UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-QSB
(Mark One)
|X| QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
For the quarterly period ended: June 30, 2005
------------------------------------------
OR
|_| TRANSITION REPORT PURSUANT SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE
ACT OF 1934
For the transition period from: ___________________ to ___________________
Commission file number: 000-28399
--------------------------------------------------
Gaming & Entertainment Group, Inc.
--------------------------------------------------------------------------------
(Exact name of small business issuer as
specified in its charter)
Utah 59-1643698
------------------------------------ ----------------------------
(State or other jurisdiction (I.R.S. Employer
of incorporation or organization) Identification No.)
6754 Spencer Street, Las Vegas, Nevada 89119
--------------------------------------------------------------------------------
(Address of principal executive offices)
(702) 407-2471
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(Issuer's telephone number)
--------------------------------------------------------------------------------
(Former name, former address and former fiscal year, if changed since last
report)
Check whether the issuer (1) filed all reports required to be filed by Section
13 or 15(d) of the Exchange Act during the past 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 |_|
Applicable Only to Issuers Involved in Bankruptcy Proceedings During the
Preceding Five Years
Check whether the registrant filed all documents and reports required to be
filed by Section 12, 13 or 15(d) of the Exchange Act after the distribution of
securities under a plan confirmed by court. YES |_| NO |_|
Applicable Only to Corporate Issuers
State the number of shares outstanding of each of the issuer's classes of common
equity, as of the latest practicable date:
19,830,602 shares of common stock, $0.01 par value, as of August 15, 2005
--------------------------------------------------------------------------------
Transitional Small Business Disclosure Format (check one): YES |_| NO |X|
-1-
FORM 10-QSB
TABLE OF CONTENTS
PAGE
PART I - FINANCIAL INFORMATION...............................................3
ITEM 1. FINANCIAL STATEMENTS..........................................3
Condensed Consolidated Balance Sheet
June 30, 2005 (Unaudited)..................................3
Condensed Consolidated Statements of Operations
For the Six and Three Months ended June 30, 2005 and
2004 (Unaudited)...........................................4
Condensed Consolidated Statement of Stockholders' Deficiency
For the Six Months ended June 30, 2005 (Unaudited).........5
Condensed Consolidated Statements of Cash Flows
For the Six Months ended June 30, 2005 and 2004
(Unaudited)................................................6
Notes to Condensed Consolidated Financial Statements
(Unaudited)................................................7
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OR PLAN OF OPERATION....15
Results of Operations........................................18
Liquidity and Capital Resources..............................22
Risk Factors.................................................23
ITEM 3. CONTROLS AND PROCEDURES......................................23
PART II - OTHER INFORMATION.................................................25
ITEM 1. LEGAL PROCEEDINGS............................................25
ITEM 2. UNREGISTERED SALES OF EQUITY SECURITIES AND USE OF
PROCEEDS.....................................................25
ITEM 3. DEFAULTS UPON SENIOR SECURITIES..............................25
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS..........25
ITEM 5. OTHER INFORMATION............................................25
ITEM 6. EXHIBITS.....................................................26
SIGNATURE...................................................................27
-2-
PART I - FINANCIAL INFORMATION
ITEM 1. FINANCIAL STATEMENTS.
GAMING & ENTERTAINMENT GROUP, INC. AND SUBSIDIARIES
CONDENSED CONSOLIDATED BALANCE SHEET
JUNE 30, 2005
(UNAUDITED)
ASSETS
Current Assets
Cash $ 312,431
Accounts receivable 115,758
-----------
Total current assets 428,189
Equipment and Furnishings, net of accumulated depreciation
of $295,635 130,670
Intangible Assets 313,500
Other Assets 10,304
-----------
Total assets $ 882,663
===========
LIABILITIES AND STOCKHOLDERS' DEFICIENCY
Current Liabilities
Accounts payable $ 69,814
Accrued expenses 133,552
Accrued compensation - officers 107,691
Notes payable - officers 84,147
-----------
Total current liabilities 395,204
Senior secured note payable, net of unamortized debt
discount of $980,441 1,019,559
Deferred rent 37,461
-----------
Total liabilities 1,452,224
-----------
Commitments
Stockholders' Deficiency
Preferred stock, par value $10 per share; 10,000,000 shares
authorized
Class A convertible preferred stock, par value $10 per
share;
1,000,000 shares designated; none issued --
Class B preferred stock, par value $10 per share;
1,000,000 shares designated; none issued --
Common stock, par value $.01 per share; 150,000,000 shares
authorized;
19,830,602 shares issued and outstanding 198,306
Additional paid-in capital 6,556,087
Accumulated deficit (7,470,426)
Accumulated other comprehensive income - foreign currency
translation gains 146,472
-----------
Total stockholders' deficiency (569,561)
-----------
Total liabilities and stockholders' deficiency $ 882,663
===========
See accompanying notes to condensed consolidated financial statements
-3-
GAMING & ENTERTAINMENT GROUP, INC. AND SUBSIDIARIES
CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS FOR
THE SIX AND THREE MONTHS ENDED
JUNE 30, 2005 AND 2004
(UNAUDITED)
Six Months Ended June 30, Three Months Ended June 30,
---------------------------- ----------------------------
2005 2004 2005 2004
------------ ------------ ------------ ------------
Revenues:
Services $ 529,003 $ 75,340 $ 299,223 $ 46,667
Product 5,000 -- -- --
------------ ------------ ------------ ------------
Total revenues 534,003 75,340 299,223 46,667
------------ ------------ ------------ ------------
Cost of revenues:
Services 186,475 -- 87,433 --
Product 5,630 -- (66) --
------------ ------------ ------------ ------------
Total cost of revenues 192,105 -- 87,367 --
------------ ------------ ------------ ------------
Gross margin 341,898 75,340 211,856 46,667
------------ ------------ ------------ ------------
Operating expenses:
Research and development 297,877 504,269 139,667 252,213
Selling, general and
administrative expenses 775,977 1,642,276 397,041 942,261
------------ ------------ ------------ ------------
Total operating expenses 1,073,854 2,146,545 536,708 1,194,474
------------ ------------ ------------ ------------
Operating loss (731,956) (2,071,205) (324,852) (1,147,807)
------------ ------------ ------------ ------------
Other income (expense):
Foreign currency
transaction loss -- (14,170) -- (14,170)
Interest expense and
amortization of debt discount (187,675) (26,008) (101,643) (2,980)
Other income 142,045 9,457 88,868 4,452
------------ ------------ ------------ ------------
Total other expense (45,630) (30,721) (12,775) (12,698)
------------ ------------ ------------ ------------
Net loss $ (777,586) $ (2,101,926) $ (337,627) $ (1,160,505)
============ ============ ============ ============
Weighted average number of
shares outstanding 19,498,113 17,292,412 19,830,602 19,207,084
============ ============ ============ ============
Net loss per share - basic
and diluted $ (0.04) $ (0.12) $ (0.02) $ (0.06)
============ ============ ============ ============
See accompanying notes to condensed consolidated financial statements
-4-
GAMING & ENTERTAINMENT GROUP, INC. AND SUBSIDIARIES
CONDENSED CONSOLIDATED STATEMENT OF
STOCKHOLDERS' DEFICIENCY
FOR THE SIX MONTHS ENDED JUNE 30, 2005
(UNAUDITED)
Accumulated
Common Stock Additional Other
--------------------- Paid-in Accumulated Comprehensive
Shares Amount Capital Deficit Income Total
---------- -------- ----------- ------------ -------------- ---------
Balance at January 1, 2005 19,017,352 $190,173 $ 6,300,720 $ (6,692,840) $ 147,416 $ (54,531)
Shares issued in exchange for
purchase of intangible assets 250,000 2,500 125,000 -- -- 127,500
Warrants issued in exchange for
purchase of intangible assets -- -- 136,000 -- -- 136,000
Shares issued for late registration
filing 563,250 5,633 (5,633) -- -- --
Foreign currency translation
loss (A) -- -- -- -- (944) (944)
Net loss -- -- -- (777,586) -- (777,586)
---------- -------- ----------- ------------ -------------- ---------
Balance at June 30, 2005 19,830,602 $198,306 $ 6,556,087 $ (7,470,426) $ 146,472 $(569,561)
========== ======== =========== ============ ============== =========
(A) Comprehensive loss (net loss plus or minus foreign currency translation loss
or gain) for the six and three months ended June 30, 2005 and 2004 totaled
$778,530, $334,701, $2,142,730 and $1,161,527, respectively.
