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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

Form 10-Q

(Mark One)

x      QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

For the quarterly period ended June 30, 2015

or

o         TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

For the transition period from                    to                    .

Commission File Number: 000-30700

Crown Media Holdings, Inc.

(Exact name of registrant as specified in its charter)

12700 Ventura Boulevard,

Suite 200

Studio City, California 91604

(Address of principal executive offices) (Zip Code)

(818) 755-2400

(Registrant’s telephone number, including area code)

(Former name, former address, and former fiscal year,

if changed since last report.)

Indicate by check mark whether the registrant:  (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days.  Yes x  No o

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 x  No o

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 definition of “large accelerated filer,” “accelerated filer” and “smaller reporting company” in Rule 12b-2 of the Exchange Act.

Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act).  Yes o  No x

As of July 30, 2015, the number of shares of Class A Common Stock, $0.01 par value per share, outstanding was 359,675,936.

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In this Quarterly Report on Form 10-Q the terms “Crown Media Holdings,” the “Company,” “we,” “us” and “our” refer to Crown Media Holdings, Inc. and, unless the context requires otherwise, subsidiaries of Crown Media Holdings that operate or have operated our businesses, including Crown Media United States, LLC (“Crown Media United States”).

The name “Hallmark” and other product or service names are trademarks or registered trademarks of entities owned by Hallmark Cards, Incorporated (“Hallmark Cards”).

Certain Terms

Certain terms used throughout this Annual Report on Form 10-Q are defined below.

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PART I. FINANCIAL INFORMATION

Item 1.  Financial Statements (Unaudited)

CROWN MEDIA HOLDINGS, INC. AND SUBSIDIARIES

UNAUDITED CONDENSED CONSOLIDATED BALANCE SHEETS

(In thousands, except par value and number of shares)

The accompanying notes are an integral part of these unaudited condensed consolidated balance sheets.

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CROWN MEDIA HOLDINGS, INC. AND SUBSIDIARIES

UNAUDITED CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS

(In thousands, except per share data)

The accompanying notes are an integral part of these unaudited condensed consolidated statements of operations.

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CROWN MEDIA HOLDINGS, INC. AND SUBSIDIARIES

UNAUDITED CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS

(In thousands)

The accompanying notes are an integral part of these unaudited condensed consolidated statements of cash flows.

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CROWN MEDIA HOLDINGS, INC. AND SUBSIDIARIES

NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

For the Three and Six Months Ended June 30, 2014 and 2015

1. Business and Organization

Crown Media Holdings through its wholly owned subsidiary Crown Media United States, LLC (“Crown Media United States”), owns and operates pay television networks dedicated to high quality, entertainment programming for adults and families in the United States. Majority ownership of the Company is held by Hallmark Cards through its subsidiaries HCC and Hallmark Cards GmbH.

The Company’s continuing operations are currently organized into one operating segment, the Networks.

2. Summary of Significant Accounting Policies and Estimates

Interim Financial Statements

In the opinion of management, the accompanying unaudited condensed consolidated balance sheets and related interim unaudited condensed consolidated statements of operations and cash flows include all adjustments, consisting of normal recurring items necessary for their fair presentation in conformity with GAAP. Interim results are not necessarily indicative of results for a full year. These unaudited condensed consolidated financial statements should be read in conjunction with the audited consolidated financial statements and the notes to those statements included in the Company’s Annual Report on Form 10-K for the year ended December 31, 2014.

Basis of Presentation

The unaudited condensed consolidated financial statements include the accounts of Crown Media Holdings and its wholly-owned subsidiaries. All significant intercompany balances and transactions have been eliminated in consolidation.

The preparation of financial statements in accordance with GAAP requires the consideration of events or transactions that occur after the balance sheet date but before the financial statements are issued. Depending on the nature of the subsequent event, financial statement recognition or disclosure of the subsequent event may be required.

Use of Estimates

The preparation of the consolidated financial statements in conformity with GAAP requires management to make estimates and assumptions about future events. These estimates and the underlying assumptions affect the amounts of assets and liabilities reported, disclosures about contingent assets and liabilities, and reported amounts of revenue and expenses. Such estimates include the collectibility of accounts receivable, the valuation of goodwill, intangible assets and other long-lived assets, the net realizable value of programming rights, the fair value of film assets, legal contingencies, indemnifications, barter transactions, audience deficiency reserve obligations and assumptions used in the calculation of income taxes and related valuation allowance, among others.

All of the estimates that are employed are based on management’s best estimates and judgment. Management evaluates its estimates and assumptions on an ongoing basis using historical experience and other factors, including the current economic environment, which management believes to be reasonable under the circumstances. Management adjusts such estimates and assumptions when facts and circumstances dictate. As future events and their effects cannot be determined with precision, actual results could differ significantly from these estimates. Changes, if any, in those estimates resulting from continuing changes in the economic environment will be reflected in the financial statements in future periods.

Allowance for Doubtful Accounts

The allowance for doubtful accounts is based upon the Company’s assessment of probable loss related to uncollectible accounts receivable. The Company uses a number of factors in determining the allowance, including, among other things, the financial condition of specific customers and collection trends. The Company’s bad debt expense was $108,000 and $563,000 for the three months ended June 30, 2014 and 2015, respectively. The Company’s bad debt expense was $113,000 and $693,000 for the six months ended June 30, 2014 and 2015, respectively.

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Barter Transactions

The Company enters into transactions that involve the exchange of its on air advertising spots, in part, for other products and services, such as programming rights. Programming rights and the related deferred advertising revenue that result from such transactions are recognized at the estimated fair value of the advertising spots conveyed when the programming is available for telecast. Barter programming rights are amortized in the same manner as non-barter programming rights and advertising revenue is recognized when delivered. The Company recognized $778,000 and $598,000 in barter advertising revenue during the three months ended June 30, 2014 and 2015, respectively. The Company recognized $1.3 million and $1.6 million in barter advertising revenue during the six months ended June 30, 2014 and 2015, respectively. The Company recognized $887,000 and $631,000 in barter expense included in programming costs on the unaudited condensed consolidated statements of operations during the three months ended June 30, 2014 and 2015, respectively. The Company recognized $1.3 million and $1.5 million in barter expense included in programming costs on the unaudited condensed consolidated statements of operations during the six months ended June 30, 2014 and 2015, respectively.

Film Assets Included in Long-Term Programming Rights

The Company amortizes its film assets using the individual-film-forecast-computation method. The individual-film-forecast-computation method amortizes such assets in the same ratio that current period actual revenue bears to estimated ultimate future revenues.

On a quarterly basis, the Company assesses whether events or circumstances have changed indicating that the fair value of a film is lower than its unamortized cost or carrying value. If the carrying value of any individual film asset exceeds its fair value, the film asset is written-down to its estimated fair value.

