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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
-------------------------
FORM 10-Q
[X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
For the quarterly period ended November 27, 2004
OR
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15 (d) OF THE SECURITIES
EXCHANGE ACT OF 1934
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 Identification
Incorporation or Organization) Number)
55 Technology Way, West Greenwich, Rhode Island 02817
(Address of Principal Executive Offices) (Zip Code)
(401) 392-1000
(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 [ ]
Indicate by check mark whether the Registrant is an accelerated filer (as
defined in Rule 12b-2 of the Securities Exchange Act of 1934)
Yes [X] No [ ]
Number of shares of Registrant's Common Stock outstanding as of December 20,
2004: 115,797,122
INDEX
GTECH HOLDINGS CORPORATION AND SUBSIDIARIES
Page
Number
------
PART I. FINANCIAL INFORMATION
Item 1. Financial Statements
Consolidated Balance Sheets 3
Consolidated Income Statements 4-5
Consolidated Statements of Cash Flows 6
Consolidated Statements of Shareholders' Equity 7
Notes to Consolidated Financial Statements 8-27
Item 2. Management's Discussion and Analysis of Financial Condition 28-45
and Results of Operations
Item 3. Quantitative and Qualitative Disclosures about Market Risk 46
Item 4. Controls and Procedures 46
PART II. OTHER INFORMATION
Item 1. Legal Proceedings 47-49
Item 2. Unregistered Sales of Equity Securities and Use of Proceeds 50
Item 6. Exhibits 51
SIGNATURES 52
EXHIBITS
PART 1. FINANCIAL INFORMATION
Item 1. FINANCIAL STATEMENTS
GTECH HOLDINGS CORPORATION AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
(Unaudited)
November 27, February 28,
2004 2004
----------- ------------
(Dollars in thousands)
ASSETS
CURRENT ASSETS:
Cash and cash equivalents $ 309,601 $ 129,339
Investment securities available-for-sale - 221,850
Trade accounts receivable, net 150,747 118,902
Sales-type lease receivables 8,268 7,705
Inventories 86,345 76,784
Deferred income taxes 25,846 34,396
Other current assets 28,289 24,426
----------- ------------
TOTAL CURRENT ASSETS 609,096 613,402
SYSTEMS, EQUIPMENT AND OTHER ASSETS RELATING TO CONTRACTS, net 697,285 591,362
GOODWILL, net 334,227 188,612
PROPERTY, PLANT AND EQUIPMENT, net 68,281 57,576
INTANGIBLE ASSETS, net 73,187 28,231
REFUNDABLE PERFORMANCE DEPOSIT 20,000 20,000
SALES-TYPE LEASE RECEIVABLES 12,797 17,653
OTHER ASSETS 47,630 42,295
----------- ------------
TOTAL ASSETS $ 1,862,503 $ 1,559,131
=========== ============
LIABILITIES AND SHAREHOLDERS' EQUITY
CURRENT LIABILITIES:
Accounts payable $ 82,484 $ 80,004
Accrued expenses 49,894 47,428
Employee compensation 24,649 33,981
Advance payments from customers 63,097 104,128
Deferred revenue and advance billings 29,759 14,459
Income taxes payable 22,033 12,394
Taxes other than income taxes 20,215 19,459
Short term borrowings 483 -
Current portion of long-term debt 4,199 106,319
----------- ------------
TOTAL CURRENT LIABILITIES 296,813 418,172
LONG-TERM DEBT, less current portion 754,888 463,215
OTHER LIABILITIES 79,771 53,736
DEFERRED INCOME TAXES 96,244 61,719
COMMITMENTS AND CONTINGENCIES - -
SHAREHOLDERS' EQUITY:
Preferred Stock, par value $.01 per share - 20,000,000 shares authorized, none issued - -
Common Stock, par value $.01 per share - 200,000,000 shares authorized, 116,551,144 and
184,590,808 shares issued; 115,648,332 and 118,395,168 shares outstanding
at November 27, 2004 and February 28, 2004, respectively (shares adjusted
to reflect July 2004 two-for-one stock split and treasury stock retirement) 1,166 923
Additional paid-in capital 277,839 266,320
Accumulated other comprehensive loss (48,105) (70,508)
Retained earnings 424,317 839,270
----------- ------------
655,217 1,036,005
Less cost of 902,812 and 66,195,640 shares in treasury at
November 27, 2004 and February 28, 2004, respectively (shares adjusted to
reflect July 2004 two-for-one stock split and treasury stock retirement) (20,430) (473,716)
----------- ------------
634,787 562,289
----------- ------------
TOTAL LIABILITIES AND SHAREHOLDERS' EQUITY $ 1,862,503 $ 1,559,131
=========== ============
See Notes to Consolidated Financial Statements
-3-
GTECH HOLDINGS CORPORATION AND SUBSIDIARIES
CONSOLIDATED INCOME STATEMENTS
(Unaudited)
Three Months Ended
----------------------------
November 27, November 22,
2004 2003
------------ ------------
(Dollars in thousands,
except per share amounts)
Revenues:
Services $ 251,945 $ 231,225
Sales of products 63,702 23,697
------------ ------------
315,647 254,922
Costs and expenses:
Costs of services 155,962 131,991
Costs of sales 44,187 13,094
------------ ------------
200,149 145,085
------------ ------------
Gross profit 115,498 109,837
Selling, general and administrative 29,740 28,167
Research and development 13,007 12,926
------------ ------------
Operating expenses 42,747 41,093
------------ ------------
Operating income 72,751 68,744
Other income (expense):
Interest income 642 1,494
Equity in earnings of unconsolidated affiliates 810 1,500
Other income (expense) (2,070) 4,052
Interest expense (3,688) (2,986)
------------ ------------
(4,306) 4,060
------------ ------------
Income before income taxes 68,445 72,804
Income taxes 22,590 26,937
------------ ------------
Net income $ 45,855 $ 45,867
============ ============
Basic earnings per share $ 0.40 $ 0.39
============ ============
Diluted earnings per share $ 0.35 $ 0.35
============ ============
Weighted average shares outstanding - basic 115,708 117,640
============ ============
Weighted average shares outstanding - diluted 131,435 133,853
============ ============
Dividends per share - common stock $ 0.085 $ 0.085
============ ============
See Notes to Consolidated Financial Statements
-4-
GTECH HOLDINGS CORPORATION AND SUBSIDIARIES
CONSOLIDATED INCOME STATEMENTS
(Unaudited)
Nine Months Ended
----------------------------
November 27, November 22,
2004 2003
------------ ------------
(Dollars in thousands,
except per share amounts)
Revenues:
Services $ 753,385 $ 692,782
Sales of products 165,982 78,972
------------ ------------
919,367 771,754
Costs and expenses:
Costs of services 451,736 391,593
Costs of sales 103,978 50,533
------------ ------------
555,714 442,126
------------ ------------
Gross profit 363,653 329,628
Selling, general and administrative 87,264 79,498
Research and development 38,741 41,422
------------ ------------
Operating expenses 126,005 120,920
------------ ------------
Operating income 237,648 208,708
Other income (expense):
Interest income 2,958 3,703
Equity in earnings of unconsolidated affiliates 2,409 6,120
Other income 6,531 3,337
Interest expense (11,743) (6,997)
------------ ------------
155 6,163
------------ ------------
Income before income taxes 237,803 214,871
Income taxes 85,252 79,502
------------ ------------
Net income $ 152,551 $ 135,369
============ ============
Basic earnings per share $ 1.30 $ 1.17
============ ============
Diluted earnings per share $ 1.16 $ 1.06
============ ============
Weighted average shares outstanding - basic 117,133 115,764
============ ============
Weighted average shares outstanding - diluted 133,050 128,712
============ ============
Dividends per share - common stock $ 0.255 $ 0.17
============ ============
See Notes to Consolidated Financial Statements
-5-
GTECH HOLDINGS CORPORATION AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
(Unaudited)
Nine Months Ended
----------------------------
November 27, November 22,
2004 2003
------------ ------------
(Dollars in thousands)
OPERATING ACTIVITIES
Net income $ 152,551 $ 135,369
Adjustments to reconcile net income to net cash provided by operating activities:
Depreciation 105,645 81,449
Intangibles amortization 9,839 2,662
Deferred income taxes benefit 28,213 -
Tax benefit related to stock award plans 10,889 11,871
Non-cash gain from consolidation of West Greenwich Technology
Associates, L.P. - (5,292)
Gain on sale of investment (10,924) -
Equity in earnings of unconsolidated affiliates, net of dividends received 1,071 (263)
Other 14,161 7,189
Changes in operating assets and liabilities:
Trade accounts receivable (27,832) 2,358
Inventories 4,207 22,879
Accounts payable (8,695) 670
Employee compensation (10,433) (5,923)
Advance payments from customers (13,762) 43,414
Deferred revenue and advance billings 15,158 (7,189)
Income taxes payable 14,232 11,437
