Description of the Business and Summary of Significant Accounting Policies

3 Months Ended

Mar. 31, 2019

Organization, Consolidation and Presentation of Financial Statements [Abstract]

Description of the Business and Summary of Significant Accounting Policies

Description of the Business

We are a leading developer of technology-based products and services and associated content for the worldwide gaming, lottery, social and digital gaming industries. Our portfolio of revenue-generating activities primarily includes supplying gaming machines and game content, casino-management systems and table game products and services to licensed gaming entities; providing instant and draw-based lottery products, lottery systems and lottery content and services to lottery operators; providing social casino solutions to retail consumers; and providing a comprehensive suite of digital RMG and sports wagering solutions, distribution platforms, content, products and services. We report our operations in four business segments—Gaming, Lottery, Social and Digital.

Basis of Presentation and Principles of Consolidation

The accompanying condensed consolidated financial statements have been prepared in accordance with U.S. GAAP. The accompanying condensed consolidated financial statements include the accounts of SGC and those subsidiaries in which we have a controlling financial interest. Investments in other entities in which we do not have a controlling financial interest but we exert significant influence are accounted for in our condensed consolidated financial statements using the equity method of accounting. All intercompany balances and transactions have been eliminated in consolidation.

In the opinion of SGC and its management, we have made all adjustments necessary to present fairly our consolidated financial position, results of operations and comprehensive loss and cash flows for the periods presented. Such adjustments are of a normal, recurring nature. These unaudited condensed consolidated financial statements should be read in conjunction with the consolidated financial statements and related notes included in our 2018 10-K. Interim results of operations are not necessarily indicative of results of operations to be expected for a full year.

Significant Accounting Policies

There have been no changes to our significant accounting policies described within the Notes of our 2018 10-K other than adoption of ASC 842 described in Note 15.

Computation of Basic and Diluted Net Loss Per Share

Basic and diluted net loss per share were the same for all periods presented as all common stock equivalents would be anti-dilutive. We excluded 2 million and 3 million of stock options from the diluted weighted-average common shares outstanding for the three months ended March 31, 2019 and 2018, respectively. We excluded 2 million and 3 million of RSUs from the calculation of diluted weighted-average common shares outstanding for the three months ended March 31, 2019 and 2018, respectively.

New Accounting Guidance - Recently Adopted

The FASB issued ASU No. 2016-02, Leases (Topic 842) in 2016. ASU 2016-02 combined with all subsequent amendments (collectively, “ASC 842”) requires balance sheet recognition for all leases with a lease term greater than one year to be recorded as a lease liability (on a discounted basis) with a corresponding right-of-use asset. This guidance also expands the required quantitative and qualitative disclosures for lease arrangements and gives rise to other changes impacting certain aspects of lessee and lessor accounting. We adopted ASC 842 as of January 1, 2019 using the optional transition method provided by ASU 2018-11, and applied both the lessee package of practical expedients and the available lessor practical

expedients. During the first quarter of 2019, the FASB issued ASU 2019-01, Leases (Topic 842) to amend ASU 2016-02. This

amendment exempts both lessees and lessors from having to provide certain prior year interim disclosure information in the fiscal year in which a company adopts the new leases standard. We have provided the related transition disclosures as of the beginning of 2019 in accordance with ASU 2019-1. See our 2018 10-K Note 1 for the impact on our consolidated financial statements and Note 15 in this Quarterly Report for our lease accounting policy and the quarterly impact of our adoption of ASC 842.

In February 2018, the FASB issued ASU No. 2018-02, Reclassification of Certain Tax Effects from Accumulated Other Comprehensive Income. The standard allows companies to make an election to reclassify from Accumulated Other Comprehensive Income (AOCI) to retained earnings the stranded tax effects resulting from the Tax Cuts and Jobs Act of 2017. This ASU is effective for annual and interim periods beginning after December 15, 2018, with early adoption permitted. The amendments in this updated guidance should be applied either in the period of adoption or retrospectively to each period in which the effect of the change in the U.S. corporate federal income tax rate in the Tax Act is recognized. We adopted this standard effective January 1, 2019. We elected not to reclassify the income tax effects of the Tax Cuts and Jobs Act from AOCI to retained earnings. The adoption of this guidance did not have an effect on our consolidated financial statements.

New Accounting Guidance - Not Yet Adopted

The FASB issued ASU No. 2016-13, Financial Instruments - Credit Losses (Topic 326) in 2016. The new guidance replaces the incurred loss impairment methodology in current U.S. GAAP with a methodology that reflects expected credit losses and requires consideration of a broader range of reasonable and supportable information to inform credit loss estimates. For trade and other receivables, loans and other financial instruments, we will be required to use a forward-looking expected loss model rather than the incurred loss model for recognizing credit losses which reflects losses that are probable. The new guidance will be effective for us beginning January 1, 2020. Application of the amendments is through a cumulative-effect adjustment to retained earnings as of the effective date. We are currently evaluating the impact of adopting this guidance.

