10-Q 1 e10-q.txt FORM 10-Q 1 UNITED STATES SECURITIES AND EXCHANGE COMMISSION Washington, D.C. 20549 ---------------------------- FORM 10-Q (Mark One) X QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE -------- SECURITIES EXCHANGE ACT OF 1934 For the quarterly period ended July 2, 2000 OR TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE -------- SECURITIES EXCHANGE ACT OF 1934 For the transition period from to ---------- ------------------- Commission File No. 1-12962 LAKES GAMING, INC. ------------------ (Exact name of registrant as specified in its charter) Minnesota 41-1913991 --------- ---------- (State or other jurisdiction (I.R.S. Employer of incorporation or organization) Identification No.) 130 Cheshire Lane Minnetonka, Minnesota 55305 --------------------- ----- (Address of principal executive offices) (Zip Code) (952) 449-9092 (Registrant's telephone number, including area code) Indicate by check mark whether the registrant (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 --- --- As of August 9, 2000, there were 10,637,953 shares of Common Stock, $0.01 par value per share, outstanding. 2 LAKES GAMING, INC. AND SUBSIDIARIES INDEX
PAGE OF FORM 10-Q --------- PART I. FINANCIAL INFORMATION ITEM 1. FINANCIAL STATEMENTS Consolidated Balance Sheets as of 3 July 2, 2000 and January 2, 2000 Consolidated Statements of Earnings for 4 the three months ended July 2, 2000 and July 4, 1999 Consolidated Statements of Earnings for the 5 six months ended July 2, 2000 and July 4, 1999 Consolidated Statements of Cash Flows for the 6 six months ended July 2, 2000 and July 4, 1999 Notes to Consolidated Financial Statements 7 ITEM 2. MANAGEMENT'S DISCUSSION AND 13 ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS PART II. OTHER INFORMATION ITEM 1. LEGAL PROCEEDINGS 21 ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF 27 SECURITY HOLDERS ITEM 5. OTHER INFORMATION 27 ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K 29
2 3 LAKES GAMING, INC. AND SUBSIDIARIES CONSOLIDATED BALANCE SHEETS (IN THOUSANDS)
JULY 2, 2000 JANUARY 2, 2000 ---------------------------------------------------------------------------------------------------------------------- ASSETS Current Assets: Cash and cash equivalents $23,740 $24,392 Short-term investments 49,321 27,433 Current installments of notes receivable 12,674 15,406 Accounts receivable 4,979 5,613 Other current assets 7,426 7,380 ---------------------------------------------------------------------------------------------------------------------- Total Current Assets 98,140 80,224 ---------------------------------------------------------------------------------------------------------------------- Property and Equipment-Net 1,127 1,888 ---------------------------------------------------------------------------------------------------------------------- Other Assets: Land held for development 56,696 54,812 Notes receivable-less current installments 26,103 20,022 Cash and cash equivalents-restricted 12,038 12,149 Investments in and notes from unconsolidated affiliates 8,530 8,446 Other long-term assets 5,006 5,997 ---------------------------------------------------------------------------------------------------------------------- Total Other Assets 108,373 101,426 ---------------------------------------------------------------------------------------------------------------------- TOTAL ASSETS $207,640 $183,538 ====================================================================================================================== LIABILITIES AND SHAREHOLDERS' EQUITY Current Liabilities: Accounts payable $214 $488 Income taxes payable 2,920 6,385 Litigation and claims accrual 25,715 8,419 Other accrued expenses 5,799 6,099 ---------------------------------------------------------------------------------------------------------------------- Total Current Liabilities 34,648 21,391 ---------------------------------------------------------------------------------------------------------------------- Long-term Liabilities: Long-term debt-less current installments 1,500 1,500 Deferred income taxes 764 786 ---------------------------------------------------------------------------------------------------------------------- Total Long-Term Liabilities 2,264 2,286 ---------------------------------------------------------------------------------------------------------------------- TOTAL LIABILITIES 36,912 23,677 ---------------------------------------------------------------------------------------------------------------------- COMMITMENTS AND CONTINGENCIES Shareholders' Equity: Capital stock, $.01 par value; authorized 100,000 shares; 10,638 and 10,629 common shares issued and outstanding at July 2, 2000, and January 2, 2000, respectively 106 106 Additional paid-in-capital 131,485 131,406 Accumulated other comprehensive loss (494) (478) Retained Earnings 39,631 28,827 ---------------------------------------------------------------------------------------------------------------------- Total Shareholders' Equity 170,728 159,861 ---------------------------------------------------------------------------------------------------------------------- TOTAL LIABILITIES AND SHAREHOLDERS' EQUITY $207,640 $183,538 ======================================================================================================================
THE ACCOMPANYING NOTES ARE AN INTEGRAL PART OF THESE CONSOLIDATED FINANCIAL STATEMENTS. 3 4 LAKES GAMING, INC. AND SUBSIDIARIES CONSOLIDATED STATEMENTS OF EARNINGS (IN THOUSANDS, EXCEPT EARNINGS PER SHARE)
THREE MONTHS ENDED ------------------------------------- JULY 2, 2000 JULY 4, 1999 ------------ ------------ REVENUES: Management fee income $10,655 $14,892 COSTS AND EXPENSES: Selling, general and administrative 2,747 2,892 Depreciation and amortization 328 479 ---------------------------------------------------------------------------------------------------------------- Total Costs and Expenses 3,075 3,371 ---------------------------------------------------------------------------------------------------------------- EARNINGS FROM OPERATIONS 7,580 11,521 ---------------------------------------------------------------------------------------------------------------- OTHER INCOME (EXPENSE): Interest income 2,116 2,423 Interest expense (24) (24) Equity in loss of unconsolidated affiliates (397) (109) Provision for litigation loss (18,000) - Other - 877 ---------------------------------------------------------------------------------------------------------------- Total other income (expense), net (16,305) 3,167 ---------------------------------------------------------------------------------------------------------------- Earnings (loss) before income taxes (8,725) 14,688 Provision (benefit) for income taxes (3,414) 6,066 ---------------------------------------------------------------------------------------------------------------- NET EARNINGS (LOSS) ($5,311) $8,622 ================================================================================================================ BASIC EARNINGS (LOSS) PER SHARE ($0.50) $0.81 ================================================================================================================ DILUTED EARNINGS (LOSS) PER SHARE ($0.50) $0.80 ================================================================================================================ WEIGHTED AVERAGE COMMON SHARES OUTSTANDING 10,632 10,587 DILUTIVE EFFECT OF STOCK COMPENSATION PROGRAMS 10 192 ---------------------------------------------------------------------------------------------------------------- WEIGHTED AVERAGE COMMON AND DILUTED SHARES OUTSTANDING 10,642 10,779 ================================================================================================================
THE ACCOMPANYING NOTES ARE AN INTEGRAL PART OF THESE CONSOLIDATED FINANCIAL STATEMENTS. 4 5 LAKES GAMING, INC. AND SUBSIDIARIES CONSOLIDATED STATEMENTS OF EARNINGS (IN THOUSANDS, EXCEPT EARNINGS PER SHARE)
SIX MONTHS ENDED ------------------------------------ JULY 2, 2000 JULY 4, 1999 ------------ ------------ REVENUES: Management fee income $41,708 $30,001 COSTS AND EXPENSES: Selling, general and administrative 4,800 4,602 Depreciation and amortization 2,249 955 ---------------------------------------------------------------------------------------------------------------- Total Costs and Expenses 7,049 5,557 ---------------------------------------------------------------------------------------------------------------- EARNINGS FROM OPERATIONS 34,659 24,444 ---------------------------------------------------------------------------------------------------------------- OTHER INCOME (EXPENSE): Interest income 3,746 4,059 Interest expense (49) (49) Equity in loss of unconsolidated affiliates (1,205) (364) Provision for litigation loss (18,000) - Other - 1,288 ---------------------------------------------------------------------------------------------------------------- Total other income (expense), net (15,508) 4,934 ---------------------------------------------------------------------------------------------------------------- Earnings before income taxes 19,151 29,378 Provision for income taxes 8,347 12,194 ---------------------------------------------------------------------------------------------------------------- NET EARNINGS $10,804 $17,184 ================================================================================================================ BASIC EARNINGS PER SHARE $1.02 $1.62 ================================================================================================================ DILUTED EARNINGS PER SHARE $1.02 $1.60 ================================================================================================================ WEIGHTED AVERAGE COMMON SHARES OUTSTANDING 10,631 10,582 DILUTIVE EFFECT OF STOCK COMPENSATION PROGRAMS 4 153 ---------------------------------------------------------------------------------------------------------------- WEIGHTED AVERAGE COMMON AND DILUTED SHARES OUTSTANDING 10,635 10,735 ================================================================================================================
