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EX-31 - 302 CERTIFICATION OF RICK WALL - CASTLE GROUP INCex31.htm
EX-32 - 906 CERTIFICATION OF RICK WALL - CASTLE GROUP INCex32.htm

UNITED STATES SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

FORM 10-Q


 [X] QUARTERLY REPORT UNDER SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

For the quarterly period ended September 30, 2013

[  ] TRANSITION REPORT UNDER SECTION 13 OR 15(d) OF THE EXCHANGE ACT

For the transition period from ____________ to____________

Commission File No. 000-23338

THE CASTLE GROUP, INC.

(Exact name of Registrant as specified in its charter)


 

 

Utah

99-0307845

(State or Other Jurisdiction of incorporation or organization)

(I.R.S. Employer Identification No.)


500 Ala Moana Boulevard, 3 Waterfront Plaza, Suite 555

Honolulu, Hawaii 96813

(Address of Principal Executive Offices)


(808) 524-0900

(Registrant’s Telephone Number)


N/A

(Former name, former address and former fiscal year,

if changed since last report)


Indicate by check mark whether the Registrant has (1) filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 (the “Exchange Act”) during the past 12 months (or for such shorter period that the Registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days.


Yes [X]   No [  ]

 

Indicate by check mark whether the Registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files).


Yes [  ] No [  ]


Indicate by check mark whether the Registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, or a smaller reporting company. See the definitions of “large accelerated filer,” “accelerated filer” and “smaller reporting company” in Rule 12b-2 of the Exchange Act. (Check One):


Large accelerated filer [  ]      Accelerated filer [  ]       Non-accelerated filer [  ]      Smaller reporting company [X]


Indicate by check mark whether the Registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act).


Yes [  ]   No [X]



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APPLICABLE ONLY TO ISSUERS INVOLVED IN BANKRUPTCY PROCEEDINGS DURING THE PRECEDING FIVE YEARS


Indicate by check whether the Registrant filed all documents and reports required to be filed by Section 12, 13 or 15(d) of the Exchange Act subsequent to the distribution of securities under a plan confirmed by a court.  


Not applicable.


APPLICABLE ONLY TO CORPORATE ISSUERS


Indicate the number of shares outstanding of each of the Registrant’s classes of common equity, as of the latest practicable date:


November 14, 2013 - 10,026,392 shares of common stock.











































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PART I - FINANCIAL INFORMATION

Item 1.  Financial Statements.


THE CASTLE GROUP INC.

CONDENSED CONSOLIDATED BALANCE SHEETS

SEPTEMBER 30, 2013 & DECEMBER 31, 2012

UNAUDITED

ASSETS

 

SEP 30, 2013

DEC 31, 2012

Current Assets

 

 

  Cash and cash equivalents

 $               505,078

 $               781,662

  Accounts receivable, net of allowance for bad debts

               2,455,229

               2,047,772

  Deferred tax asset

                  431,000

                  431,000

  Note receivable, current portion

                    25,000

                    40,000

  Prepaids and other current assets

                  408,916

                  298,429

Total Current Assets

               3,825,223

               3,598,863

Property plant & equipment, net

               7,293,830

               7,380,379

Goodwill

                    54,726

                    54,726

Deposits and other assets

                  225,764

                  242,259

Note receivable

                  188,825

                  185,000

Investment in limited liability company

                  481,480

                  459,705

Deferred tax asset

                  972,337

               1,069,695

 

 

 

TOTAL ASSETS

 $          13,042,185

 $          12,990,627

 

 

 

LIABILITIES AND STOCKHOLDERS' EQUITY (DEFICIT)

Current Liabilities

 

 

  Accounts payable

 $            2,454,516

 $            2,665,431

  Payable to related parties

                    79,148

                  112,681

  Deposits payable

                  642,726

                  638,156

  Current portion of long term debt

                  212,758

                  280,054

  Current portion of long term debt to related parties

                             -

                      6,250

  Accrued salaries and wages

               1,545,299

               1,213,839

  Accrued taxes

                    25,912

                    67,770

  Other current liabilities

                    48,421

                    18,514

Total Current Liabilities

               5,008,780

               5,002,695

Non Current Liabilities

 

 

  Long term debt, net of current portion

               4,232,661

               4,496,447

  Notes payable to related parties, net of current portion

                  117,316

                  132,421

  Other long term obligations, net

               3,469,123

               3,443,494

Total Non Current Liabilities

               7,819,100

               8,072,362

Total Liabilities

             12,827,880

             13,075,057

Stockholders' Equity (Deficit)

 

 

  Preferred stock, $100 par value, 50,000 shares authorized, 11,050

               1,105,000

               1,105,000

    shares issued and outstanding in 2013 and 2012, respectively

 

 

  Common stock, $.02 par value, 20,000,000 shares authorized, 10,026,392

                  200,529

                  200,529

    shares issued and outstanding in 2013 and 2012, respectively

 

 

  Additional paid in capital

               4,574,004

               4,423,984

  Retained deficit

             (5,719,305)

             (5,830,379)

  Accumulated other comprehensive income (loss)

                    54,077

                    16,436

Total Stockholders' Equity (Deficit)

                  214,305

                  (84,430)

 

 

 

TOTAL LIABILITIES AND STOCKHOLDERS' EQUITY (DEFICIT)

 $          13,042,185

 $          12,990,627

 

 

 

 

The accompanying notes are an integral part of these condensed consolidated financial statements


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THE CASTLE GROUP INC.

CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS AND COMPREHENSIVE INCOME

THREE AND NINE MONTHS ENDED SEPTEMBER 30, 2013 & 2012

UNAUDITED

 

 

 

 

 

 

Three Months Ended Sep 30

Nine Months Ended Sep 30

 

2013

2012

2013

2012

Revenues

 

 

 

 

  Revenue attributed from properties

$           3,153,178

$           2,888,388

 $          9,119,549

 $          8,824,777

  Management & Service

             2,905,098

             2,682,844

             8,958,409

             8,114,998

  Other Revenue

                       100

                       300

                  29,067

                       922

Total Revenues

             6,058,376

             5,571,532

           18,107,025

           16,940,697

 

 

 

 

 

Operating Expenses

 

 

 

 

  Attributed property expenses

             2,858,516

             2,600,889

             8,195,635

             7,851,523

  Payroll and office expenses

             2,899,101

             2,681,600

             8,863,411

             8,204,959

  Administrative and general

                107,273

                  92,830

                388,167

                355,613

  Depreciation

                  55,944

                  56,242

                166,049

                169,445

Total Operating Expense

             5,920,834

             5,431,561

           17,613,262

           16,581,540

Operating Income

                137,542

                139,971

                493,763

                359,157

Foreign Currency Transaction Gain (Loss)

              (219,735)

              (142,008)

                (25,629)

              (234,860)

Investment income

                           -

                  28,000

                  37,000

                159,145

Gain on sale of investment and contract

                           -

                           -

                           -

                395,000

Interest Expense

                (92,209)

                (97,302)

              (284,799)

              (287,304)

Income (Loss) before taxes

              (174,402)

                (71,339)

                220,335

                391,138

Income tax provision

                (18,139)

                (33,862)

              (109,261)

              (256,829)

Net Income (Loss)

              (192,541)

              (105,201)

                111,074

                134,309

 

 

 

 

 

 

 

 

 

 

Other Comprehensive Income

 

 

 

 

  Foreign currency translation adjustment

                200,445

                115,215

                  37,641

                195,892

Total Comprehensive Income

 $                 7,904

 $               10,014

 $             148,715

 $             330,201

 

 

 

 

 

 

 

 

 

 

Earnings Per Share

 

 

 

 

  Basic

 $                 (0.02)

 $                 (0.01)

 $                   0.01

 $                   0.01

  Diluted

 $                 (0.02)

 $                 (0.01)

 $                   0.01

 $                   0.01

Weighted Average Shares

 

 

 

 

  Basic

           10,026,392

           10,026,392

           10,026,392

           10,026,392

  Diluted

           10,026,392

           10,026,392

10,026,392     

           10,026,392

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

The accompanying notes are an integral part of these condensed consolidated financial statements




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THE CASTLE GROUP INC.

CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS

NINE MONTHS ENDED SEPTEMBER 30, 2013 & 2012

UNAUDITED

 

 

 

 

 

 

 

2013

2012

Cash Flows from Operating Activities

 

 

  Net income

 $             111,074

 $             134,309

  Adjustments to reconcile net income to net cash from

 

 

     operating activities:

 

 

  Depreciation

                166,048

                169,445

  Non cash interest expense

                150,020

                           -

  Foreign exchange loss on guarantor obligation

                  25,629

                234,860

  Investment income

                (21,775)

              (159,143)

  Deferred taxes

                  97,358

                256,829

  (Increase) decrease in:

 

 

    Accounts receivable

              (507,234)

                  50,305

    Other current assets

              (109,532)

              (188,543)

    Customer advance deposits

                    4,223

                  86,629

    Notes Receivable

                  11,175

              (225,000)

    Deposits and other assets

                  17,932

              (215,740)

  Increase (decrease) in:

 

 

    Accounts payable and accrued expenses

                186,757

              (359,745)

Net Change From Operating Activities

                131,675

              (215,794)

 

 

 

Cash Flows from Investing Activities

 

 

  Purchase of assets

                (26,155)

                  (8,229)

  Sale of ownership in hotel

                           -

                180,000

Net Change from Investing Activities

                (26,155)

                171,771

 

 

 

Cash Flows from Financing Activities

 

 

  Proceeds from notes

                           -

                150,000

  Payments on notes to related parties

                  (3,011)

                  (4,686)

  Payments on notes

              (381,331)

              (577,735)

Net Change from Financing Activities

              (384,342)

              (432,421)

 

 

 

Effect of foreign currency exchange rate on changes in cash and cash equivalents

                    2,238

                    1,398

 

 

 

Net Change in Cash and Cash Equivalents

              (276,584)

              (475,046)

Beginning Balance

                 781,662

                710,487

Ending Balance

 $              505,078

 $              235,441

 

 

 

Supplementary Information

 

 

 Cash Paid for Interest

 $           (125,980)

 $            (277,962)

 Cash Paid for Income Taxes

 $             (11,903)

 $                         -

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

The accompanying notes are an integral part of these condensed consolidated financial statements



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Notes to Condensed Consolidated Financial Statements:


Summary of Significant Accounting Policies


Organization


The Castle Group, Inc. was incorporated under the laws of the State of Utah on August 21, 1981. The Castle Group, Inc. operates in the hotel and resort management industry in the State of Hawaii and in New Zealand under the trade name “Castle Resorts and Hotels.”  The accounting and reporting policies of The Castle Group, Inc. (the “Company” or “Castle”) conform with U.S. generally accepted accounting principles and practices within the hotel and resort management industry.


