<PAGE>
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 May 31, 1998
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 number 0-16986
ACCLAIM ENTERTAINMENT, INC.
---------------------------
(Exact name of the registrant as specified in its charter)
Delaware 38-2698904
- ---------- ----------
(State or other jurisdiction of incorporation (I.R.S. Employer
or organization) Identification No.)
One Acclaim Plaza, Glen Cove, New York 11542
--------------------------------------------
(Address of principal executive offices)
(516) 656-5000
---------------
(Registrant's telephone number)
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 at June 26, 1998, approximately 52,150,000 shares of Common Stock of the
Registrant were issued and outstanding.
<PAGE>
PART 1 - FINANCIAL INFORMATION
Item 1. FINANCIAL STATEMENTS
ACCLAIM ENTERTAINMENT, INC.
AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
(in 000s, except per share data)
<TABLE>
<CAPTION>
May 31, August 31,
1998 1997
--------- ---------
<S> <C> <C>
ASSETS
CURRENT ASSETS
Cash and cash equivalents $ 35,600 $ 26,254
Accounts receivable - net 43,631 18,729
Inventories 5,778 3,546
Prepaid expenses 16,592 20,250
--------- ---------
TOTAL CURRENT ASSETS 101,601 68,779
--------- ---------
OTHER ASSETS
Fixed assets - net 30,220 34,268
Excess of cost over net assets acquired - net of accumulated
amortization of $18,690 and $17,104, respectively 21,961 23,547
Other assets 4,491 6,581
--------- ---------
TOTAL ASSETS $ 158,273 $ 133,175
--------- ---------
LIABILITIES AND STOCKHOLDERS' DEFICIENCY
CURRENT LIABILITIES
Trade accounts payable $ 32,672 $ 17,007
Short-term borrowings 19 643
Accrued expenses 92,422 107,928
Income taxes payable 5,883 4,840
Current portion of long-term debt 724 1,002
Obligation under capital leases - current 1,429 1,515
--------- ---------
TOTAL CURRENT LIABILITIES 133,149 132,935
--------- ---------
LONG-TERM LIABILITIES
Long-term debt 52,112 52,655
Obligation under capital leases - noncurrent 1,472 2,264
Other long-term liabilities 6,846 4,553
--------- ---------
TOTAL LIABILITIES 193,579 192,407
--------- ---------
MINORITY INTEREST (79) (186)
STOCKHOLDERS' DEFICIENCY
Preferred stock, $0.01 par value; 1,000 shares authorized; none issued -- --
Common stock, $0.02 par value; 100,000 shares authorized;
51,951 and 50,122 shares issued, respectively 1,039 1,002
Additional paid in capital 184,789 173,373
Accumulated deficit (217,415) (229,870)
Treasury stock, 523 and 474 shares, respectively (3,103) (2,904)
Foreign currency translation adjustment (537) (647)
--------- ---------
TOTAL STOCKHOLDERS' DEFICIENCY (35,227) (59,046)
--------- ---------
TOTAL LIABILITIES AND STOCKHOLDERS' DEFICIENCY $ 158,273 $ 133,175
--------- ---------
</TABLE>
See notes to consolidated financial statements.
1
<PAGE>
ACCLAIM ENTERTAINMENT, INC
AND SUBSIDIARIES
STATEMENTS OF CONSOLIDATED OPERATIONS
(in 000s, except per share data)
<TABLE>
<CAPTION>
Three Months Ended Nine Months Ended
May 31, May 31,
1998 1997 1998 1997
--------- --------- --------- ---------
<S> <C> <C> <C> <C>
NET REVENUES $ 73,154 $ 41,616 $ 234,774 $ 147,264
COST OF REVENUES 31,369 25,466 108,597 78,019
--------- --------- --------- ---------
GROSS PROFIT 41,785 16,150 126,177 69,245
--------- --------- --------- ---------
OPERATING EXPENSES
Marketing and Sales 12,606 12,263 43,866 43,706
General and Administrative 12,667 18,157 39,420 53,029
Research and Development 10,407 9,488 28,024 31,764
Goodwill Writedown -- 25,200 -- 25,200
Litigation Settlements -- 8,300 -- 8,300
Downsizing Charge -- 10,000 -- 10,000
--------- --------- --------- ---------
TOTAL OPERATING EXPENSES 35,680 83,408 111,310 171,999
--------- --------- --------- ---------
INCOME (LOSS) FROM OPERATIONS 6,105 (67,258) 14,867 (102,754)
--------- --------- --------- ---------
OTHER INCOME (EXPENSE)
Interest income 550 816 1,617 1,606
Interest expense (1,409) (1,625) (4,320) (3,073)
Other income (expense) 438 (1,507) 417 (2,141)
--------- --------- --------- ---------
INCOME (LOSS) BEFORE INCOME TAXES 5,684 (69,574) 12,581 (106,362)
--------- --------- --------- ---------
PROVISION FOR INCOME TAXES 5 805 126 426
--------- --------- --------- ---------
NET INCOME (LOSS) BEFORE
MINORITY INTEREST 5,679 (70,379) 12,455 (106,788)
--------- --------- --------- ---------
MINORITY INTEREST 10 (675) -- (1,242)
--------- --------- --------- ---------
NET INCOME (LOSS) $ 5,669 $ (69,704) $ 12,455 $(105,546)
--------- --------- --------- ---------
BASIC EARNINGS (LOSS) PER SHARE $ 0.11 $ (1.40) $ 0.25 $ (2.13)
--------- --------- --------- ---------
DILUTED EARNINGS (LOSS) PER SHARE $ 0.09 $ (1.40) $ 0.22 $ (2.13)
--------- --------- --------- ---------
</TABLE>
See notes to consolidated financial statements.
2
<PAGE>
ACCLAIM ENTERTAINMENT, INC.
AND SUBSIDIARIES
STATEMENTS OF CONSOLIDATED STOCKHOLDERS' (DEFICIENCY) EQUITY
(in 000s, except per share data)
<TABLE>
<CAPTION>
Preferred Stock(1) Common Stock
------------------- ---------------------
Issued Issued Additional
------ ------ Paid-In Deferred Accumulated Treasury
Shares Amount Shares Amount Capital Compensation Deficit Stock
--------- --------- --------- --------- --------- --------- --------- ---------
<S> <C> <C> <C> <C> <C> <C> <C> <C>
Balance August 31, 1996 -- -- 50,041 $ 1,001 $180,895 $(15,113) $(70,642) $ (1,813)
--------- --------- --------- --------- --------- --------- --------- ---------
Net Loss -- -- -- -- -- (159,228) --
Issuances and Cancellations
of Warrants and Options -- -- -- -- 722 566 -- --
Deferred compensation expense -- -- -- -- -- 6,134 -- --
Exercise of Stock Options -- -- 81 1 169 -- -- --
Escrowed shares received -- -- -- -- -- -- (1,091)
Foreign Currency Translation Gain -- -- -- -- -- -- -- --
Unrealized Loss on
Marketable Equity Securities -- -- -- -- -- -- -- --
--------- --------- --------- --------- --------- --------- --------- ---------
Balance August 31, 1997 -- -- 50,122 1,002 181,786 (8,413) (229,870) (2,904)
--------- --------- --------- --------- --------- --------- --------- ---------
Net Income -- -- -- -- -- -- 12,455 --
Issuance of Common Stock for
Litigation Settlements -- -- 914 18 4,125 -- -- --
Issuances and Cancellations
of Warrants and Options -- -- 15 1 2,934 (2,003) -- --
Deferred compensation expense -- -- -- -- -- 3,208 -- --
Exercise of Stock Options -- -- 900 18 3,152 -- -- --
Escrowed shares received -- -- -- -- -- -- -- (199)
Foreign Currency Translation Gain -- -- -- -- -- -- -- --
--------- --------- --------- --------- --------- --------- --------- ---------
Balance May 31, 1998 -- -- 51,951 $ 1,039 $191,997 $ (7,208) $(217,415) $ (3,103)
--------- --------- --------- --------- --------- --------- --------- ---------
<CAPTION>
Unrealized
Foreign Gain (Loss) On
Currency Marketable
Translation Equity
Adjustment Securities Total
--------- --------- ---------
<S> <C> <C> <C>
Balance August 31, 1996 $ (754) $ 15 $ 93,589
--------- --------- ---------
Net Loss -- -- (159,228)
Issuances and Cancellations
of Warrants and Options -- -- 1,288
Deferred compensation expense -- 6,134
Exercise of Stock Options -- -- 170
Escrowed shares received -- -- (1,091)
Foreign Currency Translation Gain 107 -- 107
Unrealized Loss on
Marketable Equity Securities -- (15) (15)
--------- --------- ---------
Balance August 31, 1997 (647) 0 (59,046)
--------- --------- ---------
Net Income -- -- 12,455
Issuance of Common Stock for
Litigation Settlements -- -- 4,143
Issuances and Cancellations
of Warrants and Options -- -- 932
Deferred compensation expense -- -- 3,208
Exercise of Stock Options -- -- 3,170
Escrowed shares received -- -- (199)
Foreign Currency Translation Gain 110 -- 110
--------- --------- ---------
Balance May 31, 1998 $ (537) $ 0 $ (35,227)
--------- --------- ---------
</TABLE>
(1) The Company is authorized to issue 1,000 shares of preferred stock at a
par value of $0.01 per share, none of which shares is presently issued
and outstanding.
See notes to consolidated financial statements.
3
<PAGE>
ACCLAIM ENTERTAINMENT, INC.
AND SUBSIDIARIES
STATEMENTS OF CONSOLIDATED CASH FLOWS
(in 000s, except per share data)
<TABLE>
<CAPTION>
Nine Months Ended
May 31,
1998 1997
--------- ---------
<S> <C> <C>
CASH FLOWS PROVIDED BY (USED IN)
OPERATING ACTIVITIES
Net Income (Loss) $ 12,455 $(105,546)
Adjustments to reconcile net income (loss) to net cash (used in) provided by
operating activities:
Depreciation and amortization 10,109 37,754
Loss on sale of marketable securities -- 1,010
Provision for returns and discounts 29,537 23,440
Minority interest in net earnings of consolidated subsidiary -- (1,242)
Deferred compensation expense 3,208 5,275
Non-cash royalty charges 2,108 7,750
Litigation settlements -- 8,300
Other non-cash items 674 248
Change in assets and liabilities:
Increase in accounts receivable (53,677) (20,543)
(Increase) Decrease in inventories (2,201) 1,377
Decrease (Increase) in prepaid expenses 3,668 (2,688)
Decrease in other current assets -- 330
Increase (Decrease) in trade accounts payable 15,703 (11,666)
Decrease in accrued expenses (13,308) (12,231)
Increase in income taxes payable 274 57,460
Increase in other long-term liabilities 2,293 --
--------- ---------
Total adjustments (1,612) 94,574
--------- ---------
NET CASH PROVIDED BY (USED IN) OPERATING ACTIVITIES $ 10,843 $ (10,972)
--------- ---------
CASH FLOWS PROVIDED BY (USED IN)
INVESTING ACTIVITIES
Sales of marketable equity securities -- 10,240
Divestiture of subsidiaries, net -- 6,964
Acquisition of fixed assets, excluding capital leases (2,524) (3,620)
Disposal of fixed assets 123 --
Acquisition of other assets -- (382)
--------- ---------
NET CASH (USED IN) PROVIDED BY INVESTING ACTIVITIES $ (2,401) 13,202
--------- ---------
</TABLE>
4
<PAGE>
ACCLAIM ENTERTAINMENT, INC.
