-----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, PBdCYfEJbt0E95CbhQZzazykcAKWsyw1Yr1QN0PtG4Zezuhg8dObRehmOKe2ktvn p31baKN3xXdHhPwjqQ9mSw== 0000889812-99-003095.txt : 19991028 0000889812-99-003095.hdr.sgml : 19991028 ACCESSION NUMBER: 0000889812-99-003095 CONFORMED SUBMISSION TYPE: 10-K PUBLIC DOCUMENT COUNT: 6 CONFORMED PERIOD OF REPORT: 19990831 FILED AS OF DATE: 19991027 FILER: COMPANY DATA: COMPANY CONFORMED NAME: ACCLAIM ENTERTAINMENT INC CENTRAL INDEX KEY: 0000804888 STANDARD INDUSTRIAL CLASSIFICATION: SERVICES-PREPACKAGED SOFTWARE [7372] IRS NUMBER: 382698904 STATE OF INCORPORATION: DE FISCAL YEAR END: 0831 FILING VALUES: FORM TYPE: 10-K SEC ACT: SEC FILE NUMBER: 000-16986 FILM NUMBER: 99735022 BUSINESS ADDRESS: STREET 1: ONE ACCLAIM PLAZA CITY: GLEN COVE STATE: NY ZIP: 11542 BUSINESS PHONE: 5166565000 MAIL ADDRESS: STREET 1: OEN ACCLAIM PALZA CITY: GLEN COVEY STATE: NY ZIP: 11542 FORMER COMPANY: FORMER CONFORMED NAME: GAMMA CAPITAL CORP DATE OF NAME CHANGE: 19880608 10-K 1 ANNUAL REPORT UNITED STATES SECURITIES AND EXCHANGE COMMISSION WASHINGTON, D.C. 20549 FORM 10-K FOR ANNUAL AND TRANSITION REPORTS PURSUANT TO SECTIONS 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 (Mark One) [X] ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 For the fiscal year ended August 31, 1999 OR [ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 For the transition period from _____to_____ Commission File Number 0-16986 ACCLAIM ENTERTAINMENT, INC. --------------------------- (Exact name of the registrant as specified in its charter) Delaware 38-2698904 -------- ---------- (State or other jurisdiction of (I.R.S. Employer Identification incorporation or organization) No.) One Acclaim Plaza, Glen Cove, New York 11542 -------------------------------------------- (Address of principal executive offices) (516) 656-5000 -------------- (Registrant's telephone number) Securities registered pursuant to Section 12(b) of the Act: None Securities registered pursuant to Section 12(g) of the Act: Common Stock, $0.02 par value ----------------------------- (Title of class) 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 __ 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 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. __ As at October 18, 1999, approximately 55,525,000 shares of Common Stock of the Registrant were issued and outstanding and the aggregate market value of voting common stock held by non-affiliates was approximately $320,000,000. The Registrant's Proxy Statement for its 2000 Annual Meeting of Stockholders is hereby incorporated by reference into Part III of this Form 10-K. ACCLAIM ENTERTAINMENT, INC. INDEX TO ANNUAL REPORT ON FORM 10-K FILED WITH THE SECURITIES AND EXCHANGE COMMISSION YEAR ENDED AUGUST 31, 1999 ITEMS IN FORM 10-K PART I Page ---- Item 1. Business 1 Item 2. Properties 19 Item 3. Legal Proceedings 20 Item 4 Submission of Matters to a Vote of Security Holders 21 PART II Item 5. Market for Registrant's Common Equity and Related Stockholder Matters 22 Item 6. Selected Financial Data 23 Item 7. Management's Discussion and Analysis of Financial Condition and Results of Operations 24 Item 7A. Quantitative and Qualitative Disclosures About Market Risk 32 Item 8. Financial Statements and Supplementary Data 33 Item 9. Changes in and Disagreements with Accountants on Accounting and Financial Disclosure 57 PART III Item 10. Directors and Executive Officers of the Registrant 57 Item 11. Executive Compensation 57 Item 12. Security Ownership of Certain Beneficial Owners and Management 57 Item 13. Certain Relationships and Related Transactions 57 PART IV Item 14. Exhibits, Financial Statement Schedules and Reports on Form 8-K 58 Signatures 61 PART I This Annual Report on Form 10-K (including Item 1 ("Business") and Item 7 ("Management's Discussion and Analysis of Financial Condition and Results of Operations")) includes discussions of future expectations and contains projections of results of operations or financial condition or other "forward-looking" information. These statements are subject to known and unknown risks and uncertainties that could cause actual results to differ materially from those contemplated by the statements. For a discussion of important factors that could cause actual results to differ materially from the forward-looking statements, see "Factors Affecting Future Performance" below. Given the significant risks and uncertainties inherent in the forward-looking statements included in this Annual Report on Form 10-K, the inclusion of these statements is not a representation by Acclaim or any other person that its objectives and plans will be achieved. Item 1. BUSINESS Introduction Acclaim Entertainment, Inc., together with its subsidiaries (referred to as "Acclaim" or the "Company"), develops, publishes, distributes and markets video and computer games for use with game consoles, both dedicated and portable, and PCs on a worldwide basis. Acclaim owns and operates five software development studios located in the U.S. and the U.K. where it develops, or creates, its own software, and a motion capture studio in the U.S. From time to time, Acclaim hires independent developers to create software for it. Acclaim publishes, or releases to the public under its brand names, software developed by it as well as by third-party developers. Acclaim distributes its software directly in North America, the U.K., Germany, France, Spain and Australia, and through independent distributors and publishers in other territories worldwide. Acclaim also distributes software developed and published by third parties and develops and publishes (1) strategy guides relating to its software and (2) comic book magazines. Acclaim's operating strategy is to develop and maintain a core of "key" brands of software titles, such as Turok, Shadow Man, South Park, NFL Quarterback Club and All Star Baseball. Acclaim focuses on developing and publishing software for the game consoles that are popular at a given time or which it believes will become popular. Substantially all of Acclaim's revenues are derived from one industry segment: the publication of interactive entertainment software. For information about the Company's foreign and domestic operations, see Note 16 of Notes to Consolidated Financial Statements. Acclaim was founded in 1987 and is a Delaware corporation. Interactive Entertainment Industry Overview The interactive entertainment software industry is driven by the size of the installed base of game consoles, such as those manufactured by Nintendo, Sony and Sega, and PCs dedicated for home use. The interactive entertainment software industry is characterized by rapid technological changes mostly due to: o the introduction of game consoles incorporating more powerful processors and operating systems; o the impact of technological changes embodied in PCs; o the development of electronic and wireless delivery systems; and o the entry and participation of new companies in the industry. These and other factors have resulted in successive introductions of increasingly advanced game consoles and PCs. As a result of the rapid technological shifts, no single game console or PC system has achieved long-term dominance in the video and computer games market. Therefore, Acclaim must continually anticipate game console cycles and its research and development group must develop programming tools and engines necessary for the development of software for emerging hardware systems. Acclaim believes that the market for the current generation of hardware systems, N64 and PlayStation, is reaching maturity. Sega introduced its next generation system, Dreamcast, in Japan in the fall of 1998 and in the U.S. and Europe in the fall of 1999. Both Sony and Nintendo have announced plans to introduce a next generation system; Sony's new system is anticipated to ship in Japan in the winter of 2000. See "Factors Affecting Future Performance - Industry Trends, Platform Transitions and Technological Change May Adversely Affect the Company's Revenues and Profitability." The rapid technological advances in game consoles have significantly changed the look and feel of software as well as the software development process. Currently, the process of developing software is extremely complex and Acclaim expects it to become more complex and expensive in the future as more powerful and complex hardware is introduced. See "Factors Affecting Future Performance - Fluctuations in Quarterly Operating Results Lead to Unpredictability of Revenues and Income." The competition for shelf space in Acclaim's primary retail outlets is intense because of the number of titles available in the market. Retailers prefer to deal with companies that have track records of producing successful titles, have a broad product line, support the introduction of their titles with effective marketing campaigns, and have a long history with the retailer. The following tables show Acclaim's estimates, based on information received from hardware manufacturers, retailers and industry analysts, in respect of (1) the cumulative installed base of the identified game consoles and (2) annual related software sales, in the territories and periods indicated: Consoles [BAR GRAPH]
Playstation N64 Dreamcast North Playstation Playstation North N64 N64 North Dreamcast Dreamcast Year America Europe Japan America Europe Japan America Europe Japan 1996 2.1 1.8 3.3 1.9 2.3 2 -- -- -- 1997 8.0 6.6 10.6 6.8 2.8 3.1 -- -- -- 1998 15.2 14.2 13.6 10.9 5.1 3.8 -- -- 0.3 1999 Estimated 22.7 20.0 15.9 15.4 6.6 5.3 1.0 0.6 2.0
2 Software [BAR GRAPH]
Playstation N64 Dreamcast North Playstation Playstation North N64 N64 North Dreamcast Dreamcast Year America Europe Japan America Europe Japan America Europe Japan 1996 10.1 9 26 3.5 -- 5 -- -- -- 1997 26.9 15.6 54 18.2 5.1 7.5 -- -- -- 1998 54.2 40.0 50 27.6 9.4 6.0 -- -- 0.7 1999 Estimated 73.2 51.1 45 30.4 11.9 10.0 4 2.4 12
Software Development Acclaim invests in the creation and development of programming tools and engines that are used in the design and development of its software. The Company believes that these tools and engines give it a competitive advantage in the creation of state-of-the-art software. The Company develops a substantial percentage of its software in its own studios. Approximately 82% of the Company's gross revenues in fiscal 1999 were derived from software developed in its studios. The Company anticipates that it will continue to rely substantially on its studios for the development of its software. Acclaim believes that internal software development allows it to control better the creative process, product quality, timing of release and cost of software. Acclaim's software development strategy is driven by: o the long-term anticipated success of the hardware systems in the market place; o the number of publishers supporting each system; o the royalty, if any, imposed by the hardware manufacturers for software developed for each manufacturer's operating system; o consumer preferences; o the cost and time to duplicate software for a particular hardware system; and o the gross margins anticipated for each type of software. The Company develops and sells software for game consoles, both dedicated and portable, and PCs. Currently, Acclaim is focused on developing software for: o Nintendo's N64; o Nintendo's Dolphin; o Nintendo's portable GameBoy Color; 3 o Nintendo's portable GameBoy Color Advanced; o Sony's PlayStation; o Sony's PlayStation 2; o Sega's Dreamcast; and o PCs. The development time for Acclaim software for both dedicated game consoles and PCs is currently between 12 and 24 months and the average development cost for a title is between $1 and $3 million. The development time for Acclaim's software for portable systems is currently between six and nine months and the average development cost for a title is between $50,000 and $200,000. The cost of manufacturing cartridge software is significantly higher than CD software, resulting generally in better margins for CD software. Nintendo's N64 and the portable systems (Game Boy Color and Game Boy Color Advanced) are the only cartridge-based systems in the market. See "Management's Discussion and Analysis of Financial Condition and Results of Operations." The Company's product development methods and organization are modeled on those used in the software industry. Product managers employed by Acclaim oversee and are responsible for development of Acclaim's software in its studios. The product managers direct teams of individuals who are responsible for the creation of Acclaim's software, such as the programming, graphics, animation, sound and game play of each title. Producers are hired by the Company to manage software developed outside Acclaim's development studios. They manage and monitor the delivery schedule and budget for each title, ensure that the title follows the approved product specifications, act as facilitators with licensors whose trademarks or brands may be incorporated in the title, if necessary, and coordinate testing and final approval of the title. The Company checks software developed both by its studios and third-party developers prior to manufacture for defects. The software developed for the game consoles are also tested by the hardware manufacturers for defects. The Company's software for PCs is tested for defects both internally and by independent testing organizations. To date, the Company has not had to recall any software due to defects. Products Acclaim's operating strategy is to develop and maintain a core of "key" software brands. The Company supports this strategy through the regularly scheduled introduction of new titles featuring those brands. Acclaim intends to develop one or more additional key brands each year based on licensed or original properties which may then be featured on an annual basis in successive titles. Acclaim's console titles are primarily sports simulation and arcade-style performance games, and its PC titles are primarily arcade-style performance games, real-time simulation, adventure and sports simulation games. The Company constantly seeks new sources of brands from which to develop software and has historically obtained these rights from a variety of sources in the comic book publishing (for example, Shadow Man and Turok: Dinosaur Hunter), sports (for example, NFL Quarterback Club and NBA Jam), arcade (for example, NBA Jam Extreme), film (for example, Batman and Robin), television (for example, South Park) and other areas of the entertainment industry. Some of the contractual agreements granting the Company rights to use these brands are restricted to individual properties, and some agreements cover a series of properties or grant rights to create software based on or featuring particular brands over a period of time. The Company's license for the WWF properties expires in November 1999 and will not be renewed. See " -Intellectual Property Licenses," "Factors Affecting Future Performance - Inability to Procure Commercially Valuable Intellectual Property Licenses May Prevent Product Releases or Result in Reduced Product Sales" and Note 2 of Notes to Consolidated Financial Statements below. The life cycle of a new title is largely dependent on its initial success and generally ranges from less than three months to upwards of 12 months, with the majority of sales occurring in the first 30 to 120 days 4 after release. Therefore, Acclaim is constantly required to introduce new titles in order to generate revenues and/or to replace declining revenues from older titles. In fiscal 1999, the Company released 35 titles for N64, PlayStation, GameBoy, Sega Dreamcast and PCs. In fiscal 2000, the Company currently plans to release between 40 and 50 titles for N64, PlayStation, GameBoy, Dreamcast and PCs. See "Factors Affecting Future Performance - Acclaim's Future Success Is Dependent on its Ability to Release "Hit" Titles." Platform License Agreements The Company has various license agreements with Nintendo, pursuant to which it has the non-exclusive right to utilize the "Nintendo" name and its proprietary information and technology in order to develop and market software titles for various Nintendo game consoles in various territories throughout the world. The Company pays Nintendo a fixed amount per unit, based in part, on memory capacity and chip configuration. This amount includes the cost of manufacturing, printing and packaging of the unit, as well as a royalty for the use of Nintendo's name, proprietary information and technology. All these fees and charges are subject to adjustment by Nintendo at its discretion. Acclaim's agreements with Nintendo for the N64 platform expire at various times through 2001. The Company is party to agreements with Sony, pursuant to which it has a non-exclusive license to develop and distribute software for the PlayStation in North America, Japan and Europe. The Company pays Sony a royalty fee and the cost of manufacturing each unit manufactured by Sony for the Company; this payment is made upon manufacture of the units. Acclaim's agreements with Sony for the PlayStation platform expire in 2002. The Company is party to an agreement with Sega, pursuant to which it has a non-exclusive license to design, develop and distribute software for Sega's Dreamcast worldwide for so long as Sega manufactures, sells, markets and distributes the Dreamcast game console. The Company pays Sega a royalty fee for each unit of Sega software replicated for the Company. See "-- Production, Sales and Distribution." The Company does not have the right to manufacture any software for the PlayStation or N64 platforms and has the right to manufacture, through subcontractors pre-approved by Sega, its software for the Dreamcast game console. See "Factors Affecting Future Performance - If the Company Is Unable to Obtain or Renew Licenses from Hardware Developers, It Will Not be Able to Release Software for Game Consoles." Nintendo, Sony and Sega have the right to review and evaluate, under standards which vary for each hardware manufacturer, the content and playability of each title and the right to inspect and evaluate all art work, packaging and promotional materials used by the Company in connection with the software. To date, all of the Company's titles have been approved for publication by the respective hardware manufacturers. The Company is responsible for resolving at its own expense any warranty or repair claims brought with respect to the software. To date, the Company has not experienced any material warranty claims. Under each of its console license agreements, the Company bears the risk that the information and technology licensed from Nintendo, Sony or Sega and incorporated in the software may infringe the rights of third parties. Further, the Company must indemnify Nintendo, Sony or Sega with respect to, among other things, any claims for copyright or trademark infringement brought against Nintendo, Sony or Sega and arising from the development and distribution of the game programs incorporated in the software by the Company. To date, the Company has not received any material claims of infringement. See " - Patent, Trademark, Copyright and Product Protection." 5 Marketing and Advertising The Company actively markets its current releases, while simultaneously supporting its back catalog with pricing and sales incentives. The target consumers for the Company's game console titles are primarily males aged 12 to 24 and, for PC titles, are primarily males aged 15 to 34. In developing a marketing strategy for a title, the Company seeks story concepts and brands or franchises that it believes will appeal to the imagination of its target consumer. The Company creates marketing campaigns consistent with the target consumer for each title. The Company markets its software through: o television, radio, print and Internet advertising; o its Internet site (www.acclaim.com) and the Internet sites of others; o product sampling through demonstration software distributed on the Internet; o consumer contests and promotions; o publicity activities; and o trade shows. In addition, the Company enters into cooperative advertising arrangements with certain of its customers, pursuant to which the Company's software is featured in the retail customer's own advertisements to its customers. Dealer displays and in-store merchandising are also used to increase consumer awareness of the Company's software. The Company's ability to promote and market its software is important to its success. The Company's operating strategy is to develop and maintain a core of key brands of software titles such as Turok, Shadow Man, Forsaken and South Park. In addition, Acclaim has placed particular emphasis on the Acclaim Sports brand, introducing titles such as Quarterback Club, NBA Jam and All Star Baseball under that brand. By creating key brands, the Company is able to take advantage of cross-merchandising opportunities, to maximize its investment in tools and engines that were created for the original title and to capitalize on the name recognition of the brand or franchise in subsequent releases. Production, Sales and Distribution Pursuant to Acclaim's agreements with Nintendo and Sony, each hardware manufacturer manufactures software developed by the Company for its dedicated or portable game consoles. Nintendo requires the Company to open a letter of credit simultaneously with placing a purchase order for software. Goods are delivered to Acclaim 30 to 50 days after order placement. Initial orders for Sony titles are delivered within 10 to 21 days after the placement of a purchase order. Reorders for Sony software generally take 10 to 14 days. Pursuant to Acclaim's agreement with Sega, Acclaim is required to use a replicator pre-approved by Sega to manufacture Acclaim's software for Sega's Dreamcast platform. Initial orders for Sega titles are delivered approximately three weeks after order placement. See "Factors Affecting Future Performance - If the Company Is Unable to Obtain or Renew Licenses from Hardware Developers, It Will Not be Able to Release Software for Game Consoles". The Company manufactures through subcontractors all of its software for PCs. Orders for PC software are generally filled within 10 to 21 days after order placement. Reorders for such software are generally filled within 10 days. The Company believes that the most efficient way to distribute its software is by tailoring its distribution method to each geographic market. In North America, the Company's software is sold directly by the Company's sales force, complemented by regional sales representative organizations which receive commissions based on the net sales of each product sold. The Company maintains an in-house sales management team to supervise the sales representatives. The sales representatives also act as sales representatives for some of the Company's competitors. One of the sales representative organizations marketing the 6 Company's software is owned by James Scoroposki, an officer, director and stockholder of the Company. See "Certain Relationships and Related Transactions." The Company sells its software domestically primarily to mass merchants, large retail toy store chains, department stores and specialty stores. The Company's key domestic retail customers include Toys R Us, Walmart and K-Mart. Sales to Toys R Us accounted for approximately 12%, 15% and 11% of the Company's net revenues for the years ended August 31, 1997, 1998 and 1999, respectively. Sales to Walmart accounted for approximately 14% of the Company's net revenues for the year ended August 31, 1999. The Company's customers are not obligated to purchase the Company's software. The loss of any important customer could have a material adverse effect on the Company. To maximize revenues and profits, the Company distributes directly (through subsidiaries) in the U.K., Germany, France, Spain and Australia. The sales, marketing, and distribution activities of Acclaim's European subsidiaries are administered through a central management division, Acclaim Europe, based in London. For sales in other markets, the Company appoints regional distributors. The Company is generally not contractually obligated to accept returns, except for defective product. However, in order to maintain retail relationships, the Company may permit its customers to return or exchange product and may provide price protection or other concessions on products unsold by a customer. As the market for each generation of game consoles matures and as more titles become available, the risk of product returns and price concessions increases. The Company establishes reserves for these concessions; however, concessions materially exceeded reserves in fiscal 1996 and Acclaim cannot assure its stockholders that concessions will not exceed the established reserves in the future. See "Factors Affecting Future Performance - If Product Returns, Price Protection and Concessions Exceed Reserves, the Company May Incur Losses". The Company's warranty policy is to provide the original purchaser with replacement or repair of defective software for a period of 90 days after sale. To date, the Company has not experienced significant warranty claims. Intellectual Property Licenses Some of the Company's titles relate to or are based on brands or franchises licensed from third parties, such as the NBA and the NFL, and their respective players' associations, and South Park. Typically, the Company is obligated to make certain minimum guaranteed royalty payments over the term of the license and to advance payments against these guarantees, which payments can be recouped by the Company against royalty payments otherwise due in respect of future sales. License agreements relating to these rights generally extend for a term of two to three years. The agreements are terminable upon the occurrence of a number of factors, including Acclaim's: o material breach of the agreement; o failure to pay amounts due to the licensor in a timely manner; or o bankruptcy or insolvency. Some licenses are limited to specific territories or game consoles. Each license typically provides that the licensor retains the right to exploit the licensed property for all other purposes, including the right to license the property for use with other products and, in some cases, software for other game consoles. See "Factors Affecting Future Performance - Inability to Procure Commercially Valuable Intellectual Property Licenses May Prevent Product Releases or Result in Reduced Product Sales." 7 Patent, Trademark, Copyright and Product Protection Each of Nintendo, Sony and Sega incorporates a security device in the software and their respective hardware systems in order to prevent unlicensed software from infringing Nintendo's, Sony's or Sega's proprietary rights by manufacturing software compatible with their hardware. Under its various license agreements with Nintendo, Sony and Sega, the Company is obligated to obtain or license any available trademark, copyright and patent protection for the original work developed by the Company and embodied in or used with the software and to display the proper notice thereof, as well as notice of the licensor's intellectual property rights, on all its software. Each title may embody a number of separately protected intellectual properties: (1) the trademark for the brand featured in the software; (2) the software copyright; (3) the name and label trademarks; and (4) the copyright for Nintendo's, Sony's or Sega's proprietary technical information. The Company has registered the "Acclaim" logo and name in the U.S. and in certain foreign territories and owns the copyrights for many of its game programs. "Nintendo," "Game Boy" and "N64" are trademarks of Nintendo; "Sega," "Saturn" and "Dreamcast" are trademarks of Sega; and "Sony," "Sony Computer Entertainment" and "PlayStation" are trademarks of Sony. The Company does not own the trademarks, copyrights or patents covering the proprietary information and technology utilized in the game consoles marketed by Nintendo, Sony or Sega or, to the extent licensed from third parties, the brands, concepts and game programs featured in and comprising the Company's software. Accordingly, the Company must rely on the trademarks, copyrights and patents of these third-party licensors for protection of such intellectual property from infringement. Under the Company's license agreements with certain independent software developers, the Company may bear the risk of claims of infringement brought by third parties and arising from the sale of software. Each of the Company and such developer has agreed to indemnify the other for costs and damages incurred arising from such claims and attributable to infringing proprietary information, if any, embodied in the software and provided by the indemnitor. Competition The video, computer and portable games market is highly competitive. Acclaim's chief competitors are the developers of game consoles, to whom Acclaim pays royalties and/or manufacturing charges, such as Nintendo, Sega and Sony, as well as a number of independent software publishers. The availability of significant financial resources has become a major competitive factor in the interactive entertainment software industry, primarily as a result of the costs associated with development and marketing of software. The Company's competitors for game console software vary in size from very small companies with limited resources to very large corporations with greater financial, marketing and product development resources than the Company. The Company believes that it is one of the largest independent publishers of software for game consoles in the U.S. Data derived from the Toy Retail Sales Tracking Service indicates that, for the first nine months of calendar 1999 and the fourth quarter of fiscal 1999, the Company achieved a combined N64 and PlayStation market share of 7% and 8%, respectively. Based on TRSTS data, the Company's N64 market share for the first nine months of calendar 1999 and the fourth quarter of fiscal 1999 was 11% and 6%, respectively. Based on TRSTS data, the Company's PlayStation market share for the first nine months of calendar 1999 and the fourth quarter of fiscal 1999 was 5% and 9%, respectively. Acclaim cannot assure its stockholders that it will be able to maintain its share of the N64 or PlayStation market. The market for software for PCs is fragmented and the Company believes that it has a small share of that market. Competition in the interactive entertainment software industry is based primarily upon: o the quality of titles; 8 o reviews received for a title from independent reviewers who publish reviews in magazines, websites, newspapers and other industry publications; o publisher's access to retail shelf space; o the success of the game console for which the title is written; o the price of each title; o the number of titles then available for the system for which each title is published; and o the marketing campaign supporting a title at launch and through its life. The Company relies upon its product quality, marketing and sales abilities, proprietary technology and product development capability, capital resources, the depth of its worldwide retail distribution channels and management experience to compete in the interactive entertainment industry. Acclaim cannot assure its stockholders that it will compete successfully on any of these factors. See "Factors Affecting Future Performance - If The Company Does Not Compete Successfully, Demand for Its Products May be Reduced." Distribution of Software Developed by Third-Party Publishers The Company commenced the marketing and distribution of software developed by third-party publishers in October 1994. From time to time, the Company enters into selected licensing agreements with third-party publishers to distribute, in selected markets, software developed by them. Software developed by third-party publishers is marketed under the name of the original publisher. Sales of software developed by third-party publishers are included in the Company's revenues and the Company assumes the associated credit risk. The Company retains a distribution fee (based on net receipts less certain other deductions) and remits the balance to the original publisher. In fiscal 1997, the Company derived approximately 9% of gross revenues from sales of software developed by Interplay Productions. To date, the Company has not received significant revenues from sales of any other software developed by third-party publishers. Comic Book and Other Publishing Through the acquisition of Acclaim Comics in July 1994, the Company commenced the development and publication of comic book magazines. Acclaim Comics also publishes strategy guides relating to the Company's software. Acclaim Comics receives intercompany royalties from Acclaim for the use in the Company's software of properties licensed or created by Acclaim Comics, such as Turok: Dinosaur Hunter, Shadow Man and Armorines. Excluding the sale of Acclaim's software utilizing properties licensed from Acclaim Comics, through fiscal 1999, the Company has not derived significant revenues from the sale of Acclaim Comics products. The Company intends to continue to release software for a variety of platforms based on characters licensed or created by Acclaim Comics. Acclaim Comics' future revenues, if any, will primarily depend on: (1) the licensing and merchandising of its characters in interactive entertainment and other media, such as motion picture or television, (2) the use of its characters in the Company's software and (3) the publication and sale of software strategy guides. Due to Acclaim Comics' operating losses through May 1997, the Company's assessment of the then current state of the comic book industry and the Company's then current projections for Acclaim Comics' operations, the Company believed that there was an impairment to the carrying value of the goodwill relating to the acquisition of Acclaim Comics. Accordingly, the Company recorded a write-down of $25.2 million in the third quarter of fiscal 1997 to reduce the carrying value of the goodwill associated with Acclaim Comics to its estimated undiscounted future cash flows. 9 Employees The Company currently employs approximately 900 persons worldwide, approximately 775 of whom are employed on a full-time basis and approximately 600 of whom are employed in the U.S. The Company believes that its relationship with its employees is satisfactory. 10 EXECUTIVE OFFICERS OF THE COMPANY The following table sets forth certain information concerning the Company's executive officers:
Name Position and Principal Occupation Age - ---- --------------------------------- --- Gregory E. Fischbach Co-Chairman of the Board, President and Chief 57 Executive Officer of the Company James Scoroposki Co-Chairman of the Board, Senior Executive Vice 51 President, Secretary and Treasurer of the Company Rodney Cousens President and Chief Operating Officer - International 48 of Acclaim Europe Paul Eibeler Vice President and General Manager 44 William G. Sorenson Executive Vice President and Chief Financial Officer 44
