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Note 2 - Merger with Sartini Gaming, Inc. | 9 Months Ended
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Sep. 30, 2015
Notes to Financial Statements |
Business Combination Disclosure [Text Block] | 2. Merger with Sartini Gaming, Inc. Overview On July 31, 2015, the Company acquired Sartini Gaming through the consummation of the Merger. At the effective time of the Merger, all issued and outstanding shares of capital stock of Sartini Gaming were canceled and converted into the right to receive shares of the Company’s common stock. At the closing of the Merger, the Company issued 7,772,736 shares of its common stock to The Blake L. Sartini and Delise F. Sartini Family Trust (the “Sartini Trust”), as sole shareholder of Sartini Gaming , of which 388,637 shares are held in escrow as security for the post-closing adjustment in accordance with the agreement and plan of merger (the “Merger Agreement”), and 777,274 shares are held in escrow as security for claims for indemnifiable losses in accordance with the Merger Agreement. In addition, at the closing of the Merger, the Company issued 457,172 shares of its common stock to holders of warrants issued by a subsidiary of Sartini Gaming that elected to receive shares of the Company’s common stock in exchange for their warrants. As a result, the estimated value of the purchase consideration, based on preliminary estimates, was $75.3 million. This amount is the product of the 8,229,908 shares of the Company’s common stock issued in connection with the Merger on July 31, 2015 and the $9.15 per share closing price of the Company's common stock on July 31, 2015. The total number of shares of the Company’s common stock issued in connection with the Merger is subject to adjustment pursuant to the post-closing adjustment provisions of the Merger Agreement; see “ Post-Closing “True-Up” Adjustment ” below . Under the Merger Agreement, the number of shares of the Company’s common stock issued in connection with the Merger reflect the pre-Merger value of Sartini Gaming relative to the pre-Merger value of the Company, which pre-Merger values are calculated in accordance with formulas set forth in the Merger Agreement. To determine the number of shares of the Company’s common stock issued in connection with the Merger, the sum of the number of shares of the Company’s common stock outstanding immediately prior to the Merger and the number of shares issuable upon the exercise of outstanding in-the-money stock options are divided by the percentage of the total pre-Merger value of both companies that represents the Company’s pre-Merger value to determine the total number of fully diluted shares immediately following the Merger. The number of shares of the Company’s common stock issued in connection with the Merger is the difference between the total number of fully diluted shares immediately following the Merger and the total number of fully diluted shares immediately prior to the Merger. No fractional shares of the Company’s common stock are issued in connection with the Merger, and any fractional share is rounded to the nearest whole share. The Merger Agreement specifies the procedure for determining the pre-Merger values of Sartini Gaming and the Company. In accordance with the Merger Agreement, prior to the closing of the Merger, the Company and Sartini Gaming each delivered to the other a statement of its estimate of its pre-Merger value, which preliminary estimates were used to determine the number of shares of the Company’s common stock to be issued at the closing of the Merger. The total number of shares of the Company’s common stock issued in connection with the Merger on July 31, 2015 was based on these preliminary estimated pre-Merger values:
Pre-Merger Value of Lakes | Lakes % |  | Pre-Merger Value of Sartini Gaming | Sartini Gaming % |  | Total Post-Closing Shares (1) | Total Shares Issued in Connection with Merger (2)
$ | 135,050,464 |  |  | 63.2% |  | $ | 78,646,870 |  |  | 36.8% |  |  | 22,368,603 |  | 8,229,908
| (1) | Calculated as the number of shares of the Company’s common stock outstanding immediately after the Merger (on a fully diluted basis, including shares issuable upon the exercise of outstanding in-the-money stock options).
| (2) | Includes 457,172 shares of the Company’s common stock that were issued to certain former holders of warrants issued by a subsidiary of Sartini Gaming upon the closing of the Merger.
