10-Q 1 a10-qx2016xq2.htm 10-Q Document


 
UNITED STATES SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549  
 
FORM 10-Q

Quarterly Report Pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934
For the quarterly period ended June 30, 2016
Commission File Number 000-54085  
 
Affinity Gaming
 
 
Nevada
 
02-0815199
 
 
State of Incorporation
 
IRS Employer Identification Number
 
3755 Breakthrough Way, Suite 300
Las Vegas, Nevada 89135
(Address, including zip code, of principal executive offices)
702-341-2400
(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  þ    No  ¨

Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files).    Yes  þ    No  ¨

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer or a smaller reporting company. See the definitions of “large accelerated filer,” “accelerated filer” and “smaller reporting company” in Rule 12b-2 of the Exchange Act.
Large accelerated filer
o
 
Accelerated filer
o
Non-accelerated filer
þ
 
Smaller reporting company
o

Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act).    Yes  ¨    No  þ

Indicate by check mark whether the registrant has filed all documents and reports required to be filed by Section 12, 13 or 15(d) of the Securities Exchange Act of 1934 subsequent to the distribution of securities under a plan confirmed by a court.    Yes  þ    No  ¨

No established public trading market for our common stock currently exists. As of August 8, 2016, there were 20,462,329 shares of the registrant's common stock outstanding.




 



TABLE OF CONTENTS






CAUTIONARY STATEMENT REGARDING FORWARD-LOOKING STATEMENTS

This report contains forward-looking statements within the meaning of the U.S. federal securities laws.  You can identify forward-looking statements by words such as “anticipates,” “intends,” “plans,” “seeks,” “believes,” “estimates,” “expects,” “projects,” “may,” “will” or “should,” or the negative or other variation of these or similar words, or by discussions of strategy or risks and uncertainties, and similar references to future periods. Examples of forward-looking statements include, but are not limited to, statements we make regarding:

the Z Capital proposal and the Special Committee of the Board of Directors;
our expectations regarding the effects of our promotional campaigns and marketing programs on driving revenue, reducing costs and improving operating margins;
estimated and projected costs, capital expenditures and expense savings;
the adequacy of cash flows from operations, available cash and available amounts under our credit facility to meet future liquidity needs; and
our continued viability, our operations and results of operations.

We base these and other forward-looking statements on our current expectations and assumptions regarding our business, the economy and other future conditions; however, our actual results may differ materially from those contemplated by the forward-looking statements.  We caution you, therefore, that you should not rely on any of these forward-looking statements as statements of historical fact or as guarantees or assurances of future performance.  Forward-looking statements, which by their nature relate to the future, are subject to inherent uncertainties, risks and changes in circumstances which we cannot easily predict. Important factors that could cause actual results to differ materially and adversely from those in the forward-looking statements include regional, national or global political, economic, business, competitive, market and regulatory conditions, as well as the following:

our debt service requirements, which may adversely affect our operations and ability to compete;
our ability to generate cash to service our substantial indebtedness, which depends on many factors that we cannot control;
the impact of restrictions under, and results of noncompliance with, the terms of our credit agreement and notes indenture;
intense competition;
extensive regulation from gaming and other government authorities;
changes to applicable gaming and tax laws;
severe weather conditions and other natural disasters that affect visitation to our casinos;
environmental contamination and remediation costs;
pending and potential litigation;
reductions in spending as a result of economic downturns and other factors;
changes in income tax, payroll tax and health care benefits laws;
additional gaming licenses being granted in or adjacent to jurisdictions where we operate;
breaches of our information systems resulting in loss or compromise of customer data;
changes in the smoking laws; and
other factors as described in “Part I. Item 1A. — Risk Factors” of our Annual Report on Form 10-K for the year ended December 31, 2015, filed with the SEC on March 23, 2016 (“2015 Form 10-K”).

Any forward-looking statement made by us in this report speaks only as of the date of this report.  Factors or events that could cause our actual results to differ may emerge from time to time, and it is not possible for us to predict all of them.  We undertake no obligation to publicly update any forward-looking statement, whether as a result of new information, future developments or otherwise.




PART I - FINANCIAL INFORMATION

ITEM 1.
FINANCIAL STATEMENTS





AFFINITY GAMING
Condensed Consolidated Balance Sheets
(in thousands)


 
June 30,
2016
 
December 31, 2015
 
(Unaudited)
 
 
ASSETS
 
 
 
Cash and cash equivalents
$
74,678

 
$
157,779

Restricted cash
95,553

 
608

Accounts receivable, net of reserve of $117 and $147, respectively
2,603

 
3,217

Income tax receivable
24

 
16

Prepaid expense
8,682

 
10,079

Inventory
2,832

 
2,798

Total current assets
184,372

 
174,497

Property and equipment, net
245,153

 
251,908

Other assets, net
3,971

 
3,530

Intangibles, net
122,791

 
124,042

Goodwill
48,287

 
48,287

Total assets
$
604,574

 
$
602,264

LIABILITIES AND OWNERS’ EQUITY
 
 
 
Accounts payable
$
9,391

 
$
13,220

Accrued interest
2,365

 
2,327

Accrued expense
22,082

 
24,158

Current maturities of long-term debt

 
11,383

Other current liabilities
8

 
23

Total current liabilities
33,846

 
51,111

Long-term debt, less current portion
374,261

 
364,204

Other liabilities
1,984

 
1,932

Deferred income taxes
18,764

 
14,758

Total liabilities
428,855

 
432,005

 
 
 
 
Commitments and contingencies (Note 11)


 


 
 
 
 
Preferred stock, $0.001 par value, 10,000,000 shares authorized, none issued or outstanding

 

Common stock, $0.001 par value; 200,000,000 shares authorized; 20,462,329 and 20,377,247 shares issued and outstanding for 2016 and 2015, respectively
20

 
20

Additional paid-in-capital
208,805

 
208,239

Accumulated deficit
(33,106
)
 
(38,000
)
Total owners’ equity
175,719

 
170,259

Total liabilities and owners’ equity
$
604,574

 
$
602,264

See notes to condensed consolidated financial statements


AFFINITY GAMING
Unaudited Condensed Consolidated Statements of Operations
(in thousands)

 
Quarter Ended June 30,
 
Six Months Ended June 30,
 
2016
 
2015
 
2016
 
2015
REVENUE
 
 
 
 
 
 
 
Casino
$
69,448

 
$
75,505

 
$
141,331

 
$
150,602

Food and beverage
10,384

 
12,082

 
21,208

 
24,043

Lodging
6,031

 
7,190

 
12,429

 
14,222

Fuel and retail
13,390

 
15,676

 
25,530

 
28,252

Other
3,608

 
3,268

 
6,922

 
6,163

Total revenue
102,861

 
113,721

 
207,420

 
223,282

Promotional allowances
(8,203
)
 
(12,210
)
 
(17,012
)
 
(24,793
)
Net revenue
94,658

 
101,511

 
190,408

 
198,489

EXPENSE
 
 
 
 
 
 
 
Casino
26,181

 
29,956

 
53,562

 
59,690

Food and beverage
10,378

 
11,800

 
21,170

 
23,627

Lodging
4,205

 
4,197

 
8,553

 
8,106

Fuel and retail
9,106

 
11,675

 
17,403

 
20,939

Other
1,956

 
1,838

 
3,463

 
3,368

General and administrative
18,850

 
19,601

 
37,563

 
38,318

Depreciation and amortization
7,312

 
7,205

 
14,696

 
14,368

Corporate
4,932

 
5,358

 
9,816

 
9,295

Write downs, reserves and recoveries
(91
)
 
(204
)
 
(39
)
 
(69
)
Total expense
82,829

 
91,426

 
166,187

 
177,642

Operating income
11,829

 
10,085

 
24,221

 
20,847

Other expense
 
 
 
 
 
 
 
Interest expense, net
(7,656
)
 
(7,653
)
 
(15,321
)
 
(15,258
)
Total other expense, net
(7,656
)
 
(7,653
)
 
(15,321
)
 
(15,258
)
Income before income tax
4,173

 
2,432

 
8,900

 
5,589

Provision for income taxes
(2,390
)
 
(1,635
)
 
(4,006
)
 
(5,032
)
Net income
$
1,783

 
$
797

 
$
4,894

 
$
557

 
 
 
 
 
 
 
 
See notes to condensed consolidated financial statements


AFFINITY GAMING
Unaudited Condensed Consolidated Statements of Cash Flows
(in thousands)

 
Six Months Ended June 30,
 
2016
 
2015
Cash flows from operating activities:
 
 
 
Net income
$
4,894

 
$
557

Adjustments to reconcile net income to net cash provided by operating activities:
 
 
 
Depreciation and amortization
14,696

 
14,368

Amortization of debt costs and discounts
1,587

 
1,459

Loss (gain) on sale of property and equipment
9

 
(1
)
Share-based compensation
700

 
667

Deferred income taxes
4,006

 
5,001

Changes in operating assets and liabilities:
 
 
 
Accounts receivable, net
614

 
506

Prepaid expense
1,397

 
1,484

Inventory
(34
)
 
(75
)
Other assets
114

 
100

Accounts payable
(1,967
)
 
836

Accrued interest
38

 
(26
)
Accrued expense
(2,076
)
 
(511
)
Income tax receivable
(8
)
 
116

Other liabilities
(27
)
 
(20
)
Net cash provided by operating activities
23,943

 
24,461

Cash flows from investing activities:
 
 
 
Proceeds from sale of property and equipment
18

 
8

Purchases of property and equipment
(8,601
)
 
(6,718
)
Net cash used in investing activities
(8,583
)
 
(6,710
)
Cash flows from financing activities:
 
 
 
Restricted cash
(94,945
)
 

Payment on capital lease
(15
)
 
(16
)
Payment on long-term debt
(2,913
)
 

Loan origination fees
(515
)
 

Repurchases of vested share-based awards
(73
)
 
(47
)
Net cash used in financing activities
(98,461
)
 
(63
)
Net (decrease) increase in cash and cash equivalents
(83,101
)
 
17,688

Cash and cash equivalents:
 
 
 
Beginning of period
157,779

 
135,175

End of period
$
74,678

 
$
152,863

 
 
 
 
Supplemental cash flow information:
 
 
 
Cash paid during the period for interest
$
13,851

 
$
13,916

Supplemental schedule of non-cash investing and financing activities:
 
 
 
Purchase of property and equipment financed through accounts payable
$
706

 
$
402

Non-cash loan origination fees
6

 

See notes to condensed consolidated financial statements.



AFFINITY GAMING
Notes to Unaudited Condensed Consolidated Financial Statements




NOTE 1. ORGANIZATION, CONSOLIDATION AND PRESENTATION OF FINANCIAL STATEMENTS

Organization and Business

Affinity Gaming (together with its subsidiaries, “Affinity” or “we”) is a Nevada corporation, headquartered in Las Vegas, which owns and operates 11 casinos, five of which are located in Nevada, three in Colorado, two in Missouri and one in Iowa. We also provided consulting services to Hotspur Casinos Nevada, Inc. (“Hotspur”), the operator of the Rampart Casino at the JW Marriott Resort in Las Vegas until the expiration of the related consulting agreement on April 1, 2015. Hotspur previously paid us a fixed annual fee in monthly installments.

Consolidation

We include all of our subsidiaries in our consolidated financial statements, eliminating all intercompany balances and transactions during consolidation.

Basis of Presentation

We prepare our consolidated financial statements in conformity with U.S. generally accepted accounting principles (“GAAP”). While preparing our financial statements, we make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosures of contingent assets and liabilities at the date of the financial statements, as well as reported amounts of revenue and expense during the reporting period. Accordingly, actual results could differ from those estimates. Reported amounts that require us to make extensive use of estimates include the fair values of assets and liabilities related to depreciation and amortization, the estimates used when computing share-based compensation expense, the estimated allowance for doubtful accounts receivable and the estimated cash flows we use in assessing the recoverability of long-lived assets, as well as the estimated fair values of certain assets related to write downs and impairments, contingencies and litigation, and claims and assessments.

We prepared the accompanying unaudited Condensed Consolidated Balance Sheet as of June 30, 2016, with the audited Consolidated Balance Sheet amounts as of December 31, 2015 presented for comparative purposes, and the related unaudited Condensed Consolidated Statements of Operations and Statements of Cash Flows in accordance with the instructions for Form 10-Q and Article 10 of Regulation S-X. In compliance with those instructions, we have omitted certain information and footnote disclosures normally included in annual consolidated financial statements prepared in accordance with GAAP, though management believes the disclosures made herein are sufficient to ensure that the information presented is not misleading.

Our results of operations and our cash flows as of the end of the interim periods reported herein do not necessarily indicate the results we may experience for the remainder of the year or for any other future period.

Management believes our unaudited condensed consolidated interim financial statements include all the normal recurring adjustments necessary to fairly present our unaudited Condensed Consolidated Balance Sheet as of June 30, 2016, our unaudited Condensed Consolidated Statements of Operations and our unaudited Condensed Consolidated Statements of Cash Flows for all periods presented. You should read our unaudited condensed consolidated interim financial statements and footnotes in conjunction with our consolidated financial statements and footnotes included within our 2015 Form 10-K.

NOTE 2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES

We have made no material changes to our significant accounting policies as reported in our 2015 Form 10-K.

