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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 10-K
FOR ANNUAL AND TRANSITION REPORTS PURSUANT TO SECTIONS 13
OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
(Mark One)
[X] ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE
ACT OF 1934
For the fiscal year ended August 31, 1998
OR
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
For the transition period from _____to_____
Commission File Number 0-16986
ACCLAIM ENTERTAINMENT, INC.
(Exact name of the registrant as specified in its charter)
Delaware 38-2698904
(State or other jurisdiction of (I.R.S. Employer Identification
incorporation or organization) No.)
One Acclaim Plaza, Glen Cove, New York 11542
(Address of principal executive offices)
(516) 656-5000
(Registrant's telephone number)
Indicate by check mark whether the registrant (1) has filed all reports
required to be filed by Section 13 or 15(d) of the Securities Exchange Act
of 1934 during the preceding 12 months (or for such shorter period that the
registrant was required to file such reports), and (2) has been subject to
such filing requirements for the past 90 days. Yes X No __
Indicate by check mark if disclosure of delinquent filers pursuant to Item
405 of Regulation S-K is not contained herein, and will not be contained, to
the best of registrant's knowledge, in definitive proxy or information
statements incorporated by reference in Part III of this Form 10-K or any
amendment to this Form 10-K. __
As at November 4, 1998, approximately 51,919,000 shares of Common Stock of
the Registrant were issued and outstanding and the aggregate market value of
voting common stock held by non-affiliates was approximately $367,000,000.
The Registrant's Proxy Statement for its 1999 Annual Meeting of Stockholders
is hereby incorporated by reference into Part III of this Form 10-K.
ACCLAIM ENTERTAINMENT, INC.
INDEX TO ANNUAL REPORT ON FORM 10-K FILED WITH
THE SECURITIES AND EXCHANGE COMMISSION
YEAR ENDED AUGUST 31, 1998
ITEMS IN FORM 10-K
PART I Page
----
Item 1. Business 1
Item 2. Properties 20
Item 3. Legal Proceedings 21
Item 4 Submission of Matters to a Vote of Security Holders 23
PART II
Item 5. Market for Registrant's Common Equity and Related Stockholder Matters 24
Item 6. Selected Financial Data 25
Item 7. Management's Discussion and Analysis of Financial Condition and Results of
Operations 26
Item 7A. Quantitative and Qualitative Disclosures About Market Risk 35
Item 8. Financial Statements and Supplementary Data 36
Item 9. Changes in and Disagreements with Accountants on Accounting and
Financial Disclosure 61
PART III
Item 10. Directors and Executive Officers of the Registrant 61
Item 11. Executive Compensation 61
Item 12. Security Ownership of Certain Beneficial Owners and Management 61
Item 13. Certain Relationships and Related Transactions 61
PART IV
Item 14. Exhibits, Financial Statement Schedules and Reports on Form 8-K 62
Signatures 64
PART I
THIS ANNUAL REPORT ON FORM 10-K, INCLUDING ITEM 1 ("BUSINESS") AND ITEM 7
("MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF
OPERATIONS"), CONTAINS CERTAIN FORWARD-LOOKING STATEMENTS WITHIN THE MEANING
OF SECTION 27A OF THE SECURITIES ACT OF 1933 AND SECTION 21E OF THE SECURITIES
EXCHANGE ACT OF 1934. WHEN USED IN THIS REPORT, THE WORDS "BELIEVE,"
"ANTICIPATE," "THINK," "INTEND," "PLAN," "WILL BE" AND SIMILAR EXPRESSIONS
IDENTIFY SUCH FORWARD-LOOKING STATEMENTS. SUCH STATEMENTS REGARDING FUTURE
EVENTS AND/OR THE FUTURE FINANCIAL PERFORMANCE OF THE COMPANY ARE SUBJECT TO
CERTAIN RISKS AND UNCERTAINTIES, INCLUDING THOSE DISCUSSED IN "FACTORS
AFFECTING FUTURE PERFORMANCE" BELOW AT PAGES 11 TO 19, WHICH COULD CAUSE
ACTUAL EVENTS OR THE ACTUAL FUTURE RESULTS OF THE COMPANY TO DIFFER MATERIALLY
FROM ANY FORWARD-LOOKING STATEMENT. IN LIGHT OF THE SIGNIFICANT RISKS AND
UNCERTAINTIES INHERENT IN THE FORWARD-LOOKING STATEMENTS INCLUDED HEREIN, THE
INCLUSION OF SUCH STATEMENTS SHOULD NOT BE REGARDED AS A REPRESENTATION BY THE
COMPANY OR ANY OTHER PERSON THAT THE OBJECTIVES AND PLANS OF THE COMPANY WILL
BE ACHIEVED.
ITEM 1. BUSINESS
INTRODUCTION
Acclaim Entertainment, Inc. ("Acclaim"), together with its subsidiaries
(Acclaim and its subsidiaries are collectively referred to as the "Company"),
is a worldwide developer, publisher and mass marketer of interactive
entertainment software ("Software") for use with dedicated interactive
entertainment hardware platforms ("Entertainment Platforms") and multimedia
personal computer systems ("PC"s). The Company owns and operates four Software
development studios located in the United States and the United Kingdom (the
"Studios"), and publishes and distributes its Software directly in North
America, the United Kingdom, Germany and France. The Company's operating
strategy is to develop and maintain a core of key brands and franchises (e.g.,
Turok, NFL Quarterback Club and All Star Baseball) to support the various
Entertainment Platforms and PCs that dominate the interactive entertainment
market at a given time or which the Company perceives as having the potential
for achieving mass market acceptance.
The Company also engages, to a lesser extent, in the distribution of
Software developed by third- party Software publishers ("Affiliated Labels")
and the development and publication of comic book magazines and strategy
guides relating to the Company's Software.
Acclaim was founded in 1987 and is incorporated in the state of Delaware.
Substantially all of the Company's revenues are derived from one industry
segment: the publication of Software. For information about the Company's
foreign and domestic operations and export sales, see Note 16 of Notes to
Consolidated Financial Statements.
INTERACTIVE ENTERTAINMENT INDUSTRY OVERVIEW
The Software industry is driven by the size of the installed base of
Entertainment Platforms (such as those manufactured by Nintendo Co., Ltd.
(Japan) (Nintendo Co., Ltd. and its subsidiary, Nintendo of America, Inc., are
collectively referred to as "Nintendo"), Sony Corporation (Sony Corporation
and its affiliate, Sony Computer Entertainment America, are collectively
referred to as "Sony") and Sega Enterprises Ltd. ("Sega")) and PCs dedicated
for home use.
The industry is characterized by rapid technological change, as evidenced
by the successive introductions of hardware systems from Nintendo, Sega and
Sony (e.g., the 8-bit cartridge system from Nintendo in 1985; 16-bit cartridge
systems from Sega and Nintendo in 1990 and 1991, respectively; 32-bit compact
disk ("CD") systems from Sega and Sony in 1995; the 64-bit cartridge system
from Nintendo in
1996; and the planned introduction by Sega in the fall of 1998 of Dreamcast
("Dreamcast"), a new 64-bit CD system, in Japan). These successive
introductions have resulted in Entertainment Platform and related Software
product cycles. To date, no single Entertainment Platform or system has
achieved long-term dominance in the interactive entertainment market.
The rapid technological advances in Entertainment Platforms have
significantly changed the look and feel of Software as well as the Software
development process. According to Company estimates, the average development
time for a title is between 12 and 24 months and the average development cost
for a title is between $1 and $2 million.
The competition for shelf space in the Company's primary retail outlets
is intense because of the number of titles available in the market. Retailers
prefer to deal with companies that have track records of producing successful
titles, have a broad product line, support the introduction of their titles
with effective marketing campaigns, and have a long history with the retailer.
The following tables set forth the Company's estimates, based on
information received from hardware manufacturers, retailers and industry
analysts, in respect of (1) the cumulative installed base (in units (in
millions)) of the identified Entertainment Platforms and (2) related Software
sales, in the territories and periods indicated:
Hardware
96 97 98 Estimated
-- -- ------------
North America PlayStation 2.2 7.7 15.2
Europe PlayStation 1.6 6.5 14.0
Japan PlayStation 3.2 8.6 12.6
North America N64 1.8 6.8 11.3
Europe N64 0.0 2.6 4.5
Japan N64 1.9 3.1 3.6
Software
96 97 98 Estimated
-- -- ------------
North America PlayStation 10.5 28.0 65.0
Europe PlayStation 8.8 18.0 44.0
Japan PlayStation 26.0 53.6 60.0
North America N64 3.2 18.0 30.0
Europe N64 0.0 5.5 10.0
Japan N64 5.0 7.5 5.0
2
SOFTWARE DEVELOPMENT
The Company owns and operates four Studios, located in the United States
and the United Kingdom, and motion capture studios in the United States and
the United Kingdom. The Company invests in the creation and development of
programming tools and engines that are used in the design and development of
its Software. The Company believes that these tools and engines give it a
competitive advantage in the creation of state-of-the-art Software.
Prior to the Company's acquisition in 1995 of the Studios, the Company
relied exclusively on independent studios for the development of its Software.
Since such time, the Company has developed an increasing percentage of its
Software in the Studios. Approximately 68% of the Company's gross revenues in
fiscal 1998 were derived from Software developed in the Studios. The Company
anticipates that it will continue to rely substantially on the Studios for the
development of its Software. The Company believes that internal Software
development allows it to control the creative process, product quality, timing
of release and cost of Software.
The Company has recently consolidated the management and organizational
structure of the Studios in order to coordinate their development efforts,
enable them to maximize the use of their proprietary tools and engines and
reduce their operating expenses. Currently, approximately two-thirds of the
Company's employees are involved in its Studio operations.
The Company's Software development strategy is driven by (1) the hardware
platforms that are marketed and/or are anticipated to be marketed from time to
time, (2) the time and cost of Software development for each platform, (3) the
cost of manufacturing Software for a particular platform and (4) the attendant
gross margins for the Software. The development time for the Company's
Software for both Entertainment Platforms and PCs is currently between 12 and
24 months. The cost of manufacturing cartridge Software is significantly
higher than CD Software. See "Management's Discussion and Analysis of
Financial Condition and Results of Operations."
The Company develops and sells Software for a variety of Entertainment
Platforms and PCs. Currently, the Company's Software development efforts are
focused on the N64, PlayStation, Dreamcast and PCs. The Company's product
development methods and organization are modeled on those used in the Software
industry. Product managers ("PM"s) employed by the Company oversee and are
responsible for development of the Company's Software in the Studios. The PMs
direct teams of individuals who are responsible for the creation of the
Company's Software (i.e. the programming, graphics, animation, sound and game
play of each title). "Producers" are hired by the Company to manage Software
developed outside the Studios. They manage and monitor the delivery schedule
and budget for the title, ensure that the title follows the approved product
specifications, act as facilitators with licensors whose trademarks or brands
may be incorporated in the title, if necessary, and coordinate testing and
final approval of the title.
The Company constantly seeks new sources of brands from which to develop
Software and has historically obtained such rights from a variety of sources
in the comic book publishing (e.g., Shadowman and Turok: Dinosaur Hunter),
sports (e.g., NFL Quarterback Club and NBA Jam), arcade (e.g., NBA Jam
Extreme), film (e.g., Batman and Robin), television (e.g., South Park) and
other areas of the entertainment industry. Certain of the contractual
agreements granting the Company rights to use such brands are restricted to
individual properties, and certain agreements cover a series of properties or
grant rights to create Software based on or featuring particular brands over a
period of time. No assurance can be given that the Company will continue to be
able to source brands or that it will be able to market successfully Software
based on such brands. See " -Intellectual Property Licenses" below.
The Company checks Software developed both by its Studios and third-party
developers prior to manufacture for defects ("bugs"). The Software developed
for the Entertainment Platforms are also tested by the hardware manufacturers
for bugs. The Company's Software for PCs is tested for bugs both internally
and by independent testing organizations. To date, the Company has not had to
recall any Software due to bugs.
3
PRODUCTS
The Company's operating strategy is to develop and maintain a core of key
brands and franchises to support the various Entertainment Platforms and PCs
that dominate the interactive entertainment market at a given time or which
the Company perceives as having the potential for achieving mass market
acceptance. The Company supports this strategy through the regularly scheduled
introduction of new titles featuring those brands and franchises.
The Company intends to develop one or more additional key brands or
franchises each year based on licensed or original properties which may then
be featured on an annual basis in successive titles. The Company emphasizes
sports simulation and arcade-style Software for Entertainment Platforms, and
fantasy/role playing, real-time simulation, adventure and sports simulation
Software for PCs.
The life cycle of a title may range from less than three months to
upwards of 12 months. The life cycle of a title is dependent on its initial
success. Although actual results vary greatly from title to title, the retail
sell-through of a title is generally highest during the 90 to 120 days
immediately after its introduction.
In fiscal 1998, the Company released eight N64 titles, 11 PlayStation
titles and six PC titles.
In fiscal 1999, the Company currently plans to release between 10 and 13
titles for the N64, between eight and 10 titles for the PlayStation, between
10 and 12 titles for PCs and between eight and 10 titles for Nintendo's Game
Boy portable platform. Included in these are sequels to Turok: Dinosaur
Hunter, NFL Quarterback Club, WWF, All Star Baseball, NHL Breakaway and
Extreme G. See "Factors Affecting Future Performance - Reliance on "Hit"
Titles."
PLATFORM LICENSE AGREEMENTS
The Company has various license agreements with Nintendo (collectively,
the "Nintendo License Agreements") pursuant to which it has the non-exclusive
right to utilize the "Nintendo" name and its proprietary information and
technology in order to develop and market Software titles for various Nintendo
platforms, including N64, in various territories throughout the world. The
Nintendo License Agreements for the N64 platform expire at various times
through 2001.
The Company is party to agreements with Sony (the "Sony Agreements"),
pursuant to which the Company has a non-exclusive license to develop and
distribute Software for the PlayStation in North America, Japan and Europe.
The Sony Agreements expire in December 1998. The Company is currently
negotiating the terms of a new four-year agreement with Sony for North
America. No assurance can be given that the Company will be successful in
negotiating the new agreement with Sony or that the Company will be successful
in negotiating new agreements with Sony for other territories.
In April 1992, the Company entered into an agreement with Sega (the "Sega
Agreement") and has certain other arrangements, pursuant to which the Company
received the non-exclusive right to utilize the "Sega" name and its
proprietary information and technology in order to develop and distribute
Software titles for use with various Sega platforms. The Sega Agreement, as
amended, expired in December 1995. Since such time, the Company and Sega have
operated in the ordinary course under the terms of the expired Sega Agreement,
an oral agreement and other arrangements. In fiscal 1998, the Company derived
less than one percent of its gross revenues from sales of Sega-compatible
Software. The Company does not plan to release any titles for Sega's 32-bit
platform in fiscal 1999. Sega has announced the introduction of Dreamcast in
Japan in the fall of 1998. The Company is currently negotiating the terms of a
license agreement with Sega in respect of the Dreamcast platform for North
America. No assurance can be given that the Company will be successful in
negotiating a new agreement with Sega in respect of Dreamcast or any other
Sega platform.
The Company pays Nintendo a fixed amount per unit, based in part, on
memory capacity and chip configuration. Such amount may include the cost of
manufacturing, printing and packaging of the unit, as
4
well as a royalty for the use of Nintendo's name, proprietary information and
technology. All such fees and charges are subject to adjustment by Nintendo at
its discretion. The Company pays Sony a royalty fee and the cost of
manufacturing each unit manufactured by Sony for the Company; this payment is
made upon manufacture of the units. Historically, the Company manufactured
(through subcontractors) substantially all of its Sega titles for worldwide
distribution and paid Sega a royalty for each unit so manufactured and sold;
this payment was made upon sale of the units by the Company. Although no
assurance can be given thereof, the Company anticipates that any license it
receives from Sega in respect of Dreamcast will include a right to manufacture
Software developed by the Company for that platform. See "-- Production, Sales
and Distribution." The Company does not have the right to manufacture any
Software for the PlayStation or N64 platforms. See "Factors Affecting Future
Performance - Dependence on Entertainment Platform Manufacturers; Need for
License Renewals."
Nintendo, Sony and Sega have the right to review and evaluate, under
standards established by them, the content and playability of each title and
the right to inspect and evaluate all art work, packaging and promotional
materials used by the Company in connection with the Software. To date, all of
the Company's titles have been approved for publication by the respective
hardware manufacturers. The Company is responsible for resolving at its own
expense any warranty or repair claims brought with respect to the Software. To
date, the Company has not experienced any material warranty claims.
Under each of its platform license agreements, the Company bears the risk
that the information and technology licensed from Nintendo, Sony or Sega and
incorporated in the Software may infringe the rights of third parties.
Further, the Company must indemnify Nintendo, Sony or Sega with respect to,
among other things, any claims for copyright or trademark infringement brought
against Nintendo, Sony or Sega and arising from the development and
distribution of the game programs incorporated in the Software by the Company.
To date, the Company has not received any material claims of infringement; no
assurance can be given that the Company will not receive such claims in the
future. See " - Patent, Trademark, Copyright and Product Protection."
MARKETING AND ADVERTISING
The Company actively markets its current releases, while simultaneously
supporting its back catalogue with pricing and sales incentives.
The target consumers for the Company's titles for Entertainment Platforms
are primarily males aged 12 to 24 and, for PCs, are primarily males aged 15 to
34. In developing a marketing strategy for a title, the Company seeks story
concepts and brands or franchises that it believes will appeal to the
imagination of its target consumer. The Company creates marketing campaigns
consistent with the target consumer for each title. The Company markets its
Software through public relations; its Internet site (www.acclaim.net);
television, radio, print and Internet advertising; product sampling through
demonstration Software distributed on the Internet; consumer contests and
promotions; publicity activities; and trade shows. In addition, the Company
enters into cooperative advertising arrangements with certain of its
customers, pursuant to which the Company's Software is featured in the retail
customer's own advertisements to its customers. Dealer displays and in-store
merchandising are also used to increase consumer awareness of the Company's
Software.
The Company's ability to promote and market its Software is important to
its success. The Company's operating strategy is to develop and maintain a
core of key brands and franchises to support the various Entertainment
Platforms and PCs that dominate the interactive entertainment market at a
given time or which the Company perceives as having the potential for
achieving mass market acceptance. The Company intends to develop one or more
key brands or franchises each year based on its original properties, which may
then be featured on an annual basis in sequels. Key examples of this strategy
are Turok, Quarterback Club, All Star Baseball and NHL Breakaway. By creating
key brands and franchises, the Company is able to take advantage of
cross-merchandising opportunities, to maximize its investment in tools and
engines that were created for the original title and to capitalize on the name
recognition of the brand or franchise in subsequent releases.
5
PRODUCTION, SALES AND DISTRIBUTION
Pursuant to the Nintendo License Agreements, Nintendo manufactures
Software developed by the Company for the Nintendo platforms. Nintendo
requires the Company to open a letter of credit simultaneously with placing a
purchase order. Goods are delivered 30 to 50 days thereafter.
Pursuant to the Sony Agreements, Sony manufactures Software developed by
the Company for the Sony platforms. Initial orders for a title are delivered
within 10 to 21 days after the placement of a purchase order. Reorders
generally take 10 to 14 days. See "Factors Affecting Future Performance -
Dependence on Entertainment Platform Manufacturers; Need for License
Renewals."
The Company manufactures (through subcontractors) all of its Software for
PCs and historically has manufactured substantially all of its Sega Software.
The cost of Sega Software when manufactured by the Company, together with the
royalties payable to Sega for such manufacturing, was slightly lower than the
cost of the Company's Software when manufactured by Sega. Orders for PC and
Sega Software manufactured by the Company (through subcontractors) are
generally filled within 20 to 30 days of the placement of the order. Reorders
for such Software are generally filled within 10 days.
The Company believes that the most efficient way to distribute its
Software is by tailoring its distribution method to each geographic market.
In North America, the Company's Software is sold by regional sales
representative organizations which receive commissions based on the net sales
of each product sold. The Company maintains an in-house sales management team
to supervise the sales representatives. The sales representatives also act as
sales representatives for certain of the Company's competitors. One of the
sales representative organizations marketing the Company's Software is owned
by James Scoroposki, an officer, director and stockholder of the Company. See
"Certain Relationships and Related Transactions."
The Company sells its Software domestically primarily to mass merchants,
large retail toy store chains, department stores and specialty stores. The
Company's key domestic retail customers include Toys R Us, Walmart, Best Buy
and Target. No single customer accounted for more than 10% of the Company's
net revenues for the year ended August 31, 1996. Sales to Toys R Us accounted
for approximately 12% and 15% of the Company's net revenues for the years
ended August 31, 1997 and 1998, respectively. The Company's customers are not
obligated to purchase the Company's Software. The loss of any important
customer could have a material adverse effect on the Company.
To maximize revenues and profits, the Company distributes directly
(through subsidiaries) in the United Kingdom, Germany and France. The sales,
marketing, and distribution activities of Acclaim's European subsidiaries are
administered through a central management division, Acclaim Europe, based in
London. For sales in other markets, the Company appoints regional
distributors.
