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EX-31.1 - EXHIBIT 31.1 - CITY LANGUAGE EXCHANGE INCex311.htm
EX-32.1 - EXHIBIT 32.1 - CITY LANGUAGE EXCHANGE INCex321.htm
EX-32.2 - EXHIBIT 32.2 - CITY LANGUAGE EXCHANGE INCex322.htm
EX-31.2 - EXHIBIT 31.2 - CITY LANGUAGE EXCHANGE INCex312.htm
UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
 
FORM 10-Q

(Mark One)   
 
x
QUARTERLY REPORT UNDER SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
 
For the quarterly period ended March 31, 2011
 
OR
 
¨
TRANSITION REPORT UNDER SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
 
For the transition period from _____________  to ______________
 
Commission file number:   333-141521
 
Game Trading Technologies, Inc.
 (Exact Name of Registrant as Specified in Its Charter)
 
Delaware
 
20-5433090
(State or Other Jurisdiction of Incorporation or Organization)
 
(I.R.S. Employer Identification No.)
 
10957 McCormick Road, Hunt Valley, Maryland
21031
(Address of Principal Executive Offices)  
      (Zip Code)
 
(410) 316-9900
(Registrant’s Telephone Number, Including Area Code)
 
 
(Former Name, Former Address and Former Fiscal Year, if Changed Since Last Report)
 
Indicate by check mark whether the registrant: (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes   x   No   ¨
 
Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (§ 232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files).    Yes   ¨    No   ¨   (not required)
 
Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, or a smaller reporting company.  See the definitions of “large accelerated filer,” “accelerated filer,” and “smaller reporting company” in Rule 12b-2 of the Exchange Act.
 
Large accelerated filer
¨
Accelerated filer
¨
Non-accelerated filer
¨
Smaller reporting company
x
 
Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act).  Yes  ¨    No  x
 
As of May 15, 2011, there were 4,226,256 shares of the common stock, par value $0.0001 per share outstanding.. 
 
 
 
1

 
 
Game Trading Technologies, Inc.
 
TABLE OF CONTENTS
 
   
Page
     
     
     
 
PART I - FINANCIAL INFORMATION
 
   
 
Item 1. 
Unaudited Financial Statements
3
     
Item 2.  
Management’s Discussion and Analysis of Financial Condition and Results of Operations
23
   
 
Item 3.  
Quantitative and Qualitative Analysis About Market Risk
28
     
Item 4. 
Controls and Procedures
28
     
 
PART II - OTHER INFORMATION
 
     
Item 1.
Legal Proceedings
30
     
Item 1A. 
Risk Factors
30
     
Item 2.   
Unregistered Sales of Equity Securities and Use of Proceeds
30
     
Item 3.  
Defaults Upon Senior Securities
30
     
Item 4.  
Removed and Reserved
30
     
Item 5.  
Other Information
30
     
Item 6.  
Exhibits
30
     
SIGNATURES
30
 
 
2

 

 
PART I   FINANCIAL INFORMATION
 
 Item 1.    Financial Statements

Game Trading Technologies, Inc. and Subsidiary
 
Consolidated Balance Sheets
 
             
   
(Unaudited)
   
(Audited)
 
   
March 31, 2011
   
December 31, 2010
 
ASSETS
           
             
Current Assets
           
Cash and cash equivalents
 
$
1,223,420
   
$
827,526
 
Accounts Receivable - Net of Allowance of $100,000 as of March 31, 2011
   
4,007,871
     
2,795,864
 
     and December 31, 2010,  respectively
               
Inventories, net of allowance of $175,000 and $0 as of March 31, 2011 and December 31, 2010, respectively
   
10,731,116
     
9,678,153
 
Prepaid Expenses
   
44,750
     
72,511
 
                                                                  TOTAL CURRENT ASSETS
   
      16,007,157
     
13,374,054
 
                 
Property and Equipment, net of accumulated depreciation of $394,648 and $371,893 respectively
   
430,190
     
414,895
 
                 
Other Assets
   
17,927
     
17,927
 
                                                                
               
                 
                                                                     TOTAL ASSETS
 
$
16,455,274
   
$
13,806,876
 
                 
LIABILITIES AND STOCKHOLDERS' (DEFICIT)
               
Current Liabilities
               
Accounts payable
 
$
7,988,560
   
$
4,835,668
 
Product financing - related party
   
1,116,203
     
1,789,562
 
Advances from customer
   
630,000
     
-
 
Accrued expenses and other
   
757,975
     
617,441
 
Revolving line of credit
   
4,483,285
     
4,088,285
 
Registration Rights Liability
   
380,000
     
380,000
 
Note payable - related party
   
16,255
     
16,255
 
Deferred Revenue
   
12,239
     
-
 
                                                                    TOTAL CURRENT LIABILITES
   
15,384,517
     
11,727,211
 
                 
  
               
                                                                     TOTAL LIABILITIES
   
15,384,517
     
11,727,211
 
                 
 Redeemable preferred stock, Series A; $.0001 par value, 3,000,000 shares authorized, 2,650,000 and 0 shares issued and outstanding at March 31, 2011 and December 31,  2010, respectively, net (Face value $5,350,000).
   
1,170,257
     
902,759 
 
                 
STOCKHOLDERS' EQUITY
               
                 
Preferred stock, $0.0001 par value, 17,000,000 shares authorized,
               
      none issued and outstanding as of  March 31, 2011 and December 31, 2010
   
-
     
-
 
Common stock, $0.0001 par value, 100,000,000 shares authorized, 4,226,256  shares
               
issued and outstanding at March 31, 2011 and December 31, 2010
   
423
     
423
 
Additional paid-in capital
   
7,911,063
     
7,867,885
 
Accumulated deficit
   
(8,010,986
)
   
(6,691,402
)
                                                                     Total stockholders' equity (deficit)
   
(99,500
   
1,176,906
 
                 
                                                                     TOTAL LIABILITIES AND STOCKHOLDERS'  EQUITY
 
$
16,455,274
   
$
13,806,876
 
                 
 
The accompanying notes are integral parts of these financial statements.
 

 
3

 
 
Game Trading Technologies, Inc. and Subsidiary
 
Consolidated Statements of Operations
 
(Unaudited)
 
             
   
For the Three Months Ended March 31
 
   
2011
   
2010
 
             
Net Sales
 
$
9,152,122
   
$
11,525,287
 
Cost of Sales
   
8,800,384
     
9,921,353
 
Gross Profit
   
351,738
     
1,603,934
 
                 
Operating Expense :
               
Selling, general and administrative
   
1,029,425
     
1,334,705
 
Employee stock based compensation
   
377,551
     
286,032
 
Non-employee stock based compensation
   
-
     
1,579,689
 
Depreciation
   
22,755
     
24,064
 
Total Operating Expense:
   
1,429,731
     
3,224,490
 
                 
Income (Loss) From Operations
   
(1,077,992
)
   
(1,620,556
)
                 
Other Income (Expense):
               
Interest Expense
   
(30,951
)
   
(64,934
)
Product Financing Liquidated Damages
   
(210,641
)
   
-
 
Other income
   
-
     
46,493
 
Total Other Expense
   
(241,592
)
   
(18,441
)
                 
Income (Loss) From  Before Income Taxes
   
(1,319,584
)
   
(1,638,997
)
                 
Provision for income taxes
   
-
     
-
 
                 
Net Income / (Loss)
 
$
(1,319,584
)
 
$
(1,638,997
)
                 
Preferred Dividend Payable
   
66,875
     
18,958
 
 Beneficial Conversion and Warrant
   
267,498
     
65,000
 
Net Income / (Loss) Attributable to Common Stockholders
 
$
(1,653,957
)
 
$
(1,722,955
)
                 
Net income (loss) per share – basic & diluted
 
$
(0.31
)
 
$
(0.43
                 
Weighted average shares outstanding of common stock
               
Basic & Diluted
   
4,226,256
     
3,771,667
 
   
The accompanying notes are integral parts of these financial statements.
 
 
 
4

 
 
Game Trading Technologies, Inc. and Subsidiary
 
Consolidated Statements of Cash Flows
 
(Unaudited)
 
             
   
For the Period Ended March 31,
 
   
2011
   
2010
 
Cash flows from operating activities
           
 Net Income (Loss)
 
$
(1,319,584
)
 
$
(1,638,997
)
                 
 Adjustments to reconcile net loss to net cash (used in) provided by operating activities:
               
 Depreciation & Amortization  - Property and Equipment
   
22,755
     
24,064
 
 Issuance of Stock Warrants for Services
   
-
     
1,579,689
 
 Stock Options for employee services
   
377,551
     
286,032
 
 Product Financing Liquidated Damages
   
210,641
     
-
 
 Changes in assets and liabilities
               
 Account receivable
   
(1,212,007
)
   
(3,066,803
)
  Inventory
   
(1,052,963
)
   
(997,177
)
 Accounts payable
   
3,152,891
     
(143,094
 Accrued liabilities
   
140,534
     
(54,040
)
 Deferred Expenses
   
-
     
(17,960
 Prepaid expenses and deposits
   
27,761
     
(239,149
)
 Other
   
12,240
     
(25,073
)
                 
 Net Cash Provided (Used) In Operating Activities
   
359,819
     
(4,292,508
)
                 
 Cash flows from investing activities
               
 Purchases of fixed assets
   
(38,050
)
   
(49,953
)
                 
 Net Cash Used In Investing Activities
   
(38,050
)
   
(49,953
)
                 
 Cash flows from financing activities
               
Proceeds from the sale of convertible preferred stock
   
-
     
3,900,000
 
Proceeds from line of credit, net
   
395,000
     
-
 
Net borrowings (repayment) in connection with Product financing facilities
   
(884,000
   
1,091,742
 
Advances from customer
   
630,000
     
-
 
Payments on subordinated note payable
   
-
     
(700,000
)
Payment on Series A preferred dividends
   
(66,875
   
-
 
Issuance (Repayment) of note payable - related party
   
-
     
316,862
 
Issuance (Repayment) of note payable
   
-
     
(606,656
)
                 
 Net Cash Provided in Financing Activities
   
74,125
     
4,001,948
 
                 
 Net increase (decrease) in cash
   
395,894
     
(340,513
)
                 
 Cash and cash equivalents at the beginning of the period
   
827,526
     
641,088
 
                 
 Cash and cash equivalents at the end of the period
 
$
1,223,420
   
$
300,575
 
                 
Supplemental disclosure of cash flow information :
               
                 
Cash paid for interest
 
$
30,520
   
$
64,934
 
                 
Cash paid for taxes
   
-
     
-
 
 
The accompanying notes are integral parts of these financial statements.
 
 
 
5

 
 
GAME TRADING TECHNOLOGIES, INC. AND SUBSIDIARY
 Notes to Consolidated Condensed Financial Statements (Unaudited)
March 31, 2011


1.                 DESCRIPTION OF BUSINESS AND SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES

Nature of Business

Game Trading Technologies, Inc. (“we,” “us,” “our,” or the “Company”)  is a leading provider of comprehensive trading solutions and services for video game retailers, publishers, rental companies, and consumers.  Through our trading platform, we provide our customers with extensive services including valuation, procurement, refurbishment, and merchandising of pre-owned video games.  Additionally, through our trading platform, we process and market video game consoles, DVDs, and video game accessories, and provide related e-commerce retailing and interactive marketing services.
 
Business Combination and Corporate Restructure

On February 25, 2010, we completed a “reverse acquisition” transaction, in which we entered into a securities exchange agreement (the “Exchange Agreement”) with Gamers Factory, Inc., a Maryland corporation (“Gamers” or the “Company”) and for certain limited purposes, its stockholders.  Pursuant to the Exchange Agreement, the shareholders of Gamers transferred all of the issued and outstanding shares of common stock of Gamers to us in exchange for 3,545,000 newly issued shares of our common stock (the “Transaction”).   At the time of the Transaction, our corporate name was City Language Exchange, Inc.  Following the merger, we changed our name to Game Trading Technologies, Inc. and our trading symbol to “GMTD.OB.”   As a result of the Transaction, Gamers became our wholly-owned subsidiary, with Gamers’ former shareholders acquiring a majority of the outstanding shares of our common stock.
  