In August 2018, the FASB issued ASU No. 2018-13, Fair Value Measurement (Topic 820): Disclosure Framework—Changes to the Disclosure Requirements for Fair Value Measurement. The new guidance amends the disclosure requirements for recurring and nonrecurring fair value measurements by removing, modifying, and adding certain disclosures on fair value measurements in ASC 820. The amendments on changes in unrealized gains and losses, the range and weighted average of significant unobservable inputs used to develop Level 3 fair value measurements, and the narrative description of measurement uncertainty should be applied prospectively for only the most recent interim or annual period presented in the initial fiscal year of adoption. All other amendments should be applied retrospectively to all periods presented upon their effective date. The new guidance will be effective for us beginning January 1, 2020, with early adoption permitted. We do not plan to early adopt this ASU, and we are currently evaluating the impact of adopting this guidance.

We do not expect that any other recently issued accounting guidance will have a significant effect on our consolidated financial statements.

Subsequent Events - Social Gaming Business Initial Public Offering

On May 7, 2019, our subsidiary SciPlay Corporation (“SciPlay”) completed an initial public offering (“IPO”) of a 17.4% minority interest in our Social gaming business. SciPlay has two classes of common stock - Class A common stock, which is traded on The NASDAQ Global Select Market under the symbol “SCPL,” and Class B common stock. On all matters submitted to a vote of SciPlay stockholders, Class B common stock entitles us to ten votes per share (for so long as the number of shares of SciPlay common stock beneficially owned by us represents at least 10% of SciPlay’s outstanding shares of common stock and, thereafter, one vote per share), and SciPlay Class A common stock entitles its owners to one vote per share. We own all of the outstanding Class B common stock, which represents approximately 82.6% of SciPlay’s total outstanding shares of common stock and approximately 97.9% of the combined voting power of both classes of SciPlay’s outstanding common stock. Accordingly, we continue to control shares representing a majority of the combined voting power in SciPlay and will continue to consolidate our Social gaming business.

The corporate structure of the above transaction is commonly referred to as an “Up‑C” structure, which is often used by partnerships and limited liability companies when they undertake an initial public offering of their business. The Up‑C structure allows us to continue to realize tax benefits associated with owning interests in an entity that is treated as a partnership, or “pass-through” entity, for income tax purposes following the IPO. The Company currently maintains a full valuation allowance on its U.S. net deferred tax assets. We will continue to monitor and assess positive and negative evidence with respect to our ability to realize our deferred tax assets, and we recognize that this transaction could have an impact on the overall valuation allowance assessment, but these impacts are still being evaluated. Any taxable gain associated with the IPO transaction is expected to be fully offset by net operating loss carryforwards, resulting in a reduction of our valuation allowance by the same amount.

In connection with the SciPlay IPO we also entered into the following transactions:

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A tax receivable agreement (“TRA”), which provides for the payment by SciPlay to us of 85% of the amount of tax benefits, if any, that SciPlay actually realizes (or in some circumstances is deemed to realize) as a result of (i) increases in the tax basis of assets of SciPlay Parent Company, LLC (“SciPlay Parent LLC”) (a) in connection with the SciPlay IPO, (b) resulting from any redemptions or exchanges of membership interests of SciPlay Parent LLC pursuant to the SciPlay Parent LLC Operating Agreement or (c) resulting from certain distributions (or deemed distributions) by SciPlay Parent LLC and (ii) certain other tax benefits related to SciPlay’s making of payments under the TRA.

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An Intercompany Services Agreement, under which we provide to the Social gaming business certain corporate level general and administrative services, including but not limited to, finance, corporate development, human resources, legal (which could include liability related to litigation awards related to SciPlay), information technology and rental fees for shared assets. These expenses will be charged to the Social gaming business and settled in cash.

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An intellectual property license agreement (“IP License Agreement”), pursuant to which the Social gaming business acquired the following licenses from a restricted subsidiary of SGC for a one-time payment of $255 million: (i) an exclusive (subject to certain limited exceptions), perpetual, non-royalty bearing license to use intellectual property created or acquired by Bally Gaming, Inc. (“Bally Gaming”) or its affiliates on or before the third anniversary of the date of the IP License Agreement (the date of the IP License Agreement, the “Effective Date”), in any of the Covered Games (defined as any of SciPlay’s currently available or future social games that are developed for mobile platforms, social media platforms, internet platforms or other interactive platforms and distributed solely via digital delivery); (ii) an exclusive (subject to certain limited exceptions and payment of royalties owed to third-party licensors for SciPlay's use of third-party licensed property) license to use third-party intellectual property licensed to Bally Gaming or its affiliates on or before the third anniversary of the Effective Date, to the extent permitted to be sublicensed to the Social gaming business, in any of the Covered Games; (iii) a non-exclusive, perpetual, non-royalty bearing license to use intellectual property created or acquired by Bally Gaming or its affiliates after the third anniversary of the Effective Date, but only in the Social gaming business’ currently available games; and (iv) a non-exclusive license to use third-party intellectual property licensed to Bally Gaming or its affiliates after the third anniversary of the Effective Date, to the extent permitted to be sublicensed to the Social gaming business, but only in the Social gaming business’ currently available games.

