CHDN

Churchill Downs Inc. 10-Q Summary: Quarter Ended June 30, 2007

Business Context and Reporting Period

This Form 10-Q covers the quarterly period ended June 30, 2007, for Churchill Downs Inc., a leading operator of Thoroughbred horse racing and pari-mutuel wagering facilities. The company operates major racetracks including Churchill Downs (home of the Kentucky Derby), Arlington Park, Calder Race Course, and Fair Grounds. The reporting period includes the second quarter, which typically generates the majority of annual operating income due to the Kentucky Derby and Kentucky Oaks.

Key Financial Metrics

Material Changes vs. Prior Period

• Revenue Growth: Net revenues increased 4% ($6.7 million) for the quarter and 9% ($18.4 million) for the six months compared to the prior year. Growth was driven by the launch of the twinspires.com account wagering platform, the acquisition of ATAB and BRIS, and increased admission/seating revenues for the 2007 Kentucky Derby.
• Profitability Decline: Despite revenue growth, operating profit decreased 17% ($9.9 million) for the quarter and 18% ($7.6 million) for the six months. This was primarily due to the absence of $10.1 million in insurance recoveries recognized in the prior year related to Hurricanes Katrina and Wilma, as well as increased expenses from new acquisitions and ventures.
• Balance Sheet Shifts: Total assets increased 11% to $606.5 million, driven by a $53.5 million increase in goodwill and $24.5 million in intangible assets from the ATAB/BRIS acquisition. Long-term debt increased by $55.6 million to fund the acquisition.
• Discontinued Operations: The company sold its 62% interest in Hoosier Park in March 2007. Results for discontinued operations showed a net loss of $0.1 million for the quarter and a net gain of $0.1 million for the six months, compared to losses in the prior year.

Guidance, Outlook, and Risks

• Acquisitions and Ventures: On June 11, 2007, the company acquired ATAB and BRIS for $80 million plus potential earn-outs. It also launched twinspires.com and formed TrackNet Media Group and HRTV, LLC with Magna Entertainment Corporation to expand content distribution and wagering.
• Regulatory Environment: Significant risks remain regarding federal and state gaming laws. The company is monitoring the WTO dispute regarding internet wagering and potential U.S. legislative changes. In Florida, a referendum on slot machines at pari-mutuel facilities in Miami-Dade County is scheduled for January 2008, with the company anticipating $3–5 million in support costs. In Louisiana, slot machine operations at Fair Grounds are expected to commence in the second half of 2007.
• Legal Proceedings: Litigation with the Jockeys' Guild was settled in March 2007 with all claims dismissed. The company faces potential intellectual property litigation regarding account wagering platforms.
• Liquidity: Management anticipates cash flows from operations will be adequate to fund operations and capital expenditures. The company amended its credit facility in May 2007, reducing the commitment to $120 million but retaining the option to increase it to $170 million.

Investor Verification Checklist

• Acquisition Integration: Verify the financial performance and integration progress of the newly acquired ATAB and BRIS assets and the twinspires.com platform.
• Regulatory Outcomes: Monitor the results of the January 2008 Florida slot machine referendum and the status of slot machine approvals in Louisiana and Illinois.
• Debt Covenants: Review compliance with the amended credit facility covenants, particularly the leverage ratio and the $100 million cap on Florida gaming investments.
• Insurance Recoveries: Note that prior-year comparisons are skewed by one-time insurance recoveries; future periods will not include these non-recurring gains.
• Discontinued Operations: Confirm the final accounting treatment and any remaining liabilities associated with the sale of Hoosier Park.