-----BEGIN PRIVACY-ENHANCED MESSAGE----- Proc-Type: 2001,MIC-CLEAR Originator-Name: webmaster@www.sec.gov Originator-Key-Asymmetric: MFgwCgYEVQgBAQICAf8DSgAwRwJAW2sNKK9AVtBzYZmr6aGjlWyK3XmZv3dTINen TWSM7vrzLADbmYQaionwg5sDW3P6oaM5D3tdezXMm7z1T+B+twIDAQAB MIC-Info: RSA-MD5,RSA, Hl4aHrlHZbclitqrkslsDKHlDIlEWk8HjvKCistk6QHPbMD5z0k5zhwa6fXLXcRL HjugKM9mFKGZSQebqn0uyg== 0000912057-97-028069.txt : 19970815 0000912057-97-028069.hdr.sgml : 19970815 ACCESSION NUMBER: 0000912057-97-028069 CONFORMED SUBMISSION TYPE: 10QSB PUBLIC DOCUMENT COUNT: 2 CONFORMED PERIOD OF REPORT: 19970630 FILED AS OF DATE: 19970814 SROS: NONE FILER: COMPANY DATA: COMPANY CONFORMED NAME: CINEMASTAR LUXURY THEATERS INC CENTRAL INDEX KEY: 0000931085 STANDARD INDUSTRIAL CLASSIFICATION: SERVICES-MOTION PICTURE THEATERS [7830] IRS NUMBER: 330451054 STATE OF INCORPORATION: CA FISCAL YEAR END: 0331 FILING VALUES: FORM TYPE: 10QSB SEC ACT: 1934 Act SEC FILE NUMBER: 000-25252 FILM NUMBER: 97663455 BUSINESS ADDRESS: STREET 1: 431 COLLEGE BLVD CITY: OCEANSIDE STATE: CA ZIP: 92057-5435 BUSINESS PHONE: 6196302011 MAIL ADDRESS: STREET 1: 431 COLLEGE BLVD CITY: OCEANSIDE STATE: CA ZIP: 92057-5435 FORMER COMPANY: FORMER CONFORMED NAME: NICKELODEON THEATER CO INC DATE OF NAME CHANGE: 19941128 10QSB 1 10-QSB ============================================================================== UNITED STATES SECURITIES AND EXCHANGE COMMISSION WASHINGTON, D.C. 20549 FORM 10-QSB (MARK ONE) /X/ QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934. FOR THE QUARTERLY PERIOD ENDED JUNE 30, 1997 / / TRANSITION REPORT UNDER SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 FOR THE TRANSITION PERIOD FROM TO COMMISSION FILE NUMBER 0-25252 CINEMASTAR LUXURY THEATERS, INC. (EXACT NAME OF REGISTRANT AS SPECIFIED IN ITS CHARTER) CALIFORNIA 33-0451054 (STATE OR OTHER JURISDICTION OF (I.R.S. EMPLOYER ID NO.) INCORPORATION OR ORGANIZATION) 431 COLLEGE BLVD., OCEANSIDE, CA 92057-5435 (ADDRESS OF PRINCIPAL EXECUTIVE OFFICES) (ZIP CODE) (760) 630-2011 (REGISTRANT'S TELEPHONE NUMBER, INCLUDING AREA CODE) (FORMER NAME, FORMER ADDRESS AND FORMAL FISCAL YEAR, IF CHANGED SINCE LAST REPORT) Check whether the issuer (1) has filed all reports required to be filed by section 13 or 15(d) of the Exchange Act during the past 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. YES X NO ------- ------- Common stock, no par value: 8,019,182 shares outstanding as of August 14, 1997. Transitional Small Business Disclosure Format (check one): YES NO X --- --- ============================================================================== CINEMASTAR LUXURY THEATERS, INC. TABLE OF CONTENTS PAGE NO. PART I. FINANCIAL INFORMATION Item 1. Financial Statements Condensed Consolidated Balance Sheet as of June 30, 1997.... 1 Condensed Consolidated Statements of Operations for the three months ended June 30, 1997 and 1996................... 2 Condensed Consolidated Statements of Cash Flows for the three months ended June 30, 1997 and 1996................... 3 Notes to Condensed Consolidated Financial Statements........ 4 Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations......................... 5-15 Item 3. Defaults Upon Senior Securities............................. 16 PART II. OTHER INFORMATION Item 6. Exhibits and Reports on Form 8-K............................ 16 Signatures.................................................. 17 PART I -- FINANCIAL INFORMATION ITEM 1 -- FINANCIAL STATEMENTS CINEMASTAR LUXURY THEATERS, INC. AND SUBSIDIARIES CONDENSED CONSOLIDATED BALANCE SHEET (UNAUDITED)
JUNE 30, 1997 ------------- ASSETS CURRENT ASSETS Cash................................................................. 568,421 Commission and other receivables..................................... 107,775 Prepaid expenses..................................................... 62,772 Other current assets................................................. 327,024 ----------- Total current assets................................................. 1,065,992 Property and equipment, net.......................................... 12,284,328 Preopening costs..................................................... 51,980 Deposits and other assets............................................ 773,274 ----------- TOTAL ASSETS......................................................... $14,175,574 ----------- ----------- LIABILITIES AND STOCKHOLDERS' EQUITY CURRENT LIABILITIES Current portion of long-term debt and capital lease obligations...... $ 6,304,682 Accounts payable..................................................... 3,244,049 Accrued expenses..................................................... 298,670 Deferred revenue..................................................... 146,264 Advances from stockholder............................................ 97,428 ----------- Total current liabilities............................................ 10,091,093 Long-term debt and capital lease obligations, net of current portion............................................................ 211,799 Deferred rent liability.............................................. 2,499,207 ----------- TOTAL LIABILITIES.................................................... 12,802,099 ----------- COMMITMENTS AND CONTINGENCIES STOCKHOLDERS' EQUITY Preferred stock, no par value; 100,000 shares authorized; Series A redeemable preferred stock, no par value; 25,000 shares designated; no shares issued or outstanding...................... -- Common stock, no par value; 15,000,000 shares authorized; 7,944,182 shares issued and outstanding.......................... 9,424,618 Additional paid-in capital........................................... 2,559,027 Accumulated deficit.................................................. (10,610,170) ----------- TOTAL STOCKHOLDERS' EQUITY........................................... 1,373,475 ----------- TOTAL LIABILITIES AND STOCKHOLDERS' EQUITY........................... $14,175,574 ----------- -----------
See accompanying notes to condensed consolidated financial statements. 1 CINEMASTAR LUXURY THEATERS, INC. AND SUBSIDIARIES CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS (UNAUDITED)
THREE MONTHS ENDED JUNE 30, --------------------------- 1997 1996 ---------- ---------- REVENUES: Admissions........................................................... $3,915,058 $2,963,529 Concessions.......................................................... 1,719,006 1,202,922 Other operating revenues............................................. 118,669 93,952 ---------- ---------- TOTAL REVENUES....................................................... 5,752,733 4,260,403 ---------- ---------- Cost and expenses: Film rental and booking costs........................................ 2,248,524 1,603,729 Cost of concession supplies.......................................... 593,194 358,984 Theater operating expenses........................................... 2,280,566 1,406,343 General and administrative expenses.................................. 874,432 533,806 Depreciation and amortization........................................ 454,598 225,641 ---------- ---------- TOTAL COSTS AND EXPENSES............................................. 6,451,314 4,128,503 ---------- ---------- OPERATING INCOME (LOSS).............................................. (698,581) 131,900 ---------- ---------- OTHER INCOME (EXPENSE): Interest income.................................................... 6,553 2,644 Interest expense................................................... (186,869) (150,661) Non-cash interest expense related to convertible debentures........ -- (977,568) ---------- ---------- TOTAL OTHER (EXPENSE)................................................ (180,316) (1,125,585) ---------- ---------- LOSS BEFORE PROVISION FOR INCOME TAXES............................... (878,897) (993,685) PROVISION FOR INCOME TAXES........................................... -- -- ---------- ---------- NET LOSS............................................................. $ (878,897) $ (993,685) ---------- ---------- ---------- ---------- NET LOSS PER COMMON SHARE............................................ $ (.11) $ (.16) ---------- ---------- ---------- ---------- WEIGHTED AVERAGE NUMBER OF COMMON SHARES AND SHARE EQUIVALENTS OUTSTANDING.......................................................... 7,790,747 6,254,000 ---------- ---------- ---------- ----------
See accompanying notes to condensed consolidated financial statements. 2 CINEMASTAR LUXURY THEATERS, INC. AND SUBSIDIARIES CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS (UNAUDITED) INCREASE (DECREASE) IN CASH AND CASH EQUIVALENTS