The Company reviews its estimates of ultimate future revenues and participation costs as of each reporting date to reflect currently available information. Estimated ultimate future revenues are based on sales plans and other factors, all of which require significant judgment and estimation by management. Differences between amortization expense determined using the new estimates and any amounts previously expensed during that current fiscal year are charged or credited to the statement of operations in the period in which the estimates are revised.

Deferred Revenue

Payments received in advance of being earned are recorded as deferred revenue. Included in accounts payable and accrued liabilities as of December 31, 2014 and June 30, 2015, are $2.9 million and $3.3 million, respectively, of deferred revenue. Further, $5.9 million and $7.1 million, respectively, are included in the long-term portion of accrued liabilities as of December 31, 2014 and June 30, 2015.

Transaction Costs

Transaction costs in the amount of $897,000 related to the 2015 Revolver are being deferred and presented as debt transaction costs on the accompanying unaudited condensed consolidated balance sheet and are being amortized ratably over the term of the 2015 Revolver. Transaction costs in the amount $718,000 related to the initial $80.0 million draw under the 2015 Term Loan have been presented as a direct deduction of the carrying amount of the 2015 Term Loan on the accompanying unaudited condensed consolidated balance sheet as of June 30, 2015. Transaction costs in the amount of $2.2 million related to the $245.0 million delayed draw under the 2015 Term Loan are presented as debt transaction costs on the accompanying unaudited condensed consolidated balance sheet as of June 30, 2015 and will be reclassified as a direct deduction of the carrying amount of the 2015 Term Loan on July 25, 2015.

The 2015 Term Loan transaction costs are being amortized using the effective interest method. The 2015 Revolver transaction costs are being amortized on a straight line basis over the term.

Fair Value of Financial Instruments

ASC Topic 820, Fair Value Measurements and Disclosures, provides guidance which defines fair value, establishes a framework for measuring fair value and specifies disclosures about fair value measurements. The Company determines fair value as an exit price, representing the price that would be received to sell an asset or paid to transfer a liability in an orderly transaction between market participants.

The Company does not have balance sheet items measured at fair value on a recurring basis. Significant balance sheet items which are subject to non-recurring fair value measurements consist of impairment valuations of goodwill, promotion and placement fees, property and equipment, and owned programming and barter advertising revenue and programming.

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Foreign Currency Translation

Foreign currency monetary items are stated in U.S. dollars, the Company’s functional currency, measured at exchange rates at the balance sheet date, with currency translation gains and losses recorded in income. Translation adjustment expense of $9,000 has been recorded both for the three and six months ended June 30, 2015.

Net Income per Share

Basic net income per share for each period is computed by dividing net income attributable to common stock by the weighted average number of common shares outstanding during the period. Diluted net income per share for each period is computed by dividing net income attributable to common stock by the weighted average number of common shares plus potentially dilutive common shares outstanding except whenever any such effect would be antidilutive.

Concentration of Risk

Financial instruments, which potentially subject Crown Media Holdings to a concentration of credit risk, consist primarily of cash, cash equivalents and accounts receivable. Generally, Crown Media Holdings does not require collateral to secure receivables. Crown Media Holdings has no significant off balance sheet financial instruments with risk of accounting losses.

Five of the Company’s distributors individually accounted for more than 10% of the Company’s consolidated subscriber revenue and collectively accounted for 88% and 87% of the Company’s consolidated subscriber revenue during the three months ended June 30, 2014 and 2015.  Two of the Company’s distributors individually accounted for approximately 15% or more of the Company’s consolidated subscribers and collectively accounted for 45% of the Company’s subscribers during each of the three months ended June 30, 2014 and 2015. The loss of one of these distributors could have a significant impact on the Company’s operations.

Five of the Company’s distributors individually accounted for more than 10% of the Company’s consolidated subscriber revenue and collectively accounted for 88% and 87% of the Company’s consolidated subscriber revenue during the six months ended June 30, 2014 and 2015.  Two of the Company’s distributors individually accounted for approximately 15% or more of the Company’s consolidated subscribers and collectively accounted for 45% of the Company’s subscribers during each of the six months ended June 30, 2014 and 2015. The loss of one of these distributors could have a significant impact on the Company’s operations

Four of the Company’s programming content providers individually accounted for more than 10% of the Company’s total programming rights payable and collectively accounted for 74% and 63% of the consolidated programming rights payable as of June 30, 2014 and 2015, respectively. The loss of one of these program content providers could have a significant impact on the Company’s operations.

Taxes on Income

Income tax expense or benefit comprises (i) amounts estimated to be payable or receivable with respect to the Company’s income or loss for the period pursuant to the statutory provisions of the various federal, state and local jurisdictions in which the Company is subject to taxation and (ii) the changes in deferred tax assets and liabilities during the period.

The Company accounts for income taxes under the asset and liability method which requires the recognition of deferred tax assets and liabilities for the expected future tax consequences of events that have been included in the financial statements. Under this method, deferred tax assets and liabilities are determined based on the differences between the financial statements and tax bases of assets and liabilities, including related operating loss and tax credit carryforwards, using enacted tax rates in effect for the year in which the differences are expected to reverse. The effect of a change in tax rates on deferred tax assets and liabilities is recognized in income in the period that includes the enactment date.

Net deferred tax assets are recognized to the extent that management believes these assets will more likely than not be realized. In making such determination management considers all available positive and negative evidence including future reversals of existing taxable temporary differences, projected future taxable income, tax planning strategies and recent financial operations. In the event management subsequently determines that the Company would likely be able to realize deferred income tax assets in excess of their net recorded amount, an adjustment to the valuation allowance would be recorded with a corresponding reduction in the provision for income taxes.

Management periodically evaluates the sustainability of tax positions taken. Whenever management estimates the probability of sustaining a tax position is at least more likely than not (i.e., greater than 50%), the tax position is deemed warranted and is recognized at the largest amount of benefit that is greater than 50% likely of being realized upon settlement. Interest and penalties related to uncertain tax positions are recognized as income tax expense.

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Recently Issued Accounting Pronouncements

In May 2014, the FASB issued Accounting Standards Update (“ASU”) No. 2014-09, Revenue from Contracts with Customers. This ASU supersedes the revenue recognition requirements in Accounting Standards Codification 605—Revenue Recognition and most industry specific guidance throughout the Codification. The standard requires that an entity recognizes revenue to depict the transfer of promised goods or services to customers in an amount that reflects the consideration to which the entity expects to be entitled in exchange for those goods or services. The updated guidance is effective for annual reporting periods beginning after December 15, 2017, including interim periods within that reporting period. Earlier adoption is permitted for annual reporting periods beginning after December 15, 2016. The Company is in the process of assessing the impact of the adoption of accounting standards update ASU No. 2014-09 on its financial position and results of operations.

