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1
UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
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FORM 10-K
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[X] ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF
THE SECURITIES EXCHANGE ACT OF 1934
For the fiscal year ended December 31, 1998
COMMISSION FILE NUMBER 1-11460
NTN COMMUNICATIONS, INC.
(EXACT NAME OF REGISTRANT AS SPECIFIED IN ITS CHARTER)
DELAWARE 31-1103425
(STATE OR OTHER JURISDICTION OF (I.R.S. EMPLOYER
INCORPORATION OR ORGANIZATION) IDENTIFICATION NO.)
5966 LA PLACE COURT, CARLSBAD, CALIFORNIA 92008
(ADDRESS OF PRINCIPAL EXECUTIVE OFFICES) (ZIP CODE)
(760) 438-7400
(REGISTRANT'S TELEPHONE NUMBER, INCLUDING AREA CODE)
SECURITIES REGISTERED PURSUANT TO SECTION 12(B) OF THE ACT:
TITLE OF EACH CLASS
COMMON STOCK, $.005 PAR VALUE NAME OF EACH EXCHANGE ON
REDEEMABLE COMMON STOCK WHICH REGISTERED
PURCHASE WARRANTS AMERICAN STOCK EXCHANGE
Indicate by check mark whether the Registrant (1) has filed all reports
required to be filed by Section 13 or 15(d) of the Securities Exchange Act of
1934 during the preceding 12 months (or for such shorter period that the
Registrant was required to file such reports), and (2) has been subject to
filing requirements for the past 90 days.
YES [X] NO [ ]
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Indicate by check mark if disclosure of delinquent filers pursuant to Item 405
of Regulations S-K is not contained herein, and will not be contained, to the
best of Registrant's knowledge, in definitive proxy or information statements
incorporated by reference in Part III of this Form 10-K or any amendment to
this Form 10-K [ ]
The aggregate market value of the Common Stock held by non-affiliates of
Registrant as of March 26, 1999, computed by reference to the closing sale price
of the Common Stock on the American Stock Exchange, was approximately
$18,308,497. (All directors and executive officers of Registrant are considered
affiliates for this purpose.)
As of March 26, 1999, Registrant had 28,086,306 shares of Common Stock, $.005
par value, issued and outstanding.
DOCUMENTS INCORPORATED BY REFERENCE
Not Applicable
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TABLE OF CONTENTS
Item Page
Part I
1. Business 4
2. Properties 15
3. Legal Proceedings 15
4. Submission of Matters to a Vote of Security Holders 17
Part II
5. Market for Registrant's Common Equity and Related Stockholder Matters 17
6. Selected Financial Data 18
7. Management's Discussion and Analysis of Financial Condition and Results of
Operations 19
7A. Quantitative and Qualitative Disclosures About Market Risk 25
8. Consolidated Financial Statements and Supplementary Data 25
9. Changes in and Disagreements with Accountants on Accounting and Financial
Disclosure 26
Part III
10. Directors and Executive Officers of the Registrant 26
11. Executive Compensation 27
12. Security Ownership of Certain Beneficial Owners and Management 30
13. Certain Relationships and Related Transactions 31
Part IV
14. Exhibits, Consolidated Financial Statement Schedule, and Reports on Form 8-K 32
Index to Consolidated Financial Statements and Schedule F-1
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This Report contains "forward-looking statements" within the meaning
of Section 27A of the Securities Act of 1933 and Section 21E of the Securities
Exchange Act of 1934, including, without limitation, statements that include
the words "believes," "expects," "anticipates," "plans" or similar expressions
and statements relating to the Company's strategic plans, capital expenditures,
industry trends and prospects and the Company's financial position. Such
forward-looking statements involve known and unknown risks, uncertainties and
other factors that may cause actual results, performance or achievements of the
Company to differ materially from those expressed or implied by such
forward-looking statements. Although the Company believes that its plans,
intentions and expectation reflected in such forward-looking statements are
reasonable, it can give no assurance that such plans, intentions or expectation
will be achieved. Important factors that could cause actual results to differ
materially from the Company's expectations are set forth in this Report.
PART I
ITEM 1. BUSINESS
GENERAL
NTN Communications, Inc. ("NTN" or the "Company") was originally
incorporated in the State of Delaware on April 13, 1984 under the name of Alroy
Industries.
In 1994, the Company formed LearnStar, Inc. ("LearnStar"), which
operated through June 1998 as a wholly-owned subsidiary of NTN. In June 1998,
the Company sold an 82.5% interest in LearnStar to NewStar Learning Systems,
L.L.C. ("NewStar").
In 1994, the Company also formed IWN, Inc. ("IWN"), which serves as
the general partner of IWN L.P., a limited partnership engaged in the
development of interactive technology for gaming applications. IWN has no
business or operations apart from its service as the general partner of IWN
L.P. On April 1, 1998, the Company reached an agreement in principal with
Omnigon, a California corporation, to sell up to 90% of the equity of IWN to
Omnigon on or before May 31, 1998. Omnigon paid the Company $100,000 in April
1998 and an additional $100,000 in May 1998 for the option to acquire IWN under
specific terms. Subsequently, however, the Company terminated negotiations with
Omnigon for the proposed sale of IWN. As agreed, the Company used the
non-refundable payments made by Omnigon to pay the operating expenses of IWN
prior to the cancellation of the proposed transaction. NTN redirected IWN's
business strategy toward the Australian, New Zealand and Asian marketplace, and
building upon its existing venture in that market with IWN Australasia Limited
(IWN-A). NTN and IWN-A, in which NTN holds a 25% equity interest, have agreed
that IWN will provide research and development and technical support for IWN-A
operations over the next several months. IWN-A will fund the development and
support activities.
Unless otherwise indicated, references herein to "NTN" or the
"Company" include NTN and its consolidated subsidiaries.
RECENT DEVELOPMENTS
Recent Management Personnel Changes
In October 1998, the Board of Directors of the Company appointed
Stanley B. Kinsey as Chairman and Chief Executive Officer. Mr. Kinsey has been
a director of the Company since November 1997. Gerald Sokol, Jr., formerly the
Chief Executive Officer, remained as the Company's President and Chief
Financial Officer until January 1999.
In June 1998, Edward C. Frazier, who served as a director of the
Company since August 1996, resigned his position as a director of the Company.
In August 1998, Barry Bergsman was appointed to the Board of Directors.
There can be no assurance that the new management of the Company,
under the supervision of the Board of Directors, will be able to operate the
Company more successfully than prior management or that additional management
changes will not be made in the future.
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Resignation Agreements
In January 1999, Gerald Sokol, Jr., the Company's President and Chief
Financial Officer, resigned as an executive officer and director of the
Company. The Company entered into a Resignation and General Release Agreement
("Resignation Agreement") with Mr. Sokol pursuant to which Mr. Sokol's
Employment Agreement, dated July 1, 1998, was terminated.
Pursuant to the Resignation Agreement, the Company paid $205,850 to
Mr. Sokol in settlement of his prior Employment Agreement and in consideration
of his agreement not to compete with the Company for a period of one year. In
further consideration, the Company paid Mr. Sokol an earned 1998 bonus of
$128,500.
In consideration of the cancellation of Mr. Sokol's February 2, 1998
Option Agreement which granted him the option, vesting over a period of four
years, to purchase an aggregate of 500,000 shares of common stock at an
exercise price of $1.00, the Company granted Mr. Sokol the fully vested right
and option to purchase 125,000 shares of common stock at an exercise price of
$1.00 per share, exercisable at any time prior to 12 months after the January
19, 1999 termination of Mr. Sokol's employment with the Company.
Recent Series B Preferred Stock Exchange Agreement
In October 1997, NTN sold and issued an aggregate of 35,000 shares of
Series B Preferred Stock each to two institutional purchasers (the "Investors")
for a total of $7,000,000. The sale of the Series B Preferred Stock was effected
pursuant to Regulation D under the Securities Act of 1993. The Company paid
$210,000 for financial advisory services in connection with the sale of the
Series B Preferred Stock.
As of October 5, 1998, 14,000 shares of the Series B Preferred Stock
(plus accrued dividends) had been converted into 2,430,000 shares of common
stock of the Company, leaving 56,000 shares of the Series B Preferred Stock
outstanding. On October 5, 1998, NTN entered into an Exchange Agreement with the
Investors pursuant to which they agreed to surrender for cancellation all their
shares of Series B Preferred Stock in exchange for warrants and convertible
notes as described below. Pending their surrender and cancellation, the dividend
rate on the Series B Preferred Stock was increased from 4% to 7% and the
conversion price of the Series B Preferred Stock was fixed at $1.275 per share
consistent with the interest rate and conversion price under the convertible
notes described below.
The Company also agreed to issue each of the Investors a 7%
Convertible Senior Subordinated Note of the Company in a principal amount equal
to the stated value of their Series B Preferred Stock, plus accrued and unpaid
dividends through the date of issuance of the convertible notes.
The convertible notes were issued January 11, 1999 and bear interest
at the annual rate of 7% per annum. Interest is due and payable in quarterly
installments, in arrears, and the entire principal amount will be due and
payable on February 1, 2001. Interest on the convertible notes may be paid in
cash or, at NTN's election, in shares of its common stock valued for this
purpose at 90% of the average closing bid price of the common stock during the
10 trading days preceding the interest payment date.
At any time after a period of 20 consecutive trading days during which
the daily "Market Price" (as defined) of the common stock equals or exceeds
$1.75 (subject to adjustment), the Company may elect upon 45 days prior written
notice to prepay all or any portion of the convertible notes at a price of 105%
of the outstanding principal amount, plus accrued and unpaid interest. The
convertible notes will continue to be convertible, however, at any time prior
to prepayment in full. The convertible notes must be prepaid in connection with
a merger or consolidation of the Company or other "Major Transaction" (as
defined) if the consideration per share of common stock in the Major
Transaction is at least $1.50. In such event, the prepayment price will be 105%
of the outstanding principal amount of the convertible notes, plus accrued and
unpaid interest.
The holders of the convertible notes may convert them at any time, in
whole or in part, at their option. The number of shares of common stock
issuable upon conversion of each convertible note will be determined by
dividing the outstanding principal amount to be converted, plus any accrued and
unpaid interest, by the conversion price then in effect. The conversion price
will be $1.275 per share, subject to adjustment if certain events, including
stock dividends or subdivisions or reclassifications of the common stock or
any sale or issuance of common stock (or of rights or options to subscribe for
or purchase common stock) for no consideration or for a consideration per share
less than the "Average Market Price" (as defined) of the common stock. The
actual number of shares of common stock issuable upon any conversion of the
convertible notes will depend on the conversion price in effect on the relevant
conversion date.
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The convertible notes are subordinate in right of payment to the prior
payment of all "Senior Debt" (as defined). The Company is restricted under the
terms of the convertible notes from incurring any Senior Debt in excess of
$10,000,000 or any other indebtedness (except Senior Debt and "Subordinated
Debt" (as defined)) in excess of $2,000,000 at any time.
The Company will be in default under the convertible notes if it fails
to pay any principal or interest on the convertible notes when due, and in
certain other events, including in the event of a material adverse change in
the condition, financial or otherwise, or operations of the Company as
determined by the holders of the convertible notes in their discretion. If the
Company defaults under the convertible notes, in the discretion of the holders
of the convertible notes, the entire outstanding principal amount of the
convertible notes and all accrued and unpaid interest will become immediately
due and payable in full.
On October 5, 1998, in consideration for their entering into the
Exchange Agreement, NTN issued to each of the Investors a warrant to purchase
500,000 shares of common stock at an initial purchase price of $1.25 per share.
The purchase price of shares of common stock under the warrants will be subject
to reduction based on the future "Market Price" (as defined) of the common stock
as follows: the purchase price will be (i) $0.75, if the daily Market Price on
each day during any 10 consecutive trading days shall be equal to or greater
than $1.75 but less than $2.00; (ii) $0.625, if the daily Market Price on each
day during any 10 consecutive trading days shall be equal to or greater than
$2.00 but less than $2.25; (iii) $0.50, if the daily Market Price on each day
during any 10 consecutive trading days shall be equal to or greater than $2.25
but less than $2.50; (iv) $0.375, if the daily Market Price on each day during
any 10 consecutive trading days shall be equal to or greater than $2.50 but less
than $3.00; (v) $0.25, if the daily Market Price on each day during any 10
consecutive trading days shall be equal to or greater than $3.00 but less than
$4.00; and (vi) $0.005, if the daily Market Price on each day during any 10
consecutive trading days shall be equal to or greater than $4.00. No adjustments
to the purchase price will be made to increase the purchase price in effect at
any time. The warrants are exercisable at any time on or before February 1,
2001. In the event, however, that a "Major Transaction" (as defined in the
convertible notes as described above) occurs, NTN may elect upon 30 days prior
written notice to the warrant holders to accelerate the expiration date of the
warrants so long as the consideration per share of common stock which would be
received by the warrant holders in the Major Transaction exceeds the
then-applicable purchase price per share under the warrants.
The warrants contain certain antidilution provisions that require
adjustments in the purchase price and the number of shares of common stock
purchasable in the event of a stock dividend, subdivision or combination of the
outstanding shares of common stock or in the event of a recapitalization of the
Company and certain similar events. In addition, the exercise price and number
of shares purchasable under the warrants are to be adjusted in the event the
Company issues additional shares of common stock (or rights or options to
subscribe for or purchase common stock) for no consideration, or for a
consideration per share of common stock less than the "Current Market Price"
(as defined) of the common stock under any employee stock option plan or other
employee plan approved by the Company's Board of Directors, provided that the
exercise or purchase price is not less than 85% of the fair market value on the
date of grant. The warrants allow for cashless exercises by means of the
Company's withholding of shares of common stock otherwise issuable to the
holder, which shares are to be valued for this purpose based on the market
price of the common stock at the time.
A registration statement on Form S-3 covering the shares of common
stock issuable upon conversion of the 7% convertible senior subordinated notes
and exercise of the warrants, was declared effective by the Securities and
Exchange Commission on January 8, 1999.
Recent Announcement of New Network
In February 1999, the Company introduced a second Network to be
broadcast for a fee to the Hospitality industry (the "New Network"). Deployment
of the New Network to subscriber locations is scheduled to begin in April 1999.
Beta testing has been in process since late 1998. This New Network will have
all the capabilities of the original NTN Network plus a more television-like
quality in advertisements and games. As part of the rollout of the New Network,
the "Playmaker"(TM) wireless input device has been enhanced in several ways:
(a) updated radio frequency technology mitigates the interference problems
common to the prior series; (b) a larger 8-line LCD display to allow for
several possible future features, including user "chat" from one unit to
another within the host premises and the display of information such as sports
scores and stock quotes; (c) a redesigned keypad conforms to the industry
standard QWERTY keyboard layout as well as utilizing a "play zone" to provide a
dedicated input area for the games (the participants also will use the keyboard
for entering personal information and to utilize the system's chat services)
(d) a longer battery life. Further, the Company has developed enhancements to
its interactive software, including a migration to a Windows(R)-based platform,
to allow full-motion video presentation. In all, the New Network will allow the
presentation of enhanced graphics and a broader array of game concepts, and
will allow advertisers to use video images to sell their products, which is not
possible on the original Network.
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PRINCIPAL SERVICES AND PRODUCTS
Since the Company substantially curtailed funding the operations of
its non-core subsidiary, IWN, the discussions throughout this report are
limited to the Company's core operations. Historical financial information
related to IWN and LearnStar is included as necessary to provide an
understanding of the Company's operations.
NTN develops and produces individual and multi-player interactive
programs for distribution to a variety of media platforms. These interactive
sports and trivia programs permit multiple viewers to simultaneously respond to
and participate with the programming content. NTN has a license arrangement
with the National Football League (NFL) which expires March 31, 2000, as well
as nonexclusive arrangements or agreements with the National Hockey League in
Canada and others, to provide the Company's QB1(R) football game and other
interactive play-along programming in conjunction with live televised
broadcasts. NTN broadcasts a wide variety of popular games, trivia and
informational programming to group viewing locations such as hotels, sports
bars and restaurants through the NTN Network(TM). In addition, NTN brings
multi-player interactive games into consumer households through America Online,
the Internet and interactive television services. Since we distribute our
programs via satellite, cable, telephone and wireless transmission
technologies, we are not dependent on any particular hardware or technical
platform.
NTN currently provides products and services to two principal markets,
each of which is directly related to multi-player interactive entertainment:
o Network Services is the interactive television network (the NTN
Network(TM)) featuring sports and trivia games which are
broadcast to restaurants and other group viewing environments.
o Online/Internet Services are live interactive sports and trivia
games, including those currently broadcast over the NTN
Network(TM), provided via America Online, the Internet and other
third-party providers for the home consumer market.
The following is a brief description of each of the Company's markets:
Network Services - Network Services represents the majority of the
Company's business, providing an interactive television broadcast network
featuring sports, trivia and informational programming to over 2,900
hospitality sites in the U.S. as of December 31, 1998. These sites include
restaurant chains (e.g., TGI Friday's, Damon's, Pizzeria Uno's), local and
regional bowling alleys, pizzerias, sports complexes, taverns and military
bases. Through various platforms including satellite, cable and wireless
transmission sources, Network Services can link its subscribers to encourage
local, regional and national competitions around its programming.
Online/Internet Services - The Company provides to the home consumer
market many of the same services as is available on the NTN Network, via
arrangements with online, cable delivery and internet services.
Online/Internet Services is not dependent on any particular technology
or method of transmission to deliver its programming. In addition to the same
sports and trivia games which are currently broadcast over the NTN Network,
Online/Internet Services includes other multi-player interactive games
expressly designed for the home environment. Currently, revenues are derived
from 1) subscription fees, in which third party companies pay monthly fees for
NTN programming, 2) revenue sharing, in which third party companies pay NTN a
portion of pay-per-play revenue that is generated and 3) information services
in which NTN provides value-added services to third parties. Customers include
AOL, GTE MainStreet and the NFL.
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MARKETING AND DISTRIBUTION OF SERVICES AND PRODUCTS
Network Services. Network Services are provided via the NTN Network,
which currently serves over 2,900 locations ("Locations") throughout all 50
States.
The NTN Network presently features from 14 to 17 hours, depending on
the time zone, of interactive sports and entertainment trivia game programming
on weekdays, with extended programming hours on weekends. The balance of
broadcast time is devoted to a non-audible graphics-based service transmitting
information, including sports scores and upcoming program promotions.
Original programming for the NTN Network is developed and produced at
the Company's corporate offices in Carlsbad, California, for distribution to
Locations. The Company's facilities are equipped with video, satellite and
communications equipment, and multimedia computers. The Company can provide
simultaneous transmission of up to 16 live events for interactive play and a
multitude of interactive games and other programs, allowing distribution of
different programs to customers in different geographical locations.
The Company uses two independent services to distribute NTN
programming via satellite to customers, although it is not dependent upon
either service because there are several other providers that offer similar
services. The Company attempts to use the most effective and least expensive
multiple data transmission techniques to distribute data from the Company's
facilities to customers, including direct connect, internet transmission, and
direct satellite broadcast.
Each Location is furnished with NTN proprietary equipment (a "Location
System") including a personal computer, a satellite data receiving unit
(usually a small satellite dish), and a minimum of five hand-held, portable
keypads ("Playmakers(R)") which players use to make their selections. During
live interactive programs, players participate in the play-along programs using
two television screens. One screen features the live broadcast from the
television network (e.g., ABC's Monday Night Football), while the second screen
displays the NTN Network program. Participants play the game by entering their
selection on Playmakers(R), which transmit a radio signal to the on-site
computer. At the conclusion of the broadcast, scores are calculated and top
scores are sent via phone lines to the NTN broadcast center (the "Broadcast
Center") in Carlsbad, California. Within seconds, rankings for each Location
are tabulated and displayed and rankings and scores for the top Locations are
transmitted back to all Locations via the NTN Network for display. This allows
players to compete not only with other patrons at their Location, but against
all players across the nation who are participating interactively on the NTN
Network. The following diagram depicts the transmissions for a typical
real-time, interactive game via satellite. Customers generally have executed a
one-year contract to obtain the Company's services and pay a monthly fee
generally ranging from $400 to $800.
[GRAPH OF NTN BROADCAST CENTER]
In addition to tabulating Playmaker(R) responses at the Location and
communicating with the Company's Broadcast Center, the Location System can
manipulate screens locally by calling up high-resolution computer generated
graphics and inserting the screens into the broadcast schedule. Accordingly,
the Company can offer both national and local advertising.
Interactive Game Programs. Network Services offers a variety of sports
and entertainment trivia games that challenge players' skill and knowledge and
create significant customer loyalty. An example of interactive sports
programming is QB1(R), the Company's first and most popular game program.
QB1(R) is an interactive football strategy game developed and broadcast under
an exclusive license from the NFL, which tests a player's ability to predict an
offensive team's plays during a live televised football game. Points are
awarded based on the accuracy of the player's prediction, rather than whether
the team scores or advances the ball. The Company broadcasts QB1(R) in
conjunction with every NFL game and selected Canadian Football League and
college football games. The NTN Network presently features the following
interactive sports games programs:
NTN Play-Along Games - Interactive games played in conjunction with
live, televised events. Games include the following:
Game Description
- - ---- -----------
QB1(R) NFL licensed interactive strategy game in
conjunction with live telecasts of
college and professional football games
DiamondBall Interactive strategy game played in
conjunction with live televised Major
league Baseball games
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NTN Fantasy Games - Fantasy league games played in conjunction with
sporting events or rotisserie leagues. Games include the following:
Game Description
- - ---- -----------
Brackets(TM) Basketball or hockey tournament prediction
game
Football Challenge(TM) Weekly selection of winners of college and
professional football games
Survivor(R) Weekly single elimination prediction game
for professional football
Interactive Trivia Game Programs. During trivia game programs, each
Location System simultaneously displays selected trivia questions which are
displayed on the NTN television monitor at each Location. Participants use the
Playmaker(R) to select answers, which are collected, transmitted and tabulated
in a similar manner to NTN's interactive sports games. Participants' scores are
displayed on the dedicated television monitors, along with national, regional
and local rankings, as applicable. While certain of the Company's sports games
are available only during the seasons when the respective sports are played,
trivia game programs allow the Company to offer year-round interactive
programming. The NTN Network generally provides the trivia programming during
evening hours, when Locations, particularly restaurants and taverns, tend to be
busiest. The NTN Network presently features the following interactive trivia
games programs:
NTN Premium Trivia Games - Promotion-oriented weekly game shows that
generally require 1-2 hours of participation. Prizes are awarded to the top
finishers, except where prohibited by law. Games include the following:
Game Description
- - ---- -----------
Trivial Pursuit Live(R) Interactive version of the famous Trivial
Pursuit game - licensed from Hasbro
Interactive.
Playback (TM) Music trivia
Showdown(R) Advanced trivia challenge
SportsIQ(TM) Weekly sports trivia game
Sports Trivia Challenge(R) Advanced sports trivia covering multiple
topics
Spotlight(TM) Entertainment and media based trivia game
(movies, music)
Glory Daze(TM) Trivia game focused on baby boomer topics
NTN Trivia Games - General-themed, standard games typically one-half
hour in length. Games include the following:
Game Description
- - ---- -----------
Brain Buster(R) Interactive trivia game covering esoteric
topics
Countdown(R) Interactive trivia game using word plays
Topix(TM) Theme driven trivia game played under
controlled timing
Wipeout(TM) Interactive trivia game eliminating
incorrect answers
Nightside(R) Adult oriented trivia
Sports Trivia(R) General trivia game covering sports topics
Retroactive(TM) Pop-culture trivia with 60's, 70's and
80's content
Football Weekend Roundup(TM) Football trivia game
Abused News(TM) Humorous trivia game focused on headline
news
Appeteasers(TM) Shorter version of humorous general trivia
game
Jukebox(TM) Music trivia based on category selected by
player
Triviaoke(TM) Music trivia game
Antagonist Trivia with an edge from Heckler's
Online
Zealot Futuristic trivia game from Heckler's
Online
Custom Games - Interactive games created specifically for media
companies such as Capital Cities/ABC for simultaneous broadcast with their live
telecasts.
Game Description
- - ---- -----------
NTN Awards Show(TM) Interactive game played in conjunction
with the Academy
Awards, Grammy Awards and other award shows
NTN Draft Show(TM) Interactive game played in conjunction
with the annual NFL draft
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Since 1987, Network Services has broadcast the NTN Awards Show(TM) to
all Locations in connection with the live Academy Awards telecast. The NTN
Awards Show(TM) contains movie trivia and biographical information on nominees
and allows players to select winners up to the actual announcement and compete
with other players via the NTN Network, in a manner similar to QB1(R).