THREE MONTHS ENDED JUNE 30, --------------------------- 1997 1996 ------------ ------------ CASH FLOWS FROM OPERATING ACTIVITIES: Net loss............................................................ $ (878,897) $ (993,685) Adjustments to reconcile net loss to net cash provided by operating activities: Depreciation and amortization..................................... 454,598 259,749 Deferred rent liability........................................... 212,861 236,834 Non-cash interest expense......................................... -- 977,568 Increase (decrease) from changes in: Commission and other receivables............................... (77,094) (23,194) Prepaid expenses and other current assets...................... 26,151 (122,065) Deposits and other assets...................................... (82,516) (138,406) Accounts payable............................................... 514,239 492,774 Accrued expenses and other liabilities......................... 613 (178,912) ----------- ----------- Cash provided by operating activities............................... 169,955 510,663 ----------- ----------- CASH FLOWS FROM INVESTING ACTIVITIES: Purchases of property and equipment................................. (1,750,714) (1,336,802) Deposits and other assets........................................... (332,514) 600,000 ----------- ----------- Cash used in investing activities................................... (2,083,228) (736,802) ----------- ----------- CASH FLOWS FROM FINANCING ACTIVITIES: Proceeds from issuance of long-term debt............................ 2,000,000 500,000 Principal payments on long-term debt and capital lease obligations....................................................... (204,381) (157,342) Proceeds from issuance of convertible debentures.................... -- 1,000,000 Advances from stockholder........................................... 84,429 60,000 Repayment of advances from stockholder.............................. -- (320,000) Payment of debt issuance costs...................................... -- (172,772) ----------- ----------- Cash provided by financing activities............................... 1,880,048 909,886 ----------- ----------- Net increase (decrease) in cash..................................... (33,225) 683,747 Cash beginning of period............................................ 601,646 458,550 ----------- ----------- Cash end of period.................................................. $ 568,421 $ 1,142,297 ----------- ----------- ----------- -----------
See accompanying notes to condensed consolidated financial statements. 3 CINEMASTAR LUXURY THEATERS, INC. AND SUBSIDIARIES NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS JUNE 30, 1997 (UNAUDITED) NOTE 1 The interim accompanying unaudited condensed consolidated financial statements have been prepared in accordance with generally accepted accounting principles for interim financial information and the instructions to Form 10-QSB. Accordingly, they do not include all of the information and footnotes required by generally accepted accounting principles for complete financial statements. In the opinion of management, all adjustments (consisting of normal recurring accruals) considered necessary for a fair presentation have been included. For further information, refer to the audited financial statements for the year ended March 31, 1997 and footnotes thereto, included in the Company's Annual Report on Form 10-KSB which was filed with the Securities and Exchange Commission. Operating results for the three month period ended June 30, 1997 are not necessarily indicative of the results of operations that may be expected for the year ending March 31, 1998. NOTE 2 On April 23, 1997, the Company amended its Concession Lease Agreement with Pacific Concessions Inc. (PCI) in exchange for a $2,000,000 loan at an interest rate of prime plus two percent. The loan is for a period of two years with monthly interest payments and $1,000,000 principal payments due at the end of twelve and twenty-four months. As a result of the amended agreements PCI now supplies concessions to all of the current theaters in exchange for specified commissions. NOTE 3 On June 24, 1997, the Company signed a letter of intent to sell $15,000,000 of newly issued common stock to Rust Capital, Ltd. (the "Buyer"). The proposed agreement would allow the Buyer to purchase at least 51% of the Company's common stock upon completion of the transaction, which is subject to certain conditions and a vote by the current stockholders. On July 25 and July 29, 1997 the Company granted extensions to Rust Capital, Ltd. for continued due diligence and preparation of a definitive agreement. As of August 5, 1997, the letter of intent expired without further extension. However, the Company and Rust Capital, Ltd. continue actively to discuss a possible transaction. The Company expects the transaction to be completed during the second quarter of fiscal year 1998, however there can be no assurance that this transaction will ultimately be consummated. NOTE 4 In March 1997, the FASB issued Statement of Financial Accounting Standards No. 128, "Earnings Per Share" ("SFAS No. 128"). This pronouncement provides a different method of calculating earnings per share than is currently used in accordance with APB Opinion 15, "Earnings Per Share." FAS 128 provides for the calculation of Basic and Diluted earnings per share. Basic earnings per share includes no dilution and is computed by dividing income available to common shareholders by the weighted average number of common shares outstanding for the period. Diluted earnings per share reflects the potential dilution of securities that could share in the earnings of an entity, similar to fully diluted earnings per share. This pronouncement is effective for fiscal years and interim periods ending after December 15, 1997; early adoption is not permitted. The Company does not believe that the adoption of this pronouncement will have a material impact on the net loss per share presented in the accompanying statements of operations. Statement of Financial Accounting Standards No. 129 "Disclosure of Information about Capital Structure" (SFAS No. 129) issued by the FASB is effective for financial statements ending after December 15, 1997. The new standard reinstates various securities disclosure requirements previously in effect under Accounting Principles Board Opinion No. 15, which has been superseded by SFAS No. 128. The Company does not expect adoption of SFAS No. 129 to have a material effect on its financial position or results of operations. Statement of Financial Accounting Standards No. 130, "Reporting Comprehensive Income" (SFAS No. "130") issued by the FASB is effective for financial statements with fiscal years beginning after December 15, 1997. Earlier application is permitted. SFAS No. 130 establishes standards for reporting and display of comprehensive income and its components in a full set of general-purpose financial statements. The Company has not determined the effect on its financial position or results of operations from the adoption of this statement. Statement of Financial Accounting Standards No. 131 "Disclosures about Segments of an Enterprise and Related Information" (SFAS No. "131") issued by the FASB is effective for financial statements beginning after December 15, 1997. The new standard requires that public business enterprises report certain information about operating segments in complete sets of financial statements of the enterprise and in condensed financial statements of interim periods issued to shareholders. It also requires that public business enterprises report certain information about their products and services, the geographic areas in which they operate and their major customers. The Company does not expect adoption of SFAS 131 to have a material effect on its results of operations. NOTE 5 Certain reclassifications have been made to the June 30, 1996 financial statements to conform to the June 30, 1997 presentation. 4 ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS GENERAL RESULTS OF OPERATIONS The following discussion and analysis should be read in conjunction with the Company's Condensed Consolidated Financial Statements and notes thereto included elsewhere in this Form 10-QSB. Except for the historical information contained herein, the discussion in this Form 10-QSB contains certain forward looking statements that involve risks and uncertainties, such as statements of the Company's plans, objectives, expectations and intentions. The cautionary statements made in this Form 10-QSB should be read as being applicable to all related forward-looking statements wherever they appear in this Form 10-QSB. The Company's actual results could differ materially from those discussed here. Factors that could cause or contribute to such differences include those discussed in "Risk Factors," as well as those discussed elsewhere herein. Three months ended June 30, 1997 compared to three months ended June 30, 1996. At June 30, 1996, the Company operated five theater locations with a total of 44 screens. During the twelve months ended June 30, 1997, the Company added two locations with an additional 20 screens. At June 30, 1997 the Company operated 7 locations and 64 screens. The addition of the two theaters resulted in an increase in revenues and expenses for the three months ended June 30, 1997 compared to June 30, 1996. Of the two new theater locations, one of these locations has not met the Company's expectations regarding attendance and revenue. The Company is continually evaluating the situation and attempting to develop means with which to increase attendance and revenue at that location. Total revenues for the three months ended June 30, 1997 increased 35.0% to $5,752,733 from $4,260,403 for the three months ended June 30, 1996. The increase consisted of a $951,529, or 32.1%, increase in admission revenues, a $516,084, or 42.9%, increase in concession revenues, and a $24,717, or 26.3%, increase in other operating revenues. New theaters had admission revenues of $790,468, concession sales of $354,046, and other operating revenues of $32,348 making total revenues from new theaters $1,176,862. There was an increase in total revenues from continuing theaters of $315,468, or 7.4%. Management believes the increase in revenues at continuing theaters reflects higher movie attendance based on more successful film releases. Film rental and booking costs for the three months ended June 30, 1997 increased 40.2% to $2,248,524 from $1,603,729 for the three months ended June 30, 1996. The increase was due to additional film rental and booking costs paid on increased admission revenues and new theaters. New theaters had film rental and booking costs of $434,565. As a percentage of admission revenues, film rental and booking costs for the three months ended June 30, 1997 increased to 57.4% from 54.1% for the three months ended June 30, 1996. This increase can be attributable to a shorter film run for the more popular movies. Cost of concession supplies for the three months ended June 30, 1997 increased 65.2% to $593,194 from $358,984 for the three months ended June 30, 1996. The dollar increase is primarily due to additional concession costs associated with increased concession sales and higher costs under the amended concession agreement with Pacific Concessions Inc. New theaters had concession costs of $99,546. As a percentage of concession revenues, concession costs for the three months ended June 30, 1997 increased to 34.5% from 29.8% for the three months ended June 30, 1996. On April 23, 1997, the Company amended its concession agreements with Pacific Concessions, Inc. ("PCI") and as a result PCI now receives a specified commission for providing concessions to all of the Company's theaters. The long-term contract with PCI is tied to loans PCI has made to the Company and there is a substantial penalty to end the contract earlier than its negotiated terms. This amended concession agreement is the reason for the increase in concession costs as a percentage of concession revenues. 5 Theater operating expenses for the three months ended June 30, 1997 increased 62.2% to $2,280,566 from $1,406,343 for the three months ended June 30, 1996. As a percentage of total revenues, theater operating expenses increased to 39.6% from 33.0% during the applicable periods. New theaters had operating expenses of $725,167 which accounted for a portion of the increase. Increased wages due to an increase in the minimum wage as well as a general increase in certain costs including utilities and repairs and maintenance also contributed to the increase in theater operating expenses. General and administrative expenses for the three months ended June 30, 1997 increased 63.8% to $874,432 from $533,806 for the three months ended June 30, 1996. As a percentage of total revenues, general and administrative costs increased to 15.2% from 12.5% during the applicable periods. The increase is primarily due to start up costs for the Mexican theater. Depreciation and amortization for the three months ended June 30, 1997 increased 101.5% to $454,598 from $225,641 for the three months ended June 30, 1996. The increase is a result of additional purchases of equipment, the costs associated with the new theaters, and related amortization of preopening costs. Interest expense for the three months ended June 30, 1997 increased to $186,869 from $150,661 for the three months ended June 30, 1996. This is attributable to new debt used to finance new theater development and fund working capital. Non-cash interest expense of $977,568 for the three months ended June 30, 1996 resulted from issuing debentures which were convertible at a discount from the market price of the common stock. The non-cash interest recorded on the convertible debentures was amortized over the periods which the debentures first became convertible and had no effect on stockholders' equity and operating income. Interest income for the three months ended June 30, 1997 increased to $6,553 from $2,644 for the three months ended June 30, 1996. Higher bank cash balances for a period of time account for the higher interest income. As a result of the factors discussed above, the net loss for the three months ended June 30, 1997 decreased to $878,897 or $0.11 per common share, from $993,685 or $0.16 per common share, for the three months ended June 30, 1996. LIQUIDITY AND CAPITAL RESOURCES The Company's revenues are collected in cash, principally through box office admissions and concession sales. Because its revenues are received in cash prior to the payment of related expenses, the Company has an operating "float" which partially finances its operations. The Company's capital requirements arise principally in connection with new theater openings and acquisitions of existing theaters. In the past new theater openings have typically been financed with internally generated cash flow and long-term debt financing arrangements for facilities and equipment. The Company lacks the ability to finance its current capital obligations through internally generated funds and is seeking additional capital. On June 24, 1997, the Company signed a non-binding letter of intent to sell $15 million of newly issued common stock to Rust Capital, Ltd. The letter of intent was subject to various conditions and approval by the Company's current shareholders. Upon completion of the transaction, Rust Capital, Ltd. would own no less than 51% of the Company's common stock on a fully diluted basis. With the additional $15 million, the Company would have enough funds to complete current capital obligations, pay off a portion of long-term debt, and have working capital sufficient to continue its expansion plans. On July 25 and July 29, 1997 the Company granted extensions to Rust Capital, Ltd. for continued due diligence and preparation of a definitive agreement. As of August 5, 1997, the letter of intent expired without further extension. However, the Company and Rust Capital, Ltd. continue actively to discuss a possible transaction, however, there can be no assurance that this transaction will be consummated. Failure of the Company to consummate this transaction would have a material adverse effect on the Company's business, results of operations and/or liquidity, and raises substantial doubt about the Company's ability to continue as a going concern. On April 23, 1997, the Company amended its Concession Lease Agreement with Pacific Concessions Inc. (PCI) in exchange for a $2,000,000 loan at an interest rate of prime plus two percent. The loan is for a period of two years with monthly interest payments and $1,000,000 principal payments due at the end of twelve and twenty-four months. As a result of the amended agreements PCI now supplies concessions to all 6 of the current theaters in exchange for specified commissions which will result in a reduction in the profitability of concession sales by the Company. The Company's current credit agreements with its bank contain certain financial covenants which the Company is required to meet. At June 30, 1997 the Company is not in compliance with certain covenants. The bank has agreed to forbear any adverse action pending the outcome of the proposed Rust Capital Ltd. transaction. If the Rust Capital Ltd. transaction is consummated by September 30, 1997, it is expected the bank will waive the related covenants. If the transaction is not consummated the Company will continue to be out of compliance with the bank credit agreements and there can be no assurance that the bank will not declare the credit agreement in default and require immediate payment of the outstanding balance. At June 30, 1997, the outstanding balance due was $1,265,717. The loan is secured by a trust deed on the Company's Chula Vista 6 Theater. The Company also is in violation of certain covenants in several other financing agreements; these covenants prohibit the Company from incurring other indebtedness or further encumbering property, and/or require security interests to be of first priority. No event of default has been declared to date. The financiers could terminate equipment leases, accelerate loans, foreclose the Chula Vista 6 property and take other remedial actions. In such an event the Company would be unable to continue some or all of its operations, and its business, results of operations and/or liquidity would be materially and adversely affected. The Company is attempting to obtain waivers of these violations, although no assurance can be given that it will obtain any or all of these waivers. The Company leases six theater properties and various equipment under noncancelable operating lease agreements which expire through 2021 and require various minimum annual rentals. At June 30, 1997, the aggregate future minimum lease payments due under noncancelable operating leases was approximately $82,500,000. The Company has also signed lease agreements for three additional theater locations. The new leases will require expected minimum rental payments aggregating approximately $73,000,000 over the life of the leases. Accordingly, existing minimum lease commitments as of June 30, 1997 plus those expected minimum commitments for the proposed theater locations would aggregate minimum lease commitments of approximately $155,500,000. During the three months ended June 30, 1997, the Company generated cash of $169,955 from operating activities, as compared to generating $510,663 in cash from operating activities for the three months ended June 30, 1996. During the three months ended June 30, 1997, the Company used cash in investing activities of $2,083,228, as compared to $736,802 for the three months ended June 30, 1996. Purchases of equipment, deposits on equipment and construction of leasehold improvements account for the increase in use of cash in investing activities. During the three months ended June 30, 1997, the Company provided net cash of $1,880,048 from financing activities, as compared to providing $909,886 for the three months ended June 30, 1996. The cash generated for the