SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
__________
FORM 10-Q
[X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE
ACT OF 1934
For the quarterly period ended June 30, 2008
OR
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE
ACT OF 1934
For the transition period from to
Commission File Number 1-5721
LEUCADIA NATIONAL CORPORATION
(Exact name of registrant as specified in its Charter)
New York 13-2615557
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification Number)
315 Park Avenue South, New York, New York 10010-3607
(Address of principal executive offices) (Zip Code)
(212) 460-1900
(Registrant's telephone number, including area code)
N/A
(Former name, former address and former fiscal year,
if changed since last report)
______________________
Indicate by check mark whether the registrant (1) has filed all reports required
to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during
the preceding 12 months (or for such shorter period that the registrant was
required to file such reports), and (2) has been subject to such filing
requirements for the past 90 days.
YES X NO
----- -----
Indicate by check mark whether the registrant is a large accelerated filer, an
accelerated filer, a non-accelerated filer, or a smaller reporting company.
See the definitions of "large accelerated filer," "accelerated filer" and
"smaller reporting company" in Rule 12b-2 of the Exchange Act.
Large accelerated filer X Accelerated filer
----- ----
Non-accelerated filer
-----
(Do not check if a smaller reporting company) Smaller reporting company
----
Indicate by check mark whether the registrant is a shell company (as defined in
Rule 12b-2 of the Exchange Act).
YES NO X
----- -----
APPLICABLE ONLY TO CORPORATE ISSUERS: Indicate the number of shares outstanding
of each of the issuer's classes of common stock, at August 1, 2008: 232,838,797.
PART I - FINANCIAL INFORMATION
Item 1. Financial Statements.
LEUCADIA NATIONAL CORPORATION AND SUBSIDIARIES
Consolidated Balance Sheets
June 30, 2008 and December 31, 2007
(Dollars in thousands, except par value)
(Unaudited)
June 30, December 31,
2008 2007
----------- -------------
ASSETS
------
Current assets:
Cash and cash equivalents $ 236,650 $ 456,970
Investments 255,433 983,199
Trade, notes and other receivables, net 112,345 133,765
Prepaids and other current assets 191,877 146,199
----------- -----------
Total current assets 796,305 1,720,133
Non-current investments 4,260,060 2,776,521
Notes and other receivables, net 21,288 16,388
Intangible assets, net and goodwill 76,251 79,506
Deferred tax asset, net 945,830 1,113,925
Other assets 607,768 544,432
Property, equipment and leasehold improvements, net 514,037 512,804
Investments in associated companies ($1,078,800 measured using
fair value option at June 30, 2008) 2,447,076 1,362,913
----------- -----------
Total $ 9,668,615 $ 8,126,622
=========== ===========
LIABILITIES
-----------
Current liabilities:
Trade payables and expense accruals $ 256,800 $ 229,560
Deferred revenue 98,904 86,993
Other current liabilities 11,296 10,992
Debt due within one year 164,381 132,405
----------- -----------
Total current liabilities 531,381 459,950
Other non-current liabilities 64,741 71,061
Long-term debt 2,047,359 2,004,145
----------- -----------
Total liabilities 2,643,481 2,535,156
----------- -----------
Commitments and contingencies
Minority interest 19,919 20,974
----------- -----------
SHAREHOLDERS' EQUITY
--------------------
Common shares, par value $1 per share, authorized 600,000,000 shares;
232,829,797 and 222,574,440 shares issued and outstanding, after deducting
46,888,660 and 56,886,204 shares held in treasury 232,830 222,574
Additional paid-in capital 1,282,731 783,145
Accumulated other comprehensive income 1,809,292 975,365
Retained earnings 3,680,362 3,589,408
----------- -----------
Total shareholders' equity 7,005,215 5,570,492
----------- -----------
Total $ 9,668,615 $ 8,126,622
=========== ===========
See notes to interim consolidated financial statements.
2
LEUCADIA NATIONAL CORPORATION AND SUBSIDIARIES
Consolidated Statements of Operations
For the periods ended June 30, 2008 and 2007
(In thousands, except per share amounts)
(Unaudited)
For the Three Month For the Six Month
Period Ended June 30, Period Ended June 30,
--------------------- ---------------------
2008 2007 2008 2007
---- ---- ---- ----
Revenues and Other Income:
Manufacturing $ 98,308 $ 110,398 $ 183,455 $ 206,992
Telecommunications 108,889 110,944 228,314 143,715
Property management and service fees 38,784 18,345 78,340 18,345
Gaming entertainment 28,712 -- 56,054 --
Investment and other income 43,816 54,077 88,913 105,976
Net securities gains 19,045 50,240 27,327 66,161
---------- --------- --------- ---------
337,554 344,004 662,403 541,189
---------- --------- --------- ---------
Expenses:
Cost of sales:
Manufacturing 82,290 92,772 156,543 173,519
Telecommunications 93,895 94,237 200,009 121,844
Direct operating expenses:
Property management and services 30,469 11,890 57,888 11,890
Gaming entertainment 23,980 -- 48,568 --
Interest 36,543 26,836 72,325 46,912
Salaries and incentive compensation 22,483 21,232 44,997 40,372
Depreciation and amortization 13,491 6,699 24,937 12,879
Selling, general and other expenses 70,101 53,727 125,627 105,958
---------- --------- --------- ---------
373,252 307,393 730,894 513,374
---------- --------- --------- ---------
Income (loss) from continuing operations before income taxes
and income (loss) related to associated companies (35,698) 36,611 (68,491) 27,815
Income tax (benefit) provision (247,711) 14,850 (259,061) 11,118
---------- --------- --------- ---------
Income from continuing operations before income
(loss) related to associated companies 212,013 21,761 190,570 16,697
Income (loss) related to associated companies, net of taxes (25,235) 4,554 (99,616) 17,479
---------- --------- --------- ---------
Income from continuing operations 186,778 26,315 90,954 34,176
Income (loss) from discontinued operations, net of taxes -- (13) -- 209
Gain (loss) on disposal of discontinued operations, net of taxes -- (3) -- 288
---------- --------- --------- ---------
Net income $ 186,778 $ 26,299 $ 90,954 $ 34,673
========== ========= ========= =========
Basic earnings (loss) per common share:
Income from continuing operations $.81 $.12 $.40 $.16
Income (loss) from discontinued operations -- -- -- --
Gain (loss) on disposal of discontinued operations -- -- -- --
---- ---- ---- ----
Net income $.81 $.12 $.40 $.16
==== ==== ==== ====
Diluted earnings (loss) per common share:
Income from continuing operations $.76 $.12 $.39 $.16
Income (loss) from discontinued operations -- -- -- --
Gain (loss) on disposal of discontinued operations -- -- -- --
---- ---- ---- ----
Net income $.76 $.12 $.39 $.16
==== ==== ==== ====
See notes to interim consolidated financial statements.
3
LEUCADIA NATIONAL CORPORATION AND SUBSIDIARIES
Consolidated Statements of Cash Flows
For the six months ended June 30, 2008 and 2007
(In thousands)
(Unaudited)
2008 2007
---- ----
Net cash flows from operating activities:
Net income $ 90,954 $ 34,673
Adjustments to reconcile net income to net cash provided by operations:
Deferred income tax provision (benefit) (317,842) 18,774
Depreciation and amortization of property, equipment and leasehold improvements 27,184 16,197
Other amortization 6,195 (547)
Share-based compensation 4,975 5,975
Excess tax benefit from exercise of stock options (1,711) (684)
Provision for doubtful accounts 210 (47)
Net securities gains (27,327) (66,161)
(Income) loss related to associated companies 154,746 (29,117)
Distributions from associated companies 50,703 47,469
Net gains related to real estate, property and equipment, and other assets (24,841) (19,238)
Gain on disposal of discontinued operations -- (479)
Investments classified as trading, net 60,056 36,216
Net change in:
Restricted cash (22,722) 44
Trade, notes and other receivables (3,688) (11,234)
Prepaids and other assets (3,741) 380
Trade payables and expense accruals 11,864 26,240
Other liabilities (384) (472)
Deferred revenue 11,134 2,638
Income taxes payable (1,087) (3,281)
Other (4,198) 1,685
----------- -----------
Net cash provided by operating activities 10,480 59,031
----------- -----------
Net cash flows from investing activities:
Acquisition of property, equipment and leasehold improvements (38,554) (14,330)
Acquisitions of and capital expenditures for real estate investments (75,602) (30,197)
Proceeds from disposals of real estate, property and equipment, and other assets 4,739 22,066
Acquisitions, net of cash acquired -- (101,915)
Collection of Premier Entertainment Biloxi, LLC's insurance proceeds 11,089 --
Net change in restricted cash 60 (10,000)
Advances on notes and other receivables (12,905) (10,257)
Collections on notes, loan and other receivables 19,058 18,083
Investments in associated companies (865,763) (667,870)
Capital distributions from associated companies 88,342 32,748
Purchases of investments (other than short-term) (2,855,953) (1,281,574)
Proceeds from maturities of investments 150,543 645,947
Proceeds from sales of investments 3,157,250 987,267
Other (1,565) 412
----------- -----------
Net cash used for investing activities (419,261) (409,620)
----------- -----------
Net cash flows from financing activities:
Issuance of debt, net of issuance costs 78,662 525,600
Reduction of debt (3,839) (1,692)
Issuance of common shares 105,030 4,523
Purchase of common shares for treasury (122) (102)
Excess tax benefit from exercise of stock options 1,711 684
Other 7,003 1,696
----------- -----------
Net cash provided by financing activities 188,445 530,709
----------- -----------
Effect of foreign exchange rate changes on cash 16 16
----------- -----------
Net increase (decrease) in cash and cash equivalents (220,320) 180,136
Cash and cash equivalents at January 1, 456,970 287,199
----------- -----------
Cash and cash equivalents at June 30, $ 236,650 $ 467,335
=========== ===========
See notes to interim consolidated financial statements.
4
LEUCADIA NATIONAL CORPORATION AND SUBSIDIARIES
Consolidated Statements of Changes in Shareholders' Equity
For the six months ended June 30, 2008 and 2007
(In thousands, except par value)
(Unaudited)
Common Accumulated
Shares Additional Other
$1 Par Paid-In Comprehensive Retained
Value Capital Income (Loss) Earnings Total
----- ------- ------------- -------- -----
Balance, January 1, 2007 $216,351 $ 520,892 $ (4,726) $3,160,758 $3,893,275
----------
Comprehensive income:
Net change in unrealized gain (loss) on
investments, net of taxes of $167,145 294,580 294,580
Net change in unrealized foreign exchange
gain (loss), net of taxes of $775 1,365 1,365
Net change in unrealized gain (loss) on
derivative instruments, net of taxes of $99 173 173
Net change in minimum pension liability and
postretirement benefits, net of taxes of $333 588 588
Net income 34,673 34,673
----------
Comprehensive income 331,379
----------
Share-based compensation expense 5,975 5,975
Exercise of options to purchase common shares,
including excess tax benefit 272 4,935 5,207
Purchase of common shares for treasury (3) (99) (102)
-------- ---------- ----------- ---------- ----------
Balance, June 30, 2007 $216,620 $ 531,703 $ 291,980 $3,195,431 $4,235,734
======== ========== =========== ========== ==========
Balance, January 1, 2008 $222,574 $ 783,145 $ 975,365 $3,589,408 $5,570,492
----------
Comprehensive income:
Net change in unrealized gain (loss) on
investments, net of taxes of $472,638 826,426 826,426
Net change in unrealized foreign exchange
gain (loss), net of taxes of $4,088 7,148 7,148
Net change in unrealized gain (loss) on
derivative instruments, net of taxes of $65 113 113
Net change in pension liability and
postretirement benefits, net of taxes of $137 240 240
Net income 90,954 90,954
----------
Comprehensive income 924,881
----------
Share-based compensation expense 4,975 4,975
Sale of common shares to Jefferies Group, Inc. 10,000 488,269 498,269
Exercise of options to purchase common shares,
including excess tax benefit 258 6,462 6,720
Purchase of common shares for treasury (2) (120) (122)
-------- ---------- ----------- ---------- ----------
Balance, June 30, 2008 $232,830 $1,282,731 $ 1,809,292 $3,680,362 $7,005,215
======== ========== =========== ========== ==========
See notes to interim consolidated financial statements.
