• the economic condition of the lodging industry, which can be particularly affected by the financial conditions referenced above, as well as by high gas prices, levels of unemployment, consumer confidence, acts or threats of terrorism and public health issues;

• decreases in hotel occupancy, whether related to economic conditions or other causes;

• competition from providers of similar services and from alternative sources;

• changes in demand for our products and services, programming costs, availability, timeliness and quality;

• technological developments by competitors;

• developmental costs, difficulties, and delays;

• relationships with customers and property owners;

• the availability of capital to finance growth;

• the impact of covenants contained in our credit agreement, compliance with which could adversely affect capital available for other business purposes, and the violation of which would constitute an event of default;

• the impact of governmental regulations;

• potential effects of litigation;

• risks of expansion into new markets and territories;

• risks related to the security of our data systems; and

• other factors detailed, from time to time, in our filings with the Securities and Exchange Commission.

Executive Overview
We are the largest provider of interactive media and connectivity solutions to the hospitality industry in the United States, Canada and Mexico. We also provide interactive television solutions in select international markets, primarily through local or regional licensees. As of June 30, 2009, we provided interactive media and connectivity solutions to approximately 10,000 hotel properties serving over 1.9 million hotel rooms. Within that customer base, we also provide on-demand guest entertainment services, advertising media services, cable television programming and broadband Internet access in approximately 1.8 million, 1.2 million, 1.1 million and 219,000 hotel rooms, respectively. In addition, we sell and maintain interactive television systems which provide on-demand patient education, information and entertainment to healthcare facilities throughout the United States. As of June 30, 2009, our system was installed in 38 healthcare facilities, representing approximately 7,900 beds. We had six additional hospitals under contract, scheduled to be installed in future periods, representing approximately 1,400 beds.

Our results once again showed that our strategic focus on cost control and diversified revenue growth, continued to drive free cash flow and our profitability metrics during the second quarter and reduced the impact of the challenging economic environment. We will continue to operate the Company based on our current, conservative management plan until the travel sector of the economy has demonstrated a sustainable rebound from current levels. During the quarter, our strategic growth initiatives generated $47.0 million of revenue, or approximately 38.5% of total revenue, driving the related gross profit up 57.5%. Our operating expenses were reduced by 21.1%, to $22.4 million as compared to $28.4 million in the second quarter of 2008. We continued to proactively manage the amount of cash used for capital investments by investing $5.7 million this quarter compared to $19.8 million in the second quarter of 2008. These activities helped drive our income from operations up 41.7%, climbing to $4.7 million, and improving our free cash flow by 34.8%, to $14.5 million this quarter compared to $10.8 million in 2008. Our efforts to control costs, reduce the level of capital investment and diversify our rvenue base, coupled with the preferred stock offering compelted in June, have improved our liquidity and strengthened our balance sheet.
We remain committed to providing our customers with superior service and building on our market leadership position. We are bringing new and innovative solutions and products to the hospitality and healthcare industries, specifically in the areas of HD, broadband, advertising and professional solutions. Our recently unveiled LodgeNet360TM solution incorporates design, installation and service for broadband access, telephony service, digital signage, in-room automation and guest entertainment services. We can also create specialized solutions, allowing hoteliers to select only the components on an a la care basis to create a package which meets their specific requirements. Our new LodgeNet IPTV+ solution utilizes the Appleฎ Mac mini computer to create an in-room interactive experience. The solution provides hoteliers with new opportunities to deliver entertainment, present hotel information and support the services of the hotel through in-room technology. We have been working with LG Electronics to deliver interactive television services (program guides, hotel and local information) without a set-top box in guest rooms where LG Pro:Centric™ televisions have been installed. Applications such as room service orders and in-room climate controls are also possible. We have also implemented use of the Intel iCon™ Internet Concierge. This solution is integrated with a hotel's entertainment, guest access and property management systems. It allows the guest to order products or services available in the hotel through the network. It can also be used by the hotel staff as a mobile control. Our total revenue for the second quarter of 2009 was $122.0 million, a decrease of $15.4 million or 11.2%, compared to the second quarter of 2008. The decrease in revenue was primarily from Guest Entertainment services offset, in part, by increases in revenue from Hotel Services and System Sales and Related Services. The average monthly total revenue per room per month was $22.12 for the second quarter of 2009 compared to $24.65 for the second quarter of 2008, a decrease of 10.3%.
Hospitality revenue, which includes Guest Entertainment, Hotel Services and System Sales and Related Services, decreased $14.6 million or 11.0%, to $117.9 million for the second quarter of 2009 as compared to $132.5 million for the prior year quarter. Due to continued softness in the economy, which directly impacts the travel industry, hotel occupancy declined by approximately 11.4% during the second quarter 2009 compared to the same period last year. Average monthly Hospitality revenue per room was $21.38 for the second quarter of 2009, a decrease of 10.1% as compared to $23.77 per room in the second quarter of 2008.