The Company is generally not contractually obligated to accept returns,
except for defective product. However, in order to maintain retail
relationships, the Company may permit its customers to return or exchange
product and may provide price protection or other concessions on products
unsold by a customer. As the Entertainment Platforms market matures and as
more titles become available, the risk of product returns and price
concessions increases. The Company establishes reserves for such concessions;
however, concessions materially exceeded reserves therefor in fiscal 1996 and
no assurance can be given that such concessions will not exceed the reserves
established therefor in a future period. See "Factors Affecting Future
Performance - Inventory Management; Risk of Product Returns" and "Management's
Discussion and Analysis of Financial Condition and Results of Operations."
The Company's warranty policy is to provide the original purchaser with
replacement or repair of defective Software for a period of 90 days after
sale. To date, the Company has not experienced significant warranty claims.
6
INTELLECTUAL PROPERTY LICENSES
Certain of the Company's titles relate to or are based on brands or
franchises licensed from third parties, such as the National Basketball
Association ("NBA") and the National Football League ("NFL") and their
respective players' associations. Typically, the Company is obligated to make
certain minimum guaranteed royalty payments over the term of the license and
to advance payments against such guarantees, which payments can be recouped by
the Company against certain royalty payments otherwise due in respect of
future sales. License agreements generally extend for a term of two to three
years, are terminable in the event of material breach (including failure to
pay any amounts owing by the Company to the licensor in a timely manner) by,
or bankruptcy or insolvency of, the Company and certain other events, and, in
some cases, are renewable upon payment of certain minimum guarantees or the
attainment of specified sales levels during the term of the license. Certain
licenses are limited to specific territories or platforms. Each license
typically provides that the licensor retains the right to exploit the licensed
property for all other purposes, including the right to license the property
for use with other products and, in some cases, Software for other
Entertainment Platforms. See "Factors Affecting Future Performance -
Intellectual Property Licenses and Proprietary Rights."
PATENT, TRADEMARK, COPYRIGHT AND PRODUCT PROTECTION
Each of Nintendo, Sony and Sega incorporates a security device in the
Software and their respective hardware systems in order to prevent unlicensed
Software from infringing Nintendo's, Sony's or Sega's proprietary rights, as
the case may be, by manufacturing Software compatible with their hardware.
Under its various license agreements with Nintendo, Sony and Sega, the Company
is obligated to obtain or license any available trademark, copyright and
patent protection for the original work developed by the Company and embodied
in or used with the Software and to display the proper notice thereof, as well
as notice of the licensor's intellectual property rights, on all its Software.
Each title may embody a number of separately protected intellectual
properties: (i) the trademark for the brand featured in the Software; (ii) the
software copyright; (iii) the name and label trademarks; and (iv) the
copyright for Nintendo's, Sony's or Sega's proprietary technical information.
The Company has registered the "Acclaim" logo and name in the United
States and in certain foreign territories and owns the copyrights for many of
its game programs. "Nintendo," "Game Boy" and "N64" are trademarks of
Nintendo; "Sega" and "Saturn" are trademarks of Sega; and "Sony," "Sony
Computer Entertainment" and "PlayStation" are trademarks of Sony. The Company
does not own the trademarks, copyrights or patents covering the proprietary
information and technology utilized in the Entertainment Platforms marketed by
Nintendo, Sony or Sega or, to the extent licensed from third parties, the
brands, concepts and game programs featured in and comprising the Company's
Software. Accordingly, the Company must rely on the trademarks, copyrights and
patents of such licensors for protection of such intellectual property from
infringement. Under the Company's license agreements with certain independent
Software developers, the Company may bear the risk of claims of infringement
brought by third parties and arising from the sale of Software and each of the
Company and such developer has agreed to indemnify the other for costs and
damages incurred arising from such claims and attributable to infringing
proprietary information, if any, embodied in the Software and provided by the
indemnitor.
There can be no assurance that the information and technology licensed or
developed by the Company will not be independently developed or
misappropriated by third parties.
COMPETITION
Competition to develop and market Software for the interactive
entertainment industry is intense. The Company's competitors include
Entertainment Platform manufacturers, most notably Nintendo, Sega and Sony,
and a number of independent software publishers.
The availability of significant financial resources has become a major
competitive factor in the Software industry, primarily as a result of the
costs associated with development and marketing of
7
Software. While the Company's competitors vary in size from very small companies
with limited resources to very large corporations with greater financial,
marketing and product development resources than the Company, the Company
believes that it is one of the largest independent publishers of Software for
Entertainment Platforms in the United States. The market for Software for PCs is
fragmented and the Company believes that it has a small share of that market.
Data derived from the Toy Retail Sales Tracking Service ("TRSTS")
indicates that, for the first nine months of calendar 1998 and the fourth
quarter of fiscal 1998, the Company achieved a combined N64 and PlayStation
market share of 7.2% and 12.5%, respectively. Based on TRSTS data, the
Company's N64 market share for the first nine months of calendar 1998 and the
fourth quarter of fiscal 1998 was 9.8% and 13.4%, respectively. Based on TRSTS
data, the Company's PlayStation market share for the first nine months of
calendar 1998 and the fourth quarter of fiscal 1998 was 4.6% and 9.1%,
respectively. No assurance can be given that the Company will be able to
maintain its share of the N64 or PlayStation market.
Competition in the Software industry is based primarily upon the quality
of the title, the publisher's access to retail shelf space, product features,
the Entertainment Platforms for which the title is written, the number of
titles available for the Entertainment Platforms or PCs, and the marketing
campaign supporting the title. The Company relies upon its product quality,
marketing and sales abilities, proprietary technology and product development
capability, capital resources, the depth of its worldwide retail distribution
channels and management experience to compete in the interactive entertainment
industry. No assurance can be given that the Company will compete successfully
on any of these factors. See "Factors Affecting Future Performance -
Competition."
DISTRIBUTION OF AFFILIATED LABELS
The Company commenced the marketing and distribution of Affiliated Labels
Software in October 1994. From time to time, the Company enters into selected
licensing agreements with third-party publishers to distribute, in selected
markets, Software developed by them. Affiliated Labels Software is marketed
under the name of the original publisher. Sales of Affiliated Labels Software
are included in the Company's revenues and the Company assumes the associated
credit risk. The Company retains a distribution fee (based on net receipts
less certain other deductions) and remits the balance to the original
publisher. In fiscal 1997, the Company derived approximately 9% of gross
revenues from sales of Software developed by Interplay Productions
("Interplay"). To date, the Company has not received significant revenues from
sales of any other Affiliated Labels Software.
COMIC BOOK PUBLISHING
Through the acquisition of Acclaim Comics, Inc. ("Acclaim Comics") in
July 1994, the Company commenced the development and publication of comic book
magazines. Acclaim Comics also publishes strategy guides relating to the
Company's Software. Acclaim Comics receives royalties from Acclaim for the use
in the Company's Software of properties licensed or created by Acclaim Comics,
such as Turok: Dinosaur Hunter, Shadowman and Bloodshot. Through fiscal 1998,
the Company has not derived significant revenues from the sale of Acclaim
Comics' products.
The Company intends to continue to release Software for a variety of
platforms based on characters licensed or created by Acclaim Comics.
Acclaim Comics' future revenues, if any, will primarily depend on the
licensing and merchandising of its characters in interactive entertainment and
other media, such as motion picture or television, the use of its characters
in the Company's Software and the publication and sale of strategy guides.
Due to Acclaim Comics' operating losses through May 1997, the Company's
assessment of the then current state of the comic book industry and the
Company's then current projections for Acclaim Comics' operations, the Company
believed that there was an impairment to the carrying value of the goodwill
relating to the acquisition of Acclaim Comics. Accordingly, the Company
recorded a write-down of $25.2
8
million in the third quarter of fiscal 1997 to reduce the carrying value of
the goodwill associated with Acclaim Comics to its estimated undiscounted
future cash flows.
EMPLOYEES
The Company currently employs approximately 660 persons worldwide,
approximately 610 of whom are employed on a full-time basis and approximately
400 of whom are employed in the United States. The Company believes that its
relationship with its employees is satisfactory.
9
EXECUTIVE OFFICERS OF THE COMPANY
The following table sets forth certain information concerning the
Company's executive officers:
Name Position and Principal Occupation Age
---- --------------------------------- ---
Gregory E. Fischbach Co-Chairman of the Board, President and Chief 56
Executive Officer of the Company
James Scoroposki Co-Chairman of the Board, Senior Executive Vice 50
President, Acting Chief Financial Officer, Secretary
and Treasurer of the Company
Rodney Cousens President and Chief Operating Officer - International 47
of Acclaim Europe
Paul Eibeler Vice President and General Manager 43
Darrin Stubbington Executive Vice President and General Manager of 31
Acclaim Studios
Gregory E. Fischbach, a founder of the Company, has been Chief Executive
Officer of the Company since its formation, a member of the Board of Directors
since 1987 and Co-Chairman of the Board of Directors since March 1989. Mr.
Fischbach was also President of the Company from its formation to January 1990
and has been President of the Company since October 1996. From June 1986 until
January 1987, he was President of RCA/Ariola International, responsible for
the management of its record operations outside the U.S. and in charge of its
17 operating subsidiaries.
James Scoroposki, a founder of the Company, has been Senior Executive
Vice President since December 1993, a member of the Board of Directors since
1987, Co-Chairman of the Board of Directors since March 1989 and acting Chief
Financial Officer since November 1997. Mr. Scoroposki has been Secretary and
Treasurer of the Company since its formation. Mr. Scoroposki was also Chief
Financial Officer of the Company from April 1988 to May 1990 and Executive
Vice President of the Company from formation to November 1993. Since December
1979, he has also been the President and sole shareholder of Jaymar Marketing
Inc., a sales representative organization. See "Certain Relationships and
Related Transactions."
Rodney Cousens became an executive officer of the Company in August 1998.
Mr. Cousens has been President and Chief Operating Officer - International of
Acclaim Europe, a division of the Company, since October 1996. From June 1994
to October 1996, Mr. Cousens was President of Acclaim Europe, and from March
1991 to June 1994, he was Vice President of Acclaim Europe.
Paul Eibeler became an executive officer of the Company in August 1998.
Mr. Eibeler has been Vice President and General Manager of the Company since
July 1997. From January 1994 to July 1997, Mr. Eibeler was Vice President of
Impact, Inc., and from June 1991 to January 1994, he was Vice President and a
partner of Impact International, each a marketer of licensed toy and school
supplies.
Darrin Stubbington became an executive officer of the Company in August
1998. Mr. Stubbington has been Executive Vice President and General Manager of
Acclaim Studios, a division of the Company, since August 1998 and was Vice
President of Product Development at Iguana Entertainment, Inc. ("Iguana") from
August 1991 to August 1998.
10
FACTORS AFFECTING FUTURE PERFORMANCE
Future operating results of the Company depend upon many factors and are
subject to various risks and uncertainties. Some of the risks and
uncertainties which may cause the Company's operating results to vary from
anticipated results or which may materially and adversely affect its operating
results are as follows:
Recent Operating Results
The Company's net revenues increased from $161.9 million in fiscal 1996
to $165.4 million in fiscal 1997 and to $326.6 million in fiscal 1998. The
Company had a net loss of $221.4 million in fiscal 1996, a net loss of $159.2
million in fiscal 1997 and net earnings of $20.7 million in fiscal 1998. For
the most part, the increase in revenues and earnings in fiscal 1998 reflects
increased sales in the United States of the Company's Software for the N64 and
PlayStation platforms. Charges for litigation settlements and other claims of
$23.6 million, a writedown of the goodwill associated with Acclaim Comics of
$25.2 million and downsizing charges of $10 million are included in the loss
for fiscal 1997. Special charges relating to the Company's exit from the
16-bit and portable Software business aggregating approximately $114 million
are included in the loss for fiscal 1996. See "Management's Discussion and
Analysis of Financial Condition and Results of Operations."
The Company's revenues and operating results in fiscal 1996 and 1997 were
affected principally by the industry transition from 16-bit to 32- and 64-bit
Entertainment Platforms. The Company had anticipated that sales of Software
for the older platforms would dominate Christmas 1995 sales and would be
material in Christmas 1996. Therefore, the Company focused its development
efforts on 16-bit Software for fiscal 1996 and 1997. However, sales of 16-bit
Software decreased much more rapidly than anticipated by the Company in
calendar 1996, which resulted in the Company's reduced revenues and net losses
in fiscal 1996 and 1997.
In fiscal 1998, the interactive entertainment hardware market was
characterized by the growth of the installed base of N64 and PlayStation units
worldwide. See "Business - Interactive Entertainment Industry Overview." This
growth had a positive impact on the Company's operating results for fiscal
1998. Although N64 and PlayStation have achieved significant market acceptance
worldwide and the Company anticipates that the installed base of N64 and
PlayStation units will continue to grow in the short term, the Company cannot
assure investors that the installed base of either or both will grow at the
present rate, if at all. Also, there is no assurance that the Company's
revenues from sales of Software for these platforms will increase as the
installed base increases.
In fiscal 1997 and 1998, the Company took various actions to reduce its
operating expenses. See "--Liquidity and Bank Relationships" below for a
description of these actions. As a result, the Company's operating expenses in
fiscal 1997 and 1998 were substantially lower than in prior periods. Although
the Company anticipates that its operating expenses will increase in dollar
terms in fiscal 1999, the Company intends to monitor its operating expenses
closely and does not anticipate that they will increase materially as a
percentage of net revenues. However, the Company cannot assure stockholders
that its operating expenses will not increase as a percentage of net revenues
in fiscal 1999 and beyond. Any such increase could negatively impact the
Company's profits in fiscal 1999 and beyond.
Liquidity and Bank Relationships
The Company used net cash in operations of approximately $38.3 million in
fiscal 1996 and approximately $29.2 million in fiscal 1997 and derived net
cash from operations of approximately $23.3 million in fiscal 1998. A tax
refund of approximately $54.0 million had a positive impact on the Company's
net cash from operating activities in fiscal 1997. The Company experienced
negative cash flow from operations in fiscal 1996 and 1997 which, for the most
part, was a result of the Company's net losses in these periods.
11
The Company had positive cash flow from operations in fiscal 1998. The
Company believes that its cash flows from operations will be sufficient to
cover its operating expenses and those current obligations that it must pay in
fiscal 1999. The Company's belief is based on the anticipated continued growth
of the installed base of 32- and 64- bit Entertainment Platforms, the
anticipated success of the Company's Software for those platforms and the
resulting continued growth of the Company's net revenues. However, the Company
cannot assure investors that its operating expenses and current obligations will
be significantly less than cash flows available from its operations in the
future. The Company's long-term liquidity depends mainly on the Company
publishing "hit" Software for the dominant Entertainment Platforms.
In order to provide liquidity, in fiscal 1997 and 1998, the Company took
a number of actions including: (1) significantly reducing the number of its
employees, (2) consolidating its Studio operations and (3) eliminating certain
operations, such as the coin-operated video game subsidiary. In addition, in
February 1997, the Company completed an offering of $50 million of 10%
Convertible Subordinated Notes (the "Notes"). Of the net proceeds of the
offering, the Company used approximately $16 million to retire a term loan
from Midland Bank plc ("Midland") and $2 million to pay down a portion of a
mortgage loan from Fleet Bank ("Fleet"). In March 1997, the Company sold
substantially all of the assets and certain liabilities of Acclaim Redemption
Games, Inc. (formerly, Lazer-Tron Corporation, "Lazer-Tron") for $6 million in
cash.
Due to the Company's financial performance in the first three quarters of
fiscal 1998, the Company was unable to comply with financial covenants under
its revolving credit facility with BNY Financial Corporation ("BNY"), its lead
institutional lender. BNY waived the resulting defaults at the end of each of
the first three quarters of fiscal 1998. The Company has negotiated new
financial covenants as of and for the period ended August 31, 1998 and future
periods. Although the Company expects to comply with these new covenants, it
cannot make any guarantee of compliance. In addition, factors beyond the
Company's control may result in future covenant defaults or a payment default.
The Company may not be able to obtain waivers of any future default(s). If
such defaults occur and are not waived by the lender, the lender could
accelerate the loan or exercise other remedies. Such actions would have a
negative impact on the Company's liquidity and operations.
Substantial Leverage and Ability to Service Debt
The Company will not be able to meet its loan obligations to its lenders
unless its future operations are profitable. The Company's future operations
depend on factors beyond its control, such as prevailing economic conditions
and financial, business and other factors.
The Company's debt level could have important consequences to its
stockholders because a portion of cash flow from operations must be set aside
to pay down debt, including the Notes, and its existing bank obligations.
Therefore, these funds are not available for other purposes. Additionally, a
high debt level limits the Company's ability to obtain additional debt
financing in the future, or to pursue possible expansion of its business or
acquisitions. Also, high debt levels could limit the Company's flexibility in
reacting to changes in the interactive entertainment industry and economic
conditions generally. These limitations make the Company more vulnerable to
adverse economic conditions and restrict its ability to withstand competitive
pressures or take advantage of business opportunities. Some of the Company's
competitors currently have a lower debt level, and are likely to have
significantly greater operating and financing flexibility, than the Company.
Based upon current levels of operations, the Company believes it can meet
its interest obligations on the Notes, and interest and principal obligations
under its bank agreements, when due. However, if the Company's cash flow from
operations is not enough to meet its debt obligations when due, the Company
may have to restructure its indebtedness. The Company cannot guarantee that it
will be able to restructure or refinance its debt on satisfactory terms. In
addition, restructuring or refinancing may not be permitted by the terms of
the indenture governing the Notes (the "Indenture"), or existing indebtedness.
The Company cannot assure stockholders that its operating cash flows will be
sufficient to meet current debt service requirements. Also, the Company cannot
guarantee stockholders that its future operating
12
cash flows will be sufficient to repay the Notes, or that the Company will be
able to refinance the Notes or other indebtedness at maturity. See "--Prior
Rights of Creditors".
Prior Rights of Creditors
The Company has outstanding long-term debt (including current portions)
of $52.7 million at August 31, 1998. Certain of the indebtedness is secured by
liens on substantially all of the Company's assets. If the Company does not
timely pay interest or principal on its indebtedness when due, the Company
will be in default under its loan agreements and the Indenture.
In addition, the Indenture provides that, upon the occurrence of certain
events, the Company may be obligated to repurchase all or a portion of the
outstanding Notes. If such a repurchase event occurs and the Company does not
have, or is unable to obtain, sufficient financial resources to repurchase the
Notes, the Company would be in default under the Indenture. In addition, the
occurrence of certain repurchase events would constitute a default under some
of the Company's current loan agreements.
Further, the Company depends on dividends and other advances and
transfers of funds from its subsidiaries to meet some debt service
obligations. State and foreign law regulate the payment of dividends by the
Company's subsidiaries, which is also subject to the terms of the Company's
existing bank agreements and the Indenture. A significant portion of the
Company's assets, operations, trade payables and other indebtedness is located
at its subsidiaries. The creditors of the subsidiaries would generally recover
from these assets on the obligations owed to them by the subsidiaries before
any recovery by the Company's creditors and before any assets are distributed
to the Company's stockholders.
If the Company is unable to meet its current bank obligations, a default
would occur under the Company's existing bank agreements. Such default, if not
waived, could result in acceleration of the Company's obligations under the
bank agreements. Moreover, default could result in a demand by the lenders for
immediate repayment and would entitle any secured creditor in respect of such
debt to proceed against the collateral securing the defaulted loan.
Additionally, an event of default under the Indenture may result in actions by
IBJ Schroder Bank & Trust Company, as trustee, on behalf of the holders of the
Notes. In the event of such acceleration by the Company's creditors or action
by the trustee, holders of indebtedness would be entitled to payment out of
the Company's assets. If the Company becomes insolvent, is liquidated or
reorganized, it is possible that there would be insufficient assets remaining
after payment to the creditors for any distribution to the Company's
stockholders.
Industry Trends; Platform Transition; Technological Change
The interactive entertainment industry is characterized by rapid
technological change due in large part to:
o the introduction of Entertainment Platforms incorporating more advanced
processors and operating systems;
o the impact of technological changes embodied in PCs;
o the development of electronic and wireless delivery systems; and
o the entry and participation of new companies in the industry.
These factors, among others, have resulted in Entertainment Platform and
Software life cycles.
No single Entertainment Platform has achieved long-term dominance.
Accordingly, the Company must continually anticipate and adapt its Software to
emerging Entertainment Platforms and systems. The process of developing
Software is extremely complex and is expected to become more complex and
expensive in the future as new platforms and technologies are introduced.
13
Development of Software currently requires substantial investment in
research and development in the areas of graphics, sound, digitized speech,
music and video. The Company cannot guarantee that it will be successful in
developing and marketing Software for new Entertainment Platforms.