Principles of Consolidation


The condensed consolidated financial statements of the Company include the accounts of The Castle Group, Inc. and its wholly-owned subsidiaries, Hawaii Reservations Center Corp., HPR Advertising, Inc., Castle Resorts & Hotels, Inc., Castle Resorts & Hotels Thailand Ltd., NZ Castle Resorts and Hotels Limited (a New Zealand Corporation), and NZ Castle Resorts and Hotels’ wholly-owned subsidiary, Mocles Holdings Limited (a New Zealand Corporation).  All significant inter-company transactions have been eliminated in the condensed consolidated financial statements.


Note 1 Basis of Presentation


The accompanying condensed consolidated financial statements have been prepared without audit, pursuant to the rules and regulations of the Securities and Exchange Commission.  Certain information and disclosures normally included in financial statements prepared in accordance with U.S. generally accepted accounting principles have been condensed or omitted.  In the opinion of management, the accompanying interim financial statements contain all adjustments, consisting of normal recurring accruals, necessary for a fair presentation.  The results of operations for the three and nine month periods ended September 30, 2013, are not necessarily indicative of the results for a full-year period as the tourism industry that the Company relies on is highly seasonal.  It is suggested that these financial statements be read in conjunction with the financial statements and notes thereto included in Castle’s most recent Annual Report on Form 10-K.


Revenue Recognition


The Company recognizes revenue from the management of resort properties according to terms of its various management contracts.


The Company has two basic types of agreements, a “Gross Contract” and a “Net Contract”.  


Under a “Gross Contract” the Company records revenue which is based on a percentage of the gross rental proceeds received from the rental of hotel or condominium units.   The Company pays the remaining gross rental proceeds to the owner of the rental unit.  The Company only records the difference between the gross rental proceeds and the amount paid to the owner of the rental unit as “Revenue Attributed from Properties.”  Under this arrangement, the Company is responsible for all of the operating expenses for the hotel or condominium unit.  The Company records the expenses of operating the rental program at the property covered by the agreement. These expenses typically include housekeeping, food & beverage, maintenance, front desk, sales & marketing, advertising and all other operating costs at the property covered by the agreement and are recorded as “Attributed Property Expenses”.  


Under a “Net Contract”, the Company receives a management fee that is based on a percentage of the gross rental proceeds received from the rental of hotel or condominium units. Under this arrangement, the owner of the hotel or condominium unit is responsible for all of the operating expenses of the rental program covering the owner’s unit and in addition to the percentage of gross rental proceeds the Company typically receives an incentive management fee based on the net operating profit of the covered property. Additionally, we employ on-site personnel to provide services such as housekeeping, maintenance and administration to property owners under our management agreements and for such services the Company recognizes revenue in


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an amount equal to the expenses incurred.  Revenues received under the net contract are recorded as Management and Service Income.  Under a Net Contract, the Company does not record the operating expenses of the property covered by the agreement, other than the personnel costs mentioned above.

The difference between the Gross and Net contracts is that under a Gross Contract, all expenses, and therefore the ownership of any profits or the covering of any operating loss, belong to and is the responsibility of the Company; under a Net Contract, all expenses, and therefore the ownership of any profits or the covering of any operating loss belong to and is the responsibility of the owner of the property.  


Under both types of agreements, revenues are recognized after services have been rendered. A liability is recognized for any deposits received for which services have not yet been rendered.  

 

Note 2  New Accounting Pronouncements


From time to time, new accounting pronouncements are issued by FASB (Financial Accounting Standards Board) that are adopted by the Company as of the specified effective date.  If not discussed, management believes that the impact of recently issued standards, which are not yet effective, will not have a material impact on the Company’s consolidated financial statements upon adoption.


Note 3 Foreign Currency Transaction Gain / Loss


As part of the Company’s purchase of real estate in New Zealand, the Company has guaranteed an amount of up to NZ$4,201,433 (US$3,018,000) to the seller of the real estate and the Company recorded this guaranty as “Other Long Term Obligations” on its balance sheet.  The loan issued upon the purchase of the New Zealand real estate is payable in New Zealand dollars.  Due to the fluctuations in the exchange rate of the New Zealand dollar against the US dollar, the obligation has been increased to US$3,469,123 at September 30, 2013.  For the three months ended September 30, 2013 and 2012, the Company recorded exchange losses of $219,735 and $142,008, respectively; for the nine months ended September 30, 2013 and 2012, the Company recorded exchange losses of $25,629 and $234,860, respectively.  These losses were offset by foreign currency translation adjustment gains of $200,445 and $115,215 for the three months ended September 30, 2013 and 2012, respectively, and gains of $37,641 and $195,892 for the nine months ended September 30, 2013 and 2012, respectively.


Note 4 Income Taxes


Income tax expense reflects the expense or benefit only on the Company’s domestic taxable income. Income tax expense and benefit from the Company’s foreign operations are not recognized as they have been fully reserved.


Note 5 Equity-Based Compensation


None issued during the nine months ended September 30, 2013 or 2012.


Item 2.  Management’s Discussion and Analysis of Financial Condition and Results of Operation.


Forward Looking Statements


Statements made in this Quarterly Report of the Castle Group, Inc. (“Castle” or the “Company”) which are not purely historical are forward-looking statements with respect to the goals, plan objectives, intentions, expectations, financial condition, results of operations, future performance and business of the Company, including, without limitation, (i) Castle’s ability to raise capital, and (ii) statements preceded by, followed by or that include the words “may,” “would,” “could,” “should,” “expects,” “projects,” “anticipates,” “believes,” “estimates,” “plans,” “intends,” “targets” or similar expressions.


