Imax Corp (IMAX) 2013 Q2 法說會逐字稿

Good day and welcome to the IMAX Corporation second quarter 2013 earnings conference call. All participants are currently in a listen-only mode. Following the presentation we will conduct a question-and-answer session at which time you will be requested to press star-one to ask a question. Today's conference is being recorded.

At this time, I would like to turn the conference over to Ms. Teri Loxam. Please go ahead, Ms. Loxam.

Thanks, Michelle.

Good morning and thanks for joining us on today's second quarter 2013 conference call. Joining me today is our CEO, Rich Gelfond, our CFO, Joe Sparacio, both of which will have prepared remarks. Also here today to join us for the Q&A portion of the call is Greg Foster, CEO of Entertainment, and Rob Lister, our Chief Legal Officer.

I would like to 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 outcomes. 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 outcomes.

During today's call references may be made to certain non-GAAP financial measures as defined by Regulation G of the Securities Exchange Commission. Discussion of Management's use of these measures and the definition of these measures, as well as reconciliations to adjusted EPS and adjusted EBITDA as defined by our credit facility are contained in this morning's press release.

The full text on our second quarter earnings release, along with supporting financial tables, is available on our website, IMAX.com. Today's conference call is being webcast in its entirety on our website.

With that, let me turn the call over to Rich Gelfond.

Thanks, Teri.

As many of you probably saw last night, we announced a significant deal with Wanda and AMC to not only add between 45 to 130 new theaters, but to also extend the length of our JV terms. Given the great partnerships that we've built with both Wanda and AMC over the years, I'm very happy to advance our relationship even further with this new agreement. Not only does this deal potentially increase our network by 20% with a stroke of the pen, I believe it is an example of the strong momentum that we have recently seen in our business.

If we take a step back and look at the Company at a high level, we have three main constituents that continue to drive our business; the exhibitors, the studios and the consumers. On the exhibitor front, last night the Wanda/AMC deal, the recent CJ CGV deal and the significant number of ongoing signings and discussions with exhibitors worldwide, all suggest that the global exhibitor community sees significant value in being in the IMAX business. I'll talk more about this in a moment, but of particular interest is the fact that the AMC leases were extended for three years, which means their agreements with us don't even begin to expire until 2021.

On the studio side we signed a 20-picture deal with Warner Bros. last fall, a 5-picture deal with paramount in April, and we're in discussions with other studios for potentially additional multi-picture deals with blockbuster titles. This shows the studios recognize the value of the IMAX global theater network as a key distribution platform for their blockbuster films.

And finally, we're coming off of our second largest box office quarter in IMAX history, which demonstrates that, most importantly, consumers value the high-quality, differentiated format that IMAX provides and are making the choice to view blockbuster titles on IMAX.

As you can see, the support for our business continues to increase and I believe that makes it clear we're well positioned for long-term growth.

So, how does this translate to shareholder value? As we've discussed before, the IMAX business model is one of global network growth; add new theaters, maintain solid per-screen averages and control costs. Over time, this model translates to higher recurring revenues, expanding margins and cash flow growth.

This quarter we delivered solid recurring revenue growth driven by network expansion and strong box office results. Strategic investments such as our laser projection technology and new business ventures like our home theater initiative, along with some non-recurring expense items, contributed to higher operating expenses in the quarter. However, our annual expense outlook for 2013 remains on track.

In expanding our network, we installed 29 new commercial theaters in the quarter. We also signed agreements for 34 theaters in Q2, 25 of which were for new theaters. These signings, coupled with the recently announced agreements so far in July, yield an impressive total of 140 to 225 signings this year to date, compared to 142 total signings in 2012 and we still have over five more months to go in the year.

You'll remember that one of our key goals this year was penetration, with a particular focus internationally. I'm happy to say that we've made considerable progress towards this goal over the past few months. In addition to the significant deals I mentioned in Asia, we've also made progress toward further penetration in Europe, Latin America and North America.

In the second quarter we've signed agreements for 8 new theaters across Europe, with several others signed since the quarter ended. Importantly, some of these signings will give us access to countries currently lacking in IMAX commercial theater, including Germany, which is the 7th largest film market in the world, and Switzerland. Entering new countries is important because we have seen time and time again that, if you get into a new country with a solid theater location that generates good per-screen average, it becomes a reference theater for the region and leads to the opening of additional theaters in that area.

In the quarter we also signed an agreement for 5 new theaters in Mexico and we are encouraged by the significant number of ongoing discussions for additional theaters in countries across Latin America. In fact, last night we just signed a 2-theater deal in Ecuador. In addition, we signed another 7 theaters in North America this quarter.

In our Q1 earnings call we talked about our new TCL Chinese Theater in Hollywood, the world-famous Grauman's Chinese Theater, which is an iconic location that is expected to open in the fall and host a number of Hollywood movie premiers.

Similarly, in the second quarter we signed an agreement for a new theater at the iconic Potsdamer Platz in Berlin, Germany and we are in discussions with other regions for similarly well-known venues. Not only are these iconic locations large and profitable, but they're globally recognized and frequently used for country moving -- movie premiers. Having premiers in IMAX helps reinforce IMAX is the best way to see the biggest movies.

