligations of theFund and cash redemptions of Units and any tax liability.
The Fund may make additional distributions in excess of monthly distributions during the year, as theTrustees may determine.
Any income of the Fund which is applied to any cash redemptions of Units or is otherwise unavailable forcash distribution will, to the extent necessary to ensure that the Fund does not have an income tax liability underPart I of the Tax Act, be distributed to Unitholders in the form of additional Units. Those additional Units willbe issued under exemptions under applicable securities laws, discretionary exemptions granted by applicablesecurities regulatory authorities or a prospectus or similar filing.
The Fund intends to make monthly cash distributions to Unitholders of record on the last business day ofeach month, and the distributions will be paid within 30 days following the end of each month. The initial cashdistribution for the period from the Closing to 1 , 2003 is expected to be paid on or before 1 , 2003 and isestimated to be $ 1 per Unit (assuming that the Closing occurs on 1 , 2003).
Holders of Units who are non-residents of Canada will be required to pay all withholding taxes payable inrespect of any distributions of income by the Fund, whether those distributions are in the form of cash oradditional Units. Non-residents should consult their own tax advisors regarding the tax consequences ofinvesting in the Units. See ‘‘Certain Canadian Federal Income Tax Considerations’’.
Redemption at the Option of Unitholders
Units are redeemable at any time on demand by the holders thereof. As the Units will be issued inbook-entry form, a Unitholder who wishes to exercise the redemption right will be required to obtain aredemption notice form from the Unitholder’s investment dealer who will be required to deliver the completedredemption notice form to the Fund at its head office and to CDS. Upon receipt of the redemption notice by theFund, all rights to and under the Units tendered for redemption shall be surrendered and the holder thereofshall be entitled to receive a price per Unit (the ‘‘Redemption Price’’) equal to the lesser of:
(i) 90% of the ‘‘market price’’ of a Unit calculated as of the date on which the Units were surrendered forredemption (the ‘‘Redemption Date’’); and
(ii) 100% of the ‘‘closing market price’’ on the Redemption Date.
For purposes of this calculation, the ‘‘market price’’ of a Unit as at a specified date will be:
(i) an amount equal to the weighted average trading price of a Unit on the principal exchange or marketon which the Units are listed or quoted for trading during the period of ten consecutive trading daysending on such date;
(ii) an amount equal to the weighted average of the closing prices of a Unit on the principal exchange ormarket on which the Units are listed or quoted for trading during the period of ten consecutive tradingdays ending on such date, if the applicable exchange or market does not provide information necessaryto compute a weighted average trading price; or
(iii) if there was trading on the applicable exchange or market for fewer than five of the ten trading days, anamount equal to the weighted average of the following prices established for each of the tenconsecutive trading days ending on such date: the weighted average of the last bid and last askingprices of the Units for each day on which there was no trading; the closing price of the Units for eachday that there was trading if the exchange or market provides a closing price; and the weighted averageof the highest and lowest prices of the Units for each day that there was trading, if the market providesonly the highest and lowest prices of Units traded on a particular day.
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The ‘‘closing market price’’ of a Unit for the purpose of the foregoing calculations, as at any date, will be:
(i) an amount equal to the weighted average trading price of a Unit on the principal exchange or marketon which the Units are listed or quoted for trading on the specified date and the principal exchange ormarket provides information necessary to compute a weighted average trading price of the Units onthe specified date;
(ii) an amount equal to the closing price of a Unit on the principal market or exchange, if there was a tradeon the specified date and the principal exchange or market provides only a closing price of the Units onthe specified date;
(iii) an amount equal to the simple average of the highest and lowest prices of the Units on the principalmarket or exchange, if there was trading on the specified date and the principal exchange or marketprovides only the highest and lowest trading prices of the Units on the specified date; or
(iv) the simple average of the last bid and last asking prices of the Units on the principal market orexchange, if there was no trading on the specified date.
The aggregate Redemption Price payable by the Fund in respect of all Units surrendered for redemptionduring any calendar month shall be satisfied by way of a cash payment no later than the last day of the monthfollowing the month in which the Units were tendered for redemption, provided that the entitlement ofUnitholders to receive cash upon the redemption of their Units is subject to the limitations that:
(i) the total amount payable by the Fund in respect of those Units and all other Units tendered forredemption in the same calendar month shall not exceed $50,000, provided that the Trustees may, intheir sole discretion, waive this limitation in respect of all Units tendered for redemption in anycalendar month;
(ii) at the time the Units are tendered for redemption, the outstanding Units shall be listed for trading on astock exchange or traded or quoted on another market which the Trustees consider, in their solediscretion, provides representative fair market value prices for the Units; and
(iii) the normal trading of Units is not suspended or halted on any stock exchange on which the Units arelisted (or, if not listed on a stock exchange, on any market on which the Units are quoted for trading)on the Redemption Date or for more than five trading days during the ten-day trading period endingon the Redemption Date.
If a Unitholder is not entitled to receive cash upon the redemption of Units as a result of one or more of theforegoing limitations, then each Unit tendered for redemption will, subject to any applicable regulatoryapprovals, be redeemed by way of a distribution in specie. In such circumstances, Trust Units and Series 1 TrustNotes of a value equal to the Redemption Price will be redeemed by the Trust in consideration of the issuance tothe Fund of Series 2 Trust Notes and Series 3 Trust Notes, respectively. The Series 2 Trust Notes and Series 3Trust Notes will then be distributed in satisfaction of the Redemption Price. No Series 2 Trust Notes or Series 3Trust Notes in integral multiples of less than $100 will be distributed and, where the number of securities of theTrust to be received by a Unitholder includes a multiple of less than $100, that number shall be rounded to thenext lowest integral multiple of $100. The Fund will be entitled to all interest paid on the Trust Notes and thedistributions paid on the Trust Units on or before the date of the distribution in specie. Where the Fund makes adistribution in specie of a pro rata number of securities of the Trust on the redemption of Units of a Unitholder,the Fund currently intends to designate to that Unitholder any income or capital gain realized by the Fund as aresult of the redemption of Trust Units and Series 1 Trust Notes in exchange for Series 2 Trust Notes andSeries 3 Trust Notes, respectively, or as a result of the distribution of Series 2 Trust Notes or Series 3 Trust Notesto the Unitholder on the redemption of such Units. See ‘‘Certain Canadian Federal Income TaxConsiderations’’.
It is anticipated that the redemption right described above will not be the primary mechanism for holders ofUnits to dispose of their Units. Series 2 Trust Notes and Series 3 Trust Notes which may be distributed in specieto Unitholders in connection with a redemption will not be listed on any stock exchange and no market isexpected to develop in Series 2 Trust Notes or Series 3 Trust Notes and they may be subject to resale restrictionsunder applicable securities laws. Series 2 Trust Notes and Series 3 Trust Notes so distributed may not be
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qualified investments for trusts governed by Plans depending upon the circumstances at the time. See ‘‘CertainCanadian Federal Income Tax Considerations’’.
Repurchase of Units
The Fund will be allowed, from time to time, to purchase Units for cancellation in accordance withapplicable securities legislation and the rules prescribed under applicable stock exchange or regulatory policies.Any such repurchase will constitute an ‘‘issuer bid’’ under Canadian provincial securities legislation and must beconducted in accordance with the applicable requirements thereof.
Meetings of Unitholders
The Fund Declaration of Trust provides that meetings of Unitholders will be called and held annually forthe election of Trustees and the appointment of auditors of the Fund. The Fund Declaration of Trust providesthat the Unitholders will be entitled to pass resolutions that will bind the Fund only with respect to:
• the election or removal of Trustees (except in the case of any Trustee appointed by theLCE Shareholders);
• the election or removal of nominees of the Fund to serve as trustees of the Trust;
• the appointment or removal of the auditors of the Fund;
• the appointment of an inspector to investigate the performance by the Trustees in respect of theirrespective responsibilities and duties in respect of the Fund;
• the approval of amendments to the Fund Declaration of Trust (but only in the manner described belowunder ‘‘Amendments to the Fund Declaration of Trust’’);
• the termination of the Fund;
• the sale of all or substantially all of the assets of the Fund;
• the exercise of certain voting rights attached to the securities of the Trust held by the Fund and, subject tothe provisions of any securityholders’ agreement among the securityholders of Cineplex Galaxy GP andthe terms of the Cineplex Galaxy LP Agreement, securities of Cineplex Galaxy LP or Cineplex Galaxy GPheld by the Trust (see ‘‘— Exercise of Certain Voting Rights Attached to Securities of the Trust, CineplexGalaxy GP and Cineplex Galaxy LP’’);
• the ratification of any Unitholder rights plan, distribution reinvestment plan, distribution reinvestmentand Unit purchase plan, Unit option plan or other compensation plan contemplated by the FundDeclaration of Trust requiring Unitholder approval;
• the dissolution of the Fund prior to the end of its term; and
• any other matters required by securities law, stock exchange rules or other laws or regulations to besubmitted to Unitholders for their approval,
provided that the Unitholders shall not pass any resolution that would cause the Fund, the Trust, CineplexGalaxy GP, Cineplex Galaxy LP or their respective subsidiaries to breach the terms of the Exchange Agreement,the Services Agreement, the Cineplex Galaxy LP Agreement, the Support Agreement or the SecurityholdersAgreement.
No other action taken by Unitholders or any other resolution of the Unitholders at any meeting will in anyway bind the Trustees.
A resolution electing or removing nominees of the Fund to serve as trustees of the Trust (except fillingcasual vacancies) or with respect to the exercise of certain voting rights attached to the securities of the Trust orCineplex Galaxy GP held by the Fund, a resolution required by securities law, stock exchange rules or other lawsor regulations requiring a simple majority of Unitholders, and a resolution appointing or removing the Trusteesor the auditors of the Fund must be passed by a simple majority of the votes cast by Unitholders. The balance ofthe foregoing matters must be passed by a resolution passed by the affirmative vote of the holders of not less
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than 662⁄3% of the Units who voted in respect of that resolution at a meeting at which a quorum was present or aresolution or instrument signed in one or more counterparts by the holders of not less than 662⁄3% of the Unitsentitled to vote on such resolution (a ‘‘Special Resolution’’).
A meeting of Unitholders may be convened at any time and for any purpose by the Trustees and must beconvened, except in certain circumstances, if requisitioned by the holders of not less than 5% of the Units thenoutstanding by a written requisition. A requisition must state in reasonable detail the business proposed to betransacted at the meeting.
Unitholders may attend and vote at all meetings of the Unitholders either in person or by proxy and aproxyholder need not be a Unitholder. Two persons present in person or represented by proxy and representingin total at least 10% of the votes attached to all outstanding Units will constitute a quorum for the transaction ofbusiness at all meetings.
The Fund Declaration of Trust contains provisions as to the notice required and other procedures withrespect to the calling and holding of meetings of Unitholders.
Limitation on Non-Resident Ownership
In order for the Fund to maintain its status as a mutual fund trust under the Tax Act, the Fund must not beestablished or maintained primarily for the benefit of non-residents of Canada within the meaning of theTax Act. Accordingly, the Fund Declaration of Trust provides that at no time may non-residents of Canada bethe beneficial owners of more than 49.9% of the Units. This 49.9% limitation will be applied with respect to theissued and outstanding Units of the Fund on both (i) a non-diluted basis and (ii) a fully-diluted basis calculatedon the assumption that any Units issuable at the time of calculation to an Investor pursuant to the ExchangeAgreement have been issued and are held by such Investor. The Trustees, in their sole discretion, may requiredeclarations as to the jurisdictions in which beneficial owners of Units are resident. If the Trustees becomeaware, as a result of requiring such declarations as to beneficial ownership, that the beneficial owners of at least49.9% of the Units then outstanding are, or may be, non-residents or that such a situation is imminent, thetransfer agent and registrar may make a public announcement thereof and shall not accept a subscription forUnits from, or issue or register a transfer of Units to, a person unless the person provides a declaration that theperson is not a non-resident. If, notwithstanding the foregoing, the Trustees, in their sole discretion, determinethat 49.9% or more of the Units are held by non-residents, the Trustees may send a notice to non-residentholders of Units, chosen in inverse order to the order of acquisition or registration or in such manner as theTrustees may consider equitable and practicable, requiring them to sell their Units or a portion thereof within aspecified period of not less than 60 days. If the persons receiving such notice have not sold the specified numberof Units or provided the Trustees with satisfactory evidence that they are not non-residents within such period,the Trustees may, on behalf of such persons, sell such Units and, in the interim, shall suspend the voting anddistribution rights attached to such Units. Upon such sale, the affected holders shall cease to be holders of theUnits and their rights shall be limited to receiving the net proceeds of such sale.
Amendments to the Fund Declaration of Trust
The Fund Declaration of Trust contains provisions that allow it to be amended or altered from time to timeby the Trustees with the consent of the Unitholders by a Special Resolution.
The Trustees, at their discretion and without the approval of the Unitholders, will be entitled to makecertain amendments to the Fund Declaration of Trust, including amendments:
(i) which are required for the purpose of ensuring continuing compliance with applicable laws,regulations, requirements or policies of any governmental authority having jurisdiction over theTrustees or over the Fund, including ensuring that the Fund continues to qualify as a ‘‘mutual fundtrust’’ and the Units do not constitute ‘‘foreign property’’, each within the meaning of the Tax Act;
(ii) which provide additional protection or added benefits for the Unitholders, provided that the Trusteesreceive a legal opinion from counsel to this effect;
(iii) to remove any conflicts or inconsistencies in the Fund Declaration of Trust or to make minorcorrections which are necessary or desirable and not prejudicial to the Unitholders; and
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(iv) which are necessary or desirable as a result of changes in taxation laws or policies of any governmentalauthority having jurisdictions over the Trustees of the Fund.
Notwithstanding the previous sentence, the Trustees may not amend the Fund Declaration of Trust in a mannerwhich would result in (a) the Fund failing to qualify as a ‘‘mutual fund trust’’ under the Tax Act or (b) the Unitsbeing treated as ‘‘foreign property’’ for the purposes of the Tax Act.
Term of the Fund
The Fund has been established for a term ending 21 years after the date of death of the last surviving issueof Her Majesty, Queen Elizabeth II, alive on October 2, 2003. On a date selected by the Trustees which is notmore than two years prior to the expiry of the term of the Fund, the Trustees are obligated to commence towind-up the affairs of the Fund so that it will terminate on the expiration of the term. At any time prior to theexpiry of the term of the Fund, the Unitholders may by Special Resolution require the Trustees to commence thetermination, liquidation or winding-up of the affairs of the Fund.
The Fund Declaration of Trust provides that, upon being required to commence the termination,liquidation or winding-up of the affairs of the Fund, the Trustees will give notice thereof to the Unitholders,which notice shall designate the time or times at which Unitholders may surrender their Units for cancellationand the date at which the register of Units will be closed. After the date the register is closed, the Trustees shallproceed to wind up the affairs of the Fund as soon as may be reasonably practicable and for such purpose shall,subject to any direction to the contrary in respect of a termination authorized by a resolution of the Unitholders,sell and convert into money the Trust Units, the Trust Notes and all other assets comprising the Fund in onetransaction or in a series of transactions at public or private sales and do all other acts appropriate to liquidatethe Fund. After paying, retiring, discharging or making provision for the payment, retirement or discharge of allknown liabilities and obligations of the Fund and providing for indemnity against any other outstandingliabilities and obligations, the Trustees shall distribute the remaining part of the proceeds of the sale of the TrustUnits, the Trust Notes and other assets together with any cash forming part of the assets of the Fund among theUnitholders in accordance with their pro rata interests. If the Trustees are unable to sell all or any of the TrustUnits, the Trust Notes or other assets which comprise part of the Fund by the date set for termination, theTrustees may distribute the remaining Trust Units, the Trust Notes or other assets in specie directly to theUnitholders in accordance with their pro rata interests subject to obtaining all required regulatory approvals.
Take-over Bids
The Fund Declaration of Trust contains provisions to the effect that if a take-over bid is made for the Unitsand not less than 90% of the Units (other than Units held at the date of the take-over bid by or on behalf of theofferor or associates or affiliates of the offeror) are taken up and paid for by the offeror, the offeror will beentitled to acquire the Units held by Unitholders who did not accept the take-over bid on the terms on which theofferor acquired Units from Unitholders who accepted the take-over bid.
The Cineplex Galaxy LP Agreement will provide that if a non-exempt take-over bid from a person acting atarm’s length to holders of LP Units (or any associate or affiliate thereof) is made for the Units and acontemporaneous identical offer is not made for the LP Units held by persons other than the Trust (in terms ofprice, timing, proportion of securities sought to be acquired and conditions, provided that the offer for theLP Units may be conditional on Units being taken up and paid for under the take-over bid), then, provided that(i) not less than 25% of the Units (other than Units held at the date of the take-over bid by or on behalf of theofferor or associates or affiliates of the offeror) are taken-up and paid for pursuant to the non-exempt bid fromand after the date of first take-up of Units under the said take-over bid in excess of the foregoing threshold, and(ii) the take-over bid is not for any and all Units tendered or is not structured such that holders of LP Units canexchange into Units conditional on take-up, the LP Units held by persons other than the Trust will beexchangeable at an exchange ratio equal to 110% of the exchange ratio previously in effect, such that, based onthe current one-to-one exchange ratio, on exchange the holder of LP Units will receive 1.1 Units for each Unitthat the holder would otherwise have received. Notwithstanding any adjustment on completion of anexclusionary offer as described above, the distribution rights attaching to the LP Units will also not be adjusteduntil the exchange right is actually exercised.
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Exercise of Certain Voting Rights Attached to Securities of the Trust, Cineplex Galaxy GP and CineplexGalaxy LP
The Fund Declaration of Trust provides that the Fund will not vote any securities of the Trust, nor permitthe Trust to vote any securities of Cineplex Galaxy GP or Cineplex Galaxy LP, except as may be required underthe Securityholders Agreement, to authorize any transaction which is adverse to the Unitholders including,among other things:
• any sale, lease or other disposition of all or substantially all of the assets of the Trust, Cineplex Galaxy GPor Cineplex Galaxy LP, except in conjunction with an internal reorganization of the Trust, CineplexGalaxy GP or Cineplex Galaxy LP;
• any amalgamation, arrangement or other merger of the Trust, Cineplex Galaxy GP or CineplexGalaxy LP with any other entity, except in conjunction with an internal reorganization of the Trust,Cineplex Galaxy GP or Cineplex Galaxy LP;
• any material amendment to the Trust Note Indenture other than in contemplation of a further issuance ofNotes to the Fund that are identical in all respects to the Notes issued in connection with the Offering orin conjunction with an internal reorganization of the Trust, Cineplex Galaxy GP or Cineplex Galaxy LP;
• the winding-up or dissolution of the Trust, Cineplex Galaxy GP or Cineplex Galaxy LP prior to the end ofthe term of the Fund; or
• any material amendment to the constating documents of the Trust, Cineplex Galaxy GP or CineplexGalaxy LP to change the authorized units, share capital or partnership interests which may be prejudicialto the Fund,
without the authorization of the Unitholders by a Special Resolution.
Information and Reports
The Fund will furnish to Unitholders, in accordance with applicable securities laws, all financial statementsof the Fund and Cineplex Galaxy LP (including quarterly and annual financial statements and certifications) andother reports as are from time to time required by applicable law, including prescribed forms needed for thecompletion of Unitholders’ tax returns under the Tax Act and equivalent provincial legislation.
Prior to each meeting of Unitholders, the Trustees will provide to the Unitholders (along with notice of themeeting) all information, together with such certifications, as is required by applicable law and by the FundDeclaration of Trust to be provided to Unitholders.
Cineplex Galaxy LP has undertaken to provide the Fund with a report of any material change that occurs inthe affairs of Cineplex Galaxy LP and with quarterly and annual financial statements accompanied bymanagement’s discussion and analysis for the period covered by such financial statements, in each case, in formand content that Cineplex Galaxy LP would be required to file with the Ontario Securities Commission if it werea reporting issuer under Ontario securities laws. All of those reports and financial statements will be provided tothe Fund in a timely manner so as to permit the Fund to comply with the continuous disclosure requirementsunder applicable securities laws relating to reporting of material changes in its affairs and the filing and deliveryto securityholders of financial statements as required under applicable securities laws.
In addition, Cineplex Galaxy GP has agreed with the Fund that, following Closing and for so long as theFund is a reporting issuer under applicable securities laws, it will:
• issue a press release and deliver to the Fund for filing a material change report in respect of any materialchange in Cineplex Galaxy LP’s affairs;
• provide to the Fund the information that would be required to be included in an annual information formor any other report required to be filed with the Ontario Securities Commission if Cineplex Galaxy LPwere a reporting issuer under Ontario securities law; and
• to the extent that the Fund does not prepare financial statements including Cineplex Galaxy LP’s resultsof operations, deliver to the Fund quarterly unaudited and annual audited financial statements ofCineplex Galaxy LP for filing with the securities commissions or other securities regulatory authorities in
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each of the provinces and territories of Canada and delivery to the Fund’s registered and beneficialUnitholders in accordance with applicable securities laws.
Such releases, forms, reports and statements, in each case, shall be in the form and content that CineplexGalaxy LP would be required to file with the Ontario Securities Commission if it were a reporting issuer underOntario securities law. The annual information form and other reports of Cineplex Galaxy LP will be deliveredby the Fund to its Unitholders concurrently with the annual information form or other report of the Fund for thecorresponding period. The quarterly unaudited and annual audited financial statements of Cineplex Galaxy LPwill be delivered by the Fund to its Unitholders concurrently with the financial statements of the Fund for thecorresponding period.
Trustees of the Fund will be required to file insider reports and comply with insider trading provisions underapplicable Canadian securities legislation in respect of trades made by such persons in Units of the Fund.
In addition, Cineplex Galaxy GP has undertaken to the Fund that, following the Closing and for so long asthe Fund is a reporting issuer under applicable securities laws, it will:
• require each of its existing directors, as applicable, and senior officers and, promptly upon his or herassumption of office, each of its future directors and senior officers, to provide the securities commissionsor other securities regulatory authorities in each of the provinces and territories of Canada with anundertaking agreeing that he or she will file in respect of the Fund pursuant to applicable insiderreporting requirements as if he or she were an insider of the Fund, reporting transactions in Units andLP Units; and
• require each present and each future principal holder of LP Units (other than the Trust) and eachdirector or officer of each present or future principal holder of LP Units to provide the securitiescommissions or other securities regulatory authorities in each of the provinces and territories of Canadawith an undertaking agreeing that he, she or it will file in respect of the Fund pursuant to applicableinsider reporting requirements as if he, she or it were an insider of the Fund, reporting transactions inUnits and LP Units.
Book-Entry Only System
Registration of interests in and transfers of the Units will be made through a book-based system (the‘‘Book-Entry System’’) administered by CDS. On or about the date of Closing, the Trustee will deliver to CDScertificates evidencing the aggregate number of Units subscribed for under the Offering. Units may bepurchased, transferred and surrendered for redemption through a participant in the CDS depository service (a‘‘CDS Participant’’). All rights of Unitholders must be exercised through, and all payments or other property towhich such Unitholder is entitled will be made or delivered by, CDS or the CDS Participant through which theUnitholder holds such Units. Upon a purchase of any Units, the Unitholder will receive only a customerconfirmation from the registered dealer which is a CDS Participant and from or through which the Units arepurchased. References in this prospectus to a Unitholder means, unless the context otherwise requires, theowner of the beneficial interest in such Units.
The Fund has the option to terminate registration of the Units through the Book-Entry System in whichcase certificates for the Units in fully registered form would be issued to beneficial owners of such Units or theirnominees.
Conflicts of Interest Restrictions and Provisions
The Fund Declaration of Trust contains ‘‘conflict of interest’’ provisions that serve to protect Unitholderswithout creating undue limitations on the Fund. The Fund Declaration of Trust contains provisions, similar tothose contained in the Canada Business Corporations Act, that require each Trustee to disclose to the Fund, asapplicable, any interest in a material contract or transaction or proposed material contract or transaction withthe Fund, or the fact that such person is a director or officer of, or otherwise has a material interest in, anyperson who is a party to a material contract or transaction or proposed material contract or transaction with theFund. In any case, a Trustee who has made disclosure to the foregoing effect is not entitled to vote on anyresolution to approve the contract or transaction unless the contract or transaction is one relating primarily to(i) his remuneration as a Trustee or officer of the Fund, as applicable, (ii) insurance or indemnity, or (iii) acontract or transaction with an affiliate.
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DESCRIPTION OF THE TRUST
The Trust Declaration of Trust contains provisions substantially similar to those of the Fund Declaration ofTrust relating to the Fund. The principal differences between the Trust Declaration of Trust and the FundDeclaration of Trust are those described below. The description below is a summary only and is qualified in itsentirety by reference to the text of the Trust Declaration of Trust and the Fund Declaration of Trust.
General
The Trust is an unincorporated open-ended limited purpose trust to be established as at the Closing Dateunder the laws of the Province of Ontario pursuant to the Trust Declaration of Trust. It is a limited purpose trustand its activities are restricted to, among other things:
(i) acquiring, investing in, transferring, disposing of and otherwise dealing with securities of CineplexGalaxy GP and Cineplex Galaxy LP and other corporations, partnerships, trusts or other personsengaged, directly or indirectly, in the business of film exhibition, as well as activities ancillary thereto,and such other investments as the trustees of the Trust may determine;
(ii) investing in securities, including those issued by Cineplex Galaxy LP and Cineplex Galaxy GP;
(iii) issuing Trust Units;
(iv) issuing debt securities, including the Trust Notes;
(v) redeeming Trust Units;
(vi) purchasing securities issued by the Trust;
(vii) subscribing for the Galaxy Notes;
(viii) guaranteeing the obligations of Cineplex Galaxy LP, or any affiliate of the Trust or Cineplex Galaxy LPpursuant to any good faith debt for borrowed money incurred by Cineplex Galaxy LP or the affiliate, asthe case may be, and pledging securities held by the Trust, Cineplex Galaxy LP or any such affiliate, assecurity for such guarantee; and
(ix) satisfying the obligations, liabilities or indebtedness of the Trust.
As at the date of this prospectus, the Trust does not intend to hold securities of any entities other thanCineplex Galaxy LP, Cineplex Galaxy GP and the Galaxy Notes, except in connection with its short-term cashmanagement.
