-----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, TZY0Cf/P4c3gXMMH+mejJE0Y1ZX2jdjJ+7DNkaODGppsOf2yjx51LgccIBCINPOh 0PThPHKbtcHuw/3VIcb2nw== 0000936392-99-000355.txt : 19990402 0000936392-99-000355.hdr.sgml : 19990402 ACCESSION NUMBER: 0000936392-99-000355 CONFORMED SUBMISSION TYPE: 10-K PUBLIC DOCUMENT COUNT: 12 CONFORMED PERIOD OF REPORT: 19981231 FILED AS OF DATE: 19990331 FILER: COMPANY DATA: COMPANY CONFORMED NAME: INTERNATIONAL LOTTERY & TOTALIZATOR SYSTEMS INC CENTRAL INDEX KEY: 0000354813 STANDARD INDUSTRIAL CLASSIFICATION: CALCULATING & ACCOUNTING MACHINES (NO ELECTRONIC COMPUTERS) [3578] IRS NUMBER: 953276269 STATE OF INCORPORATION: CA FISCAL YEAR END: 1231 FILING VALUES: FORM TYPE: 10-K SEC ACT: SEC FILE NUMBER: 000-10294 FILM NUMBER: 99580068 BUSINESS ADDRESS: STREET 1: 2131 FARADAY AVE CITY: CARLSBAD STATE: CA ZIP: 92008-7297 BUSINESS PHONE: 6199314000 MAIL ADDRESS: STREET 1: 2131 FARADAY AVE CITY: CARLSBAD STATE: CA ZIP: 92008 FORMER COMPANY: FORMER CONFORMED NAME: INTERNATIONAL TOTALIZATOR SYSTEMS INC DATE OF NAME CHANGE: 19920703 10-K 1 FORM 10-K 1 UNITED STATES SECURITIES AND EXCHANGE COMMISSION WASHINGTON, D.C. 20549 --------------- FORM 10-K --------------- (Mark One) [X} ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 FOR THE YEAR ENDED DECEMBER 31, 1998 [ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 FOR THE TRANSITION PERIOD FROM ______ TO ______ COMMISSION FILE NUMBER 0-10294 INTERNATIONAL LOTTERY & TOTALIZATOR SYSTEMS, INC. (EXACT NAME OF REGISTRANT AS SPECIFIED IN ITS CHARTER) --------------- CALIFORNIA 95-3276269 (STATE OR OTHER JURISDICTION OF (I.R.S. EMPLOYER INCORPORATION OR ORGANIZATION) IDENTIFICATION NUMBER) 2131 FARADAY AVENUE CARLSBAD, CALIFORNIA 92008 (ADDRESS OF PRINCIPAL EXECUTIVE OFFICES) (ZIP CODE) REGISTRANT'S TELEPHONE NUMBER, INCLUDING AREA CODE (760) 931-4000 REGISTRANT'S HOME PAGE HTTP://WWW.ILTS.COM SECURITIES REGISTERED PURSUANT TO SECTION 12(g) OF THE ACT: (TITLE OF CLASS) COMMON SHARES --------------- 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 [ ] Aggregate market value of voting stock held by non-affiliates of the Registrant as of March 23, 1999 was approximately $1,100,258 --------------- Number of common shares outstanding at March 23, 1999 was 6,009,183 DOCUMENTS INCORPORATED BY REFERENCE Portions of the 1998 Annual Report to Stockholders of the Registrant: Parts II and IV Portions of the Proxy Statement for 1999 Annual Meeting of Stockholders, Part III --------------- Indicate by check mark if disclosure of delinquent filers pursuant to Item 405 of Regulation S-K is not contained herein, and will not be contained, to the best of the Registrant's knowledge, in definitive proxy or information statements incorporated by reference in Part III of this Form 10-K or any amendment to this Form 10-K. Yes [ ] 2 TABLE OF CONTENTS PART I
ITEM 1. BUSINESS............................................................................1 General.........................................................................1 DATAMARK(R) Terminals...........................................................1 Wagering and Other Terminal Products............................................1 Lottery Systems/Sales and Service Agreements....................................2 Revenue Sources.................................................................2 Product Development.............................................................3 Backlog.........................................................................3 Marketing and Business Development..............................................3 Manufacturing and Materials.....................................................4 Competition.....................................................................4 Employees.......................................................................4 Patents, Trademarks and Licenses................................................4 Regulation......................................................................4 Dependence Upon a Few Customers.................................................5 Year 2000.......................................................................5 Forward Looking Statement.......................................................5 Seasonality.....................................................................5 Working Capital Practices.......................................................6 Environment Effects.............................................................6 Export Sales....................................................................6 ITEM 2. PROPERTIES..........................................................................6 ITEM 3. LEGAL PROCEEDINGS...................................................................6 ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS.................................7 EXECUTIVE OFFICERS OF THE REGISTRANT............................................7 PART II ITEM 5. MARKET FOR REGISTRANT'S COMMON EQUITY AND RELATED SHAREHOLDER MATTERS.................................................7 ITEM 6. SELECTED FINANCIAL DATA.............................................................8 ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS...................................8 ITEM 8. CONSOLIDATED FINANCIAL STATEMENTS...................................................8 ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND FINANCIAL DISCLOSURE..........................................8 PART III ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT..............................8 ITEM 11. EXECUTIVE COMPENSATION..........................................................8 ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT..................................................................8 ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS..................................8 PART IV ITEM 14. EXHIBITS, CONSOLIDATED FINANCIAL STATEMENT SCHEDULE, AND REPORTS ON FORM 8-K.........................................................9
3 PART I ITEM 1. BUSINESS GENERAL The Registrant designs, manufactures, sells, manages, supports and services computerized wagering systems and terminals for the global pari-mutuel and on-line lottery industries. The Registrant has also bid for long-term service contracts under which it intends to operate on-line lottery systems. The Registrant's technology can be used in other transaction-processing applications such as keno gaming and automated ticket printer/readers for toll turnpike systems. The principal proprietary component of the Registrant's systems are the DATAMARK(R) terminals, a compact, reliable microprocessor-based ticketing terminal, which can print and process up to approximately 30 tickets per minute. The Registrant sells the DATAMARK(R) terminal separately or as part of a turnkey wagering application system and can modify a terminal's features or configurations and central system software to meet specific customer requirements. The Registrant's wagering systems include DATAMARK(R) terminals, a central computer installation, communication network and display equipment. System features include real-time central processing of data received from multiple locations, back-up hardware capability and complete communications redundancy designed to provide fault tolerant operation. DATAMARK(R) Terminals The Registrant has developed several models of DATAMARK(R) terminals for different wagering applications. All are PC compatible microprocessor-based and have a compact, lightweight design for countertop operation. The Registrant has recently developed a product called the DMNXT(TM) which allows a simple and inexpensive means for existing DATAMARK(R) customers to upgrade their older generation terminals to an Intel PC platform with improved features. The features include faster processing, higher resolution printing, and the ability to utilize cost effective, commercial off-the-shelf PC peripherals. Most DATAMARK(R) terminals are approximately 12" deep, 12" wide, 10" high, weigh approximately 27 pounds, and are accompanied by a built-in or external display and keyboards. The latest DATAMARK(R) models utilize a compact ticket path which allows the terminal to print on either side and read from both sides of the same ticket. The terminal contains a thermal printer which prints tickets quickly and quietly without ink, ribbons or impact, thereby improving print quality and reliability, and reducing maintenance expenses. The terminals use either pre-cut thermal coated tickets or thermal coated roll stock tickets or both. The terminals can also be configured to use impact printing on plain paper. Some models will sequentially read and print up to 50 tickets entered at one time. The DATAMARK(R) terminal's basic functions are supplemented by various features. In the horse racing industry, the DATAMARK(R) terminal is capable of issuing tickets for standard betting, as well as for any feature pool wagers currently being used in pari-mutuel wagering. The terminals are designed to facilitate multiple bets on one ticket and multiple selections for each bet. In addition, the bettor is able to mark bets on a pre-printed playslip, which is then read optically by the terminal, the amount wagered is calculated and the bet details printed on the back of the same ticket. Because the ticket is prepared away from the pari-mutuel clerk's window, betting transaction time is reduced, efficiency of the operation is improved and the bettor obtains more privacy in the betting transaction. Similarly, in the lottery industry, a player marks the numbers selected on a pre-printed ticket or playslip which is read optically by the DATAMARK(R) terminal and entered into the central system. The selections and the transaction total are then either printed on the back of the playslip or on a separate ticket and delivered to the player. Wagering and Other Terminal Products The Registrant historically has derived revenue in the horse racing industry from sales contracts for DATAMARK(R) terminals and for wagering systems, which include DATAMARK(R) terminals, a central computer installation and peripheral and display equipment. The Registrant's systems are "sell-pay" systems, which means that each terminal is capable of being used both for selling all types of wagering tickets and for making payment to the ticket holders after validation of winning tickets. The nucleus of each wagering system is the central computer installation that receives information from ticket-issuing terminals, accumulates wagering data, calculates odds and payouts, distributes information to the display systems and terminals, and generates management information reports. In cooperation with the customer, the Registrant designs the configuration of the central computer installation to provide fault-tolerant operation, high throughput and security. Each central computer installation typically 4 includes a computer configuration and various peripheral devices, such as magnetic storage devices, management terminals and hardcopy printers, all of which are manufactured by others. Although certain of the Registrant's customers presently use software in their pari-mutuel systems which is proprietary to the Registrant, the software presently offered by the Registrant in its horse racing system is software, developed by Racecourse Totalizators Pty., LTD of Australia. In addition to sales of terminals and systems, the Registrant realizes ongoing revenue from the sale of spare parts for use in the maintenance of its terminals, of which approximately 30,000 have been delivered to date. The Registrant also enters into contracts with its customers to provide software modifications, upgrades and support for its installed products. Lottery Systems/Sales and Service Agreements Computerized, or on-line, lotteries are currently operated in many countries. Existing lottery systems include both manual systems and modern on-line systems. In an on-line lottery system, betting terminals are connected to a central computer installation by a communications network and the system typically utilizes a pari-mutuel pool or fixed payout, or both, in offering "lotto" and other numbers games. The Registrant owns non-exclusive rights to use the central system software developed by The Hong Kong Jockey Club (HKJC) for use in its pari-mutuel wagering and lottery systems. Under the terms of the amended license the Registrant pays The HKJC a royalty equal to a percentage of the revenue it receives in connection with a sale, lease or providing a service of any lottery system using this software. In addition, the Registrant is obligated to provide The HKJC with any modifications which the Registrant makes to the software, except where ownership to such modifications vests in the Registrant's customers. The Registrant has made significant modifications to The HKJC software. Chief among them is the migration of the system to a client-server architecture, the incorporation of Sybase relational database software, and the utilization of a Windows operating system for the management information subsystem called DataTrak(R). These enhancements allow the system to be scaled to meet each customer's unique requirements and enables the customer to process data within a familiar software user interface environment. The Registrant has also added numerous new features to the base software, including instant ticket validation and player registration. In the Registrant's DataTrak(R) lottery system, tickets are processed on DATAMARK(R) terminals which are connected to a central computer installation, usually by telephone lines. The central computer installation utilizes Digital Equipment Corporation hardware. The system has the following characteristics: rapid processing, storage and retrieval of transaction data in high volumes and in multiple applications; the ability to down-line load, i.e., to reprogram the wagering terminals from the central computer installation via the communications network; a high degree of security and redundancy to guard against unauthorized access and tampering and to ensure fault tolerant operation without data loss; and a comprehensive management information and control system. In July 1995, the Registrant sold its facilities management and equipment lease contracts for the lottery in Papua New Guinea to the principal shareholders of the operating company, The Lotto Pty. Ltd ("Lotto Pty."). The Registrant has recognized revenues in 1996, 1997 and 1998 from this sale. Due to economic conditions in Papua New Guinea, payments per the agreement were suspended in 1998. The Registrant is reviewing its options at this time. Revenue Sources The following table sets forth the revenue for the periods indicated attributable to different applications of the Registrant's technology:
Years Ended December 31, ------------------------ 1998 1997 1996 1995 1994 ------- ------- ------- ------- ------- (dollars in thousands) Racing Products and Services $6,733 $2,443 $11,183 $10,448 $13,932 Lottery Products and Services 5,705 7,729 5,105 7,680 9,231 Other 734 654 305 513 926 ------- ------- ------- ------- ------- Total $13,172 $10,826 $16,593 $18,641 $24,089 ======= ======= ======= ======= =======
