<PAGE> 1
UNITED STATES
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 September 30, 2000
-----------------------------------------------
[ ] Transition report pursuant to Section 13 or 15(d) of the Securities
Exchange Act of 1934
For the transition period from to .
----------------- -------------------
Commission file number 0-22482 .
-------------------------------------
INNOVATIVE GAMING CORPORATION OF AMERICA
--------------------------------------------------------------------------------
(Exact Name of Registrant as Specified in Its Charter)
<TABLE>
<S> <C>
Minnesota 41-1713864
(State or Other Jurisdiction of (I.R.S. Employer Identification No.)
Incorporation or Organization)
</TABLE>
4725 Aircenter Circle, Reno, Nevada 89502
--------------------------------------------------------------------------------
(Address of Principal Executive Offices)
(775) 823-3000
--------------------------------------------------------------------------------
(Issuer's Telephone Number, Including Area Code)
--------------------------------------------------------------------------------
(Former Address, If Changed Since Last Report)
Check whether the issuer: (1) filed all reports required to be filed by
Section 13 or 15(d) of the Exchange Act during the past 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 [ ]
State the number of shares outstanding of each of the issuer's classes of common
equity, as of the latest practicable date: At November 3, 2000 there were
11,028,488 shares of Common Stock, $0.01 par value, outstanding.
Page 1 of 18
<PAGE> 2
INNOVATIVE GAMING CORPORATION OF AMERICA
Form 10-Q Index
September 30, 2000
<TABLE>
<S> <C>
Part I: Financial Information
Item 1. Financial Statements
Consolidated Condensed Balance Sheets -
September 30, 2000 (Unaudited) and December 31, 1999 3
Consolidated Condensed Statements of Operations -
for the three and nine months ended
September 30, 2000 and 1999 (Unaudited) 4
Consolidated Condensed Statements of Cash Flows -
for the nine months ended
September 30, 2000 and 1999 (Unaudited) 5
Notes to Consolidated Condensed
Financial Statements 6
Item 2. Management's Discussion and Analysis of
Financial Condition and Results of
Operations 12
Part II: Other Information
Item 1. Legal Proceedings 17
Item 6. Exhibits and Reports on Form 8-K 17
Signatures 18
</TABLE>
Page 2 of 18
<PAGE> 3
INNOVATIVE GAMING CORPORATION OF AMERICA AND SUBSIDIARY
CONSOLIDATED CONDENSED BALANCE SHEETS
(IN THOUSANDS, EXCEPT SHARE DATA)
(UNAUDITED)
<TABLE>
<CAPTION>
September 30, December 31,
2000 1999
------------- ------------
<S> <C> <C>
ASSETS
CURRENT ASSETS:
Cash and cash equivalents $ 107 $ 140
Accounts receivable 537 759
Current portion of notes receivable 65 188
Inventories 4,082 4,576
Prepaid expenses and other 400 655
-------- --------
Total current assets 5,191 6,318
NOTES RECEIVABLE, LESS CURRENT PORTION 237 268
PROPERTY AND EQUIPMENT, NET 351 707
INTANGIBLE ASSETS, NET 668 765
-------- --------
TOTAL ASSETS $ 6,447 $ 8,058
======== ========
LIABILITIES AND STOCKHOLDERS' EQUITY
LIABILITIES:
Accounts payable $ 601 $ 585
Accrued liabilities 310 561
Notes payable - current portion 240 592
Customer deposits 338 --
-------- --------
Total current liabilities 1,489 1,738
Notes payable - net of current portion 2,874 3,131
-------- --------
Total liabilities 4,363 4,869
-------- --------
COMMITMENTS AND CONTINGENCIES
STOCKHOLDERS' EQUITY:
Series B convertible preferred stock, $.01 par value, nonvoting,
4,000 shares authorized, 30 and 280 shares outstanding, respectively -- --
Series C convertible preferred stock, $.01 par value, nonvoting,
2,000 shares authorized, 900 shares outstanding -- --
Series D convertible preferred stock, $.01 par value, nonvoting,
3,000 shares authorized, 1,250 and 1,337.5 shares outstanding -- --
Common stock, $.01 par value, 100,000,000 shares authorized,
9,724,901 and 8,952,366 shares issued and outstanding, respectively 97 90
Additional paid-in capital 34,961 34,525
Accumulated deficit (32,974) (31,426)
-------- --------
Total stockholders' equity 2,084 3,189
-------- --------
TOTAL LIABILITIES AND STOCKHOLDERS' EQUITY $ 6,447 $ 8,058
======== ========
</TABLE>
See Notes to Consolidated Condensed Financial Statements.
Page 3 of 18
<PAGE> 4
INNOVATIVE GAMING CORPORATION OF AMERICA AND SUBSIDIARY
CONSOLIDATED CONDENSED STATEMENTS OF OPERATIONS
(IN THOUSANDS, EXCEPT PER SHARE DATA)
(UNAUDITED)
<TABLE>
<CAPTION>
Three Months Nine Months
Ended September 30, Ended September 30,
--------------------- ---------------------
2000 1999 2000 1999
------- ------- ------- -------
<S> <C> <C> <C> <C>
SALES $ 2,162 $ 646 $ 5,933 $ 2,897
COST OF SALES 944 1,775 3,371 4,239
------- ------- ------- -------
Gross profit (loss) 1,218 (1,129) 2,562 (1,342)
SELLING, GENERAL AND ADMINISTRATIVE EXPENSE 962 1,732 3,363 4,935
------- ------- ------- -------
Income (loss) from operations 256 (2,861) (801) (6,277)
INTEREST EXPENSE, NET (76) (68) (241) (73)
------- ------- ------- -------
NET INCOME (LOSS) 180 (2,929) (1,042) (6,350)
Preferred stock accretion adjustment -- 87 408 120
Preferred stock dividends 32 27 98 84
------- ------- ------- -------
NET INCOME (LOSS) ATTRIBUTABLE TO COMMON SHAREHOLDERS $ 148 $(3,043) $(1,548) $(6,554)
======= ======= ======= =======
BASIC - INCOME (LOSS) PER SHARE OF COMMON STOCK $ 0.02 $ (0.42) $ (0.17) $ (0.91)
======= ======= ======= =======
WEIGHTED AVERAGE
COMMON SHARES OUTSTANDING 9,565 7,187 9,320 7,221
======= ======= ======= =======
</TABLE>
See Notes to Consolidated Condensed Financial Statements.
