UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

 

FORM 10-Q

 

QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

For the quarterly period ended September 30, 2018

OR

TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

For the transition period from       to

Commission file number: 000-30653

 

Galaxy Gaming, Inc.

(Exact name of small business issuer as specified in its charter)

 

 

Nevada

 

20-8143439

(State or other jurisdiction of

incorporation or organization)

 

(IRS Employer
Identification No.)

 

 

 

6767 Spencer Street, Las Vegas, NV 89119

(Address of principal executive offices)

 

(702) 939-3254

(Issuer’s telephone number)

 

(Former name, former address and former fiscal year, if changed since last report)

 

Indicate by check mark whether the issuer (1) 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 issuer was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days.    Yes    No  

Indicate by check mark whether the issuer has submitted electronically on its corporate Web site, if any, every Interactive Data File required to be submitted pursuant to Rule 405 of Regulation S-T (§ 232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit such files).    Yes      No  

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, a smaller reporting company or an emerging growth company.

 

Large accelerated filer

 

  

Accelerated filer

 

 

 

 

 

Non-accelerated filer

 

  

Smaller reporting company

 

 

 

 

 

 

 

 

Emerging growth company

 

Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act).     Yes      No  

 

If an emerging growth company, indicate by check mark if the registrant has elected not to use the extended transition period

for complying with any new or revised financial accounting standard provided pursuant to Section 13(a) of the Exchange Act.          

State the number of shares outstanding of each of the issuer’s classes of common stock, as of the latest practicable date: 39,882,591 common shares as of November 12, 2018.

 

 

 


GALAXY GAMING, INC.

QUARTERLY REPORT ON FORM 10-Q FOR THE THREE MONTHS ENDED SEPTEMBER 30, 2018

TABLE OF CONTENTS

 

 

 

Page

 

PART I – FINANCIAL INFORMATION  

 

 

Item 1:

Financial Statements (unaudited)

3

Item 2:

Management’s Discussion and Analysis of Financial Condition and Results of Operations

16

Item 3:

Quantitative and Qualitative Disclosures About Market Risk

20

Item 4:

Controls and Procedures

20

 

 

PART II – OTHER INFORMATION

 

 

Item 1:

Legal Proceedings

21

Item 2:

Unregistered Sales of Equity Securities and Use of Proceeds

21

Item 6:

Exhibits

21

 

 

2


PART I - FINANCIAL INFORMATION

 

 

ITEM 1. FINANCIAL STATEMENTS

Our financial statements included in this Form 10-Q are as follows:

 

Condensed Balance Sheets as of September 30, 2018 (unaudited) and December 31, 2017

4

Condensed Statements of Operations for the three and nine months ended September 30, 2018 and 2017 (unaudited)

5

Condensed Statements of Cash Flows for the nine months ended September 30, 2018 and 2017 (unaudited)

6

Notes to Condensed Financial Statements (unaudited)

7

 

3


GALAXY GAMING, INC.

CONDENSED BALANCE SHEETS

 

 

 

September 30,

 

 

December 31,

 

ASSETS

 

2018

 

 

2017

 

Current assets:

 

(Unaudited)

 

 

 

 

 

Cash, cash equivalents and restricted cash

 

$

5,246,345

 

 

$

3,581,209

 

Accounts receivable, net of allowance of $56,015 and $32,993, respectively

 

 

2,450,825

 

 

 

2,301,752

 

Inventory, net

 

 

694,670

 

 

 

524,126

 

Income tax receivable

 

 

106,178

 

 

 

 

Prepaid expense and other

 

 

450,788

 

 

 

363,102

 

Total current assets

 

 

8,948,806

 

 

 

6,770,189

 

Property and equipment, net

 

 

230,973

 

 

 

263,867

 

Assets deployed at client locations, net

 

 

375,665

 

 

 

373,650

 

Goodwill and other intangible assets, net

 

 

10,358,468

 

 

 

11,452,809

 

Deferred tax assets, net

 

 

230,648

 

 

 

230,648

 

Other assets, net

 

 

 

 

 

23,000

 

Total assets

 

$

20,144,560

 

 

$

19,114,163

 

LIABILITIES AND STOCKHOLDERS’ EQUITY

 

 

 

 

 

 

 

 

Current liabilities:

 

 

 

 

 

 

 

 

Accounts payable

 

$

510,880

 

 

$

1,035,383

 

Accrued expenses

 

 

1,223,634

 

 

 

887,796

 

Income taxes payable

 

 

 

 

 

519,610

 

Revenue contract liability

 

 

1,221,258

 

 

 

1,083,639

 

Deferred rent, current portion

 

 

21,038

 

 

 

23,679

 

Current portion of long-term debt and capital lease obligations

 

 

1,383,386

 

 

 

1,195,787

 

Other current liabilities

 

 

16,387

 

 

 

123,441

 

Total current liabilities

 

 

4,376,583

 

 

 

4,869,335

 

Deferred rent, net

 

 

 

 

 

14,025

 

Capital lease obligations, net

 

 

 

 

 

14,217

 

Long-term debt, net

 

 

8,993,771

 

 

 

7,420,385

 

Common stock warrant liability

 

 

 

 

 

1,333,333

 

Interest rate swap liability

 

 

28,707

 

 

 

 

Total liabilities

 

 

13,399,061

 

 

 

13,651,295

 

Commitments and Contingencies (See Note 11)

 

 

 

 

 

 

 

 

Stockholders’ equity

 

 

 

 

 

 

 

 

Preferred stock, 10,000,000 shares authorized, $0.001 par value;

   0 shares issued and outstanding, respectively

 

 

 

 

 

 

Common stock, 65,000,000 shares authorized; $0.001 par value;

  39,882,591 and 39,565,591 shares issued and outstanding, respectively

 

 

39,883

 

 

 

39,566

 

Additional paid-in capital

 

 

4,507,974

 

 

 

3,957,703

 

Accumulated earnings

 

 

2,197,642

 

 

 

1,465,599

 

Total stockholders’ equity

 

 

6,745,499

 

 

 

5,462,868

 

Total liabilities and stockholders’ equity

 

$

20,144,560

 

 

$

19,114,163

 

 

The accompanying notes are an integral part of the financial statements.  