AND SUBSIDIARIES
STATEMENTS OF CONSOLIDATED CASH FLOWS
(Continued)
(in 000s, except per share data)
<TABLE>
<CAPTION>
Nine Months Ended
May 31,
1998 1997
--------- ---------
<S> <C> <C>
CASH FLOWS PROVIDED BY (USED IN)
FINANCING ACTIVITIES
Proceeds from Convertible Subordinated Notes -- 47,400
Payment of mortgage (821) (2,524)
Proceeds from short-term bank loans -- 12,827
Payment of short-term bank loans (624) (12,657)
Exercise of stock options 3,170 170
Payment of obligation under capital leases (871) (1,513)
Payment of long-term debt -- (19,000)
Escrowed shares received (199) --
Miscellaneous financing activities 29 460
-------- --------
NET CASH PROVIDED BY FINANCING ACTIVITIES 684 25,163
-------- --------
EFFECT OF EXCHANGE RATE CHANGES ON CASH 220 (164)
NET INCREASE IN CASH AND CASH EQUIVALENTS 9,346 27,229
-------- --------
CASH AND CASH EQUIVALENTS AT BEGINNING OF PERIOD 26,254 18,814
-------- --------
CASH AND CASH EQUIVALENTS AT END OF PERIOD $ 35,600 $ 46,043
-------- --------
Supplemental schedule of noncash investing and financing activities:
1998 1997
-------- --------
Acquisition of equipment under capital leases $ 125 $ 243
Cash paid (received) during the year for:
Interest $ 5,637 $ 4,698
Income taxes (155) (56,955)
</TABLE>
See notes to consolidated financial statements.
5
<PAGE>
ACCLAIM ENTERTAINMENT, INC.
AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(in 000s, except per share data)
1. Interim Period Reporting - The data contained in these financial
statements are unaudited and are subject to year-end adjustments; however,
in the opinion of management, all known adjustments (which consist only of
normal recurring accruals) have been made to present fairly the consolidated
operating results for the unaudited periods.
2. Liquidity - The accompanying consolidated financial statements have been
prepared assuming that Acclaim Entertainment, Inc. ("Acclaim"), together
with its subsidiaries (Acclaim and its subsidiaries are collectively
hereinafter referred to as the "Company"), will continue as a going concern.
The Company's working capital and stockholders' deficiencies at May 31,
1998, the uncertainty as to whether the Company's products in development
will achieve commercial success and uncertainty in respect of the on-going
support of the Company's principal bank could impact the Company's ability
to meet its obligations as they become due. The consolidated financial
statements do not include any adjustments that might arise from the outcome
of this uncertainty. To enhance long-term liquidity, in fiscal 1997 and 1998
the Company decreased its fixed operating costs, primarily by reducing the
number of its personnel and consolidating or eliminating certain operations.
These expense reductions and the release of a number of titles in the first
nine months of fiscal 1998, including new titles for the N64 hardware
platform, contributed to the Company's net earnings of $12,455 for the first
nine months of fiscal 1998. In that nine month period, the Company generated
approximately $10,843 of cash from operating activities. The Company's future
liquidity will be materially dependent on its ability to develop and market
new software products that achieve widespread market acceptance for use with
the hardware platforms that dominate the market.
3. Accounts Receivable
Accounts receivable are comprised of the following:
May 31, August 31,
1998 1997
----- ----
Receivables assigned to factor $50,106 $13,337
Advances due (from) to factor 19,250 (3,780)
------- --------
Due from factor 30,856 17,117
Unfactored accounts receivable 8,493 4,873
Accounts receivable - Foreign 30,066 12,434
Other receivables 1,702 3,085
Allowances for returns and discounts (27,486) (18,780)
-------- --------
$43,631 $18,729
-------- --------
Pursuant to a factoring agreement, the Company's principal bank acts as
its factor for the majority of its North American receivables, which are
assigned on a pre-approved basis. At May 31, 1998, the factoring charge
amounted to 0.25% of the receivables assigned. The Company's obligations to
the bank are collateralized by all of Acclaim's and its North American
subsidiaries' accounts receivable, inventories and equipment. The advances
for factored receivables are pursuant to a revolving credit and security
agreement, which expires on January 31, 2000. Pursuant to the terms of the
agreement, which can be canceled by either party upon 90-days notice prior
to the end of the term, the Company is required to maintain specified levels
of working capital and tangible net worth and may not incur losses in excess
of specified amounts, among other covenants.
6
<PAGE>
ACCLAIM ENTERTAINMENT, INC.
AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(in 000s, except per share data)
3. Accounts Receivable - (Continued)
The Company draws down working capital advances and opens letters of
credit (up to an aggregate maximum of $20 million) against the facility in
amounts determined on a formula based on factored receivables, inventory and
cost of imported goods under outstanding letters of credit. Interest was
charged at the bank's prime lending rate per annum on such advances.
Effective November 8, 1996, interest is charged at the bank's prime lending
rate plus one percent per annum (9.5% at May 31, 1998) on such advances. As
of May 31, 1998, the Company did not meet certain financial covenants under
its revolving credit facility; the resulting events of default have been
waived by the lender.
Pursuant to the terms of certain distribution, warehouse and credit and
collection agreements, certain of the Company's foreign accounts receivable
are due from various foreign distributors. These receivables are not
collateralized and as a result management periodically monitors the
financial condition of these distributors. No additional credit risk beyond
amounts provided for collection losses is believed inherent in the Company's
accounts receivable. At May 31, 1998 and 1997, the balance due from one
foreign distributor was approximately 22% and 21%, respectively, of foreign
accounts receivable.
4. Long-Term Debt
Long-term debt consists of the following:
May 31, August 31,
1998 1997
----- -----
10% Convertible Subordinated Notes due 2002 $50,000 $50,000
Mortgage note 2,836 3,657
------- -------
52,836 53,657
Less: current portion 724 1,002
------- -------
$52,112 $52,655
------- -------
5. Earnings (Loss) Per Share
In fiscal 1998, the Company adopted Statement of Financial Accounting
Standards No. 128 ("SFAS 128"), "Earnings per Share," which requires the
presentation of basic and diluted earnings per share. Basic earnings (loss)
per share is computed based upon the weighted average number of common
shares outstanding. Diluted earnings (loss) per share is computed based upon
the weighted average number of common shares outstanding increased by
dilutive common stock options and warrants and the effect of assuming the
conversion of the outstanding 10% convertible subordinated notes, if
dilutive. Prior year earnings per share data has been restated to apply the
provisions of SFAS 128. The table below provides the components of the per
share computations.
7
<PAGE>
ACCLAIM ENTERTAINMENT, INC.
AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(in 000s, except per share data)
5. Earnings (Loss) Per Share (Continued)
<TABLE>
<CAPTION>
Three Months Ended Nine Months Ended
May 31, May 31,
1998 1997 1998 1997
---- ---- ---- ----
<S> <C> <C> <C> <C>
Basic EPS Computation
Net income (loss) $5,669 $(69,704) $12,455 $(105,546)
Weighted average
common shares outstanding 51,225 49,645 50,785 49,645
Basic earnings (loss) per share $0.11 $(1.40) $0.25 $(2.13)
Diluted EPS Computation
Net income (loss) $5,669 $(69,704) $12,455 $(105,546)
Weighted average
common shares outstanding 51,225 49,645 50,785 49,645
Stock options and warrants 8,950 --- 5,115 ---
10% convertible subordinated notes --- --- ---- ---
------ ------ ------- -------
Diluted common shares outstanding 60,175 49,645 55,900 49,645
Diluted earnings (loss) per share $0.09 $(1.40) $0.22 $(2.13)
</TABLE>
The assumed conversion of the outstanding 10% convertible subordinated notes
was excluded from the above diluted earnings per share calculations since they
were anti-dilutive.
6. Litigation Settlements
As of August 31, 1997, the Company had $22,570 of accrued litigation
settlements and other accrued liabilities of $3,493 relating to certain other
claims. During the first nine months of fiscal 1998, the Company settled
substantially all of its outstanding litigations and claims for amounts
approximating the related accrued liabilities. Litigations and claims that have
been settled include those by Digital Pictures, Inc., Sound Source Interactive,
Inc., Spectrum Holobyte California, Inc., Ocean of America, Inc., those arising
from certain of the Company's acquisitions, and the class action litigations
relating to the Lazer-Tron acquisition, the 1995 revision of earnings and,
subject to court approval, the WMS Action (as hereinafter defined). Such
settlements, totaling $25,943, will be satisfied by the payment of $10,855 in
cash and $15,088 in common stock and warrants. The fair value of shares of
common stock issued in settlement was based on the quoted market value of the
common stock on the date of issuance and the fair value of warrants issued in
settlement was calculated using the Black Scholes option pricing model. As of
May 31, 1998, the Company had paid $5,457 and $4,143 of the cash and non-cash
portions of the settlements, respectively. The non-cash portion consisted of
the issuance of 914 shares of common stock.
8
<PAGE>
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS
The following is intended to update the information contained in the
Company's Annual Report on Form 10-K for the year ended August 31, 1997 and
presumes that readers have access to, and will have read, the "Management's
Discussion and Analysis of Financial Condition and Results of Operations"
contained in such Form 10-K.
This Quarterly Report on Form 10-Q contains certain forward-looking
statements within the meaning of Section 27A of the Securities Act of 1933 and
Section 21E of the Securities Exchange Act of 1934. When used in this report,
the words "believe," "anticipate," "think," "intend," "plan," "will be" and
similar expressions identify such forward-looking statements. Such statements
regarding future events and/or the future financial performance of the Company
are subject to certain risks and uncertainties, including those discussed in
"Factors Affecting Future Performance" below at pages 17 to 27, which could
cause actual events or the actual future results of the Company to differ
materially from any forward-looking statement. In light of the significant risks
and uncertainties inherent in the forward-looking statements included herein,
the inclusion of such statements should not be regarded as a representation by
the Company or any other person that the objectives and plans of the Company
will be achieved.