Guest Entertainment revenue, which includes on-demand entertainment such as movies, games, music and other services delivered through the television, decreased $20.2 million or 21.2%, to $75.0 million in the second quarter of 2009. Impacted by the 11.4% decline in occupancy rates and a cautious consumer environment, average monthly Guest Entertainment revenue for the second quarter of 2009 declined 20.4% to $13.60 compared to $17.09 for the second quarter of 2008. Average monthly movie revenue per room was $12.77 for the second quarter of 2009, a 19.2% reduction as compared to $15.80 per room in the prior year quarter. Hotel Services revenue, which includes revenue paid by hotels for television programming and broadband Internet service and support, increased $3.1 million or 10.4%, to $33.2 million during the second quarter of 2009 versus $30.1 million in the second quarter of 2008. On a per-room basis, monthly Hotel Services revenue for the second quarter of 2009 increased 11.5% to $6.02 compared to $5.40 for the second quarter of 2008. Monthly television programming revenue per room increased 13.0% to $5.48 for the second quarter of 2009 as compared to $4.85 for the second quarter of 2008. This increase resulted primarily from the continued installation of high definition television systems and related television programming services. System Sales and Related Services, which includes the sale of broadband Internet equipment, television programming reception equipment, Internet conference services and HDTV installation services to hotels, increased $2.5 million or 34.6%, to $9.7 million during the second quarter of 2009 versus $7.2 million in the second quarter of 2008. Over $1.7 million of this growth was derived from network design, sales of in-room television equipment, television installation and other professional services to hotels, with the remainder coming from broadband and other equipment sales and services.
Other Revenue, including the sale of interactive systems and services to Healthcare facilities and revenue from Advertising and Media Services, was $4.1 million during the second quarter of 2009 versus $4.9 million in the second quarter of 2008. Healthcare revenue remained level at $2.4 million, while Advertising and Media revenue decreased $0.8 million to $1.7 million in the second quarter of 2009 versus the prior year quarter of $2.5 million. Total direct costs (exclusive of operating expenses and depreciation and amortization discussed separately below) were $68.6 million in the second quarter of 2009, a decrease of $4.6 million or 6.3%, as compared to $73.2 million in the second quarter of 2008. The decrease in total direct costs was primarily related to decreased hotel commissions and royalties of $5.7 million and the reduction in recurring connectivity and other Internet costs of $1.3 million, due to our cost reduction initiative. Offsetting some of these decreases were increases in incremental television programming costs of $1.9 million, which vary with revenue and the number of rooms served, and incremental equipment and service direct costs of $1.6 million, attributable with lower margin equipment sales. For the second quarter of 2009, total direct costs as a percentage of revenue were 56.2% as compared to 53.3% for the second quarter of 2008. The increase in direct costs as a percentage of revenue was driven by a change in the composition of our revenue and product mix, quarter over quarter, led by the increased percentage of revenue generated by television programming and systems and equipment sales, which generally have a lower margin.
System operations expenses and selling, general and administrative (SG&A) expenses were $22.4 million in the second quarter of 2009 compared to $28.4 million in the prior year quarter. As a percentage of total revenue, system operations expenses were 9.0% this quarter as compared to 10.8% in the second quarter of 2008. Per average installed room, system operations expenses decreased to $2.00 per room per month this quarter as compared to $2.66 in the prior year quarter. As a percentage of total revenue, SG&A expenses were 9.4% in the current quarter compared to 9.9% in the second quarter of 2008. SG&A expenses per average installed room were $2.07 this quarter as compared to $2.44 in the second quarter of 2008. There were no integration costs included within this quarter's operating expenses, compared to approximately $0.2 million in the prior year quarter. The decreases were the result of achieving the expected synergies related to the consolidation of duplicative general and administrative functions of the acquired companies and related operations, our expense reduction initiatives implemented during 2008 and 2009, as well as lower travel-related expenses.
Hospitality
Guest Entertainment (includes purchases for on-demand movies, network-based video games, music and music videos and television on-demand programming). Our primary source of revenue is providing in-room, interactive guest entertainment, for which the hotel guest pays on a per-view, hourly or daily basis.

Our total guest generated revenue depends on a number of factors, including:
• The number of rooms on our network. We can increase revenue over time by increasing the number of rooms served by our interactive television systems. Our ability to expand our room base is dependent on a number of factors, including newly constructed hotel properties and the attractiveness of our technology, service and support to hotels currently operating without an interactive television system.