5 Product Development The Registrant's ability to compete successfully depends in part upon its ability to meet the current and anticipated needs of its customers. To that end, the Registrant devotes a significant portion of its research and development activity to refining and enhancing the features of existing products, systems and software. In 1998 the Registrant spent approximately $1.5 million on engineering, research and development, as compared to $1.7 million in both 1997 and 1996. The Registrant developed the single roller DATAMARK Flipper(R) terminal (Flipper(TM)) with a unique reader/printer mechanism that meets the needs of many different applications by combining into one unit all of the functional capabilities of previous DATAMARK(R) reader/printer mechanisms in a modular fashion. Also, the Registrant has developed a terminal specifically aimed at lottery applications called the DATAMARK(R) XClaim(TM). This terminal can be configured to print tickets using thermal or impact printing. The Registrant has recently developed a product called the DMNXT(TM) which allows for a simple and inexpensive means for existing DATAMARK(R) customers to upgrade their older generation terminals to an Intel PC platform with improved features which include faster processing, higher resolution printing, and the ability to utilize cost effective, commercial off-the-shelf PC peripherals. The Registrant has been certified since February 1996 under ISO 9001 registration. This certification demonstrates quality in design development and manufacturing under ISO standards. Backlog The backlog of orders for its products and services believed by the Registrant to be firm, amounted to approximately $3.6 million as of December 31, 1998, as compared to a backlog of approximately $5.0 million as of December 31, 1997. Of such backlog at December 31, 1998, approximately $1.8 million is expected to be filled during 1999. See BUSINESS-Dependence Upon A Few Customers. Marketing and Business Development Management believes that the Registrant's continuing ability to obtain and retain contracts for its wagering systems and terminals is directly related to its reputation in its various fields of expertise. Because of its reputation, the Registrant often receives unsolicited inquiries from potential customers. The Registrant also learns of new business opportunities through the close contacts which its personnel maintain with key officials in the international horse racing and lottery industries. Contracts to provide products to the horse racing and lottery industries often are awarded through a competitive bidding process which can begin years before a contract is awarded and involves substantial expenditures by the Registrant. Through its contacts with existing customers and others in these industries, the Registrant often becomes aware of prospective projects before the customer circulates a request for proposal. If the Registrant is interested in the project it typically submits a proposal, either before or after the customer circulates a formal request for proposal, outlining the products it would provide and the services it would perform. If the proposal is accepted, the Registrant and its customer negotiate and enter into a contract on agreed terms. The Registrant's marketing efforts are carried out by the Registrant's professional marketing and engineering staff and frequently involve other executive officers of the Registrant. Marketing of the Registrant's products and services throughout the world is often performed in conjunction with consultants with whom the Registrant contracts, from time to time, for representation in specific market areas. The Registrant's success depends in large part on its ability to obtain new contracts to replace its existing contracts. The Registrant currently has proposals outstanding to supply systems, terminals or components for use in the pari-mutuel wagering industry and for lotteries in various foreign countries. In addition to contract sales for terminals and systems, the Registrant has 6 had discussions with both new and existing customers regarding supplying products for their operations and expects to bid for additional contracts in the future. Because the realization of revenue from these prospects is dependent upon a number of factors, including the bidding process and product development, there can be no assurance that the Registrant will be successful in realizing revenue from any of these activities. Manufacturing and Materials A contract manufacturer, Anacomp, Inc., located in the San Diego area will perform manufacture of the Registrant's terminals, beginning in 1999. Manufacture consists principally of the assembly of parts, components and subassemblies (most of which are designed by the Registrant) into finished products. The contract manufacturer will purchase many parts, components and subassemblies (some of which are designed by the Registrant) necessary for the terminals and the systems and assemble them into finished products. These products and purchased computers are then integrated with standard peripherals purchased by the Registrant to construct racing and lottery systems. The Registrant generally has multiple sources for the various items purchased from vendors, but some of these items are state-of-the-art and could be, from time to time, in short supply. Certain other items are available only from a single supplier. For the twelve months ended December 31, 1998 no single vendor accounted for 10% or more of the Registrant's raw material purchases. Competition The Registrant competes primarily in the horse racing industry and the on-line lottery industry. The Registrant competes by providing high-quality wagering systems and terminals that are reliable, secure and fast. In addition, management believes that the Registrant offers its customers more flexibility in design and custom options than do most of its competitors. Management believes that the Registrant's main competitors in the sale of horse racing systems and on-line lottery systems in the domestic and international marketplace are: AWA Limited, an Australian company, Essnet, a Swedish company, International Des Jeux, the French national lottery company, and four United States companies; GTECH Holdings Corporation, Autotote Limited, Video Lottery Technologies, and Scientific Games Holding Corporation. Management believes that the Registrant has been a substantial factor in the international marketplace. The Registrant's sales or leases in the United States have been insignificant. In general the Registrant's competitors have significantly greater resources than the Registrant. Competition for on-line lottery system contracts is intense. Employees As of December 31, 1998, the Registrant employs 72 people worldwide on a full-time equivalent basis. Of this total, 16 were engaged in operations support, 40 in engineering and software development and 16 in marketing and administrative positions. None of the Registrant's employees is represented by a union, and the Registrant believes its relations with its employees are good. Patents, Trademarks and Licenses The Registrant has six U.S. patents issued on its products. The Registrant believes that its technical expertise, trade secrets and the creative skills of its personnel are of substantially greater importance to the success of the Registrant than the benefits of patent protection. The Registrant typically requires customers, employees, licensees, subcontractors and joint venturers who have access to proprietary information concerning the Registrant's products to sign nondisclosure agreements, and the Registrant relies on such agreements, other security measures and trade secret law to protect such proprietary information. Central system software used in the Registrant's lottery system has been obtained under a non-exclusive license with The HKJC. Regulation The countries in which the Registrant markets its products generally have regulations governing horse racing or lottery operations, and the appropriate governing body could restrict or eliminate these operations in these countries. Any such action could have a material adverse effect on the Registrant. Foreign countries also often impose restrictions on corporations seeking to do 7 business within their borders, including foreign exchange controls and requirements for domestic manufacturing content. In addition, laws and legal procedures in these countries may differ from those generally existing in the United States and conducting business in these countries may involve additional risk for the Registrant in protecting its business and assets, including proprietary information. Changes in foreign business restrictions or laws could have a significant impact on the Registrant's operations. Dependence Upon a Few Customers The Registrant's business to date has been dependent on major contracts and the loss of one or failure to replace completed contracts with new contracts would have a materially adverse effect on the Registrant's business. During 1998, the Registrant's revenues were derived primarily from contracts with Ab Trav Och Galopp ($2.2 million); Philippine Gaming Management Corporation ($2.1 million); Hong Kong Jockey Club ($1.5 million); New South Wales Lottery ($1.5 million); Olympic Gold Holdings ($0.9 million); The Revenue Markets, Inc. ($0.6 million); Leisure Management Berhad ($0.6 million); Singapore Turf Club ($0.6 million). Year 2000 During fiscal 1998, the Registrant developed a plan to address anticipated Year 2000 issues in connection with its data processing and other activities, including non-information technology based systems. It is currently estimated that the net cost to become Year 2000 compliant, including upgrades of its personal computer hardware and software and its network, will total approximately $30 thousand of which $5 thousand has been incurred to date. The Registrant has completed its remediation portion of the Year 2000 project and will be entering its testing phase during the first three-quarters of 1999. Compliance status from key suppliers will be evaluated to determine whether the Registrant will need to switch sources to ensure ongoing product/service availability. This evaluation/conversion is expected to be completed by September 1999. A contingency plan has not been developed, as the risk on remaining items is considered low. Should any issues arise which cannot be adequately addressed and remedied, management will develop a contingency plan at that point. Although, based on a review of its data processing, operating, and other computer based systems, the Registrant does not currently believe that it will experience any significant adverse effect or material unbudgeted costs resulting therefrom, there can be no assurance in that regard. In addition, the Registrant has reviewed the software systems and hardware it has previously sold and determined they are Year 2000 compliant. The failure to correct a material Year 2000 problem could result in an interruption in or a failure of certain normal activities or operations. Such interruptions or failures could materially and adversely affect the Registrant's results of operations, liquidity and financial conditions. Because there is general uncertainty about the Year 2000 problem, including uncertainty about the Year 2000 readiness of suppliers and customers, it is not possible to predict whether Year 2000 problems will occur or what consequences such problems will have on results of operation's, liquidity or financial condition. However, the Registrant's plan to address Year 2000 issues is intended to minimize, to the extent feasible, the possibility of interruptions of normal operations. There can, however, be no assurance that the Registrant will be successful in doing so. Forward Looking Statements The statements in this filing which are not historical facts are forward-looking statements that are subject to risks and uncertainties that could cause actual results to differ materially from those set forth or implied by forward-looking statements. These risks and uncertainties include the absence of significant contract backlog, the dependence on business from foreign customers sometimes in politically unstable regions, political and governmental decisions as to the establishment of lotteries and other wagering industries in which the Registrant's products are marketed, fluctuations in quarter-by-quarter operating results, and other factors described in this annual report. Seasonality In general, the Registrant's business is not subject to seasonal effects. 8 Working Capital Practices The Registrant's sales contracts typically provide for deposits and progress payments which have provided sufficient working capital for operations. A substantial portion of Registrant's working capital was expended in the early 1990s, in its attempt to establish viable operations in long-term lottery service agreements. See "Management's Discussion and Analysis of Financial Condition and Results of Operations" incorporated by reference herein. Environment Effects There are no significant capital expenditures required of the Registrant in order to comply with laws relating to protection of the environment. Export Sales The majority of the Registrant's revenues are derived from contracts with foreign companies. As of December 31, 1998 the Registrant's equipment has been delivered and installed in Sweden, Norway, Hong Kong, Singapore, Ukraine, Australia, Finland, England, the Netherlands, Malaysia, Macau, China, Papua New Guinea, Belgium and the Philippines. The companies with which the Registrant contracts are normally sizeable organizations with substantial assets and are capable of meeting the financial obligations undertaken. The Registrant has entered into a few contracts specifying payment in currencies other than the U.S. dollar, thereby assuming the risk associated with fluctuations in value of foreign currencies. The majority of the Registrant's sales are denominated in U.S. dollars and thus not subject to foreign currency fluctuations. However, the ultimate cost of the Registrant's products to its customers have increased due to recent fluctuations in the foreign exchange rates of many southeast Asian countries. The Registrant does not believe that its on-going business has been negatively impacted by the Asian currency-exchange situation, however, one current customer has asked and the Registrant has agreed, to delay to a later undefined date the scheduled delivery of terminals which will result in the delay of Registrant's revenues and cash receipts of approximately $1.0 million. The Registrant operates a wholly-owned subsidiary in Australia. Also, see Note 7 of Notes to Consolidated Financial Statements, incorporated by reference in Part II, Item 8. ITEM 2. PROPERTIES The Registrant's U.S. facilities consist of approximately 43,500 square feet of leased office, warehouse and manufacturing space in Carlsbad, California. The lease on this facility expires in the year 2000. The Registrant's Australian subsidiary leases approximately 13,000 square feet consisting of a manufacturing and administrative facility. The lease on this property expires in October 2001. See Note 7 of Notes to Consolidated Financial Statements, incorporated by reference in Part II, Item 8. ITEM 3. LEGAL PROCEEDINGS Walter's v. ILTS, et al In November 1995, Mr. James Walters, the former chairman and president of the Registrant, filed an action in the San Diego County Superior Court against the Registrant and its then current president, Frederick A. Brunn, alleging that 9 certain statements in a magazine article were slander per se by the Registrant and Brunn and libel by the publishing company and the author, and that Mr. Walters suffered an invasion of privacy by all defendants. In addition, Mr. Walters alleged that erroneous information in the Registrant's 1995 proxy statement resulted in two other magazine articles publishing allegedly incorrect information. Mr. Walters seeks general and special damages of $9 million and punitive damages. The publishing company and the author settled their lible claims with Mr. Walters. On November 1, 1996, the San Diego County Superior Court entered a summary judgement in favor of the Registrant and Mr. Brunn. On November 20, 1998, the California Court of Appeal (Fourth District) reversed the summary judgement of the trial court as to the slander claims against the Registrant and Mr. Brunn and returned these claims to the lower court for a trial on the merits. The appellate court upheld the summary judgement as to the invasion of privacy claims and the erroneous information in the Registrant's proxy statement. The Registrant has filed a petition for review with the California Supreme Court. The Registrant is also subject to other legal proceedings and claims that arise in the normal course of business. While the outcome of these proceedings and claims cannot be predicted with certainty, management does not believe that the outcome of any of these matters will have a material adverse effect on the Registrant's consolidated financial position or results of operations. ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS Inapplicable. EXECUTIVE OFFICERS OF THE REGISTRANT
Name Age Position ---- --- -------- M. Mark Michalko 44 President Timothy R. Groth 49 Vice President, Technical Operations Dennis D. Klahn 40 Chief Financial Officer Lawrence E. Logue 62 Corporate Secretary
PART II ITEM 5. MARKET FOR THE REGISTRANT'S COMMON EQUITY AND RELATED SHAREHOLDER MATTERS The Registrant's Common Stock is traded under the symbol ITSI on the Over the Counter Bulletin Board (OTCBB). As of December 31, 1998 there were 6,009,183 common shares outstanding and approximately 900 shareholders of record. Berjaya Lottery Management owned 38.4% of the total outstanding shares and the Registrant's management owned 1%.
