================================================================================
U.S. SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 10-QSB
(Mark One)
|X| QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d)
OF THE SECURITIES EXCHANGE ACT OF 1934
For the quarterly period ended September 30, 1999
|_| TRANSITION REPORT PURSUANT TO SECTION 13 OR
15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
Commission File Number 0-27102
eGames, Inc.
(Exact name of registrant as specified in its charter)
PENNSYLVANIA 23-2694937
(State or other jurisdiction of (IRS Employer
incorporation or organization) Identification Number)
2000 Cabot Boulevard West, Suite 110
Langhorne, PA 19047-1811
(address of Principal executive offices)
Issuer's Telephone Number, Including Area Code: 215-750-6606
Not Applicable
(Former name, former address and former
fiscal year, if changed since last report.)
Check whether the issuer (1) has filed all reports required to be filed by
Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding
12 months (or for such shorter period that the registrant was required to file
such reports), and (2) has been subject to such filing requirements for the past
90 days.
Yes ( X ) No ( )
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 Sections 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 ( ) No ( )
APPLICABLE ONLY TO CORPORATE ISSUERS
State the number of shares outstanding of each of the issuer's classes of common
equity, as of the latest practicable date: 9,676,290 shares of common stock, no
par value per share, as of October 31, 1999.
Transitional Small Business Disclosure Format (check one): Yes ( ) No ( X )
<PAGE>
eGames, Inc.
INDEX
Page
----
Part I. Financial Information
Item 1. Financial Statements:
Consolidated Balance Sheet as of September 30, 1999........ 3
Consolidated Statements of Operations for the three
months ended September 30, 1999 and 1998 .............. 4
Consolidated Statements of Cash Flows for the three
months ended September 30, 1999 and 1998 .............. 5
Notes to Consolidated Financial Statements................. 6-8
Item 2. Management's Discussion and Analysis of Financial
Condition and Results of Operations ................... 8-14
Part II. Other Information
Item 6. Exhibits and Reports on Form 8-K........................... 14
Signatures ........................................................... 15
Exhibit Index ........................................................... 16
Exhibits ........................................................... 17
<PAGE>
Item 1. Financial Statements
eGames, Inc.
Consolidated Balance Sheet
(Unaudited)
<TABLE>
<CAPTION>
As of
September 30,
ASSETS 1999
----
<S> <C>
Current assets:
Cash and cash equivalents $ 549,964
Accounts receivable, net of allowances totaling $1,007,949 4,581,159
Inventory 1,104,617
Prepaid expenses 74,129
-----------
Total current assets 6,309,869
Furniture and equipment, net 358,714
Other assets 435,754
-----------
Total assets $ 7,104,337
===========
LIABILITIES AND STOCKHOLDERS' EQUITY
Current liabilities:
Note payable $ 51,283
Accounts payable 1,698,920
Accrued expenses 1,073,005
Capital lease obligations 22,025
-----------
Total current liabilities 2,845,233
Capital lease obligations, net of current portion 18,284
Note payable, net of current portion 161,434
Convertible subordinated debt 150,000
-----------
Total liabilities 3,174,951
Stockholders' equity:
Common stock, no par value (40,000,000 shares authorized;
9,893,390 issued and 9,661,490 outstanding) 8,984,889
Additional paid in capital 1,148,550
Accumulated deficit (5,691,550)
Treasury stock, at cost - 231,900 shares (501,417)
Accumulated other comprehensive loss (11,086)
-----------
Total stockholders' equity 3,929,386
-----------
Total liabilities and stockholders' equity $ 7,104,337
===========
</TABLE>
See accompanying notes to the consolidated financial statements.
<PAGE>
eGames, Inc.