Gregory E. Fischbach, a founder of the Company, has been Chief Executive Officer of the Company since its formation, a member of the Board of Directors since 1987 and Co-Chairman of the Board of Directors since March 1989. Mr. Fischbach was also President of the Company from its formation to January 1990 and has been President of the Company since October 1996. From June 1986 until January 1987, he was President of RCA/Ariola International, responsible for the management of its record operations outside the U.S. and in charge of its 17 operating subsidiaries. James Scoroposki, a founder of the Company, has been Senior Executive Vice President since December 1993, a member of the Board of Directors since 1987, Co-Chairman of the Board of Directors since March 1989 and Secretary and Treasurer of the Company since its formation. Mr. Scoroposki was also Chief Financial Officer of the Company from April 1988 to May 1990, Executive Vice President of the Company from formation to November 1993 and acting Chief Financial Officer from November 1997 to August 1999. Since December 1979, he has also been the President and sole shareholder of Jaymar Marketing Inc., a sales representative organization. See "Certain Relationships and Related Transactions." Rodney Cousens became an executive officer of the Company in August 1998. Mr. Cousens has been President and Chief Operating Officer - International of Acclaim Europe, a division of the Company, since October 1996. From June 1994 to October 1996, Mr. Cousens was President of Acclaim Europe, and from March 1991 to June 1994, he was Vice President of Acclaim Europe. Paul Eibeler became an executive officer of the Company in August 1998. Mr. Eibeler has been Vice President and General Manager of the Company since July 1997. From January 1994 to July 1997, Mr. Eibeler was Vice President of Impact, Inc., and from June 1991 to January 1994, he was Vice President and a partner of Impact International, each a marketer of licensed toy and school supplies. William G. Sorenson became an executive officer of the Company in August 1999 when he joined the Company as Executive Vice President and Chief Financial Officer. Prior to such time, Mr. Sorenson was Senior Vice President of Finance at The News Corporation Limited, responsible for matters relating to financing the Company's operations in both public and private markets. From 1982 to 1989, Mr. Sorenson held executive positions at Citibank and Bank of Boston. 11 FACTORS AFFECTING FUTURE PERFORMANCE The Company's future operating results depend upon many factors and are subject to various risks and uncertainties. The known material risks and uncertainties which may cause the Company's operating results to vary from anticipated results or which may negatively affect its operating results and profitability are as follows: Revenues Are Dependent on Timely Introduction of New Titles The life cycle of a new title generally ranges from less than three months to upwards of 12 months, with the majority of sales occurring in the first 30 to 120 days after release. Therefore, the Company is constantly required to introduce new titles in order to generate revenues and/or to replace declining revenues from older titles. In the past, the Company has experienced delays in the introduction of new titles, which has had a negative impact on its results of operations. If the Company does not introduce titles in accordance with its operating plans for a period, its results of operations and profitability in that period could be negatively affected. The timely shipment of a new title depends on various factors including: o the development process; o bug testing; o approval by hardware licensors; and o approval by third-party licensors. It is likely that some of the Company's titles will not be released in accordance with the Company's operating plans. A significant delay in the introduction of one or more new titles could negatively affect sales and have a negative impact on the Company's financial condition and results of operations. The Company cannot assure stockholders that its new titles will be released in a timely fashion. Factors such as competition for access to retail shelf space, consumer preferences and seasonality could result in the shortening of the life cycle for older titles and increase the importance of the Company's ability to release new titles on a timely basis. Industry Trends, Platform Transitions and Technological Change May Adversely Affect The Company's Revenues and Profitability The life cycle of existing game consoles and the market acceptance and popularity of new game consoles significantly affects the success of the Company's products. The Company cannot guarantee that it will be able to predict accurately the life cycle or popularity of each game console. If the Company: o does not develop software for game consoles that achieve significant market acceptance; o discontinues development of software for a game console that has a longer-than-expected life cycle; o develops software for a game console that does not achieve a significant installed base; or o continues development of software for a game console that has a shorter-than-expected life cycle, it may experience losses from operations, as it did in fiscal 1996 and 1997. In addition, the cyclical nature of the video and computer games industry requires the Company continually to adapt its software development efforts to emerging hardware systems. Acclaim believes that the market for the current generation of hardware systems, N64 and PlayStation, is reaching maturity. Sega has introduced its next generation system, Dreamcast, and both Sony and Nintendo have announced plans to introduce a next generation system. The Company cannot guarantee that it will be successful in developing and publishing software for new hardware systems. 12 The Company's Future Success Is Dependent on Its Ability to Release "Hit" Titles The market for software is "hits" driven. Therefore, the Company's future success depends on developing, publishing and distributing "hit" titles for game consoles with significant installed bases. If the Company does not publish "hit" titles in the future, its financial condition, results of operations and profitability could be negatively affected, as they were in fiscal 1996 and 1997. However, it is difficult to predict consumer preferences for titles, and few titles achieve sustained market acceptance. Sales of the Company's then top title accounted for approximately 33% of gross revenues in fiscal 1997. Sales of the Company's then top four titles accounted for approximately 53% and 55% of gross revenues in fiscal 1998 and 1999, respectively. The Company cannot assure stockholders that it will be able to publish "hit" titles in the future. If Product Returns, Price Protection and Concessions Exceed Reserves, the Company May Incur Losses The Company is not contractually obligated to accept returns except for defective product. However, the Company may permit customers to return or exchange products and may provide price protection or concessions on products unsold by the customer. If the Company's reserves for returns, exchanges and price protection and concessions are exceeded, its financial condition and results of operations will be negatively impacted, as they were in fiscal 1996. Management makes significant estimates and assumptions regarding allowances for estimated product returns, price protection and concessions in preparing the Company's financial statements. The Company establishes reserves taking into account the potential for product returns, price protection and concessions based primarily on: o market acceptance of products in retail inventories; o level of retail inventories; o seasonality; and o historical return and price concession rates. The Company believes that, at August 31, 1999, its reserves for future returns, exchanges and price protection and concessions are adequate. However, the Company cannot guarantee the adequacy of its current or future reserves. If the Company Is Unable to Obtain or Renew Licenses from Hardware Developers, It Will Not be Able to Release Software for Game Consoles The Company is substantially dependent on each hardware developer: o as the sole licensor of the specifications needed to develop software for its game consoles; o as the sole manufacturer (as to Nintendo and Sony software) of the software developed by the Company for its game consoles; o to protect the intellectual property rights to its game consoles and technology; and o to discourage unauthorized persons from producing software for its game consoles. Substantially all of the Company's revenues have historically been derived from sales of software for game consoles. In fiscal years 1997, 1998 and 1999, the Company derived: o approximately 41%, 60% and 64%, respectively, of gross revenues from the sale of Nintendo-compatible software; o approximately 28%, 30% and 27%, respectively, of gross revenues from the sale of Sony PlayStation software; and o approximately 15%, 10% and 8%, respectively, of gross revenues from the sale of PC software. 13 If the Company cannot obtain licenses to develop software from developers of new game consoles or if any of its existing license agreements are terminated, the Company will not be able to release software for game consoles, which would have a negative impact on its results of operations and profitability. The Company cannot assure stockholders that, at the end of their current terms, it will be able to obtain extensions or that it will be successful in negotiating definitive license agreements with developers of new game consoles. The Company's revenue growth may also be dependent on the hardware developers. In the past, some of the Company's license agreements have limited the number of titles it could release in a given period. This limitation restricted the Company's sales growth, revenues and profitability. If new license agreements contain similar limitations, the Company's revenues and profitability will be negatively impacted. Increased Product Development Costs May Adversely Affect Profitability The Company's research and development expenses were $41.7 million (approximately 25% of net revenues) for the fiscal year ended August 31, 1997, $37.4 million (approximately 11% of net revenues) for fiscal year ended August 31, 1998 and increased to $50.5 million (approximately 12% of net revenues) for fiscal year ended August 31, 1999. The Company anticipates that its future research and development expenses will continue to increase. This increase is due to the planned release of a higher number of titles and increasing software development costs. If these expenses are not carefully monitored and capped, the Company's profitability will be negatively impacted. Inability to Procure Commercially Valuable Intellectual Property Licenses May Prevent Product Releases or Result in Reduced Product Sales The Company's titles often embody trademarks, tradenames, logos or copyrights licensed to it by third parties, such as the NBA, the NFL or their respective players' associations, and South Park. The Company may not be successful in acquiring or renewing licenses to property rights with significant commercial value. The loss of one or more of these licenses could prevent the Company's release of a title or limit its economic success. For example, the Company's license for the WWF properties expires in November 1999 and will not be renewed. Sales of titles using WWF properties aggregrated 29% of gross revenues in fiscal 1999. In addition, the Company cannot assure stockholders that these licenses will be available on reasonable terms or at all. License agreements relating to these rights generally extend for a term of two to three years. The agreements are terminable upon the occurrence of a number of factors, including the Company's: o material breach of the agreement; o failure to pay amounts due to the licensor in a timely manner; or o bankruptcy or insolvency. If The Company Does Not Compete Successfully, Demand for Its Products May be Reduced The video, computer and portable games market is highly competitive. Only a small percentage of titles introduced in the market achieve any degree of sustained market acceptance. If the Company's titles are not successful, its operations and profitability will be negatively impacted. The Company cannot guarantee that its titles will compete successfully. Competition in the interactive entertainment software industry is based primarily upon: o the quality of titles; o reviews received for a title from independent reviewers who publish reviews in magazines, websites, newspapers and other industry publications; o publisher's access to retail shelf space; 14 o the success of the game console for which the title is written; o the price of each title; o the number of titles then available for the system for which each title is published; and o the marketing campaign supporting a title at launch and through its life. The Company's chief competitors are the developers of game consoles, to whom the Company pays royalties and/or manufacturing charges, as well as a number of independent software publishers. The hardware developers have a price, marketing and distribution advantage with respect to software marketed by them. The Company's competitors vary in size from very small companies with limited resources to very large corporations with greater financial, marketing and product development resources than the Company, such as Nintendo, Sega and Sony. The Company's competitors also include a number of independent software publishers licensed by the hardware developers. As each hardware cycle matures, significant price competition and reduced profit margins may result. In addition, competition from new technologies may reduce demand in markets in which the Company has traditionally competed. If there is prolonged price competition or reduced demand as a result of competing technologies, the Company's operations and liquidity could be negatively impacted. Revenues Vary Due to the Seasonal Nature of Video and Computer Games Software Purchases The video, computer and portable games industry is highly seasonal. Typically, net revenues are highest in the last calendar quarter, decline in the first calendar quarter, are lower in the second calendar quarter and increase in the third calendar quarter. The seasonal pattern is due primarily to the increased demand for software during the year-end holiday selling season and the reduced demand for software during the summer months. However, the Company's earnings vary significantly and are materially affected by releases of "hit" titles and, accordingly, may not necessarily reflect the seasonal patterns of the industry as a whole. The Company expects that operating results will continue to fluctuate significantly in the future. See "-- Fluctuations in Quarterly Operating Results Lead to Unpredictability of Revenues and Income" below. Fluctuations in Quarterly Operating Results Lead to Unpredictability of Revenues and Income The timing of release of new titles can cause material quarterly revenues and earnings fluctuations. A significant portion of revenues in any quarter is often derived from sales of new titles introduced in that quarter or in the immediately preceding quarter. If the Company is unable to begin volume shipments of a significant new title during the scheduled quarter, its revenues and earnings will be negatively affected in that quarter. In addition, because a majority of the unit sales for a title typically occur in the first 30 to 120 days following its introduction, earnings may increase significantly in a period in which a major title is introduced and may decline in the following period or in periods in which there are no major title introductions. Quarterly operating results also may be materially impacted by factors including: (1) the level of market acceptance or demand for titles and (2) the level of development and/or promotion expenses for a title. Consequently, if net revenues in a period are below expectations, the Company's net income and financial position in that period are likely to be affected negatively. If Cash Flows from Operations Are Not Sufficient to Meet The Company's Needs, It May be Forced to Sell Assets, Refinance Debt or Downsize Operations The Company generally experienced negative cash flows from operations in fiscal 1996 and 1997. As a result, in those years, the Company sold assets, refinanced debt and downsized operations. Insufficient liquidity in the future may require the Company to take similar actions. The Company believes that its cash flows from operations in fiscal 2000 will be sufficient to cover its operating expenses and the current obligations it must pay in fiscal 2000. This belief is based on: 15 o the anticipated success of the Company's titles; and o the resulting continued growth of the Company's net revenues. See " -- Industry Trends, Platform Transitions and Technological Change May Adversely Affect The Company's Revenues and Profitability" above. However, the Company cannot assure investors that its operating expenses and current obligations will be significantly less than the cash flows available in fiscal 2000 or thereafter. Ability to Service Debt and Prior Rights of Creditors May Adversely Affect Holders of Common Stock The Company believes that its cash flows from operations in fiscal 2000 will be sufficient to make all interest and principal payments on a timely basis. However, if the Company's cash flow from operations in fiscal 2000 or beyond is insufficient to make interest and principal payments when due, the Company may have to restructure its indebtedness. The Company cannot guarantee that it will be able to restructure or refinance its debt on satisfactory terms. In addition, restructuring or refinancing may not be permitted by the terms of the Company's existing indebtedness. The Company cannot assure investors that its future operating cash flows will be sufficient to meet its debt service requirements or to repay its indebtedness at maturity. If Acclaim violates the financial or other covenants contained in its bank agreements or in the indenture governing its outstanding convertible notes, it will be in default under its loan agreements and/or the indenture. If a default occurs and is not waived by the lender, the lender could seek remedies against the Company, including: o penalty rates of interest; o immediate repayment of the debt; and/or o the foreclosure on any assets securing the debt. The Company expects to comply with its covenants but cannot guarantee that it will be able to do so. In addition, factors beyond the Company's control may result in future covenant defaults or a payment default. The Company may not be able to obtain waivers of any future default. If the Company becomes insolvent, is liquidated or reorganized, after payment to the creditors, there may be insufficient assets remaining for a distribution to stockholders. In order to meet its debt service obligations, from time to time Acclaim also depends on dividends, advances and transfers of funds from its subsidiaries. State and foreign law regulate the payment of dividends by these subsidiaries, which is also subject to the terms of existing bank agreements and the indenture governing its outstanding convertible notes. A significant portion of the Company's assets, operations, trade payables and indebtedness is located at these subsidiaries. The creditors of the subsidiaries would generally recover from these assets on the obligations owed to them by the subsidiaries before any recovery by Acclaim's creditors and before any assets are distributed to stockholders. Prevalence of Illegal Copying of Software Could Adversely Affect Sales In order to protect its software and proprietary rights, the Company relies mainly on a combination of: o copyrights; o trade secret laws; o patent and trademark laws; and o nondisclosure agreements. However, existing U.S. and international laws afford only limited protection. An unauthorized person may be able to copy the Company's software or otherwise obtain and use its proprietary information. If a significant amount of illegal copying of software published or distributed by the Company occurs, its 16 product sales could be adversely impacted. Policing illegal use of software is extremely difficult, and software piracy is expected to persist. In addition, the laws of some foreign countries in which the Company's software is distributed do not protect the Company and its intellectual property rights to the same extent as the laws of the U.S. The Company cannot guarantee that its attempts to protect its proprietary rights will be adequate. Infringement Could Lead to Costly Litigation and/or the Need to Enter into License Agreements, Which May Result in Increased Operating Expenses Existing or future infringement claims by or against the Company may result in costly litigation or require the Company to license the proprietary rights of third parties, which could have a negative impact on the Company's results of operations, liquidity and profitability. The Company believes that its proprietary rights do not infringe on the proprietary rights of others. However, as the number of titles in the industry increases, the Company believes that claims and lawsuits with respect to software infringement will also increase. From time to time, third parties have asserted that some of the Company's titles infringed upon their intellectual property rights. The Company has also asserted that third parties have likewise infringed its proprietary rights. These infringement claims have sometimes resulted in litigation by and against the Company. To date, none of these claims has negatively impacted the Company's ability to develop, publish or distribute its software. The Company cannot guarantee that future infringement claims will not occur or that they will not negatively impact its ability to develop, publish or distribute its software. Factors Specific to International Sales May Result in Reduced Revenues and/or Increased Costs International sales have historically represented material portions of the Company's revenues and the Company expects that international sales will continue to account for a significant portion of its revenues in future periods. Sales in foreign countries may involve expenses incurred to customize titles to comply with local laws. In addition, titles that are successful in the domestic market may not be successful in foreign markets due to different consumer preferences. International sales are also subject to fluctuating exchange rates and may be affected by the recent adoption of a single currency in much of Europe. See " -- Pricing and Marketing Strategies in Europe May be Negatively Impacted by the Euro Conversion" below. These and other factors specific to international sales may result in reduced revenues and/or increased costs. Loss of Key Employees May Negatively Impact The Company's Success The Company's success depends on its ability to identify, hire and retain skilled personnel. The software industry is characterized by a high level of employee mobility and aggressive recruiting among competitors for personnel with technical, marketing, sales, product development and management skills. The Company may not be able to attract and retain skilled personnel or may incur significant costs in order to do so. In particular, the Company is highly dependent upon the management services of Gregory Fischbach, co-chairman of the board and chief executive officer, and James Scoroposki, co-chairman of the board and senior executive vice president. If the Company were to lose either of their services, its business would be negatively impacted. Although the Company has employment agreements with Messrs. Fischbach and Scoroposki, they may leave or compete with the Company in the future. If the Company is unable to attract additional qualified employees or retain the services of key personnel, its business could be negatively impacted. Charter and Anti-Takeover Provisions Could Negatively Affect Rights of Holders of Common Stock The board of directors has the authority to issue shares of preferred stock and to determine their characteristics without stockholder approval. This authority is limited by the indenture governing the convertible notes. If the Company issues preferred stock, the rights of common stockholders may be 17 negatively affected by the rights of preferred stockholders. Moreover, if the Company issues preferred stock, it could become more difficult for a third party to acquire a majority of the Company's outstanding voting stock. Acclaim is also subject to anti-takeover provisions of Delaware corporate law, which may impede a tender offer, change in control or takeover attempt that is opposed by the board. In addition, employment arrangements with some members of management provide for severance payments upon termination of their employment if there is a change in control. Stock Price Is Volatile and Stockholders May Not Be Able to Recoup Their Investment There is a history of significant volatility in the market prices of companies engaged in the software industry, including Acclaim. Movements in the market price of Acclaim common stock from time to time have negatively affected stockholders' ability to recoup their investment in the stock. The price of Acclaim common stock is likely to continue to be highly volatile, and stockholders may not be able to recoup their investment. If Acclaim's future revenues, profitability or product releases do not meet expectations, the price of Acclaim common stock may be negatively affected. Year 2000 Compliance Is Not Assured Failure to correct the Company's systems to become "Year 2000 compliant" may result in systems failures or miscalculations causing disruptions of operations, including a temporary inability to process transactions, send invoices, or engage in similar normal business activities. The Company cannot guarantee that its systems will be Year 2000 compliant in a timely manner. The Company's systems also rely on third-party systems, including those of its vendors, customers, manufacturers, outside developers, and financial institutions associated with the Company. The Company relies on third-party information about their compliance programs and the Company cannot determine potential errors on the part of external service suppliers. Accordingly, the Company cannot guarantee that its information systems or operations will not be affected by third-party mistakes or third-party failures to become Year 2000 compliant. The Company cannot guarantee that the third-party systems on which its systems rely will be timely converted or that any failure to convert by another company would not have a negative effect on the Company's systems. The Company does not currently have any contingency plans in place to address the failure of timely conversion of its and/or third-party systems in respect of the Year 2000 issue. The Company's failure to address any unforeseen Year 2000 issues could negatively impact its results of operations. 18 Item 2. PROPERTIES. The Company's corporate headquarters are located in a 70,000 square foot office building in Glen Cove, New York, which was purchased by the Company in fiscal 1994. See Note 9 of Notes to Consolidated Financial Statements. The Company also owns an 8,000 square foot office building in Glen Cove, New York and a 10,000 square foot office building in Oyster Bay, New York, which has been leased to a third-party tenant. In addition, the Company's United States subsidiaries lease approximately 10,000 square feet of office space in New York, and approximately 69,000 square feet of office space in the aggregate in Texas and Utah. The Company's foreign subsidiaries lease office space in Japan, France, Germany, Spain, Australia and the United Kingdom. The Company believes that these facilities are adequate for its current and foreseeable future needs. 19 Item 3. LEGAL PROCEEDINGS. The Company and other participants in the entertainment industry were sued in an action entitled James, et al. v. Meow Media, et al. filed in April 1999 in the U.S. District Court for the Western District of Kentucky, Paducah Division, Civil Action No. 5:99CV96-J. The plaintiffs allege that the defendants caused injury to the plaintiffs as a result of, in the case of the Company, its manufacture and/or supply of "violent" video games to Michael Carneal, then fourteen. The plaintiffs further allege that the defendants were negligent in such manufacture and/or supply thereby breaching a duty to Mr. Carneal and others, including the plaintiffs (the parents of the deceased individuals). Mr. Carneal killed three individuals and wounded five others during a shooting at the Heath High School in McCracken County, Kentucky. The plaintiffs seek damages in the amount of approximately $110,000,000. The Company intends to defend this action vigorously. The Company has entered into a joint defense agreement and is sharing defense costs with certain of the other defendants. The Company, Iguana Entertainment and Gregory E. Fischbach were sued in an action entitled Jeffery Spangenberg vs. Acclaim Entertainment, Inc., Iguana Entertainment, Inc., and Gregory Fischbach filed in August 1998 in the District Court of Travis County, Texas (Cause No. 98-09418). The plaintiff alleges that the defendants (1) breached their employment obligations to the plaintiff, (2) breached a Texas statute covering wage payment obligations based on their alleged failure to pay bonuses to the plaintiff; and (3) made fraudulent misrepresentations to the plaintiff in connection with the plaintiff's employment relationship with the Company, and accordingly, seeks unspecified damages. The Company intends to defend this action vigorously. The SEC issued orders in April 1996 directing a private investigation relating to, among other things, the Company's October 1995 release of its earnings estimate for fiscal 1995. The Company provided documents to the SEC, and the SEC took testimony from Company representatives. The Company was advised that the Staff of the SEC proposes to recommend that the SEC authorize enforcement action against the Company and three of its directors (two of whom are members of the Company's Audit Committee) in connection with matters related to the Company's October 1995 release. In accordance with the SEC's rules, the Company has submitted a response to the Staff's proposed recommendation. The Company has previously settled litigations relating to the Company's October 1995 release, and the related charges were recorded in fiscal 1997. No assurance can be given as to the outcome of the SEC investigation. In conjunction with claims arising from certain of the Company's acquisitions and then pending litigations and claims for which the settlement obligation was probable and estimable, the Company recorded a charge of $23.6 million during the year ended August 31, 1997. Approximately $10.2 million of these litigation settlements will be satisfied in cash, of which $8.3 million has been paid as of August 31, 1999. The remainder is payable with non-cash items, such as stock or warrants. See Note 17A of Notes to Consolidated Financial Statements. The Company is also party to various litigations arising in the ordinary course of its business, the resolution of none of which, the Company believes, will have a material adverse effect on the Company's liquidity or results of operations. 20 Item 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS. None. 21 PART II Item 5. MARKET FOR REGISTRANT'S COMMON EQUITY AND RELATED STOCKHOLDER MATTERS. The Company's common stock is traded on The NASDAQ Stock Market National Market System under the symbol AKLM. On October 18, 1999, the closing sale price of the common stock was $6.94 per share. As of such date, there were approximately 2,360 holders of record of the common stock. The following table sets forth the range of high and low sales prices for Acclaim's common stock for each of the periods indicated: Price ----- Period High Low - ------ ---- --- Fiscal Year 1998 First Quarter $6.00 $2.94 Second Quarter 5.25 3.09 Third Quarter 8.19 5.00 Fourth Quarter 7.63 4.50 Fiscal Year 1999 First Quarter $10.25 $5.00 Second Quarter 13.00 7.13 Third Quarter 9.31 6.19 Fourth Quarter 8.06 5.00 RECENT SALES OF UNREGISTERED SECURITIES In November 1998, in connection with the Company's purchase of substantially all of the assets and liabilities of Fringe Pty. Ltd., an Australian distributor, the Company issued 206,000 shares of its common stock to Fringe Pty. Ltd. in partial payment of the purchase price. The shares were issued pursuant to the exemption from registration provided under Section 4(2) of the Securities Act. See Note 3 of Notes to Consolidated Financial Statements. In March 1999, the Company issued 300,000 shares of restricted stock to the Acclaim Entertainment Employee Benefits Trust. The shares were issued by the Company to the trust pursuant to the exemption from registration provided under Section 4(2) of the Securities Act. The trustee of the trust may deliver the shares or any portion thereof to one or more employees of Acclaim's U.K. subsidiary. In August 1999, the Company issued 100,000 shares of restricted stock to William Sorenson, currently an executive officer of the Company. The shares were issued by the Company to Mr. Sorenson pursuant to the exemption from registration provided under Section 4(2) of the Securities Act. The 100,000 shares of restricted stock vest in three equal installments in August 2001, 2002 and 2003, subject to Mr. Sorenson's continued employment with the Company at that time. DIVIDEND POLICY The Company has never declared or paid any cash dividends on its common stock and has no present intention to declare or pay cash dividends on its common stock in the foreseeable future. The Company is subject to various financial covenants with its lenders that could limit and/or prohibit the payment of dividends in the future. See "Management's Discussion and Analysis of Financial Condition and Results of Operations" and Note 9 of Notes to Consolidated Financial Statements. The Company intends to retain earnings, if any, which it may realize in the foreseeable future to finance its operations. 22 Item 6. SELECTED FINANCIAL DATA. The following tables should be read in conjunction with the consolidated financial statements of the Company and the notes thereto and the "Management's Discussion and Analysis of Financial Condition and Results of Operations" section appearing elsewhere in this Annual Report on Form 10-K. (in 000s, except per share information)
Fiscal Year Ended August 31, 1999 1998 1997 1996(2) 1995(1) ---- ---- ---- ------- ------- Statement of Operations Data: Net revenues $430,974 $326,561 $165,411 $161,945 $566,723 Cost of revenues 200,980 148,660 89,818 191,790 291,474 Gross profit (loss) 229,994 177,901 75,593 (29,845) 275,249 Marketing and sales 72,245 61,691 57,266 116,142 125,813 General and administrative 69,022 54,149 68,831 76,625 66,503 Research and development 50,452 37,367 41,689 46,864 12,267 Goodwill writedown -- -- 25,200 -- -- Litigation settlements (1,753) -- 23,550 -- -- Downsizing charge -- -- 10,000 5,000 -- Earnings (loss) from operations 40,028 24,694 (150,943) (274,476) 70,666 Other (expense) income, net (998) (3,240) (8,117) 5,609 5,608 Earnings (loss) before income taxes 39,030 21,454 (159,060) (268,867) 76,274 Net earnings (loss) 36,058 20,690 (159,228) (221,368) 44,770 Basic earnings (loss) per share $0.66 $0.40 $(3.21) $(4.47) $1.05 Diluted earnings (loss) per share $0.57 $0.37 $(3.21) $(4.47) $0.86
(1) Includes results of operations of Iguana Entertainment from January 4, 1995. (2) Includes results of operations of Acclaim Studios - Salt Lake City, Inc. (formerly, Sculptured Software, Inc.) and Probe Entertainment Limited for the entire year.
