SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 10-Q
(Mark One)
(X) QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
For the quarterly period ended September 30, 1996
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. 0-21754
SODAK GAMING, INC.
(Exact name of registrant as specified in its charter)
SOUTH DAKOTA 46-0407053
(State of Incorporation) (I.R.S. Employer Identification No.)
5301 S. Highway 16
Rapid City, South Dakota 57701
(Address of principal executive offices)
(605) 341-5400
(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 No
--------------- ---------------
At September 30, 1996, there were outstanding 22,757,688 shares of the Company's
common stock.
Page 1 of 23
Exhibit Index Page 22
1
SODAK GAMING, INC.
INDEX
Page
----
PART I. FINANCIAL INFORMATION
Item 1. Consolidated Financial Statements
Consolidated Balance Sheets as of September 30, 1996 and December 31, 1995 3
Consolidated Statements of Earnings for the three months ended
September 30, 1996 and 1995 5
Consolidated Statements of Earnings for the nine months ended
September 30, 1996 and 1995 6
Consolidated Statements of Cash Flows for the nine months ended
September 30, 1996 and 1995 7
Notes to Consolidated Financial Statements 8
Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations 9
PART II. OTHER INFORMATION
Item 1. Legal proceedings 19
Item 2. Changes in Securities 20
Item 3. Defaults Upon Senior Securities 20
Item 4. Submission of Matters to a Vote of Security Holders 20
Item 5. Other Information 20
Item 6. Exhibits and Reports on Form 8-K 20
SIGNATURES 21
EXHIBIT INDEX 22
2
PART I - FINANCIAL INFORMATION
Item 1. Consolidated Financial Statements
Sodak Gaming, Inc.
Consolidated Balance Sheets
Assets
September 30, December 31,
1996 1995 *
------------- ------------
Current assets:
Cash and cash equivalents $ 3,518,280 $ 974,221
Receivables:
Trade accounts, net of allowance for
doubtful accounts 42,912,355 15,971,347
Short-term notes receivable 80,860 1,846,213
Notes receivable, current maturities 23,872,030 25,610,033
Net investment in direct financing-type lease,
current maturity -- 626,693
Accrued interest 710,952 322,012
Inventories:
Gaming machines 18,269,965 12,798,282
Repair parts and other gaming accessories 4,074,397 2,530,500
Prepaid expenses and other current assets 1,849,502 1,080,934
Deferred income taxes 455,000 528,000
------------ ------------
Total current assets 95,743,341 62,288,235
------------ ------------
Property and equipment:
Land and improvements 1,357,616 628,143
Buildings and improvements 17,390,547 5,640,453
Excursion gaming vessel 13,850,176 --
Gaming operations equipment 24,341,954 4,674,004
Office furniture and equipment 2,423,760 1,791,327
Transportation equipment 2,114,902 1,837,565
Shop equipment 508,246 346,789
------------ ------------
61,987,201 14,918,281
Less accumulated depreciation (3,195,793) (1,245,004)
------------ ------------
Total property and equipment, net 58,791,408 13,673,277
------------ ------------
Other assets:
Notes receivable, net of current maturities 29,824,008 26,164,915
Net investment in direct financing-type lease,
net of current maturity -- 13,355,447
Amounts due from riverboat lessee -- 19,950,823
Real estate held for sale 596,658 1,140,435
Excess of purchase price over fair market value
of assets acquired 8,147,089 --
Other assets 4,288,008 1,481,885
------------ ------------
Total other assets 42,855,763 62,093,505
------------ ------------
Total assets $197,390,512 $138,055,017
============ ============
* From audited financial statements.
The accompanying notes are an integral part of the consolidated financial
statements.
3
Sodak Gaming, Inc.
CONSOLIDATED BALANCE SHEETS
Liabilities and Shareholders' Equity
September 30, December 31,
1996 1995 *
--------------- -------------
Current liabilities:
Accounts payable $ 51,770,712 $ 22,234,670
Current maturities of long-term debt 1,722,773 56,891
Income taxes payable 815,505 993,718
Accrued liabilities 4,473,700 1,502,170
------------- -------------
Total current liabilities 58,782,690 24,787,449
------------- -------------
Long-term debt, net of current maturities 30,850,044 18,043,977
------------- -------------
Deferred income taxes 1,238,000 963,000
------------- -------------
Shareholders' equity:
Preferred stock at $0.001 par value, 25,000,000 shares
authorized, none outstanding -- --
Common stock at $0.001 par value, 75,000,000 shares authorized,
22,757,688 and 22,722,276 shares issued and outstanding at
September 30, 1996 and December 31, 1995, respectively 22,758 22,722
Additional paid-in capital 63,963,095 63,702,619
Retained earnings 42,533,925 30,535,250
------------- -------------
Total shareholders' equity 106,519,778 94,260,591
------------- -------------
Commitments and contingencies
Total liabilities and shareholders' equity $ 197,390,512 $ 138,055,017
============= =============
* From audited financial statements.
The accompanying notes are an integral part of the consolidated financial
statements.
4
Sodak Gaming, Inc.
CONSOLIDATED STATEMENTS OF EARNINGS
(Unaudited)
Three Months Ended September 30,
--------------------------------
1996 1995
-------------- ------------
Revenues
Product sales $ 45,492,183 $ 18,647,024
Gaming operations 13,873,296 2,749,354
Wide area progressive systems 2,287,516 1,504,024
Financing income on notes receivables
and other financing arrangements 1,448,928 1,575,563
Other 7,801 12,377
------------ ------------
Total revenues 63,109,724 24,488,342
------------ ------------
Costs and expenses
Cost of product sales 36,028,977 13,894,583
Gaming operations 11,281,012 756,714
Selling, general and administrative 6,838,635 3,697,718
Interest and financing 699,942 285,279
------------ ------------
Total costs and expenses 54,848,566 18,634,294
------------ ------------
Income from operations 8,261,158 5,854,048
Other income (expense) (37,007) 17,765
------------ ------------
Earnings before income taxes 8,224,151 5,871,813
Provision for income taxes 3,004,528 2,154,700
------------ ------------
Net earnings $ 5,219,623 $ 3,717,113
============ ============
Earnings per common and common equivalent share $ 0.23 $ 0.16
============ ============
Weighted average number of common and common
equivalent shares outstanding 23,083,239 22,800,390
============ ============
The accompanying notes are an integral part of the consolidated financial
statements.