Consolidated Statements of Operations
(Unaudited)
<TABLE>
<CAPTION>
Three months ended
September 30,
-------------------------
1999 1998
---- ----
<S> <C> <C>
Net sales $ 4,117,575 $ 2,506,200
Cost of sales 1,603,308 880,577
----------- -----------
Gross profit 2,514,267 1,625,623
Operating expenses:
Product development 242,847 205,667
Selling, general and administrative 1,600,406 979,642
----------- -----------
Total operating expenses 1,843,253 1,185,309
----------- -----------
Operating income 671,014 440,314
Interest expense, net 5,100 10,649
----------- -----------
Income before income taxes 665,914 429,665
Provision for income taxes 89,295 26,300
----------- -----------
Net income $ 576,619 $ 403,365
=========== ===========
Net income per common share:
- Basic $ 0.06 $ 0.04
=========== ===========
- Diluted $ 0.06 $ 0.04
=========== ===========
Weighted average common shares outstanding - Basic 9,633,973 9,442,329
Dilutive effect of common stock equivalents 503,569 164,508
----------- -----------
Weighted average common shares outstanding - Diluted 10,137,542 9,606,837
=========== ===========
</TABLE>
See accompanying notes to the consolidated financial statements.
<PAGE>
eGames, Inc.
Consolidated Statements of Cash Flows
(Unaudited)
<TABLE>
<CAPTION>
Three months ended
September 30,
--------------------------
1999 1998
---- ----
<S> <C> <C>
Cash flows from operating activities:
Net income $ 576,619 $ 403,365
Adjustment to reconcile net income to net cash
(used in) provided by operating activities:
Depreciation and amortization 103,383 85,354
Changes in items affecting operations
Restricted cash 17,560 252
Accounts receivable (2,628,050) (350,235)
Prepaid expenses 36,843 4,975
Inventory 54,649 212,588
Accounts payable 651,590 (286,762)
Accrued expenses 441,906 109,937
----------- -----------
Net cash (used in) provided by operating activities (745,500) 179,474
----------- -----------
Cash flows from investing activities:
Acquisition, net of cash acquired - 0 - (12,428)
Purchase of furniture and equipment (30,212) (22,368)
Purchase of software rights and other assets (245) (25,235)
----------- -----------
Net cash used in investing activities (30,457) (60,031)
----------- -----------
Cash flows from financing activities:
Proceeds from exercise of warrants and options 110,000 - 0 -
Repayment of notes payable (94,466) (15,888)
Repayment of capital lease obligations (6,614) (30,581)
----------- -----------
Net cash provided by (used in) financing activities 8,920 (46,469)
----------- -----------
Effect of exchange rate changes on cash and cash equivalents 3,148 1,002
----------- -----------
Net (decrease) increase in cash and cash equivalents (763,889) 73,976
Cash and cash equivalents:
Beginning of period 1,313,853 953,648
----------- -----------
End of period $ 549,964 $ 1,027,624
=========== ===========
Supplemental cash flow information:
Cash paid for interest $ 11,194 $ 16,427
=========== ===========
Cash paid for income taxes $ - 0 - $ 20,800
=========== ===========
Non cash investing and financing activities:
150,000 shares of Common Stock issued in
connection with an acquisition $ - 0 - $ 213,000
=========== ===========
</TABLE>
See accompanying notes to the consolidated financial statements.
<PAGE>
eGames, Inc.
Notes to Consolidated Financial Statements
1. Summary of Significant Accounting Policies
Basis of Presentation
The accompanying unaudited interim consolidated financial statements were
prepared in accordance with generally accepted accounting principles for interim
financial information. Accordingly, they do not include all of the information
and footnotes required by generally accepted accounting principles for complete
financial statements. The Notes to Consolidated Financial Statements included in
the Company's Form 10-KSB for the fiscal year ended June 30, 1999 should be read
in conjunction with the accompanying statements. These statements include all
adjustments the Company believes are necessary for a fair presentation of the
statements. The interim operating results are not necessarily indicative of the
results for a full year.
Description of Business
eGames, Inc. (the "Company"), a Pennsylvania corporation incorporated in July
1992, develops, publishes, markets and sells a diversified line of personal
computer software primarily for consumer entertainment. The Company's product
line enables it to serve customers who are seeking a broad range of
high-quality, value-priced software. The Company's sales are made through
various national distributors on a non-exclusive basis in addition to direct
relationships with certain national retailers.
Consolidation
The consolidated financial statements include the accounts of the Company and
its wholly-owned subsidiary. All inter-company balances and transactions have
been eliminated.