August 31, 1999 1998 1997 1996 1995 ---- ---- ---- ---- ---- Balance Sheet Data: Working capital (deficiency) $29,391 $(19,100) $(64,156) $(10,039) $200,455 Total assets 244,838 160,407 133,175 239,651 442,827 Current portion of long-term debt 724 724 1,002 25,527 25,196 Long-term liabilities 53,584 56,629 59,472 4,032 461 Stockholders' equity (deficiency) 31,359 (21,773) (59,046) 93,589 314,707
23 ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS. Overview Acclaim develops, publishes, distributes and markets video and computer games for use with game consoles, both dedicated and portable, and PCs on a worldwide basis. The Company owns and operates five software development studios located in the U.S. and the U.K. where it develops its own software, and a motion capture studio in the U.S. From time to time, Acclaim hires independent developers to create software for it. Acclaim publishes, or releases to the public under its brand names, software developed by it as well as third-party developers. Acclaim distributes its software directly in North America, the U. K., Germany, France, Spain and Australia. Acclaim also distributes software developed and published by third parties and develops (1) strategy guides relating to the Company's software and (2) comic book magazines. The Company's operating strategy is to develop and maintain a core of "key" brands of software titles, such as Turok, Shadow Man, South Park, NFL Quarterback Club and All Star Baseball. Acclaim focuses on developing and publishing software for the game consoles that are popular at a given time or which it believes will become popular. The Company's console titles are primarily sports simulation and arcade-style performance games, and its PC titles are primarily arcade-style performance games, real-time simulation, adventure and sports simulation games. The interactive entertainment software industry is driven by the size of the installed base of game consoles, such as those manufactured by Nintendo, Sony and Sega, and PCs dedicated for home use. The interactive entertainment software industry is characterized by rapid technological changes mostly due to: o the introduction of game consoles incorporating more powerful processors and operating systems; o the impact of technological changes embodied in PCs; o the development of electronic and wireless delivery systems; and o the entry and participation of new companies in the industry. These and other factors have resulted in successive introductions of increasingly advanced game consoles and PCs. As a result of the rapid technological shifts, no single game console or PC system has achieved long-term dominance in the video and computer games market. Therefore, Acclaim must continually anticipate game console cycles and its research and development group must develop programming tools and engines necessary for the development of software for emerging hardware systems. The rapid technological advances in game consoles have significantly changed the look and feel of software as well as the software development process. Currently, the process of developing software is extremely complex and Acclaim expects it to become more complex and expensive in the future as more powerful and complex hardware is introduced. According to Acclaim estimates, the average development time for a title is between 12 and 24 months and the average development cost for a title is between $1 and $3 million. Approximately 56%, 68% and 82% of the Company's gross revenues in the fiscal years ended August 31, 1997, 1998 and 1999, respectively, were derived from software developed by its studios. See "Factors Affecting Future Performance - Increased Product Development Costs May Adversely Affect Profitability." The Company's performance has historically been materially affected by platform transitions and product cycles. As a result of the industry transition to 32- and 64-bit game consoles which commenced in 1995, the Company's software sales during fiscal 1996, 1997 and 1998 were significantly lower than in fiscal 1994 and 1995. The Company's inability to predict accurately the timing of such transition resulted in material losses in fiscal 1996 and 1997. The Company believes its results in those years were also 24 adversely impacted by the fact that the Company had not yet received a significant portion of the benefits of implementing its brand strategy and its internal development strategy through its owned studios and that the studios had not yet developed the game engines (which are capable of being used in multiple titles) to support the strategy. See "Factors Affecting Future Performance - Industry Trends, Platform Transitions and Technological Change May Adversely Affect the Company's Revenues and Profitability." In the past, the Company has experienced delays in the introduction of new titles, which has had a negative impact on its results of operations. It is likely that some of the Company's titles will not be released in accordance with the Company's operating plans for a period, in which event its results of operations and profitability in that period could be negatively affected. See "Factors Affecting Future Performance - Revenues Are Dependent on Timely Introduction of New Titles." The Company recorded a net loss of $(159) million and net earnings of $21 million and $36 million in fiscal years ended August 31, 1997, 1998 and 1999, respectively. The fiscal 1999 results primarily reflect increased sales in the United States of the Company's software for the current generation of hardware systems, N64 and PlayStation. The Company believes that the market for N64 and PlayStation is reaching maturity. No assurance can be given as to the future growth of the software market for N64 and PlayStation systems, the timely introduction and market acceptance of the Company's software therefor or of the Company's results of operations and profitability in future periods. The results for fiscal years ended August 31, 1998 and 1999 also reflect the Company's significantly reduced operating expenses as compared to prior periods. The Company's ability to generate sales growth and profitability in the short term will be materially dependent on (1) the continued growth of the software market for 32- and 64-bit and other new emerging game consoles and (2) the Company's ability to identify, develop and publish "hit" software for those platforms. Results of Operations The following table shows certain statements of consolidated operations data as a percentage of net revenues for the periods indicated: Fiscal Year Ended August 31, 1999 1998 1997 Domestic revenues 69.7% 66.4% 49.7% Foreign revenues 30.3 33.6 50.3 ----- ----- ----- Net revenues 100.0 100.0 100.0 Cost of revenues 46.6 45.5 54.3 ----- ----- ----- Gross profit 53.4 54.5 45.7 Marketing and sales 16.8 18.9 34.6 General and administrative 16.0 16.6 41.6 Research and development 11.7 11.4 25.2 Goodwill writedown -- -- 15.2 Litigation settlements (recoveries) (0.4) -- 14.2 Downsizing charge -- -- 6.1 ----- ----- ----- Total operating expenses 44.1 46.9 137.0 Earnings (loss) from operations 9.3 7.6 (91.3) Other (expense) income, net (0.2) (1.0) (4.9) Earnings (loss) before income taxes 9.1 6.6 (96.2) Net earnings (loss) 8.4 6.3 (96.3) Net Revenues The Company's gross revenues were derived from the following product categories: 25 1999* 1998* 1997* ----- ----- ----- Portable software 5.0% 2.0% 2.0% 16-bit software -- -- 9.0% 32-bit software 27.0% 30.0% 37.0% 64-bit software 59.0% 57.0% 33.0% Computer games software 8.0% 10.0% 15.0% Other 1.0% 1.0% 4.0% - ----------- * The numbers in this chart do not give effect to sales credits and allowances granted by the Company since the Company does not track such credits and allowances by product category. Accordingly, the numbers presented may vary materially from those that would be disclosed if the Company were able to present such information as a percentage of net revenues. The increase in the Company's net revenues from $326.6 million for the year ended August 31, 1998 to $431.0 million for the year ended August 31, 1999 was predominantly due to increased revenues from sales of the Company's 64-bit software. The increase in sales in fiscal 1999 was primarily due to the continued increase in the installed base of N64 and PlayStation consoles worldwide and the quality and market acceptance of the Company's titles for those platforms. The Company anticipates that titles currently scheduled for introduction in the first quarter of fiscal 2000 will be shipped as announced; however, no assurance can be given that these titles will be released in accordance with such announcements. Assuming timely shipment of the Company's titles, the Company's revenues from the sale of software are anticipated to grow in fiscal 2000; however, the Company anticipates that, for fiscal 2000 as a whole, its growth rate will be lower than its fiscal 1999 and 1998 growth rates of 32% and 97%, respectively. If the Company does not release new titles as planned in fiscal 2000, the Company's net revenues would be materially negatively impacted and the Company could incur losses from operations. The Company anticipates that its mix of domestic and foreign net revenues will continue to be affected by the content of titles released by the Company to the extent such titles are geared towards the domestic market. The increase in the Company's net revenues from $165.4 million for the year ended August 31, 1997 to $326.6 million for the year ended August 31, 1998 was predominantly due to increased sales in the United States of the Company's 64-bit and, to a lesser extent, 32-bit software. The increase in sales in fiscal 1998 was primarily due to the increase in the installed base of N64 and PlayStation consoles worldwide and the quality of the Company's titles. The Company's domestic sales in fiscal 1998 comprised a higher percentage of total net revenues compared to fiscal 1997 primarily because the titles published by the Company in 1998 achieved greater popularity in the domestic market (for example, WWF War Zone and NFL Quarterback Club '98). A significant portion of the Company's revenues in any quarter are generally derived from software first released in that quarter or in the immediately preceding quarter. See "Factors Affecting Future Performance - Revenues Are Dependent on Timely Introduction of New Titles" and "-The Company's Future Success is Dependent on Its Ability to Release "Hit" Titles." In fiscal 1999, Turok 2: Seeds of Evil (for multiple platforms), WWF Attitude (for multiple platforms), WWF Warzone (for multiple platforms), and South Park (for multiple platforms) accounted for approximately 17%, 15%, 13%, and 10%, respectively, of the Company's gross revenues. In fiscal 1998, WWF War Zone (for multiple platforms), NFL Quarterback Club '98 (for the N64), Forsaken (for multiple platforms) and Extreme G (for the N64) accounted for approximately 18%, 13%, 11% and 11%, respectively, of the Company's gross revenues. In fiscal 1997, Turok: Dinosaur Hunter (for the N64) accounted for approximately 33% of the Company's gross revenues. 26 The Company is substantially dependent on the hardware platform developers as the sole developers of the platforms marketed by them, as the sole licensors of the proprietary information and technology needed to develop software for those hardware platforms and, in the case of Nintendo and Sony, as the sole manufacturers of software for the hardware platforms marketed by them. For the years ended August 31, 1997, 1998 and 1999, the Company derived 41%, 60% and 64% of its gross revenues, respectively, from sales of Nintendo-compatible software, 28%, 30% and 27% of its gross revenues, respectively, from sales of software for PlayStation and 12%, less than 1% and less than 1% of its gross revenues, respectively, from sales of Sega-compatible software. The Company has a license to develop, and release, titles for Sega's Dreamcast platform introduced in the United States in September 1999, has released one title for Dreamcast in the fourth quarter of fiscal 1999 and plans to release additional titles for that platform in fiscal 2000. See "Factors Affecting Future Performance - If the Company Is Unable to Obtain or Renew Licenses from Hardware Developers, It Will Not Be Able to Release Software for Game Consoles." Gross Profit Gross profit is primarily impacted by the percentage of sales of CD software as compared to the percentage of sales of cartridge software. Gross profit may also be impacted from time to time by the percentage of foreign sales, the percentage of foreign sales to third-party distributors, and the level of returns and price protection and concessions to retailers and distributors. The Company's margins on sales of CD software (currently, PlayStation, PCs and Dreamcast) are higher than those on cartridge software (currently, N64 and Game Boy Color) as a result of significantly lower CD software product costs. The Company's margins on foreign software sales to third-party distributors are approximately one-third lower than those on sales that the Company makes directly to foreign retailers. Gross profit increased from $177.9 million (54% of net revenues) for the year ended August 31, 1998 to $230 million (53% of net revenues) for the year ended August 31, 1999. The dollar increase is predominantly due to increased sales volume. Gross profit increased from $75.6 million (46% of net revenues) for the year ended August 31, 1997 to $177.9 million (54% of net revenues) for the year ended August 31, 1998 predominantly due to increased unit sales and higher average unit selling prices of the Company's software. Operating Expenses In fiscal 1997, the Company effected a variety of cost reduction measures to reduce its operating expenses. The Company realized the benefits of such measures in the fourth quarter of fiscal 1997 and thereafter in the form of reduced operating expenses as compared to prior periods. In addition, in fiscal 1998, the Company consolidated or eliminated certain operations. Marketing and sales expenses increased from $57.3 million (35% of net revenues) for the year ended August 31, 1997, to $61.7 million (19% of net revenues) for the year ended August 31, 1998 and to $72.2 million (17% of net revenues) for the year ended August 31, 1999. The dollar increase is primarily attributable to increased selling and advertising expenses associated with higher net revenues. General and administrative expenses were $68.8 million (42% of net revenues) for the year ended August 31, 1997, $54.1 million (17% of net revenues) for the year ended August 31, 1998 and increased to $69 million (16% of net revenues) for the year ended August 31, 1999. The dollar decrease in fiscal 1998 was primarily due to cost reduction efforts initiated by the Company in fiscal 1998, and the increase in fiscal 1999 is primarily attributable to a higher level of expenses in all categories. 27 Research and development expenses were $41.7 million (25% of net revenues) for the year ended August 31, 1997, $37.4 million (11% of net revenues) for the year ended August 31, 1998 and increased to $50.5 million (12% of net revenues) for the year ended August 31, 1999. The dollar decrease in fiscal 1998 was primarily due to the consolidation of certain of the Company's studio operations, reduced personnel costs and other cost reduction efforts initiated by the Company. The dollar increase in fiscal 1999 is primarily attributable to the implementation of the Company's strategy to establish its own brands, increase the number of internally developed titles, the increased expense of developing game engines and programming tools for the next generation hardware platforms for Nintendo, Sony and Sega, and increased personnel costs at the studios. The percentage decrease in marketing and sales, and general and administrative expenses is primarily attributable to increased sales volume. Due to the Company's planned release of a higher number of titles and increasing software development costs, the Company anticipates that its future research and development expenses will continue to increase. See "Factors Affecting Future Performance - Increased Product Development Costs May Adversely Affect Profitability." Severance charges and other costs related to a company downsizing of approximately $10 million were recorded in fiscal 1997. Downsizing expenditures in fiscal 1998 were consistent with the accrued downsizing charge at August 31, 1997. The remaining accrued downsizing expenses were paid in fiscal 1999 and related to employee severance. Due to Acclaim Comics' operating losses through May 1997, management's assessment of the state of the comic book industry and management's projections for Acclaim Comics' operations, management believed that there was an impairment in the carrying value of the goodwill relating to the July 1994 acquisition of Acclaim Comics. Accordingly, the Company recorded a write-down of $25.2 million of goodwill in fiscal 1997 to reduce the carrying value of the goodwill associated with Acclaim Comics to its estimated undiscounted future cash flows. In conjunction with certain claims and litigations for which the settlement obligation was then probable and estimable, the Company recorded a charge of $23.6 million during fiscal 1997. No assurance can be given that the Company will not be required to record additional material charges in future periods in conjunction with the litigations to which the Company is a party. See Note 17(a) of Notes to Consolidated Financial Statements. In fiscal 1999, the Company had a litigation settlement gain of $1.8 million. Due to the occurrence of various events identified in the related settlement agreement, including an increase in the market value of Acclaim's common stock to a value specified in the settlement agreement, the Company's previously recorded contractual obligation was reduced, which resulted in the gain for fiscal 1999. Although the Company anticipates that its aggregate operating expenses will increase in dollars in fiscal 2000, it does not anticipate that such expenses will increase as a percentage of net revenues. Interest income increased in the year ended August 31, 1999 due to higher cash balances available for investment. As of August 31, 1999, the Company had a U.S. tax net operating loss carryforward of approximately $90 million. During 1999, the Company utilized a portion of its net operating loss carryforwards. The provision for income taxes of $3.0 million primarily relates to federal alternative minimum, state and foreign taxes. Seasonality The Company's business is seasonal, with higher revenues and operating income typically occurring during its first, second and fourth fiscal quarters (which correspond to the holiday-selling season). However, the timing of the delivery of software titles and the releases of new products cause material fluctuations in the Company's quarterly revenues and earnings, which may cause the Company's results 28 to vary from the seasonal patterns of the industry as a whole. See "Factors Affecting Future Performance - Revenues Vary Due to the Seasonal Nature of Video and PC Game Software Purchases." Liquidity and Capital Resources The Company derived net cash from operating activities of approximately $29.9 million and $23.3 million during the years ended August 31, 1999 and 1998, respectively, and used net cash in operating activities of approximately $29.0 million during the year ended August 31, 1997. The increase in net cash from operating activities in fiscal 1999 and 1998 is primarily attributable to profitable operations. An income tax refund of approximately $54.0 million related to the carryback of the Company's loss for fiscal 1996 was received and included in the net cash used in operating activities during the year ended August 31, 1997. The Company used net cash in investing activities of approximately $11.0 million and $3.9 million during the years ended August 31, 1999 and 1998, respectively, and derived net cash from investing activities of approximately $14.5 million during the year ended August 31, 1997. The increase in cash used in investing activities in fiscal 1999 as compared to fiscal 1998 is primarily attributable to the acquisition of fixed assets. The decrease in cash provided by investing activities in fiscal 1998 as compared to fiscal 1997 is primarily attributable to the proceeds derived from the sale of marketable securities (approximately $10.2 million) and subsidiaries (approximately $7.0 million) in fiscal 1997. The Company derived net cash from financing activities of approximately $8.1 million, $1.3 million and $19.2 million during the years ended August 31, 1999, 1998 and 1997, respectively. The increase in net cash derived from financing activities in the fiscal 1999 period as compared to the fiscal 1998 period is primarily attributable to the increase in proceeds from the exercise of stock options and warrants. The decrease in net cash provided by financing activities in the fiscal 1998 period as compared to fiscal 1997 is primarily attributable to $47.4 million in proceeds from the offering in February 1997 of the Company's convertible subordinated notes due March 1, 2002, which was partially offset by the repayment of a term loan from Midland Bank plc and partial repayment of a mortgage note due to Fleet. The convertible notes were sold at par with proceeds to the Company of $47.4 million, net of expenses. The indenture governing the convertible notes contains covenants that, among other things, substantially limit the Company's ability to incur additional indebtedness, issue preferred stock, pay dividends and make certain other payments. The notes are convertible into shares of Acclaim's common stock at a conversion price of $5.18 per share, subject to adjustment under certain conditions. The notes are redeemable, in whole or in part, at the option of the Company (subject to the rights of holders of senior indebtedness) at 104% of the principal balance at any time on or after March 1, 2000 through February 28, 2001 and at 102% of the principal balance thereafter to maturity. The Company generally purchases its inventory of Nintendo software by opening letters of credit when placing the purchase order. At August 31, 1999, the amount outstanding under letters of credit was approximately $21.1 million. Other than such letters of credit, the Company does not currently have any material operating or capital expenditure commitments. The Company has a revolving credit and security agreement with GMAC Commercial Credit LLC, its principal domestic lending institution, which agreement expires on January 31, 2000. The credit agreement may be automatically renewed for another year by its terms, unless terminated upon 90 days' prior notice by either party. The Company currently anticipates renewing the agreement on substantially the same terms. The Company draws down working capital advances and opens letters of credit against the facility in amounts determined on a formula based on factored receivables and inventory, which advances are secured by the Company's assets. GMAC also acts as the Company's factor for the majority of its North American receivables, which are assigned on a pre-approved basis. At August 31, 1999, the factoring charge was 0.25% of the receivables assigned and the interest on advances was at GMAC's prime rate plus one percent. See Note 4 of Notes to Consolidated Financial Statements. 29 The Company also has a financing arrangement relating to the mortgage on its corporate headquarters. At August 31, 1999, the outstanding principal balance of the loan was $1.9 million. Management believes, based on the currently anticipated growth of the installed base of 32- and 64-bit or other new emerging hardware platforms, that the Company's cash and cash equivalents at August 31, 1999 and projected cash flows from operations will be sufficient to cover its operating expenses and such current obligations as are required to be paid in fiscal 2000. However, no assurance can be given as to the sufficiency of such cash flows in fiscal 2001 and beyond. To provide for its short- and long-term liquidity needs, in fiscal 1997 and 1998, the Company significantly reduced the number of its employees, consolidated or eliminated certain operations, raised $47.4 million of net proceeds from the issuance of the convertible notes, and sold substantially all of the assets of Acclaim Redemption Games, Inc., formerly Lazer-Tron Corporation. The Company's future liquidity will be materially dependent on its ability to develop and market software that achieves widespread market acceptance for use with the hardware platforms that dominate the market. There can be no assurance that the Company will be able to publish software for hardware platforms with significant installed bases or that such software will achieve widespread market acceptance. See "Factors Affecting Future Performance - - If Cash Flows from Operations Are Not Sufficient to Meet the Company's Needs, It May be Forced to Sell Assets, Refinance Debt or Downsize Operations." In conjunction with then pending class action and other litigations and claims for which the settlement obligation was then probable and estimable, the Company recorded a charge of $23.6 million during the year ended August 31, 1997. During fiscal 1998, the Company settled substantially all such litigations and claims for amounts approximating the accrued liabilities. The Company is also party to various litigations arising in the course of its business, the resolution of none of which, the Company believes, will have a material adverse effect on the Company's liquidity, financial condition and results of operations. Year 2000 Issue In fiscal 1997, the Company commenced a Year 2000 date conversion project to address necessary code changes, testing and implementation in respect of its internal computer systems, which was completed in the late summer of calendar 1999. The Company has commenced testing its computer systems and anticipates that testing will be completed in November 1999. To date, the cost of this project has not been material to the Company's results of operations or liquidity and the Company anticipates that the cost of completing testing will not be material to its results of operations or liquidity in fiscal 2000. The Company anticipates that its Year 2000 date testing project as it relates to the Company's internal systems will be completed on a timely basis. The Company's software for N64, PlayStation, Dreamcast and PCs is Year 2000 compliant. The Company is continuing to seek information regarding Year 2000 compliance from vendors, customers, manufacturers, outside developers, and financial institutions associated with the Company. However, given the reliance on third-party information as it relates to their compliance programs and the difficulty of determining potential errors on the part of external service suppliers, no assurance can be given that the Company's information systems or operations will not be affected by mistakes, if any, of third parties or third-party failures to complete the Year 2000 project on a timely basis. There can be no assurance that the systems of other companies on which the Company's systems rely will be timely converted or that any such failure to convert by another company would not have a material adverse effect on the Company's systems. The cost of the Company's Year 2000 project and the date on which the Company believes it will complete the necessary testing are based on the Company's estimates, which were derived utilizing numerous assumptions of future events, including the continued availability of resources, third-party modification plans and other factors. The Company presently believes that the Year 2000 issue will not pose significant operational problems for its internal information systems and products. However, if the anticipated testing is not completed on a timely basis, if significant further modifications are required or if 30 the systems of other companies on which the Company's systems and operations rely are not converted on a timely basis, the Year 2000 issue could have a material adverse effect on the Company's results of operations. The Company does not currently have any contingency plans in place to address the failure of its systems and/or the timely conversion of third-party systems in respect of the Year 2000 issue. Any failure of the Company to address any unforeseen Year 2000 issues could materially adversely affect the Company's results of operations. New Accounting Pronouncement The Company will implement the provisions of Financial Accounting Standards No. 133, "Accounting for Derivative Instruments and Hedging Activities," in fiscal 2001. The Company is presently assessing the impact, if any, of this standard on its consolidated financial statements. 31 Item 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK. The Company has not entered into any significant financial instruments for trading or hedging purposes. The Company's earnings are affected by fluctuations in the value of its subsidiaries' functional currency as compared to the currencies of its foreign denominated sales and purchases. The results of operations of the Company's subsidiaries, as reported in U.S. dollars, may be significantly affected by fluctuations in the value of the local currencies in which the Company transacts business. Such amount is recorded upon the translation of the foreign subsidiaries' financial statements into U.S. dollars, and is dependent upon the various foreign exchange rates and the magnitude of the foreign subsidiaries' financial statements. At August 31, 1999, the Company's foreign currency translation adjustment is not material and, for the year ended August 31, 1999, net foreign currency transaction losses were insignificant. See Note 1K of Notes to Consolidated Financial Statements. In addition to the direct effects of changes in exchange rates, which are a changed dollar value of the resulting sales and related expenses, changes in exchange rates also affect the volume of sales or the foreign currency sales price as competitors' products become more or less attractive. The Company is not exposed to material future earnings or cash flow exposures from changes in interest rates on long-term obligations since the majority of the Company's long-term obligations are at fixed rates. 32 Item 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA. Independent Auditors' Report The Board of Directors and Stockholders Acclaim Entertainment, Inc. We have audited the accompanying consolidated balance sheets of Acclaim Entertainment, Inc. and Subsidiaries as of August 31, 1999 and 1998, and the related consolidated statements of operations, stockholders' equity (deficiency) and cash flows for each of the years in the three year period ended August 31, 1999. In connection with our audit of the consolidated financial statements, we also have audited the financial statement schedule for each of the three years ended August 31, 1999. These consolidated financial statements and financial statement schedule are the responsibility of the Company's management. Our responsibility is to express an opinion on these consolidated financial statements and financial statement 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 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 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 Acclaim Entertainment, Inc. and Subsidiaries as of August 31, 1999 and 1998, and the results of their operations and their cash flows for each of the years in the three year period ended August 31, 1999, in conformity with generally accepted accounting principles. Also, in our opinion, the related financial statement schedule, when considered in relation to the basic consolidated financial statements taken as a whole, presents fairly, in all material respects, the information set forth therein. KPMG LLP New York, New York October 22, 1999 33 ACCLAIM ENTERTAINMENT, INC. AND SUBSIDIARIES CONSOLIDATED BALANCE SHEETS (in 000s, except per share data)
