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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-Q 
 
ý QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
 
For the quarterly period ended June 30, 2014
 
OR 
¨ TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
 
For the transition period from          to        
 
Commission file number: 0-13063 
SCIENTIFIC GAMES CORPORATION
(Exact name of registrant as specified in its charter)
Delaware
 
81-0422894
(State or other jurisdiction of
 
(I.R.S. Employer Identification No.)
incorporation or organization)
 
 
 
750 Lexington Avenue, New York, New York 10022
(Address of principal executive offices)
(Zip Code)
 
(212) 754-2233
(Registrant’s telephone number, including area code)
 
Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes ý No ¨
Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (§ 232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files). Yes ý No ¨
Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, or a smaller reporting company. See the definitions of “large accelerated filer,” “accelerated filer” and “smaller reporting company” in Rule 12b-2 of the Exchange Act. (Check one):
Large accelerated filer  ¨
 
Accelerated filer ý
 
 
 
Non-accelerated filer ¨
 
Smaller reporting company ¨
(Do not check if a smaller reporting company)
 
 
Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act). Yes ¨ No ý
The registrant has the following number of shares outstanding of each of the registrant’s classes of common stock as of August 1, 2014:
Class A Common Stock: 84,649,405
Class B Common Stock: None





SCIENTIFIC GAMES CORPORATION AND SUBSIDIARIES
INDEX TO FINANCIAL INFORMATION
AND OTHER INFORMATION
THREE AND SIX MONTHS ENDED JUNE 30, 2014
 
 
 
Page
 
 
 
Item 1.
Financial Statements
6
 
 
 
 
Consolidated Statements of Operations and Comprehensive Loss for the Three and Six Months Ended June 30, 2014 and 2013
6
 
 
 
 
Consolidated Balance Sheets as of June 30, 2014 and December 31, 2013
8
 
 
 
 
Consolidated Statements of Cash Flows for the Six Months Ended June 30, 2014 and 2013
9
 
 
 
 
Notes to Consolidated Financial Statements
10
 
 
 
Item 2.
Management’s Discussion and Analysis of Financial Condition and Results of Operations
45
 
 
 
Item 3.
Quantitative and Qualitative Disclosures About Market Risk
68
 
 
 
Item 4.
Controls and Procedures
68
 
 
 
PART II.
OTHER INFORMATION
69
 
 
 
Item 1.
Legal Proceedings
69
 
 
 
Item 1A.
Risk Factors
71
 
 
 
Item 2.
Unregistered Sales of Equity Securities and Use of Proceeds
72
 
 
 
Item 3.
Defaults Upon Senior Securities
73
 
 
 
Item 4.
Mine Safety Disclosures
73
 
 
 
Item 5.
Other Information
73
 
 
 
Item 6.
Exhibits
74



2




Glossary of Terms
 
 
 
As used in this Quarterly Report on Form 10-Q, the terms "we," "us," "our" and the "Company" mean Scientific Games Corporation and its consolidated subsidiaries. The following terms or acronyms used in this Form 10-Q are defined below:
Term or Acronym
Definition
2018 Notes
8.125% senior subordinated notes due 2018 issued by Scientific Games Corporation
2019 Notes
9.250% senior subordinated notes due 2019 issued by SGI
2020 Notes
6.250% senior subordinated notes due 2020 issued by SGI
2021 Notes
6.625% senior subordinated notes due 2021 issued by SGI
ASC
Accounting Standards Codification
ASU
Accounting Standards Update
Barcrest
Barcrest Group Limited, an indirect wholly owned subsidiary of Scientific Games Corporation
China Loans
RMB denominated loans due 2014
CSG
Beijing CITIC Scientific Games Technology Co., Ltd., the instant games supplier to the CSL, in which we have a 49% equity interest
CSL
China Sports Lottery
D&A
depreciation and amortization expense
ESPP
Employee Stock Purchase Plan
FASB
Financial Accounting Standards Board
Global Draw
The Global Draw Limited, an indirect wholly owned subsidiary of Scientific Games Corporation
GLB
Beijing Guard Libang Technology Co., Ltd., a provider of lottery systems and services to the China Welfare Lottery, in which we have a 50% equity interest
Hellenic Lotteries
Hellenic Lotteries S.A., the operator of the Greek state lotteries, in which we have a 16.5% equity interest
ITL
International Terminal Leasing, an entity that leases gaming machines to us for provision to our customers, in which we have a 50% equity interest
LAP
local-area progressive
LBO
licensed betting office
LNS
Lotterie Nazionali S.r.l., the operator of the Gratta e Vinci instant ticket lottery in Italy, in which we have a 20% equity interest
MD&A
Management’s discussion and analysis of financial condition and results of operations
Northstar Illinois
Northstar Lottery Group, LLC, the private manager of the Illinois lottery, in which we have a 20% equity interest
Northstar New Jersey
Northstar New Jersey Lottery Group, LLC, the operating entity that provides marketing and sales services to the New Jersey lottery, in which we have a 17.69% equity interest
Note
refers to a note to our Consolidated Financial Statements, unless otherwise specified
participation
with respect to our lottery business, refers to a contract or arrangement in which we are paid based on a percentage of retail sales
PMA
private management agreement
Provoloto
SG Provoloto, S. de R.L. de C.V., an indirect wholly owned subsidiary of Scientific Games Corporation until February 2014
R&D
research and development expense
RCN
Roberts Communications Network, LLC, a provider of communications services to racing and other customers, in which we have a 29.4% equity interest
RMB
Chinese Renminbi Yuan
RSU
restricted stock unit
SEC
Securities and Exchange Commission
SG&A
selling, general and administrative expense
SGI
Scientific Games International, Inc., a direct wholly owned subsidiary of Scientific Games Corporation
Sportech
Sportech plc, an operator and supplier of sports pools and tote systems, in which we had a 20% equity interest until January 2014
U.S.
United States of America
U.S. GAAP
accounting principles generally accepted in the United States of America
VLT
video lottery terminal
WAP
wide-area progressive
WMS
WMS Industries Inc., a direct wholly owned subsidiary of Scientific Games Corporation


3




Forward-Looking Statements
 
Throughout this Quarterly Report on Form 10-Q, we make "forward-looking statements" within the meaning of the U.S. Private Securities Litigation Reform Act of 1995. Forward-looking statements describe future expectations, plans, results or strategies and can often be identified by the use of terminology such as "may," "will," "estimate," "intend," "continue," "believe," "expect," "anticipate," "should," "could," "potential," "opportunity," or similar terminology. The forward-looking statements contained in this Quarterly Report on Form 10-Q are generally located under the heading “Management’s Discussion and Analysis of Financial Condition and Results of Operations” but may be found in other locations as well. These statements are based upon management's current expectations, assumptions and estimates and are not guarantees of future results or performance. Actual results may differ materially from those contemplated in these statements due to a variety of risks and uncertainties and other factors, including, among other things:

