UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
--------------------------------------
FORM 10-Q
(Mark One)
[X]X QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
----- SECURITIES EXCHANGE ACT OF 1934
For the quarterly period ended June 29, 2003April 4, 2004
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 No. 0-24993
LAKES ENTERTAINMENT, INC.
-------------------------------------------------------------------------------
(Exact name of registrant as specified in its charter)
Minnesota 41-1913991
--------- ----------
(State or other jurisdiction (I.R.S. Employer
of incorporation or organization) Identification No.)
130 Cheshire Lane
Minnetonka, Minnesota 55305
--------------------- -----
(Address of principal executive offices) (Zip Code)
(952) 449-9092
(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 [X]X No
[ ]----- -----
Indicate by check mark whether the registrant is an accelerated filer (as
defined in Rule 12b-2 of the Exchange Act).
Yes [ ] No [X]X
----- -----
As of August 7, 2003,May 12, 2004, there were 10,638,32022,207,634 shares of Common Stock, $0.01 par
value per share, outstanding.outstanding, reflecting a two-for-one stock split (the "Stock
Split") in the form of a 100% stock dividend paid on May 3, 2004 to shareholders
of record on April 26, 2004. All share and per share data has been retroactively
restated to give effect to the stock split.
LAKES ENTERTAINMENT, INC. AND SUBSIDIARIES
INDEX
PAGE OF
FORM 10-Q
---------
PART I. FINANCIAL INFORMATION
ITEM 1. FINANCIAL STATEMENTS
Condensed Consolidated Balance Sheets as of June 29, 20033
April 4, 2004 and December 29, 2002 328, 2003
Condensed Consolidated Statements of Earnings (Loss)Loss for the three 4
months ended April 4, 2004 and March 30, 2003
Condensed Consolidated Statements of Comprehensive 5
Loss for the three months ended June 29,April 4, 2004
and March 30, 2003 and June 30, 2002 4
Condensed Consolidated Statements of Comprehensive
Earnings (Loss) for the three months ended June 29, 2003
and June 30, 2002 5
Condensed Consolidated Statement of Loss for the six
months ended June 29, 2003 and June 30, 2002 6
Condensed Consolidated Statements of Comprehensive
Loss for the six months ended June 29, 2003 and June 30, 2002 7
Condensed Consolidated Statements of Cash Flows for 6
the sixthree months ended June 29,April 4, 2004 and March 30,
2003 and June 30, 2002 8
Notes to Condensed Consolidated Financial Statements 97
ITEM 2. MANAGEMENT'S DISCUSSION AND 17
ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS
19
ITEM 3. QUANTITATIVE AND QUALITATIVE 24
DISCLOSURES ABOUT MARKET RISK 31
ITEM 4. CONTROLS AND PROCEDURES 3124
PART II. OTHER INFORMATION
ITEM 1. LEGAL PROCEEDINGS 32
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS 33
ITEM 5. OTHER INFORMATION 3425
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K 3427
2
LAKES ENTERTAINMENT, INC. AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
(IN THOUSANDS)
(UNAUDITED)
JUNE 29,(UNAUDITED)
APRIL 4, 2004 DECEMBER 28, 2003
DECEMBER 29, 2002
- ------------------------------------------------------------------------------------------------------------------------------ -----------------
ASSETS
Current Assets:
Cash and cash equivalents $ 23,35424,951 $ 14,10625,340
Accounts receivable, net 948 116371 1,038
Deferred tax asset 4,481 6,7715,385 5,385
Prepaids 3,220 2,119
Other current assets 741 547
- -----------------------------------------------------------------------------------------------------------------1,846 1,645
---------- ----------
Total Current Assets 29,524 21,540
- -----------------------------------------------------------------------------------------------------------------35,773 35,527
---------- ----------
Property and Equipment-Net 6,697 6,962
- -----------------------------------------------------------------------------------------------------------------6,435 6,492
---------- ----------
Other Assets:
Land held under contract for sale 4,772 28,8324,795 4,612
Land held for development 29,382 27,79114,590 14,536
Notes receivable-less current installments 75,595 70,955
Cash and cash equivalents-restricted - 8,300receivable 89,908 84,682
Investments in and notes from unconsolidated affiliates 8,423 1,0137,611 8,717
Deferred tax asset 4,707 3,8357,242 6,634
Other long-term assets 8,823 6,657
- -----------------------------------------------------------------------------------------------------------------8,920 8,860
---------- ----------
Total Other Assets 131,702 147,383
- -----------------------------------------------------------------------------------------------------------------133,066 128,041
---------- ----------
TOTAL ASSETS $167,923 $175,885
=================================================================================================================$ 175,274 $ 170,060
========== ==========
LIABILITIES AND SHAREHOLDERS' EQUITY
Current Liabilities:
Accounts payable $ 962,113 $ 2261,906
Income taxes payable 4,312 5,5647,258 7,215
Litigation and claims accrual 180 5,847126 250
Accrued payroll and related 418 252costs 304 497
Other accrued expenses 2,944 3,486
- -----------------------------------------------------------------------------------------------------------------5,055 2,768
---------- ----------
Total Current Liabilities 7,950 15,375
- -----------------------------------------------------------------------------------------------------------------14,856 12,636
---------- ----------
TOTAL LIABILITIES 7,950 15,375
- -----------------------------------------------------------------------------------------------------------------14,856 12,636
---------- ----------
COMMITMENTS AND CONTINGENCIES
Shareholders' Equity:
Capital stock, $.01 par value; authorized
100,000200,000 shares; 10,63822,198 and 21,474 common
shares issued and outstanding
at June 29, 2003,April 4, 2004, and
December 29, 2002 106 10628, 2003, respectively 222 215
Additional paid-in-capital 131,526 131,525136,038 132,291
Retained Earnings 28,341 28,879
- -----------------------------------------------------------------------------------------------------------------24,158 24,918
---------- ----------
Total Shareholders' Equity 159,973 160,510
- -----------------------------------------------------------------------------------------------------------------160,418 157,424
---------- ----------
TOTAL LIABILITIES AND SHAREHOLDERS' EQUITY $167,923 $175,885
=================================================================================================================$ 175,274 $ 170,060
========== ==========
THE ACCOMPANYING NOTES ARE AN INTEGRAL PART OF THESE CONSOLIDATED FINANCIAL
STATEMENTS.
3
LAKES ENTERTAINMENT, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF EARNINGS
(LOSS)
(IN THOUSANDS, EXCEPT EARNINGS PER SHARE)
(UNAUDITED)
THREE MONTHS ENDED
------------------
JUNE 29,APRIL 4, 2004 MARCH 30, 2003
JUNE 30, 2002
------------- ---------------------------
REVENUES:
License fee income $ 2,9544,140 $ -
- -----------------------------------------------------------------------------------------------550
---------- ----------
Total Revenues 2,954 -
- -----------------------------------------------------------------------------------------------4,140 550
---------- ----------
COSTS AND EXPENSES:
Selling, general and administrative 4,950 9,572
Reversal of litigation and claims accrual (3,212) -3,260 2,078
Production costs 2,472 901
Depreciation and amortization 131 120
- -----------------------------------------------------------------------------------------------143 128
---------- ----------
Total Costs and Expenses 1,869 9,692
- -----------------------------------------------------------------------------------------------
EARNINGS (LOSS)5,875 3,107
---------- ----------
LOSS FROM OPERATIONS 1,085 (9,692)
- -----------------------------------------------------------------------------------------------(1,735) (2,557)
---------- ----------
OTHER INCOME (EXPENSE):
Interest income 314 436
Interest expense - (24)48 237
Equity in lossearnings (loss) of unconsolidated affiliates (60) (108)419 (87)
Other (1) -
- -----------------------------------------------------------------------------------------------42 159
---------- ----------
Total other income, net 253 304
- -----------------------------------------------------------------------------------------------
Earnings (Loss)509 309
---------- ----------
Loss before income taxes 1,338 (9,388)
Provision (Benefit)(1,226) (2,248)
Benefit for income taxes 549 (2,208)
- -----------------------------------------------------------------------------------------------(466) (921)
---------- ----------
NET EARNINGS (LOSS)LOSS $ 789 ($ 7,180)
===============================================================================================(760) $ (1,327)
========== ==========
BASIC EARNINGS (LOSS)LOSS PER SHARE $ 0.07 ($ 0.67)
===============================================================================================(0.03) $ (0.06)
========== ==========
DILUTED EARNINGS (LOSS)LOSS PER SHARE $ 0.07 ($ 0.67)
===============================================================================================(0.03) $ (0.06)
========== ==========
WEIGHTED AVERAGE COMMON SHARES OUTSTANDING 10,638 10,63821,770 21,276
DILUTIVE EFFECT OF STOCK COMPENSATION PROGRAMS - -
- ------------------------------------------------------------------------------------------------- --
---------- ----------
WEIGHTED AVERAGE COMMON AND DILUTED
SHARES OUTSTANDING 10,638 10,638
===============================================================================================21,770 21,276
========== ==========
THE ACCOMPANYING NOTES ARE AN INTEGRAL PART OF THESE CONSOLIDATED FINANCIAL
STATEMENTS.
4
LAKES ENTERTAINMENT, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF COMPREHENSIVE EARNINGS (LOSS)LOSS
(IN THOUSANDS)
(UNAUDITED)
THREE MONTHS ENDED
-----------------------------------
JUNE 29,APRIL 4, 2004 MARCH 30, 2003
JUNE 30, 2002
------------------------------------------------ --------------
NET EARNINGS (LOSS)LOSS $ 789 ($7,180)
OTHERCOMPREHENSIVE(760) $ (1,327)
OTHER COMPREHENSIVE EARNINGS (LOSS), NET OF TAX:
Unrealized lossesgains (losses) on securities:
Unrealized holding losses during the period - (2)
Reclassification adjustment for losses included
in net earnings (loss) - 47
-----------------------------------securities -- --
---------- ----------
COMPREHENSIVE EARNINGS (LOSS)LOSS $ 789 ($7,135)
===================================(760) $ (1,327)
========== ==========
THE ACCOMPANYING NOTES ARE AN INTEGRAL PART OF THESE CONSOLIDATED FINANCIAL
STATEMENTS.
5
LAKES ENTERTAINMENT, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF LOSSCASH FLOWS
(IN THOUSANDS, EXCEPT EARNINGS PER SHARE)THOUSANDS)
(UNAUDITED)
SIXTHREE MONTHS ENDED
----------------
JUNE 29,APRIL 4, 2004 MARCH 30, 2003
JUNE 30, 2002
------------- ---------------------------
REVENUES:
Management fee incomeOPERATING ACTIVITIES:
Net loss $ -(760) $ 1,502
License fee income 3,504 -
- -----------------------------------------------------------------------------------------------
Total Revenues 3,504 1,502
- -----------------------------------------------------------------------------------------------
COSTS AND EXPENSES:
Selling, general and administrative 7,929 11,671
Reversal of litigation and claims accrual (3,212) -(1,327)
Adjustments to reconcile net loss to net cash
provided by (used in) operating activities:
Depreciation and amortization 259 219
- -----------------------------------------------------------------------------------------------
Total Costs and Expenses 4,976 11,890
- -----------------------------------------------------------------------------------------------
LOSS FROM OPERATIONS (1,472) (10,388)
- -----------------------------------------------------------------------------------------------
OTHER INCOME (EXPENSE):
Interest income 551 1,172
Interest143 128
Unit-based compensation expense - (47)94 --
Equity in (earnings) loss of unconsolidated affiliates (147) (231)
Other 158 -
- -----------------------------------------------------------------------------------------------
Total other income, net 562 894
- -----------------------------------------------------------------------------------------------
Loss before(419) 87
Deferred income taxes (910) (9,494)
Benefit(608) (330)
Changes in operating assets and liabilities:
Accounts receivable 667 (648)
Income taxes 43 283
Accounts payable 207 (118)
Accrued expenses 1,970 (191)
Other (1,295) (899)
---------- ----------
Net Cash Provided by (Used in) Operating Activities 42 (3,015)
---------- ----------
INVESTING ACTIVITIES:
Payments for incomeland held under contract for sale (183) (221)
Payments made for land held for development (54) (1,433)
Advances on notes receivable (5,238) (3,492)
Investment in and notes receivable from unconsolidated affiliates 1,537 (285)
Increase in restricted cash, net -- (13)
Increase in other long-term assets (60) (156)
Reduction of (payments for) property and equipment, net (86) 9
---------- ----------
Net Cash Used in Investing Activities (4,084) (5,591)
---------- ----------
FINANCING ACTIVITIES:
Proceeds from issuance of common stock 3,653 --
---------- ----------
Net Cash Provided by Financing Activities 3,653 --
---------- ----------
Net decrease in cash and cash equivalents (389) (8,606)
Cash and cash equivalents - beginning of period 25,340 14,106
---------- ----------
CASH AND CASH EQUIVALENTS - END OF PERIOD $ 24,951 $ 5,500
========== ==========
SUPPLEMENTAL DISCLOSURES OF CASH FLOW INFORMATION:
Cash paid during the period for:
Interest $ -- $ --
Income taxes (372) (2,251)
- -----------------------------------------------------------------------------------------------
NET LOSS ($ 538) ($ 7,243)
===============================================================================================
BASIC LOSS PER SHARE ($ 0.05) ($ 0.68)
===============================================================================================
DILUTED LOSS PER SHARE ($ 0.05) ($ 0.68)
===============================================================================================
WEIGHTED AVERAGE COMMON SHARES OUTSTANDING 10,638 10,638
DILUTIVE EFFECT OF STOCK COMPENSATION PROGRAMS - -
- -----------------------------------------------------------------------------------------------
WEIGHTED AVERAGE COMMON AND DILUTED
SHARES OUTSTANDING 10,638 10,638
===============================================================================================12 5
Noncash operating activities:
Capitalized television costs related to unit options issued to
consultants 213 --
THE ACCOMPANYING NOTES ARE AN INTEGRAL PART OF THESE CONSOLIDATED FINANCIAL
STATEMENTS.