three months ended June 30, 1997 came primarily from a loan from Pacific Concessions Inc., partially offset by debt repayment. The Company, at June 30, 1997, had a working capital deficit of $9,025,101. The Company's plans for expansion are dependent upon its ability to raise capital through outside sources. In this regard, the Company has entered into lease and other binding commitments with respect to the development of 40 additional screens at three locations. The capital requirements necessary for the Company to complete its development plans is estimated to be at least $10,750,000 in fiscal 1998. Included in these amounts are screens currently under construction in Tijuana, Mexico. Such developments will require the Company to raise substantial amounts of new financing, in the form of additional equity or loan financing, during fiscal 1998. There can be no assurance that the Company will be able to obtain such additional financing on terms that are acceptable to the Company and at the time required by the Company, or at all. If the Company is unable to obtain such additional equity or loan financing, the Company's 7 financial condition, results of operations and/or liquidity will be materially adversely affected. Moreover, the Company's estimate of its cash requirements to develop and operate such theaters and service any debts incurred in connection with the development of such theaters are based upon certain assumptions, including certain assumptions as to the Company's revenues, earnings and other factors, and there can be no assurance that such assumptions will prove to be accurate or that unbudgeted costs will not be incurred. Future events, including the problems, delays, expenses and difficulties frequently encountered by similarly situated companies, as well as changes in economic, regulatory or competitive conditions, may lead to cost increases that could have a material adverse effect on the Company and its expansion and development plans. The Company used a substantial portion of its available cash to purchase the Chula Vista 6 in August 1995 but obtained mortgage financing in January 1996 for part of the purchase price of such complex. If the Company is not successful in obtaining loans or equity financing for future developments, it is unlikely that the Company will have sufficient cash to open additional theaters. The Company has had significant net losses in each fiscal year of its operations, including net losses of $509,336, $1,551,002, $2,086,418, $638,585 and $4,304,370 in the fiscal years ended March 31, 1993, 1994, 1995, 1996 and 1997, respectively. There can be no assurance as to when the Company will be profitable, if at all. Continuing losses would have a material adverse effect on the liquidity and operations of the Company. In addition, the Company may encounter difficulties in obtaining the necessary debt and/or equity financing and complying with the conditions and covenants of its loan and other agreements. These factors, among others, raise substantial doubt about the Company's ability to continue as a going concern. The Company is not current in its payments due to the contractor and subcontractors for improvements at one of its theaters. Failure to pay these parties within a reasonable period of time may result in these parties placing liens on the Company's theater which would likely have a material adverse effect on the Company's business, results of operations, and/or liquidity. As of March 31, 1997, the Company had net operating loss carryforwards ("NOLs") of approximately $4,175,000 and $2,080,000 for Federal and California income tax purposes, respectively. The Federal NOLs are available to offset future years taxable income and expire in 2006 through 2012, while the California NOLs are available to offset future years taxable income and expire in 1998 through 2002. The utilization of these NOLs could be limited due to restrictions imposed under the Federal and state laws upon a change in ownership. At June 30, 1997, the Company has total net deferred income tax assets in excess of $2,000,000. Such potential income tax benefits, a significant portion of which relates to the NOLs discussed above, have been subjected to a 100% valuation allowance since realization of such assets is not more likely than not in light of the Company's recurring losses from operations. Because of the Company's present financial condition, normal sources of external financing may not be available to the Company in the future, including additional private placements of convertible debentures. The Company has identified potential sources of financing other than Rust Capital Ltd., however if the Rust Capital, Ltd. financing is not consummated there can be no assurance that the other potential sources will consummate any proposed financing and therefore it is uncertain whether any additional financing will be available to the Company in the future. As a result of its operating losses, the Company requires an immediate infusion of cash in order to meet its current obligations and continue operations. The Company believes that negative consequences will result with its creditors if additional cash is not obtained in the very near future. The Company's failure to obtain sufficient additional financing within the requisite time frame could make it impossible for the Company to continue operations, force the Company to seek protection under Federal bankruptcy law, and/or affect the Company's listing on the Nasdaq Small Cap Market. The Company was informed by NASDAQ on August 5, 1997 that since the Company's Common Stock failed to maintain a closing bid price greater than or equal to $1.00 and the Company did not have capital and surplus of $2,000,000 or a public float market value of $1,000,000, the Company fails to maintain NASDAQ eligibility standards for listing on the Nasdaq SmallCap Market. NASDAQ has given the Company 90 days to regain its eligibility or otherwise provide a plan to NASDAQ of how the Company intends to achieve compliance. A delisting from the Nasdaq SmallCap Market could adversely affect the market for and price of the Company's securities. The Company anticipates that it will need approximately $15,000,000 of additional financing during the next twelve months. This estimate, which is subject to change without notice, assumes that the Company is able to achieve its current revenue and expense projections for the second quarter of fiscal 1998 and succeeding quarters, without material variance. There can be no assurance, however, that these assumptions will prove correct or that changes affecting the Company's operating expenses, capital 8 expenditures, business strategy, supplier credit arrangements, and other matters will not result in the expenditure of any available resources before the end of such twelve month period. Thereafter, the Company may require additional equity and/or debt financing from third party sources. Moreover, the Company's cash requirements may vary materially from those now planned because of changes in the Company's business or capital expenditure plans, or acquisitions or dispositions of businesses or assets and/or other factors. As a consequence of its recent operating losses and its financial condition, the Company is currently in violation of loan covenants in its banking facility. The Company is in ongoing discussions with its bank regarding what actions are to be taken as a result of the covenant violations. The bank has temporarily waived the violations, but in the future could accelerate the indebtedness or take certain other actions in order to protect its interests. In March 1997, the FASB issued Statement of Financial Accounting Standards No. 128, "Earnings Per Share" ("SFAS No. 128"). This pronouncement provides a different method of calculating earnings per share than is currently used in accordance with APB Opinion 15, "Earnings Per Share." FAS 128 provides for the calculation of Basic and Diluted earnings per share. Basic earnings per share includes no dilution and is computed by dividing income available to common shareholders by the weighted average number of common shares outstanding for the period. Diluted earnings per share reflects the potential dilution of securities that could share in the earnings of an entity, similar to fully diluted earnings per share. This pronouncement is effective for fiscal years and interim periods ending after December 15, 1997; early adoption is not permitted. The Company does not believe that the adoption of this pronouncement will have a material impact on the net loss per share presented in the accompanying statements of operations. Statement of Financial Accounting Standards No. 129 "Disclosure of Information about Capital Structure" (SFAS No. 129) issued by the FASB is effective for financial statements ending after December 15, 1997. The new standard reinstates various securities disclosure requirements previously in effect under Accounting Principles Board Opinion No. 15, which has been superseded by SFAS No. 128. The Company does not expect adoption of SFAS No. 129 to have a material effect on its financial position or results of operations. Statement of Financial Accounting Standards No. 130, "Reporting Comprehensive Income" (SFAS No. "130") issued by the FASB is effective for financial statements with fiscal years beginning after December 15, 1997. Earlier application is permitted. SFAS No. 130 establishes standards for reporting and display of comprehensive income and its components in a full set of general-purpose financial statements. The Company