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EX-31.1 - EX-31.1 - Galaxy Gaming, Inc.glxz-ex311_6.htm

 

 

UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

 

FORM 10-Q

 

QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

For the quarterly period ended September 30, 2017

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: 000-30653

 

Galaxy Gaming, Inc.

(Exact name of small business issuer as specified in its charter)

 

 

Nevada

 

20-8143439

(State or other jurisdiction of

incorporation or organization)

 

(IRS Employer
Identification No.)

 

 

 

6767 Spencer Street, Las Vegas, NV 89119

(Address of principal executive offices)

 

(702) 939-3254

(Issuer’s telephone number)

 

(Former name, former address and former fiscal year, if changed since last report)

 

Indicate by check mark whether the issuer (1) 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 issuer was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days.    Yes    No  

Indicate by check mark whether the issuer 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      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.

 

Large accelerated filer

 

  

Accelerated filer

 

 

 

 

 

Non-accelerated filer

 

  

Smaller reporting company

 

 

 

 

 

 

 

 

Emerging growth company

 

Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act).     Yes      No  

 

If an emerging growth company, indicate by check mark if the registrant has elected not to use the extended transition period

for complying with any new or revised financial accounting standard provided pursuant to Section 13(a) of the Exchange Act.          

State the number of shares outstanding of each of the issuer’s classes of common stock, as of the latest practicable date: 39,565,591 common shares as of November 8, 2017.

 

 

 


GALAXY GAMING, INC.

QUARTERLY REPORT ON FORM 10-Q FOR THE THREE MONTHS ENDED SEPTEMBER 30, 2017

TABLE OF CONTENTS

 

 

 

2


PART I - FINANCIAL INFORMATION

 

 

ITEM 1. FINANCIAL STATEMENTS

Our financial statements included in this Form 10-Q are as follows:

 

 

3


GALAXY GAMING, INC.

CONDENSED BALANCE SHEETS

 

 

 

September 30,

 

 

December 31,

 

ASSETS

 

2017

 

 

2016

 

Current assets:

 

(Unaudited)

 

 

 

 

 

Cash and cash equivalents

 

$

3,161,666

 

 

$

2,304,761

 

Restricted cash

 

 

93,270

 

 

 

84,577

 

Accounts receivable, net of allowance for bad debts of $38,015 and $31,125, respectively

 

 

2,396,087

 

 

 

2,137,245

 

Inventory, net

 

 

525,543

 

 

 

427,105

 

Prepaid expense and other

 

 

307,157

 

 

 

194,747

 

Total current assets

 

 

6,483,723

 

 

 

5,148,435

 

Property and equipment, net

 

 

293,488

 

 

 

356,253

 

Products leased and held for lease, net

 

 

300,168

 

 

 

212,131

 

Goodwill and other intangible assets, net

 

 

11,825,005

 

 

 

12,846,019

 

Deferred tax assets, net

 

 

367,057

 

 

 

367,057

 

Other assets, net

 

 

23,000

 

 

 

82,050

 

Total assets

 

$

19,292,441

 

 

$

19,011,945

 

LIABILITIES AND STOCKHOLDERS’ EQUITY

 

 

 

 

 

 

 

 

Current liabilities:

 

 

 

 

 

 

 

 

Accounts payable

 

$

329,193

 

 

$

461,913

 

Accrued expenses

 

 

1,722,039

 

 

 

1,109,428

 

Income taxes payable

 

 

662,159

 

 

 

786,430

 

Deferred revenue

 

 

1,050,416

 

 

 

1,014,731

 

Deferred rent, current portion

 

 

21,494

 

 

 

14,938

 

Current portion of long-term debt and capital lease obligations

 

 

1,121,289

 

 

 

1,230,285

 

Other current liabilities

 

 

119,960

 

 

 

90,960

 

Total current liabilities

 

 

5,026,550

 

 

 

4,708,685

 

Deferred rent, net

 

 

21,037

 

 

 

37,704

 

Capital lease obligations, net

 

 

22,589

 

 

 

46,978

 

Common stock warrant liability

 

 

1,333,333

 

 

 

923,616

 

Long-term debt, net

 

 

7,620,230

 

 

 

8,669,151

 

Total liabilities

 

 

14,023,739

 

 

 

14,386,134

 

Commitments and Contingencies (See Note 10)

 

 

 

 

 

 

 

 

Stockholders’ equity

 

 

 

 

 

 

 

 

Preferred stock, 10,000,000 shares authorized, $0.001 par value;

   0 shares issued and outstanding, respectively

 

 

 

 

 

 

Common stock, 65,000,000 shares authorized; $0.001 par value;

  39,565,591 and 39,315,591 shares issued and outstanding, respectively

 

 

39,566

 

 

 

39,316

 

Additional paid-in capital

 

 

3,697,536

 

 

 

3,109,473

 

Accumulated earnings

 

 

1,531,600

 

 

 

1,477,022

 

Total stockholders’ equity

 

 

5,268,702

 

 

 

4,625,811

 

Total liabilities and stockholders’ equity

 

$

19,292,441

 

 

$

19,011,945

 

 

The accompanying notes are an integral part of the financial statements.  

 

4


GALAXY GAMING, INC.