Restrictions on Trust’s Trustees’ Powers
The Trust Declaration of Trust provides that the trustees of the Trust (the ‘‘Trust’s Trustees’’) may not,without approval by ordinary resolution of the holders of Trust Units:
(i) take any action upon any matter which under applicable law (including policies of the Canadiansecurities commissions) or applicable stock exchange rules would require approval by ordinaryresolution of the holders of Trust Units had the Trust been a reporting issuer (or the equivalent) in thejurisdictions in which the Fund is a reporting issuer (or the equivalent) and had the Trust Units beenlisted for trading on the stock exchanges where the Units are listed for trading; and
(ii) subject to certain exceptions, appoint or change the auditors of the Trust.
Furthermore, the Trust Declaration of Trust states that the Trust’s Trustees may not, without approval byspecial resolution of the holders of Trust Units:
(i) take any action upon any matter which under applicable law (including policies of the Canadiansecurities commissions) or applicable stock exchange rules would require approval by special resolutionor super-majority (as defined or described therein) of the holders of Trust Units had the Trust been areporting issuer (or the equivalent) in the jurisdictions in which the Fund is a reporting issuer (or the
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equivalent) and had the Trust Units been listed for trading on the stock exchanges where the Units arelisted for trading;
(ii) amend the Trust Declaration of Trust except in certain limited circumstances similar to those underwhich the Fund Declaration of Trust may be amended without consent of Unitholders;
(iii) amend the Trust Note Indenture other than in contemplation of a further issuance of Trust Notes;
(iv) sell, lease or exchange all or substantially all of the property of the Trust other than in the ordinarycourse of business or in connection with an internal reorganization;
(v) authorize the termination, liquidation or winding-up of the Trust, other than at the end of the term ofthe Trust; or
(vi) authorize the combination, merger or similar transaction of the Trust with any other person.
Redemption Right
The Trust Units will be redeemable at any time on demand by the holders thereof upon delivery to the Trustof a duly completed and properly executed notice requiring the Trust to redeem the Trust Units, in a formreasonably acceptable to the Trust’s Trustees, together with the certificates for the Trust Units representing theTrust Units to be redeemed and written instructions as to the number of Trust Units to be redeemed. Upontender of Trust Units by a holder thereof for redemption, the holder of the Trust Units tendered for redemptionwill no longer have any rights with respect to such Trust Units other than the right to receive the redemptionprice for such Trust Units. The redemption price for each Trust Unit tendered for redemption will be equal to:
(A x B) w CD
Where:
A = the cash redemption price per Unit calculated as of the close of business on the date the Trust Units wereso tendered for redemption by a Trust unitholder;
B = the aggregate number of Units outstanding as of the close of business on the date the Trust Units were sotendered for redemption by a Trust unitholder;
C = the aggregate unpaid principal amount of the Series 1 Trust Notes and accrued interest thereon and anyother indebtedness held by or owed to the Fund and the fair market value of any other assets orinvestments held by the Fund (other than Trust Units) as of the close of business on the date the TrustUnits were so tendered for redemption by a Trust unitholder; and
D = the aggregate number of Trust Units outstanding held by the Fund as of the close of business on the datethe Trust Units were so tendered for redemption by a Trust unitholder.
The Trust’s Trustees will also be entitled to call for redemption, at any time, all or part of the outstandingTrust Units registered in the name of the holders thereof other than the Fund at the same redemption price asdescribed above for each Trust Unit called for redemption, calculated with reference to the date the Trust’sTrustees approved the redemption of Trust Units.
The aggregate redemption price payable by the Trust in respect of any Trust Units tendered for redemptionby the holders thereof during any month will be satisfied, at the option of the Trust’s Trustees, (i) in immediatelyavailable funds by cheque; (ii) by the issuance to or to the order of the holder whose Trust Units are to beredeemed of such aggregate amount of Series 2 Trust Notes as is equal to the aggregate redemption pricepayable to such holder of Trust Units rounded down to the nearest $100, with the balance of any such aggregateredemption price not paid in Series 2 Trust Notes to be paid in immediately available funds by cheque; or (iii) byany combination of funds and Series 2 Trust Notes as the Trust’s Trustees shall determine in their discretion, ineach such case payable or issuable on the last day of the calendar month following the calendar month in whichthe Trust Units were so tendered for redemption. A holder of Trust Units whose Trust Units are tendered forredemption may elect, at any time prior to the payment of the redemption price, to receive Series 2 Trust Notes
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pursuant to (ii) above in the place of all or part of the funds otherwise payable, the amount of such Series 2 TrustNotes payable to be equal to the funds otherwise payable, rounded down to the nearest $100.
Cash Distributions
The Trust intends to make monthly cash distributions to the Fund of its net monthly cash receipts, aftersatisfaction of its interest obligations, if any, and less any estimated cash amounts required for expenses andother obligations of the Trust, any cash redemptions or repurchases of Trust Units or Trust Notes and any taxliability. Such distributions will be paid within ten days following each calendar month end and are intended tobe received by the Fund prior to its related cash distribution to Unitholders.
The distribution declared in respect of the month ending December 31 in each year will include suchamount in respect of the taxable income and net realized capital gains, if any, of the Trust for such year as isnecessary to ensure that the Trust will not be liable for ordinary income taxes under the Tax Act in such year.
If the Trust’s Trustees determine that the Trust does not have cash in an amount sufficient to make paymentof the full amount of any distribution, the payment may include the issuance of additional Trust Units having avalue equal to the difference between the amount of such distribution and the amount of cash which has beendetermined by the Trust’s Trustees, to be available for the payment of such distribution. The value of each TrustUnit so issued will be the redemption price thereof.
Any Trust Units transferred to Unitholders pursuant to a distribution in specie may be subject to resale andtransfer restrictions and cannot be resold or transferred except as permitted by applicable securities law.
Trust Notes
Trust Notes will be issuable in Canadian currency. Trust Notes are issuable in denominations of $100 andintegral multiples of $100. No Trust Notes in integral multiples of less then $100 will be distributed and wherethe number of Trust Notes to be received by a Unitholder includes a fraction, such number shall be rounded tothe next lowest whole number. On Closing, the Trust will issue $ 1 principal amount of Series 1 Trust Notesto the Fund.
Series 2 Trust Notes will be reserved by the Trust to be issued exclusively to holders of Trust Units as full orpartial payment of the redemption price of Trust Units, as the Trust’s Trustees may decide or, in certaincircumstances, be obliged to issue. Series 3 Trust Notes will be reserved by the Trust to be issued exclusively asfull or partial payment of the redemption price of Series 1 Trust Notes.
Interest and Maturity
The Series 1 Trust Notes to be issued at Closing will be payable on demand, will mature on the 25thanniversary of the date of issuance and will bear interest at a rate of 3% per annum, payable on the last day ofeach calendar month that such Series 1 Trust Notes are outstanding. Each Series 2 Trust Note will mature on adate which is no later than the first anniversary of the date of issuance thereof and bear interest at a market rateto be determined by the Trust’s Trustees at the time of issuance thereof, payable on the last day of each calendarmonth that such Series 2 Trust Note is outstanding. Each Series 3 Trust Note will mature on the same date as theSeries 1 Trust Notes and bear interest at a market rate to be determined by the Trust’s Trustees at the time ofissuance thereof, payable on the 30th day of each calendar month that such Series 3 Trust Note is outstanding.
Payment upon Maturity
On maturity, the Trust will repay the Trust Notes by paying to the trustee under the Trust Note Indenture incash an amount equal to the principal amount of the outstanding Trust Notes which have then matured, togetherwith accrued and unpaid interest thereon.
Redemption
The Trust Notes will be redeemable in whole or in part (at a redemption price equal to the principal amountthereof plus accrued and unpaid interest, payable in cash or, in the case of a redemption of Series 1 Trust Notes
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on an in specie payment of the Redemption Price of Units, in Series 3 Trust Notes) at the option of the Trustprior to maturity.
Subordination
Payment of the principal amount and interest on the Trust Notes will be subordinated in right of payment tothe prior payment in full of the principal of and accrued and unpaid interest on, and all other amounts owing inrespect of, all senior indebtedness which will be defined as all indebtedness, liabilities and obligations of theTrust which, by the terms of the instrument creating or evidencing the same, will be expressed to rank in right ofpayment in priority to the indebtedness evidenced by the Trust Note Indenture. The Trust Note Indentureprovides that upon any distribution of the assets of the Trust in the event of any dissolution, liquidation,reorganization or other similar proceedings relative to the Trust, the holders of all such senior indebtedness willbe entitled to receive payment in full before the holders of the Trust Notes are entitled to receive any payment.
Default
The Trust Note Indenture provides that any of the following shall constitute an event of default:
(i) default in payment of the principal of the Trust Notes when the same becomes due and thecontinuation of such default for a period of ninety days;
(ii) default in payment of any interest due on any Trust Notes and continuation of such default for a periodof ninety days;
(iii) default in the observance or performance of any other covenant or condition of the Trust NoteIndenture and continuance of such default for a period of ninety days after notice in writing has beengiven to the Trust’s Trustees specifying such default and requiring the Trust to rectify the same; and
(iv) certain events of dissolution, liquidation, reorganization or other similar proceedings relative to theTrust.
The provisions governing an event of default under the Trust Note Indenture and remedies availablethereunder do not provide protection to the holders of Trust Notes which would be comparable to the provisionsgenerally found in debt securities issued to the public.
Unit Certificates
As Trust Units are not intended to be issued or held by any person other than the Fund, registration ofinterests in, and transfers of, the Trust Units will not be made through the Book-Entry System administered byCDS. Rather, holders of Trust Units will be entitled to receive certificates therefor.
Meetings of Unitholders
An annual meeting of holders of Trust Units may be held at such time and place as shall be prescribed forthe purpose of transacting such business as the Trust’s Trustees may determine or as may properly be broughtbefore the meeting.
DESCRIPTION OF CINEPLEX GALAXY LP
The following is a summary of the material attributes and characteristics of Cineplex Galaxy LP and the LPUnits which will be issued under the Cineplex Galaxy LP Partnership Agreement. This summary is qualified inits entirety by reference to the provisions of the Cineplex Galaxy LP Partnership Agreement which contains acomplete statement of those attributes and characteristics.
Capitalization
Cineplex Galaxy LP may issue an unlimited number of Class A LP Units and Class B LP Units to anyperson. The Cineplex Galaxy LP Partnership Agreement authorizes Cineplex Galaxy GP to cause CineplexGalaxy LP to issue additional Class A LP Units or Class B LP Units for any consideration and on any terms and
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conditions as are established by Cineplex Galaxy GP. Class B LP Units held by the Investors are indirectlyexchangeable into Units in accordance with the terms of the Exchange Agreement. Class A LP Units andClass B LP Units will have economic and voting rights that are equivalent in all respects, except as otherwisedescribed herein. See ‘‘Funding and Related Transactions — Exchange Agreement’’, ‘‘Description of theFund — Take-over Bids’’ and ‘‘Consolidated Capitalization of the Partnership’’.
Distributions
Cineplex Galaxy LP intends to make monthly cash distributions to holders of record of Class A LP Unitsand Class B LP Units on the last business day of each month of its distributable cash so that distributions to theInvestors will be equal on a pro rata basis to the distributions to be made to Unitholders by the Fund. Holders ofClass B LP Units will be entitled to receive distributions of Cineplex Galaxy LP equal to the ‘‘catch-up payment’’(as described below) before distributions are made to holders of Class A LP Units, provided that, if no amountsare paid to the Trust in respect of the Galaxy Debt in any month, holders of Class B LP Units will not be entitledto a ‘‘catch-up payment’’. Any remaining amounts available for distribution will be shared pro rata between theholders of Class A LP Units and Class B LP Units. Distributions will be paid within seven days of the end ofeach month and are intended to be received by the Trust prior to its related cash distribution to holders of itsTrust Units. Distributable cash for a monthly period will consist, in general, of Cineplex Galaxy LP’s EBITDAfor the particular monthly period less any estimated cash amounts required for debt service obligations ofCineplex Galaxy LP, if any, other expense obligations, maintenance capital expenditures, taxes, reserves(including amounts on account of capital expenditures, and to stabilize distributions to Unitholders), and suchother amounts as may be considered appropriate by Cineplex Galaxy GP.
Cineplex Galaxy LP may, in addition, make a distribution at any other time.
On completion of the Offering, Cineplex Galaxy Acquisition will enter into an agreement with the Trustpursuant to which the Trust will loan to Cineplex Galaxy Acquisition an amount equal to $ 1 (the ‘‘GalaxyNotes’’), which will bear interest at a rate of 1 % per annum. Following the amalgamation of CineplexGalaxy Acquisition and GEI, the Galaxy Notes will become an obligation of GEI. The Galaxy Notes will besubordinated to the New Credit Facilities. In connection with the entering into of the Galaxy Notes, the Trustwill enter into an agreement with Cineplex Galaxy LP designed to ensure that the holders of Class B LP Unitsreceive distributions equal to distributions per Unit made to the Trust in respect of the Galaxy Notes. Pursuantto such agreement the Trust will agree to contribute funds to Cineplex Galaxy LP if Cineplex Galaxy LP isotherwise unable to pay the ‘‘catch-up payment’’ per Class B LP Unit out of the assets of Cineplex Galaxy LP.The ‘‘catch-up payment’’ is generally equal to a ‘‘specified portion’’ of any principal or interest repayments onthe Galaxy Notes received by the Trust. The ‘‘specified portion’’ is equal to the number of Class B LP Unitsoutstanding divided by the aggregate number of Units outstanding.
Allocation of Net Income and Losses
The Class B LP Units will receive an allocation of income equal to the aggregate of all catch-up payments inany fiscal year, and the balance of the income or loss for tax purposes of Cineplex Galaxy LP for a particularfiscal year will be allocated to each partner in an amount calculated by multiplying the total income or loss fortax purposes to be allocated to the partners by a fraction, the numerator of which is the sum of the cashdistributions received by that partner with respect to that fiscal year and the denominator of which is the totalamount of the cash distributions made by Cineplex Galaxy LP to all partners with respect to that fiscal year (ineach case excluding the amount of the catch-up payment). The amount of income allocated to a partner mayexceed or be less than the amount of cash distributed by Cineplex Galaxy LP to that partner.
Income and loss of Cineplex Galaxy LP for accounting purposes is allocated to each partner in the sameproportion as income or loss is allocated for tax purposes.
The fiscal year end of Cineplex Galaxy LP will be December 31.
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Limited Liability
Cineplex Galaxy LP will operate in a manner as to ensure to the greatest extent possible the limited liabilityof the Trust. The Trust may lose its limited liability in certain circumstances. If limited liability is lost by reason ofthe negligence of Cineplex Galaxy GP in performing its duties and obligations under the Cineplex Galaxy LPPartnership Agreement, Cineplex Galaxy GP has agreed to indemnify the Trust against all claims arising fromassertions that its liability is not limited as intended by the Cineplex Galaxy LP Partnership Agreement.However, since Cineplex Galaxy GP has no significant assets or financial resources, this indemnity may havenominal value.
Transfer of LP Units
The LP Units are transferable subject to compliance with applicable securities restrictions and compliancewith the Securityholders Agreement, provided that non-residents of Canada (and partnerships that are notCanadian partnerships within the meaning of the Tax Act) may not acquire or hold an LP Unit. However, an LPUnit is not transferable in part, and no transfer of an LP Unit will be accepted by Cineplex Galaxy GP, unless atransfer form, duly completed and signed by the registered holder of the LP Unit and the transferee, has beenremitted to the registrar and transfer agent of Cineplex Galaxy LP. Notwithstanding the foregoing, members ofthe LCE Group may only transfer or exchange their Class B LP Units with the prior consent of the LCEShareholders. A transferee of an LP Unit will become a partner and will be subject to the obligations andentitled to the rights of a partner under the Cineplex Galaxy LP Partnership Agreement on the date on whichthe transfer is recorded.
Amendment
The Cineplex Galaxy LP Partnership Agreement may be amended with approval by special resolution of theholders of LP Units, except for certain amendments, which require unanimous approval of holders of LP Units,including: (i) altering the ability of the limited partners to remove Cineplex Galaxy GP involuntarily;(ii) changing the liability of any limited partner; (iii) changing the right of a limited partner to vote at anymeeting; or (iv) changing Cineplex Galaxy LP from a limited partnership to a general partnership.
Notwithstanding the foregoing,
• no amendment which would adversely affect the rights and obligations of Cineplex Galaxy GP, as generalpartner, may be made without its consent; and
• Cineplex Galaxy GP may make amendments to the Cineplex Galaxy LP Partnership Agreement toreflect: (i) a change in the name of Cineplex Galaxy LP or the location of the principal place of businessof Cineplex Galaxy LP or the registered office of Cineplex Galaxy LP; (ii) a change in the governing lawof the partnership to any other province of Canada; (iii) admission, substitution, withdrawal or removal oflimited partners in accordance with the Cineplex Galaxy LP Partnership Agreement; (iv) a change that, asdetermined by Cineplex Galaxy GP, is reasonable and necessary or appropriate to qualify or continue thequalification of Cineplex Galaxy LP as a limited partnership in which the limited partners have limitedliability under applicable laws; (v) a change that, as determined by Cineplex Galaxy GP, is reasonable andnecessary or appropriate to enable Cineplex Galaxy LP to take advantage of, or not be detrimentallyaffected by, changes in the Tax Act or other taxation laws; or (vi) a change to amend or add any provision,or to cure any ambiguity or to correct or supplement any provisions contained in the Cineplex Galaxy LPPartnership Agreement which may be defective or inconsistent with any other provision contained in theCineplex Galaxy LP Partnership Agreement or which should be made to make the Cineplex Galaxy LPPartnership Agreement consistent with the disclosure set out in this prospectus.
Meetings
Cineplex Galaxy GP may call meetings of partners and will be required to convene a meeting on receipt of arequest in writing of the holder(s) of not less than 10% of the outstanding LP Units. Each partner is entitled toone vote for each LP Unit held. A quorum at a meeting of partners consists of two or more partners present inperson or by proxy.
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Tag-Along Rights
The Investors will be entitled to participate, on a pro rata basis, in any sale by the Fund of its direct orindirect interest in Cineplex Galaxy LP.
DESCRIPTION OF CINEPLEX GALAXY GP
Functions and Powers of Cineplex Galaxy GP
Cineplex Galaxy GP has exclusive authority to manage the business and affairs of Cineplex Galaxy LP, tomake all decisions regarding the business of Cineplex Galaxy LP and to bind Cineplex Galaxy LP. CineplexGalaxy GP is to exercise its powers and discharge its duties honestly, in good faith and in the best interests ofCineplex Galaxy LP and to exercise the care, diligence and skill of a reasonably prudent person in comparablecircumstances. The authority and power vested in Cineplex Galaxy GP to manage the business and affairs ofCineplex Galaxy LP includes all authority necessary or incidental to carry out the objects, purposes and businessof Cineplex Galaxy LP, including without limitation, the ability to engage agents to assist Cineplex Galaxy GP tocarry out its management obligations or substantially administrative functions. Cineplex Galaxy GP cannotdissolve Cineplex Galaxy LP or wind up Cineplex Galaxy LP’s affairs except in accordance with the provisions ofthe Cineplex Galaxy LP Partnership Agreement.
Withdrawal or Removal of Cineplex Galaxy GP
Cineplex Galaxy GP may resign on not less than 180 days’ written notice to the limited partners of CineplexGalaxy LP, provided that Cineplex Galaxy GP will not resign if the effect would be to dissolve CineplexGalaxy LP.
Cineplex Galaxy GP may not be removed as general partner of Cineplex Galaxy LP unless: (i) CineplexGalaxy GP has committed a material breach of the Cineplex Galaxy LP Partnership Agreement, which breachhas continued for 30 days after notice, and that removal is also approved by special resolution of the limitedpartners of Cineplex Galaxy LP; or (ii) the shareholders or directors of Cineplex Galaxy GP pass a resolution inconnection with the bankruptcy, dissolution, liquidation or winding-up of Cineplex Galaxy GP, or CineplexGalaxy GP commits certain other acts of bankruptcy or ceases to be a subsisting corporation, provided thatcertain other conditions are satisfied, including a requirement that a successor general partner with the sameownership and governance structure at the relevant time agrees to act as general partner under the CineplexGalaxy LP Partnership Agreement.
Transfer
Members of the LCE Group may transfer their shares of Cineplex Galaxy GP (together with all rightsunder the Securityholders’ Agreement), in whole or in part, only to any other member of the LCE Group. If anyof the LP Units are exchanged for Units of the Fund and such Units are subsequently transferred to a personwho is not a member of the LCE Group or are otherwise transferred to any person who is not a member of theLCE Group, a corresponding number of shares of Cineplex Galaxy GP shall be transferred to the Trust fornominal consideration.
PRINCIPAL UNITHOLDERS
The following table shows the name and information about the securities of the Fund directly or indirectlybeneficially owned by each person or company who, as at the Closing Date, will own of record, or who, to theknowledge of the Fund, will own beneficially, directly or indirectly, more than 10% of any class or series ofvoting securities of the Fund. The information set forth in the following table is presented on a pro forma basisreflecting the exchange of LP Units held by the Investors for Units of the Fund.
Number of Percentage OwnedSecurities of the Before (and to be
Number of Units of Fund to be Owned Owned After) theName the Fund Owned after the Offering Type of Ownership Offering
Pursuant to an underwriting agreement dated 1 , 2003 (the ‘‘Underwriting Agreement’’) among theFund, the Trust, Cineplex Galaxy LP, Cineplex Galaxy GP, Loews Cineplex, the Investors, GEI and theUnderwriters, the Fund has agreed to sell 1 Units and the Underwriters have agreed to purchase, asprincipals, on the Closing Date, subject to the conditions stipulated in the Underwriting Agreement, all but notless than all of such Units at a price of $10.00 per Unit payable in cash. The Underwriting Agreement providesthat the Underwriters will be paid a fee of $ 1 per Unit purchased by the public in consideration for servicesperformed in connection with the Offering.
Prior to the Offering, there was no market through which the Units could be sold. Accordingly, the terms ofthe Offering were established through negotiation between the Fund, COC, GEI and the Underwriters.
The obligations of the Underwriters under the Underwriting Agreement are conditional and may beterminated at the discretion of the Underwriters on the basis of their assessment of the state of the financialmarkets. The Underwriting Agreement provides that the Underwriters may also terminate their obligationsthereunder in certain stated circumstances and upon the occurrence of certain stated events. The Underwritersare, however, severally obligated to take up and pay for all offered Units that they have obliged themselves topurchase if any of the Units are purchased under the Underwriting Agreement.
Each of the Fund, the Trust, Loews Cineplex, COC and Cineplex Galaxy LP has agreed to indemnify theUnderwriters and their directors, officers, employees and agents against certain liabilities, including, withoutrestriction, civil liabilities under Canadian provincial and territorial securities legislation, or to contribute to anypayments the Underwriters may be required to make in respect thereof, subject to the same limitations,deductibles and thresholds as are contained in the Investment and Acquisition Agreement, without duplication.
Subscriptions for Units will be received subject to rejection or allotment in whole or in part, and the right isreserved to close the subscription books at any time without notice.
The Fund has granted to the Underwriters, for a period of 30 days following the Closing, theOver-Allotment Option to purchase up to 1 additional Units at the price of $10.00 per Unit payable in cashagainst delivery of such additional Units, to cover over-allotments and for market stabilization purposes, if any.If the Over-Allotment Option is exercised, the Underwriters will receive a fee of $ 1 per additional Unitpurchased pursuant to such option. This prospectus also qualifies the distribution of the Units issuable uponexercise of the Over-Allotment Option and subsequent transfer of the Units issuable upon exercise of thatoption.
During a period ending 180 days from the Closing Date, the Fund and the Investors shall not offer, sell orissue for sale or resale any Units (other than pursuant to the exercise of the Over-Allotment Option) or financialinstruments or securities convertible into, or exercisable or exchangeable for, Units or agree to, or announce,any such offer, sale or issuance, without the prior written consent of RBC Dominion Securities Inc., on behalf ofthe Underwriters, which consent may not be unreasonably withheld.
The Units have not been and will not be registered under the U.S. Securities Act or the securities laws ofany states in the United States and, subject to certain exemptions, may not be offered or sold or otherwisetransferred or disposed of in the United States. The Underwriters have agreed that they will not offer or sell theUnits within the United States except to qualified institutional buyers (as defined in Rule 144A under theU.S. Securities Act) or to institutional accredited investors. In addition, until 40 days after the Closing Date, anoffer or sale of Units within the United States by a dealer (whether or not participating in this Offering) mayviolate the registration requirements of the U.S. Securities Act if that offer or sale is made otherwise than inaccordance with Rule 144A.
Pursuant to policy statements of the Commission des valeurs mobilieres du Quebec and the OntarioSecurities Commission, the Underwriters may not, throughout the period of distribution, bid for or purchaseUnits. The foregoing restriction is subject to exceptions, on the condition that the bid or purchase not beengaged in for the purpose of creating actual or apparent active trading in, or raising the price of the Units. Suchexceptions include a bid or purchase permitted under the by-laws and rules of the TSX relating to marketstabilization and passive market making activities and a bid or purchase made for and on behalf of a customer
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where the order was not solicited during the period of distribution. Pursuant to the first-mentioned exception, inconnection with the Offering, the Underwriters may over-allot or effect transactions which stabilize or maintainthe market price of the Units at levels other than those which might otherwise prevail in the open market. Suchtransactions, if commenced, may be discontinued at any time.
The Closing is expected to take place on 1 , 2003 or on any other date which may be agreed upon, butno later than 1 , 2003.
Scotia Capital Inc. is a subsidiary of a Canadian bank which is a member of a syndicate of financialinstitutions that has made credit facilities available to GEI and to which GEI is currently indebted. In addition,the Canadian banks of which the Underwriters are subsidiaries have agreed to make the New Credit Facilitiesavailable to the Partnership. Accordingly, under applicable securities laws, the Fund may be considered a‘‘connected issuer’’ to the Underwriters. As at September 26, 2003, GEI was indebted in the amount ofapproximately $31 million to the syndicate of financial institutions that has made credit facilities available toGEI. GEI is not in default of its obligations to such financial institutions. It is expected that the proceeds of thisOffering will be used to repay indebtedness owed to such syndicate of financial institutions. The decision to issuethe Units and the determination of the terms of the distribution were made through negotiation between theFund, COC and GEI, on the one hand, and the Underwriters, on the other hand. The Canadian banks of whichthe Underwriters are subsidiaries did not have any involvement in such decision or determination. As aconsequence of the Offering, the Underwriters will receive their proportionate shares of the Underwriters’ fee.
PRIOR ISSUANCES
The only issuance of securities by the Fund in the twelve months prior to the date of this prospectus was theissuance of one Unit to the settlor thereof at a price equal to the offering price hereunder of $10.00.
