1 UNITED STATES SECURITIES AND EXCHANGE COMMISSION Washington, D.C. 20549 ---------------------------- FORM 10-Q (Mark One) X QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE ------ SECURITIES EXCHANGE ACT OF 1934 For the quarterly period ended April 1, 2001 OR TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE ------ SECURITIES EXCHANGE ACT OF 1934 For the transition period from to -------------- -------------- Commission File No. 1-12962 LAKES GAMING, INC. ------------------ (Exact name of registrant as specified in its charter) Minnesota 41-1913991 --------- ---------- (State or other jurisdiction (I.R.S. Employer of incorporation or organization) Identification No.) 130 Cheshire Lane Minnetonka, Minnesota 55305 --------------------- ----- (Address of principal executive offices) (Zip Code) (952) 449-9092 (Registrant's telephone number, including area code) Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes X No ----- ----- As of May 10, 2001, there were 10,637,953 shares of Common Stock, $0.01 par value per share, outstanding.
2 LAKES GAMING, INC. AND SUBSIDIARIES INDEX <TABLE> <CAPTION> PAGE OF FORM 10-Q --------- <S> <C> PART I. FINANCIAL INFORMATION ITEM 1. FINANCIAL STATEMENTS Consolidated Balance Sheets as of April 1, 2001 3 and April 2, 2000 Consolidated Statements of Earnings for the three 4 months ended April 1, 2001 and April 2, 2000 Consolidated Statements of Comprehensive 5 Earnings for the three months ended April 1, 2001 and April 2, 2000 Consolidated Statements of Cash Flows for the three 6 months ended April 1, 2001 and April 2, 2000 Notes to Consolidated Financial Statements 7 ITEM 2. MANAGEMENT'S DISCUSSION AND 13 ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS PART II. OTHER INFORMATION ITEM 1. LEGAL PROCEEDINGS 21 ITEM 5. OTHER INFORMATION 27 ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K 27 </TABLE> 2
3 LAKES GAMING, INC. AND SUBSIDIARIES CONSOLIDATED BALANCE SHEETS (IN THOUSANDS) <TABLE> <CAPTION> APRIL 1, 2001 DECEMBER 31, 2000 - -------------------------------------------------------------------------------------------------------------------------- <S> <C> <C> ASSETS Current Assets: Cash and cash equivalents $ 7,872 $ 10,469 Short-term investments 13,007 32,477 Current installments of notes receivable 13,302 16,679 Accounts receivable 7,056 2,373 Deferred tax asset 13,591 13,674 Other current assets 4,124 2,383 - --------------------------------------------------------------------------------------------------------------------- Total Current Assets 58,952 78,055 - --------------------------------------------------------------------------------------------------------------------- Property and Equipment-Net 1,390 1,414 - --------------------------------------------------------------------------------------------------------------------- Other Assets: Land held for development 70,400 58,671 Notes receivable-less current installments 46,880 35,337 Cash and cash equivalents-restricted 33,073 30,270 Investments in and notes from unconsolidated affiliates 3,096 3,209 Other long-term assets 5,887 5,853 - --------------------------------------------------------------------------------------------------------------------- Total Other Assets 159,336 133,340 - --------------------------------------------------------------------------------------------------------------------- TOTAL ASSETS $219,678 $212,809 ===================================================================================================================== LIABILITIES AND SHAREHOLDERS' EQUITY Current Liabilities: Accounts payable $ 142 $ 79 Current maturities of long-term debt 525 525 Income taxes payable 8,381 5,479 Litigation and claims accrual 24,842 25,078 Other accrued expenses 3,824 4,521 - --------------------------------------------------------------------------------------------------------------------- Total Current Liabilities 37,714 35,682 - --------------------------------------------------------------------------------------------------------------------- Long-term Liabilities: Long-term debt-less current installments 1,325 1,325 - ---------------------------------------------------------------------------------------------------------------------- Total Long-Term Liabilities 1,325 1,325 - ---------------------------------------------------------------------------------------------------------------------- TOTAL LIABILITIES 39,039 37,007 - ---------------------------------------------------------------------------------------------------------------------- COMMITMENTS AND CONTINGENCIES Shareholders' Equity: Capital stock, $.01 par value; authorized 100,000 shares; 10,638 common shares issued and outstanding at April 1, 2001, and December 31, 2000, respectively 106 106 Additional paid-in-capital 131,525 131,525 Retained Earnings 49,221 44,504 Accumulated other comprehensive loss (213) (333) - --------------------------------------------------------------------------------------------------------------------- Total Shareholders' Equity 180,639 175,802 - --------------------------------------------------------------------------------------------------------------------- TOTAL LIABILITIES AND SHAREHOLDERS' EQUITY $219,678 $212,809 ===================================================================================================================== </TABLE> THE ACCOMPANYING NOTES ARE AN INTEGRAL PART OF THESE CONSOLIDATED FINANCIAL STATEMENTS. 3
4 LAKES GAMING, INC. AND SUBSIDIARIES CONSOLIDATED STATEMENTS OF EARNINGS (IN THOUSANDS, EXCEPT EARNINGS PER SHARE) <TABLE> <CAPTION> THREE MONTHS ENDED ------------------ APRIL 1, 2001 APRIL 2, 2000 ------------- ------------- <S> <C> <C> REVENUES: Management fee income $ 9,223 $31,053 COSTS AND EXPENSES: Selling, general and administrative 2,580 2,054 Depreciation and amortization 331 1,921 - -------------------------------------------------------------------------------------------------------------------------- Total Costs and Expenses 2,911 3,975 - -------------------------------------------------------------------------------------------------------------------------- EARNINGS FROM OPERATIONS 6,312 27,078 - -------------------------------------------------------------------------------------------------------------------------- OTHER INCOME (EXPENSE): Interest income 1,816 1,630 Interest expense (24) (24) Equity in loss of unconsolidated affiliates (109) (808) - -------------------------------------------------------------------------------------------------------------------------- Total other income, net 1,683 798 - -------------------------------------------------------------------------------------------------------------------------- Earnings before income taxes 7,995 27,876 Provision for income taxes 3,278 11,761 - -------------------------------------------------------------------------------------------------------------------------- NET EARNINGS $4,717 $16,115 ========================================================================================================================== BASIC EARNINGS PER SHARE $ 0.44 $ 1.52 ========================================================================================================================== DILUTED EARNINGS PER SHARE $ 0.44 $ 1.52 ========================================================================================================================== WEIGHTED AVERAGE COMMON SHARES OUTSTANDING 10,638 10,630 DILUTIVE EFFECT OF STOCK COMPENSATION PROGRAMS 144 2 - -------------------------------------------------------------------------------------------------------------------------- WEIGHTED AVERAGE COMMON AND DILUTED SHARES OUTSTANDING 10,782 10,632 ========================================================================================================================== </TABLE> THE ACCOMPANYING NOTES ARE AN INTEGRAL PART OF THESE CONSOLIDATED FINANCIAL STATEMENTS. 4
5 LAKES GAMING, INC. AND SUBSIDIARIES CONSOLIDATED STATEMENTS OF COMPREHENSIVE EARNINGS (IN THOUSANDS) <TABLE> <CAPTION> THREE MONTHS ENDED --------------------------------- APRIL 1, 2001 APRIL 2, 2000 --------------------------------- <S> <C> <C> NET EARNINGS $ 4,717 $ 16,115 OTHER COMPREHENSIVE INCOME, NET OF TAX: Unrealized gains on securities: Unrealized holding gains during the period 120 9 Reclassification adjustment for losses included in net earnings 67 - ---------------------------- COMPREHENSIVE EARNINGS $ 4,904 $ 16,124 ============================ </TABLE> THE ACCOMPANYING NOTES ARE AN INTEGRAL PART OF THESE CONSOLIDATED FINANCIAL STATEMENTS. 5