CONDENSED STATEMENTS OF OPERATIONS

(Unaudited)

 

 

 

Three Months Ended

 

 

Nine Months Ended

 

 

 

September 30, 2017

 

 

September 30, 2016

 

 

September 30, 2017

 

 

September 30, 2016

 

Revenue:

 

 

 

 

 

(Restated)

 

 

 

 

 

 

(Restated)

 

Product leases and royalties

 

$

3,830,351

 

 

$

3,190,823

 

 

$

10,955,055

 

 

$

9,229,815

 

Product sales and service

 

 

69

 

 

 

1,146

 

 

 

9,469

 

 

 

10,425

 

Total revenue

 

 

3,830,420

 

 

 

3,191,969

 

 

 

10,964,524

 

 

 

9,240,240

 

Costs and expenses:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Cost of ancillary products and assembled components

 

 

50,369

 

 

 

26,763

 

 

 

133,517

 

 

 

78,075

 

Selling, general and administrative

 

 

2,362,601

 

 

 

1,553,556

 

 

 

6,808,659

 

 

 

4,819,373

 

Research and development

 

 

139,185

 

 

 

89,513

 

 

 

403,618

 

 

 

270,734

 

Depreciation and amortization

 

 

440,130

 

 

 

419,540

 

 

 

1,323,772

 

 

 

1,252,860

 

Share-based compensation

 

 

384,925

 

 

 

41,075

 

 

 

553,313

 

 

 

91,006

 

Total costs and expenses

 

 

3,377,210

 

 

 

2,130,447

 

 

 

9,222,879

 

 

 

6,512,048

 

Income from operations

 

 

453,210

 

 

 

1,061,522

 

 

 

1,741,645

 

 

 

2,728,192

 

Other income (expense):

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Settlement income

 

 

 

 

 

697,214

 

 

 

 

 

 

697,214

 

Interest expense

 

 

(432,466

)

 

 

(227,632

)

 

 

(1,316,045

)

 

 

(741,045

)

Loss on extinguishment of debt

 

 

 

 

 

(515,037

)

 

 

 

 

 

(515,037

)

Foreign currency exchange gains (losses)

 

 

59,624

 

 

 

(5,926

)

 

 

125,576

 

 

 

354,301

 

Change in estimated fair value of warrant liability

 

 

(86,308

)

 

 

2,933

 

 

 

(409,717

)

 

 

2,933

 

Interest income

 

 

 

 

 

56

 

 

 

 

 

 

202

 

Total other expense

 

 

(459,150

)

 

 

(48,392

)

 

 

(1,600,186

)

 

 

(201,432

)

(Loss) income before provision for income taxes

 

 

(5,940

)

 

 

1,013,130

 

 

 

141,459

 

 

 

2,526,760

 

Provision for income taxes

 

 

(21,990

)

 

 

(351,412

)

 

 

(86,881

)

 

 

(873,768

)

Net (loss) income

 

$

(27,930

)

 

$

661,718

 

 

$

54,578

 

 

$

1,652,992

 

Net (loss) income per share, basic and diluted

 

$

(0.00

)

 

$

0.02

 

 

$

0.00

 

 

$

0.04

 

Weighted-average shares outstanding:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Basic

 

 

39,432,982

 

 

 

39,315,591

 

 

 

39,368,521

 

 

 

39,372,944

 

Diluted

 

 

39,432,982

 

 

 

39,465,676

 

 

 

41,216,750

 

 

 

39,559,494

 

 

The accompanying notes are an integral part of the financial statements.

 

5


GALAXY GAMING, INC.

CONDENSED STATEMENTS OF CASH FLOWS

(Unaudited)

 

 

 

Nine Months Ended

 

 

 

September 30, 2017

 

 

September 30, 2016

 

Cash flows from operating activities:

 

 

 

 

 

(restated)

 

Net income

 

$

54,578

 

 

$

1,652,992

 

Adjustments to reconcile net income to net cash provided by operating activities:

 

 

 

 

 

 

 

 

Depreciation and amortization

 

 

1,323,772

 

 

 

1,252,860

 

Amortization of debt issuance costs and debt discount

 

 

218,910

 

 

 

136,710

 

Bad debt expense

 

 

6,000

 

 

 

 

Loss on extinguishment of debt

 

 

 

 

 

515,037

 

Change in estimated fair value of warrant liability

 

 

409,717

 

 

 

(2,933

)

Share-based compensation

 

 

553,313

 

 

 

91,006

 

Unrealized foreign exchange (gains) losses on cash and cash equivalents

 

 

(92,243

)

 

 

31,886

 

Changes in operating assets and liabilities:

 

 

 

 

 

 

 

 

Restricted cash

 

 

(8,693

)

 

 

10,009

 

Accounts receivable

 

 

(264,842

)

 

 

(108,674

)

Inventory

 

 

(271,149

)

 

 

(181,319

)

Prepaid expenses and other current assets

 

 

(112,410

)

 

 

8,922

 

Accounts payable

 

 

(132,720

)

 

 

(858,404

)

Income tax payable

 

 

(124,271

)

 

 

822,482

 

Accrued expenses

 

 

612,611

 

 

 

152,871

 

Deferred revenue

 

 

35,685

 

 

 

152,938

 

Other current liabilities

 

 

29,000

 

 

 

(15,069

)

Deferred rent

 

 

(10,111

)

 

 

(3,555

)

Net cash provided by operating activities

 

 

2,227,147

 

 

 

3,657,759

 

Cash flows from investing activities:

 

 

 

 

 

 

 

 

Investment in intangible assets

 

 

(43,917

)

 

 

 

Acquisition of property and equipment

 

 

(52,352

)

 

 

(43,345

)

Net cash used in investing activities

 

 

(96,269

)

 

 

(43,345

)

Cash flows from financing activities:

 

 

 

 

 

 

 

 

Proceeds from stock option exercises

 

 

35,000

 

 

 

 

Debt issuance costs

 

 

(17,091

)

 

 

 

Proceeds received from long-term debt

 