5
Sodak Gaming, Inc.
CONSOLIDATED STATEMENTS OF EARNINGS
(Unaudited)
Nine Months Ended September 30,
------------------------------------
1996 1995
------------- -------------
Revenues
Product sales $ 86,070,431 $ 48,510,334
Gaming operations 23,112,335 7,071,341
Wide area progressive systems 5,900,626 2,737,633
Financing income on notes receivable and other
financing arrangements 4,351,793 3,785,182
Other 22,848 64,146
------------- -------------
Total revenues 119,458,033 62,168,636
------------- -------------
Costs and expenses:
Cost of product sales 67,322,385 36,940,139
Gaming operations 15,762,567 839,519
Selling, general and administrative 15,769,659 11,062,463
Interest and financing costs 1,667,169 541,245
------------- -------------
Total costs and expenses 100,521,780 49,383,366
------------- -------------
Income from operations 18,936,253 12,785,270
Other income (expense) (21,246) 89,019
------------- -------------
Earnings before income taxes 18,915,007 12,874,289
Provision for income taxes 6,916,332 4,717,871
------------- -------------
Net earnings $ 11,998,675 $ 8,156,418
============= =============
Earnings per common and common equivalent share $ 0.52 $ 0.36
============= =============
Weighted average number of common and common
equivalent shares outstanding 22,946,429 22,756,746
============= =============
The accompanying notes are an integral part of the consolidated financial
statements.
6
Sodak Gaming, Inc.
Consolidated Statements of Cash Flows
(Unaudited)
Nine Months Ended September 30,
------------------------------
1996 1995
------------ ------------
Cash flows from operating activities:
Net earnings $ 11,998,675 $ 8,156,418
Adjustments to reconcile net earnings to net cash
provided by (used in) operating activities:
Depreciation and amortization 2,197,199 416,042
Provision for doubtful accounts 2,318,668 225,000
Net deferred income taxes 348,000 276,000
Loss on sale of property and equipment 51,347 17,677
Gross profit on sales financed through notes receivable (5,216,067) (6,991,861)
Changes in operating assets and liabilities:
Receivables (29,586,628) 9,347,271
Purchase of inventories sold under financed sales (14,341,089) (19,732,243)
Payments received on notes receivable relating
to financed sales 20,679,098 15,996,068
Inventories (9,932,175) (2,729,061)
Prepaid expenses and other current assets (485,852) (538,517)
Accounts payable 29,167,605 (15,232,359)
Accrued liabilities 1,053,705 745,163
Income taxes payable (178,213) (1,506,868)
------------ ------------
Net cash provided by (used in) operating activities 8,074,273 (11,551,270)
------------ ------------
Cash flows from investing activities:
Cash advanced on notes receivable (5,195,703) (4,708,496)
Payments received on notes receivable 3,918,024 1,803,549
Purchases of property and equipment (8,910,662) (6,099,728)
Proceeds from sale of property and equipment 501,801 38,011
Increase in due from Gamblers Supply Management Company,
prior to acquisition (2,630,945) (3,198,169)
Principal payments received on direct financing-type lease 338,057 -
Purchase of Gamblers Supply Management Company,
net of cash acquired 237,571 -
Increase in other assets (2,632,223) (218,182)
------------ ------------
Net cash used in investing activities (14,374,080) (12,383,015)
------------ ------------
Cash flows from financing activities:
Proceeds from long-term borrowings 27,250,000 18,000,000
Principal repayments of long-term debt (18,666,646) (5,538,736)
Net proceeds from issuance of common stock - -
Net proceeds from exercise of stock options 260,512 -
------------ ------------
Net cash provided by financing activities 8,843,866 12,461,264
------------ ------------
Net increase (decrease) in cash and cash equivalents 2,544,059 (11,473,021)
Cash and cash equivalents, beginning of period 974,221 12,466,828
------------ ------------
Cash and cash equivalents, end of period $ 3,518,280 $ 993,807
============ ============
Supplemental disclosures of cash flow information:
Cash paid during the period for interest $ 1,350,578 $ 513,478
Cash paid during the period for income taxes $ 6,771,941 $ 5,969,221
Supplemental schedule of noncash investing activity:
Gaming machines inventory transferred to gaming operations equipment $ 3,135,349 $ 1,412,606
The accompanying notes are an integral part of the consolidated financial statements.
7
SODAK GAMING, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
SEPTEMBER 30, 1996
(UNAUDITED)
Note 1--Unaudited Consolidated Financial Statements
- ---------------------------------------------------
The accompanying unaudited consolidated financial statements of Sodak
Gaming, Inc. and its consolidated subsidiaries (Sodak Gaming International,
Inc.; S.G.International, Inc.; Sodak Gaming Peru, S.A.; Beuasodak S.A.; Gamblers
Supply Management Company (Note 2); and Sodak Gaming do Brasil Ltda) have been
prepared by the Company in accordance with generally accepted accounting
principles for interim financial information, pursuant to 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 consolidated financial statements have been condensed or
omitted. The results for the periods indicated are unaudited, but reflect all
adjustments (consisting only of normal recurring adjustments) which management
considers necessary for a fair presentation of operating results.
Results of operations for interim periods are not necessarily indicative of
a full year of operations.
These condensed consolidated financial statements should be read in
conjunction with the 1995 financial statements and notes thereto.
Certain 1995 amounts have been reclassified to conform to the 1996
presentation.