 

4


GALAXY GAMING, INC.

CONDENSED STATEMENTS OF OPERATIONS

(Unaudited)

 

 

 

Three Months Ended

 

 

Nine Months Ended

 

 

 

September 30, 2018

 

 

September 30, 2017

 

 

September 30, 2018

 

 

September 30, 2017

 

Revenue:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Product leases and royalties

 

$

4,775,754

 

 

$

3,830,351

 

 

$

13,672,459

 

 

$

10,955,055

 

Product sales and service

 

 

30

 

 

 

69

 

 

 

191

 

 

 

9,469

 

Total revenue

 

 

4,775,784

 

 

 

3,830,420

 

 

 

13,672,650

 

 

 

10,964,524

 

Costs and expenses:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Cost of ancillary products and assembled components

 

 

47,828

 

 

 

50,369

 

 

 

107,215

 

 

 

133,517

 

Selling, general and administrative

 

 

2,559,056

 

 

 

2,362,601

 

 

 

7,741,213

 

 

 

6,808,659

 

Research and development

 

 

373,456

 

 

 

139,185

 

 

 

816,657

 

 

 

403,618

 

Depreciation and amortization

 

 

462,402

 

 

 

440,130

 

 

 

1,372,752

 

 

 

1,323,772

 

Share-based compensation

 

 

192,998

 

 

 

384,925

 

 

 

550,588

 

 

 

553,313

 

Total costs and expenses

 

 

3,635,740

 

 

 

3,377,210

 

 

 

10,588,425

 

 

 

9,222,879

 

Income from operations

 

 

1,140,044

 

 

 

453,210

 

 

 

3,084,225

 

 

 

1,741,645

 

Other income (expense):

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Interest expense

 

 

(206,425

)

 

 

(432,466

)

 

 

(819,837

)

 

 

(1,316,045

)

Foreign currency exchange (loss) gain

 

 

(22,095

)

 

 

59,624

 

 

 

(542

)

 

 

125,576

 

Change in estimated fair value of warrant liability

 

 

 

 

 

(86,308

)

 

 

 

 

 

(409,717

)

Change in estimated fair value of interest rate swap liability

 

 

48,528

 

 

 

 

 

 

(28,707

)

 

 

 

Loss on extinguishment of debt

 

 

(1,765

)

 

 

 

 

 

(1,349,271

)

 

 

 

Interest income

 

 

343

 

 

 

 

 

 

974

 

 

 

 

Total other expense

 

 

(181,414

)

 

 

(459,150

)

 

 

(2,197,383

)

 

 

(1,600,186

)

Income (loss) before provision for income taxes

 

 

958,630

 

 

 

(5,940

)

 

 

886,842

 

 

 

141,459

 

Provision for income taxes

 

 

(166,662

)

 

 

(21,990

)

 

 

(154,799

)

 

 

(86,881

)

Net income (loss)

 

$

791,968

 

 

$

(27,930

)

 

$

732,043

 

 

$

54,578

 

Net income (loss) per share, basic and diluted

 

$

0.02

 

 

$

(0.00

)

 

$

0.02

 

 

$

0.00

 

Weighted-average shares outstanding:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Basic

 

 

39,844,863

 

 

 

39,432,982

 

 

 

39,805,144

 

 

 

39,368,521

 

Diluted

 

 

41,184,368

 

 

 

39,432,982

 

 

 

41,059,384

 

 

 

41,216,750

 

 

The accompanying notes are an integral part of the financial statements.

 

5


GALAXY GAMING, INC.

CONDENSED STATEMENTS OF CASH FLOWS

(Unaudited)

 

 

 

Nine Months Ended

 

 

 

September 30, 2018

 

 

September 30, 2017

 

Cash flows from operating activities:

 

 

 

 

 

 

 

 

Net income

 

$

732,043

 

 

$

54,578

 

Adjustments to reconcile net income to net cash provided by operating activities:

 

 

 

 

 

 

 

 

Depreciation and amortization

 

 

1,372,752

 

 

 

1,323,772

 

Amortization of debt issuance costs and debt discount

 

 

119,809

 

 

 

218,910

 

Bad debt expense

 

 

38,374

 

 

 

6,000

 

Loss on extinguishment of debt

 

 

1,349,271

 

 

 

 

Change in estimated fair value of warrant liability

 

 

 

 

 

409,717

 

Change in estimated fair value of interest rate swap liability

 

 

28,707

 

 

 

 

Share-based compensation

 

 

550,588

 

 

 

553,313

 

Unrealized foreign exchange gains on cash, cash equivalents and restricted cash

 

 

(24,601

)

 

 

(92,243

)

Changes in operating assets and liabilities:

 

 

 

 

 

 

 

 

Accounts receivable

 

 

(187,445

)

 

 

(264,842

)

Inventory

 

 

(317,978

)

 

 

(271,149

)

Prepaid expenses and other current assets

 

 

(54,009

)

 

 

(112,410

)

Accounts payable

 

 

(524,503

)

 

 

(132,720

)

Income tax receivable/payable

 

 

(625,788

)

 

 

(124,271

)

Accrued expenses

 

 

335,838

 

 

 

612,611

 

Revenue contract liability

 

 

137,619

 

 

 

35,685

 

Other current liabilities

 

 

(107,054

)

 

 

29,000

 

Deferred rent

 

 

(16,666

)

 

 

(10,111

)

Net cash provided by operating activities

 

 

2,806,957

 

 

 

2,235,840

 

Cash flows from investing activities:

 

 

 

 

 

 

 

 

Investment in intangible assets

 

 

(33,048

)

 

