20-F 1 igt-123116x20f.htm 20-F Document

UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549 
FORM 20-F
o
REGISTRATION STATEMENT PURSUANT TO SECTION 12(b) OR 12(g) OF THE SECURITIES EXCHANGE ACT OF 1934
 
 
OR
 
 
x
ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
For the fiscal year ended December 31, 2016
 
 
OR
 
 
o
TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
 
 
OR
 
 
o
SHELL COMPANY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
Commission file number 001-36906
INTERNATIONAL GAME TECHNOLOGY PLC
(Exact name of Registrant as specified in its charter)
 
England and Wales
(Jurisdiction of incorporation or organization)
 
66 Seymour Street, 2nd Floor
London W1H 5BT
United Kingdom
(Address of principal executive offices)
 
Neil Abrams
General Counsel
IGT Center
10 Memorial Boulevard
Providence, RI  02903
Telephone:  (401) 392-1000
Fax:  (401) 392-4812
E-mail:  Neil.Abrams@IGT.com
(Name, Telephone, E-mail and/or Facsimile number and Address of Company Contact Person)
 
Securities registered pursuant to Section 12(b) of the Act: 
 
Title of each class
 
Name of each exchange on which registered
 
 
 
 
 
 
 
Ordinary Shares, nominal value $0.10
 
New York Stock Exchange
 
Securities registered pursuant to Section 12(g) of the Act: None
Securities for which there is a reporting obligation pursuant to Section 15(d) of the Act: None
Indicate the number of outstanding shares of each of the issuer’s classes of capital or common stock as of the close of the period covered by the annual report:
 
202,285,166 ordinary shares, nominal value $0.10 per share.
Indicate by check mark if the registrant is a well-known seasoned issuer, as defined in Rule 405 of the Securities Act. 
x Yes   o No
If this report is an annual or transition report, indicate by check mark if the registrant is not required to file reports pursuant to Section 13 or 15(d) of the Securities Act of 1934. 
o Yes   x No
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.
x Yes   o No
Indicate by check mark whether the registrant has submitted electronically and posted on its corporate website, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (§ 232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files).
x Yes   o No
Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, or a non-accelerated filer.  See definition of “accelerated filer and large accelerated filer” in Rule 12b-2 of the Exchange Act.  (Check one):
Large accelerated filer x
Accelerated filer o
Non-accelerated filer o (Do not check if a smaller reporting company)
 
Smaller reporting company o
 
Emerging growth company o
If an emerging growth company, indicate by check mark if the registrant has elected not to use the extended transition period for complying with any new or revised financial accounting standards provided pursuant to Section 13(a) of the Exchange Act. o
Indicate by check mark which basis of accounting the registrant has used to prepare the financial statements included in this filing:
U.S. GAAP x
 
 International Financial Reporting Standards as issued
by the International Accounting Standards Board o
 
Other o
If “Other” has been checked in response to the previous question indicate by check mark which financial statement item the registrant has elected to follow:
o Item 17   or o Item 18
If this is an annual report, indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act).
o Yes   x No
(APPLICABLE ONLY TO ISSUERS INVOLVED IN BANKRUPTCY PROCEEDINGS DURING THE PAST FIVE YEARS)
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.
o Yes   o No




TABLE OF CONTENTS
 
 
Page
 
 
 
 
 
 
 
 
 
 
 
 
PART II
 
 
 
 
 
 
 
 
PART III
 
 
 
 


2



PRESENTATION OF FINANCIAL AND CERTAIN OTHER INFORMATION
International Game Technology PLC, a public limited company organized under the laws of England and Wales (the “Parent”), has its corporate headquarters in London, England. The Parent is the successor to GTECH S.p.A., a società per azioni incorporated under the laws of Italy (“GTECH”), and the sole stockholder of International Game Technology, a Nevada corporation (“IGT”). The Parent, together with its consolidated subsidiaries, has principal operating facilities in Rome, Italy; Providence, Rhode Island; and Las Vegas, Nevada.
On April 7, 2015, GTECH acquired IGT through:
the merger of GTECH with and into the Parent (the “Holdco Merger”); and
the merger of Georgia Worldwide Corporation, a Nevada corporation and a wholly owned subsidiary of the Parent (“Sub”) with and into IGT (the “Subsidiary Merger” and, together with the Holdco Merger, the “Mergers”).
For additional information on the Mergers, see “Item 4. Information on the Company-A. History and Development of the Company-Acquisition of International Game Technology.”
In this annual report on Form 20-F, unless otherwise specified or the context otherwise indicates, all references to “IGT PLC” and the “Company” refer to the business and operations of the Parent and its consolidated subsidiaries or, for periods of or points in time prior to the completion of the Holdco Merger, to GTECH together with its consolidated subsidiaries, as the context may require.
The historical results of operations for the Parent reflect the operations of GTECH prior to the completion of the Holdco Merger.
This annual report on Form 20-F includes the Consolidated Financial Statements of the Company for the years ended December 31, 2016, 2015 and 2014 (the “Consolidated Financial Statements”) prepared in accordance with United States Generally Accepted Accounting Principles (“GAAP”) as issued by the Financial Accounting Standards Board (“FASB”).
The financial information is presented in U.S. dollars. All references to “U.S. dollars,” “U.S. dollar,” “U.S. $” and “$” refer to the currency of the United States of America (or “U.S.”). All references to “euro” and “€” refer to the currency introduced at the start of the third stage of the European Economic and Monetary Union pursuant to the Treaty on the Functioning of the European Union, as amended.
The language of this annual report on Form 20-F is English. Certain legislative references and technical terms have been cited in their original language in order that the correct technical meaning may be ascribed to them under applicable law. 
Certain totals in the tables included in this annual report on Form 20-F may not add due to rounding.


3


Glossary of Certain Terms and Abbreviations (as used in this annual report on Form 20-F)
Abbreviation/Term
 
Definition
ADM
 
Agenzia delle Dogane e Dei Monopoli
ASC
 
Accounting Standards Codification
AWPs
 
Amusement with prize machines
Articles
 
the Articles of Association of the Parent adopted on April 7, 2015
B2B
 
Business-to-business
B2C
 
Business-to-consumer
Board
 
the board of directors of the Parent
CA 2006
 
Companies Act 2006, as amended
CEO
 
Chief Executive Officer
CFO
 
Chief Financial Officer
Code
 
Internal Revenue Code of 1986, as amended
Company
 
the Parent together with its consolidated subsidiaries
COSO
 
Committee of Sponsoring Organizations of the Treadway Commission
CTA
 
Italian Consolidated Tax Act
DoubleDown
 
Double Down Interactive LLC
DTC
 
The Depository Trust Company
DTR
 
Disclosure and Transparency Rules
EBITDA
 
Earnings before interest, taxes, depreciation and amortization
EPS
 
Earnings per share
E.U.
 
European Union
Exchange Act
 
Securities Exchange Act of 1934, as amended
FASB
 
Financial Accounting Standards Board
FCPA
 
U.S. Foreign Corrupt Practices Act of 1977, as amended
FMC
 
Facilities Management Contracts
SARs
 
Stock appreciation rights which are not granted in conjunction with a share option
GAAP
 
United States Generally Accepted Accounting Principles
GMS
 
Gaming Management Systems
GTECH
 
GTECH S.p.A.
HMRC
 
Her Majesty’s Revenue & Customs of the United Kingdom
Holdco Merger
 
The merger of GTECH with and into the Parent
IAS
 
International accounting standards
IFRS
 
International Financial Reporting Standards
iGaming
 
Interactive gaming
IGT
 
International Game Technology, a Nevada corporation
IGT PLC
 
the Parent together with its consolidated subsidiaries
ITVMs
 
Instant ticket vending machines
Late Number
 
One of the 90 numbers of the Lotto game in Italy that has not been drawn for 100 drawings
LMA
 
Lottery Management Agreements
LN
 
Lotterie Nazionali S.r.l.
Lottoitalia
 
Lottoitalia s.r.l, a joint venture company between Lottomatica, Italian Gaming Holding a.s., Arianna 2001 and Novomatic Italia
Lottomatica
 
Lottomatica S.p.A.
LTI
 
Long-term incentive compensation
Mergers
 
The Subsidiary Merger together with the Holdco Merger
Moody’s
 
Moody’s Investor Service

4


NAGI
 
North America Gaming and Interactive
NYSE
 
New York Stock Exchange
Parent
 
International Game Technology PLC
PCAOB
 
Public Company Accounting Oversight Board (United States)
PFICs
 
Passive Foreign Investment Companies
PMA
 
Private management agreement
PSC
 
Product Sales Contracts
PwC Entities
 
PricewaterhouseCoopers LLP, as well as all of the foreign entities belonging to its network
PwC Italy
 
PricewaterhouseCoopers S.p.A.
PwC US
 
PricewaterhouseCoopers LLP
R&D
 
Research and development
RFP
 
Request for proposal
S&P
 
Standard & Poor’s Ratings Services
Same Store Revenue
 
Revenue from existing customers as opposed to new customers
SARs
 
Share appreciation rights
SEC
 
United States Securities and Exchange Commission
SOG
 
Stock Ownership Guidelines
SSTs
 
Self-Service Terminals
STI
 
Short-term incentive compensation
Subsidiary Merger
 
The merger of Georgia Worldwide Corporation, a wholly owned subsidiary of the Parent, with and into IGT
Tandem SARs
 
SARs which are granted in conjunction with a share option
10eLotto
 
A game of chance in Italy
TITO
 
Ticket-In-Ticket-Out
U.K.
 
United Kingdom
U.S.
 
United States of America
VLTs
 
Video lottery terminals
VSOE
 
Vendor specific objective evidence
WAP
 
Wide area progressive
WLA
 
World Lottery Association


5


PART I
 
Item 1. 
Identity of Directors, Senior Management and Advisers 
Not applicable.
 
Item 2. 
Offer Statistics and Expected Timetable
Not applicable.
 
Item 3. 
Key Information
A.
Selected Financial Data 
The following tables set forth summary historical consolidated financial and other information of the Company for the periods indicated, and have been derived from the Consolidated Financial Statements of the Company for the years ended December 31, 2016, 2015, 2014 and 2013.
The following information should be read in conjunction with: 
“Presentation of Financial and Certain Other Information;”
“Item 3.D. Risk Factors;”
“Item 5. Operating and Financial Review and Prospects;” and
the Consolidated Financial Statements included in “Item 18. Financial Statements.”
Consolidated Income Statement Data
 
 
For the years ended December 31,
($ thousands, except share and dividend amounts)
 
2016
 
2015
 
2014
 
2013
Total revenue
 
5,153,896

 
4,689,056

 
3,812,311

 
3,829,634

Operating income
 
660,436

 
539,956

 
715,051

 
683,976

Income (loss) before provision for income taxes
 
323,413

 
(17,031
)
 
340,217

 
459,437

Net income (loss)
 
264,207

 
(55,927
)
 
99,804

 
233,482

Attributable to:
 
 

 
 

 
 

 
 
IGT PLC
 
211,337

 
(75,574
)
 
86,162

 
201,605

Non-controlling interests
 
45,413

 
19,647

 
13,642

 
31,877

Redeemable non-controlling interests
 
7,457

 

 

 

Net income (loss) attributable to IGT PLC per common share - basic
 
1.05

 
(0.39
)
 
0.50

 
1.16

Net income (loss) attributable to IGT PLC per common share - diluted
 
1.05

 
(0.39
)
 
0.49

 
1.16

Dividends declared per common share ($)
 
0.80

 
0.40

 
1.97

 
0.95

During the historical periods presented there were no discontinued operations.
Dividends declared in euro in 2014 and 2013 were translated into U.S. dollars at the exchange rates in effect on the dates the dividends were declared.

6


Consolidated Balance Sheet Data
 
 
December 31,
($ thousands, except share amounts)
 
2016
 
2015
 
2014
 
2013
Cash and cash equivalents
 
294,094

 
627,484

 
317,106

 
578,008

Total assets
 
15,060,162

 
15,114,692

 
8,435,297

 
9,616,622

Debt (a)
 
7,863,162

 
8,334,173

 
2,959,471

 
3,817,055

Redeemable non-controlling interests
 
223,141

 

 

 

Total equity
 
3,425,665

 
3,366,142

 
2,947,720

 
3,367,307

Attributable to IGT PLC
 
3,068,699

 
3,017,648

 
2,569,837

 
2,815,381

Attributable to non-controlling interests
 
356,966

 
348,494

 
377,883

 
551,926

Common stock
 
20,228

 
20,024

 
217,171

 
215,836

Common shares issued
 
202,285,166

 
200,244,239

 
174,976,029

 
173,992.168

______________________________________________
(a) Debt is composed of long-term debt, including current portion and short-term borrowings. 
Selected financial data for the earliest year of the five-year period has been omitted as such information cannot be provided without unreasonable effort and expense as the Company converted from IFRS to GAAP in 2015.
B.
Capitalization and Indebtedness
Not applicable.
C.
Reasons for the Offer and Use of Proceeds
Not applicable.

7


D.
Risk Factors
The following risks should be considered in conjunction with “Item 5. Operating and Financial Review and Prospects” and the other risks described in the Safe Harbor Statement set forth in Item 5.G. These risks may affect the Company's operating results and, individually or in the aggregate, could cause its actual results to differ materially from past and anticipated future results. The following discussion of risks may contain forward-looking statements which are intended to be covered by the Safe Harbor Statement. Except as may be required by law, the Company undertakes no obligation to publicly update forward-looking statements, whether as a result of new information, future events, or otherwise. The Company invites you to consult any further related disclosures made by the Parent from time to time in materials filed with or furnished to the SEC.
Risks related to the Company's Business and Industry
The global political and economic climate may impact the Company and its operations, business, financial conditions, and prospects
The Company is a global business and it is exposed to risks associated with the performance of the global economy. The volatility of the financial markets shows that there can be no assurance that there will be no recurrence of global financial and economic crises or similar adverse market conditions.
Additionally, poor economic, political and health conditions, riots and unemployment may affect the Company's workforce and supply chain, as well as the general business environment, in specific markets in which the Company operates including tribal jurisdictions. The Company's business is particularly sensitive to reductions in discretionary consumer spending in the markets in which it operates, which may be affected by general economic or political conditions in these markets.
Economic risks of doing business globally include:
Inflation and currency exchange risk;
High interest rates, debt default, or unstable capital markets;
Additional costs of compliance with the laws of international jurisdictions;
Illiquid or restricted foreign exchange markets;
Restrictions on foreign direct investment; and
Exposure to severe weather, wildfires and other natural events that could disrupt operations.
Political risks include:
Political instability or change of leadership in government;
Change of governmental laws, regulations and policies;
New foreign exchange controls regulating the flow of money into or out of a country;
Failure of a government to honor existing contracts;
Governmental corruption; and
Political unrest, war and acts of terrorism.
In particular, the ongoing Eurozone debt crisis and the vote by the U.K. to leave the E.U. ("Brexit") have created uncertainty that could impact the Company's operations, business, financial condition or prospects:
Eurozone Crisis. The lack of resolution of the sovereign debt crisis of several countries of the Eurozone, including Greece, Italy, Cyprus, Ireland, Spain and Portugal, together with the risk of contagion to other—more stable—countries, particularly France and Germany, has raised a number of uncertainties regarding the stability and overall standing of the European Monetary Union. Concerns that the Eurozone sovereign debt crisis could worsen may lead to the reintroduction of national currencies in one or more Eurozone countries or, in particularly dire circumstances, the abandonment of the euro - a risk which has increased in likelihood following Brexit. The departure or risk of departure from the euro by one or more Eurozone countries and the abandonment of the euro as a currency could have negative effects on both existing contractual relations and the fulfillment of obligations by the Company or its customers.
Brexit. On March 29, 2017, the U.K. triggered Article 50, formally beginning the negotiations between the U.K. and the E.U. with respect to the U.K.'s exit from the E.U. The current deadline to formally exit the E.U. is March 29, 2019.

8


Until these negotiations have concluded, the impact of Brexit on the U.K. and the rest of the E.U. is unclear, and further political and economic uncertainty in the U.K. and the E.U. may impact the Company's global operations. The Company’s ability to operate in Italy may be negatively impacted in the event that Brexit does not maintain parity rights for U.K. and E.U. companies and the current Italian regulatory framework is modified as a result of Brexit. In addition, there is uncertainty concerning the impact of Brexit on the exchange rate. The post-Brexit fall in the pound and strengthening of the U.S. dollar could significantly impact the Company's operations, business, financial condition or prospects as the Company does business in the U.S., the U.K. and the E.U.
Economic contraction, economic uncertainty and the perception of weak or weakening economic conditions globally or in specific markets in which the Company operates may cause a decline in demand for the gaming products and services that the Company offers. In addition, a decline in the relative health of the gaming industry and any difficulty or inability of customers to obtain adequate levels of capital to finance their ongoing operations may reduce their resources available to purchase the Company's products and services or make timely payments to the Company, which may adversely affect the Company's revenues or result in the Company incurring additional provisions for bad debts related to credit concerns on certain receivables, including in connection with customer financing provided by the Company. If the Company experiences a significant unexpected decrease in demand for its products, the Company could also be required to increase its inventory obsolescence reserves.
A significant portion of the Company’s total consolidated revenues is derived from government concessions in Italy including the Lotto, instant lottery and machine gaming concessions
A substantial portion of the Company’s revenues (equal to approximately 31.7% of its total consolidated revenues for the year ended December 31, 2016) is derived from exclusive and non-exclusive concessions awarded to the Company by Agenzia delle Dogane e Dei Monopoli (“ADM”), the governmental authority responsible for regulating and supervising gaming in Italy. In particular, a substantial portion of the Company’s revenues is derived from two exclusive concessions, one for the operation of the Italian Gioco del Lotto game (the “Lotto Concession”) and one for instant tickets (equal to approximately 10.7% and 5.6%, respectively, of its total consolidated revenues for the year ended December 31, 2016).
In March 2016, the Parent, through its subsidiary Lottomatica, entered into a consortium with Italian Gaming Holding a.s. (a subsidiary of Czech lottery operator SAZKA) (“IGH”), Arianna 2001 and Novomatic Italia (the "Consortium") to bid on the Lotto Concession. On May 16, 2016, the Consortium was awarded management of the Lotto Concession for a nine-year term, set to expire in 2025. Under the terms of the consortium agreement, Lottomatica is the principal operating partner to fulfill the requirements of the Lotto Concession. The Company's current instant ticket concession will expire in 2019, and the bid for its renewal is expected to be concluded prior to expiration. The Company also has a non-exclusive concession for the operation of video lottery terminals (“VLTs”) and amusement with prize machines (“AWPs”) in Italy.
The Company expects that a significant portion of its business and profitability will continue to depend upon the concessions awarded to the Company by ADM. Concessions may be terminated prior to their expiration dates upon the occurrence of certain events of default affecting the Company, or if such concessions are deemed to be against the public interest, or terminated or annulled if successfully challenged by competitors, Stanley International Betting Limited, or others. In addition, the conditions for any new concession will be established by law and included in the rules of the new concession. Any material reduction in the Company’s revenues from these concessions, including as a result of an annulment, early termination, or non-renewal of these concessions following their expiration, could have a material adverse effect on the Company’s results of operations, business, financial condition, or prospects. 
There may be risks associated with the Consortium arrangement for the Lotto Concession
According to the bid procedure and consortium agreement, a joint venture company called Lottoitalia s.r.l. ("Lottoitalia") has been established with Lottomatica having 61.5% equity ownership interest, and the remainder of the equity ownership shared amongst the other three Consortium members. Lottomatica appointed a majority of the Lottoitalia board and entered into a contract with Lottoitalia to provide technology products and services for the Lotto Concession.
In the event that Lottoitalia is profitable in a given year, Lottomatica as principal operating partner will be required to make distributions to the other Consortium members, which will reduce the amount of profits and cash flows the Company receives from the Lotto Concession. Furthermore, if the Consortium members are unable to reach agreement upon certain specified matters or if Lottoitalia’s cash flows generated in the first year of operation fall below a pre-determined level, IGH may put its entire 32.50% interest in Lottoitalia to Lottomatica and, in certain cases, Lottomatica may exercise a call option to acquire IGH’s entire 32.50% interest in Lottoitalia. In the event IGH exercises the put right, the Parent, through Lottomatica, will take on a greater percentage of the ownership of Lottoitalia and accordingly a greater amount of the investment and risk related to Lottoitalia.