OVERVIEW
Acclaim Entertainment, Inc. ("Acclaim"), together with its subsidiaries
(Acclaim and its subsidiaries are collectively hereinafter referred to as the
"Company"), is a developer, publisher and mass marketer of interactive
entertainment software ("Software") for use with dedicated interactive
entertainment hardware platforms ("Entertainment Platforms") and multimedia
personal computer systems ("Multimedia PCs"). The Company operates its own
Software design studios and a motion capture studio, and markets and distributes
its Software in the major territories throughout the world. The Company's
operating strategy is to develop Software for the Entertainment Platforms and
Multimedia PCs that dominate the interactive entertainment market at a given
time or which the Company perceives as having the potential for achieving mass
market acceptance. The Company emphasizes sports simulation and arcade-style
titles for Entertainment Platforms, and fantasy/role-playing, adventure and
sports simulation titles for Multimedia PCs. The Company intends to continue to
support its existing key brands (such as Turok: Dinosaur Hunter, NFL Quarterback
Club and NBA Jam) with the introduction of new titles supporting those brands
and to develop one or more additional key brands each year based on its original
and licensed properties, which may then be featured on an annual basis in
successive titles.
The Company also engages, to a lesser extent, in the distribution of
Software titles developed by other Software publishers ("Affiliated Labels") and
the development and publication of comic books.
The Software industry is driven by the size of the installed base of
Entertainment Platforms, such as those manufactured by Nintendo Co., Ltd.
(Japan) (Nintendo Co., Ltd. and its subsidiary, Nintendo of America, Inc., are
collectively referred to as "Nintendo"), Sony Corporation (Sony Corporation and
its subsidiary, Sony Computer Entertainment of America, are collectively
referred to as "Sony") and Sega Enterprises Ltd. ("Sega"), and Multimedia PCs.
The industry is characterized by rapid technological change, resulting in
hardware platform and related Software product cycles. No single hardware
platform or system has achieved long-term dominance in the interactive
entertainment market.
The Company's results of operations and cash flows were materially
adversely affected during the fiscal years ended August 31, 1996 and 1997 by the
material decline in sales of the Company's 16-bit Software and the transition to
32- and 64-bit Entertainment Platforms and related Software. See "Factors
Affecting Future Performance--Industry Trends; Platform Transition;
Technological Change."
9
<PAGE>
The Company recorded net income of $5.7 million and net income of $12.5
million for the three and nine months ended May 31, 1998 as compared to a net
loss of $(69.7) million and $(105.5) million for the three and nine months
ended May 31, 1997. The results for the 1998 three and nine month periods
reflect primarily the increase in sales volume of the Company's Software for
Nintendo's 64-bit N64 platform ("N64").
Management believes, based on publicly available information and its own
estimates, that the installed base of 32- and 64-bit Entertainment Platforms in
the United States was between approximately 6 and 7 million units and between
approximately 17 and 18 million units at the end of calendar 1996 and 1997,
respectively. Although management anticipates that such installed base will
continue to grow in calendar 1998 and that the Company's revenues in fiscal 1998
from sales of Software therefor will be higher than in fiscal 1997, the
Company's revenues from sales of Software for these Entertainment Platforms in
fiscal 1998 will not be comparable to its revenues from sales of 16-bit Software
in fiscal 1994 or 1995. Assuming the continued growth of the installed base of
32- and 64-bit Entertainment Platforms and the timely introduction and success
of the Company's Software therefor, management anticipates that the Company will
be profitable for fiscal 1998 as a whole. However, no assurance can be given as
to the future growth of the installed base of 32- and 64-bit Entertainment
Platforms or Software therefor, the timely introduction or success of the
Company's Software (particularly in light of the difficulty in predicting
product development schedules) or the Company's results of operations and
profitability in future periods. See Note 2 of Notes to Consolidated Financial
Statements and "Factors Affecting Future Performance."
In fiscal 1997, the Company effected a variety of cost reduction measures
to reduce its operating expenses. The Company realized the benefits of such
measures in the fourth quarter of fiscal 1997 and in the first nine months of
fiscal 1998 in the form of reduced operating expenses as compared to prior
periods. In addition, in fiscal 1998, the Company consolidated or eliminated
certain operations. No assurance can be given that the cost reduction measures
heretofore effected will not materially adversely affect the Company's ability
to develop and publish commercially viable titles, or that such measures,
whether alone or in conjunction with increased revenues, if any, will be
sufficient to generate operating profits in fiscal 1998 and beyond. See "Factors
Affecting Future Performance."
The Company's ability to generate sales growth and profitability will be
primarily dependent on the growth of the Software market for 32- and 64-bit
Entertainment Platforms and Multimedia PCs, the Company's ability to identify,
develop and publish 'hit' Software for Entertainment Platforms with significant
installed bases and Multimedia PCs, the continued success of the Company's cost
reduction efforts and its ability to develop and publish commercially viable
titles after giving effect to such efforts and, to a lesser extent, the
generation of increased revenues from the Company's other entertainment
operations.
RESULTS OF OPERATIONS
The following table sets forth certain statements of consolidated
operations data as a percentage of net revenues for the periods indicated:
10
<PAGE>
<TABLE>
<CAPTION>
Three Months Ended Nine Months Ended
May 31, May 31,
1998 1997 1998 1997
---- ---- ---- ----
<S> <C> <C> <C> <C>
Domestic revenues 58.0% 46.0% 57.0% 50.0%
Foreign revenues 42.0 54.0 43.0 50.0
---- ---- ---- ----
Net revenues 100.0 100.0 100.0 100.0
Cost of revenues 42.9 61.2 46.3 53.0
---- ---- ---- ----
Gross profit 57.1 38.8 53.7 47.0
Operating Expenses
Marketing and Sales 17.2 29.5 18.7 29.7
General and Administrative 17.3 43.6 16.8 36.0
Research and Development 14.2 22.8 11.9 21.6
Goodwill Writedown -- 60.6 -- 17.1
Litigation Settlements -- 19.9 -- 5.6
Downsizing Charge -- 24.0 -- 6.8
---- ---- ---- ---
Total operating expenses 48.8 200.4 47.4 116.8
Earnings (loss) from operations 8.3 (161.6) 6.3 (69.8)
Other (expense), net (0.6) (5.6) (1.0) (2.5)
----- ----- ----- -----
Earnings (loss) before income taxes 7.8 (167.2) 5.4 (72.3)
Net earnings (loss) 7.8 (167.5) 5.3 (71.7)
</TABLE>
NET REVENUES
The Company's gross revenues were derived from the following product
categories:
<TABLE>
<CAPTION>
Three Months Ended Nine Months Ended
May 31, May 31,
1998* 1997* 1998* 1997*
----- ----- ---- -----
<S> <C> <C> <C> <C>
64-bit Software 50.0% 57.0% 62.0% 32.0%
32-bit Software 30.0% 19.0% 23.0% 38.0%
Multimedia PC Software 18.0% 17.0% 11.0% 16.0%
Portable Software 2.0% 2.0% 3.0% 2.0%
16-bit Software 0.0% 2.0% 1.0% 9.0%
Other 0.0% 3.0% 0.0% 3.0%
</TABLE>
- -------------------------------------------
* The numbers in this chart do not give effect to sales credits and allowances
granted by the Company in the periods covered since the Company does not track
such credits and allowances by product category. Accordingly, the numbers
presented may vary materially from those that would be disclosed if the Company
were able to present such information as a percentage of net revenues.
The increase in the Company's net revenues from $41.6 million for the
quarter ended May 31, 1997 to $73.2 million for the quarter ended May 31, 1998
and from $147.3 million for the nine months ended May 31, 1997 to $234.8 million
for the nine months ended May 31, 1998 was predominantly due to increased unit
sales of the Company's Software resulting from the release of new Software for
the N64 and Sony PlayStation platforms and the growth in the 32- and 64-bit
Entertainment Platforms market.
A significant portion of the Company's revenues in any quarter are
generally derived from Software first released in that quarter or in the
immediately preceding quarter. For the three months ended May 31, 1997, sales of
Turok: Dinosaur Hunter (for the N64) accounted for approximately 57% of the
Company's gross revenues and, for the three months ended May 31, 1998, sales of
Forsaken (for multiple platforms) and All-Star Baseball 99 (for the N64)
accounted for approximately 46% and 18%, respectively, of the Company's gross
revenues. For the nine months ended May 31, 1997, sales of Turok: Dinosaur
Hunter (for the N64) accounted for approximately 32% of the Company's gross
11
<PAGE>
revenues and, for the nine months ended May 31, 1998, sales of NFL Quarterback
Club 98 (for the N64), Extreme-G (for the N64) and Forsaken (for multiple
platforms) accounted for approximately 18%, 15%, and 14%, respectively, of the
Company's gross revenues.
The Company is substantially dependent on Nintendo, Sony and Sega as the
sole manufacturers of the hardware platforms marketed by them and as the sole
licensors of the proprietary information and technology needed to develop
Software for those platforms. For the three months ended May 31, 1997
and 1998, the Company derived 60% and 52% of its gross revenues, respectively,
from sales of Nintendo-compatible Software, 16% and 30% of its gross revenues,
respectively, from sales of Software for the Sony PlayStation and 4% and less
than 1% of its gross revenues, respectively, from sales of Sega-compatible
Software. For the nine months ended May 31, 1997 and 1998, the Company derived
39% and 65% of its gross revenues, respectively, from sales of
Nintendo-compatible Software, 28% and 23% of its gross revenues, respectively,
from sales of Software for the Sony PlayStation and 13% and less than 1% of its
gross revenues, respectively, from sales of Sega-compatible Software.
GROSS PROFIT
Gross profit fluctuates primarily as a result of three factors: (i) the
number of 'hit' titles and average unit selling prices of the Company's
Software; (ii) the Company's product mix (i.e., the percentage of sales of
Multimedia PC Software and Software for compact-disk ("CD") based Entertainment
Platforms, such as the 32-bit Sony PlayStation and Sega Saturn platforms, as
compared to sales of Software for cartridge-based Entertainment Platforms, such
as the N64); and (iii) the percentage of foreign sales to third party
distributors. All royalties payable to Nintendo, Sony and Sega are included in
cost of revenues.
The Company's gross profit is adversely impacted by increases in the level
of returns and allowances to retailers, which reduces the average unit sales
price obtained for its Software. Similarly, lack of 'hit' titles or a low number
of 'hit' titles, resulting in lower average unit sales prices, adversely impacts
the Company's gross profits.
The Company's margins on sales of Multimedia PC and other CD Software are
higher than those on cartridge Software as a result of significantly lower CD
Software costs.
The Company's margins on foreign Software sales to third party distributors
are approximately one-third lower than those on sales that the Company makes
directly to foreign retailers.
