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SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-Q
[ X ] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
For the quarterly period ended December 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 No. 0-19128
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CAPITAL GAMING INTERNATIONAL, INC.
(Exact name of registrant as specified in its charter)
New Jersey 22-3061189
(State or other jurisdiction of (I.R.S. Employer Identification No.)
incorporation or organization)
2701 East Camelback Road, 85016
Suite 484 (Zip Code)
Phoenix, Arizona
(Address of principal executive offices)
---------------------
Registrant's telephone number, including area code: (602) 667-0670
Not applicable
(Former name, former address and former fiscal year,
if changed since last report)
----------------------------------------------------------
Indicate by check mark whether the registrant (1) has filed all
reports required by Section 13 or 15(d) of the Securities 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 [ ]
Applicable only to issuers involved in bankruptcy proceedings during
the preceding five years:
Indicate by check mark whether the registrant has filed all documents
and reports required to be filed by Section 12, 13 or 15(d) of the Securities
Exchange Act of 1934 subsequent to the distribution of securities under a plan
confirmed by a court. Yes [ X ] No [ ]
Indicate the number of shares outstanding for each of the issuer's classes of
common stock as of December 31, 1998: 1,933,333 (consisting of 1,600,000 shares
of Class A Common Stock and 333,333 shares of Common Stock)
<PAGE>
CAPITAL GAMING INTERNATIONAL, INC.
INDEX
PART I. FINANCIAL INFORMATION
Item 1. Financial Statements
Consolidated Balance Sheets as of
December 31, 1998 and June 30, 1998 [Unaudited] 1
Consolidated Statements of Operations for the three months
and six months ended December 31, 1998 and 1997
[Unaudited] 3
Consolidated Statements of Changes in Stockholders' Deficit for
the six months ended December 31, 1998 [Unaudited] 4
Consolidated Statements of Cash Flows for the six months
ended December 31, 1998 and 1997 [Unaudited] 5
Notes to Consolidated Financial Statements [Unaudited] 6
Item 2. Management's Discussion and Analysis of
Financial Condition and Results of Operations 18
Item 3. Quantitative and Qualitative Disclosures about Market
Risks 26
PART II. OTHER INFORMATION
Item 1. Legal Proceedings 27
Item 2. Changes in Securities and Use of Proceeds 29
Item 3. Default Upon Senior Securities 29
Item 4. Submission of Matters to a Vote of Securityholders 31
Item 6. Exhibits and Reports on Form 8-K 31
Signature Page 32
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PART I., Item 1.
CAPITAL GAMING INTERNATIONAL, INC.
CONSOLIDATED BALANCE SHEETS
(In Thousands)
ASSETS
<TABLE>
<CAPTION>
December 31, 1998 June 30, 1998
------------------ -------------
[Unaudited]
<S> <C> <C>
CURRENT ASSETS:
Cash and Cash Equivalents $ 6,394 $ 4,498
Interest Receivable 17 29
Native American Management Fees & Expenses Receivable 388 709
Current Portion - Native American Loans Receivable 1,666 2,249
Current Portion - Muckleshoot Settlement Receivable [Note 9] 1,150 --
Prepaid Expenses and Other Current Assets 242 232
------- -------
TOTAL CURRENT ASSETS 9,857 7,717
------- -------
FURNITURE, FIXTURES AND EQUIPMENT, Net 19 23
------- -------
EXCESS REORGANIZATION VALUE, Net [Note 3] 4,778 5,767
------- -------
OTHER ASSETS:
Restricted Funds [Note 8] 551 541
Native American Loans Receivable 589 1,444
Muckleshoot Settlement Receivable [Note 9] 671 --
Investment In Native American Management
Agreements, Net 276 1,229
Deferred Charges [Note 10] 657 --
------- -------
TOTAL OTHER ASSETS 2,744 3,214
------- -------
TOTAL ASSETS $17,398 $16,721
======= =======
</TABLE>
The Accompanying Notes are an Integral Part of these
Consolidated Financial Statements
1
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CAPITAL GAMING INTERNATIONAL, INC.
CONSOLIDATED BALANCE SHEETS
(In Thousands)
LIABILITIES AND STOCKHOLDERS' DEFICIT
<TABLE>
<CAPTION>
December 31, 1998 June 30, 1998
------------------ -------------
[Unaudited]
<S> <C> <C>
CURRENT LIABILITIES:
Accounts Payable and Accrued Expenses $ 991 $ 1,233
Accrued Interest 292 346
State Income Taxes Payable 187 147
-------- --------
TOTAL CURRENT LIABILITIES 1,470 1,726
-------- --------
LONG TERM DEBT:
12% Senior Secured Notes Payable [Note 7] 22,800 23,100
-------- --------
TOTAL LIABILITIES 24,270 24,826
-------- --------
STOCKHOLDERS' DEFICIT:
Common Stock, No Par Value, Authorized 3,200,000 Shares;
Issued and Outstanding 1,933,333 400 400
Paid in Capital [Note 7] 300 --
Retained Earnings [Deficit] (Since May 29, 1997,
Date of Reorganization) (7,572) (8,505)
-------- --------
TOTAL STOCKHOLDERS' DEFICIT (6,872) (8,105)
-------- --------
TOTAL LIABILITIES AND STOCKHOLDERS' DEFICIT $ 17,398 $ 16,721
======== ========
</TABLE>
The Accompanying Notes are an Integral Part of these
Consolidated Financial Statements
2
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CAPITAL GAMING INTERNATIONAL, INC.
CONSOLIDATED STATEMENTS OF OPERATIONS
[UNAUDITED]
(In Thousands except Share Data)
<TABLE>
<CAPTION>
Three Months Ended Six Months Ended Three Months Ended Six Months Ended
December 31, 1998 December 31, 1998 December 31, 1997 December 31, 1997
------------------- ------------------- ------------------- ------------------
<S> <C> <C> <C> <C>
REVENUES:
Native American Casino Management Fees $ 1,642 $ 3,616 $ 2,215 $ 4,860
---------- ----------- --------- -----------
COSTS AND EXPENSES:
Salaries, Wages and Related Costs 478 1,241 940 1,380
Native American Gaming Development Costs 7 276 328 653
Professional Fees 562 882 397 591
General and Administrative 116 242 305 641
Depreciation and Amortization 554 1,131 823 1,583
Reorganization Fees Paid to Management -- -- 482 482
---------- ----------- --------- -----------
TOTAL COSTS AND EXPENSES 1,717 3,772 3,275 5,330
---------- ----------- --------- -----------
INCOME [LOSS] FROM OPERATIONS (75) (156) (1,060) (470)
---------- ----------- --------- -----------
OTHER INCOME [EXPENSE]:
MUCKLESHOOT SETTLEMENT, NET [Note 9] -- 2,285 -- --
INTEREST INCOME 124 258 206 451
INTEREST EXPENSE (639) (1,332) (694) (1,382)
OTHER INCOME -- 40 -- --
---------- ----------- --------- -----------
TOTAL OTHER INCOME [EXPENSE] (516) 1,251 (488) (931)
---------- ----------- --------- -----------
INCOME (LOSS] BEFORE INCOME TAX (591) 1,095 (1,548) (1,401)
PROVISION FOR INCOME TAX EXPENSE [Note 6] 81 162 (45) (90)
---------- ----------- --------- -----------
NET INCOME [LOSS] $ (671) $ 933 $ (1,593) $ (1,491)
========== =========== ========= ===========
NET INCOME [LOSS] PER SHARE $ (0.35) $ .48 $ (0.80) $ (0.80)
========== =========== ========= ===========
WEIGHTED AVERAGE COMMON AND EQUIVALENT
SHARES OUTSTANDING 1,933,333 1,933,333 1,866,667 1,866,667
========== =========== ========= ===========
</TABLE>
The Accompanying Notes are an Integral Part of these
Consolidated Financial Statements
3
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CAPITAL GAMING INTERNATIONAL, INC.
CONSOLIDATED STATEMENTS OF CHANGES IN STOCKHOLDERS' DEFICIT
[UNAUDITED]
(In Thousands except Share Data)
<TABLE>
<CAPTION>
Common Stock Retained
------------------------- Additional Earnings
Shares Amount Capital (Deficit)
---------- -------- ---------- ----------
<S> <C> <C> <C> <C>
BALANCE - JUNE 30, 1998 1,866,667 $ 400 $ 0 $ (8,105)
Stock Grants to Officers and
Directors 66,666 -- -- --
Net Income for the Three Months
Ended September 30, 1998 -- -- -- 1,604
Net Loss for the Three Months
Ended December 31, 1998 -- -- -- (671)
Treasury Bonds [Note 7] -- -- 300 --
---------- -------- ---------- ----------
BALANCE - DECEMBER 31, 1998 1,933,333 $ 400 $ 300 $ (6,872)
========== ======== ========== ==========
</TABLE>
The Accompanying Notes are an Integral Part of these
Consolidated Financial Statements
4
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CAPITAL GAMING INTERNATIONAL, INC.
CONSOLIDATED STATEMENTS OF CASH FLOWS
[UNAUDITED]
(In Thousands)
<TABLE>
<CAPTION>
Six Months Ended Six Months Ended
December 31, 1998 December 31, 1997
-------------------- -------------------
<S> <C> <C>
CASH FLOWS FROM OPERATING ACTIVITIES:
Net Income [Loss] $ 933 $(1,491)
------- ------
Adjustments to Reconcile Net Income (loss) to Net Cash
Provided by Operating Activities:
Depreciation and Amortization 1,131 1,583
Changes in Assets and Liabilities:
[Increase] Decrease In:
Interest Receivable 12 27
Management Fees and Expenses Receivable 321 107
Notes Receivable from Officers
Muckleshoot Settlement, Gross [Note 9] (3,300) 250
Write-off of Deferred Charges [Note 9] 815 --
Prepaids and Other Current Assets (10) 93
Excess Reorganizational Value -- (426)
Restricted Funds -- 404
Increase [Decrease] In:
Accounts Payable and Accrued Expenses (242) (1,659)
Accrued Interest (54) 95
State Income Taxes Payable 40 --
------- ------
Total Adjustments (1,287) 474
------- ------
NET CASH PROVIDED BY OPERATING ACTIVITIES (354) (1,017)
------- ------
CASH FLOWS FROM INVESTING ACTIVITIES:
Repayments of Native American Loans Receivable 1,438 1,923
Payments on Muckleshoot Settlement 1,479 --
Purchase of Furniture, Fixtures and Equipment -- (21)
Deferred Charges [Note 10] (657) --
Increase in Restricted Funds (10) --
------- ------
NET CASH PROVIDED BY INVESTING ACTIVITIES 2,250 1,902
------- ------
CASH FLOWS FROM FINANCING ACTIVITIES:
NET CASH PROVIDED BY (USED IN) FINANCING ACTIVITIES 0 0
------- ------
NET INCREASE IN CASH AND CASH EQUIVALENTS 1,896 885
CASH AND CASH EQUIVALENTS - BEGINNING OF PERIODS 4,498 3,923
------- ------
CASH AND CASH EQUIVALENTS - END OF PERIODS $ 6,394 $4,808
======= ======
SUPPLEMENTAL DISCLOSURES OF CASH FLOW INFORMATION:
Cash Paid During the Periods for:
Interest $ 1,386 $1,286
Income Taxes $ 122 $ 0
</TABLE>
SUPPLEMENTAL DISCLOSURE OF NON CASH INVESTING AND FINANCING ACTIVITIES:
During the six-month period ended December 31, 1998, the potential right to
receive $300,000 in Senior Secured Notes held by a former officer were released
and surrendered to the Company, thereby creating Treasury Bonds. These Treasury
Bonds are owned by the Company and resulted in a decrease in Senior Secured
Notes and an increase in Paid In Capital (see note [7] to the unaudited
Consolidated Financial Statements contained herein).