In January 2015, the FASB issued new accounting rules that remove the concept of extraordinary items from U.S. GAAP. Under the existing guidance, an entity is required to separately disclose extraordinary items, net of tax, in the income statement after income from continuing operations if an event or transaction is of an unusual nature and occurs infrequently. This separate, net of tax presentation (and corresponding earnings per share impact) will no longer be allowed. The new rules will be effective for the Company in the first quarter of 2016. The Company does not expect the adoption of the new accounting rules to have a material impact on the Company’s financial condition, results of operations or cash flows.

Adoption of Recent Accounting Principle

The Company historically presented debt issuance costs as assets on its unaudited accompanying condensed consolidated balance sheets. In April 2015, the FASB issued ASU No. 2015-03, Interest — Imputation of Interest (Subtopic 835-30): Simplifying the Presentation of Debt Issuance Costs. This guidance requires that debt issuance costs related to a recognized debt liability be presented in the balance sheet as a direct deduction from the carrying amount of that debt liability. This guidance requires retrospective application. In conjunction with the 2015 Refinancing, the Company early adopted this guidance beginning the second quarter ended June 30, 2015 and applied this guidance retrospectively to all prior periods presented in the Company’s accompanying condensed consolidated balance sheets.

The reclassification does not impact any prior amounts reported in the statements of operations or cash flows. The following table presents the effects of the retrospective application of this change in accounting principle on the Company’s accompanying condensed consolidated balance sheet as of December 31, 2014.

3. Programming Rights

Programming rights are comprised of the following:

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In the regular course of evaluating the remaining usefulness of its various program rights, the Company may determine that certain rights may be of little future value. In such instances, the Company shortens the estimated remaining life of the asset often to zero, thereby accelerating amortization of the remaining net book value. During the three months ended June 30, 2014 and 2015, such changes in estimates resulted in additional amortization of programming rights of $0 and $30,000, respectively. During the six months ended June 30, 2014 and 2015, such changes in estimates resulted in additional amortization of programming rights of $7,000 and $30,000, respectively.

At December 31, 2014 and June 30, 2015, $39.8 million and $34.6 million, respectively, of programming rights were included in prepaid programming rights in the accompanying unaudited condensed consolidated balance sheets. The various license periods associated with such amounts had not commenced as of the respective balance sheet dates.

Programming rights payable are comprised of the following:

4. Debt

2015 Credit Facility

On June 25, 2015, the Company used $80.0 million of proceeds under the 2015 Term Loan to repay the 2011 Term Loan.  Furthermore, on July 24, 2015, the Company funded the redemption of the Notes using the proceeds from the remaining $245.0 million under the 2015 Term Loan and $25.0 million under the 2015 Revolver along with cash on hand.

The 2015 Credit Agreement provides for the 2015 Term Loan, a five year $325.0 million senior secured term loan, the 2015 Revolver, a five year $100.0 million senior secured revolver, and the issuance of letters of credit and the provision of swingline loans under the 2015 Revolver, subject to a $15.0 million sublimit for letters of credit and a $5.0 million sublimit for swingline loans.  The Company’s subsidiaries (the “Guarantors”) have guaranteed the Company’s obligations under the 2015 Credit Agreement.  The 2015 Credit Agreement is collateralized by a first priority interest in substantially all of the present and future assets of the Company and the Guarantors, other than their interests in the Hallmark trademarks and associated rights.

The Company must elect Eurodollar or base rate loans prior to borrowing. Eurodollar loans will bear interest at the adjusted LIBO rate (with that rate not to be deemed to be below 0.00%), plus an interest margin ranging from 1.50% to 2.25%, depending on the Company’s Consolidated Leverage Ratio (as defined in the 2015 Credit Agreement).  All base rate loans will bear interest at the alternate base rate (as defined in the 2015 Credit Agreement), plus an interest margin ranging from 0.50% to 1.25%, depending on the Company’s Consolidated Leverage Ratio.

Commitment fees are payable on the unused credit commitment at a rate ranging from 0.25% and 0.40%, depending on the Company’s Consolidated Leverage Ratio. The Company borrowed $80.0 million under the 2015 Term Loan on June 25, 2015, and intends to borrow the remaining $245.0 million on July 24, 2015 to fund the redemption of the Notes.

The Company is required to make prepayments under the 2015 Term Loan in amounts equal to (1) 50% of excess cash flow as defined in the 2015 Credit Agreement of the Company for the six months ending December 31, 2015, and for each year thereafter,

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which percentage will be reduced to 25% if the Consolidated Leverage Ratio is equal to or less than 3.00 to 1.00 but greater than 2.00 to 1.00, and 0% if the Consolidated Leverage Ratio is equal to or less than 2.00 to 1; (2) 100% of net cash proceeds of dispositions or casualty events if the Company has not invested such proceeds within one year after the occurrence of the disposition or casualty event; and (3) 100% of net cash proceeds from the issuance of indebtedness not otherwise permitted by the 2015 Credit Agreement.

The covenants in the 2015 Credit Agreement limit the ability of the Company and certain of its subsidiaries to, among other things: (1) incur indebtedness; (2) create or permit liens on assets; (3) pay certain dividends or make certain stock repurchases and redemptions and other restricted payments; (4) make certain investments; (5) prepay indebtedness; (6) enter into certain transactions with its affiliates; (7) dispose of assets; (8) merge or consolidate; (9) enter into new unrelated lines of business; and (10) enter into sale and leaseback transactions. The 2015 Credit Agreement also requires compliance by the Company with a Consolidated Leverage Ratio test and a Consolidated Secured Leverage Ratio test (as defined in the 2015 Credit Agreement).

The Company was in compliance with its covenants under the 2015 Credit Agreement as of June 30, 2015.

The 2015 Term Loan was not in place during the year ended December 31, 2014. At June 30, 2015, the outstanding balance under the 2015 Term Loan, net of unamortized transaction costs, was $79.3 million. The Company did not make principal payments under the 2015 Term Loan during the three and six months ended June 30, 2015.

Interest expense under the 2015 Term Loan was $30,000 for the three months ended June 30, 2015. The effective interest rate was approximately 2.76% during the three months ended June 30, 2015. The weighted average nominal interest rate was approximately 2.09% during the three months ended June 30, 2015.

Interest expense under the 2015 Term Loan was $30,000 for the six months ended June 30, 2015. The effective interest rate was approximately 2.76% during the six months ended June 30, 2015. The weighted average nominal interest rate was approximately 2.09% during the six-month periods ended June 30, 2015.

The 2015 Revolver was not in place during the year ended December 31, 2014. Commitment fee expense for the three and six month periods ended June 30, 2015, was $5,000.

One letter of credit was issued in the amount of $909,000 on June 29, 2015.

2015 Refinancing

In June 2015, the Company repaid $99.6 million of principal under its 2011 Term Loan using cash on hand of $19.6 million and proceeds from the 2015 Term Loan of $80.0 million. In conjunction with this transaction, the Company recorded a charge of $2.7 million for debt issuance costs and $1.2 million original issue discount costs related to the 2011 Term Loan, which resulted in an aggregate pre-tax loss on extinguishment of debt of $3.9 million.