has not determined the effect on its financial position or results of operations from the adoption of this statement. Statement of Financial Accounting Standards No. 131 "Disclosures about Segments of an Enterprise and Related Information" (SFAS No. "131") issued by the FASB is effective for financial statements beginning after December 15, 1997. The new standard requires that public business enterprises report certain information about operating segments in complete sets of financial statements of the enterprise and in condensed financial statements of interim periods issued to shareholders. It also requires that public business enterprises report certain information about their products and services, the geographic areas in which they operate and their major customers. The Company does not expect adoption of SFAS 131 to have a material effect on its results of operations. RISK FACTORS Except for the historical information contained herein, the discussion in this Form 10-QSB contains certain forward-looking statements that involve risks and uncertainties, such as statements of the Company's plans, objectives, expectations and intentions. The cautionary statements made in the Form 10-QSB should be read as being applicable in all related forward looking statements wherever they appear in this Form 10-QSB. The Company's actual results could differ materially from those discussed here. Factors that could cause or contribute to such differences include those discussed below, as well as those discussed elsewhere herein, and in the Company's most recently filed Annual Report on Form 10-KSB. HISTORY OF LOSSES; DOUBT ABOUT ABILITY TO CONTINUE AS A GOING CONCERN. The Company was founded in April 1989. Operations began with the completion of construction of the Company's first theater in November 1991. The Company has had significant net losses in each fiscal year of its operations, including net losses of $4,304,370 and $638,585 in the fiscal years ended March 31, 1997, and 1996, and net losses of $878,897 and $993,685 in the quarters ended June 30, 1997 and 1996, respectively. The Company's independent certified public accountants have highlighted the uncertainty related to substantial doubt about the Company's ability to continue as a going concern in their independent auditors' report on the Company's consolidated financial statements for the years ended March 31, 1997 and 1996. The Company requires an immediate infusion of cash in order to meet its current obligations and continue operations. The Company's failure to obtain sufficient additional financing within the requisite time frame could make it impossible for the Company to continue operations, force the Company to seek protection under federal bankruptcy law, and/or affect the Company's listing on the Nasdaq SmallCap Market. NEED FOR ADDITIONAL FINANCING; USE OF CASH. The Company has had aggressive expansion plans. In this regard, the Company has entered into lease and other binding commitments with respect to the development of 40 additional screens at three locations during fiscal 1998. The capital requirements necessary for the Company to complete its development plans is estimated to be at least $10,750,000. Such developments will require the Company to raise substantial amounts of new financing, in the form of additional equity investments or loan financing, during fiscal 1998. There can be no assurance that the Company will be able to obtain such additional financing on terms that are acceptable to the Company and at the time required by the Company, or at all. If the Company is unable to obtain such additional equity or loan financing, the Company's financial condition, results of operations, and/or liquidity will be materially and adversely affected. POTENTIAL DILUTION. The Company recently has financed certain expansion activities through the private placement of debt instruments convertible into shares of its common stock. In order to induce parties to purchase such securities, the instruments were convertible into common stock of the Company at a conversion price that was significantly lower than the price at which the Company's common stock was trading. The Company believes that because of its history of operating losses, limited equity, and rapid growth plans, it has limited options in acquiring the additional debt and/or equity. The Company believes that any equity financing would likely result in substantial dilution of current shareholders. The Company has 9 entered into a letter of intent for $15 million of equity financing that will, if completed, result in significant dilution of current shareholders. DEPENDENCE ON FILMS. The ability of the Company to operate successfully depends upon a number of factors, the most important of which is the availability of marketable motion pictures. Poor relationships with film distributors, a disruption in the production of motion pictures or poor commercial success of motion pictures would have a material adverse effect upon the Company's business, results of operations, and/or liquidity. LONG-TERM LEASE OBLIGATIONS; PERIODIC RENT INCREASES. The Company operates most of its current theaters pursuant to long-term leases which provide for large monthly minimum rental payments which increase periodically over the terms of the leases. The Chula Vista 6 is owned by the Company and not subject to such lease payments. The Company will be dependent upon increases in box office and other revenues to meet these long-term lease obligations. In the event that box office and other revenues decrease or do not significantly increase, the Company will likely not have sufficient revenues to meet its lease obligations, which would have a material adverse effect on the Company's business, results of operations, and/or liquidity. POSSIBLE DELAY IN THEATER DEVELOPMENT AND OTHER CONSTRUCTION RISKS. In connection with the development of its theaters, the Company typically receives a construction allowance from the property owner and oversees the design, construction and completion of the theater site. The Company is generally responsible for construction costs in excess of the negotiated construction allowance. As a result, the Company is subject to many of the risks inherent in the development of real estate, many of which are beyond its control. Such risks include governmental restrictions or changes in Federal, state or local laws or regulations, strikes, adverse weather, material shortages and increases in the costs of labor and materials. There can be no assurance that the Company will be able to successfully complete any theater development in a timely manner or within its proposed construction allowance. The Company has experienced costs materially in excess of its allowances in two theaters and delays in connection with the development of one of its existing theaters and no assurance can be given that such overruns and delays will not occur with respect to any future theater developments. Failure of the Company to develop its theaters within the construction allowance allocated to it will likely have a material adverse effect on the Company's business, results of operations, and/or liquidity. In addition, the Company will be dependent upon unaffiliated contractors and project managers to complete the construction of its theaters. Although the Company believes that it will be able to secure commitments from contractors, project managers and other personnel needed to design and construct its theaters, the inability to consummate a contract for the development of a theater or any subsequent failure of any contractor or supplier to comply with the terms of its agreement with the Company might have a material adverse effect on the Company's business, results of operations, and/or liquidity. DEPENDENCE ON ABILITY TO SECURE FAVORABLE LOCATIONS AND LEASE TERMS. The success of the Company's operations is dependent on its ability to secure favorable locations and lease terms for each of its theaters. There can be no assurance that the Company will be able to locate suitable locations for its theaters, and even if the Company can locate suitable locations to lease, its current financial condition may prevent it from obtaining favorable lease terms. The failure of the Company to secure favorable locations for its theaters or to lease such locations on favorable terms would have a material adverse effect on the Company's business, results of operations, and/or liquidity. COMPETITION. The motion picture exhibition industry is highly competitive, particularly with respect to licensing films, attracting patrons and finding new theater sites. There are a number of well-established competitors with substantially greater financial and other resources than the Company that operate in Southern California. Many of the Company's competitors, including Pacific Theaters and Mann Theaters, each of which operates one or more theaters in the same geographic vicinity as the Company's current theaters, have been in existence significantly longer than the Company and are both better established in 10 the markets where the Company's theaters are or may be located and better capitalized than the Company. Competition can also come from other sources such as television, cable television, pay television, direct satellite television and video cassettes. Many of the Company's competitors have established, long-term relationships with the major motion picture distributors (Paramount, Disney/Touchstone, Warner Brothers, Columbia/Tri-Star, Universal and 20th Century Fox), who distribute a large percentage of successful