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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, New Zealand, and the Commonwealth of Saipan 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 six month period ended June 30, 2014, 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

In accordance with ASC 605: Revenue Recognition, the Company recognizes revenue when persuasive evidence of an arrangement exists, services have been rendered, the sales price charged is fixed or determinable, and collectability is reasonably assured.

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”.  

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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 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 or 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

In May 2014, the FASB issued Accounting Standards Update No. 2014-09, Revenue from Contracts with Customers (ASU 2014-09), which supersedes nearly all existing revenue recognition guidance under U.S. GAAP. The core principle of ASU 2014-09 is to recognize revenues when promised goods or services are transferred to customers in an amount that reflects the consideration to which an entity expects to be entitled for those goods or services. ASU 2014-09 defines a five step process to achieve this core principle and, in doing so, more judgment and estimates may be required within the revenue recognition process than are required under existing U.S. GAAP.

The standard is effective for annual periods beginning after December 15, 2016, and interim periods therein, using either of the following transition methods: (i) a full retrospective approach reflecting the application of the standard in each prior reporting period with the option to elect certain practical expedients, or (ii) a retrospective approach with the cumulative effect of initially adopting ASU 2014-09 recognized at the date of adoption (which includes additional footnote disclosures).  We are currently evaluating the impact of our pending adoption of ASU 2014-09 on our consolidated financial statements and have not yet determined the method by which we will adopt the standard in 2017.

Note 3 Foreign Currency Transaction Gain / Loss

As part of the Company’s purchase of real estate in New Zealand, we assigned a receivable to the seller of the real estate, and the Company guaranteed the receivable for 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 fluctuations in the exchange rate between the US Dollar and the New Zealand dollar, the obligation was translated to US$3,429,210 as of June 30, 2013.   For the three and six months ended June 30, 2013, due to the translation fluctuations, the Company recorded exchange gains of $264,270 and $194,106, respectively.  In 2014, we amended the loan agreement whereby effective December 31, 2012, the assignment of the receivable was rescinded, and instead we gave the seller of the real estate an overall security interest in all of the Company’s assets. Although the amendment was signed in 2014 and took effect in 2012, the Company has recorded this rescission effective January 1, 2014, as there was no material impact on the financial statements as a whole.

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 quarters and year to date periods ended June 30, 2014 or 2013.

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 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 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, 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, 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.  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.

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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 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, and in 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 operation in 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, 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 does represent a diverse range of properties it represents, its brand strategy is that one size does not fit all.  The Castle brand stays in the background and our focus is on

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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 differentiates 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 as well

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.

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 may 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 manages properties in New Zealand and Saipan, 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.

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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, Castle is assured of ongoing revenues in future years from this property.

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 “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 June 30, 2014 decreased by 1% to $5,717,169 from $5,773,257 and for the six months ended June 30, 2014, decreased by 2% to $11,817,745 from $12,048,650.  The decrease is attributed to the termination on January 4, 2014 for the contract on one of our Waikiki properties that was sold.  We were successful in increasing our REVPAR (Revenue per Available Room) for the six months ended June 2014 by 13% as compared to 2013, but this increase was not sufficient to make up the fees generated in 2013 from the property that was sold.

Revenues Attributed from Properties increased from $2,833,696 to $3,142,747, an increase of 11% for the three months ended June 30, 2014 compared to 2013.  For the six months ended June 30, 2014 as compared to prior year, Revenues Attributed from Properties increased from $5,966,371 to $6,533,859, an increase of 10%.  This increase is due to the acquisition of a management contract with a property on Maui during the fourth quarter of 2013, and the conversion of one of our contracts from a net contract to a gross contract in May of 2014.  Management and Service Revenue decreased by 12% for the quarter, from $2,939,461 in 2013 to $2,574,022 in 2014.  For the six months ended June 30, 2014, Management and Service Revenue decreased by 13%, from $6,053,312 to $5,283,486.  These decreases are due to the sale of one of our Waikiki properties in January 2014 and the conversion of one of our management contracts from a net contract to a gross contract in May of 2014.   

Other Revenue for the quarter ended June 30, 2014 was $400 compared to $100 for the prior year.  For the six months ended June 30, 2014 compared to 2013, Other Revenue decreased from $28,967 to $400.  The decrease is a result of the Company recording $27,902 of Other Revenue in 2013 for a termination fee received from a property that was sold in 2011.

Guaranty

As part of the Company’s purchase of real estate in New Zealand, the Company had guaranteed an amount of up to NZ$4,201,433 (US$3,018,000) to the seller of the real estate for the assignment of an account receivable 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 fluctuations in the exchange rate between the US Dollar and the

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New Zealand dollar, the obligation translated to US$3,429,210 as of June 30, 2013.   For the three and six months ended June 30, 2013, due to the translation fluctuations, the Company recorded foreign transaction exchange gains of $264,270 and $194,106, respectively.  In 2014, we amended the loan agreement whereby effective December 31, 2012, the assignment of the receivable was rescinded, and instead we gave the seller of the real estate an overall security interest in all of our assets.  Although the amendment was signed in 2014 and took effect in 2012, the Company has recorded this rescission effective January 1, 2014, as there was no material impact on the financial statements as a whole.

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 June 30, 2014 compared to 2013 increased by 11%, from $2,702,429 to $2,991,496.  For the six months ended June 30, 2014 compared to 2013, Attributed Property Expenses increased by 10%, from $5,337,119 to $5,883,394.  The increases in Attributed Property Expenses were in line with the increases in Attributed Property Revenue, and are associated with increased revenues and expenses from a Maui property which we acquired during the fourth quarter of 2013 and the conversion of one of our contracts from a net contract to a gross contract in May of 2014.

