UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-Q
[X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934.
For the quarterly period ended: September 30, 2002
[ ] 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: 0-22752
MIKOHN GAMING CORPORATION
(Exact name of registrant as specified in its charter)
Nevada 88-0218876
(State or other jurisdiction of (IRS Employer
incorporation or organization) Identification Number)
920 Pilot Road, Las Vegas, NV 89119
(Address of principal executive office and zip code)
(702) 896-3890
(Registrant's telephone number, including area code)
(Former name, former address and former fiscal year, if changed since last
report)
Indicate by a 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____
APPLICABLE ONLY TO CORPORATE ISSUERS:
Indicate the number of shares outstanding of each of the issuer's classes
of common stock as the latest practicable date:
13,040,188 as of November 9, 2002
(Amount Outstanding) (Date)
MIKOHN GAMING CORPORATION
TABLE OF CONTENTS
Page
Part I FINANCIAL INFORMATION
Item 1. Condensed Consolidated Financial Statements
Condensed Consolidated Balance Sheets at
September 30, 2002 (Unaudited) and December 31, 2001 2
Condensed Consolidated Statements of Operations
(Unaudited) for the Three and Nine Months Ended
September 30, 2002 and 2001 4
Condensed Consolidated Statements of Cash Flows
(Unaudited) for the Nine Months Ended September 30,
2002 and 2001 7
Notes to Condensed Consolidated Financial Statements
(Unaudited) 9
Item 2. Management's Discussion and Analysis of Financial
Condition and Results of Operations 27
Item 3. Quantitative and Qualitative Disclosures About Market
Risk 43
Item 4. Controls and Procedures 43
Part II OTHER INFORMATION
Item 6. Exhibits and Reports on Form 8-K 44
Signatures/Certifications 45
1
MIKOHN GAMING CORPORATION
CONDENSED CONSOLIDATED BALANCE SHEETS
September 30,
(Amounts in thousands) 2002 December 31,
(Unaudited) 2001
----------- -----------
ASSETS
Current assets:
Cash and cash equivalents $ 14,802 $ 15,124
Accounts receivable, net 14,145 20,958
Notes receivable - related parties and
installment sales receivable, net 595 343
Inventories, net (Note 3) 12,709 17,693
Prepaid expenses 3,518 3,889
Deferred tax asset 5,022 5,275
------ ------
Total current assets 50,791 63,282
Notes receivable - related parties and
installment sales receivable, net 333 2,493
Property and equipment, net 24,679 32,510
Intangible assets 58,219 62,827
Goodwill, net 2,860 3,006
Other assets 11,050 11,469
------- -------
Total assets $147,932 $175,587
======== ========
2
MIKOHN GAMING CORPORATION
CONDENSED CONSOLIDATED BALANCE SHEETS
September 30,
(Amounts in thousands 2002 December 31,
except par value data) (Unaudited) 2001
----------- -----------
LIABILITIES AND STOCKHOLDERS' EQUITY (DEFICIT)
Current liabilities:
Trade accounts payable $ 7,771 $ 8,210
Customer deposits 3,911 2,618
Current portion of long-term debt
and notes payable 2,121 2,422
Accrued liabilities 14,765 9,615
Deferred revenues and license fees 1,768 1,955
------ ------
Total current liabilities 30,336 24,820
Long-term debt and notes payable, net of
unamortized discount of $4,941 and $5,567 101,227 101,823
Other long-term liabilities 4,773 -
Deferred revenues and license fees 1,186 2,214
Deferred tax liability 17,823 18,076
------- -------
Total liabilities 155,345 146,933
Commitments and contingencies (Note 4)
Stockholders' equity (deficit):
Preferred stock, $0.10 par value, 5,000 shares
authorized, none issued and outstanding - -
Common stock, $0.10 par value, 100,000 shares
authorized, 13,013 and 12,765 shares issued
and outstanding 1,301 1,276
Additional paid-in capital 67,202 65,751
Stockholders' notes receivable (569) (1,023)
Foreign currency translation (843) (1,079)
Accumulated deficit (74,025) (36,043)
Subtotal (6,934) 28,882
Less treasury stock, 115 and 19 shares,
at cost (479) (228)
------- -------
Total stockholders' equity (deficit) (7,413) 28,654
------- -------
Total liabilities and stockholders' equity
(deficit) $147,932 $175,587
======== ========
See notes to condensed consolidated financial statements
3
MIKOHN GAMING CORPORATION
CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS (Unaudited)
Three Months Ended Nine Months Ended
(Amounts in thousands) September 30, September 30,
2002 2001 2002 2001
------ ------ ------ ------
Revenues:
Gaming operations $ 11,165 $12,360 $ 33,300 $33,639
Product sales 18,469 12,792 42,175 36,585
------ ------ ------ ------
Total revenues 29,634 25,152 75,475 70,224
Operating costs and expenses:
Gaming operations 11,691 7,304 28,081 19,672
Product sales 21,174 11,379 43,973 32,598
Corporate expense 3,858 2,928 9,790 8,488
Restructuring expense (Note 6) 5,618 - 5,618 -
Severance expense (Note 7) 4,774 - 4,774 -
Impairment loss (Note 8) 6,261 - 6,261 -
------ ------ ------ ------
Total operating costs and expenses 53,376 21,611 98,497 60,758
Operating income (loss):
Gaming operations (526) 5,056 5,219 13,967
Product sales (2,705) 1,413 (1,798) 3,987
Corporate expense (3,858) (2,928) (9,790) (8,488)
Restructuring expense (5,618) - (5,618) -
Severance expense (4,774) - (4,774) -
Impairment loss (6,261 - (6,261) -
------ ------ ------ ------
Total operating income (loss) (23,742) 3,541 (23,022) 9,466
Interest expense (3,977) (2,861) (11,788) (7,743)
Other income 36 1,346 150 1,888
Income (loss) from continuing
operations before income tax
provision and extraordinary item (27,683) 2,026 (34,660) 3,611
Income tax provision (936) (105) (1,426) (5)
Income (loss) from continuing
operations before extraordinary
item (28,619) 1,921 (36,086) 3,606
Loss from discontinued operations,
net of income tax benefit (Note 12) (1,621) (204) (1,896) (9)
Extraordinary item, net of income
taxes of $0 and $0 - (3,135) - (3,135)
------ ------ ------ ------
Net income (loss) $(30,240) $(1,418) $(37,982) $ 462
======== ======= ======== ======
Weighted average common shares:
Basic 12,849 12,072 12,817 11,423
Diluted 12,849 12,072 12,817 11,705
======= ======= ======= =======
(continued)
4
MIKOHN GAMING CORPORATION
CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS (Unaudited)
Three Months Ended Nine Months Ended
(Amounts in thousands September 30, September 30,
except per share data) 2002 2001 2002 2001
------ ------ ------ ------
Basic and diluted earnings (loss)
per share:
Income (loss) from continuing
operations before extraordinary
item $(2.22) $ 0.16 $(2.81) $ 0.31
Loss from discontinued operations (0.13) (0.02) (0.15) (0.00)
Extraordinary item - (0.26) - (0.27)
----- ----- ----- -----
Net income (loss) $(2.35) $(0.12) $(2.96) $ 0.04
====== ====== ====== ======
See notes to condensed consolidated financial statements
5
MIKOHN GAMING CORPORATION
CONDENSED CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME (LOSS) (Unaudited)
Three Months Ended Nine Months Ended
(Amounts in thousands) September 30, September 30,
2002 2001 2002 2001
------ ------ ------ ------
Net income (loss) $(30,240) $ (1,418) $(37,982) $ 462
Other comprehensive income:
Foreign currency translation gain 71 - 236 -
------ ------ ------ -----
Comprehensive income (loss) $(30,169) $ (1,418) $(37,746) $ 462
======== ======== ======== ======
See notes to condensed consolidated financial statements
6
MIKOHN GAMING CORPORATION
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS (Unaudited)
September 30,
(Amounts in thousands) 2002 December 31,
(Unaudited) 2001
------ ------
Cash flows from operating activities:
Net income (loss) $(37,982) $ 462
Adjustments to reconcile net income
(loss) to net cash provided by
operating activities:
Depreciation 6,985 5,587
Amortization 2,648 3,479
Provision for bad debts 4,744 987
Provision for obsolete inventory 4,115 824
Amortization of debt discount and debt
issue costs 1,656 151
Issuance of stock options 476 -
Impairment loss 6,261 -
Discontinued operations 1,896 9
Loss (gain) on disposition of assets 505 (197)
Loss on early extinguishment of debt - 3,135
Gain on MGA stock sale and system
agreement - (1,334)
Changes in assets and liabilities:
Accounts receivable 5,938 (1,352)
Notes receivable and installment sales (2,320) (394)
Inventories (2,403) (1,643)
Prepaid expenses 138 (1,445)
Other assets (1,317) (1,496)
Trade accounts payable (2,540) (1,726)
Accrued expenses and other liabilities 13,669 1,764
Customer deposits 1,293 2,802
Deferred revenue (613) (324)
------ ------
Net cash provided by operating activities 3,149 9,289
Cash flows from investing activities:
Purchase of property and equipment (1,072) (1,923)
Proceeds from sales of property and
equipment 7 663
Increase in intangible assets (710) (884)
Purchase of inventory leased to others - (12,955)
Proceeds from sale leaseback transactions - 3,500
------ ------
Net cash used in investing activities (1,775) (11,599)
Cash flows from financing activities:
Proceeds from long-term debt and notes
payable 32 99,875
Principal payments on notes payable and
long-term debt (248) (83,031)
Principal payments on capital leases (1,701) (1,482)
Principal payments of deferred license fees (325) (292)
Proceeds from issuance of common stock and
warrants 654 9,240
Proceeds from notes receivable - stockholders 114 -
Purchase of treasury stock (222) -
Debt issuance costs - (6,938)
Proceeds from capital lease transactions - 2,000
------ ------
Net cash provided by (used in) financing
activities (1,696) 19,372
------ ------
(continued)
7
MIKOHN GAMING CORPORATION
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS (Unaudited)
September 30,
(Amounts in thousands) 2002 December 31,
(Unaudited) 2001
------ ------
Increase (decrease) in cash and cash
equivalents (322) 17,062
Cash and cash equivalents, beginning of period 15,124 462
------ ------
Cash and cash equivalents, end of period $ 14,802 $ 17,524
======== ========
Supplemental disclosure of cash flow
information:
Cash paid during the year for:
Interest $ 7,301 $ 6,245
Federal and state income taxes $ 55 $ 70
======== ========
See notes to condensed consolidated financial statements
8
MIKOHN GAMING CORPORATION
NOTES TO CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS (Unaudited)
1. GENERAL
These unaudited consolidated financial statements have been prepared in
accordance with accounting principles generally accepted in the United States
of America for interim financial information and with the instructions to Form
10-Q and Rule 10-01 of Regulation S-X. Accordingly, they do not include all of
the information and notes required by accounting principles generally accepted
in the United States of America for complete financial statements. Unless
indicated otherwise, "Mikohn," the "Company," "we," "us" and "our" refer to
Mikohn Gaming Corporation. These statements should be read in conjunction with
the audited consolidated financial statements and notes thereto included in the
Company's Annual Report on Form 10-K for the year ended December 31, 2001. In
the opinion of the Company, the accompanying unaudited condensed financial
statements contain all adjustments (consisting of normal accruals and charges)
necessary to present fairly the financial position of the Company at September
30, 2002, the results of its operations for the three and nine months ended
September 30, 2002 and 2001 and cash flows for the nine months ended September
30, 2002 and 2001. The results of operations for the three and nine months
ended September 30, 2002 are not necessarily indicative of the results to be
expected for the entire year.
Certain items reported in the prior year have been reclassified to follow
the Company's current reporting practice. Additionally, all intercompany
activity has been eliminated.
Amounts disclosed in the accompanying footnote tables are shown in thousands
while amounts included in text are disclosed in actual amounts.
2. CERTAIN SIGNIFICANT ACCOUNTING POLICIES
Revenue Recognition: The Company recognizes revenue depending on the line
of business as follows:
Product sales are executed by a signed contract or customer purchase order.
Revenue is recognized when the completed product is delivered. If the
agreement calls for Mikohn to perform an installation after delivery, revenue
related to the installation is recognized when the installation has been
completed and accepted by the customer.
System sales consist of a suite of products (some of which are sold
separately) that enable gaming entities to track customer gaming activity,
account for slot machine activity and operate progressive jackpot systems.
There are proprietary hardware and software components to the systems. The
Company accounts for system sales in accordance with Statement of Position 97-2
- - Software Revenue Recognition ("SOP 97-2"). System sales are considered
multiple element arrangements because they include hardware, software,
installation, training and post-sale customer support. System sales are
evidenced by a signed contract. Follow-up spare parts and hardware-only sales
are evidenced by a purchase order. Revenue for system sales is recognized
when: (i) there is a signed contract with a fixed determinable price; (ii)
collectibility of the sale is probable; and (iii) the hardware and software
have been delivered, installed, training has been completed and acceptance has
occurred.
Not all systems contracts require installation. Examples include sales of
hardware only to (i) previous customers that are expanding their systems, (ii)
customers that have multiple locations and do the installation themselves and
require an additional software license and hardware and (iii) customers
purchasing spare parts.
Maintenance and support are sold under agreements with established vendor-
specific objective evidence of price. These contracts are generally for a
period of 12 months and revenue is recognized ratably over the contract service
period.
Further training is also sold under agreements with established vendor-
specific objective evidence of price, which is based on daily rates and is
recognized upon delivery.
9
The leasing of proprietary table games to casino customers occurs under
signed lease agreements. Table game lease contracts are typically for a 36-
month period with a 30-day cancellation clause. The lease revenue is
recognized on a monthly basis.
The leasing of proprietary slot machines occurs under signed lease
agreements. These contracts will either be on participation or a fixed-rental
basis. Slot machine lease contracts are typically for a month-to-month period
with a 30-day cancellation clause. On a participation basis, the Company earns
a share of the revenue that the casino earns from these slot machines. On a
fixed-rental basis, the Company charges a fixed amount per slot machine per
day. Revenues from both types of lease arrangements are recognized on the
accrual basis.