See accompanying notes to condensed consolidated financial statements
-5-
GAMING & ENTERTAINMENT GROUP, INC. AND SUBSIDIARIES
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS FOR
THE SIX MONTHS ENDED JUNE 30, 2005 AND 2004
(UNAUDITED)
2005 2004
--------- -----------
Cash flows from operating activities
Net loss $(777,586) $(2,101,926)
Adjustments to reconcile net loss to net cash used in operating activities:
Recoveries of loan and note receivable and provision for bad debts -- (2,419)
Amortization of debt discount 111,034 --
Depreciation expense 40,431 15,339
Shares issued for services -- 432,390
Options and warrants issued to nonemployees for services -- 175,088
Deferred rent (10,304) --
Changes in operating assets and liabilities:
Accounts receivable 63,285 --
Prepaid expenses -- (11,790)
Accounts payable (50,242) 90,936
Accrued expenses 84,063 (33,325)
Accrued compensation - officers (10,405) (59,190)
Foreign taxes payable (166,009) --
--------- -----------
Net cash used in operating activities (715,733) (1,494,897)
--------- -----------
Cash flows from investing activities
Acquisition of intangible assets (50,000) --
Acquisition of equipment and furnishings (8,798) (44,007)
--------- -----------
Net cash used in investing activities (58,798) (44,007)
--------- -----------
Cash flows from financing activities
Repayments of related party loans -- (458,450)
Proceeds from the issuance of senior secured note and warrants 500,000 --
Net proceeds from sale of common stock and warrants -- 2,143,242
--------- -----------
Net cash provided by financing activities 500,000 1,684,792
--------- -----------
Effect of exchange rate changes on cash (7,062) (17,271)
--------- -----------
Net increase (decrease) in cash (281,593) 128,617
Cash, beginning of period 594,024 86,315
--------- -----------
Cash, end of period $ 312,431 $ 214,932
========= ===========
Supplemental disclosure of cash flow information
Interest paid $ -- $ 26,760
========= ===========
Supplemental schedule of noncash investing and financing activities:
Shares issued for equipment -- $ 58,334
Intangible assets purchased in exchange for common stock and warrants $ 263,500 --
========= ===========
See accompanying notes to condensed consolidated financial statements
-6-
GAMING & ENTERTAINMENT GROUP, INC. AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(UNAUDITED)
NOTE 1 - BUSINESS AND ORGANIZATION
On or about January 12, 2004, NorStar Group, Inc., a publicly-held company
incorporated in Utah that was not conducting or developing any commercial
operations ("NorStar"), consummated a series of transactions, including: (i) a
1-for-24.852732 reverse split of its outstanding shares of common stock; (ii)
the issuance of 14,600,000 post-split shares of common stock in exchange for all
of the outstanding shares of common stock of Gaming & Entertainment Group, Inc.,
a Nevada corporation ("G&EG Nevada"); (iii) the issuance of options and warrants
to purchase 4,257,937 post-split shares of common stock in exchange for all of
the outstanding options and warrants to purchase shares of G&EG Nevada; and (iv)
a change in the name of NorStar to Gaming & Entertainment Group, Inc. ("G&EG").
As a result of the exchange, G&EG Nevada became a subsidiary of G&EG, and the
former stockholders of G&EG Nevada became the holders of 91.25% of the then
outstanding shares of common stock of the combined companies. In addition, the
former directors and officers of G&EG Nevada became the controlling members of
the board of directors and management of the combined companies. Since G&EG
Nevada was the only operating company in the exchange and the former
stockholders of G&EG Nevada received a substantial majority of the voting
securities of the combined companies, the exchange was accounted for as a
"reverse acquisition" and, effectively, as a recapitalization, in which G&EG
Nevada was treated as the accounting acquirer (and the legal acquiree) and
NorStar was the accounting acquiree (and the legal acquirer). Since the exchange
was accounted for as a "reverse acquisition," the accompanying condensed
consolidated financial statements reflect the historical financial statements of
G&EG Nevada, the accounting acquirer, as adjusted for the effects of the
exchange of shares on its equity accounts, the inclusion of the net liabilities
of the accounting acquiree as of January 12, 2004 at their historical basis and
the inclusion of the accounting acquiree's results of operations from that date.
As used herein, the "Company" refers to G&EG Nevada prior to January 12, 2004
and to G&EG, G&EG Nevada and their other subsidiaries from that date forward.
The Company is a developer of central server gaming systems, game content and
gaming devices for the land-based gaming markets of the United States and
Europe, as well as Internet and wireless gaming systems for utilization in
regulated gaming markets.
NOTE 2 - BASIS OF PRESENTATION AND SIGNIFICANT ACCOUNTING POLICIES
Basis of Presentation
The accompanying unaudited condensed consolidated financial statements have been
prepared pursuant to the rules and regulations of the Securities and Exchange
Commission. Certain information and disclosures normally included in financial
statements prepared in accordance with accounting principles generally accepted
in the United States of America have been condensed or omitted from this report,
as is permitted by such rules and regulations; however, in the opinion of
management, the accompanying unaudited condensed consolidated financial
statements reflect all adjustments, consisting of normal recurring adjustments,
necessary to make the presentation of the Company's financial position as of
June 30, 2005 and its results of operations and cash flows for the interim
periods presented not misleading. Results of operations for interim periods are
not necessarily indicative of results for the full years of which they are a
part. For further information, refer to the financial statements and footnotes
thereto included in the Company's Annual Report on Form 10-KSB for the year
ended December 31, 2004, as filed with the Securities and Exchange Commission.
The accompanying unaudited condensed consolidated financial statements have been
prepared assuming the Company will continue as a going concern. As shown in the
financial statements, the Company has
-7-
GAMING & ENTERTAINMENT GROUP, INC. AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(UNAUDITED) (CONTINUED)
incurred losses of $777,586 and $337,627 for the six and three months ended June
30, 2005, respectively, and recurring losses in prior years. As of June 30,
2005, the Company had an accumulated deficit of $7,470,426 and a stockholders'
deficiency of $569,561. These conditions raise substantial doubt about the
Company's ability to continue as a going concern. The Company's ability to
continue as a going concern is dependent upon its ability to generate sufficient
cash flows from its operations or obtain sufficient liquid resources from other
sources to meet its obligations as they become due. Through June 30, 2005, the
Company has funded its operations primarily through the issuance of common
stock, warrants and options to outside investors for cash and consultants and
others for services and the issuance of promissory notes, and warrants to third
parties, specifically Cantor G&W (Nevada), L.P. ("Cantor") since September 2004.
Management anticipates that additional funding of not less than $1,500,000 will
be necessary to fund the Company's operations through June 30, 2006. Management
believes, but cannot assure, that the Company will be able to obtain such
funding through product placements, development contracts and third party
financing and continue its operations through at least June 30, 2006. If the
Company is not able to obtain adequate financing, it may have to curtail or
terminate some, or all, of its operations. The accompanying unaudited condensed
consolidated financial statements do not include any adjustments relating to the
recoverability and classification of recorded assets, or the amounts and
classifications of liabilities that might be necessary in the event the Company
cannot continue as a going concern.