 

 

 

 

932,126

 

Principal payments on capital lease obligations

 

 

(23,087

)

 

 

(51,698

)

Principal payments on long-term debt

 

 

(1,361,038

)

 

 

(3,209,922

)

Net cash used in financing activities

 

 

(1,366,216

)

 

 

(2,329,494

)

Effect of exchange rate changes on cash

 

 

92,243

 

 

 

(31,886

)

Net increase in cash and cash equivalents

 

 

856,905

 

 

 

1,253,034

 

Cash and cash equivalents – beginning of period

 

 

2,304,761

 

 

 

570,623

 

Cash and cash equivalents – end of period

 

$

3,161,666

 

 

$

1,823,657

 

Supplemental cash flow information:

 

 

 

 

 

 

 

 

Cash paid for interest

 

$

1,099,738

 

 

$

753,250

 

Inventory transferred to assets held for lease

 

$

172,711

 

 

$

108,577

 

Cash paid for income taxes

 

$

150,000

 

 

$

35,000

 

Supplemental non-cash financing activities information:

 

 

 

 

 

 

 

 

Issuance of warrants in conjunction with term loan

 

$

 

 

$

809,631

 

Points paid on term loan

 

$

 

 

$

262,500

 

 

The accompanying notes are an integral part of the financial statements.  

 

 

6


GALAXY GAMING, INC.

NOTES TO CONDENSED FINANCIAL STATEMENTS

(Unaudited)

NOTE 1. NATURE OF OPERATIONS AND RESTATEMENT

Unless the context indicates otherwise, references to “Galaxy Gaming, Inc.,” “we,” “us,” “our,” or the “Company,” refer to Galaxy Gaming, Inc., a publicly reporting Nevada corporation (“Galaxy Gaming”).

Nature of operations. We are an established global gaming company specializing in the design, development, manufacturing, marketing and acquisition of proprietary casino table games and associated technology, platforms and systems for the casino gaming industry. We are a leading supplier of gaming entertainment products worldwide and provide a diverse offering of quality products and services at competitive prices designed to enhance the player experience.

Restatement. The financial statements as of and for the three and nine months ended September 30, 2016 have been restated to correct the following errors noted during the preparation of the financial statements for the year ended December 31, 2016: (i) the amortization of original issue discount related to notes payable to Prime Table Games LLC and Prime Table Games UK (the “PTG Notes”) was not previously deducted from taxable income in our federal tax returns from 2011 through 2015 or to derive the income tax provision for the three and nine months ended September 30, 2016, which resulted in an understatement of deferred tax assets and an overstatement of the income tax provision in those periods; and (ii) foreign currency exchange gains and losses related to the PTG Notes were incorrectly reported as other comprehensive income instead of earnings (i.e., non-operating income). The restatements to reflect the correction of both errors are referred to herein collectively as the "Restatement."

The table below sets forth the amounts as originally reported for the categories presented in the condensed statements of operations that were affected by the Restatement, the effect of the Restatement and the restated amounts for the three and nine months ended September 30, 2016:

 

 

 

Three Months Ended

September 30, 2016

 

 

Nine Months Ended

September 30, 2016

 

Statements of Income

 

As originally

reported

 

 

Impact of

restatement

 

 

As restated

 

 

As originally

reported

 

 

Impact of

restatement

 

 

As restated

 

Selling, general and

   administrative

 

$

1,576,480

 

 

$

(22,924

)

 

$

1,553,556

 

 

$

4,850,785

 

 

$

(31,412

)

 

$

4,819,373

 

Provision for income taxes

 

 

(602,619

)

 

 

251,207

 

 

 

(351,412

)

 

 

(990,639

)

 

 

116,871

 

 

 

(873,768

)

Foreign currency exchange

   (losses) gains

 

 

 

 

 

(5,926

)

 

 

(5,926

)

 

 

 

 

 

354,301

 

 

 

354,301

 

Loss on extinguishment of

   debt

 

 

(87,578

)

 

 

(427,459

)

 

 

(515,037

)

 

 

(87,578

)

 

 

(427,459

)

 

 

(515,037

)

Net income

 

 

820,972

 

 

 

(159,254

)

 

 

661,718

 

 

 

1,577,867

 

 

 

75,125

 

 

 

1,652,992

 

 

The table below sets forth the amounts as originally reported for the categories presented in the condensed statements of cash flows that were affected by the Restatement, the effect of the Restatement and the restated amounts for the nine months ended September 30, 2016:

 

Statement of Cash Flow

 

As originally

reported

 

 

Impact of

restatement

 

 

As restated

 

  Net income

 

$

1,577,867

 

 

$

75,125

 

 

$

1,652,992

 

  Loss on extinguishment of debt

 

 

87,578

 

 

 

427,459

 

 

 

515,037

 

  Deferred income tax provision

 

 

54,370

 

 

 

(54,370

)

 

 

 

  Unrealized foreign exchange losses on cash and cash equivalents

 

 

 

 

 

31,886

 

 

 

31,886

 

  Increase in accounts receivable

 

 

(107,969

)

 

 

(705

)

 

 

(108,674

)

  Decrease in other current assets

 

 

43,017

 

 

 

(43,017

)

 

 

 

  Decrease in prepaid expenses and other current assets

 

 

6,608

 

 

 

2,314

 

 

 

8,922

 

  Decrease in accounts payable

 

 

(858,954

)

 

 

550

 

 

 

(858,404

)

  Increase in income taxes payable

 

 

936,269

 

 

 

(113,787

)

 

 

822,482

 

  Increase in accrued expenses

 

 

141,841

 

 

 

