FORM 10-Q
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934
For the quarterly period ended August 24, 1996
Commission file number 1-11250
GTECH Holdings Corporation
-----------------------------------------------------
(Exact name of registrant as specified in its charter)
Delaware 05-0450121
- ------------------------------- ---------------------
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification Number)
55 Technology Way, West Greenwich, Rhode Island 02817
-----------------------------------------------------
(Address of principal executive offices)(Zip Code)
Registrant's telephone number, including area code: (401) 392-1000
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 No
At September 30, 1996 there were 43,070,770 shares of the registrant's Common
Stock outstanding.
INDEX
GTECH HOLDINGS CORPORATION AND SUBSIDIARIES
Page
PART I. FINANCIAL INFORMATION Number
Item 1. Financial Statements
Consolidated Balance Sheets 3
Consolidated Income Statements 4-5
Consolidated Statement of Shareholders' Equity 6
Consolidated Statements of Cash Flows 7
Notes to Consolidated Financial Statements 8
Item 2. Management's Discussion and Analysis of Financial 9-12
Condition and Results of Operations
PART II. OTHER INFORMATION
Item 1. Legal Proceedings 13
Item 6. Exhibits and Reports on Form 8-K 14
SIGNATURES 15
EXHIBITS 16-17
PART 1. FINANCIAL INFORMATION
Item 1. FINANCIAL STATEMENTS
CONSOLIDATED BALANCE SHEETS
GTECH HOLDINGS CORPORATION AND SUBSIDIARIES
(Unaudited)
August 24, February 24,
1996 1996
------------ ------------
ASSETS (In thousands, except
share amounts)
CURRENT ASSETS
Cash and cash equivalents .............................................. $ 1,904 $ 8,519
Trade accounts receivable .............................................. 95,467 73,755
Inventories ............................................................ 34,157 43,669
Deferred income taxes .................................................. 25,661 25,661
Other current assets ................................................... 10,936 12,601
------------ ------------
TOTAL CURRENT ASSETS ............................................. 168,125 164,205
SYSTEMS, EQUIPMENT AND OTHER ASSETS RELATING TO CONTRACTS .................... 996,873 887,194
Less: Accumulated Depreciation ............................................... (495,505) (417,948)
------------ ------------
501,368 469,246
PROPERTY, PLANT & EQUIPMENT .................................................. 74,440 67,707
Less: Accumulated Depreciation ............................................... (39,080) (34,299)
------------ ------------
35,360 33,408
GOODWILL, net ................................................................ 112,850 114,843
INVESTMENTS IN AND ADVANCES TO UNCONSOLIDATED AFFILIATES ..................... 58,053 49,068
OTHER ASSETS ................................................................. 25,405 28,610
------------ ------------
$ 901,161 $ 859,380
============ ============
LIABILITIES AND SHAREHOLDERS' EQUITY
CURRENT LIABILITIES
Short-term borrowings ................................................. $ 1,428 $ 951
Accounts payable ...................................................... 34,332 46,343
Accrued expenses ...................................................... 55,643 54,465
Advance payments from customers ....................................... 15,359 12,110
Employee compensation ................................................. 18,632 24,929
Income taxes payable .................................................. 21,139 --
Current portion of long-term debt ..................................... 3,992 3,993
------------ ------------
TOTAL CURRENT LIABILITIES ....................................... 150,525 142,791
LONG-TERM DEBT, less current portion ........................................ 383,437 382,930
OTHER LIABILITIES ........................................................... 27,843 30,264
DEFERRED INCOME TAXES ....................................................... 6,670 6,670
SHAREHOLDERS' EQUITY
Preferred Stock, par value $.01 per share--20,000,000 shares authorized,
none issued ........................................................ -- --
Common Stock, par value $.01 per share--150,000,000 shares authorized,
43,786,076 and 43,739,520 shares issued, 43,068,395 and
43,021,839 shares outstanding at August 24, 1996 and
February 24, 1996, respectively .................................... 438 437
Additional paid-in capital ............................................ 168,615 167,758
Equity carryover basis adjustment ..................................... (7,008) (7,008)
Translation adjustment ................................................ (1,064) (463)
Retained earnings ..................................................... 186,642 150,938
------------ ------------
347,623 311,662
Less cost of 717,681 shares in treasury ............................... (14,937) (14,937)
------------ ------------
332,686 296,725
------------ ------------
$ 901,161 $ 859,380
============ ============
See notes to consolidated financial statements
CONSOLIDATED INCOME STATEMENTS
GTECH HOLDINGS CORPORATION AND SUBSIDIARIES
(Unaudited)
Three Months Ended
--------------------------
August 24, August 25,
1996 1995
------------ ------------
(In thousands, except
per share amounts)
Revenues:
Services .............................................................. $ 191,812 $ 167,112