films. Although the Company attempts to identify film licensing zones in which there is no substantial current competition, there can be no assurance that the Company's competitors will not develop theaters in the same film zone as the Company's theaters. To the extent that the Company directly competes with other theater operators for patrons or for the licensing of first-run films, the Company may be at a competitive disadvantage. Although the Company attempts to develop theaters in geographic areas that it believes have the potential to generate sufficient current and future box office attendance and revenues, adverse economic or demographic developments, over which the Company has no control, could have a material adverse effect on box office revenues and attendance at the Company's theaters. In addition, there can be no assurance that new theaters will not be developed near the Company's theaters, which development might alter existing film zones and might have a material adverse effect on the Company's revenues and earnings. In addition, future advancements in motion picture exhibition technology and equipment may result in the development of costly state-of-the-art theaters by the Company's competitors which may make the Company's current theaters obsolete. There can be no assurance that the Company will be financially able to pay for or able to incorporate such new technology or equipment, if any, into its existing or future theaters. In recent years, alternative motion picture exhibition delivery systems have been developed for the exhibition of filmed entertainment, including cable television, direct satellite delivery, video cassettes and pay-per-view. An expansion of such delivery systems could have a material adverse effect on motion picture attendance in general and upon the Company's business, results of operations, and/or liquidity. GEOGRAPHIC CONCENTRATION. Each of the Company's current theaters is located in San Diego or Riverside Counties, California and the proposed theaters are all in Southern California or Mexico. As a result, negative economic or demographic changes in these areas will have a disproportionately large and adverse effect on the success of the Company's operations as compared to those of its competitors having a wider geographic distribution of theaters. DEPENDENCE ON CONCESSION SALES. Concession sales accounted for 29.9% and 28.2% of the Company's total revenues in the quarter ended June 30, 1997 and 1996, respectively. Therefore, the financial success of the Company depends, to a significant extent, on its ability to successfully generate concession sales in the future. The Company currently depends upon Pacific Concessions, Inc. ("Pacific Concessions"), a creditor of the Company, to operate and supply the lobby concession stands located in all of the Company's theaters. The Company's long-term concession agreements with Pacific Concessions may be terminated by the Company prior to the expiration of their respective terms only upon payment of a substantial early termination fee. RELATIONSHIP WITH PACIFIC CONCESSIONS. The Company utilizes loans from Pacific Concessions to fund a portion of its operations. In the Company's loan agreements with Pacific Concessions, an event of default is defined to include, among other things, any failure by the Company to make timely payments on its loans from Pacific Concessions. In the event that an event of default occurs under such loan agreements, Pacific Concessions has certain remedies against the Company in addition to those afforded to it under applicable law, including, but not limited to, requiring the Company to immediately pay all loan amounts due to Pacific Concessions and requiring the Company to sell, liquidate or transfer any of its theaters and related property to third parties in order to make timely payments on its loans. If the Company were to default under any of its agreements with Pacific Concessions, and if Pacific Concessions enforced its rights thereunder, the Company would be materially adversely affected. 11 CONTROL OF THE COMPANY. At June 30, 1997 the current officers and directors of the Company own approximately 27.3% of the Common Stock (17.1% assuming exercise in full of the redeemable warrants). As a result, these individuals are in a position to materially influence, if not control, the outcome of all matters requiring shareholder approval, including the election of directors. Certain officers and directors in the past have obtained loans secured by their shareholdings and the sale of shares from margin calls may from time to time have adversely affected, and may in the future adversely affect, the market price of the Company's securities. DEPENDENCE ON MANAGEMENT. The Company is significantly dependent upon the continued availability of John Ellison, Jr., Alan Grossberg and Jerry Willits, its President and Chief Executive Officer, Senior Vice President and Chief Operating Officer, and Vice President, respectively. The loss or unavailability of any one of these officers to the Company for an extended period of time could have a material adverse effect on the Company's business operations and prospects. To the extent that the services of these officers are unavailable to the Company for any reason, the Company will be required to procure other personnel to manage and operate the Company and develop its theaters. There can be no assurance that the Company will be able to locate or employ such qualified personnel on acceptable terms. In December 1996, the Company amended the five-year employment agreements with each of Messr. Ellison, Grossberg and Willits. The amendments provide for each employment agreement to expire in December 2001. The Company maintains "key man" life insurance in the amount of $1,250,000 on the lives of each of John Ellison, Jr., Alan Grossberg and Russell Seheult (the Chairman of the Company's Board of Directors), with respect to which the Company is the sole beneficiary. The Company's anticipated equity financing transaction with Rust Capital, Ltd. could result in a significant change in the management of the Company. EXPANSION; MANAGEMENT OF GROWTH. The Company's plan of operation calls for the addition of new theaters and screens. The Company's ability to expand will depend on a number of factors, including the selection and availability of suitable locations, the hiring and training of sufficiently skilled management and personnel and other factors, such as general economic and demographic conditions, which are beyond the control of the Company. Such growth, if it occurs, could place a significant strain on the Company's management and operations. To manage such growth, the Company will be required to increase the depth of its financial, administrative, and theater management staffs. There can be no assurance, however, that the Company will be able to identify and hire additional qualified personnel or take such other steps as are necessary to manage its growth, if any, effectively. Given the Company's recent performance and financial condition, hiring qualified executives and professional staff is difficult. In addition, there is no assurance that the Company will be able to open any new theaters or that, if opened, those theaters can be operated profitably. RISKS OF INTERNATIONAL EXPANSION. Construction is in progress on a leased 10 screen theater in Tijuana, Mexico through CinemaStar Luxury Theaters, S.A. de C.V., a Mexican corporation in which the Company has a 75% ownership interest. The long-term lease is guaranteed by the Company. Under this lease rent is paid in U.S. dollars. Completion of this theater in Mexico, or the development of theaters in other foreign countries, will subject the Company to the attendant risks of doing business abroad, including adverse fluctuations in currency exchange rates, increases in foreign taxes, changes in foreign regulations, political turmoil, deterioration in international economic conditions and deterioration in diplomatic relations between the United States and such foreign country. Recently the value of the Mexican Peso has fallen in relation to the U.S. Dollar and Mexico is experiencing substantial inflation. FLUCTUATIONS IN QUARTERLY RESULTS OF OPERATIONS. The Company's revenues have been seasonal, coinciding with the timing of major releases of motion pictures by the major distributors. Generally, the most marketable motion pictures have been released during the summer and the Thanksgiving through year-end holiday season. The unexpected emergence of a hit film during other periods can alter the traditional trend. The timing of such releases can have a significant effect on the 12 Company's results of operations, and the results of one quarter are not necessarily indicative of results for subsequent quarters. POTENTIAL BUSINESS INTERRUPTION DUE TO EARTHQUAKE. All of the Company's current and proposed theaters are or will be located in seismically active areas of Southern California and Mexico. In the event of an earthquake of significant magnitude, damage to any of the Company's theaters or to surrounding areas could cause a significant interruption or even a cessation of the Company's business, which interruption or cessation would have a material adverse effect on the Company, its operations and any proposed theater development. Although the Company maintains business interruption insurance, such insurance does not protect against business interruptions due to earthquakes. CONFLICTS OF INTEREST. Several possible conflicts of interest may exist between the Company and its officers