The transactions contemplated by the Exchange Agreement were accounted for as a “reverse acquisition,” since the stockholders of Gamers owned a majority of the outstanding shares of our common stock immediately following the Transaction. Gamers is deemed to be the acquirer in the Transaction and, consequently, the assets and liabilities and the historical operations that will be reflected in the financial statements will be those of Gamers and will be recorded at the historical cost basis of Gamers. Except for the right of the holders of our series A convertible preferred stock, as a class, to elect one of our directors, no arrangements or understandings exist among present or former controlling stockholders with respect to the election of members of our board of directors and, to our knowledge, no other arrangements exist that might result in a change of control of our company.

In connection with the closing of the Exchange Agreement, we completed the closing of a private placement (referred to herein as the “February 2010 private placement”) of $3,900,000 of units (each, a “Unit” and collectively, the “Units”) pursuant to the terms of a Securities Purchase Agreement, dated as of February 25, 2010 (The "Purchase Agreement"), with each Unit consisting of one share of our series A convertible preferred stock ("Series A Preferred Stock") and a warrant to purchase one share of our common stock.  Each share of Series A Preferred Stock has a stated value equal to $2.00 per share and is initially convertible at any time into shares of our common stock at a conversion price equal to $4.00 per share or an aggregate of 975,000 shares of common stock, subject to adjustment under certain circumstances. Each warrant entitles the holder to purchase one share of common stock (equivalent to 100% warrant coverage in respect of the shares underlying the Series A Preferred Stock) at an exercise price of $5.00 per share through February 25, 2015.

At the closing of the February 2010 private placement, buyers that purchased shares of our Series A Preferred Stock with a stated value of at least $150,000 received a unit purchase option (the “Unit Purchase Option”) to purchase, on the same terms as those Units sold at the closing of the February 2010 private placement, additional Units  equal to 50% of the Units they purchased at the closing of the February 2010 private placement. The shares of common stock underlying the securities issuable upon exercise of a Unit Purchase Option are entitled to the same registration rights as those securities underlying the Units issued at the closing of the February 2010 private placement.

On April 20, 2010, certain holders of Unit Purchase Options exercised Unit Purchase Options to purchase 825,000 Units resulting in aggregate gross proceeds to us of $1,650,000. Each Unit consisted of one share of Series A Preferred Stock and a warrant to purchase one share of our common stock at an exercise price of $5.00 per share through April 20, 2015.
 
On April 26, 2010, the holders of certain Unit Purchase Options exercised Unit Purchase Options to purchase 62,500 units resulting in aggregate gross proceeds to us of $125,000.  Each Unit consisted of one share of Series A Preferred Stock and a warrant to purchase one share of our common stock at an exercise price of $5.00 per share through April 26, 2015.
 
 
6

 
 
GAME TRADING TECHNOLOGIES, INC. AND SUBSIDIARY
 Notes to Consolidated Condensed Financial Statements (Unaudited)
March 31, 2010

 
Basis of Presentation

Certain information and footnote disclosures, normally included in financial statements prepared in accordance with accounting principles generally accepted in the Unites States of America, have been condensed or omitted.  It is suggested that these consolidated condensed financial statements be read in conjunction with the consolidated financial statements and notes thereto included in the Annual Report on Form 10-K for the year ended December 31, 2010 filed by the Company.  In the opinion of management, all adjustments (consisting of normal recurring adjustments) considered necessary for a fair presentation of the interim financial information have been included.  The results of operations for any interim period presented herein are not necessarily indicative of the results of operations for the year ended December 31, 2011.

The consolidated condensed financial statements and accompanying notes are prepared in accordance with accounting principles generally accepted in the United States of America.

A summary of the significant accounting policies consistently applied in the preparation of the accompanying consolidated condensed financial statements is as follows:

Principle of Consolidation

The consolidated condensed financial statements include the accounts of Game Trading Technologies, Inc. and its subsidiary.  Intercompany transactions and balances have been eliminated.  Equity investments in which the Company exercises significant influence but do not control and are not the primary beneficiary are accounted for using the equity method.  Investments in which the Company is not able to exercise significant influence over the investee and which do not have readily determinable fair values are accounted for under the cost method.

Management’s Use of Estimates and Assumptions

The preparation of the consolidated condensed financial statements in conformity with generally accepted accounting principles in the United States of America requires management to make estimates and assumptions that affect the reported amounts of the assets and liabilities, disclosure of contingent assets and liabilities at the date of the consolidated condensed financial statements, and the reported amounts of revenue and expense during the reporting periods.   Actual results may differ from those estimates and assumptions.

Reclassifications

Certain amounts reported in previous period have been reclassified to conform to the Company’s current period presentation.

Reverse Stock Split

Beginning at the open of trading on February 15th, 2011, the Company affected a one for two (1:2) reverse stock split of the Company’s common stock, with every two (2) shares of common stock of the Company issued and outstanding being converted into one (1) share of common stock. The Board of Directors and shareholders approved the reverse stock split on October 28, 2010. As a result of the reverse stock split, the Company has approximately 4,226,256 shares of common stock issued and outstanding. The conversion and/or exercise prices of our issued and outstanding convertible securities, including shares of our series A convertible preferred stock, stock options and warrants, have been adjusted accordingly.

Cash and Cash Equivalents

The Company periodically maintains cash balances in financial institutions in amounts greater than the federally insured limit of $100,000. Management considers this to be an acceptable business risk.

For the purposes of the Statement of Cash Flows, the Company considers liquid investments with an original maturity of three months or less to be cash equivalents.

Use of Estimates

The preparation of financial statements in conformity with generally accepted accounting principles requires management to make estimates and assumptions that affect certain reported amounts and disclosures. Accordingly, actual results could differ from those estimates.
 
Accounts Receivable
 
The Company extends credit to customers without requiring collateral.  The Company uses the allowances method to provide for doubtful accounts based on management’s evaluations of the collectability of accounts receivable.  Management’s evaluation is based on the Company’s historical collection experience and a review of past-due amounts.  Based on management’s evaluation of collectability, there is a $100,000 allowance for doubtful accounts as of March 31, 2011 and December 31, 2010 respectively.  During the three months ended March 31, 2011 and the year ended December 31, 2010, the Company wrote off $39,898 and $292,100 respectively as uncollectible accounts receivables. The Company determines accounts receivable to be delinquent when greater than 30 days past due.  Accounts receivable are written off when it is determined that amounts are uncollectible.
 
 
7

 
 
GAME TRADING TECHNOLOGIES, INC. AND SUBSIDIARY
 Notes to Consolidated Condensed Financial Statements (Unaudited)
March 31, 2011
 
 
Inventory

Inventory, consisting of goods held for resale, is stated at the lower of cost or market.  Cost is determined using the weighted-average method.  At March 31, 2011 and December 31, 2010, an allowance for obsolete inventory of $175,000 was deemed necessary based on management’s estimate of the realizability of the inventory.
 
Property and Equipment

Property and equipment is stated at cost.  Depreciation and amortization expense is computed using principally accelerated methods over the estimated useful life of the related assets ranging from 3 to 7 years. When assets are sold or retired, their costs and accumulated depreciation are eliminated from the accounts and any gain or loss resulting from their disposal is included in the statement of operations.

The Company recognizes an impairment loss on property and equipment when evidence, such as the sum of expected future cash flows (undiscounted and without interest charges), indicates that future operations will not produce sufficient revenue to cover the related future costs, including depreciation, and when the carrying amount of the asset cannot be realized through sale. Measurement of the impairment loss is based on the fair value of the assets.

Impairment of Long-Lived Assets

The Company assesses long-lived assets, such as property and equipment and intangible assets subject to amortization, are reviewed for impairment whenever events or changes in circumstances indicate that the carrying amount of an asset group may not be fully recoverable. Recoverability of asset groups to be held and used in measured by a comparison of the carrying amount of an asset group to estimated undiscounted future cash flows expected to be generated by the asset group.  If the carrying amount exceeds its estimated future cash flows, an impairment charge is recognized by the amount by which the carrying amount of an asset group exceeds the fair value of the asset group. The Company evaluated its long-lived assets and no impairment charges were recorded for any of the periods presented.
 
Revenue Recognition

Included in Accounting Standards Codification (“ASC”) 650 “Revenue Recognition”

The Company recognizes revenue based on Account Standards Codification (“ASC”) 605 “Revenue Recognition” which contains Securities and Exchange Commission Staff Accounting Bulletin No. 101, “Revenue Recognition in Financial Statements’ and No. 104, “Revenue Recognition”. In all cases, revenue is recognized only when the price is fixed or determinable, persuasive evidence of an arrangement exists, shipment has occurred, price is fixed or determinable and collectability of the resulting receivable is reasonably assured.  The Company had $9,152,122 and $11,525,287 in revenue for the three months ended March 31, 2011 and the three months ended March 31, 2010, respectively.

Shipping and Handling Costs

The Company includes its outbound shipping and handling costs in selling, general and administrative expenses.  Those costs were $115,597 and $245,751 for the three months ended March 31, 2011 and 2010, respectively.  Inbound shipping and handling costs are included as an allocation to inventory.  Those costs were $290,198 and $82,568 for the three months ended March 31, 2011 and 2010, respectively.

 Registration Payment Arrangements
 

The Company accounts for registration payment arrangements under ASC  topic 815-40 "Derivatives and Hedging - Contracts in Entity's Own Equity" formerly Financial Accounting Standards board (FASB) Staff Position EITF 00-19-2, “Accounting for Registration Payment Arrangements”. ASC topic 815-40 specifies that the contingent obligation to make future payments under a registration payment arrangement should be separately recognized and measured in accordance with SFAS No. 5, Accounting for Contingencies. As of March 31, 2011 and December 31, 2010, the Company accrued an estimated penalty of $380,000 which represents the anticipated penalty due from November 23, 2010 through the Rule 144 restriction period of March 8, 2011.

Share Based Expenses

ASC 718 "Compensation - Stock Compensation" , codified in SFAS No. 123, prescribes that accounting and reporting standards for all stock-based payments award to employees, including employee stock options, restricted stock, employee stock purchase plans and stock appreciation rights, may be classified as either equity or liabilities. The Company should determine if a present obligation to settle the share-based payment transaction in cash or other assets exists. A present obligation to settle in cash or other assets exists if:

a)  
the option to settle by issuing equity instruments lacks commercial substance or
 
b)  
the present obligation is implied because of an entity's past practices or stated policies. If a present obligation exists, the transaction should be recognized as a liability; otherwise, the transaction should be recognized as equity.
 
 
8

 
 
GAME TRADING TECHNOLOGIES, INC. AND SUBSIDIARY
 Notes to Consolidated Condensed Financial Statements (Unaudited)
March 31, 2011

 
The Company accounts for stock-based compensation issued to non-employees and consultants in accordance with the provisions of ASC 505-50 "Equity - Based Payments to Non-Employees"   which codified SFAS 123 and the Emerging Issues Task Force consensus in Issue No. 96-18 ("EITF 96-18"),  "Accounting for Equity Instruments that are Issued to Other Than Employees for Acquiring or in Conjunction with Selling, Goods or Services".  Measurement of share-based payment transactions with non-employees shall be based on the fair value of whichever is more reliably measurable:
 
a)  
the goods or services receive or
 
b)  
the equity instruments issued.
 
The fair value of the share-based payment transaction should be determined at the earlier of performance commitment date or performance completion date.

Fair value of Financial Instruments

The Company adopted ASC topic 820, “Fair Value Measurements and Disclosures” , formerly SFAS No. 157 “Fair Value Measurements,” effective January 1, 2009.  ASC 820 defines “fair value” as the price that would be received for an asset or paid to transfer a liability (an exit price) in the principal or most advantageous market for the asset or liability in an orderly transaction between market participants on the measurement date.  There was no impact relating to the adoption of ASC 820 to the Company’s financial statements.  ASC 820 also describes three levels of inputs that may be used to measure fair value:
 
·  
Level 1: Observable inputs that reflect unadjusted quoted prices for identical assets or liabilities traded in active markets.
 
·  
Level 2: Inputs other than quoted prices included within Level 1 that are observable for the asset or liability, either directly or indirectly.
 
·  
Level 3: Inputs that are generally unobservable. These inputs may be used with internally developed methodologies that result in management’s best estimate of fair value.
 
Financial instruments consist principally of cash, prepaid expenses, accounts payable, and accrued liabilities. The carrying amounts of such financial instruments in the accompanying balance sheets approximate their fair values due to their relatively short-term nature.  It is management’s opinion that the Company is not exposed to any significant currency or credit risks arising from these financial instruments.