6 LAKES GAMING, INC. AND SUBSIDIARIES CONSOLIDATED STATEMENTS OF CASH FLOWS (IN THOUSANDS) <TABLE> <CAPTION> THREE MONTHS ENDED ---------------------------- APRIL 1, 2001 APRIL 2, 2000 ------------- ------------- OPERATING ACTIVITIES: <S> <C> <C> Net earnings $ 4,717 $ 16,115 Adjustments to reconcile net earnings to net cash provided by operating activities: Depreciation and amortization 331 1,921 Equity in loss of unconsolidated affiliates 109 808 Changes in operating assets and liabilities: Accounts receivable (4,708) 403 Income taxes 2,902 11,369 Accounts payable 63 (93) Accrued expenses (974) (833) Other (1,441) 193 - --------------------------------------------------------------------------------------------- Net Cash Provided by Operating Activities 999 29,883 - --------------------------------------------------------------------------------------------- INVESTING ACTIVITIES: Short-term investments, purchases (5,208) - Short-term investments, sales/maturities 24,882 3,103 Payments for land held for development (11,729) (834) Payments for notes receivable (11,229) (8,295) Proceeds from repayment of notes receivable 2,926 9,875 Investment in and notes receivable from unconsolidated affiliates (303) (363) (Increase) decrease in restricted cash, net (2,803) 215 Increase in other long-term assets (113) (57) Payments for property and equipment, net (19) (22) - --------------------------------------------------------------------------------------------- Net Cash Used in Investing Activities (3,596) 3,622 - --------------------------------------------------------------------------------------------- FINANCING ACTIVITIES: Proceeds from issuance of common stock - 17 - --------------------------------------------------------------------------------------------- Net Cash Provided by (Used in) Financing Activities - 17 - --------------------------------------------------------------------------------------------- Net increase (decrease) in cash and cash equivalents (2,597) 33,522 Cash and cash equivalents - beginning of period 10,469 24,392 - --------------------------------------------------------------------------------------------- CASH AND CASH EQUIVALENTS - END OF PERIOD $ 7,872 $ 57,914 ============================================================================================= SUPPLEMENTAL DISCLOSURES OF CASH FLOW INFORMATION: Cash paid during the period for: Interest $ 24 $ 24 Income taxes 1,292 318 </TABLE> THE ACCOMPANYING NOTES ARE AN INTEGRAL PART OF THESE CONSOLIDATED FINANCIAL STATEMENTS. 6
7 LAKES GAMING, INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED) 1. BUSINESS Lakes Gaming, Inc., a Minnesota corporation ("Lakes" or the "Company") was established as a public corporation on December 31, 1998, via a distribution (the "Distribution") of its common stock, par value $.01 per share (the "Common Stock") to the shareholders of Grand Casinos, Inc. ("Grand"). Lakes currently manages the largest casino resort in Louisiana and has entered into development and management agreements with three separate tribes for three new casino operations, one in Michigan and two in California. The Company also has agreements for the development of one additional casino on Indian owned land in California through a joint venture, and has entered into a joint venture agreement for the development of land on the Las Vegas strip. 2. PRINCIPLES OF CONSOLIDATION The accompanying unaudited consolidated financial statements include the accounts of Lakes and its wholly-owned and majority-owned subsidiaries. Investments in unconsolidated affiliates representing between 20% and 50% of voting interests are accounted for on the equity method. All material intercompany balances and transactions have been eliminated in consolidation. Lakes' investments in unconsolidated affiliates include a 50 percent ownership interest in PCG Cloverdale, LLC, a joint venture formed to develop a casino on Indian-owned land in California. During the first quarter of 2001, Lakes wrote off its 50 percent investment in PCG Corning, LLC, also a joint venture formed to develop a casino on Indian-owned land in California. In addition, Lakes has a 27 percent ownership interest in New Horizon Kids Quest, Inc., a publicly held provider of child care facilities. On December 31, 2000, the carrying value of former investments in Fanball.com, Inc., Trak 21 Development, LLC and Interactive Learning Group, Inc., were written down to zero. The consolidated financial statements have been prepared by the Company in accordance with generally accepted accounting principles for interim financial information, in accordance with the rules and regulations of the Securities and Exchange Commission. Pursuant to such rules and regulations, certain financial information and footnote disclosures normally included in the consolidated financial statements have been condensed or omitted. In the opinion of management, all adjustments (consisting of normal recurring adjustments) considered necessary for fair presentation have been included. Operating results for the three months ended April 1, 2001, are not necessarily indicative of the results that may be expected for the year ending December 30, 2001. The consolidated financial statements should be read in conjunction with the consolidated financial statements and notes thereto included in the Company's annual report on Form 10K for the year ended December 31, 2000. 7
8 LAKES GAMING, INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED) (UNAUDITED) 3. MANAGEMENT CONTRACTS OF LIMITED DURATION The ownership, management and operation of gaming facilities are subject to extensive federal, state, provincial, tribal and/or local laws, regulation, and ordinances, which are administered by the relevant regulatory agency or agencies in each jurisdiction. These laws, regulations and ordinances vary from jurisdiction to jurisdiction, but generally concern the responsibility, financial stability and character of the owners and managers of gaming operations as well as persons financially interested or involved in gaming operations. The Company is prohibited by the Indian Gaming Regulatory Act ("IGRA") from having an ownership interest in any casino it manages for Indian tribes. On March 31, 2000 the Company announced that it had reached an agreement with the Tunica-Biloxi Tribe of Louisiana, effective March 31, 2000, for the early buyout of the management contract for Grand Casino Avoyelles. The Tunica-Biloxi Tribe of Louisiana elected to exercise its option for the early buyout of the contract, which was scheduled to expire on June 3, 2001. The early buyout of the contract was provided for in the original seven-year management agreement and, under the agreement, Lakes was compensated for the management fees the Company would have received had it managed Grand Casino Avoyelles through the original contract expiration date of June 3, 2001, discounted to their present value. Included in management fee income for the three months ended April 2, 2000 is approximately $16 million relating to the early buyout. Lakes was also repaid all amounts owing to it under its loan agreements with the Tribe. The management contract for Grand Casino Coushatta expires January 16, 2002. The Coushatta Tribe and Lakes have agreed on a five-year contract renewal beginning January 17, 2002, subject to National Indian Gaming Commission ("NIGC") approval. Net distributable profits, if any, under the new agreement will be determined in accordance with IGRA and distributed each month 90% to the Coushatta Tribe and 10% to Lakes. There can be no assurance that the Louisiana management contract will be renewed upon expiration or approved by the NIGC upon any such renewal. The failure to obtain approval of the renewed management contract would result in the loss of revenues to the Company derived from such contract, which would have a material adverse effect on the Company's results of operations. The Coushatta Tribe entered into a tribal-state compact with the State of Louisiana on September 29, 1992. This compact was approved in November 1992 by the Secretary of the Interior. The compact expired November 4, 1999 and the State of Louisiana delivered a written notice of non-renewal. The Governor and the Tribe agreed on three extensions totaling thirteen months that were approved by the Department of the Interior. On December 11, 2000, the Tribe and the State of Louisiana agreed to terms of a new compact. The compact is subject to approval by the Department of the Interior. There can be no assurances that the compact will be approved by the Department of the Interior. 8