Gross profit increased from $16.2 million (39% of net revenues) for the
quarter ended May 31, 1997 to $41.8 million (57% of net revenues) for the
quarter ended May 31, 1998 and from $69.2 million (47% of net revenues) for the
nine months ended May 31, 1997 to $126.2 million (54% of net revenues) for the
nine months ended May 31, 1998. The increase is primarily attributable to higher
unit selling prices of the Company's Software. In addition, gross profit for the
three month period ended May 31, 1998 was positively impacted by (i) a higher
percentage of 32-bit CD Software sales and (ii) the lower than anticipated cost
of revenues in respect of the Company's N64 cartridges (due to a cost reduction
effected by Nintendo in May 1998), resulting in higher gross margins for the
Company's N64 products.
Management anticipates that the Company's future gross profit will be
adversely impacted by the increased cost of higher memory chips to be utilized
in its N64 cartridges. Such higher memory chips are anticipated to provide
better game play.
Management anticipates that the Company's future gross profit will be
affected principally by (i) the percentage of returns, sales credits and
allowances and other similar concessions in respect of the Company's Software
sales and (ii) the Company's product mix.
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<PAGE>
The Company purchases substantially all of its Software (other than
Software sold in Japan) at prices payable in United States dollars. Appreciation
of the yen could result in increased prices charged by Sony, Sega or Nintendo to
the Company (although, to date, none of them has effected such a price
increase), which the Company may not be able to pass on to its customers and
which could adversely affect its results of operations.
OPERATING EXPENSES
In fiscal 1997, the Company effected a variety of cost reduction measures
to reduce its operating expenses. The Company realized the benefits of such
measures in the fourth quarter of fiscal 1997 and in the first nine months of
fiscal 1998 in the form of reduced operating expenses as compared to prior
quarters. In addition, in fiscal 1998, the Company consolidated or eliminated
certain operations. No assurance can be given that the cost reduction measures
heretofore effected will not materially adversely affect the Company's ability
to develop and publish commercially viable titles, or that such measures,
whether alone or in conjunction with increased revenues, if any, will be
sufficient to generate operating profits in fiscal 1998 and beyond. See "Factors
Affecting Future Performance."
Marketing and sales expenses increased from $12.3 million (30% of net
revenues) for the quarter ended May 31, 1997 to $12.6 million (17% of net
revenues) for the quarter ended May 31, 1998 and from $43.7 million (30% of net
revenues) for the nine months ended May 31, 1997 to $43.9 million (19% of net
revenues) for the nine months ended May 31, 1998. The percentage decrease is
primarily attributable to increased sales volume. Management anticipates that
marketing and sales expenses will increase in future periods.
General and administrative expenses decreased from $18.2 million (44% of
net revenues) for the quarter ended May 31, 1997 to $12.7 million (17% of net
revenues) for the quarter ended May 31, 1998 and decreased from $53.0 million
(36% of net revenues) for the nine months ended May 31, 1997 to $39.4 million
(17% of net revenues) for the nine months ended May 31, 1998. The decrease is
primarily attributable to personnel and other cost reduction efforts initiated
by the Company to reduce its operating expenses.
Research and development expenses increased from $9.5 million (23% of net
revenues) for the quarter ended May 31, 1997 to $10.4 million (14% of net
revenues) for the quarter ended May 31, 1998 due to additional personnel costs
and decreased from $31.8 million (22% of net revenues) for the nine months ended
May 31, 1997 to $28.0 million (12% of net revenues) for the nine months ended
May 31, 1998 due to the consolidation of certain of the Company's studio
operations, reduced personnel costs and other cost reduction efforts implemented
by the Company. Research and development expenses may continue to increase in
future periods.
In May 1997, the Company effected another downsizing and put into place a
plan to effect substantial cost reductions. Severance charges and other costs
related to the downsizing and proposed cost reductions of approximately $10
million were recorded in the third quarter of fiscal 1997. Accrued downsizing
expenses were $11.3 million at August 31, 1997. Downsizing expenditures in the
first nine months of fiscal 1998 were consistent with the accrued downsizing
charge at August 31, 1997. The majority of the remaining accrued downsizing
expenses, including those for the discontinuance in fiscal 1998 of the Company's
coin-operated video arcade game subsidiary, will be paid through fiscal 1999 and
relates to employee severance, lease commitments for idle facilities and
write-offs of non-productive fixed assets.
Due to continuing operating losses incurred by Acclaim Comics, management's
assessment of the state of the comic book industry and management's projections
for Acclaim Comics' operations, in May 1997, management believed that there was
an impairment in the carrying value of the goodwill relating to the acquisition
of Acclaim Comics in July 1994. Accordingly, the Company recorded a write-down
of
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<PAGE>
$25.2 million of goodwill in the quarter ended May 31, 1997 to reduce the
carrying value of the goodwill associated with Acclaim Comics to its estimated
fair value.
In conjunction with certain litigations for which the settlement obligation
was then probable and estimable (see "Factors Affecting Future Performance-
Litigation" and "Legal Proceedings"), the Company recorded a primarily noncash
charge of $8.3 million in the quarter ended May 31, 1997. The Company recorded
additional litigation settlement charges of $15.3 million in the fourth quarter
of fiscal 1997 and no assurance can be given that the Company will not be
required to record additional material charges in future periods in conjunction
with the various litigations to which the Company is a party.
As of August 31, 1997, the Company had a U.S. tax net operating loss
carryforward of approximately $96 million. The Company had no U.S. federal
income tax expense in the first nine months of fiscal 1998 due to the
utilization of a portion of such net operating loss carryforwards. The provision
for income taxes of $0.1 million relates to state and foreign income taxes.
SEASONALITY
The Company's business is seasonal, with higher revenues and operating
income typically occurring during its first, second and fourth fiscal quarters
(which correspond to the Christmas and post-Christmas selling season). However,
the timing of the delivery of Software titles and the releases of new titles
cause material fluctuations in the Company's quarterly revenues and earnings,
which may cause the Company's results to vary from the seasonal patterns of the
industry as a whole.
LIQUIDITY AND CAPITAL RESOURCES
The Company used net cash in operating activities of approximately $(11.0)
million and derived net cash from operating activities of approximately $10.8
million during the nine months ended May 31, 1997 and 1998, respectively. An
income tax refund of approximately $54 million relating to the carryback of the
Company's loss for fiscal 1996 was included in the net cash used in operating
activities during the fiscal 1997 period. The increase in net cash from
operations in the fiscal 1998 period as compared to the fiscal 1997 period is
primarily attributable to higher sales. See Note 2 of Notes to Consolidated
Financial Statements.
The Company derived net cash from investing activities of approximately
$13.2 million and used net cash in investing activities of approximately $(2.4)
million during the nine months ended May 31, 1997 and 1998, respectively. The
decrease in net cash from investing activities in the fiscal 1998 period as
compared to the fiscal 1997 period is primarily attributable to the proceeds
derived from the sale of marketable securities (approximately $10.2 million) and
subsidiaries (approximately $7.0 million) in the fiscal 1997 period.
The Company derived net cash in financing activities of approximately $25.2
million and approximately $0.7 million in the nine months ended May 31, 1997 and
1998, respectively. The decrease in net cash provided by financing activities in
the fiscal 1998 period as compared to the fiscal 1997 period is primarily
attributable to the sale in February 1997 of $50 million of 10% convertible
subordinated notes ("Notes") due March 1, 2002, which was partially offset by
the repayment of a term loan and partial repayment of the mortgage note due to
Fleet Bank ("Fleet").
The Company generally purchases its inventory of Sony, Nintendo and Sega
(to the extent not manufactured by the Company) Software by opening letters of
credit when placing the purchase order. At May 31, 1998, the amount outstanding
under letters of credit was approximately $13.6 million. Other than such letters
of credit, the Company does not currently have any material operating or capital
expenditure commitments.
14
<PAGE>
In fiscal 1997, the Company commenced a year 2000 date conversion project
to address all necessary code changes, testing and implementation. Project
completion is planned for the middle of calendar 1999. Management anticipates
that the cost of the project will not be material to the Company's results of
operations or liquidity in fiscal 1998 or 1999. Management anticipates that the
Company's year 2000 date conversion project will be completed on a timely basis.
However, there can be no assurance that the systems of other companies on which
the Company's systems rely also will be timely converted or that any such
failure to convert by another company would not have an adverse effect on the
Company's systems.
The Company has a revolving credit and security agreement with BNY
Financial Corporation ("BNY"), its principal domestic bank, which agreement
expires on January 31, 2000. The credit agreement may be automatically renewed
for another year by its terms, unless terminated upon 90 days' prior notice by
either party. The Company draws down working capital advances and opens letters
of credit (up to an aggregate maximum of $20 million) against the facility in
amounts determined on a formula based on factored receivables and inventory,
which advances are secured by the Company's assets. This bank also acts as the
Company's factor for the majority of its North American receivables, which are
assigned on a pre-approved basis. At May 31, 1998, the factoring charge was
0.25% of the receivables assigned and the interest on advances was at the
bank's prime rate plus one percent. As of May 31, 1998, the Company did not
meet certain financial covenants under its revolving credit facility; the
resulting events of default have been waived by the lender. See Note 3 of Notes
to Consolidated Financial Statements and "Factors Affecting Future
Performance--Liquidity and Bank Relationships."
The Company is also party to a mortgage arrangement with Fleet relating to
its corporate headquarters. At May 31, 1998, the outstanding principal balance
of the Fleet loan was $2.8 million. See "Factors Affecting Future
Performance--Liquidity and Bank Relationships."
Management believes, based on the currently anticipated growth of the
installed base of 32-and 64-bit Entertainment Platforms and the cost reduction
efforts effected by the Company, that the Company's cash flows from operations
will be sufficient to cover its operating expenses and such current obligations
as are required to be paid in the remainder of fiscal 1998. However, no
assurance can be given as to the sufficiency of such cash flows in fiscal 1998
or beyond. To provide for its short-and long-term liquidity needs, in fiscal
1997 and 1998, the Company significantly reduced the number of its employees,
consolidated or eliminated certain operations, raised $47.4 million of net
proceeds from the issuance of the Notes, and sold substantially all of the
assets of Acclaim Redemption Games, Inc. ("Lazer-Tron"). The Company's future
liquidity will be materially dependent on its ability to develop and market
Software that achieves widespread market acceptance for use with the hardware
platforms that dominate the market. There can be no assurance that the Company
will be able to publish Software for Entertainment Platforms with significant
installed bases.
The Company is party to various litigations arising in the course of its
business, the resolution of none of which, the Company believes, will have a
material adverse effect on the Company's liquidity, financial condition and
results of operations.
The Company is also party to certain class action litigations and other
claims. In conjunction with claims arising from certain of the Company's
acquisitions and then pending litigations and claims for which the settlement
obligation was probable and estimable, the Company recorded a charge of $23.6
million in the year ended August 31, 1997. Approximately $10.9 million of these
litigation settlements will be satisfied in cash, of which $5.5 million has been
paid as of May 31, 1998. No assurance can be given that the Company will not be
required to record additional material charges in future periods in conjunction
with the litigations to which the Company is a party. See Note 6 of Notes to
Consolidated Financial Statements, "Factors Affecting Future
Performance--Litigation" and "Legal Proceedings."
