<PAGE> 1
UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
----------------------------
FORM 10-Q
(Mark One)
X QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
--- SECURITIES EXCHANGE ACT OF 1934
For the quarterly period ended October 3, 1999
OR
TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
--- SECURITIES EXCHANGE ACT OF 1934
For the transition period from to
--------------- ----------------
Commission File No. 1-12962
LAKES GAMING, INC.
------------------
(Exact name of registrant as specified in its charter)
Minnesota 41-1913991
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(State or other jurisdiction (I.R.S. Employer
of incorporation or organization) Identification No.)
130 Cheshire Lane
Minnetonka, Minnesota 55305
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(Address of principal executive offices) (Zip Code)
(612) 449-9092
(Registrant's telephone number, including area code)
Indicate by check mark whether the registrant (1) has filed all reports required
to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during
the preceding 12 months (or for such shorter period that the registrant was
required to file such reports), and (2) has been subject to such filing
requirements for the past 90 days.
Yes X No
--- ---
As of November 15, 1999, there were 10,628,398 shares of Common Stock, $0.01 par
value per share, outstanding.
Page 1 of 29
<PAGE> 2
LAKES GAMING, INC. AND SUBSIDIARIES
INDEX
<TABLE>
<CAPTION>
PAGE OF
FORM 10-Q
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<S> <C>
PART I. FINANCIAL INFORMATION
ITEM 1. FINANCIAL STATEMENTS
Consolidated Balance Sheets as of 3
October 3, 1999 and January 3, 1999
Consolidated Statements of Earnings 4
for the three months ended October 3, 1999
and September 27, 1998
Consolidated Statements of Earnings for 5
the nine months ended October 3, 1999 and
September 27, 1998
Consolidated Statements of Cash Flows 6
for the nine months ended October 3, 1999
and September 27, 1998
Notes to Consolidated Financial Statements 7
ITEM 2. MANAGEMENT'S DISCUSSION AND 11
ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS
PART II. OTHER INFORMATION
ITEM 1. Legal Proceedings 20
ITEM 5. Other Information 25
ITEM 6. Exhibits and Reports On Form 8-K 27
</TABLE>
- 2 -
<PAGE> 3
LAKES GAMING, INC. AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
(IN THOUSANDS)
<TABLE>
<CAPTION>
OCTOBER 3, 1999 JANUARY 3, 1999
(UNAUDITED)
- --------------------------------------------------------------------------------------------------------------
<S> <C> <C>
ASSETS
Current Assets:
Cash and cash equivalents $53,749 $56,774
Current installments of notes receivable 14,810 8,561
Accounts receivable 6,580 15,217
Other current assets 8,148 8,126
- --------------------------------------------------------------------------------------------------------------
Total Current Assets 83,287 88,678
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Property and Equipment-Net 1,391 1,265
- --------------------------------------------------------------------------------------------------------------
Other Assets:
Land held for development 53,730 26,647
Notes receivable-less current installments 18,404 25,118
Cash and cash equivalents-restricted 4,649 4,992
Investments in and notes from unconsolidated affiliates 9,173 8,590
Other long-term assets 10,602 6,079
- --------------------------------------------------------------------------------------------------------------
Total Other Assets 96,558 71,426
- --------------------------------------------------------------------------------------------------------------
TOTAL ASSETS $181,236 $161,369
==============================================================================================================
LIABILITIES AND SHAREHOLDERS' EQUITY
Current Liabilities:
Accounts payable $215 $ -
Income taxes payable 7,955 10,811
Litigation and claims accrual 8,691 10,554
Other accrued expenses 4,377 4,625
- --------------------------------------------------------------------------------------------------------------
Total Current Liabilities 21,238 25,990
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Long-term Liabilities:
Long-term debt-less current installments 975 975
Deferred income taxes 2,593 2,733
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Total Long-Term Liabilities 3,568 3,708
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TOTAL LIABILITIES 24,806 29,698
- --------------------------------------------------------------------------------------------------------------
COMMITMENTS AND CONTINGENCIES
Shareholders' Equity:
Capital stock, $.01 par value; authorized 100,000 shares;
10,620 and 10,576 common shares issued and outstanding
at October 3, 1999, and January 3, 1999, respectively 106 106
Additional paid-in-capital 131,283 130,929
Accumulated other comprehensive earnings 417 636
Retained earnings 24,624 -
- --------------------------------------------------------------------------------------------------------------
Total Shareholders' Equity 156,430 131,671
- --------------------------------------------------------------------------------------------------------------
TOTAL LIABILITIES AND SHAREHOLDERS' EQUITY $181,236 $161,369
==============================================================================================================
</TABLE>
SEE ACCOMPANYING NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
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<PAGE> 4
LAKES GAMING, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF EARNINGS
(IN THOUSANDS, EXCEPT EARNINGS PER SHARE)
<TABLE>
<CAPTION>
THREE MONTHS ENDED
-------------------------------------
OCTOBER 3, 1999 SEPTEMBER 27, 1998
(UNAUDITED)
<S> <C> <C>
REVENUES:
Management fee income $14,440 $21,582
COSTS AND EXPENSES:
Selling, general and administrative 849 1,696
Depreciation and amortization 480 283
- --------------------------------------------------------------------------------------------------------
Total Costs and Expenses 1,329 1,979
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EARNINGS FROM OPERATIONS 13,111 19,603
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OTHER INCOME (EXPENSE):
Interest income 1,781 1,400
Interest expense (24) (24)
Equity in loss of unconsolidated affiliates (1,408) (41)
Other 129 29
- --------------------------------------------------------------------------------------------------------
Total other income, net 478 1,364
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Earnings before income taxes 13,589 20,967
Provision for income taxes 6,149 (4,316)
- --------------------------------------------------------------------------------------------------------
NET EARNINGS $7,440 $25,283
========================================================================================================
BASIC EARNINGS PER SHARE $0.70 $2.39
========================================================================================================
DILUTED EARNINGS PER SHARE $0.68 $2.37
========================================================================================================
WEIGHTED AVERAGE COMMON SHARES OUTSTANDING 10,606 10,573
DILUTIVE EFFECT OF STOCK COMPENSATION PROGRAMS 330 88
- --------------------------------------------------------------------------------------------------------
WEIGHTED AVERAGE COMMON AND DILUTED
SHARES OUTSTANDING 10,936 10,661
========================================================================================================
</TABLE>
SEE ACCOMPANYING NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
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<PAGE> 5
LAKES GAMING, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF EARNINGS
(IN THOUSANDS, EXCEPT EARNINGS PER SHARE)
<TABLE>
<CAPTION>
NINE MONTHS ENDED
------------------------------------
OCTOBER 3, 1999 SEPTEMBER 27, 1998
(UNAUDITED)
<S> <C> <C>
REVENUES:
Management fee income $44,441 $64,330
COSTS AND EXPENSES:
Selling, general and administrative 5,451 7,684
Depreciation and amortization 1,435 932
- --------------------------------------------------------------------------------------------------------
Total Costs and Expenses 6,886 8,616
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EARNINGS FROM OPERATIONS 37,555 55,714
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OTHER INCOME (EXPENSE):
Interest income 5,839 4,000
Interest expense (73) (73)
Equity in loss of unconsolidated affiliates (1,771) (266)
Other 1,417 257
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Total other income, net 5,412 3,918
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Earnings before income taxes 42,967 59,632
Provision for income taxes 18,343 10,327
- --------------------------------------------------------------------------------------------------------
NET EARNINGS $24,624 $49,305
========================================================================================================
BASIC EARNINGS PER SHARE $2.33 $4.68
========================================================================================================
DILUTED EARNINGS PER SHARE $2.28 $4.58
========================================================================================================
WEIGHTED AVERAGE COMMON SHARES OUTSTANDING 10,590 10,541
DILUTIVE EFFECT OF STOCK COMPENSATION PROGRAMS 215 226
- --------------------------------------------------------------------------------------------------------
WEIGHTED AVERAGE COMMON AND DILUTED
SHARES OUTSTANDING 10,805 10,767
========================================================================================================
</TABLE>
SEE ACCOMPANYING NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
- 5 -
<PAGE> 6
LAKES GAMING, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
(IN THOUSANDS)
<TABLE>
<CAPTION>
NINE MONTHS ENDED
-------------------------------------
OCTOBER 3, 1999 SEPTEMBER 27, 1998
(UNAUDITED)
<S> <C> <C>
OPERATING ACTIVITIES:
Net earnings 24,624 49,305
Adjustments to reconcile net earnings to net cash
provided by operating activities:
Depreciation and amortization 1,435 932
Gain on sale of investment (875) -
Equity in loss of unconsolidated affiliates 1,771 265
Changes in operating assets and liabilities:
Current assets 8,597 (2,342)
Income taxes (2,856) 17,637
Accounts payable 215 (77)
Accrued expenses (2,111) 483
Other (399) -
- ----------------------------------------------------------------------------------------------------------------------
Net Cash Provided by Operating Activities 30,401 66,203
- ----------------------------------------------------------------------------------------------------------------------
INVESTING ACTIVITIES:
Payments for property and equipment (230) (36)
Payments for notes receivable (6,763) (3,362)
Proceeds from repayment of notes receivable 8,521 4,745
Decrease (increase) in restricted cash 343 (3,767)
Investment in and notes receivable from unconsolidated affiliates (7,592) -
Payments for land held for development (21,868) (10,312)
Decrease (increase) in other long-term assets (6,191) 223
- ----------------------------------------------------------------------------------------------------------------------
Net Cash Used in Investing Activities (33,780) (12,509)
- ----------------------------------------------------------------------------------------------------------------------
FINANCING ACTIVITIES:
Distribution to Grand - (53,695)
Proceeds from issuance of common stock 354 -
Payments on long-term debt - (9)
- ----------------------------------------------------------------------------------------------------------------------
Net Cash Provided by (Used in) Financing Activities 354 (53,704)
- ----------------------------------------------------------------------------------------------------------------------
Net decrease in cash and cash equivalents (3,025) (10)
Cash and cash equivalents - beginning of period 56,774 33,208
- ----------------------------------------------------------------------------------------------------------------------
CASH AND CASH EQUIVALENTS - END OF PERIOD 53,749 33,198
======================================================================================================================
SUPPLEMENTAL DISCLOSURES OF CASH FLOW INFORMATION:
Cash paid during the period for:
Interest $73 $73
Income taxes 18,202 -
</TABLE>
SEE ACCOMPANYING NOTES TO CONSOLIDATED FINANCIAL STATEMENTS.
- 6 -
<PAGE> 7
LAKES GAMING, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(UNAUDITED)
1. UNAUDITED FINANCIAL STATEMENTS:
Lakes Gaming, Inc., a Minnesota corporation ("Lakes" or the "Company") was
established as a public corporation on December 31,1998, via a distribution (the
"Distribution") of its common stock, par value $.01 per share (the "Common
Stock") to the shareholders of Grand Casinos, Inc. ("Grand"). Pursuant to the
terms of a Distribution Agreement entered into between Grand and Lakes and dated
as of December 31, 1998 (the "Distribution Agreement"), Grand shareholders
received .25 shares of Lakes common stock for each share held in Grand.
Historical references to the Company which predate the Distribution give pro
forma effect to the Distribution as if it had already occurred.
Immediately following the Distribution, Grand merged with a subsidiary of Park
Place Entertainment Corporation, a Delaware corporation ("Park Place"), pursuant
to which Grand became a wholly owned subsidiary of Park Place (the "Merger").
Grand shareholders received one share of Park Place common stock in the Merger
for each share they held in Grand. The Merger and Distribution received all
necessary shareholder and regulatory approvals and was completed on December 31,
1998. Grand obtained a ruling from the Internal Revenue Service (IRS) that the
Distribution qualified as a tax-free transaction, solely with respect to Grand
shareholders except to the extent that Grand shareholders received cash in lieu
of fractional shares.
Lakes manages Indian-owned casinos and owns certain other assets related to
potential gaming-related development. The Company manages two Indian-owned
casinos in Louisiana and previously managed two Minnesota casinos through April
4, 1998 and November 30, 1998, respectively.
2. PRINCIPLES OF CONSOLIDATION
The accompanying unaudited consolidated financial statements include the
accounts of Lakes and its wholly-owned and majority-owned subsidiaries.
Investments in unconsolidated affiliates representing between 20% and 50% of
voting interests are accounted for on the equity method. All material
intercompany balances and transactions have been eliminated in consolidation.
Lakes' investments in unconsolidated affiliates include a 27 percent ownership
interest in Fanball.com, Inc., a start-up internet provider of fantasy sports
services, and a 33 percent ownership interest in Interactive Learning Group,
Inc., a consumer product company. Lakes' investments in Fanball.com and
Interactive Learning Group in the amounts of $3.4 million and $3 million,
respectively, were made at the end of the second quarter of 1999. Additionally,
as a result of its spin-off from Grand Casinos, Lakes received a 49 percent
ownership interest in Trak 21 Development, LLC, a developer of player tracking
systems for the casino industry, and a 27 percent ownership interest in New
Horizon Kids Quest, Inc., a publicly held provider of child care facilities.
- 7 -
<PAGE> 8
LAKES GAMING, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
(UNAUDITED)
The consolidated financial statements have been prepared by the Company in
accordance with generally accepted accounting principles for interim financial
information, in accordance with the rules and regulations of the Securities and
Exchange Commission. Pursuant to such rules and regulations, certain financial
information and footnote disclosures normally included in the consolidated
financial statements have been condensed or omitted. In the opinion of
management, all adjustments (consisting of normal recurring adjustments)
considered necessary for fair presentation have been included. Operating results
for the nine months ended October 3, 1999, are not necessarily indicative of the
results that may be expected for the fiscal year ending January 2, 2000. The
consolidated financial statements should be read in conjunction with the
consolidated financial statements and notes thereto included in the Company's
annual report on Form 10-K for the year ended January 3, 1999.
3. MANAGEMENT CONTRACTS OF LIMITED DURATION
The ownership, management and operation of gaming facilities are subject to
extensive federal, state, provincial, tribal and/or local laws, regulation, and
ordinances, which are administered by the relevant regulatory agency or agencies
in each jurisdiction. These laws, regulations and ordinances vary from
jurisdiction to jurisdiction, but generally concern the responsibility,
financial stability and character of the owners and managers of gaming
operations as well as persons financially interested or involved in gaming
operations. The Company is prohibited by the Indian Gaming Regulatory Act
("IGRA") from having an ownership interest in any casino it manages for Indian
tribes.
Management contracts for the two previously managed Minnesota casinos, Grand
Casino Mille Lacs and Grand Casino Hinckley concluded during 1998. Management
contracts for Grand Casino Avoyelles and Grand Casino Coushatta expire June 3,
2001 and January 16, 2002, respectively. There can be no assurance that the
Louisiana management contracts will be renewed upon expiration or approved by
the National Indian Gaming Commission ("NIGC") upon any such renewal.
The failure to renew the Company's management contracts would result in the loss
of revenues to the Company derived from such contracts, which would have a
material adverse effect on the Company's results of operations. The Coushatta
Tribe and the Tunica-Biloxi Tribe each entered into tribal-state compacts with
the State of Louisiana on September 29, 1992. These compacts were approved in
November 1992 by the Secretary of the Interior. The compact for the Coushatta
Tribe expired November 4, 1999, and the compact for the Tunica-Biloxi Tribe
expires November 18, 1999, and the State of Louisiana has delivered a written
notice of non-renewal. The Governor and each Tribe have agreed on a six-month
extension which has been submitted to the Department of the Interior for
approval. The Coushatta Tribe and the Tunica-Biloxi Tribe are actively
negotiating with the State of Louisiana terms for a new compact. The Company's
management agreements with the Tunica-Biloxi Tribe and the Coushatta Tribe
expire after November 1999. In the event the compacts are not renewed, gaming
may not be permitted at Grand Casino Avoyelles or Grand Casino Coushatta. There
can be no assurance that these compacts will be renewed on acceptable terms and
conditions. See Part II, Item 5. Other Information.
- 8 -
<PAGE> 9
LAKES GAMING, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
(UNAUDITED)
4. COMMITMENTS AND CONTINGENCIES:
LEASES
The Company leases certain property and equipment under non-cancelable operating
leases. Future minimum lease payments, excluding contingent rentals, due under
non-cancelable operating leases as of October 3, 1999 are as follows (in
thousands):
<TABLE>
<CAPTION>
Operating Leases
----------------
<S> <C>
1999 $ 921
2000 3,225
2001 2,981
2002 3,109
2003 3,176
Thereafter 47,550
-------
$60,962
=======
</TABLE>
As a condition to the Merger, the Company has agreed to exercise its call option
to purchase the Shark Club property in Las Vegas, Nevada, not prior to April 9,
2000 and not later than January 10, 2001. The option purchase price would be
approximately $10.1 million.
The Company also has an option to purchase the Travelodge property in Las Vegas,
Nevada for the purchase price of $30 million on October 31, 2017, and an option
to purchase the Cable property in Las Vegas, Nevada for the purchase price of
$18 million any time prior to October 31, 2000.
Loan Guaranty Agreements
The Company has guaranteed a loan and security agreement entered into by the
Tunica-Biloxi Tribe of Louisiana for $16.5 million for the purpose of purchasing
a hotel and additional casino equipment. The agreement extends through 2000, and
as of October 3, 1999, the amount outstanding was $3.5 million.
On May 1, 1997, the Company entered into a guaranty agreement related to a loan
agreement entered into by the Coushatta Tribe of Louisiana in the amount of
$25.0 million, for the purpose of constructing a hotel and acquiring additional
casino equipment. The guaranty will remain in effect until the loan is paid. The
loan term is approximately five years. As of October 3, 1999, the amount
outstanding was $20.3 million.
- 9 -
<PAGE> 10
LAKES GAMING, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
(UNAUDITED)
Indemnification Agreement
As a part of the Transaction, the Company has agreed to indemnify Grand against
all costs, expenses and liabilities incurred in connection with or arising out
of certain pending and threatened claims and legal proceedings to which Grand
and certain of its subsidiaries are likely to be parties. The Company's
indemnification obligations include the obligation to provide the defense of all
claims made in proceedings against Grand and to pay all related settlements and
judgments (see Item 1. Legal Proceedings).
As security to support Lakes' indemnification obligations to Grand under each of
the Distribution Agreement and the Agreement and Plan of Merger dated as of June
30, 1998, by and among Hilton Hotels Corporation, Park Place, Gaming Acquisition
Corporation, Lakes and Grand (the "Merger Agreement"), and as a condition to the
consummation of the Merger, Lakes has agreed to deposit, in trust for the
benefit of Grand, as a wholly owned subsidiary of Park Place, an aggregate of
$30 million, to cover various commitments and contingencies related to or
arising out of, Grand's non-Mississippi business and assets (including by way of
example, but not limitation, tribal loan guarantees, real property lease
guarantees for Lakes' subsidiaries and director and executive officer indemnity
obligations) consisting of four annual installments of $7.5 million, on each
annual anniversary of the Distribution and Merger. Any surplus proceeds
remaining after all the secured obligations are indefeasibly paid in full and
discharged shall be paid over to Lakes.
As part of the indemnification agreement, Lakes has agreed that it will not
declare or pay any dividends, make any distribution of Lakes' equity interests,
or otherwise purchase, redeem, defease or retire for value any equity interests
in Lakes without the written consent of Park Place.
5. SUBSEQUENT EVENTS
On November 12, 1999, the Company announced the resignation of Thomas J. Brosig
as President, and as a member of the Board of Directors of the Company. Lyle
Berman, Chairman of the Board and Chief Executive Officer of the Company, will
assume the role of President.