2. Acquisition
On August 14, 1998, the Company acquired all of the outstanding shares of
Software Partners Publishing and Distribution Limited ("Software Partners"), in
exchange for 150,000 shares of the Company's Common Stock, valued at
approximately $213,000, which was the fair value of the Company's Common Stock
on the closing date of the acquisition. This acquisition was accounted for as a
purchase and the corresponding goodwill in the approximate amount of $308,000 is
being amortized over five years. On March 31, 1999, Software Partners changed
its name to eGames Europe Limited ("eGames Europe"). For the quarters ended
September 30, 1999 and 1998, eGames Europe contributed $576,000 and $301,000,
respectively, in net sales as well as $79,000 and $105,000, respectively, in net
income.
The following summary of unaudited pro-forma financial information gives effect
to the eGames Europe acquisition as though it had occurred on July 1, 1998,
after giving effect to certain adjustments, primarily the elimination of
inter-company sales and amortization of goodwill. The pro-forma financial
information, which is for informational purposes only, is based upon certain
assumptions and estimates and does not necessarily reflect the results that
would have occurred had the acquisition taken place at the beginning of the
period presented, nor are they necessarily indicative of future consolidated
results.
Unaudited Pro-Forma Financial Information
Three Months Ended
September 30, 1998
------------------
Net sales $2,564,000
Net income $ 295,000
Net income per diluted share $ 0.03
<PAGE>
Notes to Consolidated Financial Statements (continued)
3. Comprehensive Income
On July 1, 1998, the Company adopted SFAS 130, "Reporting Comprehensive Income".
This Statement requires that all items that are required to be recognized under
accounting standards as components of comprehensive income be reported in a
financial statement that is displayed with the same prominence as other
financial statements. Comprehensive income is computed as follows:
Three Months Ended
September 30,
------------------------
1999 1998
---- ----
Net income $577,000 $403,000
Other comprehensive income (loss):
Foreign currency translation adjustment (12,000) 7,000
-------- --------
Comprehensive income $565,000 $410,000
======== ========
4. Common Stock
On October 26, 1998, the Company's Board of Directors authorized the Company to
purchase up to $1,000,000 of its shares of Common Stock in open-market purchases
on the Nasdaq SmallCap Market. During the quarter ended September 30, 1999 the
Company did not purchase any shares of its Common Stock. As of September 30,
1999, the Company had acquired 231,900 shares of its Common Stock, with an
approximate cost of $501,000, pursuant to its stock repurchase program.
5. Revolving Line of Credit
On September 28, 1999, the Company entered into an agreement with a commercial
bank to extend and increase its existing $1 million revolving credit facility to
a $1.5 million revolving credit facility expiring October 31, 2000. Amounts
outstanding under this credit facility are charged interest at one-half of one
percent above the bank's current prime rate and such interest is due monthly.
The credit facility is collateralized by substantially all of the Company's
assets. The credit facility requires the Company, among other things, to
maintain certain financial ratios, such as: a minimum working capital balance of
$1,500,000 and a maximum debt to net tangible assets ratio of 1.50 to 1.00. As
of September 30, 1999, the Company was in compliance with each of those
covenants. This credit facility was established to provide, among other things,
additional working capital to support the Company's anticipated growth. As of
November 8, 1999, the Company had not utilized this credit facility.
On September 30, 1999, the Company's United Kingdom operation entered into an
agreement with a commercial bank to extend and increase its existing $80,000
revolving credit facility to a $160,000 credit facility expiring September 30,
2000. Amounts outstanding under this credit facility are charged interest at two
and one-half percent above the bank's current base rate and such interest is due
monthly. As of November 8, 1999, the Company had not utilized this credit
facility.
6. Operations by Reportable Segments and Geographic Area
The Company adopted SFAS No. 131, "Disclosure about Segments of an Enterprise
and Related Information", as of July 1, 1998. SFAS No. 131 establishes standards
for reporting information about an enterprise's operating segments and related
disclosures about its products, geographic areas and major customers.
The Company publishes interactive entertainment software for PCs. Based on its
organizational structure, the Company operates in only one non-geographic,
reportable segment, which is publishing.