9 LAKES GAMING, INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED) (UNAUDITED) 4. NOTES RECEIVABLE Notes receivable consist of the following (in thousands): <TABLE> <CAPTION> April 1, 2001 December 31, 2000 ------------- ----------------- <S> <C> <C> Notes from the Pokagon Band of Potawatomi Indians with variable interest rates (not to exceed 10%) (9.0% at April 1, 2001), receivable in 60 monthly installments subsequent to commencement date $27,662 $21,918 Notes from the Coushatta Tribe with variable interest rates (9.0% at April 1, 2001), receivable in 84 monthly installments through January 2002 9,302 12,227 Notes from the Shingle Springs Band of Miwok Indians with variable interest rates (10.0% at April 1, 2001), receivable in 12 monthly installments subsequent to commencement date 6,035 5,554 Notes from PCG Corning, LLC, with variable interest rates (9.0% at April 1, 2001) 5,427 2,679 Notes from the Jamul Indian Village with variable interest rates (10.0% at April 1, 2001), receivable in 12 monthly installments subsequent to commencement date 4,759 3,372 Notes from ViatiCare Financial Services, LLC, with variable interest rates (8.0% at April 1, 2001) 4,000 3,740 Other 2,997 2,526 ------- ------- Total notes receivable 60,182 52,016 Less-current installments of notes receivable (13,302) (16,679) ------- ------- Notes receivable, less current installments $46,880 $35,337 ======= ======= </TABLE> 9
10 LAKES GAMING, INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED) (UNAUDITED) The notes receivable are generally advances made to Indian Tribes for the development of gaming properties managed by the Company. The repayment terms are specific to each tribe and are largely dependent upon the operating performance of each gaming property. Repayments of the aforementioned notes receivable are required to be made only if distributable profits are available from the operation of the related casinos. Repayments are also the subject of certain distribution priorities specified in the management contracts. In addition, repayment of the notes receivable and the manager's fees under the management contracts are subordinated to certain other financial obligations of the respective tribes. Through April 1, 2001, no amounts have been withheld under these provisions. Management periodically evaluates the recoverability of such notes receivable based on the current and projected operating results of the underlying facility and historical collection experience. No impairment losses on such notes receivable have been recognized through April 1, 2001. The Company believes the costs and complexities of assembling the relevant facts and comparables needed to appraise the fair market values of these notes based on estimates of net present value of discounted cash flows or using other valuation techniques are excessive and the process exceedingly time consuming. It further believes that the determined results would not reasonably differ from the carrying values, which are believed to be reasonable estimates of fair market value based on past experience with similar receivables. 5. LITIGATION SETTLEMENT A settlement agreement was reached in June 2000 regarding both the Stratosphere shareholders' litigation and the Grand Casinos, Inc. shareholders' litigation. The agreement required Lakes to pay $9 million to the Grand Casinos, Inc. shareholders and $9 million to the Stratosphere shareholders for a total of $18 million, which was reflected as a nonoperating expense in the second quarter of 2000. The $18 million was placed by Lakes into escrow accounts on behalf of the recipients. The settlement agreement is subject to final approval by the respective courts, which is expected to occur later this year. The net income impact of the litigation loss was $10.6 million or $1.00 per diluted share. The complaints by the shareholder groups were originally filed in 1996 against various defendants including Grand Casinos, Inc. The complaints included allegations of misrepresentations, federal and state securities law violations and various other claims in connection with the Stratosphere project. As part of the transaction establishing Lakes as a separate public company on December 31, 1998, Lakes agreed to indemnify Grand for all obligations arising out of these lawsuits. 10
11 LAKES GAMING, INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED) (UNAUDITED) 6. COMMITMENTS AND CONTINGENCIES: LEASES The Company leases certain property and equipment under non-cancelable operating leases. Future minimum lease payments, excluding contingent rentals, due under non-cancelable operating leases as of April 1, 2001 are as follows (in thousands): <TABLE> <CAPTION> Operating Leases ---------------- <S> <C> 2001 $ 2,233 2002 3,109 2003 3,176 2004 3,246 2005 3,318 Thereafter 40,861 --------- $55,943 ========= </TABLE> PURCHASE OPTION AGREEMENTS The Company has an option to purchase the Travelodge property in Las Vegas, Nevada for the purchase price of $30 million on October 31, 2017, and options to purchase the Cable property in Las Vegas, Nevada for the purchase price of $39.1 million any time prior to January 2, 2003. LOAN GUARANTY AGREEMENTS On May 1, 1997, the Company entered into a guaranty agreement related to a loan agreement entered into by the Coushatta Tribe of Louisiana in the amount of $25.0 million, for the purpose of constructing a hotel and acquiring additional casino equipment. The guaranty will remain in effect until the loan is paid. The loan term is approximately five years. As of April 1, 2001 and December 31, 2000, the amounts outstanding were $10.9 million and $13.0 million, respectively INDEMNIFICATION AGREEMENT As a part of the transaction establishing Lakes as a separate public company on December 31, 1998, the Company has agreed to indemnify Grand against all costs, expenses and liabilities incurred in connection with or arising out of certain pending and threatened claims and legal proceedings to which Grand and certain of its subsidiaries are likely to be parties. The Company's indemnification obligations include the obligation to provide the defense of all claims made in proceedings against Grand and to pay all related settlements and judgments. 11
12 LAKES GAMING, INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED) (UNAUDITED) As security to support Lakes' indemnification obligations to Grand, Lakes has agreed to deposit, in trust for the benefit of Grand, as a wholly owned subsidiary of Park Place, an aggregate of $30 million, to cover various commitments and contingencies related to or arising out of, Grand's non-Mississippi business and assets (including by way of example, but not limitation, tribal loan guarantees, real property lease guarantees for Lakes' subsidiaries and director and executive officer indemnity obligations) consisting of four annual installments of $7.5 million, during the four-year period subsequent to December 31, 1998. Any surplus proceeds remaining after all the secured obligations are indefeasibly paid in full and discharged shall be paid over to Lakes. Lakes made the first deposit of $7.5 million on December 31, 1999 and in July, 2000, Lakes deposited $18 million in an escrow account in partial satisfaction of the indemnification obligation. Such amounts are included as restricted cash on the accompanying balance sheets as of April 1, 2001 and December 31, 2000. As part of the indemnification agreement, Lakes has agreed that it will not declare or pay any dividends, make any distribution of Lakes' equity interests, or otherwise purchase, redeem, defease or retire for value any equity interests in Lakes without the written consent of Park Place. 12
