Imax Corp (IMAX) 2006 Q2 法說會逐字稿

Welcome to the IMAX Corporate second quarter earnings conference call. Today's call is being recorded. At this time I would like to turn the conference over to Mr. Brad Wexler for opening remarks and introductions. Mr. Wechsler, please go ahead.

Thank you. Good afternoon everyone, and thank you for joining us today for our second quarter 2006 conference call. Joining me, as always, is my partner, Co-Chairman and Co-CEO, Rich Gelfond; also with us are our General Counsel, Rob Lister; and our CFO, Frank Joyce.

Before we begin, let me remind you of the following information regarding forward-looking statements. Our comments and answers to your questions on this call may include statements that are forward-looking in that they pertain to future results or occurrences. Actual future results or occurrences may differ materially from these forward-looking statements. Please refer to our SEC filings for a more detailed discussion of some of the factors that could affect our future results and occurrences, including the 10Q we are filing today.

Our second quarter 2006 financial results were issued this morning in a press release for all of you to review. During today's call references will be made to certain non-GAAP financial measures as defined by Regulation G of the Securities and Exchange Commission. Discussion of management's use of these measures and reconciliations to GAAP measures are contained in the company's second quarter earnings release and our 10Q. The full text of the earnings release, along with supporting financial tables, is available on our website, www.imax.com.

First let me briefly outline the agenda for today's call. I'll review our second quarter financial and operating results, then I'll turn it over to Rich for a strategic overview. Finally, we'll open the call up for your questions.

But before we get into the financial results, I would like to update you on our process to consider strategic alternatives. As you all know, on March 9 we announced that we had retained Allen & Company and UBS to explore strategic alternatives for the company, including a possible sale. Our objective was to find a partner who could help accelerate our network growth and sufficiently reward our existing shareholders. The process started very well. We sent out sale memorandums to over 30 potential buyers, and we received indications of interest at a sufficient level from about a dozen interested parties, the majority of whom subsequently entered a second round.

As the round went on, several potential buyers dropped out of the process, and the remaining interested parties were private equity firms rather than strategic buyers. As the financial buyers analyzed the company, including the amount of debt financing available, it became clear that a significant equity check, likely in excess of $300 million, was required to acquire the company in the range of valuation that the board of directors sought. Although many potential buyers were excited by our operating metrics, management team, and the potential in dramatically growing the network, particularly through the use of digital technologies, because of the company's valuation and the size of the required equity investment, at the end of the day there were no buyers willing to acquire the company on terms that the board was seeking.

Because there are, however, several parties who have indicated interest in a transaction at lower valuations, the special committee of the board has authorized our bankers to explore those options, and this process is ongoing. Obviously at the present time we do not have a clear sense of the potential outcome. Accordingly, we have taken a further hard look at the company and its strengths, and have focused on how best to move forward as a company, and to grow value for our shareholders. In particular we have tried to figure out how to accelerate the growth of our network in the context of our current resources and the changing technologies in the industry. To that end we have some preliminary thoughts that Rich will take you through after I have recapped our Q2 performance.

Now to the financials; for the second quarter we recorded net income of $0.08 per diluted share, at the high end of our guided range of $0.05 to $0.08 per share. The second quarter saw ongoing progress in the execution of our core operating initiatives and commercial strategy. We signed 12 theater deals in the quarter, four of which are conditional, bringing total signings for the first half of 2006 to 20. Our backlog at the end of June consisted of 71 systems, with a value of $112 million, and as we've said in the past, signings remain the best indicator of our long term future financial performance.

We completed 11 installs in the quarter. As we have indicated previously we expect 2006 installs to be heavily back end loaded, as they were in 2005. However, while we initially projected 40 to 45 installations for the year, for reasons both I and Rich will discuss later on, we are retracting all guidance for the year.

Now turning to films; we have been pleased with the performance of Superman Returns, which opened on June 27 on 77 domestic screens and 27 international screens, our widest release ever. As most of you know, this was the world's first live action Hollywood feature to be converted from 2D to IMAX 3D with approximately 20 minutes of the film converted into 3D. The audience reaction to this new level of realism has been fantastic, and we are delighted to see such a positive response. So far Superman Returns has grossed $24.6 million worldwide. Domestically it has represented 10% of the domestic box office, this compares to 7% for V for Vendetta and 4% to 5% that our other DMR films have typically had on less than 1% of the screens exhibiting the film.

We believe this is a clear reflection of the differentiated experience IMAX offers that have consumers' appetites for a more immersive and thrilling film experience. This film has yet to open in several international locations, and is currently sharing screens with Ant Bully domestically, and continues to perform well.

In May we released the IMAX DMR version of Poseidon in approximately 73 domestic and 19 international theaters. As many of you know, the films performance was somewhat disappointing at the box office, with the IMAX total gross coming in at $6.8 million to date, and necessitating a small write off. I should point out, however, that while Poseidon under performed on an absolute basis, the IMAX DMR version of Poseidon represented 11.3% of the total domestic box office, further underscoring movie goers' willingness to go out of their way for a more compelling film viewing experience.

We were pleased to be able to offset some of this film's weakness with the strong performance of Deep Sea 3D, a 45 minute original IMAX 3D production we released with Warner Brothers. Since opening in March, this film has demonstrated consistent strength week after week, out performing our expectations and grossing more than $20 million to date.

Two weeks ago the Ant Bully opened on 53 domestic screens. While this creative family film has gotten some really positive reviews, it is performing poorly at the box office and will necessitate a write off in the third quarter. We do believe, however, that the negative impact from this film is more muted than it might have been since Ant Bully is sharing screens with Superman Returns.