11,030

 

 

 

152,871

 

  Net cash provided by operating activities

 

 

3,321,274

 

 

 

336,485

 

 

 

3,657,759

 

  Principal payments on notes payable

 

 

(2,873,437

)

 

 

(336,485

)

 

 

(3,209,922

)

  Net cash used in financing activities

 

 

(1,993,009

)

 

 

(336,485

)

 

 

(2,329,494

)

 

7


NOTE 2. SIGNIFICANT BUSINESS DEVEVELOPMENTS

Resignation of Chairman, Chief Executive Officer (“CEO”) and President.  On July 24, 2017, Robert B. Saucier resigned from his positions as Chairman of the Board, CEO and President in order to aid us in our expanded regulatory jurisdictional ambitions.  Concurrently with Mr. Saucier’s resignation, the Board of Directors (the “Board”) appointed Mr. Saucier to serve as Executive Vice President of Business Development and Chief Product Officer.  In these new positions, he receives an annual salary of $225,000 and is eligible to receive performance-based bonuses and incentives, as well as employee benefits and other perquisites.  Mr. Saucier’s resignation was not the result of any disagreements with the Company, and he remains a member of the Board.

Appointment of new President and CEO.  Effective July 24, 2017, the Board appointed Todd P. Cravens to serve as President and CEO.  Mr. Cravens was previously serving as our Vice President of Business Development, a position he had held since January 1, 2017.  

Mr. Cravens’ employment agreement related to his position as Vice President of Business Development was terminated and superseded with a new employment agreement to reflect his new positions and responsibilities.

Pursuant to the new employment agreement (the “Cravens Employment Agreement”), Mr. Cravens receives an annual base salary of $230,000, is eligible for bonuses if and as approved by the Compensation Committee of the Board and was granted options to purchase our common stock.  See Note 14 for further detail on the options granted. The term of the Cravens Employment Agreement is through July 26, 2020.  Mr. Cravens is entitled to certain severance payments in the event his employment with us is terminated by us without cause following a change of control, or following termination of the Cravens Employment Agreement by Mr. Cravens.

Appointment of new Director.  On July 26, 2017, the Board appointed Mark A. Lipparelli as a member of the Board to fill a newly-created board seat and elected Mr. Lipparelli to serve as Chairman of the Board. On August 31, 2017, we entered into a Board of Directors Services Agreement (the “Lipparelli Agreement”), pursuant to which Mr. Lipparelli receives monthly compensation of $7,500 and all customary and usual fringe benefits generally available to non-employee directors of the Board, and was granted shares of restricted common stock of the Company. See Note 12 for further detail on the restricted common stock granted.

Voting and dispositive control transfer agreements. On September 22, 2017, the Nevada Gaming Commission (the “NGC”) granted us licensure as a manufacturer and distributor of gaming products, which approval triggered the effectiveness of five Voting and Dispositive Control Transfer Agreements (the “VDCTA Agreements”).  The VDCTA Agreements collectively served to transfer voting and dispositive control of certain shares owned of record by Triangulum Partners, LLC, a New Mexico limited liability company (“Triangulum”) to named recipients (each a “Recipient” and collectively, the “Recipients”).

We and the Recipients (named below) previously entered into the VDCTA Agreements on August 18, 2017. However, the VDCTA Agreements did not become effective until September 22, 2017, concurrently with the NGC granting us a license as a manufacturer and distributor of gaming products in accordance with the stated terms of the VDCTA Agreements. The term of the VDCTA Agreements is while Mr. Saucier’s application for licensure with the NGC is pending.

The VDCTA Agreements were made and entered into by and among Triangulum, a limited liability company of which the managing member is Mr. Saucier, and each of the Recipients. Prior to the VDCTA Agreements, Triangulum owned and controlled shares equal to approximately 60.12% of our total issued and outstanding common stock.

The Recipients of the voting and dispositive control of the shares under the VDCTA Agreements are as follows:

 

Name

 

Number of shares

 

Percentage of total outstanding*

 

Mark Lipparelli

 

1,269,161 shares

 

 

3.22%

 

Bryan Waters

 

1,269,161 shares

 

 

3.22%

 

Norm DesRosiers

 

1,269,161 shares

 

 

3.22%

 

William Zender

 

1,269,161 shares

 

 

3.22%

 

John Connelly

 

1,269,161 shares

 

 

3.22%

 

  Total

 

6,345,805 shares

 

 

16.12%

 

 

* The percentages listed in the table are based on 39,365,591 total outstanding shares and do not include other shares held by such Recipients.

Messrs. Lipparelli, Waters, DesRosiers and Zender are members of our Board.  During the term of the VDCTA Agreements, Triangulum granted an irrevocable proxy to each of the Recipients to vote the shares of our common stock covered by the VDCTA Agreements, and conveyed to each Recipient the right to “Transfer” the shares, defined as a “sale, transfer, tender, assignment, encumbrance, gift, pledge, hedge, swap, or other disposition, directly or indirectly” of the shares or any right or interest therein.

8


 

 

NOTE 3. SIGNIFICANT ACCOUNTING POLICIES

Basis of presentation.  The accompanying condensed financial statements have been prepared in accordance with generally accepted accounting principles in the United States of America (“U.S. GAAP”) and the rules of the Securities and Exchange Commission (“SEC”). In the opinion of management, all adjustments necessary in order for the financial statements to be not misleading have been reflected herein. As permitted by the rules and regulations of the SEC, certain information and footnote disclosures normally included in financial statements prepared in accordance with U.S. GAAP have been condensed or omitted pursuant to those rules and regulations.  The operating results for interim periods are not necessarily indicative of results that may be expected for any other interim period or for the full year.