Sales of products ..................................................... 23,141 17,815
------------ ------------
214,953 184,927
Costs and expenses:
Costs of services ..................................................... 133,947 105,738
Costs of sales ........................................................ 14,537 13,046
------------ ------------
148,484 118,784
------------ ------------
Gross profit ................................................................ 66,469 66,143
Selling, general and administrative ......................................... 30,674 27,393
Research and development .................................................... 8,544 8,732
------------ ------------
Operating income ............................................................ 27,251 30,018
Other income (expenses):
Interest income ....................................................... 899 2,490
Equity in earnings of unconsolidated affiliates ....................... 3,374 1,107
Other income .......................................................... 2,421 206
Interest expense ...................................................... (3,772) (5,379)
------------ ------------
Income before income taxes .................................................. 30,173 28,442
Income taxes ................................................................ (12,672) (11,946)
------------ ------------
Net income .................................................................. $ 17,501 $ 16,496
============ ============
Earnings per common share ................................................... $ .41 $ .38
============ ============
Weighted average common shares outstanding .................................. 43,087 43,320
============ ============
See notes to consolidated financial statements
CONSOLIDATED INCOME STATEMENTS
GTECH HOLDINGS CORPORATION AND SUBSIDIARIES
(Unaudited)
Six Months Ended
-------------------------
August 24, August 25,
1996 1995
------------ ------------
(In thousands, except
per share amounts)
Revenues:
Services .............................................................. $ 386,798 $ 332,439
Sales of products ..................................................... 39,328 31,917
------------ ------------
426,126 364,356
Costs and expenses:
Costs of services ..................................................... 265,662 208,515
Costs of sales ........................................................ 23,691 23,350
------------ ------------
289,353 231,865
------------ ------------
Gross profit ................................................................ 136,773 132,491
Selling, general and administrative ......................................... 60,626 52,988
Research and development .................................................... 15,174 16,263
------------ ------------
Operating income ............................................................ 60,973 63,240
Other income (expenses):
Interest income ....................................................... 1,449 4,551
Equity in earnings of unconsolidated affiliates ....................... 6,591 3,379
Other income .......................................................... 2,467 370
Interest expense ...................................................... (9,923) (11,529)
------------ ------------
Income before income taxes .................................................. 61,557 60,011
Income taxes ................................................................ (25,853) (25,205)
------------ ------------
Net income .................................................................. $ 35,704 $ 34,806
============ ============
Earnings per common share ................................................... $ .83 $ .80
============ ============
Weighted average common shares outstanding .................................. 43,087 43,320
============ ============
See notes to consolidated financial statements
CONSOLIDATED STATEMENT OF SHAREHOLDERS' EQUITY-(Unaudited)
GTECH HOLDINGS CORPORATION AND SUBSIDIARIES
Common Stock Additional
---------------------- Paid-in Retained Treasury
Shares Amount Capital Other Earnings Stock Total
---------- --------- ---------- -------- ---------- ---------- ----------
(Dollars in thousands)
Balance at February 24, 1996 .... 43,739,520 $ 437 $ 167,758 $ (7,471) $ 150,938 $ (14,937) $ 296,725
Common stock issued under
stock award plans .......... 46,556 1 857 -- -- -- 858
Net income ...................... -- -- -- -- 35,704 -- 35,704
Foreign currency translation .... -- -- -- (601) -- -- (601)
---------- --------- ---------- -------- ---------- --------- ----------
Balance at August 24, 1996 ...... 43,786,076 $ 438 $ 168,615 $ (8,072) $ 186,642 $ (14,937) $ 332,686
========== ========= ========== ======== ========== ========= ==========
See notes to consolidated financial statements
CONSOLIDATED STATEMENTS OF CASH FLOWS
GTECH HOLDINGS CORPORATION AND SUBSIDIARIES
(Unaudited)
Six Months Ended
--------------------------
August 24, August 25,
1996 1995
------------ ------------
(In thousands)
OPERATING ACTIVITIES
Net income .................................................................. $ 35,704 $ 34,806
Adjustments to reconcile net income to net cash provided
by operating activities:
Depreciation and amortization ......................................... 80,376 60,109
Equity in earnings of unconsolidated affiliates ....................... (6,591) (3,379)
Other ................................................................. 422 851