competition;
U.S. and international economic and industry conditions, including declines in or slow growth of lottery retail sales or gross gaming revenues and reductions in or constraints on capital spending by gaming or lottery operators;
slow growth of new gaming jurisdictions, slow addition of casinos in existing jurisdictions and declines in the replacement cycle of gaming machines;
ownership changes and consolidation in the casino industry;
opposition to legalized gaming or the expansion thereof;
inability to adapt to, and offer products that keep pace with, evolving technology;
inability to develop successful gaming concepts and content;
laws and government regulation, including those relating to gaming licenses and environmental laws;
inability to identify and capitalize on trends and changes in the lottery and gaming industries, including the expansion of interactive gaming;
dependence upon key providers in our social gaming business;
inability to retain or renew existing contracts or enter into new contracts, or less favorable modifications to existing contracts;
level of our indebtedness, unavailability or inadequacy of cash flows to satisfy obligations or future needs, and restrictions and covenants in our debt agreements;
protection of our intellectual property, ability to license third party intellectual property and the intellectual property rights of others;
security and integrity of our software and systems and reliance on or failures in our information technology systems;
natural events that disrupt our operations or those of our customers, suppliers or regulators;
inability to benefit from, and risks associated with, strategic equity investments and relationships, including (1) the inability of our joint venture to meet the net income targets or otherwise to realize the anticipated benefits under its PMA with the Illinois Lottery, (2) the inability of our joint venture to meet the net income targets or other requirements under its agreement to provide marketing and sales services to the New Jersey Lottery or otherwise to realize the anticipated benefits under such agreement (including as a result of a protest) and (3) failure to realize the anticipated benefits related to the award to our consortium of an instant lottery game concession in Greece;
failure to achieve the intended benefits of the WMS acquisition, including due to the inability to realize synergies in the anticipated amounts or within the contemplated time-frames or cost expectations, or at all;
inability to complete and integrate future acquisitions, including the pending acquisition or Bally Technologies, Inc. ("Bally") due to the failure to obtain the required approvals or debt financing or otherwise;
litigation related to the pending Bally acquisition;
disruption of our current plans and operations as a result of the pending Bally acquisition;
costs, charges and expenses related to the pending Bally acquisition;
failure to realize the intended benefits of the pending Bally acquisition, including the inability to realize the anticipated synergies in the expected amount or within the anticipated time frames or cost expectations or at all;
incurrence of restructuring costs and impairment charges and compliance with revenue recognition standards
fluctuations in our results due to seasonality and other factors;
dependence on suppliers and manufacturers;
risks relating to foreign operations, including fluctuations in foreign currency exchange rates and restrictions on the import of our products;
dependence on our employees;
litigation and other liabilities relating to our business, including litigation and liabilities relating to our contracts and licenses, our products and systems, our employees, intellectual property and our strategic relationships;
influence of certain stockholders; and
stock price volatility.


4




Additional information regarding risks and uncertainties and other factors that could cause actual results to differ materially from those contemplated in forward-looking statements is included from time to time in our filings with the SEC, including under the heading “Risk Factors” in our most recent Annual Report on Form 10-K. Forward-looking statements speak only as of the date they are made and, except for our ongoing obligations under the U.S. federal securities laws, we undertake no obligation to publicly update any forward-looking statements whether as a result of new information, future events or otherwise.
This Quarterly Report on Form 10-Q may contain references to industry market data and certain industry forecasts. Industry market data and industry forecasts are obtained from publicly available information and industry publications. Industry publications generally state that the information contained therein has been obtained from sources believed to be reliable, but that the accuracy and completeness of that information is not guaranteed. Although we believe industry information to be accurate, it is not independently verified by us and we do not make any representation as to the accuracy of that information. In general, we believe there is less publicly available information concerning the international lottery and gaming industries than the lottery and gaming industries in the U.S.


5


PART I. FINANCIAL INFORMATION

Item 1. Financial Statements

SCIENTIFIC GAMES CORPORATION AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF OPERATIONS AND COMPREHENSIVE LOSS
(Unaudited, in millions, except per share amounts)
 
Three Months Ended
 
Six Months Ended
 
June 30,
 
June 30,
 
2014
 
2013
 
2014
 
2013
Revenue:
 
 
 
 
 
 
 
Instant games
$
135.4

 
$
126.5

 
$
261.6

 
$
249.3

Services
179.3

 
85.2

 
356.1

 
167.0

Product sales
102.2

 
23.3

 
187.3

 
38.3

Total revenue
416.9

 
235.0

 
805.0

 
454.6

Operating expenses:
 
 
 
 
 
 
 
Cost of instant games (1)
72.9

 
71.5

 
142.8

 
139.7

Cost of services (1)
64.6

 
46.2

 
131.1

 
92.4

Cost of product sales (1)
54.9

 
15.7

 
101.3

 
26.0

Selling, general and administrative
95.2

 
44.7

 
187.0

 
93.5

Research and development
24.8

 
1.4

 
50.7

 
3.3

Employee termination and restructuring
4.9

 

 
10.5

 
0.3

Depreciation and amortization
96.0

 
43.1

 
190.1

 
75.9

Operating income (loss)
3.6

 
12.4

 
(8.5
)
 
23.5

Other income (expense):
 
 
 
 
 
 
 
Interest expense
(49.3
)
 
(25.1
)
 
(97.2
)
 
(50.1
)
Earnings from equity investments
0.7

 
3.5

 
6.2

 
9.6

Loss on early extinguishment of debt
(25.9
)
 

 
(25.9
)
 

Gain on sale of equity interest

 

 
14.5

 

Other income (expense), net
3.2

 
0.2

 
6.1

 
(0.8
)
     Total other expense
(71.3
)
 
(21.4
)
 
(96.3
)
 
(41.3
)
Net loss from continuing operations before income taxes
(67.7
)
 
(9.0
)
 
(104.8
)
 
(17.8
)
Income tax expense
(4.7
)
 
(3.4
)
 
(12.6
)
 
(6.9
)
Net loss from continuing operations
$
(72.4
)
 
$
(12.4
)
 
$
(117.4
)
 
$
(24.7
)
 
 
 
 
 
 
 
 
Discontinued operations:
 
 
 
 
 
 
 
Loss from discontinued operations

 
(0.7
)
 

 
(2.6
)
Other expense

 
0.1

 

 

Gain on sale of assets

 

 

 
0.8

Income tax benefit

 

 

 
0.3

Net loss from discontinued operations
$

 
$
(0.6
)
 
$

 
$
(1.5
)
 
 
 
 
 
 
 
 
Net loss
$
(72.4
)
 
$
(13.0
)
 
$
(117.4
)
 
$
(26.2
)
 
 
 
 
 
 
 
 
Other comprehensive income (loss):
 
 
 
 
 
 
 
Foreign currency translation gain (loss)
10.0

 
0.6

 
10.1

 
(38.7
)
Pension and post-retirement (loss) gain, net of tax
(0.2
)
 
0.2

 
(0.1
)
 
0.7

Derivative financial instruments unrealized (loss) gain, net of tax
(5.6
)
 

 
(6.3
)
 
0.7

Other comprehensive income (loss)
4.2

 
0.8

 
3.7

 
(37.3
)
Comprehensive loss
$
(68.2
)
 
$
(12.2
)
 
$
(113.7
)
 
$
(63.5
)
 
(1) Exclusive of depreciation and amortization.