The Accompanying Notes are an Integral Part of these
Consolidated Financial Statements
5
<PAGE>
PART I., Item 1.
CAPITAL GAMING INTERNATIONAL, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
[UNAUDITED]
[1] ORGANIZATION
Capital Gaming International, Inc. (the "Company"), together with its
subsidiaries, is a multi-jurisdictional gaming company with gaming management
and development interests with Native American Tribes in several states. The
management and development of Native American gaming facilities is conducted
through Capital Gaming Management, Inc. ("CGMI"), a wholly-owned subsidiary of
the Company. The Company is also engaged in the development of the Narragansett
Casino Project in Rhode Island (the "Rhode Island Project"). The development of
the Rhode Island Project is conducted through Capital Development Gaming Corp.
("CDGC"), a wholly-owned subsidiary of the Company.
CGMI developed and currently manages and operates two Class III Native
American gaming facilities located in separate jurisdictions as follows:
Tonto Apache Tribe - Payson, Arizona (Class III facility
became operational in April 1995)
Umatilla Tribes - Pendleton, Oregon (Class III facility
became operational in March 1995)
On July 24, 1998 CGMI entered into a management and development
agreement with the Pueblo of Laguna to exclusively develop, construct, operate
and manage a casino to be located at the Casa Blanca exit on Interstate 40 on
the tribe's sovereign reservation lands approximately 45 miles west of
Albuquerque, New Mexico. The proposed 30,000 square foot casino will offer Las
Vegas - style table games, slot machines and poker as well as restaurants, a
gift shop and other amenities. The management and development agreement, which
is subject to the approval of the National Indian Gaming Commission, provides
that CGMI will receive a management fee of 30% of net profits (as defined in
such agreement) over a term of seven (7) years from the official date of opening
of the casino.
CDGC has a management and development contract with the Narragansett
Tribe for the development of a Class II and Class III gaming facility either on
the Tribe's sovereign land near Charlestown, Rhode Island or elsewhere in Rhode
Island as may be permitted by law.
[2] BASIS OF PRESENTATION
The Consolidated Balance Sheet and Changes in Stockholders' Deficit as
of December 31, 1998, the Consolidated Statements of Operations for the
three-month and six-month periods ended December 31, 1998 and 1997, and the
Consolidated Statement of Cash Flows for the six-month period ended December 31,
1998 and 1997 are unaudited. The June 30, 1998 Balance Sheet data was derived
from audited consolidated financial statements. These Consolidated Financial
Statements have been prepared in accordance with generally accepted accounting
principles for interim financial information and with instructions to Form 10-Q
and Rule 10-01 of Regulation S-X. Accordingly, they do not include all of the
information and footnotes required by generally accepted accounting principles
for complete financial statements. In the opinion of management, such statements
include all adjustments (consisting only of normal recurring items) which are
considered necessary for a fair presentation of the financial position of the
Company at December 31, 1998, and the results of its operations and cash flows
for the three-month and six-month periods ended December 31, 1998 and 1997. The
results of operations for interim periods are not necessarily indicative of a
full year of operations. It is suggested that these financial statements be read
in
6
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conjunction with the consolidated financial statements and notes included in
the Capital Gaming International, Inc. Form 10-K, as amended, for the fiscal
year ended June 30, 1998 as filed with the Securities and Exchange Commission.
The Consolidated Financial Statements include the accounts of the
Company and all of its wholly-owned subsidiaries. Inter-company transactions
and balances have been eliminated in consolidation.
Certain reclassifications have been made to the prior period financial
statements to conform to classifications used in the current period.
[3] REORGANIZATION UNDER CHAPTER 11
Reorganization Proceedings
On December 23, 1996 (the "Petition Date"), the Company, apart from
its subsidiaries, filed a voluntary petition for relief under Chapter 11 of
the United States Bankruptcy Code (the "Bankruptcy Code") in the United States
Bankruptcy Court for the District of Camden, New Jersey (the "Bankruptcy
Court"). The petition did not involve the Company's wholly-owned subsidiaries.
On the Petition Date, the Company filed a pre-negotiated plan of
reorganization, together with all subsequent amendments and modifications, (the
"Plan") and an accompanying disclosure statement, together with all subsequent
amendments and modifications, (the "Disclosure Statement"). The Disclosure
Statement was approved by the Bankruptcy Court on February 6, 1997.
Subject to certain exceptions under the Bankruptcy Code, the
Company's reorganization proceedings automatically enjoined the continuation
of judicial or administrative proceedings against the Company. Any creditor
actions to obtain possession of, or control over, property of the Company, or
to create, perfect or enforce any liens against the property of the Company
were also enjoined. As a result, the creditors of the Company were precluded
from collecting pre-petition debts without approval of the Bankruptcy Court.
The Company operated as a debtor-in-possession until March 19, 1997. As
a debtor-in-possession, the Company was authorized to operate its business but
could not engage in transactions outside its ordinary course of business without
approval of the Bankruptcy Court. On March 19, 1997 the Bankruptcy Court
conducted a hearing regarding the confirmation of the Plan and entered an order
confirming the Plan. As contemplated by the Plan, on May 28, 1997 (the
"Effective Date"), the Company emerged from Chapter 11. The Plan was further
modified by the Bankruptcy Court on November 16, 1998 upon the Joint Motion of
the Company and U.S. Bank Trust National Association as Indenture Trustee
("Indenture Trustee") with respect to the Company's Second Amended and Restated
Indenture effective as of December 4, 1998 ("Second Amended Indenture").
Plan of Reorganization
The Plan provides for the continuation of the Company. Under the Plan,
on the Effective Date the outstanding common stock of the Company (the "Old
Common Stock") and the Old Options (as hereinafter defined) were cancelled and
the Company, as reorganized, issued 2,000,000 shares of its new common stock, no
par value of which 20% is designated "New Common Stock" and 80% is designated
"Class A Common Stock," some of which is being held by the transfer agent
subject to distribution under the Plan. The New Common Stock and Class A Common
Stock are being distributed pursuant to the terms of the Plan. The holders of
the Class A Common Stock have the right to elect up to four members of the
Board, with weighted voting rights for the Class A Director(s) if the holders of
the Class A Common Stock elect fewer than four directors. Except for such
additional rights of holders of the Class A Common Stock, the New Common Stock
and Class A Common Stock share identical rights.
The Plan provides generally that creditors of the Company are to
receive distributions as follows: (i) holders of Old Senior Secured Notes
receive in the aggregate (A) on account of their Allowed Secured Claims (as
defined in the Plan of Reorganization), their Pro Rata Share (as defined in the
Plan of Reorganization) of the Company's 12% Senior Secured Notes due 2001 (the
"New Senior Secured Notes") having a principal face amount of $21.45 million and
1,225,000 shares of the Class A Common Stock, and (B) on account of their
unsecured Deficiency Claims (as defined in the Plan) totaling $80,688,850, the
same treatment as is afforded to holders of General Unsecured Claims except that
they shall receive Class A Common Stock in lieu of New Common Stock (see
subparagraph (iii) below); (ii) holders of Secured Claims (as defined in the
Plan) that are not Claims (as defined in the Plan) arising out of Old Senior
Secured Notes receive, at the option of the Company: (X) such treatment as will
leave such holder unimpaired; (Y) payment in full, in cash; or (Z) return of
such holder's collateral in the possession of the Company; and (iii) holders of
General Unsecured Claims against the Company received their pro rata shares of
(A) 525,000 shares of New Common Stock; (B) the right to receive the net
proceeds of Avoidance Actions (as defined in the Plan of Reorganization)
recovered pursuant to the Plan of Reorganization; and $1,100,000 in New Senior
Secured Notes. With respect to Class 4 Claims (as defined in the Plan), the
Indenture Trustee could receive no more than 375,000 shares of New Common Stock
and $550,000 in New Senior Secured Notes on account of its allowed Class 4
Claim, and any shares the Amended Indenture Trustee would otherwise receive on
account of its Class 4 Claim in excess of $550,000 in New Senior Secured Notes
is required to be distributed pro rata to all other holders of Allowed Class 4
Claims. See "Business - Debt After Reorganization" for a description of the New
Senior Secured Notes and "Business - Capital Structure" for a description of the
Company's current capital structure.
7
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Holders of the Old Common Stock received their pro rata share of
50,000 shares of New Common Stock. Existing warrants, options and other
rights to acquire Old Common Stock (collectively, the "Old Options") were
cancelled and holders of such Old Options received no distributions of
property on account thereof.
The Plan provides for the discharge of all claims against the Company
and/or the release of the Company, its officers and employees, its wholly-owned
subsidiaries and their respective present and former directors, the Indenture
Trustee and the Noteholders Steering Committee of all liabilities in any way
related to the Company. In addition, a critical element of the Plan is the
release by the Indenture Trustee and each of the Noteholders of all of their
claims against subsidiaries of the Company arising out of guaranties and
pledges, except for the treatment of their Claims provided for under the Plan of
Reorganization.
Fresh-Start Reporting
In accordance with AICPA Statement of Position 90-7 "Financial
Reporting by Entities in Reorganization Under the Bankruptcy Code" ("SOP
90-7"), the Company was required to adopt fresh-start reporting on the
Effective Date.
In adopting fresh-start reporting, the Company, with the assistance
of its financial advisors, estimated the fair value of the Company without
regard to liabilities (the "Reorganization Value") at $23,500,000. The excess
of the Reorganization Value over the fair market value of the net assets of
the Company, totaling approximately $9,339,000 was recorded as Excess
Reorganization Value on the Effective Date. The estimate of Reorganization
Value was based on cash flow projections, under varying scenarios and
assumptions, for the post-reorganization operations of the Company. The
significant assumptions underlying the estimate were: (i) various scenarios
regarding the acquisition of new management contracts and the
completion of the Rhode Island Project; (ii) term of post-reorganization
operations from three to eight years; (iii) a discount rate of 12%; and (iv)
no consideration for federal income taxes due to the Company's expected
utilization of its Net Operating Loss Carryforwards. As the assumptions
underlying the estimate of Reorganization Value relate to events and
circumstances that have not yet taken place, such estimates and assumptions
are inherently subject to significant economic and competitive uncertainties
and contingencies beyond the control of the Company, including, but not
limited to, those with respect to the future courses of the Company's business
activity. Accordingly, there will usually be differences between projections
and actual results because events and circumstances frequently do not occur as
expected, and those differences may be material.
The effect of the adjustments required in adopting fresh-start
reporting are reflected in the Balance Sheet data as of June 30, 1997. As a
result of the adoption of fresh-start reporting, the Consolidated Financial
Statements for the Reorganized Company are not comparable to those of the
Predecessor Company prepared prior to the Effective Date.
[4] SIGNIFICANT ACCOUNTING POLICIES
The significant accounting policies of the Company are set forth in
the Company's form 10-K, as amended, for the fiscal year ended June 30, 1998
as filed with the Securities and Exchange Commission.
[5] RHODE ISLAND DEVELOPMENT PROJECT
Narragansett Contract - Native American Casino (Rhode Island)
Through CDGC, the Company entered into a seven-year management and
development contract with the Narragansett Indian Tribe (the "Narragansett
Contract") for the development of a Class II and Class III gaming facility in
Rhode Island. The Narragansett Contract provides for the Company to receive a
management fee of 30% of Net Distributable Profits (as defined therein) of the
gaming facility for the first five years, commencing on the opening of the
facility and 20% for the remaining two years. As part of the Narragansett
Contract, the Company is required to advance certain funds for the development
of the Rhode Island Project and the construction of the gaming facility which
will be repaid over a seven-year period commencing with opening of the facility.
The Narragansett Contract was submitted to the NIGC for approval in June 1995.