9


The Company’s operations are dependent upon its continued ability to retain and extend its existing contracts and win new contracts
The Company derives a substantial portion of its revenues and cash flow from its portfolio of long-term contracts in the North America Lottery and International segments (equal to approximately 31.8% of its total consolidated revenues for the year ended December 31, 2016), awarded through competitive procurement processes. In addition, the Company’s U.S. lottery contracts typically permit a lottery authority to terminate the contract at any time for material and uncured breaches and for other specified reasons out of the Company's control, such as the failure by a state legislature to approve the required budget appropriations, and many of these contracts in the U.S. permit the lottery authority to terminate the contract at will with limited notice and do not specify the compensation to which the Company would be entitled were such termination to occur.
In the event that the Company is unable or unwilling to perform certain lottery contracts, such contracts permit the lottery authority a right to use the Company's system-related equipment and software necessary for the performance of the contract until the expiration or earlier termination of the contract, in some cases without paying the Company any compensation for the right to use such equipment and software.
The termination of or failure to renew or extend one or more of the Company’s lottery contracts, or the renewal or extension of one or more of the Company’s lottery contracts on materially altered terms or the transfer of its assets without compensation could have a material adverse effect on the Company’s results of operations, business, financial condition, or prospects.
The Company is subject to substantial penalties for failure to perform
The Company’s Italian concessions, lottery contracts in the U.S. and in other jurisdictions and other service contracts often require performance bonds or letters of credit to secure its performance under such contracts and require the Company to pay substantial monetary liquidated damages in the event of non-performance by the Company.
At December 31, 2016, the Company had outstanding performance bonds and letters of credit in an aggregate amount of approximately $1.504 billion. These instruments present a potential for expense for the Company and divert financial resources from other uses. Claims on performance bonds, drawings on letters of credit and payment of liquidated damages could individually or in the aggregate have a material adverse effect on the Company's results of operations, business, financial condition, or prospects.
The Company’s inability to successfully complete and integrate future acquisitions could limit its future growth or otherwise be disruptive to its ongoing business
From time to time, the Company expects it will pursue acquisitions in support of its strategic goals. There can be no assurance that acquisition opportunities will be available on acceptable terms or at all or that the Company will be able to obtain necessary financing or regulatory approvals to complete potential acquisitions. The Company’s ability to succeed in implementing its strategy will depend to some degree upon the ability of its management to identify, complete and successfully integrate commercially viable acquisitions. Acquisition transactions may disrupt the Company’s ongoing business and distract management from other responsibilities. In connection with any such acquisitions, the Company could face significant challenges in managing and integrating its expanded or combined operations, including acquired assets, operations and personnel.
Slow growth or declines in the lottery and gaming markets could lead to lower revenues and cash flows for the Company
The Company’s dependence on large jackpot games and, specifically, the decline in aggregate sales at similar jackpot levels (“jackpot fatigue”) can have a negative impact on revenue from this game category. These developments may in part reflect increased competition for consumers’ discretionary spending, including from a proliferation of destination gaming venues and an increased availability of Internet gaming opportunities. The Company’s future success will depend, in part, on the success of the lottery industry and the gaming industry in attracting and retaining new players in the face of such increased competition in the entertainment and gaming markets, as well as its own success in developing innovative services, products and distribution methods/systems to achieve this goal. In addition, there is a risk that new products and services may replace existing products and services. The replacement of old products and services with new products and services may offset the overall growth of sales of the Company. A failure by the Company to achieve these goals could have a material adverse effect on the Company’s results of operations, business, financial condition, or prospects.
In addition, demand for the Company’s gaming products is driven substantially by the establishment of new land-based and/or online gaming jurisdictions, the addition of new casinos or expansion of existing casinos within existing gaming jurisdictions and the replacement of existing gaming machines. The establishment or expansion of gaming in any jurisdiction, whether land-based or online, typically requires a public referendum or legislative action. As a result, gaming continues to be the subject of

10


public debate, and there are numerous active organizations that oppose gaming. Opposition to gaming could result in restrictions on, or even prohibitions of, gaming operations or the expansion of operations in any jurisdiction.
The construction of new casinos or expansion of existing casinos fluctuates with demand, general economic conditions and the availability of financing. Slow growth in the establishment of new gaming jurisdictions, delays in the opening of new or expanded casinos and declines in, or low levels of demand for, machine replacements could reduce the demand for the Company’s products. Because a substantial portion of the Company’s sales come from repeat customers, its business could be affected if one or more of its customers consolidates with another entity that utilizes more of the products and services of the Company’s competitors or that reduces spending on the Company's products or causes downward pricing pressures. Such consolidation could lead to order cancellations, a slowing in the rate of gaming machine replacements, or require the Company’s current customers to switch to its competitors’ products, any of which could negatively impact the Company’s results of operations, business, financial condition, or prospects.
The Company has a concentrated customer base in certain business segments and the loss of any of its larger customers (or lower sales from any of these customers) could lead to significantly lower revenue
Revenues from the Company’s top 10 customers in its combined North America Lottery and International segments accounted for approximately 17.3% of its total consolidated revenues for the year ended December 31, 2016. If the Company were to lose any of these larger customers, or if these larger customers experience slower lottery ticket sales and consequently reduced lottery revenue, there could be a material adverse effect on the Company’s results of operations, business, financial condition, or prospects.
Demand for and the level of play of the Company’s products could be adversely affected by changes in player and operator preferences
As a supplier of gaming machines, the Company must offer products that appeal to gaming operators and players. The Company’s revenues are dependent on the earning power and life span of its games, putting constant pressure on the Company to develop and market new game content and technologically innovative products to maintain its revenue and remain competitive. If the Company is unable to anticipate or react in a timely manner to any significant changes in player preferences, such as a negative reception to new innovations or jackpot fatigue (i.e., declining play levels on smaller jackpots), the demand for and level of play of the Company’s gaming products could decline. Further, the Company’s products could suffer a loss of floor space to table games or competitors’ products, or operators may reduce revenue sharing arrangements, each of which would harm the Company’s results of operations, business, financial condition, or prospects.
In addition, the popularity and acceptance of gaming is influenced by the prevailing social mores, and changes in social mores could result in reduced acceptance of gaming as a leisure activity. The Company’s future financial success will depend on the appeal of its gaming offerings to its customers and players and the acceptance of gaming generally. If the Company is not able to anticipate and react to changes in consumer preferences and social mores, its competitive and financial position may be adversely affected. Gaming may lose popularity as new leisure activities arise or as other leisure activities become more popular. If the popularity of gaming declines for any reason, the Company’s results of operations, business, financial condition, or prospects may be adversely affected.
If the Company is unable to protect its intellectual property or prevent its unauthorized use by third parties, its ability to compete in the market may be harmed
The Company protects its intellectual property to ensure that its competitors do not use such intellectual property. However, intellectual property laws in Italy, the U.S. and in other jurisdictions may afford differing and limited protection, may not permit the Company to gain or maintain a competitive advantage, and may not prevent its competitors from duplicating its products, designing around its patented products, or gaining access to its proprietary information and technology.
Although the Company takes measures intended to prevent disclosure of its trade secrets and proprietary know-how through non-disclosure and confidentiality agreements and other contractual restrictions, the Company may not be able to prevent the unauthorized disclosure or use of its technical knowledge or trade secrets. For example, there can be no assurance that consultants, vendors, partners, former employees or current employees will not breach their obligations regarding non-disclosure and restrictions on use. In addition, anyone could seek to challenge, invalidate, circumvent or render unenforceable any of the Company's patents. The Company cannot provide assurance that any pending or future patent applications it holds will result in an issued patent, or that, if patents are issued, they would necessarily provide meaningful protection against competitors and competitive technologies and/or adequately protect the Company’s then-current technologies. The Company may not be able to detect the unauthorized use of its intellectual property, prevent breaches of its cybersecurity efforts, or take appropriate steps to enforce its intellectual property rights effectively. In addition, certain contractual provisions, including

11


restrictions on use, copying, transfer and disclosure of licensed programs, may be unenforceable under the laws of certain jurisdictions.
The Company licenses intellectual property rights from third parties. If such third parties do not properly maintain or enforce the intellectual property rights underlying such licenses, or if such licenses are terminated or expire without being renewed, the Company could lose the right to use the licensed intellectual property, which could adversely affect its competitive position or its ability to commercialize certain of its technologies, products or services.
In addition, some of the Company’s most popular games and features are based on trademarks, patents and other intellectual property licensed from third parties. The Company’s future success may depend upon its ability to obtain, retain and/or expand licenses for popular intellectual property rights with reasonable terms in a competitive market. In the event that the Company cannot renew and/or expand existing licenses, it may be required to discontinue or limit its use of the games or gaming machines that use the licensed technology or bear the licensed marks.
The Company’s success may depend in part on its ability to obtain trademark protection for the names or symbols under which it markets its products and to obtain copyright protection and patent protection of its proprietary technologies, intellectual property and other game innovations. The Company may not be able to build and maintain goodwill in its trademarks or obtain trademark or patent protection, and there can be no assurance that any trademark, copyright or issued patent will provide competitive advantages for the Company or that the Company’s intellectual property will not be successfully challenged or circumvented by competitors.
The Company intends to enforce its intellectual property rights, and from time to time may initiate claims against third parties that it believes are infringing its intellectual property rights if it is unable to resolve matters satisfactorily through negotiation. Litigation brought to protect and enforce the Company’s intellectual property rights could be costly, time-consuming and distracting to management and could fail to obtain the results sought and could have a material adverse effect on the Company’s results of operations, business, financial condition, or prospects.
Third party intellectual property infringement claims against the Company could limit its ability to compete effectively
The Company cannot provide assurance that its products do not infringe the patents or other intellectual property rights of third parties. Infringement and other intellectual property claims and proceedings brought against the Company, whether successful or not, are costly, time-consuming and distracting to management, and could harm its reputation. In addition, intellectual property claims and proceedings could require the Company to do one or more of the following: (1) cease selling or using any of its products that allegedly incorporate the infringed intellectual property, (2) pay substantial damages, (3) obtain a license from the third party owner, which license may not be available on reasonable terms, if at all, (4) rebrand or rename its products, and (5) redesign its products to avoid infringing the intellectual property rights of third parties, which may not be possible and, if possible, could be costly, time-consuming or result in a less effective product. A successful claim against the Company could have a material adverse effect on its results of operations, business, financial condition, or prospects.
The Company’s business may be adversely affected by competition
The lottery and gaming businesses are highly competitive. The Company faces competition in Italy, the U.S. and worldwide in a number of ways, including:
A proliferation of destination gaming venues, and an increased availability of gaming opportunities including gaming opportunities on the internet;
Aggressive pricing from competitors in an effort to gain market share;
Challenges to the awards of contracts to the Company by its competitors, including challenges to the award of the Lotto Concession and other significant contracts;
Consolidation among gaming equipment and technology companies that are better able to compete by increasing their scale and operating efficiencies;
Entry of new competitors into the internet gaming market due to lower costs of entry;
Consolidation among casino operators and cutbacks in capital spending by casino operators resulting from the economic downturn and resulting decreased player spend; and
Less overall time and discretionary spending by customers increases competition from other forms of entertainment.
If any of these risks are realized, the Company’s competitive position and therefore its results of operations, business, financial condition, or prospects may be materially adversely affected.

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The Company’s success in the lottery and gaming businesses depends in large part on its ability to develop and manage frequent introductions of innovative products and the ability to respond to technological changes
The gaming industry is characterized by dynamic customer demand and technological advances, both for land-based and online gaming products. As a result, the Company must continually introduce and successfully market new themes and technologies in order to remain competitive and effectively stimulate customer demand. The process of developing new products and systems is inherently complex and uncertain. It requires accurate anticipation of changing customer needs and end-user preferences as well as emerging technological trends. If the Company's competitors develop new game content and technologically innovative products and the Company fails to keep pace, its business could be adversely affected. To remain competitive, the Company invests resources toward its research and development efforts to introduce new and innovative games with dynamic features to attract new customers and retain existing customers. If the Company fails to accurately anticipate customer needs and end-user preferences through the development of new products and technologies, the Company could lose business to its competitors, which would adversely affect its results of operations and financial position.
The Company intends to continue investing resources in research and development. There is no assurance that its investments in research and development will guarantee successful products. The Company invests heavily in product development in various disciplines: platform hardware, platform software, online services, content (game) design and casino software systems. Because the Company’s newer products are generally more technologically sophisticated than those it has produced in the past, the Company must continually refine its design, development and delivery capabilities across all channels to ensure product innovation. If the Company cannot efficiently adapt its processes and infrastructure to meet the needs of its product innovations, its results of operations, business, financial condition, or prospects could be negatively impacted.
The Company’s customers will purchase new products only if it is likely to increase profits more than competitors’ products. The amount of profits primarily depends on consumer play levels, which are influenced by player demand for the Company’s products. There is no certainty that the Company’s new products will attain this market acceptance or that the Company’s competitors will not more effectively anticipate or respond to changing customer preferences. In addition, any delays by the Company in introducing new products could negatively impact its operating results by providing an opportunity for its competitors to introduce new products and gain market share.
The illegal gaming market could negatively affect the Company’s business
A significant threat for the entire gaming and betting industry arises from illegal activities. Such illegal activities may drain significant betting volumes away from the regulated industry. In particular, illegal gaming could take away a portion of the present players that are the focus of the Company’s business. The loss of such players could have a material adverse effect on the Company's results of operations, business, financial condition, or prospects.
The Company’s online social gaming casino offering is conducted largely through Facebook, Apple’s iOS platform and Google’s Android platform, and the Company’s business and growth prospects could suffer if it fails to maintain good relationships with these parties, or if any of these parties were to alter the terms of their relationship with the Company
DoubleDown Casino, which is the Company’s online social gaming casino offering, operates largely through Facebook, Apple’s iOS platform and Google’s Android platform. Consequently, the Company’s growth prospects and future revenues from this online offering are dependent on the Company’s continued relationships with Facebook, Apple and Google. While the Company has historically maintained good relationships with these parties under the same or similar terms, the Company’s online social gaming casino offering would suffer if it is unable to continue these relationships in the future.
In addition, Facebook, Apple and Google each governs its relationship with the Company through standard terms and conditions for application developers, which, along with their respective privacy policies, can be modified from time to time by each of Facebook, Apple and Google. Any future changes to such terms and conditions or privacy policies, including any changes required as a result of government regulation, could have a material adverse impact on the Company’s business. For example, if Facebook, Apple or Google were to increase the fees they charge application developers, the Company’s operating income would suffer. Additionally, if users were to limit the Company’s ability to use their personal information, if Facebook, Apple or Google were to develop competitive offerings, either on its own or in cooperation with another competitor, or if Facebook, Apple or Google were to alter its operating platform to the Company’s detriment, the Company’s growth prospects could be negatively impacted.
The Company’s lottery and gaming businesses may experience losses due to technical problems or fraudulent activities
The Company’s success depends on its ability to avoid, detect, replicate and correct software and hardware anomalies and fraudulent manipulation of its products. The Company incorporates security features into the design of its products which are

13


designed to prevent its customers and players from being defrauded. The Company also monitors its software and hardware to avoid, detect and correct any technical errors. However, there can be no guarantee that the Company’s security features or technical efforts will continue to be effective in the future. If the Company’s security systems fail to prevent fraud or if the Company experiences any significant technical difficulties, its operating results could be adversely affected. Additionally, if third parties breach the Company’s security systems and defraud its patrons, or if the Company’s hardware or software experiences any technical anomalies, the public may lose confidence in the Company’s products or it could become subject to legal claims by its customers or to investigation by gaming authorities.
The Company’s internet offerings are part of a new and evolving industry, which presents significant uncertainty and business risks
Gaming on the internet, including social casino-style gaming, is a relatively new industry that continues to evolve. The success of this industry will be affected by future developments in social networks, mobile platforms, legal or regulatory developments (such as the passage of new laws or regulations or the extension of existing laws or regulations to social casino-style gaming activities), taxation of gaming activities, data privacy and cybersecurity laws and regulations, and other factors that the Company is unable to predict, and are beyond its control. This environment can make it difficult to plan strategically and can provide opportunities for competitors to grow revenues at the Company’s expense. Consequently, the Company’s future operating results relating to its internet offerings may be difficult to predict and the Company cannot provide assurance that its internet offerings will grow at the rate it expects, or be successful in the long term.
The Company faces risks related to the use of social media
The Company uses social media platforms, such as Facebook, YouTube and Twitter, as marketing tools. These platforms allow individuals access to a broad audience of consumers and other interested persons. Negative commentary regarding the Company or the products it sells may be posted on social media platforms and similar devices at any time and may be adverse to the Company’s reputation or business. As laws and regulations rapidly evolve to govern the use of these platforms and mobile devices, the failure by the Company, its employees or third parties acting at its direction to abide by applicable laws and regulations in the use of these platforms and devices could adversely impact the Company’s business, financial condition, and results of operations or subject it to fines or other penalties.
Legal and Compliance Risks
The Company faces risks related to the extensive and complex governmental regulation applicable to its operations
The Company’s activities are subject to extensive and complex governmental regulation, including restrictions on advertising, increases in or differing interpretations by authorities on taxation, limitations on the use of cash, and anti-money laundering compliance procedures. Any changes in the legal or regulatory framework or other changes, such as increases in the taxation of gaming or betting, changes in the compensation paid to concessionaires, or increases in the number of licenses, authorizations, or concessions awarded to the Company's competitors, could materially affect its profitability. The Company is also subject to extensive background investigations and other investigations of various types are conducted by governmental and licensing authorities with respect to applicable regulations. These regulations and investigations vary from time to time and from jurisdiction to jurisdiction where the Company operates. Because the Company’s reputation for integrity is an important factor in its business dealings with lottery and other governmental agencies, a governmental allegation or a finding of improper conduct by or attributable to the Company in any manner, the prolonged investigation of these matters by governmental or regulatory authorities, and/or the adverse publicity resulting therefrom could have a material adverse effect on the Company’s results of operations, business, financial condition, or prospects, including its ability to retain existing contracts or to obtain new or renewed contracts, both in the subject jurisdiction and elsewhere.
With respect to lottery games, sales are frequently dependent upon decisions made by lottery authorities, such as matters relating to:
marketing;
games that are made available for play;
amounts that may be charged by operators;
prizes for the players;
compensation paid to concessionaires, including the Company;
kinds of points of sale; and

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applicable tax regulations.
Because the Company is typically compensated in whole or in part based on a jurisdiction’s gross lottery sales, lower than anticipated sales due to these factors could have a material adverse effect on the Company’s results of operations, business, financial condition, or prospects.
In the U.S. and in many international jurisdictions where the Company currently operates or seeks to do business, lotteries are not permitted unless expressly authorized by law. The successful implementation of the Company’s growth strategy and its business could be materially adversely affected if jurisdictions that do not currently authorize lotteries do not approve new lotteries or if those jurisdictions that currently authorize lotteries do not continue to permit such activities.
Negative perceptions and publicity surrounding the gaming industry could lead to increased gaming regulation
From time to time, the gaming industry is exposed to negative publicity related to gaming behavior, gaming by minors, the presence of gaming machines in too many locations, risks related to online gaming and alleged association with money laundering. Publicity regarding problem gaming and other concerns with the gaming industry, even if not directly connected to the Company, could adversely impact its business, results of operations and financial condition. For example, if the perception develops that the gaming industry is failing to address such concerns adequately, the resulting political pressure may result in the industry becoming subject to increased regulation and restrictions on operations. Such an increase in regulation could adversely impact the Company's results of operations, business, financial condition, or prospects.
The Company is exposed to significant risks in relation to compliance with anti-corruption and corporate criminal laws and regulations and economic sanction programs
Doing business on a worldwide basis requires the Company to comply with the laws and regulations of various jurisdictions. In particular, the Company's operations are subject to anti-corruption laws and regulations, such as the U.S. Foreign Corrupt Practices Act of 1977 (the “FCPA”), the U.K. Bribery Act of 2010 (the “Bribery Act”) and other anti-corruption laws that apply in countries where the Company operates. Other laws and regulations applicable to the Company control trade by imposing economic sanctions on countries and persons and creating customs requirements and currency exchange regulations. The Company's continued global expansion, including in countries which lack a developed legal system or have high levels of corruption, increases the risk of violations of such laws.
The Company cannot predict the nature, scope or effect of future regulatory requirements to which its operations might be subject or the manner in which such laws might be administered or interpreted.
There can be no assurance that the policies and procedures the Company has implemented have been or will be followed at all times or will effectively detect and prevent violations of these laws by one or more of the Company's directors, officers, employees, consultants, agents, joint-venture partners or other third-party partners.  As a result, the Company could be subject to investigations, criminal and civil penalties, sanctions and/or other remedial measures which in turn could have a material adverse effect on its business, results of operations and financial condition.
Recent and future changes to U.S. and foreign tax laws could adversely affect the Company

The U.S. Treasury recently issued final regulations that became effective for taxable years ending on or after January 19, 2017 with respect to debt instruments issued after April 4, 2016 that would treat certain debt between related parties, generally limited to cross-border debt, as stock for U.S. federal income tax purposes.  These regulations could have an adverse U.S. tax effect on the Parent and its affiliates with regard to future related party debt obligations.  Although the potential future impact on the Parent and its affiliates cannot be determined at this time, the Company believes no currently outstanding debt between its members are subject to these new rules.