2011 Credit Facility

Pursuant to the 2011 Credit Agreement, the Company had the 2011 Term Loan and the 2011 Revolver. At December 31, 2014, the Company had no outstanding borrowings under the 2011 Revolver.

At December 31, 2014, the outstanding balance under the 2011 Term Loan, net of unamortized transaction costs, was $115.4 million. The Company made principal payments of $0 and $99.6 million under the 2011 Term Loan during the three months ended June 30, 2014 and 2015, respectively. The Company made principal payments of $25.0 million and $119.6 million under the 2011 Term Loan during the six months ended June 30, 2014 and 2015, respectively.

Interest expense under the 2011 Term Loan was $1.6 million and $1.2 million for the three months ended June 30, 2014 and 2015, respectively. The effective interest rate was approximately 5.04% and 5.41% during the three months ended June 30, 2014 and 2015, respectively. The weighted average nominal interest rate was approximately 4.06% and 4.01% during the three months ended June 30, 2014 and 2015, respectively.

Interest expense under the 2011 Term Loan was $3.4 million and $2.7 million for the six months ended June 30, 2014 and 2015, respectively. The effective interest rate was approximately 5.00% and 5.32% during the six months ended June 30, 2014 and 2015, respectively. The weighted average nominal interest rate was approximately 4.05% and 4.03% during each of the six-month periods ended June 30, 2014 and 2015.

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Interest expense under the 2011 Revolver for both three months ended June 30, 2014 and 2015, was $0. Interest expense under the 2011 Revolver for both the six months ended June 30, 2014 and 2015, was $0. Under the 2011 Revolver, one letter of credit was outstanding in the amount of $202,000 at December 31, 2014. Commitment fees on the 2011 Revolver were payable on the unused revolving credit commitment at the rate of 0.50% per annum, payable quarterly. Commitment fee expense for the three-month periods ended June 30, 2014 and 2015, was $37,000 and $36,000, respectively. Commitment fee expense for the six-month periods ended June 30, 2014 and 2015, was $74,000 and $73,000, respectively.

The Notes

The Company was in compliance with its covenants under the Indenture as of June 30, 2015.

Interest expense under the Notes was $8.1 million and $7.3 million for the three months ended June 30, 2014 and 2015, respectively. After giving effect to the amortization of associated debt issuance costs, the effective interest rate of the Notes was approximately 11.0% during the three months ended June 30, 2014 and 2015.

Interest expense under the Notes was $16.2 million and $14.6 million for the six months ended June 30, 2014 and 2015, respectively. After giving effect to the amortization of associated debt issuance costs, the effective interest rate of the Notes was approximately 11.0% during the six months ended June 30, 2014 and 2015.

Debt Service Requirements

Debt service requirements, including estimated future interest and premium, for each of the five years subsequent to June 30, 2015 and the period thereafter, are as follows:

*The accelerated due date pursuant to the issuance of a notice of redemption on June 24, 2015; amount reflects principal of $271.5 million, premium of $14.3 million and interest of $14.9 million ($13.1 million of which was accrued at June 30, 2015).

Guarantees

Because Crown Media Holdings has no independent assets or operations, the guarantees by the Guarantors are full and unconditional, as well as joint and several. All subsidiaries of Crown Media Holdings are Guarantors.  The 2015 Credit Agreement imposes restrictions on the payment of dividends by Crown Media Holdings and the Guarantors.

5. Related Party Transactions

State Tax Sharing Agreements

During 2014, the Company reimbursed Hallmark Cards approximately $385,000 with respect to a state tax sharing agreement with Hallmark Cards for the 2013 tax year. For the tax year ended December 31, 2014, it is estimated that the Company will owe Hallmark Cards approximately $75,000 with respect to the state tax sharing agreement, which will be paid during 2015. This amount will be payable two days prior to the due date of the state tax returns. For the three months ended June 30, 2015, it is estimated that the Company will owe Hallmark Cards approximately $72,000 with respect to a state tax sharing agreement, which will be paid during 2016. For the six months ended June 30, 2015, it is estimated that the Company will owe Hallmark Cards approximately $124,000 with respect to a state tax sharing agreement, which will be paid during 2016.

The state tax sharing agreement will continue as long as the Company is included in Hallmark Cards’ consolidated or combined returns. The Company expects it will continue to be included in Hallmark Cards’ consolidated or combined returns for certain states.

Services Agreement with Hallmark Cards

Hallmark Cards provides Crown Media Holdings with tax, risk management, health, safety, environmental, insurance, legal, treasury, human resources, cash management and real estate consulting services. In exchange, the Company is obligated to pay

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Hallmark Cards a fee, plus out-of-pocket expenses and third party fees, in arrears on the last business day of each month. Fees for Hallmark Cards’ services were $342,000 for 2014 and are expected to be $389,000 for 2015.

At December 31, 2014 and June 30, 2015, the Company’s payables to Hallmark Cards affiliates in the accompanying consolidated balance sheets were $150,000 and $221,000, respectively. The December 31, 2014, balance was comprised of taxes and the June 30, 2015, balance was comprised of $213,000 of taxes and $8,000 of intercompany expenses.

“Hallmark Hall of Fame” Programming License Agreement

In 2008, Crown Media United States entered into an agreement with Hallmark Hall of Fame Productions, LLC for the exclusive television license of 58 “Hallmark Hall of Fame” movies, consisting of 16 contemporary Hallmark Hall of Fame titles (i.e., produced from 2003 to 2008) and 42 older titles, for exhibition on Hallmark Channel and Hallmark Movies and Mysteries. These titles are licensed for ten year windows, which commenced at various times between 2007 and 2010. The total license fee for these movies is $17.2 million and is payable in equal monthly installments over the various ten-year exhibition windows.

In 2011, Crown Media United States entered into an additional agreement with Hallmark Hall of Fame Productions, LLC for the exclusive television license of 16 “Hallmark Hall of Fame” movies produced from 2009 through 2014, for exhibition on Hallmark Channel and Hallmark Movies and Mysteries. These titles are licensed for ten-year windows, with windows commencing at various times between 2011 and 2014, depending on availability. The total license fee for these movies is $10.0 million and is payable in equal monthly installments over the various ten-year exhibition windows.

Effective October 1, 2014, Crown Media United States entered into an additional agreement with Hallmark Hall of Fame Productions, LLC for the exclusive television license of “Hallmark Hall of Fame” movies produced from 2014 through 2016, for exhibition on Hallmark Channel and Hallmark Movies and Mysteries. These titles are licensed for ten-year windows, with windows commencing at times as agreed to by the parties. The license fee for these movies is $660,000 per movie and is payable in equal yearly installments over the license term.

