Gateway Casinos Income Fund
TSX : GCI.UN

Gateway Casinos Income Fund

August 08, 2005 17:35 ET

Gateway Casinos Income Fund Reports Strong Second Quarter Results

BURNABY, BRITISH COLUMBIA--(CCNMatthews - Aug. 8, 2005) - Gateway Casinos Income Fund (TSX:GCI.UN) -

(Gateway Casinos Income Fund will hold a conference call to discuss second quarter 2005 results on Tuesday, August 9, 2005 at 8:00 a.m. Pacific Time (11:00 a.m. Eastern). The call can be accessed by dialing: 1.866.905.2211 or 416.695.5259. A replay will be available until August 23, 2005 at: 1.888.509.0082 or 416.695.5275.)

Gateway Casinos Income Fund (the "Fund") is pleased to announce strong results for the second quarter of 2005.

For the three months ended June, 2005, the Fund generated EBITDA of $11.0 million on revenue of $25.8 million, compared $9.8 million on revenue of $23.1 million in the same period of 2004. The strong results in the second quarter bring the Fund's EBITDA for the first half of 2005 to $21.3 million, on revenue of $51.1 million, compared to EBITDA of $21.0 million on revenue of $46.2 million in 2004.

Revenue for the second quarter was up 12.2% over the same period in 2004 and 2.5% over the first quarter of this year. This increase primarily reflects the improvement in slot machine revenue at the expanded Burnaby Casino, which is now performing in line with our original expectations. Total operating costs were consistent with the first quarter of this year. However, they have fallen as a percentage of revenue from 59.1% in the first quarter to 57.6% in the second, which is consistent with the 57.4% of revenue in the same period of last year.

"We're very pleased with our results for the second quarter," commented Dave Gadhia, President of Gateway Casinos G.P. Inc. "Revenue at the expanded Burnaby Casino continued to improve throughout the quarter and it is now performing as we had anticipated when we planned the expansion. And although the Palace Casino is experiencing a challenge with the recent smoking ban in Edmonton, it seems to be weathering this fairly well to date. Our Lake City Casinos continued their strong performance, and we look for increased earnings as they enter into their strong summer season."

Distributable Cash

During the second quarter, the Fund generated distributable cash of $10.0 million, or $0.377 per unit, bringing the year to date distributable cash to $19.3 million, or 0.731 per unit. Distributions for the quarter were $0.33 per unit, and totalled $0.66 for the first half of the year.

Update on Burnaby Redevelopment

The Fund continued to move forward on the redevelopment of the Burnaby Casino. During the second quarter the rezoning bylaw for the redevelopment received third reading from the City of Burnaby. Fourth and final reading is subject to the Fund meeting certain technical requirements, including final plan approval and completion of servicing agreements and covenants. Demolition of the low-rise portion of the existing hotel began in July and the construction tender is scheduled for the fall of this year.

However, the current state of the construction industry in BC is impacting both the expected cost and the timing of the project. As recently highlighted in the national press, the construction industry in western Canada is experiencing one of the busiest periods in the last 20 years, due largely to the strong economies in BC and Alberta. This has resulted in both cost increases and timing delays. The project has a current construction budget of approximately $100 million, up from the previous budget of $75 to $85 million. The expected completion of the project has also been delayed to the first quarter of 2008 from the second quarter of 2007. Management of the Fund is currently working to reduce the budgeted cost and construction timeline, where possible.

About the Fund

The Fund is an unincorporated, open-ended limited purpose trust established under the laws of British Columbia, which operates the Burnaby Casino in Greater Vancouver, BC, the Palace Casino in Edmonton, Alberta and the Lake City Casinos in Kamloops, Kelowna, Penticton and Vernon, BC. Headquartered in Burnaby, BC, the Fund is one of the largest casino operators in Western Canada.

GATEWAY CASINOS INCOME FUND

MANAGEMENT'S DISCUSSION & ANALYSIS

FOR THE SIX MONTHS ENDED

JUNE 30, 2005

Management's Discussion and Analysis

This management's discussion and analysis ("MD&A") of our operating results and financial position is dated as of August 8, 2005, and should be read in conjunction with the unaudited interim consolidated financial statements of Gateway Casinos Income Fund (the "Fund") for the six months ended June 30, 2005 (the "Quarterly Financial Statements"), the audited consolidated financial statements of the Fund for the year ended December 31, 2004 (the "2004 Financial Statements"), as well as the accompanying notes to both, and the management's discussion and analysis for the year ended December 31, 2004, dated March 17, 2005 (the "2004 MD&A"). The Quarterly Financial Statements are reported in Canadian dollars and have been prepared in accordance with Canadian generally accepted accounting principles for interim financial statements.

Forward-looking statements

This management's discussion and analysis may contain forward-looking statements, which reflect management's expectations regarding the future growth, results of operations, performance and business prospects and opportunities of the Fund and its subsidiaries. Forward-looking statements typically contain words such as "anticipates", "believes", "continue", "could", "expects", "indicates", "plans" or similar expressions suggesting future outcomes or events. Such forward-looking statements reflect management's current beliefs and are based on information currently available to management. Forward-looking statements involve significant risks and uncertainties. A number of factors could cause actual results to differ materially from the results discussed in the forward-looking statements, including the effects, as well as changes in: national and local business and economic conditions; political or economic instability in local markets; competition; consumer preferences, spending patterns and demographic trends; legislation and governmental regulation. Although the forward-looking statements contained in this management's discussion and analysis are based upon what management believes to be reasonable assumptions, the Fund cannot assure readers that actual results will be consistent with these forward-looking statements.

Structure of the Fund

The structure of the Fund has not changed from that presented in the 2004 MD&A. The Fund had 26,417,687 units outstanding as at June 30, 2005 and as at the date of this management's discussion and analysis. There are no securities outstanding that are convertible into, or exercisable or exchangeable for, units of the Fund.

General

Gateway operates six casinos in Western Canada; five in British Columbia and one in Alberta. The location of each casino, and the number of slot machines and table games at June 30, 2005, is listed in the table below.



Number of slot
machines & Number of
Casino Location electronic games table games

Gateway
Casino - Burnaby Burnaby, BC 679 (1) 32

Lake City Casinos
Kamloops Kamloops, BC 300 8
Kelowna Kelowna, BC 311(2) 12
Penticton Penticton, BC 224 10
Vernon Vernon, BC 210 8
Palace Casino Edmonton, AB 705 (3) 31 (4)

(1) On December 16, 2004 Gateway opened an expansion of the
Burnaby Casino, increasing the number of slot machines from 300
to 679.
(2) The Sega Royal Ascot electronic horseracing game was removed
from the Kelowna Casino during May 2005 and replaced with 12 slot
machines. A further 21 slot machines were installed in July 2005
and an additional 10 slot machines are scheduled to be installed
in August 2005. Total number of machines after these
installations will be 342.
(3) During 2004 the Palace Casino operated 672 slot machines, 23
Sega Royal Ascot terminals and 10 VLTS. In February 2005 the
number of Sega Royal Ascot terminals was reduced to 11 and the
number of slot machines was increased to 684. There was no change
in the total number of electronic machines.
(4) The Palace Casino also operates a 6-table poker room.


In Canada, most gaming activities, including casino operations, are conducted and managed by the provincial governments. They retain the majority of the revenue generated after pay out to customers, and use these funds to support charitable organizations and government initiatives. The gaming industry is generally considered to include lotteries, bingo games, pari-mutuel wagering (such as horse racing) and games typically associated with casinos, such as table games and slot machines. Casino revenue is measured in terms of "win", which is the amounts wagered on gaming activities, less pay out to customers.

Economic and industry factors affecting the Western Canadian gaming market are substantially unchanged from those presented in the 2004 MD&A.