Substantially all of the Company's revenues in fiscal 1998 were derived
from the sale of Software designed for N64, PlayStation and PCs. In the past,
the Company has expended significant development and marketing resources on
product development for Entertainment Platforms that have not achieved the
results it anticipated. If the Company (1) does not develop Software for
Entertainment Platforms that achieve significant market acceptance, (2)
discontinues development of Software for a platform that has a longer than
expected life cycle, (3) develops Software for a platform that does not
achieve a significant installed base or (4) continues development of Software
for a platform that has a shorter than expected life cycle, the Company may
experience losses from operations. The Company cannot guarantee that it will
be able to predict accurately such matters, and failure to do so would
negatively affect the Company.
The Company's results of operations and cash flows were negatively
affected during fiscal 1996 and 1997 by the significant decline in sales of
the Company's 16-bit Software and the transition to the new Entertainment
Platforms. Because (1) there were a significant number of titles competing for
limited shelf space and (2) the new Entertainment Platforms had not achieved
market penetration similar to that of the 16-bit platforms in prior years, the
number of units of each title sold for the newer Entertainment Platforms was
significantly less than the number of units of a title generally sold in prior
years for 16-bit platforms. In fiscal 1998, the interactive entertainment
hardware market was characterized by the worldwide growth of the installed
base of N64 and PlayStation units and related Software. Although the Company
anticipates that the installed base of these platforms will continue to grow
in the short term and that the market for Software for these platforms will
also continue to grow, the Company cannot guarantee that the hardware or
Software market will continue to grow at the current rate.
Revenue and Earnings Fluctuations; Seasonality
Historically, the Company has derived substantially all of its revenues
from the publication and distribution of Software for then dominant
Entertainment Platforms. The Company's revenues are subject to fluctuation
during transition periods, as in fiscal 1996 and 1997, when new Entertainment
Platforms have been introduced but none has achieved mass-market penetration.
In addition, the timing of release of the Company's new titles impacts the
Company's earnings in any given period. Earnings also may be materially
impacted by other factors including: (1) the level and timing of market
acceptance of titles, (2) increases or decreases in development and/or
promotion expenses for new titles and (3) the timing of orders from major
customers.
A significant portion of the Company's revenues in any quarter is
generally derived from sales of new titles introduced in that quarter or in
the immediately preceding quarter. If the Company is unable to begin volume
shipments of a significant new title during the scheduled quarter, its
revenues and earnings will be negatively affected in that quarter. In
addition, because a majority of the unit sales for a title typically occur in
the first 90 to 120 days following the introduction of the title, the
Company's earnings may increase significantly in a period in which a major
title is introduced and may decline in the following period or in periods in
which there are no major title introductions. Also, certain operating expenses
are fixed and do not vary directly in relation to revenue. Consequently, if
net revenue is below expectations, the Company's operating results are likely
to be negatively affected.
The interactive entertainment industry is highly seasonal. Typically, net
revenues are highest during the last calendar quarter (which includes the
holiday selling season), decline in the first calendar quarter, are lower in
the second calendar quarter and increase in the third calendar quarter. The
seasonal pattern is due primarily to the increased demand for Software during
the year-end holiday selling season. However, the Company's earnings vary
significantly and are largely dependent on releases of major new titles and,
accordingly, may not necessarily reflect the seasonal patterns of the industry
as a whole. The Company expects that its operating results will continue to
fluctuate significantly in the future.
14
Dependence on Entertainment Platform Manufacturers; Need for License Renewals
The following table shows the percent of the Company's gross revenues for
fiscal 1996, 1997 and 1998 derived from sales of Software for the indicated
platforms:
Title 1996 1997 1998
- ----- ---- ---- ----
Nintendo-compatible 29% 41% 60%
Sega-compatible 36% 12% 1%
Sony-compatible 19% 28% 30%
Clearly, the Company is substantially dependent on the Entertainment
Platform manufacturers as the sole manufacturers of the Entertainment
Platforms marketed by them, as the sole licensors of the proprietary
information and technology needed to develop Software for those Entertainment
Platforms and, in the case of Nintendo and Sony, as the sole manufacturers of
the Software developed by the Company for the compatible Entertainment
Platform. The Entertainment Platform manufacturers have in the past and may in
the future limit the number of titles the Company can release in any year,
which may limit any future growth in sales.
In the past, the Company has been able to renew and/or negotiate
extensions of its Software license agreements with the Entertainment Platform
developers. However, the Company cannot assure stockholders that, at the end
of their current terms, the Company will be able to obtain extensions or that
it will be successful in negotiating definitive license agreements with
developers of new Entertainment Platforms. For information regarding the
Company's various licenses with Entertainment Platform manufacturers, see
"Business - Platform License Agreements."
If the Company cannot obtain licenses from developers of new Entertainment
Platforms or if its existing license agreements are terminated, the Company's
financial position and results of operations will be materially adversely
affected. In addition, the termination of any one of the Company's license
agreements or other arrangements could negatively affect its financial position
and results of operations.
In addition to licensing arrangements, the Company depends on Nintendo,
Sony and Sega for the protection of the intellectual property rights to their
respective Entertainment Platforms and technology and their ability to
discourage unauthorized persons from producing software for the Entertainment
Platforms developed by each of them. The Company also relies upon the
Entertainment Platform manufacturers for the manufacture of certain cartridge
and CD-based read-only memory (ROM) software.
Reliance on New Titles; Product Delays
The Company's ability to maintain favorable relations with retailers and
to receive the maximum advantage from its advertising expenditures depends on
its ability to provide retailers with a timely and continuous flow of product.
The life cycle of a title generally ranges from less than three months to
upwards of 12 months, with the majority of sales occurring in the first 90 to
120 days after release. The Company actively markets its current releases
while simultaneously supporting its back catalogue with pricing and sales
incentives. The Company is constantly required to develop, introduce and sell
new titles in order to generate revenue and/or to replace declining revenues
from previously released titles. In addition, it is difficult to predict
consumer preferences for titles, and few titles achieve sustained market
acceptance. The Company cannot assure stockholders that its new titles will be
released in a timely fashion, will achieve any significant degree of market
acceptance, or that such acceptance will be sustained for any meaningful
period. Competition for retail shelf space, consumer preferences and other
factors could result in the shortening of the life cycle for older titles and
increase the importance of the Company's ability to release titles on a timely
basis.
The timely shipment of a title depends on various factors, including
quality assurance testing by the Company and the manufacturers. The Company
generally submits new titles to the Entertainment Platform manufacturers and
other intellectual property licensors for approval prior to development and/or
manufacture. Since the Company is required to engage Nintendo or Sony, as the
case may be, to
15
manufacture titles developed by the Company for the platforms marketed by
them, the Company's ability to control its supply of Nintendo or Sony titles
and the timing of their delivery is limited.
If the title is rejected by the manufacturer as a result of bugs in
Software or if there is a substantial delay in the approval of a product by an
Entertainment Platform manufacturer or licensor, the Company's financial
condition and results of operations could be negatively impacted. In the past,
the Company has experienced significant delays in the introduction of certain
new titles and such delays may occur in the future. Moreover, it is likely
that in the future certain new titles will not be released in accordance with
the Company's internal development schedule or the expectations of public
market analysts and investors. A significant delay in the introduction of, or
the presence of a defect in, one or more new titles could negatively affect
the ultimate success of the Company's titles. If the Company does not develop,
introduce and sell new competitive titles on a timely basis, its results of
operations and profitability will be negatively affected.
Reliance on "Hit" Titles
The market for Software is "hits" driven. Therefore, the Company's future
success depends on developing and marketing "hit" titles for Entertainment
Platforms with significant installed bases. Sales of the Company's top four
titles accounted for approximately 53% of gross sales for fiscal 1998 and
sales of the Company's top title accounted for approximately 33% of gross
revenues for fiscal 1997. The Company cannot assure stockholders that it will
be able to publish "hit" titles in the future. If the Company does not publish
"hit" titles in the future, its financial condition, results of operations and
profitability could be negatively affected, as they were in fiscal 1996 and
1997.
Inventory Management; Risk of Product Returns
Generally, the Company is not contractually obligated to accept returns,
except for defective product. However, the Company may permit customers to
return or exchange product and may provide price protection or other
concessions on products unsold by the customer. Accordingly, management must
make estimates and assumptions that affect the reported amounts of assets and
liabilities and disclosure of contingent assets and liabilities at the date of
the financial statements. Also, management must make estimates and assumptions
that affect the reported amounts of revenues and expenses during the reporting
periods.
Among the more significant of such estimates are allowances for estimated
returns, price concessions and other discounts. At the time of shipment, the
Company establishes reserves in respect of such estimates taking into account
the potential for product returns and other discounts based on historical
return rates, seasonality, level of retail inventories, market acceptance of
products in retail inventories and other factors. In fiscal 1996, price
allowances, returns and exchanges were significantly higher than reserves.
This shortfall had a negative impact on the Company's results of operations
and liquidity in fiscal 1996. The Company believes that, at August 31, 1998,
it has established adequate reserves for future price protection, returns,
exchanges and other concessions. However, the Company cannot guarantee the
adequacy of its reserves. If the reserves are exceeded, the Company's
financial condition and results of operations will be negatively impacted.
In addition, the Company offers stock-balancing programs for its PC
Software. The Company has established reserves for such programs, which have
not been material to date. Future stock-balancing programs may become material
and/or exceed reserves for such programs. If so exceeded, the Company's
results of operations and financial condition could be negatively impacted.
Litigation
In conjunction with certain claims and litigations for which the
settlement obligation was then estimable and probable, the Company recorded a
charge of $23.6 million in the year ended August 31, 1997. See Note 17(a) of
Notes to Consolidated Financial Statements. The Company may be required to
record additional material charges in future periods in conjunction with
litigations to which the Company is
16
a party. If the Company has to record additional charges to earnings from an
adverse result in such litigations, the Company may experience a negative
effect on its financial condition and results of operations. For a discussion
of the various claims and litigations to which the Company is currently a
party, see "Legal Proceedings."
Increased Product Development Costs
As a result of the calendar 1995 acquisitions of its Studios, beginning
in fiscal 1996, the Company's fixed software development and overhead costs
were significantly higher as compared to historical levels. These costs
negatively impacted the Company's results of operations and profitability in
fiscal 1996 and 1997. Although the Company has consolidated its Studio
operations to reduce overhead expenses, these costs may continue to affect
negatively the Company's operations.
Competition
The market for Software is highly competitive. Only a small percentage of
titles introduced in the Software market achieve any degree of sustained
market acceptance. Competition is based primarily upon:
o quality of titles;
o the publisher's access to retail shelf space;
o product features;
o the success of the Entertainment Platform for which the Software is
written;
o the number of titles available for the Entertainment Platform for which
the Software is written; and
o marketing support.
The Company competes with a variety of companies that offer products that
compete directly with one or more of its titles. Typically, the chief
competitor on an Entertainment Platform is the developer of that platform, to
whom the Company pays royalties and, in some cases, manufacturing charges.
Accordingly, the developers have a price, marketing and distribution advantage
with respect to Software marketed by them. This advantage is particularly
important in a mature or declining market which supports fewer full-priced
titles and is characterized by customers who make purchasing decisions on
titles based primarily on price, unlike developing markets with limited
titles, when price has been a less important factor in Software sales. The
Company's competitors vary in size from very small companies with limited
resources to very large corporations with greater financial, marketing and
product development resources than the Company, such as Nintendo, Sega and
Sony. The Company's competitors also include a number of independent Software
publishers licensed by the hardware developers.
Additionally, the entry and participation of new companies, including
diversified entertainment companies, in markets in which the Company competes
may adversely impact the Company's performance in these markets.
The availability of significant financial resources has become a major
competitive factor in the Software industry, primarily as a result of the
costs associated with developing and marketing Software. As competition
increases, significant price competition and reduced profit margins may
result. In addition, competition from new technologies may reduce demand in
markets in which we have traditionally competed. Prolonged price competition
or reduced demand as a result of competing technologies would negatively
impact the Company's business. The Company may not be able to compete
successfully.
Intellectual Property Licenses and Proprietary Rights
Some of the Company's Software embodies trademarks, tradenames, logos or
copyrights licensed to the Company by third parties (such as the NBA, the NFL
or their respective players' associations), the loss of which could prevent
the release of a title or limit its economic success. Since competition is
17
intense, the Company may not be successful in the future in acquiring
intellectual property rights with significant commercial value. In addition,
the Company cannot assure its stockholders that these licenses will be
available on reasonable terms or at all.
In order to protect its titles and proprietary rights, the Company relies
mainly on a combination of:
o copyrights;
o trade secret laws;
o patent and trademark laws;
o nondisclosure agreements; and
o other copy protection methods.
It is Company policy that all employees and third-party developers sign
nondisclosure agreements. These measures may not be sufficient to protect the
Company's intellectual property rights against infringement. Additionally, the
Company has "shrinkwrap" license agreements with the end users of its PC
titles, but relies on the copyright laws to prevent unauthorized distribution
of its other Software.
Existing copyright laws afford only limited protection. Notwithstanding
the Company's rights to its Software, it may be possible for third parties to
copy illegally its titles or to reverse engineer or otherwise obtain and use
the Company's proprietary information. Illegal copying occurs within the
Software industry, and if a significant amount of illegal copying of the
Company's published titles or titles distributed by the Company occurs, the
Company's business could be adversely impacted. Policing illegal use of the
Company's titles is difficult, and Software piracy is expected to persist.
Further, the laws of certain countries in which the Company's titles are
distributed do not protect the Company and its intellectual property rights to
the same extent as the laws of the United States.
The Company believes that its titles, trademarks and other proprietary
rights do not infringe on the proprietary rights of others. However, as the
number of titles in the industry increases, the Company believes that claims
and lawsuits with respect to software infringement will also increase. From
time to time, third parties have asserted that features or content of certain
of the Company's titles may infringe upon intellectual property rights of such
parties. The Company has asserted that third parties have likewise infringed
its proprietary rights. Some of these claims have resulted in litigation by
and against the Company. To date, no such claims have had a negative effect on
the Company's ability to develop, market or sell its titles. Existing or
future infringement claims by or against the Company may result in costly
litigation or require the Company to license the intellectual property rights
of third parties.
The owners of intellectual property licensed by the Company generally
reserve the right to protect such intellectual property against infringement.
International Sales
International sales represented approximately 41% of net revenues in
fiscal 1996, 50% of net revenues in fiscal 1997 and 34% of net revenues in
fiscal 1998. The Company expects that international sales will continue to
account for a significant portion of its net revenues in future periods.
International sales are subject to the following inherent risks:
o unexpected changes in regulatory requirements;
o tariffs and other economic barriers;
o fluctuating exchange rates;
o difficulties in staffing and managing foreign operations; and
o the possibility of difficulty in accounts receivable collection.
Because the Company believes that exposure to foreign currency losses is
not currently material, the Company does not hedge against foreign currency
risks.
18
In some markets, localization of the Company's titles is essential to
achieve market penetration. As a result of the inherent risks, the Company may
incur incremental costs and experience delays in localizing the Company's
titles. These risk factors or other factors could have a negative effect on
the Company's future international sales and, consequently, on its business.
Dependence on Key Personnel and Employees
The Software industry is characterized by a high level of employee
mobility and aggressive recruiting among competitors for personnel with
technical, marketing, sales, product development and management skills. The
Company's successful operations depend on the Company's ability to identify,
hire and retain such personnel. The Company may not be able to attract and
retain such personnel or may incur significant costs in order to do so.
In particular, the Company is highly dependent upon the management
services of Gregory Fischbach, Co-Chairman of the Board and Chief Executive
Officer, and James Scoroposki, Co-Chairman of the Board and Senior Executive
Vice President. The loss of the services of either of these two could have a
negative impact on the Company's business. Although the Company has employment
agreements with Messrs. Fischbach and Scoroposki, they may leave or compete
with the Company in the future. If the Company is unable to attract additional
qualified employees or retain the services of key personnel, the Company's
business could be negatively impacted.
Anti-Takeover Provisions
The Board of Directors has the authority (subject to certain limitations
imposed by the Indenture) to issue shares of preferred stock and to determine
their characteristics without stockholders approval. If preferred stock is
issued, the rights of Common Stock holders are subject to, and may be
negatively affected by, the rights of preferred stockholders. If preferred
stock is issued, it will provide flexibility in connection with possible
acquisitions and other corporate actions; however, it could make it more
difficult for a third-party to acquire a majority of the Company's outstanding
voting stock. In addition, the Company is subject to the anti-takeover
provisions of Section 203 of the Delaware General Corporation Law, which may
make it more difficult or more expensive or discourage a tender offer, change
in control or takeover attempt that is opposed by the Board. In addition,
employment arrangements with certain members of the Company's management
provide for severance payments upon termination of their employment if there
is a change in control.
Volatility of Stock Price
There is a history of significant volatility in the market prices of
companies engaged in the software industry, including the Company. The market
price of the Common Stock is likely to continue to be highly volatile. The
following factors may have a significant impact on the market price of the
Common Stock:
o timing and market acceptance of product introductions by the Company;
o the introduction of products by the Company's competitors;
o loss of any of the Company's key personnel;
o variations in quarterly operating results; or
o changes in market conditions in the software industry generally.
In the past, the Company has experienced significant fluctuations in its
operating results and, if its future revenues or operating results or product
releases do not meet expectations, the price of the Common Stock may be
negatively affected.
Stockholders should not use historical trends as well as other factors
affecting the Company's operating results and financial condition to
anticipate results or trends in future periods because of the risk factors
disclosed above. Also, stockholders should not consider historic financial
performance as a reliable indicator of future performance.
19
ITEM 2. PROPERTIES.
The Company's corporate headquarters are located in a 70,000 square foot
office building in Glen Cove, New York, which was purchased by the Company in
fiscal 1994. See Note 9 of Notes to Consolidated Financial Statements. The
Company also owns an 8,000 square foot office building in Glen Cove, New York
and a 10,000 square foot office building in Oyster Bay, New York, which has
been leased to a third party tenant.
In addition, the Company's United States subsidiaries lease approximately
10,000 square feet of office space in New York, and approximately 67,000
square feet of office space in the aggregate in Texas and Utah.
The Company's foreign subsidiaries lease office space in Japan, France,
Germany and the United Kingdom.
The Company believes that these facilities are adequate for its current
and foreseeable future needs.
20
Item 3. LEGAL PROCEEDINGS.
The Company and certain of its current and former directors and/or
executive officers were sued in various complaints filed in April 1994, which
were consolidated into an action entitled In re Acclaim Entertainment, Inc.
Securities Litigation (CV 94 1501) (the "WMS Action"). The plaintiffs, on
behalf of a class of the Company's stockholders, consisting of all those who
purchased the Common Stock for the period January 4, 1994 to March 30, 1994,
claimed damages arising from (i) the Company's alleged failure to comply with
the disclosure requirements of the securities laws in respect of the Company's
relationship with WMS Industries Inc. ("WMS") and the status of negotiations
on and the likelihood of renewal of an agreement with WMS, pursuant to which
WMS granted the Company a right of first refusal to create software for
"computer games," "home video games" and "handheld game machines" based on
arcade games released by WMS through March 21, 1995, (ii) statements made by
the Company's representative that rumors relating to the nonrenewal of the
agreement were "unsubstantiated" and that talks between the Company and WMS
were continuing, which allegedly were materially false and misleading, and
(iii) a claim that the defendants should have disclosed the likely nonrenewal
of the agreement. The parties have executed a settlement agreement, which was
approved by the court, and the WMS Action has been dismissed (subject to
expiration of the applicable appeals period). The Company is required, among
other things, to deliver the settlement amount, which consists of cash (to be
delivered to the plaintiffs' lawyers in November 1998), shares of Common Stock
and common stock purchase warrants (to be delivered after the plaintiffs'
lawyers have delivered an allocation schedule to the Company). The Company has
agreed to assign to the plaintiffs in the WMS Action a portion of the proceeds
recovered by the Company from Mt. Hawley Insurance Company ("Mt. Hawley"),
based on Mt. Hawley's disclaimer of coverage for liability from the WMS
Action.
The Company, Iguana and Gregory E. Fischbach were sued in an action
entitled Jeffery Spangenberg vs. Acclaim Entertainment, Inc., Iguana
Entertainment, Inc., and Gregory Fischbach filed in August 1998 in the
District Court of Travis County, Texas (Cause No. 98-09418). The plaintiff
alleges that the defendants (i) breached their employment obligations to the
plaintiff, (ii) breached a Texas statute covering wage payment obligations
based on their alleged failure to pay bonuses to the plaintiff; and (iii) made
fraudulent misrepresentations to the plaintiff in connection with the
plaintiff's employment relationship with the Company, and accordingly, seeks
unspecified damages. The Company intends to defend this action vigorously.
The Securities and Exchange Commission (the "Commission") has issued
orders directing a private investigation relating to, among other things, the
Company's earnings estimate for fiscal 1995 and its decision in the second
quarter of fiscal 1996 to exit the 16-bit portable and cartridge markets. The
Company has provided documents to the Commission, and the Commission has taken
testimony from Company representatives. The Company intends fully to cooperate
with the Commission in its investigation. No assurance can be given as to
whether such investigation will result in any litigation or, if so, as to the
outcome of this matter.
