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U.S. SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
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FORM 10-Q
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(MARK ONE)
[X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(D) OF THE SECURITIES AND
EXCHANGE ACT OF 1934
FOR THE QUARTERLY PERIOD ENDED JUNE 2, 2002
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(D) OF THE SECURITIES AND
EXCHANGE ACT OF 1934
FOR THE TRANSITION PERIOD FROM _____ TO _____
COMMISSION FILE NUMBER 0-16986
ACCLAIM ENTERTAINMENT, INC.
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(Exact name of the registrant as specified in its charter)
DELAWARE 38-2698904
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(State or other jurisdiction (I.R.S. Employer
of incorporation or Identification No.)
organization)
ONE ACCLAIM PLAZA, GLEN COVE, NEW YORK 11542
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(Address of principal executive offices)
(516) 656-5000
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(Registrant's telephone number)
SECURITIES REGISTERED PURSUANT TO SECTION 12(B) OF THE ACT: NONE
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SECURITIES REGISTERED PURSUANT TO SECTION 12(G) OF THE ACT:
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COMMON STOCK, $0.02 PAR VALUE
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(Title of class)
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 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 [ ]
As of July 10, 2002, 92,463,838 shares of Common Stock of the
Registrant were issued and outstanding.
ACCLAIM ENTERTAINMENT, INC
INDEX TO REPORT ON FORM 10-Q FILED WITH
THE SECURITIES AND EXCHANGE COMMISSION
PAGE
----
PART I. FINANCIAL INFORMATION
Item 1. Consolidated Financial Statements (Unaudited, except where otherwise noted).............................. 3
Consolidated Balance Sheets - June 2, 2002 and August 31, 2001 (Audited)................................. 3
Consolidated Statements of Operations - Three months and nine months ended June 2, 2002
and 2001................................................................................................. 4
Consolidated Statements of Stockholders' Equity (Deficit) - Nine months ended June 2, 2002............... 5
Consolidated Statements of Cash Flows - Nine months ended June 2, 2002 and 2001.......................... 6
Notes to Consolidated Financial Statements............................................................... 8
Item 2. Management's Discussion and Analysis of Financial Condition and Results
of Operations.......................................................................................... 20
Item 3. Quantitative and Qualitative Disclosures About Market Risk............................................... 44
PART II OTHER INFORMATION
Item 1. Legal Proceedings........................................................................................ 45
Item 6. Exhibits and Reports on Form 8-K......................................................................... 46
ACCLAIM ENTERTAINMENT, INC. AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
(IN THOUSANDS, EXCEPT PER SHARE DATA)
JUNE 2, AUGUST 31,
2002 2001
----------- ---------
(Unaudited)
ASSETS
CURRENT ASSETS
Cash and cash equivalents ............................... $ 40,704 $ 26,797
Accounts receivable, net ................................ 66,268 46,704
Other receivables ....................................... 7,564 2,370
Inventories ............................................. 6,440 4,043
Prepaid expenses ........................................ 7,959 4,816
--------- ---------
TOTAL CURRENT ASSETS ........................................ 128,935 84,730
--------- ---------
Fixed assets, net ....................................... 30,225 32,645
Other assets ............................................ 15,135 8,255
--------- ---------
TOTAL ASSETS ................................................ $ 174,295 $ 125,630
========= =========
LIABILITIES AND STOCKHOLDERS' EQUITY (DEFICIT)
CURRENT LIABILITIES
Convertible notes ....................................... $ -- $ 29,225
Short-term borrowings ................................... 37,629 25,428
Trade accounts payable .................................. 30,703 33,630
Accrued expenses ........................................ 31,670 31,582
Accrued selling expenses ................................ 9,244 7,284
Income taxes payable .................................... 921 694
--------- ---------
TOTAL CURRENT LIABILITIES ................................... 110,167 127,843
--------- ---------
LONG-TERM LIABILITIES
Long-term debt .......................................... 4,570 4,973
Bank participation advance .............................. 9,500 9,500
Other long-term liabilities ............................. 2,873 3,669
--------- ---------
TOTAL LIABILITIES ........................................... 127,110 145,985
--------- ---------
STOCKHOLDERS' EQUITY (DEFICIT)
Preferred stock, $0.01 par value; 1,000 shares
authorized; none issued ............................. -- --
Common stock, $0.02 par value; 200,000 shares authorized;
92,276 and 77,279 shares issued, respectively ..... 1,846 1,546
Additional paid-in capital .............................. 311,136 267,436
Accumulated deficit ..................................... (263,876) (287,573)
Accumulated other comprehensive loss .................... (1,921) (1,764)
--------- ---------
TOTAL STOCKHOLDERS' EQUITY (DEFICIT) ........................ 47,185 (20,355)
--------- ---------
TOTAL LIABILITIES AND STOCKHOLDERS' EQUITY (DEFICIT) ........ $ 174,295 $ 125,630
========= =========
See notes to consolidated financial statements.
3
ACCLAIM ENTERTAINMENT, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF OPERATIONS
(IN THOUSANDS, EXCEPT PER SHARE DATA)
(UNAUDITED)
THREE MONTHS ENDED NINE MONTHS ENDED
JUNE 2, JUNE 2,
----------------------- -----------------------
2002 2001 2002 2001
--------- --------- --------- ---------
Net revenues ................................ $ 62,863 $ 38,642 $ 214,633 $ 151,039
Cost of revenues ............................ 26,691 11,264 85,164 48,918
--------- --------- --------- ---------
Gross profit ................................ 36,172 27,378 129,469 102,121
--------- --------- --------- ---------
Operating expenses
Marketing and selling ................... 13,068 8,927 39,335 24,786
General and administrative .............. 10,413 9,530 31,894 29,900
Research and development ................ 9,367 6,492 28,211 29,480
--------- --------- --------- ---------
Total operating expenses .................... 32,848 24,949 99,440 84,166
--------- --------- --------- ---------
Earnings from operations .................... 3,324 2,429 30,029 17,955
Other income (expense)
Interest income ......................... 226 30 664 362
Interest expense ........................ (1,393) (2,526) (6,571) (7,889)
Other income (expense) .................. 403 320 (148) 1,371
--------- --------- --------- ---------
Total other expense ......................... (764) (2,176) (6,055) (6,156)
--------- --------- --------- ---------
Earnings before income taxes ................ 2,560 253 23,974 11,799
Income tax provision (benefit) .............. 25 10 (944) 208
--------- --------- --------- ---------
Earnings before extraordinary gain (loss) ... 2,535 243 24,918 11,591
Extraordinary gain (loss) on early
retirement of debt ...................... -- 7,124 (1,221) 7,124
--------- --------- --------- ---------
Net earnings ................................ $ 2,535 $ 7,367 $ 23,697 $ 18,715
========= ========= ========= =========
Basic per share data:
Earnings before extraordinary gain (loss) $ 0.03 $ -- $ 0.30 $ 0.20
Extraordinary gain (loss) ............... -- 0.12 (0.02) 0.13
--------- --------- --------- ---------
Net earnings ............................ $ 0.03 $ 0.12 $ 0.28 $ 0.33
========= ========= ========= =========
Diluted per share data:
Earnings before extraordinary gain (loss) $ 0.03 $ -- $ 0.28 $ 0.20
Extraordinary gain (loss) ............... -- 0.12 (0.01) 0.12
--------- --------- --------- ---------
Net earnings ............................ $ 0.03 $ 0.12 $ 0.27 $ 0.32
========= ========= ========= =========
See notes to consolidated financial statements.
4
ACCLAIM ENTERTAINMENT, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF STOCKHOLDERS' EQUITY (DEFICIT)
(IN THOUSANDS)
COMMON STOCK
ISSUED ADDITIONAL
PREFERRED STOCK -------------------- PAID-IN
ISSUED SHARES AMOUNT CAPITAL
--------------- -------- --------- ---------
BALANCE AT AUGUST 31, 2001 ...................... $ -- 77,279 $ 1,546 $ 271,031
Net earnings ................................. -- -- -- --
Issuances of common stock in private placement -- 7,167 143 19,642
Issuances of common stock for exercises
of warrants by executive officers ........ -- 1,125 23 3,352
Issuances of common stock in
connection with note
retirements and conversions .............. -- 5,039 101 18,729
Exercise of stock options and warrants ....... -- 2,053 41 4,631
Cancellations of common stock ................ (551) (11) 11
Warrants issued and other non-cash charges
in connection with supplemental bank loan . -- -- -- 732
Expenses incurred in connection with
issuances of common stock ................ -- -- -- (287)
Issuance of common stock under
employee stock purchase plan ............. -- 164 3 242
Foreign currency translation loss ............ $ -- -- -- --
------------- -------- --------- ---------
BALANCE AT JUNE 2, 2002 ** ...................... $ -- 92,276 $ 1,846 $ 318,083
============= ======== ========= =========
ACCUMULATED
OTHER
NOTES ACCUMULATED COMPREHENSIVE COMPREHENSIVE
RECEIVABLE DEFICIT LOSS TOTAL INCOME
------------ ------------ ------------- ---------- -------------
BALANCE AT AUGUST 31, 2001 ...................... $ (3,595) $(287,573) $ (1,764) $ (20,355)
Net earnings ................................. -- 23,697 -- 23,697 23,697
Issuances of common stock in private placement -- -- -- 19,785
Issuances of common stock for exercises
of warrants by executive officers ........ (3,352) -- -- 23
Issuances of common stock in
connection with note
retirements and conversions .............. -- -- -- 18,830
Exercise of stock options and warrants ....... -- -- -- 4,672 --
Cancellations of common stock ................ -- -- --
Warrants issued and other non-cash charges --
in connection with supplemental bank loan . -- -- -- 732 --
Expenses incurred in connection with
issuances of common stock ................ -- -- -- (287) --
Issuance of common stock under
employee stock purchase plan ............. -- -- -- 245
Foreign currency translation loss ............ -- -- (157) (157) (157)
------------ ------------ ------------- ---------- -------------
BALANCE AT JUNE 2, 2002 ** ...................... $ (6,947) $(263,876) $ (1,921) $ 47,185 $ 23,540
============ ============ ============= ========== =============
** Amounts for the nine months ended June 2, 2002 are unaudited.
See notes to consolidated financial statements.