Principles of Consolidation
The accompanying consolidated financial statements include the accounts of G&EG
and its wholly-owned subsidiaries. All significant intercompany balances and
transactions have been eliminated in consolidation.
Use of Estimates
The preparation of financial statements in conformity with accounting principles
generally accepted in the United States of America requires management to make
estimates and assumptions that affect certain reported amounts and disclosures.
Accordingly, actual results could differ from those estimates.
Revenue Recognition
Revenues from the enhancement, maintenance and technical support of Internet
gaming sites in regulated gaming markets, in relation to the software
development previously performed, are recognized as the services are performed,
or if no pattern of performance is discernable, on a straight-line basis over
the period in which the services are performed.
Revenues from fixed price Internet gaming site development contracts in
regulated gaming markets, in relation to software development specifically
performed for each respective client, will be recognized using the percentage of
completion method of accounting with labor hours as the basis for measurement of
progress toward completion of the contracts. Revenues from time and material
contracts are recognized at the contractual rates as labor hours are delivered
and direct expenses are incurred.
Revenues from online gaming software license fees, in relation to the
utilization of the G&EG proprietary gaming platform, will be recognized as
earned over the term of the agreement. When the
-8-
GAMING & ENTERTAINMENT GROUP, INC. AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(UNAUDITED) (CONTINUED)
Company receives a percentage of the gaming revenues generated by its client's
Internet gaming sites, it will recognize such revenues based upon a percentage
of the gross win when earned.
When Company owned gaming machines are leased to a customer, revenues from the
placement of gaming machines on a revenue-sharing basis, as well as the
placement of a central server gaming system on a license basis, in relation to
the certain percentage of the client's gross win and utilization of the G&EG
proprietary gaming platform, will be recognized on a straight-line basis over
the term of the lease.
Revenue from gaming machines that are sold will be recognized upon completion of
installation and acceptance by the gaming operator, provided collectibility is
reasonably assured. Revenues generated under revenue-sharing contracts will be
negotiated based upon the cost of the equipment installed, the location of a
particular casino, and the estimated daily net win per gaming machine for each
casino client and will be recognized as revenue as these amounts are earned.
Stock-Based Compensation
Statement of Financial Accounting Standards No. 123, "Accounting for Stock-Based
Compensation" ("SFAS 123"), provides for the use of a fair value based method of
accounting for employee stock compensation. However, SFAS 123 also allows an
entity to continue to measure compensation cost for stock options granted to
employees using the intrinsic value method of accounting prescribed by
Accounting Principles Board Opinion No. 25, "Accounting for Stock Issued to
Employees" ("APB 25"), which only requires charges to compensation expense for
the excess, if any, of the fair value of the underlying stock at the date a
stock option is granted (or at an appropriate subsequent measurement date) over
the amount the employee must pay to acquire the stock. The Company has elected
to continue to account for employee stock options using the intrinsic value
method under APB 25. By making that election, it is required by SFAS 123 and
Statement of Financial Accounting Standards No. 148, "Accounting for Stock-Based
Compensation - Transition and Disclosure" ("SFAS 148"), to provide pro forma
disclosures of net loss and net loss per common share as if a fair value based
method of accounting had been applied, if such amounts differ materially from
the historical amounts. As a result of amendments to SFAS 123, the Company will
be required to expense the fair value of employee stock options beginning with
its fiscal quarter ending March 31, 2006.
The exercise price of all of the options granted to employees has been equal to
or greater than the fair market value at the date of grant and, accordingly, the
Company has not recorded any earned or unearned compensation cost related to
such options in the accompanying condensed consolidated financial statements.
The Company's historical net loss and net loss per share and pro forma net loss
and net loss per share assuming compensation cost had been determined based on
the fair value of the options at the date of grant and amortized over the
vesting period consistent with the provisions of SFAS 123 are set forth below:
-9-
GAMING & ENTERTAINMENT GROUP, INC. AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(UNAUDITED) (CONTINUED)
Six Months Ended June 30, Three Months Ended June 30,
-------------------------- --------------------------
2005 2004 2005 2004
----------- ----------- ----------- -----------
Net loss, as reported $ (777,586) $(2,101,926) $ (337,627) $(1,160,505)
Deduct: Total stock-based
employee compensation expense
determined under fair value
based method for all awards -- (464,307) -- (127,800)
----------- ----------- ----------- -----------
Pro forma net loss $ (777,586) $(2,566,233) $ (337,627) $(1,288,305)
=========== =========== =========== ===========
Basic and diluted loss per common $ (0.04) $ (0.12) $ (0.02) $ (0.06)
share as reported
=========== =========== =========== ===========
Basic and diluted loss per common
share pro forma $ (0.04) $ (0.15) $ (0.02) $ (0.07)
=========== =========== =========== ===========
In accordance with the provisions of SFAS 123, all other issuances of common
stock, options or other equity instruments to employees and consultants as
consideration for goods or services received by the Company are accounted for
based on the fair value of the equity instruments issued (unless the fair value
of the consideration received can be more reliably measured). The fair value of
any options or similar equity instruments issued will be estimated based on the
Black-Scholes option-pricing model, which meets the criteria set forth in SFAS
123, and the assumption that all of the options or other equity instruments will
ultimately vest.
Net Loss per Share
The Company presents "basic" earnings (loss) per share and, if applicable,
"diluted" earnings per share pursuant to the provisions of Statement of
Financial Accounting Standards No. 128, "Earnings per Share" ("SFAS 128"). Basic
earnings (loss) per share is calculated by dividing net income or loss by the
weighted average number of common shares outstanding during each period. The
calculation of diluted earnings per share is similar to that of basic earnings
per share, except that the denominator is increased to include the number of
additional common shares that would have been outstanding if all potentially
dilutive common shares, such as those issuable upon the exercise of options and
warrants, were issued during the period and the treasury stock method had been
applied. Since the Company had net losses for the six and three months ended
June 30, 2005 and 2004, the effects of the assumed exercise of outstanding
options and warrants would have been anti-dilutive and, accordingly, basic and
diluted net loss per share in each period were the same. As of June 30, 2005 and
2004, the Company had options and warrants outstanding for the purchase of
17,215,929 and 7,349,272 shares of common stock, respectively, that were not
included in the computation of diluted loss per share.
Concentrations
The Company currently receives nearly all of its revenue from Cantor. It is
anticipated that the Company's revenue sources will diversify over time, but in
the near term, a high percentage of the Company's revenue will be concentrated
with Cantor.
-10-
GAMING & ENTERTAINMENT GROUP, INC. AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(UNAUDITED) (CONTINUED)
Intangible Assets
Intangible assets, which consist of intellectual property, are recorded at cost
and will be amortized on a straight-line basis over their estimated useful lives
of 5 years.
Reclassifications
Certain reclassifications of previously reported amounts have been made to
conform to the current period presentation.
NOTE 3 - INTANGIBLE ASSETS
Intangible assets consist of the following:
June 30, 2005
-------------------------------------
Gross
Carrying Accumulated
Amount Amortization Net
--------- ------------ --------
Amortizable intangible assets
Intellectual Property $ 313,500 $ -- $313,500
--------- ------------ --------
Total $ 313,500 $ -- $313,500
========= ============ ========
On March 13, 2005, the Company acquired $313,500 of intellectual property from
Absolute Game, Ltd. ("Absolute") in exchange for $263,500 in stock and warrants
and $50,000 in cash. The intellectual property consists of next generation
digital casino and poker graphics, which the Company expects to derive a benefit
with the next version of Cantor's Internet gaming site.
Since the Company acquired the foregoing intellectual property on March 13,
2005, and had not yet utilized the property, no amortization expense was
recorded for the six and three months ended June 30, 2005. Estimated
amortization expense for the succeeding calendar years is (i) $31,350 in the
remainder of calendar 2005; (ii) $62,700 in calendar 2006; (iii) $62,700 in
calendar 2007; (iv) $62,700 in calendar 2008; (v) $62,700 in calendar 2009; and
(vi) $31,350 in calendar 2010.