- 10 -
<PAGE> 11
LAKES GAMING, INC. AND SUBSIDIARIES
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS
(UNAUDITED)
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS
OVERVIEW
Lakes was established as a public corporation on December 31, 1998, via a
distribution of its common stock, par value $.01 per share, to the shareholders
of Grand.
Pursuant to the terms of the Distribution Agreement entered into between Grand
and Lakes dated as of December 31, 1998, Grand shareholders received .25 shares
of Lakes common stock for each share held in Grand. Historical references to the
Company which predate the distribution give pro forma effect to the Distribution
as if it had already occurred.
Immediately following the Distribution, Grand merged with a subsidiary of Park
Place pursuant to which Grand became a wholly owned subsidiary of Park Place
(the "Merger"). Grand shareholders received one share of Park Place common stock
in the Merger for each share they held in Grand.
As a result of the Distribution, Lakes operates the Indian casino management
business and holds various other assets previously owned by Grand. The Company's
revenues are derived almost exclusively from management fees. Lakes manages two
land-based, Indian-owned casinos in Louisiana: Grand Casino Avoyelles, in
Marksville, Louisiana ("Grand Casino Avoyelles"), owned by the Tunica-Biloxi
Tribe of Louisiana (the "Tunica-Biloxi Tribe") and Grand Casino Coushatta, in
Kinder, Louisiana ("Grand Casino Coushatta"), owned by the Coushatta Tribe of
Louisiana (the "Coushatta Tribe"). Both management contracts expire seven years
from the dates the casinos opened.
For a portion of fiscal 1998, and prior to the Distribution, Grand also had
management contracts for Indian-owned casinos located at Grand Casino Hinckley
and Grand Casino Mille Lacs in Minnesota. The management contract at Grand
Casino Mille Lacs expired at the end of the first quarter of 1998, and the
management of Grand Casino Hinckley ended November 30, 1998, with the buyout of
the remaining contract term.
Lakes develops, constructs and manages casinos and related hotel and
entertainment facilities in emerging and established gaming jurisdictions.
Lakes' revenues are derived from management fee income from Grand Casino
Avoyelles and Grand Casino Coushatta. Grand commenced operations in September
1990, and opened its first casino, Grand Casino Mille Lacs, in April 1991. Grand
Casino Hinckley commenced operations in May 1992, Grand Casino Avoyelles
commenced operations in June 1994 and Grand Casino Coushatta commenced
operations in January 1995.
Pursuant to the Avoyelles and Coushatta management contracts, Lakes receives a
fee based on the net distributable profits (as defined in the contracts)
generated by Grand Casino Avoyelles and Grand Casino Coushatta.
- 11 -
<PAGE> 12
LAKES GAMING, INC. AND SUBSIDIARIES
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS (CONTINUED)
(UNAUDITED)
On May 12, 1999, the Company announced that it would form a partnership for the
purpose of developing a gaming facility on Indian-owned land near San Diego,
California. Under the agreement, Lakes has formed a limited liability company
with KAR, a limited liability company based in Houston, Texas.
The partnership between Lakes and KAR holds a contract to develop and manage a
casino resort facility with a Tribe in California. The contract is subject to
approval by NIGC. Development of the casino resort will not begin until the
compact the Tribe has entered into with the state of California receives
California voter approval.
On June 22, 1999, the Company announced that it has been selected by the Pokagon
Band of Potawatomi Indians (the "Band") to serve as the exclusive developer and
manager of a proposed casino gaming resort facility to be owned by the Band in
the state of Michigan. In connection with its selection, Lakes and the Band have
executed a development and management agreement governing their relationship
during the development, construction and management of the casino. Various
regulatory approvals are needed prior to commencement of development activities.
Casino construction is not planned to start until land is accepted into trust
status by the Secretary of the Interior and the agreements are approved by the
Chairman of NIGC.
On July 15, 1999, the Company announced that it would form a partnership for the
purpose of developing a gaming facility on Indian-owned land near Sacramento,
California. Pursuant to the agreement, Lakes has formed a limited liability
company with KAR, a limited liability company based in Houston, Texas.
The partnership between Lakes and KAR has been awarded a contract to develop and
manage a casino resort facility with a Tribe in California. The contract is
subject to approval by NIGC and placement of the land where the gaming facility
is to be located into trust with the Bureau of Indian Affairs ("BIA").
Development of the casino resort will not begin until the compact the Tribe has
entered into with the state of California receives California voter approval.
On October 1, 1999, the Company purchased the shopping center and land owned by
the Nevada Resort Properties Polo Plaza Limited Partnership (the "Partnership")
in lieu of exercising its right to purchase the remaining 51% interest in the
Partnership. Prior to the purchase, the Company held a 49% ownership interest in
the Partnership. In consideration for the purchase, the Company paid
approximately $3.3 million and paid off the outstanding partnership mortgage of
approximately $6.3 million. A $6.2 million loan to the Partnership made by the
Company during January 1999 was repaid and satisfied at the closing by
offsetting an appropriate amount against the purchase price as agreed by the
Company and the Partnership. Pursuant to the purchase agreement relating to this
transaction, the Partnership is currently being dissolved.
- 12 -
<PAGE> 13
LAKES GAMING, INC. AND SUBSIDIARIES
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS (CONTINUED)
(UNAUDITED)
Lakes' investments in unconsolidated affiliates include a 27 percent ownership
interest in Fanball.com, Inc., a start-up internet provider of fantasy sports
services, and a 33 percent ownership interest in Interactive Learning Group,
Inc., a consumer product company. Lakes' investments in Fanball.com and
Interactive Learning Group in the amounts of $3.4 million and $3 million,
respectively, were made at the end of the second quarter of 1999. Additionally,
as a result of its spin-off from Grand Casinos, Lakes received a 49 percent
ownership interest in Trak 21 Development, LLC, a developer of player tracking
systems for the casino industry, and a 27 percent ownership interest in New
Horizon Kids Quest, Inc., a publicly held provider of child care facilities.
Lakes' limited operating history may not be indicative of Lakes' future
performance. In addition, a comparison of results from year to year may not be
meaningful due to the opening of new facilities during each year. Lakes' growth
strategy contemplates the expansion of existing operations and the pursuit of
opportunities to develop and manage additional gaming facilities and the pursuit
of new business opportunities. The successful implementation of this growth
strategy is contingent upon the satisfaction of various conditions, including
obtaining governmental approvals, the impact of increased competition, and the
occurrence of certain events, many of which are beyond the control of Lakes.
The following discussion and analysis should be read in conjunction with the
consolidated financial statements and notes thereto included in the Company's
Annual Report on Form 10-K for the year ended January 3, 1999.
RESULTS OF OPERATIONS
Revenues are calculated in accordance with generally accepted accounting
principles and are presented in a manner consistent with industry practice. Net
distributable profits from Grand Casino Avoyelles and Grand Casino Coushatta are
computed using a modified cash basis of accounting in accordance with the
management contracts. The effect of the use of the modified cash basis of
accounting is to accelerate the write-off of capital equipment and leased
assets, which thereby impacts the timing of net distributable profits.
Lakes is prohibited by the IGRA from having an ownership interest in any casino
it manages for Indian tribes. The management contracts for Grand Casino
Avoyelles and Grand Casino Coushatta expire June 3, 2001 and January 16, 2002,
respectively. There can be no assurance that any of these management contracts
will be renewed upon expiration or approved by NIGC upon any such renewal. The
failure to renew Lakes' management contracts would result in the loss of
revenues to Lakes derived from such contracts, which would have a material,
adverse effect on Lakes' results of operations. The Coushatta Tribe and the
Tunica-Biloxi Tribe each entered into tribal-state compacts with the State of
Louisiana on September 29, 1992. These compacts were approved in November 1992
by the Secretary of the Interior. The compact for the Coushatta Tribe expired
November 4, 1999, and the compact for the Tunica-Biloxi Tribe expires November
18, 1999, and the State of Louisiana has delivered a written notice of
non-renewal. The Governor and each Tribe have agreed on a six-month extension
which has been submitted to the Department of the Interior for approval.
- 13 -
<PAGE> 14
LAKES GAMING, INC. AND SUBSIDIARIES
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS (CONTINUED)
(UNAUDITED)
The Coushatta Tribe and the Tunica-Biloxi Tribe are actively negotiating with
the State of Louisiana terms for a new compact. Lakes' management agreements
with the Tunica-Biloxi Tribe and the Coushatta Tribe expire after November 1999.
In the event the compacts are not renewed, gaming may not be permitted at Grand
Casino Avoyelles or Grand Casino Coushatta. There can be no assurance that these
compacts will be renewed on terms and conditions acceptable to either of the
Tribes. See Part II, Item 5. Other Information.
NINE MONTHS ENDED OCTOBER 3, 1999 COMPARED TO THE NINE MONTHS ENDED SEPTEMBER
27, 1998
Revenues
Grand Casino Avoyelles and Grand Casino Coushatta generated approximately $44.4
million in management fee income during the nine months ended October 3, 1999.
Grand Casino Mille Lacs, Grand Casino Hinckley, Grand Casino Avoyelles and Grand
Casino Coushatta generated $64.3 million in management fee income during the
nine months ended September 27, 1998. Gross revenue increases at Grand Casino
Avoyelles and Grand Casino Coushatta partially offset the fact that the
management contracts for Grand Casino Mille Lacs and Grand Casino Hinckley ended
during 1998. Contributing to the increases were a 223-room hotel at Grand Casino
Coushatta, which opened in November of 1998 along with a 28,000 square foot
casino expansion at Coushatta which opened in December of 1998. Also
contributing to the increases were a special events center and RV resort at
Grand Casino Avoyelles, which opened during the first quarter of 1998, and the
addition of approximately 160 slot machines at Avoyelles from September 27, 1998
to October 3, 1999.
Costs and Expenses
Total costs and expenses were $6.9 million for the nine months ended October 3,
1999, compared to $8.6 million for the same period in the prior year. Selling,
general, and administrative expenses decreased in the amount of $2.2 million
from $7.7 million for the nine months ended September 27, 1998 to $5.5 million
for the nine months ended October 3, 1999 due primarily to fewer legal costs.
Other
Interest income increased from $4 million for the nine months ended September
27, 1998 to $5.8 million for the nine months ended October 3, 1999 due primarily
to interest earned on increased cash balances and additional notes receivable
during the nine months ended October 3, 1999, compared to the same period in the
prior year.
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<PAGE> 15
LAKES GAMING, INC. AND SUBSIDIARIES
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS (CONTINUED)
(UNAUDITED)
Earnings per Common Share and Net Earnings
For the nine months ended October 3, 1999 basic and diluted earnings per common
share were $2.33 and $2.28, respectively. This compares to basic and diluted
earnings of $4.68 and $4.58 per common share for the nine months ended September
27, 1998. Earnings decreased $24.7 million to $24.6 million for the nine months
ended October 3, 1999 compared to the same period in the prior year. This
decrease is primarily due to the expiration of the management contracts for
Grand Casino Mille Lacs and Grand Casino Hinckley during 1998. Total revenues
during the period ended September 27, 1998 under these expired contracts was
$21.9 million. The Company's current year period revenues and earnings do not
include contributions from these operations. Also contributing to the decrease
in earnings was the reversal of a deferred tax asset valuation allowance,
resulting in the recognition of a $17.3 million income tax benefit, $13.1
million during third quarter 1998. A deferred tax asset was recorded in 1996
when the Company set up a reserve allowance due to uncertainty related to the
collectibility of the note receivable from Stratosphere. However, a full
valuation allowance was created for the deferred tax asset and no income tax
benefit was recognized at that time. Upon writing off the receivable and
realizing the tax deduction in 1998, the Company reversed the deferred tax asset
valuation allowance. Under the terms of its tax sharing agreement with Grand,
any further tax benefits relating to capital losses resulting from the Company's
write-off of its investment in Stratosphere will be shared equally by Lakes and
Park Place up to a benefit of approximately $12 million to Lakes.
THREE MONTHS ENDED OCTOBER 3, 1999 COMPARED TO THE THREE MONTHS ENDED SEPTEMBER
27, 1998
Revenues
Grand Casino Avoyelles and Grand Casino Coushatta generated $14.4 million in
management fee income during the three months ended October 3, 1999. Grand
Casino Hinckley, Grand Casino Avoyelles and Grand Casino Coushatta generated
$21.6 million in management fee income during the three months ended September
27, 1998. This decrease is due primarily to the fact that the management
contract for Grand Casino Hinckley concluded during the fourth quarter of 1998.
Gross revenues increased at Grand Casino Avoyelles and Grand Casino Coushatta,
due to a 223-room hotel at Grand Casino Coushatta, which opened in November of
1998 along with a 28,000 square foot casino expansion at Grand Casino Coushatta
which opened in December of 1998, and the addition of approximately 160 slot
machines at Grand Casino Avoyelles from September 27, 1998 to October 3, 1999.
Gross revenue increases at Grand Casino Coushatta were offset by additional debt
service payments relating to the 223-room hotel.
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<PAGE> 16
LAKES GAMING, INC. AND SUBSIDIARIES
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS (CONTINUED)
(UNAUDITED)
Costs and Expenses
Total costs and expenses were $1.3 million for the three months ended October 3,
1999, compared to $2 million for the same period in the prior year. Selling,
general, and administrative expenses decreased in the amount of $.9 million from
$1.7 million for the three months ended September 27, 1998 to $.8 million for
the three months ended October 3, 1999 due primarily to fewer project
write-offs.
Other
Interest income was $1.8 million and $1.4 million for the three months ended
October 3, 1999 and September 27, 1998, respectively. The increase is due
primarily to additional interest earned on increased cash balances and
additional notes receivable during the three months ended October 3, 1999,
compared to the same period in the prior year.
Earnings Per Common Share and Net Earnings
For the three months ended October 3, 1999, basic and diluted earnings per
common share were $.70 and $.68, respectively. This compares to basic and
diluted earnings of $2.39 and $2.37 per common share for the three months ended
September 27, 1998. Earnings decreased $17.8 million to $7.4 million for the
three months ended October 3, 1999 compared to the same period in the prior
year. This decrease is partially due to the expiration of the management
contracts for Grand Casino Mille Lacs and Grand Casino Hinckley during 1998.
Total revenues during the three-month period ended September 27, 1998, under
these expired contracts was $6.7 million. The company's current year period
revenues and earnings do not include contributions from these operations. Also
contributing to the decrease in earnings was the reversal of a deferred tax
asset valuation allowance, resulting in the recognition of a $17.3 million
income tax benefit during 1998, $13.1 million of which was recognized during the
third quarter. A deferred tax asset was recorded in 1996 when the Company set up
a reserve allowance due to uncertainty related to the collectibility of the note
receivable from Stratosphere. However, a full valuation allowance was created
for the deferred tax asset and no income tax benefit was recognized at that
time. Upon writing off the receivable and realizing the tax deduction in 1998,
the Company reversed the deferred tax asset valuation allowance. Under the terms
of its tax sharing agreement with Grand, any further tax benefits relating to
capital losses resulting from the Company's write-off of its investment in
Stratosphere will be shared equally by Lakes and Park Place up to a benefit of
approximately $12 million to Lakes.
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<PAGE> 17
LAKES GAMING, INC. AND SUBSIDIARIES
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS (CONTINUED)
(UNAUDITED)
CAPITAL RESOURCES, CAPITAL SPENDING, AND LIQUIDITY
At October 3, 1999 Lakes had $58.4 million in restricted and unrestricted cash
and cash equivalents. The cash balances are planned to be used for loans to
tribal partners to help develop operations, the pursuit of additional business
opportunities, and potential settlement of pending litigation matters.
For the nine months ended October 3, 1999 and September 27, 1998 net cash
provided by operating activities totaled $30.4 million and $66.2 million,
respectively. Payments for income taxes were $18.2 million and $0 for the nine
months ended October 3, 1999 and September 27, 1998, respectively. For the same
periods, net cash used in investing activities totaled $33.8 million and $12.5
million, respectively. Included in these investing activities for the nine
months ended October 3, 1999 and September 27, 1998, are proceeds, primarily
from repayment of notes receivable from Indian-owned casinos, which amounted to
$8.5 million and $4.7 million, respectively. Advances under notes receivable
amounted to $6.8 million and $3.4 million for the nine months ended October 3,
1999 and September 27, 1998. Also during these periods, payments for land in Las
Vegas, Nevada, held for development amounted to $21.9 million and $10.3 million,
respectively, and restricted cash decreased $.3 million and increased $4
million, respectively. For the nine months ended October 3, 1999 and September
27, 1998, payments for investments in, and notes receivable from, unconsolidated
affiliates totaled $7.6 million and $0, respectively, and other long-term assets
increased $6.1 million and decreased $.2 million, respectively.
As security to support Lakes' indemnification obligations to Grand under each of
the Distribution Agreement and the Merger Agreement, and as a condition to the
consummation of the Merger, Lakes agreed to deposit, in trust for the benefit of
Grand, as a wholly owned subsidiary of Park Place, an aggregate of $30 million,
to cover various commitments and contingencies related to or arising out of,
Grand's non-Mississippi business and assets (including by way of illustration
and not limitation, tribal loan guarantees, real property lease guarantees for
Lakes' subsidiaries and director and executive officer indemnity obligations),
consisting of four annual installments of $7.5 million, on each annual
anniversary of the Distribution and Merger. Lakes' ability to satisfy this
funding obligation is materially dependent upon the continued success of its
operations and the general risks inherent in its business. In the event Lakes is
unable to satisfy its funding obligation, it would be in breach of its agreement
with Grand, possibly subjecting itself to additional liability for contract
damages, which could have a material adverse effect on Lakes' business and
results of operations.
YEAR 2000
Lakes is currently working to fully determine and resolve the potential impact
of the Year 2000 on the processing of date-sensitive information by its
computerized information systems. The Year 2000 problem is the result of many
computer programs being written using two digits (rather than four) to define
the applicable year. Any of Lakes' programs that have time-sensitive software
may recognize a date using "00" as the year 1900 rather than the Year 2000,
which could result in miscalculations or system failures.
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<PAGE> 18
LAKES GAMING, INC. AND SUBSIDIARIES
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS (CONTINUED)
(UNAUDITED)
Lakes and its managed properties have a Year 2000 program, the objective of
which is to determine and assess the risks of the Year 2000 issue, and plan and
institute mitigating actions to minimize those risks. Pursuant to the Lakes Year
2000 program, the Company has established an internal review team to monitor and
facilitate efficient Year 2000 compliance. During 1999, Lakes upgraded its
financial reporting systems to ensure that they would be year 2000 compliant.
Lakes' vendors and consultants have represented to management that the new
systems meet year 2000 requirements. Lakes' standard for compliance requires
that for a computer system or business process to be Year 2000 compliant, it
must be designed to operate without error in dates and date-related data prior
to, on and after January 1, 2000. Between now and the Year 2000, Lakes will
proceed through its various phases of assessment, detailed planning,
implementation, testing and management. Lakes expects to be fully Year 2000
compliant.
Generally, Lakes is confident that the implementation of its Year 2000 program
in conjunction with the replacement of all of Lakes' financial reporting systems
will resolve any IT system compliance issues. Lakes has not currently identified
any material non-IT system Year 2000 issues. Throughout the remainder of 1999,
Lakes will continually review its progress against its Year 2000 plans and
determine what contingency plans are feasible and appropriate to reduce its
exposure to Year 2000 related issues.