13 LAKES GAMING, INC. AND SUBSIDIARIES MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS (UNAUDITED) ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS OVERVIEW Lakes Gaming, Inc., a Minnesota corporation ("Lakes" or the "Company") was established as a public corporation on December 31, 1998, via a distribution (the "Distribution") of its common stock, par value $.01 per share, to the shareholders of Grand Casinos, Inc. ("Grand"). Lakes operates the Indian casino management business and holds various other assets previously owned by Grand. The Company's revenues are derived almost exclusively from management fees. Lakes manages a land-based, Indian-owned casino in Louisiana: Grand Casino Coushatta, in Kinder, Louisiana ("Grand Casino Coushatta"), owned by the Coushatta Tribe of Louisiana (the "Coushatta Tribe"). The management contract expires seven years from the date the casino opened. The Coushatta Tribe and Lakes have agreed on a five-year contract renewal beginning January 17, 2002, subject to NIGC approval. Net distributable profits, if any, under the new agreement will be determined in accordance with IGRA and distributed each month 90% to the Coushatta Tribe and 10% to Lakes. The Company also managed a second land-based, Indian-owned casino in Marksville, Louisiana ("Grand Casino Avoyelles"), owned by the Tunica-Biloxi Tribe of Louisiana (the "Tunica-Biloxi Tribe") through March 31, 2000. On March 31, 2000 the Company announced that it had reached an agreement with the Tunica-Biloxi Tribe of Louisiana, effective March 31, 2000 for the early buyout of the management contract for Grand Casino Avoyelles. The Tunica-Biloxi Tribe of Louisiana elected to exercise its option for the early buyout of the contract, which was scheduled to expire on June 3, 2001. The early buyout of the contract was provided for in the original seven-year management agreement and, under the agreement, Lakes was compensated for the management fees the company would have received had it managed Grand Casino Avoyelles through the original contract expiration date of June 3, 2001, discounted to their present value. Lakes was also repaid all amounts owing to it under its loan agreements with the Tribe. Lakes develops, constructs and manages Indian-owned casino properties that offer the opportunity for long-term development in emerging and established gaming jurisdictions. On May 12, 1999, the Company announced that it would form a partnership for the purpose of developing a gaming facility on Indian-owned land near San Diego, California. Under the agreement, Lakes has formed a limited liability company with KAR, a limited liability company based in Houston, Texas. The partnership between Lakes and KAR holds a contract to develop and manage a casino resort facility with the Jamul Indian Village in California. The contract is subject to approval by NIGC. In March of 2000, California voters approved an amendment to the State Constitution which allows for Nevada-style gaming on Indian land and ratifies the Tribal Compact. Development of the casino resort will begin once various regulatory approvals are received. 13
14 LAKES GAMING, INC. AND SUBSIDIARIES MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS (UNAUDITED) On June 22, 1999, the Company announced that it has been selected by the Pokagon Band of Potawatomi Indians (the "Band") to serve as the exclusive developer and manager of a proposed casino gaming resort facility to be owned by the Band in the state of Michigan. In connection with its selection, Lakes and the Band have executed a development and management agreement governing their relationship during the development, construction and management of the casino. Various regulatory approvals are needed prior to commencement of development activities. On January 18, 2000, a Michigan Ingham County Circuit Judge ruled that the Michigan State Legislature acted improperly in 1998 when it approved casino compacts by joint resolution. The Governor of the State of Michigan has indicated that he will appeal the ruling. The ruling directly affects four tribes in Michigan, one of which is the Pokagon Band of Potawatomi Indians with whom Lakes has development and management contracts. In January 2001, the land comprising the casino site was accepted into trust by the Secretary of Interior, subject to a 30-day public comment period. During the 30-day period, a complaint was filed against the Secretary of the U.S. Department of the Interior in the District Court of Columbus by a group called "Taxpayers of Michigan Against Casinos", to stop the U.S. Department of Interior from placing into trust the land for the casino site. The Department of Justice will defend this lawsuit on behalf of the Secretary of the Interior. On July 15, 1999, the Company announced that it would form a partnership for the purpose of developing a gaming facility on Indian-owned land near Sacramento, California. Pursuant to the agreement, Lakes has formed a limited liability company with KAR, a limited liability company based in Houston, Texas. The partnership between Lakes and KAR has been awarded a contract to develop and manage a casino resort facility with the Shingle Springs Band of Miwok Indians in California. The contract is subject to approval by NIGC and placement of the land where the gaming facility is to be located into trust with the Bureau of Indian Affairs ("BIA"). In March of 2000, California voters approved an amendment to the State Constitution which allows for Nevada-style gaming on Indian land and ratifies the Tribal Compact. Development of the casino resort will begin once various regulatory approvals are received. On October 1, 1999, the Company purchased the shopping center and land owned by the Nevada Resort Properties Polo Plaza Limited Partnership (the "Partnership") in lieu of exercising its right to purchase the remaining 51% interest in the Partnership. Prior to the purchase, the Company held a 49% ownership interest in the Partnership. In consideration for the purchase, the Company paid approximately $3.3 million and paid off the outstanding partnership mortgage of approximately $6.3 million. A $6.2 million loan to the Partnership made by the Company during January 1999 was repaid and satisfied at the closing by offsetting an appropriate amount against the purchase price as agreed by the Company and the Partnership. Pursuant to the purchase agreement relating to this transaction, the Partnership is in the process of being dissolved. 14
15 LAKES GAMING, INC. AND SUBSIDIARIES MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS (CONTINUED) (UNAUDITED) On June 19, 2000, the Company announced that a settlement agreement had been reached regarding both the Stratosphere shareholders' litigation and the Grand Casinos, Inc. shareholders' litigation. The agreement required Lakes to pay $9 million to the Grand Casinos, Inc. shareholders and $9 million to the Stratosphere shareholders for a total of $18 million, which was reflected as a non-operating expense in the second quarter of 2000. This amount was paid into escrow and related accounts in July 2000 for full and final settlement for all federal and state related actions. The settlement is subject to final approval by the respective courts, which is expected to occur later this year. On July 31, 2000, the Company announced that it had formed a joint venture, Metroplex-Lakes, LLC, with Metroplex, LLC to develop Las Vegas real estate now controlled by Lakes. Metroplex-Lakes, LLC plans to develop an upscale retail, commercial, hotel and entertainment complex on approximately 16 acres surrounding the corner of Harmon Avenue and Las Vegas Boulevard (the "Strip") in Las Vegas. The joint venture has a two-year option to buy the majority of the site from Lakes at a price that will approximately equal Lakes' investment in the property plus the assumption of Lakes' future obligations under a long-term ground lease. The joint venture will also assume Lakes' option to purchase the remainder of the site from a third party. Lakes will have voting control of the joint venture, however, development decisions affecting the real estate purchased by the joint venture must be mutually agreed upon. Lakes and Metroplex will share results from the joint venture equally. On August 10, 2000, the Company announced that it had agreed to form a joint venture for the purpose of developing new gaming facilities on Indian-owned land in California. Under the agreement, Lakes formed a limited liability company with MRD Gaming, a limited liability company. The partnership between Lakes and MRD holds the contract to develop casino facilities with the Cloverdale Rancheria of Pomo Indians. The planned site for the potential new casino development is located on Highway 101 in Cloverdale, California, approximately 60 miles north of San Francisco. Development at the casino will start as soon as various regulatory approvals are obtained by the tribe. Development is also subject to completion of definitive financing arrangements. The joint venture also entered into a contract relating to the Paskenta Band of Nomlaki Indians. Lakes has made loans to the joint venture for this project. However, in February 2001, Lakes announced its intention to discontinue its involvement with the Paskenta project. Lakes' investments in unconsolidated affiliates include a 50 percent ownership interest in PCG Cloverdale, LLC, a joint venture formed to develop a casino on Indian-owned land in California. During the first quarter of 2001, Lakes wrote off its 50 percent investment in PCG Corning, LLC, also a joint venture formed to develop a casino on Indian-owned land in California. In addition, Lakes has a 27 percent ownership interest in New Horizon Kids Quest, Inc., a publicly held provider of child care facilities. On December 31, 2000, the carrying value of former investments in Fanball.com, Inc., Trak 21 Development, LLC and Interactive Learning Group, Inc. were written down to zero. 15