Forward-looking statements involve inherent risks and uncertainties, and important factors (many of which are beyond the



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Company’s control) that could cause actual results to differ materially from those set forth in the forward-looking statements, including the following, general economic or industry conditions, nationally and/or in the communities in which the Company conducts business, changes in the interest rate environment, legislation or regulatory requirements, conditions of the securities markets, the Company’s ability to raise capital, changes in accounting principles, policies or guidelines, financial or political instability, acts of war or terrorism, and other economic, competitive, governmental, regulatory and technical factors affecting Castle’s operations, products, services and prices.


Factors that may affect forward-looking statements include a wide range of factors that could materially affect future developments and performance, including the following: changes in company-wide strategies, which may result in changes in the types or mix of businesses in which Castle is involved or chooses to invest; changes in U.S., global or regional economic conditions, changes in U.S. and global financial and equity markets, including significant interest rate fluctuations, which may impede Castle’s access to, or increase the cost of, external financing for its operations and investments; increased competitive pressures, both domestically and internationally, legal and regulatory developments, such as regulatory actions affecting environmental activities, the imposition by foreign countries of trade restrictions and changes in international tax laws or currency controls; adverse weather conditions or natural disasters, such as hurricanes and earthquakes, and labor disputes, which may lead to increased costs or disruption of operations.  This list of factors that may affect future performance and the accuracy of forward-looking statements are illustrative, but by no means exhaustive.  Accordingly, all forward-looking statements should be evaluated with the understanding of their inherent uncertainty.


Plan of Operation


Principal products or services and their markets


General


Castle is a hospitality and hotel management company that prides itself on its ability to be both “Flexible and Focused,” which is the Company’s operations motto.  Flexible, to meet the specific needs of property condo owners at the properties that it manages; and focused, in its efforts to achieve enhanced rental income and profitability for those owners.  Castle earns its revenues by providing several types of services to property owners including, hotel and resort management and operations; reservations staffing and operations; sales and marketing; and accounting. In addition, Castle provides design services to properties that are furnishing, refurnishing or remodeling, as well as, pre-opening technical services for new hotel and resort properties being planned or under construction.  Castle’s revenues are derived primarily from two sources: (1) the rental of hotel rooms and condominium accommodations; and food and beverage sales at the properties it manages and; (2) fees paid for services it provides to property owners.  Castle also derives revenues from commissions and incentive payments, based on sales and performance criteria at each property.


Marketing Strategy


Most of our marketing efforts are focused towards acquiring and retaining guests for the properties we manage. Castle does not own any hotels or resorts; however, it has made real estate investments in the properties that it manages in Hilo, Hawaii and New Zealand.  Marketing is done through a variety of distribution channels including direct internet sales, wholesalers, online and traditional travel agencies, and group tour operators.  Unlike many other hotel and resort operators, we do not market the properties we manage under the Castle brand.  Instead of emphasizing the “Flag” or “Chain” name, Castle’s strategy is to promote the name and reputation of the individual properties under management as we believe that “one standard does not fit all”. We believe that this allows the consumer to better choose the specific type of vacation experience desired based upon the specific attributes of the property selected.


Our website (www.CastleResorts.com) offers state-of-the-art functionalities, user-friendly navigation, interactive features and

rich content, while offering attractive rates and a travel booking engine that supports a dynamic pricing model which maximizes

revenues for all of our properties under management.  We intend to continue to invest in optimizing our on-line presence directed specifically towards our own website, since revenue derived through our own branded website yields a higher margin utilizing



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retail rates. Castle supports its online presence with its own full service, reservation call center that provides a wide range of services from tour reservation processing and rooms control, to handling group bookings.  The reservation center electronically connects resort property inventory and rates to the four major Global Distribution Systems (“GDS”). This connectivity displays rates and inventory of Castle’s properties to over 500,000 travel agents worldwide as well as Internet connectivity to over 1,200 travel websites worldwide.


For customer convenience, we offer direct to consumer online booking reservations of guest rooms at resort and condominium properties under contract and also vacation packages with attractions and activities related to our hotels and condominiums through Castle’s interactive web site at www.CastleResorts.com.  


Diversity


Castle has a diverse portfolio of properties located in desired island resort destinations throughout the Pacific Region. We represent hotels, resort condominiums, and lodging accommodations throughout Hawaii, as well as in Saipan and New Zealand.


In Hawaii, Castle represents properties on all of the five major Hawaiian Islands of Oahu (Waikiki), Maui, Kauai, Molokai and Hawaii (Big Island).  This allows customers the option to island-hop, and provides Castle cross-selling opportunities.  Our Honolulu headquarters serves as the epicenter for our international operations in Saipan and New Zealand.  Our diverse destinations offer customers the opportunity to discover new experiences and varying geographic areas and cultures.


Castle offers a wide range of accommodations at various price points from exclusive private villas, full-service all-suites hotels, and oceanfront resort condominiums to modestly priced hotels with hundreds of guest rooms.  Our collection of all-suites condominium resorts, hotels, lodges and vacation rentals allows customers to select the best accommodation to suit their individual style and budget.    


Our ability to deliver consistent financial returns to our property owners demonstrates Castle’s competency in managing and marketing a wide range of accommodations to our customers via multiple channels of distribution.  