Recently issued accounting standards: In June 2001, the Financial
Accounting Standards Board ("FASB") issued Statement No. 143, "Accounting for
Asset Retirement Obligations." This statement addresses financial accounting
and reporting for obligations associated with the retirement of tangible long-
lived assets and the associated asset retirement costs. This statement applies
to legal obligations associated with the retirement of long-lived assets that
result from the acquisition, construction, development and the normal operation
of a long-lived asset, except for certain obligations of lessees. Statement
No. 143 is effective for financial statements issued for fiscal years beginning
after June 15, 2002. The Company is currently evaluating the impact that this
standard will have on its consolidated financial statements.
In April 2002, the FASB issued Statement No. 145, "Rescission of SFAS Nos.
4, 44 and 64, Amendment of SFAS No. 13, and Technical Corrections". Among other
things, Statement No. 145 rescinds various pronouncements regarding early
extinguishment of debt and allows extraordinary accounting treatment for early
extinguishment only when the provisions of Accounting Principles Board Opinion
No. 30, "Reporting the Results of Operations-Reporting the Effects of Disposal
of a Segment of a Business, and Extraordinary, Unusual and Infrequently
Occurring Events and Transactions" are met. Statement No. 145 provisions
regarding early extinguishment of debt are generally effective for fiscal years
beginning after May 15, 2002. Management believes the adoption of Statement
No. 145, which will be implemented during 2003, will not have a material impact
on its consolidated financial statements.
In June 2002, the FASB issued Statement No. 146, "Accounting for Costs
Associated with Exit or Disposal Activities", which addresses accounting for
restructuring and similar costs. Statement No. 146 supersedes previous
accounting guidance, principally Emerging Issues Task Force ("EITF") Issue No.
94-3. The Company will adopt the provisions of Statement No. 146 for
restructuring activities initiated after December 31, 2002. Statement No. 146
requires that the liability for costs associated with an exit or disposal
activity be recognized when the liability is incurred. Under EITF 94-3, a
liability for an exit cost was recognized at the date of a company's commitment
to an exit plan. Statement No. 146 also establishes that the liability should
initially be measured and recorded at fair value. Accordingly, Statement No.
146 may affect the timing of recognizing future restructuring costs as well as
the amount recognized.
3. INVENTORIES
Inventories at September 30, 2002 and December 31, 2001 consist of the
following:
September 30, December 31,
(Amounts in thousands) 2002 2001
------ ------
Raw materials $ 12,775 $ 13,876
Finished goods 4,017 7,187
Work-in-progress 2,640 3,058
------ ------
Subtotal 19,432 24,121
Reserve for obsolete inventory (6,723) (6,428)
------ ------
Total $ 12,709 $ 17,693
======== ========
10
4. COMMITMENTS AND CONTINGENCIES
The Company is involved in routine litigation, including bankruptcies,
collection efforts, disputes with former employees and other matters in the
ordinary course of its business operations. Management knows of no matter,
pending or threatened, that in its judgment will or might have a material
adverse effect on the Company or its operations.
In March 2002, the Company entered into a contractual commitment to purchase
a minimum of 125 slot machines each calendar quarter beginning July 1, 2002
through June 30, 2003 for a new slot machine introduction. These purchases will
total approximately $3.5 million. As of October 31, 2002, the Company has not
purchased any slot machines under this agreement.
A former supplier to the Company has alleged that the Company has an
outstanding commitment to purchase certain electronic components in the amount
of approximately $0.5 million. The Company does not believe that the amount or
the alleged contractual relationship are valid and does not plan to acquire the
components.
5. SEGMENT REPORTING
The Company's worldwide operations are concentrated in two principal
business segments: gaming operations and product sales. The gaming operations
business segment was established in 1993 to develop, acquire, manufacture and
distribute proprietary games, and these games have become increasingly
important to its business. Increased attention has been given to gaming
operations because of the high recurring revenues and profit margin potential
for this business line. Mikohn owns or licenses the rights to several
categories of proprietary games, which it places in casinos under lease
arrangements. These leases either provide for a fixed rental payment or a
participation in the game's operating results. Sales of proprietary games are
reflected in the reported results of the Company's product sales business
segment, while revenues derived from leases are included in the results of its
gaming operations business segment. The Company's product sales business
segment has been providing gaming products and equipment around the world since
1987. Initially, the Company sold progressive jackpot systems and then
expanded to manufacturing signs, jackpot meters, and related products. The
Company's gaming products are found in almost every major gaming jurisdiction
and include: (i) interior casino signage and electronic components used in
progressive jackpot systems, (ii) player tracking and accounting systems and
(iii) gaming machines.
11
Business segment information for the three and nine months ended September
30, 2002 and 2001 consists of:
(Amounts in thousands) Three Months Ended Nine Months Ended
September 30, September 30,
Business Unit Segments 2002 2001 2002 2001
------ ------ ------ ------
Revenues:
Gaming operations $11,165 $12,360 $33,300 $33,639
Product sales 18,469 12,792 42,175 36,585
------ ------ ------ ------
Total $29,634 $25,152 $75,475 $70,224
======= ======= ======= =======
Gross profit:
Gaming Operations $ 7,206 $10,424 $23,963 $28,052
Product sales 3,103 4,955 11,714 14,879
------ ------ ------ ------
Total $10,309 $15,379 $35,677 $42,931
======= ======= ======= =======
Operating income (loss):
Gaming operations $ (526) $ 5,056 $ 5,219 $13,967
Product sales (2,705) 1,413 (1,798) 3,987
Corporate (3,858) (2,928) (9,790) (8,488)
Sub total (7,089) 3,541 (6,369) 9,466
Restructuring expense (5,618) - (5,618) -
Severance expense (4,774) - (4,774) -
Impairment loss (6,261) - (6,261) -
------ ------ ------ ------
Total $(23,742) $ 3,541 $(23,022) $ 9,466
======== ======= ======== =======
The Company attributes revenue and expenses to a geographic area based on
the location from which the product was shipped or the service was performed.
Geographic segment information for the three and nine months ended September
30, 2002 and 2001 consist of:
(Amounts in thousands) Three Months Ended Nine Months Ended
September 30, September 30,
Geographic Operations 2002 2001 2002 2001
------ ------ ------ ------
Revenues:
North America $24,190 $22,991 $63,149 $64,083
Australia / Asia 3,001 (198) 6,129 (448)
Europe / Africa 2,443 1,292 6,213 4,337
South America - 1,067 (16) 2,252
------ ------ ------ ------
Total $29,634 $25,152 $75,475 $70,224
======= ======= ======= =======
Gross profit (loss):
North America $ 9,731 $14,539 $33,075 $40,558
Australia / Asia 325 (198) 1,228 (448)
Europe / Africa 253 587 1,390 1,855
South America - 451 (16) 966
------ ------ ------ ------
Total $10,309 $15,379 $35,677 $42,931
======= ======= ======= =======
Operating income (loss):
North America $(6,725) $ 3,437 $(5,660) $ 9,515
Australia / Asia (29) (198) (264) (448)
Europe / Africa (335) 52 (429) 31
South America - 250 (16) 368
Sub total (7,089) 3,541 (6,369) 9,466
Restructuring expense (5,618) - (5,618) -
Severance expense (4,774) - (4,774) -
Impairment loss (6,261) - (6,261) -
------ ------ ------ ------
Total $(23,742) $ 3,541 $(23,022) $ 9,466
======== ======= ======== =======
12
The following departments are included in corporate expense:
(Amounts in thousands) Three Months Ended Nine Months Ended
September 30, September 30,
Department 2002 2001 2002 2001
------ ------ ------ ------
Human Resources $ 112 $ 114 $ 370 $ 347
Executive and Administration 428 377 1,490 1,130
Finance and MIS 808 875 2,573 2,618
Legal and Compliance 228 270 738 778
Corporate Facilities Management 96 89 285 285
Research and Development 198 40 198 227
Marketing 989 275 1,498 620
Depreciation and Amortization 999 888 2,638 2,483
------ ------ ------ ------
Total $3,858 $2,928 $9,790 $8,488
====== ====== ====== ======
6. RESTRUCTURING EXPENSE
During the three months ended September 30, 2002, the Company initiated a
restructuring plan for certain of its operations. The restructuring plan was
designed to achieve various objectives, principally related to reducing costs,
streamlining operations and improving financial performance on an ongoing
basis. The Company's Board of Directors approved the plan in August 2002, which
was subsequently acted upon by management during the quarter. The principal
restructuring initiatives included:
Separation of the Chief Executive Officer, Chief Financial Officer and
certain other executives from the Company and replacement of such
executives
Elimination of approximately 20%the Company's permanent work force
Divestiture of non-core business units and product lines
Disposition of under-utilized assets
Consolidation of interior sign production capacity into one facility
Streamlining certain of the Company's warehousing and slot route
assembly operations, and
Outsourcing and streamlining certain of the Company's international
sign operations
As a result of implementing the above initiatives, the Company recorded
certain restructuring expenses, severance expenses, a loss from discontinued
operations and certain other significant operating costs during the three
months ended September 30, 2002. The Company also recorded an impairment loss
relating to certain of its indefinite and definite-lived intangible assets,
property and equipment and inventories. These impairment charges were recorded
based on valuation analyses whereby it was determined that cash flow, earnings
and other key operational criteria no longer supported the carrying values of
these assets. In addition, the Company took a charge to write-down the assets
of its exterior sign operations, net of expected proceeds. The charges totaled
$27.4 million and are described below and in Footnotes 7 and 8.
Included in the restructuring expense caption of approximately $0.9 million
are principally non-officer employee severance costs for approximately 130
terminated employees related to a restructuring plan. Excluding the Company's
research and development and sales personnel, all employee groups within the
Company were affected by the terminations. At September 30, 2002,
approximately $0.2 million of the restructuring expense was unpaid.
Additionally, a restructuring charge of approximately $3.3 million was
taken to accrue the present value of long-term building lease commitments
which, in accordance with the actions taken by the Company, will not be
utilized as of specified dates as certain business operations have been
streamlined, consolidated or divested. The leases are for one building located
in Gulfport, Mississippi and for two buildings located in Las Vegas, Nevada.
The building lease in Mississippi has a term which expires in approximately 13
years, while the two leases in Nevada have terms expiring in July 2004 and in
2016. On a quarterly basis through July 2004, the Company plans to remit cash
of approximately $0.3 million under the lease agreements.
13
Subsequent to July 2004, the Company plans to remit cash of approximately $0.1
million quarterly. The Company is currently seeking tenants for subleasing the
buildings.
Also included in restructuring expenses were write-downs of certain property
and equipment to their net realizable value in relation to the curtailment of
planned business operations with certain assembly facilities and the sale of
certain real estate. Specifically, a charge for approximately $1.5 million was
recorded for various leasehold improvements, machinery and equipment and real
estate. Of the $1.5 million, a building owned by the Company in Las Vegas,
Nevada, was sold for approximately $0.5 million less than its book value of
$2.2 million. The Company realized net cash proceeds of $1.7 million from this
sale in November 2002. The Company is attempting to sell the machinery and
equipment no longer useful to the Company.
7. SEVERANCE EXPENSE
Included in the severance expense caption in the Company's consolidated
statement of operations are charges for the separation and post-employment
agreements of the Company's former CEO, CFO and another officer. Including
severance and other provisions of the agreements, the total charge was
approximately $4.8 million of which $1.5 million was a cash charge paid during
the three months ended September 30, 2002. Approximately $0.6 million of the
severance expense was applied by the former CEO and CFO to repay outstanding
loans and advances owed to the Company. At September 30, 2002, approximately
$2.7 million remains unpaid to these individuals. On a quarterly basis through
July 2003, the required quarterly payments to the individuals approximate $0.3
million. However, a one-time payment in April 2003 of approximately $0.6
million is also required. Subsequent to July 2003, the Company is required to
pay approximately $0.2 million quarterly through August 2004. From August 2004
to August 2006, the Company is required to pay approximately $0.2 annually.
8. IMPAIRMENT LOSS
An impairment loss was recorded during the quarter ended September 30, 2002
for certain definite-lived intangible assets. Management ascertained that the
actual and targeted revenues, earnings and cash flows generated from the
assets, no longer supported certain of its definite-lived intangible assets.
Based thereon, the Company recorded approximately $3.9 million in write-downs
of these impaired intangible assets. The write-downs consisted primarily of a
license agreement related to certain table game hardware of approximately $1.0
million, software costs related to Monopoly(r) table games of approximately
$0.6 million, proprietary rights and software development costs related to our
table game tracking system of approximately $1.5 million and capitalized costs
associated with patents that are no longer deemed useful of approximately
$0.7 million.
The Company maintains certain indefinite-lived intangible assets as part of
its consolidated financial statements, principally in a perpetual license
related to its casino table game operations and, to a limited extent, goodwill
related to its slot route operations and international operations. A valuation
test as of January 1, 2002 did not result in any impairment. However, as a
result of the Company's divestiture of its Latin American Subsidiary, goodwill
related to the Latin American subsidiary was deemed to have been impaired
during the quarter ended September 30, 2002. Therefore the Company recorded a
goodwill impairment loss of approximately $0.4 million.
In connection with the restructuring initiatives and a third quarter
valuation review of its long-lived assets, the Company determined that the
assets described below no longer generated sufficient cash flow to support
their carrying value. These assets are comprised of approximately 200 reel-
spinning slot machines and certain non-branded assets including MoneyTime(tm),
a proprietary jackpot system consisting of slot machines, signs, meters and
related electronics. The impairment charge recorded in the quarter ended
September 30, 2002 related to these assets totaled approximately $1.7 million.
Additionally, the Company decided to no longer use certain trade show
equipment, after returning from its annual trade show in September 2002, and
recorded a charge for approximately $0.2 million, in the quarter ended
September 30, 2002.
14
9. GUARANTOR FINANCIAL STATEMENTS
The Company's domestic subsidiaries are 100% owned and have provided full
and unconditional guarantees on a joint and several basis on the payment of
11.875% Senior Secured Notes due 2008.