Changes in operating assets and liabilities:
Trade accounts receivable .......................................... (21,712) 9,634
Inventories ........................................................ 9,512 (1,188)
Other assets and liabilities ....................................... 8,923 (5,824)
Other assets and liabilities of discontinued operations ............ -- 713
------------ -----------
NET CASH PROVIDED BY OPERATING ACTIVITIES ................................... 106,634 95,722
INVESTING ACTIVITIES
Purchases of systems, equipment and other assets relating to contracts ...... (106,325) (59,064)
Purchases of property, plant and equipment .................................. (7,064) (3,965)
Investments in and advances to affiliates ................................... (282) (26,366)
------------ ------------
NET CASH USED FOR INVESTING ACTIVITIES ...................................... (113,671) (89,395)
FINANCING ACTIVITIES
Proceeds from issuance of long-term debt .................................... 2,965 3,036
Principal payments on long-term debt ........................................ (1,982) (5,747)
Other ....................................................................... 211 (1,028)
------------ ------------
NET CASH PROVIDED BY (USED FOR) FINANCING ACTIVITIES ........................ 1,194 (3,739)
Effect of exchange rate changes on cash ..................................... (772) (459)
------------ ------------
INCREASE (DECREASE) IN CASH AND CASH EQUIVALENTS ............................ (6,615) 2,129
Cash and cash equivalents at beginning of period ............................ 8,519 3,432
------------ ------------
CASH AND CASH EQUIVALENTS AT END OF PERIOD .................................. $ 1,904 $ 5,561
============ ============
See notes to consolidated financial statements
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
GTECH HOLDINGS CORPORATION AND SUBSIDIARIES
NOTE A--BASIS OF PRESENTATION
The accompanying unaudited consolidated financial statements of GTECH Holdings
Corporation (the "Company"), the parent of GTECH Corporation, have been prepared
in accordance with generally accepted accounting principles ("GAAP") for interim
financial information and with the instructions to Form 10-Q and Article 10 of
Regulation S-X. Accordingly, they do not include all of the information and
footnotes required by GAAP for complete financial statements. In the opinion of
management, all adjustments (consisting of normal recurring accruals) considered
necessary for a fair presentation have been included. Operating results for the
six-month period ended August 24, 1996 are not necessarily indicative of the
results that may be expected for the full 1997 fiscal year ending February 22,
1997. The balance sheet at February 24, 1996 has been derived from the audited
financial statements at that date. For further information refer to the
consolidated financial statements and footnotes thereto included in GTECH
Holdings Corporation's fiscal 1996 Annual Report on Form 10-K.
NOTE B--INVENTORIES
August 24, February 24,
1996 1996
------------ ------------
(In thousands)
Inventories consist of:
Purchased components ........................ $ 11,233 $ 20,341
Finished subassemblies ...................... 1,922 3,526
Work-in-process ............................. 18,686 17,936
Finished goods .............................. 2,316 1,866
------------ ------------
$ 34,157 $ 43,669
============ ============
NOTE C--LONG-TERM DEBT
August 24, February 24,
1996 1996
------------ ------------
(In thousands)
Long-term debt consists of:
Revolving credit facility ................... $ 368,000 $ 366,500
Other ....................................... 19,429 20,423
------------ ------------
387,429 386,923
Less current maturities ..................... 3,992 3,993
------------ ------------
$ 383,437 $ 382,930
============ ============
The Company has an unsecured revolving credit facility of $500 million expiring
on September 15, 1999 (the "Credit Facility"). On May 29, 1996, the Company
amended its Credit Facility to provide for lower interest rates and less
restrictive loan covenants. At August 24, 1996, the weighted average interest
rate for all outstanding borrowings under the Credit Facility was 5.73%.
NOTE D--INCOME TAXES
The Company's effective income tax rate was greater than the statutory rate due
primarily to state income taxes and certain expenses that are not deductible for
income tax purposes.
NOTE--E COMMITMENTS AND CONTINGENCIES
See Legal Proceedings in Part II Item 1 herein.
Item 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS
General
The Company has derived substantially all of its revenues from the rendering of
services and the sale or supply of computerized on-line lottery systems and
components to government-authorized lotteries. Service revenues have been
derived primarily from service contracts, which are typically of at least five
years' duration, and are generally based upon a percentage of a lottery's gross
on-line lottery sales, which typically falls within a range of 1.5% to 5.0%.
Product sales revenues have been derived primarily from the installation of new
on-line lottery systems and sales of lottery terminals and equipment in
connection with the expansion of existing lottery systems. The size and timing
of these transactions have resulted in variability in product sales revenues
from period to period.
