|
ITEM 2:
|
MANAGEMENT’S
DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
|
The following Management’s Discussion and Analysis of
Financial Condition and Results of Operations (“MD&A”) is intended to help the reader understand Canterbury Park
Holding Corporation, our operations, our financial results and financial condition and our present business environment. This MD&A
is provided as a supplement to, and should be read in conjunction with, our condensed consolidated financial statements and the
accompanying notes to the financial statements (the “Notes”).
Overview:
Canterbury Park Holding Corporation (the “Company,”
“we,” “our,” or “us”) conducts pari-mutuel wagering operations and hosts “unbanked”
card games at its Canterbury Park Racetrack and Card Casino facility (the “Racetrack”) in Shakopee, Minnesota, which
is approximately 25 miles southwest of downtown Minneapolis. The Racetrack is the only facility in the State of Minnesota that
offers live pari-mutuel thoroughbred and quarter horse racing.
The Company’s pari-mutuel wagering operations include
both wagering on thoroughbred and quarter horse races during live meets at the Racetrack each year from May through September,
and year-round wagering on races held at out-of-state racetracks that are televised simultaneously at the Racetrack (“simulcasting”).
Unbanked card games, in which patrons compete against each other, are hosted in the Card Casino at the Racetrack. The Card Casino
operates 24 hours a day, seven days a week. The Card Casino offers both poker and table games at up to 80 tables. The Company also
derives revenues from related services and activities, such as concessions, parking, advertising signage, publication sales, and
from other entertainment events and activities held at the Racetrack.
Recent Reorganization
. The Company
was incorporated as a Minnesota corporation in October 2015. The Company is a successor corporation to another corporation, also
named Canterbury Park Holding Corporation, that was incorporated in 1994 (“CPHC”). Effective as of the close of business
on June 30, 2016, CPHC’s business and operations were reorganized into a holding company structure (the “Reorganization”)
pursuant to an Agreement and Plan of Merger dated as of March 1, 2016 that was approved by CPHC’s shareholders on June 28,
2016.
Further information regarding the Reorganization
is set forth at Note 1 in the Notes to Condensed Consolidated Financial Statements under Part I above and in the Company’s
Registration Statement on Form S-4 (File No. 333-210877) filed with the SEC on April 22, 2016, which information is incorporated
herein by reference.
For purposes of this Report on Form 10-Q,
when the term “Company” is used with reference to information covering or related to periods up to and including June
30, 2016, such term refers to the operations of CPHC prior to the Reorganization.
Operations Review for the Three and Six Months Ended
June 30, 2017:
EBITDA
EBITDA represents earnings before interest, income tax
expense, and depreciation and amortization. EBITDA is not a measure of performance or liquidity calculated in accordance with generally
accepted accounting principles in the United States of America (“GAAP”), and should not be considered an alternative
to, or more meaningful than, net income as an indicator of our operating performance or cash flows from operating activities as
a measure of liquidity. EBITDA has been presented as a supplemental disclosure because it is a widely used measure of performance
and a basis for valuation of companies in our industry. Moreover, other companies that provide EBITDA information may calculate
EBITDA differently than we do. Adjusted EBITDA reflects additional adjustments to net income to eliminate unusual or non-recurring
items. For the six months ended June 30, 2016, adjusted EBITDA excluded the gain on sale of land.
The following table sets forth a reconciliation of net income,
a GAAP financial measure, to EBITDA and adjusted EBITDA (defined above) which are non-GAAP financial measures, for the six months
ended June 30, 2017 and 2016:
Summary
of EBITDA Data
:
|
|
Six Months Ended June 30,
|
|
|
|
2017
|
|
|
2016
|
|
NET INCOME
|
|
$
|
1,229,570
|
|
|
$
|
2,585,654
|
|
Interest (income) expense
|
|
|
(23,603
|
)
|
|
|
49,025
|
|
Income tax expense
|
|
|
847,000
|
|
|
|
1,785,841
|
|
Depreciation
|
|
|
1,222,998
|
|
|
|
1,194,510
|
|
EBITDA
|
|
$
|
3,275,965
|
|
|
$
|
5,615,030
|
|
Gain on disposal of land
|
|
|
|
|
|
|
(3,990,519
|
)
|
ADJUSTED EBITDA
|
|
$
|
3,275,965
|
|
|
$
|
1,624,511
|
|
Adjusted EBITDA increased $1,651,000, or 101.7%, and increased
as a percentage of net revenues to 12.0% from 6.7% for the six months ended June 30, 2017 as compared to the same period in 2016.
The increase is primarily due to the increase in revenues during the six months ended June 30, 2017 compared to the same period
in 2016.