Approximately 5,000 players participated in NTN's broadcast of the 1999 NTN
Awards Show(TM).
Information Programming. During the hours in which the Company is not
broadcasting interactive games, the Company uses its broadcast network to
transmit sports information as well as NTN Network programming information. The
Company obtains the majority of its sports information (for which it pays a
monthly fee) from Sportsticker wire service, electronically formats the
information and then retransmits it for broadcast to Locations.
Advertising. The NTN Network, in a manner similar to the television
broadcast medium, sets aside a number of minutes of a broadcast hour for
advertising, promotional spots (promoting NTN Network's competitions and
special events), "tune-in spots" (promoting NTN Network programming schedule),
and public service announcements.
The Company has currently set aside 14 minutes each hour for
advertising spots, promotional spots and "tune-in spots." Each spot, which can
be sold, is designed to be 15 seconds in length for a total of 56 spots per
hour. The Company can insert advertising messages into its interactive sports
and trivia programming at any number of Locations. Further, messages can be
broadcast over the NTN Network or custom-tailored for a specific Location or
several Locations. Sponsorships of programs are also available and provide
advertisers with specific premium exposure within a sponsorship program.
The NTN Network's Players Plus(R) ("Players Plus") frequent player
club, numbering over 450,000, offers advertisers an effective tool for market
research. Players Plus members join by entering their name, address, zip code
and identification number into a Playmaker(R), which is then captured at the
NTN Broadcast Center. Members earn points each time they play and also a chance
to win prizes in the monthly Players Plus(R) sweepstakes. Sponsors are capable
of receiving feedback through interaction with customers in the form of
customer surveys on the NTN Network or via email.
Online/Internet Services. The Company offers many of the same services
and programs as seen on the NTN Network to the home consumer market via
Online/Internet Services. NTN's Online/Internet Services are currently
dominated by a relationship with America Online ("AOL") from which NTN derives
the majority of its Online revenues. The existing agreement which runs through
1999 is a fixed monthly amount which has been decreasing incrementally over the
last 2 years. The Company had hoped to make up this staged decrease through
Online advertising and sponsorships. To date, we have not been successful in
this arena. We are aggressively exploring alternative Internet strategies in
conjunction with AOL in addition to opportunities elsewhere including:
broadcasters, portals and Internet content providers. In addition to the AOL
contract, the Company also produces and hosts Online games for various third
parties and portals. Revenues received include development fees and monthly
revenues. The Company's interactive sports and trivia games are maintained on
the Company's servers and are available online 24 hours a day, seven days a
week.
The Company's Online/Internet Services are unique since the programs
are not dependent upon, and consequently no bound by, any particular technology
or method of delivery. Regardless of which technology emerges as the primary
means of delivery to home users, management believes its programming content
will be available to the household.
Online/Internet Services are distributed to online networks, also
known as content distributors. These games, in turn, are made available to
their customer base for a fee. Companies of this type currently include GTE
MainStreet.
The diagram below depicts the transmissions necessary for a consumer
to use the Company's service in his or her home.
[GRAPH OF VIA CABLE/TELEPHONE]
Foreign Licensing. NTN has provided its services in certain foreign
markets through licensing agreements with foreign licensees. Generally, the
Company licenses its products in foreign countries by granting the rights to
use NTN's interactive broadcast technology. NTN provides licensees with
technological know-how and assistance to build a broadcast center, and to
develop interactive products and programs. For many years, NTN has provided
service to customers in Canada through its unaffiliated licensee, Networks
North, Inc.. In 1993, NTN issued a 20-year license to an unaffiliated company
in Australia ("NTN Australasia"), to create the first interactive television
network in Australia and New Zealand. In 1994, NTN issued a license to
MultiChoice Ltd., an unaffiliated company, to develop and operate an
interactive broadcast network in South Africa. The South African licensee
ceased its NTN-licensed operations in March 1998. Although the Company may
continue to engage in selective foreign licensing, these activities are not
expected to contribute significantly to revenues in the foreseeable future.
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MARKETING AND EXPANSION STRATEGY
Network Services. Network Services markets services to customers
primarily through advertising in national trade periodicals, national and
regional industry trade shows, telemarketing, direct mail and direct contact
through field representatives. All sales prospects are organized and tracked
through shared database software. Currently, services are sold through a
regional-based management team that utilizes direct salespersons as well as
independent representatives. The Company believes its in-house sales team will
be more successful in meeting its sales goals.
As discussed under "Recent Developments", in February 1999, the Company
introduced a second Network to be broadcast for a fee to the hospitality
industry. Deployment of the New Network to subscriber locations is scheduled to
begin in April 1999. The Company's plan is to continue to operate the current
network for approximately 18 months after the New Network is launched and allow
customers to convert to the New Network as they desire. Prospective new
customers will be offered the New Network only so that the Company eventually
will be operating only one network.
The Company's future business strategy related to Network Services is
to continue to increase available programming and market to additional group
viewing Locations. In addition, the Company continues to develop additional
revenue sources for Network Services such as local and regional advertising. No
assurance can be given that the Company will be successful in the
implementation of its business strategy.
Online/Internet Services. Since the end-user of Online/Internet
Services is the service provider's customer, the Company relies on the service
provider's marketing efforts to promote its products. However, the Company
works in conjunction with service providers to develop the promotions and
advertisements. For example, service providers such as AOL may include the
Company's game logo on an initial "start-up" screen which millions of its
subscribers can access at no expense to NTN. Subscribers generally pay the
service provider a flat fee or a fee based on the amount of time that the
subscriber has participated with the Company's games and services, and the
service provider pays NTN.
In the future, the Company expects its products to elicit more
exposure from the distributors as a result of increased brand recognition and
continued promotions. NTN will continue to take a proactive position with
respect to marketing products to each distributor to ensure inclusion in as
many of their promotional efforts as possible. The Company expects its direct
marketing costs to continue to be minimal. No assurance can be given as to
whether the Company will be successful in the implementation of its business
strategy.
SOURCES OF REVENUE
The following table sets forth certain information with respect to the
principal sources of the Company's revenues during the years ended December 31,
1998, 1997 and 1996.
YEARS ENDED DECEMBER 31
---------------------------
(Dollars in thousands)
1998 1997 1996
------- ------- -------
Network Services $18,785 19,009 19,269
Online/Internet Services 2,014 3,326 1,811
Advertising Revenue 896 772 1,590
Equipment Sales, net 499 475 1,757
Other Revenue 2,000 2,279 1,284
Network Services. The primary market for Network Services is comprised
of approximately 300,000 taverns and restaurants in North America. Other
potential Locations may also be found among hotels, military bases, college
campuses, hospitals, and other group viewing Locations such as country clubs,
fraternal organizations, and bowling centers.
To date, Network Services' customers have generally been public
viewing locations such as restaurant chains (e.g., TGI Friday's, Damon's,
Pizzeria Uno's), local and regional bowling alleys, pizzerias, sports
complexes, sports taverns and military bases. Many of the Company's customers
such as hotel and restaurant chains have multiple Locations. Locations
generally enter into a one-year broadcast service agreement with the Company
pursuant to which they pay a monthly broadcast fee of approximately $400-800
per Location. The Company currently serves over 2,900 Locations located in all
50 States.
As a percentage of total revenues, Network Services revenues amounted
to 78%, 74% and 75% in 1998, 1997 and 1996, respectively.
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Online/Internet Services. The Company provides its services to online
users pursuant to the agreements with various system providers such as AOL. The
online computer industry remains a fast-growing consumer market in terms of
subscribers. Fees from system providers are individually negotiated. Fees from
AOL are based on the fixed fees set forth in the Company's two year agreement
with AOL which expires in December 1999. Revenue from other service providers
is based on the actual use of the NTN interactive programs by their underlying
customers.
The Company has granted to Networks North, Inc. the exclusive right to
market NTN interactive services to online users in Canada. The Company is
entitled to receive a royalty equal to 25% of any revenues generated from
Canadian online customers. The Company has not received any revenues to date
relating to the Canadian online services, and no assurance can be given that
the Company will receive any such royalties in the future.
As a percentage of total revenue, Online/Internet Services revenues
amounted to 8%, 13% and 7% in 1998, 1997 and 1996, respectively.
Advertising Revenue. The Company sells advertising spots for broadcast
on the NTN Network as well as for Online/Internet Services. Advertisers can buy
time for promotional spots as well as sponsorship of specific events or
programs. As a percentage of total revenue, advertising revenues amounted to
4%, 3% and 6% in 1998, 1997 and 1996, respectively. The Company has retained
two independent advertising agencies to obtain additional advertising revenues
from certain industry sectors. Although the Company is confident in its ability
to attract substantial advertisers to the NTN Network, the advertising revenue
model on which advertising rates are based continues to evolve. No assurance
can be given that advertising revenues will contribute significantly to total
revenues in the foreseeable future.
Equipment Sales, Net. Typically, Location Systems are provided to
customers but ownership is maintained by the Company or is leased from third
parties. The Company sells interactive equipment, particularly Playmakers(R),
to its licensees in Canada and Australia. Equipment is generally sold to
customers with no return rights except in the case of defect. As a percentage
of total revenue, Equipment Sales amounted to 2%, 2%, and 7% in 1998, 1997 and
1996, respectively. Equipment sales are not expected to contribute
significantly to revenues in the foreseeable future.
Other Revenue. Other revenues consist primarily of revenue generated
pursuant to certain license agreements the Company has with independent
licensees, the most significant of which is Networks North, Inc. in Canada.
Pursuant to the license agreement, Networks North, Inc. solicits Locations to
the NTN Network in Canada. The Company provides NTN Network programs to
Networks North, Inc. in exchange for an annual license fee payable in monthly
installments based upon the number of Locations in Canada, which presently
number approximately 535.
RAW MATERIALS
For media platforms such as online services, the Company distributes
its programs to the recipients who maintain their own receiving, translation
and re-broadcasting equipment. Accordingly, the Company has no raw materials or
equipment needs for these customers beyond its own back-end servers.
For the NTN Network, the Location System is assembled from
off-the-shelf components available from a variety of sources, except for the
Playmaker(R) package. The Company is responsible for the installation and
maintenance of the Location Systems. The Playmaker(R) is a hand held ,
49-megahertz radio frequency device used to enter choices and selections by
players of QB1(R) and our other games and programming broadcast via the NTN
Network(TM) and is currently manufactured by a non-affiliated manufacturer in
Taiwan. Customers have experienced certain recurring problems with 49 megahertz
Playmakers(R) related to noise sensitivity and performance of the Playmaker's
rechargeable batteries. Equipment function problems have been a substantial
cause of customer contract terminations in the past. To address these problems,
the Company has designed a 900-megahertz Playmaker(R) in consultation with an
outside engineering firm. The redesigned Playmaker(R) is currently being
manufactured by the manufacturer of the 49-megahertz Playmaker and will be
deployed in the marketplace in conjunction with the launch of NTN's New
Network. There can be no assurance that equipment problems will not occur with
the redesigned Playmakers(R) and the continuance of such problems in the future
could adversely affect the results of operations.
LICENSING, TRADEMARKS, COPYRIGHTS AND PATENTS
The Company's sports games make use of simultaneous telecasts of
sporting events. Where the Company has licenses with various sporting leagues,
the Company is also permitted to utilize the trademarks and logos of national
teams and leagues in connection with the playing of an interactive game.
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The Company is party to an agreement with the NFL, which grants the
Company the exclusive right to use the trademarks and service marks of the NFL
in connection with the playing and marketing of QB1(R). The NFL agreement
grants the Company the exclusive data broadcast rights to conduct interactive
games in conjunction with the broadcast of NFL football games, for which the
NFL receives a royalty based on revenues billed by the Company in connection
with QB1(R) play. The agreement with the NFL expires in March 2000. This most
recent agreement expands the Company's rights to include certain approved
online services to all territories in which such online services are accessible
and significantly includes the Internet. There can be no guarantee that the
Company will be able to renew the agreement in the future. Further, it is
unclear whether non-renewal of the agreement would have a material adverse
effect on the Company.
The Company keeps confidential as trade secrets the software used in
the production of its programs. The hardware used in the Company's operations
is virtually off-the-shelf, except for the Playmaker(R) keypads. The Company
owns copyrights to all of its programs. In addition to the registration of the
trademark for QB1(R), the Company has either received, or is presently applying
for, trademark protection for the names of its other proprietary programming,
to the extent that trademark protection is available for them. The Company's
intellectual property assets are important to the Company's business and,
accordingly, the Company maintains a program directed to the protection of its
intellectual property assets.
SEASONAL BUSINESS
Overall, the Company's business generally is not seasonal. Revenue is
billed monthly as service is provided to customers. However, sales of new
Locations have traditionally been higher in the summer and early fall months
compared to the rest of the year. This trend coincides with the start of the
NFL season in August.
The hospitality industry has historically experienced a relatively
high business failure rate. Likewise, the Company has lost customers due to the
failure of customer businesses; to change in ownership and non-renewal of
contracts, collectively referred to as "churn". The Company's historical
"churn" experience has also been seasonal in that the percentage of churn has
been highest following the completion of the NFL season in February, although
churn occurs in all months. During the Company's operating history,
approximately 25% - 30% of the existing Network Services customers at the
beginning of a year, have churned by the end of that year. The Company has
implemented marketing programs and other efforts to reduce the churn rate,
however no assurance can be given that such efforts will be successful.
Online/Internet Services are provided to consumers via online
distributors such as AOL and GTE Mainstreet. Revenue is primarily a flat
subscription fee to NTN with no seasonality.
WORKING CAPITAL
The discussion under "Liquidity and Capital Resources" included in
Item 7, "Management's Discussion and Analysis of Financial Condition and
Results of Operations", is incorporated herein by reference.
SIGNIFICANT CUSTOMERS
The Company's customers are diverse and varied in size as well as
location. The services are provided point to multi-point so that the Company is
not dependent on any one customer. The Company does not have any individual
customer who accounted for 10% or more of its consolidated revenues in 1998,
1997 or 1996.
BACKLOG
The Company historically has not had a significant backlog at any time
because the Company normally can deliver and install new Location Systems
within the delivery schedule requested by customers (generally, within two to
three weeks). With the introduction of the New Network, however, a backlog of
sales exists. In February 1999, the Company began to accept pre-orders of the
New Network to both new customers and existing customers. Deployment of the New
Network is scheduled to begin in April 1999. As of March 26, 1999 a total of
approximately 290 contracts, some of which are pending final credit approval,
had been back-logged related to the New Network. For other Online Services,
there is no backlog because services are generally distributed point to
multi-point and the Company does not have to provide specific equipment to the
customer, making it relatively simple to add new customers without any
significant delay.
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GOVERNMENT CONTRACTS
The Company provides its distribution services to a small number of
government agencies (usually military base recreation units); however, the
number of government customers is small compared to the Company's overall
customer base. Contracts with government agencies are provided under
substantially the same terms and conditions as other corporate customers.
COMPETITIVE CONDITIONS
The Interactive Entertainment industry is still evolving, but
currently may be divided into three major segments: (1) media distribution
services such as online services, telephone companies and cable television
companies and the NTN Network; (2) equipment providers such as computer and
peripheral equipment manufacturers; and (3) content and programming providers,
such as movie studios, NTN and software publishers. The Company does not act as
a direct provider of equipment to consumers. The Company operates as a media
distribution service through its own NTN Network. Also, the Company is a
program provider to an array of other media distribution services to consumers
utilizing a variety of equipment and delivery mechanisms.
The Company competes with other companies for total entertainment
dollars in the marketplace. The Company's programming competes generally with
broadcast television, pay-per-view, and other content offered on cable
television. On other mediums, the Company competes with other content and
services available to the consumer through online services. With the entrance
of motion picture, cable and TV companies, competition in the interactive
entertainment and multimedia industries will likely intensify in the future. In
January 1999, The Walt Disney Company introduced interactive programming
broadcast in conjunction with live sporting and other events which may compete
directly with QB-1(R) and our other programming. Moreover, the expanded use of
online networks and the Internet provide computer users an increasing number of
alternatives to video games and entertainment software. NTN seeks to compete by
providing high quality products at reasonable prices, thereby establishing a
favorable reputation among frequent buyers. There can be no assurance, however,
that NTN can compete effectively. The Company's programming is interactive in
nature, but is distinguishable from other forms of interactive programming by
its simultaneous multi-player format and the two-way interactive features.
Presently, the technological capabilities of transmitting entertainment
products to the consumer exceed the supply of quality programming and services
available on the existing delivery systems. The Company is able to utilize the
wide variety of services available for transmission of entertainment products
to the consumer by forming strategic alliances with service providers to supply
the Company's programs for re-transmission. The Company's programming is
available to the consumer over a multitude of media platforms and delivery
systems.
Network Services. Currently, Network Services on the NTN Network have
no competitors that furnish live, multi-player interactive entertainment
similar in scope and nature. Although the Company has no direct competitors in
this area, it does compete for total entertainment dollars in the marketplace.
Other forms of entertainment provided in public eating and drinking
establishments include music-based systems and cable and pay-per-view
television. However, evidence provided by customers indicates that patrons are
inclined to stay longer and consume more food and drink when NTN Network
interactive games are offered as the main source of entertainment. Accordingly,
Network Services customers generally tend to view these services as a profit
generator rather than a cost center.
Online/Internet Services. In the Online/Internet Services market, the
consumer has many entertainment options from which to choose, ranging from
cable television to telephone based services to computer online providers and
the Internet. The Company offers live, multi-player games and services which
are available to multiple interactive platforms in the home. Also, the Company
competes for a share of the total home entertainment dollars against broadcast
television, pay-per-view and other content offered on cable television. The
Company also competes with other programming available to consumers through
online services such as AOL. Cable television, in its various forms, provides
consumers the opportunity to make viewing selections from anywhere between 30
to 100 free and pay channels, thus limiting the amount of time devoted to any
particular channel. For the most part, cable television is predominantly a
passive medium, and does not offer the viewer the opportunity to participate in
its programming, and even less frequently, does it offer programming designed
for active participation. Online providers, such as AOL, can provide literally
thousands of options for content and entertainment, however, such online
services have traditionally been confined to that company's subscriber base.
Interaction among viewers is thus limited to the particular program as offered
only on the specific online service. The Company offers consumers the
opportunity to participate and compete against other viewers who are seeing the
identical program over several different technological media, including
interactive television, personal computers and/or the NTN Network.
RESEARCH AND DEVELOPMENT
During 1996, 1997 and 1998, the Company incurred approximately
$3,396,000, $1,600,000, and $714,000, respectively related to Company-sponsored
research and development projects, including projects performed by consultants
for the Company. In 1998, research and development efforts related to the
development of the New Network. The decrease in research and development from
1997 was due to certain research and development endeavors which began in 1997
that were completed by the end of 1997.
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These efforts included initial design and implementation of the Company's
website, redesign of the America Online site and content and other production
for third parties.
The Company has previously experienced problems in the performance of
its 49 megahertz Playmaker(R) device. In an effort to address these equipment
function problems, the Company developed a new 900 megahertz Playmaker(R)
device to augment its existing 49 megahertz Playmaker(R) device. The new device
is expected to be more reliable and will be deployed commercially in
conjunction with the launch of NTN's New Network. Further, the Company has
developed enhancements to its interactive software including a migration to a
"Windows"-based platform and continued research into new and enhanced graphics.
The Company continuously evaluates various methods of transmitting its programs
and services. There is no assurance that the Company will successfully complete
current or planned development projects or will do so within the prescribed
time parameters and budgets. There can be no assurance, furthermore, that a
market will develop for any product successfully developed.
The Company works closely with independent user groups in an attempt
to develop new and enhanced services and products in response to customer
needs.
GOVERNMENT REGULATIONS
The cost of compliance with federal, state and local laws has not had
a material effect upon the Company's capital expenditures, earnings or
competitive position to date.
On June 16, 1998 the Company received FCC approval for its new 900 MHz
Playmaker(R)keypad. The 900 MHz Playmaker is an integral component of the
Company's New Network.
EMPLOYEES
The Company and its subsidiaries employ approximately 124 people on a
full- time basis and 25 people on a part-time basis, and also utilize
independent contractors for specific projects. In addition, the Company retains
a number of non-affiliated programming and systems consultants. It is expected
that as the Company expands, additional employees and consultants will be
required. The Company believes that its present employees and consultants have
the technical knowledge necessary for the operation of the Company and that it
will experience no particular difficulties in engaging additional personnel
with the necessary technical skills when required. None of the Company's
employees are represented by a union and the Company believes its employee
relations are satisfactory.
ITEM 2. PROPERTIES
In 1997, the Company sold its interest in a limited liability company
that owns "The Campus", the three-building complex that houses the Company's
headquarters. The Company continues to lease space in The Campus pursuant to a
six-year lease for approximately 39,000 square feet of office and warehouse
space. The lease expires in June 2001 and the monthly rent is approximately
$37,000. In September 1998, the Company, as sublessor, entered into a sublease
agreement for office space in The Campus with WinResources Computing, Inc., as
sublessee. The sublease expires in June 2001 and the monthly rent is
approximately $12,200.
The Company also leased approximately 4,000 square feet of warehouse
space near the corporate headquarters, under a lease that expired in September
1998, at a rent of approximately $3,000 per month. The Company did not renew
this lease and does not anticipate leasing additional space in the next year.
ITEM 3. LEGAL PROCEEDINGS
In February 1998, the Company completed its previously announced
settlement of a class-action lawsuit pending against the Company since 1993.
The terms of the settlement were as follows: A settlement fund was established
consisting of $400,000 in cash plus 565,000 warrants to purchase the Common
Stock of the Company ("Settlement Warrants"). Each Settlement Warrant has a
term of three years from February 18, 1998. The Settlement Warrants were issued
on February 18, 1998 and entitle the holder of a Settlement Warrant to purchase
a share of Common Stock of the Company at a price of $0.96. During the period
from February 18, 2000 to February 18, 2001, the holders of Settlement Warrants
have the right, but not the obligation, to put the Settlement Warrants to the
Company for repurchase at a price of $3.25 per Settlement Warrant (the "Put
Right"), provided, however, that this Put Right shall expire, if at any time
after February 18, 1998 the closing price per share of the Company's Common
Stock on the American Stock Exchange is more than $4.22 on any seven trading
days, whether consecutive or not. Upon expiration of the Put Right, the Company
shall have no further obligation to repurchase the Settlement Warrants. In no
event shall the Company have any obligation to repurchase its Common Stock.
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Although the Put Right may expire based on the closing price of the
Common Stock over the next two years, the Company has recognized the potential
liability related to the Put Right. Accordingly, a charge of $1,291,000 for the
present value (discounted at 15%) and related interest expense for the Put
Right was recognized in 1996. The difference between the amount expensed and
the total potential liability, $545,000, will be accreted as interest expense
and charged over the period from September 1996 until February 18, 2000. In
1998, a total of $154,000 was charged to interest expense related to the Put
Right.
On April 18, 1995, a class action lawsuit was filed in United States
District Court for the Southern District of California entitled Lenora Isaacs,
on behalf of herself and all others similarly situated vs. NTN Communications
and Patrick J. Downs. The complaint alleged violations of federal securities
laws based upon the Company's projections for the fourth quarter of 1994 and
for the 1994 fiscal year, and further alleged that certain of the Company's
insiders sold stock on information not generally known to the public. In
September 1998, the Company issued a total of 1,200,000 shares of common stock,
issued at a fixed price of $1.00 per share, pursuant to the settlement of this
class action lawsuit which was approved by the court in January 1998.
On June 11, 1997, the Company was included as a defendant in a
class-action lawsuit, entitled Eliot Miller and Jay Iyer, shareholders on
behalf of themselves and all others similarly situated vs. NTN Communications,
Inc., Patrick J. Downs, Daniel C. Downs, Donald C. Klosterman, Ronald E. Hogan,
Gerald P. McLaughlin and KPMG Peat Marwick LLP, filed in the United States
District Court for the Southern District of California. The complaint alleges
violations of state and federal securities laws based upon purported omissions
from the Company's filings with the Securities and Exchange Commission. More
particularly, the complaint alleges that the directors and former officers
devised an "exit strategy" to provide themselves with undue compensation upon
their resignation from the Company. The plaintiffs further allege that
defendants made false statements about, and failed to disclose, contingent
liabilities (guaranteed compensation to management and the right of an investor
in IWN to require the Company to repurchase its investment during 1997) and
phantom assets (loans to management) in the Company's financial statements and
KPMG LLP's audit reports, all of which served allegedly to inflate the trading
price of the Company's Common Stock.