Other assets and liabilities (5,844) 9,305
------------ ------------
NET CASH PROVIDED BY OPERATING ACTIVITIES 278,476 309,936
INVESTING ACTIVITIES
Acquisitions (net of cash acquired) (200,764) (74,174)
Purchases of systems, equipment and other assets relating to contracts (189,374) (211,867)
Purchases of available-for-sale investment securities (50,150) -
Maturities and sales of available-for-sale investment securities 272,000 -
Proceeds from sale of investment 11,773 -
Purchases of property, plant and equipment (9,134) (8,506)
Increase in restricted cash (5,138) -
Investments in and advances to unconsolidated subsidiaries (2,503) (1,185)
Refundable performance deposit - (20,000)
License fee - (12,500)
------------ ------------
NET CASH USED FOR INVESTING ACTIVITIES (173,290) (328,232)
FINANCING ACTIVITIES
Net proceeds from issuance of long-term debt 343,254 251,138
Principal payments on long-term debt (142,657) (31,688)
Purchases of treasury stock (100,536) -
Dividends paid (29,988) (19,928)
Redemption premium paid in connection with the early retirement of debt (10,610) -
Proceeds from stock options 11,810 22,068
Other 2,339 (2,194)
------------ ------------
NET CASH PROVIDED BY FINANCING ACTIVITIES 73,612 219,396
Effect of exchange rate changes on cash 1,464 3,262
------------ ------------
INCREASE IN CASH AND CASH EQUIVALENTS 180,262 204,362
Cash and cash equivalents at beginning of period 129,339 116,174
------------ ------------
CASH AND CASH EQUIVALENTS AT END OF PERIOD $ 309,601 $ 320,536
============ ============
See Notes to Consolidated Financial Statements
-6-
GTECH HOLDINGS CORPORATION AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF SHAREHOLDERS' EQUITY - (Unaudited)
Accumulated
Additional Other
Outstanding Common Paid-in Comprehensive Retained Treasury
Shares Stock Capital Loss Earnings Stock Total
------------ -------- ---------- ------------- --------- ---------- ----------
(Dollars in thousands)
Balance at February 28, 2004 118,395,168 $ 923 $266,320 $ (70,508) $ 839,270 $(473,716) $ 562,289
Comprehensive income:
Net income - - - - 152,551 - 152,551
Other comprehensive income (loss), net of tax:
Foreign currency translation - - - 20,244 - - 20,244
Unrecognized gain on interest rate locks - - - 2,071 - - 2,071
Unrecognized net gain on derivative instruments - - - 90 - - 90
Unrealized loss on investments - - - (2) - - (2)
---------
Comprehensive income 174,954
Treasury stock purchased (4,409,500) - - - - (100,536) (100,536)
Cash dividends on common stock ($0.255 per share) - - - - (30,133) - (30,133)
Shares issued under employee stock purchase
and stock award plans 322,590 - - - 1,228 3,656 4,884
Shares issued upon exercise of stock options 1,340,074 - - - (9,169) 20,979 11,810
Stock option compensation - - 630 - - - 630
Tax benefits related to stock award plans - - 10,889 - - - 10,889
Treasury stock retirement - (349) - - (528,838) 529,187 -
July 2004 two-for-one stock split - 592 - - (592) - -
------------ ------- -------- ---------- --------- --------- ---------
Balance at November 27, 2004 115,648,332 $ 1,166 $277,839 $ (48,105) $ 424,317 $ (20,430) $ 634,787
============ ======= ======== ========== ========= ========= =========
See Notes to Consolidated Financial Statements
-7-
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
GTECH HOLDINGS CORPORATION AND SUBSIDIARIES
NOTE 1 - ORGANIZATION, BASIS OF PRESENTATION AND STOCK-BASED COMPENSATION PLANS
ORGANIZATION
GTECH Holdings Corporation ("Holdings") is a global technology services company
providing software, networks and professional services that power
high-performance solutions. We are the world's leading operator of highly-secure
online lottery transaction processing systems, doing business in 52 countries
worldwide and we have a growing presence in commercial gaming technology and
financial services transaction processing. We have a single operating and
reportable business segment, the Transaction Processing segment. In these notes,
the terms "Holdings," "Company," "we," "our," and "us" refer to GTECH Holdings
Corporation and all subsidiaries included in the consolidated financial
statements, unless otherwise specified. The accounting policies of the
Transaction Processing segment are the same as those described in Note 1 -
"Organization and Summary of Significant Accounting Policies" in our
Consolidated Financial Statements and footnotes included in our fiscal 2004
Annual Report on Form 10-K. Management evaluates the performance of this segment
based on operating income.
BASIS OF PRESENTATION
The accompanying unaudited consolidated financial statements of Holdings, the
parent of GTECH Corporation ("GTECH"), 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. They do not include all information and notes 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 nine-month period ended November 27,
2004 are not necessarily indicative of the results that may be expected for the
full fiscal year ending February 26, 2005. The balance sheet at February 28,
2004 has been derived from the audited financial statements at that date. For
further information refer to the Consolidated Financial Statements and footnotes
included in our fiscal 2004 Annual Report on Form 10-K.
Certain amounts in our prior period financial statements have been reclassified
to conform to the current period presentation.
STOCK-BASED COMPENSATION PLANS
We follow Accounting Principles Board Opinion No. 25, "Accounting for Stock
Issued to Employees" and related Interpretations in accounting for our
stock-based compensation plans and we have elected to continue to use the
intrinsic value-based method to account for stock option grants. We have adopted
the disclosure-only provisions of Statement of Financial Accounting Standards
No. 148, "Accounting for Stock-Based Compensation - Transition and Disclosure,"
an amendment of Statement of Financial Accounting Standards No. 123.
Accordingly, no compensation expense has been recognized for our stock-based
compensation plans other than for restricted stock.
-8-
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)
NOTE 1 - ORGANIZATION, BASIS OF PRESENTATION AND STOCK-BASED COMPENSATION PLANS
(continued)
Had we elected to recognize compensation expense based upon the fair value at
the grant dates for awards under these plans, net income and earnings per share
would have been reduced to the pro forma amounts listed in the table below. The
fair value of each grant is estimated on the date of grant using the
Black-Scholes option pricing model.
Three Months Ended Nine Months Ended
---------------------------- ----------------------------
November 27, November 22, November 27, November 22,
2004 2003 2004 2003
------------ ------------ ------------ ------------
(Dollars and shares in thousands, except per share amounts)
Net income, as reported $ 45,855 $ 45,867 $ 152,551 $ 135,369
Add: Stock-based compensation expense
included in reported net income, net of
related tax effects 1,124 516 2,347 1,741
Deduct: Total stock-based compensation
expense determined under the fair value
method for all awards, net of related
tax effects (2,589) (1,409) (6,934) (5,544)
---------- ----------- ----------- -----------
Pro forma net income $ 44,390 $ 44,974 $ 147,964 $ 131,566
========== =========== =========== ===========
Basic earnings per share:
As reported $ .40 $ .39 $ 1.30 $ 1.17
Pro forma .38 .38 1.26 1.14
Diluted earnings per share:
As reported $ .35 $ .35 $ 1.16 $ 1.06
Pro forma .34 .34 1.12 1.03
In December 2004, the Financial Accounting Standards Board ("FASB") issued
Statement of Financial Accounting Standards No. 123 (revised 2004), "Share-Based
Payment" ("SFAS 123R"). SFAS 123R is a revision of FASB Statement No. 123,
"Accounting for Stock-Based Compensation", supersedes Accounting Principles
Board Opinion No. 25, "Accounting for Stock Issued to Employees", and amends
FASB Statement No. 95, "Statement of Cash Flows". SFAS 123R requires all
share-based payments to employees, including grants of employee stock options,
to be recognized in the financial statements based on their fair values. We are
required to adopt SFAS 123R in our fiscal 2006 third quarter. Early adoption is
permitted. We are currently evaluating the two methods of adoption allowed by
FAS 123R; the modified-prospective transition method, and the
modified-retrospective transition method. We currently estimate the quarterly
impact of adopting SFAS 123R will be approximately $.02 per diluted share.