Revenues:
Total net revenues for the three months ended June 30, 2017
were $15,846,000, an increase of $1,960,000, or 14.1%, compared to total net revenues of $13,886,000 for the three months ended
June 30, 2016. This increase primarily consists of increases in pari-mutuel, food and beverage and card casino revenue of 16.0%,
6.3% and 15.9%, respectively. Total net revenues for the six months ended June 30, 2017 were $27,290,000, an increase of $3,010,000,
or 12.4%, compared to total net revenues of $24,279,000 for the six months ended June 30, 2016. This increase primarily consists
of increases in pari-mutuel, food and beverage and card casino revenue of 14.0%, 12.3% and 12.0%, respectively. See below for a
further discussion of our sources of revenues.
Pari-mutuel Data Revenue:
|
|
Three Months Ended June 30,
|
|
|
Six Months Ended June 30,
|
|
|
|
2017
|
|
|
2016
|
|
|
2017
|
|
|
2016
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Simulcast
|
|
$
|
1,733,000
|
|
|
$
|
1,784,000
|
|
|
$
|
2,979,000
|
|
|
$
|
3,106,000
|
|
Live Racing
|
|
|
943,000
|
|
|
|
736,000
|
|
|
|
943,000
|
|
|
|
736,000
|
|
Guest Fees
|
|
|
496,000
|
|
|
|
439,000
|
|
|
|
496,000
|
|
|
|
439,000
|
|
Other Revenue
|
|
|
332,000
|
|
|
|
62,000
|
|
|
|
618,000
|
|
|
|
135,000
|
|
Total Pari-Mutuel Revenue
|
|
$
|
3,504,000
|
|
|
$
|
3,021,000
|
|
|
$
|
5,036,000
|
|
|
$
|
4,416,000
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Racing Days
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Simulcast only racing days
|
|
|
154
|
|
|
|
159
|
|
|
|
63
|
|
|
|
67
|
|
Live and simulcast racing days
|
|
|
27
|
|
|
|
23
|
|
|
|
27
|
|
|
|
23
|
|
Total Number of Racing Days
|
|
|
181
|
|
|
|
182
|
|
|
|
90
|
|
|
|
90
|
|
Total pari-mutuel revenue increased $483,000, or 16.0%, for
the three months ended June 30, 2017, compared to the same period in 2016. The increase in other pari-mutuel revenue is due to
receipt of $284,000 in source market fees received under Advanced Deposit Wagering (ADW) legislation that took effect on November
1, 2016. On-track live racing revenue increased $207,000 due to an increase in live racing days during the period as well as an
increase in statutory take-out levels in 2017. In 2016, the Company lowered the take-out on its live races as a promotion to market
the lowest take-out rates in North America, which resulted in substantially reduced revenue. Total pari-mutuel revenue increased
$620,000, or 14.0%, for the six months ended June 30, 2017 compared to the same period in 2016 primarily due to $500,000 received
in ADW source market fees in the first six months of 2017.
Card Casino Revenue:
|
|
Three Months Ended June 30,
|
|
|
Six Months Ended June 30,
|
|
|
|
2017
|
|
|
2016
|
|
|
2017
|
|
|
2016
|
|
Poker Games
|
|
$
|
2,211,000
|
|
|
$
|
2,248,000
|
|
|
$
|
4,547,000
|
|
|
$
|
4,715,000
|
|
Table Games
|
|
|
5,195,000
|
|
|
|
4,097,000
|
|
|
|
9,901,000
|
|
|
|
8,082,000
|
|
Total Collection Revenue
|
|
|
7,406,000
|
|
|
|
6,345,000
|
|
|
|
14,448,000
|
|
|
|
12,797,000
|
|
Other Revenue
|
|
|
707,000
|
|
|
|
656,000
|
|
|
|
1,369,000
|
|
|
|
1,323,000
|
|
Total Card Casino Revenue
|
|
$
|
8,113,000
|
|
|
$
|
7,001,000
|
|
|
$
|
15,817,000
|
|
|
$
|
14,120,000
|
|
The primary source of Card Casino revenue is a percentage of
the wagers received from the players as compensation for providing the Card Casino facility and services, which is referred to
as “collection revenue.” Other Revenue presented above includes fees collected for the administration of tournaments
and amounts earned as reimbursement of the administrative costs of maintaining jackpot funds.
As indicated in the table above, total Card Casino revenue increased
$1,112,000, or 15.9%, and $1,697,000, or 12.0%, for the three and six months, respectively, ended June 30, 2017 compared to the
same periods in 2016. The increases are a result of increased play on table games. This increased play is attributable to players
spending more money due to a stronger economy coupled with four additional live race days (which draws larger crowds to Canterbury)
during 2017 as compared to 2016. Also, higher jackpots on certain games drove increased play.