• The popularity, timeliness and amount of content offered at the hotel. Our revenues vary, to a certain degree, with the number, timeliness and popularity of movie content available for viewing. Historically, a decrease in the availability of popular movie content has adversely impacted revenue. Although not completely within our control, we seek to program and promote the most popular available movie content and other content to maximize revenue and profitability.

• The price of the service purchased by the hotel guest. Generally, we control the prices charged for our products and services and manage pricing in an effort to maximize revenue and overall profitability. We establish pricing based on such things as the demographics of the property served, the popularity of the content and overall general economic conditions. Our technology enables us to measure the popularity of our content and make decisions to best position such content and optimize revenue from such content.

• The occupancy rate at the property. Our revenue also varies depending on hotel occupancy rates, which are subject to a number of factors, including seasonality, general economic conditions and world events, such as terrorist threats or public health issues. Occupancy rates for the properties we serve are typically higher during the second and third quarters due to seasonal travel patterns. We target higher occupancy properties in diverse demographic and geographic locations in an effort to mitigate occupancy-related risks.

• The availability of alternative programming. We compete directly for customers with a variety of other interactive service providers, including other interactive television service providers, cable television companies, direct broadcast satellite companies, television networks and programmers, Internet service providers and portals, companies offering web sites which provide on-demand movies, rental companies which provide videocassettes and DVDs that can be viewed in properly equipped hotel rooms or on other portable viewing devices and hotels which offer in-room laptops with Internet access or other types of Internet access systems. We also compete, in varying degrees, with other leisure-time activities such as movie theaters, the Internet, radio, print media, personal computers and other alternative sources of entertainment and information.

• Consumer sentiment. The willingness of guests to purchase our entertainment services is also impacted by the general economic environment and its impact on consumer sentiment. Historically, such impacts were not generally material to our revenue results; however, during the last half of 2008 and the first half of 2009, the deteriorating economic conditions did have a significant, negative impact on our revenue levels. As economic conditions improve in the future, guest purchase activity may increase to levels previously experienced by the Company.

The primary direct costs of providing Guest Entertainment are:
• license fees paid to major motion picture studios, which are variable and based on a percent of guest-generated revenue, for non-exclusive distribution rights of recently released major motion pictures;

• commissions paid to our hotel customers, which are also variable and based on a percent of guest-generated revenue;

• license fees, which are based on a percent of guest-generated revenue, for television on-demand, music, music videos, video games and sports programming; and

• one-time license fees paid for independent films, most of which are non-rated and intended for mature audiences.

Hotel Services (includes revenue from hotels for services such as television channels and recurring broadband Internet service and support to the hotels). Another major source of our revenue is providing cable television programming and Internet services to the lodging industry, for which the hotel pays a fixed monthly fee.

• Cable Television Programming. We offer a wide variety of satellite-delivered cable television programming paid for by the hotel and provided to guests at no charge. The cable television programming is delivered via satellite, pursuant to an agreement with DIRECTVฎ, and distributed to approximately 60% of our guest rooms over the internal hotel network, and typically includes premium channels such as HBO, Showtime and The Disney Channel, which broadcast major motion pictures and specialty programming, as well as non-premium channels, such as CNN and ESPN. With the launch of the high-definition configuration of our interactive television system, we also began offering high-definition cable television programming to the extent available from broadcast sources and DIRECTV.

• Broadband Internet Access, Service and Support. We also design, install and operate wired and wireless broadband Internet access systems at hotel properties. These systems control access to the Internet, provide bandwidth management tools and allow hotels to charge or provide the access as a guest amenity. Post-installation, we generate recurring revenue through the ongoing maintenance, service and call center support services to hotel properties installed by us and also to hotel properties installed by other providers. While this is a highly competitive area, we believe we have important advantages as a result of our existing hotel customer relationships and our nationwide field service network.

System Sales and Related Services. We also generate revenue from other products and services within the hotel and lodging industry, including sales of Internet access and other interactive television systems and equipment, Internet conference services, and professional design, project management and installation services.
Key Metrics:
Special Note Regarding the Use of Non-GAAP Financial Information To supplement our consolidated financial statements presented in accordance with accounting principles generally accepted in the United States ("GAAP"), we use free cash flow, a non-GAAP measure derived from results based on GAAP. The presentation of this additional information is not meant to be considered superior to, in isolation of, or as a substitute for, results prepared in accordance with GAAP.
We define free cash flow, a non-GAAP measure, as cash provided by operating activities less cash used for certain investing activities, including growth related capital, and consideration paid for acquisitions. Free cash flow is a key liquidity measure but should not be construed as an alternative to cash flows from operating activities or as a measure of our profitability or performance. We provide information about free cash flow because we believe it is a useful way for us, and our investors, to measure our ability to satisfy cash needs, including interest payments on our debt, taxes and capital expenditures. GAAP requires us to provide information about cash flow generated from operations. However, GAAP cash flow from operations is reduced by the amount of interest and tax payments and also takes into account changes in net current liabilities (e.g., changes in working capital) which do not impact net income. Because changes in working capital can reverse in subsequent periods, and because we want to provide information about cash available to satisfy interest and income tax expense (by showing our cash flows before deducting interest and income tax expense), we are also presenting free cash flow information. Our definition of free cash flow does not take into account our working capital requirements, debt service requirements or other commitments. Accordingly, free cash flow is not necessarily indicative of amounts of cash which may be available to us for discretionary purposes. Our method of computing free cash flow may not be comparable to other similarly titled measures of other companies.