8
<PAGE>
In August 1996, the NIGC submitted comments on the Narragansett
Contract. As a result of the Decision (as defined below) invalidating the
Compact (as defined below), the NIGC informed the Company and the Narragansett
Tribe that the NIGC would only consider a contract relating solely to Class II
gaming. In light of this, the Company bifurcated the Narragansett Contract
(the "Management Agreement") and submitted it on June 21, 1996 for review and
approval by the NIGC of only the portions relating to Class II gaming. The
Company reclassified the Class III contract as a development contract until
such time as a Tribal/State Compact for Class III gaming was signed. However,
as a result of the Chafee Rider (as defined below), on December 16, 1996, the
NIGC declined further review of the Management Agreement.
In declining to review the Management Agreement, the Chairman of the
NIGC asserted that as a result of the application of the Chafee Rider, the
Narragansett Tribe lost its rights to conduct both Class II and Class III gaming
under the Indian Gaming Regulatory Act ("IGRA"). An appeal of the NIGC's action
was filed on December 20, 1996, and on June 17, 1997, the NIGC issued a final
decision upholding the Chairman's actions.
In light of the Decision (as defined below) to invalidate the Compact
and the application of the Chafee Rider (as defined below), no assurance can be
given if, or when, NIGC approval of the Management Agreement will be obtained or
if the Narragansett Tribe will be able to establish a commercial gaming
enterprise (Class II or Class III) under IGRA. Additionally, it is possible, as
a condition of obtaining such approval, that the NIGC will require material
modifications to the Narragansett Contract.
Tribal/State Compact
In August 1994, a Tribal/State Compact (the "Compact") was entered into
between the Narragansett Tribe and Governor Bruce Sundlan of Rhode Island. In
November of 1994, a lawsuit was filed by Rhode Island Attorney General Pine (the
"Pine Case") seeking to void the Compact on the grounds that the Governor of
Rhode Island lacked the authority to bind the State of Rhode Island absent State
Legislative approval. In 1995, Rhode Island's new Governor, Governor Almond,
joined with Attorney General in the Pine Case.
In February 1996, the United States District Court for the District of
Rhode Island decided that the Compact was void for lack of State Legislative
approval (the "Decision"). The State of Rhode Island has subsequently refused to
negotiate with the Narragansett Tribe. In light of this Decision, and similar
decisions in other states, the Secretary of the Interior (the "Secretary")
requested comments from the public as to whether the Secretary has the authority
to adopt Secretarial procedures to permit gaming under IGRA for the Tribes in
states (such as Rhode Island) that refuse to negotiate Tribal/State Compacts in
good faith. On January 22, 1998, a Proposed Rule on Class III Gaming Procedures
("Proposed Rule") was promulgated by the Department of the Interior.
Department of the Interior Proposed Rule on Class III Gaming Procedures
The proposed rule sets forth the authority and procedures by which the
Department of the Interior will review requests for approval of Class III gaming
when a State interposes its immunity from suit brought by an Indian Tribe
seeking to enter into a compact with the State pursuant to which gaming
activities would be governed. The proposed rule also sets forth the process and
standards by which such procedures would be adopted. Written comments concerning
the proposed rule were due with the Department of the Interior on or before June
22, 1998. The comments are currently under review. In March of 1998, the U.S.
Senate voted to prohibit the Department of the Interior from proceeding with the
regulations. However, the ban, which was part of an emergency spending bill, was
lifted in September 1998 from the bill by a joint U.S. House - U.S. Senate
conference committee. It is unknown what further action, if any, Congress may
take concerning the proposed rule. Considerable opposition to the proposed rule
has been received from at least 25 states. Additionally, the National Gambling
Impact Study Commission (the "Commission") voted in July of 1998 to recommend to
the Department of the Interior that no final rules be issued or published until
after the Commission submits its report to Congress in June of 1999. As a
result, in September 1998, Congress passed certain legislation prohibiting the
Department of the Interior from proceeding any further with the proposed rule
prior to October 1, 1999. There can be no assurance as to when a final rule will
be issued or whether the final rule will apply to the Narragansett Tribe in
light of the Chafee Rider (defined below). However, as a result of the Chafee
Rider (as defined below), there can also be no assurance that the Secretary of
the Interior will have the authority under the final rules to impose a
Tribal/State Compact between the Narragansett Tribe and the State of Rhode
Island.
9
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The Chafee Rider
In September 1996, Federal legislation was passed as a non-relevant
rider introduced by U.S. Senator John Chafee of Rhode Island (the "Chafee
Rider") to the must-pass Omnibus Appropriations Bill which has the effect of
singling out the Narragansett Tribe's reservation (where the gaming facility was
planned) for exclusion from the benefits of IGRA. The Chafee Rider was passed
without hearings or debate, with no consultation with the Narragansett Tribe and
over the objections of ranking members of the Senate Indian Affairs Committee.
In February 1997, as a result of the NIGC's decision to decline further
review of the Management Agreement and the application of the Chafee Rider, the
Narragansett Tribe initiated litigation in the United States District Court for
the District of Columbia (the "District Court") naming the NIGC and its
Chairman as defendants. In this action, the Narragansett Tribe sought a
declaration of the District Court that, among other things, would declare the
Chafee Rider unconstitutional under the equal protection component of the Fifth
Amendment to the U.S. Constitution, along with an injunction requiring the NIGC
to review the Management Agreement. Both the Narragansett Tribe and the NIGC
filed cross-motions for summary judgement in the matter. In August 1997, the
District Court granted the NIGC's motion for summary judgement. An appeal was
filed by the Narragansett Tribe in the United States Court of Appeals for
the District of Columbia. On October 27, 1998 the Court of Appeals affirmed the
District Court's decision.
In May 1997, a Congressional Review of the Chafee Rider was initiated
with a hearing before the Committee on Resources of the U.S. House of
Representatives (the "Committee"). The hearing included testimony from the
Department of the Interior, the Narragansett Tribe and the National Council of
American Indians, all of whom testified in support of the repeal of the Chafee
Rider, as well as from several political leaders from the State of Rhode Island
in support of the Chafee Rider. In June 1997, legislation that would amend and
effectively repeal the Chafee Rider ("H.R. 1983") was introduced in the House of
Representatives by Rep. Patrick J. Kennedy (D-RI), a member of the Committee,
and co-sponsored by Rep. Don Young (R-AK), the Chairman of the Committee and
Rep. Dale E. Kildee (D-MI), a member of the Committee and Co-Chairman of the
Congressional Native American Caucus. H.R. 1983, known as "The Narragansett
Justice Act," has subsequently cleared the Committee. No assurances can be given
as to the ultimate outcome of H.R. 1983.
Ongoing Project Development
Unless the Chafee Rider is overturned, the Narragansett Tribe is
precluded from establishing a Class II or Class III gaming facility under IGRA.
Under Rhode Island State Law, therefore, the Narragansett Tribe's only recourse
to establish a gaming facility, absent a repeal of the Chafee Rider, is to
submit the issue to a statewide and local referendum. As a result of the Chafee
Rider, the Narragansett Tribe had focused its efforts on seeking voter approval
of a gaming facility to be located in Providence, Rhode Island and has now
focused such efforts on seeking voter approval of a gaming facility to be
located in West Warwick, Rhode Island. The earliest date upon which any such
referendum could be held is November 2000. In June 1998 the Rhode Island General
Assembly passed a bill requiring the state legislature's approval prior to any
such referendum question being placed on the ballot. Additionally, the bill
provides that the host city or town must also approve any such referendum
question prior to its being placed on the ballot. There can be no assurance that
any such referendum would be successful or, if successful, what the ultimate
scope of permitted gaming would be.
As a result of the set-backs caused by the invalidation of the Compact
and the application of the Chafee Rider, and other factors, there can be no
assurance that any legislative, judicial or administrative efforts will be
successful.
Bureau of Indian Affairs Approval
On September 3, 1998 the Secretary of the Interior and the Deputy
Commissioner of the Bureau of Indian Affairs approved the Management Agreement
between the Narragansett Tribe and CDGC pursuant to 25 CFR Section 81. While
this approval does not impact the Narragansett Tribe's right to offer gaming
pursuant to IGRA, the approval is significant because it protects the
Narragansett Tribe and CDGC from any assertion that the Management Contract is
null and void under the provisions of 25 U.S.C. Section 81 due to lack of
approval.
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Other Matters
In connection with the Narragansett Tribe's efforts to seek statewide
voter approval of a gaming facility to be located in Providence, Rhode Island in
the November 1998 general election, the Company had retained Donaldson, Lufkin
and Jenrette Securities Corporation ("DLJ") to act as its exclusive financial
advisor with respect to the review and analysis of financial and structural
alternatives available to the Company. As part of such engagement, the Company
agreed to issue warrants to DLJ to purchase five (5%) percent of the Company's
issued and outstanding common stock on a fully diluted basis, to be exercisable
only if the Narragansett Tribe succeeded in winning voter approval for a
Narragansett gaming facility. In light of the fact that a voter referendum did
not occur in November 1998, and the uncertainty surrounding any future voter
referendum, the Company has not issued such warrants.
The Company has continued funding the on-going development costs of the
Narragansett development project, which at December 31, 1998, has totaled
approximately $11.5 million consisting primarily of legal costs, environmental
engineering and assessment costs, design costs and other administrative costs.
At December 31, 1998, approximately $9.7 million in development costs (of the
$11.5 million expended) will be recoverable by the Company only if and when a
gaming facility is established by the Narragansett Tribe. Repayment of the
development costs will be made solely from the distributable profits of the
gaming facility. These funds were expended cumulatively over the period from
Spring 1993 to present, and none of these expenditures have been capitalized.
New England is already home to several full scale casinos, including
the Foxwoods Casino operated by the Mashantucket Pequot Tribe and the Mohegan
Sun Casino operated by the Mohegan Tribe, which opened in October 1996. Both of
these casinos are in Connecticut. It is possible that other casinos and forms of
allowed gaming will be established in other parts of New England, including
Massachusetts and New Hampshire. Because of the market size, the establishment
of existing and such other casinos and/or gaming could have an adverse impact on
the Narragansett casino's gross revenues and, in turn, on the income generated
by CDGC under the Narragansett Contract.
In order to fund the construction costs for the project, it is
anticipated that the Company will require significant additional capital. The
inability of the Narragansett casino to offer Class III gaming could create a
competitive disadvantage. There can be no assurance that such financing will be
available, or if available, that the terms thereof will be acceptable to the
Company.
[6] INCOME TAXES
Net Operating Loss Carryforwards ("NOLs")
The following description of the Company's NOLs is based on the
Company's analysis of the application of the relevant sections of the United
States Tax Code (the "Tax Code"). There can be no assurance that the Internal
Revenue Service ("IRS") or the courts will agree with the Company's analysis.
There are substantial risks associated with the Company's utilization of the
NOLs.
For purposes of this discussion, unless otherwise defined or modified,
the term "Gross NOLs" means the total NOLs reported to the Internal Revenue
Service on the federal income tax returns of the particular taxpayer, before the
application of any reductions and related adjustments described in the following
paragraphs under the heading "Net Operating Loss Carryforwards". Based on its
federal income tax returns for the years through June 30, 1996, the Company and
its subsidiaries reported cumulative Gross NOLs of approximately $107,000,000.
Under Section 172(b) of the Internal Revenue Code of 1986, as amended (the "Tax
Code") and, in effect for those years, unused NOLs expire after fifteen taxable
years from the taxable year of a loss. Because these losses were generated in
1994, 1995 and 1996, they should expire in 2009, 2010 and 2011 respectively.