Unfortunately the somewhat disappointing results of our films so far this year have made it more challenging for us to meet our goals of signing installs in the short term. These are arrangements for system sales that are installed shortly after they are signed, and they are an important part of our budget and operating plans. If the film play performance improves later in the year, we would hope to see a pick up of sign and installs going into next year's strong film slate. The short term consequences of the week film slate, along with the potential slippage of installations that we normally see from year to year is one of the reasons we are retracting install guidance for the full year.

As for the rest of the year, we are looking forward to bringing Open Season to IMAX theaters in September. We are pleased to be partnering with Sony Pictures Animation on Open Season, their first CGI film. Because this is the first release by Sony Imageworks, Sony is giving the film a significant amount of focus and support behind their push into the CGI arena, and we expect this and future Imageworks films to benefit accordingly, particularly from a marketing perspective.

Finally, November will mark the release of another Warner Brothers film, Happy Feet, this is shaping up to be a great family film, with a fantastic cast, including Nicole Kidman, Hugh Jackman and Robin Williams. We have high expectations for the performance of Happy Feet.

Our 2007 film slate is shaping up exceptionally well. We recently announced that we will release the highly anticipated Spiderman III in May of '07. This is one of the world's most popular motion picture franchises, and movie goers really loved Spiderman II, which was the third highest grossing film of 2004. We think this next exciting installment in the series will be usually successful, and thanks to our expanded theater network, we anticipate we will be able to open this film in well over 100 IMAX screens in North America, compared to the 63 screens on which we opened Spiderman II. In addition, we are delighted to be expanding our partnership with Sony on this film.

We've also announced that Harry Potter and the Order of the Phoenix, the third Harry Potter film to be converted into IMAX, will be simultaneously released to both IMAX and conventional theaters in July of 2007. As you'll recall, the last installment of the series, Harry Potter and the Goblet of Fire, broke numerous IMAX 2D box office records, and grossed more than $20 million at IMAX theaters worldwide.

Our 2007 film slate is taking shape earlier than in any previous year, and we believe this highlights the increasing value of studios fee in the IMAX theater network. We also are in discussions with multiple studios about some of the other top movies of the year of 2007, and there are some really great opportunities open to us.

Before I turn it over to Rich, I'd like to walk you through some of the financial line items for the three month period ending June 30, '06. For the second quarter total revenue was $41.4 million, as compared to $30.9 million for the second quarter of '05. We had 11 installs in the second quarter compared to 7 in the second quarter last year. There were no revenues associated with consensual lease buy outs, terminations by [bulk] and MDX conversion agreements included in system revenue this year, compared to $3.9 million in lease buy outs in the second quarter a year ago.

Breaking the total revenue number down further, film revenue for the quarter was $12.2 million, up from $5.3 million in the year ago quarter. Theater operation revenues for the quarter were $4.1 million versus $4.2 million in the second quarter of '05. Other revenues were $1.2 million. Turning to expenses for the second quarter, SG&A was $9.5 million, down from $9.8 million a year ago. R&D expenses for the quarter were $664,000, slightly down from last year, due to timing differences.

I'd now like to turn to another matter. In our earnings release this afternoon we stated that the company is responding to an informal inquiry from the SEC regarding the company's timing of revenue recognition, including the application of multiple element arrangement accounting in our revenue recognition. For those of you who follow our Qs and Ks, you will recall that in the fourth quarter of last year we, with the guidance and support of our auditors, Price Waterhouse Cooper, felt it was appropriate to use multiple element accounting with respect to the installation of our theater systems, sound systems and screens.

In lay terms under multiple element accounting, the revenue associated with the different components of an IMAX theater system contract are segregated, and can be recognized in the quarter in which they are completed. In such instances, although we typically have virtually all of the upfront cash from the clients in advance, we defer recognition of some of that revenue to the quarter when the final elements of the system are installed. Through our recent interaction with the SEC, the question has been posed to us whether multiple element arrangement accounting should apply to our theater system installations.

Let me take you through this in some detail, because we think it's important that people understand the issue fully. As we previously reported, the company recognized revenue in the fourth quarter of 2005 on 10 theater installations in theater which did not open in that quarter, and the revenue recognition was under multiple element arrangement accounting. In three of the 10 installations all of the elements of the theater systems were installed in the fourth quarter. Of the remaining 7 installations revenue associated with the screen of the theater system was deferred until the final screen was installed. Three of these theaters had their screens completed in the first quarter of 2006, two in the second quarter of 2006, one in the third quarter, and one will be completed during the remainder of 2006.

In other words, in each of those installations the company deferred recognition of value of the screen until the final screen was installed, and recorded the residual value associated with the other elements of the system that were installed within the quarter. The company believes this application of this accounting policy is, and has always been, in accordance with GAAP, and the company's position is supported by its auditors, Price Waterhouse Cooper, LLP.

The very same accounting was applied to a system in the second quarter, where the revenue associated with the screen was deferred until the third quarter, when the screen was installed. We are, and will continue to cooperate fully with the SEC in connection with their inquiry, and are providing them with all the information and responses they have asked for. The Ontario Securities Commission has similarly sent us questions about this revenue recognition policy, and we will continue to respond to their inquiries as well.

I would like to now turn the presentation over to Rich, who will discuss IMAX's strategic direction.

Thank you very much, Brad. I'd like to begin by emphasizing again that while we were surprised that the high level of interest we initially saw in our strategic alternatives process did not evolve into a partnership or acquisition at the valuation our board initially sought, we believe our path forward is strategically the correct one, governed by what we believe is the best long-term interest of IMAX and its shareholders.