August 31, 1999 1998 -------- -------- ASSETS CURRENT ASSETS Cash and cash equivalents $74,421 $47,273 Accounts receivable - net 84,430 39,177 Inventories 15,565 3,430 Prepaid expenses 14,870 16,571 -------- -------- TOTAL CURRENT ASSETS 189,286 106,451 -------- -------- OTHER ASSETS Fixed assets - net 32,694 29,294 Excess of cost over fair value of net assets acquired - net of accumulated amortization of $22,058 and $19,218, respectively 21,199 21,433 Other assets 1,659 3,229 -------- -------- TOTAL ASSETS $244,838 $160,407 -------- -------- LIABILITIES AND STOCKHOLDERS' EQUITY (DEFICIENCY) CURRENT LIABILITIES Trade accounts payable $47,298 $24,218 Short-term borrowings -- 16 Accrued expenses 103,663 92,207 Income taxes payable 7,692 6,918 Current portion of long-term debt 724 724 Obligations under capital leases - current 518 1,468 -------- -------- TOTAL CURRENT LIABILITIES 159,895 125,551 -------- -------- LONG-TERM LIABILITIES Long-term debt 50,957 51,931 Obligations under capital leases - noncurrent 775 1,110 Other long-term liabilities 1,852 3,588 -------- -------- TOTAL LIABILITIES 213,479 182,180 -------- -------- STOCKHOLDERS' EQUITY (DEFICIENCY) Preferred stock, $0.01 par value; 1,000 shares authorized; none issued -- -- Common stock, $0.02 par value; 100,000 shares authorized; 56,033 and 52,634 shares issued, respectively 1,121 1,053 Additional paid in capital 207,273 189,645 Accumulated deficit (173,122) (209,180) Treasury stock, 537 and 523 shares, respectively (3,262) (3,103) Accumulated other comprehensive income (651) (188) -------- -------- TOTAL STOCKHOLDERS' EQUITY (DEFICIENCY) 31,359 (21,773) -------- -------- TOTAL LIABILITIES AND STOCKHOLDERS' EQUITY (DEFICIENCY) $244,838 $160,407 -------- --------
See notes to consolidated financial statements. 34 ACCLAIM ENTERTAINMENT, INC. AND SUBSIDIARIES STATEMENTS OF CONSOLIDATED OPERATIONS (in 000s, except per share data)
Fiscal Year Ended August 31, 1999 1998 1997 NET REVENUES $430,974 $326,561 $165,411 COST OF REVENUES 200,980 148,660 89,818 -------- -------- -------- GROSS PROFIT 229,994 177,901 75,593 -------- -------- -------- OPERATING EXPENSES Marketing and Sales 72,245 61,691 57,266 General and Administrative 69,022 54,149 68,831 Research and Development 50,452 37,367 41,689 Goodwill Writedown -- -- 25,200 Litigation Settlements (Recoveries) (1,753) -- 23,550 Downsizing Charge -- -- 10,000 -------- -------- -------- TOTAL OPERATING EXPENSES 189,966 153,207 226,536 -------- -------- -------- EARNINGS (LOSS) FROM OPERATIONS 40,028 24,694 (150,943) -------- -------- -------- OTHER INCOME (EXPENSE) Interest income 3,999 2,196 2,186 Other income (expense) 646 291 (5,702) Interest expense (5,643) (5,727) (4,601) -------- -------- -------- EARNINGS (LOSS) BEFORE INCOME TAXES 39,030 21,454 (159,060) -------- -------- -------- PROVISION FOR INCOME TAXES 2,972 764 882 -------- -------- -------- EARNINGS (LOSS) BEFORE MINORITY INTEREST 36,058 20,690 (159,942) -------- -------- -------- MINORITY INTEREST -- -- 714 -------- -------- -------- NET EARNINGS (LOSS) $36,058 $20,690 $(159,228) -------- -------- -------- BASIC EARNINGS (LOSS) PER SHARE $0.66 $0.40 $(3.21) ----- ----- ------ DILUTED EARNINGS (LOSS) PER SHARE $0.57 $0.37 $(3.21) ----- ----- ------
See notes to consolidated financial statements. 35 ACCLAIM ENTERTAINMENT, INC. AND SUBSIDIARIES STATEMENTS OF CONSOLIDATED STOCKHOLDERS' EQUITY (DEFICIENCY) (in 000s, except per share data)
Preferred Stock (1) Common Stock ------------------- ------------------- Issued Issued ------ ------ Additional Paid-In Deferred Accumulated Shares Amount Shares Amount Capital Compensation Deficit ------ ------ ------ ------ ------- ------------ ------- Balance August 31, 1996 -- -- 50,041 $1,001 $180,895 $(15,113) $(70,642) ------ ------ ------ ------ -------- -------- -------- Net Loss -- -- -- -- -- -- (159,228) Issuances and Cancellations of Warrants and Options -- -- -- -- 722 566 -- Deferred Compensation Expense -- -- -- -- -- 6,134 -- Exercise of Stock Options -- -- 81 1 169 -- -- Escrowed Shares Received -- -- -- -- -- -- -- Foreign Currency Translation Gain -- -- -- -- -- -- -- Unrealized Loss on Marketable Equity Securities -- -- -- -- -- -- -- ------ ------ ------ ------ -------- -------- -------- Balance August 31, 1997 -- -- 50,122 1,002 181,786 (8,413) (229,870) ------ ------ ------ ------ -------- -------- -------- Net Earnings -- -- -- -- -- -- 20,690 Issuance of Common Stock for Litigation Settlements -- -- 1,274 26 6,868 -- -- Issuances and Cancellations of Common Stock and Options -- -- 15 1 239 690 -- Deferred Compensation Expense -- -- -- -- -- 4,190 -- Exercise of Stock Options -- -- 1,223 24 4,285 -- -- Escrowed Shares Received -- -- -- -- -- -- -- Foreign Currency Translation Gain -- -- -- -- -- -- -- ------ ------ ------ ------ -------- -------- -------- Balance August 31, 1998 -- -- 52,634 1,053 193,178 (3,533) (209,180) ------ ------ ------ ------ -------- -------- -------- Net Earnings -- -- -- -- -- -- 36,058 Issuances of Common Stock -- -- 206 4 1,792 -- -- Issuance of Warrants for Litigation Settlements -- -- -- -- 1,700 -- -- Subordinated Notes Conversion -- -- 48 1 249 -- -- Cancellations of Options -- -- -- -- (552) 552 -- Issuance of Common Stock for Deferred Compensation -- -- 400 8 3,167 (3,169) -- Deferred Compensation Expense -- -- -- -- -- 3,497 -- Exercise of Stock Options and Warrants -- -- 2,631 52 9,085 -- -- Escrowed Shares Received -- -- (69) (1) 1 -- -- Issuance of Common Stock under Employee Stock Purchase Plan -- -- 183 4 1,306 -- -- Foreign Currency Translation Loss -- -- -- -- -- -- -- ------ ------ ------ ------ -------- -------- -------- Balance August 31, 1999 -- -- 56,033 $1,121 $209,926 $(2,653) $(173,122) ------ ------ ------ ------ -------- -------- -------- Accumulated Other Comprehensive Treasury Comprehensive ------------- Stock Income Total Income ----- ------ ----- ------ Balance August 31, 1996 $(1,813) $(739) $93,589 ------- ----- ------- Net Loss -- -- (159,228) $(159,228) Issuances and Cancellations of Warrants and Options -- -- 1,288 Deferred Compensation Expense -- -- 6,134 Exercise of Stock Options -- -- 170 Escrowed Shares Received (1,091) -- (1,091) Foreign Currency Translation Gain -- 107 107 107 Unrealized Loss on Marketable Equity Securities -- (15) (15) (15) ------- ----- ------- --------- Balance August 31, 1997 (2,904) (647) (59,046) $(159,136) ------- ----- ------- --------- Net Earnings -- -- 20,690 $20,690 Issuance of Common Stock for Litigation Settlements -- -- 6,894 Issuances and Cancellations of Common Stock and Options -- -- 930 Deferred Compensation Expense -- -- 4,190 Exercise of Stock Options -- -- 4,309 Escrowed Shares Received (199) -- (199) Foreign Currency Translation Gain -- 459 459 459 ------- ----- ------- --------- Balance August 31, 1998 (3,103) (188) (21,773) $21,149 ------- ----- ------- --------- Net Earnings -- -- 36,058 $36,058 Issuances of Common Stock -- -- 1,796 Issuance of Warrants for Litigation Settlements -- -- 1,700 Subordinated Notes Conversion -- -- 250 Cancellations of Options -- -- -- Issuance of Common Stock for Deferred Compensation -- -- 6 Deferred Compensation Expense -- -- 3,497 Exercise of Stock Options and Warrants -- -- 9,137 Escrowed Shares Received (159) -- (159) Issuance of Common Stock under Employee Stock Purchase Plan -- -- 1,310 Foreign Currency Translation Loss -- (463) (463) (463) ------- ----- ------- --------- Balance August 31, 1999 $(3,262) $(651) $31,359 $35,595 ------- ----- ------- ---------
(1) The Company is authorized to issue 1,000 shares of preferred stock at a par value of $0.01 per share, none of which shares is presently issued and outstanding. See notes to consolidated financial statements. 36 ACCLAIM ENTERTAINMENT, INC. AND SUBSIDIARIES STATEMENTS OF CONSOLIDATED CASH FLOWS (in 000s, except per share data)
Fiscal Year Ended August 31, 1999 1998 1997 ------- ------- ---------- CASH FLOWS PROVIDED BY (USED IN) OPERATING ACTIVITIES Net Earnings (Loss) $36,058 $20,690 $(159,228) ------- ------- ---------- Adjustments to reconcile net earnings (loss) to net cash provided by (used in) operating activities: Depreciation and amortization 11,674 13,237 41,420 Loss on sale of marketable securities -- -- 1,022 Provision for returns and discounts 73,739 51,113 28,161 Minority interest in net earnings of consolidated subsidiary -- -- (714) Deferred compensation expense 3,497 4,190 6,134 Non-cash royalty charges 2,413 2,025 15,010 Litigation settlements (Recoveries) (1,753) -- 23,550 Non-cash compensation expense 516 -- -- Other non-cash items 64 1,329 1,662 Change in assets and liabilities, net of effects of acquisitions: Accounts receivable (net of advances) (116,819) (70,196) (28,480) Inventories (12,221) 171 1,299 Prepaid expenses 521 3,724 (9,931) Trade accounts payable 23,538 7,068 (11,598) Accrued expenses 9,227 (10,307) (1,056) Income taxes payable 1,204 1,264 4,873 Income taxes receivable -- -- 54,334 Other long-term liabilities (1,736) (965) 4,553 ------- ------- ---------- Total adjustments (6,136) 2,653 130,239 ------- ------- ---------- NET CASH PROVIDED BY (USED IN) OPERATING ACTIVITIES 29,922 23,343 (28,989) ------- ------- ---------- CASH FLOWS (USED IN) PROVIDED BY INVESTING ACTIVITIES Acquisition/divestiture of subsidiaries, net (421) -- 6,964 Sales of marketable equity securities -- -- 10,241 Acquisition of fixed assets, excluding capital leases (10,691) (3,941) (2,671) Disposal of fixed assets 123 162 334 Acquisition of other assets (132) (193) (355) Disposal of other assets 158 33 15 ------- ------- ---------- NET CASH (USED IN) PROVIDED BY INVESTING ACTIVITIES (10,963) (3,939) 14,528 ------- ------- ----------
37 ACCLAIM ENTERTAINMENT, INC. AND SUBSIDIARIES STATEMENTS OF CONSOLIDATED CASH FLOWS (Continued) (in 000s, except per share data)
Fiscal Year Ended August 31, 1999 1998 1997 ---- ---- ---- CASH FLOWS PROVIDED BY FINANCING ACTIVITIES Proceeds from convertible subordinated notes -- -- $47,400 Payment of mortgage $(724) $(1,002) (2,870) Proceeds from short-term bank loans -- -- 12,761 Payment of short-term bank loans (16) (627) (17,095) Exercise of stock options and warrants 9,137 4,309 170 Proceeds from Employee Stock Purchase Plan 794 -- -- Payment of obligations under capital leases (899) (1,201) (2,376) Issuance of common stock 6 -- -- Escrowed shares received (159) (199) (259) Payment of long-term debt -- -- (19,000) Other financing activities -- 25 458 ------- ------- ------- NET CASH PROVIDED BY FINANCING ACTIVITIES 8,139 1,305 19,189 ------- ------- ------- EFFECT OF EXCHANGE RATE CHANGES ON CASH 50 310 2,712 ------- ------- ------- NET INCREASE IN CASH AND CASH EQUIVALENTS 27,148 21,019 7,440 CASH AND CASH EQUIVALENTS AT BEGINNING OF YEAR 47,273 26,254 18,814 ------- ------- ------- CASH AND CASH EQUIVALENTS AT END OF YEAR $74,421 $47,273 $26,254 ------- ------- ------- Supplemental schedule of noncash investing and financing activities: 1999 1998 1997 ---- ---- ---- Acquisition of equipment under capital leases $115 $350 $391 Conversion of subordinated notes to common stock $250 -- -- Cash (paid) received during the year for: Interest $(8,660) $(7,644) $(6,350) Income taxes $(2,160) 130 57,148
See notes to consolidated financial statements. 38 ACCLAIM ENTERTAINMENT, INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS FISCAL YEARS ENDED AUGUST 31, 1999, 1998 AND 1997 (in 000s, except per share data) 1. BUSINESS AND SIGNIFICANT ACCOUNTING POLICIES A. Business Acclaim Entertainment, Inc. ("Acclaim" or the "Company") develops, publishes, distributes and markets video and computer games for use with game consoles, both dedicated and portable, and PCs on a worldwide basis. The Company owns and operates five software development studios and one motion capture studio. The Company also develops and publishes software strategy guides and comic book magazines. B. Principles of Consolidation The consolidated financial statements include the accounts of Acclaim and its majority-owned subsidiaries. All material intercompany balances and transactions have been eliminated in consolidation. C. Cash Equivalents The Company considers all highly liquid investments with a maturity of three months or less when purchased to be cash equivalents. D. Inventories Inventories are stated at the lower of FIFO (first-in, first-out) cost or market and consist principally of finished goods. E. Prepaid Royalties Royalty advances represent advance payments primarily made to licensors of intellectual properties. All payments included in prepaid royalties are recoupable against future royalties due for software or intellectual properties licensed under the terms of the agreements. Prepaid royalties are expensed at contractual royalty rates based on actual net product sales. That portion of prepaid royalties deemed unlikely to be recovered through product sales is charged to expense. Royalty advances are classified as current or noncurrent assets based on estimated net product sales within the next year. F. Fixed Assets Property and equipment are recorded at cost. Depreciation is provided using the straight-line method over the estimated useful lives of the assets or, where applicable, the terms of the respective leases, whichever is shorter. The asset values of capitalized leases are included in fixed assets and the associated liabilities are reflected as obligations under capital leases. G. Excess of Cost Over Fair Value of Net Assets Acquired Excess of cost over fair value of net assets acquired is being amortized on the straight-line basis over periods ranging from three to 20 years. As of August 31, 1999, the balance, net of accumulated amortization, is comprised of $18,987 related to the fiscal 1994 acquisition of Acclaim Comics, Inc., which is being amortized on a straight-line basis over 20 years, $332 related to the fiscal 1995 acquisition of Iguana Entertainment, Inc., which is being amortized over five years, and $1,880 related to the fiscal 1999 acquisition of substantially all of the assets and liabilities of a distributor in Australia, which is being 39 ACCLAIM ENTERTAINMENT, INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS FISCAL YEARS ENDED AUGUST 31, 1999, 1998 AND 1997 (in 000s, except per share data) 1. BUSINESS AND SIGNIFICANT ACCOUNTING POLICIES (Continued) amortized over three years. It is the Company's policy to evaluate and recognize an impairment of goodwill if it is probable that the recorded amounts are in excess of anticipated undiscounted future cash flows. Due to Acclaim Comics' operating losses through May 1997, management's assessment of the state of the comic book industry and management's projections for Acclaim Comics' operations at that time, management believed that there was an impairment in the carrying value of the goodwill relating to the acquisition of Acclaim Comics. Accordingly, in the third quarter of fiscal 1997, the Company recorded a write-down of $25,200 to reduce the carrying value of the goodwill associated with Acclaim Comics to its estimated undiscounted future cash flows. H. Net Revenues The Company adopted Statement of Position ("SOP") 97-2, "Software Revenue Recognition", effective for transactions entered into commencing September 1, 1998. Accordingly, revenue for noncustomized software is recognized when persuasive evidence of an arrangement exists, the software has been delivered, the Company's selling price is fixed or determinable and collectibility of the resulting receivable is probable. The implementation of SOP 97-2 did not have a significant impact on the Company's results of operations. The Company is generally not contractually obligated to accept returns, except for defective product. However, the Company may permit its customers to return or exchange product and may provide pricing allowances on products unsold by a customer. Revenue is recorded net of an allowance for estimated returns, price concessions and other allowances. Such allowance is reflected as a reduction to accounts receivable when the Company expects to grant credits for such items; otherwise, it is reflected as a liability. I. Income Taxes Deferred tax assets and liabilities are recognized for the future tax consequences attributable to differences between the financial statement carrying amounts of existing assets and liabilities and their respective tax bases. Deferred tax assets and liabilities are measured using enacted tax rates expected to apply to taxable income in the years in which those temporary differences are expected to be realized or settled. The effect on deferred tax assets and liabilities of a change in tax rates is recognized in income in the period that includes the enactment date. J. Long-Lived Assets The Company reviews long-lived assets, such as fixed assets and certain identifiable intangibles to be held and used or disposed of, for impairment whenever events or changes in circumstances indicate that the carrying amount of an asset may not be recoverable. If the sum of the expected cash flows, undiscounted and without interest, is less than the carrying amount of the asset, an impairment loss is recognized as the amount by which the carrying amount of the asset exceeds its fair value. 40 ACCLAIM ENTERTAINMENT, INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS FISCAL YEARS ENDED AUGUST 31, 1999, 1998 AND 1997 (in 000s, except per share data) 1. BUSINESS AND SIGNIFICANT ACCOUNTING POLICIES (Continued) K. Foreign Currency Assets and liabilities of foreign operations are translated at rates of exchange at the end of the period, while results of operations are translated at average exchange rates in effect for the period. Unrealized gains and losses from the translation of foreign assets and liabilities are classified as a separate component of stockholders' equity. Included in other income (expense) are realized gains and (losses) from foreign currency transactions of $7,058 and $(7,097); $5,854 and $(6,267); and $2,668 and $(5,074) in fiscal 1999, 1998 and 1997, respectively. The Company does not enter into material foreign currency hedging transactions. L. Accounting for Stock-Based Compensation The Company records compensation expense for employee stock options and warrants if the market price of the underlying stock on the date of the grant exceeds the exercise price. The Company has elected not to implement the fair value based accounting method for employee stock options and warrants, but has elected to disclose the pro forma net earnings and pro forma earnings per share, including compensation expense for employee stock option and warrant grants made beginning in fiscal 1996, as if such method had been used. M. Financial Instruments As of August 31, 1999, the fair value of certain financial instruments including cash equivalents, receivables, trade accounts payable, short-term borrowings and certain other liabilities approximates book value due to the short maturity of these instruments. The carrying value of the Company's mortgage note payable approximated fair value since this instrument has a prime based interest rate that is adjusted for market rate fluctuations. The fair value of the 10% convertible subordinated notes at August 31, 1999 was approximately $74,625 based on a quoted market value. N. Comprehensive Income Effective September 1, 1998, the Company adopted Statement of Financial Accounting Standards No. 130, "Reporting Comprehensive Income", which requires that all items required to be recognized under accounting standards as components of comprehensive income be reported in the financial statements. Comprehensive income is reflected in the statements of stockholders' equity (deficiency). O. 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. Among the more significant estimates included in these financial statements are the estimated allowances for returns and discounts, the estimated valuation of inventory and the recoverability of advance royalty payments and goodwill. Actual results could differ from those estimates. 41 ACCLAIM ENTERTAINMENT, INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS FISCAL YEARS ENDED AUGUST 31, 1999, 1998 AND 1997 (in 000s, except per share data) 1. BUSINESS AND SIGNIFICANT ACCOUNTING POLICIES (Continued) P. Reclassifications Certain reclassifications were made to prior period amounts to conform to the current period presentation format. 2. LICENSE AGREEMENTS The Company has various license agreements with Nintendo Co., Ltd. (Japan) (Nintendo Co., Ltd. and its subsidiary, Nintendo of America, Inc., are collectively herein referred to as "Nintendo") pursuant to which it has the nonexclusive right to utilize the "Nintendo" name and its proprietary information and technology in order to develop and market software for various Nintendo platforms, in various territories throughout the world. The license agreements with Nintendo for the different platforms expire at various times through 2001. In May 1999, the Company entered into an agreement with Sega, pursuant to which it has a non-exclusive license to design, develop and distribute software for Sega's Dreamcast worldwide for so long as Sega manufactures, sells, markets and distributes the Dreamcast game console. The Company pays Sega a royalty fee for each unit of Sega software replicated for the Company. The Company entered into an agreement with Sony Computer Entertainment of America pursuant to which the Company has the nonexclusive right to utilize its proprietary information and technology in order to develop and distribute Software for use with the Sony PlayStation in North America, Europe and Japan which expires in 2002. The Company also licenses intellectual properties from third parties, such as the NFL and South Park. These licenses generally permit the Company to market titles utilizing the licensors' properties in exchange for royalty payments. The Company's license for the WWF properties expires in November 1999 and will not be renewed. Sales of titles using WWF properties aggregated 29% of gross revenues in fiscal 1999. 3. ACQUISITIONS AND DIVESTITURES On November 12, 1998 the Company acquired substantially all of the assets and liabilities of a distributor in Australia. The acquisition was accounted for as a purchase. Accordingly, the operating results are included in the Statements of Consolidated Operations from the acquisition date. The acquired assets and liabilities have been recorded at their estimated fair values at the date of acquisition. The consideration was comprised of (i) $638 in cash, of which $479 was paid at closing, and (ii) 206 shares of common stock, par value $0.02 per share (the "Common Stock"), of the Company with a fair value of $1,796. In addition, the Company assumed $1,417 of liabilities. The total cost of the acquisition was $3,851, of which $1,244 was allocated to identified net tangible assets, primarily accounts receivable. The remaining $2,607 represents the excess of the purchase price over the fair value of the net assets acquired, which is being amortized on a straight-line basis over three years. The operating results of the distributor are insignificant to those of the Company. 42 ACCLAIM ENTERTAINMENT, INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS FISCAL YEARS ENDED AUGUST 31, 1999, 1998 AND 1997 (in 000s, except per share data) 3. ACQUISITIONS AND DIVESTITURES (Continued) On March 5, 1997 the Company sold substantially all of the assets and certain liabilities of Acclaim Redemption Games, Inc., formerly Lazer-Tron Corporation, which was acquired in 1995, for $6,000 in cash. In connection with the sale, the Company granted options to purchase 198 shares of Common Stock to Lazer-Tron's employees under the Company's 1988 Stock Option Plan with a fair value of $720. Including related costs, no gain or loss resulted from this transaction. 4. ACCOUNTS RECEIVABLE Accounts receivable are comprised of the following: August 31, 1999 1998 ---- ---- Receivables assigned to factor $98,470 $62,885 Advances from factor 26,410 18,461 ------ ------ Due from factor 72,060 44,424 Unfactored accounts receivable 10,599 6,398 Foreign accounts receivable 37,461 22,201 Other receivables 3,924 3,414 Allowances for returns and discounts (39,614) (37,260) -------- -------- $84,430 $39,177 ------- ------- Pursuant to a factoring agreement, the Company's principal lending institution acts as its factor for the majority of its North American receivables, which are assigned on a pre-approved basis. At August 31, 1999, the factoring charge amounted to 0.25% of the receivables assigned. The Company's obligations to the lending institution are collateralized by all of the Company's and its North American subsidiaries' accounts receivable, inventories and equipment. The advances for factored receivables are made pursuant to a revolving credit and security agreement, which expires on January 31, 2000. The Company currently anticipates renewing the agreement on substantially the same terms. Pursuant to the terms of the agreement, as amended, which can be canceled by either party upon 90-days' notice prior to the end of the term, the Company is required to maintain specified levels of working capital and tangible net worth, among other covenants. As of August 31, 1999, the Company was in compliance with the covenants under its revolving credit facility. In February 1997, certain bank fees were paid with the issuance of immediately exercisable warrants to purchase 200 shares of Common Stock at an exercise price of $3.97 per share, which warrants expire on February 19, 2006. The fair value of the warrants of $568 was expensed in fiscal 1997. The Company draws down working capital advances and opens letters of credit (up to an aggregate maximum of $20 million) against the facility in amounts determined on a formula based on factored receivables, inventory and cost of imported goods under outstanding letters of credit. Interest is charged at the lending institution's prime lending rate plus one percent per annum (9.25% at August 31, 1999) on such advances. Pursuant to the terms of certain distribution, warehouse and credit and collection agreements, certain of the Company's accounts receivable are due from distributors. These receivables are not collateralized and as a result management continually monitors the financial condition of these distributors. No additional credit risk beyond amounts provided for collection losses is believed inherent in the Company's 43 ACCLAIM ENTERTAINMENT, INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS FISCAL YEARS ENDED AUGUST 31, 1999, 1998 AND 1997 (in 000s, except per share data) 4. ACCOUNTS RECEIVABLE (Continued) accounts receivable. At August 31, 1999 and 1998, the balance due from distributors was approximately 17% and 11%, respectively, of gross accounts receivable. At August 31, 1999, included in receivables assigned to factor is a balance due from one domestic retail customer and one domestic distributor, which comprised approximately 15% and 5%, respectively, of gross accounts receivable. 5. PREPAID EXPENSES Prepaid expenses are comprised of the following: August 31, 1999 1998 ------ ------ Royalty advances $4,335 $2,754 Prepaid advertising costs 935 1,883 Prepaid product costs -- 4,174 Prepaid taxes 2,855 3,441 Other prepaid expenses 6,745 4,319 ------- ------- $14,870 $16,571 ------- ------- Prepaid advertising costs consist principally of advance payments in respect of television and other media advertising. Advertising expenses are charged to income as incurred. Prepaid product costs represent advance payments for third-party product purchases in Europe. 6. FIXED ASSETS The major classes of fixed assets are as follows: August 31, 1999 1998 ------- ------- Buildings and improvements $24,340 $24,014 Furniture, fixtures and equipment 38,958 30,267 Automotive equipment 679 988 ------- ------- 63,977 55,269 Less: accumulated depreciation (31,283) (25,975) ------- ------- $32,694 $29,294 ------- ------- The estimated useful lives of these assets are: Buildings and improvements 1 to 20 years Furniture, fixtures and equipment 1 to 7 years Automotive equipment 3 to 5 years 7. SHORT-TERM BORROWINGS Short-term borrowings at August 31, 1998 consisted of $16 outstanding under a short-term loan from a bank in France. The average annual interest rate applicable to the loan for the year ended August 31, 1998 was approximately 7.15%. 