-----BEGIN PRIVACY-ENHANCED MESSAGE----- Proc-Type: 2001,MIC-CLEAR Originator-Name: webmaster@www.sec.gov Originator-Key-Asymmetric: MFgwCgYEVQgBAQICAf8DSgAwRwJAW2sNKK9AVtBzYZmr6aGjlWyK3XmZv3dTINen TWSM7vrzLADbmYQaionwg5sDW3P6oaM5D3tdezXMm7z1T+B+twIDAQAB MIC-Info: RSA-MD5,RSA, U+W8PjzXpxiAhjpnUjjToxFTB0PJpwlSDQxW72Y37ZOrZjmqz4N4TksEnTU/47FV w/3WakFrVN8YbEeKRROn8g== 0000950124-99-006167.txt : 19991117 0000950124-99-006167.hdr.sgml : 19991117 ACCESSION NUMBER: 0000950124-99-006167 CONFORMED SUBMISSION TYPE: 10-Q PUBLIC DOCUMENT COUNT: 5 CONFORMED PERIOD OF REPORT: 19991003 FILED AS OF DATE: 19991116 FILER: COMPANY DATA: COMPANY CONFORMED NAME: LAKES GAMING INC CENTRAL INDEX KEY: 0001071255 STANDARD INDUSTRIAL CLASSIFICATION: SERVICES-MISCELLANEOUS AMUSEMENT & RECREATION [7990] IRS NUMBER: 411913991 STATE OF INCORPORATION: MN FISCAL YEAR END: 1231 FILING VALUES: FORM TYPE: 10-Q SEC ACT: SEC FILE NUMBER: 000-24993 FILM NUMBER: 99758601 BUSINESS ADDRESS: STREET 1: 130 CHESHIERE LANE CITY: MINNETONKA STATE: MN ZIP: 55305 BUSINESS PHONE: 6124499092 MAIL ADDRESS: STREET 1: 130 CHESHIRE LANE CITY: MINNETONKA STATE: MN ZIP: 55305 10-Q 1 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 October 3, 1999 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) (612) 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 November 15, 1999, there were 10,628,398 shares of Common Stock, $0.01 par value per share, outstanding. Page 1 of 29 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 October 3, 1999 and January 3, 1999 Consolidated Statements of Earnings 4 for the three months ended October 3, 1999 and September 27, 1998 Consolidated Statements of Earnings for 5 the nine months ended October 3, 1999 and September 27, 1998 Consolidated Statements of Cash Flows 6 for the nine months ended October 3, 1999 and September 27, 1998 Notes to Consolidated Financial Statements 7 ITEM 2. MANAGEMENT'S DISCUSSION AND 11 ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS PART II. OTHER INFORMATION ITEM 1. Legal Proceedings 20 ITEM 5. Other Information 25 ITEM 6. Exhibits and Reports On Form 8-K 27
- 2 - 3 LAKES GAMING, INC. AND SUBSIDIARIES CONSOLIDATED BALANCE SHEETS (IN THOUSANDS)
OCTOBER 3, 1999 JANUARY 3, 1999 (UNAUDITED) - -------------------------------------------------------------------------------------------------------------- ASSETS Current Assets: Cash and cash equivalents $53,749 $56,774 Current installments of notes receivable 14,810 8,561 Accounts receivable 6,580 15,217 Other current assets 8,148 8,126 - -------------------------------------------------------------------------------------------------------------- Total Current Assets 83,287 88,678 - -------------------------------------------------------------------------------------------------------------- Property and Equipment-Net 1,391 1,265 - -------------------------------------------------------------------------------------------------------------- Other Assets: Land held for development 53,730 26,647 Notes receivable-less current installments 18,404 25,118 Cash and cash equivalents-restricted 4,649 4,992 Investments in and notes from unconsolidated affiliates 9,173 8,590 Other long-term assets 10,602 6,079 - -------------------------------------------------------------------------------------------------------------- Total Other Assets 96,558 71,426 - -------------------------------------------------------------------------------------------------------------- TOTAL ASSETS $181,236 $161,369 ============================================================================================================== LIABILITIES AND SHAREHOLDERS' EQUITY Current Liabilities: Accounts payable $215 $ - Income taxes payable 7,955 10,811 Litigation and claims accrual 8,691 10,554 Other accrued expenses 4,377 4,625 - -------------------------------------------------------------------------------------------------------------- Total Current Liabilities 21,238 25,990 - -------------------------------------------------------------------------------------------------------------- Long-term Liabilities: Long-term debt-less current installments 975 975 Deferred income taxes 2,593 2,733 - -------------------------------------------------------------------------------------------------------------- Total Long-Term Liabilities 3,568 3,708 - -------------------------------------------------------------------------------------------------------------- TOTAL LIABILITIES 24,806 29,698 - -------------------------------------------------------------------------------------------------------------- COMMITMENTS AND CONTINGENCIES Shareholders' Equity: Capital stock, $.01 par value; authorized 100,000 shares; 10,620 and 10,576 common shares issued and outstanding at October 3, 1999, and January 3, 1999, respectively 106 106 Additional paid-in-capital 131,283 130,929 Accumulated other comprehensive earnings 417 636 Retained earnings 24,624 - - -------------------------------------------------------------------------------------------------------------- Total Shareholders' Equity 156,430 131,671 - -------------------------------------------------------------------------------------------------------------- TOTAL LIABILITIES AND SHAREHOLDERS' EQUITY $181,236 $161,369 ==============================================================================================================
SEE ACCOMPANYING NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - 3 - 4 LAKES GAMING, INC. AND SUBSIDIARIES CONSOLIDATED STATEMENTS OF EARNINGS (IN THOUSANDS, EXCEPT EARNINGS PER SHARE)
THREE MONTHS ENDED ------------------------------------- OCTOBER 3, 1999 SEPTEMBER 27, 1998 (UNAUDITED) REVENUES: Management fee income $14,440 $21,582 COSTS AND EXPENSES: Selling, general and administrative 849 1,696 Depreciation and amortization 480 283 - -------------------------------------------------------------------------------------------------------- Total Costs and Expenses 1,329 1,979 - -------------------------------------------------------------------------------------------------------- EARNINGS FROM OPERATIONS 13,111 19,603 - -------------------------------------------------------------------------------------------------------- OTHER INCOME (EXPENSE): Interest income 1,781 1,400 Interest expense (24) (24) Equity in loss of unconsolidated affiliates (1,408) (41) Other 129 29 - -------------------------------------------------------------------------------------------------------- Total other income, net 478 1,364 - -------------------------------------------------------------------------------------------------------- Earnings before income taxes 13,589 20,967 Provision for income taxes 6,149 (4,316) - -------------------------------------------------------------------------------------------------------- NET EARNINGS $7,440 $25,283 ======================================================================================================== BASIC EARNINGS PER SHARE $0.70 $2.39 ======================================================================================================== DILUTED EARNINGS PER SHARE $0.68 $2.37 ======================================================================================================== WEIGHTED AVERAGE COMMON SHARES OUTSTANDING 10,606 10,573 DILUTIVE EFFECT OF STOCK COMPENSATION PROGRAMS 330 88 - -------------------------------------------------------------------------------------------------------- WEIGHTED AVERAGE COMMON AND DILUTED SHARES OUTSTANDING 10,936 10,661 ========================================================================================================
SEE ACCOMPANYING NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - 4 - 5 LAKES GAMING, INC. AND SUBSIDIARIES CONSOLIDATED STATEMENTS OF EARNINGS (IN THOUSANDS, EXCEPT EARNINGS PER SHARE)
NINE MONTHS ENDED ------------------------------------ OCTOBER 3, 1999 SEPTEMBER 27, 1998 (UNAUDITED) REVENUES: Management fee income $44,441 $64,330 COSTS AND EXPENSES: Selling, general and administrative 5,451 7,684 Depreciation and amortization 1,435 932 - -------------------------------------------------------------------------------------------------------- Total Costs and Expenses 6,886 8,616 - -------------------------------------------------------------------------------------------------------- EARNINGS FROM OPERATIONS 37,555 55,714 - -------------------------------------------------------------------------------------------------------- OTHER INCOME (EXPENSE): Interest income 5,839 4,000 Interest expense (73) (73) Equity in loss of unconsolidated affiliates (1,771) (266) Other 1,417 257 - -------------------------------------------------------------------------------------------------------- Total other income, net 5,412 3,918 - -------------------------------------------------------------------------------------------------------- Earnings before income taxes 42,967 59,632 Provision for income taxes 18,343 10,327 - -------------------------------------------------------------------------------------------------------- NET EARNINGS $24,624 $49,305 ======================================================================================================== BASIC EARNINGS PER SHARE $2.33 $4.68 ======================================================================================================== DILUTED EARNINGS PER SHARE $2.28 $4.58 ======================================================================================================== WEIGHTED AVERAGE COMMON SHARES OUTSTANDING 10,590 10,541 DILUTIVE EFFECT OF STOCK COMPENSATION PROGRAMS 215 226 - -------------------------------------------------------------------------------------------------------- WEIGHTED AVERAGE COMMON AND DILUTED SHARES OUTSTANDING 10,805 10,767 ========================================================================================================
SEE ACCOMPANYING NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - 5 - 6 LAKES GAMING, INC. AND SUBSIDIARIES CONSOLIDATED STATEMENTS OF CASH FLOWS (IN THOUSANDS)
NINE MONTHS ENDED ------------------------------------- OCTOBER 3, 1999 SEPTEMBER 27, 1998 (UNAUDITED) OPERATING ACTIVITIES: Net earnings 24,624 49,305 Adjustments to reconcile net earnings to net cash provided by operating activities: Depreciation and amortization 1,435 932 Gain on sale of investment (875) - Equity in loss of unconsolidated affiliates 1,771 265 Changes in operating assets and liabilities: Current assets 8,597 (2,342) Income taxes (2,856) 17,637 Accounts payable 215 (77) Accrued expenses (2,111) 483 Other (399) - - ---------------------------------------------------------------------------------------------------------------------- Net Cash Provided by Operating Activities 30,401 66,203 - ---------------------------------------------------------------------------------------------------------------------- INVESTING ACTIVITIES: Payments for property and equipment (230) (36) Payments for notes receivable (6,763) (3,362) Proceeds from repayment of notes receivable 8,521 4,745 Decrease (increase) in restricted cash 343 (3,767) Investment in and notes receivable from unconsolidated affiliates (7,592) - Payments for land held for development (21,868) (10,312) Decrease (increase) in other long-term assets (6,191) 223 - ---------------------------------------------------------------------------------------------------------------------- Net Cash Used in Investing Activities (33,780) (12,509) - ---------------------------------------------------------------------------------------------------------------------- FINANCING ACTIVITIES: Distribution to Grand - (53,695) Proceeds from issuance of common stock 354 - Payments on long-term debt - (9) - ---------------------------------------------------------------------------------------------------------------------- Net Cash Provided by (Used in) Financing Activities 354 (53,704) - ---------------------------------------------------------------------------------------------------------------------- Net decrease in cash and cash equivalents (3,025) (10) Cash and cash equivalents - beginning of period 56,774 33,208 - ---------------------------------------------------------------------------------------------------------------------- CASH AND CASH EQUIVALENTS - END OF PERIOD 53,749 33,198 ====================================================================================================================== SUPPLEMENTAL DISCLOSURES OF CASH FLOW INFORMATION: Cash paid during the period for: Interest $73 $73 Income taxes 18,202 -
SEE ACCOMPANYING NOTES TO CONSOLIDATED FINANCIAL STATEMENTS. - 6 - 7 LAKES GAMING, INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED) 1. UNAUDITED FINANCIAL STATEMENTS: 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 shares 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-related development. The Company manages two Indian-owned casinos in Louisiana and previously managed two Minnesota casinos through April 4, 1998 and November 30, 1998, respectively. 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 27 percent ownership interest in Fanball.com, Inc., a start-up internet provider of fantasy sports services, and a 33 percent ownership interest in Interactive Learning Group, Inc., a consumer product company. Lakes' investments in Fanball.com and Interactive Learning Group in the amounts of $3.4 million and $3 million, respectively, were made at the end of the second quarter of 1999. Additionally, as a result of its spin-off from Grand Casinos, 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 nine months ended October 3, 1999, are not necessarily indicative of the results that may be expected for the fiscal year ending January 2, 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 3, 1999. 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. Management contracts for the two previously managed Minnesota casinos, Grand Casino Mille Lacs and Grand Casino Hinckley concluded during 1998. Management contracts for Grand Casino Avoyelles and Grand Casino Coushatta expire June 3, 2001 and January 16, 2002, respectively. There can be no assurance that the Louisiana management contracts will be renewed upon expiration or approved by the National Indian Gaming Commission ("NIGC") upon any such renewal. The failure to renew the Company's management contracts would result in the loss of revenues to the Company derived from such contracts, which would have a material adverse effect on the Company's results of operations. The Coushatta Tribe and the Tunica-Biloxi Tribe each entered into tribal-state compacts with the State of Louisiana on September 29, 1992. These compacts were approved in November 1992 by the Secretary of the Interior. The compact for the Coushatta Tribe expired November 4, 1999, and the compact for the Tunica-Biloxi Tribe expires November 18, 1999, and the State of Louisiana has delivered a written notice of non-renewal. The Governor and each Tribe have agreed on a six-month extension which has been submitted to the Department of the Interior for approval. The Coushatta Tribe and the Tunica-Biloxi Tribe are actively negotiating with the State of Louisiana terms for a new compact. The Company's management agreements with the Tunica-Biloxi Tribe and the Coushatta Tribe expire after November 1999. In the event the compacts are not renewed, gaming may not be permitted at Grand Casino Avoyelles or Grand Casino Coushatta. There can be no assurance that these compacts will be renewed on acceptable terms and conditions. See Part II, Item 5. Other Information. - 8 - 9 LAKES GAMING, INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED) (UNAUDITED) 4. 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 October 3, 1999 are as follows (in thousands):
Operating Leases ---------------- 1999 $ 921 2000 3,225 2001 2,981 2002 3,109 2003 3,176 Thereafter 47,550 ------- $60,962 =======
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 prior to April 9, 2000 and not later than January 10, 2001. The option purchase price would be approximately $10.1 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 an option to purchase the Cable property in Las Vegas, Nevada for the purchase price of $18 million any time prior to October 31, 2000. Loan Guaranty Agreements The Company has guaranteed a loan and security agreement entered into by the Tunica-Biloxi Tribe of Louisiana for $16.5 million for the purpose of purchasing a hotel and additional casino equipment. The agreement extends through 2000, and as of October 3, 1999, the amount outstanding was $3.5 million. 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 October 3, 1999, the amount outstanding was $20.3 million. - 9 - 10 LAKES GAMING, INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED) (UNAUDITED) Indemnification Agreement As a part of the Transaction, 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 Item 1. Legal Proceedings). As security to support Lakes' indemnification obligations to Grand under each 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"), 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, on each annual anniversary of the Distribution and Merger. Any surplus proceeds remaining after all the secured obligations are indefeasibly paid in full and discharged shall be paid over to Lakes. 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. 5. SUBSEQUENT EVENTS On November 12, 1999, the Company announced the resignation of Thomas J. Brosig as President, and as a member of the Board of Directors of the Company. Lyle Berman, Chairman of the Board and Chief Executive Officer of the Company, will assume the role of President. - 10 - 11 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 shares 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 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 two land-based, Indian-owned casinos in Louisiana: Grand Casino Avoyelles, in Marksville, Louisiana ("Grand Casino Avoyelles"), owned by the Tunica-Biloxi Tribe of Louisiana (the "Tunica-Biloxi Tribe") and Grand Casino Coushatta, in Kinder, Louisiana ("Grand Casino Coushatta"), owned by the Coushatta Tribe of Louisiana (the "Coushatta Tribe"). Both management contracts expire seven years from the dates the casinos opened. 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. 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 Avoyelles and Grand Casino Coushatta. 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 Avoyelles and Coushatta management contracts, Lakes receives a fee based on the net distributable profits (as defined in the contracts) generated by Grand Casino Avoyelles and Grand Casino Coushatta. - 11 - 12 LAKES GAMING, INC. AND SUBSIDIARIES MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS (CONTINUED) (UNAUDITED) 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 a Tribe in California. The contract is subject to approval by NIGC. Development of the casino resort will not begin until the compact the Tribe has entered into with the state of California receives California voter approval. 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 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 a Tribe 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"). Development of the casino resort will not begin until the compact the Tribe has entered into with the state of California receives California voter approval. 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 currently being dissolved. - 12 - 13 LAKES GAMING, INC. AND SUBSIDIARIES MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS (CONTINUED) (UNAUDITED) Lakes' investments in unconsolidated affiliates include a 27 percent ownership interest in Fanball.com, Inc., a start-up internet provider of fantasy sports services, and a 33 percent ownership interest in Interactive Learning Group, Inc., a consumer product company. Lakes' investments in Fanball.com and Interactive Learning Group in the amounts of $3.4 million and $3 million, respectively, were made at the end of the second quarter of 1999. Additionally, as a result of its spin-off from Grand Casinos, 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. 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. 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 3, 1999. 