Effective July 6, 2013, the Company and Hallmark Cards extended their July 6, 2011 agreement for another year, whereby Hallmark Cards purchased advertising time from the Company and provided one-week, limited play licenses for each of two new “Hallmark Hall of Fame” two-hour movies produced by Hallmark Cards and up to two additional Hallmark Hall of Fame movies premiered in a previous year. The Company recognized advertising revenue of approximately $2.1 million as it fulfilled its advertising obligation to Hallmark Cards over the life of the agreement.

Effective September 12, 2014, the Company entered into an agreement with Hallmark Cards whereby Hallmark Cards has purchased advertising time from the Company and has provided exclusive premier rights to the two new “Hallmark Hall of Fame” two-hour movies. Additionally, the Company had exclusive rights to broadcast two “Hallmark Hall of Fame” two-hour movies, which had premiered in a previous year. The Company has received $3.0 million under this agreement in connection with Hallmark Cards’ advertising on Hallmark Channel. The Company recognized advertising revenue of approximately $3.8 million as it fulfilled its advertising obligations to Hallmark Cards over the life of the agreement. As of June 30, 2015, four movies have aired on Hallmark Channel.

The Company entered into a new agreement with Hallmark Cards dated July 28, 2015. Under such new agreement, Hallmark Cards has agreed to provide exclusive premier rights to a new holiday Hallmark Hall of Fame two-hour movie and to purchase advertising time from the Company for $2.3 million.

Northpole

The Company has produced Northpole, a Hallmark Channel original holiday movie, which premiered during the 2014 holiday season. It was the first full-length, two-hour original holiday movie produced by Hallmark Channel based on Hallmark Cards’ intellectual property. Costs in the amount of $6.6 million related to this movie have been capitalized and are included in long-term programming rights on the unaudited condensed consolidated balance sheets at both December 31, 2014 and June 30, 2015. The Company recognized licensing revenue of approximately $900,000 related to a merchandising rights agreement with Hallmark Cards during the year ended December 31, 2014, and $0 for both the three and six months ended June 30, 2015.

Northpole II

The Company has produced Northpole II, a Hallmark Channel original holiday movie, which will premier during the 2015 holiday season. It is the second full-length, two-hour original holiday movie produced by Hallmark Channel based on Hallmark Cards’

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intellectual property. Costs in the amount of $6.0 million related to this movie have been capitalized and are included in long-term programming rights on the unaudited condensed consolidated balance sheet at June 30, 2015. Deferred revenue of approximately $855,000 related to a merchandising rights agreement with Hallmark Cards has been included in accounts payable and accrued liabilities on the unaudited condensed consolidated balance sheet at June 30, 2015.

Trademark Agreement with Hallmark Cards

Crown Media United States has a trademark license agreement with Hallmark Licensing, LLC (f/k/a Hallmark Licensing, Inc., “Hallmark Licensing”), an affiliate of Hallmark Cards, for use of the “Hallmark” mark for Hallmark Channel and for Hallmark Movies and Mysteries. The agreement terminates upon the earlier of (i) June 30, 2021 or (ii) the payment in full of all obligations, and terminations of all commitments, under the 2015 Credit Agreement.

The Company is not required to pay any royalty fees under the trademark license agreement. Accordingly, no amounts have been reflected in the accompanying unaudited condensed consolidated balance sheets or unaudited condensed consolidated statements of operations of the Company for these licenses.

Under the license agreement, the Company would be in default if it (i) fails to make any payment due under any loan agreement within five days of its due date or (ii) receives an opinion from its auditors that expresses their doubt with respect to the Company’s ability to continue as a going concern, among others.

6. Long Term Incentive Plan

Employee

The Company grants incentive awards pursuant to the 2012 Long Term Incentive Plan (the “2012 Plan”). For awards granted in 2012 through 2015, the target amount of an award granted was based on a percentage of each employee’s annual base salary ranging from 18% to 85%. Each award is comprised of a Performance Award and an Employment Award. For awards granted in 2010 through 2012, the Performance Award and the Employment Award each constituted half of the award. For awards granted in 2013 through 2015, the Performance Award constituted 60% of the award and the Employment Award constituted 40% of the award. The Performance Award is based on the Company’s achievement of a predetermined cash flow goal (cash flow before interest, taxes and long term incentive expense, and debt repayments) and an adjusted EBITDA goal (before long term incentive) over a three year performance period.

Each of the 40% Employment Awards are subject to continued employment and each of the 60% Performance Awards are subject to the Company’s achievement of financial performance criteria. Each award will be settled in cash and is subject to earlier pro rata settlement as provided in the 2012 Plan.

Changes in the employee long term incentive plan account are as follows:

Independent Directors

The Company entered into agreements (“LTI Agreements”) granting incentive compensation to each director who is not an employee of the Company or Hallmark Cards or their respective subsidiaries subject to continued membership on the Company’s board and achievement of the financial performance criteria. Each award will be settled in cash and is subject to earlier pro rata settlement as provided in each LTI Agreement.

Changes in the independent director long term incentive plan account are as follows:

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Vesting

Vesting of the 2013, 2014 and 2015 performance awards under the LTI Agreements will be determined in accordance with the Company’s performance criteria concerning adjusted EBITDA and cash flow and subject to earlier pro rata settlement as provided in each LTI Agreement.

In recognition of these LTI Agreements, the accompanying unaudited condensed consolidated statements of operations include $1.0 million and $1.3 million among selling, general and administrative expense for the three months ended June 30, 2014 and 2015, respectively. In recognition of these LTI Agreements, the accompanying unaudited condensed consolidated statements of operations include $1.9 million and $2.2 million among selling, general and administrative expense for the six months ended June 30, 2014 and 2015, respectively. Additionally, the $5.9 million and $5.8 million liabilities for these agreements were included in accounts payable and accrued liabilities in the accompanying unaudited condensed consolidated balance sheets at December 31, 2014, and June 30, 2015, respectively.

7. Fair Value

The following table presents the carrying amounts (including interest) and estimated fair values (including interest) of the Company’s financial instruments at December 31, 2014 and June 30, 2015.

ASC Topic 820 Fair Value Measurements and Disclosures defines fair value of a liability as the price that would be paid to transfer a liability in an orderly transaction between market participants at the measurement date. The Company estimated the fair value of the Notes using the trading prices obtained from Bloomberg on December 31, 2014 and June 30, 2015, a Level 2 input, due to the limited amount of trading activity. The Company estimated the fair value of its 2011 Term Loan and 2015 Term Loan using a yield-to-maturity rate obtained from a pricing service, a Level 3 input.

At December 31, 2014 and June 30, 2015, the fair values of the Level 3 financial instruments were $116.0 million and $82.3 million, respectively. No transfers between levels occurred during 2014 and 2015.