44 ACCLAIM ENTERTAINMENT, INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS FISCAL YEARS ENDED AUGUST 31, 1999, 1998 AND 1997 (in 000s, except per share data) 8. ACCRUED EXPENSES Accrued expenses are comprised of the following: August 31, 1999 1998 -------- ------- Accrued royalties payable and licensing obligations $ 31,978 $36,221 Accrued selling expenses and sales allowances 32,698 20,260 Accrued litigation settlements (Note 17(a)) 4,960 8,130 Accrued downsizing expenses -- 813 Accrued payroll and payroll taxes 7,582 4,911 Other accrued taxes 7,114 6,386 Other accrued expenses 19,331 15,486 -------- ------- $103,663 $92,207 -------- ------- In fiscal 1997 the Company accrued $10,000 for severance, lease commitments for idle facilities and write-offs of non-productive assets associated with the downsizing of the Company. As of August 31, 1999 all the costs were paid. 9. LONG-TERM DEBT Long-term debt consists of the following: August 31, 1999 1998 (A) 10% Convertible Subordinated Notes due 2002 $49,750 $50,000 (B) Mortgage note 1,931 2,655 ------- ------- 51,681 52,655 Less: current portion 724 724 ------- ------- $50,957 $51,931 ------- ------- (A) In February 1997, the Company issued $50,000 of unsecured 10% Convertible Subordinated Notes ("Notes") due March 1, 2002 with interest payable semiannually. The Notes were sold at par with proceeds to the Company of $47,400, net of expenses. The indenture governing the Notes contains covenants that, among other things, substantially limit the Company's ability to incur additional indebtedness, issue preferred stock, pay dividends and make certain other payments. The Notes are convertible into shares of Common Stock prior to maturity, unless previously redeemed, at a conversion price of $5.18 per share, subject to adjustment under certain conditions. The Notes are redeemable in whole or in part, at the option of the Company (subject to the rights of holders of senior indebtedness) at 104% of the principal balance at any time on or after March 1, 2000 through February 28, 2001 and at 102% of the principal balance thereafter to maturity. (B) Interest on the mortgage note until April 30, 1997 was charged at the bank's prime lending rate and is currently charged at the bank's prime lending rate plus one percent per annum (9.25% at August 31, 1999). The mortgage note is collateralized by a building (corporate headquarters) with a carrying value of approximately $14,358. As of August 31, 1996 and November 30, 1996, the Company was in default of various financial and other covenants with the mortgage lender. The mortgage lender waived these past defaults, conditioned upon the mortgage lender receiving $2,000 from the net proceeds from the issuance of the Notes and the Company accelerating payment terms on the balance of the loan. The Company used $2,000 of the net proceeds from the issuance of the Notes to repay a portion of the mortgage note and under the Note Modification Agreement dated September 11, 1997 made an 45 ACCLAIM ENTERTAINMENT, INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS FISCAL YEARS ENDED AUGUST 31, 1999, 1998 AND 1997 (in 000s, except per share data) 9. LONG-TERM DEBT - (Continued) additional accelerated payment of $500 over nine months through January 1998. The Company has agreed to make quarterly payments of $181 through February 1, 2002. Maturities of long-term debt are as follows: Years ending August 31, 2000 $ 724 2001 724 2002 50,233 ------- $51,681 ------- 10. OBLIGATIONS UNDER CAPITAL AND OPERATING LEASES The Company is committed under various capital leases for equipment expiring at various dates through 2006. Future minimum payments required under such leases are as follows: Years ending August 31, 2000 $ 585 2001 406 2002 215 2003 166 2004 35 Thereafter 48 ------ Total minimum lease payments 1,455 Less: amount representing interest 162 ------ Present value of net minimum lease payments $1,293 ------ The present value of net minimum lease payments is reflected in the August 31, 1999 balance sheet as current and noncurrent obligations under capital leases of $518 and $775, respectively. The Company has operating leases for rental space and equipment which expire on various dates through 2004. The leases provide for contingent rentals based upon escalation clauses. Future minimum rental payments required under such leases are as follows: Years ending August 31, 2000 $ 3,356 2001 2,745 2002 2,038 2003 1,159 2004 949 Thereafter 1,306 ------- Total minimum operating lease payments $11,553 ------- Rent expense under operating leases was $2,839, $2,632 and $3,402 for fiscal 1999, 1998 and 1997, respectively. 46 ACCLAIM ENTERTAINMENT, INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS FISCAL YEARS ENDED AUGUST 31, 1999, 1998 AND 1997 (in 000s, except per share data) 11. PROVISION FOR INCOME TAXES The provision for (benefit from) income taxes consists of the following: 1999 1998 1997 ---- ---- ---- Current: Federal $1,573 $ 35 -- Foreign 999 320 $860 State 400 409 22 ------ ---- ---- 2,972 764 882 ------ ---- ---- Deferred: Federal -- -- 75 Foreign -- -- (75) ------ ---- ---- -- -- -- ------ ---- ---- Total income tax provision $2,972 $764 $882 ------ ---- ---- A reconciliation of the federal statutory income tax rate with the effective income tax rate follows: 1999 1998 1997 ---- ---- ---- Statutory tax rate 35.0% 35.0% (35.0)% State income taxes, net of federal income tax benefit 0.7 1.9 -- (Decrease) increase in valuation allowance (33.0) (48.0) 27.2 Nondeductible expenses 4.4 12.3 6.8 Foreign tax rate differential, net of foreign tax credits (0.2) (2.4) -- Other 0.7 4.8 1.6 ---- ---- ---- Effective income tax rate 7.6% 3.6% 0.6% ---- ---- ---- The tax effects of temporary differences that give rise to the net deferred tax assets recorded on the consolidated balance sheets as of August 31, 1999 and 1998 are as follows: 1999 1998 ---- ---- Reserves and allowances $17,906 $11,443 Accrued expenses 3,280 5,399 Federal net operating loss carryforwards 31,500 38,500 Foreign net operating loss carryforwards 3,820 3,449 Other 1,305 432 ------- ------- 57,811 59,223 Valuation allowance 57,811 59,223 ------- ------- -- -- ------- ------- 47 ACCLAIM ENTERTAINMENT, INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS FISCAL YEARS ENDED AUGUST 31, 1999, 1998 AND 1997 (in 000s, except per share data) 11. PROVISION FOR INCOME TAXES (Continued) As of August 31, 1999, the Company has a U.S. tax net operating loss carryforward of approximately $90,000 expiring in fiscal 2011 to 2012. At August 31, 1999 the Company has provided a valuation allowance of $57,811 against its net deferred tax assets due to the Company's recent cumulative pre-tax losses and lack of significant offsetting objective evidence that the deferred tax assets are realizable. If the entire deferred tax asset were realized, $4,620 would be allocated to paid-in capital with the remainder reducing income tax expense. A provision for additional taxes on income which would become payable upon the repatriation of earnings from its foreign subsidiaries has not been provided since, upon repatriation, the tax consequences of such distributions would be substantially offset by available foreign tax credits. 12. EARNINGS (LOSS) PER SHARE In fiscal 1998, the Company adopted Statement of Financial Accounting Standards No. 128 ("SFAS 128"), "Earnings per Share," which requires the presentation of basic and diluted earnings per share. Basic earnings (loss) per share is computed based upon the weighted average number of shares of Common Stock outstanding. Diluted earnings (loss) per share is computed based upon the weighted average number of shares of Common Stock outstanding increased by dilutive Common Stock options and warrants and the effect of assuming the conversion of the outstanding Notes, if dilutive. Prior year earnings per share data has been restated to apply the provisions of SFAS 128. The table below provides the components of the per share computations. 1999 1998 1997 ------- ------- ---------- Basic EPS Computation Net earnings (loss) $36,058 $20,690 $(159,228) ------- ------- ---------- Weighted average common shares outstanding 54,284 51,123 49,670 Basic earnings (loss) per share $0.66 $0.40 $(3.21) 1999 1998 1997 ------- ------- ---------- Diluted EPS Computation Net earnings (loss) $36,058 $20,690 $(159,228) 10% Convertible Subordinated Notes Interest Expense 4,982 -- -- ------- ------- ---------- Adjusted Net Earnings (Loss) $41,040 $20,690 $(159,228) ------- ------- ---------- Weighted average common shares outstanding 54,284 51,123 49,670 Stock options and warrants 8,314 5,472 -- 10% convertible subordinated notes 9,604 -- -- ------- ------- ---------- Diluted common shares outstanding 72,202 56,595 49,670 ------- ------- ---------- Diluted earnings (loss) per share $0.57 $0.37 $(3.21) The assumed conversion of the outstanding Notes was excluded from fiscal 1998 and 1997 diluted earnings per share calculations since they were anti-dilutive. 48 ACCLAIM ENTERTAINMENT, INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS FISCAL YEARS ENDED AUGUST 31, 1999, 1998 AND 1997 (in 000s, except per share data) 13. STOCK OPTION AND PURCHASE PLANS (A) The Company's 1988 Stock Option Plan provided for the grant of up to 25,000 shares of Common Stock to employees, directors and consultants; that plan expired in May 1998. On October 1, 1998, the stockholders authorized the adoption of the 1998 Stock Incentive Plan which provides for the grant of up to 5,442 shares of Common Stock to employees, directors and consultants. Under both plans, the exercise price per share of all incentive stock options granted to employees was at the market price, or 110% thereof for certain employees, and, for non-incentive options, not less than 85% of market price, of the Common Stock on the date of grant. Generally, outstanding options become exercisable ratably over a three year period from the date of grant (although this may be accelerated due to retirement, disability or death). Outstanding options must generally be exercised within ten years from the date of grant or, with respect to incentive options, within five years from the date of grant for certain employees. At August 31, 1999, options to purchase approximately 6,165 shares at a weighted-average exercise price of $4.46 per share were exercisable and 4,530 options to purchase shares were available for future grant. In addition, the 1998 Plan provides for the grant of stock appreciation rights and stock awards subject to such terms and conditions as shall be determined at the time of grant. To date, no stock appreciation rights or shares of stock have been awarded under the 1998 plan. Option transactions are summarized as follows: Shares Under Option Weighted ------------------- Average Incentive Non-Incentive Exercise Price --------- ------------- -------------- Outstanding, August 31, 1996 4,985 7,297 $8.87 ------- ------- Granted 8,754 5,242 $4.06 Exercised (80) (1) $2.07 Cancelled (7,976) (3,156) $7.89 ------- ------- Outstanding, August 31, 1997 5,683 9,382 $5.16 ----- ----- Granted 1,484 3,145 $4.64 Exercised (529) (694) $3.52 Cancelled (1,680) (2,605) $6.41 ------- ------- Outstanding, August 31, 1998 4,958 9,228 $4.75 ------- ------- Granted 378 428 $7.11 Exercised (1,022) (1,295) $3.56 Cancelled (601) (1,051) $8.55 ------- ------- Outstanding, August 31, 1999 3,713 7,310 $4.60 ------- ------- In addition, options to purchase 11 shares of Common Stock at $3.92 per share, 37 shares of Common Stock at $16 per share and 137 shares of Common Stock at $3.375 per share were granted outside the 1988 Stock Option Plan and 1998 Stock Incentive Plan and remain outstanding at August 31, 1999. The options outstanding as of August 31, 1999 are summarized in ranges as follows: Incentive Options:
Weighted Average Number of Incentive Weighted Average Range of Exercise Price Exercise Price Options Outstanding Remaining Life (Years) - ----------------------- -------------- ------------------- ---------------------- $1.96 - $ 3.94 $3.54 2,186 7 $3.95 - $ 5.92 $4.32 654 8 $5.93 - $10.88 $7.59 873 9 ----- 3,713
49 ACCLAIM ENTERTAINMENT, INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS FISCAL YEARS ENDED AUGUST 31, 1999, 1998 AND 1997 (in 000s, except per share data) 13. STOCK OPTION AND PURCHASE PLANS - (Continued)
Non-Incentive Options: Weighted Average Number of Non-Incentive Weighted Average Range of Exercise Price Exercise Price Options Outstanding Remaining Life (Years) - ----------------------- -------------- ------------------- ---------------------- $1.96 - $3.94 $3.14 4,321 5 $3.95 - $9.49 $5.45 2,677 8 $9.50 - $24.00 $17.30 312 5 ----- 7,310
The per share weighted average fair value of stock options granted during fiscal 1999, 1998 and 1997 was $4.71, $2.79 and $2.49, respectively, on the date of grant using the Black Scholes option-pricing model with the following weighted-average assumptions: expected dividend yield of 0%, risk free interest rate of 5.69%, 5.24% and 5.94%, respectively, expected stock volatility of 95%, 82% and 96%, respectively, and an expected option life of 3 years. The Company applied APB Opinion No. 25 in accounting for its stock option grants and, accordingly, no compensation cost has been recognized in the financial statements for its employee stock options which have an exercise price equal to or greater than the fair value of the stock on the date of the grant. Had the Company determined compensation cost based on the fair value at the grant date for its stock options under SFAS No. 123, the Company's net earnings (loss) and net earnings (loss) per share would have been the following pro forma amounts: 1999 1998 1997 ---- ---- ---- Net earnings (loss): As reported $36,058 $20,690 $(159,228) 10% Convertible Subordinated Notes Interest Expense 4,982 -- -- ------- ------- ---------- Adjusted Net Earnings (Loss) $41,040 $20,690 $(159,228) ------- ------- ---------- Pro forma $35,269 $14,208 $(163,593) Diluted net earnings (loss) per share: As reported $0.57 $0.37 $(3.21) Pro forma $0.49 $0.25 $(3.29) Pro forma net earnings (loss) reflects only options granted in fiscal 1996 and thereafter. Therefore, the full impact of calculating compensation cost for stock options under SFAS No. 123 is not reflected in the pro forma net earnings (loss) amounts presented above because compensation cost is reflected over the options' vesting period and compensation cost for options granted prior to September 1, 1995 was not considered. (B) Effective May 4, 1998, the Company adopted an employee stock purchase plan to provide employees who meet eligibility requirements an opportunity to purchase shares of its Common Stock through payroll deductions of up to 10% of eligible compensation. Bi-annually, participant account balances are used to purchase shares of stock at 85% of the lesser of the fair market value of shares on the exercise date or the offering date. The plan remains in effect for a term of 20 years, unless sooner terminated by the Board of Directors. A total of 3,000 shares are available for purchase under the plan. In fiscal 1999, 183 shares were purchased under the plan. Compensation expense of $516 in fiscal 1999 has been recognized for the fair value of the employee's purchase rights using the Black-Scholes model. 50 ACCLAIM ENTERTAINMENT, INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS FISCAL YEARS ENDED AUGUST 31, 1999, 1998 AND 1997 (in 000s, except per share data) 14. EQUITY At August 31, 1999 and 1998, 2,625 stock warrants were outstanding and exercisable. The stock warrants entitle the holders thereof to purchase 1,500 shares of Common Stock at $2.42 per share and 1,125 shares of Common Stock at $3.00 per share. The stock warrants expire in 2001. Deferred compensation at August 31, 1999 and 1998 includes $246 and $1,092, respectively, which represents Common Stock escrowed on behalf of certain executives pursuant to employment agreements. The Common Stock is ratably released from escrow and the fair value of the Common Stock is recorded as expense when earned over the five-year term of the agreements; the shares are recoverable by the Company if the executive's employment with the Company is terminated upon the occurrence of certain events specified in the respective employment agreements. In fiscal 1996, the Company issued 463 shares of restricted Common Stock to employees. The fair value of the Common Stock issued of $4,990 is being expensed when earned over the five-year period that the restrictions lapse. If employment with the Company is terminated by the employee, any remaining restricted shares will be returned to the Company. In fiscal 1997, in accordance with the settlement of a claim against the Company, the Company accelerated the vesting of certain restricted shares of Common Stock and recorded the related deferred compensation as an expense in fiscal 1997. In fiscal 1998, the Company awarded 15 shares of restricted Common Stock to an employee. The fair value of the Common Stock of $114 was expensed when earned over an eight month period until the restrictions lapsed. In fiscal 1999, the Company awarded 300 shares of restricted stock to an employee and 100 shares to another employee. The fair value of the Common Stock of $3,169 is being expensed over three year periods until the restrictions lapse. Deferred compensation includes $1,917 at August 31, 1999 and $433 at August 31, 1998 related to such restricted stock awards. Also included in deferred compensation at August 31, 1999 and 1998 is $490 and $2,008, respectively, related to fiscal 1998 and 1996 grants of stock options with exercise prices of less than the fair value of the Common Stock on the date of grant. Total deferred compensation was $2,964 and $2,775 for the 1998 and 1996 grants, respectively, which is being expensed at varying amounts through 2000. In fiscal 1998, the Company granted a total of 390 options to non-employees for services. The exercise price of the options was equal to the fair value of the Common Stock on the grant date. The fair value of the options aggregating $674 was expensed in fiscal 1998. In connection with litigation settlements, in fiscal 1999 the Company issued 770 warrants with exercise prices from $3.50 to $7.56 that expire from February 2001 to April 2002. During fiscal 1999, 234 of such warrants were exercised. 15. MAJOR SUPPLIERS AND CUSTOMERS AND RELATED PARTY TRANSACTIONS A. Major Suppliers and Customers The Company is substantially dependent on Nintendo and Sony as the sole manufacturers of the software developed by the Company for Nintendo's and Sony's hardware platforms and on Nintendo, Sony and Sega as the sole licensors of the proprietary information and technology needed to develop Software for each manufacturer's platforms. For the years ended August 31, 1999, 1998 and 1997, the Company derived 64%, 60% and 41% of its gross revenues, respectively, from sales of Nintendo-compatible Software, 27%, 30% and 28% of its gross revenues, respectively, from sales of 51 ACCLAIM ENTERTAINMENT, INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS FISCAL YEARS ENDED AUGUST 31, 1999, 1998 AND 1997 (in 000s, except per share data) 15. MAJOR SUPPLIERS AND CUSTOMERS AND RELATED PARTY TRANSACTIONS (Continued) Software for PlayStation and less than 1%, less than 1% and 12% of its gross revenues, respectively, from sales of Sega-compatible software. The Company markets its products primarily to mass merchandise companies, large retail toy store chains, department stores and specialty stores. Sales to two customers represented 14% and 11% of revenues for the year ended August 31, 1999 and sales to one customer represented 15% and 12% of revenues for the years ended August 31, 1998 and 1997, respectively. B. Related Party Transactions Sales commissions are payable to one company in fiscal 1999 and 1998 and to two companies in fiscal 1997 owned or controlled by one of the Company's principal stockholders for sales obtained by these companies. These commissions amounted to approximately $853, $599 and $535 for the years ended August 31, 1999, 1998 and 1997, respectively, of which $130 and $70 are included in accrued expenses at August 31, 1999 and 1998, respectively. As of August 31, 1999, included in other receivables are loans receivable of $650 in the aggregate to two executive officers of the Company. Of such amounts, $450 bears no interest and is due over five years and $200 bears interest at the applicable federal rate and is payable on demand. Also included in other receivables as of August 31, 1999 are convertible notes receivable of $1,500 due from an entity, one of whose directors is also a director of the Company. 16. SEGMENT INFORMATION In August 1999, the Company adopted SFAS No.131, "Disclosures about Segments of an Enterprise and Related Information", which supersedes SFAS No. 14, "Financial Reporting for Segments of a Business Enterprise". The Company's chief operating decision-maker is the Company's Chief Executive Officer. The Company has three reportable segments: North America, Europe, and Pacific Rim, which are organized, managed and analyzed geographically and operate in one industry segment: the development, marketing and distribution of entertainment software. Information about the Company's operations for the fiscal years ended August 31, 1999, 1998 and 1997 is presented below:
North Pacific America Europe Rim Eliminations Total ------- ------ --- ------------ ----- Fiscal 1999 Net revenues from external customers $300,403 $116,519 $14,052 -- $430,974 Intersegment sales 436 3,798 49 $(4,283) -- -------- -------- ------- -------- -------- Total net revenues 300,839 120,317 14,101 (4,283) 430,974 Interest income 3,878 102 19 -- 3,999 Interest expense 8,503 155 2 -- 8,660 Depreciation and amortization 9,295 1,547 832 -- 11,674 Identifiable assets 189,643 47,797 7,398 -- 244,838 Segment operating profit (loss) 32,888 7,636 (496) -- 40,028
52 ACCLAIM ENTERTAINMENT, INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS FISCAL YEARS ENDED AUGUST 31, 1999, 1998 AND 1997 (in 000s, except per share data) 16. SEGMENT INFORMATION (Continued)
North Pacific America Europe Rim Eliminations Total ------- ------ --- ------------ ----- Fiscal 1998 Net revenues from external customers $216,830 $107,032 $2,699 -- $326,561 Intersegment sales 6,546 72 -- $(6,618) -- -------- -------- ------ ------- -------- Total net revenues 223,376 107,104 2,699 (6,618) 326,561 Interest income 2,031 163 2 -- 2,196 Interest expense 7,523 121 -- -- 7,644 Depreciation and amortization 11,563 1,659 15 -- 13,237 Identifiable assets 121,945 37,734 728 -- 160,407 Segment operating profit (loss) 15,852 9,352 (510) -- 24,694 Fiscal 1997 Net revenues from external customers 84,662 72,401 8,348 --- 165,411 Intersegment sales 4,359 -- -- (4,359) -- ----- ----- ----- -------- ------- Total net revenues 89,021 72,401 8,348 (4,359) 165,411 Interest income 1,982 199 5 -- 2,186 Interest expense 6,204 95 51 -- 6,350 Depreciation and amortization 39,555 1,790 75 -- 41,420 Identifiable assets 108,261 24,055 859 -- 133,175 Segment operating profit (loss) (154,402) 4,146 (687) -- (150,943)
The Company's gross revenues were derived from the following product categories: 1999 1998 1997 ---- ---- ---- Portable software 5.0% 2.0% 2.0% 16-bit software -- -- 9.0% 32-bit software 27.0% 30.0% 37.0% 64-bit software 59.0% 57.0% 33.0% Computer games software 8.0% 10.0% 15.0% Other 1.0% 1.0% 4.0% 17. COMMITMENTS AND CONTINGENCIES (a) Legal Proceedings In conjunction with claims arising from certain of the Company's acquisitions and then pending litigations and claims for which the settlement obligation was then probable and estimable, the Company recorded a charge of $23,550 during the year ended August 31, 1997. 53 ACCLAIM ENTERTAINMENT, INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS FISCAL YEARS ENDED AUGUST 31, 1999, 1998 AND 1997 (in 000s, except per share data) 17. COMMITMENTS AND CONTINGENCIES - (continued) During fiscal 1998, the Company settled substantially all of its outstanding litigations and claims for amounts approximating the related accrued liabilities. Litigations and claims that have been settled include those by Digital Pictures, Inc., Sound Source Interactive, Inc., Spectrum Holobyte California, Inc., Ocean of America, Inc., those arising from certain of the Company's acquisitions, and the class action litigations relating to the Lazer-Tron acquisition, the 1995 revision of an earnings release and an action relating to the status of a license agreement with WMS Industries, Inc. Such settlements totaling $21,358 as of August 31, 1999, net of a settlement gain discussed below, are being satisfied by the payment of $10,214 in cash and $11,144 in Common Stock and warrants. The fair value of the shares of Common Stock issued in settlement is based on the quoted market value of the Common Stock on the date of issuance and the fair value of warrants issued in settlement is calculated using the Black Scholes option pricing model. As of August 31, 1999, the Company had paid $8,273 and $8,594 of the cash and non-cash portions of the settlements, respectively. The non-cash portion consisted of the issuance of 770 warrants in fiscal 1999 and 1,274 shares of Common Stock in fiscal 1998 with fair values of $1,700 and $6,894, respectively. The remaining balance of the settlement obligations combined with other accrued litigation settlements amounted to $6,812 at August 31, 1999. In the balance sheet, $4,960 is included in accrued expenses and $1,852 is included in other long-term liabilities. The balance of the non-cash obligation will be satisfied with warrants which generally will have exercise prices of $0.50 less than the fair market value of the Common Stock on the day the price is set, will be exercisable for three years and provide for a cashless net option exercise. One settlement agreement provides that, based on the market value of the Common Stock during the three year period following final settlement, additional shares of Common Stock could be issued or a portion of the shares issued could be returned to the Company. In fiscal 1999, the Company had a litigation settlement gain of $1,753. The gain resulted from the reduction of a previously recorded contractual obligation due to the occurrence of various events identified in the settlement agreement, including an increase in the market value of the Company's common stock to a value specified in the settlement agreement. Outstanding litigations, claims and related matters at August 31, 1999 consist of the following: The Company and several other firms in the entertainment industry were sued in an action entitled James, et al. v. Meow Media, et al. filed in April 1999. The plaintiffs allege that the defendants caused injury to the plaintiffs as a result of, in the case of the Company, its manufacture and/or supply of "violent" video games. The plaintiffs seek damages in the amount of approximately $110,000,000. The Company intends to defend this action vigorously. The Company has entered into a joint defense agreement and is sharing defense costs with certain of the other defendants. The Company, Iguana Entertainment, Inc. and Gregory E. Fischbach were sued in an action entitled Jeffery Spangenberg vs. Acclaim Entertainment, Inc., Iguana Entertainment, Inc., and Gregory Fischbach filed in August 1998. The plaintiff alleges that the defendants (i) breached their employment obligations to the plaintiff; (ii) breached a Texas statute covering wage payment obligations based on their alleged failure to pay bonuses to the plaintiff; and (iii) made fraudulent misrepresentations to the plaintiff in connection with the plaintiff's employment relationship with the Company and, accordingly, seeks unspecified damages. The Company intends to defend this action vigorously. The SEC issued orders in April 1996 directing a private investigation relating to, among other things, the Company's October 1995 release of its earnings estimate for fiscal 1995. The Company provided documents to the SEC, and the SEC took testimony from Company representatives. The Company was advised in August 1999 that the Staff of the SEC proposes to recommend that the SEC authorize 54 ACCLAIM ENTERTAINMENT, INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS FISCAL YEARS ENDED AUGUST 31, 1999, 1998 AND 1997 (in 000s, except per share data) 17. COMMITMENTS AND CONTINGENCIES - (continued) enforcement action against the Company and three of its directors (two of whom are members of the Company's Audit Committee) in connection with matters related to the Company's release. In accordance with the SEC's rules, the Company has submitted a response to the Staff's proposed recommendation. The Company has previously settled litigations relating to the Company's October 1995 release, and the related charges were recorded in fiscal 1997. No assurance can be given as to the outcome of the SEC investigation. The Company is also party to various litigations arising in the ordinary course of its business, the resolution of none of which, the Company believes, will have a material adverse effect on the Company's liquidity or results of operations. (b) At August 31, 1999, the Company and its subsidiaries had outstanding letters of credit aggregating approximately $21,100 for the purchase of merchandise. The Company's subsidiaries had independent facilities totalling approximately $3,494 with various banks at August 31, 1999. (c) Trade accounts payable include $18,634 and $8,346 at August 31, 1999 and 1998, respectively, which were collateralized under outstanding letters of credit. (d) The Company has established an Employee Savings Plan effective January 1, 1995, which qualifies as a deferred salary arrangement under Section 401(k) of the Internal Revenue Code. The plan is available to all U.S. employees who meet the eligibility requirements. Under the plan, participating employees may elect to defer a portion of their pretax earnings, up to the maximum allowed by the Internal Revenue Service (up to the lesser of 15% of compensation or $10 for calendar year 1999). All amounts vest immediately. Generally, the plan assets in a participant's account will be distributed to a participant or his or her beneficiaries upon termination of employment, retirement, disability or death. All plan administrative fees are paid by the Company. Generally, the Company does not provide its employees any other post retirement or post employment benefits, except discretionary severance payments upon termination of employment. (e) The Company has entered into employment agreements with certain of its officers which provide for annual bonus payments based on consolidated income before income taxes, in addition to their base compensation. 18. QUARTERLY FINANCIAL DATA (UNAUDITED) The following table sets forth certain quarterly financial information for fiscal 1999:
Quarter Ended ------------------------------------------------------------------------------- November 30, February 28, May 31, August 31, 1998 1999 1999 1999 Total -------- -------- ------- -------- -------- Gross Revenues $121,561 $157,948 $90,331 $134,873 $504,713 Sales credits and allowances 16,730 22,292 10,284 24,433 73,739 -------- -------- ------- -------- -------- Net revenues 104,831 135,656 80,047 110,440 430,974 Cost of revenues 50,500 68,230 36,778 45,472 200,980 Net earnings 10,287 14,520 99 11,152 36,058 Diluted earnings per share $0.16 $0.21 $0.00 $0.17 $0.57
55 ACCLAIM ENTERTAINMENT, INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS FISCAL YEARS ENDED AUGUST 31, 1999, 1998 AND 1997 (in 000s, except per share data) 18. QUARTERLY FINANCIAL DATA (UNAUDITED) (Continued) The following table sets forth certain quarterly financial information for fiscal 1998:
Quarter Ended ------------------------------------------------------------------------------- November 30, February 28, May 31, August 31, 1998 1999 1999 1999 Total -------- -------- ------- -------- -------- Gross Revenues $105,917 $76,349 $82,045 $113,363 $377,674 Sales credits and allowances 13,640 7,006 8,891 21,576 51,113 -------- -------- ------- -------- -------- Net revenues 92,277 69,343 73,154 91,787 326,561 Cost of revenues 44,002 33,227 31,369 40,062 148,660 Net earnings (loss) 8,015 (1,230) 5,669 8,236 20,690 Diluted earnings (loss) per share $0.15 $(0.02) $0.09 $0.14 $0.37