5
LEUCADIA NATIONAL CORPORATION AND SUBSIDIARIES
Notes to Interim Consolidated Financial Statements
1. The unaudited interim consolidated financial statements, which reflect all
adjustments (consisting of normal recurring items or items discussed
herein) that management believes necessary to present fairly results of
interim operations, should be read in conjunction with the Notes to
Consolidated Financial Statements (including the Summary of Significant
Accounting Policies) included in the Company's audited consolidated
financial statements for the year ended December 31, 2007, which are
included in the Company's Annual Report filed on Form 10-K, as amended, for
such year (the "2007 10-K"). Results of operations for interim periods are
not necessarily indicative of annual results of operations. The
consolidated balance sheet at December 31, 2007 was extracted from the
audited annual financial statements and does not include all disclosures
required by accounting principles generally accepted in the United States
of America ("GAAP") for annual financial statements.
Effective January 1, 2008 (except as described below), the Company adopted
Statement of Financial Accounting Standards No. 157, "Fair Value
Measurements" ("SFAS 157"), and Statement of Financial Accounting Standards
No. 159, "The Fair Value Option for Financial Assets and Financial
Liabilities - Including an amendment of FASB Statement No. 115" ("SFAS
159"). SFAS 157 defines fair value, establishes a framework for measuring
fair value, establishes a hierarchy that prioritizes inputs to valuation
techniques and expands disclosures about fair value measurements. The fair
value hierarchy gives the highest priority to unadjusted quoted prices in
active markets for identical assets or liabilities (Level 1), the next
priority to inputs that don't qualify as Level 1 inputs but are nonetheless
observable, either directly or indirectly, for the particular asset or
liability (Level 2), and the lowest priority to unobservable inputs (Level
3). The Company elected to defer the effectiveness of SFAS 157 for one year
only with respect to nonfinancial assets and nonfinancial liabilities that
are recognized or disclosed at fair value in the financial statements on a
nonrecurring basis. The adoption of SFAS 157 did not have any impact on the
Company's consolidated financial statements other than expanded
disclosures; however, fair value measurements for new assets or liabilities
and fair value measurements for existing nonfinancial assets and
nonfinancial liabilities may be materially different under SFAS 157.
SFAS 159 permits entities to choose to measure many financial instruments
and certain other items at fair value (the "fair value option"), and to
report unrealized gains and losses on items for which the fair value option
is elected in earnings. SFAS 159 identifies eligible items for which the
fair value option may be elected, specifies election dates for eligible
items (including all eligible items held as of January 1, 2008) and also
permits the election of the fair value option on an
instrument-by-instrument basis subject to certain exceptions. The Company
did not elect the fair value option as of January 1, 2008 for any eligible
items. However, for eligible items for which the accounting treatment
changes, or that are acquired or entered into after SFAS 159 was adopted or
otherwise become subject to a new election date, the Company intends to
make an assessment at such time as to whether to elect the fair value
option.
In 2008, the Company elected the fair value option for two of its
associated company investments, rather than apply the equity method of
accounting. Unrealized gains and losses from these investments are
reflected as a component of income (loss) related to associated companies
in the consolidated statement of operations. Dividends, if any, declared on
these investments will be recognized as a component of income (loss)
related to associated companies on the ex-dividend date. See Notes 15 and
16 for information concerning these investments.
In March 2008, the Financial Accounting Standards Board ("FASB") issued
Statement of Financial Accounting Standards No. 161, "Disclosures about
Derivative Instruments and Hedging Activities - an amendment of FASB
Statement No. 133" ("SFAS 161"). SFAS 161, which is effective for fiscal
years beginning after November 15, 2008, requires enhanced disclosures
about an entity's derivative and hedging activities, including the
objectives and strategies for using derivatives, disclosures about fair
value amounts of, and gains and losses on, derivative instruments, and
disclosures about credit-risk-related contingent features in derivative
agreements. The Company is currently evaluating the impact of adopting SFAS
161 on its consolidated financial statements.
6
In December 2007, the FASB issued Statement of Financial Accounting
Standards No. 141R, "Business Combinations" ("SFAS 141R") and Statement of
Financial Accounting Standards No. 160, "Noncontrolling Interests in
Consolidated Financial Statements" ("SFAS 160"). SFAS 141R will change how
business combinations are accounted for and will impact financial
statements both on the acquisition date and in subsequent periods. SFAS 160
will change the accounting and reporting for minority interests, which will
be recharacterized as noncontrolling interests and classified as a
component of stockholders' equity. SFAS 141R and SFAS 160 are effective for
fiscal years beginning after December 15, 2008. The Company is currently
evaluating the impact of adopting SFAS 141R and SFAS 160 on its
consolidated financial statements, but expects they will have a material
impact on the accounting for future acquisitions and noncontrolling
interests.
Certain amounts for prior periods have been reclassified to be consistent
with the 2008 presentation.
2. The Company records a valuation allowance to reduce its deferred tax asset
to the amount that is more likely than not to be realized. If in the future
the Company were to determine that it would be able to realize its deferred
tax asset in excess of its net recorded amount, an adjustment would
increase income in such period or, if such determination were made in
connection with an acquisition, an adjustment would be made in connection
with the allocation of the purchase price to acquired assets and
liabilities. If in the future the Company were to determine that it would
not be able to realize all or part of its deferred tax asset, an adjustment
would be charged to income in such period. As required under GAAP, the
determination of the amount of the valuation allowance required is based,
in significant part, upon the Company's projection of future taxable
income, which the Company is required to periodically reassess as
circumstances warrant.
During the second quarter of 2008, the Company's revised projections of
future taxable income enabled it to conclude that it is more likely than
not that it will have future taxable income sufficient to realize an
additional portion of the Company's net deferred tax asset; accordingly,
$222,200,000 of the deferred tax valuation allowance was reversed as a
credit to income tax expense. The Company's conclusion that this additional
portion of the deferred tax asset is more likely than not to be realized
reflects, among other things, the projected income to be earned from the
sale of 10,000,000 common shares of the Company in April 2008, and is
strongly influenced by its historical ability to generate significant
amounts of taxable income and its projections of future taxable income. In
addition, as a result of the increased projected taxable income in certain
state and local taxing jurisdictions, the Company recognized additional
state and local net operating loss carryforward benefits of $12,500,000 as
a reduction to income tax expense. The Company's estimate of future taxable
income considers all available evidence, both positive and negative, about
its current operations and investments, includes an aggregation of
individual projections for each material operation and investment,
estimates apportionment factors for state and local taxing jurisdictions
and includes all future years that the Company estimated it would have
available net operating loss carryforwards. The Company believes that its
estimate of future taxable income is reasonable but inherently uncertain,
and if the Company realizes unforeseen material losses in the future, or
its ability to generate future taxable income necessary to realize a
portion of the deferred tax asset is materially reduced, additions to the
valuation allowance could be recorded. At June 30, 2008, the balance of the
deferred tax valuation allowance was approximately $80,000,000, principally
to reserve for net operating losses that are not available to offset income
generated by other members of the Company's consolidated tax return group.
3. Results of operations for the Company's segments are reflected from the
date of acquisition, which was March 2007 for the telecommunications
business conducted by the Company's 75% owned subsidiary STi Prepaid, LLC
("STi Prepaid"), and June 2007 for the property management and services
business conducted by ResortQuest International, Inc. ("ResortQuest"). As
more fully discussed in the 2007 10-K, the gaming entertainment business
conducted by Premier Entertainment Biloxi, LLC ("Premier") has been
reflected as a consolidated subsidiary since its emergence from bankruptcy
in August 2007; for earlier 2007 periods Premier was classified as an
investment in an associated company. The primary measure of segment
operating results and profitability used by the Company is income (loss)
from continuing operations before income taxes and income (loss) related to
associated companies.
Certain information concerning the Company's segments for the three and six
month periods ended June 30, 2008 and 2007 is presented in the following
table.
7
For the Three Month For the Six Month
Period Ended June 30, Period Ended June 30,
--------------------- ---------------------
2008 2007 2008 2007
---- ---- ---- ----
(In thousands)
Revenues and other income (a):
Manufacturing:
Idaho Timber $ 69,285 $ 83,170 $ 127,755 $ 155,687
Conwed Plastics 29,051 27,307 55,790 51,485
Telecommunications 109,045 111,450 228,729 144,294
Property Management and Services 38,885 18,485 78,585 18,485
Gaming Entertainment (b) 28,821 -- 68,352 --
Domestic Real Estate 7,303 8,071 6,590 12,365
Medical Product Development 131 709 405 980
Other Operations (c) 12,998 18,727 28,471 29,282
Corporate 42,035 76,085 67,726 128,611
--------- --------- --------- ---------
Total consolidated revenues and other income $ 337,554 $ 344,004 $ 662,403 $ 541,189
========= ========= ========= =========
Income (loss) from continuing operations before income taxes
and income (loss) related to associated companies:
Manufacturing:
Idaho Timber $ 3,488 $ 4,581 $ 2,509 $ 8,810
Conwed Plastics 4,426 5,264 8,299 8,628
Telecommunications 3,904 6,450 7,091 9,355
Property Management and Services 632 1,534 4,915 1,534
Gaming Entertainment (629) -- 8,766 --
Domestic Real Estate (780) 3,614 (5,555) 2,117
Medical Product Development (8,548) (7,009) (15,949) (15,376)
Other Operations (c) (13,088) 2,184 (16,189) (2,826)
Corporate (25,103) 19,993 (62,378) 15,573
--------- --------- --------- ---------
Total consolidated income (loss) from continuing
operations before income taxes and income (loss)
related to associated companies $ (35,698) $ 36,611 $ (68,491) $ 27,815
========= ========= ========= =========
(a) Revenues and other income for each segment include amounts for services
rendered and products sold, as well as segment reported amounts classified
as investment and other income and net securities gains on the Company's
consolidated statements of operations.
(b) For the six month period ended June 30, 2008, the gaming entertainment
segment's revenues and other income includes a $7,300,000 gain from the
settlement of an insurance claim and $4,700,000 resulting from capital
contributions from the minority interest. In prior periods, the Company
recorded 100% of the losses from this segment after cumulative loss
allocations to the minority interest had reduced the minority interest
liability to zero. Since the minority interest liability remains at zero
after considering the capital contributions, the entire capital
contribution was recorded as income, effectively reimbursing the Company
for a portion of the minority interest losses that were not previously
allocated to the minority interest.
(c) Other operations includes pre-tax income (losses) of $(9,500,000) and
$4,700,000 for the three month periods ended June 30, 2008 and 2007,
respectively, and $(14,400,000) and $1,300,000 for the six month periods
ended June 30, 2008 and 2007, respectively, for the investigation and
evaluation of various energy related projects. For the 2008 periods, there
were no material operating revenues associated with these activities. For
the 2007 periods, revenues and other income, and pre-tax income (loss)
include income of $8,500,000 related to the termination of a joint
development agreement with another party. This amount substantially
reimbursed the Company for its prior expenditures, which were fully
expensed as incurred.
