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SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 8-K/A
CURRENT REPORT
PURSUANT TO SECTION 13 OR 15(d) OF
THE SECURITIES EXCHANGE ACT OF 1934
Date of Report (Date of earliest event reported): March 28, 1997
T-HQ, INC.
(Exact name of registrant as specified in charter)
New York
(State or other jurisdiction
of incorporation or organization)
Commission File Number: 0-18813
13-3541686
(I.R.S. employer identification no.)
5016 North Parkway Calabasas
Calabasas, California 91302
(Address of principal executive
offices, including zip code)
(818) 591-1310
(Registrant's telephone number,
including area code)
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Item 7. Financial Statements and Exhibits.
Exhibits
99.1 Cautionary Statement regarding forward-looking Statements
SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934, as
amended, the Registrant has duly caused this report to be signed on its behalf
by the undersigned, thereto duly authorized.
T-HQ, INC.
By: /s/ BRIAN J. FARRELL
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Brian J. Farrell, President and
Chief Executive Officer
Date: March 28, 1997
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EXHIBIT 99.1
In connection with the "safe harbor" provisions of the Private
Securities Litigation Reform Act of 1995, T-HQ, Inc. (the "Company") wishes to
caution readers that the Company has made and makes forward-looking statements
regarding the intent, belief or current expectations of the Company and its
management. Prospective investors are cautioned that any such forward-looking
statements involve risks and uncertainties, and that the actual results may
differ materially from those in the forward-looking statements as a result of
various uncertainties, including uncertainties relating to the interactive
entertainment software industry and other factors, including without limitation,
the following important factors, which, in some cases have affected and in the
future could affect the Company's actual results and could cause such results to
differ materially from those expressed in forward-looking statements made by or
on behalf of the Company.
ACQUISITION OF PROPERTIES AND DEVELOPMENT OF NEW TITLES
The Company's continuing profitability is a direct result of its ability
to timely develop and sell new Titles to replace declining revenues from older
Titles. Consumer preferences for interactive entertainment software
("Software") are difficult to predict, and few Software titles achieve sustained
market acceptance. If revenues from new Titles fail to replace declining
revenues from existing Titles, the Company would be materially and adversely
affected.
The development of new Titles is dependent in substantial part upon the
Company's identification and exploitation in a timely manner of Titles based
upon entertainment projects (such as movies, television programs and arcade
games), sports and entertainment personalities, or popular sports, trends or
concepts ("Properties") that have high public visibility or recognition or that
reflect the trends of popular culture. The determination of which Titles the
Company should develop is highly subjective and there can be no assurances that
any new Title will be successful. In addition, the Company is in competition
with numerous other Software companies for licenses to develop Software based on
such Properties. To the extent competition intensifies for licenses to highly
desirable Properties, the Company may encounter increased difficulty in
obtaining these licenses. The failure of the Company to accurately identify
and secure the rights to Properties that are or will become popular would have
a material adverse effect on the Company.
Properties generate significant public interest for periods that are
unpredictable and short. Consequently, the Company's commercially successful
Titles may be marketable in material quantities for only a limited time, often
for less than six months. As is typical of Software, the life cycle of a Title
generally consists of a relatively high level of sales during the first few
months after introduction, followed by market saturation and a decline in sales.
Accordingly, substantially all of the Company's net sales for a particular year
are generated by Titles released in that year. In some instances, a sales
decline may also be accompanied by decreasing sales prices, which may result in
credits or allowances to the Company's customers. See "-- Discounts, Allowances
and Returns; Inventory Management." In addition, the development cycle for new
Titles, including the development of the necessary game software, approval by
the Manufacturer and production of the initial cartridges or CD-ROMs, typically
has ranged from nine to 18 months. During such period, the market appeal of a
Title may decline. To the extent the Company experiences delays in the
development or shipments of new Titles, or if new Titles are not successful in
the market, the Company would be materially and adversely affected.