Income Taxes

Under the asset and liability method prescribed under ASC 740, Income Taxes , The Company uses the liability method of accounting for income taxes.  The liability method measures  deferred income taxes by applying  enacted  statutory rates in effect at the balance  sheet date to the differences  between the tax basis of assets and  liabilities  and their reported  amounts on the  financial statements.  The resulting deferred tax assets or liabilities are adjusted to reflect changes in tax laws as they occur.  A valuation allowance is provided when it is more likely than not that a deferred tax asset will not be realized.

The Company recognizes the financial statement benefit of an uncertain tax position only after considering the probability that a tax authority would sustain the position in an examination. For tax positions meeting a "more-likely-than-not" threshold, the amount recognized in the financial statements is the benefit expected to be realized upon settlement with the tax authority. For tax positions not meeting the threshold, no financial statement benefit is recognized. As of March 31, 2011, the Company has had no uncertain tax positions. The Company recognizes interest and penalties, if any, related to uncertain tax positions as general and administrative expenses. The Company currently has no federal or state tax examinations nor has it had any federal or state examinations since its inception. All of the Company's tax years are subject to federal and state tax examination.

 
9

 
 
GAME TRADING TECHNOLOGIES, INC. AND SUBSIDIARY
 Notes to Consolidated Condensed Financial Statements (Unaudited)
March 31, 2011


Income (loss) Per Common Share

Basic income (loss) per share is calculated using the weighted-average number of common shares outstanding during each reporting period.  Diluted loss per share includes potentially dilutive securities such as outstanding options and warrants, using various methods such as the treasury stock or modified treasury stock method in the determination of dilutive shares outstanding during each reporting  period.   Common equivalent shares are excluded from the computation of net loss per share since their effect is anti-dilutive.

Recent Authoritative Accounting Pronouncements

FASB Accounting Standards Codification

(Accounting Standards Update (“ASU”) 2009-01) In June 2009, FASB approved the FASB Accounting Standards Codification (“the Codification”) as the single source of authoritative nongovernmental GAAP. All existing accounting standard documents, such as FASB, American Institute of Certified Public Accountants, Emerging Issues Task Force and other related literature, excluding guidance from the Securities and Exchange Commission (“SEC”), have been superseded by the Codification. All other non-grandfathered, non-SEC accounting literature not included in the Codification has become nonauthoritative. The Codification did not change GAAP, but instead introduced a new structure that combines all authoritative standards into a comprehensive, topically organized online database. The Codification is effective for interim or annual periods ending after September 15, 2009, and impacts the Company’s financial statements as all future references to authoritative accounting literature will be referenced in accordance with the Codification. There have been no changes to the content of the Company’s financial statements or disclosures as a result of implementing the Codification during the year ended December 31, 2010.


 
 
 
 
 
 
10

 
 
GAME TRADING TECHNOLOGIES, INC. AND SUBSIDIARY
 Notes to Consolidated Condensed Financial Statements (Unaudited)
March 31, 2011
 
 
As a result of the Company’s implementation of the Codification during the quarter ended September 30, 2009, previous references to new accounting standards and literature are no longer applicable. In the current year financial statements, the Company will provide reference to both new and old guidance to assist in understanding the impacts of recently adopted accounting literature, particularly for guidance adopted since the beginning of the current fiscal year but prior to the Codification.

Subsequent Events

(Included in Accounting Standards Codification (“ASC”) 855 “Subsequent Events” , previously SFAS No. 165 “Subsequent Events”) SFAS No. 165 established general standards of accounting for and disclosure of events that occur after the balance sheet date, but before the financial statements are issued or available to be issued (“subsequent events”). An entity is required to disclose the date through which subsequent events have been evaluated and the basis for that date. For public entities, this is the date the financial statements are issued. SFAS No. 165 does not apply to subsequent events or transactions that are within the scope of other GAAP and did not result in significant changes in the subsequent events reported by the Company. SFAS No. 165 became effective for interim or annual periods ending after June 15, 2009 and did not impact the Company’s financial statements. The Company evaluated for subsequent events through the issuance date of the Company’s financial statements. No recognized or non-recognized subsequent events were noted.


 
 

 
11

 
GAME TRADING TECHNOLOGIES, INC. AND SUBSIDIARY
 Notes to Consolidated Condensed Financial Statements (Unaudited)
March 31, 2011
 
 
3.                 PROPERTY AND EQUIPMENT

Property and equipment consists of the following at March 31, 2011 and December 31, 2010.

   
3/31/11
   
12/31/10
 
Machinery and equipment
 
$
575,190
   
$
537,140
 
Computer equipment and software
   
249,648
     
249,648
 
   
$
824,838
   
$
786,788
 
Less accumulated depreciation and amortization
   
394,648
     
371,893
 
Property and Equipment, net
 
$
430,190
   
$
414,895
 
 
Depreciation and amortization expense for the three months ended March 31, 2011 and 2010 totaled $22,755 and $24,064, respectively.
 
4.                 PRODUCT FINANCING - RELATED PARTY
Obligations and Commitments under Product Financing Arrangement
 
In 2010, the Company entered into numerous product financing arrangement with a related party under ASC 470-40 Product Financing Arrangements. Accordingly, the remaining inventory and the related short-term debt have been included in the Balance Sheet at March 31, 2011 and December 31, 2010 and the corresponding costs have been included in Statement of Operations as Cost of Sales. The Company is obligated to pay the vendor under this product financing arrangement upon its receipt of payments from financed  products.
 
On July 22, 2010, Gamers entered into a Sales Agency and Purchasing/Sales Services Agreement (the “Sales Agreement”) with DK Trading Partners, LLC (“DK Trading”) pursuant to which DK Trading engaged Gamers to procure, purchase and sell up to $3,000,000 of pre-owned video games and associated packaging materials, together with such other merchandise as designated by DK Trading, on behalf of DK Trading for a period from August 13, 2010 until September 15, 2010. In consideration for the services to be performed by Gamers under the Sales Agreement, Gamers is entitled to receive 100% of the net profit, if any, from the sale of products procured by DK Trading with the assistance of Gamers in excess of $600,000. If we or Gamers consummate an equity or equity-linked financing pursuant to which we raise aggregate gross proceeds of at least $3,000,000, DK Trading shall have the right to transfer, assign and sell to Gamers (i) any outstanding receivables for the face value of such receivables or (ii) products not sold to any purchasers for the purchase price of such products plus 20%. DK Trading has agreed to limit its right to cause us to purchase outstanding receivables or products from them in connection with this offering to $500,000. In addition, to the extent we are delinquent in paying DK Trading any such amounts to which it is entitled under the Sales Agreement, we are obligated to pay liquidated damages to DK Trading, for each day that we are delinquent in our payment obligations, in an amount equal to 0.25% of the amount not paid to DK Trading when due. DK Trading is controlled by its managers, who include, among others, Gregg Smith, a shareholder of the Company. The Company expensed liquidated damages penalties in the amount of $210,641 and $0 for the three months ended March 31, 2011 and 2010, respectively.  The balance due to DK Trading at March 31, 2011 and December 31, 2010 amounted to $1,116,203 and $1,789,562 including $516,641 and $306,000 as liquidated damages for delinquent payments, respectively.

On January 27, 2010, Gamers entered into a reseller agreement (the “2010 Reseller Agreement”) with DK Trading pursuant to which DK Trading engaged Gamers to procure, purchase and sell up to $1,000,000 of pre-owned video games and associated packaging materials, together with such other merchandise as designated by DK Trading, on behalf of DK Trading for a period from January 27, 2010 until April 26, 2010. In consideration for the services to be performed by Gamers under the 2010 Reseller Agreement, Gamers was entitled to receive 50% of the net profit, if any, from the sale of products procured by DK Trading with the assistance of Gamers in excess of $80,000. The Company paid DK Trading $95,000 in accordance with the agreement. In addition, the Company agreed to reduce the exercise price of 405,000 warrants issued to DK Trading from $2.50 to $1.30. Furthermore, Mr. Hays, the Company's President and Chief Executive Officer provided a personal guaranty in favor of DK Trading through the agreement period April 26, 2010. The balance due to DK Trading at March 31, 2010 amounted to $1,091,742.

 
12

 
 
GAME TRADING TECHNOLOGIES, INC. AND SUBSIDIARY
 Notes to Consolidated Condensed Financial Statements (Unaudited)
March 31, 2011
 
 
5.                 Working Capital Line of Credit
 
Bank of America Revolver

On May 4, 2010, Gamers Factory, Inc. (the “Borrower”), a wholly owned subsidiary of the Company, entered into a Loan Agreement (the “Loan Agreement”) with Bank of America, N.A.  The Loan Agreement provides for a revolving line of credit to the Borrower equal to the lesser of (i) $5,000,000 or the sum of (a) 75% of the balance due on Acceptable Receivables (as defined in the Loan Agreement) and (b) the lesser of $1,500,000 or 20% of the value of Acceptable Inventory (as defined in the Loan Agreement).  The Borrower has the right to prepay loans under the Loan Agreement in whole or in part at any time. All amounts borrowed under the Loan Agreement must be repaid on or before May 27, 2011.  Loans under the Loan Agreement bear interest at a rate equal to the British Bankers Association London interbank offered rate (“BBA LIBOR”) plus 2.50% per annum. The Company has incurred interest expense of $30,405 and $0 for the three months ended March 31, 2011 and 2010, respectively. The BBA LIBOR rate was .25% as of March 31, 2011.

Initial borrowings under the Loan Agreement are subject to, among other things, the substantially concurrent repayment by the Borrower of all amounts due and owing under the Borrower’s existing second amended and restated loan agreement and $1,800,000 second amended and restated promissory note, each dated December 29, 2009, respectively, with The Columbia Bank and the satisfaction and termination of such borrowing (collectively, the “Columbia Bank Loan”).  All amounts owed under the Columbia Bank Loan were satisfied and terminated by Borrower on May 6, 2010.
 
On November 23, 2010, the Borrower entered into an Amended and Restated Loan Agreement with the Bank. The Amended and Restated Loan Agreement provides for a revolving line of credit to the Borrower equal to the lesser of (i) $5,000,000 or (ii) the sum of (a) 80% of the balance due on Acceptable Receivables (as defined in the Amended and Restated Loan Agreement) and (b) the lesser of $1,500,000 or 20% of the value of Acceptable Inventory (as defined in the Amended and Restated Loan Agreement).

The Borrower has the right to prepay loans under the Amended and Restated Loan Agreement in whole or in part at any time. All amounts borrowed under the Loan Agreement must be repaid on or before May 27, 2011. Loans under the Amended and Restated Loan Agreement bear interest at a rate equal to BBA LIBOR plus 2.50% per annum. In connection with the Amended and Restated Loan Agreement, as security for any obligation of the Borrower to Bank under the Amended and Restated Loan Agreement, the Borrower and Bank entered into an amended and restated security agreement, dated November 23, 2010 pursuant to which the Borrower granted Bank a first priority security interest in substantially all of the assets of Borrower.

On January 28, 2011, Borrower entered into the First Amendment to the Amended and Restated Loan Agreement with Bank. The First Amendment provides that the revolving line of credit to the Borrower is now equal to the lesser of (i) $5,000,000 or (ii) the sum of (a) (1) for the period lasting from December 31, 2010 through and including February 15, 2011, 85% of the balance due on Acceptable Receivables (as defined in the Amended and Restated Loan Agreement) and (2) thereafter, 80% of the balance due on Acceptable Receivables (as defined in the Amended and Restated Loan Agreement) (b) (1) for the period lasting from December 31, 2010 through and including February 15, 2011, the lesser of $2,000,000 or 25% of the value of Acceptable Inventory (as defined in the Amended and Restated Loan Agreement) and (2) thereafter, the lesser of $1,500,000 or 20% of the value of Acceptable Inventory (as defined in the Amended and Restated Loan Agreement).

As of March 31, 2011, the balance on the revolver was $4,483,285.