On November 7, 1997, the court granted KPMG Peat Marwick LLP's motion
to dismiss the plaintiffs' claims against it pursuant to Rule 12(b)(6) of the
Federal Rules of Civil Procedure for failure to state a claim upon which relief
may be granted.
On July 3, 1997, the Company filed a motion to dismiss the lawsuit. On
November 6, 1997, the Court dismissed all of the plaintiff's state law causes of
action against the Company but retained the plaintiff's federal law causes of
action. In February 1998, the attorneys representing the plaintiffs in this
litigation filed an action entitled Dorman vs. NTN Communications, Inc. in the
Superior Court of San Diego County, California in which they essentially replead
the state law causes of action dismissed in the federal lawsuit. The Company has
filed a motion for summary judgment in each action. In March 1999, the Court
issued a telephonic ruling granting the Company's motion in the Dorman matter;
however, judgment has not yet been entered. In the Company's opinion, the claims
in these two lawsuits are covered by directors and officers liability insurance
providing $15,000,000 of coverage. The Company has submitted these claims to its
directors and officers liability insurance underwriters, who have accepted such
claims subject to reservation of rights. The Company's deductible under the
insurance policy is $200,000.
The Company's Playmaker(R) systems which are installed in over 2,900
hospitality locations throughout the United States utilize the MS-DOS operating
system software. The Company does not have a license to use MS-DOS for this
purpose, and, in September 1998, the Company received correspondence from
counsel to Microsoft Corporation and related inquiries from the Business
Software Alliance and Software Publishers Association, two industry
associations, requesting information regarding the Company's use of MS-DOS. In
response, the Company conducted an internal audit and produced the results to
counsel to the three entities. Based on the audit results, it has been
determined that the Company has insufficient licensing for the MS-DOS in use in
the hospitality locations. Settlement negotiations are currently underway in an
effort to resolve this matter with the software publishing entities. It is
possible that the Company will be required to pay Microsoft for its prior use of
MS-DOS, and at present the Company cannot predict what effect this may have on
its future financial condition or results of operations. The Company believes
that its accrual for legal costs is adequate to cover any potential settlement
required to be paid.
The Company has been involved as a plaintiff or defendant in various
previously reported lawsuits in both the United States and Canada involving
Interactive Network, Inc. ("IN"). With the court's assistance, the Company and
IN have been able to reach a resolution of all pending disputes in the United
States and have agreed to private arbitration regarding any future licensing,
copyright or infringement issues which may arise between the parties. There
remain two lawsuits involving the Company, its unaffiliated Canadian licensee
and IN, which were filed in Canada in 1992. No action was taken in the Canadian
litigation until May 1998, when IN gave notice of its intention to proceed. In
November 1998, the Company and its Canadian licensee filed a counterclaim
against IN. These actions affect only the Canadian operations of the Company
and its Canadian licensee and do not extend to the Company's operations in the
United States or elsewhere. Although they cannot be estimated with certainty,
any damages the Company might incur are not expected to be material.
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In November, 1997, a former advertising manager brought a suit against
the Company alleging breach of an alleged employment contract and age
discrimination. The age discrimination claims were subsequently dismissed. The
court rendered judgment in the amount of $167,000 plus interest in favor of the
plaintiff. The Company has agreed to pay this judgment over a 12 month period
beginning March 5, 1999.
In March, 1998, the Company's former independent representative in the
State of Georgia filed suit against the Company in Atlanta, Georgia alleging
wrongful termination of its distributor agreement and other breaches of such
agreement. The Company has filed a motion to amend to bring a counterclaim
seeking damages for fraud and conversion against the former sales
representative. It is not anticipated at the present time that the outcome of
this lawsuit will have a material adverse effect on the financial position,
results of operations and liquidity of the Company.
In March 1998, the Company entered into a Compromise Settlement and
Mutual Release Agreement in settlement of a prior arrangement between the
Company and a former independent representative under which he and companies
affiliated with him acted as independent distributors of the NTN Network.
Pursuant to the Settlement Agreement, the Company paid $156,000 in cash and
issued 175,000 shares of common stock to the former independent representative.
There can be no assurance that any or all of the foregoing claims will
be decided in favor of the Company, which is not insured against all claims
made. During the pendency of such claims, the Company will continue to incur
the costs of defense of same. Other than set forth above, there is no material
litigation pending or threatened against the Company.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
The Company held its annual meeting of stockholders on August 28,
1998. The matter voted upon at such meeting was the election of two directors
to the Board of Directors.
The voting for the proposal was as set forth in the table below.
VOTES VOTES
Elections of Directors "FOR" "AGAINST" * ABSTENTIONS**
---------------------- ---------- ----------- -------------
Esther L. Rodriquez 22,839,100 404,752 --
Robert M. Bennett 22,839,599 404,253 --
* As to election of directors, represents shares where authority to vote for
the specified nominee was withheld.
** Abstentions include "broker non-votes", which are abstentions by nominee
holders on behalf of beneficial owners who have given no instruction to the
nominee holder. When no such instructions are received, such nominee holders
have no authority to vote even though present or represented at the meeting.
PART II
ITEM 5. MARKET FOR REGISTRANT'S COMMON EQUITY AND RELATED STOCKHOLDER
MATTERS
The Company's common stock and warrants are listed on the American
Stock Exchange ("AMEX") under the symbols "NTN" and "NTNW", respectively.
Trading of the Company's redeemable common stock purchase warrants commenced on
the AMEX in February 1998. Set forth below are the high and low sales prices
for the common stock and warrants as reported by the AMEX for the two most
recent fiscal years.
Common Stock Warrants
1999 LOW HIGH LOW HIGH
---- --- ---- --- ----
First Quarter $0 - 9/16 $2 $1 - 7/8 $2 - 1/2
(through 3/15/99)
1998 LOW HIGH LOW HIGH
---- --- ---- --- ----
First Quarter $0 - 5/16 $1 - 1/16 $0 - 7/8 $1 - 5/16
Second Quarter 0 - 11/16 2 - 5/8 $0 - 1/2 $1 - 7/8
Third Quarter 0 - 5/8 1 - 1/4 $1 - 1/16 $1 - 1/4
Fourth Quarter 0 - 5/16 0 - 13/16 $1 - 1/16 $1 - 1/2
1997 LOW HIGH
---- --- ----
First Quarter $3 - 3/8 $4 - 7/16
Second Quarter 2 - 5/16 4 - 3/4
Third Quarter 2 - 3/16 4 - 7/16
Fourth Quarter 1 2 - 1/4
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On March 26, 1999, the closing price for the Common Stock reported on
the AMEX was $0.6875. On that date, there were approximately 2,083 record
owners of the Common Stock.
To date, the Company has not declared or paid any cash dividends with
respect to its Common Stock, and the current policy of the Board of Directors
is to retain earnings, if any, after payment of dividends on the outstanding
preferred stock to provide for the growth of the Company. Consequently, no cash
dividends are expected to be paid on the Company's common stock in the
foreseeable future. Further, there can be no assurance that the proposed
operations of the Company will generate the revenues and cash flow needed to
declare a cash dividend or that the Company will have legally available funds
to pay dividends.
ITEM 6. SELECTED FINANCIAL DATA
The following tables furnish information with respect to selected
consolidated financial data of the Company over the past five years.
STATEMENT OF OPERATIONS DATA
(in thousands, except per share data)
YEARS ENDED DECEMBER 31,
------------------------------------------------------------
1998 1997 1996 1995 1994
-------- -------- -------- -------- --------
Total revenue $ 24,194 25,861 25,711 20,082 16,146
Total operating expenses 27,641 38,668 51,566 25,508 16,102
-------- -------- -------- -------- --------
Operating income (loss) (3,447) (12,807) (25,855) (5,426) 44
Other income, net 1,654 350 1 1,409 412
-------- -------- -------- -------- --------
Net income (loss) from continuing
operations (1,793) (12,457) (25,854) (4,017) 456
Net income (loss) from
discontinued operations -- -- (1,317) 69 251
Gain on sale of discontinued
operations -- -- 4,219 -- --
Income taxes -- -- -- -- --
-------- -------- -------- -------- --------
Net income (loss) $ (1,793) (12,457) (22,952) (3,948) 707
======== ======== ======== ======== ========
Accretion of beneficial conversion
feature of preferred stock (758) -- -- -- --
-------- -------- -------- -------- --------
Net income (loss) available to
common shareholders $ (2,551) (12,457) (22,952) (3,948) 707
======== ======== ======== ======== ========
Basic and diluted net income
(loss) per common share:
Continuing operations $ (.10) (0.55) (1.15) (0.19) 0.02
Discontinued operations -- -- 0.13 -- 0.01
-------- -------- -------- -------- --------
Net income (loss) $ (.10) (0.55) (1.02) (0.19) 0.03
======== ======== ======== ======== ========
Weighted average equivalent
shares outstanding 26,078 22,696 22,568 20,301 21,124
======== ======== ======== ======== ========
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BALANCE SHEET DATA
(in thousands)
DECEMBER 31,
---------------------------------------------------
1998 1997 1996 1995 1994
------- ------- ------- ------- -------
Total current assets $ 8,131 8,390 10,655 26,009 18,844
Total assets $16,767 20,271 28,504 41,221 31,239
Total current liabilities $ 5,731 8,373 12,775 6,541 4,958
Total liabilities $ 8,442 11,545 18,282 7,770 5,782
Shareholders' equity $ 8,325 8,726 10,222 33,451 25,457
ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS
GENERAL
Management's discussion and analysis of financial condition and
results of operations should be read in conjunction with the selected financial
data and the consolidated financial statements and notes thereto included
elsewhere herein.
RESULTS OF OPERATIONS
Following is a comparative discussion by fiscal year of the results of
operations for the three years ended December 31, 1998. The Company believes
that inflation has not had a material effect on its operations to date.
YEAR ENDED DECEMBER 31, 1998 AS COMPARED TO THE YEAR ENDED DECEMBER 31, 1997
The Company incurred a net loss of $12,457,000 for the year ended
December 31, 1997 as compared to a net loss of $1,793,000 for the year ended
December 31, 1998. The 1998 results includes an operating loss of $3,447,000
which was partially offset by a gain of $1,643,000 from the sale of an 82.5%
interest in a subsidiary. The 1997 results included charges totaling $4,998,000
related to a reorganization, a $2,543,000 charge related to shrinkage and
obsolete equipment and a $905,000 gain from the sale of an interest in real
estate.
Total revenues decreased from $25,861,000 in 1997 to $24,194,000 in
1998 due to declines in network services, Online/Internet services and other
revenues.
Network Services decreased 1% from $19,009,000 in 1997 to $18,785,000
in 1998 due primarily to a reduction in average billing rates during 1998.
Online/Internet services decreased 39% from $3,326,000 in 1997 to $2,014,000 in
1998 largely due to non-recurring revenue of $1,000,000 in 1997 from AOL
related to AOL's termination of its prior contract with the Company and the
recognition of revenue for production services in 1997 that did not recur in
1998. Advertising revenues increased 16% during the current year from $772,000
in 1997 to $896,000 in 1998 as a result of an increase in the number of
commercial spots sold.
Equipment Sales, net of cost of sales, during the current year
increased 5% from $475,000 in 1997 to $499,000 in 1998. Equipment sales in the
past have included sales to foreign licensees, which are subject to
outside influences and can occur unevenly throughout the year. Equipment sales
have been highly volatile in the past and are expected to remain so, as they
are dependent on the timing of expansion plans of the Company's foreign
licensees. In June 1998, the Company sold 82.5% of its interest in the
LearnStar operations. As a result, equipment sales to educational customers
are expected to decline in the future.
Direct Operating Expenses consist of direct incremental service costs
directly related to revenue sources. Direct Operating Expenses decreased 28%
from $6,565,000 in 1997 to $4,715,000 in 1998. The decrease relates to a
reduction in site visit fees, commissions and other field expenses due to (i)
the Company's decreased reliance on independent representatives in favor of
employed field and marketing personnel and (ii) a revision, effective January 1,
1998, in the Company's commission and bonus structure for all field personnel.
Selling, General and Administrative Expenses decreased 28% from
$16,244,000 in 1997 to $11,767,000 in 1998. Included in Selling, General and
Administrative Expenses for 1997 are charges for the management reorganization
totaling $4,813,000 and costs associated with the abandoned merger with GTECH
Corporation of $376,000. Exclusive of these charges, Selling, General and
Administrative Expenses increased $712,000 or 6%. This increase is primarily
due to an increase in employee-related costs associated with the shift from
independent representatives to employed field and marketing staff.
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Litigation, Legal and Professional expenses increased from $808,000 in
1997 to $1,658,000 in 1998. In the fourth quarter of 1997, the Company reduced
the accrual for a legal settlement which reduced legal expense by $1,350,000 as
result of this change in estimate. Expenses for 1998 include legal expenses
incurred in the ordinary course of business, as well as litigation expenses and
accruals.
Stock-based compensation decreased 89% from $3,205,000 in 1997 to
$353,000 in 1998. Stock-based compensation charges result from the issuance,
extension or modification of warrants or options to non-employees and can vary
from period to period. Charges in 1997 include $1,450,000 that resulted from
extension of the exercise period and reductions in the exercise price of
warrants owned by certain former officers pursuant to the management
reorganization in 1997.
Depreciation and Amortization Expense increased 21% from $5,305,000 in
1997 to $6,412,000 in 1998 due to additions of broadcast equipment and fixed
assets.
Bad Debt expense relates to trade receivables for Network Services,
Online/Internet services and advertising customers. Bad Debt expense decreased
42% from $1,462,000 in 1997 to $850,000 in 1998. The Company began to
experience reliability problems with its equipment in NTN Network Locations.
These problems led to an increase in bad debt expense in 1996 and 1997. In
1998, the equipment problems stabilized, resulting in a lower bad debt expense.
Equipment Charges decreased 91% from $2,543,000 in 1997 to $240,000 in
1998. Equipment Charges consist of charges for obsolescence and shrinkage of
the Company's stock of broadcast equipment. The Company performs periodic
reviews of its broadcast equipment. In connection with these reviews, the
Company identified equipment shrinkage and obsolescence primarily related to
terminated sites.
Research and development expenses decreased 55% from $1,600,000 in
1997 to $714,000 in 1998. The decrease was due to certain research and
development endeavors which began in early 1997 that were completed by the end
of 1997. These efforts included initial design and implementation of the
Company website, redesign of the America Online site and content and other
production for third parties. For 1998, the Company's research and development
efforts related to the development of the New Network.
Other Income (Expense) increased from $350,000 in 1997 to $1,654,000 in
1998. Other income in 1998 included a gain of $1,643,000 related to the sale of
an 82.5% interest in LearnStar in June 1998. Other income in 1997 included a
gain of $905,000 related to the sale of the Company's interest in an office
building. Interest Expense decreased 64% from $793,000 in 1997 to $289,000 in
1998 due to interest expense recorded in 1997 in conjunction with the Symphony
Put Option which was paid in full in 1997.
YEAR ENDED DECEMBER 31, 1997 AS COMPARED TO THE YEAR ENDED DECEMBER 31, 1996
In March 1997, the Company announced a reorganization (the
"Reorganization") of its executive management personnel as previously reported.
Charges for severance and other costs associated with the management
reorganization recorded in 1996 were $5,092,000. A charge for severance and
other costs associated with the management reorganization and other personnel
changes was $4,998,000 in 1997, including $185,000 of accreted interest expense.
The Company recorded the charges in 1996 and 1997 in accordance with Emerging
Issues Task Force Issues No. 94 - 3.
The Company incurred a net loss of $12,457,000 for the year ended
December 31, 1997 compared to a net loss of $22,952,000 for the year ended
December 31, 1996. The 1996 results include a net gain from the impact of
discontinuing the operations of the Company's former subsidiary, New World
Computing, Inc., of $2,902,000. The 1997 results include charges totaling
$4,998,000 related to the Reorganization and a $2,543,000 charge related to
shrinkage and obsolete equipment.
For the year ended December 31, 1997, total revenues increased
slightly from $25,711,000 to $25,861,000, primarily as a result of modest
growth in the Company's primary services which offset a significant decrease in
equipment sales and reduced advertising revenue. Since the Company no longer
entered into sale and leaseback financing arrangements, equipment sales have
became a minor revenue source in 1997. Total revenue for the year ended
December 31, 1997, excluding Equipment Sales, net, increased 6% over the prior
year.
Network Services decreased 1% from $19,269,000 in 1996 to $19,009,000
in 1997. The decrease was primarily due to a revised pricing structure.
Online/Internet Services increased 84% from $1,811,000 in 1996 to $3,326,000 in
1997 largely due to non-recurring revenue of $1,000,000 realized in 1997 from
AOL related to AOL's termination of its prior contract with the Company,
recognition of revenue for production services related to a large development
contract of $380,000 in 1997 and a modest increase in the basic services to
online customers. Although the hours of service have remained relatively
constant, the pricing structure
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20
continued in a downward pattern. Advertising revenues decreased 51% from
$1,590,000 in 1996 to $772,000 in 1997 due to a lesser number of commercial
spots sold.
Equipment Sales, net of cost of sales, decreased 73% from $1,757,000
in 1996 to $475,000 in 1997. Equipment Sales in the past included large sale
and leaseback transactions. In late 1996, the Company decided to no longer
enter into sale and leaseback financing arrangements. In 1997, equipment sales
primarily represented sales to educational customers through the LearnStar
subsidiary.
Operating Expenses consist of direct incremental service costs
directly related to revenue sources. Operating Expenses increased 7% from
$6,124,000 in 1996 to $6,565,000 in 1997. The increase in costs was primarily
due to a modest expansion in the number of subscribers and online services
contracting for services, increased field service costs, net of a reduction in
the sales commissions.
Selling, General and Administrative Expenses increased from
$15,259,000 to $16,244,000. Included in Selling, General and Administrative
Expenses for 1997 were charges for the management reorganization totaling
$4,813,000 and costs of $376,000 associated with the abandoned merger with
GTECH Corporation. The 1996 results included a charge of $840,000 related to a
charge of severance and a change in estimate for deferred advertising costs of
$222,000. Exclusive of these charges, Selling, General and Administrative
Expenses decreased $3,142,000, or 22%. This decrease was primarily due to
trimming the workforce and cost controls implemented in 1997. Charges in 1997
included $1,450,000 that resulted from extension of the exercise period and
reductions in the exercise price of warrants owned by certain former officers
pursuant to the management reorganization.
Stock-based compensation increased 68% from $1,910,000 in 1996 to
$3,205,000 in 1997. Charges in 1997 included $1,450,000 that resulted from
extension of the exercise period and reductions in the exercise price of
warrants owned by certain former officers pursuant to the management
reorganization in 1997.
Litigation, Legal and Professional expenses decreased from $6,484,000
in 1996 to $808,000 in 1997. The 1996 amount included charges for the settlement
of litigation of approximately $4,400,000. Charges for litigation in 1997 were
approximately $1,000,000. Included in the charges for 1996 were $2,800,000 for
the settlement of certain litigation, which was subsequently settled in 1997 for
$1,450,000. In the fourth quarter of 1997, the Company reduced the accrual for
the settlement and accordingly reduced its legal expense by $1,350,000 as a
result of the change in estimate related to the settlement.
Depreciation and Amortization Expense increased 134% from $2,265,000
to $5,305,000 due to depreciation charges resulting from the Company's buyout
of equipment lease commitments late in 1996. The Company now owns most of its
Broadcast equipment. Equipment Lease Expense decreased 86% from $6,837,000 to
$936,000 also due to the buyout of equipment leases in late 1996.
Bad Debt expense decreased 21% from $1,840,000 in 1996 to $1,462,000
in 1997. Beginning in 1996, the Company began to experience reliability
problems with its equipment in NTN Network Locations, which led to an increase
in bad debt expense as customers withheld payments. In 1997, the equipment
problems stabilized.
Equipment Charges increased 3% from $2,478,000 in 1996 to $2,543,000
in 1997. Equipment Charges consist of charges for obsolescence and shrinkage of
the Company's broadcast equipment. The Company performs periodic reviews of its
broadcast equipment. In connection with these reviews, the Company identified
equipment shrinkage and obsolescence primarily related to terminated sites.
Other Income (Expense) increased from $1,000 in 1996 to $350,000 in
1997. Interest Expense increased 103% from $390,000 to $793,000 largely due to
interest charges related to the repurchase of an the shares of IWN from
Symphony Management Associates, L.L.C., interest paid to GTECH Corporation, and
accretion of interest for the settlement warrant liability and the liability
for the management reorganization. In 1997, the Company sold its interest in
The Campus and recorded a gain of $905,000. There was no tax expense in 1997
and 1996 primarily due to taxable losses and offsetting temporary differences
in both years.
LIQUIDITY AND CAPITAL RESOURCES
At December 31, 1998, the Company had cash and cash equivalents of
$4,560,000 and working capital (current assets in excess of current liabilities)
of $2,400,000, compared to cash and cash equivalents of $4,764,000 and working
capital of $17,000 at December 31, 1997. Net cash provided by operations was
$1,120,000 for the twelve months ended December 31, 1998 and net cash used in
operations was $1,004,000 for the twelve months ended December 31, 1997. The
principal uses of cash in 1998 were to fund the Company's net loss from
operations and severance payments totaling $819,000 in compliance with the
Reorganization
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agreements with former officers. These uses were more than offset by
depreciation, amortization and other noncash charges. Net cash used in investing
activities was $1,220,000 for the twelve months ended December 31, 1998 and
$3,315,000 for the twelve months ended December 31, 1997. Included in net cash
used in investing activities for the twelve months ended December 31, 1998 were
$3,002,000 in capital expenditures and $1,862,000 in proceeds from the sale of
an 82.5% interest in the Company's subsidiary, LearnStar, Inc. Net cash used in
financing activities was $104,000 for the twelve months ended December 31, 1998
related to principal payments under capital lease obligations compared to net
cash provided by financing activities of $2,504,000 for the twelve months ended
December 31, 1997.
In October 1998, the holders of the Company's outstanding Series B
Preferred Stock agreed to exchange their remaining $5,600,000 of Preferred Stock
(and accrued dividends) for 7% senior convertible subordinated notes due
February 1, 2001 with a fixed conversion price of $1.275 per common share. On
January 11, 1999, the exchange was completed and notes were issued in aggregate
principal amount of $5,912,834. On October 5, 1998, in consideration of the debt
for stock exchange, the Company issued the Preferred Stock holders warrants
expiring February 1, 2001 to purchase an aggregate of one million shares of
common stock. The warrants have an initial exercise price of $1.25 per common
share which will be subject to reduction in the event that the common stock
trades at levels significantly above the exercise price. As a result of this
exchange, the Company expects to incur additional interest expense beginning in
the first quarter of 1999.
The Company will be in default under the convertible notes, issued
under the Exchange Agreement in October 1998, if it fails to pay any principal
or interest on the convertible notes when due, and in certain other events,
including in the event of a material adverse change in the condition, financial
or otherwise, or operations of the Company as determined by the holders of the
convertible notes in their discretion. If the Company defaults under the
convertible notes, in the discretion of the holders of the convertible notes,
the entire outstanding principal amount of the convertible notes and all
accrued and unpaid interest will become immediately due and payable in full.
Although the Company has no material commitments for capital
expenditures, it anticipates purchasing approximately $5,600,000 of broadcast
equipment related to the New Network in 1999. The Company intends to finance
capital expenditures from cash on hand, leases from vendors and internally
generated funds, but there is no assurance that the Company will be able to do
so. The Company currently has no bank line of credit or other financing
arrangements in place. If there is a need to obtain additional financing there
is no assurance as to whether or on what terms any financing may be available.
YEAR 2000 COMPLIANCE
The Company, with the assistance of independent outside consultants,
has been assessing its "Year 2000" computer readiness and exposure to Year 2000
issues, which relates to the inability of computer software programs to
recognize the arrival of the year 2000 because of a common software design
feature that describes the current year by only its last two digits. In
connection with such assessment, the Company initiated a review of the
information technology systems utilized in the Company's business and
operations. Based on this review, the Company has segregated its systems into
two categories: mission critical and support systems. Mission critical systems
are characterized as hardware and applications contributing to the income of
the business. Support systems are characterized as systems that organize and
create efficiencies for the corporation but are not critical to its operations.
The Company is in the process of assessing these key systems for compliance.