6
LAKES ENTERTAINMENT, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF COMPREHENSIVE LOSS
(IN THOUSANDS)
(UNAUDITED)
SIX MONTHS ENDED
------------------------------------
JUNE 29, 2003 JUNE 30, 2002
------------------------------------
NET LOSS ($ 538) ($7,243)
OTHER COMPREHENSIVE LOSS, NET OF TAX:
Unrealized losses on securities:
Unrealized holding losses during the period - (10)
Reclassification adjustment for losses included
in net loss - 47
------------------------------------
COMPREHENSIVE LOSS ($ 538) ($7,206)
====================================
THE ACCOMPANYING NOTES ARE AN INTEGRAL PART OF THESE CONSOLIDATED FINANCIAL
STATEMENTS.
7
LAKES ENTERTAINMENT, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
(IN THOUSANDS)
(UNAUDITED)
SIX MONTHS ENDED
----------------
JUNE 29, 2003 JUNE 30, 2002
------------- -------------
OPERATING ACTIVITIES:
Net loss ($ 538) ($ 7,243)
Adjustments to reconcile net loss to net cash
used in operating activities:
Depreciation and amortization 259 218
Equity in loss of unconsolidated affiliates 147 231
Impairment of land held under contract for sale - 3,000
Write down of related party receivables - 4,000
Changes in operating assets and liabilities:
Accounts receivable (832) 3,601
Income taxes 167 (3,547)
Accounts payable (130) (105)
Accrued expenses (2,922) 915
Other (194) (1,565)
- -----------------------------------------------------------------------------------------------------------
Net Cash Used in Operating Activities (4,043) (495)
- -----------------------------------------------------------------------------------------------------------
INVESTING ACTIVITIES:
Short-term investments, sales/maturities - 1,101
Payments for land held under contract for sale (433) (666)
Payments received on land held under contract for sale 16,765 -
Payments for land held for development (1,591) (4,910)
Advances on notes receivable (6,642) (9,947)
Proceeds from repayment of notes receivable - 67
Investment in and notes receivable from unconsolidated affiliates (495) (139)
Decrease (increase) in restricted cash, net 5,906 (55)
Increase in other long-term assets (225) (333)
Reduction of (payments for) property and equipment, net 6 (716)
- -----------------------------------------------------------------------------------------------------------
Net Cash Provided by (Used in) Investing Activities 13,291 (15,598)
- -----------------------------------------------------------------------------------------------------------
FINANCING ACTIVITIES:
Payments on capital lease obligations - (5,714)
Payments on long-term debt - (350)
- -----------------------------------------------------------------------------------------------------------
Net Cash Used in Financing Activities - (6,064)
- -----------------------------------------------------------------------------------------------------------
Net increase (decrease) in cash and cash equivalents 9,248 (22,157)
Cash and cash equivalents - beginning of period 14,106 42,638
- -----------------------------------------------------------------------------------------------------------
CASH AND CASH EQUIVALENTS - END OF PERIOD $ 23,354 $ 20,481
===========================================================================================================
SUPPLEMENTAL DISCLOSURES OF CASH FLOW INFORMATION:
Cash paid during the period for:
Interest $ - $ 49
Income taxes 4 5
THE ACCOMPANYING NOTES ARE AN INTEGRAL PART OF THESE CONSOLIDATED FINANCIAL
STATEMENTS.
8
LAKES ENTERTAINMENT, INC. AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(UNAUDITED)
1. BUSINESS
Lakes Entertainment, Inc., a Minnesota corporation ("Lakes" or the "Company")
was established as a public corporation on December 31, 1998, via a distribution
(the "Distribution") of its common stock, par value $.01 per share (the "Common
Stock") to the shareholders of Grand Casinos, Inc. ("Grand").
Lakes' primary business is to develop and manage Indian-owned casino properties
that offer the opportunity for long-term development of related entertainment
facilities, including hotels, theaters, recreational vehicle parks and other
complementary amenities designed to enhance the customers' total entertainment
experience and to differentiate facilities managed by Lakes currentlyfrom its
competitors. Lakes provides experienced corporate and casino management and
develops and implements a wide scale of marketing programs. In conjunction with
this part of Lakes' business strategy, Lakes has entered into development and
management agreements with four separate
tribes for four newrelating to one casino operations, oneproject in Michigan, two casino
projects in California, and one with the Nipmuc Nationcasino project on the east coast. The Company also has agreements
for thecoast, with
development of one additional casino on Indian owned land in California
through a joint venture which is currently being disputed by the tribe. Each of
these projects is currently in the development phase.
The Companyeach subject to regulatory approvals. Lakes has also formedexplored,
and will continue to explore, numerous other possible development projects.
World Poker Tour, LLC ("WPT"), a joint venture with78% owned subsidiary of Lakes, has created a
producer to launchcircuit of previously-established poker tournaments affiliated under the "World
Poker Tour" name, and has produced the World Poker Tour ("WPT") and establish poker as the next significant televised
mainstream sport. During March of 2003, thetelevision series. WPT
signed an agreement for a second season with the Travel Channel, LLC (TRV)("TRV"),
granting TRV the right tofor broadcast the first season of the WPTWorld Poker Tour series which has now been completed. During July of 2003, WPT reached
an agreement withon cable television. TRV for a second season withwas also
granted options for five additional seasons. WPT receives a series of fixed
license payments from TRV, subjectTRV.
During January of 2004, World Poker Tour announced that it will seek to raise
approximately $20 million pursuant to an underwritten initial public offering of
common stock at a price to be determined. World Poker Tour will be converted
into a Delaware corporation immediately before the offering. It is expected that
proceeds from the offering will be used to expand World Poker Tour's
entertainment production business and for its working capital. There will be no
selling shareholders participating in each casethe offering. Lakes does not expect to
satisfactionrecognize a gain on this transaction and the proceeds will be reflected as a
minority interest. Lakes has included $0.4 million of production milestonesdirect costs related to
this offering in other current assets as of April 4, 2004. These costs will be
reflected as a reduction of proceeds when the offering is completed or as an
expense if the offering is unsuccessful.
Lakes has recently created a new division to buy, license and/or market new
table game concepts for licensing to casinos. The Company is currently testing a
number of new games and other conditions. Revenue
is recognized ratably as production milestones and other conditions are met.there may be revenue from this effort beginning during
2004. See also Note 7.
LAND HELD UNDER CONTRACT FOR SALE
On December 28, 2001, the Company transferred title and ownership obligations of
the Polo Plaza shopping center property to Metroflag Polo, LLC. In conjunction
with this transaction, Lakes transferred to Metroflag BP, LLC, rights to and
obligations of the adjacent Travelodge property consisting of a long-term land
lease and a motel operation. This transaction was accounted for under the
deposit method of accounting under the requirements of Statement of Financial
Accounting Standards No. 66, Accounting for Sales of Real Estate, rather than as
a sale. Therefore, the property was included as land held under contract for
sale on the accompanying condensed consolidated balance sheet as of December 29,
2002. The total price for this combined transaction was approximately $30.9
million. Terms of the transaction included a $1.0 million down payment, which
was received in January 2002, a contractual commitment to pay Lakes $23.3
million by December 29, 2002, and a second contractual agreement to pay Lakes
$7.5 million on June 30, 2004. A $0.5 million payment on the notes receivable
was received during 2002.
During 2002, Lakes and Metroflag restructured the
terms of the Polo Plaza and Travelodge property transactions due to
deteriorating economic conditions. The parties reduced the purchase price for
the Polo Plaza property from $23.8 million to $21.8 million.
On the revised payment date, which was scheduled to be
no later than January 31, 2003, $16.8 million of the purchase price was to be
payable to Lakes in cash and $4.0 million was to be payable through the issuance
to Lakes of a preferred membership interest in Metroflag. Effective June 30,
2002, Lakes recorded a $3.0 million impairment charge for these properties
relating to the adjustment in the purchase price and the potential discount on
the return of Lakes' preferred interest.
97
LAKES ENTERTAINMENT, INC. AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
(UNAUDITED)
This real estate was reported at its adjusted carrying value in Land Held Under
Contract for Sale as of December 29, 2002. Lakes' collateral is the property and
lease rights described above which would revert back to Lakes in the event of
default by Metroflag.
During March of 2003, Lakes and Metroflag agreed to additional revisions to the
terms of the Polo Plaza and Travelodge property transactions. The parties have
increased the price of the Polo Plaza property from $21.8 million to $25.8
million and extended the payment date to May 15, 2003. On the payment date,
$16.8 million of the purchase price was paid to Lakes in cash, $4.0 million was
paid through the issuance to Lakes of a preferred membership interest in
Metroflag and $4.0 million was paid through the issuance to Lakes of a
subordinated membership interest in Metroflag. On or before April 30, 2004,Previously, Metroflag Polo may elect to distribute to Lakes $3.0paid $1.0
million plus interest in cash as full return of Lakes'a down payment. Lakes can require Metroflag to repurchase the
$4.0 million preferred interest. If paidinterest any time on or after April 30, 2004,
and in no event later than December 24, 2006, the entire $4.0 million plus
interest will be payable.2006. The
subordinated interest must be repurchased for $4.0 million at the time of
repayment by Metroflag of an outstanding $3.5 million contractual commitment in
connection with the Travelodge property, which is scheduled on or before
December 28, 2004.
In March of 2003, the parties decreased the sale price of the Travelodge
property from $7.5 million to $3.5 million. At that time, the contractual
commitment to pay Lakes was also decreased from $7.5 million to $3.5 million.million, as
a result of the increase in the purchase price of the Polo Plaza property
discussed above. During 2003, Lakes took a $1.0 million impairment charge on the
Travelodge property. If the Travelodge commitment is not repaid by December 28,
2004, ownership of the Travelodge lease rights would revert back to Lakes. Lakes
has also agreed to loan to Metroflag BP up to $3.0 million related to Travelodge
operating shortfalls through December 28, 2004. As of April 4, 2004 and December
28, 2003, the outstanding loan balance was $2.3 million and $2.1 million,
respectively. This loan is scheduled to be repaid on December 28, 2004. If at
any time the Polo Plaza property is sold and the Travelodge commitment has not
been repaid, Metroflag is required to repurchase the subordinated interest for
the lesser of $4.0 million or any portion of the net cash proceeds from such
sale or refinancing that exceeds $60.0 million.
LAND HELD FOR DEVELOPMENT
On April 7, 2003, Lakes announced that it has signed a Letter of Intent to sell
the approximate 3.5 acre undeveloped site, known as the Shark Club Parcel, for a
purchase price of $15.0 million in cash. The transaction closed on July 1, 2003.
In addition to the $15.0 million payment, Lakes received $1.0 million as
repayment of a loan previously made by Lakes to Chateaux, LLC, a joint venture
entity originally formed by Lakes and a time-share developer for the purpose of
developing the Shark Club Parcel as an upscale time-share project.
Also includedIncluded in land held for development is land held for possible transfer to
Indian tribes for use in future casino resort projects in the amount of $14.4
million and $12.8 million as of June 29, 2003 and December 29, 2002,
respectively.
RECENT ACCOUNTING PRONOUNCEMENTS
The FASB issued Interpretation No. 45, "Guarantor's Accounting and Disclosure
Requirements for Guarantees, Including Indirect Guarantees of Indebtedness of
Others" in November 2002. This interpretation elaborates on the disclosures to
be made by a guarantor in its financial statements about its obligations under
certain guarantees that it has issued. It also clarifies that a guarantor is
required to recognize, at the inception of a guarantee, a liability for the fair
value of the obligation undertaken in issuing the guarantee.
10
LAKES ENTERTAINMENT, INC. AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
(UNAUDITED)
The initial recognition and initial measurement provisions of this
interpretation are applicable to all guarantees and modification to guarantees
made after December 31, 2002. The Company's disclosure of the indemnification
and guarantee agreements of the Company is in compliance with the
interpretation. The disclosure requirements in this interpretation are effective
for financial statements of interim or annual periods ended after December 15,
2002. The adoption of the interpretation did not have a material impact on the
Company's results of operations, financial position and cash flows. The Company
does have an indemnification agreement with Grand Casinos which is fully
described in Note 8 Commitments and Contingencies.
In January 2003, the FASB issued Interpretation No. 46 (FIN46), "Consolidation
of Variable Interest Entities", which addresses the consolidation of variable
interest entities. The interpretation applicable immediately to variable
interest entities created after January 31, 2003, and to variable interest
entities in which a Company obtains an interest after that date. For variable
interests in variable interest entities acquired before February 1, 2003, the
interpretation applicable applies in the first interim period beginning after
June 15, 2003. The Company has determined that it has no investments or other
interests in entities that may be deemed variable interest entities under the
provisions of FIN 46, as the development projects subject to the management
agreements with the Indian Tribes are not separate entities or legal structures.
In December 2002, the FASB issued SFAS No. 148, "Accounting for Stock-Based
Compensation - Transition and Disclosure - an amendment of FASB Statement No.