15
<PAGE>
NEW ACCOUNTING PRONOUNCEMENTS
Statement of Position ("SOP") 97-2, "Software Revenue Recognition", is
effective for transactions entered into in fiscal years beginning after December
15, 1997 (September 1, 1998 for the Company). SOP 97-2 indicates that revenue
for noncustomized software should be recognized when persuasive evidence of an
arrangement exists, the software has been delivered, the Company's selling price
is fixed or determinable and collectibility of the resulting receivable is
probable. The implementation of SOP 97-2 is not expected to have any impact on
the Company's results of operations.
16
<PAGE>
FACTORS AFFECTING FUTURE PERFORMANCE
Future operating results of the Company depend upon many factors and are
subject to various risks and uncertainties. Some of the risks and uncertainties
which may cause the Company's operating results to vary from anticipated results
or which may materially and adversely affect its operating results are as
follows:
Recent Operating Results
The Company's net revenues increased from $147.3 million for the nine
months ended May 31, 1997 to $234.8 million for the nine months ended May 31,
1998. The Company had net earnings of $12.5 million for the nine months ended
May 31, 1998 as compared to a net loss of $(105.5) million for the nine months
ended May 31, 1997. The increase in revenues and earnings in the 1998 period
reflects primarily increased unit sales of the Company's Software for the N64
and Sony PlayStation platforms. The Company's results in the prior two fiscal
years, which reflected decreases in net revenues as compared to fiscal 1994 and
1995 and net losses in fiscal 1996 and 1997, were primarily attributable to the
effects on the Company of the industry transition from 16-bit to 32- and 64-bit
Entertainment Platforms and related Software. See "--Going Concern
Considerations."
Based on publicly available information and its own estimates, the Company
believes that the installed base of 32- and 64-bit Entertainment Platforms in
the United States was between approximately 6 and 7 million units and between
approximately 17 and 18 million units at the end of calendar 1996 and calendar
1997, respectively. Although the Company anticipates that such installed base
will continue to grow in the short term, no assurance can be given that the
installed base of such Entertainment Platforms will increase substantially or
that the Company's revenues from sales of Software therefor will increase
sufficiently to offset the reduction in revenues derived from sales of 16-bit
Software in prior years. Assuming the continued growth of the installed base of
32- and 64-bit Entertainment Platforms and the timely introduction and success
of the Company's Software therefor, management anticipates that the Company will
be profitable for fiscal 1998 as a whole. No assurance can be given as to the
future growth of the installed base of 32- and 64-bit Entertainment Platforms or
Software therefor, the timely introduction or success of the Company's Software
(particularly in light of the difficulty in predicting product development
schedules) or the Company's results of operations and profitability in future
periods.
In fiscal 1997, the Company effected a variety of cost reduction measures
to reduce its operating expenses. See "--Liquidity and Bank Relationships" below
and "Management's Discussion and Analysis of Financial Condition and Results of
Operations." The Company realized the benefits of such measures in the fourth
quarter of fiscal 1997 and in the first nine months of fiscal 1998 in the form
of reduced operating expenses as compared to prior quarters. In addition, in
fiscal 1998, the Company consolidated or eliminated certain operations. No
assurance can be given that the cost reduction measures heretofore effected will
not materially adversely affect the Company's ability to develop and publish
commercially viable titles, or that such measures, whether alone or in
conjunction with increased revenues, if any, will be sufficient to generate
operating profits in fiscal 1998 and beyond.
Liquidity and Bank Relationships
The Company used net cash in operations of approximately $(11.0) million
and derived net cash from operations of approximately $10.8 million for the nine
months of fiscal 1997 and 1998, respectively. An income tax refund of
approximately $54 million relating to the carryback of the Company's loss for
fiscal 1996 was included in the net cash derived from operating activities
during the nine months of fiscal 1997. Prior to the fiscal 1998 period, without
giving effect to the tax refund during the same period of fiscal 1997, the
Company had experienced negative cash flow from operations in recent periods
17
<PAGE>
primarily due to its net losses, which were primarily attributable to the
effects on the Company of the industry transition from 16-bit to 32- and 64-bit
Entertainment Platforms and related Software.
The Company believes, based on the anticipated continued growth of the
installed base of 32- and 64-bit Entertainment Platforms and the cost reduction
efforts effected by the Company, that its cash flows from operations will be
sufficient to cover its operating expenses and such current obligations as are
required to be paid in fiscal 1998. However, there can be no assurance that the
Company's operating expenses or current obligations will not materially exceed
cash flows available from the Company's operations in fiscal 1998 and beyond.
To provide liquidity, the Company (i) in fiscal 1997 and 1998,
significantly reduced the number of its employees and consolidated or eliminated
certain of its operations, (ii) on February 26, 1997, consummated the offering
of the Notes (the "Convertible Note Offering") and used approximately $16
million of the net proceeds of the Convertible Note Offering to retire its term
loan from Midland Bank plc ("Midland") and $2 million of such proceeds to pay a
portion of its mortgage loan from Fleet and (iii) on March 5, 1997, sold
substantially all of the assets and certain liabilities of Lazer-Tron for $6
million in cash. The Company's long-term liquidity will be materially dependent
on its ability to develop and market "hit" Software for the Entertainment
Platforms that dominate the interactive entertainment market. See Note 2 of
Notes to Consolidated Financial Statements and "Management's Discussion and
Analysis of Financial Condition and Results of Operations--Liquidity and Capital
Resources."
As of May 31, 1998, the Company did not meet certain financial covenants
under its revolving credit facility; the resulting events of default have been
waived by the lender. See "Management's Discussion and Analysis of Financial
Condition and Results of Operations--Liquidity and Capital Resources." There can
be no assurance that additional covenant defaults, or a payment default, will
not occur in the future. The Company's ability to meet its financial covenants
and its payment obligations can be affected by factors beyond its control. There
can be no assurance that the Company will be able to obtain waivers of any
future default or that the lenders will not exercise their remedies. In such
event, the Company's operations would be materially adversely affected. See
"--Going Concern Considerations."
Substantial Leverage and Ability to Service Debt
The Company's ability to satisfy its obligations to its lenders will be
dependent upon its future performance, which is subject to prevailing economic
conditions and financial, business and other factors, including factors beyond
the Company's control. See "Management's Discussion and Analysis of Financial
Condition and Results of Operations."
The level of the Company's indebtedness could have important consequences
to investors in the Company, because: (i) a portion of the Company's cash flow
from operations must be dedicated to debt service, including the Notes and the
Company's existing bank obligations, and will not be available for other
purposes; (ii) the Company's ability to obtain additional debt financing in the
future for working capital, or to pursue possible expansion of its business or
acquisitions, is limited; and (iii) the Company's level of indebtedness could
limit its flexibility in reacting to changes in the interactive entertainment
industry and economic conditions generally, making it more vulnerable to adverse
economic conditions and limiting its ability to withstand competitive pressures
or take advantage of business opportunities. Certain of the Company's
competitors currently operate on a less leveraged basis, and are likely to have
significantly greater operating and financing flexibility than the Company.
The Company believes that, based upon current levels of operations, it
should be able to meet its interest obligations on the Notes, and its interest
and principal obligations under its bank agreements, when due. However, if the
Company cannot generate sufficient cash flow from operations to meet its debt
obligations when due, the Company might be required to restructure or refinance
its indebtedness. There can be no assurance that any such restructuring or
refinancing will be effected on satisfactory terms or will be permitted by the
terms of the indenture (the "Indenture") governing the Notes, or the
18
<PAGE>
Company's existing indebtedness. There can be no assurance that the Company's
operating cash flows will be sufficient to meet its debt service requirements
or to repay the Notes at maturity or that the Company will be able to refinance
the Notes or other indebtedness at maturity. See "--Prior Rights of Creditors"
below and "Management's Discussion and Analysis of Financial Condition and
Results of Operations."
Prior Rights of Creditors
The Company has outstanding long-term debt (including current portions) of
$52.8 million at May 31, 1998. See Note 4 of Notes to Consolidated Financial
Statements. The Company's failure to make payments of interest or principal on
such indebtedness when due may result in defaults under its agreements with
respect to such indebtedness and under the Indenture. Certain of such
indebtedness is secured by liens on substantially all of the assets of the
Company.
In addition, the Indenture provides that, upon the occurrence of certain
events (each a "Repurchase Event"), the Company may be obligated to repurchase
all or a portion of the outstanding Notes. If a Repurchase Event were to occur
and the Company did not have, or could not obtain, sufficient financial
resources to repurchase the Notes, such failure to repurchase the Notes would
constitute an event of default under the Indenture. The occurrence of certain
Repurchase Events would also constitute a default under certain of the Company's
current loan agreements, including the Company's main credit facility with BNY,
and may constitute an event of default under the terms of future agreements with
respect to the Company's borrowings. The default under the Indenture for the
Company's failure to effect a repurchase of the Notes would also constitute an
event of default under certain of the Company's existing loan agreements.
Further, the Company's ability to meet its debt service obligations are, in
part, dependent upon its receipt of dividends and other advances and transfers
of funds from its subsidiaries. The ability of the Company's subsidiaries to pay
such dividends and make such advances will be subject to applicable state and
foreign law regulating the payment of dividends and the terms of the Company's
existing bank agreements and the Indenture.
A significant portion of the Company's assets, operations, trade payables
and other indebtedness are located at subsidiaries of the Company and the
creditors of such subsidiaries would generally recover from the assets of such
subsidiaries on the obligations owed to them by such subsidiaries prior to any
recovery by creditors of the Company and prior to any distribution of remaining
assets to equity holders of the Company.
An event of default with respect to the Company's current bank agreements
may result in acceleration of the Company's obligations under such bank
agreements or demand by the lenders for immediate repayment and would entitle
any secured creditor in respect of such debt to proceed against the collateral
securing such defaulted loan. An event of default under the Indenture may result
in actions by IBJ Schroder Bank & Trust Company, as trustee (the "Trustee"), on
behalf of the holders of the Notes. In the event of such acceleration by the
Company's creditors or action by the Trustee, holders of indebtedness would be
entitled to payment out of the assets of the Company. If the Company becomes
insolvent, is liquidated or reorganized, it is possible that there will not be
sufficient assets remaining after payment to such creditors for any distribution
to holders of Acclaim's common stock, par value $0.02 per share (the "Common
Stock").