Food and Beverage Revenue:
Compared to the same periods in 2016, food and beverage revenue
increased $141,000, or 6.3%, and $406,000, or 12.3%, for the three and six months ended June 30, 2017, respectively. The increase
is attributable to more live racing days and additional events held during the second quarter and first six months of 2017 compared
to 2016.
Other Revenue:
Compared to the same periods in 2016, other revenue increased
$236,000, or 14.1%, and $300,000, or 12.0% for the three and six months, respectively, ended June 30, 2017. The increases are primarily
due to increased admission revenue from a greater number of live racing days during 2017. Also, the Company received higher payments
under the CMA for joint marketing efforts with the SMSC. The amounts earned from the marketing payments are offset by an increase in other expenses related to
RiverSouth.
Operating Expenses:
Total operating expenses increased $4,667,000, or 46.7%,
and $5,378,000, or 27.1%, for the three and six months, respectively, ended June 30, 2017 compared to the same periods in 2016. In May 2016, the Company
recognized a gain on the sale of land of $3,991,000, which was reported as a reduction of operating expenses. Excluding the
2016 gain on the sale of land, operating expenses for the periods increased $676,000, or 4.8%, and $1,387,000, or 5.8%,
compared to the same periods in 2016. The following paragraphs provide further detail regarding operating expenses.
Purse expense increased $193,000, or 10.7%, and $289,000, or
10.2%, for the three and six months, respectively, ended June 30, 2017 compared to the same periods in 2016. Also, Minnesota Breeders’
Fund expense increased $68,000, or 28.6%, and $136,000, or 35.5%, for the three and six months, respectively, ended June 30, 2017
compared to the same periods in 2016. The increases are primarily due to increased purse fund payments due to ADW source market
fees and increased Card Casino revenues.
Salaries and benefits increased $397,000, or 6.8%, and $408,000,
or 3.8%, for the three and six months, respectively, ended June 30, 2017 compared to the same periods in 2016. The increase is
partially due to the State of Minnesota mandated increase of $0.50 in the minimum wage effective August 2016 and increased hours
worked due to additional live racing days in 2017 compared to 2016.
Professional and contracted services increased $10,000, or 3.6%,
and $217,000, or 12.1%, for the three and six months, respectively, ended June 30, 2017 compared to the same periods in 2016. The
six month increase is primarily due to increased live racing contracted services as a result of additional live racing days and
increased consulting fees, primarily related to development initiatives.
Other operating expenses increased $238,000, or 77.4%, and $326,000,
or 54.4%, for the three and six months, respectively, ended June 30, 2017 compared to the same periods in 2016. The changes are
primarily attributable to increased expenditures related to RiverSouth, an area wide marketing initiative which is designed to
increase visitors to Shakopee’s entertainment, hospitality and retail businesses.
Income tax expense decreased $1,087,000, or 69.1%, and $939,000,
or 52.6%, for the three and six months, respectively, ended June 30, 2017 compared to the same periods in 2016. The decreases related
to tax expense associated with the gain on sale of land in 2016 that did not recur in 2017. The effective rate was approximately
41% for both periods ended June 30, 2017 and 2016.
Net income for the three months ended June 30, 2017 and 2016
was $717,000 and $2,275,000, respectively. Net income for the six months ended June 30, 2017 and 2016 was $1,230,000 and $2,586,000,
respectively.
Contingencies:
The Company
entered into a Cooperative Marketing Agreement (the “CMA”) with the Shakopee Mdewakanton Sioux Community which became
effective on June 4, 2012, and was amended in January 2015, 2016, and 2017. The CMA contains certain covenants which, if breached,
would trigger an obligation to repay a specified amount related to such covenant. At this time, management believes that the likelihood
that the breach of a covenant would occur and that the Company would be required to pay the specified amount related to such covenant
is remote.
The Company continues to analyze the feasibility of various
options related to the development of our underutilized land. The Company may incur substantial costs during the feasibility and
predevelopment process, but the Company believes available funds are sufficient to cover the costs. See Liquidity and Capital Resources
for more information on liquidity and capital resource requirements.
Liquidity and Capital Resources:
Net cash provided by operating activities for the six months
ended June 30, 2017 was $5,495,000 primarily from net income of $1,230,000, depreciation of $1,223,000, and stock-based compensation
and match of $241,000. The Company also experienced an increase in accounts payable and deferred revenue of $2,537,000 and purse
amounts due to Minnesota horsemen organizations totaling $3,927,000. This was partially offset by an increase in restricted cash
of $4,309,000.