123". SFAS No. 148 provides alternative transition methods for companies that
make a voluntary change to the fair-value-based method of accounting for
stock-based employee compensation. In addition, SFAS No. 148 amends the
disclosure requirements of SFAS No. 123 to require prominent disclosures in both
annual and interim financial statements about the method of accounting for
stock-based employee compensation and the effect of the method used on reported
results. The Company has adopted the disclosure provisions of SFAS No. 148 and
its adoption had no impact on the Company's consolidated financial position or
results of operations.projects.
2. BASIS OF PRESENTATION
The accompanying unaudited condensed consolidated financial statements include
the accounts of Lakes and its wholly-owned and majority-owned subsidiaries.
Investments in unconsolidated affiliates representing 50% or less of voting
interests are accounted for on the equity method. All significant intercompany
balances and transactions have been eliminated in consolidation.
Lakes' investments in unconsolidated affiliates include a 50 percent ownership
interest in PCG Santa Rosa, LLC, a joint venture formed to develop a casino on
Indian-owned land in California and a 49 percent voting50% ownership interest in the
Chateaux,2022 Ranch, LLC,
a joint venture formed to develop and/or sell approximately 2000 acres owned by
the Shark Club Parceljoint venture in Las
Vegas, Nevada, into an upscale timeshare project. See Note 8 for current statusEastern San Diego County. This land was sold during the
first quarter of 2004. The sale of the Shark Club Parcel.
11land reduced Lakes' investment in 2022
Ranch to less than $0.1 million.
8
LAKES ENTERTAINMENT, INC. AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
(UNAUDITED)
The condensed consolidated financial statements have been prepared by the
Company in accordance with accounting principles generally accepted in the
United States of America for interim financial information, in accordance with
the rules and regulations of the Securities and Exchange Commission. Pursuant to
such rules and regulations, certain financial information and footnote
disclosures normally included in the condensed consolidated financial statements
have been condensed or omitted.
In the opinion of management, all adjustments (consisting of normal recurring
adjustments) considered necessary for fair
presentation have been included. Operating results for the sixthree months ended
June 29, 2003April 4, 2004 are not necessarily indicative of the results that may be expected
for the year ending December 28,
2003.January 2, 2005. The condensed consolidated financial
statements should be read in conjunction with the condensed consolidated
financial statements and notes thereto included in the Company's annual report
on Form 10-K for the year ended December 29, 2002.28, 2003.
3. STOCK-BASED COMPENSATION
At June 29, 2003,April 4, 2004, the Company has two stock-based employee compensation plans.
The Company accounts for those plans under the recognition and measurement
principles of APB OptionOpinion No. 25, Accounting for Stock Issued to Employees, and
related Interpretations. No stock-based employee compensation cost is reflected
in net income, as all options granted under those plans had an exercise price
equal to the market value of the underlying common stock on the date of grant.
WPT also has a unit-based compensation plan for both employees and consultants.
WPT has a 2002 Unit Option Plan (the "2002 Plan") which is approved to issue up
to an aggregate of 7,000 Class B non-voting units of WPT in connection with unit
option grants to employees and consultants. The options become exercisable in
quarterly installments on each of the first four anniversaries of the date of
the grant and each installment expires six years after being exercisable. The
employee must be employed by the Company on the anniversary date in order to
vest in any units that year. If the employee is terminated (voluntarily or
involuntarily) prior to the vesting of any portion of a unit option, the
unvested portion will be forfeited.
For WPT unit options issued to employees, deferred stock compensation for the
unit options is measured at the units' fair value in excess of the exercise
price on the date of grant and is being amortized over the vesting period of
four years. For WPT unit options issued to consultants, compensation expense is
measured at the option's fair value. Fair value is measured when the unit
options vest in quarterly installments on each of the first four anniversaries
of the date of the grant. Compensation expense is estimated in periods prior to
vesting based on the then current fair value. Changes in the estimated fair
value of unvested options are recorded in the periods the change occurs.
Additionally, on March 4, 2002, WPT granted 15,000 Class A voting units to its
President under a management agreement. The restricted units vest in four equal
installments annually beginning February 25, 2003. If there is a change of
control, all non-vested restricted units vest immediately.
9
LAKES ENTERTAINMENT, INC. AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
(UNAUDITED)
The Company accounts for the WPT unit-based employee compensation under the
recognition and measurement principles of APB Opinion No. 25, Accounting for
Stock Issued to Employees, and related Interpretations. Compensation expense for
unit option grants issued to employees is recorded to the extent the fair market
value of the units on the date of grant exceeds the option price. Compensation
expense for restricted unit grants is measured based on the fair market value of
the units on the date of grant. The compensation expense is amortized ratably
over the vesting period of the awards.
The Company accounts for WPT unit-based consultant compensation according to the
recognition and measurement principles of EITF 96-18, Accounting for Equity
Instruments That are Issued to Other Than Employees for Acquiring, or in
Conjunction with Selling, Goods or Services. Compensation expense for unit
option grants issued to consultants is recorded at the fair market value of the
options at the measurement date, defined as the date the options vest and
services have been provided.
The following table illustratesillustrated the effect on net income and earnings per share
if the Company had applied the fair value recognition provisions of FASB
Statement No. 123, Accounting for Stock-Based Compensation, to stock-based
employee compensation.compensation under the Lakes' plans and unit-based employee and
consultant compensation under the WPT Plans (in thousands except per share
data).
SIX MONTHS ENDED
THREE MONTHS ENDED
---------------- ------------------
JUNE 29,APRIL 4, 2004 MARCH 30, 2003
JUNE 30, 2002 JUNE 29, 2003 JUNE 30, 2002
------------- ------------- ------------- ---------------------------
Net earnings (loss):loss: $ (538)(760) $ (7,243) $ 789 $ (7,180)(1,327)
As reported
Add: Unit-based compensation expense 94 --
included in reported net loss
Less: Total stock-based compensation (451) (374)
expense determined under the fair
value method, net of related tax effects
(767) (849) (383) (426)
Pro forma (1,305) (8,092) 406 (7,606)(1,117) (1,701)
Net earnings (loss)loss per share:
As reported -- Basic $ (0.05)(0.03) $ (0.68) $ 0.07 $ (0.67)(0.06)
Pro forma -- Basic (0.12) (0.76) 0.04 (0.71)(0.05) (0.08)
As reported -- Diluted (0.05) (0.68) 0.07 (0.67)(0.03) (0.06)
Pro forma -- Diluted (0.12) (0.76) 0.04 (0.71)(0.05) (0.08)
1210
LAKES ENTERTAINMENT, INC. AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
(UNAUDITED)
4. MANAGEMENT CONTRACTS FOR INDIAN-OWNED CASINOS
The ownership, management and operation of gaming facilities are subject to
extensive federal, state, provincial, tribal and/or local laws, regulation, and
ordinances, which are administered by the relevant regulatory agency or agencies
in each jurisdiction. These laws, regulations and ordinances vary from
jurisdiction to jurisdiction, but generally concern the responsibility,
financial stability and character of the owners and managers of gaming
operations as well as persons financially interested or involved in gaming
operations. The Company is prohibited by the Indian Gaming Regulatory Act ("IGRA") from
having an ownership interest in any casino it manages for Indian tribes.
The management contracts govern the relationship between the Company and the
tribes with respect to the construction and management of the casinos. The
construction or remodelingdevelopment portion of the agreements commencedcommences with the signing of the
respective contracts and continuedcontinues until the casinos openedopen for business;
thereafter, the management portion of the respective management contracts
continues for a period up to seven years. Under the terms of the contracts, the
Company, as manager of the casino, receives a percentage of the distributable
profits (as defined in the contract) of the operations as a management fee after
payment of certain priority distributions, a cash contingency reserve, and
guaranteed minimum payments to the tribes.
Lakes has a contract to be the exclusive developer and manager of an
Indian-owned gaming resort near New Buffalo, Michigan with the Pokagon Band of
Potawatomi Indians. The Company has formed partnerships that hold contracts to
develop and manage two casinos to be owned by Indian tribes in California, one
near San Diego with the Jamul Indian Village, and the other near Sacramento with
the Shingle Springs Band of Miwok Indians. Lakes and another company have formed
a partnership with a contract to finance the construction of an Indian-owned
casino 60 miles north of San Francisco, California for the Cloverdale Rancheria
of Pomo Indians. The Rancheria is currently disputing the agreement with the
partnership and has notified the partnership that it wishes to terminate the
contract. The Company has also signed contracts
with the Nipmuc Nation of Massachusetts for development and management of a
potential future gaming resort in the eastern United States; however, this tribe
has received a negative finding regarding federal recognition from the Bureau of
Indian Affairs (BIA). The tribe has submitted additional information for
reconsideration.reconsideration (see Note 9).
5. NOTES RECEIVABLE
The notes receivable from Indian Tribes are generallyresult from costs incurred by the
Company for the development of gaming properties to be managed byunder which the Company.Company has
signed management contracts. The repayment terms are specific to each tribe and
are largely dependent upon the operating performance of each gaming property.
Repayments of the aforementioned notes receivable are required to be made only
if distributable profits are available from the operation of the related
casinos. Repayments are also the subject of certain distribution priorities
specified in the management contracts. In addition, repayment of the notes
receivable and the manager's fees under the management contracts are
subordinated to certain other financial obligations of the respective tribes.
Through June 29, 2003, no amounts have been withheld under these provisions.
1311
LAKES ENTERTAINMENT, INC. AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
(UNAUDITED)
Notes receivable consist of the following (in thousands):
June 29,April 4, 2004 December 28, 2003 December 29, 2002
------------- -----------------
Properties under development:
Notes from the Pokagon Band of Potawatomi Indians with
variable interest rates (not to exceed 10%) (5.00% at June 29, 2003)April 4, 2004),
receivable in 60 monthly installments
subsequent to commencement date $ 40,62442,846 $ 39,47041,729
Notes from the Shingle Springs Band of Miwok Indians with
variable interest rates (6.00% at June 29, 2003)April 4, 2004), receivable
in varying monthly installments based on contract
terms subsequent to commencement date 17,539 14,03527,370 24,428
Notes from Jamul Indian Village with variable interest
rates (6.00% at June 29,
2003)April 4, 2004), receivable in 1260 monthly
installments subsequent to commencement date 10,795 9,49213,011 12,336
Notes from the Nipmuc Nation with variable interest
rates (6.00% at June 29,
2003)April 4, 2004) receivable in varying installments
based on contract terms subsequent to commencement date 4,150 3,8145,105 4,634
Other 2,487 4,144
--------- --------1,576 1,555
---------- ----------
Total notes receivable 75,595 70,955
======== ========$ 89,908 $ 84,682
========== ==========
Interest income on notes receivable from Indian Tribes related to casinoproperties
under development projects is deferred because realizability of the interest is
contingent upon the completion and positive cash flow from operation of the
casino. Interest deferred during the development period is recognized over the
remaining life of the note using the effective interest method. As of June 29,
2003April 4,
2004 and December 29, 2002, $12.228, 2003, $16.8 million and $10.1$15.2 million of interest on notes
related to properties under development has been deferred.
Management periodically evaluates the recoverability of such notes receivable
based on the current and projected operating results of the underlying facility
and historical collection experience. No impairment losses on such notes
receivable have been recognized through June 29, 2003.
The terms of these notes require the casinos to be constructed and to generate
positive cash flows prior to the Company receiving repayment. As such, an
estimate of the fair value of these notes requires an assessment of the timing
of the construction of the related casinos and the profitability of the related
casinos. Due to the significant uncertainty involved in such an assessment, the
Company does not believe that it is practicable to accurately estimate the fair
value of these notes with the degree of precision necessary to make such
information meaningful.
1412
LAKES ENTERTAINMENT, INC. AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
(UNAUDITED)
6. COMMITMENTS AND CONTINGENCIES:
LEASES
The Company leases certain property and equipment, including an airplane, under
a non-cancelable operating lease. The airplane lease expired May 1, 2003 and was
renewed for a one-year period. The lease provides for one additional one-year
renewal term.term, which began May 1, 2004. Approximate future minimum lease
payments, due under this lease as of June 29, 2003, assuming the second one-year renewal is exercised,April 4, 2004, are as follows (in
thousands):
Operating Leases
----------------
20032004 $ 300
2004 600450
2005 200
---------------
$ 1,100
========650
=======
PURCHASE OPTIONS
The Company has the right to purchase the airplane it leases during the base
lease term and any renewal
termterms for approximately $8 million.
INDEMNIFICATION AGREEMENT
As a part of the transaction establishing Lakes as a separate public company on
December 31, 1998, the Company has agreed to indemnify Grand through December 28,
2004 against all costs, expenses and liabilities incurred in connection with or
arising out of certain pending and threatened claims and legal proceedings
to whichagainst Grand and certain
of its subsidiaries are likely to be parties.pay all related settlements and judgments. The Company's
indemnification obligations include the obligation to provide the defense of all
claims made in proceedings against Grand and to pay all related settlements and
judgments.
As security to support Lakes' indemnification obligations to Grand, Lakes agreed
to deposit an aggregate of $30 million, in trust for the benefit of Grand, as a
wholly owned subsidiary of Park Place, to cover various commitments and
contingencies related to or arising out of Grand's non-Mississippi business and
assets (including by way of example, but not limitation, tribal loan guarantees,
real property lease guarantees for Lakes' subsidiaries and director and
executive officer indemnity obligations). The deposits were to be made in four
annual installments of $7.5 million, over the four-year period subsequent to
December 31, 1998. Any proceeds remaining in this trust after all the secured
obligations were indefeasibly paid in full and discharged were to be returned to
Lakes.