8
For the three month periods ended June 30, 2008 and 2007, income (loss)
from continuing operations has been reduced by depreciation and
amortization expenses of $18,700,000 and $11,300,000, respectively; such
amounts are primarily comprised of Corporate ($4,000,000 and $3,000,000,
respectively), manufacturing ($4,400,000 and $4,400,000, respectively),
gaming entertainment ($4,200,000 in 2008), domestic real estate ($2,100,000
and $800,000, respectively), property management and services ($1,400,000
and $500,000, respectively) and other operations ($2,000,000 and
$2,200,000, respectively). For the six month periods ended June 30, 2008
and 2007, income (loss) from continuing operations has been reduced by
depreciation and amortization expenses of $35,300,000 and $22,000,000,
respectively; such amounts are primarily comprised of Corporate ($7,600,000
and $5,900,000, respectively), manufacturing ($8,800,000 and $9,000,000,
respectively), gaming entertainment ($8,400,000 in 2008), domestic real
estate ($2,700,000 and $1,700,000, respectively), property management and
services ($2,700,000 and $500,000, respectively) and other operations
($4,200,000 and $4,400,000, respectively). Depreciation and amortization
expenses for other segments are not material.
For the three month periods ended June 30, 2008 and 2007, income (loss)
from continuing operations has been reduced by interest expense of
$36,500,000 and $26,800,000, respectively; such amounts are primarily
comprised of Corporate ($35,100,000 and $26,700,000, respectively),
domestic real estate ($1,200,000 in 2008) and gaming entertainment
($200,000 in 2008). For the six month periods ended June 30, 2008 and 2007,
income (loss) from continuing operations has been reduced by interest
expense of $72,300,000 and $46,900,000, respectively; such amounts are
primarily comprised of Corporate ($70,500,000 and $46,800,000,
respectively), domestic real estate ($1,200,000 in 2008) and gaming
entertainment ($500,000 in 2008). Interest expense for other segments is
not material.
4. The following tables provide summarized data with respect to significant
investments in associated companies accounted for under the equity method
of accounting for the periods the investments were owned by the Company.
The information is provided for those investments whose relative
significance to the Company could result in the Company including separate
audited financial statements for such investments in its Annual Report on
Form 10-K for the year ended December 31, 2008 (in thousands).
June 30, June 30,
2008 2007
---- ----
Pershing Square IV, L.P. ("Pershing Square"):
Total revenues $ (316,300) $ (13,900)
Loss from continuing operations before extraordinary items (320,800) (14,500)
Net loss (320,800) (14,500)
The Company's equity in net loss (31,900) (1,500)
HFH ShortPLUS Fund, L.P. ("Shortplus"):
Total revenues $ 50,500 $ 14,100
Income from continuing operations before extraordinary items 41,800 9,000
Net income 41,800 9,000
The Company's equity in net income 10,300 4,800
In March 2008, the Company increased its equity investment in the common
shares of IFIS Limited ("IFIS"), a private Argentine company, from
approximately 3% to 26% for an additional cash investment of $83,900,000.
At June 30, 2008, the Company's aggregate investment in IFIS was classified
as an investment in an associated company of $85,900,000 and is accounted
for under the equity method of accounting; the Company records its share of
IFIS's results using a quarterly reporting lag. For the periods ended June
30, 2008, the Company's share of IFIS's results was not material. At
December 31, 2007, the Company's investment in IFIS was classified as a
non-current investment and was carried at cost.
9
IFIS owns a variety of investments, and its largest investment is
approximately 32% of the outstanding common shares of Cresud Sociedad
Anonima Comercial, Inmobiliaria, Financiera y Agropecuaria ("Cresud").
Cresud is an Argentine agricultural company involved in a range of
activities including crop production, cattle raising and milk production.
Cresud's common shares trade on the Buenos Aires Stock Exchange (Symbol:
CRES); in the U.S., Cresud trades as American Depository Shares or ADSs
(each of which represents ten common shares) on the NASDAQ Global Select
Market (Symbol: CRESY). Cresud is also indirectly engaged in the Argentine
real estate business through its approximate 42% interest in IRSA
Inversiones y Representaciones Sociedad Anonima ("IRSA"), a company engaged
in a variety of real estate activities in Argentina including ownership of
residential properties, office buildings, shopping centers and luxury
hotels. IRSA's common shares also trade on the Buenos Aires Stock Exchange
(Symbol: IRSA); in the U.S., IRSA trades as ADSs on the New York Stock
Exchange ("NYSE") (Symbol: IRS).
The Company also acquired a direct equity interest in Cresud for an
aggregate cash investment of $54,300,000. The Company owns 3,364,174 Cresud
ADSs, representing approximately 6.7% of Cresud's outstanding common
shares, and currently exercisable warrants to purchase 11,213,914 Cresud
common shares (or 1,121,391 Cresud ADSs) at an exercise price of $1.68 per
share. The warrants expire on May 22, 2015 and are exercisable during a six
day period from and including the 17th to the 22nd day of each February,
May, September and November. The Company's direct investment in Cresud is
classified as a non-current available for sale investment and carried at
fair value.
5. A summary of investments at June 30, 2008 and December 31, 2007 is as
follows (in thousands):
June 30, 2008 December 31, 2007
------------------------------- ------------------------------
Carrying Value Carrying Value
Amortized and Estimated Amortized and Estimated
Cost Fair Value Cost Fair Value
---------- ------------- --------- ------------
Current Investments:
Investments available for sale $ 211,830 $ 211,788 $ 897,470 $ 899,053
Trading securities 201 39,739 47,180 71,618
Other investments, including accrued interest income 3,906 3,906 12,528 12,528
---------- ---------- ---------- ----------
Total current investments $ 215,937 $ 255,433 $ 957,178 $ 983,199
========== ========== ========== ==========
Non-current Investments:
Investments available for sale $1,113,648 $4,080,997 $ 951,988 $2,618,648
Other investments 179,063 179,063 157,873 157,873
---------- ---------- ---------- ----------
Total non-current investments $1,292,711 $4,260,060 $1,109,861 $2,776,521
========== ========== ========== ==========
Non-current available for sale investments include 277,986,000 common
shares of Fortescue Metals Group Ltd ("Fortescue"), representing
approximately 9.9% of the outstanding Fortescue common stock. Fortescue is
a publicly traded company on the Australian Stock Exchange (Symbol: FMG),
and the shares acquired by the Company may be sold without restriction on
the Australian Stock Exchange or in accordance with applicable securities
laws. The Fortescue shares have a cost of $246,300,000 and market values of
$3,171,100,000 and $1,824,700,000 at June 30, 2008 and December 31, 2007,
respectively.
During the second quarter of 2008, the Company accrued $4,900,000 of other
income related to Fortescue's Pilbara iron ore and infrastructure project
in Western Australia. As more fully discussed in the 2007 10-K, the Company
is entitled to receive 4% of the revenue, net of government royalties,
invoiced from certain areas of Fortescue's project, which commenced
production in May 2008. Amounts are payable semi-annually within thirty
days of June 30th and December 31st of each year subject to restricted
payment provisions of Fortescue's debt agreements; payments are currently
being deferred pursuant to those agreements. Depreciation and amortization
expenses include prepaid mining interest amortization of $300,000, which is
being amortized over time in proportion to the amount of ore produced.
10
Non-current other investments include 5,600,000 common shares of Inmet
Mining Corporation ("Inmet"), a Canadian-based global mining company traded
on the Toronto Stock Exchange (Symbol: IMN), which have a cost and carrying
value of $78,000,000 at June 30, 2008 and December 31, 2007. As more fully
discussed in the 2007 10-K, the Inmet shares are restricted and may not be
sold until August 2009 or earlier under certain specified circumstances.
The Inmet shares will be carried at the initially recorded value (unless
there is an other than temporary impairment) until one year prior to the
termination of the transfer restrictions. At June 30, 2008, the market
value of the Inmet shares is $371,000,000.
6. A summary of intangible assets, net and goodwill at June 30, 2008 and
December 31, 2007 is as follows (in thousands):
June 30, December 31,
2008 2007
---- ----
Intangibles:
Customer relationships, net of accumulated amortization of $23,533 and $19,472 $ 49,652 $ 52,362
Licenses, net of accumulated amortization of $672 and $361 11,266 11,527
Trademarks and tradename, net of accumulated amortization of $503 and $403 1,819 1,886
Patents, net of accumulated amortization of $532 and $453 1,828 1,907
Other, net of accumulated amortization of $2,186 and $2,048 3,535 3,673
Goodwill 8,151 8,151
-------- --------
$ 76,251 $ 79,506
======== ========
Amortization expense on intangible assets was $2,300,000 and $1,900,000 for
the three month periods ended June 30, 2008 and 2007, respectively, and
$4,700,000 and $4,000,000 for the six month periods ended June 30, 2008 and
2007, respectively. The estimated aggregate future amortization expense for
the intangible assets for each of the next five years is as follows (in
thousands): 2008 (for the remaining six months) - $4,500; 2009 - $9,000;
2010 - $8,600; 2011 - $8,200; and 2012 - $7,900.
All of the goodwill in the above table relates to Conwed Plastics.
7. A summary of accumulated other comprehensive income (loss), net of taxes at
June 30, 2008 and December 31, 2007 is as follows (in thousands):
June 30, December 31,
2008 2007
---- ----
Net unrealized gains on investments $ 1,824,104 $ 997,678
Net unrealized foreign exchange gains 14,152 7,004
Net unrealized losses on derivative instruments (951) (1,064)
Net minimum pension liability (28,740) (29,023)
Net postretirement benefit 727 770
----------- ----------
$ 1,809,292 $ 975,365
=========== ==========
8. Investment and other income includes changes in the fair values of
derivative financial instruments of $4,300,000 and $600,000 for the three
month periods ended June 30, 2008 and 2007, respectively, and $(400,000)
and $500,000 for the six month periods ended June 30, 2008 and 2007,
respectively.
9. Pension expense charged to operations for the three and six month periods
ended June 30, 2008 and 2007 related to defined benefit pension plans
included the following components (in thousands):
11
For the Three Month For the Six Month
Period Ended June 30, Period Ended June 30,
--------------------- ---------------------
2008 2007 2008 2007
---- ---- ---- ----
Interest cost $ 3,096 $ 2,956 $ 6,192 $ 5,913
Expected return on plan assets (2,667) (2,667) (5,334) (5,333)
Actuarial loss 168 412 336 823
Amortization of prior service cost 1 1 2 1
------- ------- ------- -------
Net pension expense $ 598 $ 702 $ 1,196 $ 1,404
======= ======= ======= =======
The Company did not make any contributions to its defined benefit pension
plans during the six month period ended June 30, 2008.
Several subsidiaries provide certain healthcare and other benefits to
certain retired employees under plans which are currently unfunded. The
Company pays the cost of postretirement benefits as they are incurred.
Amounts charged to expense were not material in each of the three and six
month periods ended June 30, 2008 and 2007.
10. Salaries and incentive compensation expense included $2,500,000 and
$2,600,000, respectively, for the three month periods ended June 30, 2008
and 2007, and $5,000,000 and $6,000,000 for the six month periods ended
June 30, 2008 and 2007, respectively, for share-based compensation expense
relating to grants previously made under the Company's senior executive
warrant plan and fixed stock option plan. During the three and six month
2008 periods, 12,000 options were granted to non-employee directors under
the Company's stock option plan at an exercise price of $53.72 per share,
the market price on the grant date.
11. The aggregate amount of unrecognized tax benefits reflected in the
Company's consolidated balance sheet was $9,700,000 (including $2,500,000
for interest); if recognized, such amounts would lower the Company's
effective tax rate. During the six month period ended June 30, 2008, the
Company recognized previously unrecognized federal and state tax benefits
of $4,100,000 as a result of the expiration of the applicable statute of
limitations. Over the next twelve months, the Company does not expect that
the aggregate amount of unrecognized tax benefits will change by a material
amount. The statute of limitations with respect to the Company's federal
income tax returns has expired for all years through 2003. The Company's
New York State and New York City income tax returns are currently being
audited for the 2003 to 2005 period.