On May 12, 2011, the Borrower entered into the second amendment (the “Second Amendment”) to the amended and restated loan agreement, dated November 23, 2010, as amended on January 28, 2011  (the “Amended Loan Agreement”) with Bank of America, N.A (the “Bank”).  The Second Amendment provides, among other things, that (i) the credit limit (x) is currently $3,858,285 and will increase upon certain events as set forth in the Second Amendment, (ii) the percentage of the balance due on Acceptable Receivables (as defined in the Amended Loan Agreement) in calculating the amount available under revolving line of credit to the Borrower has been reduced from 80% to 75%, (iii) the account balance does not include the amount of any counterclaims or offsets which have been or may be asserted against the Borrower by the account debtor (including offsets for any “contra accounts” owed by the Borrower to the account debtor for goods purchased by the Borrower or for services performed for the Borrower, (iv) effective April 1, 2011, the interest rate is a rate per year equal to the BBA LIBOR Daily Floating Rate plus an additional margin of 800 basis points per annum and (v) the expiration date of the line of credit has been extended from May 21, 2011 until August 26, 2011, or such earlier date as provided in the Second Amendment.

On May 12, 2011, the Company received a notice of waiver of the “Funded debt to EBITDA ratio” and the “Basic Fixed Charge Coverage Ratio” requirements under the line of credit facility, as such terms are defined in items, respectively, of the line of credit agreement.  The waiver is effective for the debt covenant requirement at March  31, 2011. The Company further agreed to suspend usage of the line of credit in excess of $3,858,285 pending further certain events as set forth in the Second Amendment.
 
 
13

 
 
GAME TRADING TECHNOLOGIES, INC. AND SUBSIDIARY
 Notes to Consolidated Condensed Financial Statements (Unaudited)
March 31, 2011


6.                 NOTES PAYABLE - RELATED PARTY

Note Payable – TW Development LLC

On December 6, 2007, the Company issued a note payable of $500,000 to TW Development LLC. The note bears interest at 6% and matured on April 4, 2008, and had been extended to December 31, 2010.  The note requires no monthly payments and at times in the current year, the Company has attained, and subsequently repaid, additional advances. The Company may repay this note at any time, in whole or in part, without penalty or additional interest. The balance as of March 31, 2011 and December 31, 2010 was $16,255. TW Development LLC is wholly owned by, our Chief Executive Officer, Todd Hays.

7.                 ADVANCES FROM CUSTOMER

On March 8, 2011, the Company received an advance from its largest customer in the amount of $630,000. There were no terms specified and the advance was applied to a subsequent invoice in May 2011.
 
 
14

 
GAME TRADING TECHNOLOGIES, INC. AND SUBSIDIARY
 Notes to Consolidated Condensed Financial Statements (Unaudited)
March 31, 2011
 
 
8.                 REDEEMABLE PREFERRED STOCK
 
A summary of the Redeemable Preferred Stock at March 31, 2011 and December 31, 2010 is as follows:
 
   
3/31/11
   
12/31/10
 
Redeemable preferred stock, Series A
 
$
5,350,000
   
$
5,350,000
 
Beneficial conversion feature, net of accumulated amortization of $521,445 and $423,996 at March 31, 2011 and December 31, 2010, respectively.
   
(1,545,948
   
(1,643,397
Value attributable to warrants attached to notes, net of accumulated amortization of $906,937 and $736,888 at March 31, 2011 and December 31, 2010, respectively.
   
(2,700,670
   
(2,870,719
Accumulated Dividends
   
66,875
     
66,875
 
   
$
1,170,257
   
$
902,759
 
 
We are authorized to issue up to 20,000,000 shares of preferred stock, par value $0.0001 per share. As of March 31, 2011, 3,000,000 shares of our Series A Preferred Stock par value $0.0001 per share were authorized, with 2,837,500 shares designated as Series A Preferred Stock, and 2,675,000 shares issued and outstanding. The rights and preferences of the Series A Preferred Stock include, among other things, the following:
 
 
·
liquidation preferences (120% of stated value);

 
·
dividend preferences;

The Series A Preferred Stock provides an annual dividend of 5% payable quarterly in arrears in cash or stock.  Each share of Series A Preferred Stock is convertible, at the option of the holder thereof, at any time, into one share of the Company’s common stock at an initial conversion price of $2.00 per share, subject to adjustments for anti-dilution provisions.

On February 25, 2010, the Company sold 1,950,000 shares of Series A Preferred Stock with attached warrants to purchase an aggregate of 975,000 shares of the Company’s common stock at $4.00 per share. The Company received $3,900,000 from the sale of the shares of the Series A Preferred Stock. Since the Series A Preferred Stock may ultimately be redeemable at the option of the holder, the carrying value of the preferred stock, net of discount and accumulated dividends, has been classified as temporary equity on the balance sheet at March 31, 2011 and December 31, 2010.

In accordance with ASC 470 Topic “ Debt" a portion of the proceeds were allocated to the warrants based on their relative fair value, which totaled $2,444,729 using the Black Scholes option pricing model. Further, the Company attributed a beneficial conversion feature of $1,455,271 to the Series A preferred shares based upon the difference between the effective conversion price of those shares and the closing price of the Company’s common stock on the date of issuance. The assumptions used in the Black-Scholes model are as follows:  (1) dividend yield of 0%; (2) expected volatility of 74%, (3) weighted average risk-free interest rate of 2.2%, (4) expected life of 5 years, and (5) estimated fair value of  Company's  common stock of $8.50 per share. The expected term of the warrants represents the estimated period of time until exercise and is based on historical experience of similar awards and giving consideration to the contractual terms. The amounts attributable to the warrants and beneficial conversion feature, aggregating $3,900,000 have been recorded as a discount and deducted from the face value of the preferred stock. Since the preferred stock is classified as temporary equity, the discount will be amortized over the period from issuance to February 2015 (the initial redemption date) as a charge to additional paid-in capital (since there is a deficit in retained earnings).


On April 20, 2010 and April 26, 2010, certain holders of Unit Purchase Options exercised Unit Purchase Options to purchase 825,000 and 62,500 shares, respectively of Series A resulting in aggregate gross proceeds to us of $1,650,000 and $125,000, respectively. Since the Series A Preferred Stock may ultimately be redeemable at the option of the holder, the carrying value of the preferred stock, net of discount and accumulated dividends, has been classified as temporary equity on the balance sheet at March 31, 2011 and December 31, 2010.
 
 
15

 
 
GAME TRADING TECHNOLOGIES, INC. AND SUBSIDIARY
 Notes to Consolidated Condensed Financial Statements (Unaudited)
March 31, 2011
 
 
In accordance with ASC 470 Topic “Debt" a portion of the proceeds were allocated to the warrants based on their relative fair value, which totaled $1,162,878 using the Black Scholes option pricing model. Further, the Company attributed a beneficial conversion feature of $612,122 to the Series A preferred shares based upon the difference between the effective conversion price of those shares and the closing price of the Company’s common stock on the date of issuance. The assumptions used in the Black-Scholes model are as follows:  (1) dividend yield of 0%; (2) expected volatility of 74%, (3) weighted average risk-free interest rate of 2.2%, (4) expected life of 5 years, and (5) estimated fair value of GTTI common stock of $9.40 per share. The expected term of the warrants represents the estimated period of time until exercise and is based on historical experience of similar awards and giving consideration to the contractual terms. The amounts attributable to the warrants and beneficial conversion feature, aggregating $1,775,000, have been recorded as a discount and deducted from the face value of the preferred stock. Since the preferred stock is classified as temporary equity, the discount will be amortized over the period from issuance to April 2015 (the initial redemption date) as a charge to additional paid-in capital (since there is a deficit in retained earnings).

Effective June 30, 2010 and applied retroactively herein for the period ended March 31, 2010, the holders of  the outstanding shares of Series A Preferred Stock and of the outstanding warrants to purchase shares of common stock (collectively, the “Warrants”) issued pursuant to the Purchase Agreement, agreed to amend the terms of the Series A Preferred Stock and Warrants in the following manner:
 
·
The parties agreed to add a provision to the certificate of designation for the Series A Preferred Stock whereby the minimum price in which the conversion price of the Series A Preferred Stock may be reduced shall be equal to $1.00;
 
·
The parties agreed to add a provision to the Warrants whereby the minimum price in which the exercise price of the Warrants may be reduced shall be equal to $1.00;
 
·
The parties agreed to add a provision to the Purchase Agreement whereby until the 36 month anniversary of the date of the Purchase Agreement, the Company shall not issue any of its equity securities below $1.00 without the prior written consent of any holder who was issued a Warrant for an aggregate of 2% or more of the Warrants initially issued pursuant to the Purchase Agreement.

The charge to additional paid in capital for amortization of discount and costs for the period ended March 31, 2011 and 2010 was $267,498  and $65,000, respectively. 

For the period ended March 31, 2011 and December 31, 2010 we have accrued dividends of $66,875 and $66,875, respectively. The accrued dividends have been charged to additional paid-in capital (since there is a deficit in retained earnings) and the net unpaid accrued dividends been added to the carrying value of the preferred stock.

Registration Rights Liquidated Damages

The Company agreed to file a “resale” registration statement with the SEC within 180 days after the final closing of the private placement and the issuance of the debentures covering all shares of common stock sold in the private placement and underlying the debentures, as well as the warrants attached to the private placement. The Company has agreed to its best efforts to have such “resale” registration statement declared effective by the SEC as soon as possible and, in any event, within 120 days after the initial closing of the private placement and the issuance of the debentures.

In addition, with respect to the shares of common stock sold in the private placement and underlying the warrants, the Company agreed to maintain the effectiveness of the “resale” registration statement from the effective date until the earlier of (i) 18 months after the date of the closing of the private placement or (ii) the date on which all securities registered under the registration statement (a) have been sold, or (b) are otherwise able to be sold pursuant to Rule 144, at which time exempt sales may be permitted for purchasers of the Units, subject to the Company’s right to suspend or defer the use of the registration statement in certain events.

The registration rights agreement requires the payment of liquidated damages to the investors of approximately 2% per month of the aggregate proceeds of $5,675,000 or the value of the unregistered shares at the time that the liquidated damages are assessed, until the registration statement is declared effective, payable at the option of the Company. On October 22, 2010, the holders of our Series A Preferred Stock and Series A Warrant issued in our February 2010 private placement agreed to waive any liquidated damages payable as a result of the failure to have a registration statement declared effective by October 23, 2010 until November 23, 2010.  In accordance with ASC topic 815-40, the Company evaluated the likelihood of achieving registration statement effectiveness.  Accordingly, the Company has accrued an estimate of $380,000 as of March 31, 2011 and December 31, 2010, to account for these potential liquidated damages from November 23, 2010 through the Rule 144 restriction period of March 8, 2011.
 
 
16

 
 
GAME TRADING TECHNOLOGIES, INC. AND SUBSIDIARY
 Notes to Consolidated Condensed Financial Statements (Unaudited)
March 31, 2011
 
 
9.                 COMMITMENTS
 
Office Lease Obligations and Extension

The Company has entered into an operating lease agreement for its warehouse and corporate offices located in Hunt Valley, MD.   The current lease term expiration date is January 31, 2012. On October 14, 2010, the Company entered into an extension of the operating lease agreement including an additional 10,800 square feet through January 31, 2018.
 
Future minimum payments required under operating leases are as follows:

Year Ending December 31:
     
       
2011 (remainder of the year)
 
$
166,395
 
2012
   
228,470
 
2013
   
234,969
 
2013
   
242,205
 
2014 and thereafter
   
793,983
 
   
$
1,666,022
 

Rent expense plus common area maintenance and related facilities fees for the three months ended March 31, 2011 and 2010 totaled $71,188 and $53,519, respectively.

Employment and Consulting Agreements

The Company has employment agreements with certain of its key employees which include non-disclosure and confidentiality provisions for the protection of the Company’s proprietary information.

We entered into employment agreements with Todd Hays and Rodney Hillman effective at the closing of the Transaction and our February 2010 private placement. In addition, we entered into an employment agreement with Richard Leimbach in September 2010 as our Chief Financial Officer. The employment agreements require each of the executives to devote all of their time and attention during normal business hours to our business as our Chief Executive Officer and President, our Chief Operating Officer, and our Chief Financial Officer, respectively. The employment agreements provide that each executive will receive an annual base salary of $175,000, $125,000 and $150,000 per year, respectively, with the annual base salary increasing by 5% on each anniversary date of the employment agreement. In addition, each executive is entitled to (a) receive a cash bonus in an amount determined by the Compensation Committee if we meet or exceed certain mutually agreed upon performance goals and (b) participate in our stock option plan.