NOTE 4 - COMMITMENTS
Consulting Agreements
In March 2005, the Company entered into a consulting agreement with Peter
Bengtsson, the Chief Executive Officer of Absolute. The consulting agreement is
effective for a period of two years and includes Mr. Bengtsson and one
additional game developer/graphic artist. Collectively, Mr. Bengtsson and the
third party will be paid $12,000 per month.
Operating Leases
On June 16, 2005, the Company subleased (the "Sublease") its Las Vegas office to
a third party (the "Sublessee"). The Sublease is for a period of two years and
includes successive one-year renewable options. Under the terms of the Sublease,
the Sublessee is required to pay the full lease payment due under the terms of
the original lease agreement (the "Lease"). In addition, during the term of the
-11-
GAMING & ENTERTAINMENT GROUP, INC. AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(UNAUDITED) (CONTINUED)
Sublease, the Company maintains the contractual responsibility for certain
infrastructure located at the Las Vegas office. At the conclusion of the
Sublease, and assuming the renewable options are not exercised, there will be 28
months remaining on the Lease. The aggregate annual rentals for this sublease
for the succeeding calendar years are (i) $64,157 in the remainder of calendar
2005; (ii) $128,315 in calendar 2006; and (iii) $64,157 in calendar 2007.
NOTE 5 - ISSUANCES OF COMMON STOCK
On March 14, 2005, the Company issued 250,000 shares of common stock with a fair
value of $127,500, determined by the closing market price, in exchange for the
purchase of intangible assets from Absolute.
Pursuant to a private placement consummated in 2004 (the "Private Placement"),
the Company was obligated to file a registration statement (the "Registration
Statement") no later than July 15, 2004. The Private Placement consisted of
units, each unit priced at $10,000 which was comprised of 10,000 shares of
common stock and a warrant to purchase 10,000 shares of common stock at $1.50
per share, which expires on May 31, 2005.
The Company did not file the Registration Statement by July 15, 2004, but rather
filed it on March 3, 2005. Accordingly, the Company issued to the purchasers of
units a total of 563,250 shares of common stock, which represented 3% of the
number of shares of common stock purchased by each purchaser for each month or
part thereof of such late filing. Such shares of common stock were registered
under the Registration Statement on Form S-3 filed with the Securities and
Exchange Commission and declared effective.
NOTE 6 - STOCK OPTIONS AND WARRANTS
Stock Options
A summary of the changes in outstanding stock options during the six months
ended June 30, 2005 follows:
Weighted-
Average
Exercise
Shares Price
--------- ---------
Outstanding, January 1, 2005 2,508,442 $ 0.78
Granted 300,000 $ 0.40
Forfeited (835,302) $ 0.65
---------
Outstanding, June 30, 2005 1,973,140 $ 0.77
=========
Exercisable, June 30, 2005 1,973,140 $ 0.77
=========
Previously, William McMaster, our former Chief Technology Officer, resigned due
to personal and family obligations. As a result of the foregoing, Mr. McMaster's
options to purchase a total of 500,000 shares of common stock have been
cancelled.
-12-
GAMING & ENTERTAINMENT GROUP, INC. AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(UNAUDITED) (CONTINUED)
Stock Warrants
During the six months ended June 30, 2005, the Company issued a warrant to
purchase 500,000 shares of common stock in connection with the purchase of
intellectual property from Absolute. The warrant is exercisable for three years
commencing March 14, 2005, is fully vested and has an exercise price of $0.40
per share. The fair value of the warrant, calculated using a Black-Scholes
option-pricing model, amounted to $136,000.
A summary of the changes in outstanding warrants during the six months ended
June 30, 2005 follows:
Weighted-Average
Shares Exercise Price
----------- ----------------
Outstanding, January 1, 2005 17,246,123 $ 0.76
Issued in connection with purchase of
intellectual property 500,000 $ 0.40
Expired (2,503,334) $ 1.50
-----------
Outstanding, June 30, 2005 15,242,789 $ 0.63
===========
Fair Value of Warrant
The fair value of the warrant issued during the three months ended March 31,
2005 was calculated using the Black-Scholes option-pricing model in accordance
with SFAS 123 based on the following assumptions: expected life of 2.96 years,
risk free interest rate of 3.97%, dividend yield of 0% and volatility of 66.16%.
NOTE 7 - PREFERRED STOCK
The Company is authorized to issue up to 10,000,000 shares of preferred stock,
having a $10 par value. The Company has designated 1,000,000 shares as Class A
convertible and 1,000,000 shares as Class B convertible. At the time of
issuance, the Board of Directors has the right to designate the rights,
preferences and privileges of each class. As of June 30, 2005, the Company did
not have any shares of preferred stock outstanding.
NOTE 8 - SENIOR SECURED NOTE PAYABLE
Pursuant to the Loan Facility and Investment Agreement (as described in Note 8
of the financial statements in the Annual Report filed on Form 10-KSB) dated
December 8, 2004, between the Company and Cantor, on June 30, 2005 the Company
received the final installment thereunder in the amount of $250,000. Since
September 2004, the Company has received a total of $2,000,000 from Cantor.
-13-
GAMING & ENTERTAINMENT GROUP, INC. AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(UNAUDITED) (CONTINUED)
NOTE 9 - INFORMATION ABOUT GEOGRAPHICAL AREAS
The Company presently operates in one reportable segment - Internet gaming
software development. Revenue information and long lived assets by geographical
area is set forth below for the six and three months ended June 30, 2005 and
2004:
Six Months Ended June 30, 2005
Revenues from
external
Geographical area customers Long-lived assets
----------------- ------------- -----------------
United States $ 5,000 $ 112,108
United Kingdom -- $ 1,802
Australia $ 529,003 $ 16,760
------------- -----------------
$ 534,003 $ 130,670
============= =================
Three Months Ended June 30, 2005
Revenues from
external
Geographical area customers
----------------- -------------
United States --
United Kingdom --
Australia $ 299,223
-------------
$ 299,223
=============
Six Months Ended June 30, 2004
Revenues from
external Long-lived
Geographical area customers assets
----------------- ------------- -----------------
United States -- $ 95,262
United Kingdom -- $ 2,727
Australia $ 75,340 $ 64,541
------------- -----------------
$ 75,340 $ 162,530
============= =================
Three Months Ended June 30, 2004
Revenues from
external
Geographical area customers
----------------- -------------
United States --
United Kingdom --
Australia $ 46,667
-------------
$ 46,667
=============
-14-
GAMING & ENTERTAINMENT GROUP, INC. AND SUBSIDIARIES
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OR PLAN OF OPERATION.
Statement on Forward-Looking Information
Certain information included herein contains statements that may be
considered forward-looking statements within the meaning of Section 27A of the
Securities Act of 1933 and Section 21E of the Securities Exchange Act of 1934,
or the Exchange Act, such as statements relating to plans for product
development, product placement, capital spending and financing sources. Such
forward-looking information involves important risks and uncertainties that
could significantly affect anticipated results in the future and, accordingly,
such results may differ from those expressed in any forward-looking statements
made herein. These risks and uncertainties include, but are not limited to,
those relating to our liquidity requirements, our ability to locate necessary
sources of capital to sustain our operations, the continued growth of the gaming
industry, the success of our product development activities, the acceptance of
our products in the marketplace, vigorous competition in the gaming industry,
our dependence on existing management, changes in gaming laws and regulations
(including actions affecting licensing), our leverage and debt service
(including sensitivity to fluctuations in interest rates) and domestic or global
economic conditions.