and directors. In particular, certain officers and directors have directly or indirectly advanced funds or guaranteed loans or other obligations of the Company. As a result, a conflict of interest may exist between these officers and directors and the Company with respect to the determination of which obligations will be paid out of the Company's operating cash flow and when such payments will be made. COMPENSATION OF EXECUTIVE OFFICERS. Effective August 1994 and amended in December 1996, or April 1997 the Company has employment agreements through December 2001, or April 2002 with each of John Ellison, Jr., Alan Grossberg Jerry Willits and Jon Meloan, pursuant to which their annual salaries are $197,106, $197,860 $94,380 and $90,000, respectively, some of which are subject to annual increases of between 10% and 12%. Mr. Grossberg's employment agreement has been amended to increase his salary by $52,000 to reflect compensation previously paid to him for film booking services. In addition, Messrs. Ellison, Grossberg and Willits will be entitled to receive substantial bonuses based on a percentage of net income in the event that the Company's net income for a given year exceeds $2 million and additional bonuses in the event that the Company has net income in excess of $7 million in a given year. Each of Messrs. Ellison, Grossberg and Willits will also receive an automobile allowance of up to $650 per month and certain insurance and other benefits. Moreover, in the event that Mr. Ellison, Mr. Grossberg, Mr. Willits or Mr. Meloan is terminated or is not reelected or appointed as a director or executive officer of the Company for any reason other than for an uncured breach of his obligations under his employment agreement or his conviction of a felony involving moral turpitude, he shall have the right to receive his annual salary and bonuses for the remainder of the original five-year term of the contract. See "Executive Compensation --Employment and Consulting Agreements." The employment agreements described above require that the Company pay substantial salaries during each year of the five year terms thereof to each of Messrs. Ellison, Grossberg, Willits, and Meloan regardless of the Company's financial condition or performance. As a result, the agreements could have a material adverse effect on the Company's financial performance and condition. If the anticipated financing with Rust Capital, Ltd. is completed, it is anticipated that the foregoing compensation agreements will be amended. NO ASSURANCE OF CONTINUED NASDAQ INCLUSION; RISK OF LOW-PRICED SECURITIES. In order to qualify for continued listing on NASDAQ, a company, among other things, must have $1,000,000 in total assets, $2,000,000 in capital and surplus and a minimum bid price of $1.00 per share. From time to time the minimum bid price has been below $1.00 per share. If the Company is unable to satisfy the maintenance requirements for quotation on NASDAQ, of which there can be no assurance, it is anticipated that the Company's Common Stock, Redeemable Warrants and Class B Redeemable Warrants (collectively, the "Securities") would be quoted in the over-the-counter market National Quotation Bureau ("NQB") "pink sheets" or on the NASD OTC Electronic Bulletin Board. As a result, an investor may find it more difficult to dispose of, or obtain accurate quotations as to the market price of, the Securities, which may materially adversely affect the liquidity of the market for the Securities. In addition, if the Securities are delisted from NASDAQ, they might be subject to the low-priced security or so-called "penny stock" rules that impose additional sales practice requirements on broker-dealers who sell such securities. For any transaction involving a penny stock, the rules require, among other things, the delivery, prior to the transaction, of a disclosure schedule required by the Securities and Exchange Commission (the "Commission") relating to the penny stock market. The broker-dealer also must disclose the commissions 13 payable to both the broker-dealer and the registered representative and current quotations for the securities. Finally, monthly statements must be sent disclosing recent price information for the penny stocks held in the customer's account. Although the Company believes that the Securities are not defined as a penny stock due to their continued listing on NASDAQ, in the event the Securities subsequently become characterized as a penny stock, the market liquidity for the Securities could be severely affected. In such an event, the regulations relating to penny stocks could limit the ability of broker-dealers to sell the Securities. The Company was informed by NASDAQ on August 5, 1997 that since the Common Stock failed to maintain a closing bid price greater than or equal to $1.00 and the Company did not have capital and surplus of $2,000,000 or a public float market value of $1,000,000, the Company fails to maintain NASDAQ eligibility standards for listing on the Nasdaq SmallCap Market. NASDAQ has given the Company 90 days to regain its eligibility or otherwise provide a plan to NASDAQ of how the Company intends to achieve compliance. A delisting from the Nasdaq SmallCap Market could adversely affect the market for and price of the Company's securities. RISK OF LIMITATION OF USE OF NET OPERATING LOSS CARRYFORWARDS. As of March 31, 1997, the Company had net operating loss carryforwards of approximately $4,175,000 for federal income tax purposes, which may be utilized through 2006 to 2012, and approximately $2,080,000 for state income tax purposes, which may be utilized through 1998 to 2002 (subject to certain limitations). The initial public offering and certain other equity transactions resulted or may have resulted in an "ownership change" as defined in Section 382 of the Internal Revenue Code of 1986, as amended (the "Code"). As a result, the Company's use of its net operating loss carryforwards to offset taxable income in any post-change period may be subject to certain specified annual limitations. If there has been an ownership change for purposes of the Code, there can be no assurance as to the specific amount of net operating loss carryforwards, if any, available in any post-change year since the calculation is based upon fact-dependent formula. POSSIBLE VOLATILITY OF COMMON STOCK, REDEEMABLE WARRANT, AND CLASS B REDEEMABLE WARRANT PRICES. On or about October 25, 1996, a registration statement filed with the Securities and Exchange Commission became effective in connection with a temporary reduction in the exercise price of its Redeemable Warrants and the issuance of certain new warrants to holders of Redeemable Warrants who chose to exercise the Redeemable Warrants. On or about November 15, 1996, the Warrant Reduction Offer expired. Each of 226,438 Redeemable Warrants had been converted to one share of common stock and one Class B Redeemable Warrant. Under the terms of the Warrant Reduction Offer, $3.50 was received by the Company for each warrant converted to common stock and a Class B Redeemable Warrant. Thus $792,533 of additional capital before expenses was acquired. The trading prices of the Securities may respond to quarterly variations in operating results and other events or factors, including, but not limited to, the sale or attempted sale of a large amount of the Securities into the market. In addition, the stock market has experienced extreme price and volume fluctuations in recent years, particularly in the securities of smaller companies. These fluctuations have had a substantial effect on the market prices of many companies, often unrelated to the operating performance of the specific companies, and similar events in the future may adversely affect the market prices of the Securities. CURRENT PROSPECTUS AND STATE REGISTRATION REQUIRED TO EXERCISE REDEEMABLE WARRANTS AND CLASS B REDEEMABLE WARRANTS. The Redeemable Warrants and Class B Redeemable Warrants are not exercisable unless, at the time of the exercise, the Company has a current prospectus covering the shares of Common Stock upon exercise of the Redeemable Warrants and Class B Redeemable Warrants and such shares have been registered, qualified or deemed to be exempt under the securities or "blue sky" laws of the state of residence of the exercising holder of the Redeemable Warrants and Class B Redeemable Warrants. Although the Company has undertaken to use its best efforts to have all of the shares of Common Stock issuable upon exercise of the Redeemable Warrants and Class B 14 Redeemable Warrants registered or qualified on or before the exercise date and to maintain a current prospectus relating thereto until the expiration of the Redeemable Warrants and Class B Redeemable Warrants, there is no assurance that it will be able to do so. The value of the Redeemable Warrants and Class B Redeemable Warrants may be greatly reduced if a current prospectus covering the Common Stock issuable upon the exercise of the Redeemable Warrants or Class B Redeemable Warrants is not kept effective or if such Common Stock is not qualified or exempt from qualification in the states in which the holders of the Redeemable Warrants or Class B Redeemable Warrants then reside. Investors may purchase the Redeemable Warrants and Class B Redeemable Warrants in the secondary market or may move to jurisdictions in which the shares underlying the Redeemable Warrants or Class B Redeemable Warrants are not registered or qualified during the period that the Redeemable Warrants and Class B Redeemable Warrants are exercisable. In such event, the Company