Recently Issued Accounting Pronouncements

In February 2016, the Financial Accounting Standards Board (“FASB”) issued Accounting Standards Update (“ASU”) 2016-02, Leases, that changes the accounting for leases and requires expanded disclosures about leasing activities. Under the new guidance, lessees will be required to recognize a right-of-use asset and a lease liability, measured on a discounted basis, at the commencement date for all leases with terms greater than twelve months. Lessor accounting will remain largely unchanged,



AFFINITY GAMING
Notes to Unaudited Condensed Consolidated Financial Statements



other than certain targeted improvements intended to align lessor accounting with the lessee accounting model and with the updated revenue recognition guidance issued in 2014. Lessees and lessors are required to apply a modified retrospective transition approach for leases existing at the beginning of the earliest comparative period presented in the adoption-period financial statements. Any leases that expire before the initial application date will not require any accounting adjustment. ASU 2016-02 is effective for annual and interim reporting periods beginning after December 15, 2018, and early application is permitted. We are currently evaluating the impact this guidance will have on its financial condition, results of operations, cash flows or the reporting thereof.

In May 2014, the FASB issued ASU 2014-09, Revenue from Contracts with Customers (Topic 606). The amendments in ASU 2014-09 stipulate that an entity should recognize revenue in an amount which reflects the consideration to which the entity expects to be entitled in exchange for transferring goods or services to customers, and they provide a five-step process to assist entities with achieving that core principle. The ASU also specifies the accounting for some costs to obtain or fulfill a contract with a customer. With regard to disclosures, ASU 2014-09 states that entities should disclose sufficient information to enable users of financial statements to understand the nature, amount, timing, and uncertainty of revenue and cash flows arising from contracts with customers, and it requires qualitative and quantitative disclosures concerning contracts with customers, significant judgments and changes therein, and assets recognized from the costs incurred to obtain or fulfill a contract. The amendments in ASU 2014-09, have been deferred for one year and are effective for annual reporting periods beginning after December 15, 2017, including interim periods therein, and they permit either retrospective application to all prior periods or retrospective application with the cumulative effect of application recognized on the initial application date. Early adoption is permitted for annual and interim periods beginning after December 31, 2016. We are currently evaluating the impact this guidance will have on its financial condition, results of operations, cash flows or the reporting thereof.

We have reviewed all other recently issued accounting pronouncements and, other than those we have disclosed above or in previous filings with the SEC, we do not believe any of such pronouncements will have a material effect on our operations.

Reclassifications

The unaudited condensed consolidated financial statements and related notes reflect certain reclassifications to prior year amounts in order to conform with current year presentation. The reclassifications have no effect on previously reported net income.

In November 2015, the FASB issued an accounting standards update which changes the presentation of deferred taxes in classified balance sheets. The new guidance requires classification of all deferred tax assets and liabilities as well as applicable valuation allowances as non-current. The effective date for this guidance is for financial statements issued for annual and interim periods beginning after December 15, 2016. Early application is permitted. The guidance may be applied either prospectively to all deferred tax liabilities and assets or retrospectively to all periods presented. We have applied the guidance in the accompanying condensed consolidated financial statements with retrospective application for the Consolidated Balance Sheet at December 31, 2015. The effect of the accounting change in the prior year resulted in current deferred income taxes of $1.7 million, previously presented separately in current liabilities, to be added to $13.1 million in long-term deferred income taxes, for a revised $14.8 million in long-term deferred income taxes at December 31, 2015.

NOTE 3. RESTRICTED CASH

Restricted cash balances at June 30, 2016 and December 31, 2015 include cash or certificates of deposit required for gaming activity in certain jurisdictions in which we operate, and for self-insured retention obligations under some of our workers compensation insurance policies. In addition, restricted cash includes $94.9 million held at June 30, 2016 in contemplation of the refinancing of our outstanding debt, which was completed on July 1, 2016.




AFFINITY GAMING
Notes to Unaudited Condensed Consolidated Financial Statements



NOTE 4. PROPERTY AND EQUIPMENT, NET
Property and equipment, net consist of the following (in thousands, except estimated lives):
 
Estimated Life
(Years)
 
June 30,
2016
 
December 31, 2015
Building and improvements
7 - 40
 
$
187,106

 
$
185,875

Gaming equipment
3 - 10
 
78,671

 
75,527

Furniture, fixtures, and equipment
3 - 10
 
51,475

 
49,571

Leasehold improvements
7
 
196

 
196

Land
 
39,513

 
39,513

Barge
30
 
15,019

 
15,019

Construction-in-progress
 
 
3,027

 
3,185

Total property and equipment
 
 
375,007

 
368,886

Less accumulated depreciation
 
 
(129,854
)
 
(116,978
)
Total property and equipment, net
 
 
$
245,153

 
$
251,908


NOTE 5. GOODWILL AND OTHER INTANGIBLE ASSETS

We determine the fair value of the indefinite-lived intangible assets other than goodwill using the discounted cash flow method, a form of the income approach.  In determining the fair values, we make significant assumptions relating to variables based on past experiences and judgments about future performance.  These variables include, but are not limited to: (1) the forecast earnings growth rate of each market, (2) risk-adjusted discount rate, and (3) expected growth rates in perpetuity to estimated terminal values.
 
The following table summarizes intangible assets by category (in thousands):
 
June 30, 2016
 
December 31, 2015
 
Gross Amount
 
Accumulated
Amortization
 
Net Amount
 
Gross Amount
 
Accumulated
Amortization
 
Net Amount
Finite-lived intangible assets
 
 
 
 
 
 
 
 
 
 
 
Customer loyalty programs
$
12,164

 
$
(9,583
)
 
$
2,581

 
$
12,164

 
$
(8,583
)
 
$
3,581

Trademarks
2,982

 
(2,649
)
 
333

 
2,982

 
(2,398
)
 
584

 
15,146

 
$
(12,232
)
 
2,914

 
15,146

 
$
(10,981
)
 
4,165

Indefinite-lived intangible assets
 
 
 
 
 
 
 
 
 
 
 
Gaming license rights
110,646

 
 
 
110,646

 
110,646

 

 
110,646

Local tradenames
9,231

 
 
 
9,231

 
9,231

 

 
9,231

 
119,877

 

 
119,877

 
119,877

 

 
119,877

Total intangible assets
$
135,023

 

 
$
122,791

 
$
135,023

 

 
$
124,042





AFFINITY GAMING
Notes to Unaudited Condensed Consolidated Financial Statements



The following table summarizes the changes in goodwill by reportable segment during the six months ended June 30, 2016:
 
Nevada
 
Midwest
 
Total
Balance at December 31, 2015
$
33,665

 
$
14,622

 
$
48,287

Impairment of goodwill

 

 

Balance at June 30, 2016
$
33,665

 
$
14,622

 
$
48,287


We amortize definite-lived intangible assets ratably over their expected lives which, for customer loyalty programs, approximate seven years and, for trademarks, approximate 3.75 years. Overall, we are amortizing definite-lived intangible assets over a weighted-average expected life of approximately 6.5 years.

We obtain gaming license rights when we acquire gaming entities that operate in gaming jurisdictions where competition is limited, such as states where the law only allows a certain number of operators.  We do not currently amortize gaming license rights and local tradenames because we have determined they have an indefinite useful life.

NOTE 6. OTHER ASSETS, NET

Other assets, net consist of the following (in thousands):
 
June 30,
2016
 
December 31, 2015
Long-term deposits
$
2,924

 
$
2,919

Other assets
1,047

 
611

Total
$
3,971

 
$
3,530

 
 
 
 

NOTE 7. ACCRUED EXPENSE

Accrued expense consists of the following (in thousands):
 
June 30,
2016
 
December 31, 2015
Progressive jackpot liabilities
$
3,093

 
$
2,984

Accrued payroll and related
7,198

 
7,441

Slot club point liability
2,993

 
3,213

Litigation reserve
3,100

 
3,100

Other accrued expense
5,698

 
7,420

Total
$
22,082

 
$
24,158





AFFINITY GAMING
Notes to Unaudited Condensed Consolidated Financial Statements



NOTE 8. LONG-TERM DEBT

The following table presents long-term debt balances (in thousands):
 
June 30,
2016
 
December 31, 2015
9% Senior Unsecured Notes due 2018
$
200,000

 
$
200,000

Unamortized debt issuance cost, net
(2,448
)
 
(3,028
)
Unamortized discount
(684
)
 
(847
)
9% Senior Unsecured Notes due 2018, net
196,868

 
196,125

Term loan due 2017
179,832

 
182,745

Unamortized debt issuance cost, net
(2,439
)
 
(3,283
)
Term loan due 2017, net
177,393

 
179,462

Total debt, including current maturities
374,261

 
375,587

Less: current maturities of long-term debt

 
(11,383
)
Total long-term debt
$
374,261

 
$
364,204

 
 
 
 

The current maturities of long-term debt at December 31, 2015, includes the mandatory excess cash flow payment as calculated for the year ended December 31, 2015 on the 2012 Term Loan (defined below). The actual payment required by the lenders was $2.9 million, which was paid in April 2016.

On May 9, 2012, we issued $200.0 million of 9.00% senior unsecured notes due 2018 (the “2018 Notes”), and entered into a Credit Agreement, dated May 9, 2012 (the “2012 Credit Agreement”), which provided for a $200.0 million term loan (the “2012 Term Loan”) due in 2017, the entirety of which the lenders disbursed to us on the closing date of the 2012 Credit Agreement, and a $35.0 million revolving credit facility (the “2012 Revolving Credit Facility” and, together with the 2012 Term Loan, the “2012 Credit Facility”) which remained undrawn as of June 30, 2016. Proceeds from the 2012 Term Loan and the 2018 Notes were used to repay debt then outstanding.

On July 22, 2014, we completed the second amendment to the 2012 Credit Agreement (the “Second Amended Credit Agreement”) governing our 2012 Credit Facility. We incur and pay interest on the 2012 Term Loan under the Second Amended Credit Agreement at an uncommitted floating rate of LIBOR plus 4.00%, subject to a LIBOR floor of 1.25%. The Second Amended Credit Agreement also requires us to pay commitment fees related to the Revolving Credit Facility equal to an annualized rate of 0.50% on undrawn amounts when the Total Net Leverage Ratio is greater than 3.50 to 1.00, or equal to an annualized rate of 0.375% on undrawn amounts when the Total Net Leverage Ratio is less than or equal to 3.50 to 1.00. The 2012 Credit Facility provides an accordion feature which allows us to seek additional borrowings of up to $80.0 million subject to certain customary terms and conditions, including pro forma compliance with a maximum leverage ratio, as defined in the Second Amended Credit Agreement.

Unamortized debt issuance cost, which we are amortizing over the life of the 2018 Notes and the 2012 Term Loan, totaled $4.9 million at June 30, 2016. In April 2015, the FASB issued guidance that debt issuance costs should be presented in the balance sheet as a direct deduction from the related debt liability rather than as an asset. Under the new guidance, effective for annual and interim periods beginning after December 15, 2015, we have reclassified $1.5 million in unamortized debt issuance costs previously presented in other assets to be deducted from the long-term debt balances at December 31, 2015.

The Second Amended Credit Agreement contains customary covenants including, but not limited to, a maximum total net leverage ratio, a maximum secured leverage ratio, a minimum interest coverage ratio and maximum total annual capital expenditures. Additionally, the 2012 Term Loan is subject to mandatory annual prepayments based on generation of excess cash flow (as defined), equal to 50% of excess cash flow when the Total Net Leverage Ratio is greater than 4.00 to 1.00, equal to 25% of excess cash flow when the Total Net Leverage Ratio is greater than 3.00 to 1.00, but less than or equal to 4.00 to 1.00,



AFFINITY GAMING
Notes to Unaudited Condensed Consolidated Financial Statements



and equal to zero when the Total Net Leverage Ratio is less than or equal to 3.00 to 1.00. At June 30, 2016, the First Lien Senior Secured Net Leverage Ratio was 1.95 to 1.00, and the Interest Expense Coverage Ratio was 2.57 to 1.00. As of June 30, 2016, we remained in compliance with all debt covenants.

We issued the 2018 Notes pursuant to an indenture dated May 9, 2012 (“2018 Notes Indenture”). Under the 2018 Notes Indenture, the Issuers are entitled to redeem all or a portion of the 2018 Notes upon providing not less than 30 nor more than 60 days’ notice, at the redemption prices (expressed as a percentage of principal amount on the redemption date), plus accrued and unpaid interest, if any, to the applicable redemption date (subject to the right of holders of record on the relevant record date to receive interest due on the relevant interest payment date), if redeemed during the 12-month period commencing on May 15 of the years set forth in the table below.
Year
 
Percentage
2015
 
104.50
%
2016
 
102.25
%
2017 and thereafter
 
100.00
%

We based the estimated fair value of the 2018 Notes and the 2012 Credit Facility on Level 2 inputs using quoted prices in inactive markets and observable market data for similar, but not identical, instruments. The following table presents the carrying values and estimated fair values of our long-term debt at June 30, 2016 (in thousands):
 
Carrying Value
 
Estimated Fair
Value
9% Senior Unsecured Notes due 2018
$
196,868

 
$
201,298

Term loan due 2017
177,393

 
177,180

Total
$
374,261

 
$
378,478


Subsequent to the quarter end, on July 1, 2016, we entered into a Credit Agreement (the “2016 Credit Agreement”) which provides for a $300.0 million term loan facility (the “2016 Term Loan”) and a $75 million revolving credit facility (the “2016 Revolving Credit Facility” and, together with the 2016 Term Loan, the “2016 Credit Facility”), which remained undrawn on the closing date of the 2016 Credit Agreement. The 2016 Term Loan will be payable in quarterly installments, commencing on September 30, 2016, in an amount equal to 0.25% of the 2016 Term Loan until the maturity date, July 1, 2023, upon which date the remaining balance will come due. Amounts outstanding under the 2016 Revolving Credit Facility will be due and payable on July 1, 2021. The interest rate under the 2016 Term Loan is at a floating rate not less than 5.0%. We used the proceeds of the 2016 Term Loan together with $94.9 million in cash from our balance sheet to repay all amounts outstanding under the 2012 Term Loan and redeem the 2018 Notes. The Company is currently determining the impact of this third quarter refinancing on its results of operations.