Note 2--Acquisition of Gamblers Supply Management Company
- ---------------------------------------------------------
In 1994, the Company invested $21.8 million (excluding approximately $5.7
million of equipment financing provided by the Company) in the Miss Marquette,
which the Company leased to Gamblers Supply Management Company (GSMC) beginning
October 1, 1994 for a period of eight years with automatic extensions of an
additional 17 years. This investment consisted of (a) $14.3 million expended by
the Company to acquire and refurbish a riverboat, and (b) an additional $7.5
million that the Company loaned to GSMC to fund costs incurred by GSMC to
develop and construct dockside facilities and related amenities. The lease
required scheduled lease payments of the greater of an aggregate of $25 million,
or 50% of defined net income from casino operations, determined annually, during
the first 43 months of the lease; and 50% of defined net income from casino
operations thereafter, beginning in April 1998.
GSMC was unable to meet regularly scheduled payments under the lease and
financing notes due to dockside facility construction and preopening cost
overruns. The Company allowed GSMC to defer its scheduled payments to the
Company, which enabled GSMC to use its operating cash flow to pay for the
aforementioned cost overruns.
On July 1, 1996, the Company acquired all of the outstanding shares of
common stock of GSMC for $1 million in cash. The acquisition was accounted for
using the purchase method of accounting. The fair value of the assets acquired
totaled $31.8 million consisting of gaming machines, gaming equipment, and the
dockside facilities, which include a 24-room hotel, parking lots, marina,
restaurant, lounge and other support facilities and related furniture, fixtures
and equipment. The liabilities assumed were valued at $8.2 million and consisted
of trade accounts payable, accruals and notes payable to the former shareholders
guaranteed by the Company. The Company continues to hold notes receivable
(relating to prior loans to GSMC to finance the dockside facilities and certain
gaming equipment), lease payments receivable and accrued interest receivable
from GSMC aggregating approximately $22 million as of September 30, 1996. Such
receivables from GSMC are eliminated in the Company's consolidated financial
statements. The excess purchase price over the fair value of the net assets
acquired is approximately $8.1 million, which is recorded as goodwill in the
accompanying balance sheet and amortized over 15 years on a straight-line basis.
The Company's policy for assessing recoverability is to periodically review the
recorded amounts. The review considers factors such as whether the amortization
of the goodwill over its remaining life can be recovered through forecasted
results of the Miss Marquette riverboat.
8
The following unaudited pro forma information presents a summary of
consolidated results of operations of the Company and GSMC as if the acquisition
had occurred January 1, 1995 (for purposes of calculating December 31, 1995 pro
forma information) and January 1, 1996 (for purposes of calculating September
30, 1996 pro forma information), with pro forma adjustments to give effect for
amortization of goodwill and the net decrease in interest income and rental
income from the riverboat lessee:
Year ended Nine months ended
Dec. 31, 1995 September 30, 1996
------------- ------------------
Revenues $121,803,061 $131,100,925
Net income 11,046,701 10,771,680
Net income per common share $ 0.49 $ 0.47
Note 3 - Shareholders' Equity
- -----------------------------
On August 30, 1996, the Company's Board of Directors approved a two-for-one
stock split in the form of a stock dividend, effected by a distribution on
September 27, 1996, of one additional share for each share owned by shareholders
of record on September 13, 1996. The $0.001 par value per share of Sodak's
common stock was unchanged by the stock split. The par value of the additional
shares issued as a result of the stock split was capitalized into common stock
on the balance sheet by means of a transfer from additional paid-in capital. All
references in these financial statements to numbers of common shares and
earnings per share have been restated to give retroactive effect to the stock
split.
In addition to the common stock, the Company has preferred stock, $0.001
par value, 25,000,000 shares authorized, none outstanding.
Item 2. Management's Discussion and Analysis of Financial Condition and Results
of Operations
Cautionary Notice
This report contains forward-looking statements reflecting management's
knowledge and judgment about factors which could materially affect Company
performance in the future. Terms indicating future expectation and optimism
about future potential and anticipated growth in revenue and earnings of the
Company's business lines -- product sales, gaming operations (particularly in
Latin America), wide area progressive systems and financing -- and like
expressions typically identify such statements. Actual results and events
may differ significantly from those discussed in forward-looking settlements.
All forward-looking statements are subject to the risks and uncertainties
inherent with predictions and forecasts. They are necessarily speculative
statements, and unforeseen factors, such as competitive pressures, changes in
regulatory structure, failure to gain the approval of regulatory authorities,
changes in customer acceptance of gaming, general risks associated with the
conduct of international business (such as foreign currency exchange rate
fluctuation, changes of governmental control or laws, changes in relations
between the United States and other countries, or changes in economic
conditions) could cause results to differ materially from any that may be
projected. In particular, the Company is committing substantial capital to its
proposed CBF video gaming operations in Brazil. There can be no assurance that
the Company's proposed Brazilian operations will be successful due to the
uncertainty of the Brazilian gaming market, the need for government approval by
various state regulatory authorities in Brazil, possible changes in Brazilian
gaming laws, the possible legalization of casinos that would compete with the
Company's video gaming operations, potential competitors and risks relating
generally to the implementation of a new business enterprise.
9
Forward-looking statements are made in the context of information available as
of the date stated. The Company undertakes no obligation to update or revise
such statements to reflect new circumstances or unanticipated events as they
occur.
The Company regularly publishes disclosures in this and other reports that
discuss the Company's business. See particularly the Company's reports on Forms
10-K, 10-Q, and 8-K filed with the Securities and Exchange Commission.
General
For several years after its inception in 1989, the Company's sole line of
business was the marketing and distribution of gaming equipment to Native
American casinos. Since 1993, the Company has diversified its revenue base and
has focused on the development of gaming opportunities that generate recurring
revenue sources.