Rooms Served
One of the metrics we monitor within our Hospitality business is the number of
rooms we serve for our various services. As of June 30, we had the following
number of rooms installed with the designated service:

                                                                                    June 30,
                                                                           2009                 2008

Total rooms served (1)                                                   1,956,562            1,969,524
Total Guest Entertainment rooms (2)                                      1,827,636            1,865,594
Total Cable Television Programming (FTG) rooms (3)                       1,104,660            1,087,448
Total THN SuperBlock rooms (4)                                             373,169              357,990
Total THN VOD rooms (5)                                                  1,157,388              538,681
Total Broadband Internet rooms (6)                                         219,260              222,421
Net new Guest Entertainment rooms for the three months ended (7)           (21,668 )              9,044
Net new Guest Entertainment rooms for the six months ended (7)             (38,717 )             18,200

(1) Total rooms served include rooms receiving one or more of our services, including rooms served by international licensees.

(2) Guest Entertainment rooms are equipped with our interactive television systems.

(3) Cable television programming (FTG) rooms receive basic or premium television programming.

(4) Includes rooms receiving satellite-delivered television channels.

(5) Includes rooms receiving server-based channels.

(6) Represents rooms receiving high-speed Internet service and are included in total rooms served.

(7) Amounts shown are net of de-installations during the period. The gross number of new rooms installed was 5,118 and 14,676 for the three months ended June 30, 2009 and 2008, respectively, and 11,078 and 32,007 for the six months ended June 30, 2009 and 2008, respectively.

Net new Guest Entertainment rooms for the three and six months ended June 30, 2009 is negative due to the de-installation of rooms we consider to be unprofitable to maintain and fewer new rooms installed as result of our reduced capital investment activity.
High Definition Room Growth
We also track the increasing penetration of our high-definition television (HDTV) system, since rooms equipped with HDTV services typically generate higher revenue, in a stable economic environment, from Guest Entertainment and Hotel Services than rooms equipped with our other VOD systems. HDTV room growth is occurring as we install our HDTV system in newly contracted rooms and convert select rooms to the HDTV system in exchange for long-term contract extensions. We installed our systems in the following number of net new rooms and had the following total rooms installed as of June 30:

                                                                      June 30,
                                                                 2009          2008

 Net new HDTV rooms for the three months ended (1)               10,747        27,054
 Net new HDTV rooms for the six months ended (1)                 18,546        50,642
 Total HDTV rooms installed (1)                                 210,262       137,034
 HDTV rooms as a percent of total Guest Entertainment rooms        11.5 %         7.3 %

(1) HDTV rooms, including new installations and major upgrades, are equipped with high-definition capabilities.

Capital Investment Per VOD Room
The average investment per room associated with an installation can fluctuate
due to the type of interactive television system installed, engineering efforts,
component costs, product segmentation, cost of assembly and installation,
average property size, certain fixed costs and hotel capital contributions. The
following table sets forth our average installation and conversion investment
cost per room on a comparable room base during the periods ended:

                                                      Three Months Ended                       Years Ended
                                                  June 30,         June 30,         December 31,         December 31,
                                                    2009             2008               2008                 2007

Average cost per room - new installation          $   330          $   411           $      389           $      399
Average cost per room - conversion                $   258          $   299           $      295           $      309

Average cost per HD room - new installation       $   320          $   410           $      398           $      460
Average cost per HD room - conversion             $   266          $   314           $      320           $      329

The decrease in the average cost per new and converted HD rooms from 2007 to 2008 was primarily driven by the change in average room size of the property, engineering efforts and hotel capital contributions. The decrease in the average cost per new and converted HD rooms from 2008 to 2009 was primarily driven by a larger average room size to absorb the fixed equipment costs and an increase in customer purchases of TV programming-related equipment. Average Revenue Per Room
We closely monitor the revenue we generate per average Hospitality room. Guest Entertainment revenue can fluctuate based on several factors, including occupancy, the popularity of movie content, consumer sentiment, the mix of services purchased, mix of travelers, the availability of alternative programming and the overall economic environment. During the quarter, occupancy . . .