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Financial Instruments and Fair Value Measurements
9 Months Ended
Oct. 02, 2011
Financial Instruments and Fair Value Measurements [Abstract] 
Financial Instruments and Fair Value Measurements

15. Financial Instruments and Fair Value Measurements

Overview

Estimates of fair value for financial assets and liabilities are based on the framework established in the accounting guidance for fair value measurements. The framework defines fair value, provides guidance for measuring fair value, and requires certain disclosures. The framework discusses valuation techniques, such as the market approach (comparable market prices), the income approach (present value of future income or cash flow) and the cost approach (cost to replace the service capacity of an asset or replacement cost). The framework utilizes a fair value hierarchy that prioritizes the inputs to valuation techniques used to measure fair value into three broad levels. The following is a brief description of those three levels:

 

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Level 1: Observable inputs such as quoted prices (unadjusted) in active markets for identical assets or liabilities.

 

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Level 2: Inputs other than quoted prices that are observable for the asset or liability, either directly or indirectly. These include quoted prices for similar assets or liabilities in active markets and quoted prices for identical or similar assets or liabilities in markets that are not active.

 

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Level 3: Unobservable inputs that reflect the reporting entity’s own assumptions.

The Company’s financial instruments consist of cash and cash equivalents, accounts receivable, convertible note receivable, notes receivable and other long-term assets related to Indian casino projects, cost method investments, accounts payable and contract acquisition costs payable.

For the Company’s cash and cash equivalents, accounts receivable, accounts payable and current portion of contract acquisition costs payable, the carrying amounts approximate fair value because of the short duration of these financial instruments.

Balances Measured at Fair Value on a Recurring Basis

Jamul notes receivable

Notes receivable from the Jamul Tribe (“Jamul notes receivable”) for a project under development are measured at estimated fair value on a recurring basis using unobservable (Level 3) inputs and carried at their estimated fair value of $9.6 million and $11.1 million as of October 2, 2011 and January 2, 2011, respectively. The most significant factors affecting the estimated cash flows and discount rates used in the Company’s valuation model for notes receivable from the Jamul Tribe for the project under development include:

 

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Probability of the casino opening based on the status of critical project milestones and the expected opening date,

 

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estimated pre- and post-opening interest rates,

 

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contractual interest rate and other terms,

 

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yield rates on US Treasury Bills and other financial instruments,

 

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the risk/return indicators of equity investments in general,

 

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specific risks associated with operating the casino and similar projects, and

 

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scenario weighting alternatives.

 

Changes in the carrying value of the Jamul notes receivable is as follows (in thousands):

 

         

Balance, January 2, 2011

   $ 11,129  

Net unrealized losses on notes receivable

     (2,091 ) 

Advances

     3,004  

Allocation of advances to intangible asset

     (2,401 ) 
   

 

 

  

Balance, October 2, 2011(unaudited)

   $ 9,641  
   

 

 

  

To value the Company’s notes receivable from Indian tribes for projects under development, the Company utilizes valuation models based on management’s estimates of expected cash flow streams, discount rates, and as applicable, probabilities of casinos opening and the expected opening dates, projected pre- and post-opening date interest rates. The discount rate for the projects is based on the yields available on certain financial instruments at the valuation date, the risk level of equity investments in general, and the specific operating risks associated with similar financial instruments. In estimating this discount rate, market data of other public gaming related companies is also considered. The estimated casino opening date used in the valuations of the notes receivable related to Indian casino projects that are not yet under construction and in the development phase reflects the weighted-average of three scenarios: a base case (which is based on the Company’s forecasted casino opening date) and one and two years out from the base case. Once a casino project is under construction, the weighted-average scenarios are no longer used and only the planned opening date is used in the valuation. The projected pre- and post-opening interest rates are based upon the one year U.S. Treasury Bill spot-yield curve per Bloomberg and the specific assumptions on contract term, stated interest rate and casino opening date. The probability applied to each project is based upon a weighting of various possible scenarios with one scenario assuming the casino never opens. The other scenarios assume the casino opens but apply different opening dates. The probability-weighting applied to each scenario is intended to effectively capture the element of risk in these projects and is based upon the status of each project, review of the critical milestones and likelihood of achieving the milestones.