The Company's strategy is to expand gaming operations into new markets and to
increase recurring revenue. As part of this strategy, the Company has entered
emerging gaming markets in Latin America, where it develops, equips, finances
and operates gaming halls and video gaming routes. The Company recently entered
into an agreement (the "CBF Agreement") with the Brazilian Soccer Federation
to own and operate linked progressive video gaming systems in Brazil.
RESULTS OF OPERATIONS--THREE MONTHS ENDED SEPTEMBER 30, 1996
COMPARED TO THE THREE MONTHS ENDED SEPTEMBER 30, 1995
Net earnings for the three months ended September 30, 1996 increased 40% to
$5.2 million, or $0.23 per share, compared to net earnings of $3.7 million, or
$0.16 per share, for the three months ended September 30, 1995. The quarterly
performance set a new record level of earnings, which support the continuation
of the Company's long term growth strategy. The Company's principal revenue
sources--product sales, gaming operations, and wide area progressive systems--
all produced record levels of revenue and net earnings for the three months
ended September 30, 1996, compared to the same quarter in 1995. Product sales
and wide area progressive systems were the primary contributors to the increase
in net earnings. The greatest rate of revenue growth occurred in gaming
operations, which had a 405% increase due to the continued rapid expansion of
Latin American gaming operations and the July 1, 1996 acquisition of Gamblers
Supply Management Company (GSMC), which operates the Miss Marquette riverboat
casino complex (Miss Marquette) located at Marquette Iowa (see "Cash Flows,"
page 16 for discussion).
Revenues
Total revenues increased 158% to $63.1 million for the three months ended
September 30, 1996, compared to $24.5 million for the three months ended
September 30, 1995.
Product Sales. Product sales increased 144% to $45.5 million for the three
months ended September 30, 1996, from $18.6 million in 1995. Total sales of
gaming machines, including specialty gaming machines and used machines, were
approximately 5,240 machines in 1996 compared to approximately 2,020 machines in
1995. This increase was primarily attributable to a significant sale to the
10
Mohegan tribe in Connecticut in 1996. In addition to Connecticut, product sales
in the three months ended September 30, 1996 were primarily in the states of
Michigan and North Dakota.
Gaming Operations. Gaming operations revenue increased 405% to $13.9
million for the three months ended September 30, 1996, from $2.7 million in
1995. This increase was primarily attributable to the July 1, 1996 acquisition
of GSMC, the growth of gaming operations in Peru, and the introduction of gaming
operations in Ecuador in March 1996 and in Brazil in June 1996. Latin American
gaming revenues increased five-fold in 1996 compared to the same period in 1995.
Gaming operations revenue for the three months ended September 30,
1996 consisted of $8.3 million in operating revenue generated from the Miss
Marquette after the acquisition of GSMC on July 1, 1996, compared to $1.7
million in lease revenue from GSMC in 1995; $0.4 million in revenue earned from
the Company's share of Harrah's Entertainment, Inc.'s (Harrah's) management fee
in connection with Harrah's Phoenix Ak-Chin casino compared to $0.3 million in
1995 (Harrah's owns approximately 14% of the Company's outstanding shares at
September 30, 1996); and $5.2 million in revenue from Latin American gaming
operations compared to $0.8 million in 1995. This increase was primarily due to
growth in Peru operations, which began in May 1995, and also due to the
introduction of gaming operations in Ecuador in March 1996 and in Brazil in June
1996.
Wide Area Progressive Systems. Wide area progressive systems revenue
increased 52% to $2.3 million for the three months ended September 30, 1996,
from $1.5 million in 1995. Wide area progressive systems revenues are derived
from the operation of multi-link systems available to Native American casinos
nationwide in jurisdictions permitting such systems. The increase in revenues
was a result of the introduction of new systems and expansion of existing
systems. At October 15, 1996, the Company was providing a total of eight wide
area progressive systems which connected more than 1,100 machines in 10 states:
Arizona (which permits the operation of intrastate wide area progressive systems
in lieu of interstate systems). Connecticut, Iowa, Louisiana, Michigan, New
Mexico, North Dakota, Oregon, South Dakota and Wisconsin.
The Quartermania and Megabucks interstate systems were first
introduced to Native American casinos in August 1994; the Nickelmania interstate
system was introduced in November 1995; the Arizona intrastate Quartermania and
Megabucks systems were introduced in December 1995; the Dollars Deluxe
interstate system was introduced in June 1996; and the Fabulous 50's interstate
system was introduced in September 1996. This Company also operates a
Quartermania system available to non-Native American casinos located in
Deadwood, South Dakota. Based on current market trends, the Company believes
that the wide area progressive revenues could increase through the placement of
additional machines on existing systems as well as the introduction of new
systems. Based on early results from new two-coin games such as Dollars Deluxe
and Fabulous 50's, the Company believes that future average daily revenues per
machine may increase.
Financing Income. Financing income on notes receivable and other
financing arrangements decreased 8% to $1.4 million for the three months ended
September 30, 1996, compared to $1.6 million in 1995. This decrease was
primarily due to the elimination of interest income from GSMC on the Company's
consolidated financial statements due to the July 1, 1996 acquisition of GSMC.
11
Costs and Expenses
Total costs and expenses increased 194% to $54.8 million for the three
months ended September 30, 1996, compared to $18.6 million for the same three
months in 1995.
Product Sales. The cost of product sales increased 159% to $36.0 million
for the three months ended September 30, 1996, from $13.9 million in 1995. This
increase was primarily attributable to the 159% increase in the number of gaming
machines sold during the period. As a percentage of product sales revenue, the
cost of products was 79% in 1996, compared to 75% in 1995. The lower gross
margin was due primarily to an increase in the percentage of sales qualifying
for cash discounts.