5
ACCLAIM ENTERTAINMENT, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
(IN THOUSANDS)
(UNAUDITED)
NINE MONTHS ENDED
JUNE 2,
---------------------
2002 2001
-------- --------
CASH FLOWS FROM OPERATING ACTIVITIES
NET EARNINGS .............................................................. $ 23,697 $ 18,715
ADJUSTMENTS TO RECONCILE NET EARNINGS TO NET CASH PROVIDED BY
(USED IN) OPERATING ACTIVITIES
Depreciation and amortization ........................................ 6,289 6,744
Non-cash financing expense ........................................... 1,311 186
Extraordinary loss (gain) on early retirement of 10% convertible notes 1,221 (7,124)
Provision for returns and price concessions, net ..................... 21,626 7,856
Deferred compensation expense ........................................ -- 313
Non-cash royalty charges ............................................. -- 1,401
Amortization of capitalized software development costs ............... 7,268 842
Other non-cash items ................................................. (342) (31)
CHANGE IN ASSETS AND LIABILITIES
Accounts receivable .................................................. (41,926) (22,692)
Other receivables .................................................... (4,394) 2,516
Inventories .......................................................... (2,660) 43
Prepaid expenses ..................................................... (2,795) 5,262
Accounts payable ..................................................... (2,913) (3,862)
Accrued expenses ..................................................... 3,366 (16,017)
Income taxes ......................................................... 231 (46)
Other long-term liabilities .......................................... (795) 119
------- -------
TOTAL ADJUSTMENTS ......................................................... (14,513) (24,490)
------- -------
NET CASH PROVIDED BY (USED IN) OPERATING ACTIVITIES ....................... 9,184 (5,775)
------- -------
CASH FLOWS FROM INVESTING ACTIVITIES
Acquisition of fixed assets ............................................... (3,686) (286)
Disposal of fixed assets .................................................. 6 1,235
Capitalized software development costs .................................... (15,290) (3,543)
Other assets .............................................................. (176) (298)
Disposal of other assets .................................................. -- 1
------- -------
NET CASH USED IN INVESTING ACTIVITIES ..................................... (19,146) (2,891)
------- -------
See notes to consolidated financial statements.
6
ACCLAIM ENTERTAINMENT, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
(IN THOUSANDS)
(UNAUDITED)
NINE MONTHS ENDED
JUNE 2,
---------------------
2002 2001
-------- --------
CASH FLOWS FROM FINANCING ACTIVITIES
Proceeds from bank participation advance ................................ -- 9,500
Repayment of convertible notes .......................................... (12,190) (5,997)
Payment of mortgages .................................................... (834) (798)
Proceeds from/(payment of) short-term bank loans, net ................... 12,659 (2,814)
Proceeds from exercises of stock options and warrants ................... 4,672 7
Payment of obligations under capital leases ............................. (322) (20)
Proceeds from issuances of common stock ................................. 19,808 4,834
Proceeds from issuance of common stock under employee stock purchase plan 245 108
-------- --------
NET CASH PROVIDED BY FINANCING ACTIVITIES ............................... 24,038 4,820
-------- --------
EFFECT OF EXCHANGE RATE CHANGES ON CASH ................................. (169) (144)
-------- --------
NET INCREASE (DECREASE) IN CASH AND CASH EQUIVALENTS .................... 13,907 (3,990)
-------- --------
CASH AND CASH EQUIVALENTS: BEGINNING OF PERIOD .......................... 26,797 6,738
-------- --------
CASH AND CASH EQUIVALENTS: END OF PERIOD ................................ $ 40,704 $ 2,748
======== ========
Supplemental schedule of non cash investing and financing activities:
Issuance of common stock for payment of accrued royalties payable . $ -- $ 398
Issuance of common stock for payment of convertible
notes and related accrued interest ........................... $ 13,309 $ --
Acquisition of equipment under capital leases ..................... $ 305 $ --
Conversion of notes to common stock ............................... $ 4,300 $ --
Cash paid during the period for:
Interest .......................................................... $ 7,836 $ 7,889
Income taxes ...................................................... $ 605 $ 194
See notes to consolidated financial statements.
7
ACCLAIM ENTERTAINMENT, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(IN THOUSANDS, EXCEPT PER SHARE DATA)
(UNAUDITED)
1. BASIS OF PRESENTATION AND BUSINESS
A. BASIS OF PRESENTATION AND CHANGE IN QUARTER-END
The accompanying unaudited consolidated financial statements include
the accounts of Acclaim Entertainment, Inc. and its wholly owned subsidiaries
(collectively, the "Company" or "Acclaim"). These financial statements have been
prepared in accordance with generally accepted accounting principles for interim
financial information and with the instructions to Form 10-Q and Article 10 of
Regulation S-X. Accordingly, they do not include all the information and notes
required by generally accepted accounting principles for complete financial
statements. In the opinion of management, all necessary adjustments, consisting
only of normal recurring adjustments, have been included in the accompanying
unaudited consolidated financial statements. All significant intercompany
transactions and balances have been eliminated in consolidation. Operating
results for the three and nine months ended June 2, 2002 are not necessarily
indicative of the results that may be expected for the full year ending August
31, 2002. For further information, refer to the consolidated financial
statements and notes thereto, which are included in the Company's Annual Report
on Form 10-K for the year ended August 31, 2001, and other filings with the
Securities and Exchange Commission.
The Company moved its quarterly closing dates from the Saturday closest
to the last day of the calendar quarter to the Sunday closest to the last day of
the calendar quarter effective for the three months ended December 2, 2001. This
change contributed approximately $5,901 and $8,372 of gross revenues for the
three and nine months ended June 2, 2002, respectively, but will have no effect
on the Company's gross revenue or net earnings for the year ending August 31,
2002. The Company's fiscal year-end date (August 31) remains unchanged. The
quarterly closing dates for the current quarter and the remaining quarters of
fiscal 2002 are as follows:
QUARTER FISCAL YEAR 2002 FISCAL YEAR 2001
--------------------- ----------------------- -----------------------
Third June 2, 2002 June 2, 2001
Fourth August 31, 2002 August 31, 2001
B. BUSINESS AND LIQUIDITY
The Company develops, publishes, distributes and markets under its
brand names, video and computer game software on a worldwide basis for popular
interactive entertainment consoles, such as Sony's PlayStation and PlayStation
2, Nintendo's Game Boy Advance and GameCube and Microsoft's Xbox, and, to a
lesser extent, PCs. The Company develops its own software in its six software
development studios located in the U.S. and the U.K., including a motion capture
studio and a recording studio in the U.S. The Company also contracts with
independent software developers to create software for the Company. The Company
distributes its software directly through its subsidiaries in North America, the
U.K., Germany, France, Spain and Australia. The Company also utilizes regional
distributors outside those geographic areas. The Company also distributes
software developed and published by third parties, develops and publishes
strategy guides relating to its software and issues "special edition" comic
magazines, from time to time, to support its time valued brands, Turok and
Shadow Man.
8
ACCLAIM ENTERTAINMENT, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
(IN THOUSANDS, EXCEPT PER SHARE DATA)
(UNAUDITED)
At August 31, 2001, the Company's independent auditors' report, as
prepared by KPMG LLP and dated October 23, 2001, which appeared in the Company's
2001 Form 10-K, included an explanatory paragraph relating to the substantial
doubt about the Company's ability to continue as a going concern, due to its
working capital and stockholders' deficits at August 31, 2001 and the recurring
use of cash in operating activities. Since the date of the auditors' report, the
Company has retired $12,735 in principal amount of its convertible subordinated
notes and converted $4,300 in principal amount of its convertible subordinated
notes into shares of its common stock. The Company also repaid the remaining
$12,190 principal amount of the notes in full on March 1, 2002. Additionally, in
that same time frame, the Company completed a private placement of its common
stock yielding net proceeds to the Company of $19,785 and continued to maintain
profitable operations. These factors have improved the Company's working capital
position and eliminated its stockholders' deficit. Management believes that the
Company's improved working capital position and stockholders' equity have
contributed to its ability to continue as a going concern. In fiscal 2001, the
Company improved profitability by the strategic transformation of its operating
business model from cartridge-based product to CD-based product. This
transformation improved the Company's gross margins by lowering product costs,
reducing inventory levels by reducing product manufacturing time and improving
inventory turnover. The Company implemented expense reduction initiatives in the
second half of fiscal 2000 that continued into fiscal 2001. These expense
reduction initiatives reduced the Company's fixed and variable expenses
Company-wide, eliminated certain marginal titles which were then under
development, reduced staff and lowered marketing expenses. In fiscal 2001,
operating expenses were reduced by $90,960 as compared to the prior year. As a
result, the Company experienced net earnings for fiscal 2001 as compared to a
significant net loss the prior year. During the nine months ended June 2, 2002,
the Company has continued to achieve profitable operations.
The Company manages short-term liquidity requirements through
borrowings under its revolving credit and security agreement (the "North
American Credit Agreement") with its primary lender (the "Bank") and under
international factoring agreements with the Bank's U.K. affiliate (the "U.K.
Bank"), from which the Company received aggregate net advances of $17,659 during
the nine months ended June 2, 2002. To enhance its long-term liquidity, during
the nine months ended June 2, 2002, the Company raised net proceeds of $19,785
in a private placement of its common stock and retired $12,735 of 10%
convertible subordinated notes through the issuance of its common stock (please
see note 6). Also during fiscal 2001, to further enhance its long-term
liquidity, the Company implemented a targeted expense reduction program, which
included a significant reduction in staff, and raised net proceeds of (i)
$31,534 in a private placement of common stock, (ii) $4,834 from other sales of
common stock and (iii) $9,500 from the Bank in connection with a loan
participation transaction between the Bank and certain other lenders (please see
note 4E). The Company's future long-term liquidity is significantly dependent on
its ability to timely develop and market new software products which achieve
widespread market acceptance for use with the current hardware platforms
dominating the market.
C. ESTIMATES
In the three and nine months ended June 2, 2002, net revenues and net
earnings increased by $351 and $627, respectively, due to the Company's
reduction of the August 31, 2001 allowances for estimated returns and price
concessions as such allowances were not required based on the related products'
sell-through in the retail channel.
D. ACCRUED EXPENSES
In the first and third quarter of fiscal 2002, the Company's
obligations ceased under certain expired intellectual property agreements and,
accordingly, accrued expenses and marketing and selling expenses were reduced by
$4,400 and $500, respectively.
9
ACCLAIM ENTERTAINMENT, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
(IN THOUSANDS, EXCEPT PER SHARE DATA)
(UNAUDITED)
E. RECLASSIFICATIONS
Certain reclassifications were made to prior period amounts to conform
to the current period presentation.