 
17

 
 
GAME TRADING TECHNOLOGIES, INC. AND SUBSIDIARY
 Notes to Consolidated Condensed Financial Statements (Unaudited)
March 31, 2011


10.              RELATED PARTY TRANSACTIONS

The Company has a note payable outstanding of $16,255 due to TW Development, LLC, a company wholly owned by Todd Hays, our chief executive officer.  The note bears interest at 6% and was due no later than December 31, 2010. For information regarding the note payable, see “Note Payable – Related Party” in Note 6 of the Notes to Consolidated Financial Statements contained herein.

On February 25, 2010, Mr. Hays  participated in the February 2010 private placement purchasing 50,000 shares of Series A Preferred stock (convertible into 12,500 shares of our common stock) and warrants to purchase 12,500 shares of our common stock, for an aggregate purchase price of $100,000.

In connection with the February 2010 private placement, on April 20, 2010, the Company entered into an Executive Officer Reimbursement Agreement with Todd Hays, the Company’s President and Chief Executive Officer, pursuant to which Mr. Hays agreed to convert a portion of outstanding indebtedness of the Company owed to him into Series A Preferred Stock and warrants pursuant to the Purchase Agreement.  Mr. Hays converted $25,000 of outstanding indebtedness into 12,500 shares of Series A Preferred Stock and warrants to purchase 6,250 shares of our common stock.

In 2010, the Company entered into certain agreements with DK Trading Partners, LLC (“DK Trading”) pursuant to which DK Trading engaged the Company to procure, purchase and sell pre-owned video games and associated packaging materials, together with such other merchandise as designated by DK Trading, on behalf of DK Trading. See Note 4 Product Financing Agreement. DK Trading is controlled by its managers, who include, among others, Gregg Smith, a shareholder of the Company.

In 2009, DK Trading earned a referral fee commission from the Company for 50% of the net profit earned on a one-time transaction in the amount of $285,967. The fee was paid in 2010.

In October 2010, the Company entered into a six-month professional services agreement with Evolution Corporate Advisors, LLC for consulting services in the amount of $65,000 and additional expenses of $35,000. Evolution Corporate Advisors, LLC is owned by Mr. Gregg Smith, a shareholder of the Company.

In December 2010, Mr. Michael DuGally joined the Company's Board of Directors . Mr. DuGally is president of Noram International  Partners, Inc. a customer and a vendor to the Company and for the period ended March  31, 2011 and 2010 had sales of $94,900 and  $59,033 and purchases of $0 and $4,068, respectively.

From time to time, the Company has received advances from certain of its officers and employees to meet short term working capital needs.  These advances may not have formal repayment terms or arrangements. Future advances are subjected to approval from the Company's independent directors.  

11. 
CAPITAL STOCK
 
The Company has authorized 20,000,000 shares of preferred stock, with a par value of $.0001 per share. As of March 31, 2011 and December 31, 2010, the Company has authorized 3,000,000 shares of preferred stock as Series A preferred stock, of which 2,837,500 shares of preferred stock are designated as Series A Preferred Stock and 2,675,000 shares are issued and oustanding.The company has authorized 100,000,000 shares of common stock, with a par value of $.0001 per share. As of March 31, 2011 and December 31, 2010, the Company has 4,226,256 , respectively, of shares of common stock issued and outstanding.

On February 25, 2010, we completed a “reverse acquisition” transaction, in which we entered into a securities exchange agreement (the “Exchange Agreement”) with Gamers Factory, Inc., a Maryland corporation (“Gamers” or the “Company”) and for certain limited purposes, its stockholders.  Pursuant to the Exchange Agreement, the shareholders of Gamers transferred all of the issued and outstanding shares of common stock of Gamers to us in exchange for 3,545,000 newly issued shares of our common stock (the “Transaction”).   As a result of the Transaction, Gamers became our wholly-owned subsidiary, with Gamers’ former shareholders acquiring a majority of the outstanding shares of our common stock.

 
18

 
 
GAME TRADING TECHNOLOGIES, INC. AND SUBSIDIARY
 Notes to Consolidated Condensed Financial Statements (Unaudited)
March 31, 2011
 

12. 
STOCK OPTIONS & WARRANTS
 
Employee Stock Options

The following table summarizes the changes in the options outstanding at March 31, 2011, and the related prices for the shares of the Company’s common stock issued to employees of the Company under a non-qualified employee stock option plan.

Range of
Exercise
Prices
   
Number
Outstanding
   
Weighted
Average
Exercise
Price
   
Weighted
Average
Remaining
Contractual
Life
   
Number
Exercisable
   
Weighted
Average
Exercise
Price
 
                                 
$
4.50
     
500,000
   
$
4.50
     
3.91
     
166,667
   
$
4.50
 
 
5.00
     
137,500
     
5.00
     
4.39
     
54,167
     
5.00
 
 
8.20
     
25,000
     
8.20
     
4.75
     
8,333
     
8.20
 
 
9.20
     
50,000
     
9.20
     
3.94
     
33,333
     
9.20
 
 
9.50
     
30,000
     
9.50
     
4.06
     
10,000
     
9.50
 
                                             
         
742,500
             
4.03
     
272,500
         

A summary of the Company’s stock awards for options as of December 31, 2010 and changes for the three months ended March 31, 2011 is presented below:

   
Options 
and Warrants
   
Weighted
Average
Exercise
Price
 
Outstanding, December 31, 2010
   
742,500
   
$
5.24
 
Granted
   
     
 
Exercised
   
     
 
Expired/Cancelled
   
     
 
Outstanding, March 31, 2011
   
742,500
     
5.24
 
Exercisable, March 31, 2011
   
272,500
     
5.47
 
 
 
19

 

GAME TRADING TECHNOLOGIES, INC. AND SUBSIDIARY
 Notes to Consolidated Condensed Financial Statements (Unaudited)
March 31, 2011
 
 
The weighted-average fair value of stock options granted to employees during the three-month period ended March 31, 2011and 2010 and the weighted-average significant assumptions used to determine those fair values, using a Black-Scholes-Merton (“Black-Scholes”) option pricing model are as follows:

   
March 31, 2011
   
March 31, 2010
 
Significant assumptions (weighted-average):
           
Risk-free interest rate at grant date
   
-
     
3.5
%
Expected stock price volatility
   
-
 
   
74
%
Expected dividend payout
   
-
     
-
 
Expected option life (in years)
   
-
     
5.0
 
Expected forfeiture rate
   
-
 
   
0
%
Fair value per share of options granted
 
$
-
   
$
3.39
 

The expected life of awards granted represents the period of time that they are expected to be outstanding. The Company has no historical experience with which to establish a basis for determining an expected life of these awards. Therefore, the Company only gave consideration to the contractual terms and did not consider the vesting schedules, exercise patterns and pre-vesting and post-vesting forfeitures significant to the expected life of the option award.
 
We estimate the volatility of our common stock based on the calculated historical volatility of similar entities in industry, in size and in financial leverage whose shares prices are publicly available. The Company based the risk-free interest rate used in the Black-Scholes option valuation model on the implied yield currently available on U.S. Treasury zero-coupon issues with an equivalent remaining term equal to the expected life of the award. The Company has not paid any cash dividends on its common stock and does not anticipate paying any cash dividends in the foreseeable future. Consequently, the Company used an expected dividend yield of zero in the Black-Scholes option valuation model.

Total stock-based compensation expense in connection with options granted to employees recognized in the unaudited condensed consolidated statement of operations for the three months ended March 31, 2011 was $377,551, and for the three ended March 31, 2010 was $286,032, respectively, net of tax effect. Additionally, the aggregate intrinsic value of options outstanding and unvested as of March 31, 2011 is $0.

Warrants

The following table summarizes the changes in the warrants outstanding at March 31, 2011, and the related prices for the shares of the Company’s common stock issued to non-employees of the Company.  These warrants were issued in lieu of cash compensation for services performed or financing expenses and in connection with the Series A preferred private placement.

Range of
Exercise
Prices
   
Number
Outstanding
   
Weighted
Average
Exercise
Price
   
Weighted
Average
Remaining
Contractual
Life
   
Number
Exercisable
   
Weighted
Average
Exercise
Price
 
                                 
$
1.30
     
560,000
   
$
1.30
     
2.81
     
560,000
   
$
1.30
 
 
5.00
     
1,463,750
     
5.00
     
3.96
     
1,463,750
     
5.00
 
                                             
         
2,023,750
             
3.64
     
2,023,750
         
 
 
20

 

GAME TRADING TECHNOLOGIES, INC. AND SUBSIDIARY
 Notes to Consolidated Condensed Financial Statements (Unaudited)
March 31, 2011
 
 
A summary of the Company’s stock awards for warrants as of December 31, 2010 and changes for the three months ended March 31, 2011 is presented below:

   
Options 
and Warrants
   
Weighted
Average
Exercise
Price
 
Outstanding, December 31, 2010
   
2,023,750
   
$
3.98
 
Granted
   
     
 
Exercised
   
     
 
Expired/Cancelled
   
     
 
Outstanding, March 31, 2011
   
2,023,750
     
3.98
 
Exercisable, March 31, 2011
   
2.023,750
     
3.98
 

The Company issued 1,418,750 warrants to holders of Series A Preferred Stock (The "Series A Warrant") and 200,000 compensatory warrants to non-employees during the year ended December 31, 2010.  Each Series A Warrant entitles the holder thereof to purchase one share of our common stock, has a term of five years from the date of issuance and an exercise price of $5.00.  The Series A warrants shall become exercisable on a cashless exercise basis if the underlying shares have not been fully registered within twelve months of the closing of the February 2010 private placement.  Under ASC 718 (formerly SFAS 123(R) "Share Base Payment"), the Company estimates the fair value of each stock award at the grant date by using the Black-Scholes option pricing model with the following weighted average assumptions used for the grants, respectively; dividend yield of zero percent for all periods; expected volatility is 74%; risk-free interest rate of .41%; expected lives ranging from three years to five years.

Total non-employee stock-based compensation expense in connection with warrants recognized in the unaudited condensed consolidated statement of operations for the three months ended March 31, 2011 and 2010 was $0 and $1,579,690, respectively, net of tax effect.

13. 
LOSSES PER COMMON SHARE
 
The following table presents the computations of basic and dilutive loss per share:

   
2011
   
2010
 
Net Income (Loss)
 
$
(1,319,584
 
$
(1,638,997
                 
Net income (loss) per share:
               
Net income (loss) per share – basic & diluted
 
$
(0.31
 
$
(0.43
                 
Weighted average common shares outstanding – basic & diluted
   
4,226,256
     
3,771,667
 
 
For the three months ended March  31, 2011 and 2010, there were 1,493,056 and 1,555,772 potential shares were excluded from shares used to calculate diluted losses per share, respectively, as their inclusion would reduce net losses per share.

14. 
BUSINESS CONCENTRATION

Revenue from two (2) major customers accounted for $5,742,767 and from two (2) major customers accounted for $10,008,518 for the three months ended March 31,  2011 and 2010, respectively.  These amounts represent 63% (38% and 25%, respectively) and 87% (74% and 13%, respectively) of the Company’s revenue for the three months ended March 31, 2011 and 2010, respectively. As of March 31, 2011 and 2010, these customers accounted for 49% and 96% of accounts receivable, respectively.

Purchases from four (4) major suppliers approximated $6,665,922 of purchases, and four (4) major suppliers approximated $6,092,423 of purchases, for the three months ended March 31, 2011 and 2010, respectively. These amounts represent 76% (28%, 20%, 14% and 14%, respectively) and 59% (25%, 12%, 11% and 11%, respectively) of the Company’s supplies for the three months ended March 31, 2011 and 2010, respectively. As of March 31, 2011 and 2010, these suppliers accounted for 66% and 37% of accounts payable, respectively.
 