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 Avoyelles and 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 contracts for Grand Casino Avoyelles and Grand Casino Coushatta expire June 3, 2001 and January 16, 2002, respectively. There can be no assurance that any of these management contracts will be renewed upon expiration or approved by NIGC upon any such renewal. The failure to renew Lakes' management contracts would result in the loss of revenues to Lakes derived from such contracts, which would have a material, adverse effect on Lakes' results of operations. The Coushatta Tribe and the Tunica-Biloxi Tribe each entered into tribal-state compacts with the State of Louisiana on September 29, 1992. These compacts were approved in November 1992 by the Secretary of the Interior. The compact for the Coushatta Tribe expired November 4, 1999, and the compact for the Tunica-Biloxi Tribe expires November 18, 1999, and the State of Louisiana has delivered a written notice of non-renewal. The Governor and each Tribe have agreed on a six-month extension which has been submitted to the Department of the Interior for approval. - 13 - 14 LAKES GAMING, INC. AND SUBSIDIARIES MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS (CONTINUED) (UNAUDITED) The Coushatta Tribe and the Tunica-Biloxi Tribe are actively negotiating with the State of Louisiana terms for a new compact. Lakes' management agreements with the Tunica-Biloxi Tribe and the Coushatta Tribe expire after November 1999. In the event the compacts are not renewed, gaming may not be permitted at Grand Casino Avoyelles or Grand Casino Coushatta. There can be no assurance that these compacts will be renewed on terms and conditions acceptable to either of the Tribes. See Part II, Item 5. Other Information. NINE MONTHS ENDED OCTOBER 3, 1999 COMPARED TO THE NINE MONTHS ENDED SEPTEMBER 27, 1998 Revenues Grand Casino Avoyelles and Grand Casino Coushatta generated approximately $44.4 million in management fee income during the nine months ended October 3, 1999. Grand Casino Mille Lacs, Grand Casino Hinckley, Grand Casino Avoyelles and Grand Casino Coushatta generated $64.3 million in management fee income during the nine months ended September 27, 1998. Gross revenue increases at Grand Casino Avoyelles and Grand Casino Coushatta partially offset the fact that the management contracts for Grand Casino Mille Lacs and Grand Casino Hinckley ended during 1998. Contributing to the increases were a 223-room hotel at Grand Casino Coushatta, which opened in November of 1998 along with a 28,000 square foot casino expansion at Coushatta which opened in December of 1998. Also contributing to the increases were a special events center and RV resort at Grand Casino Avoyelles, which opened during the first quarter of 1998, and the addition of approximately 160 slot machines at Avoyelles from September 27, 1998 to October 3, 1999. Costs and Expenses Total costs and expenses were $6.9 million for the nine months ended October 3, 1999, compared to $8.6 million for the same period in the prior year. Selling, general, and administrative expenses decreased in the amount of $2.2 million from $7.7 million for the nine months ended September 27, 1998 to $5.5 million for the nine months ended October 3, 1999 due primarily to fewer legal costs. Other Interest income increased from $4 million for the nine months ended September 27, 1998 to $5.8 million for the nine months ended October 3, 1999 due primarily to interest earned on increased cash balances and additional notes receivable during the nine months ended October 3, 1999, compared to the same period in the prior year. - 14 - 15 LAKES GAMING, INC. AND SUBSIDIARIES MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS (CONTINUED) (UNAUDITED) Earnings per Common Share and Net Earnings For the nine months ended October 3, 1999 basic and diluted earnings per common share were $2.33 and $2.28, respectively. This compares to basic and diluted earnings of $4.68 and $4.58 per common share for the nine months ended September 27, 1998. Earnings decreased $24.7 million to $24.6 million for the nine months ended October 3, 1999 compared to the same period in the prior year. This decrease is primarily due to the expiration of the management contracts for Grand Casino Mille Lacs and Grand Casino Hinckley during 1998. Total revenues during the period ended September 27, 1998 under these expired contracts was $21.9 million. The Company's current year period revenues and earnings do not include contributions from these operations. Also contributing to the decrease in earnings was the reversal of a deferred tax asset valuation allowance, resulting in the recognition of a $17.3 million income tax benefit, $13.1 million during third quarter 1998. A deferred tax asset was recorded in 1996 when the Company set up a reserve allowance due to uncertainty related to the collectibility of the note receivable from Stratosphere. However, a full valuation allowance was created for the deferred tax asset and no income tax benefit was recognized at that time. Upon writing off the receivable and realizing the tax deduction in 1998, the Company reversed the deferred tax asset valuation allowance. Under the terms of its tax sharing agreement with Grand, any further tax benefits relating to capital losses resulting from the Company's write-off of its investment in Stratosphere will be shared equally by Lakes and Park Place up to a benefit of approximately $12 million to Lakes. THREE MONTHS ENDED OCTOBER 3, 1999 COMPARED TO THE THREE MONTHS ENDED SEPTEMBER 27, 1998 Revenues Grand Casino Avoyelles and Grand Casino Coushatta generated $14.4 million in management fee income during the three months ended October 3, 1999. Grand Casino Hinckley, Grand Casino Avoyelles and Grand Casino Coushatta generated $21.6 million in management fee income during the three months ended September 27, 1998. This decrease is due primarily to the fact that the management contract for Grand Casino Hinckley concluded during the fourth quarter of 1998. Gross revenues increased at Grand Casino Avoyelles and Grand Casino Coushatta, due to a 223-room hotel at Grand Casino Coushatta, which opened in November of 1998 along with a 28,000 square foot casino expansion at Grand Casino Coushatta which opened in December of 1998, and the addition of approximately 160 slot machines at Grand Casino Avoyelles from September 27, 1998 to October 3, 1999. Gross revenue increases at Grand Casino Coushatta were offset by additional debt service payments relating to the 223-room hotel. - 15 - 16 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 $1.3 million for the three months ended October 3, 1999, compared to $2 million for the same period in the prior year. Selling, general, and administrative expenses decreased in the amount of $.9 million from $1.7 million for the three months ended September 27, 1998 to $.8 million for the three months ended October 3, 1999 due primarily to fewer project write-offs. Other Interest income was $1.8 million and $1.4 million for the three months ended October 3, 1999 and September 27, 1998, respectively. The increase is due primarily to additional interest earned on increased cash balances and additional notes receivable during the three months ended October 3, 1999, compared to the same period in the prior year. Earnings Per Common Share and Net Earnings For the three months ended October 3, 1999, basic and diluted earnings per common share were $.70 and $.68, respectively. This compares to basic and diluted earnings of $2.39 and $2.37 per common share for the three months ended September 27, 1998. Earnings decreased $17.8 million to $7.4 million for the three months ended October 3, 1999 compared to the same period in the prior year. This decrease is partially due to the expiration of the management contracts for Grand Casino Mille Lacs and Grand Casino Hinckley during 1998. Total revenues during the three-month period ended September 27, 1998, under these expired contracts was $6.7 million. The company's current year period revenues and earnings do not include contributions from these operations. Also contributing to the decrease in earnings was the reversal of a deferred tax asset valuation allowance, resulting in the recognition of a $17.3 million income tax benefit during 1998, $13.1 million of which was recognized during the third quarter. A deferred tax asset was recorded in 1996 when the Company set up a reserve allowance due to uncertainty related to the collectibility of the note receivable from Stratosphere. However, a full valuation allowance was created for the deferred tax asset and no income tax benefit was recognized at that time. Upon writing off the receivable and realizing the tax deduction in 1998, the Company reversed the deferred tax asset valuation allowance. Under the terms of its tax sharing agreement with Grand, any further tax benefits relating to capital losses resulting from the Company's write-off of its investment in Stratosphere will be shared equally by Lakes and Park Place up to a benefit of approximately $12 million to Lakes. - 16 - 17 LAKES GAMING, INC. AND SUBSIDIARIES MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS (CONTINUED) (UNAUDITED) CAPITAL RESOURCES, CAPITAL SPENDING, AND LIQUIDITY At October 3, 1999 Lakes had $58.4 million in restricted and unrestricted cash and cash equivalents. The cash balances are planned to be used for loans to tribal partners to help develop operations, the pursuit of additional business opportunities, and potential settlement of pending litigation matters. For the nine months ended October 3, 1999 and September 27, 1998 net cash provided by operating activities totaled $30.4 million and $66.2 million, respectively. Payments for income taxes were $18.2 million and $0 for the nine months ended October 3, 1999 and September 27, 1998, respectively. For the same periods, net cash used in investing activities totaled $33.8 million and $12.5 million, respectively. Included in these investing activities for the nine months ended October 3, 1999 and September 27, 1998, are proceeds, primarily from repayment of notes receivable from Indian-owned casinos, which amounted to $8.5 million and $4.7 million, respectively. Advances under notes receivable amounted to $6.8 million and $3.4 million for the nine months ended October 3, 1999 and September 27, 1998. Also during these periods, payments for land in Las Vegas, Nevada, held for development amounted to $21.9 million and $10.3 million, respectively, and restricted cash decreased $.3 million and increased $4 million, respectively. For the nine months ended October 3, 1999 and September 27, 1998, payments for investments in, and notes receivable from, unconsolidated affiliates totaled $7.6 million and $0, respectively, and other long-term assets increased $6.1 million and decreased $.2 million, 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, to cover various commitments and contingencies related to or arising out of, Grand's non-Mississippi business and assets (including by way of illustration and 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, 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. YEAR 2000 Lakes is currently working to fully determine and resolve the potential impact of the Year 2000 on the processing of date-sensitive information by its computerized information systems. The Year 2000 problem is the result of many computer programs being written using two digits (rather than four) to define the applicable year. Any of Lakes' programs that have time-sensitive software may recognize a date using "00" as the year 1900 rather than the Year 2000, which could result in miscalculations or system failures. - 17 - 18 LAKES GAMING, INC. AND SUBSIDIARIES MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS (CONTINUED) (UNAUDITED) Lakes and its managed properties have a Year 2000 program, the objective of which is to determine and assess the risks of the Year 2000 issue, and plan and institute mitigating actions to minimize those risks. Pursuant to the Lakes Year 2000 program, the Company has established an internal review team to monitor and facilitate efficient Year 2000 compliance. During 1999, Lakes upgraded its financial reporting systems to ensure that they would be year 2000 compliant. Lakes' vendors and consultants have represented to management that the new systems meet year 2000 requirements. Lakes' standard for compliance requires that for a computer system or business process to be Year 2000 compliant, it must be designed to operate without error in dates and date-related data prior to, on and after January 1, 2000. Between now and the Year 2000, Lakes will proceed through its various phases of assessment, detailed planning, implementation, testing and management. Lakes expects to be fully Year 2000 compliant. Generally, Lakes is confident that the implementation of its Year 2000 program in conjunction with the replacement of all of Lakes' financial reporting systems will resolve any IT system compliance issues. Lakes has not currently identified any material non-IT system Year 2000 issues. Throughout the remainder of 1999, Lakes will continually review its progress against its Year 2000 plans and determine what contingency plans are feasible and appropriate to reduce its exposure to Year 2000 related issues. Based on Lakes' current assessment, the costs of addressing potential problems at Lakes and its currently managed properties are estimated at $1.1 million, of which $.1 million is left to be spent. However, the historical and estimated costs relating to the resolution of Lakes' Year 2000 compliance issues cannot be fully and finally determined at this time. If significant customers or vendors identify Year 2000 issues in the future and are unable to resolve such issues in a timely manner, it could result in a material financial risk. Lakes has initiated formal communications with all of its material suppliers to determine the extent to which Lakes' interface systems are vulnerable to those third parties' failures to resolve their own Year 2000 issues. Lakes plans to devote the necessary resources to resolve all significant Year 2000 issues in a timely manner. While Lakes fully anticipates achieving Year 2000 compliance in advance of January 1, 2000 there are certain risks which exist with respect to Lakes' business and the Year 2000. Those risks range from slight delays and inefficiencies in processing data and carrying out accounting and financial functions to, in a most reasonably likely worst case scenario, extensive and costly inability to process data, provide vital accounting functions and communicate with customers and suppliers. Lakes has established a contingency plan to address the failure to be Year 2000 compliant. SEASONALITY The Company believes that the operation of all casinos managed by the Company are affected by seasonal factors, including holidays, weather and travel conditions. - 18 - 19 LAKES GAMING, INC. AND SUBSIDIARIES MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS (CONTINUED) (UNAUDITED) 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. 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 3, 1999. - 19 - 20 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. 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. 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. - 20 - 21 LAKES GAMING, INC. AND SUBSIDIARIES PART II OTHER INFORMATION (CONTINUED) 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. Plaintiffs' counsel have requested that defendants stipulate to the inclusion of the Company and Park Place as additional party defendants. We anticipate that the Company will be so included and will defend the action vigorously. The Court has ordered the parties to submit a joint pre-trial statement on or before November 15, 1999. - 21 - 22 LAKES GAMING, INC. AND SUBSIDIARIES PART II OTHER INFORMATION (CONTINUED) 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. 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. 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. 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. The court has not yet ruled on the motion. - 22 - 23 LAKES GAMING, INC. AND SUBSIDIARIES PART II OTHER INFORMATION (CONTINUED) 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. Lakes will defend this action vigorously. 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. 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. - 23 - 24 LAKES GAMING, INC. AND SUBSIDIARIES PART II OTHER INFORMATION (CONTINUED) 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. 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 this year, Motions for Summary Judgment by both parties were denied. Grand has requested that the appellate court review the denial as to its motion for summary judgment. In the meantime, the trial court is expected to hold a pretrial to address discovery and scheduling issues. Lakes will continue to defend the lawsuit diligently. - 24 - 25 LAKES GAMING, INC. AND SUBSIDIARIES PART II OTHER INFORMATION (CONTINUED) 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. Discovery 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 October 3, 1999. 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. ITEM 5. OTHER INFORMATION The Coushatta Tribe and the Tunica-Biloxi Tribe each entered into Tribal-State compacts with the State of Louisiana on September 29, 1992. These compacts were approved in November 1992 by the Secretary of the Interior. The compact for the Coushatta Tribe expired November 4, 1999 and the compact for the Tunica-Biloxi Tribe expires November 18, 1999. The compacts would have automatically renewed for an additional seven year term if neither 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 each of the Coushatta Tribe of Louisiana and the Tunica-Biloxi Tribe of Louisiana of the State's intent not to renew the Tribal-State compacts. The State further extended an invitation to each such Tribe to continue to discuss mutually advantageous terms and conditions under which the State and the Tribes can enter into new gaming compacts. The Governor and each Tribe have agreed on a six-month extension which has been submitted to the Department of the Interior for approval. - 25 - 26 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. Each Tribe is actively negotiating with the State to establish suitable alternative compacts. It is unclear what consequences, if any, might result, in the event the Tribes and the State are unable to either negotiate suitable alternative compacts or agree to an extension of the existing compacts. 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 Agreements with each of the Tribes 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 either Grand Casino Coushatta or Grand Casino Avoyelles would be unlawful under either federal or state law, Lakes and the Tribes are obligated in their duties to each other, as set forth in the applicable Management Agreements. 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 either Grand Casino Coushatta or Grand Casino Avoyelles would be unlawful under either federal or state law, so long as the Tribes continue to conduct gaming activities at Grand Casino Coushatta and Grand Casino Avoyelles, Lakes intends to continue to operate and manage these casinos and to abide by the terms and obligations of the applicable Management Agreements. If the terms of the current Tribal-State compacts expire, without the execution of new compacts or the extension of the current compacts, 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 either or both of the Tribes and/or Grand Casino Coushatta and Grand Casino Avoyelles resulting in the cessation of gaming operations at these casinos and/or the inability of Lakes to manage either or both of these casinos. The cessation of gaming operations at either or both of Grand Casino Coushatta and Grand Casino Avoyelles or the inability of Lakes to manage the gaming operations at these casinos would result in the loss of revenues to Lakes derived from such contracts, which would have a material adverse effect on Lakes' results of operations. Currently, the management contracts for Grand Casino Coushatta and Grand Casino Avoyelles generate all of Lakes' operating revenues. Without the realization of new business opportunities or new management contracts, the cessation of gaming operations at these casinos or the inability of Lakes to manage those operations, would have a material adverse impact on Lakes' results of operations and financial condition. - 26 - 27 LAKES GAMING, INC. AND SUBSIDIARIES PART II OTHER INFORMATION (CONTINUED) ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K