The assessment phase is expected to be completed by the second quarter of 1999,
and the renovation phase completed by the third quarter.
The Company's mission critical systems are segregated into Location
deployed and back-end systems which support both the new and current networks,
for which the Company will incur expected costs of approximately $1,000,000 to
ensure Year 2000 compliancy. The Company is evaluating and testing Year 2000
compliance at the system BIOS, operating system and applications levels. The
Company has preliminarily determined that 25% of Location systems may not be
Year 2000 compliant due to the inaccurate roll over of the system BIOS which
could compromise content scheduling. The replacement of these systems is
estimated to be approximately $1,000 per Location. All systems in the New
Network are expected to be Year 2000 compliant. The Company has identified a few
key back-end systems that will require an upgrade of commercial hardware and
data base software. As can be determined thus far, the operating systems and
Company-developed applications are not affected but are being verified for
compliance. The Company intends to fund these costs with cash on hand, leases
from vendors and internally generated funds. The Company has also initiated a
review of Year 2000 compliance by its principal vendors, and this estimate
assumes that the Company will not incur significant Year 2000 related costs on
behalf of its vendors or other third parties.
Concerning the support systems, all corporate personal computers and
servers have been deemed Year 2000 compliant. The operating systems and
commercial software packages have been upgraded to compliant versions.
The Company's most likely worst case scenario is that the Company
would be unable to broadcast its programs to its network services customers.
Network services revenue represents 78% of total revenues for the year ended
December 31, 1998. The Company has not yet established a contingency plan in
the event that this occurs. As a result, a widespread or extended failure of
the
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Company's internal systems, or systems of third parties, to be Year 2000
compliant would have a material adverse effect on the Company's business,
financial condition or operating results.
RECENT ACCOUNTING PRONOUNCEMENTS
In March 1998, the Accounting Standards Executive Committee (AcSEC)
issued a Statement of Position (SOP) 98-1, "Accounting for the Costs of
Computer Software Developed or Obtained for Internal Use". The SOP is effective
for financial statements for fiscal years beginning after December 15, 1998.
The adoption of this standard is not expected to have a material impact on
consolidated results, financial condition or long-term liquidity.
RISK FACTORS THAT MAY AFFECT FUTURE RESULTS
The Company's business, results of operation and financial condition
would be adversely affected by a number of factors, including the following:
HISTORY OF SIGNIFICANT LOSSES; RECENT RESULTS OF OPERATIONS.
The Company has a history of significant losses, including net losses
of $1,793,000, $12,457,000 and $22,952,000 for the three years ended December
31, 1998, and an accumulated deficit of $61,147,000 as of December 31, 1998.
The results of operations during these periods included substantial charges
related to the resignation or termination of certain former executive officers,
write-downs of assets associated with discontinued business activities and
shrinkage and obsolescence of equipment, accruals for litigation settlement
costs and other litigation expenses, and charges relating to stock-based
compensation. The Company may incur similar charges in the future, and there is
no assurance that the Company will ever operate profitably. See "Liquidity and
Capital Resources" and "Selected Consolidated Financial Data" for more
information regarding the Company's financial condition.
PENDING LITIGATION PROCEEDINGS
See "Legal Proceedings" for a discussion of Pending Legal Proceedings.
RECENT EQUIPMENT PROBLEMS
The Playmaker(R) is a hand-held, 49-megahertz radio frequency device used
to enter choices and selections by players of QB1(R) and other games and
programming broadcast via the NTN Network(TM). Customers have experienced
certain recurring problems with Playmakers(R) related to noise sensitivity and
performance of the Playmaker's(R) rechargeable batteries. Management believes
these equipment problems contributed to higher than usual terminations and bad
debt experience during late 1997 and the first half of 1998. To address these
problems, the Company has designed a 900-megahertz Playmaker(R) in consultation
with an outside engineering consulting firm. The redesigned Playmaker(R) is
currently being manufactured by the manufacturer of the 49 megahertz Playmaker
and will be deployed in the marketplace in conjunction with the launch of NTN's
New Network. There can be no assurance that equipment problems will not occur
with the redesigned Playmakers and the continuance of such problems in the
future could adversely affect our results of operations.
DEPENDENCE ON LICENSES FOR BROADCAST RIGHTS; LACK OF CERTAIN LICENSES
NTN's interactive sports games are broadcast in conjunction with live
telecasts of football, baseball and hockey games and other events. Wherever
possible, the Company tries to obtain licenses from the owners of the broadcast
rights to the events to utilize such telecasts for our interactive game
programming. NTN's exclusive license with National Football League Properties,
Inc. ("NFLP") for QB1(R) expires in March 2000. The rights under the license
may not be transferred or assigned without the NFLP's consent, and an
assignment for this purpose includes, among other things, a merger or
consolidation of NTN or the termination of employment of any key management
personnel. NTN's agreement with Major League Baseball Properties, Inc. ("MLBP")
relating to Diamondball(R) expired December 31, 1996. Since then, the Company
has continued to broadcast Diamondball(R) without a license.
QB1(R)'s broadcast in conjunction with college football games is
without any license. Limitations on sports licenses or legal action by the
owners or licensees of broadcast rights to college football games or other
events for which NTN has no license could preclude NTN from broadcasting our
games in connection with these events or result in an award of monetary damages
against the Company. The Company has not experienced any such legal action to
date, and is unaware of any threatened action. There is no assurance, however,
that such actions will not be brought in the future.
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COMPETITION
The Company's programming competes generally with broadcast
television, pay-per-view and other content offered on cable television. In
other media, NTN competes with other content and services available to the
consumer through America Online and other online services.
With the entrance of motion picture, cable and TV companies,
competition in the interactive entertainment and multimedia industries will
likely intensify in the future. Recently, for example, The Walt Disney Company
introduced interactive programming broadcast in conjunction with live sporting
and other events which may compete directly with QB1(R) and our other
programming. Moreover, the expanded use of online networks and the Internet
provide computer users an increasing number of alternatives to video games and
entertainment software. NTN seeks to compete by providing high quality products
at reasonable prices, thereby establishing a favorable reputation among
frequent buyers. There can be no assurance, however, that the Company can
compete effectively.
POTENTIAL FOR TECHNOLOGICAL OBSOLESCENCE
The computer industry and related businesses are marked by rapid and
significant technological development and change. It is possible that the
Company's interactive technology and services will be rendered obsolete by
ongoing technological developments. There also is no assurance that NTN will be
able to respond effectively to technological changes.
UNCERTAIN PROPRIETARY PROTECTION; DEPENDENCE ON SOLE SOURCE OF SUPPLY
The Company regards the Playmaker(R) keyboard and other technology
utilized in the NTN Network(TM) as proprietary and relies on a combination of
trademark, copyright and trade secret laws and employee and third-party
nondisclosure agreements to protect our propriety rights. NTN has one patent
application pending for our proprietary interactive technology. There is no
assurance, however, that any patent will issue or that any issued patent will
provide significant competitive advantages. It is the Company's policy that all
employees and consultants involved in research and developmental activities sign
nondisclosure agreements; however, this may not afford sufficient protection for
know-how and proprietary information and products. Other parties may
independently develop similar or more advanced technologies.
As a number of software products in the interactive television
industry increases and increasingly become available in new delivery formats,
software developers and publishers may increasingly become subject to
infringement claims. Any such claims or litigation brought against the Company
could be costly and could have an adverse effect on the business and results or
operations.
The Fleetwood Group, Inc. of Holland, Michigan, has requested
assurance that NTN's 900 MHz Playmakers do not infringe on Fleetwood's patent
for a 900 MHz wireless communication system marketed as Reply(R) PS.
The Company currently purchases Playmaker(R) keyboards from a single,
unaffiliated Taiwanese manufacturer, and has regularly experienced delays in
obtaining new Playmakers(R). The Company recently designed a 900-megahertz
Playmaker(R) and have solicited bids for manufacture of the new Playmaker(R).
There can be no assurance, however, that we can secure additional sources of
supply of the redesigned Playmaker(R). Unless and until NTN succeeds in
establishing additional manufacturing relationships, NTN will continue to be
dependent on the current sole source of supply of Playmaker(R) and may continue
to experience delays and technical problems in Playmakers(R) shipments.
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VOLATILITY OF STOCK PRICE; RECENT TRADING PRICES
Historically, the trading price of the Company's common stock has
fluctuated widely, and it may be subject to similar future fluctuations in
response to quarter-to-quarter variations in operating results, announcements
regarding litigation, technological innovations or new products introduced by
NTN or our competitors, general industry conditions and other events or
factors, including factors such as analysts' expectations which are beyond
management's control. In addition, in recent years and months, broad stock
market indices, in general, and the securities of "small cap" companies such as
NTN, in particular, have experienced substantial price fluctuations. Such broad
market fluctuations also may adversely affect the future trading price of the
common stock.
The recent trading prices of the common stock have been at or near the
historical lows, and it is possible that the Company will experience further
declines in the trading price in the future. See "Market For Registrant's
Common Equity and Related Stockholder Matters" for more information on
historical trading prices of the common stock.
EFFECT OF OUTSTANDING OPTIONS AND WARRANTS
At March 26, 1999, there were approximately 6,668,930 shares of common
stock reserved for issuance upon the exercise of outstanding stock options at
exercise prices ranging from $0.5625 to $6.50 per share. At March 26, 1999,
there were also outstanding warrants to purchase an aggregate of approximately
2,902,966 shares of common stock at current exercise prices ranging from $0.96
to $7.50 per share. Substantially all of the shares underlying these outstanding
warrants are subject to currently effective registration statements covering the
resale of the underlying warrant shares by the holders.
The foregoing options and warrants could adversely affect our ability
to obtain future financing or engage in certain mergers or other transactions,
since the holders of those options and warrants can be expected to exercise
them at a time when we would be able to obtain additional capital through a new
offering of securities on terms more favorable than those provided by such
options and warrants. For the life of such options and warrants, the holders
are given the opportunity to profit from a rise in the market price of the
common stock without assuming the risk of ownership. To the extent the trading
price of the common stock at the time of exercise of any such options or
warrants exceeds the exercise price, such exercise will also have a dilutive
effect on our stockholders, including purchases of the offered shares.
The Company recently received a letter from certain investors to whom
the Company sold shares of common stock in a private placement in April 1995
claiming that they are entitled to receive additional shares of common stock as
a result of antidilution adjustments contained in their Stock Purchase
Agreements with NTN. Based on the Company's review of this matter, the Company
will be required to issue these investors 218,400 additional shares.
SHARES ELIGIBLE FOR FUTURE SALE
Approximately 1,400,883 shares of common stock outstanding as of March
26, 1999 are "restricted securities," as that term is defined under Rule 144
promulgated under the Act. All or substantially all of such shares are covered
by currently effective registration statements and can be offered and sold
publicly by the beneficial owners at any time so long as registration
statements remain effective. Moreover, in general under Rule 144 as currently
in effect, subject to the satisfaction of certain conditions, if one year has
elapsed since the later of the date of acquisition of restricted shares from an
issuer or from an affiliate of an issuer, the acquiror or subsequent holder is
entitled to sell in the open market, within any three-month period, a number of
shares that does not exceed the greater of 1% of the outstanding shares of the
same class or the average weekly trading volume during the four calendar weeks
preceding the filing of the required notice of sale. A person who has not been
an affiliate of NTN for at least the three months immediately preceding the
sale and who has beneficially owned shares of common stock as described above
for at least two years is entitled to sell such shares under Rule 144(k)
without regard to any of the limitations described above.
No predictions can be made with respect to the effect that sales of
common stock in the market or the availability of shares of common stock for
sale pursuant to currently effective registration statements or under Rule 144
will have on the market price of common stock prevailing from time to time.
Nevertheless, the possibility that substantial amounts of common stock may be
sold in the public market may adversely affect prevailing market prices for the
common stock and could impair NTN's ability to raise capital through the sale
of equity securities.
ITEM 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
None.
ITEM 8. CONSOLIDATED FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA
See Index to Consolidated Financial Statements and Schedule on page
F-1, for a listing of the Consolidated Financial Statements and Schedule filed
with this report, which are incorporated herein by reference.
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ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING
AND FINANCIAL DISCLOSURE
None.
PART III
MANAGEMENT
ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT
The following table sets forth as of March 26, 1999 certain
information regarding the directors and executive officers of the Company:
Current
Director Term
Name Age Position(s) Held Since Expires
---- --- ---------------- -------- -------
Stanley B. Kinsey 45 Chief Executive Officer and 1997 1999
Chairman of the Board
Barry Bergsman(1) 62 Director 1998 1999
Robert M. Bennett(1) 72 Director 1997 2001
Donald C. Klosterman(2) 69 Director 1985 1999
Esther L. Rodriguez(2) 57 Director 1997 2001
V. Tyrone Lam 36 Executive Vice President
Kendra Berger 32 Chief Financial Officer and Secretary
Bennett Letwin 32 Vice President - Interactive Technologies and
Business Systems
(1) Member of Audit Committee.
(2) Member of Compensation Committee.
The following biographical information is furnished with respect to the
directors and executive officers:
Stanley B. Kinsey was appointed as a director in November 1997. Mr.
Kinsey was appointed Chairman and Chief Executive Officer of the Company in
October 1998. From 1980 to 1985, Mr. Kinsey was a senior executive with the
Walt Disney Company. In 1985, Mr. Kinsey left his position as senior vice
president of operations and new technologies for the Walt Disney Studio to
co-found IWERKS Entertainment, a high-technology entertainment company. Mr.
Kinsey was chairman and Chief Executive Officer from inception until 1995, when
he resigned.
Barry Bergsman has been a director since August 1998. From 1985 to the
present, Mr. Bergsman has been president of Intertel Communications, Inc., a
company that pioneered the use of the telephone and interactive technology for
promotion, entertainment and information. Prior to 1985, Mr. Bergsman held
positions as president of a television production and syndication company and
as an executive with CBS.
Robert M. Bennett has been a director since August 1996. Since 1989,
Mr. Bennett has been the Chairman of the Board of Bennett Productions, Inc., a
production company with experience in virtually all areas of production
including syndicated sports and specialty programming, music videos, commercial
productions, home video, corporate communications and feature films.
Donald C. Klosterman has been a director of the Company (or its
predecessor) since 1985. He served as the President of Pacific Casino
Management, Inglewood, California from June 1994 to November 1995 and is
currently a director of Aldila Shaft Manufacturer. Mr. Klosterman served as
Chairman of the Board of the Company from 1985 until April 1994. From 1990
until March 1994, he also has acted as a consultant to the Company.
Esther L. Rodriguez was appointed as a director of NTN in September
1997. She retired as a Vice President of Next Level Systems, Inc. (formerly
General Instrument), a telecommunications company, in November 1996 after
having served in various executive capacities since joining General Instrument
in 1987. For the two years prior to her retirement, Ms. Rodriguez served as
head of worldwide business development and sales teams for private commercial
business and educational network systems. Following her retirement, she founded
and has served as Chief Executive Officer of Rodriguez Consulting Group, a
private management consulting
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firm. Ms. Rodriguez has over 25 years' experience in general management,
business development and marketing, including 17 years' experience in worldwide
telecommunications.
V. Tyrone Lam has served as Executive Vice President of the Company
since September 1998. He was appointed Vice President and General Manager of
the NTN Network in September 1997. Prior to this time he served as Associate
Vice President of Marketing from February 1997. Mr. Lam joined NTN in December
1994 in a marketing position. From April 1992 to December 1994, Mr. Lam managed
the interactive television sports and games development for the EON Corporation
and has held other sales and marketing positions in the computer software
industry.
Kendra Berger was appointed Vice President, Finance and Controller in
July 1998. In February 1999, she was appointed Chief Financial Officer and
Corporate Secretary. Ms. Berger previously served as a controller for FPA
Medical Management, Inc., a public national healthcare company. From August
1989 to July 1996, Ms. Berger, certified public accountant, held key positions
with the public accounting firm, Price Waterhouse LLP.
Bennett Letwin joined NTN in November 1998 as Vice President of
Interactive Technologies and Business Systems. Prior to this time, Mr. Letwin
was the architect for some of the earliest electronic malls, electronic
software distribution systems, and live Internet video broadcast platform for
Global 2000 clients at General Electric Information Services.
Section 16(a) Beneficial Ownership Reporting Compliance
Under the federal securities laws, the Company's directors and
officers and any persons holding more than 10% of the Company's common stock
are required to report their ownership of the Company's common stock and any
changes in that ownership to the Securities and Exchange Commission. Specific
due dates for these reports have been established, and the Company is required
to report any failure to file by these dates. During 1998, its directors,
officers and 10% stockholders satisfied all of these filing requirements.
ITEM 11. EXECUTIVE COMPENSATION
The following Summary Compensation Table shows the compensation paid
or accrued as of each of the last three fiscal years to all individuals who
served as the Chief Executive Officer of the Company during 1998 and to the one
other most highly compensated executive officer of the Company who was serving
as an executive officer at the end of 1998 and whose total annual salary and
bonus exceeded $100,000 (collectively, the "Named Executive Officers"):
SUMMARY COMPENSATION TABLE
Long-Term
Compensation
Annual Compensation Awards
------------------- -----------------------------
Name and Principal Position Year Salary(1) Bonus Other Annual Compensation Securities Underlying option
- - --------------------------- ---- ---------- ----- ------------------------- -----------------------------
Gerald Sokol, Jr.(2) 1998 $265,528 $231,791 $ 153,775(3) 500,000
President and Chief 1997 240,662 335,500(4) 16,749(5) 600,000
Financial Officer
1996 87,423 -- 14,480(6) 875,000
Stanley B. Kinsey(7) 1998 $63,577 -- -- 1,300,000
Chief Executive Officer 1997 -- -- -- --
and Chairman of the 1996 -- -- -- --
Board
V. Tyrone Lam(8) 1998 $147,115 $ 2,959 -- 285,000
Executive Vice President 1997 105,367 -- 4,575(9) 165,000
1996 75,177 -- 4,319 --
(1) Includes amounts, if any, deferred under the Company's 401(k) Plan.
(2) Mr. Sokol resigned from the Company in January 1999.
(3) Includes compensation for directors fees of $24,000 and insurance
premium payments, adjusted for taxes, totaling $129,775 paid by the
Company.
(4) Includes a $150,000 home loan made to Mr. Sokol in August 1996, which
in accordance with its terms was forgiven in March 1997, and bonuses
aggregating $185,500.
(5) Includes group insurance premiums and compensation of $12,000 for
director's fees. See "Directors' Compensation".
(6) Represents moving expenses paid or reimbursed by NTN in connection
with Mr. Sokol's joining NTN.
(7) Mr. Kinsey was appointed Chief Executive Officer of the Company in
October 1998.
(8) Mr. Lam was an employee of the Company in previous years but was not
an Executive Officer until 1997.
(9) Represents group medical insurance premiums.
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Stock Option Grants
The following table contains information concerning grants of stock
options during fiscal 1998 with respect to the Named Executive Officers.
OPTION GRANTS IN LAST FISCAL YEAR
Individual Grants
-----------------
Number of Shares % of Total Options Value of Grant
Underlying Options Granted to employees Exercise at Date of
Name Granted in Fiscal Year Price Expiration Date Grant (1)
- - ---- ------------------ -------------------- -------- --------------- --------------
Gerald Sokol, Jr. 500,000(2)(6) 15.20% $ 1.00 02/01/08 $502,250
Stanley B. Kinsey 650,000(3) 19.76% $ 1.00 10/06/08 $383,793
650,000(3) 19.76% $ 0.625 10/06/08 $377,891
V. Tyrone Lam 135,000(2) 4.10% $ 1.375 04/07/08 $ 99,772
150,000(2) 4.56% $ 0.625 09/03/08 $ 92,735
215,000(5) 6.53% $ 1.000 04/07/08 $159,244
(1) The value of grant at date of grant was estimated using the Black
Scholes option-pricing model with the following assumptions: dividend
yield 0% risk-free interest rates ranging from 4.15% to 5.26%,
expected volatility of 188% and expected option lives ranging from
3 years to 7 years.
(2) Represents options granted under NTN's 1995 Option Plan which become
exercisable as to 25% of the total shares on the first anniversary of
the date of grant and will become exercisable as to an additional 1/36
of the remaining shares at the end of each calendar month following
the first anniversary of the date of grant. All of the options shown
are subject to accelerated vesting in the event of a change in control
of the Company. See "Employment Agreements".
(3) Represents options granted under NTN's 1995 Option Plan which become
exercisable in three equal installments on each of the first, second
and third anniversaries of the dates of grant.
(4) Represents options granted under NTN's 1995 Option Plan which were
immediately exercisable on the date of grant.
(5) Represents options issued in exchange for various previously granted
options with exercise prices ranging from $2.00 to $4.50.
(6) These options were subsequently canceled pursuant to the Resignation
Agreement entered into with Mr. Sokol.
STOCK OPTION EXERCISES AND OPTION VALUES
The following table contains information concerning stock options
exercised during 1998 and stock options which were unexercised at the end of
fiscal 1998 with respect to the Named Executive Officers. No stock options were
exercised in 1998 by any Named Executive Officers.
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\
AGGREGATED OPTION EXERCISES IN LAST FISCAL YEAR
AND FISCAL YEAR-END OPTION VALUES
Number of Securities
Underlying Unexercised Value of Unexercised In-the-Money
Options At Fiscal Year-End Options at Fiscal Year-End(1)
-------------------------- ---------------------------------
Name Exercisable Unexercisable Exercisable Unexercisable
---- ----------- ------------- ----------- -------------
Gerald Sokol, Jr 1,175,000 800,000 * *
Stanley B. Kinsey 33,333 1,366,667 * *
V. Tyrone Lam -- 500,000 * *
(1) Represents the amount by which the aggregate market price on December
31, 1998 of the shares of the Company's Common Stock subject to such
options exceeded the respective exercise prices of such options. An
asterisk denotes that the respective exercise prices of the options
shown exceeded the market price of the underlying shares of Common
Stock at December 31, 1998.
OPTION REPRICINGS
In April 1998, the Board approved the amendment of certain stock
options previously granted to the Company's employees, including Mr. Lam, to
reduce the exercise price of such options to $1.00 per share. The option
repricing was approved by the Board in light of the precipitous decline in the
market value of the Common Stock that had occurred since the options were
originally granted. The Board believed that the drop was due to conditions and
factors beyond the control or responsibility of the employees and the result of
the drop in the market price was that the options were no longer affording a
significant incentive to them to deal with these preexisting factors and
conditions. The Board intends to consider additional repricings as appropriate
to afford NTN's executive officers and other employees incentives to continue to
work to improve the performance of NTN.
The following table sets forth certain information with respect to the
repricing of Mr. Lam's options and other repricings of options held by its named
executive officers over the past ten years.
Ten Year Option Repricings
Length of
Number of Original
Securities Market Price Exercise Option Term
Underlying of Stock at Price at Remaining at
Options Time of Time of New Date of
Repriced or Repricing or Repricing or Exercise Repricing or
Name Date Amended Amendment Amendment Price Amendment
---- ---- ----------- ------------- ------------ -------- ------------
V. Tyrone Lam
Executive Vice President 04/08/98 65,000 $0.75 $3.25 $1.00 9 years
04/08/98 40,000 0.75 2.81 1.00 9 years
04/08/98 5,000 0.75 4.50 1.00 5 years
04/08/98 5,000 0.75 3.50 1.00 9 years
04/08/98 100,000 0.75 2.00 1.00 10 years
Gerald Sokol, Jr. 01/14/97 221,260 2.81 5.00 2.81 9 years
Chief Executive Officer, 05/14/97 400,000 2.81 5.00 2.81 9 years
President and Chief 05/14/97 78,740 2.81 5.08 2.81 9 years
Financial Officer 05/14/97 175,000 2.81 3.50 2.81 10 years
05/14/97 600,000 2.81 4.00 2.81 10 years
DIRECTOR COMPENSATION
During 1998, directors were entitled to receive compensation of $2,000
per month for their services as directors. In December 1997, the Board elected
to pay the 1998 fees in shares of treasury stock which were valued for this
purpose at $1.125 per share, the price of the common stock at that time. In
1999, the directors compensation was increased to $2,100 per month. It is
anticipated that the 1999 compensation will be paid in cash or shares. Directors
are also eligible for the grant of options or warrants to purchase Common Stock
from time to time for services in their capacity as directors.
Upon joining the Board in August 1998, Mr. Bergsman was granted
options to purchase 100,000 shares each at an exercise price of $0.8125 per
share. These options will become vested as to one-third of the shares covered
thereby on the first anniversary of grant date and will become vested and
exercisable as to the balance of the covered shares in two equal installments
on the second and third anniversaries of the grant date, subject to Mr.
