2014 Q3 10Q


 

UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
 
FORM 10-Q
 

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

For The Quarterly Period Ended September 30, 2014
 

VECTOR GROUP LTD.
(Exact name of registrant as specified in its charter)

Delaware
1-5759
65-0949535
(State or other jurisdiction of incorporation
Commission File Number
(I.R.S. Employer Identification No.)
incorporation or organization)
 
 

4400 Biscayne Boulevard
Miami, Florida 33137
305/579-8000
(Address, including zip code and telephone number, including area code,
of the principal executive offices)

 

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, as amended (the “Exchange Act”), 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.
x Yes o No

Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files).
x Yes o No

Indicate by check mark whether the Registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer or a smaller reporting company. See definition of “large accelerated filer”, “accelerated filer” and “smaller reporting company” in Rule 12b-2 of the Exchange Act.
x Large accelerated filer
o  Accelerated filer
o  Non-accelerated filer
o  Smaller reporting company
 
 
(Do not check if a smaller reporting company)
 

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

At October 31, 2014, Vector Group Ltd. had 109,125,587 shares of common stock outstanding.

 



VECTOR GROUP LTD.

FORM 10-Q

TABLE OF CONTENTS

 
Page
PART I. FINANCIAL INFORMATION
 
 
 
Item 1. Vector Group Ltd. Condensed Consolidated Financial Statements (Unaudited):
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 


1
VECTOR GROUP LTD. AND SUBSIDIARIES
CONDENSED CONSOLIDATED BALANCE SHEETS
(Dollars in Thousands, Except Per Share Amounts)
Unaudited

 
September 30,
2014
 
December 31,
2013
ASSETS:
 
 
 
Current assets:
 
 
 
Cash and cash equivalents
$
380,416

 
$
234,466

Investment securities available for sale
333,883

 
172,534

Accounts receivable - trade, net
13,607

 
12,159

Inventories
100,874

 
93,496

Deferred income taxes
25,540

 
50,479

Income taxes receivable, net
14,812

 
—

Restricted assets
2,780

 
1,785

Other current assets
34,226

 
23,392

Total current assets
906,138

 
588,311

Property, plant and equipment, net
86,622

 
79,258

Real estate held for sale, net
10,643

 
20,911

Long-term investments accounted for at cost
32,239

 
20,788

Long-term investments accounted for under the equity method
13,977

 
8,595

Investments in real estate ventures
154,281

 
128,202

Restricted assets
12,063

 
11,981

Deferred income taxes
70,316

 
51,474

Goodwill, trademarks and other intangible assets, net
268,141

 
271,111

Prepaid pension costs
28,165

 
26,080

Other assets
60,798

 
53,553

Total assets
$
1,643,383

 
$
1,260,264

LIABILITIES AND STOCKHOLDERS' DEFICIENCY:
 
 
 
Current liabilities:
 
 
 
   Current portion of notes payable and long-term debt
$
101,158

 
$
151,577

   Current portion of fair value of derivatives embedded within convertible debt
2,996

 
19,128

 Current payments due under the Master Settlement Agreement
91,590

 
25,348

   Current portion of employee benefits
939

 
939

Accounts payable
10,845

 
10,260

Accrued promotional expenses
20,010

 
18,655

Income taxes payable, net
3,174

 
6,423

Accrued excise and payroll taxes payable, net
861

 
11,621

Litigation accruals
3,307

 
59,310

Deferred income taxes
57,763

 
45,734

Accrued interest
17,721

 
21,968

Other current liabilities
34,256

 
34,147

Total current liabilities
344,620

 
405,110

Notes payable, long-term debt and other obligations, less current portion
857,107

 
540,766

Fair value of derivatives embedded within convertible debt
180,474

 
92,934

Non-current employee benefits
48,608

 
47,917

Deferred income taxes
165,726

 
137,650

Payments due under the Master Settlement Agreement
25,809

 
27,571

Litigation accruals
25,029

 
27,058

Other liabilities
3,877

 
2,867

Total liabilities
1,651,250

 
1,281,873

Commitments and contingencies

 

Stockholders' deficiency:
 
 
 
Preferred stock, par value $1.00 per share, 10,000,000 shares authorized
—

 
—

Common stock, par value $0.10 per share, 250,000,000 and 150,000,000 shares authorized, 113,270,834 and 101,430,853 shares issued and 109,125,587 and 97,482,998 shares outstanding
10,912

 
9,748

Additional paid-in capital
—

 
—

Accumulated deficit
(126,739
)
 
(114,787
)
Accumulated other comprehensive income
38,694

 
22,860

Less: 4,145,247 and 3,947,855 shares of common stock in treasury, at cost
(12,857
)
 
(12,857
)
Total Vector Group Ltd. stockholders' deficiency
(89,990
)
 
(95,036
)
Non-controlling interest
82,123

 
73,427

Total stockholders' deficiency
(7,867
)
 
(21,609
)
Total liabilities and stockholders' deficiency
$
1,643,383

 
$
1,260,264


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

2


VECTOR GROUP LTD. AND SUBSIDIARIES
CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS
(Dollars in Thousands, Except Per Share Amounts)
Unaudited

 
Three Months Ended
 
Nine Months Ended
 
September 30,
 
September 30,
 
2014
 
2013
 
2014
 
2013
Revenues:
 
 
 
 
 
 
 
   Tobacco*
$
264,520

 
$
271,516

 
$
748,468

 
$
761,038

   Real estate
153,748

 
6,425

 
415,280

 
19,298

   E-Cigarettes
1,608

 
—

 
9,977

 
—

          Total revenues
419,876

 
277,941

 
1,173,725

 
780,336

 
 
 
 
 
 
 
 
Expenses:
 
 
 
 
 
 
 
   Cost of sales:
 
 
 
 
 
 
 
     Tobacco*
189,728

 
194,991

 
537,667

 
548,377

     Real estate
96,442

 
5,844

 
261,531

 
16,080

     E-Cigarettes
1,066

 
—

 
6,357

 
—

        Total cost of sales
287,236

 
200,835

 
805,555

 
564,457

 
 
 
 
 
 
 
 
Operating, selling, administrative and general expenses
69,431

 
26,478

 
200,431

 
77,915

Litigation settlement and judgment expense
225

 
87,913

 
1,725

 
87,913

Operating income (loss)
62,984

 
(37,285
)
 
166,014

 
50,051

 
 
 
 
 
 
 
 
Other income (expenses):
 
 
 
 
 
 
 
Interest expense
(44,034
)
 
(33,583
)
 
(123,670
)
 
(99,045
)
Loss on extinguishment of debt
—

 
—

 
—

 
(21,458
)
Change in fair value of derivatives embedded within convertible debt
7,127

 
2,800

 
7,447

 
8,299

Acceleration of interest expense related to debt conversion
(994
)
 
—

 
(5,112
)
 
—

Equity income from real estate ventures
3,258

 
9,489

 
3,002

 
16,774

Equity income (loss) on long-term investments
829

 
(53
)
 
1,462

 
770

Gain (loss) on sale of investment securities available for sale
33

 
(99
)
 
(38
)
 
5,110

Other, net
2,466

 
2,871

 
8,167

 
5,151

Income (loss) before provision for income taxes
31,669

 
(55,860
)
 
57,272

 
(34,348
)
Income tax expense (benefit)
11,964

 
(18,969
)
 
21,007

 
(9,287
)
 
 
 
 
 
 
 
 
Net income (loss)
19,705

 
(36,891
)
 
36,265

 
(25,061
)
 
 
 
 
 
 
 
 
Net income attributed to non-controlling interest
(4,826
)
 
—

 
(10,881
)
 
—

 
 
 
 
 
 
 
 
Net income (loss) attributed to Vector Group Ltd.
$
14,879

 
$
(36,891
)
 
$
25,384

 
$
(25,061
)
 
 
 
 
 
 
 
 
Per basic common share:
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Net income (loss) applicable to common shares attributed to Vector Group Ltd.
$
0.14

 
$
(0.39
)
 
$
0.24

 
$
(0.26
)
 
 
 
 
 
 
 
 
Per diluted common share:
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Net income (loss) applicable to common shares attributed to Vector Group Ltd.
$
0.14

 
$
(0.39
)
 
$
0.24

 
$
(0.26
)
 
 
 
 
 
 
 
 
Cash distributions and dividends declared per share
$
0.38

 
$
0.36

 
$
1.14

 
$
1.09

                                      

* Revenues and cost of sales include excise taxes of $115,323, $121,787, $327,434 and $343,294, respectively.