The New York State Department of Taxation and Finance, following a field
audit of the Company with respect to franchise tax liability for its fiscal
years ended August 31, 1989, 1990 and 1991, has notified the Company that a
stock license fee (plus interest and penalties) of approximately $2.0 million,
relating to the Company's outstanding capital stock as of 1989, is due to the
State. The Company is contesting the fee and a petition denying liability has
been filed. No assurance can be given as to the outcome of this matter.
In conjunction with claims arising from certain of the Company's
acquisitions and then pending litigations and claims for which the settlement
obligation was probable and estimable, the Company recorded a charge of $23.6
million during the year ended August 31, 1997. Approximately $11.7 million of
these litigation settlements will be satisfied in cash, of which $6.6 million
has been paid as of August 31, 1998. The remainder is payable with non-cash
items, such as stock or warrants. See Note 17(a) of Notes to Consolidated
Financial Statements.
21
The Company is also party to various litigations arising in the ordinary
course of its business, the resolution of none of which, the Company believes,
will have a material adverse effect on the Company's liquidity or results of
operations.
22
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS.
On October 1, 1998, at the annual meeting of stockholders of the Company,
the stockholders (i) elected the following directors: Gregory E. Fischbach (by
a vote of 42,589,485 shares for and 654,812 shares withheld); James Scoroposki
(by a vote of 42,597,036 shares for and 647,261 shares withheld); Kenneth L.
Coleman (by a vote of 42,621,406 shares for and 622,891 shares withheld);
Bernard J. Fischbach (by a vote of 42,526,384 shares for and 717,913 shares
withheld); Robert H. Groman (by a vote of 42,264,481 shares for and 979,816
shares withheld); James Scibelli (by a vote of 42,645,431 shares for and
598,866 shares withheld); and Michael Tannen (by a vote of 42,625,435 shares
for and 618,862 shares withheld); (ii) approved, by a vote of 25,866,164
shares for, 1,185,627 shares against, and abstentions and broker non-votes
with respect to 16,192,506 shares, the Company's 1998 Employee Stock Purchase
Plan; (iii) approved, by a vote of 16,254,373 shares for, 10,789,971 shares
against, and abstentions and broker non-votes with respect to 16,199,953
shares, the Company's 1998 Stock Incentive Plan; and (iv) ratified the
appointment of KPMG Peat Marwick LLP as independent auditors of the Company
for the year ended August 31, 1998 by a vote of 42,706,593 shares for, 406,580
shares against, and abstentions with respect to 131,124 shares.
23
PART II
-------
ITEM 5. MARKET FOR REGISTRANT'S COMMON EQUITY AND RELATED STOCKHOLDER MATTERS.
The Common Stock is traded on The NASDAQ Stock Market National Market
System under the symbol AKLM. On November 4, 1998, the closing sale price of
the Common Stock was $8.625 per share. As of such date, there were
approximately 1,250 holders of record of the Common Stock.
The following table sets forth the range of high and low sales prices for
the Common Stock for each of the periods indicated:
Price
-----
Period High Low
- ------ ---- ---
FISCAL YEAR 1997
First Quarter $8.63 $3.06
Second Quarter 6.88 3.13
Third Quarter 5.88 2.94
Fourth Quarter 5.00 3.50
FISCAL YEAR 1998
First Quarter 6.00 2.94
Second Quarter 5.25 3.09
Third Quarter 8.19 5.00
Fourth Quarter 7.63 4.50
RECENT SALES OF UNREGISTERED SECURITIES
In fiscal 1998, the Company issued an aggregate of 914,303 shares of
Common Stock pursuant to settlement agreements relating to various claim and
litigations. The shares were issued pursuant to the exemption from
registration provided under Section 4(2) of the Securities Act of 1933 (the
"Securities Act"). In addition, in August 1998, the Company issued an
aggregate of 360,000 shares of Common Stock in settlement of the WMS Action,
to be distributed to the plaintiffs in the WMS Action after the plaintiffs'
lawyers have delivered an allocation schedule to the Company, pursuant to the
exemption from registration provided under Section 3(a)(10) of the Securities
Act. See "Legal Proceedings" and Note 17(a) of Notes to Consolidated Financial
Statements.
In May 1998, the Company issued 15,000 shares of restricted stock to Paul
Eibeler, currently an executive officer of the Company. The shares were issued
by the Company to Mr. Eibeler pursuant to the exemption from registration
provided under Section 4(2) of the Securities Act. The 15,000 shares of
restricted stock will vest in full in January 1999 subject to Mr. Eibeler's
continued employment with the Company at that time.
DIVIDEND POLICY
The Company has never declared or paid any cash dividends on the Common
Stock and has no present intention to declare or pay cash dividends on the
Common Stock in the foreseeable future. The Company is subject to various
financial covenants with its lenders that could limit and/or prohibit the
payment of dividends in the future. See "Management's Discussion and Analysis
of Financial Condition and Results of Operations" and Note 9 of Notes to
Consolidated Financial Statements. The Company intends to retain earnings, if
any, which it may realize in the foreseeable future to finance its operations.
24
ITEM 6. SELECTED FINANCIAL DATA.
The following tables should be read in conjunction with the consolidated
financial statements of the Company and the notes thereto and the
"Management's Discussion and Analysis of Financial Condition and Results of
Operations" section appearing elsewhere in this Annual Report on Form 10-K.
Fiscal Year Ended August 31,
----------------------------
(in 000s, except per share information)
1998 1997 1996(3) 1995(2) 1994(1)
---- ---- ------- ------- -------
STATEMENT OF OPERATIONS DATA:
Net revenues $326,561 $165,411 $161,945 $566,723 $480,756
Cost of revenues 148,660 89,818 191,790 291,474 249,902
Gross profit (loss) 177,901 75,593 (29,845) 275,249 230,854
Marketing and sales 61,691 57,266 116,142 125,813 102,035
General and administrative 54,149 68,831 76,625 66,503 46,721
Research and development 37,367 41,689 46,864 12,267 4,628
Goodwill writedown --- 25,200 --- --- ---
Litigation settlements --- 23,550 --- --- ---
Downsizing charge --- 10,000 5,000 --- ---
Earnings (loss) from operations 24,694 (150,943) (274,476) 70,666 77,470
Other (expense) income, net (3,240) (8,117) 5,609 5,608 (475)
Earnings (loss) before
income taxes 21,454 (159,060) (268,867) 76,274 76,995
Net earnings (loss) 20,690 (159,228) (221,368) 44,770 45,055
Basic earnings (loss) per share $0.40 $(3.21) $(4.47) $1.05 $1.18
Diluted earnings (loss) per share $0.37 $(3.21) $(4.47) $0.86 $1.00
- ---------------------------------
(1) Includes results of operations of Acclaim Comics from July 29, 1994.
(2) Includes results of operations of Iguana from January 4, 1995 and of
Lazer-Tron for the entire year.
(3) Includes results of operations of Acclaim Studios - Salt Lake City, Inc.
(formerly, Sculptured Software, Inc.) and Probe Entertainment Limited
("Probe") for the entire year.
August 31,
----------
1998 1997 1996 1995 1994
---- ---- ---- ---- ----
BALANCE SHEET DATA:
Working capital (deficiency) $(19,100) $(64,156) $(10,039) $200,455 $131,820
Total assets 160,407 133,175 239,651 442,827 335,878
Current portion of long-term debt 724 1,002 25,527 25,196 1,538
Long-term liabilities 56,629 59,472 4,032 461 41,754
Stockholders' (deficiency) equity (21,773) (59,046) 93,589 314,707 175,243
25
Item 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS.
Overview
The Company is a worldwide developer, publisher and mass marketer of
Software for use with Entertainment Platforms and PCs. The Company owns and
operates four Studios, located in the United States and the United Kingdom,
and publishes and distributes its Software directly in North America, the
United Kingdom, Germany and France. The Company's operating strategy is to
develop and maintain a core of key brands and franchises to support the
various Entertainment Platforms and PCs that dominate the interactive
entertainment market at a given time or which the Company perceives as having
the potential for achieving mass market acceptance. The Company emphasizes
sports simulation and arcade-style Software for Entertainment Platforms, and
fantasy/role-playing, real-time simulation, adventure and sports simulation
Software for PCs.
The Company also engages, to a lesser extent, in the distribution of
Affiliated Labels Software and the development and publication of comic book
magazines and strategy guides relating to the Company's Software.
The Company believes the Software industry is driven by the size of the
installed base of Entertainment Platforms (such as those manufactured by
Nintendo, Sony and Sega) and PCs. The industry is characterized by rapid
technological change, resulting in Entertainment Platform and related Software
product cycles. No single Entertainment Platform or system has achieved
long-term dominance in the interactive entertainment market.
Based on information available in 1994 and based on its historical
experience with respect to the transition from 8- to 16-bit platforms, the
Company believed that Software sales for 16-bit platforms would, although
continuing to decrease overall, remain substantial through the 1996 holiday
season. Accordingly, the Company anticipated that its sales of 32-bit and PC
Software in fiscal 1996 would grow as compared to fiscal 1995 but that the
majority of its revenues in fiscal 1996 would still be derived from 16-bit
Software sales. However, the 16-bit Software market matured much more rapidly
than anticipated by the Company, the Company's Christmas 1995 16-bit Software
sales were substantially lower than anticipated and, by April 1996, the
Company derived minimal profits from such Software sales and made the decision
to exit the 16-bit and portable Software markets.
In connection with the Company's decision to exit the 16-bit and portable
Software markets in April 1996, the Company recorded a special cartridge video
charge of approximately $48.9 million in the second quarter of fiscal 1996,
consisting of provisions of approximately $28.8 million (reflected in net
revenues), and approximately $20.1 million (reflected in cost of revenues),
respectively, to adjust accounts receivable and inventories at February 29,
1996 to their estimated net realizable values in conjunction with management's
decision to exit the 16-bit and portable Software market.
The Company recorded a loss from operations of $274.5 million and a net
loss (on an after-tax basis) of $221.4 million for fiscal 1996. The net loss
for the year reflected write-offs of receivables, the establishment of
additional receivables and inventory reserves, severance charges incurred in
connection with the downsizing of the Company and the reduction of certain
deferred costs, as well as an operating loss for the year resulting primarily
from price protection and similar concessions granted to retailers at greater
than anticipated levels in connection with the Company's 16- and 32-bit
Software.
The Company recorded a loss from operations of $150.9 million and a net
loss (on an after-tax basis) of $159.2 million for fiscal 1997. The net loss
for the year reflects, among other things, a charge for certain claims and
litigations for which the settlement obligation was probable and estimable of
$23.6 million, a write-down of goodwill of $25.2 million to reduce the
carrying value of the goodwill associated with Acclaim Comics to its estimated
undiscounted cash flows and downsizing charges of $10 million.
26
As a result of the Company's acquisitions of its Studios in 1995 (two of
which were completed in fiscal 1996), the Company's fixed costs relating to
the development of Software and its general and administrative expenses
substantially increased in fiscal 1996. See "Factors Affecting Future
Performance - Increased Product Development Costs." Such expenses in the
aggregate had a material adverse impact on the Company's profitability in
fiscal 1996 and fiscal 1997.
The Company recorded earnings from operations of $24.7 million and net
earnings (on an after-tax basis) of $20.7 million for fiscal 1998. The
improved results for fiscal 1998 primarily resulted from increased sales in
the United States of the Company's 64-bit and, to a lesser extent, 32-bit
Software. They also reflect the Company's significantly reduced operating
expenses, resulting primarily from a reduction in personnel, the sale or
discontinuance of certain non-profitable businesses, the consolidation of
certain of its Studio operations to reduce their overhead expenses and various
other cost reductions.
As a result of the industry transition to 32- and 64-bit Entertainment
Platforms, the Company's Software sales during fiscal 1996, 1997 and 1998 were
significantly lower than in fiscal 1995. Management expects that, unless and
until the installed base of 32- and 64-bit Entertainment Platforms increases
substantially, the Company's unit sales and revenues from the sale of Software
for these platforms will be substantially lower than Software sales levels
achieved prior to fiscal 1996, when the current transition began. No assurance
can be given as to the future growth of the installed base of 32- and 64-bit
Entertainment Platforms or of the Company's results of operations and
profitability in future periods. See "Factors Affecting Future Performance -
Industry Trends; Platform Transition; Technological Change."
The rapid technological advances in game systems have significantly
changed the look and feel of Software as well as the Software development
process. According to Company estimates, the average development cost for a
title three years ago was approximately $300,000 to $400,000, while the
average development cost for a title for Entertainment Platforms and PCs is
currently between $1 million and $2 million.
The Company's ability to generate sales growth and profitability will be
materially dependent on (i) the growth of the Software market for 32- and
64-bit Entertainment Platforms and PCs and (ii) the Company's ability to
identify, develop and publish "hit" Software for Entertainment Platforms with
significant installed bases.
RESULTS OF OPERATIONS
The following table sets forth certain statements of consolidated
operations data as a percentage of net revenues for the periods indicated:
27
Fiscal Year Ended August 31,
----------------------------
1998 1997 1996
---- ---- ----
Domestic revenues 66.4% 49.7% 58.7%
Foreign revenues 33.6 50.3 41.3
---- ---- ----
Net revenues 100.0 100.0 100.0
Cost of revenues 45.5 54.3 118.4
---- ---- -----
Gross profit (loss) 54.5 45.7 (18.4)
Marketing and sales 18.9 34.6 71.7
General and administrative 16.6 41.6 47.3
Research and development 11.4 25.2 28.9
Goodwill writedown --- 15.2 ---
Litigation settlements --- 14.2 ---
Downsizing charge --- 6.1 3.1
----- --- ---
Total operating expenses 46.9 137.0 151.1
Earnings (loss) from operations 7.6 (91.3) (169.5)
Other (expense) income, net (1.0) (4.9) 3.5
Earnings (loss) before income taxes 6.6 (96.2) (166.0)
Net earnings (loss) 6.3 (96.3) (136.7)
NET REVENUES
The Company's gross revenues were derived from the following product
categories:
1998* 1997* 1996*
----- ----- -----
Portable Software 2.0% 2.0% 8.0%
16-bit Software --- 9.0% 44.0%
32-bit Software 30.0% 37.0% 32.0%
64-bit Software 57.0% 33.0% ---
PC Software 10.0% 15.0% 12.0%
Other 1.0% 4.0% 4.0%
- ------------------------
*The numbers in this chart do not give effect to sales credits and allowances
granted by the Company in the periods covered since the Company does not track
such credits and allowances by product category. Such credits and allowances
were material to the Company's results of operations in fiscal 1996.
Accordingly, the numbers presented may vary materially from those that would
be disclosed if the Company were able to present such information as a
percentage of net revenues.
The increase in the Company's net revenues from $165.4 million for the
year ended August 31, 1997 to $326.6 million for the year ended August 31,
1998 was predominantly due to increased sales in the United States of the
Company's 64-bit and, to a lesser extent, 32-bit Software. The increase in
sales in fiscal 1998 was primarily due to the increase in the installed base
of N64 and PlayStation consoles worldwide and the quality of the Company's
titles. Although revenues from the sale of N64 and PlayStation Software are
anticipated to continue to grow in fiscal 1999, the Company does not
anticipate that it will achieve its 1998 growth rate.
The Company's domestic sales in fiscal 1998 comprised a higher percentage
of total net revenues compared to fiscal 1997 primarily because the titles
published by the Company in 1998 achieved greater popularity in the domestic
market (e.g., WWF War Zone and Quarterback Club '98). The Company anticipates
that its mix of domestic and foreign net revenues will continue to be affected
by the content of titles released by the Company.
The increase in the Company's net revenues from $161.9 million for the
year ended August 31, 1996 to $165.4 million for the year ended August 31,
1997 was predominantly due to sales of the Company's N64 title, Turok:
Dinosaur Hunter, offset by reduced unit sales of 16-bit Software.
28
To date, the Company has not generated material revenues from any of its
operations other than Software publishing and no assurance can be given that
the Company will be able to generate such revenues in the future.
A significant portion of the Company's revenues in any quarter are
generally derived from Software first released in that quarter or in the
immediately preceding quarter. See "Factors Affecting Future Performance -
Revenue and Earnings Fluctuations; Seasonality."
In fiscal 1998, WWF War Zone (for multiple platforms), NFL Quarterback
Club '98 (for the N64), Forsaken (for multiple platforms) and Extreme G (for
the N64) accounted for approximately 18%, 13%, 11% and 11%, respectively, of
the Company's gross revenues. In fiscal 1997, Turok: Dinosaur Hunter (for the
N64) accounted for approximately 33% of the Company's gross revenues. In
fiscal 1996, no single title accounted for a significant portion of the
Company's gross revenues.
In addition, in fiscal 1997, sales of Software manufactured by Interplay
accounted for approximately 9% of the Company's gross revenues. See "Business
- -- Distribution of Affiliated Labels." The Company did not derive material
revenues from the sales of Affiliated Labels Software in fiscal 1996 and 1998
and does not anticipate that such sales will be material in fiscal 1999.
The Company is substantially dependent on Nintendo, Sony and Sega as the
sole manufacturers of the Entertainment Platforms marketed by them, as the
sole licensors of the proprietary information and technology needed to develop
Software for those platforms and on Nintendo and Sony as the sole
manufacturers of Software for the Entertainment Platforms marketed by them.
For the years ended August 31, 1996, 1997 and 1998, the Company derived 29%,
41% and 60% of its gross revenues, respectively, from sales of
Nintendo-compatible Software, 19%, 28% and 30% of its gross revenues,
respectively, from sales of Software for PlayStation and 36%, 12% and less
than 1% of its gross revenues, respectively, from sales of Sega-compatible
Software. See "Factors Affecting Future Performance - Dependence on
Entertainment Platform Manufacturers; Need for License Renewals."
GROSS PROFIT
Gross profit fluctuates primarily as a result of five factors: (i) the
level of returns, sales credits and allowances; (ii) the number of "hit"
products and average unit selling prices; (iii) the percentage of sales of CD
Software; (iv) the percentage of foreign sales; and (v) the percentage of
foreign sales to third-party distributors. All royalties payable to Nintendo,
Sony and Sega are included in cost of revenues.
The Company's gross profit is adversely impacted by increases in the
level of returns and allowances to retailers, which reduces the average unit
price obtained for its Software sales. Similarly, lack of "hit" titles or a
low number of "hit" titles, resulting in lower average unit sales prices,
adversely impacts the Company's gross profits.
The Company's margins on sales of CD Software (currently, PlayStation and
PCs) are higher than those on cartridge Software (currently, N64) as a result
of significantly lower CD Software product costs.
The Company's margins on foreign Software sales are typically lower than
those on domestic sales due to higher prices charged by hardware licensors for
Software distributed by the Company outside North America. The Company's
margins on foreign Software sales to third-party distributors are
approximately one-third lower than those on sales that the Company makes
directly to foreign retailers.
Gross profit increased from $75.6 million (46% of net revenues) for the
year ended August 31, 1997 to $177.9 million (55% of net revenues) for the
year ended August 31, 1998 predominantly due to increased unit sales and
higher unit selling prices of the Company's Software.
29
Gross profit increased from $(29.8) million ((18)% of net revenues) for
the year ended August 31, 1996 to $75.6 million (46% of net revenues) for the
year ended August 31, 1997 primarily as a result of lower levels of returns
and allowances.
Management anticipates that the Company's future gross profit will be
affected principally by (i) the percentage of returns, sales credits and
allowances and other similar concessions in respect of the Company's Software
sales and (ii) the Company's product mix (i.e., the percentage of CD
Software). Although gross margins on sales of CD Software are higher than on
cartridge Software, management believes that if the Company is required to
institute stock-balancing programs for its PC Software, the Company will
experience higher rates of returns of such product as compared to the
historical rate of return of cartridge Software. In such event, management
anticipates that its reserves for such returns will increase, thereby
offsetting a portion of the higher gross margins generated from PC Software
sales.
The Company purchases substantially all of its products at prices payable
in United States dollars. Appreciation of the yen could result in increased
prices charged by Nintendo, Sony or Sega to the Company (although, to date,
none of them has effected such a price increase), which the Company may not be
able to pass on to its customers and which could adversely affect its results
of operations.
OPERATING EXPENSES
In fiscal 1997, the Company effected a variety of cost reduction measures
to reduce its operating expenses. The Company realized the benefits of such
measures in the fourth quarter of fiscal 1997 and in fiscal 1998 in the form
of reduced operating expenses as compared to prior periods. In addition, in
fiscal 1998, the Company consolidated or eliminated certain operations.
Marketing and sales expenses decreased from $116.1 million (72% of net
revenues) for the year ended August 31, 1996 to $57.3 million (35% of net
revenues) for the year ended August 31, 1997 and to $61.7 million (19% of net
revenues) for the year ended August 31, 1998. The percentage decrease is
primarily attributable to increased sales volume and cost reduction efforts
initiated by the Company to reduce its operating expenses. The dollar increase
from fiscal 1997 to fiscal 1998 is primarily attributable to increased sales
volume.
General and administrative expenses decreased from $76.6 million (47% of
net revenues) for the year ended August 31, 1996 to $68.8 million (42% of net
revenues) for the year ended August 31, 1997 and to $54.1 million (17% of net
revenues) for the year ended August 31, 1998 primarily due to the cost
reduction efforts initiated by the Company.