Accounts payable and accrued liabilities and receivable are carried at reasonable estimates of their fair values because of the short-term nature of these instruments. Interest rates on borrowings under the bank credit facility are for relatively short periods and variable. Therefore, the fair value of this debt is not significantly affected by fluctuations in interest rates. The credit spread on the debt is fixed, but the market rate will fluctuate. Only a significant change in the creditworthiness of the Company would impact the credit spread. The Company believes that there has not been a significant change in this regard since issuance.

8. Commitments and Contingencies

In the normal course of business, the Company has entered into agreements that commit it to make cash payments in future periods with respect to non-cancelable leases and programming contracts.

Legal Proceedings

From time to time, the Company and/or various officers and directors may be named as defendants in legal actions involving various claims incident to the conduct of its business.  Whenever the Company concludes that an adverse outcome in any such action is probable and a loss amount can reasonably be estimated, the Company records such loss amount.  Related legal costs, net of anticipated insurance reimbursements, are expensed as incurred.

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International Residual and Participation Obligation

Accounts payable and accrued liabilities as of both December 31, 2014, and June 30, 2015 include $1.6 million for the estimated cost of residuals and participations that the buyer of our international business (which included the international rights to our film library) would otherwise be obligated to pay to third parties in connection with international film library sales between the April 2005 sale and April 2015.  The Company’s actual cost of this obligation will depend on the actual internal usage or sales of these films by the buyer.

9.  Income Taxes

The Company files a separate-company federal tax return. In 2013 and 2014 the Company generated federal and state taxable income for both regular tax and alternative minimum tax (“AMT”) purposes.  For regular tax purposes, this income was, and the Company expects it will continue to be, fully offset by net operating loss carryforwards (“NOLs”).  However, for federal AMT purposes, loss carryforwards used to offset the AMT income are subject to a 90% limitation.

During the three months ended June 30, 2014, the Company paid AMT of $1.2 million. During the three months ended June 30, 2014, the Company recognized AMT of $528,000 and this amount is included as a component of accrued liabilities on the accompanying unaudited condensed consolidated balance sheet. During the three months ended June 30, 2015, the Company paid AMT of $1.4 million. During the three months ended June 30, 2015, the Company recognized an AMT obligation of $635,000 and this amount is included as a component of accrued liabilities on the accompanying unaudited condensed consolidated balance sheet.

During the six months ended June 30, 2014, the Company paid AMT of $1.3 million. During the six months ended June 30, 2014, the Company recognized AMT of $913,000 and this amount is included as a component of accrued liabilities on the accompanying unaudited condensed consolidated balance sheet. During the six months ended June 30, 2015, the Company paid AMT of $1.4 million. During the six months ended June 30, 2015, the Company recognized an AMT obligation of $1.2 million and this amount is included as a component of accrued liabilities on the accompanying unaudited condensed consolidated balance sheet.

At December 31, 2014, the Company had federal NOLs of $447.3 million and various state NOLs. The Company maintains a $3.4 million valuation allowance against net deferred tax assets, which are comprised of state NOLs that the Company does not anticipate being able to realize. The federal NOLs will expire between 2019 and 2021, and the state NOLs will expire between 2016 and 2032.

At both December 31, 2014, and June 30, 2015, the total amount of unrecognized tax benefits for uncertain tax positions was $0. The Company recognized no increase or decrease in the amount of unrecognized tax benefits for uncertain tax positions.  Accordingly, at both December 31, 2014, and June 30, 2015, there is no accrued interest related to uncertain tax positions.

By virtue of its previous inclusion in Hallmark Cards consolidated tax group, the Company is subject to examination by the Internal Revenue Service for periods subsequent to March 10, 2003. Further, NOLs are subject to examination in the year they are utilized regardless of whether the tax year in which they were generated has been closed by statute of limitations.  The amount subject to disallowance is limited to the NOL utilized.  Accordingly, the Company is subject to examination for NOLs generated prior to March 11, 2003 as those NOLs are utilized in future tax returns.

10.  Subsequent Events

Redemption of Notes

Pursuant to the terms and conditions of the Indenture, on June 25, 2015 the Company notified The Bank of New York Mellon Trust Company, N.A., as trustee (the “Trustee”), of its intent to redeem 100% of its Notes that remain outstanding on July 24, 2015 (the “Redemption Date”) and requested that on June 25, 2015, the Trustee deliver to the holders of any outstanding Notes an irrevocable notice that, on the Redemption Date, the Company will redeem all of the then outstanding Notes. Outstanding Notes were redeemed at a redemption price of 105.250% of the principal amount thereof, plus accrued and unpaid interest, of approximately $286.5 million. Interest on the Notes ceased to accrue on the Redemption Date.

On July 24, 2015, the Company repurchased $271.5 million in principal amount of Notes for a price of $285.8 million and recorded a charge for the associated debt issuance costs of approximately $4.3 million, which resulted in an aggregate, pre-tax loss on extinguishment of debt of approximately $18.6 million. The Company borrowed $245.0 million under the 2015 Term Loan and $25.0 million under the 2015 Revolver and use cash on hand to redeem the outstanding Notes.

Amendment of New York Office Lease

On July 2, 2015, the Company amended its lease agreement for the New York office and extended the term through October 31, 2026.  Future minimum lease payments under the new lease are $18.9 million.

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ITEM 2.  Management’s Discussion and Analysis of Financial Condition and Results of Operations

The following discussion and analysis of our financial condition and results of operations should be read in conjunction with our unaudited condensed consolidated financial statements and related notes included in Part I, Item 1 in this Quarterly Report on Form 10-Q.  The following analysis contains forward-looking statements about our future revenue, operating results and expectations. See ‘‘Risk Factors and Forward Looking Statements’’ below for a discussion of the risks, assumptions and uncertainties affecting these statements.

Description of Business and Overview

Current Business

We own and operate pay television Networks, each of which is dedicated to high quality entertainment programming for families. Hallmark Channel features popular television series such as Golden Girls, The Middle and Frasier as well as original series such as Cedar Cove, When Calls the Heart and Good Witch, and movies with compelling stories and internationally recognized stars. It also features “lifestyle” programming such as the two hour weekday series, Home and Family. We rebranded Hallmark Movie Channel to Hallmark Movies and Mysteries in September 2014 to give the Network a distinctly different identity and programming lineup than that of Hallmark Channel. Prior to the rebranding, the Channel offered original movies, classic theatrical films and movies from the award winning Hallmark Hall of Fame collection. Hallmark Movies and Mysteries emphasizes programming of the mystery genre, including original movies, movie franchises and series, while continuing to offer the content previously provided under the Hallmark Movie Channel brand. Consistent with the Hallmark brand, both Networks are preeminent sources of holiday programming, with Hallmark Channel often ranking first among cable networks for movies during the Christmas holiday season.

Reaching 84.3 million subscribers as of June 2015, Hallmark Channel is one of the most widely distributed independent networks in the United States. Hallmark Movies and Mysteries reaches more than 56.3 million subscribers as of June 2015.

