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: September 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
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(Address of principal executive offices)
(702) 407-2471
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(Issuer's telephone number)
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(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 |_|
Indicate by check mark whether the registrant is a shell company (as defined in
Rule 12b-2 of the Exchange Act) YES |_| NO |X|
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 November 14, 2005
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Transitional Small Business Disclosure Format (check one): YES |_| NO |X|
FORM 10-QSB
TABLE OF CONTENTS
PAGE
PART I - FINANCIAL INFORMATION....................................................................................3
ITEM 1. FINANCIAL STATEMENTS............................................................................3
Condensed Consolidated Balance Sheet
September 30, 2005 (Unaudited).........................................................3
Condensed Consolidated Statements of Operations
For the Nine and Three Months ended September 30, 2005 and 2004 (Unaudited)............4
Condensed Consolidated Statement of Stockholders' Deficiency
For the Nine Months ended September 30, 2005 (Unaudited)...............................5
Condensed Consolidated Statements of Cash Flows
For the Nine Months ended September 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 SEPTEMBER 30, 2005
(UNAUDITED)
ASSETS
Current Assets
Cash $ 122,049
Accounts receivable 98,454
-----------
Total current assets 220,503
Equipment and Furnishings, net of accumulated depreciation of $311,143 151,212
Intangible Assets, net of accumulated amortization of $15,675 297,825
Other Assets 10,302
-----------
Total assets $ 679,842
===========
LIABILITIES AND STOCKHOLDERS' DEFICIENCY
Current Liabilities
Accounts payable $ 55,249
Accrued expenses 186,087
Accrued compensation - officers 156,025
Notes payable - officers 55,548
-----------
Total current liabilities 452,909
Senior Secured Note Payable, net of unamortized debt discount of $924,924 1,075,076
Deferred Rent 35,257
-----------
Total liabilities 1,563,242
-----------
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 (7,783,289)
Accumulated other comprehensive income - foreign currency translation gains 145,496
-----------
Total stockholders' deficiency (883,400)
-----------
Total liabilities and stockholders' deficiency $ 679,842
===========
See accompanying notes to condensed consolidated financial statements
- 3 -
GAMING & ENTERTAINMENT GROUP, INC. AND SUBSIDIARIES
CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS FOR THE NINE AND THREE
MONTHS ENDED
SEPTEMBER 30, 2005 AND 2004
(UNAUDITED)
Nine Months Ended Three Months Ended
September 30, September 30,
2005 2004 2005 2004
------------ ------------ ------------ ------------
Revenues:
Services $ 910,487 $ 140,894 $ 381,486 $ 65,554
Product 21,930 -- 16,930 --
------------ ------------ ------------ ------------
Total revenues 932,417 140,894 398,416 65,554
------------ ------------ ------------ ------------
Cost of revenues:
Services 390,673 37,462 204,198 37,462
Product 18,423 -- 12,794 --
------------ ------------ ------------ ------------
Total cost of revenues 409,096 37,462 216,992 37,462
------------ ------------ ------------ ------------
Gross margin 523,321 103,432 181,424 28,092
------------ ------------ ------------ ------------
Operating expenses:
Research and development 353,466 711,772 55,590 207,503
Selling, general and administrative
expenses 1,128,357 2,053,686 352,379 411,409
------------ ------------ ------------ ------------
Total operating expenses 1,481,823 2,765,458 407,969 618,912
------------ ------------ ------------ ------------
Operating loss (958,502) (2,662,026) (226,545) (590,820)
------------ ------------ ------------ ------------
Other income (expense):
Foreign currency transaction loss -- (14,170) -- --
Interest expense and amortization of
debt discount (288,063) (41,180) (100,389) (15,172)
Other income 156,116 21,769 14,071 12,312
------------ ------------ ------------ ------------
Total other expense (131,947) (33,581) (86,318) (2,860)
------------ ------------ ------------ ------------
Net loss $ (1,090,449) $ (2,695,607) $ (312,863) $ (593,680)
============ ============ ============ ============
Weighted average number of shares
outstanding - basic and diluted 19,610,161 17,292,412 19,830,602 19,132,084
============ ============ ============ ============
Net loss per share - basic and diluted $ (0.06) $ (0.16) $ (0.02) $ (0.03)
============ ============ ============ ============
See accompanying notes to condensed consolidated financial statements
- 4 -
GAMING & ENTERTAINMENT GROUP, INC. AND SUBSIDIARIES
CONDENSED CONSOLIDATED STATEMENT OF STOCKHOLDERS' DEFICIENCY
FOR THE NINE MONTHS ENDED SEPTEMBER 30, 2005
(UNAUDITED)
Common Stock Additional Accumulated 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)
-- -- -- -- (1,920) (1,920)
Net loss -- -- -- (1,090,449) -- (1,090,449)
----------- ----------- ----------- ----------- ----------- -----------
Balance at September 30, 2005 19,830,602 $ 198,306 $ 6,556,087 $(7,783,289) $ 145,496 $ (883,400)
=========== =========== =========== =========== =========== ===========
(A) Comprehensive loss (net loss plus or minus foreign currency translation
loss or gain) for the nine and three months ended September 30, 2005 and
2004 totaled $1,092,369, $313,839, $2,739,813 and $597,082, respectively.