The sum of the quarterly net earnings per share amounts do not equal the annual amount reported, as per share amounts are computed independently for each quarter and for the twelve months based on the weighted average common and common equivalent shares outstanding in each such period. 56 Item 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND FINANCIAL DISCLOSURE. None. PART III Item 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT Information called for by Item 10 of Form 10-K is set forth under the heading "Election of Directors" in the Company's Proxy Statement for its 2000 annual meeting of stockholders (the "Proxy Statement"), which is incorporated herein by reference, and under the heading "Executive Officers of the Company" in the Business section included herein. Item 11. EXECUTIVE COMPENSATION Information called for by Item 11 of Form 10-K is set forth under the heading "Executive Compensation" in the Proxy Statement, which is incorporated herein by reference. Item 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT Information called for by Item 12 of Form 10-K is set forth under the heading "Security Ownership of Certain Beneficial Owners and Management" in the Proxy Statement, which is incorporated herein by reference. Item 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS Information called for by Item 13 of Form 10-K is set forth under the heading "Certain Relationships and Related Transactions" in the Proxy Statement, which is incorporated herein by reference. 57 PART IV Item 14. EXHIBITS, FINANCIAL STATEMENT SCHEDULES AND REPORTS ON FORM 8-K. (a) and (d) 1. Financial Statements: The following Financial Statements of the Company are included in Part II: Item 8 Independent Auditors' Report. Consolidated Balance Sheets - August 31, 1999 and 1998. Statements of Consolidated Operations - Years Ended August 31, 1999, 1998 and 1997. Statements of Consolidated Stockholders' Equity (Deficiency) - Years Ended August 31, 1999, 1998 and 1997. Statements of Consolidated Cash Flows - Years Ended August 31, 1999, 1998 and 1997. Notes to Consolidated Financial Statements. (a) and (d) 2. Financial Statement Schedule: Schedule II - Allowance for Returns and Discounts All other schedules have been omitted because they are not applicable, or not required, or because the required information is included in the Consolidated Financial Statements or notes thereto. (b) Current Reports on Form 8-K: None (c) Exhibits: Exhibit No. Description - ----------- ----------- 3.1 Certificate of Incorporation of the Company (incorporated by reference to Exhibit 3.1 to the Company's Registration Statement on Form S-1, filed on April 21, 1989, as amended (Registration No. 33-28274) (the "1989 S-1")) 3.2 Amendment to the Certificate of Incorporation of the Company (incorporated by reference to Exhibit 3.2 to the 1989 S-1) 3.3 Amendment to the Certificate of Incorporation of the Company (incorporated by reference to Exhibit 4(d) to the Company's Registration Statement on Form S-8, filed on May 19, 1995 (Registration No. 33-59483) (the "1995 S-8")) 3.4 Amended and Restated By-laws of the Company (incorporated by reference to Exhibit 4(e) to the 1995 S-8) 4.1 Specimen form of the Company's common stock certificate (incorporated by reference to Exhibit 4 to the Company's Annual Report on Form 10-K for the year ended August 31, 1989, as amended (File No. 0-16986)) 4.2 Indenture dated as of February 26, 1997 between the Company and IBJ Schroder Bank & Trust Company, as trustee (incorporated by reference to Exhibit 4.3 to the Company's Report on Form 8-K, filed on March 14, 1997 (File No. 0-16986)) 58 +10.1 Employment Agreement dated as of September 1, 1994 between the Company and Gregory E. Fischbach; and Amendment No. 1 dated as of December 8, 1996 between the Company and Gregory E. Fischbach (incorporated by reference to Exhibit 10.1 to the Company's Annual Report on Form 10-K for the year ended August 31, 1996 (File No. 0-16986) (the "1996 10-K")) +10.2 Employment Agreement dated as of September 1, 1994 between the Company and James Scoroposki; and Amendment No. 1 dated as of December 8, 1996 between the Company and James Scoroposki (incorporated by reference to Exhibit 10.2 to the 1996 10-K) +10.3 Service Agreement effective January 1, 1998 between Acclaim Entertainment Limited and Rodney Cousens +10.4 Employment Agreement dated as of August 13, 1999 between the Company and William G. Sorenson +10.5 Restricted Stock Agreement dated August 18, 1999 between the Company and William G. Sorenson +10.6 Employee Stock Purchase Plan (incorporated by reference to Exhibit 4(a) to the Company's Registration Statement on Form S-8 filed on May 4, 1998 (Registration No. 333-51967)) +10.7 1998 Stock Incentive Plan (incorporated by reference to the Company's 1998 Proxy Statement relating to fiscal year ended August 31, 1997) 10.8 Revolving Credit and Security Agreement dated as of January 1, 1993 between the Company, Acclaim Distribution Inc., LJN Toys, Ltd., Acclaim Entertainment Canada, Ltd. and Arena Entertainment Inc., as borrowers, and BNY Financial Corporation ("BNY"), as lender, as amended and restated on February 28, 1995 (incorporated by reference to Exhibit 10.1 to the Company's Quarterly Report on Form 10-Q for the quarter ended February 28, 1995 (File No. 0-16986) (the "1995 10-Q")), as further amended and modified by (i) the Amendment and Waiver dated November 8, 1996, (ii) the Amendment dated November 15, 1996, (iii) the Blocked Account Agreement dated November 14, 1996, (iv) Letter Agreement dated December 13, 1996 and (v) Letter Agreement dated February 24, 1997 (incorporated by reference to Exhibit 10.4 to the Company's Report on Form 8-K filed on March 14, 1997 (File No. 0-16986) (the "1997 8-K")) 10.9 Restated and Amended Factoring Agreement dated as of February 28, 1995 between the Company and BNY (incorporated by reference to Exhibit 10.2 to the 1995 10-Q), as further amended and modified by the Amendment to Factoring Agreements dated February 24, 1997 between the Company and BNY (incorporated by reference to Exhibit 10.5 to the 1997 8-K) 10.10* Confidential License Agreement between Nintendo of America and the Company, effective as of February 20, 1997 (incorporated by reference to Exhibit 1 to the Company's Quarterly Report on Form 10-Q for the quarter ended February 28, 1998 (File No. 0-16986)) 21 Subsidiaries of Registrant 27 Financial Data Schedule - ------------------- * Confidential treatment has been granted with respect to certain portions of this exhibit, which have been omitted therefrom and have been separately filed with the Commission. 59 + Management contract or compensatory plan or arrangement required to be identified pursuant to Item 14(a)3 of this Annual Report on Form 10-K 60 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. ACCLAIM ENTERTAINMENT, INC. By: Gregory E. Fischbach October 22, 1999 - ------------------------------------------ Gregory E. Fischbach Co-Chairman of the Board and Chief Executive Officer By: William Sorenson October 22, 1999 - ------------------------------------------ William Sorenson Executive Vice President and Chief Financial Officer (principal financial and accounting officer)
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. >S> Gregory E. Fischbach Co-Chairman of the Board; Chief October 22, 1999 - --------------------- Executive Officer; President; and Director Gregory E. Fischbach James Scoroposki Co-Chairman of the Board; Senior October 22, 1999 - --------------------- Executive Vice President; Treasurer; James Scoroposki Secretary; and Director Bernard J. Fischbach Director October 22, 1999 - -------------------- Bernard J. Fischbach Michael Tannen Director October 22, 1999 - -------------------- Michael Tannen Robert Groman Director October 22, 1999 - -------------------- Robert Groman James Scibelli Director October 22, 1999 - -------------------- James Scibelli Kenneth L. Coleman Director October 22, 1999 - -------------------- Kenneth L. Coleman
61 Schedule II ACCLAIM ENTERTAINMENT, INC. AND SUBSIDIARIES ALLOWANCE FOR RETURNS AND DISCOUNTS (in 000s, except per share data)
Provisions Balance At For Balance at Beginning Returns and Returns and End of Period Of Period Discounts Discounts Period - ------ --------- --------- --------- ------ Year ended August 31, 1997 $75,366 $28,161 $65,847 $37,680* Year ended August 31, 1998 $37,680 $51,113 $36,945 $51,848* Year ended August 31, 1999 $51,848 $73,739 $62,933 $62,654*
- ---------- * As of August 31, 1997, 1998 and 1999, $18,900, $14,588 and $23,040 were included in accrued sales allowances. EX-10.3 2 SERVICE AGREEMENT SERVICE AGREEMENT relating to ACCLAIM ENTERTAINMENT LIMITED (1) RODNEY PETER COUSENS (2) DATE 26 February 1999 PARTIES (1) ACCLAIM ENTERTAINMENT LIMITED (no 2616245) whose registered office is at Moreau House 112 - 120 Brompton Road, Knightsbridge, London, SW3 1JJ ("the Company") (2) RODNEY PETER COUSENS of The Glebe House, Pettworth Road, Chiddingfold, Godalming, Surrey, GU8 4US ("the Executive") INTERPRETATION (1) In this Agreement, unless the context otherwise requires, the following expressions have the meanings set out below: the Acclaim Board the directors for the time being of Acclaim Entertainment Inc. present at a duly convened meeting for the directors; Acclaim Entertainment, Inc. a company incorporated under the laws of Delaware and registered with IRS Employment Identification Number 38-2698904; Acclaim International the international division of the Acclaim Group which represents the business of Acclaim Entertainment, Inc. outside the US; the Acclaim Group Acclaim Entertainment, Inc. and its subsidiaries engaged in the business of selling and exploiting video and computer games, including the Company; the Appointment the employment of the Executive pursuant to this Agreement; the Board the directors for the time being of the Company present at a duly convened and quorate meeting of the directors or of a committee of the directors duly appointed for the purpose in question; the Commencement Date 1 January 1998; the Compensation Committee a committee of the Acclaim Board which determines the annual salary, any bonuses and other remuneration payable to the Executive and other members of the Acclaim Board and of which a majority consists of non-executive directors; Confidential Information all information which may be imparted in confidence or be of a confidential nature relating to the business or prospective business, current or projected plans or internal affairs of the Company or any Group Company and, in particular, but not limited to all Know-how, Marketing Information, trade secrets, unpublished information relating to the Company's or any Group Company's intellectual property and any other commercial, financial or technical information relating to the business or prospective business of the Company or any Group Company or to any customer or potential customer or supplier or potential supplier, licensee, officer or employee of the Company or any Group 2 Company or to any member or person interested in the share capital of the Company or any Group Company. In this definition "prospective business" means business in respect of which the Company or any Group Company is engaged in negotiations with third parties; Documents documents, disks, memory, notebooks, tapes or any other medium, whether or not eye-readable, on which information (whether confidential or otherwise) may from time to time be referred to, written or recorded; the ERA the Employment Rights Act 1996; Group all companies being any of a subsidiary or subsidiary undertaking of the Company or a holding company or parent undertaking of the Company or a subsidiary or subsidiary undertaking of any such holding company or parent undertaking which company is engaged in the sale and exploitation of video and computer games; Group Company any company within the Group and references to the "Group Companies" shall be construed accordingly; Key Employee any employee of the Company or any Group Company who is or was (in the period of 12 months prior to the Termination Date) employed to the knowledge of the Executive; 3 (a) at management grade; or (b) in a senior capacity; or (c) in a capacity in which he has access to or obtained Confidential Information and in respect of whom the Executive exercised control or had managerial responsibility. Know-how information (including without limitation that comprised in formulae, specifications, designs, drawings, component lists, databases, software (or pre-cursor documents), databases, manuals, instructions and catalogues held in whatever form relating to the creation, production or supply of any products or services by the Company or any Group Company, or by or to any of the suppliers, customers, partners or joint ventures of such company; Marketing Information information relating to the marketing or sales of any products or services of the Company or any Group Company, including lists of customers' and suppliers' names, addresses and contacts, sales targets and statistics, market share and pricing statistics, marketing surveys, research and reports and advertising and promotional material; and Termination Date the date of termination or expiration of the Appointment. 4 (2) The expressions "subsidiary" and "holding company" have the meanings given to them by Sections 736 and 736A of the Companies Act 1985; the expressions "parent undertaking" and "subsidiary undertaking" have the meanings given to them by Sections 258, 259 and 260 of the Companies Act 1985; and the expression "financial year" has the meaning given by Section 223 of the Companies Act 1985. (3) The provisions of Sections 324 and 328 of the Companies Act 1985 apply in determining for the purpose of Clauses 8 and 9 whether the Executive has an interest in any shares or other securities. (4) References to Clauses, Parties and the Schedules are respectively to Clauses of and the Parties and the Schedules to this Agreement. (5) References to any enactment are to be construed as referring also to any enactment or re-enactment thereof (whether before or after the date hereof), and to any previous enactment which such enactment has replaced (with or without amendment provided that the amendment does not change the law as at the date hereof) and to any regulation or order made thereunder. (6) The clause headings are for ease of reference only and shall not affect the interpretation of this Agreement. OPERATIVE PROVISIONS 1 Job Title 1.1 The Company shall employ the Executive and the Executive shall serve the Company as President and Chief Operating Officer of Acclaim International or in such other capacity as the Board may reasonably require. 1.2 The Executive shall be the third most senior employee within the Group after the Chief Executive Officer and Co-Chairman of the Acclaim Board and the Senior Executive Vice President & Co-Chairman of the Acclaim Board and shall be remunerated commensurately with this position. The Executive shall report directly to Greg Fischbach. Neither the Company nor any Group Company shall appoint any other person to a position more senior than, or equivalent in status to, that held 5 by the Executive, or to act jointly with the Executive, without the prior written consent of the Executive. 1.3 In the event that both Co-Chairmen of the Acclaim Board cease to be employed by Acclaim Entertainment, Inc. the Executive may terminate the Appointment by not less than six months' Notice in writing to the Company to expire at any time and neither the Company nor any Group Company shall have any claim for damages or otherwise against the Executive in respect of the termination of the appointment under this clause. The Executive will be notified by the Company as soon as practicable and, in any event within two weeks, if both the Co-Chairmen of the Acclaim Board shall for any reason cease to be employed by Acclaim Entertainment, Inc. The Executive Shall exercise his right to give notice under this Clause within three months of being notified of the cessation of the employment of the Co-Chairmen of the Acclaim Board or else he shall lose his entitlements under this Clause. 2 Period of Employment 2.1 The Appointment shall be deemed to have commenced on the Commencement Date and will continue until terminated in accordance with Clause 2.2 or Clause 11. 2.2 Either party may terminate this Agreement by giving to the other not less than six months' prior written notice to expire at any time after the third anniversary of the Commencement Date. 3 Duties 3.1 The Executive shall faithfully and diligently perform the duties of President and Chief Operating Officer of Acclaim International. The Executive shall be directly responsible for supervising and co-ordinating the activities of the Group Companies within Acclaim International and shall use his best efforts to facilitate the generation of profits within those Group Companies. The Executive shall also perform such additional or other duties consistent with his position as President and Chief Operating Officer of Acclaim International as may be reasonably assigned to or vested in him by the Co-Chairman of the Acclaim Board. Subject to the approval of the Acclaim Entertainment, Inc. shareholders, the Company shall procure that the Executive is appointed as a director of the Acclaim Board, following the appointment of an outside director. 6 3.2 During the term of the Appointment, the Executive shall have (in addition to his implied duty of fidelity and his duties as a director at law) the following duties and obligations: (a) at all times to use all reasonable endeavours in the performance of the duties of the Appointment to promote the interests and welfare and maintain the goodwill of the Company and any other Group Company and not to do and to exercise all reasonable endeavours to prevent there being done anything which may be prejudicial or detrimental to the Company or any Group Company; (b) to devote the whole of his time and attention and the full benefit of his knowledge, expertise and skills in the proper performance of his duties (unless on holiday as permitted by this Agreement or prevented by ill-health or accident or as permitted by Clause 7.2); (c) to report to the Co-Chairmen of Acclaim Entertainment, Inc. and to give (in writing if so requested) to the Board, or to such person(s) as it may direct, such information and explanations regarding the affairs of the Company or any other Group Company or matters relating to the Appointment as the Board may require; (d) to comply with any applicable code relating to dealings in securities of the Company and with all lawful directions from time to time given to him by or under the authority of the Acclaim Board and, save as inconsistent with the express terms of this Agreement, all applicable rules and regulations from time to time laid down by the Company concerning its employees; (e) to comply with the provisions of Schedule 2 (Copyright and Inventions); and (f) to prepare budgets and projections for Acclaim International for approval by the Chief Executive Officer and the Acclaim Board and, if approved, to implement the same. 3.3 The Executive shall attend and work at any of the places of business of the Company and/or the Group within the UK as the Board may from time to time reasonably determine and shall travel to and work at such places (whether within or outside the United Kingdom) in the manner and on the 7 occasions reasonably required from time to time by the Board. The Executive may only be required by the Board to re-locate outside the United Kingdom with his prior written consent. The Board shall give the Executive reasonable notice of any requirement to re-locate and the proposed terms of his employment outside the United Kingdom including additional allowances and benefits payable to the Executive and conditions relating to the re-patriation of the Executive to the United Kingdom in the event of termination of the overseas appointment. The expenses incurred by the Executive, his spouse and dependents in complying with any requirements to re-locate shall be reimbursed by the Company in accordance with its policy determined from time to time for meeting such expenses. 3.4 The hours of work of the Executive are not fixed but are the usual working hours of the Company and such additional hours as may be reasonably necessary to enable him properly to discharge his duties. 3.5 The Company shall maintain for the Executive directors' and officers' insurance in respect of those liabilites which he may incur in or about the discharge of his office as a director or officer of the Company or as a director or officer of any Group Company for which such insurance is normally available. 4. Pay and Expenses 4.1 The Company shall pay to the Executive for the proper performance of his duties under this Agreement a fixed salary ("Fixed Salary") at the rate of 366,000 pounds per annum (or such higher rate as the Company may from time to time notify in writing to the Executive). 4.2 The Fixed Salary of the Executive will: (a) accrue from day to day and be payable by equal monthly installments in arrears by not later than the last working day of each month; (b) notwithstanding anything to the contrary contained in the Articles of Association of the Company or of any other Group Company, be inclusive of any other fees or remuneration of any description which the Executive might be entitled to receive from 8 the Company or any Group Company or other company or association in which he holds office as a nominee or representative of the Company or any Group Company (and the Executive shall, at the discretion of the Board, either waive his right to any such remuneration or account to the Company for the same forthwith upon receipt); and (c) be paid by credit transfer to the account nominated by the Executive from time to time. 4.3 On each anniversary of the Commencement Data the Fixed Salary shall be increased by a minimum amount equal to ten per cent of the Fixed salary at the rate payable on such anniversary. 4.4 The Executive hereby authorizes the Company to deduct from any remuneration accrued and due to him under the terms of this Agreement (whether or not actually paid during the appointment) or from any pay in lieu of notice: (a) any overpayment of salary or expenses or payment made to the Executive by mistake or through any misrepresentation; (b) any debt arising from terms agreed between the Executive and the Company owed by the Executive to the Company or any Group Company; (c) any other sum or sums which the Executive has authorised pursuant to Section 13 of the ERA; and (d) any tax or Social Security contributions required by law to be made in respect of remuneration or any other monies received or receivable by the Executive from the Company. 4.5 The Executive shall, subject to complying with the rules of the Company relating to the reimbursement of expenditure in force from time to time be reimbursed all travelling, accomodation, reasonable entertainment and other out of pocket expenses wholly, exclusively and necessarily incurred in the performance of the duties of the Appointment. 9 4.6 The Company shall reimburse to the Executive the cost of two first class return flights to the US for his wife annually during the course of the Appointment on submission to the Company of evidence of actual payment for such flights. 4.7 The Company shall for so long as the Executive continues to perform the duties of the Appointment provide for the Executive a BMW 750 or equivalent car of a value not less than 80,000 pounds to be replaced from time to time in accordance with the policy of the Company as to the provision and replacement of cars determined by the Board from time to time and shall provide a driver therefor and shall maintain, license and insure the car and shall pay for all fuel and other running expenses provided that the Executive shall pay and indemnify the Company against all income tax properly payable by reason of the provision of the motor car and the Executive authorizes the Company to make such deductions from the Fixed Salary as may be required for payment of such Income tax. 4.8 The Company shall reimburse to the Executive the cost of the annual membership fee of a gymnasium or health and fitness club of his choice up to the value of 3,000 pounds in respect of each year during the Appointment. 4.9 The Company will meet the reasonable professional legal costs incurred by the Executive in negotiating the terms of this Agreement up to a maximum of 10,000 pounds which amount shall be paid on presentation of the relevant invoice(s) within 14 days of the execution by the Executive of this Agreement. 4.10 The Company shall during the Appointment contribute monthly at the rate of 15% per annum of the Fixed salary ("the Contribution") to a pension scheme nominated by the Executive provided that any part of the Contribution which cannot be paid to an Inland Revenue approved scheme will be paid to such pension fund or savings arrangement as the Executive may nominate and which is approved by the Company. 4.11 The executive shall during the Appointment be entitled to membership for him, his spouse and unmarried dependent children below the age of 22 of the WTA Health Insurance Scheme or any other scheme with reputable insurers as the Executive may nominate and the Company may 10 approve and the Company shall contribute to such scheme so that the Executive shall be provided with benefits in accordance with the clause at the SC1 or equivalent rate. 4.12 The Company shall provide the Executive with life assurance covered under policies with such reputable insurers as the Executive may nominate and the Company may approve and shall bear all premiums required to keep such life assurance policies in force and to enable payment of a total sum of not less than four times salary (at the rate in force at the date of death for the purposes of Clause 4.1) to be made in the event of his death during the Appointment. 5. Holiday 5.1 In addition to the usual public and bank holidays, the Executive shall be entitled to 25 days' paid holiday in each complete holiday year worked (and pro rata for part of each holiday year worked) to be taken at such time or times as shall be agreed by the Board. 5.2 The Holiday year runs from 1 September each year to the following 31 August. Holiday entitlement may be carried forward from one holiday year to the next provided that such holiday entitlement carried forward is used within the following holiday year. 5.3 Upon termination of the Appointment, other than pursuant to Clause 11.1, the Executive's entitlement to holiday will be calculated on the basis of 2.1 working days for each calendar month of service completed during the holiday year in which termination occurs and payment in lieu of untaken holiday entitlement will be made. 6 Confidentiality 6.1 Neither during the continuances of the Appointment, other than in the proper course of his duties and for the benefit of the Company or any Group Companies, nor after the Termination Date for any reason whatsoever, shall the Executive: (a) use, disclose or communicate to any person any Confidential Information which he shall have come to know or have received or obtained at any time (before or after the date of this Agreement) by reason of or in connection with his service with the Company; or 11 (b) copy or reproduce in any form or by or on any media or device or allow others access to or to copy or reproduce Documents containing or referring to Confidential Information. 6.2 The Executive acknowledges that all Documents containing or referring to Confidential Information at any time in his control or possession are and shall at all times remain the absolute property of the Company and the Executive undertakes, both during the Appointment and after the Termination Date: (a) to exercise due care and diligence to avoid any unauthorised publication, disclosure or use of Confidential Information and any Documents containing or referring to it; (b) at the direction of the Board, to deliver up any Confidential Information (including all copies of all Documents whether or not lawfully made or obtained) or to delete Confidential Information from any re-usable medium; and (c) to do such things and sign such documents at the expense of the Company as shall be reasonably necessary to give effect to this Clause and/or to provide evidence that it has been complied with. 6.3 The restrictions in Clause 6.1: (a) will not restrict the Executive from disclosing (but only to the proper recipient) any Confidential Information which the Executive is required to disclose by law or any order of the court or any relevant regulatory body, provided that the Executive shall have given prior written notice to the Company of the requirement and of the information to be disclosed and allowed the Company an opportunity to comment on the requirement before making the disclosure; and (b) will not apply to Confidential Information which is or which comes into the public domain otherwise than as a result of an unauthorised disclosure by the Executive or any other person who owes the Company an obligation of confidentiality in relation to the information disclosed. 12 6.4 The Executive agrees that the restrictions set out in this Clause 6 are without prejudice to any other duties of confidentiality owed to the Company whether express or implied and are to survive the termination of the Appointment. 7 Restrictions during employment 7.1 Save as permitted under Clause 7.2, the Executive shall not during the Appointment carry on or be concerned, engaged or interested directly or indirectly (whether as principal, shareholder, partner, employee, officer, agent or otherwise) in any trade or business other than that of the Company and shall not engage in any other activity which the Company reasonably considers may impair his ability to perform his duties under the Agreement. 7.2 The Executive may: (a) hold or be interested in securities whether quoted or unquoted in any company provided that such company is not in competition with the business of the Company or Acclaim Entertainment, Inc. in which case the Executive must obtain the prior written consent of the Company to such an interest; and/or (b) carry on or be concerned, engaged or interested in any other trade or business if he shall have: (i) provided, on the basis of the utmost good faith, full particulars of its nature and of the likely demands it will make on his time and abilities; and (ii) obtained the prior written consent of the Board (such consent not to be unreasonably withheld), which consent may be given subject to such terms or conditions as it may decide (each of which shall be considered to be a term of this Agreement) and the Company shall have the right to reconsider the consent or the terms if it reasonably considers that it is in the interests of the Company to do so. 7.3 The Executive shall not during the Appointment either on his own behalf or on behalf of any person, firm or company: 13 (a) solicit or endeavor to entice away from the Company or any Group Company an actual employee, or discourage from being employed by the Company or any Group Company any person who, to the knowledge of the Executive, is an employee or a prospective employee of the Company or any Group Company; or (b) employ or procure another person to employ any such person. 7.4 The restrictions set out in this Clause 7 are without prejudice to any other fiduciary duties owed to the Company whether express or implied. 