For purposes of this discussion, the term "Net NOLs" means the amount
of NOLs of the particular taxpayer for federal income tax purposes adjusted to
reflect reductions and related adjustments required under Tax Code ss. 108 and
Tax Code ss. 382(1)(5), assuming that Tax Code ss. 382(1)(5) applies, but
subject to Internal Revenue Service audits, subsequent changes in the ownership
of the Company and effects under Tax Code ss. 382, and the application of Tax
Code Sections 269 and 384. See "Net Operating Loss Carryforwards - Application
of Tax Code ss. 382 Under the Chapter 11 Reorganization". After taking into
account the reorganization of the Company pursuant to the Plan and assuming that
Tax Code ss. 382(1)(5) applies as described in more detail in this section "Net
Operating Loss Carryforwards", management of the Company believes the Net NOLs
of the Company and its subsidiaries as of June 30, 1998 are approximately
$35,000,000, although no assurance can be given that the Company will be able to
utilize these NOLs.
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Under the Plan of Reorganization, unsecured indebtedness of the Company
with an aggregate face amount of approximately $110,000,000 was cancelled.
Generally, Tax Code ss. 108 provides that a debtor whose indebtedness is
cancelled must include the amount of cancelled indebtedness in gross income to
the extent the indebtedness cancelled exceeds any consideration (e.g., cash,
notes, stock or other property) given for the cancellation. Tax Code ss. 108
further provides, however, that if a taxpayer is the subject of a bankruptcy
case and the cancellation of indebtedness ("COD") is pursuant to a plan approved
by the Bankruptcy Court, the excess amount cancelled is not required to be
included in gross income. Instead, any such excess amounts so excluded from
gross income reduce prescribed tax attributes of the debtor, including NOLs and
the bases of the assets of the debtor, in a specified order of priority
beginning with NOLs. Management of the Company believes that approximately
$75,500,000 of its Gross NOLs of approximately $107,000,000 as of June 30, 1996
must be reduced to take into account cancellation of indebtedness of the Company
pursuant to the Plan.
If a corporation undergoes an "ownership change", Tax Code ss. 382
limits the corporation's right to use its NOLs each year to an annual percentage
(based on the federal long-term tax-exempt rate which was 5.64% in May of 1997)
of the fair market value of the corporation at the time of the ownership change
(the "Section 382 Limitation"). If an ownership change under Tax Code ss. 382 is
triggered, a corporation may also be restricted from utilizing certain built-in
losses and built-in deductions recognized during a five-year recognition period
after the ownership change. A corporation is considered to undergo "an ownership
change" if, as a result of changes in the stock ownership by "5-percent
shareholders" or as a result of certain reorganizations, the percentage of the
corporation's stock owned by those 5-percent shareholders has increased by more
than 50 percentage points over the lowest percentage of stock owned by those
shareholders at any time during a prescribed prior three-year testing period.
Five-percent shareholders are persons who hold 5% or more of the stock of a
corporation at any time during the testing period as well as groups of
shareholders who are not individually 5-percent shareholders.
If the Company is subject to the Section 382 Limitation as a result of
the consummation of the Plan, its annual Section 382 Limitation would be equal
to the product of the applicable long-term tax-exempt rate (5.64%) times the
fair market value of the equity of the Company immediately before the ownership
change. Thus, for example, if the value of the equity of the Company as of the
Effective Date of the Plan was $400,000, the Company could only use
approximately $23,000 of its NOLs each year until they expire. Although a 50%
ownership change was expected to occur as a result of the transfer of stock of
the Company to creditors pursuant to the Plan of Reorganization, an exception
under Tax Code ss. 382(1)(5) is believed by management to have applied as
described as follows. Tax Code ss. 382(1)(5) provides that the Section 382
Limitation will not apply to a loss corporation if (1) the corporation,
immediately before the ownership change, is under the
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jurisdiction of a court in a United States Code Title 11 or similar case, and
(2) the shareholders and creditors of the old corporation own at least 50% of
the total voting power and value of the stock of the corporation after the
"ownership change" as a result of being shareholders and creditors before the
change. Stock transferred to such creditors counts only if it is transferred
with respect to "old and cold" indebtedness. Indebtedness of creditors
qualifies as "old and cold" if the indebtedness (i) was held by a particular
creditor for at least 18 months before the date of the filing of the Chapter
11 case, or (ii) arose in the ordinary course of the trade or business of the
old loss corporation and was held by the person who at all times held a
beneficial interest in that debt. These requirements will not apply, however,
and thus a loss corporation generally may treat the debt as meeting the
holding period requirement, unless (i) the creditor becomes a 5-percent
shareholder of the loss corporation (directly or indirectly) immediately after
the ownership change, or (ii) such creditor's participation in the formation
of the reorganization plan makes it evident to the debtor that the creditor
has not owned the debt in question for the required period.
In an attempt to determine the extent to which the indebtedness of
creditors who received stock pursuant to the Plan qualifies as "old and cold",
the Company has obtained corroborative evidence as to the status of certain
creditors including written confirmation of the status of certain creditors who
are receiving Class A Common Stock. As a result, Management of the Company
believes that sufficient indebtedness of creditors will qualify as "old and
cold" under Tax Code ss. 382(1)(5) so that Tax Code ss. 382(1)(5) will apply to
this ownership change. No assurances, however, can be given that corroborative
documentation obtained by the Company will ultimately sustain such analysis if
challenged.
Under ss. 382(1)(5), although the Section 382 Limitation does not
apply, the Gross NOLs originally available to the Company must nevertheless be
reduced to the extent of the amount of interest accrued with respect to such
cancelled debt during the three taxable years prior to the taxable year of the
"ownership change" and during the taxable year of the "ownership change" (up to
the change date). The Company's management estimates that this Tax Code ss.
382(1)(5) adjustment to the Company's Gross NOLs is approximately $32,000,000.
$35,214,000 of this amount is duplicated as a reduction under Tax Code Section
108, so that if the Company is under Tax Code ss. 382(1)(5) the reduction to
NOLs under Tax Code ss. 108 would amount to $54,700,000 rather than $82,000,000.
See "Cancellation of Debt Income Under Tax Code Section 108" in this Section.
After taking into account the reductions and related adjustments to the
Gross NOLs under Tax Code ss. 108 and Tax Code ss. 382, assuming that Tax Code
ss. 382(1)(5) applies, management of the Company believes that the Net NOLs of
the Company and its Subsidiaries as of June 30, 1998 are approximately
$35,214,000, subject to Internal Revenue Service audits, subsequent changes in
the ownership of the Company and effects under Tax Code ss. 382, and the
application of Tax Code ss. 269 and 384, which are described below in this
section.
If Tax Code ss. 382(1)(5) applies to the Company, and a future
ownership change under Tax Code ss. 382 is triggered within two (2) years after
the ownership change generated pursuant to the Plan, the Company would not be
allowed to use any of its NOLs incurred as of that first ownership change. It is
therefore important for the Company to monitor further transfers of New Common
Stock by its 5-percent shareholders and further issuances or redemptions of
Company common stock. Because Tax Code ss. 382 tests whether a 50 percentage
point ownership change has occurred over a three-year testing period, the
Company's capacity to issue more common stock during the three years subsequent
to the Effective Date will be curtailed.
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Provision for Income Tax Expense
The Provision for Income Tax Expense of $81,000 and $162,000 for the
three-month and six-month periods ended December 31, 1998 respectively, relate
solely to state income taxes. No provision was made for federal income taxes due
to the expected utilization of the Net Operating Loss Carryforwards. As such, no
relationship exists between income tax expense and Consolidated Income [Loss]
Before Income Tax for the Company.
[7] NEW SENIOR SECURED NOTES
Debt After Reorganization
New Senior Secured Notes. Pursuant to the Plan, the holders of the Old
Senior Secured Notes, along with certain unsecured creditors and key members of
management, were entitled to receive New Senior Secured Notes having an
aggregate principal amount of $23.1 million. The Company holds $300,000 of the
New Senior Secured Notes in treasury. Interest on the New Senior Secured Notes
accrues at a rate of 12% per annum, and is payable semi-annually. The New Senior
Secured Notes are secured by substantially all the assets of the Company,
including the common stock of CGMI and CDGC. In addition, the Company's Second
Amended and Restated Indenture effective as of December 4, 1998 ("Second Amended
Indenture") includes certain restrictive covenants. (See "Description of Second
Amended Indenture".) The New Senior Secured Notes are redeemable prior to
maturity, in whole or part, at the election of the Company, at the redemption
price of 100% of the principal amount plus accrued and unpaid interest to the
redemption date. The New Senior Secured Notes mature in May 2001. Required
principal payments are as follows:
May 28, 2000 $ 4,620,000
May 28, 2001 18,480,000
Additionally, the Company has been making required semi-annual interest
payments of approximately $1,386,000 since November 15, 1997 and is obligated to
make such interest payments semi-annually until May 2001.
Description of Second Amended Indenture. The Second Amended Indenture
governs the terms of the New Senior Secured Notes. The New Senior Secured Notes
are unconditionally guaranteed pursuant to a Guaranty (the "Guaranty") as to
principal, premium, if any, and interest, on a senior basis, jointly and
severally by all existing and future Subsidiaries (other than CDGC and its
subsidiaries) of the Company (the "Guarantors"). The New Senior Secured Notes
are secured by a lien on substantially all of the assets of the Company and all
existing and future Guarantors. Under certain circumstances, the Collateral (as
defined in the Second Amended Indenture) may be released from the lien created
by the Second Amended Indenture and, under other circumstances, additional liens
may be granted on the Collateral.
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The Company is required to offer to purchase New Senior Secured Notes
with the proceeds from asset sales which are deposited in a segregated net cash
proceeds account within 365 days after the date of such asset sale, together
with accrued interest to the date of repurchase. The New Senior Secured Notes
and the Guaranty rank pari passu with all existing and future senior
indebtedness of the Company and the Guarantors, respectively, and senior in
right of payment to all subordinated indebtedness of the Company and the
Guarantors, respectively.
Principal covenants include, among others, limitations on dividends and
other restricted payments and investments, payment restrictions affecting
Subsidiaries, transactions with Affiliates (as defined in the Second Amended
Indenture), consolidations, mergers and sales of assets, incurrences of
additional Indebtedness (as defined in the Second Amended Indenture) and
Disqualified Capital Stock (as defined in the Second Amended Indenture), liens,
as well as on lines of business which the Company may engage in.
The Company and the Guarantors have covenanted to file under certain
circumstances, upon request from the Holders of the New Senior Secured Notes or
the Holders of the New Common Stock, a registration statement under the
Securities Act of 1933 with respect to the New Senior Secured Notes and the New
Common Stock. See "Default under the First Amended Indenture."
The Company and the Guarantors also have agreed to use their best
efforts to cause such registration statement to be declared effective by the
Securities and Exchange Commission (the "SEC") within 180 days following such
notice.
Default Under First Amended Indenture
The Company's First Amended and Restated Indenture, dated as of March
27, 1997 (the "First Amended Indenture") contemplated that certain actions of
the Company require prior notice to (and in certain cases, approval from) the
Advisory Committee, including the ability of the Company to deliver to the
Indenture Trustee a Definitive Budget (as defined in the First Amended
Indenture). However, the Advisory Committee never formed, substantially due to
the fact that the Company had been notified by several state gaming regulators
in states in which the Company conducts business that the breadth and scope of
the powers granted to the Advisory Committee in the First Amended Indenture
require that the proposed members of the Advisory Committee be licensed by the
appropriate various state gaming regulators.
On August 7, 1998, the Company was notified by counsel for the
Indenture Trustee of the occurrence of possible events of default ("Events of
Default") under the First Amended Indenture with respect to the New Senior
Secured Notes. The alleged Events of Default included, among other things, an
alleged failure by the Company to deliver to the Indenture Trustee a Definitive
Budget (as defined in the First Amended Indenture). In light of good faith
negotiations between the Indenture Trustee, the holders of a majority in
principal amount of the New Senior Secured Notes and the Company to amend the
First Amended Indenture in such a manner as would facilitate curing any alleged
Events of Default, the Indenture Trustee had been directed by the holders of a
majority in principal amount of the New Senior Secured Notes to forebear from
taking any action, and in fact took no action, to accelerate the New Senior
Secured Notes, foreclose on any collateral or otherwise execute any of its
rights under the First Amended Indenture. As discussed herein, all defaults
existing under the First Amended Indenture were waived on December 4, 1998, the
effective date of the Second Amended Indenture.