We believe that we have established these Networks as destinations for viewers seeking outstanding family entertainment and as attractive outlets for advertisers seeking to target these viewers.

Programming acquired from third parties is an important component of our Networks as we continually develop and refine our programming strategy. This programming includes original series and movies produced specifically for us by a variety of experienced television production companies and theatrical movies and “off network” television series licensed to us by major studios and distributors. Our agreements for original series and movies typically provide for exclusive rights in the United States in all media for periods ranging from eight years to perpetuity. Our license agreements for theatrical films and off network programming usually give us more limited rights for license periods of five or more years to exhibit the programming on our Networks. From time to time, we also exhibit excerpts of certain programming on our website.

We also established Crown Media Productions as our in-house production company aimed at increasing the production of original content for multiple platforms. During 2015, Crown Media Productions will produce up to six movies for which we will fund all production costs, own all worldwide rights and fully control the creative and production process. These movies, along with the many other original movies and series which we have commissioned over the years and to which we hold exclusive U.S. rights in all media, are a valuable asset for us.  They will give us the opportunity to meaningfully participate in and profit from new distribution technologies as they develop.

Hallmark Channel and Hallmark Movies and Mysteries are currently distributed to approximately 84% and 56%, respectively, of all United States pay television subscribers. We currently distribute (a) Hallmark Channel through approximately 5,201 cable, satellite and other pay television distribution systems and (b) Hallmark Movies and Mysteries through approximately 3,914 of such systems.

Five of our distributors each accounted for more than 10%, and together accounted for a total of 87% of our consolidated subscriber revenue for both the three and six months ended June 30, 2015.  Two of our distributors each accounted for approximately 15% or more of our consolidated subscribers for both the three and six months ended June 30, 2015, and together accounted for 45% of our consolidated subscribers on that date. Four of our programming content providers each accounted for more than 10% of our total programming rights payable for the six months ended June 30, 2015, and together accounted for a total of 63% of the consolidated programming rights payable during that time period.

We view a “subscriber” as a household that receives, on a full or part-time basis, a Network as part of a program package or a program tier of a distributor. We determine our Hallmark Channel and Hallmark Movies and Mysteries subscribers from subscriber

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numbers reported by Nielsen. Subscribers include both viewers who pay a monthly fee for the tier programming and so called “promotional” subscribers who are given free access to the tier by the distributor for a limited time.

We license the trademark “Hallmark” for use on our Networks pursuant to trademark license agreements with a subsidiary of Hallmark Cards. We believe that the use of this trademark is important for our Networks due to the substantial name recognition and favorable characteristics associated with the name.

Current Challenges

We face numerous operating challenges. Among such challenges are increasing viewership ratings, maintaining and increasing advertising revenue, maintaining and expanding the distribution of the Networks, broadening viewership demographics to meet our target audience, and controlling costs and expenses.

Ratings

Ratings success plays a significant role in our ability to achieve our distribution and advertising goals. We believe our ratings are affected by our ability to: (i) acquire the broadcast rights for and produce series and original movies that appeal to our target demographic and (ii) develop a programming schedule that attracts a high number of viewers. Original productions are our most high profile programs and generate Hallmark Channel’s highest ratings. We have typically incurred additional marketing and promotional expenses to help drive higher ratings for original programming such as for the series Cedar Cove in 2013 and 2014, When Calls the Heart and Signed, Sealed, Delivered in 2014 and Good Witch in 2015. We plan to maintain or increase the number of our original productions and develop a programming schedule that attracts a greater number of viewers in our target demographic, all while controlling the costs and expenses relating to these actions.

Advertising Revenue

During the three months ended June 30, 2015, CPMs for commitments in the second quarter of 2015 Scatter Market for Hallmark Channel were 38% greater than the CPMs for commitments during the 2014/2015 Upfront Season and were 2% lower than achieved during the three months ended June 30, 2014 during the second quarter of 2014 Scatter Market. During the three months ended June 30, 2015, CPMs for commitments in the second quarter of 2015 Scatter Market for Hallmark Movies and Mysteries were 37% greater than the CPMs for commitments during the 2014/2015 Upfront Season and 3% greater than achieved during the three months ended June 30, 2014 during the second quarter of 2014 Scatter Market. The Scatter Marketplace was strong, with volume up significantly on both Networks. Hallmark Channel reflected a slight decrease in CPM due to high volume while Hallmark Movies and Mysteries reflected growth as compared to last year’s Scatter Market.

Our direct response rates for Hallmark Channel during the three months ended June 30, 2015, were 13% higher than those during the three months ended June 30, 2014. Our direct response rates for Hallmark Movies and Mysteries during the three months ended June 30, 2015, were 28% higher than those during the three months ended June 30, 2014. The increased scatter volume placed pressure on the direct response inventory.  This, coupled with a strong market, led to increased direct response rates on both Networks.

During the 2013/2014 and the 2014/2015 Upfront Seasons, we entered into agreements with major advertising firms covering approximately 44% and 41% of our advertising inventory, respectively, for Hallmark Channel.  Advertising inventory units committed during the 2014/2015 Upfront Season for Hallmark Channel were at CPMs 2% higher than the CPMs for those committed during the 2013/2014 Upfront Season, reflecting, in part, increases in rates related to our lifestyle programming block. We are selling the balance of our 2014/2015 broadcast season inventory in the Scatter Market.

During the 2013/2014 and the 2014/2015 Upfront Seasons, Hallmark Movies and Mysteries entered into advertising commitments for approximately 32% and 30% of its advertising inventory, respectively. Advertising inventory units committed during the 2014/2015 Upfront Season for Hallmark Movies and Mysteries were at CPMs consistent with the CPMs for those committed during the 2013/2014 Upfront Season.

Each advertiser with an upfront contract has the option to terminate a portion of its contract. During the three months ended June 30, 2014 and 2015, Hallmark Channel experienced cancellation rates of approximately 10% and 13%, respectively. During the three months ended June 30, 2014 and 2015, Hallmark Movies and Mysteries experienced cancellation rates of approximately 11% and approximately 7%, respectively.

Distribution Agreements

Distribution agreements with multiple systems operators are important as they affect our number of subscribers, which in turn has a major impact on our subscriber fees, the number of persons viewing our programming, and the rates charged for advertising. Our

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long-term distribution challenge will be obtaining favorable renewals of our major distribution agreements as they expire. Our major distribution agreements have terms which expire at various times from December 2015 through December 2032.

Viewers today have many low cost alternatives outside of the traditional linear cable channels to gain access to programming content. Businesses of most networks, including Hallmark Channel and Hallmark Movies and Mysteries, are threatened by an increase of “cord cutters” (i.e., viewers dropping traditional cable and satellite services to instead receive their programming over the internet from over-the-top services, such as SlingTV, Hulu and Netflix) and “cord shavers” (i.e., viewers scaling back the cost of traditional cable packages by opting for less expensive packages).