 

(43,917

)

Acquisition of property and equipment

 

 

(67,050

)

 

 

(52,352

)

Net cash used in investing activities

 

 

(100,098

)

 

 

(96,269

)

Cash flows from financing activities:

 

 

 

 

 

 

 

 

Proceeds from debt issued

 

 

11,098,986

 

 

 

 

Proceeds from stock option exercises

 

 

 

 

 

35,000

 

Payments of debt issuance costs

 

 

(136,162

)

 

 

(17,091

)

Payment of warrant liability

 

 

(1,333,333

)

 

 

 

Principal payments on capital lease obligations

 

 

(24,415

)

 

 

(23,087

)

Principal payments on long-term debt

 

 

(10,296,900

)

 

 

(1,361,038

)

Payments of long-term debt redemption premium

 

 

(374,500

)

 

 

 

Net cash used in financing activities

 

 

(1,066,324

)

 

 

(1,366,216

)

Effect of exchange rate changes on cash

 

 

24,601

 

 

 

92,243

 

Net increase in cash, cash equivalents and restricted cash

 

 

1,665,136

 

 

 

865,598

 

Cash, cash equivalents and restricted cash – beginning of period

 

 

3,581,209

 

 

 

2,389,338

 

Cash, cash equivalents and restricted cash – end of period

 

$

5,246,345

 

 

$

3,254,936

 

Supplemental cash flow information:

 

 

 

 

 

 

 

 

Cash paid for interest

 

$

700,027

 

 

$

1,099,738

 

Inventory transferred to assets deployed at client locations

 

$

147,434

 

 

$

172,711

 

Cash paid for income taxes

 

$

795,818

 

 

$

150,000

 

 

The accompanying notes are an integral part of the financial statements.  

 

 

6


GALAXY GAMING, INC.

NOTES TO CONDENSED FINANCIAL STATEMENTS

(Unaudited)

NOTE 1. NATURE OF OPERATIONS

Unless the context indicates otherwise, references to “Galaxy Gaming, Inc.,” “we,” “us,” “our,” or the “Company,” refer to Galaxy Gaming, Inc., a Nevada corporation (“Galaxy Gaming”).

We are an established global gaming company specializing in the design, development, manufacturing, marketing and acquisition of proprietary casino table games and associated technology, platforms and systems for the casino gaming industry. Casinos use our proprietary products and services to enhance their gaming floor operations and improve their profitability, productivity and security, as well as to offer popular cutting-edge gaming entertainment content and technology to their players.  We market our products and services to land-based, riverboat, cruise ship and internet gaming companies located in North America, the Caribbean, Central America, the British Isles, Europe and Africa and to cruise ships and internet gaming sites worldwide.

 

NOTE 2. SIGNIFICANT ACCOUNTING POLICIES

Basis of presentation.  The accompanying condensed financial statements have been prepared in accordance with generally accepted accounting principles in the United States of America (“U.S. GAAP”) and the rules of the Securities and Exchange Commission (“SEC”). In the opinion of management, all adjustments necessary in order for the financial statements to be not misleading have been reflected herein. As permitted by the rules and regulations of the SEC, certain information and footnote disclosures normally included in financial statements prepared in accordance with U.S. GAAP have been condensed or omitted pursuant to those rules and regulations.  The operating results for interim periods are not necessarily indicative of results that may be expected for any other interim period or for the full year.

In the opinion of management, the accompanying unaudited interim condensed financial statements contain all necessary adjustments, consisting only of those of a recurring nature, and disclosures to present fairly our financial position and the results of our operations and cash flows for the periods presented. These unaudited interim condensed financial statements should be read in conjunction with the financial statements and the related notes thereto included in our Form 10-K for the fiscal year ended December 31, 2017, filed with the SEC on April 2, 2018 (the “2017 10-K”).

Basis of accounting. The financial statements have been prepared on the accrual basis of accounting in conformity with U.S. GAAP. Revenues are recognized when earned and expenses (such as wages, consulting expenses, legal, regulatory and professional fees and rent) are recognized when they are incurred. We do not have significant categories of cost of revenue, as most of our revenue is derived from the licensing of intellectual property.

Use of estimates and assumptions. We are required to make estimates, judgments and assumptions that we believe are reasonable based on our historical experience, contract terms, observance of known trends in our company and the industry as a whole, and information available from other outside sources. Our estimates affect reported amounts for assets, liabilities, revenues, expenses and related disclosures. Actual results may differ from initial estimates.

Reclassifications. Certain accounts and financial statement captions in the prior periods have been reclassified to conform to the current period financial statement presentations, including the addition of restricted cash to cash and cash equivalents on the consolidated statements of cash flows as a result of the adoption of ASU No. 2016-18, Statement of Cash Flows (Topic 230): Restricted Cash.  See below for further detail.

Other Significant Accounting Policies. See Note 3 in Item 8. “Financial Statements and Supplementary Data” included in our 2017 10-K.

Recently adopted accounting standards

Revenue Recognition.  Effective January 1, 2018, we adopted Accounting Standards Update (“ASU”) No. 2014-09, Revenue from Contracts with Customers (Topic 606) (“ASC 606”), which is a comprehensive new revenue recognition standard that supersedes virtually all existing revenue guidance, including industry-specific guidance.  Under the new standard, revenue is recognized when control of the promised goods or services is transferred to customers in an amount that reflects the consideration to which we expect to be entitled in exchange for those goods and services.  The standard creates a five-step model that generally requires companies to use more judgment and make more estimates than under the previous guidance when considering the terms of contracts along with all relevant facts and circumstances.  These include the identification of customer contracts and separating performance obligations, the determination of transaction price that potentially includes an estimate of variable consideration, allocating the transaction price to each separate performance obligation, and recognizing revenue in line with the pattern of transfer. We adopted ASC 606 using the modified retrospective approach (reporting the cumulative effect as of the date of adoption).  See Note 3 for further detail.