Financial Performance

-------------------------------------------------------
2005 2004 2003
Q2 Q1 Q4 Q3 Q2 Q1 Q4 Q3
-------------------------------------------------------
Revenue
Table games
revenue 7,043 7,517 7,495 6,921 6,587 7,171 7,536 6,478
Slot machines
and other
electronic
games revenue 16,839 15,684 14,729 15,182 14,733 14,352 14,406 14,800
Hotel revenue - - 692 2,337 - - - -
Other revenue 1,982 2,025 1,351 1,622 1,732 1,656 1,514 1,411
-------------------------------------------------------
Total revenue 25,864 25,226 24,267 26,062 23,052 23,179 23,456 22,689

Expenses 14,897 14,899 15,740 15,052 13,232 11,979 12,529 11,963
-------------------------------------------------------
EBITDA (1) 10,967 10,327 8,527 11,010 9,820 11,200 10,927 10,726
-------------------------------------------------------
-------------------------------------------------------

Net earnings 8,194 8,668 6,249 8,044 8,558 9,979 10,032 9,292
-------------------------------------------------------
-------------------------------------------------------
Basic and
diluted
earnings
per unit 0.31 0.33 0.24 0.30 0.32 0.38 0.38 0.35
-------------------------------------------------------
-------------------------------------------------------

Distributable
Cash 9,956 9,367 9,299 9,105 8,902 10,159 9,226 10,260
-------------------------------------------------------
-------------------------------------------------------
Per unit 0.377 0.355 0.351 0.345 0.337 0.385 0.349 0.388
-------------------------------------------------------
-------------------------------------------------------
(1) EBITDA is not a defined term under Canadian generally accepted
accounting principles. See discussion under "EBITDA and Net
Earnings"


Results of Operations

Revenue

Gateway's revenue is primarily earned through fees paid by the BCLC for operating the five BC casinos and by the AGLC for operating the Palace Casino. We also generate revenue by providing related casino services such as food and beverage, parking, foreign exchange services, and automated teller machines.



Three months Six months
C$ in thousands ended June 30, % ended June 30, %
2005 2004 change 2005 2004 change
--------------------------------------------------
Table games
revenue 7,043 6,587 14,560 13,758
Slot machines and
other electronic
games revenue 16,839 14,733 32,522 29,084
Other revenue 1,982 1,732 4,007 3,389
--------------- ---------------
25,864 23,052 12.2% 51,089 46,231 10.5%
--------------- ---------------
--------------- ---------------


On December 16, 2004 the expansion of the Burnaby Casino was opened, which increased the number of slot machines from 300 to 679 and introduced integrated voucher system (or "IVS") technology, allowing for cashless play. In January 2005 we opened a bar service within the expanded Burnaby Casino.

The following table compares our total revenue in the first quarter of 2005 to each of the four quarters in 2004.



C$ in thousands Q2/05 Q1/05 Q4/04 Q3/04 Q2/04 Q1/04
----------------------------------------------
Table games revenue 7,043 7,517 7,495 6,921 6,587 7,171
Slot machines and
other electronic
games revenue 16,839 15,684 14,729 15,182 14,733 14,352
Hotel revenue - - 692 2,337 - -
Other revenue 1,982 2,025 1,351 1,622 1,732 1,656
----------------------------------------------
25,864 25,226 24,267 26,062 23,052 23,179
----------------------------------------------
----------------------------------------------


Discussion of the second quarter's results is included in the Operating Segments section below.

Expenses

Operating expenses for the quarter were $14.9 million, bringing total expenses for the first half of 2005 to $29.8, representing 57.6% and 58.3% of total revenue, respectively. This compares to expenses of $13.2 million and $25.2 in the same periods of 2004, or 57.4% and 54.5%, respectively, and to 58.0% of total revenue for of the year ended December 31, 2004.



Three months Six months
C$ in thousands ended June 30, % ended June 30, %
2005 2004 change 2005 2004 change
--------------------------------------------------

Corporate and
general
administration 1,431 1,137 2,645 2,223
Cost of food &
beverage
services 564 451 1,145 910
Human resources 10,362 9,535 20,643 17,962
Marketing and
promotions 779 575 1,623 891
Occupancy 758 784 1,473 1,576
Operating 1,003 749 2,266 1,649
--------------- ---------------
14,897 13,231 12.6% 29,795 25,211 18.2%
--------------- ---------------
--------------- ---------------

Percentage of
total revenue 57.6% 57.4% 58.3% 54.5%
--------------- ---------------
--------------- ---------------


The increase from the second quarter of 2004 is mainly attributable to increases in human resources costs and marketing and promotions. The increased human resources costs are due primarily to the following issues:

1. Increased wages at the Burnaby Casino, related to the June 2004 increase in operating hours to 24 hours per day;

2. Scheduled wage increases at all casinos;

3. Additional wages related to the December 2004 expansion of the Burnaby Casino; and

4. Accounting for the compensation expense from the Fund's long-term incentive plan.

As was discussed in the 2004 MD&A, the Fund finalized the terms of its long-term incentive plan during 2004 and adjusted its accounting accordingly. The Fund now accounts for contributions beginning in the year the contribution was earned, with the expense being recorded as part of human resources cost. Beginning in 2005 we are accruing this expense on a quarterly basis. Adjusting for this, total expenses in the second quarter of 2004 would have been:



Three months Six months
C$ in thousands ended June 30, % ended June 30, %
2005 2004 change 2005 2004 change
--------------------------------------------------

Total expenses
as reported 14,897 13,231 29,795 25,211
Compensation
expense recorded
in 2004 - (576) - (576)
Portion of 2004
compensation
expense
attributable to
the second
quarter of 2004 - 247 - 493
----------------------- ------------------------
14,897 12,902 15.1% 29,795 25,128 18.4%
----------------------- ------------------------
----------------------- ------------------------

Percentage of
total revenue 57.6% 56.0% 58.3% 54.4%
----------------------- ------------------------
----------------------- ------------------------


The remaining increases in human resources costs are discussed in the Operating Segments discussion below.

The increased marketing and promotions expenses are due primarily to a joint marketing charge imposed by the BCLC on all new and expanded casinos in BC. This charge came into effect for the Burnaby Casino on December 16, 2004. The increased costs are also related to increased marketing costs for our BC operations related to marketing initiatives around the new BC Gold players club recently rolled out by BCLC. Both of these issues are discussed in more detail in the Operating Segments discussion below.

The following table compares the expenses of the second quarter of 2005 with the first quarter of 2005 and the four quarters of 2004.



C$ in thousands Q2/05 Q1/05 Q4/04 Q3/04 Q2/04 Q1/04
----------------------------------------------

Corporate and general
Administration 1,431 1,214 859 1,186 1,138 1,086
Cost of food &
beverage services 564 581 535 490 451 459
Human resources 10,362 10,281 10,633 9,168 9,535 8,427
Marketing and
promotions 779 844 637 488 575 316
Occupancy 758 715 811 699 784 791
Operating 1,003 1,264 1,471 1,096 749 900
Hotel operating costs - - 794 1,925 - -
----------------------------------------------
14,897 14,899 15,740 15,052 13,232 11,979
----------------------------------------------
----------------------------------------------

Percentage of
total revenue 57.6% 59.0% 64.9% 57.8% 57.4% 51.7%
----------------------------------------------
----------------------------------------------


As discussed above, the majority of the 2004 compensation expense for the LTIP was recorded in the fourth quarter of 2004. Additionally, we recorded a catch-up adjustment related to the 2003 LTIP awards. Adjusting for these, quarterly expenses were:



C$ in thousands Q2/05 Q1/05 Q4/04 Q3/04 Q2/04 Q1/04
----------------------------------------------

Total expenses
as reported 14,897 14,899 15,740 15,052 13,231 11,979


Less back
compensation
expense as reported - - (1,051) - (576) -
Add quarterly
compensation expense - - 247 246 247 246
----------------------------------------------
Adjusted total
Expenses 14,897 14,899 14,936 15,298 12,902 12,225

Less hotel
operating costs - - (794) (1,925) - -
----------------------------------------------
14,897 14,889 14,142 13,373 12,902 12,225
----------------------------------------------
----------------------------------------------


EBITDA and Net Earnings

EBITDA is not a defined term under Canadian generally accepted accounting principles, nor does it have a standard, agreed upon meaning. Accordingly, the Fund's EBITDA may not be directly comparable to EBITDA reported by other issuers. Management has determined EBITDA is a useful supplemental measure in evaluating the Fund's performance as it provides investors with an indication of cash available for debt service, working capital needs and capital expenditures. This non-GAAP measure is intended to provide additional information on the Fund's performance and should not be considered in isolation or as a substitute for measures of performance prepared in accordance with GAAP.

The Fund generated earnings before interest, income allocation on Class A units, amortization and unrealized loss on interest rate swap contract ("EBITDA") of $11.0 million for the second quarter of 2005, resulting in an EBITDA margin of 42.4%, bringing year to date EBITDA to $21.3 million, or 41.7%. This compares to EBITDA of $9.8 million for the second quarter of 2004 and $21.0 million for the first six months of 2004, with EBITDA margins of 42.6% and 45.5%, respectively, and an EBITDA margin of 42.0% for all of 2004.

If we adjust for the impacts of the accounting for compensation expense in 2004, EBITDA in the second quarter of 2004 would have been $10.2 million, or 44.0%, and $21.1 million, or 45.6%, for the first six months. The EBITDA margin for all of 2004 would have been 42.7%.