Page 4 of 18
<PAGE> 5
INNOVATIVE GAMING CORPORATION OF AMERICA AND SUBSIDIARY
CONSOLIDATED CONDENSED STATEMENTS OF CASH FLOWS
(IN THOUSANDS)
(UNAUDITED)
<TABLE>
<CAPTION>
Nine Months
Ended September 30,
---------------------
2000 1999
------- -------
<S> <C> <C>
CASH FLOWS FROM OPERATING ACTIVITIES:
Net loss ($1,042) ($6,350)
Adjustments to reconcile net loss to
cash flows from operating activities -
Depreciation and amortization 494 853
Provision for inventory obsolescence (578) 1,169
Changes in operating assets and liabilities 1,639 1,566
------- -------
CASH FLOWS PROVIDED BY (USED FOR) OPERATING ACTIVITIES 513 (2,762)
------- -------
CASH FLOWS FROM INVESTING ACTIVITIES:
Inventory returned from (capitalized for use in) gaming operations 35 (626)
Release of restricted investments -- 700
Purchases of property and equipment -- (76)
Purchase of intangible assets (75) (150)
------- -------
Cash flows used in investing activities (40) (152)
------- -------
CASH FLOWS FROM FINANCING ACTIVITIES:
Preferred stock dividends paid (66) (86)
Proceeds from sale of common stock 33 35
Proceeds from sale of preferred stock -- 1,292
Payments to redeem preferred stock -- (1,100)
Proceeds from long-term obligations -- 1,950
Payments on long-term obligations (473) (329)
------- -------
Cash flows used in financing activities (506) 1,762
------- -------
DECREASE IN CASH AND CASH EQUIVALENTS (33) (1,152)
CASH AND CASH EQUIVALENTS, BEGINNING OF PERIOD 140 1,617
------- -------
CASH AND CASH EQUIVALENTS, END OF PERIOD $ 107 $ 465
======= =======
SUPPLEMENTAL DISCLOSURE OF CASH FLOWS INFORMATION:
Cash paid for interest $ 190 $ 132
======= =======
</TABLE>
See Notes to Consolidated Condensed Financial Statements.
Page 5 of 18
<PAGE> 6
INNOVATIVE GAMING CORPORATION OF AMERICA AND SUBSIDIARY
NOTES TO CONSOLIDATED CONDENSED FINANCIAL STATEMENTS
SEPTEMBER 30, 2000
(UNAUDITED)
(1) BASIS OF FINANCIAL STATEMENT PRESENTATION
The accompanying unaudited consolidated condensed financial statements have been
prepared by the Company pursuant to the rules and regulations of the Securities
and Exchange Commission. Certain information and footnote disclosures normally
included in financial statements prepared in accordance with generally accepted
accounting principles have been condensed or omitted pursuant to such rules and
regulations. Although management believes that the disclosures are adequate to
make the information presented not misleading, it is suggested that these
interim consolidated condensed financial statements be read in conjunction with
the Company's most recent audited consolidated financial statements and notes
thereto included in the Company's Annual Report on Form 10-K for the year ended
December 31, 1999. In the opinion of management, all adjustments (consisting
only of normal recurring adjustments) necessary for a fair presentation of the
financial position, results of operations and cash flows for the interim periods
presented have been made. Operating results for the nine months ended September
30, 2000 are not necessarily indicative of the results that may be expected for
the year ending December 31, 2000.
Certain accounts in the prior year financial statements have been reclassified
for comparative purposes to conform with the presentation in the current period
interim financial statements. These reclassifications had no effect on
previously reported net income or stockholders' equity.
(2) COMMITMENTS AND CONTINGENCIES
On September 19, 2000, the Company and nMortgage, Inc. agreed to terminate the
Agreement and Plan of Merger dated December 31, 1999 between the two companies.
In conjunction with the termination of the agreement with nMortgage, the Company
entered into a Letter of Intent to acquire 14.9% of Xertain, Inc. in exchange
for 14.9% of the Company's common stock, and to acquire the balance of Xertain,
Inc. common stock following shareholder approval. On October 12, 2000, the
Company and Xertain executed a definitive Agreement and Plan of Merger (the
"Xertain Merger Agreement") and completed the initial closing of the
transaction. In light of certain gaming and NASDAQ regulatory matters, the
parties are negotiating an amendment to the Xertain Merger Agreement.
As of September 30, 2000, the Company was in default on certain contractual
agreements due to failure to make payment in accordance with the terms of such
agreements. The obligations in default were i) interest payments of $52,000 to
holders of certain convertible notes issued by the Company, ii) a note payment
to Finova Capital Corporation of approximately $30,000 and iii) dividend
payments to holders of the Company's Series C and D Convertible Preferred Stock
in the amount of approximately $29,000.
The manufacture, distribution and sale of the Company's products are regulated
by various jurisdictions and entities, including requirements to obtain licenses
and product approvals in several jurisdictions. The Company has obtained
required licenses and product approvals in certain jurisdictions and is
continuing efforts to obtain such approvals in other jurisdictions. Failure to
successfully obtain and/or maintain such licenses and approvals, or meet other
regulatory requirements could materially impact the future operation of the
Company. Additionally, there is no assurance that the Company's products will be
accepted in the marketplace upon obtaining regulatory approvals.
(3) RELATED PARTY TRANSACTIONS
In April 1999, in order to expedite the timing of gaming regulatory approval in
certain jurisdictions, the Company entered into a Stock Redemption Agreement
with Lakes Gaming, Inc. pursuant to which the Company redeemed 700,000 shares of
Company Common Stock in exchange for a four-year convertible note (the "Lakes
Note") and a warrant to purchase 87,500 shares of the Company's Common Stock.
In February 2000, a group of investors including Wayne Mills and Henry Fong,
Chairman and Chief Executive Officer of nMortgage, acquired the Lakes Note.