In the opinion of management, the accompanying unaudited interim condensed financial statements contain all necessary adjustments, consisting only of those of a recurring nature, and disclosures to present fairly our financial position and the results of its operations and cash flows for the periods presented. These unaudited interim condensed financial statements should be read in conjunction with the financial statements and the related notes thereto included in our Form 10-K for the fiscal year ended December 31, 2016, filed with the SEC on April 14, 2017 (the “2016 10-K”).

Basis of accounting. The financial statements have been prepared on the accrual basis of accounting in conformity with U.S. GAAP. Revenues are recognized when earned and expenses are recognized when they are incurred. We do not have significant cost of revenue, as most of our revenue is derived from the licensing of intellectual properties. As a result, we do not separately present cost of revenue and gross profit in our statements of operations.

Significant Accounting Policies. See Note 2 in Item 8. “Financial Statements and Supplementary Data” included in our 2016 10-K.

Use of estimates and assumptions. We are required to make estimates, judgments and assumptions that we believe are reasonable based on our historical experience, contract terms, observance of known trends in our company and the industry as a whole, and information available from other outside sources. Our estimates affect reported amounts for assets, liabilities, revenues, expenses and related disclosures. Actual results may differ from initial estimates.

Reclassifications. Certain accounts and financial statement captions in the prior periods have been reclassified to conform to the current period financial statement presentations.

Recently adopted accounting standards

Inventory.  In July 2015, the FASB issued ASU No. 2015-11, Inventory: Simplifying the Measurement of Inventory.  Inventory is now required to be measured at the lower of cost or net realizable value, while the concept of market value will be eliminated.  The ASU defines net realizable value as the estimated selling process in the ordinary course of business, less reasonably predictable costs of completion, disposal and transportation.  We adopted ASU 2015-11 effective January 1, 2017 using the required prospective adoption approach, which did not have a material effect on our financial condition, results of operations or cash flows.

Stock-based compensation. In March 2016, the FASB issued No. ASU 2016-09, Compensation - Stock Compensation: Improvements to Employee Share-Based Payment Accounting. ASU 2016-09 addresses several aspects of the accounting for share-based payment award transactions, including: (a) income tax consequences; (b) classification of awards as either equity or liabilities; and (c) classification on the statement of cash flows. We adopted ASU 2016-09 effective January 1, 2017 using the prospective adoption approach, which did not have a material impact on our financial condition, results of operations or cash flows.

New accounting standards not yet adopted

Revenue Recognition.  In May 2014, the FASB issued ASU No. 2014-09 (Topic 606), Revenue from Contracts with Customers, which is a comprehensive new revenue recognition standard that will supersede virtually all existing revenue guidance, including industry-specific guidance.  Under the new standard, revenue will be recognized when control of the promised goods or services is transferred to customers in an amount that reflects the consideration to which we expect to be entitled in exchange for those goods and services.  The standard creates a five-step model that will generally require companies to use more judgment and make more estimates than under current guidance when considering the terms of contracts along with all relevant facts and circumstances.  These include the identification of customer contracts and separating performance obligations, the determination of transaction price that potentially includes an estimate of variable consideration, allocating the transaction price to each separate performance obligation, and recognizing revenue in line with the pattern of transfer.

9


In August 2015, the FASB issued ASU No. 2015-14, Revenue from Contracts with Customers (Topic 606): Deferral of the Effective Date, which defers the effective date of ASU 2014-09 by one year to now be effective for fiscal years, and interim reporting periods within those years, beginning after December 15, 2017.  Early adoption of the standard is permitted but not before the original effective date of December 15, 2016.  The ASU may be adopted using a full retrospective approach or a modified retrospective approach (reporting the cumulative effect as of the date of adoption. 

We continue to assess the anticipated impact of adopting ASC 606 on our financial statements. The primary impacts of the adoption of ASC 606 are expected to be the following: (a) we will recognize an asset that represents the incremental costs of obtaining and fulfilling the contracts in existence at December 31, 2017 under the caption of prepaid expense and other assets. Such costs will be amortized on a straight-line basis over the expected term of the underlying contracts; and (b) revenues generated by our European distributors (which sublicense our intellectual properties to gaming establishments in Europe in accordance with license agreements entered into between us and such distributors) will be presented as gross revenue under the caption “product leases and royalties” and fees earned by such distributors will be presented as selling, general and administrative expenses. Currently, revenues generated by our European distributors are presented net of fees earned under the caption “product leases and royalties.”  

ASC 606 will significantly increase revenue disclosure requirements. We currently do not anticipate significant changes to our business processes and systems to support the adoption of ASC 606 and are currently assessing the impact on our internal controls. We will continue to monitor and assess the impact of any changes to ASC 606 and interpretations as they become available.

Leases.  In February 2016, the FASB issued ASU No. 2016-02, Leases (Topic 842).  The amended guidance is intended to increase transparency and comparability among organizations by recognizing lease assets and lease liabilities on the balance sheet and disclosing key information about leasing arrangements.  The adoption of this guidance is expected to result in a significant portion of our operating leases being recognized on our balance sheets.  The guidance requires lessees and lessors to recognize and measure leases at the beginning of the earliest period presented using a modified retrospective approach.  ASU 2016-02 is effective for fiscal years beginning after December 15, 2018 and interim periods within those fiscal years with earlier adoption permitted.  We are currently evaluating the impact of adopting this guidance.

