10-Q 1 a2049723z10-q.txt 10-Q SECURITIES AND EXCHANGE COMMISSION WASHINGTON, D.C. 20549 FORM 10-Q (Mark One) [X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES ACT OF 1934 For quarterly period ended March 31, 2001 OR [ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 For the transition period from ___________________ to _____________________ Commission File Number: 333-61433 EPIC RESORTS, LLC (Exact name of registrant as specified in its charter) DELAWARE 23-2888968 (State or other jurisdiction of (I.R.S. employer incorporation or organization) identification no.) 1150 FIRST AVENUE, SUITE 900 19406 KING OF PRUSSIA, PA (Zip Code) (Address of principal executive offices) (610) 992-0100 (Registrant's telephone number, including area code) NOT APPLICABLE (Former name, former address and former fiscal year, if changed since last report) Indicate by check mark whether the registrant: (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes X No As of March 31, 2001, 1,118,000 membership interests of the registrant were outstanding. EPIC RESORTS, LLC INDEX

Epic Resorts, LLC CONSOLIDATED BALANCE SHEETS

3 Epic Resorts, LLC CONSOLIDATED STATEMENTS OF INCOME (UNAUDITED) For the three months ended March 31, 2001 and 2000

4 Epic Resorts, LLC CONSOLIDATED STATEMENTS OF CASH FLOWS (UNAUDITED) For the three months ended March 31, 2001 and 2000

5 EPIC RESORTS, LLC NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS THREE MONTHS ENDED MARCH 31, 2001 AND 2000 1. BASIS OF PRESENTATION: The consolidated financial statements have been prepared by the Registrant, pursuant to the rules and regulations of the Securities and Exchange Commission. Certain information and footnote disclosures normally included in financial statements prepared in accordance with accounting principles generally accepted in the United States of America have been condensed or omitted pursuant to such rules and regulations, although the Registrant believes that the disclosures are adequate to make the information presented not misleading. It is suggested that these consolidated financial statements be read in conjunction with the audited financial statements and the notes thereto included in the Registrant's latest annual report on Form 10-K. In the opinion of the Registrant, all adjustments, consisting only of normal recurring adjustments, necessary to present fairly the consolidated financial position and the consolidated results of its operations and its cash flows, have been included. The results of operations for such interim periods are not necessarily indicative of the results for the full year. 2. NATURE OF BUSINESS: EPIC Resorts, LLC (a sole-member Delaware Limited Liability Company) and its wholly owned subsidiaries (the Company) generate revenue from the sale and financing of vacation points in its resorts. Customers acquire the right to use a fully furnished vacation residence, based upon the number of points purchased in EPIC's Vacation Club, in perpetuity or over an extended period not less than 35 years (Vacation Points). The Company's principal operations consist of (i) acquiring, developing and operating vacation ownership resort locations, (ii) marketing and selling Vacation Points in its resorts, and (iii) providing customer financing to individual purchasers of Vacation Points at its resorts. The Company also generates income from the transient rental of resort accommodations. In January 1999, the Company adopted a vacation club system. The vacation club holds units of each of the Company's resort locations. The units of each resort location are contributed to the club. The club then sells "Vacation Points". Prior to January 1999, the Company sold vacation ownership interests in its resorts. The customer acquired the right to use a fully furnished vacation residence, generally for a one-week period each year. 3. SALES OF NOTES AND MORTGAGES RECEIVABLE: During the three months ended March 31, 2001, EPIC sold $27,077,000 of notes and mortgages receivables as part of its Vacation Ownership Loan Participation Facility ("Receivables Facility"). Under this Receivables Facility, EPIC sells its Vacation Ownership Interest Receivables on a non-recourse basis to EPIC Master Funding Corporation ("EPIC Funding"), a wholly-owned subsidiary which is a qualifying special purpose entity as defined in SFAS No. 125, "Accounting for Transfers and Servicing of Financial Assets and Extinguishments of Liabilities". The Receivables Facility provide for advance rates of 88% of the lesser of (i) unpaid principal balance of the receivables sold or (ii) the market value of such receivables as determined by the financial institution. The Receivable Facility contains a customary provision requiring the substitution of collateral in an equal amount if receivables become 60 days past due. At March 31, 2001, the retained interests were valued by the Company assuming discount rates of 12.5%, including estimated defaults and prepayments applied to the residual cash flows. The Company accounts for this investment as a trading security in accordance with SFAS No. 115, "Accounting for Certain Investments and Debt Securities". The Company records the initial changes in the fair value of the investment subsequent to sales as other financing income, which is a component of gains on sales of receivables and other financing income in the consolidated statements of income. 