NOTE 9. INCOME TAXES

We continually evaluate our deferred tax assets to determine if any portion of those assets would not be realized in a future period. Based on our analysis of all available evidence, which included consideration of our cumulative consolidated pre-tax losses as well as other data, we concluded that it is more likely than not that we will be unable to realize all of our net deferred tax assets and, as a result, we recorded a full valuation allowance against its net deferred tax assets in 2014. For the quarters ended June 30, 2016 and 2015, our effective income tax rates varied from the federal statutory rate primarily due to the amortization of indefinite-lived intangibles. We recorded a provision for income taxes of $2.4 million and $1.6 million for the quarters ended June 30, 2016 and 2015, respectively. For the six months ended June 30, 2016 and 2015, our effective income tax rates varied from the federal statutory rate primarily due to the amortization of indefinite-lived intangibles. We recorded a provision for income taxes of $4.0 million and $5.0 million for the six months ended June 30, 2016 and 2015, respectively.




AFFINITY GAMING
Notes to Unaudited Condensed Consolidated Financial Statements



We have analyzed our filing positions in each jurisdiction where we are required to file income tax returns. We believe our income tax filing positions and deductions will be sustained on audit and we do not anticipate any adjustments which will result in a material change to our financial position.

We filed income tax returns in the United States federal jurisdiction and in several state jurisdictions. Our 2014 United States federal return is currently under examination. No adjustments have been proposed as of June 30, 2016.

NOTE 10. SHARE-BASED COMPENSATION

We designed our share-based compensation arrangements to advance our long-term interests; for example, by allowing us to attract and retain employees and directors by aligning their interests with those of our stockholders. The amount, frequency, and terms of share-based awards may vary based on competitive practices, our operating results, government regulations and availability under our equity incentive plans. Depending upon the form of the share-based award, new shares of our common stock may be issued upon grant, option exercise or vesting of the award.

The Affinity Gaming Amended and Restated 2011 Long-Term Incentive Plan (“LTIP”), which the Compensation Committee of our Board of Directors approved, allows us to issue up to 2,000,000 shares of common stock, subject to stock options, or as restricted stock, to employees, officers, directors and consultants. Awards vest upon the passage of time, the attainment of performance criteria, or both. Stock options awarded under the LTIP expire five years from the grant date. Awards granted to management generally vest ratably over three years from the date of the grant and those granted to directors generally vest in two equal tranches, the first upon issuance and the second during January of the calendar year following the year of grant. Holders of restricted stock may vote their shares and receive their proportionate share of any dividends. Restricted stock remains subject to the terms and conditions contained in the applicable award agreement and our LTIP until the recipient vests in the award.

The following table summarizes the activity related to our outstanding stock options and non-vested restricted stock for the period ended June 30, 2016:
 
Stock Options
 
Restricted Stock
 
Outstanding
 
Non-Vested
 
Shares
 
Weighted Average Exercise Price Per Share
 
Shares
 
Weighted Average Fair Value Per Share
December 31, 2015
330,605

 
$
10.24

 
82,290

 
$
10.54

Granted
272,500

 
12.00

 
85,082

 
12.00

Vested

 

 
(81,660
)
 
10.96

Forfeited
(36,364
)
 
10.00

 

 

June 30, 2016
566,741

 
$
11.10

 
85,712

 
$
11.59



As of June 30, 2016, awards representing 1,029,070 shares or potential shares of our common stock remained outstanding; therefore, awards representing 970,930 shares or potential shares of our common stock remained available for issuance under our Amended 2011 Long-Term Incentive Plan.

We account for stock option awards as liabilities as a result of our past practice of settling stock options for cash. As of June 30, 2016 and December 31, 2015, we have reported $1.3 million and $1.2 million, respectively, of share-based compensation liability in Other liabilities on the condensed consolidated balance sheet.




AFFINITY GAMING
Notes to Unaudited Condensed Consolidated Financial Statements



NOTE 11. COMMITMENTS AND CONTINGENCIES

Data Security Events

In October 2013, Affinity was contacted by law enforcement regarding fraudulent credit and debit card charges which may have been linked to a data security breach in Affinity’s information technology system. We immediately initiated a thorough investigation, supported by an independent professional forensic investigation firm, to determine the nature and scope of the compromise. In December 2013, we issued a press release advising that our payment processing system had become infected by malware, which resulted in a compromise of credit card and debit card information belonging to individuals who used their cards at restaurants, hotels and gift shops at our facilities between March 14 and October 16, 2013. As of November 14, 2013, our forensics expert advised us that our credit card processing systems were free of functioning malware. We encouraged our patrons to protect against possible identity theft or other financial loss by reviewing account statements for potential fraudulent activity during the period of exposure. In April 2014, we again learned that an unauthorized intrusion and installation of malware compromising the credit card processing environment had occurred. We then hired a different professional forensics investigation firm to conduct a thorough investigation of the more recently discovered event, and the security of our information technology environment as it related to both incidents. As a result of the second investigation, we have reason to believe credit card and debit card information from individuals who used their cards at restaurants, hotels and gift shops at our properties between December 7, 2013 and April 28, 2014, also may have been compromised. In May 2014, we issued another press release and encouraged our patrons to protect against possible identity theft or other financial loss by reviewing account statements for potential fraudulent activity during the period of exposure.

We carry insurance coverage of $5.0 million for liability resulting from network security events. As of June 30, 2016, we have incurred $1.2 million in expense, including deductibles, for the security breaches. We do not expect to incur additional material expenses that are not covered by insurance. However, we cannot estimate the total amount which we will ultimately incur and be reimbursed by insurance carriers because, although the independent forensic investigation has concluded, we have not received all of the monetary assessments and evaluations from the credit card processors and issuing banks seeking to recover the cost of replacement cards and a portion of fraudulent charges, nor have we received any third-party claims as of this date. In addition, several state attorneys general are investigating the data breach events, including how they occurred, their consequences and our responses. We are cooperating in the governmental investigation, and could be subject to fines or other obligations. We have not concluded that a loss from the governmental investigation is probable, however, and therefore have not recorded an accrual for governmental investigation or regulatory action. We will continue to evaluate information as it becomes known and will record an estimate for loss at the time or times when it is both probable that a loss has been incurred and the amount of the loss is reasonably estimable. We have commenced a lawsuit in federal court in Nevada against the firm that conducted the initial forensic investigation for recovery of the costs and assessments we incurred as a result of the April 2014 data breach discovery.

Litigation
 
In March 2012, the Clarke County Development Corp. (“CCDC”), the local non-profit Iowa licensee for which we manage the Lakeside Hotel & Casino (“Lakeside”) in Osceola, Iowa, filed an action in Iowa state court against Affinity and Lakeside, seeking a declaratory judgment that the management contract between CCDC and Lakeside is non-assignable. We removed the case to federal court and contested CCDC's position even though we had no plans to assign the agreement. CCDC also named Lakeside, Affinity and the Iowa Racing & Gaming Commission (“IRGC”) in a separate petition in Iowa state court seeking judicial review of the IRGC's ruling, in November 2010, which approved our predecessor's creditors to become the owners of Affinity Gaming, LLC, and thereby the indirect owners of Lakeside, prior to our emergence from bankruptcy and notwithstanding CCDC’s objection that an assignment of the management agreement had occurred which required its consent. On July 29, 2013, just two weeks before the hearing on judicial review, CCDC filed a voluntary dismissal without prejudice of the petition for judicial review.  On July 30, 2013, CCDC filed a motion to dismiss the federal court action without prejudice, which was granted.  CCDC’s dismissal of the state court petition and the federal court action was based upon its filing in Iowa state court on August 5, 2013 of a third lawsuit, since removed to federal court in Iowa, in which it seeks to enforce a settlement agreement it alleges was reached with us during a non-binding mediation held in June 2013.  On April 21, 2015, following discovery in the new lawsuit, the District Court for the Southern District of Iowa granted summary judgment in favor of the Company and against CCDC. CCDC appealed the grant of summary judgment to the 8th Circuit U.S. Court of Appeals, and on



AFFINITY GAMING
Notes to Unaudited Condensed Consolidated Financial Statements



June 24, 2016, the Court of Appeals reversed the District Court’s decision and remanded the case for trial. A trial date has not yet been set.

In November 2013, Chartwell Advisory Group, Ltd. (“Chartwell”), a professional services firm that facilitated filing refund requests with the Nevada Tax Commission for sales and use tax paid by certain casinos on the cost of complimentary meals for periods beginning in 2004, filed a lawsuit against numerous Nevada casino operators, including one of our subsidiaries, alleging that it is owed a percentage of the tax casinos did not have to pay as a result of a 2012 state tax regulation and related settlement agreement. Our subsidiary had entered into an agreement with this firm prior to the bankruptcy whereby Chartwell would receive a percentage of any refund we received from the state of sales tax previously paid by our subsidiary. We settled this matter in May 2016 for $0.2 million.

We are party to certain other claims, legal actions and complaints arising in the ordinary course of business or asserted by way of defense or counterclaim in actions we filed. We believe that our defenses are substantial in each of these matters and that we can successfully defend our legal position without material adverse effect on our consolidated financial statements.

Environmental Remediation

In 2011, during excavation at the site of our travel center at Whiskey Pete’s Hotel and Casino (“Whiskey Pete’s”) in Primm, Nevada, we encountered several contaminated underground sites which required soil remediation and groundwater testing. Much of the contamination resulted from underground fuel storage tanks related to a gas station operated more than 35 years ago, as well as from abandoned underground fuel lines. We also began testing at the direction of the Nevada Division of Environmental Protection (the “NDEP”) to determine the extent to which the contamination has affected the groundwater, and we have agreed to continue monitoring the groundwater for a period of at least two more years.

For the six months ended June 30, 2016 and 2015, we incurred $43 thousand and $0.1 million, respectively, in costs on remediation work at the Whiskey Pete’s site. We have an insurance policy which provides coverage for environmental remediation costs of up to $5.0 million. From the beginning of construction through June 30, 2016, we have incurred $4.0 million in costs on remediation work and received $2.0 million from our insurer. Insurance proceeds were received in 2015 and prior years.

Although we believe that incurring additional cost related to the testing and ongoing monitoring of groundwater for contamination is probable, we cannot reasonably estimate an amount to accrue at this time because the NDEP has not told us what additional work, if any, it will require us to perform. Additionally, we believe some or all of the ongoing monitoring costs will be reimbursed by insurance as part of our initial claim. We also filed suit in Nevada state district court for partial recovery against the environmental consultant that managed the initial remediation. The ultimate cost to us will depend on the extent of contamination found, if any, as a result of our ongoing testing, the amount of remediation we are required to perform, and the amount we are reimbursed. The litigation against the environmental consultant is in the discovery phase. As we complete our ongoing monitoring obligation, we intend to analyze any cost incurred, and we will expense or capitalize it as necessary.




AFFINITY GAMING
Notes to Unaudited Condensed Consolidated Financial Statements



NOTE 12. SEGMENT INFORMATION

The following table presents the components of net revenue by segment (in thousands):
 
Quarter Ended June 30,
 
Six Months Ended June 30,
 
2016
 
2015
 
2016
 
2015
Gross revenue
 
 
 
 
 
 
 
Nevada
$
61,119

 
$
68,704

 
$
122,900

 
$
133,754

Midwest
32,189

 
34,473

 
65,310

 
67,738

Colorado
9,553

 
10,544

 
19,210

 
21,790

Total gross revenue
102,861

 
113,721

 
207,420

 
223,282

Promotional allowances
 
 
 
 
 
 
 
Nevada
(5,786
)
 
(8,378
)
 
(11,682
)
 
(17,166
)
Midwest
(1,744
)
 
(2,629
)
 
(3,758
)
 
(5,167
)
Colorado
(673
)
 
(1,203
)
 
(1,572
)
 
(2,460
)
Total promotional allowances
(8,203
)
 
(12,210
)
 
(17,012
)
 
(24,793
)
Net revenue
 
 
 
 
 
 
 
Nevada
55,333

 
60,326

 
111,218

 
116,588

Midwest
30,445

 
31,844

 
61,552

 
62,571

Colorado
8,880

 
9,341

 
17,638

 
19,330

Total net revenue
$
94,658

 
$
101,511

 
$
190,408

 
$
198,489



We use earnings before interest expense, net; income tax; depreciation and amortization; share-based compensation; pre-opening costs; write offs, reserves and recoveries; loss on extinguishment or modification of debt; loss on impairment of assets; gains or losses on the disposition of assets; and restructuring and reorganization costs (“Adjusted EBITDA”) as a measure of profit and loss to manage the operational performance of our segments.

Adjusted EBITDA is a measure which does not conform to generally accepted accounting principles in the United States (“GAAP”). You should not consider this information as an alternative to any measure of performance as promulgated under GAAP, such as operating income and net income. Our calculation of Adjusted EBITDA may be different from the calculations used by other companies; therefore, comparability may be limited. We have included a reconciliation of Adjusted EBITDA to the most directly comparable GAAP measure, which in our case is operating income.