-9-
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)
NOTE 2 - COMMON STOCK SPLIT AND TREASURY STOCK RETIREMENT
On June 17, 2004, our Board of Directors approved a 2-for-1 common stock split,
payable in the form of a stock dividend, which entitled each shareholder of
record on July 1, 2004 to receive one share of common stock for each outstanding
share of common stock held on that date. The stock dividend was distributed on
July 30, 2004. All references to common shares and per share amounts herein have
been restated to reflect the stock split for all periods presented.
In connection with the declaration of the stock dividend, our Board of Directors
approved the retirement of 69.8 million shares of our common stock held in
treasury on July 29, 2004 (stated on a basis reflecting the stock split which
occurred subsequent to the retirement). The $528.8 million of treasury stock at
the time of the retirement was eliminated from treasury stock through a charge
to retained earnings and common stock.
NOTE 3 - BUSINESS ACQUISITIONS
BILLBIRD S.A.
On September 9, 2004, our majority-owned subsidiary, PolCard S.A, completed the
acquisition of privately-held BillBird S.A. ("BillBird"), the leading provider
of electronic bill payment services in Poland, for an all-cash purchase price of
approximately $6.0 million. Approval of this transaction by our shareholders was
not required.
LEEWARD ISLANDS LOTTERY HOLDING COMPANY INC.
On May 5, 2004, we completed the acquisition of privately-held Leeward Islands
Lottery Holding Company Inc. ("LILHCo"), a lottery operating company
headquartered on the Caribbean islands of Antigua and St. Croix, for an all-cash
purchase price of approximately $40 million. Approval of this transaction by our
shareholders was not required.
SPIELO MANUFACTURING INCORPORATED
On April 30, 2004, we completed the acquisition of privately-held Spielo
Manufacturing Incorporated ("Spielo"), a leading provider of video lottery
terminals ("VLT's") and related products and services to the global gaming
industry, for an all-cash purchase price of approximately $150 million. In
addition, we paid Spielo shareholders approximately $10.7 million out of a
potential maximum earn-out amount of up to $35 million, which Spielo
shareholders are entitled to receive in the 18 months following the closing,
based upon Spielo achieving certain VLT installation objectives in New York.
Approval of this transaction by our shareholders was not required.
We have not yet finalized the evaluation and allocation of the purchase price
for the LILHCo and BillBird acquisitions. However, we do not expect the final
purchase price allocation will be materially different than our preliminary
allocation.
These acquisitions are individually and in the aggregate, not material to our
consolidated financial statements and accordingly, pro forma financial
information has not been presented.
-10-
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)
NOTE 4 - INVENTORIES
November 27, February 28,
2004 2004
------------ ------------
(Dollars in thousands)
Inventories consist of:
Raw materials $ 27,004 $ 14,540
Work in progress 39,670 60,470
Finished goods 19,671 1,774
------------ ------------
$ 86,345 $ 76,784
============ ============
Inventories include amounts we manufacture or assemble for our long-term service
contracts and amounts related to product sales contracts, including product
sales which are accounted for using contract accounting. Work in progress at
November 27, 2004 and February 28, 2004, includes approximately $34.5 million
and $54.9 million, respectively, related to product sale contracts.
Amounts received from customers in advance of revenue recognition (primarily
related to product sale contracts included in work in progress above) totaled
$63.1 million and $104.1 million at November 27, 2004 and February 28, 2004,
respectively.
NOTE 5 - RESTRICTED ASSETS
A June 25, 2004 ruling in a civil action initiated by federal attorneys with
Brazil's Public Ministry has had and will continue to have the effect of
materially reducing payments that we otherwise would receive from our lottery
contract with Caixa Economica Federal ("CEF"), our customer and the operator of
Brazil's National Lottery, which expires in May 2005. This ruling ordered that
30% of payments subsequent to the June 25, 2004 ruling due to GTECH Brasil
Ltda., our Brazilian subsidiary ("GTECH Brazil") from CEF, be withheld and
deposited in an account maintained by the Court (as further discussed in "Legal
Proceedings - Brazilian-Related Legal Proceedings" in Part II, Item 1 in this
report). As of November 27, 2004, the total amount withheld and deposited in an
account maintained by the Court was approximately 43 million Brazilian reals, or
15 million United States dollars.
Accordingly, we have not recognized service revenues for the payments that were
withheld from GTECH Brazil, as realization of these amounts is not reasonably
assured. In addition, the ruling ordered that all assets of GTECH Brazil be
identified to the Court so as to prevent their transfer or disposition. As of
November 27, 2004, GTECH Brazil assets were as follows (dollars in thousands):
Cash $ 5,138
Systems, Equipment and Other Assets Relating to Contracts, net 6,963
-------
Assets restricted from transfer or disposition $12,101
All other assets 13,202
-------
GTECH Brazil assets at November 27, 2004 $25,303
=======
The restricted cash is included in Other Assets in our Consolidated Balance
Sheet.
-11-
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)
NOTE 6 - PRODUCT WARRANTIES
We offer a product warranty on all of our manufactured products (primarily
terminals and related peripherals) sold to our customers. Although we do not
have a standard product warranty, our typical warranty provides that we will
repair or replace defective products for a period of time (usually a minimum of
90 days) from the date revenue is recognized or from the date a product is
delivered and tested. We estimate product warranty costs that we expect to incur
during the warranty period and we record a charge to costs of sales for the
estimated warranty cost at the time the product sale is recorded. In determining
the appropriate warranty provision, consideration is given to historical
warranty cost information, the status of the terminal model in its life cycle
and current terminal performance. We periodically assess the adequacy of our
product warranty reserves and adjust them as necessary in the period when the
information necessary to make the adjustment becomes available.
We typically do not provide a product warranty on purchased products sold to our
customers but attempt to pass the manufacturer's warranty, if any, on to them.
A summary of product warranty activity for the nine months ended November 27,
2004 and November 23, 2003 is as follows (dollars in thousands):
Fiscal
-------------------
2005 2004
------- -------
Balance at February 28, 2004 and February 23, 2003 $ 749 $ 437
Opening reserve balance associated with acquisitions 1,126 --
Additional reserves 875 519
Charges incurred (1,037) (40)
Change in estimate (300) --
Other 77 --
------- -------
Balance at November 27, 2004 and November 23, 2003 $ 1,490 $ 916
======= =======
Our reserves for product warranty are included in Accrued Expenses in our
Consolidated Balance Sheets.
-12-
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)
NOTE 7 - LONG-TERM DEBT
November 27, February 28,
2004 2004
------------ ------------
(Dollars in thousands)
Long-term debt consists of:
4.75% Senior Notes due October 2010 $ 249,677 $ 249,636
1.75% Convertible Debentures due December 2021 175,000 175,000
4.50% Senior Notes due December 2009 149,583 -
5.25% Senior Notes due December 2014 148,671 -
World Headquarters loan due January 2007 27,933 27,933
Fair value of interest rate swaps 1,177 4,893
Deferred interest rate swap gains - 12,009
7.87% Series B Guaranteed Senior Notes due May 2007 - 90,000
Other, due through April 2006 7,046 10,063
------------ ------------
759,087 569,534
Less current portion 4,199 106,319
------------ ------------
$ 754,888 $ 463,215
============ ============
1.75% CONVERTIBLE DEBENTURES
Holders of our 1.75% Convertible Debentures due December 2021 ("the Debentures")
may require us to repurchase all or part of their Debentures on December 15,
2004, December 15, 2006, December 15, 2011 and December 15, 2016 at a price
equal to 100% of the principal amount of the Debentures, plus accrued interest.
No Debentures were tendered for repurchase on December 15, 2004.
4.50% SENIOR NOTES AND 5.25% SENIOR NOTES
In November 2004, Holdings issued, in a private placement, $150 million
principal amount of 4.50% Senior Notes due December 2009, and $150 million
principal amount of 5.25% Senior Notes due December 2014 (collectively, the
"Senior Notes). The Senior Notes are unsecured and unsubordinated obligations of
Holdings that are fully and unconditionally guaranteed by GTECH and certain of
its subsidiaries. Interest is payable semi-annually in arrears on June 1 and
December 1 of each year, beginning on June 1, 2005. The proceeds from the
issuance of the Senior Notes will be used for general corporate purposes, which
may include funding future acquisitions. In connection with the private
placement, we agreed to file a registration statement under the Securities Act
of 1933, as amended, under which we will offer to exchange the Senior Notes sold
in the private placement for registered notes with otherwise identical terms.
In November 2004, in conjunction with the offering of the Senior Notes, we
entered into interest rate swap agreements that effectively convert $50 million
of the Senior Notes from a fixed rate to a floating rate for the period November
2004 to December 2009 and $25 million of the Senior Notes from a fixed rate to a
floating rate for the period November 2004 to December 2014.