The Lakes Note in the amount of $875,000 is unsecured, pays interest of 5% per
annum and is convertible at $1.25 per share (the closing market price of the
Company's Common Stock on the date of the issuance of the notes). The Lakes Note
could not be converted until April 22, 2000. The exercise price of the warrants
is $1.25 per share. The
Page 6 of 18
<PAGE> 7
INNOVATIVE GAMING CORPORATION OF AMERICA AND SUBSIDIARY
NOTES TO CONSOLIDATED CONDENSED FINANCIAL STATEMENTS - CONTINUED
SEPTEMBER 30, 2000
(UNAUDITED)
Company also granted "piggyback" registration rights for shares of Common Stock
issuable upon conversion of both the Lakes Note and the warrant.
On June 1, 1999, the Company issued an aggregate of $1,550,000 in convertible
notes to a group of investors including Wayne Mills. Edward G. Stevenson, then
the Chairman, Chief Executive Officer and Chief Financial Officer of the
Company, personally guaranteed the repayment of $250,000 of the convertibles
notes. In exchange for such personal guarantee, the Company issued Mr. Stevenson
two 3-year warrants, each to purchase 25,000 shares of the Company's common
stock at $1.25 per share and $1.75 per share, respectively. The shares issuable
upon exercise of the warrants were registered on Registration Statement on Form
S-3 (Registration No. 333-84413) filed with the Securities and Exchange
Commission on August 1, 1999, and amended by Amendment No. 1 to Form S-3 filed
on September 23, 1999.
On March 5, 1999, the Company and Wayne Mills ("Mills"), who was a director of
the Company from July 22, 1999 until September 15, 1999, entered into a Stock
Redemption Agreement pursuant to which the Company agreed to redeem 400,000
shares of the Company's Common Stock beneficially owned by Mills (the "Mills
Redemption") in exchange for a convertible note (the "Mills Note") and a warrant
to acquire 50,000 shares of Common Stock (the "Warrant").
Pursuant to the Mills Redemption, the Company issued the Mills Note with a
principal amount of $437,500, convertible into Common Stock at $1.09375 per
share, the closing sales price of the Company's Common Stock on the day
immediately prior to the date of the consummation of the Mills Redemption. The
Mills Note became convertible on March 5, 2000 and is unsecured. The Company may
require conversion of all or a portion of the principal amount of the Mills Note
after March 5, 2000. Principal and interest on the Mills Note, which is five
percent (5%) per annum, is due March 5, 2004.
The Warrant has a term of three years and an exercise price of $1.09375 per
share, the closing sales price of the Company's Common Stock on the date of the
consummation of the Mills Redemption. Neither the Mills Note may be converted
nor the Warrant exercised if, immediately following such conversion or exercise,
as the case may be, Mills would beneficially own in excess of 4.9% of the
Company's outstanding Common Stock. Pursuant to "piggy-back" registration
rights, the shares issuable upon exercise of the Warrant were registered on
Registration Statement on Form S-3 (Registration No. 333-84413) filed with the
Securities and Exchange Commission on August 1, 1999, and amended by Amendment
No. 1 to Form S-3 filed on September 23, 1999.
Xertain, Inc. ("Xertain") whose primary business is gaming related technologies,
gaming facility development and management, and international high technology
manufacturing, also represents the Company as a distributor in certain gaming
jurisdictions. The Company and Xertain previously entered into an agreement
whereby Xertain would purchase substantially all of the Company's gaming assets
(See Note 9 - Gaming Asset Divestiture Agreement). On September 19, 2000, the
Company entered into a letter of intent with Xertain in order to acquire the
stock of and thereby effectuate a merger with Xertain. Also on September 19,
2000, Roland A. Thomas, Chairman and Chief Executive Officer of Xertain was
named Chairman and Chief Executive Officer of the Company. On
Page 7 of 18
<PAGE> 8
INNOVATIVE GAMING CORPORATION OF AMERICA AND SUBSIDIARY
NOTES TO CONSOLIDATED CONDENSED FINANCIAL STATEMENTS - CONTINUED
SEPTEMBER 30, 2000
(UNAUDITED)
October 12, 2000, the Company and Xertain entered into an Agreement and Plan of
Merger and completed the initial closing of the merger through a mutual exchange
of common stock (See note 10 - Subsequent Event - Agreement for Merger with
Xertain, Inc.). The Company made sales totaling $573,000 to Xertain during the
three and nine month periods ended September 30, 2000. As of September 30, 2000,
the Company had accounts receivable from Xertain of $192,000 and held customer
deposits from Xertain of approximately $319,000.
(4) INCOME TAXES
The Company has adopted Statement of Financial Accounting Standards No. 109-
"Accounting for Income Taxes" - (SFAS No. 109) under which deferred income tax
assets and liabilities are recognized for differences between financial and
income tax reporting basis of assets and liabilities based on currently enacted
rates and laws. The Company had cumulative federal net operating loss carry
forwards of approximately $23,105,000 as of December 31, 1999. These losses, if
not used, begin to expire in 2009 through 2014. Future changes in the ownership
of the Company may place limitations on the use of these net operating loss
carry forwards.
(5) EARNINGS PER SHARE
The Company has adopted Statement of Financial Accounting Standards No. 128
"Earnings Per Share"-(SFAS No. 128). The earnings per share data for the periods
presented is based on weighted average common shares outstanding, which is
equivalent to "basic" earnings per share as calculated under SFAS No. 128.
Diluted earnings per share is not presented because the resulting earnings per
share would be antidilutive for each period reported.
(6) PREFERRED STOCK PRIVATE PLACEMENTS
On May 13, 1998, the Company issued 3,000 shares of Series B Convertible
Preferred Stock (the "Series B Preferred Stock") at a price of $1,000 per share
in a private placement for total proceeds of $3,000,000 prior to any offering
expenses. As of September 30, 2000, shares representing $1,870,000 of Series B
Preferred Stock had been converted into Common Stock, and the remaining
outstanding balance of $30,000 of Series B Preferred Stock is convertible into
Common Stock, at the election of the holder thereof. All outstanding shares of
Series B Preferred Stock will automatically be converted into Common Stock on
June 1, 2001.