Post-Closing “True-Up” Adjustment The final pre-Merger values of the Company and Sartini Gaming were determined and approved during the fourth quarter of 2015, pursuant to the post-closing adjustment provisions of the Merger Agreement. As a result of this post-closing adjustment calculation, the number of shares issued in connection with the Merger will be trued up by issuing an additional 223,657 shares to the Sartini Trust during the fourth quarter of 2015, and the 388,637 shares of the Company's common stock held in escrow as security for the post-closing adjustment will be released to the Sartini Trust . The effect of the issuance of these additional shares on the purchase price consideration calculation will be an increase of $2.1 million to $77.4 million. This amount is the product of the 8,453,565 total shares of the Company’s common stock issued in connection with the Merger on July 31, 2015 and issuable pursuant to the post-closing “true-up” adjustment and the $9.15 per share closing price of the Company's common stock on July 31, 2015. The Company will account for the issuance of the additional 223,657 shares, and the adjustment of the purchase price consideration, during the fourth quarter of 2015 when the additional shares are issued. The total number of shares of the Company’s common stock issued in connection with the Merger, after giving effect to the additional 223,657 shares of common stock issuable pursuant to the post-closing true-up adjustment based on the final pre-Merger values, is as follows:
Pre-Merger Value of Lakes | Lakes % | Pre-Merger Value of Sartini Gaming | Sartini Gaming % | Total Post-Closing Shares (1) | Total Shares Issued in Connection with Merger (2)
$ | 134,615,083 |  |  | 62.6% | $ | 80,523,753 |  |  | 37.4% |  | 22,592,260 |  | 8,453,565
| (1) | Calculated as the number of shares of the Company’s common stock outstanding immediately after the issuance of the 223,657 additional shares related to the post-closing true-up adjustment (on a fully diluted basis, including shares issuable upon the exercise of outstanding in-the-money stock options).
| (2) | Includes 457,172 shares of the Company’s common stock that were issued to certain former holders of warrants issued by a subsidiary of Sartini Gaming upon the closing of the Merger.
Merger Accounting The Merger has been accounted for under the purchase method of accounting in accordance with ASC Topic 805, Business Combinations . Under the purchase method, the total estimated purchase price, or consideration transferred, is measured at the Merger closing date. The purchase price of the acquisition was allocated to the tangible and intangible assets acquired and liabilities assumed based on their estimated fair values at the acquisition date. The excess of the purchase price over the fair values was recorded as goodwill. None of the goodwill recognized is expected to be deductible for income tax purposes. During the measurement period, which may be up to one year from the acquisition date, the Company may record adjustments to the assets acquired and liabilities assumed with a corresponding offset to goodwill and will allocate goodwill to each of the business segments at the conclusion of the measurement period. As described above, the Merger consideration issued by the Company at the closing of the Merger was based on preliminary estimates of the pre-Merger values of the Company and Sartini Gaming, which were subject to post-closing adjustment under the Merger Agreement. The allocation of the $75.3 million purchase price, as estimated as of the Merger closing date of July 31, 2015 (see “ Post-Closing “True-Up” Adjustment ” above), set forth below was based upon a preliminary valuation and the Company’s estimates and assumptions are subject to change within the purchase price allocation measurement period. In addition, actual results may differ from the financial information presented once the Company has finalized the valuations that support the provisional purchase price allocation. Such finalization could result in changes to the financial information . The primary areas of the purchase price allocation that are not yet finalized relate to property values, the valuation of intangible assets acquired and residual goodwill attributable to the distributed gaming and casino businesses acquired . The preliminary allocation of the purchase price to the assets acquired and liabilities assumed is as follows (unaudited, in thousands):
|  | Amount |
Cash |  | $ | 25,539 |
Other current assets |  |  | 16,534 |
Property and equipment |  |  | 84,104 |
Intangible assets |  |  | 80,700 |
Goodwill |  |  | 90,639 |
Current liabilities |  |  | (13,245 | )
Warrant liability |  |  | (3,435 | )