The U.S. Congress, the Organization for Economic Co-operation and Development and other government agencies in jurisdictions where the Parent and its affiliates do business are focusing on various issues related to the taxation of multinational corporations.  As a result, the tax laws in the U.S. and other countries in which the Parent and its affiliates do business could change on a prospective or retroactive basis, and any such changes could adversely affect the Parent and its affiliates.

The Parent is a company incorporated in the U.K.  Current U.K. law, the decisions of the U.K. courts, and the published practice of Her Majesty’s Revenue & Customs, or HMRC, suggest that the Parent, a group holding company, is likely to be regarded as being a U.K. resident from incorporation and remaining so if, as the Parent intends that, (i) all major meetings of the Board and most routine meetings are held in the U.K. with a majority of directors present in the U.K. for those meetings;

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(ii) at those meetings there are full discussions of, and decisions are made regarding, the key strategic issues affecting the Parent and its subsidiaries; and (iii) those meetings are properly minuted.

The Parent owns subsidiaries incorporated and doing business in Italy. Should Italian withholding taxes be imposed on dividends or distributions with respect to the Parent's ordinary shares, whether such withholding taxes are creditable against a tax liability to which a shareholder is otherwise subject depends on the laws of such shareholder’s jurisdiction and such shareholder’s particular circumstances. Shareholders are urged to consult their tax advisors in respect of the consequences of the potential imposition of Italian withholding taxes.

The Company may be subject to an unfavorable outcome with respect to pending regulatory, tax matters or other legal proceedings, which could result in substantial monetary damages or other harm to the Company
 
The Company is involved in a number of legal, regulatory, tax, and arbitration proceedings including claims by and against it as well as injunctions by third parties arising out of the ordinary course of its business and is subject to investigations and compliance inquiries related to its ongoing operations. At December 31, 2016, the Company's total provision for litigation risks was $4.0 million. However, it is difficult to estimate accurately the outcome of any proceeding. As such, the amounts of the Company’s provision for litigation risk could vary significantly from the amounts the Company may be asked to pay or ultimately pay in any such proceeding. In addition, unfavorable resolution of or significant delay in adjudicating such proceedings could require the Company to pay substantial monetary damages or penalties and/or incur costs which may exceed any provision for litigation risks or, under certain circumstances, cause the termination or revocation of the relevant concession, license or authorization and thereby have a material adverse effect on the Company’s results of operations, business, financial condition, or prospects.
 
The Company's CEO and member of its Board (Marco Sala), one of its senior executives (Renato Ascoli) and one member of its Board (Lorenzo Pellicioli) are the subject of an ongoing investigation in Italy by the Rome Public Prosecutor’s office as a result of a 2012 tax audit performed by the Italian tax agency, which the Company's predecessor entity, GTECH, settled in December 2013. The investigation involves the structuring of the acquisition of GTECH Holdings Corporation in 2006 and the subsequent acquisition debt refinancing and whether GTECH’s income was under-reported in Italy for any of the tax years from 2006 to 2013. As required under Italian law, GTECH's legal representative and the signatories of the relevant corporate tax returns are subject to investigation. The relevant tax returns were signed by the three individuals named above. All of the tax assessments, penalty and interest claims emanating from the aforementioned tax audit have been resolved. Under Italian law, the related criminal investigations of Marco Sala, Renato Ascoli and Lorenzo Pellicioli, can only be dismissed by a judge upon a formal petition to the Court and such dismissal is still pending. A failure to dismiss these criminal investigations could have a material adverse effect on the Company’s results of operations, business, financial condition, or prospects. For more information on the tax audit and its settlement, please see “Item 18.  Financial Statements—Note 17. Commitments and Contingencies—Legal Proceedings—Disposition of Previously Disclosed Matters.”

Failure to maintain adequate internal controls could adversely affect the Company's reputation and business.

The Company's management is responsible for establishing and maintaining adequate internal control over financial reporting that provide reasonable assurance of the reliability of the preparation and reporting of the Company's financial statements for external use. Inadequate internal controls may result in the Company's failure to meet its public reporting requirements accurately and on a timely basis and harm the Company's reputation. The inherent limitations of internal controls over financial reporting may not prevent or detect all misstatements or fraud, regardless of the adequacy of those controls, and the Company therefore cannot assure that material weaknesses will not be identified in the future. Please refer to "Item 15. Controls and Procedures” for additional information.
Operational Risks
Failure to attract, retain and motivate key management and employees may adversely affect the Company's ability to compete
The Company's ability to attract and retain key management, product development, finance, marketing, and research and development personnel is directly linked to the Company's continued success. The market for qualified executives and highly-skilled technical workers is intensely competitive, and the loss of key employees or an inability to hire a sufficient number of technical staff could limit the Company's ability to develop successful products and could cause delays in getting new products to market.

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The Company’s business prospects and future success rely heavily upon the integrity of its employees, directors and agents and the security of its systems
The real and perceived integrity and security of the Company's products are critical to its ability to attract players. The Company strives to set exacting standards of personal integrity for its employees and directors, as well as system security for the systems that it provides to its customers, and its reputation in this regard is an important factor in its business dealings with lottery, gaming and other governmental agencies. For this reason, an allegation or a finding of improper conduct on the Company’s part, or on the part of one or more of its current or former employees, directors or agents that is attributable to the Company, or an actual or alleged system security defect or failure attributable to the Company, could have a material adverse effect upon the Company’s results of operations, business, financial condition, or prospects, including its ability to retain or renew existing contracts or obtain new contracts.
The Company faces supply chain risks that, if not properly managed, could adversely affect its financial results
The Company purchases most of the parts, components and subassemblies necessary for its terminals and slot machines from outside sources. The Company outsources all of the manufacturing and assembly of certain lottery terminals to a single vendor while other products have portions outsourced to multiple qualified vendors. Although the Company works closely with its manufacturing outsourcing vendor and is likely to be able to realign its manufacturing facilities to manufacture its lottery terminals itself, the Company’s operating results could be adversely affected if one or more of its manufacturing outsourcing vendors fails to meet production schedules. The Company’s management believes that if a supply contract with one of these vendors were to be terminated or breached, it may take time to replace such vendor under some circumstances and any replacement parts, components or subassemblies may be more expensive, which could reduce the Company’s margins. Depending on a number of factors, including the Company’s available inventory of replacement parts, components or subassemblies, the time it takes to replace a vendor may result in a delay for a customer. Generally, if the Company fails to meet its delivery schedules under its contracts, it may be subject to substantial penalties or liquidated damages, or contract termination, which in turn could adversely affect the Company's financial results.
Systems, network or telecommunications failures or cyber-attacks may disrupt the Company’s business and have an adverse effect on its results of operations
Any disruption in the Company’s network or telecommunications services, or those of third parties that the Company utilizes in its operations, could affect the Company’s ability to operate its systems, which could result in reduced revenues and customer downtime. The Company’s network and databases of business and customer information, including intellectual property, trade secrets, and other proprietary business information and those of third parties the Company utilizes, are susceptible to outages due to fire, floods, power loss, break-ins, cyber-attacks, network penetration, data privacy or security breaches, denial of service attacks, and similar events, including inadvertent dissemination of information due to increased use of social media. Despite the implementation of network security measures and data protection safeguards, including a disaster recovery strategy for back office systems, the Company’s servers and computer resources, and those of third parties the Company utilizes, are vulnerable to viruses, malicious software, hacking, break-ins or theft, third party security breaches, employee error or malfeasance, and other potential compromises. Disruptions from unauthorized access to or tampering with such systems in any such event could result in a wide range of negative outcomes, including devaluation of the Company’s intellectual property, increased expenditures on data security and costly litigation, each of which could have a material adverse effect on the Company’s business, reputation, operating results and financial condition.
Financial Risks
Covenants in the Company’s debt agreements may limit its ability to operate its business, and the Company’s breach of such covenants could materially and adversely affect its business, financial condition, and results of operations
Certain of the Company’s debt agreements require it to comply with covenants that may limit the Company’s ability to:
pay dividends and repurchase shares;
acquire assets of other companies or acquire, merge or consolidate with other companies;
dispose of assets;
extend credit to other persons;
incur indebtedness; and
grant security interests in its assets.

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The Company’s ability to comply with these covenants may be affected by events beyond its control, such as prevailing economic, financial, regulatory and industry conditions. These covenants may limit its ability to react to market conditions or take advantage of potential business opportunities. Further, a breach of such covenants could, if not cured or waived, result in acceleration of its indebtedness, result in the enforcement of security interests or force the Company into bankruptcy or liquidation. Such a breach or any failure to otherwise timely repay outstanding indebtedness could have a material adverse effect on the Company’s business, financial condition, and results of operations.
Any decisions to reduce or discontinue paying cash dividends to the Parent's shareholders could cause the market price for its ordinary shares to decline
The Parent may modify, suspend or cancel its cash dividend in any manner and at any time. Any reduction or discontinuance of the payment of quarterly cash dividends could cause the market price of the Parent's ordinary shares to decline. Moreover, in the event the payment of quarterly cash dividends is reduced or discontinued, failure or inability to resume paying cash dividends at historical levels could cause the market price of the Parent's ordinary shares to decline.
Risks related to the Parent's Capital Structure
The Parent's concentrated voting power and loyalty voting structure may limit shareholders' ability to influence corporate matters
A relatively large proportion of the voting power of the Parent is concentrated in a relatively small number of shareholders who have the ability to exert significant influence over the Company.  At April 3, 2017, De Agostini S.p.A. and DeA Partecipazioni S.p.A. (collectively, “De Agostini”) had a voting interest in the Parent of approximately 51.09%. See “Item 7. Major Shareholders and Related Party Transactions” for additional information.  These holders may make decisions with which other shareholders may disagree, including, among other things, delaying, discouraging or preventing a change of control of the Company or a potential merger, consolidation, tender offer, takeover or other business combination and may also prevent or discourage shareholders’ initiatives aimed at changes in the Parent’s management.
The loyalty voting structure set forth in the Parent's Articles, when it becomes effective in 2018, may further concentrate or sustain voting power in a small number of shareholders.  Under the loyalty voting structure, the Parent's shareholders that maintain their ownership of the Parent's ordinary shares continuously for at least three years will be entitled, upon election, to direct the voting rights in respect of one special voting share per ordinary share held for such period, provided that such shareholders meet certain conditions.  If the Parent's shareholders maintaining ownership of a significant number of the Parent's ordinary shares for an uninterrupted period of at least three years elect to receive the right to direct the exercise of the voting rights attaching to special voting shares, it is possible that a relatively large proportion of the voting power of the Parent could be further concentrated in a relatively small number of shareholders with significant influence over the Company.
The tax consequences of the loyalty voting structure are uncertain
No statutory, judicial or administrative authority has provided public guidance in respect of the special voting shares of the Parent and as a result, the tax consequences of owning such shares are uncertain. The fair market value of the Parent's special voting shares, which may be relevant to the tax consequences of owning, acquiring or disposing of such shares, is a factual determination and is not governed by any guidance that directly addresses such a situation. Because, among other things, (i) the special voting shares are not transferrable (other than in very limited circumstances as provided for in the loyalty voting structure), (ii) on a return of capital of the Parent on a winding up or otherwise, the holders of the special voting shares will only be entitled to receive out of the Parent's assets available for distribution to its shareholders, in aggregate, $1, and (iii) loss of the entitlement to instruct the nominee on how to vote in respect of special voting shares will occur without consideration, the Parent believes and intends to take the position that the value of each special voting share is minimal. However, the relevant tax authorities could assert that the value of the special voting shares as determined by the Parent is incorrect. Shareholders are urged to consult their own tax advisors with respect to treatment of special voting shares. See “Item 10.E Taxation” for additional information. 


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Item 4. 
Information on the Company
A.
History and Development of the Company
The Parent is incorporated in, and organized as a public limited company under, the laws of England and Wales. The Parent’s principal office is located at 66 Seymour Street, 2nd Floor, London W1H 5BT, United Kingdom, telephone number +44 (0) 207 535 3200. The Parent’s agent for service in the United States is The Corporation Trust Company of Nevada, 701 S. Carson Street - Suite 200, Carson City, NV 89701 (telephone number: +1 518 433 4740).
The Parent was formed as a business combination shell company on July 11, 2014 under the name “Georgia Worldwide Limited.” On September 16, 2014, it changed its legal name to “Georgia Worldwide PLC,” and on February 26, 2015, it changed its legal name to “International Game Technology PLC.” Prior to the Mergers, the Parent did not conduct any material activities other than those incident to its formation and the matters contemplated by the agreement for the Mergers (the "Merger Agreement"), such as the formation of Georgia Worldwide Corporation, the making of certain required securities law filings and the preparation of the proxy statement/prospectus filed in connection with the Mergers.
Acquisition of International Game Technology
The Parent is the successor of GTECH and the parent of IGT.
On April 7, 2015, GTECH merged with and into the Parent, with the Parent surviving the Holdco Merger, and IGT merged with and into Sub, with IGT surviving the Subsidiary Merger, all pursuant to the Merger Agreement. The objective of the Mergers was to combine GTECH’s and IGT’s businesses. For more information on the Mergers, please see Item 4.A of the Parent's annual report on Form 20-F for 2015, filed with the SEC on April 29, 2016.
Dividend Payments
The Parent paid cash dividends on its ordinary shares during 2016 as follows:
Declaration
Date
 
Payment
Date
 
Per Share Amount ($)
 
Aggregate
Payment ($)
 
 
 
November 21, 2016
 
December 19, 2016
 
0.20

 
40,453,009

July 27, 2016
 
August 24, 2016
 
0.20

 
40,386,542

May 26, 2016
 
July 23, 2016
 
0.20

 
40,252,000

March 17, 2016
 
April 14, 2016
 
0.20

 
40,087,835

 
 
 
 
 

 
161,179,386

Other Transactions
Effective January 1, 2016, GTECH Holdings Corporation merged with and into IGT Global Solutions Corporation (formerly known as GTECH Corporation), with IGT Global Solutions Corporation being the surviving entity.
Other than as described above, including in relation to the Mergers (see “—Acquisition of International Game Technology”), there have not been any public takeover offers by third parties in respect of the Parent’s shares or by the Parent in respect of other companies’ shares which have occurred during the last and current financial years.
Capital Expenditures
For a description, including the amount invested, of the Company’s principal capital expenditures and divestitures (including interests in other companies) for the years ended December 31, 2016, 2015 and 2014, see “Item 5—B. Liquidity and Capital Resources—Capital Expenditures.”
The Company did not make any capital expenditures in the first quarter of calendar 2017 that were not in the ordinary course of business.

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B. Business Overview
The Company is the world’s largest end-to-end gaming company, with leading market positions in North America and Italy and the most extensive gaming content library in the world. The Company operates and provides an integrated portfolio of innovative technology products and services across all gaming markets, including: lottery management services, online and instants lotteries, instant ticket printing, electronic gaming machines, sports betting, and interactive gaming. The Company offers business-to-consumer (“B2C”) and business-to-business (“B2B”) products and services to customers in over 100 countries. Leveraging a wealth of premium content, substantial investment in technology, in-depth customer intelligence, and operational expertise, the Company's solutions anticipate the demands of consumers wherever they decide to play, providing its customers with leading edge solutions.
 
The Company is headquartered in London, with principal operating facilities located in Providence, Rhode Island; Las Vegas, Nevada; and Rome, Italy. The Company is organized into four business segments, which are supported by corporate shared services: North America Gaming and Interactive, North America Lottery, International and Italy. Research and development and manufacturing are centralized in North America. The Company had over 12,000 employees at December 31, 2016.

The Company strives to create shareholder value by adhering to the highest levels of service, integrity, responsibility and innovation. Social responsibility is vital and the Company is committed to responsible gaming, giving back to its communities, and doing its part to protect the environment. The Company was commended for its commitment to having established sustainable Corporate Social Responsibility and Responsible Gaming programs, which includes certifications from the WLA and the Internet Responsible Gambling Compliance Assessment Program ("iCAP").

Products and Services

Lottery

The Company supplies a unique set of lottery solutions to more than 100 customers worldwide. Lottery revenues are frequently designated for particular purposes, such as education, economic development, conservation, transportation, programs for senior citizens and veterans, health care, sports facilities, capital construction projects, cultural activities, tax relief, and others. Many governments have become increasingly dependent on their lotteries as revenues from lottery ticket sales are often a significant source of funding for these programs.

The Company’s lottery services are provided through facilities management contracts, concession or operator contracts (also referred to as "Lottery Management Agreements"), and product sales contracts. In the majority of jurisdictions, lottery authorities award contracts through a competitive bidding process. Typical service contracts are 5-10 years in duration, with multi-year extension options. After the expiration of the initial or extended contract term, a lottery authority generally may either seek to negotiate further extensions or commence a new competitive bidding process.

The Company designs, sells, and operates a complete suite of point-of-sale terminals that are electronically linked with a centralized transaction processing system that reconciles lottery funds between the retailer, where a transaction is enabled, and the lottery authority, where the wager is captured. The Company provides and operates highly secure, online lottery transaction processing systems that are capable of processing over 500,000 transactions per minute. The Company provides more than 500,000 point-of-sale devices to lottery customers and lotteries that it supports worldwide. The Company also specializes in the production of high-quality instant ticket games and provides printing services such as instant ticket marketing plans and graphic design, programming, packaging, shipping and delivery services.

The Company has developed and continues to develop new lottery games, licenses new game brands from third parties and installs a range of new lottery distribution devices, all of which are designed to drive responsible same store sales growth for its customers. In connection with its delivery of lottery services, the Company actively advises its customers on growth strategies. The Company also provides marketing services, in particular retail optimization and lottery brand awareness campaigns. The Company works closely with its lottery customers and retailers to help retailers sell lottery games more effectively. These programs include product merchandising and display recommendations, selection of appropriate lottery product mix for each location, and account reviews to plan lottery sales growth strategies. The Company leverages years of experience accumulated from being the concessionaire for the Italian Lottery, one of the world’s largest lotteries. This B2C expertise in Italy, which includes management of all of the activities along the lottery value chain, allows the Company to better serve B2B customers in its North America Lottery and International segments.


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The lottery business is highly competitive and typically subject to strong price-based competition. The Company's primary competitors in the lottery business include Scientific Games Corporation and Intralot S.A. The instant tickets production business is also highly competitive and subject to strong price-based competition. The Company's instant ticket competitors in the U.S. include Scientific Games Corporation and Pollard Banknote Limited.  Internationally, a number of instant ticket game vendors compete with the Company, including the competitors mentioned above, as well as diversified printing companies such as Eagle Press of India. The private manager, operator and licensee sector continues to emerge globally.  Competitors in this market primarily consist of a handful of commercial lottery operators active mainly in their domestic markets, such as Tattersalls, Sisal S.p.A. (“Sisal”), Sazka, and OPAP, and also includes a few commercial lottery operators, such as Camelot, which compete globally.  