6




SCIENTIFIC GAMES CORPORATION AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF OPERATIONS AND COMPREHENSIVE LOSS (cont'd)
(Unaudited, in millions, except per share amounts)

 
 
Three Months Ended
 
Six Months Ended
 
 
June 30,
 
June 30,
 
 
2014
 
2013
 
2014
 
2013
Basic net loss per share:
 
 
 
 
 
 
 
 
Continuing operations
 
$
(0.86
)
 
$
(0.14
)
 
$
(1.39
)
 
$
(0.29
)
Discontinued operations
 

 
(0.01
)
 

 
(0.02
)
Total basic net loss per share
 
$
(0.86
)
 
$
(0.15
)
 
$
(1.39
)
 
$
(0.31
)
Diluted net loss per share:
 
 
 
 
 
 
 
 
Continuing operations
 
$
(0.86
)
 
$
(0.14
)
 
$
(1.39
)
 
$
(0.29
)
Discontinued operations
 

 
(0.01
)
 

 
(0.02
)
Total diluted net loss per share
 
$
(0.86
)
 
$
(0.15
)
 
$
(1.39
)
 
$
(0.31
)
 
 
 
 
 
 
 
 
 
Weighted average number of shares used in per share calculations:
 
 
 
 
 
 
 
 
Basic shares
 
84.4

 
85.0

 
84.4

 
84.8

Diluted shares
 
84.4

 
85.0

 
84.4

 
84.8



 See accompanying notes to consolidated financial statements.




7


SCIENTIFIC GAMES CORPORATION AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
(in millions, except par value)
 
June 30, 2014
 
December 31, 2013
ASSETS
(Unaudited)
 
 
Current assets:
 
 
 
Cash and cash equivalents
$
89.2

 
$
153.7

Restricted cash
11.8

 
10.9

Accounts receivable, net
326.5

 
346.0

Notes receivable, net
135.0

 
158.7

Inventories
170.3

 
137.8

Deferred income taxes, current portion
35.1

 
35.1

Prepaid expenses, deposits and other current assets
111.3

 
119.3

Total current assets
879.2

 
961.5

Property and equipment, net
766.8

 
772.6

Long-term notes receivable
56.4

 
72.6

Goodwill
1,197.8

 
1,186.9

Intangible assets, net
510.3

 
411.1

Software, net
321.1

 
343.5

Equity investments
329.7

 
367.2

Other assets
122.2

 
126.5

Total assets
$
4,183.5

 
$
4,241.9

 
 
 
 
LIABILITIES AND STOCKHOLDERS’ EQUITY
 
 
 
Current liabilities:
 
 
 
Debt payments due within one year
$
36.2

 
$
30.4

Accounts payable
83.9

 
140.9

Accrued liabilities
280.1

 
285.8

Total current liabilities
400.2

 
457.1

Deferred income taxes
146.1

 
138.0

Other long-term liabilities
223.8

 
109.6

Long-term debt, excluding current installments
3,187.5

 
3,162.2

Total liabilities
3,957.6

 
3,866.9

Commitments and contingencies


 


Stockholders' equity:
 
 
 
Class A common stock, par value $0.01 per share: 199.3 shares authorized; 101.8 and 100.4 shares issued and 84.6 and 85.2 shares outstanding, respectively
1.0

 
1.0

Additional paid-in capital
731.9

 
737.8

Accumulated loss
(353.8
)
 
(236.4
)
Treasury stock, at cost: 17.2 and 15.2 shares held, respectively
(175.2
)
 
(145.7
)
Accumulated other comprehensive income
22.0

 
18.3

Total stockholders' equity
225.9

 
375.0

Total liabilities and stockholders' equity
$
4,183.5

 
$
4,241.9

 
See accompanying notes to consolidated financial statements.




8


SCIENTIFIC GAMES CORPORATION AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
(Unaudited, in millions)
 
Six Months Ended
 
June 30,
 
2014
 
2013
Cash flows from operating activities:
 
 
 
Net loss
$
(117.4
)
 
$
(26.2
)
Adjustments to reconcile net loss to net cash provided by operating activities:
 
 
 
Depreciation and amortization
190.1

 
76.4

Change in deferred income taxes
1.9

 
1.5

Stock-based compensation
13.4

 
11.5

Non-cash interest expense
8.6

 
3.4

Earnings from equity investments, net
(6.2
)
 
(9.6
)
Distributed earnings from equity investments
21.2

 
28.3

Loss on early extinguishment of debt
25.9

 

Gain on sale of equity interest
(14.5
)
 

Changes in current assets and liabilities, net of effects of acquisitions:
 
 
 
Accounts and notes receivable
60.9

 
17.1

Inventories
(30.2
)
 
1.1

Accounts payable
(48.6
)
 
(16.2
)
Accrued liabilities
(4.1
)
 
(15.1
)
Other current assets and liabilities
9.2

 
1.1

Other
(3.1
)
 
(3.3
)
Net cash provided by operating activities
107.1

 
70.0

 
 
 
 
Cash flows from investing activities:
 
 
 
Additions to property and equipment
(21.1
)
 
(15.0
)
Lottery and gaming services expenditures
(44.8
)
 
(43.1
)
Intangible assets and software expenditures
(48.8
)
 
(22.4
)
Proceeds from asset disposals

 
0.9

Change in other assets and liabilities, net
(0.2
)
 
(0.2
)
Additions to equity method investments
(40.6
)
 
(21.4
)
Distributions of capital on equity investments
32.9

 
16.3

Proceeds from sale of equity interest
44.9

 

Restricted cash
(0.9
)
 
1.3

Business acquisitions, net of cash acquired

 
(0.4
)
Net cash used in investing activities
(78.6
)
 
(84.0
)
 
 
 
 
Cash flows from financing activities:
 
 
 
Proceeds from the issuance of long-term debt
347.9

 
2.6

Payments on long-term debt
(364.7
)
 
(11.7
)
Payments of financing fees
(22.8
)
 
(2.0
)
Common stock repurchases
(29.5
)
 

Contingent earnout payments
(3.2
)
 

Net redemptions of common stock under stock-based compensation plans
(19.2
)
 
(2.8
)
Net cash used in financing activities
(91.5
)
 
(13.9
)
Effect of exchange rate changes on cash and cash equivalents
(1.5
)
 
(3.0
)
Decrease in cash and cash equivalents
(64.5
)
 
(30.9
)
Cash and cash equivalents, beginning of period
153.7

 
109.0

Cash and cash equivalents, end of period
$
89.2

 
$
78.1

 
See accompanying notes to consolidated financial statements.