THE ACCOMPANYING NOTES ARE AN INTEGRAL PART OF THESE CONSOLIDATED FINANCIAL STATEMENTS. 5 6 LAKES GAMING, INC. AND SUBSIDIARIES CONSOLIDATED STATEMENTS OF CASH FLOWS (IN THOUSANDS)
SIX MONTHS ENDED -------------------------------- JULY 2, 2000 JULY 4, 1999 ------------ ------------ OPERATING ACTIVITIES: Net earnings $10,804 $17,184 Adjustments to reconcile net earnings to net cash provided by operating activities: Depreciation and amortization 2,249 955 Gain on sale of investment - (875) Equity in loss of unconsolidated affiliates 1,205 364 Provision for litigation loss 18,000 - Changes in operating assets and liabilities: Accounts receivable 648 (34) Income taxes (3,465) (3,459) Accounts payable (274) 191 Accrued expenses (557) (1,701) Other (64) (1,238) -------------------------------------------------------------------------------------------------------------------------- Net Cash Provided by Operating Activities 28,546 11,387 -------------------------------------------------------------------------------------------------------------------------- INVESTING ACTIVITIES: Short-term investments, purchases (27,524) - Short-term investments, sales/maturities 5,653 - Payments for land held for development (1,884) (10,032) Payments for notes receivable (16,771) (6,764) Proceeds from repayment of notes receivable 12,503 5,093 Investment in and notes receivable from unconsolidated affiliates (1,283) (6,639) Decrease in restricted cash, net 111 343 Increase in other long-term assets (56) (798) Payments for property and equipment, net (26) (209) -------------------------------------------------------------------------------------------------------------------------- Net Cash Used in Investing Activities (29,277) (19,006) -------------------------------------------------------------------------------------------------------------------------- FINANCING ACTIVITIES: Proceeds from issuance of common stock 79 111 -------------------------------------------------------------------------------------------------------------------------- Net Cash Provided by Financing Activities 79 111 -------------------------------------------------------------------------------------------------------------------------- Net decrease in cash and cash equivalents (652) (7,508) Cash and cash equivalents - beginning of period 24,392 56,774 -------------------------------------------------------------------------------------------------------------------------- CASH AND CASH EQUIVALENTS - END OF PERIOD $23,740 $49,266 ========================================================================================================================== SUPPLEMENTAL DISCLOSURES OF CASH FLOW INFORMATION: Cash paid during the period for: Interest $49 $49 Income taxes 11,638 12,665
THE ACCOMPANYING NOTES ARE AN INTEGRAL PART OF THESE CONSOLIDATED FINANCIAL STATEMENTS. 6 7 LAKES GAMING, INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED) 1. BUSINESS: Lakes Gaming, Inc., a Minnesota corporation ("Lakes" or the "Company") was established as a public corporation on December 31, 1998, via a distribution (the "Distribution") of its common stock, par value $.01 per share (the "Common Stock") to the shareholders of Grand Casinos, Inc. ("Grand"). Pursuant to the terms of a Distribution Agreement entered into between Grand and Lakes and dated as of December 31, 1998 (the "Distribution Agreement"), Grand shareholders received .25 of one share of Lakes common stock for each share held in Grand. Historical references to the Company which predate the Distribution give pro forma effect to the Distribution as if it had already occurred. Immediately following the Distribution, Grand merged with a subsidiary of Park Place Entertainment Corporation, a Delaware corporation ("Park Place"), pursuant to which Grand became a wholly owned subsidiary of Park Place (the "Merger"). Grand shareholders received one share of Park Place common stock in the Merger for each share they held in Grand. The Merger and Distribution received all necessary shareholder and regulatory approvals and was completed on December 31, 1998. Grand obtained a ruling from the Internal Revenue Service (IRS) that the Distribution qualified as a tax-free transaction, solely with respect to Grand shareholders except to the extent that Grand shareholders received cash in lieu of fractional shares. Lakes manages Indian-owned casinos and owns certain other assets related to potential gaming or commercial development. The Company manages an Indian-owned casino in Kinder, Louisiana and previously managed an Indian-owned casino in Marksville, Louisiana through March 31, 2000. 2. PRINCIPLES OF CONSOLIDATION The accompanying unaudited consolidated financial statements include the accounts of Lakes and its wholly-owned and majority-owned subsidiaries. Investments in unconsolidated affiliates representing between 20% and 50% of voting interests are accounted for on the equity method. All material intercompany balances and transactions have been eliminated in consolidation. Lakes' investments in unconsolidated affiliates include a 24 percent ownership interest in Fanball.com, Inc., a start-up internet provider of fantasy sports services, and a 23 percent ownership interest in Interactive Learning Group, Inc., a consumer product company. Lakes invested $3.4 million and $3 million in Fanball.com and Interactive Learning Group respectively, at the end of the second quarter of 1999. Additionally, as a result of its spin-off from Grand, Lakes received a 49 percent ownership interest in Trak 21 Development, LLC, a developer of player tracking systems for the casino industry, and a 27 percent ownership interest in New Horizon Kids Quest, Inc., a publicly held provider of child care facilities. 7 8 LAKES GAMING, INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED) (UNAUDITED) The consolidated financial statements have been prepared by the Company in accordance with generally accepted accounting principles for interim financial information, in accordance with the rules and regulations of the Securities and Exchange Commission. Pursuant to such rules and regulations, certain financial information and footnote disclosures normally included in the consolidated financial statements have been condensed or omitted. In the opinion of management, all adjustments (consisting of normal recurring adjustments) considered necessary for fair presentation have been included. Operating results for the six months ended July 2, 2000, are not necessarily indicative of the results that may be expected for the year ending December 31, 2000. The consolidated financial statements should be read in conjunction with the consolidated financial statements and notes thereto included in the Company's annual report on Form 10-K for the year ended January 2, 2000. 3. MANAGEMENT CONTRACTS OF LIMITED DURATION The ownership, management and operation of gaming facilities are subject to extensive federal, state, provincial, tribal and/or local laws, regulation, and ordinances, which are administered by the relevant regulatory agency or agencies in each jurisdiction. These laws, regulations and ordinances vary from jurisdiction to jurisdiction, but generally concern the responsibility, financial stability and character of the owners and managers of gaming operations as well as persons financially interested or involved in gaming operations. The Company is prohibited by the Indian Gaming Regulatory Act ("IGRA") from having an ownership interest in any casino it manages for Indian tribes. On March 31, 2000 the Company announced that it had reached an agreement with the Tunica-Biloxi Tribe of Louisiana, effective March 31, 2000, for the early buyout of the management contract for Grand Casino Avoyelles. The Tunica-Biloxi Tribe of Louisiana elected to exercise its option for the early buyout of the contract, which was scheduled to expire on June 3, 2001. The early buyout of the contract was provided for in the original seven-year management agreement and, under the agreement, Lakes was compensated for the management fees the Company would have received had it managed Grand Casino Avoyelles through the original contract expiration date of June 3, 2001, discounted to their present value. Included in management fee income for the six months ended July 2, 2000 is approximately $16 million relating to the early buyout. Lakes was also repaid all amounts owing to it under its loan agreements with the Tribe. The management contract for Grand Casino Coushatta expires January 16, 2002. The Coushatta Tribe and Lakes have agreed on a five-year contract renewal beginning January 17, 2002, subject to National Indian Gaming Commission ("NIGC") approval. Net distributable profits, if any, under the new agreement will be determined in accordance with IGRA and distributed each month 90% to the Coushatta Tribe and 10% to Lakes. There can be no assurance that the Louisiana management contract will be renewed upon expiration or approved by the NIGC upon any such renewal. The failure to obtain approval of the renewed management contract would result in the loss of revenues to the Company derived from such contract, which would have a material adverse effect on the Company's results of operations. 