2. ACCOUNTS RECEIVABLE
Accounts receivable are comprised of the following:
JUNE 2, AUGUST 31,
2002 2001
--------- -----------
Assigned receivables due from factor ............... $60,290 $42,845
Unfactored accounts receivable ..................... 11,829 20,706
Less: Allowances for returns and price concessions . (5,851) (16,847)
------- --------
Accounts receivable, net ........................... $66,268 $46,704
======= =======
The Company and the Bank are parties to a certain factoring agreement
(the "Factoring Agreement") which expires on January 31, 2003. The Factoring
Agreement provides for automatic renewals for additional one-year periods,
unless terminated by either party upon 90 days' prior notice. Pursuant to the
Factoring Agreement, the Company assigns to the Bank and the Bank purchases from
the Company, the Company's U.S. accounts receivable. As a result, the Bank
remits payments to the Company with respect to assigned U.S. accounts receivable
that are within the financial parameters set forth in the Factoring Agreement
including meeting approved credit limits and not being in dispute by the
customer. The purchase price of the assigned accounts receivable is the invoiced
amount, which is adjusted for any returns, discounts and other customer credits
or allowances. The Bank, in its discretion, may provide advances to the Company
under the North American Credit Agreement (please see note 4) taking into
account, among other things, eligible receivables due from the Bank as factor
under the Factoring Agreement. At June 2, 2002, the Bank was making advances to
the Company based on 60% of the eligible receivables due from the Bank. As of
June 2, 2002, the factoring charge amounted to 0.25% of the assigned accounts
receivable with invoice payment terms of up to 60 days and an additional 0.125%
for each additional 30 days or portion thereof.
3. OTHER RECEIVABLES
Other receivables are comprised of the following:
JUNE 2, AUGUST 31,
2002 2001
----------- ------------
Federal tax receivable ..................... $1,645 $ --
Foreign value added tax credit ............. 1,611 1,204
Contractual resolution ..................... 1,500 --
Royalty recovery ........................... 1,415 --
Notes receivable and accrued interest
due from officers (note 7) ........... 938 773
Other ...................................... 455 393
------ ------
Other receivables .......................... $7,564 $2,370
====== ======
10
ACCLAIM ENTERTAINMENT, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
(IN THOUSANDS, EXCEPT PER SHARE DATA)
(UNAUDITED)
4. DEBT
Debt consists of the following:
JUNE 2, AUGUST 31,
2002 2001
--------- -----------
SHORT TERM DEBT:
10% Convertible Subordinated Notes (A) ........... $ -- $29,225
Mortgage notes (B) ............................... 802 1,270
Obligations under capital leases ................. 546 536
Supplemental bank loan (C) ....................... 5,000 10,000
Advances from International factor (D) ........... 3,465 6,273
Advances from North America factor (note 2) ...... 27,816 7,349
------- -------
37,629 54,653
------- -------
LONG TERM DEBT:
Mortgage notes (B) ............................... 4,036 4,396
Obligations under capital leases ................. 534 577
Bank participation advance (E) ................... 9,500 9,500
------- -------
14,070 14,473
------- -------
$51,699 $69,126
======= =======
(A) In February 1997, the Company issued $50,000 of unsecured 10%
convertible subordinated notes (the "Notes") with a maturity date of March 1,
2002 and interest payable semiannually. On March 1, 2002, the Company repaid the
remaining $12,190 principal balance outstanding on the Notes plus the accrued
interest due thereon. The Notes were convertible into shares of common stock
prior to maturity at a conversion price of $5.18 per share.
In March and April 2001, the Company retired, through repurchase, a
total of $13,875 in principal amount of the Notes for an aggregate purchase
price of approximately $6,751. Concurrently with the Note repurchases, the
Company sold a total of 3,147 shares of its common stock to those same Note
holders for $3,934, based on a purchase price of $1.25 per share. The $6,751
purchase price of the Notes included $754 for the excess of the fair value of
the common stock at issuance over the price paid by the Note holders, plus
$5,997 of cash paid by the Company (including the use of the proceeds from the
stock sale). As a result of this Note retirement, the Company recorded an
extraordinary gain of approximately $7,124 in the third quarter of fiscal 2001.
Additionally, due to the delayed effectiveness of the Company's registration
statement filed with the SEC, which covered the resale of the common stock
purchased by those former Note holders, the Company was required to issue a
total of 750 shares of common stock to certain of those former Note holders.
This issuance resulted in an extraordinary charge of approximately $2,798 in the
fourth quarter of fiscal 2001, reflecting the fair value of the additional
shares of common stock issued. On December 12, 2001, the SEC declared the
Company's registration statement effective.
In June 2001, the Company retired $6,650 in principal amount of the
Notes, plus the accrued interest thereon of approximately $193, in exchange for
2,022 shares of its common stock. The excess of the $7,198 fair value of the
shares issued, over the principal amount of the Notes retired and the accrued
interest thereon of $355, was recorded as an extraordinary loss on the early
retirement of the Notes in the fourth quarter of fiscal 2001.
In August 2001, due to the delayed effectiveness of the Company's
registration statement filed with the SEC, which covered the resale of the
common stock issued in connection with the early retirement of the Notes, the
Company issued 250 shares of its common stock to one former Note holder. The
fair value of the shares of
11
ACCLAIM ENTERTAINMENT, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
(IN THOUSANDS, EXCEPT PER SHARE DATA)
(UNAUDITED)
common stock issued was $1,176 and was recorded as an extraordinary charge in
the fourth quarter of fiscal 2001. As a result of all the fiscal 2001
transactions related to Note retirements, the Company had a net extraordinary
gain of $2,795 in fiscal 2001.
In February 2002, the Company retired $3,400 in principal amount of the
Notes plus accrued interest thereon of approximately $149 in exchange for 956
shares of its common stock. Also in February 2002, the Company retired an
additional $9,335 in principal amount of the Notes plus accrued interest thereon
of approximately $425 in exchange for 3,253 shares of its common stock. During
the second quarter of fiscal 2002, the Company recorded an aggregate
extraordinary loss of $1,221 on the early retirement of the Notes, reflecting
the aggregate excess of the fair value of the shares issued of $14,530 over the
principal amount of the Notes retired plus the accrued interest thereon.
During the second quarter of fiscal 2002, pursuant to the indenture
governing the Notes, an aggregate of $4,300 in principal amount of the Notes was
converted into 830 shares of common stock of the Company, at a conversion price
of $5.18 per share.
(B) The Company had a mortgage note which was secured by the Company's
corporate headquarters building in the U.S. requiring quarterly principal
payments of $181 through February 1, 2002, plus interest at the mortgagor's
prime lending rate plus 1.00% per annum (8.25% at August 31, 2001). On March 6,
2002, the Company repaid the principal balance outstanding on the mortgage note.
At August 31, 2001 the balance outstanding under the mortgage note was $471.
During the fourth quarter of fiscal 2001, as additional security for the
supplemental loans (as described below), the Company granted the Bank a second
mortgage on its headquarters building.
The Company granted the U.K. Bank a mortgage in connection with its
seven-year term secured credit facility, which was entered into in March 2000
with the U.K. Bank and which relates to the Company's purchase of a building in
the United Kingdom. The Company is required to make quarterly principal payments
pursuant to the secured credit facility of (pound)137.5 (approximately $200 at
June 2, 2002). Interest is charged on this facility at 2.00% above LIBOR (6.00%
at June 2, 2002; 7.22% at August 31, 2001). The principal balance outstanding
under this credit facility at June 2, 2002 and August 31, 2001 was (pound)3,319
(approximately $4,838) and (pound)3,574 (approximately $5,195), respectively.
The U.K. building is currently being held for sale by the Company.
(C) The Company and the Bank are parties to the North American Credit
Agreement which expires on August 31, 2003. This agreement provides for
automatic renewals for additional one-year periods, unless terminated by either
party upon 90 days' prior notice. Advances under the North American Credit
Agreement bear interest at 1.50% per annum above the Bank's prime rate (6.25% at
June 2, 2002; 8.25% at August 31, 2001). Certain borrowings in excess of an
availability formula bear interest at 2.00% above the Bank's prime rate. Under
the North American Credit Agreement, combined advances may not exceed a maximum
loan amount of $70,000 or the formula amount, whichever is less. The Company
draws down working capital advances and opens letters of credit against the
facility in amounts determined based on a formula which takes into account,
among other things, the Company's inventory, equipment and eligible receivables
due from the Bank, as its factor. Obligations under the North American Credit
Agreement are secured by substantially all of the Company's assets. Pursuant to
the terms of the North American Credit Agreement, the Company is required to
maintain, among other financial covenants, specified levels of working capital
and tangible net worth. As of June 2, 2002, the Company was in compliance with
respect to those financial covenants contained in the North American Credit
Agreement. The Company is presently in negotiations with the Bank to amend and
restate the North American Credit Agreement.
In each of April 2001 and June 2001, under the North American Credit
Agreement, the Bank advanced the Company a discretionary supplemental loan of
$5,000 above the standard formula for short-term funding, which amount was
repaid prior to August 31, 2001.
12
ACCLAIM ENTERTAINMENT, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
(IN THOUSANDS, EXCEPT PER SHARE DATA)
(UNAUDITED)
In July 2001, under the North American Credit Agreement, the Bank
advanced the Company another discretionary supplemental loan of $10,000 above
the standard formula for short-term funding, which was repaid on January 7,
2002.
On January 14, 2002, under the North American Credit Agreement, the
Bank advanced the Company a discretionary supplemental loan of $5,000 above the
standard formula for short-term funding, which was repaid on March 6, 2002.
In March and June of 2002, the Bank agreed to amend certain provisions
of the North American Credit Agreement to provide for a supplemental
discretionary loan of up to $5,000 above the standard borrowing formula which
amount was borrowed and is required to be repaid by July 15, 2002. The Company
is currently negotiating an extension of the repayment date with the Bank.