For the reasons set forth above, there can be no assurance that the
Company will be able to release Titles scheduled for release within such
scheduled time period or at all, or that the Company will be able to secure the
rights to new Titles at a rate that will maintain the Company's current
development and release schedule.
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DISCOUNTS, ALLOWANCES AND RETURNS; INVENTORY MANAGEMENT
Although the Company's arrangements with its distributors and retailers
generally do not give such customers the right to return manufactured products
embodying the Titles (the "Products") to the Company (other than defective
Products) or to cancel firm orders, the Company often negotiates accommodations
to retailers (and, less often, to distributors) when demand for specific items
falls below expectations for the purpose of maintaining its relationships with
its customers. Such accommodations consist of acquiescing to the customer's
request that not all booked orders be filled or that not all shipped orders be
accepted, negotiated price discounts, credits against future orders and, less
often, the return of Products to the Company. It is the Company's practice to
accept all returns of defective or damaged Products.
At the time of Product shipment, the Company establishes provisions
against the gross revenues generated by such shipment based on estimates of
future returns of, and other customer accommodations that may be granted with
respect to, such Products, based on the Company's historical experience,
retailer inventories and the Titles and other factors. For the years ended
December 31, 1995 and 1996, provisions of approximately $4.1 million and $5.2
million, respectively, were taken against gross sales made during such periods,
and as of December 31, 1996, the Company's aggregate reserve against accounts
receivable for returns and customer accommodations was approximately $4.4
million.
The Company cannot predict the amount or nature of accommodations that
will be provided to its customers in future periods. Although the Company
believes its reserves are adequate with respect to such matters, there can be
no assurance that actual returns and other customer accommodations will not
exceed the reserves established. To the extent such accommodations were to
exceed the Company's reserves, the Company would be adversely affected.
The identification by the Company of slow-moving or obsolete inventory,
whether as a result of requests from customers for accommodations or otherwise,
would require the Company to establish reserves against such inventory or to
write-down the value of such inventory to its estimated net realizable value.
In 1993 and 1994 the Company incurred material charges to income as a result of
such write-downs, but has not experienced such problems subsequent to those
periods. While the Company believes that substantially all of its current
inventory is saleable in the ordinary course, there can be no assurance that in
the future the Company will not be required to incur charges related to
slow-moving or obsolete inventory.
REVENUE FLUCTUATIONS AND SEASONALITY
The Company has experienced and may continue to experience significant
quarterly fluctuations in net sales and operating results due to a variety of
factors, including the timing of new Titles by the Company, the popularity of
both new Titles and Titles released in prior periods, fluctuations in the mix
of Titles with varying profit margins, the timing of customer orders, the
timing of shipments by the Manufacturers, fluctuations in the size and rate of
growth of consumer demand for Software for various hardware platforms
("Platforms"), the timing of the introduction of new Platforms and the accuracy
of retailer's forecasts of consumer demand. The Company's expenses are based,
in part, on its expectations of future revenues and, as a result, operating
results would be disproportionately and adversely affected by a decrease in
sales or a failure by the Company to meet its sales expectations. In addition,
the Software market is highly seasonal, with sales typically significantly
higher during the fourth quarter (due primarily to the increased demand for
interactive games during the year-end holiday buying season). There can be no
assurance that the Company can maintain consistent profitability on a quarterly
or annual basis.
CUSTOMER CONCENTRATION AND CREDIT RISK
Sales to the Company's ten largest customers collectively accounted for
approximately 52% or the Company's gross sales in 1995 and 54% of the Company's
gross sales in 1996. Toys "R" Us, Wal-Mart and Kay Bee accounted for
approximately 12%, 10% and 7%, respectively, of the Company's gross sales in
1995. For the year ended December 31, 1996, Toys "R" Us, Wal-Mart and Target
accounted for 12%, 8% and 8% of the Company's gross sales, respectively. The
Company has no written agreement or other understanding with any of its
customers that relate to future purchases by such customers, and thus such
purchases could be terminated at any time. A termination of or other
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adverse change in the Company's relationship with any of its largest customers
would have a material adverse effect on the Company.