 
21

 
 
GAME TRADING TECHNOLOGIES, INC. AND SUBSIDIARY
 Notes to Consolidated Condensed Financial Statements (Unaudited)
March 31, 2011


15.              SUBSEQUENT EVENTS


On April 15, 2011, the Company entered into a Sales Agency and Purchasing/Sales Services Agreement (the “Sales Agreement”) with GAMERS FINANCE, LLC (“Gamers Finance”) pursuant to which Gamers Finance engaged the Company to procure, purchase and sell up pre-owned video games and associated packaging materials, together with such other merchandise as designated by Gamers Finance, on behalf of Gamers Finance for a period from April 15, 2011 until October 15, 2011. In consideration for the services to be performed by Gamers under the Sales Agreement, Gamers is entitled to receive 70% of the aggregate net profit, if any, from the sale of products procured by Gamers Finance with the assistance of the Company. The aggregate net profits is defined as gross revenue net of i) applicable sales taxes ii) sales expenses iii) all discounts, allowances and credits, less the sum of (1) aggregate purchase price of products (2) all shipping and delivery costs and (3) a capital charge of 0.115% per day of the Term of all Committed Capital.  If we consummate an equity or equity-linked financing pursuant to which we raise aggregate gross proceeds of at least $6,000,000, Gamers Finance shall have the right to transfer, assign and sell to Gamers (i) any outstanding receivables for the face value of such receivables or (ii) products not sold to any purchasers for the purchase price of such products plus 10%. In addition, to the extent we are delinquent in paying Gamers Finance any such amounts to which it is entitled under the Sales Agreement, we are obligated to pay liquidated damages to Gamers Finance, for each day that we are delinquent in our payment obligations, in an amount equal to 0.25% of the amount not paid to Gamers Finance when due. Furthermore, Mr. Hays, the Company's President and Chief Executive Officer provided a personal guaranty in favor of Gamers Finance through the agreement period October 15, 2011. The Company has product advances of approximately $733,000 from Gamers Finance as of May 13, 2011.

On May 12, 2011, the Borrower entered into the second amendment (the “Second Amendment”) to the amended and restated loan agreement, dated November 23, 2010, as amended on January 28, 2011  (the “Amended Loan Agreement”) with Bank of America, N.A (the “Bank”).  The Second Amendment provides, among other things, that (i) the credit limit (x) is currently $3,858,285 and will increase upon certain events as set forth in the Second Amendment, (ii) the percentage of the balance due on Acceptable Receivables (as defined in the Amended Loan Agreement) in calculating the amount available under revolving line of credit to the Borrower has been reduced from 80% to 75%, (iii) the account balance does not include the amount of any counterclaims or offsets which have been or may be asserted against the Borrower by the account debtor (including offsets for any “contra accounts” owed by the Borrower to the account debtor for goods purchased by the Borrower or for services performed for the Borrower, (iv) effective April 1, 2011, the interest rate is a rate per year equal to the BBA LIBOR Daily Floating Rate plus an additional margin of 800 basis points per annum and (v) the expiration date of the line of credit has been extended from May 21, 2011 until August 26, 2011, or such earlier date as provided in the Second Amendment.
 
 
22

 
 
Item 2.      Management’s Discussion and Analysis of Financial Condition and Results of Operations
 
This Management's Discussion and Analysis of Financial Condition and Results of Operations includes a number of forward-looking statements that reflect Management's current views with respect to future events and financial performance. You can identify these statements by forward-looking words such as “may,” “will,” “expect,” “anticipate,” “believe,” “estimate” and “continue,” or similar words.  Those statements include statements regarding the intent, belief or current expectations of us and members of our management team as well as the assumptions on which such statements are based. Prospective investors are cautioned that any such forward-looking statements are not guarantees of future performance and involve risk and uncertainties, and that actual results may differ materially from those contemplated by such forward-looking statements.
 
Readers are urged to carefully review and consider the various disclosures made by us in this report and in our other reports filed with the Securities and Exchange Commission. The following Management’s Discussion and Analysis of Financial Condition and Results of Operations of the Company should be read in conjunction with the Consolidated Financial Statements and notes related thereto included in this Quarterly Report on Form 10-Q. Important  factors  currently  known  to Management  could  cause  actual  results  to differ  materially  from  those in forward-looking  statements.  We undertake no obligation to update or revise forward-looking statements to reflect changed assumptions, the occurrence of unanticipated events or changes in the future operating results over time. We believe that our assumptions are based upon reasonable data derived from and known about our business and operations.  No assurances are made that actual results of operations or the results of our future activities will not differ materially from our assumptions.  Factors that could cause differences include, but are not limited to, expected market demand for our products, fluctuations in pricing for materials, and competition.
 
Overview
 
We are a leading provider of comprehensive trading solutions and services for video game retailers, publishers, rental companies, and consumers. Through our trading platform, we provide our customers with extensive services including valuation, procurement, refurbishment, and merchandising of pre-owned video games. Additionally, through our trading platform, we process and market video game consoles, DVDs, and video game accessories, and provide related e-commerce retailing and interactive marketing services.
 
On February 25, 2010, we completed a “reverse acquisition” transaction (the “Transaction”), in which we entered into the Exchange Agreement with Gamers and for certain limited purposes, its stockholders. Pursuant to the Exchange Agreement, we acquired all of the issued and outstanding securities of Gamers in exchange for the issuance by us of 3,545,000 shares of our common stock and warrants to purchase 580,000 shares of our common stock. At the time of the Transaction, our corporate name was City Language Exchange, Inc. Following the Transaction, we changed our name to Game Trading Technologies, Inc. and our current trading symbol is “GMTD.PK.” As a result of the Transaction, Gamers became our wholly-owned subsidiary, with Gamers’ former stockholders acquiring a majority of the outstanding shares of our common stock.
 
The transactions contemplated by the Exchange Agreement are being accounted for as a “reverse acquisition,” since the stockholders of Gamers owned a majority of the outstanding shares of our common stock immediately following the Transaction. Gamers is deemed to be the acquirer in the Transaction and, consequently, the assets and liabilities and the historical operations that are reflected in the financial statements are those of Gamers and are recorded at the historical cost basis of Gamers. Except for the right of the holders of our series A convertible preferred stock, as a class, to elect one of our directors, no arrangements or understandings exist among present or former controlling stockholders with respect to the election of members of our board of directors and, to our knowledge, no other arrangements exist that might result in a change of control of our company.
 
In connection with the closing of the Transaction, we completed the closing of a private placement (referred to herein as the “February 2010 private placement”) of $3,900,000 of units (each, a “Unit” and collectively, the “Units”) to purchasers that qualified as “accredited investors”, as defined in Regulation D promulgated under the Securities Act of 1933, as amended, pursuant to the terms of a Securities Purchase Agreement, dated as of February 25, 2010 (the “Securities Purchase Agreement”), with each Unit consisting of one share of our series A convertible preferred stock and a warrant to purchase one share of our common stock. Each share of series A convertible preferred stock has a stated value equal to $2.00 per share and is initially convertible at any time into shares of our common stock at a conversion price equal to $4.00 per share or an aggregate of 975,000 shares of common stock with respect to all shares of series A convertible preferred stock issued at the closing of our February 2010 private placement, subject to adjustment under certain circumstances. Each warrant entitles the holder to purchase one share of common stock (equivalent to 100% warrant coverage in respect of the shares underlying the series A convertible preferred stock) at an exercise price of $5.00 per share through February 25, 2015.
 
 
23

 
 
At the closing of our February 2010 private placement, buyers that purchased shares of our series A convertible preferred stock with a stated value of at least $150,000 received a unit purchase option (the “Unit Purchase Option”) to purchase, on the same terms as those Units sold at the closing of our February 2010 private placement, additional Units of series A convertible preferred stock and warrants equal to 50% of the Units they purchased at the closing of our February 2010 private placement. Holders of Unit Purchase Options have exercised Unit Purchase Options to purchase 443,750 Units for aggregate gross proceeds of $1,775,000. The shares of common stock underlying the Units issued upon exercise of the Unit Purchase Options are entitled to the same registration rights as those securities underlying the Units issued at the closing of our February 2010 private placement.
 
Effective June 30, 2010, the holders of our outstanding shares of series A convertible preferred stock and of the outstanding warrants to purchase shares of common stock (collectively, the “Warrants”) issued pursuant to the Securities Purchase Agreement, agreed to amend the terms of the series A convertible preferred stock and Warrants in the following manner:
 
 
 
The parties agreed to add a provision to the certificate of designation for the Series A Preferred Stock whereby the minimum price that the conversion price of the series A convertible preferred stock may be reduced shall be equal to $1.00;
 
 
 
The parties agreed to add a provision to the Warrants whereby the minimum price that the exercise price of the Warrants may be reduced shall be equal to $1.00; and
 
 
 
The parties agreed to add a provision to the Securities Purchase Agreement whereby until the 36 month anniversary of the date of the Securities Purchase Agreement, we shall not issue any of our equity securities below $1.00 without the prior written consent of any holder who was issued a Warrant for an aggregate of 2% or more of the Warrants initially issued pursuant to the Securities Purchase Agreement.
 
Bank of America Amended and Restated Loan Agreement
 
On November 23, 2010, we and our wholly owned subsidiary, Gamers Factory, Inc. (“Gamers” and collectively with the Company, the “Borrower”), entered into an amended and restated loan agreement (the “Amended and Restated Loan Agreement”) with Bank. The Amended and Restated Loan Agreement provides for a revolving line of credit to the Borrower equal to the lesser of (i) $5,000,000 or (ii) the sum of (a) 80% of the balance due on Acceptable Receivables (as defined in the Amended and Restated Loan Agreement) and (b) the lesser of $1,500,000 or 20% of the value of Acceptable Inventory (as defined in the Amended and Restated Loan Agreement).
 
The Borrower has the right to prepay loans under the Amended and Restated Loan Agreement in whole or in part at any time. All amounts borrowed under the Loan Agreement must be repaid on or before May 27, 2011. Loans under the Amended and Restated Loan Agreement bear interest at a rate equal to the British Bankers Association London interbank offered rate plus 2.50% per annum. In connection with the Amended and Restated Loan Agreement, as security for any obligation of the Borrower to Bank under the Amended and Restated Loan Agreement, the Borrower and Bank entered into an amended and restated security agreement, dated November 23, 2010 pursuant to which the Borrower granted Bank a first priority security interest in substantially all of the assets of Borrower.
 
On January 28, 2011, Borrower entered into the first amendment (the “First Amendment”) to the Amended and Restated Loan Agreement with Bank. The First Amendment provides that the revolving line of credit to the Borrower is now equal to the lesser of (i) $5,000,000 or (ii) the sum of (a) (1) for the period lasting from December 31, 2010 through and including February 15, 2011, 85% of the balance due on Acceptable Receivables (as defined in the Amended and Restated Loan Agreement) and (2) thereafter, 80% of the balance due on Acceptable Receivables (as defined in the Amended and Restated Loan Agreement) and (b) (1) for the period lasting from December 31, 2010 through and including February 15, 2011, the lesser of $2,000,000 or 25% of the value of Acceptable Inventory (as defined in the Amended and Restated Loan Agreement) and (2) thereafter, the lesser of $1,500,000 or 20% of the value of Acceptable Inventory (as defined in the Amended and Restated Loan Agreement).

As of March 31, 2011, the balance on the revolver was $4,483,285.

On May 12, 2011, the Borrower entered into the second amendment (the “Second Amendment”) to the amended and restated loan agreement, dated November 23, 2010, as amended on January 28, 2011  (the “Amended Loan Agreement”) with Bank of America, N.A (the “Bank”).  The Second Amendment provides, among other things, that (i) the credit limit (x) is currently $3,858,285 and will increase upon certain events as set forth in the Second Amendment, (ii) the percentage of the balance due on Acceptable Receivables (as defined in the Amended Loan Agreement) in calculating the amount available under revolving line of credit to the Borrower has been reduced from 80% to 75%, (iii) the account balance does not include the amount of any counterclaims or offsets which have been or may be asserted against the Borrower by the account debtor (including offsets for any “contra accounts” owed by the Borrower to the account debtor for goods purchased by the Borrower or for services performed for the Borrower, (iv) effective April 1, 2011, the interest rate is a rate per year equal to the BBA LIBOR Daily Floating Rate plus an additional margin of 800 basis points per annum and (v) the expiration date of the line of credit has been extended from May 21, 2011 until August 26, 2011, or such earlier date as provided in the Second Amendment.

On May 12, 2011, the Company received a notice of waiver of the “Funded debt to EBITDA ratio” and the “Basic Fixed Charge Coverage Ratio” requirements under the line of credit facility, as such terms are defined in items, respectively, of the line of credit agreement.  The waiver is effective for the debt covenant requirement at March  31, 2011. The Company further agreed to suspend usage of the line of credit in excess of $3,858,285 pending further certain events as set forth in the Second Amendment.
 