As additional security for the supplemental loans, two of the Company's
executive officers personally pledged as collateral an aggregate of 1,568 shares
of the Company's common stock with an approximate market value as of June 2,
2002 of $8,216. In the event the market value of such pledged stock (based on a
ten trading day average reviewed by the Bank monthly) decreases below $5,000 and
such officers do not deliver additional shares of common stock of the Company to
cover such shortfall, then the Bank is entitled to reduce the outstanding
supplemental loan by an amount equal to such shortfall. The shares pledged as
collateral as of June 2, 2002 included an aggregate of 317 shares of common
stock that the Company's officers pledged as additional collateral in October
2001 to cover a shortfall in the aggregate market value of the shares previously
pledged. The Bank will release the 1,568 shares of the Company's common stock
personally pledged by the officers following a 30-day period in which the
Company is not in an overformula position exceeding $1,000. The Company
estimates that the fair value of providing the collateral by its officers in
connection with the supplemental loan amounted to approximately $200. The
Company amortized this amount as a non-cash financing expense over the term of
the original supplemental loan, which ended on January 7, 2002. In connection
with the original supplemental loan, on October 31, 2001, the Company issued to
the Bank a five-year warrant to purchase 100 shares of its common stock at an
exercise price of $4.70 per share, the market price per share on the date of
issuance. The fair value of the warrant amounted to $419 and was amortized as a
non-cash financing expense over the term of the original supplemental loan,
which ended on January 7, 2002.
(D) In fiscal 2001, the Company and certain of its international
subsidiaries entered into a receivables facility under which the U.K. Bank
provides accounts receivable financing of up to the lesser of approximately
$18,000 or 60% of the aggregate amount of eligible receivables relating to the
Company's international operations. The interest rate is 2.00% above LIBOR
(6.00% at June 2, 2002; 6.25% at August 31, 2001). This facility has a term of
three years automatically renewing for additional one-year periods thereafter
unless terminated by either party upon 90 days' prior notice. The facility is
secured by the accounts receivable and assets of such subsidiaries. As of June
2, 2002, there was an outstanding balance under the facility of $3,465.
(E) In March 2001, the Bank entered into junior participation
agreements (the "Participation") with certain investors (the "Junior
Participants") under and pursuant to the North American Credit Agreement.
Following the Participation, the Bank advanced $9,500 to the Company for working
capital purposes. The North American Credit Agreement requires the Company to
repay the $9,500 Participation to the Bank upon termination of the North
American Credit Agreement for any reason, and the junior participation
agreements require the Bank to repurchase the Participation from the Junior
Participants on the earlier of March 12, 2005 or the date upon which the Company
repays all amounts outstanding under the North American Credit Agreement and the
agreement is terminated . If the Company were not able to repay the
Participation, the Junior Participants would have subordinated rights assigned
to them under the North American Credit Agreement with respect to the unpaid
Participation.
13
ACCLAIM ENTERTAINMENT, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
(IN THOUSANDS, EXCEPT PER SHARE DATA)
(UNAUDITED)
(F) Maturities of debt are as follows:
Fiscal Years Ending August 31,
2002 ............................. $36,618
2003 ............................. 11,852
2004 ............................. 807
2005 ............................. 807
2006 ............................. 807
Thereafter ....................... 808
-------
$51,699
=======
5. EARNINGS PER SHARE
THREE MONTHS ENDED NINE MONTHS ENDED
JUNE 2, JUNE 2,
------------------- --------------------
2002 2001 2002 2001
-------- -------- -------- --------
BASIC EPS COMPUTATION:
Earnings before extraordinary gain (loss) ........... $ 2,535 $ 243 $ 24,918 $ 11,591
Extraordinary gain (loss) on early retirement of debt -- 7,124 (1,221) 7,124
-------- -------- -------- --------
Net income .......................................... $ 2,535 $ 7,367 $ 23,697 $ 18,715
======== ======== ======== ========
Weighted average common shares
outstanding ..................................... 91,595 59,334 83,529 57,295
======== ======== ======== ========
Earnings per share before extraordinary gain (loss) . $ 0.03 $ - $ 0.30 $ 0.20
Extraordinary gain (loss) per share ................. -- 0.12 (0.02) 0.13
-------- -------- -------- --------
Earnings per share .................................. $ 0.03 $ 0.12 $ 0.28 $ 0.33
======== ======== ======== ========
DILUTED EPS COMPUTATION:
Earnings before extraordinary gain (loss) ........... $ 2,535 $ 243 $ 24,918 $ 11,591
Extraordinary gain (loss) on early retirement of debt -- 7,124 (1,221) 7,124
-------- -------- -------- --------
Net income .......................................... $ 2,535 $ 7,367 $ 23,697 $ 18,715
======== ======== ======== ========
Weighted average common shares outstanding .......... 91,595 59,334 83,529 57,295
Dilutive potential common shares:
Stock options and warrants ...................... 5,717 1,208 5,066 1,223
-------- -------- -------- --------
Diluted common shares outstanding ................... 97,312 60,542 88,595 58,518
======== ======== ======== ========
Earnings per share before extraordinary gain (loss) . $ 0.03 $ - $ 0.28 $ 0.20
Extraordinary gain (loss) per share ................. -- 0.12 (0.01) 0.12
-------- -------- -------- --------
Earnings per share .................................. $ 0.03 $ 0.12 $ 0.27 $ 0.32
======== ======== ======== ========
14
ACCLAIM ENTERTAINMENT, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
(IN THOUSANDS, EXCEPT PER SHARE DATA)
(UNAUDITED)
6. EQUITY
In February 2002, the Company issued 7,167 shares of common stock in a
private placement of its common stock to certain qualified institutional
investors and accredited investors, at a purchase price of $3.00 per share,
raising net proceeds to the Company of $19,785. The per share price represented
a 10% discount to the then-recent public trading price of the common stock. The
Company filed a registration statement with the SEC covering the resale by those
investors of all the shares issued in the private placement, which registration
statement became effective in May 2002.
As a result of the private placement and the anti-dilution provisions
included in certain warrants outstanding on the date the private placement was
consummated, in February 2002, the Company modified the terms of two warrants it
had previously issued. One warrant, originally issued to the Bank in October
2001, was modified to increase the number of shares purchasable under the
warrant from 100 to 136 and to decrease the exercise price from $4.70 per share
to $3.00 per share. The second warrant, originally issued in August 2001, was
modified to decrease the exercise price from $3.60 per share to $3.56 per share.
As a result of these modifications, the Company recorded an additional non-cash
financing charge of $113 which is included in the Company's interest expense for
the nine months ended June 2, 2002.
During the nine months ended June 2, 2002, the Company issued (i) 40
shares of its common stock in connection with the exercise of warrants which
were issued in connection with litigation settlements, (ii) 750 shares of its
common stock in connection with the exercise of other warrants which were issued
to parties unrelated to the Company in connection with the March 2001
Participation and (iii) 105 shares of its common stock in connection with the
partial exercise of a warrant which was issued to a director of the Company in
connection with the March 2001 Participation.
In October 2001, the Company issued a total of 1,125 shares of its
common stock in connection with warrants exercised by two executive officers of
the Company. The Company received $23, which represents the par value of the
shares issued, and two promissory notes totaling $3,352 for the unpaid portion
of the exercise price of the warrants. The notes provide the Company full
recourse against the officers' assets and are payable the earlier of October,
2002 or the date upon which the warrant shares are sold, but only to the
aggregate amount of the warrant shares sold. The notes bear interest at the same
rate the Company is charged from time to time by the Bank, which is the Bank's
prime rate plus 1.50% per annum. Included in other receivables at June 2, 2002
is $147 of accrued interest receivable on the notes. The notes receivable are
reflected as a contra-equity balance in additional paid-in capital.
In October 2001, the Company issued to two executive officers of the
Company warrants to purchase a total of 1,250 shares of its common stock at an
exercise price of $2.88 per share, the fair value of the common stock on the
grant date. These warrants were issued in connection with those officers pledge
to the Bank, as additional security for the Company's supplemental loans, of an
aggregate of 1,250 shares of Company common stock held by them (please see note
4C).
Commencing in September 2001, the Company was required to make a $336
monthly payment to certain investors in connection with the July 2001 private
placement of common stock, until the resale of the shares of common stock issued
in connection with the private placement were registered with the SEC. During
the nine months ended June 2, 2002, the Company paid an aggregate of $1,008 to
the investors, which is included in the Company's other expenses. On December
12, 2001, the SEC declared the related registration statement effective. The
Company incurred costs of $287 in connection with the private placement during
the nine months ended June 2, 2002 and recorded such costs as a reduction of
additional paid-in capital.
15
ACCLAIM ENTERTAINMENT, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
(IN THOUSANDS, EXCEPT PER SHARE DATA)
(UNAUDITED)
7. RELATED PARTY TRANSACTIONS
The Company pays sales commissions to a firm which is owned and
controlled by one of the Company's executive officers, directors and principal
stockholders. These sales commissions relate to the sales of Company software
which were generated by that company. These commissions amounted to
approximately $139 and $92 for the three months ended June 2, 2002 and 2001,
respectively, and $435 and $231 for the nine months ended June 2, 2002 and 2001,
respectively. The Company owed the firm approximately $381 and $18 at June 2,
2002 and August 31, 2001, respectively, for services provided.
In February 2002, in accordance with the officer's employment
agreement, the Company loaned one of its executive officers $300 under a
promissory note, the proceeds of which were used toward the purchase of a new
residence. The promissory note bears interest at a rate of 6.00% per annum which
is due and payable on or before December 31st of each year the promissory note
remains outstanding. The promissory note is secured by a second deed of trust,
for which the Company is the beneficiary, on the real property upon which the
new residence is situated. The promissory note is due to be repaid on the
earlier to occur of the sale of the officer's new residence or June 28, 2004;
provided, however that, if the employment agreement is terminated by the Company
without cause prior to such date, then, in such event, the promissory note shall
be deemed forgiven by the Company. As of June 2, 2002, the principal balance
outstanding under the loan was $300 and the accrued interest was $5.
In August 2000, in connection with the officer's employment with the
Company, the Company loaned one of its officers $200 under a promissory note.
The note bears no interest and is payable in full on the earlier to occur of the
sale of the officer's personal residence or August 24, 2004. Based on the
officer's employment agreement, the loan was forgiven at a rate of $25 for each
year the officer remained employed with the Company up to a maximum amount which
could be forgiven of $100. Accordingly, in August 2001 the Company expensed $25
and reduced the officer's outstanding loan balance to $175. In May 2002, in
connection with a separation agreement with the officer, the Company forgave
another $50. As of June 2, 2002 and August 31, 2001, the balance outstanding
under the loan was $125, and $175, respectively.
In August 1998, in accordance with the officer's employment agreement,
the Company loaned one of its officers $500 under a promissory note. The note
was reduced by $50 in August 1999, in connection with the terms of the officer's
employment agreement, and by $200 in January 2000 in connection with the
employee's termination. The note bears no interest and is payable on the earlier
to occur of the sale or transfer of the former officer's personal residence or
August 11, 2003. As of June 2, 2002 and August 31, 2001, the balance outstanding
under the loan was $250.