<PAGE>
Notes to Consolidated Financial Statements (continued)
The President and Chief Executive Officer allocates resources to each of the
geographical areas in which the Company operates using information on their
respective revenues and operating profits before interest and taxes. The
President and Chief Executive Officer has been identified as the Chief Operating
Decision Maker as defined by SFAS No. 131.
The accounting policies of these segments are the same as those described in the
Summary of Significant Accounting Policies. Revenue derived from sales between
segments is eliminated in consolidation.
Geographic information for the quarters ended September 30, 1999 and 1998 is
based on the location of the selling entity. Information about the Company's
operations by segmented geographic locations for the quarters ended September
30, 1999 and 1998 is presented below.
<TABLE>
<CAPTION>
United States United Kingdom Eliminations Consolidated
------------- -------------- ------------ ------------
September 30, 1999:
<S> <C> <C> <C> <C>
Sales $3,707,000 $576,000 ($165,000) $4,118,000
Operating Income 598,000 73,000 - 0 - 671,000
Assets $6,791,000 $901,000 ($588,000) $7,104,000
September 30, 1998:
Sales $2,249,000 $301,000 ($44,000) $2,506,000
Operating Income 332,000 108,000 - 0 - 440,000
Assets $4,846,000 $730,000 ($141,000) $5,435,000
</TABLE>
Item 2. Management's Discussion and Analysis of Financial Condition and
Results of Operations
The accompanying consolidated financial statements as of September 30, 1999
include the accounts of eGames, Inc., ("eGames"), and its wholly owned
subsidiary.
Results of Operations
Three Months Ended September 30, 1999 and 1998
Net Sales
Net sales for the quarter ended September 30, 1999 were $4,118,000 compared to
$2,506,000 for the quarter ended September 30, 1998, representing an increase of
$1,612,000 or 64%.This increase generally resulted from a shift in sales mix
reflecting increases in sales of the Company's full-release game products, while
sales of the Company's shareware-based products, personal productivity and
non-eGames products decreased. For the quarter ended September 30, 1999, the
Company's net sales were comprised of full-release game products (78%),
shareware-based products (2%), personal productivity products (13%) and
non-eGames products (7%). For the quarter ended September 30, 1998, the
Company's net sales were comprised of full-release game products (34%),
shareware-based products (50%), personal productivity products (13%) and
non-eGames products (3%). These changes in products sold reflect the Company's
transition from publishing and distributing primarily shareware-based products
to full-release, proprietary products, which transition began during the first
quarter of fiscal 1999.
<PAGE>
Item 2. Management's Discussion and Analysis of Financial Condition and Results
of Operations (continued)
The Company's international sales for the quarter ended September 30, 1999 were
$649,000 or 16% of net sales, compared to $451,000 or 18% of net sales for the
quarter ended September 30, 1998, representing an increase of $198,000 or 44%.
The increase in international sales from quarter to quarter can be attributed,
in part, to the fact that the Company acquired eGames Europe half way through
the quarter ended September 30, 1998, and therefore did not reflect a full
quarter's sales from that subsidiary a year ago.
Until April 1999, the Company primarily distributed its entertainment software
products in North America through a large national distributor, GT Value
Products, a division of GT Interactive Software Corporation. At that time, the
Company terminated its exclusive distribution agreement with GT Value Products
and began entering into non-exclusive distribution agreements with various
national distributors, including GT Value Products. The Company has also entered
into several direct sales relationships with certain retailers. This new
distribution strategy is intended to diversify the Company's distribution
channels to retail, provide for more effective inventory management,
merchandising and communications with retailers, diminish the Company's
dependence on any one third-party distributor for sales of the Company's
products, and increase the potential gross profit margin that may be realized on
the sale of its products. The Company continues to distribute its products
through GT Value Products to certain mass merchandise retailers that purchase
value-priced software exclusively through GT Value Products. The Company's
product sales to GT Value Products accounted for 15% and 72% of the Company's
net sales for the quarters ended September 30, 1999 and 1998, respectively. For
the quarters ended September 30, 1999 and 1998, sales of the Company's products
to other distributors accounted for approximately 38% and 28% of the Company's
net sales, while direct sales to retailers accounted for approximately 47% and
0% of the Company's net sales, respectively. The Company believes that for the
year ending June 30, 2000, sales to GT Value Products could account for a
decreasing, but significant, amount of the Company's net sales.