The financial statements for the guarantor subsidiaries follow:
MIKOHN GAMING CORPORATION
CONSOLIDATING CONDENSED BALANCE SHEETS
(Amounts in thousands)
September 30, 2002
Non-
Guarantor Guarantor
Subsid- Subsid- Elim- Consol-
Parent iaries iaries inations idated
------ ------ ------ ------ ------
ASSETS
Current Assets:
Cash $ 13,522 $ (234) $ 1,514 $ - $ 14,802
Accounts receivable, net 7,163 4,534 2,448 - 14,145
Inventories, net 4,805 5,113 2,791 - 12,709
Other current assets 1,711 7,275 149 - 9,135
------ ------ ------ ------ ------
Total current assets 27,201 16,688 6,902 - 50,791
Property and equipment, net 8,777 15,542 360 - 24,679
Intangible assets 55,307 5,375 397 - 61,079
Investments in subsidiaries 8,788 51 - (8,788) 51
Other assets 9,224 2,108 - - 11,332
------ ------ ------ ------ ------
Total assets $109,297 $ 39,764 $ 7,659 $(8,788) $147,932
======== ======== ======== ======= ========
LIABILITIES AND STOCKHOLDERS'
EQUITY (DEFICIT)
Current liabilities $ 20,332 $ 5,676 $ 4,328 $ - $ 30,336
Inter-company transactions (25,207) 20,583 4,624 - -
------ ------ ------ ------ ------
Total current liabilities (4,875) 26,259 8,952 - 30,336
Long-term debt, net 100,417 763 47 - 101,227
Other liabilities, long term 5,586 373 - - 5,959
Deferred tax liability 15,582 2,241 - - 17,823
Stockholders' equity
(deficit) (7,413) 10,128 (1,340) (8,788) (7,413)
------ ------ ------ ------ ------
Total liabilities and
stockholders' equity
(deficit) $109,297 $ 39,764 $ 7,659 $(8,788) $147,932
======== ======== ======== ======= ========
15
MIKOHN GAMING CORPORATION
CONSOLIDATING CONDENSED BALANCE SHEETS
(Amounts in thousands)
December 31, 2001
Non
Guarantor Guarantor
Subsid- Subsid- Elim- Consol-
Parent iaries iaries inations idated
------ ------ ------ ------ ------
ASSETS
Current Assets:
Cash $ 14,354 $ (267) $ 1,037 $ - $ 15,124
Accounts receivable, net 12,407 6,724 1,827 - 20,958
Inventories, net 7,729 7,298 2,666 - 17,693
Other current assets 2,542 6,747 218 - 9,507
------ ------ ------ ------ ------
Total current assets 37,032 20,502 5,748 - 63,282
Property and equipment, net 10,824 21,276 410 - 32,510
Intangible assets 60,048 5,389 396 - 65,833
Investments in subsidiaries 14,017 - - (13,754) 263
Other assets 11,864 1,835 - - 13,699
------ ------ ------ ------ ------
Total assets $133,785 $ 49,002 $ 6,554 $(13,754) $175,587
======== ======== ======== ======= ========
LIABILITIES AND STOCKHOLDERS'
EQUITY (DEFICIT)
Current liabilities $ 15,446 $ 6,677 $ 2,697 $ - $ 24,820
Inter-company transactions (26,845) 22,458 4,387 - -
------ ------ ------ ------ ------
Total current liabilities (11,399) 29,135 7,084 - 24,820
Long-term debt, net 99,847 1,905 71 - 101,823
Other liabilities, long term 1,035 1,179 - - 2,214
Deferred tax liability 15,648 2,428 - - 18,076
Stockholders' equity
(deficit) 28,654 14,355 (601) (13,754) 28,654
------ ------ ------ ------ ------
Total liabilities and
stockholders' equity
(deficit) $133,785 $ 49,002 $ 6,554 $(13,754) $175,587
======== ======== ======== ======= ========
16
MIKOHN GAMING CORPORATION
CONSOLIDATING CONDENSED STATEMENTS OF OPERATIONS
(Amounts in thousands)
Three Months Ended September 30, 2002
Non
Guarantor Guarantor
Subsid- Subsid- Elim- Consol-
Parent iaries iaries inations idated
------ ------ ------ ------ ------
Revenues $ 18,465 $ 9,279 $ 5,443 $(3,553) $ 29,634
Cost of sales 11,634 5,260 4,866 (2,435) 19,325
Selling, general and
administrative expenses 12,293 4,163 942 - 17,398
Restructuring expense 3,476 1,857 285 - 5,618
Severance expense 4,774 - - - 4,774
Impairment loss 4,521 1,740 - - 6,261
------ ------ ------ ------ ------
Operating loss (18,233) (3,741) (650) (1,118) (23,742)
Equity in earnings of
subsidiaries (5,804) - - 5,804 -
Interest expense (3,816) (63) (98) - (3,977)
Other income and (expense) (1,676) 1,635 77 - 36
Income (loss) from continuing
operations before income
tax provision (29,529) (2,169) (671) 4,686 (27,683)
Income tax provision (711) (225) - - (936)
Income (loss) from
continuing operations (30,240) (2,394) (671) 4,686 (28,619)
Loss from discontinued
operations, net of taxes - (1,621) - - (1,621)
------ ------ ------ ------ ------
Net income (loss) $(30,240) $(4,015) $ (671) $ 4,686 $(30,240)
======== ======= ====== ======= ========
17
MIKOHN GAMING CORPORATION
CONSOLIDATING CONDENSED STATEMENTS OF OPERATIONS
(Amounts in thousands)
Three Months Ended September 30, 2001
Non
Guarantor Guarantor
Subsid- Subsid- Elim- Consol-
Parent iaries iaries inations idated
------ ------ ------ ------ ------
Revenues $16,481 $20,486 $ 2,161 $(13,976) $25,152
Cost of sales 7,933 9,521 1,322 (9,003) 9,773
Selling, general and
administrative expenses 10,054 1,049 735 - 11,838
------ ------ ------ ------ ------
Operating income (loss) (1,506) 9,916 104 (4,973) 3,541
Equity in earnings of
subsidiaries 1,204 - - (1,204) -
Interest expense (2,710) (95) (56) - (2,861)
Other income and (expense) 1,400 1 (55) - 1,346
Income (loss) from continuing
operations before income
tax benefit (provision)
and extraordinary item (1,612) 9,822 (7) (6,177) 2,026
Income tax benefit (provision) 3,329 (3,434) - - (105)
Income (loss) from continuing
operations before
extraordinary item 1,717 6,388 (7) (6,177) 1,921
Loss from discontinued
operations, net of taxes - (204) - - (204)
Extraordinary item, net of
taxes (3,135) - - - (3,135)
------ ------ ----- ------ ------
Net income (loss) $(1,418) $ 6,184 $ (7) $(6,177) $(1,418)
======= ======= ===== ======= =======
18
MIKOHN GAMING CORPORATION
CONSOLIDATING CONDENSED STATEMENTS OF OPERATIONS
(Amounts in thousands)
Nine Months Ended September 30, 2002
Non
Guarantor Guarantor
Subsid- Subsid- Elim- Consol-
Parent iaries iaries inations idated
------ ------ ------ ------ ------
Revenues $ 44,046 $27,622 $12,326 $(8,519) $ 75,475
Cost of sales 23,348 12,789 9,720 (6,060) 39,797
Selling, general and
administrative expenses 25,572 13,161 3,314 - 42,047
Restructuring expense 3,476 1,857 285 - 5,618
Severance expense 4,774 - - - 4,774
Impairment loss 4,521 1,740 - - 6,261
------ ------ ------ ------ ------
Operating loss (17,645) (1,925) (993) (2,459) (23,022)
Equity in earnings of
subsidiaries (6,723) - - 6,723 -
Interest expense (11,262) (226) (300) - (11,788)
Other income and (expense) (1,677) 1,509 318 - 150
Income (loss) from continuing
operations before income
tax provision (37,307) (642) (975) 4,264 (34,660)
Income tax provision (675) (751) - - (1,426)
Income (loss) from
continuing operations (37,982) (1,393) (975) 4,264 (36,086)
Loss from discontinued
operations, net of taxes - (1,896) - - (1,896)
------ ------ ------ ------ ------
Net income (loss) $(37,982) $(3,289) $ (975) $ 4,264 $(37,982)
======== ======= ======= ======= ========
19
MIKOHN GAMING CORPORATION
CONSOLIDATING CONDENSED STATEMENTS OF OPERATIONS
(Amounts in thousands)
Nine Months Ended September 30, 2001
Non
Guarantor Guarantor
Subsid- Subsid- Elim- Consol-
Parent iaries iaries inations idated
------ ------ ------ ------ ------
Revenues $45,372 $42,073 $6,141 $(23,362) $70,224
Cost of sales 20,650 17,975 3,768 (15,100) 27,293
Selling, general and
administrative expenses 22,865 8,178 2,422 - 33,465
------ ------ ------ ------ ------
Operating income 1,857 15,920 (49) (8,262) 9,466
Equity in earnings of
subsidiaries 1,921 - - (1,921) -
Interest expense (7,370) (214) (159) - (7,743)
Other income and (expense) 1,593 297 (2) - 1,888
Income (loss) from continuing
operations before income
tax benefit (provision)
and extraordinary item (1,999) 16,003 (210) (10,183) 3,611
Income tax benefit (provision) 5,596 (5,601) - - (5)
Income (loss) from continuing
operations and
extraordinary item 3,597 10,402 (210) (10,183) 3,606
Loss from discontinued
operations, net of taxes - (9) - - (9)
Extraordinary item, net of
taxes (3,135) - - - (3,135)
------ ------ ------ ------ ------
Net income (loss) $ 462 $10,393 $ (210) $(10,183) $ 462
======= ======= ====== ======== =======
20
MIKOHN GAMING CORPORATION
CONSOLIDATING CONDENSED CASH FLOW STATEMENTS
(Amounts in thousands)
For the Nine Months Ended September 30, 2002
Non
Guarantor Guarantor
Subsid- Subsid- Elim- Consol-
Parent iaries iaries inations idated
------ ------ ------ ------ ------
Net cash provided by
operating activities $ 1,418 $ 1,278 $ 453 $ - $ 3,149
------- ------- ------ ------ ------
Cash flows from investing
activities:
Purchase of property and
equipment (1,002) (130) 60 - (1,072)
Proceeds from sale of
property and equipment 7 - - - 7
Other investing activities (710) - - - (710)
------ ------ ------ ------ ------
Net cash provided by (used in)
investing activities (1,705) (130) 60 - (1,775)
Cash flows from financing
activities:
Proceeds from long-term debt - - 32 - 32
Principal payments on
long-term debt and
capital leases (766) (1,115) (68) - (1,949)
Principal payments of
deferred license fees (325) - - - (325)
Proceeds from issuance of
common stock and warrants 654 - - - 654
Proceeds from notes
receivable- stockholders 114 - - - 114
Purchase of treasury stock (222) - - - (222)
------ ------ ------ ------ ------
Net cash used in financing
activities (545) (1,115) (36) - (1,696)
------ ------ ------ ------ ------
Increase (decrease) in cash
and cash equivalents (832) 33 477 - (322)
Cash and cash equivalents,
beginning of period 14,354 (267) 1,037 - 15,124
------ ------ ------ ------ ------
Cash and cash equivalents,
end of period $13,522 $ (234) $ 1,514 $ - $14,802
======= ====== ======= ====== =======
21
MIKOHN GAMING CORPORATION
CONSOLIDATING CONDENSED CASH FLOW STATEMENTS
(Amounts in thousands)
For the Nine Months Ended September 30, 2001
Non
Guarantor Guarantor
Subsid- Subsid- Elim- Consol-
Parent iaries iaries inations idated
------ ------ ------ ------ ------
Net cash provided by
operating activities $ 823 $ 7,396 $ 1,070 $ - $ 9,289
------- ------- ------- ------ --------
Cash flows from investing
activities:
Purchase of inventory
for lease to others (907) (12,048) - - (12,955)
Proceeds from sale-
leaseback transactions - 3,500 - - 3,500
Purchase of property and
equipment (956) (402) (565) - (1,923)
Other investing activities (456) 235 - - (221)
------ ------ ------ ------ ------
Net cash used in investing
activities (2,319) (8,715) (565) - (11,598)
Cash flows from financing
activities:
Proceeds from long-term debt 99,639 - 236 - 99,875
Debt issuance costs (6,938) - - - (6,938)
Principal payments on
long-term debt (82,396) - (635) - (83,031)
Proceeds from issuance of
common stock and warrants 9,240 - - - 9,240
Other financing activities (892) 1,125 (8) - 226
------ ------ ------ ------ ------
Net cash provided by (used in)
financing activities 18,654 1,125 (407) - 19,371
------ ------ ------ ------ ------
Increase (decrease) in cash
and cash equivalents 17,158 (194) 98 - 17,062
Cash and cash equivalents,
beginning of period 540 (375) 297 - 462
------ ------ ------ ------ ------
Cash and cash equivalents,
end of period $17,698 $ (569) $ 395 $ - $17,524
======= ======= ======= ====== =======
10. GOODWILL AND OTHER INTANGIBLE ASSETS
The Company adopted Statement of Financial Accounting Standards ("SFAS") No.
142, "Goodwill and Other Intangible Assets" effective January 1, 2002. Under
SFAS No. 142, goodwill and indefinite life intangible assets, such as the
Company's perpetual license, are no longer amortized but are subject to
periodic impairment tests. Other intangible assets with finite lives, such as
patents, software development costs, trademark and proprietary property rights
and license and non-compete agreements will continue to be amortized over their
useful lives. In accordance with SFAS No. 142, the Company completed the
transitional intangible asset test upon adoption of SFAS No. 142 and the
transitional goodwill impairment test within six months from the date of
adoption. The transitional intangible asset test did not result in a change in
the useful lives of the Company's definite life intangible assets or an
impairment of the Company's definite life intangible assets. The transitional
goodwill test did not result in an impairment of goodwill.
22
In connection with the adoption of SFAS No. 142, prior period amounts were
not restated. A reconciliation of the previously reported net income and
earnings per share for the nine months ended September 30, 2001 to the amounts
adjusted for the elimination of amortization expense recorded on goodwill and
intangible assets prior to the adoption of SFAS No. 142, net of income taxes,
is as follows:
(Amounts in thousands) Net Basic Diluted
Income EPS EPS
------ ----- -----
Reported amount $ 462 $ 0.04 $ 0.04
Addback: goodwill and intangible
asset amortization 1,348 0.12 0.12
------ ------ ------
Adjusted amount $1,810 $ 0.16 $ 0.16
====== ====== ======
The net carrying value of goodwill and other intangible assets as of
September 30, 2002 is comprised of the following:
Net Amount Allocated by Segment
(Amounts in thousands) Gaming Product
Operations Sales Corporate Total
------ ----- ------ -----
Goodwill $ 2,471 $ 389 $ - $ 2,860
Indefinite life intangible
asset (perpetual license) 50,532 - - 50,532
Definite life intangible
assets (see detail below) 3,989 1,630 2,068 7,687
------ ------ ------ ------
Total $56,992 $ 2,019 $ 2,068 $61,079
======= ======= ======= =======
The change in the net carrying amount of goodwill, indefinite life
intangible assets and definite life intangible assets during the nine months
ended September 30, 2002 is due primarily to impairment charges and
amortization expense recorded.