7


Restricted Cash. Effective January 1, 2018, we adopted ASU No. 2016-18, Statement of Cash Flows (Topic 230): Restricted Cash. This ASU requires amounts generally described as restricted cash and cash equivalents be included with cash and cash equivalents when reconciling the total beginning and ending amounts for the periods shown on the statement of cash flows. We adopted this guidance on a retrospective basis, which resulted in the inclusion of restricted cash within cash and cash equivalents on our balance sheets and statements of cash flows. Such restricted cash represents reserves set side in a restricted bank account in accordance with the requirements of gaming regulations to be used for the purpose of funding payments to winners of jackpots at one of our client locations and was $60,996 and $95,062 at September 30, 2018 and December 31, 2017, respectively. Cash flows from operating activities for the nine months ended September 30, 2017 increased by $8,693 as a result of the adoption of this guidance.

Compensation - Stock Compensation.  Effective January 1, 2018, we adopted ASU No. 2017-09, Compensation—Stock Compensation (Topic 718): Scope of Modification Accounting, which provides clarification on when modification accounting should be used for changes to the terms or conditions of a share-based payment award. The adoption did not have a material impact on our financial statements.

New accounting standards not yet adopted

Leases.  In February 2016, the Financial Accounting Standards Board (“FASB”) issued ASU No. 2016-02, Leases (Topic 842).  The amended guidance is intended to increase transparency and comparability among organizations by recognizing lease assets and lease liabilities on the balance sheet and disclosing key information about leasing arrangements.  The guidance requires lessees and lessors to recognize and measure leases at the beginning of the earliest period presented using a modified retrospective approach.  ASU 2016-02 is effective for fiscal years beginning after December 15, 2018 and interim periods within those fiscal years with earlier adoption permitted.  We will adopt the new standard effective January 1, 2019 and expect to recognize a portion of our operating leases as right-of-use assets and operating lease liabilities on our balance sheets upon adoption, which will increase our total assets and liabilities.

Goodwill Impairment. In January 2017, the FASB issued ASU No. 2017-04, Intangibles – Goodwill and Other (Topic 350): Simplifying the Test for Goodwill Impairment, which simplifies the current two-step goodwill impairment test by eliminating Step 2 of the test. This guidance requires a one-step impairment test in which an entity compares the fair value of a reporting unit with its carrying amount and recognizes an impairment charge for the amount by which the carrying amount exceeds the reporting unit’s fair value, if any. This guidance is effective for fiscal years beginning after December 15, 2019 and interim periods within those fiscal years, and should be applied on a prospective basis. Early adoption is permitted for interim or annual goodwill impairment tests performed on testing dates after January 1, 2017. We are currently evaluating the impact of adopting this guidance and will adopt this guidance for the annual test to be performed for the year ended December 31. 2018.

Fair Value Measurement.  In August 2018, the FASB issued ASU No. 2018-13, Fair Value Measurement (Topic 820): Disclosure Framework – Changes to the Disclosure Requirements for Fair Value Measurement. ASU 2018-13 addresses the required disclosures around fair value measurement, removes certain disclosure requirements related to the fair value hierarchy, modifies existing disclosure requirements related to measurement uncertainty and adds new disclosure requirements. The new disclosure requirements include disclosing the changes in unrealized gains and losses for the period included in other comprehensive income for recurring Level 3 fair value measurements held at the end of the reporting period and the range and weighted average of significant unobservable inputs used to develop Level 3 fair value measurements. The standard is effective for annual periods beginning after December 15, 2019, including interim periods within those annual periods. Early adoption is permitted. We do not believe the adoption of this guidance will have a material impact on our financial statements.

Internal-Use Software. In August 2018, the FASB issued ASU No. 2018-15, Intangibles - Goodwill and Other - Internal-Use Software (Subtopic 350-40): Customer's Accounting for Implementation Costs Incurred in a Cloud Computing Arrangement That Is a Service Contract. ASU 2018-15. This new guidance aligns the requirements for capitalizing implementation costs incurred in a hosting arrangement that is a service contract with the requirements for capitalizing implementation costs incurred to develop or obtain internal-use software. The update is effective for annual periods beginning after December 15, 2019, including interim periods within those annual periods, with early adoption (including early adoption in any interim period) permitted. We do not believe the adoption of this guidance will have a material impact on our financial statements.

 

 

NOTE 3. REVENUE RECOGNITION

 

Adoption of ASC 606, Revenue from Contracts with Customers

 

On January 1, 2018, we adopted ASC 606 and applied it to all contracts using the modified retrospective method. Results for reporting periods beginning after January 1, 2018 are presented under ASC 606, while prior period amounts have not and will not be adjusted and continue to be reported in accordance with our historical accounting treatment under Topic 605, Revenue Recognition.

 

8


The adoption of ASC 606 had the following impact on our balance sheet and statement of operations: (i) we reported higher product leases and royalty revenue and selling, general and administrative expense for the three and nine months ended September 30, 2018 as a result of the assessment of our distributor relationships.  We have entered into agreements with certain distributors in Europe, which sublicense our intellectual property to gaming establishments in Europe. We have historically recorded net revenues (gross revenue generated minus distributor fees paid) as product leases and royalty revenue. However, after applying principal vs. agent considerations to these distributor relationships in accordance with ASC 606, we have determined that revenues earned from gaming establishments in Europe should now be recorded as gross revenue and fees earned by such distributors should be recorded as selling, general and administrative expenses as we had control of the sub-licensed intellectual property prior to the licensing of such intellectual property to the gaming establishments; and (ii) prepayments from customers in advance of the period that the revenue is recognized were historically recorded under the caption “deferred revenue” in the accompanying balance sheet. This caption has now been renamed “revenue contract liability” in accordance with the requirements of ASC 606.