15
LAKES ENTERTAINMENT, INC. AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
(UNAUDITED)
Lakes made the first deposit of $7.5 million on December 31, 1999 and deposited
an additional $18 million in an escrow account in July 2000. The $18 million
deposit represented partial satisfaction of Lakes indemnification obligation
pursuant to a settlement agreement related to certain litigation claims brought
against Grand by its shareholders. Upon receipt of a court order on August 14,
2001 giving final approval to the settlement, the $18 million in restricted cash
was removed from the Company's condensed consolidated balance sheet. In January
2001, Lakes purchased the Shark Club property in Las Vegas for $10.1 million in
settlement of another Grand obligation that was subject to the indemnification
by Lakes. As of December 29, 2002, $7.5 million related to security to support
Lakes' indemnification obligations to Grand was included as restricted cash in
the accompanying condensed consolidated balance sheets. In May 2003, $2.3
million was paid out of the trust to Stratosphere Corporation to satisfy Lakes'
indemnification obligations to Grand resulting from Grand's settlement of a
litigation claim seeking recovery of certain amounts paid by Stratosphere to
Grand and a subsidiary of Grand that were alleged to be preferential payments
under the bankruptcy laws. As this litigation claim was the last remaining known
material Grand obligation that was subject to indemnification by Lakes, the
trust account was terminated on May 8, 2003 and the remaining restricted funds
of approximately $5.9 million, including interest, were released to Lakes and
reclassified as unrestricted cash on Lakes' condensed consolidated balance sheet
as of June 29, 2003. Notwithstanding termination of the trust account, Lakes'
indemnification obligations to Grand remain in effect. Subsequent
indemnification obligations to Grand Casinos, if any, would be paid directly by
Lakes.
As part of the indemnification agreement, Lakes has agreed that it will not
declare or pay any dividends, make any distribution on account of Lakes' equity
interests, or otherwise purchase, redeem, defease or retire for value any equity
interests in Lakes without the written consent of Park Place.Caesars Entertainment, Inc,
the parent Company of Grand.
LEGAL PROCEEDINGS
The following summaries describe certain known legal proceedings to which Grand
isSLOT MACHINE LITIGATION
In 1994, William H. Poulos filed a party which Lakes has assumed, or with respect to which Lakes may have
agreed to indemnify Grand,class-action lawsuit in connection with the Distribution.
STRATOSPHERE PREFERENCE ACTION
In April 1998, Stratosphere served onUnited States
District Court for the Middle District of Florida against various parties,
including Grand and Grand Media & Electronics
Distributing, Inc.,numerous other parties alleged to be casino operators or
slot machine manufacturers. This lawsuit was followed by several additional
lawsuits of the same nature against the same, as well as additional defendants,
all of which were subsequently consolidated into a wholly owned subsidiary of Grand ("Grand Media"), a
complaintsingle class-action pending
in the Stratosphere bankruptcy case seeking recoveryUnited States District Court for the District of certain
amounts paid by Stratosphere to (i) Grand Media for electronic equipment
purchased by Stratosphere from Grand Media, and (ii) Grand as management fees
and for costs and expenses under a management agreement between Stratosphere and
Grand.
16Nevada.
13
LAKES ENTERTAINMENT, INC. AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
(UNAUDITED)
Stratosphere claimedFollowing a court order dismissing all pending pleadings and allowing the
plaintiffs to re-file a single complaint, a complaint has been filed containing
substantially identical claims, alleging that the defendants fraudulently
marketed and operated casino video poker machines and electronic slot machines,
and asserting common law fraud and deceit, unjust enrichment and negligent
misrepresentation and claims under the federal Racketeering-Influenced and
Corrupt Organizations Act. Various motions were filed by the defendants seeking
to have this new complaint dismissed or otherwise limited. In December 1997, the
Court, in its complaintgeneral, ruled on all motions in favor of the plaintiffs. The
plaintiffs then filed a motion seeking class certification and the defendants
opposed it. In June 2002, the Court entered an order denying class
certification, and the plaintiffs have appealed this order to the 9th Circuit
Court of Appeals. Briefing is complete, an oral hearing took place in January
2004, and no ruling has yet been issued.
WILLARD EUGENE SMITH LITIGATION
On October 24, 2003, Lakes announced that such amounts are recoverableit had been named as one of a number
of defendants in a counterclaim filed in state court in Harris County, Texas by
Stratosphere as preferential paymentsWillard Eugene Smith involving Kean Argovitz Resorts, LLC (KAR), related persons
and entities. In the counterclaim, Smith asserts that, under bankruptcy law. In May 1998, Grand
responded to Stratosphere's complaint denying that Stratospherean alleged oral
agreement with Kevin Kean, he is entitled to recovera percentage of fees to be received
by the amounts describedKAR entities or their principals relating to the Shingle Springs and
Jamul casinos that Lakes' subsidiaries are developing in California. Smith also
seeks recovery of damages and other relief from the KAR entities, Lakes and
certain affiliates based on their conduct with respect to the alleged agreement.
Lakes believes the counterclaim against it is without merit. Lakes understands
that the alleged oral agreement upon which Smith bases his claim was rendered
null and void in a prior judgment issued against Smith by the Harris County,
Texas state court in October 2000. However, in September 2003, the court vacated
the prior judgment against Smith. Lakes acquired KAR's interests in the complaint. DiscoveryShingle
Springs and Jamul projects on January 30, 2003. In the buyout agreements between
Lakes and certain KAR entities and related principals, the KAR entities
represented to Lakes that the KAR entities and their affiliates had no
continuing agreements with any third party relating to the Shingle Springs and
Jamul projects and agreed to indemnify Lakes and its affiliates from damages
resulting from prior dealings of the KAR entities and related principals
concerning the projects. Lakes will vigorously defend against the allegations
made against it and will pursue its indemnification rights against the KAR
entities and their principals under the buyout agreements if necessary.
EL DORADO COUNTY, CALIFORNIA LITIGATION
On January 3, 2003, El Dorado County filed an action in the Superior Court of
the State of California, seeking to prevent the construction of a highway
interchange that was completedapproved by a California state agency. The action does not
seek relief directly against Lakes. However, the interchange is necessary to
permit the construction of a casino to be developed and managed by Lakes through
a joint venture.
14
LAKES ENTERTAINMENT, INC. AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
(UNAUDITED)
The casino will be owned by the Shingle Springs Band of Miwok Indians. The
matter was tried to the court on December 31, 2001 andAugust 22, 2003. On January 2, 2004, Judge
Lloyd G. Connelly, Judge of the case proceeded to trial before the United States
BankruptcySuperior Court for the DistrictState of NevadaCalifornia,
issued his ruling on June 20, 2002.
On December 31, 2002, the Bankruptcymatter. The Court issued its final judgment holding
that: (i) paymentsdenied the petition in all respects
except one. As to Grand Mediathe one exception, the Court sought clarification as to
whether the transportation conformity determination used to determine the
significance of the air quality impact of the interchange operations considered
the impact on attainment of the state ambient air quality standard for electronic equipment totaling
approximately $3.3 million are not recoverableozone.
The California Department of Transportation prepared and filed the clarification
sought by Stratosphere as avoidable
preferences,the Court. Prior to the Court's determination of the adequacy of the
clarification, El Dorado County appealed Judge Connelly's ruling to the
California Court of Appeals. Judge Connelly ruled on April 9, 2004, that he has
jurisdiction to determine the adequacy of the clarification and (ii) paymenthas scheduled
another hearing for May 21, 2004 to Grand for management services inhear argument on whether the approximate amount of $2.3 million is recoverable by Stratosphere and an
avoidable preference. On May 8, 2003, this judgment was satisfied out of amounts
held in trust as security to support Lakes' indemnification obligations to
Grand. The Company had recorded a reserve assessment related to this litigation
which exceeded the final judgment amount by $3.2 million. This amount was
reversed during the second quarter of 2003 resulting in a $3.2 million pre-tax
decrease in costs and expenses in the accompanying consolidated statement of
loss for the six months ended June 29, 2003 and the accompanying consolidated
statement of earnings for the three months ended June 29, 2003.last issue has
been satisfactorily resolved.
OTHER LITIGATION
Lakes is involved in various other inquiries, administrative proceedings, and
litigation relating to contracts and other matters arising in the normal course
of business. While any proceeding or litigation has an element of uncertainty,
management currently believes that the final outcome of these matters, including
the matters discussed above, is not likely to have a material adverse effect
upon the Company's consolidated financial position or results of operations.
7. RELATED PARTY TRANSACTIONS
During 2001Lakes is currently in the process of negotiating a license agreement with
Sklansky Games, LLC ("Sklansky") and 2000,World Poker Tour, LLC pursuant to which
Lakes madewill develop a totalcasino table game jointly with Sklansky utilizing the World
Poker Tour brand name. Sklansky, through a joint venture with an unrelated third
party, is also in negotiations to license the World Poker Tour brand in
connection with the joint venture's development of $4.0 millionan electronic poker-related
gaming machine. In addition to our indirect majority ownership in unsecured loans,
which were receivableWorld Poker
Tour, LLC through one of our wholly owned subsidiaries, Mr. Berman and his son,
Brad Berman, each own an equity interest in full on December 31, 2002, to ViatiCare Financial
Services,Sklansky. Mr. Berman owns 28% and
Brad Berman owns 44% of Sklansky.
Effective as of February 24, 2004, Lakes' majority-owned subsidiary, World Poker
Tour, LLC which has since been acquired by Living Benefits Financial
Servicesentered into a non-exclusive license agreement with G-III Apparel
Group, Ltd. ("Living Benefits"G-III"). In March 2001,Morris Goldfarb, a Lakes director, is a director,
Co-Chairman of the Board of Directors of Lakes
decided not to make further loans to ViatiCare. A $4.0 million impairment charge
for this note was recorded during the quarter ended June 30, 2002, due to
increased competition in the viatical insurance business and restrictions on
ability to make further policy acquisitions.
Subsequent to the decision by the Lakes Board to make no further loans to
ViatiCare, L. B. Acquisitions, LLC, which is owned by Lyle Berman, the Chief Executive Officer of G-III. Under the
agreement, G-III licenses the World Poker Tour name, logo and a Directortrademark from
World Poker Tour, LLC in connection with G-III's production of Lakes, made loanscertain types of
apparel for distribution in authorized channels within the United States, its
territories and possessions and in certain circumstances, Canada. As
consideration for this non-exclusive license, G-III pays royalties and certain
other fees to Living Benefits. As an
incentive to make the loans, L. B. Acquisitions was granted an initial 9% voting
interest in Living Benefits and was given the option to convert the loan balance
into 45% of the voting interest in Living Benefits. Therefore, Lyle Berman,
through L. B. Acquisitions, beneficially owns a total of approximately 55% of
the voting interest of Living Benefits.
17World Poker Tour, LLC.
15
LAKES ENTERTAINMENT, INC. AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
(UNAUDITED)
Previously, Lakes formed two joint venture partnerships with Kean Argovitz
Resorts, LLC ("KAR"),8. SEGMENT INFORMATION
Lakes' principal business is the development and management of gaming related
properties. Additionally, the Company is the majority owner of the World Poker
Tour, LLC. (See Note 1). Substantially, all of our operations are conducted in
the United States. Lakes' reportable segments are as follows (in millions):
Industry Segments
Real Estate World Poker Corporate & Total
Development Tour Eliminations Consolidated
----------- ----------- ------------ ------------
For the Three Months
Ended/as of April 4, 2004
Revenue $ -- $ 4.1 $ -- $ 4.1
Operating income (loss) (0.1) 0.8 (1.5) (0.8)
Total assets 133.2 2.5 39.6 175.3
Depreciation expense -- -- 0.1 0.1
For the Three Months
Ended/as of March 30, 2003
Revenue $ -- $ 0.6 $ -- $ 0.6
Operating loss (0.1) (0.4) (0.8) (1.3)
Total assets 150.7 0.8 22.7 174.2
Depreciation expense -- -- 0.1 0.1
9. SUBSEQUENT EVENTS
During April of 2004, the Company's Board of Directors declared a limited liability company basedtwo-for-one
stock split, payable in Houston, Texasthe form of a 100% stock dividend on Lakes' outstanding
common stock. The stock dividend was paid on May 3, 2004 to shareholders of
record as of April 26, 2004.
As a result of the stock split, shareholders received one additional share of
common stock for every share they held on the purposerecord date. Upon completion of
developing and managing casino resort projectsthe split, the number of common shares outstanding was approximately 22.2
million. In connection with the Shingle
Springs Band of Miwok Indiansstock split, the Company introduced a direct
registration program to provide for uncertified shares through Wells Fargo
Shareowner Services, the Company's transfer agent and registrar. As a result,
the Jamul Indian Village, bothadditional shares were issued in California.
On January 30, 2003, Lakes restructured a series of arrangements with KAR"book-entry" form without stock
certificates and its individual members such that Lakes has effectively acquired 100% ownershipare registered on the books of the joint venturesCompany maintained by Wells
Fargo Shareowner Services. All share and per share data reflected in exchange for restructuring indebtedness of $1.8 million
from the joint venture partnershipsthis
quarterly report has been retroactively restated to Lakes and an agreement to make certain
conditional paymentsgive effect to the individual KAR members from profits received understock
split.
During April of 2004, the respective management contracts. While these conditional payments could
total up to $2 million per year for each project, Lakes believes these payments
will be substantially less than KAR would have received under their original
interest. The individual KAR members have options to repurchase their interest
or obtain a comparable financial interest, in the event they are found suitable
by relevant gaming regulatory authorities.