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

3



VECTOR GROUP LTD. AND SUBSIDIARIES
CONDENSED CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME
(Dollars in Thousands, Except Per Share Amounts)
Unaudited


 
Three Months Ended
 
Nine Months Ended
 
September 30,
 
September 30,
 
2014
 
2013
 
2014
 
2013
 
 
 
 
Net income (loss)
$
19,705

 
$
(36,891
)
 
$
36,265

 
$
(25,061
)
 
 
 
 
 
 
 
 
Net unrealized gains on investment securities available for sale:
 
 
 
 
 
 
 
    Change in net unrealized gains
19,184

 
11,848

 
22,292

 
28,752

    Net unrealized (losses) gains reclassified into net income
(33
)
 
99

 
38

 
(5,110
)
Net unrealized gains on investment securities available for sale
19,151

 
11,947

 
22,330

 
23,642

 
 
 
 
 


 
 
Net unrealized (losses) gains on long-term investments accounted for under the equity method:
 
 
 
 
 
 
 
Change in net unrealized (losses) gains
(4,694
)
 
1,754

 
3,920

 
1,170

Net unrealized (losses) gains reclassified into net income
—

 
—

 
—

 
—

Net unrealized (losses) gains on long-term investments accounted for under the equity method
(4,694
)
 
1,754

 
3,920

 
1,170

 
 
 
 
 
 
 
 
Net change in forward contracts
16

 
16

 
48

 
47

 
 
 
 
 
 
 
 
Net change in pension-related amounts
147

 
350

 
442

 
1,052

 
 
 
 
 
 
 
 
Other comprehensive income
14,620

 
14,067

 
26,740

 
25,911

 
 
 
 
 
 
 
 
Income tax effect on:
 
 
 
 
 
 
 
    Change in net unrealized gains on investment securities
(7,438
)
 
(4,810
)
 
(9,218
)
 
(11,673
)
    Net unrealized (losses) gains reclassified into net income on investment securities
13

 
(41
)
 
(16
)
 
2,074

Change in unrealized (losses) gains on long-term investments
1,933

 
(712
)
 
(1,621
)
 
(475
)
Net unrealized (losses) gains reclassified into net income on long-term investments accounted for under the equity method
—

 
—

 
—

 
—

Forward contracts
(8
)
 
(7
)
 
(20
)
 
(19
)
Pension-related amounts
(105
)
 
(142
)
 
(31
)
 
(427
)
Income tax provision on other comprehensive income
(5,605
)
 
(5,712
)
 
(10,906
)
 
(10,520
)
 
 
 
 
 
 
 
 
Other comprehensive income, net of tax
9,015

 
8,355

 
15,834

 
15,391

 
 
 
 
 
 
 
 
Comprehensive income (loss)
28,720

 
(28,536
)
 
52,099

 
(9,670
)
 
 
 
 
 
 
 
 
Comprehensive income attributed to non-controlling interest
(4,826
)
 
—

 
(10,881
)
 
—

Comprehensive income (loss) attributed to Vector Group Ltd.
$
23,894

 
$
(28,536
)
 
$
41,218

 
$
(9,670
)

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

4


VECTOR GROUP LTD. AND SUBSIDIARIES
CONDENSED CONSOLIDATED STATEMENTS OF STOCKHOLDERS' DEFICIENCY
(Dollars in Thousands, Except Per Share Amounts)
Unaudited


 
Vector Group Ltd. Stockholders' Deficiency
 
 
 
 
 
 
 
Additional
 
 
 
Accumulated
Other
 
 
 
 
 
 
 
Common Stock
 
Paid-In
 
Accumulated
 
Comprehensive
 
Treasury
 
Non-controlling
 
 
 
Shares
 
Amount
 
Capital
 
Deficit
 
Income
 
Stock
 
Interest
 
Total
Balance, January 1, 2014
97,482,998

 
$
9,748

 
$
—

 
$
(114,787
)
 
$
22,860

 
$
(12,857
)
 
$
73,427

 
$
(21,609
)
Net income
—

 
—

 
—

 
25,384

 
—

 
—

 
10,881

 
36,265

Change in net loss and prior service cost, net of income taxes
—

 
—

 
—

 
—

 
411

 
—

 
—

 
411

Forward contract adjustments, net of income taxes
—

 
—

 
—

 
—

 
28

 
—

 
—

 
28

Unrealized gain on long-term investment securities accounted for under the equity method, net of income taxes
—

 
—

 
—

 
—

 
2,299

 
—

 
—

 
2,299

Change in net unrealized gain on investment securities available for sale, net of income taxes
—

 
—

 
—

 
—

 
13,074

 
—

 
—

 
13,074

Net unrealized loss on investment securities available for sale reclassified into net income, net of income taxes
—

 
—

 
—

 
—

 
22

 
—

 
—

 
22

Unrealized gain on investment securities, net of income taxes
—

 
—

 
—

 
—

 
—

 
—

 
—

 
13,096

Total other comprehensive income
—

 
—

 
—

 
—

 
—

 
—

 
—

 
15,834

Total comprehensive income
—

 
—

 
—

 
—

 
—

 
—

 
—

 
52,099

Distributions and dividends on common stock
—

 
—

 
(84,524
)
 
(36,816
)
 
—

 
—

 
—

 
(121,340
)
Restricted stock grant
1,000,000

 
100

 
—

 
—

 
—

 
—

 
—

 
100

Effect of stock dividend
5,195,856

 
520

 
—

 
(520
)
 
—

 
—

 
—

 
—

Note conversions, inclusive of taxes $1,006
5,107,050

 
510

 
62,639

 
—

 
—

 
—

 
—

 
63,149

Beneficial conversion feature of notes payable, net of income taxes of $10,327
—

 
—

 
14,648

 
—

 
—

 
—

 
—

 
14,648

Exercise of stock options
339,683

 
34

 
4,273

 
—

 
—

 
—

 
—

 
4,307

Tax benefit of options exercised
—

 
—

 
937

 
—

 
—

 
—

 
—

 
937

Stock-based compensation
—

 
—

 
2,027

 
—

 
—

 
—

 
—

 
2,027

Contributions made by non-controlling interest
—

 
—

 
—

 
—

 
—

 
—

 
2,676

 
2,676

Distributions to non-controlling interest
—

 
—

 
—

 
—

 
—

 
—

 
(4,861
)
 
(4,861
)
Balance as of September 30, 2014
109,125,587

 
$
10,912

 
$
—

 
$
(126,739
)
 
$
38,694

 
$
(12,857
)
 
$
82,123

 
$
(7,867
)


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

5


VECTOR GROUP LTD. AND SUBSIDIARIES
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
(Dollars in Thousands, Except Per Share Amounts)
Unaudited


 
Nine Months Ended
 
Nine Months Ended
 
September 30,
2014
 
September 30,
2013
Net cash provided by operating activities
$
100,044

 
$
55,244

Cash flows from investing activities:
 
 
 
Sale of investment securities
174,253

 
82,649

Purchase of investment securities
(312,919
)
 
(129,483
)
Proceeds from sale or liquidation of long-term investments
549

 
75

Purchase of long-term investments
(12,000
)
 
(5,000
)
Investments in real estate ventures
(29,378
)
 
(45,977
)
Investments in consolidated real estate businesses
—

 
(7,697
)
Distributions from real estate ventures
5,540

 
2,463

Increase in cash surrender value of life insurance policies
(435
)
 
(470
)
Increase in restricted assets
(1,108
)
 
(553
)
Issuance of notes receivable
(250
)
 
—

Proceeds from sale of fixed assets
4

 
11

Capital expenditures
(20,746
)
 
(8,686
)
Repayments of notes receivable
933

 
9,460

Purchase of subsidiaries
(250
)
 
—

Net cash used in investing activities
(195,807
)
 
(103,208
)
Cash flows from financing activities:
 
 
 
Proceeds from debt issuance
413,918

 
454,200

Financing costs
(12,360
)
 
(11,750
)
Repayments of debt
(10,305
)
 
(420,710
)
Borrowings under revolver
645,894

 
723,578

Repayments on revolver
(673,866
)
 
(736,007
)
Dividends and distributions on common stock
(122,051
)
 
(107,302
)
Distributions to non-controlling interest
(4,861
)
 
—

Proceeds from exercise of Vector options
4,407

 
528

Tax benefit of options exercised
937

 
33

Net cash provided by (used in) financing activities
241,713

 
(97,430
)
Net increase (decrease) in cash and cash equivalents
145,950

 
(145,394
)
Cash and cash equivalents, beginning of period
234,466

 
405,855

Cash and cash equivalents, end of period
$
380,416

 
$
260,461


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

6
VECTOR GROUP LTD.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

(Dollars in Thousands, Except Per Share Amounts)
Unaudited


1.
SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES

(a)
Basis of Presentation:

The condensed consolidated financial statements of Vector Group Ltd. (the “Company” or “Vector”) include the accounts of VGR Holding LLC (“VGR Holding”), Liggett Group LLC (“Liggett”), Vector Tobacco Inc. (“Vector Tobacco”), Liggett Vector Brands LLC (“Liggett Vector Brands”), Zoom E-Cigs LLC ("Zoom"), New Valley LLC (“New Valley”) and other less significant subsidiaries. New Valley includes the accounts of Douglas Elliman Realty, LLC ("Douglas Elliman") and other less significant subsidiaries. All significant intercompany balances and transactions have been eliminated.