Bergsman remaining as a director. The options provide for immediate vesting in
full in the event of a "Change of Control Event" as defined.
EMPLOYMENT AGREEMENTS AND TERMINATION OF EMPLOYMENT AND CHANGE IN
CONTROL ARRANGEMENTS
In January 1999, Gerald Sokol, Jr., the Company's President and Chief
Financial Officer, resigned as an executive officer and director of the
Company. The Company entered into a Resignation and General Release Agreement
("Resignation Agreement") with Mr. Sokol pursuant to which Mr. Sokol's
Employment Agreement, dated July 1, 1998, was terminated.
Pursuant to the Resignation Agreement, the Company paid $205,850 to
Mr. Sokol in settlement of his prior Employment Agreement and in consideration
of his agreement not to compete with the Company for a period of one year. In
further consideration, the Company paid Mr. Sokol an earned 1998 bonus of
$128,500.
In consideration of cancellation of Mr. Sokol's February 2, 1998
Option Agreement which granted him the option, vesting over a period of four
years, to purchase an aggregate of 500,000 shares of common stock at an
exercise price of $1.00, the Company granted Mr. Sokol the fully vested right
and option to purchase 125,000 shares of common stock at an exercise price of
$1.00 per share, exercisable at any time prior to 12 months after the January
19, 1999 termination of Mr. Sokol's employment with the Company.
In October 1998, the Company entered into a written Employment
Agreement with Stanley B. Kinsey under which Mr. Kinsey agreed to serve as
Chairman and Chief Executive Officer of the Company for a period of three years
ending October 6, 2001. Under the Employment Agreement, Mr. Kinsey is to
receive an annual salary of $285,000, which will increase in proportion to any
increase in the consumer price index on the anniversary date each year during
the term of employment. Mr. Kinsey also is entitled to an annual bonus pursuant
to a bonus program to be agreed upon by Mr. Kinsey and the Compensation
Committee of the Board of Directors.
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NTN also has agreed pursuant to the Employment Agreement to provide
Mr. Kinsey and his dependents certain medical insurance and to maintain
$1,000,000 of term life insurance ($2,000,000 in the event of accidental death
or dismemberment) on Mr. Kinsey payable to his beneficiaries.
Mr. Kinsey's Employment Agreement may be terminated by NTN in the
event of his disability, in which event Mr. Kinsey or his representatives will
be entitled to be paid severance in an amount equal to 75% of his compensation
(including the annual bonus calculated pursuant to the bonus program) for the
remainder of the term of the Employment Agreement. The Employment Agreement
also may be terminated by NTN in the event of Mr. Kinsey's personal dishonesty,
willful misconduct or breach of fiduciary duty, or if he breaches the
Employment Agreement and fails to cure the breach within 30 days. In the event
NTN terminates the Employment Agreement without cause, attempts to reassign Mr.
Kinsey's duties or to change his duties without cause, Mr. Kinsey will be
entitled to a liquidated amount equal to his entire compensation under the
Employment Agreement for the remainder of its term.
Either Mr. Kinsey or NTN may terminate the Employment Agreement at
any time following a "Change of Control Event" as defined. In the event Mr.
Kinsey or NTN terminates Mr. Kinsey's employment following a Change of Control
Event, he will be entitled to receive severance in an amount equal to one
year's salary, a pro rata portion of the bonus earned to the date of
termination of employment and continuation of employee benefits for a period of
one year.
In connection with his agreeing to join NTN as its Chief Executive
Officer, Mr. Kinsey was granted options to purchase an aggregate of up to
1,300,000 shares of Common Stock. The exercise price of options to purchase
650,000 shares is $.625 per share and the exercise price of options to purchase
650,000 shares is $1.00 per share. On October 7, 1999, the Company will grant
Mr. Kinsey an option to purchase 500,000 shares of the Company's common stock
at the closing price as of the issue date. The Company will not be obligated to
grant such 500,000 share option to the extent a Change of Control Event has
occurred before such date. All options were granted to Mr. Kinsey pursuant to
the NTN 1995 Stock Option Plan and are subject to immediate vesting upon the
occurrence of a Change of Control Event.
COMPENSATION COMMITTEE INTERLOCKS AND INSIDER PARTICIPATION
All compensation determinations for 1998 for NTN's executives were
made by the Board of Directors of NTN as a whole upon the advice of the
Compensation Committee of the Board. None of the directors or executive
officers of NTN has served on the Board of Directors or the compensation
committee of any other company or entity, any of whose officers served either
on the Board of Directors or on the Compensation Committee of the Board.
ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT
The following table sets forth as of March 26, 1999 the number and
percentage ownership of Common Stock by (i) all persons known to the Company to
own beneficially more than 5% of the outstanding shares of Common Stock based
upon reports filed by each such person with the Securities and Exchange
Commission ("Commission"), (ii) each director of the Company, (iii) each of the
Named Executive Officers, and (iv) all of the executive officers and directors
of the Company as a group. Except as otherwise indicated, and subject to
applicable community property and similar laws, each of the persons named has
sole voting and investment power with respect to the shares of Common Stock
shown. An asterisk denotes beneficial ownership of less than 1%.
Number of Shares Percent of
Name Beneficially Owned Common Stock (1)
- - ---- ------------------ ----------------
Gerald Sokol, Jr.(2) 1,362,000 4.9%
Robert M. Bennett(3) 174,000 *
Barry Bergsman(4) 20,000 *
Donald C. Klosterman(5) 849,082 3.0%
Esther L. Rodriguez(6) 55,666 *
Stanley B. Kinsey(7) 124,666 *
V. Tyrone Lam -- *
All executive officers and
directors of the Company as a group 2,585,414 11.7%
(7 persons)(8)
(1) Included as outstanding for purposes of this calculation are
28,086,306 shares of Common Stock (the amount outstanding as of March
26, 1999) plus, in the case of each particular holder, the shares of
Common Stock subject to currently exercisable options, warrants, or
other instruments exercisable for or convertible into shares of Common
Stock (including such instruments exercisable within 60 days after
March 26, 1999) held by that person, which instruments are specified
by footnote. Shares issuable as part or upon exercise of outstanding
options, warrants, or other instruments other than as described in the
preceding sentence are not deemed to be outstanding for purposes of
this calculation.
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(2) Includes 1,300,000 shares subject to currently exercisable options
held by Mr. Sokol.
(3) Includes 66,667 shares subject to currently exercisable options held
by Mr. Bennett.
(4) Includes 3,000 shares subject to currently exercisable warrants held
by Mr. Bergsman.
(5) Includes 200,000 shares subject to currently exercisable warrants and
150,000 shares subject to currently exercisable options held by Mr.
Klosterman.
(6) Includes 33,333 shares subject to currently exercisable options held
by Ms. Rodriguez. Also includes 1.000 shares owned by the Rodriguez
Family Trust, of which Ms. Rodriguez is a co-trustee with members of
her immediate family. As co- trustee, Ms. Rodriguez shares voting and
investment power with respect to the shares
(7) Includes 33,333 shares subject to currently exercisable options held
by Mr. Kinsey.
(8) Includes 1,583,333 shares subject to currently exercisable options
and, 200,000 shares subject to currently exercisable warrants held by
executive officers and directors, including those described in notes
(2) through (7) above.
ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS
CONSULTING ARRANGEMENTS
In March 1997, NTN entered into a separate Consulting Agreement with
Mr. Frazier, under which he agreed to spend on average seven days a month
consulting with management of NTN regarding NTN's operations and serving as a
consultant to NTN's President and as a member of NTN's Executive Advisory
Board, which had just been created by NTN's Board of Directors. The Executive
Advisory Board was subsequently disbanded. The Consulting Agreement was to
expire in March 1999, unless sooner terminated. In consideration for his
services under the foregoing Consulting Agreement, Mr. Frazier was granted a
five-year, nonqualified stock option to purchase 250,000 shares of Common Stock
at an exercise price of $4.50 per share, which was to vest in 24 monthly
installments of approximately 10,416 shares each, subject to Mr. Frazier
remaining as a consultant, and was to become exercisable on and after February
28, 1999. NTN also agreed to reimburse Mr. Frazier for certain expenses
relating to his consulting services. In May 1997, Mr. Frazier's option was
amended to reduce the exercise price to $2.81 and to provide that it would
become immediately exercisable in full in the event of a "Change of Control"
(as defined) of NTN. In January 1998, the Board of Directors cancelled the
Consulting Agreement and reduced the compensation to 104,167 options, which are
100% vested at March 31, 1998. In connection with the option granted to Mr.
Frazier under the Consulting Agreement, NTN recorded a charge pursuant to SFAS
No. 123 of $224,000 in 1997. An additional charge of $58,000 was recorded in
1998.
In April 1997, NTN entered into another Consulting Agreement with
Frazier/King, under which Frazier/King was engaged to review and consult with
management of NTN regarding NTN's strategic business plan, current operations
and future development and to devise and structure an appropriate plan to
secure future financing for NTN. The Consulting Agreement was terminable by NTN
any time upon ten days notice to Frazier/King in the event the Board of
Directors as a whole determined in good faith that Frazier/King had failed
materially to perform, or had breached its duties, under the Consulting
Agreement.
For Frazier/King's services under the foregoing Consulting Agreement,
NTN granted Frazier/King a warrant to purchase 1,000,000 shares of Common Stock
at an exercise price of $2.81, the approximate market value of the Common Stock
on the date of the Consulting Agreement, and agreed to reimburse Frazier/King
for expenses (other than normal operating expenses) incurred by it in
performing its consulting services. Frazier/King's warrant was immediately
vested and exercisable as to 200,000 shares of Common Stock covered thereby and
was to become vested and exercisable as to the balance of 800,000 covered
shares in quarterly installments of 100,000 shares each as of the 15th day of
each July, October, January and April commencing July 15, 1997 and ending April
15, 1999, provided that the Board of Directors of NTN has determined that
Frazier/King was performing satisfactorily under the Consulting Agreement. In
January, 1998, the Board and Frazier/King agreed to terminate this consulting
agreement and the number of warrants granted was reduced to 500,000, which were
immediately vested. In connection with the warrant granted to Frazier/King, NTN
recorded a charge pursuant to SFAS No. 123 of $1,401,000, in 1997.
On February 1, 1999, NTN entered into a Consulting Agreement with
Barry Bergsman pursuant to which Mr. Bergsman was engaged to actively provide
consulting services to the Company under the direction of the Company's Chief
Executive Officer. For Mr. Bergsman's services under the Consulting Agreement,
NTN granted Mr. Bergsman a warrant to purchase 36,000 shares of common stock at
an exercise price of $0.75 per share. The warrant is exercisable as to 3,000
shares on the first day of each of the twelve consecutive months commencing
March 1, 1999. In addition, Mr. Bergsman will receive cash compensation of
$3,500 per month. The Consulting Agreement expires on January 31, 2000.
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INDEMNITY AGREEMENTS
The Company has entered into indemnity agreements with each of its
directors and executive officers. The indemnity agreements provide that the
Company will indemnify these individuals under certain circumstances against
certain liabilities and expenses they may incur in their capacities as
directors of the Company. The Company believes that the use of such indemnity
agreements is customary among corporations and that the terms of the indemnity
agreements are reasonable and fair to the Company, and are in its best
interests to retain experienced directors.
PART IV
ITEM 14. EXHIBITS, CONSOLIDATED FINANCIAL STATEMENT SCHEDULE, AND
REPORTS ON FORM 8-K
(a) The following documents are filed as a part of this report:
1,2. Consolidated Financial Statements and Schedule.
The consolidated financial statements and schedule of the
Company and its consolidated subsidiaries are set forth in the
"Index to Consolidated Financial Statements" on page F-1.
3. Exhibits. The following exhibits are filed as a part of this
report:
10.1 Amended and Restated Certificate of Incorporation of the
Company, as amended (13)
10.2 By-laws of the Company (2)
10.5 License Agreement with NTN Canada (4)
10.6 National Football League License Agreement (4)
10.7 Lease of Office with The Campus L.L.C. (7)
10.15* Resignation and General Release Agreement, dated December
31, 1996 between NTN Communications, Inc. and Patrick J.
Downs. (9)
10.16* Resignation and General Release Agreement, dated December
31, 1996 between NTN Communications, Inc. and Daniel C.
Downs. (9)
10.17* Resignation and General Release Agreement, dated December
31, 1996 between NTN Communications, Inc. and Ronald E.
Hogan (9)
10.18* Resignation and General Release Agreement, dated December
31, 1996 between NTN Communications, Inc. and Gerald P.
McLaughlin. (9)
10.19* Resignation and General Release Agreement, dated December
31, 1996 between NTN Communications, Inc. and Michael J.
Downs. (9)
10.20* Resignation and General Release Agreement, dated December
31, 1996 between NTN Communications, Inc. and Robert
Klosterman. (9)
10.21* Letter agreement, dated March 4, 1997, between NTN and
Alan Magerman.(9)
10.22* Consulting Agreement, dated as of December 31, 1996,
between NTN Communications Inc. and Patrick J. Downs. (9)
10.23* Consulting Agreement, dated as of December 31, 1996,
between NTN Communications Inc. and Daniel C. Downs. (9)
10.24* Consulting Agreement, dated as of December 31, 1996,
between NTN Communications Inc. and Ronald E. Hogan. (9)
10.25* Consulting Agreement, dated as of December 31, 1996,
between NTN Communications Inc. and Gerald P. McLaughlin.
(9)
10.26* Consulting Agreement, dated as of March 14, 1997, between
NTN Communications Inc. and Donald Klosterman. (9)
10.27* General Release, dated as of December 31, 1996, between
NTN Communications Inc. and Patrick J Downs. (9)
10.28* General Release, dated as of December 31, 1996, between
NTN Communications Inc. and Daniel C. Downs. (9)
10.29* General Release, dated as of December 31, 1996, between
NTN Communications Inc. and Ronald E. Hogan. (9)
10.30* General Release, dated as of December 31, 1996, between
NTN Communications Inc. and Gerald P. McLaughlin. (9)
10.31* General Release, dated as of December 31, 1996, between
NTN Communications Inc. and Michael J. Downs. (9)
32
32
10.32* General Release, dated as of December 31, 1996, between
NTN Communications Inc. and Robert Klosterman. (9)
10.33* Special Stock Option dated August 18, 1996 between NTN
Communications, Inc. and Gerald Sokol, Jr.(9)
10.34* Special Stock Option dated August 25, 1996 between NTN
Communications, Inc. and Robert Bennett (9)
10.35* Special Stock Option dated August 30, 1996 between NTN
Communications, Inc. and Edward C. Frazier (9)
10.36* Amendment to Nonqualified Stock Option Agreement, dated as
of April 14, 1997, between NTN Communications, Inc. and
Edward C. Frazier. (11)
10.41 Compromise Settlement and Mutual General Release by and
between NTN Communications, Inc. and Interactive
Entertainment Systems and Barry N. Hurley (13)
10.42 Warrant Agreement, dated as of February 18, 1998 between
NTN Communications, Inc. and American Stock Transfer and
Trust Company, as warrant agent, including a form of
warrant certificate. (13)
10.44* Performance Incentive Stock Option Agreement dated
November 4, 1996 by and between NTN Communications, Inc.
and Gerald Sokol, Jr. (13)
10.45* Nonqualified Stock Option Agreement dated May 14, 1997 by
and between NTN Communications, Inc. and Gerald Sokol, Jr.
(13)
10.46 Exclusive Maintenance and Installation Agreement dated
March 30, 1998 by and between NTN Communications, Inc. and
Datatec Systems, Inc. (13)
10.47* Modification to Resignation Agreement, dated as of March
9, 1998 by and between NTN Communications, Inc. and Daniel
C. Downs (13)
10.48* Modification to Resignation Agreement, dated as of March
9, 1998 by and between NTN Communications, Inc. and
Patrick J. Downs (13)
10.49* Modification to Resignation Agreement, dated as of March
20, 1998 by and between NTN Communications, Inc. and
Ronald E. Hogan (13)
10.50* Employment Agreement, dated July 1, 1998, by and between
NTN Communications, Inc. and Gerald Sokol, Jr.
10.51 Sublease Agreement, dated August 20, 1998, between NTN
Communications, Inc. and WinResources Computing, Inc.
10.52* Employment Agreement, dated October 7, 1998, by and
between NTN Communications, Inc. and Stanley B. Kinsey
10.53* Stock Option Agreement, dated October 7, 1998, by and
between NTN Communications, Inc. and Stanley B. Kinsey
10.54* Resignation and Release Agreement, dated February 18,
1999, by and between NTN Communications, Inc. and Gerald
Sokol, Jr.
10.55 Exchange Agreement, dated October 5, 1998, by and between
NTN Communications, Inc. and the Buyers (as defined) (13)
23.00 Consent of KPMG LLP. (1)
27.00 Financial Data Schedule. (1)
* Management Contract or Compensatory Plan.
(1) Filed herewith.
(2) Previously filed as an exhibit to the Company's
registration statement on Form S-8, File No. 33-75732, and
incorporated by reference.
(3) Previously filed as an exhibit to the Company's report on
Form 10-K for the year ended December 31, 1989, and
incorporated by reference.
(4) Previously filed as an exhibit to the Company's report on
Form 10-K for the year ended December 31, 1990, and
incorporated by reference.
(5) Previously filed as an exhibit to the Company's report on
Form 8-K dated December 31, 1993, and incorporated by
reference.
(6) Previously filed as an exhibit to the Company's report on
Form 10-K for the year ended December 31, 1993, and
incorporated herein by reference.
33
33
(7) Previously filed as an exhibit to the Company's report on
Form 10-K for the year ended December 31, 1994, and
incorporated herein by reference.
(8) Previously filed as an exhibit to the Company's report on
Form 10-K for the year ended December 31, 1995, and
incorporated herein by reference.
(9) Previously filed as an exhibit to the Company's report on
Form 8-K dated March 5, 1997 and incorporated by
reference.
(10) Previously filed as an exhibit to the Company's report on
Form 8-K dated June 30, 1996 and incorporated by reference
(11) Previously filed as an exhibit to the Company's report on
Form 10-K dated December 31, 1996 and incorporated by
reference.
(12) Previously filed as an exhibit to the Company's report on
Form 8-K dated November 7, 1997 and incorporated by
reference.
(13) Previously filed as an exhibit to the Company's
registration statement on Form S-3, File No. 333-69383,
and incorporated by reference.
(14) Filed herewith.
(b) Reports on Form 8-K.
None.
34
34
NTN COMMUNICATIONS, INC. AND SUBSIDIARIES
INDEX TO CONSOLIDATED FINANCIAL STATEMENTS AND SCHEDULE
Page
----
Independent Auditors' Report F-2
Consolidated Financial Statements:
Consolidated Balance Sheets as December 31, 1998 and 1997 F-3
Consolidated Statements of Operations for the years ended
December 31, 1998, 1997 and 1996 F-4
Consolidated Statements of Shareholders' Equity for the
years ended December 31, 1998, 1997 and 1996 F-5
Consolidated Statements of Cash Flows for the years ended
December 31, 1998, 1997 and 1996 F-6
Notes to Consolidated Financial Statements F-8
Financial Statement Schedule II - Valuation and Qualifying Accounts F-24
F-1
35
Independent Auditors' Report
The Board of Directors
NTN Communications, Inc.:
We have audited the consolidated financial statements of NTN Communications,
Inc. and subsidiaries as listed in the accompanying index. In connection with
our audits of the consolidated financial statements, we also have audited the
financial statement schedule as listed in the accompanying index. These
consolidated financial statements and financial statement schedule are the
responsibility of the Company's management. Our responsibility is to express an
opinion on these consolidated financial statements based on our audits.
We conducted our audits in accordance with generally accepted auditing
standards. Those standards require that we plan and perform the audit to obtain
reasonable assurance about whether the financial statements are free of
material misstatement. An audit includes examining, on a test basis, evidence
supporting the amounts and disclosures in the financial statements. An audit
also includes assessing the accounting principles used and significant
estimates made by management, as well as evaluating the overall financial
statement presentation. We believe that our audits provide a reasonable basis
for our opinion.
In our opinion, the consolidated financial statements referred to above present
fairly, in all material respects, the financial position of NTN Communications,
Inc. and subsidiaries as of December 31, 1998 and 1997, and the results of
their operations and their cash flows for each of the years in the three-year
period ended December 31, 1998, in conformity with generally accepted
accounting principles. Also in our opinion, the related financial statement
schedule, when considered in relation to the basic consolidated financial
statements taken as a whole, presents fairly, in all material respects, the
information set forth therein.
/s/ KPMG LLP
San Diego, California
March 29, 1999
F-2
36
NTN COMMUNICATIONS, INC. AND SUBSIDIARIES
Consolidated Balance Sheets
December 31, 1998 and 1997
ASSETS
1998 1997
------------ ------------
Current assets
Cash and cash equivalents $ 4,560,000 $ 4,764,000
Accounts receivable - trade, net of allowance for doubtful
accounts of $1,720,000 in 1998 and
$1,313,000 in 1997 2,471,000 2,724,000
Prepaid expenses 846,000 521,000
Other current assets 254,000 381,000
------------ ------------
Total current assets 8,131,000 8,390,000
Broadcast equipment and fixed assets, net 7,249,000 7,973,000
Software development costs, net of accumulated amortization of
$5,447,000 in 1998 and $3,710,000 in 1997 1,141,000 3,697,000
Other assets 246,000 211,000
------------ ------------
Total assets $ 16,767,000 $ 20,271,000
============ ============
LIABILITIES AND SHAREHOLDERS' EQUITY
Current liabilities:
Accounts payable $ 840,000 $ 914,000
Accrued expenses 2,328,000 2,393,000
Accrual for litigation costs 847,000 1,613,000
Accrual for management severance 866,000 1,154,000
Obligations under capital leases 205,000 46,000
Deferred revenue 645,000 2,253,000
------------ ------------
Total current liabilities 5,731,000 8,373,000
Deferred revenue 12,000 84,000
Obligations under capital leases 380,000 179,000
Accrual for settlement warrants 1,670,000 1,516,000
Accrual for management severance 619,000 1,093,000
Accrual for litigation costs -- 300,000
Other long term liabilities 30,000 --
------------ ------------
Total liabilities 8,442,000 11,545,000
------------ ------------
Shareholders' equity:
Series A 10% cumulative convertible preferred stock, $.005 par
value, 5,000,000 shares authorized; shares issued
and outstanding 161,000 in 1998 and 1997 1,000 1,000
Series B 7% cumulative convertible preferred stock, $.005 par
value, 85,000 shares authorized; shares issued
and outstanding 56,000 in 1998 and 70,000 in 1997 1,000 1,000
Common stock, $.005 par value, 50,000,000 shares authorized;
shares issued and outstanding 28,086,000 in 1998 and
23,677,000 in 1997 140,000 118,000
Additional paid-in capital 70,733,000 70,541,000
Accumulated deficit (61,147,000) (58,596,000)
------------ ------------
9,728,000 12,065,000
Less treasury stock, at cost, 329,000 shares in 1998
and 782,000 in 1997 (1,403,000) (3,339,000)
------------ ------------
Total shareholders' equity 8,325,000 8,726,000
------------ ------------
Commitments and contingencies
Total liabilities and shareholders' equity $ 16,767,000 $ 20,271,000
============ ============
See accompanying notes to consolidated financial statements.