Restricted Cash. In November 2016, the FASB issued ASU No. 2016-18, Statement of Cash Flows (Topic 230): Restricted Cash. This ASU requires amounts generally described as restricted cash and cash equivalents be included with cash and cash equivalents when reconciling the total beginning and ending amounts for the periods shown on the statement of cash flows. This guidance is effective for fiscal years beginning after December 15, 2017 and interim periods within those fiscal years with early adoption permitted. Upon the adoption of ASU 2016-08, restricted cash will be included within beginning and ending cash and cash equivalents amounts on our statements of cash flows, which we do not expect will have a material impact on our financial statements.  

Goodwill Impairment. In January 2017, the FASB issued ASU No. 2017-04, Intangibles – Goodwill and Other (Topic 350): Simplifying the Test for Goodwill Impairment, which simplifies the current two-step goodwill impairment test by eliminating Step 2 of the test. This guidance requires a one-step impairment test in which an entity compares the fair value of a reporting unit with its carrying amount and recognizes an impairment charge for the amount by which the carrying amount exceeds the reporting unit’s fair value, if any. This guidance is effective for fiscal years beginning after December 15, 2019 and interim periods within those fiscal years, and should be applied on a prospective basis. Early adoption is permitted for interim or annual goodwill impairment tests performed on testing dates after January 1, 2017. We are currently evaluating the impact of adopting this guidance.

 

 

NOTE 4. INVENTORY

Inventory, net consisted of the following at September 30, 2017 and December 31, 2016: 

 

 

 

2017

 

 

2016

 

Raw materials and component parts

 

$

270,863

 

 

$

171,478

 

Finished goods

 

 

96,834

 

 

 

128,956

 

Work-in-process

 

 

182,846

 

 

 

151,671

 

     Inventory, gross

 

 

550,543

 

 

 

452,105

 

Less: inventory reserve

 

 

(25,000

)

 

 

(25,000

)

     Inventory, net

 

$

525,543

 

 

$

427,105

 

 

 

10


NOTE 5. PROPERTY AND EQUIPMENT

Property and equipment, net consisted of the following at September 30, 2017 and December 31, 2016: 

 

 

 

2017

 

 

2016

 

Furniture and fixtures

 

$

280,694

 

 

$

269,471

 

Automotive vehicles

 

 

215,127

 

 

 

202,143

 

Leasehold improvements

 

 

156,843

 

 

 

156,843

 

Computer equipment

 

 

117,645

 

 

 

105,114

 

Office equipment

 

 

53,483

 

 

 

37,871

 

     Property and equipment, gross

 

 

823,792

 

 

 

771,442

 

Less: accumulated depreciation

 

 

(530,304

)

 

 

(415,189

)

     Property and equipment, net

 

$

293,488

 

 

$

356,253

 

 

For the nine months ended September 30, 2017 and 2016, depreciation expense related to property and equipment of $115,117 and $97,326, respectively, is included in depreciation and amortization expense.

 

Accumulated depreciation of leasehold improvements totaled $105,322 and $82,183 as of September 30, 2017 and December 31, 2016, respectively.

 

 

NOTE 6. PRODUCTS LEASED AND HELD FOR LEASE

Products leased and held for lease, net consisted of the following at September 30, 2017 and December 31, 2016:

 

 

 

2017

 

 

2016

 

Enhanced table systems

 

$

546,539

 

 

$

424,364

 

Less: accumulated depreciation

 

 

(246,371

)

 

 

(212,233

)

     Products leased and held for lease, net

 

$

300,168

 

 

$

212,131

 

 

For the nine months ended September 30, 2017 and 2016, depreciation expense related to products leased and held for lease of $84,674 and $38,595, respectively, is included in depreciation and amortization expense.

 

 

NOTE 7. GOODWILL AND OTHER INTANGIBLE ASSETS

Goodwill and finite-lived intangible assets, net consisted of the following at September 30, 2017 and December 31, 2016:

 

 

 

2017

 

 

2016

 

Goodwill

 

$

1,091,000

 

 

$

1,091,000

 

Finite-lived intangible assets:

 

 

 

 

 

 

 

 

Patents

 

 

13,615,967

 

 

 

13,615,967

 

Customer relationships

 

 

3,400,000

 

 

 

3,400,000

 

Trademarks

 

 

2,740,000

 

 

 

2,740,000

 

Non-compete agreements

 

 

660,000

 

 

 

660,000

 

Internally-developed software

 

 

102,968

 

 

 

 

     Other intangible assets, gross

 

 

20,518,935

 

 

 

20,415,967

 

Less: accumulated amortization

 

 

(9,784,930

)

 

 

(8,660,948

)

     Other intangible assets, net

 

 

10,734,005

 

 

 

11,755,019

 

     Goodwill and other intangible assets, net

 

$

11,825,005

 

 

$

12,846,019

 

 

Included in amortization expense was $1,123,980 and $1,116,938 related to the above intangible assets for the nine months ended September 30, 2017 and 2016, respectively.