 

For the three months ended September 30, 2018, the adoption of ASC 606 had the following impact on our statement of operations:

 

 

 

Three Months Ended September 30, 2018

 

 

 

As reported

 

 

Balance without the adoption of ASC 606

 

 

Impact of the adoption

 

Product leases and royalties

 

$

4,775,754

 

 

$

4,544,912

 

 

$

230,842

 

Selling, general and administrative expense

 

$

2,559,056

 

 

$

2,328,214

 

 

$

230,842

 

 

For the six months ended September 30, 2018, the adoption of ASC 606 had the following impact on our statement of operations:

 

 

 

Nine Months Ended September 30, 2018

 

 

 

As reported

 

 

Balance without the adoption of ASC 606

 

 

Impact of the adoption

 

Product leases and royalties

 

$

13,672,459

 

 

$

12,968,848

 

 

$

703,611

 

Selling, general and administrative expense

 

$

7,741,213

 

 

$

7,037,602

 

 

$

703,611

 

 

Revenue Recognition

We generate revenue primarily from the licensing of our intellectual property. We also, occasionally, receive a one-time sale of certain products and/or reimbursement of our manufactured equipment.

 

License Fees. We derive product lease and royalty revenue from negotiated recurring fee license agreements and the performance of our products. We account for these agreements as month-to-month contracts for the purposes of ASC 606 and recognize revenue each month as we satisfy our performance obligations by granting access to intellectual property to our clients. In addition, revenue associated with performance-based agreements is recognized during the month that the usage of the product or intellectual property occurs.  We believe it is inappropriate to use the input method as the inputs do not correlate to the satisfaction of our performance obligations. Intellectual property requires significant upfront investment in the form of human resources required for their development and/or capital resources for acquisition from third parties. However, limited maintenance is required once the games have been placed on casino floors. The output method, on the other hand, recognizes revenue based on direct measurements of the value to our customers of the licensed intellectual property, which we believe is more appropriate. We have further applied the “as invoiced” practical expedient under the output method by recognizing product lease and royalty revenue in proportion to the amount for which we have the right to invoice.

 

Some of our intellectual property requires the installation of certain equipment and both the intellectual property and the related equipment are licensed in one bundled package. We have determined that the equipment is not distinct from the intellectual property and, therefore, we have only one performance obligation and, as a result, the allocation of the transaction price to different performance obligations is not necessary.

 

Product Sales.  Occasionally, we sell certain incidental products or receive reimbursement of our manufactured equipment after the commencement of the new license agreement. Revenue from such sales is recognized as a separate performance obligation when we ship the items.  

 

 

 

 

 

 

 

 

9


 

Disaggregation of Revenue.  The following table disaggregates our revenue by major source for the three and six months ended September 30, 2018 and 2017:

 

 

 

Three Months Ended September 30,

 

 

Nine Months Ended September 30,

 

 

 

2018

 

 

2017

 

 

2018

 

 

2017

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Table games

 

$

4,666,150

 

 

$

3,720,987

 

 

$

13,273,184

 

 

$

10,596,140

 

Other

 

 

109,634

 

 

 

109,433

 

 

 

399,466

 

 

 

368,384

 

Total revenue

 

$

4,775,784

 

 

$

3,830,420

 

 

$

13,672,650

 

 

$

10,964,524

 

 

The following table disaggregates our revenue by geographic location for the three and six months ended September 30, 2018 and 2017:

 

 

 

Three Months Ended September 30,

 

 

Nine Months Ended September 30,

 

 

 

2018

 

 

2017

 

 

2018

 

 

2017

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

North America and Caribbean

 

$

3,622,729

 

 

$

3,177,942

 

 

$

10,568,129

 

 

$

9,049,494

 

Europe

 

 

1,153,055

 

 

 

652,478

 

 

 

3,104,521

 

 

 

1,915,030

 

Total revenue

 

$

4,775,784

 

 

$

3,830,420

 

 

$

13,672,650

 

 

$

10,964,524

 

 

Revenue Contract Asset and Liability.  Upon the adoption of ASC 606, we have applied the practical expedient of expensing incremental commissions paid to sales representatives directly related to the acquisition and fulfilment of new contracts, when the amortization period of the contract asset that we otherwise would have recognized is one year or less.

 

We invoice our clients monthly in advance for unlimited use of our intellectual property licenses. Upon the adoption of ASC 606, we recognized a revenue contract liability that represents such advanced billing to our clients for unsatisfied performance.  We reduce the revenue contract liability and recognize revenue when we transfer those goods or services and, therefore, satisfy our performance obligation.

The table below summarizes changes in the revenue contract liability during the nine months ended September 30, 2018:

 

 

 

Revenue Contract liability

 

Beginning balance – January 1, 2018

 

$

1,083,639

 

Increase (advanced billings)

 

 

10,234,834

 

Decrease (revenue recognition)

 

 

(10,097,215

)

Ending balance – September 30, 2018

 

$

1,221,258

 

 

Revenue recognized during the nine months ended September 30, 2018 that was included in the beginning balance of revenue contract liability above was $1,083,639.

 

NOTE 4. INVENTORY

Inventory, net consisted of the following at September 30, 2018 and December 31, 2017: 

 

 

 

2018

 

 

2017

 

Raw materials and component parts

 

$

333,068

 

 

$

235,673

 

Finished goods

 

 

391,602

 

 

 

318,453

 

     Inventory, gross

 

 

724,670

 

 

 

554,126

 

Less: inventory reserve

 

 

(30,000

)

 

 

(30,000

)

     Inventory, net

 

$

694,670

 

 

$

524,126

 

 

 

10


NOTE 5. PROPERTY AND EQUIPMENT

Property and equipment, net consisted of the following at September 30, 2018 and December 31, 2017: 

 

 

 

2018

 

 

2017

 

Furniture and fixtures

 

$

312,639

 

 

$

280,694

 

Automotive vehicles

 

 

215,127

 

 

 

215,127

 

Leasehold improvements

 

 

156,843

 

 

 

156,843

 

Computer equipment

 

 

157,096

 

 

 

121,992

 

Office equipment

 

 

53,485

 

 

 

53,483

 

     Property and equipment, gross

 

 

895,190

 

 

 

828,139

 

Less: accumulated depreciation

 

 

(664,217

)

 

 

(564,272

)

     Property and equipment, net

 

$

230,973

 

 

$

263,867

 

 

Property and equipment, net included $156,843 of leasehold improvements acquired under capital leases as of September 30, 2018 and December 31, 2017.  Accumulated depreciation of leasehold improvements totaled $135,414 and $113,035 as of September 30, 2018 and December 31, 2017, respectively (Note 9).