C$ in thousands Q2/05 Q1/05 Q4/04 Q3/04 Q2/04 Q1/04
----------------------------------------------

Revenue 25,864 25,226 24,267 26,062 23,052 23,179

Adjusted total
expenses 14,897 14,899 14,936 15,298 12,902 12,225
----------------------------------------------
Adjusted EBITDA 10,967 10,327 9,331 10,764 10,150 10,954
----------------------------------------------
----------------------------------------------

Adjusted EBITDA
margin 42.4% 41.0% 38.5% 41.3% 44.0% 47.3%
----------------------------------------------


After amortization and net interest expense, the Fund generated net earnings of $8.2 million, or $0.31 per unit, for the second quarter and $16.9 million, or $0.64 per unit, for the first half of the year. This compares to $8.6 million, or $0.32 per unit, in the first quarter of 2004 and $18.5 million, or $0.70 per unit, for the first half.



The reconciliation between EBITDA and net earnings is:

Three months Six months
C$ in thousands ended June 30, ended June 30,
2005 2004 2005 2004
--------------------------------------

EBITDA 10,967 9,821 21,294 21,020

Interest income on
secured loans 2,424 3,723 4,820 7,796
Income allocation on
Class A Partnership Units (2,427) (3,728) (4,826) (7,806)
Interest expense, net (752) (316) (1,510) (623)
Unrealized loss on interest
rate swap contracts (889) - (917) -
Amortization (1,129) (942) (1,999) (1,850)
--------------------------------------
Net Earnings 8,194 8,558 16,862 18,537
--------------------------------------
--------------------------------------


The decrease in net earnings in 2005 is due mainly to increased interest expenses and the unrealized loss on interest rate swap contracts. The increased interest expense is due to the increased debt associated with the purchase of the Villa Hotel on June 30, 2004. In connection with the acquisition, the Fund assumed mortgages of $7.8 million and issued $40 million of seven year notes (see notes 11 and 12 to the 2004 Financial Statements). After repayment of the amounts then outstanding under the Fund's credit facilities, total debt increased from $22.0 million to $48.5 million.

Also in 2004, the Fund adopted new guidelines for hedge accounting in accordance with the CICA's Accounting Guideline 13, "Hedging Relationships" (which has since been replaced by Section 3865 of the CICA Handbook). In connection with the repayment of the outstanding amounts on the credit line, the outstanding interest rate hedge no longer qualified for hedge accounting and the Fund had to report this contract on its balance sheet at its fair value at the end of each quarter, with changes to the fair value being reported on the income statement. In December 2004 the interest rate contract was renegotiated to align the payments with the projected payments under the construction loan for the Burnaby Casino redevelopment, significantly reducing the net cash impact to the Fund. However, we have elected not to apply hedge accounting to the renegotiated contract and it must be marked-to-market each quarter. This resulted in a non-cash expense of $889,000 in the second quarter and a total expense of $917,000 for the first half of 2005. This equates to approximately $0.035 per unit for the first half of 2005. Excluding these, net earnings would have been $9.1 million, or $0.34 per unit, for the second quarter of 2005 and $17.8 million, or $0.67 per unit, for the first half.

Operating Segments

The Partnership has three primary operating segments based on geographic markets. These are the Burnaby Casino, the Lake City Casinos and the Palace Casino. During the third quarter of 2004, the Partnership also operated the Radisson Villa Hotel in Burnaby, after acquiring it on June 30, 2004. These operations were temporary only, as all aspects of the hotel's operations were shut down on October 31, 2004 in anticipation of demolition in connection with the redevelopment of the Burnaby Casino. Operations of the hotel have not been included in this discussion of operating segments. Readers can refer to note 7 of the Quarterly Financial Statements and note 21 to the 2004 Financial Statements for additional information.

Although the Consolidated Statement of Earnings for the six months ended June 30, 2005 includes interest income on secured loans, income allocation on Class A Partnership Units, interest expense and unrealized loss on interest rate swap contract in determining net earnings, these items are not expenses of any one operating segment, and have not been included in the following discussion.



Burnaby Casino

Three months Six months
C$ in thousands ended June 30, % ended June 30, %
2005 2004 change 2005 2004 change
--------------------------------------------------

Revenue
Table games
revenue 4,363 4,095 9,020 8,639
Slot machine
revenue 6,724 5,401 13,158 11,092
Food & beverage
Revenue 133 - 255 -
Other revenue 295 336 732 709
--------------------------------------------------
11,515 9,832 17.1% 23,165 20,490 13.1%
--------------------------------------------------

Operating
expenses
Human resources 3,615 2,959 7,386 5,665
Occupancy 95 208 197 432
Food & beverage 55 - 112 -
Other operating
expenses 1,096 751 2,393 1,359
--------------------------------------------------
4,861 3,918 24.1% 10,088 7,456 35.3%
--------------------------------------------------

Operating
earnings before
amortization 6,654 5,914 13,077 13,034
--------------- ---------------
--------------- ---------------


Revenue was approximately $1.7 million higher for the second quarter of 2005 and $2.7 million higher in the first half of 2005, compared to the corresponding periods in 2004. As discussed for the previous quarter, this is primarily the net result of the increased revenue from the expansion and the reduction in revenue from the opening of the River Rock Casino in June 2004.

Also as discussed in our last report, revenue at the Burnaby Casino the first quarter of this year was lower than our expectations. This was mostly due to the initial slot machine results from the expanded facility being lower than anticipated, but they did improve throughout the first quarter. This improvement continued during the second quarter of 2005, with the average win per machine for the second quarter increasing by approximately $15 per day. This is discussed in more detail below.

Total expenses for the second quarter of 2005 were approximately $1.0 million higher than during the same period in 2004, resulting in a rise in expenses as a percentage of revenue from 39.8% in 2004 to 42.2% in 2005. This is primarily driven by a $656,000 increase in human resources costs and a $127,000 increase in marketing expenses. For the first half of 2005, total expenses are up approximately 35.3% primarily for the same reasons, with increases of $1.7 million in human resources and $642,000 in marketing.

The year-over-year increase in human resources costs is the result of both operational changes made during 2004 and the impact of the facility expansion. As was discussed in detail in the 2004 MD&A, there were a variety of operational changes throughout 2004 that resulted in increased wages, starting in mid-2004. These included:

- The introduction of the game of craps in June 2004;

- The June 2004 increase in operating hours from 21 hours per day to 24 hours per day, and;

- Planned wage increases

In addition, the expansion of the casino adds approximately $2.5 million in annual labour costs, or $625,000 per quarter.

The increased marketing costs result largely from the imposition of a joint marketing charge by the BCLC for all new or expanded facilities in BC. This additional charge, which came into effect upon the opening of the expanded facility, is equal to 0.75% of net win generated by the casino, or $280,000 for the second quarter of 2005, and is to increase to 1.5% of net win in May 2006. These funds, as well as those paid by other operators, are put into a joint marketing fund held by the BCLC to promote BC's casino industry, both within and outside the province. A committee that includes representation from casino operators will administer the funds and the marketing initiatives. The Burnaby Casino is the only one of the Fund's casinos that contributes to this fund.

The remaining increase to marketing is due to a variety of initiatives, including a new marketing campaign to BC Gold members. BC Gold is a province-wide players club that the BCLC rolled out in the last part of 2004 and which provides operators with access to customers for direct marketing purposes.

Given the number of operating changes that were implemented in 2004, it is difficult to make a reasonable comparison of the second quarter of 2005 with the second quarter of 2004. A better comparison is with the first quarter of 2005, as this removes the impact of the changes implemented during 2005. The following table compares the Burnaby Casino's results for the second quarter of 2005 with the first quarter of 2005 and each of the quarters of 2004.



C$ in thousands Q2/05 Q1/05 Q4/04 Q3/04 Q2/04 Q1/04
----------------------------------------------

Revenue
Table games
revenue 4,363 4,657 4,875 4,128 4,095 4,594
Slot machine
revenue 6,724 6,434 5,343 5,008 5,401 5,691
Food & beverage
revenue 133 122 - - - -
Other revenue 295 437 171 276 336 373
----------------------------------------------
11,515 11,650 10,389 9,412 9,832 10,658
----------------------------------------------

Operating expenses
Human resources 3,615 3,771 3,412 3,058 2,959 2,706
Occupancy 95 101 89 84 208 224
Food & beverage 55 57 - - - -
Other operating
expenses 1,096 1,299 867 790 751 609
----------------------------------------------
4,861 5,228 4,368 3,932 3,918 3,539
----------------------------------------------

Operating earnings
before amortization 6,654 6,422 6,021 5,480 5,914 7,119
----------------------------------------------
----------------------------------------------


As can be seen, total revenue is down $135,000 from the first quarter of 2005. This is driven by a $294,000 decrease in table games revenue and a $142,000 decrease in other revenue, offset by an increase in slot machine revenue of $290,000.