1998 HIGH LOW --------------------------------------------------------------- First Quarter 33/4 2 1/16 Second Quarter 2 7/16 1 1/8 Third Quarter 2 3/16 1/2 Fourth Quarter 1 11/32 3/16 Average Daily Volume 17,184 Total Annual Trading Volume 4,536,587 1997 HIGH LOW --------------------------------------------------------------- First Quarter 4 3/16 1 7/8 Second Quarter 6 15/16 2 11/32 Third Quarter 6 3/4 3 9/16 Fourth Quarter 4 7/8 2 7/16 Average Daily Volume 20,279 Total Annual Trading Volume 5,353,532
10 Solely for the purpose of calculating the aggregate market value of the voting stock held by non-affiliates of the Registrant, as set forth on the cover of this report, it has been assumed that all executive officers and directors of the Registrant and Berjaya Lottery Management (H.K.) Ltd. were affiliated persons. All of the Registrant's common shares, the only voting stock outstanding, beneficially owned by each such person (as defined in Rule 13d-3 under the Securities Exchange Act of 1934) have been assumed to be held by that person for this calculation. The market value of the common shares is based on the closing price for March 23, 1999, of $0.3125 per share. ITEM 6. SELECTED FINANCIAL DATA The information required by this item is included on page 6 of the Registrant's Annual Report to Shareholders for the year ended December 31, 1998 under the same caption and is incorporated herein by reference to such Annual Report. ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS The information required by this item is included on pages 7 through 10 of the Registrant's Annual Report to Shareholders for the year ended December 31, 1998 under the same caption and is incorporated herein by reference to such Annual Report. ITEM 8. CONSOLIDATED FINANCIAL STATEMENTS The information required by this item is included on pages 1 through 21 of the Registrant's Annual Report to Shareholders for the year ended December 31, 1998 and is incorporated herein by reference to such Annual Report. ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND FINANCIAL DISCLOSURE Inapplicable. PART III ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT The information required is incorporated herein by reference to the Registrant's definitive Proxy Statement for the 1999 Annual Meeting of Shareholders. ITEM 11. EXECUTIVE COMPENSATION The information required is incorporated herein by reference to the Registrant's definitive Proxy Statement for the 1999 Annual Meeting of Shareholders. ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT The information required is incorporated herein by reference to the Registrant's definitive Proxy Statement for the 1999 Annual Meeting of Shareholders. ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS The information required is incorporated herein by reference to the Registrant's definitive Proxy Statement for the 1999 Annual Meeting of Shareholders. 11 PART IV ITEM 14. EXHIBITS, CONSOLIDATED FINANCIAL STATEMENT SCHEDULE, AND REPORTS ON FORM 8-K (a) List the following documents filed as a part of the report: 1. and 2. Index to Consolidated Financial Statements and Financial Statement Schedule: (i) Report of Arthur Andersen LLP, Independent Public Accountants and Report of Ernst & Young LLP, Independent Auditors (ii) Consolidated Balance Sheets at December 31, 1998 and 1997* (iii) Consolidated Statements of Operations and Comprehensive Loss for each of the three years in the period ended December 31, 1998* (iv) Consolidated Statements of Shareholders' Equity for each of the three years in the period ended December 31, 1998* (v) Consolidated Statements of Cash Flows for each of the three years in the period ended December 31, 1998* (vi) Notes to Consolidated Financial Statements* *incorporated by reference to the Annual Report to Shareholders for the year ended December 31, 1998. (vii) Schedule II - Valuation and Qualifying Accounts (Form 10-K, page 10) All other schedules are omitted since the required information is not applicable. 3. Exhibits (3) (a) Articles of Incorporation, as amended September 13, 1994, reflecting corporate name change, and as amended January 7, 1998, reflecting authorization for 20 million shares of preferred stock and By-laws (incorporated by reference to Form 10-K for the year ended December 31, 1994, File No. 0-10294). (b) Articles of Incorporation as amended June 2, 1998, reflecting the three-for-one reverse stock split. (c) Articles of Incorporation as amended June 2, 1998, reflecting maximum indemnification for directors permitted by California law. (d) A By-law effective June 2, 1998, amendment relating to officers and directors indemnification. (10)(a) Lease for the Registrant's facility in Carlsbad, California dated June 30, 1992, as amended by First Amendment to Lease dated January 23, 1987 (incorporated by reference to Exhibit 10.11 to Registration Statement File No. 33-18238 effective February 19, 1988). (b) Agreement with Sir Michael G. R. Sandberg dated May 20, 1987 (incorporated by reference to Exhibit 10.15 to Registration Statement File No. 33-18238 effective February 19, 1988). (c) The Registrant's 1986 Employee Stock Option Plan (incorporated by reference to Exhibit 4(b) to the Form S-8 Registration Statement, File No. 33-34123, as filed on April 4, 1990). (d) The Registrant's 1988 Employee Stock Option Plan (incorporated by reference to Exhibit 4(b) to the Form S-8 Registration Statement, File No. 33-34123, as filed on April 4, 1990). 12 (e) The Registrant's 1990 Stock Incentive Plan (incorporated by reference to Form 10-K for the year ended December 31, 1990, File No. 0-10294 and File No. 33-79938). (f) Agreement with The Hong Kong Jockey Club dated May 11, 1989 and amended on January 13, 1992 (incorporated by reference to Form 10-K for the year ended December 31, 1991, File No. 0-10294). (g) The Registrant's 1997 Directors' Stock Option Plan. (13) Annual Report to Shareholders for the year ended December 31, 1998. With the exception of the information incorporated by reference into items 5, 6, 7, and 8 of this Form 10-K, the 1998 Annual Report to Shareholders is not deemed filed as part of this report. (21) Subsidiaries of the Registrant. (23A) Consent of Arthur Andersen LLP, Independent Public Accountants (23B) Report of Arthur Andersen LLP, Independent Public Accountants (23C) Consent of Ernst & Young LLP, Independent Auditors (23D) Report of Ernst & Young LLP, Independent Auditors 13 SCHEDULE II INTERNATIONAL LOTTERY & TOTALIZATOR SYSTEMS, INC. Valuation and Qualifying Accounts
Additions Balance at Charged to Beginning Costs and Balance at Description of Year Expenses Deductions End of Year - ----------- --------- ------------ ---------- ----------- Years Ended: December 31, 1998 -- Warranty Reserves $244,621 $29,750 $ 61,768 $212,603 -- Allowance for Doubtful Accounts $173,298 0 $ 80,500 $ 92,798 December 31, 1997 -- Warranty Reserves $257,921 $75,258 $ 88,558 $244,621 -- Allowance for Doubtful Accounts $111,112 $64,596 $ 2,410 173,298 December 31, 1996 -- Warranty Reserves $297,727 $84,594 $124,400 $257,921 -- Allowance for Doubtful Accounts $ 62,956 $61,764 $ 13,608 $111,112
Warranty reserve deductions primarily reflect actual warranty costs incurred by the Registrant. 14 SIGNATURES Pursuant to the requirements of Section 13 or 15(d) 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. INTERNATIONAL LOTTERY & TOTALIZATOR SYSTEMS, INC.(TM) By: /s/Dennis D. Klahn ------------------------------- Dennis D. Klahn Chief Financial Officer Dated: March 26, 1999 Pursuant to the requirements of the Securities Exchange Act of 1934, this report has been signed below by the following persons on behalf of the Registrant and in the capacities and on the dates indicated.
Signature Title Date - --------- ----- ---- /s/ Theodore A. Johnson Chairman of the Board March 26, 1999 - ------------------------ Theodore A. Johnson /s/ M. Mark Michalko President March 26, 1999 - -------------------------- M. Mark Michalko /s/ Dennis D. Klahn Chief Financial Officer March 26, 1999 - -------------------------- Dennis D. Klahn /s/ Frederick A. Brunn Director March 26, 1999 - -------------------------- Frederick A. Brunn /s/ Ng Foo Leong Director March 26, 1999 - -------------------------- Ng Foo Leong /s/ Martin J. O'Meara, Jr. Director March 26, 1999 - -------------------------- Martin J. O'Meara, Jr. Director March , 1999 - -------------------------- Michael G.R. Sandberg /s/ Chan Kien Sing Director March 26, 1999 - -------------------------- Chan Kien Sing Director March , 1999 - -------------------------- Ng Aik Chin
EX-3.(B) 2 EXHIBIT 3(B) 1 Exhibit 3(b) CERTIFICATE OF AMENDMENT OF ARTICLES OF INCORPORATION OF INTERNATIONAL LOTTERY & TOTALIZATOR SYSTEMS, INC. A CALIFORNIA CORPORATION M. Mark Michalko and Lawrence E. Logue certify that: 1. They are the President and Secretary of International Lottery & Totalizator Systems, Inc., a California corporation. 2. The Articles of Incorporation of said corporation shall be amended by revising Article Four to read as follows: "FOUR: This corporation is authorized to issue two classes of shares designated respectively "Common Stock" and "Preferred Stock," and referred to either as Common Stock or Common shares and Preferred Stock or Preferred shares, respectively. The authorized number of shares of Common Stock is 50,000,000. Upon the amendment of this Article, each outstanding share of Common Stock is converted into 0.333 shares. The authorized number of shares of Preferred Stock is 20,000,000. The Preferred Stock may be issued from time to time in one or more series. The Board of Directors is authorized to fix the number of shares of any series of Preferred Stock and to determine the designation of any such series. The Board of Directors is also authorized to determine or alter the rights, privileges, designations, preferences and restrictions granted to or imposed upon any wholly unissued series of Preferred Stock and, within the limits and restrictions stated in any resolution or resolutions of the Board of Directors originally fixing the number of shares constituting any series, to increase or decrease (but not below the number of shares of such series then outstanding) the number of shares of any such series subsequent to the issue of shares of that series." 3. The foregoing amendment of the Articles of Incorporation has been duly approved by the Board of Directors. 4. The foregoing amendment of the Articles of Incorporation has been duly approved by the required vote of shareholders in accordance with Section 902 of the California Corporations Code. The total number of the outstanding shares is 18,027,548. The number of shares voting in favor of the amendment equaled or exceeded the vote required. The percentage vote required was more that 50%. We further declare under penalty of perjury under the laws of the State of California that the matters set forth in this certificate are true and correct of our own knowledge. Date: June 2, 1998 /s/ M. Mark Michalko ---------------------------- M. Mark Michalko, President /s/ Lawrence E. Logue ---------------------------- Lawrence E. Logue, Secretary EX-3.(C) 3 EXHIBIT 3(C) 1 EXHIBIT 3(c) CERTIFICATE OF AMENDMENT OF ARTICLES OF INCORPORATION OF INTERNATIONAL LOTTERY & TOTALIZATOR SYSTEMS, INC. a California corporation M. Mark Michalko and Lawrence E. Logue certify that: 1. They are the President and Secretary of International Lottery & Totalizator Systems, Inc., a California corporation. 2. The Articles of Incorporation of this corporation shall be amended to add an Article Five to read as follows: "FIVE: (a) The liability of the directors of this corporation for monetary damages shall be eliminated to the fullest extent permissible under California law. (b) This corporation is authorized to provide indemnification of agents (as defined in Section 317 of the California Corporations Code) through bylaw provisions, agreements with agents, vote of shareholders or disinterested directors or otherwise, in excess of the indemnification otherwise permitted by Section 317 of the California Corporations Code, subject only to applicable limits set forth in Section 204 of the California Corporations Code with respect to actions for breach of duty to the corporation and its shareholders. (c) Any repeal or modification of this Article Five shall be prospective and shall not affect the rights of indemnification or limitation of liability in effect at the time of the alleged occurrence of any act or omission to act giving rise to liability or indemnification." 3. The foregoing amendment of the Articles of Incorporation has been duly approved by the Board of Directors. 4. The foregoing amendment of the Articles of Incorporation has been duly approved by the required vote of shareholders in accordance with Section 902 of the California Corporations Code. The total number of outstanding shares is 18,027,548. The number of shares voting in favor of the amendment equaled or exceeded the vote required. The percentage vote required was more than 50%. We further declare under penalty of perjury under the laws of the State of California that the matters set forth in this certificate are true and correct of our own knowledge. Date: June 2, 1998 /s/ M. Mark Michalko ---------------------------- M. Mark Michalko /s/ Lawrence E. Logue ---------------------------- Lawrence E. Logue EX-3.(D) 4 EXHIBIT 3(D) 1 EXHIBIT 3(d) Article VI of the Bylaws of the Corporation shall be amended as follows: ARTICLE VI. INDEMNIFICATION OF DIRECTORS, OFFICERS, EMPLOYEES AND OTHER AGENTS Section 1. Scope of Indemnification. (a) The corporation shall, to the broadest and maximum extent permitted by law, indemnify each person who was or is a party or is threatened to be made a party to any proceeding by reason of the fact that such person is or was a director or officer of the corporation, or is or was serving at the request of the corporation as a director or officer of another corporation or other enterprise, against expenses (including attorneys' fees), judgments, fines, settlements and other amounts actually and reasonably incurred in connection with such proceeding. In addition, the corporation shall, to the broadest and maximum extent permitted by law, promptly demand pay to such person any and all expenses (including attorneys' fees) incurred in defending or settling any such proceeding in advance of the final disposition of such proceeding upon receipt of an undertaking by or on behalf of the director or officer to repay such amount if it shall ultimately be determined by a final judgment or other final adjudication that such person is not entitled to be indemnified by the corporation as authorized in this Section 1. (b) If a claim under paragraph (a) of this Section 1 is not paid in full by the corporation within 45 days after a written claim has been received by the corporation, the claimant may at any time thereafter bring suit against the corporation to recover the unpaid amount of the claim and, if successful in whole or in part, the claimant shall also be entitled to be paid the expenses of prosecuting such claim, including attorneys' fees. It shall be a defense to any such action (other than an action brought to enforce a claim for expenses incurred in defending any proceeding in advance of its final disposition where the required undertaking has been tendered to the corporation) that the claimant has not met the standards of conduct which make it permissible under the California Corporations Code for the corporation to indemnify the claimant for the amount claimed, but the burden of proving such defense by clear and convincing evidence shall be on the corporation. (c) The Board of Directors may in its discretion provide by resolution for such indemnification of, or advance of expenses