USE OF PROCEEDS
Assuming no exercise of the Over-Allotment Option, the proceeds of the Offering will be $ 1 . Theseproceeds will be used by the Fund to subscribe for the Trust Units and the Series 1 Trust Notes of the Trust. TheTrust will, in turn, (i) subscribe for Class A LP Units representing, after completion of the Offering,approximately 1 % of the then outstanding LP Units, (ii) subscribe for shares in the capital of CineplexGalaxy GP (representing after completion of the Offering, approximately 1 % of the outstanding shares ofCineplex Galaxy GP), and (iii) advance funds under the Galaxy Notes to Cineplex Galaxy Acquisition (whichwill subsequently amalgamate with GEI). Cineplex Galaxy LP will use the proceeds of the Offering, togetherwith the proceeds from the New Credit Facilities to, among other things, repay notes (other then the Over-Allotment Notes) issued by Cineplex Galaxy LP to certain of the Investors as consideration for CineplexGalaxy LP’s acquisition of substantially all of the theatre business assets of COC by Cineplex Galaxy LP, tosubscribe for shares of Cineplex Galaxy Acquisition and to pay the expenses of this Offering. Cineplex GalaxyAcquisition will use the funds received by it from the issuance of the Galaxy Notes to acquire all of the shares ofGEI from certain of the Investors and, following the amalgamation of GEI and Cineplex Galaxy Acqusition, torepay existing debt of GEI to third parties. In addition, a portion of the proceeds received by CineplexGalaxy LP from the issue of LP Units and to GEI pursuant to the Galaxy Notes will be placed in an escrowaccount to be released as provided by the Support Agreement. If the Over-Allotment Option is exercised, theadditional proceeds received will be used by the Fund to subscribe for Trust Units and Series 1 Trust Notes of theTrust. The Trust will, in turn, subscribe for additional Class A LP Units. Cineplex Galaxy LP will use theproceeds from the Over-Allotment Option to acquire Class B LP Units from the Galaxy Investors and to repaythe Over-Allotment Notes. If the Over-Allotment Option is not exercised in full, additional Class B LP Unitsand shares of Cineplex Galaxy GP will be issued to such Investors in repayment of the Over-Allotment Notes.See ‘‘Debt Financing’’, ‘‘Support Agreement’’ and ‘‘Funding and Related Transactions’’.
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CERTAIN CANADIAN FEDERAL INCOME TAX CONSIDERATIONS
In the opinion of Goodmans LLP, counsel to the Fund and Cineplex Galaxy LP, and Torys LLP, counsel tothe Underwriters, the following is, as of the date of this prospectus, a summary of the principal Canadian federalincome tax considerations generally applicable under the Tax Act to a Unitholder who acquires Units pursuantto the Offering and who, for purposes of the Tax Act, is resident in Canada, deals at arm’s length with the Fundand holds the Units as capital property. Generally, Units will be considered to be capital property to aUnitholder provided that the Unitholder does not hold the Units in the course of carrying on a business and hasnot acquired them in one or more transactions considered to be an adventure in the nature of trade. CertainUnitholders who might not otherwise be considered to hold their Units as capital property may, in certaincircumstances, be entitled to have them treated as capital property by making the irrevocable election permittedby subsection 39(4) of the Tax Act. This summary is not applicable to a Unitholder that is a financial institution(as defined in the Tax Act for purposes of the mark-to-market rules), a ‘‘specified financial institution’’ or aUnitholder an interest in which is a ‘‘tax shelter investment’’ (all as defined in the Tax Act).
This summary is based upon the facts set out in this prospectus, the provisions of the Tax Act and theregulations under the Tax Act in force at the date of this prospectus, counsel’s understanding of the currentpublished administrative and assessing practices of the Canada Customs and Revenue Agency (‘‘CCRA’’) andcertificates from the Fund and certain of the Underwriters as to certain factual matters. This summary takes intoaccount all specific proposals to amend the Tax Act and the regulations under the Tax Act which have beenpublicly announced by or on behalf of the Minister of Finance (Canada) prior to the date of this prospectus.There can be no assurance that any tax proposals will be implemented in their current form or at all. Thissummary does not otherwise take into account or anticipate any changes in law, whether by legislative,governmental or judicial decision or action, and does not take into account provincial, territorial or foreign taxlegislation or considerations, which may differ significantly from those discussed in this prospectus.
This summary is not exhaustive of all possible Canadian federal tax considerations applicable to aninvestment in Units. Moreover, the income and other tax consequences of acquiring, holding or disposing of Unitswill vary depending on the Unitholder’s particular circumstances, including the province or provinces in whichthe Unitholder resides or carries on business. Accordingly, this summary is of a general nature only and is notintended to be legal or tax advice to any prospective purchaser of Units. Investors should consult their own taxadvisors for advice with respect to the tax consequences of an investment in Units based on their particularcircumstances.
Status of the Fund
Mutual Fund Trust
This summary is based on the assumption that the Fund will qualify as a ‘‘mutual fund trust’’ as defined inthe Tax Act on completion of the Offering of Units, will elect to be deemed to be a mutual fund trust from thedate it is established and will thereafter continuously qualify as a mutual fund trust at all relevant times. If theFund were not to qualify as a mutual fund trust, the income tax considerations described below would, in somerespects, be materially different.
Qualified Investment
The Units will be qualified investments for trusts governed by Plans, subject to the specific provisions of anyparticular plan. If the Fund ceases to qualify as a mutual fund trust, the Units will cease to be qualifiedinvestments for those Plans.
Trust Notes received as a result of a redemption of Units may not be a qualified investment for a Plan, andthis could give rise to adverse consequences to the Plan or the annuitant under the Plan. Accordingly, Plans thatown Units should consult their own tax advisors before deciding to exercise the redemption rights attached tothe Units.
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Foreign Property
Based in part on a certificate from the Fund as to certain factual matters, and provided that the Fundrestricts its holdings of foreign property within the limits provided under the Tax Act and the regulations underthe Tax Act, the Units, if issued at the date of this prospectus, would not constitute foreign property for Plans(other than registered education savings plans), registered pension plans or other persons subject to tax underPart XI of the Tax Act. Trusts governed by registered education savings plans are not subject to the foreignproperty rules. If the Fund ceases to qualify as a mutual fund trust, the Units may become foreign property.
Taxation of the Fund
The taxation year of the Fund is the calendar year. In each taxation year, the Fund will be subject to taxunder Part I of the Tax Act on its income for tax purposes for the year, including net realized taxable capitalgains, less the portion thereof that it deducts in respect of the amounts paid or payable in the year toUnitholders. An amount will be considered to be payable to a Unitholder in a taxation year if it is paid to theUnitholder in the year by the Fund or if the Unitholder is entitled in that year to enforce payment of theamount.
The Fund will include in its income for each taxation year such amount of the Trust’s income for taxpurposes, including net taxable capital gains, as is paid or becomes payable to the Fund in the year in respect ofthe Trust Units and all interest on the Trust Notes that accrues to the Fund to the end of the year, or thatbecomes receivable or is received by it before the end of the year, except to the extent that such interest wasincluded in computing its income for a preceding year. The Fund will not be subject to tax on any amountreceived as a payment of principal in respect of the Trust Notes or any amount received as a return of capitalfrom the Trust (provided that the capital returned, if any, does not exceed the cost amount of the Trust Unitsheld by the Fund).
A distribution by the Fund of its property upon a redemption of Units will be treated as a disposition by theFund of the property so distributed for proceeds of disposition equal to their fair market value. The Fund willrealize a capital gain (or a capital loss) to the extent that the proceeds from the disposition exceed (or are lessthan) the adjusted cost base of the relevant property and any reasonable costs of disposition.
In computing its income, the Fund may deduct reasonable administrative costs, interest and other expenses,if any, incurred by it for the purpose of earning income.
Under the Fund Declaration of Trust, an amount equal to all of the income (including taxable capital gains)of the Fund (determined without reference to paragraph 82(1)(b) and subsection 104(6) of the Tax Act),together with the non-taxable portion of any net capital gain realized by the Fund, but excluding capital gainsarising in connection with a distribution in specie on redemption of Units which are designated by the Fund toredeeming Unitholders, and capital gains the tax on which may be offset by capital losses carried forward fromprior years or is recoverable by the Fund, will be payable in the year to Unitholders by way of cash distributions,subject to the exceptions described below. Where the income of the Fund in a taxation year exceeds the monthlycash distributions for that year, such excess income will be distributed to Unitholders in the form of additionalUnits. Income of the Fund payable to Unitholders, whether in cash, additional Units or otherwise, will generallybe deductible by the Fund in computing its taxable income.
The Fund will be entitled for each taxation year to reduce (or receive a refund in respect of) its liability, ifany, for tax on its net realized taxable capital gains by an amount determined under the Tax Act based on theredemption of Units during the year (the ‘‘capital gains refund’’). In certain circumstances, the capital gainsrefund in a particular taxation year may not completely offset the Fund’s tax liability for that taxation yeararising in connection with the distribution of its property on the redemption of Units. The Fund Declaration ofTrust provides that all or a portion of any income or taxable capital gain realized by the Fund as a result of thatredemption may, at the discretion of the Trustee, be treated as income or taxable capital gain paid to, anddesignated as income or taxable capital gain of, the redeeming Unitholders, and will be deductible by the Fundin computing its income. In addition, accrued interest on Trust Notes distributed to a redeeming Unitholder maybe treated as an amount paid to the Unitholder and will be deductible by the Fund.
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Counsel has been advised that the Fund intends to make sufficient distributions in each year of its netincome for tax purposes and net realized capital gains so that the Fund will generally not be liable in that yearfor income tax under Part I of the Tax Act. Counsel can provide no opinion in this regard.
Taxation of the Trust
The Trust will be taxable on its income determined under the Tax Act for each taxation year (which will bethe calendar year), which will include its allocated share of the taxable income of Cineplex Galaxy LP for itsfiscal period ending on or before the year end of the Trust and interest on the Galaxy Notes that accrues to theTrust to the end of the year, except to the extent such income is paid or payable in such year to the Fund and isdeducted by the Trust in computing its income for tax purposes. The Trust will generally be entitled to deduct itsexpenses incurred to earn such income provided such expenses are reasonable and otherwise deductible, subjectto the relevant provisions of the Tax Act. Under the Trust Declaration of Trust, all of the income of the Trust foreach year (determined without reference to paragraph 82(1)(b) and subsection 104(6) of the Tax Act), togetherwith the taxable and non-taxable portion of any capital gains realized by the Trust in the year, will generally bepayable in the year to the Fund and will generally be deductible by the Trust in computing its taxable income.Counsel has been advised by the Fund that the Fund does not expect the Trust to be liable for any materialamount of tax under Part I of the Tax Act. Counsel can provide no opinion in this regard.
Taxation of Cineplex Galaxy LP
Cineplex Galaxy LP is not subject to tax under the Tax Act. Each partner of Cineplex Galaxy LP, includingthe Trust, is required to include in computing the partner’s income for a particular taxation year the partner’sshare of the income or loss of Cineplex Galaxy LP, as the case may be, for its fiscal year ending in, orcoincidentally with, the partner’s taxation year, whether or not any of that income is distributed to the partner inthe taxation year. For this purpose, the income or loss of Cineplex Galaxy LP will be computed for each fiscalyear as if Cineplex Galaxy LP was a separate person resident in Canada. In computing the income or loss ofCineplex Galaxy LP, deductions may be claimed in respect of reasonable administrative costs, interest and otherexpenses incurred by Cineplex Galaxy LP to earn income from its business or investments. Cineplex Galaxy LPmay also claim a deduction from its income for the year in respect of a portion of the reasonable expensesincurred by Cineplex Galaxy LP to issue LP Units in connection with the transactions contemplated by thisOffering. The portion of such issue expenses which may be claimed as deductions by Cineplex Galaxy LP in ataxation year is 20% of such issue expenses, that are not otherwise deductible, pro-rated where CineplexGalaxy LP’s taxation year is less than 365 days. The net income or loss of Cineplex Galaxy LP for a fiscal yearwill be allocated to the partners of Cineplex Galaxy LP, including the Trust, in the manner set out in the CineplexGalaxy LP Partnership Agreement, subject to the detailed rules in the Tax Act in that regard. The Trust will bedeemed to realize a capital gain to the extent the adjusted cost base of its LP Units is negative at the end of ataxation year of Cineplex Galaxy LP.
If Cineplex Galaxy LP incurs losses for tax purposes, the Trust will be entitled to deduct in the computationof its income for tax purposes its share of any such losses for any fiscal year to the extent that the Trust’sinvestment is ‘‘at risk’’ within the meaning of the Tax Act. In general, the amount ‘‘at risk’’ for an investor in alimited partnership for any taxation year will be the adjusted cost base of the investor’s partnership interest atthe end of the year (such adjusted cost base to the Investor computed excluding any unpaid portion of thepurchase price payable by the investor for such partnership interest), plus any undistributed income allocated tothe limited partner for the year, less any amount owing by the limited partner (or a person with whom thelimited partner does not deal at arm’s length) to Cineplex Galaxy LP (or to a person with whom CineplexGalaxy LP does not deal at arm’s length) and less the amount of any benefit that a limited partner (or a personwith whom the limited partner does not deal at arm’s length) is entitled to receive or obtain for the purpose ofreducing, in whole or in part, any loss of the limited partner from the investment.
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Taxation of Unitholders
Fund Distributions
A Unitholder will generally be required to include in income for a particular taxation year the portion of thenet income for tax purposes of the Fund for a taxation year, including net realized taxable capital gains, that ispaid or payable to the Unitholder in the particular taxation year, whether that amount is received in cash,additional Units or otherwise.
Provided that appropriate designations are made by the Fund and the Trust, that portion of their taxabledividends, if any, received (or deemed to be received) from taxable Canadian corporations, net taxable capitalgains and foreign source income as is paid or payable to a Unitholder and the amount of foreign taxes paid ordeemed to be paid by the Fund and the Trust, if any, will effectively retain its character and be treated as such inthe hands of the Unitholder for purposes of the Tax Act. To the extent that amounts are designated as taxabledividends from taxable Canadian corporations (including GEI), the normal gross-up and dividend tax creditprovisions will be applicable in respect of Unitholders who are individuals, the refundable tax under Part IV ofthe Tax Act will be payable by Unitholders that are private corporations and certain other corporationscontrolled directly or indirectly by or for the benefit of an individual or related group of individuals and thededuction in computing taxable income will be available to Unitholders that are corporations. An additionalrefundable 62⁄3% tax will be payable by Unitholders that are Canadian-controlled private corporations in certaincircumstances.
The non-taxable portion of any net realized capital gains of the Fund that is paid or payable to a Unitholderin a taxation year will not be included in computing the Unitholder’s income for the year. Any other amount inexcess of the net income of the Fund that is paid or payable to a Unitholder in that year will not generally beincluded in the Unitholder’s income for the year. However, where such an amount is paid or payable to aUnitholder (other than as proceeds in respect of the redemption of Units), the Unitholder will be required toreduce the adjusted cost base of the Units by that amount. To the extent that the adjusted cost base of a Unitwould otherwise be a negative amount, the negative amount will be deemed to be a capital gain and the adjustedcost base of the Unit to the Unitholder will then be nil. The taxation of capital gains is described below.
Dispositions of Units
On the disposition or deemed disposition of a Unit whether on a redemption or otherwise, the Unitholderwill realize a capital gain (or capital loss) equal to the amount by which the Unitholder’s proceeds of dispositionexceed (or are less than) the aggregate of the adjusted cost base of the Unit and any reasonable costs ofdisposition. Proceeds of disposition will not include an amount payable by the Fund that is otherwise required tobe included in the Unitholder’s income, including any capital gain realized by the Fund in connection with aredemption which has been designated by the Fund to the redeeming Unitholder. The taxation of capital gainsand capital losses is described below.
The adjusted cost base of a Unit to a Unitholder will include all amounts paid or payable by the Unitholderfor the Unit, with certain adjustments. The cost to a Unitholder of additional Units received in lieu of a cashdistribution of income will be the amount of income distributed by the issue of those Units. For the purpose ofdetermining the adjusted cost base to a Unitholder of Units, when a Unit is acquired, the cost of the newlyacquired Unit will be averaged with the adjusted cost base of all of the Units owned by Unitholder as capitalproperty immediately before that acquisition.
Where Units are redeemed and the redemption price is paid by the delivery of Series 2 Trust Notes andSeries 3 Trust Notes to the redeeming Unitholder, the proceeds of disposition to the Unitholder of the Units willbe equal to the fair market value of the Series 2 Trust Notes and Series 3 Trust Notes so distributed less anyincome or capital gain realized by the Fund in connection with the redemption of those Units which has beendesignated by the Fund to the Unitholder. Where any income or capital gain realized by the Fund in connectionwith the distribution of Series 2 Trust Notes and Series 3 Trust Notes on the redemption of Units has beendesignated by the Fund to a redeeming Unitholder, the Unitholder will be required to include in income theincome or taxable portion of the capital gain so designated. The redeeming Unitholder will be required toinclude in income, interest on any Series 2 Trust Notes and Series 3 Trust Notes acquired (including interest that
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accrued prior to the date of the acquisition of such notes by the Unitholder that is designated as income to theUnitholder by the Fund) in accordance with the provisions of the Tax Act. The cost of any Series 2 Trust Notesand Series 3 Trust Notes distributed by the Fund to a Unitholder upon a redemption of Units will be equal to thefair market value of those Trust Notes at the time of the distribution less any accrued interest on such TrustNotes. The Unitholder will thereafter be required to include in income interest on the Series 2 Trust Notes andSeries 3 Trust Notes, in accordance with the provisions of the Tax Act. To the extent that the Unitholder isrequired to include in income, any interest accrued to the date of the acquisition of the Series 2 Trust Notes bythe Unitholder, an offsetting deduction may be available. Unitholders are advised to consult their own taxadvisors prior to exercising their redemption rights.
The consolidation of Units of the Fund will not be considered to result in a disposition of Units byUnitholders. The aggregate adjusted cost base to a Unitholder of all of the Unitholder’s Units of the Fund willnot change as a result of a consolidation of Units; however, the adjusted cost base per Unit will increase.
Capital Gains and Capital Losses
One-half of any capital gain realized by a Unitholder on a disposition or deemed disposition of Units andthe amount of any net taxable capital gains designated by the Fund in respect of a Unitholder will generally beincluded in the Unitholder’s income as a taxable capital gain in the taxation year in which the disposition or inrespect of which a net taxable capital gains designation is made by the Fund. One-half of any capital loss realizedby a Unitholder on a disposition or deemed disposition of Units may generally be deducted only from taxablecapital gains of the Unitholder in the year of disposition, in the three preceding taxation years or in anysubsequent taxation year in accordance with the provisions of the Tax Act.
Where a Unitholder that is a corporation or trust (other than a mutual fund trust) disposes of a Unit, theUnitholder’s capital loss from the disposition will generally be reduced by the amount of dividends, previouslydesignated by the Fund to the Unitholder except to the extent that a loss on a previous disposition of a Unit hasbeen reduced by those dividends. Analogous rules apply where a corporation or trust (other than a mutual fundtrust) is a member of a partnership that disposes of Units.
Alternative Minimum Tax
In general terms, net income of the Fund paid or payable to a Unitholder who is an individual or a trust thatis designated as taxable dividends or capital gains and capital gains realized on the disposition of Units mayincrease the Unitholder’s liability for alternative minimum tax.
RISK FACTORS
An investment in the Units is subject to a number of risks. In addition to the other information contained inthis prospectus, prospective purchasers should give careful consideration to the following factors.
Risks Related to the Partnership and the Film Exhibition Industry
Reliance on Film Production and Performance
The Partnership’s ability to operate successfully depends upon the availability, diversity and appeal of films,the ability of the Partnership to license films and the performance of these films in the Partnership’s markets.The Partnership licenses first-run films, the success of which is dependent upon their quality, as well as on themarketing efforts of film studios and distributors. Poor performance of these films, or any disruption in theproduction or release of films, including by reason of a strike or threat of a strike, or a reduction in themarketing efforts of film studios and distributors, would have a negative effect on film attendance and adverselyaffect the Partnership’s business and results of operations. The Partnership’s reliance each year on a smallnumber of very successful films is a related risk which all film exhibitors face. From 2000–2002, revenues from sixfilms in each year accounted for between 17% and 23% of the Partnership’s revenues in each such year.
A significant portion of the film rental fees of the Partnership are based on a percentage of box officereceipts with the percentage declining over the length of the film run. As films play out faster, with a higher
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proportion of the box office generated during the early weeks of release, this may adversely affect thePartnership’s results of operations.
Increased Capital Expenses Resulting from the Development of Digital Technologies for Film Exhibition
The film exhibition industry is in the early stages of conversion from a physical film-based medium to anelectronic medium of film exhibition. There are likely to be significant capital costs associated with the adoptionof this technology by film exhibitors. There are a variety of constituencies whose responses to this anticipatedchange, individually or collectively, may significantly impact film exhibitors, including content providers,distributors, equipment providers and exhibitors. It is not possible to predict accurately how the roles andallocation of costs among various industry participants may change as the industry changes from a film-basedmedium to an electronic medium. If the conversion process rapidly accelerates, the Partnership may have toraise additional capital to finance the associated conversion costs. The additional capital necessary may not beavailable to the Partnership on attractive terms or at all.
Reliance on Key Personnel
The success of the Partnership depends upon the retention of senior management, including Ellis Jacob.There can be no assurance that the Partnership would be able to find qualified replacements for the individualswho make up its senior management team if their services were no longer available. The loss of services of oneor more members of the senior management team could adversely affect the Partnership’s business, results ofoperations and the Partnership’s ability to effectively pursue its business strategy. The Partnership does notmaintain key-man life insurance for any of its employees.
The Acquisition and Development of New Theatre Sites
The acquisition and development of new theatre sites to be operated by the Partnership will be dependenton the ability of the Partnership to identify, acquire and develop suitable sites for potential theatre locations inboth new and existing markets. The cost to develop a new theatre is substantial, but its success is not assured.While the Partnership is careful in selecting sites for new theatres, the significant time lag from identifying a newsite to theatre opening can result in a change in local market circumstances and could negatively impact thetheatre’s chance of success.
Impact of New Theatres
The opening of modern multiplexes by the Partnership and certain of its competitors has tended to, and isexpected by management to continue to, draw audiences away from less appealing older theatres, includingsome owned or operated by the Partnership. The building of new theatres or the addition of screens to existingtheatres by competitors in areas in which the Partnership operates theatres may result in reduced attendancelevels at the Partnership’s theatres. Reductions in cash flow at the individual theatre level could, in theaggregate, have a material adverse effect on the Partnership’s business and distributable cash.
Alternative Film Delivery Methods and Other Forms of Entertainment
The Partnership competes with other film delivery vehicles, including cable and satellite television, DVDsand video cassettes, as well as pay-per-view services and downloads via the Internet. The release date of a film inother channels of distribution (such as pay television or DVD) is at the discretion of each distributor and earlierrelease windows for such alternative channels could have a negative impact on the Partnership’s business andresults of operations. The Partnership also competes for the public’s leisure time and disposable income withother forms of entertainment, including sporting events, live music concerts, live theatre and restaurants. Thesealternative film delivery methods and other forms of entertainment could reduce attendance at the Partnership’stheatres, limit the prices that the Partnership can charge for admission and materially adversely affect thePartnership’s business and results of operations.
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Unauthorized Copying of Films
Technological advances and the conversion of films into digital formats have made it easier to create,transmit and ‘‘share’’ high quality unauthorized copies of films in theatrical release. As a result, users may beable to download and distribute unauthorized or ‘‘pirated’’ copies of films over the Internet. In addition, therecould be increased proliferation of devices capable of making unauthorized copies of films. As long as piratedcontent is available to download digitally, some consumers may choose to digitally download pirated films ratherthan attending a theatre. Management believes that this may be particularly true for patrons who wouldotherwise go to a first-run film more than once in the theatre. These technological advances and illegaldistribution of films poses a threat to the film exhibition business and may have an adverse effect on thePartnership’s business.
Rising Insurance and Labour Costs
The terrorist attacks on the United States in 2001 have resulted in significant increases in the cost ofproperty and liability insurance, have made some insurance coverage available only on unfavourable terms ornot at all and have resulted in significant increases in the deductible amount for liability insurance. In addition,the Partnership is unable to obtain property insurance coverage for damage resulting from terrorist attacks.Future increases in insurance costs, coupled with the increase in deductibles, will result in higher theatreoperating costs and increased risk.
Approximately 83% of the employees of the Partnership are hourly workers whose compensation is basedon the prevailing provincial minimum wages. Any increase in these minimum wages will increase employeerelated costs.
Ability to Generate Additional Ancillary Revenue
Management intends to continue to pursue ancillary revenue opportunities such as advertising, games,promotions and alternative uses of its theatres during non-peak hours. The Partnership’s ability to achieve itsbusiness objectives may depend in part on its ability to successfully increase these revenue streams. Some of thePartnership’s competitors have made significant capital investments in deploying a digital preshow exhibitioncapability, and the success of this delivery system could make it more difficult for the Partnership to compete foradvertising revenues. There can be no assurance that the Partnership will be able to effectively generateadditional ancillary revenues. The inability of the Partnership to do so, or to effectively compete with deliverysystems developed by its competitors, could have an adverse effect on the Partnership’s business and results ofoperations.
Competitive Environment
The Partnership competes in each of its local markets with other national and regional circuits andindependent film exhibitors, particularly with respect to film licensing, attracting patrons and acquiring anddeveloping new theatre sites and acquiring existing theatres.
In most competitive local markets, Famous Players is the Partnership’s principal competitor. FamousPlayers accounted for approximately 46% of Canadian box office revenues for the first eight months of 2003 andis indirectly owned by Viacom, Inc., which also controls Paramount Pictures, a major producer and distributor offilms. The relationship between Famous Players and Paramount Pictures has not prevented the Partnership fromexhibiting films distributed by Paramount Pictures to date, but there is no assurance that this will be the case inthe future.
Movie-goers are generally not brand conscious and usually choose a theatre based on its location, the filmsshowing, show times available and the theatre’s amenities. As a result, the development of theatres by thePartnership’s competitors in areas in which the Partnership operates may lead to reduced attendance at thePartnership’s theatres. In addition, a change in consumer preferences or technology may cause increasedcompetition or require the Partnership to make significant capital expenditures in order to compete effectively.
The Partnership’s failure to compete effectively with its current or any future competitors could result in,among other things, reduced levels of attendance at the Partnership’s theatres as well as reduced box office and
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ancillary revenues and could have a material adverse effect on the Partnership’s financial condition and resultsof operation.