As discussed above, the slot machine revenue at the Burnaby Casino continued to improve throughout the quarter, bringing it into line with our expectations for the expansion. Average win per day per machine for the quarter increased by approximately 3.5% over the average for the first quarter. Slot revenue performance improved consistently throughout the quarter, with the average for the month of June being approximately 5.5% higher than the average for the first quarter.

The decrease in table games revenue is consistent with the decrease in table games revenue in the second quarter of 2004. As with 2004, most of this decrease was experienced in April and, based on weekly reporting by the BCLC, it appears that a similar decrease was experienced at all facilities across the GVRD. This could possibly indicate some type of cyclical event. For Burnaby, the decrease was mainly experienced on the high limit table games. Although we do not have data for the other facilities, it is likely that they had similar experiences. While it is difficult to pinpoint the cause, the majority of our high limit customers are self-employed or owner/managers and it is possible that the April 30 tax deadline has a significant impact on table play during the month. Table games revenue returned to its previous levels in May and June.



Lake City Casinos

Three months Six months
C$ in thousands ended June 30, % ended June 30, %
2005 2004 change 2005 2004 change
--------------------------------------------------

Revenue
Table games
revenue 1,014 975 1,974 1,937
Slot machines
revenue 7,183 6,723 13,711 12,866
Food & beverage
revenue 178 166 344 313
Other revenue 226 182 346 229
----------------------- ------------------------
8,601 8,046 6.9% 16,375 15,345 6.7%
----------------------- ------------------------

Operating expenses
Human resources 3,951 3,745 7,851 7,289
Occupancy 338 277 638 547
Food & beverage 114 97 225 183
Other operating
expenses 764 638 1,550 1,255
FDF expense
recovery (663) (612) (1,245) (1,145)
----------------------- ------------------------
4,504 4,145 8.6% 9,019 8,129 11.0%
----------------------- ------------------------

Operating earnings
before
amortization 4,097 3,901 7,356 7,216
--------------- ---------------
--------------- ---------------


Revenue at the Lake City Casinos for the second quarter of 2005 was up approximately 6.9% from the same period of 2004, bringing year to date revenue for the Lake City Casinos to $16.4 million, which is an increase of 6.7% over 2004. Most of this growth came from an increase in slot machine revenue, reflecting the continuation of a general growth trend that we recorded throughout 2004, and is consistent with the first quarter of 2005.

During the second quarter of this year, the Sega Royal Ascot electronic racing machine was removed from the Kelowna Casino and was replaced by 12 slot machines, bringing the total number of machines in the casino to 311. During July 2005 a further 21 machines were installed, and an additional 10 machines are scheduled to be installed in August, bringing the total to 342.

Total expenses for the second quarter were $4.5 million, or 52.4% of revenue, compared to $4.1 million, or 51.5% of revenue, in the second quarter of 2004. As in the first quarter of 2005, the higher expenses in the second quarter are mainly due to higher human resources and other operating expenses. The increase in human resources expenses is due in part to scheduled wage increases that came into effect in the second quarter of 2004 and in part to the impact of a new collective agreement. On September 5, 2004, the collective agreement covering the majority of the Lake City Casino employees, excluding managers, supervisors and surveillance staff, expired. Negotiations were ongoing throughout the fourth quarter of 2004 and on January 27, 2005 the employees ratified a new three-year collective agreement that provided for annual increases of 2.4% per year. This is equal to the rate of inflation for the province of B.C. for the year ended November 30, 2004 and was retroactive to the expiry of the previous contract. Additionally, a total of $181,000 was paid in signing bonuses upon ratification.

The increase in other operating expenses for the quarter are primarily related to the increased activity in the casinos during the current year. However, the year to date increase includes approximately $125,000 in higher marketing and promotion expenses. This results mainly from increased marketing expenses related to marketing to BC Gold members and other promotion initiatives.

The following table compares the Lake City Casinos' results for the second quarter of 2005 with the first quarter of 2005 and each of the four quarters of 2004. Results for the second quarter of 2005 are higher than the first quarter of 2005, which is consistent with the seasonality of the operations.



C$ in thousands Q2/05 Q1/05 Q4/04 Q3/04 Q2/04 Q1/04
----------------------------------------------

Revenue
Table games
revenue 1,014 960 966 1,076 975 962
Slot machines
revenue 7,183 6,528 6,546 7,399 6,723 6,143
Food & beverage
revenue 178 166 159 176 166 147
Other revenue 226 120 (124) 69 182 47
----------------------------------------------
8,601 7,774 7,547 8,720 8,046 7,299
----------------------------------------------

Operating expenses
Human resources 3,951 3,900 3,913 3,876 3,745 3,544
Occupancy 338 300 374 309 277 270
Food & beverage 114 111 104 110 97 86
Other operating
expenses 764 786 933 715 638 615
FDF expense
recovery (663) (582) (175) (695) (612) (533)
----------------------------------------------
4,504 4,515 5,149 4,315 4,145 3,982
----------------------------------------------

Operating earnings
before amortization 4,097 3,259 2,398 4,405 3,901 3,317
----------------------------------------------
----------------------------------------------


During March 2005, community gaming facilities were opened in Kamloops and Kelowna, each with 50 slot machines. As discussed in the 2004 MD&A, these machines differ from the slot machine offerings in the Lake City Casinos, mostly in lower denomination and potential payout. While it is still too early to make a concrete determination, we have not seen any impact on the revenue at the Lake City Casinos in Kamloops and Kelowna to date.

During March the BCLC began converting slot machines in the Kamloops and Kelowna Casinos to integrated voucher system (or "IVS") technology. As discussed in the 2004 MD&A, this technology allows for cashless play using bar-coded tickets that can be used in other slot machines (also know as "ticket-in-ticket-out" play) or cashed out at self-service redemption machines. The conversion of 270 machines at the Kelowna Casino was completed during the second quarter and the conversion of 180 machines in the Kamloops Casino is scheduled to be completed by the end of 2005.



Palace Casino

Three months Six months
C$ in thousands ended June 30, % ended June 30, %
2005 2004 change 2005 2004 change
--------------------------------------------------

Revenue
Table Games
revenue 1,665 1,517 3,566 3,131
Slot machines
and other
electronic
games revenue 2,933 2,609 5,654 5,127
Food & beverage
revenue 1,030 942 2,103 1,926
Other revenue 120 106 226 212
----------------------- ------------------------
5,748 5,174 11.1% 11,549 10,396 11.1%
----------------------- ------------------------

Operating
expenses

Human resources 2,410 2,256 4,727 4,431
Occupancy 325 297 639 592
Food & beverage 394 354 808 733
Other operating
expenses 586 548 1,190 1,071
----------------------- ------------------------
3,715 3,455 7.5% 7,364 6,827 7.9%
----------------------- ------------------------

Operating earnings
before
amortization 2,033 1,719 4,185 3,569
--------------- --------------
--------------- --------------


Total revenue at the Palace Casino in the second quarter of 2005 was 11.1% higher than in the same period of 2004. This is a continuation of the growth trend we saw in the last half of 2004 and results primarily from the Palace Casino increasing its market share of the Edmonton market through enhanced customer service. However, table games revenue in the second quarter of 2005 was approximately $300,000 lower than in the first quarter of 2005. This reflects a slowdown in play following the strong results in the first quarter. This is consistent with expectations, as table games players in a mature market will tend to "try their luck" at other facilities when a casino experiences strong wins. These same players tend to migrate back after a short period of time. Table games revenue for the first six months of 2005 were $435,000, or 13.9%, higher than 2004.

Expenses for the second quarter of 2005 were $3.7 million, which represents 64.6% of total revenue, bringing total expense for the first half of 2005 to $7.4 million, or 63.8% of revenue. Although expenses for both the second quarter and the year to date were approximately 8% higher than 2004, as a percentage of revenue they are consistent with 2004. The increase in expenses resulted mainly from higher human resource costs in 2005. This is due to scheduled wage increases that came into effect in November 2004 and the impact of the increased traffic in the casino. Total human resources expense is consistent with the level experienced in the fourth quarter of 2004.

The following table compares the Palace Casino's results for the second quarter of 2005 with the first quarter of 2005 and each of the four quarters of 2004.