On June 1, 1999, as part of a financial restructuring, the Company issued 1,400
shares of Series C Convertible Preferred Stock (the "Series C Preferred Stock")
at a price of $1,000 per share in a private placement for total proceeds of
$1,400,000 prior to any offering expenses. Each share of Series C Preferred
Stock is convertible into shares of the Company's Common Stock at a conversion
price of 91% of the three consecutive day average of the lowest closing bid
price of the Company's Common Stock over the twenty-day trading period ending
the day prior to conversion (the "Series C Conversion Price"). The Series C
Conversion Price may not exceed $1.877. As of September 30, 2000, shares
representing $500,000 of Series C Preferred Stock had been converted into Common
Stock, and all of the remaining outstanding balance of $900,000 of Series C
Preferred Stock is convertible into Common Stock, at the election of the holder
thereof. The maximum number of shares of Common Stock that may be issued upon
conversion is 1,331,500.
Page 8 of 18
<PAGE> 9
INNOVATIVE GAMING CORPORATION OF AMERICA AND SUBSIDIARY
NOTES TO CONSOLIDATED CONDENSED FINANCIAL STATEMENTS - CONTINUED
SEPTEMBER 30, 2000
(UNAUDITED)
All outstanding shares of Series C Preferred Stock will automatically be
converted into Common Stock on June 1, 2001.
The 9% beneficial conversion feature was accounted for as an additional
Preferred Stock dividend, which was determined on the date the Series C
Preferred Stock was issued. The total value of the beneficial conversion feature
or dividend is $138,462, which reduces income available for holders of the
Company's Common Stock and therefore reduces earnings per share on a pro rata
basis over the period from issuance of the Series C Preferred Stock to the
earliest conversion date. Income available to holders of Common Stock was
reduced by approximately $32,885, $87,115 and $18,462 during the second, third
and fourth quarters of 1999, respectively.
During October 1999, the Company issued a total of 2,450 shares of Series D
Convertible Preferred Stock (the "Series D Preferred Stock") at a price of
$1,000 per share in a private placement for total proceeds of $2,450,000, prior
to any offering expenses, and warrants (the "Warrants") to acquire 245,000
shares of the Company's Common Stock at $2.75 per share. Each share of Series D
Preferred Stock is convertible into shares of the Company's Common Stock at a
conversion price of the lesser of $3.00 or 75% of the average of closing bid
price of the Company's Common Stock for the five consecutive days immediately
preceding the conversion date.
As of September 30, 2000, shares representing $1,200,000 of Series D Preferred
Stock had been converted into Common Stock, and all of the remaining outstanding
balance of $1,250,000 of Series D Preferred Stock is convertible into Common
Stock, at the election of the holder thereof.
The 25% beneficial conversion feature was accounted for as an additional
Preferred Stock dividend, which was determined on the date the Series D
Preferred Stock was issued. The total value of the beneficial conversion feature
or dividend is $816,000, which reduces income available for holders of the
Company's Common Stock and therefore reduces earnings per share on a pro rata
basis over the period from issuance of the Series D Preferred Stock to the
earliest conversion date. Income available to holders of Common Stock was
reduced by approximately $408,000 in the fourth quarter of 1999 and
approximately $408,000 in the first quarter of 2000.
All outstanding shares of Series D Preferred Stock will automatically be
converted into Common Stock on the fifth anniversary of its issuance. A holder
of Series B, C or D Preferred Stock may not convert such stock into Common Stock
if, following such conversion, the holder beneficially owns in excess of 4.9% of
the Company's Common Stock.
The Registration Rights Agreements relating to the Company's October 1999
issuance of the Company's Series D Convertible Preferred Stock require the
Company to register the shares of Common Stock issuable upon conversion of such
preferred shares within 180 days or by April 13, 2000 or pay certain liquidated
damages. These provisions include 2% of the gross proceeds of the Series D
Convertible Preferred Stock sold (i.e. $49,000) if such Common Stock is not
registered by April 13, 2000 and 3.5% per month (i.e. $85,750) for each month
thereafter that such
Page 9 of 18
<PAGE> 10
INNOVATIVE GAMING CORPORATION OF AMERICA AND SUBSIDIARY
NOTES TO CONSOLIDATED CONDENSED FINANCIAL STATEMENTS - CONTINUED
SEPTEMBER 30, 2000
(UNAUDITED)
Common Stock is not registered. A registration statement relating to such Common
Stock was filed with the Securities and Exchange Commission on January 13, 2000.
As of September 30, 2000, the registration statement relating to such Common
Stock had not yet been declared effective. A majority of the Company's holders
of Series D Convertible Preferred Stock have agreed to amend the Registration
Rights Agreement relating to such shares to provide that the Company can issue
additional shares of Common Stock, at its option, in lieu of any cash payment in
the event such Common Stock is not registered by April 13, 2000, and for each
month thereafter.
(7) FINANCIAL RESTRUCTURING
On June 1, 1999, the Company completed a financial restructuring in which the
Company received an aggregate $1,742,000 in net proceeds from a private
placement of convertible notes and warrants, and Series C Convertible Preferred
Stock.
The three-year convertible secured notes totaling $1,550,000 were issued to a
group of investors June 1, 1999. Interest on such notes is paid quarterly at a
rate of 12% per annum, and the principal balance is due June 1, 2002. At any
time after June 1, 2000, and until the principal balance is paid in full, the
holders of the notes may convert the notes into Common Stock of the Company at a
conversion price of $1.50 per share. The note holders may not convert the notes
into Common Stock if such conversion would result in beneficial ownership by
such note holder of more than 4.9% of the Company's issued and outstanding
Common Stock. These notes are secured by the furniture, fixtures and equipment,
inventory and intangible property of the Company. The note holders were also
granted an aggregate of 282,500 warrants to purchase shares of the Company's
Common Stock at an exercise price of $1.25 per share.
In October 2000, holders of $1,300,000 of the convertible notes elected to
convert the notes to shares of the Company's Series E Convertible Preferred
Stock (See Note 10 - Subsequent Events - Private Placement of Series E
Convertible Preferred Stock).