The net carrying value of goodwill ($2.9 million) as of September 30, 2002
is included in the geographic operations of North America ($2.5 million) and
Australia / Asia ($0.4 million).
Definite life intangible assets as of September 30, 2002, subject to
amortization, are comprised of the following:
Gross Carrying Accumulated
(Amounts in thousands) Amount Amortization Net
------ ------ -----
Patent / trademark rights $ 10,157 $ (5,538) $ 4,619
Covenants not to compete 9,847 (8,720) 1,127
Software development costs 2,038 (758) 1,280
Proprietary rights / other 934 (273) 661
------ ------ ------
Total $ 22,976 $(15,289) $ 7,687
======= ======== =======
23
Amortization expense for definite life intangible assets was approximately
$2.7 million for the nine months ended September 30, 2002. Annual estimated
amortization expense for each of the five succeeding fiscal years is as
follows:
(Amounts in thousands) 2003 2004 2005 2006 2007
------ ------ ------ ------ ------
Amortization expense $ 2,327 $ 1,463 $ 1,339 $ 1,091 $ 210
======= ======= ======= ======= ======
11. RELATED PARTY TRANSACTIONS
During the three months and nine months ended September 30, 2002, the
Company entered into various transactions with related parties. Specifically,
the Company charged interest of approximately $53,000 and $163,000,
respectively, and sold approximately $101,000 and $240,000, respectively, of
net products and services to its 50% owned, unconsolidated subsidiary in Latin
America. The Company also had significant transactions with its Australian
affiliate prior to the Australian business being consolidated with the Company
on November 15, 2001. In particular, during the three months and nine months
ended September 30, 2001, the Company charged its Australian affiliate
approximately $59,000 and $172,000, respectively, in interest charges,
approximately $244,000 and $678,000, respectively, in royalty and table game
fees and approximately $128,000 and $194,000, respectively, for net sales of
various products. All sales and expense charges to or from affiliates were
deemed to be arms-length transactions. During the three months ended September
30, 2002, the Company sold its 50% interest in its Latin American subsidiary as
part of the restructuring initiatives.
Included in stockholder notes receivable at September 30, 2002 are amounts
owed from three officers and directors of the Company totaling $569,000 due
October 30, 2002. The loans arose out of a stock purchase plan approved by the
Board of Directors in October 1997. Under the plan, each person who elected to
participate purchased shares of the Company's restricted common stock at the
closing price on October 30, 1997. Each participant borrowed from the Company
the entire purchase price of the common stock he elected to buy. The loans are
evidenced by promissory notes and are secured by a pledge of the purchased
shares. All three loans became due and payable on October 30, 2002. One of the
loans was paid in full at maturity, and two are in default. The two defaulted
loans, including interest, total approximately $450,000. The Company has given
notice that the loans are in default, has demanded payment and intends to
evaluate its options under the promissory notes and under the pledge and
security agreements, including, but not limited to, the foreclosure of stock
securing the promissory notes. The Company does not intend to renew or modify
the loans in light of the express prohibitions under Section 402 of the
Sarbanes-Oxley Act (the "Act") of 2002 and will comply with any forthcoming
official guidance concerning the Act.
12. ACQUISITION/ DIVESTITURE OF SUBSIDIARIES
On May 14, 2002, the Company acquired 1,744,403 shares of Mikohn Australasia
Pty Limited ("MGA") from TAB Limited ("TAB"). These shares represented 8% of
the issued and outstanding shares of MGA, increasing the Company's ownership in
this subsidiary from 92% to 100%. The purchase price for the shares was
approximately $1.1 million, with $0.8 million payable on closing and a
promissory note for approximately $0.3 million. The promissory note is due
June 30, 2005 and bears interest at 5% per annum due at maturity.
Simultaneously with the purchase of these shares, the Company and TAB amended
their existing licensing agreement granting TAB additional rights to operate a
Mystery(r) Linked Jackpot system in New South Wales. In consideration for these
additional rights, TAB agreed to pay a fee of approximately $0.8 million within
seven days after execution of the agreement and to pay an additional fee,
aggregating a minimum of approximately $0.6 million over three years, in the
amount of approximately $8 per month per game connected to the system. The
Company and TAB agreed that monies owed by the Company to TAB for the purchase
of the shares in MGA could be offset by the monies owed by TAB to the Company
under the terms of the amended license agreement.
On September 20, 2002 the Company completed the sale of its remaining 50%
interest in its Latin American subsidiary as part of the restructuring
initiatives. The interest was sold for $350,000 consisting of
24
a cash paymentof $100,000 in October 2002 and a note for $250,000 due on
November 15, 2002. A charge of approximately $1.8 million was recorded to
reflect the forgiveness of an intercompany debt from the subsidiary to the
Company. As a result of the Company's divestiture of its Latin American
Subsidiary, goodwill related to the Latin American subsidiary was deemed to
have been impaired during the quarter ended September 30, 2002. Therefore the
Company recorded a goodwill impairment loss of approximately $0.4 million.
During the three months ended September 30, 2002, in connection with its
restructuring plan, the Company decided to divest its exterior sign operations
in the Product Sales segment. On October 1, 2002 the Company reached a
definitive agreement to sell the exterior sign operations. The transaction
closed on October 31, 2002 for $1.7 million consisting of cash payments
received in September and October, 2002 of $0.5 million and $0.7 million,
respectively, and a note for $0.5 million due on December 31, 2002. As a result
of the sale, a charge of approximately $1.1 million related to the impairment
of the exterior sign operations assets, net of the expected proceeds, was
recorded as was the loss from normal operations of the business including a
charge of approximately $1.0 million for a long-term advertising lease deemed
no longer useful to the entity. The loss from discontinued operations is shown
net of an income tax benefit of 34% applied to the pretax loss from the
discontinued operations. The operating results of this business were previously
included in the "Product Sales" segment and are presently reflected as
Discontinued Operations in the accompanying condensed consolidated statements
of operations.
The operating results of discontinued operations are as follows:
(Amounts in thousands) Three Months Ended Nine Months Ended
September 30, September 30,
2002 2001 2002 2001
------ ------ ------ ------
Revenues $ 1,246 $ 2,134 $ 5,717 $ 9,550
Operating costs and expenses 2,623 2,448 7,497 9,572
------ ------ ------ ------
Operating loss (1,377) (314) (1,780) (22)
Other income (expenses) (1) 5 (13) 8
Loss on sale of operations (1,079) - (1,079) -
------ ------ ------ ------
Sub total (2,457) (309) (2,872) (14)
Income tax benefit 836 105 976 5
Loss from discontinued
operations $(1,621) $ (204) $(1,896) $ (9)
======= ======= ======= =======
The balance sheet components of discontinued operations are as follows:
(Amounts in thousands) September 30, December 31,
2002 2001
------ ------
Accounts receivable, net $ 933 $ 2,289
Inventory, net 2,327 1,753
Other current assets 5 32
------ ------
Total current assets 3,265 4,074
Property and equipment 642 723
Other assets 26 114
------ ------
Total assets $ 3,933 $ 4,911
======= =======
Current liabilities $ 1,127 $ 1,063
Intercompany transactions 5,336 5,408
------ ------
Total current liabilities 6,463 6,471
Other liabilities 66 98
Stockholders' deficit (2,596) (1,658)
------ ------
Total liabilities and
stockholders' deficit $ 3,933 $ 4,911
======= =======
25
13. EARNINGS (LOSS) PER SHARE
The following table provides a reconciliation of basic and diluted income
(loss) per share:
Dilutive
(Amounts in thousands Stock
except per share amounts) Basic Options Diluted
------ ------ ------
For the three months ended
September 30, 2002:
Net loss $(30,240) $ - $(30,240)
Weighted average shares 12,849 12,849
Per share amount $ (2.35) $ - $ (2.35)
======== ===== ========
For the three months ended
September 30, 2001:
Net loss $ (1,418) $ - $ (1,418)
Weighted average shares 12,072 12,072
Per share amount $ (0.12) $ - $ (0.12)
======== ===== ========
For the nine months ended
September 30, 2002:
Net loss $(37,982) $ - $(37,982)
Weighted average shares 12,817 12,817
Per share amount $ (2.93) $ - $ (2.96)
======== ===== ========
For the nine months ended
September 30, 2001:
Net income $ 462 $ - $ 462
Weighted average shares 11,423 282 11,705
Per share amount $ 0.04 $ - $ 0.04
======== ===== ========
Dilutive stock options of 3,000 and 518,000 for the three months ended
September 30, 2002 and 2001, respectively, have not been included in the
computation of diluted net loss per share as their effect would be
antidilutive. Dilutive stock options of 322,000, for the nine months ended
September 30, 2002 have not been included in the computation of diluted net
loss per share as their effect would be antidilutive.
14. LONG-TERM DEBT
In February 2002, the Company completed the acquisition of a $17.5 million
working capital revolving line of credit facility (the "Facility") with
Foothill Capital Corporation ("Foothill"). As of September 30, 2002, the
Company had not drawn on this Facility. At September 30, 2002, the Company was
in violation of its covenant to maintain EBITDA of approximately $15.0 million
for the twelve months ended September 30, 2002. The Company is currently
negotiating with Foothill to amend the terms of the Facility whereby certain
non-cash expenses recorded in the nine months ended September 30, 2002 would be
excluded from the calculation of EBITDA such that the Company would no longer
be in violation of the EBITDA covenant.
26
MIKOHN GAMING CORPORATION
Item 2. - MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS
CAUTIONARY NOTICE
This report contains forward-looking statements in which management shares
its knowledge and judgment about factors that it believes may materially affect
Company performance in the future. Terms expressing future expectations,
enthusiasm or caution about future potential and anticipated growth in sales,
revenues and earnings and like expressions typically identify such statements.
All forward-looking statements, although made in good faith, are subject to
the uncertainties inherent in predicting the future including the successful
completion of the restructuring transactions and the receipt of all payments
required thereunder, overall industry environment, customer acceptance of the
Company's new products, delay in the introduction of new products, the further
approvals of regulatory authorities, adverse court rulings, production and/or
quality control problems, the denial, suspension or revocation of privileged
operating licenses by governmental authorities, competitive pressures and
general economic conditions as well as the Company's, and debt service
obligations. The Company undertakes no obligation to update or revise such
statements to reflect new circumstances or unanticipated events as they occur.
Readers are urged to carefully review and consider disclosures made by the
Company in this and other reports that discuss factors germane to the Company's
business. See particularly the Company's reports on Forms 10-K, 10-K/A, 10-Q,
10-Q/A and 8-K filed with the Securities and Exchange Commission.
GENERAL INFORMATION
All dollar amounts reported in this section are expressed in thousands and
are rounded to the nearest thousand unless otherwise stated. However, numbers
of units and number of shares are expressed in whole amounts. All percentages
reported are based on those rounded numbers.
Amounts disclosed in the accompanying tables are shown in thousands while
amounts included in text are disclosed in actual amounts.
RESTRUCTURING PLAN
During the three months ended September 30, 2002, the Company initiated a
restructuring plan for certain of its operations. The restructuring plan was
designed to achieve various objectives, principally related to reducing costs,
streamlining operations and improving financial performance on an ongoing
basis. The Company's Board of Directors approved the plan in August 2002, which
was subsequently acted upon by management during the quarter. The principal
restructuring initiatives included:
Separation of the Chief Executive Officer, Chief Financial Officer and
certain other executives from the Company and replacement of such
executives
Elimination of approximately 20%the Company's permanent work force
Divestiture of non-core business units and product lines
Disposition of under-utilized assets
Consolidation of interior sign production capacity into one facility
Streamlining certain of the Company's warehousing and slot route
assembly operations, and
Outsourcing and streamlining certain of the Company's international
sign operations
As a result of implementing the above initiatives, the Company recorded
certain restructuring expenses, severance expenses, a loss from discontinued
operations and certain other significant operating costs during the three
months ended September 30, 2002. The Company also recorded an impairment loss
relating to certain of its indefinite and definite-lived intangible assets,
property and equipment and
27
inventories. These impairment charges were recorded based on valuation
analyses whereby it was determined that cash flow, earnings and other key
operational criteria no longer supported the carrying values of these assets.
In addition, the Company took a charge to write-down the assets of its
exterior sign operations, net of expected proceeds. The charges totaled
$27.4 million and are described below:
RESTRUCTURING EXPENSE
Included in the restructuring expense caption of approximately $0.9 million
are principally non-officer employee severance costs for approximately 130
terminated employees related to a restructuring plan. Excluding the Company's
research and development and sales personnel, all employee groups within the
Company were affected by the terminations. At September 30, 2002,
approximately $0.2 million of the restructuring expense was unpaid.
Additionally, a restructuring charge of approximately $3.3 million was
taken to record the present value of long-term building lease commitments
which, in accordance with the actions taken by the Company, will not be
utilized as of specified dates as certain business operations have been
streamlined, consolidated or divested. The leases are for one building located
in Gulfport, Mississippi and for two buildings located in Las Vegas, Nevada.
The building lease in Mississippi has a term which expires in approximately 13
years, while the two leases in Nevada have terms expiring in July 2004 and in
2016. On a quarterly basis through July 2004, the Company plans to remit cash
of approximately $0.3 million under the lease agreements. Subsequent to July
2004, the Company plans to remit cash of approximately $0.1 million quarterly.
The Company is currently seeking tenants for subleasing the buildings.
Also included in restructuring expenses were write-downs of certain property
and equipment to their net realizable value in relation to the curtailment of
planned business operations with certain assembly facilities and the sale of
certain real estate. Specifically, a charge for approximately $1.5 million was
recorded for various leasehold improvements, machinery and equipment and real
estate. Of the $1.5 million, a building owned by the Company in Las Vegas,
Nevada, was sold for approximately $0.5 million less than its book value of
$2.2 million. The Company realized net cash proceeds of $1.7 million from this
sale in November 2002. The Company is attempting to sell the machinery and
equipment no longer useful to the Company.
The restructuring expense is not included in the calculation of operating
income in the tables shown below.