See accompanying notes to condensed consolidated financial statements
- 5 -
GAMING & ENTERTAINMENT GROUP, INC. AND SUBSIDIARIES
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS FOR THE NINE MONTHS ENDED
SEPTEMBER 30, 2005 AND 2004 (UNAUDITED)
2005 2004
----------- -----------
Cash flows from operating activities
Net loss $(1,090,449) $(2,695,607)
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 166,551 --
Amortization of intellectual property 15,675 --
Depreciation expense 56,577 29,432
Shares issued for services -- 485,315
Options and warrants issued to nonemployees for services -- 175,088
Deferred rent (12,508) --
Changes in operating assets and liabilities:
Accounts receivable 80,419 (61,120)
Prepaid expenses -- (11,790)
Accounts payable (64,432) 179,627
Accrued expenses 136,811 (14,800)
Accrued compensation - officers 9,328 (48,542)
Foreign taxes payable (166,009) 15,499
----------- -----------
Net cash used in operating activities (868,037) (1,949,317)
----------- -----------
Cash flows from investing activities
Acquisition of intangible assets (50,000) --
Acquisition of equipment and furnishings (46,229) (55,207)
----------- -----------
Net cash used in investing activities (96,229) (55,207)
----------- -----------
Cash flows from financing activities
Repayments of related party loans -- (458,450)
Proceeds from the issuance of senior secured note and warrants 500,000 250,000
Proceeds of related party loan -- 42,852
Net proceeds from sale of common stock and warrants -- 2,143,242
----------- -----------
Net cash provided by financing activities 500,000 1,977,644
----------- -----------
Effect of exchange rate changes on cash (7,709) (22,789)
----------- -----------
Net decrease in cash (471,975) (49,669)
Cash, beginning of period 594,024 86,315
----------- -----------
Cash, end of period $ 122,049 $ 36,646
=========== ===========
Supplemental disclosure of cash flow information
Interest paid $ -- $ 42,009
=========== ===========
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
September 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.
- 7 -
GAMING & ENTERTAINMENT GROUP, INC. AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(UNAUDITED)
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 incurred losses of $1,090,449 and $312,863
for the nine and three months ended September 30, 2005, respectively, and
recurring losses in prior years. As of September 30, 2005, the Company had an
accumulated deficit of $7,783,289 and a stockholders' deficiency of $883,400.
These conditions raise substantial doubt about the Company's ability to continue
as a going concern for a reasonable period of time. The Company's ability to
continue as a going concern for a reasonable period of time 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 September 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 September 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 September 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 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.
- 8 -
GAMING & ENTERTAINMENT GROUP, INC. AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(UNAUDITED)
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.
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.
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.
- 9 -
GAMING & ENTERTAINMENT GROUP, INC. AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(UNAUDITED)
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:
Nine Months Ended Three Months Ended
September 30, September 30,
---------------------------- ---------------------------
2005 2004 2005 2004
------------ ------------ ------------ -----------
Net loss, as reported $ (1,090,449) $ (2,695,607) $ (312,863) $ (593,680)
Deduct: Total stock-based
employee compensation expense
determined under fair value
based method for all awards -- (464,307) -- --
------------ ------------ ------------ -----------
Pro forma net loss $ (1,090,449) $ (3,159,914) $ (312,863) $ (593,580)
============ ============ ============ ===========
Basic and diluted loss per
common share as reported $ (0.06) $ (0.16) $ (0.02) $ (0.03)
============ ============ ============ ===========
Basic and diluted loss per
common share pro forma $ (0.06) $ (0.18) $ (0.02) $ (0.03)
============ ============ ============ ===========
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 nine and three months ended
September 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 September 30,
2005 and 2004, the Company had options and warrants outstanding for the purchase
of 17,215,929 and 7,293,377 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)
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:
September 30, 2005
Gross Carrying Accumulated
Amount Amortization Net
Amortizable intangible assets
Intellectual Property $ 313,500 $ 15,675 $ 297,825
========= ========= =========
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.