9





SCIENTIFIC GAMES CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited, table amounts in millions, except per share amounts)


(1) Description of the Business and Summary of Significant Accounting Policies
 
Description of the Business
We are a leading diversified supplier of technology-based products and services to the gaming and lottery industries.  Our portfolio includes instant and draw-based lottery games; gaming machines and game content; server-based lottery and gaming systems; sports betting technology; loyalty and rewards programs; and interactive products and services. As a result of our acquisition of WMS in October 2013, we have significantly expanded our global gaming business.
Basis of Presentation and Principles of Consolidation
The accompanying consolidated financial statements of the Company have been prepared in accordance with SEC and U.S. GAAP requirements. All monetary values set forth in these financial statements are in U.S. dollars ("$") unless otherwise stated herein. The accompanying consolidated financial statements include the Company's accounts and subsidiaries that are wholly owned and in which we have a controlling financial interest. Investments in other entities in which we do not have a controlling financial interest but we exert significant influence are accounted for in the consolidated financial statements using the equity method of accounting. All intercompany balances and transactions have been eliminated in consolidation. We have evaluated subsequent events through the date of these financial statements. In the opinion of management, we have made all adjustments necessary to present fairly our consolidated financial position, results of operations, comprehensive loss and cash flows for the periods presented. Such adjustments are of a normal, recurring nature. These consolidated financial statements should be read in conjunction with the consolidated financial statements and notes thereto included in our 2013 Annual Report on Form 10-K. Interim results of operations are not necessarily indicative of results of operations for a full year.
In our Consolidated Statements of Operations and Comprehensive Loss for the three and six months ended June 30, 2013, we reclassified $1.4 million and $3.3 million, respectively, of R&D expense previously included within SG&A to conform to the current-year presentation.
On March 25, 2013, we completed the sale of our installed base of gaming machines in our pub business as discussed in Note 3 (Acquisitions and Dispositions) to this Quarterly Report on Form 10-Q. The results of the discontinued pub operations for the three and six months ended June 30, 2013 are presented herein in accordance with ASC 205, Presentation of Financial Statements - Discontinued Operations. There were no results of operations for this business for the three or six months ended June 30, 2014.

Significant Accounting Policies
 
There have been no changes to our significant accounting policies described in Note 1 in our 2013 Annual Report on Form 10-K except for the addition of our lease accounting policy as described below.

Lease Accounting
 
We account for assets held under lease in accordance with ASC 840, Leases. For leases classified as operating leases, we record expense on a straight-line basis over the base term of the lease agreements. For assets accounted for as capital leases, we record the lower of the net present value of the future minimum lease payments or the fair value of the leased asset at the inception of the lease. Amortization expense is computed using the straight-line method over the shorter of the estimated useful lives of the asset or the period of the related lease.
Recently Issued Accounting Guidance
In January 2014, the FASB issued ASU 2014-05, Service Concession Arrangements (Topic 853), a consensus of the FASB Emerging Issues Task Force, which specified that an operating entity should not account for a service concession arrangement within the scope of the update as a lease in accordance with ASC 840, Leases. The guidance is effective for fiscal years beginning after December 15, 2014. We do not expect ASU 2014-05 to have a material effect on our financial condition, results of operations or cash flows.


10




In April 2014, the FASB issued ASU 2014-08, Reporting Discontinued Operations and Disclosures of Disposals of Components of an Entity. ASU 2014-08 changes the criteria for reporting discontinued operations and modifies related disclosure requirements. The new guidance is effective on a prospective basis for fiscal years beginning after December 15, 2014, and interim periods thereafter. We do not expect ASU 2014-08 to have a material effect on our financial condition, results of operations or cash flows.
In May 2014, the FASB issued ASU No. 2014-09, Revenue from Contracts with Customers. The amended guidance outlines a single comprehensive revenue model for entities to use in accounting for revenue arising from contracts with customers. The guidance supersedes most current revenue recognition guidance, including industry-specific guidance. The core principle of the revenue model is that “an entity recognizes revenue to depict the transfer of promised goods or services to customers in an amount that reflects the consideration to which the entity expects to be entitled in exchange for those goods or services.” ASU 2014-09 is effective for fiscal years, and interim reporting periods within those years, beginning after December 15, 2016 (early adoption is not permitted). The Company is currently evaluating the impact of adopting ASU 2014-09.
In June 2014, the FASB issued ASU No. 2014-12, Accounting for Share-Based Payments When the Terms of an Award Provide That a Performance Target Could Be Achieved after the Requisite Service Period. ASU 2014-12 requires that a performance target that affects vesting and could be achieved after the requisite service period be treated as a performance condition. A reporting entity should apply existing guidance in ASC 718, Compensation—Stock Compensation, as it relates to such awards. ASU 2014-12 is effective for annual periods, and interim periods within those annual periods, beginning after December 15, 2015 with early adoption permitted using either of two methods: (i) prospective to all awards granted or modified after the effective date; or (ii) retrospective to all awards with performance targets that are outstanding as of the beginning of the earliest annual period presented in the financial statements and to all new or modified awards thereafter, with the cumulative effect of applying ASU 2014-12 as an adjustment to the opening retained earnings balance as of the beginning of the earliest annual period presented in the financial statements. We do not expect ASU 2014-12 to have a material effect on our financial condition, results of operations or cash flows.
(2) Reportable Business Segment Information 

We report our operations in three business segments—Instant Products, Lottery Systems and Gaming—representing our different products and services. These are our reportable segments under ASC 280, Segment Reporting. The Instant Products and Lottery Systems business segments are managed by one executive and the Gaming business segment is managed by a different executive, both of whom report to our chief executive officer (who is our "chief operating decision maker" under applicable accounting standards). Our three business segments represent the aggregation of similar operating segments. Our Instant Products business segment is comprised of our instant products operating segment, which provides instant lottery games and related value-added services, as well as licensed brands that are printed on instant lottery games and other promotional lottery products.  Our Lottery Systems business segment is comprised of our lottery systems operating segment, which provides products and services to lottery operators generally comprised of a central system, customized computer software, data communication services, support and/or related equipment.  Our Gaming business segment includes (1) our gaming operating segment, which generally sells new and used gaming machines, conversion kits and parts, and leases or otherwise provides gaming machines, systems and content, to commercial, tribal and governmental gaming operators, and (2) our interactive operating segment, which provides social gaming entertainment and game server services for real money gaming. Additional discussion regarding the products and services from which each reportable business segment derives its revenue is included in Note 1 in our 2013 Annual Report on Form 10-K.
Effective in the fourth quarter of 2013, we revised our business and operating segments to reflect the reorganization of our business following the WMS acquisition and the resulting changes in the financial information regularly reviewed by our chief executive officer. Based on that review, we moved our video systems operating segment from the Lottery Systems business segment to the Gaming business segment. This change, which was effective as of December 31, 2013, had no impact on the Company's consolidated financial statements for any periods. Business segment information for the three and six months ended June 30, 2013 has been adjusted to reflect this change.
The following tables present revenue, cost of revenue, SG&A, R&D, employee termination and restructuring, D&A, operating income (loss) from continuing operations and earnings (loss) from equity investments by business segment for the three and six months ended June 30, 2014 and 2013. Certain unallocated expenses managed at the corporate level, comprised primarily of general and administrative costs and other income (expense), net, are not allocated to our business segments. Segment results below for 2013 do not include the operations of WMS, which we acquired in October 2013. The increase in unallocated corporate costs is primarily related to the addition of WMS in the 2014 results.