AFFINITY GAMING
Notes to Unaudited Condensed Consolidated Financial Statements



The following table presents Adjusted EBITDA by segment and by corporate and other (in thousands):
 
Quarter Ended June 30,
 
Six Months Ended June 30,
 
2016
 
2015
 
2016
 
2015
Adjusted EBITDA
 
 
 
 
 
 
 
Nevada
$
12,120

 
$
10,915

 
$
25,014

 
$
21,437

Midwest
10,388

 
10,560

 
21,062

 
20,129

Colorado
1,474

 
969

 
2,618

 
2,875

Corporate and other
(4,606
)
 
(4,853
)
 
(9,116
)
 
(8,628
)
Total Adjusted EBITDA
$
19,376

 
$
17,591

 
$
39,578

 
$
35,813



The following tables reconcile Adjusted EBITDA to operating income (in thousands):
 
Quarter Ended June 30, 2016
 
Adjusted EBITDA
 
Depreciation and Amortization
 
Share-Based Compensation
 
Write Downs, Reserves and Recoveries
 
Operating Income
Nevada
$
12,120

 
$
(3,649
)
 
$

 
$
105

 
$
8,576

Midwest
10,388

 
(2,012
)
 

 
(14
)
 
8,362

Colorado
1,474

 
(1,421
)
 

 

 
53

Corporate and other
(4,606
)
 
(230
)
 
(326
)
 


 
(5,162
)
Total operations
$
19,376

 
$
(7,312
)
 
$
(326
)
 
$
91

 
$
11,829


 
Quarter Ended June 30, 2015
 
Adjusted EBITDA
 
Depreciation and Amortization
 
Share-Based Compensation
 
Write Downs, Reserves and Recoveries
 
Operating Income
Nevada
$
10,915

 
$
(3,698
)
 
$

 
$
197

 
$
7,414

Midwest
10,560

 
(1,898
)
 

 

 
8,662

Colorado
969

 
(1,297
)
 

 

 
(328
)
Corporate and other
(4,853
)
 
(312
)
 
(505
)
 
7

 
(5,663
)
Total operations
$
17,591

 
$
(7,205
)
 
$
(505
)
 
$
204

 
$
10,085





AFFINITY GAMING
Notes to Unaudited Condensed Consolidated Financial Statements



 
Six Months Ended June 30, 2016
 
Adjusted EBITDA
 
Depreciation and Amortization
 
Share-Based Compensation
 
Write Downs, Reserves and Recoveries
 
Operating Income
Nevada
$
25,014

 
$
(7,300
)
 
$

 
$
70

 
$
17,784

Midwest
21,062

 
(4,042
)
 

 
(7
)
 
17,013

Colorado
2,618

 
(2,879
)
 

 

 
(261
)
Corporate and other
(9,116
)
 
(475
)
 
(700
)
 
(24
)
 
(10,315
)
Total operations
$
39,578

 
$
(14,696
)
 
$
(700
)
 
$
39

 
$
24,221


 
Six Months Ended June 30, 2015
 
Adjusted EBITDA
 
Depreciation and Amortization
 
Share-Based Compensation
 
Write Downs, Reserves and Recoveries
 
Operating Income
Nevada
$
21,437

 
$
(7,386
)
 
$

 
$
120

 
$
14,171

Midwest
20,129

 
(3,793
)
 

 

 
16,336

Colorado
2,875

 
(2,566
)
 

 
(58
)
 
251

Corporate and other
(8,628
)
 
(623
)
 
(667
)
 
7

 
(9,911
)
Total operations
$
35,813

 
$
(14,368
)
 
$
(667
)
 
$
69

 
$
20,847


The following table presents total assets by reportable segment (in thousands):
 
June 30, 2016
 
December 31, 2015
Total assets by reportable segment
 
 
 
Nevada
$
218,749

 
$
224,731

Midwest
203,691

 
207,414

Colorado
55,812

 
57,242

Reportable segment total assets
478,252

 
489,387

Corporate and other
126,322

 
112,877

Total assets
$
604,574

 
$
602,264


Total assets in Corporate and other consist primarily of cash at the corporate entity.




AFFINITY GAMING
Notes to Unaudited Condensed Consolidated Financial Statements



The following table presents additions to property and equipment by reportable segment (in thousands):
 
Quarter Ended June 30,
 
Six Months Ended June 30,
 
2016
 
2015
 
2016
 
2015
Cash paid for capital expenditures by reportable segment
 
 
 
 
 
 
 
Nevada
$
2,748

 
$
854

 
$
5,223

 
$
2,999

Midwest
1,178

 
1,385

 
1,932

 
1,829

Colorado
178

 
1,043

 
585

 
1,291

Reportable segment additions
4,104

 
3,282

 
7,740

 
6,119

Corporate
15

 
311

 
861

 
599

Total cash paid for capital expenditures
$
4,119

 
$
3,593

 
$
8,601

 
$
6,718


NOTE 13. CONDENSED CONSOLIDATED GUARANTOR DATA

All of our current and future domestic subsidiaries which guarantee the 2012 Credit Facility also fully and unconditionally guarantee our payment obligations under the 2018 Notes on a senior unsecured basis (see Note 8 for more information regarding our debt). All of the guarantees are joint and several, and all of the guarantor subsidiaries are wholly-owned by us.

We prepared and are presenting the condensed consolidating financial statements in this footnote using the same accounting policies which we used to prepare the financial information located elsewhere in our unaudited condensed consolidated interim financial statements and related footnotes. Although Affinity Gaming Finance Corp. (“AG Finance”), a wholly-owned subsidiary of the Company, is a co-issuer of the 2018 Notes, we present our indebtedness as an obligation of Affinity Gaming only. AG Finance reflects no activity during any period presented, and we did not have any non-guarantor subsidiaries during any period presented.




AFFINITY GAMING
Notes to Unaudited Condensed Consolidated Financial Statements



Affinity Gaming
Unaudited Condensed Consolidating Balance Sheet
June 30, 2016
(in thousands)

 
Affinity Gaming
(Co-Issuer)
 
AG Finance
(Co-Issuer)
 
Guarantor
Subsidiaries
 
Eliminating
Entries
 
Total
ASSETS
 
 
 
 
 
 
 
 
 
Cash and cash equivalents
$
25,906

 
$

 
$
48,772

 
$

 
$
74,678

Restricted cash
95,414

 

 
139

 

 
95,553

Accounts receivable, net
206

 

 
2,397

 

 
2,603

Income tax receivable
24

 

 

 

 
24

Prepaid expense
1,012

 

 
7,670

 

 
8,682

Inventory

 

 
2,832

 

 
2,832

Total current assets
122,562

 

 
61,810

 

 
184,372

Property and equipment, net
1,262

 

 
243,891

 

 
245,153

Intercompany receivables

 

 
133,862

 
(133,862
)
 

Investment in subsidiaries
564,158

 

 

 
(564,158
)
 

Other assets, net
2,498

 

 
1,473

 

 
3,971

Intangibles, net

 

 
122,791

 

 
122,791

Goodwill

 

 
48,287

 

 
48,287

Total assets
$
690,480

 
$

 
$
612,114

 
$
(698,020
)
 
$
604,574

 
 
 
 
 
 
 
 
 
 
LIABILITIES AND OWNERS’ EQUITY
 
 
 
 
 
 
 
 
 
Accounts payable
$
1,162

 
$

 
$
8,229

 
$

 
$
9,391

Intercompany payables
133,862

 

 

 
(133,862
)
 

Accrued interest
2,365

 

 

 

 
2,365

Accrued expense
1,253

 

 
20,829

 

 
22,082

Other current liabilities

 

 
8

 

 
8

Total current liabilities
138,642

 

 
29,066

 
(133,862
)
 
33,846

Long-term debt, less current portion
374,261

 

 

 

 
374,261

Other liabilities
1,431

 

 
553

 

 
1,984

Deferred income taxes
427

 

 
18,337

 

 
18,764

Total liabilities
514,761

 

 
47,956

 
(133,862
)
 
428,855

 
 
 
 
 
 
 
 
 
 
Common stock
20

 

 

 

 
20

Other equity
175,699

 

 
564,158

 
(564,158
)
 
175,699

Total owners’ equity
175,719

 

 
564,158

 
(564,158
)
 
175,719

Total liabilities and owners’ equity
$
690,480

 
$

 
$
612,114

 
$
(698,020
)
 
$
604,574




AFFINITY GAMING
Notes to Unaudited Condensed Consolidated Financial Statements



Affinity Gaming
Condensed Consolidating Balance Sheet
December 31, 2015
(in thousands)

 
Affinity Gaming
(Co-Issuer)
 
AG Finance
(Co-Issuer)
 
Guarantor
Subsidiaries
 
Eliminating
Entries
 
Total
ASSETS
 
 
 
 
 
 
 
 
 
Cash and cash equivalents
$
106,384

 
$

 
$
51,395

 
$

 
$
157,779

Restricted cash
469

 

 
139

 

 
608

Accounts receivable, net
220

 

 
2,997

 

 
3,217

Income tax receivable
16

 

 

 

 
16

Prepaid expense
1,813

 

 
8,266

 

 
10,079

Inventory

 

 
2,798

 

 
2,798

Total current assets
108,902

 

 
65,595

 

 
174,497

Property and equipment, net
2,002

 

 
249,906

 

 
251,908

Intercompany receivables

 

 
110,150

 
(110,150
)
 

Investment in subsidiaries
551,953

 

 

 
(551,953
)
 

Other assets, net
1,974

 

 
1,556

 

 
3,530

Intangibles, net

 

 
124,042

 

 
124,042

Goodwill

 

 
48,287

 

 
48,287

Total assets
$
664,831

 
$

 
$
599,536

 
$
(662,103
)
 
$
602,264

 
 
 
 
 
 
 
 
 
 
LIABILITIES AND OWNERS’ EQUITY
 
 
 
 
 
 
 
 
 
Accounts payable
$
3,483

 
$

 
$
9,737

 
$

 
$
13,220

Intercompany payables
110,150

 

 

 
(110,150
)
 

Accrued interest
2,327

 

 

 

 
2,327

Accrued expense
1,455

 

 
22,703

 

 
24,158

Current maturities of long-term debt
11,383

 

 

 

 
11,383

Other current liabilities

 

 
23

 

 
23

Total current liabilities
128,798

 

 
32,463

 
(110,150
)
 
51,111

Long-term debt, less current portion
364,204

 

 

 

 
364,204

Other liabilities
1,397

 

 
535

 

 
1,932

Deferred income taxes
173

 

 
14,585

 

 
14,758

Total liabilities
494,572

 

 
47,583

 
(110,150
)
 
432,005

 
 
 
 
 
 
 
 
 
 
Common stock
20

 

 

 

 
20

Other equity
170,239

 

 
551,953

 
(551,953
)
 
170,239

Total owners’ equity
170,259

 

 
551,953

 
(551,953
)
 
170,259

Total liabilities and owners’ equity
$
664,831

 
$

 
$
599,536

 
$
(662,103
)
 
$
602,264





AFFINITY GAMING
Notes to Unaudited Condensed Consolidated Financial Statements



Affinity Gaming
Unaudited Condensed Consolidating Statement of Operations
Quarter ended June 30, 2016
(in thousands)

 
Affinity Gaming
(Co-Issuer)
 
AG Finance
(Co-Issuer)
 
Guarantor
Subsidiaries
 
Eliminating
Entries
 
Total
REVENUE
 
 
 
 
 
 
 
 
 
Casino
$

 
$

 
$
69,448

 
$

 
$
69,448

Food and beverage

 

 
10,384

 

 
10,384

Lodging

 

 
6,031

 

 
6,031

Fuel and retail

 

 
13,390

 

 
13,390

Other

 

 
3,608

 

 
3,608

Total revenue

 

 
102,861

 

 
102,861

Promotional allowances

 

 
(8,203
)
 

 
(8,203
)
Net revenue

 

 
94,658

 

 
94,658

EXPENSE
 
 
 
 
 
 
 
 
 
Casino

 

 
26,181

 

 
26,181

Food and beverage

 

 
10,378

 

 
10,378

Lodging

 

 
4,205

 

 
4,205

Fuel and retail

 

 
9,106

 

 
9,106

Other

 

 
1,956

 

 
1,956

General and administrative

 

 
18,850

 

 
18,850

Depreciation and amortization
230

 

 
7,082

 

 
7,312

Corporate
4,932

 

 

 

 
4,932

Write downs, reserves and recoveries

 

 
(91
)
 

 
(91
)
Total expense
5,162

 

 
77,667

 

 
82,829

Operating income (loss)
(5,162
)
 

 
16,991

 

 
11,829

Other income (expense)
 
 
 
 
 
 
 
 
 
Interest expense, net
(7,656
)
 

 

 

 
(7,656
)
Intercompany interest income
7,727

 

 

 
(7,727
)
 

Intercompany interest expense

 

 
(7,727
)
 
7,727

 

Income from equity investments in subsidiaries
5,929

 

 

 
(5,929
)
 

Total other income (expense), net
6,000

 

 
(7,727
)
 
(5,929
)
 
(7,656
)
Income (loss) before income tax
838

 

 
9,264

 
(5,929
)
 
4,173

Benefit (provision) for income taxes
945

 

 
(3,335
)
 

 
(2,390
)
Net income (loss)
$
1,783

 
$

 
$
5,929

 
$
(5,929
)
 
$
1,783





AFFINITY GAMING
Notes to Unaudited Condensed Consolidated Financial Statements



Affinity Gaming
Unaudited Condensed Consolidating Statement of Operations
Quarter ended June 30, 2015
(in thousands)

 
Affinity Gaming
(Co-Issuer)
 
AG Finance
(Co-Issuer)
 
Guarantor
Subsidiaries
 
Eliminating
Entries
 
Total
REVENUE
 
 
 
 
 
 
 
 
 
Casino
$

 
$

 
$
75,505

 
$

 
$
75,505

Food and beverage

 

 
12,082

 

 
12,082

Lodging

 

 
7,190

 

 
7,190

Fuel and retail

 

 
15,676

 

 
15,676

Other

 

 
3,268

 

 
3,268

Total revenue

 

 
113,721

 

 
113,721

Promotional allowances

 

 
(12,210
)
 

 
(12,210
)
Net revenue

 

 
101,511

 

 
101,511

EXPENSE
 
 
 
 
 
 
 
 
 
Casino

 

 
29,956

 

 
29,956

Food and beverage

 

 
11,800

 

 
11,800

Lodging

 

 
4,197

 

 
4,197

Fuel and retail

 

 
11,675

 

 
11,675

Other

 

 
1,838

 