16 LAKES GAMING, INC. AND SUBSIDIARIES MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS (UNAUDITED) A potential new business venture that Lakes is actively considering is establishing one or more web sites to conduct online gaming in a regulated country, taking wagers placed from only outside the United States. Lakes is currently evaluating the technology of various web site providers. The chosen provider would create and maintain a gaming web site subject to the negotiation and execution of definitive documents, due diligence, regulatory approvals and other conditions. Lakes' limited operating history may not be indicative of Lakes' future performance. In addition, a comparison of results from year to year may not be meaningful due to the opening of new facilities during each year and the buyout and/or cessation of other casino management contracts. Lakes' growth strategy contemplates the expansion of existing operations, the pursuit of opportunities to develop and manage additional gaming facilities and the pursuit of new business opportunities. The successful implementation of this growth strategy is contingent upon the satisfaction of various conditions, including obtaining governmental approvals, the impact of increased competition, and the occurrence of certain events, many of which are beyond the control of Lakes. The following discussion and analysis should be read in conjunction with the consolidated financial statements and notes thereto and the management's discussion and analysis included in the Company's Annual Report on Form 10-K for the year ended December 31, 2000. RESULTS OF OPERATIONS Revenues are calculated in accordance with accounting principles generally accepted in the United States and are presented in a manner consistent with industry practice. Net distributable profits are computed using a modified cash basis of accounting in accordance with the management contracts. The effect of the use of the modified cash basis of accounting is to accelerate the write-off of capital equipment and leased assets, which thereby impacts the timing of net distributable profits. Lakes is prohibited by IGRA from having an ownership interest in any casino it manages for Indian tribes. The management contract with Grand Casino Coushatta expires January 16, 2002. The Coushatta Tribe and Lakes have agreed on a five-year contract renewal beginning January 17, 2002, subject to NIGC approval. There can be no assurance that the management contract will be renewed upon expiration or approved by NIGC upon any such renewal. The failure to renew the Lakes' management contract would result in the loss of revenues to Lakes derived from such contract, which would have a material adverse effect on Lakes' results of operations. The Coushatta Tribe entered into a tribal-state compact with the State of Louisiana on September 29, 1992. This compact was approved in November 1992 by the Secretary of the Interior. The compact for the Coushatta Tribe expired November 4, 1999 and the State of Louisiana delivered a written notice of non-renewal. The Governor and the Tribe agreed on two six-month extensions and one thirty-day extension, which were approved by the Department of the Interior. On December 11, 2000, the State of Louisiana and the Coushatta Tribe reached agreement on the terms of a new compact. The compact is subject to approval by the Department of the Interior. In the event the compact is not approved, gaming may not be permitted at Grand Casino Coushatta. 16
17 LAKES GAMING, INC. AND SUBSIDIARIES MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS (CONTINUED) (UNAUDITED) THREE MONTHS ENDED APRIL 1, 2001 COMPARED TO THE THREE MONTHS ENDED APRIL 2, 2000 Revenues Total revenues were $9.2 million for the three months ended April 1, 2001 compared to $31.1 million for the same period in the prior year. Revenues for the current year quarter were derived from fees related to the management of Grand Casino Coushatta. Revenues for the quarter were less than the same period last year primarily due to the early buyout of the Company's management contract for Grand Casino Avoyelles by the Tunica-Biloxi Tribe of Louisiana at the end of the first quarter 2000, pursuant to the terms of the contract. Revenues from Grand Casino Avoyelles contributed $19.8 million in the first quarter of 2000, including approximately $16.0 million in management fee income recognized due to the buyout of the management contract. The decrease in revenues relates also to a decline in management fees of $2.0 million from Grand Casino Coushatta due to construction interruption on the main roads leading to the casino, along with increased competition from the Lake Charles riverboats. Costs and Expenses Total costs and expenses were $2.9 million for the three months ended April 1, 2001, compared to $4.0 million for the same period in the prior year. Selling, general, and administrative expenses increased in comparison with the prior year period, primarily due to increased costs related to development costs of new casino projects. Depreciation and amortization expense decreased from $1.9 million for the three months ended April 2, 2000 to $0.3 million for the three months ended April 1, 2001, due to increased amortization in the prior year period related to the early buyout of the management contract for Grand Casino Avoyelles at the end of the first quarter of 2000. Other Interest income was $1.8 million for the three months ended April 1, 2001, compared to $1.6 million for the same period in the prior year. Equity in loss of unconsolidated affiliates decreased to $0.1 million for the three months ended April 1, 2001 from $0.8 million for the three months ended April 2, 2000, due primarily to the write down of investments in Fanball.com, Interactive Learning Group, Inc. and Trak 21 on December 31, 2000. Current year period results do not include losses from these operations. 17
18 LAKES GAMING, INC. AND SUBSIDIARIES MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS (CONTINUED) (UNAUDITED) Earnings per Common Share and Net Earnings For the three months ended April 1, 2001 basic and diluted earnings per common share were $.44. This compares to basic and diluted earnings of $1.52 per common share, for the three months ended April 2, 2000. Earnings totaled $4.7 million for the three months ended April 1, 2001 compared to earnings of $16.1 million for the same prior year period. Excluding results from Grand Casino Avoyelles, Lakes' first quarter earnings before taxes decreased approximately $1.7 million compared to the first quarter in the prior year. The decrease in earnings relates primarily to the $2.0 million decline in management fees from Grand Casino Coushatta described above. CAPITAL RESOURCES, CAPITAL SPENDING, AND LIQUIDITY At April 1, 2001, Lakes had $40.9 million in restricted and unrestricted cash and cash equivalents. The Company also had $13.0 million in short-term, available-for-sale investments, consisting primarily of a fixed income portfolio made up of various types of bonds which are rated A1 or better. The cash and short-term investment balances are planned to be used for loans to current joint venture and tribal partners to develop existing and anticipated Indian casino operations and the Las Vegas real estate, the pursuit of additional business opportunities, and settlement of pending litigation matters. The amount and timing of Lakes' cash outlays for casino development loans will depend on the timing of the regulatory approval process and the availability of external financing. For the three months ended April 1, 2001 and April 2, 2000, net cash provided by operating activities totaled $1.0 million and $29.9 million, respectively. For the 2001 period, net cash used in investing activities totaled $3.6 million, while in the 2000 period net cash provided by investing activities totaled $3.6 million. Included in these investing activities for the three months ended April 1, 2001 and April 2, 2000, are proceeds primarily from repayment of notes receivable from Indian-owned casinos, which amounted to $2.9 million and $9.9 million, respectively. Advances under notes receivable were $11.2 million and $8.3 million for the three months ended April 1, 2001 and April 2, 2000. Also during these periods, payments for land in Las Vegas, Nevada, held for development amounted to $11.7 million and $0.8 million, respectively. As a part of the agreements dated as of June 30, 1998, by and among Hilton Hotels Corporation, Park Place, Gaming Acquisition Corporation, Lakes and Grand, the Company has agreed to indemnify Grand against all costs, expenses and liabilities incurred in connection with or arising out of certain pending and threatened claims and legal proceedings to which Grand and certain of its subsidiaries are likely to be parties. The Company's indemnification obligations include the obligation to provide the defense of all claims made in proceedings against Grand and to pay all related settlements and judgments. See Part II, Item 1. Legal Proceedings. 18