4. INVESTMENT IN RESIDUAL INTERESTS: The Company's investment in residual interests, which are classified as a trading security consist of retained interests in notes and mortgages receivable 6 sold to others through a special purpose entity and residual interests in the Interest Only Strips related to the notes receivable. The components as of March 31 are as follows:

Gains on sales of receivables and other financing income consist of gains on sales of notes and mortgages receivables, the unrealized gains or losses on the change in fair value of the interest only strips as well as changes in the fair value of the investment in residual interests. In addition, other financing income includes interest income on the Interest Only Strips and the initial increase in fair value on the investment in residual interests subsequent to the sale of notes and mortgage receivable. The components of gains on sales of receivable and other financing income for the months ended March 31 are as follows:

5. SEGMENT AND GEOGRAPHIC INFORMATION: The Company operates in one industry segment, which includes the development, acquisition, marketing, financing, and management of vacation ownership resorts. The Company does not operate outside the United States. The Company's customers are not concentrated in any specific geographic region and no single customer accounts for a significant amount of EPIC's revenue. ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS. This Quarterly Report, and other written reports and oral statements made from time to time by EPIC , may contain "forward-looking statements." All statements that address operating performance, events or developments that management anticipates will occur in the future, including statements related to future sales, profits, expenses, and income, or statements expressing general optimism about future results, are forward-looking statements. In addition, words such as "expects," "anticipates," "intends," "plans," "believes," and "estimates," and variations of such words and similar expressions are intended to identify forward-looking statements. Because forward-looking statements are based on a number of beliefs, estimates and assumptions by management that could ultimately prove inaccurate, there is no assurance that forward-looking statements will prove to be correct. Any number of factors could affect future operations and results, including the following: increasing competition; fluctuations in consumer demand and confidence; fluctuations in costs and expenses; the effectiveness of advertising, marketing and promotional programs; weather conditions that affect the geographic areas where the Company's resorts are located; the effectiveness of the integration of the Company's recently acquired resorts; the timing, quality and completion of construction and development activities at the Company's resorts; the timing and availability of governmental permits and authorizations regarding the Company's resorts; the continued availability and terms of financing; and other general economic conditions, such as the rate of employment, inflation and interest rates. This list of factors is not exclusive. 7 Forward-looking statements are subject to the safe harbors created in the Securities Act of 1933 and the Securities Exchange Act of 1934. The Company undertakes no obligation to update publicly any forward-looking statements, whether as a result of new information, future events or otherwise. BUSINESS HISTORY AND OWNERSHIP EPIC Resorts, LLC, a Delaware limited liability company (the "Company"), was formed in June 1998 to merge with the ownership of the London Bridge Resort and the Daytona Beach Regency and their vacation ownership acquisition and development businesses. London Bridge Resort was acquired in 1986 by London Bridge Resort, Inc., a Delaware corporation wholly owned by Thomas F. Flatley, the Company's President. In April 1996, the Daytona Beach Regency Resort was acquired by Daytona Beach Regency, Ltd., a limited partnership. In connection with the private placement of $130 million aggregate principal amount of the Company's Senior Secured Redeemable Notes due 2005 (the "Notes") in July 1998, Epic Resorts, LLC and certain of its subsidiaries were merged into limited liability companies. Mr. Flatley simultaneously contributed his membership