SEVERANCE EXPENSE
Included in the severance expense caption in the Company's consolidated
statement of operations are charges for the separation and post-employment
agreements of the Company's former CEO, CFO and another officer. Including
severance and other provisions of the agreements, the total charge was
approximately $4.8 million of which $1.5 million was a cash charge paid during
the three months ended September 30, 2002. Approximately $0.6 million of the
severance expense was applied by the former CEO and CFO to repay outstanding
loans and advances owed to the Company. At September 30, 2002, approximately
$2.7 million remains unpaid to these individuals. On a quarterly basis through
July 2003, the required quarterly payments to the individuals approximate $0.3
million. However, a one-time payment in April 2003 of approximately $0.6
million is also required. Subsequent to July 2003, the Company is required to
pay approximately $0.2 million quarterly through August 2004. From August 2004
to August 2006, the Company is required to pay approximately $0.2 annually.
The severance expense is not included in the calculation of operating income
in the tables shown below.
IMPAIRMENT LOSS
An impairment loss was recorded during the quarter ended September 30, 2002
for certain definite-lived intangible assets. Management ascertained that
certain of its definite-lived intangible assets no longer generated sufficient
actual or anticipated future revenues, earnings or cash flows. Based thereon,
the Company recorded approximately $3.9 million in write-downs of these
impaired intangible assets. The write-downs consisted primarily of a license
agreement related to certain table game hardware of approximately $1.0 million,
software costs related to Monopoly(r) table games of approximately $0.6
million, proprietary
28
rights and software development costs related to our tablegame tracking system
of approximately $1.5 million and capitalized costs associated with patents
that are no longer deemed useful of approximately $0.7 million.
The Company maintains certain indefinite-lived intangible assets as part of
its consolidated financial statements, principally in a perpetual license
related to its casino table game operations and, to a limited extent, goodwill
related to its slot route operations and international operations. A valuation
test as of January 1, 2002 did not result in any impairment. However, as a
result of the Company's divestiture of its Latin American Subsidiary, goodwill
related to the Latin American subsidiary was deemed to have been impaired
during the quarter ended September 30, 2002. Therefore the Company recorded a
goodwill impairment loss of approximately $0.4 million.
In connection with the restructuring initiatives and a third quarter
valuation review of its long-lived assets, the Company determined that the
assets described below no longer generated sufficient cash flow to support
their carrying value. These assets are comprised of approximately 200 reel-
spinning slot machines and certain non-branded assets including MoneyTime(tm),
a proprietary jackpot system consisting of slot machines, signs, meters and
related electronics. The impairment charge recorded in the quarter ended
September 30, 2002 related to these assets totaled approximately $1.7 million.
Additionally, the Company decided to no longer use certain trade show
equipment, after returning from its annual trade show in September 2002, and
recorded a charge for approximately $0.2 million in the quarter ended September
30, 2002.
The impairment loss is not included in the calculation of operating income
in the tables shown below.
OPERATING COSTS AND EXPENSES
The Company recorded various charges totaling approximately $4.0 million for
inventory write-downs and approximately $4.3 million principally for provisions
for doubtful receivables during the third quarter ended September 30, 2002.
These charges are included under the caption "Operating Costs and Expenses" in
the consolidated statements of operations.
Certain inventories were deemed obsolete in the quarter as the Company, in
accordance with its restructuring plan, entered into arrangements to outsource
certain international sign assembly operations and to discontinue the pursuit
of certain European system sales related to the tracking of arcade devices.
These charges amounted to approximately $1.0 million. Additionally, the
Company wrote down slow moving inventories for specialized electronic meters,
slot machines and finished signs in the amount of approximately $3.0 million as
targeted sales levels were not achieved.
On September 20, 2002, the Company completed the sale of its 50% interest in
its Latin American subsidiary as part of the restructuring initiatives. A
charge of approximately $1.8 million was recorded to reflect the forgiveness of
an intercompany debt from the subsidiary to the Company.
The Company recorded additional provisions for doubtful accounts totaling
$2.5 million which includes $1.5 million to reserve a loan made to a company
which in turn granted the Company an exclusive license to manufacture and
distribute its video poker games. Based on the debtor's financial condition
and uncertainties surrounding the future business plan related to the
proprietary games, a reserve was recorded. Various other uncertainties with
other debtors caused the Company to record an additional $1.0 million of
doubtful account provisions in the quarter ended September 30, 2002.
ACQUISITION / DIVESTITURE OF SUBSIDIARIES
In October 2001, the Company completed the sale of 50% of its interest in
Mikohn Latin America S.A. ("Mikohn Latin America"). Certain employees of Mikohn
Latin America, through RLP Holdings, purchased this interest for $0.5 million
in cash and a note. Since October 2001, the Company has accounted for the
financial results of this entity using the equity method. Equity in earnings
and losses of the unconsolidated subsidiary is now charged to revenues on a
monthly basis with a corresponding charge to the Company's investment in
subsidiary account. Prior to the 50% divestiture, the financial results of
Mikohn Latin America were included in the consolidated results of operations.
For the nine months ended September 30, 2001,
29
Mikohn Latin America accounted for approximately $1.2 million in revenues,
$0.5 million in gross profit, and a net loss of approximately $40,000 and these
amounts are included in the financial analysis below. For the three months
ended September 30, 2001, Mikohn Latin America accounted for approximately $0.8
million in revenues, $0.3 million in gross profit, and net income of
approximately $60,000 and these amounts are included in the financial analysis
below. From January to September 2002, approximately $16,000 of equity in
losses of unconsolidated subsidiaries is included in gaming product sales
revenues below.
On November 15, 2001, the Company converted $0.5 million of debt owing from
Mikohn Gaming Australasia Pty., Ltd ("MGA") into 20 million shares of MGA,
thereby increasing our ownership from 50% to approximately 92%. Previous to
this transaction, the Company had accounted for this unconsolidated subsidiary
using the equity method whereby the Company would record a 50% share of
earnings or losses of this subsidiary. The Company now consolidates all
accounts of this subsidiary into its consolidated financial statements. For
the nine and three-month periods ended September 30, 2001, approximately
$250,000 and $150,000, respectively, were charged to gaming products revenues
for the equity in losses of this unconsolidated subsidiary. For nine and
three-month periods ended September 30, 2002, MGA accounted for approximately
$3.1 million and $1.5 million, respectively, in revenues, $0.9 million and $0.2
million, respectively, in gross profit and an approximate net loss of $15,000
and $0, respectively. These amounts are included in the financial analysis
below.
On May 14, 2002, the Company acquired 1,744,403 shares of MGA from TAB
Limited ("TAB"). These shares represented 8% of the issued and outstanding
shares of MGA, increasing the Company's ownership in this subsidiary from 92%
to 100%. The purchase price for the shares was approximately $1.1 million,
payable $0.8 million on closing and a promissory note for $0.3 million.
Promissory note is due June 30, 2005 and bears interest at 5% per annum;
principal and interest payable or due at maturity. Simultaneously with the
purchase of these shares, the Company and TAB amended their existing licensing
agreement granting TAB additional rights to operate a Mystery(r) Linked Jackpot
system in New South Wales. In consideration for these additional rights, TAB
agreed to pay a fee of approximately $0.8 million within seven days after
execution of the agreement and to pay an additional fee, aggregating a minimum
of $0.6 million over three years, in the amount of $8 (actual) per month per
game connected to the system. The Company and TAB agreed that monies owed by
the Company to TAB for the purchase of the shares in MGA could be offset by the
monies owed by TAB to the Company under the terms of the amended license
agreement.
On September 20, 2002 the Company completed the sale of our remaining 50%
interest in our Latin American subsidiary as part of the restructuring
initiatives. The interest was sold for $350,000 consisting of a cash payment
of $100,000 and a note for $250,000 due on November 15, 2002. A charge of
approximately $1.8 million was recorded to reflect the forgiveness of an
intercompany debt from the subsidiary to the Company. As a result of the
Company's divestiture of its Latin American Subsidiary, goodwill related to the
Latin American subsidiary was deemed to have been impaired during the quarter
ended September 30, 2002. Therefore the Company recorded a goodwill impairment
loss of approximately $0.4 million.
During the three months ended September 30, 2002, in connection with its
restructuring plan, the Company decided to divest its exterior sign operations
in the Product Sales segment. On October 1, 2002 the Company reached a
definitive agreement to sell the exterior sign operations. The transaction
closed on October 31, 2002 for $1.7 million, consisting of a cash payment of
$1.2 million and a note for $0.5 million due on December 31, 2002. As a result
of the sale, a charge of approximately $1.1 million related to the impairment
of the exterior sign operations assets, net of the expected proceeds, was
recorded as was the loss from normal operations of the business including a
charge of approximately $1.0 million for a long-term advertising lease deemed
no longer useful to the entity. The loss from discontinued operations is shown
net of an income tax benefit of 34% applied to the pretax loss. The operating
results of this business were previously included in the "Product Sales"
segment and are presently reflected as Discontinued Operations in the
accompanying consolidated statements of operations.
30
RELATED PARTY TRANSACTIONS
During the three months and nine months ended September 30, 2002, the
Company entered into various transactions with related parties. Specifically,
the Company charged interest of approximately $53,000 and $163,000,
respectively, and sold approximately $101,000 and $240,000, respectively, of
net products and services to its 50% owned, unconsolidated subsidiary in Latin
America. The Company also had significant transactions with its Australian
affiliate prior to the Australian business being consolidated with the Company
on November 15, 2001. In particular, during the three months and nine months
ended September 30, 2001, the Company charged its Australian affiliate
approximately $59,000 and $172,000, respectively, in interest charges,
approximately $244,000 and $678,000, respectively, in royalty and table game
fees and approximately $128,000 and $194,000, respectively, for net sales of
various products. All sales and expense charges to or from affiliates were
deemed to be arms-length transactions. During the three months ended September
30, 2002, the Company sold its 50% interest in its Latin American subsidiary as
part of the restructuring initiatives.
Included in stockholder notes receivable at September 30, 2002 are amounts
owed from three officers and directors of the Company totaling $569,000 due
October 30, 2002. The loans arose out of a stock purchase plan approved by the
Board of Directors in October 1997. Under the plan, each person who elected to
participate purchased shares of the Company's restricted common stock at the
closing price on October 30, 1997. Each participant borrowed from the Company
the entire purchase price of the common stock he elected to buy. The loans are
evidenced by promissory notes and are secured by a pledge of the purchased
shares. All three loans became due and payable on October 30, 2002. One of the
loans was paid in full at maturity, and two are in default. The two defaulted
loans, including interest, total approximately $450,000. The Company has given
notice that the loans are in default, has demanded payment and intends to
evaluate its options under the promissory notes and under the pledge and
security agreements, including, but not limited to, the foreclosure of stock
securing the promissory notes. The Company does not intend to renew or modify
the loans in light of the express prohibitions under Section 402 of the
Sarbanes-Oxley Act ("the Act") of 2002 and will comply with any forthcoming
official guidance concerning the Act .
RESULTS OF OPERATIONS
Three Months Ended September 30, 2002 and 2001
REVENUES
(Amounts in thousands) Change
Business Segment 2002 2001 Amount % Comment
------ ------ ------ ----- ------
Gaming operations $11,165 $12,360 $(1,195) (9.7)% 1
Product sales 18,469 12,792 5,677 44.4 2
------ ------ ------
Total $29,634 $25,152 $ 4,482 17.8%
======= ======= ======
Percentage of total revenues:
Gaming operations 37.7% 49.2%
Product sales 62.3 50.8
----- -----
Total 100.0% 100.0%
===== =====
1. Gaming operations revenues during the three months ended September 30,
2002 were $11.2 million, a decrease of $1.2 million, or 10%, from
revenues of $12.4 million in the 2001 comparable period. This net
decrease resulted from:
(i) a decrease in recurring revenues from leased slot machines of
approximately $0.9 million in the 2002 period, from approximately $8.1
million in the prior year period, to approximately $7.2 million in the
current year three month period. This decline was attributable to a
decrease in the average number of branded slot machines leased to
customers from approximately 2,500 in the prior year period to
approximately 2,350 for the three months ended September 30, 2002.
31
Management believes the combination of delayed introductions of its
new game themes and increased competition with other suppliers for
limited casino floor space, contributed to this decline.
Additionally, a 10% reduction in the average net win per day per
branded slot machine, from $32 (actual) in the prior year period to
$29 (actual) in the current year period, contributed to this decline.
Management believes a slight change in the demographics of slot
machine placements, whereby more slot machines were located in
jurisdictions with historically lower win per day amounts, and delays
in introducing its new game themes on a more timely basis, contributed
to this decline. Non-branded slot machines accounted for approximately
$0.8 million of revenues in the 2002 quarterly period as compared to
approximately $1.2 million in the 2001 quarterly period. Average
nonbranded machines outstanding during the quarters were approximately
350 and 400 for 2002 and 2001, respectively. Additionally, the
Company received approximately $54,000 in the 2002 quarterly period
from the participation in 131 licensed games for which the Company
does not provide hardware for the games. The Company intends to
continue the acquisition of revenue leasing arrangements whereby the
Company would supply the software component to a third party which
would use hardware not otherwise owned or leased by the Company.
These games earned the Company approximately $4 (actual) per day and
did not exist in the prior year quarter. At September 30, 2002, the
Company maintained approximately 2,371, 376 and 204 of branded, non-
branded and licensed games without hardware, respectively. At
September 30, 2001, the Company maintained approximately 2,525, 424
and 0 of branded, non-branded and licensed games without hardware,
respectively, and
(ii) a decrease of approximately $0.3 million in table games revenues.
This decline was caused by two significant factors. First, gross
revenues from table games operations in Australia in the 2001 period
were not consolidated in the Company's financial statements as the
Australian subsidiary was a 50% owned, unconsolidated subsidiary
through September 30, 2001. In 2002, all gross revenues from the
Australian subsidiary were included in this caption and the table
games revenues from Australia represent approximately $0.3 million in
the third quarter. Secondly, the table games operation in domestic
markets has experienced a decline in the number of outstanding tables
and the average monthly lease revenue. For the quarter ended September
30, 2002, revenues from European and domestically leased casino table
games were approximately $3.7 million compared with approximately $4.3
million in the 2001 period. Management believes the industry trend to
reduce the number of table games in casinos in the last several years
in favor of slot machines has contributed to this decline in its table
games in casinos and revenues. During the 2002 and 2001 quarterly
periods, the Company averaged 1,068 and 1,029 leased casino table
games, respectively. The average monthly lease revenue was
approximately $1,250 (actual) in 2002 and $1,390 (actual) in 2001. The
monthly lease revenue includes royalties and commencement fees paid
during the respective quarters. Management believes that the decline
in the average monthly lease charge in the 2002 period was
attributable to the absence of table commencement fees revenues in the
2002 period, lower royalty payments received, and a lower percentage
of the higher revenue generating progressive table games in the 2002
period. The Company maintained approximately 1,061 and 1,035 table
games at September 30, 2002 and 2001, respectively.