The Company has continued to take steps to increase distribution of its products
via the Internet, including improving and expanding its web site; establishing
electronic distribution capabilities over the Internet; and incorporating
on-line functionality into existing products. Sales of the Company's products
via the Internet represented less than 1% of the Company's net sales for the
quarters ended September 30, 1999 and 1998, respectively.
During the quarters ended September 30, 1999 and 1998, the Company's provision
for product returns was approximately $1,041,000 and $20,000, respectively, or
twenty percent and one percent of the Company's gross sales, respectively. The
Company has increased its provision for product returns primarily as a result of
increased exposure to potential returns caused by the change in the Company's
distribution relationship with GT Value Products, as well as the Company's other
recently established distribution relationships, all of which allow for product
returns. The Company expects to experience a higher return rate as a result of
increased distribution of its products into non-traditional retail stores, such
as drug stores. The Company expects the return rates from these stores to be
higher than returns experienced to date from traditional retail stores.
Cost of Sales and Gross Profit Margin
Cost of sales for the quarter ended September 30, 1999 were $1,603,000 compared
to $881,000 for the quarter ended September 30, 1998, representing an increase
of $722,000 or 82%. This increase was caused primarily by increased product
costs associated with the 64% rise in product sales along with increases in
freight and royalty costs associated with the Company's expanded distribution of
its full-release software titles into new and existing retail relationships.
Product costs consist mainly of replicated compact discs, printed materials,
protective jewel cases and boxes for certain products. Gross profit margin for
the quarter ended September 30, 1999 decreased to 61.1%, from 64.9% for the
quarter ended September 30, 1998. This decrease in gross profit margin was
caused primarily by increased freight costs associated with the Company's
expansion into new retail opportunities, and increased royalty costs associated
with the Company's shift to publishing and distributing primarily full-release
<PAGE>
Item 2. Management's Discussion and Analysis of Financial Condition and Results
of Operations (continued)
products. The Company had primarily distributed shareware products in the first
quarter of fiscal 1999.. These cost increases were partially offset by a
decrease in product costs resulting from a combination of a reduction in
per-unit product costs due to volume discounts and an increased per unit selling
price achieved through increases in direct retail distribution.
Operating Expenses
Product development expenses for the quarter ended September 30, 1999 were
$243,000 compared to $206,000 for the quarter ended September 30, 1998, an
increase of $37,000 or 18%. This increase was caused primarily by an increase in
salary and related costs for employees hired to focus on the Company's product
development and quality assurance efforts, which was due to the Company's
significant increase in the development of full-release products during the
quarter ended September 30, 1999 as compared to the quarter ended September 30,
1998.
The development of full-release software requires substantially greater
resources than producing shareware-based software, because it involves
identifying potential sources of software content, negotiating licensing
agreements with the developers of such content, and preparing a finished product
based upon the acquired content, which requires additional in-house or
independent contractor development efforts. Additionally, as competition for
quality software content intensifies, the Company anticipates that it will
require additional resources to continue to develop high-quality products.
The Company recorded sales from 45 full-release game products for the quarter
ended September 30, 1999 compared to recorded sales from 13 full-release game
products for the quarter ended September 30, 1998. The Company also introduced
six fully localized products in five foreign languages during the quarter,
namely: French, German, Spanish, Italian and Portuguese. These products include
localized external packaging, instructive electronic help files and complete
software translation which are intended to permit the Company to further
penetrate the foreign markets. Also during the first quarter of fiscal 2000, the
Company continued its efforts in technical revisions of existing game products
to incorporate, among other changes, the Company's "browser-like" interface
which incorporates advertising functions to facilitate potential direct
marketing and advertising efforts.
Selling, general and administrative expenses for the quarter ended September 30,
1999 were $1,600,000 compared to $980,000 for the quarter ended September 30,
1998, an increase of $620,000 or 63%. This increase was caused primarily by
increases in marketing promotional costs, salary and related costs and operating
expenses incurred by the Company's sales and distribution operation in the
United Kingdom, acquired on August 14, 1998, which were not experienced for the
full quarter a year ago.