A key driver of the conversion of these locations to IMAX is the development of our laser projection system, which will provide a digital solution for IMAX's largest screens. Through the end of the second quarter we had already signed agreements for 12 laser theaters. Many of these theaters will leverage our interim digital solution until our laser systems begin to roll out in the second half of 2014.

On the film front, we played 8 new titles in the quarter, generating $220 million in global box office, which is our largest box office quarter since early 2010 when Avatar played. In fact, for the first time we released 3 titles in a quarter that each grossed in excess of $50 million in IMAX theaters. Of note, the IMAX indexing, or the percentage of box office that is generated by IMAX, compared to the total box office was very strong for a number of titles this quarter.

For example, in the US IMAX represented 9% of the Iron Man 3 box office and almost 16% for Star Trek Into Darkness. Similarly, in China we represented 14% of the box office for Star Trek Into Darkness and 13% for Man of Steel. And obviously, we have a lot of theaters to open in China going forward.

We have seen similar examples of IMAX over indexing in the UK, Russia, Netherlands, Korea, Brazil and many other countries, which reflects the consumers' choice to view event films in the IMAX format. The remarkable point is that, generally, the IMAX screens represent less than 1% of the total number of screens showing a film in a country.

We were also encouraged by the PSAs this quarter, which rebounded nicely from the lighter Q1 numbers, especially in the domestic market. This quarterly variability in PSAs is also a good reminder as to why we view the film slate as an annual portfolio.

And finally, we continue to have a dedicated focus on controlling our costs. While we experienced higher expenses this quarter, we've been cutting back in other areas -- and we'll discuss those expenses in a moment -- and as a result, we remain on track for our annual expense guidance. This is important as we strongly believe the value of our business model is one of significant operating leverage. We believe that this leverage ultimately will allow expanding gross margin to fall to the bottom line and generate cash flow growth.

And with that, I'll turn it over to Joe to go through some of the financial details from the quarter and then I'll take it back to talk about the Wanda/AMC deal.

Thanks, Rich.

Total revenues for the quarter of $82.3 million were increased by 17% compared to last year. Our JV theaters had a strong quarter with revenues of $18.3 million, an increase of almost 18% compared to the second quarter last year, which was primarily driven by network growth and strong PSAs. Importantly, this revenue translated to a 21% increase in gross margin to $13.5 million.

On the DMR side, we generated $26 million in revenue, a 31% increase from Q2 last year. DMR gross margin increased by 21% this quarter to $14.9 million. DMR expenses for the quarter were higher than normal, largely due to costs incurred for funding film prints, which were $3.2 million this quarter compared to $1.1 million last year. And the high concentration of broad releases and 3D titles which have a much higher cost than digital-only releases or 2D titles.

As you know, the introduction of our laser system will eventually obviate the need to fund film prints as we move forward. We continue to expect the cost per title for the full year to average about $800,000 per film, primarily due to the increase in digital-only releases slated for the second half of the year, which tend to have a lower average DMR cost.

We installed 11 new sales and sale-type lease theaters in the quarter, the same number as in Q2 last year. System revenue from these theaters came in at $17.1 million in Q2, compared to $14.9 million last year.

I would like to point out that the sales and sales-type lease line included $3.1 million from revenue recognized for 10 previously installed digital upgrade systems for which revenue had been previously deferred. The recorded margin for these systems was a loss of $300,000. Excluding this revenue recognition item, the sales-type lease margin for the quarter would have been 53.2%. The Company also installed 1 digital system upgrade in the second quarter of 2013 compared to no upgrades in the period last year.

Global box office was up 27% to $219.7 million in the second quarter, driven by 20% network growth, as well as strong global PSAs of $353,000. The box office was pretty evenly spit between domestic and international markets, each with roughly $110 million. Domestic PSAs were $323,000, which is our highest domestic PSA since the first quarter of 2010. And the international PSA this quarter was $390,000.

Moving on to operating expenses, SG&A, excluding stock-based comp, came in at $19 million in the second quarter, $2.3 million higher than last year. SG&A costs were higher this quarter, particularly in June, due to some non-recurring expenses resulting from the heightened level of activity around theater signings, new business opportunities, including our home theater initiative, and increased professional fees. In addition, SG&A included an FX charge of almost $800,000, compared to $500,000 last year.

Regardless, we remain on track to meet our full-year 2013 guidance for SG&A of 5% to 8% growth for the full year over 2012. And this excludes-- this is excluding stock-based compensation and the benefit plan curtailment gain that we recorded in Q1. Stock-based compensation for Q2 was $3.2 million and our full-year expectation for stock-based compensation is approximately $13 million.

Q2 R&D was $3.7 million, compared to $2.5 million in the second quarter last year, reflecting our ongoing efforts on our laser initiative, as well as costs associated with IMAX camera development and other projects. We continue to expect our full-year 2013 R&D expense to be about $13 million to $15 million.

We finished the second quarter with a tax rate of 28.9%, compared to 25.3% in the same quarter last year. Remember, however, that last year we had a $700,000 non-recurring tax benefit that was recorded. We continue to expect our full 2013 tax rate to be in the range of 28% to 30%, including an estimated $4 million to $5 million of cash taxes. At the end of the second quarter we had $32 million of NOLs remaining.