C$ in thousands Q2/05 Q1/05 Q4/04 Q3/04 Q2/04 Q1/04
----------------------------------------------

Revenue
Table games
revenue 1,665 1,901 1,653 1,718 1,517 1,614
Slot machines and
other electronic
games revenue 2,933 2,721 2,841 2,774 2,609 2,518

Food & beverage
revenue 1,030 1,073 1,098 999 942 984

Other revenue 120 106 42 107 106 106
----------------------------------------------

5,748 5,801 5,634 5,598 5,174 5,222
----------------------------------------------

Operating expenses

Human resources 2,410 2,317 2,256 2,234 2,256 2,175

Occupancy 325 314 346 311 297 295

Food & beverage 394 414 414 381 354 379

Other operating
expenses 586 604 634 594 548 547
----------------------------------------------

3,715 3,649 3,650 3,520 3,455 3,396
----------------------------------------------

Operating earnings
before
amortization 2,033 2,152 1,984 2,078 1,719 1,826
----------------------------------------------
----------------------------------------------


On July 1, 2005 a no-smoking bylaw came into effect in the City of Edmonton for bars, lounges bingo halls and casinos. Based on experience in other jurisdictions where a similar ban was implemented, we previously indicated that revenue at the Palace Casinos could be immediately impacted by up to 15%, with this recovering to pre-ban levels within nine to 12 months of the ban's implementation.

For the month of July, slot machine and electronic games revenue was down approximately 6% from both July 2004 and pre-ban levels. Contrasting this were tables games and poker revenues. Tables games drop (the amount of money wagered by players), excluding craps, was up approximately 13% from July 2004 and approximately 11% from pre-ban levels. Poker rakes were up 53% from July 2004 and 20% from pre-ban levels. Craps results ran counter to other table games, with drop decreasing 27% from last year and 11% from pre-ban levels. The net impact to the Palace Casino's revenue was a reduction of only 2.6% from July 2004 and 1.7% from pre-ban levels.

While we are very encouraged by these results, it is too early to make any generalizations about the overall impact of the smoking ban on the Palace Casino's revenue. The effect of the ban on July's results may have been masked by the increased activity at the casino from Edmonton hosting the World Master Games during the month, which brought 20,000 people above the age of 35 into the city.

Outlook

There were no significant changes to the competitive landscape in BC and Alberta during the second quarter of 2005, and all of our operations continued to perform well.

There is, however, still some potential for short-term impacts on the Burnaby Casino from:

1. The expansion of the Coquitlam Casino, which is anticipated to be completed during the third quarter of 2005, and

2. The introduction of slot machines at the Hastings Racecourse, expected in the fourth quarter of 2005.

Both of these operations are relatively close to our location and will increase the available gaming supply in our market. As we have discussed in the past, Gateway has developed a two-stage response to these threats, with the first being the recent expansion of the Burnaby Casino.

As discussed in detail in the 2004 MD&A, the second stage involves building a new facility for the Burnaby Casino on the site of the Radisson Hotel Burnaby purchased by Gateway last summer. This phase involves demolishing the low-rise portion of the existing hotel and building a new 100,000 square foot casino, full-service restaurant, a new lobby for the hotel, a convention center and a sports bar, as well as upgrading the existing 200 rooms in the tower portion of the hotel. The new casino will house up to 1,000 slot machines, 60 table games, a 20-table poker room, a high-limit gaming area, an entertainment lounge and central bar, and the necessary back-of-house amenities. Upon opening the new facility, the existing casino will be converted back into parkade, with an additional level and a half of parking constructed. This structure will be connected to the new casino by a covered overhead walkway.

Previously we had estimated that the redevelopment of the Burnaby Casino would cost approximately $75 to $85 million and the facility was expected to open in the second quarter of 2007. However, the current state of the construction industry in BC is impacting both the expected cost and the timing of the project. As recently highlighted in the national press, the construction industry in western Canada is experiencing one of the busiest periods in the last 20 years, due largely to the strong economies in BC and Alberta. According to the Conference Board of Canada, the construction industry in the GVRD is expected to increase at an average rate of 4% from 2006 to 2009, compared to an average growth in GDP of 3.2%. This is currently being driven by a number of large-scale projects, including the $1.8 billion expansion of the Vancouver Airport, the $1.6 billion expansion of the Vancouver Port Authority's terminals and the $2.0 billion construction of the rapid transit line between downtown Vancouver and the airport. In addition, activity is beginning to heat up on projects for the 2010 winter Olympics in Whistler. Other areas in BC and Alberta are experiencing similar trends. This has resulted in a shortage of construction labour and a less competitive market, which has translated into delays and cost increases across the industry.

The industry has also seen significant increases in the costs of certain specific construction materials due to increased global demand. The most significant are for steel, copper and concrete, which saw increases of between 30% and 50% over the last year. According to recent economic analysis by the Credit Union Central of BC, overall construction costs were rising at a rate of close to 1% per month during late 2004. This has softened in early 2005 to approximately 2/3%.

During the quarter the Fund hired a third-party construction management company to provide pre-construction assistance in assessing the impact of these market conditions on the Burnaby project. We are in the process of assessing the overall project components and finalizing a detailed budget and timeline. However, at this point we are anticipating that the cost of the redevelopment will be approximately $95 to $105 million, bringing the total cost of the project to approximately $120 to $130 million, including the purchase of the hotel. This figure includes both a contingency allowance and an allowance for further cost increases from continued escalation in the construction industry.

We expect that approximately 85% of this will be eligible for additional compensation from the Facility Development Fund, however final determination of this will be made be the BCLC once a detailed budget is submitted and approved.

Based on the current review, we are estimating that the completion of the project will be delayed from the second quarter of 2007 until the first quarter of 2008, subject to successful rezoning. During the second quarter the rezoning bylaw for the redevelopment received third reading from the City of Burnaby. Fourth and final reading is subject to the Fund meeting certain technical requirements, including final plan approval and completion of servicing agreements and covenants. Demolition of the low-rise portion of the existing hotel began in July and the construction tender is scheduled for the fall of 2005. Construction of the project is expected to start in late 2005.

Liquidity

Distributable Cash

Distributable cash is not a defined term under Canadian generally accepted accounting principles, nor does it have a standard, agreed upon meaning. As such, the Fund's distributable cash may not be directly comparable to distributable cash reported by other income funds or similar issuers. Distributable cash is presented because the Fund's policy is to pay distributable cash to unitholders on a monthly basis to the maximum extent possible. Management believes that distributable cash is a useful measure as it provides investors with an indication of cash available for distribution. This non-GAAP measure is intended to provide additional information on the Fund's performance and should not be considered in isolation or as a substitute for measures of performance prepared in accordance with GAAP.

Distributable cash is defined as the Fund's cash flow from operating activities before changes in non-cash working capital items, less required principal payments on debt, less maintenance capital expenditures, net of recoveries from the FDF, less any reserves determined by the Trustees to be reasonable and necessary for the operations of the Fund.

Costs incurred for the redevelopment of the Burnaby Casino have been excluded from the calculation of distributable cash, as they were funded using the proceeds from the issue of the long-term notes in August 2004. FDF received in the quarter relating to the expansion of the Burnaby Casino has also been excluded, as those costs were not included in distributable cash in 2004 (see 2004 MD&A).



Distributable cash for the three and six months to
June 30, 2005 and June 30, 2004 was as follows:

Three months Six months
C$ in thousands ended June 30, ended June 30,
2005 2004 2005 2004
--------------------------------------

Cash flows from operating
activities before changes
in non-cash working capital
items 10,212 9,500 19,778 20,387

Maintenance capital
expenditures (1) (175) (431) (293) (960)
FDF reimbursement received
for property and equipment
purchases(2) - 8 - 8
Payments made on Kamloops
Casino renovation loan - (175) - (376)
Payments on mortgages (81) - (163) -
--------------------------------------

Distributable cash for
the period 9,956 8,902 19,322 19,059
--------------------------------------
--------------------------------------
Per unit 0.377 0.337 0.731 0.721
--------------------------------------
--------------------------------------
(1) Maintenance capital expenditures include only those costs
related to ongoing operation of existing casinos and exclude
costs associated with expansions and new developments that are
funded by debt.
(2) Excludes FDF reimbursements received for costs associated with
expansions and new developments that are funded by debt.

Distributions were made on a monthly basis in 2005 as follows:

Distribution
per unit Payment Date
-------------------------------
January 2005 0.11 February 28, 2005
February 2005 0.11 June 30, 2005
March 2005 0.11 April 29, 2005
April 2005 0.11 May 31, 2005
May 2005 0.11 June 30, 2005
June 2005 0.11 July 29, 2005
------------
$ 0.66
------------
------------


Contractual Obligations

The Fund had the following contractual obligations for long-term
debt outstanding at August 8, 2005.