The Company's sales of Products are typically made on credit, with terms
that vary depending upon the customer and demand for such Products. The Company
does not hold any collateral to secure payment by its customers, and currently
does not factor any of its receivables. Thus, the Company bears the risk of its
customers' and distributors' inability to pay such receivables or the effect of
any delay in such payment. Retailers and distributors compete in a volatile
industry and are subject to the risk of business failure. A business failure by
any of the Company's largest customers would have, and a business failure by any
of the Company's distributors or other retailers could have, a material adverse
effect on the Company.
RISKS ASSOCIATED WITH TITLES FOR MULTIMEDIA PERSONAL COMPUTERS AND PROPRIETARY
TITLES
In 1996, the Company acquired Heliotrope Studios, Inc. ("Heliotrope") in
order to expand its offerings of interactive games and to enable the Company to
develop Titles for the multimedia personal computer ("PC") market. While the
principals of Heliotrope have certain experience developing and marketing CD-ROM
games for PCs, prior to this acquisition the Company had no experience in this
segment of the Software market. The development and marketing of such Titles
can be expected to subject the Company to risks in addition to those encountered
in the operation of the Company's historical business, some of which may not be
anticipated by the Company. Such risks include the ability to accurately
predict which Titles have appeal to the purchasers of interactive games for PCs,
greater reliance on distributors in order to obtain retail distribution, and the
greater retailer returns experienced for CD-ROMs for PCs. There can be no
assurance that the Company will be able to successfully develop and market
Titles for the PC market.
In 1997, the Company expects to release its first proprietary Title,
Pax Imperia: Eminent Domain, an intergalactic strategy game. The Company's
strategy includes acquiring or developing other Properties that are proprietary
to the Company. The developing and marketing of such Titles can also be
expected to subject the Company to additional risks, including the risk that
Titles that do not have high public visibility or recognition will have more
limited market appeal.
GROWTH STRATEGY
From time to time the Company evaluates potential acquisitions of, or
investments in, other Software publishers or developers that the Company
believes will complement or enhance its business. In connection with any such
acquisitions, the Company may incur debt or issue debt or additional equity
securities, depending on market conditions and other factors. There can be no
assurance that the Company will consummate any such acquisitions or investments
or, if consummated, that such acquisitions or investments will prove to be
beneficial to the Company.
DEPENDENCE ON THE PLATFORM MANUFACTURERS
The Company is wholly dependent on the Manufacturers and its licenses
with the Manufacturers (the "Platform Licenses") for the right to publish
Titles for the Manufacturers' Platforms and for the manufacture of its Titles.
For the year ended December 31, 1995, 79% of the Company's net sales consisted
of Nintendo Titles and 21% consisted of Sega Titles, and for the year ended
December 31, 1996, 76% of net sales consisted of Nintendo Titles, 14% consisted
of Sega Titles and 10% consisted of Sony Titles. The Company's current Platform
License with Sega limits the Company to introducing three titles for the Sega
Genesis per year of the license. In addition, the Company's Platform License
with Sony, and with Nintendo 64 require that the Company obtain approval for the
publication of new Titles on a title-by-title basis. As a result, the number of
Titles the Company is able to publish for these Platforms, and thus the
Company's revenues from Titles for these Platforms, may be limited.
In the event that, at the end of the term of the current Platform
License with a Manufacturer, such Manufacturer chooses not to renew or extend
such agreement, or if a Manufacturer were to terminate such license for any
reason, the
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Company would be unable to publish additional Titles for such Manufacturer's
Platform, which would materially and adversely affect the Company.
Each of the Manufacturers is the sole manufacturer of the Products
published by the Company under license from such Manufacturer. The Platform
Licenses provide that such Manufacturer may raise prices for the Titles at any
time and include other provisions giving the Manufacturer substantial control
over the Company's release of new Titles. Furthermore, the relatively long
manufacturing cycle for cartridge-based Products (from 30 to 75 days) requires
the Company to accurately forecast retailer and consumer demand for its
Titles. Since each of the Manufacturers is also a publisher of Software for
its own Platforms, and also manufactures products for all of their other
licensees, the Manufacturers may give priority to their own products or those
of other publishers in the event of insufficient manufacturing capacity. If
the Company experiences unanticipated delays in the delivery of Products for
these or any other reasons, the Company would be materially and adversely
affected.