Going Concern Considerations
The Company's working capital declined from $(10.0) million at August 31,
1996 to $(64.2) million at August 31, 1997 and $(31.5) million at May 31, 1998
and the Company's stockholders' equity declined from $93.6 million at August 31,
1996 to deficits of $(59.0) million at August 31, 1997 and $(35.2) million at
May 31, 1998. The report of KPMG Peat Marwick LLP, independent auditors for the
Company, for
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<PAGE>
fiscal 1997 includes an explanatory paragraph relating to substantial doubt as
to the ability of the Company to continue as a going concern. A "going concern"
explanatory paragraph could have a material adverse effect on the terms of any
bank financing or capital the Company may seek. See Note 2 of Notes to
Consolidated Financial Statements.
Litigation
In conjunction with certain claims and litigations for which the settlement
obligation was probable and estimable, the Company recorded a charge of $23.6
million in the year ended August 31, 1997. No assurance can be given that the
Company will not be required to record additional material charges in future
periods in conjunction with the litigations to which the Company is a party.
Additional charges to earnings, if any, arising from an adverse result in such
litigations or an inadequacy in the charge recorded in fiscal 1997 could have a
material adverse effect on the financial condition and results of operations of
the Company. A portion of any settlement or judgment in one or more of the
litigations to which the Company is a party may be covered by the Company's
insurance. See Note 6 of Notes to Consolidated Financial Statements and "Legal
Proceedings."
Industry Trends; Platform Transition; Technological Change
The interactive entertainment industry is characterized by, and the Company
anticipates that it will continue to undergo, rapid technological change due in
large part to (i) the introduction of Entertainment Platforms incorporating more
advanced processors and operating systems, (ii) the impact of technological
changes embodied in Multimedia PCs and Software therefor, (iii) the development
of electronic and wireless delivery systems and (iv) the entry and participation
of new companies in the industry. These factors have resulted in hardware
platform and Software life cycles.
No single hardware platform or system has achieved long-term dominance.
Accordingly, the Company must continually anticipate and adapt its Software
titles to emerging hardware platforms and systems and evolving consumer
preferences. There can be no assurance that the Company will be successful in
developing and marketing Software for new hardware platforms. The process of
developing Software titles such as those offered by the Company is extremely
complex and is expected to become more complex and expensive in the future as
consumers demand more sophisticated and elaborate features and as new platforms
and technologies are introduced.
Development of Software for emerging hardware platforms requires
substantial investments in research and development for new and improved
technologies in the areas of graphics, sound, digitized speech, music and video.
Such research and development must occur well in advance of the release of new
hardware platforms in order to allow sufficient lead time to develop and
introduce new Software titles on a timely basis. This generally requires the
Company to predict the probable success of hardware platforms as much as 12 to
24 months prior to the release of compatible Software.
Substantially all of the Company's revenues in fiscal 1997 and in the first
nine months of fiscal 1998 were derived from the sale of titles designed to be
played on the N64, PlayStation, Sega Saturn and various Multimedia PCs. At any
given time, the Company has expended significant development and marketing
resources on product development for platforms (such as the 16-bit SNES and Sega
Genesis platforms) that could have shorter life cycles than the Company
expected, as in fiscal 1996, or on Software titles designed for new platforms
that have not yet achieved large installed bases. If the Company does not
accurately predict the success, size of the installed base and life cycle of
existing or future hardware platforms due to, among other things, the long
Software development lead times involved, it could be in the position, as it was
in fiscal 1996 and 1997, of marketing Software for (i) new hardware platforms
that have not yet achieved significant market penetration and/or (ii) hardware
platforms that have become or are becoming obsolete due to the introduction or
success of new hardware platforms. There can be no assurance that the Company
will be able to predict accurately such matters, and its failure to do so would
have a material adverse effect on the Company.
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Failure to develop Software titles for hardware platforms that achieve
significant market acceptance, discontinuance of development for a platform that
has a longer than expected life cycle, development for a platform that does not
achieve a significant installed base or continued development for a platform
that has a shorter than expected life cycle, may have a material adverse effect
on the Company's business, financial condition and operating results.
The Company's results of operations and cash flows were materially
adversely affected during the fiscal years ended August 31, 1996 and 1997 by the
material decline in sales of the Company's 16-bit Software and the transition to
the new hardware platforms described herein. The Company is currently developing
Software for the Nintendo N64, the Sony PlayStation and Multimedia PCs. There
are a significant number of Software titles for the Entertainment Platform
market competing for limited shelf space. In addition, the 32- and 64-bit
Entertainment Platforms have not yet achieved market penetration similar to that
of the 16-bit Entertainment Platforms (Nintendo SNES and Sega Genesis);
accordingly, the number of units of each Software title sold for these newer
Entertainment Platforms is significantly less than the number of units of a
title generally sold during 1993, 1994 and 1995 for the 16-bit Entertainment
Platforms. Based on publicly available information and its own estimates, the
Company believes that the installed base of 32- and 64-bit Entertainment
Platforms in the United States was between approximately 6 and 7 million units
and between approximately 17 and 18 million units at the end of calendar 1996
and 1997, respectively. Although the Company anticipates that such installed
base will continue to grow in calendar 1998 and that the Company's revenues in
fiscal 1998 from sales of Software therefor will be higher than in fiscal 1997,
the Company's revenues from sales of Software for the new Entertainment
Platforms in fiscal 1998 will not be comparable to its revenues from sales of
16-bit Software in fiscal 1994 or 1995. No assurance can be given that the
installed base of any of the new Entertainment Platforms will grow substantially
or that any of them will achieve market penetration similar to that achieved by
the Nintendo SNES and Sega Genesis Entertainment Platforms.
Revenue and Earnings Fluctuations; Seasonality
The Company has historically derived substantially all of its revenues from
the publication and distribution of Software for then dominant hardware
platforms. The Company's revenues are subject to fluctuation during transition
periods, as occurred in fiscal 1996 and 1997, when new hardware platforms have
been introduced but none has achieved mass market penetration. In addition, the
Company's earnings are materially affected by the timing of release of new
Software titles produced by the Company. Product development schedules are
difficult to predict due, in large part, to the difficulty of scheduling
accurately the creative process and, with respect to Software for new hardware
platforms, the use of new development tools and the learning process associated
with development for new technologies. Earnings may also be materially impacted
by other factors including, but not limited to, (i) the level and timing of
market acceptance of Software titles, (ii) increases or decreases in development
and/or promotion expenses for new titles and new versions of existing titles,
(iii) the timing of orders from major customers and (iv) changes in shipment
volume.
A significant portion of the Company's revenues in any quarter is generally
derived from sales of new Software titles introduced in that quarter or in the
immediately preceding quarter. If the Company were unable to commence volume
shipments of a significant new product during the scheduled quarter, the
Company's revenues and earnings would likely be materially and adversely
affected in that quarter. In addition, because a majority of the unit sales for
a product typically occur in the first 90 to 120 days following the introduction
of the product, the Company's earnings may increase significantly in a period in
which a major product introduction occurs and may decline in the following
period or in periods in which there are no major product introductions. Certain
operating expenses are fixed and do not vary directly in relation to revenue.
Consequently, if net revenue is below expectations, the Company's operating
results are likely to be materially and adversely affected.
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The interactive entertainment industry is highly seasonal. Typically, net
revenues are highest during the last calendar quarter (which includes the
holiday buying season), decline in the first calendar quarter, are lower in the
second calendar quarter and increase in the third calendar quarter. The seasonal
pattern is due primarily to the increased demand for Software during the
year-end holiday buying season. The Company's earnings, however, vary
significantly and are largely dependent on releases of major new titles and, as
such, may not necessarily reflect the seasonal patterns of the industry as a
whole. The Company expects that its operating results will continue to fluctuate
significantly in the future.
Dependence on Entertainment Platform Manufacturers; Need for License Renewals
In the nine months ended May 31, 1997 and 1998, the Company derived 39% and
65% of its gross revenues, respectively, from sales of Nintendo-compatible
Software, 28% and 23% of its gross revenues, respectively, from sales of
Software for the Sony PlayStation and 13% and less than 1% of its gross
revenues, respectively, from sales of Sega-compatible Software. In the three
months ended May 31, 1997 and 1998, the Company derived 60% and 52% of its gross
revenues, respectively, from sales of Nintendo-compatible Software,16% and 30%
of its gross revenues, respectively, from sales of Software for the Sony
PlayStation and 4% and less than 1% of its gross revenues, respectively, from
sales of Sega-compatible Software. Accordingly, the Company is substantially
dependent on Nintendo, Sony and Sega as the sole manufacturers of the
Entertainment Platforms marketed by them and as the sole licensors of the
proprietary information and technology needed to develop Software for those
Entertainment Platforms. The Entertainment Platform manufacturers have in the
past and may in the future limit the number of titles that the Company can
release in any year, which may limit any future growth in sales.
The Company has historically been able to renew and/or negotiate extensions
of its Software license agreements with Entertainment Platform developers.
However, there can be no assurance that, at the end of their current terms, the
Company will continue to be able to do so or that the Company will be successful
in negotiating definitive license agreements with developers of new hardware
platforms. The Company has executed license agreements with Sony with respect to
the PlayStation platform in North America, Japan, Asia and Europe and with
Nintendo with respect to the N64 platform in North and South America and Japan.
The Company also develops and markets N64 Software in Europe under an agreement
with Nintendo. Currently, the Company and Sega are operating in the ordinary
course under the terms of an agreement that expired in December 1995 and, with
respect to the Saturn platform, under an oral agreement and other arrangements.
The inability to negotiate agreements with developers of new Entertainment
Platforms or the termination of all of the Company's license agreements or other
arrangements will, and the termination of any one of the Company's license
agreements or other arrangements could, have a material adverse effect on the
Company's financial position and results of operations.
The Company depends on Nintendo, Sega and Sony for the protection of the
intellectual property rights to their respective Entertainment Platforms and
technology and their ability to discourage unauthorized persons from producing
Software for the Entertainment Platforms developed by each of them. The Company
also relies upon the Entertainment Platform manufacturers for the manufacture of
certain cartridge and CD-based read-only memory (" ROM") Software.
Reliance on New Titles; Product Delays
The Company's ability to maintain favorable relations with retailers and to
receive the maximum advantage from its advertising expenditures is dependent in
part on its ability to provide retailers with a timely and continuous flow of
product. The life cycle of a Software title generally ranges from less than
three months to upwards of twelve months, with the majority of sales occurring
in the first 90 to 120 days after release. The Company generally actively
markets its 10 to 15 most recent releases. Accordingly, the Company is
constantly required to develop, introduce and sell new Software in order to
generate revenue and/or to replace declining revenues from previously released
titles. In addition, consumer
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preferences for Software are difficult to predict, and few titles achieve
sustained market acceptance. There can be no assurance that new titles
introduced by the Company will be released in a timely fashion, will achieve any
significant degree of market acceptance, or that such acceptance will be
sustained for any meaningful period. Competition for retail shelf space,
consumer preferences and other factors could result in the shortening of the
life cycle for older titles and increase the importance of the Company's ability
to release titles on a timely basis.