7.87% SERIES B GUARANTEED SENIOR NOTES
In the first quarter of fiscal 2005, GTECH repurchased the remaining $90.0
million of its 7.87% Series B Guaranteed Senior Notes due May 2007 (the "2007
Senior Notes"). The 2007 Senior Notes were unsecured and unsubordinated
obligations of GTECH that were fully and unconditionally guaranteed by Holdings
and certain of its subsidiaries. Interest was payable semi-annually in arrears
on May 15 and November 15 of each year.
-13-
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)
NOTE 7 - LONG-TERM DEBT (continued)
CREDIT FACILITY
In October 2004, we entered into a new $500 million unsecured senior revolving
credit facility expiring in October 2009 (the "Credit Facility"). There were no
outstanding borrowings under the Credit Facility at November 27, 2004. Up to
$100 million of the Credit Facility may be used for the issuance of letters of
credit. At November 27, 2004, there was $469.0 million available for borrowing
under the Credit Facility, after considering $31.0 million of letters of credit
issued and outstanding.
NOTE 8 - COMMITMENTS AND CONTINGENCIES
See "Legal Proceedings" in Part II, Item 1 and "Management's Discussion and
Analysis of Financial Condition and Results of Operations" in Part I, Item 2 of
this report.
NOTE 9 - GUARANTEES AND INDEMNIFICATIONS
PERFORMANCE AND OTHER BONDS
In connection with certain contracts and procurements, we have been required to
deliver performance bonds for the benefit of our customers and bid and
litigation bonds for the benefit of potential customers, respectively. These
bonds give the beneficiary the right to obtain payment and/or performance from
the issuer of the bond if certain specified events occur. In the case of
performance bonds, which generally have a term of one year, such events include
our failure to perform our obligations under the applicable contract. To obtain
these bonds, we are required to indemnify the issuers against the costs they
incur if a beneficiary exercises its rights under a bond. Historically, our
customers have not exercised their rights under these bonds and we do not
currently anticipate that they will do so. The following table provides
information related to potential commitments at November 27, 2004:
Total potential
commitments
---------------
(in thousands)
Performance bonds $202,855
Litigation bonds 7,790
Financial guarantees 2,195
All other bonds 3,807
--------
$216,647
========
-14-
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)
NOTE 9 - GUARANTEES AND INDEMNIFICATIONS (continued)
LOTTERY TECHNOLOGY SERVICES INVESTMENT CORPORATION
We have a 44% interest in Lottery Technology Services Investment Corporation
("LTSIC"), which we account for using the equity method of accounting. LTSIC's
wholly owned subsidiary, Lottery Technology Services Corporation ("LTSC"),
provides equipment and services (which we supplied to LTSC), to the Bank of
Taipei. The Bank of Taipei holds the license to operate the Taiwan Public
Welfare Lottery.
In fiscal 2002, we signed an agreement with Acer, Inc. ("Acer"), the partner
that holds the remaining 56% interest in LTSIC, which provides that in the event
a third party lender to LTSC requires the guarantee of GTECH or Acer as a
condition of making a loan to LTSC, we agreed, along with Acer, to provide such
a guarantee on reasonable terms. Our guarantee is limited to 44% of any such
third-party loan and expires on December 31, 2006.
In fiscal 2002, in order to assist LTSC with the financing they required to
enable them to perform under their obligation to operate the Taiwan Public
Welfare Lottery on behalf of the Bank of Taipei, we guaranteed loans made to
LTSC by an unrelated commercial lender. The loans had a maturity date of March
2007, however, LTSC repaid all borrowings under the guaranteed loans in
September 2004. Our guarantee of these loans expired in October 2004. We did not
receive any consideration in exchange for our guarantees on behalf of LTSC.
Rather, these guarantees were issued in connection with the formation of LTSC
and LTSIC.
In fiscal years prior to 2005, we deferred service revenue from LTSC in an
amount equal to our 44% guarantee of LTSC's debt and these deferrals were being
recognized as the guaranteed debt was repaid. At November 27, 2004, we have
recognized all previously deferred service revenue because LTSC repaid all
borrowings under the guaranteed loans.
We recognize 56% of gross profit on product sales to LTSC and defer the
remaining 44% as a result of our equity interest in LTSIC. We recognize these
deferrals ratably over the life of our contract with LTSC. At November 27, 2004,
deferred product gross profit totaling $2.5 million is included in Deferred
Revenue and Advance Billings and Other Liabilities in our Consolidated Balance
Sheets.
TIMES SQUARED INCORPORATED
We guaranteed outstanding lease obligations of Times Squared Incorporated
("Times Squared") for which we received no monetary consideration. The amount
outstanding under the lease at November 27, 2004, was $2.2 million. Our
guarantee terminated in December 2004 (after the close of our fiscal 2005 third
quarter). Times Squared is a nonprofit corporation established to provide, among
other things, secondary and high school level educational programs. Times
Squared operates a Charter School for Engineering, Mathematics, Science and
Technology in Providence, Rhode Island that serves inner city children who
aspire to careers in the sciences and technology.
LOTTERY TECHNOLOGY ENTERPRISES
We have a 1% interest in Lottery Technology Enterprises ("LTE"), a joint venture
between us and District Enterprise for Lottery Technology Applications of
Washington, D.C. ("DELTA"). The joint venture agreement terminates on December
31, 2012. LTE holds a 10-year contract (which expires in November 2009) with the
District of Columbia Lottery and Charitable Games Control Board. Under
Washington, D.C. law, by virtue of our 1% interest in LTE, we may be jointly and
severally liable, with DELTA, for the obligations of the joint venture.
-15-
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)
NOTE 10 -- COMPREHENSIVE INCOME
The components of comprehensive income are as follows:
Three Months Ended Nine Months Ended
--------------------------- ----------------------------
November 27, November 22, November 27, November 22,
2004 2003 2004 2003
------------ ------------ ------------ ------------
(Dollars in thousands)
Net income $ 45,855 $ 45,867 $ 152,551 $ 135,369
Other comprehensive income (loss),
net of tax
Foreign currency translation 20,510 14,086 20,244 19,190
Unrecognized gain on interest rate locks 2,071 - 2,071
Unrecognized net gain (loss) on
derivative instruments (1,317) (1,576) 90 (2,624)
Unrealized loss on investments - (14) (2) (15)
------------ ------------ ------------ ------------
Comprehensive income $ 67,119 $ 58,363 $ 174,954 $ 151,920
============ ============ ============ ============
NOTE 11 - SALE OF INVESTMENT
At February 28, 2004, we held a 50% interest in Gaming Entertainment (Delaware)
L.L.C. ("GED"), an entity that manages a racino for Harrington Raceway, Inc.
("Harrington"). During the first quarter of fiscal 2005, we sold our 50%
interest in GED to Harrington for $11.8 million and recognized a gain of $10.9
million which was recorded in Other Income (Expense) in our Consolidated Income
Statements.
-16-
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)
NOTE 12 - EARNINGS PER SHARE
The following table shows the computation of basic and diluted earnings per
share:
Three Months Ended Nine Months Ended
------------------------------ ------------------------------
November 27, November 22, November 27, November 22,
2004 2003 2004 2003
------------ ------------ ------------ ------------
(Dollars and shares in thousands, except per share amounts)
Numerator:
Net income (Numerator for basic earnings
per share) $ 45,855 $ 45,867 $ 152,551 $ 135,369
Effect of dilutive securities:
Interest expense on 1.75% Convertible
Debentures, net of tax 551 517 1,598 1,182
------------ ------------ ------------ ------------
Numerator for diluted earnings per share $ 46,406 $ 46,384 $ 154,149 $ 136,551
============ ============ ============ ============
Denominator:
Denominator for basic earnings per share-
weighted-average shares 115,708 117,640 117,133 115,764
Effect of dilutive securities:
1.75%Convertible Debentures 12,727 12,727 12,727 9,612
Employee stock options 2,759 3,118 2,961 3,074
Unvested restricted and stock bonus
discount shares 241 368 229 262
------------ ------------ ------------ ------------
Dilutive potential common shares 15,727 16,213 15,917 12,948
Denominator for diluted earnings per
share-adjusted weighted-average shares
and assumed conversions 131,435 133,853 133,050 128,712
============ ============ ============ ============
Basic earnings per share $ .40 $ .39 $ 1.30 $ 1.17
============ ============ ============ ============
Diluted earnings per share $ .35 $ .35 $ 1.16 $ 1.06
============ ============ ============ ============
Our 1.75% Convertible Debentures ("Debentures") are convertible at the option of
the holder into shares of our common stock at an initial conversion rate of
72.7272 shares of common stock per $1,000 principal amount of Debentures, which
is equivalent to an initial conversion price of approximately $13.75 per share.