The board has authorized our bankers to explore the continued interest we've received from several parties in doing a transaction at values less than what the board originally sought. And at the same time, we are moving forward in parallel to accomplish several key strategic objectives the film would've provided within the context of our existing resources. We feel very strongly that it is important to roll out the network more quickly, to realize the benefits of network economics and that it's also crucial to transition to digital at a rapid pace. I'll speak about these initiatives in detail in just a moment, but, essentially, we are focusing on a more aggressive rollout of our joint venture transaction and we are also accelerating our introduction of IMAX's Digital Projection product.

These initiatives, we are confident, will enable us to realize our goal over the long-term, of creating value for shareholders, even though their implementation may hold down financial results in the near-term. First, I'd like to walk you through our joint venture initiative and why we think accelerating this approach is the right course for IMAX.

As many of you may recall, in May of 2005 we first announced the joint venture with AMC to retrofit five domestic multiplexes with the IMAX MPX Theater System. Under such agreements, we contribute the system and installation costs; our partner contributes the physical conversion cost and we'll both recoup our investments and then share in the box office. The structure of such agreements remains very compelling for us, because it essentially shifts IMAX theater economics more towards a recurring revenue model with higher gross margins on a present value basis than our standard lease model. The return on capital invested for IMAX is also quite high.

We believe that today our growth is somewhat modulated by the relatively high upfront costs of our system. Therefore, working within a joint venture framework should accelerate our rollout, because with a lower upfront capital requirement the exhibitor's risk profile is altered and the payback period is shortened. There are several key benefits to using joint ventures to facilitate rolling out the network as quickly as possible.

First, as I mentioned, recurring revenues are very attractive to us over the long-term. Second, we believe the net present value of the profits in the JV model is superior to the gross margins in the lease model. Third, the larger our network, the more leverage we have with the studios. And finally, a faster rollout enables us to receive film royalties from more theaters sooner and thus has a significantly positive impact on our film revenues and earnings. In short, a joint venture strategy should be a key catalyst to building and then harvesting the benefits of a true network economic.

From an accounting perspective, we book most of the profit when a system is installed under our current lease model. As part of a joint venture, profit is not booked up front but each year when realized. This means that, even though joint venture economics are better for creating long-term value, reported earnings will be lower in the earlier period. Both our joint venture strategy and our sales strategy will be greatly enhanced by our transition to digital, which brings me to another focus going forward.

The company's business plan now calls for the introduction of the first IMAX Digital System in 2008. There are several reasons we believe that now is the right time to move ahead as aggressively as possible with our transition to digital. First, we would benefit from lower print costs. We would also be able to show 10 to 12 films a year, vs. six to eight films a year on a film system, because the lower print costs of digital will allow for shorter runs.

In addition, we would eventually be able to bring live action, event-driven programming to our audiences. More film in a digital environment should mean higher aggregate box office to theater level, which, in turn, should drive even better joint venture economics.

As we've discussed before, the payback structure in transforming to digital is more profitable in IMAX than in the conventional 35mm payback model. IMAX print costs $30,000 on average and an IMAX system sells for about $1.3 million. In the 35mm world, if you conservatively assume that each digital projector cost $100,000 to $125,000, with annual print savings of $17,000 a year, the payback on investment for conversion of a conventional screen to digital is six to eight years. Compare that to the payback in the IMAX world, where, assuming that at six films a year, at an average cost of $30,000 per print, the payback on an IMAX digital projector would be roughly twice as fast as in the 35mm world.

Importantly, these systems will be installed in IMAX theaters featuring the same proprietary components that create the signature IMAX experience. We remain committed to insuring that the IMAX digital projector will feature an image quality consistent with the IMAX brand. In terms of financing the transition to digital, we are looking towards a model that would enable us to collect virtual print fees, whereby studios would pay IMAX an amount in lieu of a print fee, to help subsidize the transitional to digital.

There is precedent for this model in 35mm. While I can't get into much detail at the current juncture, we are currently in detailed discussion with two studios about virtual print fees. This is a great opportunity for us to refit the existing network and to finance more joint ventures.

As we focus on migrating to digital as quickly as possible, we are effectively creating long-term value by squeezing print costs out of the system and reducing film risk by expanding the size of our slate. That said, this initiative will create short-term financial impact, as we ramp up R&D and provide and implement a digital upgrade program for our current customers. This upgrade program will require that, from an accounting point of view, some portion of the gross profit on our current film-based system sales will be deferred until the digital upgrade is installed.

Therefore, given our desire to do joint venture and to quickly migrate to digital, both of which create long-term value, but have short-term earnings impact, the conclusion we reached is that guidance projecting at this stage, including for the remainder of the year, is inappropriate and counter to our strategic focus and direction.

As we emerge from the process of exploring strategic alternatives, we are confident our sharpened strategic focus puts us on the right path to most effectively grow the business. The process itself was instrumental in enabling us to get perspective and crystallize the necessary strategies to build long-term value. Clearly, a significant amount of change lies ahead, as we accelerate our joint venture imitative, implement the transition to digital and steer our model towards more recurring cash flow.

We are truly energized and excited by the opportunities these initiatives afford us and think they comprise the most effective and financially prudent way to move forward as a company. We hope you all share our enthusiasm and look forward to keeping you apprised of our progress. Thanks very much for listening and we're now happy to take your questions.

[OPERATOR INSTRUCTIONS]

And, our first question comes from the site of Eric Wold. Go ahead, please.