8 Restrictions after employment 8.1 The Executive shall not, save in respect of a Permitted Interest or with the prior written consent of the Board (which shall not be unreasonably withheld), for a period of 3 months from the Termination Date within the Restricted Area carry on or be concerned or engaged or interested directly or indirectly (whether as principal, shareholder, partner, employee, officer, agent or otherwise) in any part of any trade or business which competes with any part of any trade or business carried on by the Company in which the Executive shall have been actively engaged or involved at any time during the period of 6 months prior to the Termination Date. 8.2 The Executive shall not for a period of 6 months from the Termination Date either on his own behalf or on behalf of any person, firm or company in relation to the business activities of the Company in which the Executive has been engaged or involved, directly or indirectly: (a) solicit, approach or offer goods or services to or entice away from the Company any person, firm or company who was a client or customer of the Company with whom the Executive has been actively engaged or involved by virtue of his duties hereunder at the Termination Date (or at any time during 6 months prior to the Termination Date); or (b) deal with or accept custom from any person, firm or company who was a client or customer of the Company with whom the Executive has been actively engaged or involved by virtue of his duties hereunder at the Termination Date (or at any time during 6 months prior to the Termination Date); or 14 (c) solicit or approach or offer goods or services to or entice away from the Company any person, firm or company who was a supplier, agent or distributor of the Company with whom the Executive has been actively engaged or involved by virtue of his duties hereunder at the Termination Date (or at any time during 6 months prior to the Termination Date); or (d) deal with or interfere with any person, firm or company who was a supplier, agent or distributor of the Company and in each case with whom the Executive has been actively engaged or involved by virtue of his duties hereunder at the Termination Date (or at any time during 6 months prior to the Termination Date); PROVIDED THAT nothing contained in these paragraphs (a) to (d) shall prohibit the Executive from carrying out any activities which are not in competition with any part of the business of the Company with which the Executive was involved in 6 months prior to the Termination Date. 8.3 The Executive shall not for a period of 6 months from the Termination Date either on his own behalf or on behalf of any person, firm or company in relation to the business activities of the Company or Acclaim International in which the Executive has been engaged or involved, directly or indirectly, approach, solicit, endeavour to entice away, employ, offer employment to or procure the employment of any person who is or was a Key Employee with whom the Executive has had dealings within a period of 12 months prior to the Termination Date whether or not such person would commit any breach of his contract of employment by reason of so leaving the service of the Company or any Group Company or otherwise. 8.4 The Executive shall not, at any time after the Termination Date, either on his own behalf or on behalf of any other person, firm or company directly or indirectly: (a) interfere or seek to interfere with the continuance, or any of the terms, of the supply of goods or services to the Company; or (b) represent himself as being in any way connected with or interested in the business of the Company (other than as a consultant or a member if such be the case) or use any name which is identical or similar to or likely to be confused with the name of the Company or 15 any product or service produced or provided by the Company or which might suggest a connection with the Company. 8.5 The Executive (who acknowledges that, in the course of the Appointment, he is likely to have dealings with the clients, customers, suppliers and other contacts of the Company) agrees that each of the restrictions in Clauses 8.1, 8.2(a), 8.2(b), 8.2(c), 8.2(d), 8.3 and 8.4 is separate and distinct, is to be construed separately from the other restrictions, and is reasonable as regards its duration, extent and application for the protection of the legitimate business interests of the Company. However, in the event that any such restriction shall be found to be void or unenforceable but would be valid or enforceable if some part or parts of it were deleted, the Executive agrees that such restriction shall apply with such deletions as may be necessary to make it valid and effective. 9 Relevant Definitions 9.1 For the purpose of Clause 8 the following expression bears the meaning shown: "Restricted Area" The United Kingdom, the United States, Spain, Germany, France, Holland, Belgium, Australia, New Zealand and Japan. 9.2 For the purposes of the restrictions set out in Clauses 6, 7 and 8: (a) the expression "Company" shall include any former owner or transferor of a business acquired by the Company by which the Executive shall have been employed under a contract of employment in respect of which his service is included for the purposes of calculating continuous employment with the Company; (b) any reference to the Company and to the Company's trade or business shall be deemed to include any Group Company and its trade or business and/or to apply to them as if the words were repeated by reference to such company insofar as the Executive shall have been performing services to any material extent for a period of not less than three months for such Group Company at any time during the period of one year prior to the 16 Termination Date and the Executive hereby undertakes to execute any further documents which the Company may require to confirm this; and (C) where references to the Company and Company's trade or business are deemed to include and/or apply to a Group Company and to a Group Company's business pursuant to paragraph (b) of this Clause 9.2, the Executive convenants with the Company for itself and in the same terms in relation to each such Group Company and each Group Company's business as he does with the Company and in respect of the Company's business. 10 Absence, Illness and Incapacity 10.1 If at any time the Executive is prevented by reason of ill-health, accident or other incapacity from properly performing his duties he shall promptly furnish to the Company, if required, evidence of such incapacity in a form satisfactory to the Board. If the Executive is absent from work for two months or more then the Executive hereby agrees that the Company can require him to submit to a full medical examination by a doctor, the choice of whom will be mutually agreed between the Executive and the Company. 10.2 The Executive shall, subject to complying with Clause 10.1 be entitled to payment of salary in respect of absence by reason of ill-health, accident or other incapacity as follows: 10.2.1 full salary in respect of the first six months' absence in any period of twelve months; 10.2.2 one-half salary in respect of the next six months' absence in any period of twelve months; 10.2.3 no salary in respect of any following period should the absence continue PROVIDED THAT:- while the Executive is entitled to be paid during absence on account of ill-health, accident or other incapacity there shall be deducted therefrom the aggregate of any amounts receivable by the Executive by virtue of any sickness, accident benefit or 17 permanent health scheme operated by or on behalf of the Company (except insofar as such amounts represent reimbursement of medical or nursing fees or expenses incurred by the Executive) and the amount of any social security sickness or other benefit to which the Executive may be entitled. 10.3 The Company shall maintain a permanent health insurance policy (the "Policy") for the benefit of the Executive and shall bear all premiums required to keep the Policy in force throughout the period of the Appointment so that the Executive shall be provided with benefits under the Policy at a rate and on terms which shall be consistent with the most favorable rate on terms available on the market for the Executive from time to time. The Company shall not terminate the Appointment by account of the Executive's ill-health or incapacity unless the Company has procured the continued payment of benefits under the policy for the period of ill-health or incapacity or until such benefits would, apart from such termination, have ceased to be payable had the appointment continued. 11 Termination 11.1 The Company may at any time terminate the Appointment with immediate effect (or by such longer period of notice as the Company shall see fit) by giving the Executive written notice in any of the following events: (a) if the Executive at the time the notice is given is prevented by reason of ill-health or accident or other incapacity from properly performing his duties and has been so prevented (whether by the same or another reason) for at least a continuous period of 180 days or for an aggregate period of at least 180 days (whether or not, in either case, working days) in the preceding 12 months; (b) if the Executive shall have: (i) committed any material breach after having been given warning in writing, any repeated or continued breach of any of his duties or any of his express or implied obligations arising from the Appointment or otherwise as a director of the Company or Group Company; 18 (ii) committed any act of fraud or dishonesty (whether or not connected with the Appointment); (iii) been convicted of a criminal offence (excluding an offence under road traffic legislation in respect of which he is not sentenced to a term of imprisonment, whether immediate or suspended); or (iv) become of unsound mind or a patient as defined in either Section 112 or Section 145 of the Mental Health Act 1983 or been admitted to a hospital in pursuance of an application made under Part 11 of that Act. 11.2 Upon termination of the Appointment however arising: (a) the Executive shall, without prejudice for any claim he may have arising out of the termination of this employment hereunder, forthwith at the request of the Board and without further claim for compensation resign as a director of the Company and from all offices held by him in any Group Company and from all other appointments or offices which he holds as nominee or representative of the Company or any Group Company and, if he fails so to do, the Company is irrevocably authorised by the Executive to appoint some person in his name and on his behalf to execute such documents and to do such other things as are reasonably necessary to give effect to such resignations; and (b) the Executive (or, if he shall be dead, of unsound mind, his personal representatives or such other persons as shall be appointed to administer his estate and affairs) shall deliver up to the Company in accordance with the directions of the Board all keys, security passes, credit cards, Documents and other property belonging to or relating to the businesses or affairs of the Company or any Group Company, including all copies of all Documents containing or referring to Confidential Information which may be in his possession or under his control (or that of his personal representatives or such other persons), and shall not retain copies, extracts or notes of any of the same. 19 11.3 The Executive shall have no claim against the Company in respect of the termination of the Appointment in relation to any provision in any articles of association, agreement or arrangement which has the effect of requiring the Executive to sell or give up any shares, securities, options or rights at any price or which causes any options or other rights granted to him to become prematurely exercisable or lapse. 11.4 The Board, if it has reasonable grounds to suspect that any one or more of the events set out in Clause 11.1(b) has or may have occurred, may suspend the Executive pending the making and completion of such investigation(s) as the Board thinks fit. While the suspension continues, the Company shall, unless specifically otherwise provided in this Agreement, pay to the Executive his fixed salary and provide to him the other benefits set out in this Agreement. During the period of suspension the Company and relevant Group Companies shall not be obliged to provide work to the Executive and may require the Executive to comply with such conditions as the Company may specify in relation to attending at or remaining away from the places of business of the Company and/or the Group Companies. The Company may later terminate the Appointment, pursuant to the terms of this Agreement, on the grounds of the same or any other event. 12 Change of Control 12.1 If there shall occur a "Change in Control" (as defined below) of Acclaim Entertainment, Inc. and the Executive's "Circumstances of Employment" (as defined below) shall have changed: (a) the Executive shall have the right to terminate his employment pursuant to this Agreement by written notice to the Company; and (b) notwithstanding anything to the contrary contained in the Company's 1988 Stock Option Plan, in the stock option agreements between the Company and the Executive or in the stock option certificates delivered to the Executive, all options granted to the Executive prior to the effective date of such Change in Control shall become immediately vested and exercisable in full. 12.2 In the event of the termination by the Executive of his employment pursuant to Clause 12.1 of this Agreement, or if within one year following the Change in Control, the Company shall terminate the 20 Executive's employment other than pursuant to Clause 11.1(b)(i) or 11.1(b)(ii) than the Company shall pay to the Executive, within 60 days of such termination the "Special Severance Payment" (as defined below). 12.3 A "Change in Control" shall be deemed to occur upon: (a) the sale by Acclaim Entertainment,Inc. of all or substantially all of its assets to any person as such term is used in Sections 13(d) and 14(d) of the Securities Exchange Act of 1934, the consolidation of Acclaim Entertainment, Inc. with any person, or the merger of Acclaim Entertainment, Inc. with any person as a result of which consolidation or merger the Company is not the surviving entity as a publicly held Company; or (b) the sale or transfer or issue of shares of common stock, a value US$0.02 per share ("Shares"), of Acclaim Entertainment, Inc. by Acclaim Entertainment, Inc. and/or any one or more of its stockholders (other than Greg Fischbach or James Scoroposki), as the case may be, in one or more transactions, related or unrelated, to one or more persons as a result of which any person and its "affiliates" (as defined below), other than Greg Fischbach or James Scoroposki, shall own more than 15% of the outstanding Shares, unless such sale or transfer has been approved in advance by the Acclaim Board. An "affiliate" means any person that directly, or indirectly controls, or is controlled by, or is under common control with, any other person. Nothing contained in this Clause 12.3 shall limit or restrict the right of the Executive, in his capacity as a member of the Acclaim Board, from participating in any discussions or voting on any matter referred to in this Clause 12 at any meeting of the Acclaim Board. 12.4 The Executive's "Circumstances of Employment" shall have changed if there shall have occurred any of the following events: (a) a material reduction or change in the Executive's duties or reporting responsibilities; (b) a breach by the Company of any provision of this Agreement; 21 (c) a material diminution in the Executive's status, working conditions, economic benefits or a reduction of fringe benefits made available by the Company; or (d) any action which substantially impairs the prestige or esteem of the Executive in relation to any other employee of the Acclaim Group. 12.5 The "Special Severance Payment" shall mean a lump sum payment equal to the sum of: (a) the product of three times the Fixed Salary; (b) the product of three times the largest Bonus paid to or accrued with respect to the Executive by the Company for the three fiscal years immediately preceding the termination of the Executive's employment; and (c) any other compensation owed to the Executive pursuant to this Agreement at the time of such termination. 12.6 It is agreed that the Special Severance Payment represents a genuine pre-estimate of the loss which would otherwise be suffered by the Executive in the event of the termination of the Appointment as a result of a Change of Control and the Executive agrees to accept the Special Severance Payment in full and final settlement of all or any statutory or contractual claim which he might otherwise have against the Company which arises or may arise in connection with the termination of the Appointment. 13 The Employment Rights Act 1996 This Agreement contains the particulars required to be given under Section 1 and 3 of the ERA. 14 Notices Notices by either party: (a) must be in writing addressed: (i) to the Company at its registered office for the time being; and 22 (ii) to the Executive at his place of work or at the address set out in this Agreement or such other address as the Executive may from time to time have notified to the Company for the purpose of this Clause; and (b) will be effectively served: (i) on the day of receipt, where any hand-delivered letter or a facsimile transmission is received on a business day before or during normal working hours; (ii) on the following business day, where any hand-delivered letter or facsimile transmission is received either on a business day after normal working hours or on any other day; (iii) on the second business day following the day of posting from within the United Kingdom of any letter sent by first class prepaid mail; or (iv) on the fifth business day following the day of posting to an overseas address of any prepaid airmail letter. 15 General 15.1 This Agreement, which contains all the terms of employment of the Executive, is in substitution for all existing contract(s) of employment between the Company and any Group Company and the Executive (whether written, oral or governed by a course of dealings) which shall be deemed to have terminated with effect from the date of this Agreement. 15.2 The waiver, express or implied, by either party of any right under this Agreement or any failure to perform or breach by the other shall not constitute or be deemed a waiver of any other right under this Agreement or of the same right on another occasion. 15.3 No amendment, change or addition to the terms of this Agreement shall be effective or binding on either party unless reduced to writing and signed by each party adversely affected by such amendment, change or addition. 23 15.4 The Executive represents and warrants that he is not a party to any agreement, contract (whether of employment or otherwise) or understanding which would in any way restrict or prohibit him from undertaking or performing any of the duties of the Appointment in accordance with this Agreement. 15.5 The Executive and the Company undertake not to disclose or communicate any terms of the Appointment to any other employee of any Group Company or to any third party (other than for the purpose of obtaining professional advice or complying with any law or regulation which requires such disclosure). 15.6 The Company and the Executive acknowledge that the clauses and sub-clauses and schedules of this Agreement are severable. If any clause, sub-clause or identifiable part of any clause or sub-clause or schedule or any paragraph of any schedule is held to be invalid or unenforceable by an English court then such invalidity or unenforceability shall not effect the validity or enforceability or the remaining clauses or sub-clauses or the identifiable parts of such clauses or sub-clauses. 15.7 This Agreement is governed by and is to be construed in accordance with the laws of England and the Parties hereby submit to the non-exclusive jurisdiction of the High Court of Justice of England and Wales. 24 SCHEDULE 1 Group Companies in the International Division Acclaim Entertainment, Ltd Acclaim Japan Ltd Acclaim Entertainment GmbH Acclaim Entertainment Espana Acclaim Entertainment SA 25 SCHEDULE 2 Copyright and Inventions 1 In this Schedule "Intellectual Property" shall mean patents, trade marks and service marks, rights in inventions, designs, rights, registered designs, trade names and copyrights (whether or not any of these is registered and including applications for registration of any such thing) and all forms of protection of a similar nature which may subsist anywhere in the world. 2 The Executive acknowledges, having regard to the nature of the business of the Company and other Group Companies and the nature of the Executive's expertise, that: (a) the normal duties of the Executive under the Appointment may include the making of inventions; (b) inventions may reasonably be expected to result from the carrying out by the Executive of such duties; and (c) due to the nature of the Executive's duties and the particular responsibilities arising from the nature of his duties, the Executive has a special obligation to further the interests of the Company's undertaking. 3 The Executive shall disclose to the Company any invention made or discovered or produced by the Executive in the course of the Appointment (whether or not during office hours or using office stationery and equipment) in connection with or in any way affecting or relating to or capable of being used or adapted for use in the business of the Company or any other Group Company. 4 The Executive shall do all things and execute all documents that may be reasonably necessary to enable the Company or its nominee to obtain the benefit of every invention made by the Executive in the course of his duties and to secure patent or other appropriate protection for it. 5 Without prejudice to the provisions of paragraph 2 of this Schedule, the Executive shall disclose to the Company full details of any copyright work or Intellectual Property made or created by the Executive during the continuance of his Appointment either during working hours or in the normal 26 course of duties or with the Company's materials and/or facilities and/or concerning or containing Confidential information and the Executive hereby assigns to the Company, by way of assignment of future copyright or other Intellectual Property rights, all rights of copyright or other Intellectual Property rights throughout the world in such copyright work or Intellectual Property. 27 SCHEDULE 3 Note of additional particulars under Sections 1 and 3 of the ERA 1 For the purposes of the ERA the period of continuous employment of the Executive began on [ ]. 2 There are no disciplinary rules applicable to the Executive. Any matter of discipline will be considered and determined by the Acclaim Board, whose decisions shall be final. 3 If the Executive is dissatisfied with any disciplinary decision relating to him or has any grievance relating to the Appointment, he should apply in writing to either of the Co-Chairmen of Acclaim Entertainment, Inc. 4 A contracting-out certificate under the Pension Schemes Act 1993 is [not] in force in respect of the Appointment. 28 ATTESTATIONS EXECUTED as a DEED by ) ACCLAIM ENTERTAINMENT ) /s/ LIMITED ) by ) Director Secretary EXECUTED as a DEED and ) DELIVERED by ) RODNEY PETER COUSENS ) /s/ In the presence of: ) Name of witness: Address: Occupation: 29 EX-10.4 3 EMPLOYMENT AGREEMENT [LETTERHEAD OF ACCLAIM ENTERTAINMENT, INC.] August 13, 1999 Mr. William Sorenson 530 Monterey Avenue Pelham Manor, New York 10803 Dear Bill: The following sets forth the terms and conditions relating to your employment by Acclaim: 1. Acclaim hereby employs you as its Executive Vice President and Chief Financial Officer for the Employment Period (as defined in Paragraph 9). By your signature below, please acknowledge your acceptance of such employment, your agreement to be in charge of and responsible for all of the duties normally associated with said positions including, without limitation, the responsibilities set forth on Schedule 1, your agreement faithfully and to the best of your abilities to perform such other services consistent with your position as a senior executive officer as may from time to time be assigned to you by the Board of Directors of Acclaim (the "Board") and/or either of the Co-Chairmen of the Board (the "Co-Chairmen") and your agreement to devote substantially all of your business time, skill and attention to such services. Notwithstanding anything to the contrary in this Letter, you shall not be prevented from investing and managing your assets in such form or manner as will not unreasonably interfere with the services to be rendered by you hereunder, or from acting as a director, trustee, officer of, or on a committee of, or a consultant to, any other firm, trust or corporation where such positions do not unreasonably interfere with the services to be rendered by you hereunder. 2. A. Acclaim shall pay to you, and you shall accept from Acclaim, for your services during the Employment Period, (i) a salary at the rate of $400,000 per annum (the "Base Salary"), payable in accordance with Acclaim's customary executive payroll policy as in effect from time to time, but not less frequently than monthly, and (ii) a bonus in an amount and payable as provided in Part C of this Paragraph 2. B. The Base Salary shall be reviewed by the Board annually and may be increased if the Board, in its sole and absolute discretion, determines that such increase is advisable based on such factors as the Board shall consider appropriate from time to time. C. You shall be eligible to receive a bonus (the "Bonus") with respect to each fiscal year ending during the Employment Period in an amount targeted at 100% of your then Base Salary. Any Bonus payable to you shall be based on and subject to the achievement by Acclaim of certain financial goals established by the Board in its sole and absolute discretion and based on your individual contributions to Acclaim's overall success and team performance, as determined by the Board in its sole and absolute discretion and subject to Acclaim's Annual Incentive Plan; provided, however, that, subject to the last sentence of this Part C, in no event shall the Bonus with respect to the fiscal year ending August 31, 2000 be less than $350,000. A Bonus shall be payable annually as promptly as practicable following the public announcement of Acclaim's results of operations for the applicable fiscal year and, in any event, not later than 30 days after the date on which Acclaim files its annual report on Form 10-K (or any successor form thereto) for such fiscal year (whether or not such payment date is during the Employment Period). A Bonus shall not be payable to you if, prior to the end of the Employment Period, your employment hereunder shall have been terminated by you voluntarily or by Acclaim for Cause (as defined in Part A of Paragraph 4). D. Acclaim shall provide you with an automobile allowance of $1,200 per month. E. Acclaim shall grant you an option (the "Option") under, and subject to the terms of, Acclaim's 1998 Stock Incentive Plan (the "Plan") to purchase 200,000 shares of Acclaim's common stock, par value $0.02 per share (the "Common Stock"), exercisable at the fair market value of a share of Common Stock on the date of grant. The Option shall be exercisable in three equal installments on the first, second and third anniversaries of the Effective Date. To the extent permitted by law and subject to the Plan, the Option shall be an "incentive stock option" within the meaning of Section 422(b) of the Internal Revenue Code of 1986, as amended. F. Acclaim shall issue to you 100,000 shares of Common Stock (the "Restricted Stock"), which shares shall vest as set forth, and upon the other terms described, in Exhibit A attached hereto. G. You shall be entitled to participate, on the same basis, subject to the same qualifications, as other similarly situated executive officers of Acclaim, in any pension, profit sharing, stock purchase, stock option, savings, bonus, health insurance, hospitalization, and other fringe benefit plans and policies in effect with respect to similarly situated executive officers of Acclaim generally. Annual grants, if any, of stock options to you to purchase shares of Common Stock shall be subject to the sole discretion of the Compensation Committee of the Board. In addition, Acclaim shall provide you with term life insurance in the amount of $1,000,000, payable to your designees. H. Acclaim shall reimburse you for all reasonable out-of-pocket expenses incurred by you in connection with the performance of your duties hereunder, upon presentation of appropriate documentation therefor. I. During the Employment Period, you shall be entitled to paid vacations of 20 business days per annum, with a maximum of 10 consecutive business days to be taken at any 2 one time, and otherwise in accordance with Acclaim's vacation policies in effect from time to time. 3. If, during the Employment Period, you shall be unable substantially to perform the duties required of you pursuant to the provisions of this Letter due to any Disability (as defined below), Acclaim shall have the right to terminate your employment pursuant to this Letter by giving you not less than 30 days' written notice, at the end of which time, if such disability has continued, your employment shall be terminated. You shall retain your status and continue to receive your full compensation hereunder during the period prior to any termination hereunder because of a disability. As used in this Letter, the term "Disability" shall mean your inability to substantially perform your duties under this Letter by reason of a non-intentionally self-inflicted medical disability, including mental or physical illness, as certified by a physician appointed by Acclaim which medical disability has lasted for a period of 180 days in any 12 consecutive months. 