2. Product sales revenues during the three months ended September 30, 2002
were $18.5 million, an increase of $5.7 million, or 44%, from revenues of
$12.8 million in the 2001 comparable period. This net increase during
2002 was due principally to:
(i) increases in sales of interior signage and electronic displays of
approximately $5.1 million. This increase occurred due to the timing
of two significant sign and electronic sales orders of approximately
$4.0 million which were delivered in the third quarter 2002. These
orders had been scheduled for delivery in the quarter ended June 30,
2002 but were postponed until the subsequent quarter due to customer
requests or installation requirements or delays, and
(ii) an increase of approximately $0.6 million in systems sales in the
2002 quarter as compared to the 2001 quarter, from approximately $1.1
million in 2001 to $1.7 million in 2002.
32
OPERATING INCOME (LOSS)
(Amounts in thousands) Change
Business Segment 2002 2001 Amount % Comment
------ ------ ------ ----- ------
Gaming operations $ (526) $ 5,056 $ (5,582) (110.4)% 1
Product sales (2,705) 1,413 (4,118) (291.4) 2
------ ------ ------
Segment operating income
(loss) (3,231) 6,469 (9,700) (150.0)
Corporate (3,858) (2,928) 930 (31.8) 3
------ ------ ------
Total operating income
(loss) $(7,089) $ 3,541 $(10,630) (300.2)%
======= ======= ========
Depreciation and amortization:
Gaming operations $ 2,225 $ 2,063 $ 162 7.9%
Product sales 166 347 (181) (52.2)
Corporate 999 888 111 12.5
------ ------ ------
Total $ 3,390 $ 3,298 $ 92 2.8% 4
======= ======= =======
1. Gaming operations incurred an operating loss during the three months
ended September 30, 2002 of $0.5 million compared to operating income of
$5.1 million in the 2001 period. This net decrease of $5.6 million was
primarily due to:
(i) the previously discussed decrease in recurring revenues from leased
slot machines of approximately $0.9 million and an increase in the
costs to service, refurbish and maintain the slot machine route as
well as increased operating costs. The cost to service, refurbish and
maintain the Company's slot route increased to approximately $3.0
million as compared to approximately $1.4 million in the previous
year. Factors which caused this increase included significant
refurbishment costs to a non-branded product involving signs,
electronics and slot machine tracking of approximately $0.3 million,
refurbishment costs to existing slot machines for a new product theme
involving customized features of approximately $0.3 million,
conversion costs in changing out previously themed games to new game
themes such as Clue(r), and the normal costs associated with maintaining
slot machines which are no longer under warranty and typically require
increased repair and maintenance. Slot rental expense increased to
$1.4 million in the 2002 period as compared to $1.2 million in the
2001 period. Depreciation and amortization for the three months ended
September 30, 2002 and 2001 was $1.8 million and $1.4 million,
respectively. The increase was due primarily to the increase in slot
route equipment in the current period combined with an acceleration in
depreciating certain signage and slot machines in the current period.
The Company also incurred segment expenses, excluding slot rent
expense and depreciation and amortization expense, of approximately
$3.6 million in the 2002 period compared to approximately $1.2 million
in the 2001 period. This $2.4 million increase was caused by a charge
for bad debts of $1.5 million and a charge for certain stock option
expenses of $0.1 million, which were otherwise unanticipated. The
remaining $0.8 million increase was caused principally by increased
sales and engineering expenses, and
(ii) the previously discussed decrease in recurring revenues from leased
casino table games of approximately $0.3 million and an increase in
the costs of revenues offset, in part, by a decline in segment
expenses, exclusive of depreciation and amortization. Costs of
revenues as a percentage of revenues increased to 23% in the 2002
period from 16% in the 2001 period. This occurred as costs from the
Company's Australian subsidiary were included in the 2002 period, but
not in the 2001 period, and amounted to approximately $0.2 million.
During the 2001 period, the Australian subsidiary was not consolidated
with the Company as it was a 50% owned, nonconsolidated subsidiary.
Total costs of revenues, exclusive of segment expenses, for the three
months ended September 30, 2002 totaled approximately $0.9 million
compared to approximately $0.5 million in the 2001 period.
Depreciation and amortization for the three months ended September 30,
2002 and 2001 were $0.4 million and $0.7 million, respectively. The
decrease was due primarily to the curtailment in the amortization of
certain goodwill and
33
intangible assets due to the implementation of SFAS No. 142 beginning
January 2002. Segment expenses, excluding depreciation and amortization,
were approximately $0.5 million in the 2002 period as compared with $0.9
million in the 2001 period. A decrease in personnel and related costs,
as well as a reduction in sales and engineering related costs, caused
the decline.
2. Product sales incurred an operating loss during the three months ended
September 30, 2002 of $2.7 million, compared to operating income of $1.4
million in the 2001 period. This decline of approximately $4.1 million
in operating income resulted principally from:
(i) lower gross profit margins from the Company's interior signs,
electronics and other product sales of 39% in the prior year period to
17% in the current period. This decline was caused principally by an
increased provision for obsolete inventories in the quarter ended
September 30, 2002 of approximately $3.1 million (19% of revenues) as
compared to provisions for obsolescence in the prior year period of
approximately $0.3 million and lower gross profit margins on
installation contracts, certain of which were outsourced and generated
negative gross profit in the 2002 quarter. Additionally, a provision
for bad debts of approximately $2.5 million, recorded in 2002
principally related to a receivable from the Company's 50% owned
subsidiary in Latin America, contributed to the decline in operating
income. Depreciation and amortization for the three months ended
September 30, 2002 and 2001 was $0.1 million and $0.3 million,
respectively. The decrease was due primarily to the curtailment in the
amortization of certain goodwill and intangible assets due to the
implementation of SFAS No. 142 beginning January 2002. These factors
were offset, in part, by the aforementioned increase in revenues of
approximately $5.1 million during the 2002 period, and
(ii) a slight improvement in operating income of the Company's systems
business of approximately $0.1 million. Costs of sales for the
systems business was $1.7 million during the quarter ended September
30, 2002, of which $0.6 million was a charge for slow moving or
obsolete inventory items. During the similar quarter of 2001, costs
of sales were $0.3 million. Segment expenses, excluding costs of
sales and impairment or restructuring charges, decreased from $1.5
million in the 2001 period to approximately $0.8 million in the 2002
period. Decreases in research and development costs related to
certain new systems product development and certain expenses for
personnel reductions in the 2002 period contributed to the decrease in
segment expenses. Depreciation and amortization for the three months
ended September 30, 2002 and 2001 remained constant at less than $0.1
million between periods.
3. Corporate expenses during the three months ended September 30, 2002
were $3.9 million, an increase of $1.0 million, or 32% from $2.9 million
in the 2001 comparable period. The inclusion of marketing-related trade
show expenses in the third quarter 2002 of approximately $0.6 million was
the principal reason for the increase. The Company recorded trade show
expenses incurred in the third quarter 2002 as compared to the similar
costs of the prior year occurring in the fourth quarter 2001. An
increase in research and development costs, which were not allocated to
the revenue producing business segments, added to the increase in the
2002 period.
4. Depreciation and amortization during the three months ended September
30, 2002 was $3.4 million, an increase of $0.1 million, or approximately
3%, from $3.3 million in the 2001 comparable period. This increase was
primarily due to the aforementioned increase in depreciation related to
leased slot machines and a slight increase in Corporate depreciation,
partially offset by the aforementioned decreases in amortization related
to both table games and interior signs and electronics.
INTEREST EXPENSE
Interest expense during the three months ended September 30, 2002 was $4.0
million, an increase of $1.1 million, or 38%, from $2.9 million in the prior
comparable period. This increase was due to higher average outstanding
borrowings in the 2002 three-month period, a higher average effective
interest rate in 2002 of approximately 14% compared to approximately 10% in
2001. The Company refinanced its debt structure in mid August 2001, whereby
its debt outstanding was increased by approximately $18 million and its
interest rate increased significantly.
34
OTHER INCOME AND EXPENSE
Other income and expense, excluding interest income, during the second
quarter of 2002 was a net expense of approximately $0.1 million compared to
net income of $1.3 million in the similar 2001 period. The decrease of
approximately $1.4 million was caused principally from the recognition of a
previous sale of 50% of the Company's Australian subsidiary of approximately
$1.3 million completed by the delivery of a wide area progressive system.
Interest income in the 2002 quarterly period remained constant at $0.1
million compared to interest income for the quarter ended September 30, 2001.
INCOME TAXES
During the three months ended September 30, 2002, the Company recorded a
tax provision of approximately $0.9 million compared to a tax provision of
$0.1 million for the three months ended September 30, 2001. The primary
component of the income tax provision was an offset to a tax benefit recorded
relative to discontinued operations losses. The tax provision offsets the tax
benefit from the discontinued operations losses for both periods. No tax
benefit was recorded by the Company related to its loss from continuing
operations, as the benefit would have been fully reserved.
LOSS FROM DISCONTINUED OPERATIONS
During the three months ended September 30, 2002 and 2001, the Company
recorded losses from discontinued operations, net of income tax benefits
calculated at 34%, of approximately $1.6 million and $0.2 million,
respectively. These losses relate to the Company's exterior sign operations,
which was sold effective October 31, 2002. The decision to sell this
operation occurred in August 2002.
EXTRAORDINARY ITEM
In connection with the Company's August 2001 refinancing and early
extinguishment of certain debt obligations, an extraordinary charge was taken
for the early extinguishment of debt, totaling $3.1 million, for the three
month period ended September 30, 2001.
LOSS PER SHARE
Both basic and diluted loss per share for the three months ended September
30, 2002 were $2.35 on basic and diluted weighted average common shares
outstanding of 12,849,000. Both basic and diluted loss per share for the three
months ended September 30, 2001 were $0.12 on basic and diluted weighted
average common shares outstanding of 12,072,000. Dilutive stock options have
not been included in the computations of diluted net loss per share as their
effect would be antidilutive.
Nine months ended September 30, 2002 and 2001
REVENUES
(Amounts in thousands) Change
Business Segment 2002 2001 Amount % Comment
------ ------ ------ ----- ------
Gaming operations $33,300 $33,639 $ (339) (1.0)% 1
Product sales 42,175 36,585 5,590 15.3 2
------ ------ ------
Total $75,475 $70,224 $ 5,251 7.5%
======= ======= =======
Percentage of total revenues:
Gaming operations 44.1% 49.2%
Product sales 55.9 50.8
----- -----
Total 100.0% 100.0%
===== =====
35
1. Gaming operations revenues during the nine months ended September 30, 2002
were $33.3 million, a decrease of $0.3 million, or 1%, from revenues of
$33.6 million in the 2001 comparable period. This net decrease resulted
from:
(i) an increase in recurring revenues from leased slot machines of
approximately $0.1 million in the 2002 period, from approximately
$20.7 million in the prior year period, to approximately $20.8 million
in the current year nine month period. This improvement was
attributable to an increase in the average number of branded slot
machines leased to customers of approximately 2,525 for the nine
months ended September 30, 2002 compared to approximately 2,280 in the
prior period partially offset by a 6% reduction in the average net win
per day per branded slot machine, from approximately $30 (actual) in
the prior year period to approximately $28 (actual) in the current
year period. Management believes that a slight change in the
demographics of slot machine placements, whereby more slot machines
were located in jurisdictions with historically lower win per day
amounts, contributed to the decline in the average win per day. Non-
branded slot machines accounted for $1.9 million of revenues in the
2002 nine month period as compared to approximately $3.0 million in
the 2001 nine month period. Average non-branded machines outstanding
during the nine months ended September 30, 2002 were approximately 400
and 450 for 2002 and 2001, respectively. Additionally, the Company
received approximately $54,000 in the 2002 nine month period from the
participation in an average of 131 licensed games for which the
Company does not provide hardware for the games. The Company intends
to continue the acquisition of leasing arrangements whereby the
Company would supply the software component to a third party which
would use hardware not otherwise owned or leased by the Company. These
games earned the Company approximately $4 (actual) per day and did not
exist in the prior year nine month period. At September 30, 2002, the
Company maintained approximately 2,371, 376 and 204 of branded, non-
branded and licensed games without hardware, respectively. At
September 30, 2001, the Company maintained approximately 2,525, 424
and 0 of branded, non-branded and licensed games without hardware,
respectively, and
(ii) a decrease of approximately $0.5 million in table games revenues.
This decline was caused by two significant factors. First, gross
revenues from table games operations in Australia in the 2001 period
were not consolidated in the Company's financial statements as the
Australian subsidiary was a 50% owned, unconsolidated subsidiary
through September 30, 2001. In 2002, all gross revenues, including
table games, from the Australian subsidiary were included in this
caption and represent approximately $0.9 million. Secondly, the table
games operation in domestic markets has experienced a decline in the
number of outstanding tables and the average monthly lease revenue.
For the nine months ended September 30, 2002, revenues from European
and domestically leased casino table games were approximately $11.6
million compared with approximately $13.0 million in the 2001 period.
Management believes that the industry trend to reduce the number of
table games in casinos in the last several years in favor of slot
machines has contributed to this decline in table game placements and
revenues. During the 2002 and 2001 nine month periods, the Company
averaged 1,087 and 1,015 leased casino table games, respectively. The
average monthly lease revenue was approximately $1,275 (actual) in the
2002 period and $1,425 (actual) in the 2001 period. The monthly lease
revenue includes royalties and commencement fees paid during the
respective nine-month periods. Management believes that the decline
in the average monthly lease charge in the 2002 period was
attributable to the absence of table commencement fees revenues in the
2002 period, lower royalty payments received, and a lower percentage
of the higher revenue generating progressive table games in the 2002
period. The Company maintained approximately 1,061 and 1,035 table
games at September 30, 2002 and 2001, respectively.
2. Product sales revenues during the nine months ended September 30,
2002 were $42.2 million, an increase of approximately $5.6 million, or
15%, from revenues of $36.6 million in the 2001 comparable period.