Based on Lakes' current assessment, the costs of addressing potential problems
at Lakes and its currently managed properties are estimated at $1.1 million, of
which $.1 million is left to be spent. However, the historical and estimated
costs relating to the resolution of Lakes' Year 2000 compliance issues cannot be
fully and finally determined at this time. If significant customers or vendors
identify Year 2000 issues in the future and are unable to resolve such issues in
a timely manner, it could result in a material financial risk. Lakes has
initiated formal communications with all of its material suppliers to determine
the extent to which Lakes' interface systems are vulnerable to those third
parties' failures to resolve their own Year 2000 issues. Lakes plans to devote
the necessary resources to resolve all significant Year 2000 issues in a timely
manner.
While Lakes fully anticipates achieving Year 2000 compliance in advance of
January 1, 2000 there are certain risks which exist with respect to Lakes'
business and the Year 2000. Those risks range from slight delays and
inefficiencies in processing data and carrying out accounting and financial
functions to, in a most reasonably likely worst case scenario, extensive and
costly inability to process data, provide vital accounting functions and
communicate with customers and suppliers. Lakes has established a contingency
plan to address the failure to be Year 2000 compliant.
SEASONALITY
The Company believes that the operation of all casinos managed by the Company
are affected by seasonal factors, including holidays, weather and travel
conditions.
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<PAGE> 19
LAKES GAMING, INC. AND SUBSIDIARIES
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS (CONTINUED)
(UNAUDITED)
REGULATION AND TAXES
The Company is subject to extensive regulation by state gaming authorities. The
Company will also be subject to regulation, which may or may not be similar to
current state regulations, by the appropriate authorities in any other
jurisdiction where it may conduct gaming activities in the future. Changes in
applicable laws or regulations could have an adverse effect on the Company.
The gaming industry represents a significant source of tax revenues. From time
to time, various federal legislators and officials have proposed changes in tax
law, or in the administration of such law, affecting the gaming industry. It is
not possible to determine the likelihood of possible changes in tax law or in
the administration of such law. Such changes, if adopted, could have a material
adverse effect on the Company's results of operations and financial results.
PRIVATE SECURITIES LITIGATION REFORM ACT
The Private Securities Litigation Reform Act of 1995 provides a "safe harbor"
for forward-looking statements. Certain information included in this integrated
Quarterly Report on Form 10-Q and other materials filed or to be filed by the
Company with the Securities and Exchange Commission (as well as information
included in oral statements or other written statements made or to be made by
the Company) contain statements that are forward-looking, such as plans for
future expansion and other business development activities as well as other
statements regarding capital spending, financing sources and the effects of
regulation (including gaming and tax regulation) and competition.
Such forward-looking information involves important risks and uncertainties that
could significantly affect the anticipated results in the future and,
accordingly, actual results may differ materially from those expressed in any
forward-looking statements made by or on behalf of the Company.
These risks and uncertainties include, but are not limited to, those relating to
development and construction activities, dependence upon existing management,
pending litigation, domestic or global economic conditions and changes in
federal or state tax laws or the administration of such laws and changes in
gaming laws or regulations (including the legalization of gaming in certain
jurisdictions). For further information regarding these risks and uncertainties,
see the "Business -- Risk Factors" section of the Company's Annual Report on
Form 10-K for the year ended January 3, 1999.
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<PAGE> 20
LAKES GAMING, INC. AND SUBSIDIARIES
PART II
OTHER INFORMATION
ITEM 1. LEGAL PROCEEDINGS
The following summaries describe certain known legal proceedings to which Grand
is a party which Lakes has assumed, or with respect to which Lakes has agreed to
indemnify Grand, in connection with the Distribution.
STRATOSPHERE SHAREHOLDERS LITIGATION - FEDERAL COURT
In August 1996, a complaint was filed in the U.S. District Court for the
District of Nevada -- Michael Ceasar, et al v. Stratosphere Corporation, et al
- -- against Stratosphere and others, including Grand. The complaint was filed as
a class action, and sought relief on behalf of Stratosphere shareholders who
purchased their stock between December 19, 1995 and July 22, 1996. The complaint
included allegations of misrepresentations, federal securities law violations
and various state law claims.
In August through October 1996, several other nearly identical complaints were
filed by various plaintiffs in the U.S. District Court for the District of
Nevada.
The defendants in the actions submitted motions requesting that all of the
actions be consolidated. Those motions were granted in January 1997, and the
consolidated action is entitled In re: Stratosphere Corporation Securities
Litigation -- Master File No. CV-S-96-00708 PMP (RLH).
In February 1997, the plaintiffs filed a consolidated and amended complaint
naming various defendants, including Grand and certain current and former
officers and directors of Grand. The amended complaint includes claims under
federal securities laws and Nevada laws based on acts alleged to have occurred
between December 19, 1995 and July 22, 1996.
In February 1997, various defendants, including Grand and Grand's officers and
directors named as defendants, submitted motions to dismiss the amended
complaint. Those motions were made on various grounds, including Grand's claim
that the amended complaint failed to state a valid cause of action against Grand
and Grand's officers and directors.
In May 1997, the court dismissed the amended complaint. The dismissal order did
not allow the plaintiffs to further amend their complaint in an attempt to state
a valid cause of action.
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<PAGE> 21
LAKES GAMING, INC. AND SUBSIDIARIES
PART II
OTHER INFORMATION (CONTINUED)
In June 1997, the plaintiffs asked the court to reconsider its dismissal order,
and to allow the plaintiffs to submit a second amended complaint in an attempt
to state a valid cause of action. In July 1997, the court allowed the plaintiffs
to submit a second amended complaint.
In August 1997, the plaintiffs filed a second amended complaint. In September
1997, certain of the defendants, including Grand and Grand's officers and
directors named as defendants, submitted a motion to dismiss the second amended
complaint. The motion was based on various grounds, including Grand's claim that
the second amended complaint failed to state a valid cause of action against
Grand and Grand's officers and directors.
In April 1998, the Court granted Grand's motion to dismiss, in part, and denied
the motion in part. Thus, the plaintiffs are pursuing the claims in the second
amended complaint that survived the motion to dismiss.
In June 1998, certain of the defendants, including Grand and Grand's officers
and directors named as defendants, submitted a motion for summary judgment
seeking an order that such defendants are entitled to judgment as a matter of
law. In December 1998, the plaintiffs completed fact discovery related to the
issues raised by the summary judgment motion. Expert discovery was completed in
March of 1999. All papers relating to this matter were filed on June 1, 1999.
On October 6, 1999, the District Court entered its Order, granting in part and
denying in part, defendants' Motion for Summary Judgment and Summary
Adjudication. The Court dismissed all allegations in reference to (1) Phase II
funding levels; (2) "over-allotments uses", as stated in the December 19, 1995
Prospectus; (3) the purpose and use of the Grand Casino Completion Guaranty, as
stated in the June 6, 1996 Press Statement; (4) the vague expressions of general
optimism (issued within the December 19, 1995 Prospectus, the 10-Q and 10-K
Filings, press releases and other public statements) referred to in this Order;
(5) the adoption of statements in securities analysts reports; (6) the alleged
utterance of misleading statements before the Nevada Gaming Commission; and (7)
the temporary diversion of Phase II proceeds to fund Phase I. The remaining
claims relate to the accuracy of defendants' budgetary estimates issued in
Stratosphere's December 1995 Prospectus and SEC 10-Q and 10-K Reports. The Court
concluded that there were triable issues as to whether defendants misstated
anticipated construction costs or omitted to disclose material cost overruns.
Plaintiffs' counsel have requested that defendants stipulate to the inclusion of
the Company and Park Place as additional party defendants. We anticipate that
the Company will be so included and will defend the action vigorously.
The Court has ordered the parties to submit a joint pre-trial statement on or
before November 15, 1999.
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<PAGE> 22
LAKES GAMING, INC. AND SUBSIDIARIES
PART II
OTHER INFORMATION (CONTINUED)
STRATOSPHERE SHAREHOLDERS LITIGATION - NEVADA STATE COURT
In August 1996, a complaint was filed in the District Court for Clark County,
Nevada -- Victor M. Opitz, et al v. Robert E. Stupak, et al -- Case No. A363019
- -- against various defendants, including Grand. The complaint seeks relief on
behalf of Stratosphere Corporation shareholders who purchased stock between
December 19, 1995 and July 22, 1996. The complaint alleges misrepresentations,
state securities law violations and other state claims.
Grand and certain defendants submitted motions to dismiss or stay the state
court action pending resolution of the federal court action described above. The
court has stayed further proceedings pending the resolution of In re:
Stratosphere Securities Litigation.
GRAND CASINOS, INC. SHAREHOLDERS LITIGATION
In September and October 1996, two actions were filed by Grand shareholders in
the U.S. District Court for the District of Minnesota against Grand and certain
of Grand's current and former directors and officers.
The complaints allege misrepresentations, federal securities law violations and
other claims in connection with the Stratosphere project.
The actions have been consolidated as In re: Grand Casinos, Inc. Securities
Litigation -- Master File No. 4-96-890 -- and the plaintiffs filed a
consolidated complaint. The defendants submitted a motion to dismiss the
consolidated complaint, based in part on Grand's claim that the consolidated
complaint failed to properly state a cause of action.
In December 1997, the court granted Grand's motion to dismiss in part, and
denied the motion in part. Thus, the plaintiffs are pursuing the claims in the
consolidated complaint that survived Grand's motion to dismiss.
Discovery in the action has begun.
The defendants have submitted a motion for summary judgment seeking an order
that the defendants are entitled to judgment as a matter of law. In December
1998, the plaintiffs completed fact discovery related to the issues raised by
the summary judgement motion. Expert discovery was completed in March of 1999.
The parties have completed follow-up discovery pertaining to the summary
judgment motion. The court heard the motion on September 2, 1999. The court has
not yet ruled on the motion.
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<PAGE> 23
LAKES GAMING, INC. AND SUBSIDIARIES
PART II
OTHER INFORMATION (CONTINUED)
In early February 1999, the plaintiffs filed a motion for leave to amend the
complaint in this action to include, as defendants in the case, both the Company
and Park Place. The motion for leave to amend the complaint has been granted and
Lakes has filed its answer. Lakes will defend this action vigorously.
SLOT MACHINE LITIGATION
In April 1994, William H. Poulos brought an action in the U.S. District Court
for the Middle District of Florida, Orlando Division -- William H. Poulos, et al
v. Caesars World, Inc. et al -- Case No. 39-478-CIV-ORL-22 -- in which various
parties (including Grand) alleged to operate casinos or be slot machine
manufacturers were named as defendants. The plaintiff sought to have the action
certified as a class action.
A subsequently filed Action -- William Ahearn, et al v. Caesars World, Inc. et
al -- Case No. 94-532-CIV-ORL-22 -- made similar allegations and was
consolidated with the Poulos action.
Both actions included claims under the federal Racketeering-Influenced and
Corrupt Organizations Act and under state law, and sought compensatory and
punitive damages. The plaintiffs claimed that the defendants are involved in a
scheme to induce people to play electronic video poker and slot machines based
on false beliefs regarding how such machines operate and the extent to which a
player is likely to win on any given play.
In December 1994, the consolidated actions were transferred to the U.S. District
Court for the District of Nevada.
In September 1995, Larry Schreier brought an action in the U.S. District Court
for the District of Nevada -- Larry Schreier, et al v. Caesars World, Inc. et al
- -- Case No. CV-95-00923-DWH(RJJ).
The plaintiffs' allegations in the Schreier action were similar to those made by
the plaintiffs in the Poulos and Ahearn actions, except that Schreier claimed to
represent a more precisely defined class of plaintiffs than Poulos or Ahearn.
In December 1996, the court ordered the Poulos, Ahearn and Schreier actions
consolidated under the title William H. Poulos, et al v. Caesars World, Inc., et
al -- Case No. CV-S-94-11236-DAE(RJJ) -- (Base File), and required the
plaintiffs to file a consolidated and amended complaint. In February 1997, the
plaintiffs filed a consolidated and amended complaint.
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<PAGE> 24
LAKES GAMING, INC. AND SUBSIDIARIES
PART II
OTHER INFORMATION (CONTINUED)
In March 1997, various defendants (including Grand) filed motions to dismiss or
stay the consolidated action until the plaintiffs submitted their claims to
gaming authorities and those authorities considered the claims submitted by the
plaintiffs.
In December 1997, the court denied all of the motions submitted by the
defendants, and ordered the plaintiffs to file a new consolidated and amended
complaint. That complaint has been filed. Grand has filed its answer to the new
complaint.
The plaintiffs have filed a motion seeking an order certifying the action as a
class action. Grand and certain of the defendants have opposed the motion. The
Court has not ruled on the motion.
STANDBY EQUITY COMMITMENT LITIGATION
In September 1997, the Stratosphere Trustee under the indenture pursuant to
which Stratosphere issued its first mortgage notes filed a complaint in the U.S.
District Court for the District of Nevada -- IBJ Schroeder Bank & Trust Company,
Inc. v. Grand Casinos, Inc. -- File No. CV-S-97-01252-DWH (RJJ) -- naming Grand
as defendant.
The complaint alleges that Grand failed to perform under the Standby Equity
Commitment entered into between Stratosphere and Grand in connection with
Stratosphere's issuance of such first mortgage notes in March 1995. The
complaint seeks an order compelling specific performance of what the Trustee
claims are Grand's obligations under the Standby Equity Commitment.
The Stratosphere Trustee filed the complaint in its alleged capacity as a third
party beneficiary under the Standby Equity Commitment. Pursuant to the Second
Amended Plan, a new limited liability company (the "Stratosphere LLC") was
formed to pursue certain alleged claims and causes of action that Stratosphere
and other parties may have against numerous third parties, including Grand
and/or officers and/or directors of Grand. The Stratosphere LLC has been
substituted for IBJ Schroeder Bank & Trust Company, Inc. in this proceeding.
In October of this year, Motions for Summary Judgment by both parties were
denied. Grand has requested that the appellate court review the denial as to its
motion for summary judgment. In the meantime, the trial court is expected to
hold a pretrial to address discovery and scheduling issues. Lakes will continue
to defend the lawsuit diligently.
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<PAGE> 25
LAKES GAMING, INC. AND SUBSIDIARIES
PART II
OTHER INFORMATION (CONTINUED)
STRATOSPHERE PREFERENCE ACTION
In April 1998, Stratosphere served on Grand and Grand Media & Electronics
Distributing, Inc., a wholly owned subsidiary of Grand ("Grand Media"), a
complaint in the Stratosphere bankruptcy case seeking recovery of certain
amounts paid by Stratosphere to (i) Grand as management fees and for costs and
expenses under a management agreement between Stratosphere and Grand, and (ii)
Grand Media for electronic equipment purchased by Stratosphere from Grand Media.
Stratosphere claims in its complaint that such amounts are recoverable by
Stratosphere as preferential payments under bankruptcy law.
In May 1998, Grand responded to Stratosphere's complaint. That response denies
that Stratosphere is entitled to recover the amounts described in the complaint.
Discovery is pending.
OTHER LITIGATION
The Company has recorded a reserve assessment related to various of the above
items. The reserve is reflected as a litigation and claims accrual on the
accompanying consolidated balance sheet as of October 3, 1999.
Grand and Lakes are involved in various other inquiries, administrative
proceedings, and litigation relating to contracts and other matters arising in
the normal course of business. While any proceeding or litigation has an element
of uncertainty, management currently believes that the final outcome of these
matters is not likely to have a material adverse effect upon Grand's or the
Company's consolidated financial position or results of operations.
ITEM 5. OTHER INFORMATION
The Coushatta Tribe and the Tunica-Biloxi Tribe each entered into Tribal-State
compacts with the State of Louisiana on September 29, 1992. These compacts were
approved in November 1992 by the Secretary of the Interior. The compact for the
Coushatta Tribe expired November 4, 1999 and the compact for the Tunica-Biloxi
Tribe expires November 18, 1999. The compacts would have automatically renewed
for an additional seven year term if neither Tribe nor the State of Louisiana
had delivered to the other written notice of non-renewal at least 180 days prior
to the applicable expiration date.
On April 7, 1999, the State of Louisiana provided written notice to each of the
Coushatta Tribe of Louisiana and the Tunica-Biloxi Tribe of Louisiana of the
State's intent not to renew the Tribal-State compacts. The State further
extended an invitation to each such Tribe to continue to discuss mutually
advantageous terms and conditions under which the State and the Tribes can enter
into new gaming compacts. The Governor and each Tribe have agreed on a six-month
extension which has been submitted to the Department of the Interior for
approval.
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<PAGE> 26
LAKES GAMING, INC. AND SUBSIDIARIES
PART II
OTHER INFORMATION (CONTINUED)
IGRA requires that for Class III gaming to occur on Indian land, it must be
conducted in accord with an effective state compact. IGRA further imposes an
obligation on state governments, upon the request of a Tribe, to negotiate with
Indian Tribes regarding the operation of gaming activities which are otherwise
allowable within the state "by any person, organization or entity". Louisiana
currently permits various forms of legalized, non-Indian gaming.
Each Tribe is actively negotiating with the State to establish suitable
alternative compacts. It is unclear what consequences, if any, might result, in
the event the Tribes and the State are unable to either negotiate suitable
alternative compacts or agree to an extension of the existing compacts. To the
knowledge of the Company, there has been no prior instance where an existing
compact has expired without either a replacement compact in place or an
extension (temporary or permanent) of the present compact.
Nonetheless, the Company's Management Agreements with each of the Tribes
provides that, absent a determination by (i) NIGC, (ii) the Congress of the
United States, (iii) the Department of the Interior or (iv) a final judgment
from a court of competent jurisdiction, that the operation of either Grand
Casino Coushatta or Grand Casino Avoyelles would be unlawful under either
federal or state law, Lakes and the Tribes are obligated in their duties to each
other, as set forth in the applicable Management Agreements.
As outlined above, in the absence of a determination by (i) NIGC, (ii) the
Congress of the United States, (iii) the Department of the Interior or (iv) a
final judgment from a court of competent jurisdiction, that the operation of
either Grand Casino Coushatta or Grand Casino Avoyelles would be unlawful under
either federal or state law, so long as the Tribes continue to conduct gaming
activities at Grand Casino Coushatta and Grand Casino Avoyelles, Lakes intends
to continue to operate and manage these casinos and to abide by the terms and
obligations of the applicable Management Agreements.
If the terms of the current Tribal-State compacts expire, without the execution
of new compacts or the extension of the current compacts, there is a risk that
(i) NIGC, (ii) the Congress of the United States, (iii) the Department of the
Interior, (iv) the United States Department of Justice or (v) a court of
competent jurisdiction could take action against either or both of the Tribes
and/or Grand Casino Coushatta and Grand Casino Avoyelles resulting in the
cessation of gaming operations at these casinos and/or the inability of Lakes to
manage either or both of these casinos.
The cessation of gaming operations at either or both of Grand Casino Coushatta
and Grand Casino Avoyelles or the inability of Lakes to manage the gaming
operations at these casinos would result in the loss of revenues to Lakes
derived from such contracts, which would have a material adverse effect on
Lakes' results of operations. Currently, the management contracts for Grand
Casino Coushatta and Grand Casino Avoyelles generate all of Lakes' operating
revenues. Without the realization of new business opportunities or new
management contracts, the cessation of gaming operations at these casinos or the
inability of Lakes to manage those operations, would have a material adverse
impact on Lakes' results of operations and financial condition.
- 26 -
<PAGE> 27
LAKES GAMING, INC. AND SUBSIDIARIES
PART II
OTHER INFORMATION (CONTINUED)
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K
<TABLE>
<CAPTION>
(a) Exhibits Description
-------- -----------
<S> <C>
10.1 Subscription Agreement and Investment Letter by and among
Lakes Gaming, Inc., a Minnesota corporation (the
"Subscriber") and Fanball.com, Inc., a Minnesota corporation
(the "Company") dated as of June 15, 1999.