The Company's current production schedules contemplate that the Company
will commence shipment of a number of new titles during the remainder of fiscal
1998. Shipment dates will vary depending on the Company's own quality assurance
testing, as well as that by the applicable dedicated platform manufacturer, and
other development factors. The Company generally submits new games to the
dedicated platform manufacturers and other intellectual property licensors for
approval prior to development and/or manufacturing. Rejection as a result of
bugs in Software or a substantial delay in the approval of a product by an
Entertainment Platform manufacturer or licensor could have a material
adverse effect on the Company's financial condition and results of operations.
In the past, the Company has experienced significant delays in the introduction
of certain new titles. There can be no assurance that such delays will not occur
or materially adversely affect the Company in the future. It is likely that in
the future certain new titles will not be released in accordance with the
Company's internal development schedule or the expectations of public market
analysts and investors. A significant delay in the introduction of, or the
presence of a defect in, one or more new titles could have a material adverse
effect on the ultimate success of such product. If the Company is not able to
develop, introduce and sell new competitive titles on a timely basis, its
results of operations and profitability would be materially adversely affected.
Reliance on 'Hit' Titles
The market for Software is 'hits' driven and, accordingly, the Company's
future success is dependent in large part on its ability to develop and market
'hit' titles for hardware platforms with significant installed bases. During the
quarter ended May 31, 1998, sales of the Company's top two titles accounted for
approximately 64% of the Company's gross sales for that period. There can be no
assurance that the Company will be able to publish 'hit' titles for hardware
platforms with significant installed bases and, if it is unable to do so for any
reason, its financial condition, results of operations and profitability could
be materially adversely affected, as they were in fiscal 1996 and 1997.
Inventory Management; Risk of Product Returns
The Company is generally not contractually obligated to accept returns,
except for defective product. However, the Company permits its customers to
return or exchange inventory and provides price protection or other concessions
for excess or slow-moving inventory. Management must make estimates and
assumptions that affect the reported amounts of assets and liabilities and
disclosure of contingent assets and liabilities at the date of the financial
statements and the reported amounts of revenues and expenses during the
reporting periods.
Among the more significant of such estimates are allowances for estimated
returns, price concessions and other discounts. At the time of shipment, the
Company establishes reserves in respect of such estimates taking into account
the potential for product returns and other discounts based on historical return
rates, seasonality, retail inventories and other factors. In fiscal 1996, price
protection, returns and exchanges were materially higher than the Company's
reserves therefor, as a result of which the Company's results of operations and
liquidity in fiscal 1996 were materially adversely affected. The Company
believes that, at May 31, 1998, it has established adequate reserves for future
price protection, returns, exchanges and other concessions but there can be no
assurance that the Company's reserves therefor will not be exceeded, which event
would have a material adverse effect on the Company's financial condition and
results of operations.
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In addition, the Company has offered and anticipates that it will continue
to offer stock-balancing programs for its Multimedia PC Software. The Company
has established reserves for such programs, which have not been material to
date. No assurance can be given that future stock-balancing programs will not
become material and/or will not exceed the Company's reserves for such programs
and, if so exceeded, the Company's results of operations and financial condition
could be materially adversely affected.
Increased Product Development Costs
In order to manage its Software development process and to ensure access to
a pool of Software developers, development tools and engines in an increasingly
competitive market, the Company acquired three Software studios in calendar
1995. The result of such acquisitions was that commencing in fiscal 1996 the
Company's fixed Software development and overhead costs were significantly
higher as compared to historical levels. These costs further contributed to the
Company's results of operations and profitability being materially adversely
affected in fiscal 1996 and 1997. Although the Company has consolidated certain
of its studio operations to reduce their overhead expenses, no assurance can be
given that such costs will not continue to have a material adverse effect on the
Company's operations in future periods.
Competition
The market for consumer Software is highly competitive. Only a small
percentage of titles introduced in the Software market achieve any degree of
sustained market acceptance. Competition is based primarily upon quality of
titles, price, access to retail shelf space, product enhancements, ability to
operate on popular platforms, availability of titles (including 'hits'), new
product introductions, marketing support and distribution systems.
The Company competes with a variety of companies which offer products that
compete directly with one or more of the Company's titles. Typically, the
Company's chief competitor on an Entertainment Platform is the hardware
manufacturer of the platform, to whom the Company pays royalties and, in some
cases, manufacturing charges. Accordingly, the hardware manufacturers have a
price, marketing and distribution advantage with respect to Software marketed by
them and such advantage is particularly important in a mature or declining
market which supports fewer full-priced titles and is characterized by customers
who make purchasing decisions on titles based primarily on price (as compared to
developing markets with limited titles, when price has been a less important
factor in Software sales). The Company's competitors vary in size from very
small companies with limited resources to very large corporations with greater
financial, marketing and product development resources than the Company, such as
Nintendo, Sega and Sony. The Company's competitors also include a number of
independent Software publishers licensed by the hardware manufacturers.
Additionally, the entry and participation of new industries and companies,
including diversified entertainment companies, in markets in which the Company
competes may adversely affect the Company's performance in such markets. The
availability of significant financial resources has become a major competitive
factor in the Software industry, principally as a result of the technical
sophistication of advanced Entertainment Platform and Multimedia PC Software
requiring substantial investments in research and development. In particular,
many of the Company's competitors are developing on-line interactive computer
games and interactive networks that will be competitive with the Company's
Software. As competition increases, significant price competition and reduced
profit margins may result. In addition, competition from new technologies may
reduce demand in markets in which the Company has traditionally competed.
Prolonged price competition or reduced demand as a result of competing
technologies would have a material adverse effect on the Company's business,
financial condition and operating results. No assurance can be given that the
Company will be able to compete successfully.
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Intellectual Property Licenses and Proprietary Rights
To date, most of the Company's Software incorporates for marketing purposes
properties or trademarks owned by third parties, such as the National Basketball
Association, the National Football League or their respective players'
associations, which properties are licensed to the Company. In addition, the
Company in the past has obtained agreements with independent developers for the
development of a significant portion of its Software and, in such cases, the
Company usually acquires copyrights to the underlying Software and obtains the
exclusive right to such Software for a period of time and may have a limited
period in which to market and distribute Software. To the extent future product
releases are not derived from the Company's proprietary properties, the
Company's future success will also be dependent upon its ability to procure
licenses for additional popular intellectual properties. There is intense
competition for such licenses, and there can be no assurance that the Company
will be successful in acquiring additional intellectual property rights with
significant commercial value. There can be no assurance that such licenses will
be available on reasonable terms or at all.
The Company relies primarily on a combination of copyrights, trade secret
laws, patent and trademark laws, nondisclosure agreements and other copy
protection methods to protect its product and proprietary rights. It is the
Company's policy that all employees and third-party developers sign
nondisclosure agreements. There can be no assurance that these measures will be
sufficient to protect the Company's intellectual property rights against
infringement. The Company has 'shrinkwrap' license agreements with the end users
of its Multimedia PC titles, but the Company relies on the copyright laws to
prevent unauthorized distribution of its other Software. Existing copyright laws
afford only limited protection. However, notwithstanding the Company's rights to
its Software, it may be possible for third parties to copy illegally the
Company's products or to reverse engineer or otherwise obtain and use
information that the Company regards as proprietary. Illegal copying occurs
within the Software industry, and if a significant amount of illegal copying of
the Company's published products or products distributed by it were to occur,
the Company's business, operating results and financial condition could be
materially adversely affected. Policing illegal use of the Company's Software is
difficult, and Software piracy can be expected to be a persistent problem.
Further, the laws of certain countries in which the Company's products are or
may be distributed do not protect the Company and its intellectual property
rights to the same extent as the laws of the United States.
The Company believes that its Software, trademarks and other proprietary
rights do not infringe on the proprietary rights of third parties. However, as
the number of products in the industry increases, the Company believes that
claims and lawsuits with respect to Software infringement will increase. From
time to time, third parties have asserted that features or content of certain of
the Company's products may infringe upon intellectual property rights of such
parties, and the Company has asserted that third parties have likewise infringed
the Company's proprietary rights; certain of these claims have resulted in
litigation by and against the Company. To date, no such claims have had an
adverse effect on the Company's ability to develop, market or sell its products.
There can be no assurance that existing or future infringement claims by or
against the Company will not result in costly litigation or require the Company
to license the intellectual property rights of third parties. See "Legal
Proceedings."
The owners of intellectual property licensed by the Company generally
reserve the right to protect such intellectual property against infringement.
International Sales
International sales represented approximately 54% and 42% of the Company's
net revenues for the three months ended May 31, 1997 and 1998, respectively, and
approximately 50% and 43% of the Company's net revenues for the nine months
ended May 31, 1997 and 1998, respectively. The Company expects that
international sales will continue to account for a significant portion of its
net revenues in future periods. International sales are subject to inherent
risks, including unexpected
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changes in regulatory requirements, tariffs and other economic barriers,
fluctuating exchange rates, difficulties in staffing and managing foreign
operations and the possibility of difficulty in accounts receivable collection.
Because the Company believes exposure to foreign currency losses is not
currently material, the Company currently has no formal financial instruments in
place as a hedge against foreign currency risks. In some markets, localization
of the Company's products is essential to achieve market penetration. The
Company may incur incremental costs and experience delays in localizing its
products. These or other factors could have a material adverse effect on the
Company's future international sales and, consequently, on the Company's
business, operating results and financial condition.
Dependence on Key Personnel and Employees
The interactive entertainment industry is characterized by a high level of
employee mobility and aggressive recruiting among competitors for personnel with
technical, marketing, sales, product development and management skills. The
ability to identify, hire and retain such personnel is essential to the
Company's success. No assurance can be given that the Company will be able to
attract and retain such personnel or that it will not experience significant
cost increases in order to do so.
In particular, the Company is highly dependent upon the management services
of Gregory Fischbach, Co-Chairman of the Board and Chief Executive Officer, and
James Scoroposki, Co-Chairman of the Board and Senior Executive Vice President,
of the Company. The loss of the services of any of the Company's senior
management could have a material adverse effect on the Company's business,
operating results and financial condition. Although the Company has employment
agreements with Messrs. Fischbach and Scoroposki, there can be no assurance that
such employees will not leave or compete with the Company. The Company's failure
to attract additional qualified employees or to retain the services of key
personnel could materially and adversely affect the Company's business,
operating results and financial condition.