Liggett and Vector Tobacco are engaged in the manufacture and sale of cigarettes in the United States. Zoom is engaged in the sale of electronic cigarettes in the United States. New Valley is engaged in the real estate business.

The accompanying unaudited, interim condensed consolidated financial statements have been prepared in accordance with U.S. generally accepted accounting principles for interim financial information and, in management's opinion, contain all adjustments, consisting only of normal recurring items, necessary for a fair statement of the results for the periods presented. Accordingly, they do not include all of the information and footnotes required by U.S. generally accepted accounting principles for complete financial statements. These condensed consolidated financial statements should be read in conjunction with the consolidated financial statements and the notes thereto included in the Company's Annual Report on Form 10-K for the year ended December 31, 2013 filed with the Securities and Exchange Commission. The consolidated results of operations for interim periods should not be regarded as necessarily indicative of the results that may be expected for the entire year.

Certain reclassifications have been made to the 2013 financial information to conform to the 2014 presentation.

In connection with the December 13, 2013 acquisition of Douglas Elliman, the Company was required to disclose Douglas Elliman’s revenues and costs separately on the face of its condensed consolidated statements of operation. Consequently, the Company also revised the prior period in order to correctly present the gross revenues and costs of the other consolidated real estate investments as follows:

 
Three Months Ended
 
Nine Months Ended
 
September 30, 2013
 
September 30, 2013
 
As Previously Reported
 
Revision
 
As Revised
 
As Previously Reported
 
Revision
 
As Revised
Revenues
$
271,516

 
$
(271,516
)
 
$
—

 
$
761,038

 
$
(761,038
)
 
$
—

Tobacco revenues
—

 
271,516

 
271,516

 
—

 
761,038

 
761,038

Real estate revenues
—

 
6,425

 
6,425

 
—

 
19,298

 
19,298

Total revenue
271,516

 
6,425

 
277,941

 
761,038

 
19,298

 
780,336

 
 
 
 
 
 
 
 
 
 
 
 
Cost of Sales
194,991

 
(194,991
)
 
—

 
548,377

 
(548,377
)
 
—

Tobacco cost of sales
—

 
194,991

 
194,991

 
—

 
548,377

 
548,377

Real estate cost of sales
—

 
5,844

 
5,844

 
—

 
16,080

 
16,080

Total cost of sales
194,991

 
5,844

 
200,835

 
548,377

 
16,080

 
564,457

 
 
 
 
 
 
 
 
 
 
 
 
Operating, selling, administrative and general expenses
$
25,897

 
$
581

 
$
26,478

 
$
74,697

 
$
3,218

 
$
77,915




7
VECTOR GROUP LTD.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS – (Continued)

(Dollars in Thousands, Except Per Share Amounts)
Unaudited


In addition, the preliminary fair values of the assets acquired, liabilities assumed and the non-controlling interest recorded for Douglas Elliman as of December 13, 2013 were adjusted during the first quarter of 2014. Goodwill and current liabilities were reduced by $454 and $105, respectively, while intangible assets related to favorable lease agreements were increased by $559. The amounts are preliminary as management is still evaluating the valuations of certain assets acquired in the acquisition. These adjustments have been reflected in the Company's condensed consolidated balance sheet as of December 31, 2013.

During the second quarter of 2014, Douglas Elliman accounts payable as of December 31, 2013, was reduced by $16,434, while current liabilities were increased by $16,434. Thus, prior period information has been recast to conform to the current presentation. This change did not have an impact to the Company's historical consolidated results.

As a result of the amount of operating losses of Zoom as of September 30, 2014 when compared to the remaining components of Corporate and Other segment, the Company has reevaluated its operating segments and has separated Zoom’s operations from the Corporate and Other segment for previously reported 2014 periods and from the Tobacco segment for the previously reported 2013 periods. Thus, prior period information has been recast to conform to the current presentation. This change did not have an impact to the Company's historical consolidated results.


(b)
Distributions and Dividends on Common Stock:

The Company records distributions on its common stock as dividends in its condensed consolidated statement of stockholders' deficiency to the extent of retained earnings and accumulated paid-in capital. Any amounts exceeding retained earnings are recorded as a reduction to additional paid-in capital. Any amounts then exceeding accumulated paid-in capital are recorded as an increase to accumulated deficit.


(c)
Revenue Recognition:

Tobacco sales:  Revenues from sales are recognized upon the shipment of finished goods when title and risk of loss have passed to the customer, there is persuasive evidence of an arrangement, the sale price is determinable and collectibility is reasonably assured. The Company provides an allowance for expected sales returns, net of any related inventory cost recoveries. Certain sales incentives, including promotional price discounts, are classified as reductions of net sales. The Company’s accounting policy is to include federal excise taxes in revenues and cost of goods sold. Since the Company’s significant line of business is tobacco, the Company’s financial position and its results of operations and cash flows have been and could continue to be materially adversely affected by significant unit sales volume declines at the Company and industry levels, regulation, litigation and defense costs, increased tobacco costs or reductions in the selling price of cigarettes in the near term.
Real estate sales: Revenue is recognized when persuasive evidence of an arrangement exists, the price is fixed or determinable, the transaction has been completed and collectibility of the resulting receivable is reasonably assured. Real estate and mortgage commissions earned by the Company’s real estate and mortgage brokerage businesses are recorded as revenue on a gross basis upon the closing of a real estate transaction as evidenced when the escrow or similar account is closed, the transaction documents have been recorded and funds are distributed to all appropriate parties. Commissions and royalties expenses are recognized concurrently with related revenues. Property management fees earned are recorded as revenue when the related services are performed.
E-Cigarettes:  Revenues from sales are recognized upon the shipment of finished goods when title and risk of loss have passed to the customer, there is persuasive evidence of an arrangement, the sale price is determinable and collectibility is reasonably assured. The Company provides an allowance for expected sales returns, net of any related inventory cost recoveries. Certain sales incentives, including promotional price discounts, are classified as reductions of net sales.

(d)
Earnings Per Share (“EPS”):

Information concerning the Company's common stock has been adjusted to give retroactive effect to the 5% stock dividend paid to Company stockholders on September 26, 2014. All per share amounts and references to share amounts have been updated to reflect the retrospective effect of the stock dividends.


8
VECTOR GROUP LTD.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS – (Continued)

(Dollars in Thousands, Except Per Share Amounts)
Unaudited


Net income (loss) for purposes of determining basic and diluted EPS was as follows:

 
Three Months Ended
 
Nine Months Ended
 
September 30,
 
September 30,
 
2014
 
2013
 
2014
 
2013
Net income (loss) attributed to Vector Group Ltd.
$
14,879

 
$
(36,891
)
 
$
25,384

 
$
(25,061
)
Expense attributed to participating securities
(423
)
 
—

 
(739
)
 
—

Net income (loss) attributed to Vector Group Ltd. available to common stockholders
$
14,456

 
$
(36,891
)
 
$
24,645

 
$
(25,061
)
 

Basic and diluted EPS were calculated using the following shares:

 
Three Months Ended
 
Nine Months Ended
 
September 30,
 
September 30,
 
2014
 
2013
 
2014
 
2013
Weighted-average shares for basic EPS
103,213,667

 
95,775,444

 
101,395,081

 
95,741,318

Plus incremental shares related to stock options and non-vested restricted stock
114,623

 
—

 
113,070

 
—

Weighted-average shares for basic and fully diluted EPS
103,328,290

 
95,775,444

 
101,508,151

 
95,741,318



The following stock options, non-vested restricted stock and shares issuable upon the conversion of convertible debt were outstanding during the three and nine months ended September 30, 2014 and 2013 but were not included in the computation of diluted EPS because the effect was anti-dilutive.