Convertible note receivable

The convertible note receivable is measured at estimated fair value on a recurring basis using unobservable (Level 3) inputs that reflect management’s estimates about the assumptions that market participants would use in pricing the asset. Due to the factors described in note 4, Convertible Note Receivable at Fair Value and Development Services and Management Agreement, the convertible note receivable was written down to zero as of October 2, 2011.

Changes in the carrying value of the convertible note receivable is as follows (in thousands):

 

         

Balance, January 2, 2011

   $ —    

Advances

     4,000  

Loss on convertible note receivable

     (4,000 ) 
   

 

 

  

Balance, October 2, 2011 (unaudited)

   $ —    
   

 

 

  

 

Balances Measured at Fair Value on a Nonrecurring Basis

The following table shows the amounts of certain of the Company’s assets measured at fair value on a nonrecurring basis (in thousands):

 

                                 
    October 2, 2011  
    Balance     Level 1     Level 2     Level 3  

Assets

                                

Land held for development

   $ 1,130       —         —       $ 1,130  

Land held for sale

     3,000       —         —         3,000  

 

                                 
    January 2, 2011  
    Balance     Level 1     Level 2     Level 3  

Assets

                                

Land held for development

   $ 4,430       —         —       $ 4,430  

Land held for development and land held for sale — During July 2011, Lakes entered into a program to locate a buyer for the land located in Vicksburg, Mississippi which was previously being held for development. As a result, during the third quarter of 2011, Lakes reclassified the land as held for sale and recorded $0.3 million in estimated selling costs. As of October 2, 2011, the land is carried at $3.0 million on the accompanying consolidated balance sheet, which is its estimated fair value less expected cost to sell. As of January 2, 2011, the land was carried at its estimated fair value of $3.3 million on the accompanying consolidated balance sheet and was included in land held for development. Land held for development and land held for sale are measured on a nonrecurring basis using unobservable (Level 3) inputs that utilize the market approach technique and reflect management’s estimates about the assumptions that market participants would use in pricing the asset. Significant inputs include recent transactions of comparable properties as well as consideration of its highest and best use.

Balances Disclosed at Fair Value

The following table shows the amounts of certain of the Company’s financial instruments disclosed at fair value (in thousands):

 

                         
    October 2, 2011  
    Carrying Value,
net of Current
Portion		     Estimated Fair
Value		     Fair Value
Hierarchy		  

Assets

                        

Shingle Springs notes receivable

   $ 33,575     $ 19,749       Level 3  

Other assets related to Indian casino projects

     6,098       4,824       Level 3  
   
    January 2, 2011  
    Carrying Value,
net of Current
Portion		     Estimated Fair
Value		     Fair Value
Hierarchy		  

Assets

                        

Shingle Springs notes receivable

   $ 31,192     $ 26,565       Level 3  

Other assets related to Indian casino projects

     4,820       4,154       Level 3  

Shingle Springs notes receivable — Management estimates the fair value of the notes and interest receivable from the Shingle Springs Tribe as of October 2, 2011 to be approximately $19.7 million using a discount rate of 30.4% and a remaining estimated term of 112 months. Management estimated the fair value of the notes and interest receivable from the Shingle Springs Tribe as of January 2, 2011, to be approximately $26.6 million using a discount rate of 22.5% and a remaining estimated term of 121 months.

 

Other assets related to Indian casino projects — These assets include financial instruments related to deferred management fees and interest due from the Shingle Springs Tribe and amounts due from Mr. Kevin M. Kean (see note 7, Intangible and Other Assets Related to Indian Casino Projects). The Company estimates the fair value of other assets related to the Shingle Springs Tribe and Mr. Kean to be $4.8 million as of October 2, 2011 using a discount rate of 19.5%. Management estimated the fair value of these financial instruments related to the Shingle Springs Tribe and Mr. Kean to be $4.2 million as of January 2, 2011 using a discount rate of 18.0%.

Investment in unconsolidated investee — The fair value of the Company’s investment in unconsolidated investee was not estimated as of October 2, 2011 or January 2, 2011, as there were no events or changes in circumstances that may have a significant adverse effect on the fair value of the investment, and Lakes’ management determined that it was not practicable to estimate the fair value of the investments.

Contract acquisition costs payable — The carrying amount of the liability approximates its estimated fair value of $5.9 million and $6.5 million as of October 2, 2011 and January 2, 2011, respectively (see note 11, Contract Acquisition Costs Payable).