The primary types of lottery agreements are outlined below:

Facilities Management Contracts (FMCs): The majority of the Company’s North American Lottery revenues are earned under FMCs. The Company’s facilities management contracts typically require the Company to construct, install and operate the lottery system for an initial term, which is typically five to 10 years. The Company’s FMCs usually contain extension options under the same or similar terms and conditions, generally ranging from one to five years. Under a typical FMC, the Company maintains ownership of the technology and facilities, and is responsible for capital investments throughout the duration of the contract, although the investments are generally concentrated during the early years. FMC revenues are generally service fees paid to the Company directly from the lottery authority based on a percentage of such lottery’s wagers (ticket sales). Under a number of the Company’s FMCs, the Company additionally provides a wide range of support services and equipment for the lottery’s instant ticket games, such as marketing, distribution and automation of validation, inventory and accounting systems. In return, the Company receives either fixed fees or fees based upon a percentage of the sales of the instant ticket games. In limited instances, the Company provides instant tickets and online lottery systems and services under the same facilities management contract. Also, the Company offers Lottery Vending Machines ("LVMs") that sell instant tickets as well as draw-based games.


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The table below sets forth the lottery authorities and customers with which the Company has FMCs for the installation and operation of lottery systems at April 3, 2017, and as to which the Company is the sole supplier of central computer systems and terminals and material services. The table below does not include FMCs in jurisdictions where the Company also has contracts listed below under the heading "Concessions and Lottery Management Agreements.”
 
 
 
Jurisdiction
 
Date of Commencement
of Current Contract*
 
Date of
Expiration of Current
Contract
 
Current Extension Options**
 
Additional Commentary
U.S.:
 
 
 
 
 
 
 
 
California
 
October 2003
 
October 2019
 
 
 
At the end of the final extension option period, the contract will remain in effect under the same terms and conditions until either party provides at least two years’ notice of termination.
Colorado
 
January 2014
 
June 2021
 
Two two-year
 
 
Florida(1)
 
September 2016
 
April 2031
 
Two three-year
 
Effective September 1, 2016, (i) the agreement was executed with an initial term through April 2, 2028 and (ii) the Florida Lottery exercised its first renewal option, extending the term through April 6, 2031.
Georgia
 
September 2003
 
September 2025
 
 
 
Effective October 26, 2016, the Georgia Lottery Corporation and IGT Global Solutions Corporation agreed to extend the term of its contract for seven years, through September 11, 2025.
Kansas
 
July 2008
 
June 2018
 
 
 
 
Kentucky
 
July 2011
 
July 2021
 
Five one-year
 
 
Michigan
 
January 2009
 
January 2021
 
 
 
In January 2016, the Michigan Lottery and IGT Global Solutions Corporation agreed to extend the term of its contract for four years, through January 19, 2021.
Minnesota
 
April 2015
 
November 2023
 
Three up to three years
 
 
Missouri
 
October 2014
 
June 2022
 
Up to three years
 
 
Nebraska
 
December 2010
 
June 2021
 
 
 
In September 2015, the Nebraska Lottery and IGT Global Solutions Corporation agreed to extend the term of its contract for four years, through June 30, 2021.
New York
 
September 2009
 
August 2017
 
Up to three years
 
 
North Carolina
 
March 2016
 
June 2027
 
Up to five years
 
 
Oregon
 
October 2007
 
November 2020
 
 
 
 
Rhode Island
 
July 2003
 
June 2023
 
 
 
 
South Dakota
 
August 2009
 
August 2019
 
 
 
 
Tennessee
 
April 2015
 
June 2022
 
Up to seven years
 
 
Texas
 
September 2011
 
August 2026
 
 
 
In October 2016, the Texas Lottery and IGT Global Solutions Corporation agreed to extend the term of its contract for six years, through August 31, 2026.
Virginia
 
March 2016
 
June 2023
 
Up to six years
 
 
Washington
 
October 2014
 
June 2026
 
Up to 10 years
 
 
West Virginia
 
June 2009
 
June 2018
 
 
 
In December 2016, the West Virginia Lottery and IGT Global Solutions Corporation agreed to extend the term of its contract for one year, through June 27, 2018.
Wisconsin
 
February 2016
 
May 2024
 
Up to three one-year
 
 

1.
On February 17, 2017, the Speaker for the Florida House of Representatives filed an action in Circuit Court in Florida, against the Florida Lottery. On Tuesday, March 7, 2017, the Circuit Court issued an order in favor of the Speaker, the effect of which was to temporarily void the lottery contract. On March 28, 2017, an appeal was filed by the Secretary. The appeal automatically stayed the Circuit Court decision, which pending resolution of the appeal, reinstates the effectiveness of the lottery contract.

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Jurisdiction
 
Date of Commencement
of Current Contract*
 
Date of
Expiration of Current
Contract
 
Current Extension Options**
 
Additional Commentary
Caribbean and Latin America:
 
 
 
 
 
 
 
 
Argentina - Slot Machines S.A. (San Luis Province/Agencia Financiera de Loterías, Casinos y Juegos de Azar)
 
April 2012
 
October 2021
 
Sole discretion of Agencia, up to 10 years
 
 
Jamaica-Supreme Ventures Limited
 
November 2000
 
January 2026
 
 
 
 
Mexico-Pronosticos Para La Asistencia Publica
 
December 2014
 
December 2020
 
 
 
 
 
 
 
 
 
 
 
 
 
Europe, Africa, Asia:
 
 
 
 
 
 
 
 
Belgium - Loterie Nationale de Belgique
 
June 2014
 
May 2024
 
One term of six months
 
 
China - Beijing Welfare Lottery
 
January 2012
 
December 2020
 
Automatic two one-year terms unless a party gives at least 180 days’ notice before the end of initial or extension term
 
 
Czech Republic-SAZKA a.s. (f/k/a Czech Republic-SAZKA sázková kanceláø a.s.)
 
January 2015
 
December 2022
 
 
 
 
Luxembourg-Loterie Nationale
 
March 2013
 
March 2021
 
One five-year extension
 
 
Poland-Totalizator Sportowy
 
December 2011
 
November 2018
 
Three one-year or one three-year
 
 
Slovak Republic-TIPOS, National Lottery Company, a.s.
 
January 2007
 
December 2018
 
 
 
 
Spain-Organizacion Nacional de Ciegos Españoles (ONCE)
 
October 2009
 
December 2020
 
Five years and subsequently for biannual periods unless either party elects to terminate with prior notice of two years
 
 
South Africa - Ithuba Holding (Pty.) Ltd.
 
June 2015
 
May 2020
 
 One three-year extension
 
 
Turkey-Turkish National Lottery
 
November 1996
 
November 2017
 
The term of the contract renews for successive one-year periods unless either party gives at least 90 days’ notice of non-renewal prior to the expiration date
 
 
United Kingdom-The National Lottery
 
February 2009
 
January 2023
 
One year or two periods of six months each
 
Operated by Camelot U.K. Lotteries Limited on a facilities management basis.

* Reflects the date upon which the contract became effective.
** Reflects extensions available to the lottery authority.

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Concessions and Lottery Management Agreements: A portion of the Company’s revenues, primarily from its Italy segment, is derived from concessions or Lottery Management Agreements. Under a typical concession, the Company manages the core lottery functions, including the lottery systems and the majority of the day-to-day activities along the lottery value chain. This includes collecting wagers, managing accounting and other back-office functions, running advertising and promotions, operating data transmission networks and processing centers, training staff, providing retailers with assistance and supplying materials for the games. Most LMAs also include a separate supply agreement, in which the company provides certain hardware, equipment, software, and support services. The service revenues the Company earns in return for operating these concessions are generally fixed based on the percentage of wagers. In Illinois and New Jersey, the Company provides lottery management services as part of a joint venture or consortium, respectively, and in Indiana indirectly through a wholly-owned subsidiary of the Parent. In Italy both lottery concessions are part of a joint venture, with the Lotto Concession renewed in June 2016 and operating since November 30, 2016, and the instant ticket lottery ("Gratta e Vinci") concession renewed in 2010.
 
The table below sets forth the lottery authorities with which the Company had concessions or Lottery Management Agreements at December 31, 2016.
Jurisdiction
 
Date of Commencement
of Current Contract*
 
Date of
Expiration of Current
Contract
 
Current Extension Options**
 
Additional Commentary
Italy:
 
 
 
 
 
 
 
 
Agenzia delle Dogane e dei Monopoli - Lotto
 
November 30, 2016
 
November 30, 2025
 
 
 
A consortium led by the Company was awarded for the management of the Lotto Concession for a nine-year term. The consortium parties, due to the tender rules, incorporated a new company (Lottoitalia S.r.l.) and this new company signed the Concession agreement.
Agenzia delle Dogane e dei Monopoli - “Scratch & Win” Instant Lotteries
 
October 2010
 
September 2019
 
Option to extend for nine years
 
 
 
 
 
 
 
 
 
 
 
U.S.:
 
 
 
 
 
 
 
 
Illinois
 
July 2011
 
January 2018
 
Option to extend for periods of three to six months each
 
Effective March 2017, term was extended six months, through January 1, 2018.
Indiana
 
October 2012
 
June 2028
 
10 one-year
 
.
New Jersey
 
June 2013
 
June 2029
 
 
 
 
 
 
 
 
 
 
 
 
 
Caribbean and Latin America:
 
 
 
 
 
 
 
 
Colombia
 
 
 
 
 
 
 
 
ETESA/ COLJUEGOS
 
April 2017
 
April 2022
 
 
 
In January 2017, an affiliate of the Parent executed a five-year contract with Coljuegos to operate the draw-based game Baloto.
Grupo Empresarial En Linea, S.A.
 
September 2011
 
May 2017
 
 
 
 
Costa Rica - Junta de Protección Social
 
June 2013
 
June 2019
 
Automatic renewals for two-year periods up to a total of 10 years unless the Junta gives notice of non-renewal
 
 
Trinidad & Tobago-National Lotteries Control Board
 
December 1993
 
March 2021
 
Automatic extension for one three-year period
 
 
Anguilla-LILHCo
 
May 2007
 
May 2017
 
 
 
 
Antigua/Barbuda-LILHCo
 
February 2017
 
January 2037
 
 
 
In January 2017, an affiliate of the Parent executed a 20-year contract.
Barbados-LILHCo
 
June 2005
 
June 2023
 
 
 
 
Bermuda-LILHCo
 
 
 
 
 
Automatic annual renewal
 
 
St. Kitts/Nevis-LILHCo
 
October 2013
 
October 2019
 
 
 
 
St. Maarten-LILHCo
 
September 2007
 
September 2017
 
One 10-year
 
 
U.S. Virgin Islands-LILHCo
 
December 2001
 
December 2021
 
 
 
 

*     Reflects the date upon which the contract became effective.
**   Reflects extensions available to the lottery authority.

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Instant Ticket Printing Contracts: As an end-to-end provider of instant tickets and related services, the Company specializes in the production of high-quality instant ticket games and provides printing services such as instant ticket marketing plans and graphic design, programming, packaging, shipping and delivery services. Instant tickets are sold at numerous types of retail outlets but most successfully in grocery and convenience stores.

Instant ticket contracts are priced based on a percentage of ticket sales revenues or on a price per unit basis and generally range from two to five years with extension opportunities. Government-sponsored lotteries grant printing contracts on both an exclusive and non-exclusive basis where there is typically one primary vendor and one or more secondary vendors. A primary contract permits the vendor to supply the majority of the lottery’s ticket printing needs and includes the complete production process from concept development through production and shipment. It also typically includes marketing and research support. A primary printing contract can include any or all of the following services: warehousing, distribution, telemarketing, and sales/field support. A secondary printing contract includes providing backup printing services and alternate product sources. It may or may not include a guarantee of a minimum or maximum number of games. The Company is investing to expand its instant ticket printing facility with a new state-of-the-art printing press, which is expected to begin production in 2018.

Product Sales Contracts: Under product sales contracts, the Company constructs, sells, delivers and installs turnkey lottery systems or lottery equipment and licenses the software for a fixed price, and the lottery authority subsequently operates the lottery system or equipment. The Company sells additional terminals and central computers to expand existing systems and/or replace existing equipment under product sales contracts and will also provide ancillary maintenance and support services related to the systems, equipment sold and software licensed.

Machine Gaming
 
The Company designs, develops, manufactures and provides cabinets, games, systems and software for customers in regulated gaming markets throughout the world under fixed fee, participation and product sales contracts. The Company holds more than 400 global gaming licenses. Large customers include MGM Resorts International, Caesars Entertainment, Boyd Gaming, Synot, and Ludi.

The Company’s primary competitors in Machine Gaming are Aristocrat Leisure Limited, Konami, Novomatic, and Scientific Games.

Gaming Machines

The Company offers a diverse range of machine cabinets which land-based customers can choose from to maximize functionality, flexibility, and player comfort. In addition to cabinets, the Company develops a wide range of casino games taking into account local jurisdictional requirements, market dynamics and player preferences. The Company's casino games typically fall into two categories:

Premium games; and
Core games.
  
Premium games are typically not sold to customers but instead provided on a leased basis through revenue sharing or a fixed daily fee arrangement, and include:

Wide Area Progressives - which are games that are linked across several casinos and/or jurisdictions and share a large common jackpot. The Wheel of Fortune® franchise is one of the most successful games in the world, and an example of one of the Company's Wide Area Progressive offerings.

Multi-Level Progressives - which are games that are linked to a number of other games within the casino itself and offer players the opportunity to win different levels of jackpots.  An example of a Multi-Level Progressive game offered by the Company is Party Time.

Core games, which include core video reel, core mechanical reel, and core video poker, are typically sold and in some situations leased to customers.


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The Company produces other types of games including:
 
Centrally Determined games which are games connected to a central server that determines the game outcome;

Class II games which are electronic video bingo machines that can be typically found in North American tribal casinos and certain other jurisdictions like South Africa; and

Random number generated and live dealer electronic table games, including baccarat and roulette.

Gaming service revenue is primarily generated through the leasing to customers of premium games and cabinets. These pricing arrangements are largely variable where the casino customer pays service fees to the Company based on a percentage of amounts wagered (aka coin-in or play), net win, or a daily fixed fee.
 
Machine gaming product sales revenues are generated from the sales of land-based gaming machines (equipment and game content), systems, component parts (including game conversion sales), other equipment and services.

Video Lottery Terminals

The Company provides video lottery terminals (“VLTs”), VLT central systems and VLT games primarily to government customers worldwide. VLTs are connected to a central system. The Company provides a dedicated client service team to each of its VLT and VLT systems customers. In addition, it provides amusement with prize machines (“AWPs”) and games to licensed operators in Italy and the rest of Europe. AWPs are typically low-denomination gaming machines installed in retail outlets and connected to a central system.

Game Content
 
The Company combines elements of math, play mechanics, sound, art, and technological advancements with a library of entertainment licenses and a proprietary intellectual property portfolio to provide gaming products designed to provide a high degree of player appeal.  The game library is continuously expanded with new content, popular brands, and appealing bonuses to address player preferences and other market trends. A wide array of casino-style games is offered, in a variety of multi-line, multi-coin and multi-currency configurations. Examples of successful game content from the Company include: Wheel of Fortune®, SPHINX 3D™, and Kitty Glitter®.
 
Land-Based:
 
Premium (MegaJackpots®)
Multi-Level Progressive
Wide-Area Progressive
Powerbucks Interstate Progressive
Other Premium Stand-Alone games
Core
Video Reel
Spinning or Mechanical Reel
Video Poker
Multi-Game
Central Determination System
Bingo (Class II)
VLT
Multi-Player
Electronic Table

Gaming Systems
 
The Company offers a comprehensive range of system modules and applications for all areas of casino management. Gaming systems products include infrastructure and applications for casino management, customer relationship management, player management, and server-based gaming. The Company's main casino management system offering is the Advantage System, which offers solutions and modules for:
 
·
Machine Accounting
·
Bonusing (jackpots and promotions)
·
Patron Management
·
Table Game Automation
·
Cage Accounting
·
Payment Processing
·
Table Accounting
·
Reporting
·
Ticket-in/Ticket-out
·
Regulatory Compliance
 

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The Company's player management solutions feature customized player messaging, tournament management, and integrated marketing and business intelligence modules that provide analytical, predictive, and management tools for maximizing casino operational effectiveness. The server-based solutions enable electronic game delivery and configuration for slot machines, as well as providing casino operators with opportunities to increase profits by enhancing the players’ experience, connecting with players interactively, and creating operational efficiencies.

The Company's latest multi-functional end-to-end systems solutions provide operators with a full suite of products that offer real time business analytics to optimize productivity and give players a seamless, customized gaming experience. Cardless Connect offers a cardless, cashless loyalty card for casino players using gaming machines. Service Window enables operators to market to customers more effectively by leveraging an additional piece of hardware onto existing machines. The Company's PlaySpot solution allows casino customers to make mobile wagers linked to their loyalty cards. PlaySpot allows operators to maximize interaction with customers using real money within defined areas, and virtual chips outside of defined areas.
 
Sports Betting
 
The Company provides betting technology to lotteries and commercial operators in regulated markets, primarily in Italy and other countries in Europe. The Company offers a sports betting platform comprised of a core engine and associated support modules, trading services, fully managed partnerships, or “software only” technical solutions to create a complete one-stop solution or to integrate new functionality to existing operations. The Company also provides secure retail betting solutions, point-of-sale display systems, call center facilities, internet betting technology, and fixed odds or pool betting options. WLA customers of the Company include: OPAP; Lottery National Belgium (LNB); Marca, the Spanish national daily sports newspaper owned by Unidad Editorial in Spain; and Szerencsejáték Zrt (National Lottery in Hungary).
 
The Company operates an expansive land-based B2C betting network in Italy through its “Better” and “Totosi” brands on either a parimutuel or fixed odds basis. For parimutuel betting the total pool of wagers placed, minus a specified percentage, is divided among the winning players according to a formula. In Italy, this formula is set by the Italian regulatory body ADM. A winner will be paid an amount equal to his or her share of the prize pool. For fixed odds the payout amount is agreed upon in advance between the player and the bookmaker. In the case of a win, the bookmaker pays an amount equal to the bet multiplied by the odds fixed at the moment of the bet. The maximum prize for a ticket cannot exceed €10,000.
 
Through sports betting point-of-sale locations, the Company offers directly to customers betting on sports events (including basketball, soccer, cycling, downhill skiing, cross country skiing, tennis, sailing and volleyball), motor sports (car and motorcycle racing), and non-sports events connected with the world of entertainment, music, culture, and current affairs of primary national and international importance.

The Company’s primary competitors in Sports Betting are Bet365, Eurobet, Sisal, and SNAI.

Interactive and Social Gaming

Interactive gaming (or iGaming) enables game play via the internet for real money or for fun (social).  The Company designs, manufactures, and distributes a full suite of award-winning configurable products, systems, and services including:  poker, table games, slot games, bingo, iLottery, virtual reality, mobile-to-retail products, player management systems, and market intelligence services. The Company holds more than 20 interactive gaming licenses worldwide. The Company also acts as a complete internet gaming operator in Italy and as a mobile casino operator. The Company’s primary B2C interactive offerings are in Italy and through DoubleDown Casino. The Company's diverse interactive customer base includes B2B iGaming customers, such as: Caesar's Entertainment (CZR), the Georgia Lottery, the Illinois Lottery, the Kentucky Lottery, LNB (Belgium), OLG (Canada), Veikkaus (Finland), and William Hill (U.K.).

The interactive gaming B2B competitive landscape has evolved to mirror industry-wide trends of product and channel (online and mobile) convergence and vertical integration. The Company is playing a key role in this environment, with its onmichannel offering that connects retail offerings to mobile device offerings. As for content, the Company is launching the same premium brands across all the channels (i.e., Wheel of Fortune® is a casino slot machine, VLT, iCasino game, eInstant game and an instant ticket in several jurisdictions) ensuring cross communication. In terms of product, the Company’s PlaySpot solution enables customers to provide a smooth transition from the retail lottery and casino environments to interactive games utilizing the interaction of mobile devices with the traditional land-based systems. In the Customer Relationship Management ("CRM")business, a single player account management system connects retail with online together with an advanced analytics framework, thereby ensuring a single view of the player which allows cross-selling and upselling via effective promotions, churn management and customer care programs.