Anti-Takeover Provisions
The Company's Board of Directors has the authority (subject to certain
limitations imposed by the Indenture) to issue shares of preferred stock and to
determine the designations, preferences and rights and the qualifications or
restrictions of those shares without any further vote or action by the
stockholders. The rights of the holders of Common Stock will be subject to, and
may be adversely affected by, the rights of the holders of any preferred stock
that may be issued in the future. The issuance of preferred stock, while
providing desirable flexibility in connection with possible acquisitions and
other corporate actions, could have the effect of making it more difficult for a
third-party to acquire a majority of the outstanding voting stock of the
Company. In addition, the Company is subject to the anti-takeover provisions of
Section 203 of the Delaware General Corporation Law. In general, this statute
prohibits a publicly held Delaware corporation from engaging in a 'business
combination' with an 'interested stockholder' for a period of three years after
the date of the transaction in which the person became an interested
stockholder, unless the business combination is approved in a prescribed manner.
Employment arrangements with certain members of the Company's management provide
for severance payments upon termination of their employment after a 'change in
control' of the Company as defined in such agreements.
Volatility of Stock Price
There has been a history of significant volatility in the market prices of
companies engaged in the Software industry, including the Company. It is likely
that the market price of the Common Stock will continue to be highly volatile.
Factors such as the timing and market acceptance of product introductions by the
Company, the introduction of products by the Company's competitors, loss of key
personnel of the Company, variations in quarterly operating results or changes
in market conditions in the Software industry generally may have a significant
impact on the market price of the Common Stock.
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In the past, the Company has experienced significant fluctuations in its
operating results and, if the Company's future revenues or operating results or
product releases do not meet the expectations of public market analysts and
investors, the price of the Common Stock would likely be materially adversely
affected. In addition, the stock market has experienced and continues to
experience extreme price and volume fluctuations which have affected the market
price of Software companies and companies in the interactive entertainment
industry and which have often been unrelated to the operating performance of
these companies.
Because of the foregoing factors, as well as other factors affecting the
Company's operating results and financial condition, past financial performance
should not be considered a reliable indicator of future performance, and
investors should not use historical trends to anticipate results or trends in
future periods.
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PART II - OTHER INFORMATION
Item 1. LEGAL PROCEEDINGS
The Company and certain of its current and former directors and/or
executive officers were sued in various complaints filed in December 1995, which
were consolidated into an action entitled In re: Acclaim Ent. Shareholder
Litigation, 95 Civ. 4979, (E.D.N.Y.) (TCP) in the United States District Court
in the Eastern District of New York. The plaintiffs, on behalf of a class of the
Company's stockholders, claimed unspecified damages arising from the Company's
December 4, 1995 announcement that it was revising results for the fiscal year
ended August 31, 1995 to reflect a decision to defer $18 million of revenues and
$10.5 million of net income previously reported on October 17, 1995 for the
fiscal year ended August 31, 1995. The parties executed a settlement agreement,
which was approved by the court, and the action was dismissed. The Company is
required to deliver the settlement amount, which consists of convertible
securities, after the plaintiffs' lawyers have delivered an allocation schedule
to the Company.
By summons and complaint dated December 11, 1995, certain of the Company's
current and former directors and/or executive officers were named as defendants,
and the Company was named as a nominal defendant, in a shareholder derivative
action entitled Eugene Block v. Gregory E. Fischbach, James Scoroposki, Robert
Holmes, Bernard J. Fischbach, Michael Tannen, Robert H. Groman and James
Scibelli, defendants, and Acclaim Entertainment, Inc., Nominal Defendant (CV
95-036316) (Supreme Court of the State of New York, County of Nassau) (the
'Derivative Action'). The Derivative Action was brought on behalf of the Company
(as nominal defendant), alleging that the individual defendants violated their
fiduciary duties to the Company in connection with the Company's revision of its
revenues for the fiscal year ended August 31, 1995. Plaintiff alleged that the
individual defendants (1) breached their duty of care and candor, (2) caused the
Company to waste corporate assets, and (3) breached their duty of good faith,
and, accordingly, sought unspecified damages. The parties executed a settlement
agreement, which was approved by the court, and the action was dismissed. The
Company is required to institute certain corporate procedures in accordance with
the terms of the settlement agreement, and has commenced the process therefor.
The Company's subsidiary, Lazer-Tron, was sued in an action entitled Eric
Goldstein, on behalf of himself and all others similarly situated, v. Lazer-Tron
Corporation, Norman B. Petermeier, Matthew F. Kelly, Bryan M. Kelly, Morton
Grosser, Bob K. Pryt and Roger V. Smith (V-009846-7) in the Superior Court of
the State of California, County of Alameda, Eastern Division. The plaintiffs
alleged, among other things, breach of fiduciary duty, abuse of control,
negligence and negligent misrepresentation. In addition, certain former
directors and officers of Lazer-Tron were named as defendants in an action
entitled Adrienne Campbell, individually and on behalf of all others similarly
situated, v. Norman B. Petermeier, Matthew F. Kelly, Bryan M. Kelly, Morton
Grosser, Bob K. Pryt, Roger V. Smith and Does 1 through 50, inclusive, Civil No.
760717-4, in the Superior Court of the State of California, County of Alameda.
The plaintiffs, on behalf of a class of Lazer-Tron's shareholders, claimed
damages based on allegations that, as a result of lack of due diligence by the
named defendants in fully investigating the proposed acquisition by the Company
of Lazer-Tron, the defendants breached their fiduciary duties to Lazer-Tron's
shareholders. These two actions were consolidated (as so consolidated, the
"Lazer-Tron State Actions").
The Company and certain of its current and former directors and/or
executive officers also were defendants in an action entitled Adrienne Campbell
and Donna Sizemore, individually and on behalf of all others similarly situated,
v. Acclaim Entertainment, Inc., Anthony R. Williams, James Scoroposki, and
Robert Holmes (the "Campbell Action"), C-95-04395 (EFL), which was commenced in
the United States District Court for the Northern District of California. In
that action, plaintiffs, two former shareholders of Lazer-Tron, filed a class
action complaint on December 8, 1995 on behalf of all former Lazer-Tron
shareholders who exchanged their Lazer-Tron stock for Common Stock pursuant to
the August 31, 1995 merger transaction. Plaintiffs alleged violations of
Sections 10(b), 14(a) and 14(e) of the Securities
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Exchange Act of 1934, Sections 11 and 12(2) of the Securities Act of 1933, fraud
and breach of fiduciary duty. On October 8, 1996, the Judicial Panel on
Multidistrict Litigation ordered the transfer of the Campbell Action from the
Northern District of California to the United States District Court for the
Eastern District of New York for coordinated or consolidated pretrial
proceedings with the action entitled In re Acclaim Ent. Shareholder Litigation
discussed above.
The parties to the Lazer-Tron State Actions and the Campbell Action entered
into a settlement agreement. The settlement was approved by the Superior Court
of the State of California, which also dismissed the Lazer-Tron State Actions.
The Eastern District of New York dismissed the Campbell Action. The Company is
required to deliver the settlement amount, which consists of convertible
securities, after the plaintiffs' lawyers have delivered an allocation schedule
to the Company.
The Company and certain of its current and former directors and/or
executive officers were sued in various complaints filed in April 1994, which
were consolidated into an action entitled In re Acclaim Entertainment, Inc.
Securities Litigation (CV 94 1501) (the "WMS Action"). The plaintiffs, on behalf
of a class of the Company's stockholders, consisting of all those who purchased
the Common Stock for the period January 4, 1994 to March 30, 1994, claim damages
arising from (i) the Company's alleged failure to comply with the disclosure
requirements of the securities laws in respect of the Company's relationship
with WMS Industries Inc. ("WMS") and the status of negotiations on and the
likelihood of renewal of an agreement with WMS, pursuant to which WMS granted
the Company a right of first refusal to create software for 'computer games',
'home video games' and 'handheld game machines' based on arcade games released
by WMS through March 21, 1995, (ii) statements made by the Company's
representative that rumors relating to the nonrenewal of the agreement were
'unsubstantiated' and that talks between the Company and WMS were continuing,
which allegedly were materially false and misleading, and (iii) a claim that the
defendants should have disclosed the likely nonrenewal of the agreement. The
parties have executed a settlement agreement, which is subject to court
approval.
The Company has also asserted a third-party action against its insurance
company, Mt. Hawley Insurance Company ("Mt. Hawley"), based on Mt. Hawley's
disclaimer of coverage for liability from the WMS Action and for fees and
expenses up to the amount of the policy incurred in connection with the defense
of the WMS Action. In connection with the settlement of the WMS Action, the
Company has agreed to assign to the plaintiffs in the WMS Action 50% of the
proceeds, if any, recovered from Mt. Hawley.
The Securities and Exchange Commission (the "Commission") has issued orders
directing a private investigation relating to, among other things, the Company's
earnings estimate for fiscal 1995 and its decision in the second quarter of
fiscal 1996 to exit the 16-bit portable and cartridge markets. The Company has
provided documents to the Commission, and the Commission has taken testimony
from Company representatives. The Company intends fully to cooperate with the
Commission in its investigation. No assurance can be given as to whether there
will be any litigation or, if so, as to the outcome of this matter.
The New York State Department of Taxation and Finance (the "Department"),
following a field audit of the Company with respect to franchise tax liability
for its fiscal years ended August 31, 1989, August 31, 1990 and August 31, 1991,
has notified the Company that a stock license fee (plus interest and penalties)
of approximately $1.9 million, relating to the Company's outstanding capital
stock as of 1989, is due to the State. The Company is contesting the fee and a
petition denying liability has been filed. No assurance can be given as to the
outcome of this matter.
The Company is also party to various litigations arising in the course of
its business, the resolution of none of which, the Company believes, will have a
material adverse effect on the Company's liquidity or results of operations.
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In conjunction with claims arising from certain of the Company's
acquisitions and then pending litigations and claims for which the settlement
obligation was probable and estimable, the Company recorded a charge of $23.6
million during the year ended August 31, 1997. If the settlement terms of such
litigations and claims are not documented or approved as currently anticipated,
the Company may be required to record additional charges in future periods. See
Note 6 of Notes to Consolidated Financial Statements.
A portion of any settlement or award arising from or out of one or more of
the above litigations may be covered by the Company's insurance.
Item 2. CHANGES IN SECURITIES AND USE OF PROCEEDS.
In May 1998, the Company issued 15,000 shares of Common Stock to an
employee pursuant to a restricted stock purchase agreement for an aggregate
consideration of $300. The shares were issued pursuant to an exemption from
registration provided by Section 4(2) of the Securities Act of 1933. No
underwriter was involved in such issuance.
Item 6. EXHIBITS AND REPORTS ON FORM 8-K
(a) Exhibits
None
(b) Reports on Form 8-K
None.
30
<PAGE>
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.
ACCLAIM ENTERTAINMENT, INC.
By: Gregory Fischbach June 30, 1998
-----------------
Gregory Fischbach
Co-Chairman of the Board;
Chief Executive Officer;
President; Director
By: James Scoroposki June 30, 1998
----------------
James Scoroposki
Co-Chairman of the Board;
Executive Vice President;
Treasurer; Secretary;
Director; and Acting
Chief Financial and
Accounting Officer
31
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