to, other employees or agents of the corporation, and likewise may refuse to provide for such indemnification or advance of expenses except to the extent such indemnification is mandatory under the California General Corporation Law. Section 2. Non-exclusivity of Rights. The rights to indemnification and to the advancement of expenses conferred in this Article VI shall be exclusive of any other right which any person may have or hereafter acquire under any statute, the corporation's articles of incorporation or any bylaw, agreement, vote of shareholders or disinterested directors or otherwise. Section 3. Terms and Heirs. The rights to indemnification and advancement of expenses conferred in this Article VI shall continue as to any person who has ceased to be a director or officer with respect to any acts or omissions that occurred during the time such person was a director or officer and shall inure to the benefit of the heirs, executors and administrators of each such person. Section 4. Severability. If any provision of this Article VI shall be found, in any proceeding or appeal therefrom or in any other circumstances or as to any person entitled to indemnification hereunder to be unenforceable, ineffective or invalid for any reason, the enforceability, effect and validity of the remaining part or parts in other circumstances shall not be affected, except as otherwise required by applicable law. Section 5. Amendments. The provisions of this Article VI shall be deemed to constitute an agreement between the corporation and each of the persons entitled to indemnification hereunder, for as long as such provisions remain in effect. Any amendment to the provisions of this Article VI which limits or otherwise adversely affects the scope of indemnification or rights of any such persons hereunder shall, as to such persons, apply only to claims or causes of action based on actions or events occurring after such amendment and delivery of notice of such amendment is given to the person or persons so affected. Until notice of such amendment is given to the person or persons whose rights hereunder are affected, such amendment shall have no effect on such rights of such persons hereunder. Any person entitled to indemnification under the provisions of this Article VI shall as to any act or omission occurring prior to the date of receipt of such notice, be entitled to indemnification to the same extent as had such provisions continued as Bylaws of the corporation without such amendment. EX-10.(G) 5 EXHIBIT 10(G) 1 Exhibit 10(g) INTERNATIONAL LOTTERY & TOTALIZATOR SYSTEMS, INC. 1997 DIRECTORS' STOCK OPTION PLAN 1. Purpose of the Plan. Under this 1997 Directors' Stock Option Plan (the "Plan") of International Lottery & Totalizator Systems, Inc. (the "Company"), options shall be granted to directors who are not employees of the Company to purchase shares of the Company's capital stock. The Plan is designed to enable the Company to attract and retain outside directors of the highest caliber and experience. 2. Stock Subject to Plan. The maximum number of shares of stock for which options granted hereunder may be exercised shall be 400,000 of the Company's common shares, no par value per share, subject to the adjustments provided in Section 6. Shares of stock subject to the unexercised portions of any options granted under this Plan which expire or terminate or are cancelled may again be subject to options under the Plan. 3. Participating Directors. The directors of the Company who shall participate in this Plan are those directors who are not, as of the applicable "date of grant" (as defined below), employees of the Company or any of its subsidiaries. 4. Grant of Options. Each participating director shall be granted the following options the date of each of which being a "date of grant": (a) an option to purchase 10,000 common shares (subject to the adjustments provided in Section 6) on September 25, 1997; (b) an option to purchase 10,000 common shares (subject to the adjustments provided in Section 6) on September 25, 1998; (c) an option to purchase 10,000 common shares (subject to the adjustments provided in Section 6) on September 25, 1999; (d) an option to purchase 10,000 common shares (subject to the adjustments provided in Section 6) on September 25, 2000; In addition, the Board of Directors may grant participating directors one or more additional options from time to time in its discretion. Notwithstanding any other provision of this Plan, no option hereunder shall be granted unless sufficient shares (subject to said adjustments) are then available therefor under Section 2 and 7. In consideration of the granting of the options, the option holder shall be deemed to have agreed to remain as a director of the Company for a period of at least one year after each date of grant. Nothing in this Plan shall, however, confer upon any option holder any right to continue as a director of the Company or shall interfere with or restrict in any way the rights of the Company or the Company's shareholders, which are hereby expressly reserved, to remove any option holder at any time for any reason whatsoever, with or without cause, to the extent permitted by the Company's bylaws and applicable law. 5. Option Provisions. Each option granted under the Plan shall contain the following terms and provisions: (a) The exercise price of each option shall be equal to the aggregate fair market value of the common shares optioned on the date of grant of such option. For this purpose, such fair market value means the closing price of shares of the same class on the day in question (or, if such day is not a trading day in the U.S. securities markets or if no sales of shares of that class were made on such day, on the nearest preceding trading day on which sales of shares of that class were made), as reported with respect to the market (or the composite of the markets, if more than one) in which such shares are then traded; or if no such closing prices are reported the lowest independent offer quotation reported for such day in Level 2 of NASDAQ, or if no such quotations are reported it means the value established by what the Board of Directors of the Company in its judgment then deems to be the most nearly comparable valuation method. (b) Payment for shares purchased upon any exercise of the option shall be made in full in cash concurrently with such exercise. (c) The option shall become exercisable in installments as follows: It may be exercised as to up to but no more than 50% of the total number of shares optioned on and after the first anniversary of the date of grant; and up to 100% of the total number of shares optioned on and after the second anniversary of the date of grant; in each case to the nearest whole share. 2 (d) When the option holder ceases to be a director of the Company, whether because of death, resignation, removal, expiration of his or her term of office or any other reason, the option shall terminate ninety (90) days after the date such option holder ceases to be a director of the Company and may thereafter no longer be exercised; except that (i) upon the option holder's death his or her legal representative(s) or the person(s) entitled to do so under the option holder's last will and testament or under applicable intestate laws shall have the right to exercise the option within one year after the date of death (but not after the expiration date of the option), but only for the number of shares as to which the option holder was entitled to exercise the option on the date of his or her death and (ii) upon the option holder's ceasing to be a director by reason of disability he or she (or his or her guardian) shall have the right to exercise the option within one year after the date the option holder ceased to be a director (but not after the expiration date of the option), but only for the number of shares as to which the option holder was entitled to exercise the option on the date of his or her ceasing to be a director. (e) Notwithstanding any other provision herein, such option may not be exercised prior to approval of this Plan by the Company's shareholders having a majority of voting power of the outstanding common shares represented at a duly held meeting at which a quorum is present, nor prior to the admission of the shares issuable on exercise of the option to listing on notice of issuance on any stock exchange on which shares of the same class are then listed; nor unless and until, in the opinion of counsel for the Company, such securities may be issued and delivered without causing the Company to be in violation of or incur any liability under any federal, state or other securities law, any requirement of any securities exchange listing agreement to which the Company may be a party, or any other requirement of law or of any regulatory body having jurisdiction over the Company. 6. Adjustments. If the Company's outstanding common shares are increased or decreased, or are changed into or exchanged for a different number or kind of shares or securities of the Company, as a result of one or more reorganizations, recapitalizations, stock splits, reverse stock splits, stock dividends or the like, appropriate adjustments shall be made in the number and/or kind of shares or securities as to which options may thereafter be granted under this Plan and for which options then outstanding under this Plan may thereafter be exercised. Any such adjustment in outstanding options shall be made without change in the aggregate purchase price applicable to the unexercised portion of such options, but with a corresponding adjustment in the purchase price for each share or other unit of any security covered by the option. No fractional shares of stock shall be issuable under any option granted under this Plan or as a result of any such adjustment. 7. Corporate Reorganizations. Upon the dissolution or liquidation of the Company, or upon a reorganization, merger or consolidation of the Company as a result of which the Company's outstanding common shares are changed or exchanged for cash or property or securities not of the Company's issue, or upon a sale of substantially all the property of the Company to another corporation or person, the Plan shall terminate, and all options thereto granted hereunder shall terminate, unless provisions shall be made in writing in connection with such transaction for the continuance of the Plan and/or for the assumption of options theretofore granted, or the substitution for such options of options covering the stock of the successor corporation, or a parent or subsidiary thereof, with appropriate adjustments as to the number and kind of shares and prices, in which event the Plan and options theretofore granted shall continue in the manner and under the terms so provided. If the Plan and unexercised options shall terminate pursuant to the foregoing sentence, all persons entitled to exercise any unexercised portions of options then outstanding shall have the right, at such time prior to the consummation of the transaction causing such terminations as the Company shall designate, to exercise the unexercised portions of their options, including the portions thereof which would, but for this section entitled "Corporation Reorganizations," not yet be exercisable. 8. Duration, Termination and Amendment of the Plan. This Plan shall become effective upon its adoption by the Board of Directors of the Company and shall expire on December 31, 2000, so that no option may be granted hereunder after that date although any option outstanding on that date may thereafter be exercised in accordance with its terms. The Board of Directors of the Company may alter, amend, suspend or terminate this Plan, provided that no such action shall deprive an option holder, without his or her consent, of any option previously granted pursuant to this Plan or of any of the option holder's rights under such option. Except as herein provided, no such action of the Board, unless taken with the approval of the stockholders of the Company, may make any amendment to the Plan as to which approval by stockholders is required by applicable law, regulation or rule. EX-13 6 EXHIBIT 13 1 EXHIBIT 13 SELECTED FINANCIAL DATA
Years Ended December 31, 1998 1997 1996 1995 1994 - ---------------------------------------------------------------------------------------------------------------------------- Thousand of dollars except per share amounts and non-monetary items Statement of operations data Revenue $13,172 $10,826 $ 16,594 $ 18,641 $ 24,089 Gross profit 4,599 1,179 648 (1,622) (12,917) Operating loss (2,094) (6,700) (6,894) (14,221) (22,943) Net loss (1,892) (5,938) (5,498) (13,869) (22,620) Loss per share - basic and diluted(1) $ (0.31) $ (0.99) $ (0.92) $ (2.47) $ (4.04) Balance sheet data Total assets 5,078 8,662 13,883 21,352 31,888 Shareholders' equity 2,472 4,092 8,519 13,412 27,145 Key ratios and statistics Gross profit 34.91% 10.89% 3.90% (8.70)% (53.62)% Working capital $ 2,007 $ 3,290 $ 6,614 $ 8,679 $ 22,236 Book value per share 0.41 0.68 1.41(2) 2.40 4.86 Current ratio 1.77 1.70 2.23 2.12 5.69 Backlog $ 3,402 $ 4,988 $ 1,709 $ 9,214 $ 11,168 Employees 72 116 144 176 277 Shares outstanding(1) 6,009 6,009 6,005(2) 5,605 5,601 - ----------------------------------------------------------------------------------------------------------------------------
(1) Adjusted to reflect a three-for-one reverse stock split on June 12, 1998. (2) Includes 280 thousand shares (reflects the June 12, 1998 three-for-one reverse stock split) issued in 1997 to the shareholder class in settlement of a class action lawsuit. See note 13 to the consolidated financial statements. 2 MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS FORWARD LOOKING STATEMENTS The statements in this filing which are not historical facts are forward-looking statements that are subject to risks and uncertainties that could cause actual results to differ materially from those set forth or implied by forward-looking statements. These risks and uncertainties include the absence of significant contract backlog, the dependence on business from foreign customers sometimes in politically unstable regions, political and governmental decisions as to the establishment of lotteries and other wagering industries in which the Company's products are marketed, fluctuations in quarter-by-quarter operating results, and other factors described in the Company's Annual Report on Form 10-K for the year ended December 31, 1998. OVERVIEW The Company has derived substantially all of its product sale revenues from the sale of betting terminals to racing organizations and lotteries worldwide. The size and timing of these transactions result in variability in product sales revenues from period to period. Service revenues have been derived primarily from providing betting terminal maintenance services to New South Wales Lotteries (NSWL). NSWL is in the process of changing its lottery system to a competitor's system. As a result, substantially all of the Company's present service revenue will contractually terminate in January 2000, although NSWL has the option to extend the agreement for an additional six months. RESULTS OF OPERATIONS 1998 Versus 1997 Revenues: Total revenues in fiscal 1998 increased 22%, or $2.3 million, versus fiscal 1997. Product sales increased 32% in 1998 to $11.1 million from $8.4 million in 1997. This is primarily the result of a 61% increase in terminal shipments in 1998 compared to 1997 shipments, which also included one central system sale. Service revenues decreased 15% or $0.4 million from 1997. This decrease is the result of fewer customer support projects and the impact of lower Australian exchange rates in 1998. Gross Profit: The gross profit on product sales was 37% in 1998 compared to 7% in 1997. The increased gross profit percentage was due to the manufacturing efficiencies achieved with the increased level of production, lower production related expenses and sales of earlier model terminals which previously had been fully reserved. Fiscal 1997 included a provision for the closing of the Company's U.K. subsidiary and a $1.3 million charge related to impairment of software capitalized in prior years. The gross profit percentage on service revenues was approximately the same both years. Engineering, Research & Development: Engineering, research and development expenses decreased 13% to $1.5 million in 1998 compared to $1.7 million in 1997. Projects in 1998 included development of additional features for the DataTrak lottery system and integration of an impact printer into the Company's terminals. The 1997 expenditures were primarily directed towards Data Trak lottery software and related features. Selling, General and Administrative: Selling, general and administrative expenses decreased 16% or $1.0 million in 1998 compared to 1997. This was primarily the result of a lower level of staffing in 1998, partially offset by expenses incurred for the proposed Prime Gaming acquisition described in Note 1. Gain on Sales of Subsidiary and Lottery Service Agreement: In 1998 the Company recognized a gain on the sale of its former Papua New Guinea lottery service agreement of $105 thousand compared to a gain of $419 thousand in 1997. Installment payments from the sale of the Papua New Guinea lottery were suspended in late 1998 due to poor economic conditions in Papua New Guinea. In addition, in 1997 the Company received final payment and recognized a gain of $438 thousand from the 1993 sale of its McKinnie & Associates subsidiary. Provision for Income Taxes: The provision for income taxes in 1998 and 1997 relates to income earned in the Company's Australian subsidiary. 