8 9 LAKES GAMING, INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED) (UNAUDITED) The Coushatta Tribe entered into a tribal-state compact with the State of Louisiana on September 29, 1992. This compact was approved in November 1992 by the Secretary of the Interior. The compact for the Coushatta Tribe expired November 4, 1999, and the State of Louisiana has delivered a written notice of non-renewal. The Governor and the Tribe have agreed on a second six-month extension. The Coushatta Tribe is actively negotiating with the State of Louisiana terms for a new compact. In the event the compact is not renewed, gaming may not be permitted at Grand Casino Coushatta. There can be no assurance that this compact will be renewed on acceptable terms and conditions. See Part II, Item 5. Other Information. 4. LITIGATION SETTLEMENT A settlement agreement was reached in June 2000 regarding both the Stratosphere shareholders' litigation and the Grand Casinos, Inc. shareholders' litigation. The agreement required Lakes to pay a total of $18 million, which has been reflected as a non-operating expense in the second quarter of 2000. The settlement agreement is subject to final approval by the respective courts, which is expected to occur later this year. The net income impact of the litigation loss was $10.6 million or $1.00 per diluted share. Adjusted net income, for the six months ended July 2, 2000, excluding the provision for litigation loss was $21.4 million or $2.02 per diluted share. The complaints by the shareholder groups were originally filed in 1996 against various defendants including Grand Casinos, Inc. The complaints included allegations of misrepresentations, federal and state securities law violations and various other claims in connection with the Stratosphere project. As part of the transaction establishing Lakes as a separate public company on December 31, 1998, Lakes agreed to indemnify Grand for all obligations arising out of these lawsuits. 5. COMMITMENTS AND CONTINGENCIES: LEASES The Company leases certain property and equipment under non-cancelable operating leases. Future minimum lease payments, excluding contingent rentals, due under non-cancelable operating leases as of July 2, 2000 are as follows (in thousands):
Operating Leases ---------------- 2000 1,450 2001 2,978 2002 3,109 2003 3,176 2004 3,246 Thereafter 44,179 ------- $58,138 =======
9 10 LAKES GAMING, INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED) (UNAUDITED) PURCHASE OPTION AGREEMENTS As a condition to the Merger, the Company has agreed to exercise its call option to purchase the Shark Club property in Las Vegas, Nevada, not later than January 10, 2001. The option purchase price will be approximately $10 million. The Company also has an option to purchase the Travelodge property in Las Vegas, Nevada for the purchase price of $30 million on October 31, 2017, and options to purchase the Cable property in Las Vegas, Nevada for the purchase price of up to approximately $39 million any time prior to January 2, 2003. LOAN GUARANTY AGREEMENTS On May 1, 1997, the Company entered into a guaranty agreement related to a loan agreement entered into by the Coushatta Tribe of Louisiana in the amount of $25.0 million, for the purpose of constructing a hotel and acquiring additional casino equipment. The guaranty will remain in effect until the loan is paid. The loan term is approximately five years. As of July 2, 2000, the amount outstanding was $16.1 million. INDEMNIFICATION AGREEMENT As a part of the Distribution Agreement and the Agreement and Plan of Merger, dated as of June 30, 1998, by and among Hilton Hotels Corporation, Park Place, Gaming Acquisition Corporation, Lakes and Grand (the "Merger Agreement"), the Company has agreed to indemnify Grand against all costs, expenses and liabilities incurred in connection with or arising out of certain pending and threatened claims and legal proceedings to which Grand and certain of its subsidiaries are likely to be parties. The Company's indemnification obligations include the obligation to provide the defense of all claims made in proceedings against Grand and to pay all related settlements and judgments. See Part II, Item 1. Legal Proceedings. As security to support Lakes' indemnification obligations to Grand under each of the Distribution Agreement and the Merger Agreement, and as a condition to the consummation of the Merger, Lakes has agreed to deposit, in trust for the benefit of Grand, as a wholly owned subsidiary of Park Place, an aggregate of $30 million, to cover various commitments and contingencies related to or arising out of, Grand's non-Mississippi business and assets (including by way of example, but not limitation, tribal loan guarantees, real property lease guarantees for Lakes' subsidiaries and director and executive officer indemnity obligations) consisting of four annual installments of $7.5 million during the four-year period subsequent to the effective date of the Merger. Any surplus proceeds remaining after all the secured obligations are indefeasibly paid in full and discharged shall be paid over to Lakes. Lakes made the first deposit of $7.5 million on December 31, 1999 and such amount is included as restricted cash on the accompanying balance sheets as of July 2, 2000 and January 2, 2000. 10 11 LAKES GAMING, INC. AND SUBSIDIARIES MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS (UNAUDITED) As part of the indemnification agreement, Lakes has agreed that it will not declare or pay any dividends, make any distribution of Lakes' equity interests, or otherwise purchase, redeem, defease or retire for value any equity interests in Lakes without the written consent of Park Place. 6. SUBSEQUENT EVENTS On July 31, 2000, the Company announced that it had formed a joint venture, Metroplex-Lakes, LLC, with Metroplex, LLC to develop Las Vegas real estate now controlled by Lakes. Metroplex, LLC is owned by Las Vegas based real estate developer Brett Torino who will manage the joint venture. Metroplex-Lakes, LLC plans to develop an upscale retail, commercial, hotel and entertainment complex on approximately 16 acres surrounding the corner of Harmon Avenue and Las Vegas Boulevard (the "Strip") in Las Vegas. The joint venture has a two-year option to buy the majority of the site from Lakes at a price that will approximately equal Lakes' investment in the property plus the assumption of Lakes' future obligations under a long-term ground lease. The joint venture will also assume Lakes' option to purchase the remainder of the site from a third party. Lakes will have voting control of the joint venture, however, development decisions affecting the real estate purchased by the joint venture must be mutually agreed upon. Lakes and Metroplex will share results from the joint venture equally. On August 10, 2000, the Company announced that it had agreed to form a joint venture for the purpose of developing two new gaming facilities on Indian owned land in California. Under the agreement, Lakes will form two separate limited liability companies with MRD Gaming, a limited liability company based in Las Vegas, NV. MRD and its affiliates have successfully developed two other Indian casinos, one in Arizona and one in Kansas. The partnership between Lakes and MRD will hold contracts to develop and open two casino resort facilities with two separate American Indian Tribes in California. Development at each casino resort location will start as soon as various regulatory approvals are obtained by each applicable Tribe. On August 10, 2000, the Company announced that it is actively negotiating agreements with prospective partners that would result in two new business ventures. One potential area of new business that Lakes is actively exploring involves the life settlement industry. Lakes has currently agreed to provide up to $3 million in bridge loans to a participant in the industry. Lakes has also agreed in principle to form a wholly-owned subsidiary for the purpose of making a $22.5 million subordinated term loan to the same company. A portion of the term loan is convertible at Lakes' option into a majority ownership interest in the borrower. 