11


 
 
Three Months Ended June 30, 2014
 
 
Instant Products
 
Lottery Systems
 
Gaming
 
Total
Revenue:
 
 
 
 
 
 
 
 
Instant games
 
$
135.4

 
$

 
$

 
$
135.4

Services
 

 
51.0

 
128.3

 
179.3

Product sales
 
3.1

 
18.3

 
80.8

 
102.2

Total revenue
 
138.5

 
69.3

 
209.1

 
416.9

Cost of instant games (1)
 
72.9

 

 

 
72.9

Cost of services (1)
 

 
29.6

 
35.0

 
64.6

Cost of product sales (1)
 
2.1

 
14.5

 
38.3

 
54.9

Selling, general and administrative
 
13.7

 
5.9

 
44.6

 
64.2

Research and development
 
0.3

 
0.4

 
24.1

 
24.8

Employee termination and restructuring
 
0.8

 

 
2.2

 
3.0

Depreciation and amortization
 
9.1

 
14.3

 
66.7

 
90.1

Segment operating income (loss) from continuing operations
 
$
39.6

 
$
4.6

 
$
(1.8
)
 
$
42.4

Unallocated corporate costs
 
 
 
 
 
 
 
38.8

Consolidated operating income from continuing operations
 
 
 
 
 
 
 
$
3.6

Earnings (loss) from equity investments
 
$
(2.4
)
 
$
0.8

 
$
2.3

 
$
0.7


(1) Exclusive of depreciation and amortization.
 
 
 
Three Months Ended June 30, 2013
 
 
Instant Products
 
Lottery Systems
 
Gaming
 
Total
Revenue:
 
 
 
 
 
 
 
 
Instant games
 
$
126.5

 
$

 
$

 
$
126.5

Services
 

 
49.7

 
35.5

 
85.2

Product sales
 
3.5

 
14.7

 
5.1

 
23.3

Total revenue
 
130.0

 
64.4

 
40.6

 
235.0

Cost of instant games (1)
 
71.5

 

 

 
71.5

Cost of services (1)
 

 
27.1

 
19.1

 
46.2

Cost of product sales (1)
 
2.5

 
9.9

 
3.3

 
15.7

Selling, general and administrative
 
11.7

 
5.4

 
4.9

 
22.0

Research and development
 
0.2

 
0.8

 
0.4

 
1.4

Depreciation and amortization
 
8.8

 
12.8

 
21.3

 
42.9

Segment operating income (loss) from continuing operations
 
$
35.3

 
$
8.4

 
$
(8.4
)
 
$
35.3

Unallocated corporate costs
 
 
 
 
 
 
 
22.9

Consolidated operating income from continuing operations
 
 
 
 
 
 
 
$
12.4

Earnings (loss) from equity investments
 
$
4.3

 
$
0.5

 
$
(1.3
)
 
$
3.5


(1) Exclusive of depreciation and amortization.



12


 
 
Six Months Ended June 30, 2014
 
 
Instant Products
 
Lottery
Systems
 
Gaming
 
Total
Revenue:
 
 

 
 

 
 

 
 

Instant games
 
$
261.6

 
$

 
$

 
$
261.6

Services
 

 
101.1

 
255.0

 
356.1

Product sales
 
6.2

 
32.8

 
148.3

 
187.3

Total revenue
 
267.8

 
133.9

 
403.3

 
805.0

Cost of instant games (1)
 
142.8

 

 

 
142.8

Cost of services (1)
 

 
60.0

 
71.1

 
131.1

Cost of product sales (1)
 
4.1

 
26.2

 
71.0

 
101.3

Selling, general and administrative
 
26.7

 
11.5

 
90.5

 
128.7

Research and development
 
0.5

 
0.8

 
49.4

 
50.7

Employee termination and restructuring
 
1.2

 

 
7.4

 
8.6

Depreciation and amortization
 
17.3

 
28.6

 
130.4

 
176.3

Segment operating income (loss) from continuing operations
 
$
75.2

 
$
6.8

 
$
(16.5
)
 
$
65.5

Unallocated corporate costs
 
 

 
 

 
 

 
74.0

Consolidated operating loss from continuing operations
 
 

 
 

 
 

 
$
(8.5
)
Earnings from equity investments
 
$
3.0

 
$
1.2

 
$
2.0

 
$
6.2


(1) Exclusive of depreciation and amortization.

 
 
Six Months Ended June 30, 2013
 
 
Instant Products
 
Lottery
Systems
 
Gaming
 
Total
Revenue:
 
 

 
 

 
 

 
 

Instant games
 
$
249.3

 
$

 
$

 
$
249.3

Services
 

 
97.5

 
69.5

 
167.0

Product sales
 
7.0

 
21.6

 
9.7

 
38.3

Total revenue
 
256.3

 
119.1

 
79.2

 
454.6

Cost of instant games (1)
 
139.7

 

 

 
139.7

Cost of services (1)
 

 
54.9

 
37.5

 
92.4

Cost of product sales (1)
 
5.0

 
15.1

 
5.9

 
26.0

Selling, general and administrative
 
24.0

 
10.7

 
13.0

 
47.7

Research and development
 
0.3

 
2.2

 
0.8

 
3.3

Employee termination and restructuring
 
0.3

 

 

 
0.3

Depreciation and amortization
 
17.8

 
25.4

 
32.4

 
75.6

Segment operating income (loss) from continuing operations
 
$
69.2

 
$
10.8

 
$
(10.4
)
 
$
69.6

Unallocated corporate costs
 
 

 
 

 
 

 
46.1

Consolidated operating income from continuing operations
 
 

 
 

 
 

 
$
23.5

Earnings (loss) from equity investments
 
$
10.6

 
$
0.6

 
$
(1.6
)
 
$
9.6


(1) Exclusive of depreciation and amortization.

The following table presents a reconciliation of business segment operating income from continuing operations to net loss from continuing operations before income taxes for each period:



13


 
 
Three Months Ended
 
Six Months Ended
 
 
June 30,
 
June 30,
 
 
2014
 
2013
 
2014
 
2013
Reportable business segment operating income from continuing operations
 
$
42.4

 
$
35.3

 
$
65.5

 
$
69.6

Unallocated corporate costs
 
(38.8
)
 
(22.9
)
 
(74.0
)
 
(46.1
)
Consolidated operating income (loss) from continuing operations
 
3.6

 
12.4

 
(8.5
)
 
23.5

Interest expense
 
(49.3
)
 
(25.1
)
 
(97.2
)
 
(50.1
)
Earnings from equity investments
 
0.7

 
3.5

 
6.2

 
9.6

Loss on early extinguishment of debt
 
(25.9
)
 

 
(25.9
)
 

Gain on sale of equity interest
 

 

 
14.5

 

Other income (expenses), net
 
3.2

 
0.2

 
6.1

 
(0.8
)
Net loss from continuing operations before income taxes
 
$
(67.7
)
 
$
(9.0
)
 
$
(104.8
)
 
$
(17.8
)