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The Company faces competition from operators, such as 888 Holdings and bwin.party, which have developed broad, cross-channel product offerings and solutions for internal use and as a supplier to third parties. The Company also competes with broad-based traditional B2B providers, such as Playtech plc and Microgaming74 Software Systems, which have developed extensive interactive casino content and broad cross-channel product offerings. The Company also faces competition from traditional machine gaming suppliers, such as Scientific Games Corporation and Amaya Gaming. In social gaming, its main competitors include Playtika, Aristocrat, and Zynga.
 
Products
 
Content:

DoubleDown Casino:  The Company’s DoubleDown online casino-style social gaming operation provides a unique opportunity for authentic casino entertainment to reach a broader audience, while complementing its other existing offerings and the core casino audience. The Company's North American based online social gaming casino generates revenues from the sale of virtual casino chips to players for use within the DoubleDown casino for additional play. Unlike many other online casino-style social games where each game vertical is a unique application, DoubleDown is a single casino application with multiple games where all games are available to the player upon download. DoubleDown casino is available in the Apple App Store, Google Play Store, Facebook and Amazon.
 
Poker: The Company’s poker product is 100% compatible with all leading platforms and devices. Offering a player-friendly interface and sophisticated graphics, it is scalable and flexible, and tailored to the specific needs of customers and their player base. The platform is modern and able to address the changing dynamics of online poker.
 
Online Casino: The Company’s online casino products include a wide selection of table and slot games with single and multiplayer play. The Company's casino content includes branded titles and select third-party content. Available in download, instant, or mobile formats and as play-for-fun or real money solutions, casino games are available anytime, anywhere, and on any device.
 
Bingo: The Company’s bingo product includes a social and interactive multiplayer offering compatible with all leading platforms and devices, available in multiple languages, with the content adjusted to suit specific regions. The Company's bingo product is flexible and scalable to meet regulatory requirements and all levels of certification and testing, and is offered as play-for-fun (social) or a real-money solution across multiple channels and currencies.
 
iLottery: The Company’s complete suite of iLottery solutions, services, and professional expertise allows lotteries to fully engage their players on any interactive channel in regulated markets. Existing lottery game portfolios are extended to the interactive channel to provide a spectrum of engaging content such as eInstant. The Company offers a vast library of mobile content available on any device.

Technology:
 
Platform: The Company’s iGaming systems cover every channel (retail, mobile and web) and vertical from a 360-degree view of the player, web design and an engine to accelerate more game content to customers’ websites. The Company’s interactive platforms offering includes player account management, the master of player profiles and player accounts, which pulls all player, reward, and financial activity together in one place and provides a one-stop integrated CRM system that allows for advanced marketing and analytical capabilities. The Company's platforms include a highly reliable and secure payment system that allows for a wide range of different payment methods across continents and a dynamic web application framework providing cross-cutting functionalities such as authentication and authorization.
 
IGT Interactive also includes IGT Connect, which is the integration layer of the Company's player account management system managing game integration and network layers. IGT Connect can integrate with third-party player account management systems, third-party game engines, and regulatory systems.
 
Remote Games Server: The Company also offers a remote games server, which is a fast gateway to extensive casino and eInstant content. For customers operating their own or third-party systems, the Company is able to provide a simple plug-and-play approach to all of the Company’s, and its premium suppliers’, content.

PlaySpot App: The Company offers PlaySpot App, an app-based product for casinos and lotteries enabling mobile games, services and payments in specific retail environments that are defined by regulator grade geo-location technologies. Wagering for money can be offered in the PlaySpot locations and options include slot and table games, eInstants, lottery ticket purchases, keno,

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sports wagering, and table betting on live tables. PlaySpot Apps tie into existing reward systems and finance systems to fully integrate into customers' marketing and operations programs.

Virtual Reality: The Company now offers virtual reality games and stage for both arcade and tournament play. Multiple games are available with more in development.

Gaming Services: The Company offers interactive and social gaming services that include the ability to add metagaming and bonusing features as enhanced player experiences and marketing opportunities around either the Company's games or third-party games.

Services
 
The Company offers a complete range of services to support interactive customers. These services are aimed at helping lower the cost of player acquisition and increasing lifetime player value. The Company’s player service centers are located worldwide to serve players 24 hours a day, 365 days a year. The Company's marketing intelligence services manages the player lifecycle to maximize player yield while ensuring the player is entertained and plays responsibly.
 
Additionally, the Company provides player services, including marketing, portal, player acquisition, CRM, VIP, player support, payment solutions, fraud and collusion protection, responsible gaming, game management, migration, and trading services.
 
Commercial Services
 
The Company develops innovative technology to enable lotteries to offer commercial services over their existing lottery infrastructure or over standalone networks separate from the lottery. Leveraging its distribution network and secure transaction processing experience, the Company offers high-volume processing of commercial transactions including: prepaid cellular telephone recharges, prepaid mobile data, collection and payment services for the payment of utility bills, money transfer services, ticketing for sporting and musical events, credit card transactions, social security contributions and payments, and prepaid cards.
 
In addition, the Company provides collection services and processing and network services on behalf of third parties, and issues electronic money through immediate conversion of funds received, as well as other related activities. These services are primarily offered outside of North America.
 
























29


Business Segments

Revenues for the Company by segment are as follows:
 
 
Year Ended December 31,
($ thousands)
 
2016
 
2015
 
2014
Service revenue
 
975,214

 
780,189

 
45,575

Product sales
 
398,241

 
321,618

 
86,926

North America Gaming and Interactive
 
1,373,455

 
1,101,807

 
132,501

 
 
 
 
 
 
 
Service revenue
 
1,128,306

 
992,684

 
865,023

Product sales
 
65,269

 
52,986

 
75,074

North America Lottery
 
1,193,575

 
1,045,670

 
940,097

 
 
 
 
 
 
 
Service revenue
 
512,660

 
512,004

 
473,653

Product sales
 
314,644

 
341,070

 
156,976

International
 
827,304

 
853,074

 
630,629

 
 
 
 
 
 
 
Service revenue
 
1,759,843

 
1,702,174

 
2,104,996

Product sales
 
1,295

 
1,872

 
3,366

Italy
 
1,761,138

 
1,704,046

 
2,108,362

 
 
 
 
 
 
 
Purchase accounting (1)
 
(1,576
)
 
(15,541
)
 
722

 
 
 
 
 
 
 
Total revenue
 
5,153,896

 
4,689,056

 
3,812,311

  
1.    Purchase accounting represents the amortization of certain intangible assets in connection with acquired companies.

North America Gaming and Interactive
 
The North America Gaming and Interactive ("NAGI") segment includes revenue from the sale or lease of commercial gaming machines and software to casinos and government entities in the U.S. and Canada.  NAGI develops, sells and licenses casino management systems. These systems help casino customers to increase operational efficiencies and enhance player engagement by delivering personalized player amenities and promotional offers.  Additionally, service revenue is generated for commercial gaming from the maintenance of machines and systems.  NAGI also generates revenue from its DoubleDown casino social casino app, where customers purchase virtual currency for use in non-wagering interactive games (“play for fun”) played over the internet including desktop and mobile devices.
 
The NAGI segment develops and delivers leading games, systems and solutions for land-based casinos, DoubleDown casino free-to-play social casino app, and interactive for-wager online play. The segment is responsible for research and development for commercial gaming products that are distributed to casinos throughout the world.  NAGI is headquartered in Las Vegas, Nevada, and has sales offices throughout North America.  NAGI provides a full suite of casino-related products and solutions to its commercial, government and tribal customers in the U.S. and Canada.
 
For land-based casino customers, NAGI provides leadership in the development and distribution of Global Premium Product, including licensed content such as Wheel of Fortune® slots. In addition, the Global Core Product organization within NAGI develops slot themes and video poker themes such as Game King®.
 
North America Lottery
 
The North America Lottery ("NALO") segment develops and delivers innovative and future-focused lottery solutions, performing research and development for all lottery-related products globally. Headquartered in Providence, Rhode Island, NALO is the Company’s global lottery product development and delivery organization that supports WLA customers worldwide and provides end-to-end support to WLA North America customers with a single point of contact, leveraging the Company’s full lottery product suite. The NALO segment supports 39 of the 45 U.S. lotteries.

NALO includes revenue related to the sale or lease of lottery central system hardware and software, and the sale or lease of

30


lottery and gaming terminals to government entities. The majority of the revenue earned in the NALO segment is derived from facilities management contracts. The Company also has Lottery Management Agreements in three U.S. jurisdictions-Illinois, Indiana, and New Jersey. NALO generates revenue from the sale of physical instant tickets to government entities, and earns recurring revenue from participation games in the form of VLTs in Rhode Island, Delaware, and New York.

International
 
The International segment is a global leader in delivering innovative end-to-end solutions across all channels and regulated gaming segments. This segment is responsible for the strategic development and operation management for all markets in Europe (except Italy), the Middle East, Africa, Central and Latin America (including Mexico), the Caribbean, Asia Pacific, and Oceania, across the Company’s entire product portfolio. In Italy, the International segment supplies AWP content and commercial gaming systems and gaming machines. The Company's global strategy capitalizes on its experience in Italy and North American markets, while customizing products for foreign languages, unique local preferences, and regulatory requirements.

The International segment includes revenue from the sale, lease or revenue share of commercial gaming machines, game software, central systems, loyalty and bonusing systems and services, field services supplied to gaming operators and government entities, and from the sale or hosting or real-money interactive wagering games played over the internet. The Company offers a variety of interactive gaming products within the International segment, including poker, casino, bingo and mobile systems. In addition, it offers products and services to sports betting operators, including retail and full online support. This segment also includes revenue from the sale or lease of lottery central system hardware and software, and the sale or lease of lottery terminals to government entities.

Additionally, International includes revenue from the sale of physical instant tickets to government entities, and professional services in the form of lottery facility management and lottery operation fees. Another source of revenue from some lottery customers in Latin America and Caribbean regions includes point-of-sale transaction processing services such as cellular phone top-ups, bill payments, and money transfers.

 Italy
 
The majority of the revenue earned in the Italy segment is derived from lottery and machine gaming concessions. The Italy segment operates and provides a full range of B2C gaming products, including:
 
Lottery
 
Since 1998, the Company has been the concessionaire for the Italian Lotto game (management of operations commenced in 1994). Beginning in November of 2016, the Company's new Lotto concession includes partners as part of a joint venture. The Company has gained substantial experience in managing the activities along the lottery value chain, such as collecting wagers through its network, paying out prizes, managing all accounting and other back-office functions, running advertising and promotions, operating data transmission networks and processing centers, training staff, providing retailers with assistance and supplying materials including play slips, tickets and receipts, and marketing and point-of-sale materials for the game. Since 2004, the Company also has been the concessionaire for instant ticket lotteries, which are games involving pre-printed paper tickets for the Gratta e Vinci instant game. The Company operates approximately 40,000 terminals in 34,000 Lotto point-of-sale terminals and 66,000 instant ticket points-of-sale.
 
Machine Gaming
 
With respect to the Company's machine gaming concessions in Italy, the Company directly manages stand-alone AWPs, in addition to VLTs that are installed in various retail outlets and linked to a central system. The Company collects the wagers, deducts the applicable gaming taxes, and pays out prizes to winners and fees to retailers. The Company also provides systems and machines to other machine gaming concessionaires, either as a product sale or with long-term, fee-based contracts where the service revenue earned is generally based on a percentage of wagers, net of applicable gaming taxes. At December 31, 2016, the Company had approximately 79,000 machines in the Italian installed base.
 
Sports Betting
 
The Company operates an expansive land-based B2C betting network in Italy through its “Better” and “Totosi” brands on either a parimutuel or fixed odds basis. Sports events and non-sports events connected with current affairs are the subjects of legal betting in Italy. As a sports betting license concessionaire, with approximately 1,400 corner shops and 350 points-of-sale, the Company offers a sports betting platform comprised of a core engine and associated support modules. It also provides secure retail betting

31


solutions, point-of-sale display systems, call center facilities, internet betting technology, and fixed odds or pool betting options.
 
Interactive
 
The Company provides all of the internet games currently authorized in the Italian market, including skill games such as poker and other board and skill games; bingo; casino games such as roulette and blackjack and reel games; live dealer roulette, blackjack, baccarat, and poker; horse and sports betting (fixed odds); pool games, such as a local game based on soccer events (pari-mutuel); virtual betting on events such as car, motorcycle, horse, and dog races and tennis or soccer matches; lottery including Lotto and “10 and Lotto” and Superenalotto with “Win for Life,” “Eurojackpot”; and instant lottery (iGratta e Vinci online).
 
Commercial Services
 
The Company offers high volume transaction processing of commercial services in Italy which include bill payments, electronic tax payments, utility payments, money transfer services, fidelity card services, stamp duty services, prepaid cellular telephone recharges, prepaid cards and retail-based programs. The Company’s commercial services network comprises approximately 70,000 points of sale divided among tobacconists, bars, petrol stations, newspaper stands and motorway restaurants.
 
Seasonality
 
In general, the Company’s business is not materially affected by seasonal variation. However, in the sports betting business, the volume of bets that are collected over the year can be affected by the schedules of sporting events and the particular season of such sports. The volume of bets collected may also be affected by schedules of significant sporting events that occur at regular, but infrequent, intervals, such as the FIFA Football World Cup. In the lottery business, lottery consumption and gaming may decrease over the summer months due to the tendency of consumers to be on vacation during that time. Gaming operations revenues are affected by variations in the number and type of machines in service, levels and frequency of player wagers, and pricing arrangement terms. Seasonal gaming trends generally show higher play levels in the spring and summer months and lower in the fall and winter months.
 
Source of Materials
 
The Company uses a variety of raw materials to manufacture its gaming devices (e.g. metals, wood, plastics, glass, electronic components, and LCD screens). The Company mainly uses paper for office work and for the production of tickets in its two printing facilities, where there is also a significant consumption of toner and ink. A significant part of the materials used involve packaging, which is mainly based on cardboard and paper.
 
Management believes that adequate supplies and alternate sources of the Company’s principal raw materials are available, and does not believe that the prices of these raw materials are especially volatile. The Company has global material suppliers and utilizes multi-sourcing practices to promote component availability, and is not substantially dependent on any single supplier.
 
Product Development
 
The Company devotes substantial resources on research and development and incurred $343.5 million in 2016, $277.4 million in 2015, and $108.2 million in 2014. 

The Company's research and development efforts cover multiple creative and engineering disciplines, including game content, hardware, electrical, systems and software for lottery, land-based, online social, and online real-money applications. The Company specializes in progressive creative game development including design, math, graphics and audio. The gaming products are created primarily by employee designers, engineers, and artists, as well as third-party content creators. Third-party technologies are used to improve the yield from development investment and concentrate increased resources on product differentiation engineering.
 
The Company's main manufacturing and production facility is located in Reno, Nevada, with approximately 594,000 square feet dedicated to product development, warehousing, shipping, and receiving. The company maintains development facilities in Rhode Island (Providence), Italy (Rome), Europe (Austria, Poland, Netherlands and Serbia), Canada (Moncton, New Brunswick), California (San Francisco), Washington (Seattle), Australia (Sydney and Melbourne) and China (Beijing). These facilities provide local community presence, customized products, or regional production where beneficial or required. Manufacturing operations primarily involve the configuration and assembly of electronic components, cables, harnesses, video monitors, and prefabricated parts purchased from outside sources.

32


 
Intellectual Property
 
The Company’s intellectual property ("IP") portfolio of patents, trademarks, copyrights, and other licensed rights is significant. At December 31, 2016, the Company held approximately 5,700 patents or patent applications and approximately 8,200 trademarks filed and registered worldwide.
 
The Company seeks to protect its investment in research and development and the new and original features of its products by perfecting and maintaining its IP rights. The Company obtains patent protection covering many of its products and has a significant number of U.S. and foreign patent applications pending. The Company's IP portfolio is widely diversified with patents related to a variety of products, including game designs, bonus and secondary imbedded game features, device components, systems features, and online or mobile functionality. The Company also relies on trade secret protection, believing that its technical “know-how” and the creative skills of its personnel are of substantial importance to its success.
 
Most of the Company’s products are marketed under trademarks and copyrights that provide product recognition and promote widespread acceptance. The Company seeks protection for its copyrights and trademarks in the U.S. and various foreign countries, where applicable, and uses IP assets offensively and defensively to protect its innovation. The Company also has a program where it licenses its patents to others under terms designed to promote standardization in the gaming industry.

The Company also licenses certain trademarks from third parties such as Wheel of Fortune®, Jeopardy!™, ellen™, Jurassic Park™, Plants v. Zombies™, Ghostbusters™, Bejeweled™, Zuma™, Sex and the City™, Harley-Davidson®, Caesars™, Harrah’s™, Rio™, Paris™ Las Vegas, Horseshoe™, James Cameron's AVATAR™, Centipede®, Bridesmaids™, Life is Good™, Circuit of the Americas™, Gas Monkey Garage™, and The Three Stooges™.
 
Software Development
 
The Company has developed software for use in the management of a range of lottery, gaming and betting functions and products, including leveraging integration with third-party software components. Software developed by the Company is used:

1.
in the central system for the centralized management of:
a.
functions connected to the services provided by the Company through the points of sale of Lotto and Gratta e Vinci, other lotteries, machine gaming and betting, and to other commercial services not connected to games, such as telephonic top-up services or utilities payment services;
b.
functions connected to the services provided through websites for online gaming including Lotto, sports, instant win, and casino style games and
c.
a variety of back office functions including:
Ÿ the centralized management of data relating to the points of sale and machine gaming;
Ÿ the connection of the central system with terminals located at the points of sale;
Ÿ the Company's online payments;
Ÿ trouble ticketing of the terminals;
Ÿ management of the points of sale;
Ÿ updating of the terminals through the network;
Ÿ updating of content for machine gaming;
Ÿ updating of content for digital advertising;
Ÿ management of the network and data exchange and for management of the Company's data archive;
Ÿ Gratta e Vinci inventory management;
Ÿ distribution and printing;
Ÿ management and disbursement of annuitized prize payments;
Ÿ sales force automation and optimization;
Ÿ a range of reporting needs including administrative, accounting, audit, and performance dashboards; and

2.
in the terminals and gaming machines for:
Ÿ management of Lotto including clerk-operated and self-service terminals;
Ÿ management of other lotteries, machine gaming, betting and online payments;
Ÿ provision of gaming and non-gaming content; and
Ÿ integration with other devices such as mobile phones and tablets.


33


Regulatory Framework
 
The Company currently does business in approximately 100 countries worldwide. Gaming products take various forms and for the purposes of government regulation are typically divided into broad categories with game-type subsets, such as gaming (casino, video lottery terminal and other games), lottery (traditional draw game and instant “scratch” tickets) and sports wagering. The delivery method for these gaming products may broadly be categorized as non-remote (land-based) and remote (interactive).

Because of the nature of gaming, most jurisdictions heavily regulate and govern gaming, from an administrative and fiscal point of view, through legislation, enacting regulations, setting technical standards and issuing policy statements (“Gaming Regulations”). Gaming Regulations serve to protect the public and ensure that gaming related activity is conducted honestly, responsibly, competitively and legally. Certain jurisdictions may allow only certain forms of gaming (such as lotteries) but prohibit others. Typically, one or more specialized governing authorities are placed in charge of ensuring operators and suppliers comply with, and adhere to, the intended Gaming Regulations.

The organizational model for gaming operations varies from jurisdiction to jurisdiction, with the operation of gaming typically conducted by one or more dedicated public or private entities. Public policy normally determines whether gaming is afforded free market status or is restricted to a state controlled operator. For example, lottery operations are normally run by a state controlled public entity. Gaming operators are supported by gaming manufacturers, who provide the gaming products and related support services.

The initial requirement in most jurisdictions is to obtain the privileged licenses that allow the Company to participate in gaming activities. The Company’s operating entities and key personnel have obtained or applied for all known government licenses, permits, registrations, findings of suitability, and approvals necessary to manufacture, distribute and/or operate gaming products in all jurisdictions where it does business. Although many Gaming Regulations across jurisdictions are similar or overlapping, the Company must satisfy all conditions individually for each jurisdiction. Obtaining the required licenses at a corporate and personal level is a thorough process, generally comprised of the following requirements:

Applicants submit detailed information after review of which the governing authorities generally conduct intensive investigations of the Company and key individuals.
Authorities will review Company ownership, business operations, and corporate and personal financial information, among other items. While the governing authority or licensing process may differ between gaming segments, ultimately, the authority seeks to ensure the integrity of the applicants prior to allowing them to conduct gaming business.
If there is any question regarding the Company or individual’s suitability, the gaming authority may require the Company to take specific action, such as the removal of an unsuitable individual, prior to issuing a license.
Once the license has been granted, regulatory oversight ensures that the licensee continues to operate with honesty and integrity, as well as ensuring that the appropriate party receives gaming tax revenues. This is monitored through on-going reporting of Company activities, typically including periodic reporting of financial data. As such, the Company's financial systems and reporting functions must demonstrate high levels of detail and integrity.
Most regulators also require the production of regulatory returns, assurance statements and notification of key events, such as changes to ownership, changes to key licensed individuals and regulatory violations.
 