11 12 LAKES GAMING, INC. AND SUBSIDIARIES MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS (UNAUDITED) Lakes' commitment to proceed with the term loan is subject to the borrower's securing a $150 million revolving warehouse credit facility to enable the borrower to purchase and then securitize pools of life settlements. The borrower will use the Lakes' loan proceeds as equity support for the warehouse facility. The proceeds of the warehouse facility will be used to purchase existing life insurance policies from persons 65 years or older. The life settlement business through such a purchase provides liquidity to the holder of the policy during his or her lifetime. The company that Lakes is planning to do business with expects to receive a funding commitment from a warehouse lender in the near future. This transaction is subject to negotiation and execution of definitive documents, due diligence, regulatory approvals and other conditions. Another business opportunity involves international internet gaming. Lakes is considering establishing one or more web sites to conduct online gaming in a regulated country, taking wagers placed from only outside the United States. Lakes has identified an experienced provider of online gaming technology and is negotiating a contract under which Lakes would license the provider's technology for the new gaming web sites. The provider would create and maintain the gaming web sites under a proposed two year service agreement. Any transaction is subject to negotiation and execution of definitive documents, due diligence, regulatory approvals and other conditions. 12 13 LAKES GAMING, INC. AND SUBSIDIARIES MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS (UNAUDITED) ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS OVERVIEW Lakes was established as a public corporation on December 31, 1998, via a distribution of its common stock, par value $.01 per share, to the shareholders of Grand. Pursuant to the terms of the Distribution Agreement entered into between Grand and Lakes dated as of December 31, 1998, Grand shareholders received .25 of one share of Lakes Common Stock for each share held in Grand. Historical references to the Company which preclude the distribution give pro forma effect to the Distribution as if it had already occurred. Immediately following the Distribution, Grand merged with a subsidiary of Park Place pursuant to which Grand became a wholly owned subsidiary of Park Place (the "Merger"). Grand shareholders received one share of Park Place common stock in the Merger for each share they held in Grand. As a result of the Distribution, Lakes operates the Indian casino management business and holds various other assets previously owned by Grand. The Company's revenues are derived almost exclusively from management fees. Lakes manages a land-based, Indian-owned casino in Louisiana: Grand Casino Coushatta, in Kinder, Louisiana ("Grand Casino Coushatta"), owned by the Coushatta Tribe of Louisiana (the "Coushatta Tribe"). The management contract expires seven years from the date the casino opened. The Coushatta Tribe and Lakes have agreed on a five-year contract renewal beginning January 17, 2002, subject to NIGC approval. Net distributable profits, if any, under the new agreement will be determined in accordance with IGRA and distributed each month 90% to the Coushatta Tribe and 10% to Lakes. The Company also managed a second land-based, Indian-owned casino in Marksville, Louisiana ("Grand Casino Avoyelles"), owned by the Tunica-Biloxi Tribe of Louisiana (the "Tunica-Biloxi Tribe") through March 31, 2000. On March 31, 2000 the Company announced that it had reached an agreement with the Tunica-Biloxi Tribe of Louisiana, effective March 31, 2000 for the early buyout of the management contract for Grand Casino Avoyelles. The Tunica-Biloxi Tribe of Louisiana elected to exercise its option for the early buyout of the contract, which was scheduled to expire on June 3, 2001. The early buyout of the contract was provided for in the original seven-year management agreement and, under the agreement, Lakes was compensated for the management fees the company would have received had it managed Grand Casino Avoyelles through the original contract expiration date of June 3, 2001, discounted to their present value. Lakes was also repaid all amounts owing to it under its loan agreements with the Tribe. 13 14 LAKES GAMING, INC. AND SUBSIDIARIES MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS (UNAUDITED) Lakes develops, constructs and manages casinos and related hotel and entertainment facilities in emerging and established gaming jurisdictions. Lakes' revenues are derived from management fee income from Grand Casino Coushatta. For a portion of fiscal 1998, and prior to the Distribution, Grand also had management contracts for Indian-owned casinos located at Grand Casino Hinckley and Grand Casino Mille Lacs in Minnesota. The management contract at Grand Casino Mille Lacs expired at the end of the first quarter of 1998, and the management of Grand Casino Hinckley ended November 30, 1998, with the buyout of the remaining contract term. Grand commenced operations in September 1990, and opened its first casino, Grand Casino Mille Lacs, in April 1991. Grand Casino Hinckley commenced operations in May 1992, Grand Casino Avoyelles commenced operations in June 1994 and Grand Casino Coushatta commenced operations in January 1995. Pursuant to the Coushatta management contract, Lakes receives a fee based on the net distributable profits (as defined in the contracts) generated by Grand Casino Coushatta. On May 12, 1999, the Company announced that it would form a partnership for the purpose of developing a gaming facility on Indian-owned land near San Diego, California. Under the agreement, Lakes has formed a limited liability company with KAR, a limited liability company based in Houston, Texas. The partnership between Lakes and KAR holds a contract to develop and manage a casino resort facility with the Jamul Indian Village in California. The contract is subject to approval by NIGC. California voters recently approved an amendment to the State Constitution which allows for Nevada-style gaming on Indian land and ratifies the Tribal Compact. Development of the casino resort will begin once various regulatory approvals are received. On June 22, 1999, the Company announced that it has been selected by the Pokagon Band of Potawatomi Indians (the "Band") to serve as the exclusive developer and manager of a proposed casino gaming resort facility to be owned by the Band in the state of Michigan. In connection with its selection, Lakes and the Band have executed a development and management agreement governing their relationship during the development, construction and management of the casino. Various regulatory approvals are needed prior to commencement of development activities. Casino construction is not planned to start until land is accepted into trust status by the Secretary of the Interior and the agreements are approved by the Chairman of NIGC. On January 18, 2000, a Michigan Ingham County Circuit Judge ruled that the Michigan State Legislature acted improperly in 1998 when it approved casino compacts by joint resolution. The Governor of the State of Michigan has indicated that he will appeal the ruling. The ruling directly affects four tribes in Michigan, one of which is the Pokagon Band of Potawatomi Indians with whom Lakes has development and management contracts. Lakes is continuing to work with the Band to have land accepted into Trust by the Secretary of Interior and to have the management agreement approved by the NIGC. 14 15 LAKES GAMING, INC. AND SUBSIDIARIES MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS (CONTINUED) (UNAUDITED) On July 15, 1999, the Company announced that it would form a partnership for the purpose of developing a gaming facility on Indian-owned land near Sacramento, California. Pursuant to the agreement, Lakes has formed a limited liability company with KAR, a limited liability company based in Houston, Texas. The partnership between Lakes and KAR has been awarded a contract to develop and manage a casino resort facility with the Shingle Springs Band of Miwok Indians in California. The contract is subject to approval by NIGC and placement of the land where the gaming facility is to be located into trust with the Bureau of Indian Affairs ("BIA"). California voters recently approved an amendment to the State Constitution which allows for Nevada-style gaming on Indian land and ratifies the Tribal Compact. Development of the casino resort will begin once various regulatory approvals are received. On October 1, 1999, the Company purchased the shopping center and land owned by the Nevada Resort Properties Polo Plaza Limited Partnership (the "Partnership") in lieu of exercising its right to purchase the remaining 51% interest in the Partnership. Prior to the purchase, the Company held a 49% ownership interest in the Partnership. In consideration for the purchase, the Company paid approximately $3.3 million and paid off the outstanding partnership mortgage of approximately $6.3 million. A $6.2 million loan to the Partnership made by the Company during January 1999 was repaid and satisfied at the closing by offsetting an appropriate amount against the purchase price as agreed by the Company and the Partnership. Pursuant to the purchase agreement relating to this transaction, the Partnership is in the process of being dissolved. Lakes' investments in unconsolidated affiliates include a 24 percent ownership interest in Fanball.com, Inc., a start-up internet provider of fantasy sports services, and a 23 percent ownership interest in Interactive Learning Group, Inc., a consumer product company. Lakes invested $3.4 million and $3 million in Fanball.com and Interactive Learning Group respectively, at the end of the second quarter of 1999. Additionally, as a result of its spin-off from Grand, Lakes received a 49 percent ownership interest in Trak 21 