(a) Exhibits Description -------- ----------- 10.1 Subscription Agreement and Investment Letter by and among Lakes Gaming, Inc., a Minnesota corporation (the "Subscriber") and Fanball.com, Inc., a Minnesota corporation (the "Company") dated as of June 15, 1999. 10.2 Stock Purchase Agreement dated as of June 15, 1999 between Lakes Gaming, Inc. (the "Buyer") and Richard Kallio (the "Seller"). 10.3 Subscription Agreement and Investment Letter by and among Lakes Gaming, Inc. a Minnesota corporation (the "Subscriber") and Interactive Learning Group, Inc., a Minnesota corporation (the "Company") dated as of June 25, 1999. 27 Financial Data Schedule (for SEC use only) (b) Reports on Form 8-K None
- 27 - 28 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: November 16, 1999 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 - 28 - EX-10.1 2 FANBALL SUBSCRIPTION AGREEMENT 1 EXHIBIT 10.1 FANBALL.COM, INC. SUBSCRIPTION AGREEMENT AND INVESTMENT LETTER PURCHASE OF SERIES A CONVERTIBLE PREFERRED STOCK Fanball.com, Inc. 5720 Green Circle Drive Suite #202 Minnetonka, MN 55343 The undersigned (the "Subscriber") hereby subscribes for and offers to purchase from Fanball.com, Inc., a Minnesota corporation (the "Company"), six hundred thousand (600,000) shares of Series A Convertible Preferred Stock (the "Series A Preferred") at a purchase price of five dollars ($5.00) per share or an aggregate purchase price of Three Million Dollars ($3,000,000) (the "Purchase Price"), upon the terms and subject to the following conditions: 1. Subscription and Authorization of Securities. The Series A Preferred shall be issued pursuant to and shall be entitled to such preferences, rights and benefits as are set forth in the capital stock provisions of the Company's Amended and Restated Articles of Incorporation and its Certificate of Designation, which shall be in the form of the attached Exhibit A (the "Series A Certificate"). 2. Payment. The Subscriber herewith submits the Subscriber's check for the Purchase Price, made payable to "Fanball.com, Inc.," representing the aggregate purchase price for the Series A Preferred. In exchange therefor, the Company herewith delivers to the Subscriber a stock certificate, dated as of the date hereof, representing the Series A Preferred purchased by the Subscriber registered in the name of Lakes Gaming, Inc. 3. Representations of Subscriber. To induce the Company to accept this offer, the Subscriber represents and warrants as follows: a. The Subscriber agrees that Subscriber may not sell or otherwise transfer all or any interest in the Series A Preferred except as expressly provided in this Subscription Agreement and Investment Letter. b. The Subscriber understands that the Company must comply with the securities laws of the jurisdiction in which the Subscriber is domiciled. The Subscriber therefore represents and warrants to the Company as follows: (1) The Subscriber is a business organization organized and validly existing under the laws of, and with its principal office located in, the State of Minnesota. The Subscriber represents and warrants that it was not organized, either directly or indirectly, for the specific purpose of acquiring the Series A Preferred. c. The Subscriber realizes that purchase of the Series A Preferred is a speculative investment and that the economic benefits which may be derived therefrom are uncertain. In determining whether or not to make an investment in the Company, the Subscriber has relied solely upon the written materials provided to it by the Company, including the Certificate of 2 Designation which sets forth the rights, preferences and limitations of the Series A Preferred (the "Series A Certificate"), receipt of which is hereby acknowledged, and upon independent investigations made by Subscriber or its representatives. The shares of Series A Preferred will have the rights and preferences as set forth in the Series A Certificate, including without limitation the following: (i) each share of the Series A Preferred is convertible into one share of the Company's common stock (the "Common Stock") on a one-to-one basis subject to adjustment in certain events, (ii) the shares of Series A Preferred will have a liquidation preference over the Common Stock, (iii) the Subscriber will be entitled to appoint one director of the Company, which right will terminate upon the Company's Qualified Public Offering (as defined in the Series A Certificate), and (iv) shares of Series A Preferred will not be automatically entitled to receive or accrue dividends. d. The Subscriber has read and understands the Series A Certificate and understands the rights, preferences and limitations pertaining to the Series A Preferred. e. The Subscriber has had full opportunity to conduct, and has conducted, a complete and thorough due diligence investigation of the Company, and such opportunity has been made available to the Subscriber's professional representative(s), to ask questions of and receive answers from representatives of the Company concerning the Company and its financial condition and prospects and the terms and conditions of the Series A Certificate, as well as to obtain additional information necessary to verify the accuracy of the written materials provided to the Subscriber and its representatives by the Company. f. The information presented and statements made by the Subscriber in the attached questionnaire completed and delivered by the Subscriber and returned to the Company with this letter, and any additional information supplied by the Subscriber at the Company's request relating to the Subscriber's income, net worth, investment experience or other matters, are complete and accurate as of this date or any future date upon which such information will be supplied, and may be relied upon by the Company in determining whether to accept this offer. g. The Subscriber is acquiring the Series A Preferred for its own account for investment purposes and not with a view to or for resale in connection with any distribution thereof and not for the personal accounts of its shareholders. The Subscriber understands that the Series A Preferred have not been registered under the Securities Act of 1933, as amended (the "Act"), or any state securities laws, in reliance on exemptions from registration which depend, in part on the Subscriber's investment intention; and, accordingly, the truth and accuracy of the foregoing representation will be relied upon by the Company to establish such exemptions. The Subscriber acknowledges that the Company is not required to recognize any transfer of the Series A Preferred unless, in the opinion of counsel to the Company, such transfer would not result in a violation of any federal or state law regarding the offer and sale of securities and unless the other restrictions on transfer set forth in the Series A Preferred are complied with. h. The Subscriber agrees to the placing on the instruments or certificates representing the Series A Preferred of legends, in substantially the following form, referring to the restrictions set forth in the preceding paragraph: THE SHARES REPRESENTED BY THIS CERTIFICATE HAVE NOT BEEN REGISTERED UNDER THE SECURITIES ACT OF 1933, AS AMENDED, OR APPLICABLE STATE SECURITIES LAWS. NO SALE OR ASSIGNMENT OF THE SHARES REPRESENTED BY THIS CERTIFICATE SHALL BE MADE UNLESS THE HOLDER SHALL HAVE OBTAINED AN OPINION OF COUNSEL SATISFACTORY 2 3 TO THE COMPANY THAT SUCH PROPOSED DISPOSITION OR TRANSFER LAWFULLY MAY BE MADE WITHOUT REGISTRATION OF SUCH SHARES PURSUANT TO APPLICABLE SECURITIES LAWS, OR SUCH REGISTRATION. THE SHARES OF THE COMPANY ARE SUBJECT TO CERTAIN DESIGNATIONS, PREFERENCES, LIMITATIONS AND RELATIVE RIGHTS AS SET FORTH IN THE COMPANY'S ARTICLES OF INCORPORATION, AS FILED WITH THE MINNESOTA SECRETARY OF STATE, AS AMENDED FROM TIME TO TIME. THE COMPANY WILL FURNISH TO ANY SHAREHOLDER UPON REQUEST MADE TO THE SECRETARY OF THE COMPANY AND WITHOUT CHARGE A FULL STATEMENT (A) OF THE DESIGNATIONS, RELATIVE RIGHTS, PREFERENCES AND LIMITATIONS OF THE SHARES OF EACH CLASS AND SERIES AUTHORIZED TO BE ISSUED, INSOFAR AS THE SAME HAVE BEEN DETERMINED AND (B) OF THE AUTHORITY OF THE BOARD OF DIRECTORS TO DIVIDE THE SHARES INTO CLASSES OR SERIES AND TO DETERMINE AND CHANGE THE RELATIVE RIGHTS, PREFERENCES AND LIMITATIONS OF ANY CLASS OR SERIES. i. The Subscriber is aware that there are restrictions on the transferability of the Series A Preferred, that there is no market for the Series A Preferred, and that it is possible that such a market will never develop. Accordingly, it is unlikely that the Subscriber will be able to liquidate an investment in the Company in case of an emergency or for any other reason. j. The Subscriber's commitment to investments that are not readily marketable is not disproportionate to its net worth, and an investment in the Series A Preferred will not cause such commitment to become excessive. The Subscriber has adequate means of providing for its current needs and contingencies and has no need for liquidity with respect to its investment in the Series A Preferred, and can withstand a complete loss of such investment in the Series A Preferred. The Subscriber has, either alone or with a purchaser representative, such knowledge and experience in financial and business matters that the Subscriber is capable of evaluating the merits and risks of an investment in the Series A Preferred. k. The Subscriber acknowledges receipt of the documents and information which the Company has represented to Subscriber under Section 4.t. of this Agreement that it has delivered to the Subscriber. 4. Representations of the Company. The Company represents and warrants to the Subscriber as follows: a. Organization. The Company is a corporation duly organized, validly existing and in good standing under the laws of the State of Minnesota, and has the requisite corporate power and authority to own its properties and carry on its business in all material respects as it is now being conducted. The Company has the requisite corporate power and authority to issue the Series A Preferred and the Common Stock into which it is convertible (the "Conversion Shares") and to otherwise perform its obligations under this Agreement. b. Status of the Preferred Shares and Conversion Shares. The Series A Preferred, when issued and paid for pursuant to the terms of this Subscription Letter, will be duly authorized, validly issuedand outstanding, fully paid and nonassessable, free and clear of all pledges, liens, encumbrances and restrictions, except as set forth herein, and the Conversion Shares have been reserved for issuance based upon a one-for-one Conversion Ratio (as defined in the Series A Certificate), and when issued upon conversion will be duly authorized, validly issued 3 4 and outstanding, fully paid and nonassessable, and free and clear of all pledges, liens, encumbrances and restrictions, except as set forth herein. The certificates representing the Series A Preferred to be delivered by the Company hereunder, and the certificates representing the Conversion Shares will, when issued upon conversion, be genuine, and the Company has no knowledge of any fact which would impair the validity thereof. c. Corporate Acts and Proceedings. This Agreement has been duly authorized by all necessary corporate action on behalf of the Company, and has been duly executed and delivered by authorized officers of the Company, and is the valid and binding agreement upon the part of the Company that is enforceable against the Company in accordance with its terms, except as the enforceability thereof may be limited by bankruptcy, insolvency, moratorium, reorganization or other similar laws affecting the enforcement of creditors' rights generally and to judicial limitations on the enforcement of the remedy of specific performance and other equitable remedies. All corporate action necessary to the investment by the Subscriber in the Company and the authorization, creation, issuance and delivery of the Preferred Shares and the Conversion Shares has been taken by the Company. d. Brokers. Other than Mr. Larry Zipkin, who will be granted a warrant to purchase 37,500 shares of Common Stock at an exercise price of $1.00 per share, no other person, firm or corporation has or will have, as a result of any act or omission of the Company, any interest, right or valid claim against or upon the Company for any commission, fee or other compensation as a finder or broker in connection with the transactions contemplated by this Agreement. The Company will indemnify and hold the Subscriber harmless against any and all liability with respect to any such commission, fee or other compensation, except as set forth above, which may be payable or determined to be payable in connection with the transactions contemplated by this Agreement. e. Litigation; Governmental Proceedings. Except with respect to its defense of a lawsuit brought by Sims Security to collect $2,000 alleging non-payment for services rendered, which the Company is disputing in good faith, there are no legal actions, suits, arbitrations or other legal, administrative or governmental proceedings or investigations pending or, to the knowledge of the Company, threatened against the Company, its properties, assets or business, and the Company is not aware of any facts which are likely to result in or form the basis for any such action, suit or other proceeding which would have a material adverse impact on the Company. The Company is not in default with respect to any judgment, order or decree of any court or any governmental agency or instrumentality. f. Governing Instruments. The copies of the Amended and Restated Articles of Incorporation and Bylaws of the Company which have been delivered to legal counsel for the Subscriber prior to the execution of this Agreement are true and complete copies of the duly and legally adopted Amended and Restated Articles of Incorporation and Bylaws of the Company in effect as of the date of this Agreement. g. Subsidiaries. Etc. The Company does not have any direct or indirect ownership interest in any corporation, partnership, joint venture, limited liability company or partnership, association or other business enterprise. h. Qualification. The Company is duly qualified, licensed or domesticated as a foreign corporation in good standing in each jurisdiction wherein the nature of its activities or the properties owned or leased by it makes such qualification, licensing or domestication necessary 4 5 and in which failure to so qualify or be licensed or domesticated would have a material adverse impact upon its business. i. Financial Statements. The Company has delivered to Subscriber true and correct copies of its unaudited balance sheets for the Company dated as at June 30, 1996, June 30, 1997, June 30, 1998 and June 8, 1999 (the "1999 Balance Sheet") together with the related statements of profit and loss for the periods then ended. Such financial statements (i) are in accordance with the books and records of the Company, (ii) present fairly the financial condition of the Company at the balance sheets dates and the results of its operations for the periods therein specified, and (iii) have, in all material respects, been prepared in accordance with generally accepted accounting principles applied on a basis consistent with prior accounting periods. Without limiting the generality of the foregoing, the balance sheets or notes thereto disclose all of the debts, liabilities and obligations of any nature (whether absolute, accrued or contingent and whether due or to become due) of the Company at their respective dates, which, individually or in the aggregate, are material and which in accordance with generally accepted accounting principles would be required to be disclosed in such balance sheets and include appropriate reserves for all taxes and other liabilities accrued as of such dates but not yet payable. j. Tax Returns and Audits. All required federal, state and local tax returns or appropriate extension requests of the Company have been filed, and all federal, state and local taxes required to be paid with respect to such returns have been paid or due provision for the payment thereof has been made. The Company is not delinquent in the payment of any such tax or in the payment of any assessment or governmental charge. The Company has not received notice of any tax deficiency proposed or assessed against it, and it has not executed any waiver of any statute of limitations on the assessment or collection of any tax. None of the Company's tax returns has been audited by governmental authorities in a manner to bring such audits to the Company's attention. The Company does not have any tax liabilities except those reflected on the financial statements referred to above or those which were incurred in the ordinary course of business since June 8, 1999 and are not delinquent. k. Changes, Dividends, etc. Except for the transactions contemplated by this Agreement, since June 8, 1999 the Company has not: (i) incurred any debts, obligations or liabilities, absolute, accrued or contingent and whether due or to become due, except current liabilities incurred in the ordinary course of business which (individually or in the aggregate) will not materially and adversely affect the business, properties or prospects of the Company; (ii) paid any obligation or liability other than, or discharged or satisfied any liens or encumbrances other than those securing, current liabilities, in each case in the ordinary course of business; (iii) declared or made any payment to or distribution to its shareholders as such, or purchased or redeemed any of its shares of capital stock, or obligated itself to do so; (iv) mortgaged, pledged or subjected to lien, charge, security interest or other encumbrance any of its assets, tangible or intangible, except in the ordinary course of business; (v) sold, transferred or leased any of its assets except in the ordinary course of business; (vi) suffered any physical damage, destruction or loss (whether or not covered by insurance) materially and adversely affecting the properties, business or prospects of the Company; (vii) entered into any transaction other than in the ordinary course of business; (viii) encountered any labor difficulties or labor union organizing activities; (ix) issued or sold any shares of capital stock or other securities or granted any options, warrants, or other purchase rights with respect thereto; (x) made any acquisition or disposition of any material assets; other than for fair value in the ordinary course of business; (xi) increased the compensation payable, or to become payable, to any of its directors, officers or employees, or made any bonus payment or similar arrangement with any of its directors, officers or employees or increased the scope or nature of any fringe benefits provided for its directors, officers or 5 6 employees; or (xii) agreed to do any of the foregoing other than pursuant hereto. There has been no material adverse change in the financial condition, operations, results or operations or business of the company since June 8, 1999. l. Title to Properties and Encumbrances. The Company does not have an ownership interest in any parcels of real property. The Company has good and marketable title to all of its properties and assets, including without limitation the properties and assets reflected on the 1999 Balance Sheet and the properties and assets used in the conduct of its business, which properties and assets are not subject to any mortgage, pledge, lease, lien, charge, security interest, encumbrance or restriction, except (a) those which are shown and described on the 1999 Balance