10.2 Stock Purchase Agreement dated as of June 15, 1999 between
Lakes Gaming, Inc. (the "Buyer") and Richard Kallio (the
"Seller").
10.3 Subscription Agreement and Investment Letter by and among
Lakes Gaming, Inc. a Minnesota corporation (the
"Subscriber") and Interactive Learning Group, Inc., a
Minnesota corporation (the "Company") dated as of June 25,
1999.
27 Financial Data Schedule (for SEC use only)
(b) Reports on Form 8-K
None
</TABLE>
- 27 -
<PAGE> 28
SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934, the
registrant has duly caused this report to be signed on its behalf by the
undersigned, thereunto duly authorized.
Dated: November 16, 1999 LAKES GAMING, INC.
-----------------------
Registrant
/S/ LYLE BERMAN
-----------------------
Lyle Berman
Chairman of the Board,
Chief Executive Officer and
President
/S/ TIMOTHY J. COPE
-----------------------
Timothy J. Cope
Executive Vice President and
Chief Financial Officer
- 28 -
<PAGE> 1
EXHIBIT 10.1
FANBALL.COM, INC.
SUBSCRIPTION AGREEMENT AND
INVESTMENT LETTER
PURCHASE OF SERIES A CONVERTIBLE PREFERRED STOCK
Fanball.com, Inc.
5720 Green Circle Drive
Suite #202
Minnetonka, MN 55343
The undersigned (the "Subscriber") hereby subscribes for and offers to
purchase from Fanball.com, Inc., a Minnesota corporation (the "Company"), six
hundred thousand (600,000) shares of Series A Convertible Preferred Stock (the
"Series A Preferred") at a purchase price of five dollars ($5.00) per share or
an aggregate purchase price of Three Million Dollars ($3,000,000) (the "Purchase
Price"), upon the terms and subject to the following conditions:
1. Subscription and Authorization of Securities. The Series A Preferred
shall be issued pursuant to and shall be entitled to such preferences, rights
and benefits as are set forth in the capital stock provisions of the Company's
Amended and Restated Articles of Incorporation and its Certificate of
Designation, which shall be in the form of the attached Exhibit A (the "Series A
Certificate").
2. Payment. The Subscriber herewith submits the Subscriber's check for
the Purchase Price, made payable to "Fanball.com, Inc.," representing the
aggregate purchase price for the Series A Preferred. In exchange therefor, the
Company herewith delivers to the Subscriber a stock certificate, dated as of the
date hereof, representing the Series A Preferred purchased by the Subscriber
registered in the name of Lakes Gaming, Inc.
3. Representations of Subscriber. To induce the Company to accept this
offer, the Subscriber represents and warrants as follows:
a. The Subscriber agrees that Subscriber may not sell or
otherwise transfer all or any interest in the Series A Preferred except
as expressly provided in this Subscription Agreement and Investment
Letter.
b. The Subscriber understands that the Company must comply
with the securities laws of the jurisdiction in which the Subscriber is
domiciled. The Subscriber therefore represents and warrants to the
Company as follows:
(1) The Subscriber is a business organization organized
and validly existing under the laws of, and with its
principal office located in, the State of Minnesota. The
Subscriber represents and warrants that it was not
organized, either directly or indirectly, for the
specific purpose of acquiring the Series A Preferred.
c. The Subscriber realizes that purchase of the Series A
Preferred is a speculative investment and that the economic benefits
which may be derived therefrom are uncertain. In determining whether or
not to make an investment in the Company, the Subscriber has relied
solely upon the written materials provided to it by the Company,
including the Certificate of
<PAGE> 2
Designation which sets forth the rights, preferences and limitations of
the Series A Preferred (the "Series A Certificate"), receipt of which
is hereby acknowledged, and upon independent investigations made by
Subscriber or its representatives. The shares of Series A Preferred
will have the rights and preferences as set forth in the Series A
Certificate, including without limitation the following: (i) each share
of the Series A Preferred is convertible into one share of the
Company's common stock (the "Common Stock") on a one-to-one basis
subject to adjustment in certain events, (ii) the shares of Series A
Preferred will have a liquidation preference over the Common Stock,
(iii) the Subscriber will be entitled to appoint one director of the
Company, which right will terminate upon the Company's Qualified Public
Offering (as defined in the Series A Certificate), and (iv) shares of
Series A Preferred will not be automatically entitled to receive or
accrue dividends.
d. The Subscriber has read and understands the Series A
Certificate and understands the rights, preferences and limitations
pertaining to the Series A Preferred.
e. The Subscriber has had full opportunity to conduct, and
has conducted, a complete and thorough due diligence investigation of
the Company, and such opportunity has been made available to the
Subscriber's professional representative(s), to ask questions of and
receive answers from representatives of the Company concerning the
Company and its financial condition and prospects and the terms and
conditions of the Series A Certificate, as well as to obtain additional
information necessary to verify the accuracy of the written materials
provided to the Subscriber and its representatives by the Company.
f. The information presented and statements made by the
Subscriber in the attached questionnaire completed and delivered by the
Subscriber and returned to the Company with this letter, and any
additional information supplied by the Subscriber at the Company's
request relating to the Subscriber's income, net worth, investment
experience or other matters, are complete and accurate as of this date
or any future date upon which such information will be supplied, and
may be relied upon by the Company in determining whether to accept this
offer.
g. The Subscriber is acquiring the Series A Preferred for
its own account for investment purposes and not with a view to or for
resale in connection with any distribution thereof and not for the
personal accounts of its shareholders. The Subscriber understands that
the Series A Preferred have not been registered under the Securities
Act of 1933, as amended (the "Act"), or any state securities laws, in
reliance on exemptions from registration which depend, in part on the
Subscriber's investment intention; and, accordingly, the truth and
accuracy of the foregoing representation will be relied upon by the
Company to establish such exemptions. The Subscriber acknowledges that
the Company is not required to recognize any transfer of the Series A
Preferred unless, in the opinion of counsel to the Company, such
transfer would not result in a violation of any federal or state law
regarding the offer and sale of securities and unless the other
restrictions on transfer set forth in the Series A Preferred are
complied with.
h. The Subscriber agrees to the placing on the instruments
or certificates representing the Series A Preferred of legends, in
substantially the following form, referring to the restrictions set
forth in the preceding paragraph:
THE SHARES REPRESENTED BY THIS CERTIFICATE HAVE NOT BEEN REGISTERED
UNDER THE SECURITIES ACT OF 1933, AS AMENDED, OR APPLICABLE STATE
SECURITIES LAWS. NO SALE OR ASSIGNMENT OF THE SHARES REPRESENTED BY
THIS CERTIFICATE SHALL BE MADE UNLESS THE HOLDER SHALL HAVE OBTAINED AN
OPINION OF COUNSEL SATISFACTORY
2
<PAGE> 3
TO THE COMPANY THAT SUCH PROPOSED DISPOSITION OR TRANSFER LAWFULLY MAY
BE MADE WITHOUT REGISTRATION OF SUCH SHARES PURSUANT TO APPLICABLE
SECURITIES LAWS, OR SUCH REGISTRATION.
THE SHARES OF THE COMPANY ARE SUBJECT TO CERTAIN DESIGNATIONS,
PREFERENCES, LIMITATIONS AND RELATIVE RIGHTS AS SET FORTH IN THE
COMPANY'S ARTICLES OF INCORPORATION, AS FILED WITH THE MINNESOTA
SECRETARY OF STATE, AS AMENDED FROM TIME TO TIME. THE COMPANY WILL
FURNISH TO ANY SHAREHOLDER UPON REQUEST MADE TO THE SECRETARY OF THE
COMPANY AND WITHOUT CHARGE A FULL STATEMENT (A) OF THE DESIGNATIONS,
RELATIVE RIGHTS, PREFERENCES AND LIMITATIONS OF THE SHARES OF EACH
CLASS AND SERIES AUTHORIZED TO BE ISSUED, INSOFAR AS THE SAME HAVE BEEN
DETERMINED AND (B) OF THE AUTHORITY OF THE BOARD OF DIRECTORS TO DIVIDE
THE SHARES INTO CLASSES OR SERIES AND TO DETERMINE AND CHANGE THE
RELATIVE RIGHTS, PREFERENCES AND LIMITATIONS OF ANY CLASS OR SERIES.
i. The Subscriber is aware that there are restrictions on
the transferability of the Series A Preferred, that there is no market
for the Series A Preferred, and that it is possible that such a market
will never develop. Accordingly, it is unlikely that the Subscriber
will be able to liquidate an investment in the Company in case of an
emergency or for any other reason.
j. The Subscriber's commitment to investments that are not
readily marketable is not disproportionate to its net worth, and an
investment in the Series A Preferred will not cause such commitment to
become excessive. The Subscriber has adequate means of providing for
its current needs and contingencies and has no need for liquidity with
respect to its investment in the Series A Preferred, and can withstand
a complete loss of such investment in the Series A Preferred. The
Subscriber has, either alone or with a purchaser representative, such
knowledge and experience in financial and business matters that the
Subscriber is capable of evaluating the merits and risks of an
investment in the Series A Preferred.
k. The Subscriber acknowledges receipt of the documents and
information which the Company has represented to Subscriber under
Section 4.t. of this Agreement that it has delivered to the Subscriber.
4. Representations of the Company. The Company represents and
warrants to the Subscriber as follows:
a. Organization. The Company is a corporation duly
organized, validly existing and in good standing under the laws of the
State of Minnesota, and has the requisite corporate power and authority
to own its properties and carry on its business in all material
respects as it is now being conducted. The Company has the requisite
corporate power and authority to issue the Series A Preferred and the
Common Stock into which it is convertible (the "Conversion Shares") and
to otherwise perform its obligations under this Agreement.
b. Status of the Preferred Shares and Conversion Shares. The
Series A Preferred, when issued and paid for pursuant to the terms of
this Subscription Letter, will be duly authorized, validly issuedand
outstanding, fully paid and nonassessable, free and clear of all
pledges, liens, encumbrances and restrictions, except as set forth
herein, and the Conversion Shares have been reserved for issuance based
upon a one-for-one Conversion Ratio (as defined in the Series A
Certificate), and when issued upon conversion will be duly authorized,
validly issued
3
<PAGE> 4
and outstanding, fully paid and nonassessable, and free and clear of
all pledges, liens, encumbrances and restrictions, except as set forth
herein. The certificates representing the Series A Preferred to be
delivered by the Company hereunder, and the certificates representing
the Conversion Shares will, when issued upon conversion, be genuine,
and the Company has no knowledge of any fact which would impair the
validity thereof.
c. Corporate Acts and Proceedings. This Agreement has been
duly authorized by all necessary corporate action on behalf of the
Company, and has been duly executed and delivered by authorized
officers of the Company, and is the valid and binding agreement upon
the part of the Company that is enforceable against the Company in
accordance with its terms, except as the enforceability thereof may be
limited by bankruptcy, insolvency, moratorium, reorganization or other
similar laws affecting the enforcement of creditors' rights generally
and to judicial limitations on the enforcement of the remedy of
specific performance and other equitable remedies. All corporate action
necessary to the investment by the Subscriber in the Company and the
authorization, creation, issuance and delivery of the Preferred Shares
and the Conversion Shares has been taken by the Company.
d. Brokers. Other than Mr. Larry Zipkin, who will be granted
a warrant to purchase 37,500 shares of Common Stock at an exercise
price of $1.00 per share, no other person, firm or corporation has or
will have, as a result of any act or omission of the Company, any
interest, right or valid claim against or upon the Company for any
commission, fee or other compensation as a finder or broker in
connection with the transactions contemplated by this Agreement. The
Company will indemnify and hold the Subscriber harmless against any and
all liability with respect to any such commission, fee or other
compensation, except as set forth above, which may be payable or
determined to be payable in connection with the transactions
contemplated by this Agreement.
e. Litigation; Governmental Proceedings. Except with respect
to its defense of a lawsuit brought by Sims Security to collect $2,000
alleging non-payment for services rendered, which the Company is
disputing in good faith, there are no legal actions, suits,
arbitrations or other legal, administrative or governmental proceedings
or investigations pending or, to the knowledge of the Company,
threatened against the Company, its properties, assets or business, and
the Company is not aware of any facts which are likely to result in or
form the basis for any such action, suit or other proceeding which
would have a material adverse impact on the Company. The Company is not
in default with respect to any judgment, order or decree of any court
or any governmental agency or instrumentality.
f. Governing Instruments. The copies of the Amended and
Restated Articles of Incorporation and Bylaws of the Company which have
been delivered to legal counsel for the Subscriber prior to the
execution of this Agreement are true and complete copies of the duly
and legally adopted Amended and Restated Articles of Incorporation and
Bylaws of the Company in effect as of the date of this Agreement.
g. Subsidiaries. Etc. The Company does not have any direct
or indirect ownership interest in any corporation, partnership, joint
venture, limited liability company or partnership, association or other
business enterprise.
h. Qualification. The Company is duly qualified, licensed or
domesticated as a foreign corporation in good standing in each
jurisdiction wherein the nature of its activities or the properties
owned or leased by it makes such qualification, licensing or
domestication necessary
4
<PAGE> 5
and in which failure to so qualify or be licensed or domesticated would
have a material adverse impact upon its business.
i. Financial Statements. The Company has delivered to
Subscriber true and correct copies of its unaudited balance sheets for
the Company dated as at June 30, 1996, June 30, 1997, June 30, 1998 and
June 8, 1999 (the "1999 Balance Sheet") together with the related
statements of profit and loss for the periods then ended. Such
financial statements (i) are in accordance with the books and records
of the Company, (ii) present fairly the financial condition of the
Company at the balance sheets dates and the results of its operations
for the periods therein specified, and (iii) have, in all material
respects, been prepared in accordance with generally accepted
accounting principles applied on a basis consistent with prior
accounting periods. Without limiting the generality of the foregoing,
the balance sheets or notes thereto disclose all of the debts,
liabilities and obligations of any nature (whether absolute, accrued or
contingent and whether due or to become due) of the Company at their
respective dates, which, individually or in the aggregate, are material
and which in accordance with generally accepted accounting principles
would be required to be disclosed in such balance sheets and include
appropriate reserves for all taxes and other liabilities accrued as of
such dates but not yet payable.
j. Tax Returns and Audits. All required federal, state and
local tax returns or appropriate extension requests of the Company have
been filed, and all federal, state and local taxes required to be paid
with respect to such returns have been paid or due provision for the
payment thereof has been made. The Company is not delinquent in the
payment of any such tax or in the payment of any assessment or
governmental charge. The Company has not received notice of any tax
deficiency proposed or assessed against it, and it has not executed any
waiver of any statute of limitations on the assessment or collection of
any tax. None of the Company's tax returns has been audited by
governmental authorities in a manner to bring such audits to the
Company's attention. The Company does not have any tax liabilities
except those reflected on the financial statements referred to above or
those which were incurred in the ordinary course of business since June
8, 1999 and are not delinquent.
k. Changes, Dividends, etc. Except for the transactions
contemplated by this Agreement, since June 8, 1999 the Company has not:
(i) incurred any debts, obligations or liabilities, absolute, accrued
or contingent and whether due or to become due, except current
liabilities incurred in the ordinary course of business which
(individually or in the aggregate) will not materially and adversely
affect the business, properties or prospects of the Company; (ii) paid
any obligation or liability other than, or discharged or satisfied any
liens or encumbrances other than those securing, current liabilities,
in each case in the ordinary course of business; (iii) declared or made
any payment to or distribution to its shareholders as such, or
purchased or redeemed any of its shares of capital stock, or obligated
itself to do so; (iv) mortgaged, pledged or subjected to lien, charge,
security interest or other encumbrance any of its assets, tangible or
intangible, except in the ordinary course of business; (v) sold,
transferred or leased any of its assets except in the ordinary course
of business; (vi) suffered any physical damage, destruction or loss
(whether or not covered by insurance) materially and adversely
affecting the properties, business or prospects of the Company; (vii)
entered into any transaction other than in the ordinary course of
business; (viii) encountered any labor difficulties or labor union
organizing activities; (ix) issued or sold any shares of capital stock
or other securities or granted any options, warrants, or other purchase
rights with respect thereto; (x) made any acquisition or disposition of
any material assets; other than for fair value in the ordinary course
of business; (xi) increased the compensation payable, or to become
payable, to any of its directors, officers or employees, or made any
bonus payment or similar arrangement with any of its directors,
officers or employees or increased the scope or nature of any fringe
benefits provided for its directors, officers or
5
<PAGE> 6
employees; or (xii) agreed to do any of the foregoing other than
pursuant hereto. There has been no material adverse change in the
financial condition, operations, results or operations or business of
the company since June 8, 1999.
l. Title to Properties and Encumbrances. The Company does
not have an ownership interest in any parcels of real property. The
Company has good and marketable title to all of its properties and
assets, including without limitation the properties and assets
reflected on the 1999 Balance Sheet and the properties and assets used
in the conduct of its business, which properties and assets are not
subject to any mortgage, pledge, lease, lien, charge, security
interest, encumbrance or restriction, except (a) those which are shown
and described on the 1999 Balance Sheet, (b) liens for taxes and
assessments or governmental charges or levies not at the time due or in
respect of which the validity thereof shall currently be contested in
good faith by appropriate proceedings, or (c) those which do not
materially affect the value of or interfere with the use made of such
properties and assets.
m. Conditions of Properties. The offices and equipment of
the Company have been kept in good condition and repair in the ordinary
course of business.
n. Compliance With Applicable Laws and Other Instruments.
The business and operations of the Company have been and are being
conducted in accordance with all applicable laws, rules and regulations
of all governmental authorities, except where the failure to so conduct
the business and operations of the Company would not have a material
adverse effect on the business, properties or prospects of the Company.