Hey, good afternoon. I know you value retracted guidance in terms of, you know, going forward in '06. Should we assume the screens of the theaters that are currently in backlog now and may have been planned to be installed later this year and in '07 would continue under the old model? Or, is there a chance that those could be restructured or redone into a JV model, so that their value is, you know, less near-term, vs. long-term?

Well certainly, it would be our election to change into a JV model. At the present time, we have no intentions to do that, Eric.

OK and then secondly, on the process, I’m not sure you can talk there, but in terms of going back to, or at least, you know, continuing to work with some of the bidders that have come in at lower prices, floor valuations than what you originally wanted, is that an indication that you think the company is worth less now, or you're less optimistic in terms of if you stayed a publicly traded company that the value would be, you know, more realized, you remaining public, as vs. taking a lower offer to go private?

I think, Eric, we just want to leave our options open. You know, I think we're very excited about the strategy going forward and, in fact, I'd say, elements of the strategy crystallized during the sell process itself, because, as we sat down, particularly with a number of the private equity firms, it became clear to us that the right way to run the business was the way we're describing on this phone call. And, I think what we're saying is, you know, we're going to continue to work with the people who are better out there. We're going to continue to run our business and we'll leave all options open. I don't think we want to comment on value at this point.

OK, the just real quickly last, going back to my first question, with the switch, or kind of the more focus on the JV deals, you know, what should we think about it in terms of how quickly you would like that to take hold, in terms of, is that something that could start being realized this year, or is that more of a '07, more of a '08 with digital?

I think you'll see, Eric, some of it start to take hold this year, and I think we'll more aggressively push it. But I think for the remainder of the year you'll still see a significant amount of deals run under our old model, and this starts to sort of wind its way in.

Eric the issue is, as you say, how quickly you ramp up the JV strategy, which is, we think, a very efficient way to grow the network as quickly as possible, which really has to be the end game here.

I get that, I completely agree with that. My question was just kind of focused on if you look at the 70 or so, 71 [inaudible] in backlog and how many were projected, of those, to come in this year versus next year, and you think about the switch, even though it's being switched over to a JV or JV hopefully being on top of what was already installed in the old model.

I think the intention would be, the JVs would be new business, Eric, but it's possible that some of them, if it made sense, but I think that's not the overall intention.

And just lastly on accounting wise, if a company had given you cash which is now in deferred revenue under the old model, and that was switched to a JV, how would that be accounted for on the balance sheet?

I think because we're not really intending to do that Eric, we haven't thought about it.

OK. Perfect, thanks guys.

Thank you. Our next question comes from the site of Richard Anagrassia, go ahead please.

Good afternoon everybody. Is this fair to say that a strategic buyer in some JV transaction would more likely come from outside the U.S., given the opportunity to grow not only the commercial network overseas, but also the institutional network there?

I'm sorry Rich, when you said in a JV context, are you talking about a buyer of the company or a buyer of our systems?

An investor in a JV.

Of the company or the systems? I'm sorry.

Of the systems.

Would it more likely be overseas than domestic? I don’t think that's the case at all. As a matter of fact there's some interest in the North American marketplace. I think we're going to be cautious internationally in who we joint venture with. Because it's going to obviously be a territory where you're comfortable and a partner where you're comfortable, and a location where you're comfortable. So I would not see this as primarily an international strategy.

OK, and just two quick detail questions on the financials. Can someone break out royalties and maintenance from systems revenues?

I have that here, give me a minute. Maintenance was about 3.6 and royalties and financing are probably like another 3.6.

OK, and finally, can you, Frank maybe just revise your tax rate guidance? If I remember right, you were guiding to an effective rate of just under 10%, but there was a recovery instead in the quarter. What does the picture look like for the balance of '06?

We're not changing our guidance at this point on that.

OK fair enough, thank you.

Thank you. Our next question comes from the site of Ken Silver, go ahead please.

Hi, good afternoon. I think you sort of addressed this already, but you're talking about a change in strategic direction a little bit, or a lot. And you've had discussions with financial buyers about this, and do they agree with this change in strategy?

One of the things that came up in our interaction with financial buyers, private equity investors, a whole bunch of very smart people out there, and I think in large part there was a lot of excitement about the notion of getting the network built as rapidly as possible, which is the JV component. There was also a lot of excitement about a quick transition to digital so as to be able to squeeze out the "little bit of waste" in our system, which is these very high print costs. So I think there is a pretty hefty endorsement of both of those items.

OK. In terms of the JV model that you talked about, I just want to go over, maybe quickly, some of the accounting. When you make the investment where does that hit the financial statements? Is that on the P&L or not yet?

It's goes into property [inaudible] equipment.

Then when the theater is operating and you begin to recoup that investment?

It's very similar to an operating lease where the investment is amortized over the expected life of the asset.

OK. Then on the SEC inquiry, are you saying that they are questioning why you're deferring revenue out further? Why you're deferring revenue?

I think in general the SEC inquiry is with respect to revenue recognition at IMAX, more recently it is, with particular attention on multiple element accounting arrangements, which, as I think I discussed, enable you to sort of bifurcate different elements of the transaction into different constituent parts. And in the fourth quarter of '05 there were a number of systems where the screen was not installed, and the revenue associated with the screen was deferred out to future periods, but revenue and income associated with other parts of the equipment was booked in '05.

So are they suggesting that you should have waited to book any revenue?

Right now it's just an inquiry with the SEC, they haven't really -- I think they're in formal investigatory mode.

Is that why they're investigating it?

Well they're interested in learning more, studying the revenue recognition policy.

OK. And you used this term in the press release, 'conditional signing', I hadn't seen that before. What are the conditions of four of the signings that you have?