RECOVERY OF PREPAID ROYALTIES, GUARANTEES AND CAPITALIZED DEVELOPMENT COSTS
The Company typically enters into agreements with licensors of
Properties and developers of Titles that require advance payments of royalties
and/or guaranteed minimum royalty payments. There can be no assurance that the
sales of Products for which such royalties are paid will be sufficient to cover
the amount of these required royalty payments. The Company capitalizes its
prepaid royalties, and capitalizes software development costs upon the
establishment of technological feasibility of the Title under development.
Amortization of these payments and costs is determined on a title-by-title
basis based on the greater of (i) the ratio of current gross revenues for a
Title to the sum of its current and anticipated gross revenues, or (ii) the
straight-line method over the estimated remaining economic life of the Title.
The Company analyzes such capitalized costs quarterly and writes off as project
abandonment losses these capitalized payments and costs (and expenses any
unpaid guaranteed minimum royalties) when, based on the Company's estimate,
future revenues will not be sufficient to recover such costs. If the Company
were required to write off a material portion of its prepaid royalties or
capitalized development costs, the Company's results of operations could be
adversely affected.
CHANGES IN CONSUMER DEMAND AND TECHNOLOGY
During the approximately 20-year history of the interactive
entertainment industry, there have been periods of significant growth in
consumer interest, followed by periods in which growth has substantially
declined. The Company's sales are dependent, among other factors, on the
popularity and unit sales of Platforms generally, as well as the relative
popularity and unit sales of the Platforms of the various Manufacturers. The
relative popularity of Platforms has experienced wide fluctuations in recent
years. Unexpected declines in the popularity of a particular Platform can be
expected to have a material adverse effect on consumer demand for Titles
released or scheduled for release for such Platform.
The interactive game industry is characterized by rapid technological
change. As a result, the Company must continually anticipate and adapt its
offerings to emerging Platforms and evolving consumer preferences. The
development of Software for new Platforms requires substantial investment.
Generally, such development efforts must occur well in advance of the release
of New Platforms in order to introduce Titles on a timely basis following the
release of such Platforms. The development and marketing of Titles for new
Platforms may require greater financial and technical resources than are
currently available to the Company. In addition, there can be no assurance
that the new Platforms for which the Company develops Titles will achieve
market acceptance and, as a result, there can be no assurance that the
Company's development efforts with respect to such new Platforms will lead to
marketable Titles or Titles that generate sufficient revenues to recover their
development and marketing costs. This risk can be expected to increase in the
future, as continuing increases in development costs require corresponding
increases in net sales in order for the Company to maintain profitability. In
addition, as the Company introduces CD-ROM Titles for PCs, the Company's game
software must maintain compatibility with such computers, their operating
software and their hardware accessories. The failure of the Company to timely
develop titles for new Platforms that achieve significant market acceptance, to
maintain net sales that are commensurate with product development costs, or to
maintain such compatibility would have a material adverse effect on the Company.
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The introduction of new Platforms and technologies can render existing
Software obsolete and unmarketable. More commonly, as more advanced Platforms
are introduced, consumer demand for Software for older Platforms diminishes.
For example, while the Company's experience indicates that competition for
licenses to develop new Titles for 16-bit Platforms is significantly less
intense than for 32-bit and 64-bit Platforms, there can be no assurance that,
as a result of such reduced consumer demand for such Titles, the Company's
titles for 16-bit Platforms will generate sufficient sales to make such Titles
profitable. Despite this diminishing demand, the Company intends to continue
to publish new Titles for older Platforms for so long as the Company believes
there is a significant market for such Titles.