Brand Strategy


Castle does not brand the properties under its management.  Each property Castle manages is individually marketed in order to extract maximum value from its unique strengths.  Our strategy is that we do not promote Castle as a brand name but instead, we focus on our customers, the owners of the properties we manage.  As Castle represents a diverse range of properties, its brand strategy is that one size does not fit all.  The Castle brand stays in the background and our focus is on marketing the uniqueness of each property, while satisfying the needs and expectations of our owners.  Each property we manage maintains its own brand identity and personality, while utilizing the Castle advantage of our powerful marketing resources, channel distribution, resort management expertise, industry partnerships, and networks.


Castle’s brand strategy is one of the areas that clearly differentiate us from the high profile branded hospitality companies. When a hotel owner or developer is considering contracting a large worldwide hospitality company for possible hotel management, there are several considerations that must be assessed.  With major worldwide brands, usually come the high costs that the owner must bear to sustain the expensive marketing and operational expense that the brand demands to offset their marketing costs. The owner may also have to make a substantial investment in the property in order to fit into the “cookie cutter” mold that the brand desires.  There are also some tangible differences from the guest’s or customer’s perspective.  

 

Castle markets each property with its own independent brand identity and deploys customized marketing, operational and service

programs to fit the specific demographics attracted to each of our properties.  Through our individual property brand building efforts, we begin the process of positioning each of our resort brands to our key market segments, niche targeted customers and distribution channels.



9





We do not flag our properties with the Castle name.  The advantages of doing so are several.  There is a high demand for the independent smaller boutique hotels and condominiums, as travelers favor a more individualized and unique travel experience. This ongoing trend towards smaller, independent hotels, as opposed to the familiar chains, is not only occurring in Hawaii, but is also seen throughout the world tourism marketplace.  This increased demand is fueled by the following traveler’s expectations:  


· Travelers seek individualized recognition, attention, and service.


· Guests desire hotel and condominium accommodations that impart a sense of place and provide a unique, hospitable guest experience.


· Customers demand differing quality and personalized service and providing this creates high customer loyalty and repeat business.  


· Customers seek Hawaii due to the feeling of “Ohana”, or family, experiencing the unique feeling of Aloha imparted by the people of Hawaii.  


Marketing Programs and Promotions


Castle has implemented numerous marketing programs and promotions directed towards both the consumer and trade markets to generate incremental revenue and market loyalty for the individual properties.  We have developed a wide range of programs designed specifically to reflect the unique attributes of each of our resort properties, while also providing various incentives.  At any given time, we have a number of ongoing marketing programs and promotions in place, some of which are seasonal to drive incremental room night revenues during valley or shoulder periods and some of which are ongoing throughout the year.


Growth Strategy


The majority of the properties presently managed by Castle are located within the state of Hawaii.  Significant opportunities for Castle to obtain additional contracts within the State of Hawaii are also available to us due to a myriad of factors that include sales of properties, foreclosures, underperformance, and dissatisfaction with the current management of our competitors.  In addition, Castle has a presence in New Zealand, while at the same time keeping the option to strategically expand operations into Thailand and Guam.  We believe that there are significant opportunities to expand Castle’s operations both in the markets it currently serves, as well as other Pacific Basin and Asian vacation destinations.


As part of Castle’s strategies to secure long term, multi-year management contracts, from time to time, we have found it advantageous to purchase or lease selected real property within a resort or condominium project.  This occurred in 2004, when

Castle’s wholly owned subsidiary, NZ Castle Resorts and Hotels Limited, entered into an agreement to purchase all of the shares of Mocles Holdings Limited (“Mocles”), a New Zealand Corporation.  Mocles owns the Podium levels (“Podium”) of the Spencer on Byron Hotel in Auckland, New Zealand, which includes the front desk, restaurant, bar, ballroom, board room, conference rooms, back of the house facilities and other areas necessary for the hotel’s operation.  Through our ownership of the Podium and a ten year management contract for the Spencer on Byron hotel, which we signed in February 2012, Castle is assured of ongoing revenues in future years from this property.


In 2010, we acquired a 7% common series ownership interest in one of the hotels managed by the Company and in 2011, the Company acquired a minority interest in a Waikiki hotel, which was subsequently sold at a gain in the first quarter of 2012.


In addition to seeking new hotel and resort condominium management contracts, we will continue to seek investment opportunities with hotel developers and owners.


Management’s Discussion and Analysis of Financial Condition and Results of Operations


Certain statements contained in “Management’s Discussion and Analysis of Financial Condition and Results of Operations” and


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“Plan of Operation” including statements regarding the anticipated development and expansion of Castle’s business, the intent, belief or current expectations of the performance of Castle and the products and/or services it expects to offer and other statements contained herein regarding matters that are not historical facts, are “forward-looking” statements.  Because such statements include risks and uncertainties, actual results may differ materially from those expressed or implied by such forward-looking statements.  Factors that could cause actual results to differ materially from those expressed or implied by such forward-looking statements include, but are not limited to, the factors set forth in “Management’s Discussion and Analysis of Financial Condition and Results of Operations” and “Plan of Operation.”


Revenues


Total Revenues for the quarter ended September 30, 2013 increased by 9% to $6,058,376 from $5,571,532 in the prior year.  The increase is attributed to a strong market for Hawaii tourism during the first two months of our third quarter, as well as the Company adding a Maui property on a Gross Contract to its portfolio on September 1, 2013.  Total revenues for the nine months ended September 30, 2013 increased by 7% to $18,107,025 from $16,940,697 for the nine months ended September 30, 2012.  The increase for the nine months is attributed to the especially strong first quarter experienced in our domestic markets driven by higher average room rates.  The tourism industry in Hawaii has experienced a resurgence in 2013 which resulted in the Company experiencing an increase in REVPAR (Revenue per Available Room) by 11% for the nine months ended September 30, 2013 as compared to the prior year.