In April 1998, in accordance with the officer's employment agreement,
the Company loaned one of its executive officer's $200 under a promissory note.
The note bears interest at the Bank's prime rate plus 1.00% per annum and is
payable in full in April 2003. The due date for the repayment of principal and
interest on the Notes may not be extended under any circumstance. As of June 2,
2002 and August 31, 2001, the balance outstanding under the loan was $200.
In July 2001, the Company issued 1,500 shares of its common stock in
connection with warrants exercised by two officers of the Company. The Company
received $30, which represents the par value of the shares of common stock
issued, and two promissory notes totaling $3,595 for the unpaid portion of the
exercise price of the warrants. The notes provide the Company full recourse
against the officers' assets and are payable the earlier of August 31, 2003 or
the date upon which the warrant shares are sold, but only to the aggregate
amount of the warrant shares sold. The due date of August 31, 2003 for the
repayment of the principal and interest on the notes may not be extended under
any circumstance. The notes bear interest at the same rate the Company is
charged from time to time by the Bank, which is the Bank's prime rate plus 1.50%
per annum. Included in other receivables at June 2, 2002 is $234 of accrued
interest receivable on the notes. The notes receivable are reflected as a
contra-equity balance in additional paid-in capital.
16
ACCLAIM ENTERTAINMENT, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
(IN THOUSANDS, EXCEPT PER SHARE DATA)
(UNAUDITED)
The Company receives legal services from two law firms, of which two
members of the Company's board of directors are partners. The Company incurred
fees from these firms totaling $59 and $152 for the three months ended June 2,
2002 and 2001, respectively, and $373 and $421 for the nine months ended June 2,
2002 and 2001, respectively. As of June 2, 2002 and August 31, 2001, the Company
owed these firms fees of $166 and $154, respectively, for services rendered.
See also note 6.
17
ACCLAIM ENTERTAINMENT, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
(IN THOUSANDS, EXCEPT PER SHARE DATA)
(UNAUDITED)
8. SEGMENT INFORMATION
The Company's chief operating decision-maker is the Company's Chief
Executive Officer. The Company has three reportable segments, North America,
Europe, and Pacific Rim, which are organized, managed and analyzed
geographically and operate in one industry segment, the development, marketing
and distribution of entertainment software. Information about the Company's
operations for the three and nine months ended June 2, 2002 and 2001 is
presented below:
NORTH PACIFIC
AMERICA EUROPE RIM ELIMINATIONS TOTAL
-------- -------- -------- ------------ --------
THREE MONTHS ENDED JUNE 2, 2002
Net revenues from external customers $ 43,912 $ 16,574 $ 2,377 $ -- $ 62,863
Intersegment sales ................. 26 4,129 -- (4,155) --
-------- -------- -------- ------- --------
Total net revenues ................. 43,938 20,703 2,377 (4,155) 62,863
======== ======== ======== ======= ========
Interest income .................... 215 9 2 -- 226
Interest expense ................... 1,177 215 1 -- 1,393
Depreciation and amortization ...... 1,831 359 16 -- 2,206
Segment operating profit (loss) .... 3,488 (694) 530 -- 3,324
THREE MONTHS ENDED JUNE 2, 2001
Net revenues from external customers $ 27,603 $ 10,099 $ 940 $ -- $ 38,642
Intersegment sales ................. 27 2,109 -- (2,136) --
-------- -------- -------- ------- --------
Total net revenues ................. 27,630 12,208 940 (2,136) 38,642
======== ======== ======== ======= ========
Interest income .................... -- 27 3 -- 30
Interest expense ................... 2,141 368 17 -- 2,526
Depreciation and amortization ...... 1,747 446 95 -- 2,288
Segment operating profit (loss) .... 4,383 (1,956) 2 -- 2,429
NINE MONTHS ENDED JUNE 2, 2002
Net revenues from external customers $154,977 $ 52,853 $ 6,803 $ -- $214,633
Intersegment sales ................. 54 9,749 -- (9,803) --
-------- -------- -------- ------- --------
Total net revenues ................. 155,031 62,602 6,803 (9,803) 214,633
======== ======== ======== ======= ========
Interest income .................... 565 94 5 -- 664
Interest expense ................... 5,915 654 2 -- 6,571
Depreciation and amortization ...... 5,242 994 53 -- 6,289
Segment operating profit ........... 22,130 6,316 1,583 -- 30,029
Identifiable assets at June 2, 2002 135,875 35,167 3,253 -- 174,295
NINE MONTHS ENDED JUNE 2, 2001
Net revenues from external customers $109,412 $ 37,086 $ 4,541 $ -- $151,039
Intersegment sales ................. 310 7,124 -- (7,434) --
-------- -------- -------- ------- --------
Total net revenues ................. 109,722 44,210 4,541 (7,434) 151,039
======== ======== ======== ======= ========
Interest income .................... 283 71 8 -- 362
Interest expense ................... 7,095 771 23 -- 7,889
Depreciation and amortization ...... 5,435 1,013 296 -- 6,744
Segment operating profit (loss) .... 21,844 (3,329) (560) -- 17,955
Identifiable assets at June 2, 2001 47,438 20,458 1,228 -- 69,124
18
ACCLAIM ENTERTAINMENT, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
(IN THOUSANDS, EXCEPT PER SHARE DATA)
(UNAUDITED)
The Company's gross revenues were derived from the following product
categories:
THREE MONTHS ENDED NINE MONTHS ENDED
JUNE 2, JUNE 2,
----------------- -----------------
2002 2001 2002 2001
------ ------ ------ ------
Cartridge-based software:
Nintendo Game Boy software ................. 9% 4% 7% 13%
Nintendo 64 software ....................... 0% 0% 0% 2%
------ ------ ------ ------
Subtotal for Cartridge-based software ......... 9% 4% 7% 15%
------ ------ ------ ------
CD-based software:
Microsoft Xbox: 128-bit software ........... 18% 0% 10% 0%
Nintendo GameCube: 128-bit software ........ 30% 0% 24% 0%
Sony PlayStation: 32-bit software .......... 3% 24% 5% 49%
Sony PlayStation 2: 128-bit software........ 38% 66% 52% 20%
Sega Dreamcast: 128-bit software ........... 0% 4% 0% 11%
------ ------ ------ ------
Subtotal for CD-based software ................ 89% 94% 91% 81%
------ ------ ------ ------
PC Software ................................... 2% 2% 1% 4%
------ ------ ------ ------
Total ......................................... 100% 100% 100% 100%
====== ====== ====== ======
Note: The numbers in the above schedule do not give effect to sales
credits and allowances as the Company does not track sales credits and
allowances by product category. Accordingly, the numbers presented may
vary materially from those that would be disclosed were the Company
able to present such information net of sales credits and allowances as
a percentage of net revenues.
19
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS.
The following is intended to update the information contained in our
Annual Report on Form 10-K for the fiscal year ended August 31, 2001 for Acclaim
Entertainment, Inc. and its wholly owned subsidiaries and presumes that readers
have access to, and will have read the information contained under the caption
"Management's Discussion and Analysis of Financial Condition and Results of
Operations" contained in our Form 10-K.
FORWARD-LOOKING STATEMENTS
Our quarterly report on Form 10-Q contains forward-looking statements.
When used in this report, the words "believe," "anticipate," "think," "intend,"
"plan," "expect," "project," "will be" and similar expressions identify those
forward-looking statements. The forward-looking statements included in our
report are based on our current expectations and assumptions that involve risks
and uncertainties. Those statements regarding future events and/or our future
financial performance are subject to risks and uncertainties, such as the timing
of game console transitions, delays in the completion or release of products,
the continued support of our lead lender and vendors, the availability of
financing, the achievement of sales assumptions as projected, the continuation
of savings from expense reductions, the risk of war, terrorism and similar
hostilities, the possible lack of consumer appeal and acceptance of products we
released, fluctuations in demand, that competitive conditions of the markets in
which we operate will not change materially or adversely, the adverse outcome of
pending litigation, that our forecasts will accurately anticipate market demand,
and the risks discussed in "Factors Affecting Future Performance", which could
cause actual events or our actual future results to differ materially from any
forward-looking statement. Assumptions relating to the foregoing involve
judgments with respect to, among other things, future economic, competitive and
market conditions, and future business decisions, all of which are difficult or
impossible to predict accurately and many of which are beyond our control. We
believe that the assumptions underlying the forward-looking statements are
reasonable. Our business and our operations are subject to substantial risks
that increase the uncertainty inherent in the forward-looking statements. In
light of the significant risks and uncertainties inherent in the forward-looking
statements, the inclusion of the statements should not be regarded as a
representation by us or any other person that our objectives and plans will be
achieved.
OVERVIEW
We develop, publish, distribute and market under our brand name video
and computer game software on a worldwide basis for popular interactive
entertainment consoles, such as Sony's PlayStation and PlayStation 2, Nintendo's
Game Boy Advance and GameCube, and Microsoft's Xbox, and, to a lesser extent,
PCs. In fiscal 2001, we released a total of 35 titles for PlayStation,
PlayStation 2, Game Boy Color, Dreamcast and PCs. In the first quarter of fiscal
2002, we released a total of 13 titles for PlayStation 2, Game Boy Advance,
GameCube, Xbox and PCs. In the second quarter of fiscal 2002, we released a
total of nine titles for PlayStation 2, Game Boy Advance, GameCube and Xbox. In
the third quarter of fiscal 2002, we released a total of 12 titles for
PlayStation 2, Game Boy Advance, GameCube and Xbox. We plan to release a total
of approximately 42 titles for PlayStation, PlayStation 2, Game Boy Advance,
GameCube, Xbox and PCs during fiscal 2002. We develop our own software in our
six software development studios located in the U.S. and the U.K., including a
motion capture studio and a recording studio in the U.S. We also contract with
independent software developers to create software for us. We distribute our
software directly through our subsidiaries in North America, the U.K., Germany,
France, Spain and Australia. We also utilize regional distributors outside those
geographic areas. We also distribute software developed and published by third
parties, develop and publish strategy guides relating to our software and issue
"special edition" comic magazines from time to time to support our time valued
brands, Turok and Shadow Man.