Overview
On or about January 12, 2004, NorStar Group, Inc., a publicly-held
company that was not conducting or developing any commercial operations, or
NorStar, consummated a series of transactions, including: (i) a 1-for-24.852732
reverse split of its outstanding shares of common stock; (ii) the issuance of
14,600,000 post-split shares of common stock in exchange for all of the
outstanding shares of common stock of Gaming & Entertainment Group, Inc., a
Nevada corporation, or G&EG Nevada, a developer of Internet and wireless gaming
software for use in regulated gaming markets, as well as central server gaming
systems, game content and gaming devices for land-based gaming; (iii) the
issuance of options and warrants to purchase 4,257,937 post-split shares of
common stock in exchange for all of the outstanding options and warrants to
purchase shares of G&EG Nevada; and (iv) a change in the name of NorStar to
Gaming & Entertainment Group, Inc., or G&EG. As a result of the exchange, G&EG
Nevada became a subsidiary of G&EG and the former stockholders of G&EG Nevada
became the holders of 91.25% of the then outstanding shares of common stock of
the combined companies. In addition, the former directors and officers of G&EG
Nevada became the controlling members of the board of directors and management
of the combined companies. Since G&EG Nevada was the only operating company in
the exchange and the former stockholders of G&EG Nevada received a substantial
majority of the voting securities of the combined companies, the exchange was
accounted for as a "reverse acquisition" and, effectively, as a
recapitalization, in which G&EG Nevada was treated as the accounting acquirer
(and the legal acquiree) and NorStar was the accounting acquiree (and the legal
acquirer). Since the exchange was accounted for as a "reverse acquisition," the
accompanying condensed consolidated financial statements reflect the historical
financial statements of G&EG Nevada, the accounting acquirer, as adjusted for
the effects of the exchange of shares on its equity accounts, the inclusion of
the net liabilities of the accounting acquiree as of January 12, 2004 at their
historical basis and the inclusion of the accounting acquiree's results of
operations from that date.
In this report, the references to "we," "us" or "our" relate to G&EG
Nevada prior to January 12, 2004 and to G&EG, G&EG Nevada and their other
subsidiaries from that date.
-15-
GAMING & ENTERTAINMENT GROUP, INC. AND SUBSIDIARIES
Critical Accounting Policies and Estimates
The preparation of financial statements in conformity with accounting
principles generally accepted in the United States of America requires
management to make estimates and assumptions that affect reported amounts and
disclosures, some of which may require revision in future periods. The most
sensitive estimates affecting our financial statements include, or will include
in subsequent periods, future volatility used in valuing equity instruments,
allowances for bad debts, depreciable lives of gaming equipment in service and
other equipment, amortization periods of intellectual property, deferred
revenues, accrued liabilities and deferred tax valuation allowances. By their
nature, these judgments are subject to an inherent degree of uncertainty. Our
judgments are based on our historical experience, our observance of industry
trends, information provided by or gathered from our customers and information
available from other outside sources, as appropriate. There can be no assurance
that actual results will not differ from our estimates. The most critical
policies relate to revenue recognition. The following is a description of our
revenues and our revenue recognition policies. The application of these
policies, in some cases, requires our management to make subjective judgments
regarding the effect of matters that are inherently uncertain.
Description of Revenues
Through June 30, 2005, our revenues were generated from the development of
prospective Internet gaming sites in regulated gaming markets outside of the
United States, as well as maintenance and technical support contracts. On
December 8, 2004, we entered into definitive agreements with Cantor which
included, among other things, the exclusive license of our Internet gaming
software to them. In conjunction with this license, we currently receive a
monthly development fee for the development of the Cantor Casino, which is
currently anticipated to go live in the third quarter of 2005 and will not
permit bets to be placed by individuals in the United States. We will receive a
portion of the net win realized by the Cantor Casino following repayment of
certain expenses associated therewith. In addition, it is anticipated that we
will develop additional "white-label" Internet gaming sites, each of which will
prohibit bets in the United States, for clients of Cantor as well third parties
introduced by us. Similar to the Cantor Casino, we will receive a development
fee and a portion of the net win realized by such "white-label" sites.
In addition, we are focused on the provision of our central server gaming
system and suite of games in the land-based gaming markets of Europe and the
United States. Our business model for our land-based initiatives is based upon a
combination of recurring revenue and the sale of our products. Specifically, we
anticipate offering our central server gaming system on a license basis, where
applicable, whereby we will receive a recurring license fee based upon gaming
machines utilizing our software. Gaming machines will either be placed on a
revenue sharing basis, with the Company realizing 15%-30% of the net win (i.e.,
coin inserted into a machine less the coin paid out) from the gaming machines,
or on a sale basis, particularly in Europe where revenue sharing arrangements
are not customary. Alternatively, we may occasionally deploy gaming machines on
the basis of part cash payment and a lower revenue sharing percentage. We also
anticipate generating revenues from maintenance and technical support services
in connection with the placement of our central server gaming system and gaming
machines. In all cases, we will outsource the manufacture of our gaming machines
through turnkey third party manufacturing sources with which we have an alliance
and utilize existing distribution channels.
The placement of gaming equipment on a revenue sharing basis is capital
intensive. In this regard, to the extent we make such placements, we will
require a credit facility sufficient to finance the manufacture and deployment
of our gaming machines, as well as the interim manufacturing period where gaming
machines are placed on an sale basis. At this time, we do not have a credit
facility.
-16-
GAMING & ENTERTAINMENT GROUP, INC. AND SUBSIDIARIES
When we install our gaming machines on a revenue-sharing basis, there will
generally be no cost to our casino clients, as we would share in the recurring
revenues generated from the gaming machines. We would, however, retain ownership
of the gaming machines and the central server gaming system, as applicable,
throughout the term of the revenue-sharing and licensing agreements,
respectively, and would maintain the right to refurbish and redeploy gaming
machines returned to us either upon the expiration or early termination of the
revenue-sharing agreements. We believe that by placing gaming machines on a
revenue-sharing basis we could maximize the amount of placements of our
products; provided, however, there is no assurance that we will be successful in
this effort given our current cash position, not having yet established a credit
facility with a third-party financier, not having previously deployed products
or provided services to gaming operators in the land-based gaming markets in
which we anticipate entering, and the highly competitive nature of games on
casino floors.
Historically, we have experienced substantial fluctuations in revenues
from period-to-period as a result of our revenues being derived solely from
software development contracts consisting of upfront licensing and periodic
payments as opposed to steady recurring revenues. Moreover, our revenues have
been limited over the last two years as we have been intensely focused on the
development of the Cantor Casino, our central server gaming system for the
Europe and North America gaming markets, as well as development of electronic
bingo, keno, instant lottery, video poker, slot and roulette products for
deployment in such markets.
We anticipate that our future revenues will be derived from the Cantor
relationship as well as the placement of our central server gaming system and
gaming machines on a revenue-sharing and sale basis and, to a lesser extent,
from maintenance and technical support agreements. At this time, it is difficult
to predict the breakdown of anticipated future revenues from each of the
foregoing initiatives.
Revenue Recognition
Revenues from the enhancement, maintenance and technical support of
Internet gaming sites in regulated gaming markets are recognized as the services
are performed, or if no pattern of performance is discernable, on a
straight-line basis over the period in which the services are performed.
Revenues from fixed price Internet gaming site development contracts in
regulated gaming markets, in relation to software development specifically
performed for each respective client, will be recognized using the percentage of
completion method of accounting with labor hours as the basis for measurement of
progress toward completion of the contracts. Revenues from time and material
contracts are recognized at the contractual rates as labor hours are delivered
and direct expenses are incurred.
When we receive a percentage of the gaming revenues generated by our
client's Internet gaming sites, we would generally recognize such revenues based
upon a percentage of the gross win when earned.