Interest Expense, net
Net interest expense for the quarter ended September 30, 1999 was $5,000
compared to $11,000 for the quarter ended September 30, 1998, a decrease of
$6,000 or 55%. The primary reason for this decrease was the reduction of
long-term debt and capital lease obligations due to normal monthly principal
payments.
Provision for Income Taxes
Provision for income taxes for the quarter ended September 30, 1999 was $89,000
compared to $26,000 for the quarter ended September 30, 1998, an increase of
$63,000. The increase in the provision for income taxes was primarily due to the
increase in net income achieved during the first quarter of fiscal 2000, as
compared to the net income for first quarter of fiscal 1999. The effective
income tax rates of 13% and 6% for the quarters ended September 30, 1999 and
1998, respectively reflect the limitation of certain net operating loss
carryforwards not available to offset federal and state taxable income.
<PAGE>
Item 2. Management's Discussion and Analysis of Financial Condition and Results
of Operations (continued)
Net Income
Net income for the quarter ended September 30, 1999 was $577,000 compared to
$403,000 for the quarter ended September 30, 1998, an increase of $174,000 or
43%. This increase in profitability resulted primarily from the increase in
gross profit derived from increased sales, which was partially reduced by an
increase in operating expenses necessary to support the Company's increased
sales.
Liquidity and Capital Resources
As of September 30, 1999, the Company's cash and working capital balances were
$550,000 and $3,465,000, respectively, and the Company's total stockholders'
equity balance at September 30, 1999 was $3,929,000. The Company's cash balance
has decreased by $764,000 since June 30, 1999, primarily as a result of reduced
cash collections from the Company's customers during the quarter. These lower
cash collections were caused by a smaller amount of the Company's accounts
receivable becoming due and payable in this quarter, due to the historical
seasonal decline in sales of the Company's products in the quarter ended June
30, 1999. Additionally, the Company has experienced a gradual slowing in
receivable collections from one of its existing distributors. The Company
continues to receive ongoing receivable payments from this distributor and is
managing its sales and receivable collections based upon a mutually agreed
distribution plan. At September 30, 1999, this distributor represented
approximately 36% of the Company's accounts receivable.
Net cash used in operating activities was $746,000 for the quarter ended
September 30, 1999 as opposed to net cash provided by operating activities of
$179,000 for the quarter ended September 30, 1998. The $746,000 net cash used in
operating activities for the quarter ended September 30, 1999 resulted primarily
from the increase in accounts receivable, which was partially offset by
increases in the Company's net income adjusted for non-cash depreciation and
amortization expense, accounts payable, accrued expenses, inventory and prepaid
expenses. As indicated in the accompanying financial statements, the Company's
net income for the quarter ended September 30, 1999 was $577,000 and the
Company's net income for the quarter ended September 30, 1998 was $403,000.
Net cash used in investing activities for the quarter ended September 30, 1999
and 1998 were $30,000 and $60,000, respectively. The $30,000 in net cash used in
investing activities for the quarter ended September 30, 1999, resulted from the
purchase of furniture and equipment.
Net cash provided by financing activities was $9,000 for the quarter ended
September 30, 1999 and net cash used in financing activities was $46,000 for the
quarter ended September 30, 1998. During the quarter ended September 30, 1999,
the Company received net proceeds from the exercise of Common Stock options
totaling $110,000, and made repayments of notes payable and capital lease
obligations of $94,000 and $7,000, respectively.
On October 26, 1998, the Company's Board of Directors authorized the Company to
purchase up to $1,000,000 of its shares of Common Stock in the Nasdaq SmallCap
Market. During the quarter ended September 30, 1999 the Company did not purchase
any shares of its Common Stock. As of September 30, 1999, the Company had
acquired 231,900 shares of its Common Stock, at an approximate cost of $501,000,
pursuant to its stock repurchase program.