The Company also has taken steps to broaden its product lines outside of its
core business of providing on-line lottery services. The Company's Transactive
subsidiary ("Transactive") currently provides benefits delivery systems and
services on behalf of government authorities. The Company's Dreamport subsidiary
("Dreamport") pursues gaming opportunities other than on-line lottery. The
Company's WorldServ subsidiary ("WorldServ") provides network communications
services to private sector clientele.
The Company's business is highly regulated, and the competition to secure new
government contracts is often intense. Awards of contracts to the Company also,
from time to time, are challenged by competitors. Further, there have been and
continue to be investigations of various types, including federal grand jury
investigations, conducted by governmental authorities into possible
improprieties and wrongdoing in connection with efforts to obtain and/or the
awarding of lottery contracts and related matters. Although the Company does not
believe that it has engaged in any wrongdoing in connection with these matters,
certain investigations are still underway and are conducted largely in secret.
Accordingly, the Company lacks sufficient information to determine with
certainty their ultimate scope and whether the government authorities will
assert claims resulting from these or other investigations that could implicate
or reflect adversely upon the Company. Because the Company's reputation for
integrity is an important factor in its business dealings with lottery and other
government agencies, if government authorities were to make an allegation of, or
if there were to be a finding of, improper conduct on the part of or
attributable to the Company in any matter, such an allegation or finding could
have a material adverse effect on the Company's business, including its ability
to retain existing contracts and to obtain new or renewal contracts. See "Legal
Proceedings" in Part II, Item 1 herein and in Item 3 of the Company's fiscal
1996 annual report on Form 10-K and see Note H to the Consolidated Financial
Statements in the Company's fiscal 1996 Form 10-K for further information
concerning these matters and other contingencies.
The following discussion contains forward-looking statements that involve risks
and uncertainties. The Company's actual results may differ materially from the
results discussed in the forward-looking statements. See Item 1 - "Business" and
Item 7 - "Management's Discussion and Analysis of Financial Condition and
Results of Operations" in the Company's fiscal 1996 Form 10-K.
Results of Operations
Revenues for the second quarter of fiscal 1997 were $215.0 million, representing
a $30.1 million, or 16.2%, increase over revenues of $184.9 million in the
second quarter of fiscal 1996.
Service revenues in the fiscal 1997 second quarter were $191.8 million,
representing a $24.7 million, or 14.8%, increase over the $167.1 million of
service revenues in the second quarter of fiscal 1996. This increase resulted
primarily from $13.6 million of service revenues from Racimec (the Company's
subsidiary in Brazil), higher revenues of $6.6 million from the Company's
existing customer base, $3.5 million of service revenues from Transactive and
$1.0 million of service revenues from new on-line lottery systems operated by
the Company that commenced operations since the second quarter of fiscal 1996.
The results of Racimec for the second quarter of fiscal 1996 were included on
the equity method of accounting, while its results for the fiscal 1997 second
quarter have been consolidated.
Product sales in the second quarter of fiscal 1997 were $23.2 million,
representing a $5.4 million, or 29.9%, increase over the $17.8 million of
product sales in the second quarter of fiscal 1996. This increase resulted
primarily from higher lottery terminal sales in the second quarter of fiscal
1997 than the second quarter of fiscal 1996. The Company sold approximately
1,900 lottery terminals during the fiscal 1997 second quarter, as compared to
approximately 300 lottery terminals during the second quarter of fiscal 1996.
Revenues for the first six months of fiscal 1997 were $426.1 million,
representing a $61.7 million, or 17.0%, increase over revenues of $364.4 million
in the first six months of fiscal 1996.
Service revenues for the first six months of fiscal 1997 were $386.8 million,
representing an increase of $54.4 million, or 16.4%, over the $332.4 million of
service revenues in the first six months of fiscal 1996. This increase resulted
primarily from $27.3 million of service revenues from Racimec, higher revenues
of $17.5 million from the Company's existing customer base, $8.6 million of
service revenues from Transactive and $1.0 million of service revenues from new
on-line lottery systems operated by the Company that commenced operations since
the second quarter of fiscal 1996.
Product sales in the first six months of fiscal 1997 were $39.3 million,
representing an increase of $7.4 million, or 23.2%, over the $31.9 million of
product sales in the first six months of fiscal 1996. This increase resulted
primarily from higher lottery terminal sales in the first six months of fiscal
1997 than in the comparable period of fiscal 1996, along with the sale of one
new central system in the first six months of fiscal 1997. No new central
systems were sold in the first six months of fiscal 1996. These increases were
partially offset by lower sales of component parts and equipment ("OEM
equipment")in connection with the United Kingdom operations. The Company sold
approximately 3,000 lottery terminals during the first six months of fiscal
1997, as compared to approximately 1,000 lottery terminals during the first six
months of fiscal 1996.