F-3
37
NTN COMMUNICATIONS, INC. AND SUBSIDIARIES
Consolidated Statements of Operations
For the years ended December 31, 1998, 1997 and 1996
1998 1997 1996
------------ ------------ ------------
Revenue:
Network services $ 18,785,000 $ 19,009,000 $ 19,269,000
Online/Internet services 2,014,000 3,326,000 1,811,000
Advertising revenue 896,000 772,000 1,590,000
Equipment sales, net of cost of sales of $208,000,
$231,000 and $3,801,000 in 1998, 1997 and 1996,
respectively 499,000 475,000 1,757,000
Other revenue 2,000,000 2,279,000 1,284,000
------------ ------------ ------------
Total revenue 24,194,000 25,861,000 25,711,000
------------ ------------ ------------
Operating expenses:
Direct operating expenses 4,715,000 6,565,000 6,124,000
Selling, general and administrative 11,767,000 16,244,000 15,259,000
Litigation, legal and professional expenses 1,658,000 808,000 6,484,000
Equipment lease expense 932,000 936,000 6,837,000
Stock-based compensation 353,000 3,205,000 1,910,000
Depreciation and amortization 6,412,000 5,305,000 2,265,000
Bad debt expense 850,000 1,462,000 1,840,000
Equipment charges 240,000 2,543,000 2,478,000
Research and development 714,000 1,600,000 3,396,000
Cancellation of notes receivable - related parties -- -- 4,252,000
Other charges -- -- 721,000
------------ ------------ ------------
Total operating expenses 27,641,000 38,668,000 51,566,000
------------ ------------ ------------
Operating Loss (3,447,000) (12,807,000) (25,855,000)
------------ ------------ ------------
Other income (expense):
Interest income 288,000 238,000 391,000
Interest expense (289,000) (793,000) (390,000)
Gain on sale of interest in subsidiary 1,643,000 -- --
Other income, net 12,000 905,000 --
------------ ------------ ------------
Total other income 1,654,000 350,000 1,000
------------ ------------ ------------
Loss from continuing operations before income taxes (1,793,000) (12,457,000) (25,854,000)
Income taxes -- -- --
------------ ------------ ------------
Loss from continuing operations (1,793,000) (12,457,000) (25,854,000)
Loss from discontinued operations -- -- (1,317,000)
Gain on sale of discontinued operations, net of tax -- -- 4,219,000
------------ ------------ ------------
Net loss $ (1,793,000) $(12,457,000) $(22,952,000)
============ ============ ============
Accretion of beneficial conversion feature on preferred stock (758,000) -- --
------------ ------------ ------------
Net loss available to common shareholders $ (2,551,000) $(12,457,000) $(22,952,000)
============ ============ ============
Basic and diluted net income (loss) per common share:
Continuing operations $ (.10) $ (.55) $ (1.15)
Discontinued operations -- -- 0.13
------------ ------------ ------------
Net loss $ (.10) $ (.55) $ (1.02)
============ ============ ============
Weighted-average shares outstanding 26,078,000 22,696,000 22,568,000
============ ============ ============
See accompanying notes to consolidated financial statements.
F-4
38
NTN COMMUNICATIONS, INC. AND SUBSIDIARIES
Consolidated Statements of Shareholders' Equity
For the years ended December 31, 1998, 1997 and 1996
SERIES A AND B
CUMULATIVE
CONVERTIBLE
PREFERRED STOCK COMMON STOCK ADDITIONAL
----------------------------- ---------------------------- PAID-IN
SHARES AMOUNT SHARES AMOUNT CAPITAL
------------ ------------ ------------ ------------ ------------
Balance, December 31, 1995 163,000 $ 1,000 22,503,000 $ 112,000 $ 56,747,000
Issuance of stock for exercise of
warrants and options -- -- 251,000 1,000 316,000
Issuance of stock in lieu of
dividends -- -- 3,000 -- --
Conversion of Series A preferred stock
to common stock (2,000) -- -- -- --
Issuance of stock in private
offerings, net of issuance costs -- -- 420,000 3,000 610,000
Treasury stock purchased -- -- -- -- --
Warrants granted to non-employees -- -- -- -- 1,910,000
Net loss -- -- -- -- --
------------ ------------ ------------ ------------ ------------
Balance, December 31, 1996 161,000 $ 1,000 23,177,000 $ 116,000 $ 59,583,000
------------ ------------ ------------ ------------ ------------
Issuance of stock for exercise of
warrants and options -- -- 419,000 2,000 888,000
Issuance of Series B Preferred
Stock in private offering, net of
issuance costs 70,000 1,000 -- -- 6,706,000
Issuance of stock in lieu of
dividends -- -- 8,000 -- --
Issuance and modifications of
warrants granted to non-employees -- -- -- -- 3,205,000
Issuance of stock for settlement
of litigation -- -- 73,000 -- 159,000
Net loss -- -- -- -- --
------------ ------------ ------------ ------------ ------------
Balance, December 31, 1997 231,000 $ 2,000 23,677,000 $ 118,000 $ 70,541,000
------------ ------------ ------------ ------------ ------------
Issuance of stock in lieu of
dividends -- -- 19,000 -- --
Issuance of treasury stock for settlement
of litigation -- -- -- -- (622,000)
Issuance of common stock for settlement
of litigation -- -- 1,200,000 6,000 1,194,000
Conversion of Series B preferred stock to
common stock (14,000) -- 2,430,000 12,000 (12,000)
Issuance of common stock in exchange
for cancellation of options and warrants -- -- 759,000 4,000 (4,000)
Issuance of treasury stock in exchange
for cancellation of options and warrants -- -- -- -- (1,181,000)
Accretion of beneficial conversion feature
on Series B preferred stock -- -- -- -- 758,000
Issuance of stock for exercise of
warrants and options -- -- 1,000 -- 1,000
Warrants granted to non-employees -- -- -- --
58,000
Net loss -- -- -- -- --
------------ ------------ ------------ ------------ ------------
Balance, December 31, 1998 217,000 $ 2,000 28,086,000 $ 140,000 $ 70,733,000
============ ============ ============ ============ ============
ACCUMULATED TREASURY
DEFICIT STOCK TOTAL
------------ ------------ ------------
Balance, December 31, 1995 $(23,187,000) $ (222,000) $ 33,451,000
Issuance of stock for exercise of
warrants and options -- -- 317,000
Issuance of stock in lieu of
dividends -- -- --
Conversion of Series A preferred stock
to common stock -- -- --
Issuance of stock in private
offerings, net of issuance costs -- -- 613,000
Treasury stock purchased -- (3,117,000) (3,117,000)
Warrants granted to non-employees -- -- 1,910,000
Net loss (22,952,000) -- (22,952,000)
------------ ------------ ------------
Balance, December 31, 1996 $(46,139,000) $ (3,339,000) $ 10,222,000
------------ ------------ ------------
Issuance of stock for exercise of
warrants and options -- -- 890,000
Issuance of Series B Preferred
Stock in private offering, net of
issuance costs -- -- 6,707,000
Issuance of stock in lieu of
dividends -- -- --
Issuance and modifications of
warrants granted to non-employees -- -- 3,205,000
Issuance of stock for settlement
of litigation -- -- 159,000
Net loss (12,457,000) -- (12,457,000)
------------ ------------ ------------
Balance, December 31, 1997 $(58,596,000) $ (3,339,000) $ 8,726,000
------------ ------------ ------------
Issuance of stock in lieu of
dividends -- -- --
Issuance of treasury stock for settlement
of litigation -- 755,000 133,000
Issuance of common stock for settlement
of litigation -- -- 1,200,000
Conversion of Series B preferred stock to
common stock -- -- --
Issuance of common stock in exchange
for cancellation of options and warrants -- -- --
Issuance of treasury stock in exchange
for cancellation of options and warrants -- 1,181,000 --
Accretion of beneficial conversion feature
on Series B preferred stock -- -- 758,000
Issuance of stock for exercise of
warrants and options -- -- 1,000
Warrants granted to non-employees
-- -- 58,000
Net loss (2,551,000) -- (2,551,000)
------------ ------------ ------------
Balance, December 31, 1998 $(61,147,000) $ (1,403,000) $ 8,325,000
============ ============ ============
See accompanying notes to consolidated financial statements.
F-5
39
NTN COMMUNICATIONS, INC. AND SUBSIDIARIES
Consolidated Statements of Cash Flows
For the years ended December 31, 1998, 1997 and 1996
1998 1997 1996
------------ ------------ ------------
Cash flows from operating activities:
Adjustments to reconcile net loss to net cash provided
by (used in) operating activities:
Net loss $ (1,793,000) $(12,457,000) $(22,952,000)
Gain on sale of discontinued operations -- -- (4,219,000)
Gain on sale of interest in subsidiary (1,643,000) -- --
Provision for loss from disposition of broadcast 240,000 2,543,000 2,478,000
equipment
Depreciation and amortization 6,412,000 5,305,000 2,265,000
Bad debt expense 850,000 1,462,000 1,840,000
Non-cash stock compensation charges 353,000 3,205,000 1,910,000
Accreted interest expense 211,000 410,000 57,000
Amortization of deferred revenue (1,022,000) (719,000) (898,000)
Gain on sale of interest in building -- (905,000) --
Stock issued in settlement of litigation -- 159,000 --
Loss from discontinued operations -- -- 1,317,000
Loss from cancellation of notes receivable -- -- 4,252,000
Loss from buyout of lease commitments -- -- 2,007,000
Charge for settlement warrants -- -- 1,234,000
Change in discontinued operations -- -- (2,761,000)
Change in assets and liabilities:
Accounts receivable - trade (627,000) (1,956,000) 448,000
Prepaid expenses and other assets (724,000) 3,542,000 1,430,000
Accounts payable, accrued expenses and
Other accrued liabilities 64,000 (108,000) 3,305,000
Deferred revenue (382,000) 523,000 (1,106,000)
Accruals for management severance and
Long-term liabilities (819,000) (2,008,000) 3,216,000
------------ ------------ ------------
Net cash provided by (used in) operating activities 1,120,000 (1,004,000) (6,177,000)
------------ ------------ ------------
Cash flows from investing activities:
Capital expenditures (3,002,000) (3,700,000) (4,411,000)
Proceeds from sale of interest in subsidiary 1,862,000 -- --
Notes receivable (70,000) -- 216,000
Software development costs (10,000) (1,020,000) (2,274,000)
Proceeds from sale of interest in building -- 1,405,000 --
Proceeds from sale and leaseback transactions -- -- 3,553,000
Proceeds from sale of discontinued operations -- -- 10,223,000
------------ ------------ ------------
Net cash (used in) provided by investing activities (1,220,000) (3,315,000) 7,307,000
------------ ------------ ------------
F-6
40
NTN COMMUNICATIONS, INC. AND SUBSIDIARIES
Consolidated Statements of Cash Flows, Continued
For the years ended December 31, 1998, 1997 and 1996
1998 1997 1996
----------- ----------- -----------
Cash flows from financing activities:
Principal payments under capital lease obligations $ (104,000) -- --
Principal payments on debt -- $(9,563,000) --
Proceeds from issuance of debt -- 4,470,000 $ 3,704,000
Purchase of equipment related to sale and leaseback
transactions -- -- (2,553,000)
Proceeds from issuance of common and preferred stock,
less issuance costs paid in cash -- 7,597,000 930,000
Repurchase of common stock -- -- (3,117,000)
----------- ----------- -----------
Net cash provided by (used in) financing activities (104,000) 2,504,000 (1,036,000)
----------- ----------- -----------
Net (decrease) increase in cash and cash equivalents (204,000) (1,815,000) 94,000
Cash and cash equivalents at beginning of year 4,764,000 6,579,000 6,485,000
----------- ----------- -----------
Cash and cash equivalents at end of year $ 4,560,000 $ 4,764,000 $ 6,579,000
=========== =========== ===========
Supplemental disclosures of cash flow information:
Cash paid during the year for:
Interest $ 121,000 $ 367,000 $ --
=========== =========== ===========
Income taxes $ -- $ -- $ --
=========== =========== ===========
Supplemental disclosure of non-cash investing and
financing activities:
Equipment acquired under capital leases $ 464,000 $ 258,000 $ --
=========== =========== ===========
Transfer of assets previously categorized as
Inventory, a current asset, to Broadcast
Equipment, a non-current asset $ -- $ -- $ 5,618,000
=========== =========== ===========
See accompanying notes to consolidated financial statements.
F-7
41
NTN COMMUNICATIONS, INC. AND SUBSIDIARIES
Notes to Consolidated Financial Statements
For the years ended December 31, 1998, 1997 and 1996
(1) ORGANIZATION AND SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
DESCRIPTION OF BUSINESS
NTN Communications, Inc. ("NTN") develops, produces and
distributes individual and multi-player interactive
entertainment programs to a variety of media platforms. NTN
broadcasts a wide variety of games trivia and informational
programming, to group viewing locations such as hotels,
sports taverns and restaurants through its own interactive
NTN Network. In addition, NTN brings multi-player interactive
games into consumer households through its arrangement with
personal computer on-line services and interactive television
services.
BASIS OF ACCOUNTING PRESENTATION
The consolidated financial statements include the accounts of
NTN and its wholly-owned subsidiaries, IWN Inc. ("IWN") and
IWN, L.P. ("the Company").
On June 16, 1998, the Company sold an 82.5% interest in
LearnStar, Inc. (LearnStar) to NewStar Learning Systems,
L.L.C. (NewStar) for $1,862,000. The transaction resulted in a
gain of $1,643,000, which is included in other income for the
year ended December 31, 1998. Sally A. Zoll, President of
LearnStar, and Joe King, a partner with former NTN Director Ed
Frazier in Frazier/King Media Holding, each hold an equity
interest in NewStar. Upon closing of the transaction, Ed
Frazier resigned from the Board of Directors of NTN in order
to avoid any perception of a conflict of interest between his
ongoing business relationship with Mr. King and NTN's
continued minority interest in LearnStar.
In 1994, the Company also formed IWN, Inc. ("IWN"), which
serves as the general partner of IWN, L.P., a limited
partnership engaged in the development of interactive
technology for gaming applications. IWN has no business or
operations apart from its service as the general partner of
IWN L.P. On April 1, 1998, the Company reached an agreement
in principal with Omnigon, a California corporation, to sell
up to 90% of the equity of IWN to Omnigon on or before May 31,
1998. Onmigon paid the Company $100,000 in April 1998 and an
additional $100,000 in May 1998 for the option to acquire IWN
under specific terms. Subsequently, however, the Company
terminated negotiations with Omnigon for the proposed sale of
IWN. As agreed, the Company used the non-refundable payments
made by Omnigon to pay the operating expenses of IWN prior to
the cancellation of the proposed transaction. NTN redirected
IWN's business strategy toward the Australian, New Zealand and
Asian marketplace, and building upon its existing venture in
that market with IWN Australasia Limited (IWN-A). NTN and
IWN-A, in which NTN holds a 25% equity interest, have agreed
that IWN will provide research and development and technical
support for IWN-A operations over the next several months.
IWN-A will fund the development and support activities.
CASH AND CASH EQUIVALENTS
For the purpose of financial statement presentation, the
Company considers all highly liquid investment instruments
with original maturities of three months or less to be cash
equivalents. Cash and cash equivalents consist of operational
cash accounts and money market accounts with original
maturities of three months or less. Included in cash and cash
equivalents is $466,000 which is segregated in accordance with
terms of operating lease agreements.
BROADCAST EQUIPMENT AND FIXED ASSETS
Depreciation of fixed assets is computed using the
straight-line method over the estimated useful lives of the
assets (three to five years). Depreciation of broadcast
equipment is computed using the straight-line method over the
estimated useful lives of the assets (two to four years).
Amortization of fixed assets under capital leases is computed
using the straight-line method over the shorter of the
estimated useful lives of the assets or the lease period.
REVENUE RECOGNITION
Network and Online/Internet Services: Revenue is recognized
as the service is provided by the Company.
Advertising: Revenue for advertising is recognized ratably
over the contract period as advertisements are broadcast or
displayed.
Equipment Sales: Revenue is recognized when equipment is
shipped or transferred to the purchaser.
Other Revenue: Revenue is recognized when all material
services or conditions relating to the transaction have been
performed or satisfied.
INCOME TAXES
Income taxes are accounted for under the asset and liability
method. Deferred tax assets and liabilities are recognized
for the future tax consequences attributable to differences
between the financial statement carrying amounts of existing
assets and liabilities and their respective tax bases, and
operating loss and tax credit carryforwards. Deferred tax
assets and liabilities are measured using enacted tax rates
expected to apply to taxable income in the years in which
those temporary differences are expected to be recovered or
settled. The effect on deferred tax assets and liabilities of
a change in tax rates is recognized in income in the period
that includes the enactment date.
F-8
42
NTN COMMUNICATIONS, INC. AND SUBSIDIARIES
Notes to Consolidated Financial Statements, Continued
For the years ended December 31, 1998, 1997 and 1996
SOFTWARE DEVELOPMENT COSTS
The Company capitalizes costs related to the development of
certain software products. In accordance with Statement of
Financial Accounting Standards ("SFAS") No. 86, "Accounting
for the Costs of Computer Software to be Sold, Leased, or
Otherwise Marketed" capitalization of costs begins when
technological feasibility has been established and ends when
the product is available for general release to customers.
Amortization of costs related to interactive programs is
recognized on a straight line basis over three years.
STOCK-BASED COMPENSATION
Prior to January 1, 1996, the Company accounted for its stock
option plans in accordance with the provisions of Accounting
Principles Board Opinion ("APB") No. 25, "Accounting for
Stock Issued to Employees", and related interpretations. As
such, compensation expense would be recorded on the date of
grant only if the current market price of the underlying
stock exceeded the exercise price. On January 1, 1996, the
Company adopted SFAS No. 123, "Accounting for Stock-Based
Compensation", which permits entities to recognize as expense
over the vesting period, the fair value of all stock- based
awards on the date of grant. Alternatively, SFAS No. 123 also
allows entities to continue to apply the provisions of APB
No. 25 and provide pro forma net income and pro forma
earnings per share disclosures for employee stock options
grants made in 1996 and future years as if the
fair-value-based method defined in SFAS No. 123 had been
applied. The Company has elected to continue to apply the
provisions of APB No. 25 and provide the pro forma disclosure
provisions of SFAS No. 123.
Under SFAS No. 123, options or warrants issued to
non-employees in exchange for goods or services received are
recorded at the fair value of the consideration received or
the fair value of the equity instruments issued, whichever is
more reliably measurable.
IMPAIRMENT OF LONG-LIVED ASSETS AND LONG-LIVED ASSETS TO BE DISPOSED OF
Long-lived assets and certain identifiable intangibles are
reviewed for impairment whenever events or changes in
circumstances indicate that the carrying amount of an asset
may not be recoverable. Recoverability of assets to be held
and used is measured by a comparison of the carrying amount
of an asset to future net cash flows (undiscounted and without
interest) expected to be generated by the asset. If such
assets are considered to be impaired, the impairment to be
recognized is measured by the amount by which the carrying
amount of the assets exceeds the fair value of the assets.
Assets to be disposed of are reported at the lower of the
carrying amount or fair value less costs to sell.
FAIR VALUE OF FINANCIAL INSTRUMENTS
The Company believes that the fair value of financial
instruments approximate their carrying value. The following
methods and assumptions were used to estimate the fair value
of financial instruments:
The carrying values of cash and cash equivalents, accounts
receivable, accounts payable and accrued liabilities
approximates fair value because of the short maturity of
these instruments. The fair value of the accrual for
settlement warrants and other long-term liabilities are
determined using the present value of expected future cash
flows discounted at the interest rate currently available to
the Company.
F-9
43
NTN COMMUNICATIONS, INC. AND SUBSIDIARIES
Notes to Consolidated Financial Statements, Continued
For the years ended December 31, 1998, 1997 and 1996
CONCENTRATION OF CREDIT RISK
The Company provides services to group viewing locations,
generally bars and lounges, and to third party distributors,
primarily throughout the United States. In addition, the
Company licenses its technology and products to licensees
outside of the United States. Concentration of credit risk
with respect to trade receivables is limited due to the
large number of customers comprising the Company's customer
base, and their dispersion across many different industries
and geographies. The Company performs ongoing credit
evaluations of its customers and generally requires no
collateral. The Company maintains an allowance for doubtful
accounts to provide for credit losses.
USE OF ESTIMATES
The preparation of financial statements in conformity with
generally accepted accounting principles requires management
of the Company to make estimates and assumptions that affect
the reported amount of assets and liabilities and the
disclosure of contingent assets and liabilities at the date
of the financial statements and the reported amounts of
revenue and expenses during the reporting period. Actual
results could differ from those estimates.
BASIC AND DILUTED EARNINGS PER COMMON SHARE
The Company computes basic and diluted earnings per share in
accordance with SFAS No. 128, "Earnings per Share". Basic EPS
excludes the dilutive effects of options, warrants and other
convertible securities. Diluted EPS reflects the potential
dilution of securities that could share in the earnings of
the Company. Options, warrants and convertible preferred stock
representing approximately 5,569,000, 17,630,000 and 1,078,000
shares were excluded from the computations of net loss per
common share for the years ended December 31, 1998, 1997 and
1996, respectively, as their effect is anti-dilutive. The
Company anticipates issuing 218,400 additional shares of
common stock to investors pursuant to certain anti-dilution
provisions.
Reflected in the net loss available to common shareholders for
the year ended December 31, 1998 is the accretion of the
beneficial conversion feature on the Series B Preferred Stock
in the amount of $758,000. The amount of the beneficial
conversion feature is measured at the date of issue of the
convertible security as the difference between the conversion
price and the market value of the common stock into which the
security is convertible. This amount is accounted for as a
non-cash dividend on the convertible preferred stock with the
same amount credited to additional paid-in capital, allocated
over the period from issuance to first convertibility.
Therefore, there is no impact to shareholders' equity. The
beneficial conversion feature was fully accreted as of June
30, 1998. As described in Note 7 to the consolidated financial
statements, the Company entered into an exchange agreement
with the holders of the Series B Preferred Stock.
RECLASSIFICATIONS
Certain items in the 1997 and 1996 consolidated financial
statements have been reclassified to conform to the 1998
presentation.
(2) DISCONTINUED OPERATIONS - NEW WORLD COMPUTING
On June 30, 1996, the Company sold all of the assets and
business of its New World Computing subsidiary ("New World")
to the 3DO Company ("3DO") for approximately $13,600,000. In
consideration of the sale, 3DO issued to the Company
approximately 1,018,000 shares of its common stock and
assumed approximately $1,600,000 of liabilities of New World.
3DO guaranteed that the cash value realized by the Company
upon sale of the shares would not be less than $10.04 per
share, notwithstanding the market price of such shares. The
Company sold all of the 3DO shares in 1996 and obtained
payment of $3,877,000 from 3DO pursuant to the guarantee.
The disposal of New World has been classified as discontinued
operations in the accompanying consolidated financial
statements for the year ended December 31, 1996. The Company
recorded a gain on the sale of New World of $4,219,000, net
of tax of $16,000. New World's revenue through the sale date
was $2,085,000.
F-10
44
NTN COMMUNICATIONS, INC. AND SUBSIDIARIES
Notes to Consolidated Financial Statements, Continued
For the years ended December 31, 1998, 1997 and 1996
(3) MANAGEMENT REORGANIZATION
On March 5, 1997, the Company announced a reorganization of its
executive management personnel in which Patrick J. Downs resigned as
Chief Executive Officer and Chairman of the Board and Daniel C. Downs
resigned as President. In addition, three other officers resigned or
were terminated in connection with the reorganization
("Reorganization"). The Company entered into separate agreements
("Agreements") with each of the former officers setting out the terms
on which their existing employment contracts with the Company would be
settled. In compliance with the Agreements, the Company continues to
pay the former officers their current annual salaries and other
benefits for the remaining terms of their employment agreements with
the Company, which expire on or before December 31, 1999.
In March 1998, the Company and three of the former officers agreed to
an amendment of the Agreements. The Agreements were modified to extend
the payment term an additional year to December 31, 2000 and provided
for reductions of amounts to be paid in 1998 and 1999 totaling
$272,000 and $355,000, respectively. Medical and life insurance
benefits pursuant to the Agreements were also extended to December 31,
2000.
Pursuant to the Agreements, in 1997 the Company canceled an aggregate
of 2,325,000 of outstanding warrants and options to purchase Common
Stock of the Company previously issued to the former officers. In
addition, the Company agreed to extend the exercise period and reduce
the exercise price of certain other warrants and options retained by
the former officers.
Total charges related to the Reorganization are comprised of the
following:
1997 1996
---------- ----------
Contractual payments for Agreements, net of discount $3,128,000 $ 840,000
Cancellation of notes receivable and related accrued
interest of $216,000 from former officers -- 4,252,000
Cancellation of note receivable from President 150,000 --
Bonus granted to President 85,000 --
Charge related to extension of the exercise period and
reduction in the exercise price of certain warrants
and options 1,450,000 --
---------- ----------
Total charges $4,813,000 $5,092,000
========== ==========
Interest expense totaling $56,000 and $185,000 was incurred in 1998
and 1997, respectively, related to the Agreements.
Effective December 31, 1996, as a result of the Reorganization, a
total of $4,252,000 of loans to former officers and the related
interest were cancelled including personal loans made to Alan
Magerman, a former director and Patrick J. Downs of $185,000 and
$251,000, respectively.