As a part of this restructuring, the Company issued 1,400 shares of Series C
Convertible Preferred Stock at a price of $1,000 per share in a private
placement for total proceeds of $1,400,000 prior to any offering expenses (See
Note 6 - "Preferred Stock Private Placement"). Additionally, the holders of the
Series B Convertible Preferred Stock agreed to amend the conversion terms the
Series B Convertible Preferred Stock, changing the automatic conversion date
from November 13, 1999, to June 1, 2001 in exchange for a warrant to acquire
350,000 shares of Common Stock of the Company at $1.50 per share. The amendments
also provide that if the holders of the Series B Convertible Preferred Stock are
unable to convert such preferred stock to Common Stock of the Company because
the maximum number of shares of Common Stock have been issued as allowed under
terms of the Series B Convertible Preferred Stock, the Company may redeem the
Series B Convertible Preferred Stock at 115% of the liquidation value of such
shares or, at the option of the Company, issue Series C Convertible Preferred
Stock in an amount equal to the number of Series B Convertible Preferred Stock
which cannot be converted into the Company's Common Stock.
(8) AGREEMENT FOR MERGER WITH NMORTGAGE
On December 31, 1999, the Company, Equitex, Inc. and nMortgage, Inc. executed a
definitive merger agreement governing the Merger. In September 2000, the Company
and nMortgage agreed to terminate their merger agreement (See Note 2 -
Commitments and Contingencies).
Page 10 of 18
<PAGE> 11
INNOVATIVE GAMING CORPORATION OF AMERICA AND SUBSIDIARY
NOTES TO CONSOLIDATED CONDENSED FINANCIAL STATEMENTS - CONTINUED
SEPTEMBER 30, 2000
(UNAUDITED)
(9) GAMING ASSET DIVESTITURE AGREEMENT
On February 1, 2000, the Company entered into a definitive asset purchase
agreement with Xertain, Inc. ("Xertain"), pursuant to which Xertain will
purchase substantially all of the Company's gaming assets. In September 2000,
the Company and nMortgage agreed to terminate their merger agreement. In
conjunction with the termination of the merger with nMortgage, the Company and
Xertain terminated their asset purchase agreement and entered into a letter of
intent whereby the Company would acquire the outstanding capital stock of and
thereby effectuate a merger with Xertain (See Note 10 - Subsequent Events - Plan
of Merger with Xertain, Inc.)
(10) SUBSEQUENT EVENTS:
PLAN OF MERGER WITH XERTAIN, INC.
On September 19, 2000, the Company entered into a letter of intent with Xertain,
Inc. ("Xertain"), pursuant to which the Company would effectuate a merger with
Xertain. On October 12, 2000, the Company entered into an Agreement and Plan of
Merger by and among Xertain, Inc., Innovative Gaming Corporation of America and
IGCA Acquisition Corporation (the "Xertain Merger Agreement"). Pursuant to the
Xertain Merger Agreement, Xertain will be merged into IGCA Acquisition
Corporation, a Minnesota corporation and wholly-owned subsidiary of the Company.
Concurrent with the signing of the Xertain Merger Agreement, the Company and
Xertain completed an initial closing by the issuance and mutual purchase of
14.9% of the respective companies' common stock. The parties intend that the
merger qualify as a tax-free exchange of stock and reorganization within the
meaning of Section 368(a) of the Internal Revenue Code of 1986, as amended. In
light of certain gaming and NASDAQ regulatory matters, the parties are
negotiating an amendment to the Xertain Merger Agreement. The final closing of
the Merger is anticipated to occur in early 2001, subject to shareholder,
regulatory and various governmental agencies' approval.
PRIVATE PLACEMENT OF SERIES E CONVERTIBLE PREFERRED STOCK
During October 2000, the Company received cash proceeds of $1,000,000 in
connection with a private placement of Series E Convertible Preferred Stock (the
"Series E Preferred Stock") at a price of $10 per share in a private placement.
Also during October 2000, holders of approximately $1.86 million of convertible
notes issued by the Company agreed to convert the principal amount of their
notes into Series E Preferred Stock subject to final documentation. An annual
dividend of 6% shall be paid quarterly in arrears either in Common Stock of the
Company or cash at the Company's discretion. Each share of Series E Preferred
Stock is convertible into shares of the Company's Common Stock at a conversion
price of the lesser of $1.25 or 75% of the average of closing bid price of the
Company's Common Stock for the five consecutive days immediately preceding the
conversion date. The Company has the right to redeem the Series E Preferred
Stock at 135% of par in cash if the market price is lower than the market price
on the date the Series E Preferred Stock was issued. A Registration Statement
related to the Common Stock to be issued must be filed by, and at the expense
of, the Company pursuant to obligations contained in Registration Rights
Agreements.
The total value of the beneficial conversion feature reduces income available
for holders of the Company's Common Stock and therefore reduces earnings per
share on a pro rata basis over the period from issuance of the Series E
Preferred Stock to the earliest conversion date. All outstanding shares of
Series E Preferred Stock will automatically be converted into Common Stock on
the fifth anniversary of its issuance. As of November 13, 2000, the Company is
continuing its offering of Series E Convertible Preferred Stock.
Page 11 of 18
<PAGE> 12
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL
CONDITION AND RESULTS OF OPERATIONS
OVERVIEW
On September 19, 2000, the Company's Board of Directors entered into a letter of
intent with Xertain, whereby the Company would acquire the outstanding capital
stock of and thereby effectuate a merger with Xertain. Also on September 19,
2000, Roland A. Thomas, Chairman and Chief Executive Officer of Xertain was
named Chairman and Chief Executive Officer of the Company. On October 12, 2000,
the Company entered into an Agreement and Plan of Merger By and Among Xertain,
Innovative Gaming Corporation of America and IGCA Acquisition Corporation (the
"Xertain Merger Agreement"). Pursuant to the Xertain Merger Agreement, Xertain
will be merged into IGCA Acquisition Corporation, a Minnesota corporation and
wholly-owned subsidiary of the Company. Concurrent with the execution of the
Xertain Merger Agreement, the Company and Xertain completed an initial closing
by the issuance and mutual purchase of 14.9% of the respective companies' common
stock. The parties intend that the Merger qualify as a tax-free exchange of
stock. In light of certain gaming and NASDAQ regulatory matters, the parties are
negotiating an amendment to the Xertain Merger Agreement.