Gross margins on service revenues decreased to 30.2% in the fiscal 1997 second
quarter from 36.7% in the second quarter of fiscal 1996 and decreased to 31.3%
in the first six months of fiscal 1997 from 37.3% in the first six months of
fiscal 1996. These lower margins were due primarily to a small operating loss in
the first half of fiscal 1997 at Racimec relating to the start-up nature of the
on-line lotteries serviced by Racimec, the lack of significant large jackpot
activity in any of the Company's lottery jurisdictions in both the quarter and
six month periods and higher service costs relating to the Company's strategic
decision to increase operations support in the field as part of its ongoing
program to increase customer service and satisfaction. In addition, the Company
experienced a reduction in service revenues as a result of the previously
announced California Supreme Court decision in Western Telcon, Inc. et. al. v.
California State Lottery. In that case, the California Supreme Court
unexpectedly reversed the trial court and appellate court decisions and found
the California keno game to be a banked game rather than a lottery because it
provides for a fixed prize that is not dependent upon the size of the prize
pool. Accordingly, the Court concluded that the keno game was not authorized by
the California lottery law, and the California State Lottery suspended operation
of the keno game on June 24, 1996. On September 27, 1996, the Company announced
the launch of a parimutuel monitor game designed by the Company and the
California State Lottery as a replacement for the suspended game. Although the
new game, like keno, features frequent drawings, its payouts are based upon a
prize pool determined by sales rather than by predetermined or fixed amounts.
See Part II, Item 1 - "Legal Proceedings," herein.
In line with management's expectations, Racimec incurred a small operating loss
during the first six months of fiscal 1997 due to the start-up nature of this
business. This represents a substantial improvement over results for the first
six months of fiscal 1996 and reflects the revenue enhancement and cost
reduction plan implemented by the Company during the fourth quarter of fiscal
1996.
Also in line with management's expectations, Transactive continued to incur
operating losses during the first six months of fiscal 1997, although at a lower
rate than in the corresponding period of fiscal 1996. The Company expects this
trend to continue during the remainder of fiscal 1997. The reduction in
operating losses reflects the Company's plan, implemented during the second half
of fiscal 1996, that, among other things, focused on reductions in operating
costs. The Company may consider alternatives to increase the value of
Transactive, including joint venturing with another entity. There can be no
assurance that the Company's plans and efforts with regard to Racimec and
Transactive will be successful, and if they are not, the Company may be required
to recognize a loss on a portion of its investment in these businesses.
Gross margins on product sales fluctuate depending primarily on the mix and
timing of product sales contracts. Gross margins on product sales increased to
37.2% in the second quarter of fiscal 1997 from 26.8% in the second quarter of
fiscal 1996 due to the higher level of lottery terminal sales in the fiscal 1997
second quarter as compared to the second quarter of fiscal 1996, higher margins
on equipment sales to customers who were expanding their existing lottery
systems and reduced sales of lower margin OEM equipment in connection with the
Company's United Kingdom operation. Gross margins on product sales increased to
39.8% in the first six months of fiscal 1997 from 26.8% in the first six months
of fiscal 1996 due primarily to the reasons noted above, along with higher
margins from the sale of a new central system in the first quarter of fiscal
1997.
Selling, general and administrative expenses in the second quarter of fiscal
1997 were $30.7 million, representing a $3.3 million, or 12.0%, increase over
the $27.4 million incurred in the fiscal 1996 second quarter. Selling, general
and administrative expenses in the first six months of fiscal 1997 were $60.6
million, representing a $7.6 million, or 14.4%, increase over the $53.0 million
incurred in the second quarter of fiscal 1996. These increases were primarily
attributable to higher administrative costs that were necessary to support
expanded operations (including two of the Company's newly formed ventures,
Dreamport and WorldServ), increased sales and marketing for existing and new
lottery customers and higher legal costs. As a percentage of revenues, selling,
general and administrative expenses were 14.3% and 14.8% during the second
quarters of fiscal 1997 and 1996, respectively, and 14.2% and 14.5% during the
first six months of fiscal 1997 and 1996, respectively.
Research and development expenses in the second quarter of fiscal 1997 were $8.5
million, representing a $.2 million, or 2.2%, decrease from research and
development expenses of $8.7 million in the second quarter of fiscal 1996.
Research and development expenses in the first six months of fiscal 1997 were
$15.2 million, representing a $1.1 million, or 6.7%, decrease from research and
development expenses of $16.3 million in the first six months of fiscal 1996.