 
Three Months Ended
 
Nine Months Ended
 
September 30,
 
September 30,
 
2014
 
2013
 
2014
 
2013
  Number of stock options
N/A

 
524,887

 
N/A

 
524,887

  Weighted-average exercise price
N/A

 
$
11.88

 
N/A

 
$
11.88

  Weighted-average shares of non-vested restricted stock
N/A

 
55,125

 
N/A

 
55,125

  Weighted-average expense per share
N/A

 
$
15.52

 
N/A

 
$
15.52

  Weighted-average number of shares issuable upon
  conversion of debt
32,599,702

 
29,726,047

 
31,257,300

 
29,726,047

  Weighted-average conversion price
$
18.36

 
$
14.50

 
$
17.30

 
$
14.50




9
VECTOR GROUP LTD.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS – (Continued)

(Dollars in Thousands, Except Per Share Amounts)
Unaudited


(e)
Fair Value of Derivatives Embedded within Convertible Debt:

The Company has estimated the fair market value of the embedded derivatives based principally on the results of a valuation model. The estimated fair value of the derivatives embedded within the convertible debt is based principally on the present value of future dividend payments expected to be received by the convertible debt holders over the term of the debt. The discount rate applied to the future cash flows is estimated based on a spread in the yield of the Company's debt when compared to risk-free securities with the same duration; thus, a readily determinable fair market value of the embedded derivatives is not available. The valuation model assumes future dividend payments by the Company and utilizes interest rates and credit spreads for secured to unsecured debt, unsecured to subordinated debt and subordinated debt to preferred stock to determine the fair value of the derivatives embedded within the convertible debt. The valuation also considers other items, including current and future dividends and the volatility of the Company's stock price.  At September 30, 2014, the range of estimated fair market values of the Company's embedded derivatives was between $181,403 and $185,583.  The Company recorded the fair market value of its embedded derivatives at the midpoint of the range at $183,470 as of September 30, 2014. At December 31, 2013, the range of estimated fair market values of the Company's embedded derivatives was between $110,758 and $113,392.  The Company recorded the fair market value of its embedded derivatives at the midpoint of the range at $112,062 as of December 31, 2013.  The estimated fair market value of the Company's embedded derivatives could change significantly based on future market conditions. (See Note 6.)

(f)
Other Income, Net:

Other income, net consists of:
 
Three Months Ended
 
Nine Months Ended
 
September 30,
 
September 30,
 
2014
 
2013
 
2014
 
2013
Gain on warrants
$
991

 
$
135

 
$
868

 
$
172

Interest income
1,476

 
2,647

 
3,665

 
4,123

Accretion of interest income from debt discount on notes receivable
11

 
81

 
87

 
704

Out-of-period adjustment
—

 
—

 
1,231

 
—

Acceleration of closing fee related to termination of Douglas Elliman joint venture
—

 
—

 
2,335

 
—

Gain on long-term investment
—

 
—

 
—

 
142

Other (expense) income
(12
)
 
8

 
(19
)
 
10

Other income, net
$
2,466

 
$
2,871

 
$
8,167

 
$
5,151


The out-of-period adjustment, recording for the period ending March 31, 2014, related to a non-accrual of a receivable from Douglas Elliman in the fourth quarter of 2013 and would have increased the Company’s gain on acquisition of Douglas Elliman in 2013. The Company assessed the materiality of this error on all previously issued financial statements and concluded that the error was immaterial to all previously issued financial statements. The impact of correcting this error in the current year is not expected to be material to the Company’s 2014 consolidated financial statements.


10
VECTOR GROUP LTD.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS – (Continued)

(Dollars in Thousands, Except Per Share Amounts)
Unaudited


(g)
Goodwill, Trademarks and Other Intangible Assets:

The components of "Goodwill, trademarks and other intangible assets, net" were as follows:

 
September 30,
2014
 
December 31,
2013
Intangible assets, net
$
7,649

 
$
11,919

Goodwill
72,976

 
71,681

Trademarks
80,005

 
80,000

Intangible asset associated with benefit under the Master Settlement Agreement
107,511

 
107,511

 
$
268,141

 
$
271,111


The preliminary fair values of the assets acquired, liabilities assumed and the non-controlling interest recorded for Douglas Elliman as of December 13, 2013 were adjusted during the first quarter of 2014. Goodwill and current liabilities were reduced by $454 and $105, respectively, while intangible assets related to favorable lease agreements were increased by $559. The amounts are preliminary as management is still evaluating the valuations of certain assets acquired in the acquisition. These adjustments have been reflected in the Company's condensed consolidated balance sheet as of December 31, 2013.

(h)
Restricted Stock Grant

On July 23, 2014, the Company granted its President and Chief Executive Officer an award of 1,050,000 shares of its Common Stock subject to service and performance-based vesting. The Award Shares will be issued pursuant to the terms of an agreement that provides that both a performance requirement and a continued employment requirement must be met over a seven-year performance period to earn vested rights with respect to the Award Shares. The maximum potential amount of the Award Shares reflects recognition of the CEO's contributions as CEO since January 1, 2006 and the value of his management and real estate expertise to the Company.

(i)
New Accounting Pronouncements:
 
In August 2014, the Financial Accounting Standards Board (“FASB”) issued Accounting Standards Update (“ASU”) 2014-15, Presentation of Financial Statements-Going Concern (Subtopic 205-40)-Disclosure of Uncertainties about an Entity’s Ability to Continue as a Going Concern (“ASU 2014-15”). ASU 2014-15 provides guidance to United States Generally Accepted Accounting Principles ("U.S. GAAP") about management’s responsibility to evaluate whether there is a substantial doubt about an entity’s ability to continue as a going concern and to provide related footnote disclosures. Specifically, ASU 2014-15 (1) defines the term substantial doubt, (2) requires an evaluation of every reporting period including interim periods, (3) provides principles for considering the mitigating effect of management’s plan, (4) requires certain disclosures when substantial doubt is alleviated as a result of consideration of management’s plans, (5) requires an express statement and other disclosures when substantial doubt is not alleviated, and (6) requires an assessment for a period of one year after the date that the financial statements are issued (or available to be issued). The amendments in this update are effective for annual periods beginning after December 15, 2016 and interim periods within those reporting periods. Earlier adoption is permitted. This ASU is not anticipated to have a material impact on the Company's consolidated financial statements and notes to the consolidated financial statements.

In May 2014, the FASB issued ASU No. 2014-09, “Revenue from Contracts with Customers.” This ASU is the result of a convergence project between the FASB and the International Accounting Standards Board. The core principle behind ASU 2014-09 is that an entity should recognize revenue to depict the transfer of promised goods and services to customers in an amount that reflects the consideration to which the entity expects to be entitled in exchange for delivering those goods and services. This model involves a five-step process that includes identifying the contract with the customer, identifying the performance obligations in the contract, determining the transaction price, allocating the transaction prices to the performance obligations in the contract and recognizing revenue when (or as) the entity satisfies the performance obligations. The guidance in the ASU supersedes existing revenue recognition guidance and is effective for annual reporting periods beginning after December 15, 2016 with early application not permitted. The ASU allows two methods of adoption; a full retrospective approach where three years of financial information are presented in accordance with the new standard, and a modified retrospective approach where the ASU is applied as a cumulative

11
VECTOR GROUP LTD.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS – (Continued)

(Dollars in Thousands, Except Per Share Amounts)
Unaudited


effect adjustment as of the date of adoption. The Company is currently evaluating the impact of adopting the new standard but does not anticipate it will have a material impact on the Company's consolidated financial statements or notes to the consolidated financial statements.

In April 2014, the Financial Accounting Standards Board issued final guidance to change the criteria for reporting discontinued operations while enhancing disclosures in this area (ASU No. 2014-08). Under the new guidance, only disposals representing a strategic shift, such as a major line of business, a major geographical area or a major equity investment, should be presented as discontinued operations. The guidance will be applied prospectively to new disposals and new classifications of disposal groups as held for sale after the effective date. The guidance is effective for annual financial statements with fiscal years beginning on or after December 15, 2014 with early adoption permitted for disposals or classifications as held for sale which have not been reported in financial statements previously issued or available for issuance. The Company will adopt the guidance effective January 1, 2015 and the guidance is not anticipated to have a material impact on the Company's consolidated financial statements and notes to the consolidated financial statements.

In March 2014, the Emerging Issues Task Force (the “Task Force”) reached a final consensus to amend the accounting guidance for stock compensation tied to performance targets (Issue No. 13-D). The objective of this guidance is to clarify the accounting treatment of certain types of performance conditions in stock-based compensation awards, more specifically, when performance targets can be achieved after the requisite service period. The Task Force concluded that performance criteria subsequent to a service period vesting requirement should be treated as vesting conditions, and as a result, this type of performance condition may delay expense recognition until achievement of the performance target is probable. Issue No. 13-D will be effective for all entities for reporting periods (including interim periods) beginning after December 15, 2015, and early adoption is permitted. The Company is currently evaluating the impact of adopting the new standard but does not anticipate it will have a material impact on the Company's consolidated financial statements or notes to the consolidated financial statements.