The Company manufactures, markets and distributes BJ Blitz TM, Hot Shot Dice TM,
Lightning Strike Roulette TM, Supersuits Progressive Blackjack TM, Bonus Streak
TM and single player video slot machines to certain gaming markets worldwide.
Since inception in 1991, the Company has focused most of its resources on the
development of games, the regulatory approval process and the sale and
installation of its games. The Company has begun to expand and diversify its
product line by developing and marketing single player games such as Bonus
Streak and single player video slot machines incorporating state of the art
graphics and sound.
The Company distributes its products both directly to the gaming marketplace and
through licensed agents and distributors. The Company is currently licensed
and/or has the necessary regulatory approvals as a gaming product manufacturer
and distributor in Nevada, Colorado, Mississippi, Louisiana, North Carolina,
Minnesota, Iowa, Arizona, South Dakota, certain New Mexico tribal jurisdictions,
Quebec and the Atlantic Lottery (four Canadian Maritime provinces). In certain
jurisdictions where the Company is licensed, such as Colorado, the Company may
elect to market its products through a licensed distributor pursuant to any
necessary regulatory approvals. In certain jurisdictions where licensure is not
required, such as Australia, the Company may use an existing licensed
distributor to sell its products pursuant to any necessary regulatory
transaction approvals. Previously registered in Alberta, Manitoba, Saskatchewan,
Quebec and the Atlantic Lottery Corporation, the Company has applications
pending in British Columbia, Ontario and Nova Scotia. The Company has agents to
market its products in Canada and Europe.
Page 12 of 18
<PAGE> 13
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL
CONDITION AND RESULTS OF OPERATIONS - CONTINUED
RESULTS OF OPERATIONS FOR THE THREE AND NINE MONTHS ENDED
SEPTEMBER 30, 2000 COMPARED TO SEPTEMBER 30, 1999
For the three months ended September 30, 2000, the Company recorded income
attributable to Common Stock shareholders of $148,000, or $.02 per share,
compared to a loss of $3,043,000, or $.42 per share, for the three months ended
September 30, 1999. For the nine months ended September 30, 2000, the Company
recorded a loss attributable to Common Stock shareholders of $1,548,000, or $.17
per share, compared to a loss of $6,554,000, or $.91 per share, for the nine
months ended September 30, 1999. The income or loss attributable to common
shareholders for each period included adjustments for preferred stock accretion
and preferred stock dividends. The favorable change in operating results for the
fiscal 2000 periods was primarily attributable to a partial recovery of reserves
recorded in the fourth quarter of 1999 due to the planned merger with nMortgage
and the related sale of the Company's gaming assets to Xertain, Inc. versus
increases in inventory reserves in the fiscal 1999 periods. Increased revenues
in the fiscal 2000 periods also contributed to the favorable change in operating
results. The operating losses in the fiscal 1999 periods were also unfavorably
impacted by low sales volume and higher expenses incurred related to the
Company's efforts to develop/enhance and license its products and introduce
those products into new markets.
SALES, COST OF SALES AND GROSS PROFIT
Total sales for the quarter ended September 30, 2000, were $2,162,000 compared
to $646,000 recorded in the quarter ended September 30, 1999. This increase in
revenues was due to an increase in games sales. Single player game sales
increased from 30 in the 1999 period to 87 in the 2000 period. Sales of
multi-player games totaled 1 in 1999 to 20 in 2000. Total sales for the nine
months ended September 30, 2000, were $5,933,000 compared to $2,897,000 in the
nine months ended September 30, 1999. Multi-player game sales increased from 31
in the 1999 period to 59 in the 2000 period and single player game sales
increased from 69 in 1999 to 210 in 2000. The table below presents the
comparative sales revenue and percentage of revenue derived from each of the
Company's product lines for the three and nine-month periods ended September 30,
2000 and 1999:
<TABLE>
<CAPTION>
Three months ended Three months ended Nine months ended Nine months ended
September 30, 2000 September 30, 1999 September 30, 2000 September 30, 1999
Sales revenue $2,162,000 $646,000 $5,933,000 $2,897,000
Product line: Percentage of revenue: Percentage of revenue: Percentage of revenue: Percentage of revenue:
---------------------- ---------------------- ---------------------- ----------------------
<S> <C> <C> <C> <C>
Multi-player games 60% 9% 61% 51%
Single player games 32% 35% 30% 21%
Parts sales and other 6% 34% 5% 19%
Lease participation 2% 22% 4% 9%
Total 100% 100% 100% 100%
</TABLE>
Overall Company revenues will continue to be volatile due to, among other
things, the ability of the Company to continue financing its operations,
fluctuations in demand for the Company's current products, market acceptance of
new products introduced by the Company and the Company's ability to obtain
licensing and successfully market its products in new jurisdictions.
The Company recorded gross margins of 56.3% and 43.2% for the three-month and
nine-month periods ended September 30, 2000, respectively, compared to a
negative gross margin for the three-month and nine-month periods ended September
30, 1999. The gross margins for the fiscal 2000 periods were favorably affected
by a $578,000 reduction in inventory reserves that were recorded in the fourth
quarter of 1999 due to the planned merger with nMortgage and the related sale of
the Company's gaming assets to Xertain. The agreements for the nMortgage merger
and the gaming assets sale were terminated in September 2000. Without the
reduction in inventory reserves the gross margins were 29.6% and 33.4% for the
three-month and nine-month periods ended September 30, 2000, respectively. In
the third quarter of 1999, the Company recorded provisions for inventory
obsolescence of approximately $960,000. The negative gross margin in 1999
periods was primarily due to the provisions for inventory obsolescence and
unabsorbed labor and overhead costs attributable to low production volume in the
first nine months of 1999.