In evaluating segment financial performance, we focus on operating income as a segment’s measure of profit or loss. Segment operating income is income before other income (expense), net, interest expense, earnings from equity investments, loss on early extinguishment of debt, gain on sale of equity interest, unallocated corporate costs and income taxes. The accounting policies of the business segments are the same as those described in our summary of significant accounting policies in Note 1 in our 2013 Annual Report on Form 10-K.
(3) Acquisitions and Dispositions
Acquisitions
On October 18, 2013 we acquired WMS, a global gaming supplier with a diversified suite of products and strong content creation capabilities, for $1,485.9 million.
We have recorded the assets and liabilities of WMS based on our preliminary estimates of their fair values as of the acquisition date. The determination of the fair values of the acquired assets and assumed liabilities (and the related determination of estimated lives of assets) requires significant judgment. The estimates and assumptions include the projected timing and amount of future cash flows and discount rates reflecting risk inherent in future cash flows. The estimated fair values of the assets and liabilities of WMS and resulting goodwill are subject to adjustment as the Company finalizes its fair value analysis, which we expect to complete by the end of the third quarter of 2014. We do not expect our fair value determinations to change; however, as we finalize our analysis there may be differences compared to the amounts reflected in our consolidated financial statements at June 30, 2014.
Based on our preliminary estimates, the equity purchase price exceeded the aggregate estimated fair value of the acquired assets and assumed liabilities at the acquisition date by $385.6 million, which amount has been recognized as goodwill within our Gaming segment. We attribute this goodwill to enhanced financial and operational scale, market diversification, opportunities for synergies and other strategic benefits. None of the goodwill associated with the acquisition is deductible for income tax purposes and, as such, no deferred taxes have been recorded related to goodwill.
The preliminary allocation of the purchase price to the estimated fair values of assets acquired and liabilities assumed presented below did not change during the six months ended June 30, 2014 from the amounts disclosed in Note 3 in our 2013 Annual Report on Form 10-K:


14




 
At October 18, 2013
Current assets
$
508.0

Long-term notes receivable
76.2

Property, plant and equipment, net
465.3

Goodwill
385.6

Intangible assets
325.0

Intellectual property
201.2

Other long-term assets
5.9

Total assets
1,967.2

Current liabilities
(164.4
)
Deferred income taxes
(166.6
)
Long-term liabilities
(150.3
)
Total liabilities
(481.3
)
Total equity purchase price
$
1,485.9

As required by ASC 805, Business Combinations, the following unaudited pro forma financial information for the three and six months ended June 30, 2013 gives effect to the WMS acquisition as if it had been completed on January 1, 2012. The unaudited pro forma financial information is presented for illustrative purposes only and is not necessarily indicative of what the operating results actually would have been had the WMS acquisition been completed on January 1, 2012. In addition, the unaudited pro forma financial information does not purport to project the future operating results of the Company. This information is preliminary in nature and subject to change based on any final purchase price allocation adjustments. The unaudited pro forma financial information does not reflect (1) any anticipated synergies (or costs to achieve anticipated synergies) or (2) the impact of non-recurring items directly related to the WMS acquisition.
 
Three Months Ended
 
Six Months Ended
 
June 30, 2013
 
June 30, 2013
Revenue from Consolidated Statements of Operations and Comprehensive Loss
$
235.0

 
$
454.6

Add: WMS revenue not reflected in Consolidated Statements of Operations and Comprehensive Loss
202.8

 
380.7

Unaudited pro forma revenue
$
437.8

 
$
835.3

 
Three Months Ended
 
Six Months Ended
 
June 30, 2013
 
June 30, 2013
Net loss from continuing operations from Consolidated Statements of Operations and Comprehensive Loss
$
(12.4
)
 
$
(24.7
)
Add: WMS net loss from continuing operations not reflected in Consolidated Statements of Operations and Comprehensive Loss plus pro forma adjustments (1), (2), (3) and (4) below
(7.2
)
 
(19.6
)
Unaudited pro forma net loss from continuing operations
$
(19.6
)
 
$
(44.3
)
Unaudited pro forma amounts reflect the following adjustments:


15




(1) An adjustment to reflect additional D&A of $9.9 million and $20.5 million for the three and six months ended June 30, 2013, respectively, that would have been incurred assuming the fair value adjustments to intangible assets and property and equipment had been applied on January 1, 2012.
(2) An adjustment to reverse acquisition-related fees and expenses of $5.9 million and $17.0 million for the three and six months ended June 30, 2013, respectively.
(3) An adjustment to reflect additional interest expense of $20.3 million and $40.6 million for the three and six months ended June 30, 2013, respectively, that would have been incurred assuming our new credit facilities were in place as of January 1, 2012.
(4) An adjustment of $3.6 million and $3.5 million for the three and six months ended June 30, 2013, respectively, to reverse the U.S. tax expense of WMS under the assumption that the U.S. taxable income of WMS would have been offset by U.S. tax attributes of the Company.
Dispositions
On March 25, 2013, we completed the sale of our installed base of gaming terminals in our pub business for £0.5 million. There were no results of operations for this business for the three and six months ended June 30, 2014. The components of our loss from discontinued operations for the three and six months ended June 30, 2013 are presented below:
 
Three Months Ended
 
Six Months Ended
 
June 30, 2013
 
June 30, 2013
Revenue:
 
 
 
Services
$

 
$
1.8

 
 
 
 
Operating expenses:
 
 
 
Cost of services (1)
0.3

 
2.9

Selling, general and administrative
0.4

 
1.0

Depreciation and amortization

 
0.5

 
 
 
 
Loss from discontinued operations
(0.7
)
 
(2.6
)
 
 
 
 
Other expense
0.1

 

Gain on sale of assets

 
0.8

Income tax benefits

 
0.3

 
 
 
 
Net loss from discontinued operations
$
(0.6
)
 
$
(1.5
)
(1) Exclusive of depreciation and amortization.

(4) Restructuring Plans
We recorded pre-tax employee termination and restructuring costs of $4.9 million and $0 for the three months ended June 30, 2014 and 2013, respectively, and recorded pre-tax employee termination and restructuring costs of $10.5 million and $0.3 million for the six months ended June 30, 2014 and 2013, respectively. Employee termination and restructuring initiatives reported in the six months ended June 30, 2013 were related to initiatives that were completed by March 31, 2013 and therefore, are not included in the tables below.
WMS Integration Related Restructuring Plan
Upon our acquisition of WMS in October 2013, we began integrating Scientific Games and WMS and implementing our plans to streamline our operations and cost structure. We have recorded costs that meet the criteria under ASC 420, Exit and Disposal Cost Obligations, in each of our segments associated with integration activities that have been initiated in the relevant period. These costs include employee severance costs, costs relating to the exiting of facilities and costs related to exiting two immaterial businesses.
Unallocated corporate employee termination costs primarily relate to terminations of certain executives, including an accrual for cash severance due to our former chief executive officer that was recorded in the fourth quarter of 2013.