Net cash provided by operating activities for the six months
ended June 30, 2016 was $2,806,000 primarily as a result of the following: The Company reported net income of $2,586,000, depreciation
of $1,195,000, and deferred income taxes of $1,235,000. The Company also experienced an increase in accounts payable and deferred
revenue of $2,751,000 and purse amounts due to Minnesota horsemen organizations totaling of $3,337,000. This was offset by an
increase in restricted cash of $4,423,000, account receivables of $494,000, and gain on the sale of land of $3,991,000, which
was a non-cash transaction.
Net cash used in investing activities for the first six months
of 2017 was $2,732,000, primarily for building remodel projects. Net cash used in investing activities for the first six months
of 2016 was $2,830,000, primarily for building remodel projects and the purchase of land.
Net cash used in financing activities during the first six months
of 2017 was $285,000, primarily for cash dividends to shareholders, partially offset by proceeds from purchases of stock through
the Employee Stock Purchase Plan and proceeds received upon the exercise of stock options. Net cash used in financing activities
during the first six months of 2016 was $2,818,000, primarily for principal payments of capital lease obligations and payment of
cash dividends to shareholders.
The Company has a general credit and security agreement with
Bremer Bank, which provides a revolving credit line of up to $6,000,000 and expires on November 11, 2017. The line of credit is
collateralized by all receivables, inventory, equipment, and general intangibles of the Company. As of June 30, 2017, there were
no borrowings under this agreement
The Company’s cash and cash equivalent balance at June
30, 2017 was $ 8.8 million compared to $ 6.3 million at December 31, 2016. The Company believes that unrestricted funds available
in its cash accounts, amounts available under its revolving line of credit, along with funds generated from operations, will be
sufficient to satisfy its liquidity and capital resource requirements for regular operations, as well as predevelopment expenses
during 2017. However, if the Company engages in any significant real estate development, additional financing would more than likely
be required.
Critical Accounting Policies and Estimates:
The preparation of consolidated financial statements in accordance
with accounting principles generally accepted in the United States of America (“GAAP”) requires management to make
estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities
at the date of the consolidated financial statements and the reported amounts of revenues and expenses during the reporting period.
We base our assumptions, estimates, and judgments on historical experience, current trends, and other factors that management believes
to be relevant at the time the consolidated financial statements are prepared. On a regular basis, management reviews the accounting
policies, assumptions, estimates, and judgments to ensure that our financial statements are presented fairly and in accordance
with GAAP. However, because future events and their effects cannot be determined with certainty, actual results could differ from
our assumptions and estimates, and such differences could be material.
Our significant accounting policies are included in Note 1 to
our consolidated financial statements in our 2016 Annual Report on Form 10-K. We believe the following critical accounting policies
affect our more significant judgments and estimates used in the preparation of our consolidated financial statements.
Property and Equipment
– We have significant
capital invested in our property and equipment, which represents approximately 64% of our total assets at June 30, 2017. We
utilize our judgment in various ways including: determining whether an expenditure is considered a maintenance expense or a
capital asset; determining the estimated useful lives of assets; and determining if or when an asset has been impaired or has
been disposed. Management periodically reviews the carrying value of property and equipment for potential impairment by
comparing the carrying value of these assets with their related expected undiscounted future net cash flows. If the sum of
the related expected future net cash flows is less than the carrying value, management would determine how much of an
impairment loss would be measured by the amount by which the carrying value of the asset exceeds the fair value of the asset.
To date, we have determined that no impairment of these assets exists.
Stock-Based Compensation –
Accounting guidance
requires measurement of services provided in exchange for a share-based payment based on the grant date fair market value. We utilize
our judgment in determining the assumptions used to determine the fair value of equity instruments granted using a Black-Scholes
model.
Commitments and Contractual Obligations:
The Company entered into the CMA with the SMSC on June 4, 2012,
that was amended in January 2015, 2016 and 2017 and expires December 31, 2022. See “Cooperative Marketing Agreement”
below.
Legislation:
Minimum Wage Legislation
Legislation that was enacted into law in 2014 increased the
minimum wage that must be paid to most company employees from $7.25 to $8.00 on August 1, 2014, and from $8.00 to $9.00 per hour
on August 1, 2015. A further increase from $9.00 to $9.50 per hour went into effect on August 1, 2016. In addition, starting January
1, 2018, the minimum wage will increase at the beginning of each year by the rate of inflation with a maximum increase of up to
2.5% per year. Prior to August 1, 2014, the Company employed a large number of individuals who received an hourly wage equal to
or slightly above $7.25 per hour. As a result, this legislation has had an adverse financial impact in 2016 and 2017 and will continue
to have an adverse impact. We have implemented measures to partially mitigate the impact of this increase by raising our prices
and/or reducing our employee count. However, these measures could themselves have an adverse effect because higher prices and diminished
service levels may discourage customers from visiting the Racetrack.