19 LAKES GAMING, INC. AND SUBSIDIARIES MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS (CONTINUED) (UNAUDITED) As security to support Lakes' indemnification obligations to Grand, Lakes agreed to deposit, in trust for the benefit of Grand, as a wholly owned subsidiary of Park Place, an aggregate of $30 million, consisting of four annual installments of $7.5 million during the four-year period subsequent to December 31, 1998. Lakes' ability to satisfy this funding obligation is materially dependent upon the continued success of its operations and the general risks inherent in its business. In the event Lakes is unable to satisfy its funding obligation, it would be in breach of its agreement with Grand, possibly subjecting itself to additional liability for contract damages, which could have a material adverse effect on Lakes' business and results of operations. The Company made the first deposit of $7.5 million on December 31, 1999. In 2000, Lakes deposited $18.0 million into an escrow account on behalf of the recipients in the Stratosphere shareholders' litigation and the Grand Casinos, Inc. shareholders' litigation. Such amounts are included as restricted cash on the accompanying consolidated balance sheets as of April 1, 2001 and April 2, 2000. In January 2001, Lakes also purchased the Shark Club property in Las Vegas for $10.1 million in settlement of another claim that was subject to the indemnification obligations. SEASONALITY The Company believes that the operation of casinos managed by the Company are affected by seasonal factors, including holidays, weather and travel conditions. REGULATION AND TAXES The Company is subject to extensive regulation by state gaming authorities. The Company will also be subject to regulation, which may or may not be similar to current state regulations, by the appropriate authorities in any other jurisdiction where it may conduct gaming activities in the future. Changes in applicable laws or regulations could have an adverse effect on the Company. The gaming industry represents a significant source of tax revenues. From time to time, various federal legislators and officials have proposed changes in tax law, or in the administration of such law, affecting the gaming industry. It is not possible to determine the likelihood of possible changes in tax law or in the administration of such law. Such changes, if adopted, could have a material adverse effect on the Company's results of operations and financial results. PRIVATE SECURITIES LITIGATION REFORM ACT The Private Securities Litigation Reform Act of 1995 provides a "safe harbor" for forward-looking statements. Certain information included in this integrated Quarterly Report on Form 10Q and other materials filed or to be filed by the Company with the Securities and Exchange Commission (as well as information included in oral statements or other written statements made or to be made by the Company) contain statements that are forward-looking, such as plans for future expansion and other business development activities as well as other statements regarding capital spending, financing sources and the effects of regulation (including gaming and tax regulation) and competition. 19
20 LAKES GAMING, INC. AND SUBSIDIARIES MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS (CONTINUED) (UNAUDITED) Such forward-looking information involves important risks and uncertainties that could significantly affect the anticipated results in the future and, accordingly, actual results may differ materially from those expressed in any forward-looking statements made by or on behalf of the Company. These risks and uncertainties include, but are not limited to, those relating to development and construction activities, dependence upon existing management, pending litigation, domestic or global economic conditions and changes in federal or state tax laws or the administration of such laws and changes in gaming laws or regulations (including the legalization of gaming in certain jurisdictions). For further information regarding these risks and uncertainties, see the "Business -- Risk Factors" section of the Company's Annual Report on Form 10K for the year ended December 31, 2000. ITEM 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK The Company's financial instruments include cash and cash equivalents, marketable securities and long-term debt. The Company's main investment objectives are the preservation of investment capital and the maximization of aftertax returns on its investment portfolio. Consequently, the Company invests with only high-credit-quality issuers and limits the amount of credit exposure to any one issuer. The Company does not use derivative instruments for speculative or investment purposes. The Company's cash and cash equivalents are not subject to significant interest rate risk due to the short maturities of these instruments. As of April 1, 2001, the carrying value of the Company's cash and cash equivalents approximates fair value. The Company's marketable debt securities (principally consisting of commercial paper, corporate bonds, and government securities) have a weighted average duration of one year or less. Consequently such securities are not subject to significant interest rate risk. The Company's primary exposure to market risk associated with changes in interest rates involves the Company's notes receivable related to loans for the development and construction of Native American owned casinos. The loans and related note balances earn various interest rates based upon a defined reference rate. If interest rates rise or fall, the floating rate receivables may generate more or less interest income than what is currently recorded. As of April 1, 2001, Lakes had $57.1 million of floating rate notes receivable. Based on the applicable current reference rates and assuming all other factors remain constant, interest income for a twelve-month period would be $5.5 million. A reference rate increase of 100 basis points would result in an increase in interest income of $0.6 million. A 100 basis point decrease in the reference rate would result in a decrease of $0.6 million in interest income over the same twelve-month period. 20