Things like board approval, real estate approval, that we hope to clear up at this point, but they're not cleared up yet.

So it's on the IMAX side?

No, no, on the other side. But as of today they're conditions that we believe will be cleared, but they're not cleared yet.

OK, thanks.

Thank you. Our next question comes from the site of Michael Kelman, go ahead please.

Thank you. Just a quick question regarding the JV strategy as well as the digital ramp up. Given your current capital structure, do you feel you are adequately funded to grow this business, and at what point do you think you'd become constrained?

Well at the moment we have a line of credit from [inaudible] which is $40 million, which is pretty much undrawn except for LLCs. We have $25 million plus in cash, so I think we do believe that we have adequate resources. The question is really how aggressive do you want to be in rolling out the strategy? If the strategy looks like it's working we'll be more aggressive and we'll explore different alternatives, including the possibility of brining in capital, but we haven't determined that yet at this point.

The other thing we should say that on reasonably solid ramp out of joint ventures they become self funding reasonably rapidly. With respect to digital, as Rich mentioned, certainly in the 35mm world the transition is in part being funded by virtual print piece, which is the savings that the studios are incurring by transitioning to digital, and we would hope that a lot of the expenditure associated with the digital transition in the IMAX world would also come from virtual print piece.

And one quick follow up, you talked about the attractive return on capital characteristics of the JV structure, and also you have five different JVs with AMC right now. Could you maybe talk a little bit, anecdotally, how those systems have performed from a return on capital perspective as well as how they met your expectations thus far?

I think what we can say, because some of this information is proprietary, and obviously we have a partner here. But since the AMC systems were installed, which was probably the middle of last year or so, and what we consider to be a limited DMR film slate, which I think is there are four DMR films. The rate of return, the IRR, were pretty attractive at a venture basis for beyond most people's hurdles for the deployment of capital.

OK.

Thank you, our next question comes from the site of Eric Wold. Go ahead please.

I have a couple of follow up questions. One, in looking at '06 and '07 and a comment that any JV transactions that you do should hopefully be on top of kind of what's already in backlog. Can you look at the 71 systems in backlog, assuming nothing falls out, assuming nothing else is signed, how many of those are currently preliminarily scheduled to be installed the back half of this year, and in '07?

I don't have that offhand Eric.

Any vague range?

Since we're going out of the guidance business I think it follows we're going out of the guessing business.

OK. Then secondly, on the one comment about the signings starting to slack off a little bit because of some of the box office performance of some of these movies, can you give a sense, kind of year to date through I guess Ant Bully right now, what the average box office per screen has been. And kind of what that would be on a return investment basis under a traditional model?

I don't have the specific number offhand, but I would say, and this is a little anecdotal, when you look at Mars Rover, which started the year in January and you add in Deep Sea 3D, which performed pretty well; and then you went to V for Vendetta which I think probably performed in the IMAX world at around 50% of the level that we were hoping; Poseidon was clearly a disappointment, Superman is performing pretty well. And what's interesting, although Ant Bully is not performing well, sharing screen time with Ant Bully, for example, if you looked at the gross per screen on Ant Bully on a given weekend you'd see a very low number. If you looked at the gross per screen on Superman you'd see a pretty good number. The theater owner shares about the aggregate of those two, because that's what drives their return on investment.

So I wish I could give you a number, say "OK we're at $500,000 per screen of full rental, or box office, or theater", I don't know the number off the top of my head. But because of the overlapping films and some of the institutional type films like Deep Sea 3D and Mars Rover, it's not necessarily as bad as one would think.

Eric one other thing, although I'm not comfortable guessing, obviously, if you want to follow up we could take a stab at it and see if we could answer in a way that's helpful to you.

Sure. I definitely wasn't looking for a guess, or guidance, but theoretically if someone signs a deal at the time they sign they give you kind of a range of when they'd want to open that theater, in Q3 of '07, September '07, whatever it may be. So I was looking for you to guess what they stated when they signed of when those would open.

We just don't have it right now, we'll be happy to follow up with you on it.

OK, thank you.

Thank you. Our next question comes from the site of Tony Gikas.

Hi, good afternoon guys. I got dropped off the call, so I apologize if any of these questions were already asked. But let me start out with the revenue recognition. It looks like we now have a new level of detail on revenue recognition we didn't really have before, and I think you called it multiple element accounting, where you're booking partial revenues. That really wasn't my understanding of how you were doing it in the past. Was this a one quarter that you applied this policy, or did it just start in that fourth quarter? Or are there other periods that might be affected? Maybe we could start there.

Multiple element accounting is part of GAAP, and we've been applying that for a number of years, and we believe quite consistently.

It's also about five pages of our 10K Tony.

But the SEC's issue is just with one quarter, or are they looking at potentially previous years as well?

One really doesn't like to comment and speculate on what the SEC is doing. From our perspective I think broadly speaking they're looking at revenue recognition right now. On a more narrow basis they recently have been emphasizing this notion of multiple element arrangement accounting and focusing on the fourth quarter. But nothing is to really restrict, the SEC does what it wants to do.

OK because I think you said you had support from your auditors, do you have some sort of a letter of support or something? Or maybe you could outline your discussions with your auditor on this.

I think the best way to answer that is we filed a Q today with financials, and in the second quarter there was a system where we were using multiple element accounting where the screen was not installed in the second quarter and the auditors assessed it to the books, to the financials.

OK. Then at the beginning of the call you brought up a number, $350 million related to the acquisition. Could you just go back and explain what that was? I didn't catch specifically what that was related to.