Upon joining the Company as Chief Financial Officer, Gerald Sokol,
Jr. (Mr. Sokol is no longer with the Company) was granted a total
of 700,000 options to purchase Common Stock at prices ranging from
$5.00 to $5.08 per share. The options were exercisable as follows:
100,000 upon grant, 200,000 in three equal annual installments and
400,000 exercisable only if the closing price of the Common Stock
was at least $11 per share for ten consecutive days prior to August
15, 1998. All of the options were subject to acceleration in the
event of a "Change in Control Event" as defined. Such a Change of
Control Event occurred in March 1997 as a consequence of the
Reorganization and all the options became vested and exercisable in
full at that time. Also as a result of the Reorganization in 1997,
the Board of Directors granted Gerald Sokol Jr. an additional
600,000 options to purchase the Common Stock of the Company.
F-11
45
NTN COMMUNICATIONS, INC. AND SUBSIDIARIES
Notes to Consolidated Financial Statements, Continued
For the years ended December 31, 1998, 1997 and 1996
(4) BROADCAST EQUIPMENT AND FIXED ASSETS
Broadcast equipment and fixed assets are recorded at cost and consist
of the following:
1998 1997
----------- ------------
Broadcast equipment $ 9,243,000 $ 8,602,000
Furniture and fixtures 294,000 296,000
Machinery and equipment 3,958,000 3,463,000
Leasehold Improvements 472,000 472,000
Equipment under capital lease 724,000 258,000
Other equipment 36,000 181,000
------------ ------------
14,727,000 13,272,000
Accumulated depreciation (7,478,000) (5,299,000)
------------ ------------
$ 7,249,000 $ 7,973,000
============ ============
In February 1999, the Company introduced a second network to be
broadcast for a fee to the Hospitality industry. Deployment of the New
Network to subscriber locations is scheduled to begin in April 1999.
The Company currently plans to operate the current network for
approximately 18 more months. The Company has evaluated the estimated
useful lives of the equipment and technology relating to the existing
network. Accordingly, beginning in February 1999, the Company will
depreciate these amounts over the estimated remaining life of 18
months.
Beginning in 1993 and through June 30, 1996, the Company had entered
into various sale and leaseback arrangements. In the fourth quarter of
1996, the Company completed a plan to repurchase equipment related to
the prior years' lease arrangements. The Company recorded a charge of
approximately $2,007,000 related to the termination of these lease
arrangements. This charge is included in equipment lease expense in
1996. Management does not intend to use sale and leaseback arrangements
as a method of financing in future periods and does not intend to
purchase equipment to be held as inventory for sale. Accordingly, in
the fourth quarter of 1996, the Company reclassified all remaining
inventory to broadcast equipment and began recording depreciation
charges on all assets placed in service.
(5) SHORT-TERM BORROWINGS
In December 1995, the Company entered into a sale, purchase and
investment agreement ("Agreement") with Symphony LLC ("Symphony"), an
unaffiliated company whereby Symphony purchased 10% interest in IWN for
$350,000 and would make capital contributions totaling $2,650,000 to
IWN L.P., a limited partnership of which IWN is the general partner. In
accordance with the Agreement, the Company issued to Symphony a warrant
to purchase 400,000 shares of the Company's Common Stock, exercisable
at $4.125 per share.
The Agreement included a provision whereby Symphony had the option to
put ("Put Option") its partnership interest in IWN L.P. and its shares
of IWN to the Company during the period from April 1, 1997 through
December 1, 1997 for certain consideration. The amount contributed by
Symphony was recorded as a short-term borrowing and the Company has
consolidated the accounts and results of operations of IWN L.P. in the
financial statements.
On April 8, 1997, Symphony exercised the Put Option. In June 1997, the
Company paid Symphony $3,556,000 in full payment of the Put Option.
Included in this amount was accrued interest of $261,000 and an
additional capital contribution made in 1997 by Symphony of $400,000.
In addition, the warrant to purchase 400,000 shares of the Company's
Common Stock was cancelled.
In June 1997, the Company borrowed $3,700,000 from GTECH Corp.
("GTECH"), with whom it had agreed in principle to enter into a merger
agreement. Of this amount, $3,556,000 was used to pay Symphony as noted
above. The merger agreement was terminated in August 1997. The loan
bore interest at the rate of 13% per year and was secured by a pledge
of all of the capital stock of IWN Inc. and a collateral assignment of
the Company's partnership interest in IWN L.P. On November 3, 1997, the
Company repaid the entire outstanding principal and accrued interest of
$3,883,000 to GTECH with a portion of the proceeds of a private
placement of preferred stock.
(6) COMMON STOCK OPTIONS AND WARRANTS
The Company has two active stock option plans. The 1995 Employee Stock
Option Plan (the "Option Plan") was approved by the shareholders in
1995 and was subsequently amended. Under the Option Plan, options for
the purchase of the Company's common stock may be granted to officers,
directors and employees. Options may be designated as incentive stock
options or as nonqualified stock options and generally vest over four
years, except, the Board of Directors, at its discretion, can
authorize acceleration of vesting periods. Options under the Option
Plan, which have a term of up to ten years, are exercisable at a price
per share not less than the fair market value on the date of grant.
The aggregate number of shares authorized for issuance under the
Option Plan is 7,000,000.
In addition, the Company has issued options pursuant to a Special
Stock Option Plan ("Special Plan"). Options issued under the Special
Plan are made at the discretion of the Board of Directors and are
designated only as nonqualified options. The options generally have a
term of up to ten years, are exercisable at a price per share not less
than the fair market value on the date of grant and vest over various
terms.
A summary of the status of the Company's two active stock option plans
as of December 31, 1998, 1997 and 1996 and changes during the years
ended on those dates is presented below.
F-12
46
NTN COMMUNICATIONS, INC. AND SUBSIDIARIES
Notes to Consolidated Financial Statements, Continued
For the years ended December 31, 1998, 1997 and 1996
Special Plan Option Plan
------------------------------ --------------------------------
Weighted Average Weighted Average
Shares Exercise Price Shares Exercise Price
---------- ----------------- ---------- ----------------
Outstanding December 31, 1995 -- -- 4,540,000 $ 5.84
Granted 600,000 $ 5.00 2,398,000 3.69
Exercised -- -- (29,000) 3.07
Canceled -- -- (220,000) 5.52
---------- ---------- ---------- ----------
Outstanding December 31, 1996 600,000 5.00 6,689,000 5.09
Granted 430,000 3.30 1,947,000 2.66
Exercised -- -- (45,000) 2.08
Canceled -- -- (3,503,000) 5.58
---------- ---------- ---------- ----------
Outstanding December 31, 1997 1,030,000 3.01 5,088,000 3.47
Granted 104,000 2.81 3,290,000 0.93
Exercised -- -- -- --
Canceled (430,000) 3.30 (3,721,000) 3.59
---------- ---------- ---------- ----------
Outstanding December 31, 1998 704,000 $ 2.81 4,657,000 $ 1.58
========== ========== ========== ==========
Exercisable as of December 31, 1996 -- -- 3,534,000 $ 6.04
Exercisable as of December 31, 1997 740,000 $ 3.09 3,080,000 $ 3.96
Exercisable as of December 31, 1998 638,000 $ 2.81 1,091,000 $ 3.04
In April 1998, the Board of Directors approved the issuance of 564,000
options with exercise price of $1.00 in exchange for the cancellation
of various prior employee options under the Option Plan with exercise
prices ranging from $2.00 to $6.50. No compensation expense was
recorded as a result of the issuance.
In May 1997, the Board of Directors approved a modification to
previously issued options under the Special and Option Plans whereby
the exercise price of 1,612,000 options issued to certain members of
the Board of Directors, management and employees was reduced to $2.81.
The previous exercise prices ranged from $3.50 to $5.08. No
compensation expense was recorded as a result of the modification.
In January 1998, the Company issued approximately 759,000 shares of Common Stock
in exchange for the surrender and cancellation of certain previously outstanding
warrants and options to purchase approximately 2,578,000 shares of Common Stock
at exercise prices ranging from $2.00 to $5.75 per share. The fair market value
of the shares issued was approximately $900,000, which was less than the fair
value of the warrants and options received in the exchange.
In March 1998, the Company issued approximately 277,000 shares of Common Stock
to two former officers in exchange for the surrender and cancellation of certain
previously outstanding warrants and options to purchase 1,500,000 shares of
Common Stock at exercise prices ranging from $2.00 to $4.75 per share. The fair
market value of the shares issued was approximately $242,000, which was less
than the fair value of the warrants and options received in the exchange.
A summary of options exercisable and the weighted average fair value of options
issued in 1998 and 1997 are as follows:
1998 1997
------------- -------------
Special Plan:
Options exercisable at end of year 638,000 740,000
============= =============
Weighted average fair value of options
granted during the year $ 0.85 $ 3.74
============= =============
Option Plan:
Options exercisable at end of year 1,091,000 3,080,000
============= =============
Weighted average fair value of options
granted during the year $ 0.72 $ 2.58
============= =============
F-13
47
NTN COMMUNICATIONS, INC. AND SUBSIDIARIES
Notes to Consolidated Financial Statements, Continued
For the years ended December 31, 1998, 1997 and 1996
The following table summarizes information about the Special Plan and
the Option Plan as of December 31, 1998.
Options Outstanding Options
Exercisable
Weighted Average
Range of Number Remaining Weighted Average Number Weighted Average
Exercise Prices Outstanding Contractual Life Exercise Price Exercisable Exercise Price
---------------- ----------- ---------------- ---------------- ----------- ----------------
Special Plan:
$2.81 704,000 5 years $2.81 638,000 $2.81
Option Plan:
$0.56 - $1.50 3,095,000 10 years $0.90 -- $ --
$1.51 - $3.00 1,289,000 7 years $2.70 851,000 $2.76
$3.01 - $6.50 273,000 4 years $3.96 240,000 $4.02
The Company has issued various options pursuant to the Special Plan to
non-employees to purchase common stock in 1997, the majority of which
were exercisable as of December 31, 1997. In compliance with SFAS No.
123, the Company expensed $354,000 in 1997 associated with the grant of
134,000 options in 1997. The fair value of each grant in 1997 was
estimated on the date of grant using the Black-Scholes option-pricing
model with the following weighted-average assumptions: dividend yield
of 0% percent, risk-free interest rate of 6.5%, expected volatility of
179%, and an expected option life of 5 years.
The Company applies APB Opinion No. 25 and related interpretations in
accounting for its stock option plans. Accordingly, no compensation
cost has been recognized in the consolidated financial statements for
the issuance of options to employees pursuant to the Special Plan and
the Option Plan. Had compensation cost related to employees for the
Company's stock-based compensation plans been determined consistent
with SFAS No. 123, the Company's net loss and net loss per share
applicable to common stock would have been increased to the pro forma
amounts indicated below.
1998 1997 1996
---- ---- ----
Net loss As reported $2,551,000 $12,457,000 $22,952,000
Pro forma $4,365,000 $16,733,000 $27,823,000
Net loss per share As reported $ 0.10 $ 0.55 $ 1.02
Pro forma $ 0.17 $ 0.74 $ 1.23
Pro forma net loss reflects only options granted in 1998, 1997 and
1996. Therefore, the full impact of calculating compensation cost for
options under SFAS No. 123 is not reflected in the pro forma net loss
amounts presented above since compensation cost is reflected over the
option vesting periods and compensation cost for options granted prior
to January 1, 1996 are not considered. The fair value of each option
grant in 1998, 1997 and 1996 is estimated on the date of grant using
the Black-Scholes option-pricing model with the following
weighted-average assumptions: 1998 - dividend yield of 0% percent,
risk-free interest rates ranging from 4.15% to 5.26%, expected
volatility of 188%, and expected option lives ranging from 3 years to 7
years; 1997 - dividend yield of 0%, risk-free interest rate of 6.5%,
expected volatility of 179%, and expected option lives ranging from 5
years to 10 years; 1996 - dividend yield of 0%, risk-free interest
rates ranging from 6.5% to 6.8%, expected volatility of 90%, and
expected option lives ranging from 5 years to 10 years.
The weighted average fair value of warrants granted during 1998, 1997
and 1996 was $0.50, $1.83 and $3.11, respectively. In compliance with
SFAS No. 123, the Company expensed $1,401,000 in 1997 and $1,910,000
in 1996 associated with the grant of 1,065,000 warrants in 1997 and
616,000 warrants in 1996, respectively.
F-14
48
NTN COMMUNICATIONS, INC. AND SUBSIDIARIES
Notes to Consolidated Financial Statements, Continued
For the years ended December 31, 1998, 1997 and 1996
At December 31, 1998, 1997 and 1996, the weighted average exercise
price of exercisable warrants was $2.49, $3.63 and $4.10 respectively.
The fair value of each warrant grant in 1998, 1997 and 1996 is
estimated on the date of grant using the Black-Scholes option-pricing
model with the following weighted-average assumptions: 1998 - dividend
yield of 0% percent, risk- free interest rate of 4.23%, expected
volatility of 188%, and an expected warrant life of 2.3 years; 1997 -
dividend yield of 0% percent, risk-free interest rate of 6.5%,
expected volatility of 179%, and an expected warrant life of 10 years;
1996 - dividend yield of 0% percent, risk-free interest rates ranging
from 5.3% to 6.5%, expected volatility of 90%, and an expected warrant
live of 5 years. The following summarizes warrants issued and
outstanding and weighted average exercise prices:
OUTSTANDING WEIGHTED AVERAGE
WARRANTS EXERCISE PRICES
----------- ----------------
December 31, 1995 4,189,000 3.95
Granted 616,000 4.45
Exercised (224,000) 2.34
Canceled --
----------
December 31, 1996 4,581,000 4.10
Granted 1,065,000 1.83
Exercised (374,000) 2.07
Canceled (1,078,000) 4.39
----------
December 31, 1997 4,194,000 3.63
Granted 1,000,000 1.25
Exercised -- --
Canceled (2,291,000) 4.02
----------
December 31, 1998 2,903,000 2.49
==========
(7) CUMULATIVE CONVERTIBLE PREFERRED STOCK
The Company has authorized 10,000,000 shares of preferred stock. The
preferred stock may be issued in one or more series. The only series
currently designated are a series of 5,000,000 shares of Series A
Cumulative Convertible Preferred Stock ("Series A Preferred Stock")
and a series of 85,000 shares of Series B Preferred Stock.
Series A
At December 31, 1998 and 1997, there were 161,000 shares of Series A
Preferred Stock issued and outstanding. The Series A Preferred Stock
provides for a cumulative annual dividend of 10%, payable in
semi-annual installments in June and December. Dividends may be paid
in cash or with shares of common stock. In 1998, 1997 and 1996, the
Company issued approximately 19,000, 8,000 and 3,000 common shares,
respectively, for payment of dividends. At December 31, 1998, the
cumulative unpaid dividends for the Series A Preferred Stock was
approximately $1,300.
The Series A Preferred Stock has no voting rights and has a $1.00 per
share liquidation preference over common stock. The registered holder
has the right at any time to convert shares of Series A Preferred
Stock into that number of shares of NTN Common Stock that equals the
number of shares of Series A Preferred Stock that are surrendered for
conversion divided by the conversion rate. The conversion rate is
subject to adjustment in certain events and is established at the time
of each conversion. During 1998 and 1997, there were no conversions.
During 1996, approximately 2,000 shares of Series A Preferred Stock
converted into approximately 400 shares of Common Stock. There are no
mandatory conversion terms or dates associated with the Series A
Preferred Stock.
F-15
49
NTN COMMUNICATIONS, INC. AND SUBSIDIARIES
Notes to Consolidated Financial Statements, Continued
For the years ended December 31, 1998, 1997 and 1996
Series B
In October 1997, NTN sold and issued 35,000 shares of Series B
Preferred Stock each to two institutional purchasers ("the Investors")
for a total of $7,000,000. The sale of the Series B Preferred Stock was
effected pursuant to Regulation D of the Securities and Exchange
Commission under the Securities Act of 1993 as amended. The Company
paid $210,000 in financial advisory services in connection with the
sale of the Series B Preferred Stock. A portion of the net proceeds
from the private placement was used to repay indebtedness and accrued
interest to GTECH totaling $3,883,000. The balance was used for general
working capital purposes.
As of October 5, 1998, 14,000 shares of the Series B Preferred Stock
(plus accrued dividends) had been converted into 2,430,000 shares of
common stock of the Company, leaving 56,000 shares of the Series B
Preferred Stock outstanding. On October 5, 1998, NTN entered into an
Exchange Agreement with the Investors pursuant to which they agreed to
surrender for cancellation their remaining shares of Series B
Preferred Stock in exchange for warrants and convertible notes as
described below. Pending their surrender and cancellation, the
dividend rate on the Series B Preferred Stock was increased from 4% to
7% and the conversion price of the Series B Preferred Stock was fixed
at $1.275 per share consistent with the interest rate and conversion
price under the convertible notes described below.
The Company also agreed to issue each of the Investors a 7%
Convertible Senior Subordinated Note of the Company in a principal
amount equal to the stated value of their Series B Preferred Stock,
plus accrued and unpaid dividends through the date of issuance of the
convertible notes.
The convertible notes were issued January 11, 1999 and bear interest
at the annual rate of 7% per annum. Interest is due and payable in
quarterly installments, in arrears, and the entire principal amount
will be due and payable on February 1, 2001. Interest on the
convertible notes may be paid in cash or, at NTN's election, in shares
of its common stock valued for this purpose at 90% of the average
closing bid price of the common stock during the 10 trading days
preceding the interest payment date.
At any time after a period of 20 consecutive trading days during which
the daily "Market Price" (as defined in the Exchange Agreement) of the
common stock equals or exceeds $1.75 (subject to adjustment), the
Company may elect upon 45 days prior written notice to prepay all or
any portion of the convertible notes at a price of 105% of the
outstanding principal amount, plus accrued and unpaid interest. The
convertible notes will continue to be convertible, however, at any
time prior to prepayment in full. The convertible notes must be
prepaid in connection with a merger or consolidation of the Company or
other "Major Transaction" (as defined in the Exchange Agreement) if
the consideration per share of common stock in the Major Transaction
is at least $1.50. In such event, the prepayment price will be 105% of
the outstanding principal amount of the convertible notes, plus
accrued and unpaid interest.
The holders of the convertible notes may convert them at any time, in
whole or in part, at their option. The number of shares of common
stock issuable upon conversion of each convertible note will be
determined by dividing the outstanding principal amount to be
converted, plus any accrued and unpaid interest, by the conversion
price then in effect. The conversion price will be $1.275 per share,
subject to adjustment if certain events, including stock dividends or
subdivisions or reclassifications of the common stock or any sale or
issuance of common stock (or of rights or options to subscribe for or
purchase common stock) for no consideration or for a consideration per
share less than the "Average Market Price" (as defined in the Exchange
Agreement) of the common stock. The actual number of shares of common
stock issuable upon any conversion of the convertible notes will
depend on the conversion price in effect on the relevant conversion
date.
The convertible notes are subordinate in right of payment to the prior
payment of all "Senior Debt" (as defined in the Exchange Agreement).
The Company is restricted under the terms of the convertible notes
from incurring any Senior Debt in excess of $10,000,000 or any other
indebtedness (except Senior Debt and "Subordinated Debt" (as defined
in the Exchange Agreement)) in excess of $2,000,000 at any time.
The Company will be in default under the convertible notes if it fails
to pay any principal or interest on the convertible notes when due,
and in certain other events, including in the event of a material
adverse change in the condition, financial or otherwise, or operations
of the Company as determined by the holders of the convertible notes
in their discretion. If the Company defaults under the convertible
notes, in the discretion of the holders of the convertible notes, the
entire outstanding principal amount of the convertible notes and all
accrued and unpaid interest will become immediately due and payable in
full.
F-16
50
NTN COMMUNICATIONS, INC. AND SUBSIDIARIES
Notes to Consolidated Financial Statements, Continued
For the years ended December 31, 1998, 1997 and 1996
On October 5, 1998, in consideration for their entering into the
Exchange Agreement on October 5, 1998, NTN issued to each of the
Investors a warrant to purchase 500,000 shares of common stock at an
initial purchase price of $1.25 per share. The purchase price of shares
of common stock under the warrants will be subject to reduction based
on the future "Market Price" (as defined) of the common stock as
follows: the purchase price will be (i) $0.75, if the daily Market
Price on each day during any 10 consecutive trading days shall be equal
to or greater than $1.75 but less than $2.00; (ii) $0.625, if the daily
Market Price on each day during any 10 consecutive trading days shall
be equal to or greater than $2.00 but less than $2.25; (iii) $0.50, if
the daily Market Price on each day during any 10 consecutive trading
days shall be equal to or greater than $2.25 but less than $2.50; (iv)
$0.375, if the daily Market Price on each day during any 10 consecutive
trading days shall be equal to or greater than $2.50 but less than
$3.00; (v) $0.25, if the daily Market Price on each day during any 10
consecutive trading days shall be equal to or greater than $3.00 but
less than $4.00; and (vi) $0.005, if the daily Market Price on each day
during any 10 consecutive trading days shall be equal to or greater
than $4.00. No adjustments to the purchase price will be made to
increase the purchase price in effect at any time. The warrants are
exercisable at any time on or before February 1, 2001. In the event,
however, that a "Major Transaction" (as defined in the Convertible
Notes) occurs, NTN may elect upon 30 days prior written notice to the
warrant holders to accelerate the expiration date of the warrants so
long as the consideration per share of common stock which would be
received by the warrant holders in the Major Transaction exceeds the
then-applicable purchase price per share under the warrants.
The warrants contain certain antidilution provisions that require
adjustments in the purchase price and the number of shares of common
stock purchasable in the event of a stock dividend, subdivision or
combination of the outstanding shares of common stock or in the event
of a recapitalization of the Company and certain similar events. In
addition, the exercise price and number of shares purchasable under
the warrants are to be adjusted in the event the Company issues
additional shares of common stock (or rights or options to subscribe
for or purchase common stock) for no consideration, or for a
consideration per share of common stock less than the "Current Market
Price" (as defined) of the common stock under any employee stock
option plan or other employee plan approved by the Company's Board of
Directors, provided that the exercise or purchase price is not less
than 85% of the fair market value on the date of grant. The warrants
allow for cashless exercises by means of the Company's withholding of
shares of common stock otherwise issuable to the holder, which shares
are to be valued for this purpose based on the market price of the
common stock at the time.
A registration statement on Form S-3 covering 4,637,516 shares of
common stock, some or all of which may be issuable upon conversion of
the 7% convertible senior subordinated notes, was declared effective
by the Securities and Exchange Commission on January 8, 1999.
(8) RETIREMENT AND SAVINGS PLANS
DEFINED CONTRIBUTION PLAN
During 1994, the Company established a defined contribution
plan which is organized under Section 401(k) of the Internal
Revenue Code, which allows employees who have completed at
least six months of service or reached age 21, whichever is
later, to defer up to 15% of their pay on a pre-tax basis.
The Company, at its discretion, may contribute to the plan.
For the years ended December 31, 1998, 1997 and 1996, the
Company made no such contributions.
DEFINED BENEFIT PENSION PLAN
In connection with the Reorganization in 1997, the Company
terminated a non-qualified, non-contributory pension plan
that covered certain former officers. There were no accrued
pension benefits payable to any participants upon termination
of the plan. The plan was secured by whole- life insurance
policies for certain former officers. The Company had
previously borrowed funds against these assets. Upon
termination, the loans were repaid and the net assets were
liquidated.
F-17
51
NTN COMMUNICATIONS, INC. AND SUBSIDIARIES
Notes to Consolidated Financial Statements, Continued
For the years ended December 31, 1998, 1997 and 1996
DEFERRED COMPENSATION PLAN
In connection with the Reorganization in 1997, the Company
terminated an unfunded, non-qualified deferred compensation
plan that covered certain former officers. The accrued plan
benefits of $580,000 included in accrued expenses as of
December 31, 1996 were substantially paid to participants in
1997. Unpaid benefits at December 31, 1998 and 1997 were
$29,000 and $58,000, respectively.