Frequently, Gaming Regulations not only govern the activities within their jurisdiction or origin, but also monitor activities in other jurisdictions to ensure that the Company complies with local standards on a worldwide basis. A violation in one jurisdiction could result in disciplinary action in another.
 
Maintaining worldwide compliance requires an extensive network of internal and external resources and controls. The Company employs over 120 people to support global compliance. Additionally, the Company engages legal resources specializing in local concerns and practices to assist in maintaining compliance with Gaming Regulations. Through this effort, the Company seeks to assure both regulators and investors that all its operations maintain the highest levels of integrity.
 
U.S. Gaming Regulations

The Company is subject to extensive Gaming Regulation by U.S. federal, state and local governments, as well as tribal officials and organizations. Lotteries in the U.S. are regulated by state law, which typically prohibit gaming except as authorized and regulated by the particular state. There are currently 45 jurisdictions that authorize the operation of lotteries in the U.S. The ongoing operations of lotteries and lottery operators are typically subject to extensive and evolving regulation, which vary state-by-state. The Company holds over 400 gaming licenses across approximately 300 U.S. jurisdictions. Key regulatory authorities which have licensed the Company include the Nevada State Gaming Control Board, the California Gambling Control

34


Commission, the Missouri Gaming Commission, the New Jersey Division of Gaming Enforcement and the Pennsylvania Gaming Control Board.

Italian Gaming and Betting Regulations
 
The Company operates in Italy in both the gaming and betting sectors. The Italian gaming and betting regulatory authority is the ADM. At December 31, 2016, the Company held concessions for (1) the activation and operation of the network for the Lotto game, (2) the operation of instant and traditional lotteries, (3) the activation and operation of the network for the telematic operation of legalized AWPs and VLTs, and (4) the collection of pari-mutuel and fixed odds betting through physical points of sale and interactive channels.
 
Gaming in Italy is an activity reserved to the State. Any game that is carried out without proper authorization is illegal and subject to criminal penalties. Italian law grants the Ministry of Economy and Finance the power to introduce games and to manage gaming and betting activities directly or by granting concessions to third parties. The process of creating and granting gaming and betting concessions in Italy is heavily regulated.
 
Gaming and betting concessions are granted pursuant to a public tender procurement process. The concession provides for all of the concessionaire’s activities and duties, including collection of the game’s revenues, the payment of winnings, the payment of the point of sale, the drawings and the management of all of the technological assets to operate gaming. Concessions are for a determined time period and are not renewable unless indicated in the concession agreement; in such event, the renewal is not guaranteed to be on the same terms. In certain cases, the concession may be extended at the option of the governmental authority on the same terms. Under other circumstances, which are typically defined in the concession agreement, the concession may be revoked or terminated. Most cases of early termination are related to the breach of the terms of the concession agreement or the non-fulfillment of conditions of that agreement. In some cases, the early termination of the concession allows the State to draw upon the entire amount of the performance bond presented by the concessionaire. Upon governmental request, the concessionaire has an obligation to transfer, free of charge, the assets subject of the concession to the State at the end of the term of the concession or in the event of its revocation or early termination. Each single concession contains specific provisions enacting such general obligation.
 
The ongoing operations of Italian gaming and betting operators are typically subject to extensive and evolving regulation. In general, the regulatory requirements include:
 
Ÿ licenses and/or permits;
Ÿ findings of suitability for the Company, as well as individual officers, directors, major stockholders and key employees;
Ÿ documentation of qualification, including evidence of financial stability;
Ÿ the provision of financial guarantees (bid bond and performance bond);
Ÿ information on shareholders owning more than 2% with regard to bidding processes;
Ÿ specific approvals for gaming equipment manufacturers and distributors;
Ÿ good standing of directors, managers, and shareholders owning more than 2% of the concessionaire;
Ÿ certain economic and financial requirements;
Ÿ taxation and financial requirements;
Ÿ taxation on the wagers coming from illegal gaming;
Ÿ permission of the State in case of change of control of the concessionaires;
Ÿ registration of all operators in the gaming machine industry; and
Ÿ anti-money laundering compliance.
 
The E.U. Regulations
 
Interactive gaming in the E.U. is characterized by diverse regulatory frameworks with some E.U. countries having monopolistic regimes run by a sole public or a private operator, and others having established licensing systems for more than one operator. At the same time, operators licensed in one or more E.U. countries can offer gaming services in other countries without the authorization normally required in those other countries. This is enshrined in Article 49 of the Treaty Establishing the European Community. There is not however, for the moment, specific Gaming Regulations at an E.U. level.
Contrary to the above principle, some E.U. countries restrict the free provision of gaming services from elsewhere in the E.U. while they permit the active promotion of gaming by operations that are state owned or state sponsored. Under E.U. laws it is not permissible to do so on the grounds of protection of financial revenues. The European Court of Justice has made clear the narrow criteria under which such restrictions might be justifiable, namely, consumer protection on public policy grounds. Consequently, certain E.U. countries’ Gaming Regulations may be contrary to overarching E.U. principles.

35


C.                         Organizational Structure
A listing of the Parent’s directly and indirectly owned subsidiaries at April 3, 2017 is set forth in Exhibit 8.1 to this annual report on Form 20-F.
The following is a diagram of the Parent and certain of its subsidiaries and associated companies at April 3, 2017: 
a2016orgstructureigta05.gif
______________________________________________
* Accumulated shareholdings of De Agostini S.p.A., which holds 46.11%, and DeA Partecipazioni S.p.A., which holds 4.98% of the Parent's ordinary shares.

36


D.                         Property, Plant and Equipment
The Parent's principal office is located at Marble Arch House, 66 Seymour Street, 2nd Floor, London W1H 5BT, U.K., telephone number +44 (0) 207 535 3200. At March 31, 2017, the Company leased approximately 145 properties in the U.S. and 139 properties outside of the U.S., and owned a number of facilities and properties, including:
an approximately 113,000 square foot manufacturing, research and development and office building in Moncton, New Brunswick, Canada;
an approximately 52,500 square foot research and development lab and engineering office in Reno, Nevada;
an approximately 51,000 square foot manufacturing and office facility in Gross St. Florian, Austria; and
an approximately 13,000 square foot enterprise data center in West Greenwich, Rhode Island.
The following table shows the Company's material owned and leased properties at March 31, 2017:
U.S. Properties
Location
 
Square
Feet
 
Use and Productive Capacity
 
Extent of
Utilization
 
Holding
Status
 
Products
Produced
9295 Prototype Dr.,
Reno, NV
 
1,180,418
 
Office, Warehouse, Game Studios, Hardware/Software Engineering; Global Manufacturing Center
 
100
%
 
Leased
 
EGM’s
6355 S. Buffalo Dr.,
Las Vegas, NV
 
222,268
 
Office, Game Studio, Systems Software, Showroom
 
100
%
 
Leased
 
N/A
55 Technology Way,
West Greenwich, RI
 
170,000
 
WG Technology Center: Office; research and testing; storage and distribution
 
100
%
 
Leased
 
N/A
10 Memorial Blvd.,
Providence, RI
 
124,769
 
Principal U.S. Operating Facility
 
100
%
 
Leased
 
N/A
4000 South Frontage Road, Suite 101
Lakeland, FL
 
98,280
 
Printing Plant: Printing facility; storage and distribution; office
 
100
%
 
Leased
 
Printed tickets
8520 Tuscany Way,
Bldg. 6, Suite 100,
Austin, TX
 
81,933
 
Texas Warehouse and National Response Center: Contact center; storage and distribution; office
 
95
%
 
Leased
 
N/A
1000 Sandhill Rd.,
Reno, NV
 
52,500
 
Office, Warehouse, Global Test & Interoperability Center
 
60
%
 
Owned
 
N/A
605 Fifth Avenue
South, Suite 300
Seattle, WA
 
49,375
 
DoubleDown Interactive Offices and Game Studio
 
95
%
 
Leased
 
N/A
2401 Police Center Drive,
Plant City, FL
 
48,800
 
Backup instant ticket printing plant
 
90
%
 
Leased
 
Printed tickets
5300 Riata Park Court, Bldg. E,
Suite 100,
Austin, TX
 
42,537
 
Austin Tech Campus: Research and test; office
 
90
%
 
Leased
 
N/A
403 Westcoat Road,
Egg Harbor
Township, NJ
 
30,698
 
Service Office, Warehouse, Game Studio, MJP Monitoring
 
75
%
 
Leased
 
N/A
405 Howard Street, Floor 6,
San Francisco, CA
 
28,921
 
Office, Interactive
 
100
%
 
Leased
 
N/A
8200 Cameron Road, Suite E120,
Austin, TX
 
24,320
 
Data Center of the Americas: Data center; network operations; office
 
80
%
 
Leased
 
N/A
47 Technology Way,
West Greenwich, RI
 
13,050
 
Enterprise Data Center: Data center; network operations
 
75
%
 
Owned
 
N/A
75 Baker Street,
Providence, RI
 
10,640
 
RI National Response Center: Office; contact center
 
100
%
 
Leased
 
N/A


37


Non-U.S. Properties
Location
 
Square
Feet
 
Use and Productive Capacity
 
Extent of
Utilization
 
Holding
Status
 
Products
Produced
Galwin 2
1046 AW Amsterdam
Netherlands
 
125,128
 
EMEA Gaming manufacturing/distribution/repair facility; research and test; office
 
90
%
 
Leased
 
EGMs
Viale del Campo Boario 56/D 00154
Roma, Italy
 
123,740
 
Principal Operating Facility in Italy: Office Italy Data Center: Data center; network operations
 
100
%
 
Leased
 
N/A
328 Urquhart Ave,
Moncton, New Brunswick,
Canada
 
113,000
 
Canada HQ: office; research and test
 
100
%
 
Owned
 
VLTs
Viale del Campo Boario 19 00154
Roma, Italy
 
96,840
 
Office for administration, software development
 
95
%
 
Leased
 
N/A
Seering 13-14,
Unterpremstatten,
Austria
 
73,776
 
Austria Gaming HQ: Office; research and test
 
90
%
 
Leased
 
N/A
Building 2, Reserve
Industrial Estate,
6 Hope Street,
Ermington, Australia
 
62,277
 
Office, Warehouse, Game Studio, Systems Software, Sales, AUS Final Assembly
 
100
%
 
Leased
 
N/A
29, Suzhoujie Street,
Viva Plaza,
Haidian District,
Room No. 1-20,
11th and 18th Floors,
Beijing
100080, China
 
56,898
 
Game Studio, Systems Software, Office
 
85
%
 
Leased
 
N/A
Al. Jerozolimskie, 92
Brama Building,
Warsaw, Poland
 
51,072
 
International Tech Hub: Office; research and test
 
95
%
 
Leased
 
N/A
Lasnitzstrasse 19,
Gross St.
Florian, Austria
 
50,808
 
Storage and distribution
 
75
%
 
Owned
 
VLTs
48 Indianapolis Street, Kyalami Business Park, Midrand, South Africa
 
44,001
 
Office, Warehouse, Systems Software, Sales, SA Final Assembly
 
90
%
 
Leased
 
EGMs
USCE Tower
Bulevar Mihajla
Pupina No. 6
Belgrade, Serbia
 
28,471
 
Software development office, Lottery and Gaming products
 
95
%
 
Leased
 
N/A
11 Talavera Rd.
Building  B,
Sydney, Australia
 
27,432
 
Office, Sales & Marketing, Financial support
 
100
%
 
Leased
 
N/A
Marble Arch House,
66 Seymour Street, 2nd Floor,
London W1H 5BT,
United Kingdom
 
11,495
 
Registered global headquarters of the Parent
 
75
%
 
Leased
 
N/A
 
The Company's facilities are in good condition and are adequate for its present needs and there are no known environmental issues that may affect the Company's utilization of its real property assets.
The Company does not have any plans to construct, expand or improve its facilities in any material manner other than general maintenance of facilities.  As such, no increase in productive capacity is anticipated.
None of The Company's properties is subject to mortgages or other security interests granted to secure indebtedness to certain financial institutions.

Item 4A.
Unresolved Staff Comments
None.
 

38


Item 5. 
Operating and Financial Review and Prospects
 
The following discussion and analysis of the Company's financial condition and results of operations should be read in conjunction with the Consolidated Financial Statements, including the notes thereto, included in this annual report, as well as “Presentation of Financial and Certain Other Information,” “Item 3.A. Selected Financial Data,”  “Item 3.D. Risk Factors" and “Item 4.B. Business Overview.”
 
The following discussion includes certain forward-looking statements. Actual results may differ materially from those discussed in such forward-looking statements. Factors that could cause or contribute to such differences include, but are not limited to, those discussed below and elsewhere in this annual report, including in “Item 5.G. Safe Harbor Statement under the Private Securities Litigation Reform Act of 1995” and “Item 3.D. Risk Factors.”
 

A.            Operating Results
 
Overview
 
The Company is a leading commercial operator and provider of technology in the regulated worldwide gaming markets that operates and provides a full range of services and leading-edge technology products across all gaming markets, including lotteries, machine gaming, sports betting and interactive gaming. The Company also provides high-volume processing of commercial transactions. The Company's state-of-the-art information technology platforms and software enable distribution through land-based systems, Internet and mobile devices. The Company provides business-to-consumer (B2C) and business-to-business (B2B) products and services to customers in over 100 countries worldwide on six continents.
 
The structure of the Company’s internal organization is customer-facing aligned around four business units operating in three regions that represent the Company’s reportable segments as follows:
 
North America Gaming and Interactive
North America Lottery
International
Italy
 
Income Statement Overview
 
Revenue
 
The Company's revenue is comprised of service revenue and product sales. Service revenue is principally derived from multi-year contracts under which the Company earns revenue over time as the related services are provided. Service revenue comprises the majority of the Company's revenue, amounting to $4.376 billion, $3.978 billion and $3.490 billion, or approximately 84.9%, 84.8% and 91.5% of total revenues in 2016, 2015 and 2014, respectively. Product sales are derived principally from the installation of new and replacement systems, software, lottery terminals and gaming machines. Product sales fluctuate due to the mix, volume and timing of product sales contracts and therefore may not be comparable from period to period.
 
The principal services and products the Company provides are summarized by operating segment below.
 
North America Gaming and Interactive segment
 
The majority of the revenue the Company earns in the North America Gaming and Interactive segment is derived from service revenue generated from commercial gaming and social gaming. Commercial gaming service revenue is derived from the lease of gaming machines and software to casinos and government entities in the U.S. and Canada. Social gaming service revenue is derived from a customer’s purchase of virtual currency for use in non-wagering interactive games played over the Internet.

Product sales in the North America Gaming and Interactive segment are derived from the sale of real money “commercial” gaming machines, systems, software, conversion kits and parts to casinos and government entities in the U.S. and Canada.

Revenues in the North America Gaming and Interactive segment amounted to $1.373 billion, $1.102 billion and $132.5 million, or approximately 26.6%, 23.5% and 3.5% of total revenues in 2016, 2015 and 2014, respectively.


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North America Lottery segment
 
The majority of the revenue the Company earns in the North America Lottery segment is derived from Lottery contracts. Revenues in the North America Lottery segment amounted to $1.194 billion, $1.046 billion and $940.1 million, or approximately 23.2%, 22.3% and 24.7% of total revenues in 2016, 2015 and 2014, respectively.
 
Service revenue in the North America Lottery segment is derived from contracts, under which the Company designs, installs, operates and retains ownership of the gaming system. These contracts generally provide for a variable amount of monthly or weekly service fees paid to the Company directly from its customer based on a percentage of sales or net machine income. The Company recorded fees earned under these contracts as service revenue in the period earned. Expenses associated with providing services under these contracts principally consist of cost of personnel, telecommunications, equipment maintenance and repair, consumables for the games and depreciation of tangible assets.
 
Product sales in the North America Lottery segment are derived from contracts under which the Company constructs, sells, delivers and installs a turnkey system or delivers equipment, and licenses the computer software for a fixed price, and its customer subsequently operates the system or equipment. Revenue attributable to any ongoing services (such as post contract support) provided subsequent to customer acceptance, are recorded as service revenue in the period earned.
 
International segment
 
The majority of the revenue the Company earns in the International segment is derived from Lottery and Machine Gaming contracts. Revenues in the International segment amounted to $827.3 million, $853.1 million and $630.6 million, or approximately 16.1%, 18.2% and 16.5% of total revenues in 2016, 2015 and 2014, respectively.
 
Service revenue in the International segment is derived from contracts, under which the Company designs, installs, operates and retains ownership of the gaming system. These contracts generally provide for a variable amount of monthly or weekly service fees paid to the Company directly from its customer based on a percentage of sales or net machine income. The Company recorded fees earned under these contracts as service revenue in the period earned. Expenses associated with providing services under these contracts principally consist of cost of personnel, telecommunications, equipment maintenance and repair, consumables for the games and depreciation of tangible assets.
 
Product sales in the International segment are derived from contracts under which the Company constructs, sells, delivers and installs a turnkey system or delivers equipment, and licenses the computer software for a fixed price, and its customer subsequently operates the system or equipment. Revenue attributable to any ongoing services (such as post-contract support) provided subsequent to customer acceptance, are recorded as service revenue in the period earned.
 
Italy segment
 
The majority of the revenue the Company earns in the Italy segment is derived from Lottery and Machine Gaming concessions. Revenues in the Italy segment amounted to $1.761 billion, $1.704 billion and $2.108 billion, or approximately 34.2%, 36.3% and 55.3% of total revenues in 2016, 2015 and 2014, respectively. The Company also earns service revenue under Sports Betting and Interactive Gaming concessions, and from Commercial Transaction Processing Services. Summarized below is an overview of the key services within the Italy segment:
 
Lottery
 
Under the Company's Lotto and Gratta e Vinci (“Scratch and Win”) concessions, it manages all of the activities along the value chain including collecting wagers, paying out prizes, managing all accounting and other back-office functions, running advertising and promotions, operating data transmission networks and processing centers, training staff, providing retailers with assistance and supplying materials for the games. The service revenues earned in return for operating these concessions are based on a percentage of wagers. For the prior Lotto concession, this percentage of wagers decreased as the total wagers increased during an annual period, while for the new Lotto concession and the Scratch and Win concession, the Company's fee is a fixed percentage of wagers. ADM pays the Company its Lotto fee on a weekly basis and the Scratch and Win fee on a monthly basis. For Lotto, the Company deposits wagers, net of prizes paid and retailer commissions retained by the retailer at point of sale, into bank accounts which are reported on the consolidated balance sheet as restricted cash with an offsetting liability to ADM. Scratch and Win sales to the retailers are recorded as a receivable on the consolidated statement of financial position with a corresponding payable to ADM. The Company collects Scratch and Win wagers from retailers, net of prizes paid directly by retailers and the retailers’ fee, on a weekly basis. On a monthly basis, the Company remits amounts due to

40


ADM. Expenses associated with providing services under these concessions principally consist of consumable costs, postage and freight, network costs, marketing and advertising of the games, cost of personnel dedicated to these activities and depreciation and amortization of tangible and intangible assets.
 
Machine Gaming
 
Under the Company's Machine Gaming concessions, it directly manages stand-alone AWP machines and VLTs that are installed in various retail outlets and linked to a central system. For Machine Gaming, the Company collects the wagers, deducts the applicable gaming taxes, and pays prizes to winners and fees to retailers. The service revenue earned in return for operating these concessions are generally based on a percentage of wagers net of applicable gaming taxes. The Company records service revenue net, equal to total wagers less the payout for prizes and applicable gaming taxes. Expenses associated with providing services under these concessions principally consist of point of sale fees, network costs, marketing and advertising of the games, cost of personnel dedicated to these activities, concession fees, and depreciation and amortization of tangible and intangible assets. The Company also provides systems and machines to other machine gaming concessionaires, either as a product sale or with long-term, fee-based contracts.
 