21 LAKES GAMING, INC. AND SUBSIDIARIES PART II OTHER INFORMATION ITEM 1. LEGAL PROCEEDINGS The following summaries describe certain known legal proceedings to which Grand is a party which Lakes has assumed, or with respect to which Lakes has agreed to indemnify Grand, in connection with the Distribution. STRATOSPHERE SHAREHOLDERS LITIGATION -- FEDERAL COURT In August 1996, a complaint was filed in the U.S. District Court for the District of Nevada -- Michael Ceasar, et al v. Stratosphere Corporation, et al - -- against Stratosphere and others, including Grand. The complaint was filed as a class action, and sought relief on behalf of Stratosphere shareholders who purchased their stock between December 19, 1995 and July 22, 1996. The complaint included allegations of misrepresentations, federal securities law violations and various state law claims. In August through October 1996, several other nearly identical complaints were filed by various plaintiffs in the U.S. District Court for the District of Nevada. The defendants in the actions submitted motions requesting that all of the actions be consolidated. Those motions were granted in January 1997, and the consolidated action is entitled In re: Stratosphere Corporation Securities Litigation -- Master File No. CV-S-96-00708 PMP (RLH). In February 1997, the plaintiffs filed a consolidated and amended complaint naming various defendants, including Grand and certain current and former officers and directors of Grand. The amended complaint includes claims under federal securities laws and Nevada laws based on acts alleged to have occurred between December 19, 1995 and July 22, 1996. In February 1997, various defendants, including Grand and Grand's officers and directors named as defendants, submitted motions to dismiss the amended complaint. Those motions were made on various grounds, including Grand's claim that the amended complaint failed to state a valid cause of action against Grand and Grand's officers and directors. In May 1997, the court dismissed the amended complaint. The dismissal order did not allow the plaintiffs to further amend their complaint in an attempt to state a valid cause of action. In June 1997, the plaintiffs asked the court to reconsider its dismissal order, and to allow the plaintiffs to submit a second amended complaint in an attempt to state a valid cause of action. In July 1997, the court allowed the plaintiffs to submit a second amended complaint. 21
22 LAKES GAMING, INC. AND SUBSIDIARIES PART II OTHER INFORMATION (CONTINUED) In August 1997, the plaintiffs filed a second amended complaint. In September 1997, certain of the defendants, including Grand and Grand's officers and directors named as defendants, submitted a motion to dismiss the second amended complaint. The motion was based on various grounds, including Grand's claim that the second amended complaint failed to state a valid cause of action against Grand and Grand's officers and directors. In April 1998, the Court granted Grand's motion to dismiss, in part, and denied the motion in part. Thus, the plaintiffs are pursuing the claims in the second amended complaint that survived the motion to dismiss. In June 1998, certain of the defendants, including Grand and Grand's officers and directors named as defendants, submitted a motion for summary judgment seeking an order that such defendants are entitled to judgment as a matter of law. In December 1998, the plaintiffs completed fact discovery related to the issues raised by the summary judgment motion. Expert discovery was completed in March of 1999. All papers relating to this matter were filed on June 1, 1999. On October 6, 1999, the District Court entered its Order, granting in part and denying in part, defendants' Motion for Summary Judgment and Summary Adjudication. The Court dismissed all allegations in reference to (1) Phase II funding levels; (2) "over-allotments uses", as stated in the December 19, 1995 Prospectus; (3) the purpose and use of the Grand Casino Completion Guaranty, as stated in the June 6, 1996 Press Statement; (4) the vague expressions of general optimism (issued within the December 19, 1995 Prospectus, the 10-Q and 10-K Filings, press releases and other public statements) referred to in this Order; (5) the adoption of statements in securities analysts reports; (6) the alleged utterance of misleading statements before the Nevada Gaming Commission; and (7) the temporary diversion of Phase II proceeds to fund Phase I. The remaining claims relate to the accuracy of defendants' budgetary estimates issued in Stratosphere's December 1995 Prospectus and SEC 10-Q and 10-K Reports. The Court concluded that there were triable issues as to whether defendants misstated anticipated construction costs or omitted to disclose material cost overruns. The Court added the Company as an additional defendant because of its indemnity obligation and stipulation. The parties have reached a settlement covering the Stratosphere shareholders litigation. A stipulation of settlement was approved by the court on December 4, 2000. The Stratosphere state and federal settlement was for $9 million, inclusive of all plaintiffs fees and costs. A conditional judgment was entered and no distribution of the settlement will occur until the Minnesota federal litigation is also dismissed. STRATOSPHERE SHAREHOLDERS LITIGATION -- NEVADA STATE COURT In August 1996, a complaint was filed in the District Court for Clark County, Nevada -- Victor M. Opitz, et al v. Robert E. Stupak, et al -- Case No. A363019 - -- against various defendants, including Grand. The complaint seeks relief on behalf of Stratosphere Corporation shareholders who purchased stock between December 19, 1995 and July 22, 1996. The complaint alleges misrepresentations, state securities law violations and other state claims. 22
23 LAKES GAMING, INC. AND SUBSIDIARIES PART II OTHER INFORMATION (CONTINUED) Grand and certain defendants submitted motions to dismiss or stay the state court action pending resolution of the federal court action described above. The court has stayed further proceedings pending the resolution of In re: Stratosphere Securities Litigation. As described under "Stratosphere Shareholders Litigation -- Federal Court" above, the parties have reached a $9 million settlement covering the Stratosphere shareholders litigation in federal and state courts. A Stipulation and Order for Dismissal with Prejudice was entered on January 11, 2001, providing that the state court litigation be dismissed with prejudice inasmuch as the parallel federal court action has been resolved. GRAND CASINOS, INC. SHAREHOLDERS LITIGATION In September and October 1996, two actions were filed by Grand shareholders in the U.S. District Court for the District of Minnesota against Grand and certain of Grand's current and former directors and officers. The complaints allege misrepresentations, federal securities law violations and other claims in connection with the Stratosphere project. The actions have been consolidated as In re: Grand Casinos, Inc. Securities Litigation -- Master File No. 4-96-890 -- and the plaintiffs filed a consolidated complaint. The defendants submitted a motion to dismiss the consolidated complaint, based in part on Grand's claim that the consolidated complaint failed to properly state a cause of action. The consolidated complaint sought class action treatment for a class comprising all persons (other than the defendants) who purchased Grand common stock during the period from December 19, 1995 through July 19, 1996. In December 1997, the court granted Grand's motion to dismiss in part, and denied the motion in part. Thus, the plaintiffs are pursuing the claims in the consolidated complaint that survived Grand's motion to dismiss. Discovery in the action has begun. The defendants have submitted a motion for summary judgment seeking an order that the defendants are entitled to judgment as a matter of law. In December 1998, the plaintiffs completed fact discovery related to the issues raised by the summary judgement motion. Expert discovery was completed in March of 1999. The parties have completed follow-up discovery pertaining to the summary judgment motion. The court heard the motion on September 2, 1999. On March 28, 2000, the court granted the motion in part, and denied the motion in part. The court dismissed, with prejudice, all claims against the defendants as to the members of the putative class who did not purchase Grand common stock during the period from December 19, 1995 through June 6, 1996, inclusive. In early February 1999, the plaintiffs filed a motion for leave to amend the complaint in this action to include, as defendants in the case, both the Company and Park Place. The motion for leave to amend the complaint has been granted and Lakes has filed its answer. 23