Neither the execution nor delivery of, nor the performance of or
compliance with, this Agreement nor the consummation of the
transactions contemplated hereby will, with or without the giving of
notice or passage of time, result in any breach of, or constitute a
default under, or result in the imposition of any lien or encumbrance
upon any asset or property of the Company pursuant to any agreement or
other instrument to which the Company is a party or by which it or any
of its properties, assets or rights is bound or affected, and will not
violate the Amended and Restated Articles of Incorporation or Bylaws of
the Company. The Company is not in violation of its Amended and
Restated Articles of Incorporation or Bylaws nor in violation of, or in
default under, any lien, indenture, mortgage, lease, agreement,
instrument, commitment or arrangement in any material respect. The
Company is not subject to any restriction which would prohibit it from
entering into or performing its obligations under this Agreement.
o. Securities Laws. Based in part upon the representations
of the Subscriber in Section 3 of this Agreement, no consent,
authorization, approval, permit or order of or filing with any
governmental or regulatory authority is required under current laws and
regulations in connection with the execution and delivery of this
Agreement or the offer, issuance, sale or delivery of the, Series A
Preferred or the Conversion Shares, other than the qualification
thereof, if required, under applicable state securities laws. The
Company has not, directly or through an agent, offered the Series A
Preferred or any similar securities for sale to, or solicited any
offers to acquire such securities from, persons other than the
Subscriber and other accredited investors. Under the circumstances
contemplated by this Agreement and assuming the accuracy of the
representations of the Subscriber in Section 4, the offer, issuance,
sale and delivery of the Series A Shares and the Conversion Shares will
not, under current laws and regulations, require compliance with the
prospectus delivery or registration requirements of the federal
Securities Act of 1933, as amended (the "Securities Act").
p. Intellectual Property. The Company owns or possesses
sufficient trademarks, tradenames, copyrights, licenses, approvals and
other similar rights, which are to the Company's
6
<PAGE> 7
knowledge free and clear of all liens, claims and restrictions
(collectively, the "Intellectual Property Rights") reasonably necessary
to conduct its business as now conducted; and the expected expiration
of any of such Intellectual Property Rights would not result in a
material adverse change in the business, properties, financial
condition or results of operations of the Company. The Company has not
received any notice of, nor to its knowledge is there any claim
threatened regarding, infringement or conflict with asserted
Intellectual Property Rights of others, which infringement or conflict,
if the object of an unfavorable decision, would result in a material
adverse change in the business, properties, financial condition or
results of operation of the Company. The Company is not obligated or
under any liability whatsoever to make any payments of a material
nature by way of royalties, fees or otherwise to any owner of, licensor
of or other claimant to, any patent, trademark, tradename, copyright or
other intangible asset, with respect to the use thereof or in
connection with the conduct of its business. To its knowledge, the
Company owns or has the unrestricted right to use all trade secrets,
including know-how, customer lists, inventions, designs, processes,
computer programs and technical data necessary for the development,
operation and sale of the products and services sold or proposed to be
sold by it, free and clear of all rights, liens, or claims of others.
q. Capital Stock. At the date hereof the authorized capital
stock of the Company consists of 5,000,000 shares of common stock, $.01
par value (the "Common Stock"), of which 1,919,716 shares are issued
and outstanding, which such shares are owned by the persons and in the
amounts indicated on Schedule 4.q. hereto, and 5,000,000 shares of
Series A Preferred Stock, none of which are outstanding (without giving
effect to the sale of Preferred Shares offered hereby). All of the
outstanding shares of capital stock of the Company were duly authorized
and validly issued and are fully paid and nonassessable, except that
(i)stock certificates have not been issued and delivered by the Company
to purchasers of Common Stock in the private placement of Company
common stock sold in March and April 1999, and (ii) common shareholders
approved the increase of authorized common stock to five million shares
in June 1999, effective April 20, 1999, after an amendment to the
Company's articles of incorporation were filed on April 20, 1999.
Except with respect to outstanding options to purchase 251,250 shares
of Company common stock held by Company employees and consultants,
there are no outstanding subscriptions, options, warrants, calls,
contracts, demands, commitments, convertible securities or other
agreements or arrangements of any character or nature whatever, other
than as contemplated by this Agreement under which the Company is
obligated to issue any securities of any kind representing an ownership
interest in the Company. Neither the offer nor the issuance or sale of
the Preferred Shares or the Conversion Shares constitute, or will
constitute, an event under any anti-dilution provisions of any
securities issued or issuable by the Company or any agreements with
respect to the issuance of securities by the Company, which will either
increase the number of shares issuable pursuant to such provisions or
decrease the consideration per share to be received by the Company
pursuant to such provisions. Except as contemplated by this Agreement,
no holder of any security of the Company is entitled to any preemptive
or similar rights to purchase any securities of the Company from the
Company; provided, however that nothing in this Section 4.q. shall
affect, alter or diminish any right granted to the Subscriber in this
Agreement. All outstanding securities of the Company have been issued
in full compliance with an exemption or exemptions from the
registration and prospectus delivery requirements of the Securities Act
and from the registration and qualification requirements of all
applicable state securities laws.
r. Outstanding Debt. The Company has no indebtedness
incurred as a result of direct borrowing of money (excluding any
indebtedness incurred with respect to trade accounts), except as
otherwise set forth in the financial statements or the notes thereto
provided to the Subscriber. The Company is not in default in the
payment of the principle of or interest or
7
<PAGE> 8
premium on any such indebtedness, and no event has occurred or is
continuing under the provisions of any instrument, document or
agreement evidencing or relating to any such indebtedness which, with
the lapse of time or the giving of notice or both, would constitute an
event of default thereunder.
s. Insurance Coverage. There are in full force and effect
policies of insurance issued by insurers of recognized responsibility
which are insuring the Company and its properties against such losses
and risks, and in such amounts, as in the Company's best judgment,
after advice from its insurance broker, are acceptable for the nature
and extent of its business and the Company's resources.
t. Schedule of Assets and Contracts. The Company has
previously delivered to Subscriber, to the extent they exist, copies of
the documents described on the schedule of assets and contracts to be
attached to this Agreement no later than one week after the date
hereof:
(1) each written or oral contract or agreement between
the Company and any shareholder of the Company;
(2) each indenture, lease, sublease, license or other
instrument under which the Company claims or holds a leasehold
interest in real property;
(3) each lease of personal property involving
payments remaining to or from the Company;
(4) except with respect to Robert Phythian and Paul
Charchian, each of whom have verbal agreements with the
Company regarding salary, each written or oral contract,
agreement, subcontract, purchase order, commitment or
arrangement involving payments remaining to or from the
Company and each other agreement material to the Company's
business to which the Company is a party or by which it is
bound, under which full performance (including payment) has
not been rendered by any party thereto;
(5) any collective bargaining agreements, employment
agreements, consulting agreement, noncompetition agreements,
nondisclosure agreements, executive compensation plans, profit
sharing plans, bonus plans, deferred compensation agreements,
employee pension retirement plans and employee benefit stock
option or stock purchase plans and other employee benefit
plans, entered into or adopted by the Company;
(6) a current statement of balance of account in the
account at Richfield Bank and Trust maintained by the Company,
together with the persons authorized to make withdrawals from
such accounts; and
(7) the name of each employee of the Company and the
remuneration currently payable to each such employee;
(8) all accounts receivable of the Company that are
or were outstanding on the Balance Sheet Date, and the aging
of each such account receivable;
(9) all accounts payable of the Company that are or
were outstanding on the June 1999 Balance Sheet, and the aging
of each such account payable;
8
<PAGE> 9
(10) all insurance policies in force;
(11) all patents, royalty and license agreements,
trademarks, trade names, service marks and copyrights relating
to products of the Company (including applications therefor);
and
(12) all licenses, permits, authorizations,
approvals, franchises and rights granted to the Company by any
governmental or other regulatory authority.
The Company has performed in all material respects
all obligations required to be performed by it to
date and is not in default under any of the
contracts, agreements, leases, documents, commitments
or other arrangements to which it is a party or by
which it is otherwise bound. All instruments referred
to above are in effect and enforceable according to
their respective terms, and there is not under any of
such instruments any existing default or event of
default or event which, with notice or lapse of time
or both, would constitute an event of default
thereunder on the part of the Company, or, to the
best knowledge of the Company, on the part of any
other party thereto. All parties having contractual
arrangements with the Company are in compliance
therewith and none are in default thereunder. All
plans or arrangements described above are fully
funded to the extent that such funding is required by
generally accepted accounting principles.
u. Conflicts of Interest. No officer, director or
shareholder of the Company or any affiliate (as the term "affiliate" is
defined in Rule 405 under the Securities Act) of any such person has
any direct or indirect interest (a) in any entity which does business
with the Company, (b) in any property, asset or right which is used by
the Company in the conduct of its business, or (c) in any contractual
relationship with the Company other than as an employee. For the
purpose of this Section 4.u., there shall be disregarded any interest
which arises solely from the ownership of less than a 1% equity
interest in a corporation whose stock is regularly traded on any
national securities exchange or in the over-the-counter market.
v. Licenses. To the Company's knowledge, the Company
possesses from the appropriate agency, commission, board and government
body and authority, whether state, local or federal, all licenses,
permits, authorizations, approvals, franchises and rights which are (a)
necessary for it to engage in the business currently conducted by it,
and (b) if not possessed by the Company would have a material adverse
impact on the Company's business. The Company has no knowledge that
would lead it to believe that it will not be able to obtain all
licenses, permits, authorizations, approvals, franchises and rights
that may be required for any business the Company proposes to conduct.
w. Registration Rights. Except as set froth under this
Agreement, the Company has not agreed to register any of its authorized
or outstanding securities under the Securities Act.
x. Retirement Plans. The Company does not have any
retirement plan in which any employees of the Company participates that
is subject to any provisions of the Employee Retirement Income Security
Act of 1974 and of the regulations adopted pursuant thereto ("ERISA").
y. Minute Books. A true and correct copy of all minute books
and stock record books of the Company has been delivered to the
Subscriber.
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<PAGE> 10
z. Disclosure. The Company has not withheld from the
Subscriber any material facts relating to the assets, business,
operations, financial condition or prospects of the Company. No
representation or warranty in this Agreement or in any certificate,
schedule, statement or other document furnished or to be furnished to
any Subscriber pursuant hereto or in connection with the transactions
contemplated hereby contains or will contain any untrue statement of a
material fact or omits or will omit to state any material fact required
to be stated herein or therein or necessary to make the statements
herein or therein, in light of all the circumstances in which they were
made, not misleading.
5. Right to Purchase Additional Securities. If the Company should
decide to issue and sell for cash additional shares of any capital stock of the
Company, other than Additional Shares of Common Stock (as defined in the Series
A Certificate), and at such time, the Subscriber and its affiliates then own
19.9% or less of the outstanding Common Stock of the Company (including for
purposes of such calculation on an as converted basis all outstanding shares of
Series A Preferred and any other outstanding securities, options or warrants
convertible into Common Stock, but not including performance based options that
have not yet vested) then such issuances and sales shall be subject to the
following terms and conditions:
a. the Company shall first offer to sell to the Subscriber,
upon the same terms and conditions as the Company is proposing to issue
and sell such additional shares of capital stock to others, such number
of additional securities as would result in the Subscriber and its
affiliates maintaining their then current aggregate ownership
percentage, as such percentage may decrease from time to time but in no
event in excess of nineteen and nine-tenths percent (19.9%) of the
outstanding Common Stock of the Company;
b. if Subscriber's and its affiliates' aggregate ownership
percentage upon completion of such proposed issuance and sale of
additional securities would be greater than their then current
aggregate ownership percentage at the time of the proposed issuance and
sale of additional securities (as such percentage may decrease from
time to time but in no event in excess of 19.9%), then this right to
purchase additional securities shall not apply to the extent the
Subscriber's and its affiliates' ownership would be, upon completion of
such proposed issuance and sale of additional securities, greater than
their then current aggregate ownership percentage (as such percentage
may decrease from time to time but in no event in excess of 19.9%); and
c. this right to purchase additional securities hereunder
shall automatically terminate upon the date that the Company completes
a Qualified Public Offering, as defined in the Series A Certificate.
The Company and Subscriber understand that based on current
stock ownership levels as of the date of this Agreement, this right to purchase
additional securities shall not apply to the extent that the Company issues and
sells additional securities that would result in the Subscriber's and its
affiliates' aggregate ownership percentage exceeding 19.9%. By way of
illustration and not as a limitation, if, at a future date, the Subscriber's and
its affiliates' aggregate ownership percentage decreases from its level as of
the date of this Agreement to ten percent (10%), for example, then this right to
purchase additional securities would be a right to maintain a ten percent (10%)
aggregate ownership percentage in the Company.
6. Affirmative Covenants of the Company. Subject to Section 8 of
this Agreement, the Company covenants and agrees that:
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<PAGE> 11
a. Corporate Existence. The Company will maintain its
corporate existence in good standing and comply in all material
respects with all applicable laws and regulations of the United States
or of any state or states thereof or any political subdivision thereof
where failure to so comply would have a material adverse impact on the
company or its business or operations.
b. Books of Account and Records. The Company will keep books
of record and account in which full, true and correct entries are made
of all of its and their respective dealings, business and affairs, in
accordance with generally accepted accounting principles. The Company
will deliver to the Subscriber as soon as practicable the following:
(i) after the close of each fiscal quarter, unaudited consolidated
balance sheets of the Company as of the end of such quarter, together
with the related statements of operations for such quarter; and (ii)
after the end of each fiscal year, a nonaudited balance sheet of the
Company as of the end of such fiscal year, together with related
statements of operations, stockholders equity and cash flow for such
fiscal year. The Company will engage a certified public accountant from
a "Big 5 Accounting Firm" selected by the Board of Directors of the
Company who are "independent" within the meaning of the accounting
regulations of the Securities and Exchange Commission (the
"Commission"), and have annual audits made by such independent public
accountants.
c. Payment of Taxes. The Company will pay and discharge
promptly, or cause to be paid and discharged promptly when due and
payable, all taxes, assessments and governmental charges or levies
imposed upon its income or upon any of its properties, as well as all
material claims of any kind which, if unpaid, might by law become a
lien or charge upon its property; provided, however, that the Company
shall not be required to pay any such tax, assessment, charge, levy or
claim if the amount, applicability or validity thereof shall currently
be contested in good faith by appropriate proceedings and if the
Company shall set aside on its books reserves deemed adequate by it
with respect thereto; and (ii) maintain and keep or cause to be
maintained and kept, its properties in good repair, working order and
condition, and from time to time make, or cause to be made, all repairs
and renewals and replacements which in the opinion of the Company are
necessary and proper so that the business carried on in connection
therewith will be properly and advantageously conducted at all times.
d. Insurance. The Company will obtain and maintain in force
such property damage, public liability, workers compensation, indemnity
bonds and other types of insurance as the Company executive officers,
after consultation with its insurance broker, shall determined to be
necessary or appropriate to protect the Company from the insurable
hazards or risks associated with the conduct of the Company's business.
All insurance company maintained in at least such amounts and to such
extent as shall be determined to be reasonable by the Board of
Directors, and all such insurance shall be effected and maintained in
force under a policy or policies issued by insurers of recognized
responsibility, except that the Company may affect workers company or
similar insurance in respect of operations in any state or other
jurisdiction either through an insurance fund operated by such state or
other jurisdiction or by causing to be maintained a system or systems
of self insurance which is in accord with applicable laws.
e. Inspection. The Company will permit the Subscriber and
any of its representatives designated by it, to visit and inspect, at
the Subscriber's expense, any of the properties of the Company,
including its books and records (and to make photocopies thereof or
make extracts therefrom), and to discuss its affairs, finances and
accounts with its officers and accountants, all to such reasonable
extent and at such reasonable times and intervals as the Subscriber may
reasonably describe and request in advance. The Subscriber shall
maintain, and shall require its representatives to maintain, all
information obtained from the Company pursuant to this Agreement on a
confidential basis.
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<PAGE> 12
f. Preparation and Approval of Budgets. Commencing with its
fiscal year ending June 30, 2000, at least one month prior to the
beginning of each fiscal year of the Company, the Company shall prepare
and submit to its board of directors, for its review and approval, an
annual plan/budget for such year, which shall include monthly capital
and operating expense budgets, cash flow statements and profit and loss
projections itemized in such detail as the board of directors may
reasonably request. The Company will, simultaneously with the
submission thereof to the board of directors, deliver a copy of such
annual plan/budget to the Subscriber.
g. Payment of Indebtedness and Discharge of Obligations. The
Company will make timely payment of all amounts due under, and will
observe, perform and discharge all of the covenants, conditions and
obligations which are imposed on it by, any and all indentures and
other agreements securing or evidencing all indebtedness resulting from
bank or other borrowings or pursuant to which such indebtedness is
issued.
h. Representation on Board of Directors; Directors' and
Shareholders' Meetings. The Subscriber shall have the right to appoint
one director to the Company's Board of Directors (the "Board"). In the
event of the death, resignation or removal of any director designated
by the Subscriber, the Subscriber shall be entitled to designate such
director's successor. The Company agrees that in submitting to the
Company's shareholders or board of directors the names and nominees for
election as directors or in filling interim vacancies, it will use its
good faith reasonable efforts to cause any person designated by the
Subscriber to be elected as a director. The Company further agrees to
call meetings of its board of directors at least quarterly and during
each year to hold an annual meeting of shareholders within a reasonable
time after the end of each of its fiscal years. The Company also agrees
to reimburse the directors for the reasonable out-of-pocket travel
expenses incurred by the directors in connection with attending
meetings of the board of directors and meetings of shareholders, and
shall maintain a provision in its by-laws providing for the
indemnification of its directors to the full extent permitted by the
law of the state of its incorporation.
i. Application of Proceeds. Unless otherwise approved by the
Subscriber, the net proceeds received by the Company from the sale of
the Series A Preferred will be used by the Company for sales,
marketing, advertising, acquisitions and general working capital
purposes.
Pending use of the net proceeds in the business, they shall be
deposited in a bank or financial institution having assets of
$150,000,000 or more or a bank or financial institution
otherwise approved by the Investors, invested in certificate
of deposit or repurchase agreements of a bank or financial
institution having assets of $150,000,000 or more, invested in
money market mutual funds having assets of $500,000,000 or
more, or invested in securities issued or guaranteed by the
United States Government.
j. Provision of Information and Filing of Reports. The
Company shall, from and after the Closing Date, deliver to any holder
of Series A Preferred upon request such information as may be required
to be provided to enable the holder of Series A Preferred to comply
with Rule 144A under the Securities Act in connection with the sale
or transfer of any of the Preferred Shares. The Company shall, from and
after such time as it has securities registered pursuant to Section 2
of the Security Exchange Act of 1934 or has an offering of securities
registered pursuant to the Securities Act, make timely filings of such
reports as are required to be filed by it with the Commission so that
Rule 144 under the Securities Act or any successor provision thereto
will be available to the security holders of the Company who are
otherwise able to take advantage of the provisions of such rule.
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<PAGE> 13
k. Subsidiaries. If the Company establishes or maintains any
subsidiary corporations, it shall cause each such subsidiary
corporation to comply with the covenants set forth in this Section 6
(other than Sections 6.h).
l. Gaming. The Company understands that Subscriber is
engaged in businesses that are regulated by various gaming authorities
and regulation. Company covenants that it will provide prior written
notice (which may be in the form of providing copies of minutes of
meetings of the Company's Board of Directors) to the Subscriber
concerning its planned activities and potential activities in the
development stage that involve, directly or indirectly, contests or
gaming which the Company may engage in prior to actually undertaking
such activities. Subscriber agrees that, based on such prior notice and
information, Subscriber will on a reasonably prompt basis notify the
Company about any aspect of the proposed or developed plans regarding a
new activity that could effect the subscribers compliance with the
requirements of any gaming authority or regulation. The Company further
covenants and agrees that it will not engage in any such activity that
will in any way adversely effect Subscriber's compliance with the
requirements of any such gaming authority or regulation, unless
consented to in advance by subscriber, which consent may be withheld by
Subscriber in its sole discretion.
m. Issuance of Stock and Rights to Acquire Stock. The
Company shall comply with Section 5 hereof.
n. Intellectual Property Rights. The Company will apply for,
or obtain assignments of, or license to use, all patents, trademarks,
tradenames and copyrights which the Board of Directors so directs for
the conduct and protection of the business of the Company.
o. Consents to Subchapter S Status Termination. The Company
agrees to undertake to obtain the consent from each shareholder of the
Company to whom the Company was contractually obligated to obtain
consent for termination of Subchapter S status under the Internal
Revenue Code of 1986, as amended.