Gaming Operations. Gaming operations direct costs increased $10.5 million
to $11.3 million for the three months ended September 30, 1996, compared to $0.8
million in 1995. This increase was primarily attributable to the costs of
operating the Miss Marquette subsequent to the Company's July 1, 1996
acquisition of GSMC. A portion of the increase was attributable to the expansion
of gaming operations in Peru, and to the introduction of gaming operations in
Ecuador and in Brazil. Expansion in Peru is expected to slow in the near term as
the regulatory authority for gaming halls passes from municipalities to the
federal government. The federal government has temporarily halted issuing new
site licenses and has increased gaming taxes by 200% effective October 1, 1996.
The Company believes these changes will improve the market in the long term by
reducing the number of competitors. The Company currently operates 20 gaming
halls with approximately 1,150 gaming machines. The revenues from these
operations continue to increase but the near-term effect of the gaming tax
increase on profitability is uncertain. Anticipated revenue gains and profit
margins may or may not outpace the increase in taxes.
Immediately following the acquisition of GSMC, the Company implemented
changes in the management of the Miss Marquette. The Company began new marketing
programs, advertising campaigns and busing programs. The Company hired outside
consultants to review operations, design new gaming floor configurations and
provide direct-mail coupon programs. The Company's strategy is to market the
Miss Marquette through targeted programs to specific market segments.
Selling, General and Administrative. Selling, general and administrative
expenses increased 85% to $6.8 million for the three months ended September 30,
1996, from $3.7 million in 1995. Included in this $3.1 million increase was a
$2.0 million charge as a result of the determination in the third quarter of
1996 to completely write off $2.7 million of receivables relating to the
development of a television video bingo lottery system in the Czech Republic.
This increase also includes increases in compensation (including increased sales
commissions related to the level of product sales) and related employee costs
and benefits, depreciation, and expenses associated with the development of new
markets, including gaming operations in Latin America. As a percentage of total
revenue, selling, general and administrative expenses decreased to 11% in 1996
compared to 15% in 1995.
Interest and Financing. Interest and financing costs increased 145% to $0.7
million for the three months ended September 30, 1996, from $0.3 million in
1995. The increase in financing costs was primarily attributable to increased
borrowings for the expansion of gaming operations in Latin America and for the
assumption of debt in connection with the July 1, 1996 acquisition of GSMC. The
Company believes that interest and financing costs could continue to increase in
future years as the Company pursues its growth strategy.
12
Income from Operations
The cumulative effect of the above described changes resulted in a 41%
increase in income from operations to $8.3 million for the three months ended
September 30, 1996, from $5.9 million for the three months ended September 30,
1995. As a percentage of revenues, income from operations decreased to 13% in
1996, from 24% in 1995. The decrease in the operating margin was primarily the
result of three factors:
(i) The Company's fastest growing revenue source was gaming operations, which
had a lower margin than either wide area progressive systems, which have
minimal costs associated with them, or product sales. The lower margin
was attributable to start-up costs in Latin America and the lower margins
related to the Miss Marquette which the Company began operating upon
acquisition of GSMC on July 1, 1996;
(ii) The gross margin on product sales decreased to 21% in 1996, compared to
25% in 1995 due primarily to an increase in the percentage of sales
qualifying for cash discounts; and
(iii) The higher selling, general and administrative expenses experienced
primarily due to the $2.0 million charge resulting from the determination
in the third quarter of 1996 to completely write off $2.7 million of
receivables relating to the development of a television video bingo
lottery system in the Czech Republic.
Earnings before Income Taxes
Earnings before income taxes increased 40% to $8.2 million for the three
months ended September 30, 1996, compared to $5.9 million for the three months
ended September 30, 1995. Provision for income taxes was $3.0 million in 1996,
compared to $2.2 million in 1995, representing 37% of earnings before income
taxes for each of the three months ended September 30, 1996 and 1995.
RESULTS OF OPERATIONS--NINE MONTHS ENDED SEPTEMBER 30, 1996
COMPARED TO THE NINE MONTHS ENDED SEPTEMBER 30, 1995
Net earnings for the nine months ended September 30, 1996 increased 47% to
$12.0 million, or $0.52 per share, compared to net earnings of $8.2 million, or
$0.36 per share, for the nine months ended September 30, 1995. The performance
for the nine months ended September 30, 1996 set a new record level of earnings,
which support the continuation of the Company's long term growth strategy. The
Company's principal revenue sources -- product sales, gaming operations, wide
area progressive systems, and financing -- all produced record levels of revenue
and net earnings for the nine months ended September 30, 1996, compared to the
same period in 1995. Product sales and wide area progressive systems were the
primary contributors to the increase in net earnings. The greatest rate of
revenue growth occurred in gaming operations, which had a 227% increase due to
the continued rapid expansion of Latin American gaming operations and the July
1, 1996 acquisition of GSMC, which operates the Miss Marquette (see "Cash
Flows," page 16 for discussion).
13
Revenues
Total revenues increased 92% to $119.5 million for the nine months ended
September 30, 1996, compared to $62.2 million for the first nine months in 1995.
Product Sales. Product sales increased 77% to $86.1 million for the nine
months ended September 30, 1996, from $48.5 million in 1995. Total sales of
gaming machines, including specialty gaming machines and used machines, were
approximately 10,300 machines in 1996, compared to approximately 5,300 machines
in 1995. This increase was primarily attributable to significant sales to the
Mohegan tribe in Connecticut and the Casino Rama in the Canadian province of
Ontario in 1996. In addition to Connecticut and Ontario, product sales in 1996
were primarily in the states of Arizona, Kansas, Michigan, Mississippi, North
Dakota and Wisconsin.
Gaming Operations. Gaming operations revenue increased 227% to 23.1 million
for the nine months ended September 30, 1996, from $7.1 million in 1995. This
increase was primarily attributable to the July 1, 1996 acquisition of GSMC, the
growth of gaming operations in Peru and the introduction of gaming operations in
Ecuador in March 1996 and in Brazil in June 1996.