We have traditionally derived our revenues from sales of software for
the then-popular game consoles. Therefore, we must continually anticipate game
console cycles and our research and development group must develop software
programming tools necessary for emerging hardware systems. Our performance has
been, and
20
is expected in the future to be, negatively affected by platform transitions. In
fiscal 2000, the video and computer games industry began experiencing another
platform transition from 32-bit and 64-bit to 128-bit game consoles and related
software. We believe that sales of 32-bit and 64-bit game consoles peaked in
fiscal 1999, and deteriorated in fiscal 2000 and 2001. This transition resulted
in increased competition, fewer hit titles capable of achieving significant
sales levels and increased price weakness for non-hit titles. The software
transition also resulted in an industry-wide software price weakness which
impacted our operating results during fiscal 2000, as the market commenced a
shift to next-generation systems which were launched by Sega in fiscal 2000 and
Sony in fiscal 2001. Sony introduced PlayStation 2 in Japan in the spring of
2000 and shipped a limited number of units in the U.S. and Europe in the fall of
2000. As of May 2002, the base of installed PlayStation 2 consoles was
approximately 9.2 million in North America and approximately 7.3 million in
Europe. Microsoft introduced its Xbox system in November 2001, entering the
video game console market in the U.S. for the first time . Microsoft launched
the Xbox in Japan in February 2002 and in Europe in March 2002. As of May 2002,
the base of installed Xbox consoles was approximately 2.2 million in North
America and approximately 0.4 million in Europe. Nintendo introduced its
next-generation system, the GameCube, in Japan in September 2001 and in the U.S.
in November 2001. Nintendo launched GameCube in Europe in the spring of 2002. As
of May 2002, the base of installed GameCube consoles was approximately 1.6
million in North America and approximately 0.3 million in Europe. Nintendo also
launched its new handheld system, Game Boy Advance, in Japan, the U.S. and
Europe in the spring of 2001. In early 2001, Sega announced its plan to exit the
hardware business, cease distribution and sales of its Dreamcast console and
re-deploy its resources to develop software for multiple platforms. See "Factors
Affecting Future Performance: Industry Trends, Platform Transitions and
Technological Change May Adversely Affect Our Revenues and Profitability".
Our current release schedule is developed around PlayStation 2, Xbox,
Game Boy Advance and GameCube. We will continue to support certain legacy
systems, such as PlayStation, on a limited basis. We did not release any N64
titles in fiscal 2001 or in the first nine months of fiscal 2002 and do not plan
to release any new N64 or Dreamcast titles during the balance of fiscal 2002.
Although the installed base of next-generation systems in fiscal 2001 did not
support software sales at the levels achieved in fiscal 1999 ($431 million),
which was prior to the recently-completed platform transition, we anticipate
that the eventual installed base of the next-generation systems will provide a
market for our software large enough to substantiate software sales at levels
greater than those achieved in fiscal 1999. Improved gross margins are expected
when compared to fiscal 2000 based on the predominance of CD-based product
rather than cartridge-based product. Although the next-generation systems appear
to have been well received in the marketplace, and recent price reductions by
console manufacturers have resulted in increased sales, there can be no
assurance that these next-generation game systems (e.g., Nintendo's GameCube,
Microsoft's Xbox and Sony's PlayStation 2) will achieve commercial success
similar to and/or consistent with the previous level of installed bases of the
32-bit PlayStation or 64-bit N64, nor can there be any assurances made as to the
timing of their success. See "Liquidity and Capital Resources" below and
"Factors Affecting Future Performance: Industry Trends, Console Transitions and
Technological Change May Adversely Affect Our Revenues and Profitability."
The rapid technological advances in game consoles have significantly
changed the look and feel of software as well as the software development
process. Currently, the process of developing software for the new 128-bit
consoles is extremely complex and we expect it to become even more complex and
expensive with the advent of more powerful future game systems. According to our
current estimates, the average development time for a title for dedicated game
consoles is between 12 and 36 months and the average development cost for a
title is between $2.0 million and $8.0 million. The average time to develop our
software for handheld systems is currently between six and nine months and the
average development cost for a title is between $200,000 and $400,000.
Our revenues in any period are generally driven by the titles which we
released during that period, as well as the timing of the season in which the
period falls. See "Seasonality." We have experienced delays in the introduction
of new titles, which has had a negative impact on our operations, as well as
quarterly and annual reported financial results. It is likely that some of our
future titles will not be released in accordance with our operating plans, in
which event our results of operations and profitability in that period would be
negatively
21
affected. See "Liquidity and Capital Resources" and "Factors Affecting Future
Performance: Revenues and Liquidity Are Dependent on Timely Introduction of New
Titles."
Revenues from sales of our software in fiscal 2001 increased as
compared to fiscal 2000 predominantly as a result of increases in sales of
PlayStation, PlayStation 2 and Game Boy products, and a reduced provision for
returns and price concessions due to the change in the overall product mix from
cartridge-based to CD-based product, which have a shorter order cycle and
require less on-hand inventory. As a result of the industry platform transition,
revenues from our 64-bit software and 128-bit software in fiscal 2001 were
negatively impacted by (1) the continuous decline of the market for N64 software
and our prior emphasis on developing products for the N64 platform, (2) the
decline of the market for Dreamcast software and Sega's exit from the hardware
market, and (3) the limited number of PlayStation 2 consoles. As of August 31,
2001, there were approximately four million PlayStation 2 consoles in the United
States. See "Results of Operations" discussion below.
Revenues from sales of our software increased in the third quarter and
first nine months of fiscal 2002 as compared to the same periods last year
predominantly from (1) the introduction of new titles for the Xbox and GameCube
game systems commencing in the first quarter of fiscal 2002, (2) the greater
global installed base of PlayStation 2 game consoles and (3) the release of
better performing titles across all three next-generation game systems. See "Net
Revenues."
We recorded net earnings of $2.5 million, or $0.03 per diluted share,
for the third quarter of fiscal 2002 (based on weighted average diluted shares
outstanding of 97,312,000) compared to net earnings of $7.4 million, or $0.12
per diluted share, for the same period last year (based on weighted average
diluted shares outstanding of 60,542,000). Earnings before extraordinary items
were $2.5 million, or $0.03 per diluted share, for the third quarter of fiscal
2002 compared to earnings before extraordinary items of $0.2 million, or $0.00
per diluted share, for the same period last year. Earnings from operations of
$3.3 million increased by 37% for the third quarter of fiscal 2002 as compared
to the same period last year due primarily to an increase of $8.8 million in
gross profit, partially offset by an increase of $7.9 million in operating
expenses. See "Gross Profit" and "Operating Expenses."
Revenues generated by CD-based products represented 89% of gross
revenues, while revenues generated by cartridge-based software represented 9% of
gross revenues in the third quarter of fiscal 2002; this compares to 94%
(CD-based) and 4% (cartridge-based) of gross revenues in the same period last
year.
We recorded net earnings of $23.7 million, or $0.27 per diluted share,
for the first nine months of fiscal 2002 (based on weighted average diluted
shares outstanding of 88,595,000) compared to net earnings of $18.7 million, or
$0.32 per diluted share, for the same period last year (based on weighted
average diluted shares outstanding of 58,518,000). Earnings before extraordinary
items were $24.9 million, or $0.30 per diluted share, for the first nine months
of fiscal 2002 compared to earnings before extraordinary items of $11.6 million,
or $0.20 per diluted share for same period last year. Earnings from operations
of $30.0 million increased by 67% for the first nine months of fiscal 2002 as
compared to the same period last year due primarily to an increase of $27.3
million in gross profit, partially offset by an increase of $15.3 million in
operating expenses. See "Gross Profit" and "Operating Expenses."
Revenues generated by CD-based products represented 91% of gross
revenues while revenues generated by cartridge-based software represented 7% in
the first nine months of fiscal 2002; this compares to 81% (CD-based) and 15%
(cartridge-based) in the same period last year.
We implemented a three-tier product development strategy in fiscal 2000
to ensure that our software would be competitive for all of the next-generation
hardware systems: first, we directed our studios to develop the software tools
and engines for all the next-generation hardware systems, second, we ensured
that the development of our key titles for next-generation systems were
performed by our internal studios (for example, Turok, All Star Baseball and
VEXX) and third, we contracted with independent studios for the development of
software for PlayStation and Game Boy Color. Internal development of games
permits us to better control
22
variable expenses, spread the costs of our software development tools and
engines across several different games, shorten the development time and costs
of creating sequels (for example, All Star Baseball and Legends of Wrestling),
protect the proprietary game engine technology for next-generation systems, and
help ensure the timeliness and quality of our titles. Products developed by our
internal studios generated 37% of our gross revenues during the third quarter of
fiscal 2002 and 50% of our gross revenues during the first nine months of fiscal
2002. A significant amount of the research and development work for developing
the next-generation game engines was completed in fiscal 2000 and 2001. We
generally expect research and development costs to increase ratably with net
revenues in the future as we expand our product lines through the addition of
more teams in our internal studios and the acquisition of more titles from a
select group of key independent developers. See "Factors Affecting Future
Performance: Profitability is Affected By Research and Development Expenditure
Fluctuations due to Console Transitions and Development for Multiple Consoles."
As we emerge from the recent game console transition and compete in the
software market for next-generation systems it is necessary that we continue to
meet our product release schedule and sales projections and continue to manage
our operational expenditures at planned levels in order to generate sufficient
liquidity to fund our operations. See "Liquidity and Capital Resources." Our
results of operations in the future will be dependent in large part on (1) the
rate of growth of the software market for 128-bit and other emerging game
systems, and (2) our ability to identify, develop and timely publish, in
accordance with our product release schedule, software that performs well in the
marketplace.