Revenues from the placement of our gaming machines on a revenue-sharing
basis, as well as the placement of our central server gaming system on a license
basis, would be accounted for similar to an operating lease, with the revenues
recognized as earned over the term of the agreement. If we sell gaming machines
outright, revenues will be recognized upon completion of installation and
acceptance by the casino, provided collectibility is reasonably assured. We
would negotiate our portion of the revenues generated under revenue-sharing
contracts based upon the cost of the equipment installed, the location of a
particular casino, and the estimated daily net win per gaming machine for each
casino client.
-17-
GAMING & ENTERTAINMENT GROUP, INC. AND SUBSIDIARIES
RESULTS OF OPERATIONS
COMPARISON OF THREE MONTHS ENDED JUNE 30, 2005 AND 2004
Revenues
During the three months ended June 30, 2005, we generated revenues from
the development of the Cantor Internet gaming site ("Cantor Casino"), technical
support services and product sales totaling $299,223, as compared to revenues
from services of $46,667, during the three months ended June 30, 2004. The
$252,556, or 541.2% increase in revenues, all of which was a $252,556 increase
in services revenue was due primarily to the increased development activity
associated with the Cantor Casino. We continue our transition from solely
focusing on the sale and marketing of online gaming systems in regulated gaming
markets to the development of land-based and wireless gaming systems and a suite
of electronic bingo, keno, video lottery, video poker, slot and roulette games,
some of which may be placed in conjunction with our central server gaming system
platform and the remainder on a stand-alone basis. We anticipate a slight
increase in revenue during the third quarter of 2005 from Internet gaming
contracts and as we complete the development of certain of our land-based gaming
products. In this regard, we anticipate deploying gaming machines in the United
Kingdom in the third quarter of 2005.
Cost of Revenues
During the three months ended June 30, 2005, our cost of revenues was
$87,367 compared to no significant cost of revenues during the three months
ended June 30, 2004. During the three months ended June 30, 2005, our costs of
revenues consisted of $87,367 attributable only to services, whereas, during the
three months ended June 30, 2004, we had no cost of revenues. The $87,367
increase in the cost of revenues was directly attributable to increased revenues
in connection with the development of the Cantor Casino, as compared to the same
period in 2004. We do, however, anticipate that our revenues in future periods
will escalate due to increased Internet gaming activity as well as deployment of
our land-based gaming products and services. Cost of revenues will increase as
well, but our operating margins should improve as we anticipate commercializing
several new products.
We realized a gross margin of $211,856 during the three months ended June
30, 2005, compared to a gross margin of $46,667 during the three months ended
June 30, 2004. The $165,189 or 354.0% increase in gross margin related primarily
to the significant increase in higher margin service revenue.
Operating Expenses
For the three months ended June 30, 2005, we incurred total operating
expenses of $536,708, compared to $1,194,474 for the three months ended June 30,
2004, a decrease of $657,766, or 55.1%. The decrease in total operating expenses
relates to an $112,546 decrease in research and development expenses and a
$545,220 decrease in selling, general and administrative expenses.
During the three months ended June 30, 2005, we incurred research and
development expenses of $139,667, compared to $252,213 during the three months
ended June 30, 2004, a decrease of $112,546, or 44.6%. The decrease in our
research and development expenses was due primarily to a redirection of the
efforts of personnel from research and development to revenue producing services
in the three months ended June 30, 2005 as compared to the same period in 2004.
The trend is not expected to continue as we anticipate further increasing our
research and development efforts in central server
-18-
GAMING & ENTERTAINMENT GROUP, INC. AND SUBSIDIARIES
and wireless technology in the upcoming quarters. As we continue to develop our
central server gaming system platform and related games and other products for
deployment in land-based casinos, and commencement of our wireless gaming
platform, research and development expenses to obtain the necessary
certifications and approvals for each of the foregoing will be very difficult to
quantify given the nature of this process. There are always risks and
uncertainties associated with the development, certification and
commercialization of new products or services. We anticipate making our initial
deployment of products into land-based gaming markets in the next several
months. While this is new for us, we have previously undertaken the development
and lab certification process on a number of occasions with respect to our
Internet gaming platform. We anticipate that, as with the Internet gaming
platform submissions, we will be successful in obtaining certification from the
gaming labs regarding our various hardware and software products for regulated
land-based and wireless gaming markets. To reduce the risk associated with our
initial entry into the land-based gaming market, we will utilize well
established third party turnkey manufacturing sources for our gaming devices and
will utilize industry veterans for the installation and ongoing maintenance of
the gaming machines.
During the three months ended June 30, 2005, we incurred selling, general
and administrative expenses of $397,041, compared to $942,261 during the three
months ended June 30, 2004, a decrease of $545,220, or 57.9%. The decrease in
our selling, general and administrative expenses was due primarily to
significant expenditure in 2004 on travel and road shows relating to our private
placement, retention of professionals, including gaming, intellectual property
and other outside counsel, increased participation at industry shows and
conventions, salaries related to new employees, and non cash compensation
expense of $175,088 relating to options and warrants issued to consultants in
consideration for strategic services. We also recognized costs of $432,390 for
the fair value of shares of restricted common stock issued to consultants in
consideration for strategic advisory, investment banking and research services
in 2004. The Company did not incur similar charges for the three months ended
June 30, 2005 and, accordingly, we anticipate that our selling, general and
administrative expenses will be somewhat lower in the near-term as compared to
prior periods, while increasing thereafter over the mid to long-term as we
expand our staff to handle future development projects.
Other Income (Expense)
For the three months ended June 30, 2005, other expense was $12,775,
compared to other expense of $12,698 for the three months ended June 30, 2004,
an increase of other expense of $77. The increase is related primarily to
$46,125 of interest expense, incurred in connection with the issuance of the
senior secured note payable and $55,517 amortization of associated debt
discount, offset by other income of $88,867 which represented settlement and
refund of an outstanding tax liability.
Net Loss
For the three months ended June 30, 2005, we experienced a net loss of
$337,627, compared to a net loss of $1,160,505 for the three months ended June
30, 2004, a decrease in the amount of $822,878, or 70.9%. The significant
decrease in the net loss is directly attributable to a $165,189 increase in
gross margin, a $657,766 reduction in operating expenses, offset, in part, by a
$77 increase in other expense.
-19-
GAMING & ENTERTAINMENT GROUP, INC. AND SUBSIDIARIES
COMPARISON OF SIX MONTHS ENDED JUNE 30, 2005 AND 2004
Revenues
During the six months ended June 30, 2005, we generated revenues from the
development of the Cantor Casino, technical support services and product sales
totaling $534,003, as compared to revenues from services of $75,340 during the
six months ended June 30, 2004. The $458,663, or 608.8% increase in revenues,
which consists of a $453,663 increase in services revenue and a $5,000 increase
in revenues from product sales in the six months ended June 30, 2005, was
largely due to the increased development activity associated with the Cantor
Casino. As we continue our transition from solely focusing on the sale and
marketing of online gaming systems in regulated gaming markets to the
development of land-based and wireless gaming systems and a suite of electronic
bingo, keno, video lottery, video poker, slot and roulette games, some of which
may be placed in conjunction with our central server gaming system platform and
the remainder on a stand-alone basis. We anticipate a slight increase in revenue
during the third quarter of 2005 from Internet gaming contracts as we complete
the development of certain of our land-based gaming products. In this regard, we
anticipate deploying gaming machines in the United Kingdom in the third quarter
of 2005.
Cost of Revenues
During the six months ended June 30, 2005, our cost of revenues was
$192,105 compared to no significant cost of revenues during the six months ended
June 30, 2004. During the six months ended June 30, 2005, our costs of revenues
consisted of $186,475 attributable to services and $5,630 attributable to
product sales as compared to no cost of revenues during the six-month period
ended June 30, 2004. The $192,105 increase in the cost of revenues was directly
attributable to increased revenues in connection with the development of the
Cantor Casino, as compared to the same period in 2004. We do, however,
anticipate that our revenues in future periods will escalate due to increased
Internet gaming activity as well as deployment of our land-based gaming products
and services. Cost of revenues will increase as well, but our operating margins
should improve as we anticipate commercializing several new products.