3 1997 Versus 1996 Revenues: Revenue from the sale of products decreased by 40% to $8.4 million in 1997 from $14.0 million in 1996. The decrease was primarily the result of the low backlog of contracts at the end of 1996 and the level of new contracts that were delivered in 1997. Service related revenues, which include terminal maintenance and software service agreements, decreased 8% to $2.4 million in 1997 from $2.6 million in 1996. This decrease was due to a lower level of customer support contract requirements. Gross Profit: During 1997 the Company recognized a gross profit of 7% on sales of products compared to a gross profit of 21% (before write offs and write-downs of lottery service agreements) in 1996. The decrease in gross profit is due to unfavorable manufacturing variances related to the decrease in sales, charges of approximately $1.3 million taken to recognize impairment in the value of software capitalized in previous years, for which sales orders have not yet been received, additional reserves for inventory obsolescence, to record provisions for certain development contracts and costs related to the closing of the Company's United Kingdom subsidiary. The Company recognized a gross profit of 24% on services in 1997 compared to 31% (before write offs of lottery service agreements) in 1996. This decrease was the result of the mix of services provided and the increase in the foreign exchange rate of the U.S. dollar versus the Australian dollar in 1997. Engineering, Research & Development: Engineering, research and development expenses of $1.7 million in 1997 were equal to those of 1996. Of the $1.7 million expended in 1997, $1.3 million was for additional development of DataTrak lottery software and the related instant ticket validation and player registration modules. Additional funds were expended to reduce the manufactured cost of the Company's terminals. The 1996 expenditures related primarily to development of the DataTrak software. Selling, General and Administrative: Selling, general and administrative expenses increased $0.3 million in 1997 compared to 1996. The 1997 selling, general and administrative costs were actually less than 1996 costs if the 1996 benefit from the $1.2 million reduction to the June 1996 judgment to settle the shareholders class action lawsuit was omitted. Gain on Sales of Subsidiary and Lottery Service Agreement: In 1993 the Company sold its subsidiary McKinnie & Associates. In the fourth quarter of 1997, the Company negotiated and received a final settlement on this agreement. The Company recognized a gain on the sale of $438 thousand and $691 thousand in 1997 and 1996 respectively. In 1995, the Company sold its Papua New Guinea lottery service agreement. The Company recognized a gain on the sale of $419 thousand and $624 thousand in 1997 and 1996 respectively. Both of these sales have been recorded under the cost recovery method and, as such, no income was recognized until 1996, when the basis of these investments had been recovered. Provision for Income Taxes: The provision of income taxes in 1997 and 1996 relates to income earned in the Company's Australian subsidiary. LIQUIDITY AND CAPITAL RESOURCES During 1998, working capital decreased by $1.2 million. This was primarily due to the completion of contracts that were started in 1997 and a reduction in inventories, partially offset by a reduction in loss reserves against these same contracts. Although the Company's net loss from operations was $1.9 million, cash on hand decreased only $0.1 million. The net loss was offset by the reduction in working capital described above, of $1.2 million, depreciation of $0.3 million and an exchange rate gain recognized upon the dissolution of the U.K. subsidiary. On November 20, 1998, the Company announced its plan to outsource the manufacturing of its terminals. It has also taken steps to further reduce its fixed costs by subleasing a portion of its facility and is actively looking for a smaller facility. The Company intends to strategically pursue long-term service contracts as a source of revenue. Service contracts pose new capital investment risks for the Company that do not exist in its product sale business. Service contracts require an up-front investment of capital which is repaid only after a system becomes operational, based upon a percentage of the customer's gross receipts from the system. The Company therefore bears the risk that scheduling delays may occur and that a system may not become operational or that the customer's gross receipts from the system may be less than expected. The Company would have to seek the funds necessary to implement such contracts from Berjaya or other sources. 4 The Company's consolidated financial statements have been prepared on a continuing operations basis which contemplates the realization of assets and the settlement of liabilities and commitments in the normal course of business. Management recognizes that the Company must generate additional contract sales to maintain its current level of operations. Additionally, management is currently seeking additional sources of funding through debt or equity financing and consideration of other business transactions that would generate sufficient resources to assure continuation of the Company's operations. As of December 31, 1998 there were no material commitments for capital expenditures. Management anticipates that it will be successful in obtaining sufficient contracts to enable the Company to continue normal operations; however, no assurances can be given that the Company will be successful in realizing sufficient contract revenue or obtaining additional funding. If the Company is unable to obtain sufficient contract revenue or funding, management will be required to sharply curtail the Company's operations. Subsequent to December 31, 1998, the Company's largest shareholder, Berjaya Lottery Management (Berjaya), agreed to provide a line of credit of up to $4.0 million to meet the Company's cash needs through at least June 30, 2000. The Company has agreed with Berjaya to pledge as security its current and future inventory and accounts receivable, intellectual property, trademarks, contracts and all other tangible and intangible assets upon the utilization of the credit facility. FOREIGN EXCHANGE FLUCTUATION The Company's reporting currency is the U.S. dollar. Historically, a majority of the Company's sales have been denominated in U.S. dollars, with the balance denominated in foreign currencies. These foreign currency sales have been effected principally by the Company's international subsidiaries. Changes from reporting period to reporting period in the exchange rates between various foreign currencies and the U.S. dollar have had, and will in the future continue to have, an impact on revenue and expense reported by the Company, and such effect may be material in any individual reporting period. As the contracts are predominantly denominated in the functional currency of the subsidiary performing under the contract, the Company has historically incurred immaterial amounts of transaction gains or losses. The balance sheets of the Company's international subsidiaries are translated into U.S. dollars and consolidated with the balance sheets of the Company's domestic subsidiary in accordance with U.S. accounting requirements. Changes in the U.S. dollar value of the foreign currency denominated assets are accounted for as an adjustment to stockholders' equity. Therefore, changes from reporting period to reporting period in the exchange rates between various foreign currencies and the U.S. dollar have had, and will continue to have, an impact on the foreign currency translation component of stockholders' equity reported by the Company, and such effect may be material in any individual reporting period. The Company recognized a foreign exchange gain of $65 thousand in 1998 primarily as a result of liquidating its United Kingdom subsidiary. ASIA Significant portions of the Company's revenues are derived from customers located in Asia. In the last 24 months the currencies of the Asian countries in which the Company's customer are located have declined significantly against the U.S. dollar. Although the Company generally has been paid in U.S. dollars, this decline has effectively increased the cost of the Company's products to its customers. The Company does not believe that its on-going business has been negatively impacted by the Asian currency exchange situation, however, one current customer has asked and the Company has agreed, to delay to a later undefined date the scheduled delivery of terminals which will result in the delay of Company revenues and cash receipts of approximately $1.0 million. 5 YEAR 2000 During fiscal 1998, the Company developed a plan to address anticipated Year 2000 issues in connection with its data processing and other activities, including non-information technology based systems. It is currently estimated that the net cost to become Year 2000 compliant, including upgrades of its personal computer hardware and software and its network, will total approximately $30 thousand of which $5 thousand has been incurred to date. The Company has completed its remediation portion of the Year 2000 project and will be entering its testing phase during the first three-quarters of 1999. Compliance status from key suppliers will be evaluated to determine whether the Company will need to switch sources to ensure ongoing product/service availability. This evaluation/conversion is expected to be completed by September 1999. A contingency plan has not been developed, as the risk on remaining items is considered low. Should any issues arise which cannot be adequately addressed and remedied, management will develop a contingency plan at that point. Although, based on a review of its data processing, operating, and other computer based systems, the Company does not currently believe that it will experience any significant adverse effect or material unbudgeted costs resulting therefrom, there can be no assurance in that regard. In addition, the Company has reviewed the software systems and hardware it has previously sold and determined they are Year 2000 compliant. The failure to correct a material Year 2000 problem could result in an interruption in or a failure of certain normal activities or operations. Such interruptions or failures could materially and adversely affect the Company's results of operations, liquidity and financial conditions. Because there is general uncertainty about the Year 2000 problem, including uncertainty about the Year 2000 readiness of suppliers and customers, it is not possible to predict whether Year 2000 problems will occur or what consequences such problems will have on results of operation's, liquidity or financial condition. However, the Company's plan to address Year 2000 issues is intended to minimize, to the extent feasible, the possibility of interruptions of normal operations. There can, however, be no assurance that the Company will be successful in doing so. 6 CONSOLIDATED STATEMENTS OF OPERATIONS AND COMPREHENSIVE LOSS
Years Ended December 31, 1998 1997 1996 - ----------------------------------------------------------------------------------------------------------- $ in thousands, except per share amounts Revenues: Sales of products $11,102 $ 8,392 $13,954 Services 2,070 2,434 2,640 - ----------------------------------------------------------------------------------------------------------- 13,172 10,826 16,594 - ----------------------------------------------------------------------------------------------------------- Cost of revenues: Cost of sales of products 7,040 7,804 11,342 Cost of services 1,533 1,843 1,811 Write-down of lottery service agreement -- -- 2,793 - ----------------------------------------------------------------------------------------------------------- 8,573 9,647 15,946 - ----------------------------------------------------------------------------------------------------------- Gross profit 4,599 1,179 648 Engineering, research and development 1,464 1,684 1,662 Selling, general and administrative 5,229 6,195 5,880 - ----------------------------------------------------------------------------------------------------------- Loss from operations (2,094) (6,700) (6,894) Other income: Interest income, net 60 135 173 Exchange rate gain/(loss) 65 (150) -- Gain on sale of subsidiary and lottery service agreement 105 857 1,315 - ----------------------------------------------------------------------------------------------------------- Loss before provision for income taxes (1,864) (5,858) (5,406) Provision for income taxes 28 80 92 - ----------------------------------------------------------------------------------------------------------- Net loss ($1,892) ($5,938) ($5,498) - ----------------------------------------------------------------------------------------------------------- Other comprehensive income (loss): Foreign currency translation adjustments 272 (185) (115) - ----------------------------------------------------------------------------------------------------------- Comprehensive loss ($1,620) ($6,123) ($5,613) - ----------------------------------------------------------------------------------------------------------- - ----------------------------------------------------------------------------------------------------------- Net loss per share - Basic and diluted ($ 0.31) ($ 0.99) ($ 0.94) - ----------------------------------------------------------------------------------------------------------- Shares used in determination of net loss per share - Basic and diluted (1) 6,009 6,007 5,822 - -----------------------------------------------------------------------------------------------------------
See accompanying notes. (1) Adjusted to reflect a three-for-one reverse stock split on June 12, 1998. 7 CONSOLIDATED BALANCE SHEETS