Amortization expense recorded for the nine and three months ended September 30,
2005 amounted to $15,675. Estimated amortization expense for the succeeding
calendar years is (i) $15,675 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 are being 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
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) $32,079 in the remainder of calendar
2005; (ii) $128,315 in calendar 2006; and (iii) $64,157 in calendar 2007.
- 11 -
GAMING & ENTERTAINMENT GROUP, INC. AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(UNAUDITED)
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 on such date, 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 expired 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 nine months
ended September 30, 2005 follows:
Weighted-Average
Shares Exercise Price
--------- ---------
Outstanding, January 1, 2005 2,508,442 $ 0.78
Granted 300,000 $ 0.40
Forfeited (835,302) $ 0.65
---------
Outstanding, September 30, 2005 1,973,140 $ 0.77
=========
Exercisable, September 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
forfeited.
- 12 -
GAMING & ENTERTAINMENT GROUP, INC. AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(UNAUDITED)
Stock Warrants
During the nine months ended September 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 nine months ended
September 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, September 30, 2005 15,242,789 $ 0.63
===========
Fair Value of Warrant
The fair value of the warrant issued during the nine months ended September 30,
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 September 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 2004 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 loans totaling $2,000,000 from
Cantor.
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GAMING & ENTERTAINMENT GROUP, INC. AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(UNAUDITED)
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 nine and three months ended September 30, 2005
and 2004:
Nine Months Ended September 30, 2005
Geographical area Revenues from
external Long-lived
customers assets
----------------------------------------------------
United States $ 7,215 $ 100,528
United Kingdom $ 18,763 $ 4,894
Australia $ 906,439 $ 45,790
---------- ----------
$ 932,417 $ 151,212
========== ==========
Three Months Ended September 30, 2005
Geographical area Revenues from
external
customers
-------------------------------------
United States $ 2,215
United Kingdom $ 18,763
Australia $ 377,438
----------
$ 398,416
==========
Nine Months Ended September 30, 2004
Geographical area Revenues from
external Long-lived
customers assets
----------------------------------------------------
United States - $ 97,585
United Kingdom - $ 2,485
Australia $ 140,894 $ 61,538
---------- ----------
$ 140,894 $ 161,608
========== ==========
Three Months Ended September 30, 2004
Geographical area Revenues from
external
customers
-------------------------------------
United States -
United Kingdom -
Australia $ 65,554
----------
$ 65,554
==========
- 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 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 September 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 went
live on October 1, 2005 and does not permit bets to be placed by individuals in
the United States. We will receive 15% 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 (i.e. third party entities that utilize the
internet gaming platform licensed by Cantor from the Company), 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 10%-25% 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 may
generate 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 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 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 SEPTEMBER 30, 2005 AND 2004
Revenues
During the three months ended September 30, 2005, we generated revenues
from the development of the Cantor Internet gaming site ("Cantor Casino"),
technical support services and product sales totaling $398,416, as compared to
revenues from services of $65,554, during the three months ended September 30,
2004. The $332,862, or 507.8% increase in revenues, which consists of a $315,932
increase in services revenue and a $16,930 increase in revenues from product
sales was due primarily 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 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 fourth quarter of
2005 from Internet gaming contracts as we continue to undertake additional
internet gaming development on behalf of Cantor and 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 fourth quarter of 2005.
Cost of Revenues
During the three months ended September 30, 2005, our cost of revenues was
$216,992 compared to $37,462 during the three months ended September 30, 2004.
During the three months ended September 30, 2005, our costs of revenues
consisted of $204,198 attributable to services and $12,794 attributable to
product sales as compared to $37,462 attributable only to services during the
three months ended September 30, 2004. The $179,530, or 479.2%, 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 $181,424 during the three months ended
September 30, 2005, compared to a gross margin of $28,092 during the three
months ended September 30, 2004. The $153,332 or 545.8% increase in gross margin
related primarily to the significant increase in higher margin service revenue.
Operating Expenses
For the three months ended September 30, 2005, we incurred total operating
expenses of $407,969, compared to $618,912 for the three months ended September
30, 2004, a decrease of $210,943, or 34.1%. The decrease in total operating
expenses relates to a $151,913 decrease in research and development expenses and
a $59,030 decrease in selling, general and administrative expenses.