The Debentures become convertible when, among other circumstances, the closing
price of our common stock is more than 120% of the conversion price
(approximately $16.50 per share) for at least 20 out of 30 consecutive trading
days prior to the date of surrender for conversion. There are a total of 12.7
million shares issuable upon the conversion of the Debentures.
The Debentures were convertible for all trading days in the quarters ended
November 27, 2004 and November 22, 2003, resulting in 12.7 million shares
included in the computation of diluted earnings per share.
-17-
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)
NOTE 12 - EARNINGS PER SHARE (continued)
In October 2004, the Emerging Issues Task Force reached a consensus in Issue
04-08, "Accounting Issues Related to Certain Features of Contingently
Convertible Debt and the Effect on Diluted EPS" ("EITF 04-08"), that will
require us to restate our diluted earnings per share for all periods during
which our Debentures were outstanding to include all shares issuable upon
conversion of the Debentures in our diluted earnings per share computation,
regardless of whether or not the Debentures were then convertible. EITF 04-08
will become effective in our fiscal 2005 fourth quarter. Giving effect to EITF
04-08, diluted earnings per share would have been $1.04 for the nine month
period ended November 22, 2003.
NOTE 13 - INCOME TAXES
Our effective income tax rate is greater than the statutory rate primarily due
to state income taxes. The effective income tax rate is based upon expected
income for the year, the composition of income or loss in different
jurisdictions and related statutory tax rates, accruals for tax contingencies
and the tax consequences or benefits from audits or the resolution of tax
contingencies.
In October 2004, the American Jobs Creation Act of 2004 (the "Act") was signed
into law. Among its provisions, the Act provides for a one-time special
deduction for certain qualifying dividends from foreign subsidiaries. We are
awaiting the issuance of clarifying regulations from the Treasury department
before finalizing our evaluation of the Act. Accordingly, we have not
determined what actions we might take in response to the Act or the impact, if
any, the Act may have on our financial condition and results of operations.
NOTE 14 - SUBSEQUENT EVENT
ATRONIC
In December 2004 (after the close of our fiscal 2005 third quarter), we entered
into an agreement to acquire a 50 percent controlling equity position in the
Atronic group of companies ("Atronic") owned by the owners of the privately-held
Gauselmann Group ("Gauselmann"). The remaining 50 percent of Atronic will be
retained by the owners of Gauselmann. Atronic is a video slot machine
manufacturer that is a market leader in Europe, Russia and Latin America, with a
solid presence in the United States. In addition to manufacturing slot machines
and developing slot machine games, Atronic develops customized solutions for
dynamic gaming operations.
The final purchase price will be calculated through a performance-based formula
equal to eight times Atronic's EBITDA (earnings before interest, taxes,
depreciation and amortization) for its fiscal year 2006 ending December 31,
2006. In addition, in the 12 months after the closing, Atronic will also have
the potential to receive an earn-out amount based on its 2007 performance above
specified thresholds. We currently expect the all-cash transaction will have a
total value of approximately $100 million to $150 million, for our 50 percent
share, including the assumption of debt.
Beginning in 2012, we have the option to purchase Gauselmann's interest in
Atronic and Gauselmann has a reciprocal right to sell its interest to us at a
value determined by independent appraisers. There are also mutual put/call
rights that may become effective before 2012, under certain circumstances. The
exercise price under these circumstances will be calculated through a
performance based formula. This transaction is contingent upon regulatory and
gaming license approvals and other closing conditions, and is expected to be
completed on December 31, 2006.
-18-
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)
NOTE 15 - SUPPLEMENTAL GUARANTOR/NON-GUARANTOR FINANCIAL INFORMATION
On December 18, 2001, Holdings (the "Parent Company") issued, in a private
placement, $175 million principal amount of 1.75% Convertible Debentures due
December 15, 2021 (the "Debentures"). On October 9, 2003, the Parent Company
issued, in a private placement, $250 million principal amount of 4.75% Senior
Notes due October 15, 2010, all of which were subsequently exchanged for 4.75%
Senior Notes due October 15, 2010 registered under the Securities Act of 1933
and on November 16, 2004, the Parent Company issued $150 million principal
amount of 4.75% Senior Notes due December 1, 2009 and $150 million principal
amount of 5.25% Senior Notes due December 1, 2014 (collectively, the "Senior
Notes"). The Debentures and Senior Notes are unsecured and unsubordinated
obligations of the Parent Company that are jointly and severally, fully and
unconditionally guaranteed by GTECH and two of its wholly owned subsidiaries:
GTECH Rhode Island Corporation and GTECH Latin America Corporation (collectively
with GTECH, the "Guarantor Subsidiaries"). Condensed consolidating financial
information is presented below.
Selling, general and administrative costs and research and development costs are
allocated to each subsidiary based on the ratio of the subsidiaries' combined
service revenues and sales of products to consolidated revenues.
The Parent Company conducts business through its consolidated subsidiaries and
unconsolidated affiliates and has, as its only material asset, an investment in
GTECH. Equity in earnings of consolidated affiliates recorded by the Parent
Company includes the Parent Company's share of the after-tax earnings of GTECH.
Taxes payable and deferred income taxes are obligations of the subsidiaries.
Income tax expense related to both current and deferred income taxes are
allocated to each subsidiary based on our consolidated effective income tax
rates.
-19-
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)
NOTE 15 - SUPPLEMENTAL GUARANTOR/NON-GUARANTOR FINANCIAL INFORMATION (continued)
Condensed Consolidating Balance Sheets
November 27, 2004
Parent Guarantor Non-Guarantor Eliminating
Company Subsidiaries Subsidiaries Entries Consolidated
-------------- ------------- --------------- ------------- --------------
(Dollars in thousands)
Assets
Current Assets:
Cash and cash equivalents $ - $ 271,885 $ 37,716 $ - $ 309,601
Trade accounts receivable, net - 81,431 69,316 - 150,747
Due from subsidiaries and affiliates - 35,919 - (35,919) -
Sales-type lease receivables - 3,321 4,947 - 8,268
Inventories - 29,081 63,708 (6,444) 86,345
Deferred income taxes - 17,861 7,985 - 25,846
Other current assets - 8,293 19,996 - 28,289
-------------- ------------- --------------- ------------- --------------
Total Current Assets - 447,791 203,668 (42,363) 609,096
Systems, Equipment and Other
Assets Relating to Contracts, net - 602,345 102,209 (7,269) 697,285
Investment in Subsidiaries and
Affiliates 634,787 378,479 - (1,013,266) -
Goodwill, net - 116,347 217,880 - 334,227
Property, Plant and Equipment, net - 33,291 34,990 - 68,281
Intangible Assets, net - 22,877 50,310 - 73,187
Refundable Performance Deposit - - 20,000 - 20,000
Sales-Type Lease Receivables - 5,546 7,251 - 12,797
Other Assets - 24,653 22,977 - 47,630
-------------- ------------- --------------- ------------- --------------
Total Assets $ 634,787 $ 1,631,329 $ 659,285 $ (1,062,898) $ 1,862,503
============== ============= =============== ============= ==============
Liabilities and Shareholders' Equity
Current Liabilities:
Accounts payable $ - $ 37,212 $ 45,272 $ - $ 82,484
Due to subsidiaries and affiliates - - 35,919 (35,919) -
Accrued expenses - 26,798 23,096 - 49,894
Employee compensation - 14,955 9,694 - 24,649
Advance payments from customers - 6,681 56,416 - 63,097
Deferred revenue and advance
billings - 13,994 15,765 - 29,759
Income taxes payable - 14,654 7,379 - 22,033
Taxes other than income taxes - 8,777 11,438 - 20,215
Short term borrowings - - 483 - 483
Current portion of long-term debt - - 4,199 - 4,199
-------------- ------------- --------------- -------------- --------------
Total Current Liabilities - 123,071 209,661 (35,919) 296,813
Long-Term Debt, less current
portion - 724,108 30,780 - 754,888
Other Liabilities - 60,806 18,965 - 79,771