A subsidiary of Lakes and Land Baron West, LLC are partners in a joint venture
formed to develop or sell land purchasedNipmuc Nation was notified by the joint venture near San Diego,
California. Land Baron West, LLC owedDirector, Office of
Federal Acknowledgement (OFA) within the joint venture $0.5 million, and $0.2
million, asBureau of June 29, 2003 and December 29, 2002, respectively. These amounts
are included in accounts receivable onIndian Affairs (BIA), that
the accompanying condensed consolidated
balance sheets.
During 2002, Lakes rented the use of Company equipment to another company that
had a mutual Board member during a portion of 2001. The transaction was for full
valueprojected date of the associated use and all payments totaling $0.02 million for such use
have been received.
8. SUBSEQUENT EVENT
SHARK CLUB
On JulyBIA's final determination on federal recognition
(Petition 69A) was extended by forty-five days. In a letter to the Nipmuc Nation
Chief Walter Vickers, the BIA projects issuing the Nipmuc final determination by
June 15, 2004, rather than the previously projected date of May 1, 2003, Lakes completed the sale of its Shark Club property in Las
Vegas, Nevada to an entity to be managed and operated by Marriott Ownership
Resorts, Inc. As consideration for this sale, Lakes received $15.0 million in
cash, plus $1.0 million as repayment of a loan previously made to Chateaux by
Lakes.
182004.
16
LAKES ENTERTAINMENT, INC. AND SUBSIDIARIES
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS
OVERVIEW
Lakes Entertainment, Inc., a Minnesota corporation ("Lakes" or the "Company")
was established as a public corporation on December 31, 1998, via a distribution
(the "Distribution") of its Common Stock, to the shareholders of Grand Casinos,
Inc. ("Grand").
As a result of the Distribution, Lakes operates the Indian casino management
business and holds various other assets previously owned by Grand. Lakes' main
business is the development, construction and management of casinos and related
hotel and entertainment facilities in emerging and established gaming
jurisdictions. Lakes has entered into the following contracts for the development, management
and/or financing of new casino operations, all of which are subject to various
regulatory approvals before construction can begin: (1)begin. Lakes has a contract to be the exclusive developer and manager of an
Indian-owned gaming resort near New Buffalo, Michigan for the Pokagon Band of
Potawatomi Indians. (2) Lakes has entered into contracts to
develop and manage two casinos to be owned by Indian tribes in California, one near San Diego withIndian-owned gaming resorts for the Jamul Indian Village and the other near Sacramento with thefollowing:
o Shingle Springs Band of Miwok Indians. (3) Lakes and another company have formed a partnership
with a contract to finance the constructionIndians near Sacramento, California
o Pokagon Band of an Indian-owned casino 60 miles
north ofPotawatomi Indians near New Buffalo, Michigan
o Jamul Indian Village near San Francisco, California. The Cloverdale Rancheria has notified the
partnership that the Rancheria wishes to terminate the relationship between the
two parties. The partnership has advised the Rancheria that the partnership
believes the contract is enforceable. The Rancheria acknowledges that the
partnership has loaned the Rancheria money and that the Rancheria will endeavor
to repay the money in a timely manner. (4) Lakes has also signed contracts with
theDiego, California
o Nipmuc Nation a Massachusetts Indian tribe, for development and managementon the East Coast of a potential future gaming resort in the eastern United States; however, this
tribe has received a negative finding regarding federal recognition from the
Bureau of Indian Affairs (BIA). The tribe has submitted additional information
to the BIA for reconsideration.States
In addition, Lakes owns options to purchase the patent rights for various new
casino games and is actively marketing these new games to the casino industry in
an attempt to have
a casino acceptlicense the games for use in their operations.
World Poker Tour, a majority-owned subsidiary of Lakes, has also formedcreated a joint venture with another company to develop approximately 2,000 acres owned bycircuit of
previously-established poker tournaments affiliated under the joint venture in eastern San Diego County in California. It is possible the
land will be sold in lieu of a development by the joint venture. Lakes"World Poker Tour"
name, and has also
formed a joint venture with a producer to launchproduced the World Poker Tour ("WPT")
and establish poker as the next significant televised mainstream sport. The
joint venturetelevision series. World Poker Tour
signed an agreement with the Travel Channel ("TRV") in March 2003,
for broadcast of the first season of the WPT series which has now been
completed. During July of 2003, WPT reached an agreement with TRV for a second season with the Travel Channel, LLC ("TRV") for
broadcast of the World Poker Tour series on cable television which is currently
airing. TRV was also granted options for five additional seasons. Revenue is recognized ratably
as production milestones and other conditions are met.WPT receives a
series of fixed license payments from TRV.
During the first two
quartersJanuary of 2003, Lakes recognized approximately $3.5 million in revenue related
to the2004, World Poker Tour. Revenues relatedTour announced that it will seek to raise
approximately $20 million through a newly formed corporation pursuant to an
underwritten initial public offering of common stock at a price to be
determined. It is expected that proceeds from the second seasonoffering will be recognized during 2004.
19used to
expand World Poker Tour's entertainment production business and for its working
capital. There will be no selling shareholders participating in the offering.
Lakes does not expect to recognize a gain or loss on this transaction and the
proceeds will be reflected as a minority interest.
Additionally, Lakes continually evaluates other opportunities to diversify the
Company's activities and bring in new revenue streams.
17
LAKES ENTERTAINMENT, INC. AND SUBSIDIARIES
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS (CONTINUED)
Lakes' growth strategy contemplates the development of existing projects, the
pursuit of opportunities to develop and manage additional gaming facilities and
the pursuit of new business opportunities. The successful implementation of this
growth strategy is contingent upon the satisfaction of various conditions,
including obtaining governmental approvals, the impact of increased competition,
and the occurrence of certain events, many of which are beyond the control of
Lakes.
SIGNIFICANT ACCOUNTING POLICIES
The significant accounting policies, which Lakes believes are the most critical
to aid in fully understanding and evaluating its reported financial results,
include the following: revenue recognition and realizability of notes
receivable.
REVENUE RECOGNITION: Revenue from the management of Indian-owned casino gaming
facilities is recognized when earned according to the terms of the management
contracts. Currently all of the Indian-owned casino projects that Lakes is
involved with are in development stages and are not yet open. Therefore, until a
project is open and operating, Lakes will not recognize revenue related to
Indian casino management. Interest income on notes receivable for Indian tribes
related to casino development projects is deferred because realizability of the
interest is contingent upon the completion and generation of cash flow from the
operation of the casino. Interest deferred during the development period is
recognized over the remaining life of the note using the effective interest
method. RevenueLicense revenue from the World Poker Tour series airing on TRV is
recognized ratably as
production milestonesupon delivery of completed episodes. WPT sponsorship and other conditionshost casino
revenue is recognized upon airing of episodes. Any payments received in excess
of WPT revenue earned are met.deferred and recoginized upon delivery or airing of
episodes.
IMPAIRMENT OF LONG-TERM ASSETS: TheCurrently, the Company's notes receivable from
Indian Tribes are generally for the pre-construction development of gaming
properties to be managed by the Company. The repayment terms are specific to
each tribe and are largely dependent upon the operating performance of each
gaming property. Repayments of the notes receivable are required to be made only
if distributable profits are available from the operation of the related
casinos. Repayments are also the
subject ofto certain distribution priorities
specified in the management contracts. In addition, repayment of the notes
receivable and the manager's fees under the management contracts may beare
subordinated to certain other financial obligations of the respective tribes.
Through June 29, 2003,April 4, 2004, no impairments have been recorded under these provisions.
Management periodically evaluates the recoverability of such notes receivable
based on the current and projected operating results of the underlying facility
and historical collection
experience.an assessment of the underlying facility and an assessment as to the
liklihood of project completion. If the Company determines an impairment has
occurred, the notes receivable would be written down to their estimated fair
value.
The Company currently holds land held for development and land held under
contract for sale. The Company periodically evaluates whether events and
circumstances have occurred that may affect the recoverability of the net book
value of these assets. If such events or circumstances indicate that the
carrying amount of an asset may not be recoverable, the Company estimates the
future cash flows expected to result from the use of the asset. If the sum of
the expected future undiscounted cash flows does not exceed the carrying value
of the asset, the Company will recognize an impairment loss.
20
LAKES ENTERTAINMENT, INC. AND SUBSIDIARIES
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS (CONTINUED)
The following discussion and analysis should be read in conjunction with the
condensed consolidated financial statements and notes thereto and management's
discussion and analysis included in the Company's Annual Report on Form 10-K for
the year ended December 29, 2002.
RECENT ACCOUNTING PRONOUNCEMENTS
The FASB issued Interpretation No. 45, "Guarantor's Accounting and Disclosure
Requirements for Guarantees, Including Indirect Guarantees of Indebtedness of
Others" in November 2002. This interpretation elaborates on the disclosures to
be made by a guarantor in its financial statements about its obligations under
certain guarantees that it has issued. It also clarifies that a guarantor is
required to recognize, at the inception of a guarantee, a liability for the fair
value of the obligation undertaken in issuing the guarantee.
The initial recognition and initial measurement provisions of this
interpretation are applicable to all guarantees and modification to guarantees
made after December 31, 2002. The Company's disclosure of the indemnification
and guarantee agreements of the Company is in compliance with the
interpretation. The disclosure requirements in this interpretation are effective
for financial statements of interim or annual periods ended after December 15,
2002. The adoption of the interpretation did not have a material impact on the
Company's results of operations, financial position and cash flows. The Company
does have an indemnification agreement with Grand Casinos which is fully
described in the Financial Condition section of this Management's Discussion and
Analysis.
In January 2003, the FASB issued Interpretation No. 46 (FIN46), "Consolidation
of Variable Interest Entities", which addresses the consolidation of variable
interest entities. The interpretation applicable immediately to variable
interest entities created after January 31, 2003, and to variable interest
entities in which a Company obtains an interest after that date. For variable
interests in variable interest entities acquired before February 1, 2003, the
interpretation applicable applies in the first interim period beginning after
June 15,28, 2003.
The Company has determined that it has no investments or other
interests in entities that may be deemed variable interest entities under the
provisions of FIN 46, as the development projects subject to the management
agreements with the Indian Tribes are not separate entities or legal structures.
In December 2002, the FASB issued SFAS No. 148, "Accounting for Stock-Based
Compensation - Transition and Disclosure - an amendment of FASB Statement No.
123". SFAS No. 148 provides alternative transition methods for companies that
make a voluntary change to the fair-value-based method of accounting for
stock-based employee compensation. In addition, SFAS No. 148 amends the
disclosure requirements of SFAS No. 123 to require prominent disclosures in both
annual and interim financial statements about the method of accounting for
stock-based employee compensation and the effect of the method used on reported
results. The Company has adopted the disclosure provisions of SFAS No. 148 and
its adoption had no impact on the Company's consolidated financial position or
results of operations.
2118
LAKES ENTERTAINMENT, INC. AND SUBSIDIARIES
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS (CONTINUED)
RESULTS OF OPERATIONS
Revenues are calculated in accordance with accounting principles generally
accepted in the United States of America and are presented in a manner
consistent with industry practice.
Historically, net distributable profits by
the Indian casinos were computed using a modified cash basis of accounting in
accordance with the management contracts to calculate management fees. Under
this modified cash basis of accounting prescribed by the management contracts,
the write-off of capital equipment and leased assets for the casino operations
was accelerated, which thereby impacted the timing of net distributable profits.
SIXTHREE MONTHS ENDED JUNE 29, 2003APRIL 4, 2004 COMPARED TO THE SIXTHREE MONTHS ENDED JUNEMARCH 30,
20022003
Revenues
Total revenues were $3.5$4.1 million for the sixthree months ended June 29, 2003April 4, 2004,
compared to $1.5$0.6 million for the same period in the prior year.year period. Revenues for the current and
prior year periodperiods were primarily derived entirely from license fees related to the WPT
series,
which has now completed its first full season. An agreement forseries. The increase in revenue is the result of a WPT second
season was reached during Julygreater number of 2003. Underepisodes
delivered to the new agreement, WPT will
receive a series of fixed license payments forTravel Channel in the second season. These payments
will commence in 2004 and are subjectcurrent year period compared to satisfaction of production milestones
and other conditions. WPT is also entitled to a portion of the revenues from
other sources including international distribution, merchandising and certain
sponsorships, and WPT is currently exploring these opportunities. Revenues for the prior
year period were derived entirely from management fees from the
management of Grand Casino Coushatta. The management contract with the Coushatta
Tribe of Louisiana for Grand Casino Coushatta expired on January 16, 2002. The
Company currently has no other management contracts from which it will derive
revenues in 2003.period.
Costs and Expenses
Total costs and expenses were $5.0$5.9 million for the sixthree months ended June 29,
2003,April 4,
2004, compared to $11.9$3.1 million for the same period in the prior year. Selling,
general and administrative expenses decreasedincreased from $11.7$2.1 million for the sixthree
months ended JuneMarch 30, 20022003 to $7.9$3.3 million for the sixthree months ended June 29,
2003.April 4,
2004. This decreaseincrease is the result of impairment charges takendue to an increase in the prior year
period of $4.0 million relating to a note receivable from Living Benefits, LLC,costs associated with World Poker
Tour and $3.0 million relating to the Polo Plaza and Travelodge properties, which was
partially offset by an increase in professional fees incurred by Lakes, related to
development projects. World Poker Tour production costs increased from $0.9
million for the three months ended March 30, 2003 to $2.5 million for the three
months ended April 4, 2004. Production costs consist of capitalizable direct
costs, production overhead and development costs for each episode and are
generally expensed as revenues are recognized upon delivery and acceptance of
the completed episode. However, the $0.9 million in production costs recognized
in the 2003 period does not include an additional $1.0 million in production
costs that were previously expensed in 2002 even though the episodes were not
delivered until 2003. These previous costs were not capitalized as of December
29, 2002, because World Poker Tour did not have a contract for the sale of
episodes at that time.