During the three months ended September 30, 2005, we incurred research and
development expenses of $55,590, compared to $207,503 during the three months
ended September 30, 2004, a decrease of $151,913, or 73.2%. 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 September 30, 2005 as compared to the same period in
2004. As we continue to develop our central server gaming system platform and
- 18 -
GAMING & ENTERTAINMENT GROUP, INC. AND SUBSIDIARIES
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 these processes. 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
United Kingdom in the fourth quarter of 2005. 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 where
required. The products to be deployed in the United Kingdom will not, however,
require lab certification, but have been trialed in the field as well as put
through extensive stress testing at our Sydney facility. 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 September 30, 2005, we incurred selling, general
and administrative expenses of $352,379, compared to $411,409, during the three
months ended September 30, 2004, a decrease of $59,030, or 14.3%. 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. The Company did not incur similar charges
for the three months ended September 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.
Other Income (Expense)
For the three months ended September 30, 2005, other expense was $86,318,
compared to other expense of $2,860 for the three months ended September 30,
2004, an increase of other expense of $83,458. The increase is related primarily
to $44,872 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 $14,071 which represented sublease utility
and infrastructure reimbursements.
Net Loss
For the three months ended September 30, 2005, we experienced a net loss
of $312,863, compared to a net loss of $593,680 for the three months ended
September 30, 2004, a decrease in the amount of $280,817, or 47.3%. The
significant decrease in the net loss is directly attributable to a $153,332
increase in gross margin, a $210,943 reduction in operating expenses, offset, in
part, by a $83,458 increase in other expense.
- 19 -
GAMING & ENTERTAINMENT GROUP, INC. AND SUBSIDIARIES
COMPARISON OF NINE MONTHS ENDED SEPTEMBER 30, 2005 AND 2004
Revenues
During the nine months ended September 30, 2005, we generated revenues
from the development of the Cantor Casino, technical support services and
product sales totaling $932,417, as compared to revenues from services of
$140,894 during the nine months ended September 30, 2004. The $791,523, or
561.8% increase in revenues, which consists of a $769,593 increase in services
revenue and a $21,930 increase in revenues from product sales in the nine months
ended September 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 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
fourth quarter of 2005 from Internet gaming contracts as we continue to
undertake additional internet gaming development on behalf of Cantor and
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
fourth quarter of 2005.
Cost of Revenues
During the nine months ended September 30, 2005, our cost of revenues was
$409,096 compared to $37,462 during the nine months ended September 30, 2004.
During the nine months ended September 30, 2005, our costs of revenues consisted
of $390,673 attributable to services and $18,423 attributable to product sales,
as compared to $37,462 attributable only to services during the nine months
ended September 30, 2004. The $371,634 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 $523,321 during the nine months ended
September 30, 2005 as compared to a gross margin of $103,432 during the nine
months ended September 30, 2004. The $419,889 or 406.0% increase in gross margin
related primarily to the increase in higher margin service revenue.
Operating Expenses
For the nine months ended September 30, 2005, we incurred total operating
expenses of $1,481,823, compared to $2,765,458 for the nine months ended
September 30, 2004, a decrease in the amount of $1,283,635, or 46.4%. The
decrease in total operating expenses relates to a $358,306 decrease in research
and development expenses and a decrease of $925,329 in selling, general and
administrative expenses.
During the nine months ended September 30, 2005, we incurred research and
development expenses of $353,466, compared to $711,772 during the nine months
ended September 30, 2004, a decrease of $358,306, or 50.3%. 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 nine months ended September 30, 2005 as compared to the same period in
2004. 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 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,
- 20 -
GAMING & ENTERTAINMENT GROUP, INC. AND SUBSIDIARIES
certification and commercialization of new products or services. We anticipate
making our initial deployment of products into land-based gaming markets in the
fourth quarter of 2005 in the United Kingdom. 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. The products to be
deployed in the United Kingdom will not, however, require lab certification, but
have been trialed in the field and have been extensively stress tested at our
Sydney facility. 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 as required. 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 nine months ended September 30, 2005, we incurred selling,
general and administrative expenses of $1,128,357, compared to $2,053,686 during
the nine months ended September 30, 2004, a decrease of $925,329, or 45.1%. 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 $485,315 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 nine months ended
September 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.