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Court Approval of Modification of Plan and Second Amended Indenture
On October 23, 1998 the Company and the Indenture Trustee filed a Joint
Motion for an Order Approving Modifications to the Plan with the Bankruptcy
Court (the "Joint Motion").
On November 16, 1998 the Bankruptcy Court ordered the approval of the
proposed modifications to the Plan as set forth in the Joint Motion, including,
without limitation: (i) the Second Amended Indenture; (ii) the Second Amended
and Restated Certificate of Incorporation (the "Second Amended Certificate");
and (iii) the composition of the Company's Board of Directors to consist of the
following individuals: (a) Michael W. Barozzi (Common Director); (b) William S.
Papazian (Common Director); (c) Col. Clinton L. Pagano (Common Director); and
(d) Charles B. Brewer (Class A Director).
As detailed in the Joint Motion, the principal changes to the Second
Amended Indenture are:
(i) elimination of the Advisory Committee (as defined in the Second
Amended Indenture);
(ii) modification of the provisions relating to Excess Cash (as
defined in the Second Amended Indenture);
(iii) changing the date of the sinking fund payment due 2000 from May
28, 2000 to May 15, 2000; and
(iv) changing the final maturity date from May 28, 2001 to May 15,
2001.
As also detailed in the Joint Motion, the principal changes to the
Second Amended Certificate include the creation of a new class of common stock,
Class A Common Stock, and the right of Holders of Class A Common Stock to elect
up to four members of the Board, with weighted voting rights for the Class A
Director(s) if the holders of the Class A Common Stock elect fewer than four
directors. Except for such additional rights of holders of the Class A Common
Stock, the New Common Stock and Class A Common Stock share identical rights.
The modifications to the Plan do not affect the economic interests of
any creditor receiving distributions under the Plan, and only impact the
non-economic rights and interests of the holders of the Old Secured Notes. As
detailed in the Joint Motion, the Plan is modified to provide that (i) holders
of the Old Secured Notes will receive Class A Common Stock in lieu of New Common
Stock on account of their Allowed Secured Claim; and (ii) holders of the Old
Secured Notes will receive Class A Common Stock in lieu of New Common Stock on
account of their Allowed Unsecured Claims. These modifications to the Plan will
not affect the aggregate number of shares of common stock outstanding: the Class
A Common Stock will represent 80 percent of the Company's outstanding voting
securities and the New Common Stock will represent 20 percent of the outstanding
voting securities. Only holders of the Class A Common Stock, however, will have
the right to elect the Class A Directors.
The Plan is also modified to eliminate the right of the Noteholder
Steering Commitee to designate members of the Board of Directors.
The Court also ordered that the Indenture Trustee fix December 7, 1998
as the record date for distribution of the New Secured Notes, Class A Common
Stock and other property to the holders of the Old Secured Notes. In compliance
with the Court's Order, the Indenture Trustee has begun making distributions to
the holders of the Old Secured Notes and to the general unsecured creditors.
For previously disclosed information regarding the Plan, reference is
made to the following reports of the Company filed under Section 13 of the
Securities Exchange Act of 1934, all of which are on file at the Securities and
Exchange Commission: Quarterly Reports on Form 10-Q for the quarterly periods
ended December 31, 1997, March 31, 1998 and September 30, 1998, Annual Reports
on Form 10-K for the annual periods ended June 30, 1997 and June 30, 1998 and
Current Report on Form 8-K filed December 18, 1998.
On December 4, 1998 the Second Amended Certificate was filed with, and
deemed effective by, the Secretary of State of New Jersey.
On December 11, 1998, the Second Amended Indenture was executed by the
parties thereto, with an effective date of December 4, 1998.
Also as of December 4, 1998, Holders entitled to receive a majority of
the New Secured Notes waived all defaults existing under the First Amended and
Restated Indenture on December 4, 1998.
As per the terms of the Second Amended Indenture, the Company made an
interest payment of $1,285,900 on November 12, 1997, an interest payment of
$1,386,000 on May 15, 1998, and an interest payment of $1,386,000 on November
15, 1998. The Company is scheduled to make a $1,386,000 interest payment on May
15, 1999.
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[8] RESTRICTED FUNDS
Restricted funds consist of approximately $551,000 and $541,000
(including accrued interest) as of December 31, 1998 and June 30, 1998,
respectively, and are held by the Indenture Trustee as Cash Collateral (as
defined in the Plan) pursuant to the Plan and the Second Amended Indenture for
the benefit of the New Senior Secured Noteholders for payment of the New Senior
Secured Notes. The Company anticipates that some or all of the Restricted Funds
held by the Indenture Trustee may be applied to interest payments due on the New
Senior Secured Notes.
[9] MUCKLESHOOT SETTLEMENT
On January 30, 1998 the Muckleshoot Tribal Gaming Commission summarily
notified the Company that the Company's gaming license had been revoked based on
an assertion that the Company's certification with the Washington State Gambling
Commission ("WSGC") had lapsed. Additionally, on the same date the Muckleshoot
Tribal Council purported to terminate the Company's management contract on
similar grounds. Subsequently, the WSGC had notified the Muckleshoot Tribe that
the Company remained in good standing with the WSGC and would be immediately
recertified upon request of the Muckleshoot Tribe. Moreover, on April 29, 1998
the WSGC notified the Company that it had been recommended for the issuance of a
gaming license and such license was subsequently issued.
In response to the termination of the Muckleshoot Management contract,
the Company commenced litigation in the U.S. District Court in the Western
District of Washington at Seattle, ("U.S. District Court") which asserted, among
other things, breach of contract. On July 20, 1998 the Company and its
subsidiary, CGMI, and the Muckleshoot Tribe achieved an amicable resolution to
the legal proceedings as follows:
The parties entered into a Joint Stipulation and requested the U.S.
District Court to enter an order of settlement and dismiss with prejudice the
litigation between the parties. The U.S. District Court subsequently entered the
order of settlement.
Pursuant to the Joint Stipulation, the Company will receive a total of
Three Million Three Hundred Thousand ($3,300,000) Dollars, with One Million
($1,000,000) Dollars (the "Initial Payment") being paid within three days after
the U.S. District Court entered the order of settlement and Two Million Three
Hundred Thousand ($2,300,000) Dollars being paid in equal monthly installments
over the term of twenty four (24) months commencing August 1, 1998. Such
payments, when fully received, will constitute mutual fulfillment of the
Exclusive Operating Agreement between the Muckleshoot Tribe and the Company
dated April 24, 1995. The U.S. District Court entered the order of settlement
and the Company received the Initial Payment on July 29, 1998. All monthly
installments to date have been timely received.
The Company recorded Other Income of $3.3 million, less the $200,000
receivable balance from the Muckleshoot Casino, due as of June 30, 1998, and
wrote-off the unamortized balance of the deferred asset, Investment in
Muckleshoot Agreement as of July 20, 1998 of approximately $815,000 for an other
income net gain to the Company of approximately $2,285,000 for the six month
period ended December 31, 1998. Additionally, on the settlement date the Company
recorded a receivable balance of $2.3 million. The total receivable due the
Company on the Muckleshoot Settlement as of December 31, 1998 is $1,821,000.
[10] PUEBLO OF LAGUNA DEFERRED CHARGES
All expenditures incurred by the Company for the establishment and
development of the proposed Pueblo of Laguna Casino Project, as defined in the
management and development agreement, other than those costs which generally
would be classified as Company administrative costs, have been capitalized as a
deferred asset (the "Laguna Loan Balances"). Additionally, commencing October 1,
1998, all Company administrative expenditures relating to the Pueblo of Laguna
Casino Project have also been capitalized as a deferred asset. Upon the
commencement of gaming operations at the Pueblo of Laguna Casino, the total
deferred asset balance will be segregated into (i) a loan payable to the Company
(the sum of the total Laguna Loan Balances), payable in monthly installments
over an anticipated five to seven year period with annual interest accruing at
the Prime Lending Rate plus 100 basis points, and (ii) the sum of the general
and administrative, non-Laguna Loan Balances, will remain a deferred asset which
will be amortized over the seven year period of the Pueblo of Laguna management
and development agreement. As of December 31, 1998, the deferred asset for
Laguna Loan Balances totalled $542,000. Due to uncertainties associated with the
exact date of the commencement of gaming operations at the proposed Pueblo of
Laguna Casino, all such deferred charges will be classified as non-current.
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[11] NEW AUTHORITATIVE PRONOUNCEMENTS
The FASB has issued SFAS No. 130, "Reporting Comprehensive Income."
SFAS No. 130 establishes standards for reporting and display of comprehensive
income and its components in the financial statements. SFAS No. 130 is effective
for fiscal years beginning after December 15, 1997. Earlier application is
permitted. Reclassification of financial statements for earlier periods provided
for comparative purposes is required. Management is in the process of
determining its preferred format. The adoption of SFAS No. 130 will have no
impact on the Company's consolidated results of operations, financial position
or cash flows.
The FASB has issued SFAS No. 131, "Disclosures About Segments of an
Enterprise and Related Information." SFAS No. 131 changes how operating segments
are reported in annual financial statements and requires the reporting of
selected information about operating segments in interim financial reports
issued to shareholders. SFAS No. 131 is effective for periods beginning after
December 15, 1997, and comparative information for earlier years is to be
restated. SFAS No. 131 need not be applied to interim financial statements in
the initial year of its application. The Company is in the process of evaluating
the disclosure requirements. The adoption of SFAS No. 131 will have no impact on
the Company's consolidated results of operations, financial position or cash
flows.
In February 1998, the FASB issued SFAS No. 132, "Employers Disclosure
about Pensions and Other Postretirement Benefits," which is effective for fiscal
years beginning after December 15, 1997. The modified disclosure requirements
are not expected to have a material impact on the Company's results of
operations, financial position or cash flows.
The Financial Accounting Standard Board (FASB) has issued Statement of
Financial Accounting Standards No. 133, Accounting for Derivative Instruments
and Hedging Activities. SFAS No. 133 establishes accounting and reporting
standards for derivative instruments, including certain derivative instruments
embedded in other contracts and for hedging activities. SFAS No. 133 requires
that an entity recognize all derivatives as either assets or liabilities in the
statement of financial position and measure those instruments at fair value. The
accounting for changes in the fair value of a derivative depends on the intended
use of the derivative and how it is designated, for example, gain or losses
related to changes in the fair value of a derivative not designated as a hedging
instrument is recognized in earnings in the period of the change, while certain
types of hedges may be initially reported as a component of other comprehensive
income (outside earnings) until the consummation of the underlying transaction.
SFAS No. 133 is effective for all fiscal quarters of fiscal years
beginning after June 15, 1999. Intial application of SFAS No. 133 should be as
of the beginning of a fiscal quarter; on that date, hedging relationships must
be designated anew and documented pursuant to the provisions of SFAS No. 133.
Earlier application of all of the provisions of SFAS No. 133 is encouraged, but
it is permitted only as of the beginning of any fiscal quarter. SFAS No. 133 is
not to be applied retroactively to financial statements of prior periods. The
Company will evaluate the new standard to determine any required new disclosures
or accounting.
17
<PAGE>
PART I., Item 2.
CAPITAL GAMING INTERNATIONAL, INC.
MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS
The following discussion and analysis should be read in conjunction
with the unaudited Consolidated Financial Statements as of December 31, 1998 and
June 30, 1998 (audited) and for the three-month and six-month periods ended
December 31, 1998 and 1997 contained herein and the Company's audited
Consolidated Financial Statements and the related notes thereto appearing in the
Company's Annual Report on Form 10-K for the fiscal year ended June 30, 1998
filed with the Securities and Exchange Commission.
