2.Restatement

The restatement of the Company’s financial statements primarily results from the Company’s accounting for its November 1, 2013 distribution of real estate assets to Gaming and Leisure Properties, Inc. (GLPI) under the Master Lease Agreement, was previously recognized as a sale-leaseback. Upon further consideration, the Company did not meet all of the requirements for sale-leaseback accounting under Accounting Standards Codification (“ASC”) 840, “Leases”, and therefore the transaction should be accounted for as a financing obligation rather than a distribution of assets followed by an operating lease. Specifically, the lease contains provisions that would indicate that the Company has prohibited forms of continuing involvement in the leased property such that sale-leaseback accounting would not be permitted. As a result, the Company is precluded from derecognizing the real estate assets and is instead required to recognize a financing obligation for the minimum lease payments due under the Master Lease. The restated condensed consolidated balance sheets therefore include an adjustment to property and equipment, net for the carrying value of the real property of $2.04 billion at December 31, 2014, and additional liabilities of $3.61 billion at December 31, 2014, representing the present value of the future minimum lease payments due to GLPI under the Master Lease and the funded construction of certain leased real estate assets in development at the date of the Spin-Off. Consequently, the restated condensed consolidated statements of operations no longer report rent expense for the obligations under the Master Lease, but rather include interest expense associated with the financing obligation and depreciation expense related to the real estate assets. The lease payment amounts previously recorded as rent expense were $104.6 million and $313.5 million for the three and nine months ended September 30, 2014, respectively. The increases to interest expense and depreciation expense as a result of the correction of the accounting for the Master Lease are $94.5 million and $22.2 million for the three months ended September 30, 2014, respectively, and $281.6 million and $66.7 million for the nine months ended September 30, 2014, respectively.

This change in accounting treatment also resulted in adjustments to the carrying amounts of the Company’s reporting units as well as differences in the allocation of the GLPI rental obligation to the impacted reporting units, which changed each reporting unit’s fair value. The resultant changes to impairment charges are described below.

As part of its restatement, the Company also identified certain other errors affecting the condensed consolidated financial statements as of December 31, 2014 and for the three and nine months ended September 30, 2014:

The Company had originally recorded goodwill and other intangible asset impairment charges of $312.5 million and $745.9 million at October 1, 2013, the date of its annual impairment test, and November 1, 2013 (the Spin-Off date), respectively, and impairment charges of $316.5 million at October 1, 2014. The Company corrected certain errors in its goodwill and indefinite-lived gaming license intangible asset impairment analyses which incorporated the adjustments to the carrying amounts and estimated fair values of the Company’s reporting units mentioned above as well as the impact of its deferred tax valuation allowance. This resulted in a decrease to the Company’s previously recognized impairment charges of $161.2 million and $334.1 million for the years ended December 31, 2014 and 2013, respectively, which along with the relocation fee accounting error described below, resulted in a significant increase to the Company’s goodwill and other intangible assets at December 31, 2014.

During 2014, the Company incurred an aggregate liability of $150 million to State of Ohio in return for the right to locate its racing operations from Toledo, Ohio to Dayton, Ohio (Hollywood Gaming at Dayton Raceway) and from Grove City, Ohio to Austintown, Ohio (Hollywood Gaming at Mahoning Valley). The Company originally accounted for these amounts as a cost of the real estate was therefore including them in property and equipment, net and was amortizing them over the fifteen year base lease term of the Master Lease. The Company has now concluded that these costs should have been recognized as an additional cost incurred for obtaining the gaming licenses for these two properties and capitalized as other intangible assets that are not amortized, but are considered for impairment on an annual basis or more frequently if impairment indicators exist. This resulted in a decrease to depreciation expense of $0.9 million for the three and nine months ended September 30, 2014.

The Company corrected the classification of a corporate airplane lease that had previously been accounted for as an operating lease but upon review should have been accounted for as a capital lease. This resulted in an increase to net property and equipment of $7.0 million at December 31, 2014, as well as an increase to long term debt of $24.9 million at December 31, 2014. It also resulted in an increase to interest expense, with an offsetting decrease to general and administrative costs of $0.2 million and $0.5 million for the three and nine months ended September 30, 2014, respectively, as well as an increase to depreciation expense of $0.5 million and $1.5 million for the three and nine months ended September 30, 2014, respectively.