Other
A subsidiary of Lakes and Land Baron West, LLC are partners in a joint venture
formed to develop or sell land purchased by the joint venture near San Diego,
California. During the first quarter of 2004, the joint venture sold this land.
Lakes' share of the proceeds related to this sale was approximately $1.7 million
in cash after payment of closing costs. The sale resulted in a gain to Lakes of
approximately $1.4$0.4 million related to the property sales in Las Vegas, Nevada, as well as an
increase in costs incurred associated with WPTwhich is included in the amountaccompanying consolidated
statement of $2.2 million
duringearnings for the current year period. Also during the current year period, the Company
reversed a reserve assessment related to Stratosphere litigation which exceeded
the final judgment amount resulting in a reversal of litigation and claims
accrual in the amount of $3.2 million.
22three months ended April 4, 2004.
19
LAKES ENTERTAINMENT, INC. AND SUBSIDIARIES
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS (CONTINUED)
Other
Interest income was $0.6 million for the six months ended June 29, 2003 compared
to $1.2 million for the same period in the prior year. This decrease is
primarily due to lower cash balances during the period.
LossesEarnings Per Common Share and Net LossesEarnings
For the sixthree months ended June 29, 2003,April 4, 2004, basic and diluted losses per common
share were $0.05,$0.03, compared to basic and diluted losses of $0.68,$0.06 per share, for
the same period in the prior year. Losses for the periodthree months ended June 29, 2003April 4,
2004 were $0.5$0.8 million compared to $7.2 million for the six months ended June 30, 2002. This
decrease in losses is primarily due to the impairment charges of $7.0 million
taken in the prior year period discussed above. Also contributing to the
decrease was the WPT revenue of $3.5 million recognized in 2003, compared to
management fee income of $1.5 million related to the management of Grand Casino
Coushatta, recognized in the prior year period.
THREE MONTHS ENDED JUNE 29, 2003 COMPARED TO THE THREE MONTHS ENDED JUNE 30,
2002
Revenues
Total revenues were $3.0$1.3 million for the three months
ended June 29,March 30, 2003. There
were no revenuesThis decrease in the same periodlosses relates primarily to an increase
in the prior year. Revenues fornet World Poker Tour income during the current year period were derived entirelyperiod.
Outlook
It is currently contemplated that there will be no operating revenues for 2004
from license fees related toexisting casino development projects. Revenue from the WPT series,
which has now completed its first full season. An agreement for a WPT second season was reachedof the
World Poker Tour series will be recognized along with associated production
costs during July 2003. Revenue2004. The Company anticipates that most of the remaining revenues
from the second season will be recognized in 2004 as production milestones and other conditions are met.
Costs and Expenses
Total costs and expenses were $1.9 million for the three months ended June 29,
2003, compared to $9.7 million for the same period in the prior year. Selling,
general and administrative expenses decreased from $9.6 million for the three
months ended June 30, 2002 to $5.0 million for the three months ended June 29,
2003. This decrease is primarily due to a second quarter 2002 impairment of $4.02004.
Although none of the existing casino development projects are expected to
produce revenue in 2004, Lakes continues to evaluate potential new
revenue-generating business opportunities. Lakes continues to closely monitor
its operating expenses.
After the anticipated initial public offering by World Poker Tour, Lakes will
continue to own a majority of World Poker Tour's equity. Therefore, World Poker
Tour's operating results will continue to be consolidated with our results.
FINANCIAL CONDITION
At April 4, 2004, Lakes had $25.0 million relating to a note receivablein unrestricted cash and cash
equivalents. Lakes' operating revenues have been minimal since the expiration of
the management contract with the Coushatta Tribe in January 2002. In 2003, the
operating revenues derived from Living Benefits Financial Services,
LLC, as well as a $3.0 million impairment charge taken on the Polo Plaza and
Travelodge properties,World Poker Tour were offset almost entirely
by production costs. The Company's primary source of cash the past two years has
been from the planned sale of assets. We expect that proceeds from the sale of
assets will decrease in 2004. During the first quarter of 2004, the 2022 Ranch
land, which was partially offsetowned by an increase in professional
fees of approximately $1.4 million related to the property sales in Las Vegas,
Nevada, as well as an increase in costs incurred associated with WPTLakes and its joint venture partner Land Baron West,
LLC, was sold. Lakes received cash in the amount of $1.2 million during the current year period. Also during the current
year period, the Company reversed a reserve assessment related to Stratosphere
litigation which exceeded the final judgment amount resulting in a reversal of
litigation and claims accrualapproximately $1.7 million.
Our management contracts with our tribal partners require that we provide
financial support in the amountform of $3.2 million.
23notes receivable prior to the beginning of
construction (the 'Pre-construction Financing'). We also have commitments to
provide additional financing to our tribal partners to fund the construction of
the casinos ('the Construction Financing') if it is not available from other
sources. These notes are interest bearing; however, the interest is deferred
until the casino is built and has established profitable operations. In the
event that the casinos are not built, our only recourse is to liquidate the
assets of the development. We currently believe that our existing casino
development projects included in the table below will be constructed and achieve
profitable operation; however, no assurance can be made that this will occur. If
this does not occur, it is likely that Lakes would incur substantial losses in
the liquidation of the collateral.
20
LAKES ENTERTAINMENT, INC. AND SUBSIDIARIES
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS (CONTINUED)
Other
Interest income was $0.3 million for the three months ended June 29, 2003
compared to $0.4 million for the same period in the prior year. This decrease is
primarily due to lower cash balances during the period.
Earnings Per Common Share and Net Earnings
Casino Development Advances/Commitments
----------------------------------------------------
(in millions)
Pre-construction Land Held for Remaining
Advances Development Commitment
as of 4/4/04 as of 4/4/04 as of 4/4/04
---------------- ------------- ------------
Jamul Indian Village $ 13.0 $ 6.6 $ 10.4
Shingle Springs Band of Miwok Indians 27.4 7.4 0.2
Pokagon Band of Potawatomi Indians 42.8 -- 25.7
Nipmuc Nation 5.1 -- 1.0
For the three months ended June 29, 2003, basic and diluted earnings per common
share were $0.07, comparedPokagon project, the Company has agreed to basic and diluted losses of $0.67, for the same
period in the prior year. Earnings for the three months ended June 29, 2003 were
$0.8 million compared to losses of $7.2 million for the three months ended June
30, 2002. This increase in earnings relates primarily to the impairment charges
of $7.0 million taken in the prior year period discussed above. Also
contributing to the increase was the WPT revenue recognized in the current year
quarter.
Outlook
It is currently contemplated that there will be no operating revenues for the
remainder of 2003 from existing casino development projects or from the World
Poker Tour. Although none of the existing casino development projects are
expected to produce revenue in 2003, Lakes continues to evaluate potential new
revenue-generating business opportunities. The Company recently signed an
agreement with TRV for a second season of the WPT series. Costs associated with
WPT are expected to remain primarily consistent during the third and fourth
quarters of 2003. However, revenues related to the second season will not be
recognized until 2004, as production milestones and other conditions are met.
Lakes anticipates that second season revenues from all sources will allow WPT to
be profitable in 2004 and future years, thereby being incremental to Lakes'
earnings and reducing financial risks associated with this venture. Lakes
continues to closely monitor its operating expenses.
FINANCIAL CONDITION
At June 29, 2003, Lakes had $23.4 million in unrestricted cash and cash
equivalents. Subsequent to June 29, 2003, Lakes has received $15.0 million in
cash related to the sale of the Shark Club property and $1.0 million as
repayment of a loan previously made to Chateaux by Lakes. Lakes considers its
cash position, which includes the payments received upon the sale of the Shark
Club property, adequate to cover expected remaining 2003 operating expenses. For
the six months ended June 29, 2003, net cash used in operating activities
totaled $4.0 million. For the six months ended June 30, 2002, net cash used in
operating activities totaled $0.5 million. For the current year period, net cash
provided by investing activities totaled $13.3 million. For the six months ended
June 30, 2002, net cash used in investing activities totaled $15.6 million.
Included in these investing activities for the periods ended June 29, 2003 and
June 30, 2002 are advances on notes receivable of $6.6 million and $9.9 million,
respectively. Net receipts from land held under contract for sale were $16.3
million during the six months ended June 29, 2003. Payments for land held under
contract for sale were $0.7 million for the six months ended June 30, 2002.
24
LAKES ENTERTAINMENT, INC. AND SUBSIDIARIES
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS (CONTINUED)
Unrestricted cash increased by $5.9 million during the 2003 period as a result
of the reclassification of restricted cash as unrestricted. During the periods
ended June 29, 2003 and June 30, 2002, payments for land held for development
amounted to $1.6 million and $4.9 million, respectively.
Lakes plans to use its cash for continuing operations, loans to current joint
ventures and tribal partners to develop existing and anticipated Indian casino
operations, the pursuit of additional business opportunities, and settlement of
pending litigation matters. The amount and timing of Lakes' cash outlays for
casino development loans will depend on the timing of the regulatory approval
process and the availability of external financing. When approvals are received,provide additional financing
willfrom its own funds if financing at an interest rate not to exceed 13% is not
available from third parties. If this occurs and Lakes is required to provide
all financing, this would be neededan additional commitment of up to complete the projects. It is currently
plannedapproximately $54
million. Currently, it appears that this third-party financing will be obtained by each individual
tribe.available for
this project. However, there can be no assurance that if third-party financing is notwill
be available and that Lakes will not be required to finance these projects directly. If
Lakes must provide this financing, Lakes expects to obtain debt or equity
financing which it would loan to the respective tribes as necessary. In the
alternative,additional
financing.
Lakes may be required to provide a guarantee the tribes'of tribal debt financing or
otherwise provide support for the tribes' obligations.tribal obligations related to any of the
projects. Any guarantees by Lakes or similar off-balance sheet liabilities will
increase Lakes' potential exposure in the event of a default by any of these
tribes.
Our major use of cash over the past three years has been Pre-construction
Financing provided to our tribal partners. At June 29, 2003,April 4, 2004, Lakes had
approximately $75.6$89.9 million in notes receivable from Indian tribes and other parties. Most of these amounts are advances made to the
tribes for the development of gaming properties managed by Lakes.tribes. See Note 5
to the Consolidated Financial Statements included in Item 1.
The joint venture entitiesStatements.
We believe that hold the management contracts for the San Diegoour cash and Sacramento area casino resorts were previously jointly ownedcash equivalents, along with two LLC's
owned by Kevin M. Kean and Jerry A. Argovitz, (the "KAR Entities"). On January
30, 2003, subsidiaries of Lakes purchased the respective joint venture interests
of the KAR Entities for nominal consideration, at which time the joint venture
entities became indirect wholly owned subsidiaries of Lakes. At the time of the
purchase, Lakes or its subsidiaries had notes receivable from the KAR Entities
and a long-term receivable from Kevin M. Kean that, as of December 29, 2002,
were in the amounts of $1.8 million and $1.9 million, respectively. In
connection with the purchase transactions, Lakes and certain of its subsidiaries
entered into separate agreements with Kevin M. Kean and Jerry A. Argovitz, the
two individual owners of the KAR Entities. Under these agreements, Lakes and its
subsidiaries have forgiven the notes receivable from the KAR Entities, subject
to the agreements of Messrs. Kean and/or Argovitz to assume the obligations
under the notes in certain circumstances.
Under the agreements with Kevin M. Kean, Mr. Kean may elect to serve as a
consultant to Lakes' subsidiaries during the term of each subsidiary's casino
management contract if he is found suitable by relevant gaming regulatory
authorities. In such event, Mr. Keanexpected cash
receipts, will be entitled to receive annual
consulting fees equal to 20% of the management fees from the San Diego area
casino operations and 15% of the management fees from the Sacramento area casino
operations, less certain costs of these operations.
25
LAKES ENTERTAINMENT, INC. AND SUBSIDIARIES
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS (CONTINUED)
If Mr. Kean is found suitable by relevant gaming regulatory authorities and
elects to serve as a consultant, he will be obligated to repay 50% of the notes
receivable from the KAR Entities. If Mr. Kean is not found suitable by relevant
gaming regulatory authorities or otherwise elects not to serve as a consultant,
he will be entitled to receive annual payments of $1 million from each of the
San Diego and Sacramento area casino projects during the term of the respective
casino management contracts (but not during any renewal term of such management
contracts). Regardless of whether Mr. Kean serves as a consultant, a Lakes
subsidiary has agreed to loan up to $1.25 million to Mr. Kean, $1 million of
which must be usedadequate to fund certain obligations of Mr. Kean related to a separate
joint venture formed to acquire landoperating expenses and Pre-construction
Financing in the San Diego area. Mr. Kean's personal
indebtedness to Lakes remained outstanding. Mr. Kean has agreed that 50% of the
consulting fees or other payments payable to him under the agreements with Lakes
and its subsidiaries shall be applied toward repayment of his indebtedness to
Lakes. In the event of a default under the agreements, 100% of the fees and
payments will be applied toward repayment of his indebtedness to Lakes.