24 LAKES GAMING, INC. AND SUBSIDIARIES PART II OTHER INFORMATION (CONTINUED) On June 19, 2000, the Company announced that a settlement agreement had been reached regarding the litigation. The agreement called for the Company to pay $9 million to the Grand shareholders for full and final settlement of all claims covering the original class period. The $9 million was placed into an escrow account by Lakes on behalf of the recipients in July 2000. On May 2, 2001, the settlement agreement received preliminary approval from the U.S. District Court for the District of Minnesota. The settlement agreement is subject to final approval by the U.S. District Court for the District of Minnesota. A hearing to approve the settlement agreement and the corresponding plan of distribution has been scheduled for August 8, 2001. SLOT MACHINE LITIGATION In April 1994, William H. Poulos brought an action in the U.S. District Court for the Middle District of Florida, Orlando Division -- William H. Poulos, et al v. Caesars World, Inc. et al -- Case No. 39-478-CIV-ORL-22 -- in which various parties (including Grand) alleged to operate casinos or be slot machine manufacturers were named as defendants. The plaintiff sought to have the action certified as a class action. A subsequently filed Action -- William Ahearn, et al v. Caesars World, Inc. et al -- Case No. 94-532-CIV-ORL-22 -- made similar allegations and was consolidated with the Poulos action. Both actions included claims under the federal Racketeering-Influenced and Corrupt Organizations Act and under state law, and sought compensatory and punitive damages. The plaintiffs claimed that the defendants are involved in a scheme to induce people to play electronic video poker and slot machines based on false beliefs regarding how such machines operate and the extent to which a player is likely to win on any given play. In December 1994, the consolidated actions were transferred to the U.S. District Court for the District of Nevada. In September 1995, Larry Schreier brought an action in the U.S. District Court for the District of Nevada -- Larry Schreier, et al v. Caesars World, Inc. et al - -- Case No. CV-95-00923-DWH(RJJ). The plaintiffs' allegations in the Schreier action were similar to those made by the plaintiffs in the Poulos and Ahearn actions, except that Schreier claimed to represent a more precisely defined class of plaintiffs than Poulos or Ahearn. In December 1996, the court ordered the Poulos, Ahearn and Schreier actions consolidated under the title William H. Poulos, et al v. Caesars World, Inc., et al -- Case No. CV-S-94-11236-DAE(RJJ) -- (Base File), and required the plaintiffs to file a consolidated and amended complaint. In February 1997, the plaintiffs filed a consolidated and amended complaint. In March 1997, various defendants (including Grand) filed motions to dismiss or stay the consolidated action until the plaintiffs submitted their claims to gaming authorities and those authorities considered the claims submitted by the plaintiffs. 24
25 LAKES GAMING, INC. AND SUBSIDIARIES PART II OTHER INFORMATION (CONTINUED) In December 1997, the court denied all of the motions submitted by the defendants, and ordered the plaintiffs to file a new consolidated and amended complaint. That complaint has been filed. Grand has filed its answer to the new complaint. The plaintiffs have filed a motion seeking an order certifying the action as a class action. Grand and certain of the defendants have opposed the motion. The Court has not ruled on the motion. STANDBY EQUITY COMMITMENT LITIGATION In September 1997, the Stratosphere Trustee under the indenture pursuant to which Stratosphere issued its first mortgage notes filed a complaint in the U.S. District Court for the District of Nevada -- IBJ Schroeder Bank & Trust Company, Inc. v. Grand Casinos, Inc. -- File No. CV-S-97-01252-DWH (RJJ) -- naming Grand as defendant. The complaint alleges that Grand failed to perform under the Standby Equity Commitment entered into between Stratosphere and Grand in connection with Stratosphere's issuance of such first mortgage notes in March 1995. The complaint seeks an order compelling specific performance of what the Trustee claims are Grand's obligations under the Standby Equity Commitment. The Stratosphere Trustee filed the complaint in its alleged capacity as a third party beneficiary under the Standby Equity Commitment. Pursuant to the Second Amended Plan, a new limited liability company (the "Stratosphere LLC") was formed to pursue certain alleged claims and causes of action that Stratosphere and other parties may have against numerous third parties, including Grand and/or officers and/or directors of Grand. The Stratosphere LLC has been substituted for IBJ Schroeder Bank & Trust Company, Inc. in this proceeding. In October of 1999, portions of the Motions for Summary Judgment by both parties were denied in part. The Court subsequently denied Grand's request for expedited appellate court review as to the portions of Motions that were denied. Thereafter, the parties jointly sought the Court's consideration of a subsequent summary judgment motion. During the August 30, 2000 scheduled pre-trial conference call, the Court and the parties agreed to try the action upon an amended joint pre-trial order and a series of post-trial briefs. Post-trial briefing concluded on December 12, 2000 and oral argument was held on January 22, 2001. Upon the Court's request, both parties submitted findings of fact and conclusions of law. On April 4, 2001, the Court entered judgment in favor of Grand and issued its findings of fact and conclusions of law. The plaintiff has filed a notice of appeal. 25
26 LAKES GAMING, INC. AND SUBSIDIARIES PART II OTHER INFORMATION (CONTINUED) STRATOSPHERE PREFERENCE ACTION In April 1998, Stratosphere served on Grand and Grand Media & Electronics Distributing, Inc., a wholly owned subsidiary of Grand ("Grand Media"), a complaint in the Stratosphere bankruptcy case seeking recovery of certain amounts paid by Stratosphere to (i) Grand as management fees and for costs and expenses under a management agreement between Stratosphere and Grand, and (ii) Grand Media for electronic equipment purchased by Stratosphere from Grand Media. Stratosphere claims in its complaint that such amounts are recoverable by Stratosphere as preferential payments under bankruptcy law. In May 1998, Grand responded to Stratosphere's complaint. That response denies that Stratosphere is entitled to recover the amounts described in the complaint. The matter is pending. OTHER LITIGATION The Company has recorded a reserve assessment related to various of the above items. The reserve is reflected as a litigation and claims accrual on the accompanying consolidated balance sheet as of April 1, 2001. Grand and Lakes are involved in various other inquiries, administrative proceedings, and litigation relating to contracts and other matters arising in the normal course of business. While any proceeding or litigation has an element of uncertainty, management currently believes that the final outcome of these matters is not likely to have a material adverse effect upon Grand's or the Company's consolidated financial position or results of operations. 26
27 LAKES GAMING, INC. AND SUBSIDIARIES PART II OTHER INFORMATION (CONTINUED) ITEM 5. OTHER INFORMATION STATUS OF COMPACT WITH LOUISIANA The Coushatta Tribe entered into a tribal-state compact with the State of Louisiana on September 29, 1992. The compact was approved in November, 1992 by the Secretary of the Interior. The compact expired in November, 1999 and the State of Louisiana delivered a written notice of non-renewal. The Governor and the Tribe have agreed on three extensions, which were approved by the Department of the Interior. On December 11, 2000, the Coushatta Tribe and the State of Louisiana agreed to terms for a new compact. The compact is subject to approval by the Department of Interior. In the event that the compact is not approved but the management contract is renewed, Lakes will continue to operate the casino at this location. Currently, the management contract for Grand Casino Coushatta generates substantially all of Lakes' operating revenues. Without the renewal of the existing management contract or the realization of new business opportunities or new management contracts, the non-renewal of the Louisiana management contract or failure of the Department of Interior to approve the new compact could have a material adverse impact on Lakes' results of operations and financial condition. ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K (a) Exhibits None (b) Reports on Form 8-K (i) A Form 8-K, Item 5. Other Events, was filed on February 12, 2001. (ii) A Form 8-K, Item 5. Other Events, was filed on April 11, 2001. (iii) A Form 8-K, Item 5. Other Events, was filed on April 20, 2001. 27
28 SIGNATURES Pursuant to the requirements of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned, thereunto duly authorized. Dated: May 15, 2001 LAKES GAMING, INC. ------------------ Registrant / S / LYLE BERMAN ----------------- Lyle Berman Chairman of the Board, Chief Executive Officer and President / S / TIMOTHY J. COPE --------------------- Timothy J. Cope Executive Vice President and Chief Financial Officer 28