interests in certain of those subsidiaries to the Company. In connection with the issuance of the Notes, the Company acquired four new resorts (Desert Paradise Resort, Scottsdale Links Resort, Palm Springs Marquis Villas and Island Links Resort) and purchased the limited partnership interests in Daytona Beach Regency, Ltd. EPIC'S VACATION OWNERSHIP BUSINESS The Company is a nationwide developer and marketer of vacation ownership resorts located in major tourist destinations. Vacation ownership interests typically entitle the buyer to a fully furnished vacation residence in any one of the Company's resorts based on the number of points purchased in EPIC Vacation Club, a nonprofit corporation operated by the Company (the "Club"). The Club holds units of each of the Company's resorts which are transferred into the Club by each of the Company's operating subsidiaries. The Company converted its operations to this vacation club system in January 1999. Prior to this time, a customer would purchase a one-week interest at one particular resort, and would receive a deed evidencing their purchase. The Company now sells points ("Vacation Points") in the Club, which entitle the purchaser to reserve units at any of the Company's resorts and in increments as short as one day. A customer now has access to all of the Company's resorts, as well as over 1,700 other resorts worldwide through the Company's participation in vacation ownership interest exchange networks. The vacation club system offers the Company's customers greater flexibility in their vacation planning, a wider variety of vacation options, and easier access to the Company's network of resorts. The Company's resorts are located in Las Vegas, Nevada; Scottsdale, Arizona; Palm Springs, California; Daytona Beach, Florida; Lake Havasu City, Arizona; and Hilton Head, South Carolina. The Company marketed and sold its deeded vacation ownership interests and markets and sells its vacation points through both on-site and off-site sales centers. In addition, the Company generates income through the rental of available suites at its resorts. The Company sells Vacation Ownership Interests to purchasers for leisure purposes and not for investment purposes. EPIC VACATION CLUB The Club is a Delaware nonprofit, non stock corporation formed by the Company in 1998. The Club's articles of incorporation provide that it was formed for the specific purpose of owning and managing the real property conveyed to it by the Company and its resort subsidiaries. Purchasers of Club Points ("Purchasers") receive the right to reserve time at any of the resort units conveyed to the Club as well as the right to vote to elect the Club's board members and to vote on major Club matters. The number of votes that each Purchaser has is based on the number of Club Points the Purchaser owns. The Club maintains a reserve, funded from the annual assessments collected from Purchasers, which is used to maintain and upgrade the interiors and furnishings of the resort units, and the exteriors and common areas of the resorts in which the Club owns all of the units. The Club collects maintenance dues from Purchasers based on the 8 number of Vacation Points owned. These dues are intended to cover the Club's operating costs, including condominium association dues at each resort. The vacation club system provides Purchasers with significant flexibility in planning their vacations. Under this system, Purchasers can select vacations according to their schedules, space needs and available Vacation Points. The number of Vacation Points that are required to stay one day at one of the Company's resorts varies depending upon the particular resort, the size of the unit, the season and the day of the week. For example, a Friday or Saturday night stay at a one-bedroom unit may require 1,000 Vacation Points per night off-season and 1,500 Club Points per night in peak season. A midweek stay at the same one-bedroom unit would require fewer Vacation Points. Vacation Points are reissued on an anniversary date basis and any unused Vacation Points may be carried over for one year. A Purchaser may also borrow Vacation Points from their allotment for the next year. The Club has a board of directors that manages its business and affairs. Each of the directors and principal executive officers of the Club are also officers of the Company. The Board must obtain the approval of a majority of the voting power represented to take certain actions, including (i) any incurrence of a capital expenditure exceeding 5% of the Club's budgeted gross expenses during any fiscal year and (ii) the sale of any of the Club's property during any fiscal year, if the aggregate fair market value is in excess of 5% of the Club's budgeted expenses for that year. SALES AND MARKETING The Company focuses its sales and marketing activities on generating a predictable