12. Basic earnings (loss) per share amounts are calculated by dividing net
income (loss) by the sum of the weighted average number of common shares
outstanding. To determine diluted earnings (loss) per share, the weighted
average number of common shares is adjusted for the incremental weighted
average number of shares issuable upon exercise of outstanding options and
warrants, unless the effect is antidilutive. In addition, the calculations
of diluted earnings (loss) per share assume the 3 3/4% Convertible Notes
are converted into common shares and earnings increased for the interest on
such notes, net of the income tax effect, unless the effect is
antidilutive. The number of shares used to calculate basic earnings (loss)
per share amounts was 230,235,000 and 216,596,000 for the three month
periods ended June 30, 2008 and 2007, respectively, and 226,952,000 and
216,491,000 for the six month periods ended June 30, 2008 and 2007,
respectively. The number of shares used to calculate diluted earnings
(loss) per share amounts was 247,234,000 and 217,229,000 for the three
month periods ended June 30, 2008 and 2007, respectively, and 243,827,000
and 216,912,000 for the six month periods ended June 30, 2008 and 2007,
respectively. The denominator for dilutive per share computations for the
three and six month periods ended June 30, 2008 and 2007 reflects the
effect of dilutive options and warrants. For the three and six month
periods ended June 30, 2007, the 3 3/4% Convertible Notes, which are
convertible into 15,239,490 common shares, were not included in the
computation of diluted earnings (loss) per share as the effect was
antidilutive.
13. Cash paid for interest and income taxes (net of refunds) was $70,700,000
and $4,700,000, respectively, for the six month period ended June 30, 2008
and $36,100,000 and $7,600,000, respectively, for the six month period
ended June 30, 2007.
14. Debt due within one year includes $156,400,000 and $125,000,000 as of June
30, 2008 and December 31, 2007, respectively, relating to repurchase
agreements. At June 30, 2008, these fixed rate repurchase agreements have a
weighted average interest rate of approximately 2.5%, mature in July 2008
and are secured by non-current investments with a carrying value of
$165,200,000.
12
15. As of June 30, 2008, the Company had acquired approximately 26% of the
outstanding voting securities of AmeriCredit Corp. ("ACF"), a company
listed on the NYSE (Symbol: ACF), for aggregate cash consideration of
$387,000,000 ($70,100,000 was invested as of December 31, 2007). ACF is an
independent auto finance company that is in the business of purchasing and
servicing automobile sales finance contracts, predominantly to consumers
who are typically unable to obtain financing from other sources. ACF has
historically funded its auto lending activities through the transfer of
loans in securitization transactions. The Company has entered into a
standstill agreement with ACF for the two year period ending March 3, 2010,
pursuant to which the Company has agreed not to sell its shares if the
buyer would own more than 4.9% of the outstanding shares, unless the buyer
agreed to be bound by terms of the standstill agreement, to not increase
its ownership interest to more than 30% of the outstanding ACF common
shares, and received the right to nominate two directors to the board of
directors of ACF. At June 30, 2008, the Company's investment in ACF is
carried at fair value of $261,600,000; income (loss) related to associated
companies includes unrealized losses resulting from decreases in the fair
value of ACF of $46,900,000 and $125,400,000 for the three and six month
periods ended June 30, 2008, respectively. At December 31, 2007, the
Company's investment in ACF was classified as non-current investments and
carried at fair value of $71,500,000.
The Company's investment in ACF is one of two eligible items for which the
fair value option identified in SFAS 159 can be elected, commencing on the
date the Company acquired the right to vote 20% of the ACF common stock and
the investment became subject to the equity method of accounting. If ACF
were accounted for under the equity method, the Company would have to
record its share of ACF's results of operations employing a quarterly
reporting lag because of ACF's own public reporting requirements. In
addition, electing the fair value option for ACF eliminates some of the
uncertainty involved with impairment considerations, since the quoted
market price for ACF common shares provides a readily determinable fair
value at each balance sheet date. For these reasons the Company elected the
fair value option for its investment in ACF.
The relative significance of ACF to the Company could result in the Company
including separate audited financial statements for ACF in its Annual
Report on Form 10-K for the year ended December 31, 2008. The following
table provides summarized data with respect to ACF for the six months ended
June 30, 2008 (in thousands):
Total revenues $1,237,200
Loss from continuing operations before extraordinary items (112,000)
Net loss (112,000)
16. In April 2008, the Company sold to Jefferies Group, Inc. ("Jefferies")
10,000,000 of the Company's common shares, and received 26,585,310 shares
of common stock of Jefferies and $100,021,000 in cash. The Jefferies common
shares were valued based on the closing price of the Jefferies common stock
on April 18, 2008, the last trading date prior to the acquisition
($398,248,000 in the aggregate). Including shares acquired in open market
purchases during 2008, as of June 30, 2008 the Company owns an aggregate of
48,585,385 Jefferies common shares (approximately 30% of the Jefferies
outstanding common shares) for a total investment of $794,400,000. At June
30, 2008, the Company's investment in Jefferies is carried at fair value of
$817,200,000, with an unrealized gain of $22,800,000 for the 2008 periods
included in income (loss) related to associated companies in the
consolidated statement of operations. Jefferies, a company listed on the
NYSE (Symbol: JEF), is a full-service global investment bank and
institutional securities firm serving companies and their investors.
In addition, the Company entered into a standstill agreement, pursuant to
which for the two year period ending April 21, 2010, the Company agreed,
subject to certain provisions, to limit its investment in Jefferies to not
more than 30% of the outstanding Jefferies common shares and to not sell
its investment, and received the right to nominate two directors to the
board of directors of Jefferies. Jefferies also agreed to enter into a
registration rights agreement covering all of the Jefferies shares of
common stock owned by the Company.
The Jefferies shares acquired, together with the Company's representation
on the Jefferies board of directors, enables the Company to qualify to use
the equity method of accounting for this investment. The Company's
investment in Jefferies is one of two eligible items for which the fair
value option identified in SFAS 159 was elected, commencing on the date the
investment became subject to the equity method of accounting. The Company's
rationale for electing the fair value option for Jefferies is the same as
its rationale for its investment in ACF discussed above.
13
The relative significance of Jefferies to the Company could result in the
Company including separate audited financial statements for Jefferies in
its Annual Report on Form 10-K for the year ended December 31, 2008. The
following table provides summarized data with respect to Jefferies for the
six months ended June 30, 2008 (in thousands):
Total revenues $ 980,500
Loss from continuing operations before extraordinary items (64,900)
Net loss (64,900)
The Company's investment in HomeFed Corporation ("HomeFed") is the only
other investment in an associated company that is also a publicly traded
company but for which the Company did not elect the fair value option.
HomeFed's common stock is not listed on any stock exchange, and price
information for the common stock is not regularly quoted on any automated
quotation system. It is traded in the over-the-counter market with high and
low bid prices published by the National Association of Securities Dealers
OTC Bulletin Board Service; however, trading volume is minimal. For these
reasons the Company did not elect the fair value option for HomeFed.
17. Aggregate information concerning assets and liabilities at June 30, 2008
that are measured at fair value on a recurring basis is presented below
(dollars in thousands):
Fair Value Measurements Using (e)
------------------------------------------
Quoted Prices in
Active Markets for
Identical Assets or Significant Other
Total Fair Value Liabilities Observable Inputs
Measurements (Level 1) (Level 2)
------------ --------- ---------
Investments classified as current assets:
Investments available for sale $ 211,788 $ 207,938 $ 3,850
Trading securities (a) 39,436 -- 39,436
------------ ----------- ----------
251,224 207,938 43,286
------------ ----------- ----------
Non-current investments:
Investments available for sale 3,987,664 3,513,769 473,895
------------ ----------- ----------
Investments in associated companies (b) 1,078,800 1,078,800 --
------------ ----------- ----------
Total $ 5,317,688 $ 4,800,507 $ 517,181
============ =========== ==========
Other current liabilities (c) $ 2,447 $ 2,447 $ --
Other non-current liabilities (d) 8,486 -- 8,486
------------ ----------- ----------
Total $ 10,933 $ 2,447 $ 8,486
============ =========== ==========
(a) During the three and six month 2008 periods, changes in fair value of
$7,800,000 and $15,100,000, respectively, are reflected in net
securities gains in the consolidated statement of operations.
(b) During the three and six month 2008 periods, changes in fair value of
$(24,100,000) and $(102,600,000), respectively, are reflected in
income (loss) related to associated companies in the consolidated
statement of operations. This is the aggregate change in the fair
value of ACF and Jefferies, the only eligible items identified in SFAS
159 for which the Company has elected the fair value option.
(c) During each of the three and six month 2008 periods, changes in fair
value of $300,000 are reflected in net securities gains in the
consolidated statements of operations.
(d) Comprised of currency swap and interest rate swap derivative financial
instruments. During the three and six month periods ended June 30,
2008, changes in fair value of $4,300,000 and $(400,000),
respectively, are reflected in investment and other income in the
consolidated statements of operations.
(e) At June 30, 2008, the Company did not have material fair value
measurements using unobservable inputs (Level 3).
14
18. In April 2008, the Lake Charles Harbor & Terminal District of Lake Charles,
Louisiana sold $1,000,000,000 in tax exempt bonds which will support the
development of a $1,600,000,000 petroleum coke gasification plant project
currently being developed by the Company's wholly-owned subsidiary, Lake
Charles Cogeneration LLC ("LCC"). The Lake Charles Cogeneration project is
a new chemical manufacturing project planning to use quench gasification
technology to produce energy products from low grade solid fuel sources
such as petroleum coke. The primary products to be produced by the Lake
Charles Cogeneration project will be substitute natural gas and hydrogen.
LCC does not currently have access to the bond proceeds, which are
currently being held in an escrow account by the bond trustee, and it will
not have access to the bond proceeds until certain conditions are
satisfied. The Company is not obligated to make equity contributions to LCC
to fund a portion of the project's costs until it completes its
investigation and the project is approved by the Company's board of
directors. Upon the completion of pending permitting, regulatory approval,
design engineering and the satisfaction of certain other conditions of the
financing agreements, the bonds will be remarketed for a longer term and
the proceeds will be released to LCC to use for the payment of development
and construction costs for the project. The expected date for construction
commencement is March 2009, with commercial operation of the plant to begin
in 2012. Once LCC begins to draw down on the bond proceeds, any amounts
drawn will be recorded as long-term indebtedness of LCC.
15
Item 2. Management's Discussion and Analysis of Financial Condition and Results
of Interim Operations.
The following should be read in conjunction with the Management's Discussion and
Analysis of Financial Condition and Results of Operations included in the 2007
10-K.
Liquidity and Capital Resources
In addition to cash and cash equivalents, the Company also considers investments
classified as current assets and investments classified as non-current assets on
the face of its consolidated balance sheet as being generally available to meet
its liquidity needs. Securities classified as current and non-current
investments are not as liquid as cash and cash equivalents, but they are
generally easily convertible into cash within a short period of time. As of June
30, 2008, the sum of these amounts aggregated $4,752,100,000. However, since
$557,000,000 of this amount is pledged as collateral pursuant to various
agreements, represents investments in non-public securities or is held by
subsidiaries that are party to agreements which restrict the Company's ability
to use the funds for other purposes (including the Inmet shares), the Company
does not consider those amounts to be available to meet the Parent's liquidity
needs. The $4,195,100,000 that is available is comprised of cash and short-term
bonds and notes of the U.S. Government and its agencies, U.S.
Government-Sponsored Enterprises and other publicly traded debt and equity
securities (including the Company's $3,171,100,000 investment in Fortescue
common shares). The investment income realized from the Parent's cash, cash
equivalents and marketable securities is used to meet the Parent company's
short-term recurring cash requirements, which are principally the payment of
interest on its debt and corporate overhead expenses.