Sheet, (b) liens for taxes and assessments or governmental charges or levies not at the time due or in respect of which the validity thereof shall currently be contested in good faith by appropriate proceedings, or (c) those which do not materially affect the value of or interfere with the use made of such properties and assets. m. Conditions of Properties. The offices and equipment of the Company have been kept in good condition and repair in the ordinary course of business. n. Compliance With Applicable Laws and Other Instruments. The business and operations of the Company have been and are being conducted in accordance with all applicable laws, rules and regulations of all governmental authorities, except where the failure to so conduct the business and operations of the Company would not have a material adverse effect on the business, properties or prospects of the Company. Neither the execution nor delivery of, nor the performance of or compliance with, this Agreement nor the consummation of the transactions contemplated hereby will, with or without the giving of notice or passage of time, result in any breach of, or constitute a default under, or result in the imposition of any lien or encumbrance upon any asset or property of the Company pursuant to any agreement or other instrument to which the Company is a party or by which it or any of its properties, assets or rights is bound or affected, and will not violate the Amended and Restated Articles of Incorporation or Bylaws of the Company. The Company is not in violation of its Amended and Restated Articles of Incorporation or Bylaws nor in violation of, or in default under, any lien, indenture, mortgage, lease, agreement, instrument, commitment or arrangement in any material respect. The Company is not subject to any restriction which would prohibit it from entering into or performing its obligations under this Agreement. o. Securities Laws. Based in part upon the representations of the Subscriber in Section 3 of this Agreement, no consent, authorization, approval, permit or order of or filing with any governmental or regulatory authority is required under current laws and regulations in connection with the execution and delivery of this Agreement or the offer, issuance, sale or delivery of the, Series A Preferred or the Conversion Shares, other than the qualification thereof, if required, under applicable state securities laws. The Company has not, directly or through an agent, offered the Series A Preferred or any similar securities for sale to, or solicited any offers to acquire such securities from, persons other than the Subscriber and other accredited investors. Under the circumstances contemplated by this Agreement and assuming the accuracy of the representations of the Subscriber in Section 4, the offer, issuance, sale and delivery of the Series A Shares and the Conversion Shares will not, under current laws and regulations, require compliance with the prospectus delivery or registration requirements of the federal Securities Act of 1933, as amended (the "Securities Act"). p. Intellectual Property. The Company owns or possesses sufficient trademarks, tradenames, copyrights, licenses, approvals and other similar rights, which are to the Company's 6 7 knowledge free and clear of all liens, claims and restrictions (collectively, the "Intellectual Property Rights") reasonably necessary to conduct its business as now conducted; and the expected expiration of any of such Intellectual Property Rights would not result in a material adverse change in the business, properties, financial condition or results of operations of the Company. The Company has not received any notice of, nor to its knowledge is there any claim threatened regarding, infringement or conflict with asserted Intellectual Property Rights of others, which infringement or conflict, if the object of an unfavorable decision, would result in a material adverse change in the business, properties, financial condition or results of operation of the Company. The Company is not obligated or under any liability whatsoever to make any payments of a material nature by way of royalties, fees or otherwise to any owner of, licensor of or other claimant to, any patent, trademark, tradename, copyright or other intangible asset, with respect to the use thereof or in connection with the conduct of its business. To its knowledge, the Company owns or has the unrestricted right to use all trade secrets, including know-how, customer lists, inventions, designs, processes, computer programs and technical data necessary for the development, operation and sale of the products and services sold or proposed to be sold by it, free and clear of all rights, liens, or claims of others. q. Capital Stock. At the date hereof the authorized capital stock of the Company consists of 5,000,000 shares of common stock, $.01 par value (the "Common Stock"), of which 1,919,716 shares are issued and outstanding, which such shares are owned by the persons and in the amounts indicated on Schedule 4.q. hereto, and 5,000,000 shares of Series A Preferred Stock, none of which are outstanding (without giving effect to the sale of Preferred Shares offered hereby). All of the outstanding shares of capital stock of the Company were duly authorized and validly issued and are fully paid and nonassessable, except that (i)stock certificates have not been issued and delivered by the Company to purchasers of Common Stock in the private placement of Company common stock sold in March and April 1999, and (ii) common shareholders approved the increase of authorized common stock to five million shares in June 1999, effective April 20, 1999, after an amendment to the Company's articles of incorporation were filed on April 20, 1999. Except with respect to outstanding options to purchase 251,250 shares of Company common stock held by Company employees and consultants, there are no outstanding subscriptions, options, warrants, calls, contracts, demands, commitments, convertible securities or other agreements or arrangements of any character or nature whatever, other than as contemplated by this Agreement under which the Company is obligated to issue any securities of any kind representing an ownership interest in the Company. Neither the offer nor the issuance or sale of the Preferred Shares or the Conversion Shares constitute, or will constitute, an event under any anti-dilution provisions of any securities issued or issuable by the Company or any agreements with respect to the issuance of securities by the Company, which will either increase the number of shares issuable pursuant to such provisions or decrease the consideration per share to be received by the Company pursuant to such provisions. Except as contemplated by this Agreement, no holder of any security of the Company is entitled to any preemptive or similar rights to purchase any securities of the Company from the Company; provided, however that nothing in this Section 4.q. shall affect, alter or diminish any right granted to the Subscriber in this Agreement. All outstanding securities of the Company have been issued in full compliance with an exemption or exemptions from the registration and prospectus delivery requirements of the Securities Act and from the registration and qualification requirements of all applicable state securities laws. r. Outstanding Debt. The Company has no indebtedness incurred as a result of direct borrowing of money (excluding any indebtedness incurred with respect to trade accounts), except as otherwise set forth in the financial statements or the notes thereto provided to the Subscriber. The Company is not in default in the payment of the principle of or interest or 7 8 premium on any such indebtedness, and no event has occurred or is continuing under the provisions of any instrument, document or agreement evidencing or relating to any such indebtedness which, with the lapse of time or the giving of notice or both, would constitute an event of default thereunder. s. Insurance Coverage. There are in full force and effect policies of insurance issued by insurers of recognized responsibility which are insuring the Company and its properties against such losses and risks, and in such amounts, as in the Company's best judgment, after advice from its insurance broker, are acceptable for the nature and extent of its business and the Company's resources. t. Schedule of Assets and Contracts. The Company has previously delivered to Subscriber, to the extent they exist, copies of the documents described on the schedule of assets and contracts to be attached to this Agreement no later than one week after the date hereof: (1) each written or oral contract or agreement between the Company and any shareholder of the Company; (2) each indenture, lease, sublease, license or other instrument under which the Company claims or holds a leasehold interest in real property; (3) each lease of personal property involving payments remaining to or from the Company; (4) except with respect to Robert Phythian and Paul Charchian, each of whom have verbal agreements with the Company regarding salary, each written or oral contract, agreement, subcontract, purchase order, commitment or arrangement involving payments remaining to or from the Company and each other agreement material to the Company's business to which the Company is a party or by which it is bound, under which full performance (including payment) has not been rendered by any party thereto; (5) any collective bargaining agreements, employment agreements, consulting agreement, noncompetition agreements, nondisclosure agreements, executive compensation plans, profit sharing plans, bonus plans, deferred compensation agreements, employee pension retirement plans and employee benefit stock option or stock purchase plans and other employee benefit plans, entered into or adopted by the Company; (6) a current statement of balance of account in the account at Richfield Bank and Trust maintained by the Company, together with the persons authorized to make withdrawals from such accounts; and (7) the name of each employee of the Company and the remuneration currently payable to each such employee; (8) all accounts receivable of the Company that are or were outstanding on the Balance Sheet Date, and the aging of each such account receivable; (9) all accounts payable of the Company that are or were outstanding on the June 1999 Balance Sheet, and the aging of each such account payable; 8 9 (10) all insurance policies in force; (11) all patents, royalty and license agreements, trademarks, trade names, service marks and copyrights relating to products of the Company (including applications therefor); and (12) all licenses, permits, authorizations, approvals, franchises and rights granted to the Company by any governmental or other regulatory authority. The Company has performed in all material respects all obligations required to be performed by it to date and is not in default under any of the contracts, agreements, leases, documents, commitments or other arrangements to which it is a party or by which it is otherwise bound. All instruments referred to above are in effect and enforceable according to their respective terms, and there is not under any of such instruments any existing default or event of default or event which, with notice or lapse of time or both, would constitute an event of default thereunder on the part of the Company, or, to the best knowledge of the Company, on the part of any other party thereto. All parties having contractual arrangements with the Company are in compliance therewith and none are in default thereunder. All plans or arrangements described above are fully funded to the extent that such funding is required by generally accepted accounting principles. u. Conflicts of Interest. No officer, director or shareholder of the Company or any affiliate (as the term "affiliate" is defined in Rule 405 under the Securities Act) of any such person has any direct or indirect interest (a) in any entity which does business with the Company, (b) in any property, asset or right which is used by the Company in the conduct of its business, or (c) in any contractual relationship with the Company other than as an employee. For the purpose of this Section 4.u., there shall be disregarded any interest which arises solely from the ownership of less than a 1% equity interest in a corporation whose stock is regularly traded on any national securities exchange or in the over-the-counter market. v. Licenses. To the Company's knowledge, the Company possesses from the appropriate agency, commission, board and government body and authority, whether state, local or federal, all licenses, permits, authorizations, approvals, franchises and rights which are (a) necessary for it to engage in the business currently conducted by it, and (b) if not possessed by the Company would have a material adverse impact on the Company's business. The Company has no knowledge that would lead it to believe that it will not be able to obtain all licenses, permits, authorizations, approvals, franchises and rights that may be required for any business the Company proposes to conduct. w. Registration Rights. Except as set froth under this Agreement, the Company has not agreed to register any of its authorized or outstanding securities under the Securities Act. x. Retirement Plans. The Company does not have any retirement plan in which any employees of the Company participates that is subject to any provisions of the Employee Retirement Income Security Act of 1974 and of the regulations adopted pursuant thereto ("ERISA"). y. Minute Books. A true and correct copy of all minute books and stock record books of the Company has been delivered to the Subscriber. 9 10 z. Disclosure. The Company has not withheld from the Subscriber any material facts relating to the assets, business, operations, financial condition or prospects of the Company. No representation or warranty in this Agreement or in any certificate, schedule, statement or other document furnished or to be furnished to any Subscriber pursuant hereto or in connection with the transactions contemplated hereby contains or will contain any untrue statement of a material fact or omits or will omit to state any material fact required to be stated herein or therein or necessary to make the statements herein or therein, in light of all the circumstances in which they were made, not misleading. 5. Right to Purchase Additional Securities. If the Company should decide to issue and sell for cash additional shares of any capital stock of the Company, other than Additional Shares of Common Stock (as defined in the Series A Certificate), and at such time, the Subscriber and its affiliates then own 19.9% or less of the outstanding Common Stock of the Company (including for purposes of such calculation on an as converted basis all outstanding shares of Series A Preferred and any other outstanding securities, options or warrants convertible into Common Stock, but not including performance based options that have not yet vested) then such issuances and sales shall be subject to the following terms and conditions: a. the Company shall first offer to sell to the Subscriber, upon the same terms and conditions as the Company is proposing to issue and sell such additional shares of capital stock to others, such number of additional securities as would result in the Subscriber and its affiliates maintaining their then current aggregate ownership percentage, as such percentage may decrease from time to time but in no event in excess of nineteen and nine-tenths percent (19.9%) of the outstanding Common Stock of the Company; b. if Subscriber's and its affiliates' aggregate ownership percentage upon completion of such proposed issuance and sale of additional securities would be greater than their then current aggregate ownership percentage at the time of the proposed issuance and sale of additional securities (as such percentage may decrease from time to time but in no event in excess of 19.9%), then this right to purchase additional securities shall not apply to the extent the Subscriber's and its affiliates' ownership would be, upon completion of such proposed issuance and sale of additional securities, greater than their then current aggregate ownership percentage (as such percentage may decrease from time to time but in no event in excess of 19.9%); and c. this right to purchase additional securities hereunder shall automatically terminate upon the date that the Company completes a Qualified Public Offering, as defined in the Series A Certificate. The Company and Subscriber understand that based on current stock ownership levels as of the date of this Agreement, this right to purchase additional securities shall not apply to the extent that the Company issues and sells additional securities that would result in the Subscriber's and its affiliates' aggregate ownership percentage exceeding 19.9%. By way of illustration and not as a limitation, if, at a future date, the Subscriber's and its affiliates' aggregate ownership percentage decreases from its level as of the date of this Agreement to ten percent (10%), for example, then this right to purchase additional securities would be a right to maintain a ten percent (10%) aggregate ownership percentage in the Company. 6. Affirmative Covenants of the Company. Subject to Section 8 of this Agreement, the Company covenants and agrees that: 10 11 a. Corporate Existence. The Company will maintain its corporate existence in good standing and comply in all material respects with all applicable laws and regulations of the United States or of any state or states thereof or any political subdivision thereof where failure to so comply would have a material adverse impact on the company or its business or operations. b. Books of Account and Records. The Company will keep books of record and account in which full, true and correct entries are made of all of its and their respective dealings, business and affairs, in accordance with generally accepted accounting principles. The Company will deliver to the Subscriber as soon as practicable the following: (i) after the close of each fiscal quarter, unaudited consolidated balance sheets of the Company as of the end of such quarter, together with the related statements of operations for such quarter; and (ii) after the end of each fiscal year, a nonaudited balance sheet of the Company as of the end of such fiscal year, together with related statements of operations, stockholders equity and cash flow for such fiscal year. The Company will engage a certified public accountant from a "Big 5 Accounting Firm" selected by the Board of Directors of the Company who are "independent" within the meaning of the accounting regulations of the Securities and Exchange Commission (the "Commission"), and have annual audits made by such independent public accountants. c. Payment of Taxes. The Company will pay and discharge promptly, or cause to be paid and discharged promptly when due and payable, all taxes, assessments and governmental charges or levies imposed upon its income or upon any of its properties, as well as all material claims of any kind which, if unpaid, might by law become a lien or charge upon its property; provided, however, that the Company shall not be required to pay any such tax, assessment, charge, levy or claim if the amount, applicability or validity thereof shall currently be contested in good faith by appropriate proceedings and if the Company shall set aside on its books reserves deemed adequate by it with respect thereto; and (ii) maintain and keep or cause to be maintained and kept, its properties in good repair, working order and condition, and from time to time make, or cause to be made, all repairs and renewals and replacements which in the opinion of the Company are necessary and proper so that the business carried on in connection therewith will be properly and advantageously conducted at all times. d. Insurance. The Company will obtain and maintain in force such property damage, public liability, workers compensation, indemnity bonds and other types of insurance as the Company executive officers, after consultation with its insurance broker, shall determined to be necessary or appropriate to protect the Company from the insurable hazards or risks associated with the conduct of the Company's business. All insurance company maintained in at least such amounts and to such extent as shall be determined to be reasonable by the Board of Directors, and all such insurance shall be effected and maintained in force under a policy or policies issued by insurers of recognized responsibility, except that the Company may affect workers company or similar insurance in respect of operations in any state or other jurisdiction either through an insurance fund operated by such state or other jurisdiction or by causing to be maintained a system or systems of self insurance which is in accord with applicable laws. e. Inspection. The Company will permit the Subscriber and any of its representatives designated by it, to visit and inspect, at the Subscriber's expense, any of the properties of the Company, including its books and records (and to make photocopies thereof or make extracts therefrom), and to discuss its affairs, finances and accounts with its officers and accountants, all to such reasonable extent and at such reasonable times and intervals as the Subscriber may reasonably describe and request in advance. The Subscriber shall maintain, and shall require its representatives to maintain, all information obtained from the Company pursuant to this Agreement on a confidential basis. 