These decreases reflect a higher level of software engineering cost capitalized
for new on-line lottery system projects that are in the pre-startup phase. As a
percentage of revenues, research and development expenses were 4.0% and 4.7%
during the second quarters of fiscal 1997 and 1996, respectively, and 3.6% and
4.5% during the first six months of fiscal 1997 and 1996, respectively.
Interest income in the fiscal 1997 second quarter was $.9 million, a decrease of
$1.6 million from interest income of $2.5 million earned during the second
quarter of fiscal 1996. Interest income in the first six months of fiscal 1997
was $1.5 million, a decrease of $3.1 million from interest income of $4.6
million earned during the first six months of fiscal 1996. These decreases were
attributable largely to the consolidation of Racimec and the resulting absence
of interest on loans from the Company to Racimec. The Company earned
approximately $1.6 million and $3.0 million of interest income on loans to
Racimec during the second quarter and first six months of fiscal 1996,
respectively.
Equity in earnings of unconsolidated affiliates in the second quarter of fiscal
1997 was $3.4 million, an increase of $2.3 million over the $1.1 million earned
during the second quarter of fiscal 1996. Equity in earnings of unconsolidated
affiliates in the first six months of fiscal 1997 was $6.6 million, an increase
of $3.2 million over the $3.4 million earned during the first six months of
fiscal 1996. These increases were due primarily to the consolidation of Racimec
and the resulting absence of equity losses from Racimec for the second quarter
and first six months of fiscal 1997, partially offset by lower equity income
from the United Kingdom operations.
Other income in the second quarter of fiscal 1997 was $2.4 million, an increase
of $2.2 million over the $.2 million earned in the second quarter of the prior
year. Other income in the first six months of fiscal 1997 was $2.5 million, an
increase of $2.1 million over the $.4 million earned during the first half of
fiscal 1996. These increases were due primarily to the sale, in August, 1996, of
a portion of the Company's investment in Pacific Online Systems Corporation
("Pacific").
Interest expense in the fiscal 1997 second quarter was $3.8 million, a decrease
of $1.6 million from interest expense of $5.4 million incurred during the second
quarter of fiscal 1996. Interest expense in the first six months of fiscal 1997
was $9.9 million, a decrease of $1.6 million from interest expense of $11.5
million incurred during the corresponding period of the prior year. These
decreases were due primarily to a higher level of interest capitalized to
on-line lottery system projects in the fiscal 1997 periods, partially offset by
higher average debt outstanding.
The Company's effective income tax rate of 42% for both the second quarter and
first six months of fiscal 1997 and fiscal 1996 was greater than the statutory
rate due primarily to state income taxes and certain expenses that are not
deductible for income tax purposes.
In August 1995, the suit Donald J. Trump v. Jeffrey S. Perlee et. al. was filed
in the New York County Supreme Court against the New York State Lottery seeking
declaratory and injunctive relief to prohibit the Lottery's Quick-Draw Game. In
June 1996, the New York Supreme Court Appellate Division affirmed the trial
court's denial of Mr. Trump's motion for a preliminary injunction in this case.
Mr. Trump has recently filed a motion for leave to appeal that decision to
the New York Court of Appeals, New York's highest court.
Changes in Financial Position, Liquidity and Capital Resources
During the first six months of fiscal 1997, the Company generated $106.6 million
of cash from operations. This cash, along with existing cash balances, was used
primarily to fund the purchase of $106.3 million of systems, equipment and other
assets relating to contracts along with the purchase of $7.1 million of
property, plant and equipment.
The cost of systems, equipment and other assets relating to contracts increased
by $109.7 million from $887.2 million at February 24, 1996 to $996.9 million at
August 24, 1996. This increase reflects the installation of new lottery networks
in the States of Washington and Missouri, the continuing installation of a new
lottery network in New Jersey and the expansion of lottery systems in several
domestic and international locations.
Trade accounts receivable increased by $21.7 million from $73.8 million at
February 24, 1996 to $95.5 million at August 24, 1996, due primarily to the high
level of product sales near the end of the second quarter of fiscal 1997 along
with the timing of collection of certain service receivables that were collected
in the first week of September.
Inventories decreased by $9.5 million from $43.7 million at February 24, 1996 to
$34.2 million at August 24, 1996, due primarily to lottery terminals shipped to
New Jersey under the Company's new contract, along with the higher level of
product sales in the fiscal 1997 second quarter as compared to the fourth
quarter of fiscal 1996.
Investments in and advances to unconsolidated affiliates increased by $9.0
million from $49.1 million at February 24, 1996 to $58.1 million at August 24,
1996 due primarily to additional investments in the Company's newly formed
Dreamport subsidiary, along with equity income net of dividends received from
the Company's investment in Camelot Group plc. These increases were partially
offset by the sale of a portion of the Company's investment in Pacific.