As of June 30, 2008, the Company had acquired approximately 26% of the
outstanding voting securities of ACF, a company listed on the NYSE, for
aggregate cash consideration of $387,000,000 ($70,100,000 was invested as of
December 31, 2007). ACF is an independent auto finance company that is in the
business of purchasing and servicing automobile sales finance contracts,
predominantly to consumers who are typically unable to obtain financing from
other sources. ACF has historically funded its auto lending activities through
the transfer of loans in securitization transactions. The Company has entered
into a standstill agreement with ACF for the two year period ending March 3,
2010, pursuant to which the Company has agreed not to sell its shares if the
buyer would own more than 4.9% of the outstanding shares, unless the buyer
agreed to be bound by terms of the standstill agreement, to not increase its
ownership interest to more than 30% of the outstanding ACF common shares, and
received the right to nominate two directors to the board of directors of ACF.
ACF also entered into a registration rights agreement covering all of the common
shares owned by the Company. At June 30, 2008, the Company's investment in ACF
is carried at fair value of $261,600,000; the investment in ACF is one of two
eligible items for which the Company elected the fair value option described in
SFAS 159.
In March 2008, the Company increased its equity investment in the common shares
of IFIS, a private Argentine company, from approximately 3% to 26% for an
additional cash investment of $83,900,000. At June 30, 2008, the Company's
aggregate investment in IFIS was classified as an investment in an associated
company of $85,900,000 and is accounted for under the equity method of
accounting. IFIS owns a variety of investments, and its largest investment is
approximately 32% of the outstanding common shares of Cresud, an Argentine
agricultural company involved in a range of activities including crop
production, cattle raising and milk production. Cresud's common shares trade on
the Buenos Aires Stock Exchange (Symbol: CRES); in the U.S., Cresud trades as
American Depository Shares or ADSs (each of which represents ten common shares)
on the NASDAQ Global Select Market (Symbol: CRESY). Cresud is also indirectly
engaged in the Argentine real estate business through its approximate 42%
interest in IRSA, a company engaged in a variety of real estate activities in
Argentina including ownership of residential properties, office buildings,
shopping centers and luxury hotels. IRSA's common shares also trade on the
Buenos Aires Stock Exchange (Symbol: IRSA); in the U.S., IRSA trades as ADSs on
the NYSE (Symbol: IRS).
The Company also acquired a direct equity interest in Cresud for an aggregate
cash investment of $54,300,000. The Company owns 3,364,174 Cresud ADSs,
representing approximately 6.7% of Cresud's outstanding common shares, and
currently exercisable warrants to purchase 11,213,914 Cresud common shares (or
1,121,391 Cresud ADSs) at an exercise price of $1.68 per share. The Company's
direct investment in Cresud is classified as a non-current available for sale
investment and carried at fair value.
16
In April 2008, the Company sold to Jefferies 10,000,000 of the Company's common
shares, and received 26,585,310 shares of common stock of Jefferies and
$100,021,000 in cash. The Jefferies common shares were valued based on the
closing price of the Jefferies common stock on April 18, 2008, the last trading
date prior to the acquisition ($398,248,000 in the aggregate). Including shares
acquired in open market purchases during 2008, as of June 30, 2008 the Company
owns an aggregate of 48,585,385 Jefferies common shares (approximately 30% of
the Jefferies outstanding common shares) for a total investment of $794,400,000.
At June 30, 2008, the Company's investment in Jefferies is carried at fair value
of $817,200,000. Jefferies, a company listed on the NYSE (Symbol: JEF), is a
full-service global investment bank and institutional securities firm serving
companies and their investors.
In addition, the Company entered into a standstill agreement, pursuant to which
for the two year period ending April 21, 2010, the Company agreed, subject to
certain provisions, to limit its investment in Jefferies to not more than 30% of
the outstanding Jefferies common shares and to not sell its investment, and
received the right to nominate two directors to the board of directors of
Jefferies. Jefferies also agreed to enter into a registration rights agreement
covering all of the Jefferies shares of common stock owned by the Company.
The Jefferies shares acquired, together with the Company's representation on the
Jefferies board of directors, enables the Company to qualify to use the equity
method of accounting for this investment. The Company's investment in Jefferies
is one of two eligible items for which the fair value option identified in SFAS
159 was elected, commencing on the date the investment became subject to the
equity method of accounting.
As more fully described in the 2007 10-K, during 2007 the Company and Jefferies
formed Jefferies High Yield Holdings, LLC ("JHYH"), a newly formed entity, and
the Company and Jefferies each committed to invest $600,000,000. The Company has
invested $350,000,000 in JHYH and was initially committed to an additional
investment of $250,000,000, subject to Jefferies prior request. Any request for
additional capital contributions from the Company will now require the consent
of the Company's designees to the Jefferies board.
As discussed above, in April 2008, the Lake Charles Harbor & Terminal District
of Lake Charles, Louisiana sold $1,000,000,000 in tax exempt bonds which will
support the development of a $1,600,000,000 petroleum coke gasification plant
project currently being developed by the Company's wholly-owned subsidiary, Lake
Charles Cogeneration LLC ("LCC"). LCC does not currently have access to the bond
proceeds, which are currently being held in an escrow account by the bond
trustee, and it will not have access to the bond proceeds until certain
conditions are satisfied. The Company is not obligated to make equity
contributions to LCC to fund a portion of the project's costs until it completes
its investigation and the project is approved by the Company's board of
directors. Upon the completion of pending permitting, regulatory approval,
design engineering and the satisfaction of certain other conditions of the
financing agreements, the bonds will be remarketed for a longer term and the
proceeds will be released to LCC to use for the payment of development and
construction costs for the project. The expected date for construction
commencement is March 2009, with commercial operation of the plant to begin in
2012. Once LCC begins to draw down on the bond proceeds, any amounts drawn will
be recorded as long-term indebtedness of LCC.
Consolidated Statements of Cash Flows
Net cash flows provided by operations were $10,500,000 in the six month period
ended June 30, 2008 as compared to $59,000,000 in the six month period ended
June 30, 2007. The change reflects a use of funds for increased interest expense
payments, increased funds generated from the trading portfolio and increased
distributions of earnings from associated companies. Funds used for operating
activities during 2008 include the results of companies acquired during 2007,
STi Prepaid and ResortQuest, and the results of Premier following its
reconsolidation in the third quarter of 2007. STi Prepaid's telecommunications
operations generated funds from operating activities of $13,000,000 and
$13,400,000 during the 2008 and 2007 periods, respectively, the Company's
property management and services segment generated funds of $5,900,000 and
$9,100,000 during the 2008 and 2007 periods, respectively, Premier generated
funds of $7,300,000 in 2008 and the Company's manufacturing segments generated
funds of $8,600,000 and $10,700,000 in the 2008 and 2007 periods, respectively,
principally reflecting reduced profitability at Idaho Timber. The net change in
restricted cash principally results from the receipt of rental deposits at
ResortQuest. Funds used by Sangart, Inc. ("Sangart"), a development stage
company, increased to $16,700,000 during the 2008 period from $11,500,000 during
the 2007 period. In 2008, distributions from associated companies principally
include earnings distributed by Shortplus ($25,000,000), JHYH ($4,300,000),
Jefferies ($5,500,000) and Goober Drilling, LLC ("Goober Drilling")
($9,500,000). In 2007, distributions from associated companies principally
include earnings distributed by Jefferies Partners Opportunity Fund II, LLC
("JPOF II") ($29,200,000) and EagleRock Capital Partners (QP), LP ("EagleRock")
($15,000,000).
17
Net cash flows used for investing activities were $419,300,000 in the six month
period ended June 30, 2008 and $409,600,000 in the six month period ended June
30, 2007. During 2007, acquisitions, net of cash acquired, principally include
assets acquired by STi Prepaid ($84,600,000) and ResortQuest ($9,800,000).
Investments in associated companies include Jefferies ($396,100,000), ACF
($316,900,000), IFIS ($83,900,000) and Cobre Las Cruces, S.A. ("CLC")
($34,500,000) in 2008 and JHYH ($250,000,000), Pershing Square ($200,000,000),
Goober Drilling ($55,000,000), Highland Opportunity Fund L.P. ("Highland
Opportunity") ($74,000,000), Shortplus ($25,000,000) and CLC ($23,900,000) in
2007. Capital distributions from associated companies include $19,300,000 from
Safe Harbor Domestic Partners L.P. ("Safe Harbor"), $23,400,000 from Goober
Drilling, $38,000,000 from Highland Opportunity and $7,000,000 from EagleRock in
the 2008 period and $25,000,000 from Safe Harbor in the 2007 period.
Net cash provided by financing activities was $188,400,000 in the six month
period ended June 30, 2008 and $530,700,000 in the six month period ended June
30, 2007. Issuance of long-term debt for the 2007 period reflects the issuance
of $500,000,000 principal amount of the Company's 7 1/8% Notes (net of issuance
expenses) and for the 2008 and 2007 periods reflects the increase in repurchase
agreements of $31,400,000 and $35,600,000, respectively. Issuance of common
shares for the six month period ended June 30, 2008 principally reflects cash
consideration received on the sale to Jefferies of 10,000,000 of the Company's
common shares, which was discussed above. In addition, issuance of common shares
for 2008 and principally for 2007 reflects the exercise of employee stock
options.
Critical Accounting Estimates
The Company's discussion and analysis of its financial condition and results of
operations are based upon its consolidated financial statements, which have been
prepared in accordance with GAAP. The preparation of these financial statements
requires the Company to make estimates and assumptions that affect the reported
amounts in the financial statements and disclosures of contingent assets and
liabilities. On an on-going basis, the Company evaluates all of these estimates
and assumptions. The following areas have been identified as critical accounting
estimates because they have the potential to have a material impact on the
Company's financial statements, and because they are based on assumptions which
are used in the accounting records to reflect, at a specific point in time,
events whose ultimate outcome won't be known until a later date. Actual results
could differ from these estimates.
Income Taxes - The Company records a valuation allowance to reduce its deferred
tax asset to the amount that is more likely than not to be realized. If in the
future the Company were to determine that it would be able to realize its
deferred tax asset in excess of its net recorded amount, an adjustment would
increase income in such period or, if such determination were made in connection
with an acquisition, an adjustment would be made in connection with the
allocation of the purchase price to acquired assets and liabilities. If in the
future the Company were to determine that it would not be able to realize all or
part of its deferred tax asset, an adjustment would be charged to income in such
period. As required under GAAP, the determination of the amount of the valuation
allowance required is based, in significant part, upon the Company's projection
of future taxable income, which the Company is required to periodically reassess
as circumstances warrant.
During the second quarter of 2008, the Company's revised projections of future
taxable income enabled it to conclude that it is more likely than not that it
will have future taxable income sufficient to realize an additional portion of
the Company's net deferred tax asset; accordingly, $222,200,000 of the deferred
tax valuation allowance was reversed as a credit to income tax expense. The
Company's conclusion that this additional portion of the deferred tax asset is
more likely than not to be realized reflects, among other things, the projected
income to be earned from the sale of 10,000,000 common shares of the Company in
April 2008, and is strongly influenced by its historical ability to generate
significant amounts of taxable income and its projections of future taxable
income. In addition, as a result of the increased projected taxable income in
certain state and local taxing jurisdictions, the Company recognized additional
state and local net operating loss carryforward benefits of $12,500,000 as a
reduction to income tax expense. The Company's estimate of future taxable income
considers all available evidence, both positive and negative, about its current
operations and investments, includes an aggregation of individual projections
for each material operation and investment, estimates apportionment factors for
state and local taxing jurisdictions and includes all future years that the
Company estimated it would have available net operating loss carryforwards. The
Company believes that its estimate of future taxable income is reasonable but
inherently uncertain, and if the Company realizes unforeseen material losses in
the future, or its ability to generate future taxable income necessary to
realize a portion of the deferred tax asset is materially reduced, additions to
the valuation allowance could be recorded. At June 30, 2008, the balance of the
deferred tax valuation allowance was approximately $80,000,000, principally to
reserve for net operating losses that are not available to offset income
generated by other members of the Company's consolidated tax return group.