23
RESULTS OF OPERATIONS
The following table shows certain consolidated statements of operations
data as a percentage of net revenues for the periods indicated:
THREE MONTHS ENDED NINE MONTHS ENDED
JUNE 2, JUNE 2,
------------------ -----------------
2002 2001 2002 2001
-------- -------- -------- --------
Domestic revenues ....................... 69.9% 71.5% 72.2% 72.4%
Foreign revenues ........................ 30.1% 28.5% 27.8% 27.6%
-------- -------- -------- --------
Net revenues ............................ 100.0% 100.0% 100.0% 100.0%
Cost of revenues ........................ 42.5% 29.1% 39.7% 32.4%
-------- -------- -------- --------
Gross profit ............................ 57.5% 70.9% 60.3% 67.6%
-------- -------- -------- --------
Operating expenses
Marketing and selling ............... 20.8% 23.1% 18.3% 16.4%
General and administrative .......... 16.6% 24.7% 14.9% 19.8%
Research and development ............ 14.9% 16.8% 13.1% 19.5%
-------- -------- -------- --------
Total operating expenses ................ 52.3% 64.6% 46.3% 55.7%
-------- -------- -------- --------
Earnings from operations ................ 5.2% 6.3% 14.0% 11.9%
Other income (expense)
Interest income ..................... 0.4% 0.1% 0.3% 0.2%
Interest expense .................... (2.2%) (6.5%) (3.1%) (5.2%)
Other income (expense) .............. 0.6% 0.8% (0.1%) 0.9%
-------- -------- -------- --------
Total other expense ..................... (1.2%) (5.6%) (2.9%) (4.1%)
-------- -------- -------- --------
Earnings before income taxes ............ 4.0% 0.7% 11.1% 7.8%
Income tax provision (benefit) .......... 0.0% 0.0% (0.4%) 0.1%
-------- -------- -------- --------
Earnings before extraordinary gain (loss) 4.0% 0.7% 11.5% 7.7%
Extraordinary gain (loss) on early
retirement of debt .................. 0.0% 18.4% (0.6%) 4.7%
-------- -------- -------- --------
Net earnings ............................ 4.0% 19.1% 10.9% 12.4%
======== ======== ======== =======
24
NET REVENUES
Our gross revenues were derived from the following product
categories:
THREE MONTHS ENDED NINE MONTHS ENDED
JUNE 2, JUNE 2,
------------------ -----------------
2002 2001 2002 2001
-------- -------- -------- --------
Cartridge-based software:
Nintendo Game Boy software ......... 9% 4% 7% 13%
Nintendo 64 software ............... 0% 0% 0% 2%
-------- -------- -------- --------
Subtotal for Cartridge-based software . 9% 4% 7% 15%
-------- -------- -------- --------
CD-based software:
Microsoft Xbox: 128-bit software ... 18% 0% 10% 0%
Nintendo GameCube: 128-bit software 30% 0% 24% 0%
Sony PlayStation: 32-bit software .. 3% 24% 5% 49%
Sony PlayStation 2: 128-bit software 38% 66% 52% 20%
Sega Dreamcast: 128-bit software ... 0% 4% 0% 11%
-------- -------- -------- --------
Subtotal for CD-based software ........ 89% 94% 91% 81%
-------- -------- -------- --------
PC Software ........................... 2% 2% 1% 4%
-------- -------- -------- --------
Total ................................. 100% 100% 100% 100%
======== ======== ======== ========
Note: The numbers in the above schedule do not give effect to sales
credits and allowances as we do not track sales credits and allowances
by product category. Accordingly, the numbers presented may vary
materially from those that would be disclosed were we able to present
such information net of sales credits and allowances as a percentage of
net revenues.
We derive net revenues from the shipment of finished products to our
customers. Net revenues from product sales are recorded after deducting
provisions for returns and price concessions.
For the third quarter of fiscal 2002, net revenues of $62.9 million
reflect an increase of approximately $24.2 million, or 63%, as compared to $38.6
million for the same period last year. The increase in net revenues resulted
from a $35.0 million increase in gross revenues that was partially offset by a
$10.8 million increase in our net provision for returns and price concessions.
The increase in gross revenues was driven by sales of newly released software
titles for the three recently introduced next-generation game systems: Xbox,
GameCube and PlayStation 2. Sales of software titles for the three game systems
accounted for 86% of gross revenues during the quarter. The greatest level of
sales was from software titles released for PlayStation 2 which to date has the
highest installed base of the three game systems.
For the first nine months of fiscal 2002, net revenues of $214.6
million reflect an increase of approximately $63.6 million, or 42%, as compared
to $151.0 million for the same period last year. The increase in net revenues
resulted from a $77.4 million increase in gross revenues that was partially
offset by a $13.8 million increase in our net provision for returns and price
concessions. The increase in gross revenues was driven by sales of newly
released software titles for the three recently introduced next-generation game
systems: Xbox, GameCube and PlayStation 2. Sales of software titles for the
three game systems accounted for 86% of gross revenues during the first nine
months of fiscal 2002. The greatest level of sales was from software titles
released for PlayStation 2.
25
Increased unit volume during the third quarter of fiscal 2002, as
compared to the same period last year, contributed $23.6 million to the increase
in net revenues. Increased unit volume contributed $38.4 million to the increase
in sales during the first nine months of fiscal 2002 as compared to the same
period last year, while higher average selling prices contributed the remaining
$25.2 million. See "Gross Profit."
Products developed by our internal studios generated 37% of gross
revenues during the third quarter of fiscal 2002 and 50% of our gross revenues
during the first nine months of fiscal 2002.
The following top 5 game franchises accounted for a significant
percentage of our gross revenues during the three and nine months ended June 2,
2002 and 2001:
THREE MONTHS ENDED NINE MONTHS ENDED
JUNE 2, JUNE 2,
------------------ ------------------
GAME FRANCHISE PLATFORM 2002 2001 2002 2001
- ------------------------ ---------- ------ ------ ------ ------
Burnout Multiple 18% -- 14% --
Legends of Wrestling Multiple 15% -- 10% --
All-Star Baseball Multiple 10% 21% 14% 5%
Dave Mirra Freestyle BMX Multiple 8% 13% 15% 27%
Crazy Taxi Multiple 7% 41% 8% 10%
Our revenues for the first nine months of 2002 are better distributed
among our game franchises than revenues for the same period last year as several
of our game franchises materially contributed to our revenues in the current
year as compared to the prior year where fewer titles had a greater impact. Of
titles shipped during the third quarter of fiscal 2002, Aggressive Inline
received the editor's choice award from IGN.com and Headhunter received "Game of
the Month" from PSM Magazine. In fiscal 2002, All Star Baseball 2003 was rated
"best of the breed" by Newsweek magazine and both All Star Baseball 2003 and
Burnout received the editor's choice award from IGN.com.
A significant portion of our revenues in any quarter are generally
derived from software first released in that quarter or in the immediately
preceding quarter. During the third quarter of fiscal 2002, approximately 37% of
revenues were derived from software released during that quarter. See "Factors
Affecting Future Performance: Revenues and Liquidity Are Dependent on Timely
Introduction of New Titles," and "Our Future Success is Dependent on Our Ability
to Release "Hit" Titles."
We anticipate that our mix of domestic and foreign net revenues will
continue to be affected by the content of titles we release to the extent such
titles are more relatively positioned for the domestic consumer.
In the first quarter of fiscal 2002, we moved our quarterly closing
dates from the Saturday closest to the last calendar day of the quarter to the
Sunday closest to the last calendar day of the quarter. This change resulted in
approximately $8.4 million of additional gross revenues in the first nine months
of fiscal 2002 but will have no effect on our gross revenues or net earnings for
the year ending August 31, 2002. Our fiscal year-end date (August 31) remains
unchanged.
GROSS PROFIT
Gross profit is significantly affected by the sales mix between
CD-based and cartridge-based software. Gross profit is also, from time to time,
significantly affected by the level of price concessions provided to retailers
and distributors, the amount of amortization of software development costs and
the fees paid to third-party distributors for software sold overseas. We will
grant price concessions to our key customers (major retailers which control
market access to the consumer) when we deem those concessions are necessary to
maintain our relationships with those retailers and continued access to our
retail channel customers. If the consumers' demand for a specific title falls
below expectations or significantly declines below previous rates of sale, a
price concession or credit may be requested by our customers to spur further
sales. Gross profit
26
percentages earned on foreign software sales to third-party distributors are
generally one-third lower than those on sales we make directly to foreign
retailers.
Gross profit of $36.2 million (58% of net revenues) for the third
quarter of fiscal 2002 increased $8.8 million, or 32%, from $27.4 million (71%
of net revenues) for the same period last year. The increased gross profit is
due to significant Xbox, GameCube and PlayStation 2 software sales volume. See
"Net Revenues."
Gross profit of $129.5 million (60% of net revenues) for the first nine
months of fiscal 2002 increased $27.3 million, or 27%, from $102.1 million (68%
of net revenues) for the same period last year. The increased gross profit is
due to significant PlayStation 2, GameCube and Xbox software sales volume. See
"Net Revenues."
Gross profit as a percentage of net revenues decreased approximately
13% for the third quarter of fiscal 2002 as compared to the same period last
year. Our gross profit as a percentage of net revenues decreased approximately
8% for the first nine months of fiscal 2002 as compared to the same period last
year. These decreases were primarily a result of the amortization of capitalized
software development costs, included in cost of revenues, off-price sales of
catalog software at lower margins to certain customers in a relatively new
distribution channel and sales of software in the rental market.
Amortization of capitalized software development costs amounted to $1.4
million (2% of net revenues) for the third quarter of fiscal 2002 as compared to
$0.6 million of amortization for the same period last year. Amortization of
capitalized software development costs amounted to $7.3 million (3% of net
revenues) for the first nine months of fiscal 2002 as compared to $0.8 million
of amortization for the same period last year.
Our gross profit in fiscal 2002 will be dependent in large part on the
rate of growth of the software market for 128-bit game consoles (PlayStation 2,
Nintendo's GameCube and Microsoft's Xbox), and our ability to identify, develop
and timely publish, in accordance with our product release schedule, software
that sells through at projected levels at retail. See "Factors Affecting Future
Performance: Liquidity and Meeting Cash Requirements are Dependent on Achieving
Timely Product Releases and Sales Objectives."
OPERATING EXPENSES
Operating expenses for the third quarter of fiscal 2002 of $32.8
million (52% of net revenues) were $7.9 million, or 32%, higher than the $24.9
million (65% of revenues) of operating expenses for the same period last year.
Operating expenses for the first nine months of fiscal 2002 of $99.4 million
(46% of net revenues) were $15.3 million, or 18%, higher than the $84.2 million
(56% of revenues) of operating expenses for the same period last year.
Marketing and Selling
Marketing and selling expenses of $13.1 million (21% of net revenues)
for the third quarter of fiscal 2002 increased by $4.1 million, or 46%, from
$8.9 million (23% of net revenues) for the same period last year. The third
quarter fiscal 2002 increase was primarily attributable to a $4.5 million
increase in advertising and trade show expenses and a $0.7 million increase in
sales commissions due to larger sales volume, partially offset by a $0.5 million
reduction of accrued expenses for obligations that ceased under certain expired
intellectual property agreements and a $0.7 million reduction to royalty
expenses.