11


Estimated amortization expense to be recorded for the twelve months ending September 30, 2018 through 2022 and thereafter is as follows:

 

September 30,

 

Total

 

2018

 

$

1,498,873

 

2019

 

 

1,498,873

 

2020

 

 

1,481,712

 

2021

 

 

1,391,218

 

2022

 

 

1,390,676

 

Thereafter

 

 

3,472,653

 

Total amortization

 

$

10,734,005

 

 

NOTE 8. ACCRUED EXPENSES

Accrued expenses consisted of the following at September 30, 2017 and December 31, 2016:

 

 

 

2017

 

 

2016

 

TableMAX license fee

 

$

736,428

 

 

$

470,512

 

Payroll and related

 

 

664,140

 

 

 

405,553

 

Professional fees

 

 

152,962

 

 

 

59,567

 

Commissions and royalties

 

 

110,353

 

 

 

54,551

 

Other

 

 

58,156

 

 

 

119,245

 

     Total accrued expenses

 

$

1,722,039

 

 

$

1,109,428

 

TableMAX license fee. Under the terms of a five-year licensing agreement (the “TMAX Agreement”) with TableMAX Corporation (“TMAX”), a provider of electronic table games and platforms headquartered in Las Vegas, Nevada, we previously had exclusive worldwide rights (excluding one international territory and two U.S. states) to the TMAX electronic gaming platform and certain related game titles.  Pursuant to the terms of the TMAX Agreement, the licensee fee payable to TMAX is dependent upon our generating profitable operating results specifically from the use of TMAX products.  To the extent there are net profits (as defined in the TMAX Agreement), a percentage of such net profits is payable to TMAX depending on the number of TMAX product installations.  The TMAX Agreement expired during 2016, and we are currently negotiating the licensing fee that is payable to TMAX.

 

 

NOTE 9. CAPITAL LEASE OBLIGATIONS

Capital lease obligations consisted of the following at September 30, 2017 and December 31, 2016:

 

 

 

2017

 

 

2016

 

Capital lease obligation – leasehold improvements

 

$

54,921

 

 

$

78,008

 

Less: Current portion

 

 

(32,332

)

 

 

(31,030

)

     Total capital lease obligations – long-term

 

$

22,589

 

 

$

46,978

 

 

For the years ending September 30, future annual payments for capital leases obligations are as follows: 

 

September 30,

 

Total

 

2018

 

$

32,332

 

2019

 

 

22,589

 

Total minimum lease payments

 

$

54,921

 

 

 

12


NOTE 10. LONG-TERM DEBT

Long-term debt consisted of the following at September 30, 2017 and December 31, 2016:

 

 

 

2017

 

 

2016

 

Term loan

 

$

9,712,500

 

 

$

10,500,000

 

Notes payable, related party

 

 

 

 

 

509,135

 

Equipment notes payable

 

 

133,935

 

 

 

162,274

 

Insurance notes payable

 

 

 

 

 

36,063

 

     Notes payable, gross

 

 

9,846,435

 

 

 

11,207,472

 

Less:

 

 

 

 

 

 

 

 

     Unamortized debt issuance costs

 

 

(513,151

)

 

 

(595,462

)

     Warrants issued

 

 

(624,097

)

 

 

(743,604

)

     Notes payable, net

 

 

8,709,187

 

 

 

9,868,406

 

Less: Current portion

 

 

(1,088,957

)

 

 

(1,199,255

)

     Long-term debt, net

 

$

7,620,230

 

 

$

8,669,151

 

 

Term loan.  In August 2016, we entered into a term loan agreement (the “Term Loan Agreement”) for an aggregate principal amount of $10,500,000 (the "Term Loan").  Proceeds of the Term Loan were primarily used to prepay in full the outstanding notes payable to unrelated parties. The remainder of the proceeds from the Term Loan was used for general corporate purposes and working capital needs.  The Term Loan is secured by a senior lien on substantially all of our assets.  In conjunction with the Term Loan, we also entered into a warrant agreement (the “Warrant Agreement”), pursuant to which we issued the lenders a six-year warrant to purchase 1,965,780 shares of our common stock (the “Warrants”). See Note 14. The estimated fair value of the Warrants on the grant date was determined to be $809,632 using the Black-Scholes option pricing model, and was recorded as a reduction of the related debt. The estimated fair value of the Warrants on the grant date is being amortized ratably over the term of the Warrants to interest expense.

 

Under the Term Loan, we are subject to quarterly financial covenants that, among other things, limit our annual capital expenditures (as defined in the Term Loan Agreement), and require us to maintain a specified leverage ratio and minimum EBITDA amounts, each of which are defined in the Term Loan agreement.  We were in compliance with the financial covenants of the Term Loan Agreement as of September 30, 2017.

 

During the initial twelve-month period of the Term Loan, the outstanding principal will accrue interest at the rate of 14.0% per annum. Thereafter, the outstanding principal will accrue interest at the lesser of 14.0% per annum or 12.5% per annum for any quarterly period in which we achieve a specified leverage ratio.  

 

The Term Loan required quarterly interest-only payments through December 31, 2016, after which we are required to make quarterly principal payments of $262,500 plus accrued interest. The remaining principal and any unpaid interest will be payable in full on August 29, 2021. Voluntary prepayments of the Term Loan, in full or in part, are permitted after the first anniversary of the Term Loan, subject to certain premiums.  The Term Loan also requires certain mandatory prepayments in the amount of 100% of the proceeds from certain asset dispositions (other than in the ordinary course of business) and certain other extraordinary events, and 25% of the proceeds from the sale and issuance of capital stock.

 

The foregoing summary of the Term Loan Agreement and the Warrant Agreement is qualified in its entirety by reference to the respective agreements, which are found as Exhibits 99.1 and 99.2, respectively, to our Form 8-K filed with the SEC on August 29, 2016.

 

Notes payable, related party.  In connection with an asset purchase agreement executed in December 2007, we executed a note payable to an entity owned and controlled by Mr. Saucier (the “Related Party Note Payable”).  The Related Party Note Payable required annual principal and interest payments of $109,908, at a fixed interest rate of 7.3% through December 2018, at which time there was a balloon payment due of $354,480.  On August 11, 2017, we repaid in full the then-outstanding principal balance along with accrued and unpaid interest (in the aggregate amount of $459,683) on the Related Party Note Payable.  This payment constituted a Restricted Payment as defined in our Term Loan, and we received a waiver with respect to the payment from the administrative agent for the Term Loan.