16




Other Restructuring Plans
In December 2013, we initiated a plan to exit our Provoloto instant lottery game operations in Mexico, which was completed during the three months ended March 31, 2014. In June 2014, we initiated a plan to exit our paper roll conversion operations in the U.S., which are non-core to our operations. Employee termination and restructuring costs related to these initiatives are included in our Instant Products segment.
The following table presents a summary of employee termination and restructuring costs by segment related to the restructuring plans described above, including the costs incurred during the three and six months ended June 30, 2014, the cumulative costs incurred through June 30, 2014 since the relevant restructuring activities were initiated and the total expected costs related to the relevant restructuring activities that have been initiated. As additional integration-related activities are initiated, we expect to incur additional costs related to those activities.
Business Segment
 
 
Employee Termination Costs
 
Property Costs
 
Other
 
Total
Instant Products
Three months ended June 30, 2014
 
$
0.6

 
$

 
$
0.2

 
$
0.8

Six months ended June 30, 2014
 
1.0

 

 
0.2

 
1.2

Cumulative
 
1.0

 

 
4.9

 
5.9

Expected Total
 
1.0

 
0.5

 
4.9

 
6.4

 
 
 
 
 
 
 
 
 
 
Lottery Systems
Three months ended June 30, 2014

 

 

 

 

Six months ended June 30, 2014
 

 

 

 

Cumulative
 
0.4

 

 

 
0.4

Expected Total
 
0.4

 

 

 
0.4

 
 
 
 
 
 
 
 
 
 
Gaming
Three months ended June 30, 2014

 
1.9

 
0.4

 
(0.1
)
 
2.2

Six months ended June 30, 2014
 
5.4

 
0.4

 
1.6

 
7.4

Cumulative
 
9.2

 
1.4

 
5.4

 
16.0

Expected Total
 
9.4

 
1.4

 
5.8

 
16.6

 
 
 
 
 
 
 
 
 
 
Unallocated corporate
Three months ended June 30, 2014

 
1.7

 
0.2

 

 
1.9

Six months ended June 30, 2014
 
1.7

 
0.2

 

 
1.9

Cumulative
 
8.6

 
2.3

 

 
10.9

Expected Total
 
8.6

 
2.3

 

 
10.9

 
 
 
 
 
 
 
 
 
 
Total
Three months ended June 30, 2014

 
$
4.2

 
$
0.6

 
$
0.1

 
$
4.9

Six months ended June 30, 2014
 
$
8.1

 
$
0.6

 
$
1.8

 
$
10.5

Cumulative
 
$
19.2

 
$
3.7

 
$
10.3

 
$
33.2

Expected Total
 
$
19.4

 
$
4.2

 
$
10.7

 
$
34.3

The following table presents a summary of employee termination and restructuring costs and changes in the related accruals.
 
 
Employee Termination Costs
 
Property Costs
 
Other
 
Total
Balance as of December 31, 2013
 
$
9.3

 
$
2.8

 
$
0.1

 
$
12.2

Additional accruals
 
8.1

 
0.6

 
1.8

 
10.5

Cash payments
 
(9.1
)
 
(0.5
)
 
(1.6
)
 
(11.2
)
Non-cash expense
 
(0.1
)
 
(0.8
)
 

 
(0.9
)
Balance as of June 30, 2014
 
$
8.2

 
$
2.1

 
$
0.3

 
$
10.6

(5) Basic and Diluted Net Loss Per Share
 
The following represents a reconciliation of the numerator and denominator used in computing basic and diluted net loss per share available to common stockholders for the three and six months ended June 30, 2014 and 2013:


17




 
 
Three Months Ended
 
Six Months Ended
 
 
June 30,
 
June 30,
 
 
2014
 
2013
 
2014
 
2013
Net loss
 
 

 
 

 
 
 
 
Net loss from continuing operations
 
$
(72.4
)
 
$
(12.4
)
 
$
(117.4
)
 
$
(24.7
)
Net loss from discontinued operations
 

 
(0.6
)
 

 
(1.5
)
Net loss
 
$
(72.4
)
 
$
(13.0
)
 
$
(117.4
)
 
$
(26.2
)
Weighted average number of shares used in per share calculations:
 
 
 
 
 
 
 
 
Basic shares
 
84.4

 
85.0

 
84.4

 
84.8

Diluted shares
 
84.4

 
85.0

 
84.4

 
84.8

Basic net loss per share:
 
 

 
 

 
 
 
 
Continuing operations
 
$
(0.86
)
 
$
(0.14
)
 
$
(1.39
)
 
$
(0.29
)
Discontinued operations
 

 
(0.01
)
 

 
(0.02
)
Total basic net loss per share
 
$
(0.86
)
 
$
(0.15
)
 
$
(1.39
)
 
$
(0.31
)
Diluted net loss per share:
 
 
 
 
 
 
 
 
Continuing operations
 
$
(0.86
)
 
$
(0.14
)
 
$
(1.39
)
 
$
(0.29
)
Discontinued operations
 

 
(0.01
)
 

 
(0.02
)
Total diluted net loss per share
 
$
(0.86
)
 
$
(0.15
)
 
$
(1.39
)
 
$
(0.31
)
 
For all periods presented, basic and diluted net loss per share is the same, as any additional common stock equivalents would be anti-dilutive. We excluded 2.0 million and 3.4 million of stock options from the weighted average diluted common shares outstanding as of June 30, 2014 and 2013, respectively, which would have been anti-dilutive due to the net loss in those periods. In addition, we excluded 4.4 million and 5.1 million of RSUs from the calculation of weighted average diluted common shares outstanding as of June 30, 2014 and 2013, respectively, which would have been anti-dilutive due to the net loss in those periods.

(6) Accounts and Notes Receivable and Credit Quality of Notes Receivable
Accounts and Notes Receivable
The following summarizes the components of current and long-term accounts and notes receivable, net, as of June 30, 2014 and December 31, 2013:
 
June 30, 2014
 
December 31, 2013
Current:
 
 
 
Accounts receivable
$
338.5

 
$
360.4

Notes receivable
143.1

 
164.3

Allowance for doubtful accounts
(20.1
)
 
(20.0
)
Current accounts and notes receivable, net
$
461.5

 
$
504.7

Long-term:
 
 
 
Notes receivable
56.4

 
72.6

  Total accounts and notes receivable, net
$
517.9

 
$
577.3

Credit Quality of Notes Receivable
We carry our notes receivable at face amounts less an allowance for doubtful accounts and imputed interest. Interest income is recognized ratably over the life of the note receivable and any related fees or costs to establish the notes are expensed as incurred, as they are considered insignificant. Actual or imputed interest, if any, is determined based on stated rates or current market rates, at the time the note originated and is recorded as interest income in other income (expense), net, ratably over the payment period. We impute interest income on notes receivable with terms greater than one year that do not contain a stated interest rate. The interest rates on our outstanding notes receivable ranged from 4.0% to 8.0% at June 30, 2014. Our policy is to generally recognize interest on our notes receivable until the note receivable is deemed non-performing, which we define as a note on which payments are over 180 days past due. The amount of our non-performing notes was immaterial at June 30, 2014.