Research and development expenses decreased from $46.9 million (29% of
net revenues) for the year ended August 31, 1996 to $41.7 million (25% of net
revenues) for the year ended August 31, 1997 and to $37.4 million (11% of net
revenues) for the year ended August 31, 1998, primarily due to the
consolidation of certain of the Company's studio operations, reduced personnel
cost and other cost reduction efforts initiated by the Company.
Although the Company anticipates that its operating expenses will
increase in dollars in fiscal 1999, it does not anticipate that such expenses
will increase materially as a percentage of net revenues. However, no
assurance can be given that the Company's operating expenses will not increase
as a percentage of net revenues or that the cost reduction measures heretofore
effected will not materially adversely affect the Company's ability to develop
and publish commercially viable titles, or that such measures, whether alone
or in conjunction with increased revenues if any, will be sufficient to
generate operating profits in fiscal 1999 and beyond. See "Factors Affecting
Future Performance - Recent Operating Results."
Severance charges and other costs related to a Company downsizing of
approximately $10 million and $5 million were recorded in fiscal 1997 and
1996, respectively. Downsizing expenditures in fiscal 1998 were consistent
with the accrued downsizing charge at August 31, 1997. The remaining accrued
downsizing expenses will be paid in fiscal 1999 and relate to employee
severance.
30
Due to Acclaim Comics' operating losses through May 1997, management's
assessment of the state of the comic book industry and management's
projections for Acclaim Comics' operations, management believed that there was
an impairment in the carrying value of the goodwill relating to the July 1994
acquisition of Acclaim Comics. Accordingly, the Company recorded a write-down
of $25.2 million of goodwill in fiscal 1997 to reduce the carrying value of
the goodwill associated with Acclaim Comics to its estimated undiscounted
future cash flows.
In conjunction with certain claims and litigations for which the
settlement obligation was then probable and estimable, the Company recorded a
charge of $23.6 million during fiscal 1997. No assurance can be given that the
Company will not be required to record additional material charges in future
periods in conjunction with the litigations to which the Company is a party.
See Note 17(a) of Notes to Consolidated Financial Statements.
As of August 31, 1998, the Company had a U.S. tax net operating loss
carryforward of approximately $110 million. The Company had an insignificant
U.S. federal income tax expense in fiscal 1998 due to the utilization of a
portion of its net operating loss carryforwards. The provision for income
taxes of $0.8 million primarily relates to state and foreign taxes. See Note
11 of Notes to Consolidated Financial Statements.
SEASONALITY
The Company's business is seasonal, with higher revenues and operating
income typically occurring during its first, second and fourth fiscal quarters
(which correspond to the holiday selling season). However, the timing of the
delivery of Software titles and the releases of new products cause material
fluctuations in the Company's quarterly revenues and earnings, which except
for the holiday selling season, may cause the Company's results to vary from
the seasonal patterns of the industry as a whole.
LIQUIDITY AND CAPITAL RESOURCES
The Company derived net cash from operating activities of approximately
$23.3 million during the year ended August 31, 1998 and used net cash in
operating activities of approximately $29.2 million and $38.3 during the years
ended August 31, 1997 and 1996, respectively. The increase in net cash from
operating activities in fiscal 1998 is primarily attributable to profitable
operations. An income tax refund of approximately $54.0 million related to the
carryback of the Company's loss for fiscal 1996 was received and included in
the net cash used in operating activities during the year ended August 31,
1997.
The Company used net cash in investing activities of approximately $3.9
million during the year ended August 31, 1998 and derived net cash from
investing activities of approximately $14.5 million and $7.4 million during
the years ended August 31, 1997 and 1996, respectively. The decrease in cash
provided by investing activities in fiscal 1998 as compared to the fiscal 1997
period is primarily attributable to the proceeds derived from the sale of
marketable securities (approximately $10.2 million) and subsidiaries
(approximately $7.0 million) in fiscal 1997. The increase in net cash from
investing activities in the year ended August 31, 1997 as compared to the year
ended August 31, 1996 is primarily attributable to reduced expenditures for
fixed assets, offset by lower proceeds (approximately $10.2 million and $14.6
million in fiscal 1997 and fiscal 1996, respectively) derived from the sale of
marketable securities.
The Company derived net cash from financing activities of approximately
$1.3 million, $19.4 million and $5.0 million during the years ended August 31,
1998, 1997 and 1996, respectively. The decrease in net cash provided by
financing activities in the fiscal 1998 period as compared to the fiscal 1997
period and the increase in net cash derived from financing activities in the
fiscal 1997 period as compared to the fiscal 1996 period is primarily
attributable to the offering in February 1997 of the Notes due March 1, 2002
with interest payable semiannually commencing September 1, 1997, which was
partially offset by the repayment of a term loan from Midland and partial
repayment of a mortgage note due to Fleet.
31
The Notes were sold at par with proceeds to the Company of $47.4 million,
net of expenses. The Indenture contains covenants that, among other things,
substantially limit the Company's ability to incur additional indebtedness,
issue preferred stock, pay dividends and make certain other payments. The
Notes are convertible into shares of Common Stock at a conversion price of
$5.18 per share, subject to adjustment under certain conditions. The Notes are
redeemable, in whole or in part, at the option of the Company (subject to the
rights of holders of senior indebtedness) at 104% of the principal balance at
any time on or after March 1, 2000 through February 28, 2001 and at 102% of
the principal balance thereafter to maturity.
In connection with its July 1994 acquisition by the Company, Acclaim
Comics entered into a term loan agreement with Midland for $40.0 million. On
February 26, 1997, the Company used $16.0 million of the proceeds from the
issuance of the Notes to repay the remaining outstanding balance of the term
loan.
The Company generally purchases its inventory of Nintendo and Sega (to
the extent not manufactured by the Company) Software by opening letters of
credit when placing the purchase order. At August 31, 1998, the amount
outstanding under letters of credit was approximately $16.7 million. Other
than such letters of credit, the Company does not currently have any material
operating or capital expenditure commitments.
The Company has a revolving credit and security agreement with BNY, its
principal domestic bank, which agreement expires on January 31, 2000. The
credit agreement may be automatically renewed for another year by its terms,
unless terminated upon 90 days' prior notice by either party. The Company
draws down working capital advances and opens letters of credit against the
facility in amounts determined on a formula based on factored receivables and
inventory, which advances are secured by the Company's assets. BNY also acts
as the Company's factor for the majority of its North American receivables,
which are assigned on a pre-approved basis. At August 31, 1998, the factoring
charge was 0.25% of the receivables assigned and the interest on advances was
at BNY's prime rate plus one percent. See Note 4 of the Notes to Consolidated
Financial Statements and "Factors Affecting Future Performance -- Liquidity
and Bank Relationships."
The Company also has a financing arrangement with Fleet relating to the
mortgage on its corporate headquarters. At August 31, 1998, the outstanding
principal balance of the Fleet loan was $2.7 million. See Note 9 of the Notes
to Consolidated Financial Statements and "Factors Affecting Future Performance
- -- Liquidity and Bank Relationships."
Management believes, based on the currently anticipated growth of the
installed base of 32- and 64-bit Entertainment Platforms and the cost
reduction measures effected by the Company, that the Company's cash and cash
equivalents at August 31, 1998 and cash flows from operations will be
sufficient to cover its operating expenses and such current obligations as are
required to be paid in fiscal 1999. However, no assurance can be given as to
the sufficiency of such cash flows in fiscal 2000 and beyond. To provide for
its short- and long-term liquidity needs, in fiscal 1997 and 1998, the Company
significantly reduced the number of its employees, consolidated or eliminated
certain operations, raised $47.4 million of net proceeds from the issuance of
Notes, and sold substantially all of the assets of Lazer-Tron. The Company's
future liquidity will be materially dependent on its ability to develop and
market Software that achieves widespread market acceptance for use with the
Entertainment Platforms that dominate the market. There can be no assurance
that the Company will be able to publish Software for Entertainment Platforms
with significant installed bases.
The Company is party to various litigations arising in the course of its
business, the resolution of none of which, the Company believes, will have a
material adverse effect on the Company's liquidity, financial condition and
results of operations.
The Company is also party to certain class action litigations and other
claims. In conjunction with claims arising from certain of the Company's
acquisitions and then pending litigations and claims for which the settlement
obligation was probable and estimable, the Company recorded a charge of $23.6
million during the year ended August 31, 1997. Approximately $11.7 million of
these litigation settlements
32
will be satisfied in cash, of which $6.6 million has been paid as of August
31, 1998. The remainder is payable with non-cash items, such as stock and
warrants. See Note 17(a) of Notes to Consolidated Financial Statements.
The Financial Accounting Standards Board issued Statement of Financial
Accounting Standards ("SFAS") No. 130, "Reporting Comprehensive Income." This
statement establishes standards for reporting and display of comprehensive
income and its components (revenues, expenses, gains and losses) in a full set
of general-purpose financial statements. This Statement requires that all
items required to be recognized under accounting standards as components of
comprehensive income be reported in a financial statement that is displayed
with the same prominence as other financial statements. This statement is
effective for the Company for fiscal 1999.
The Financial Accounting Standards Board issued SFAS No. 131, "Disclosure
about Segments of an Enterprise and Related Information," which is effective
for fiscal years beginning after December 15, 1997. This statement establishes
standards for reporting information about operating segments, and related
disclosures about products and services, geographic areas and major customers.
The Company has not determined the impact that the adoption of this new
accounting standard will have on its consolidated financial statement
disclosures. The Company will adopt this statement effective September 1,
1998, as required. Interim information is not required until the second year
of application, at which time comparative information is required.
YEAR 2000 ISSUE
Until recently, computer programs were generally written using two digits
rather than four to define the applicable year. Accordingly, such programs may
be unable to distinguish properly between the year 1900 and the year 2000. In
fiscal 1997, the Company commenced a Year 2000 date conversion project to
address necessary code changes, testing and implementation in respect of its
internal computer systems. Project completion is planned for the middle of
calendar 1999. To date, the cost of this project has not been material to the
Company's results of operations or liquidity and the Company does not anticipate
that the cost of completing the project will be material to its results of
operations or liquidity in fiscal 1999. Management anticipates that the
Company's Year 2000 date conversion project as it relates to the Company's
internal systems will be completed on a timely basis. The Company's Software for
N64, PlayStation and PCs are Year 2000 compliant. The Company is currently
seeking information regarding Year 2000 compliance from vendors, customers,
manufacturers, outside developers, and financial institutions associated with
the Company. Project completion for this phase is planned for the middle of
1999. However, given the reliance on third-party information as it relates to
their compliance programs and the difficulty of determining potential errors on
the part of external service suppliers, no assurance can be given that the
Company's information systems or operations will not be affected by mistakes, if
any, of third parties or third-party failures to complete the Year 2000 project
on a timely basis. There can be no assurance that the systems of other companies
on which the Company's systems rely will be timely converted or that any such
failure to convert by another company would not have an adverse effect on the
Company's systems.
The cost of the Company's Year 2000 project and the date on which the
Company believes it will complete the necessary modifications are based on the
Company's estimates, which were derived utilizing numerous assumptions of
future events, including the continued availability of resources, third-party
modification plans and other factors. The Company presently believes that the
Year 2000 issue will not pose significant operational problems for its
internal information systems and products. However, if the anticipated
modifications and conversions are not completed on a timely basis, or if the
systems of other companies on which the Company's systems and operations rely
are not converted on a timely basis, the Year 2000 issue could have an adverse
effect on the Company's operations.
The Company does not currently have any contingency plans in place to
address the failure of timely conversion of its and/or third-party systems in
respect of the Year 2000 issue.
EURO CONVERSION
The January 1, 1999 scheduled adoption of the Euro will create a
single-currency market in much of Europe. For a transition period from January
1, 1999 to January 1, 2002, the existing local currencies are
33
anticipated to remain legal tender as denominations of the Euro. The Company
does not anticipate that its operations will be materially adversely affected
by the conversion to the Euro. The Company has analyzed the impact of
conversion to the Euro on its existing systems and operations and intends to
implement modifications to its current systems to enable the Company to handle
Euro invoicing for transactions commencing in 1999. The Company anticipates
that the cost of such modifications will not have a material adverse effect on
its results of operations or liquidity. However, no assurance can be given
that such modifications will be completed on a timely basis.
34
ITEM 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK.
Not applicable.
35
Item 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA.
Independent Auditors' Report
The Board of Directors and Stockholders
Acclaim Entertainment, Inc.
We have audited the accompanying consolidated balance sheets of Acclaim
Entertainment, Inc. and Subsidiaries as of August 31, 1998 and 1997, and the
related consolidated statements of operations, stockholders' (deficiency) equity
and cash flows for each of the years in the three year period ended August 31,
1998. In connection with our audit of the consolidated financial statements, we
also have audited the financial statement schedule for each of the three years
ended August 31, 1998. These consolidated financial statements and financial
statement schedule are the responsibility of the Company's management. Our
responsibility is to express an opinion on these consolidated financial
statements and financial statement schedule based on our audits.
We conducted our audits in accordance with generally accepted auditing
standards. Those standards require that we plan and perform the audit to obtain
reasonable assurance about whether the financial statements are free of material
misstatement. An audit includes examining, on a test basis, evidence supporting
the amounts and disclosures in the financial statements. An audit also includes
assessing the accounting principles used and significant estimates made by
management, as well as evaluating the overall financial statement presentation.
We believe that our audits provide a reasonable basis for our opinion.
In our opinion, the consolidated financial statements referred to above
present fairly, in all material respects, the financial position of Acclaim
Entertainment, Inc. and Subsidiaries as of August 31, 1998 and 1997, and the
results of their operations and their cash flows for the years then ended, in
conformity with generally accepted accounting principles. Also, in our opinion,
the related financial statement schedule, when considered in relation to the
basic consolidated financial statements taken as a whole, presents fairly, in
all material respects, the information set forth therein.
KPMG PEAT MARWICK LLP
New York, New York
October 22, 1998
36
ACCLAIM ENTERTAINMENT, INC.
AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
(in 000s, except per share data)
August 31,
1998 1997
---- ----
ASSETS
CURRENT ASSETS
Cash and cash equivalents $47,273 $26,254
Accounts receivable - net 39,177 18,729
Inventories 3,430 3,546
Prepaid expenses 16,571 20,250
------ ------
TOTAL CURRENT ASSETS 106,451 68,779
------- ------
OTHER ASSETS
Fixed assets - net 29,294 34,268
Excess of cost over fair value of net assets acquired - net of
accumulated amortization of $19,218 and $17,104, respectively 21,433 23,547
Other assets 3,229 6,581
----- -----
TOTAL ASSETS $160,407 $133,175
-------- --------
LIABILITIES AND STOCKHOLDERS' DEFICIENCY
CURRENT LIABILITIES
Trade accounts payable $24,218 $17,007
Short-term borrowings 16 643
Accrued expenses 92,207 107,928
Income taxes payable 6,918 4,840
Current portion of long-term debt 724 1,002
Obligation under capital leases - current 1,468 1,515
----- -----
TOTAL CURRENT LIABILITIES 125,551 132,935
------- -------
LONG-TERM LIABILITIES
Long-term debt 51,931 52,655
Obligation under capital leases - noncurrent 1,110 2,264
Other long-term liabilities 3,588 4,553
----- -----
TOTAL LIABILITIES 182,180 192,407
------- -------
MINORITY INTEREST -- (186)
STOCKHOLDERS' DEFICIENCY
Preferred stock, $0.01 par value; 1,000 shares
authorized; none issued -- --
Common Stock, $0.02 par value; 100,000 shares authorized;
52,634 and 50,122 shares issued, respectively 1,053 1,002
Additional paid in capital 189,645 173,373
Accumulated deficit (209,180) (229,870)
Treasury stock, 523 and 474 shares, respectively (3,103) (2,904)
Foreign currency translation adjustment (188) (647)
----- -----
TOTAL STOCKHOLDERS' DEFICIENCY (21,773) (59,046)
-------- --------
TOTAL LIABILITIES AND STOCKHOLDERS'
DEFICIENCY $160,407 $133,175
-------- --------
See notes to consolidated financial statements.
37
ACCLAIM ENTERTAINMENT, INC.
AND SUBSIDIARIES
STATEMENTS OF CONSOLIDATED OPERATIONS
(in 000s, except per share data)
Fiscal Year Ended August 31,
1998 1997 1996
---- ---- ----
NET REVENUES $326,561 $165,411 $161,945
COST OF REVENUES 148,660 89,818 191,790
------- ------ -------
GROSS PROFIT (LOSS) 177,901 75,593 (29,845)
------- ------ --------
OPERATING EXPENSES
Marketing and Sales 61,691 57,266 116,142
General and Administrative 54,149 68,831 76,625
Research and Development 37,367 41,689 46,864
Goodwill Writedown ----- 25,200 -----
Litigation Settlements ----- 23,550 -----
Downsizing Charge ----- 10,000 5,000
------- ------ -----
TOTAL OPERATING EXPENSES 153,207 226,536 244,631
------- ------- -------
EARNINGS (LOSS) FROM OPERATIONS 24,694 (150,943) (274,476)
------ --------- ---------
OTHER INCOME (EXPENSE)
Interest income 2,196 2,186 3,845
Other income (expense) 291 (5,702) 4,103
Interest expense (5,727) (4,601) (2,339)
------- ------- -------
EARNINGS (LOSS) BEFORE INCOME TAXES 21,454 (159,060) (268,867)
------ --------- ---------
PROVISION FOR (BENEFIT FROM) INCOME TAXES 764 882 (46,393)
--- --- --------
EARNINGS (LOSS) BEFORE MINORITY INTEREST 20,690 (159,942) (222,474)
------ --------- ---------
MINORITY INTEREST ----- 714 1,106
------- --- -----
NET EARNINGS (LOSS) $20,690 $(159,228) $(221,368)
------- ---------- ----------
BASIC EARNINGS (LOSS) PER SHARE $0.40 $(3.21) $(4.47)
----- ------- -------
DILUTED EARNINGS (LOSS) PER SHARE $0.37 $(3.21) $(4.47)
----- ------- -------
See notes to consolidated financial statements.
38
ACCLAIM ENTERTAINMENT, INC. AND SUBSIDIARIES
STATEMENTS OF CONSOLIDATED STOCKHOLDERS' (DEFICIENCY) EQUITY
(In 000s, except per share data)
Preferred
Stock(1) Common Stock
-------------- --------------
(Accumulated Foreign
Issued Issued Additional Deficit) Currency
-------------- -------------- Paid-In Deferred Retained Treasury Translation
Shares Amount Shares Amount Capital Compensation Earnings Stock Adjustment
------ ------ ------ ------ ---------- ------------ ------------ -------- ----------
Balance August 31, 1995............ -- -- 46,281 $ 926 $168,785 $(10,652) $ 153,141 $ (807) $ 811
---- ------ ------ ------ -------- -------- ---------- -------- --------
Net Loss.......................... -- -- -- -- -- -- (221,368) -- --
Issuances of Common Stock and
Options......................... -- -- 463 9 7,756 (7,765) -- -- --
Deferred compensation expense..... -- -- -- -- -- 3,304 -- -- --
Exercise of Stock Options and
Warrants........................ -- -- 552 11 3,711 -- -- -- --
Pooling of Interests with
Sculptured and Probe............ -- -- 2,745 55 (55) -- (2,415) -- --
Tax Benefit from Exercise of Stock
Options......................... -- -- -- -- 698 -- -- -- --
Escrowed Shares Received.......... -- -- -- -- -- -- -- (1,006) --
Foreign Currency Translation
Loss............................ -- -- -- -- -- -- -- -- (1,565)
Unrealized Loss on Marketable
Equity Securities............... -- -- -- -- -- -- -- -- --
---- ------ ------ ------ -------- -------- ---------- -------- --------
Balance August 31, 1996............ -- -- 50,041 1,001 180,895 (15,113) (70,642) (1,813) (754)
---- ------ ------ ------ -------- -------- ---------- -------- --------
Net Loss.......................... -- -- -- -- -- -- (159,228) -- --
Issuances and Cancellations of
Warrants and Options............ -- -- -- -- 722 566 -- -- --
Deferred compensation expense..... -- -- -- -- -- 6,134 -- -- --
Exercise of Stock Options......... -- -- 81 1 169 -- -- -- --
Escrowed Shares Received.......... -- -- -- -- -- -- -- (1,091) --
Foreign Currency Translation
Gain............................ -- -- -- -- -- -- -- -- 107
Unrealized Loss on Marketable
Equity Securities............... -- -- -- -- -- -- -- -- --
---- ------ ------ ------ -------- -------- ---------- -------- --------
Balance August 31, 1997............ -- -- 50,122 1,002 181,786 (8,413) (229,870) (2,904) (647)
---- ------ ------ ------ -------- -------- ---------- -------- --------
Net Earnings...................... -- -- -- -- -- -- 20,690 -- --
Issuance of Common Stock for
Litigation Settlements.......... -- -- 1,274 26 6,868 -- -- -- --
Issuances and Cancellations of
Common Stock and Options........ -- -- 15 1 239 690 -- -- --
Deferred compensation expense..... -- -- -- -- -- 4,190 -- -- --
Exercise of Stock Options......... -- -- 1,223 24 4,285 -- -- -- --
Escrowed Shares Received.......... -- -- -- -- -- -- -- (199) --
Foreign Currency Translation
Gain............................ -- -- -- -- -- -- -- -- 459
---- ------ ------ ------ -------- -------- ---------- -------- --------
Balance August 31, 1998............ -- -- 52,634 $1,053 $193,178 $ (3,533) $ (209,180) $(3,103) $ (188)
---- ------ ------ ------ -------- -------- ---------- -------- --------
Unrealized
Gain (Loss) On
Marketable
Equity
Securities Total
-------------- ---------
Balance August 31, 1995............ $2,503 $ 314,707
------ ---------
Net Loss.......................... -- (221,368)
Issuances of Common Stock and
Options......................... -- --
Deferred compensation expense..... -- 3,304
Exercise of Stock Options and
Warrants........................ -- 3,722
Pooling of Interests with
Sculptured and Probe............ -- (2,415)
Tax Benefit from Exercise of Stock
Options......................... -- 698
Escrowed Shares Received.......... -- (1,006)
Foreign Currency Translation
Loss............................ -- (1,565)
Unrealized Loss on Marketable
Equity Securities............... (2,488) (2,488)
------ ---------
Balance August 31, 1996............ 15 93,589
------ ---------
Net Loss.......................... -- (159,228)
Issuances and Cancellations of
Warrants and Options............ -- 1,288
Deferred compensation expense..... -- 6,134
Exercise of Stock Options......... -- 170
Escrowed Shares Received.......... -- (1,091)
Foreign Currency Translation
Gain............................ -- 107
Unrealized Loss on Marketable
Equity Securities............... (15) (15)
------ ---------
Balance August 31, 1997............ 0 (59,046)
------ ---------
Net Earnings...................... -- 20,690
Issuance of Common Stock for
Litigation Settlements.......... -- 6,894
Issuances and Cancellations of
Common Stock and Options........ -- 930
Deferred compensation expense..... -- 4,190
Exercise of Stock Options......... -- 4,309
Escrowed Shares Received.......... -- (199)
Foreign Currency Translation
Gain............................ -- 459
------ ---------
Balance August 31, 1998............ $ 0 $ (21,773)
------ ---------
- ------------------
(1) The Company is authorized to issue 1,000 shares of preferred stock at a par
value of $0.01 per share, none of which shares is presently issued and
outstanding.