In terms of our network, we installed 29 new theaters in the second quarter, with 11 sales-type lease installations and 18 JVs, including 2 hybrids, bringing our total commercial network to 634 theaters, of which 336 are JVs. In addition, we signed deals for 34 theaters, 25 of which were for new systems, and 9 upgrades, 4 of which were for laser systems.

The new theater signings were spread throughout the world this quarter, with 8 new signings in Europe, 7 in North America, 6 in Latin America and 4 in Asia-Pac. As a result, our backlog increased during the quarter to 284 theater systems, of which about 80% are slated for international markets. We reaffirm our guidance of approximately 110 to 125 new theaters in 2013 and we continue to expect the installations to be about two-thirds JV this year.

In terms of phasing for the remaining of the year, we currently expect a handful of sales-type installations and a dozen or so JVs in the third quarter, with many of them scheduled for September. So as you can see, we currently expect the vast majority of our remaining installations for 2013 to occur in the fourth quarter, which is similar to the level of installations we had in the fourth quarter over the last few years.

With that, I will turn it over Rich to walk through some of the specifics on the Wanda/AMC deal.

Thank you, Joe.

We've been in discussions with Wanda and AMC for well over six months, mapping out the details of this agreement and we're happy to be able to share the specifics with you on this call. Let's start with the Wanda portion of the deal.

Under the terms of the agreement, Wanda will install 40 new full joint venture theaters in China, with 20 of the new theaters slated to be installed within 2014 and the remaining 20 to be installed by the end of 2015. These theaters will have a term length of 12 year, which is longer than the 10 years under the current deal.

As part of the agreement, Wanda also has the option of adding another 80 theaters in China, contingent on the development of our new laser projection system. If Wanda exercises the option for the additional 80 theaters, they will be expected to roll them out of a rate of about 20 theaters a year starting in 2016.

In addition, at the time Wanda ops in for the additional theaters, the length term on the existing 75 theaters from the previous agreement with us will be extended by 2 additional years to make them all 12-year contracts. And as you know, extending the contracts means that our capitalized costs for the systems will be depreciated over a longer period of time, which reduces the annual P&L impact of these costs and, of course, would guarantee 2 additional years of cash flow.

Including the optional 80 theaters, this agreement would bring Wanda's theater commitment with us to 210 theaters and our total number of theaters open and in backlog in China to almost 400 theaters, which is about the size of the United States market. Not only does this deal solidify our competitive position in China, but it also provides for real marketing efficiencies, adds to our already strong equity, and also gives the Hollywood and Chinese studios, as well as other constituencies in China, greater incentive to collaborate with us.

On the AMC part of this deal, effective immediately we'll be extending the contracts on all AMC JV theaters by 3 years, which will extend all the contracts to 13-year terms instead of the original 10-year terms. As a result, our first JV expiration will not be until 2021.

In addition, as you will remember, our early AMC agreements used a more complex formula than the simpler straight percentage of gross box office deals that we now use for most of our joint ventures. So as part of this agreement, we've also made some slight modifications to various revenue and cost items resulting in small give and takes for both IMAX and AMC.

Furthermore, as part of this new agreement, AMC will add 5 additional IMAX theaters in North America, plus an option for 5 more. Timing for these additional theaters has not been finalized, but the companies are already discussing and analyzing possible sites.

We are gratified to be expanding our relationships with Wanda and AMC, who not only comprise our largest partners, but are both also incredible theater operators and share our commitment to quality, innovation and building the IMAX brand.

And with that, I'd like to open it up for questions about our earnings and the Wanda/AMC deal.

Operator Instructions.) The first question comes from Townsend Buckles of JP Morgan. Please go ahead.

Thanks and congratulations on these deals. As we look at the number of installs in recent years at about 100 to 125 per year, do these deals, CJ and Wanda, bring your expectations above or at the high end of that pace in maybe '14 or '15, or should we think about them more as providing greater certainty that the current rate of installations can continue?

I think it's really too early to answer that question, Townsend. I think, at the least, they provide greater certainty because the backlog is larger and. hopefully, it'll enable us to install more theaters. As I mentioned during the call, there's a lot of business activity going on. I think we'll have to answer that question later in the year.

Okay. And it appears you're now close to your previous screen target for China. Should we think about this market as mostly penetrated for now, or do you see more potential for expansion?

I think there's definitely more potential for expansion. As you know, we go back and we reanalyze our expectations for each market on an annual basis. And I think now that we've completed this deal, we're going to have to go back and look at it again.

And just one on the box office. You played Man of Steel in both 2D and 3D. Did you see anything notable in the 2D demand that would -- that you would consider doing this for future titles as it seems some of the consumer demand for 3D in general is coming down?

Greg Foster, our head of entertainment is here, so why doesn't Greg answer that.

While it did play in some 2D shows, Townsend, the reality is we don't pick movies based on 2D or 3D. We pick movies based on whether they're appropriate for IMAX. And what we found -- excuse me -- is that obviously we've done very nicely with Man of Steel and the vast majority of the shows were in 3D. But, both the 2D and the 3D shows did remarkably well in our theaters.

Gog it. Okay. Thanks a lot.

Thank you.

Thank you. The next question comes from James Marsh of Piper Jaffray. Please go ahead.

Thanks. Just a couple quick ones here. Obviously, with the 80 screens that are potentially laser to be deployed in China, in order to do that I guess you have to have some idea of what you think you would charge them, or what value you would ascribe to them in a JV, and I was just wondering if you could shed some light on that.