Development, LLC, a developer of player tracking systems for the casino industry, and a 27 percent ownership interest in New Horizon Kids Quest, Inc., a publicly held provider of child care facilities. On June 19, 2000, the Company announced that a settlement agreement had been reached regarding both the Stratosphere shareholders' litigation and the Grand Casinos, Inc. shareholders' litigation. The agreement required Lakes to pay a total of $18 million, which has been reflected as a non-operating expense in the second quarter of 2000. This amount was paid into escrow and related accounts in July 2000 for full and final settlement for all federal and state related actions. The settlement is subject to final approval by the respective courts, which is expected to occur later this year. Lakes' limited operating history may not be indicative of Lakes' future performance. In addition, a comparison of results from year to year may not be meaningful due to the opening of new facilities during each year. Lakes' growth strategy contemplates the expansion of existing operations and the pursuit of opportunities to develop and manage additional gaming facilities and the pursuit of new business opportunities. The successful implementation of this growth strategy is contingent upon the satisfaction of various conditions, including obtaining governmental approvals, the impact of increased competition, and the occurrence of certain events, many of which are beyond the control of Lakes. 15 16 LAKES GAMING, INC. AND SUBSIDIARIES MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS (CONTINUED) (UNAUDITED) The following discussion and analysis should be read in conjunction with the consolidated financial statements and notes thereto included in the Company's Annual Report on Form 10-K for the year ended January 2, 2000. RESULTS OF OPERATIONS Revenues are calculated in accordance with generally accepted accounting principles and are presented in a manner consistent with industry practice. Net distributable profits from Grand Casino Coushatta are computed using a modified cash basis of accounting in accordance with the management contracts. The effect of the use of the modified cash basis of accounting is to accelerate the write-off of capital equipment and leased assets, which thereby impacts the timing of net distributable profits. Lakes is prohibited by the IGRA from having an ownership interest in any casino it manages for Indian tribes. The management contract for Grand Casino Coushatta expires January 16, 2002. The Coushatta Tribe and Lakes have agreed on a five-year contract renewal beginning January 17, 2002, subject to NIGC approval. Net distributable profits, if any, under the new agreement will be determined in accordance with IGRA and distributed each month 90% to the Coushatta Tribe and 10% to Lakes. There can be no assurance that the Grand Casino Coushatta extension will be approved by NIGC. The failure to obtain approval of the renewed management contract would result in the loss of revenues to Lakes derived from such contract, which would have a material, adverse effect on Lakes' results of operations. The Coushatta Tribe entered into a tribal-state compact with the State of Louisiana on September 29, 1992. This compact was approved in November 1992 by the Secretary of the Interior. The compact for the Coushatta Tribe expired November 4, 1999, and the State of Louisiana has delivered a written notice of non-renewal. The Governor and the Coushatta Tribe have agreed on a second six-month extension. The Coushatta Tribe is actively negotiating with the State of Louisiana terms for a new compact. In the event the compact is not renewed, gaming may not be permitted at Grand Casino Coushatta. There can be no assurance that this compact will be renewed on terms and conditions acceptable to the Coushatta Tribe. See Part II, Item 5. Other Information. SIX MONTHS ENDED JULY 2, 2000 COMPARED TO THE SIX MONTHS ENDED JULY 4, 1999 Revenues Grand Casino Avoyelles and Grand Casino Coushatta generated approximately $41.7 million and $30 million in management fee income during the six months ended July 2, 2000 and July 4, 1999, respectively. The increase is due primarily to the inclusion of approximately $16.0 million in management fee income relating to the early buyout of the management contract for Grand Casino Avoyelles in the first quarter of 2000, which is partially offset by the inclusion of no management fees from Grand Casino Avoyelles during the second quarter of 2000. 16 17 LAKES GAMING, INC. AND SUBSIDIARIES MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS (CONTINUED) (UNAUDITED) Costs and Expenses Total costs and expenses were $7.0 million for the six months ended July 2, 2000, compared to $5.6 million for the same period in the prior year. Depreciation and amortization expense increased from $1.0 million for the six months ended July 4, 1999 to $2.2 million for the six months ended July 2, 2000, due to increased amortization in the current year period related to the early buyout of the management contract for Grand Casino Avoyelles, at the end of the first quarter of 2000. Other Provision for litigation loss was $18 million for the six months ended July 2, 2000. This amount relates to a settlement agreement reached in June 2000 regarding both the Stratosphere shareholders' litigation and the Grand Casinos, Inc. shareholders' litigation. The agreement required Lakes to pay a total of $18 million, which has been reflected as a non-operating expense in the second quarter of 2000. This amount was paid into escrow and related accounts in July 2000 for full and final settlement for all federal and state related actions. The settlement agreement is subject to final approval by the respective courts, which is expected to occur later this year. Equity in loss of unconsolidated affiliates increased from $.4 million for the six months ended July 4, 1999 to $1.2 million for the six months ended July 2, 2000, due primarily to investments in Interactive Learning Group, Fanball.com and Trak 21. Other income was $0 and $1.3 million for the six months ended July 2, 2000 and July 4, 1999, respectively. Earnings per Common Share and Net Earnings For the six months ended July 2, 2000, basic and diluted earnings per common share were $1.02. This compares to basic and diluted earnings of $1.62 and $1.60 per common share, respectively, for the six months ended July 4, 1999. Earnings decreased $6.4 million to $10.8 million for the six months ended July 2, 2000 compared to the same period in the prior year. This decrease is primarily due to the provision for litigation loss of $18 million, which is partially offset by the early buyout of the Company's management contract of Grand Casino Avoyelles by the Tunica-Biloxi Tribe of Louisiana at the end of the first quarter of 2000. Total management fees under this expired contract were $19.8 million and $7.4 million, during the periods ended July 2, 2000 and July 4, 1999, respectively. THREE MONTHS ENDED JULY 2, 2000 COMPARED TO THE THREE MONTHS ENDED JULY 4, 1999 Revenues Grand Casino Coushatta generated approximately $10.7 million in management fee income during the three months ended July 2, 2000. Grand Casino Avoyelles and Grand Casino Coushatta generated approximately $14.9 million in management fee income during the three months ended July 4, 1999. This decrease is due to the early buyout of the Company's management contract of Grand Casino Avoyelles by the Tunica-Biloxi Tribe of Louisiana at the end of the first quarter of 2000. The Company's current year period revenues do not include contributions from this operation. 17 18 LAKES GAMING, INC. AND SUBSIDIARIES MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS (CONTINUED) (UNAUDITED) Costs and Expenses Total costs and expenses were $3.1 million for the three months ended July 2, 2000, compared to $3.4 million for the same period in the prior year. Selling, general, and administrative expenses and depreciation and amortization expense decreased slightly in comparison with the prior year period. Other Provision for litigation loss was $18 million for the three months ended July 2, 2000. This amount relates to a settlement agreement reached in June 2000 regarding both the Stratosphere shareholders' litigation and the Grand Casinos, Inc. shareholders' litigation. The agreement required Lakes to pay a total of $18 million, which has been reflected as a non-operating expense in the second quarter of 2000. This amount was paid into escrow and related accounts in July 2000 for full and final settlement for all federal and state related actions. The settlement agreement is subject to final approval by the respective courts, which is expected to occur later this year. Other income was $0 and $.9 million for the three months ended July 2, 2000 and July 4, 1999, respectively. Earnings per Common Share and Net Earnings For the three months ended July 2, 2000 basic and diluted losses per common share were $.50. This compares to basic and diluted earnings of $.81 and $.80 per common share, respectively, for the three months ended July 4, 1999. Losses totaled $5.3 million for the three months ended July 2, 2000 compared to earnings of $8.6 million for the same prior year period. Included in the second quarter 2000 results is a provision for litigation loss of $18 million as described above. Also contributing to the decrease in earnings was the early buyout of the management contract for Grand Casino Avoyelles by the Tunica-Biloxi Tribe of Louisiana, which occurred at the end of the first quarter of 2000. The Company's current year period earnings do not include contributions from this operation. Second quarter net earnings for 1999 when excluding results related to Grand Casino Avoyelles were $.61 per share compared to $.50 per share before provision for litigation loss, for the second quarter of 2000. The decrease in earnings relates primarily to decreases in interest income and other income of $.3 million and $.9 million, respectively, and an increase in equity in unconsolidated affiliates of $.3 million during the second quarter of 2000 compared to the second quarter of 1999. CAPITAL RESOURCES, CAPITAL SPENDING, AND LIQUIDITY At July 2, 2000, Lakes had $35.8 million in restricted and unrestricted cash and cash equivalents. At July 2, 2000, the Company also had $49.3 million in short-term, available-for-sale investments, consisting primarily of a fixed income portfolio made up of various types of bonds which are rated A1 or better. The cash balances are planned to be used for loans to current tribal partners to help develop operations, the pursuit of additional gaming and non-gaming opportunities, and potential settlement of pending litigation matters. 