18
Impairment of Long-Lived Assets - In accordance with Financial Accounting
Standards No. 144, "Accounting for the Impairment or Disposal of Long-Lived
Assets", the Company evaluates its long-lived assets for impairment whenever
events or changes in circumstances indicate, in management's judgment, that the
carrying value of such assets may not be recoverable. When testing for
impairment, the Company groups its long-lived assets with other assets and
liabilities at the lowest level for which identifiable cash flows are largely
independent of the cash flows of other assets and liabilities (or asset group).
The determination of whether an asset group is recoverable is based on
management's estimate of undiscounted future cash flows directly attributable to
the asset group as compared to its carrying value. If the carrying amount of the
asset group is greater than the undiscounted cash flows, an impairment loss
would be recognized for the amount by which the carrying amount of the asset
group exceeds its estimated fair value. The Company did not recognize any
impairment losses on long-lived assets during the six month periods ended June
30, 2008 and 2007.
Impairment of Securities - Investments with an impairment in value considered to
be other than temporary are written down to estimated fair value. The
write-downs are included in net securities gains in the consolidated statements
of operations. The Company evaluates its investments for impairment on a
quarterly basis.
The Company's determination of whether a security is other than temporarily
impaired incorporates both quantitative and qualitative information; GAAP
requires the exercise of judgment in making this assessment, rather than the
application of fixed mathematical criteria. The Company considers a number of
factors including, but not limited to, the length of time and the extent to
which the fair value has been less than cost, the financial condition and near
term prospects of the issuer, the reason for the decline in fair value, changes
in fair value subsequent to the balance sheet date, the ability and intent to
hold investments to maturity, and other factors specific to the individual
investment. The Company's assessment involves a high degree of judgment and
accordingly, actual results may differ materially from the Company's estimates
and judgments. The Company recorded impairment charges for securities of
$6,600,000 and $300,000 for the three month periods ended June 30, 2008 and
2007, respectively, and $13,600,000 and $500,000 for the six month periods ended
June 30, 2008 and 2007, respectively.
Business Combinations - At acquisition, the Company allocates the cost of a
business acquisition to the specific tangible and intangible assets acquired and
liabilities assumed based upon their relative fair values. Significant judgments
and estimates are often made to determine these allocated values, and may
include the use of appraisals, consider market quotes for similar transactions,
employ discounted cash flow techniques or consider other information the Company
believes relevant. The finalization of the purchase price allocation will
typically take a number of months to complete, and if final values are
materially different from initially recorded amounts adjustments are recorded.
Any excess of the cost of a business acquisition over the fair values of the net
assets and liabilities acquired is recorded as goodwill, which is not amortized
to expense. Recorded goodwill of a reporting unit is required to be tested for
impairment on an annual basis, and between annual testing dates if events or
circumstances change that would more likely than not reduce the fair value of a
reporting unit below its net book value.
Subsequent to the finalization of the purchase price allocation, any adjustments
to the recorded values of acquired assets and liabilities would be reflected in
the Company's consolidated statement of operations. Once final, the Company is
not permitted to revise the allocation of the original purchase price, even if
subsequent events or circumstances prove the Company's original judgments and
estimates to be incorrect. In addition, long-lived assets like property and
equipment, amortizable intangibles and goodwill may be deemed to be impaired in
the future resulting in the recognition of an impairment loss; however, under
GAAP the methods, assumptions and results of an impairment review are not the
same for all long-lived assets. The assumptions and judgments made by the
Company when recording business combinations will have an impact on reported
results of operations for many years into the future.
Use of Fair Value Estimates - Substantially all of the Company's investment
portfolio is classified as either available for sale or as trading securities,
both of which are carried at estimated fair value in the Company's consolidated
balance sheet. The Company's investments in Jefferies and ACF are also carried
at fair value and are classified as investments in associated companies. The
estimated fair values are principally based on publicly quoted market prices,
which can rise or fall in reaction to a wide variety of factors or events, and
as such are subject to market-related risks and uncertainties. The Company also
invests in limited partnerships or limited liability companies which are
accounted for under the equity method of accounting. These investees hold
investments in publicly and non-publicly traded securities, and as such are also
subject to market-related risks and uncertainties and the risks inherent in
estimating the fair values of such securities. Since changes in the fair value
of all of these investments are recognized in the Company's consolidated balance
sheet, and with respect to trading securities, securities owned by certain
equity method investees and the Company's investments in Jefferies and ACF, also
in the Company's consolidated statement of operations, the Company is exposed to
volatility in securities markets.
19
Contingencies - The Company accrues for contingent losses when the contingent
loss is probable and the amount of loss can be reasonably estimated. Estimates
of the likelihood that a loss will be incurred and of contingent loss amounts
normally require significant judgment by management, can be highly subjective
and are subject to material change with the passage of time as more information
becomes available. As of June 30, 2008, the Company's accrual for contingent
losses was not material.
Results of Operations
The 2008 Periods Compared to the 2007 Periods
General
Substantially all of the Company's operating businesses sell products or
services that are impacted by general economic conditions in the U.S. and to a
lesser extent internationally. Poor general economic conditions can reduce the
demand for products or services sold by the Company's operating subsidiaries
and/or result in reduced pricing for products or services. Troubled industry
sectors, like the residential real estate market, can have an adverse direct
impact not only on the Company's real estate and property management and
services segments, but also can have an adverse indirect impact on some of the
Company's other operating segments, including manufacturing and gaming
entertainment. The discussions below and in the 2007 10-K concerning revenue and
profitability by segment consider current economic conditions and the impact
such conditions have on each segment; however, should general economic
conditions worsen and/or if the country experiences a recession, the Company
believes that all of its businesses would be more adversely impacted than
currently anticipated.
The Company does not have any operating businesses that are participants in the
sub-prime real estate lending sector, though a tightening in consumer lending
standards has and will have a direct or indirect negative impact on certain of
the Company's operations. The Company's investment portfolio includes
mortgage-backed securities of $353,200,000 at June 30, 2008; however,
substantially all of these securities are rated investment grade and issued by
United States Government agencies or U.S. Government-Sponsored Enterprises. The
Company has also invested in certain investment partnerships that invest in
securities whose values are directly affected by the sub-prime lending crisis.
The Company's exposure to changes in their values is limited to the net book
value of its investment in such partnerships. At June 30, 2008, the aggregate
book value of the Company's investments in such partnerships was approximately
$116,300,000.
As more fully discussed above, SFAS 159 permits the Company to measure many
financial instruments and certain other items at fair value, with unrealized
gains and losses reported in the consolidated statement of operations. Although
the Company has only elected the fair value option for two eligible items during
the first six months of 2008, the investments in Jefferies and ACF, the
volatility in the market price of those investments, combined with the size of
the Company's ownership interest, has significantly increased the volatility of
the Company's earnings. The Company may also experience significant volatility
in future periods from its investments in Jefferies and ACF and/or from new
items for which the fair value option may be elected. During the three and six
month periods ended June 30, 2008, the Company recognized unrealized losses of
$46,900,000 and $125,400,000, respectively, related to its investment in ACF,
and during the periods ended June 30, 2008 recognized an unrealized gain of
$22,800,000 related to its investment in Jefferies.
Manufacturing - Idaho Timber
Revenues and other income for Idaho Timber were $69,300,000 and $83,200,000 for
the three months ended June 30, 2008 and 2007, respectively, and were
$127,800,000 and $155,700,000, respectively, for the six months ended June 30,
2008 and 2007, respectively. Gross profit was $7,400,000 and $9,000,000 for the
three months ended June 30, 2008 and 2007, respectively, and $10,100,000 and
$18,000,000 for the six months ended June 30, 2008 and 2007, respectively.
Salaries and incentive compensation expenses were $1,900,000 and $2,300,000 for
the three months ended June 30, 2008 and 2007, respectively, and $3,700,000 and
$4,600,000 for the six months ended June 30, 2008 and 2007, respectively.
Depreciation and amortization expenses were $1,100,000 and $1,200,000 for the
three months ended June 30, 2008 and 2007, respectively, and $2,200,000 and
$2,400,000 for the six months ended June 30, 2008 and 2007, respectively.
Pre-tax income was $3,500,000 and $4,600,000 for the three months ended June 30,
2008 and 2007, respectively, and $2,500,000 and $8,800,000 for the six months
ended June 30, 2008 and 2007, respectively.
20
Idaho Timber's revenues for the three and six months ended June 30, 2008
continued to reflect the weak demand resulting from reductions in housing starts
and the abundant supply of high-grade lumber in the marketplace. Shipment volume
in the 2008 periods decreased approximately 13% as compared to the same periods
in 2007, and average selling prices decreased approximately 5% in the 2008
periods as compared to the 2007 periods. Revenues for the second quarter of 2008
increased as compared to the first quarter of 2008 primarily due to seasonality.
Idaho Timber expects that the abundance of existing homes available for sale in
the market will continue to negatively impact housing starts and Idaho Timber's
revenues during 2008. Until housing starts begin to increase, annual dimension
lumber shipping volume may remain flat or could decline further.
Raw material cost per thousand board feet declined approximately 5% in the three
month 2008 period as compared to the three month 2007 period, and was largely
unchanged in the six month 2008 period as compared to the same period in 2007.
Raw material cost per thousand board feet for the second quarter of 2008
increased as compared to the first quarter of 2008 due to the seasonal demand.
The difference between Idaho Timber's selling price and raw material cost per
thousand board feet (spread) is closely monitored, and the rate of change in
pricing and cost is typically not the same. Spreads were largely unchanged for
the second quarter of 2008 as compared to the same period in 2007, and declined
for the six month 2008 period as compared to the same period in 2007. While
spreads improved in the second quarter of 2008 as compared to the first quarter
of 2008, this is not expected to continue as it largely reflected the seasonally
higher selling prices.
The Home Depot, one of Idaho Timber's largest home center board customers,
informed Idaho Timber that it would discontinue purchasing pine boards through
its vendor managed inventory program effective July 1, 2008. Revenues from The
Home Depot pursuant to this program were $3,900,000 and $8,000,000 for the three
and six month periods ended June 30, 2008. Idaho Timber intends to replace this
lost business with new customers and/or may utilize its excess production
capacity for other products.
Manufacturing - Conwed Plastics
Pre-tax income for Conwed Plastics was $4,400,000 and $5,300,000 for the three
months ended June 30, 2008 and 2007, respectively, and $8,300,000 and $8,600,000
for the six month periods ended June 30, 2008 and 2007, respectively. Its
manufacturing revenues and other income were $29,100,000 and $27,300,000 for the
three month periods ended June 30, 2008 and 2007, respectively, and $55,800,000
and $51,500,000 for the six month periods ended June 30, 2008 and 2007,
respectively. Gross profits were $8,600,000 and $8,600,000 for the three month
periods ended June 30, 2008 and 2007, respectively, and $16,800,000 and
$15,500,000 for the six month periods ended June 30, 2008 and 2007,
respectively. Revenues increased in the 2008 periods as compared to the 2007
periods primarily in the packaging and filtration markets, largely due to
acquisitions made in 2007, and in various markets in Europe due to an
acquisition in 2007, new customers and the impact of foreign exchange. However,
Conwed Plastics' revenues in 2008 continued to be adversely impacted in those
markets related to the housing industry. In addition, revenues from the erosion
control market declined in 2008 as some business was lost to competitors.
Raw material costs increased approximately 20% and 28%, respectively, in the
three and six month periods ended June 30, 2008 as compared to the same periods
in 2007. The primary raw material in Conwed Plastics' products is a
polypropylene resin, which is a byproduct of the oil refining process, whose
price tends to fluctuate with the price of oil. Although raw material costs
increased, gross profits were flat in the three month 2008 period and greater in
the six month 2008 period as compared to the same periods in 2007, primarily due
to increased sales volume and higher selling prices, and for the six month
period, product mix. Pre-tax results for the three and six month 2008 periods
also reflect $900,000 and $1,100,000 of higher salaries and incentive
compensation expense as compared to the 2007 periods principally due to an
increase in estimated incentive bonus expense, and for the six month period,
greater headcount.