And then secondly, Joe, you mentioned the installs are going to be largely backloaded into the fourth quarter. I was hoping you could give us some sense for how many hybrids we might see in the fourth quarter.

Well, on the first question, James, about China, actually not all 80 are JV -- are laser. That's to be worked out. My guess is approximately half of them would be laser, but we still have to work that out.

In terms of pricing, we did build in a formula for the JVs and recoupment terms under the cost of JVs that involve laser and that is part of the agreement.

And is one of the reasons why you're getting an extension on the deals? Because it seems like that's a good deal for you, to get better visibility moving from 10 to 12 or to 13 years and it's not clear what you're giving up.

Well, as I said when I discussed the -- I don't want to -- I'll separate them out. But as I said during the AMC section, there were some give and takes but, by extending the leases, it has virtually no material financial impact on us. So, that enabled us to give small changes in things like maintenance and that sort of thing but, by changing the lease depreciation, it keeps us in the same place.

More importantly, it really lessens the risk of non-renewal at that point. And even though I said 2021 was when they started to roll off, the bulk of the AMCs really weren't delivered until 2009-2010. So, it's really '22-'23 you're thinking about. And I think from AMC's point of view and Wanda's point of view, in general they're really happy with the IMAX performance. And you take AMC, for example, which has all but abandoned its ETX system, and I think it locks in for them the IMAX network for a longer period of time and I think that's something they wanted accomplished and I think that's something Wanda wanted accomplished in China.

And Joe, do you want to add--.

Sure. Yes. I mean, James, at this point we target around 5 to 7 units in the fourth quarter that would be hybrids.

Okay. And then just one last follow-up for Rich here. Rich, there's been some, I guess, scuttlebutt in the trade press recently about local language Chinese films outperforming Hollywood so far this year. And obviously, you guys are somewhat hedged because you do local language DMR. But, I was hoping just to get a little bit more insight from you into what's driving that and should we expect China Film Group to be aggressive in slotting these release dates and negatively impacting Hollywood box, or do you think it's just a content mix issue?

Yes. I think it's a content mix issue, James. I think -- the press, as you know, when a tornado movie does well, there's stories that talk about how the trend is going to be all tornado movies. And I think that what happened was, in China, there were a couple comedies that did very well so the press kind of says comedies in China are the new magic formula. But, I tend to think the world doesn't work that way and it's more content and temporary things.

Greg, do you want to add anything?

Well, first of all, as you point out, James, just for everyone else, we are covered on both sides. We do plenty of local language films with our partners, whether they are China Film Group or YE or Bona, etc. And Anthony Vogels, who many of you know, has done a great job of making sure that we have plenty of those films in case there is more of a leaning towards them.

But on the other hand, on the Hollywood films, we've had more Hollywood films. I'm sure the WTO has something to do with it with the new agreement. But, in the last 2 to 3 weeks and another week going forward, movies like After Earth, White House Down, Man of Steel, Fast Six and Pac Rim have all gotten into China and will have either opened or are about to open. So again, we're covered on the Hollywood side and we're covered on the local language side, which is what our exhibitors and our consumers are really interested in, that they can walk into an IMAX theater and see something.

Okay, excellent. Congratulations once again on the Wanda deal.

Thank you, James.

Thank you. The next question comes from Richard Ingrassia of ROTH Capital Partners. Please go ahead.

Thanks. Good morning, everybody.

Hi, Rich.

Hi, Rich.

Rich, could you talk about the overall industry commitment to laser projection? I mean, Wanda made its position clear, obviously, with the indication on this new contract and I expect AMC to follow as it upgrades here. But, talk about Regal and maybe some other major domestic and international exhibitors and where they see laser going or how much laser is a part of their plans.

Well, I mean, internationally, the CJ deal also included lasers, so that tells you where they're coming from.

With Regal, as you probably know, we've gone to the interim solution, which is a digital solution. And we're negotiating with Regal lasers, what the cost of lasers would be for their larger screens. And I'm sure at some point we'll come to some kind of agreement on those larger screen. I -- as I said, we've had a lot of preliminary discussions with them.

But, you have to sort of bifurcate the world. I think in the IMAX world people are very interested in laser. I don't have a strong opinion as to -- or strong knowledge as to where they are in the regular -- kind of replacing a 35 millimeter and digital projection world.

And it becomes very complicated, Rich, because, as you know, a lot of the financing for the transition to digital was done through DCIP. And DCIP is like an equipment financing mechanism where they have to keep the equipment and amortize the cost over a number of years. And I just don't know what the exhibitors' ability is going to be to walk away from that financing and I don't know how they're going to pay for another upgrade cycle.

And also, the cost of lasers, in the initial phase anyway, is relatively high. So as a result of that, I would think -- again, I don't know, but I would think the transition to laser in the regular digital replacement market is going to be a lot slower than it is in the IMAX market.

Okay. Thanks for that. And Joe, I appreciate the color on the cost anomalies in the quarter, especially in the COGS line there. Can you say just a little bit more? I think, Rich, actually you mentioned some areas where you can cut back to offset some of the increased R&D and SG&A expenses.

Yes. I mean -- Rich, I'll take a stab and then Joe can fill in.