 
1,838

General and administrative

 

 
19,601

 

 
19,601

Depreciation and amortization
312

 

 
6,893

 

 
7,205

Corporate
5,358

 

 

 

 
5,358

Write downs, reserves and recoveries
(7
)
 

 
(197
)
 

 
(204
)
Total expense
5,663

 

 
85,763

 

 
91,426

Operating income (loss)
(5,663
)
 

 
15,748

 

 
10,085

Other income (expense)
 
 
 
 
 
 
 
 
 
Interest expense, net
(7,653
)
 

 

 

 
(7,653
)
Intercompany interest income
7,693

 

 

 
(7,693
)
 

Intercompany interest expense

 

 
(7,693
)
 
7,693

 

Income from equity investments in subsidiaries
2,096

 

 

 
(2,096
)
 

Total other income (expense), net
2,136

 

 
(7,693
)
 
(2,096
)
 
(7,653
)
Income (loss) before income tax
(3,527
)
 

 
8,055

 
(2,096
)
 
2,432

Benefit (provision) for income taxes
4,324

 

 
(5,959
)
 

 
(1,635
)
Net income (loss)
$
797

 
$

 
$
2,096

 
$
(2,096
)
 
$
797









AFFINITY GAMING
Notes to Unaudited Condensed Consolidated Financial Statements



Affinity Gaming
Unaudited Condensed Consolidating Statement of Operations
Six Months Ended June 30, 2016
(in thousands)

 
Affinity Gaming
(Co-Issuer)
 
AG Finance
(Co-Issuer)
 
Guarantor
Subsidiaries
 
Eliminating
Entries
 
Total
REVENUE
 
 
 
 
 
 
 
 
 
Casino
$

 
$

 
$
141,331

 
$

 
$
141,331

Food and beverage

 

 
21,208

 

 
21,208

Lodging

 

 
12,429

 

 
12,429

Fuel and retail

 

 
25,530

 

 
25,530

Other

 

 
6,922

 

 
6,922

Total revenue

 

 
207,420

 

 
207,420

Promotional allowances

 

 
(17,012
)
 

 
(17,012
)
Net revenue

 

 
190,408

 

 
190,408

EXPENSE
 
 
 
 
 
 
 
 
 
Casino

 

 
53,562

 

 
53,562

Food and beverage

 

 
21,170

 

 
21,170

Lodging

 

 
8,553

 

 
8,553

Fuel and retail

 

 
17,403

 

 
17,403

Other

 

 
3,463

 

 
3,463

General and administrative

 

 
37,563

 

 
37,563

Depreciation and amortization
475

 

 
14,221

 

 
14,696

Corporate
9,816

 

 

 

 
9,816

Write downs, reserves and recoveries
24

 

 
(63
)
 

 
(39
)
Total expense
10,315

 

 
155,872

 

 
166,187

Operating income (loss)
(10,315
)
 

 
34,536

 

 
24,221

Other income (expense)
 
 
 
 
 
 
 
 
 
Interest expense, net
(15,321
)
 

 

 

 
(15,321
)
Intercompany interest income
15,465

 

 

 
(15,465
)
 

Intercompany interest expense

 

 
(15,465
)
 
15,465

 

Income from equity investments in subsidiaries
12,205

 

 

 
(12,205
)
 

Total other income (expense), net
12,349

 

 
(15,465
)
 
(12,205
)
 
(15,321
)
Income (loss) before income tax
2,034

 

 
19,071

 
(12,205
)
 
8,900

Benefit (provision) for income taxes
2,860

 

 
(6,866
)
 

 
(4,006
)
Net income (loss)
$
4,894

 
$

 
$
12,205

 
$
(12,205
)
 
$
4,894




AFFINITY GAMING
Notes to Unaudited Condensed Consolidated Financial Statements



Affinity Gaming
Unaudited Condensed Consolidating Statement of Operations
Six Months Ended June 30, 2015
(in thousands)

 
Affinity Gaming
(Co-Issuer)
 
AG Finance
(Co-Issuer)
 
Guarantor
Subsidiaries
 
Eliminating
Entries
 
Total
REVENUE
 
 
 
 
 
 
 
 
 
Casino
$

 
$

 
$
150,602

 
$

 
$
150,602

Food and beverage

 

 
24,043

 

 
24,043

Lodging

 

 
14,222

 

 
14,222

Fuel and retail

 

 
28,252

 

 
28,252

Other

 

 
6,163

 

 
6,163

Total revenue

 

 
223,282

 

 
223,282

Promotional allowances

 

 
(24,793
)
 

 
(24,793
)
Net revenue

 

 
198,489

 

 
198,489

EXPENSE
 
 
 
 
 
 
 
 
 
Casino

 

 
59,690

 

 
59,690

Food and beverage

 

 
23,627

 

 
23,627

Lodging

 

 
8,106

 

 
8,106

Fuel and retail

 

 
20,939

 

 
20,939

Other

 

 
3,368

 

 
3,368

General and administrative

 

 
38,318

 

 
38,318

Depreciation and amortization
623

 

 
13,745

 

 
14,368

Corporate
9,295

 

 

 

 
9,295

Write downs, reserves and recoveries
(7
)
 

 
(62
)
 

 
(69
)
Total expense
9,911

 

 
167,731

 

 
177,642

Operating income (loss)
(9,911
)
 

 
30,758

 

 
20,847

Other income (expense)
 
 
 
 
 
 
 
 
 
Interest expense, net
(15,258
)
 

 

 

 
(15,258
)
Intercompany interest income
15,341

 

 

 
(15,341
)
 

Intercompany interest expense

 

 
(15,341
)
 
15,341

 

Income from equity investments in subsidiaries
1,536

 

 

 
(1,536
)
 

Total other income (expense), net
1,619

 

 
(15,341
)
 
(1,536
)
 
(15,258
)
Income (loss) before income tax
(8,292
)
 

 
15,417

 
(1,536
)
 
5,589

Benefit (provision) for income taxes
8,849

 

 
(13,881
)
 

 
(5,032
)
Net income (loss)
$
557

 
$

 
$
1,536

 
$
(1,536
)
 
$
557




AFFINITY GAMING
Notes to Unaudited Condensed Consolidated Financial Statements



Affinity Gaming
Unaudited Condensed Consolidating Statement of Cash Flows
Six Months Ended June 30, 2016
(in thousands)

 
Affinity Gaming
(Co-Issuer)
 
AG Finance
(Co-Issuer)
 
Guarantor
Subsidiaries
 
Total
Net cash (used in) provided by operating activities
$
(20,603
)
 
$

 
$
44,546

 
$
23,943

 
 
 
 
 
 
 
 
Cash flows from investing activities:
 
 
 
 
 
 
 
Proceeds from sale of property and equipment

 

 
18

 
18

Purchases of property and equipment
(861
)
 

 
(7,740
)
 
(8,601
)
Net cash used in investing activities
$
(861
)
 
$

 
$
(7,722
)
 
$
(8,583
)
 
 
 
 
 
 
 
 
Cash flows from financing activities:
 
 
 
 
 
 
 
Restricted cash
(94,945
)
 

 

 
(94,945
)
Change in intercompany accounts
39,432

 

 
(39,432
)
 

Payments on capital lease

 

 
(15
)
 
(15
)
Payments on long-term debt
(2,913
)
 

 

 
(2,913
)
Loan origination fees
(515
)
 

 

 
(515
)
Repurchases of vested share-based awards
(73
)
 

 

 
(73
)
Net cash provided by (used in) financing activities
$
(59,014
)
 
$

 
$
(39,447
)
 
$
(98,461
)
 
 
 
 
 
 
 
 
Net decrease in cash and cash equivalents
(80,478
)
 

 
(2,623
)
 
(83,101
)
 
 
 
 
 
 
 
 
Cash and cash equivalents
 
 
 
 
 
 
 
Beginning of year
106,384

 

 
51,395

 
157,779

End of period
$
25,906

 
$

 
$
48,772

 
$
74,678





AFFINITY GAMING
Notes to Unaudited Condensed Consolidated Financial Statements



Affinity Gaming
Unaudited Condensed Consolidating Statement of Cash Flows
Six Months Ended June 30, 2015
(in thousands)

 
Affinity Gaming
(Co-Issuer)
 
AG Finance
(Co-Issuer)
 
Guarantor
Subsidiaries
 
Total
Net cash (used in) provided by operating activities
$
(12,095
)
 
$

 
$
36,556

 
$
24,461

 
 
 
 
 
 
 
 
Cash flows from investing activities:
 
 
 
 
 
 
 
Proceeds from sale of property and equipment
3

 

 
5

 
8

Purchases of property and equipment
(599
)
 

 
(6,119
)
 
(6,718
)
Net cash used in investing activities
$
(596
)
 
$

 
$
(6,114
)
 
$
(6,710
)
 
 
 
 
 
 
 
 
Cash flows from financing activities:
 
 
 
 
 
 
 
Change in intercompany accounts
25,248

 

 
(25,248
)
 

Payments on capital lease

 

 
(16
)
 
(16
)
Repurchases of vested share-based awards
(47
)
 

 

 
(47
)
Net cash provided by (used in) financing activities
$
25,201

 
$

 
$
(25,264
)
 
$
(63
)
 
 
 
 
 
 
 
 
Net increase in cash and cash equivalents
12,510

 

 
5,178

 
17,688

 
 
 
 
 
 
 
 
Cash and cash equivalents
 
 
 
 
 
 
 
Beginning of year
88,737

 

 
46,438

 
135,175

End of period
$
101,247

 
$

 
$
51,616

 
$
152,863






AFFINITY GAMING
Notes to Unaudited Condensed Consolidated Financial Statements






NOTE 14. SUBSEQUENT EVENTS

On July 29, 2016 the Board of Directors received a non-binding proposal from Z Capital Partners, L.L.C., on behalf of its affiliated investment funds and/or designees (“Z Capital”), in which, among other things, Z Capital proposed to acquire all of the outstanding common shares of the Company that are not already owned by Z Capital at a purchase price of $15.00 per share in cash. On August 9, 2016, Z Capital increased its offer to $17.35 per share in cash. In connection with Z Capital’s non-binding proposal, the Board appointed a Special Committee of independent directors authorized to, among other things, review Z Capital’s proposal as well as other proposals or strategic alternatives that may be available to the Company. The Company entered into a 15-day exclusivity agreement with Z Capital commencing on August 9, 2016.




ITEM 2.
MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS

EXECUTIVE OVERVIEW

Headquartered in Las Vegas, Nevada, Affinity Gaming (together with its subsidiaries, “Affinity” or “we” ) is a diversified, multi-jurisdictional Nevada corporation which operates casinos through wholly-owned subsidiaries in Nevada, Missouri, Iowa and Colorado. Casino operations as of June 30, 2016 included the following wholly-owned casinos (by segment):

Nevada
 
 
 
 
Silver Sevens Hotel & Casino
 
Las Vegas, NV
 
(“Silver Sevens”)
Primm Valley Resort & Casino
 
Primm, NV
 
(“Primm Valley”)
Buffalo Bill’s Resort & Casino
 
Primm, NV
 
(“Buffalo Bill’s”)
Whiskey Pete’s Hotel & Casino
 
Primm, NV
 
(“Whiskey Pete’s”)
Rail City Casino
 
Sparks, NV
 
(“Rail City”)
   (Collectively, Primm Valley, Buffalo Bill’s and Whiskey Pete’s are referred to as the “Primm Casinos.”)
 
 
 
 
 
Midwest
 
 
 
 
St Jo Frontier Casino
 
St. Joseph, MO
 
(“St Jo”)
Mark Twain Casino
 
La Grange, MO
 
(“Mark Twain”)
Lakeside Hotel & Casino
 
Osceola, IA
 
(“Lakeside”)
 
 
 
 
 
Colorado
 
 
 
 
Golden Mardi Gras Casino
 
Black Hawk, CO
 
(“Golden Mardi Gras”)
Golden Gulch Casino
 
Black Hawk, CO
 
(“Golden Gulch”)
Golden Gates Casino
 
Black Hawk, CO
 
(“Golden Gates”)
 (Collectively, Golden Mardi Gras, Golden Gulch and Golden Gates are referred to as the “Black Hawk Casinos.”)


As of June 30, 2016, casino operations collectively offered approximately 288,400 square feet of gaming space with approximately 6,500 slot machines and 124 table games, while lodging operations offered approximately 3,100 hotel rooms.

Prior to April 1, 2015 we also provided consulting services to Hotspur Casinos Nevada, Inc. (“Hotspur”), the operator of the Rampart Casino at the JW Marriott Resort in Las Vegas. Under the terms of the consulting agreement, which expired on April 1, 2015, Hotspur previously paid us a fixed annual fee in monthly installments.

Seasonality
 
Our casinos in Northern Nevada, the Midwest and Colorado occasionally experience extreme weather conditions which interrupt our operations. Additionally, our casinos in Missouri are subject to flooding depending on the water levels of the Missouri and Mississippi Rivers. Snow and other adverse weather resulted in a significant number of days with lost or reduced business at our Midwest and Colorado properties during the winter of 2014-2015. If there is a prolonged disruption at any of our properties or if there are a disproportionate number of weekends affected by extreme weather, our results of operations and financial condition could be materially adversely affected.




Matters Affecting Comparability of Results

Significant factors or events have had a material impact on our results of operations for the periods discussed below and affect the comparability of our results of operations from period to period.

Marketing programs. We continue to focus on our marketing programs and promotional spending to engage more profitable customers and control our marketing expenses.

Operational efficiencies. Operational efficiency initiatives have resulted in decreased costs including payroll and benefit costs.

Key Performance Indicators

We assess a variety of financial and operational performance indicators to manage our business, but the key performance indicators which we use include gross gaming revenue, promotional allowances and marketing expense, net revenue and controllable operating costs.