Relationships with Major Film Distributors
Nine major film distributors accounted for approximately 91% of the Partnership’s box office revenues forthe first eight months of 2003, which is consistent with industry standards. The Partnership depends onmaintaining good relations with these distributors, as this affects its ability to negotiate commercially favourablelicensing terms for first-run films or to obtain licenses at all. A deterioration in the Partnership’s relationshipswith any of the major film distributors could affect its ability to negotiate film licenses on favourable terms or itsability to obtain commercially successful films, which could adversely affect the Partnership’s business andresults of operations.
Relationships with Primary Concession Suppliers
Substantially all of the Partnership’s beverage concessions are products of a single major beverage company.If this relationship were disrupted, the Partnership would be forced to negotiate a substitute arrangement with adifferent supplier that could be less favourable to the Partnership than the current arrangement. Any suchdisruptions could therefore increase the cost of concessions and harm the Partnership’s operating margins,which would adversely affect the Partnership’s business and results of operation.
The Partnership relies on a single company for the distribution of a substantial portion of its concessionsupplies. If this distribution relationship were disrupted, the Partnership could be forced to negotiate a numberof substitute arrangements with alternative distributors that could, in the aggregate, be less favourable to thePartnership than the current arrangement.
Landlord Lease Termination Rights
The leases for several of the Cineplex Odeon theatres which were renegotiated during COC’s restructuringprovide both the tenant and the landlord the right to terminate the lease by providing notice, in some cases onlyupon the occurrence of certain events beyond the Partnership’s control. A decision by the landlords at some orall of these theatres to terminate these leases could, in the aggregate, have a material adverse effect on thePartnership’s distributable cash.
Reliance on Consumer Spending
The Partnership is dependent on consumers to spend discretionary funds on leisure activities. Movie theatreattendance may be affected by prolonged, negative trends in the general economy that adversely affect consumerspending. Any reduction in consumer confidence or disposable income in general may affect theatre attendanceor severely impact the motion picture production industry, which, in turn, could adversely affect thePartnership’s business and results of operations. In addition, if the Partnership is too aggressive in raising ticketprices or concession prices, there may be an adverse effect on attendance and concession revenues.
Reliance on Management Information Systems
Management depends heavily on management information systems to analyze operating performance on aregular basis. Pursuant to the Services Agreement, COC will provide the Partnership with such systems. If thesesystems failed or became obsolete, the Partnership may be adversely affected.
Risks Related to the Structure of the Fund and the Offering
Dependence on the Trust and the Partnership
The Fund is an unincorporated open-ended, limited purpose trust which will be entirely dependent on theoperations and assets of the Partnership through the Trust’s ownership of 1 % of the LP Units. Cashdistributions to Unitholders will be dependent on, among other things, the ability of the Trust to pay interest onthe Trust Notes and to make cash distributions in respect of the Trust Units, which, in turn, is dependent on thePartnership making cash distributions and the ability of GEI to pay interest on the Galaxy Notes. The ability of
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the Partnership, GEI or the Trust to make cash distributions or other payments or advances will be subject toapplicable laws and regulations and contractual restrictions contained in the instruments governing anyindebtedness of those entities.
Cash Distributions Are Not Guaranteed and Will Fluctuate with the Business Performance
Although the Fund intends to distribute the interest received in respect of the Trust Notes and the cashdistributions received in respect of the Trust Units, less expenses and amounts, if any, paid by the Fund inconnection with the redemption of Units, there can be no assurance regarding the amounts of income to begenerated by the Partnership’s business or ultimately distributed to the Fund. The actual amount distributed inrespect of the Units is not guaranteed and will depend upon numerous factors, including the Partnership’sprofitability, its ability to maintain and increase its advertiser base and sustain EBITDA margins and thefluctuations in the Partnership’s working capital and capital expenditures, all of which are susceptible to anumber of risks.
Nature of Units
Securities like the Units are hybrids in that they share certain attributes common to both equity securitiesand debt instruments. The Units do not represent a direct investment in the business of the Partnership andshould not be viewed by investors as direct securities of Cineplex Galaxy LP or its subsidiaries. As holders ofUnits, Unitholders will not have the statutory rights normally associated with ownership of shares of acorporation including, for example, the right to bring ‘‘oppression’’ or ‘‘derivative’’ actions or rights of dissent.The Units represent a fractional interest in the Fund. The Fund’s primary assets will be Trust Units and TrustNotes. The price per Unit is a function of anticipated distributable income.
The Units are not ‘‘deposits’’ within the meaning of the Canada Deposit Insurance Corporations Act(Canada) and are not insured under the provisions of that Act or any other legislation. Furthermore, the Fund isnot a trust company and, accordingly, is not registered under any trust and loan company legislation as it doesnot carry on or intend to carry on the business of a trust company.
Absence of Prior Public Market
Prior to the Offering, there has been no public market for the Units. The initial public offering price hasbeen determined by negotiation between the Fund, COC, GEI and the Underwriters based on several factorsand may bear no relationship to the price at which the Units will trade in the public market subsequent to theOffering. See ‘‘Plan of Distribution’’.
Distribution of Securities on Redemption or Termination of the Fund
Upon termination of the Fund, the Trustees may distribute the Trust Notes and Trust Units directly to theUnitholders, subject to obtaining all required regulatory approvals. Upon redemption of Units, the Trustees maydistribute the Trust Notes directly to Unitholders, subject to obtaining all required regulatory approvals. There iscurrently no market for the Trust Notes and the Trust Units. In addition, Trust Notes and the Trust Units are notfreely tradeable or listed on any stock exchange. See ‘‘Description of the Fund — Term of the Fund’’ and‘‘Description of the Fund — Redemption at the Option of Unitholders’’. Securities so distributed may not bequalified investments for trusts governed by Plans, depending on the circumstances at the time.
Unitholder Liability
The Fund Declaration of Trust provides that no Unitholder will be subject to any liability whatsoever to anyperson in connection with a holding of Units. However, there remains a risk, which is considered by the Fund tobe remote in the circumstances, that a Unitholder could be held personally liable, despite such statement in theFund Declaration of Trust, for the obligations of the Fund to the extent that claims are not satisfied out of theassets of the Fund. It is intended that the affairs of the Fund will be conducted to seek to minimize such riskwherever possible.
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Dilution of Existing Unitholders and Limited Partnership Unit Holders
The Fund Declaration of Trust authorizes the Fund to issue an unlimited number of Units for thatconsideration and on those terms and conditions as shall be established by the Trustees without the approval ofany Unitholders. The Unitholders will have no pre-emptive rights in connection with such further issues.Additional Units will be issued by the Fund in connection with the indirect exchange of the Class B LP Units. Inaddition, Cineplex Galaxy LP is permitted to issue additional LP Units for any consideration and on any termsand conditions.
Control of the Partnership
Pursuant to the Securityholders Agreement, the LCE Shareholders will be entitled to appoint four of theseven directors on the Board of Cineplex Galaxy GP for so long as the LCE Group owns, directly or indirectly,not less than 20% of the Units (on a fully-diluted basis). See ‘‘Funding and Related Transactions —Securityholders Agreement’’ for a description of the LCE Group’s board representation rights. These boardrepresentation rights are not transferable outside of the LCE Group. As a result of their board representationrights, the LCE Shareholders, for so long as the LCE Group owns not less than 20% of the Units (on a fully-diluted basis), will control the board of Cineplex Galaxy GP, which will allow them to exercise significant controlover certain corporate transactions submitted to the Board of Cineplex Galaxy GP for approval.
For so long as the LCE Group owns, directly or indirectly, not less than 10% of the Units (on a fully-dilutedbasis), the LCE Shareholders will have certain limited veto rights with respect to certain matters relating toCineplex Galaxy LP and certain of its related entities, which will allow the LCE Shareholders to exercisesignificant control over certain corporate transactions. These veto rights are not transferable outside theLCE Group. In addition, the LCE Shareholders will have consent rights respecting amendment to certainmaterial agreements entered into by Cineplex Galaxy LP and certain of its affiliates. See ‘‘Funding and RelatedTransactions — Securityholders Agreement’’.
The interests of the LCE Shareholders may conflict with those of other Unitholders.
Leverage and Restrictive Covenants
The ability of the Trust and the Partnership to make distributions, pay dividends or make other payments oradvances will be subject to applicable laws and contractual restrictions contained in the instruments governingany indebtedness of those entities (including the New Credit Facilities). The degree to which the Partnership isleveraged could have important consequences to the Unitholders including: the Partnership’s ability to obtainadditional financing for working capital, capital expenditures or acquisitions in the future may be limited; asignificant portion of the Partnership’s cash flow from operations may be dedicated to the payment of theprincipal of and interest on its indebtedness, thereby reducing funds available for future operations; certain ofthe Partnership’s borrowings will be at variable rates of interests, which exposes the Partnership to the risk ofincreased interest rates; and the Partnership may be more vulnerable to economic downturns and be limited inits ability to withstand competitor pressures. These factors may increase the sensitivity of distributable cash tointerest rate variations.
The New Credit Facilities will contain numerous restrictive covenants that limit the discretion of thePartnership’s management with respect to certain business matters. These covenants place significantrestrictions on, among other things, the ability of the Partnership to create liens or other encumbrances, to paydistributions or make certain other payments, investments, loans and guarantees and to sell or otherwise disposeof assets and merge or consolidate with another entity. In addition, the New Credit Facilities will contain anumber of financial covenants that require the Partnership to meet certain financial ratios and financialcondition tests. A failure to comply with the obligations in the New Credit Facilities could result in a defaultwhich, if not cured or waived, could result in a termination of distributions by the Partnership and permitacceleration of the relevant indebtedness. If the indebtedness under the New Credit Facilities were to beaccelerated, there can be no assurance that the assets of the Partnership would be sufficient to repay in full thatindebtedness. In addition, the New Credit Facilities will mature no later than the third anniversary thereof.There can be no assurance that future borrowings or equity financing will be available to the Partnership, oravailable on acceptable terms, in an amount sufficient to fund the Partnership’s needs. See ‘‘Debt Financing’’.
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Future Sales of Units by the Investors
Upon the Closing, the Investors will hold in aggregate approximately 1 % of the outstanding LP Unitsof Cineplex Galaxy LP which, pursuant to the Exchange Agreement, can be exchanged at any time, subject tocertain conditions, thereby causing the issuance of additional Units. The Investors have also been grantedcertain registration rights by the Fund. See ‘‘Funding and Related Transactions — Exchange Agreement’’. IfCOC sells substantial amounts of Units in the public market, the market price of the Units could fall. Theperception among the public that these sales will occur could also produce such effect.
Investment Eligibility and Foreign Property
There can be no assurance that the Units will continue to be qualified investments for registered retirementsavings plans, deferred profit sharing plans, registered retirement income funds and registered education savingsplans or that the Units will not be foreign property under the Tax Act. The Tax Act imposes penalties for theacquisition or holding of non-qualified investments and on excess holdings of foreign property. In particular, ifthe Fund ceases to be a mutual fund trust, the Units may become foreign property.
Income Tax Matters
There can be no assurance that Canadian federal income tax laws and administrative policies respecting thetreatment of mutual fund trusts will not be changed in a manner which adversely affects the holders of Units. Ifthe Fund ceases to qualify as a ‘‘mutual fund trust’’ under the Tax Act, the income tax considerations describedherein under the heading ‘‘Certain Canadian Federal Income Tax Considerations’’ would be materially andadversely different in certain respects.
Interest on the Trust Notes accrues at the Fund level for Canadian federal income tax purposes, whether ornot actually paid. The Fund Declaration of Trust provides that a sufficient amount of the Fund’s net income andnet realized capital gains will be distributed each year to Unitholders in order to eliminate the Fund’s liability fortax under Part 1 of the Tax Act. Where such amount of net income (including interest on the Trust Notes) andnet realized capital gains of the Fund in a taxation year exceeds the cash available for distribution in the year,such excess net income and net realized capital gains will be distributed to Unitholders in the form of additionalUnits. Unitholders will generally be required to include an amount equal to the fair market value of those Unitsin their taxable income, in circumstances when they do not directly receive a cash distribution.
In addition, the acquisition agreements under which (i) COC will transfer substantially all of its businessassets to Cineplex Galaxy LP, (ii) Cineplex (Odeon) Quebec Inc. will transfer substantially all of its businessassets to Cineplex Galaxy LP, and (iii) certain of the Investors will transfer the shares of Cineplex GalaxyAcquisition to Cineplex Galaxy LP provide that if requested by the transferor, the transferor and CineplexGalaxy LP will make elections under the Tax Act to transfer the transferred assets on a fully or partiallytax-deferred basis, as may be determined by the transferor. The adjusted cost base to Cineplex Galaxy LP of theassets so transferred where such elections are made may be less than fair market value, such that CineplexGalaxy LP may realize a gain on the future disposition of those assets.
Income fund structures generally involve significant amounts of inter-company or similar debt, generatingsubstantial interest expense, which serves to reduce earnings and therefore income tax payable. There can be noassurance that taxation authorities will not seek to challenge the amount of interest expense deducted. If such achallenge were to succeed against GEI, it could materially adversely affect the amount of distributable cashavailable. Management believes that the interest expense inherent in the structure of the Fund is supportableand reasonable in light of the terms of the GEI Notes.
Restrictions on Potential Growth
The payout by the Partnership of substantially all of its operating cash flow will make additional capital andoperating expenditures dependent on increased cash flow or additional financing in the future. Lack of thosefunds could limit the future growth of the Partnership and its cash flow.
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Restrictions on Certain Unitholders and Liquidity of Units
The Fund Declaration of Trust imposes various restrictions on Unitholders. Non-resident Unitholders areprohibited from beneficially owning more than 49.9% of Units (on a non-diluted and a fully-diluted basis).These restrictions may limit (or inhibit the exercise of) the rights of certain Unitholders, including non-residentsof Canada and U.S. persons, to acquire Units, to exercise their rights as Unitholders and to initiate and completetake-over bids in respect of the Units. As a result, these restrictions may limit the demand for Units from certainUnitholders and thereby adversely affect the liquidity and market value of the Units held by the public.
MATERIAL CONTRACTS
The only material contracts entered into by the Fund and, in the case of the credit agreement creating theNew Credit Facilities, by Cineplex Galaxy LP, during the past two years or to which the Fund will become a partyon or prior to the Closing, other than in the ordinary course of business, are as follows:
(i) the Fund Declaration of Trust, described under ‘‘Description of the Fund’’;
(ii) the Trust Declaration of Trust, described under ‘‘Description of the Trust’’;
(iii) the Trust Note Indenture, described under ‘‘Description of the Trust’’;
(iv) the Cineplex Galaxy LP Partnership Agreement, described under ‘‘Description of CineplexGalaxy LP’’;
(v) the Securityholders Agreement, described under ‘‘Funding and Related Transactions’’;
(vi) the Exchange Agreement, described under ‘‘Funding and Related Transactions’’;
(vii) the Investment and Acquisition Agreement, described under ‘‘Funding and Related Transactions’’;
(viii) the credit agreement creating the New Credit Facilities, described under ‘‘Debt Financing’’;
(ix) the Support Agreement described under ‘‘Support Agreement’’; and
(x) the Underwriting Agreement, described under ‘‘Plan of Distribution’’.
Copies of the foregoing documents may be examined during normal business hours at the office of the Fundlocated at 1303 Yonge Street, Toronto, Ontario M4T 2Y9.
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EXPERTS
Certain legal matters relating to the issue and sale of Units offered hereby will be passed upon on behalf ofthe Fund and Cineplex Galaxy LP by Goodmans LLP and on behalf of the Underwriters by Torys LLP.
LEGAL PROCEEDINGS
Management is not aware of any litigation outstanding, threatened or pending as of the date hereof by oragainst the Fund, the Trust or the Partnership which would be material to a purchaser of Units.
PROMOTER
COC may be considered to be a promoter of the Fund by reason of its initiative in organizing the businessand affairs of the Fund.
AUDITORS, TRANSFER AGENT AND REGISTRAR
The auditors of the Fund are PricewaterhouseCoopers LLP, Chartered Accountants, Toronto, Ontario.
The transfer agent and registrar for the Units is 1 at its principal transfer office in Toronto.
PURCHASERS’ STATUTORY RIGHTS
Securities legislation in certain provinces and territories of Canada provides purchasers with the right towithdraw from an agreement to purchase securities. This right may be exercised within two business days afterreceipt or deemed receipt of a prospectus and any amendment. In several of the provinces and territories, thelegislation further provides a purchaser with remedies for rescission or, in some jurisdictions, damages if theprospectus and any amendment contains a misrepresentation or is not delivered to the purchaser, provided thatsuch remedies for rescission or damages are exercised by the purchaser within the time limit prescribed by thesecurities legislation of the purchaser’s province or territory. The purchaser should refer to any applicableprovisions of the securities legislation of the purchaser’s province or territory for the particulars of these rightsor consult with a legal advisor.
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GLOSSARY OF TERMS
‘‘Board’’ means the board of directors of Cineplex Galaxy GP;
‘‘Book-Entry System’’ means a book-based system administered by CDS;
‘‘CAGR’’ means compound annual growth rate;
‘‘CCAA’’ means the Companies’ Creditors Arrangement Act;
‘‘CCRA’’ means the Canada Customs and Revenue Agency;
‘‘CDS’’ means The Canadian Depository for Securities Limited;
‘‘CDS Participants’’ means a participant in the CDS depository service;
‘‘Capital Gains Refund’’ shall have the meaning ascribed thereto under ‘‘Certain Canadian Federal Income TaxConsiderations — Taxation of the Fund’’;
‘‘Cineplex Galaxy Acquisition’’ means Cineplex Galaxy Acquisition Inc., a corporation to be established under thelaws of the Province of Ontario;
‘‘Cineplex Galaxy GP’’ means Cineplex Galaxy General Partner Corporation, a corporation to be establishedunder the federal laws of Canada;
‘‘Cineplex Galaxy LP’’ means Cineplex Galaxy Limited Partnership, a limited partnership to be established underthe laws of the Province of Manitoba pursuant to the Cineplex Galaxy LP Partnership Agreement;
‘‘Cineplex Galaxy LP Partnership Agreement’’ means the Cineplex Galaxy LP limited partnership agreement tobe dated on or before the Closing Date;
‘‘Class A LP Units’’ means the Class A limited partnership units of Cineplex Galaxy LP;
‘‘Class B LP Units’’ means the Class B limited partnership units of Cineplex Galaxy LP;
‘‘Closing’’ means the closing of the Offering;
‘‘Closing Date’’ means 1 , 2003 or any other date agreed upon, but not later than 1 , 2003;
‘‘COC’’ means Cineplex Odeon Corporation;
‘‘Distributable Cash’’ means the estimated cash available for distribution;
‘‘EBITDA’’ means earnings before interest, income taxes and amortization;
‘‘Famous Players’’ means Famous Players Inc.;
‘‘Fund’’ means Cineplex Galaxy Income Fund, an unincorporated, open-ended limited purpose trust establishedunder the laws of the Province of Ontario;
‘‘Fund Declaration of Trust’’ means the declaration of trust dated October 2, 2003, pursuant to which the Fund isestablished, as it may be amended, supplemented or restated from time to time;
‘‘GAAP’’ means generally accepted accounting principles in Canada;
‘‘GEI’’, prior to the Closing, means Galaxy Entertainment Inc. and, subsequent to the Closing, means GalaxyEntertainment Inc., the corporation resulting from the amalgamation of Galaxy Entertainment Inc. andCineplex Galaxy Acquisition Inc.;
‘‘Galaxy Investors’’ means the persons who were, immediately prior to the Closing, shareholders of GEI;
‘‘Galaxy Notes’’ means the indebtedness of GEI to the Trust;
‘‘Investment and Acquisition Agreement’’ means the investment and acquisition agreement to be entered intobetween the Fund, the Trust, Cineplex Galaxy LP, Cineplex Galaxy GP, Loews Cineplex, GEI and the Investorson the date of the final prospectus;
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‘‘Investors’’ means COC, Cineplex Odeon (Quebec) Inc. and the Galaxy Investors;
‘‘LCE Group’’ means Loews Cineplex and any person or entity who, on Closing, controls or is controlled by LoewsCineplex, directly or indirectly, and any successor by merger, amalgamation, combination or otherwise of any ofthe foregoing, and any person or entity controlled by any of the foregoing, and notwithstanding any sale, transferor change of control of Loews Cineplex or LCT following the Closing;
‘‘LCE Shareholders’’ means the members of the LCE Group that own shares of Cineplex Galaxy GP from time totime;
‘‘LCT’’ means Loews Cineplex Theatres, Inc., currently a wholly-owned subsidiary of Loews Cineplex;
‘‘Loews Cineplex’’ or ‘‘LCE’’ means Loews Cineplex Entertainment Corporation;
‘‘Loews Cineplex theatre group’’ means Loews Cineplex, its subsidiaries and entities under common control(including Grupo Cinemex, S.A. de C.V. which is currently owned by Onex Corporation and OCM CinemaHoldings, LLC but is intended to be contributed by them to Loews Cineplex);
‘‘LP Units’’ means the limited partnership units of Cineplex Galaxy LP, including the Class A LP Units and theClass B LP Units;
‘‘modern multiplex theatre’’ means a theatre built or refurbished in the last seven years which features at leastsix screens per theatre, stadium seating, digital sound and enhanced concessions;
‘‘New Credit Facilities’’ means the new credit facilities, which are comprised of revolving credit facilities and aterm credit facility in the aggregate amount of up to $170 million, for which Canadian financial institutions,including affiliates of certain of the Underwriters, have provided the Partnership a firm underwrittencommitment to make such facilities available to the Partnership at Closing, subject to the fulfilment ofcustomary conditions;
‘‘Offering’’ means the offering of 1 Units to be issued and sold by the Fund pursuant to this prospectus;
‘‘Ordinary Resolution’’ means a resolution passed by a majority of the votes cast at a meeting of the Unitholders;
‘‘Over-Allotment Notes’’ means the promissory notes issued by Cineplex Galaxy LP in favour of COC andCineplex Odeon (Quebec) Inc., to be repaid in cash in the event the Over-Allotment is exercised in full or inClass B LP Units and shares of Cineplex Galaxy GP in the event the Over-Allotment Option is not exercised (orin a combination of cash, units and shares if the Over-Allotment Option is exercised in part);
‘‘Over-Allotment Option’’ means the option granted by the Fund to the Underwriters to purchase up to 1additional Units, exercisable for a period of 30 days from the Closing;
‘‘Partnership’’ means Cineplex Galaxy LP, together with its general partner and subsidiaries, and includes, forthe periods prior to Closing, the businesses of COC, Cineplex Odeon (Quebec) Inc. and GEI to be acquired byCineplex Galaxy LP in connection with the Offering, together with their respective subsidiaries and theirrespective predecessors;
‘‘Plans’’ means trusts governed by registered retirement savings plans, registered retirement income funds,deferred profit sharing plans and registered education savings plans, each as defined in the Tax Act;
‘‘Redemption Date’’ shall have the meaning ascribed thereto under ‘‘Description of the Fund — Redemption atthe Option of Unitholders’’;
‘‘Redemption Price’’ shall have the meaning ascribed thereto under ‘‘Description of the Fund — Redemption atthe Option of Unitholders’’;
‘‘Revolving Facilities’’ means senior revolving credit facilities in an aggregate principal amount of up to$60 million;
‘‘Securityholders Agreement’’ means the unanimous shareholders agreement entered into on Closing between theFund, the Trust, Cineplex Galaxy LP, Cineplex Galaxy GP and the Investors;
‘‘Series 1 Trust Notes’’ means the series 1 notes of the Trust issued under the Trust Note Indenture;
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‘‘Series 2 Trust Notes’’ means the series 2 notes of the Trust issued under the Trust Note Indenture;
‘‘Series 3 Trust Notes’’ means the series 3 notes of the Trust issued under the Trust Note Indenture;
‘‘Services Agreement’’ means the services agreement to be entered into between COC, the Fund, the Trust,Cineplex Galaxy LP, Cineplex Galaxy GP and GEI on the Closing;
‘‘Special Resolution’’ means a resolution passed by the affirmative vote of the holders of not less than 662⁄3% of theUnits who voted in respect of that resolution at a meeting at which a quorum was present or a resolution orinstrument signed in one or more counterparts by the holders of not less than 662⁄3% of the Units entitled to voteon such resolution;
‘‘Support Agreement’’ means the support agreement between the Fund, Cineplex Galaxy LP, COC, GEI and theGalaxy Investors to be dated the Closing Date;
‘‘Tax Act’’ means the Income Tax Act (Canada) and the regulations thereunder;
‘‘Term Facility’’ means the senior term loan facility in an aggregate amount of up to $110 million;
‘‘Trust’’ means Cineplex Galaxy Trust;
‘‘Trust Declaration of Trust’’ means the declaration of trust pursuant to which the Trust will be established on1 , 2003, as may be amended, supplemented or restated from time to time;
‘‘Trust’s Trustees’’ means the trustees of the Trust;
‘‘Trustee’’ or ‘‘Trustees’’ means the trustees of the Fund or any one of them;
‘‘Trust Note Indenture’’ means the note indenture to be entered into between the Trust and 1 dated theClosing Date governing the Trust Notes;
‘‘Trust Notes’’ means, collectively, the Series 1 Trust Notes, Series 2 Trust Notes and Series 3 Trust Notes of theTrust;
‘‘Trust Units’’ means units of the Trust;
‘‘TSX’’ means the Toronto Stock Exchange;
‘‘Underwriters’’ means RBC Dominion Securities Inc. and Scotia Capital Inc.;
‘‘Underwriting Agreement’’ means the underwriting agreement dated 1 , 2003 among the Fund, the Trust,Cineplex Galaxy LP, Cineplex Galaxy GP, Loews Cineplex, the Investors, GEI and the Underwriters;
‘‘Unitholders’’ means the holders of Units;
‘‘Units’’ means units of the Fund; and
‘‘U.S. Securities Act’’ means the United States Securities Act of 1933, as amended.