Page 13 of 18
<PAGE> 14
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL
CONDITION AND RESULTS OF OPERATIONS - CONTINUED
RESULTS OF OPERATIONS FOR THE THREE AND NINE MONTHS ENDED
SEPTEMBER 30, 2000 COMPARED TO SEPTEMBER 30, 1999 - CONTINUED
SELLING, GENERAL AND ADMINISTRATIVE EXPENSES
Selling, general and administrative expense for the three months ended September
30, 2000 was $962,000 compared to $1,732,000 for the three months ended
September 30, 1999. Selling, general and administrative expense for the nine
months ended September 30, 2000 was $3,363,000 compared to $4,935 ,000 for the
nine months ended September 30, 1999. In the three months ended September 30,
2000, the Company recorded a recovery of $165,000 in reserves resulting in a
decrease in selling, general and administrative expenses. The reserves were
recorded in the fourth quarter of 1999 due to the planned merger with nMortgage
and the related sale of the Company's gaming assets to Xertain, Inc. This
recovery of reserves represents an adjustment of costs for the first nine months
of 2000 to recognize those costs based on the carrying value of the Company's
assets after the fourth quarter 1999 write-down. Expenses during the 1999
periods included investment in engineering and development costs for new product
development and costs associated with applications for licensing in various
jurisdictions. These expenses declined in the fiscal 2000 periods as the Company
reduced product development efforts and took other measures to reduce expenses
in anticipation of the Merger with nMortgage and the sale of gaming
manufacturing equipment to Xertain.
INTEREST EXPENSE
In the quarter ended September 30, 2000, net interest expense was $76,000
compared to $68,000 in the quarter ended September 30, 1999. For the nine months
ended September 30, 2000, net interest expense was $241,000 compared to $73,000
in the nine months ended September 30, 1999. These increases in net interest
expense were due to a decrease in investments in interest bearing accounts and
additional interest expense incurred on increased debt.
PREFERRED STOCK ACCRETION ADJUSTMENT
During October 1999, the Company issued 2,450 shares of Series D Convertible
Preferred Stock (the "Series D Preferred Stock") at a price of $1,000 per share
in a private placement. The Series D Preferred Stock is convertible into shares
of the Company's Common Stock at a conversion price of the lesser of $3.00 or
75% of the average of closing bid price of the Company's Common Stock for the
five consecutive days immediately preceding the conversion date. The intrinsic
value of the beneficial conversion feature was $816,721, which was accreted to
Series D Preferred Stock and charged against net income or loss to arrive at net
income or loss attributable to common shareholders over the period in which the
right to convert the Preferred Stock becomes vested. The $816,721 value of the
beneficial conversion feature was recognized during the fourth quarter of 1999
and the first quarter of 2000.
ACCUMULATED DEFICIT
The Company had an accumulated deficit of $32,974,000 as of September 30, 2000.
Due to weaker than expected demand for the Company's current products, the
Company's short-term capital requirements, the high degree of regulation and
other factors of the business environment in which the Company operates, the
likelihood of future profitable quarters cannot be predicted. Future short-term
results are highly dependent on the Company's ability to, among other things,
finance production and distribution new products, gain customer acceptance of
its existing and new products and the necessary Company licenses and/or product
approvals in various jurisdictions in order to expand its market base. There can
also be no assurance as to the time frame during which such anticipated
approvals may occur due to uncertain time periods involved in the regulatory
approval process.
Page 14 of 18
<PAGE> 15
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL
CONDITION AND RESULTS OF OPERATIONS - CONTINUED
LIQUIDITY AND CAPITAL RESOURCES
PREFERRED STOCK ISSUES
On May 13, 1998, the Company issued $3,000,000 of Series B Convertible Preferred
Stock (the "Series B Preferred Stock"). As of September 30, 2000, Series B
Preferred Stock totaling $1,870,000 had been converted into Common Stock of the
Company and the Company had redeemed $1,100,000 of the Series B Preferred Stock.
The remaining $30,000 of Series B Convertible Preferred Stock is convertible
into Common Stock of the Company at the election of the holder thereof.
On June 1, 1999, the Company issued $1,400,000 of Series C Convertible Preferred
Stock (the "Series C Preferred Stock"). As of September 30, 2000, Series C
Preferred Stock totaling $500,000 had been converted into Common Stock of the
Company and the remaining $900,000 of Series C Convertible Preferred Stock is
convertible into Common Stock of the Company at the election of the holder
thereof.
During October 1999, the Company issued $2,450,000 of Series D Convertible
Preferred Stock (the "Series D Preferred Stock"), and warrants (the "Warrants")
to acquire 245,000 shares of the Company's Common Stock at $2.75 per share. As
of September 30, 2000, shares representing $1,200,000 of Series D Preferred
Stock had been converted into Common Stock, and all of the remaining outstanding
balance of $1,250,000 of Series D Preferred Stock is convertible into Common
Stock, at the election of the holder thereof.
During October 2000, the Company received $1,000,000 in connection with a
private placement of Series E Convertible Preferred Stock (the "Series E
Preferred Stock"), and warrants (the "Warrants") to acquire shares of the
Company's Common Stock. Also during October 2000, holders of approximately $1.86
million of convertible notes issued by the Company agreed to convert the
principal amount of their notes into Series E Preferred Stock subject to final
documentation. An annual dividend of 6% shall be paid quarterly in arrears
either in Common Stock of the Company or cash at the Company's discretion. Each
share of Series E Preferred Stock is convertible into shares of the Company's
Common Stock at a conversion price of the lesser of $1.25 or 75% of the average
of closing bid price of the Company's Common Stock for the five consecutive days
immediately preceding the conversion date. The Company has the right to redeem
the Series E Preferred Stock at 135% of par in cash if the market price is lower
than the market price on the date the Series E Preferred Stock was issued. A
Registration Statement related to the Common Stock to be issued must be filed
by, and at the expense of, the Company pursuant to obligations contained in
Registration Rights Agreements.
The total value of the beneficial conversion feature reduces income available
for holders of the Company's Common Stock and therefore reduces earnings per
share on a pro rata basis over the period from issuance of the Series E
Preferred Stock to the earliest conversion date. All outstanding shares of
Series E Preferred Stock will automatically be converted into Common Stock on
the fifth anniversary of its issuance. As of November 13, 2000, the Company is
continuing its offering of Series E Convertible Preferred Stock.