11 12 f. Preparation and Approval of Budgets. Commencing with its fiscal year ending June 30, 2000, at least one month prior to the beginning of each fiscal year of the Company, the Company shall prepare and submit to its board of directors, for its review and approval, an annual plan/budget for such year, which shall include monthly capital and operating expense budgets, cash flow statements and profit and loss projections itemized in such detail as the board of directors may reasonably request. The Company will, simultaneously with the submission thereof to the board of directors, deliver a copy of such annual plan/budget to the Subscriber. g. Payment of Indebtedness and Discharge of Obligations. The Company will make timely payment of all amounts due under, and will observe, perform and discharge all of the covenants, conditions and obligations which are imposed on it by, any and all indentures and other agreements securing or evidencing all indebtedness resulting from bank or other borrowings or pursuant to which such indebtedness is issued. h. Representation on Board of Directors; Directors' and Shareholders' Meetings. The Subscriber shall have the right to appoint one director to the Company's Board of Directors (the "Board"). In the event of the death, resignation or removal of any director designated by the Subscriber, the Subscriber shall be entitled to designate such director's successor. The Company agrees that in submitting to the Company's shareholders or board of directors the names and nominees for election as directors or in filling interim vacancies, it will use its good faith reasonable efforts to cause any person designated by the Subscriber to be elected as a director. The Company further agrees to call meetings of its board of directors at least quarterly and during each year to hold an annual meeting of shareholders within a reasonable time after the end of each of its fiscal years. The Company also agrees to reimburse the directors for the reasonable out-of-pocket travel expenses incurred by the directors in connection with attending meetings of the board of directors and meetings of shareholders, and shall maintain a provision in its by-laws providing for the indemnification of its directors to the full extent permitted by the law of the state of its incorporation. i. Application of Proceeds. Unless otherwise approved by the Subscriber, the net proceeds received by the Company from the sale of the Series A Preferred will be used by the Company for sales, marketing, advertising, acquisitions and general working capital purposes. Pending use of the net proceeds in the business, they shall be deposited in a bank or financial institution having assets of $150,000,000 or more or a bank or financial institution otherwise approved by the Investors, invested in certificate of deposit or repurchase agreements of a bank or financial institution having assets of $150,000,000 or more, invested in money market mutual funds having assets of $500,000,000 or more, or invested in securities issued or guaranteed by the United States Government. j. Provision of Information and Filing of Reports. The Company shall, from and after the Closing Date, deliver to any holder of Series A Preferred upon request such information as may be required to be provided to enable the holder of Series A Preferred to comply with Rule 144A under the Securities Act in connection with the sale or transfer of any of the Preferred Shares. The Company shall, from and after such time as it has securities registered pursuant to Section 2 of the Security Exchange Act of 1934 or has an offering of securities registered pursuant to the Securities Act, make timely filings of such reports as are required to be filed by it with the Commission so that Rule 144 under the Securities Act or any successor provision thereto will be available to the security holders of the Company who are otherwise able to take advantage of the provisions of such rule. 12 13 k. Subsidiaries. If the Company establishes or maintains any subsidiary corporations, it shall cause each such subsidiary corporation to comply with the covenants set forth in this Section 6 (other than Sections 6.h). l. Gaming. The Company understands that Subscriber is engaged in businesses that are regulated by various gaming authorities and regulation. Company covenants that it will provide prior written notice (which may be in the form of providing copies of minutes of meetings of the Company's Board of Directors) to the Subscriber concerning its planned activities and potential activities in the development stage that involve, directly or indirectly, contests or gaming which the Company may engage in prior to actually undertaking such activities. Subscriber agrees that, based on such prior notice and information, Subscriber will on a reasonably prompt basis notify the Company about any aspect of the proposed or developed plans regarding a new activity that could effect the subscribers compliance with the requirements of any gaming authority or regulation. The Company further covenants and agrees that it will not engage in any such activity that will in any way adversely effect Subscriber's compliance with the requirements of any such gaming authority or regulation, unless consented to in advance by subscriber, which consent may be withheld by Subscriber in its sole discretion. m. Issuance of Stock and Rights to Acquire Stock. The Company shall comply with Section 5 hereof. n. Intellectual Property Rights. The Company will apply for, or obtain assignments of, or license to use, all patents, trademarks, tradenames and copyrights which the Board of Directors so directs for the conduct and protection of the business of the Company. o. Consents to Subchapter S Status Termination. The Company agrees to undertake to obtain the consent from each shareholder of the Company to whom the Company was contractually obligated to obtain consent for termination of Subchapter S status under the Internal Revenue Code of 1986, as amended. 7. Negative Covenants of the Company. Subject to Section 8 of this Agreement, the Company covenants and agrees that: a. Registration. Except any registration expressly permitted by Section 11 of this Agreement, and except for an underwriting agreement between the Company and one or more professional underwriters of securities, the Company shall not agree with the holders of any securities issued or to be issued by the Company to register such securities under the Securities Act nor will it grant any incidental registration rights to any such persons, unless such agreement specifically provides that (i) in the opinion of the managing underwriter or underwriters, if any, of any registration in which Conversion Shares are included pursuant to Section 1 of Exhibit B, the public offering or sale of such other securities would not interfere with the successful public offering and sale of such Conversion Shares, such other securities will not be included in a registration statement in which such Conversion Shares are so included, (ii) such subsequent purchasers shall not be granted registration rights more favorable than those granted to the Subscriber, and (iii) such securities may not be publicly offered or sold for a period of at least one hundred eighty (180) days after the closing of any public offering of Conversion Shares registered pursuant to Exhibit B. b. Other Restrictions. The Company will not, nor will it permit any subsidiary to, without the prior written consent of the Subscriber: 13 14 (1) take any action that constitutes or results in amendment or waiver of any provision of the Company's Articles of Incorporation, as amended, the Series A Certificate or Bylaws, if such amendment or waiver in any way adversely affects the rights of the Series A Preferred or the holders thereof; or (2) alter, amend or change any existing rights, preferences privileges or provisions relating to the Series A Preferred or the holders thereof; or (3) take any action that results in the redemption of any share(s) of Common Stock (other than repurchases of shares of Common Stock issued pursuant to the Employee Pool). 8. Termination of Covenants. The obligations of the Company under Sections 5, 6 and 7, notwithstanding any provisions hereof to the contrary, shall automatically terminate and shall be of no further force or effect on the date on which the Company completes its Qualified Public Offering (as defined in the Series A Certificate). 9. Co-Sale Agreements. Within thirty (30) days after the date hereof, the Company undertakes and agrees to obtain written co-sale agreements to be executed and delivered by Robert Phythian, Paul Charchian and Erwin Kelen (and their related affiliates) who in the aggregate own at least 25,000 shares of Company common stock, which co-sale agreements shall provide that to the extent any such holder desires to sell at least 25,000 shares of Common Stock to a third party, other than a transfer pursuant to a pledge, estate plan, gift or registered public offering, then such holder will include, if Subscriber so desires, as an additional seller of shares of Common Stock to such third party the shares of Common Stock that Subscriber owns in such proposed sale transaction on a pro rata basis. Such co-sale agreements shall include a provision that expressly permits sale transactions of up to 25,000 shares during any twelve (12) month period on a cumulative basis and shall be in a form reasonably satisfactory to Subscriber and such shareholders. 10. Conversion of Preferred Shares. a. Conversion of Preferred Shares. Any holder of any Series A Preferred may, at its option, from and after the occurrence of such events as are set forth in the relevant provisions of the Series a Certificate, convert such Preferred Shares, or any portion thereof, into Conversion Shares at the rate and upon the terms and conditions and subject to the adjustments set forth it the Series A Certificate. Each Series A Preferred Share shall be automatically converted into Conversion Shares on the terms and conditions set forth in the Series A Certificate. b. Stock Fully Paid; Reservation of Preferred Shares. The Company covenants and agrees that all Conversion Shares that may be issued upon the exercise of the conversion privilege referred to in Section 9.a. will, upon issuance in accordance with the terms of the Series A Certificate, be fully paid and nonassessable and free from all taxes, liens and charges except for liens or changes created or incurred by the holder) with respect to the issue thereof, and that the issuance thereof shall not give rise to any preemptive rights on the part of any person. The Company further covenants and agrees that the Company will at all times have authorized and reserved a sufficient number of its shares of Common Stock for the purpose of issue upon the exercise of such conversion privilege. c. Adjustment of Number of Conversion Shares. The number of shares of Common Stock issuable upon conversion of the Series A Preferred and the conversion ratio with respect thereto shall be subject to adjustment from time to time as set forth in the Series A Certificate. 14 15 11. Registration Rights. The Subscriber shall have the right to have any Conversion Shares acquired by the Subscriber upon conversion of any Series A Preferred held by such Subscriber issued upon the exercise of the conversion rights set forth in the Series A Certificate registered by the Company in accordance with the terms and conditions set forth in Exhibit B of this Agreement. 12. Default. a. Events of Default. Each of the following events shall be an event of default (an "Event of Default") for purposes of this Agreement: (1) if the Company shall default in any material respect in the due and punctual performance of any covenant or agreement in any note, bond, indenture, loan agreement, note agreement, mortgage, security agreement or other instrument evidencing or related to indebtedness of the company, such default shall continue for more than the period of notice and/or grace, if any, therein specified and shall not have been waived, and such creditor shall have accelerated the maturity of such indebtedness or otherwise shall have initiated action to collect such indebtedness; (2) (A) if any representation or warranty made by or on behalf of the Company in this Agreement or in any certificate, report or other instrument delivered under or pursuant to any term hereof shall prove to have been untrue or incorrect in any material respect as of the date of this Agreement; or (B) if any report, certificate, financial statement or financial schedule or other instrument prepared or purported to be prepared by the Company or any officer of the Company hereafter furnished or delivered under or pursuant to this Agreement shall prove to be untrue or incorrect in any material respect as of the date it was made, furnished or delivered; (3) if the Company defaults in the due and punctual performance or observance of any covenant contained in this Agreement, and such default continues for a period of 30 days after written notice thereof to the Company by any Subscriber; provided, however, that an Event of Default shall not be deemed to have occurred if, at the end of such 30-day period, the Company is diligently attempting to cure such default and the existence of such default is not adversely affecting the business or financial condition of the Company; or (4) if the Subscriber's designees to the Company's board of directors shall fail to be elected to the board of directors in the manner and under the terms and conditions set forth in Section 6.i of this Agreement. b. Remedy Upon Events of Default. Upon the occurrence of an Event of Default, then the holders of Series A Preferred and/or Conversion Shares shall have all remedies available under applicable law or in equity. c. Notice of Defaults. When, to its knowledge, any Event of Default has occurred or exists, the Company shall give written notice within three business days of such Event of Default to the holders of all outstanding Series A Preferred. If the holder of any of the Series A Preferred shall give any notice or take any other actions in respect of a claimed Event of Default, the Company will forthwith given written notice thereof to all other holders of Preferred Shares at the time outstanding, describing such notice or action and the nature of the claimed Event of Default. 15 16 d. Remedies Not Waived. No course of dealing between the Company and the Subscriber or any holder of any Series A Preferred and no delay in exercising any right, power or remedy conferred hereby or by any such security or now or hereafter existing at law or in equity or by statute or otherwise, shall operate as a waiver of or otherwise prejudice any such right, power or remedy; provided, however, that this Section shall not be construed or applied so as to negate the provisions and intent of any statute which is otherwise applicable. e. Remedies Cumulative. No right, power or remedy conferred upon any holder of the Series A Preferred shall be exclusive, and each such right, power or remedy shall be cumulative and in addition to every other right, power or remedy, whether conferred hereby or by any such security or now or hereafter available at law or in equity or by statute or otherwise. f. Attorney Fees to the Prevailing Party. The parties hereto agree that in the event either party brings an action for breach of this Agreement or for indemnification, the prevailing party shall be entitled to receive all attorney fees, costs and expenses incurred, including without limitation such reasonable fees and expenses of attorneys (whether or not litigation is commenced) and reasonable fees, costs and expenses of appeals. 13. Lock-up Agreement. The Subscriber agrees, in connection with the initial underwritten public offering of the Common Stock, (1) not to sell, make short sale of, loan, grant any options for the purchase of, or otherwise dispose of any shares of Series A Preferred or the Common Stock into which it is converted held by the Subscriber (other than those shares, if any, included in the applicable registration statement) without the prior written consent of the Company or the underwriters managing such initial underwritten public offering for 180 days from the effective date of such registration statement and (2) to execute any written instrument reflecting the agreement set forth in (1) above as may be requested by the underwriters at the time of the initial public offering. 14. Indemnification. The Subscriber agrees to indemnify and hold the Company harmless from and against any liability, loss or expense (including reasonable attorneys' fees) if the Subscriber, alone or with others, defaults in any of the Subscriber's representations, warranties or covenants set forth herein. The Company agrees to indemnify and hold the Subscriber harmless from and against any liability, loss or expense (including reasonable attorneys' fees) (a) if the Company defaults in any of the Company's representations, warranties or covenants set forth herein and (b) incurred by Subscriber in connection with, or arising from, any claims of third parties that the Company improperly terminated its Subchapter S tax status. 15. No Filing. The Subscriber understands that no federal or state agency has made any finding or determination as to the fairness for investment nor any recommendation or endorsement of the Series A Preferred. 16. Successors. The Subscriber's rights and obligations hereunder shall inure to the benefit of, and be binding upon and enforceable against his or her heirs, representatives and successors. Notwithstanding the foregoing, neither this offer nor any rights granted to the Subscriber herein may be transferred or assigned by the Subscriber. 17. Notices. All notices to the Subscriber will be deemed given when mailed by first class mail, postage prepaid, to the address designated by the Subscriber below. 18. Questionnaires. The Subscriber understands that he or she must complete Part I of the Subscriber Information questionnaire, and Part II of the Accreditation Criteria questionnaire. 16 17 19. Governing Law. It is the intention of the Subscriber and the Company that the laws of the State of Minnesota shall govern the validity of this Subscription Agreement, the construction of its terms and the interpretation of the rights and duties of the parties. 20. Changes Waivers, Etc. Neither this Agreement nor any provision hereof may be changed, waived, discharged or terminated orally, but only by a statement in writing signed by the party against which enforcement of the change, waiver discharge or termination is sought. 