Less than 1 - 3 4 - 5 After 5
C$ in thousands Total 1 year years years years

Long-term debt
Promissory note 900 90 180 180 450
Credit Facilities - - - - -
Long term notes 40,000 - - - 40,000
Mortgages 7,550 7,550 - - -
Lease
obligations (1) 14,392 1,948 5,091 2,228 5,125
---------------------------------------------
62,842 9,588 5,271 2,408 45,575
---------------------------------------------
(1) for the Partnership's casino locations, as well as certain
office equipment and office space


Capital Resources

Capital Expenditures

Capital expenditures for the three months ended June 30, 2005 totaled $208,000, bringing the total for the first half of 2005 to $524,000. Of that, $232,000 were additional costs incurred in the first half of 2005 on the Burnaby Expansion and will be recovered from FDF in the third quarter. Of the remaining $292,000, approximately $179,000 was incurred at the Burnaby Casino and the Lake City Casinos, the majority of which is eligible for additional compensation under the FDF. The Burnaby expenditures will be recovered within the next six months, when the expenditures are approved by the BCLC. The Lake City expenditures are an addition to the balance of unrecovered expenditures as at December 31, 2004 and will be recovered in due course. The Fund applies FDF recoveries to these expenditures on a first-in-first-out basis.

During the first half of 2005 the Fund received $856,000 in FDF compensation, all of which is related to expenditures in 2004 for the Burnaby expansion.

Other than the planned redevelopment of the Burnaby Casino, there are currently no commitments for capital expenditures in 2005. We anticipate that the maintenance capital expenditures required in 2005 will approximate the total expenditures incurred during 2004.

Bank Credit Facilities

In April 2005 the Partnership successfully completed negotiations to increase the available amount under its bank credit facility to $90 million from $70 million. As with the previous arrangements, the amount is available to the Partnership in two facilities. Facility A provides for a maximum of $15 million (increased from $10 million), available to the Partnership as a revolving facility. Facility B is a $75 million construction facility for the redevelopment of the Burnaby Casino (increased from $60 million). All other terms and conditions remained the same.

As at June 30, 2005, approximately $12 million of the amount available under Facility A had been utilized to provide letters of credit to the BCLC as required under the COSAs for the Burnaby Casino and the Lake City Casinos.

Long-Term Notes Shelf Facility

In addition to the long-term notes issued on August 4, 2004, Gateway has arranged an uncommitted shelf facility of up to US$45.6 million (or the Canadian dollar equivalent) whereby the Partnership and/or Gateway GP can, subject to acceptance by the lender, issue additional notes with terms of between five years and seven years, bearing interest at rates to be determined at the time of issue based on then current market factors.

Transactions with Related Parties

The Fund had the following transactions with related parties during the current period:

1. The Fund provides management and administrative services to Gateway Casinos Inc. ("GCI") with respect to its casino operations. Under the terms of a management agreement, the Fund charges a fee to GCI equivalent to GCI's proportionate share of management and administrative expenses. The proportionate share is determined annually, based upon a combination of factors including revenue, with consideration given to time spent by senior executives of the Fund on GCI matters relating to sourcing and developing opportunities in the gaming industry. The Fund charged a fee of $986,000 to GCI for the six months ended June 30, 2005 (2004 - $615,000), which is recorded in the Quarterly Financial Statements as a reduction of administration expenses.

2. The Partnership has a contract with a subsidiary of GCI for Automated Teller Machine ("ATM") services at the Burnaby Casino. The Partnership manages the vault cash and provides first line service. The vault cash is provided by the subsidiary of GCI. The partnership receives a flat fee per annum, payable in equal monthly instalments. During the first quarter of 2005 the Partnership renegotiated the contract and increased the annual fee to $750,000 per annum, from $500,000 per annum, to reflect the increased transaction volume from the expanded operations. During the six months ended June 30, 2005 the Partnership earned a fee of $375,000 (2004 - $250,000), which is included in other revenue.

3. Effective November 5, 2003, the Partnership entered into a contract with a subsidiary of GCI for ATM services at the Palace Casino. The Partnership provides all required services, including providing the vault cash, and receives a fee per ATM transaction equal to the fee per ATM transaction received by the subsidiary of GCI. During six months ended June 30, 2005 the Partnership earned a fee of $210,000 (2004 - $188,000), which is included in other revenue.

4. Effective February 17, 2004, the Partnership entered into a contract with a subsidiary of GCI for ATM services at the Kamloops Casino. The Partnership provides all required services, including providing the vault cash, and receives a fee per ATM transaction equal to the fee per ATM transaction received by the subsidiary of GCI. During six months ended June 30, 2005 the Partnership earned a fee of $104,000 (2004 - $9,000), which is included in other revenue.

5. Prior to May 1, 2005, the Fund leased its corporate office space from a company (the "Lessor Company") controlled by the Chairman and Chief Executive Officer of Gateway Casinos G.P. Inc. ("Gateway GP") under a lease agreement dated November 28, 2002. The lease includes use of the office space, as well as provision of certain office equipment and reception. The lease expires July 31, 2008 and the monthly rent is $15,400 plus operating costs. During the six months ended June 30, 2005 the Fund paid a total of $118,000 under this lease (2004 - $151,000).

6. Effective May 1, 2005 the Fund renegotiated its office lease and other arrangements with the Lessor Company. Under the renegotiated arrangements, head leases on the Fund's corporate offices were assigned by the Lessor Company to Gateway GP and Gateway GP agreed to sublease approximately 1,950 square feet of space to the Lessor Company for monthly rent of $3,500, inclusive of common area costs and GST, and to provide the Lessor Company with reception services for an additional $350 per month, plus GST. These transactions represent a flow-through of the Fund's costs. There is no profit or loss to the Fund. In conjunction with the renegotiation, Gateway GP purchased certain office equipment, previously provided for its use by the Lessor Company, for a total cost of $45,000, which represented the current price for similar used equipment in like condition.

Right of First Offer and Pre-emptive Right

In connection with the acquisition of the operations of the Burnaby Casino, the Lake City Casinos and the Palace Casinos on November 28, 2002, the Partnership entered into an agreement with GCI where the Partnership acquired a right of first offer on all of GCI's then existing and future operations pertaining or relating to the gaming industry, with the exception of GCI's management contract for the Casino of the Rockies in Cranbrook, B.C. GCI is at various stages of redevelopment on a number of the projects, including the new Cascades Casino in Langley, and has stated that it intends to offer the redeveloped operations to the Fund once they are completed and have reached a level of maturity in earnings. Management of the Fund estimates that this will be six to 12 months from opening of each facility.

The agreement also provides the Partnership with a pre-emptive right over any acquisition opportunities pertaining or relating to the gaming industry identified by GCI.

Critical Accounting Estimates

Fair Value of Net Assets Acquired in Business Acquisitions

As part of the accounting for acquisitions made during the year, management estimates the fair market value of assets acquired for the purpose of allocating the purchase price. Where necessary, management supplements its estimates with opinions of independent third party advisors.

Goodwill Impairment Test

Goodwill is tested for impairment at least on an annual basis, normally at year-end, or when other conditions exist that may indicate that impairment could exist in the carrying value of goodwill. To identify whether goodwill impairment exists, the Fund compares the fair value of the reporting unit to which the goodwill relates to its carrying amount. When the carrying amount of the reporting unit exceeds its fair value, the carrying value is reduced to the fair value. Any excess of the carrying value of the goodwill over its fair value is charged to operations in the period the impairment occurred.

Changes in Accounting Policies

Effective January 1, 2005, the Fund adopted new guidelines for consolidation in accordance with the CICA's Accounting Guideline 15, "Consolidation of Variable Interest Entities" ("AcG-15"). AcG-15 establishes a new principles-based consolidation framework that consists of two general consolidation models - the "voting interest model" and the "variable interest model". AcG-15 limits the use of the voting interests model (the traditional consolidation framework) to situations where the holders of equity interests have made a substantive investment in the equity of the entity that is truly at risk and allows the holders to make significant decisions that affect the success of the entity. If an enterprise cannot apply the voting interests model, it means the entity is a variable interest entity ("VIE") and the variable interests consolidation model applies. Under this model, an assessment is made whether an enterprise controls an entity based on the enterprise's participation in its risks and rewards. If an enterprise holds interests in the entity that expose the entity to the majority of the entity's risks, the enterprise must consolidate. If the risks are sufficiently dispersed such that no single party has such an exposure, the enterprise that holds the majority of the entity's rewards must consolidate. If no one holds the majority of the entity's rewards, no one should consolidate the entity.