Gaming operations revenue consisted of $8.3 million in operating revenue
generated after the acquisition of GSMC on July 1, and $3.3 million in lease
revenue (relating to the six months prior to the acquisition of GSMC) from the
Miss Marquette, compared to $5.0 million in lease revenue in 1995; $1.2 million
in revenue earned from the Company's share of Harrah's management fee in
connection with Harrah's Phoenix Ak-Chin casino for each of the nine months
ended September 30, 1996 and 1995 (Harrah's owns approximately 14% of the
Company's outstanding shares at September 30, 1996); and $10.3 million in
revenue from Latin American gaming operations in 1996 compared to $0.8 million
in 1995. This increase was primarily due to growth in Peru operations, which
began in May 1995, and also due to the introduction of gaming operations in
Ecuador in March 1996 and in Brazil in June 1996.
Wide Area Progressive Systems. Wide area progressive systems revenue
increased 116% to $5.9 million for the nine months ended September 30, 1996,
from $2.7 million in 1995. Wide area progressive systems revenues are derived
from the operation of multi-line systems available to native American casinos
nationwide in jurisdictions permitting such systems. The increase in revenues
was a result of the introduction of new systems and the expansion of existing
systems. At October 15, 1996, the Company was providing a total of eight wide
area progressive systems which connected more than 1,100 machines in 10 states:
Arizona (which permits the operation of intrastate wide area progressive
systems in lieu of interstate systems), Connecticut, Iowa, Louisiana, Michigan,
New Mexico, North Dakota, Oregon, South Dakota and Wisconsin.
The Quartermania and Megabucks interstate systems were first introduced to
Native American casinos in August 1994; the Nickelmania interstate system was
introduced in November 1995; the Arizona intrastate Quartermania and Megabucks
systems were introduced in December 1995; The Dollars Deluxe interstate system
was introduced in June 1996; and the Fabulous 50's interstate system was
introduced in September 1996. The Company also operates a Quartermania system
available to non-Native American casinos located in Deadwood, South Dakota.
Based on current market trends, the Company believes that the wide area
progressive revenues could increase through the placement of additional machines
on
14
existing systems as well as the introduction of new systems. Based on early
results from new two-coin games such as Dollars Deluxe and Fabulous 50's, the
Company believes that future average daily revenues per machine may increase.
Financing Income. Financing income on notes receivable and other financing
arrangements increased 15% to $4.4 million for the nine months ended September
30, 1996, compared to $3.8 million in 1995. This increase was primarily due to
an increase in financing arrangements, which was partially offset by the
elimination of interest income from GSMC on the Company's consolidated financial
statements due to the July 1, 1996 acquisition of GSMC.
Costs and Expenses
Total costs and expenses increased 104% to $100.5 million for the nine
months ended September 30, 1996, compared to $49.4 million in 1995.
Product Sales. The cost of product sales increased 82% to $67.3 million
for the nine months ended September 30, 1996, from $36.9 million in 1995. This
increase was primarily attributable to the 94% increase in the number of gaming
machines sold. As a percentage of product sales revenues, the cost of products
was 78% in 1996, compared to 76% in 1995. The lower gross margin was due
primarily to an increase in the percentage of sales qualifying for cash
discounts.
Gaming Operations. Gaming operations direct costs increased $14.9 million
to $15.8 million for the nine months ended September 30, 1996, compared to $0.8
million in 1995. This increase was primarily attributable to the costs of
operating the Miss Marquette subsequent to the Company's acquisition of GSMC. A
portion of the increase was attributable to the expansion of gaming operations
in Peru, and the introduction of gaming operations in Ecuador and Brazil.
Selling, General and Administrative. Selling, general and administrative
expenses increased 43% to $15.8 million for the nine months ended September 30,
1996, from $11.1 million in 1995. Included in this $4.7 million increase was a
$2.0 million charge as a result of the determination in the third quarter of
1996 to completely write off $2.7 million of receivables relating to the
development of a television video bingo lottery system in the Czech Republic.
This increase also includes increases in compensation (including increased sales
commissions related to the level of product sales) and related employee costs
and benefits, advertising and promotion, depreciation, and expenses associated
with the development of new markets, including gaming operations in Latin
America. As a percentage of total revenue, selling, general and administrative
expenses decreased to 13% in 1996 compared to 18% in 1995.
Interest and Financing. Interest and financing costs increased 208% to
$1.7 million for the nine months ended September 30, 1996, from $0.5 million in
1995. The increase in financing costs was primarily attributable to increased
borrowings for the expansion of gaming operations in Latin America and for the
assumption of debt in connection with the acquisition of GSMC. The Company
believes that interest and financing costs could continue to increase in future
years as the Company pursues its growth strategy
15
INCOME FROM OPERATIONS
The cumulative effect of the above described changes resulted in a 48%
increase in income from operations to $18.9 million for the nine months ended
September 30, 1996, from $12.8 million for the nine months ended September 30,
1995. As a percentage of revenues, income from operations decreased to 16% in
1996, from 21% in 1995. The decrease in the operating margin was primarily the
result of three factors:
(i) The Company's fastest growing revenue source was gaming operations,
which had a lower margin than either wide area progressive systems,
which have minimal costs associated with them, or product sales. The
lower margin is attributable to start-up costs in Latin America and
the lower margins related to the Miss Marquette which the Company
began operating upon acquisition of GSMC on July 1, 1996;
(ii) The gross margin on product sales decreased to 22% in 1996, compared
to 24% in 1995 due primarily to an increase in the percentage of
sales qualifying for cash discounts; and
(iii) The higher selling, general and administrative expenses experienced
due primarily to the $2.0 million charge resulting from the
determination in the third quarter of 1996 to completely write off
$2.7 million of receivables relating to the development of a
television video bingo lottery system in the Czech Republic.
EARNINGS BEFORE INCOME TAXES
Earnings before income taxes increased 47% to $18.9 million for the nine
months ended September 30, 1996, compared to $12.9 million for the nine months
ended September 30, 1995. Provision for income taxes was $6.9 million in 1996,
compared to $4.7 million in 1995, representing 37% of earnings before income
taxes for each of the nine months ended September 30, 1996 and 1995.