On September 28, 1999, the Company entered into an agreement with a commercial
bank to extend and increase its existing $1 million revolving credit facility to
a $1.5 million revolving credit facility expiring October 31, 2000. This credit
facility was established to provide, among other things, additional working
capital to support the Company's anticipated growth. Amounts outstanding under
this credit facility are charged interest at one-half of one percent above the
bank's current prime rate and such interest is due monthly. The credit facility
is
<PAGE>
Item 2. Management's Discussion and Analysis of Financial Condition and Results
of Operations (continued)
collateralized by substantially all of the Company's assets. The credit facility
requires the Company, among other things, to maintain certain financial ratios,
such as: a minimum working capital balance of $1,500,000 and a maximum debt to
net tangible assets ratio of 1.50 to 1.00. As of September 30, 1999, the Company
was in compliance with each of those covenants. As of November 8, 1999, the
Company had not utilized this credit facility.
The Company's ability to achieve and maintain positive cash flow depends upon a
variety of factors, including the timeliness and success of the collection of
outstanding accounts receivable, the creditworthiness of the distributors and
retailers that purchase the Company's products, the successful development and
sell-through of the Company's products, the costs of developing, producing and
marketing such products, and various other factors, some of which are beyond the
Company's control. In the future, the Company expects its cash and working
capital requirements to be affected by each of these factors. The Company
believes cash and working capital balances will be sufficient to fund the
Company's operations for the foreseeable future. However, there can be no
assurances that the Company will be able to achieve and maintain a positive cash
flow or that additional financing will be available if and when required or, if
available, will be on terms satisfactory to the Company.
Year 2000
The Company's State of Readiness
- --------------------------------
The Company has reviewed its critical information systems for Year 2000
compliance. The compliance review revealed that all but one of the Company's
critical information systems were Year 2000 compliant, which system was upgraded
in December 1998.
The Company has determined that there should be no Year 2000 issues for the
products it has already sold since the Company's products predominantly contain
no date-sensitive software.
As part of the Company's Year 2000 compliance review, the Company has contacted
its primary vendors, distributors and customers to determine the extent to which
the Company is vulnerable to such third parties' failures to address their Year
2000 compliance issues. The Company has received responses indicating Year 2000
compliance from all of its primary vendors, including the primary third-party
manufacturers of the Company's products and packaging. Responses have also been
received from the majority, but not all, of the significant distributors of the
Company's products, as well as retailers to which a significant amount of
product has been sold to date. The Company will continue to work to obtain
sufficient information and assurances from its significant vendors, distributors
and customers as the Year 2000 approaches. However, there can be no guarantee
that third parties on which the Company's business relies will adequately
address their Year 2000 compliance issues nor is there any guarantee that the
failure by such third parties to adequately deal with such issues would not have
a material adverse effect on the Company and its operations.
The Cost to Address the Company's Year 2000 Issues
- --------------------------------------------------
The Company has completed its Year 2000 compliance review of its critical
information systems, including the upgrading of one of its software systems at
an approximate cost of $15,000. The Company's Year 2000 compliance review of its
third party suppliers, distributors and vendors is an ongoing process, but to
date has not required any material amount of Company resources or funds. The
Company's costs to review and address any Year 2000 compliance issues are not
expected to be material to the Company's financial position, cash flow or
results of operations.
<PAGE>
Item 2. Management's Discussion and Analysis of Financial Condition and Results
of Operations (continued)
The Risks Associated with the Company's Year 2000 Compliance
- ------------------------------------------------------------
The Company believes that its primary risk associated with Year 2000 compliance
is the failure of third parties upon whom the Company's business relies to
timely address their Year 2000 issues. Failure by third parties to adequately
address their Year 2000 issues in a timely manner could result in disruptions in
the Company's supply of products, packaging and related materials, late, missed
or unapplied payments, temporary disruptions in order processing and other
general problems related to the Company's daily operations.
While the Company believes its Year 2000 compliance review procedures will
adequately address the Company's internal Year 2000 issues, until the Company
receives responses from all of its significant vendors, distributors and
customers, the overall risks associated with the Year 2000 issue currently
remain difficult to accurately describe and quantify, and there can be no
guarantee that such uncertainty will not have a material adverse effect on the
Company's business, operating results and financial position.
The Company's Year 2000 Contingency Plan
- ----------------------------------------
As of October 31, 1999, the Company finalized its Year 2000 Contingency plan,
which involved identifying third parties that had not yet confirmed their Year
2000 compliance status and then identifying alternative third parties that could
replace the non-compliant third parties if it became necessary to do so. The
Company anticipates establishing contacts with the alternative third party
companies prior to December 31, 1999.