The universe of cable and satellite TV subscribers in the United States is approximately 104 million homes.  The top 30 cable TV networks in the United States, measured by the number of subscribers, have 93 million or more subscribers.  It is a mature market with relatively high penetration. According to Nielsen, in June 2015, Hallmark Channel and Hallmark Movies and Mysteries were distributed to 84.3 million subscribers and 56.3 million subscribers, respectively.

Commencing on July 23, 2015, the Company and AT&T launched Hallmark Channel and Hallmark Movies and Mysteries on AT&T U-verse; again making the channels available to AT&T U-verse subscribers. A prior distribution agreement between the Company and AT&T had expired on August 31, 2010 and the networks had not been on AT&T U-verse since such date.

Demographics

Each pay television network attracts a different audience with different viewer demographics (i.e., viewers categorized by characteristics such as age, gender and income). As a result, advertisers are able to target the specific groups of viewers who are most likely to purchase their products by advertising on networks which attract the desired viewer demographic.

Our target viewer demographics for Hallmark Channel and Hallmark Movies and Mysteries are adults aged 25 to 54 and women aged 25 to 54.  The average viewing age for Hallmark Channel was 59.2 and 58.7 for the six months ended June 30, 2014 and 2015, respectively. The average viewing age for Hallmark Movies and Mysteries was 65+ for both the six months ended June 30, 2014 and 2015. We believe we need to draw in viewers in our target demographic in order to achieve our revenue goals.

Revenue from Continuing Operations

Our revenue consists of advertising fees and subscriber fees.

Advertising

We earn advertising revenue in the form of spot or general rate advertising and direct response advertising. Spot advertisements and direct response advertisements are generally 30 seconds long and are aired during or between programs. Spot advertisements are priced at a rate per thousand viewers (i.e., the CPM) and almost always include our commitment to deliver a specified number of viewers. Our revenue from direct response advertising varies in proportion to the direct sales achieved by the advertiser in response to the advertising. It is sold without ratings or product sales commitments. Our advertising revenue is affected by the mix of these forms of advertising. Advertising rates also vary by time of year due to seasonal changes in television viewership.

Advertising revenue is recorded net of ADUs. Whenever spot advertising is aired in programs that do not achieve promised viewership ratings, we issue ADUs which provide the advertiser with additional spots at no additional cost to make up for the shortfall. We defer a pro rata amount of advertising revenue and recognize a like amount as a liability for advertisements that do not achieve promised viewership ratings. When the make-good spots are subsequently aired, revenue is recognized and the liability is reduced. The level of inventory that is utilized for our ADU liability varies over time and is influenced by prior fluctuations in our under-delivery, if any, of viewers against promised ratings as well as the rate at which we and our customers mutually agree to utilize the ADUs.

We typically commit approximately 40% to 45% of our Networks’ advertising inventory in the Upfront Season. We hold back a small percentage of our inventory for ADUs and commit the remainder in the spot or Scatter Market and to advertisers that purchase up-front inventory on a calendar year basis.

The volume of advertising inventory that we have available for sale is determined by our chosen commercial load per hour and the number of broadcast hours in which we air licensed program content. Our Networks are broadcast 24 hours per day. Our need to reserve inventory for the use of ADUs reduces the amount of advertising inventory available for cash sales.

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We have advertising sales offices in New York, Los Angeles, Chicago and Atlanta. In addition, we have made significant investments in programming, research, marketing and promotions, all specifically designed to support the sale of advertising time on our Networks.

Subscriber Fees

Subscriber fees are payable to us on a per subscriber basis by pay television distributors for the right to carry our Networks. The fees we receive per subscriber vary with changes in the following factors, among others:

· the degree of competition in the market;

· the relative position in the market of the distributor and the popularity of the Network;

· the packaging arrangements for the Network; and

· length of the contract term and other commercial terms.

We are in continuous negotiations with our existing distributors to have our Networks placed in packages with a greater number of subscribers, thereby increasing our subscriber base and enhancing our opportunities to generate advertising revenue. Fees that we pay to a distributor are capitalized and amortized over the term of the applicable distribution agreement as a reduction in subscriber fee revenue. At the time we sign a distribution agreement, and periodically thereafter, we evaluate the recoverability of the costs we incur against the incremental revenue directly and indirectly associated with each agreement.

Our Networks are usually offered as one of a number of networks on either a basic tier or part of other program packages and are not generally offered on a stand-alone basis. Thus, while cable or satellite customers may subscribe and unsubscribe to the tiers and program packages in which one of our Networks is placed, these customers do not subscribe and unsubscribe to our Networks alone.

Each Network’s subscriber count depends on the number of distributors carrying the Network, the size of such distributors, and the program tiers on which the Network is carried by these distributors. From time to time, we experience increases or decreases in the number of subscribers as promotional periods end, as distributors reposition the Networks from one tier or package to another, or as a distributor arrangement is amended or terminated by us or the distributor. Management analyzes the estimated effect each new or amended distribution agreement will have on revenue and costs.

Cost of Services

Our cost of services consists primarily of the amortization of programming rights, the cost of signal distribution and the cost of promotional segments that are aired between programs.

Critical Accounting Policies, Judgments and Estimates

The preparation of financial statements in conformity with GAAP requires us to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenue and expenses during the reporting period. Actual results could differ from those estimates.

For further information regarding our critical accounting policies, judgments and estimates, please see Notes to Unaudited Condensed Consolidated Financial Statements “Summary of Significant Accounting Policies and Estimates” in Part I, Item 1 of this Quarterly Report on Form 10-Q and “Critical Accounting Policies, Judgments and Estimates” in Part II, Item 7 of our Annual Report on Form 10-K as filed with the Securities and Exchange Commission (the “SEC”) for the year ended December 31, 2014.

Effects of Transactions with Related and Certain Other Parties

We have entered into a number of significant transactions with Hallmark Cards and certain of its subsidiaries. These transactions include, among other things, trademark licenses, program licenses, and an administrative services agreement.  A summary of the terms and financial impact of these transactions is described in our Annual Report on Form 10-K as filed with the SEC for the year ended December 31, 2014 and in the footnotes to the financial statements included in this Quarterly Report on Form 10-Q.

Selected Historical Consolidated Financial Data of Crown Media Holdings

In the table below, we provide selected historical unaudited condensed consolidated financial and other data of Crown Media Holdings and its subsidiaries. The following selected unaudited condensed consolidated statement of operations data for three and six months ended June 30, 2014 and 2015, are derived from the unaudited financial statements of Crown Media Holdings and its

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subsidiaries. Ratings and subscriber information is also unaudited. This data should be read together with the unaudited condensed consolidated financial statements and related notes included elsewhere in this Quarterly Report on Form 10-Q.