The Fund has analyzed all the of entities that it controls, directly or indirectly, or in which it has an economic interest to determine which consolidation model to apply and whether the entities must be consolidated by the Fund. Management has determined that no changes are required to its consolidation principles from what has been used in the past.

Additional Information

Additional information relating to the Fund is available on SEDAR (www.sedar.com) and on the Fund's website (www.gatewaycasinosincomefund.com), including its Annual Information Form dated March 17, 2005 and all public filings.

Consolidated Financial Statements

2nd Quarter Report 2005

For the six months ended June 30, 2005

(Unaudited - expressed in thousands of dollars)

NOTICE OF NO AUDITOR REVIEW OF INTERIM FINANCIAL STATEMENTS

Under National Instrument 51-102, Part 4, subsection 4.3(3)(a), if an auditor has not performed a review of the interim financial statements, they must be accompanied by a notice indicating that the financial statements have not been reviewed by an auditor.

The accompanying unaudited interim consolidated financial statements of the Fund have been prepared by and are the responsibility of the Fund's management.

The Fund's independent auditor has not performed a review of these financial statements in accordance with standards established by the Canadian Institute of Chartered Accountants for a review of interim financial statements by an entity's auditor.



Gateway Casinos Income Fund
Consolidated Balance Sheets
--------------------------------------------------------------------
(Unaudited - expressed in thousands of dollars)


June 30, December 31,
2005 2004
$ $

Assets

Current assets
Cash and cash equivalents 18,556 20,171
Accounts receivable 494 806
Facility development fund receivable 471 1,117
Due from related parties 1,024 834
Inventory 199 195
Prepaid expenses 567 865
Prepaid employee compensation 333 89
Current portion of prepaid rent 804 804
--------------------------
22,448 24,881

Prepaid rent 5,359 5,761

Property and equipment 19,748 20,358

Deferred financing cost 785 845

Deferred development costs 1,453 247

Goodwill 17,182 17,182

Intangible assets 17,690 18,257

Secured loans (note 6) 121,508 121,508
--------------------------
206,173 209,039
--------------------------
--------------------------

Liabilities

Current liabilities
Gaming revenue payable to BCLC and AGLC 5,260 5,883
Accounts payable and accrued liabilities 4,799 6,530
Mortgages payable 7,550 7,713
Distribution payable to unitholders - 3,598
--------------------------
17,609 23,724

Interest rate swap contract 2,378 1,461

Long-term debt (note 7) 40,900 40,900

Class A Partnership Units (note 6) 121,508 121,508
--------------------------
182,395 187,593
--------------------------

Unitholders' Equity

Issuance of trust units 22,993 22,993

Cumulative earnings 86,305 69,443

Cumulative distributions declared (85,520) (70,990)
--------------------------
23,778 21,446
--------------------------
206,173 209,039
--------------------------
--------------------------

Organization and nature of operations (note 1)

Basis of presentation (note 2)

Approved by the Board of Trustees of Gateway Casinos Income Fund

By: Ray McLean, Trustee By: Dave Gadhia, Trustee

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


Gateway Casinos Income Fund
Consolidated Statements of Earnings and Cumulative Earnings
--------------------------------------------------------------------
(Unaudited - expressed in thousands of dollars,
except per unit and number of unit figures)

Three-month Six-month
period ended period ended
June 30, June 30, June 30, June 30,
2005 2004 2005 2004
$ $ $ $

Revenue
Table games 7,043 6,587 14,560 13,758
Slot machines and other
electronic games 16,839 14,733 32,522 29,084
Food and beverage
services 1,340 1,107 2,702 2,239
Other 642 625 1,305 1,150
-------------------------------------------

25,864 23,052 51,089 46,231
-------------------------------------------

Expenses
Corporate and general
administration 1,431 1,137 2,645 2,223
Cost of food and beverage
services 564 451 1,145 910
Human resources 10,362 9,535 20,643 17,962
Marketing and promotions 779 575 1,623 891
Occupancy 758 784 1,473 1,576
Operating 1,003 749 2,266 1,649
-------------------------------------------

14,897 13,231 29,795 25,211
-------------------------------------------

Earnings before the
following 10,967 9,821 21,294 21,020

Interest income on secured
loans 2,424 3,723 4,820 7,796
Income allocation on
Class A Partnership
Units (2,427) (3,728) (4,826) (7,806)
Interest expense, net (752) (316) (1,510) (623)
Unrealized mark-to-market
loss on interest rate
swap (889) - (917) -
Amortization
Property and equipment (575) (457) (899) (881)
Intangible assets (284) (284) (567) (567)
Prepaid rent (201) (201) (402) (402)
Deferred financing
costs (69) - (131) -
-------------------------------------------

Net earnings for the
period 8,194 8,558 16,862 18,537

Unitholders' equity -
Beginning of period 24,302 27,422 21,446 22,991
Distributions declared
during the period (8,718) (8,322) (14,530) (13,870)
-------------------------------------------

Unitholders' equity -
End of period 23,778 27,658 23,778 27,658
-------------------------------------------
-------------------------------------------

Basic and fully diluted
earnings per unit .31 .32 .64 .70
-------------------------------------------
-------------------------------------------

Weighted average number
of units 26,417,687 26,417,687 26,417,687 26,417,687
-------------------------------------------
-------------------------------------------

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


Gateway Casinos Income Fund
Consolidated Statements of Cash Flows
--------------------------------------------------------------------
(Unaudited - expressed in thousands of dollars,
except per unit and number of unit figures)

Three-month Six-month
period ended period ended
June 30, June 30, June 30, June 30,
2005 2004 2005 2004
$ $ $ $

Cash flows from operating
activities
Net earnings for the
period 8,194 8,558 16,862 18,537
Items not affecting cash
Unrealized
mark-to-market loss on
interest rate swap 889 - 917 -
Amortization of property
and equipment 575 457 899 881
Amortization of
intangible assets 284 284 567 567
Amortization of prepaid
rent 201 201 402 402
Amortization of
deferred financing
costs 69 - 131 -
----------------------------------------
10,212 9,500 19,778 20,387

Changes in non-cash
working capital items (732) (807) (1,970) (462)
----------------------------------------

9,480 8,693 17,808 19,925
----------------------------------------

Cash flows from
investing activities
Purchase of property
and equipment (208) (431) (524) (960)
Facility development
funds received for
property and equipment
purchases - 8 856 8
Sale of property and
equipment - - 4 -
Repayment of secured
loans (note 6) - - - 40,000
Acquisition of Radisson
Hotel Burnaby, net
of cash received - (16,275) - (16,275)
Development costs (933) - (1,206) -
----------------------------------------

(1,141) (16,698) (870) 22,773
----------------------------------------

Cash flows from financing
activities
Distributions paid (8,718) (8,322) (18,128) (18,123)
Due from related
parties, net (508) (240) (191) (212)
Mortgage repayments (82) - (163) -
Long-term debt proceeds
(repayments) - 15,160 - 16,360
Loan repayments to
related party - (127) - (328)
Redemption of Class A
Partnership Units (note 6) - - - (40,000)
Deferred financing costs (58) (431) (71) (431)
----------------------------------------

(9,366) 6,040 (18,553) (42,734)
----------------------------------------

Decrease in cash and cash
equivalents (1,027) (1,965) (1,615) (36)

Cash and cash
equivalents - Beginning
of period 19,583 15,718 20,171 13,789
----------------------------------------

Cash and cash
equivalents - End
of period 18,556 13,753 18,556 13,753
----------------------------------------
----------------------------------------

Supplemental cash flow
information
Interest paid 854 366 1,670 693
----------------------------------------
----------------------------------------

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


Gateway Casinos Income Fund
Notes to Consolidated Financial Statements
June 30, 2005
--------------------------------------------------------------------
(Unaudited - tabular amounts expressed in thousands of dollars,
except per unit and number of units figures.)


1 Organization and nature of operations

Organization

The Gateway Casinos Income Fund (the "Fund") is an unincorporated open-ended limited purpose trust established under the laws of the Province of British Columbia pursuant to the Declaration of Trust made as of October 10, 2002, as amended and restated on November 14, 2002. The Fund was established to invest indirectly, through the Gateway Casinos Trust (the "Trust"), in all of the Class B Partnership Units of the Gateway Casinos Limited Partnership (the "Partnership"), which operates the Burnaby Casino in Greater Vancouver, British Columbia, the four Lake City Casinos in the Thompson/Okanagan region of British Columbia and the Palace Casino in Edmonton, Alberta. During 2004, the Fund acquired the net assets of Villa Hotels Ltd. in Burnaby, B.C. (note 4), which it operated from July to October 2004.