The bankers, Tony, were not willing to provide a large amount of [get] in this instance, so what that was that private equity buyer had to write an equity check for about $300 million or more in order to acquire the company. And that was something that made some of them uncomfortable as the process went on.

OK. Could you disclose any of the issues that the VCs had with the story that led to no offers?

As Brad said during the introductory remarks, I think it had to do mostly with the valuation and where the company was trading and where they felt comfortable, as well as the size of the equity check, which is what I just referenced. I think they were also people who wanted sort of the build out to be more before they bought it. They were very impressed with what the company had accomplished, but they wanted to see more accomplished before they were ready to write that size check.

OK, and then what was the control deficiency that you alluded to? I think it's on the second to the last paragraph.

It had to do with the application of film accounting to a rather complex film transaction which affectively, again in lay terms, I think you're going to have the effect of moving income from the second quarter to the third quarter.

Related to one transaction.

So that's just one transaction.

Also you'll probably notice the defic is already in the statements.

OK. Then you indicated that recent performance might be below expectations as a result of reduction to near term installs. I'm surprised that the poor performance from a couple of movies recently has led to a decline in installs this calendar year. I thought the lead times were longer than that.

I don't think that's what we were saying, Tony. As a matter of fact signings were still pretty strong in the second quarter, as you saw. Whenever we prepare our budget for the year we count on a number of sign and installs, which means that they'll be signed in one quarter and they'll be installed very quickly thereafter. I think it's safe to say that because the film slate has underperformed, people are still interested in IMAX and are still signing at a reasonable pace. They're just not as interested in a quick sign and install and that's, you know, a function of what we're seeing right now.

And as we said in our comments also, I believe that, you know, as the film performance kicks off and we go into some of the stronger films, hopefully that will reverse itself. But we want to give you a snapshot of where we are today.

What is the lag between signing and install right now?

Well you know, it depends. Some of the sign and installs were within a couple of weeks. When you sign, the installation happens a couple of weeks later. Some of them are new [bills], where it could be a year or so. So, I think the point I'm making is that it isn't affecting signings, it's affecting the rapid install.

You alluded to, when you move to the new digital systems that, you know, maybe there are eight to 10 film releases per year due to shorter runs. Is that really the reason? I mean, we started out originally thinking that four movies per year was the appropriate number and then it kind of moved up to six. Now, you're talking eight to 10. Is this because you'll be showing multiple movies at multiple -- at the same time? Or, what gives you confidence that eight to 10 is now the right now the right number, you know, looking forward?

You know, I think our goal is actually fixed in the film world and part of that was dictated by the length of run, you know a run of almost eight weeks. Part of that is, you know, a studio has to justify their investment and any costly prints. And obviously, to the extent that there's less of a [funk] cost and print, the return on investment for the studio can be better. And that can narrow a window from eight weeks to, you know, six weeks or five weeks.

The question as to what is the perfect number is a really great question that came up often in our interaction with the private equity people. On the one hand, [when] we're talking to this [inaudible] about bad performance in [inaudible] and Poseidon, there's a way to mitigate film risks, so to speak, through a portfolio. On the other hand, you don't want to go so deep as having a film a week, because that's not what IMAX sort of stands for, in terms of trying to bring the best film, the best experiences in the best auditorium. But I think that we feel pretty safe that in a digital world, the economics get better for everyone at 10 films a year.

OK. Is there any indication from current operators how many might upgrade to digital systems?

We haven't yet started talking to them about it, Tony. We felt we needed to get on with it, which is one reason we announced it today, but we haven't really gotten any feedback.

Sure, OK. Thanks guys.

Thank you Tony.

Thank you. Our next question comes from the site of [Matt Gottlin]. Go ahead, please.

Hi guys. I just wanted to understand the, if you could, and help us to quantify the impact of the sort of two main business shifts that you guys are planning. First, I was hoping you could help us understand the profit recognition of the joint venture, how it comes in, how it sort of works through the income statement? And then the second question is do you have any anticipation of the overall costs of the switch to digital and how we could think about that, in terms of sort of diluting near-term profitability?

I’m giving you some preliminary information; some of these are in flux, but certainly we have been doing some modeling and we have a viewpoint of [inaudible]. With respect to a joint venture, if we were to contribute capital that was on our books, and, you know, $600,000 for example, that we're expected to use over a 10-year timeframe as Frank mentioned, that $600,000 would be amortized over a 10-year period. There would be an expense of $60,000 a year.

The 50/50 exchange, you know, our sharing in a joint venture, if you look at IMAX's film models, which [inaudible] in the past, and you assume a $1 million gross a box office gross at a given theater, that really sort of [inaudible] deduct out film rental and other things and booking concessions and other, when we look at incremental dollars, which is really what you're talking about driving in the IMAX world, a lot of our models, you can see sums between $200,000 and $250,000 a year to IMAX from the joint venture. So you can see a very good return on investment. There are incremental costs that I’m glossing over right now, but that's one broad sweep. So you can see the accounting effects, obviously, are negative, vs. a sales type lead, but the long-term economics, using the numbers that I just posited, would obviously be beneficial.

With respect to digital, using the 35mm model, which is, I think the simplest way for IMAX to go and rather than reinvent the wheel, what you're really talking about is a timing difference whereby IMAX would need the capital to either swap out or upgrade our current base of theaters and/or, in a joint venture provide the capital and contribute a digital system. Now, the recouping of that in the cash flows, in part, a function of the virtual print fees, which, as Rich indicated, in the IMAX [inaudible background electronic interference] are fairly significant and bring the money back to you fairly quickly.