AS OF DECEMBER 31, 1998 1997 - ---------------------------------------------------------------------------------------------------------------------- $ in thousands, except share amounts Assets Current assets: Cash and cash equivalents $ 2,270 $ 2,371 Accounts receivable, net of allowance for doubtful accounts of $93 ($173 in 1997) 1,338 1,040 Costs and estimated earnings in excess of billings on uncompleted contracts 45 1,716 Inventories, net 798 2,544 Other current assets 162 189 - ---------------------------------------------------------------------------------------------------------------------- Total current assets 4,613 7,860 - ---------------------------------------------------------------------------------------------------------------------- Equipment, furniture and fixtures at cost, less accumulated depreciation of $3,669 ($4,078 in 1997) 465 802 - ---------------------------------------------------------------------------------------------------------------------- $ 5,078 $ 8,662 - ---------------------------------------------------------------------------------------------------------------------- Liabilities and Shareholders' Equity Current liabilities: Accounts payable $ 474 $ 575 Billings in excess of costs and estimated earnings on uncompleted contracts 9 386 Accrued payroll and related taxes 603 839 Related party liability 332 146 Other current liabilities 1,188 2,624 - ---------------------------------------------------------------------------------------------------------------------- Total current liabilities 2,606 4,570 - ---------------------------------------------------------------------------------------------------------------------- Commitments and contingencies Shareholders' equity: Common shares; no par value, 50,000,000 shares authorized; 6,009,183 shares issued and outstanding in both years 51,103 51,103 Retained deficit (48,551) (46,659) Foreign currency translation adjustment (80) (352) - ---------------------------------------------------------------------------------------------------------------------- 2,472 4,092 - ---------------------------------------------------------------------------------------------------------------------- $ 5,078 $ 8,662 - ----------------------------------------------------------------------------------------------------------------------
See accompanying notes. 8 CONSOLIDATED STATEMENTS OF CASH FLOWS
- --------------------------------------------------------------------------------------------------------------------- Years Ended December 31, 1998 1997 1996 - --------------------------------------------------------------------------------------------------------------------- $ in thousands Cash flows from operating activities: Net loss ($1,892) ($5,938) ($5,498) Adjustments to reconcile net loss to net cash provided by (used for) operating activities: Depreciation and amortization 338 1,107 601 Gain on sale of subsidiaries and lottery service operations (105) (857) (1,315) Adjustment in value of stock issued as settlement of litigation -- -- (1,200) Write-down of lottery service agreement -- -- 2,793 Loss on impaired manufacturing assets 94 -- -- Changes in operating assets and liabilities: Accounts receivable (298) (61) 609 Costs and estimated earnings in excess of billings on uncompleted contracts 1,671 736 1,213 Inventories 1,746 474 3,802 Accounts payable (101) 85 260 Billings in excess of costs and estimated earnings on uncompleted contracts (377) 225 46 Accrued payroll and related taxes (236) (54) (56) Related party liability 186 -- 366 Accrued litigation settlement -- -- (600) Other assets 27 42 463 Other liabilities (1,436) 687 (1,060) - --------------------------------------------------------------------------------------------------------------------- Net cash provided by (used for) operating activities (383) (3,554) 424 - --------------------------------------------------------------------------------------------------------------------- Cash flows from investing activities: Investment in lottery service agreements -- -- (34) Lottery service agreement sale proceeds and repayment of advances 105 419 962 Additions to equipment (95) (150) (283) Addition to computer software costs -- -- (211) Proceeds from sale of subsidiary -- 438 740 - --------------------------------------------------------------------------------------------------------------------- Net cash provided by investing activities 10 707 1,174 - --------------------------------------------------------------------------------------------------------------------- Cash flows from financing activities: Proceeds from issuance of common shares and warrants -- 16 -- - --------------------------------------------------------------------------------------------------------------------- Net cash provided by financing activities -- 16 -- - --------------------------------------------------------------------------------------------------------------------- Effect of exchange rate changes on cash 272 (185) (115) - --------------------------------------------------------------------------------------------------------------------- Increase (decrease) in cash and cash equivalents (101) (3,016) 1,483 - --------------------------------------------------------------------------------------------------------------------- Cash and cash equivalents, beginning of year 2,371 5,387 3,904 - --------------------------------------------------------------------------------------------------------------------- Cash and cash equivalents, end of year $ 2,270 $ 2,371 $ 5,387 - --------------------------------------------------------------------------------------------------------------------- Supplemental cash flow information: Cash paid during the year for interest 1 9 20 Cash paid during the year for income taxes 69 98 46
See accompanying notes. 9 CONSOLIDATED STATEMENTS OF SHAREHOLDERS' EQUITY
Foreign Common Stock currency ---------------------- Retained translation Shares Amount deficit adjustment Total - -------------------------------------------------------------------------------------------------------------------- Thousands of shares/dollars Balance at December 31, 1995 5,605 $ 48,687 $(35,223) $(52) $ 13,412 - -------------------------------------------------------------------------------------------------------------------- Issuance of shares in settlement of shareholders' lawsuit 120 720 -- -- 720 Foreign currency translation adjustment -- -- -- (115) (115) Net loss - 1996 -- -- (5,498) -- (5,498) - -------------------------------------------------------------------------------------------------------------------- Balance at December 31, 1996 5,725 49,407 (40,721) (167) 8,519 - -------------------------------------------------------------------------------------------------------------------- Proceeds from exercise of stock options 4 16 -- -- 16 Issuance of shares in settlement of shareholders' lawsuit 280 1,680 -- -- 1,680 Foreign currency translation adjustment -- -- -- (185) (185) Net loss - 1997 -- -- (5,938) -- (5,938) - -------------------------------------------------------------------------------------------------------------------- Balance at December 31, 1997 6,009 51,103 (46,659) (352) 4,092 - -------------------------------------------------------------------------------------------------------------------- Foreign currency translation adjustment -- -- -- 272 272 Net loss - 1998 -- -- (1,892) -- (1,892) - -------------------------------------------------------------------------------------------------------------------- Balance at December 31, 1998 6,009 $ 51,103 $(48,551) $(80) $ 2,472 - --------------------------------------------------------------------------------------------------------------------
See accompanying notes. 10 Notes To Consolidated Financial Statements 1. Operations The Company's consolidated financial statements for the year ended December 31, 1998 have been prepared on a continuing operations basis which contemplates the realization of assets and the settlement of liabilities and commitments in the normal course of business. The Company is largely dependent upon significant contracts for its revenue, which typically include a deposit upon contract signing and up to 3 months lead-time before delivery of hardware begins. The Company has incurred net losses of $5.5 million, $5.9 million and $1.9 million in 1996, 1997 and 1998, respectively, while revenues have decreased from $16.6 million in 1996 to $13.2 million in 1998. As of December 31, 1998, the Company had a backlog (unaudited) of $3.6 million compared to backlogs (unaudited) of $5.0 million and $1.7 million in 1997 and 1996, respectively. On June 1, 1998, the stockholders of the Company approved an amendment to the Articles of Incorporation to effect a three-for-one reverse stock split. Each share of stock owned by stockholders of record at the close of business on June 12, 1998 was converted into 0.333 shares. All share and per share data presented in the Consolidated Financial Statements and footnotes of this Annual Report have been restated to reflect the three-for-one reverse stock split. Historically, approximately 70% of the Company's annual service revenues have been derived from a terminal maintenance agreement with an Australian lottery customer that expires in January 2000. In October 1998, the Australian lottery customer, as a result of a competitive bid, awarded this contract to a competitor of the Company. Early in 1998, NASDAQ adopted new requirements for continued listing on NASDAQ Markets. On December 16, 1998, the Company was notified by the NASDAQ that its shares did not meet the new criteria. On December 17, 1998, the Company's shares began trading on the Over-the-Counter Bulletin Board (OTCBB). In June 1998, the Company announced it had entered into negotiations to acquire a controlling interest in Prime Gaming Philippines, Inc. ("Prime") from Berjaya Lottery Management (H.K.) Limited and/or other Prime shareholders in exchange for the issuance of ILTS common stock. One requirement to complete the transaction was that ILTS common shares remain trading on NASDAQ markets. In December 1998, NASDAQ notified the Company that it did not meet NASDAQ listing criteria and that Company shares would begin trading OTCBB. In February 1999, as a result of the Company's transfer from NASDAQ to OTCBB the Prime shareholders terminated the proposed transaction. At December 31, 1998, the Company had working capital of $2.0 million. Management recognizes that the Company must recover its investment in existing contracts (Note 4) and generate additional contract sales to maintain its current level of operations. Additionally, management is currently seeking additional sources of funding through debt or equity financing and consideration of other business transactions, which would generate sufficient resources to assure continuation of the Company's operations. Management anticipates that it will be successful in recovering its investment in existing contracts (Note 4) and obtaining sufficient contracts to enable the Company to continue normal operations; however, no assurances can be given that the Company will be successful in realizing sufficient new contract revenues or obtaining additional financing. If the Company is unable to recover its investment in existing contracts, obtain sufficient new contract revenue or financing, management will be required to reduce the Company's operations. Subsequent to December 31, 1998, the Company's largest shareholder, Berjaya Lottery Management (Berjaya), agreed to provide a line of credit up to $4.0 million to meet the Company's cash needs through at least June 30, 2000. The Company has agreed with Berjaya to pledge as security its current and future inventory and accounts receivable, intellectual property, trademarks, contracts and all other tangible and intangible assets upon the utilization of the credit facility. The Company's ability to continue its ongoing operations on a long-term basis is dependent upon its ability to recover its investment in existing contracts, to obtain additional financing, secure additional new contracts and ultimately achieve a sustainable level of profit from operations. 2. Summary of Significant Accounting Policies Principles of Consolidation - The accompanying consolidating financial statements include the accounts of the Company and its subsidiaries, all of which are wholly-owned. All significant intercompany accounts and transactions are eliminated in consolidation. Revenue Recognition - The Company recognizes long-term contract revenue on the percentage-of-completion method, based on contract costs incurred to date compared to total estimated contract costs. The effects of changes in contract cost estimates are recognized in the period they are determined. Estimated contract losses are fully charged to operations when identified. Revenues relating to the sale of certain assets, when the ultimate total collection is not reasonably assured, are being recorded under the cost recovery method. All other revenue is recorded on the basis of shipments of products or performance of services. 11 Use of Estimates - The preparation of financial statements, in conformity with generally accepted accounting principles, requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities, and disclosure of contingent assets and liabilities, at the date of the financial statements, and the reported amounts of revenues and expenses during the reporting period. Actual results could differ from those estimates. Depreciation - Depreciation of equipment, furniture and fixtures is provided principally using the straight-line method over estimated useful lives of 3 - 7 years. Computer Software Costs - The Company previously capitalized the costs of computer software incurred in the development of specific products, after technological feasibility had been established. The capitalized software costs were amortized using the greater of the amount computed using the ratio of current product revenue to estimated total product revenue or the straight-line method over the remaining estimated economic lives of the products (3 years). Amortization expense totaled $0, $688 thousand, and $89 thousand for the years ended December 31, 1998, 1997 and 1996, respectively. In 1997, the Company determined that software which had been capitalized in prior years had become impaired, and accordingly, took a charge for the remaining asset value of $457 thousand. Warranty Reserves - Estimated expenses for warranty obligations are accrued as income is recognized on related contracts. The reserves are adjusted periodically to reflect actual experience. Foreign Currency - The Company has contracts with certain customers that are denominated in foreign currencies, and related transaction gains and losses are recognized as a component of current operations. The consolidated accounts of the Company's Australian subsidiary have been translated from its functional currency, the Australian dollar. The effect of the exchange rate fluctuations between the U.S. dollar and the Australian dollar is recorded as a separate component of shareholders' equity. Per Share Information - Net loss per share is based on the weighted average number of shares outstanding during the year. The weighted average number of shares outstanding were revised to reflect the three-for-one reverse stock split implemented June 12, 1998. The 1996 computation includes 280 thousand shares of common stock, which were issued in 1997, pursuant to a class action lawsuit settlement rendered by the court on June 17, 1996. Research and Development - Engineering, research and development costs are expensed as incurred. Substantially all engineering, research and development