Seasonality
 
Our business is seasonal since we rely upon retailers and consumers, with the major portion of our sales and operating profits occurring during the first fiscal quarter following the holiday selling season. Since our supply of video game products depends significantly on consumer trade-ins and returns, there exists significant supply of these items immediately following the holiday season in January through March. Historically, our sales lag the holiday season by one quarter. We have historically generated our highest sales and operating profits during the first quarter of the year.
 
 
24

 

Results of Operations - Three months ended March 31, 2011 compared to the Three months ended March 31, 2010

The table below outlines revenues and related cost of sales for comparable periods:

 
Three months ended March 31,
 
 
2011
 
2010
 
Variance
 
                               
Net Sales
 
$
9,152,122
     
100
%
 
$
11,525,287
     
100
%
 
$
(2,373,165
   
-21
%
Cost of Sales
   
8,800,384
     
96
%
   
9,921,353
     
86
%
   
(1,120,969
   
-11
%
Gross Profit
 
$
351,738
     
4
%
 
$
1,603,934
     
14
%
 
$
(1,252,196
 )
   
-78
%
 
Net Sales. Net sales decreased by $2,373,165, or 21%, compared to the three months ended March 31, 2010.    The decrease was due primarily to constrained working capital and product financing availability.
 
Cost of Sales. Cost of sales consists of product costs, cost of commissions and product financing costs, cost of freight-in, and distribution center labor and overhead costs. Cost of sales during the three months ended March 31, 2011  decreased  by $1,120,969, or 11%, to $8,800,384  from $9,921,3553  during the three months ended March 31, 2010. The decrease in cost of sales is attributable to decrease sales volume compared to the prior year period as well as an increase in per unit average product and labor costs compared to the prior period. Furthermore, in the prior year period the Company entered into a product financing arrangements under ASC 470-40 which the corresponding costs have been included in Statement of Operations as cost of sales of product financing costs of $291,000 for the three months ended March 31, 2010. There were no product financing arrangements in the three months ended March 31, 2011.
   
Gross Profit. Gross profit during the three months ended March 31, 2011 decreased by $1,252,196, or 78%, to $351,738  from $1,603,934 during the three months ended March 31, 2010, and gross profit as a percentage of net sales decreased to 4% in period  from 14% in the prior year period. The decrease in gross profit margin is attributable to an unanticipated higher per unit labor requirement to service the Retail Ready programs and a more selective product requirement for our bulk sales.  In the prior year period, gross profit margin was further impacted by a higher cost of sales due to broker fees and other costs associated with obtaining special credit terms with certain vendors and product financing arrangements. Exclusive of the product financing costs for the months ended March 31, 2011 and 2010, the gross margins remained 4% and increased to 16% respectively.

Operating Expense . Operating expenses, which consist of sales and marketing expenses, general and administrative costs, financing and merger transaction costs, stock based compensation and depreciation. The operating expenses for the three months ended March 31, 2011 decreased by $1,794,759, or 56%, to $1,429,731 from $3,224,490 during the three months ended March 31, 2010. The major component of these decreased expenses between the corresponding periods was the prior year period financing and merger transaction costs of $436,354  and the prior year period non-employee stock based compensation of $1,579,689 for the three months ended March 31, 2010.

Selling, General and Administrative Expenses (SG&A). The SG&A expenses consist of salaries, advertising, professional service fees, investor relations services and overhead expenses, totaled $1,029,425 during the three months ended March 31, 2011 as compared to $1,334,705 during the three months ended March 31, 2010 resulting in a decrease of $305,280, or 23%. Financing & merger transaction costs in 2010 amounted to $436,354 of the increase as the Company merged into a public entity and correspondingly raised gross proceeds of $3.9 million through the February 2010 private placement. Outbound shipping expense decreased by $130,154, or 53%, to $115,597 for the three months ended March 31, 2011.

 
25

 
 
Stock Based Compensation . During the three months ended March 31, 2011 and 2010, the employee stock based compensation expense was $377,551 and $286,032 from issuances of employee incentive stock options, respectively. The incentive stock options were valued using the Black Scholes method and the option shall become exercisable during the term of recipient’s employment.
 
Non-Employee Stock Based Compensation . For the three ended March 31, 2010, $1,579,689 non-cash charges were due to the issuance of stock warrants in exchange for professional services associated with reverse merger and private placement consummated in February 2010.  The value of the warrants was determined using the Black Scholes method, the details of which are more fully explained within the notes to the financial statements.  There was no warrant issuances in the three months ended March 31, 2011.
 .
Product Financing Liquidated Damages. In accordance with the agreement (the “DK Trading Sales Agreement”), dated July 22, 2010, between Gamers  and  DK Trading Partners LLC ( “DK Trading”), to the extent we are delinquent in paying DK Trading any such amounts to which it is entitled under the DK Trading Sales Agreement, we are obligated to pay liquidated damages to DK Trading, for each day that we are delinquent in our payment obligations, in an amount equal to 0.25% of the amount not paid to DK Trading when due. The balance due to DK Trading at March 31, 2011 amounted to $1,116,203,including $210,641 expensed as liquidated damages for delinquent payments in the three months ended March 31, 2011 and $306,000 from the 4th quarter 2010. Further description of DK Trading Sales Agreement detailed in "Liquidity and Capital Resources" section and "Product Financing-Related Parties" in Note 4.
 
Registration Rights Liquidated Damages. The registration rights agreement we entered into in connection with the February 2010 private placement requires the payment of liquidated damages to the investors of approximately 2% per month of the aggregate proceeds of $5,675,000 or the value of the unregistered shares at the time that the liquidated damages are assessed, until the registration statement is declared effective, payable at the option of the Company. On October 22, 2010, the holders of our Series A Preferred Stock and Series A Warranted issued in our February 2010 private placement agreed to waive any liquidated damages payable as a result of the failure to have a registration statement declared effective by October 23, 2010 until November 23, 2010.  In accordance with ASC topic 815-40 "Derivatives and Hedging - Contracts in Entity's Own Equity" formerly Financial Accounting Standards board (FASB) Staff Position EITF 00-19-2, “Accounting for Registration Payment Arrangements”, the Company evaluated the likelihood of achieving registration statement effectiveness.  Accordingly, the Company previously accrued an estimate of $380,000 and as of March 31, 2011 and December 31, 2010, to account for these liquidated damages from November 23, 2010 through the Rule 144 restriction period of March 8, 2011.
 
Provision for Income Taxes. We are not been required to pay income taxes due to current year losses and net operating loss carryforwards from prior years.

Net Income (Loss). We had a net loss of $1,319,584 for the three months ended March 31, 2011 as compared to a net loss of $1,638,997 for the three months ended March 31, 2010. The decrease in net loss is due to the decrease in sales and related gross profit offset by the prior year one-time merger and financing costs and the charges resulting from the warrants and stock options issuances related to the prior year private placement.

Seasonality
 
Our business is seasonal since we rely upon retailers and consumers, with the major portion of our sales and operating profits occurring during the first fiscal quarter following the holiday selling season.  Since our supply of video game products depends significantly on consumer trade-ins and returns, there exists significant supply of these items immediately following the holiday season in January through March. Historically, our sales lag the holiday season by one quarter. We have historically generated our highest sales and operating profits during the first quarter of the year.
 
Liquidity and Capital Resources
 
We have financed our operations since inception primarily through private and public offerings of our equity securities and the issuance of various debt instruments and asset based lending.

Working Capital

Our working capital decreased by $1,024,203, during the three months ended March 31, 2011 from a working capital surplus of $1,646,843 at December 31, 2010 to a working capital surplus of $622,640 at March 31, 2011.

 
26

 
 
The major changes in the working capital for the three months ended March 31, 2011 are as follows:
 
Changes in Current Assets
 
 
 
Accounts receivable increased in the amount of $ 1,212,007
 
 
 
Inventory increased $1,052,963 for purchases of inventory
 
Change in Current Liabilities
 
 
 
Accounts payable increased  in the amount of $3,152,891

 
 
A decrease  in Product Financing - related party advances of $673,359
 
 
 
An increase financing net proceeds from the Bank of America working line of credit of $395,000
 
 
 
An increase in advances from a customer of $630,000

Of the total current assets of $16,007,157 as of March 31, 2011, cash represented $1,223,420.  Of the total current assets of $13,374,054 as of December 31, 2010, cash represented $827,526.

Working Capital Line of Credit
 
On May 4, 2010, Gamers, our wholly owned subsidiary, entered into a Loan Agreement (the “Loan Agreement”) with the Bank. The Loan Agreement provides for a revolving line of credit to the Borrower equal to the lesser of (i) $5,000,000 (the “Credit Limit”) or the sum of (a) 75% of the balance due on Acceptable Receivables (as defined in the Loan Agreement) and (b) the lesser of $1,500,000 or 20% of the value of Acceptable Inventory (as defined in the Loan Agreement). Gamers have the right to prepay loans under the Loan Agreement in whole or in part at any time. All amounts borrowed under the Loan Agreement must be repaid on or before May 27, 2011.
 
Initial borrowings under the Loan Agreement were subject to, among other things, the substantially concurrent repayment by Gamers of all amounts due and owing under the Gamers' existing second amended and restated loan agreement and $1,800,000 second amended and restated promissory note, each dated December 29, 2009, respectively, with The Columbia Bank and the satisfaction and termination of such borrowing (collectively, the “Columbia Bank Loan”). All amounts owed under the Columbia Bank Loan were satisfied and terminated by Gamers on May 6, 2010.
  
On November 23, 2010, the Borrower entered into an Amended and Restated Loan Agreement with the Bank. The Amended and Restated Loan Agreement provides for a revolving line of credit to the Borrower equal to the lesser of (i) $5,000,000 or (ii) the sum of (a) 80% of the balance due on Acceptable Receivables (as defined in the Amended and Restated Loan Agreement) and (b) the lesser of $1,500,000 or 20% of the value of Acceptable Inventory (as defined in the Amended and Restated Loan Agreement).
 
The Borrower has the right to prepay loans under the Amended and Restated Loan Agreement in whole or in part at any time. All amounts borrowed under the Loan Agreement must be repaid on or before May 27, 2011. Loans under the Amended and Restated Loan Agreement bear interest at a rate equal to BBA LIBOR plus 2.50% per annum. In connection with the Amended and Restated Loan Agreement, as security for any obligation of the Borrower to Bank under the Amended and Restated Loan Agreement, the Borrower and Bank entered into an amended and restated security agreement, dated November 23, 2010 pursuant to which the Borrower granted Bank a first priority security interest in substantially all of the assets of Borrower.
 
On January 28, 2011, Borrower entered into the First Amendment to the Amended and Restated Loan Agreement with Bank. The First Amendment provides that the revolving line of credit to the Borrower is now equal to the lesser of (i) $5,000,000 or (ii) the sum of (a) (1) for the period lasting from December 31, 2010 through and including February 15, 2011, 85% of the balance due on Acceptable Receivables (as defined in the Amended and Restated Loan Agreement) and (2) thereafter, 80% of the balance due on Acceptable Receivables (as defined in the Amended and Restated Loan Agreement) (b) (1) for the period lasting from December 31, 2010 through and including February 15, 2011, the lesser of $2,000,000 or 25% of the value of Acceptable Inventory (as defined in the Amended and Restated Loan Agreement) and (2) thereafter, the lesser of $1,500,000 or 20% of the value of Acceptable Inventory (as defined in the Amended and Restated Loan Agreement).
 
As of March 31, 2011, the balance on the revolver was $4,483,285.

On May 12, 2011, the Borrower entered into the second amendment (the “Second Amendment”) to the amended and restated loan agreement, dated November 23, 2010, as amended on January 28, 2011  (the “Amended Loan Agreement”) with Bank of America, N.A (the “Bank”).  The Second Amendment provides, among other things, that (i) the credit limit (x) is currently $3,858,285 and will increase upon certain events as set forth in the Second Amendment, (ii) the percentage of the balance due on Acceptable Receivables (as defined in the Amended Loan Agreement) in calculating the amount available under revolving line of credit to the Borrower has been reduced from 80% to 75%, (iii) the account balance does not include the amount of any counterclaims or offsets which have been or may be asserted against the Borrower by the account debtor (including offsets for any “contra accounts” owed by the Borrower to the account debtor for goods purchased by the Borrower or for services performed for the Borrower, (iv) effective April 1, 2011, the interest rate is a rate per year equal to the BBA LIBOR Daily Floating Rate plus an additional margin of 800 basis points per annum and (v) the expiration date of the line of credit has been extended from May 21, 2011 until August 26, 2011, or such earlier date as provided in the Second Amendment.