On November 28, 2002, the Fund issued 10,567,000 units at a price of $10.00 per unit pursuant to an initial public offering and a further 15,850,687 units at a price of $10.00 per unit to the shareholders of Gateway Casinos Inc. ("GCI") for total net proceeds of $254,726,000 after deducting expenses of the offering of $9,451,000.

Nature of operations

The Burnaby Casino and the Lake City Casinos are operated pursuant to Casino Operational Services Agreements ("COSAs") between the Partnership and the British Columbia Lottery Corporation ("BCLC"). The Palace Casino is operated pursuant to a Casino Facility License, a Casino Gaming Retailer Agreement, and a Video Lottery Retailer Agreement between the Partnership and the Alberta Gaming and Liquor Commission ("AGLC"). The COSAs for the Burnaby Casino and the Lake City Casinos provide for a 10-year term commencing in 2001 (except for the Penticton Casino, which commenced in 2000), with an option to renew for an additional 10 years, subject to certain conditions. The Casino Facility License from the AGLC has a one-year term that expires on October 31, 2006 and has been renewed annually since 1996. Prior to 1996, the Palace Casino (from its opening in 1989) operated under casino support agreements with individual charities. The other agreements with the AGLC have no specified term and are effective until terminated, at the AGLC's discretion or for certain specified reasons. The Partnership earns gaming revenues based on an agreed percentage of the total win from table games, slot machines and other electronic games as consideration for providing operational services to the BCLC and AGLC.

The operating agreements related to the Partnership's casinos provide that the applicable governing body may suspend or terminate the rights of the Partnership to provide services under the agreements for certain specified reasons. The future operations of the casinos depend on the continuation of the operating agreements.

2 Basis of presentation

These consolidated financial statements have been prepared in accordance with Canadian generally accepted accounting principles for interim financial statements and include the accounts of the Fund, the Trust, the Partnership and its general partner, Gateway Casinos G.P. Inc., and the Lake City Limited Partnership and its general partner, Lake City Casinos Limited. Intercompany transaction and balances have been eliminated. The disclosures contained in these unaudited interim consolidated financial statements do not include all the requirements of generally accepted accounting principles for annual financial statements.

These interim consolidated financial statements and related notes should be read in conjunction with the audited consolidated financial statements for the Fund for the year ended December 31, 2004.

3 Significant accounting policies

These interim consolidated financial statements follow the same accounting principles and methods of their application as the annual audited consolidated financial statements of the Fund, with the following exception:

Consolidation

Effective January 1, 2005 the Fund adopted new guidelines for consolidation in accordance with the CICA's Accounting Guideline 15, "Consolidation of Variable Interest Entities" ("AcG-15"). AcG-15 establishes a new principles-based framework for consolidation based on an enterprise's participation in the risks and rewards of the entity to be consolidated. Implementation of these guidelines did not have any impact on the consolidated financial statements of the Fund.

4 Acquisition of Radisson Hotel Burnaby

On June 30, 2004, the Partnership acquired the net assets of Villa Hotels Ltd. in Burnaby, B.C., which operated as the Radisson Hotel Burnaby, for total consideration of $24,177,000 including costs of the transaction. The purchased assets include the current premises of the Burnaby Casino. The acquisition has been accounted for by the purchase method and the results of the acquired business have been included in the consolidated results of the Fund from the date of acquisition until the shutdown of the hotel on October 31, 2004. The allocation of net assets acquired, at fair value, was as follows:



$

Cash and cash equivalents 24
Other current assets 308
Property and equipment 16,548
Goodwill 7,395
Current liabilities (98)
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Net assets acquired 24,177
Mortgages assumed (7,865)
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Net cash consideration 16,312
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5 Distributions to unitholders

During the six month period ended June 30, 2005, the Fund declared distributions to its unitholders of $14,530,000 or $0.55 per unit. Subsequent to the end of the period, the Fund declared a distribution of $2,906,000, or $0.11 per unit, related to the operations of June 2005. The amounts and record dates of these distributions are as follows:



Amount Per unit
Record Date $ $

Declared during the period
February 25 2,906 .11
March 25 2,906 .11
April 26 2,906 .11
May 26 2,906 .11
June 24 2,906 .11
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14,530 .55
Declared subsequent to the
period, related to the period
July 26 2,906 .11
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17,436 .66
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6 Redemption of Class A Partnership Units and repayment of secured loans

a) Secondary offering of units on February 10, 2004

The Fund entered into an underwriting agreement with a syndicate of underwriters in connection with a secondary offering of 4,000,000 units of the Fund owned by the shareholders of GCI, the former operator of the Fund's casinos. This transaction closed on February 10, 2004. The Fund did not receive any of the proceeds from the offering.

Upon completion of this transaction, the shareholders of GCI paid $40,000,000 to certain wholly-owned subsidiaries of GCI (the "Vendors") as partial repayment of certain loans outstanding between the Vendors and the selling unitholders. In accordance with the terms of the secured loans, the Vendors were required to repay the $40,000,000 to the Trust as a partial repayment of the secured loans. The Trust used the proceeds from the repayment of the secured loans to subscribe for additional Class B Units of the Partnership and the Partnership used the proceeds from the issue of Class B Units to redeem $40,000,000 of Class A Partnership Units held by the Vendors.

b) Secondary offering of units on September 17, 2004

The Fund entered into an underwriting agreement with a syndicate of underwriters in connection with a secondary offering of 6,567,150 units of the Fund owned by the shareholders of GCI. This transaction closed on September 17, 2004. The Fund did not receive any of the proceeds from the offering.

Upon completion of this transaction, the shareholders of GCI paid $65,671,500 to the Vendors as partial repayment of certain loans outstanding between the Vendors and the selling unitholders. In accordance with the terms of the secured loans, the Vendors were required to repay the $65,671,500 to the Trust as a partial repayment of the secured loans. The Trust used the proceeds from the repayment of the secured loans to subscribe for additional Class B Units of the Partnership and the Partnership used the proceeds from the issue of Class B Units to redeem $65,671,500 of Class A Partnership Units held by the Vendors.

7 Credit Facilities

During the second quarter of 2005, the Fund renegotiated its bank facilities to increase the available amount to $90 million from $70 million. As with the previous arrangements, the amount is available to the Partnership in two facilities. Facility A provides for a maximum of $15 million (increased from $10 million), available to the Fund as a revolving facility. Facility B is a $75 million construction facility for the redevelopment of the Burnaby Casino (increased from $60 million). All other terms and conditions remained the same.

As at June 30, 2005, approximately $12 million of the amount available under Facility A had been utilized to provide letters of credit to the BCLC as required under the COSAs for the Burnaby Casino and the Lake City Casinos.

8 Segmented information

The Fund has four reporting segments: the Burnaby Casino, the Lake City Casinos, the Palace Casino and the Villa Hotel. The Villa Hotel was acquired on June 30, 2004 and shut down on October 31, 2004 pending redevelopment, therefore there were no revenue or expenses for this segment in the periods reported below. All business of the Fund is conducted in Canada.



Three-month Six-month
period ended period ended
June 30, June 30, June 30, June 30,
2005 2004 2005 2004
$ $ $ $

Revenue
Burnaby Casino 11,515 9,832 23,165 20,490
Lake City Casinos 8,601 8,046 16,375 15,345
Palace Casino 5,748 5,174 11,549 10,396
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25,864 23,052 51,089 46,231
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Earnings before corporate
and general administration,
interest, income allocation
on Class A Partnership
Units, unrealized
mark-to-market loss on
interest rate swap and
amortization
Burnaby Casino 6,654 5,914 13,077 13,034
Lake City Casinos 4,097 3,901 7,356 7,216
Palace Casino 2,033 1,719 4,185 3,569
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12,784 11,534 24,618 23,819

Long-term incentive plan
compensation expense (386) (576) (679) (576)
Corporate and general
administration (1,431) (1,137) (2,645) (2,223)
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Earnings before the
following 10,967 9,821 21,294 21,020
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Amortization
Burnaby Casino (100) (17) (185) (33)
Lake City Casinos (569) (588) (1,139) (1,153)
Palace Casino (444) (321) (645) (630)
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(1,113) (926) (1,969) (1,816)

Interest income on
secured loans 2,424 3,723 4,820 7,796
Income allocation on
Class A Partnership Units (2,427) (3,728) (4,826) (7,806)
Unrealized mark-to-market
loss on interest rate swap (889) - (917) -
Amortization on corporate
assets (16) (16) (30) (34)
Interest expense - net (752) (316) (1,510) (623)
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(2,773) (1,263) (4,432) (2,483)
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Net earnings 8,194 8,558 16,862 18,537
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