expenses are related to new product development and designing significant improvements. Concentration of Credit Risk - Accounts receivable and costs and estimated earnings in excess of billings on uncompleted contracts are primarily related to contracts with a few major customers. These amounts are payable in accordance with the terms of individual contracts and generally collateral is not required. Estimated credit losses are provided for in the financial statements. The Company conducts business in the Asia/Pacific region. Certain Asian countries have experienced severe economic turmoil represented by depressed business conditions and volatility in local currencies. Any significant further decline in these economies and in the value of their currencies could have a material adverse effect on the Company. Cash and Cash Equivalents - The Company considers all highly liquid investments with a maturity of three months or less when purchased to be cash equivalents. Included in cash and cash equivalents at December 31, 1998 and 1997 are investments in commercial paper totaling $1.1 million and $1.0 million, respectively, which mature in January 1999 and January 1998, respectively. The estimated fair value of these investments approximates the carrying value; therefore, there are no unrealized gains or losses as of December 31, 1998 or 1997. Stock Options - As permitted, the Company has elected the disclosure only provisions of SFAS No. 123. Accordingly, the Company continues to follow Accounting Principles Board Opinion No. 25 Accounting for Stock Issued to Employees (APB 25) and related interpretations in accounting for its employee stock options. Under APB 25, because the exercise price of the Company's stock options equals the market price of the underlying stock on the date of grant, no compensation expense is recognized. Major Customers - During 1998 approximately $8.8 million or 67% of the Company's revenues were derived from six customers. In 1997 and 1996 the amounts were $7.4 million or 69% from 5 customers and $11.7 million or 70% from 5 customers, respectively. Recent Accounting Pronouncements - On January 1, 1998, the Company adopted SFAS No. 130, "Reporting Comprehensive Income." The effect of the implementation was to show the change in the foreign currency translation adjustment in shareholders' equity as a component of comprehensive income. In June 1998, the Financial Accounting Standards Board issued SFAS No. 133, "Accounting for Derivative Instruments and Hedging Activities" which is required to be adopted for the fiscal quarter beginning after June 15, 1999. At this time, the Company has not entered into any derivative instruments or hedging activities. In March 1998, the Accounting Standards Executive Committee (AcSEC) issued AICPA Statement of Position (SOP) 98-1, "Accounting for Costs of Computer Software Developed or Obtained for Internal Use." This statement provides guidance on accounting for the costs of computer software developed or obtained for internal use and identifies characteristics of internal use software and provides assistance in determining when computer software is for internal use. SOP 98-1 is effective for fiscal years beginning after December 15, 1998, with 12 earlier application permitted. The Company has not yet determined what impact, if any, the adoption of SOP 98-1 will have on the Company's consolidated financial statements, results of operations, or related disclosures thereto. In April 1998, the Accounting Standards Executive Committee (AcSEC) issued AICPA Statement of Position (SOP) 98-5, "Reporting on the Costs of Start-Up Activities." This statement provides guidance on financial reporting of start-up costs and organization costs and requires that such costs of start-up activities be expensed as incurred. SOP 98-5 is effective for fiscal years beginning after December 15, 1998, with earlier application permitted. The Company has not yet determined what impact, if any, the adoption of SOP 98-5 will have on the Company's consolidated financial statements, results of operations, or related disclosures thereto. Reclassifications - Certain prior years balances have been reclassified to conform with the 1998 presentation. 3. Related Party Transactions The Company has entered into sales agreements to supply terminals, spares and services to entities in which the Company's largest shareholder, Berjaya, has a significant equity interest. Revenues related to these agreements totaled $2.5 million, $0.8 million and $2.0 million in 1998, 1997 and 1996, respectively. Included in accounts receivable and costs and estimated earnings in excess of billings on uncompleted contracts were $0.3 million and $0.2 million at December 31, 1998 and 1997 respectively, relating to these customers. During 1996 the Company entered into an agreement with Berjaya to purchase specific inventory on behalf of Berjaya to enable the Company to satisfy certain future potential orders in a timely manner. Title to the inventory purchased resides with Berjaya; therefore, no amounts are reflected in the consolidated balance sheets for inventory purchased on their behalf. Advances received in excess of inventory purchased aggregated approximately $332 thousand and $146 thousand and have been reflected as a related party liability in the accompanying consolidated balance sheets as of December 31, 1998 and 1997, respectively. 4. Contracts in Process The amounts by which total costs and estimated earnings exceeded or were less than billings on uncompleted contracts are as follows (in thousands):
Years Ended December 31, 1998 1997 - ------------------------ -------- -------- Costs incurred $ 1,273 $ 9,696 Estimated earnings 213 1,666 -------- -------- 1,486 11,362 Less: billings (1,450) (10,032) -------- -------- $ 36 $ 1,330 ======== ======== Included in the accompanying consolidated balance sheets as follows: Costs and estimated earnings in excess of billings on uncompleted contracts $ 45 $ 1,716 Billings in excess of costs and estimated earnings on uncompleted contracts (9) (386) -------- -------- $ 36 $ 1,330 ======== ========
13 5. Inventories At December 31, 1998 and 1997, inventories were comprised of:
$ in thousands 1998 1997 - ----------------------------------------------- Raw materials $ 207 $1,393 Work in process 591 1,151 Finished goods -- -- ---------------------- $ 798 $2,544 ----------------------
6. Lottery Service Agreements The Company entered into contracts to provide lottery equipment and management of on-line lottery systems on a long-term basis in Papua New Guinea in 1992 and entered into a contract to provide lottery equipment in the United Kingdom in 1995. In July 1995, the Company sold all interest in its Papua New Guinea lottery operation to the principal shareholders of the licensee for a fixed amount plus a percentage of the annual gross lottery sales or an annual sum of $260 thousand, whichever is greater, for a period of five years, provided that the additional sums shall not exceed $3.0 million. The Company recognized approximately $105 thousand as a gain on the sale of the lottery service agreement in 1998, before payments were suspended due to poor economic conditions in Papua New Guinea. The Company recorded a gain of $419 thousand in 1997 and $624 thousand in 1996. The Company is reviewing its options to recover the remaining amount due under the terms of the contract. At December 31, 1998, the Company has no investment remaining on its balance sheet as the proceeds from the sale have exceeded the net book value. The Company committed services and lottery equipment costing approximately $2.8 million to its United Kingdom lottery service agreement in 1995. In September 1996, it became apparent that the customer was not able to fund the lottery start-up and operations and the Company recorded a $2.8 million charge to reflect a reserve for the project. The Company recovered part of its U.K. investment in 1997 and 1998 through the sale of a system and terminals to Olympic Gold, which aggregate $3.8 million. 7. Industry Segment and Geographical Data The Company operates in one industry segment, which includes totalizator and lottery systems. The Company has an Australian subsidiary, International Lottery & Totalizator Systems Australia Pty., Ltd. (a United Kingdom subsidiary ceased operations in March 1998). Sales between geographic areas are generally priced to recover material costs plus an appropriate markup. Revenue by major customers is as follows (in thousands):
Customer location 1998 1997 1996 - -------------------------------------------------------------------- Sweden $ 2,400 $ 1,400 $ 4,300 Philippines 2,300 400 900 Hong Kong 1,700 400 2,400 Australia 1,500 1,700 2,000 Malaysia 1,000 2,000 -- Ukraine 900 2,600 -- All other 3,400 2,300 7,000 ------- ------- ------- Total $13,200 $10,800 $16,600 ======= ======= =======
14 The following table summarizes information about the Company's operations in different geographic areas for the years ended December 31, 1998, 1997 and 1996 (in thousands).
Year Ended December 31, 1998 1997 - -------------------------------------------------------------------------------------------------------------------------------- Eastern Eastern Europe/ Consoli- Europe/ Consoli- USA Pacific Europe dated USA Pacific Europe dated - -------------------------------------------------------------------------------------------------------------------------------- Sales to unaffiliated customer: Export $ 9,537 $ -- $ -- $ 9,537 $ 7,750 $ -- $ -- $ 7,750 Domestic 734 2,838 63 3,635 643 2,123 310 3,076 - -------------------------------------------------------------------------------------------------------------------------------- Sales to: Australia subsidiary 1,209 -- -- 1,209 557 -- -- 557 - -------------------------------------------------------------------------------------------------------------------------------- 11,480 2,838 63 14,381 8,950 2,123 310 11,383 - -------------------------------------------------------------------------------------------------------------------------------- Elimination of inter-company sales (1,209) -- -- (1,209) (557) -- -- (557) - -------------------------------------------------------------------------------------------------------------------------------- Total Revenue 10,271 2,838 63 13,172 8,393 2,123 310 10,826 - -------------------------------------------------------------------------------------------------------------------------------- Write-down of lottery service agreement -- -- -- -- -- -- -- -- - -------------------------------------------------------------------------------------------------------------------------------- Net income (loss) ($2,407) $ 115 $ 400 ($1,892) ($5,710) ($206) ($22) ($5,938) - -------------------------------------------------------------------------------------------------------------------------------- Identifiable assets $ 4,331 $ 747 $ -- $ 5,078 $ 7,272 $ 1,356 $ 34 $ 8,662 - --------------------------------------------------------------------------------------------------------------------------------
Year Ended December 31, 1996 - ---------------------------------------------------------------------------------- Eastern Europe/ Consoli- USA Pacific Europe dated - ---------------------------------------------------------------------------------- Sales to unaffiliated customer: Export $ 11,313 $ -- $ -- $ 11,313 Domestic 293 4,482 506 5,281 - ---------------------------------------------------------------------------------- Sales to: Australia subsidiary 1,738 -- -- 1,738 - ---------------------------------------------------------------------------------- 13,344 4,482 506 18,332 - ---------------------------------------------------------------------------------- Elimination of inter-company sales (1,738) -- -- (1,738) - ---------------------------------------------------------------------------------- Total Revenue 11,606 4,482 506 16,594 - ---------------------------------------------------------------------------------- Write-down of lottery service agreement (2,793) -- -- (2,793) - ---------------------------------------------------------------------------------- Net income (loss) ($5,865) $ 476 ($109) ($5,498) - ---------------------------------------------------------------------------------- Identifiable assets $ 11,638 $ 2,096 $ 149 $ 13,883 - ----------------------------------------------------------------------------------
8. Leases The Company leases its facilities under operating lease agreements which expire at various dates through October 2001. Certain lease agreements provide for increases in minimum annual rent based on increases in various market indices. Also, the Company has the option to renew the lease on its U.S. facility for one additional ten-year term. Rent expense for the years ended December 31, 1998, 1997, and 1996 was $581 thousand, $595 thousand and $605 thousand, respectively. Minimum future obligations for these leases are as follows (in thousands): 1999-$586; 2000-$337; 2001-$65. 9. Income Taxes The provision for income taxes of $28 thousand in 1998, $80 thousand in 1997 and $92 thousand in 1996, primarily relates to income earned by the Company's Australian subsidiary. The following is a reconciliation of the actual tax provision to the expected tax benefit computed by applying the statutory federal income tax rate to the loss before provision for income taxes (in thousands):
Years Ended December 31, 1998 1997 1996 - ---------------------------------------------------------------------------------------------- Expected federal income tax benefit at statutory rate ($1,354) ($1,932) ($1,892) U.S. and foreign net operating losses - no benefit 1,354 1,932 1,892 Other, net 28 80 92 Provision for income taxes 28 80 92 - ----------------------------------------------------------------------------------------------
Deferred income taxes reflect the net tax effects of temporary differences between the carrying amounts of assets and liabilities for financial reporting purposes and amounts used for income tax purposes. 15 The components of the Company's deferred tax liabilities and assets are as follows (in thousands):
December 31, 1998 1997 Deferred tax liabilities: Computer software costs $ -- $ 310 - ---------------------------------------------------------------------------------------- Total deferred tax liabilities -- 310 - ---------------------------------------------------------------------------------------- Deferred tax assets: Installment sale PNG -- 1,152 Reserves against investment in lottery service agreements -- 1,203 Reserves and accruals 1,561 2,151 Net operating loss and credit carryforwards 20,253 19,120 Other 492 343 - ---------------------------------------------------------------------------------------- Total deferred tax assets 22,306 23,969 - ---------------------------------------------------------------------------------------- Net deferred tax assets 22,306 23,659 Valuation allowance (22,306) (23,659) - ---------------------------------------------------------------------------------------- Net deferred taxes $ 0 $ 0 - ----------------------------------------------------------------------------------------