flow of both off-site and on-site prospective purchasers of Vacation Ownership Interests at minimal cost. OFF-SITE SALES CENTERS: The Company currently operates off-site sales centers in Torrance, California; Schaumburg, Illinois, Minnetonka, Minnesota and in Philadelphia, Pennsylvania. The Company opened its fifth center in Detroit, Michigan in the second quarter of 2001 and plans to add its sixth and seventh centers by the end of 2001. The Company currently intends to locate these planned sales centers in major metropolitan areas, which can be conveniently toured during evenings and weekends. These centers, which are leased by the Company, are generally more cost effective because they reduce the need for on-site tours of the Company's resorts and are more easily accessible to the Company's target customers. ON-SITE SALES CENTERS: The Company utilizes a variety of marketing techniques to generate on-site tours, including mini-vacations resulting from telemarketing and targeted mailings, retail center kiosks, in-house marketing to renters, marketing to current owners of Vacation Ownership Interests and referrals. The Company's completed but unsold inventory of resort units also provides additional revenue as well as sales and marketing cost advantages through (i) rental income, (ii) access to a steady source of high quality, low cost, on-site sales tours from rental customers, and (iii) lower mini-vacation marketing costs. The Company's sales representatives are a critical component of its sales and marketing effort, and the Company continually strives to attract, train and retain a dedicated sales force. The Company provides sales instruction and training, which coupled with the sales representative's valuable knowledge of each resort, assists in acquainting prospective customers with the benefits of each resort. The Company's sales staff is required to provide each customer with a written disclosure statement regarding the Vacation Points to be sold prior to the time the customer signs a purchase agreement. This disclosure statement sets forth relevant information regarding ownership of a Vacation Ownership Interest at the resort and must be signed by every purchaser. The Company believes that this information statement contains all material and relevant information a customer requires to make an informed decision regarding the purchase of a Vacation Ownership Interest at one of its resorts, and contributes to its low rates of rescission. At closing, customers are also provided with a toll free customer service phone number to facilitate any additional information requests. To support its marketing and sales efforts, the Company has also developed a computer database to track its vacation ownership marketing and sales programs. Management believes that as the Company's vacation ownership operations grow, this database will become an increasingly significant asset and will enable it to take advantage of less costly marketing and referral opportunities. 9 CUSTOMER FINANCING Approximately 90% of the Company's customers finance their purchase of Vacation Points with the Company. These customers are required to make a down payment of at least 10% of the Vacation Points sales price. The balance is typically financed for a period of seven to ten years at a fixed interest rate. The adequacy of the Company's reserve for loan losses is determined by management and reviewed on a regular basis considering, among other factors, historical frequency of default, loss experience, present and expected economic conditions as well as the quality of receivables. EPIC believes that its financing is attractive to purchasers who find it convenient to handle all facets of the purchase of Vacation Ownership Interests through a single source. In addition, the down payments required by EPIC are similar to those required by banks and mortgage companies that offer this type of credit, when such credit is available. VACATION OWNERSHIP EXCHANGE NETWORKS According to the American Resort Developers Association, the primary reason cited by consumers for purchasing a Vacation Ownership Interest is the ability to exchange such interest for accommodations at other resorts through worldwide exchange networks. Membership in an exchange network allows the owner of a Vacation Ownership Interest at one of the Company's resorts to exchange their occupancy right for a similar right at another participating resort, based upon availability and the payment of a variable exchange fee. A Vacation Ownership Interest can be exchanged by listing the interest as available with the exchange network affiliated with the owner's home resort and requesting occupancy at another participating resort, indicating the preferred resort or geographic area, the size of the unit desired, and the period during which occupancy is desired. The exchange network assigns