7. Negative Covenants of the Company. Subject to Section 8 of
this Agreement, the Company covenants and agrees that:
a. Registration. Except any registration expressly permitted
by Section 11 of this Agreement, and except for an underwriting
agreement between the Company and one or more professional underwriters
of securities, the Company shall not agree with the holders of any
securities issued or to be issued by the Company to register such
securities under the Securities Act nor will it grant any incidental
registration rights to any such persons, unless such agreement
specifically provides that (i) in the opinion of the managing
underwriter or underwriters, if any, of any registration in which
Conversion Shares are included pursuant to Section 1 of Exhibit B, the
public offering or sale of such other securities would not interfere
with the successful public offering and sale of such Conversion Shares,
such other securities will not be included in a registration statement
in which such Conversion Shares are so included, (ii) such subsequent
purchasers shall not be granted registration rights more favorable than
those granted to the Subscriber, and (iii) such securities may not be
publicly offered or sold for a period of at least one hundred eighty
(180) days after the closing of any public offering of Conversion
Shares registered pursuant to Exhibit B.
b. Other Restrictions. The Company will not, nor will it
permit any subsidiary to, without the prior written consent of the
Subscriber:
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<PAGE> 14
(1) take any action that constitutes or results in
amendment or waiver of any provision of the Company's Articles
of Incorporation, as amended, the Series A Certificate or
Bylaws, if such amendment or waiver in any way adversely
affects the rights of the Series A Preferred or the holders
thereof; or
(2) alter, amend or change any existing rights,
preferences privileges or provisions relating to the Series A
Preferred or the holders thereof; or
(3) take any action that results in the redemption of
any share(s) of Common Stock (other than repurchases of shares
of Common Stock issued pursuant to the Employee Pool).
8. Termination of Covenants. The obligations of the Company under
Sections 5, 6 and 7, notwithstanding any provisions hereof to the contrary,
shall automatically terminate and shall be of no further force or effect on the
date on which the Company completes its Qualified Public Offering (as defined in
the Series A Certificate).
9. Co-Sale Agreements. Within thirty (30) days after the date
hereof, the Company undertakes and agrees to obtain written co-sale agreements
to be executed and delivered by Robert Phythian, Paul Charchian and Erwin Kelen
(and their related affiliates) who in the aggregate own at least 25,000 shares
of Company common stock, which co-sale agreements shall provide that to the
extent any such holder desires to sell at least 25,000 shares of Common Stock to
a third party, other than a transfer pursuant to a pledge, estate plan, gift or
registered public offering, then such holder will include, if Subscriber so
desires, as an additional seller of shares of Common Stock to such third party
the shares of Common Stock that Subscriber owns in such proposed sale
transaction on a pro rata basis. Such co-sale agreements shall include a
provision that expressly permits sale transactions of up to 25,000 shares during
any twelve (12) month period on a cumulative basis and shall be in a form
reasonably satisfactory to Subscriber and such shareholders.
10. Conversion of Preferred Shares.
a. Conversion of Preferred Shares. Any holder of any Series
A Preferred may, at its option, from and after the occurrence of such
events as are set forth in the relevant provisions of the Series a
Certificate, convert such Preferred Shares, or any portion thereof,
into Conversion Shares at the rate and upon the terms and conditions
and subject to the adjustments set forth it the Series A Certificate.
Each Series A Preferred Share shall be automatically converted into
Conversion Shares on the terms and conditions set forth in the Series A
Certificate.
b. Stock Fully Paid; Reservation of Preferred Shares. The
Company covenants and agrees that all Conversion Shares that may be
issued upon the exercise of the conversion privilege referred to in
Section 9.a. will, upon issuance in accordance with the terms of the
Series A Certificate, be fully paid and nonassessable and free from all
taxes, liens and charges except for liens or changes created or
incurred by the holder) with respect to the issue thereof, and that the
issuance thereof shall not give rise to any preemptive rights on the
part of any person. The Company further covenants and agrees that the
Company will at all times have authorized and reserved a sufficient
number of its shares of Common Stock for the purpose of issue upon the
exercise of such conversion privilege.
c. Adjustment of Number of Conversion Shares. The number of
shares of Common Stock issuable upon conversion of the Series A
Preferred and the conversion ratio with respect thereto shall be
subject to adjustment from time to time as set forth in the Series A
Certificate.
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<PAGE> 15
11. Registration Rights. The Subscriber shall have the right to
have any Conversion Shares acquired by the Subscriber upon conversion of any
Series A Preferred held by such Subscriber issued upon the exercise of the
conversion rights set forth in the Series A Certificate registered by the
Company in accordance with the terms and conditions set forth in Exhibit B of
this Agreement.
12. Default.
a. Events of Default. Each of the following events shall be
an event of default (an "Event of Default") for purposes of this
Agreement:
(1) if the Company shall default in any material
respect in the due and punctual performance of any covenant or
agreement in any note, bond, indenture, loan agreement, note
agreement, mortgage, security agreement or other instrument
evidencing or related to indebtedness of the company, such
default shall continue for more than the period of notice
and/or grace, if any, therein specified and shall not have
been waived, and such creditor shall have accelerated the
maturity of such indebtedness or otherwise shall have
initiated action to collect such indebtedness;
(2) (A) if any representation or warranty made by or
on behalf of the Company in this Agreement or in any
certificate, report or other instrument delivered under or
pursuant to any term hereof shall prove to have been untrue or
incorrect in any material respect as of the date of this
Agreement; or (B) if any report, certificate, financial
statement or financial schedule or other instrument prepared
or purported to be prepared by the Company or any officer of
the Company hereafter furnished or delivered under or pursuant
to this Agreement shall prove to be untrue or incorrect in any
material respect as of the date it was made, furnished or
delivered;
(3) if the Company defaults in the due and punctual
performance or observance of any covenant contained in this
Agreement, and such default continues for a period of 30 days
after written notice thereof to the Company by any Subscriber;
provided, however, that an Event of Default shall not be
deemed to have occurred if, at the end of such 30-day period,
the Company is diligently attempting to cure such default and
the existence of such default is not adversely affecting the
business or financial condition of the Company; or
(4) if the Subscriber's designees to the Company's
board of directors shall fail to be elected to the board of
directors in the manner and under the terms and conditions set
forth in Section 6.i of this Agreement.
b. Remedy Upon Events of Default. Upon the occurrence of an
Event of Default, then the holders of Series A Preferred and/or
Conversion Shares shall have all remedies available under applicable
law or in equity.
c. Notice of Defaults. When, to its knowledge, any Event of
Default has occurred or exists, the Company shall give written notice
within three business days of such Event of Default to the holders of
all outstanding Series A Preferred. If the holder of any of the Series
A Preferred shall give any notice or take any other actions in respect
of a claimed Event of Default, the Company will forthwith given written
notice thereof to all other holders of Preferred Shares at the time
outstanding, describing such notice or action and the nature of the
claimed Event of Default.
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<PAGE> 16
d. Remedies Not Waived. No course of dealing between the
Company and the Subscriber or any holder of any Series A Preferred and
no delay in exercising any right, power or remedy conferred hereby or
by any such security or now or hereafter existing at law or in equity
or by statute or otherwise, shall operate as a waiver of or otherwise
prejudice any such right, power or remedy; provided, however, that this
Section shall not be construed or applied so as to negate the
provisions and intent of any statute which is otherwise applicable.
e. Remedies Cumulative. No right, power or remedy conferred
upon any holder of the Series A Preferred shall be exclusive, and each
such right, power or remedy shall be cumulative and in addition to
every other right, power or remedy, whether conferred hereby or by any
such security or now or hereafter available at law or in equity or by
statute or otherwise.
f. Attorney Fees to the Prevailing Party. The parties hereto
agree that in the event either party brings an action for breach of
this Agreement or for indemnification, the prevailing party shall be
entitled to receive all attorney fees, costs and expenses incurred,
including without limitation such reasonable fees and expenses of
attorneys (whether or not litigation is commenced) and reasonable fees,
costs and expenses of appeals.
13. Lock-up Agreement. The Subscriber agrees, in connection with
the initial underwritten public offering of the Common Stock, (1) not to sell,
make short sale of, loan, grant any options for the purchase of, or otherwise
dispose of any shares of Series A Preferred or the Common Stock into which it is
converted held by the Subscriber (other than those shares, if any, included in
the applicable registration statement) without the prior written consent of the
Company or the underwriters managing such initial underwritten public offering
for 180 days from the effective date of such registration statement and (2) to
execute any written instrument reflecting the agreement set forth in (1) above
as may be requested by the underwriters at the time of the initial public
offering.
14. Indemnification. The Subscriber agrees to indemnify and hold
the Company harmless from and against any liability, loss or expense (including
reasonable attorneys' fees) if the Subscriber, alone or with others, defaults in
any of the Subscriber's representations, warranties or covenants set forth
herein. The Company agrees to indemnify and hold the Subscriber harmless from
and against any liability, loss or expense (including reasonable attorneys'
fees) (a) if the Company defaults in any of the Company's representations,
warranties or covenants set forth herein and (b) incurred by Subscriber in
connection with, or arising from, any claims of third parties that the Company
improperly terminated its Subchapter S tax status.
15. No Filing. The Subscriber understands that no federal or state
agency has made any finding or determination as to the fairness for investment
nor any recommendation or endorsement of the Series A Preferred.
16. Successors. The Subscriber's rights and obligations hereunder
shall inure to the benefit of, and be binding upon and enforceable against his
or her heirs, representatives and successors. Notwithstanding the foregoing,
neither this offer nor any rights granted to the Subscriber herein may be
transferred or assigned by the Subscriber.
17. Notices. All notices to the Subscriber will be deemed given
when mailed by first class mail, postage prepaid, to the address designated by
the Subscriber below.
18. Questionnaires. The Subscriber understands that he or she must
complete Part I of the Subscriber Information questionnaire, and Part II of the
Accreditation Criteria questionnaire.
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<PAGE> 17
19. Governing Law. It is the intention of the Subscriber and the
Company that the laws of the State of Minnesota shall govern the validity of
this Subscription Agreement, the construction of its terms and the
interpretation of the rights and duties of the parties.
20. Changes Waivers, Etc. Neither this Agreement nor any provision
hereof may be changed, waived, discharged or terminated orally, but only by a
statement in writing signed by the party against which enforcement of the
change, waiver discharge or termination is sought.
21. Survival of Representations and Warranties, Etc. All
representations and warranties contained herein shall survive the execution and
delivery of this Agreement, any investigation at any time made by the
Subscribers or on their behalf, and the sale and purchase of the Series A
Preferred and the payment therefor. All statements contained in any certificate,
instrument or other writing delivered by or on behalf of the Company pursuant to
this Agreement (other than legal opinions) or in connection with or in
contemplation of the transactions herein contemplated shall constitute
representations and warranties by the Company hereunder.
IN WITNESS WHEREOF, the Subscriber has caused this Agreement to be
executed by its duly authorized representative and the Company has caused this
Agreement to be executed by signing in counterpart the acceptance form attached
to this Agreement.
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<PAGE> 18
PART I
SUBSCRIBER INFORMATION
FOR
ENTITY SUBSCRIBER
- -----------------------------------
Mailing Address
- -----------------------------------
City State Zip
- -----------------------------------
Telephone
IN WITNESS WHEREOF, the Subscriber has caused this Agreement to be
executed by its duly authorized representative by signing in counterpart the
acceptance form attached to this Agreement.
LAKES GAMING, INC.
By: /S/ Lyle Berman
------------------------------------------------
Its: Chairman of the Board & Chief Executive Officer
------------------------------------------------
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CERTIFICATE OF SIGNATORY
(to be completed if the Series A Preferred are being subscribed for by
an entity)
I, Lyle Berman, of the Lakes Gaming, Inc. (the "Entity"), hereby
certify that I am empowered and duly authorized by the Entity to execute and
carry out the terms of the Subscription Agreement and to purchase and hold the
Series A Preferred, and certify further that the Subscription Agreement has been
duly and validly executed on behalf of the Entity and constitutes a legal and
binding obligation of the Entity.
IN WITNESS WHEREOF, I have set my hand as of this 15th day of June,
1999.
/s/ Lyle Berman
----------------------------------------------
(Signature)
Lyle Berman
----------------------------------------------
(Please Print Name)
Chairman of the Board & Chief Executive Officer
----------------------------------------------
(Position)
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<PAGE> 20
PART II
ACCREDITATION CRITERIA
TO BE COMPLETED BY ALL SUBSCRIBERS
The shares are being offered only to "accredited investors" as defined within
the meaning of rule 501 (a) of Regulation D promulgated by the Securities and
Exchange Commission. An accredited investor is one who fulfills any one of the
following criteria.
Please indicate (by check) which criteria apply:
A. For an INDIVIDUAL INVESTOR (a natural person), please indicate (by a
check) which criteria apply:
[ ] (1) Individual income in excess of $200,000 in each
of the two most recent years or joint income (with
such investor's spouse) in excess of $300,000 in each
of those years and a reasonable expectation of
reaching the same income level in the current year.
[ ] (2) Individual net worth, or Joint net worth (with such
investor's spouse), of $1,000,000 or more.
[ ] (3) A director or executive officer of the Company.
B. For a LEGAL ENTITY (other than a natural person), please indicate (by a
check) which criteria apply:
[ ] (1) A bank, savings and loan association or similar
institution, as defined in the Securities Act of
1933, whether acting in its individual or fiduciary
capacity.
[ ] (2) A broker or dealer registered pursuant to Section 15 of
the Securities Exchange Act of 1934.
[ ] (3) An insurance company as defined in the Securities Act of
1933.
[ ] (4) An investment company registered under the Investment
Company Act of 1940.
[ ] (5) A business development company as defined in the
Investment Company Act of 1940.
[ ] (6) A private business development company as defined in the
Investment Advisors Act of 1940.
[ ] (7) A Small Business Investment Company licensed by the U.S.
Small Business Administration under the Small Business
Investment Act of 1958.
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<PAGE> 21
[ ] (8) An organization described in Section 501(c)(3) of
the Internal Revenue Code, corporation, Massachusetts
or similar business trust, or partnership, not formed
for the specific purpose of acquiring the securities
offered, with total assets in excess of $5,000,000.
[ ] (9) A plan established and maintained by a state, its
political subdivisions, or any agency or
instrumentality of a state or its political
subdivisions, for the benefit of its employees, if
such plan has total assets in excess of $5,000,000.
[ ] (10) An employee benefit plan within the meaning of Title I of
the Employment Retirement Income Security Act of 1974, if
the investment decision is made by a plan fiduciary, as
defined in such Act, which is either a bank, savings and
loan association, insurance company, or registered
investment advisor, or if the employee benefit plan has
total assets in excess of $5,000,000, or if a
self-directed plan, the investment decisions are made
solely by persons that are accredited investors.
[ ] (11) A trust with total assets in excess of
$5,000,000, not formed for the specific purpose of
acquiring the Securities offered, whose purchase is
directed by a "sophisticated" person. the person or
persons making the investment decisions of the trust
should complete Part I (unless B(1) or B(2) also apply).
[ ] (12) An entity in which all of the equity owners are
"accredited investors."
Date: June 15, 1999
---------------- Lakes Gaming, Inc.
------------------------------
Name of Subscriber
/s/ Lyle Berman
------------------------------
Signature of Subscriber
21
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ACCEPTANCE
This Subscription Agreement of Lakes Gaming, Inc. is hereby accepted by
Fanball.com, Inc. as of June 15, 1999.
FANBALL.COM, INC.
By: Rob Phythian
------------------------------
Its: President
------------------------------
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EXHIBIT 10.2
STOCK PURCHASE AGREEMENT
This STOCK PURCHASE AGREEMENT, dated as of June 15, 1999, is between
Lakes Gaming, Inc. (the "Buyer") and Richard Kallio (the "Seller").
A. The Seller is the owner of 150,000 shares (the "Shares") of the
common stock, par value $.01 per share, of Fanball.com, Inc. a Minnesota
corporation (the "Company"), which Shares constitute approximately 7.8% of the
issued and outstanding shares of common stock of the Company ("Company Common
Stock").
B. The Seller wishes to sell and the Buyer wishes to buy the Shares for
the consideration and upon the terms and conditions set forth below.
Accordingly, the parties agree as follows:
1. Sale and Purchase of Shares. Subject to the terms and conditions of
this Agreement and in reliance upon the representations and warranties contained
in this Agreement, the Seller hereby sells to the Buyer, and the Buyer hereby
purchases from the Seller, the Shares.
2. Purchase Price and Other Terms. The total purchase price for the
Shares to be purchased under this Agreement will be Two and 50/100 Dollars
($2.50) per share. The purchase price for the Shares is being paid by the Buyer
on the date hereof by delivery to the Seller of a check in the amount of
$375,000 (the "Purchase Consideration"). On the date hereof, the Seller is
delivering to the Company, for cancellation, a stock certificate representing
the Shares, and the Company is issuing to the Buyer a new stock certificate
representing the Shares.
3. Representations and Warranties of Seller. In order to induce Buyer
to enter into this Agreement and purchase the Shares, the Seller hereby
represents and warrants to the Buyer as follows:
(a) Title to Shares. The Seller is the lawful owner of the
Shares, free and clear of all liens, encumbrances and claims of every
kind, and the delivery of such Shares by the Seller to the Buyer under
this Agreement will transfer valid title to the Buyer to the Shares,
free and clear of all liens, charges, encumbrances and claims of every
kind. There are no actions, suits or proceedings against the Seller
affecting the title of the Seller to the Shares or the right of the
Seller to execute, deliver and perform this Agreement.
(b) Authority. The Seller has the full legal right, power and
authority to execute and deliver this Agreement and to consummate the
transactions provided for herein or contemplated hereby. This Agreement
has been duly and validly authorized, executed and delivered by, and
constitutes the valid and binding agreement of the Seller, enforceable
in accordance with its terms.
<PAGE> 2
(c) No Default or Legal Restriction. Neither the execution and
delivery of this Agreement, nor the consummation of the transactions
contemplated hereby, will conflict with or result in a breach of any of
the terms, conditions or provisions of any agreement or instrument to
which the Seller is a party or by which he is bound, or constitute a
default under the foregoing or violate any law, rule, regulation,
judgment or decree by which the Seller is bound.
4. Representations and Warranties of the Buyer. The Buyer represents
and warrants to the Seller that it has the full legal right, power and authority
to execute and deliver this Agreement and to consummate the transactions
provided for herein or contemplated hereby. This Agreement has been duly and
validly authorized, executed and delivered by, and constitutes the valid and
binding agreement of, the Buyer, enforceable in accordance with its terms.
5. Survival. The representations, warranties, covenants and agreements
of each of the Seller and the Buyer will survive the execution and delivery of
this Agreement and the consummation of the transactions contemplated hereby
regardless of any investigation that may have been made at any time by or on
behalf of the party to which such representations, warranties, covenants and
agreements are made.
6. Miscellaneous.
(a) Governing Law. This Agreement will be governed by and
construed in accordance with the laws of the State of Minnesota.
(b) Entire Agreement, Successors and Assignment. This
Agreement sets forth the entire agreement and understanding of the
parties in respect of the transactions contemplated hereby and
supersedes all prior agreements, arrangement, and understandings
relating to the subject matter hereof or thereof. All of the terms,
representations and warranties of this Agreement will be binding upon,
inure to the benefit of, and be enforceable by, the parties hereto and
their respective successors, heirs at law, legatees, distributees,
executors, administrators and other legal representatives.
(c) Further Assurances. Each party to this Agreement will, on
or any time after the date hereof, execute such further documents or
instruments and take such further actions as may reasonably be
requested by any other party to this Agreement to effect the purposes
of this Agreement.
(d) Counterparts. This Agreement may be executed in two or
more counterparts, each of which will constitute an original, but all
of which, when taken together will constitute but one instrument.
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The parties hereto have caused this Agreement to be duly executed on
and as of the day and year first above written.
BUYER: SELLER:
- ------ -------
Lakes Gaming, Inc.