If you look at the quarter, we had the $750,000 charge for FX and we also had about $1 million in legal expenses related to increased deal activity and some litigation that we didn't anticipate. So, you sort of take that piece of it and that would have been another couple of cents.

And then you also work with the prints, which Joe mentioned cost us $3 million during the quarter, and that's something that's going to go away as we go to laser, that $3 million, another two or three cents. So, you don't technically categorize that as non-recurring but, from our point of view, that's not symptomatic of our business model and it's more caught up with either one-time things or transitional things.

Okay, thanks.

Thank you. The next question comes from Eric Handler of MKM Partners. Please go ahead.

Hi. Thanks for taking my questions. Just a couple of other questions on the laser systems. One, do you remain on track for a back half of the year 2014 rollout for these systems? Are there any legal FDA hurdles that you need to clear or any other stumbling blocks to get that going?

And secondly, I was always under the impression that the laser systems were for screens 80 feet and larger, so can laser now be applied for smaller screens and is there a reason why they would want that?

And then, if you look at above -- if you look at more above -- or higher than 80-foot screens being installed, what -- how does the seating capacity increase versus a typical system?

So, a lot of questions there so I'll try to remember them all in order.

The first one is, yes, we do remain on track for the back half of 2014. However, you asked the question sort of in an either/or fashion. I mean -- but, yes, there are stumbling blocks. There are approval issues. There are technical issues. And our best judgment is that we're going to get through all of those and we constantly reevaluate that and deliver the system in the back half of '14. But it's not like -- I don't want to give you the impression it's on autopilot and it's all done and it's all sitting there and it's just waiting to turn on the switch. That's not the nature of R&D. But we believe, and we continue to believe, that we're on track for that.

In terms of 80-foot and larger screens, that still is the plan for laser. We would have to undertake a different R&D effort to do it in screens less than 80 feet and that's something we're not doing at this point. And in fact, the ability to do those larger screens, I didn't talk about it during the prepared remarks, but really enables us to do these more iconic locations.

So for example, the -- what used to be the Grauman's Chinese Theater is now the TCL Theater and that has close to 1,000 seats in it and that's enabled by laser. That's why we could do it. The Potsdamer Platz in Germany, the BFI in England, those are all big iconic theaters and that's why I think we'll go into other iconic theaters. Whether eventually we decide to put the money into a smaller laser system, I mean, I think that's something we'll decide later on, but we really have no plans.

And higher than 80 feet, I mean, with the technical specs of the system we can do a screen up to 140 feet. And I think some of the -- these iconic locations are bigger than 80 feet. And I think you'll see some home built -- some kind of originally designed and built systems to take advantage of the longer throw.

And do you think Wanda, the fact that they're looking to do about 40 of these, they're looking to build just a whole bunch of these iconic screens all throughout China?

Yes, I think they understand that they're at least 80 feet, those theaters.

Great. Thank you.

Thank you. The next question comes from Ben Mogil of Stifel. Please go ahead.

Hi. Good morning and thanks for taking my questions. So, the first question is on the Wanda deal. Is the option for 80 screens, is that sort of binary, sort of take all 80 or take none or is there potentially something in between?

It is binary under the legal document, but we have a long-term relationship with Wanda and this certainly is a scenario where we could come to agreement on something else.

But, I should give you a little bit of color on that. That was really largely initiated by Wanda. We were comfortable sort of saying let's agree on 40 now and then let's talk about it later. But, they're the ones who pushed really hard and, in fact, it probably took a two-month delay in signing this agreement because of that. That was a really important provision for them, that they lock in the pricing on those systems. So, it's technically binary but we'll see.

Okay. And then maybe one for Joe. Sort of two questions in the quarter. Can you give a -- because I don't think it comes out until the K -- the Q comes out. Can you give what the average price was on the installations and what the average price was on the hybrids?

On the installations the average revenue per unit was $1.1 million, which is lower than the norm.

Yes.

Largely due to some multi-system deals that were in play that drove some of that pricing. We certainly wouldn't expect that to be the norm. So, that's that.

And the second comment was what?

What the average was on the hybrids.

Oh, on the hybrids. I think it was roughly 550, something around there.

So, on both of them, those are both down sort of from the last couple quarters, and yet you did talk about sort of -- some massive contracts. If we forward to in the second half of the year, should we assume that the ASPs kind of revert back to what we've seen more recently?

I would expect a normalization, yes.

Okay. And then depreciation was a little big higher. Are you writing off -- are you accelerating the write-off of some equipment to sort of upgrade to digital?

No, there's been no acceleration of write-offs or anything like that. I mean, the -- what would drive your depreciation number might be, as I mentioned in the remarks, some higher DMR costs because of the nature of the releases. And we are deploying a lot of JV equipment, so that's going to drive it as well.

And just to make sure I got that -- got the number right, you thought gross margins would be around 63.2% if you had stripped out the recognized revenue shift issue?

As it relates to the STL line, it was 53.2%.

Yes.

Yes. And if you looked at our overall margin, then and adjusted it, you'd probably gain about a point and a half.

Okay. Okay, that's great. Thanks a lot, guys.

Thank you. The next question comes from Steven Frankel of Dougherty & Company. Please go ahead.

Good morning. Congratulations on the Wanda deal.