A number of Software publishers who compete with the Company are
currently developing Software for use by consumers over the Internet. While
the Company believes that the market for such Software is currently
insignificant, future increase in the availability of such Software or
technological advances in such Software could result in a decline in
Platform-based Software and thus have a material adverse effect on the Company.
COMPETITION
The interactive entertainment industry is intensely competitive. The
Company competes, for both licenses to Properties and the sale of Software,
with the Manufacturers, each of whom is the largest developer and marketer of
Software for its Platforms. There can be no assurance that these companies
will not increase their own Software development efforts. As a result of their
commanding positions in the industry as the manufacturers of Platforms and
publishers of Software for their Platforms, the Manufacturers generally have
better bargaining positions with respect to retail pricing, shelf space and
purchases than do any of their licensees, including the Company. In addition,
each of the Manufacturers and many of these other competitors (such as Acclaim
Entertainment, Inc., Disney Interactive, Inc., Electronic Arts Inc., GT
Interactive Software Corp., Midway Games Inc. and Microsoft Corporation) have
broader Software lines and greater financial, marketing and other resources
than the Company; these competitive advantages enable such competitors to
market their Software more aggressively and make higher offers or guarantees in
connection with the acquisition of licensed Properties. In addition, as
competition for retail shelf space becomes more intense, the Company may need
to increase marketing expenditures to maintain sales of its Titles; and as
competition for popular Properties increases, the cost of acquiring licenses
for such Properties is likely to increase, resulting in reduced margins.
Prolonged price competition, increased licensing costs or reduced profit
margins would have a material adverse effect on the Company. There can be no
assurance that the Company will be able to compete successfully with the
Manufacturers and their other licensees in the future.
In addition, the market for the Company's products is characterized by
significant price competition, and the Company expects that it will face
increasing pricing pressures from its current and future competitors.
Accordingly, there can be no assurance that the Company will be able to provide
products that compare favorably with the products of the Company's competitors
or that competitive pressures will not require the Company to reduce its prices.
Any material reduction in the price of the Company's products would negatively
affect operating income as a percentage of net revenue and would require the
Company to increase unit sales in order to maintain net revenue.
The Company believes that large diversified entertainment companies, in
addition to large software companies, are increasing their focus on the
interactive entertainment market, which will result in greater competition for
the Company. In particular, many of the Company's competitors are developing
on-line interactive games and interactive networks that will be competitive with
the Company's interactive products. There can be no assurance that the Company
will be able to compete successfully against current or future competitors or
that competitive pressures faced by the Company will not materially and
adversely affect its business, operating results and financial conditions.
DEPENDENCE ON KEY PERSONNEL
The Company relies to a substantial extent on the management, marketing,
sales, technical and software development skills of a limited number of
employees to formulate and implement its business plan, including the
development of its Titles. The Company's success depends upon, to a significant
extent, its ability to attract and retain
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key management and software development personnel. Competition for such
employees is acute and the process of locating key personnel with the
combination of skills and attributes required to execute the Company's strategy
is often lengthy. The loss of services of key personnel could have a material
adverse effect on the Company. The only officer with whom the Company has an
employment agreement is Brian J. Farrell, its President and Chief Executive
Officer.
PROPRIETARY RIGHTS OF THE MANUFACTURERS
The Company depends on the Manufacturers for the protection of
intellectual property rights to their respective Platforms, cartridges and
CD-ROMs, their ability to control the proliferation of new titles by licensees
and others, and their ability to discourage unauthorized persons from producing
Software for their Platforms. There can be no assurance that the Manufacturers
will be able to continue to (i) protect their rights so that the proprietary
information and technology licensed by the Company from the Manufacturers will
not become generally available, (ii) control the proliferation of Software,
(iii) discourage unauthorized persons from producing Software, or (iv) believe
that it is in their best interests to continue any of the foregoing policies.
A change in any of these policies could have a material adverse effect on the
Company.