Under the agreements with Jerry A. Argovitz, if Mr. Argovitz is found suitable
by relevant gaming regulatory authorities, he will be entitled to purchase for
nominal consideration a 20% equity interest in the Lakes subsidiary holding a
management contract with the San Diego area casino and a 15% equity interest in
the Lakes subsidiary holding a management contract with the Sacramento area
casino. Upon such purchase, Mr. Argovitz will become obligated to repay 50% of
the notes receivable from the KAR Entities. If he is not found suitable or does
not elect to purchase equity interests in the Lakes subsidiaries, Mr. Argovitz
may elect to receive annual payments of $1 million from each of the San Diego
and Sacramento area casino projects from the date of election through the term
of the respective casino management contracts (but not during any renewal term
of such management contracts).
As part of a joint venture which will televise poker tournaments, the Company
invested $0.1 million for an approximately 78% ownership position in the joint
venture during 2002. The Company is also required to loan up to $3.2 million to
the joint venture as needed. As of June 29, 2003, the Company had made net loans
totaling $1.8 million to the joint venture.
On December 28, 2001, the Company transferred title and ownership obligations of
the Polo Plaza shopping center property to Metroflag Polo, LLC. In conjunction
with this transaction, Lakes transferred to Metroflag BP, LLC, rights to and
obligations of the adjacent Travelodge property consisting of a long-term land
lease and a motel operation. This transaction was accounted for under the
deposit method of accounting under the requirements of Statement of Financial
Accounting Standards No. 66, Accounting for Sales of Real Estate rather than as
a sale. Therefore, the fair value of the property was included as land held
under contract for sale on the accompanying balance sheet as of December 29,
2002. The total price for this combined transaction was approximately $30.9
million. Terms of the transaction include a $1.0 million down payment, which was
received in January 2002, a contractual commitment to pay to Lakes $23.3 million
and a second contractual commitment to pay Lakes $7.5 million.
26
LAKES ENTERTAINMENT, INC. AND SUBSIDIARIES
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS (CONTINUED)
During 2002, Lakes and Metroflag restructured the terms of the Polo Plaza and
Travelodge property transactions due to deteriorating economic conditions. The
parties reduced the purchase price for the Polo Plaza property from $23.8
million to $21.8 million. On the payment date, which was scheduled to be no
later than January 31, 2003, $16.8 million of the purchase price was to be
payable to Lakes in cash and $4.0 million was to be payable through the issuance
to Lakes of a preferred membership interest in Metroflag. During 2002, Lakes
recorded a $3.0 million impairment charge for these properties relating to the
adjustment in the purchase price and a negotiated potential discount on the
return of Lakes' preferred interest. Lakes' collateral for the two contractual
commitments is the property and lease rights described above which would revert
back to Lakes in the event of default by Metroflag.
During March of 2003, Lakes and Metroflag agreed to additional revisions to the
terms of the Polo Plaza and Travelodge property transactions. The parties have
increased the price of the Polo Plaza property from $21.8 million to $25.8
million. On the payment date, which was extended to May 15, 2003, $16.8 million
of the purchase price was paid to Lakes in cash, $4.0 million was paid through
the issuance to Lakes of a preferred membership interest in Metroflag and $4.0
million was paid through the issuance to Lakes of a subordinated membership
interest in Metroflag. On or before April 30, 2004, Metroflag Polo may elect to
distribute to Lakes $3.0 million plus interest in cash as full return of Lakes'
preferred interest. If paid after April 30, 2004 and in no event later than
December 24, 2006, the entire $4.0 million plus interest will be payable. The
subordinated interest must be repurchased for $4.0 million at the time of
repayment of an outstanding $3.5 million contractual commitment in connection
with the Travelodge property, which is scheduled on or before December 28, 2004. If the Travelodge commitmentPokagon casino project begins construction during
2004, it is not repaid by December 28, 2004, ownership of
the Travelodge lease rights would revert back to Lakes. If at any time the Polo
Plaza property is sold and the Travelodge commitment has not been repaid,
Metroflag is required to repurchase the subordinated interest for the lesser of
$4.0 millionanticipated that we will require additional capital through either
public or any portion of the net cash proceeds from such sale or
refinancing that exceeds $60.0 million.
In March of 2003, the parties decreased the sale price of the Travelodge
property from $7.5private financings.
Lakes loaned $0.3 million to $3.5 million. The contractual commitment to pay
Lakes was also decreased from $7.5 million to $3.5 million and is now payable no
later than December 28, 2004.
On July 1, 2003, Lakes completed the salea former non-tribal partner in one of its Shark Club property in Las
Vegas, Nevada to an entityIndian
casino development projects. Repayment is expected to be managed and operated by Marriott Ownership
Resorts, Inc. As consideration forreceived from this
sale, Lakes received $15.0 million in
cash, plus $1.0 million as repayment of a loan previously made to Chateaux by
Lakes.
27
LAKES ENTERTAINMENT, INC. AND SUBSIDIARIES
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS (CONTINUED)
Pursuant to the terms of the Distribution Agreement, Grand Casinos assigned to
Lakes, and Lakes assumed, a lease agreement dated February 1, 1996 covering
Lakes' current corporate office space of approximately 65,000 square feet with a
lease term of fifteen years. The lease commenced on October 14, 1996. During
2001, also pursuant to the terms of the Distribution Agreement, Lakes entered
into a capital lease arrangement for the corporate office space at which time
the operating lease was cancelled. Accordingly, Lakes recorded a capital leased
asset and liability in the amount of approximately $5.8 million. On January 2,
2002, as per the agreement with Grand Casinos, Lakes purchased the building for
$6.4 million, including transaction expenses. This transaction resulted in the
extinguishment of the Company's capital lease obligationformer partner's future consulting fees related to the
building.
The Company had two notes payable with third parties, which were repaid during
2002. The first was collateralized by certificates of deposit, in the amount of
$1.0 million. The second was collateralized by property in the amount of $0.4
million.certain Indian casino
development projects. At April 4, 2004, $0.3 million is outstanding under this
agreement.
As a part of the agreements resulting from Lakes' spin-off from Grand Casinos
and related transactions,transaction establishing Lakes hasas a separate public company on
December 31, 1998, the Company agreed to indemnify Grand Casinosthrough December 28,
2004 against all costs, expenses and liabilities incurred in connection with or
arising out of certain pending and threatened claims and legal proceedings
against Grand and to which Grand
Casinospay all related settlements and certain of its subsidiaries are likely to be parties.judgments. The Company's
indemnification obligations include the obligation to provide the defense of all
claims made in proceedings against Grand Casinos and to pay all related settlements and
judgments.
See Part II Item 1. Legal Proceedings.21
LAKES ENTERTAINMENT, INC. AND SUBSIDIARIES
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS (CONTINUED)
As of December
29, 2002, Lakes had $7.5 million deposited in trust as security to support
Lakes' indemnification obligations to Grand Casinos. In May 2003, $2.3 million
was paid outa part of the trust to Stratosphere. Following such payment,indemnification agreement, Lakes agreed that it will not
declare or pay any dividends, make any distribution on account of Lakes' equity
interests, or otherwise purchase, redeem, defease or retire for value any equity
interests in Lakes without the trust
account was terminated and the remaining restricted fundswritten consent of approximately $5.9
million, including interest, were released to Lakes and reclassified as
unrestricted cash on Lakes' condensed consolidated balance sheet as of June 29,
2003. Notwithstanding termination of the trust account, Lakes' indemnification
obligations to Grand remain in effect. Subsequent indemnification obligations to
Grand Casinos, if any, would be paid directly by Lakes.Grand.
SEASONALITY
The Company believes that the operations of all casinos to be managed by the
Company will be affected by seasonal factors, including holidays, weather and
travel conditions.
REGULATION AND TAXES
The Company is subject to extensive regulation by state gaming authorities. The
Company will also be subject to regulation, which may or may not be similar to
current state regulations, by the appropriate authorities in any jurisdiction
where it may conduct gaming activities in the future. Changes in applicable laws
or regulations could have an adverse effect on the Company.
28
LAKES ENTERTAINMENT, INC. AND SUBSIDIARIES
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS (CONTINUED)
The gaming industry represents a significant source of tax revenues. From time
to time, various federal legislators and officials have proposed changes in tax
law, or in the administration of such law, affecting the gaming industry. It is
not possible to determine the likelihood of possible changes in tax law or in
the administration of such law. Such changes, if adopted, could have a material
adverse effect on the Company's results of operations and financial results.
RECENT ACCOUNTING PRONOUNCEMENTSOFF-BALANCE SHEET ARRANGEMENTS
The FASB issued Interpretation No. 45, "Guarantor's Accounting and Disclosure
Requirements for Guarantees, Including Indirect Guarantees of Indebtedness of
Others" in November 2002. This interpretation elaboratesCompany has no off-balance sheet arrangements that have or are reasonably
likely to have a current or future effect on the disclosures to
be made by a guarantor in its financial statements about its obligations under
certain guarantees that it has issued. It also clarifies that a guarantor is
required to recognize, at the inception of a guarantee, a liability for the fair
value of the obligation undertakencondition, changes in
issuing the guarantee.
The initial recognition and initial measurement provisions of this
interpretation are applicable to all guarantees and modification to guarantees
made after December 31, 2002. The Company's disclosure of the indemnification
and guarantee agreements of the Company is in compliance with the
interpretation. The disclosure requirements in this interpretation are effective
for financial statements of interimcondition, revenues or annual periods ended after December 15,
2002. The adoption of the interpretation did not have a material impact on the
Company'sexpenses, results of operations, financial positionliquidity,
capital expenditures or capital resources that is material to investors, except
for the financing commitments previously discussed, and cash flows. The Company
does have an indemnification agreement with Grand Casinos which is fully
describedexcept for Lakes'
investments in the Financial Condition section of this Management's Discussion and
Analysis.
In January 2003, the FASB issued Interpretation No. 46 (FIN46), "Consolidation
of Variable Interest Entities", which addresses the consolidation of variable
interest entities. The interpretation applicable immediately to variable
interest entities created after January 31, 2003, and to variable interest
entities in which a Company obtains an interest after that date. For variable
interests in variable interest entities acquired before February 1, 2003, the
interpretation applicable applies in the first interim period beginning after
June 15, 2003. The Company has determined that it has no investments or other
interests in entities that may be deemed variable interest entities under the
provisions of FIN 46, as the development projects subject to the management
agreements with the Indian Tribes are not separate entities or legal structures.
In December 2002, the FASB issued SFAS No. 148, "Accounting for Stock-Based
Compensation - Transition and Disclosure - an amendment of FASB Statement No.
123"unconsolidated affiliates (see Note 2). SFAS No. 148 provides alternative transition methods for companies that
make a voluntary change to the fair-value-based method of accounting for
stock-based employee compensation. In addition, SFAS No. 148 amends the
disclosure requirements of SFAS No. 123 to require prominent disclosures in both
annual and interim financial statements about the method of accounting for
stock-based employee compensation and the effect of the method used on reported
results. The Company has adopted the disclosure provisions of SFAS No. 148 and
its adoption had no impact on the Company's consolidated financial position or
results of operations.
29
LAKES ENTERTAINMENT, INC. AND SUBSIDIARIES
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS (CONTINUED)
PRIVATE SECURITIES LITIGATION REFORM ACT
The Private Securities Litigation Reform Act of 1995 provides a "safe harbor"
for forward-looking statements. Certain information included in this Form 10-K
and other materials filed or to be filed by the Company with the Securities and
Exchange Commission (as well as information included in oral statements or other
written statements made or to be made by the Company) contain statements that
are forward-looking, such as plans for future expansion and other business
development activities as well as other statements regarding capital spending,
financing sources and the effects of regulation (including gaming and tax
regulation) and competition.
Such forward looking information involves important risks and uncertainties that
could significantly affect the anticipated results in the future and,
accordingly, actual results may differ materially from those expressed in any
forward-looking statements made by or on behalf of the Company.
22
LAKES ENTERTAINMENT, INC. AND SUBSIDIARIES
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS (CONTINUED)
These risks and uncertainties include, but are not limited to, those relating to
possible delays in completion of Lakes' casino projects, including various
regulatory approvals and numerous other conditions which must be satisfied
before completion of these projects; possible termination or adverse
modification of management contracts; continued indemnification obligations to
Grand Casinos; highly competitive industry; possible changes in regulations;
reliance on continued positive relationships with Indian tribes and repayment of
amounts owed to Lakes by Indian tribes; possible need for future financing to
meet Lakes' expansion goals; risks of entry into new businesses; inability to
achieve financial results from the contemplated business expansion of World
Poker Tour, LLC; and reliance on Lakes' management. For further information
regarding the risks and uncertainties, see the "Business -- Risk Factors"
section of the Company's Annual Report on Form 10-K for the fiscal year ended
December 29, 2002.
3028, 2003.
23
LAKES ENTERTAINMENT, INC. AND SUBSIDIARIES
QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK;
CONTROLS AND PROCEDURES
ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
The Company's financial instruments include cash and cash equivalents,
marketable securities and long-term debt. The Company's main investment
objectives are the preservation of investment capital and the maximization of
after-tax returns on its investment portfolio. Consequently, the Company invests
with only high-credit-quality issuers and limits the amount of credit exposure
to any one issuer. The Company does not use derivative instruments for
speculative or investment purposes.
The Company's cash and cash equivalents are not subject to significant interest
rate risk due to the short maturities of these instruments. As of June 29, 2003,April 4, 2004,
the carrying value of the Company's cash and cash equivalents approximates fair
value. The Company has in the past and may in the future obtain marketable debt
securities (principally consisting of commercial paper, corporate bonds, and
government securities) having a weighted average duration of one year or less.