LIQUIDITY AND CAPITAL RESOURCES
WORKING CAPITAL
Working capital decreased $0.5 million to $37.0 million during the nine
months ended September 30, 1996. This decrease was primarily a result of a $29.5
million increase in accounts payable, a $3.0 million increase in accrued
liabilities, and a $1.7 million increase in current maturities of long-term
debt. The decreases were partially offset by a $23.2 million increase in
receivables, a $7.0 million increase in inventories, a $2.5 million increase in
cash and cash equivalents, and a $0.8 million increase in prepaid expenses and
other current assets.
CASH FLOWS
During the nine months ended September 30, 1996, the Company's cash and
cash equivalents increased $2.5 million to $3.5 million. Cash provided by
operating activities was $8.1 million for the nine months ended September 30,
1996. Cash provided by operating activities was primarily the result of $12.0
million in net earnings, $2.2 million in depreciation and amortization, $2.3
million in provision for doubtful accounts (Czech TV Bingo), $20.7 million in
payments received on notes receivable relating to
16
financed sales, a $29.2 million increase in accounts payable, and a $1.1 million
increase in accrued liabilities. These proceeds were partially offset by $19.6
million in gross profit and inventories sold under financing arrangements, a
$29.6 million increase in receivables, and a $9.9 million increase in
inventories.
Cash used in investing activities for the nine months ended September 30,
1996 was $14.4 million, which consisted of $8.9 million used to purchase
property and equipment primarily for gaming operations in Latin America, $5.2
million advanced on notes receivable, a $2.6 million increase in amounts due
from GSMC prior to its July 1, 1996 acquisition by the Company, and a $2.6
million increase in other assets, primarily for capitalized development costs in
Latin America. Cash used in investing activities was partially offset by $3.9
million of payments received on notes receivable and $0.5 million of proceeds
from the sale of property and equipment.
Financing activities provided $8.8 million during the nine months ended
September 30, 1996 as a result of the net proceeds from long-term borrowings
under a revolving credit facility. The increase in debt was primarily due to the
purchase of gaming equipment and related costs associated with the expansion of
Latin American markets.
In 1994, the Company invested $21.8 million (excluding approximately $5.7
million of equipment financing provided by the Company) in the Miss Marquette,
which the Company leased to GSMC beginning October 1, 1994 for a period of eight
years with automatic extensions of an additional 17 years. This investment
consisted of (a) $14.3 million expended by the Company to acquire and refurbish
a riverboat, and (b) an additional $7.5 million that the Company loaned to GSMC
to fund costs incurred by GSMC to develop and construct dockside facilities and
related amenities. The lease required scheduled lease payments of the greater
of an aggregate of $25 million, or 50% of defined net income from the casino
operations, determined annually, during the first 43 months of the lease; and
50% of defined net income from casino operations thereafter, beginning in April
1998.
GSMC was unable to meet regularly scheduled payments under the lease and
financing notes due in dockside facility construction and preopening cost
overruns. The Company allowed GSMC to defer its scheduled payments to the
Company, which enabled GSMC to use its operating cash flow to pay for the
aforementioned cost overruns.
On July 1, 1996, the Company acquired all of the outstanding shares of
common stock of GSMC for $1 million in cash. The acquisition was accounted for
using the purchase method of accounting. The fair value of the assets acquired
totaled $31.8 million consisting of gaming machines, gaming equipment, and the
dockside facilities, which include a 24-room hotel, parking lots, marina,
restaurant, lounge and other support facilities and related furniture, fixtures
and equipment. The liabilities assumed were valued at $8.2 million and consisted
of trade accounts payable, accruals and notes payable to the former shareholders
guaranteed by the Company. The Company continues to hold notes receivable
(relating to prior loans to GSMC to finance the dockside facilities and certain
gaming equipment), lease payments receivable and accrued interest receivable
from GSMC aggregating approximately $22 million as of September 30, 1996. Such
receivables from GSMC are eliminated in the Company's consolidated financial
statements. The excess purchase price over the fair value of the net assets
acquired is approximately $8.1 million which is recorded as goodwill in the
accompanying balance sheet and
17
amortized over 15 years on a straight-line basis. The Company's policy for
assessing recoverability is to periodically review the recorded amounts. The
review considers factors such as whether the amortization of the goodwill over
its remaining life can be recovered through forecasted results of the Miss
Marquette riverboat.
Indebtedness / Lines Of Credit
The Company had $32.6 million of long-term debt outstanding at September
30, 1996. Of that amount, $26.5 million was borrowed under a $50 million long-
term revolving credit facility from a syndicate of banks. The revolving line has
two components, a $20 million tranche (Tranche A) to be used for general
corporate purposes and a $30 million tranche (Tranche B) for acquisitions and
major capital equipment expenditures. Tranche A matures in February 1999, plus
two one-year renewal options subject to bank approval, and Tranche B matures in
February 2001. The amount available under Tranche B is reduced by $1.875 million
quarterly beginning in 1997. The unused portion of the revolving credit facility
is subject to a commitment fee, based on a calculation as defined in the
revolving credit agreement. Interest is payable based on variable rates which,
at the Company's option, are based on the prime rate, the federal funds rate
plus 1%, or a Eurodollar rate plus an applicable margin. Amounts borrowed are
secured by substantially all Company assets, excluding real estate, but
including a first preferred ship mortgage on the Miss Marquette riverboat
casino.
Of the remaining $6.1 million of long-term debt, $4.2 million relates to
debt payable to the former shareholders of GSMC, and the balance of long-term
debt primarily relates to other debt assumed by the Company as a result of the
purchase of GSMC.