We realized a gross margin of $341,898 during the six months ended June
30, 2005 as compared to a gross margin of $75,340 during the six months ended
June 30, 2004. The $266,558 or 353.8% increase in gross margin related primarily
to the increase in higher margin service revenue.
Operating Expenses
For the six months ended June 30, 2005, we incurred total operating
expenses of $1,073,854, compared to $2,146,545 for the six months ended June 30,
2004, a decrease in the amount of $1,072,691, or 50.0%. The decrease in total
operating expenses relates to a $206,392 decrease in research and development
expenses and a decrease of $866,299 in selling, general and administrative
expenses.
During the six months ended June 30, 2005, we incurred research and
development expenses of $297,877, compared to $504,269 during the six months
ended June 30, 2004, a decrease of $206,392, or 40.9%. The decrease in our
research and development expenses was due primarily to a redirection of the
efforts of personnel from research and development to revenue producing services
in the six months ended June 30, 2005 as compared to the same period in 2004.
The trend is not expected to continue as we anticipate further increasing our
research and development efforts in central server and wireless technology in
the upcoming quarters. As we continue to develop our central server gaming
system platform and related games and other products for deployment in
land-based casinos, and commence
-20-
GAMING & ENTERTAINMENT GROUP, INC. AND SUBSIDIARIES
development of our wireless gaming platform, research and development expenses
to obtain the necessary certifications and approvals for each of the foregoing
will be difficult to quantify given the nature of this process. There are always
risks and uncertainties associated with the development, certification and
commercialization of new products or services. We anticipate making our initial
deployment of products into land-based gaming markets in the next several
months. While this is new for us, we have previously undertaken the development
and lab certification process on a number of occasions with respect to our
Internet gaming platform. We anticipate that, as with the Internet gaming
platform submissions, we will be successful in obtaining certification from the
gaming labs regarding our various hardware and software products for regulated
land-based and wireless gaming markets. To reduce the risk associated with our
initial entry into the land-based gaming market, we will utilize well
established third party turnkey manufacturing sources for our gaming devices and
will utilize industry veterans for the installation and ongoing maintenance of
the gaming machines.
During the six months ended June 30, 2005, we incurred selling, general
and administrative expenses of $775,977, compared to $1,642,276 during the six
months ended June 30, 2004, a decrease of $866,299, or 52.7%. The decrease in
our selling, general and administrative expenses was due primarily to
significant expenditure in 2004 on travel and road shows relating to our private
placement, retention of professionals, including gaming, intellectual property
and other outside counsel, increased participation at industry shows and
conventions, salaries related to new employees, and non cash compensation
expense of $175,088 relating to options and warrants issued to consultants in
consideration for strategic services. We also recognized costs of $432,390 for
the fair value of shares of restricted common stock issued to consultants in
consideration for strategic advisory, investment banking and research services
in 2004. The Company did not incur similar charges for the six months ended June
30, 2005 and, accordingly, we anticipate that our selling, general and
administrative expenses will be somewhat lower in the near-term as compared to
prior periods, while increasing thereafter over the mid to long-term as we
expand our staff to handle future proposed development projects.
Other Income (Expense)
For the six months ended June 30, 2005, other expense was $45,630,
compared to other expense of $30,721 for the six months ended June 30, 2004, an
increase of other expense of $14,909. The increase is related primarily to
$76,641 of interest expense, incurred in connection with the issuance of the
senior secured note payable and $111,034 amortization of associated debt
discount offset by other income of $142,045 which represented settlement and
refund of an outstanding tax liability.
Net Loss
For the six months ended June 30, 2005, we experienced a net loss of
$777,586, compared to a net loss of $2,101,926 for the six months ended June 30,
2004, a decrease of $1,324,340, or 63.0%. The decrease in net loss is directly
attributable to a $266,558 increase in gross margin, a $1,339,249 decrease in
operating losses, offset, in part, by a $14,909 increase in other expense.
-21-
GAMING & ENTERTAINMENT GROUP, INC. AND SUBSIDIARIES
LIQUIDITY AND CAPITAL RESOURCES
Overview
As of June 30, 2005, we had cash of $312,431, accounts receivable of
$115,758 and total liabilities of $1,452,224, of which $395,204 are current
liabilities. Accordingly, as of June 30, 2005, we had working capital of $32,985
and a stockholders' deficiency of $569,561. During the six months ended June 30,
2005, cash on hand decreased by $281,593, from $594,024 to $312,431. The
decrease in cash reflected $500,000 of net cash provided by financing
activities, offset by $715,733 of net cash used in operating activities, $58,798
of net cash used in investing activities and the $7,062 effect of exchange rate
changes on cash.
Operating activities used net cash of $715,733 during the six months ended
June 30, 2005, whereas operating activities used net cash of $1,494,897 during
the six months ended June 30, 2004. The net cash used in operating activities
during the six months ended June 30, 2005 related primarily to our net loss of
$777,586, a decrease in accounts receivable of $63,285, a decrease in accounts
payable of $50,242, an increase in accrued expenses of $84,063, a decrease in
accrued compensation - officers of $10,405, and a decrease in foreign taxes
payable of $166,009, offset, in part, by non-cash costs of amortization of debt
discount of $111,034 and depreciation expense of $40,431. During the six months
ended June 30, 2004, our operating activities used net cash of $1,494,897,
reflecting our net loss of $2,101,926, offset, in part, by non-cash costs of
investment banking, strategic advisory and research services of $607,478 paid
through the issuance of restricted shares of common stock with a fair value of
$432,390, and the issuance of options and warrants with a fair value of
$175,088. Issuances of equity securities as payments for services and
compensation result in non-cash charges to expense. An increase in prepaid
expenses of $11,790, an increase in accounts payable of $90,936, a decrease in
accrued expenses of $33,325, and a decrease in accrued compensation - officers
of $59,190.
Investing activities used $58,798 during the six months ended June 30,
2005, compared to $44,007 used during the six months ended June 30, 2004. The
increased use of cash in investing activities reflects primarily the purchase of
certain intangible assets. We acquired intellectual property consisting of next
generation digital casino and poker games and expect to derive a benefit when we
release the next version of our client's Internet gaming site. Investing
activities during the six months ended June 30, 2004 reflects the costs related
to the build-out and relocation of our principal offices to Las Vegas, Nevada.
Our financing activities provided net cash of $500,000 during the six
months ended June 30, 2005, compared to $1,684,792 during the six months ended
June 30, 2004. The net cash provided by our financing activities during the six
months ended June 30, 2005 reflects $500,000 from the issuance of a senior
secured note under an existing debt agreement. The net cash provided by our
financing activities during the six months ended June 30, 2004 reflects
$2,143,242 in net proceeds from the sale of 2,445,000 shares of common stock in
a private placement, offset by $458,450 used to repay related party loans.
Outlook
We incurred losses of $777,586 and $2,101,926 and negative net cash flows
from operating activities of $715,733 and $1,494,897 for the six months ended
June 30, 2005 and 2004, respectively. As of June 30, 2005, we had an accumulated
deficit of $7,470,426. These conditions raise substantial doubt about our
ability to continue as a going concern.
-22-
GAMING & ENTERTAINMENT GROUP, INC. AND SUBSIDIARIES
We anticipate that for the twelve month period ending June 30, 2006, we
will need a minimum of $1,500,000 in additional third party funding or future
revenues not otherwise contractually committed, for ongoing research and
development of our land-based and wireless gaming systems and game content,
finalization of the Cantor Casino, commencement of the development of the next
generation Internet gaming system, gaming lab certification of our products,
gaming licensing, advertising and marketing and the manufacture of gaming
machines to be deployed on a recurring revenue basis in Europe and North
America.