2.
INVENTORIES

Inventories consist of:
 
September 30,
2014
 
December 31,
2013
Leaf tobacco
$
55,769

 
$
49,140

Other raw materials
3,402

 
3,161

Work-in-process
606

 
353

Finished goods
63,628

 
67,201

E-Cigarettes
7,963

 
839

Inventories at current cost
131,368

 
120,694

LIFO adjustments
(30,494
)
 
(27,198
)
 
$
100,874

 
$
93,496


The Company has a leaf inventory management program whereby, among other things, it is committed to purchase certain quantities of leaf tobacco. The purchase commitments are for quantities not in excess of anticipated requirements and are at prices, including carrying costs, established at the commitment date. At September 30, 2014, Liggett had tobacco purchase commitments of approximately $11,948 and E-Cigarettes purchase commitments of $389. The Company has a single source supply agreement for fire safe cigarette paper through 2015.

All of the Company's inventories at September 30, 2014 and December 31, 2013 have been reported under the LIFO method.



12
VECTOR GROUP LTD.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS – (Continued)

(Dollars in Thousands, Except Per Share Amounts)
Unaudited


3. INVESTMENT SECURITIES AVAILABLE FOR SALE

The components of investment securities available for sale at September 30, 2014 were as follows:

 
Cost
 
Gross
Unrealized
Gains
 
Gross
Unrealized
Losses
 
Fair
Value
Marketable equity securities
$
56,098

 
$
88,913

 
$
(1,047
)
 
$
143,964

Mutual funds invested in fixed income securities
60,637

 
—

 
(586
)
 
60,051

Marketable debt securities
129,432

 
1,616

 
(1,180
)
 
129,868

Total investment securities available for sale
$
246,167

 
$
90,529

 
$
(2,813
)
 
$
333,883


The components of investment securities available for sale at December 31, 2013 were as follows:

 
Cost
 
Gross
Unrealized
Gains
 
Gross
Unrealized
Losses
 
Fair
Value
Marketable equity securities
$
53,586

 
$
65,851

 
$
(963
)
 
$
118,474

Marketable debt securities
53,063

 
1,497

 
(500
)
 
54,060

Total investment securities available for sale
$
106,649

 
$
67,348

 
$
(1,463
)
 
$
172,534



The table below summarizes the maturity dates of marketable debt securities at September 30, 2014.

Investment Type:
Market Value
 
Under 1 Year
 
1 Year up to 5 Years
 
More than 5 Years
U.S. Government securities
$
44,220

 
$
—

 
$
44,220

 
$
—

Corporate securities
50,913

 
3,480

 
40,031

 
7,402

U.S. mortgage backed securities
297

 
—

 
297

 
—

Commercial mortgage-backed securities
15,561

 
2,261

 
13,300

 
—

U.S. asset backed securities
14,671

 
3,980

 
10,691

 
—

Government agencies
2,900

 
731

 
2,169

 
—

Index-linked U.S. bonds
1,306

 
—

 
1,306

 
—

Total marketable debt securities by maturity dates
$
129,868

 
$
10,452

 
$
112,014

 
$
7,402





13
VECTOR GROUP LTD.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS – (Continued)

(Dollars in Thousands, Except Per Share Amounts)
Unaudited


4.
LONG-TERM INVESTMENTS

Long-term investments accounted for at cost:
 
September 30, 2014
 
December 31, 2013
 
Carrying
 
Fair
 
Carrying
 
Fair
 
Value
 
Value
 
Value
 
Value
Investment partnerships
$
31,541

 
$
36,735

 
$
20,041

 
$
24,095

Real estate partnership
698

 
1,102

 
747

 
1,067

Investments accounted for at cost
$
32,239

 
$
37,837

 
$
20,788

 
$
25,162


The Company contributed an additional $12,000 to Investment Partnerships during the nine months ended September 30, 2014.

Long-term investment partnership accounted for under the equity method:
 
September 30,
2014
 
December 31,
2013
Investment partnership
$
13,977

 
$
8,595


The Company recorded equity income of $829 and an equity loss of $53 for the three months ended September 30, 2014 and 2013, respectively, related to the limited partnership. The Company recorded equity income of $1,462 and $770 for the nine months ended September 30, 2014 and 2013, respectively, related to the limited partnership.

The carrying value of the investment was approximately $13,977 and $8,595 as of September 30, 2014 and December 31, 2013, respectively, which approximated the investment's fair value.


5. NEW VALLEY LLC
Residential Brokerage Business Acquisition. New Valley is engaged in the real estate business and is seeking to acquire additional real estate properties and operating companies. As of January 1, 2013, the Company owned a 50% interest in Douglas Elliman, and the Company accounted for its 50% using the equity method of accounting. On December 13, 2013, an affiliate of New Valley acquired an additional 20.59% interest in Douglas Elliman from Prudential Real Estate Financial Services of America, Inc. for a purchase price of $60,000 in cash. The acquisition increased the Company's ownership position in Douglas Elliman from 50% to 70.59% and resulted in the Company having control.
The transaction was accounted for as an acquisition of a business in the fourth quarter of 2013. The preliminary fair values of the assets acquired, liabilities assumed and the non-controlling interest recorded for Douglas Elliman as of December 13, 2013 were adjusted during the first quarter of 2014. Goodwill and current liabilities were reduced by $454 and $105, respectively, while intangible assets related to favorable lease agreements were increased by $559. The amounts are preliminary as management is still evaluating the valuations of certain assets acquired in the acquisition. These adjustments have been reflected in the Company's condensed consolidated balance sheet as of December 31, 2013 and September 30, 2014.
Equity Method of Accounting. Prior to December 13, 2013, New Valley accounted for its 50% interest in Douglas Elliman under the equity method of accounting. New Valley recorded income associated with Douglas Elliman of $9,075 and $16,513 for the three and nine months ended September 30, 2013, respectively, which included management fees earned by New Valley from Douglas Elliman.
Summarized income statement information for Douglas Elliman for the three and nine months ended September 30, 2013, is presented below.

14
VECTOR GROUP LTD.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS – (Continued)

(Dollars in Thousands, Except Per Share Amounts)
Unaudited


 
 
Three Months Ended
 
Nine Months Ended
 
 
 
September 30,
2013
 
September 30,
2013
 
Revenues
 
$
127,537

 
$
315,721

 
Costs and expenses
 
109,178

 
282,885

 
Depreciation expense
 
986

 
2,944

 
Amortization expense
 
56

 
167

 
Other income
 
(109
)
 
(512
)
 
Interest income, net
 
(14
)
 
(22
)
 
Income tax expense
 
442

 
684

 
Net income
 
$
16,998

 
$
29,575

 

New Valley received cash distributions from Douglas Elliman of $2,961 for the nine months ended September 30, 2013.

15
VECTOR GROUP LTD.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS – (Continued)

(Dollars in Thousands, Except Per Share Amounts)
Unaudited



Investments in real estate ventures.  New Valley also holds equity investments in various real estate projects domestically and internationally. The components of “Investments in real estate ventures” were as follows:

 
September 30,
2014
 
December 31,
2013
 
 
 
 
Milanosesto Holdings (f/k/a Sesto Holdings)
$
5,037

 
$
5,037

Land Development
5,037

 
5,037

 
 
 
 
10 Madison Square Park West (f/k/a 1107 Broadway)
6,384

 
6,579

The Whitman
526

 
1,165

The Marquand
12,000

 
7,000

11 Beach Street
12,328

 
11,160

20 Times Square (f/k/a 701 Seventh Avenue)
12,481

 
11,148

101 Murray Street
25,269

 
19,256

160 Leroy Street
1,353

 
1,150

PUBLIC Chrystie House (f/k/a Chrystie Street)
3,180

 
2,048

25-19 43rd Avenue
733

 
—

Queens Plaza (f/k/a 23-10 Queens Plaza South)
12,590

 
8,058

8701 Collins Avenue
4,634

 
3,794

125 Greenwich Street
9,308

 
—

Condominium and Mixed Use Development
100,786

 
71,358

 
 
 
 
Maryland Portfolio
3,348

 
3,498

ST Portfolio
15,508

 
15,984

Apartment Buildings
18,856

 
19,482

 
 
 
 
Park Lane Hotel
18,097

 
19,514

Hotel Taiwana
6,850

 
7,428

Coral Beach and Tennis Club
2,708

 
2,964

Hotels
27,655

 
29,906

 
 
 
 
Other
1,947

 
2,419

 
 
 
 
Investments in real estate ventures
$
154,281

 
$
128,202

 
Condominium and Mixed Use Development:
Condominium and mixed use developments investments range in ownership percentage from 5% to 49.5%. New Valley recorded equity income of $5,090 and $7,389 during the three and nine months ended September 30, 2014, respectively. The Company recorded $5,000 of income from real estate ventures for the three and nine months ended September 30, 2014 in connection with its proportionate share of the Marquand’s income from the sale of approximately 40% of its units during the quarter. In addition, during the nine months ended September 30, 2014, the Company recorded $2,254 of income in connection with its proportionate share of the sale of a commercial unit at 10 Madison Square Park West (f/k/a 1107 Broadway). New Valley recorded equity income of $526 and $656 for the three and nine months ended September 30, 2013. During the nine months ended September 30, 2014, New Valley made capital contributions totaling $27,154, primarily related to 101 Murray Street, 23-10

16
VECTOR GROUP LTD.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS – (Continued)

(Dollars in Thousands, Except Per Share Amounts)
Unaudited


Queens Plaza South and a new investment, 125 Greenwich Street. New Valley contributed its proportionate share of additional capital along with contributions by the other investment partners. New Valley's investment percentage did not change. During the nine months ended September 30, 2014, New Valley and received distributions of $7,791. During the nine months ended September 30, 2013, New Valley made capital contributions totaling $23,984 primarily related to its investment in 101 Murray Street, and received distributions of $2,593. New Valley's maximum exposure to loss as a result of its investments in condominium and mixed use developments was $100,786 at September 30, 2014.