Accounts payable decreased by $12.0 million from $46.3 million at February 24,
1996 to $34.3 million at August 24, 1996, due primarily to timing of payments.
Accrued employee compensation decreased by $6.3 million from $24.9 million at
February 24, 1996 to $18.6 million at August 24, 1996, due primarily to the
payment of fiscal 1996 management bonuses, partially offset by provisions for
fiscal 1997 management bonuses.
The Company's business is capital-intensive. Although it is not possible to
estimate precisely due to the nature of the business, the Company currently
anticipates that the level of capital expenditures for lottery and government
services contracts required during fiscal 1997 will approximate the fiscal 1996
levels. In addition, the Company anticipates that capital expenditures for
property, plant and equipment in fiscal 1997 will approximate the fiscal 1996
levels. The principal sources of liquidity for the Company are expected to be
cash generated from operations and borrowings under the Company's $500 million
Credit Facility. On September 27, 1996 there was approximately $374 million of
borrowings outstanding and an additional $126 million available for borrowing
under the Credit Facility. The Company currently expects that its cash flow from
operations and available borrowings under its Credit Facility, together, if
necessary, with other sources of capital believed to be available, will be
sufficient to permit it to meet its anticipated working capital and ordinary
capital expenditure needs, to service its debt obligations and to permit it to
fund anticipated internal growth. The Company is currently reviewing its debt
structure and is considering refunding and/or increasing its debt capacity.
Inflation, Interest Rates and Foreign Exchange Fluctuation
The impact of inflation on the Company's operations has not been significant to
date. While the Company believes that its business is not highly sensitive to
inflation, there can be no assurance that a high rate of inflation in the future
would not have an adverse effect on the Company's operations.
The Company uses various interest rate hedging instruments to reduce the risk
associated with future increases in interest rates on its floating rate
long-term debt. In November 1994, the Company entered into two interest rate
corridors with an aggregate notional amount of $165.0 million that provide
interest rate protection to November 8, 1996. The corridors effectively entitle
the Company to receive payments from the financial institutions that are
counterparties to the corridors should the three-month London Interbank Offered
Rates ("LIBOR") be between 6.75% and 8.75%. Should LIBOR exceed 8.75%, the
Company will receive a payment up to the 8.75% ceiling but not above. At
September 27, 1996, LIBOR was approximately 5.625%.
In January 1996, the Company entered into three interest rate swaps with an
aggregate notional amount of $125.0 million that provide interest rate
protection over the period January 26, 1996 to April 28, 1997. The swaps
effectively entitle the Company to receive payments from the financial
institutions that are counterparties to the swaps should LIBOR exceed
approximately 5.05%.
The Company attempts to manage its foreign exchange risk by securing payment
from its customers in U.S. dollars, by sharing risk with its customers, by
utilizing foreign currency borrowings, by leading and lagging receipts and
payments and by entering into forward foreign exchange contracts. In addition, a
significant portion of the costs attributable to the Company's foreign currency
revenues are incurred in the local currencies.
The Company, from time to time, enters into foreign currency exchange contracts
to hedge certain firm sales commitments, anticipated revenue streams and certain
assets and liabilities denominated in foreign currencies. The effect of this
practice is to minimize the impact of foreign exchange rate movements on the
Company's operating income. The Company does not engage in currency speculation.
Gains and losses on contracts that hedge specific foreign currency commitments
are deferred and accounted for as part of the transaction being hedged.
Contracts used to hedge anticipated revenue streams and certain assets and
liabilities are marked to market, and the resulting transaction gain or loss is
included in the determination of net income. As of September 27, 1996, the
Company had approximately $39.9 million of forward foreign exchange contracts,
primarily denominated in Deutschemarks, Irish pounds and British pounds.
PART II. OTHER INFORMATION
Item 1. LEGAL PROCEEDINGS
As previously publicly reported, in October 1994, it was announced by the U.S.
Attorney's Offices for the Western District of Kentucky and for the District of
New Jersey that separate indictments had been returned by federal grand juries
in those jurisdictions against J. David Smith, the former sales manager of the
Company (who resigned in early 1994 for reasons unrelated to the indictments),
and several other individuals who served as consultants or suppliers to the
Company. The indictments alleged essentially that, unbeknownst to the Company,
Mr. Smith received kickbacks from the consultants and suppliers, which charges,
if true, make the Company a victim. The indictments do not charge the Company
with any wrongdoing, and the actions complained of did not affect the Company's
Kentucky or New Jersey lottery operations. On January 9, 1995 the trial of Mr.