Telecommunications
The telecommunications business of STi Prepaid has been consolidated by the
Company since March 2007. STi Prepaid's telecommunications revenues and other
income were $109,000,000 and $111,500,000 for the three months ended June 30,
2008 and 2007, respectively, and $228,700,000 and $144,300,000 for the six
months ended June 30, 2008 and for the period from the asset acquisition through
June 30, 2007, respectively. Telecommunications cost of sales were $93,900,000
and $94,200,000 for the three months ended June 30, 2008 and 2007, respectively,
and $200,000,000 and $121,800,000 for the six months ended June 30, 2008 and for
the period from the asset acquisition through June 30, 2007, respectively.
Salaries and incentive compensation expenses were $2,500,000 and $2,400,000 for
the three months ended June 30, 2008 and 2007, respectively, and $4,600,000 and
$2,900,000 for the six months ended June 30, 2008 and for the period from the
asset acquisition through June 30, 2007, respectively. Selling, general and
other expenses were $8,500,000 and $8,300,000 for the three months ended June
30, 2008 and 2007, respectively, and $16,500,000 and $10,100,000 for the six
months ended June 30, 2008 and for the period from the asset acquisition through
June 30, 2007, respectively. Pre-tax income was $3,900,000 and $6,500,000 for
the three months ended June 30, 2008 and 2007, respectively, and $7,100,000 and
$9,400,000 for the six months ended June 30, 2008 and for the period from the
asset acquisition through June 30, 2007, respectively.
21
Telecommunications revenues for the second quarter of 2008 declined slightly as
compared to the second quarter of 2007 and were approximately 9% lower than for
the first quarter of 2008. This decline since the first quarter of 2008 reflects
reduced sales of certain unprofitable prepaid calling cards and reduced carrier
wholesale service revenues principally due to the loss of a large customer.
Gross profit for the second quarter of 2008 declined as compared to the same
period in 2007 primarily due to losses from a large sale of handsets in 2008.
Gross profit for the second quarter of 2008 increased as compared to the first
quarter of 2008 primarily due to the reduction in certain unprofitable prepaid
calling card business, discussed above, and fewer launches of new prepaid
calling cards with low introductory rates.
Property Management and Services
The property management and services operations of ResortQuest have been
consolidated by the Company since June 2007. For the three and six month periods
ended June 30, 2008, property management and services revenues and other income
were $38,900,000 and $78,600,000, respectively, direct operating expenses were
$30,500,000 and $57,900,000, respectively, salaries and incentive compensation
expenses were $1,400,000 and $2,700,000, respectively, depreciation and
amortization expenses were $1,400,000 and $2,700,000, respectively, selling,
general and other expenses were $5,100,000 and $10,400,000, respectively, and
pre-tax income was $600,000 and $4,900,000, respectively. For the 2007 periods,
property management and services revenues and other income were $18,500,000,
direct operating expenses were $11,900,000, salaries and incentive compensation
expenses were $1,300,000, selling, general and other expenses were $3,300,000
and pre-tax income was $1,500,000.
ResortQuest's business is seasonal; profits for the first quarter typically are
higher as ski areas reach their peak season, and 2008 also benefited from
earlier than usual religious and school holidays. Profits for the second quarter
typically are lower as the beach and golf locations do not reach their peak
until the summer months. ResortQuest's occupancy percentages for the three and
six month 2008 periods did not significantly change from those for the
comparable 2007 periods (inclusive of the pre-acquisition period). However, its
average daily rates for the 2008 periods declined compared to those for the same
periods in 2007. In the three and six month 2008 periods, ResortQuest recorded
net real estate brokerage revenues of $1,900,000 and $6,700,000, respectively,
upon the completion of certain large development projects. As more fully
discussed in the 2007 10-K, the real estate brokerage business has been and will
continue to be negatively impacted by the depressed real estate market.
Gaming Entertainment
As more fully discussed in the 2007 10-K, Premier was accounted for as a
consolidated subsidiary when acquired during 2006; however, while in bankruptcy
proceedings from September 19, 2006 to emergence on August 10, 2007, Premier was
accounted for under the equity method of accounting. Premier's casino and hotel
operations opened to the public on June 30, 2007; prior to opening, Premier's
activities principally consisted of rebuilding and repairing the hotel and
casino facilities that were severely damaged by Hurricane Katrina, and its
bankruptcy proceedings.
For the three and six month periods ended June 30, 2008, Premier's revenues and
other income were $28,800,000 and $68,400,000, respectively, and pre-tax income
(loss) was $(600,000) and $8,800,000, respectively. Revenues and other income
for the six month 2008 period include a $7,300,000 gain from the settlement and
collection of Premier's remaining insurance claim relating to Hurricane Katrina
and $4,700,000 resulting from capital contributions from the minority interest.
In prior periods, the Company recorded 100% of the losses after cumulative loss
allocations to the minority interest had reduced the minority interest liability
to zero. Since the minority interest liability remains at zero after considering
the capital contributions, the entire capital contribution was recorded as
income, effectively reimbursing the Company for a portion of the minority
interest losses that were not previously allocated to the minority interest.
Premier's results for the three and six month periods ended June 30, 2008 also
include direct operating expenses of $24,000,000 and $48,600,000, respectively,
interest expense of $200,000 and $500,000, respectively, salaries and incentive
compensation expenses of $500,000 and $1,300,000, respectively, depreciation and
amortization expenses of $4,200,000 and $8,400,000, respectively, and selling,
general and other expenses of $600,000 and $800,000, respectively.
Revenues for the first and second quarters of 2008 increased approximately 16%
and 22%, respectively, as compared to the fourth quarter of 2007, primarily due
to seasonality in the Gulf Coast gaming market as well as increased market
share. Revenues increased in the second quarter of 2008 as compared to the first
quarter of 2008 primarily due to non-casino operations.
The Company's share of Premier's net loss under the equity method of accounting
was $12,500,000 and $19,400,000, respectively, for the three and six month
periods ended June 30, 2007.
22
Domestic Real Estate
Pre-tax income (losses) for the domestic real estate segment were $(800,000) and
$3,600,000 for the three months ended June 30, 2008 and 2007, respectively, and
$(5,600,000) and $2,100,000 for the six months ended June 30, 2008 and 2007,
respectively. Real estate revenues and other income for the three and six month
periods ended June 30, 2008 include $3,100,000 and $(400,000), respectively, of
income (charges) related to the accounting for the mark-to-market value of an
interest rate derivative relating to the Myrtle Beach project's debt obligation.
Pre-tax results for the domestic real estate segment are largely dependent upon
the performance of the segment's operating properties, the current status of the
Company's real estate development projects and non-recurring gains or losses
recognized when real estate assets are sold. Accordingly, pre-tax results for
this segment for any particular period are not predictable and do not follow any
consistent pattern or trend.
Medical Product Development
Pre-tax losses (net of minority interest) for Sangart were $8,500,000 and
$7,000,000 for the three month periods ended June 30, 2008 and 2007,
respectively, and $15,900,000 and $15,400,000 for the six month periods ended
June 30, 2008 and 2007, respectively. Sangart's losses for 2008 and 2007 reflect
research and development costs (which are included in selling, general and other
expenses in the consolidated statement of operations) of $5,200,000 and
$4,800,000 for the three month periods ended June 30, 2008 and 2007,
respectively, and $9,500,000 and $10,800,000 for the six month periods ended
June 30, 2008 and 2007, respectively, and salaries and incentive compensation
expenses of $2,800,000 and $2,100,000 for the three month periods ended June 30,
2008 and 2007, respectively, and $5,400,000 and $4,200,000 for the six month
periods ended June 30, 2008 and 2007, respectively. As more fully discussed in
the 2007 10-K, in the six month period ended June 30, 2007, the Company expensed
acquired research and development of $4,100,000 in connection with its increased
investment in Sangart. The increase in salaries and incentive compensation in
the 2008 periods as compared to the same periods in 2007 was principally due to
increased headcount in connection with the Phase III trials.
Sangart is a development stage company that does not have any revenues from
product sales. It recently completed two Phase III clinical trials in Europe for
its lead product candidate, Hemospan(R), data from which is expected to become
available in the second half of 2008. If these trials are successful it will
then seek approval with the appropriate regulatory authorities to market its
product. Sangart also recently completed a smaller Phase II clinical trial in
the U.S., data from which is still being compiled. Until such time, if ever,
that Sangart obtains regulatory approval for Hemospan, the Company will report
losses from this segment. U.S. or foreign regulatory agencies could also require
Sangart to perform more clinical trials, which could be both expensive and time
consuming. The Company expects to invest up to an additional $48,500,000 in 2008
upon its exercise of existing warrants which will continue to fund Sangart's
research and development costs and which will be expensed by the Company over
time. The Company is unable to predict with certainty when, if ever, it will
report operating profits for this segment.
Corporate and Other Operations
Investment and other income decreased in the three and six month periods ended
June 30, 2008 as compared to the same periods in 2007. Investment income
declined $9,000,000 and $21,500,000 in the three and six month 2008 periods,
respectively, principally due to lower interest rates on a reduced amount of
fixed income securities. Investment and other income for the six month period
ended June 30, 2007 includes the receipt of escrowed proceeds from the sale of
an associated company in 2006 of $11,400,000 ($1,300,000 for the three month
2007 period) that had not been previously recognized. For the 2007 periods,
investment and other income includes $8,500,000 related to the termination of a
joint development agreement with another party. The amount recorded in other
income substantially reimbursed the Company for its prior expenditures, which
were fully expensed as incurred.
23
Investment and other income for the 2008 periods include $4,900,000 of income
related to Fortescue's Pilbara iron ore and infrastructure project in Western
Australia. As more fully discussed in the 2007 10-K, the Company is entitled to
receive 4% of the revenue, net of government royalties, invoiced from certain
areas of Fortescue's project, which commenced production in May 2008. Amounts
are payable semi-annually within thirty days of June 30th and December 31st of
each year subject to restricted payment provisions of Fortescue's debt
agreements; payments are currently being deferred pursuant to those agreements.
Depreciation and amortization expenses include prepaid mining interest
amortization of $300,000, which is being amortized over time in proportion to
the amount of ore produced. Other income also reflects increases in the three
and six month 2008 periods, as compared to the same periods in 2007, in foreign
exchange gains of $700,000 and $2,600,000, respectively, and income from
purchased delinquent credit card receivables of $3,300,000 and $7,400,000,
respectively. Investment and other income also reflects income (charges) of
$1,200,000 and $600,000 for the three month periods ended June 30, 2008 and
2007, respectively, and $(100,000) and $500,000 for the six month periods ended
June 30, 2008 and 2007, respectively, related to the accounting for
mark-to-market values of Corporate derivatives.
Net securities gains for Corporate and Other Operations aggregated $19,000,000
and $50,200,000 for the three month periods ended June 30, 2008 and 2007,
respectively, and $27,300,000 and $66,200,000 for the six month periods ended
June 30, 2008 and 2007, respectively. The Company's net securities gains largely
reflect realized gains from the sale of publicly traded debt and equity
securities that had been classified as Corporate available for sale securities
and unrealized gains on trading securities. Net securities gains include
provisions of $6,600,000 and $300,000 for the three month periods ended June 30,
2008 and 2007, respectively, and $13,600,000 and $500,000 for the six month
periods ended June 30, 2008 and 2007, respectively, to write down the Company's
investments in certain available for sale securities. The write down of the
securities resulted from a decline in market value determined to be other than
temporary.
The increase in interest expense during the three and six month 2008 periods as
compared to the same periods in 2007 primarily reflects interest expense
relating to the 8 1/8% Senior Notes issued in September 2007 and for the six
month 2008 period reflects interest relating to the 7 1/8% Senior Notes issued
in March 2007. Interest expense for the 2008 periods also reflects decreased
interest expense related to the fixed rate repurchase agreements.