will be unable to issue shares to those persons desiring to exercise their Redeemable Warrants or Class B Redeemable Warrants unless and until the shares are qualified for sale in jurisdictions in which such purchasers reside, or an exemption from such qualification exists in such jurisdictions, and holders of the Redeemable Warrants and Class B Redeemable Warrants would have no choice but to attempt to sell the Redeemable Warrants and Class B Redeemable Warrants in a jurisdiction where such sale is permissible or allow them to expire unexercised. SPECULATIVE NATURE OF REDEEMABLE WARRANTS AND CLASS B REDEEMABLE WARRANTS; ADVERSE EFFECT OF POSSIBLE REDEMPTION OF REDEEMABLE WARRANTS OR CLASS B REDEEMABLE WARRANTS. The Redeemable Warrants and Class B Redeemable Warrants do not confer any rights of Common Stock ownership on the holders thereof, such as voting rights or the right to receive dividends, but rather merely represent the right to acquire shares of Common Stock at a fixed price for a limited period of time. Specifically, holders of the Redeemable Warrants may exercise their right to acquire Common Stock and pay an exercise price of $6.00 per share, subject to adjustment in the event of certain dilutive events, on or prior to February 6, 2000, after which date any unexercised Redeemable Warrants will expire and have no further value. Specifically, holders of the Class B Redeemable Warrants may exercise their right to acquire Common Stock and pay an exercise price of $6.50 per share, subject to adjustment in the event of certain dilutive events, on or prior to September 15, 2001, after which date any unexercised Class B Redeemable Warrants will expire and have no further value. There can be no assurance that the market price of the Common Stock will ever equal or exceed the exercise prices of the Redeemable Warrants or Class B Redeemable Warrants, and consequently, whether it will ever be profitable for holders of the Redeemable Warrants or Class B Redeemable Warrants to exercise them. The Redeemable Warrants and Class B Redeemable Warrants are subject to redemption by the Company, at any time on 30 days prior written notice, at a price of $0.25 per Redeemable Warrant or Class B Redeemable Warrant if the average closing bid price for the Common Stock equals or exceeds $7.00 per share for any 20 trading days within a period of 30 consecutive trading days ending on the fifth trading day prior to the date of the notice of redemption. Redemption of the Redeemable Warrants or Class B Redeemable Warrants could force the holders thereof to exercise them and pay the exercise price at a time when it may be disadvantageous for such holders to do so, to sell the Redeemable Warrants and Class B Redeemable Warrants at the current market price when they might otherwise wish to hold them , or to accept the redemption price, which may be substantially less than the market value of the Redeemable Warrants and Class B Redeemable Warrants at the time of redemption. The holders of the Redeemable Warrants and Class B Redeemable Warrants will automatically forfeit their rights to purchase shares of Common Stock if they are redeemed before being exercised. The Company anticipates that the sale of shares to Rust Capital, Ltd. would result in a significant reduction in the exercise price of the Company's Redeemable Warrants and Class B Redeemable Warrants in accordance with the anti-dilution provisions of such warrant agreements. The precise amount of the reduction in the exercise price will not be known until the final terms of the sale of shares have been determined. 15 NO DIVIDENDS. The Company has not paid any dividends on its Common Stock and does not intend to pay any dividends in the foreseeable future. Earnings, if any, are expected to be retained for use in expanding the Company's business. SHARES ELIGIBLE FOR FUTURE SALE. Sales of substantial amounts of Securities in the public market or the perception that such sales could occur may adversely affect prevailing market prices of the Securities. The Redeemable Warrants and the Redeemable Warrants being registered for the account of the Selling Security Holders entitle the holders of such Redeemable Warrants to purchase up to an aggregate of 4,500,000 shares of Common Stock at any time through February 6, 2000. Class B Redeemable Warrants entitle the holder to purchase up to an aggregate of 226,438 shares of common stock at any time through September 15, 2001. In connection with the initial public offering, the Company issued to A.S. Goldmen & Co., Inc. Underwriter's Warrants to purchase up to 150,000 shares of Common Stock and/or Redeemable Warrants to purchase up to an additional 150,000 shares of Common Stock. Sales of either the Redeemable Warrants or the underlying shares of Common Stock, or even the existence of the Redeemable Warrants, may depress the price of the Common Stock or the Redeemable Warrants in the market for such Securities. In addition, in the event that any holder of Redeemable Warrants or Class B Redeemable Warrants exercises his warrants, the percentage ownership of the Common Stock by current shareholders would be diluted. Finally, the Company has reserved 587,500 shares of Common Stock for issuance to key employees and officers pursuant to the Company's Stock Option Plan. Fully-vested options to purchase 400,805 shares of Common Stock have been granted pursuant to such Stock Option Plan. In the event that these or any other stock options granted pursuant to such Stock Option Plan are exercised, dilution of the percentage ownership of Common Stock owned by the public investors will occur. Moreover, the mere existence of such options may depress the price of the Common Stock. CAUTIONARY STATEMENT This 10-QSB contains forward looking statements, within the meaning of the Private Securities Litigation Reform Act of 1995, with respect to the financial condition, results of operations, and business of the Company and its subsidiary (collectively, unless the context otherwise requires). Such statements are subject to certain risks and uncertainties that could cause actual results to differ materially and adversely from those set forth in the forward-looking statements, including without limitation the risks and uncertainties described from time to time in the Company's public announcements and SEC filings, including without limitation the 10-QSB and 10-KSB, respectively. The Company does not undertake to update any written or oral forward-looking statement that may be made from time to time by or on behalf of the Company. PART II -- OTHER INFORMATION ITEM 3 -- DEFAULTS UPON SENIOR SECURITIES The Company is currently in material default under two of its existing financing arrangements, each of which prohibit the Company from incurring additional indebtedness or granting additional security interests in its assets without the prior consent of the applicable lender. As a result of these prohibitions, the Company is currently in default under its Business Loan Agreement with and related Promissory Notes (collectively, the "FNB Loans") issued in favor of First National Bank ("FNB") as the result of borrowing additional monies and granting additional security interests pursuant to one of its existing Loan Agreements with Pacific Concessions, Inc. ("PCI") after the date of the FNB Loans. Similarly, the Company is currently in default under each of its existing Loan Agreements, as amended, with PCI (the "PCI Loan Agreements") as a result of the making of the FNB Loans and the granting of security interests in favor of FNB. As of June 30, 1997, the outstanding principal balance of the FNB Loans was $1,285,714 and the outstanding aggregate principal balance owed to PCI under the PCI Loan Agreements was $2,750,914 The Company has not defaulted in the payment of principal, interest or any other obligation under any of the FNB Loans or under either of the PCI Loan Agreements, and neither FNB nor PCI has declared any event of default or attempted to accelerate the due date of any payment obligation of the Company thereunder. ITEM 6 -- EXHIBITS AND REPORTS ON FORM 8-K (a) Exhibits 27 Financial Data Schedule (b) Reports on Form 8-K The Company filed one Report on Form 8-K during the quarter ended June 30, 1997. It was filed on June 24, 1997. The Report on Form 8-K reported the Letter of Intent with Rust Capital Ltd. 16 SIGNATURES In accordance with the requirements of the Exchange Act, the Registrant caused this report to be signed on its behalf by the undersigned, thereunto duly authorized. Dated: August 14, 1997 CinemaStar Luxury Theaters, Inc. By: /s/ JOHN ELLISON, JR. ------------------------------------- John Ellison, Jr. President and Chief Executive Officer (principal executive officer) By: /s/ ALAN GROSSBERG -------------------------------------- Executive Vice President and Chief Financial Officer (principal financial officer and principal accounting officer) 17 EXHIBIT INDEX SEQUENTIALLY EXHIBIT NUMBERED NUMBER DESCRIPTION PAGE - ------- ----------- ------------ 27 Financial Data Schedule EX-27 2 EXHIBIT 27
5 THIS SCHEDULE CONTAINS SUMMARY FINANCIAL INFORMATION EXTRACTED FROM THE BALANCE SHEET AND STATEMENT OF OPERATIONS FOR THE QUARTER ENDED JUNE 30, 1997 AND IS QUALIFIED IN ITS ENTIRETY BY REFERENCE TO SUCH FINANCIAL STATEMENTS. 3-MOS MAR-31-1998 JUN-30-1997 568,421 0 0 0 0 1,065,992 15,660,921 3,376,593 14,175,574 10,091,093 0 0 0 9,424,618 2,559,027 14,175,574 5,752,733 5,752,733 5,122,284 6,451,314 0 0 186,869 (878,897) 0 (878,897) 0 0 0 (878,897) (.11) (.11)
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