Apartment Buildings:
Apartment buildings investments range in ownership percentage from 7.5% to 16.4%. New Valley recorded net equity losses of $87 and $111 for the three months ended September 30, 2014 and 2013, respectively, related to the apartment portfolios. New Valley recorded equity losses of $251 and $394 for nine months ended September 30, 2014 and 2013, respectively, primarily related to an apartment portfolio. New Valley received distributions of $375 and $250 during the nine months ended September 30, 2014 and 2013, respectively, related to an apartment portfolio. New Valley's maximum exposure to loss as a result of its investment in apartment buildings was $18,856 at September 30, 2014.

Hotels:
Hotel investments range in ownership percentage from 5% to 49%. During the three and nine months ended September 30, 2014, New Valley recorded net equity losses of $2,053 and $4,224. New Valley made capital contributions totaling $1,973 for the nine months ended September 30, 2014, primarily related to Park Lane Hotel. New Valley made capital contributions totaling $21,992 for the nine months ended September 30, 2013, primarily related to the initial investment in Park Lane Hotel. New Valley's maximum exposure to loss as a result of its investments in hotels was $27,655 at September 30, 2014.

Other:
Other investments in real estate ventures relate to an investment in a mortgage company and an insurance company partially owned by Douglas Elliman.

Real Estate Held for Sale:
The components of “Real estate held for sale, net” were as follows:
 
September 30,
2014
 
December 31,
2013
Escena, net
$
10,643

 
$
10,625

Indian Creek
—

 
10,286

            Real estate held for sale, net
$
10,643

 
$
20,911


Escena.  In October 2013, the Company sold 200 of the 867 residential lots. The remaining project consists of 667 residential lots, consisting of both single family and multi-family lots, an 18-hole golf course, clubhouse restaurant and golf shop, and a seven-acre site approved for a 450-room hotel.

17
VECTOR GROUP LTD.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS – (Continued)

(Dollars in Thousands, Except Per Share Amounts)
Unaudited


The assets of "Escena, net" are as follows:

 
September 30,
2014
 
December 31,
2013
Land and land improvements
$
8,930

 
$
8,930

Building and building improvements
1,832

 
1,530

Other
1,577

 
1,577

 
12,339

 
12,037

Less accumulated depreciation
(1,696
)
 
(1,412
)
 
$
10,643

 
$
10,625


The Company recorded an operating loss of $804 and $845 for the three months ended September 30, 2014 and 2013, respectively, from Escena. The Company recorded an operating loss of $571 and $769 for the nine months ended September 30, 2014 and 2013, respectively, from Escena.

Investment in Indian Creek. In March 2013, New Valley invested $7,616 for an 80% interest in Timbo LLC ("Indian Creek") which owns a residential real estate project located on Indian Creek, Florida. As a result of the 80% ownership interest, the consolidated financial statements of the Company included the balances of Indian Creek.
 
In May 2014, the Indian Creek property was sold for $14,400 and New Valley received a distribution of approximately $7,100. New Valley recognized income of approximately $2,400 from the sale for the nine months ended September 30, 2014.


18
VECTOR GROUP LTD.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS – (Continued)

(Dollars in Thousands, Except Per Share Amounts)
Unaudited


6.
NOTES PAYABLE, LONG-TERM DEBT AND OTHER OBLIGATIONS

Notes payable, long-term debt and other obligations consist of:

 
September 30,
2014
 
December 31,
2013
Vector:
 
 
 
7.75% Senior Secured Notes due 2021, including premium of $9,577 and $0
$
609,577

 
$
450,000

6.75% Variable Interest Senior Convertible Note due 2014, net of unamortized discount of $1,733 and $19,311*
23,267

 
30,689

6.75% Variable Interest Senior Convertible Exchange Notes due 2014, net of unamortized discount of $2,713 and $25,944*
64,902

 
81,586

7.5% Variable Interest Senior Convertible Notes due 2019, net of unamortized discount of $149,342 and $155,817*
80,658

 
74,183

5.5% Variable Interest Senior Convertible Debentures due 2020, net of unamortized discount of $101,667 and $0*
157,083

 
—

Liggett:
 
 
 
Revolving credit facility
2,452

 
30,424

Term loan under credit facility
3,663

 
3,884

Equipment loans
16,128

 
17,252

Other
535

 
4,325

Total notes payable, long-term debt and other obligations
958,265

 
692,343

Less:
 
 
 
Current maturities
(101,158
)
 
(151,577
)
Amount due after one year
$
857,107

 
$
540,766

______________________
* The fair value of the derivatives embedded within the 6.75% Variable Interest Senior Convertible Note ($885 at September 30, 2014 and $6,607 at December 31, 2013, respectively), the 6.75% Variable Interest Senior Convertible Exchange Notes ($2,110 at September 30, 2014 and $12,521 at December 31, 2013, respectively), the 5.50% Variable Interest Senior Convertible Debentures ($86,228 at September 30, 2014 and $0 at December 31, 2013, respectively), and the 7.50% Variable Interest Senior Convertible Notes ($94,247 at September 30, 2014 and $92,934 at December 31, 2013, respectively), is separately classified as a derivative liability in the condensed consolidated balance sheets.

7.75% Senior Secured Notes due 2021 - Vector:

On April 15, 2014, the Company completed the sale of $150,000 principal amount of its 7.75% Senior Secured Notes due 2021 for a price of 106.750% in a private offering to qualified institutional investors in accordance with Rule 144A of the Securities Act of 1933. The Company received net proceeds of approximately $158,700 after deducting underwriting discounts, commissions, fees and offering expenses. The Company will amortize the deferred costs and debt premium related to the additional Senior Secured Notes over the estimated life of the debt.
In August 2014, the Company completed an offer to exchange the 7.75% senior secured notes issued in April 2014 for an equal amount of newly issued 7.75% senior secured notes due 2021. The new 7.75% senior secured notes have substantially the same terms as the original notes, except that the new 7.75% senior secured notes have been registered under the Securities Act.

6.75% Variable Interest Senior Convertible Note due 2014 - Vector:
On March 14, 2014, the holder of the 6.75% Variable Interest Senior Convertible Note due 2014 converted $25,000 principal balance of the $50,000 Note into 2,121,479 of the Company's common shares. The Company recorded non-cash accelerated interest expense related to the converted debt of $3,679 for the nine months ended September 30, 2014. The debt conversion resulted in a reduction of debt and an increase to equity in the amount of $25,000. The outstanding principal balance due November 15, 2014 is $25,000.

19
VECTOR GROUP LTD.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS – (Continued)

(Dollars in Thousands, Except Per Share Amounts)
Unaudited


6.75% Variable Interest Senior Convertible Exchange Notes due 2014 - Vector:
On May 20, 2014, a holder of the 6.75% Variable Interest Senior Convertible Exchange Notes due 2014 converted $7,500 principal balance of the $107,530 Notes into 560,987 of the Company's common shares. The debt conversion resulted in a reduction of debt and an increase to equity in the amount of $7,500.
In August, 2014, holders of the 6.75% Variable Interest Senior Convertible Exchange Notes due 2014 converted $32,415 principal balance of the $107,530 Notes into 2,424,584 of the Company's common shares. The debt conversion resulted in a reduction of debt and an increase to equity in the amount of $32,415. The outstanding principal balance due November 15, 2014 is $67,615.
The Company recorded non-cash accelerated interest expense related to the converted debt of $994 and $1,433 for the three and nine months ended September 30, 2014.