18


The Company monitors the credit quality of its accounts receivable by reviewing an aging of customer invoices. Invoices are considered past due if a scheduled payment is not received within agreed upon terms. The Company’s notes receivable are reviewed quarterly, at a minimum, for impairment. The Company also reviews a variety of other relevant qualitative information such as collection experience, economic conditions and specific customer financial conditions to evaluate credit risk in recording the allowance for doubtful accounts or as an indicator of an impaired loan. Where possible we seek payment deposits, collateral, pledge agreements, bills of exchange, foreign bank letters of credit or personal guarantees with respect to notes receivable from our customers. However, the majority of our international notes receivable are not collateralized. Currently, we have not sold our notes receivable to third parties; therefore, we do not have any off-balance sheet liabilities for factored receivables.
The government authorities in Argentina limit the exchange of pesos into U.S. dollars and the transfer of funds from Argentina. Our accounts and notes receivable, net, from customers in Argentina at June 30, 2014 was $31.8 million, which is denominated in U.S. dollars, although, under the terms of our arrangements with our customers in Argentina, they are required to pay us in pesos at the spot exchange rate between the peso and the U.S. dollar on the date of payment. In evaluating the collectability of customer receivables in Argentina at June 30, 2014, we specifically evaluated recent payments, receivable aging, any additional security or collateral we had (bills of exchange, pledge agreements, etc.) and other facts and circumstances to determine our customers’ ability to pay. Our customers in Argentina have continued to pay us in pesos based on the spot exchange rate between the peso and the U.S. dollar on the payment date. We collected $21.3 million of outstanding receivables from customers in Argentina during the six months ended June 30, 2014.
Recent government actions and challenges affecting the gaming industry in Mexico have increased the credit quality risk with respect to certain of our current Mexico customers.
The following summarizes the components of total notes receivable, net, as of June 30, 2014 and December 31, 2013:
 
June 30, 2014
 
Balances over 90 days past due
 
December 31, 2013
 
Balances over 90 days past due
Notes receivable:
 
 
 
 
 
 
 
Domestic
$
57.6

 
$
1.9

 
$
65.1

 
$
0.4

International
141.9

 
6.3

 
171.8

 
8.7

     Total notes receivable
199.5

 
8.2

 
236.9

 
9.1

 
 
 
 
 
 
 
 
Notes receivable allowance for doubtful accounts:
 
 
 
 
 
 
 
Domestic

 

 

 

International
(8.1
)

(4.7
)
 
(5.6
)
 
(3.3
)
     Total notes receivable allowance for doubtful accounts
(8.1
)
 
(4.7
)
 
(5.6
)
 
(3.3
)
Note receivable, net
$
191.4

 
$
3.5

 
$
231.3

 
$
5.8

At June 30, 2014, 1.8% of our total notes receivable, net, was past due by over 90 days compared to 2.5% at December 31, 2013.
The following tables detail our evaluation of notes receivable for impairment as of June 30, 2014 and December 31, 2013:
 
June 30, 2014
 
Ending Balance Individually Evaluated for Impairment
 
Ending Balance Collectively Evaluated for Impairment
Notes receivable:
 
  
 
 
 
Domestic
$
57.6

  
$
8.7

  
$
48.9

International
141.9

  
92.2

  
49.7

Total notes receivable
$
199.5

  
$
100.9

  
$
98.6




19


 
December 31, 2013
 
Ending Balance Individually Evaluated for Impairment
 
Ending Balance Collectively Evaluated for Impairment
Notes receivable:
 
  
 
 
 
Domestic
$
65.1

  
$
4.8

  
$
60.3

International
171.8

  
99.7

  
72.1

Total notes receivable
$
236.9

  
$
104.5

  
$
132.4


The following table reconciles the allowance for doubtful notes receivable from December 31, 2013 to June 30, 2014:
 
Total
 
Ending Balance Individually Evaluated for Impairment
 
Ending Balance Collectively Evaluated for Impairment
Beginning balance at December 31, 2013
$
5.6

 
$
5.6

 
$

Charge-offs
(0.1
)
 
(0.1
)
 

Recoveries

 

 

Provision
2.6

 
2.6

 

Ending balance at June 30, 2014
$
8.1

 
$
8.1

 
$

Modifications to original financing terms are exceptions to our cash collection process and are a function of collection activities with the customer. If a customer requests a modification of financing terms during the collection process, we evaluate the proposed modification in relation to the recovery of our gaming machines, generally seek additional security and recognize any additional interest income ratably over the remaining new financing term. Additionally, we often take the opportunity to simplify the future payments by consolidating several notes (each typically representing an individual purchase transaction) into one note. In those instances, the aging of any outstanding receivable balance would be adjusted to reflect the new payment terms. Any such modifications generally do not include a concession on the amount owed and generally result only in a delay of payments relative to the original terms.
The following summarizes the notes receivable financing terms that were modified during the six months ended June 30, 2014:
 
 
Six Months Ended June 30, 2014
 
# of
 Customers
# of Notes
 
Pre-Modification
 Investment
 
Post-Modification
 Investment
Financing term modifications:
 
 
 
 
 
 
International (1)
7

24

  
$
11.9

  
$
11.9

Total financing term modifications
7

24

  
$
11.9

  
$
11.9

(1) The modifications are detailed below:
One customer for which 12 notes were consolidated into one note aggregating $4.0 million, with an average 28-month payment extension;
One customer for which three notes were consolidated into one note aggregating $3.1 million, with an average four-month payment extension;
One customer with a note for $2.3 million for which original payment terms were extended by nine months;
One customer for which four notes were consolidated into one note aggregating $1.4 million, with an average five-month extension, and another note for $0.2 million for which original payment terms were extended by seven months;
One customer with a note for $0.5 million for which original payment terms were extended by 21 months;
One customer with a note for $0.3 million for which original payment terms were extended by 27 months; and
One customer with a note for $0.1 million for which original payment terms were extended by 21 months.
In certain international jurisdictions, we offer extended financing terms related to our customers. Such financing activities subject us to increased credit risk, which could be exacerbated by, among other things, unfavorable economic


20


conditions or political or economic instability in those regions. Our notes receivable were concentrated in the following international gaming jurisdictions at June 30, 2014:
Peru
23
%
Mexico
17
%
Argentina
13
%
Colombia
8
%
Other (less than 5% individually)
10
%
Total international notes receivable as a percentage of total notes receivable
71
%
(7) Inventories
 
Inventories consisted of the following as of the dates presented below:
 
 
June 30, 2014
 
December 31, 2013
Parts and work-in-process
 
$
74.7

 
$
62.1

Finished goods
 
95.6

 
75.7

Inventory
 
$
170.3

 
$
137.8

 
Parts and work-in-process include parts for lottery terminals, gaming machines and instant lottery ticket materials as well as labor and overhead costs associated with the manufacturing of instant lottery games. Our finished goods inventory primarily consists of instant games for our participation arrangements, gaming machines for sale and our licensed branded merchandise.

(8) Property and Equipment
The following table presents certain information regarding our lottery and gaming equipment at June 30, 2014 and December 31, 2013:
 
 
June 30, 2014
 
December 31, 2013
Lottery equipment
 
$
355.2

 
$
350.3

Less: accumulated depreciation
 
(227.8
)
 
(210.6
)
Net lottery equipment
 
127.4

 
139.7

 
 
 
 
 
Gaming equipment
 
473.9

 
439.2

Less: accumulated depreciation
 
(203.0
)
 
(145.0
)
Net gaming equipment
 
270.9

 
294.2

 
 
 
 
 
Total lottery and gaming equipment, net
 
$
398.3

 
$
433.9

The following table presents certain information regarding our other property and equipment, including capital leases, at June 30, 2014 and December 31, 2013:


21


 
 
June 30, 2014
 
December 31, 2013
Land
 
$
25.7

 
$
25.6

Buildings and leasehold improvements
 
185.1

 
181.6

Machinery and equipment
 
263.2

 
239.1

Furniture and fixtures
 
25.8

 
30.1

Transportation equipment
 
6.3

 
6.4

Construction in progress