Revenues Attributed from Properties increased from $2,888,388 to $3,153,178, for the three months ended September 30, 2013 compared to 2012.  For the nine months ended September 30, 2013, Revenues Attributed from Properties increased by 3%, to $9,119,549 from $8,824,777 for the nine months ended September 30, 2012.  Management and Service Revenues for the three months ended September 30, 2013 increased 8%, to $2,905,098 from $2,682,844 for the quarter ended September 30, 2012.  For the nine months ended September 30, 2013, Management and Service Revenues increased by 10%, to $8,958,409 from $8,114,998 for the nine months ended September 30, 2012.  Again, the increase for the nine month period is attributed to the especially strong first quarter and an 11% increase in REVPAR.

 

The Company recorded investment income of $0 and $28,000, for quarters ended September 30, 2013 and 2012, respectively, and investment income of $37,000 and $159,145 for the nine months ended September 30, 2013 and 2012, respectively, which represents the Company’s 7% share of the income from the limited liability company that owns one of the hotels managed by the Company.  The decrease in investment income is due to the property being under extensive renovations beginning in June of 2013 with an expected completion in November 2013.


During the quarter ended March 31, 2013, the Company recorded $27,902 included in Other Revenue for a termination fee received from a property that was sold in 2011, which accounted for the increase in Other Revenue from $922 to $29,067 for the nine months ended September 30, 2013 as compared to the prior year.


During the first quarter of 2012, the Company also sold its 2% ownership share in another property located in Hawaii and recorded a gain on the sale of $170,000.  During the second quarter of 2012, the Company sold one of its management contracts and recorded a gain of $225,000.


Guaranty


As part of the Company’s purchase of real estate in New Zealand, the Company has guaranteed an amount of up to $3,018,000 to the seller of the real estate and the Company recorded this guaranty as “Other Long Term Obligations” on its balance sheet. The loan issued upon the purchase of the New Zealand real estate is payable in New Zealand dollars.  Due to the strengthening of the New Zealand dollar against the US dollar, when comparing the exchange rates for 2004 and September 30, 2013, the obligation has increased to $3,469,123 as of September 30, 2013.  Due to the fluctuation in the exchange rate between the New Zealand and US dollar, the Company recorded exchange losses of $219,735 and $142,008, for the three months ended September 30, 2013 and 2012 respectively; for the nine months ended September 30, 2013 and 2012, the Company recorded exchange losses of $25,629 and $234,860, respectively.



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Expenses


Attributed Property Expenses are those expenses related to the management of the resort and condominium properties which are operated on a Gross Contract basis.  Property expenses for the three months ended September 30, 2013 compared to 2012 increased by $257,627, or 10%, from $2,600,889 to $2,858,516.  Property expenses for the nine months ended September 30, 2013 compared to 2012 increased by $344,112, or 4%, from $7,851,523 to $8,195,635.  The increases are attributed to the Company renegotiating two of its gross contracts and the increase in Attributed Property Revenue.


Compared to the prior year, payroll and office expenses increased by 8% from $2,681,600 to $2,899,101 for the quarter ended September 30, 2013.  The increase is a result of the labor costs associated with a hotel and restaurant on Kauai that the Company acquired the management of in October of 2012. For the nine months ended September 30, 2013, payroll and office expenses increased by 8%, from $8,204,959 in the prior year to $8,863,411.  The increase in cost for the nine month period is a result of the payroll costs for the nine month period in 2013 for a property which we acquired in October of 2012.

 

Administrative and general expenses increased by 16% from $92,830 to $107,273 for the quarter ended September 30, 2013 as compared to 2012 and increased by 9% from $355,167 to $388,613 for the nine months ended September 30, 2013 as compared to 2012.  This increase was due to additional general excise taxes incurred on the increased revenue from our domestic operations and increased travel costs during 2013 as the Company performed more operational audits of both our domestic and overseas operations.


Investments


In 2010 the Company acquired a 7% common series interest in the ownership of a hotel located in Hawaii. The Company received the interest in exchange for the Company’s assistance to the buyers of the hotel in negotiating the purchase, performing due diligence work and other consulting services.  During the three months ended September 30, 2013 and 2012, the Company recorded investment income of $0 and $28,000, respectively, representing the Company’s 7% allocation of net income from its investment.  For the nine months ended September 30, 2013 and 2012, the Company recorded investment income of $37,000 and $159,145, respectively.  The hotel commenced a $5 million renovation in June of 2013 which is scheduled to be completed in November 2013.


Depreciation


Our business is to provide services to our clients and as such does not require a great deal of capital expenditure for equipment or fixed assets.  As a result, depreciation expense was $55,944 and $56,242 for the three months ended and $166,049 and $169,445 for the nine months ended September 30, 2013 and 2012, respectively.


Interest Expense


Interest Expense was $92,209 and $97,302, respectively, for the three months ended September 30, 2013 and 2012.  Interest Expense for the nine months ended September 30, 2013 and 2012 was $284,799 and $287,304, respectively.  Included in interest expense for the three and nine months ended September 30, 2013 is $50,010 and $150,020, respectively, of interest that is imputed on the mortgage note for our Podium located in New Zealand.