Consequently, such securities would not be subject to significant interest rate
risk.
The Company's primary exposure to market risk associated with changes in
interest rates involves the Company's notes receivable related to loans for the
development and construction of Native American owned casinos. The loans and
related note balances earn various interest rates based upon a defined reference
rate. The floating rate receivables will generate more or less interest income
if interest rates rise or fall. Interest income is deferred during development
of the casinos because realizability of the interest is contingent upon the
completion and positive cash flow from operation of the casino. As of June 29
2003,April 4,
2004, Lakes had $75.5$89.9 million of floating rate notes receivables. Based on the
applicable current reference rates and assuming all other factors remain
constant, deferred interest income for a twelve month period would be $4.1$5.0
million. A reference rate increase of 100 basis points would result in an
increase in deferred interest income of $0.8$0.9 million. A 100 basis point decrease
in the reference rate would result in a decrease of $0.8$0.9 million in deferred
interest income over the same twelve month period.
ITEM 4. CONTROLS AND PROCEDURES
Under the supervision and with the participation of our management, including
our chief executive officer and chief financial officer, we conducted an
evaluation of our disclosure controls and procedures, as such term is defined
under Rule 13a-15(e) or Rule 15d - 15(e) promulgated under the Securities
Exchange Act of 1934, as amended (the "Exchange Act"), as of the end of the
period covered by this quarterly report. Based on their evaluation, our chief
executive officer and chief financial officer concluded that Lakes
Entertainment, Inc.'s disclosure controls and procedures are effective.
There have been no significant changes (including corrective actions with regard
to significant deficiencies or material weaknesses) in our internal controls or
in other factors that could significantly affect these controls subsequent to
the date of the evaluation referenced above.
3124
LAKES ENTERTAINMENT, INC. AND SUBSIDIARIES
PART II
OTHER INFORMATION
ITEM 1. LEGAL PROCEEDINGS
The following summaries describe certain known legal proceedings to which Grand
isSLOT MACHINE LITIGATION
In 1994, William H. Poulos filed a party which Lakes has assumed, or with respect to which Lakes may have
agreed to indemnify Grand,class-action lawsuit in connection with the Distribution.
STRATOSPHERE PREFERENCE ACTION
In April 1998, Stratosphere served on Grand and Grand Media & Electronics
Distributing, Inc., a wholly owned subsidiary of Grand ("Grand Media"), a
complaint in the Stratosphere bankruptcy case seeking recovery of certain
amounts paid by Stratosphere to (i) Grand Media for electronic equipment
purchased by Stratosphere from Grand Media, and (ii) Grand as management fees
and for costs and expenses under a management agreement between Stratosphere and
Grand.
Stratosphere claimed in its complaint that such amounts are recoverable by
Stratosphere as preferential payments under bankruptcy law. In May 1998, Grand
responded to Stratosphere's complaint denying that Stratosphere is entitled to
recover the amounts described in the complaint. Discovery was completed on
December 31, 2001 and the case proceeded to trial before the United States
BankruptcyDistrict Court for the Middle District of Florida against various parties,
including Grand and numerous other parties alleged to be casino operators or
slot machine manufacturers. This lawsuit was followed by several additional
lawsuits of the same nature against the same, as well as additional defendants,
all of which were subsequently consolidated into a single class-action pending
in the United States District Court for the District of NevadaNevada. Following a
court order dismissing all pending pleadings and allowing the plaintiffs to
re-file a single complaint, a complaint has been filed containing substantially
identical claims, alleging that the defendants fraudulently marketed and
operated casino video poker machines and electronic slot machines, and asserting
common law fraud and deceit, unjust enrichment and negligent misrepresentation
and claims under the federal Racketeering-Influenced and Corrupt Organizations
Act. Various motions were filed by the defendants seeking to have this new
complaint dismissed or otherwise limited. In December 1997, the Court, in
general, ruled on all motions in favor of the plaintiffs. The plaintiffs then
filed a motion seeking class certification and the defendants opposed it. In
June 20, 2002.
On December 31, 2002, the Bankruptcy Court entered an order denying class certification, and the
plaintiffs have appealed this order to the 9th Circuit Court of Appeals.
Briefing is complete, an oral hearing took place in January 2004, and no ruling
has yet been issued.
WILLARD EUGENE SMITH LITIGATION
On October 24, 2003, Lakes announced that it had been named as one of a number
of defendants in a counterclaim filed in state court in Harris County, Texas by
Willard Eugene Smith involving Kean Argovitz Resorts, LLC (KAR), related persons
and entities. In the counterclaim, Smith asserts that, under an alleged oral
agreement with Kevin Kean, he is entitled to a percentage of fees to be received
by the KAR entities or their principals relating to the Shingle Springs and
Jamul casinos that Lakes' subsidiaries are developing in California. Smith also
seeks recovery of damages and other relief from the KAR entities, Lakes and
certain affiliates based on their conduct with respect to the alleged agreement.
Lakes believes the counterclaim against it is without merit. Lakes understands
that the alleged oral agreement upon which Smith bases his claim was rendered
null and void in a prior judgment issued its finalagainst Smith by the Harris County,
Texas state court in October 2000. However, in September 2003, the court vacated
the prior judgment holding
that: (i) payments to Grand Media for electronic equipment totaling
approximately $3.3 million are not recoverable by Stratosphere as avoidable
preferences, and (ii) payment to Grand for management servicesagainst Smith. Lakes acquired KAR's interests in the approximate amountShingle
Springs and Jamul projects on January 30, 2003. In the buyout agreements between
Lakes and certain KAR entities and related principals, the KAR entities
represented to Lakes that the KAR entities and their affiliates had no
continuing agreements with any third party relating to the Shingle Springs and
Jamul projects and agreed to indemnify Lakes and its affiliates from damages of
$2.3 millionthe KAR entities and related principals concerning the projects. Lakes will
vigorously defend against the allegations made against it and will pursue its
indemnification rights against the KAR entities and their principals under the
buyout agreements if necessary.
25
LAKES ENTERTAINMENT, INC. AND SUBSIDIARIES
PART II
OTHER INFORMATION (CONTINUED)
EL DORADO COUNTY, CALIFORNIA LITIGATION
On January 3, 2003, El Dorado County filed an action in the Superior Court of
the State of California, seeking to prevent the construction of a highway
interchange that was approved by a California state agency. The action does not
seek relief directly against Lakes. However, the interchange is recoverablenecessary to
permit the construction of a casino to be developed and managed by StratosphereLakes through
a joint venture. The casino will be owned by the Shingle Springs Band of Miwok
Indians. The matter was tried to the court on August 22, 2003. On January 2,
2004, Judge Lloyd G. Connelly, Judge of the Superior Court for the State of
California, issued his ruling on the matter. The Court denied the petition in
all respects except one. As to the one exception, the Court sought clarification
as to whether the transportation conformity determination used to determine the
significance of the air quality impact of the interchange operations considered
the impact on attainment of the state ambient air quality standard for ozone.
The California Department of Transportation prepared and an
avoidable preference. Onfiled the clarification
sought by the Court. Prior to the Court's determination of the adequacy of the
clarification, El Dorado County appealed Judge Connelly's ruling to the
California Court of Appeals. Judge Connelly ruled on April 9, 2004 that he has
jurisdiction to determine the adequacy of the clarification and has scheduled
another hearing for May 8, 2003, this judgment was satisfied out of amounts
held in trust as security21, 2004 to support Lakes' indemnification obligations to
Grand.hear argument on whether the last issue has
been satisfactorily resolved.
OTHER LITIGATION
Lakes is involved in various other inquiries, administrative proceedings, and
litigation relating to contracts and other matters arising in the normal course
of business. While any proceeding or litigation has an element of uncertainty,
management currently believes that the final outcome of these matters, including
the matters discussed above, is not likely to have a material adverse effect
upon the Company's consolidated financial position or results of operations.
3226
LAKES ENTERTAINMENT, INC. AND SUBSIDIARIES
PART II
OTHER INFORMATION (CONTINUED)
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
(a) The Annual Meeting of Shareholders was held on June 2, 2003.
(b) At the Annual Meeting:
(1) Management's nominees for directors as listed in the proxy statement
were elected with the following vote:
Affirmative Votes Authority Withheld
----------------- ------------------
Lyle Berman 10,235,925 166,670
Timothy J. Cope 10,239,260 163,335
Morris Goldfarb 10,070,022 332,573
Ronald Kramer 10,348,604 53,991
Neil I. Sell 10,103,334 299,261
(2) The appointment of Deloitte & Touche, LLP as independent auditors of the
Company was ratified with the following vote:
Affirmative Votes Negative Votes Abstentions
- ----------------- -------------- -----------
10,378,640 20,847 3,108
(3) The proposal to grant full voting rights to shares of the Company's
common stock held by Mr. Lyle Berman, pursuant to the Minnesota Control
Share Acquisition Act, was not approved, with the following vote:
Affirmative Votes Negative Votes Abstentions Broker Non-Votes
- ----------------- -------------- ----------- ----------------
4,766,478 1,282,130 9,618 4,344,369
33
LAKES ENTERTAINMENT, INC. AND SUBSIDIARIES
PART II
OTHER INFORMATION (CONTINUED)
ITEM 5. OTHER INFORMATION
The Lakes Board of Directors previously has determined that each of the three
Audit Committee members is an "independent director" under Nasdaq listing
standards. The Board has been advised of an informal interpretation of the
Nasdaq rules that might cause Neil I. Sell, a member of the Audit Committee, not
to be considered independent. Mr. Sell is a partner in the law firm of Maslon
Edelman Borman & Brand, LLP, which performs legal services for Lakes, and the
fees paid by Lakes to the Maslon law firm have exceeded $60,000 per year. Under
the informal interpretation, all of these fees are imputed to Mr. Sell
personally, and he is not considered independent. However, under Nasdaq
guidelines, he can still serve as a member of the Audit Committee if the Board
of Directors determines that membership on the Audit Committee by Mr. Sell is
required by the best interests of Lakes and its shareholders. The Board has made
this determination considering all relevant factors, principally Mr. Sell's
membership on the Audit Committee since Lakes commenced its business, resulting
in his understanding of Lakes' financial statements and accounting issues; his
dedication and thoroughness as a member of the Audit Committee; his previous
background as a member of the Board of Directors and Audit Committee of Grand
Casinos, Inc.; and his background as a certified public accountant.
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K
(a) Exhibits
3.1 (i) Articles of Incorporation of Lakes Entertainment, Inc. (as
amended through May 4, 2004)
10.1 PurchaseMaster Agreement, dated as of June 26,August 22, 2003, by and between
Grand Casinos Nevada I,World Poker Tour, LLC and the Travel Channel, LLC
(incorporated by reference to Exhibit 10.2 to the registration
statement on Form S-1 of WPT Enterprises, Inc. and Diamond Resorts,filed with the
Commission on April 15, 2004) *
10.2 Letter dated as of April 12, 2004 from the Travel Channel, LLC
to World Poker Tour, LLC (incorporated by reference to Exhibit
10.3 to the registration statement on Form S-1 of WPT
Enterprises, Inc. filed with the Commission on April 15,
2004)*
31.1 Certification of CEO pursuant to Securities Exchange Act Rules
13a-15(e) and 15d-15(e) as adopted pursuant to Section 302 of
the Sarbanes-Oxley Act of 2002
31.2 Certification of CFO pursuant to Securities Exchange Act Rules
13a-15(e) and 15d-15(e) as adopted pursuant to Section 302 of
the Sarbanes-Oxley Act of 2002
32.1 Certification of Chief Executive Officer pursuant to 18 U.S.C.
Section 1350, as adopted pursuant to Section 906 of the
Sarbanes-Oxley Act of 2002
32.2 Certification of Chief Financial Officer pursuant to 18 U.S.C.
Section 1350, as adopted pursuant to Section 906 of the
Sarbanes-Oxley Act of 2002
34
LAKES ENTERTAINMENT, INC. AND SUBSIDIARIES
PART II
OTHER INFORMATION (CONTINUED)- ----------
* Confidential treatment has been requested as to certain
portions of this exhibit pursuant to Rule 406 of the
Securities Act of 1933, as amended.
(b) Reports on Form 8-K
(i) A Form 8-K, Item 5. Other Events, and Item 7. Financial
Statements, Pro Forma Financial Information and Exhibits, was
filed on AprilJanuary 7, 20032004
(ii) A Form 8-K, Item 5. Other Events, and Item 7. Financial Statements, Pro Forma Financial
Information and Exhibits, and Item 9. Regulation FD
Disclosure, was filed on April 14, 2003January 28, 2004
(iii) A Form 8-K, Item 7. Financial Statements, Pro Forma Financial
Information and Exhibits, and Item 12. Results of Operations and
Financial Condition,9. Regulation FD
Disclosure, was filed on April 28, 2003
(iv) A Form 8-K, Item 5. Other Events, and Item 7. Financial
Statements, Pro Forma Financial Information and Exhibits, was
filed on May 16, 2003
35February 23, 2004
27
SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934, the
registrant has duly caused this report on Form 10-Q to be signed on its behalf
by the undersigned, thereunto duly authorized.
Dated: August 13, 2003May 19, 2004 LAKES ENTERTAINMENT, INC.
-------------------------
Registrant
/s/ Lyle Berman
-----------------------------------------------------------------
Lyle Berman
Chairman of the Board and
Chief Executive Officer
/s/ Timothy J. Cope
-----------------------------------------------------------------
Timothy J. Cope
President and
Chief Financial Officer
3628