Until we generate sufficient cash from our operations, we will need to
rely upon private and institutional sources of debt and equity financing. Based
on presently known plans, we believe that we will be able to fund our operations
and required expenditures through the fourth quarter of 2005 through cash on
hand and revenue from existing development projects. We will require additional
cash, either through additional revenue realization, the exercise of warrants by
Cantor, or from third party debt or equity sources. Alternatively, we will be
forced to seek cash from other lending sources, sell certain assets or change
operating plans to accommodate such liquidity issues. No assurances can be given
that we will successfully obtain liquidity sources necessary to fund our
operations to profitability and beyond.
RISK FACTORS
We are subject to a high degree of risk as we are considered to be in
unsound financial condition. The following risks, if any one or more occurs,
could materially harm our business, financial condition or future results of
operations, and the trading price of our common stock could decline. These risks
factors include, but are not limited to, our limited operating history, history
of operating losses, the inability to obtain for additional capital, the failure
to successfully expand our operations, the barriers of entry into new gaming
markets, the competition in the gaming industry from competitors with
substantially greater resources, the legal and regulatory requirements and
uncertainties related to our industry, the inability to enter into strategic
partnerships with manufacturers and distributors, the loss of key personnel,
adverse economic conditions, adverse currency rate fluctuations, the inability
to protect our proprietary information against unauthorized use by third
parties, the control of our common stock by our management, the classification
of our common stock as "penny stock," the absence of any right to dividends, the
costs associated with the issuance of and the rights granted to additional
securities, the unpredictability of the trading of our common stock and the
ability of our Board of Directors to issue up to collectively 10,000,000 shares,
$10 par value, of preferred stock.
For a more detailed discussion as to the risks related to Gaming &
Entertainment Group, Inc., our industry and our common stock, please see the
section entitled, "Management's Discussion and Analysis or Plan of Operation -
Risk Factors," in our Annual Report on Form 10-KSB, as filed with the Securities
and Exchange Commission on March 3, 2005.
ITEM 3. CONTROLS AND PROCEDURES
Evaluation of Disclosure Controls
We evaluated the effectiveness of our disclosure controls and procedures
as of June 30, 2005, the end of the period covered by this Quarterly Report on
Form 10-QSB. This evaluation was done with the participation of our chief
executive officer and our president. Upon the consummation of a share exchange
on January 12, 2004 involving Gaming & Entertainment Group, Inc., a Nevada
corporation, Jay Sanet resigned as our former chief executive officer, and Tibor
N. Vertes and Gregory L. Hrncir were
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GAMING & ENTERTAINMENT GROUP, INC. AND SUBSIDIARIES
appointed as our chief executive officer and president, respectively. Mr. Vertes
serves as our principal executive officer and Mr. Hrncir serves as our principal
financial and accounting officer.
Disclosure controls and procedures are controls and other procedures that
are designed to ensure that information required to be disclosed by us in the
reports that we file or submit under the Exchange Act is recorded, processed,
summarized and reported within the time periods specified in the Securities and
Exchange Commission's rules and forms.
Limitations on the Effectiveness of Controls
Our management does not expect that our disclosure controls and procedures
or our internal controls over financial reporting will prevent all error and all
fraud. A control system, no matter how well conceived and operated, can provide
only reasonable, but not absolute, assurance that the objectives of a control
system are met. Further, any control system reflects limitations on resources,
and the benefits of a control system must be considered relative to its costs.
Because of the inherent limitations in all control systems, no evaluation of
controls can provide absolute assurance that all control issues and instances of
fraud, if any, have been detected. These inherent limitations include the
realities that judgments in decision-making can be faulty and that breakdowns
can occur because of simple error or mistake. Additionally, controls can be
circumvented by the individual acts of some persons, by collusion of two or more
people, or by management override of a control. The design of a control system
is also based upon certain assumptions about the likelihood of future events,
there can be no assurance that any design will succeed in achieving its stated
goals under all potential future conditions; over time, controls may become
inadequate because of changes in conditions, or the degree of compliance with
the policies or procedures may deteriorate. Although unlikely, due to the
inherent limitations in a cost-effective control system, misstatements due to
error or fraud may occur and may not be detected.
Management is aware that there is a lack of segregation of duties at the
Company due to the small number of employees dealing with general administrative
and financial matters. However, at this time management has decided that
considering the employees involved and the control procedures in place, the
risks associated with such lack of segregation are insignificant and the
potential benefits of adding employees to clearly segregate duties do not
justify the expenses associated with such increases. Management will
periodically reevaluate this situation.
Conclusions
Based on this evaluation, our chief executive officer and our president
concluded that, subject to the limitations noted above and as of the evaluation
date, our disclosure controls and procedures are effective to ensure that the
information we are required to disclose in reports that we file or submit under
the Exchange Act is recorded, processed, summarized, and reported in such
reports within the time periods specified in the Securities and Exchange
Commission's rules and forms.
Changes in Internal Controls
There were no changes in our internal controls over financial reporting
that occurred during the last fiscal quarter, i.e., the three months ended June
30, 2005, that have materially affected, or are reasonably likely to materially
affect, our internal controls over financial reporting.
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GAMING & ENTERTAINMENT GROUP, INC. AND SUBSIDIARIES
PART II - OTHER INFORMATION
ITEM 1. LEGAL PROCEEDINGS
Not applicable.
ITEM 2. UNREGISTERED SALES OF EQUITY SECURITIES AND USE OF PROCEEDS
During the six months ended June 30, 2005, the Company issued 250,000
shares of common stock relating to purchase of assets from Absolute Game, Ltd.
consisting of next generation, digital casino and poker games. In addition, the
Company issued a warrant to purchase 500,000 shares of common stock, exercisable
for a period of three (3) years at an exercise price of $0.40 per share. In
issuing the foregoing securities we relied upon the exemptions from securities
registration provided by Rule 4(2) and Regulation S of the Securities Act of
1933, as amended.
In conjunction with the Company's 2004 private placement, the Company was
obligated to file a registration statement no later than July 15, 2004 to
register the securities sold therein. The Company did not file the registration
statement by July 15, 2004, but rather filed it on March 3, 2005. As a result,
the Company issued the investors in the private placement a total of 563,250
shares of common stock, which represented 3% of the number of shares of common
stock purchased by each purchaser for each month or part thereof of the late
filing. The newly issued shares of common stock have been registered for resale
under the Company's registration statement on Form S-3 filed with the Securities
and Exchange Commission. We relied upon the exemption from securities
registration provided by Section 4(2) of the Securities Act of 1933, as amended.
ITEM 3. DEFAULTS UPON SENIOR SECURITIES.
Not applicable.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS.
Not applicable.
ITEM 5. OTHER INFORMATION.
Not applicable.
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GAMING & ENTERTAINMENT GROUP, INC. AND SUBSIDIARIES
ITEM 6. EXHIBITS
(a) Exhibits.
--------
10.15 Sublease Agreement by and between Gaming & Entertainment
Group, Inc. and GTECH Corporation dated June 16, 2005.
31.1 Certifications Pursuant to Section 302 of the Sarbanes-Oxley
Act of 2002.
31.2 Certifications Pursuant to Section 302 of the Sarbanes-Oxley
Act of 2002.
32.1 Certifications Pursuant to Section 906 of the Sarbanes-Oxley
Act of 2002 (18 U.S.C. Section 1350).
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GAMING & ENTERTAINMENT GROUP, INC. AND SUBSIDIARIES
SIGNATURE
In accordance with the requirements of the Exchange Act, the registrant
caused this report to be signed on its behalf by the undersigned, thereunto duly
authorized.
GAMING & ENTERTAINMENT GROUP, INC.
(Registrant)
Date: August 15, 2005 By: /s/ Gregory L. Hrncir
-----------------------------------
Gregory L. Hrncir
Its: President and Secretary
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