Smith commenced in Kentucky and on January 12, 1995, the U.S. District Court for
the Western District of Kentucky granted the defendant's motion for judgment of
acquittal and dismissed all charges against Mr. Smith and the other defendant, a
GTECH supplier, at the conclusion of the Government's case. The New Jersey trial
of Mr. Smith and two consultants commenced on September 16, 1996 and on October
4, 1996 Mr. Smith and one of the two consultants were found guilty. The other
consultant was found not guilty. Sentencing of Mr. Smith has been set for
January 8, 1997. The U.S. Attorney announced in a press release that its
investigation is continuing. The Company has cooperated with the U.S.
Attorney's Office.
As previously publicly reported, in December 1995, Richard Branson filed
suit in the United Kingdom's High Court of Justice (Queen's Bench Division)
against GTECH U.K. Corporation, a subsidiary of the Company, and Robert Rendine,
its press spokesman, and in January 1996, Mr. Branson filed suit in this same
court against the Company's Co-Chairman, Guy B. Snowden, alleging that the
defendants had libeled Mr. Branson in responding to certain allegations which
had been made by Mr. Branson. Mr. Branson, whose consortium in 1994 lost the bid
to operate the U.K. National Lottery, had alleged in a television program
broadcast in the U.K. in December 1995 that Mr. Snowden had offered him an
inducement in September 1993 not to bid for the U.K. lottery contract. Mr.
Snowden and the Company have categorically denied Mr. Branson's allegations. The
Director General of the U.K. Lottery subsequently appointed Queens Counsel Anne
Rafferty to conduct an inquiry into Mr. Branson's allegations. In July 1996, a
report setting forth the results of Ms. Rafferty's inquiry was made public. That
report found no evidence supporting Mr. Branson's allegations that Mr. Snowden
had attempted to bribe him. The Company intends to defend its Co-Chairman,
subsidiary and press spokesman vigorously in the legal proceedings brought by
Mr. Branson. In addition, Mr. Snowden filed suit in January 1996 in the U.K.
against Mr. Branson alleging that Mr. Branson's televised allegations have
libeled Mr. Snowden.
In September 1996, Jack M. Janis and Linda Janis, both individually and on
behalf of a class of persons similarly situated, filed suit against the
California State Lottery Commission, Southland Corporation and the Company in
the Supreme Court of the State of California (County of Los Angeles). This suit
alleges, in light of the June 1996 decision of the California Supreme Court,
Western Telcon, Inc. et. al. v. California State Lottery (which held that the
California State Lottery's keno game as then structured was not a lottery game
and therefore was not authorized by California lottery law), that the defendants
were unjustly enriched and were guilty of unfair business practices and
misleading advertising in connection with the sale of keno tickets from January
1, 1992 through suspension of the keno game in June 1996. The suit seeks
restitution of all amounts realized by the defendants through the sale of keno
tickets less funds paid to public schools pursuant to relevant California law
and proceeds paid to holders of winning keno tickets, together with costs,
disbursements and prejudgment interest. The Company believes that these claims
are without merit and intends to defend itself vigorously in these proceedings.
See Part I, Item 2 - "Management's Discussion and Analysis of Financial
Condition and Results of Operations" herein.
For information respecting other legal proceedings, refer to: (i) Items 1 and 3
of, and Note H of Notes to Consolidated Financial Statements included in, the
Company's fiscal 1996 Annual Report on Form 10-K, (ii) Item 2, Management's
Discussion and Analysis of Financial Condition and Results of Operations, and
Item 1, Part II, Legal Proceedings, of the Company's Quarterly Report on Form
10-Q for the period ending May 25, 1996, and (iii) Item 2, Management's
Discussion and Analysis of Financial Condition and Results of Operations, of
this report.
Item 6. EXHIBITS AND REPORTS ON FORM 8-K
(a) Exhibits - The exhibits to this report are as follows:
11. Computations of Earnings per Share
27. Financial Data Schedule
(b) Reports on Form 8-K
The Company filed a Report on Form 8-K dated June 10, 1996 that
set forth the text of a press release dated June 10, 1996 issued
by the Company, relating to the Company's fiscal 1997 first
quarter results.
SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934, the
registrant has duly caused this report to be signed on its behalf by the
undersigned thereunto duly authorized.
GTECH HOLDINGS CORPORATION
By /s/ Thomas J. Sauser
---------------------------------------------------
Thomas J. Sauser, Senior Vice President, Treasurer &
Chief Financial Officer (Principal Financial Officer)
By /S/ Robert J. Plourde
----------------------------------------------------
Robert J. Plourde, Vice President and Corporate
Controller (Principal Accounting Officer)