18 19 LAKES GAMING, INC. AND SUBSIDIARIES MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS (CONTINUED) (UNAUDITED) For the six months ended July 2, 2000 and July 4, 1999, net cash provided by operating activities totaled $28.5 million and $11.4 million, respectively. For the same periods, net cash used in investing activities totaled $29.3 million $19.0 million, respectively. Included in these investing activities for the six months ended July 2, 2000 and July 4, 1999, are proceeds, primarily from repayment of notes receivable from Indian-owned casinos, which amounted to $12.5 million and $5.1 million, respectively. Advances under notes receivable amounted to $16.8 million and $6.8 million for the six months ended July 2, 2000 and July 4, 1999, respectively. Also during these periods, payments for land in Las Vegas, Nevada, held for development amounted to $1.9 million and $10.0 million, respectively, and short-term investments increased $21.9 million and $0, respectively. As security to support Lakes' indemnification obligations to Grand under each of the Distribution Agreement and the Merger Agreement, and as a condition to the consummation of the Merger, Lakes agreed to deposit, in trust for the benefit of Grand, as a wholly owned subsidiary of Park Place, an aggregate of $30 million, consisting of four annual installments of $7.5 million, on each annual anniversary of the Distribution and Merger. Lakes' ability to satisfy this funding obligation is materially dependent upon the continued success of its operations and the general risks inherent in its business. In the event Lakes is unable to satisfy its funding obligation, it would be in breach of its agreement with Grand, possibly subjecting itself to additional liability for contract damages, which could have a material adverse effect on Lakes' business and results of operations. The Company made the first deposit of $7.5 million on December 31, 1999 and such amount is included as restricted cash on the accompanying consolidated balance sheets as of July 2, 2000 and January 2, 2000. SEASONALITY The Company believes that the operation of casinos managed by the Company are affected by seasonal factors, including holidays, weather and travel conditions. REGULATION AND TAXES The Company is subject to extensive regulation by state gaming authorities. The Company will also be subject to regulation, which may or may not be similar to current state regulations, by the appropriate authorities in any other jurisdiction where it may conduct gaming activities in the future. Changes in applicable laws or regulations could have an adverse effect on the Company. The gaming industry represents a significant source of tax revenues. From time to time, various federal legislators and officials have proposed changes in tax law, or in the administration of such law, affecting the gaming industry. It is not possible to determine the likelihood of possible changes in tax law or in the administration of such law. Such changes, if adopted, could have a material adverse effect on the Company's results of operations and financial results. 19 20 LAKES GAMING, INC. AND SUBSIDIARIES MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS (CONTINUED) (UNAUDITED) PRIVATE SECURITIES LITIGATION REFORM ACT The Private Securities Litigation Reform Act of 1995 provides a "safe harbor" for forward-looking statements. Certain information included in this integrated Quarterly Report on Form 10-Q and other materials filed or to be filed by the Company with the Securities and Exchange Commission (as well as information included in oral statements or other written statements made or to be made by the Company) contain statements that are forward-looking, such as plans for future expansion and other business development activities as well as other statements regarding capital spending, financing sources and the effects of regulation (including gaming and tax regulation) and competition. Such forward-looking information involves important risks and uncertainties that could significantly affect the anticipated results in the future and, accordingly, actual results may differ materially from those expressed in any forward-looking statements made by or on behalf of the Company. These risks and uncertainties include, but are not limited to, those relating to development and construction activities, dependence upon existing management, pending litigation, domestic or global economic conditions and changes in federal or state tax laws or the administration of such laws and changes in gaming laws or regulations (including the legalization of gaming in certain jurisdictions). For further information regarding these risks and uncertainties, see the "Business -- Risk Factors" section of the Company's Annual Report on Form 10-K for the year ended January 2, 2000. 20 21 LAKES GAMING, INC. AND SUBSIDIARIES PART II OTHER INFORMATION ITEM 1. LEGAL PROCEEDINGS The following summaries describe certain known legal proceedings to which Grand is a party which Lakes has assumed, or with respect to which Lakes has agreed to indemnify Grand, in connection with the Distribution. STRATOSPHERE SHAREHOLDERS LITIGATION - FEDERAL COURT In August 1996, a complaint was filed in the U.S. District Court for the District of Nevada -- Michael Ceasar, et al v. Stratosphere Corporation, et al -- against Stratosphere and others, including Grand. The complaint was filed as a class action, and sought relief on behalf of Stratosphere shareholders who purchased their stock between December 19, 1995 and July 22, 1996. The complaint included allegations of misrepresentations, federal securities law violations and various state law claims. In August through October 1996, several other nearly identical complaints were filed by various plaintiffs in the U.S. District Court for the District of Nevada. The defendants in the actions submitted motions requesting that all of the actions be consolidated. Those motions were granted in January 1997, and the consolidated action is entitled In re: Stratosphere Corporation Securities Litigation -- Master File No. CV-S-96-00708 PMP (RLH). In February 1997, the plaintiffs filed a consolidated and amended complaint naming various defendants, including Grand and certain current and former officers and directors of Grand. The amended complaint includes claims under federal securities laws and Nevada laws based on acts alleged to have occurred between December 19, 1995 and July 22, 1996. The Court has recently signed a scheduled order, which cuts off fact discovery as of April 30, 2000 and expert discovery as of September 30, 2000. The parties have submitted preliminary pretrial statements, which may be amended after the completion of discovery. In February 1997, various defendants, including Grand and Grand's officers and directors named as defendants, submitted motions to dismiss the amended complaint. Those motions were made on various grounds, including Grand's claim that the amended complaint failed to state a valid cause of action against Grand and Grand's officers and directors. 