Notice Regarding Forward-Looking Statements
To the extent the information contained in this management discussion
and analysis of unaudited consolidated financial condition as of December 31,
1998 and June 30, 1998 (audited) and results of operations for the three-month
and six-month periods ended December 31, 1998 and 1997 are viewed as
forward-looking statements, the reader is cautioned that various risks and
uncertainties exist that could cause the actual future results to differ
materially from those inferred by the forward-looking statements. Words such as
"expects", "anticipates", "intends", "potential", "believes" and similar
expressions are intended to identify forward-looking statements. A discussion of
the risk factors regarding the implementation of the Company's business strategy
is set forth in the Company's Annual Report on Form 10-K filed with the
Securities and Exchange Commission, in the section entitled "Risk Factors."
Failure to successfully implement this strategy would raise substantial doubt
about the Company's ability to fulfill its principal obligations under its New
Senior Secured Notes. The reader is further cautioned that risks and
uncertainties exist that have not been mentioned herein due to their
unforeseeable nature, but which, nevertheless, may impact the Company's future
operations.
Liquidity and Capital Resources
Sources and Uses of Cash
For the six months ended December 31, 1998, the Company had a net
increase in cash and cash equivalents of $1,896,000, of which $354,000 was used
by Company operating activities, and $2,250,000 was provided by Company
investing activities.
Operating Activities: Cash flows from operating activities for the
six months ended December 31, 1998 were provided by (i) Native American
casino management fees of approximately
18
<PAGE>
$3,738,000, and (ii) interest income of approximately $277,000. Significant
operating activity balances required to reconcile the Company's GAAP accrual net
income of $933,000 for the six months ended December 31, 1998 to net cash flows
used in operating activities include (i) depreciation and amortization of
$1,131,000, (ii) a decrease in interest receivable of $12,000, (iii) a decrease
in Native American management fees and expenses receivable of $321,000, (iv) the
write-off of $815,000 of deferred investment in Muckleshoot contract costs (see
note [9] to the unaudited financial statements contained herein), (v) a decrease
in accrued interest payable of $54,000 and (vi) an increase of $40,000 for state
income taxes payable. The decrease in accrued interest payable of $54,000 is due
primarily to the accrued interest on the New Senior Secured Notes released
and surrendered to the Company and held in Treasury (see note [7] to the
unaudited financial statements contained herein) as of December 31, 1998 as
compared to as of June 30, 1998.
Significant operating activity cash outflows required to reconcile the
Company's GAAP, accrual net income to net cash flows used in operating
activities include (i) the Muckleshoot litigation settlement of $3.3 million
recorded in the first quarter of fiscal year 1999 (See note [9] to the unaudited
financial statements contained herein), (ii) an increase in prepaids and other
current assets of $10,000 during the six-month period ended December 31, 1998,
and (iii) a decrease in accounts payable and accrued expenses of $242,000. The
decrease in accounts payable and accrued expenses of $242,000 as of December 31,
1998 as compared to June 30, 1998 is primarily due to the deferring of certain
Pueblo of Laguna expenditures (see note [10] to the unaudited consolidated
financial statements contained herein), and greater payable balances accrued and
unpaid as of June 30, 1998.
Investing Activities: For the six month period ended December 31, 1998,
the Company provided $2,250,000 in net cash inflows from investing activities.
Cash flows from investing activities were provided by (i) $1,438,000 in
repayment of Native American loans/advances, (ii) increased by $1,479,000 for
payments received on the Muckleshoot Settlement Agreement (See note [9] to the
unaudited consolidated financial statements contained herein), (iii) decreased
by $657,000 in deferred Pueblo of Laguna charges (see note [10] to the unaudited
consolidated financial statements contained herein), and (iv) decreased by
$10,000 for an increase in restricted funds.
Financing Activities: The Company did not have any financing activities
for the six month period ended December 31, 1998.
The Company's source of cash for the next twelve months is expected to
be derived from the receipt of management fees, the receipt of debt service
payments on the Native American loans receivable and installment payments
received from the Muckleshoot settlement. The Company received its final debt
service payment in September 1998 on the Umatilla Tribes Casino loan, and the
Company is scheduled to be paid-in-full on the Tonto Apache Casino loan in April
2000, and as of December 31, 1998, the Muckleshoot Casino does not have a
development loan balance payable to the Company. In the event conditions arise,
for whatever reasons, that cause a reduction or elimination of existing cash
reserves and sources of cash, the Company may not be able to continue operations
or service its debt.
19
<PAGE>
On July 24, 1998 CGMI entered into a management and development
agreement with the Pueblo of Laguna to exclusively develop, construct, operate
and manage an interim casino to be located at the Casa Blanca exit on Interstate
40 on the Tribe's sovereign reservation lands approximately 45 miles west of
Albuquerque, New Mexico ("Casa Blanca Project"). The proposed 30,000 square foot
casino will offer Las Vegas - style table games, slot machines and poker as well
as restaurants, a gift shop and other amenities. The management and development
agreement, which is subject to the approval of the National Indian Gaming
Commission, provides that CGMI will receive a management fee of 30% of net
profits (as defined) over a term of seven (7) years from the official date of
opening of the casino.
The Company currently anticipates using up to $1.3 million of its cash
on-hand to finance certain aspects of the new Pueblo of Laguna Casino Project
which is anticipated to open in the Spring of 1999. Company funds utilized for
the Laguna Project will be repaid by the Pueblo of Laguna Casino Project over an
anticipated five to seven year period commencing tentatively in the Spring of
1999.
In December 1998 the Pueblo of Laguna announced plans to develop a
larger, second casino within the next 18 to 36 months to be located on
Interstate 40 on the Tribe's sovereign reservation lands approximately 7 miles
west of Albuquerque, New Mexico. There can be no assurances as to what effect
this increased competition will have on the projected revenues, profits and
management fees derived from the Company's proposed Casa Blanca Project, or the
ability of the Pueblo of Laguna to repay any loans made by the Company to the
tribe in connection with such Casa Blanca Project and the ability of the Company
to attract third party project financing to construct such Casa Blanca Project
in light of the increased competition. No third party financing commitments have
been obtained for the Pueblo of Laguna project as of the date of this filing.
Debt
At December 31, 1998 the New Senior Secured Notes consist of the face
value $23,100,000 of the New Senior Secured Notes issued pursuant to the Plan.
The Company holds $300,000 of the New Senior Secured Notes in treasury.
Capital Requirements
The Company will continue to operate, through CGMI, the Tonto Apache
and Umatilla casinos pursuant to the related management agreements, and the
proposed Pueblo of Laguna Casino Project pursuant to the related management
agreement subject to NIGC approval. Absent any new developments, these
agreements, along with debt-service payments on the Tribal Loans with the Tonto
Apache Tribe, installment payments on the Muckleshoot Settlement, principal and
interest payments on the tribal loan relative to the Pueblo of Laguna Project,
and cash and cash equivalents on hand at December 31, 1998 of $6,394,000 will
provide the Company with its only sources of cash for the approximately one and
one-half years remaining on the Company's two existing operating management
contracts, and the anticipated seven years on the proposed Pueblo of Laguna
Casino Project. The Company believes that these sources of cash coupled with a
new and reduced expense budget will exceed the ongoing cash requirements for all
operating expenses and general business development costs (including the
Narragansett and Laguna projects) as well as all interest payments on the New
Senior Secured Notes and principal payments on the New Senior Secured Notes,
with the exception of the final principal payment of $18,480,000 due May 15,
2001. The Company expects to use any excess cash to fund new projects, although
the realization of excess cash is not assured.
20
<PAGE>
In order to complete the funding of the construction or acquisition
costs of new projects, including the proposed Pueblo of Laguna Casino
anticipated to open in Spring 1999, and to fund the construction costs of the
Narragansett project, if and when a gaming facility is approved in Rhode Island,
it is anticipated that the Company will require significant additional capital
or project financing. The Company believes that should any new projects become
available or if the gaming facility is approved for Rhode Island, the Company
will have available funding through the debt and/or equity markets or
alternatively though bank financing, based on the viability of the individual
project(s). This belief is founded on the Company's past success in developing
Class III gaming facilities, the expertise of its management in the gaming
industry and its favorable position of being currently licensed and/or approved
by the NIGC and by several state jurisdictions. However, there can be no
assurance that such financing will be available, or if available, that the terms
thereof will be acceptable or favorable to the Company. Given the high level of
uncertainty concerning the prospects of new development projects and/or the
Narragansett Tribe's ability to secure a binding compact or approval for
non-compacted gaming, no financing commitments have been obtained as of the date
of this filing. Further, the timing of any new capital requirements cannot be
reasonably estimated at this time.
The Company believes it will require new sources of cash beyond its
existing operations and current expansion plans in order to fund the final
payment of principal of $18,480,000 on its New Senior Secured Notes due May 15,
2001.
Restricted Funds
Restricted funds as of December 31, 1998 consist of approximately
$551,000 held by the Indenture Trustee as Cash Collateral pursuant to the Plan
and the Second Amended Indenture for the benefit of the New Senior Secured
Noteholders for payment of the New Senior Secured Notes. The Company anticipates
that some or all of the Restricted Funds held by the Indenture Trustee may be
applied to interest payments due on the New Senior Secured Notes. However, the
ultimate utilization of the Restricted Funds is at present undetermined due to
the discussions referenced in Note [7] to the unaudited Consolidated Financial
Statements contained herein, and are therefore classified as non-current.
21
<PAGE>
Year 2000 Computer Software Compliance
The Company relies on computer hardware, software and related
technology in the course of its operations, and such technology is utilized by
the Company and its managed casinos for their delivery of products and services.
The Company has preliminarily reviewed its computer systems as well as those of
its managed casino operations for compliance with the potential hazards of the
year 2000 computer conversion. Based on this preliminary review, it appears the
Company and its managed casino operations will be in compliance with year 2000
protocols prior to the end of the millennium, and that modifications, software
or computer hardware upgrades, or any other procedures required to comply with
year 2000 protocols, will primarily be handled by the software and computer
system vendors and/or manufacturers, and that expected costs to the Company are
currently expected to be immaterial.
Default Under First Amended Indenture
The Company's First Amended and Restated Indenture, dated as of March
27, 1997 (the "First Amended Indenture") contemplated that certain actions of
the Company require prior notice to (and in certain cases, approval from) the
Advisory Committee, including the ability of the Company to deliver to the
Indenture Trustee a Definitive Budget (as defined in the Amended Indenture).
However, the Advisory Committee never formed, substantially due to the fact that
the Company has been notified by several state gaming regulators in states in
which the Company conducts business that the breadth and scope of the powers
granted to the Advisory Committee in the First Amended Indenture require that
the proposed members of the Advisory Committee be licensed by the appropriate
various state gaming regulators.
On August 7, 1998, the Company was notified by counsel for the
Indenture Trustee of the occurrence of possible events of default ("Events of
Default") under the First Amended Indenture with respect to the New Senior
Secured Notes. The alleged Events of Default included, among other things, an
alleged failure by the Company to deliver to the Indenture Trustee a Definitive
Budget (as defined in the Amended Indenture). In light of good faith
negotiations between the Indenture Trustee, the holders of a majority in
principal amount of the New Senior Secured Notes and the Company to amend the
First Amended Indenture in such a manner as would facilitate curing any alleged
Events of Default, the Indenture Trustee had been directed by the holders of a
majority in principal amount of the New Senior Secured Notes to forebear from
taking any action, and in fact took no action, to accelerate the New Senior
Secured Notes, foreclose on any collateral or otherwise execute any of its
rights under the First Amended Indenture. As discussed herein, all defaults
existing under the First Amended Indenture were waived on December 4, 1998, the
effective date of the Second Amended Indenture.