Other Income (Expense)
For the nine months ended September 30, 2005, other expense was $131,947,
compared to other expense of $33,581 for the nine months ended September 30,
2004, an increase of other expense of $98,366. The increase is related primarily
to $121,512 of interest expense, incurred in connection with the issuance of the
senior secured note payable and $166,551 amortization of associated debt
discount, offset by other income of $156,116 which represented settlement and
refund of an outstanding tax liability and sublease utility and infrastructure
reimbursements.
Net Loss
For the nine months ended September 30, 2005, we experienced a net loss of
$1,090,449, compared to a net loss of $2,695,607 for the nine months ended
September 30, 2004, a decrease of $1,605,158, or 59.5%. The decrease in net loss
is directly attributable to a $419,889 increase in gross margin, a $1,283,635
decrease in operating expenses, offset, in part, by a $98,366 increase in other
expense.
- 21 -
GAMING & ENTERTAINMENT GROUP, INC. AND SUBSIDIARIES
LIQUIDITY AND CAPITAL RESOURCES
Overview
As of September 30, 2005, we had cash of $122,049, accounts receivable of
$98,454 and total liabilities of $1,563,242, of which $452,909 are current
liabilities. Accordingly, as of September 30, 2005, we had a working capital
deficiency of $232,406 and a stockholders' deficiency of $883,400. During the
nine months ended September 30, 2005, cash on hand decreased by $471,975, from
$594,024 to $122,049. The decrease in cash reflected $500,000 of net cash
provided by financing activities, offset by $868,037 of net cash used in
operating activities, $96,229 of net cash used in investing activities and the
$7,709 effect of exchange rate changes on cash.
Operating activities used net cash of $868,037 during the nine months
ended September 30, 2005, whereas operating activities used net cash of
$1,949,317 during the nine months ended September 30, 2004. The net cash used in
operating activities during the nine months ended September 30, 2005 related
primarily to our net loss of $1,090,449, a decrease in accounts receivable of
$80,419, a decrease in accounts payable of $64,432, an increase in accrued
expenses of $136,811, an increase in accrued compensation - officers of $9,328,
and a decrease in foreign taxes payable of $166,009, offset, in part, by
non-cash costs of amortization of debt discount of $166,551, amortization of
intellectual property of $15,675 and depreciation expense of $56,577. During the
nine months ended September 30, 2004, our operating activities used net cash of
$1,949,317, reflecting our net loss of $2,695,607, offset, in part, by non-cash
costs of investment banking, strategic advisory and research services of
$660,403 paid through the issuance of restricted shares of common stock with a
fair value of $485,315, 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. During the nine months ended
September 30, 2004, we realized an increase in prepaid expenses of $11,790, an
increase in accounts payable of $179,627, a decrease in accrued expenses of
$14,800, a decrease in accrued compensation - officers of $48,542 and an
increase in foreign taxes payable of $15,499.
Investing activities used $96,229 during the nine months ended September
30, 2005, compared to $55,207 used during the nine months ended September 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 nine months ended September 30,
2004 reflect 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 nine
months ended September 30, 2005, compared to $1,977,644 during the nine months
ended September 30, 2004. The net cash provided by our financing activities
during the nine months ended September 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 nine months ended September 30,
2004 reflects $2,143,242 in net proceeds from the sale of 2,445,000 shares of
common stock in a private placement, $250,000 from the issuance of a senior
secured note under an existing debt agreement, $42,852 from proceeds of a
related party loan, offset by $458,450 used to repay related party loans.
Outlook
We incurred losses of $1,090,449 and $2,695,607 and negative net cash
flows from operating activities of $868,037 and $1,949,317 for the nine months
ended September 30, 2005 and 2004, respectively. As of September 30, 2005, we
had an accumulated deficit of $7,783,289. These conditions raise substantial
doubt about our ability to continue as a going concern for a reasonable period
of time.
- 22 -
GAMING & ENTERTAINMENT GROUP, INC. AND SUBSIDIARIES
We anticipate that for the twelve month period ending September 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,
development of the next generation Internet gaming system, gaming lab
certification of our products (when applicable), gaming licensing (when
applicable), advertising and marketing and the manufacture of gaming machines to
be deployed on a sale, and possibly recurring revenue, basis in Europe.
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 September 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 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.
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GAMING & ENTERTAINMENT GROUP, INC. AND SUBSIDIARIES
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
September 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 nine months ended September 30, 2005, the Company issued
250,000 shares of common stock relating to the 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,
in issuing the 563,250 shares.
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.
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: November 14, 2005 By: /s/ Gregory L. Hrncir
-----------------------------
Gregory L. Hrncir
Its: President and Secretary
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