5.5% Variable Interest Senior Convertible Notes due 2020 - Vector:
On March 24, 2014, the Company completed the sale of $258,750 of its 5.5% Variable Interest Convertible Senior Notes due 2020 (the "2020 Convertible Notes"). The 2020 Convertible Notes are the Company's senior unsecured obligations and are effectively subordinated to any of its secured indebtedness to the extent of the assets securing such indebtedness. The 2020 Convertible Notes are also structurally subordinated to all liabilities and commitments of the Company's subsidiaries.
The aggregate net proceeds from the sale of the 2020 Convertible Notes were approximately $250,300 after deducting underwriting discounts, commissions, fees and offering expenses. The net proceeds will be used for general corporate purposes, including for additional investments in real estate and in the Company's tobacco business. The Company may also consider using a portion of the net proceeds from the sale of the notes to address upcoming debt maturities.
The 2020 Convertible Notes pay interest (“Total Interest”) on a quarterly basis beginning April 15, 2014 at a rate of 1.75% per annum plus additional interest, which is based on the amount of cash dividends paid during the prior three-month period ending on the record date for such interest payment multiplied by the total number of shares of its common stock into which the debt will be convertible on such record date. Notwithstanding the foregoing, however, the interest payable on each interest payment date after April 15, 2014 shall be the higher of (i) the Total Interest and (ii) 5.5% per annum with the interest payment on April 15, 2014 being based on 5.5% per annum. The notes are convertible into the Company’s common stock at the holder’s option. The conversion price at September 30, 2014 was $25.87 per share (approximately 38.6563 shares of common stock per $1,000 principal amount of the note), and is subject to adjustment for various events, including the issuance of stock dividends. The notes will mature on April 15, 2020. If a fundamental change (as defined in the indenture) occurs, the Company will be required to offer to repurchase the notes at 100% of their principal amount, plus accrued and unpaid interest to, but excluding, the fundamental change repurchase date.

Revolving Credit Facility and Term Loan Under Credit Facility - Liggett:

As of September 30, 2014, a total of $6,115 was outstanding under the revolving and term loan portions of the credit facility. Availability as determined under the facility was approximately $43,885 based on eligible collateral at September 30, 2014.

Shares of Common Stock per $1,000 Principal Amount due on Convertible Notes:

The conversion rates for all convertible debt outstanding as of September 30, 2014 are summarized below:
 
September 30, 2014
 
Conversion Price
 
Shares per $1,000
 
 
 
 
6.75% Variable Interest Senior Convertible Note due 2014
$
11.22

 
89.1021

6.75% Variable Interest Senior Convertible Exchange Notes due 2014
$
12.73

 
78.5381

7.5% Variable Interest Senior Convertible Notes due 2019
$
16.78

 
59.5946

5.5% Variable Interest Senior Convertible Debentures due 2020
$
25.87

 
38.6563



20
VECTOR GROUP LTD.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS – (Continued)

(Dollars in Thousands, Except Per Share Amounts)
Unaudited


Non-Cash Interest Expense - Vector:

 
Three Months Ended
 
Nine Months Ended
 
September 30,
 
September 30,
 
2014
 
2013
 
2014
 
2013
Amortization of debt discount
$
14,277

 
$
9,620

 
$
41,180

 
$
25,432

Amortization of deferred finance costs
1,147

 
549

 
2,910

 
1,593

Loss on extinguishment of 11% Senior Secured Notes
—

 
—

 
—

 
3,638

Accelerated interest expense on 6.75% Variable Interest Senior Convertible Note converted
—

 
—

 
3,679

 
—

Accelerated interest expense on 6.75% Variable Interest Senior Convertible Exchange Notes converted
994

 
—

 
1,433

 
—


$
16,418

 
$
10,169

 
$
49,202

 
$
30,663


Fair Value of Notes Payable and Long-Term Debt:

 
September 30, 2014
 
December 31, 2013
 
Carrying
 
Fair
 
Carrying
 
Fair
 
Value
 
Value
 
Value
 
Value
Notes payable and long-term debt
$
958,265

 
$
1,445,085

 
$
692,343

 
$
1,006,562


Notes payable and long-term debt are carried on the condensed consolidated balance sheet at amortized cost. The fair value determination disclosed above would be classified as Level 2 under the fair value hierarchy disclosed in Note 9 if such liabilities were recorded on the condensed consolidated balance sheet at fair value. The estimated fair value of the Company's notes payable and long-term debt has been determined by the Company using available market information and appropriate valuation methodologies including the evaluation of the Company's credit risk as described in the Company's Form 10-K. However, considerable judgment is required to develop the estimates of fair value and, accordingly, the estimate presented herein are not necessarily indicative of the amount that could be realized in a current market exchange.



7. CONTINGENCIES

Tobacco-Related Litigation:
 
Overview. Since 1954, Liggett and other United States cigarette manufacturers have been named as defendants in numerous direct, third-party and purported class actions predicated on the theory that cigarette manufacturers should be liable for damages alleged to have been caused by cigarette smoking or by exposure to secondary smoke from cigarettes. The cases have generally fallen into the following categories: (i) smoking and health cases alleging personal injury brought on behalf of individual plaintiffs (“Individual Actions”); (ii) lawsuits by individuals requesting the benefit of the Engle ruling ("Engle progeny cases"); (iii) smoking and health cases primarily alleging personal injury or seeking court-supervised programs for ongoing medical monitoring, as well as cases alleging that use of the terms “lights” and/or “ultra lights” constitutes a deceptive and unfair trade practice, common law fraud or violation of federal law, purporting to be brought on behalf of a class of individual plaintiffs (“Class Actions”); and (iv) health care cost recovery actions brought by various foreign and domestic governmental plaintiffs and non-governmental plaintiffs seeking reimbursement for health care expenditures allegedly caused by cigarette smoking and/or disgorgement of profits (“Health Care Cost Recovery Actions”). With the commencement of new cases, the defense costs and the risks relating to the unpredictability of litigation increase. The future financial impact of the risks and expenses of litigation are not quantifiable. For the nine months ended September 30, 2014 and 2013, Liggett incurred tobacco product liability legal expenses and other litigation costs totaling $7,282 and $7,334, respectively. The 2013 costs exclude a charge of $86,213 associated with the Engle progeny settlement discussed below.

21
VECTOR GROUP LTD.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS – (Continued)

(Dollars in Thousands, Except Per Share Amounts)
Unaudited


Litigation is subject to uncertainty and it is possible that there could be adverse developments in pending cases. Management reviews on a quarterly basis with counsel all pending litigation and evaluates whether an estimate can be  made of the possible loss or range of loss that could result from an unfavorable outcome. An unfavorable outcome or settlement of pending tobacco-related litigation could encourage the commencement of additional litigation. Damages awarded in some tobacco-related litigation can be significant.
Bonds. Although Liggett has been able to obtain required bonds or relief from bonding requirements in order to prevent plaintiffs from seeking to collect judgments while adverse verdicts are on appeal, there remains a risk that such relief may not be obtainable in all cases. This risk has been reduced given that a majority of states now limit the dollar amount of bonds or require no bond at all. To obtain stays on judgments pending current appeals, Liggett has secured approximately $5,093 in bonds as of September 30, 2014.
In June 2009, Florida amended its existing bond cap statute by adding a $200,000 bond cap that applies to all Engle progeny cases in the aggregate and establishes individual bond caps for individual Engle progeny cases in amounts that vary depending on the number of judgments in effect at a given time. In several cases, plaintiffs have challenged the constitutionality of the bond cap statute, but to date the courts that have addressed the issue have upheld the constitutionality of the statute. It is possible that the Company's consolidated financial position, results of operations, and cash flows could be materially adversely affected by an unfavorable outcome of such challenges.
Accounting Policy. The Company and its subsidiaries record provisions in their consolidated financial statements for pending litigation when they determine that an unfavorable outcome is probable and the amount of loss can be reasonably estimated. At the present time, while it is reasonably possible that an unfavorable outcome in a case may occur, except as disclosed in this Note 7: (i) management has concluded that it is not probable that a loss has been incurred in any of the pending tobacco-related cases; or (ii) management is unable to reasonably estimate the possible loss or range of loss that could result from an unfavorable outcome of any of the pending tobacco-related cases and, therefore, management has not provided any amounts in the consolidated financial statements for unfavorable outcomes, if any. Legal defense costs are expensed as incurred.
Cautionary Statement About Engle Progeny Cases. Judgments have been entered against Liggett and other industry defendants in Engle progeny cases. A number of the judgments have been affirmed on appeal and satisfied by the defendants. As of October 27, 2014, 19 Engle progeny cases where Liggett was a defendant at trial resulted in verdicts. Thirteen verdicts were returned in favor of the plaintiffs and six in favor of Liggett. Excluding the Lukacs case, which was tried in 2002, seven years before the trials of Engle progeny cases commenced, the compensatory verdicts against Liggett have ranged from $1 to $3,600. In certain cases, the judgments entered have been joint and several with other defendants. In three of the cases, punitive damages were awarded against Liggett. Except as discussed in this Note 7 regarding the cases where an adverse verdict was entered against Liggett and that remain on appeal, management is unable to estimate the possible loss or range of loss from the remaining Engle progeny cases as there are currently multiple defendants in each case and, in most cases, discovery has not occurred or is limited. As a result, the Company lacks information about whether plaintiffs are in fact Engle class members (non-class members' claims are generally time-barred), the relevant smoking history, the nature of the alleged injury and the availability of various defenses, among other things. Further, plaintiffs typically do not specify their demand for damages.
Although Liggett has generally been successful in managing litigation, litigation is subject to uncertainty and significant challenges remain, including with respect to the remaining Engle progeny cases. There can be no assurances that Liggett's past litigation experience will be representative of future results. Judgments have been entered against Liggett in the past, in Individual Actions and Engle progeny cases, and several of those judgments were affirmed on appeal and satisfied by Liggett. It is possible that the consolidated financial position, results of operations and cash flows of the Company could be materially adversely affected by an unfavorable outcome or settlement of any of the remaining smoking-related litigation. Liggett believes, and has been so advised by counsel, that it has valid defenses to the litigation pending against it, as well as valid bases for appeal of adverse verdicts. All such cases are, and will continue to be, vigorously defended. Liggett may, however, enter into settlement discussions in particular cases if it believes it is in its best interest to do so, including the remaining Engle progeny cases. As of September 30, 2014, Liggett (and in certain cases the Company) had, on an individual basis, settled 144 Engle progeny cases for approximately $1,170 in the aggregate. There were no settlements in the third quarter of 2014. In addition, in October 2013, Liggett announced a settlement of the claims of over 4,900 Engle progeny plaintiffs (see Engle Progeny Settlement below).