21 22 LAKES GAMING, INC. AND SUBSIDIARIES PART II OTHER INFORMATION (CONTINUED) In May 1997, the court dismissed the amended complaint. The dismissal order did not allow the plaintiffs to further amend their complaint in an attempt to state a valid cause of action. In June 1997, the plaintiffs asked the court to reconsider its dismissal order, and to allow the plaintiffs to submit a second amended complaint in an attempt to state a valid cause of action. In July 1997, the court allowed the plaintiffs to submit a second amended complaint. In August 1997, the plaintiffs filed a second amended complaint. In September 1997, certain of the defendants, including Grand and Grand's officers and directors named as defendants, submitted a motion to dismiss the second amended complaint. The motion was based on various grounds, including Grand's claim that the second amended complaint failed to state a valid cause of action against Grand and Grand's officers and directors. In April 1998, the Court granted Grand's motion to dismiss, in part, and denied the motion in part. Thus, the plaintiffs are pursuing the claims in the second amended complaint that survived the motion to dismiss. In June 1998, certain of the defendants, including Grand and Grand's officers and directors named as defendants, submitted a motion for summary judgment seeking an order that such defendants are entitled to judgment as a matter of law. In December 1998, the plaintiffs completed fact discovery related to the issues raised by the summary judgment motion. Expert discovery was completed in March of 1999. All papers relating to this matter were filed on June 1, 1999. On October 6, 1999, the District Court entered its Order, granting in part and denying in part, defendants' Motion for Summary Judgment and Summary Adjudication. The Court dismissed all allegations in reference to (1) Phase II funding levels; (2) "over-allotments uses", as stated in the December 19, 1995 Prospectus; (3) the purpose and use of the Grand Casino Completion Guaranty, as stated in the June 6, 1996 Press Statement; (4) the vague expressions of general optimism (issued within the December 19, 1995 Prospectus, the 10-Q and 10-K Filings, press releases and other public statements) referred to in this Order; (5) the adoption of statements in securities analysts reports; (6) the alleged utterance of misleading statements before the Nevada Gaming Commission; and (7) the temporary diversion of Phase II proceeds to fund Phase I. The remaining claims relate to the accuracy of defendants' budgetary estimates issued in Stratosphere's December 1995 Prospectus and SEC 10-Q and 10-K Reports. The Court concluded that there were triable issues as to whether defendants misstated anticipated construction costs or omitted to disclose material cost overruns. The Court recently added the Company as an additional defendant because of its indemnity obligation and stipulation. 22 23 LAKES GAMING, INC. AND SUBSIDIARIES PART II OTHER INFORMATION (CONTINUED) The parties have reached a tentative settlement covering the Stratosphere shareholders litigation. A draft stipulation of settlement is currently under review. The Stratosphere state and federal settlement will be $9 million, if approved, inclusive of all plaintiffs fees and costs. The $9 million was placed into an account by Lakes on behalf of the recipients in July 2000. STRATOSPHERE SHAREHOLDERS LITIGATION - NEVADA STATE COURT In August 1996, a complaint was filed in the District Court for Clark County, Nevada -- Victor M. Opitz, et al v. Robert E. Stupak, et al -- Case No. A363019 -- against various defendants, including Grand. The complaint seeks relief on behalf of Stratosphere Corporation shareholders who purchased stock between December 19, 1995 and July 22, 1996. The complaint alleges misrepresentations, state securities law violations and other state claims. Grand and certain defendants submitted motions to dismiss or stay the state court action pending resolution of the federal court action described above. The court has stayed further proceedings pending the resolution of In re: Stratosphere Securities Litigation. As described under "Stratosphere Shareholders Litigation - Federal Court" above, the parties have reached a tentative $9 million settlement covering the Stratosphere shareholders litigation in federal and state courts. GRAND CASINOS, INC. SHAREHOLDERS LITIGATION In September and October 1996, two actions were filed by Grand shareholders in the U.S. District Court for the District of Minnesota against Grand and certain of Grand's current and former directors and officers. The complaints allege misrepresentations, federal securities law violations and other claims in connection with the Stratosphere project. The actions have been consolidated as In re: Grand Casinos, Inc. Securities Litigation -- Master File No. 4-96-890 -- and the plaintiffs filed a consolidated complaint. The defendants submitted a motion to dismiss the consolidated complaint, based in part on Grand's claim that the consolidated complaint failed to properly state a cause of action. The consolidated complaint sought class action treatment for a class comprising all persons (other than the defendants) who purchased Grand common stock during the period from December 19, 1995 through July 19, 1996. In December 1997, the court granted Grand's motion to dismiss in part, and denied the motion in part. Thus, the plaintiffs are pursuing the claims in the consolidated complaint that survived Grand's motion to dismiss. Discovery in the action has begun. 23 24 LAKES GAMING, INC. AND SUBSIDIARIES PART II OTHER INFORMATION (CONTINUED) The defendants have submitted a motion for summary judgment seeking an order that the defendants are entitled to judgment as a matter of law. In December 1998, the plaintiffs completed fact discovery related to the issues raised by the summary judgement motion. Expert discovery was completed in March of 1999. The parties have completed follow-up discovery pertaining to the summary judgment motion. The court heard the motion on September 2, 1999. On March 28, 2000, the court granted the motion in part, and denied the motion in part. The court dismissed, with prejudice, all claims against the defendants as to the members of the putative class who did not purchase Grand common stock during the period from December 19, 1995 through June 6, 1996, inclusive. In early February 1999, the plaintiffs filed a motion for leave to amend the complaint in this action to include, as defendants in the case, both the Company and Park Place. The motion for leave to amend the complaint has been granted and Lakes has filed its answer. On June 19, 2000, the Company announced that a settlement agreement had been reached regarding the litigation. The agreement called for the Company to pay $9 million to the Grand shareholders for full and final settlement of all claims covering the original class period. The settlement agreement is subject to final approval by the U.S. District Court for the District of Minnesota. The $9 million was placed into an escrow account by Lakes on behalf of the recipients in July 2000. SLOT MACHINE LITIGATION In April 1994, William H. Poulos brought an action in the U.S. District Court for the Middle District of Florida, Orlando Division -- William H. Poulos, et al v. Caesars World, Inc. et al -- Case No. 39-478-CIV-ORL-22 -- in which various parties (including Grand) alleged to operate casinos or be slot machine manufacturers were named as defendants. The plaintiff sought to have the action certified as a class action. A subsequently filed Action -- William Ahearn, et al v. Caesars World, Inc. et al -- Case No. 94-532-CIV-ORL-22 -- made similar allegations and was consolidated with the Poulos action. Both actions included claims under the federal Racketeering-Influenced and Corrupt Organizations Act and under state law, and sought compensatory and punitive damages. The plaintiffs claimed that the defendants are involved in a scheme to induce people to play electronic video poker and slot machines based on false beliefs regarding how such machines operate and the extent to which a player is likely to win on any given play. 24 25 LAKES GAMING, INC. AND SUBSIDIARIES PART II OTHER INFORMATION (CONTINUED) In December 1994, the consolidated actions were transferred to the U.S. District Court for the District of Nevada. In September 1995, Larry Schreier brought an action in the U.S. District Court for the District of Nevada -- Larry Schreier, et al v. Caesars World, Inc. et al -- Case No. CV-95-00923-DWH(RJJ). The plaintiffs' allegations in the Schreier action were similar to those made by the plaintiffs in the Poulos and Ahearn actions, except that Schreier claimed to represent a more precisely defined class of plaintiffs than Poulos or Ahearn. In December 1996, the court ordered the Poulos, Ahearn and Schreier actions consolidated under the title William H. Poulos, et al v. Caesars World, Inc., et al -- Case No. CV-S-94-11236-DAE(RJJ) -- (Base File), and required the plaintiffs to file a consolidated and amended complaint. In February 1997, the plaintiffs filed a consolidated and amended complaint. In March 1997, various defendants (including Grand) filed motions to dismiss or stay the consolidated action until the plaintiffs submitted their claims to gaming authorities and those authorities considered the claims submitted by the plaintiffs. In December 1997, the court denied all of the motions submitted by the defendants, and ordered the plaintiffs to file a new consolidated and amended complaint. That complaint has been filed. Grand has filed its answer to the new complaint. The plaintiffs have filed a motion seeking an order certifying the action as a class action. Grand and certain of the defendants have opposed the motion. The Court has not ruled on the motion. STANDBY EQUITY COMMITMENT LITIGATION In September 1997, the Stratosphere Trustee under the indenture pursuant to which Stratosphere issued its first mortgage notes filed a complaint in the U.S. District Court for the District of Nevada -- IBJ Schroeder Bank & Trust Company, Inc. v. Grand Casinos, Inc. -- File No. CV-S-97-01252-DWH (RJJ) -- naming Grand as defendant. The complaint alleges that Grand failed to perform under the Standby Equity Commitment entered into between Stratosphere and Grand in connection with Stratosphere's issuance of such first mortgage notes in March 1995. The complaint seeks an order compelling specific performance of what the Trustee claims are Grand's obligations under the Standby Equity Commitment. 