PROPRIETARY RIGHTS OF THE COMPANY
As a result of the Company's acquisition of Heliotrope, the Company
owns the rights to certain intellectual property with respect to Pax Imperia:
Eminent Domain. However, other than such rights, its licenses from the
Manufacturers to product Titles and its licenses to develop and/or publish
titles based on Properties owned or controlled by others, the Company does not
have any material proprietary rights, technology or intellectual property.
As a result of the proprietary rights of the Manufacturers and the
efforts taken by the Manufacturers to protect such rights, the Company does not
believe that there is a material amount of unauthorized copying of the
Company's Titles. However, unauthorized production occurs in the computer
software industry generally, and were a significant amount of unauthorized
production of the Company's CD-ROM Products for PCs to occur, the Company could
be materially and adversely affected.
FOREIGN SALES AND CURRENCY FLUCTUATIONS
For fiscal years 1995 and 1996, foreign sales represented approximately
26% and 30%, respectively, of the Company's net sales, and the Company expects
that foreign sales will continue to account for a significant portion of its
net sales in future periods. Foreign sales are subject to inherent risks,
including unexpected changes in regulatory requirements, tariffs and other
barriers, difficulties in staffing and managing foreign operations and the
possibility of difficulty in accounts receivable collection. There can be no
assurance that these or other factors will not have an adverse effect on the
Company's future foreign sales.
Because the majority of foreign sales are made in U.S. dollars, the
Company does not believe that foreign currency fluctuations have had a material
effect on its results of operations. To the extent the Company's foreign sales
increase and such sales are not denominated in U.S. dollars, the Company
reported sales and results of operations could be adversely affected by foreign
currency fluctuations. The Company has not engaged in any foreign exchange
hedging activities and does not have any current plans to engage in any such
activities.
LIMITATIONS ON USE OF NET OPERATING LOSS CARRYFORWARDS
At December 31, 1995, for federal income tax purposes the Company had
reported approximately $17.5 million of net operating loss ("NOL")
carryforwards incurred since 1993. The sale of the shares of Common Stock
offered by the Company in its 1997 Public Offering of 1,725,000 shares of
Common Stock resulted in an "ownership change" of the Company for purposes of
Sections 382 and 383 of the Internal Revenue Code of 1986, as amended. As a
result, the
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amount of the NOL carryforward available to reduce the Company's federal income
tax liability in future years in which the Company has taxable income is
limited to an annual amount equal to (i) the fair market value of the Company's
capital stock immediately prior to the consummation of the offering made hereby,
multiplied by (ii) the "long-term tax exempt rate" published by the Internal
Revenue Service for February 1997.
VOLATILITY OF SHARE PRICE
The market price of the Common Stock has been, and is likely to
continue to be, highly volatile. Such price has fluctuated substantially in
recent periods. In addition, there has been a history of significant
volatility in the market prices for shares of other companies engaged in the
Software industry. Factors such as the timing and market acceptance of new
titles, the introduction of new Software 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 could have a
significant impact on the market price of the Common Stock. Thus, there can be
no assurance that the market price of the Common Stock will not decline below
the public offering price or experience extreme volatility.
NO DIVIDENDS
The Company has not paid any cash or other dividends on its Common
Stock and does not expect to declare or pay any cash dividends in the
foreseeable future. In addition, the Company's revolving credit agreement
restricts the payment of any cash dividends.
SHARES ELIGIBLE FOR FUTURE SALE
Sales of substantial amounts of Common Stock in the public market could
adversely affect the market price of the Common Stock. Upon completion of the
Company's public offering, 1,725,000 shares of Common Stock became eligible for
sale in the open market. Upon the expiration of "lock-up agreements" with the
Underwriters in August 1997, (or earlier if the Underwriters decide to release
shares from the lock-up agreements), the shares subject to these agreements
will be eligible for sale subject to the limitations of Rule 144 promulgated
under the Securities Act of 1933, as amended (the "Securities Act") with
respect to shares held by "affiliates" of the Company (as that term is defined
under the Securities Act). In addition, the Company has reserved for issuance
sufficient shares to fulfill its obligations to issue shares upon the exercise
of certain options and warrants to purchase shares of Common Stock.
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