By: /s/ Lyle Berman
--------------------------------
Name: Lyle Berman /s/ Richard Kallio
------------------------------ -----------------------------
Its: Chairman of the Board and Richard Kallio
-------------------------------
Chief Executive Officer
-------------------------------
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EXHIBIT 10.3
INTERACTIVE LEARNING GROUP, INC.
SUBSCRIPTION AGREEMENT AND
INVESTMENT LETTER
PURCHASE OF COMMON STOCK
AND
COMMON STOCK PURCHASE WARRANT
Interactive Learning Group
5001 West 80th Street
Suite #310
Bloomington, MN 55437
The undersigned (the "Subscriber") hereby subscribes for and offers to
purchase from Interactive Learning Group, Inc., a Minnesota corporation (the
"Company"), for an aggregate purchase price of Three Million Dollars
($3,000,000) (the "Purchase Price"): (A) one million (1,000,000) shares (the
"Shares") of Company common stock, $.01 par value (the "Common Stock") and (B) a
seven (7) year warrant (the "Warrant"), in the form attached hereto as EXHIBIT
A, to acquire an aggregate of Five Hundred Thousand (500,000) shares of Common
Stock at a warrant exercise price of Three Dollars and Fifty Cents ($3.50) per
share (the Warrant, together with the Shares, are referred to herein as the
"Securities"), in each case upon the terms and subject to the following
conditions:
1. Payment. Subscriber submits and delivers herewith a check for the
Purchase Price, made payable to "Interactive Learning Group, Inc." representing
the aggregate purchase price for the Securities. In exchange therefor, the
Company delivers to Subscriber a stock certificate, dated as of the date hereof,
representing the Shares purchased by the Subscriber and registered in the name
of Lakes Gaming, Inc., and a fully executed Warrant, in the form of EXHIBIT A.
2. Representations of Subscriber. To induce the Company to accept this
offer, Subscriber represents and warrants as follows:
(a) Subscriber agrees that Subscriber may not sell or otherwise transfer
all or any interest in the Securities except as expressly provided in this
Subscription Agreement and Investment Letter (the "Agreement").
(b) Subscriber understands that the Company must comply with the
securities laws of the jurisdiction in which the Subscriber is domiciled.
Subscriber therefore represents and warrants to the Company as follows:
<PAGE> 2
(i) Subscriber is a business organization organized and validly
existing under the laws of, and with its principal office located in, the State
of Minnesota. Subscriber represents and warrants that it was not organized,
either directly or indirectly, for the specific purpose of acquiring the
Securities and that it has acquired such securities for its own account and not
for the personal accounts of its shareholders.
(ii) Subscriber realizes that purchase of the Securities is a
speculative investment involving a high degree of risk, including but not
limited the risk of economic losses from operations of the Company, and that the
economic benefits, if any, which may be derived from the purchase of the
Securities are uncertain. In determining whether or not to make an investment in
the Company, Subscriber has relied solely upon independent investigations made
by Subscriber or its representatives.
(iii) Subscriber has had full opportunity to conduct, and has
conducted, a complete and thorough due diligence investigation of the Company,
and such opportunity has been made available to the Subscriber's professional
representative(s), to ask questions of and receive answers from representatives
of the Company concerning the Company and its financial condition and prospects,
as well as to obtain additional information necessary to verify the accuracy of
the written materials provided to Subscriber and its representatives by the
Company.
(iv) Subscriber understands that the Securities have not been
registered under the Securities Act of 1933, as amended (the "Act"), or any
state securities laws, in reliance on exemptions from registration which depend,
in part on the Subscriber's investment intention; and, accordingly, the truth
and accuracy of the foregoing representations will be relied upon by the Company
to establish such exemptions. Subscriber acknowledges that the Company is not
required to recognize any transfer of the Securities unless, in the opinion of
counsel to the Company, such transfer would not result in a violation of any
federal or state law regarding the offer and sale of securities and has the
capacity to protect its own interests.
(v) Subscriber agrees to the placing on the certificates
representing the Shares of legends, in substantially the following form,
referring to the restrictions set forth in the preceding paragraph:
THE SHARES REPRESENTED BY THIS CERTIFICATE HAVE NOT BEEN REGISTERED UNDER
THE SECURITIES ACT OF 1933, AS AMENDED, OR APPLICABLE STATE SECURITIES LAWS. NO
SALE OR ASSIGNMENT OF THE SHARES REPRESENTED BY THIS CERTIFICATE SHALL BE MADE
UNLESS THE HOLDER SHALL HAVE OBTAINED AN OPINION OF COUNSEL SATISFACTORY TO THE
COMPANY THAT SUCH PROPOSED DISPOSITION OR TRANSFER LAWFULLY MAY BE MADE WITHOUT
REGISTRATION OF SUCH SHARES PURSUANT TO APPLICABLE SECURITIES LAWS, OR SUCH
REGISTRATION.
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<PAGE> 3
(vi) Subscriber is aware that there are restrictions on the
transferability of the Securities, that there is no market for the Securities,
and that it is possible that such a market will never develop. Accordingly, it
is unlikely that the Subscriber will be able to liquidate an investment in the
Company in case of an emergency or for any other reason.
(vii) Subscriber's commitment to investments that are not readily
marketable is not disproportionate to its net worth, and an investment in the
Securities will not cause such commitment to become excessive. Subscriber has
adequate means of providing for its current needs and contingencies and has no
need for liquidity with respect to its investment in the Securities, and can
withstand a complete loss of its investment. Subscriber has, either alone or
with a purchaser representative, such knowledge and experience in financial and
business matters that Subscriber is capable of evaluating the merits and risks
of an investment in the Securities.
(viii) Subscriber qualifies as an "accredited investor" for purposes
of Regulation D promulgated under the Securities Act of 1993.
3. Representations of the Company. Except as set forth in the DISCLOSURE
SCHEDULE, which is attached hereto and made a part hereof, the Company
represents and warrants to Subscriber as follows:
(a) Organization. The Company is a corporation duly organized, validly
existing and in good standing under the laws of the State of Minnesota, and has
the requisite corporate power and authority to own its properties and carry on
its business in all material respects as it is now being conducted. The Company
has the requisite corporate power and authority to issue the Shares, the
Warrant, and the shares of Common Stock issuable upon exercise of the Warrant
(the "Warrant Shares") and to otherwise perform its obligations under this
Agreement.
(b) Status of the Shares and the Warrant Shares. The Shares, when issued
and paid for pursuant to the terms of this Agreement, will be duly authorized,
validly issued and outstanding, fully paid and nonassessable, free and clear of
all pledges, liens, encumbrances and restrictions, and the Warrant Shares have
been reserved for issuance upon exercise of the Warrant, and when issued and
paid for pursuant to the terms of the Warrant will be duly authorized, validly
issued and outstanding, fully paid and nonassessable, and free and clear of all
pledges, liens, encumbrances and restrictions. The certificates representing the
Shares to be delivered by the Company hereunder, and the certificates
representing the Warrant Shares will be genuine, and the Company has no
knowledge of any fact which would impair the validity thereof.
(c) Corporate Acts and Proceedings. This Agreement has been duly
authorized by all necessary corporate action on behalf of the Company, and has
been duly executed and delivered by authorized officers of the Company, and is
the valid and binding agreement upon the part of the Company that is enforceable
against the Company in accordance with its terms, except as the enforceability
thereof may be limited by bankruptcy, insolvency, moratorium, reorganization or
other similar laws affecting the enforcement of creditors' rights generally and
to judicial limitations
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<PAGE> 4
on the enforcement of the remedy of specific performance and other equitable
remedies. All corporate action necessary to the authorization, creation,
issuance and delivery of the Securities and the Warrant Shares has been taken by
the Company.
(d) Brokers. Except as set forth in the DISCLOSURE SCHEDULE, no person,
firm or corporation has or will have, as a result of any act or omission of the
Company, any interest, right or valid claim against or upon the Company for any
commission, fee or other compensation as a finder or broker in connection with
the transactions contemplated by this Agreement. The Company will indemnify and
hold subscriber harmless against any and all liability with respect to any such
commission, fee or other compensation which may be payable or determined to be
payable in connection with the transactions contemplated by this Agreement,
except those commissions, fees or other compensation as otherwise set forth in
the DISCLOSURE SCHEDULE.
(e) Litigation; Governmental Proceedings. There are no legal actions,
suits, arbitrations or other legal, administrative or governmental proceedings
or investigations pending or, to the knowledge of the Company, threatened
against the Company, its properties, assets or business, and the Company is not
aware of any facts which are likely to result in or form the basis for any such
action, suit or other proceeding which would have a material adverse impact on
the Company. The Company is not in default with respect to any judgment, order
or decree of any court or any governmental agency or instrumentality.
(f) Governing Instruments. The copies of the Articles of Incorporation and
By-Laws of the Company which have been delivered to legal counsel for Subscriber
prior to the execution of this Agreement are true and complete copies of the
duly and legally adopted Articles of Incorporation and By-Laws of the Company in
effect as of the date of this Agreement.
(g) Subsidiaries, Etc. The Company does not have any direct or indirect
ownership interest in any corporation, partnership, joint venture, limited
liability company or partnership, association or other business enterprise.
(h) Qualification. The Company is duly qualified, licensed or domesticated
as a foreign corporation in good standing in each jurisdiction wherein the
nature of its activities or the properties owned or leased by it makes such
qualification, licensing or domestication necessary and in which failure to so
qualify or be licensed or domesticated would have a material adverse impact upon
its business.
(i) Financial Statements. Attached to this Agreement as EXHIBIT B is the
audited balance sheet for the Company dated as of September 30, 1998, and the
unaudited internal balance sheet as of March 31, 1999, together with the related
statements of profit and loss for the fiscal years or periods then ended. Such
financial statements (i) are in accordance with the books and records of the
Company, (ii) present fairly the financial condition of the Company at the
balance sheets dates and the results of its operations for the periods therein
specified, and (iii) have been applied on a basis consistent with prior
accounting periods and have been prepared substantially in accordance
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with generally accepted accounting principles except, with respect to the
unaudited financial statements, those normal adjustments, omissions of footnotes
and the like. Without limiting the generality of the foregoing, the balance
sheets or notes thereto disclose all of the debts, liabilities and obligations
of any nature (whether absolute, accrued or contingent and whether due or to
become due) of the Company at their respective dates, which, individually or in
the aggregate, are material and which in accordance with generally accepted
accounting principles would be required to be disclosed in such balance sheets
and include appropriate reserves for all taxes and other material liabilities
accrued as of such dates but not yet payable.
(j) Tax Returns and Audits. All required federal, state and local tax
returns or appropriate extension requests of the Company have been filed, and
all federal, state and local taxes required to be paid with respect to such
returns have been paid or due provision for the payment thereof has been made.
The Company is not delinquent in the payment of any such tax or in the payment
of any assessment or governmental charge. The Company has not received notice of
any tax deficiency proposed or assessed against it, and it has not executed any
waiver of any statute of limitations on the assessment or collection of any tax.
None of the Company's tax returns has been audited by governmental authorities
in a manner to bring such audits to the Company's attention. The Company does
not, to the best of its knowledge, have any tax liabilities except those
reflected on EXHIBIT B or those which were incurred in the ordinary course of
business and are not delinquent.
(k) Changes, Dividends, Etc. Except for the transactions contemplated by
this Agreement and otherwise set forth on the DISCLOSURE SCHEDULE, since March
31, 1999 (the "Balance Sheet Date") the Company has not: (i) incurred any debts,
obligations or liabilities, absolute, accrued or contingent and whether due or
to become due, except current liabilities incurred in the ordinary course of
business which (individually or in the aggregate) will not materially and
adversely affect the business, properties or prospects of the Company; (ii) paid
any obligation or liability other than current liabilities for trade or business
obligations or discharged or satisfied any liens or encumbrances other than
those securing, current liabilities, in each case in the ordinary course of
business; (iii) declared or made any payment to or distribution to its
shareholders as such, or purchased or redeemed any of its shares of capital
stock, or obligated itself to do so; (iv) mortgaged, pledged or subjected to
lien, charge, security interest or other encumbrance any of its assets, tangible
or intangible, except in the ordinary course of business; (v) sold, transferred
or leased any of its assets except in the ordinary course of business; (vi)
suffered any physical damage, destruction or loss (whether or not covered by
insurance) materially and adversely affecting the properties, business or
prospects of the Company; (vii) entered into any transaction other than in the
ordinary course of business; (viii) encountered any labor difficulties or labor
union organizing activities; (ix) issued or sold any shares of capital stock or
other securities or granted any options, warrants, or other purchase rights with
respect thereto; (x) made any acquisition or disposition of any material assets;
other than for fair value in the ordinary course of business; (xi) increased the
compensation payable, or to become payable, to any of its directors, officers or
employees, or made any bonus payment or similar arrangement with any of its
directors, officers or employees or increased the scope or nature of any fringe
benefits provided for its directors, officers or employees; or (xii) agreed to
do any of the foregoing other than pursuant hereto. There has been no material
adverse change in the financial
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condition, operations, results of operations or business of the Company since
the Balance Sheet Date.
(l) Title to Properties and Encumbrances. The Company does not have an
ownership interest in any parcels of real property. The Company has good and
marketable title to all of its properties and assets, which properties and
assets are not subject to any mortgage, pledge, lease, lien, charge, security
interest, encumbrance or restriction, except (a) those which are shown and
described on EXHIBIT B, (b) liens for taxes and assessments or governmental
charges or levies not at the time due or in respect of which the validity
thereof shall currently be contested in good faith by appropriate proceedings,
or (c) those which do not materially affect the value of or interfere with the
use made of such properties and assets.
(m) Conditions of Properties. The plant, offices and equipment of the
Company have been kept in good condition and repair in the ordinary course of
business.
(n) Compliance With Applicable Laws and Other Instruments. To the best of
its knowledge, the business and operations of the Company have been and are
being conducted in accordance with all applicable laws, rules and regulations of
all governmental authorities. Neither the execution nor delivery of, nor the
performance of or compliance with, this Agreement nor the consummation of the
transactions contemplated hereby will, with or without the giving of notice or
passage of time, result in any breach of, or constitute a default under, or
result in the imposition of any lien or encumbrance upon any asset or property
of the Company pursuant to any agreement or other instrument to which the
Company is a party or by which it or any of its properties, assets or rights is
bound or affected, and will not violate the Articles of Incorporation or By-Laws
of the Company. The Company is not in violation of its Articles of Incorporation
or By-Laws nor in violation of, or in default under, any lien, indenture,
mortgage, lease, agreement, instrument, commitment or arrangement in any
material respect. The Company is not subject to any restriction which would
prohibit it from entering into or performing its obligations under this
Agreement.
(o) Securities Laws. Based in part upon the representations of the
Subscriber in Section 2, no consent, authorization, approval, permit or order of
or filing with any governmental or regulatory authority is required under
current laws and regulations in connection with the execution and delivery of
this Agreement or the offer, issuance, sale or delivery of the Securities or the
Warrant Shares, other than the qualification thereof, if required, under
applicable state securities laws. The Company will use its best effort to effect
such qualification as a condition of these sales. The Company has not, directly
or through an agent, offered the Securities for sale to, or solicited any offers
to acquire such Securities from, persons other than Subscriber and other
accredited investors. Under the circumstances contemplated by this Agreement and
assuming the accuracy of the representations of the Subscriber in Section 2, the
offer, issuance, sale and delivery of the Securities and the Warrant Shares will
not, under current laws and regulations, require compliance with the prospectus
delivery or registration requirements of the federal Securities Act of 1933, as
amended (the "Securities Act").
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(p) Patents and Other Intangible Rights. The Company (a) owns or has the
exclusive right to use, free and clear of all liens, claims and restrictions,
all patents, trademarks, service marks, trade names, copyrights, licenses and
rights with respect to the foregoing, used in the conduct of its business as now
conducted, without infringing upon or otherwise acting adversely to the right or
claimed right of any person under or with respect to any of the foregoing, (b)
is not obligated or under any liability whatsoever to make any payments of a
material nature by way of royalties, fees or otherwise to any owner of, licensor
of, or other claimant to, any patent, trademark, trade name, copyright or other
intangible asset, with respect to the use thereof or in connection with the
conduct of its business or otherwise, (c) owns or has the unrestricted right to
use all trade secrets, including know-how, customer lists, inventions, designs,
processes, computer programs and technical data necessary for the development,
operation and sale of the products and services sold or proposed to be sold by
it, free and clear of any rights, liens, or claims of others, and (d) is not, to
the best of its knowledge, using any confidential information or trade secrets
of others.
(q) Capital Stock. At the date hereof the authorized capital stock of the
Company consists of 10,000,000 shares of Common Stock, of which 2,041,260 shares
are issued and outstanding, which such shares are owned by the persons and in
the amounts indicated on the DISCLOSURE SCHEDULE. All of the outstanding shares
of capital stock of the Company were duly authorized and validly issued and are
fully paid and nonassessable. Except as set forth on the DISCLOSURE SCHEDULE,
there are no outstanding subscriptions, options, warrants, calls, contracts,
demands, commitments, convertible securities or other agreements or arrangements
of any character or nature whatever, other than as contemplated by this
Agreement under which the Company is obligated to issue any securities of any
kind representing an ownership interest in the Company. Neither the offer nor
the issuance or sale of the Securities or the Warrant Shares constitute, or will
constitute, an event under any anti-dilution provisions of any securities issued
or issuable by the Company or any agreements with respect to the issuance of
securities by the Company, which will either increase the number of shares
issuable pursuant to such provisions or decrease the consideration per share to
be received by the Company pursuant to such provisions. Except as contemplated
by this Agreement, no holder of any security of the Company is entitled to any
preemptive or similar rights to purchase any securities of the Company from the
Company; provided, however, that nothing in this Section shall affect, alter or
diminish any right granted to Subscriber in this Agreement. All outstanding
securities of the Company have been issued in full compliance with an exemption
or exemptions from the registration and prospectus delivery requirements of the
Securities Act and from the registration and qualification requirements of all
applicable state securities laws.
(r) Outstanding Debt. The Company has no indebtedness incurred as a result
of direct borrowing of money (excluding any indebtedness incurred with respect
to trade accounts), except as otherwise set forth in the financial statements or
the notes thereto provided to the Subscriber or set forth in the DISCLOSURE
SCHEDULE. The Company is not in default in the payment of the principle of or
interest or premium on any such indebtedness, and no event has occurred or is
continuing under the provisions of any instrument, document or agreement
evidencing or relating to any such
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indebtedness which, with the lapse of time or the giving of notice or both,
would constitute an event of default thereunder.
(s) Schedule of Assets and Contracts. Attached hereto as Schedule 3(s) is
a Schedule of Assets and Contracts containing:
(i) ANNEX A: a listing of each material written or oral contract or
agreement between the Company and any shareholder of the Company;
(ii) ANNEX B: a listing of each indenture, lease, sublease, license
or other instrument under which the Company claims or holds a leasehold interest
in real property;
(iii) ANNEX C: a listing of each lease of personal property involving
payments remaining to or from the Company in excess of $25,000 during a
twelve-month period;
(iv) ANNEX D: a listing of each written or oral contract, agreement,
subcontract, purchase order, commitment or arrangement involving payments
remaining to or from the Company in excess of $25,000 during a twelve-month
period and each other agreement material to the Company's business to which the
Company is a party or by which it is bound, under which full performance
(including payment) has not been rendered by any party thereto;
(v) ANNEX E: a listing of any collective bargaining agreements,
employment agreements, consulting agreements, noncompetition agreements,
nondisclosure agreements, executive compensation plans, profit sharing plans,
bonus plans, deferred compensation agreements, employee pension retirement
plans, employee benefit stock option plans or stock purchase plans and other
employee benefit plans, entered into or adopted by the Company;
(vi) ANNEX F: a listing of all bank accounts (or accounts with other
financial institutions) maintained by the Company, together with the persons
authorized to make withdrawals from such accounts; and
(vii) ANNEX G: a listing of the name of each employee of the Company
and the gross salary currently payable to each such employee;
(viii) ANNEX H: a listing of all accounts receivable of the Company
that are or were outstanding on the Balance Sheet Date, and the aging of each
such account receivable;
(ix) ANNEX I: a listing of all accounts payable of the Company that
are or were outstanding on the Balance Sheet Date;
(x) ANNEX J: a listing of all insurance policies in force;
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(xi) ANNEX K: a listing of all patents, royalty and license
agreements, trademarks, trade names, service marks and copyrights relating to
products of the Company (including applications therefor); and
(xii) ANNEX L: a listing of all material licenses, permits,
authorizations, approvals, franchises and rights granted to the Company by any
governmental or other regulatory authority.