Deferred Income Taxes - 74,844 21,400 - 96,244
Shareholders' Equity 634,787 648,500 378,479 (1,026,979) 634,787
-------------- ------------- --------------- -------------- --------------
Total Liabilities and
Shareholders' Equity $ 634,787 $ 1,631,329 $ 659,285 $ (1,062,898) $ 1,862,503
============== ============= =============== ============= ==============
-20-
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)
NOTE 15 - SUPPLEMENTAL GUARANTOR/NON-GUARANTOR FINANCIAL INFORMATION (continued)
Condensed Consolidating Balance Sheets
February 28, 2004
Parent Guarantor Non-Guarantor Eliminating
Company Subsidiaries Subsidiaries Entries Consolidated
-------------- ------------- --------------- ------------- --------------
(Dollars in thousands)
Assets
Current Assets:
Cash and cash equivalents $ - $ 68,956 $ 60,383 $ - $ 129,339
Investment securities
available-for-sale - 221,850 - - 221,850
Trade accounts receivable, net - 75,590 43,312 - 118,902
Due from subsidiaries and affiliates - 49,168 - (49,168) -
Sales-type lease receivables - 3,967 3,738 - 7,705
Inventories - 52,697 29,943 (5,856) 76,784
Deferred income taxes - 30,254 4,142 - 34,396
Other current assets - 5,481 18,945 - 24,426
-------------- ------------- --------------- ------------- --------------
Total Current Assets - 507,963 160,463 (55,024) 613,402
Systems, Equipment and Other
Assets Relating to Contracts, net - 518,976 80,111 (7,725) 591,362
Investment in Subsidiaries and
Affiliates 562,289 162,788 - (725,077) -
Goodwill, net - 115,965 72,647 - 188,612
Property, Plant and Equipment, net - 28,543 29,033 - 57,576
Intangible Assets, net - 21,850 6,381 - 28,231
Refundable Performance Deposit - - 20,000 - 20,000
Sales-Type Lease Receivables - 8,125 9,528 - 17,653
Other Assets - 20,822 21,473 - 42,295
-------------- ------------- --------------- ------------- --------------
Total Assets $ 562,289 $ 1,385,032 $ 399,636 $ (787,826) $ 1,559,131
============== ============= =============== ============= ==============
Liabilities and Shareholders' Equity
Current Liabilities:
Accounts payable $ - $ 54,967 $ 25,037 $ - $ 80,004
Due to subsidiaries and affiliates - - 49,168 (49,168) -
Accrued expenses - 32,041 15,387 - 47,428
Employee compensation - 29,256 4,725 - 33,981
Advance payments from customers - 45,648 58,480 - 104,128
Deferred revenue and advance
billings - 8,282 6,177 - 14,459
Income taxes payable - 4,419 7,975 - 12,394
Taxes other than income taxes - 8,643 10,816 - 19,459
Current portion of long-term debt - 100,886 5,433 - 106,319
-------------- ------------- --------------- ------------- --------------
Total Current Liabilities - 284,142 183,198 (49,168) 418,172
Long-Term Debt, less current
portion - 430,652 32,563 - 463,215
Other Liabilities - 36,526 17,210 - 53,736
Deferred Income Taxes - 57,842 3,877 - 61,719
Shareholders' Equity 562,289 575,870 162,788 (738,658) 562,289
-------------- ------------- --------------- ------------- --------------
Total Liabilities and
Shareholders' Equity $ 562,289 $ 1,385,032 $ 399,636 $ (787,826) $ 1,559,131
============== ============= =============== ============= ==============
-21-
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)
NOTE 15 - SUPPLEMENTAL GUARANTOR/NON-GUARANTOR FINANCIAL INFORMATION
(continued)
Condensed Consolidating Income Statements
Three Months Ended November 27, 2004
Parent Guarantor Non-Guarantor Eliminating
Company Subsidiaries Subsidiaries Entries Consolidated
--------------- -------------- --------------- ------------- --------------
(Dollars in thousands)
Revenues:
Services $ - $ 176,902 $ 75,043 $ - $ 251,945
Sales of products - 34,844 28,858 - 63,702
Intercompany sales and fees - 21,371 12,777 (34,148) -
--------------- ------------- --------------- -------------- --------------
- 233,117 116,678 (34,148) 315,647
Costs and expenses:
Costs of services - 103,598 53,330 (966) 155,962
Costs of sales - 20,338 23,849 - 44,187
Intercompany cost of sales
and fees - 27,162 4,974 (32,136) -
--------------- ------------- --------------- -------------- --------------
- 151,098 82,153 (33,102) 200,149
--------------- ------------- --------------- -------------- --------------
Gross profit - 82,019 34,525 (1,046) 115,498
Selling, general & administrative - 19,955 9,785 - 29,740
Research and development - 8,728 4,279 - 13,007
--------------- ------------- --------------- ------------- --------------
Operating expenses - 28,683 14,064 - 42,747
--------------- ------------- --------------- ------------- --------------
Operating income - 53,336 20,461 (1,046) 72,751
Other income (expense):
Interest income - 96 546 - 642
Equity in earnings of
unconsolidated affiliates - 766 44 - 810
Equity in earnings of
consolidated affiliates 45,855 10,714 - (56,569) -
Other income (expense) - 3,184 (5,254) - (2,070)
Interest expense - (3,340) (348) - (3,688)
--------------- ------------- --------------- ------------- --------------
45,855 11,420 (5,012) (56,569) (4,306)
--------------- ------------- --------------- ------------- --------------
Income before income taxes 45,855 64,756 15,449 (57,615) 68,445
Income taxes - 21,336 4,735 (3,481) 22,590
--------------- ------------- --------------- -------------- --------------
Net income $ 45,855 $ 43,420 $ 10,714 $ (54,134) $ 45,855
=============== ============= =============== ============= ==============
-22-
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)
NOTE 15 - SUPPLEMENTAL GUARANTOR/NON-GUARANTOR FINANCIAL INFORMATION
(continued)
Condensed Consolidating Income Statements
Nine Months Ended November 27, 2004
Parent Guarantor Non-Guarantor Eliminating
Company Subsidiaries Subsidiaries Entries Consolidated
--------------- -------------- --------------- ------------- --------------
(Dollars in thousands)
Revenues:
Services $ - $ 532,255 $ 221,130 $ - $ 753,385
Sales of products - 93,682 72,300 - 165,982
Intercompany sales and fees - 71,234 37,774 (109,008) -
--------------- ------------- --------------- ------------- --------------
- 697,171 331,204 (109,008) 919,367
Costs and expenses:
Costs of services - 309,428 144,636 (2,328) 451,736
Costs of sales - 52,086 51,905 (13) 103,978
Intercompany cost of sales
and fees - 72,179 13,551 (85,730) -
--------------- ------------- --------------- ------------- --------------
- 433,693 210,092 (88,071) 555,714
--------------- ------------- --------------- -------------- --------------
Gross profit - 263,478 121,112 (20,937) 363,653
Selling, general & administrative - 59,417 27,847 - 87,264
Research and development - 26,388 12,353 - 38,741
--------------- ------------- --------------- ------------- --------------
Operating expenses - 85,805 40,200 - 126,005
--------------- ------------- --------------- ------------- --------------
Operating income - 177,673 80,912 (20,937) 237,648
Other income (expense):
Interest income - 881 2,077 - 2,958
Equity in earnings (loss) of
unconsolidated affiliates - 2,680 (271) - 2,409
Equity in earnings of
consolidated affiliates 152,551 54,736 - (207,287) -
Other income - 2,826 3,705 - 6,531
Interest expense - (10,645) (1,098) - (11,743)
--------------- ------------- --------------- ------------- --------------
152,551 50,478 4,413 (207,287) 155
--------------- ------------- --------------- ------------- --------------
Income before income taxes 152,551 228,151 85,325 (228,224) 237,803
Income taxes - 81,792 30,589 (27,129) 85,252
--------------- ------------- --------------- ------------- --------------
Net income $ 152,551 $ 146,359 $ 54,736 $ (201,095) $ 152,551
=============== ============= =============== ============= ==============
-23-
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)
NOTE 15 - SUPPLEMENTAL GUARANTOR/NON-GUARANTOR FINANCIAL INFORMATION
(continued)
Condensed Consolidating Income Statements
Three Months Ended November 22, 2003
Parent Guarantor Non-Guarantor Eliminating
Company Subsidiaries Subsidiaries Entries Consolidated
--------------- ------------- --------------- -------------- --------------
(Dollars in thousands)
Revenues:
Services $ - $ 164,238 $ 66,987 $ - $ 231,225
Sales of products - 14,308 9,389 - 23,697
Intercompany sales and fees - 21,582 12,050 (33,632) -
--------------- ------------- --------------- ------------- --------------
- 200,128 88,426 (33,632) 254,922
Costs and expenses:
Costs of services - 93,176 39,667 (852) 131,991
Costs of sales - 8,851 4,252 (9) 13,094
Intercompany cost of sales
and fees - 16,285 5,796 (22,081) -
--------------- ------------- --------------- ------------- --------------