21. Survival of Representations and Warranties, Etc. All representations and warranties contained herein shall survive the execution and delivery of this Agreement, any investigation at any time made by the Subscribers or on their behalf, and the sale and purchase of the Series A Preferred and the payment therefor. All statements contained in any certificate, instrument or other writing delivered by or on behalf of the Company pursuant to this Agreement (other than legal opinions) or in connection with or in contemplation of the transactions herein contemplated shall constitute representations and warranties by the Company hereunder. IN WITNESS WHEREOF, the Subscriber has caused this Agreement to be executed by its duly authorized representative and the Company has caused this Agreement to be executed by signing in counterpart the acceptance form attached to this Agreement. 17 18 PART I SUBSCRIBER INFORMATION FOR ENTITY SUBSCRIBER - ----------------------------------- Mailing Address - ----------------------------------- City State Zip - ----------------------------------- Telephone IN WITNESS WHEREOF, the Subscriber has caused this Agreement to be executed by its duly authorized representative by signing in counterpart the acceptance form attached to this Agreement. LAKES GAMING, INC. By: /S/ Lyle Berman ------------------------------------------------ Its: Chairman of the Board & Chief Executive Officer ------------------------------------------------ 18 19 CERTIFICATE OF SIGNATORY (to be completed if the Series A Preferred are being subscribed for by an entity) I, Lyle Berman, of the Lakes Gaming, Inc. (the "Entity"), hereby certify that I am empowered and duly authorized by the Entity to execute and carry out the terms of the Subscription Agreement and to purchase and hold the Series A Preferred, and certify further that the Subscription Agreement has been duly and validly executed on behalf of the Entity and constitutes a legal and binding obligation of the Entity. IN WITNESS WHEREOF, I have set my hand as of this 15th day of June, 1999. /s/ Lyle Berman ---------------------------------------------- (Signature) Lyle Berman ---------------------------------------------- (Please Print Name) Chairman of the Board & Chief Executive Officer ---------------------------------------------- (Position) 19 20 PART II ACCREDITATION CRITERIA TO BE COMPLETED BY ALL SUBSCRIBERS The shares are being offered only to "accredited investors" as defined within the meaning of rule 501 (a) of Regulation D promulgated by the Securities and Exchange Commission. An accredited investor is one who fulfills any one of the following criteria. Please indicate (by check) which criteria apply: A. For an INDIVIDUAL INVESTOR (a natural person), please indicate (by a check) which criteria apply: [ ] (1) Individual income in excess of $200,000 in each of the two most recent years or joint income (with such investor's spouse) in excess of $300,000 in each of those years and a reasonable expectation of reaching the same income level in the current year. [ ] (2) Individual net worth, or Joint net worth (with such investor's spouse), of $1,000,000 or more. [ ] (3) A director or executive officer of the Company. B. For a LEGAL ENTITY (other than a natural person), please indicate (by a check) which criteria apply: [ ] (1) A bank, savings and loan association or similar institution, as defined in the Securities Act of 1933, whether acting in its individual or fiduciary capacity. [ ] (2) A broker or dealer registered pursuant to Section 15 of the Securities Exchange Act of 1934. [ ] (3) An insurance company as defined in the Securities Act of 1933. [ ] (4) An investment company registered under the Investment Company Act of 1940. [ ] (5) A business development company as defined in the Investment Company Act of 1940. [ ] (6) A private business development company as defined in the Investment Advisors Act of 1940. [ ] (7) A Small Business Investment Company licensed by the U.S. Small Business Administration under the Small Business Investment Act of 1958. 20 21 [ ] (8) An organization described in Section 501(c)(3) of the Internal Revenue Code, corporation, Massachusetts or similar business trust, or partnership, not formed for the specific purpose of acquiring the securities offered, with total assets in excess of $5,000,000. [ ] (9) A plan established and maintained by a state, its political subdivisions, or any agency or instrumentality of a state or its political subdivisions, for the benefit of its employees, if such plan has total assets in excess of $5,000,000. [ ] (10) An employee benefit plan within the meaning of Title I of the Employment Retirement Income Security Act of 1974, if the investment decision is made by a plan fiduciary, as defined in such Act, which is either a bank, savings and loan association, insurance company, or registered investment advisor, or if the employee benefit plan has total assets in excess of $5,000,000, or if a self-directed plan, the investment decisions are made solely by persons that are accredited investors. [ ] (11) A trust with total assets in excess of $5,000,000, not formed for the specific purpose of acquiring the Securities offered, whose purchase is directed by a "sophisticated" person. the person or persons making the investment decisions of the trust should complete Part I (unless B(1) or B(2) also apply). [ ] (12) An entity in which all of the equity owners are "accredited investors." Date: June 15, 1999 ---------------- Lakes Gaming, Inc. ------------------------------ Name of Subscriber /s/ Lyle Berman ------------------------------ Signature of Subscriber 21 22 ACCEPTANCE This Subscription Agreement of Lakes Gaming, Inc. is hereby accepted by Fanball.com, Inc. as of June 15, 1999. FANBALL.COM, INC. By: Rob Phythian ------------------------------ Its: President ------------------------------ 22 EX-10.2 3 STOCK PURCHASE AGREEMENT 1 EXHIBIT 10.2 STOCK PURCHASE AGREEMENT This STOCK PURCHASE AGREEMENT, dated as of June 15, 1999, is between Lakes Gaming, Inc. (the "Buyer") and Richard Kallio (the "Seller"). A. The Seller is the owner of 150,000 shares (the "Shares") of the common stock, par value $.01 per share, of Fanball.com, Inc. a Minnesota corporation (the "Company"), which Shares constitute approximately 7.8% of the issued and outstanding shares of common stock of the Company ("Company Common Stock"). B. The Seller wishes to sell and the Buyer wishes to buy the Shares for the consideration and upon the terms and conditions set forth below. Accordingly, the parties agree as follows: 1. Sale and Purchase of Shares. Subject to the terms and conditions of this Agreement and in reliance upon the representations and warranties contained in this Agreement, the Seller hereby sells to the Buyer, and the Buyer hereby purchases from the Seller, the Shares. 2. Purchase Price and Other Terms. The total purchase price for the Shares to be purchased under this Agreement will be Two and 50/100 Dollars ($2.50) per share. The purchase price for the Shares is being paid by the Buyer on the date hereof by delivery to the Seller of a check in the amount of $375,000 (the "Purchase Consideration"). On the date hereof, the Seller is delivering to the Company, for cancellation, a stock certificate representing the Shares, and the Company is issuing to the Buyer a new stock certificate representing the Shares. 3. Representations and Warranties of Seller. In order to induce Buyer to enter into this Agreement and purchase the Shares, the Seller hereby represents and warrants to the Buyer as follows: (a) Title to Shares. The Seller is the lawful owner of the Shares, free and clear of all liens, encumbrances and claims of every kind, and the delivery of such Shares by the Seller to the Buyer under this Agreement will transfer valid title to the Buyer to the Shares, free and clear of all liens, charges, encumbrances and claims of every kind. There are no actions, suits or proceedings against the Seller affecting the title of the Seller to the Shares or the right of the Seller to execute, deliver and perform this Agreement. (b) Authority. The Seller has the full legal right, power and authority to execute and deliver this Agreement and to consummate the transactions provided for herein or contemplated hereby. This Agreement has been duly and validly authorized, executed and delivered by, and constitutes the valid and binding agreement of the Seller, enforceable in accordance with its terms. 2 (c) No Default or Legal Restriction. Neither the execution and delivery of this Agreement, nor the consummation of the transactions contemplated hereby, will conflict with or result in a breach of any of the terms, conditions or provisions of any agreement or instrument to which the Seller is a party or by which he is bound, or constitute a default under the foregoing or violate any law, rule, regulation, judgment or decree by which the Seller is bound. 4. Representations and Warranties of the Buyer. The Buyer represents and warrants to the Seller that it has the full legal right, power and authority to execute and deliver this Agreement and to consummate the transactions provided for herein or contemplated hereby. This Agreement has been duly and validly authorized, executed and delivered by, and constitutes the valid and binding agreement of, the Buyer, enforceable in accordance with its terms. 5. Survival. The representations, warranties, covenants and agreements of each of the Seller and the Buyer will survive the execution and delivery of this Agreement and the consummation of the transactions contemplated hereby regardless of any investigation that may have been made at any time by or on behalf of the party to which such representations, warranties, covenants and agreements are made. 6. Miscellaneous. (a) Governing Law. This Agreement will be governed by and construed in accordance with the laws of the State of Minnesota. (b) Entire Agreement, Successors and Assignment. This Agreement sets forth the entire agreement and understanding of the parties in respect of the transactions contemplated hereby and supersedes all prior agreements, arrangement, and understandings relating to the subject matter hereof or thereof. All of the terms, representations and warranties of this Agreement will be binding upon, inure to the benefit of, and be enforceable by, the parties hereto and their respective successors, heirs at law, legatees, distributees, executors, administrators and other legal representatives. (c) Further Assurances. Each party to this Agreement will, on or any time after the date hereof, execute such further documents or instruments and take such further actions as may reasonably be requested by any other party to this Agreement to effect the purposes of this Agreement. (d) Counterparts. This Agreement may be executed in two or more counterparts, each of which will constitute an original, but all of which, when taken together will constitute but one instrument. 2 3 The parties hereto have caused this Agreement to be duly executed on and as of the day and year first above written. BUYER: SELLER: - ------ ------- Lakes Gaming, Inc. By: /s/ Lyle Berman -------------------------------- Name: Lyle Berman /s/ Richard Kallio ------------------------------ ----------------------------- Its: Chairman of the Board and Richard Kallio ------------------------------- Chief Executive Officer ------------------------------- 3 EX-10.3 4 INTERACTIVE LEARNING GROUP, INC. SUBSCRIPTION AGT. 1 EXHIBIT 10.3 INTERACTIVE LEARNING GROUP, INC. SUBSCRIPTION AGREEMENT AND INVESTMENT LETTER PURCHASE OF COMMON STOCK AND COMMON STOCK PURCHASE WARRANT Interactive Learning Group 5001 West 80th Street Suite #310 Bloomington, MN 55437 The undersigned (the "Subscriber") hereby subscribes for and offers to purchase from Interactive Learning Group, Inc., a Minnesota corporation (the "Company"), for an aggregate purchase price of Three Million Dollars ($3,000,000) (the "Purchase Price"): (A) one million (1,000,000) shares (the "Shares") of Company common stock, $.01 par value (the "Common Stock") and (B) a seven (7) year warrant (the "Warrant"), in the form attached hereto as EXHIBIT A, to acquire an aggregate of Five Hundred Thousand (500,000) shares of Common Stock at a warrant exercise price of Three Dollars and Fifty Cents ($3.50) per share (the Warrant, together with the Shares, are referred to herein as the "Securities"), in each case upon the terms and subject to the following conditions: 1. Payment. Subscriber submits and delivers herewith a check for the Purchase Price, made payable to "Interactive Learning Group, Inc." representing the aggregate purchase price for the Securities. In exchange therefor, the Company delivers to Subscriber a stock certificate, dated as of the date hereof, representing the Shares purchased by the Subscriber and registered in the name of Lakes Gaming, Inc., and a fully executed Warrant, in the form of EXHIBIT A. 2. Representations of Subscriber. To induce the Company to accept this offer, Subscriber represents and warrants as follows: (a) Subscriber agrees that Subscriber may not sell or otherwise transfer all or any interest in the Securities except as expressly provided in this Subscription Agreement and Investment Letter (the "Agreement"). (b) Subscriber understands that the Company must comply with the securities laws of the jurisdiction in which the Subscriber is domiciled. Subscriber therefore represents and warrants to the Company as follows: 2 (i) Subscriber is a business organization organized and validly existing under the laws of, and with its principal office located in, the State of Minnesota. Subscriber represents and warrants that it was not organized, either directly or indirectly, for the specific purpose of acquiring the Securities and that it has acquired such securities for its own account and not for the personal accounts of its shareholders. (ii) Subscriber realizes that purchase of the Securities is a speculative investment involving a high degree of risk, including but not limited the risk of economic losses from operations of the Company, and that the economic benefits, if any, which may be derived from the purchase of the Securities are uncertain. In determining whether or not to make an investment in the Company, Subscriber has relied solely upon independent investigations made by Subscriber or its representatives. (iii) Subscriber has had full opportunity to conduct, and has conducted, a complete and thorough due diligence investigation of the Company, and such opportunity has been made available to the Subscriber's professional representative(s), to ask questions of and receive answers from representatives of the Company concerning the Company and its financial condition and prospects, as well as to obtain additional information necessary to verify the accuracy of the written materials provided to Subscriber and its representatives by the Company. (iv) Subscriber understands that the Securities have not been registered under the Securities Act of 1933, as amended (the "Act"), or any state securities laws, in reliance on exemptions from registration which depend, in part on the Subscriber's investment intention; and, accordingly, the truth and accuracy of the foregoing representations will be relied upon by the Company to establish such exemptions. Subscriber acknowledges that the Company is not required to recognize any transfer of the Securities unless, in the opinion of counsel to the Company, such transfer would not result in a violation of any federal or state law regarding the offer and sale of securities and has the capacity to protect its own interests. (v) Subscriber agrees to the placing on the certificates representing the Shares of legends, in substantially the following form, referring to the restrictions set forth in the preceding paragraph: THE SHARES REPRESENTED BY THIS CERTIFICATE HAVE NOT BEEN REGISTERED UNDER THE SECURITIES ACT OF 1933, AS AMENDED, OR APPLICABLE STATE SECURITIES LAWS. NO SALE OR ASSIGNMENT OF THE SHARES REPRESENTED BY THIS CERTIFICATE SHALL BE MADE UNLESS THE HOLDER SHALL HAVE OBTAINED AN OPINION OF COUNSEL SATISFACTORY TO THE COMPANY THAT SUCH PROPOSED DISPOSITION OR TRANSFER LAWFULLY MAY BE MADE WITHOUT REGISTRATION OF SUCH SHARES PURSUANT TO APPLICABLE SECURITIES LAWS, OR SUCH REGISTRATION. 2 3 (vi) Subscriber is aware that there are restrictions on the transferability of the Securities, that there is no market for the Securities, and that it is possible that such a market will never develop. Accordingly, it is unlikely that the Subscriber will be able to liquidate an investment in the Company in case of an emergency or for any other reason. (vii) Subscriber's commitment to investments that are not readily marketable is not disproportionate to its net worth, and an investment in the Securities will not cause such commitment to become excessive. Subscriber has adequate means of providing for its current needs and contingencies and has no need for liquidity with respect to its investment in the Securities, and can withstand a complete loss of its investment. Subscriber has, either alone or with a purchaser representative, such knowledge and experience in financial and business matters that Subscriber is capable of evaluating the merits and risks of an investment in the Securities. (viii) Subscriber qualifies as an "accredited investor" for purposes of Regulation D promulgated under the Securities Act of 1993. 