Debt |  |  | (190,587 | )
Deferred tax liability |  |  | (12,728 | )
Other long-term liabilities |  |  | (2,217 | )
Total assumed purchase price |  | $ | 75,304 |
The preliminary amounts assigned to property and equipment by category are summarized in the table below (unaudited, in thousands):
|  | Remaining Useful Life (Years) |  |  | Amount Assigned |
Land |  | Not applicable |  |  | $ | 12,470 |
Land improvements |  |  | 10 |  |  |  | 4,030 |
Building and improvements |  |  | 25 |  |  |  | 21,310 |
Leasehold improvements |  |  | 4 |  |  |  | 20,793 |
Furniture, fixtures and equipment |  |  | 1 |  |  |  | 22,866 |
Construction in process |  | Not applicable |  |  |  | 2,635 |
Total property and equipment |  |  |  |  |  | $ | 84,104 |
The preliminary amounts assigned to intangible assets by category are summarized in the table below (unaudited, in thousands):
|  | Remaining Useful Life (Years) |  |  | Amount Assigned |
Trade names |  | 10 |  |  | $ | 12,200 |
Player relationships |  | 8 | - | 14 |  |  |  | 7,600 |
Customer relationships |  | 13 | - | 16 |  |  |  | 59,200 |
Gaming licenses |  | Indefinite |  |  |  | 900 |
Other intangible assets |  | 2 | - | 10 |  |  |  | 800 |
Total intangible assets |  |  |  |  |  |  | $ | 80,700 |
Trade names Sartini Gaming’s trade names encompass the various trade names utilized by the three casinos located in Pahrump, Nevada: Pahrump Nugget Hotel Casino, Gold Town Casino and Lakeside Casino & RV Park. Additionally, Sartini Gaming’s taverns utilize various trade names to market and create brand identity for their services and for marketing purposes, including: PT’s Pub, PT’s Gold, Sierra Gold and Sean Patrick’s . Player relationships Player relationships comprise relationships with players in Sartini Gaming’s tavern operations and with players in Sartini Gaming’s casinos. Sartini Gaming’s tavern operations have developed relationships with players since beginning operations in the greater Las Vegas metropolitan area and are based on the perceived value that tavern customers obtain from being entertained at Sartini Gaming’s taverns. Tavern player relationships represent loyalty program members who earn points based on play, which points are redeemable for food and beverages, among other items. Furthermore, tavern player relationships are expected to lead to recurring revenue streams, as well as new revenue opportunities arising from the taverns’ reputations . Sartini Gaming’s casinos in Pahrump, Nevada have developed relationships with players since beginning operations and are based on the perceived value that casino customers obtain from being entertained at Sartini Gaming’s casino properties. Casino player relationships represent loyalty program members who earn points based on play, which points are redeemable for food , beverages and hotel rooms, among other items. Furthermore, casino player relationships are expected to lead to recurring revenue streams, as well as new revenue opportunities arising from the Pahrump casinos’ reputations . Customer relationships Sartini Gaming’s relationships with distributed gaming customers have been developed over years of service and are based on the perceived value that Sartini Gaming’s customers obtain from doing business with Sartini Gaming. These relationships are expected to lead to recurring revenue streams, as well as new revenue opportunities arising from Sartini Gaming’s reputation. The economic life of the customer relationships is estimated to be 13 to 16 years, depending on the customer, and is based on the distribution of the present value of cash flows attributable to the asset. Gaming l icense s Each of Sartini Gaming’s three Pahrump, Nevada casinos maintain gaming licenses that allow them to operate in their current capacity. Other intangible assets Other intangible assets include Sartini Gaming’s software and non-compete agreements . The software utilized in Sartini Gaming’s distributed gaming operations is an internally-developed tool for accounting and marketing purposes, which is integrated into Sartini Gaming’s slot machines. The economic life of this software is estimated to be 10 years based on the expected utilization of the software in its current form. In conjunction with the Merger Agreement, key employees executed non-competition agreements. The economic life of these non-compete agreements is estimated to be two years based on the contractual term of the agreements. The estimated future amortization expense related to the finite-lived intangible assets acquired for the remainder of 2015, next five years and thereafter is as follows:
|  | Remainder of 2015 |  | 2016 |  |  | 2017 |  |  | 2018 |  |  | 2019 |  |  | 2020 |  |  | Thereafter |
|  | (In thousands) |