Key volume indicators such as slot machine win per unit per day, table game win per unit per day, and promotional allowances as a percentage of gross gaming revenue are analyzed in connection with our casino operations. In addition to the volume indicators, we also analyze the number of patron trips and the amount of money spent per patron trip. The industry uses the term “average daily rate” (“ADR”) to define the average amount of hotel revenue per occupied room per day, and the term “occupancy percentage” to define the total percentage of rooms occupied (i.e., the number of rooms occupied divided by the total number of rooms available). We use ADR and occupancy percentage to analyze the performance of our hotel operations. Fuel and retail operations include revenue from gas stations and convenience stores which we own and operate. Management measures the performance of fuel operations based on gallons sold and profit margin per gallon.

We use earnings before interest expense, net; income tax; depreciation and amortization; share-based compensation expense; pre-opening costs; write offs, reserves and recoveries; loss on extinguishment or modification of debt; loss on impairment of assets; gains or losses on the disposition of assets; and restructuring and reorganization costs (“Adjusted EBITDA”) as a measure of profit and loss to manage the operational performance of each geographical region in which we operate, and to discuss our results with the investment community.

Adjusted EBITDA is a measure which does not conform to generally accepted accounting principles in the United States (“GAAP”). You should not consider this information as an alternative to any measure of performance as promulgated under GAAP, such as operating income and net income. Our calculation of Adjusted EBITDA may be different from the calculations used by other companies; therefore, comparability may be limited. We have included a reconciliation of Adjusted EBITDA to the most directly comparable GAAP measure, which in our case is operating income from operations.





RESULTS OF OPERATIONS

Reportable Segment Results

The following tables present financial information by reportable segment and by corporate and other (in thousands):

 
Quarter Ended June 30,
 
Six Months Ended June 30,
 
2016
 
2015
 
Percent Change
 
2016
 
2015
 
Percent Change
Gross revenue
 
 
 
 
 
 
 
 
 
 
 
Nevada
$
61,119

 
$
68,704

 
(11.0
)%
 
$
122,900

 
$
133,754

 
(8.1
)%
Midwest
32,189

 
34,473

 
(6.6
)%
 
65,310

 
67,738

 
(3.6
)%
Colorado
9,553

 
10,544

 
(9.4
)%
 
19,210

 
21,790

 
(11.8
)%
Total gross revenue
102,861

 
113,721

 
(9.5
)%
 
207,420

 
223,282

 
(7.1
)%
Promotional allowances
 
 
 
 
 
 
 
 
 
 
 
Nevada
(5,786
)
 
(8,378
)
 
(30.9
)%
 
(11,682
)
 
(17,166
)
 
(31.9
)%
Midwest
(1,744
)
 
(2,629
)
 
(33.7
)%
 
(3,758
)
 
(5,167
)
 
(27.3
)%
Colorado
(673
)
 
(1,203
)
 
(44.1
)%
 
(1,572
)
 
(2,460
)
 
(36.1
)%
Total promotional allowances
(8,203
)
 
(12,210
)
 
(32.8
)%
 
(17,012
)
 
(24,793
)
 
(31.4
)%
Net revenue
 
 
 
 
 
 
 
 
 
 
 
Nevada
55,333

 
60,326

 
(8.3
)%
 
111,218

 
116,588

 
(4.6
)%
Midwest
30,445

 
31,844

 
(4.4
)%
 
61,552

 
62,571

 
(1.6
)%
Colorado
8,880

 
9,341

 
(4.9
)%
 
17,638

 
19,330

 
(8.8
)%
Total net revenue
$
94,658

 
$
101,511

 
(6.8
)%
 
$
190,408

 
$
198,489

 
(4.1
)%

 
Quarter Ended June 30,
 
Six Months Ended June 30,
 
2016
 
2015
 
Percent Change
 
2016
 
2015
 
Percent Change
Adjusted EBITDA
 
 
 
 
 
 
 
 
 
 
 
Nevada
$
12,120

 
$
10,915

 
11.0
 %
 
$
25,014

 
$
21,437

 
16.7
 %
Midwest
10,388

 
10,560

 
(1.6
)%
 
21,062

 
20,129

 
4.6
 %
Colorado
1,474

 
969

 
52.1
 %
 
2,618

 
2,875

 
(8.9
)%
Corporate and other
(4,606
)
 
(4,853
)
 
(5.1
)%
 
(9,116
)
 
(8,628
)
 
5.7
 %
Total Adjusted EBITDA
$
19,376

 
$
17,591

 
10.1
 %
 
$
39,578

 
$
35,813

 
10.5
 %







The following tables reconcile Adjusted EBITDA to operating income (in thousands):
 
Quarter Ended June 30, 2016
 
Adjusted EBITDA
 
Depreciation and Amortization
 
Share-Based Compensation
 
Write downs, Reserves and Recoveries
 
Operating Income
Nevada
$
12,120

 
$
(3,649
)
 
$

 
$
105

 
$
8,576

Midwest
10,388

 
(2,012
)
 

 
(14
)
 
8,362

Colorado
1,474

 
(1,421
)
 

 

 
53

Corporate and other
(4,606
)
 
(230
)
 
(326
)
 


 
(5,162
)
Total operations
$
19,376

 
$
(7,312
)
 
$
(326
)
 
$
91

 
$
11,829


 
Quarter Ended June 30, 2015
 
Adjusted EBITDA
 
Depreciation and Amortization
 
Share-Based Compensation
 
Write downs, Reserves and Recoveries
 
Operating Income
Nevada
$
10,915

 
$
(3,698
)
 
$

 
$
197

 
$
7,414

Midwest
10,560

 
(1,898
)
 

 

 
8,662

Colorado
969

 
(1,297
)
 

 

 
(328
)
Corporate and other
(4,853
)
 
(312
)
 
(505
)
 
7

 
(5,663
)
Total operations
$
17,591

 
$
(7,205
)
 
$
(505
)
 
$
204

 
$
10,085



Quarter Ended June 30, 2016 Compared to Quarter Ended June 30, 2015

Overall. We recorded net revenue of $94.7 million during the quarter ended June 30, 2016, a decrease of $6.9 million, or 6.8%, compared to the same quarter in the prior year. Adjusted EBITDA during the second quarter was $19.4 million, an increase of $1.8 million, or 10.1%, compared to the same quarter of 2015. Adjusted EBITDA, excluding corporate expense, increased $1.5 million, or 6.9%. These changes were primarily due to our continuing efforts during 2016 to analyze the effectiveness of our promotional campaigns and refine our marketing programs and implementing volume-based labor scheduling, which have had the effect of reducing costs, decreasing gaming activity from less profitable customers and increasing more profitable play on the gaming floor. While we can provide no assurances, we believe this trend will continue through 2016.


Nevada. Nevada operations include Rail City, Silver Sevens and the Primm Casinos. In addition to casino, lodging and food and beverage operations, our results from the Primm Casinos include the operation of three gas station/convenience stores and a California lottery outlet.  Nevada operations accounted for 59% of our gross revenue during each of the quarters ended June 30, 2016 and 2015.

In our Nevada segment, net revenue decreased $5.0 million, or 8.3%. Casino revenue decreased $3.1 million, or 8.6%. Excluding complimentary revenue, lodging revenue increased $0.2 million. We continue to focus our promotional campaigns to convert complimentary customers to cash customers. Fuel and retail revenue decreased $2.2 million, or 14.0%, due to decreased fuel prices during the quarter ended June 30, 2016 and lower traffic volumes on Interstate 15 through Primm.

Nevada Adjusted EBITDA increased $1.2 million, or 11.0%. The Adjusted EBITDA contribution from casino operations increased $1.6 million, or 10.6%, primarily as a result of implementing volume-based labor scheduling as well as our ongoing



efforts to reduce promotional campaigns and refine marketing programs in 2016 compared to 2015. We also reported an increase in the Adjusted EBITDA contribution from fuel and retail operations of $0.3 million, or 7.8%.


Midwest. Midwest operations include St Jo and Mark Twain in Missouri, and Lakeside in Iowa. Midwest operations accounted for 31% and 30% of our gross revenue during the quarters ended June 30, 2016 and 2015, respectively.

Net revenue from our Midwest segment decreased $1.4 million, or 4.4%. Adjusted EBITDA from our Midwest segment decreased $0.2 million, or 1.6%. Although Adjusted EBITDA from our Midwest segment decreased during the quarter, we are encouraged by increases in Adjusted EBITDA margin at our Midwest properties during the same period and we anticipate the improved operating margins in the Midwest to continue through 2016. Both the decreases in net revenue and Adjusted EBITDA and the increases in Adjusted EBITDA margin are primarily due to our ongoing efforts to refine marketing programs.


Colorado. Colorado operations include the Golden Gates, the Golden Gulch and the Golden Mardi Gras casinos in Black Hawk. Colorado operations accounted for 9% of our gross revenue during each of the quarters ended June 30, 2016 and 2015.

Net revenue from our Colorado segment decreased $0.5 million, or 4.9%. The decrease in net revenue was primarily the result of a $0.9 million decrease in casino revenue related to competitive pressures in the market. Colorado Adjusted EBITDA increased $0.5 million, or 52.1%, driven primarily by a $0.6 million decrease in gaming tax expense due to lower revenues and normalized gaming tax expense recorded in the current quarter compared to the prior year period. In addition, Adjusted EBITDA has benefited from our efforts to improve operational efficiencies in payroll and other operating costs, as well as lower slot participation fees as we change the variety of games on our casino floor.

The following tables reconcile Adjusted EBITDA to operating income (in thousands):

 
Six Months Ended June 30, 2016
 
Adjusted EBITDA
 
Depreciation and Amortization
 
Share-Based Compensation
 
Write Downs, Reserves and Recoveries
 
Operating Income
Nevada
$
25,014

 
$
(7,300
)
 
$

 
$
70

 
$
17,784

Midwest
21,062

 
(4,042
)
 

 
(7
)
 
17,013

Colorado
2,618

 
(2,879
)
 

 

 
(261
)
Corporate and other
(9,116
)
 
(475
)
 
(700
)
 
(24
)
 
(10,315
)
Total operations
$
39,578

 
$
(14,696
)
 
$
(700
)
 
$
39

 
$
24,221


 
Six Months Ended June 30, 2015
 
Adjusted EBITDA
 
Depreciation and Amortization
 
Share-Based Compensation
 
Write Downs, Reserves and Recoveries
 
Operating Income
Nevada
$
21,437

 
$
(7,386
)
 
$

 
$
120

 
$
14,171

Midwest
20,129

 
(3,793
)
 

 

 
16,336

Colorado
2,875

 
(2,566
)
 

 
(58
)
 
251

Corporate and other
(8,628
)
 
(623
)
 
(667
)
 
7

 
(9,911
)
Total operations
$
35,813

 
$
(14,368
)
 
$
(667
)
 
$
69

 
$
20,847





Six Months Ended June 30, 2016 Compared to Six Months Ended June 30, 2015

Overall. We recorded net revenue from operations of $190.4 million during the six months ended June 30, 2016, compared to net revenue from operations of $198.5 million for the same period in the prior year, a decrease of $8.1 million, or 4.1%. Adjusted EBITDA was $39.6 million compared to $35.8 million during the same period of 2015, an increase of $3.8 million, or 10.5%. Adjusted EBITDA, excluding corporate expense, increased $4.3 million, or 9.6%. These increases were primarily due to our efforts to continue to analyze the effectiveness of our promotional campaigns and refine our marketing programs, which have had the effect of reducing costs and driving more profitable play on the gaming floor. While we can provide no assurances, we believe this trend will continue through 2016.


Nevada. Nevada operations accounted for approximately 59% of our gross revenue from operations during each of the six months ended June 30, 2016 and 2015.

In our Nevada segment, net revenue decreased $5.4 million, or 4.6%. Casino revenue decreased $4.5 million, or 6.3%, while lodging revenue decreased $1.8 million, or 13.9%. Excluding complimentary revenue, lodging revenue increased $1.0 million compared to the same period in the prior year. We continue to focus our promotional campaigns to convert complimentary customers to cash customers. Fuel and retail revenue decreased $2.5 million, or 9.0%, due to decreased fuel prices during the six months ended June 30, 2016 and lower traffic volumes on Interstate 15 through Primm.

Nevada Adjusted EBITDA increased $3.6 million, or 16.7%. The Adjusted EBITDA contribution from casino operations increased $4.3 million, or 14.9%, primarily as a result of implementing volume-based labor scheduling and optimizing our slot floor, as well as our ongoing effort to reduce promotional campaigns and refine marketing programs in 2016 compared to 2015. In addition, the Adjusted EBITDA contribution from fuel and retail operations increased $0.8 million, or 11.8%.


Midwest. Midwest operations accounted for approximately 31% of our gross revenue from operations during each of the six months ended June 30, 2016 and 2015.

Net revenue from our Midwest segment decreased $1.0 million, or 1.6%. Adjusted EBITDA from our Midwest segment increased $0.9 million, or 4.6%. These increases primarily resulted from more focused marketing campaigns, which drove more profitable play on the gaming floor. We are encouraged by our Midwest properties’ performance and we anticipate improved operating margins in the Midwest as we continue to analyze and refine our marketing campaigns.


Colorado. Colorado operations accounted for approximately 9% of our gross revenue from operations during each of the six month periods presented.

Net revenue from our Colorado segment decreased $1.7 million, or 8.8%. The decrease in net revenue was primarily related to lower gaming volumes in 2016 as a result of competitive pressures in the market. Colorado Adjusted EBITDA decreased $0.3 million, or 8.9%, driven primarily by a decrease of $0.2 million, or 3.5%, in the Adjusted EBITDA contribution from casino operations, the result of more focused marketing campaigns on profitable players in 2016.