a rating to each listed Vacation Ownership Interest, which is based upon a number of factors, including the location and size of the unit, the quality of the resort and the time of year during which the exchanging owner's Vacation Ownership Interest is available. The network then attempts to satisfy the exchange request by providing an occupancy right in a participating resort with a similar rating. All of EPIC's resorts are affiliated with Interval International ("II"), one of the leading worldwide vacation ownership exchange companies. Participation in II entitles owners to exchange their annual Vacation Ownership Interests for occupancy at over 1,700 II resorts worldwide. All six EPIC Resort locations have received Five-Star designations from II, the highest designation under II's rating system. II awards this designation to less than 10% of its 1,700 member resorts. RESULTS OF OPERATIONS The following analysis by the management of EPIC Resorts summarizes the significant changes in the results of operations presented in the statements of operations for the three months ended March 31, 2001 and 2000 and presents an analysis of the financial condition of as of March 31, 2001. COMPARISON OF THE THREE MONTHS ENDED MARCH 31, 2001 TO THE THREE MONTHS ENDED MARCH 31, 2000. REVENUES. For the three months ended March 31, 2001, the Company generated total revenues of $42.7 million compared to $37.5 million for the three months ended March 31, 2000, an increase of $5.2 million, or 13.9%. This increase can be attributed to a $5.3 million increase in sales of Vacation Ownership Points to $31.3 million in 2001 from $26.1 million in 2000, an increase of 19.9% sales of Vacation Ownership Points. Vacation Ownership Point sales continue to grow as the Company continues to expand. Resort operations revenue decreased 25.5% to $4.3 million for the three months ended March 31, 2001 from $5.7 million for the comparable period in 2000, as a result of a decrease of $2.3 million from package sales which has been discontinued and an increase of $.9 million of revenue from hotel operations. The Company continues to develop marketing programs to attract guests using print media as well as internet sites. Gains on sales of receivables and other financing income increased to $6.3 million for the three months ended March 31, 2001 from $4.9 million for the comparable prior period. This increase is attributable to the higher volume of sales that have been sold to the receivables facility. 10 Interest income increased 50.0% to $0.3 million for the three months ended March 31, 2001 from $0.2 million for the three months ended March 31, 2000. This increase can be attributed to additional interest being covered by invested cash. Other income decreased 20.0% to $0.4 million for the three months ended March 31, 2001 from $0.5 million for the comparable period in 2000, due to a decrease in other revenue sales, by $.1 million. COST OF SALES. Cost of sales for Vacation Ownership Interests as a percentage of sales of Vacation Ownership Interests decreased to 16.7% for the three months ended March 31, 2001 from 18.3% for the comparable period in 2000. This decrease was attributable to the increase in the average sales price of Vacation Ownership Points at the resorts. RESORT OPERATIONS EXPENSE. Resort operations expense decreased 41.5% to $3.8 million for the three months ended March 31, 2001 from $6.5 million for the comparable period in 2000, reflecting in part decreased expenses to support the package sales. SELLING AND MARKETING. Selling and marketing expenses (including commissions) as a percentage of Sales of Vacation Ownership Points increased to 48.5% for the three months ended March 31, 2001 from 46.3% for the comparable period in 2000. This increase was primarily a result of the marketing costs incurred to generate additional tour flow as well as expenditures relating to the opening of the Detroit Sales Center. GENERAL AND ADMINISTRATIVE. General and Administrative expenses increased to $6.8 million for the three months ended March 31, 2001 from $6.0 million for the comparable period in 2000. The increase in expenses is attributed to establishing the proper support to maintain the Company's growth strategy. As a percentage of revenues, general and administrative expenses decreased to 15.9% for the three months ended March 31, 2001 from 16.1% for the comparable period in 2000. INTEREST EXPENSE. Interest expense increased to $5.2 million for the three months ended March 31, 2001 from $4.7 million for the comparable period in 2000, which reflects the increased indebtedness from the Notes Payable. PROVISION FOR DOUBTFUL ACCOUNTS. Provision for doubtful accounts as a percentage of financed sales of Vacation Ownership Points increased to 3.9% for the three months ended March 31, 2001 from 3.0% for the comparable period in 2000. This decrease