*Fiscal year ends in January of the following calen-
dar year; earnings are based on 4.75 million shares
outstanding, of which 50% are closely held.

52-Week Price Range

25 - 16

In May 1979, Cannon's current management team acquired a controlling interest in the company. In fiscal 1980, the company reported profits of l¢ a share; in 1981, results were 68¢ per share; in 1982, 78c; and in 1983, $1.52. This impressive growth was a direct response to management's approach, which can be characterized as the production of "commercially viable" motion pictures with direct negative costs below the average of the industry, presold prior to release so that the guarantees and advances from the nontheatrical marketplace more than cover the total direct negative cost. These presales are achieved through the pay market, the videotape market, syndication, and foreign theatrical. In addition to covering the negative costs prior to theatrical release, Cannon has virtually eliminated the near-term theatrical risk through a distribution deal with MGM/UA; MGM/UA will distribute films not released for theatrical distribution prior to April 1983, for which principle photography has begun prior to December 1985. Under the terms of the agreement, MGM/UA will pay all print costs, advertising costs, and marketing costs, and Cannon will receive 30% of the rentals from the first dollar.

When the film's rentals reach twice the budget of the film, Cannon's share will increase one percentage point, up to 65%, for each incremental $1.0 million in rentals. Under such a structure, Cannon cannot lose money on any film MGM distributes over the short run. The films are broken into four categories, AA, A, B, and C, and for each category, MGM is required to spend a specific amount on advertising and distribute a minimum amount of prints. (A films have an advertising budget of $3 million and 700 prints; C no advertising budget and 100 prints offered in at least 20 markets.)

27

This material is for your private information, and we are not soliciting any action based upon it. Opinions expressed are our present opinions only. The material is based upon information which we consider reliable, but we do not represent that it is accurate or complete. and it should not be relied upon as such. We may from time to time have a long or short position in, and buy or sell, securities mentioned.

Goldman Sachs Research

This deal could be unprofitable for MGM and still profitable for Cannon. MGM has to pay for prints and ads that could run more than $3 million per film depending on its classification. However, MGM does not recoup its print and ad cost until Cannon gets its 30% cut of rentals. A film that might cost MGM $4 million to market and distribute may generate only $3 million in rentals, resulting in $1 million earnings to Cannon and a $2-million loss to MGM. Outside the United States and Canada, there are numerous distributors that handle Cannon films, although, in our opinion, none of the terms are as favorable to Cannon as the MGM deal. Recently, the company struck several deals with Columbia Pictures for the licensing of foreign theatrical and other rights to certain Cannon Films.

There are several risks associated with Cannon. First there is not enough presale money to go around if other motion picture companies pursue this avenue as Cannon has. Second, a very weak release schedule would make renewal of the distribution deal with MGM, or establishing a similar deal, unlikely. Third, MGM controls the distribution schedule, except for the stipulation that two films must be released in the summer and one at Christmas. Fourth, Cannon's success could make it "Hollywood," changing its operating philosophy.

The company intends to produce and release approximately 13 films in 1984, compared with 8 in 1983, 4 in 1982, and 2 in 1981. The total direct negative cost is about $55 million. The 1984 schedule includes such actors as Elliot Gould, Brooke Shields, Roger Moore, Bo Derek, John Cassavetes, Gina Rolands, Katherine Hepburn, Nick Nolte, Robert Mitchum, and others.

In

In June 1982, the company purchased Classic Cinemas Properties Limited of the United Kingdom, which exhibits motion pictures in England and Scotland. Currently, the company operates about 70 theaters in those countries. 1983, these operations generated $18.1 million in revenues and about $1.2 million in operating profits; pretax was about breakeven due to associate interest expense.

Based on the current release schedule and the amount of negative costs already covered, as well as the extremely low overhead of this company, we believe 1984 earnings could advance 45% to $2.20. This earnings gain is on 26% more shares outstanding. Net earnings should advance 85% to $10.6 million from $5.75 million. Currently selling at 7.7 times estimated 1984 earnings, we believe Cannon stock is a speculative, but attractive investment at current levels. Caution should be exercised as there are only 4.8 million shares outstanding, of which 50% are closely held.

The intriguing element in Cannon is the substantial leverage due to the small number of shares outstanding. As judging the quality of an upcoming release schedule is quite difficult, perhaps one way of playing the motion picture business is to buy the most leveraged company, which benefits most on a per-share basis from a strong release schedule. Cannon clearly stands head and shoulders above others in this respect; Orion has more than 16 million shares outstanding, MCA 48 million, Disney 35 million, Warner 72 million, Home Entertainment Group 30 million, and MGM 50 million. Further

This material is for your private information, and we are not soliciting any action based upon it. Opinions expressed are our present opinions only. The material is based upon information which we consider reliable, but we do not represent that it is accurate or complete. and it should not be relied upon as such. We may from time to time have a long or short position in, and buy or sell, securities mentioned.

Goldman Sachs Research

more, the structuring of Cannon's distribution deals with MGM does not generally restrict or limit the earnings leverage from a huge film, as Cannon gets an increasing share of the rentals above and beyond the 30% base once the film passes its trigger point.

In January, Cannon filed a preliminary prospectus offering $25 million in convertible subordinated debentures. Since then, the stock price has declined 23%. In our opinion, Cannon will not do the deal at these depressed prices.