Salaries and incentive compensation expense declined in the three and six month
periods ended June 30, 2008 as compared to the same periods in 2007. Salaries
and incentive compensation expense included $2,500,000 and $2,600,000 for the
three month periods ended June 30, 2008 and 2007, respectively, and $5,000,000
and $6,000,000 for the six month periods ended June 30, 2008 and 2007,
respectively, relating to grants made under the Company's senior executive
warrant plan and fixed stock option plan. Share-based compensation expense in
the six month 2007 period included the accelerated vesting of stock options of
an officer of the Company who resigned.
The increase in selling, general and other expenses of $13,300,000 and
$7,800,000 in the three and six month 2008 periods as compared to the same
periods in 2007 primarily reflects severance expense and greater expenses
(largely professional fees and other costs) related to the investigation and
evaluation of energy projects. Expenses related to the investigation and
evaluation of energy projects were $8,900,000 and $3,200,000 for the three month
2008 and 2007 periods, respectively, and $13,200,000 and $5,900,000 for the six
month 2008 and 2007 periods, respectively. Selling, general and other expenses
for the 2008 periods also include a loss of $2,300,000 from asset disposals.
Selling, general and other expenses for the six month 2007 period include a
charge of $7,500,000 for the settlement of litigation related to MK Resources
Company, and greater legal fees, including those incurred in connection with
that litigation.
24
As discussed above, the income tax provisions for the 2008 periods reflect a
credit of $222,200,000 as a result of the reversal of a portion of the valuation
allowance for the deferred tax asset. The Company adjusted the valuation
allowance since it believes it is more likely than not that it will have future
taxable income sufficient to realize that portion of the net deferred tax asset.
In addition, as a result of the increased projected taxable income in certain
state and local taxing jurisdictions, the Company recognized additional state
and local net operating loss carryforward benefits of $12,500,000 as a reduction
to income tax expense. The 2008 periods also reflect the recognition of
previously unrecognized tax benefits of $4,100,000 as a result of the expiration
of the applicable statute of limitations.
For the three and six month periods ended June 30, 2007, the Company's effective
income tax rates are higher than the federal statutory rate primarily due to
state income taxes.
Associated Companies
Income (losses) related to associated companies for the three and six month
periods ended June 30, 2008 and 2007 includes the following (in thousands):
For the Three Month For the Six Month
Period Ended June 30, Period Ended June 30,
--------------------- ---------------------
2008 2007 2008 2007
---- ---- ---- ----
Jefferies $ 28,400 $ -- $ 28,400 $ --
ACF (46,900) -- (125,400) --
EagleRock (5,400) (1,100) (9,500) 5,400
IFIS (300) -- (300) --
Premier -- (12,500) -- (19,400)
JPOF II -- 100 -- 3,000
JHYH 9,000 8,900 (11,900) 8,900
HomeFed 200 100 (200) 200
Safe Harbor -- (1,100) -- 3,300
Wintergreen Partners Fund L.P. (6,400) 3,300 (12,200) 6,200
Highland Opportunity (800) 1,100 (17,100) 2,500
Shortplus 1,700 (500) 10,300 4,800
Pershing Square (26,900) (1,500) (31,900) (1,500)
RCG Ambrose, L.P. 200 -- (1,000) --
Goober Drilling 7,200 3,000 13,500 5,700
CLC 600 900 4,500 900
Other (1,600) 6,000 (1,900) 9,100
---------- --------- --------- ---------
Income (loss) related to associated
companies before income taxes (41,000) 6,700 (154,700) 29,100
Income tax (expense) benefit 15,800 (2,100) 55,100 (11,600)
---------- --------- --------- ---------
Income (loss) related to associated
companies, net of taxes $ (25,200) $ 4,600 $ (99,600) $ 17,500
========== ========= ========= =========
As discussed above, the Company elected the fair value option described in SFAS
159 for its investments in Jefferies and ACF, resulting in the recognition of an
unrealized gain or loss for the difference between the market value and the cost
of each investment.
Discontinued Operations
WilTel Communications Group, LLC
Gain (loss) on disposal of discontinued operations for the six month period
ended June 30, 2007 period reflects the resolution of a sale-related contingency
related to WilTel, which was sold in the fourth quarter of 2005.
25
Cautionary Statement for Forward-Looking Information
Statements included in this Report may contain forward-looking statements. Such
statements may relate, but are not limited, to projections of revenues, income
or loss, development expenditures, plans for growth and future operations,
competition and regulation, as well as assumptions relating to the foregoing.
Such forward-looking statements are made pursuant to the safe-harbor provisions
of the Private Securities Litigation Reform Act of 1995.
Forward-looking statements are inherently subject to risks and uncertainties,
many of which cannot be predicted or quantified. When used in this Report, the
words "estimates," "expects," "anticipates," "believes," "plans," "intends" and
variations of such words and similar expressions are intended to identify
forward-looking statements that involve risks and uncertainties. Future events
and actual results could differ materially from those set forth in, contemplated
by or underlying the forward-looking statements.
Factors that could cause actual results to differ materially from any results
projected, forecasted, estimated or budgeted or may materially and adversely
affect the Company's actual results include but are not limited to the
following: potential acquisitions and dispositions of our operations and
investments could change our risk profile; dependence on certain key personnel;
economic downturns; changes in the U.S. housing market; changes in
telecommunications laws and regulations; risks associated with the increased
volatility in raw material prices and the availability of key raw materials;
declines in the prices of base metals (primarily iron ore and copper);
compliance with government laws and regulations; changes in mortgage interest
rate levels or changes in consumer lending practices; a decrease in consumer
spending or general increases in the cost of living; proper functioning of our
information systems; intense competition in the operation of our businesses; our
ability to generate sufficient taxable income to fully realize our deferred tax
asset; weather related conditions and significant natural disasters, including
hurricanes, tornadoes, windstorms, earthquakes and hailstorms; our ability to
insure certain risks economically; reduction or cessation of dividend payments
on our common shares. For additional information see Part I, Item 1A. Risk
Factors in the 2007 10-K and Part II, Item 1A. Risk Factors contained in the
Form 10-Q filed for the quarter ended March 31, 2008.
Undue reliance should not be placed on these forward-looking statements, which
are applicable only as of the date hereof. The Company undertakes no obligation
to revise or update these forward-looking statements to reflect events or
circumstances that arise after the date of this Report or to reflect the
occurrence of unanticipated events.
Item 3. Quantitative and Qualitative Disclosures About Market Risk.
Information required under this Item is contained in Item 7A of the Company's
Annual Report on Form 10-K for the year ended December 31, 2007, and is
incorporated by reference herein.
Item 4. Controls and Procedures.
Evaluation of disclosure controls and procedures
(a) The Company's management evaluated, with the participation of the
Company's principal executive and principal financial officers, the
effectiveness of the Company's disclosure controls and procedures (as
defined in Rules 13a-15(e) and 15d-15(e) under the Securities Exchange
Act of 1934, as amended (the "Exchange Act")), as of June 30, 2008.
Based on their evaluation, the Company's principal executive and
principal financial officers concluded that the Company's disclosure
controls and procedures were effective as of June 30, 2008.
Changes in internal control over financial reporting
(b) The Company has not yet completed its evaluation of the internal
controls over financial reporting at STi Prepaid or ResortQuest, which
were acquired by the Company during 2007. Except for changes that
result relating to these entities, there has been no change in the
Company's internal control over financial reporting (as defined in
Rules 13a-15(f) and 15d-15(f) under the Exchange Act) that occurred
during the Company's fiscal quarter ended June 30, 2008, that has
materially affected, or is reasonably likely to materially affect, the
Company's internal control over financial reporting.
26
Part II - OTHER INFORMATION
Item 2. Issuer Purchases of Equity Securities.
The Company's purchases of its common shares during the second quarter
of 2008 were as follows:
Total Number
of Shares Approximate
Purchased as Dollar Value of
Part of Publicly Shares that May
Total Number Average Announced Yet be Purchased
of Shares Price Paid Plans or under the Plans
Purchased (1) Per Share Programs or Programs
------------- --------- -------- -----------
April 1 to April 30 2,456 $49.81 -- $ --
------- ---------
Total 2,456 --
======= =========
(1) Consists of common shares received from a director to exercise
stock options. Shares were valued at the market price at the date
of the option exercise.
Item 4. Submission of Matters to a Vote of Security Holders.
The following matters were submitted to a vote of shareholders at the
Company's 2008 Annual Meeting of Shareholders held on May 13, 2008.
a) Election of directors.
Number of Shares
----------------
For Withheld
--- --------
Ian M. Cumming 194,662,996 5,436,205
Paul M. Dougan 197,448,219 2,650,982
Lawrence D. Glaubinger 197,319,890 2,779,311
Alan J. Hirschfield 198,423,045 1,676,156
James E. Jordan 197,444,557 2,654,644
Jeffrey C. Keil 194,290,389 5,808,812
Jesse Clyde Nichols, III 197,437,132 2,662,069
Joseph S. Steinberg 194,851,151 5,248,050
b) Ratification of PricewaterhouseCoopers LLP, as independent
auditors for the year ended December 31, 2008.
For 197,413,472
Against 1,301,069
Abstentions 1,384,660
Broker non-votes --
27
Item 6. Exhibits.
10.1 Investment Agreement dated as of April 20, 2008, by and between
Leucadia National Corporation and Jefferies Group, Inc.
(incorporated by reference to the Company's Current Report on
Form 8-K filed on April 21, 2008).
10.2 Letter Agreement dated April 20, 2008, between Leucadia National
Corporation and Jefferies Group, Inc. (incorporated by reference
to the Company's Current Report on Form 8-K filed on April 21,
2008).
31.1 Certification of Chairman of the Board and Chief Executive
Officer pursuant to Section 302 of the Sarbanes-Oxley Act of
2002.
31.2 Certification of President pursuant to Section 302 of the
Sarbanes-Oxley Act of 2002.
31.3 Certification of Chief Financial Officer pursuant to Section 302
of the Sarbanes-Oxley Act of 2002.
32.1 Certification of Chairman of the Board and Chief Executive
Officer pursuant to Section 906 of the Sarbanes-Oxley Act of
2002.
32.2 Certification of President pursuant to Section 906 of the
Sarbanes-Oxley Act of 2002.
32.3 Certification of Chief Financial Officer pursuant to Section 906
of the Sarbanes-Oxley Act of 2002.
28
SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934, the
registrant has duly caused this report to be signed on its behalf by the
undersigned thereunto duly authorized.
LEUCADIA NATIONAL CORPORATION
(Registrant)
Date: August 7, 2008
By: /s/ Barbara L. Lowenthal
------------------------------
Barbara L. Lowenthal
Vice President and Comptroller
(Chief Accounting Officer)
29
Exhibit Index
10.1 Investment Agreement dated as of April 20, 2008, by and between
Leucadia National Corporation and Jefferies Group, Inc.
(incorporated by reference to the Company's Current Report on
Form 8-K filed on April 21, 2008).
10.2 Letter Agreement dated April 20, 2008, between Leucadia National
Corporation and Jefferies Group, Inc. (incorporated by reference
to the Company's Current Report on Form 8-K filed on April 21,
2008).
31.1 Certification of Chairman of the Board and Chief Executive
Officer pursuant to Section 302 of the Sarbanes-Oxley Act of
2002.
31.2 Certification of President pursuant to Section 302 of the
Sarbanes-Oxley Act of 2002.
31.3 Certification of Chief Financial Officer pursuant to Section 302
of the Sarbanes-Oxley Act of 2002.
32.1 Certification of Chairman of the Board and Chief Executive
Officer pursuant to Section 906 of the Sarbanes-Oxley Act of
2002.
32.2 Certification of President pursuant to Section 906 of the
Sarbanes-Oxley Act of 2002.
32.3 Certification of Chief Financial Officer pursuant to Section 906
of the Sarbanes-Oxley Act of 2002.
30