 

For the nine months ended September 30, 2018 and 2017, depreciation expense related to property and equipment was $99,944 and $115,117, respectively.

 

NOTE 6. ASSETS DEPLOYED AT CLIENT LOCATIONS

 

Assets deployed at client locations, net consisted of the following at September 30, 2018 and December 31, 2017:

 

 

 

2018

 

 

2017

 

Enhanced table systems

 

$

806,955

 

 

$

638,981

 

Less: accumulated depreciation

 

 

(431,290

)

 

 

(265,331

)

    Assets deployed at client locations, net

 

$

375,665

 

 

$

373,650

 

 

For the nine months ended September 30, 2018 and 2017, depreciation expense related to assets deployed at client locations was $145,419 and $84,674, respectively.

 

 

NOTE 7. GOODWILL AND OTHER INTANGIBLE ASSETS

Goodwill and finite-lived intangible assets, net consisted of the following at September 30, 2018 and December 31, 2017:

 

 

 

2018

 

 

2017

 

Goodwill

 

$

1,091,000

 

 

$

1,091,000

 

Finite-lived intangible assets:

 

 

 

 

 

 

 

 

Patents

 

 

13,475,000

 

 

 

13,475,000

 

Customer relationships

 

 

3,400,000

 

 

 

3,400,000

 

Trademarks

 

 

2,880,967

 

 

 

2,880,967

 

Non-compete agreements

 

 

660,000

 

 

 

660,000

 

Internally-developed software

 

 

136,015

 

 

 

102,968

 

     Other intangible assets, gross

 

 

20,551,982

 

 

 

20,518,935

 

Less: accumulated amortization

 

 

(11,284,514

)

 

 

(10,157,126

)

     Other intangible assets, net

 

 

9,267,468

 

 

 

10,361,809

 

     Goodwill and other intangible assets, net

 

$

10,358,468

 

 

$

11,452,809

 

 

For the nine months ended September 30, 2018 and 2017 amortization expense related to the finite-lived intangible assets was $1,127,389 and $1,123,980, respectively.

11


Estimated future amortization expense is as follows:

 

Twelve months Ending September 30,

 

Total

 

2019

 

$

1,508,864

 

2020

 

 

1,491,702

 

2021

 

 

1,401,025

 

2022

 

 

1,392,984

 

2023

 

 

253,507

 

Thereafter

 

 

3,219,386

 

Total amortization

 

$

9,267,468

 

 

NOTE 8. ACCRUED EXPENSES

Accrued expenses consisted of the following at September 30, 2018 and December 31, 2017:

 

 

 

2018

 

 

2017

 

Payroll and related

 

$

1,077,907

 

 

$

712,584

 

Commissions and royalties

 

 

77,768

 

 

 

65,380

 

Professional fees

 

 

19,426

 

 

 

63,488

 

Other

 

 

48,533

 

 

 

46,344

 

     Total accrued expenses

 

$

1,223,634

 

 

$

887,796

 

 

 

NOTE 9. CAPITAL LEASE OBLIGATIONS

Capital lease obligations consisted of the following at September 30, 2018 and December 31, 2017:

 

 

 

2018

 

 

2017

 

Capital lease obligation

 

$

22,563

 

 

$

47,002

 

Less: Current portion

 

 

(22,563

)

 

 

(32,785

)

     Total capital lease obligations – long-term

 

$

 

 

$

14,217

 

 

The capital leases consist of improvements located at our corporate headquarters in Las Vegas, Nevada.  

 

NOTE 10. LONG-TERM DEBT

Long-term debt consisted of the following at September 30, 2018 and December 31, 2017:

 

 

 

2018

 

 

2017

 

Nevada State Bank Term Loan and Revolver

 

$

10,361,600

 

 

$

 

Breakaway Term Loan

 

 

 

 

 

9,450,000

 

Equipment notes payable

 

 

94,977

 

 

 

124,311

 

Insurance notes payable

 

 

 

 

 

73,734

 

     Notes payable, gross

 

 

10,456,577

 

 

 

9,648,045

 

Less:

 

 

 

 

 

 

 

 

     Unamortized debt issuance costs

 

 

(101,983

)

 

 

(480,397

)

     Warrants issued

 

 

 

 

 

(584,261

)

     Notes payable, net

 

 

10,354,594

 

 

 

8,583,387

 

Less: Current portion

 

 

(1,360,823

)

 

 

(1,163,002

)

     Long-term debt, net

 

$

8,993,771

 

 

$

7,420,385

 

 

Nevada State Bank Credit Agreement.  On April 24, 2018, we entered into a credit agreement with ZB, N.A. dba Nevada State Bank (“NSB” and the “NSB Credit Agreement”), which provides for a $11.0 million five-year term loan (the “NSB Term Loan”) and a $1.0 million one-year revolving credit facility (the “NSB Revolver”).  

 

Outstanding balances under the NSB Term Loan and the NSB Revolver accrue interest based on one-month US dollar London interbank offered rate (“LIBOR”) plus an Applicable Margin of 3.50%, or 4.00%, depending on our Leverage Ratio (as defined in the NSB Credit Agreement).  

12


We are required to make monthly principal and interest payments, both of which are calculated over a seven-year term, with a balloon payment due on April 24, 2023.  Borrowings under the NSB Credit Agreement are secured by a lien on substantially all of our assets.