22
VECTOR GROUP LTD.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS – (Continued)

(Dollars in Thousands, Except Per Share Amounts)
Unaudited


Individual Actions
As of September 30, 2014, there were 48 Individual Actions pending against Liggett and, in certain cases, the Company, where one or more individual plaintiffs allege injury resulting from cigarette smoking, addiction to cigarette smoking or exposure to secondary smoke and seek compensatory and, in some cases, punitive damages. These cases do not include Engle progeny cases or the approximately 100 individual cases pending in West Virginia state court as part of a consolidated action. The following table lists the number of Individual Actions, by state, that are pending against Liggett or the Company as of September 30, 2014:
State
 
Number
of Cases
Florida
 
30

New York
 
8

Maryland
 
4

Louisiana
 
2

West Virginia
 
2

Missouri
 
1

Ohio
 
1

The plaintiffs' allegations of liability in cases in which individuals seek recovery for injuries allegedly caused by cigarette smoking are based on various theories of recovery, including negligence, gross negligence, breach of special duty, strict liability, fraud, concealment, misrepresentation, design defect, failure to warn, breach of express and implied warranties, conspiracy, aiding and abetting, concert of action, unjust enrichment, common law public nuisance, property damage, invasion of privacy, mental anguish, emotional distress, disability, shock, indemnity, violations of deceptive trade practice laws, the federal Racketeer Influenced and Corrupt Organizations Act (“RICO”), state RICO statutes and antitrust statutes. In many of these cases, in addition to compensatory damages, plaintiffs also seek other forms of relief including treble/multiple damages, medical monitoring, disgorgement of profits and punitive damages. Although alleged damages often are not determinable from a complaint, and the law governing the pleading and calculation of damages varies from state to state and jurisdiction to jurisdiction, compensatory and punitive damages have been specifically pleaded in a number of cases, sometimes in amounts ranging into the hundreds of millions and even billions of dollars.
Defenses raised in Individual Actions include lack of proximate cause, assumption of the risk, comparative fault and/or contributory negligence, lack of design defect, statute of limitations, equitable defenses such as “unclean hands” and lack of benefit, failure to state a claim and federal preemption.

Engle Progeny Cases
Engle Case. In May 1994, Engle was filed against Liggett and others in Miami-Dade County, Florida. The class consisted of all Florida residents who, by November 21, 1996, “have suffered, presently suffer or have died from diseases and medical conditions caused by their addiction to cigarette smoking.” In July 1999, after the conclusion of Phase I of the trial, the jury returned a verdict against Liggett and other cigarette manufacturers on certain issues determined by the trial court to be “common” to the causes of action of the plaintiff class. The jury made several findings adverse to the defendants including that defendants' conduct “rose to a level that would permit a potential award or entitlement to punitive damages.” Phase II of the trial was a causation and damages trial for three of the class plaintiffs and a punitive damages trial on a class-wide basis before the same jury that returned the verdict in Phase I. In April 2000, the jury awarded compensatory damages of $12,704 to the three class plaintiffs, to be reduced in proportion to the respective plaintiff’s fault. In July 2000, the jury awarded approximately $145,000,000 in punitive damages, including $790,000 against Liggett.
In May 2003, Florida’s Third District Court of Appeal reversed the trial court and remanded the case with instructions to decertify the class. The judgment in favor of one of the three class plaintiffs, in the amount of $5,831, was overturned as time barred and the court found that Liggett was not liable to the other two class plaintiffs.

23
VECTOR GROUP LTD.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS – (Continued)

(Dollars in Thousands, Except Per Share Amounts)
Unaudited


In July 2006, the Florida Supreme Court affirmed the decision vacating the punitive damages award and held that the class should be decertified prospectively, but determined that the following Phase I findings are entitled to res judicata effect in Engle progeny cases: (i) that smoking causes lung cancer, among other diseases; (ii) that nicotine in cigarettes is addictive; (iii) that defendants placed cigarettes on the market that were defective and unreasonably dangerous; (iv) that defendants concealed material information knowing that the information was false or misleading or failed to disclose a material fact concerning the health effects or addictive nature of smoking; (v) that defendants agreed to conceal or omit information regarding the health effects of cigarettes or their addictive nature with the intention that smokers would rely on the information to their detriment; (vi) that defendants sold or supplied cigarettes that were defective; and (vii) that defendants were negligent. The Florida Supreme Court decision also allowed former class members to proceed to trial on individual liability issues (using the above findings) and compensatory and punitive damage issues, provided they filed their individual lawsuits by January 2008. In December 2006, the Florida Supreme Court added the finding that defendants sold or supplied cigarettes that, at the time of sale or supply, did not conform to the representations made by defendants. In October 2007, the United States Supreme Court denied defendants' petition for writ of certiorari.
Pursuant to the Florida Supreme Court’s July 2006 ruling in Engle, which decertified the class on a prospective basis, and affirmed the appellate court’s reversal of the punitive damages award, former class members had until January 2008 in which to file individual lawsuits. As a result, Liggett and the Company, and other cigarette manufacturers, were named defendants in thousands of Engle progeny cases in both federal and state courts in Florida. Although the Company was not named as a defendant in the Engle case, it was named as a defendant in substantially all of the Engle progeny cases where Liggett was named as a defendant.
Engle Progeny Settlement. On October 23, 2013, the Company entered into a settlement with approximately 4,900 Engle progeny plaintiffs and their counsel. Pursuant to the terms of the settlement, Liggett agreed to pay a total of approximately $110,000, with approximately $61,600 paid in a lump sum and the balance to be paid in installments over 14 years. In exchange, the claims of over 4,900 plaintiffs were dismissed with prejudice against the Company and Liggett. In 2013 the Company recorded a charge of $86,213 in connection with the settlement. Of this amount, $25,213 is related to certain payments discounted to their present value because the timing and amounts of such payments are fixed and determinable. The present value of the installment payments was computed using an 11% annual discount rate. The installment payments total approximately $48,000 on an undiscounted basis. The Company’s future payments will be approximately $3,500 per annum through 2028, with a cost of living increase beginning in 2021.
Notwithstanding the comprehensive nature of the Engle Progeny Settlement, approximately 330 plaintiffs' claims remain outstanding. Therefore, the Company and Liggett may still be subject to periodic adverse judgments which could have a material adverse affect on the Company's consolidated financial position, results of operations and cash flows.

24
VECTOR GROUP LTD.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS – (Continued)

(Dollars in Thousands, Except Per Share Amounts)
Unaudited


As of October 27, 2014, the following Engle progeny cases have resulted in judgments against Liggett:
Date
 
Case Name
 
County
 
Liggett Compensatory
Damages
 
Liggett Punitive Damages
 
Status
June 2002
 
Lukacs v. R.J. Reynolds
 
Miami-Dade
 
$12,418
 
None
 
Liggett satisfied the judgment and the case is concluded.
August 2009
 
Campbell v. R.J. Reynolds
 
Escambia
 
$156
 
None
 
Liggett satisfied the judgment and the case is concluded.
March 2010