Sports Betting
 
The Company has a number of concessions to operate sports betting (including horse race competitions) and the right to operate sports betting over the Internet. Sports betting concessions are principally comprised of arrangements under which the Company collects the wagers, pays prizes and pays a percentage fee to retailers. The Company records service revenue net, equal to wagers less prizes and taxes. Expenses associated with providing services under these concessions principally consist of point of sale commissions and depreciation and amortization of tangible and intangible assets.
 
Commercial Transaction Processing Services
 
The Company leverages the distribution networks and offers high-volume transaction processing services which include bill payments, electronic tax payments, utility payments, prepaid cellular telephone recharges, prepaid cards and retail-based programs. The Company earns a fee for processing such transactions that is transaction-based (a fixed fee per transaction or a fee based on a percentage of monetary volume processed). The Company recognizes these fees as service revenue at the time a transaction is processed. Expenses associated with providing services under these concessions principally consist of point of sale commissions, network costs, banking fees and depreciation of tangible assets.
 
Interactive Gaming
 
The Company provides interactive skill games such as poker and other board and soft games through the Internet and mobile channels. For these services, the Company records service revenue net equal to wagers less prizes and taxes. Expenses associated with providing services under these concessions principally consist of marketing and advertising of the games.

Key Factors Affecting Operations and Financial Condition
 
The following are a description of the principal factors which have affected the Company's results of operations and financial condition for the years ended December 31, 2016, December 31, 2015 and December 31, 2014 and/or which may affect results of operations and financial condition for future periods.
 
The IGT Acquisition: On April 7, 2015, the Company acquired IGT, a global leader in casino and social gaming entertainment, headquartered in Las Vegas, Nevada. The Company recorded $1.7 million, $49.4 million and $44.0 million of professional fees and expenses related to the acquisition of IGT in 2016, 2015 and 2014, respectively, which are recorded in Transaction expense, net in the consolidated income statements.
 
Effects of Foreign Exchange Rates: The Company is affected by fluctuations in foreign exchange rates (i) through translation of foreign currency financial statements into U.S. dollars for consolidation, which is referred to as the translation impact, and to a lesser extent (ii) through transactions by subsidiaries in currencies other than their own functional currencies, which is referred to as the transaction impact. Translation impacts arise in the preparation of the consolidated financial statements; in particular, the consolidated financial statements are prepared in U.S. dollars while the financial statements of each of the Company's subsidiaries are prepared in the functional currency of that subsidiary. In preparing consolidated financial statements, assets and liabilities measured in the functional currency of the subsidiaries are translated into U.S. dollars using the exchange rate prevailing at the balance sheet date, while income and expenses are translated using the average exchange rates for the period covered. Accordingly, fluctuations in the exchange rate of the functional currencies of the Company's subsidiaries

41


against the U.S. dollar impacts the Company's results of operations. The Company is particularly exposed to movements in the euro/U.S. dollar exchange rate. Although the fluctuations in foreign exchange rates has had a material impact on the Company's revenues, the impact on operating income and cash flows is less significant in that revenues are mostly matched by costs denominated in the same currency.
 
Jackpots and Late Numbers: The Company believes that the performance of lottery products is influenced by the size of available jackpots in jurisdictions that offer such jackpots. In general, when jackpots increase, sales of lottery tickets also increase, further increasing the jackpot. The Company also believes that consumers in Italy monitor “late numbers” (numbers which have not been drawn for more than 100 draws) and when there is a good pipeline of late numbers, wagers in Italy increase. Under both of these circumstances, the Company's service revenues are positively impacted.
 
Product Sales: The Company's product sales fluctuate from year to year due to the mix, volume and timing of the product sales transactions. In general, product sales contracts are dependent on the timing of replacement cycles. Product sales amounted to $778.3 million, $711.4 million and $322.3 million, or approximately 15.1%, 15.2% and 8.5% of total revenues, in 2016, 2015 and 2014, respectively.
 
Restructuring Costs: During the historical periods presented, the Company has undertaken restructuring plans and initiatives principally related to the streamlining of the Company's interactive gaming operations, optimization projects for Lottery, and costs associated with the overall management reorganization announced in 2013. In addition, with respect to the IGT acquisition, the Company has undertaken various restructuring plans to eliminate redundant costs across the business. The Company recorded restructuring costs associated with these plans of $27.9 million, $76.9 million and $23.7 million, in 2016, 2015 and 2014, respectively.
 
Incentive Payments and Penalties under Minimum Profit Contracts: The Company has three contracts where it has provided customers with minimum profit level guarantees (the Illinois Contract, Indiana Contract, and New Jersey Contract). Under these contracts the Company may earn incentive compensation if it exceeds minimum profit level guarantees and may be required to pay penalties should it fail to achieve them.

In relation to the Illinois Contract, the Company guaranteed a minimum profit level to the State of Illinois for each fiscal year of the agreement, commencing with the State of Illinois’s fiscal year ended June 30, 2012. The amounts guaranteed and therefore amounts owed by the Company as shortfall payments under the Illinois Contract were under dispute. In December 2014, the Company and the State of Illinois entered into a termination agreement which settled the amount of shortfall payments for fiscal years 2012, 2013 and 2014, in the amounts of $21.8 million, $38.6 million and $37.1 million, respectively. In 2015, the Attorney General of the State of Illinois questioned the validity of the termination agreement between the Company and the State of Illinois which resulted in the Company and the State of Illinois entering into a new termination agreement and the Company paid the State of Illinois an additional $10 million representing the shortfall payment for the State of Illinois’s fiscal year ending June 30, 2015. The Company will neither be responsible for the payment of any other shortfall payment, nor will it be entitled to receive any incentive compensation, for all or any portion of fiscal year 2015, or any subsequent fiscal year. The Company recorded reductions of service revenue of $10.0 million and $55.5 million in 2015 and 2014, respectively.
 
In relation to the Indiana Contract, the Company guaranteed a minimum profit level to the State of Indiana commencing with the contract year starting July 1, 2013. The Company recorded reductions of service revenue of $8.0 million and $8.8 million in 2015 and 2014, respectively related to this guarantee. In 2015, the Company and the State of Indiana renegotiated the Indiana Contract which resulted in revised guarantee levels and in consideration the Company paid the State of Indiana $18.3 million which the Company capitalized to Other Assets in its consolidated balance sheet and which the Company is amortizing to service revenue over the remaining contract term.
 
In relation to the New Jersey Contract, the Company guaranteed a minimum profit level to the State of New Jersey commencing with the contract year starting July 1, 2014. In 2015, the Company and the State of New Jersey renegotiated the New Jersey Contract which resulted in revised guarantee levels and in consideration the Company paid the State of New Jersey $15.4 million which the Company capitalized to Other Assets in its consolidated balance sheet and which the Company is amortizing to service revenue over the remaining contract term. In 2016, the Company received a $30.6 million incentive payment based on its performance.

Research and Development Activities: The Company devotes substantial resources on research and development and incurred $343.5 million, $277.4 million and $108.2 million of related expenses in 2016, 2015 and 2014, respectively. As anticipated, investments in research and development increased following the April 2015 acquisition of IGT.
 

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Critical Accounting Estimates
 
The Company's consolidated financial statements are prepared in conformity with GAAP which require the use of estimates, judgments and assumptions that affect the carrying amount of assets and liabilities and the amounts of income and expenses recognized. The estimates and underlying assumptions are based on information available at the date that the financial statements are prepared, on historical experience, judgments and assumptions considered to be reasonable and realistic.
 
The Company periodically and continuously reviews the estimates and assumptions. Actual results for those areas requiring management judgment or estimates may differ from those recorded in the consolidated financial statements due to the occurrence of events and the uncertainties which characterize the assumptions and conditions on which the estimates are based.
 
The areas which require greater subjectivity of management in making estimates and judgments and where a change in such underlying assumptions could have a significant impact on the Company's consolidated financial statements are discussed below.
 
Revenue Recognition
 
The Company has two categories of revenue: Service revenue and Product sales.
 
Service revenue is derived from the following sources:
 
Operating contracts predominantly related to Italian contracts and certain U.S. contracts;
Gaming operations arrangements where the Company provides customers with proprietary gaming equipment, systems, content licensing, and services;
Facilities Management Contracts (Hosting arrangements);
Interactive contracts; and
Post-contract customer support (“PCS”).
 
Product sales are derived from the following sources:
 
Sale of lottery terminals and gaming machines, including game content; and
Sale of lottery and gaming systems, including the licensing of proprietary software, and including implementation services.

Revenue is recognized when all of the following conditions are met:
 
(i)             Persuasive evidence of an arrangement exists;
(ii)          Delivery has occurred;
(iii)       The fee is fixed or determinable; and
(iv)      Collectability is probable.
 
Revenues are reported net of amortization of upfront payments to customers, incentives, rebates, and discounts. Sales taxes, gaming taxes and other taxes of a similar nature are presented on a net basis (excluded from revenue). Amounts billed prior to completing the earnings process are deferred until revenue recognition criteria is met.
 
Service revenue
 
Service revenue is derived from the following types of arrangements:
 
Operating contracts
 
Certain of the Company’s revenue, primarily revenue from the Italy segment and to a lesser extent the North America Lottery segment, is derived from operating contracts. Under operating contracts, the Company manages all the activities along the lottery value chain including collecting wagers, paying out prizes, managing all accounting and other back-office functions, running advertising and promotions, operating data transmission networks and processing centers, training staff, providing retailers with assistance and supplying materials for the game. In Italian arrangements where the Company is performing services on behalf of the government and the government is considered the Company’s customer, revenue is recognized net of prize payments, taxes, retailer commissions and remittances to state authorities, because the Company is acting as an agent to the authorities. In arrangements where the Company’s customers are the end players and/or retailers, the Company records

43


revenue net of prizes and taxes only, and records the retailer commissions as a cost of service, because the Company is acting as the principal.
 
The Company also provides sports pools and sports betting services. Under sports pools arrangements, the Company manages the sports pool where the sports pool prizes are divided among those players who select the correct outcome. There are no odds involved in sports pools and each winner’s payoff depends on the number of players and the size of the pool. Under sports pools arrangements, the Company collects the wagers, pays prizes, pays a percentage fee to retailers, withholds its fee, and remits the balance to the respective regulatory agency. The Company assumes no risk associated with sports pool wagering. The Company records revenue net of prize payouts, gaming taxes, retailer commissions and remittances to state authorities, because the Company is acting as an agent to the authorities.
 
In sports betting contracts, the Company establishes and assumes the risks related to the odds. Under fixed odds betting, the potential payout is fixed at the time bets are placed and the Company bears the risk of odds setting. The Company is responsible for collecting the wagers, paying prizes, and paying fees to retailers. The Company retains the remaining cash as profits. Under these arrangements, the Company records revenue net, calculated as total wagers less the estimated payout for prizes, because the betting contract is considered a derivative and is required to be recorded at fair value. Taxes are recorded as contra revenue and retailer commissions are shown as expenses.
 
Fees earned under operating contracts are recognized as revenue in the period earned and are classified as service revenue in the consolidated statement of operations when all of the criteria outlined above are met.
 
Under operating contracts, the Company is generally required to pay upfront license fees. When such upfront payments are made to the Company’s customers, the payment is recorded as a non-current asset and amortized as a reduction of service revenue over the license term.
 
Gaming Operations
 
Gaming operations revenues are generated by providing customers with proprietary land-based gaming equipment, systems, content licensing, and services under a variety of recurring revenue arrangements, including a percentage of coin-in (amounts wagered), a percentage of net win, or a fixed daily/monthly fee.
 
Included in gaming operations are Wide Area Progressive (“WAP”) systems. WAP systems consist of linked slot machines located in multiple casino properties, connected to a central computer system. WAP games differ from all other games in that a Company-sponsored progressive jackpot increases with every wager until a player wins the top award combination. Casinos with WAP machines pay a percentage of the coin-in (amounts wagered) for services related to the design, assembly, installation, operation, maintenance, and marketing of the WAP systems, as well as funding and administration of Company-sponsored progressive jackpots.
 
Fees earned under gaming operations are recognized as revenue in the period earned and are classified as service revenue in the consolidated statement of operations when all of the criteria outlined above are met.

Facilities management contracts
 
Under facilities management contracts, the Company constructs, installs, operates and retains ownership of the online system. These contracts, principally in the North America Lottery segment, generally provide for a variable amount of monthly or weekly service fees paid to the Company directly from the customer based on a percentage of sales.
 
Fees earned under facilities management contracts are recognized as revenue in the period earned, throughout the service period, and are classified as service revenue in the consolidated statement of operations when all of the criteria outlined above are met.
 
Interactive Contracts
 
Interactive revenues are principally generated from online social gaming and online real-money products and services (“IGTi”).
 
Social gaming revenues are generated from the sale of virtual casino chips to players in the online DoubleDown Casino that can be used for additional play or game enhancements. Revenues from player purchases are recognized ratably over the estimated average service period in which the chips are consumed based on historical data analysis. Because DoubleDown is the principal, responsible for substantially all aspects of the casino services and sale of virtual goods to the player, revenues are

44


recorded on a gross basis. Payment processing fees paid to Facebook, Apple and Google on a revenue participation basis are recorded within cost of services.
 
IGTi revenues are generated from online real-money gaming solutions offerings, which encompass gaming systems infrastructure, applications, content licensing, and back office operational support services, including WAP jackpot funding and administration. IGTi solutions are generally provided under revenue sharing arrangements based on a percentage of net win similar to gaming operations discussed above.
 
Post-Contract Customer Support (PCS)
 
Product sales contracts generally include PCS, which includes telephone support, software maintenance, software support, professional services, and in some scenarios the right to receive unspecified upgrades/enhancements on a when-and-if-available basis. Fees earned under PCS contracts are generally recognized as revenue in the period earned (i.e., over the support period) and are classified as service revenue in the consolidated statement of operations when all of the criteria outlined above are met.
 
Product Sales
 
Product sales are derived from the following types of arrangements:
 
Sale of Lottery Terminals and Sale of Gaming Machines, including Game Content
 
These arrangements include the sale of gaming machines including game content, non-machine gaming related equipment, licensing and royalty fees, and component parts (including game themes and electronics conversion kits). The Company’s credit terms are predominantly short-term in nature. The Company also grants extended payment terms under contracts where the sale is secured by the related equipment sold. Revenue from the sale of lottery terminals and gaming machines is recognized based upon the contractual terms of each arrangement, but predominantly upon delivery or acceptance. If the sale of lottery terminals and gaming machines include multiple elements, these arrangements are accounted for under Multiple Element Accounting, discussed below.

System Sales (Lottery and Gaming)
 
System Sale arrangements typically include multiple elements, where the Company constructs, sells, delivers and installs a turnkey system (inclusive of point of sale terminals, if applicable) or delivers equipment and licenses the computer software for a fixed price, and the customer subsequently operates the system. System sale arrangements generally include customer acceptance provisions and general rights to terminate the contract if the Company is in breach of the contract. Such arrangements include non-software elements, software, professional services, and PCS in the form of maintenance and software support arrangements. Amounts due to the Company and costs incurred by the Company in implementing the system prior to customer acceptance are deferred. Revenue attributable to the system is classified as product sales in the consolidated statement of operations and is recognized upon customer acceptance as long as there are no substantial doubts regarding collectability. Revenues attributable to PCS provided subsequent to customer acceptance are classified as service revenue in the consolidated statement of operations in the period earned.
 
Multiple Element Arrangements
 
The Company uses multiple element guidance for both service arrangements and product sale arrangements. In some scenarios, all deliverables are considered one unit of accounting (i.e., facilities management contracts where the Company provides software as a service), while other arrangements contain multiple elements that can be separated into distinct deliverables. When arrangements contain multiple elements, including software and non-software components, the Company allocates revenue to each category based on a selling price hierarchy. Allocation of revenue to software and non-software components is based on either vendor-specific objective evidence ("VSOE") if available, third-party evidence ("TPE") if VSOE is not available, or best estimate of selling price ("BESP") if neither VSOE nor TPE is available.
 
VSOE of selling price is based on the net price charged when the element is sold separately. In determining VSOE, the Company requires that a substantial majority of the selling prices fall within a reasonable range based on historical discounting trends for specific products and services. VSOE for post-contract support and professional service hours may also be determined based on renewal rates, if available, provided that the renewal rates are substantive.

TPE of selling price is established by evaluating largely interchangeable competitor products or services in stand-alone sales to similar customers. However, as the Company’s products contain a significant element of proprietary

45


technology and the Company’s solutions offer different features and functionality, the comparable pricing of third-party products with similar functionality typically cannot be obtained.

BESP is established considering multiple factors including, but not limited to, market conditions, competitive landscape, internal costs, and gross profit objectives. In some scenarios, contractual pricing may serve as the best estimate given the variability among jurisdictions and customers, while in other scenarios cost for each deliverable plus reasonable margin is used as management’s best estimate.
 
In scenarios where the Company’s products include hardware containing required software that function together to provide the essential functionality of the product, the Company considers both the hardware and required software as “non-software deliverables” and has therefore concluded that such arrangements are not subject to the industry-specific software revenue recognition guidance. The Company recognizes revenue for these arrangements based on ASC 605, Revenue Recognition, and allocates the arrangement consideration based on the relative selling price of the deliverables. In scenarios where the Company’s products include hardware where the software is not considered essential to the functionality of the hardware, the hardware revenue is recognized based on when the revenue recognition criteria is met (i.e., shipment, delivery and/or acceptance) and the software revenue is recognized under the software revenue recognition guidance provided under ASC 985, Software.

If there are multiple deliverables within the software and non-software categories, revenue is first allocated between the software pool of deliverables and the non-software pool of deliverables on a relative fair value basis. Thereafter, revenue for each pool is further allocated as follows:
 
Non-software components: Revenue is further allocated to each separate unit of accounting using the relative selling prices of each deliverable in the priority order described above. However, revenue is only recognized if the unit of accounting has stand-alone value. A deliverable is considered to have stand-alone value if (a) it has value to the customer on stand-alone basis, and (b) if a general right of return exists relative to the delivered item, delivery or performance of the undelivered item is considered probable and substantially in the Company’s control.

Software components: If the arrangement contains more than one software deliverable, the arrangement consideration allocated to the software category as a group is then allocated to each software deliverable using VSOE, provided the deliverable has stand-alone value. If VSOE is not available for all deliverables, then the Company uses the residual method when VSOE of fair value of the undelivered items exists. If VSOE of one or more undelivered software items does not exist, then all the software deliverables are considered one unit of accounting. Revenue is deferred and recognized at the earlier of (i) delivery of those elements or (ii) when fair value can be established for the undelivered elements, unless PCS is the only undelivered element, in which case, the entire software category allocated consideration is recognized ratably over the service period.



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Goodwill, Intangible Assets and Long-lived Assets

Goodwill
 
Goodwill is tested for impairment annually, or more frequently if facts or circumstances indicate that it may be impaired. Goodwill is tested for impairment at the reporting unit level, which is one level below or the same level as an operating segment. The Company performs an annual assessment of its reporting units and has five reporting units at December 31, 2016 as follows:
 
North America Gaming and Interactive;
DoubleDown;
North America Lottery;
International; and
Italy.
 
The carrying amount of goodwill amounted to $6.810 billion and $6.830 billion at December 31, 2016 and December 31, 2015, respectively. There were no goodwill impairment losses recorded in 2016, 2015 or 2014.
 
When testing goodwill for impairment, the Company first performs a qualitative assessment to determine whether it is necessary to perform step one of a two-step annual goodwill impairment test for each reporting unit. The first step of the two-step process is to identify whether a potential impairment exists by comparing the estimated fair values of the reporting units with their respective book values, including goodwill. If the estimated fair value of the reporting unit exceeds book value, goodwill is considered not to be impaired, and no additional steps are necessary. If the fair value of the reporting unit is less than book value, then the second step is performed to determine if goodwill is impaired and to measure the amount of impairment loss, if any. The amount of the impairment loss is the excess of the carrying amount of the goodwill over its estimated fair value. The estimate of fair value of goodwill is primarily based on an estimate of the discounted cash flows expected to result from that reporting unit, but may require valuations of certain internally generated and unrecognized intangible assets such as software, technology, customers and trademarks. If the carrying amount of goodwill exceeds the estimated fair value of that goodwill, an impairment loss is recognized in an amount equal to the excess.
 