Revenue and Expense by Category

The following table presents detail of our consolidated gross revenue and expense by category (in thousands):
 
Quarter Ended June 30,
 
Six Months Ended June 30,
 
2016
 
2015
 
Percent Change
 
2016
 
2015
 
Percent Change
Total revenue
 

 
 

 
 

 
 
 
 
 
 
Casino
$
69,448

 
$
75,505

 
(8.0
)%
 
$
141,331

 
$
150,602

 
(6.2
)%
Food and beverage
10,384

 
12,082

 
(14.1
)%
 
21,208

 
24,043

 
(11.8
)%
Lodging
6,031

 
7,190

 
(16.1
)%
 
12,429

 
14,222

 
(12.6
)%
Fuel and retail
13,390

 
15,676

 
(14.6
)%
 
25,530

 
28,252

 
(9.6
)%
Other
3,608

 
3,268

 
10.4
 %
 
6,922

 
6,163

 
12.3
 %
Total revenue
102,861

 
113,721

 
(9.5
)%
 
207,420

 
223,282

 
(7.1
)%
Promotional allowances
(8,203
)
 
(12,210
)
 
(32.8
)%
 
(17,012
)
 
(24,793
)
 
(31.4
)%
Net revenue
$
94,658

 
$
101,511

 
(6.8
)%
 
$
190,408

 
$
198,489

 
(4.1
)%
 
 
 
 
 
 
 
 
 
 
 
 
Departmental cost and expense
 
 
 
 
 

 
 
 
 
 
 
Casino
$
26,181

 
$
29,956

 
(12.6
)%
 
$
53,562

 
$
59,690

 
(10.3
)%
Food and beverage
10,378

 
11,800

 
(12.1
)%
 
21,170

 
23,627

 
(10.4
)%
Lodging
4,205

 
4,197

 
0.2
 %
 
8,553

 
8,106

 
5.5
 %
Fuel and retail
9,106

 
11,675

 
(22.0
)%
 
17,403

 
20,939

 
(16.9
)%
Other
1,956

 
1,838

 
6.4
 %
 
3,463

 
3,368

 
2.8
 %
General and administrative
18,850

 
19,601

 
(3.8
)%
 
37,563

 
38,318

 
(2.0
)%
Depreciation and amortization
7,312

 
7,205

 
1.5
 %
 
14,696

 
14,368

 
2.3
 %
Corporate
4,932

 
5,358

 
(8.0
)%
 
9,816

 
9,295

 
5.6
 %
Write downs, reserves and recoveries
(91
)
 
(204
)
 
(55.4
)%
 
(39
)
 
(69
)
 
(43.5
)%
Departmental cost and expense
$
82,829

 
$
91,426

 
(9.4
)%
 
$
166,187

 
$
177,642

 
(6.4
)%
 
 
 
 
 
 
 
 
 
 
 
 
Departmental Adjusted EBITDA Margins
 
 
 
 
 

 
 
 
 
 
 
Gaming
62.3
%
 
60.3
%
 

 
62.1
%
 
60.4
%
 
 
Food and beverage
0.1
%
 
2.3
%
 

 
0.2
%
 
1.7
%
 
 
Lodging
30.3
%
 
41.6
%
 

 
31.2
%
 
43.0
%
 
 
Fuel and retail
32.0
%
 
25.5
%
 

 
31.8
%
 
25.9
%
 
 
Other
45.8
%
 
43.8
%
 

 
50.0
%
 
45.4
%
 
 





Gross Revenue. Generally, the casino gaming industry defines gaming revenue as gaming wins less gaming losses.  We derive the majority of our gaming revenue, which we report in the Casino line item, from slot machines. Casino revenue also includes table game revenue and bingo, keno and poker revenue, where offered. Our gross revenue also includes:

food and beverage revenue, which we earn from sales in restaurants and outlets we own and operate at our casinos and from room service sales;

lodging revenue, which we earn from rooms we provide to customers;

fuel and retail revenue, which we earn from sales of fuel, food and beverage items at franchised food outlets, lottery tickets and other retail items at facilities we own at the Primm Casinos, and at facilities we own and lease to third-parties at the Primm Casinos and Lakeside; and

other revenue, which we earn from sources such as consulting agreements, leasing agreements, entertainment services, and ATMs at our casino properties.

We recognize revenue at the time we provide the product, room or service to the guest or the third-party.

Promotional allowances consist primarily of food, beverage, lodging and entertainment furnished gratuitously to customers, as well as incentives earned in our guest rewards program such as cash rewards or complimentary goods and services. We include the retail value of items or services furnished gratuitously to customers in the respective revenue classifications, then we deduct the total amount of promotional allowances from total revenue.

Cost and Expense. We aggregate our direct costs and expense, including selling, general and administrative expense for each of our operations, and include them in the expense of our reportable segments, as discussed in “Reportable Segment Results.”

Corporate expense represents unallocated payroll, professional fees and other expense which we do not directly attribute to our reportable segments, as well as share-based compensation. We present corporate expense net of management fees or expense charged to our properties and cash fees earned under our consulting agreement with Hotspur, the operator of the Rampart Casino at the JW Marriott Resort in Las Vegas, from which we collected $0.5 million in management fees during the six months ended June 30, 2015. The consulting agreement with Hotspur expired on April 1, 2015.


Quarter Ended June 30, 2016 Compared to Quarter Ended June 30, 2015

Corporate expense, excluding share-based compensation, decreased by $0.2 million, or 5.1%, primarily as a result of decreased payroll and benefits expense in the current quarter. These items were partially offset by a decrease in expenses we incurred as part of activities that we do not consider part of regular operations. During the second quarter of 2016, such activities included a legal settlement related to a lawsuit filed by a professional services firm against us, and numerous Nevada casino operators, in 2013. During the second quarter of 2015, such activities included evaluating strategic initiatives and searching for a new Chief Financial Officer. The Second Amended Credit Agreement allows us to add back such non-recurring expense to arrive at EBITDA, as defined in the credit agreement, when calculating our debt covenants. We incurred $0.5 million of non-recurring expense during the quarter ended June 30, 2016, compared to $0.8 million in the same period of the prior year. Excluding the non-recurring expense items and share-based compensation, we incurred $4.1 million of corporate expense during each of the quarters ended June 30, 2016 and 2015.

Net interest expense of $7.7 million for the each of the quarters ended June 30, 2016 and 2015, includes amortization of costs associated with the second amendment to the Credit Agreement and the modification of the indenture governing the 2018 Notes, which occurred in July 2014.
 
The income tax provision for the quarters ended June 30, 2016 and 2015, was $2.4 million and $1.6 million, respectively. Our effective income tax rate varied from the federal statutory rate for the quarters ended June 30, 2016 and 2015, primarily due to the amortization of indefinite-lived intangibles.






Six Months Ended June 30, 2016 Compared to Six Months Ended June 30, 2015

Corporate expense, excluding share-based compensation, increased by $0.5 million, or 5.7%, primarily as a result of increased payroll and benefits expense in the current period, as well as the decrease in management fee income due to the expiration of our consulting agreement with the JW Marriott Resort on April 1, 2015. These items were partially offset by a decrease in expenses we incurred as part of activities that we do not consider part of regular operations. During the six months ended June 30, 2016, such activities included evaluation of strategic transactions initiatives. During the same period in 2015, such activities included evaluating third party proposals to acquire the Company as well as other strategic alternatives and strategic initiatives. The Second Amended Credit Agreement allowed us to add back such non-recurring expense to EBITDA, as defined in the credit agreement, when calculating our debt covenants. We incurred $1.1 million of non-recurring expense during the six months ended June 30, 2016, compared to $1.6 million in the same period of the prior year. Excluding the non-recurring expense items and share-based compensation, we incurred $8.0 million and $7.1 million of corporate expense during the six months ended June 30, 2016 and 2015, respectively.

Net interest expense increased $0.1 million, or 0.4%, as a result of costs associated with the second amendment to the 2012 Credit Facility and the modification of the indenture governing the 2018 Notes.
 
The income tax provision for the six months ended June 30, 2016 and 2015, was $4.0 million, and $5.0 million, respectively. Our effective income tax rates varied from the federal statutory rate for the six months ended June 30, 2016 and 2015, primarily due to the amortization of indefinite-lived intangibles.


LIQUIDITY AND CAPITAL RESOURCES
 
Overview
 
We rely on cash flows from operations as our primary source of liquidity. Subsequent to the quarter end, on July 1, 2016, we entered into a Credit Agreement (the “2016 Credit Agreement”), which provides for a $300.0 million term loan facility (the “2016 Term Loan”) and a $75 million revolving credit facility (the “2016 Revolving Credit Facility” and, together with the 2016 Term Loan, the “2016 Credit Facility”) which remained undrawn on the closing date of the 2016 Credit Agreement. The 2016 Term Loan will be payable in quarterly installments, commencing on September 30, 2016, in an amount equal to 0.25% of the 2016 Term Loan until the maturity date, July 1, 2023, upon which date the remaining balance will come due. Amounts outstanding under the 2016 Revolving Credit Facility will be due and payable on July 1, 2021. The interest rate under the 2016 Term Loan is at a floating rate not less than 5.0%. We used the proceeds of the 2016 Term Loan together with $94.9 million in cash from our balance sheet to repay all amounts outstanding under our prior term loan due 2017 (the “2012 Term Loan”) and redeem the $200.0 million of 9.00% senior unsecured notes due 2018 (the “2018 Notes”). We are currently determining the impact of this refinancing on its results of operations.

The 2016 Credit Facility permits us to incur limited indebtedness for trade payables and capital leases in the ordinary course of business, and provides an accordion feature, whereby we may borrow additional amounts subject to certain terms and conditions under the 2016 Credit Agreement). We cannot assure you that, if required, we will be able to obtain the necessary approval for additional borrowing under our 2016 Credit Facility.

The 2016 Amended Credit Agreement requires us to make a mandatory prepayment of amounts outstanding under certain circumstances.

The 2016 Credit Facility also contains various covenants which limit our ability to take certain actions including, among other things, our ability to:

incur additional debt;



pay dividends or make other distributions or certain restricted payments;
make certain investments;
create liens;
make certain dispositions; merge or consolidate with other entities; and
enter into transactions with affiliates.

Prior to the entry into the 2016 Credit Facility, we incurred and paid interest on the 2012 Term Loan under a Second Amended Credit Agreement at an uncommitted floating rate of LIBOR plus 4.00%, subject to a LIBOR floor of 1.25%.  The Second Amended Credit Agreement also required us to pay commitment fees related to the 2012 Revolving Credit Facility equal to an annualized rate of 0.50% on undrawn amounts when the net leverage ratio was greater than 3.50 to 1.00, or equal to an annualized rate of 0.375% on undrawn amounts when the net leverage ratio was less than or equal to 3.50 to 1.00.  Unamortized loan fees, which we have amortized over the life of the 2018 Notes and the 2012 Term Loan, totaled $4.9 million at June 30, 2016, and are reported as an offset to the related debt. As of June 30, 2016, we remained in compliance with all covenants specified in the Second Amended Credit Agreement.

Our primary cash needs for the next twelve months of operation include quarterly interest and principal payments on our debt and capital expenditures. Our capital expenditure needs include maintenance capital and capital for the acquisition of slot machines and of other equipment required to keep our facilities competitive. The most significant components of our working capital are cash, prepaid expense, accounts payable and accrued expense. Our liquidity position benefits from the fact that we generally collect cash from transactions with customers the same day or, in the case of credit or debit card transactions, within a few days of the related transaction.
 
A variety of factors, many of which are outside of our control, affect our cash flow; those factors include litigation, regulatory issues, competition, financial markets, smoking bans (particularly in Missouri where the bans are determined by municipalities) and other general business conditions.  We believe that we will have sufficient liquidity through available cash, which as of June 30, 2016 was $74.7 million, trade credit and cash flow to fund our cash requirements and maintenance capital expenditures for at least the next twelve months.  However, we cannot assure you that we will generate sufficient income and cash flow to meet all of our liquidity requirements.
 

Cash Flows from Operating Activities
 
Operating activities provided $23.9 million through June 30, 2016, compared to $24.5 million provided through June 30, 2015. The decrease in cash provided by operating activities was driven by payment timing related to the elements of working capital.


Cash Flows from Investing Activities
 
Investing activities used $8.6 million through June 30, 2016, compared to using $6.7 million through June 30, 2015.  Net cash used in investing activities through June 30, 2016 is primarily comprised of capital expenditures, which were $8.6 million and $6.7 million during the six months ended June 30, 2016 and 2015, respectively.


Cash Flows from Financing Activities
 
Financing activities used $98.5 million and $0.1 million, respectively, during the six months ended June 30, 2016 and 2015. Net cash used in financing activities through June 30, 2016 is primarily comprised of the transfer of $94.9 million in restricted cash to fund the refinancing of our existing debt that occurred on July 1, 2016. Financing activities also include repayments of long-term debt and repurchases of vested share based awards.





Off-Balance Sheet Arrangements
 
We currently have no material off-balance sheet arrangements.

 
Critical Accounting Policies
 
For a discussion of our critical accounting policies and the means by which we develop estimates therefrom, see “Item 7. Management’s Discussion and Analysis of Financial Condition and Results of Operations” in our Annual Report on Form 10-K, filed with the SEC on March 23, 2016 (“2015 Form 10-K”), and as clarified in Note 2 to our financial statements in relation to our accounting for income taxes.
 

Recently Issued Accounting Pronouncements
 
Please refer to Note 2 in the Notes to Unaudited Condensed Consolidated Financial Statements included elsewhere in this report for a discussion regarding recently issued accounting pronouncements which may affect us.