Marketing and selling expenses of $39.3 million (18% of net revenues)
for the first nine months of fiscal 2002 increased by $14.5 million, or 59%,
from $24.8 million (16% of net revenues) for the same period last year. The
increase was primarily attributable to a $7.1 million increase in royalty
expenses, a $12.0 million increase in advertising and trade show expenses and a
$0.9 million increase in sales commissions due to larger sales volume, partially
offset by a $4.9 million reduction of accrued expenses for obligations that
ceased under certain expired intellectual property agreements and a $1.1 million
recovery of previously paid royalties. The
27
$7.1 million net increase in royalty expenses is attributable to increased sales
volume generated from our top selling game franchises. See "Net Revenues."
During the third quarter and the first nine months of fiscal 2001, we
limited our funding of TV and media advertising because the estimated installed
base in North America of the PlayStation 2 system was not deemed sufficient to
allow marketing expenditures to be cost effective.
General and Administrative
General and administrative expenses of $10.4 million (17% of net
revenues) for the third quarter of fiscal 2002 increased by $0.9 million, or 9%,
from $9.5 million (25% of net revenues) for the same period last year. The
increase was due primarily to an increase in employee-related expenses driven by
an increase in headcount. As a percentage of net revenues, general and
administrative expenses decreased to 16% for the third quarter of fiscal 2002
from 25% for the same period last year. The improvement in general and
administrative expenses as a percentage of net revenues resulted primarily from
the increases in net revenues for the third quarter of fiscal 2002 as compared
to the same period last year in accordance with our business plan to hold these
expenses constant on an absolute dollar basis.
General and administrative expenses of $31.9 million (15% of net
revenues) for the first nine months of fiscal 2002 increased by $2.0 million, or
7%, from $29.9 million (20% of net revenues) for the same period last year. The
increase was due primarily to an increase in employee-related expenses driven by
an increase in headcount. As a percentage of net revenues, general and
administrative expenses decreased to 15% from 20% for the same period last year.
The improvement in general and administrative expenses as a percentage of net
revenues resulted primarily from the increases in net revenues for the first
nine months of fiscal 2002 as compared to the same period last year in
accordance with our business plan to hold these expenses constant on an absolute
dollar basis.
Research and Development.
Research and development expenses of $9.4 million (15% of net revenues)
increased by $2.9 million, or 44%, for the third quarter of fiscal 2002 from
$6.5 million (17% of net revenues) for the same period last year. The increase
was due primarily to a $8.8 million increase in internal and external
development costs associated with a greater number of personnel, partially
offset by a $5.8 million increase in the amount of software development costs
capitalized resulting from a greater number of software titles in development
that met the test of technological feasibility. As a percentage of net revenues,
research and development expenses decreased to 15% for the third quarter of
fiscal 2002 from 17% for the same period last year.
Research and development expenses of $28.2 million (13% of net
revenues) decreased by $1.3 million, or 4%, for the first nine months of fiscal
2002 from $29.5 million (20% of net revenues) for the same period last year. The
decrease was due primarily to the greater number of software titles in
development that met the test of technological feasibility resulting in a $11.8
million increase in the amount of software development costs capitalized,
partially offset by a $8.2 million increase in internal development costs
associated with a greater number of personnel and external development costs. As
a percentage of net revenues, research and development expenses decreased to
13%, from 20% for the same period last year. The reduction resulted primarily
from the increase in capitalized software development costs.
Because expenditures for developing the software tools and the game
engines for next-generation consoles are complete, we expect we now possess
proprietary game engines and technology for the next-generation systems, which
will allow for more cost-effective and quicker development of games. We expect
research and development expenditures to increase proportionately as our net
revenues increase.
28
OTHER INCOME AND EXPENSE
Interest Income
For the third quarter of fiscal 2002, interest income increased by
$196,000, or 653%, to $226,000 (0.4% of net revenues) from $30,000 (0.1% of net
revenues) for the same period last year. The increase is due to an increase in
our average cash balances, partially offset by a general decrease in interest
rates.
For the first nine months of fiscal 2002, interest income increased by
$0.3 million, or 83%, to $0.7 million (0.3% of net revenues) from $0.4 million
(0.2% of net revenues) for the same period last year. The increase is due to an
increase in our average cash balances, partially offset by a general decrease in
interest rates.
Interest expense.
For the third quarter of fiscal 2002, interest expense decreased by
$1.1 million, or 45%, to $1.4 million (2% of net revenues) from $2.5 million (7%
of net revenues) for the same period last year. The decrease was due primarily
to a $1.0 million reduction of interest expense in connection with our 10%
convertible subordinated notes, which were fully repaid in March 2002 (see
"Liquidity and Capital Resources.")
For the first nine months of fiscal 2002, interest expense decreased by
$1.3 million, or 17%, to $6.6 million (3% of net revenues) from $7.9 million (5%
of net revenues) for the same period last year. The decrease was due primarily
to a $2.4 million reduction in interest expense incurred on the outstanding
balance of our 10% subordinated convertible notes, partially offset by a $1.1
million increase in interest expense incurred in connection with our
supplemental bank loan, and advances on accounts receivable obtained from our
factor.
Other income (expense).
For the third quarter of fiscal 2002, other income (expense) increased
by $0.1 million, or 26%, to income of $0.4 million (0.6% of net revenues) from
income of $0.3 million (0.8% of net revenues) for the same period last year.
For the first nine months of fiscal 2002, other income (expense)
decreased by $1.5 million to an expense of $(0.1) million (0.1% of net revenues)
from income of $1.4 million (0.9% of net revenues) for the same period last
year. The decrease resulted primarily from $1.0 million we paid to investors as
a result of the delayed effectiveness of a registration statement covering the
resale of the shares of common stock issued in connection with our July 2001
private placement, and a greater level of net foreign currency exchange losses.
INCOME TAXES
For the third quarter of fiscal 2002, income tax provision (benefit)
was relatively unchanged as compared to the same period last year.
For the first nine months of fiscal 2002, income tax provision
(benefit) changed by $1.2 million to a benefit of $(0.9) million (0.4% of net
revenues) from a provision of $0.2 million (0.1% of net revenues) in the same
period last year. The change was due primarily to a $0.8 million foreign tax
credit we received in connection with tax returns we filed in prior years. We
had a federal income tax receivable resulting from foreign income tax credits of
$1.6 million at June 2, 2002, which is included in other receivables.
As of August 31, 2001, we had a U.S. tax net operating loss
carryforward of approximately $201.0 million expiring in fiscal years 2011
through 2021.
EXTRAORDINARY (GAIN) LOSS
29
During the second quarter of fiscal 2002 we recorded an extraordinary
loss of $1.2 million on the early retirement of $12.7 million in principal
amount of convertible notes (plus $0.6 million accrued interest) through the
issuance of a total of 4,209,420 shares of common stock with a fair value of
$14.5 million.
During the third quarter of fiscal 2001, we recorded an extraordinary
gain of $7.1 million on the early retirement of $13.9 million in principal
amount of convertible notes.
NET EARNINGS
We recorded net earnings of $2.5 million, or $0.03 per diluted share
(based on weighted average diluted shares outstanding of 97,312,000), for the
third quarter of fiscal 2002 compared to net earnings of $7.4 million, or $0.12
per diluted share (based on weighted average diluted share outstanding of
60,542,000) for the same period last year.
We recorded net earnings of $23.7 million, or $0.27 per diluted share
(based on weighted average diluted shares outstanding of 88,595,000), for the
first nine months of fiscal 2002 compared to net earnings of $18.7 million, or
$0.32 per diluted share (based on weighted average diluted shares outstanding of
58,518,000) for the same period last year.
SEASONALITY
Our business is seasonal, with higher revenues and operating income
typically occurring during our first (which corresponds to the holiday-selling
season), second and fourth fiscal quarters. The timing of the delivery of
software titles and the release of new products cause material fluctuations in
the our quarterly revenues and earnings, which causes our results to vary from
the seasonal patterns of the industry as a whole. See "Factors Affecting Future
Performance: Revenues Vary Due to the Seasonal Nature of Video and PC Game
Software Purchases."
LIQUIDITY AND CAPITAL RESOURCES
At June 2, 2002, we had working capital of approximately $18.8 million
as compared to a working capital deficit of $43.1 million at August 31, 2001.
The improvement of $61.9 million in working capital during the first nine months
of fiscal 2002 is mainly attributable to the reduction of our 10% convertible
subordinated notes and accrued interest thereon through the issuance of shares
of our common stock of $17.6 million and the net proceeds from our February 2002
private placement of $19.8 million. See "Factors Affecting Future Performance:
Our Ability to Meet Cash Requirements and Maintain Necessary Liquidity Rests in
Part on the Cooperation of our Primary Lender and Vendors, and Our Ability to
Achieve Our Projected Revenue Levels".
At August 31, 2001, our working capital and stockholders' deficits, and
the recurring use of cash in operating activities raised substantial doubt at
that time about our ability to continue as a going concern. We managed our
short-term liquidity during the first nine months of fiscal 2002, by receiving
advances of $17.7 million from our primary lender under our North American
Credit Agreement and under international factoring agreements. In fiscal 2001 we
also addressed our short-term liquidity by receiving supplemental borrowings
under our North American Credit Agreement with our primary lender and with
short-term financing from affiliates, which was borrowed and repaid in each of
the second and third quarters of fiscal 2001. To enhance long-term liquidity
during the first nine months of fiscal 2002 we raised net proceeds of $19.8
million in a private placement of common stock and retired $12.7 million of 10%
convertible subordinated notes through the issuance of common stock. During
fiscal 2001, to enhance long-term liquidity, we implemented targeted expense
reductions, including a significant reduction in the number of our personnel,
and raised net proceeds of $31.5 million from a private placement of common
stock, $4.8 million from other sales of common stock and $9.5 million from a
loan participation transaction between our primary lender and other lenders. Our
future long-term liquidity will be significantly dependent on our ability to
timely develop and market new software products that achieve widespread market
acceptance for use with the current hardware platforms that dominate the market.
30
The Company's liquidity and capital resources are subject to certain
risks. See "Factors Affecting Future Performance: Our Ability to Meet Cash
Requirements and Maintain Necessary Liquidity Rests in Part on the Cooperation
of Our Primary Lender and Vendors, and Our Ability to Achieve Our Projected
Revenue Levels."
On February 13, 2002, we issued a total of 7,166,667 shares of our
common stock in a private placement to certain qualified institutional buyers
and accredited investors at a price of $3.00 per share, for aggregate gross
proceeds of $21.5 million. We recorded $19.8 m