LIQUIDITY
The Company had $107,000 and $140,000 in cash as of September 30, 2000 and
December 31, 1999, respectively. The Company has experienced negative cash flow
from operations of $5.1 million, $2.1 million and $7.5 million for the years
ended December 31, 1999, 1998, and 1997, respectively. Given the relatively
large fluctuations in the frequency and size of the Company's sales, the Company
continues to experience significant fluctuations in its cash position. The
Company presently estimates that if current sales forecasts are met its cash,
anticipated funds from operations and the proceeds from issuance of the Series E
Convertible Preferred Stock will be adequate to fund cash
Page 15 of 18
<PAGE> 16
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL
CONDITION AND RESULTS OF OPERATIONS - CONTINUED
LIQUIDITY AND CAPITAL RESOURCES-CONTINUED
requirements for the foreseeable future. There can be no assurance that the
Company will be successful in achieving its current sales forecast and
receivables collections. If current sales forecasts are not met, the Company may
require additional financing in order to continue its operations. There can be
no assurance that the Company would be successful in obtaining additional
financing on terms acceptable to the Company.
As of September 30, 2000, the Company was in default on certain contractual
agreements due to failure to make payment in accordance with the terms of such
agreements. The obligations in default were i) interest payments of $52,000 to
holders of certain convertible notes issued by the Company, ii) a note payment
to Finova Capital Corporation of approximately $30,000 and iii) dividend
payments to holders of the Company's Series C and D Convertible Preferred Stock
in the amount of approximately $29,000.
The Registration Rights Agreements relating to the Company's October 1999
issuance of the Company's Series D Convertible Preferred Stock require the
Company to register the shares of Common Stock issuable upon conversion of such
preferred shares within 180 days or by April 13, 2000 or pay certain liquidated
damages. These provisions include 2% of the gross proceeds of the Series D
Convertible Preferred Stock sold (i.e. $49,000) if such Common Stock is not
registered by April 13, 2000 and 3.5% per month (i.e. $85,750) for each month
thereafter that such Common Stock is not registered. A registration statement
relating to such Common Stock was filed with the Securities and Exchange
Commission on January 13, 2000. As of September 30, 2000, the registration
statement relating to such Common Stock had not yet been declared effective. A
majority of the Company's holders of Series D Convertible Preferred Stock have
agreed to amend the Registration Rights Agreement relating to such shares to
provide that the Company can issue additional shares of Common Stock, at its
option, in lieu of any cash payment in the event such Common Stock is not
registered by April 13, 2000, and for each month thereafter.
PRIVATE SECURITIES LITIGATION REFORM ACT OF 1995
The foregoing Management's Discussion and Analysis contains various
"forward-looking statements" within the meaning of Section 27A of the Securities
Act of 1933, as amended, and Sections 21E of the Securities Exchange Act of
1934, as amended, which represent the Company's expectations or beliefs
concerning future events, including statements regarding the demand for the
Company's products in certain key jurisdictions such as Nevada and Australia. In
addition, statements containing expressions such as "believes," "anticipates,"
"hopeful" or "expects" used in the Company's periodic reports on Forms 10-K and
10-Q filed with the SEC are intended to identify forward looking statements. The
Company cautions that these and similar statements included in this report and
in previously filed periodic reports including reports filed on Forms 10-K and
10-Q are further qualified by important factors that could cause actual results
to differ materially from those in the forward-looking statement, including,
without limitation, the following: ability to obtain additional financing
through leasing, equity or other arrangements; the ability to achieve current
sales forecasts, the inability to successfully develop, license, manufacture and
market new products in a timely manner; decline in demand for gaming products or
reduction in the growth rate of new markets; increased competition; the effect
of economic conditions; a decline in the market acceptability of gaming;
political and economic instability in developing international markets; a
decrease in the desire of established casinos to upgrade machines in response to
added competition from newly constructed casinos; the loss of a distributor;
loss or retirement of key executives; approval of pending patent applications or
infringement upon existing patents; the effect of regulatory and governmental
actions; unfavorable determination of suitability by regulatory authorities with
respect to officers, directors or key employees; the limitation, conditioning or
suspension of any gaming license; adverse results of significant litigation
matters; fluctuation in exchange rates, tariffs and other barriers. Investors
are referred to the full discussion of risks and uncertainties associated with
forward-looking statements contained in the Company's report on Form 10-K filed
with the Securities and Exchange Commission for the fiscal year ended December
31, 1999. Many of the foregoing factors have been discussed in the Company's
prior SEC filings and, had the amendments to the Securities Act of 1933 and
Securities Exchange Act of 1934 become effective at a different time, would have
been discussed in an earlier filing.
Page 16 of 18
<PAGE> 17
PART II
OTHER INFORMATION
Item 1. LEGAL PROCEEDINGS
None
Item 2. CHANGES IN SECURITIES
None
Item 6. EXHIBITS AND REPORTS ON FORM 8-K
(a) Exhibits
Exhibit 27 - Financial Data Schedule - which is only
submitted electronically to the Securities and Exchange
Commission for EDGAR information purposes.
(b) Reports on Form 8-K
On August 18, 2000, the Company filed a Form 8-K to report
that the Company had received a notice from The Nasdaq Stock
Market stating that the Company's Common Stock may be
delisted from the Nasdaq National Market if the Company's
stock does not satisfy listing requirements for minimum bid
price.
On September 21, 2000, the Company filed a Form 8-K to
report the termination of the merger with nMortgage and
signing of a Letter of Intent to acquire the common stock of
Xertain, Inc.
Page 17 of 18
<PAGE> 18
SIGNATURES
In accordance with the requirements of the Exchange Act, the registrant has duly
caused this report to be signed on its behalf by the undersigned, thereunto duly
authorized.
INNOVATIVE GAMING CORPORATION OF AMERICA
/s/ Roland M. Thomas
----------------------------------------
Roland M. Thomas
Chief Executive Officer
Date: November 14, 2000
Page 18 of 18
<PAGE> 19
EXHIBIT INDEX
<TABLE>
<CAPTION>
Exhibit
No. Description
------- -----------
<S> <C>
27 Financial Data Schedule
</TABLE>