In the joint venture context, obviously you're also making money from your joint venture. One of the things again, and this happened in our interaction with the private equity people, is we have run a ton with that of different sensitivities, with respect to different rollouts, different capital associated with the speed of different rollouts. And the difference between the free cash flow on the one hand, and EBITDA and operating income on the other, but the core economics, and I think Rich and I have discussed this in the past, it's pretty simple about some things. We like to look at unit economics. The unit economics, both of the joint venture and on the transition to digital are very favorable from a business point of view, putting aside accounting implications.

But I mean, is there any way you guys -- I don't really understand fully why you're getting out of the guidance business, particularly in light of the potential end of the sales process here. Why are you guys, if you have all these numbers, why don't you put them out and tell the market where you think your numbers should come out?

Because I think the answer is, we don't know how quick the uptake is going to be in JVs. We don't know what impact the JV business will have on existing sale [leap] business. We don’t have fully nailed down the accounting charges related to the digital transition. So, I think in light of those moving pieces, it just doesn't make sense to do that.

I would add one other thing, just as a manager at IMAX, I don't like to see our earnings and our guidance hostage to whether there's a cement strike in Poland. And, you know, to some extent, our installations are a function of things that are out of our control, like third party building schedules.

OK and then the other, the last question is, as part of this process, given where it seems like things are going to end up, did you guys consider any kind of potential recap, partial recap, tender for the stock, any kind of other potential value creating alternatives other than just to sell the entire company?

I think the answer is yes, that we're always considering things like that. But one of the issues on which someone asked a question about before is, you know, how to finance our strategic initiatives. And I think further levering up the business would have jeopardized our ability to do that. We'll continue to look at all options going forward. We've evaluated many of those you suggest, in the past.

I think we're going to take two more questions.

Yes sir. Our next question comes from the site of Adam [Sammons]. Go ahead, please.

Hi, it's actually Morgan Rutland for Adam. Hi Rich and Brad.

Hi, Morgan.

Hi, well where to start? I guess my first question is, you said something at the beginning of the call, or actually in the press release, which said that the failure to reach a deal was relative to the board's expectation of value. Is that a fair paraphrasing? That whatever deals were potentially out there were not at a level that has been at the board's [inaudible two people talking].

I think we said at the price the board sought, I think is what we said Morgan.

Right, but then later in the call, Rich, I think it was Rich or Brad, I don't know which one, referred to where the stock was trading. So, you know, it's very hard for us as investors to figure out kind of what levels we were talking about and I was hoping you could maybe give us some sense of what, you know, where the board was, or was it where the stock was, or you know, can you elaborate on that?

I would say, I don't think we said anything about where the stock was later in the call, Morgan. I think we said where the board was.

But I actually think if we go back to the transcript we're going to see, and I think it was Brad who answered the question about where the [LBM] firms were in the $300 million and it was just five minutes ago and something about relative to where the stock was trading. So, I’m just trying to understand if where the stock was trading was really relevant or was really the board's view of value.

I think where the stock was trading is always partially related to the board's view of value, Morgan. I think it'll be really -- it would do a disservice to elaborate further on the board's expectations. I think what we said before was there are interested parties at a price below that which was the board's thought. I think we've authorized our bankers to start a discussion with them and continue a discussion with them. And I think we'll kind of see where it goes. I think we're not ruling anything out at this moment.

OK, well, I don't want to back you in a corner, but how about looking at it from this point? When we first announced this back in March, I guess, the stock was trading around the $9.00-ish level and then it traded between kind of $8.00 and $10.00-and change for the bulk of the time that the process went on. Is it fair to say that, when you started this process and actually, when you had to make the decision from a board perspective, the board was looking for some premium? Because, typically boards do look for a premium to where stocks are trading. Is that an unfair expectation for us to have as investors, that the board was looking for some premium to what was kind of the then unaffected stock price?

Morgan, since the board is made of individuals and we never took a poll of what they were looking for, I think what I would say is there was an expectation, which certainly was shaped, to some extent, by where our market price has been. I'd say to even a large extent where our market price has been. And I think that there are indications of a [inaudible] but a sellable range now and I think we're just going to continue to explore.

OK, so now let's go to the next part. The stock's trading at $6.00 in the third market, so and there are 41 million odd shares outstanding at $6.00, so my rough math is that's about $250 million, to buy the whole company, with no debt. I think you said earlier that it was $300 million or more of equity that was required. So, I want to start with first, the question, in the earnings call that I think we had in May, I think, I'm pretty sure; I don't have the transcript in front of me. In answer to the question, there was an allusion to the fact that there was one or more banks that were offering stable financing at that time. Did that change as the process unfolded?

Well since there was never a deal, Morgan, it never got to that. But no, stable financing was still available.

OK, and so, you know, I guess, when I look at it and say, well there's $150 million of debt that's coming up that has to be refinanced, and the current market, you know, equity value right now is $240 million, $250 million, it probably would take a heck of a lot less than $300 million if the company re-bought at $6.00 a share. Is that a fair assessment?

Well, I think it's fair to say if the equity value is lower, you need a lower equity check, yes.

OK. And in terms of the kinds of things you're currently contemplating, thinking about, talking about with some of these equity players, would any of them involve an equity infusion by one of those players for a significant, either a significant minority, or a majority, of stock and therefore not have to necessarily go through the refinancing process?

It's way premature and inappropriate to go into details like that on a call like this. I think, our ears are going to be open, Morgan, and I think we'll see, you know, we're going to look at all options as we said.