3. Representations of the Company. Except as set forth in the DISCLOSURE SCHEDULE, which is attached hereto and made a part hereof, the Company represents and warrants to Subscriber as follows: (a) Organization. The Company is a corporation duly organized, validly existing and in good standing under the laws of the State of Minnesota, and has the requisite corporate power and authority to own its properties and carry on its business in all material respects as it is now being conducted. The Company has the requisite corporate power and authority to issue the Shares, the Warrant, and the shares of Common Stock issuable upon exercise of the Warrant (the "Warrant Shares") and to otherwise perform its obligations under this Agreement. (b) Status of the Shares and the Warrant Shares. The Shares, when issued and paid for pursuant to the terms of this Agreement, will be duly authorized, validly issued and outstanding, fully paid and nonassessable, free and clear of all pledges, liens, encumbrances and restrictions, and the Warrant Shares have been reserved for issuance upon exercise of the Warrant, and when issued and paid for pursuant to the terms of the Warrant will be duly authorized, validly issued and outstanding, fully paid and nonassessable, and free and clear of all pledges, liens, encumbrances and restrictions. The certificates representing the Shares to be delivered by the Company hereunder, and the certificates representing the Warrant Shares will be genuine, and the Company has no knowledge of any fact which would impair the validity thereof. (c) Corporate Acts and Proceedings. This Agreement has been duly authorized by all necessary corporate action on behalf of the Company, and has been duly executed and delivered by authorized officers of the Company, and is the valid and binding agreement upon the part of the Company that is enforceable against the Company in accordance with its terms, except as the enforceability thereof may be limited by bankruptcy, insolvency, moratorium, reorganization or other similar laws affecting the enforcement of creditors' rights generally and to judicial limitations 3 4 on the enforcement of the remedy of specific performance and other equitable remedies. All corporate action necessary to the authorization, creation, issuance and delivery of the Securities and the Warrant Shares has been taken by the Company. (d) Brokers. Except as set forth in the DISCLOSURE SCHEDULE, no person, firm or corporation has or will have, as a result of any act or omission of the Company, any interest, right or valid claim against or upon the Company for any commission, fee or other compensation as a finder or broker in connection with the transactions contemplated by this Agreement. The Company will indemnify and hold subscriber harmless against any and all liability with respect to any such commission, fee or other compensation which may be payable or determined to be payable in connection with the transactions contemplated by this Agreement, except those commissions, fees or other compensation as otherwise set forth in the DISCLOSURE SCHEDULE. (e) Litigation; Governmental Proceedings. There are no legal actions, suits, arbitrations or other legal, administrative or governmental proceedings or investigations pending or, to the knowledge of the Company, threatened against the Company, its properties, assets or business, and the Company is not aware of any facts which are likely to result in or form the basis for any such action, suit or other proceeding which would have a material adverse impact on the Company. The Company is not in default with respect to any judgment, order or decree of any court or any governmental agency or instrumentality. (f) Governing Instruments. The copies of the Articles of Incorporation and By-Laws of the Company which have been delivered to legal counsel for Subscriber prior to the execution of this Agreement are true and complete copies of the duly and legally adopted Articles of Incorporation and By-Laws of the Company in effect as of the date of this Agreement. (g) Subsidiaries, Etc. The Company does not have any direct or indirect ownership interest in any corporation, partnership, joint venture, limited liability company or partnership, association or other business enterprise. (h) Qualification. The Company is duly qualified, licensed or domesticated as a foreign corporation in good standing in each jurisdiction wherein the nature of its activities or the properties owned or leased by it makes such qualification, licensing or domestication necessary and in which failure to so qualify or be licensed or domesticated would have a material adverse impact upon its business. (i) Financial Statements. Attached to this Agreement as EXHIBIT B is the audited balance sheet for the Company dated as of September 30, 1998, and the unaudited internal balance sheet as of March 31, 1999, together with the related statements of profit and loss for the fiscal years or periods then ended. Such financial statements (i) are in accordance with the books and records of the Company, (ii) present fairly the financial condition of the Company at the balance sheets dates and the results of its operations for the periods therein specified, and (iii) have been applied on a basis consistent with prior accounting periods and have been prepared substantially in accordance 4 5 with generally accepted accounting principles except, with respect to the unaudited financial statements, those normal adjustments, omissions of footnotes and the like. Without limiting the generality of the foregoing, the balance sheets or notes thereto disclose all of the debts, liabilities and obligations of any nature (whether absolute, accrued or contingent and whether due or to become due) of the Company at their respective dates, which, individually or in the aggregate, are material and which in accordance with generally accepted accounting principles would be required to be disclosed in such balance sheets and include appropriate reserves for all taxes and other material liabilities accrued as of such dates but not yet payable. (j) Tax Returns and Audits. All required federal, state and local tax returns or appropriate extension requests of the Company have been filed, and all federal, state and local taxes required to be paid with respect to such returns have been paid or due provision for the payment thereof has been made. The Company is not delinquent in the payment of any such tax or in the payment of any assessment or governmental charge. The Company has not received notice of any tax deficiency proposed or assessed against it, and it has not executed any waiver of any statute of limitations on the assessment or collection of any tax. None of the Company's tax returns has been audited by governmental authorities in a manner to bring such audits to the Company's attention. The Company does not, to the best of its knowledge, have any tax liabilities except those reflected on EXHIBIT B or those which were incurred in the ordinary course of business and are not delinquent. (k) Changes, Dividends, Etc. Except for the transactions contemplated by this Agreement and otherwise set forth on the DISCLOSURE SCHEDULE, since March 31, 1999 (the "Balance Sheet Date") the Company has not: (i) incurred any debts, obligations or liabilities, absolute, accrued or contingent and whether due or to become due, except current liabilities incurred in the ordinary course of business which (individually or in the aggregate) will not materially and adversely affect the business, properties or prospects of the Company; (ii) paid any obligation or liability other than current liabilities for trade or business obligations or discharged or satisfied any liens or encumbrances other than those securing, current liabilities, in each case in the ordinary course of business; (iii) declared or made any payment to or distribution to its shareholders as such, or purchased or redeemed any of its shares of capital stock, or obligated itself to do so; (iv) mortgaged, pledged or subjected to lien, charge, security interest or other encumbrance any of its assets, tangible or intangible, except in the ordinary course of business; (v) sold, transferred or leased any of its assets except in the ordinary course of business; (vi) suffered any physical damage, destruction or loss (whether or not covered by insurance) materially and adversely affecting the properties, business or prospects of the Company; (vii) entered into any transaction other than in the ordinary course of business; (viii) encountered any labor difficulties or labor union organizing activities; (ix) issued or sold any shares of capital stock or other securities or granted any options, warrants, or other purchase rights with respect thereto; (x) made any acquisition or disposition of any material assets; other than for fair value in the ordinary course of business; (xi) increased the compensation payable, or to become payable, to any of its directors, officers or employees, or made any bonus payment or similar arrangement with any of its directors, officers or employees or increased the scope or nature of any fringe benefits provided for its directors, officers or employees; or (xii) agreed to do any of the foregoing other than pursuant hereto. There has been no material adverse change in the financial 5 6 condition, operations, results of operations or business of the Company since the Balance Sheet Date. (l) Title to Properties and Encumbrances. The Company does not have an ownership interest in any parcels of real property. The Company has good and marketable title to all of its properties and assets, which properties and assets are not subject to any mortgage, pledge, lease, lien, charge, security interest, encumbrance or restriction, except (a) those which are shown and described on EXHIBIT B, (b) liens for taxes and assessments or governmental charges or levies not at the time due or in respect of which the validity thereof shall currently be contested in good faith by appropriate proceedings, or (c) those which do not materially affect the value of or interfere with the use made of such properties and assets. (m) Conditions of Properties. The plant, offices and equipment of the Company have been kept in good condition and repair in the ordinary course of business. (n) Compliance With Applicable Laws and Other Instruments. To the best of its knowledge, the business and operations of the Company have been and are being conducted in accordance with all applicable laws, rules and regulations of all governmental authorities. Neither the execution nor delivery of, nor the performance of or compliance with, this Agreement nor the consummation of the transactions contemplated hereby will, with or without the giving of notice or passage of time, result in any breach of, or constitute a default under, or result in the imposition of any lien or encumbrance upon any asset or property of the Company pursuant to any agreement or other instrument to which the Company is a party or by which it or any of its properties, assets or rights is bound or affected, and will not violate the Articles of Incorporation or By-Laws of the Company. The Company is not in violation of its Articles of Incorporation or By-Laws nor in violation of, or in default under, any lien, indenture, mortgage, lease, agreement, instrument, commitment or arrangement in any material respect. The Company is not subject to any restriction which would prohibit it from entering into or performing its obligations under this Agreement. (o) Securities Laws. Based in part upon the representations of the Subscriber in Section 2, no consent, authorization, approval, permit or order of or filing with any governmental or regulatory authority is required under current laws and regulations in connection with the execution and delivery of this Agreement or the offer, issuance, sale or delivery of the Securities or the Warrant Shares, other than the qualification thereof, if required, under applicable state securities laws. The Company will use its best effort to effect such qualification as a condition of these sales. The Company has not, directly or through an agent, offered the Securities for sale to, or solicited any offers to acquire such Securities from, persons other than Subscriber and other accredited investors. Under the circumstances contemplated by this Agreement and assuming the accuracy of the representations of the Subscriber in Section 2, the offer, issuance, sale and delivery of the Securities and the Warrant Shares will not, under current laws and regulations, require compliance with the prospectus delivery or registration requirements of the federal Securities Act of 1933, as amended (the "Securities Act"). 6 7 (p) Patents and Other Intangible Rights. The Company (a) owns or has the exclusive right to use, free and clear of all liens, claims and restrictions, all patents, trademarks, service marks, trade names, copyrights, licenses and rights with respect to the foregoing, used in the conduct of its business as now conducted, without infringing upon or otherwise acting adversely to the right or claimed right of any person under or with respect to any of the foregoing, (b) is not obligated or under any liability whatsoever to make any payments of a material nature by way of royalties, fees or otherwise to any owner of, licensor of, or other claimant to, any patent, trademark, trade name, copyright or other intangible asset, with respect to the use thereof or in connection with the conduct of its business or otherwise, (c) owns or has the unrestricted right to use all trade secrets, including know-how, customer lists, inventions, designs, processes, computer programs and technical data necessary for the development, operation and sale of the products and services sold or proposed to be sold by it, free and clear of any rights, liens, or claims of others, and (d) is not, to the best of its knowledge, using any confidential information or trade secrets of others. (q) Capital Stock. At the date hereof the authorized capital stock of the Company consists of 10,000,000 shares of Common Stock, of which 2,041,260 shares are issued and outstanding, which such shares are owned by the persons and in the amounts indicated on the DISCLOSURE SCHEDULE. All of the outstanding shares of capital stock of the Company were duly authorized and validly issued and are fully paid and nonassessable. Except as set forth on the DISCLOSURE SCHEDULE, there are no outstanding subscriptions, options, warrants, calls, contracts, demands, commitments, convertible securities or other agreements or arrangements of any character or nature whatever, other than as contemplated by this Agreement under which the Company is obligated to issue any securities of any kind representing an ownership interest in the Company. Neither the offer nor the issuance or sale of the Securities or the Warrant Shares constitute, or will constitute, an event under any anti-dilution provisions of any securities issued or issuable by the Company or any agreements with respect to the issuance of securities by the Company, which will either increase the number of shares issuable pursuant to such provisions or decrease the consideration per share to be received by the Company pursuant to such provisions. Except as contemplated by this Agreement, no holder of any security of the Company is entitled to any preemptive or similar rights to purchase any securities of the Company from the Company; provided, however, that nothing in this Section shall affect, alter or diminish any right granted to Subscriber in this Agreement. All outstanding securities of the Company have been issued in full compliance with an exemption or exemptions from the registration and prospectus delivery requirements of the Securities Act and from the registration and qualification requirements of all applicable state securities laws. (r) Outstanding Debt. The Company has no indebtedness incurred as a result of direct borrowing of money (excluding any indebtedness incurred with respect to trade accounts), except as otherwise set forth in the financial statements or the notes thereto provided to the Subscriber or set forth in the DISCLOSURE SCHEDULE. The Company is not in default in the payment of the principle of or interest or premium on any such indebtedness, and no event has occurred or is continuing under the provisions of any instrument, document or agreement evidencing or relating to any such 7 8 indebtedness which, with the lapse of time or the giving of notice or both, would constitute an event of default thereunder. (s) Schedule of Assets and Contracts. Attached hereto as Schedule 3(s) is a Schedule of Assets and Contracts containing: (i) ANNEX A: a listing of each material written or oral contract or agreement between the Company and any shareholder of the Company; (ii) ANNEX B: a listing of each indenture, lease, sublease, license or other instrument under which the Company claims or holds a leasehold interest in real property; (iii) ANNEX C: a listing of each lease of personal property involving payments remaining to or from the Company in excess of $25,000 during a twelve-month period; (iv) ANNEX D: a listing of each written or oral contract, agreement, subcontract, purchase order, commitment or arrangement involving payments remaining to or from the Company in excess of $25,000 during a twelve-month period and each other agreement material to the Company's business to which the Company is a party or by which it is bound, under which full performance (including payment) has not been rendered by any party thereto; (v) ANNEX E: a listing of any collective bargaining agreements, employment agreements, consulting agreements, noncompetition agreements, nondisclosure agreements, executive compensation plans, profit sharing plans, bonus plans, deferred compensation agreements, employee pension retirement plans, employee benefit stock option plans or stock purchase plans and other employee benefit plans, entered into or adopted by the Company; (vi) ANNEX F: a listing of all bank accounts (or accounts with other financial institutions) maintained by the Company, together with the persons authorized to make withdrawals from such accounts; and (vii) ANNEX G: a listing of the name of each employee of the Company and the gross salary currently payable to each such employee; (viii) ANNEX H: a listing of all accounts receivable of the Company that are or were outstanding on the Balance Sheet Date, and the aging of each such account receivable; (ix) ANNEX I: a listing of all accounts payable of the Company that are or were outstanding on the Balance Sheet Date; (x) ANNEX J: a listing of all insurance policies in force; 8 9 (xi) ANNEX K: a listing of all patents, royalty and license agreements, trademarks, trade names, service marks and copyrights relating to products of the Company (including applications therefor); and (xii) ANNEX L: a listing of all material licenses, permits, authorizations, approvals, franchises and rights granted to the Company by any governmental or other regulatory authority. The Company has provided the Subscriber and its legal counsel with a true and complete copy of each document referred to on such annexes. The Company has performed in all material respects all obligations required to be performed by it to date and is not in material default under any of the contracts, agreements, leases, documents, commitments or other arrangements to which it is a party or by which it is otherwise bound. All instruments referred to in the annexes described in this Section are in effect and enforceable according to their respective terms, and there is not under any of such instruments any existing default or event of default or, to the best knowledge of the Company, an event which, with notice or lapse of time or both, would constitute an event of default thereunder on the part of the Company or on the part of any other party thereto. All parties having contractual arrangements with the Company are in compliance therewith and none are in default thereunder. All plans or arrangements listed on ANNEX E are fully funded to the extent that such funding is required by generally accepted accounting principles. (t) Insurance Coverage. There are in full force and effect policies of insurance issued by insurers of recognized responsibility which are insuring the Company and its properties against such losses and risks, and in such amounts, as in the Company's best judgment, after advice from its insurance broker, are acceptable for the nature and extent of its business and the Company's resources. (u) Conflicts of Interest. Except as set forth in the DISCLOSURE SCHEDULE, no officer, director or shareholder of the Company or any affiliate (as the term "affiliate" is defined in Rule 405 under the Securities Act) of any such person has any direct or indirect interest (a) in any entity which does business with the Company, (b) in any property, asset or right which is used by the Company in the conduct of its business, or (c) in any contractual relationship with the Company other than as an employee. For the purpose of this Section, there shall be disregarded any interest which arises solely from the ownership of less than a 1% equity interest in a corporation whose stock is regularly traded on any national securities exchange or in the over-the-counter market. (v) Licenses. The Company possesses from the appropriate agency, commission, board and government body and authority, whether state, local or federal, all licenses, permits, authorizations, approvals, franchises and rights which are (a) necessary for it to engage in the business currently conducted by it, and (b) if not possessed by the Company would have an adverse impact on the Company's business. The Company has no knowledge that would lead it to believe that it will not be able to obtain all licenses, permits, authorizations, approvals, franchises and rights that may be required for any business the Company proposes to conduct. 9 10 (w) Registration Rights. Except as set forth under this Agreement or in the DISCLOSURE SCHEDULE, the Company has not agreed to register any of its authorized or outstanding securities under the Securities Act. (x) Retirement Plans. The Company does not have any retirement plan in which any employees of the Company participates that is subject to any provisions of the Employee Retirement Income Security Act of 1974 and of the regulations adopted pursuant thereto ("ERISA"). (y) Minute Books. A true and correct copy of all minute books and stock record books of the Company has been delivered to the Subscriber. (z) Disclosure. The Company has not withheld from Subscriber any material facts relating to the assets, business, operations, financial condition or prospects of the Company. No representation or warranty in this Agreement or in any certificate, schedule, statement or other document furnished or to be furnished to Subscriber pursuant hereto or in connection with the transactions contemplated hereby contains or will contain any untrue statement of a material fact or omits or will omit to state any material fact required to be stated herein or therein or necessary to make the statements herein or therein not misleading. 