The Company reclassified a contingent earn-out liability from long-term debt to other liabilities which totaled $19.2 million at December 31, 2014.

The Company concluded that as a result of the failed spin-off-leaseback accounting treatment which resulted in a significant increase to our deferred tax assets, a valuation allowance should be recorded on the Company’s deferred tax assets given the significant negative evidence associated with being in a three year cumulative pre-tax loss position and the insufficient objectively verifiable positive evidence to support the realization of the Company’s deferred tax assets. This resulted in an increase to the Company’s income tax provision of $17.8 million and $34.5 million for the three and nine months ended September 30, 2014, respectively.

The Company concluded that the Carlino exchange transaction should have been accounted for as a treasury stock transaction that is measured using the fair value of the exchanged instruments. See Note 3 in the Company’s Form 10-K/A for additional information.

The Company corrected the income tax provision and related income tax balances on the condensed consolidated balance sheet and condensed consolidated statements of cash flows for each of the previously identified errors.

The Company corrected certain other errors that were not individually material to the condensed consolidated financial statements.

The effect of the restatement on previously issued interim financial information as of and for the three and nine months ended September 30, 2014 is set forth in this footnote.

The condensed consolidated financial statements for 2014 included in this Form 10-Q have been restated to reflect the adjustments described above. The following is a summary of the effect of the restatement on (i) the Company’s condensed consolidated balance sheets at December 31, 2014 (ii) the Company’s condensed consolidated statements of operations for the three and nine months ended September 30, 2014 and (iii) the Company’s condensed consolidated statements of cash flows for the nine months ended September 30, 2014. The Company did not present a summary of the effect of the restatement on the condensed consolidated statement of changes in shareholders’ equity (deficit) for any of the above referenced periods because the impact to retained earnings on the condensed consolidated statement of changes in shareholders’ equity (deficit) is reflected below in the balance sheet summary. The Company did not present a summary of the effect of the restatement on the condensed consolidated statement of comprehensive income (loss) for any of the above referenced periods because the impact to net income (loss) is reflected below in the restated condensed consolidated statement of operations and the restatement adjustments did not affect any other component of comprehensive income (loss).

Penn National Gaming, Inc. and Subsidiaries

Notes to Condensed Consolidated Financial Statements

(in thousands, except share and per share data)

The following table presents the condensed consolidated balance sheet as previously reported, restatement adjustments and the condensed consolidated balance sheet as restated at December 31, 2014:

	As Previously			Restatement
	Reported			Adjustments			As Restated

Assets
Current assets
Cash and cash equivalents	$	208,673		$	—		$	208,673
Receivables, net of allowance for doubtful accounts of $2,004	41,618			—			41,618
Prepaid expenses	68,947			1,838			70,785
Deferred income taxes	55,579			(15,236		)	40,343
Other current assets	11,189			—			11,189

Total current assets	386,006			(13,398		)	372,608

Property and equipment, net	769,145			1,900,587			2,669,732

Other assets
Investment in and advances to unconsolidated affiliates	179,551			—			179,551
Goodwill	277,582			596,602			874,184
Other intangible assets, net	370,562			48,891			419,453
Deferred income taxes	79,067			(79,067		)	—
Advances to Jamul Tribe	62,048			—			62,048
Other assets	87,318			—			87,318

Total other assets	1,056,128			566,426			1,622,554

Total assets	$	2,211,279		$	2,453,615		$	4,664,894


Liabilities
Current liabilities
Current portion of financing obligation to GLPI	—			46,884			46,884
Current maturities of long-term debt	30,853			—			30,853
Accounts payable	43,136			—			43,136
Accrued expenses	130,818			2,274			133,092
Accrued interest	5,163			—			5,163
Accrued salaries and wages	84,034			—			84,034
Gaming, pari-mutuel, property, and other taxes	52,132			(160		)	51,972
Insurance financing	13,680			—			13,680
Other current liabilities	75,703			70			75,773