OK, and then, in terms of going through, when you were going through the process, did the accounting issues that arose, was that -- first of all, I guess, when did those issues arise? Because, obviously, this is the first we're hearing about this set of accounting issues. So, can you give us same sense when that happened?

We received the first inquiry from the SEC in late June, and we don't believe it impacted the process.

You don't?

We don't.

OK, and to be fair, the inquiry really has to do with the recognition; it has nothing to do with cash. Cash, the cash in it, you know, that you have generated for the last several years would only be a question of when you might have -- if the SEC determined that you used, that there was a different standard to be used, it would've been a different revenue recognition over those periods, but it would be a non-cash issue. Is that correct?

That's correct. [inaudible] to the timing of revenue recognition.

OK. And, since we're in the -- I guess we're still technically in the process. Is that a fair statement? Of looking at alternatives to maximize shareholder value?

I'd rather not characterize it one way or the other. We're still considering options, Morgan.

Well, again I just want -- going to the press release, you know, one could either read it that this is a failed process, in which case the process is over, but you might some day consider something. Or, one could read it that the process did not result in the outcome that we had hoped for initially and we are continuing to review our alternatives under this process and this process is not over. So, I'm just trying to understand really which it is.

I think it's closer to the second you described, Morgan.

OK, and from, again, from our perspectives, how long do you think that this might go on?

You know, I think that's impossible to say.

OK, and, and again, from your perspective, how distracting was this process to the, kind of, day-to-day running of IMAX and, you know, which has kind of led to, you know, a -- a good quarter. You know, I mean, there's no argument; this was a good quarter. But clearly, since we have no guidance anymore, something has changed. So, was this a distraction to you at senior management?

Clearly, it was a distraction, but, you know, there was a benefit to the distraction, which is, I think it fine-tuned our strategic direction. And I think having really smart people on the outside look at your business and critique it and ask you questions, really created a lot of the ideas, going forward, and the focus going forward.

So, yes it was a distraction but I think we learned something during this distraction. As you say, you know the quarter came in really at the upper range of where we guided to. So I think more, if you want to look going forward, that has more to do with strategic direction and the fact that our film slate really hasn't performed as effective this year.

And again, going back to the installs, you know, the back half of the year, I thought that Brad, either in his opening comments or in an answer to the question, you know, in reference the, you know, the kind of, the weakness in the film slate that would be one contributing factor. Is that a fair statement, that it is [inaudible two people talking] assuming?

Yes, where Rich said it, we think it is believing -- it is affecting our sign and installs with respect to '06.

What other factors do you think are affecting the sign and installs in '06, other than the weak film slate?

That's an interesting question. Film is probably the largest factor. Rich, do you have anything?

I think film is going to be the largest factor. I think possibly uncertainty of sale was a factor, [inaudible]. We heard from some exhibition clients, particularly in North America, that they were going to hold off until they saw what happened.

And, do you think that the two announcements on what arguably are going to be two of the largest movies next year, have you seen any change since, especially, the Spiderman announcement?

I wouldn't say, generally, since the announcement. I’m really glad you asked that question, Morgan, and then I was going to ask that we just move on. But, in fact, our level of interest in North America is quite strong now. It's been stronger than it's been in a really long time. And, we're even starting to see interest repeat by the larger North American exhibitors right now. Several of them are looking at different proposals we have. And, some chains, which hadn't talked to us in years, have sort of called us out of the blue and said we want to talk to you.

So, I don't know whether it's specifically those two films, but I think, in general, the announcement of those films, plus the performance of Superman, which was very strong as you know, I think have rekindled a lot of interest. And, I feel very good about North America, right now, what's going on.

We have one more question; the last question?

Yes sir, the last question comes from the site of Ken Silver. Go ahead please.

Hi, I have just a couple of quick follow ups. When you announced the [digital] alternative process, you indicated -- you sort of reduced your communication, you know, with The Street. Going forward, you know, what sort of communication are you going to have? Who should we be calling now that Steve Abraham isn't with the company anymore? Can you just talk about that?

Well, I think Amanda Mullen, who is with us on the call, should be the contact person. I think her information is listed on the release, so I think that should be your first contacts.

And yes, I mean, we will be more available than we were during the [inaudible].

And one other thing, which, you know, we believe is the right corporate practice, is when you are no longer in the guidance business, we are in the process of internally formulating what we think are useful and important operating metrics, by which to evaluate the company, in terms of long-term value creation. And, you know, of course at some point, we will be communicating those to our shareholder base.

OK, great and just one last question; can you tell us today, you know, what is your debt capacity?

I can't answer that, because I think we have to -- it's a combination, Ken, of looking at the covenants on the senior note, looking at the covenants on the bank loan, as well as, you know, looking at EBITDA forecasts. And, you know, we haven't integrated that at the moment.

With that, I think, we should summarize. I mean, I would like to say that, while clearly, we are disappointed we couldn't come to you all today and say we had an offer and a deal accepted at a price we were all happy about and as a result we all want it, no one more than Brand and I, who are the largest individual shareholders in the company, we want to leave you with a sense that we actually got energized by the process and the way people looked at our company and their reactions to the company and the way they saw the potential in the company.

As I said before, I think, from their point of view, to justify the kinds of prices that we wanted, they needed more data and more operating history and more of a growth in the network than they were able to see. And I think from that process, we've gotten both the, sort of, strategic kick in the rear and the fortitude to really build the business to create long-term value and at the same time continue to look at what the alternatives are that are out there, in light of where the world is today.

Again, while we're disappointed, we remain very excited about IMAX's prospects. Thank you very much for joining the call.

This concludes today's call. You may disconnect at any time and have a great day.