- 118,312 49,715 (22,942) 145,085
--------------- ------------- --------------- ------------- --------------
Gross profit - 81,816 38,711 (10,690) 109,837
Selling, general and administrative - 19,718 8,449 - 28,167
Research and development - 9,045 3,881 - 12,926
--------------- ------------- --------------- ------------- --------------
Operating expenses - 28,763 12,330 - 41,093
--------------- ------------- --------------- ------------- --------------
Operating income - 53,053 26,381 (10,690) 68,744
Other income (expense):
Interest income - 510 984 - 1,494
Equity in earnings of
unconsolidated affiliates - 430 1,070 - 1,500
Equity in earnings of
consolidated affiliates 45,867 18,038 - (63,905) -
Other income - 3,574 478 - 4,052
Interest expense - (2,705) (281) - (2,986)
--------------- ------------- --------------- ------------- --------------
45,867 19,847 2,251 (63,905) 4,060
--------------- ------------- --------------- ------------- --------------
Income before income taxes 45,867 72,900 28,632 (74,595) 72,804
Income taxes - 26,973 10,594 (10,630) 26,937
--------------- ------------- --------------- ------------- --------------
Net income $ 45,867 $ 45,927 $ 18,038 $ (63,965) $ 45,867
=============== ============= =============== ============= ==============
-24-
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)
NOTE 15 - SUPPLEMENTAL GUARANTOR/NON-GUARANTOR FINANCIAL INFORMATION
(continued)
Condensed Consolidating Income Statements
Nine Months Ended November 22, 2003
Parent Guarantor Non-Guarantor Eliminating
Company Subsidiaries Subsidiaries Entries Consolidated
--------------- ------------- --------------- ------------- -------------
(Dollars in thousands)
Revenues:
Services $ - $ 503,436 $ 189,346 $ - $ 692,782
Sales of products - 34,393 44,579 - 78,972
Intercompany sales and fees - 66,924 33,983 (100,907) -
--------------- ------------- --------------- ------------- --------------
- 604,753 267,908 (100,907) 771,754
Costs and expenses:
Costs of services - 275,207 119,285 (2,899) 391,593
Costs of sales - 18,832 31,764 (63) 50,533
Intercompany cost of sales
and fees - 70,889 14,348 (85,237) -
--------------- ------------- --------------- ------------- --------------
- 364,928 165,397 (88,199) 442,126
--------------- ------------- --------------- ------------- --------------
Gross profit - 239,825 102,511 (12,708) 329,628
Selling, general and administrative - 55,404 24,094 - 79,498
Research and development - 28,860 12,562 - 41,422
--------------- ------------- --------------- ------------- --------------
Operating expenses - 84,264 36,656 - 120,920
--------------- ------------- --------------- ------------- --------------
Operating income - 155,561 65,855 (12,708) 208,708
Other income (expense):
Interest income - 1,070 2,633 - 3,703
Equity in earnings of
unconsolidated affiliates - 3,001 3,119 - 6,120
Equity in earnings of
consolidated affiliates 135,369 42,551 - (177,920) -
Other income (expense) - 6,303 (2,966) - 3,337
Interest expense - (5,897) (1,100) - (6,997)
--------------- ------------- --------------- ------------- --------------
135,369 47,028 1,686 (177,920) 6,163
--------------- ------------- --------------- ------------- --------------
Income before income taxes 135,369 202,589 67,541 (190,628) 214,871
Income taxes - 74,958 24,990 (20,446) 79,502
--------------- ------------- --------------- ------------- --------------
Net income $ 135,369 $ 127,631 $ 42,551 $ (170,182) $ 135,369
=============== ============= =============== ============= ==============
-25-
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)
NOTE 15 - SUPPLEMENTAL GUARANTOR/NON-GUARANTOR FINANCIAL INFORMATION
(continued)
Condensed Consolidating Statements of Cash Flows
Nine Months Ended November 27, 2004
Parent Guarantor Non-Guarantor Eliminating
Company Subsidiaries Subsidiaries Entries Consolidated
-------------- ------------- -------------- ----------- ------------
(Dollars in thousands)
Net cash provided by operating
activities $ - $ 244,112 $ 36,771 $ (2,407) $ 278,476
Investing Activities
Acquisitions (net of cash acquired) - - (200,764) - (200,764)
Purchases of systems, equipment
and other assets relating to
contracts - (164,308) (27,473) 2,407 (189,374)
Purchases of available-for-sale
investment securities - (50,150) - - (50,150)
Maturities and sales of
available-for-sale investment
securities - 272,000 - - 272,000
Proceeds from sale of investment - - 11,773 - 11,773
Purchases of property, plant
and equipment - (8,826) (308) - (9,134)
Increase in restricted cash - - (5,138) - (5,138)
Investments in and advances to
unconsolidated subsidiaries - - (2,503) - (2,503)
-------------- ------------- -------------- ----------- -----------
Net cash provided by (used for)
investing activities - 48,716 (224,413) 2,407 (173,290)
Financing Activities
Net proceeds from issuance of
long-term debt - 343,254 - - 343,254
Proceeds from treasury rate lock - - - - -
Principal payments on long-term
debt - (135,000) (7,657) - (142,657)
Purchases of treasury stock (100,536) - - - (100,536)
Dividends paid (29,988) - - - (29,988)
Redemption premium paid in
connection with the early
retirement of debt - (10,610) - - (10,610)
Proceeds from stock options 11,810 - - - 11,810
Intercompany capital transactions 116,719 (284,719) 168,000 - -
Other 1,995 (2,711) 3,055 - 2,339
-------------- -------------- -------------- ------------ -----------
Net cash provided by (used for)
financing activities - (89,786) 163,398 - 73,612
Effect of exchange rate changes
on cash - (113) 1,577 - 1,464
-------------- ------------- -------------- ----------- -----------
Increase (decrease) in cash and
cash equivalents - 202,929 (22,667) - 180,262
Cash and cash equivalents at
beginning of period - 68,956 60,383 - 129,339
-------------- ------------- -------------- ----------- -----------
Cash and cash equivalents at end
of period $ - $ 271,885 $ 37,716 $ - $ 309,601
============== ============= ============== =========== ===========
-26-
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)
NOTE 15 - SUPPLEMENTAL GUARANTOR/NON-GUARANTOR FINANCIAL INFORMATION
(continued)
Condensed Consolidating Statements of Cash Flows
Nine Months Ended November 22, 2003
Parent Guarantor Non-Guarantor Eliminating
Company Subsidiaries Subsidiaries Entries Consolidated
-------------- ------------- ------------- ----------- ------------
(Dollars in thousands)
Net cash provided by operating
activities $ - $ 253,810 $ 56,508 $ (382) $ 309,936
Investing Activities
Purchases of systems, equipment
and other assets relating to
contracts - (200,454) (11,795) 382 (211,867)
Acquisitions (net of cash acquired) - (40,426) (33,748) - (74,174)
Refundable performance deposit - - (20,000) - (20,000)
License fee - (12,500) - - (12,500)
Purchases of property, plant
and equipment - (8,506) - - (8,506)
Investments in and advances to
unconsolidated subsidiaries - (1,185) - - (1,185)
------------- ------------ ------------- ---------- -----------
Net cash used for investing
activities - (263,071) (65,543) 382 (328,232)
Financing Activities
Net proceeds from issuance
of long-term debt - 249,617 1,521 - 251,138
Principal payments on long-term
debt - (27,759) (3,929) - (31,688)
Proceeds from stock options 22,068 - - - 22,068
Dividends paid (19,928) - - - (19,928)
Intercompany capital transactions (3,222) (30,526) 33,748 - -
Other 1,082 (430) (2,846) - (2,194)
------------- ------------ ------------- ---------- -----------
Net cash provided by
financing activities - 190,902 28,494 - 219,396
Effect of exchange rate changes
on cash - 188 3,074 - 3,262
------------- ------------ ------------- ---------- -----------
Increase in cash and cash
equivalents - 181,829 22,533 - 204,362
Cash and cash equivalents at
beginning of period - 88,739 27,435 - 116,174
------------- ------------ ------------- ---------- -----------
Cash and cash equivalents at end
of period $ - $ 270,568 $ 49,968 $ - $ 320,536
============= ============ ============= ========== ===========
-27-
Item 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS
OVERVIEW
The following Management's Discussion and Analysis ("MD&A") is intended to help
the reader understand the financial results of GTECH Holdings Corporation. MD&A
is provided as a supplement to, and should be read in conjunction with, our
financial statements and the accompanying notes. This overview provides guidance
on the individual sections of MD&A as follows:
- - FORWARD-LOOKING STATEMENTS - cautionary information about
forward-looking statements.