Effective May 1, 2018, we entered into an interest rate swap agreement with an affiliate of NSB (the “Swap Agreement”) to fix the interest rate on the NSB Term Loan at 6.43% (assuming a Leverage Ratio less than 2.0) for three years. The notional amount of the Swap Agreement is initially $10.9 million but will decrease over time as a result of the anticipated principal paydowns.

The NSB Credit Agreement contains affirmative and negative financial covenants and other restrictions customary for borrowings of this nature.  In particular, we are required to maintain a minimum trailing-four-quarters Fixed Charge Coverage Ratio (as defined in the NSB Credit Agreement) of 1.25 and a maximum Leverage Ratio of 3.00.  The NSB Credit Agreement allows us to make share repurchases and to incur up to an additional $1.0 million of unsecured indebtedness provided that we are in compliance with the covenants in the NSB Credit Agreement on a pro forma basis. We were in compliance with the financial covenants of the NSB Credit Agreement as of September 30, 2018.

 

Upon execution of the NSB Credit Agreement, we borrowed $11.0 million under the NSB Term Loan and $0.1 million under the NSB Revolver. Borrowings under the NSB Revolver were repaid in full in July 2018 and $1.0 million was available at September 30, 2018 and the filing date of this Quarterly Report on Form 10-Q.

 

Breakaway Term loan.  In August 2016, we entered into a term loan agreement (the “Breakaway Term Loan Agreement”) for an aggregate principal amount of $10,500,000 (the "Breakaway Term Loan").  In conjunction with the Breakaway Term Loan, we also entered into a warrant agreement (the “Warrant Agreement”), pursuant to which we issued the lenders a six-year warrant to purchase 1,965,780 shares of our common stock (the “Warrants”).

The outstanding principal initially accrued interest at the rate of 14.0% per annum, which decreased to 12.5% per annum for any quarterly period in which we achieved a specified leverage ratio.  Beginning October 1, 2017, the interest rate per annum decreased to 12.5% due to the achievement of such ratio.

 

On April 24, 2018, we used the proceeds from the NSB Term Loan and the NSB Revolver to repay in full the remaining principal amount under the Breakaway Term Loan, together with accrued but unpaid interest, an early redemption premium and associated legal fees.  In addition, we redeemed the Warrants at $1,333,333.  The early redemption of the Breakaway Term Loan resulted in approximately $1.3 million of loss on extinguishment of debt.

 

As of September 30, 2018, future maturities of our long-term debt obligations are as follows:    

 

Twelve months Ending September

 

Total

 

2019

 

$

1,360,823

 

2020

 

 

1,437,950

 

2021

 

 

1,530,149

 

2022

 

 

1,616,655

 

Thereafter

 

 

4,511,000

 

Total notes payable

 

 

10,456,577

 

Less:

 

 

 

 

Unamortized debt issuance costs

 

 

(101,983

)

Notes payable, net

 

$

10,354,594

 

 

 

NOTE 11. COMMITMENTS AND CONTINGENCIES

Concentration of risk. We are exposed to risks associated with a client who represent a significant portion of total revenues. For the nine months ended September 30, 2018 and 2017, respectively, we had the following client revenue concentration:

 

 

 

Location

 

2018

Revenue

 

 

2017

Revenue

 

Client A

 

North America

 

11.0%

 

 

13.6%

 

 

We are also exposed to risks associated with the expiration of our patents. In 2015, domestic and international patents for two of our products expired, which accounted for approximately $6,484,265 or 47.4% of our revenue for the nine months ended September 30, 2018, as compared to $5,370,094 or 49.0% of our revenue for the nine months ended September 30, 2017. We continue to generate higher revenue from these products despite the expiration of the underlying patents and, accordingly, we do not expect the expiration of these patents to have a significant adverse impact on our future financial statements.

13


Operating lease. In February 2014, we entered into a lease (the “Spencer Lease”) for a new corporate office with an unrelated third party. The five-year Spencer Lease is for an approximately 24,000 square foot space, which is comprised of approximately 16,000 square feet of office space and 8,000 square feet of warehouse space. The property is located in Las Vegas, Nevada.

The initial term of the Spencer Lease commenced on April 1, 2014 and expires on June 30, 2019. We were obligated to pay approximately $153,000 in annual base rent in the first year, and the annual base rent is scheduled to increase by approximately 4% each year. We are also obligated to pay real estate taxes and other building operating costs. Subject to certain conditions, we have certain rights under the Spencer Lease, including rights of first offer to purchase the premises if the landlord elects to sell. We also have an option to extend the term of the Spencer Lease for two consecutive terms of three years each, at the then current fair market value rental rate determined in accordance with the terms of the Spencer Lease.

In connection with the Spencer Lease, the landlord agreed to finance tenant improvements of $150,000 (“TI Allowance”). The base rent is increased by an amount sufficient to fully amortize the TI Allowance through the initial Spencer Lease term upon equal monthly payments of principal and interest, with interest imputed on the outstanding principal balance at the rate of 5.5% per annum. The TI Allowance has been classified as a capital lease on the condensed balance sheet (Note 9).

Total rent expense was $222,296 and $217,650 for the nine months ended September 30, 2018 and 2017, respectively.

Estimated future minimum operating lease payment obligations total $179,190, which are all due within the twelve months ending September 30, 2019.  

 

Legal proceedings. In the ordinary course of conducting our business, we are, from time to time, involved in various legal and administrative proceedings, regulatory government investigations and other matters, including those in which we are a plaintiff or defendant, that are complex in nature and have outcomes that are difficult to predict.  We record accruals for such contingencies to the extent we conclude that it is probable that a liability will be incurred and the amount of the related loss can be reasonably estimated.  Our assessment of each matter may change based on future unexpected events.  An unexpected adverse judgment in any pending litigation could cause a material impact on our business operations, intellectual property, results of operations or financial position.  Unless otherwise expressly stated, we believe costs associated with litigation will not have a material impact on our financial position or liquidity, but may be material to the results of operations in any given period.  We assume no obligation to update the status of pending litigation, except as may be required by U.S. GAAP, applicable law, statue or regulation. For a complete description of the facts and circumstances surrounding material litigation to which we are a party, see Note 11 in Item 8. “Financial Statements and Supplementary Data” included in our 2017 10-K.