I wonder, Rich or Greg, if you could comment on the recovery of PSAs on -- in China. Kind of where are they and is this the new normal or do you expect them to recover more as the film mix kind of shifts a little bit back towards Hollywood going forward if that does happen?

Steve, you've heard me say this before, but I don't think using the word new normal and China are consistent. I think that China is inherently -- it's a market with tremendous growth, second largest box office market in the world. As Greg said before when he talked about all the releases coming out right now, I mean, there's a lot more going on right now than there was in the first quarter.

But, I think if I could say one thing with certainty about China it's that it's uncertain. And I think there are -- there's no such thing as a place called China when it comes to the film world. There are lots of constituencies. There's China Film Group, there's China Film Bureau, there's the Propaganda Department, there's the studios, there's their goals of balancing Hollywood and Chinese Box Office. And these are all constituencies as a new government that ebb and flow over time and the second quarter a lot of product was let in and a lot of our product, which Greg said.

But, I think that it would be a mistake to generalize. I think you know our overall view, that over time China continues to liberalize and allow more films in and we continue to diversify our approach by doing more Chinese films. But, I think you can't draw one lesson from one quarter to the next.

Okay. And then, Joe, in terms of backlog, when we get to Q3, does just the 40 conventional systems from Wanda get added to the backlog?

Yes, that is correct. And then--.

And in terms of the AMC adjustment, would we see that impact on gross margins beginning in Q3?

Yes. But as Rich mentioned, it really isn't going to move the needle much.

Okay.

It'll start July 1, but it's really a nominal impact.

Alright. Thank you.

Thank you. The next question comes from Eric Wold of B. Riley. Please go ahead.

Thank you. Two questions. One, Rich, you kind of talked about the -- or I guess either for Greg, you talked about the stronger -- over index you used on China you've seen in some international markets with some of the key movies. Where do you think that incremental share is coming from? Is that -- are you taking that from traditional 2D or from traditional 3D screens?

I think where it's coming from, Eric, is that in some of these markets our -- the amount of screens that we have is increasing. There's some competition amongst some of our exhibitor partners as well. And so they're, A, spending a little bit money on market and, B, there's more opportunity and the brand is being more discovered, particularly when you look at some of the European markets and, of course, China and Asia Pacific as well. But, we're generating really strong per-screen averages in places like the Netherlands, the UK, Russia obviously, the Ukraine, China, Korea, Brazil, etc. And as our network grows in these markets, we're finding that the per-screen average has more room to grow with it. So, I think that's why.

We don't find that there is a material difference between 2D and 3D for us. As I mentioned on the earlier question, it's about the movie. Some of our highest grossing movies have been 2D, as you know, the Batman films, etc., but obviously we had terrific success with Man of Steal, Ironman and Star Trek, which were all 3D titles in Q2.

Perfect. And then the second question, the last question, if you look at the backlog, I guess hopefully including CGV and the Wanda deals as well, and they're kind of on a pro forma, what percentage of those new theaters are based on new developments, new theaters being built versus IMAX screens being slotted into existing theaters? And then have you seen any meaningful slippage of development plans for new builds, either here or abroad?

Yes. For Wanda they're all new builds and the CJV ones are all new builds. With Wanda, they laid out a schedule in 2011 when we did the 75-theater deal. And they've exceeded the rollout in that schedule and they've constantly been ahead of that. So, it's the opposite of slippage. We haven't seen it.

Okay. Just to clarify now real quick, Rich. Besides Wanda, any other regions or any -- have you seen any development slippage at all?

Well, obviously, Eric, there's more uncertainty in a new build than a retrofit because you have to get permits and you have to pour cement and things like that. So, on a one-off basis, yes, there's been slippage. It's not inherently as predicable. But, there's certainly -- we haven't seen any systemic kind of slippage anywhere.

That's perfect. Thank you.

Thank you. The next question comes from Aravinda Galappatthige from Canaccord Genuity. Please go ahead.

Good morning. Thanks very much for taking my question. Just a couple from me. First of all, for Greg. Could you just remind us what the film slate looks like for China? Just remind us what the -- which Hollywood titles are in and what are -- which are out? And also, if there are any sort of blackout periods that we're dealing with, if any, in Q3.

And also for Rich, just to clarify. With respect to the Wanda deal, the Wanda component of the deal, my understanding is that there's no change in the terms in terms of how the rev share for IMAX is calculated. Is that correct? The change is only for AMC?

No, let me answer that first. In fact, there are some small changes related to the new theaters, not the old theaters that are open today. And under the new theaters, there are some small tradeoffs and that's one reason for the 12-year lease term and in that -- essentially it comes out more or less neutral, but there are some small tweaks.

On the China front, the last month has been fairly robust in terms of Hollywood films. If you just look at the last few weeks -- and what they tend to do right now is they're releasing movies in a five or six-day period, which has actually been quite good for us because we're operating at a very high level of utility in terms of capacity.

So, they released -- for instance, we all know about Man of Steal, but then they went to After Earth. They played that for five or six days then they went to White House Down, which is currently playing. On Friday they open Fast and Furious 6 and then a week later they go to Pac-Rim.

As we look into the period of this quarter, of Q3, there are some good titles that are local language titles. Detective Dee 2 is one of them. That's in the fall. And I think you'll be seeing some of the -- not Detective Dee, I'm sorry. It's the wrong title. That's one that's going to start shooting. But, you'll see some more films coming out that are local language films that I think we'll be a part of.