is attributed to the Company's continuing review of its Receivables Portfolio and its consistent policy in adjusting for allowances. LIQUIDITY AND CAPITAL RESOURCES The Company generates cash from operations through the sale and financing of membership interests in Epic Vacation Club, resort operations and transient rental of resort accommodations. With respect to the sale of Vacation Ownership Interests, Epic generates cash from operations from customer down payments and third party financing of customer mortgages receivable. The Company expects to generate additional cash flow from its Vacation Ownership Interests Receivable portfolio through receipt of the spread between the yield on such portfolio and the cost of its receivables facility upon completion of securitizations of such receivables. The Company requires funds to finance the acquisition and development of resorts and related inventory, and to finance customer purchases of Vacation Ownership Interests. These funds are provided by Epic's non-recourse vacation ownership loan participation facility. Under this receivables facility, Epic sells Vacation Ownership Interest receivables to a limited purpose, bankruptcy remote subsidiary of Epic, and a financial institution purchases from the subsidiary participation interests in such receivables. The proceeds from the sale of the participation interests are paid to Epic as consideration for the receivables sold to the subsidiary. The receivables facility provides for advance rates up to 88% of the lesser of (i) unpaid principal balance of the receivables sold to the subsidiary or (ii) the market value of such receivables as determined by the financial institution. The receivables facility provides non-recourse interim funding for the Vacation Ownership Interests 11 receivables pending their permanent funding through receivables securitization transactions. The Company is in the process of negotiating with a financial institution a new non-recourse $75 million vacation ownership loan participation facility. Under this facility, the Company would sell its vacation points receivables to a limited purpose, bankruptcy remote subsidiary of the Company, which would then be pledged to the financial institution as security for the funding used by the subsidiary to acquire the receivables. The Company may from time to time repurchase the Notes in the open market and in privately negotiated transactions. The Company may, in the future, require additional credit facilities or issuances of other corporate debt or equity securities in connection with property acquisitions or otherwise. Any debt incurred or issued by the Company may be secured or unsecured, at fixed or variable rates of interest and may be subject to such terms as management deems prudent. The Company's credit facilities and the indenture for the Notes include customary conditions to funding, eligibility requirements for collateral, certain financial and other affirmative and negative covenants, including, among others, limits on the incurrence of indebtedness, covenants concerning net worth and fixed charge coverage requirements and debt to equity ratios and events of default. ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK The Company is not exposed to interest rate risk in the near term, as substantially all of the Company's indebtedness is at fixed rates (principally the $130 million of senior secured notes which bear interest at a fixed rate of 13.0%). The Company does not maintain a trading account for any class of financial instrument, has never purchased any derivative instruments and is not directly subject to any foreign currency exchange or commodity price risk. The Company calculates its gain on sales based on a floating interest rate as well as other factors including, but not limited to the coupon rate, remaining contractual life of the receivables sold and assumption made by the Company regarding discount rates. The Company believes its assumptions are appropriate however the fair market value of the residual interests would be impacted by a hypothetical change in interest rates of 1% by $2.6 million. The Company recalculates the fair value of the instrument quarterly and adjusts the instrument accordingly. 12 PART II. OTHER INFORMATION ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K (a) The following Exhibits are included in this Quarterly Report on Form 10-Q: (b) No reports on Form 8-K were filed during the quarter ended March 31, 2001. 13 SIGNATURES Pursuant to the requirements of the Securities Exchange Act of 1934, the Registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized. EPIC RESORTS, LLC Dated: May 15, 2001 By: /s/ Scott J. Egelkamp ------------ ----------------------- Scott J. Egelkamp Vice President and Chief Financial Officer Duly Authorized Principal Financial Officer 14

EPIC RESORTS LLC 10-Q