As a result of IP License Agreement described above, our Social gaming business will no longer be required to pay to Bally Gaming future royalties and or fees for use of intellectual property owned by Bally Gaming or its affiliates for the Social gaming business’ currently available games. Accordingly, and commencing with the effectiveness of the IP License Agreement as of May 7, 2019, our Gaming business segment AEBITDA will no longer benefit from these charges, while our Social gaming business segment AEBITDA will increase proportionately. The total amount of such IP charges for the three months ended March 31, 2019 and 2018 were $7.3 million and $6.2 million, respectively, and for the years ended December 31, 2018 and 2017 were $26 million and $24 million, respectively.

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SciPlay Holding Company, LLC (“SciPlay Holding”), a subsidiary of SciPlay, entered into a $150 million revolving credit agreement (the “SciPlay Revolver”) by and among SciPlay Holding, as the borrower, SciPlay Parent LLC, as a guarantor, the subsidiary guarantors party thereto (which are all domestic entities that comprise our Social gaming business), the lenders party thereto and Bank of America, N.A., as administrative agent and collateral agent that matures in May 2024. The interest rate is either Adjusted LIBOR (as defined in the SciPlay Revolver) plus 2.250% (with one 0.250% leverage-based step-down to the margin and one 0.250% leverage-based step-up to the margin) or ABR (as defined in the SciPlay Revolver) plus 1.250% (with one 0.250% leverage-based step-down to the margin and one 0.250% leverage-based step-up to the margin) at the option of SciPlay Holding. SciPlay Holding is required to pay to the lenders a commitment fee of 0.500% per annum on the average daily unused portion of the revolving commitments through maturity, which fee varies based on the total net leverage ratio and is subject to a floor of 0.375%. The SciPlay Revolver provides for up to $15.0 million in letter of credit issuances, which requires customary issuance and administration fees, and a fronting fee of 0.125%.

The SciPlay Revolver contains covenants that, among other things, restrict SciPlay Holding’s, SciPlay Parent LLC’s and the subsidiary guarantors’ ability to incur additional indebtedness; incur liens; sell, transfer or dispose of property and assets; invest; make dividends or distributions or other restricted payments; and engage in affiliate transactions, with the exception of certain payments under the TRA and payments in respect of certain tax distributions under the SciPlay Parent LLC Operating Agreement. We currently do not expect the Social gaming business to declare or pay any cash dividends to us, other than tax distributions and certain cash distributions related to the impact of taxes pursuant to the TRA. If the Social gaming business discontinues the payment of, or is unable to pay, cash dividends to us, this will reduce our available liquidity. Furthermore, the terms of indebtedness incurred by the Social gaming business may, and the terms of the SciPlay Revolver will, limit the ability of the Social gaming business to pay dividends or make other distributions to us, or to amend the agreements between the Social gaming business and us and our other subsidiaries.

In addition, the SciPlay Revolver requires that SciPlay maintain a maximum total net leverage ratio not to exceed 2.50:1.00 and maintain a minimum fixed charge coverage ratio of no less than 4.00:1.00. The SciPlay Revolver is secured by a (i) first priority pledge of the equity securities of SciPlay Holding, SciPlay Parent LLC’s restricted subsidiaries and each subsidiary guarantor party thereto and (ii) first priority security interests in, and mortgages on, substantially all tangible and intangible personal property and material fee-owned real property of SciPlay Parent LLC, SciPlay Holding and each subsidiary guarantor party thereto, in each case, subject to customary exceptions.

The entities that comprise our Social gaming business are unrestricted subsidiaries under our debt agreements and are therefore not subject to the covenants in our debt agreements. Conversely, only the entities that are parties to the SciPlay Revolver (which are all domestic entities that comprise our Social gaming business) and their respective restricted subsidiaries are subject to the covenants in the SciPlay Revolver. As a result, this will reduce our available liquidity and limit the ability of the Social gaming business to pay dividends or make other distributions to us, or to amend the agreements between the Social gaming business and us and our other subsidiaries. In 2018, the amount of dividends declared and paid by the Social gaming business to Bally Gaming, a wholly owned subsidiary of SGC, was $77 million.

As a result of these transactions, we received net proceeds of $301 million, which enables us to make substantial payments to reduce our debt.

Subsequent Events [Text Block]

Subsequent Events - Social Gaming Business Initial Public Offering

In connection with the SciPlay IPO we also entered into the following transactions:

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As a result of these transactions, we received net proceeds of $301 million,