 

In September 2018, we were served with a complaint by TableMax Gaming, Inc. (“TMax”) regarding an Operation and License Agreement executed between TMax and us in February 2011 (the “TMAX Agreement”).  The complaint, filed in the Eighth Judicial District Court in Clark County, Nevada, alleges that we breached the TMAX Agreement, among other allegations. We filed an answer denying the allegations and counterclaimed for breach of contract, Abuse of Process and Fraud in the Inducement, among other counterclaims.  We believe the TMax complaint lacks any merit and intend to aggressively pursue dismissal of the complaint while pursuing our counterclaims.

 

NOTE 12. STOCKHOLDERS’ EQUITY

On March 31, 2018, we issued 13,000 restricted shares of our common stock valued at $13,520, to each of Messrs. Norm DesRosiers, Bryan Waters and William Zender, who are members of our Board of Directors (the “Board”), in consideration of their service on the Board during the three months ended March 31, 2018.  These shares vested immediately on the grant date.

On June 30, 2018, we issued 13,000 restricted shares of our common stock valued at $15,600, to each of Messrs. DesRosiers, Waters and Zender, in consideration of their service on the Board during the three months ended June 30, 2018.  These shares vested immediately on the grant date.

On September 30, 2018, we issued 13,000 restricted shares of our common stock valued at $16,770, to each of Messrs. DesRosiers, Waters and Zender, in consideration of their service on the Board during the three months ended September 30, 2018.  These shares vested immediately on the grant date.

On April 24, 2018, our Board authorized the repurchase of shares of our common stock in an amount not to exceed $1.0 million. Such repurchases may be made from time to time based on market conditions and may be completed in the open market or in privately-negotiated transactions. Repurchase transactions will be executed only when we believe that we will remain in compliance with the covenants of the NSB Credit Agreement.  Finally, execution of share repurchases may require regulatory approval in one or more jurisdictions. We have not repurchased any of our common stock as of September 30, 2018.

 

14


 

NOTE 13. INCOME TAXES

 

Our forecasted annual effective tax rate at September 30, 2018 was 17.5%, as compared to 56.6% at September 30, 2017.  For the nine months ended September 30, 2018 and 2017, our effective tax rate was 17.5% and 61.4%, respectively.  The decrease in both rates was primarily due to a reduction in the federal statutory rate as a result of the Tax Cuts and Jobs Act signed in December 2017 (the “Tax Act”).  As of September 30, 2018, we had completed our preliminary assessment for the tax effects resulting from the enactment of the Tax Act and made a reasonable estimate of the effect on our annual effective tax rate and existing deferred tax balances. We will continue to make and refine our calculations as additional analysis is completed. In addition, our estimates may also be affected as we gain a more thorough understanding of the Tax Act.

 

NOTE 14. STOCK WARRANTS, OPTIONS AND GRANTS

 

On May 10, 2018, the Board ratified and confirmed the 2014 Equity Incentive Plan (the “2014 Plan”). The 2014 Plan is a broad-based plan under which 5,550,750 shares of our common stock are authorized for issuance for awards, including stock options, stock appreciation rights, restricted stock, and cash incentive awards to members of our Board, executive officers, employees and independent contractors. As of September 30, 2018, 689,000 shares remained available for issuance as new awards under the 2014 Plan.

 

Stock options. During the nine months ended September 30, 2018 and 2017, we issued 270,000 and 1,390,000 options to purchase our common stock, respectively, to members of our Board, executive officers, employees and independent contractors.  

 

The fair value of all stock options granted for the nine months ended September 30, 2018 and 2017 was determined to be $169,807 and $652,895, respectively, using the Black-Scholes option pricing model with the following assumptions:

 

 

 

Nine Months Ended September 30, 2018

 

 

Nine Months Ended September 30, 2017

 

Dividend yield

 

 

0%

 

 

 

0%

 

Expected volatility

 

78%

 

 

80 - 87%

 

Risk free interest rate

 

2.46% - 2.73%

 

 

1.73 - 1.94%

 

Expected life (years)

 

 

5.00

 

 

 

5.00

 

 

A summary of stock option activity is as follows:

 

 

 

Common stock options

 

 

Weighted-

average

exercise price

 

 

Aggregate

intrinsic

value

 

 

Weighted-average

remaining contractual

term (years)

 

Outstanding – December 31, 2017

 

 

2,811,250

 

 

$

0.54

 

 

$

1,849,517

 

 

 

3.65

 

Issued

 

 

270,000

 

 

 

0.98

 

 

 

 

 

 

 

Exercised

 

 

 

 

 

 

 

 

 

 

 

 

Expired

 

 

 

 

 

 

 

 

 

 

 

 

Outstanding – September 30, 2018

 

 

3,081,250

 

 

$

0.58

 

 

$

2,186,179

 

 

 

3.05

 

Exercisable – September 30, 2018

 

 

2,317,916

 

 

$

0.52

 

 

$

1,775,996

 

 

 

2.78

 

 

A summary of unvested stock option activity is as follows:

 

 

Common stock

options

 

 

Weighted-average

exercise price

 

 

Aggregate

intrinsic

value

 

 

Weighted-average

remaining contractual

term (years)

 

Unvested – December 31, 2017

 

 

825,557

 

 

$

0.63

 

 

$

467,379

 

 

 

4.27

 

Granted

 

 

270,000

 

 

 

0.98

 

 

 

 

 

 

 

Vested

 

 

(332,223

)

 

 

0.64