See notes to consolidated financial statements.
39
ACCLAIM ENTERTAINMENT, INC.
AND SUBSIDIARIES
STATEMENTS OF CONSOLIDATED CASH FLOWS
(in 000s, except per share data)
Fiscal Year Ended August 31,
1998 1997 1996
---- ---- ----
CASH FLOWS PROVIDED BY (USED IN)
OPERATING ACTIVITIES
Net Earnings (Loss) $20,690 $(159,228) $(221,368)
------- ---------- ----------
Adjustments to reconcile net earnings (loss) to net cash
provided by (used in) operating activities:
Depreciation and amortization 13,237 41,420 14,910
Loss (gain) on sale of marketable securities --- 1,022 (3,690)
Provision for returns and discounts 51,113 28,161 214,079
Deferred income taxes --- ---- 4,264
Minority interest in net earnings of consolidated subsidiary --- (714) (1,106)
Deferred compensation expense 4,190 6,134 3,304
Non-cash inventory charges --- --- 25,753
Non-cash royalty charges 2,025 15,010 30,432
Litigation settlements --- 23,550 ---
Other non-cash items 1,329 1,403 1,577
Change in assets and liabilities, net of effects of
acquisitions:
Increase in accounts receivable (net of advances) (70,196) (28,480) (28,123)
Decrease (Increase) in inventories 171 1,299 (17,842)
Decrease (Increase) in prepaid expenses 3,724 (9,931) 6,740
Increase (Decrease) in trade accounts payable 7,068 (11,598) (21,046)
Decrease in accrued expenses (10,307) (1,056) (14,612)
Increase (Decrease) in income taxes payable 1,264 4,873 (31,572)
Decrease in income taxes receivable --- 54,334 ---
(Decrease) Increase in other long-term liabilities (965) 4,553 ---
----- ----- ------
Total adjustments 2,653 129,980 183,068
----- ------- -------
NET CASH PROVIDED BY (USED IN)
OPERATING ACTIVITIES 23,343 (29,248) (38,300)
------ ------- --------
CASH FLOWS (USED IN) PROVIDED BY
INVESTING ACTIVITIES
Acquisition/divestiture of subsidiaries, net --- 6,964 7,912
Sales of marketable equity securities --- 10,241 14,599
Acquisition of fixed assets, excluding capital leases (3,941) (2,671) (13,488)
Disposal of fixed assets 162 334 133
Acquisition of other assets (160) (340) (1,731)
----- ----- -------
NET CASH (USED IN) PROVIDED BY
INVESTING ACTIVITIES (3,939) 14,528 7,425
------- ------ -----
40
ACCLAIM ENTERTAINMENT, INC.
AND SUBSIDIARIES
STATEMENTS OF CONSOLIDATED CASH FLOWS
(Continued)
(in 000s, except per share data)
Fiscal Year Ended August 31,
1998 1997 1996
---- ---- ----
CASH FLOWS PROVIDED BY
FINANCING ACTIVITIES
Proceeds from convertible subordinated notes --- $47,400 ---
Proceeds from mortgage --- --- $6,676
Payment of mortgage $(1,002) (2,870) (223)
Proceeds from short-term bank loans --- 12,761 15,873
Payment of short-term bank loans (627) (17,095) (14,337)
Exercise of stock options 4,309 170 3,722
Payment of obligation under capital leases (1,201) (2,376) (496)
Issuance of Common Stock --- --- 4
Payment of long-term debt --- (19,000) (6,196)
Other financing activities (174) 458 ---
----- --- ---
NET CASH PROVIDED BY
FINANCING ACTIVITIES 1,305 19,448 5,023
----- ------ -----
EFFECT OF EXCHANGE RATE CHANGES ON CASH 310 2,712 (83)
--- ----- ----
NET INCREASE (DECREASE) IN CASH AND
CASH EQUIVALENTS 21,019 7,440 (25,935)
CASH AND CASH EQUIVALENTS
AT BEGINNING OF YEAR 26,254 18,814 44,749
------ ------ ------
CASH AND CASH EQUIVALENTS
AT END OF YEAR $47,273 $26,254 $18,814
------- ------- -------
Supplemental schedule of noncash investing and financing
activities:
1998 1997 1996
---- ---- ----
Acquisition of equipment under capital leases $350 $391 $4,631
Cash (paid) received during the year for:
Interest $(7,644) $(6,350) $(8,756)
Income taxes 130 57,148 18,719
See notes to consolidated financial statements.
41
ACCLAIM ENTERTAINMENT, INC.
AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
FISCAL YEARS ENDED AUGUST 31, 1998, 1997 AND 1996
(in 000s, except per share data)
1. BUSINESS AND SIGNIFICANT ACCOUNTING POLICIES
A. Business
Acclaim Entertainment, Inc. ("Acclaim" or the "Company") is a worldwide
developer, publisher, mass marketer and distributor of interactive entertainment
software ("Software") for use with dedicated interactive entertainment hardware
platforms and multimedia personal computer systems. The Company owns and
operates its own Software development and motion capture studios. The Company
also develops and publishes Software strategy guides and comic book magazines.
B. Principles of Consolidation
The consolidated financial statements include the accounts of Acclaim and
its majority-owned subsidiaries. All material intercompany balances and
transactions have been eliminated in consolidation.
C. Cash Equivalents
The Company considers all highly liquid investments with a maturity of three
months or less when purchased to be cash equivalents.
D. Inventories
Inventories are stated at the lower of FIFO cost (first-in, first-out) or
market and consist principally of finished goods.
E. Prepaid Royalties
Royalty advances represent advance payments primarily made to licensors of
intellectual properties. All payments included in prepaid royalties are
recoupable against future royalties due for software or intellectual properties
licensed under the terms of the agreements. Prepaid royalties are expensed at
contractual royalty rates based on actual net product sales. That portion of
prepaid royalties deemed unlikely to be recovered through product sales is
charged to expense. Royalty advances are classified as current or noncurrent
assets based on estimated net product sales within the next year.
F. Fixed Assets
Property and equipment are recorded at cost. Depreciation is provided using
the straight-line method over the estimated useful lives of the assets, or,
where applicable, the terms of the respective leases, whichever is shorter. The
asset values of capitalized leases are included in fixed assets and the
associated liabilities are reflected as obligations under capital leases.
G. Excess of Cost Over Fair Value of Net Assets Acquired
Excess of cost over fair value of net assets acquired is being amortized on
the straight-line basis over periods ranging from five to twenty years. As of
August 31, 1998, the balance, net of accumulated amortization, is comprised of
$20,104 related to the fiscal 1994 acquisition of Acclaim Comics, Inc., which is
being amortized on a straight-line basis over 20 years since the fourth quarter
of fiscal 1996, and previously over forty years, and $1,329 related to the
fiscal 1995 acquisition of Iguana Entertainment, Inc., which is being amortized
over five years. It is the Company's policy to evaluate and recognize
42
ACCLAIM ENTERTAINMENT, INC.
AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
FISCAL YEARS ENDED AUGUST 31, 1998, 1997 AND 1996
(in 000s, except per share data)
1. BUSINESS AND SIGNIFICANT ACCOUNTING POLICIES (Continued)
an impairment of goodwill if it is probable that the recorded amounts are in
excess of anticipated undiscounted future cash flows.
Due to Acclaim Comics' operating losses through May 1997, management's
assessment of the state of the comic book industry and management's projections
for Acclaim Comics' operations at that time, management believed that there was
an impairment in the carrying value of the goodwill relating to the acquisition
of Acclaim Comics. Accordingly, in the third quarter of fiscal 1997, the Company
recorded a write-down of $25,200 to reduce the carrying value of the goodwill
associated with Acclaim Comics to its estimated undiscounted future cash flows.
H. Net Revenues
Revenues are recorded when products are shipped to customers. The Company is
generally not contractually obligated to accept returns, except for defective
product. However, the Company may permit its customers to return or exchange
product and may provide pricing allowances on products unsold by a customer.
Revenue is recorded net of an allowance for estimated returns, price concessions
and other discounts. Such allowance is reflected as a reduction to accounts
receivable when the Company expects to grant credits for such items; otherwise,
it is reflected as a liability.
Statement of Position ("SOP") 97-2, "Software Revenue Recognition", is
effective for transactions entered into in fiscal years beginning after December
15, 1997 (September 1, 1998 for the Company). SOP 97-2 indicates that revenue
for noncustomized software should be recognized when persuasive evidence of an
arrangement exists, the software has been delivered, the Company's selling price
is fixed or determinable and collectibility of the resulting receivable is
probable. The implementation of SOP 97-2 is not expected to have a significant
impact on the Company's results of operations.
I. Income Taxes
Deferred tax assets and liabilities are recognized for the future tax
consequences attributable to differences between the financial statement
carrying amounts of existing assets and liabilities and their respective tax
bases. Deferred tax assets and liabilities are measured using enacted tax rates
expected to apply to taxable income in the years in which those temporary
differences are expected to be realized or settled. The effect on deferred tax
assets and liabilities of a change in tax rates is recognized in income in the
period that includes the enactment date.
J. Long-Lived Assets
The Company reviews long-lived assets, such as fixed assets and certain
identifiable intangibles to be held and used or disposed of, for impairment
whenever events or changes in circumstances indicate that the carrying amount of
an asset may not be recoverable. If the sum of the expected cash flows,
undiscounted and without interest, is less than the carrying amount of the
asset, an impairment loss is recognized as the amount by which the carrying
amount of the asset exceeds its fair value.
K. Foreign Currency
Assets and liabilities of foreign operations are translated at rates of
exchange at the end of the period, while results of operations are translated at
average exchange rates in effect for the period. Unrealized gains and losses
from the translation of foreign assets and liabilities are classified as a
separate
43
ACCLAIM ENTERTAINMENT, INC.
AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
FISCAL YEARS ENDED AUGUST 31, 1998, 1997 AND 1996
(in 000s, except per share data)
1. BUSINESS AND SIGNIFICANT ACCOUNTING POLICIES (Continued)
component of stockholders' equity. Included in other income (expense) are
realized gains and (losses) from foreign currency transactions of $5,854 and
$(6,267); $2,668 and $(5,074); and $2,917 and $(2,832) in fiscal 1998, 1997 and
1996, respectively. The Company does not enter into material foreign currency
hedging transactions.
L. Accounting for Stock-Based Compensation
The Company records compensation expense for employee and director stock
options and warrants if the market price of the underlying stock on the date of
the grant exceeds the exercise price. On September 1, 1996, the Company adopted
SFAS No. 123, "Accounting for Stock-Based Compensation". The Company has elected
not to implement the fair value based accounting method for employee and
director stock options and warrants, but has elected to disclose the pro forma
net earnings and pro forma earnings per share including compensation expense for
employee and director stock option and warrant grants made beginning in fiscal
1996 as if such method had been used.
M. Financial Instruments
As of August 31, 1998, the fair value of certain financial instruments
including cash equivalents, receivables, trade accounts payable, short-term
borrowings and certain other liabilities approximates book value due to the
short maturity of these instruments. The carrying value of the Company's
mortgage note payable approximated fair value since this instrument has a prime
based interest rate that is adjusted for market rate fluctuations. The fair
value of the 10% Convertible Subordinated Notes at August 31, 1998 was
approximately $56,000 based on a quoted market value.
N. Estimates
The preparation of financial statements in conformity with generally
accepted accounting principles requires management to make estimates and
assumptions that affect the reported amounts of assets and liabilities and
disclosure of contingent assets and liabilities at the date of the financial
statements and the reported amounts of revenues and expenses during the
reporting period. Among the more significant estimates included in these
financial statements are the estimated allowances for returns and discounts, the
estimated valuation of inventory and the recoverability of advance royalty
payments and goodwill. Actual results could differ from those estimates.
O. Reclassifications
Certain reclassifications were made to prior period amounts to conform to
the current period presentation format.
44
ACCLAIM ENTERTAINMENT, INC.
AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
FISCAL YEARS ENDED AUGUST 31, 1998, 1997 AND 1996
(in 000s, except per share data)
2. LICENSE AGREEMENTS
The Company has various license agreements with Nintendo Co., Ltd. (Japan)
(Nintendo Co., Ltd. and its subsidiary, Nintendo of America, Inc., are
collectively herein referred to as "Nintendo") pursuant to which it has the
nonexclusive right to utilize the "Nintendo" name and its proprietary
information and technology in order to develop and market Software for various
Nintendo platforms, including N64, in various territories throughout the world.
The license agreements with Nintendo for the different platforms expire at
various times through 2001.
In April 1992, the Company entered into an agreement with Sega Enterprises
Ltd. ("Sega"), pursuant to which the Company received the nonexclusive right to
utilize the "Sega" name and its proprietary information and technology in order
to develop and distribute software titles for use with various Sega platforms.
The agreement, as amended, expired in December 1995. Since such time, the
Company and Sega have operated in the ordinary course under the terms of the
expired Sega Agreement, an oral agreement and other arrangements. In fiscal
1998, the Company derived less than one percent of its gross revenues from sales
of Software on Sega platforms.
In December 1994, the Company entered into an agreement with Sony Computer
Entertainment of America pursuant to which the Company received the nonexclusive
right to utilize its proprietary information and technology in order to develop
and distribute Software for use with the Sony PlayStation in North America,
Europe and Japan for a four year period expiring in December 1998. The Company
is currently negotiating the terms of new agreements with Sony.
3. ACQUISITIONS AND DIVESTITURES
SCULPTURED SOFTWARE, INC.
On October 10, 1995, the Company acquired all the issued and outstanding
stock of Acclaim Studios - Salt Lake City, Inc., formerly Sculptured Software
Inc., a software developer, for 1,013 shares of the Company's Common Stock. The
acquisition was accounted for as a pooling of interests and, accordingly, the
Company's financial statements for the year ended August 31, 1996 include the
results of Sculptured.
PROBE ENTERTAINMENT LIMITED.
On October 16, 1995, the Company acquired all the issued and outstanding
stock of Probe Entertainment Limited, a software developer, for 1,732 shares of
the Company's Common Stock. The acquisition was accounted for as a pooling of
interests and, accordingly, the Company's financial statements for the year
ended August 31, 1996 include the results of Probe.
LAZER-TRON CORPORATION
On March 5, 1997, the Company sold substantially all the assets and certain
liabilities of Acclaim Redemption Games, Inc., formerly Lazer-Tron, which was
acquired in 1995, for $6,000 in cash. In connection with the sale, the Company
granted options to purchase 198 shares of Common Stock to Lazer-Tron's employees
under the 1988 Stock Option Plan with a fair value of $720. Including related
costs, no gain or loss resulted from this transaction.
45
ACCLAIM ENTERTAINMENT, INC.
AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
FISCAL YEARS ENDED AUGUST 31, 1998, 1997 AND 1996
(in 000s, except per share data)
4. ACCOUNTS RECEIVABLE
Accounts receivable are comprised of the following:
August 31,
1998 1997
---- ----
Receivables assigned to factor $79,338 $13,337
Advances from (to) factor 34,914 (3,780)
------ -------
Due from factor 44,424 17,117
Unfactored accounts receivable 6,398 4,873
Foreign accounts receivable 22,201 12,434
Other receivables 3,414 3,085
Allowances for returns and discounts (37,260) (18,780)
-------- --------
$39,177 $18,729
------- -------
Pursuant to a factoring agreement, the Company's principal bank acts as
its factor for the majority of its North American receivables, which are
assigned on a pre-approved basis. At August 31, 1998, the factoring charge
amounted to 0.25% of the receivables assigned. The Company's obligations to
the bank are collateralized by all of the Company's and its North American
subsidiaries' accounts receivable, inventories and equipment. The advances for
factored receivables are made pursuant to a revolving credit and security
agreement, which expires on January 31, 2000. Pursuant to the terms of the
agreement, as amended, which can be canceled by either party upon 90-days
notice prior to the end of the term, the Company is required to maintain
specified levels of working capital and tangible net worth, among other
covenants. In February 1997, certain bank fees were paid with the issuance of
immediately exercisable warrants to purchase 200 shares of Common Stock at an
exercise price of $3.97 per share, which warrants expire on February 19, 2006.
The fair value of the warrants of $568 was expensed in fiscal 1997.
The Company draws down working capital advances and opens letters of
credit (up to an aggregate maximum of $20 million) against the facility in
amounts determined on a formula based on factored receivables, inventory and
cost of imported goods under outstanding letters of credit. Interest is
charged at the bank's prime lending rate plus one percent per annum (9.5% at
August 31, 1998) on such advances. As of August 31, 1998, the Company was in
compliance with the covenants under its revolving credit facility.
Pursuant to the terms of certain distribution, warehouse and credit and
collection agreements, certain of the Company's foreign accounts receivable
are due from distributors. These receivables are not collateralized and as a
result management continually monitors the financial condition of these
distributors. No additional credit risk beyond amounts provided for collection
losses is believed inherent in the Company's accounts receivable. At August
31, 1998 and 1997, the balance due from a distributor was approximately 24%
and 25%, respectively, of foreign accounts receivable.
46
ACCLAIM ENTERTAINMENT, INC.
AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
FISCAL YEARS ENDED AUGUST 31, 1998, 1997 AND 1996
(in 000s, except per share data)
5. PREPAID EXPENSES
Prepaid expenses are comprised of the following:
August 31,
1998 1997
---- ----
Royalty advances $2,754 $4,322
Prepaid advertising costs 1,883 1,470
Prepaid product costs 4,174 8,826
Prepaid taxes 3,441 1,876
Other prepaid expenses 4,319 3,756
----- -----
$16,571 $20,250
------- -------
Prepaid advertising costs consist principally of advance payments in
respect of television and other media advertising. Advertising expenses are
charged to income as incurred. Prepaid product costs represent advance
payments for third party product purchases in Europe.
6. FIXED ASSETS
The major classes of fixed assets are as follows:
August 31,
1998 1997
---- ----
Buildings and improvements $24,014 $24,110
Furniture, fixtures and equipment 30,267 32,821
Automotive equipment 988 1,296
--- -----
55,269 58,227
Less: accumulated depreciation (25,975) (23,959)
-------- --------
$29,294 $34,268
------- -------
The estimated useful lives of these assets are:
Buildings and improvements 1 to 20 years
Furniture, fixtures and equipment 1 to 7 years
Automotive equipment 3 to 5 years
7. SHORT-TERM BORROWINGS
Short-term borrowings at August 31, 1998 and 1997 consisted of $16 and
$643, respectively, outstanding under a short-term loan from a bank in France.
The short-term loan provides for borrowings of up to $660. The average annual
interest rate applicable to the loan for the years ended August 31, 1998 and
1997 was approximately 7.15% and 5%, respectively.