This increase during 2002 was due principally to:
(i) an increase of approximately $4.2 million in interior signage and
visual display products. This increase occurred as sales of interior
signage and visual displays from the Company's Australian subsidiary
in the 2001 nine month period were excluded from the consolidated
36
financial results of the Company as the subsidiary was a 50% owned
non-consolidated subsidiary. During the 2002 nine-month period ended
September 30, 2002, the Australian subsidiary was a wholly owned
subsidiary, and it generated approximately $5.2 million in revenues
from interior signage and visual display products. Offsetting this
increase in the 2002 period was a decline in interior signage and
visual display products of approximately $2.0 million from the
exclusion of the Company's Latin American subsidiary revenues in the
2002 nine-month period due to this subsidiary becoming a non-
consolidated reporting business beginning October 1, 2001. The Company
also experienced slight increases in the 2002 nine month period from
its slot glass operations, and
(ii) an increase of approximately $1.4 million in revenues from the
Company's systems business operations. Increased sales to certain
Canadian customers which expanded casino slot operations during the year
were the primary contributor to this increase.
OPERATING INCOME (LOSS)
(Amounts in thousands) Change
Business Segment 2002 2001 Amount % Comment
Gaming operations $ 5,219 $13,967 $ (8,748) (62.6)% 1
Product sales (1,798) 3,987 (5,785) (145.1) 2
------ ------ ------
Segment operating income
(loss) 3,421 17,954 (14,533) (80.9)
Corporate (9,790) (8,488) (1,302) (15.3) 3
------ ------ ------
Total operating income
(loss) $(6,369) $ 9,466 $(15,835) (167.3)%
======= ======= ======== =====
Depreciation and amortization:
Gaming operations $ 6,240 $ 5,663 $ 577 10.2%
Product sales 753 920 (167) (18.2)
Corporate 2,639 2,483 156 6.3
------ ------ ------
Total $ 9,632 $ 9,066 $ 566 6.2% 4
======= ======= =======
1. Gaming operations operating income during the nine months ended
September 30, 2002 was $5.2 million compared to operating income of $14.0
million in the 2001 period. This net decrease of $8.8 million was due
primarily to:
(i) the previously discussed increase in recurring revenues from
leased slot machines of approximately $0.1 million offset by an increase
in the costs to service, refurbish and maintain the slot machine route as
well as increased operating costs. The cost to service, refurbish and
maintain the slot route increased to approximately $7.0 million as
compared to approximately $4.1 million in the previous year. Factors
which caused this increase included significant refurbishment costs to
a nonbranded product involving signs, electronics and slot machine
tracking, refurbishment costs to existing slot machines for a new
product theme involving customized features, conversion costs in
changing out previously themed games to new game themes such as Clue(r),
and the normal costs associated with maintaining older slot machines
which are no longer under a warranty period and typically require
increased repair and maintenance. Slot rental expense increased to
$4.1 million in the 2002 nine-month period as compared to $2.8 million
in the 2001 period. Depreciation and amortization for the nine months
ended September 30, 2002 and 2001 was $5.2 million and $3.7 million,
respectively. The increase was due primarily to the increase in slot
route equipment in the current period combined with an acceleration of
depreciation in respect to certain signage and slot machines in the
current period. The Company also incurred segment expenses, excluding
slot rent expense and depreciation and amortization expense, of
approximately $6.6 million in the 2002 period compared to approximately
$3.6 million in the 2001 period. This $3.0 million increase was caused
by a charge for bad debts of $1.5 million and a charge for certain
stock option expenses of $0.1 million, which were otherwise
unanticipated. The remaining $1.4 million increase was
37
caused principally by increased sales and engineering expenses related
to the development and introduction of new game themes, and
(ii) the previously discussed decrease in recurring revenues from leased
casino table games of approximately $0.5 million and an increase in the
costs of revenues offset, in part, by a decline in segment expenses,
exclusive of depreciation and amortization. Costs of revenues as a
percentage of revenues increased to 18% in the 2002 period from 11% in
the 2001 period. This occurred as costs from the Company's Australian
subsidiary were included in the 2002 period, but not in the 2001
period, and amounted to approximately $0.7 million. During the 2001
period, the Australian subsidiary was not consolidated with the Company
as it was a 50% owned, non-consolidated subsidiary. Total costs of
revenues, exclusive of segment expenses, for the nine months ended
September 30, 2002 totaled approximately $2.3 million compared to
approximately $1.5 million in the 2001 period. Depreciation and
amortization for the nine months ended September 30, 2002 and 2001 was
$1.1 million and $2.0 million, respectively. The decrease was due
primarily to the curtailment in the amortization of certain goodwill
and intangible assets due to the implementation of SFAS No. 142
beginning January 2002. Segment expenses, excluding depreciation and
amortization, were approximately $1.8 million in the 2002 period as
compared with $2.1 million in the 2001 period. A decrease in personnel
and related costs, as well as a reduction in sales and engineering
related costs, caused the decline.
2. Product sales incurred an operating loss during the nine months ended
September 30, 2002 of $1.8 million, compared to operating income of $4.0
million in the 2001 period. This decline of approximately $5.8 million in
operating income resulted principally from:
(i) lower gross profit margins from the Company's interior signs,
electronics and other product sales of approximately 38% in the prior
year period to 27% in the current period. This decline was caused
principally by an increased provision for obsolete inventories in the
nine months ended September 30, 2002 of approximately $3.9 million as
compared to provisions for obsolescence in the prior year period of
approximately $0.5 million and lower gross profit margins on certain
installation contracts, certain of which were outsourced and generated
negative gross profit in the 2002 nine-month period. Additionally,
segment expenses, before depreciation, amortization and bad debt
provisions, increased approximately $0.6 million primarily due to the
inclusion, in the 2002 period, of the Company's wholly-owned
subsidiary in Australia offset, in part, by the exclusion in the 2002
period of the Company's Latin American subsidiary, which became a non-
consolidated subsidiary as of October 1, 2001. Operating results in
the 2002 period also declined due to a provision for bad debts of
approximately $2.5 million which was recorded in the 2002 nine-month
period relating principally to a receivable from the Company's 50%
owned subsidiary in Latin America. Depreciation and amortization for
the nine months ended September 30, 2002 and 2001 was $0.7 million and
$0.8 million, respectively. The decrease was due primarily to the
curtailment in the amortization of certain goodwill and intangible
assets due to the implementation of SFAS No. 142 beginning January
2002. These factors were offset, in part, by the aforementioned
increase in revenues of approximately $4.1 million during the 2002
period, and
(ii) a slight improvement in operating results of the Company's
systems business of approximately $0.1 million. Costs of sales for the
systems business was $3.4 million during the nine months ended
September 30, 2002, of which $0.6 million was a charge for slow moving
or obsolete inventory items. During the same nine months of 2001,
costs of sales were $1.6 million. Segment expenses, excluding costs
of sales, impairment or restructuring expense and depreciation and
amortization expenses, decreased from $2.9 million in the 2001 period
to approximately $2.5 million in the 2002 period. Decreases in
research and development costs related to certain new systems product
development and certain personnel reductions in the 2002 period
contributed to the decrease in segment expenses. Depreciation and
amortization for the nine months ended September 30, 2002 and 2001
remained constant at $0.1 million between periods.
3. Corporate expenses during the nine months ended September 30, 2002 were
$9.8 million, a $1.3 million increase, or 15%, from $8.5 million in the 2001
comparable period. This increase occurred principally
38
from an increase in marketing expenses of approximately $0.8 million, as
the Company's primary trade show took place in the third quarter of 2002
instead of the fourth quarter when it was held in 2001, and from increased
costs in legal and compliance and executive administration departments. An
increased number of regulatory submissions for the Company's products and
personnel transactions contributed to the increase in the legal, compliance
and executive administration areas.
4. Depreciation and amortization during the nine months ended September 30,
2002 was approximately $9.6 million, an increase of $0.5 million, or 6%,
from approximately $9.1 million in the 2001 comparable period. This increase
was primarily due to the aforementioned increase in depreciation related to
leased slot machines and a slight increase in Corporate depreciation,
partially offset by the aforementioned decreases in amortization related to
both table games and interior signs and electronics.
INTEREST EXPENSE
Interest expense during the nine months ended September 30, 2002 was $11.8
million, an increase of $4.1 million, or 52%, from $7.7 million in the 2001
comparable period. This increase was due to higher average outstanding
borrowings in the 2002 nine-month period and a higher average effective
interest rate in 2002 of approximately 14% compared to approximately 10% in
2001. In August 2001, the Company refinanced its debt structure and incurred an
additional $18 million of long-term debt at a higher interest rate.
OTHER INCOME AND EXPENSE
Other income and expense, excluding interest income, for the nine months
ended September 30, 2002 was a net expense of $0.3 million compared to a net
income the nine months ended September 30, 2001 of $1.4 million. The decrease
of approximately $1.7 million was caused principally from the recognition of a
previous sale of 50% of the Company's Australian subsidiary of approximately
$1.3 million completed by the delivery of a wide area progressive system.
Interest income for the nine months ended September 30, 2002 was $0.4
million compared to $0.5 million for the nine months ended September 30, 2001.
This decrease was due principally to a decrease in average interest rates
versus the prior year nine month period and a curtailment in interest income
recorded from interest-bearing notes as interest on certain of these notes has
been deferred in the 2002 period pending cash receipt, as management determined
collectibility of these notes was uncertain. Offsetting these decreases was an
increase in cash and cash equivalent balances during the nine-month period
ended September 30, 2002 which resulted from the net cash proceeds of the
Company's refinancing in August 2001.
INCOME TAX PROVISION
During the nine months ended September 30, 2002, the Company recorded a tax
provision of approximately $1.4 million compared to less than $0.1 million for
the nine months ended September 30, 2001. The primary component of the income
tax provision was an offset to a tax benefit recorded relative to discontinued
operations losses. The tax provision offsets the tax benefit from the
discontinued operations losses for both periods. No tax benefit was recorded
by the Company related to its loss from continuing operations, as the benefit
would have been fully reserved.
LOSS FROM DISCONTINUED OPERATIONS
During the nine months ended September 30, 2002 and 2001, the Company
recorded losses from discontinued operations, net of income tax benefits
calculated at 34%, of approximately $1.9 million and less than $0.1 million,
respectively. These losses relate to the Company's exterior sign operations,
which was sold effective October 31, 2002. The decision to sell this operation
occurred in August 2002.
EARNINGS (LOSS) PER SHARE
Both basic and diluted loss per share for the nine months ended September
30, 2002 were $2.96 on basic and diluted weighted average common shares
outstanding of 12,817,000. Dilutive stock options
39
have not been included in the computation of diluted net loss per share as
their effect would be antidilutive. Both basic and diluted earnings per share
for the nine months ended September 30, 2001 were $0.04 on basic and diluted
weighted average common shares outstanding of 11,423,000 and 11,702,000,
respectively.
LIQUIDITY AND CAPITAL RESOURCES
For the nine-month period ended September 30, 2002, the Company incurred a
net loss of $38.0 million. Net cash and cash equivalents at September 30, 2002
were $14.8 million, a decrease of $0.3 million from $15.1 million at December
31, 2001. Working capital decreased to $20.5 million at September 30, 2002 from
$38.5 million at December 31, 2001. This working capital decrease was due
principally to decreases in accounts receivables of approximately $6.8 and
inventory of approximately $5.0 primarily related to write-downs and charges
from the restructuring plan and increases in customer deposits and accrued
liabilities of approximately $6.4 million, principally from accrued severance
costs for separated officers.
Cash provided by operating activities was $3.1 million for the nine months
ended September 30, 2002. The significant items affecting this amount were a
net loss of $38.0 million offset by charges of: (i) $17.0 million for asset
impairments, loss from discontinued operations and valuation provisions, (ii)
$9.6 million for depreciation and amortization and (iii) $1.7 million for
amortization of debt discount and issue costs. Significant changes in operating
assets and liabilities also affecting cash provided by operating activities
were increases in accrued liabilities of $13.7 million, principally from
accrued severance costs for separated officers, an accrual for long-term lease
commitments and an increase to accrued interest related to long-term debt, and
a net decrease in accounts receivable of approximately $5.9 million, partially
offset by a net increase in inventories and installment sales of approximately
$4.7 million and a decrease in accounts payable of approximately $2.5 million.
Cash used in investing activities was $1.8 million during the nine months
ended September 30, 2002. The items affecting this amount were an increase in
intangible assets of approximately $0.7 million and purchases of property and
equipment of approximately $1.1 million.
Cash used in financing activities was $1.7 million during the nine months
ended September 30, 2002, principally a result of principal payments on debt,
deferred license fees and capital leases of approximately $2.3 million and the
purchase of the Company's common stock of $0.2 million offset, in part, by
proceeds of approximately $0.7 million from the issuance of common stock or
exercise of stock or options.
The following table summarizes the Company's contractual obligations for
long-term debt, capital leases and operating leases for the periods shown:
(Amounts in thousands) Less than 1-3 4-5 After 5
Contractual Obligations Total 1 year years years years
----- ----- ----- ----- -----
Long-term debt $105,427 $ 143 $ 284 $ - $105,000
Capital leases 2,863 1,980 878 5 -
Operating leases 30,863 8,872 7,949 4,270 9,772
------- ------ ------ ------ -------
Total $139,153 $10,995 $ 9,111 $ 4,275 $114,772
======== ======= ======= ======= ========
The above table includes accretion of debt discount of $4,941,000.
On August 22, 2001, the Company completed the private placement of $105.0
million of its 11.875% Senior Secured Notes due 2008 and warrants to purchase
an aggregate of 420,000 shares of its common stock at a price of $7.70 per
share. Interest payments of approximately $6.2 million are due on May 1 and
November 1 until 2008. The Senior Secured Notes due 2008 are secured by a
security interest in certain of the Company's assets and certain assets of its
subsidiaries. On or after August 15, 2005, the Company will have the right to
redeem all or some of the notes at a price that will decrease over time from
105.938% of the principal amount in 2005 to 100.0% of the principal amount in
2007, plus accrued and unpaid interest. The Senior Secured Notes due 2008
include a covenant whereby the Company may only purchase
40
additional slot machines if it maintains $5.0 million of available liquidity,
as defined. The Company is in compliance with this covenant as of September
30, 2002.
Following each fiscal year, if the Company has excess cash flow for such
fiscal year, the Company will offer to purchase up to an aggregate principal
amount of notes equal to 50.0% of such excess cash flow at a price equal to
100.0% of the principal amount plus accrued and unpaid interest.