In performing step one of the goodwill impairment test for the Company’s reporting units, the Company estimated the fair value of the reporting units using an income approach that analyzed projected discounted cash flows. The procedures the Company followed included, but were not limited to, the following:
 
Analysis of the conditions in, and the economic outlook for, the reporting units;
Analysis of general market data, including economic, governmental, and environmental factors;
Review of the history, current state, and future operations of the reporting units;
Analysis of financial and operating projections based on historical operating results, industry results and expectations;
Analysis of financial, transactional and trading data for companies engaged in similar lines of business to develop appropriate valuation multiples and operating comparisons; and
Calculation of the Company's market capitalization, total invested capital, the implied market participant acquisition premium, and supporting qualitative and quantitative analysis.
 
The results of step one of the Company’s impairment testing by reporting unit is as follows ($ thousands):
 
 
Estimated
Fair Value
 
Carrying
Amount
 
Excess
 
%
North America Gaming and Interactive
4,170,000

 
4,089,000

 
81,000

 
2.0
DoubleDown
910,000

 
698,000

 
212,000

 
30.4
North America Lottery
2,900,000

 
2,088,000

 
812,000

 
38.9
International
2,860,000

 
2,570,000

 
290,000

 
11.3
Italy
4,170,000

 
2,336,000

 
1,834,000

 
78.5


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The key assumptions used in the goodwill impairment testing were as follows:
 
 
Normalized
Growth
Rate
 
Discount
Rate
North America Gaming and Interactive
3.00
%
 
8.15
%
DoubleDown
1.50
%
 
9.30
%
North America Lottery
2.25
%
 
6.65
%
International
3.00
%
 
9.75
%
Italy
0.50
%
 
7.85
%
 
Where reporting unit fair values did not exceed the carrying amounts by a substantial amount, which the Company believes to be 20% or more, additional analysis was performed and additional disclosure is provided below.
 
North America Gaming and Interactive
 
In calculating the fair value of the North America Gaming and Interactive reporting unit using the income approach, the Company used projections of revenues, operating costs and capital expenditures. The projected cash flows considered historical and estimated future results and general economic and market conditions, as well as the impact of planned business and operational strategies. The following estimates and assumptions were also used in the discounted cash flow analysis:
 
A normalized growth rate of 3.00% based on the estimated sustainable long-term growth rate for the reporting unit;
A normalized operating EBITDA margin percentage was estimated based on a review of average margins within the projection period;
Normalized capital expenditure requirements were estimated based on a review of historical and projected capital expenditures and typical replacement cycles; and
A discount rate of 8.15% based on the weighted average cost of capital.
 
Although the fair value of the North America Gaming and Interactive reporting unit exceeded the carrying amount based on the results of step one of the Company’s goodwill impairment analysis, a decrease in the fair value of more than 1.94% could potentially result in an impairment of goodwill. The use of 8.26% for the discount rate or 2.87% for the growth rate would render the estimated fair value equal to the carrying amount.

International
 
The fair value of the International reporting unit was calculated using the income approach, in the same manner as described for the North America Gaming and Interactive reporting unit. The following estimates and assumptions were used in the discounted cash flow analysis:
 
A normalized growth rate of 3.00% based on the estimated sustainable long-term growth rate for the reporting unit;
A normalized operating EBITDA margin percentage was estimated based on a review of average margins within the projection period;
Normalized capital expenditure requirements were estimated based on a review of historical and projected capital expenditures and typical replacement cycles; and
A discount rate of 9.75% based on the weighted average cost of capital.
 
Although the fair value of the International reporting unit exceeded the carrying amount based on the results of step one of the Company’s goodwill impairment analysis, a decrease in the fair value of more than 10.14% could potentially result in an impairment of goodwill. The use of 10.53% for the discount rate or 1.92% for the growth rate would render the estimated fair value equal to the carrying amount.

Intangible assets

The Company also evaluates indefinite-lived intangible assets for impairment annually and whenever events or changes in circumstances indicate impairment may exist. The Company first performs a qualitative assessment to determine whether it is more likely than not that the fair value of indefinite-lived intangible assets are less than their carrying amount and whether the quantitative analysis is necessary. The quantitative analysis compares the fair value of indefinite-lived intangible assets to their carrying amount and an impairment loss is recognized when the carrying amount exceeds the fair value.

48


 
The process of evaluating the potential impairment related to goodwill and indefinite-lived intangible assets is highly subjective and requires the application of significant judgment. If an event occurs that would cause revisions to the estimates and assumptions used in analyzing the value of goodwill and other intangible assets with indefinite lives, the revision could result in a non-cash impairment loss that could have a material impact on financial results. The Company's annual review of goodwill and indefinite-lived intangible assets for impairment is performed at November 1 each year. The 2016 review resulted in impairment losses of $30.0 million in the DoubleDown reporting unit for certain indefinite lived trademarks relating to the forecasted slowing of growth in the social gaming market. The 2015 review resulted in impairment losses of $9.7 million in the International segment for certain indefinite lived trademarks.
 
Long-lived assets

The Company evaluates long-lived assets, including identifiable intangible assets and other assets, for impairment whenever events or changes in circumstances indicate that the carrying amount of the assets may not be recoverable. Events or changes in circumstances that could result in an impairment review include, but are not limited to, significant underperformance relative to historical or projected future operating results, significant changes in the manner of use of the acquired assets or the overall business strategy and significant negative industry or economic trends. Impairment is recognized when the asset is not recoverable and the carrying amount of an asset exceeds its fair value as calculated on a discounted cash flow basis. If an event occurs necessitating revised estimates and assumptions previously used in analyzing the value of property and equipment or finite-lived intangibles and other assets, that revision could result in a non-cash impairment loss that could have a material impact on the Company's financial results. The Company recorded impairment losses related to long-lived assets of $7.7 million, $2.8 million and $2.6 million in 2016, 2015 and 2014, respectively.
 
Litigation Provisions
 
Due to the nature of the Company's business, it is involved in a number of legal, regulatory and arbitration proceedings regarding, among other matters, claims by and against the Company, injunctions by third parties arising out of the ordinary course of business and investigations and compliance inquiries related to ongoing operations. The outcome of these proceedings and similar future proceedings cannot be predicted with certainty. It is difficult to accurately estimate the outcome of any proceeding. As such, the amounts of the provision for litigation risk, which has been accrued on the basis of assessments made by external counsel, could vary significantly from the amounts which the Company would ultimately be obligated or agree to pay to settle any such proceeding. In addition, unfavorable resolution of or significant delay in adjudicating such proceedings could require the Company to pay substantial monetary damages or penalties and/or incur costs which may exceed any provision for litigation risks or, under certain circumstances, cause the termination or revocation of the relevant concession, license, or authorization, and thereby have a material adverse effect on the consolidated results of operations, business, financial condition or prospects. At December 31, 2016 and December 31, 2015, provisions for litigation matters amounted to $4.0 million and $17.7 million, respectively.
 
Jackpot Accounting
 
The Company incurs jackpot expense and accrues jackpot liabilities with every wager on devices connected to a WAP system. Only WAP games include Company-sponsored jackpots for which the Company incurs jackpot expense. A portion of the fees paid to the Company is used for the funding and administration of Company-sponsored WAP jackpot payments.
 
Jackpot expense represents the estimated cost to fund jackpots and is recorded to cost of services. Changes in estimates for WAP jackpot liabilities and expense are attributable to regular analysis and evaluation of the following factors:
 
Variations in slot play (frequency of WAP jackpots and patterns of coin-in driving WAP jackpot growth);
Volume (number of WAP units in service and levels of play or coin-in per unit);
Interest rate movements (higher rates cause lower jackpot expense; lower rates cause higher jackpot expense); and
Startup amount (the size of base WAP jackpots at initial setup or after a jackpot is won).
 
The Company’s WAP jackpots are generally payable in equal annual installments over 20 to 26 years or immediately in the case of instant win systems. Winners may elect to receive a lump sum payment for the present value of the jackpot discounted at applicable interest rates in lieu of periodic annual installments. Discount rates eligible for use in the lump sum payment calculation vary by jurisdiction and are impacted by market forces and other economic conditions.
 
Jackpot liabilities are composed of payments due previous winners, as well as amounts due future winners of WAP jackpots not yet won. Liabilities due previous winners for periodic payments are carried at the accreted cost of a qualifying U.S. government

49


or agency annuity investment that may be purchased at the time of the jackpot win. If an annuity is subsequently sold and the periodic liability is instead guaranteed by surety bonds or letters of credit, the liability initially funded by an annuity continues to accrete at the same rate. If the periodic liability is not initially funded with an annuity investment, it is discounted and accreted using the risk-free rate (i.e., treasury rate) at the time of the jackpot win.
 
Liabilities due future winners are recorded at the present value of the estimated amount of WAP jackpots not yet won. The Company estimates the present value of future winner liabilities using current market rates (prime, treasury, or agency, as applicable), weighted with historical lump sum payout election ratios. The most recent historical patterns indicate that approximately 90% of winners will elect the lump sum payment option. Additionally, the Company estimates the current portion of future winner liabilities based on historical experience with winner payment elections, in conjunction with the theoretical projected number of jackpots.

Minimum profit level guarantees
 
The Company's estimates of liabilities for minimum profit level guarantees take into consideration contract terms and financial information provided by its customers, the availability and timing of which could significantly impact the Company's estimates. The Company accounts for minimum profit level guarantees as a reduction of service revenue on an annual basis based on the best estimate of amounts due to the customer annually.
 
Further details of these guarantees, which require management to make estimates and assumptions concerning profit levels, are provided in the Company's consolidated financial statements included herein.
 
Research and Development and Capitalized Software Development Costs

R&D costs incurred prior to technological feasibility are expensed as incurred. R&D costs include salaries and benefits, stock-based compensation, consultants, facilities related costs, material costs, depreciation and travel.

Costs incurred in the development of the Company’s externally-sold software products are expensed as incurred, except certain software development costs eligible for capitalization. Material software development costs incurred subsequent to establishing technological feasibility and through the general release of the software products are capitalized. Technological feasibility is demonstrated by the completion of a detailed program design or working model, if no program design is completed. Capitalized costs are amortized to cost of product sales over the products’ estimated economic life.

Costs incurred in the development of software to be used only for services provided to customers are capitalized as internal-use software and amortized over the useful life to cost of services. Costs incurred in the development of software to be used only for internal use are capitalized as internal-use software and amortized over the useful life to selling, general and administrative expenses. Certain eligible costs incurred specific to customer contracts are deferred and amortized over the contracts’ estimated economic life as cost of services or product sales.

Income taxes
 
The Company records a tax provision for the anticipated tax consequences of its reported operating results. The provision for income taxes is computed using the asset and liability method, under which deferred tax assets and liabilities are recognized for the expected future tax consequences of temporary differences between the financial reporting and tax bases of assets and liabilities, and for operating losses and tax credit carryforwards. Deferred tax assets and liabilities are measured using the currently enacted tax rates that apply to the taxable income in effect for the years in which those assets and liabilities are expected to be realized and settled. The Company records a valuation allowance to reduce deferred tax assets to the amount that is believed more likely than not to be realized.
 
The Company recognizes tax benefits from uncertain tax positions only if it is more likely than not that the tax position will be sustained on examination by the taxing authorities, based on the technical merits of the position. The tax benefits recognized in the financial statements from such positions are then measured based upon the largest benefit that has a greater than 50% likelihood of being realized upon ultimate settlement.
 
Management believes it is more likely than not that forecasted income, including income that may be generated as a result of certain tax planning strategies, together with future reversals of existing taxable temporary differences, will be sufficient to fully recover the deferred tax assets. In the event that the Company determines all or part of the net deferred tax assets are not realizable in the future, the Company will record an adjustment to the valuation allowance that would be charged to earnings in

50


the period such determination is made. In addition, the calculation of tax liabilities involve significant judgment in estimating the impact of uncertainties in the application of GAAP and complex tax laws.
 
Redeemable non-controlling interests

In March 2016, the Company, through its subsidiary Lottomatica S.p.A. (“Lottomatica”), Italian Gaming Holding a.s., Arianna 2001 and Novomatic Italia (collectively the "Members") entered into a consortium (Lottoitalia S.r.l. or "Lottoitalia") to bid on the Italian Gioco del Lotto service concession (the “Lotto Concession”). On May 16, 2016, Lottoitalia was awarded management of the Lotto Concession for a nine-year term. Under the terms of the consortium agreement, Lottomatica is the principal operating partner to fulfill the requirements of the Lotto Concession.

Ownership in Lottoitalia, which the Company fully consolidates as a variable interest entity, is as follows at December 31, 2016:

Name of entity
 
% Ownership
Lottomatica, S.p.A.
 
61.50
%
Italian Gaming Holding a.s.
 
32.50
%
Arianna 2001
 
4.00
%
Novomatic Italia
 
2.00
%

The Company determined Lottoitalia to be a variable interest entity relative to the Company's risks and rewards of the investment and Lottoitalia's current need for funding to finance planned operations.

In connection with the formation of Lottoitalia, Lottomatica S.p.A. entered into an agreement with IGH in May 2016, which contains the following put/call options:
Underperformance put option - IGH has the right, at its discretion, to sell its interest in Lottoitalia to Lottomatica S.p.A. in the event that Lottoitalia underperforms relative to its approved financial projections in 2017. The put option is exercisable by IGH beginning on the date of approval of Lottoitalia's financial statements for the year ending December 31, 2017 and ending 60 days thereafter.
Deadlock put/call option - IGH has the right, at its discretion, to sell its interest in Lottoitalia to Lottomatica S.p.A. and Lottomatica S.p.A. has a reciprocal call right, in the event of certain specified events as defined in the agreement. The put/call options expire 60 days following written notice by either party following the applicable event. The strike price of the options is determined based on a specified formula as defined in the agreement.

The Company determined that it is not currently probable that IGH's non-controlling interest will be redeemed as the underperformance put option contains discounts that would be applied to the fair value of Lottoitalia and the Deadlock put/call options can not be exercised unilaterally. The Company has recorded the non-controlling interest initially at fair value and no fair value adjustments will be recorded unless it becomes probable that IGH will redeem its non-controlling interest.


Consolidated Results
 
The discussion below includes information calculated at constant currency. The Company calculates constant currency by applying the prior-year/period exchange rates to current financial data expressed in local currency in order to eliminate the impact of foreign exchange rate fluctuations originating from translating the income statement of the Company's foreign entities into U.S. dollars. These constant currency measures are non-GAAP measures. Although the Company does not believe that these measures are a substitute for GAAP measures, it does believe that such results excluding the impact of currency fluctuations period-on-period provide additional useful information to investors regarding operating performance on a local currency basis.
 
For example, if an entity with euro functional currency recorded net revenues of €100 million for 2016 and 2015, the Company would report $110.0 million in net revenues for 2016 (using an average exchange rate of 1.10) compared to $120.0 million for 2015 (using an average exchange rate of 1.20). The constant currency presentation would translate the 2016 net revenue using the 2015 exchange rates, and indicate that the underlying net revenue on a constant currency basis were unchanged year-on-year. The Company presents such information in order to assess how the underlying business has performed prior to the translation impact of fluctuations in foreign currency exchange rates.
 

51




Comparison of the year ended December 31, 2016 and 2015
 
 
 
For the year ended
 
 
December 31, 2016
 
December 31, 2015
($ thousands)
 
$
 
% of
Revenue
 
$
 
% of
Revenue
 
 
 
 
 
 
 
 
 
Service revenue
 
4,375,586

 
84.9

 
3,977,693

 
84.8

Product sales
 
778,310

 
15.1

 
711,363

 
15.2

Total revenue
 
5,153,896

 
100.0

 
4,689,056

 
100.0

 
 
 
 
 
 
 
 
 
Cost of services
 
2,553,479

 
49.5

 
2,417,315

 
51.6

Cost of sales
 
582,358

 
11.3

 
520,343

 
11.1

Selling, general and administrative
 
945,824

 
18.4

 
795,252

 
17.0

Research and development
 
343,531

 
6.7

 
277,401

 
5.9

Restructuring expense
 
27,934

 
0.5

 
76,896

 
1.6

Impairment loss
 
37,744

 
0.7

 
12,497

 
0.3

Transaction expense, net
 
2,590

 
0.1

 
49,396

 
1.1

Total operating expenses
 
4,493,460

 
87.2

 
4,149,100

 
88.5

 
 
 
 
 
 
 
 
 
Operating income
 
660,436

 
12.8

 
539,956

 
11.5

 
 
 
 
 
 
 
 
 
Interest income
 
12,840

 
0.2

 
17,681

 
0.4

Other income (expense), net
 
18,365

 
0.4

 
(122,295
)
 
(2.6
)
Foreign exchange gain, net
 
101,040

 
2.0

 
5,611

 
0.1

Interest expense
 
(469,268
)
 
(9.1
)
 
(457,984
)
 
(9.8
)
Total non-operating expenses
 
(337,023
)
 
(6.5
)
 
(556,987
)
 
(11.9
)
 
 
 
 
 
 
 
 
 
Income (loss) before income tax expense
 
323,413

 
6.3

 
(17,031
)
 
(0.4
)
 
 
 
 
 
 
 
 
 
Provision for income taxes
 
59,206

 
1.1

 
38,896

 
0.8

 
 
 
 
 
 
 
 
 
Net income (loss)
 
264,207

 
5.1

 
(55,927
)
 
(1.2
)
 
 
 
 
 
 
 
 
 
Less: Net income attributable to non-controlling interests
 
45,413

 
0.9

 
19,647

 
0.4

Less: Net income attributable to redeemable non-controlling interests
 
7,457

 

 

 

Net income (loss) attributable to IGT PLC
 
211,337

 
4.1

 
(75,574
)
 
(1.6
)


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Service revenue
 
 
 
For the year ended
 
 
December 31,
 
Change
($ thousands)
 
2016
 
2015
 
$
 
%
 
 
 
 
 
 
 
 
 
Operating Segments
 
 

 
 

 
 

 
 

North America Gaming and Interactive
 
975,214

 
780,189

 
195,025

 
25.0

North America Lottery
 
1,128,306

 
992,684

 
135,622

 
13.7

International
 
512,660

 
512,004

 
656

 
0.1

Italy
 
1,759,843

 
1,702,174

 
57,669

 
3.4

 
 
4,376,023

 
3,987,051

 
388,972

 
9.8

Purchase accounting
 
(437
)
 
(9,358
)
 
8,921

 
95.3

 
 
4,375,586

 
3,977,693

 
397,893

 
10.0

 
Service revenue in 2016 increased by $397.9 million, or 10.0% compared to 2015. On a constant currency basis, service revenue in 2016 increased by $432.9 million, or 10.9% compared to 2015.
 
Service revenue in the North America Gaming and Interactive segment in 2016 increased by $195.0 million, or 25.0% compared to 2015. On a constant currency basis, service revenue in the North America Gaming and Interactive segment increased by $195.6 million, or 25.1% compared to 2015.
 
Service revenue in the North America Lottery segment in 2016 increased by $135.6 million, or 13.7%, compared to 2015. On a constant currency basis, service revenue in the North America Lottery segment increased by $135.8 million, or 13.7% compared to 2015.
 
Service revenue in the International segment in 2016 increased by $0.7 million, or 0.1% compared to 2015. On a constant currency basis, service revenue in the International segment in 2016 increased by $32.7 million, or 6.4% compared to 2015.
 
Service revenue in the Italy segment in 2016 increased by $57.7 million, or 3.4% compared to 2015. On a constant currency basis, service revenue in the Italy segment in 2016 increased by $59.9 million, or 3.5% compared to 2015.
 
Further information on the key performance drivers related to service revenues is provided in the Operating Segment Results section of this report.


53


Product sales
 
 
 
For the year ended
 
 
December 31,
 
Change
($ thousands)
 
2016
 
2015
 
$
 
%
 
 
 
 
 
 
 
 
 
North America Gaming and Interactive
 
398,241

 
321,618

 
76,623

 
23.8

North America Lottery
 
65,269

 
52,986