(9) INCOME TAXES
For each of the years ended December 31, 1998, 1997 and 1996, there
was no provision for current or deferred income taxes. The components
that comprise deferred tax assets and liabilities at December 31, 1998
and 1997 are as follows:
1998 1997
------------ ------------
Deferred tax assets:
NOL carryforwards $ 17,295,000 $ 14,527,000
Legal and litigation accruals 361,000 1,465,000
Allowance for doubtful accounts 719,000 549,000
Compensation and vacation accrual 779,000 1,021,000
Accrued Expenses 1,032,000 240,000
Sale and leaseback transactions -- 119,000
Allowance for equipment obsolescence 133,000 333,000
Deferred revenue 280,000 396,000
Research and experimentation credit 247,000 247,000
Depreciation 376,000 --
Charitable contributions 12,000 --
Other -- 73,000
------------ ------------
Total gross deferred tax assets 21,234,000 18,970,000
Valuation allowance (20,703,000) (17,572,000)
------------ ------------
Net deferred tax assets 531,000 1,398,000
------------ ------------
Deferred tax liabilities:
Capitalized software 457,000 1,263,000
Amortization 55,000 --
Depreciation -- 135,000
Other 19,000 --
------------ ------------
Total gross deferred liabilities 531,000 1,398,000
------------ ------------
Net deferred taxes $ -- $ --
============ ============
The reconciliation of computed expected income taxes to effective
income taxes by applying the federal statutory rate is as follows:
1998 1997 1996
----------- ----------- -----------
Tax at federal income tax rate $ (610,000) $(4,235,000) $(7,804,000)
State taxes net of federal benefit (105,000) (142,000) 139,000
Settlement warrants and SFAS 123 charges 84,000 1,109,000 650,000
Nondeductible expenses of IWN 299,000 -- --
Sale of LearnStar (559,000) -- --
Change in valuation allowance 3,131,000 2,768,000 3,077,000
Adjustments of net operating loss carryforwards (2,313,000) 563,000 3,694,000
Other 73,000 (63,000) 244,000
----------- ----------- -----------
$ -- $ -- $ --
=========== =========== ===========
F-18
52
NTN COMMUNICATIONS, INC. AND SUBSIDIARIES
Notes to Consolidated Financial Statements, Continued
For the years ended December 31, 1998, 1997 and 1996
The net change in the total valuation allowance for the years ended
December 31, 1998, 1997 and 1996 was an increase of $3,131,000,
$2,768,000 and $3,077,000, respectively. In assessing the
realizability of deferred tax assets, management considers whether it
is more likely than not that some portion or all of the deferred tax
assets will not be realized. The ultimate realization of deferred tax
assets is dependent upon the generation of future taxable income
during the periods in which those temporary differences become
deductible. Management considers the scheduled reversal of deferred
tax liabilities, projected future taxable income, and tax planning
strategies in making this assessment. Based on the level of historical
operating results and projections for the taxable income for the
future, management has determined that it is more likely than not that
the portion of deferred tax assets not utilized through the reversal
of deferred tax liabilities will not be realized. Accordingly, the
Company has recorded a valuation allowance to reduce deferred tax
assets to the amount that is more likely than not to be realized.
At December 31, 1998, the Company has available net operating loss
carryforwards of approximately $48,387,000 for federal income tax
purposes, which begin to expire in 2006. The net operating loss
carryforwards for state purposes, which began expiring in 1998 are
approximately $9,547,000.
(10) COMMITMENTS AND CONTINGENCIES
OPERATING LEASES
The Company leases office and production facilities and equipment under
agreements which expire at various dates. Certain leases contain
renewal provisions and generally require the Company to pay utilities,
insurance, taxes and other operating expenses. Additionally, the
Company has entered into lease agreements for certain equipment used in
broadcast operations, some of which involve sale and leaseback
transactions. Any deferred gains on sale and leaseback transactions are
amortized over the three year lease terms. Each lease provides an
option to the Company to repurchase the equipment at the estimated fair
market value at the end of the lease term. Included in other current
assets at December 31, 1998 and in other assets at December 31, 1997
are security deposits totaling $184,000 relating to these agreements.
Lease expense under operating leases totaled $1,505,000, 1,299,000 and
$5,648,000, in 1998, 1997 and 1996, respectively, net of sublease
income of $46,000 in 1998.
In November 1997, the Company sold its interest in a LLC that owns the
building containing the Company's corporate office. A gain of $905,000
was recognized in 1997.
Future minimum lease obligations under noncancelable operating leases,
net of expected sublease payments of $148,000 in 1999, $154,000 in 2000
and $79,000 in 2001, at December 31, 1998 are as follows:
YEARS ENDING TOTAL
------------ ----------
1999 $ 831,000
2000 322,000
2001 15,000
----------
Total $1,168,000
==========
CAPITAL LEASES
The Company entered into capital leases for the purchase of new
equipment. Future minimum lease payments under the capital leases
together with the present value of the net minimum lease payments as
of December 31, 1998 are as follows:
F-19
53
NTN COMMUNICATIONS, INC. AND SUBSIDIARIES
Notes to Consolidated Financial Statements, Continued
For the years ended December 31, 1998, 1997 and 1996
YEAR ENDING TOTAL
----------- ---------
1999 $ 263,000
2000 263,000
2001 134,000
2002 21,000
2003 17,000
---------
Total minimum lease payments 698,000
Less: Amount representing interest
ranging from 9.25% to 23.9% (113,000)
---------
Present value of net minimum lease payments 585,000
Less current portion (205,000)
---------
Long term portion $ 380,000
=========
Property under capital leases follows:
1998 1997
-------- -------
Equipment 724,000 258,000
Accumulated depreciation (159,000) (23,000)
-------- --------
$565,000 $235,000
======== ========
(11) LEGAL ACTIONS
The Company is involved in various claims and legal actions arising in
the ordinary course of business. In the opinion of management, the
ultimate disposition of these matters will not have a material adverse
effect on the Company's consolidated financial position taken as a
whole.
In February 1998, the Company completed its previously announced
settlement of a class-action lawsuit pending against the Company since
1993. The terms of the settlement were as follows: A settlement fund
was established consisting of $400,000 in cash plus 565,000 warrants
to purchase the Common Stock of the Company ("Settlement Warrants").
Each Settlement Warrant has a term of three years from February 18,
1998. The Settlement Warrants were issued on February 18, 1998 and
entitle the holder of a Settlement Warrant to purchase a share of
Common Stock of the Company at a price of $0.96. During the period
from February 18, 2000 to February 18, 2001, the holders of Settlement
Warrants have the right, but not the obligation, to put the Settlement
Warrants to the Company for repurchase at a price of $3.25 per
Settlement Warrant (the "Put Right"), provided, however, that this Put
Right shall expire, if at any time after February 18, 1998 the closing
price per share of the Company's Common Stock on the American Stock
Exchange is more than $4.21 on any seven trading days, whether
consecutive or not. Upon expiration of the Put Right, the Company
shall have no further obligation to repurchase the Settlement
Warrants. In no event shall the Company have any obligation to
repurchase its Common Stock.
Although the Put Right may expire based on the closing price of the
Common Stock over the next two years, the Company has recognized the
potential liability related to the Put Right. Accordingly, a charge of
$1,291,000 for the present value (discounted at 15%) and related
interest expense for the Put Right was recognized in 1996. The
difference between the amount expensed and the total potential
liability, $545,000, will be accreted as interest expense and charged
over the period from September 1996 until February 18, 2000. A total
of $154,000 and $225,000 was charged to interest expense related to
the Put Right in 1998 and 1997, respectively.
F-20
54
NTN COMMUNICATIONS, INC. AND SUBSIDIARIES
Notes to Consolidated Financial Statements, Continued
For the years ended December 31, 1998, 1997 and 1996
On April 18, 1995, a class action lawsuit was filed in United States
District Court for the Southern District of California entitled Lenora
Isaacs, on behalf of herself and all others similarly situated vs. NTN
Communications and Patrick J. Downs. The complaint alleges violations
of federal securities laws based upon the Company's projections for the
fourth quarter of 1994 and for the 1994 fiscal year, and further
alleges that certain of the Company's insiders sold stock on
information not generally known to the public. As previously reported,
the Company has agreed to a settlement having a total value of
$1,450,000. The settlement which was approved by the Court in January
1998, consists of $250,000 in cash with the remaining balance of
$1,200,000 being payable with the Company's common stock or in cash, at
the Company's election. A change of $2,800,000 was recorded in 1996 for
the estimated settlement. In the fourth quarter of 1997, the Company
reduced the accrual for the settlement and accordingly reduced its
legal expense by $1,350,000 as a result of the change in estimate
related to the settlement. In September 1998, the Company issued a
total of 1,200,000 shares of common stock, issued at a fixed price of
$1.00 per share, pursuant to the settlement of this class action
lawsuit which was approved by the court in January 1998.
On June 11, 1997, the Company was included as a defendant in a
class-action lawsuit, entitled Eliot Miller and Jay Iyer, shareholders
on behalf of themselves and all others similarly situated vs. NTN
Communications, Inc., Patrick J. Downs, Daniel C. Downs, Donald C.
Klosterman, Ronald E. Hogan, Gerald P. McLaughlin and KPMG Peat
Marwick LLP, filed in the United States District Court for the
Southern District of California. The complaint alleges violations of
state and federal securities laws based upon purported omissions from
the Company's filings with the Securities and Exchange Commission.
More particularly, the complaint alleges that the directors and former
officers devised an "exit strategy" to provide themselves with undue
compensation upon their resignation from the Company. The plaintiffs
further allege that defendants made false statements about, and failed
to disclose, contingent liabilities (guaranteed compensation to
management and the right of an investor in IWN to require the Company
to repurchase its investment during 1997) and phantom assets (loans to
management) in the Company's financial statements and KPMG LLP's audit
reports, all of which served allegedly to inflate the trading price of
the Company's Common Stock. On November 7, 1997, the court granted
KPMG LLP's motion to dismiss the plaintiffs' claims against it
pursuant to Rule 12(b)(6) of the Federal Rules of Civil Procedure for
failure to state a claim upon which relief may be granted.
On July 3, 1997, the Company filed a motion to dismiss the lawsuit. On
November 6, 1997, the Court dismissed all of the plaintiff's state law
causes of action against the Company but retained the plaintiff's
federal law causes of action. In February 1998, the attorneys
representing the plaintiffs in this litigation filed an action entitled
Dorman vs. NTN Communications, Inc. in the Superior Court of San Diego
County, California in which they essentially replead the state law
causes of action dismissed in the federal lawsuit. The Company has
filed a motion for summary judgment in each action. In March 1999, the
Court issued a telephonic ruling granting the Company's motion in the
Dorman matter; however, judgment has not yet been entered. In the
Company's opinion, the claims in these two lawsuits are covered by
directors and officers liability insurance providing $10,000,000 of
coverage. The Company has submitted these claims to its directors and
officers liability insurance underwriters, who have accepted such
claims subject to reservation of rights. The Company's deductible under
the insurance policy is $200,000 per claim.
The Company has been involved as a plaintiff or defendant in various
previously reported lawsuits in both the United States and Canada
involving Interactive Network, Inc. ("IN"). With the court's
assistance, the Company and IN have been able to reach a resolution of
all pending disputes in the United States and have agreed to private
arbitration regarding any future licensing, copyright or infringement
issues which may arise between the parties. There remain two lawsuits
involving the Company, its unaffiliated Canadian licensee and IN,
which were filed in Canada in 1992. No action was taken in the
Canadian litigation until May 1998, when IN gave notice of its
intention to proceed. In November 1998, the Company and its Canadian
licensee filed a counterclaim against IN. These actions affect only
the Canadian operations of the Company and its Canadian licensee and
do not extend to the Company's operations in the United States or
elsewhere. Although they cannot be estimated with certainty, any
damages the Company might incur are not expected to be material.
In November, 1997, a former advertising manager brought a suit against
the Company alleging breach of an alleged employment contract and age
discrimination. The age discrimination claims were subsequently
dismissed. The court rendered judgment in the amount of $167,000 plus
interest in favor of the plaintiff. The Company has agreed to pay this
judgment over a twelve month period beginning March 5, 1999.
In March, 1998, the Company's former independent representative in the
State of Georgia filed suit against the Company in Atlanta, Georgia
alleging wrongful termination of its distributor agreement and other
breaches of such agreement. The Company has filed a motion to amend to
bring a counterclaim seeking damages for fraud and conversion against
the former sales representative. It is not anticipated at the present
time that the outcome of this lawsuit will have a material adverse
effect on the financial position of the Company taken as a whole.
F-21
55
NTN COMMUNICATIONS, INC. AND SUBSIDIARIES
Notes to Consolidated Financial Statements, Continued
For the years ended December 31, 1998, 1997 and 1996
In March 1998, the Company entered into a Compromise Settlement and
Mutual Release Agreement in settlement of a prior arrangement between
the Company and a former independent representative under which he and
companies affiliated with him acted as independent distributors of the
NTN Network. Pursuant to the Settlement Agreement, the Company paid
$156,000 in cash and issued 175,000 shares of common stock to the
former independent representative.
The Company's Playmaker(R) systems which are installed in over 2,900
hospitality locations throughout the United States utilize the MS-DOS
operating system software. NTN does not have a license to use MS-DOS
for this purpose, and, in September 1998, the Company received
correspondence from counsel to Microsoft Corporation and related
inquires from the Business Software Alliance and Software Publishers
Association, two industry associations, requesting information
regarding our use of MS-DOS. In response, NTN conducted an internal
audit and produced the results to counsel to the three entities. Based
on the audit results, it has been determined that NTN has insufficient
licensing for the MS-DOS in use in the hospitality locations.
Settlement negotiations are currently underway in an effort to resolve
this matter with the software publishing entities. It is possible that
NTN will be required to pay Microsoft for its prior use of MS-DOS, and
at present the Company cannot predict what effect this may have on its
future financial condition or results of operations. The Company
believes that its accrual for litigation costs is adequate to cover any
potential settlement required to be paid.
There can be no assurance that any or all of the foregoing claims will
be decided in favor of the Company, which is not insured against all
claims made. During the pendency of such claims, the Company will
continue to incur the costs of defense of same. Other than set forth
above, there is no material litigation pending or threatened against
the Company.
F-22
56
(12) SEGMENT INFORMATION
The Company analyzes segment performance based on revenue. Network
Services comprise 78% of the Company's total revenue and is the only
reportable segment. The following tables set forth certain information
regarding the Company's segments and other operations:
1998 1997 1996
------------ ------------ ------------
Revenues:
Network Services $ 18,785,000 $ 19,009,000 $ 19,269,000
Other 5,409,000 6,852,000 6,442,000
------------ ------------ ------------
Total Revenues $ 24,194,000 $ 25,861,000 $ 25,711,000
============ ============ ============
Operating income (loss):
Network Services $ 7,093,000 $ 13,680,000 $ 12,291,000
Other 2,317,000 4,573,000 543,000
Corporate (12,857,000) (31,060,000) (38,689,000)
------------ ------------ ------------
Operating Loss $ (3,447,000) $(12,807,000) (25,855,000)
============ ============ ============
Total Assets:
Network Services $ 6,963,000 $ 10,510,000 $ 11,897,000
Other 1,403,000 1,971,000 2,152,000
Corporate 8,401,000 7,790,000 14,455,000
------------ ------------ ------------
Total Assets $ 16,767,000 $ 20,271,000 28,504,000
============ ============ ============
Capital Expenditures and
Software Development Costs:
Network Services $ 2,383,000 $ 4,050,000 $ 5,844,000
Other -- -- --
Corporate 629,000 670,000 841,000
------------ ------------ ------------
Capital Expenditures and
Software Development Costs $ 3,012,000 $ 4,720,000 6,685,000
============ ============ ============
Depreciation and amortization:
Network Services 4,815,000 4,730,000 1,614,000
Other 232,000 -- 129,000
Corporate 1,365,000 575,000 522,000
------------ ------------ ------------
Total depreciation and
amortization 6,412,000 5,305,000 2,265,000
============ ============ ============
F-23
57
Schedule II
NTN COMMUNICATIONS, INC. AND SUBSIDIARIES
Valuation and Qualifying Accounts(a)
Years ended December 31, 1998, 1997 and 1996
ADDITIONS BALANCE
ALLOWANCE FOR BALANCE AT CHARGED TO AT END
DOUBTFUL ACCOUNTS BEGINNING EXPENSE DEDUCTIONS(b) OF PERIOD
----------------- ---------- ---------- -------------- ----------
1996 $ 558,000 1,840,000 835,000 $1,563,000
1997 $1,563,000 1,462,000 1,712,000 $1,313,000
1998 $1,313,000 850,000 443,000(c) $1,720,000
(a) On June 30, 1996, the Company sold all of the assets and business of its
New World Computing subsidiary. The disposal of New World has been classified
as a discontinued operation in the accompanying consolidated financial
statements and the consolidated financial statement schedule above for all
prior periods.
(b) Reflects trade accounts receivable written off during the year.
(c) In June 1998, the Company sold 82.5% of its interest in LearnStar, Inc. The
deductions for 1998 include $379,000 related to the allowance for LearnStar,
Inc. at the time of the sale.
See accompanying independent auditors report.
F-24
58
SIGNATURES
Pursuant to the requirements of Section 13 or 15(d) of the Securities
Exchange Act of 1934, the Registrant has duly caused this report to be signed
on its behalf by the undersigned, thereunto duly authorized.
DATED: March 29, 1999 NTN COMMUNICATIONS, INC.
By: /s/ KENDRA BERGER
---------------------------
Chief Financial Officer
Pursuant to the requirements of the Securities Exchange Act of 1934,
this report has been signed below by the following persons on behalf of the
Registrant and in the capacities and on the dates indicated.
SIGNATURE TITLE DATE
--------- ----- ----
/s/ STANLEY B. KINSEY Chief Executive Officer and March 29, 1999
- - ---------------------------- Chairman of the Board
Stanley B. Kinsey
/s/ BARRY BERGSMAN Director March 29, 1999
- - ----------------------------
Barry Bergsman
/s/ ROBERT M. BENNETT Director March 29, 1999
- - ----------------------------
Robert M. Bennett
/s/ DONALD C. KLOSTERMAN Director March 29, 1999
- - ----------------------------
Donald C. Klosterman
/s/ ESTHER L. RODRIGUEZ Director March 29, 1999
- - ----------------------------
Esther L. Rodriguez
59
INDEX TO EXHIBITS
EXHIBIT
NO. DESCRIPTION
------- -----------
10.1 Amended and Restated Certificate of Incorporation of the
Company, as amended (13)
10.2 By-laws of the Company (2)
10.5 License Agreement with NTN Canada (4)
10.6 National Football League License Agreement (4)
10.7 Lease of Office with The Campus L.L.C. (7)
10.15* Resignation and General Release Agreement, dated December
31, 1996 between NTN Communications, Inc. and Patrick J.
Downs. (9)
10.16* Resignation and General Release Agreement, dated December
31, 1996 between NTN Communications, Inc. and Daniel C.
Downs. (9)
10.17* Resignation and General Release Agreement, dated December
31, 1996 between NTN Communications, Inc. and Ronald E.
Hogan (9)
10.18* Resignation and General Release Agreement, dated December
31, 1996 between NTN Communications, Inc. and Gerald P.
McLaughlin. (9)
10.19* Resignation and General Release Agreement, dated December
31, 1996 between NTN Communications, Inc. and Michael J.
Downs. (9)
10.20* Resignation and General Release Agreement, dated December
31, 1996 between NTN Communications, Inc. and Robert
Klosterman. (9)
10.21* Letter agreement, dated March 4, 1997, between NTN and
Alan Magerman.(9)
10.22* Consulting Agreement, dated as of December 31, 1996,
between NTN Communications Inc. and Patrick J. Downs. (9)
10.23* Consulting Agreement, dated as of December 31, 1996,
between NTN Communications Inc. and Daniel C. Downs. (9)
10.24* Consulting Agreement, dated as of December 31, 1996,
between NTN Communications Inc. and Ronald E. Hogan. (9)
10.25* Consulting Agreement, dated as of December 31, 1996,
between NTN Communications Inc. and Gerald P. McLaughlin.
(9)
10.26* Consulting Agreement, dated as of March 14, 1997, between
NTN Communications Inc. and Donald Klosterman. (9)
10.27* General Release, dated as of December 31, 1996, between
NTN Communications Inc. and Patrick J Downs. (9)
10.28* General Release, dated as of December 31, 1996, between
NTN Communications Inc. and Daniel C. Downs. (9)
10.29* General Release, dated as of December 31, 1996, between
NTN Communications Inc. and Ronald E. Hogan. (9)
10.30* General Release, dated as of December 31, 1996, between
NTN Communications Inc. and Gerald P. McLaughlin. (9)
10.31* General Release, dated as of December 31, 1996, between
NTN Communications Inc. and Michael J. Downs. (9)
60
10.32* General Release, dated as of December 31, 1996, between
NTN Communications Inc. and Robert Klosterman. (9)
10.33* Special Stock Option dated August 18, 1996 between NTN
Communications, Inc. and Gerald Sokol, Jr.(9)
10.34* Special Stock Option dated August 25, 1996 between NTN
Communications, Inc. and Robert Bennett (9)
10.35* Special Stock Option dated August 30, 1996 between NTN
Communications, Inc. and Edward C. Frazier (9)
10.36* Amendment to Nonqualified Stock Option Agreement, dated as
of April 14, 1997, between NTN Communications, Inc. and
Edward C. Frazier. (11)
10.41 Compromise Settlement and Mutual General Release by and
between NTN Communications, Inc. and Interactive
Entertainment Systems and Barry N. Hurley (13)
10.42 Warrant Agreement, dated as of February 18, 1998 between
NTN Communications, Inc. and American Stock Transfer and
Trust Company, as warrant agent, including a form of
warrant certificate. (13)
10.44* Performance Incentive Stock Option Agreement dated
November 4, 1996 by and between NTN Communications, Inc.
and Gerald Sokol, Jr. (13)
10.45* Nonqualified Stock Option Agreement dated May 14, 1997 by
and between NTN Communications, Inc. and Gerald Sokol, Jr.
(13)
10.46 Exclusive Maintenance and Installation Agreement dated
March 30, 1998 by and between NTN Communications, Inc. and
Datatec Systems, Inc. (13)
10.47* Modification to Resignation Agreement, dated as of March
9, 1998 by and between NTN Communications, Inc. and Daniel
C. Downs (13)
10.48* Modification to Resignation Agreement, dated as of March
9, 1998 by and between NTN Communications, Inc. and
Patrick J. Downs (13)
10.49* Modification to Resignation Agreement, dated as of March
20, 1998 by and between NTN Communications, Inc. and
Ronald E. Hogan (13)
10.50* Employment Agreement, dated July 1, 1998, by and between
NTN Communications, Inc. and Gerald Sokol, Jr.
10.51 Sublease Agreement, dated August 20, 1998, between NTN
Communications, Inc. and WinResources Computing, Inc.
10.52* Employment Agreement, dated October 7, 1998, by and
between NTN Communications, Inc. and Stanley B. Kinsey
10.53* Stock Option Agreement, dated October 7, 1998, by and
between NTN Communications, Inc. and Stanley B. Kinsey
10.54* Resignation and Release Agreement, dated February 18,
1999, by and between NTN Communications, Inc. and Gerald
Sokol, Jr.
10.55 Exchange Agreement, dated October 5, 1998, by and between
NTN Communications, Inc. and the Buyers (as defined) (13)
23.00 Consent of KPMG LLP. (1)
27.00 Financial Data Schedule. (1)
* Management Contract or Compensatory Plan.
(1) Filed herewith.
(2) Previously filed as an exhibit to the Company's
registration statement on Form S-8, File No. 33-75732, and
incorporated by reference.
(3) Previously filed as an exhibit to the Company's report on
Form 10-K for the year ended December 31, 1989, and
incorporated by reference.
(4) Previously filed as an exhibit to the Company's report on
Form 10-K for the year ended December 31, 1990, and
incorporated by reference.
(5) Previously filed as an exhibit to the Company's report on
Form 8-K dated December 31, 1993, and incorporated by
reference.
(6) Previously filed as an exhibit to the Company's report on
Form 10-K for the year ended December 31, 1993, and
incorporated herein by reference.
61
(7) Previously filed as an exhibit to the Company's report on
Form 10-K for the year ended December 31, 1994, and
incorporated herein by reference.
(8) Previously filed as an exhibit to the Company's report on
Form 10-K for the year ended December 31, 1995, and
incorporated herein by reference.
(9) Previously filed as an exhibit to the Company's report on
Form 8-K dated March 5, 1997 and incorporated by
reference.
(10) Previously filed as an exhibit to the Company's report on
Form 8-K dated June 30, 1996 and incorporated by reference
(11) Previously filed as an exhibit to the Company's report on
Form 10-K dated December 31, 1996 and incorporated by
reference.
(12) Previously filed as an exhibit to the Company's report on
Form 8-K dated November 7, 1997 and incorporated by
reference.
(13) Previously filed as an exhibit to the Company's
registration statement on Form S-3, File No. 333-69383,
and incorporated by reference.
(14) Filed herewith.