Capital Commitments
During 1994, the Company assisted a casino management company in acquiring
$8 million in financing from a financial institution. The Company guaranteed the
management company's debt and receives a loan guarantee fee based on a
percentage of the outstanding loan balance. As of October 15, 1996, the
Company's guaranty was approximately $4.7 million.
In August 1996, the Company announced it had entered into an agreement (the
"CBF Agreement") with the Confederacao Brasileira de Futebol (Brazilian Soccer
Federation or "CBF") to own and operate on behalf of CBF linked progressive
video gaming systems in Brazil. Under a Brazilian federal law known as the "Zico
law," an organization such as CBF that is a chartered sports entity
participating in the management of at least three Olympic teams may operate
bingo and games similar to bingo such as video bingo or keno ("bingo-similar
games") in order to fund its activities, provided that applicable authorizations
from Brazilian state regulatory authorities are obtained. The Company has
developed bingo-similar video games which it believes comply with the Zico law.
Under the CBF Agreement, the Company has the right and the obligation to
provide bingo-similar video gaming equipment and systems to, and to operate
gaming machines on behalf of, CBF. The CBF Agreement has an initial term of
eight years and may be terminated by CBF if a bingo-similar gaming system is not
operational and gaming play has not begun on or before March 30, 1997.
18
In connection with the CBF Agreement, the Company has committed to purchase
1,000 gaming machines from International Game Technology by March 1997. The
total cost to acquire and install these machines and related systems and
equipment is expected to be approximately $10 million. If proposed plans to
establish video bingo systems in Brazil are successfully implemented, the
Company would make significant additional investments in equipment and working
capital. The Company anticipates that if additional funds are required, such
funds would be sought through public or private equity or debt financing.
PART II. OTHER INFORMATION
Item 1. Legal proceedings
- -------------------------
RICO Litigation. On April 26, 1994, the Company was named as a defendant in
a class action lawsuit filed in the United States District Court, Middle
District of Florida, by William A. Poulos and William Ahearn, respectively, each
of whom sought to assert claims on behalf of themselves and "all other similarly
situated ("the plaintiffs"). Each of the plaintiffs filed suit against Sodak and
approximately 41 other defendants (each a "defendant" and collectively "the
defendants"). These two lawsuits were ordered consolidated by the Court, and the
action has been transferred to the United States District Court, District of
Nevada, for further proceedings. Each defendant is involved in the gaming
business as either a gaming machine manufacturer, distributor, or casino
operator. The class action lawsuit arises out of alleged fraudulent marketing
and operation of casino video poker machines and electronic slot machines. The
plaintiff's allege that the defendants have engaged in a course of fraudulent
and misleading conduct intended to induce people in playing their gaming
machines based on a false belief concerning how those machines actually operate
as well as the extent to which there is actually an opportunity to win on any
given play. The plaintiffs allege that the defendants' actions constitute
violations of the Racketeer Influenced and Corrupt Organizations Act ("RICO")
and give rise to claims of common law fraud and unjust enrichment. The
plaintiffs are seeking monetary damages in excess of $1 billion and are asking
that any damage awards be trebled under applicable federal law.
On April 15, 1996, the Nevada Federal District Court issued Orders granting
Sodak's and others' motions to dismiss and allowed plaintiffs to file amended
Complaints to properly state a claim on or before May 31, 1996. The amended
complaint was filed at the close of work of May 31, 1996. Accompanying the
amended complaint was a motion seeking leave to substitute plaintiff Brenda
McElmore in the place and stead of plaintiff Mr. Ahearn. The Company believes
the plaintiffs' lawsuit to be without merit and the Company intends to
vigorously pursue all legal defenses available to it. Accordingly, motions to
dismiss the amended complaint have been filed by the Company and all defendants.
These motions await the Court's ruling.
On September 26, 1995, another RICO-based class action was filed in the
United States District Court, District of Nevada, by Larry Schreier, which named
the Company as a defendant, along with the same 41 other defendants (each a
"defendant" and collectively "the defendants"). The plaintiff in this
19
action is a resident of Tulsa, Oklahoma, and purports to bring this action on
behalf of himself and "all other similarly situated" (the "plaintiffs"), namely,
all members of "casino card clubs" and players in "video poker tournaments,"
which would appear to be a sub-class of plaintiffs within the two prior class
actions identified above and which are presently pending against the Company
in the District of Nevada. Except for the identification of the class which the
plaintiff seeks to represent, all substantive allegations of this action are
virtually identical to the consolidated Poulos/Ahearn actions, and, the Company
believes, is also without merit.
On August 15, 1996, the Nevada Federal District Court issued an order
granting Sodak's and others' motions to dismiss and gave plaintiff leave to file
an amended complaint on or before September 30, 1996. The amended complaint was
filed at the close of work on September 30, 1996. The Company believes the
plaintiff's lawsuit to be without merit. The Company intends to vigorously
pursue all legal defenses available to it, and to shortly file renewed motions
to dismiss the amended complaint on its behalf.
Item 2. Changes in Securities
- -----------------------------
None.
Item 3. Defaults Upon Senior Securities
- ---------------------------------------
None.
Item 4. Submission of Matters to a Vote of Security Holders
- -----------------------------------------------------------
None.
Item 5. Other Information
- -------------------------
None.
Item 6. Exhibits and Reports on Form 8-K
- ----------------------------------------
a. Exhibits
11.1 Calculation of Earnings Per Common and Common Equivalent Share.
b. Reports on Form 8-K
Form 8-K dated July 15, 1996, and Form 8-K/A dated September 13, 1996,
reporting the Company's acquisition of all of the outstanding shares of
Gamblers Supply Management Company.
20
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.
Date: November 13, 1996
SODAK GAMING, INC.
By: /s/ David R. Johnson
____________________________
David R. Johnson
Chief Financial Officer
21
EXHIBIT INDEX
Sequentially
Exhibit No. Numbered Page
- ----------- -------------
11.1 Calculation of Earnings Per Common and Common Equivalent Share 23
22