Total current liabilities	435,519			49,068			484,587


Long-term liabilities
Long-term financing obligation to GLPI, net of current portion	—			3,564,629			3,564,629
Long-term debt, net of current maturities and debt issuance costs	1,204,828			5,749			1,210,577
Deferred income taxes	—			78,633			78,633
Noncurrent tax liabilities	8,188			(1,153		)	7,035
Other noncurrent liabilities	8,258			19,189			27,447

Total long-term liabilities	1,221,274			3,667,047			4,888,321


Shareholders’ equity (deficit)
Series C Preferred stock ($.01 par value, 18,500 shares authorized, 8,624 shares issued and outstanding at December 31, 2014)	—			—			—
Common stock ($.01 par value, 200,000,000 shares authorized, 81,329,210 shares issued and 79,161,817 shares outstanding, at December 31, 2014)	786			27			813
Treasury stock, at cost (2,167,393 shares held at December 31, 2014)	—			(28,414		)	(28,414		)
Additional paid-in capital	918,370			37,776			956,146
Retained deficit	(363,388		)	(1,271,889		)	(1,635,277		)
Accumulated other comprehensive (loss) income	(1,282		)	—			(1,282		)

Total shareholders’ equity (deficit)	554,486			(1,262,500		)	(708,014		)

Total liabilities and shareholders’ equity (deficit)	$	2,211,279		$	2,453,615		$	4,664,894

The following table presents the condensed consolidated statement of operations as previously reported, restatement adjustments and the condensed consolidated statement of operations as restated for the three months ended September 30, 2014:

	As Previously			Restatement
	Reported			Adjustments			As Restated

Revenues
Gaming	$	573,216		$	—		$	573,216
Food, beverage and other	107,266			—			107,266
Management service fee	3,240			—			3,240

Revenues	683,722			—			683,722
Less promotional allowances	(37,782		)	—			(37,782		)

Net revenues	645,940			—			645,940


Operating expenses
Gaming	288,355			—			288,355
Food, beverage and other	79,040			—			79,040
General and administrative	116,510			(165		)	116,345
Rental expense related to Master Lease	104,625			(104,625		)	—
Depreciation and amortization	40,253			21,768			62,021
Insurance (recoveries) deductible charges	(5,674		)	—			(5,674		)

Total operating expenses	623,109			(83,022		)	540,087

Income from operations	22,831			83,022			105,853


Other income (expenses)
Interest expense	(11,189		)	(94,744		)	(105,933		)
Interest income	1,025			—			1,025
Income from unconsolidated affiliates	2,291			—			2,291
Other	1,583			—			1,583

Total other expenses	(6,290		)	(94,744		)	(101,034		)


Income from operations before income taxes	16,541			(11,722		)	4,819
Income tax provision	8,042			12,125			20,167

Net income (loss)	$	8,499		$	(23,847	)	$	(15,348	)


Earnings (loss) per common share:
Basic earnings (loss) per common share	$	0.10		$	(0.30	)	$	(0.20	)
Diluted earnings (loss) per common share	$	0.10		$	(0.30	)	$	(0.20	)

	As Previously			Restatement
	Reported			Adjustments			As Restated

Revenues
Gaming	$	1,720,057		$	—		$	1,720,057
Food, beverage and other	322,710			—			322,710
Management service fee	8,803			—			8,803

Revenues	2,051,570			—			2,051,570
Less promotional allowances	(112,404		)	—			(112,404		)

Net revenues	1,939,166			—			1,939,166


Operating expenses
Gaming	858,539			(2,809		)	855,730
Food, beverage and other	236,981			—			236,981
General and administrative	332,147			(492		)	331,655
Rental expense related to Master Lease	313,547			(313,547		)	—
Depreciation and amortization	134,802			67,278			202,080
Impairment losses	4,560			—			4,560
Insurance (recoveries) deductible charges	(5,674		)	—			(5,674		)