Estimated amortization expense |  | $ | 1,569 |  | $ | 6,274 |  |  | $ | 6,212 |  |  | $ | 6,124 |  |  | $ | 6,124 |  |  | $ | 6,124 |  |  | $ | 46,327 |
See Note 13, Financial Instruments and Fair Value Measurements , for further discussion regarding the valuation of the acquired tangible and intangible assets. Credit Agreement In connection with the Merger, the Company entered into a Credit Agreement with the lenders named therein and Capital One, National Association (as administrative agent) for a $120.0 million senior secured term loan and a $40.0 million revolving credit facility to refinance the outstanding senior secured indebtedness of Sartini Gaming and the Company’s financing facility with Centennial Bank (the “Rocky Gap Financing Facility”). See Note 8, Debt , for a discussion of the Credit Agreement and associated refinancing. Unaudited Financial I nformation The consolidated financial position of Sartini Gaming is included in the Company’s unaudited consolidated balance sheet as of September 30, 2015 and Sartini Gaming’s consolidated results of operations for the period from August 1, 2015 through September 30, 2015 are included in the Company’s unaudited consolidated statements of operations and cash flows for the three and nine months ended September 30, 2015. From August 1, 2015 through September 30, 2015, the Company recorded $45.5 million in net revenues and $2.3 million in net income from the operations of Sartini Gaming’s distributed gaming and casino businesses. Total assets related to Sartini Gaming were approximately $295.6 million as of September 30, 2015, which consisted primarily of property and equipment and intangible assets. Unaudited Pro Forma Combined Financial Information The following unaudited pro forma combined financial information for the three and nine months ended September 30, 2015 and September 28, 2014 are presented as if the Merger had occurred at the beginning of each period presented:
|  | Three Months Ended |  |  | Nine Months Ended |
|  | September 30, |  |  | September 28, |  |  | September 30, |  |  | September 28, |
|  | 2015 |  |  | 2014 |  |  | 2015 |  |  | 2014 |
|  | (In thousands, except per share data) |
Pro forma combined net revenues |  | $ | 86,222 |  |  | $ | 83,332 |  |  | $ | 259,002 |  |  | $ | 251,842 |
Pro forma combined net income (loss) |  |  | 8,651 |  |  |  | (28,884 | ) |  |  | 3,306 |  |  |  | (35,085 | )
Pro forma combined net income (loss) per share: |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |
Basic |  | $ | 0.40 |  |  | $ | (1.34 | ) |  | $ | 0.15 |  |  | $ | (1.62 | )
Diluted |  | $ | 0.40 |  |  | $ | (1.34 | ) |  | $ | 0.15 |  |  | $ | (1.62 | )
Weighted average common shares outstanding: |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |
Basic |  |  | 21,622 |  |  |  | 21,619 |  |  |  | 21,622 |  |  |  | 21,606 |
Diluted |  |  | 21,622 |  |  |  | 21,619 |  |  |  | 21,622 |  |  |  | 21,606 |
This unaudited pro forma combined financial information has been prepared for illustrative purposes only and is not necessarily indicative of or intended to represent the results that would have been achieved had the Merger been consummated as of the dates indicated or that may be achieved in the future. The unaudited pro forma combined financial information does not reflect any operating efficiencies and associated cost savings that may be achieved as a result of the Merger. The following adjustments have been made to the pro forma combined net income (loss) and pro forma combined net income (loss) per share in the table above:
| ● | includes additional depreciation expense of property, plant and equipment, and additional amortization expense of intangible assets acquired in the Merger based on their estimated fair values and estimated useful lives;
| ● | reflects the impact of issuance of 8,229,908 shares on July 31, 2015 in connection with the Merger based on the parties’ preliminary estimated pre-Merger values;
| ● | reflects $9.3 million and $10.6 million of Merger-related costs for the three and nine months ended September 30, 2015, respectively. No Merger-related cost adjustments were made for each of the three and nine months ended September 28, 2014;
| ● | reflects the elimination of the warrants issued by a subsidiary of Sartini Gaming, which were purchased for $3.4 million in cash and for 457,172 shares of the Company’s common stock (equivalent to $4.4 million based on the Merger per share price); and
| ● | reflects the elimination of $12.7 million of tax benefit during the three and nine months ended September 30, 2015, related to the assumption of a net deferred tax liability generated from the intangible assets acquired in the Merger.

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