47
ACCLAIM ENTERTAINMENT, INC.
AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
FISCAL YEARS ENDED AUGUST 31, 1998, 1997 AND 1996
(in 000s, except per share data)
8. ACCRUED EXPENSES
Accrued expenses are comprised of the following:
August 31,
1998 1997
---- ----
Accrued royalties payable and licensing obligations $36,221 $31,902
Accrued selling expenses and sales allowances 20,260 22,941
Accrued litigation settlements (Note 17(a)) 8,130 18,017
Accrued downsizing expenses 813 11,300
Accrued payroll and payroll taxes 4,911 2,010
Other accrued taxes 6,386 6,077
Accrued interest expense --- 2,569
Other accrued expenses 15,486 13,112
------ ------
$92,207 $107,928
------- --------
In fiscal 1997 and 1996, the Company reduced the number of its personnel and
accrued $10,000 and $5,000, respectively, for severance and other costs
associated with the downsizing of the Company. A significant portion of the
costs were paid in fiscal 1998 and relate to employee severance, lease
commitments for idle facilities and write-offs of non-productive fixed assets.
The costs incurred through August 31, 1998 were consistent with the original
accrual. As of August 31, 1998, the remaining liability of $813 relates to
monthly severance payments payable through May 1999.
9. LONG-TERM DEBT
Long-term debt consists of the following:
August 31,
1998 1997
---- ----
(A) 10% Convertible Subordinated Notes due 2002 $50,000 $50,000
(B) Mortgage note 2,655 3,657
----- -----
52,655 53,657
Less: current portion 724 1,002
--- -----
$51,931 $52,655
------- -------
(A) In February 1997, the Company issued $50,000 of unsecured 10%
Convertible Subordinated Notes ("Notes") due March 1, 2002 with interest
payable semiannually. The Notes were sold at par with proceeds to the Company
of $47,400, net of expenses. The indenture governing the Notes contains
covenants that, among other things, substantially limit the Company's ability
to incur additional indebtedness, issue preferred stock, pay dividends and
make certain other payments. The Notes are convertible into shares of Common
Stock prior to maturity, unless previously redeemed, at a conversion price of
$5.18 per share, subject to adjustment under certain conditions. The Notes are
redeemable in whole or in part, at the option of the Company (subject to the
rights of holders of senior indebtedness) at 104% of the principal balance at
any time on or after March 1, 2000 through February 28, 2001 and at 102% of
the principal balance thereafter to maturity.
(B) Interest on the mortgage note until April 30, 1997 was charged at the
bank's prime lending rate and is currently charged at the bank's prime lending
rate plus one percent per annum (9.5% at August 31, 1998). The mortgage note
is collateralized by a building (Corporate Headquarters) with a carrying value
of approximately $15,382. As of August 31, 1996 and November 30, 1996, the
Company was in default of various financial and other covenants with the
mortgage lender. The mortgage lender waived these past defaults, conditioned
upon the mortgage lender receiving $2,000 from the net proceeds from the
48
ACCLAIM ENTERTAINMENT, INC.
AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
FISCAL YEARS ENDED AUGUST 31, 1998, 1997 AND 1996
(in 000s, except per share data)
9. LONG-TERM DEBT - (Continued)
issuance of the Notes and the Company accelerating payment terms on the
balance of the loan. The Company used $2,000 of the net proceeds from the
issuance of the Notes to repay a portion of the mortgage note and under the
Note Modification Agreement dated September 11, 1997 made an additional
accelerated payment of $500 over nine months through January 1998. The Company
makes quarterly payments of $181 payable until February 1, 2002.
Maturities of long-term debt are as follows:
Years ending August 31,
1999 $724
2000 724
2001 724
2002 50,483
------
$52,655
-------
10. OBLIGATIONS UNDER CAPITAL AND OPERATING LEASES
The Company is committed under various capital leases for equipment
expiring at various dates through 2006. Future minimum payments required under
such leases are as follows:
Years ending August 31,
1999 $1,621
2000 540
2001 292
2002 199
2003 157
Thereafter 84
--
Total minimum lease payments 2,893
Less: amount representing interest 315
---
Present value of net minimum lease payments $2,578
------
The present value of net minimum lease payments is reflected in the
August 31, 1998 balance sheet as current and noncurrent obligations under
capital leases of $1,468 and $1,110, respectively.
The Company has operating leases for rental space and equipment which
expire on various dates through 2004. The leases provide for contingent
rentals based upon escalation clauses. Future minimum rental payments required
under such leases are as follows:
Years ending August 31,
1999 $2,897
2000 2,510
2001 1,883
2002 1,423
2003 1,004
Thereafter 2,288
-----
Total minimum operating lease payments $12,005
-------
49
ACCLAIM ENTERTAINMENT, INC.
AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
FISCAL YEARS ENDED AUGUST 31, 1998, 1997 AND 1996
(in 000s, except per share data)
10. OBLIGATIONS UNDER CAPITAL AND OPERATING LEASES - (Continued)
Rent expense under operating leases was $2,632, $3,402 and $3,250 for
fiscal 1998, 1997 and 1996, respectively.
11. PROVISION FOR (BENEFIT FROM) INCOME TAXES
The provision for (benefit from) income taxes consists of the following:
1998 1997 1996
---- ---- ----
Current:
Federal $35 --- $(52,808)
Foreign 320 $860 1,453
State 409 22 ---
--- -- -----
764 882 (51,355)
--- --- --------
Deferred:
Federal --- 75 4,264
Foreign --- (75) ---
----- ---- -----
--- --- 4,264
----- ----- -----
Charge in lieu of income taxes --- --- 698
----- ----- ---
Total income tax provision (benefit) $764 $882 $(46,393)
---- ---- ---------
The charge in lieu of income taxes relates to the tax benefit arising
from the exercise of nonqualified stock options and disqualifying dispositions
of incentive stock options.
A reconciliation of the federal statutory income tax rate with the
effective income tax rate follows:
1998 1997 1996
---- ---- ----
Statutory tax rate 35.0% (35.0)% (35.0)%
State income taxes, net of
federal income tax benefit 1.9 --- ---
(Decrease) increase in valuation allowance (48.0) 27.2 12.2
Net operating loss carryback benefit
at less than statutory rate --- --- 4.2
Nondeductible expenses 12.3 6.8 0.9
Foreign tax rate differential, net of
foreign tax credits (2.4) --- 0.1
Other 4.8 1.6 0.3
--- --- ---
Effective income tax rate 3.6% 0.6% (17.3)%
---- ---- -------
The tax effects of temporary differences that give rise to the net
deferred tax assets recorded on the consolidated balance sheets as of August
31, 1998 and 1997 are as follows:
50
ACCLAIM ENTERTAINMENT, INC.
AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
FISCAL YEARS ENDED AUGUST 31, 1998, 1997 AND 1996
(in 000s, except per share data)
11. PROVISION FOR (BENEFIT FROM) INCOME TAXES (Continued)
1998 1997
---- ----
Reserves and allowances $11,443 $13,547
Accrued expenses 5,399 13,171
Federal net operating loss
carryforwards 38,500 37,730
Foreign net operating loss
carryforwards 3,449 10,903
Other 432 1,395
--- -----
59,223 76,746
Valuation allowance 59,223 76,746
------ ------
---- ----
-------- --------
As of August 31, 1998, the Company has a U.S. tax net operating loss
carryforward of approximately $110,000 expiring in fiscal 2011 to 2012. At
August 31, 1998 the Company has provided a valuation allowance of $59,223
against its net deferred tax assets due to the Company's recent cumulative
pre-tax losses and lack of significant offsetting objective evidence that the
deferred tax assets are realizable. If the entire deferred tax asset were
realized, $506 would be allocated to paid-in capital with the remainder
reducing income tax expense.
A provision for additional taxes on income which would become payable
upon the repatriation of the earnings from its foreign subsidiaries has not
been provided since, upon repatriation, the tax consequences of such
distributions would be substantially offset by available foreign tax credits.
12. EARNINGS (LOSS) PER SHARE
In fiscal 1998, the Company adopted Statement of Financial Accounting
Standards No. 128 ("SFAS 128"), "Earnings per Share," which requires the
presentation of basic and diluted earnings per share. Basic earnings (loss)
per share is computed based upon the weighted average number of shares of
Common Stock outstanding. Diluted earnings (loss) per share is computed based
upon the weighted average number of shares of Common Stock outstanding
increased by dilutive Common Stock options and warrants and the effect of
assuming the conversion of the outstanding Notes, if dilutive. Prior year
earnings per share data has been restated to apply the provisions of SFAS 128.
The table below provides the components of the per share computations.
1998 1997 1996
---- ---- ----
Basic EPS Computation
- ---------------------
Net earnings (loss) $20,690 $(159,228) $(221,368)
Weighted average
common shares outstanding 51,123 49,670 49,515
Basic earnings (loss) per share $0.40 $(3.21) $(4.47)
51
ACCLAIM ENTERTAINMENT, INC.
AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
FISCAL YEARS ENDED AUGUST 31, 1998, 1997 AND 1996
(in 000s, except per share data)
12. EARNINGS (LOSS) PER SHARE - (Continued)
1998 1997 1996
---- ---- ----
Diluted EPS Computation
- -----------------------
Net earnings (loss) $20,690 $(159,228) $(221,368)
Weighted average
common shares outstanding 51,123 49,670 49,515
Stock options and warrants 5,472 --- ---
10% convertible subordinated notes --- --- ---
------ ------ ------
Diluted common shares outstanding 56,595 49,670 49,515
Diluted earnings (loss) per share $0.37 $(3.21) $(4.47)
The assumed conversion of the outstanding Notes was excluded from the above
diluted earnings per share calculations since they were anti-dilutive.
13. STOCK OPTION AND PURCHASE PLANS
(A) The Company's 1988 Stock Option Plan provided for the grant of up to
25,000 shares of Common Stock to employees, directors and consultants; that
plan expired in May 1998. On October 1, 1998, the stockholders authorized the
adoption of the 1998 Stock Incentive Plan which provides for the grant of up
to 5,442 shares of Common Stock to employees, directors and consultants. Under
both plans, the exercise price per share of all incentive stock options
granted to employees was at the market price, or 110% thereof for certain
employees, and, for non-incentive options, not less than 85% of market price,
of the Common Stock on the date of grant. Generally, outstanding options
become exercisable ratably over a three year period from the date of grant
(although this may be accelerated due to retirement or death). Outstanding
options must generally be exercised within ten years from the date of grant
or, with respect to incentive options, within five years from the date of
grant for certain employees. At August 31, 1998, options to purchase
approximately 6,776 shares at a weighted-average exercise price of $5.20 per
share were exercisable and 5,327 options to purchase shares were available for
future grant.
Transactions are summarized as follows:
Shares Under Option Weighted
------------------------------ Average
Incentive Non-Incentive Exercise Price
--------- ------------- --------------
Outstanding, August 31, 1995 4,371 5,827 $9.90
----- -----
Granted 1,239 2,799 $7.99
Exercised (384) (95) $5.68
Cancelled (241) (1,234) $14.71
----- -------
Outstanding, August 31, 1996 4,985 7,297 $8.87
----- -----
Granted 8,754 5,242 $4.06
Exercised (80) (1) $2.07
Cancelled (7,976) (3,156) $7.89
------- -------
Outstanding, August 31, 1997 5,683 9,382 $5.16
----- -----
Granted 1,484 3,145 $4.64
Exercised (529) (694) $3.52
Cancelled (1,680) (2,605) $6.41
------- -------
Outstanding, August 31, 1998 4,958 9,228 $4.75
----- -----
52
ACCLAIM ENTERTAINMENT, INC.
AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
FISCAL YEARS ENDED AUGUST 31, 1998, 1997 AND 1996
(in 000s, except per share data)
13. STOCK OPTION AND PURCHASE PLANS - (Continued)
In addition, options to purchase 37 shares of Common Stock at $4.17 per
share, 12 shares of Common Stock at $2.08 per share, 11 shares of Common Stock
at $3.92 per share, 37 shares of Common Stock at $16 per share, 167 shares of
Common Stock at $3.375 per share were granted outside the 1988 Stock Option Plan
and 1998 Stock Incentive Plan and remain outstanding at August 31, 1998.
The options outstanding as of August 31, 1998 are summarized in ranges as
follows:
Incentive Options:
Weighted Average Number of Incentive Weighted Average
Range of Exercise Price Exercise Price Options Outstanding Remaining Life (Years)
----------------------- ---------------- ------------------- ----------------------
$1.95 - 3.94 $3.56 3,375 8
$3.95 - 5.92 $4.42 906 9
$5.93 - 13.75 $7.63 677 10
---
4,958
Non-Incentive Options:
Weighted Average Number of Non-Incentive Weighted Average
Range of Exercise Price Exercise Price Options Outstanding Remaining Life (Years)
----------------------- ---------------- ------------------- ----------------------
$1.95 - 3.94 $3.15 5,633 6
$3.95 - 9.49 $5.07 2,508 8
$9.50 - 24.00 $14.53 1,087 6
-----
9,228
The per share weighted average fair value of stock options
granted during fiscal 1998, 1997 and 1996 was $2.79, $2.49 and
$5.09, respectively, on the date of grant using the Black
Scholes option-pricing model with the following weighted-average
assumptions: expected dividend yield of 0%, risk free interest
rate of 5.24%, 5.94% and 6.03%, respectively, expected stock
volatility of 82%, 96% and 77%, respectively, and an expected
option life of 3 years.
The Company applied APB Opinion No. 25 in accounting for its
stock option grants and, accordingly, no compensation cost has
been recognized in the financial statements for its employee
stock options which have an exercise price equal to or greater
than the fair value of the stock on the date of the grant. Had
the Company determined compensation cost based on the fair value
at the grant date for its stock options under SFAS No. 123, the
Company's net earnings (loss) and net earnings (loss) per share
would have been the following pro forma amounts:
1998 1997 1996
---- ---- ----
Net earnings (loss):
As reported $20,690 $(159,228) $(221,368)
Pro forma $14,208 $(163,593) $(221,440)
Diluted net earnings (loss) per share:
As reported $0.37 $(3.21) $(4.47)
Pro forma $0.25 $(3.29) $(4.47)
Pro forma net earnings (loss) reflects only options granted
in fiscal 1996 and thereafter. Therefore, the full impact of
calculating compensation cost for stock options under SFAS No.
123 is not reflected in the pro forma net earnings (loss)
amounts presented above because compensation cost is reflected
53
ACCLAIM ENTERTAINMENT, INC.
AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
FISCAL YEARS ENDED AUGUST 31, 1998, 1997 AND 1996
(in 000s, except per share data)
13. STOCK OPTION AND PURCHASE PLANS - (Continued)
over the options' vesting period and compensation cost for options granted prior
to September 1, 1995 was not considered.
(B) Effective May 4, 1998, the Company adopted an Employee Stock Purchase
Plan to provide employees who meet eligibility requirements an opportunity to
purchase shares of its Common Stock through payroll deductions of up to 10% of
eligible compensation. Bi-annually, participant account balances are used to
purchase shares of stock at 85 percent of the lesser of the fair market value of
shares on the exercise date and the offering date. The employee stock purchase
plan remains in effect for a term of twenty years, unless sooner terminated by
the Board of Directors. A total of 3,000 shares are available for purchase under
the plan. As of August 31, 1998, no shares have been purchased under the plan.
Compensation expense will be recognized for the fair value of the employee's
purchase rights using the Black-Scholes model.
14. EQUITY
At August 31, 1998 and 1997, 2,625 stock warrants were outstanding and
exercisable. The stock warrants entitle the holders thereof to purchase 1,500
shares of Common Stock at $2.42 per share and 1,125 shares of Common Stock at
$3.00 per share. The stock warrants expire in 2001.
In addition, outstanding stock warrants to purchase shares of Lazer-Tron
Corporation were converted into warrants entitling the holders thereof to
purchase 17 shares of Common Stock at $30.57 per share at August 31, 1998 and
1997 and 40 shares of Common Stock at $9.55 per share at August 31, 1998 and
1997. In addition, certain of such warrants entitle the holders thereof to
receive warrants to purchase 20 shares of Common Stock at $15.92 per share at
August 31, 1998 and 1997. These warrants expire at various times through 1999.
Deferred compensation at August 31, 1998 and 1997 includes $1,092 and
$5,736, respectively, which represents Common Stock escrowed on behalf of
certain executives pursuant to employment agreements. The Common Stock is
ratably released from escrow and the fair value of the Common Stock is recorded
as expense when earned over the five-year term of the agreements; the shares are
recoverable by the Company if the executive's employment with the Company is
terminated upon the occurrence of certain events specified in the respective
employment agreements.
In fiscal 1996, the Company issued 463 shares of restricted Common Stock to
employees. The fair value of the Common Stock issued of $4,990 is being expensed
when earned over the five-year period that the restrictions lapse. If employment
with the Company is terminated by the employee, any remaining restricted shares
will be returned to the Company. In fiscal 1997, in accordance with the
settlement of a claim against the Company, the Company accelerated the vesting
of certain restricted shares of Common Stock and recorded the related deferred
compensation as an expense in fiscal 1997. In fiscal 1998, the Company awarded
15 shares of restricted Common Stock to an employee. The fair value of the
Common Stock of $114 is being expensed when earned over the eight month period
until the restrictions lapse. Deferred compensation includes $433 at August 31,
1998 and $1,495 at August 31, 1997 related to such restricted stock awards.
Also included in deferred compensation at August 31, 1998 and 1997 is $2,008
and $1,182, respectively, related to fiscal 1998 and 1996 grants of stock
options with exercise prices of less than the fair value of the Common Stock on
the date of grant. Total deferred compensation was $2,964 and
54
ACCLAIM ENTERTAINMENT, INC.
AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
FISCAL YEARS ENDED AUGUST 31, 1998, 1997 AND 1996
(in 000s, except per share data)
14. EQUITY - (Continued)
$2,775 for the 1998 and 1996 grants, respectively, which is being expensed at
varying amounts through 2000.
In fiscal 1998, the Company granted a total of 390 options to non-employees
for services. The exercise price of the options was equal to the fair value of
the Common Stock on the grant date. The fair value of the options aggregating
$674 was expensed in fiscal 1998.
15. MAJOR SUPPLIERS AND CUSTOMERS AND RELATED PARTY TRANSACTIONS
A. Major Suppliers and Customers
The Company is substantially dependent on Nintendo, Sony and Sega as the
sole manufacturers of the hardware platforms marketed by them and as the sole
licensors of the proprietary information and technology needed to develop
Software for those platforms. For the years ended August 31, 1998, 1997 and
1996, the Company derived 60%, 41% and 29% of its gross revenues, respectively,
from sales of Nintendo-compatible Software, 30%, 28% and 19% of its gross
revenues, respectively, from sales of Software for PlayStation and less than 1%,
12% and 36% of its gross revenues, respectively, from sales of Sega-compatible
Software.
The Company markets its products primarily to mass merchandise companies,
large retail toy store chains, department stores and specialty stores. Sales to
one customer represented 15% and 12% of revenues for the years ended August 31,
1998 and 1997, respectively. No one customer accounted for more than 10% of
revenues for the year ended August 31, 1996.
B. Related Party Transactions
Sales commissions are payable to one company in fiscal 1998 and to two
companies in fiscal 1997 and 1996 owned or controlled by one of the Company's
principal stockholders for sales obtained by these companies. These commissions
amounted to approximately $599, $535 and $515 for the years ended August 31,
1998, 1997 and 1996, respectively, of which $70 and $66 are included in accrued
expenses at August 31, 1998 and 1997, respectively.
As of August 31, 1998, included in other receivables are loans receivable of
$750 in the aggregate to two executive officers of the Company. Of such amounts,
$550 bears no interest and is due over five years and $200 bears interest at the
applicable federal rate and is payable on demand.
16. OPERATIONS IN GEOGRAPHIC AREAS
The Company is primarily engaged in one industry segment, the development,
marketing and distribution of Software products. The following information sets
forth geographic information for the Company's net revenues, earnings (loss)
from operations and identifiable assets.
55
ACCLAIM ENTERTAINMENT, INC.
AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
FISCAL YEARS ENDED AUGUST 31, 1998, 1997 AND 1996
(in 000s, except per share data)
16. OPERATIONS IN GEOGRAPHIC AREAS - (continued)
United States Europe Japan Other Eliminations Consolidated
------------- ------ ----- ----- ------------ ------------
Year ended August 31,
1998:
Sales to unaffiliated
customers $216,830 $107,032 $2,699 ----- ------ $326,561
Transfers between
geographic areas 6,546 72 ------ ----- $(6,618) -----
----- -- ------ ------- -------- -----
Total net revenues $223,376 $107,104 $2,699 $----- $(6,618) $326,561
-------- -------- ------ ------ -------- --------
Earnings (loss) from
operations $15,852 $9,352 $(510) $----- $----- $24,694
------- ------ ------ ------ ------ -------
Identifiable assets at
August 31, 1998 $121,945 $37,734 $728 $----- $----- $160,407
-------- ------- ---- ------ ------ --------
Year ended August 31,
1997:
Sales to unaffiliated
customers $82,158 $72,401 $8,348 $2,504 ------ $165,411
Transfers between
geographic areas 4,269 ----- ------ 90 $(4,359) -----
----- ----- ------ -- ------ -----
Total net revenues $86,427 $72,401 $8,348 $2,594 $(4,359) $165,411
------- ------- ------ ------ -------- --------
(Loss) earnings from
operations $(154,877) $4,146 $(687) $475 ----- $(150,943)
---------- ------ ------ ---- ----- ----------
Identifiable assets at
August 31, 1997 $108,132 $24,055 $859 $129 ----- $133,175
-------- -------- ---- ---- ----- --------
Year ended August 31,
1996:
Sales to unaffiliated
customers $57,742 $86,043 $14,945 $3,215 --- $161,945
Transfers between
geographic areas 6,368 --- --- 91 $(6,459) ---
----- ------- ------ -- -------- -------
Total net revenues $64,110 $86,043 $14,945 $3,306 $(6,459) $161,945
------- ------- ------- ------ -------- --------
(Loss) earnings from
operations $(281,159) $6,041 $1,369 $(727) $ --- $(274,476)
---------- ------ ------ ------ -------- ----------
Identifiable assets at
August 31, 1996 $204,749 $23,415 $9,442 $2,045 $ --- $239,651
-------- ------- ------ ------ -------- --------
Export sales from the U. S. have been insignificant during each of the years in
the three year period ended August 31, 1998.
17. COMMITMENTS AND CONTINGENCIES
(a) Legal Proceedings
In conjunction with claims arising from certain of the Company's
acquisitions and then pending litigations and claims for which the settlement
obligation was then probable and estimable, the Company recorded a charge of
$23,550 during the year ended August 31, 1997.
56
ACCLAIM ENTERTAINMENT, INC.
AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
FISCAL YEARS ENDED AUGUST 31, 1998, 1997 AND 1996
(in 000s, except per share data)
17. COMMITMENTS AND CONTINGENCIES - (continued)
During fiscal 1998, the Company settled substantially all of
its outstanding litigations and claims for amounts approximating
the related accrued liabilities. Litigations and claims that
have been settled include those by Digital Pictures, Inc., Sound
Source Interactive, Inc., Spectrum Holobyte California, Inc.,
Ocean of America, Inc., those arising from certain of the
Company's acquisitions, and the class action litigations
relating to the Lazer-Tron acquisition, the 1995 revision of
earnings and the WMS Action (as hereinafter defined). Such
settlements totaling $22,835 are being satisfied by the payment
of $11,691 in cash and $11,144 in Common Stock and warrants. The
fair value of the shares of Common Stock issued in settlement is
based on the quoted market value of the Common Stock on the date
of issuance and the fair value of warrants issued in settlement
is calculated using the Black Scholes option pricing model. As
of August 31, 1998, the Company had paid $6,555 and $6,894 of
the cash and non-cash portions of the settlements, respectively.
The non-cash portion consisted of the issuance of 1,274 shares
of Common Stock. The remaining balance of the settlement
obligations combined with other accrued litigation settlements
amounted to $11,718 at August 31, 1998. In the balance sheet,
$8,130 is included in accrued expenses and $3,588 is included in
other long-term liabilities. The balance of the non-cash
obligation will be satisfied with warrants which generally will
have exercise prices of $0.50 less than the fair market value of
the Common Stock on the day the price is set, will be
exercisable for three years and provide for a cashless net
option exercise. One settlement agreement provides that, based
on the market value of the Common Stock during the three year
period following final settlement, additional shares of Common
Stock could be issued or a portion of the shares issued could be
returned to the Company.
Outstanding litigations, claims and related matters at August 31, 1998
consist of the following:
The Company and certain of its current and former directors and/or executive
officers were sued in various complaints filed in April 1994, which were
consolidated into an action entitled In re Acclaim Entertainment, Inc.
Securities Litigation (CV 94 1501) (the "WMS Action"). The plaintiffs, on behalf
of a class of the Company's stockholders, consisting of all those who purchased
the Company's Common Stock for the period January 4, 1994 to March 30, 1994,
claimed damages arising from (i) the Company's alleged failure to comply with
the disclosure requirements of the securities laws in respect of the Company's
relationship with WMS Industries Inc. ("WMS") and the status of negotiations on
and the likelihood of renewal of an agreement with WMS, pursuant to which WMS
granted the Company a right of first refusal to create software for "computer
games", "home video games" and "handheld game machines" based on arcade games
released by WMS through March 21, 1995, (ii) statements made by the Company's
representative that rumors relating to the nonrenewal of the agreement were
"unsubstantiated" and that talks between the Company and WMS were continuing,
which allegedly were materially false and misleading, and (iii) a claim that the
defendants should have disclosed the likely nonrenewal of the agreement. The
parties have executed a settlement agreement, which was approved by the court,
and the WMS Action has been dismissed, subject to expiration of the applicable
appeals period. The Company is required, among other things, to deliver the
settlement amount, which consists of $500 in cash, shares of Common Stock with a
market value of $2,250 and $750 of warrants, after the plaintiffs'
lawyers have delivered an allocation schedule to the Company. The cash and
Common Stock portions of the settlement were paid into escrow in August 1998;
the cash will be delivered to the plaintiffs' lawyers in November 1998 and the
Common Stock and warrants will be distributed upon receipt of the allocation
schedule.
The Company has also asserted a third-party action against its insurance
company, Mt. Hawley Insurance Company ("Mt. Hawley"), based on Mt. Hawley's
disclaimer of coverage for liability from the WMS Action. In connection with the
settlement of the WMS Action, the Company has agreed to assign to
57
ACCLAIM ENTERTAINMENT, INC.
AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
FISCAL YEARS ENDED AUGUST 31, 1998, 1997 AND 1996
(in 000s, except per share data)
17. COMMITMENTS AND CONTINGENCIES - (continued)
the plaintiffs in the WMS Action 50% of the proceeds, if any, recovered from Mt.
Hawley.
The Company, Iguana Entertainment, Inc. and Gregory E. Fischbach were sued
in an action entitled Jeffery Spangenberg vs. Acclaim Entertainment, Inc.,
Iguana Entertainment, Inc., and Gregory Fischbach filed in August 1998 in the
District Court of Travis County, Texas (Cause No. 98-09418). The plaintiff
alleges that the defendants (i) breached their employment obligations to the
plaintiff; (ii) breached a Texas statute covering wage payment obligations based
on their alleged failure to pay bonuses to the plaintiff; and (iii) made
fraudulent misrepresentations to the plaintiff in connection with the
plaintiff's employment relationship with the Company and, accordingly, seeks
unspecified damages. The Company intends to defend this action vigorously.
The Securities and Exchange Commission (the "Commission") has issued orders
directing a private investigation relating to, among other things, the Company's
earnings estimate for fiscal 1995 and its decision in the second quarter of
fiscal 1996 to exit the 16-bit portable and cartridge markets. The Company has
provided documents to the Commission, and the Commission has taken testimony
from Company representatives. The Company intends fully to cooperate with the
Commission in its investigation. No assurance can be given as to whether such
investigation will result in any litigation or, if so, as to the outcome of this
matter.
The Company is also party to various litigations arising in the ordinary
course of its business, the resolution of none of which, the Company believes,
will have a material adverse effect on the Company's liquidity or results of
operations.
(b) At August 31, 1998, the Company and its subsidiaries had outstanding letters
of credit aggregating approximately $16,700 for the purchase of merchandise. The
Company's subsidiaries had independent facilities totalling approximately $4,650
with various banks at August 31, 1998.
(c) Trade accounts payable include $8,346 and $4,060 at August 31, 1998 and
1997, respectively, which were collateralized under outstanding letters of
credit.
(d) The Company has established an Employee Savings Plan (the "Plan") effective
January 1, 1995, which qualifies as a deferred salary arrangement under Section
401(k) of the Internal Revenue Code. The Plan is available to all U.S. employees
who meet the eligibility requirements. Under the Plan, participating employees
may elect to defer a portion of their pretax earnings, up to the maximum allowed
by the Internal Revenue Service (up to the lesser of 15% of compensation or
$10,000 for calendar year 1998). All amounts vest immediately. Generally, the
Plan assets in a participant's account will be distributed to a participant or
his or her beneficiaries upon termination of employment, retirement, disability
or death. All Plan administrative fees are paid by the Company.
Generally, the Company does not provide its employees any other post
retirement or post employment benefits, except discretionary severance payments
upon termination of employment.
(e) The Company has entered into employment agreements with certain of its
officers which provide for annual bonus payments based on consolidated income
before income taxes, in addition to their base compensation.
58
ACCLAIM ENTERTAINMENT, INC.
AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
FISCAL YEARS ENDED AUGUST 31, 1998, 1997 AND 1996
(in 000s, except per share data)
18. QUARTERLY FINANCIAL DATA (UNAUDITED)
The following table sets forth certain quarterly financial information for
fiscal 1998:
Quarter Ended
----------------------------------------------------------------------
November 30, February 28, May 31, August 31,
1997 1998 1998 1998 Total
------------ ------------ ------- ---------- -----
Gross Revenues $105,917 $76,349 $82,045 $113,363 $377,674
Sales credits and allowances 13,640 7,006 8,891 21,576 51,113
------ ----- ----- ------ ------
Net revenues 92,277 69,343 73,154 91,787 326,561
Cost of revenues 44,002 33,227 31,369 40,062 148,660
Net earnings (loss) 8,015 (1,230) 5,669 8,236 20,690
Diluted earnings (loss) per share $0.15 $(0.02) $0.09 $0.14 $0.37
The following table sets forth certain quarterly financial information for
fiscal 1997:
Quarter Ended
----------------------------------------------------------------------
November 30, February 28, May 31, August 31,
1996 1997 1997 1997 Total
------------ ------------ ------- ---------- -----
Gross Revenues $63,095 $59,110 $48,503 $22,864 $193,572
Sales credits and allowances 9,757 6,800 6,887 4,717 28,161
----- ----- ----- ----- ------
Net revenues 53,338 52,310 41,616 18,147 165,411
Cost of revenues 24,792 27,761 25,466 11,799 89,818
Net loss (19,000) (16,842) (69,704) (53,682) (159,228)
Diluted loss per share $(0.38) $(0.34) $(1.40) $(1.08) $(3.21)
In the fourth quarter of fiscal 1997, the Company recorded litigation
settlement expenses of $15,250.
The sum of the quarterly net earnings per share amounts do not equal the
annual amount reported, as per share amounts are computed independently for each
quarter and for the twelve months based on the weighted average common and
common equivalent shares outstanding in each such period.
19. SPECIAL CARTRIDGE VIDEO CHARGE (unaudited)
In fiscal 1996, the Company's revenues were adversely affected due to new
hardware platform introductions and the resulting shift from demand for 16-bit
software to 32- and 64-bit software and PC software compatible with the new
hardware systems. Due to the relatively longer development period relating to
16-bit and 32-bit software products, the Company's strategic decisions to
support certain 16-bit and portable hardware systems and develop certain
software products were made well in advance of the time it became apparent that
the transition period commenced.
In addition, in fiscal 1996, the Company did not release "hits" for hardware
platforms with significant installed bases, as it had in prior years and offered
concessions (primarily discounts) to its customers at higher than anticipated
levels in order to manage 16-bit software inventory levels. Finally, the Company
exited the 16-bit and portable software markets in April 1996.
As a result, the Company recorded a special cartridge video
charge in the second quarter of fiscal 1996 of $48,947 to adjust
accounts receivable and inventories to their estimated net
realizable values.
59
ACCLAIM ENTERTAINMENT, INC.
AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
FISCAL YEARS ENDED AUGUST 31, 1998, 1997 AND 1996
(in 000s, except per share data)
19. SPECIAL CARTRIDGE VIDEO CHARGE (unaudited) - (Continued)
Due to the continued and accelerated deterioration of the 16-bit and portable
cartridge business throughout 1996, the Company revised its estimates in the
fourth quarter of fiscal 1996 and recorded an additional charge of $65,031,
primarily to adjust accounts receivable and inventory to their revised estimated
net realizable values. The total charge of $113,978 for the year ended August
31, 1996 consists of provisions of approximately $90,524 and $23,455,
respectively, to adjust accounts receivable and inventories related to 16-bit
and portable Software to their estimated net realizable values subsequent to the
Company's decision to exit such software market and is reflected as sales
returns and allowances and in cost of sales, respectively, in the statement of
consolidated operations.
The following presents the effect of the special cartridge
video charge upon net revenues and cost of revenues:
1996
--------
Gross Revenues $376,024
Sales credits and allowances 123,555
-------
252,469
Special Cartridge Video Charge 90,524
------
Net revenues $161,945
--------
Cost of revenues $168,335
Special Cartridge Video Charge 23,455
------
$191,790
--------
Gross Loss $(29,845)
---------
60
Item 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND
FINANCIAL DISCLOSURE.
None.
Item 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT
Information called for by Item 10 is set forth under the heading
"Election of Directors" in the Company's Proxy Statement for its 1999 annual
meeting of stockholders (the "1999 Proxy Statement"), which is incorporated
herein by reference, and under the heading "Executive Officers of the Company"
in the Business section herein.
Item 11. EXECUTIVE COMPENSATION
Information called for by Item 11 is set forth under the heading
"Executive Compensation" in the 1999 Proxy Statement, which is incorporated
herein by reference.
Item 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT
Information called for by Item 12 is set forth under the heading
"Security Ownership of Certain Beneficial Owners and Management" in the 1999
Proxy Statement, which is incorporated herein by reference.
Item 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS
Information called for by Item 13 is set forth under the heading "Certain
Relationships and Related Transactions" in the 1999 Proxy Statement, which is
incorporated herein by reference.
61
PART IV
Item 14. EXHIBITS, FINANCIAL STATEMENT SCHEDULES AND REPORTS ON FORM 8-K.
(a) and (d)
1. Financial Statements:
The following Financial Statements of the Company are included in Part II:
Item 8
Report of Independent Auditors.
Consolidated Balance Sheets - August 31, 1998 and 1997.
Statements of Consolidated Operations - Years Ended August 31, 1998, 1997
and 1996.
Statements of Consolidated Stockholders' (Deficiency) Equity - Years Ended
August 31, 1998, 1997 and 1996.
Statements of Consolidated Cash Flows - Years Ended August 31, 1998, 1997
and 1996. Notes to Consolidated Financial Statements.
(a) and (d)
2. Financial Statement Schedules:
Schedule II - Allowance for Returns and Discounts
All other schedules have been omitted because they are not applicable, or
not required, or because the required information is included in the
Consolidated Financial Statements or notes thereto.
(b) Current Reports on Form 8-K:
None.
(c) Exhibits:
Exhibit No. Description
- ----------- -----------
3.1 Certificate of Incorporation of the Company (incorporated
by reference to Exhibit 3.1 to the Company's Registration
Statement on Form S-1, filed on April 21, 1989, as amended
(Registration No. 33-28274) (the "1989 S-1")).
3.2 Amendment to the Certificate of Incorporation of the Company
(incorporated by reference to Exhibit 3.2 to the 1989 S-1).
3.3 Amendment to the Certificate of Incorporation of the
Company (incorporated by reference to Exhibit 4(d) to the
Company's Registration Statement on Form S-8, filed on May 19,
1995 (Registration No. 33-59483) (the "1995 S-8")).
3.4 Amended and Restated By-laws of the Company (incorporated by
reference to Exhibit 4(e) to the 1995 S-8).
4 Specimen form of the Company's Common Stock certificate
(incorporated by reference to Exhibit 4 to the Company's
Annual Report on Form 10-K for the year ended August 31,
1989, as amended (File No. 0-16986)).
+10.1 Employment Agreement dated as of September 1, 1994 between the
Company and Gregory E. Fischbach; and Amendment No. 1 dated as
of December 8, 1996 between the
62
Company and Gregory E. Fischbach (incorporated by reference to
Exhibit 10.1 to the Company's Annual Report on Form 10-K for
the year ended August 31, 1996 (File No. 0-16986) (the "1996
10-K")).
+10.2 Employment Agreement dated as of September 1, 1994 between the
Company and James Scoroposki; and Amendment No. 1 dated as of
December 8, 1996 between the Company and James Scoroposki
(incorporated by reference to Exhibit 10.2 to the 1996 10-K).
+10.3 Employment Agreement effective January 1, 1995 between Iguana
Entertainment, Inc. and Darrin Stubbington.
+10.4 Employee Stock Purchase Plan (incorporated by reference to
Exhibit 4(a) to the Company's Registration Statement on Form
S-8 filed on May 4, 1998 (Registration No. 333-51967)).
+10.5 1998 Stock Incentive Plan (incorporated by reference to the
Company's 1998 Proxy Statement relating to fiscal year ended
August 31, 1997).
10.6 Revolving Credit and Security Agreement dated as of January 1,
1993 between the Company, Acclaim Distribution Inc., LJN Toys,
Ltd., Acclaim Entertainment Canada, Ltd. and Arena
Entertainment Inc., as borrowers, and BNY Financial
Corporation ("BNY"), as lender, as amended and restated on
February 28, 1995 (incorporated by reference to Exhibit 10.1
to the Company's Quarterly Report on Form 10-Q for the quarter
ended February 28, 1995 (File No. 0-16986) (the "1995 10-Q")),
as further amended and modified by (i) the Amendment and
Waiver dated November 8, 1996, (ii) the Amendment dated
November 15, 1996, (iii) the Blocked Account Agreement dated
November 14, 1996, (iv) Letter Agreement dated December 13,
1996 and (v) Letter Agreement dated February 24, 1997
(incorporated by reference to Exhibit 10.4 to the Company's
Report on Form 8-K filed on March 14, 1997 (File No. 0-16986)
(the "1997 8-K")).
10.7 Restated and Amended Factoring Agreement dated as of February
28, 1995 between the Company and BNY (incorporated by
reference to Exhibit 10.2 to the 1995 10-Q), as further
amended and modified by the Amendment to Factoring Agreements
dated February 24, 1997 between the Company and BNY
(incorporated by reference to Exhibit 10.5 to the 1997 8-K).
10.8* License Agreement dated as of December 14, 1994 by and between
Sony Computer Entertainment America and the Company
(incorporated by reference to Exhibit 10.6 to the 1996 10-K).
10.9* Confidential License Agreement between Nintendo of America and
the Company, effective as of February 20, 1997 (incorporated
by reference to Exhibit 1 to the Company's Quarterly Report on
Form 10-Q for the quarter ended February 28, 1998 (File No.
0-16986)).
21 Subsidiaries of Registrant.
27 Financial Data Schedule.
- -------------------
* Confidential treatment has been granted with respect to
certain portions of this exhibit, which have been omitted
therefrom and have been separately filed with the Commission.
+ Management contract or compensatory plan or arrangement
required to be identified pursuant to Item 14(a)3 of this
Annual Report on Form 10-K.
63
SIGNATURES
Pursuant to the requirements of Section 13 or 15(d) of the Securities
Exchange Act of 1934, the Registrant has duly caused this report to be signed
on its behalf by the undersigned, thereunto duly authorized.
ACCLAIM ENTERTAINMENT, INC.
By: Gregory E. Fischbach November 4, 1998
----------------------------------
Gregory E. Fischbach
Co-Chairman of the Board and
Chief Executive Officer
By: James Scoroposki November 4, 1998
----------------------------------
James Scoroposki
Acting Chief Financial and Accounting Officer
Pursuant to the requirements of the Securities Exchange Act of 1934, this
report has been signed below by the following persons on behalf of the
Registrant and in the capacities and on the dates indicated.
Gregory E. Fischbach Co-Chairman of the Board; Chief November 4, 1998
- -------------------- Executive Officer; President; and Director
Gregory E. Fischbach
James Scoroposki Co-Chairman of the Board; Senior November 4, 1998
- ---------------- Executive Vice President; Treasurer;
James Scoroposki Secretary; Acting Chief Financial
and Accounting Officer; and Director
Bernard J. Fischbach Director November 4, 1998
- --------------------
Bernard J. Fischbach
Michael Tannen Director November 4, 1998
- -----------------
Michael Tannen
Robert Groman Director November 4, 1998
- -----------------
Robert Groman
James Scibelli Director November 4, 1998
- -----------------
James Scibelli
Kenneth L. Coleman Director November 4, 1998
- --------------------
Kenneth L. Coleman
64
Schedule II
ACCLAIM ENTERTAINMENT, INC.
AND SUBSIDIARIES
ALLOWANCE FOR RETURNS AND DISCOUNTS
(in 000s, except per share data)
Provisions
Balance At For Balance at
Beginning Returns and Returns and End of
Period Of Period Discounts Discounts Period
- ------ --------- --------- --------- ------
Year ended August 31, 1996 $19,635 $214,079 $158,348 $75,366*
Year ended August 31, 1997 $75,366 $28,161 $65,847 $37,680*
Year ended August 31, 1998 $37,680 $51,113 $36,945 $51,848*
- ----------------------
* As of August 31, 1996, 1997 and 1998, $26,500, $18,900 and $14,588 were
included in accrued sales allowances.