Net Income (Loss)


Net income (loss) for the three months ending September 30, 2013 and 2012 was ($192,541) and ($105,201), respectively.  Net income for the nine months ended September 30, 2013 and 2012 was $111,074 and $134,309, respectively.  Included in net income for the nine months ended September 30, 2012 are gains $395,000 for the sale of an investment and a management contract.





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Foreign Currency Translation Adjustment


For consolidated entities whose functional currency is not the U.S. dollar, Castle translates their financial statements into U.S. dollars.  Assets and liabilities are translated at the exchange rate currently in effect as of the financial statement date, and results of operations are translated using the weighted average exchange rate for the period.


Translation adjustments from foreign exchange are included as a separate component of stockholders’ equity. Changes in the carrying value of the assets and liabilities of the consolidated entities outside of the United States due to foreign exchange changes are reflected as Foreign Currency Adjustments.  Foreign Currency Translation adjustments totaled $200,445 and $115,215 for the three months ended September 30, 2013 and 2012, respectively.  Foreign Currency Translation adjustments totaled $37,641 and $195,892 for the nine months ended September 30, 2013 and 2012, respectively.

 

Total Comprehensive Income


Total Comprehensive Income for the three months ended September 30, 2013 was $7,904 as compared to $10,014 for the prior year period.  Total Comprehensive Income for the nine months ended September 30, 2013 and 2012 was $148,715 and $330,201, respectively.  This is primarily a result of the changes in Revenue and Property and Operating Expenses, Investment Income, and foreign exchange rates noted above.


EBITDA and Adjusted EBITDA

 

EBITDA (Earnings before Interest, Depreciation, Taxes and Amortization) reflects the Company’s earnings without the effect of depreciation, interest income or expense, or taxes.  Adjusted EBITDA reflects certain other non-cash income or expense items. Adjusted EBITDA and EBITDA are non-GAAP measures.  Management believes that in many ways it is a good alternative indicator of the Company’s financial performance.  It removes the effects of non-cash depreciation and amortization of assets, fluctuations of interest costs based on the Company’s borrowing history, increases and decreases in tax expense brought about by changes in the provision for future tax effects rather than current income, and fluctuations in foreign exchange rates.  A comparison of Adjusted EBITDA, EBITDA and Net Income (Loss) is shown below.  EBITDA totaled ($26,249) and $82,205 for the three months ended September 20, 2013 and 2012, respectively, and $671,183 and $847,887 for the nine months ended September 30, 2013 and 2012, respectively.  Adjusted EBITDA totaled $193,486 and $224,213 for the three months ended September 30, 2013 and 2012, respectively, and $696,812 and $1,082,747 for the nine months ended September 30, 2013 and 2012, respectively.  The decrease for the three month period is attributed to the renovation of one of the properties managed by the Company, and startup costs associated with a contract acquired on September 1, 2013.  The decrease for the nine month period is attributable to the sale of our minority interest in a Waikiki hotel during the prior year resulting in a gain of $170,000 and the sale of one of our management contracts for a gain of $225,000.  Excluding the effects of these gains, EBITDA increased by 48% and Adjusted EBITDA increased by 1%, respectively, for the nine months ended September 30, 2013 as compared to the prior year.  


Comparison of Net Income to EBITDA and Adjusted EBITDA:


 

Three months ended September 30,

Nine months ended September 30,

 

               2013

               2012

               2013

               2012

Net Income (Loss)

 $          (192,541)

$          (105,201)

 $            111,074

 $            134,309

Add Back:

 

 

 

 

Income Tax Provision

               18,139

               33,862  

               109,261

               256,829

Net interest expense

                 92,209

                 97,302  

              284,799

               287,304

Depreciation

                 55,944

                 56,242  

               166,049

               169,445

EBITDA

(26,249)

82,205 

671,183

847,887

Foreign Exchange Loss

             219,735

               142,008 

             25,629

               234,860

Adjusted EBITDA

 $            193,486

 $           224,213

 $            696,812

 $         1,082,747 



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Liquidity


Our primary sources of liquidity include available cash and cash equivalents, and borrowing under the credit facility which was secured in October 2008, consisting of a $500,000 term loan and a $150,000 line of credit.   As of September 30, 2013, the Company has the total $150,000 available to use of the line of credit.  Additionally, our New Zealand subsidiary has an available NZ$300,000 (US$247,710) line of credit which was fully available as of September 30, 2013. These facilities contain representations and warranties, conditions, covenants and events of default that are customary for this type of credit facility but do not contain financial covenants.  The Company is in compliance with the terms and conditions of these borrowing covenants. We do not believe the limitations contained in the credit facility will, in the foreseeable future, adversely affect our ability to use the credit facility and execute our business plan.


Expected uses of cash in fiscal 2013 include funds required to support our operating activities, including continuing to opportunistically and selectively expand the number of properties under our management.   