Cooperative Marketing Agreement:
On June 4, 2012, the Company entered into the CMA with the SMSC.
The primary purpose of the CMA is to increase purses paid during live horse racing at Canterbury Park’s Racetrack in order
to strengthen Minnesota’s thoroughbred and quarter horse industry. Under the CMA, as amended, this is achieved through “Purse
Enhancement Payments to Horsemen” paid directly to the MHBPA. Such payments have no direct impact on the Company’s
consolidated financial statements or operations.
Under the terms of the CMA, as amended, the SMSC paid the horsemen
$7.2 million and $6.7 million in the first six months of 2017 and 2016, respectively, primarily for purse enhancements for the
live race meets in the respective years.
Under the CMA, as amended, SMSC also agreed to make “Marketing
Payments” to the Company relating to joint marketing efforts for the mutual benefit of the Company and SMSC, including signage,
joint promotions, player benefits and events. Under the CMA, the SMSC paid the Company $1,581,000 and $1,197,000 for marketing
purposes during the six months ended June 30, 2017 and 2016, respectively.
In each of January 2015, 2016, and 2017 the
CMA was amended three times to adjust the payment amounts between the “Purse Enhancement Payments to Horsemen” and
“Marketing Payments to Canterbury Park.” SMSC is currently obligated to make the following purse enhancement and marketing
payments for 2018 through 2022:
Year
|
|
Purse Enhancement Payments to Horsemen
|
1
|
|
Marketing Payments to Canterbury Park
|
|
2018
|
|
$
|
7,380,000
|
|
|
$
|
1,620,000
|
|
2019
|
|
|
7,380,000
|
|
|
|
1,620,000
|
|
2020
|
|
|
7,380,000
|
|
|
|
1,620,000
|
|
2021
|
|
|
7,380,000
|
|
|
|
1,620,000
|
|
2022
|
|
|
7,380,000
|
|
|
|
1,620,000
|
|
|
1
|
Includes $100,000 each year payable to various horsemen
associations
|
The amounts earned from the marketing payments are recorded
as a component of other revenue and the related expenses are recorded as a component of advertising and marketing expense and depreciation
in the Company’s consolidated statements of operations. For the three and six months ended June 30, 2017, the Company recorded
$468,000 and $625,000 in other revenue and incurred $458,000 and $558,000 in advertising and marketing expense and $57,000 and
$113,000 in depreciation related to the SMSC marketing payment. For the three and six months ended June 30, 2016, the Company recorded
$212,000 and $338,000 in other revenue and incurred $155,000 and $225,000 in advertising and marketing expense and $57,000 and
$113,000 in depreciation related to the SMSC marketing payment. The excess of amounts received over revenue is reflected as deferred
revenue which is included on the consolidated balance sheets.
Under the CMA, the Company has agreed for the term of the CMA
that it will not promote or lobby the Minnesota legislature for expanded gambling authority and will support the SMSC’s lobbying
efforts against expanding gambling authority.
Forward-Looking Statements:
From time-to-time, in reports filed with the
Securities and Exchange Commission, in press releases, and in other communications to shareholders or the investing public, we
may make forward-looking statements concerning possible or anticipated future financial performance, prospective business activities
or plans which are typically preceded by words such as “believes,” “expects,” “anticipates,”
“intends” or similar expressions. For such forward-looking statements, we claim the protection of the safe harbor for
forward-looking statements contained in federal securities laws. Shareholders and the investing public should understand that such
forward-looking statements are subject to risks and uncertainties which could affect our actual results and cause actual results
to differ materially from those indicated in the forward-looking statements. Such risks and uncertainties include, but are not
limited to: material fluctuations in attendance at the Racetrack, decline in interest in wagering on horse races at the Racetrack,
at other tracks, or on unbanked card games offered at the Card Casino, competition from other venues offering unbanked card games
or other forms of wagering, greater than anticipated expenses or a lower than anticipated return on the development of our underutilized
land, competition from other sports and entertainment options, increases in compensation and employee benefit costs, increases
in the percentage of revenues allocated for purse fund payments, higher than expected expenses related to new marketing initiatives,
the impact of wagering products and technologies introduced by competitors, legislative and regulatory decisions and changes, the
general health of the gaming sector, and other factors that are beyond our ability to control or predict.