Court Approval of Modification of Plan and Second Amended Indenture
On October 23, 1998 the Company and the Indenture Trustee filed a Joint
Motion for an Order Approving Modifications to the Plan with the Bankruptcy
Court (the "Joint Motion").
On November 16, 1998 the Bankruptcy Court ordered the approval of the
proposed modifications to the Plan as set forth in the Joint Motion, including,
without limitation: (i) the Second Amended Indenture; (ii) the Second Amended
and Restated Certificate of Incorporation (the "Second Amended Certificate");
and (iii) the composition of the Company's Board of Directors to consist of the
following individuals: (a) Michael W. Barozzi (Common Director); (b) William S.
Papazian (Common Director); (c) Col. Clinton L. Pagano (Common Director); and
(d) Charles B. Brewer (Class A Director).
As detailed in the Joint Motion, the principal changes to the Second
Amended Indenture are:
(i) elimination of the Advisory Committee (as defined in the Second
Amended Indenture);
(ii) modification of the provisions relating to Excess Cash (as
defined in the Second Amended Indenture);
(iii) changing the date of the sinking fund payment due 2000 from May
28, 2000 to May 15, 2000; and
(iv) changing the final maturity date from May 28, 2001 to May 15,
2001.
As also detailed in the Joint Motion, the principal changes to the
Second Amended Certificate include the creation of a new class of common stock,
Class A Common Stock, and the right of Holders of Class A Common Stock to elect
up to four members of the Board, with weighted voting rights for the Class A
Director(s) if the holders of the Class A Common Stock elect fewer than four
directors. Except for such additional rights of holders of the Class A Common
Stock, the New Common Stock and Class A Common Stock share identical rights.
<PAGE>
The modifications to the Plan do not affect the economic interests of
any creditor receiving distributions under the Plan, and only impact the
non-economic rights and interests of the holders of the Old Secured Notes. As
detailed in the Joint Motion, the Plan is modified to provide that (i) holders
of the Old Secured Notes will receive Class A Common Stock in lieu of New Common
Stock on account of their Allowed Secured Claim; and (ii) holders of the Old
Secured Notes will receive Class A Common Stock in lieu of New Common Stock on
account of their Allowed Unsecured Claims. These modifications to the Plan will
not affect the aggregate number of shares of common stock outstanding: the Class
A Common Stock will represent 80 percent of the Company's outstanding voting
securities and the New Common Stock will represent 20 percent of the outstanding
voting securities. Only holders of the Class A Common Stock, however, will have
the right to elect the Class A Directors.
The Plan is also modified to eliminate the right of the Noteholder
Steering Commitee to designate members of the Board of Directors.
The Court also ordered that the Indenture Trustee fix December 7, 1998
as the record date for distribution of the New Secured Notes, Class A Common
Stock and other property to the holders of the Old Secured Notes. In compliance
with the Court's Order, the Indenture Trustee has begun making distributions to
the holders of the Old Secured Notes and to the general unsecured creditors.
For previously disclosed information regarding the Plan, reference is
made to the following reports of the Company filed under Section 13 of the
Securities Exchange Act of 1934, all of which are on file at the Securities and
Exchange Commission: Quarterly Reports on Form 10-Q for the quarterly periods
ended December 31, 1997, March 31, 1998 and September 30, 1998, Annual Reports
on Form 10-K for the annual periods ended June 30, 1997 and June 30, 1998 and
Current Report on Form 8-K filed December 18, 1998.
On December 4, 1998 the Second Amended Certificate was filed with, and
deemed effective by, the Secretary of State of New Jersey.
On December 11, 1998, the Second Amended Indenture was executed by the
parties thereto, with an effective date of December 4, 1998.
Also as of December 4, 1998, Holders entitled to receive a majority of
the New Secured Notes waived all defaults existing under the First Amended and
Restated Indenture on December 4, 1998.
22
<PAGE>
Results of Operations
Overview
The following discussion about the Company's results of operations
includes the Company and its subsidiaries, CGMI, and CDGC.
Three Month Period Ended December 31, 1998 as Compared to the Three Month Period
Ended December 31, 1997
Revenues
The following table outlines the Company's revenues for the three
months ended December 31, 1998 and 1997:
3 Months 3 Months
Ended Ended
12/31/98 12/31/97 Inc.(Dec.) % Change
--------- -------- ---------- --------
Umatilla $1,146 $1,152 $ (6) -0.5%
Muckleshoot 0 581 (581) -100.0%
Tonto Apache 496 482 14 2.9%
------ ------ ----- -----
$1,642 $2,215 $(573) -25.9%
====== ====== ===== =====
Revenues declined $573,000, or 25.9% from $2.2 million to $1.6 million
for the three-month period ended December 31, 1998 as compared to the year
earlier quarter. This decrease in revenues is primarily due to the termination
of the Muckleshoot management agreement as explained in Note [9] to the
unaudited consolidated financial statements contained herein.
Costs and Expenses
Salaries and wages decreased to $478,000 from $940,000, a $462,000 or
49.1% decrease in the second quarter of fiscal 1999 as compared to the second
quarter of fiscal 1998. This decrease in salaries, wages and related expenses is
primarily attributable to (i) a reduction in highly compensated employees, and
(ii) a reduction in taxes and benefit payments incurred in conjunction with the
aforementioned highly compensated employees.
Company development costs declined $321,000 or 97.9% from $328,000 for
the three months ended December 31, 1998 as compared to the year earlier period.
This decline is due to less legal fees being incurred in conjunction with the
Narrangansett Indian Tribe's attempt to further their position towards an
approved Compact.
Professional fees increased to $562,000 from $397,000, a 41.6% or
$165,000 increase in the second quarter of fiscal 1999 as compared to the year
earlier period. This increase in legal fees is attributable to the collective
sum of several non-recurring or above average professional fees incurred during
the three months ended December 31, 1998. These increased professional fees
include, (i) legal fees associated with the finalizing of the Second Amended
Indenture,including the fees and expenses of the Indenture Trustee, (ii) legal
fees, environmental studies and other professional fees incurred by the Company
associated with establishing the Pueblo of Laguna Casino, and (iii) the
increased use of consultants and public relations expenses for the Company's
managed casinos.
General and administrative expenses declined $189,000 or 62.0% to
$116,000 for the three months ended December 31, 1998. This decline is
attributable to the streamlining of the Company's operations and general expense
reductions in the second quarter of fiscal 1999.
The decline in depreciation and amortization of $269,000 or 32.7% to
$554,000 is primarily attributable to the write-down of Excess Reorganization
Costs in fiscal 1998 and the subsequent recalculated amortization of the
remaining balance resulting in less amortization expenses in the second quarter
of fiscal 1999.
Reorganization Expenses for the three-month period ended December 31,
1997 consisted of the confirmation award paid to Management as contemplated in
the Plan of Reorganization. Including the tax and interest payments, the
confirmation award totalled approximately $482,000.
23
<PAGE>
Other Income and Expenses
Interest income declined $82,000 or 39.8% from $206,000 for the three
months ended December 31, 1998. This decline is the collective result of three
factors, (i) a decline in interest rates from the second quarter of fiscal 1998
to 1999 which lowered interest income, (ii) an increase in average idle interest
bearing cash and cash equivalents outstanding in the second quarter of fiscal
1999 which increased interest income, and (iii) lesser interest income from the
Native American loans due the Company in the second quarter of fiscal 1999 as
compared to the year earlier period due to the receipt of the final payment in
September 1998 of the Umatilla Tribes Casino Loan, and the normal scheduled
monthly amortization of the Tonto Apache Casino Loan, which lowered interest
income.
Interest expense decreased $55,000 or 7.9% from $694,000 for the second
quarter of fiscal 1999 due to the accrued interest on the New Senior Secured
Notes released and surrendered to the Company and held in Treasury. The only
interest expense bearing instrument of the Company during both fiscal years 1998
and 1997 was the new Senior Secured Notes whose principal balance of $23.1
million and whose interest rate of 12.0% have both remained unchanged.
Income taxes increased $36,000 or 80.0%, increasing from $45,000 to
$81,000 during the three months ended December 31, 1998 as compared to the year
earlier period. This increase is due to greater balances being accrued in fiscal
1999 as compared to fiscal 1998 for state income taxes payable for Company
earnings from CGMI in the state jurisdictions in which CGMI operates.
Six Month Period Ended December 31, 1998 as Compared to the Six Month Period
Ended December 31, 1997
Revenues
The following table outlines the Company's revenues for the six months
ended December 31, 1998 and 1997:
6 Months 6 Months
Ended Ended
12/31/98 12/31/97 Inc.(Dec.) % Change
--------- -------- ---------- --------
Umatilla $2,404 $2,516 $ (112) -4.5%
Muckleshoot 0 1,120 (1,120) -100.0%
Tonto Apache 1,212 1,224 (12) -1.0%
------ ------ ----- -----
$3,616 $4,860 $(1,244) -25.6%
====== ====== ======= =====
Revenues declined $1,244,000, or 25.6% from $4.9 million to $3.6
million for the six-month period ended December 31, 1998 as compared to the year
earlier quarter. This decrease in revenues is primarily due to the termination
of the Muckleshoot management agreement as explained in Note [9] to the
unaudited consolidated financial statements contained herein.
Costs and Expenses
Salaries and wages decreased to $1,241,000 from $1,380,000, a
$139,000 or 10.1% decrease in the second quarter of fiscal 1999 as compared to
the second quarter of fiscal 1998. This decrease in salaries, wages and related
expenses is primarily attributable to (i) reduction in highly compensated
employees, (ii) subsequent reduction in benefit payments due to the
aforementioned retired employees, and (iii) increased by one-time payments paid
to retiring employees in the first quarter of fiscal 1999.
Company development costs declined $377,000 or 57.7% to $276,000 for
the six months ended December 31, 1998 as compared to the year earlier period.
This decline is due to less legal fees being incurred in conjunction
with the Narragansett Indian Tribe's attempt to further their position towards
an approved Compact.
24
<PAGE>
Professional fees increased to $882,000 from $591,000, a 49.2% or
$291,000 increase in the second quarter of fiscal 1999 as compared to the year
earlier period. This increase in legal fees is attributable to the collective
sum of several non-recurring or above average professional fees incurred during
the six months ended December 31, 1998. These increased professional fees
include (i) legal fees associated with the finalizing of the Second Amended
Indenture,including the fees and expenses of the Indenture Trustee, (ii) legal
fees, environmental studies and other professional fees incurred by the Company
associated with establishing the Pueblo of Laguna Casino, (iii) increased use of
consultants and public relations expenses for the Company's managed casinos,
(iv) professional fees relating to the Narragansett Indian Tribe's attempt to
obtain an approved Compact, and (v) legal fees associated with the Muckleshoot
Settlement which was finalized in July 1998.
General and administrative expenses declined $399,000 or 62.2% to
$242,000 for the six months ended December 31, 1998. This decline is
attributable to the streamlining of the Company's operations and general expense
reductions in the second quarter of fiscal 1999.
The decline in depreciation and amortization of $452,000 or 28.6% to
$1,131,000 is primarily attributable to (i) the write-off of the Muckleshoot
deferred charges on July 20, 1998 (see footnote [9] to unaudited consolidated
financial statements contained herein), and (ii) the write-down of Excess
Reorganization Costs in fiscal 1998 and the subsequent recalculated amortization
of the remaining balance resulting in less amortization expenses in the
six-month period ended December 31, 1998.
Reorganization Expenses for the six-month period ended December 31,
1997 consisted of the confirmation award paid to Management as contemplated in
the Plan of Reorganization. Including the tax and interest payments, the
confirmation award totalled approximately $482,000.