- - OUR BUSINESS - a general description of our business; Brazilian legal
proceedings; acquisitions; our common stock split and treasury stock
retirement; and new accounting pronouncements.
- - OPERATIONS REVIEW - an analysis of our consolidated results of
operations for the three and nine month periods ended November 27, 2004
and November 22, 2003 presented in our financial statements. We operate
in one business - Transaction Processing, and we have a single
operating and reportable business segment. Therefore, our discussions
are not quantified by segment results.
- - LIQUIDITY, CAPITAL RESOURCES AND FINANCIAL POSITION - an analysis of
cash flows, financial position, and commitments.
- - FINANCIAL RISK MANAGEMENT AND DIVIDEND POLICY - information about
financial risk management; interest rate market risk; equity price
risk; foreign currency exchange rate risk; and our dividend policy.
- - SUBSEQUENT EVENT - information about an agreement to acquire a 50%
controlling equity position in the Atronic group of companies that
occurred subsequent to November 27, 2004.
Unless specified otherwise, we use the terms "Holdings," "the Company," "we,"
"our," and "us" in MD&A to refer to GTECH Holdings Corporation and its
consolidated subsidiaries included in the consolidated financial statements.
FORWARD-LOOKING STATEMENTS
Statements contained in this section and elsewhere in this report which are not
historical statements constitute "forward-looking statements" within the meaning
of Section 27A of the Securities Act and Section 21E of the Securities Exchange
Act of 1934. Generally, the words "believe," "expect," "estimate," "anticipate,"
"will," "may," "could," "plan," "continue" and similar expressions identify
forward-looking statements. Such statements include, without limitation,
statements relating to:
- - the future prospects for and stability of the lottery industry and
other businesses in which we are engaged or expect to be engaged;
- - our future operating and financial performance (including, without
limitation, expected future growth in revenues, profit margins and
earnings per share);
- - our ability to retain existing contracts and to obtain and retain new
contracts; and
- - the results and effects of legal proceedings and investigations.
-28-
These forward-looking statements reflect management's assessment based on
information currently available, but are not guarantees and are subject to risks
and uncertainties that could cause actual results to differ materially from
those contemplated in the forward-looking statements. These risks and
uncertainties include, among other things, the following:
- - government regulations and other actions affecting the online lottery
industry could have a negative effect on our business and sales;
- - we may be subject to adverse determinations in pending legal
proceedings (including previously announced legal proceedings in
Brazil) which could result in substantial monetary judgments or
reputational damage;
- - our lottery operations are dependent upon our continued ability to
retain and extend our existing contracts and win new contracts;
- - slow growth or declines in sales of online lottery goods and services
could lead to lower revenues and cash flow;
- - we derive close to half of our revenues from foreign jurisdictions
(including over ten percent in fiscal 2004 from Brazilian operations)
and are subject to the economic, political and social instability risks
of doing business in foreign jurisdictions;
- - our results of operations are exposed to foreign currency exchange rate
fluctuations which could result in lower revenues, net income and cash
flows when such results are translated into U.S. dollar accounts;
- - we have a concentrated customer base and the loss of any of our larger
customers (or lower sales from any of these customers) could lead to
lower revenue;
- - our quarterly operating results may fluctuate significantly, including
as a result of variations in the amount and timing of product sales,
the occurrence of large jackpots in lotteries (which increase the
amount wagered and our revenue) and expenses incurred in connection
with lottery start-ups;
- - we operate in a highly competitive environment and increased
competition may cause us to experience lower cash flows or to lose
contracts;
- - we are subject to substantial penalties for failure to perform under
our contracts;
- - we may not be able to respond to technological changes or to satisfy
future technology demands of our customers, in which case we could fall
behind our competitors;
- - if we are unable to manage potential risks related to acquisitions, our
business and growth prospects could suffer;
- - expansion of the gaming industry faces opposition which could limit our
access to some markets;
- - our business prospects and future success depend upon our ability to
attract and retain qualified employees;
- - our business prospects and future success rely heavily upon the
integrity of our employees and executives and the security of our
systems;
- - our dependence on certain suppliers creates a risk of implementation
delays if the supply contract is terminated or breached, and any delays
may result in substantial penalties;
- - our non-lottery ventures, which are an increasingly important aspect of
our business, may fail; and
- - other risks and uncertainties set forth below and elsewhere in this
report, in our fiscal 2004 Form 10-K, and in our subsequent press
releases and Form 10-Q's and other reports and filings with the
Securities and Exchange Commission.
The foregoing list of important factors is not all-inclusive.
-29-
OUR BUSINESS
GENERAL
We operate on a 52-week or 53-week fiscal year ending on the last Saturday in
February and fiscal 2005 is a 52-week year that ends on February 26, 2005.
Fiscal 2004 was a 53-week year and we included the extra week in our fourth
quarter ended February 28, 2004.
We are a global technology services company providing software, networks and
professional services that power high-performance solutions. We are the world's
leading operator of highly-secure online lottery transaction processing systems,
doing business in 52 countries worldwide and we have a growing presence in
commercial gaming technology ("Gaming solutions") and financial services
transaction processing ("Commercial services"). A comparison of our revenue
concentration is as follows:
Nine Months
Ended
November 27, Fiscal Fiscal
Consolidated Revenues 2004 2004 2003
- --------------------- -------------- ------------- --------------
Lottery 87% 91% 93%
Commercial services 7% 7% 5%
Gaming solutions 6% 2% 2%
--- --- ---
100% 100% 100%
=== === ===
Being a global business, we derive a substantial portion of our revenue from our
operations outside of the United States. In particular, in fiscal 2004, we
derived 49.4% of our revenues from international operations and 10.2% of our
revenues from our Brazilian operations alone (including 9.7% of our revenues
from Caixa Economica Federal, the operator of Brazil's National Lottery, our
largest customer in fiscal 2004 based on annual revenues). In addition,
substantial portions of our assets, primarily consisting of equipment we use to
operate online lottery systems for our customers, are held outside of the United
States. We are also exposed to more general risks of international operations,
including increased governmental regulation of the online lottery industry in
the markets where we operate; exchange controls or other currency restrictions;
and significant political instability.
We have derived substantially all of our revenues from the rendering of services
and the sale or supply of computerized online lottery systems and components to
government-authorized lotteries. Our service revenues are derived primarily from
lottery service contracts, which are typically at least five years in duration,
and generally provide compensation to us based upon a percentage of a lottery's
gross online and instant ticket sales. These percentages vary depending on the
size of the lottery and the scope of services provided to the lottery. We
primarily derive product sale revenues from the installation of new online
lottery systems, installation of new software and sales of lottery terminals and
equipment in connection with the expansion of existing lottery systems. Our
product margins fluctuate depending on the mix, volume and timing of product
sale contracts. Our product sale revenues from period to period may not be
comparable due to the size and timing of product sale transactions. During
fiscal 2005, we currently anticipate that product sales will be in the range of
$240 million to $250 million.
-30-
Our compensation under lottery service contracts is typically based upon a
percentage of a lottery's gross online and instant ticket sales. Over the past
several fiscal years, we have experienced and may continue to experience a
reduction in the percentage of lottery ticket sales we receive from certain
customers resulting from contract rebids, extensions and renewals due to a
number of factors, including the substantial growth of lottery sales over the
last decade, reductions in the cost of technology and telecommunications
services, and general market and competitive dynamics. In anticipation and
response to these trends, beginning in fiscal 2001, we began the implementation
of our new Enterprise Series-led technology strategy combined with the
implementation of a number of ongoing cost savings initiatives and efficiency
improvement programs designed to enable us to maintain our market leadership in
the lottery industry. We are unable to determine at this time the likely effect
of this trend on our business.
Our business is highly regulated, and the competition to secure new government
contracts is often intense. In addition, our ability to consummate the
acquisition, which we announced in December 2004 (after the close of our fiscal
2005 third quarter), of a 50 percent controlling equity interest in the Atronic
group of companies, one of the world's five largest manufacturers of slot
machines, and to otherwise expand our business in non-lottery gaming markets, is
contingent upon obtaining required gaming licenses. From time to time,
competitors challenge our contract awards and there have been, and may continue
to be, investigations of various types, including grand jury investigations
conducted by government authorities into possible improprieties and wrongdoing
in connection with efforts to obtain and/or the awarding of lottery contracts
and related matters. Because such investigations frequently are conducted in
secret, we may not necessarily know of the existence of an investigation which
might involve us. Because our reputation for integrity is an important factor in
our business dealings with lottery, gaming licensing, and other governmental
agencies, a governmental allegation or a finding of improper conduct o