 

13


As of September 30, 2017, maturities of our long-term debt obligations are as follows:

 

September 30,

 

Total

 

2018

 

$

1,088,957

 

2019

 

 

1,090,223

 

2020

 

 

1,076,750

 

2021

 

 

6,584,849

 

2022

 

 

5,656

 

Total notes payable

 

 

9,846,435

 

Less:

 

 

 

 

Unamortized debt issuance costs

 

 

(513,151

)

Warrants issued

 

 

(624,097

)

Notes payable, net

 

$

8,709,187

 

 

 

NOTE 11. COMMITMENTS AND CONTINGENCIES

Concentration of risk. We are exposed to risks associated with a client who represent a significant portion of total revenues. For the nine months ended September 30, 2017 and 2016, respectively, we had the following client revenue concentration:

 

 

 

Location

 

2017

Revenue

 

 

2016

Revenue

 

Client A

 

North America

 

 

13.6%

 

 

 

13.6%

 

 

We are also exposed to risks associated with the expiration of our patents. In 2015, domestic and international patents for two of our products expired, which accounted for approximately $5,370,094 or 49.0% of our revenue for the nine months ended September 30, 2017, as compared to $4,299,637 or 46.5% of our revenue for the nine months ended September 30, 2016. We continue to generate higher revenue from these products despite the expiration of the underlying patents and, accordingly, we do not expect the expiration of these patents to have a significant adverse impact on our future financial statements.

Operating lease. In February 2014, we entered into a lease (the “Spencer Lease”) for a new corporate office with an unrelated third party. The five-year Spencer Lease is for an approximately 24,000 square foot space, which is comprised of approximately 16,000 square feet of office space and 8,000 square feet of warehouse space. The property is located in Las Vegas, Nevada.

The initial term of the Spencer Lease commenced on April 1, 2014 and expires on June 30, 2019. We were obligated to pay approximately $153,000 in annual base rent in the first year, and the annual base rent is scheduled to increase by approximately 4% each year. We are also obligated to pay real estate taxes and other building operating costs. Subject to certain conditions, we have certain rights under the Spencer Lease, including rights of first offer to purchase the premises if the landlord elects to sell. We also have an option to extend the term of the Spencer Lease for two consecutive terms of three years each, at the then current fair market value rental rate determined in accordance with the terms of the Spencer Lease.

In connection with the commencement of the Spencer Lease, the landlord agreed to finance tenant improvements (“TI Allowance”) of $150,000. The base rent is increased by an amount sufficient to fully amortize the TI Allowance through the initial Spencer Lease term upon equal monthly payments of principal and interest, with interest imputed on the outstanding principal balance at the rate of 5.5% per annum. The TI Allowance has been classified as a capital lease on the condensed balance sheet.

Total rent expense was $217,650 and $208,961 for the nine months ended September 30, 2017 and 2016, respectively.

There are currently no operating lease commitments that extend beyond April 1, 2020.  As of September 30, 2017, the amounts shown in the accompanying table reflect our estimates of annual future minimum lease obligations:  

 

September 30,

 

Annual obligation

 

2018

 

$

232,368

 

2019

 

 

179,190

 

Total obligations

 

$

411,558

 

 

Legal proceedings. In the ordinary course of conducting our business, we are, from time to time, involved in various legal proceedings, administrative proceedings, regulatory government investigations and other matters, including those in which we are a plaintiff or defendant, that are complex in nature and have outcomes that are difficult to predict.  We record accruals for such contingencies to the extent we conclude that it is probable that a liability will be incurred and the amount of the related loss can be

14


reasonably estimated.  Our assessment of each matter may change based on future unexpected events.  An unexpected adverse judgment in any pending litigation could cause a material impact on our business operations, intellectual property, results of operations or financial position.  Unless otherwise expressly stated, we believe costs associated with litigation will not have a material impact on our financial position or liquidity, but may be material to the results of operations in any given period.  We assume no obligation to update the status of pending litigation, except as may be required by U.S. GAAP, applicable law, statue or regulation. For a complete description of the facts and circumstances surrounding material litigation to which we are a party, see Note 12 in Item 8. “Financial Statements and Supplementary Data” included in our 2016 10-K.

 

NOTE 12. STOCKHOLDERS’ EQUITY

In February 2017, a former employee forfeited 100,000 shares of unvested restricted stock and paid us $35,000 in connection with the exercise of 150,000 fully-vested stock options.

On August 31, 2017, in accordance with the Lipparelli Agreement, the Board authorized the issuance of 800,000 restricted shares of our common stock, which shares vest as follows: (i) as to the first 200,000 shares, on August 31, 2017, (ii) as to the next 200,000 shares, on January 2, 2018, and (iii) as to the next 400,000 shares, on January 2, 2019.

 

 

NOTE 13. INCOME TAXES

 

Our forecasted annual effective tax rate at September 30, 2017 was 56.6%, as compared to 34.2% at September 30, 2016.  For the nine months ended September 30, 2017 and 2016, our effective tax rate was 51.4% and 34.3%, respectively.  The increase in the effective tax rate was primarily due to the permanent book-to-tax difference generated by changes in the estimated fair value of the warrant liability as of and for the nine months ended September 30, 2017.

 

 

NOTE 14. STOCK WARRANTS, OPTIONS AND GRANTS

 

Stock options. During the nine months ended September 30, 2017 and 2016, we issued 1,390,000 and 427,500 options to purchase our common stock, respectively, to members of our Board, independent contractors, executive officers and employees.