But, again, I'm finding their -- the so-called blackout periods seem to be disappearing and it's more just the sequencing of Hollywood. A run of Hollywood films then a little bit of a break and they go to the Mandarin titles, then another round of the Hollywood films. And again, remember, they have 34 titles to play with now as opposed to the 20 that they used to.

And Aravinda, I just want to embellish the answer a little bit more that I gave you before, which is the -- a slightly adjusted rate applies as the next 40 roll out, but only to those 40 not going back to the 75. However, if they exercise the option and do the additional 80, as the 80 gets rolled out there is a slight volume discount that's only effective once those theaters open.

Okay. I got it. Thanks a lot. I'll leave it there.

Thank you. The next question comes from Vasily Karasyov of Sterne, Agee. Please go ahead.

Hi. Good morning. I have a question about your film slate. So we are, I believe, the second year into the new slate policy, shifting away from the family titles and going heavier on the fanboy titles here. So, I was wondering if you could maybe talk about how it's working out. Clearly, it's working out pretty well. But, I wonder if there are -- if there is room internationally and/or domestically for high PSA through film selection, maybe better screen management or anything at all like that.

Well, the fanboy titles are working for us. And at the same time, we're constantly on the lookout for titles that also appeal to families on the international side. And so for instance, Despicable Me 2 is a title, Lone Ranger is a title that we're playing internationally that we weren't playing domestically.

The slate itself going forward has also a lot of differentiated titles, which are things that's quite important to us. When we look at a movie where the aspect ratio increased like the -- like Skyfall and we perform so well, I think everyone knows that Chris Nolan in the next week starts shooting Interstellar and he'll be using IMAX cameras. Michael Bay is shooting Transformers 4 with the new IMAX 4K 3D digital camera. And I've spoken with him from his location and he's really enjoying using that technology.

So, I think you'll see -- and I think that while Transformers is a fanboy movie, it's a four quadrant movie. And I think that's what we're really looking for, things that have a specific appeal to our core audience, but also can expand out. Pacific Rim would be a great example of that where, again, we're doing north of 20% of the box office.

So, I think you'll see titles that feature action, that appeal to fanboys, but the goal is always for IMAX to help the release of the film itself. And if we can do that by bringing in our core audience, that's better for our partners at the studios and the exhibitors and that's what we strive for.

So, are you saying, if I hear you correctly, that for different regions of the world you may have different -- slightly--.

Absolutely.

Tweaked slate policy.

Absolutely. We did Dragon Ball Z, which is an anime movie in Japan. We have Despicable Me playing and Lone Ranger in a handful of markets around the world, which one would call more of a family oriented title or a four quadrant kind of title. So yes, we program for 54 countries, not just for one.

Alright. Thank you very much.

Thank you. The next question comes from Colin Moore of Credit Suisse. Please go ahead.

Thanks. Good morning. Just a couple of follow-up questions. Aside from the laser development and real estate potential slowdown in the future, is there any non-obvious risks we should think about with respect to Wanda taking that option of 80 or diminishing that number of 80?

I'm not sure I'm following you. I mean, I think the option's contingent on our digital development, not really on the Chinese real estate market. So, I guess if the real estate market blew up then they might decide not to do it, but I really can't think of any other factors that would influence that.

Great. And I think, similar to that, you've had both Chinese partners really re-up in that market. I think Wanda was starting to approach the end of their existing contracts and it's really a vote of confidence of IMAX in that market. Aside from some of the metrics that we can see, is there anything you can provide, whether it's anecdotally or otherwise that those exhibitors are seeing in that market and the strength of IMAX and that gives them that confidence?

I think that because IMAX really grew up in that market with cinema, other than in more mature markets like Europe or the United States, that we're part of the fabric of that market. And what I mean by that is, if you use the United States as an example, our roots were in the museum and science world and we had to convince people to go to multiplexes to see IMAX movies.

I think in China, since cinema really started on a large scale -- and our first theaters when in when there were like 1,000 screens and now there are 15,000 screens in China, I think the consumers have gotten used to the fact that there's two ways to see a movie. You can see it in a regular screen or you can see it in an IMAX screen. And it's really part of the culture, along with the fact that it's an affordable luxury, which is very popular in China, meaning because disposable incomes are increasing, people can't necessarily go out and buy a Ferrari, but they could sit around a variation of the water cooler and say they saw something at IMAX. And that's kind of consumer status, brand status and that's a big deal in China.

And I think -- and a third thing I think would be our ability to draw in people from farther areas, so as part of the development of malls. And one of the reasons Wanda is so attractive to IMAX is we're in almost all of their Wanda Plaza Centers and I think we have a very positive impact on those centers. I think those are all factors.

I'm going to segue a little away from your question for a second, but I'm going to say that the reason that I am the happiest about the Wanda deal and the CJ deal aren't really the economic matrix. It has a lot more to do with strategic. And I think when you look at our network now, and we're up to somewhere between 300 and 400 based on whether the option is exercised, we're at a network size where we really have a very strong competitive position. And if you look at the United States and the value of the IMAX brand, you could use that as an analogy. And I think as you grow a network like that, there are a lot of intangible benefits and I think that's what's the most important out of that deal.