Total operating expenses	1,874,902			(249,570		)	1,625,332

Income from operations	64,264			249,570			313,834


Other income (expenses)
Interest expense	(33,376		)	(282,140		)	(315,516		)
Interest income	2,282			—			2,282
Income from unconsolidated affiliates	6,247			—			6,247
Other	1,391			—			1,391

Total other expenses	(23,456		)	(282,140		)	(305,596		)


Income from operations before income taxes	40,808			(32,570		)	8,238
Income tax provision	23,596			18,683			42,279

Net income (loss)	$	17,212		$	(51,253	)	$	(34,041	)


Earnings (loss) per common share:
Basic earnings (loss) per common share	$	0.20		$	(0.63	)	$	(0.43	)
Diluted earnings (loss) per common share	$	0.19		$	(0.62	)	$	(0.43	)

The following table presents the condensed consolidated statement of cash flow as previously reported, restatement adjustments and the condensed consolidated statement of cash flows as restated for the nine months ended September 30, 2014:

	As Previously			Restatement
	Reported			Adjustments			As Restated

Operating activities
Net income (loss)	$	17,212		$	(51,253	)	$	(34,041	)
Adjustments to reconcile net income (loss) to net cash provided by operating activities:
Depreciation and amortization	134,802			67,278			202,080
Amortization of items charged to interest expense	4,532			—			4,532
Accretion of settlement value on other noncurrent liabilities	456			(456		)	—
Gain on sale of fixed assets	98			—			98
Income from unconsolidated affiliates	(6,247		)	—			(6,247		)
Distributions of earnings from unconsolidated affiliates	17,500			—			17,500
Deferred income taxes	(24,972		)	24,102			(870		)
Charge for stock-based compensation	8,012			—			8,012
Impairment losses and write downs	7,860			—			7,860
Decrease (increase), net of businesses acquired
Accounts receivable	9,469			—			9,469
Prepaid expenses and other current assets	(4,467		)	10			(4,457		)
Other assets	4,325			(10		)	4,315
Increase (decrease), net of businesses acquired
Accounts payable	4,019			—			4,019
Accrued expenses	(11,427		)	(3,020		)	(14,447		)
Accrued interest	2,430			456			2,886
Accrued salaries and wages	(2,993		)	(66		)	(3,059		)
Gaming, pari-mutuel, property and other taxes	13,237			61			13,298
Income taxes	25,205			(1,488		)	23,717
Other current and noncurrent liabilities	4,856			209			5,065
Other noncurrent tax liabilities	777			(3,924		)	(3,147		)

Net cash provided by operating activities	204,684			31,899			236,583

Investing activities
Capital project expenditures, net of reimbursements	(95,568		)	—			(95,568		)
Capital maintenance expenditures	(65,699		)	—			(65,699		)
Advances to Jamul Tribe	(30,499		)	—			(30,499		)
Proceeds from sale of property and equipment	1,172			—			1,172
Investment in joint ventures	(1,000		)	—			(1,000		)
Decrease in cash in escrow	18,000			—			18,000
Acquisitions of businesses and gaming and other licenses, net of cash acquired	(118,678		)	—			(118,678		)

Net cash used in investing activities	(292,272		)	—			(292,272		)

Financing activities
Proceeds from exercise of options	6,223			—			6,223
Proceeds from issuance of long-term debt, net of issuance costs	64,935			—			64,935
Principal payments on financing obligation with GLPI	—			(31,899		)	(31,899		)
Principal payments on long-term debt	(40,703		)	—			(40,703		)
Principal payments on long-term obligations	(15,000		)	—			(15,000		)
Proceeds from insurance financing	14,816			—			14,816
Payments on insurance financing	(14,801		)	—			(14,801		)
Tax benefit from stock options exercised	9,830			—			9,830

Net cash provided (used) by financing activities	25,300			(31,899		)	(6,599		)

Net (decrease) in cash and cash equivalents	(62,288		)	—			(62,288		)
Cash and cash equivalents at beginning of year	292,995						292,995

Cash and cash equivalents at end of year	$	230,707		$	—		$	230,707


Supplemental disclosure
Interest expense paid, net of amounts capitalized	$	25,946		$	282,940		$	308,886
Income taxes paid	$	11,247		$	—		$	11,247