Audited Consolidated Financial Statements of Cineplex Odeon Corporation for the years ended February 28,2002, February 28, 2001 and the one month ended March 31, 2002
Unaudited Combined Financial Statements of Cineplex Odeon Corporation and Galaxy Entertainment Inc. forthe six months ended June 30, 2003 and June 30, 2002
Unaudited Pro Forma Consolidated Financial Statements of the FundCompilation Report . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . F-57Pro Forma Consolidated Balance Sheet as of June 30, 2003 . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . F-58Pro Forma Consolidated Statement of Operations for the six-month period ended June 30, 2003 . . . . . . . . . . . . F-59Pro Forma Consolidated Statement of Operations for the twelve-month period ended June 30, 2003 . . . . . . . . . . F-60Pro Forma Consolidated Statement of Operations for the twelve-month period ended December 31, 2002 . . . . . . F-61Notes to Pro Forma Consolidated Financial Statements . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . F-62
Unaudited Pro Forma Combined Financial Statements of Cineplex Galaxy Limited PartnershipCompilation Report . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . F-64Pro Forma Combined Statement of Operations for the six-month period ended June 30, 2003 . . . . . . . . . . . . . . F-66Pro Forma Combined Statement of Operations for the twelve-month period ended June 30, 2003 . . . . . . . . . . . . F-67Pro Forma Combined Statement of Operations for the twelve-month period ended December 31, 2002 . . . . . . . . F-68Notes to Pro Forma Combined Financial Statements . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . F-69
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AUDITORS’ REPORT
To the Trustees of Cineplex Galaxy Income Fund
We have audited the balance sheet of Cineplex Galaxy Income Fund (the ‘‘Fund’’) as at October 2, 2003.This balance sheet is the responsibility of the Fund’s management. Our responsibility is to express an opinion onthis balance sheet based on our audit.
We conducted our audit in accordance with Canadian generally accepted auditing standards. Thosestandards require that we plan and perform an audit to obtain reasonable assurance whether the financialstatement is free of material misstatement. An audit includes examining, on a test basis, evidence supporting theamounts and disclosures in the financial statement. An audit also includes assessing the accounting principlesused and significant estimates made by management, as well as evaluating the overall financial statementpresentation.
In our opinion, this balance sheet presents fairly, in all material respects, the financial position of the Fundas at October 2, 2003 in accordance with Canadian generally accepted accounting principles.
Toronto, OntarioOctober 2, 2003, except as to Note 4, (Signed) 1which is as of 1 , 2003 Chartered Accountants
The accompanying notes form an integral part of this financial statement.
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CINEPLEX GALAXY INCOME FUND
NOTES TO BALANCE SHEET
October 2, 2003(In Canadian dollars)
1. THE FUND
Cineplex Galaxy Income Fund (the ‘‘Fund’’) is an unincorporated, open-ended, limited purpose trust established under the laws of theProvince of Ontario on October 2, 2003 pursuant to the Fund Declaration of Trust. It is intended that the Fund will qualify as a ‘‘mutualfund trust’’ for the purposes of the Income Tax Act (Canada). The principal head office of the Fund is located at 1303 Yonge Street,Toronto, Ontario, Canada, M4T 2Y9. The Fund has been established to hold, directly or indirectly, investments in entities engaged inthe business of film exhibition, as well as activities ancillary or incidental thereto, and such other investments as the Trustees maydetermine.
2. UNITHOLDER EQUITY
The Fund may issue an unlimited number of units, with each unit representing an equal undivided beneficial interest in the Fund, andany distributions from the Fund.
3. GUARANTEES
The Fund has agreed to indemnify the trustees and officers, subject to certain exceptions, against costs and damages incurred by thetrustees and officers as a result of lawsuits or any other judicial, administrative or investigative proceeding in which the trustees andofficers are sued as a result of their service. No amount has been recorded in this balance sheet with respect to these indemnificationagreements.
4. SUBSEQUENT EVENT
The Fund filed a prospectus dated 1 , 2003 relating to the initial public offering of 1 units of the Fund at a price of $10 per unit,payable on closing for aggregate proceeds of $ 1 .
Concurrent with the closing, the Fund will use $ 1 million of the proceeds from the sale of its units to invest in limited partnershipunits of Cineplex Galaxy Limited Partnership (‘‘Cineplex Galaxy LP’’), through a newly constituted wholly owned trust, the CineplexGalaxy Trust (the ‘‘Holding Trust’’), as well as shares in the capital of Cineplex Galaxy General Partner Corporation (‘‘Cineplex GalaxyGP’’). The Fund will acquire indirectly 1 % of the limited partnership units of Cineplex Galaxy LP in exchange for cashconsideration of $ 1 and 1 % of the outstanding shares of Cineplex Galaxy GP in exchange for cash consideration of $ 1 .
Upon completion of the above transactions, the Fund, through its investment in the Holding Trust, will own 1 % of the limitedpartnership units of Cineplex Galaxy LP and 1 % of the outstanding shares of Cineplex Galaxy GP.
The investment in Cineplex Galaxy LP will be accounted for using the equity method. The excess of the cost of the investment over thecarrying value of the underlying net assets of Cineplex Galaxy LP will be allocated to the Fund’s proportionate share of the assets andliabilities of Cineplex Galaxy LP using fair values. As of 1 , 2003, management has not yet completed such an allocation.
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AUDITORS’ REPORT
To the Board of Directors ofCineplex Odeon Corporation and Galaxy Entertainment Inc.
We have audited the combined balance sheet of Cineplex Odeon Corporation and GalaxyEntertainment Inc. as at December 31, 2002 and the combined statements of operations, shareholders’ equity andcash flows for the nine months ended December 31, 2002, for Cineplex Odeon Corporation, and for the twelvemonths ended December 31, 2002 for Galaxy Entertainment Inc. These financial statements are theresponsibility of the Company’s management. Our responsibility is to express an opinion on these financialstatements based on our audit.
We conducted our audit in accordance with Canadian generally accepted auditing standards. Thosestandards require that we plan and perform an audit to obtain reasonable assurance whether the financialstatements are free of material misstatement. An audit includes examining, on a test basis, evidence supportingthe amounts and disclosures in the financial statements. An audit also includes assessing the accountingprinciples used and significant estimates made by management, as well as evaluating the overall financialstatement presentation.
In our opinion, these combined financial statements present fairly, in all material respects, the financialposition of the Company as at December 31, 2002 and the results of its operations, shareholders’ equity and itscash flows for the nine months ended December 31, 2002, for Cineplex Odeon Corporation, and for the twelvemonths ended December 31, 2002 for Galaxy Entertainment Inc., in accordance with Canadian generallyaccepted accounting principles.
Toronto, OntarioSeptember 19, 2003 (Signed) 1(except as to note 19, which is as of ( 1 )) Chartered Accountants
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CINEPLEX ODEON CORPORATION AND GALAXY ENTERTAINMENT INC.
COMBINED BALANCE SHEET
As at December 31, 2002(expressed in thousands of Canadian dollars)
The accompanying notes are an integral part of these combined financial statements.
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CINEPLEX ODEON CORPORATION AND GALAXY ENTERTAINMENT INC.
COMBINED STATEMENT OF OPERATIONS
For the nine months ended December 31, 2002 for Cineplex Odeon Corporation andfor the twelve months ended December 31, 2002 for Galaxy Entertainment Inc.
The accompanying notes are an integral part of these combined financial statements.
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CINEPLEX ODEON CORPORATION AND GALAXY ENTERTAINMENT INC.
COMBINED STATEMENT OF SHAREHOLDERS’ EQUITY
For the nine months ended December 31, 2002 for Cineplex Odeon Corporation andfor the twelve months ended December 31, 2002 for Galaxy Entertainment Inc.
* April 1, 2002 for Cineplex Odeon Corporation and January 1, 2002 for Galaxy Entertainment Inc.
The accompanying notes are an integral part of these combined financial statements.
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CINEPLEX ODEON CORPORATION AND GALAXY ENTERTAINMENT INC.
COMBINED STATEMENT OF CASH FLOWS
For the nine months ended December 31, 2002 for Cineplex Odeon Corporation andfor the twelve months ended December 31, 2002 for Galaxy Entertainment Inc.
The accompanying notes are an integral part of these combined financial statements.
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CINEPLEX ODEON CORPORATION AND GALAXY ENTERTAINMENT INC.
NOTES TO COMBINED FINANCIAL STATEMENTS
December 31, 2002(expressed in thousands of Canadian dollars)
1. THE COMPANY
Cineplex Odeon Corporation (‘‘COC’’) and Galaxy Entertainment Inc. (‘‘GEI’’) (collectively referred to as the ‘‘Company’’) combinedrepresent Canada’s second largest film exhibition organization with theatres in six provinces. The combined COC and GEI theatrecircuit serves both major metropolitan and mid-sized markets with principal geographic areas being Toronto, Montreal, Vancouver,Calgary, Edmonton, Ottawa and Quebec City. The Company operates theatres under the Cineplex Odeon and Galaxy names. As ofDecember 31, 2002, the Company owns, or has interests in, and operates 739 screens at 86 locations. Included in the screen and theatrecounts are 57 screens in seven theatres in which the Company holds a partnership interest. The Company accounts for its interest injoint ventures using the proportionate consolidation method.
COC is a wholly owned subsidiary of Loews Cineplex Theatres, Inc. (‘‘LCT’’). GEI is a subsidiary of Onex Corporation (‘‘Onex’’).
Creditor protection proceedings
On February 15, 2001, an order (the ‘‘Initial Order’’) to initiate a restructuring of obligations and operations under the Companies’Creditors Arrangement Act (‘‘CCAA’’) was obtained from the Ontario Superior Court of Justice (the ‘‘Superior Court’’) for COC andcertain of its other Canadian subsidiaries. The CCAA filing is hereinafter referred to as the ‘‘creditor protection proceedings’’.
As a result of the Initial Order of the Superior Court in Canada, substantially all actions to enforce or otherwise effect payment ofpre-filing obligations of COC and its subsidiaries were stayed. The rights of secured creditors to enforce against COC’s assetswere also stayed. In addition, the Initial Order permitted the repudiation and abondonment of unexpired leases of COC and itssubsidiaries. As a result COC repudiated and/or abandoned 53 leases comprising 349 screens.
On January 23, 2002, COC filed a Plan of Compromise and Arrangement (the ‘‘Plan’’) in Canada pursuant to the CCAA. OnFebruary 22, 2002, COC received approval for the Plan in a vote of creditors, and the Plan was implemented on March 21, 2002. As partof the Plan, LCT agreed to convert their unsecured claim distribution amount of $49,203 and $7,463 of their secured claim distributionto equity. The Plan resulted in a final net distribution amount of $76,924, related to total liabilities subject to compromise of $534,359,resulting in a gain on settlement of the liabilities of $457,435. COC borrowed US$20,000 under the Priority Secured Credit Agreement(note 7) to fund this obligation. In June 2002, the COC made interim distribution payments. As of December 31, 2002, $5,455 remainsdue under the Plan.
2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
Basis of presentation and combination
These combined financial statements have been prepared in accordance with Canadian generally accepted accounting principles.
These combined financial statements include the operations of COC for the nine months ended December 31, 2002 and GEI for theyear ended December 31, 2002. COC and GEI became entities under the common control of Onex upon COC’s emergence from thecreditor protection proceedings on March 21, 2002. As the period between March 21, 2002 and March 31, 2002 was not considered byCOC to be material for accounting purposes, these combined financial statements account for the emergence from creditor protectionas of March 31, 2002. At the same time, COC elected to change its year-end from the end of February to December 31 effective for theperiod beginning April 1, 2002. This change will allow the Company to report financial information on a basis consistent with the timeperiod in which its industry tracks and reports box office and related film performance.
The combined financial statements include the accounts of COC and its wholly owned subsidiaries and GEI and its wholly ownedsubsidiaries. Majority-owned companies are consolidated and investments in joint ventures are accounted for using proportionateconsolidation. Significant intercompany accounts and transactions have been eliminated.
As a result of the combination of both COC and GEI, certain accounting policies were harmonized to ensure consistency andcomparability. The primary difference in accounting policies related to the treatment of pre-opening costs. COC expenses pre-openingcosts as incurred, whereas GEI capitalized and amortized pre-opening costs over a period of one year. The impact of GEI conformingto the Company’s policy would be an increase in opening deficit of $113 and an increase in net income of $74. As these amounts are notconsidered material, no adjustments were made to these combined financial statements.
Cash and cash equivalents
The Company considers all operating funds held in financial institutions, cash held by the theatres and all highly liquid investments withoriginal maturities of three months or less when purchased to be cash and cash equivalents.
F-10
CINEPLEX ODEON CORPORATION AND GALAXY ENTERTAINMENT INC.
NOTES TO COMBINED FINANCIAL STATEMENTS (Continued)
December 31, 2002(expressed in thousands of Canadian dollars)
2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (Continued)
Revenues
Substantially all revenues are recognized, net of applicable taxes, when box office and concession sales are received at the theatres.Other revenues include the leasing of theatres for third party events and revenues from third party use of theatre lobby space (forplacement of game machines, ATMs and other displays), and are recognized when services are provided. Advances collected on advanceticket sales and screen advertising agreements are deferred and recognized in the period earned. Amounts collected on the sale of giftcertificates are deferred and recognized when redeemed by the patron.
Film rental costs
Film rental costs are recorded based upon the terms of the respective film licence agreements. In some cases, the final film cost isdependent upon the ultimate duration of the film play, and until this is known, management uses its best estimate of the ultimatesettlement of these film costs. Film costs and the related film costs payable are adjusted to the final film settlement in the period theCompany settles with the distributors. Actual settlement of these film costs could differ from those estimates.
Advertising
The cost of advertising and marketing programs is charged to operations in the period incurred. Total advertising and marketingexpenses for the year ended December 31, 2002 were $1,951.
Inventories
Inventories of concession products are stated at the lower of cost or net realizable value. Cost is determined by the first-in,first-out method.
Property, equipment and leaseholds
Property, equipment and leaseholds are stated at historical cost, less accumulated amortization. Construction-in-progress is amortizedfrom the date the asset is ready for productive use.
Amortization is provided on the straight-line basis over the following useful lives:
(a) For owned buildings constructed on leased property, the useful life does not exceed the terms of the land lease.
Property, equipment and leaseholds are evaluated for impairment in accordance with CICA 3063, Impairment of Long-Lived Assets.The Company assesses the recoverability of its long-lived assets by determining whether the carrying value of these assets over theremaining life can be recovered through undiscounted projected cash flows associated with these assets. Generally, this is determined ona theatre-by-theatre basis for theatre related assets. In making its assessment, the Company also considers the useful lives of its assets,the competitive landscape in which those assets are used, the introduction of new technologies within the industry and other factorsaffecting the sustainability of asset cash flows. While the Company believes its estimates of the future cash flows are reasonable,difference assumptions regarding such cash flows could materially affect the evaluation. In the event such cash flows are not expected tobe sufficient to recover the carrying amount of the assets, the assets are written down to their estimated fair values.
Goodwill
In September 2001, the CICA issued Handbook Section 1581, Business Combinations, and 3062, Goodwill and Other Intangible Assets.The new standards mandate the purchase method of accounting for business combination and require that goodwill no longer beamortized but instead be tested for impairment at least annually. The standards also specify criteria that intangible assets must meet inorder to be recognized and reported apart from goodwill. GEI, being the only organization with goodwill, has adopted these newpronouncements on January 1, 2002.
At the date of adoption, GEI was required to assess whether goodwill was impaired, by comparing the fair value of the business to itscarrying value. Where a deficiency exists, the impairment in goodwill would be recovered using a process similar to a purchase price
F-11
CINEPLEX ODEON CORPORATION AND GALAXY ENTERTAINMENT INC.
NOTES TO COMBINED FINANCIAL STATEMENTS (Continued)
December 31, 2002(expressed in thousands of Canadian dollars)
2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (Continued)
allocation. GEI completed the transitional goodwill impairment assessment and determined that no impairment existed at thedate of adoption.
Pre-opening costs
Expenses incurred for advertising/marketing and staff training related to the opening of new theatres are expensed as occurred andincluded in operating expenses. Pre-opening costs for the year ended December 31, 2002 was $229.
Deferred charges and other assets
Deferred charges and other assets consist principally of debt issuance costs and long-term assets. Debt issuance costs are amortized overthe term of the related debt.
Financial instruments
Cash and cash equivalents, accounts receivable, accounts payable and accrued expenses, amounts due to LCT and amounts due underthe Plan are reflected in the financial statements at carrying values, which approximate fair value, except liabilities subject tocompromise, as disclosed in note 1 to these combined financial statements. Long-term debt principally consists of obligations, whichcarry floating interest rates that approximate current market rates.
The Company is exposed to foreign currency risks primarily as a result of its borrowing denominated in U.S. dollars.
From time to time, the Company enters into interest rate swap agreements to limit its exposure to interest rate fluctuations. As thesecontracts are accounted for as hedges, unrealized gains and losses are recognized as income as they are settled.
Leases
Tenant inducements received are amortized into theatre operations and other expenses over the term of the related lease agreement.Lease payments are recorded in theatre operations and other expenses on a straight-line basis over the term of the related lease. Theunamortized portion of tenant inducements and the difference between the straight-line rent expense and the payments, as stipulatedunder the lease agreement, are included in Other Liabilities.
Income taxes
Income taxes are accounted for under the asset and liability method, whereby future tax assets and liabilities are recognized for thefuture tax consequences attributable to differences between the financial statement carrying amounts of existing liabilities and theirrespective tax base. Future tax assets and liabilities are measured using enacted or substantially enacted tax rates expected to apply totaxable income in the years in which those temporary differences are expected to be recovered or settled. The effect on future tax assetsand liabilities of a change in tax rates is recognized in income in the period that includes the enactment date. Future income tax assetsare recorded in the financial statements to the extent that realization of such benefits is more likely than not.
Foreign currency translation
The combined financial statements have been presented in Canadian dollars because it is the currency of the primary economicenvironment in which the Company conducts its operations.
Monetary assets and liabilities denominated in foreign currencies are translated into Canadian dollars at the rate of exchange in effectas of the balance sheet date. Non-monetary assets and liabilities and revenues and expenses are translated at the exchange rate in effectat the date of the transaction. Exchange gains and losses arising from translation are included in operations.
Use of estimates
The preparation of financial statements in conformity with Canadian generally accepted accounting principles requires management tomake estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets andliabilities at the date of the financial statements and the reported amounts of revenues and expenses during the reporting period. Themost significant assumptions made by management in the preparation of the financial statements relate to the assessment of theatrecash flows to identify potential asset impairments and the value of gift certificates that remains unutilized and in circulation for revenuerecognition purposes. Actual results could differ from those estimates.
F-12
CINEPLEX ODEON CORPORATION AND GALAXY ENTERTAINMENT INC.
NOTES TO COMBINED FINANCIAL STATEMENTS (Continued)
December 31, 2002(expressed in thousands of Canadian dollars)
The mortgage receivable, and accrued interest thereon, relate to a property sale which took place in 2001. The mortgage receivable, inthe principal amount of $2,500, had a maturity date of March 12, 2002 and bore interest at a rate of 8.0%. As at December 31, 2002,accrued and unpaid interest totalled $267. The principal amount and all accrued interest were paid in full in July 2003.
On July 21, 2000, GEI entered into a demand operating credit facility of up to $20,000. On April 11, 2002, the operating credit facilitywas increased to $25,000. The credit facility is used to finance working capital requirements and capital expenditures relating to theatredevelopment, acquisitions, construction and renovations. The credit facility bears interest at variable rates based on the prime lendingrate or banker’s acceptances and is secured by certain assets of GEI. The Company pays a standby fee on the unadvanced portion of thecredit facility at a rate of 0.25% per annum. At December 31, 2002, $5,500 was available under this facility.
GEI entered into interest rate swap agreements, whereby GEI receives floating rates of interest and pays fixed rates of interest. Theseswap agreements are summarized as follows:
On March 21, 2002, pursuant to the terms of the Plan, LCT entered into a US$140 million Priority Secured Credit Agreement (the‘‘Credit Agreement’’) with Bankers Trust Company, as administrative agent for the U.S. financial institution lenders, and DeutscheBank AG, Canada Branch, as administrative agent for the Canadian financial institution lenders. The Credit Agreement is comprised oftwo tranches: (i) a US$85,000 Exit Revolving Credit Facility (including US$10,000 available to COC); and (ii) a US$55,000 Exit TermLoan Facility (including US$20,000 available to COC). On March 21, 2002, COC borrowed US$20,000 under the Exit Term Loan forthe purposes of claim distribution payments. COC has not borrowed any amounts under the Exit Revolving Credit Facility.
These facilities are guaranteed and secured by, among other things, a pledge of the stock of LCT’s subsidiaries and liens on substantiallyall of LCT’s and COC’s assets. The maturity date of the Credit Agreement is March 31, 2007. Principal repayments are made quarterlyand commenced May 31, 2002. The Exit Term Loan bears interest at the base rate (as defined) plus 2.75% or the Adjusted EurodollarRate (as defined) plus 3.75% for U.S. dollar loans and at the Canadian Prime Rate (as defined) plus 2.75% or the BA Rate (as defined)plus 3.75% for Canadian dollar revolving loans. The average interest rate on borrowing under the Credit Agreement was 5.8% for theperiod ending December 31, 2002. The credit facilities include various financial covenants, which are required to be met on aconsolidated basis by LCT. As of December 31, 2002, LCT was in compliance with its debt covenants. In addition the agreementsgoverning the Company’s and LCT’s debt obligations contain certain restrictive covenants that limit its ability to take specific actions orrequire it to not allow specific events to occur.
The salary payable to the former president of GEI represents the balance of the amount due under an employment agreement. Theemployment agreement began in December of 1998 and specifies an annual salary of $200 for 4.375 years whether or not the formerpresident remained employed by GEI for the entire term of the agreement.
F-14
CINEPLEX ODEON CORPORATION AND GALAXY ENTERTAINMENT INC.
NOTES TO COMBINED FINANCIAL STATEMENTS (Continued)
December 31, 2002(expressed in thousands of Canadian dollars)
7. LONG-TERM DEBT (Continued)
Annual maturities of obligations under long-term debt for the next five years are set forth as follows:
The Company has entered into transactions with certain of its current or former shareholders and employees. A summary of significanttransactions with these parties is provided below.
LCT provides certain services to COC relating to the following activities: finance, administration and MIS support. The net amountcharged to the Company for these services amounted to $7,867 for the nine months ended December 31, 2002. All payables andreceivables with LCT are due on demand and are non-interest bearing.
In April 2003, COC advanced US$20,000 to its parent company, LCT. This advance is also non-interest bearing and due on demand.
As a result of the change in control of COC that occurred when LTM Holdings, Inc. was combined with COC in May 1998, Allen Karp,then president and chief executive officer of COC, was entitled, under his employment arrangements, to a US$2,800 bonus. Pursuant toan August 1999 employment agreement with Mr. Karp, the Company agreed to increase the US$2,800 bonus amount to US$3,800 anddefer its payment until December 2002 (or, if his employment was terminated earlier, a pro-rated amount between the US$2,800, whichwas not previously paid, and US$3,800). On February 28, 2002, the Company compromised Mr. Karp’s US$3,800 bonus and, therefore,it was included with the liabilities subject to compromise. Subsequently, the Company amended Mr. Karp’s employment agreement,pursuant to which he now serves as non-executive chairman of COC, and agreed to pay Mr. Karp a $5,150 bonus in January 2003.Separately, on April 10, 2002, arising from arrangements the Company made in connection with the reorganization, the Companyagreed that Mr. Karp could exchange a portion of the bonus payable to him in January 2003 for shares of Loews CineplexEntertainment Corporation (‘‘LCE’’) Class A common shares, valued at US$3,350 per share. On July 31, 2002, Mr. Karp notified theCompany of his intent to exchange $306 (US$200) of his bonus for LCE Class A common shares, and on November 21, 2002, LCEissued 59.7 shares of Class A common shares to Mr. Karp.
On January 10, 2003, the Company paid Mr. Karp the bonus described above in full.
During the year ended December 31, 2002, GEI incurred expenses for film rental totaling $2,500 to Alliance AtlantisCommunications Inc. (‘‘Alliance’’), a shareholder. At December 31, 2002, GEI owed Alliance $448 for film rental and a finance fee of$100 due to Onex. These amounts are included in accounts payable and accrued expenses.
See also note 19, Subsequent event, for other transactions with related parties.
Transactions noted above are in the normal course of business and are measured at the exchange amount, which is the amount ofconsideration established and agreed to by the related parties.
9. EMPLOYEE AND POST-RETIREMENT BENEFIT PLANS
Employee health and welfare and other post-retirement benefits
COC does not provide health and welfare benefits and post-retirement benefits to eligible executives and employees.
Pension plans
COC has a pension plan covering substantially all full-time employees. Prior to January 1, 1993, this plan was a defined benefit plan and,effective on that date, it was converted to a defined contribution plan. At the date of conversion, benefits under the defined benefit planwere frozen. The defined contribution plan is being funded by the surplus of the defined benefit plan.
F-15
CINEPLEX ODEON CORPORATION AND GALAXY ENTERTAINMENT INC.
NOTES TO COMBINED FINANCIAL STATEMENTS (Continued)
December 31, 2002(expressed in thousands of Canadian dollars)
9. EMPLOYEE AND POST-RETIREMENT BENEFIT PLANS (Continued)
The actuarial estimate for the plan covering employees indicates an accrued pension liability of approximately $340 as of December 31,2002. The cost and accrued benefit obligations associated with the pension plan were calculated utilizing a discount rate of 6.5% and along-term rate of return of 7% for the year ended December 31, 2002. As at December 31, 2002, the market value of plan assets was$2,539 and the projected benefit obligation was $2,170 resulting in a surplus of $369. An unamortized transitional obligation is beingamortized over the expected average remaining service life of employees, which is 15 years. The net unamortized transitional obligationas at December 31, 2002 is $1,655. In addition, there is a net unamortized gain as at December 31, 2002 of $946.
Authorized — COCUnlimited number of common sharesUnlimited number of first preference shares
Authorized — GEIUnlimited number of Class A common sharesUnlimited number of Class B common sharesUnlimited number of Class C common sharesUnlimited number of Class D common shares
During the year ended December 31, 2002, GEI repurchased and cancelled 442,007 common shares for an aggregate cost of $4,174, andthe excess of cash paid over the stated value, $1,146, was charged to deficit.
The combined contributed surplus originated with COC.
12. GAIN ON DISPOSAL OF THEATRE ASSETS
The gain on disposal of theatre assets for the year ended December 31, 2002 of $304 includes gains on theatres, which have beendisposed of or sold.
F-16
CINEPLEX ODEON CORPORATION AND GALAXY ENTERTAINMENT INC.
NOTES TO COMBINED FINANCIAL STATEMENTS (Continued)
December 31, 2002(expressed in thousands of Canadian dollars)
13. INCOME TAXES
The tax effects of temporary differences that give rise to significant portions of the future tax assets and liabilities at December 31, 2002are presented below:
As at December 31, 2002, the Company has non-capital losses of approximately $458,800 available to apply to future years’ taxableincome. The losses expire as follows:
COC is currently in discussions with tax authorities in respect to prior years’ issues that could potentially reduce non-capital loss carry-forwards by as much as $186,000.