The Company has provided the Subscriber and its legal counsel with a true
and complete copy of each document referred to on such annexes. The Company has
performed in all material respects all obligations required to be performed by
it to date and is not in material default under any of the contracts,
agreements, leases, documents, commitments or other arrangements to which it is
a party or by which it is otherwise bound. All instruments referred to in the
annexes described in this Section are in effect and enforceable according to
their respective terms, and there is not under any of such instruments any
existing default or event of default or, to the best knowledge of the Company,
an event which, with notice or lapse of time or both, would constitute an event
of default thereunder on the part of the Company or on the part of any other
party thereto. All parties having contractual arrangements with the Company are
in compliance therewith and none are in default thereunder. All plans or
arrangements listed on ANNEX E are fully funded to the extent that such funding
is required by generally accepted accounting principles.
(t) Insurance Coverage. There are in full force and effect policies of
insurance issued by insurers of recognized responsibility which are insuring the
Company and its properties against such losses and risks, and in such amounts,
as in the Company's best judgment, after advice from its insurance broker, are
acceptable for the nature and extent of its business and the Company's
resources.
(u) Conflicts of Interest. Except as set forth in the DISCLOSURE SCHEDULE,
no officer, director or shareholder of the Company or any affiliate (as the term
"affiliate" is defined in Rule 405 under the Securities Act) of any such person
has any direct or indirect interest (a) in any entity which does business with
the Company, (b) in any property, asset or right which is used by the Company in
the conduct of its business, or (c) in any contractual relationship with the
Company other than as an employee. For the purpose of this Section, there shall
be disregarded any interest which arises solely from the ownership of less than
a 1% equity interest in a corporation whose stock is regularly traded on any
national securities exchange or in the over-the-counter market.
(v) Licenses. The Company possesses from the appropriate agency,
commission, board and government body and authority, whether state, local or
federal, all licenses, permits, authorizations, approvals, franchises and rights
which are (a) necessary for it to engage in the business currently conducted by
it, and (b) if not possessed by the Company would have an adverse impact on the
Company's business. The Company has no knowledge that would lead it to believe
that it will not be able to obtain all licenses, permits, authorizations,
approvals, franchises and rights that may be required for any business the
Company proposes to conduct.
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(w) Registration Rights. Except as set forth under this Agreement or in
the DISCLOSURE SCHEDULE, the Company has not agreed to register any of its
authorized or outstanding securities under the Securities Act.
(x) Retirement Plans. The Company does not have any retirement plan in
which any employees of the Company participates that is subject to any
provisions of the Employee Retirement Income Security Act of 1974 and of the
regulations adopted pursuant thereto ("ERISA").
(y) Minute Books. A true and correct copy of all minute books and stock
record books of the Company has been delivered to the Subscriber.
(z) Disclosure. The Company has not withheld from Subscriber any material
facts relating to the assets, business, operations, financial condition or
prospects of the Company. No representation or warranty in this Agreement or in
any certificate, schedule, statement or other document furnished or to be
furnished to Subscriber pursuant hereto or in connection with the transactions
contemplated hereby contains or will contain any untrue statement of a material
fact or omits or will omit to state any material fact required to be stated
herein or therein or necessary to make the statements herein or therein not
misleading.
4. Right of First Refusal to Purchase Additional Securities. If the
Company should decide to issue or offer to sell for cash additional shares of
any capital stock of the Company or other securities (except for options,
warrants or other securities convertible into or exercisable for Common Stock on
a converted basis and which are outstanding prior to the date of this
Agreement), then the Company shall first offer to sell to Subscriber, upon the
same terms and conditions as the Company is proposing to issue or offer to sell
such shares of capital stock or securities to others and for a reasonable period
of time, such number of additional securities as would result in Subscriber and
its affiliates maintaining their then current ownership percentage of the Common
Stock of the Company, it being understood that all outstanding shares of any
capital stock and any other outstanding securities convertible into or
exercisable for Common Stock on a converted basis issued or granted by the
Company on or before the date of this Agreement shall be included for all
purposes in such calculation.
5. Affirmative Covenants of the Company. The Company covenants and agrees
that:
(a) Corporate Existence. The Company will maintain its corporate existence
in good standing and comply in material respects with all applicable laws and
regulations of the United States or of any state or states thereof or any
political subdivision thereof where failure to so comply would have a material
adverse impact on the company or its business or operations.
(b) Books of Account and Records. The Company will keep books of record
and account in which full, true and correct entries are made of all of its and
their respective dealings, business and affairs, in accordance with generally
accepted accounting principles. The Company will deliver to the Subscriber as
soon as practicable the following: (i) after the close of each fiscal quarter,
10
<PAGE> 11
unaudited consolidated balance sheets of the Company as of the end of such
fiscal quarter, together with the related statements of operations for such
quarter; and (ii) after the end of each fiscal year, an audited balance sheet of
the Company as of the end of such fiscal year, together with related statements
of operations, stockholders' equity and cash flow for such fiscal year.
(c) Payment of Taxes. The Company will pay and discharge promptly, or cause
to be paid and discharged promptly when due and payable, all taxes, assessments
and governmental charges or levies imposed upon its income or upon any of its
properties, as well as all material claims of any kind which, if unpaid, might
by law become a lien or charge upon its property; provided, however, that the
Company shall not be required to pay any such tax, assessment, charge, levy or
claim if the amount, applicability or validity thereof shall currently be
contested in good faith by appropriate proceedings and if the Company shall set
aside on its books reserves deemed adequate by it with respect thereto; and (ii)
maintain and keep or cause to be maintained and kept, its properties in good
repair, working order and condition, and from time to time make, or cause to be
made, all repairs and renewals and replacements which in the opinion of the
Company are necessary and proper so that the business carried on in connection
therewith will be properly and advantageously conducted at all times.
(d) Insurance. The Company will obtain and maintain in force such property
damage, public liability, workers compensation, indemnity bonds and other types
of insurance as the Company executive officers, after consultation with its
insurance broker, shall determined to be necessary or appropriate to protect the
Company from the insurable hazards or risks associated with the conduct of the
Company's business. All insurance company maintained in at least such amounts
and to such extent as shall be determined to be reasonable by the Board of
Directors, and all such insurance shall be effected and maintained in force
under a policy or policies issued by insurers of recognized responsibility,
except that the Company may affect workers' compensation or similar insurance in
respect of operations in any state or other jurisdiction either through an
insurance fund operated by such state or other jurisdiction or by causing to be
maintained a system or systems of self insurance which is in accord with
applicable laws.
(e) Inspection. The Company will permit the Subscriber and any of their
representatives designated by them, to visit and inspect, at the Subscriber's
expense, any of the properties of the Company, including its books and records
(and to make photocopies thereof or make extracts therefrom), and to discuss its
affairs, finances and accounts with its officers and accountants, all to such
reasonable extent and at such reasonable times and intervals as the Subscriber
may reasonably describe and request in advance. Subscriber shall maintain, and
shall require its representatives to maintain, all information obtained from the
Company on a confidential basis.
(f) Preparation and Approval of Budgets. Commencing with its fiscal year
ending September 30, 1999, at least one month prior to the beginning of each
fiscal year of the Company, the Company shall prepare and submit to its board of
directors, for its review and approval, an annual plan/budget for such year,
which shall include monthly capital and operating expense budgets, cash flow
statements and profit and loss projections itemized in such detail as the board
of
11
<PAGE> 12
directors may reasonably request. The Company will, simultaneously with the
submission thereof to the board of directors, deliver a copy of such annual
plan/budget to the Subscriber. All such annual plans/budgets prepared and
delivered in accordance with this Section 5(f) shall be subject to Section 19 of
this Agreement.
(g) Payment of Indebtedness and Discharge of Obligations. The Company will
make timely payment of all amounts due under, and will observe, perform and
discharge all of the covenants, conditions and obligations which are imposed on
it by, any and all indentures and other agreements securing or evidencing all
indebtedness resulting from bank or other borrowings or pursuant to which such
indebtedness is issued.
(h) Representation on Board of Directors; Directors' and Shareholders'
Meetings. Subscriber shall have the right to appoint one director to the
Company's Board of Directors (the "Board"). In the event the Board increases the
number of directors on the Board to 11 or more, the Subscriber shall have the
right to appoint one (1) additional member to the Board. In the event of the
death, resignation or removal of any director designated by Subscriber,
Subscriber shall be entitled to designate such director's successor. The Company
agrees that in submitting to the Company's shareholders or board of directors
the names and nominees for election as directors or in filling interim
vacancies, it will use its best efforts to cause any person designated by
Subscriber to be elected as a director. The Company further agrees to call
regular meetings of its board of directors and during each year to hold an
annual meeting of shareholders within a reasonable time after the end of each of
its fiscal years. The Company also agrees to reimburse the directors for the
reasonable out-of-pocket travel expenses incurred by the directors in connection
with attending meetings of the board of directors and meetings of shareholders,
and shall maintain a provision in its by-laws providing for the indemnification
of its directors to the full extent permitted by the law of the state of its
incorporation.
(i) Application of Proceeds. Unless otherwise approved by Subscriber, the
net proceeds received by the Company from the sale of the Securities will be
used by the Company for the following purposes: (i) procuring and maintaining
intellectual property licenses and royalties thereunder; (ii) developing,
refining, manufacturing, distributing, selling and marketing its products; (iii)
payment of broker fees as set forth in Schedule 3(d), legal and accounting fees;
and (iv) general working capital purposes.
Pending use of the net proceeds in the business, they shall be deposited in
a bank or banks having deposits of $150,000,000 or more or a bank or banks
otherwise approved by the Subscriber, invested in certificates of deposit or
repurchase agreements of a bank or banks having deposits of $150,000,000 or
more, invested in money market mutual funds having assets of $500,000,000 or
more, or invested in securities issued or guaranteed by the United States
Government.
(j) Patents and Other Intangible Rights. The Company will apply for, or
obtain assignments of, or licenses to use, all patents, trademarks, trade names
and copyrights which the
12
<PAGE> 13
board of directors determines are desirable or necessary for the conduct and
protection of the business of the Company.
(k) Subsidiaries. If the Company establishes or maintains any subsidiary
corporations, it shall cause each such subsidiary corporation to comply with the
covenants set forth in this Section 5.
(l) Gaming. The Company will not knowingly engage in any activity which
could in any way affect the compliance by Subscriber with the requirements of
any gaming authority, unless consented to in advance by Subscriber, which
consent may be withheld by Subscriber in its sole discretion.
(m) Stock Fully Paid; Reservation of Shares. The Company covenants and
agrees that all Warrant Shares that may be issued upon exercise of the Warrant
will, upon issuance in accordance with the terms of the Warrant, be fully paid
and nonassessable and free from all taxes, liens and charges (except for liens
or changes created or incurred by the holder) with respect to the issue thereof,
and that the issuance thereof shall not give rise to any preemptive rights on
the part of any person. The Company further covenants and agrees that the
Company will at all times have authorized and reserved a sufficient number of
its shares of Common Stock for the purpose of issue upon the exercise of such
Warrant.
6. Negative Covenants of the Company. The Company covenants and agrees
that:
(a) Registration. Except for an underwriting agreement between the Company
and one or more professional underwriters of securities, the Company shall not
agree with the holders of any securities issued or to be issued by the Company
to register such securities under the Securities Act nor will it grant any
incidental registration rights to any such persons, unless such agreement
specifically provides that (i) unless in the opinion of the managing underwriter
or underwriters, if any, of any registration in which Shares or Warrant Shares
are included, the public offering or sale of such other securities would not
interfere with the successful public offering and sale of such Shares and
Warrant Shares, such other securities will not be included in a registration
statement in which such Shares and Warrant Shares are so included, (ii) such
subsequent purchasers shall not be granted registration rights more favorable
than those granted to Subscriber, and (iii) such securities may not be publicly
offered or sold for a period of at least one hundred eight (180) days after the
closing of any public offering of Shares or Warrant Shares.
(b) Other Restrictions. The Company will not, nor will it permit any
subsidiary to, without the prior written consent of the Subscriber: (i) take any
action that constitutes or results in amendment or waiver of any provision of
the Company's Articles of Incorporation, or Bylaws; or (ii) take any action that
results in the redemption of any share(s) of Common Stock.
7. Termination of Covenants. Notwithstanding any provisions in this
Agreement to the contrary, the obligations of the Company under Sections 5, 6, 9
and 19 shall terminate and shall be
13
<PAGE> 14
of no further force or effect on the date in which the Company completes an
initial public offering of any class or classes of its securities.
8. Registration Rights. The Subscriber shall have the right to have any
Shares or Warrant Shares acquired by Subscriber upon exercise of the Warrant
registered by the Company in accordance with the terms and conditions set forth
in EXHIBIT C of this Agreement.
9. Event of Default. Each of the following events shall be an event of
default (an "Event of Default") for purposes of this Agreement:
(a) if the Company shall default in any material respect in the due and
punctual performance of any covenant or agreement in any note, bond, indenture,
loan agreement, note agreement, mortgage, security agreement or other instrument
evidencing or related to indebtedness of the Company, such default shall
continue for more than the period of notice and/or grace, if any, therein
specified and shall not have been waived, and such creditor shall have
accelerated the maturity of such indebtedness or otherwise shall have initiated
action to collect such indebtedness and such default can reasonably be
anticipated to have a material adverse effect on the assets, business or
properties of the Company;
(b) (X) if any representation or warranty made by or on behalf of the
Company in this Agreement or in any certificate, report or other instrument
delivered under or pursuant to any term hereof shall prove to have been untrue
or incorrect in any material respect as of the date of this Agreement; or (Y) if
(except as otherwise contemplated by Section 19) any report, certificate,
financial statement or financial schedule or other instrument prepared or
purported to be prepared by the Company or any officer of the Company hereafter
furnished or delivered under or pursuant to this Agreement shall prove to be
untrue or incorrect in any material respect as of the date it was made,
furnished or delivered;
(c) if the Company defaults in the due and punctual performance or
observance of any covenant contained in this Agreement in a material respect,
and such default continues for a period of 45 days after written notice thereof
to the Company by any Subscriber; provided, however that an Event of Default
shall not be deemed to have occurred if, at the end of such 45-day period, the
Company is diligently attempting to cure such default and the existence of such
default could not reasonably be anticipated to have a material adverse affect on
the business or financial condition of the Company; or
(d) if the Subscriber's designees to the Company's board of directors shall
fail to be elected to the board of directors in the manner and under the terms
and conditions set forth in this Agreement.
10. Remedy Upon Events of Default. Upon the occurrence of an Event of
Default, Subscriber shall be entitled to designate and elect that number of
directors that is the lowest number that constitutes a majority of the Board.
Such right may be exercised until, and any director or
14
<PAGE> 15
directors shall serve for a term expiring on the date, the Event of Default has
been cured or waived. When such Event of Default shall have been cured or
waived, the holders of Shares shall be divested of such right to elect the
majority of the members of the Board of and any additional directors elected by
the holders of shall be automatically removed from the Board without further
action by the directors or shareholders, subject always to the same provisions
in the vesting of such right in Subscriber in the case of any future Event of
Default hereunder.
11. Notice of Defaults. When, to its knowledge, any Event of Default has
occurred or exists, the Company shall give written notice within five business
days of such Event of Default to Subscriber.
12. Suits for Enforcement. In case any one or more Events of Default shall
have occurred and be continuing, unless such Events of Default shall have been
waived in the manner provided below, Subscriber may proceed to protect and
enforce its rights under this Section 12 by suit in equity or action at law. It
is agreed that in the event Subscriber prevails in such action, it shall be
entitled to receive all reasonable fees, costs and expenses incurred, including
without limitation such reasonable fees and expenses of attorneys (whether or
not litigation is commenced) and reasonable fees, costs and expenses of appeals.
13. Remedies Cumulative. No right, power or remedy conferred upon
Subscriber shall be exclusive, and each such right, power or remedy shall be
cumulative and in addition to every other right, power or remedy, whether
conferred hereby or by any such security or now or hereafter available at law or
in equity or by statute or otherwise.
14. Remedies Not Waived. No course of dealing between the Company and the
Subscriber and no delay in exercising any right, power or remedy conferred
hereby or by any such security or now or hereafter existing at law or in equity
or by statute or otherwise, shall operate as a waiver of or otherwise prejudice
any such right, power or remedy; provided, however, that this Section shall not
be construed or applied so as to negate the provisions and intent of any statute
which is otherwise applicable.
15. Successors. Subscriber's rights and obligations hereunder shall inure
to the benefit of, and be binding upon and enforceable its successors.
Notwithstanding the foregoing, neither this offer nor any rights granted to
Subscriber herein may be transferred or assigned by Subscriber.
16. Notices. All notices to the Subscriber will be deemed given when mailed
by first class mail, postage prepaid, to the address designated by Subscriber in
the books and records of the Company.
17. Governing Law. It is the intention of the Subscriber and the Company
that the laws of the State of Minnesota shall govern the validity of this
Agreement, the construction of its terms and the interpretation of the rights
and duties of the parties.
15
<PAGE> 16
18. Changes Waivers, Etc. Neither this Agreement nor any provision hereof
may be changed, waived, discharged or terminated orally, but only by a statement
in writing signed by the party against which enforcement of the change, waiver,
discharge or termination is sought.
19. Survival of Representations and Warranties, Etc. Except as otherwise
contemplated by Section 9 above, all representations and warranties contained
herein shall survive the execution and delivery of this Agreement, any
investigation at any time made by Subscribers or on its behalf, and the sale and
purchase of the Securities and the payment therefor. All statements contained in
any certificate, instrument or other writing delivered by or on behalf of the
Company pursuant to this Agreement or in connection with or in contemplation of
the transactions herein contemplated shall constitute representations and
warranties by the Company hereunder and be subject to this Section 19; provided,
however, that the parties hereto acknowledge and agree that nothing contained in
a any writing delivered by the Company which by its terms or context can be
reasonably be construed to be a budget, projection or forecast of future
performance or events shall constitute a representation or warranty of the
Company with respect thereto.
Please indicate your agreement with the foregoing by executing the
acceptance below.
Very truly yours,
LAKES GAMING, INC.
By Timothy Cope
------------------------------
Its Chief Financial Officer
-----------------------------
16
<PAGE> 17
ACCEPTANCE
This Subscription Agreement and Investment Letter of Lakes Gaming, Inc. is
hereby accepted by Interactive Learning Group, Inc. as of June 25, 1999.
INTERACTIVE LEARNING GROUP, INC.
By: David C. Campbell
---------------------------------
Its: Chief Executive Officer
----------------------------
17
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