25 26 LAKES GAMING, INC. AND SUBSIDIARIES PART II OTHER INFORMATION (CONTINUED) The Stratosphere Trustee filed the complaint in its alleged capacity as a third party beneficiary under the Standby Equity Commitment. Pursuant to the Second Amended Plan, a new limited liability company (the "Stratosphere LLC") was formed to pursue certain alleged claims and causes of action that Stratosphere and other parties may have against numerous third parties, including Grand and/or officers and/or directors of Grand. The Stratosphere LLC has been substituted for IBJ Schroeder Bank & Trust Company, Inc. in this proceeding. In October of 1999, portions of the Motions for Summary Judgment by both parties were denied in part. The Court has subsequently denied Grand's request for expedited appellate court review as to the portions of Motions that were denied. Thereafter, the parties jointly sought the Court's consideration of a subsequent summary judgment motion. The Court declined the parties' request and instead required the filing of an extensive joint pretrial order. The Court has recently scheduled the matter for trial on September 12, 2000. The Court further advised that a telephonic calendar call is scheduled for August 30, 2000. Lakes will continue to defend the lawsuit diligently. STRATOSPHERE PREFERENCE ACTION In April 1998, Stratosphere served on Grand and Grand Media & Electronics Distributing, Inc., a wholly owned subsidiary of Grand ("Grand Media"), a complaint in the Stratosphere bankruptcy case seeking recovery of certain amounts paid by Stratosphere to (i) Grand as management fees and for costs and expenses under a management agreement between Stratosphere and Grand, and (ii) Grand Media for electronic equipment purchased by Stratosphere from Grand Media. Stratosphere claims in its complaint that such amounts are recoverable by Stratosphere as preferential payments under bankruptcy law. In May 1998, Grand responded to Stratosphere's complaint. That response denies that Stratosphere is entitled to recover the amounts described in the complaint. The matter is pending. OTHER LITIGATION The Company has recorded a reserve assessment related to various of the above items. The reserve is reflected as a litigation and claims accrual on the accompanying consolidated balance sheet as of July 2, 2000. Grand and Lakes are involved in various other inquiries, administrative proceedings, and litigation relating to contracts and other matters arising in the normal course of business. While any proceeding or litigation has an element of uncertainty, management currently believes that the final outcome of these matters is not likely to have a material adverse effect upon Grand's or the Company's consolidated financial position or results of operations. 26 27 LAKES GAMING, INC. AND SUBSIDIARIES PART II OTHER INFORMATION (CONTINUED) ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS (a) The Annual Meeting of Shareholders was held on May 3, 2000. (b) Matters voted upon: (1) Directors elected at meeting:
Affirmative Authority Votes Withheld ----------- ---------- Lyle Berman 9,755,678 149,677 Morris Goldfarb 9,756,345 149,010 Ronald Kramer 9,756,320 149,035 Neil I. Sell 9,756,345 149,010 Timothy J. Cope 9,756,308 149,047 Joel N. Waller 9,756,345 149,010
(2) The appointment of Arthur Andersen, LLP, Certified Public Accountants, as independent auditors of the Company for the 2000 fiscal year was ratified:
Affirmative Negative Votes Votes Abstentions ------------ ---------- ----------- 9,875,517 12,288 17,550
ITEM 5. OTHER INFORMATION The Coushatta Tribe entered into a Tribal-State compact with the State of Louisiana on September 29, 1992. This compact was approved in November 1992 by the Secretary of the Interior. The compact for the Coushatta Tribe expired November 4, 1999. The compact would have automatically renewed for an additional seven year term if neither the Tribe nor the State of Louisiana had delivered to the other written notice of non-renewal at least 180 days prior to the applicable expiration date. On April 7, 1999, the State of Louisiana provided written notice to the Coushatta Tribe of Louisiana of the State's intent not to renew the Tribal-State compact. The State further extended an invitation to the Tribe to continue to discuss mutually advantageous terms and conditions under which the State and the Tribe can enter into a new gaming compact. The Governor and the Tribe have agreed on a second six-month extension which has been submitted to the Department of the Interior for approval. 27 28 LAKES GAMING, INC. AND SUBSIDIARIES PART II OTHER INFORMATION (CONTINUED) IGRA requires that for Class III gaming to occur on Indian land, it must be conducted in accord with an effective state compact. IGRA further imposes an obligation on state governments, upon the request of a Tribe, to negotiate with Indian Tribes regarding the operation of gaming activities which are otherwise allowable within the state "by any person, organization or entity". Louisiana currently permits various forms of legalized, non-Indian gaming. The Tribe is actively negotiating with the State to establish a suitable alternative compact. It is unclear what consequences, if any, might result, in the event the Tribe and the State are unable to either negotiate a suitable alternative compact or agree to an extension of the existing compact. To the knowledge of the Company, there has been no prior instance where an existing compact has expired without either a replacement compact in place or an extension (temporary or permanent) of the present compact. Nonetheless, the Company's Management Agreement with the Tribe provides that, absent a determination by (i) NIGC, (ii) the Congress of the United States, (iii) the Department of the Interior or (iv) a final judgment from a court of competent jurisdiction, that the operation of Grand Casino Coushatta would be unlawful under either federal or state law, Lakes and the Tribe are obligated in their duties to each other, as set forth in the Management Agreement. As outlined above, in the absence of a determination by (i) NIGC, (ii) the Congress of the United States, (iii) the Department of the Interior or (iv) a final judgment from a court of competent jurisdiction, that the operation of Grand Casino Coushatta would be unlawful under either federal or state law, so long as the Tribe continues to conduct gaming activities at Grand Casino Coushatta, Lakes intends to continue to operate and manage the casino and to abide by the terms and obligations of the Management Agreement. If the terms of the current Tribal-State compact expire, without the execution of a new compact or the extension of the current compact, there is a risk that (i) NIGC, (ii) the Congress of the United States, (iii) the Department of the Interior, (iv) the United States Department of Justice or (v) a court of competent jurisdiction could take action against the Tribe and Grand Casino Coushatta resulting in the cessation of gaming operations at the casino and the inability of Lakes to manage the casino. The cessation of gaming operations at Grand Casino Coushatta or the inability of Lakes to manage the gaming operations at the casino would result in the loss of revenues to Lakes derived from the contract, which would have a material adverse effect on Lakes' results of operations. Currently, the management contract for Grand Casino Coushatta generates all of Lakes' operating revenues. Without the realization of new business opportunities or new management contracts, the cessation of gaming operations at the casino or the inability of Lakes to manage the operations, would have a material adverse impact on Lakes' results of operations and financial condition. 28 29 LAKES GAMING, INC. AND SUBSIDIARIES PART II OTHER INFORMATION (CONTINUED) ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K (a) Exhibits 10.1 Joint Contribution Agreement by and between Grand Casinos Nevada I, Inc., Metroplex, LLC, Lakes Gaming, Inc., and Metroplex-Lakes, LLC dated as of April 25, 2000. 10.2 Member Control Agreement of Metroplex-Lakes, LLC by and between Grand Casinos Nevada I, Inc., Metroplex, LLC, and Metroplex-Lakes, LLC dated as of April 25, 2000. 10.3 Real Estate Option Agreement by and between Grand Casinos Nevada I, Inc., Metroplex-Lakes, LLC, and Metroplex, LLC dated as of April 25, 2000. 10.4 Amended and Restated Option Agreement by and between Martin J. Cable and Olga B. Cable, as Trustees of the Cable Family Trust and Grand Casinos Nevada I, Inc. dated as of June 1, 2000. 27 Financial Data Schedule (for SEC use only) (b) Reports on Form 8-K (i) A Form 8-K, Item 5. Other Events, was filed on August 4, 2000. 29 30 SIGNATURES Pursuant to the requirements of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned, thereunto duly authorized. Dated: August 16, 2000 LAKES GAMING, INC. ------------------ Registrant /S/ LYLE BERMAN --------------------------------------- Lyle Berman Chairman of the Board, Chief Executive Officer and President /S/ TIMOTHY J. COPE --------------------------------------- Timothy J. Cope Executive Vice President and Chief Financial Officer 30