The provision for income taxes included in the combined statement of operations differs from the statutory income tax rate as follows:
The Company conducts a significant part of its operations in leased premises. Leases generally provide for minimum rentals pluspercentage rentals based upon sales volume and may include escalation clauses and certain other restrictions, and may require thetenant to pay a portion of real estate taxes and other property operating expenses. Lease terms generally range from 20 to 40 years andcontain various renewal options, generally in intervals of five to ten years.
Future minimum rental commitments at December 31, 2002 under the above-mentioned operating leases are set forth as follows:
The future minimum rental commitments at December 31, 2002, for the next five years and thereafter, as set forth in the table above,exclude rental commitments for those leases that were repudiated and abandoned as a result of the CCAA filings.
Minimum rent expense related to operating leases on a straight-line basis was $25,040. In addition to the minimum rent expense notedabove, the Company incurred percentage rent charges of $2,488.
16. JOINT VENTURES
The Company participates in incorporated joint ventures with other parties and accounts for its interests using the proportionateconsolidation method.
The following amounts represent the proportionate share of the assets, liabilities, revenues and expenses therein:
CINEPLEX ODEON CORPORATION AND GALAXY ENTERTAINMENT INC.
NOTES TO COMBINED FINANCIAL STATEMENTS (Continued)
December 31, 2002(expressed in thousands of Canadian dollars)
17. COMMITMENTS AND CONTINGENCIES
Commitments
As of December 31, 2002, the Company has aggregate capital commitments of $24,571 primarily related to the completion ofconstruction of four theatre properties (comprising 37 screens). The Company expects to complete construction and to open thesetheatres during 2003 and 2004.
Other
The Company is a defendant in various lawsuits arising in the ordinary course of business and is involved in certain environmentalmatters. From time to time, the Company is involved in disputes with landlords, contractors and other third parties. It is the opinion ofmanagement that any liability to the Company, which may arise as a result of these matters, will not have a material adverse effect onthe Company’s operating results, financial position or cash flows.
18. SEGMENT INFORMATION
The Company has determined that the theatre exhibition industry qualifies as a single business segment with all of its revenue and assetsgenerated and held within Canada.
19. SUBSEQUENT EVENT
Prior to the completion of the offering of units of the Cineplex Galaxy Income Fund (‘‘the Fund’’), each of COC and Cineplex Odeon(Quebec) Inc. transferred substantially all theatre assets and liabilities to Cineplex Galaxy Limited Partnership (‘‘Cineplex Galaxy LP’’)in exchange for non-interest bearing promissory notes in the aggregate amount of $ 1 , promissory notes bearing interest at the rateof 1 % in the aggregate principal amount of $ 1 (the ‘‘Over-Allotment Notes’’), the assumption of liabilities of $ 1 ofCineplex Odeon (Quebec) Inc. and COC by Cineplex Galaxy LP and the issuance 1 Class B units of Cineplex Galaxy LP.
The proceeds on the indirect issuance of Cineplex Galaxy LP units to the Fund, together with proceeds loaned indirectly to a subsidiaryof the Partnership, and the receipt of $ 1 under a credit facility were used to (i) repay a portion of the promissory notes due to COCand Cineplex Odeon (Quebec) Inc., with the balance to be paid through the issuance of 1 additional Cineplex Galaxy LP Class Bunits or proceeds received pursuant to the exercise of the over-allotment option granted to the underwriters of the Fund’s initial publicoffering; (ii) acquire the shares of Galaxy Entertainment Inc.; (iii) pay the expenses of the offering; and (iv) repay the bankindebtedness of Galaxy Entertainment Inc. outstanding in the amount of $ 1 . An escrow account was created in the amount of$21.9 million in accordance with the Support Agreement entered into between Cineplex Galaxy LP, Galaxy Entertainment Inc., COC,Cineplex Odeon (Quebec) Inc. and the Galaxy shareholders.
In conjunction with these transactions, COC, Galaxy Entertainment Inc., Cineplex Galaxy LP and its general partner, among others,entered into a Services Agreement requiring annual payments of $ 1 for the next ten years and a lease for certain facilities requiringannual payments of $ 1 for the next 1 years.
Certain representations and warranties have been provided by Cineplex Galaxy LP, Galaxy Entertainment Inc., COC and LoewsCineplex Entertainment Corporation, and indemnifications have been provided by Cineplex Galaxy LP, COC and Loews CineplexEntertainment Corporation as it relates to this offering.
F-19
AUDITORS’ REPORT
To the Board of Directors of Cineplex Odeon Corporation
We have audited the consolidated balance sheets of Cineplex Odeon Corporation as at March 31, 2002 andFebruary 28, 2002 and the consolidated statements of operations, shareholder’s equity and cash flows for theone-month period ended March 31, 2002 and the years ended February 28, 2002 and 2001. These financialstatements are the responsibility of the Company’s management. Our responsibility is to express an opinion onthese financial statements based on our audits.
We conducted our audits in accordance with Canadian generally accepted auditing standards. Thosestandards require that we plan and perform an audit to obtain reasonable assurance whether the financialstatements are free of material misstatement. An audit includes examining, on a test basis, evidence supportingthe amounts and disclosures in the financial statements. An audit also includes assessing the accountingprinciples used and significant estimates made by management, as well as evaluating the overall financialstatement presentation.
In our opinion, these consolidated financial statements present fairly, in all material respects, the financialposition of the Company as at March 31, 2002 and February 28, 2002 and the results of its operations and itscash flows for the one-month period ended March 31, 2002 and the years ended February 28, 2002 and 2001 inaccordance with Canadian generally accepted accounting principles.
Toronto, OntarioSeptember 19, 2003 (except as to note 21, (Signed) 1which is as of 1 ) Chartered Accountants
The accompanying notes are an integral part of these consolidated financial statements.
F-24
CINEPLEX ODEON CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
March 31, 2002 and February 28, 2002(expressed in thousands of Canadian dollars)
1. THE COMPANY
Cineplex Odeon Corporation (‘‘COC’’ or the ‘‘Company’’), a wholly owned subsidiary of Loews Cineplex Entertainment Corporation,now known as Loews Cineplex Theatres, Inc. (‘‘LCT’’) is a motion picture theatre exhibition company with operations in Canada. As ofMarch 31, 2002, COC owns, or has interests in, and operates 644 screens at 76 theatres in six Canadian provinces.
Bankruptcy proceedings
On February 15, 2001, an order (the ‘‘Initial Order’’) to initiate a restructuring of obligations and operations under the Companies’Creditors Arrangement Act (‘‘CCAA’’) was obtained from the Ontario Superior Court of Justice (the ‘‘Superior Court’’) for COC andcertain of its other Canadian subsidiaries. The CCAA filing is hereinafter referred to as the ‘‘creditor protection proceedings’’. Amongthe factors that caused COC to file for creditor protection was the fact that COC had undertaken significant new theatre constructionand rescreening of older theatres from 1997 through 2000. This expansion resulted in intensified competition for patronage andrendered many older theatres obsolete. The new screens, combined with the difficulty of closing older theatres as a result of their long-term, non-cancelable leases, created an oversupply of screens in many of COC’s markets.
As a result of the Initial Order of the Superior Court in Canada, substantially all actions to enforce or otherwise effect payment ofpre-filing obligations of COC and its subsidiaries were stayed. The rights of secured creditors to enforce against the Company’s assetswere also stayed.
In addition, the Initial Order permitted the repudiation and abandonment of unexpired leases of COC and its subsidiaries throughFebruary 28, 2002. Between February 15, 2001 and February 28, 2002, COC repudiated and/or abandoned 53 leases, comprising349 screens. Landlords whose leases were repudiated and abandoned were entitled to file a claim in the CCAA proceedings in respectof such repudiation. The most significant creditor impacted by the filing was COC’s parent, with total non-interest bearingintercompany debt of $374,596 (US$233,830) that was unsecured and, therefore, subject to compromise. These claims are reflected inthe consolidated balance sheets as liabilities subject to compromise as follows:
In conjunction with the creditor protection proceedings, the Company incurred reorganization costs related to: (1) landlord claims dueto repudiated leases; (2) a writedown in the amount due from a company under common control as a result of its filing for bankruptcyprotection under Chapter 11 of the Bankruptcy Code in the United States (‘‘Chapter 11’’) filing; and (3) professional and advisory feesincurred directly related to the CCAA proceedings. Upon LCT’s emergence from Chapter 11, LCT was acquired jointly byOnex Corporation (‘‘Onex’’) and OCM Cinema Holdings, LLC. As a result of this change in ownership, any remaining liabilities underthe Investment Canada Act were terminated. Accordingly, the Company has recognized a gain of $2,775 in reorganization costs.Reorganization costs consist of the following:
For the yearOne-month endedperiod ended February 28,March 31,2002 2002 2001
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)
March 31, 2002 and February 28, 2002(expressed in thousands of Canadian dollars)
1. THE COMPANY (Continued)
For theatres that were repudiated and abandoned, the unamortized tenant inducements and the unamortized liability pertaining to thedifference between the straight-line rent expense and the payments as stipulated under the lease agreements were brought into incomeand included in gain on disposal of theatre assets as follows:
For the yearOne-month endedperiod ended February 28,March 31,2002 2002 2001
Included in the gain on disposal of theatre assets is $nil, $(3,605) and $3,762 of losses (gains) pertaining to repudiated and abandonedtheatres for the one-month period ended March 31, 2002 and for the years ended February 28, 2002 and 2001, respectively.
On January 23, 2002, COC filed a Plan of Compromise and Arrangement (the ‘‘Plan’’) pursuant to the CCAA. On February 22, 2002,COC received approval for the Plan in a vote of creditors. A hearing to sanction the Plan was held on March 4, 2002 in the SuperiorCourt, and the Plan was sanctioned and implemented on March 21, 2002. Immediately upon emergence from CCAA and, concurrently,LCT’s emergence from Chapter XI proceedings, LCT was acquired jointly by Onex and OCM Cinema Holdings, LLC.
The Plan identified a distribution pool of up to a maximum of $78,500 to settle the liabilities subject to compromise. The settlement andresultant gain on settlement of liabilities subject to compromise are calculated as follows:
Gain on settlement of liabilities subject to compromise . . . . . . . . . . . . . . . . . . . . . . . . . . . . 457,435
As part of the Plan, LCT agreed to convert its unsecured claim distribution amount of $49,203 to equity. The Company has recorded$30,101 in current liabilities as an amount due under the Plan of Compromise at March 31, 2002. In addition to the $49,203 unsecuredinterim distribution, LCT also converted a secured claim in the amount of $7,463 to equity (note 11). In June 2002, the Company madeinterim distribution payments of $24,646. The Company borrowed US$20,000 under the Priority Secured Credit Agreement (note 7) tofund this obligation.
2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
Basis of presentation and consolidation
These consolidated financial statements have been prepared in accordance with Canadian generally accepted accounting principles.
The consolidated financial statements include the accounts of COC and its wholly owned subsidiaries. Majority-owned companies areconsolidated and investments in joint ventures are accounted for using proportionate consolidation. Significant intercompany accountsand transactions have been eliminated.
Change in fiscal year-end
The Company elected to change its year-end from the end of February to December 31, effective for the period beginning April 1, 2002.This change will allow the Company to report financial information on a basis consistent with the time period in which its industry tracksand reports box office and related film performance.
F-26
CINEPLEX ODEON CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)
March 31, 2002 and February 28, 2002(expressed in thousands of Canadian dollars)
2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (Continued)
Cash and cash equivalents
The Company considers all operating funds held in financial institutions, cash held by the theatres and all highly liquid investments withoriginal maturities of three months or less when purchased to be cash and cash equivalents.
Revenues
Substantially all revenues are recognized, net of applicable taxes, when box office and concession sales are received at the theatres.Other revenues include the leasing of theatres for third party events and revenues from third party use of theatre lobby space(for placement of game machines, ATMs and other displays) and are recognized when services are provided. Advances collected onadvance ticket sales and screen advertising agreements are deferred and recognized in the period earned. Amounts collected on the saleof gift certificates are deferred and recognized when redeemed by the patron.
Film rental costs
Film rental costs are recorded based upon the terms of the respective film licence agreements. In some cases, the final film cost isdependent upon the ultimate duration of the film play, and until this is known, management uses its best estimate of the ultimatesettlement of these film costs. Film costs and the related film costs payable are adjusted to the final film settlement in the period COCsettles with the distributors. Actual settlement of these film costs could differ from those estimates.
Advertising
The cost of advertising and marketing programs is charged to operations in the period incurred. Total advertising and marketingexpenses were $111, $3,014 and $5,431 for the one-month period ended March 31, 2002 and the years ended February 28, 2002 and2001, respectively.
Inventories
Inventories of concession products are stated at the lower of cost or net realizable value. Cost is determined by the first-in, first-outmethod.
Property, equipment and leaseholds
Property, equipment and leaseholds are stated at historical cost, less accumulated amortization, as well as writedowns.Construction-in-progress is amortized from the date the asset is ready for productive use.
Amortization is provided on the straight-line basis over the following useful lives:
in excess of useful lives(a) For owned buildings constructed on leased property, the useful life does not exceed the terms of the land lease.
Property, equipment and leaseholds are evaluated for impairment in accordance with CICA 3063, Impairment of Long-Lived Assets.COC assesses the recoverability of its long-lived assets by determining whether the carrying value of these assets over the remaining lifecan be recovered through undiscounted projected cash flows associated with these assets. Generally, this is determined on a theatre-by-theatre basis for theatre related assets. In making its assessment, COC also considers the useful lives of its assets, the competitivelandscape in which those assets are used, the introduction of new technologies within the industry and other factors affecting thesustainability of asset cash flows. While the Company believes its estimates of the future cash flows are reasonable, differentassumptions regarding such cash flows could materially affect the evaluation. In the event such cash flows are not expected to besufficient to recover the carrying amount of the assets, the assets are written down to their estimated fair values.
F-27
CINEPLEX ODEON CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)
March 31, 2002 and February 28, 2002(expressed in thousands of Canadian dollars)
2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (Continued)
Pre-opening costs
Expenses incurred for advertising/marketing and staff training related to the opening of new theatres are expensed as incurred andincluded in operating expenses. Pre-opening costs for the one-month period ended March 31, 2002 and the years ended February 28,2002 and 2001 were $nil, $1,227, and $1,869, respectively.
Deferred charges and other assets
Deferred charges and other assets consist principally of debt issuance costs and long-term assets. Debt issuance costs are amortized overthe term of the related debt.
Financial Instruments
Cash and cash equivalents, accounts receivable, accounts payable and accrued expenses, amounts due to parent company, and amountsdue under the Plan are reflected in the financial statements at carrying values, which approximate fair value, except liabilities subject tocompromise as disclosed in note 1 to these consolidated financial statements. Long-term debt principally consists of obligations, whichcarry floating interest rates that approximate current market rates.
The Company is exposed to foreign currency risk primarily as a result of its borrowings denominated in U.S. dollars.
Leases
Tenant inducements received are amortized into theatre operations and other expenses over the term of the related lease agreement.Lease payments are recorded in theatre operations and other expenses on a straight-line basis over the term of the related lease. Theunamortized portion of tenant inducements and the difference between the straight-line rent expense and the payments, as stipulatedunder the lease agreement, are included in Other Liabilities.
Income taxes
Income taxes are accounted for under the asset and liability method, whereby future tax assets and liabilities are recognized for thefuture tax consequences attributable to differences between the financial statement carrying amounts of existing liabilities and theirrespective tax base. Future tax assets and liabilities are measured using enacted or substantially enacted tax rates expected to apply totaxable income in the years in which those temporary differences are expected to be recovered or settled. The effect on future tax assetsand liabilities of a change in tax rates is recognized in income in the period that includes the enactment date. Future income tax assetsare recorded in the financial statements to the extent that realization of such benefits is more likely than not.
Foreign currency translation
The consolidated financial statements have been presented in Canadian dollars because it is the currency of the primary economicenvironment in which the Company conducts its operations.
Monetary assets and liabilities denominated in foreign currencies are translated into Canadian dollars at the rate of exchange in effectas of the balance sheets date. Non-monetary assets and liabilities and revenues and expenses are translated at the exchange rate in effectat the date of the transaction. Exchange gains and losses arising from translation are included in operations.
Use of estimates
The preparation of financial statements in conformity with Canadian generally accepted accounting principles requires management tomake estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets andliabilities at the date of the financial statements and the reported amounts of revenues and expenses during the reporting period. Themost significant assumptions made by management in the preparation of the financial statements relate to the assessment of theatrecash flows to identify potential asset impairments and the values of gift certificates that remain unutilized and in circulation for revenuerecognition purposes. Actual results could differ from those estimates.
F-28
CINEPLEX ODEON CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)
March 31, 2002 and February 28, 2002(expressed in thousands of Canadian dollars)
During the years ended February 28, 2002 and February 28, 2001, the Company wrote down property, equipment and leaseholds toestimated fair value as a result of impairments identified.
5. LONG-TERM RECEIVABLE
The long-term receivable relates to a mortgage receivable, and accrued interest thereon, on a property sale, which took place in fiscal2001. The mortgage receivable, in the principal amount of $2,500, had a maturity date of March 12, 2002 and bore interest at a rate of8.0%. The principal amount and all accrued interest were paid in full in July 2003. Accrued and unpaid interest totalled $200 and $183at March 31, 2002 and February 28, 2002, respectively.
F-29
CINEPLEX ODEON CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)
March 31, 2002 and February 28, 2002(expressed in thousands of Canadian dollars)
6. ACCOUNTS PAYABLE AND ACCRUED EXPENSES
Accounts payable and accrued expenses consist of:March 31, February 28,
On February 15, 2001, in connection with the CCAA filing, the Company obtained debtor-in-possession financing, or a DIP facility. Thisfacility provided total financing of approximately US$20,000 available to the Company to fund the operating requirements and certaincapital projects. As of February 28, 2002, the Company had nothing drawn against the DIP facility. The DIP facility expired upon theCompany’s emergence from bankruptcy on March 21, 2002.
On March 21, 2002, pursuant to the terms of the Plan, LCT entered into a US$140,000 Priority Secured Credit Agreement (the ‘‘CreditAgreement’’) with Bankers Trust Company, as administrative agent for the U.S. financial institution lenders, and Deutsche Bank AG,Canada Branch, as administrative agent for the Canadian financial institution lenders. The Credit Agreement is comprised oftwo tranches: (i) a US$85,000 Exit Revolving Credit Facility (including US$10,000 available to COC); and (ii) a US$55,000 Exit TermLoan (including US$20,000 available to COC). On March 21, 2002, the Company borrowed US$20,000 under the Term Loan Facility forthe purposes of claim distribution payments. The Company has not borrowed any amounts under the Revolving Credit Facility.
These facilities are guaranteed and secured by, among other things, a pledge of the stock of LCT’s subsidiaries and liens on substantiallyall of LCT’s and the Company’s assets. The maturity date of the Credit Agreement is March 31, 2007. Principal repayments are madequarterly and commenced May 31, 2002. The Exit Term Loan bears interest at the base rate (as defined) plus 2.75% or the AdjustedEurodollar Rate (as defined) plus 3.75% for U.S. dollar loans and at the Canadian Prime Rate (as defined) plus 2.75% or the BA Rate(as defined) plus 3.75% for Canadian dollar revolving loans. The average interest rate on borrowings under the Credit Agreement was7.4%, 9.1% and 10.7% for the one-month period ended March 31, 2002 and for the years ended February 28, 2002 and 2001,respectively. The credit facilities include various financial covenants, which are required to be met on a consolidated basis by LCT. As ofDecember 31, 2002, LCT was in compliance with its debt covenants. In addition, the agreements governing the Company’s and LCT’sdebt obligations contain certain restrictive covenants that limit their ability to take specific actions or require them to not allow specificevents to occur.
The mortgage payable amount had an original maturity date of February 2002. The Company had renegotiated the terms of themortgage, including the extension of the maturity date to February 2007. The mortgage bears interest at a rate of 7.38%.
F-30
CINEPLEX ODEON CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)
March 31, 2002 and February 28, 2002(expressed in thousands of Canadian dollars)
7. LONG-TERM DEBT (Continued)
Annual maturities of obligations under long-term debt for the next five years and thereafter are set forth as follows:
The Company has entered into transactions with certain of its current or former shareholders and employees. A summary of significanttransactions with these parties is provided below.
LCT provides certain services to the Company relating to the following activities: finance, administration and MIS support. The netamount charged to the Company for these services amounted to $874, $10,509 and $11,602 for the one-month period ended March 31,2002 and the years ended February 28, 2002 and 2001, respectively. All trade intercompany payables and receivables and due to parentcompany are due on demand and are non-interest bearing.
As a result of the change in control of COC that occurred when LTM Holdings, Inc. was combined with COC in May 1998, Allen Karp,then president and chief executive officer of COC, was entitled, under his employment arrangements, to a US$2,800 bonus. Pursuant toan August 1999 employment agreement with Mr. Karp, the Company agreed to increase the US$2,800 bonus amount to US$3,800 anddefer its payment until December 2002 (or, if his employment was terminated earlier, a pro-rated amount between the US$2,800, whichwas not previously paid, and US$3,800). On February 28, 2002, the Company compromised Mr. Karp’s US$3,800 bonus and, therefore,it was included with the liabilities subject to compromise. Subsequently, the Company amended Mr. Karp’s employment agreement,pursuant to which he now serves as non-executive chairman of COC, and agreed to pay Mr. Karp a $5,150 bonus in January 2003.Separately, on April 10, 2002, arising from arrangements the Company made in connection with the reorganization, the Companyagreed that Mr. Karp could exchange a portion of the bonus payable to him in January 2003 for shares of Loews CineplexEntertainment Corporation (‘‘LCE’’) Class A common shares, valued at US$3,350 per share. On July 31, 2002, Mr. Karp notified theCompany of his intent to exchange $306 (US$200) of his bonus for LCE Class A common shares, and on November 21, 2002, LCEissued 59.7 shares of Class A common shares to Mr. Karp.
On January 10, 2003, the Company paid Mr. Karp the bonus described above in full.
Pursuant to an August 1999 employment agreement, the Company loaned Mr. Karp $638 on September 7, 1999, at an annual interest of87⁄8% per year. On March 6, 2002, in connection with the renegotiation of Mr. Karp’s employment arrangements, the Company forgavethis loan and accrued interest and recorded an expense in the amount of $779.
In the ordinary course of business, the Company entered into certain transactions with former shareholders of LCT, which are reflectedin the financial statements as follows:
For the yearOne-month endedperiod ended February 28,March 31,2002 2002 2001
$ $ $
Film rental expense relating to the exhibition of films produced or distributed bySony Pictures Entertainment Inc. (‘‘SPE’’) . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 329 10,223 12,942
Film rental expense relating to the exhibition of films produced or distributed byUniversal Studios Inc. (‘‘Universal’’) . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . — 3,617 16,012
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)
March 31, 2002 and February 28, 2002(expressed in thousands of Canadian dollars)
8. RELATED PARTY TRANSACTIONS (Continued)
Universal ceased to be a shareholder and related party of LCT on June 28, 2001, and SPE ceased to be a shareholder of LCT onMarch 21, 2002.
See also note 21 — Subsequent event — for other transactions with related parties.
The above-noted transactions are in the normal course of business and are measured at the exchange amount, which is the amount ofconsideration established and agreed to by the related parties. All amounts owing at the balance sheet dates have been included in filmand advertising payables.
9. EMPLOYEE AND POST-RETIREMENT BENEFIT PLANS
Employee health and welfare and other post-retirement benefits
The Company does not provide health and welfare benefits and post-retirement benefits to eligible executives and employees.
Pension plans
The Company has a pension plan covering substantially all full-time employees. Prior to January 1, 1993, this plan was a defined benefitplan and, effective on that date, it was converted to a defined contribution plan. At the date of conversion, benefits under the definedbenefit plan were frozen. The defined contribution plan is being funded by the surplus of the defined benefit plan.
The actuarial estimate for the plan covering employees indicates an accrued pension liability of approximately $245 and $234 as ofMarch 31, 2002 and February 28, 2002, respectively. The cost and accrued benefit obligations associated with the pension plan werecalculated utilizing a discount rate of 6.5% and a long-term rate of return of 7% for the one-month period ended March 31, 2002 andthe year ended February 28, 2002, respectively. As at February 28, 2002, the market value of plan assets was $3,107 and the projectedbenefit obligation was $2,176 resulting in a surplus of $931. An unamortized transitional obligation is being amortized over the expectedaverage remaining service life of employees, which is 15 years. The net unamortized transitional obligation as at February 28, 2002 is$1,769. In addition, there is a net unamortized gain as at February 28, 2002 of $604.
The gain on disposal of theatre assets includes gains on theatres, which have been disposed of, repudiated and abandoned, or sold. Italso includes the unamortized tenant inducements and the unamortized difference between the straight-line rent expense and thepayments, as stipulated under the lease agreements, that were recorded as income when certain theatres were repudiated.
14. GAIN ON INVESTMENT DISPOSAL
During 2001, the Company sold 324,838 shares of Alliance Atlantis Communications Inc. with a cost basis of $218 for total proceeds of$7,888. The resultant gain of $7,670 is included in the consolidated statement of operations for the fiscal year ended February 28, 2001as a component of gain on investment disposal.
In addition, during 2001, the Company sold its 33% interest in a joint venture in the Province of Quebec for net proceeds of $1,765 andrecognized a gain of $760, which is also included as a component of gain on investment disposal.
15. INCOME TAXES
The tax effects of temporary differences that give rise to significant portions of the future tax assets at March 31, 2002 and February 28,2002 are presented below:
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)
March 31, 2002 and February 28, 2002(expressed in thousands of Canadian dollars)
15. INCOME TAXES (Continued)
As at March 31, 2002, the Company has non-capital losses of approximately $468,000 available to apply to future years’ taxable income.The losses expire as follows:
The Company is currently in discussions with tax authorities in respect to prior years’ issues that could potentially reduce non-capitalloss carry-forwards by as much as $186,000.
The provision for income taxes included in the consolidated statements of operations differs from the statutory income tax rate asfollows:
For the yearendedOne-month February 28,period ended
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)
March 31, 2002 and February 28, 2002(expressed in thousands of Canadian dollars)
17. LEASES
The Company conducts a significant part of its operations in leased premises. Leases generally provide for minimum rentals pluspercentage rentals based upon sales volume and may include escalation clauses, and certain other restrictions, and may require thetenant to pay a portion of real estate taxes and other property operating expenses. Lease terms generally range from 20 to 40 years andcontain various renewal options, generally in intervals of five to ten years.