On May 12, 2011, the Company received a notice of waiver of the “Funded debt to EBITDA ratio” and the “Basic Fixed Charge Coverage Ratio” requirements under the line of credit facility, as such terms are defined in items, respectively, of the line of credit agreement.  The waiver is effective for the debt covenant requirement at March  31, 2011. The Company further agreed to suspend usage of the line of credit in excess of $3,858,285 pending further certain events as set forth in the Second Amendment.
 
Product Financing - Related Party
 
On July 22, 2010, Gamers entered into a DK Trading Sales Agreement with DK Trading pursuant to which DK Trading engaged Gamers to procure, purchase and sell up to $3,000,000 of pre-owned video games and associated packaging materials, together with such other merchandise as designated by DK Trading, on behalf of DK Trading for a period from August 13, 2010 until September 15, 2010. In consideration for the services to be performed by Gamers under the Sales Agreement, Gamers is entitled to receive 100% of the net profit, if any, from the sale of products procured by DK Trading with the assistance of Gamers in excess of $600,000. If we or Gamers consummate an equity or equity-linked financing pursuant to which we raise aggregate gross proceeds of at least $3,000,000, DK Trading shall have the right to transfer, assign and sell to Gamers (i) any outstanding receivables for the face value of such receivables or (ii) products not sold to any purchasers for the purchase price of such products plus 20%. In addition, to the extent we are delinquent in paying DK Trading any such amounts to which it is entitled under the Sales Agreement, we are obligated to pay a fee to DK Trading, for each day that we are delinquent in our payment obligations, in an amount equal to 0.25% of the amount not paid to DK Trading when due. The balance due to DK Trading at March 31, 2011 amounted to $1,116,203 including $516,641 expensed as liquidated damages for delinquent payments.

Advances from Customer

On March 8, 2011, the Company received an advance from its largest customer in the amount of $630,000. There were no terms specified and the advance was applied to a subsequent invoice in May 2011.
 
 
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Proceeds from the issuance of common stock

During the three months ended March 31, 2011, the Company did not receive any proceeds from the issuance of its common stock.

Cashflow analysis

Cash proceeds provided by operations was $359,819 during the period ending March 31, 2011 and cash used in operations was $4,292,508 during the period ended March 31, 2010. During the period ended March 31, 2011, our primary capital needs were for working capital necessary to fund operations and inventory purchases.

We utilized cash for investing activities of $38,050 and $49,953 during the periods ended March 31, 2011 and 2010, respectively. This increase is primarily attributable to the acquisition of equipment.

Cash provided from financing activities of $74,125 during the period ending March 31, 2011, compared to cash provided from financing activities was $4,001,948 during the period ending March 31, 2010. The current period increase is due to proceeds from the line of credit of $395,000 and advances from a customer of $630,000 offset by repayments on product financing arrangements of $884,000 and dividend payments of $66,875. The prior year increase is primarily attributable to funds received from the February 2010 Series A preferred private placements of $3,900,000, note payable advances from a related party of $316,862 and proceeds from Product Financing - related parties for inventory purchases of $1,091,742. The prior year financing activities also included repayments of certain notes payable of $1,306,656 during the period ending March 31, 2010.

We believe that we will require additional financing to carry out our intended objectives during the next twelve months. There can be no assurance, however, that such financing will be available or, if it is available, that we will be able to structure such financing on terms acceptable to us and that it will be sufficient to fund our cash requirements until we can reach a level of profitable operations and positive cash flows. If we are unable to obtain the financing necessary to support our operations, we may be unable to continue as a going concern. We currently have no firm commitments for any additional capital.
 
The downturn in the United States stock and debt markets could make it more difficult to obtain financing through the issuance of equity or debt securities. Even if we are able to raise the funds required, it is possible that we could incur unexpected costs and expenses, fail to collect significant amounts owed to us, or experience unexpected cash requirements that would force us to seek alternative financing. Further, if we issue additional equity or debt securities, stockholders may experience additional dilution or the new equity securities may have rights, preferences or privileges senior to those of existing holders of our shares of common stock. Even if we are able to raise the funds required, it is possible that we could incur unexpected costs and expenses, fail to collect significant amounts owed to us, or experience unexpected cash requirements that would force us to seek alternative financing.   If additional financing is not available or is not available on acceptable terms, we will have to curtail our operations.
 
Off-Balance Sheet Arrangements
 
As of March 31, 2011, we had no off-balance sheet arrangements.
 
 Item 3.        Quantitative and Qualitative Disclosures About Market Risk
 
None.
 
 Item 4.      Controls and Procedures

 
Evaluation of Disclosure Controls and Procedures
 
Our management, with the participation of our Chief Executive Officer and Chief Financial Officer, carried out an evaluation of the effectiveness of the design and operation of its disclosure controls and procedures (as defined in Exchange Rule 13a-15(e)) as of March 31, 2011. Management recognizes that any disclosure controls and procedures no matter how well designed and operated, can only provide reasonable assurance of achieving their objectives and management necessarily applies its judgment in evaluating the cost-benefit relationship of possible controls and procedures. Our management has assessed the effectiveness of our disclosure controls and procedures and based upon that evaluation, our Chief Executive Officer and Chief Financial Officer concluded that our disclosure controls and procedures were not effective  as of March 31, 2011 because of the items set forth below:
 
  
 The Company did not have sufficient oversight to ensure financial reporting,  proper disclosures around related-party transactions or dissemination of the Company’s policies and procedures.

  
 The Company did not maintain effective controls over the period-end financial reporting process, including controls and supporting documentation with respect to journal entries, account reconciliations and proper segregation of duties.

  
The Company did not implement proper segregation of duties. In certain instances, persons responsible to review transactions for validity, completeness and accuracy were also responsible for preparation.

  
The Company’s stock option vesting determination was inaccurately established in February 2010 and warrant and stock option methodology was inconsistent with guidance.
 
 
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The Company did not maintain effective controls within the inventory function, including purchasing, receiving, returns, physical inventory and obsolescence analysis.

  
 The Company did not develop and maintain effective general computer controls, including use of a financial application and inventory management system that lack sufficient internal controls, ensuring proper security access within the financial and inventory management applications, ensuring proper change management procedures were followed, and ensuring adequate information technology procedures were followed in accordance with generally accepted best practices.

  
The Company failed to maintain effective controls within the revenue function, including monitoring major sales contracts to ensure revenue recognition criteria were identified and properly monitored to ensure revenue was recognized, inventory was relieved, and accounts receivable and cost of goods sold were recorded in the correct period.

MANAGEMENT’S REMEDIATION PLAN

Based on the control deficiencies identified above, we have designed and plan to implement, or in some cases have already implemented, the specific remediation initiatives described below:

  
Prior to filing this report, we designed and are implementing robust corporate governance including: (1) direct oversight of our internal controls by the Audit Committee of our Board of Directors; (2) detailed review of our Annual Report on Form 10-K and Quarterly Reports on Form 10-Q by the Audit Committee of our Board of Directors; (3) adoption and communication of our Code of Business Conduct and Ethics; (4) adoption and communication of our Policy on Insider Trading; (5) revision of policies within our employee handbook to ensure that appropriate disciplinary actions may be taken in the event an employee fails to properly perform their responsible internal controls or intentionally overrides any internal control and completion of employee training on the policy revisions; (6) adoption of charters for our Audit, Compensation, Governance and Nominating Committees of our Board of Directors; (7) adoption of our Whistleblower Policy, which includes our anonymous reporting system; and (8) adoption of our policy on reporting and investigating complaints regarding accounting, internal accounting controls or auditing matters and concerns regarding questionable accounting or auditing matters.

  
In September 2010, we hired a Chief Financial Officer with considerable public company reporting experience who is evaluating the depth and breadth of knowledge of US GAAP and external reporting requirements among the current members of the accounting staff. We are committed to establishing procedures and utilizing experienced individuals with professional supervision to properly segregate duties, prepare and approve the consolidated financial statements and footnote disclosures in accordance with US GAAP.

  
 Prior to filing this report, we improved our financial reporting and inventory and revenue procedures in financial reporting and in inventory and in revenue cycles and continue to implement fundamental controls aligned with our business strategy. There is a specific focus on customer contracts, revenue recognition and enhancing 3rd party shipper reporting requirements.

  
Prior to filing this report, we enhanced our stock option and warrant valuation procedures to incorporate a comparative analysis of firms similar to ours that have significant stock trading history.

  
The Board of Directors is more actively involved in providing additional oversight of the Company’s internal controls, formal review of our financial statements, and more detailed review of the draft periodic reports we anticipate filing with the SEC.

  
We have initiated efforts to ensure our employees understand the importance of internal controls and compliance with corporate policies and procedures. We will implement a reporting and certification process for management involved in the performance of internal controls and preparation of the Company’s financial statements.

  
We will design and implement a formalized financial reporting process that includes balance sheet reconciliations, properly prepared, supported and reviewed journal entries, properly segregated duties, and properly completed and approved close checklist and calendar.

  
We will initiate a formal feasibility assessment for implementing a compliant ERP system to replace our current financial software application and inventory management system during our current fiscal year. As part of this assessment, we will thoroughly review the roles and responsibilities of our staff involved in the performance of our financial close process and other internal controls to ensure duties are properly segregated, access rights within our new financial software application comply with designated roles and responsibilities and support the proper segregation of duties.

  
The Company may retain third party specialists to assist us in the design, implementation and testing of our internal controls as necessary.
 
Changes in Internal Control over Financial Reporting
 
There were no changes in our internal controls over financial reporting that occurred during the fiscal quarter covered by this report that materially affected, or were reasonably likely to materially affect such controls.
 
 
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PART II - OTHER INFORMATION
 
Item 1.       Legal Proceedings
 
We are not party to any legal proceedings, nor are we aware of any contemplated or pending legal proceedings against us.
    
Item 1A.    Risk Factors
 
Not applicable.
 
Item 2.       Unregistered Sales of Equity Securities and Use of Proceeds
None.

Item 3.       Defaults Upon Senior Securities
 
                   None.
 
Item 4.       Removed and Reserved    
  

Item 5.       Other Information
 
                   None.
 
Item 6.       Exhibits
 
                   Exhibits required by Item 601 of Regulation S-K:
 
Number
 
Description
     
31.1
 
Certification as Adopted Pursuant to Section 302(a) of the Sarbanes-Oxley Act of 2002 by Chief Executive Officer.
31.2
 
 Certification as Adopted Pursuant to Section 302(a) of the Sarbanes-Oxley Act of 2002 by Chief Financial Officer.
32.1
 
Certification Pursuant to 18 U.S.C. Section 1350, as Adopted Pursuant to Section 906 of the Sarbanes-Oxley Act of 2002 by Chief Executive Officer
32.2
 
Certification Pursuant to 18 U.S.C. Section 1350, as Adopted Pursuant to Section 906 of the Sarbanes-Oxley Act of 2002 by Chief Financial Officer.
 
 
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 SIGNATURES
 
In accordance with the requirements of the Securities Exchange Act of 1934, the registrant caused duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized.
 
 
GAME TRADING TECHNOLOGIES, INC
 
       
Date: May 16, 2011
By:
/s/ Todd Hays          
   
Todd Hays
 
   
Chief Executive Officer, President and Director
 
   
(principal executive officer)
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 

 
 
31

 

Game Trading Technologies, Inc.
Index to Exhibits

 
 
Number
 
Description
     
31.1
 
Certification as Adopted Pursuant to Section 302(a) of the Sarbanes-Oxley Act of 2002 by Chief Executive Officer.
31.2
 
Certification as Adopted Pursuant to Section 302(a) of the Sarbanes-Oxley Act of 2002 by Chief Financial Officer.
32.1
 
Certification Pursuant to 18 U.S.C. Section 1350, as Adopted Pursuant to Section 906 of the Sarbanes-Oxley Act of 2002 by Chief Executive Officer
32.2
 
Certification Pursuant to 18 U.S.C. Section 1350, as Adopted Pursuant to Section 906 of the Sarbanes-Oxley Act of 2002 by Chief Financial Officer.


 
 
 
 
 
 
 
 
 
 
 
 


 
 
 
 
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