Thank you.

Thank you. The next question comes from Jim Goss of Barrington research. Please go ahead.

Thanks. I have a couple of more philosophical, strategic questions. One is regarding the screen count addition pace you've been maintaining at, say, 110 to 125, at -- do you want -- do you expect you'll need to increase that pace to sustain the same type of percentage growth as you get larger, or do you think at some point you would more likely turn to concentrate on profitability measures rather than footprint growth?

And maybe on a related basis, are you beginning to determine any optimal length of runs for films? You were just talking about China and maybe doing a five to six-day period. But the -- is there a way to maximize the value of tentpoles versus the risk of something not working out as planned? And I'm wondering how those might balance out.

So, Greg will answer the second question.

The first question about profitability, I mean, to be clear, Jim, we're managing it for profitability. We didn't give you this statistic, but for the first month -- six months of last year versus this year we've curt T&E expenses by $1 million. So, that's something we're very focused on and continue to focus on; growth in profitability and growth in cash flow and growth in recurring revenues.

Now, life isn't a straight line. Stuff happens along the way. So, you have opportunities like we did this quarter and we do with laser and we do with expanded JVs, and you decide to reinvest in your business rather than create short-term increases and cash flow and profitability but, over the long-run, there's no question that that's our goal.

On the optimal time for a picture, it's impossible to wrap it up in a bow and say every movie should play for 16 days. There's competitive reasons in terms of release schedule. There are also relationship reasons. We also pay particularly close attention to the films that we differentiate that use our cameras that have IMAX DNA involved in them. I think that you're finding that there are some titles that we can play for up to four weeks and I think there are some titles that we can play for a week.

One of the things that we also are doing -- we talked about the film print costs. Well, one of the reasons we have the film print costs is because we were able to play Iron Man 3 and Star Trek and Man of Steal in all of our film-based theaters, which was really important to us, and we did quite well. Remember, last year several people were upset that Hunger Games and Avengers weren't able to play in those film-based theaters.

So, it's always a tradeoff and what we're trying to do is continue to build the brand and find that proper mix. But, it's a mixture of science and art. It's qualitative and quantitative. It's not purely empirical.

I can appreciate that. Although, just one final thing. I was sort of interested in the statistic you just said that some films would run for five or six-day periods in China. Is there a less of a weekend orientation in viewing patterns there than in the United States, or what are -- it seems like you'd miss a weekend if you did that very often.

No. They always get one or two days in on the weekend. And this is just a period of time where they're getting a handful of movies out as quickly as they can because they have more films that they can take in and they don't want to say no to everything. So, this -- that's not something -- again, as Rich said, it's not something that they do all of the time. This was -- this has been a three-week period where that's what they've been doing and there have been other periods of time where films have played -- Man of Steel played for 2.5, 3 weeks. So again, no hard and fast rules when it comes to release schedules in China.

Alright. Thanks very much.

Michelle, we're running over but I think we have time for one more really quick question.

Okay, thank you. The last question will come from Daniel Ernst of Hudson Square Research. Please go ahead.

Yes, thanks. Good morning. Taking my call.

Two quick questions, if I might. Rich, just looking big picture, given the pace of signings which have been more in China recently, on a global basis have you thought more about what you think the global addressable market for IMAX is now? Is that number moving up?

And then secondly, related to that, given your progress on the home theater front, I wonder if that says anything about your ability to address smaller commercial theaters as a way to also expand your footprint? Thanks.

So, in terms of the global number of addressable markets, we review that on a yearly basis and we're in the middle of that right now. I don't want to -- I don't know the answer, but certainly the direction is up. So -- but I just don't know how much until we do the work.

In terms of smaller theaters as related to home theater, I think you've got to think of them really as two separate markets. I think that the IMAX out of home experience has to really be a wow and we have to really present the right field of view and the right size and the right sound and all the right attributes. And I think we won't go into smaller theaters unless there are unusual circumstances, like if it's a VIP theater, which we have one or two in Russia. That's just not consistent with our brand.

In the home is different, because there we're creating sort of a unique experience in a very sort of controlled environment. And I don't think our belief that that's a place for an IMAX brand extension affects our judgment in terms of where to put our out of home theaters.

So, I guess that's the last question.

I just want to share with you as a final thought that when we signed the Wanda deal yesterday, I really felt that it was a historic moment for IMAX. The combination of extending the leases with AMC, which I think significantly de-risks North America with our substantial growth in China at the same time, I think positions us strategically -- forget about the numbers, but I think it positions us strategically with the Hollywood studios and the local studios, as well as with consumers on a worldwide basis as they -- a force over the long-term that has to be dealt with.

So for example, if you want to show a film in China where we're now doing 13% of the box office and the network's going to either triple or quadruple, I think our value to the various constituencies has become that much greater. And I think that's maybe not an obvious point, but I think it's maybe a very important point.

And then, I think when you add to that the financial implications of a growing network and growing recurring revenues and of global -- of growing cash flows, you can see why we're that excited about it.

And something I rarely do but I should is I really want to thank the whole IMAX organization, because pulling off something like this and bringing us to the level is really an organization-wide effort that everyone played a part in and I just want to thank all of our employees and thank you all.

Thank you. Ladies and gentlemen, this does conclude the conference call for today. You may now disconnect your line and have a great day.