Other Income and Expenses
The other income line item, Muckleshoot Settlement - Net for
$2,285,000, represents the net gain to the Company for the six months ended
December 31, 1998, associated with the Muckleshoot settlement (see note [9] to
the Company's unaudited consolidated financial statements contained herein). The
balance represents the net of the $3.3 million settlement, less a $200,000
receivable balance due the Company as of June 30, 1998, less the unamortized
balance of the deferred asset Investment in Muckleshoot Agreement, of
approximately $815,000.
Interest Income declined $193,000 or 42.8% from $451,000 for the six
months ended December 31, 1998. This decline is the collective result of three
factors (i) a decline in interest rates from the second quarter of fiscal 1998
to 1999 which lowered interest income, (ii) an increase in average idle interest
bearing cash and cash equivalents outstanding in the second quarter of fiscal
1999 which increased interest income, and (iii) lesser interest income from the
Native American loans due the Company in the second quarter of fiscal 1999 as
compared to the year earlier period due to the receipt of the final payment in
September 1998 of the Umatilla Tribes Casino Loan, and the normal scheduled
monthly amortization of the Tonto Apache Casino Loan, which lowered interest
income.
Interest expense decreased $50,000 or 3.6% from $1,382,000 for the
second quarter of fiscal 1999 due to the accrued interest on the New Senior
Secured Notes released and surrendered to the Company and held in Treasury. The
only interest expense bearing instrument of the Company during both fiscal years
1998 and 1997 was the new Senior Secured Notes whose principal balance of $23.1
million and whose interest rate of 12.0% have both remained unchanged.
Other income of $40,000 recorded in the six-month period represents the
receipt by the Company of a settlement payment on a gain contingency settled
during the six-month period ended December 21, 1998.
Income taxes increased $72,000 or 80.0%, increasing from $90,000 to
$162,000 during the six months ended December 31, 1998 as compared to the year
earlier period. This increase is due to greater balances being accrued in fiscal
1999 as compared to fiscal 1998 for state income taxes payable for Company
earnings from CGMI in the state jurisdictions in which CGMI operates.
25
<PAGE>
PART I., Item 3.
Quantitative and Qualitative Disclosures about Market Risks
Not applicable.
26
<PAGE>
PART II., Item 1.
CAPITAL GAMING INTERNATIONAL, INC.
LEGAL PROCEEDINGS
Pursuant to the Plan of Reorganization, all legal proceedings against
the Company prior to the Effective Date were settled. As a result there was no
material litigation pending against the Company on June 30, 1998. The Company
is or may become a defendant in pending or threatened legal proceedings in the
ordinary course of business although is not aware of the existence of any
material pending or threatened legal proceedings at this time.
1. Republic Litigation
Previously reported in Company's Annual Report filed on Form 10-K for
the fiscal year ended June 30, 1998, filed with the Securities and Exchange
Commission.
2. Muckleshoot Litigation
Previously reported in Company's Annual Report filed on Form 10-K for
the fiscal year ended June 30, 1998 filed with the Securities and Exchange
Commission. See Note [9] to the unaudited financial statements contained herein.
27
<PAGE>
Reorganization of the Company
See Note [3] to the unaudited Consolidated Financial Statements
contained herein and the Company's Annual Report filed on form 10-K for the
fiscal year ended June 30, 1998, filed with the Securities and Exchange
Commission.
28
<PAGE>
Part II., Item 2.
Changes in Securities and Use of Proceeds
Except as disclosed in note [7] to the unaudited financial statements
contained herein (Court Approval of Modification of Plan and Second Amended
Indenture), there have been no changes in securities or the capital structure of
the Company for the six months ended December 31, 1998. As disclosed in note [7]
to the unaudited financial statements contained herein, effective December 4,
1998, holders of the Old Secured Notes became entitled to receive 1,600,000
shares of Class A Common Stock on account of their Allowed Secured Claims and
Allowed Unsecured Claims in connection with Bankruptcy Court approval of
Modifications to the Plan. These securities have been issued pursuant to an
exemption from the Securities Act of 1933 pursuant to Section 3(7) and, in the
alternative, any other section thereof that may apply. See note [3] to the
unaudited financial statements contained herein and the Reorganization section
in the Company's Annual Report filed on form 10-K for the fiscal year ended June
30, 1998, filed with the Securities and Exchange Commission.
PART II., Item 3.
Default Under First Amended Indenture
The Company's First Amended and Restated Indenture, dated as of March
27, 1997 (the "First Amended Indenture") contemplated that certain actions of
the Company require prior notice to (and in certain cases, approval from) the
Advisory Committee, including the ability of the Company to deliver to the
Indenture Trustee a Definitive Budget (as defined in the First Amended
Indenture). However, the Advisory Committee never formed, substantially due to
the fact that the Company had been notified by several state gaming regulators
in states in which the Company conducts business that the breadth and scope of
the powers granted to the Advisory Committee in the First Amended Indenture
require that the proposed members of the Advisory Committee be licensed by the
appropriate various state gaming regulators.
On August 7, 1998, the Company was notified by counsel for the
Indenture Trustee of the occurrence of possible events of default ("Events of
Default") under the First Amended Indenture with respect to the New Senior
Secured Notes. The alleged Events of Default included, among other things, an
alleged failure by the Company to deliver to the Indenture Trustee a Definitive
Budget (as defined in the Amended Indenture). In light of good faith
negotiations between the Indenture Trustee, the holders of a majority in
principal amount of the New Senior Secured Notes and the Company to amend the
First Amended Indenture in such a manner as would facilitate curing any alleged
Events of Default, the Indenture Trustee had been directed by the holders of a
majority in principal amount of the New Senior Secured Notes to forebear from
taking any action, and in fact took no action, to accelerate the New Senior
Secured Notes, foreclose on any collateral or otherwise execute any of its
rights under the First Amended Indenture. As discussed herein, all defaults
existing under the First Amended Indenture were waived on December 4, 1998, the
effective date of the Second Amended Indenture.
Court Approval of Modification of Plan and Second Amended Indenture
On October 23, 1998 the Company and the Indenture Trustee filed a Joint
Motion for an Order Approving Modifications to the Plan with the Bankruptcy
Court (the "Joint Motion").
On November 16, 1998 the Bankruptcy Court ordered the approval of the
proposed modifications to the Plan as set forth in the Joint Motion, including,
without limitation: (i) the Second Amended Indenture; (ii) the Second Amended
and Restated Certificate of Incorporation (the "Second Amended Certificate");
and (iii) the composition of the Company's Board of Directors to consist of the
following individuals: (a) Michael W. Barozzi (Common Director); (b) William S.
Papazian (Common Director); (c) Col. Clinton L. Pagano (Common Director); and
(d) Charles B. Brewer (Class A Director).
As detailed in the Joint Motion, the principal changes to the Second
Amended Indenture are:
(i) elimination of the Advisory Committee (as defined in the Second
Amended Indenture);
(ii) modification of the provisions relating to Excess Cash (as
defined in the Second Amended Indenture);
(iii) changing the date of the sinking fund payment due 2000 from May
28, 2000 to May 15, 2000; and
(iv) changing the final maturity date from May 28, 2001 to May 15,
2001.
29
<PAGE>
As is also detailed in the Joint Motion, the principal changes to the
Second Amended Certificate include the creation of a new class of common stock,
Class A Common Stock, and the right of Holders of Class A Common Stock to elect
up to four members of the Board, with weighted voting rights for the Class A
Director(s) if the holders of the Class A Common Stock elect fewer than four
directors. Except for such additional rights of holders of the Class A Common
Stock, the New Common Stock and Class A Common Stock share identical rights.
The modifications to the Plan do not affect the economic interests of
any creditor receiving distributions under the Plan, and only impact the
non-economic rights and interests of the holders of the Old Secured Notes. As
detailed in the Joint Motion, the Plan is modified to provide that (i) holders
of the Old Secured Notes will receive Class A Common Stock in lieu of New Common
Stock on account of their Allowed Secured Claim; and (ii) holders of the Old
Secured Notes will receive Class A Common Stock in lieu of New Common Stock on
account of their Allowed Unsecured Claims. These modifications to the Plan will
not affect the aggregate number of shares of common stock outstanding: the Class
A Common Stock will represent 80 percent of the Company's outstanding voting
securities and the New Common Stock will represent 20 percent of the outstanding
voting securities. Only holders of the Class A Common Stock, however, will have
the right to elect the Class A Directors.
The Plan is also modified to eliminate the right of the Noteholder
Steering Commitee to designate members of the Board of Directors.
The Court also ordered that the Indenture Trustee fix December 7, 1998
as the record date for distribution of the New Secured Notes, Class A Common
Stock and other property to the holders of the Old Secured Notes. In compliance
with the Court's Order, the Indenture Trustee has begun making distributions to
the holders of the Old Secured Notes and to the general unsecured creditors.
For previously disclosed information regarding the Plan, reference is
made to the following reports of the Company filed under Section 13 of the
Securities Exchange Act of 1934, all of which are on file at the Securities and
Exchange Commission: Quarterly Reports on Form 10-Q for the quarterly periods
ended December 31, 1997, March 31, 1998 and September 30, 1998, Annual Reports
on Form 10-K for the annual periods ended June 30, 1997 and June 30, 1998 and
Current Report on Form 8-K filed December 18, 1998.
On December 4, 1998 the Second Amended Certificate was filed with, and
deemed effective by, the Secretary of State of New Jersey.
On December 11, 1998, the Second Amended Indenture was executed by the
parties thereto, with an effective date of December 4, 1998.
Also as of December 4, 1998, Holders entitled to receive a majority of
the New Secured Notes waived all defaults existing under the First Amended and
Restated Indenture on December 4, 1998.
As per the terms of the Second Amended Indenture, the Company made an
interest payment of $1,285,900 on November 12, 1997, an interest payment of
$1,386,000 on May 15, 1998 and an interest payment of $1,386,000 on November 15,
1998.
30
<PAGE>
Part II., Item 4.
Submission of Matters to a Vote of Securityholders
There were no matters required to be brought to a vote of the
securityholders during the three months ended December 31, 1998.
PART II., Item 6.
CAPITAL GAMING INTERNATIONAL, INC.
EXHIBITS AND REPORTS ON FORM 8-K
(a) Exhibits
Exhibit
Number
- -----------
3.3 Second Amended and Restated Articles of Incorporation of the
Registrant.(1)
3.4 Amended and Restated By-laws of the Registrant.(1)
4.17 Second Amended and Restated Indenture, dated as of February 17, 1994
and amended and restated as of March 27, 1997 and further amended and
restated as of December 4, 1998, including the relevant portions of the
Articles of Incorporation and By-laws of the Company.(1)
4.18 Specimen of Class A Common Stock Certificate of the Registrant.(1)
4.19 Form of Note.(1)
# Filed herewith
1 Incorporated by reference to the exhibit with the same number, filed in
connection with the Registrant's Form 8-K filed with the Securitites
and Exchange Commission on Decmber 21, 1998.
27 Financial Data Schedule
(b) Reports on Form 8-K
Current Report on Form 8-K filed with the Securities and Exchange
Commission on September 10, 1998.
Current Report on Form 8-K filed with the Securities and Exchange
Commission on October 13, 1998.
Current Report on Form 8-K filed with the Securities and Exchange
Commission on December 21, 1998.
31
<PAGE>
Signature Page
CAPITAL GAMING INTERNATIONAL, INC.
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, thereto duly authorized.
Dated: February 12, 1998 By: /s/ Michael W. Borozzi
---------------------------------------------
Michael W. Borozzi, President and Chief
Operating Officer
(Authorized Representative)
Dated: February 12, 1998 By: /s/ William S. Papazian
------------------------------------------
William S. Papazian, Executive Vice President
and General Counsel and Secretary
(Authorized Representative)
Dated: February 12, 1998 By: /s/ Robin K. McEntire
------------------------------------------
Robin K. McEntire, Controller
(Principal Accounting Officer)
32
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