The Company has Federal and California net operating losses of approximately $54 million and $23 million, respectively, which will begin to expire in 2008 and 1999, respectively, unless previously utilized. The difference between the Federal and California net operating loss carryforwards relates primarily to California's statutory 50% annual reduction rule. The Company has provided a valuation allowance against its net deferred tax asset due to uncertainty regarding its realization. The Company also has Federal general business credit carryforwards of approximately of $588 thousand, which begin to expire in 2002. Pursuant to the Tax Reform Act of 1986, use of the Company's business credit and net operating loss carryforwards may be limited if a cumulative change in ownership of more than 50% occurs within any three-year period. 10. Employee Stock Bonus Plan The Company has an employee stock bonus plan, commonly referred to as a 401(k) plan, qualified under the Internal Revenue Code, in which all eligible employees, as defined in the Internal Revenue Code, may elect to participate. Under the Plan, employees may voluntarily make tax-deferred contributions of up to 15% of their compensation to a trust, which provides the participant with various investment alternatives. In addition, the Company, at the discretion of the Board of Directors, may contribute an amount of Company stock for each fiscal year that does not exceed 5% of the annual compensation of all participants in the Plan. Company contributions charged to operations were $0, $82 thousand and $82 thousand in 1998, 1997 and 1996, respectively. 11. Stock Option Plans The Company has three current employee stock option plans and a directors option plan whereby options to purchase 901 thousand and 133 thousand shares, respectively, of the Company's common stock may be granted. Options granted have 5 to 10 year terms that vest, become fully exercisable 2 to 4 years from the date of grant and were granted at fair value on the date of grant. Pro forma information regarding net loss and net loss per share is required by SFAS No. 123, and has been determined as if the Company has accounted for its employee stock options under the fair value method of SFAS No. 123. The fair value of these options was estimated at the date of grant, using the Black-Scholes option pricing model, with the following weighted average assumptions for 1998, 1997 and 1996, respectively: risk-free interest rates of 4.58% - 4.95%, 5.3% - 5.9% and 5.4% - 6.0%, respectively; dividend yields of 0% in 1998, 1997 and 1996; volatility factors of the expected market price of the Company's common stock of 2.8 for 1998 and 1.2 for both 1997 and 1996, respectively and a weighted-average life of the option of 7.2 years for 1998, 1997 and 1996. The Black-Scholes option valuation model was developed for use in estimating the fair value of traded options, which have no vesting restrictions and are fully transferable. In addition, option valuation models require the 16 input of highly subjective assumptions including the expected stock price volatility. Because the Company's employee stock options have characteristics significantly different from those of traded options, and because changes in the subjective input assumptions can materially affect the fair value estimate, in management's opinion, the existing models do not necessarily provide a reliable single measure of the fair value of its employee stock options. For purposes of pro forma disclosures, the estimated fair value of the options is amortized to expense over the options vesting period. The effects of applying SFAS No. 123 for pro forma disclosure purposes are not likely to be representative of the effects on pro forma net loss in future years because it does not take into consideration pro forma compensation expense related to grants made prior to 1995. The Company's pro forma information follows (in thousands, except per share amounts):
- ------------------------------------------------------------------------------------ 1998 1997 1996 Pro forma net loss ($2,093) ($6,204) ($5,645) - ------------------------------------------------------------------------------------ Pro forma loss per share ($0.35) ($1.02) ($0.96)
A summary of the Company's stock option activity, and related information for the years ended December 31 follows (options in thousands):
YEARS ENDED DECEMBER 31, 1998 1997 1996 Weighted Weighted Weighted Average Average Average Exercise Exercise Exercise Options Price Options Price Options Price -------------------------------------------------------------------------------------------------------------------------- Outstanding -beginning of year 493 $12.74 501 $17.22 442 $21.84 Granted 63 $ 1.48 160 $ 3.99 107 $ 3.66 Exercised -- $ -- (4) $ 4.14 -- $ -- Cancelled (120) $16.83 (164) $18.27 (48) $29.58 -------------------------------------------------------------------------------------------------------------------------- Outstanding -end of year 436 $ 9.92 493 $12.74 501 $17.22 -------------------------------------------------------------------------------------------------------------------------- Exercisable at end of year 263 $14.48 286 $18.66 336 $20.85 -------------------------------------------------------------------------------------------------------------------------- Weighted-average fair value of options granted during the year $ 1.48 $ 3.99 $ 3.66 --------------------------------------------------------------------------------------------------------------------------
Exercise prices for options outstanding as of December 31, 1998 ranged from $0.50 to $47.25. The weighted-average remaining contractual life of those options is approximately 6 years. At December 31, 1998, options for 465,167 shares were available for future grant. 17 The following table summarizes information about stock options at December 31, 1998 (shares in thousands):
OUTSTANDING STOCK OPTIONS EXERCISABLE STOCK OPTIONS - --------------------------------------------------------------------------------------------------------------- Weighted Average Weighted Weighted Remaining Average Average Contractual Exercise Exercise Range of Exercise Prices Shares Life Price Shares Price - --------------------------------------------------------------------------------------------------------------- $ 0.5000 - $3.8439 180 8.37 $ 2.8338 49 $ 3.4218 $ 3.8445 - $6.6564 110 5.12 $ 4.6166 68 $ 4.8546 $ 8.2500 - $34.5000 115 3.55 $15.9041 115 $15.9047 $47.2500 - $47.2500 31 3.71 $47.2500 31 $47.2500 - --------------------------------------------------------------------------------------------------------------- $0.5000 - $47.2500 436 5.95 $ 9.9248 263 $14.4812
12. Sale of Subsidiary On March 31, 1993, the Company sold its subsidiary, McKinnie & Associates, Inc. to Shreveport Acquisition for cash and a note. During 1997, the Company negotiated and received a final settlement of the remaining balance due on the note and recorded a gain of $438 thousand from receipts during the year. 13. Litigation In 1994, shareholders of the Company filed a class action lawsuit against the Company and several of its officers and directors. On June 17, 1996, the court entered a judgment of a cash payment to the class shareholders and 400 thousand shares of authorized but unissued common stock of the Company, of which, 120 thousand shares were issued in September 1996 and 280 thousand shares were issued in 1997. Such shares were included in the calculation of loss per share for the year ended December 31, 1996. The estimated settlement was accrued as of September 30, 1995 and an adjustment of approximately $1.2 million was recorded during the three months ended June 30, 1996 to reduce the accrual to the actual settlement amount, valued as of the judgment date. In November 1995, Mr. James Walters, the former chairman and president of the Company, filed an action in the San Diego County Superior Court against the Company, its then current president, Frederick A. Brunn, a publishing company, and an author, alleging that certain statements in a magazine article were slander per se by ILTS and Brunn and libel by the publishing company and the author, and that Mr. Walters suffered an invasion of privacy by all defendants. In addition, Walters alleged that erroneous information in the Company's 1995 Proxy Statement resulted in two other magazine articles publishing allegedly incorrect information. Mr. Walters seeks general and special damages of $9 million and punitive damages. On November 20, 1998, the California Court of Appeal (Fourth District) substantially reversed the summary judgement of the superior court awarded the Company on November 1, 1996 and the appellate court returned the case to the superior court for trial. The Company has filed a petition for review with the California Supreme Court. Management, based on the advice of counsel, believes that the outcome of this case will not result in any liability to the Company. Accordingly, no provision for any liability that may result has been included in the consolidated financial statements. The Company is also subject to other legal proceedings and claims that arise in the normal course of business. While the outcome of these proceedings and claims cannot be predicted with certainty, management does not believe that the outcome of any of these matters will have a material adverse effect on the Company's consolidated financial position or results of operations. EX-21 7 EXHIBIT 21 1 EXHIBIT 21 SUBSIDIARIES OF THE REGISTRANT The Registrant had 4 wholly-owned subsidiaries as of December 31, 1998: International Lottery & Totalizator Systems Australia Pty. Ltd., an Australia corporation; International Lottery & Totalizator Systems (UK) Ltd., a United Kingdom corporation, ITS Service Corp., a California corporation, ILTS (Brazil), Inc., a California corporation. EX-23.(A) 8 EXHIBIT 23(A) 1 EXHIBIT 23A CONSENT OF INDEPENDENT PUBLIC ACCOUNTANTS The consolidated balance sheets as of December 31, 1998 and 1997 and the consolidated statements of operations and comprehensive loss, stockholders' equity and cash flows for each of the three years in the period ended December 31, 1998 together with the report of independent public accountants contained on page 21 of the Company's Annual Report to Stockholders for the year ended December 31, 1998 are incorporated herein by reference. As independent public accountants, we hereby consent to the incorporation by reference of our report dated February 18, 1999 included in this Form 10-K, into International Lottery & Totalizator Systems, Inc.'s previously filed Form S-8, No. 2-99618 , No. 33-34121, No. 33-34123, No. 33-79938, No. 33-69008, and Form S-3 No. 33-78194. /s/ ARTHUR ANDERSEN LLP San Diego, California March 26, 1999 EX-23.(B) 9 EXHIBIT 23(B) 1 EXHIBIT 23B REPORT OF INDEPENDENT PUBLIC ACCOUNTANTS To International Lottery & Totalizator Systems, Inc.: We have audited the accompanying consolidated balance sheet of International Lottery & Totalizator Systems, Inc. (a California corporation) and subsidiaries as of December 31, 1998 and 1997, and the related consolidated statements of operations and comprehensive loss, shareholders' equity and cash flows for each of the two years in the period ended December 31, 1998. These financial statements and the schedule referred to below are the responsibility of the Registrant's management. Our responsibility is to express an opinion on these financial statements and schedule based on our audits. We conducted our audits in accordance with generally accepted auditing standards. Those standards require that we plan and perform the audits to obtain reasonable assurance about whether the financial statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements. An audit also includes assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall financial statement presentation. We believe that our audits provide a reasonable basis for our opinion. In our opinion, the consolidated financial statements referred to above present fairly, in all material respects, the financial position of International Lottery & Totalizator Systems, Inc. and subsidiaries as of December 31, 1998 and 1997, and the results of their operations and their cash flows for each of the two years in the period ended December 31, 1998, in conformity with generally accepted accounting principles. Our audits were made for the purpose of forming an opinion on the basic consolidated financial statements taken as a whole. The accompanying Schedule II - - Valuation and Qualifying Accounts is presented for purposes of complying with the Securities and Exchange Commission's rules and is not a required part of the basic consolidated financial statements. This information has been subjected to the auditing procedures applied in our audits of the basic consolidated financial statements and, in our opinion, is fairly stated in all material respects in relation to the basic consolidated financial statements taken as a whole. /s/ ARTHUR ANDERSEN LLP San Diego, California February 18, 1999 EX-23.(C) 10 EXHIBIT 23(C) 1 EXHIBIT 23C CONSENT OF ERNST & YOUNG LLP, INDEPENDENT AUDITORS We consent to the inclusion in this Annual Report (Form 10-K) of International Lottery & Totalizator Systems, Inc. of our report dated February 21, 1997, on the financial statements of International Lottery & Totalizator Systems, Inc. for the year ended December 31, 1996, incorporated by reference herein from the 1998 Annual Report to Shareholders of International Lottery & Totalizator Systems, Inc. Our audit also included the financial statement schedule of International Lottery & Totalizator Systems, Inc. listed in Item 14(a) as it relates to the year ended December 31, 1996. This schedule is the responsibility of the Company's management. Our responsibility is to express an opinion based on our audit. In our opinion, the financial statement schedule referred to above, when considered in relation to the basic financial statements taken as a whole, presents fairly in all material respects the information set forth therein. We also consent to the incorporation by reference in the Registration Statements (Form S-8, No. 33-34121) pertaining to the 1986 Employee Stock Option Plan, (Form S-8, No. 33-34123) pertaining to the 1988 Employee Stock Option Plan, (Form S-8, No.33-79938) pertaining to the 1990 Stock Incentive Plan, and (Form S-8, No. 33-69008) pertaining to the 1993 Directors' Stock Option Plan and the Registration Statement (Form S-3, No. 33-78194) and in the related Prospectuses of our report dated February 21, 1997, with respect to the 1996 consolidated financial statements and schedule of International Lottery & Totalizator Systems, Inc. included and incorporated by reference in this Annual Report (Form 10-K) for the year ended December 31, 1998. ERNST & YOUNG LLP San Diego, California March 26, 1999 EX-23.(D) 11 EXHIBIT 23(D) 1 EXHIBIT 23D REPORT OF ERNST & YOUNG LLP, INDEPENDENT AUDITORS The Board of Directors and Shareholders International Lottery & Totalizator Systems, Inc. We have audited the accompanying consolidated statements of operations and comprehensive loss, shareholders' equity and cash flows of International Lottery & Totalizator Systems, Inc. for the year ended December 31, 1996. These financial statements are the responsibility of the Company's management. Our responsibility is to express an opinion on these financial statements based on our audit. We conducted our audit in accordance with generally accepted auditing standards. Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements. An audit also includes assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall financial statement presentation. We believe that our audit provide a reasonable basis for our opinion. In our opinion, the financial statements referred to above present fairly, in all material respects, the consolidated results of operations and cash flows of International Lottery & Totalizator Systems, Inc. for the year ended December 31, 1996, in conformity with generally accepted accounting principles. ERNST & YOUNG LLP San Diego, California February 21, 1997 EX-27 12 EXHIBIT 27
5 1,000 12-MOS DEC-31-1998 DEC-31-1998 2,270 0 1,338 0 798 4,613 465 0 5,078 2,606 0 0 0 51,103 (48,631) 5,078 13,172 13,172 8,573 15,266 0 0 1 (1,864) 28 (1,892) 0 0 0 (1,892) (0.31) 0
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