Future minimum rental commitments at March 31, 2002, under the above-mentioned operating leases are set forth as follows:
The future minimum rental commitments at March 31, 2002, for the next five years and thereafter, as set forth in the table above,exclude rental commitments for those leases that were repudiated and abandoned as a result of the CCAA filings.
Minimum rental expense related to operating leases on a straight-line basis was $2,272, $33,577 and $47,055 for the one-month periodended March 31, 2002 and the years ended February 28, 2002 and 2001, respectively. In addition to the minimum rental expense notedabove, the Company incurs percentage rental charges. Percentage rental expense was $264, $1,141 and $152 for the one-month periodended March 31, 2002 and the years ended February 28, 2002 and 2001, respectively.
18. JOINT VENTURES
The Company participates in incorporated joint ventures with other parties and accounts for its interests using the proportionateconsolidation method.
The following amounts represent the proportionate share of the assets, liabilities, revenues and expenses therein:
The Company had ceased construction on one theatre property (comprising 14 screens) in Edmonton, Alberta while under CCAAprotection and terminated any related commitments. At March 31, 2002, the Company had no commitments in respect of this property.Subsequently, in January 2003, the Company entered into a new agreement to complete the construction of this theatre at an estimatedcost of $12,500.
F-35
CINEPLEX ODEON CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)
March 31, 2002 and February 28, 2002(expressed in thousands of Canadian dollars)
19. COMMITMENTS AND CONTINGENCIES (Continued)
Other
The Company is a defendant in various lawsuits arising in the ordinary course of business and is involved in certain environmentalmatters. From time to time, the Company is involved in disputes with landlords, contractors and other third parties. It is the opinion ofmanagement that any liability to the Company, which may arise as a result of these matters, will not have a material adverse effect onthe Company’s operating results, financial position or cash flows.
20. SEGMENT INFORMATION
The Company has determined that the theatre exhibition industry qualifies as a single business segment with all of its revenue and assetsgenerated and held within Canada.
21. SUBSEQUENT EVENT
Prior to the completion of the offering of units of the Cineplex Galaxy Income Fund (‘‘the Fund’’), each of COC and Cineplex Odeon(Quebec) Inc. transferred substantially all theatre assets and liabilities to Cineplex Galaxy Limited Partnership (‘‘Cineplex Galaxy LP’’)in exchange for non-interest bearing promissory notes in the aggregate amount of $ 1 , promissory notes bearing interest at therate of 1 % in the aggregate principal amount of $ 1 (the ‘‘Over-Allotment Notes’’), the assumption of liabilities of $ 1
of Cineplex Odeon (Quebec) Inc. and COC by Cineplex Galaxy LP and the issuance of 1 Class B units of Cineplex Galaxy LP.
The proceeds on the indirect issuance of Cineplex Galaxy LP units to the Fund, together with proceeds loaned indirectly to a subsidiaryof the Partnership, and the receipt of $ 1 under a credit facility were used to (i) repay a portion of the promissory notes due toCOC and Cineplex Odeon (Quebec) Inc., with the balance to be paid through the issuance of 1 additional Cineplex Galaxy LPClass B units or proceeds received pursuant to the exercise of the over-allotment option granted to the underwriters of the Fund’s initialpublic offering; (ii) acquire the shares of Galaxy Entertainment Inc.; and (iii) pay the expenses of the offering. An escrow account wascreated in the amount of $21.9 million in accordance with the Support Agreement entered into between Cineplex Galaxy LP, GalaxyEntertainment Inc., COC, Cineplex Odeon (Quebec) Inc. and the Galaxy shareholders.
In conjunction with these transactions, COC, Galaxy Entertainment Inc., Cineplex Galaxy LP and its general partner entered into aServices Agreement requiring annual payments of $ 1 for the next ten years and a lease for certain facilities requiring annualpayments of $ 1 for the next 1 years.
Certain representations and warranties have been provided by Cineplex Galaxy LP, Galaxy Entertainment Inc., COC and LoewsCineplex Entertainment Corporation, and indemnifications have been provided by Cineplex Galaxy LP, COC and Loews CineplexEntertainment Corporation as it relates to this offering.
F-36
AUDITORS’ REPORT TO THE DIRECTORS
We have audited the consolidated balance sheets of Galaxy Entertainment Inc. as at December 31, 2001and 2000 and the consolidated statements of operations, changes in shareholders’ equity and cash flows for theyears then ended. These financial statements are the responsibility of the Company’s management. Ourresponsibility is to express an opinion on these financial statements based on our audits.
We conducted our audits in accordance with Canadian generally accepted auditing standards. Thosestandards require that we plan and perform an audit to obtain reasonable assurance whether the financialstatements are free of material misstatement. An audit includes examining, on a test basis, evidence supportingthe amounts and disclosures in the financial statements. An audit also includes assessing the accountingprinciples used and significant estimates made by management, as well as evaluating the overall financialstatement presentation.
In our opinion, these consolidated financial statements present fairly, in all material respects, the financialposition of the Company as at December 31, 2001 and 2000 and the results of its operations and its cash flowsfor the years then ended in accordance with Canadian generally accepted accounting principles.
See accompanying notes to consolidated financial statements.
F-41
GALAXY ENTERTAINMENT INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
Years ended December 31, 2001 and 2000(Expressed in Canadian dollars)
1. SIGNIFICANT ACCOUNTING POLICIES
(a) Basis of presentation and consolidation:
These financial statements include the accounts of Galaxy Entertainment Inc. (‘‘Galaxy’’ or the ‘‘Company’’) and its subsidiaries.All significant intercompany accounts and transactions have been eliminated. Galaxy accounts for its 25% interest in a joint ventureusing the proportionate consolidation method.
(b) Cash and cash equivalents:
Galaxy considers deposits in banks, certificates of deposit and short-term investments with original maturities of three months orless as cash and cash equivalents.
(c) Property, equipment and leaseholds:
Property, equipment and leaseholds are stated at cost less accumulated amortization. Amortization is calculated using thestraight-line method over the following useful lives:
Construction in progress is amortized from the date the asset is ready for productive use.
(d) Goodwill:
Goodwill, which represents the excess of the purchase price over the fair values of net assets acquired, is amortized using thestraight-line method over 20 years. On an ongoing basis, management assesses the recoverability of the net unamortized goodwillby determining whether the amortization of goodwill over the remaining life can be recovered through projected futureundiscounted cash flows.
(e) Deferred charges:
Deferred charges primarily comprise financing costs and design work and are amortized over a period of 12 to 24 months.
(f) Bank indebtedness:
Bank indebtedness represents borrowings under Galaxy’s operating credit facility in the form of prime rate advances or bankers’acceptances maturing within 12 months.
(g) Deferred revenue:
Deferred revenue represents the sale of gift certificates and the advance sale of admissions and concessions. Revenue is recognizedwhen the services are rendered.
(h) Revenue recognition:
Box office revenue from the exhibition of motion pictures is recognized on the dates of exhibition. Concessions revenue isrecognized when concessions are provided.
(i) Deferred lease inducements:
Leasehold improvements paid by the landlord are deferred at the start of the lease term and are recorded as a reduction of leasecosts on a straight-line basis over the term of the lease.
(j) Use of estimates:
The preparation of financial statements in conformity with generally accepted accounting principles requires management to makeestimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets andliabilities at the date of the financial statements and the reported amounts of revenue and expenses during the year. Actual resultscould differ from those estimates.
F-42
GALAXY ENTERTAINMENT INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)
Years ended December 31, 2001 and 2000(Expressed in Canadian dollars)
1. SIGNIFICANT ACCOUNTING POLICIES (Continued)
(k) Income taxes:
In December 1997, the Accounting Standards Board of The Canadian Institute of Chartered Accountants’ (‘‘CICA’’) issuedHandbook, Section 3465, Income Taxes (‘‘Section 3465’’). Effective January 1, 2000, Galaxy adopted Section 3465 retroactivelywithout restatement and has reported the cumulative effect of that change in the consolidated statement of changes inshareholders’ equity. Section 3465 requires a change from the deferred method of accounting for income taxes to the asset andliability method of accounting for income taxes.
Under the asset and liability method of Section 3465, future tax assets and liabilities are recognized for the future tax consequencesattributable to differences between the financial statement carrying amounts of existing assets and liabilities and their respective taxbases. Future tax assets and liabilities are measured using enacted or substantively enacted tax rates expected to apply to taxableincome in the years in which those temporary differences are expected to be recovered or settled. Under Section 3465, the effect onfuture tax assets and liabilities of a change in tax rates is recognized in income in the year that includes the enactment orsubstantive enactment date.
In assessing the realizability of future tax assets, management considers whether it is more likely than not that some portion or allof the future tax benefits will not be realized. The ultimate realization of future tax assets is dependent upon the generation offuture taxable income during the year in which the temporary differences become deductible. Management considers projectedfuture taxable income uncertainties related to the industry in which the Company operates and tax planning strategies in makingthis assessment.
Pursuant to the deferral method, which was applied in the year ended December 31, 1999 and prior years, deferred income taxeswere recognized for income and expense items that were reported in different years for financial reporting purposes and incometax purposes using the tax rate applicable for the year of calculation. Under the deferral method, deferred income taxes were notadjusted for subsequent changes in tax rates.
The cumulative effect of this change in accounting for income taxes of $86,467 is determined as of January 1, 2000 and is reportedseparately in the consolidated statement of changes in shareholders’ equity as a restatement of the opening balance of deficit as atJanuary 1, 2000. As a result of applying Section 3465 in 2000, the net loss for the year ended December 31, 2000 was not materiallydifferent than it would have been under the previous standard. Prior years’ financial statements have not been restated to apply theprovisions of Section 3465.
2. ACQUISITION OF 168392 CANADA INC.
On July 28, 2000, Galaxy acquired 100% of the outstanding shares of 168392 Canada Inc. for consideration of $6,493,621 in cash. Theacquisition has been accounted for as a purchase, and, accordingly, the results of operations of 168392 Canada Inc. have been includedin Galaxy’s financial statements from July 28, 2000.
The fair value of the assets acquired and liabilities assumed were as follows:
During 2001, Galaxy paid an amount of $435,000 to terminate a lease agreement on the closing of a theatre which amount has beencharged to the statement of operations.
5. BANK INDEBTEDNESS
On July 21, 2000, Galaxy entered into a demand operating credit facility of up to $20,000,000 with The Bank of Nova Scotia andNational Bank of Canada. The credit facility is used to finance working capital requirements and capital expenditures relating to theatredevelopment, acquisitions, construction and renovations. The credit facility bears interest at variable rates based on the prime lendingrate and is secured by certain assets of Galaxy. The Company pays a standby fee on the unadvanced portion of the credit facility at arate of 0.25% per annum.
Effective December 3, 2001, Galaxy entered into an interest rate swap agreement whereby the Company receives a floating rate ofinterest and pays a fixed rate of 3.86%. The swap agreement is in the amount of $2,000,000 and is in place for a period of three years.
The amount due to shareholder represents the balance of the amount due under an employment agreement between the shareholderand Galaxy. The employment agreement began in December of 1998 and specifies an annual salary of $200,000 for 4.375 years, whetheror not the shareholder remained employed by Galaxy for the entire term of the agreement.
Principal repayments on long-term debt during each of the next four years approximate the following:
The tax effects of temporary differences that give rise to significant portions of the future tax assets and liabilities at December 31, 2001and 2000 are presented below:
As at December 31, 2001, the Company has non-capital losses of approximately $4,274,000 available to apply to future years’ taxableincome. The losses expire as follows:
The fair values of cash and cash equivalents, accounts receivable and accounts payable and accrued expenses approximate theircarrying values due to the short-term nature of these instruments.
The carrying value of the bank loan approximates fair value based on current borrowing rates for similar instruments. The fairvalue of the amount due to shareholder is not determinable due to its related party nature and terms.
The carrying value of the Company’s advances under the bank credit facility approximates fair value as the interest being charged isfloating in respect to the prime rate.
The fair value of the Company’s interest rate swap (note 5) is based on the cost to terminate the contract. The fair value of theinterest rate swap at December 31, 2001 approximates its carrying value of nil.
(b) Interest rate risk:
The Company is subject to interest rate risk in relation to the bank indebtedness for which the borrowings are based on a variableinterest rate. The Company attempts to mitigate this risk through interest rate swap agreements for a portion of the borrowings tofix the rates of interest.
10. SEGMENTED INFORMATION
The Company has determined that the theatre exhibition industry qualifies as a single business segment with all of its revenue and assetsgenerated and held within Canada.
11. NET CHANGE IN NON-CASH OPERATING WORKING CAPITAL
All theatre properties are subject to lease agreements, which provide for minimum rentals plus in certain instances, percentage rentalsbased upon theatre performance. The agreements also require the tenant to pay a portion of real estate taxes and other propertyoperating expenses.
F-46
GALAXY ENTERTAINMENT INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)
Years ended December 31, 2001 and 2000(Expressed in Canadian dollars)
Rental expenses for theatre properties under lease amounted to approximately $3,617,000 (2000 — $1,239,000).
13. RELATED PARTY TRANSACTIONS
Related party transactions are in the normal course of operations and are measured at the exchange amount of considerationestablished and agreed to by the related parties.
During 2001, Galaxy incurred expenses for film rental totalling $1,750,000 to Alliance Atlantis Communications Inc. (‘‘Alliance’’), ashareholder of Galaxy. At December 31, 2001, Galaxy owed Alliance $250,000 for film rental, which is included in accounts payable andaccrued expenses.
During March 2000, Alliance became a shareholder of Galaxy. From the date Alliance became a shareholder until December 31, 2000,Galaxy incurred expenses for film rental and other expenses totalling $350,000. At December 31, 2000, Galaxy owed Alliance $110,000for film rental, which is included in accounts payable and accrued expenses.
F-47
CINEPLEX ODEON CORPORATION AND GALAXY ENTERTAINMENT INC.
(1) Cineplex Odeon Corporation three-month period ended June 30, 2002 and Galaxy Entertainment Inc. six-month period endedJune 30, 2002
The accompanying notes are an integral part of these combined financial statements.
F-51
CINEPLEX ODEON CORPORATION AND GALAXY ENTERTAINMENT INC.
NOTES TO COMBINED FINANCIAL STATEMENTS
(expressed in thousands of Canadian dollars)(Unaudited)
1. THE COMPANY
Cineplex Odeon Corporation (‘‘COC’’) and Galaxy Entertainment Inc. (‘‘GEI’’) (collectively referred to as the ‘‘Company’’) combinedrepresent Canada’s second largest film exhibition organization with theatres in six provinces. The combined COC and GEI theatrecircuit serves both major metropolitan and middle markets with principal geographic areas being Edmonton, Montreal, Toronto andVancouver. The Company operates theatres under the COC and GEI names. As of June 30, 2003, the Company owns, or has interestsin, and operates 755 screens at 88 locations. Included in the screen and theatre counts are 57 screens in seven theatres in which theCompany holds a partnership interest. The Company accounts for its interest in joint ventures using the proportionate consolidationmethod.
COC is a wholly owned subsidiary of Loews Cineplex Theatres, Inc. (‘‘LCT’’). GEI is a subsidiary of Onex Corporation (‘‘Onex’’).
2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
Basis of presentation and consolidation
The Company prepares its financial statements in accordance with Canadian generally accepted accounting principles (‘‘GAAP’’). Thedisclosures contained in these unaudited interim combined financial statements do not include all the requirements of generallyaccepted accounting principles for annual financial statements. The unaudited interim combined financial statements should be read inconjunction with the audited combined financial statements for the period ended December 31, 2002.
The unaudited interim combined financial statements are based on accounting principles consistent with those used and described inthe audited combined financial statements except as disclosed herein.
These unaudited interim combined financial statements include the operations of COC for the three-month period ended June 30, 2002and GEI for the six-month period ended June 30, 2002. COC and GEI became entities under the common control of Onex upon COC’semergence from the bankruptcy proceedings on March 21, 2002. As the period between March 21, 2002 and March 31, 2002 was notconsidered by COC to be material for accounting purposes, these combined financial statements account for the emergence frombankruptcy as of March 31, 2002. At the same time, COC elected to change its year-end from the end of February to December 31,effective for the period beginning April 1, 2002. This change will allow the Company to report financial information on a basisconsistent with the time period in which its industry tracks and reports box office and related film performance.
In the first quarter of 2003, the Company adopted Section 3475, ‘‘Disposal of Long-lived Assets and Discontinued Operations’’.
Effective January 1, 2003, the Company adopted the new CICA Emerging Issues Committee Abstracts EIC-134, ‘‘Accounting forSeverance and Termination Benefits’’, and EIC-135, ‘‘Accounting for Costs Associated with Exit and Disposal Activities’’, whichestablish standards for recognizing, measuring and disclosing costs relating to an exit or disposal activity. The EIC Abstracts allowrecognition of a liability for an exit or disposal activity only when costs are incurred and can be measured at fair value. Previously, acommitment to an exit or disposal plan was sufficient to record the majority of costs.
There are no financial impacts for the adoption of these standards.
3. RELATED PARTY TRANSACTIONS
In April 2003, COC advanced US$20,000 to its parent company, LCT. This amount is non-interest bearing and due on demand.
4. BANK INDEBTEDNESS
In April 2003, GEI’s operating credit facility was increased to $35,000. The standby fee for borrowings in excess of $25,000 is 0.375%.An additional interest rate swap for $2,000 was entered into in June 2003 for two years at a rate of 4.05%.
5. SHARE CAPITAL
During the six-month period ended June 30, 2002, GEI repurchased and cancelled 442,007 Class D common shares for aggregateconsideration of $4,174. The excess of cash paid over the stated value, $1,146, has been charged to deficit.
6. JOINT VENTURES
The Company participates in incorporated joint ventures with other parties and accounts for its interests using the proportionateconsolidation method.
F-52
CINEPLEX ODEON CORPORATION AND GALAXY ENTERTAINMENT INC.
NOTES TO COMBINED FINANCIAL STATEMENTS (Continued)
(expressed in thousands of Canadian dollars)(Unaudited)
6. JOINT VENTURES (Continued)
The following amounts represent the proportionate share of the assets, liabilities, revenues and expenses therein:
As of June 30, 2003, the Company has aggregate capital commitments of $25,433 primarily related to the completion of construction offive theatre properties (comprising 52 screens). The Company expects to complete construction and to open these theatres during 2003and 2004.
Effective January 1, 2003, the Company adopted the new disclosure requirements of Accounting Guideline 14 of the CICA Handbookin respect of guarantees. This new disclosure should be read in conjunction with the disclosures provided in the audited combinedfinancial statements.
Other
The Company is a defendant in various lawsuits arising in the ordinary course of business and is involved in certain environmentalmatters. From time to time, the Company is involved in disputes with landlords, contractors and other third parties. It is the opinion ofmanagement that any liability to the Company, which may arise as a result of these matters, will not have a material adverse effect onthe Company’s operating results, financial position or cash flows.
8. SEGMENT INFORMATION
The Company has determined that the theatre exhibition industry qualifies as a single business segment with all of its revenue and assetsgenerated and held within Canada.
9. SEASONAL FLUCTUATIONS
The Company’s business is seasonal. Consequently, the results of operations and cash flows for the six-month periods ended June 30,2003 and 2002 are not necessarily indicative of the results to be expected for the full year, although film studios have expanded thehistorical summer and holiday release windows and increased the number of heavily marketed films released during traditionally weakerperiods.
F-53
CINEPLEX ODEON CORPORATION AND GALAXY ENTERTAINMENT INC.
NOTES TO COMBINED FINANCIAL STATEMENTS (Continued)
(expressed in thousands of Canadian dollars)(Unaudited)
10. CASH FLOW STATEMENT
The following summarizes the change in assets and liabilities:
The comparative amounts in these unaudited interim combined financial statements include the operations of COC for the three-monthperiod ended June 30, 2002 and the operations of GEI for the six-month period ended June 30, 2002, since COC and GEI are under the
F-54
CINEPLEX ODEON CORPORATION AND GALAXY ENTERTAINMENT INC.
NOTES TO COMBINED FINANCIAL STATEMENTS (Continued)
(expressed in thousands of Canadian dollars)(Unaudited)
11. COMPARATIVE AMOUNTS (Continued)
common control of Onex Corporation as of April 1, 2002. The table below shows the operations as described above with the results ofCOC for the three-month period ended March 31, 2002:
COC for thethree-monthperiod endedJune 30, 2002 COC and GEI
COC for the and GEI for the combined for thethree-month six-month six-monthperiod ended period ended period ended
Prior to the completion of the offering of units of the Cineplex Galaxy Income Fund (‘‘the Fund’’), each of COC and Cineplex Odeon(Quebec) Inc. transferred substantially all theatre assets and liabilities to Cineplex Galaxy Limited Partnership (‘‘Cineplex Galaxy LP’’)in exchange for non-interest bearing promissory notes in the aggregate amount of $ 1 , promissory notes bearing interest at the rateof 1 % in the aggregate principal amount of $ 1 (the ‘‘Over-Allotment Notes’’), the assumption of liabilities of $ 1 ofCineplex Odeon (Quebec) Inc. and COC by Cineplex Galaxy LP and the issuance of 1 Class B units of Cineplex Galaxy LP.
The proceeds on the indirect issuance of Cineplex Galaxy LP units to the Fund, together with proceeds loaned indirectly to a subsidiaryof the Partnership, and the receipt of $ 1 under a credit facility were used to (i) repay a portion of the promissory notes due to COCand Cineplex Odeon (Quebec) Inc., with the balance to be paid through the issuance of 1 additional Cineplex Galaxy LP Class Bunits or proceeds received pursuant to the exercise of the over-allotment option granted to the underwriters of the Fund’s initial publicoffering; (ii) acquire the shares of Galaxy Entertainment Inc.; (iii) pay the expenses of the offering; and (iv) repay the bankindebtedness of Galaxy Entertainment Inc. outstanding in the amount of $ 1 . An escrow account was created in the amount of$21.9 million in accordance with the Support Agreement entered into between Cineplex Galaxy LP, Galaxy Entertainment Inc., COC,Cineplex Odeon (Quebec) Inc. and the Galaxy shareholders.
F-55
CINEPLEX ODEON CORPORATION AND GALAXY ENTERTAINMENT INC.
NOTES TO COMBINED FINANCIAL STATEMENTS (Continued)
(expressed in thousands of Canadian dollars)(Unaudited)
12. SUBSEQUENT EVENT (Continued)
In conjunction with these transactions, COC, Galaxy Entertainment Inc., Cineplex Galaxy LP and its general partner, among others,entered into a Services Agreement requiring annual payments of $ 1 for the next ten years and a lease for certain facilities requiringannual payments of $ 1 for the next 1 years.
Certain representations and warranties have been provided by Cineplex Galaxy LP, Galaxy Entertainment Inc., COC and LoewsCineplex Entertainment Corporation, and indemnifications have been provided by Cineplex Galaxy LP, COC and Loews CineplexEntertainment Corporation as it relates to this offering.
F-56
COMPILATION REPORT
PRO FORMA CONSOLIDATED FINANCIAL STATEMENTS
To the Trustees of Cineplex Galaxy Income Fund
We have read the accompanying unaudited pro forma consolidated balance sheet of the Cineplex GalaxyIncome Fund (the ‘‘Fund’’) as at June 30, 2003 and the unaudited pro forma consolidated statements ofoperations for the six-month period ended June 30, 2003, the twelve-month period ended June 30, 2003 and thetwelve-month period ended December 31, 2002, and have performed the following procedures:
1. Compared the figures in the columns captioned ‘‘Historical’’ in the unaudited pro forma consolidatedbalance sheet to the balance sheet of the Fund as at October 2, 2003, and found them to be in agreement.
2. Ensured that the figures in the column captioned ‘‘Historical’’ in the unaudited pro forma consolidatedstatements of operations were $nil.
3. Made enquiries of certain officials of the Fund who have responsibility for financial and accounting mattersabout:
(a) the basis for determination of the pro forma adjustments; and
(b) whether the unaudited pro forma consolidated financial statements comply as to form in all materialrespects with requirements of the Ontario Securities Commission.
The officials:
(a) described to us the basis for determination of the pro forma adjustments; and
(b) stated that the unaudited pro forma consolidated financial statements comply as to form in all materialrespects with the requirements of the Ontario Securities Commission.
4. Read the notes to the unaudited pro forma consolidated financial statements, and found them to beconsistent with the basis described to us for determination of the pro forma adjustments.
5. Recalculated the application of the pro forma adjustments to the aggregate of the amounts in the columnscaptioned ‘‘Historical’’ as at June 30, 2003 and for each of the Pro Forma Consolidated Statements ofOperations for the six-month period ended June 30, 2003, the twelve-month period ended June 30, 2003and the twelve-month period ended December 31, 2002 and found the amounts in the columns captioned‘‘Pro forma’’ to be arithmetically correct.
A pro forma financial statement is based on management assumptions and adjustments, which areinherently subjective. The foregoing procedures are substantially less than either an audit or a review, theobjective of which is the expression of assurance with respect to management’s assumptions, the pro formaadjustments, and the application of the adjustments to the historical financial information. Accordingly, weexpress no such assurance. The foregoing procedures would not necessarily reveal matters of significance to theunaudited pro forma consolidated financial statements, and we, therefore, make no representation about thesufficiency of the procedures for the purposes of a reader of such statements.
1Toronto, Ontario (Signed) 1
Chartered Accountants
F-57
CINEPLEX GALAXY INCOME FUND
PRO FORMA CONSOLIDATED BALANCE SHEET
As at June 30, 2003(in thousands of Canadian dollars)
The accompanying notes are an integral part of the pro forma consolidated financial statements.
F-61
CINEPLEX GALAXY INCOME FUND
NOTES TO PRO FORMA CONSOLIDATED FINANCIAL STATEMENTS
As at June 30, 2003 and for the six-month period ended June 30, 2003, the twelve-month period endedJune 30, 2003 and the twelve-month period ended December 31, 2002
(in thousands of Canadian dollars)
(Unaudited — see compliation report)
1. BASIS OF PRESENTATION
The accompanying unaudited pro forma consolidated balance sheet as at June 30, 2003 and the unaudited pro forma consolidatedstatements of operations for the six-month period ended June 30, 2003, the twelve-month period ended June 30, 2003 and the twelve-month period ended December 31, 2002 (the ‘‘pro forma consolidated statements’’) are of the Cineplex Galaxy Income Fund (the‘‘Fund’’).