4. Right of First Refusal to Purchase Additional Securities. If the Company should decide to issue or offer to sell for cash additional shares of any capital stock of the Company or other securities (except for options, warrants or other securities convertible into or exercisable for Common Stock on a converted basis and which are outstanding prior to the date of this Agreement), then the Company shall first offer to sell to Subscriber, upon the same terms and conditions as the Company is proposing to issue or offer to sell such shares of capital stock or securities to others and for a reasonable period of time, such number of additional securities as would result in Subscriber and its affiliates maintaining their then current ownership percentage of the Common Stock of the Company, it being understood that all outstanding shares of any capital stock and any other outstanding securities convertible into or exercisable for Common Stock on a converted basis issued or granted by the Company on or before the date of this Agreement shall be included for all purposes in such calculation. 5. Affirmative Covenants of the Company. The Company covenants and agrees that: (a) Corporate Existence. The Company will maintain its corporate existence in good standing and comply in material respects with all applicable laws and regulations of the United States or of any state or states thereof or any political subdivision thereof where failure to so comply would have a material adverse impact on the company or its business or operations. (b) Books of Account and Records. The Company will keep books of record and account in which full, true and correct entries are made of all of its and their respective dealings, business and affairs, in accordance with generally accepted accounting principles. The Company will deliver to the Subscriber as soon as practicable the following: (i) after the close of each fiscal quarter, 10 11 unaudited consolidated balance sheets of the Company as of the end of such fiscal quarter, together with the related statements of operations for such quarter; and (ii) after the end of each fiscal year, an audited balance sheet of the Company as of the end of such fiscal year, together with related statements of operations, stockholders' equity and cash flow for such fiscal year. (c) Payment of Taxes. The Company will pay and discharge promptly, or cause to be paid and discharged promptly when due and payable, all taxes, assessments and governmental charges or levies imposed upon its income or upon any of its properties, as well as all material claims of any kind which, if unpaid, might by law become a lien or charge upon its property; provided, however, that the Company shall not be required to pay any such tax, assessment, charge, levy or claim if the amount, applicability or validity thereof shall currently be contested in good faith by appropriate proceedings and if the Company shall set aside on its books reserves deemed adequate by it with respect thereto; and (ii) maintain and keep or cause to be maintained and kept, its properties in good repair, working order and condition, and from time to time make, or cause to be made, all repairs and renewals and replacements which in the opinion of the Company are necessary and proper so that the business carried on in connection therewith will be properly and advantageously conducted at all times. (d) Insurance. The Company will obtain and maintain in force such property damage, public liability, workers compensation, indemnity bonds and other types of insurance as the Company executive officers, after consultation with its insurance broker, shall determined to be necessary or appropriate to protect the Company from the insurable hazards or risks associated with the conduct of the Company's business. All insurance company maintained in at least such amounts and to such extent as shall be determined to be reasonable by the Board of Directors, and all such insurance shall be effected and maintained in force under a policy or policies issued by insurers of recognized responsibility, except that the Company may affect workers' compensation or similar insurance in respect of operations in any state or other jurisdiction either through an insurance fund operated by such state or other jurisdiction or by causing to be maintained a system or systems of self insurance which is in accord with applicable laws. (e) Inspection. The Company will permit the Subscriber and any of their representatives designated by them, to visit and inspect, at the Subscriber's expense, any of the properties of the Company, including its books and records (and to make photocopies thereof or make extracts therefrom), and to discuss its affairs, finances and accounts with its officers and accountants, all to such reasonable extent and at such reasonable times and intervals as the Subscriber may reasonably describe and request in advance. Subscriber shall maintain, and shall require its representatives to maintain, all information obtained from the Company on a confidential basis. (f) Preparation and Approval of Budgets. Commencing with its fiscal year ending September 30, 1999, at least one month prior to the beginning of each fiscal year of the Company, the Company shall prepare and submit to its board of directors, for its review and approval, an annual plan/budget for such year, which shall include monthly capital and operating expense budgets, cash flow statements and profit and loss projections itemized in such detail as the board of 11 12 directors may reasonably request. The Company will, simultaneously with the submission thereof to the board of directors, deliver a copy of such annual plan/budget to the Subscriber. All such annual plans/budgets prepared and delivered in accordance with this Section 5(f) shall be subject to Section 19 of this Agreement. (g) Payment of Indebtedness and Discharge of Obligations. The Company will make timely payment of all amounts due under, and will observe, perform and discharge all of the covenants, conditions and obligations which are imposed on it by, any and all indentures and other agreements securing or evidencing all indebtedness resulting from bank or other borrowings or pursuant to which such indebtedness is issued. (h) Representation on Board of Directors; Directors' and Shareholders' Meetings. Subscriber shall have the right to appoint one director to the Company's Board of Directors (the "Board"). In the event the Board increases the number of directors on the Board to 11 or more, the Subscriber shall have the right to appoint one (1) additional member to the Board. In the event of the death, resignation or removal of any director designated by Subscriber, Subscriber shall be entitled to designate such director's successor. The Company agrees that in submitting to the Company's shareholders or board of directors the names and nominees for election as directors or in filling interim vacancies, it will use its best efforts to cause any person designated by Subscriber to be elected as a director. The Company further agrees to call regular meetings of its board of directors and during each year to hold an annual meeting of shareholders within a reasonable time after the end of each of its fiscal years. The Company also agrees to reimburse the directors for the reasonable out-of-pocket travel expenses incurred by the directors in connection with attending meetings of the board of directors and meetings of shareholders, and shall maintain a provision in its by-laws providing for the indemnification of its directors to the full extent permitted by the law of the state of its incorporation. (i) Application of Proceeds. Unless otherwise approved by Subscriber, the net proceeds received by the Company from the sale of the Securities will be used by the Company for the following purposes: (i) procuring and maintaining intellectual property licenses and royalties thereunder; (ii) developing, refining, manufacturing, distributing, selling and marketing its products; (iii) payment of broker fees as set forth in Schedule 3(d), legal and accounting fees; and (iv) general working capital purposes. Pending use of the net proceeds in the business, they shall be deposited in a bank or banks having deposits of $150,000,000 or more or a bank or banks otherwise approved by the Subscriber, invested in certificates of deposit or repurchase agreements of a bank or banks having deposits of $150,000,000 or more, invested in money market mutual funds having assets of $500,000,000 or more, or invested in securities issued or guaranteed by the United States Government. (j) Patents and Other Intangible Rights. The Company will apply for, or obtain assignments of, or licenses to use, all patents, trademarks, trade names and copyrights which the 12 13 board of directors determines are desirable or necessary for the conduct and protection of the business of the Company. (k) Subsidiaries. If the Company establishes or maintains any subsidiary corporations, it shall cause each such subsidiary corporation to comply with the covenants set forth in this Section 5. (l) Gaming. The Company will not knowingly engage in any activity which could in any way affect the compliance by Subscriber with the requirements of any gaming authority, unless consented to in advance by Subscriber, which consent may be withheld by Subscriber in its sole discretion. (m) Stock Fully Paid; Reservation of Shares. The Company covenants and agrees that all Warrant Shares that may be issued upon exercise of the Warrant will, upon issuance in accordance with the terms of the Warrant, be fully paid and nonassessable and free from all taxes, liens and charges (except for liens or changes created or incurred by the holder) with respect to the issue thereof, and that the issuance thereof shall not give rise to any preemptive rights on the part of any person. The Company further covenants and agrees that the Company will at all times have authorized and reserved a sufficient number of its shares of Common Stock for the purpose of issue upon the exercise of such Warrant. 6. Negative Covenants of the Company. The Company covenants and agrees that: (a) Registration. Except for an underwriting agreement between the Company and one or more professional underwriters of securities, the Company shall not agree with the holders of any securities issued or to be issued by the Company to register such securities under the Securities Act nor will it grant any incidental registration rights to any such persons, unless such agreement specifically provides that (i) unless in the opinion of the managing underwriter or underwriters, if any, of any registration in which Shares or Warrant Shares are included, the public offering or sale of such other securities would not interfere with the successful public offering and sale of such Shares and Warrant Shares, such other securities will not be included in a registration statement in which such Shares and Warrant Shares are so included, (ii) such subsequent purchasers shall not be granted registration rights more favorable than those granted to Subscriber, and (iii) such securities may not be publicly offered or sold for a period of at least one hundred eight (180) days after the closing of any public offering of Shares or Warrant Shares. (b) Other Restrictions. The Company will not, nor will it permit any subsidiary to, without the prior written consent of the Subscriber: (i) take any action that constitutes or results in amendment or waiver of any provision of the Company's Articles of Incorporation, or Bylaws; or (ii) take any action that results in the redemption of any share(s) of Common Stock. 7. Termination of Covenants. Notwithstanding any provisions in this Agreement to the contrary, the obligations of the Company under Sections 5, 6, 9 and 19 shall terminate and shall be 13 14 of no further force or effect on the date in which the Company completes an initial public offering of any class or classes of its securities. 8. Registration Rights. The Subscriber shall have the right to have any Shares or Warrant Shares acquired by Subscriber upon exercise of the Warrant registered by the Company in accordance with the terms and conditions set forth in EXHIBIT C of this Agreement. 9. Event of Default. Each of the following events shall be an event of default (an "Event of Default") for purposes of this Agreement: (a) if the Company shall default in any material respect in the due and punctual performance of any covenant or agreement in any note, bond, indenture, loan agreement, note agreement, mortgage, security agreement or other instrument evidencing or related to indebtedness of the Company, such default shall continue for more than the period of notice and/or grace, if any, therein specified and shall not have been waived, and such creditor shall have accelerated the maturity of such indebtedness or otherwise shall have initiated action to collect such indebtedness and such default can reasonably be anticipated to have a material adverse effect on the assets, business or properties of the Company; (b) (X) if any representation or warranty made by or on behalf of the Company in this Agreement or in any certificate, report or other instrument delivered under or pursuant to any term hereof shall prove to have been untrue or incorrect in any material respect as of the date of this Agreement; or (Y) if (except as otherwise contemplated by Section 19) any report, certificate, financial statement or financial schedule or other instrument prepared or purported to be prepared by the Company or any officer of the Company hereafter furnished or delivered under or pursuant to this Agreement shall prove to be untrue or incorrect in any material respect as of the date it was made, furnished or delivered; (c) if the Company defaults in the due and punctual performance or observance of any covenant contained in this Agreement in a material respect, and such default continues for a period of 45 days after written notice thereof to the Company by any Subscriber; provided, however that an Event of Default shall not be deemed to have occurred if, at the end of such 45-day period, the Company is diligently attempting to cure such default and the existence of such default could not reasonably be anticipated to have a material adverse affect on the business or financial condition of the Company; or (d) if the Subscriber's designees to the Company's board of directors shall fail to be elected to the board of directors in the manner and under the terms and conditions set forth in this Agreement. 10. Remedy Upon Events of Default. Upon the occurrence of an Event of Default, Subscriber shall be entitled to designate and elect that number of directors that is the lowest number that constitutes a majority of the Board. Such right may be exercised until, and any director or 14 15 directors shall serve for a term expiring on the date, the Event of Default has been cured or waived. When such Event of Default shall have been cured or waived, the holders of Shares shall be divested of such right to elect the majority of the members of the Board of and any additional directors elected by the holders of shall be automatically removed from the Board without further action by the directors or shareholders, subject always to the same provisions in the vesting of such right in Subscriber in the case of any future Event of Default hereunder. 11. Notice of Defaults. When, to its knowledge, any Event of Default has occurred or exists, the Company shall give written notice within five business days of such Event of Default to Subscriber. 12. Suits for Enforcement. In case any one or more Events of Default shall have occurred and be continuing, unless such Events of Default shall have been waived in the manner provided below, Subscriber may proceed to protect and enforce its rights under this Section 12 by suit in equity or action at law. It is agreed that in the event Subscriber prevails in such action, it shall be entitled to receive all reasonable fees, costs and expenses incurred, including without limitation such reasonable fees and expenses of attorneys (whether or not litigation is commenced) and reasonable fees, costs and expenses of appeals. 13. Remedies Cumulative. No right, power or remedy conferred upon Subscriber shall be exclusive, and each such right, power or remedy shall be cumulative and in addition to every other right, power or remedy, whether conferred hereby or by any such security or now or hereafter available at law or in equity or by statute or otherwise. 14. Remedies Not Waived. No course of dealing between the Company and the Subscriber and no delay in exercising any right, power or remedy conferred hereby or by any such security or now or hereafter existing at law or in equity or by statute or otherwise, shall operate as a waiver of or otherwise prejudice any such right, power or remedy; provided, however, that this Section shall not be construed or applied so as to negate the provisions and intent of any statute which is otherwise applicable. 15. Successors. Subscriber's rights and obligations hereunder shall inure to the benefit of, and be binding upon and enforceable its successors. Notwithstanding the foregoing, neither this offer nor any rights granted to Subscriber herein may be transferred or assigned by Subscriber. 16. Notices. All notices to the Subscriber will be deemed given when mailed by first class mail, postage prepaid, to the address designated by Subscriber in the books and records of the Company. 17. Governing Law. It is the intention of the Subscriber and the Company that the laws of the State of Minnesota shall govern the validity of this Agreement, the construction of its terms and the interpretation of the rights and duties of the parties. 15 16 18. Changes Waivers, Etc. Neither this Agreement nor any provision hereof may be changed, waived, discharged or terminated orally, but only by a statement in writing signed by the party against which enforcement of the change, waiver, discharge or termination is sought. 19. Survival of Representations and Warranties, Etc. Except as otherwise contemplated by Section 9 above, all representations and warranties contained herein shall survive the execution and delivery of this Agreement, any investigation at any time made by Subscribers or on its behalf, and the sale and purchase of the Securities and the payment therefor. All statements contained in any certificate, instrument or other writing delivered by or on behalf of the Company pursuant to this Agreement or in connection with or in contemplation of the transactions herein contemplated shall constitute representations and warranties by the Company hereunder and be subject to this Section 19; provided, however, that the parties hereto acknowledge and agree that nothing contained in a any writing delivered by the Company which by its terms or context can be reasonably be construed to be a budget, projection or forecast of future performance or events shall constitute a representation or warranty of the Company with respect thereto. Please indicate your agreement with the foregoing by executing the acceptance below. Very truly yours, LAKES GAMING, INC. By Timothy Cope ------------------------------ Its Chief Financial Officer ----------------------------- 16 17 ACCEPTANCE This Subscription Agreement and Investment Letter of Lakes Gaming, Inc. is hereby accepted by Interactive Learning Group, Inc. as of June 25, 1999. INTERACTIVE LEARNING GROUP, INC. By: David C. Campbell --------------------------------- Its: Chief Executive Officer ---------------------------- 17 EX-27 5 FINANCIAL DATA SCHEDULE
5 1,000 9-MOS JAN-02-2000 OCT-03-1999 53,749 0 6,580 0 0 83,287 2,542 1,151 181,236 21,238 975 0 0 106 156,324 181,236 44,441 44,441 5,451 6,886 1,771 0 73 42,967 18,343 24,624 0 0 0 24,624 2.33 2.28
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