Forward-Looking Statements
This report contains statements that are forward-looking, as that term is
defined by the Private Securities Litigation Reform Act of 1995 and by the
Securities and Exchange Commission in rules, regulations and releases. These
statements include, but are not limited to, statements regarding: the Company's
efforts to diversify the distribution channels used to distribute its products,
including direct sales to traditional and alternative software retailers and use
of the Internet; the projected amount of sales of the Company's products to GT
Value Products during the 2000 fiscal year; the Company's expectations regarding
increased product returns caused by the change in the Company's distribution
relationships as well as increased distribution of its products into
non-traditional retail stores; the ability of the Company's localized products
to further penetrate foreign markets; the sufficiency of the Company's cash and
working capital balances to fund the Company's operations in the future; the
increase in the Company's gross profit margin; and the Company's expectations
and cost estimates regarding its Year 2000 compliance efforts. All
forward-looking statements are based on current expectations regarding
significant risk factors, and such statements should not be regarded as a
representation by the Company or any other person that the results expressed in
this report will be achieved.
The following important factors, among others discussed elsewhere in this
report, could cause the Company's actual results to differ materially from those
indicated by the forward-looking statements contained in this report: the
success of the Company's new distribution strategy, including its ability to
enter into new distribution and direct sales relationships on commercially
acceptable terms; the market acceptance and successful sell-through of the
Company's existing and new products in the United States and international
markets; the allocation of adequate shelf space for the Company's products in
major retail chain stores; the Company's ability to collect outstanding accounts
receivable and establish adequate reserves for uncollectible receivables; the
amount of returns of the Company's products from distributors and retailers and
the Company's ability to establish adequate reserves for product returns; the
continued increase in the number of computers in homes in North America and the
world; the ability to deliver products in response to orders within a
commercially acceptable time frame; downward pricing pressure; fluctuating costs
of developing, producing and marketing the Company's products; the
<PAGE>
Item 2. Management's Discussion and Analysis of Financial Condition and Results
of Operations (continued)
Company's ability to license or develop quality content for its products; the
Company's ability to access alternative distribution channels and the success of
the Company's efforts to develop its Internet sales; consumers' continued demand
for value-priced software; increased competition in the value-priced software
category; the ability of the Company and its key distributors, vendors and
suppliers to effectively address Year 2000 compliance issues; and various other
factors, many of which are beyond the Company's control. The Company does not
undertake to update any forward-looking statement made in this report or that
may be made from time to time by or on behalf of the Company.
Part II. Other Information
Item 6. Exhibits and Reports on Form 8-K
(a) Exhibits
Exhibit No. Description of Exhibit
----------- ----------------------
27.1 Financial Data Schedule
(b) Reports on Form 8-K
On October 20, 1999, the Company filed a report on Form 8-K regarding a press
release announcing the Company's unaudited results for the first quarter ended
September 30, 1999.
On October 25, 1999, the Company filed a report on Form 8-K announcing the
Company's agreement with Sovereign Bank to extend and increase its existing $1
million revolving credit facility to a $1.5 million revolving credit facility
expiring October 31, 2000.
<PAGE>
SIGNATURES
In accordance with the requirements of the Exchange Act, the registrant caused
this report to be signed on its behalf by the undersigned, thereunto duly
authorized.
eGames, Inc.
(Registrant)
Date: November 12, 1999 /s/ Gerald W. Klein
----------------- --------------------
Gerald W. Klein, President,
Chief Executive Officer and Director
Date: November 12, 1999 /s/ Thomas W. Murphy
----------------- --------------------
Thomas W. Murphy, Chief Financial
Officer and Chief Accounting Officer
<PAGE>
Exhibit Index
Exhibit No. Description of Exhibit Page Number
----------- ---------------------- -----------
27.1 Financial Data Schedule 17
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<PERIOD-TYPE> 3-MOS
<FISCAL-YEAR-END> JUN-30-2000
<PERIOD-END> SEP-30-1999
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<RECEIVABLES> 5,589,108
<ALLOWANCES> (1,007,949)
<INVENTORY> 1,104,617
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0
0
<COMMON> 8,984,889
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