Compared to the prior year, payroll and office expenses decreased for the quarter ended June 30, 2014 compared to 2013 by 12%, from $2,944,808 to $2,596,805.  For the six months ended June 30, 2014 compared to 2013, payroll and office expenses decreased by 11%, from $5,964,310 to $5,311,457.  The decrease in cost is a result of the sale of one of our Waikiki properties which we managed under a Net Contract basis in January of 2014.

Administrative and general expenses decreased by 5% from $96,725 to $91,460 for the quarter ended June 30, 2014 as compared to 2013.  The decrease is due to repairs & maintenance costs we incurred during the prior year.  For the six months ended June 30, 2014 compared to 2013, Administrative & general expenses were in line with prior year, showing a slight increase of 1%, from $280,894 to $283,612.

Investments

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 $58,496 and $49,669 for the three months ended June 30, 2014 and 2013, and $114,067 and $110,105 for the six months ended June 30, 2014 and 2013, respectively.

Interest Expense

Interest Expense was $51,764 and $96,744, respectively, for the three months ended June 30, 2014 and 2013, and $142,035 and $192,591 for the six months ended June 30, 2014 & 2013, respectively.   Included in interest expense is interest that is imputed on the mortgage note for our Podium located in New Zealand.  The decrease in interest expense is attributed to the forgiveness of accrued interest in the amount of $42,000 during the second quarter ended June 30, 2014 by our CEO, which was interest that is due to him on the $117,316 related party note payable.

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Net Income  

Net income (loss) for the three months ending June 30, 2014 and 2013 was ($47,398) and $208,025, respectively, and $53,251 and $303,615, respectively, for the six months ended June 30, 2014 and 2013.  The variance in net income (loss) is due to foreign currency exchange gains of $264,270 and $194,106 which we recorded for the three and six months ended June 30, 2013.  In 2014, we had no foreign currency exchange gains (see note under Guaranty in this Management Discussion and Analysis).

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 ($3,517) and $146,368 for the three months ended June 30, 2014 and 2013, respectively and ($21,467) and ($162,804) for the six months ended June 30, 2014 & 2013, respectively.

Total Comprehensive Income

Total Comprehensive Income for the quarter ended June 30, 2014 was ($50,915) as compared to $354,393 for the prior year period.  For the six months ended June 30, 2014 and 2013, Total Comprehensive Income was $31,784 and $140,811, 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

EBITDA (Earnings before Interest, Depreciation, Taxes and Amortization) reflects the Company’s earnings without the effect of depreciation, interest income or expense, taxes, or certain other non-cash income or expense items.  EBITDA is a non-GAAP measure.  Castle’s 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, as well as the fluctuations of interest costs based on the Company’s borrowing history and increases and decreases in tax expense brought about by changes in the provision for future tax effects rather than current income.  A comparison of EBITDA and Net Income is shown below.  EBITDA totaled $46,408 and $310,565 for the three months ended June 30, 2014 and 2013, and $397,377 and $697,433 for the six months ended June 30, 2014 and 2013, respectively.  The decrease in EBITDA is attributable to the sale of one of our Waikiki hotels in January 2014 and the prior year foreign currency translation gains of $264,270 and $194,106 for the three and six months ended June 30, 2013.

Comparison of Net Income (Loss) to EBITDA:

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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 $200,000 line of credit.   As of June 30, 2014, the Company had the total $200,000 line of credit available to use.  Additionally, our New Zealand subsidiary has an available NZ$300,000 (US$262,860) line of credit which was fully available as of June 30, 2014. 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.

We were successful in extending the due date of our New Zealand loan (balance of $8,067,683 at June 30, 2014) from December 31, 2014 to March 31, 2018.

Expected uses of cash in fiscal 2014 include funds required to support our operating activities and upgrading our computer technology which would include our central reservations and online booking systems.

We experienced a net loss of $47,398 for the second quarter of 2014 compared to net income of $208,025 for the prior year.  Our results for the prior year included a foreign currency translation gain of $264,270 and excluding this gain, our net income for the second quarter of 2014 improved by 16%, or $8,847.  The second quarter of the year is typically the valley season for the travel industry in Hawaii and we have established a trend of Operating Profitability in recent quarters as we reported Operating Profits in eight out of our last nine quarters.  We anticipate the stabilization of occupancy levels, together with a slight increase in average rate trends and levels for the properties currently under contract for the remainder of 2014 when compared to 2013.  We will continue our efforts to expand the number of properties under management through the remainder of 2014, which will increase the overall revenue stream in 2014. The specific impact of these additions on revenue depends on the timing of when and if new properties are added during the year.  We have reported positive EBITDA in eight of the last nine quarters and project that we will continue to improve the overall profitability, cash flows, and working capital liquidity through 2014. 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 and REVPAR at the properties we manage as compared to recent years.

·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 2014.  

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

·The conversion of one of our properties under management from a timeshare operation to a resort hotel operation in the third quarter of 2014.

Our plans to manage our liquidity position in fiscal 2014 include:

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

·Expenditures to replace, upgrade and improve to our existing technological equipment.

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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 obligations without disposition of assets outside of the ordinary course of business or significant revisions of our planned operations through 2014 and our foreseeable future.

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 June 30, 2014, 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

PART II - OTHER INFORMATION

Item 1. Legal Proceedings.

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 six months ended June 30, 2014.

Use of Proceeds of Registered Securities

No proceeds were received from the sale of registered securities during the six months ended June 30, 2014.

Purchases of Equity Securities by Us and Affiliated Purchasers

None during the six months ended June 30, 2014.

Item 3. Defaults Upon Senior Securities.

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.

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