4. A. Acclaim shall have the right to terminate your employment pursuant to this Letter for Cause. "Cause" for termination means (i) any act of fraud, embezzlement, or other misappropriation or any other act or omission by you that amounts to a willful breach of your fiduciary duty to Acclaim or its direct or indirect clients, (ii) your conviction of a felony or any crime involving moral turpitude under state or federal law, or the equivalent under foreign law, (iii) your material breach of any rules or regulations of employment, or any policies related thereto, which may be adopted or amended from time to time by Acclaim of which you have been given written notice and which are consistent with this Letter, (iv) your refusal to perform satisfactorily your duties and obligations under this Letter, (v) (not used), (vi) your willful refusal to carry out the reasonable instructions of either of the Co-Chairmen of Acclaim or the Board, (vii) the happening of any event which, under the provisions of any federal, state or foreign laws applicable to Acclaim or its activities, disqualifies you from acting in any capacity provided for herein, including, without limitation, any event which disqualifies you under the Securities Act of 1933 or the Securities Exchange Act of 1934 or (viii) your default of any material obligations under this Letter (other than those specified in clauses (i) through (vi) above); provided, however, that Acclaim shall have given you written notice specifying any event or breach specified in clauses (iii) through (vi) and (viii) above and permitted you to cure any such breach within the period of 15 days after receipt of such notice if such breach is capable of being cured and you have failed to cure such breach within such 15 days; provided, further, however, that Acclaim shall not be obligated to provide you with notice and opportunity to cure more than one event or breach under each of clauses (iii) through (vi) and (viii) above. If your employment is terminated by Acclaim for Cause, Acclaim's obligations to you shall terminate immediately, except as expressly provided in Part B of Paragraph 8 hereof. B. If, during the Employment Period (as defined in Paragraph 9), there shall occur a "Change in Control" (as defined below) of Acclaim and, within one year thereafter, there shall occur a change in your "Circumstances of Employment" (as defined below), you may terminate your employment pursuant to this Letter by written notice to Acclaim and you shall be entitled to receive the benefits provided in Part A of Paragraph 8 hereof; provided, however, that you shall first have given Acclaim written notice specifying any event or breach specified in this clause and Acclaim is permitted to cure any such breach within the period of 15 days after receipt of 3 notice of such breach Acclaim has failed to cure such breach within such 15 days; provided, further, however, that you shall not be obligated to provide Acclaim with notice and opportunity to cure more than one event or breach under each of clauses (a) through (f) as contained in the last paragraph of this Part B of Paragraph 4. A "Change in Control" shall be deemed to occur upon (a) the sale by Acclaim of all or substantially all of its assets to any person (as such term is used in Sections 13(d) and 14(d) of the Securities Exchange Act of 1934), the consolidation of Acclaim with any person, or the merger of Acclaim with any person as a result of which merger Acclaim is not the surviving entity as a publicly held corporation, or (b) the sale or transfer or issuance of shares of Common Stock by Acclaim and/or any one or more of its stockholders (other than Gregory E. Fischbach or James R. Scoroposki), as the case may be, in one or more transactions, related or unrelated, to one or more persons as a result of which any person and its "affiliates" (as hereinafter defined), other than Gregory E. Fischbach or James R. Scoroposki, shall own more than 15% of the outstanding Common Stock, unless such sale or transfer has been approved in advance by the Board. An "affiliate" shall mean any person that directly, or indirectly through one or more intermediaries, controls, or is controlled by, or is under common control with, any other person. Your "Circumstances of Employment" shall be deemed to have changed if there shall have occurred any of the following events: (a) a material reduction or change in your duties or reporting responsibilities; (b) a material breach by Acclaim of any provision of this Letter; (c) a material reduction in the fringe benefits made available by Acclaim to you; (d) a material diminution in your status, working conditions or economic benefits; (e) any action which substantially impairs your prestige or esteem in relation to any other employee of Acclaim; or (f) a reduction in your Base Salary. 5. A. If terminated by Acclaim for Cause, you agree, to the extent permitted by law, that neither you nor your spouse nor any of your minor children shall, during your employment with Acclaim and for one year thereafter, directly or indirectly, own, manage, operate, join or control, or participate in the ownership, management, operation or control of, or be a director or employee of, or a consultant to, any business, firm or corporation which is conducting any business which is substantially similar to or competes in any substantial respect with the business of Acclaim or any affiliate thereof as conducted or as contemplated to be conducted at the date of termination; provided, however, that the provisions of this Paragraph 5 shall not apply to your investments in shares of stock registered under the Securities Exchange Act of 1934 which (i) shall have an initial cost of less than $200,000 or (ii) shall constitute less than five percent of the outstanding shares of such stock. B. You agree that you shall not, during the Employment Period and for one year thereafter, (i) persuade or attempt to persuade any video game software developer, producer, manufacturer, licensor, supplier or other person providing services or goods to Acclaim not to do business with Acclaim or any affiliate thereof or to reduce the amount of business it does with Acclaim or any affiliate thereof; (ii) persuade or attempt to persuade any customer not to do business with Acclaim or any affiliate thereof or to reduce the amount of business it does with Acclaim or any affiliate thereof; (iii) solicit for yourself or any person other than Acclaim the 4 business of any video game software developer, producer, manufacturer, licensor, supplier or other person providing services or goods to Acclaim or any affiliate thereof, or customer or potential customer who did business with Acclaim or any affiliate thereof within one year prior to the termination of the Employment Period; (iv) persuade or attempt to persuade any employee of Acclaim or any affiliate thereof, or any individual who was an employee of Acclaim or any affiliate thereof during the six months prior to termination of the Employment Period, to leave Acclaim's or such affiliate's employ or to become employed by any person other than Acclaim or any affiliate thereof, nor (v) if you shall voluntarily terminate your employment hereunder, perform any consulting services for any person, partnership, corporation, or other entity who has engaged in business with Acclaim or any affiliate thereof during the one year immediately preceding such termination. C. You also agree that, during the Employment Period and at all times thereafter, you shall not disclose or use any confidential, proprietary or secret information including, without limitation, trade secrets of Acclaim or any affiliate thereof, relating to Acclaim or any affiliate thereof or any of its or their respective customers or video game software developers, producers, manufacturers, licensors, suppliers or other persons providing goods or services to Acclaim or any affiliate thereof with which Acclaim or such affiliate does business, other than information already in the public domain or independently developed by a third party who has no contractual or other arrangement with Acclaim. 6. You acknowledge and agree that, because of the unique and extraordinary nature of your services, any breach of the provisions of Paragraph 5 hereof will cause irreparable injury and incalculable harm to Acclaim and that it shall, accordingly, be entitled to injunctive or other equitable relief. 7. Acclaim shall indemnify you (and your legal representatives or other successors) to the fullest extent permitted by the laws of the State of Delaware and its existing certificate of incorporation and by-laws, and you shall be entitled to the protection of any insurance policies Acclaim may elect to maintain generally for the benefit of officers, against all costs, charges and expenses whatsoever incurred or sustained by you (or your legal representatives or other successors) in connection with any action, suit or proceeding to which you (or your legal representatives or other successors) may be made a party by reason of your being or having been an officer or employee of Acclaim and its subsidiaries and affiliates including, without limitation, any joint venture or partnership in which Acclaim or any of its subsidiaries has an interest. 8. A. If your employment hereunder is terminated other than upon your death or disability (i) by you pursuant to Part B of Paragraph 4 hereof, (ii) by you in the event of a material reduction in the stature of your duties or where you are directed to report directly to an officer who is less than the Chief Executive Officer of the Company, (iii) by you in the event of a reduction in your Base Salary, or (iv) by Acclaim other than for Cause, Acclaim shall pay to you the Base Salary that would otherwise have been payable to you for the 24-month period commencing with the termination of the Employment Period, at the same intervals as such payments would have been made had your employment not been terminated. In addition, if your employment hereunder is terminated as contemplated by the first sentence of this Part A, (a) you 5 shall be provided with outplacement services for six months following the termination of your employment hereunder, (b) you shall be entitled to Acclaim's then available medical, dental, life and disability benefits for the 24-month period commencing with the termination of the Employment Period and (c) notwithstanding anything to the contrary contained in the Plan, in the stock option or other agreements between you and Acclaim or in the stock option or other certificates delivered to you, the contractual restrictions relating to the Restricted Stock issued pursuant to Part F of Paragraph 2 hereof shall immediately terminate and all options previously granted to you shall become immediately vested and exercisable in full; provided, however, that with respect to clauses (ii) and (iii) contained in this Part A of Paragraph 8, prior to any termination by you, you shall first have given Acclaim written notice specifying any event or breach specified in the aforementioned clauses and Acclaim is permitted to cure any such breach within the period of 15 days after receipt of such notice of such breach and Acclaim has failed to cure such breach within such 15 days; and provided, further, however, that you shall not be obligated to provide Acclaim with notice and opportunity to cure more than one event or breach under each of clauses (ii) and (iii) contained in this Part A of Paragraph 8. B. If your employment hereunder is terminated (i) by your voluntary action for any reason except as contemplated by Part B of Paragraph 4 or by you pursuant to Part A (ii) or (iii) of Paragraph 8 hereof, (ii) upon your death or disability or (iii) by Acclaim for Cause, Acclaim shall pay, in lieu of any other payments hereunder (including Bonus payments, except, if your employment hereunder is terminated by reason of clause (ii) hereof, for any Bonus payments due for periods prior to termination), your Base Salary that has actually accrued to the date of termination. Upon the making of such payments pursuant to this Part B, Acclaim shall have no further obligation to you under this Letter. C. You may not terminate this agreement for any reason other than as set forth in Part B of Paragraph 4 and Part A of Paragraph 8. 9. The term of your employment hereunder shall commence on August 18, 1999 (the "Effective Date") and terminate on the third anniversary thereof, subject to earlier termination as provided in Paragraphs 3, 4 Part B and 8 Part A hereof or upon your death (the "Employment Period"). The Employment Period may be extended upon the mutual agreement of the parties hereto. 10. All notices hereunder shall be in writing and shall be sent by registered or certified mail, return receipt requested; if intended for Acclaim, such notices shall be addressed to it at One Acclaim Plaza, Glen Cove, New York 11542, Attention: Gregory E. Fischbach, with a copy to Rosenman & Colin LLP, 575 Madison Avenue, New York, New York 10022, Attention: Jayshree Parthasarathy, Esq., or at such other address of which Acclaim shall have given notice to you in the manner herein provided; and, if intended for you, such notices shall be mailed to you at your address first set forth above or at such other address of which you shall have given notice to Acclaim in the manner herein provided. 6 11. This Letter constitutes the entire understanding among the parties with respect to the matters referred to herein and no waiver of or modification to the terms hereof shall be valid unless in writing signed by the party to be charged and only to the extent therein set forth. All prior and contemporaneous agreements and understandings with respect to the subject matter of this Letter are hereby terminated and superseded by this Letter. 12. If any provision of this Letter is held to be invalid, illegal or unenforceable in any respect for any reason, the balance of this Letter shall remain in effect, and if any provision is inapplicable to any person or circumstance, it shall nevertheless remain applicable to all other persons and circumstances. 13. This Letter shall be binding upon and inure to the benefit of the parties hereto, their respective heirs, administrators, executors, personal representatives, successors and assigns. 14. This Letter shall be construed under the laws of the State of New York applicable to agreements wholly to be executed and to be performed therein. 15. Any dispute, claim, controversy or claim arising out of, relating to or in connection with this Letter, or the breach, termination or validity thereof, shall be brought exclusively in any Federal or State court in the State of New York, County of New York. Both parties hereto expressly and irrevocably submit to the jurisdiction of said courts and irrevocably waive any objection which either of them may now or hereafter have to the laying of venue of any action, suit or proceeding arising out of or relating to this Letter brought in such courts, irrevocably waive any claim that any such action, suit or proceeding brought in any such court has been brought in an inconvenient forum and further irrevocably waive the right to object, with respect to such claim, action, suit or proceeding brought in any such court, that such court does not have jurisdiction over such party. The parties hereto hereby irrevocably consent to the service of process by registered mail, postage prepaid, or by personal service within or without the State of New York. Nothing contained herein shall affect the right to serve process in any manner permitted by law. 16. Acclaim shall be entitled to withhold from amounts payable to you hereunder such amounts as may be required by applicable law. 7 Please sign this Letter below to indicate your agreement with and acceptance of the terms set forth above. Very truly yours, ACCLAIM ENTERTAINMENT, INC. By /s/ Gregory E. Fischbach ----------------------------- Name: Gregory E. Fischbach Title: President Chief Executive Officer and Co-Chairman Agreed to and Accepted: /s/ William G. Sorenson - ------------------------ WILLIAM G. SORENSON 8 Schedule 1 Responsibilities o Primary responsibilities will be to direct and control Financial operations and corporate development to include: accounting, tax, reporting, treasury, cash management as well as planning/forecasting, capital spending, risk management and acquisitions and divestitures. o Additional responsibilities include: o Directs the organizational financial planning and accounting policies, the relationships with lending institutions, shareholders and the financial community. o Oversees treasury, budgeting, audit, tax, accounting, purchasing, real estate and insurance activities. o Ensures procedures and systems are in place to maintain proper records, accounting controls and services. o Directs cash management activities as custodian of funds, securities and assets of the organization. o Issues periodic financial and operating reports. o Directs the preparation and issuance of the corporations Annual Report, 10(k), 10Q's and other documentation required by the SEC or for public information. o Oversees and influences the business plan strategy and formulation through proactive business partnerships, both internally and externally. o Assists in acquisitions, business line extensions and other investment opportunities as directed by the CEO or Co-Chairman. o Assumes primary responsibility for the integrity and accuracy of all financial reports and statements. o Develops technical and functional bench strength throughout the Finance organization, improves capability and productivity through targeted training and career development. o Manages external audits. o Oversees the proper filing of all taxes. o And any other duty normally carried out by the Chief Financial Officer of a public company. Exhibit A Terms of Restricted Stock Sale Number of shares: 100,000 shares of Common Stock Purchase Price: $0.02 per share, payable upon sale Restrictions: Shares may not be sold, assigned, transferred, pledged, hypothecated or otherwise disposed of until (1) the first anniversary of the Effective Date, with respect to up to 33,333 shares, (2) the second anniversary of the Effective Date, with respect to up to 66,666 shares, and (3) the third anniversary of the Effective Date, with respect to all 100,000 shares. If employment is terminated pursuant to the first sentence of Paragraph 8A of the Letter to which this Exhibit A is attached, the above restrictions shall immediately terminate. If employment is terminated other than pursuant to the first sentence of Paragraph 8A of the Letter to which this Exhibit A is attached, all shares as to which the restrictions shall not theretofore have terminated shall be delivered immediately to Acclaim and Acclaim shall purchase them for a purchase price of $0.02 per share. EX-10.5 4 RESTRICTED STOCK AGREEMENT RESTRICTED STOCK AGREEMENT AGREEMENT, made and entered into this 18th day of August, 1999, by and between ACCLAIM ENTERTAINMENT, INC., a Delaware corporation with its principal offices at One Acclaim Plaza, Glen Cove, New York 11542-2708 (the "Company"), and William G. Sorenson ("Sorenson"), an individual with an address at 530 Monterey Avenue, Pelham Manor, New York 10803. W I T N E S S E T H WHEREAS, concurrently herewith, the Company and Sorenson are entering into an agreement (the "Employment Agreement") relating to Sorenson's employment by the Company; WHEREAS, in connection with such employment, the Company has agreed to sell 100,000 shares of common stock, par value $0.02 per share (the "Common Stock"), of the Company to Sorenson and Sorenson desires to purchase the same from the Company. NOW, THEREFORE, in consideration of the foregoing premises and of the mutual covenants and agreements herein contained, the parties hereby agree as follows: 1. The Company hereby sells to Sorenson, and Sorenson hereby purchases from the Company, 100,000 shares of Common Stock (the "Restricted Shares") at a purchase price per share of $0.02 or a total purchase price of $2,000. Payment for the Restricted Shares shall be made by Sorenson to the Company simultaneously with the execution and delivery of this Agreement. 2. Except as other-wise specifically provided in this Agreement, Sorenson shall not sell, assign, transfer or otherwise dispose of, and shall not pledge or hypothecate, any or all of the Restricted Shares. 3. The restrictions set forth in Section 2 hereof (the "Stock Restrictions") shall terminate as follows: (a) as to 33,333 of the Restricted Shares owned by Sorenson, on the first anniversary of the date of this Agreement; (b) as to an additional 33,333 of the Restricted Shares owned by Sorenson, on the second anniversary of the date of this Agreement; and (c) as to the remaining 33,334 of the Restricted Shares owned by Sorenson, on the third anniversary of the date of this Agreement. 4. Notwithstanding the provisions of Section 3 hereof, if Sorenson's service with the Company shall be terminated pursuant to the first sentence of Paragraph 8A of the Employment Agreement prior to the termination, in whole or in part, of the Stock Restrictions with respect to his Restricted Shares, then, the Stock Restrictions which shall not have theretofore terminated with respect to such Restricted Shares shall forthwith terminate. 5. In the event Sorenson's service with the Company and its Subsidiaries shall terminate prior to the complete termination of the Stock Restrictions, then, except as otherwise provided in Section 4 hereof, the Stock Restrictions shall no longer terminate with respect to any Restricted Shares and Sorenson shall be obligated immediately to redeliver to the Company those Restricted Shares as to which the Stock Restrictions shall not have terminated and, as full consideration for such shares, the Company shall pay to Sorenson an amount equal to the purchase price per share paid by Sorenson for such Restricted Shares irrespective of the market value of such shares at the time of redelivery. 6. The Company shall cause each certificate for Restricted Shares to be issued in Sorenson's name and such shares shall be fully paid and nonassessable and free from preemptive rights. Each such certificate shall bear (i) a legend to the effect that the transferability of each such Restricted Share is restricted in accordance with the provisions of this Agreement and (ii) a legend to the effect that the securities represented by such certificate have not been registered under the Securities Act of 1933 (the "Securities Act") and that they may not be sold or transferred except in compliance with the registration requirements of the Securities Act or an exemption therefrom. 7. Sorenson represents and warrants to the Company that the Restricted Shares are being acquired by him solely for his own account and not with a view to, or for sale in connection with, the distribution thereof. Sorenson acknowledges that the sale of the Restricted Shares hereunder have not been registered under the Securities Act and, accordingly, that the Restricted Shares may not be resold unless subsequently registered under the Securities Act or unless an exemption from such registration is available. 8. Nothing herein contained shall be deemed to confer upon Sorenson any right to continue in the employ of the Company, nor to interfere in any way with the right of the Company to terminate Sorenson's employment at any time. 9. Sorenson (a) agrees that the Restricted Shares shall be subject to, and shall be held by him in accordance with, this Agreement, (b) agrees that the Company may place on the certificates representing the Restricted Shares or new or additional or different shares or securities distributed with respect to the Restricted Shares such legend or legends as the Company may deem appropriate and that the Company may place a stop transfer order with respect to such Restricted Shares with the transfer agent(s) for the Common Stock and (c) at his option, (i) shall be entitled to make the election permitted under section 83(b) of the Internal Revenue Code of 1986, as amended (the "Code"), to include in gross income in the taxable year in which the Restricted Shares are transferred to him, the fair market value of such shares at the time of transfer, notwithstanding that such shares are subject to a substantial risk of forfeiture within the meaning of the Code, or (ii) may elect to include in gross income the fair market value of the Restricted Shares as of the date on which such restriction lapses. 10. If the Restricted Shares should, as a result of a stock split or stock dividend or combination of shares or any other change, or exchange for other securities, by reclassification, reorganization, merger, consolidation, recapitalization or otherwise, be increased or decreased or changed into or exchanged for a different number or kind of shares of stock or other securities of the Company or of another corporation, all provisions of this Agreement relating to restrictions and lapse of restrictions shall thereupon be deemed applicable to such new or additional or different shares or securities to the same extent applicable to the Restricted Shares with respect to which they were distributed. 11. (a) Sorenson shall make such arrangements with the Company with respect to income tax withholding as the Company shall determine in its sole discretion is appropriate to ensure payment of federal, state or local income taxes due with respect to the issuance and/or ownership of Restricted Shares and the release of the Stock Restrictions thereon. (b) Unless Sorenson shall make an election under section 83(b) of the Code with respect thereto, Sorenson may, in the discretion of the Company and subject to such rules as the Company may adopt, elect to satisfy his withholding obligation arising as a result of the release of the Stock Restrictions with respect to any Restricted Shares, in whole or in part, by electing (an "Election") to deliver to the Company shares of Common Stock (other than Restricted Shares as to which the Stock Restrictions shall not have theretofore terminated) having a fair market value, determined as of the date that the amount to be withheld is determined (the "Tax Date"), equal to the amount required to be so withheld. Sorenson shall pay the Company in cash for any fractional share that would otherwise be required to be delivered. 12. This Agreement, together with the Employment Agreement, embodies the entire understanding between the Company and Sorenson and supersedes all prior agreements and understandings relating to the matters covered hereby. No provision of this Agreement may be changed or waived except by a signed written agreement between the Company and Sorenson. Neither this Agreement nor any of Sorenson's rights or duties hereunder shall be assignable by Sorenson without the prior written consent of the Company. 13. Any notices required to be given hereunder shall be sent by first class registered mail, postage and registry fees prepaid, and addressed to the Company and Sorenson at their respective addresses set forth above or to such other address as shall be indicated by the Company or Sorenson in writing to the other. Any such notice shall be deemed given three (3) days after it is mailed as aforesaid or upon personal delivery. 14. This Agreement shall be governed by, and construed and enforced in accordance with, the laws of the State of New York applicable to agreements wholly to be executed and to be performed therein. If any one or more of the provisions of this Agreement shall be held to be invalid, illegal or unenforceable in any respect, the validity, legality and enforceability of the remaining provisions shall not in any way be affected or impaired thereby. 15. Any dispute, claim, controversy or claim arising out of, relating to or in connection with this Agreement, or the breach, termination or validity thereof, shall be brought exclusively in any Federal or State court in the State of New York, County of New York. Both 15. Any dispute, claim, controversy or claim arising out of, relating to or in connection with this Agreement, or the breach, termination or validity thereof, shall be brought exclusively in any Federal or State court in the State of New York, County of New York. Both parties hereto expressly and irrevocably submit to the jurisdiction of said courts and irrevocably waive any objection which either of them may now or hereafter have to the laying of venue of any action, suit or proceeding arising out of or relating to this Agreement brought in such courts, irrevocably waive any claim that any such action, suit or proceeding brought in any such court has been brought in an inconvenient forum and further irrevocably waive the right to object, with respect to such claim, action, suit or proceeding brought in any such court, that such court does not have jurisdiction over such party. The parties hereto hereby irrevocably consent to the service of process by registered mail, postage prepaid, or by personal service within or without the State of New York. Nothing contained herein shall affect the right to serve process in any manner permitted by law. IN WITNESS WHEREOF, the Company has caused this instrument to be executed by a duly authorized officer and Sorenson has hereunto affixed his hand the day and year first above written. ACCLAIM ENTERTAINMENT, INC. By: /s/ Gregory E. Fischbach ------------------------------------- Name: Gregory E. Fischbach Title: President, Chief Executive Officer and Co-Chairman ---------------------------------------- William G. Sorenson 15. Any dispute, claim, controversy or claim arising out of, relating to or in connection with this Agreement, or the breach, termination or validity thereof, shall be brought exclusively in any Federal or State court in the State of New York, County of New York. Both parties hereto expressly and irrevocably submit to the jurisdiction of said courts and irrevocably waive any objection which either of them may now or hereafter have to the laying of venue of any action, suit or proceeding arising out of or relating to this Agreement brought in such courts, irrevocably waive any claim that any such action, suit or proceeding brought in any such court has been brought in an inconvenient forum and further irrevocably waive the right to object, with respect to such claim, action, suit or proceeding brought in any such court, that such court does not have jurisdiction over such party. The parties hereto hereby irrevocably consent to the service of process by registered mail, postage prepaid, or by personal service within or without the State of New York. Nothing contained herein shall affect the right to serve process in any manner permitted by law. IN WITNESS WHEREOF, the Company has caused this instrument to be executed by a duly authorized officer and Sorenson has hereunto affixed his hand the day and year first above written. ACCLAIM Entertainment, INC. By: -------------------------- /s/ William G. Sorenson ------------------------------- William G. Sorenson EX-21 5 SUBSIDIARIES OF THE REGISTRANT Exhibit 21 SUBSIDIARIES OF THE REGISTRANT Acclaim Cable Holdings, Inc. Delaware Acclaim Coin-Operated Entertainment, Inc. Delaware Acclaim Comics, Inc. Delaware Acclaim Distribution, Inc. Delaware Acclaim Corporate Center I, Inc. New York LJN Toys, Ltd. New York Oyster Bay Warehouse Corp. New York Acclaim Redemption Games, Inc. California Iguana Entertainment, Inc. Texas Acclaim Studios - Salt Lake City, Inc. Utah Acclaim Japan, Ltd. Japan Acclaim Entertainment Canada, Ltd. Canada Acclaim Entertainment Espana SA Spain Acclaim Entertainment G.m.b.H. Germany Acclaim Entertainment, SA France Acclaim Entertainment, Ltd. United Kingdom Iguana Entertainment Ltd. United Kingdom Probe Entertainment Limited United Kingdom Acclaim Redemption Games Limited U.S. Virgin Islands Acclaim Character Animation, L.P. Delaware ACA Holdings, Inc. Delaware Acclaim Europe Ltd. United Kingdom Annodeus Inc. Delaware TNM Holdings, Inc. Delaware Annodeus G.m.b.H. Germany Annodeus S.A. France Annodeus Limited United Kingdom EX-27 6 FINANCIAL DATA SCHEDULE
5 1,000 YEAR AUG-31-1999 SEP-01-1998 AUG-31-1999 74,421 0 124,044 39,614 15,565 189,286 63,977 31,283 244,838 159,895 49,750 0 0 1,121 30,238 244,838 504,713 430,974 200,980 189,966 0 0 (5,643) 39,030 2,972 36,058 0 0 0 36,058 .66 .57
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