ITEM 3.
QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
 
We are exposed to market risk, primarily related to interest rate exposure of our debt obligations that bear interest based on floating rates. None of our cash or cash equivalents as of June 30, 2016 are subject to market risk based on changes in interest rates. We are exposed to market risk due to floating or variable interest rates on our indebtedness under the 2016 Term Loan.  The interest rate on the outstanding balance of the 2016 Term Loan is determined by, at the Company’s option, either: (i) the Eurodollar rate (not less than 1.00%) plus 4.00%, or (ii) an adjusted base rate (not less than 2.00%) plus 3.00%. The interest rate on the outstanding balance from time to time of the 2016 Revolving Credit Facility is determined by, at the Company’s option, either: (i) the Eurodollar rate plus 4.00%, or (ii) an adjusted base rate plus 3.00%; provided that for any period ending on or after the Company’s financial statements are delivered for the fiscal quarter ending September 30, 2016, the interest rate is determined by, at the Company’s option, either: (i) the Eurodollar rate plus a variable margin based upon the Company’s first lien leverage ratio, or (ii) an adjusted base rate plus a variable margin based upon the Company’s first lien leverage ratio. At July 1, 2016, the principal amount of the related borrowings under our 2016 Credit Facility was $300.0 million. A hypothetical 1.0% increase in LIBOR (or base rate) above the current floor would result in an approximately $3.0 million annual increase in interest expense.
 
The carrying values of our cash, trade receivables, and trade payables approximate their fair value primarily because of the short maturities of these instruments. We estimate the fair value of our long-term debt based on the quoted market prices for the same or similar issues or on the current rates offered to us for debt of the same remaining maturities. Based on the borrowing rates currently available to us for debt with similar terms and average maturities, we estimated the fair value of outstanding debt to be $378.5 million as of June 30, 2016.


ITEM 4.
CONTROLS AND PROCEDURES

Evaluation of Disclosure Controls and Procedures

We maintain a set of disclosure controls and procedures designed to ensure that the information we must disclose in reports we file or submit under the Securities Exchange Act of 1934, as amended (Exchange Act) is recorded, processed, summarized and reported within the time periods specified in the SEC's rules and forms. We designed our disclosure controls with the objective of ensuring we accumulate and communicate this information to our management, including our principal executive officer and principal financial officer, as appropriate, to allow timely decisions regarding required disclosure.

Under the supervision and with the participation of our management, including our principal executive officer and principal financial officer, we conducted an evaluation of the effectiveness of the design and operations of our disclosure controls and



procedures, as such term is defined in Rules 13a-15(e) and 15d-15(e) under Exchange Act, as of the end of the period covered by this report. Based on our evaluation, our principal executive officer and principal financial officer concluded that our disclosure controls and procedures were effective as of the end of the period covered by this report to ensure that the information required to be disclosed by us in the reports that we file or submit under the Exchange Act is recorded, processed, summarized and reported within the time periods specified in the SEC's rules and forms.


Changes in Internal Control over Financial Reporting

We made no change in our internal control over financial reporting during the fiscal quarter ended June 30, 2016, which has materially affected, or is reasonably likely to materially affect, our internal control over financial reporting.




PART II - OTHER INFORMATION

ITEM 1.
LEGAL PROCEEDINGS

For a description of our previously reported legal proceedings, refer to “Part I.  Item 3. — Legal Proceedings” in our 2015 Form 10-K, as updated in Note 11 to the accompanying unaudited condensed consolidated financial statements.
 
We are party to other ordinary and routine litigation incidental to our business. We do not expect the outcome of any pending litigation to have a material adverse effect on our consolidated financial position or results of operations.


ITEM 1A.
RISK FACTORS

Other than as described below, we have not identified any material changes to the risk factors described in our 2015 Form 10-K. Risks other than those in our 2015 Form 10-K may materially adversely affect our business, financial condition or future results, including risks and uncertainties not currently known to us or those that we currently believe are immaterial.

There are risks and uncertainties as a result of Z Capital’s non-binding proposal to acquire the Company.

On July 29, 2016 the Board of Directors received a non-binding proposal from Z Capital Partners, L.L.C., on behalf of its affiliated investment funds and/or designees (“Z Capital”), in which, among other things, Z Capital proposed to acquire all of the outstanding common shares of the Company that are not already owned by Z Capital at a purchase price of $15.00 per share in cash. On August 9, 2016, Z Capital increased its offer to $17.35 per share in cash. In connection with Z Capital’s non-binding proposal, the Board appointed a Special Committee of independent directors authorized to, among other things, review Z Capital’s proposal as well as other proposals or strategic alternatives that may be available to the Company. The Company entered into a 15-day exclusivity agreement with Z Capital commencing on August 9, 2016.

The Special Committee has not entered into any definitive agreement with respect to Z Capital’s non-binding proposal. There can be no assurance that any agreement on terms satisfactory to the Special Committee or the Board of Directors will result from the proposal, or that any other transaction will be approved or completed. In addition, the Company expects to incur significant costs, expenses and fees for professional services and other transaction costs in connection with Z Capital’s proposal, and many of these fees and costs will be payable by the Company regardless of whether or not any potential transaction is consummated.

RISKS RELATED TO OUR INDEBTEDNESS

We have a substantial amount of indebtedness, which could have a material adverse effect on our financial condition and our ability to obtain financing in the future and to react to changes in our business.

We have a substantial amount of debt, which requires significant principal and interest payments. As of June 30, 2016, we had $379.8 million of debt outstanding, excluding unamortized debt issuance costs and issue discount and including $200.0 million outstanding under the 2018 Notes and $179.8 million of secured debt outstanding under our 2012 Term Loan. On July 1, 2016, the full amount of the 2018 Notes and the 2012 Term Loan were repaid in connection with our entry into the 2016 Credit Agreement and draw down of $300.0 million under the 2016 Term Loan. As of July 1, 2016, we had $300 million of debt outstanding.

Our significant amount of debt could have important consequences. For example, it could:
make it more difficult for us to satisfy our obligations with respect to the instruments governing our then outstanding indebtedness;
increase our vulnerability to adverse economic and general industry conditions, including interest rate fluctuations, because a portion of our borrowings, including those under our 2016 Credit Facility, are and will continue to be at variable rates of interest;



require us to dedicate a substantial portion of our cash flow from operations to payments on our debt, which would reduce the availability of our cash flow from operations to fund working capital, capital expenditures, strategic acquisitions or other general corporate purposes;
limit our flexibility in planning for, or reacting to, competitive pressures and changes in the business and industry in which we operate;
place us at a disadvantage compared to competitors that may have proportionately less debt;
limit our ability to obtain additional debt or equity financing due to applicable financial and restrictive covenants in our debt agreements; and
increase our cost of borrowing.

We may not be able to generate sufficient cash to service all of our indebtedness and may be forced to take other actions to satisfy our obligations under our indebtedness, which may not be successful.

Our ability to make scheduled payments on or to refinance our debt obligations depends on our financial and operating performance, which is subject to prevailing economic and competitive conditions and to certain financial, business and other factors beyond our control. We cannot assure you that we will maintain a level of cash flows from operating activities sufficient to permit us to pay the principal, premium, if any, and interest on our indebtedness.

If our cash flows and capital resources are insufficient to fund our debt service obligations, we may be forced to reduce or delay capital expenditures, sell assets or operations, seek additional capital or restructure or refinance our indebtedness. We cannot assure you that we would be able to take any of these actions, that these actions would be successful and permit us to meet our scheduled debt service obligations, or that these actions would be permitted under the terms of our existing or future debt agreements. In the absence of such cash flows and capital resources, we could face substantial liquidity problems and might be required to dispose of material assets or operations to meet our debt service and other obligations. Our debt instruments restrict our ability to dispose of assets and use the proceeds from the disposition. We may not be able to consummate those dispositions or to obtain the proceeds which we could realize from them, and any proceeds may not be adequate to meet any debt service obligations then due.

If we cannot make scheduled payments on our debt, we will be in default and, as a result:
our debt holders could declare all outstanding principal and interest to be due and payable;
the lenders under our 2016 Credit Facility could terminate their commitments to loan us money and foreclose against the assets securing their borrowings; and
we could be forced into bankruptcy or liquidation.

The agreements and instruments governing our debt contain restrictions and limitations that impose significant operating and financial restrictions on us and our subsidiaries, which may prevent us from capitalizing on business opportunities.

The 2016 Credit Facility imposes significant operating and financial restrictions on us. These restrictions limit our ability, among other things, to:
incur additional debt;
pay dividends and make other distributions;
make certain investments;
make certain restricted payments;
create liens;
enter into transactions with affiliates;
make certain dispositions; and
merge or consolidate.




In addition, the 2016 Credit Facility contains certain financial covenants, including a first lien secured net leverage ratio covenant, a maximum capital expenditures covenant and a total secured leverage ratio covenant.

As a result of these covenants and restrictions, we are limited in how we conduct our business and we may be unable to raise additional debt or equity financing to compete effectively or to take advantage of new business opportunities. The restrictions caused by such covenants could also place us at a competitive disadvantage to less leveraged competitors. The terms of any future indebtedness we may incur could include more restrictive covenants. Various risks, uncertainties and events beyond our control could affect our ability to comply with these covenants. Failure to comply with any of the covenants in our existing or future financing agreements could result in a default under those agreements and under other agreements containing cross default provisions.  A default, if not cured or waived, would permit lenders to accelerate the maturity of the indebtedness under these agreements, terminate any funding commitments to extend future credit, require us to apply all available cash to repay the borrowings, and/or foreclose upon any collateral securing such indebtedness, including pledges of equity interests of entities owning our casino properties, which could result in the lenders owning, and controlling, the equity of certain of our casino properties. Under these circumstances, we might not have sufficient funds or other resources to satisfy all of our obligations. We would, therefore, be required to seek alternative sources of funding, which may not be available on commercially reasonable terms, terms as favorable as our current agreements or at all, or face bankruptcy. If we are unable to refinance our indebtedness or find alternative means of financing our operations, we may be required to curtail our operations or take other actions that are inconsistent with our current business practices or strategy. We cannot assure you that we will be able to maintain compliance with these covenants in the future and, if we fail to do so, that we will be able to obtain waivers from the lenders and/or amend the covenants.

Despite our substantial indebtedness, we may still be able to incur significantly more debt, which could intensify the risks described above.

Although the terms of the agreements governing our indebtedness contain restrictions on our ability to incur additional indebtedness, these restrictions are subject to a number of important qualifications and exceptions, and the additional indebtedness incurred in compliance with these restrictions could be substantial. Our 2016 Credit Facility allows us to (i) increase the aggregate amount of term loans and/or revolving loans by additional amounts subject to certain terms and conditions under the 2016 Credit Agreement, (ii) incur capital lease obligations and purchase money indebtedness for fixed or capital assets in an aggregate amount not to exceed the greater of $20 million or 26.66% of consolidated EBITDA (with such indebtedness being secured by the assets leased or acquired), and (iii) incur other indebtedness in an amount not to exceed the greater of $15 million or 20% of consolidated EBITDA. If new debt is added to our current debt levels, the related risks that we and our subsidiaries now face could intensify.

The state of the financial markets may impact our ability to obtain sufficient financing and credit in the future.

In addition to earnings and cash flows from operations, we may rely on borrowed money to finance our business, which may be constrained if we are unable to borrow additional capital or refinance existing borrowings on reasonable terms. Over the past several years, financial markets and banking systems experienced disruption which had a dramatic impact on the availability and cost of capital and credit. The United States and other governments have enacted legislation and taken other actions to help alleviate these conditions, although there is no assurance that such steps will have the effect of easing the conditions in credit and capital markets over the long term. Therefore, we have no assurance that such steps will facilitate us being able to obtain financing or access the capital markets for future debt or refinancing opportunities in a timely manner, or on acceptable terms, or at all. If we are unable to borrow funds, we may be unable to make the capital expenditures necessary for us to compete with other casino operators or take advantage of new business opportunities. As a result, the lack of such funding could have a material adverse effect on our business, results of operations and financial condition and our ability to service our indebtedness.


ITEM 2.
UNREGISTERED SALES OF EQUITY SECURITIES AND USE OF PROCEEDS

None.


ITEM 3.
DEFAULTS UPON SENIOR SECURITIES

None.


ITEM 4.
MINE SAFETY DISCLOSURES

Not applicable.


ITEM 5.
OTHER INFORMATION

None.




ITEM 6.
EXHIBITS
Exhibit Number
 
Description
31.1
 
Certification of Chief Executive Officer pursuant to Section 302 of the Sarbanes-Oxley Act of 2002.
31.2
 
Certification of Chief Financial Officer pursuant to Section 302 of the Sarbanes-Oxley Act of 2002.
32
 
Certification of Chief Executive Officer and Chief Financial Officer pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.
101.INS
 
XBRL Instance Document†
101.SCH
 
XBRL Taxonomy Extension Schema Document†
101.CAL
 
XBRL Taxonomy Extension Calculation Linkbase Document†
101.DEF
 
XBRL Taxonomy Extension Definition Linkbase Document†
101.LAB
 
XBRL Taxonomy Extension Label Linkbase Document†
101.PRE
 
XBRL Taxonomy Extension Presentation Linkbase Document†

Pursuant to Rule 406T of Regulation S-T, the Interactive Data Files on Exhibit 101 hereto are deemed not filed or part of a registration statement or prospectus for purposes of Sections 11 or 12 of the Securities Act of 1933, as amended, are deemed not filed for purposes of Section 18 of the Securities and Exchange Act of 1934, as amended, and otherwise are not subject to liability under those sections.





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. 
 
 
AFFINITY GAMING
 
 
 
Dated:
August 15, 2016
By:
/s/ Michael Silberling
 
 
Name:
Michael Silberling
 
 
Title:
Chief Executive Officer
 
 
 
 
Dated:
August 15, 2016
By:
/s/ Walter Bogumil
 
 
Name:
Walter Bogumil
 
 
Title:
Senior Vice President, Chief Financial Officer and Treasurer