We experienced Total Comprehensive Income of $7,904 and $10,014 for the third quarter of 2013 compared to 2012, and total comprehensive income of $148,715 and $330,201 for the nine months ended September 30, 2013 as compared to 2012.  The third quarter of the year is typically a shoulder season for the travel industry in Hawaii and we have established a trend of profitability in recent quarters as we reported positive Adjusted EBITDA and Total Comprehensive Income in our last eight previous quarters.  We anticipate stabilization of the current occupancy levels, together with a slight increase in average rate trends and levels for the properties currently under contract for the remainder of 2013 when compared to 2012.  We will continue our efforts to expand the number of properties under management through the remainder of 2013, which has the potential to increase the overall revenue stream in 2013. The specific impact of these additions on revenue depends on the timing of when and if new properties are added during the year.  More importantly, over the past two fiscal years we implemented a number of cost saving and efficiency programs that began to improve our profitability and cash flows.  We are beginning to see the results of our operational changes as we reported positive Adjusted EBITDA and Total Comprehensive Income in each of the last eight quarters.  We project that we will continue to improve the overall profitability, cash flows, and working capital liquidity through 2013. This view is based on the following assumptions:


· The maintaining of current occupancy levels as the global economy stabilizes rather than deteriorates resulting in increased visitor trends to Hawaii and New Zealand.


·A continuation of increases in average daily rates at the properties we manage as compared to recent years, although the increase shall not be as large as we have experienced over the past nine months.


·Focus of our corporate office on increasing our properties room revenue through increased sales, advertising and marketing efforts.


·Careful monitoring of our costs and expenses which will provide the basis for improved operating trends throughout 2013.  


·Expansion of the number of properties under management, with emphasis on Hawaii and New Zealand.


·A stabilization of the United States / New Zealand exchange rates.


Our plans to manage our liquidity position in fiscal 2013 include:


·Accessing additional sources of debt or equity financing at competitive rates.


·Minor expenditures to replace and upgrade to our existing technological equipment.


·Refinancing our long term debt in New Zealand.




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We have considered the impact of the financial outlook on our liquidity and have performed an analysis of the key assumptions

in our forecast such as sales, gross margin and expenses; an evaluation of our relationships with our travel partners and property owners and an analysis of cash requirements, other working capital changes, capital expenditures and borrowing availability under our credit facility.  Based upon these analyses and evaluations, we expect that our anticipated sources of liquidity will be sufficient to meet our short term obligations without disposition of assets outside of the ordinary course of business or significant revisions of our planned operations through 2013.


We are currently negotiating a long term extension of our long term debt that will be due in December 2014, and although no assurances can be given, we are confident that we will be successful in extending the term of this debt.  Upon the extension of this debt, we expect that our sources of liquidity will be sufficient to meet our long term obligations without disposition of assets outside of the ordinary course of business or significant revisions of our planned operations.

 

Off-balance sheet arrangements


None; not applicable.


Item 3. Quantitative and Qualitative Disclosures about Market Risk


Not applicable.


Item 4.  Controls and Procedures.


Evaluation of disclosure controls and procedures


Our management, with the participation of our chief executive officer (and acting chief financial officer), evaluated the effectiveness of our disclosure controls and procedures as defined in Rule 13a-15(e) under the Exchange Act as of the end of the period covered by this Quarterly Report on Form 10-Q.  In designing and evaluating the disclosure controls and procedures, our management recognized that any controls and procedures, no matter how well designed and operated, can provide only reasonable assurance of achieving the desired control objectives.  In addition, the design of disclosure controls and procedures must reflect the fact that there are resource constraints and that management is required to apply its judgment in evaluating the benefits of possible controls and procedures relative to their costs.  The design of any disclosure controls and procedures also is based in part upon certain assumptions about the likelihood of future events and there can be no assurance that any design will succeed in achieving its stated goals under all potential future conditions.


Based on that evaluation, our chief executive officer (and acting chief financial officer)  concluded that, as of September 30, 2013, our disclosure controls and procedures were, subject to the limitations noted above, effective to provide reasonable assurance that information we are required to disclose in reports that we file or submit under the Exchange Act is recorded, processed, summarized and reported within the time periods specified in Securities and Exchange Commission rules, regulations and forms, and that such information is accumulated and communicated to our management, including our chief executive officer (and acting chief financial officer), as appropriate, to allow timely decisions regarding required disclosure.


Changes in internal control over financial reporting


Our management, with the participation of the chief executive officer (and acting chief financial officer), has concluded there were no significant changes in our internal controls over financial reporting that occurred during our last fiscal quarter that has materially affected, or is reasonably likely to materially affect, our internal control over financial reporting.


PART II - OTHER INFORMATION


Item 1. Legal Proceedings.


None during the nine months ended September 30, 2013.


Item 1A. Risk Factors.


Not required to be enumerated by smaller reporting companies.



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Item 2. Unregistered Sales of Equity Securities and Use of Proceeds.


Recent Sales of Unregistered Securities


None during the nine months ended September 30, 2013.


Use of Proceeds of Registered Securities


No proceeds were received from the sale of registered securities during the nine months ended September 30, 2013.


Purchases of Equity Securities by Us and Affiliated Purchasers


None during the nine months ended September 30, 2013.


Item 3. Defaults Upon Senior Securities.


None; not applicable.


Item 4. Mine Safety Disclosures.


None, not applicable.


Item 5. Other Information.


None reported


Item 6. Exhibits


(a) Exhibits and index of exhibits.


31.1   302 Certification of Rick Wall, Chief Executive Officer


32    Section 906 Certification


SIGNATURES


In accordance with the requirements of the Exchange Act, the Registrant has caused this Quarterly Report to be signed on its behalf by the undersigned, thereunto duly authorized.



THE CASTLE GROUP, INC.


 

 

 

 

 

 

 


 

 

 

Date:

11/14/2013

 

By:

/s/Rick Wall

 

 

 

 

Rick Wall

 

 

 

 

Chief Executive Officer and Chairman of the Board of Directors and Acting CFO






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