In February 2002, the Company completed the acquisition of a $17.5 million
working capital revolving line of credit facility (the "Facility") with
Foothill Capital Corporation ("Foothill"). Borrowings under the Facility are
based on (i) eligible accounts receivable, as defined, up to $7.5 million with
interest at LIBOR plus 2.75% or prime plus 0.75% and (ii) Table Game EBITDA, as
defined, up to $10.0 million with interest at prime plus a range of 2.0% to
3.5% depending on Debt Coverage Ratios, as defined in the Facility. Any
borrowings under the Facility are secured by a first secured interest in
substantially all of the Company's assets. The Company pays a 0.5% per annum
unused line fee. The Facility has early payoff penalties during the term of
the line at 3.0% during the first year, 2.0% during the second year, and 1.0%
during the third year. The Facility has an initial term of three years and
includes certain restrictive financial covenants, including maintenance of
$20.0 million of annual EBITDA, minimum table games revenue of $750 monthly and
a table game installed base of not less than 600 games. As of September 30,
2002, the Company had not drawn on this Facility. At June 30, 2002, the
Company was not in compliance with its covenant to maintain $20.0 million of
annual EBITDA. Foothill subsequently agreed to amend the EBITDA covenant for
certain calendar quarters beginning with and subsequent to September 30, 2002
requiring the Company to maintain a trailing twelve months of EBITDA of
approximately $15.0 million for the quarters ended September 30, 2002, December
31, 2002 and March 31, 2003. The EBITDA covenant increases to approximately
$17.0 million as of June 30, 2003 and increases to the original amount of $20.0
million at September 30, 2003. The capacity of the line of credit will be
$12.5 million until the Company has achieved EBITDA of $20.0 million for three
consecutive quarters, at which point the capacity of the line of credit will
revert to the original $17.5 million. At September 30, 2002, the Company was in
violation of its covenant to maintain EBITDA of approximately $15.0 million for
the twelve months ended September 30, 2002. The Company is currently
negotiating with Foothill to amend the terms of the Facility whereby certain
non-cash expenses recorded in the nine months ended September 30, 2002 would be
excluded from the calculation of EBITDA such that the Company would no longer
be in violation of the EBITDA covenant.
Based on the amount of cash and cash equivalents held of approximately $14.8
million and cash generated from operations, management believes the Company has
sufficient working capital on both a short and long-term basis. In addition,
the Company expects to have an additional $12.5 million available under its
Facility pending the completion of a proposed amendment.
SIGNIFICANT ACCOUNTING POLICIES AND ESTIMATES
Our consolidated financial statements are prepared in conformity with
accounting principles generally accepted in the United States. Certain of our
accounting policies, including the estimated lives assigned to our assets, the
determination of bad debts, inventory valuation reserves, asset impairment and
self insurance reserves require that we apply significant judgment in defining
the appropriate assumptions for calculating financial estimates. By their
nature, these judgments are inherently subject to a degree of uncertainty. Our
judgments are based on our historical experience, terms of existing contracts,
our observance of industry trends, information provided by or gathered from our
customers and information available from other outside sources, as appropriate.
There can be no assurance that actual results will not differ from our
estimates. To provide an understanding of the methodology we apply, our
significant accounting policies are discussed where appropriate in this
discussion and analysis and in the notes to our consolidated financial
statements.
RECENTLY ISSUED ACCOUNTING STANDARDS
In September 2001, the FASB issued Statement No. 143, "Accounting for Asset
Retirement Obligations." This statement addresses financial accounting and
reporting for obligations associated with the retirement of tangible long-lived
assets and the associated asset retirement costs. This statement applies to
legal obligations associated with the retirement of long-lived assets that
result from the acquisition, construction, development and the normal operation
of a long-lived asset, except for certain obligations of
41
lessees. Statement No. 143 is effective for financial statements issued for
fiscal years beginning after September 15, 2002. The Company is currently
evaluating the impact that this statement will have on its consolidated
financial statements.
In April 2002, the FASB issued Statement No. 145, "Rescission of Statement
Nos. 4, 44 and 64, Amendment of Statement No. 13, and Technical Corrections".
Among other things, Statement No. 145 rescinds various pronouncements regarding
early extinguishment of debt and allows extraordinary accounting treatment for
early extinguishment only when the provisions of Accounting Principles Board
Opinion No. 30, "Reporting the Results of Operations-Reporting the Effects of
Disposal of a Segment of a Business, and Extraordinary, Unusual and
Infrequently Occurring Events and Transactions" are met. Statement No. 145
provisions regarding early extinguishment of debt are generally effective for
fiscal years beginning after May 15, 2002. Management believes the adoption of
Statement No. 145, which will be implemented during 2003, will not have a
material impact on its consolidated financial statements.
In June 2002, the FASB issued Statement No. 146, Accounting for Costs
Associated with Exit or Disposal Activities, which addresses accounting for
restructuring and similar costs. Statement No. 146 supersedes previous
accounting guidance, principally Emerging Issues Task Force (EITF) Issue No.
94-3. The Company will adopt the provisions of Statement No. 146 for
restructuring activities initiated after December 31, 2002. Statement No. 146
requires that the liability for costs associated with an exit or disposal
activity be recognized when the liability is incurred. Under EITF 94-3, a
liability for an exit cost was recognized at the date of a company's commitment
to an exit plan. Statement No. 146 also establishes that the liability should
initially be measured and recorded at fair value. Accordingly, Statement No.
146 may affect the timing of recognizing future restructuring costs as well as
the amount recognized.
CAPITAL EXPENDITURES
During the nine months ended September 30, 2002, the Company spent
approximately $1.1 million for purchases of property and equipment. The Company
presently plans to spend approximately $1.0 million for property and equipment
for the three months ending December 31, 2002. The Company plans to purchase
inventory for lease to others only to the extent that specific machines not
currently on lease or participation at casinos are used or based on contractual
commitments with the supplier of its gaming machines. The Company, in March
2002, entered into a contractual commitment to purchase a minimum of 125 slot
machines each calendar quarter beginning July 1, 2002 through June 30, 2003 for
introduction of new games. These purchases will total approximately $3.5
million. Presently, the Company owns or leases approximately 700 machines
which are not currently in use at casinos. Due to the number of slot machines
owned or leased by the Company which are not currently in use at casinos,
planned purchases for slot machines (inventory leased to others) for 2002
should be significantly less than in 2001.
In April 2002, the Company acquired certain rights to develop software from
its primary supplier of slot machines in exchange for an advance payment on
royalties. The advance royalty payment made by the Company in April 2002 was
approximately $1.6 million and at September 30, 2002, the advance royalty
payment was approximately $1.2 million.
SHARE REPURCHASE PLAN
On August 13, 2002 the Company's Board of Directors authorized the purchase
of up to $2.0 million of the Company's common stock. The purchases will be made
from time to time in the open market. The timing and actual number of shares to
be purchased will depend on market conditions. During the three months ended
September 30, 2002, the Company repurchased a total of 96,000 shares at an
average price of $2.60. As of September 30, 2002, the Company had approximately
115,000 shares of common stock held in treasury.
42
MIKOHN GAMING CORPORATION
Item 3. - QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
Refer to Part I, Item 7A, of the Company's annual report on Form 10-K for
the fiscal year ended December 31, 2001. There have been no material changes
in market risks since the fiscal year end.
Item 4. - CONTROLS AND PROCEDURES
(a) - Evaluation of Disclosure Controls and Procedures. The Company's
chief executive officer, general counsel and chief financial officer have
evaluated the effectiveness of the Company's disclosure controls and
procedures (as such term is defined in Rules 13a-14(c) and 15d-14(c) under
the Securities and Exchange Act of 1934, as amended (the Exchange Act")) as of
a date within 90 days prior to the filing date of this quarterly report (the
"Evaluation Date"). Based on such evaluation such officers have concluded
that, as of the Evaluation Date, the Company's disclosure controls and
procedures are effective in alerting them on a timely basis to material
information relating to the Company (including its consolidated subsidiaries)
required to be included in the Company's periodic filings under the Exchange
Act.
(b) - Changes in Internal Controls. Since the Evaluation Date there have
not been any significant changes in the Company's internal controls or in
other factors that could significantly affect such controls.
43
MIKOHN GAMING CORPORATION
PART II - OTHER INFORMATION
Item 6 - Exhibits and Reports on Form 8-K
A. Exhibits:
*10.63 Employment agreement dated August 14, 2002 between the
Company and Russel H. McMeekin, Chief Executive Officer.
*10.64 Employment agreement dated August 19, 2002 between the
Company and John M. Garner, Chief Financial Officer.
99.1 Certification Pursuant to Section 906 of the Sarbanes-Oxley
Act of 2002.
* Management contracts and compensation plans
B. Reports on Form 8-K:
A report filed on Form 8-K with the Securities and Exchange Commission
on August 21, 2002 to:
announce the resignation of David J. Thompson as the chief
executive officer of Mikohn Gaming Corporation.
announce the appointment of John M. Garner as the chief
financial officer of Mikohn Gaming Corporation.
disclose the post employment agreement dated August 16, 2002
between the Company and David J. Thompson.
disclose the post employment agreement dated August 13, 2002
between the Company and Don Stevens.
disclose the Loan and Security Agreement by and among Mikohn
Gaming Corporation as borrower and Foothill Capital
Corporation as lender dated as of February 14, 2002.
disclose Amendment Number 1 to Loan and Security agreement
dated August 14, 2002.
A report filed on Form 8-K with the Securities and Exchange Commission
on August 22, 2002 to disclose the Company's common stock
repurchase plan.
A report filed on Form 8-K with the Securities and Exchange Commission
on September 19, 2002 to disclose the Company's presentation at Bear
Stearns conference.
A report filed on Form 8-K with the Securities and Exchange Commission
on September 30, 2002 to disclose the Company's restructuring of its
business operations.
44
SIGNATURE
Pursuant to the requirements of the Securities Exchange Act of 1934, the
Registrant has duly caused this report to be signed on its behalf by the
undersigned thereunto authorized.
MIKOHN GAMING CORPORATION, Registrant
/s/ John M. Garner
----------------------
JOHN M. GARNER
Chief Financial Officer
November 13, 2002
45
CERTIFICATION OF THE CHIEF EXECUTIVE OFFICER
SARBANES-OXLEY SECTION 302
I, Russel H. McMeekin, certify that:
1. I have reviewed this report on Form 10-Q of Mikohn Gaming
Corporation;
2. Based on my knowledge, this report does not contain any untrue
statement of a material fact or omit to state a material fact
necessary to make the statements made, in light of the circumstances
under which such statements were made, not misleading with respect
to the period covered by this report;
3. Based on my knowledge, the financial information included in this
report, and the financial statements on which the financial
information is based, fairly present in all material respects the
financial condition, results of operations, changes in net assets,
and cash flows of the registrant as and for the periods presented in
this report;
4. The registrant's other certifying officers and I are responsible for
establishing and maintaining disclosure controls and procedures (as
defined in Exchange Act Rules 13a-14 and 15d-14) for the registrant
and have:
(a) designed such disclosure controls and procedures to
ensure that material information relating to the
registrant, including its consolidated subsidiaries, is
made known to us by others within those entities,
particularly during this period in which this report is
being prepared;
(b) evaluated the effectiveness of the registrant's
disclosure controls and procedures as of a date within
90 days prior to the filing date of this report (the
"Evaluation Date"); and
(c) presented in this report our conclusions about the
effectiveness of the disclosure controls and procedures
based on our evaluation as of the Evaluation Date;
5. The registrant's other certifying officers and I have disclosed,
based on our most recent evaluation, to the registrant's auditors
and the audit committee of the registrant's board of directors:
(a) all significant deficiencies in the design or operation
of internal controls which could adversely affect the
registrant's ability to record, process, summarize, and
report financial data and have identified for the
registrant's auditors any material weaknesses in
internal controls; and
(b) any fraud, whether or not material, that involves
management or other employees who have a significant
role in the registrant's internal controls; and
6. The registrant's other certifying officers and I have indicated in
this report whether or not there were significant changes in
internal controls or in other factors that could significantly
affect internal controls subsequent to the date of our most recent
evaluation, including any corrective actions with respect to
significant deficiencies and material weaknesses.
Date: November 13, 2002 By: /s/ Russel H. McMeekin
------------------------
Russel H. McMeekin
Chief Executive Officer
46
CERTIFICATION OF THE CHIEF FINANCIAL OFFICER
SARBANES-OXLEY SECTION 302
I, John M. Garner, certify that:
1. I have reviewed this report on Form 10-Q of Mikohn Gaming
Corporation;
2. Based on my knowledge, this report does not contain any untrue
statement of a material fact or omit to state a material fact
necessary to make the statements made, in light of the circumstances
under which such statements were made, not misleading with respect
to the period covered by this report;
3. Based on my knowledge, the financial information included in this
report, and the financial statements on which the financial
information is based, fairly present in all material respects the
financial condition, results of operations, changes in net assets,
and cash flows of the registrant as and for the periods presented in
this report;
4. The registrant's other certifying officers and I are responsible for
establishing and maintaining disclosure controls and procedures (as
defined in Exchange Act Rules 13a-14 and 15d-14) for the registrant
and have:
(a) designed such disclosure controls and procedures to
ensure that material information relating to the registrant,
including its consolidated subsidiaries, is made known to us
by others within those entities, particularly during this
period in which this report is being prepared;
(b) evaluated the effectiveness of the registrant's
disclosure controls and procedures as of a date within 90
days prior to the filing date of this report (the
"Evaluation Date"); and
(c) presented in this report our conclusions about the
effectiveness of the disclosure controls and procedures
based on our evaluation as of the Evaluation Date;
5. The registrant's other certifying officers and I have disclosed,
based on our most recent evaluation, to the registrant's auditors
and the audit committee of the registrant's board of directors:
(a) all significant deficiencies in the design or operation
of internal controls which could adversely affect the
registrant's ability to record, process, summarize, and
report financial data and have identified for the
registrant's auditors any material weaknesses in internal
controls; and
(b) any fraud, whether or not material, that involves
management or other employees who have a significant role in
the registrant's internal controls; and
6. The registrant's other certifying officers and I have indicated in
this report whether or not there were significant changes in
internal controls or in other factors that could significantly
affect internal controls subsequent to the date of our most recent
evaluation, including any corrective actions with respect to
significant deficiencies and material weaknesses.
Date: November 13, 2002 By: /s/ John M. Garner
---------------------
John M. Garner
Chief Financial Officer
47