The pro forma consolidated statements give effect to the acquisition by the Fund of an indirect 1 % interest in Cineplex GalaxyLimited Partnership (‘‘Cineplex Galaxy LP’’) and an indirect 1 % interest in Cineplex Galaxy General Partner Corporation(‘‘Cineplex Galaxy GP’’) and should be read in conjunction with the description of the acquisition disclosed elsewhere in the initialpublic offering of units (the ‘‘Prospectus’’).
The pro forma consolidated statements have been prepared from, and should be read in conjunction with, the audited balance sheet ofthe Fund as at October 2, 2003, the combined financial statements of Cineplex Odeon Corporation (‘‘COC’’) and GalaxyEntertainment Inc. (‘‘GEI’’) for the six-month period ended June 30, 2003 and for the twelve-month period ended December 31, 2002and the pro forma combined financial statements of Cineplex Galaxy LP as included elsewhere in the Prospectus.
The pro forma consolidated statements have been prepared by the management of COC and GEI (‘‘management’’) on behalf of theFund using the adjustments and assumptions outlined below. In the opinion of management, the pro forma consolidated statementsinclude all adjustments necessary for the fair presentation of the proposed Transactions (as defined herein) in accordance withCanadian generally accepted accounting principles.
The pro forma consolidated statements are not necessarily indicative of the results of operations or financial position which would haveoccurred had the Transactions occurred on the dates indicated and, therefore, may not be representative of the operating results orfinancial condition of future periods.
2. THE FUND
The Fund is an unincorporated, open-ended, limited purpose trust formed under the laws of the Province of Ontario pursuant to aDeclaration of Trust dated October 2, 2003. The Fund has been created to invest, through a newly constituted wholly owned trust (the‘‘Trust’’), in partnership units of Cineplex Galaxy LP and shares of Cineplex Galaxy GP. Each unitholder participates pro rata in anydistribution from the Fund. Income tax obligations related to the distributions of the Fund are the obligations of the unitholders.
The Fund will account for its investment in Cineplex Galaxy LP using the equity method of accounting whereby the investment will beinitially recorded at cost and the carrying value adjusted thereafter will include the Fund’s pro rata share of post acquisition earnings ofCineplex Galaxy LP, computed using the purchase valuation adjustments as described in note 5. Distributions received or receivablefrom the Cineplex Galaxy LP will reduce the carrying value of the investment.
The accompanying pro forma consolidated financial statements of the Fund have been prepared to reflect the following proposedTransactions (the ‘‘Transactions’’):
The Fund will issue 1 units (the ‘‘offering’’) for proceeds of $ 1 on closing of the offering (the ‘‘Closing’’).
The Fund will purchase indirectly 1 % of Cineplex Galaxy LP for cash consideration of $ 1 and 1 % of the common sharesof Cineplex Galaxy GP for $ 1 .
This reflects the issuance of units to the public only and does not include other pre-closing transactions.
3. PRO FORMA CONSOLIDATED BALANCE SHEET OF THE FUND
The pro forma consolidated balance sheet of the Fund as at June 30, 2003 is based on the opening balance sheet of the Fund at itsinception and has been prepared as if the following proposed transactions had occurred on June 30, 2003:
The issuance by the Fund of 1 units for proceeds of $ 1 .
The indirect purchase of 1 % of limited partnership units of Cineplex Galaxy LP for cash consideration of $ 1 consisting of thepurchase price of $ 1 and cost of acquisition of $ 1 .
The indirect purchase of 1 % of the shares of Cineplex Galaxy GP for cash consideration of $ 1 .
F-62
CINEPLEX GALAXY INCOME FUND
NOTES TO PRO FORMA CONSOLIDATED FINANCIAL STATEMENTS (Continued)
As at June 30, 2003 and for the six-month period ended June 30, 2003, the twelve-month period endedJune 30, 2003 and the twelve-month period ended December 31, 2002
(in thousands of Canadian dollars)
(Unaudited — see compliation report)
3. PRO FORMA CONSOLIDATED BALANCE SHEET OF THE FUND (Continued)
The loan granted by the Trust to Galaxy Entertainment Inc. in the aggregate principal amount of $ 1 bearing interest a rate of1 %.
4. PRO FORMA CONSOLIDATED STATEMENTS OF OPERATIONS OF THE FUND
The pro forma consolidated statements of operations of the Fund for the six-month period ended June 30, 2003, the twelve-monthperiod ended June 30, 2003 and the twelve-month period ended December 31, 2002 are based on the statements of operations of theFund adjusted for the Fund’s pro forma share of the limited partnership income of Cineplex Galaxy LP, for each respective period, aftergiving effect to the Transactions referred to in note 2 and the adjustments for the excess purchase price are further described in note 5.
5. INVESTMENT IN CINEPLEX GALAXY LIMITED PARTNERSHIP
Upon completion of the Transactions described in note 2, the Fund indirectly will own 1 % of Cineplex Galaxy LP and 1 % ofCineplex Galaxy GP. The pro forma net income of the Fund, representing its pro forma share of Cineplex Galaxy LP income and
1 % of Cineplex Galaxy GP income following the equity method of accounting for the six-month period ended June 30, 2003, thetwelve-month period ended June 30, 2003 and the twelve-month period ended December 31, 2002, is as follows:
The Fund’s 1 % proportionate share of earnings in Cineplex Galaxy LP has been determined as follows:
Six-month Twelve-month Twelve-monthperiod ended period ended period endedJune 30, 2003 June 30, 2003 December 31, 2002
Adjustments for excess of purchase price over net assets acquired . . . . . . 1 1 1
1 1 1
The pro forma statements of operations have been adjusted to amortize the excess of purchase price over net assets acquired allocatedto various assets, except for goodwill, which is not amortized. The additional amounts related to the allocations are described below.
Purchase valuation adjustments
The cost of the investment in Cineplex Galaxy LP will exceed the underlying carrying amount of the net assets of Cineplex Galaxy LP.The preliminary estimate of the allocation of the excess to assets at June 30, 2003 is as follows:
As the useful life of the trademarks is indefinite, no amortization is recorded on these assets. The pro forma consolidated statements ofoperations of the Fund have been adjusted to reflect the Fund’s 1 % interest as additional amortization expense in the amount of$ 1 , $ 1 and $ 1 for the six-month period and twelve-month period ended June 30, 2003 and the twelve-month period endedDecember 31, 2002.
The above estimates are preliminary and may change as management completes its final evaluation upon closing of the Transaction.
F-63
COMPILATION REPORT
PRO FORMA COMBINED FINANCIAL STATEMENTS
To the Directors ofCineplex Galaxy General Partner Corporation, as general partner of Cineplex Galaxy Limited Partnership
We have read the accompanying unaudited pro forma combined statements of operations of Cineplex GalaxyLimited Partnership (‘‘Cineplex Galaxy LP’’) for the six-month period ended June 30, 2003, the twelve-monthperiod ended June 30, 2003 and the twelve-month period ended December 31, 2002, and have performed thefollowing procedures:
1. Compared the figures in the column captioned ‘‘Six-month period ended June 30, 2003’’ in the pro formacombined statement of operations for the six-month period ended June 30, 2003 to the unaudited combinedfinancial statements of Cineplex Odeon Corporation and Galaxy Entertainment Inc. for the six-monthperiod ended June 30, 2003, and found them to be in agreement.
2. Compared the figures in the column captioned ‘‘COC three-month period ended March 31, 2002’’ in thepro forma combined statement of operations for the twelve-month period ended December 31, 2002 to theunaudited financial statements of Cineplex Odeon Corporation for the three-month period endedMarch 31, 2002, and found them to be in agreement.
3. Compared the figures in the column captioned ‘‘COC nine-month period ended December 31, 2002 andGEI twelve-month period ended December 31, 2002’’ in the pro forma combined statement of operationsfor the twelve-month period ended December 31, 2002 to the audited combined consolidated financialstatements of Cineplex Odeon Corporation and Galaxy Entertainment Inc. for the year endedDecember 31, 2002, and found them to be in agreement.
4. Made enquiries of certain officials of Cineplex Galaxy LP who have responsibility for financial andaccounting matters about:
(a) the basis for determination of the pro forma adjustments;
(b) the basis for determination of the Cineplex Odeon Corporation creditor protection proceedingtransactions in the columns captioned ‘‘Adjustments to reflect retroactive creditor protectionproceeding transactions’’; and
(c) whether the unaudited pro forma combined financial statements comply as to form in all materialrespects with the requirements of the Ontario Securities Commission.
The officials:
(a) described to us the basis for determination of the pro forma adjustments;
(b) described to us the basis for determination of the creditor protection proceeding transactions; and
(c) stated that the unaudited pro forma combined financial statements comply as to form in all materialrespects with the requirements of the Ontario Securities Commission.
5. Read the notes to the unaudited pro forma combined financial statements, and found them to be consistentwith the basis described to us for determination of the pro forma adjustments and the creditor protectionproceeding transactions.
6. Recalculated the column captioned ‘‘Pro forma COC and GEI twelve-month period ended December 31,2002’’ in the pro forma combined statement of operations for the twelve-month period ended December 31,2002 and found the amounts in the column to be arithmetically correct.
7. Recalculated the column captioned ‘‘Twelve-month period ended June 30, 2003’’ in the pro forma combinedstatement of operations for the twelve-month period ended June 30, 2003, which has been calculated fromthe audited combined statement of operations for the twelve-month period ended December 31, 2002, andthe unaudited interim financial statements for the six-month period ended June 30, 2003 and 2002 of the
F-64
combined statement of operations of Cineplex Odeon Corporation and Galaxy Entertainment Inc., andfound the amounts in the column to be arithmetically correct.
8. Recalculated the application of the creditor protection proceeding transactions to the aggregate of theamounts in the columns captioned ‘‘Six-month period ended June 30, 2003’’, ‘‘Twelve-month period endedJune 30, 2003’’, and ‘‘Pro forma COC and GEI twelve-month period ended December 31, 2002’’ in thepro forma combined statement of operations for the six-month period ended June 30, 2003, the twelve-month period ended June 30, 2003 and the twelve-month period ended December 31, 2002, respectively,and found the amounts in the columns captioned ‘‘Pro forma COC and GEI six-month period endedJune 30, 2003 (creditor protection proceeding transactions removed)’’, ‘‘Pro forma COC and GEI twelve-month period ended June 30, 2003 (creditor protection proceeding transactions removed)’’ and ‘‘Pro formaCOC and GEI twelve-month period ended December 31, 2002 (creditor protection proceeding transactionsremoved)’’ to be arithmetically correct.
9. Recalculated the application of the adjustments to the aggregate of the amounts in the columns captioned‘‘Pro forma COC and GEI six-month period June 30, 2003 (creditor protection proceeding transactionsremoved)’’, ‘‘Pro forma COC and GEI twelve-month period June 30, 2003 (creditor protection proceedingtransactions removed)’’ and ‘‘Pro forma COC and GEI twelve-month period ended December 31, 2002(creditor protection proceeding transactions removed)’’ in the unaudited pro forma combined statements ofoperations for the six-month period ended June 30, 2003, the twelve-month period ended June 30, 2003 andthe twelve-month period ended December 31, 2002, respectively, and found the amounts in the columnscaptioned ‘‘Pro forma six-month period ended June 30, 2003’’, ‘‘Pro forma twelve-month period endedJune 30, 2003’’ and ‘‘Pro forma twelve-month period ended December 31, 2002’’ to be arithmeticallycorrect.
A pro forma financial statement is based on management assumptions and adjustments, which are inherentlysubjective. The foregoing procedures are substantially less than either an audit or a review, the objective ofwhich is the expression of assurance with respect to management’s assumptions, the pro forma adjustments, andthe application of the adjustments to the historical financial information. Accordingly, we express no suchassurance. The foregoing procedures would not necessarily reveal matters of significance to the unauditedpro forma consolidated financial statements, and we, therefore, make no representation about the sufficiency ofthe procedures for the purposes of a reader of such statements.
The accompanying notes are an integral part of the pro forma combined financial statments.
F-67
CINEPLEX GALAXY LIMITED PARTNERSHIP
PRO FORMA COMBINED STATEMENTS OF OPERATIONS
For the twelve-month period ended December 31, 2002(in thousands of Canadian dollars)
(Unaudited — see compilation report)
Pro formaCOC and
GEItwelve-month
COC nine-month Adjustments period endedperiod ended Pro forma to reflect December 31,December 31, COC and retroactive 2002
COC 2002 and GEI GEI creditor (creditor Pro formathree-month twelve-month twelve-month protection protection Pro forma twelve-monthperiod ended period ended period ended proceeding proceeding adjustments for period ended
March 31, December 31, December 31, transactions transactions Income Fund December 31,2002 $ 2002 $ 2002 $ $ removed) $ offering $ 2002 $
Net income . . . . . . . . . 374,870 25,905 400,775 (382,148) 18,627 20,014 38,641
The accompanying notes are an integral part of the pro forma combined financial statments.
F-68
CINEPLEX GALAXY LIMITED PARTNERSHIP
NOTES TO PRO FORMA COMBINED FINANCIAL STATEMENTS
For the six-month period ended June 30, 2003, the twelve-month period ended June 30, 2003and the twelve-month period ended December 31, 2002
(Unaudited — see compilation report)(in thousands of Canadian dollars)
1. THE TRANSACTION AND BASIS OF PRESENTATION
The unaudited pro forma combined statement of operations (the ‘‘pro forma statements’’) gives effect to the following transactions(collectively, the ‘‘Transactions’’):
• The creation of Cineplex Galaxy Limited Partnership (‘‘Cineplex Galaxy LP’’) with 1 class C units issued to the general partner,Cineplex Galaxy General Partner Corporation (‘‘Cineplex Galaxy GP’’), a wholly owned subsidiary of Cineplex Odeon Corporation(‘‘COC’’), for nominal cash consideration.
• The transfer of substantially all of the theatre assets of COC, including the theatre assets of its subsidiary Cineplex Odeon (Quebec)Inc., to Cineplex Galaxy LP in consideration for non-interest bearing promissory notes in the aggregate principal amount of $ 1 ,promissory notes bearing an interest rate equal to 1 % in the aggregate principal amount of $ 1 (the ‘‘Over-AllotmentNotes’’), the assumption of liabilities of $ 1 of COC and Cineplex Odeon (Quebec) Inc. and 1 Class B units of CineplexGalaxy LP (the ‘‘Class B LP units’’).
• The subscription by the Fund for notes and units of Cineplex Galaxy Trust.
• The loan to Cineplex Galaxy Acquisition Inc. from Cineplex Galaxy Trust in the amount of $ 1 .
• The issuance of 1 Class A units of Cineplex Galaxy LP (the ‘‘Class A LP Units’’), equal to 1 % of the outstanding limitedpartnership interests of Cineplex Galaxy LP and 1 % of the shares of Cineplex Galaxy GP, to Cineplex Galaxy Trust, in exchangefor cash consideration of $ 1 million and $ 1 , respectively.
• Cineplex Galaxy LP will use the proceeds of the sale of its Class A LP units together with the funds from the New Credit Facilities to(i) pay certain acquisition costs; (ii) repay the promissory notes issued to COC and Cineplex Odeon (Quebec) Inc. (other than theOver-Allotment Notes); and (iii) subscribe for shares of Cineplex Galaxy Acquisition Inc. (‘‘Cineplex Galaxy Acquisition’’).
• Cineplex Galaxy LP will create Cineplex Galaxy Acquisition and subscribe for all of the outstanding shares of Cineplex GalaxyAcquisition for $ 1 .
• Cineplex Galaxy Acquisition will acquire all of the shares of Galaxy Entertainment Inc. (‘‘GEI’’) from the holders thereof (the‘‘Galaxy Shareholders’’) in exchange for shares of Cineplex Galaxy Acquisition and/or cash in the amount of $ 1 .
• Cineplex Galaxy LP will acquire shares of Cineplex Galaxy Acquisition held by certain of the Galaxy Shareholders in exchangefor Class B LP units representing a 1 % interest in Cineplex Galaxy LP.
• Cineplex Galaxy Acquisition and GEI will amalgamate to form Galaxy Entertainment Inc., a wholly-owned subsidiary of CineplexGalaxy LP.
• $21.9 million of the proceeds paid to Cineplex Galaxy LP and GEI will be used to fund the escrow account, which funds will bereleased as provided for in the support agreement to be entered into between Cineplex Galaxy LP, GEI, COC, Cineplex Odeon(Quebec) Inc. and the Galaxy Shareholders.
• Galaxy Entertainment Inc. will repay $ 1 of its outstanding indebtedness.
If the over-allotment option granted by the Fund to the underwriters is exercised in full, the Fund will use the proceeds to subscribe forunits and notes of Cineplex Galaxy Trust, which will, in turn, subscribe for additional Class A LP Units. Cineplex Galaxy LP will usesuch proceeds to acquire Class B LP Units and repay the Over-Allotment Notes. If the over-allotment option is not exercised in full,additional Class B LP Units and shares of Cineplex Galaxy GP will be issued to COC and Cineplex Odeon (Quebec) Inc. in satisfactionof the Over-Allotment Notes.
The transactions described above should be read in conjunction with the description of these transactions disclosed elsewhere in theinitial public offering of units (the ‘‘Prospectus’’).
The transfer of the assets and liabilities from COC to, and the acquisition of the shares of GEI by, Cineplex Galaxy LP has beenaccounted for at carrying value and, accordingly, a pro forma combined balance sheet has not been presented.
The pro forma combined statements have been prepared by the management of COC and GEI (‘‘management’’) on behalf of CineplexGalaxy LP using the accounting policies disclosed in the audited combined financial statements of COC and GEI. In the opinion ofmanagement, the unaudited pro forma combined statements include all adjustments necessary for the fair presentation of the proposedtransaction in accordance with Canadian generally accepted accounting principles.
F-69
CINEPLEX GALAXY LIMITED PARTNERSHIP
NOTES TO PRO FORMA COMBINED FINANCIAL STATEMENTS (Continued)
For the six-month period ended June 30, 2003, the twelve-month period ended June 30, 2003and the twelve-month period ended December 31, 2002
(Unaudited — see compilation report)(in thousands of Canadian dollars)
1. THE TRANSACTION AND BASIS OF PRESENTATION (Continued)
The unaudited pro forma combined statement of operations are not necessarily indicative of the results of operations which would haveoccurred had the acquisition occurred on the respective dates and, therefore, may not be representative of the operating results orfinancial condition of future periods.
The unaudited pro forma combined financial statements should be read in conjunction with the audited combined financial statementsof COC and GEI for the period ended December 31, 2002 and the unaudited interim combined financial statments of COC and GEIfor the period ended June 30, 2003 included elsewhere in this prospectus.
2. PRO FORMA COMBINED STATEMENT OF OPERATIONS OF CINEPLEX GALAXY LP
The unaudited pro forma combined statement of operations of Cineplex Galaxy LP for the six-month period ended June 30, 2003, thetwelve-month period ended June 30, 2003 and the twelve-month period ended December 31, 2002 gives effect to the Transactions as ifthey had occurred on January 1, 2002. The following assumptions and adjustments have been made to the unaudited pro formacombined statement of operations of Cineplex Galaxy LP and are coded as to which period they relate:
(i) COC creditor protection adjustments in the pro forma combined statement of operations for the six-month period ended June 30,2003, the twelve-month period ended June 30, 2003 and the twelve-month period ended December 31, 2002
On February 15, 2001, COC filed for creditor protection under the Companies’ Creditors Arrangement Act (‘‘CCAA’’). During theperiod of creditor protection, a reorganization of COC was undertaken. On March 21, 2002, COC emerged from creditorprotection. As the period between March 21, 2002 and March 31, 2002 was not considered by COC to be material, for accountingpurposes, it accounted for the reorganization under the CCAA on March 31, 2002. Accordingly, pursuant to the reorganization ofCOC, the following pro forma adjustments were made:
(a) An elimination of the gain on settlement of liabilities subject to compromise, net of tax, of $nil, $nil and $457,435 related tosettlement of liabilities subject to compromise upon the emergence of COC from creditor protection for the six-month periodended June 30, 2003, the twelve-month period ended June 30, 2003 and the twelve-month period ended December 31, 2002,respectively.
(b) A reduction in the reorganization costs of $nil, $nil and $75,531 related to costs incurred for the reorganization of the businessduring creditor protection for the six-month period ended June 30, 2003, the twelve-month period ended June 30, 2003 andthe twelve-month period ended December 31, 2002, respectively.
(c) A reduction in the revenues and operating expenses related to theatres that were closed as a result of the emergence of COCfrom creditor protection. The detailed adjustments attributable to the above financial statement sub-totals are set out below:
Six-month Twelve-month Twelve-monthperiod ended period ended period ended
NOTES TO PRO FORMA COMBINED FINANCIAL STATEMENTS (Continued)
For the six-month period ended June 30, 2003, the twelve-month period ended June 30, 2003and the twelve-month period ended December 31, 2002
(Unaudited — see compilation report)(in thousands of Canadian dollars)
2. PRO FORMA COMBINED STATEMENT OF OPERATIONS OF CINEPLEX GALAXY LP (Continued)
(d) A reduction in rental expense of $nil, $nil and $293 for the six-month period and twelve-month period ended June 30, 2003and the twelve-month period ended December 31, 2002, respectively, to reflect revised terms of operating leases renegotiatedor restructured during the CCAA process.
(ii) Adjustments for Income Fund offering
Other pro forma adjustments apply to all combined pro forma statements presented unless otherwise noted and include thefollowing:
(a) An increase in interest on long-term debt of $2,254, $4,624 and $4,541 for the six-month period and twelve-month periodended June 30, 2003 and the twelve-month period ended December 31, 2002, respectively, to reflect the change in the cost ofborrowing resulting from the issuance of new debt (as disclosed in the Prospectus) and retirement of the previous debt held byCOC and GEI. For the purposes of the pro forma financial statements, the new debt has been assumed to be $110,000 with aninterest rate of 6% throughout the entire period based on three-year floating-to-fixed interest swap rates on the term creditfacility.
The financing fee of $2,125 incurred on the new financing arrangement has been amortized over the 3 year term of debt,resulting in additional amortization expense of $354, $708 and $708 for the six-month period and twelve-month period endedJune 30, 2003 and the twelve-month period ended December 31, 2002, respectively.
(b) A decrease in capital taxes reflected in general and administrative expenses of $238, $676 and $899 for the six-month periodand twelve-month period ended June 30, 2003 and the twelve-month period ended December 31, 2002, respectively, due to thelimited partnership structure.
(c) A decrease in management fees of $4,895, $9,785 and $9,785 for the six-month period and twelve-month period endedJune 30, 2003 and the twelve-month period ended December 31, 2002, respectively, resulting as the net effect of fees to bepaid pursuant to agreements between Cineplex Galaxy LP and COC (as disclosed in the Prospectus).
(d) The new lease arrangement between Cineplex Galaxy LP and COC for the properties of COC that were not acquired byCineplex Galaxy LP (as disclosed in the Prospectus) are reflected below:
Six-month Twelve-month Twelve-monthperiod ended period ended period ended
NOTES TO PRO FORMA COMBINED FINANCIAL STATEMENTS (Continued)
For the six-month period ended June 30, 2003, the twelve-month period ended June 30, 2003and the twelve-month period ended December 31, 2002
(Unaudited — see compilation report)(in thousands of Canadian dollars)
2. PRO FORMA COMBINED STATEMENT OF OPERATIONS OF CINEPLEX GALAXY LP (Continued)
(e) A reduction in the revenues and operating expenses for respective periods relating to properties that are not included in thetransfer to the Cineplex Galaxy LP. The detailed adjustments attributable to the above financial statement sub-totals are setout below:
Six-month Twelve-month Twelve-monthperiod ended period ended period ended
(f) The elimination of the exchange (gain) loss of ($3,789), ($6,849) and $14,420 for the six-month period and twelve-monthperiod ended June 30, 2003 and the twelve-month period ended December 31, 2002, respectively, as a result of the repaymentof the U.S. dollar loans.
(g) Income taxes have been decreased by $775, $879 and $288 for the six-month period and twelve-month period ended June 30,2003 and the twelve-month period ended December 31, 2002, respectively, to reflect the impact of the above adjustments andthe limited partnership structure.
F-72
CERTIFICATE OF THE FUND AND THE PROMOTER
Dated: October 2, 2003
The foregoing constitutes full, true and plain disclosure of all material facts relating to the securities offeredby this prospectus as required by Part 9 of the Securities Act (British Columbia), by Part 8 of the Securities Act(Alberta), by Part XI of The Securities Act, 1988 (Saskatchewan), by Part VII of The Securities Act (Manitoba), byPart XV of the Securities Act (Ontario), by Section 13 of the Security Frauds Prevention Act (New Brunswick),by Section 63 of the Securities Act (Nova Scotia), by Part II of the Securities Act (Prince Edward Island), byPart XIV of the Securities Act, 1990 (Newfoundland), by the Securities Act (Yukon), by the Securities Act(Northwest Territories) and by the Securities Act (Nunavut) and the respective regulations thereunder. Thisprospectus does not contain any misrepresentation likely to affect the value or market price of the securities tobe distributed within the meaning of the Securities Act (Quebec) and the regulations thereunder.
CINEPLEX GALAXY INCOME FUND
by its attorneyCINEPLEX ODEON CORPORATION
By: (Signed) TRAVIS REID By: (Signed) GORDON NELSON
By: (Signed) ANTHONY MUNK By: (Signed) TIMOTHY DUNCANSON
Director Director
The Promoter
CINEPLEX ODEON CORPORATION
By: (Signed) TRAVIS REID
Chief Executive Officer
C-1
CERTIFICATE OF THE UNDERWRITERS
Dated: October 2, 2003
To the best of our knowledge, information and belief, the foregoing constitutes full, true and plaindisclosure of all material facts relating to the securities offered by this prospectus as required by Part 9 of theSecurities Act (British Columbia), by Part 8 of the Securities Act (Alberta), by Part XI of The Securities Act, 1988(Saskatchewan), by Part VII of The Securities Act (Manitoba), by Part XV of the Securities Act (Ontario), bySection 13 of the Security Frauds Prevention Act (New Brunswick), by Section 64 of the Securities Act (NovaScotia), by Part II of the Securities Act (Prince Edward Island), by Part XIV of the Securities Act, 1990(Newfoundland), by the Securities Act (Yukon), by the Securities Act (Northwest Territories) and by the SecuritiesAct (Nunavut) and the respective regulations thereunder. To our knowledge, this prospectus does not containany misrepresentation likely to affect the value or market price of the securities to be distributed within themeaning of the Securities Act (Quebec) and the regulations thereunder.
RBC DOMINION SECURITIES INC. SCOTIA CAPITAL INC.
By: (Signed) DANIEL R. COHOLAN By: (Signed) SARAH B. KAVANAGH
