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DDE > SEC Filings for DDE > Form 10-K on 15-Mar-2013All Recent SEC Filings

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Form 10-K for DOVER DOWNS GAMING & ENTERTAINMENT INC


15-Mar-2013

Annual Report


Item 7. Management's Discussion And Analysis Of Financial
Condition And Results Of Operations

The following discussion is based upon and should be read together with the consolidated financial statements and notes thereto included elsewhere in this document.

Dover Downs Gaming & Entertainment, Inc. is a premier gaming and entertainment resort destination whose operations consist of:

† Dover Downs Casino - a 165,000-square foot casino complex featuring popular table games, including craps, roulette and card games such as blackjack, Spanish 21, baccarat, 3-card and pai gow poker, the latest in slot machine offerings, multi-player electronic table games, the Crown Royal poker room, a Race & Sports Book operation, the Dover Downs' Fire & Ice Lounge, the Festival Buffet, Doc Magrogan's Oyster House, Frankie's Italian restaurant, as well as several bars, restaurants and four retail outlets;

† Dover Downs Hotel and Conference Center - a 500 room AAA Four Diamond hotel with a full-service spa/salon, conference, banquet, ballroom and concert hall facilities; and

† Dover Downs Raceway - a harness racing track with pari-mutuel wagering on live and simulcast horse races.

All of our operations are located at our entertainment complex in Dover, the capital of the State of Delaware.


Approximately 90% of our revenue is derived from gaming win. Several factors contribute to the win for any gaming company, including, but not limited to:

†          Proximity to major population bases,

†          Competition in the market,

†          The quantity and types of slot machines and table games available,

†          The quality of the physical property,

†          Other amenities offered on site,

†          Customer service levels,

†          Marketing programs, and

†          General economic conditions.

We believe that we hold a strong position in each of these areas. Our entertainment complex is located in Dover, the capital of the State of Delaware. We draw patrons from several major metropolitan areas. Philadelphia, Baltimore and Washington, D.C. are all within a two hour drive. According to the 2010 United States Census, approximately 36.8 million people live within 150 miles of our complex. There are significant barriers to entry related to the gaming business in Delaware. By law, currently only the three existing horse racing facilities in the State are allowed to have a video lottery gaming license. Additional gaming venues have recently opened in Maryland, Pennsylvania and New Jersey. These new venues - particularly a large casino at Arundel Mills Mall in Maryland which opened in June 2012 - are having a significant adverse effect on our visitation numbers, our revenues and our profitability. Our property is similar to properties found in the country's largest gaming markets. Our luxury hotel is the only casino-hotel in Delaware, providing a strong marketing tool, especially to higher-end players. We also utilize our slot marketing system to allow for more efficient marketing programs and the highest levels of customer service. Our facility offers the most conference space of any hotel in Delaware and was expanded in the first quarter of 2012 to add 6,500 square feet of meeting space.

Because all of our operations are located at one facility, we face the risk of increased competition from the legalization of new or additional gaming venues. We have therefore focused on creating the region's premier gaming destination and building and rewarding customer loyalty through innovative marketing efforts, unparalleled customer service and a variety of amenities.

Results of Operations

Gaming revenues represent (i) the net win from slot machine, table games and sports wagering and (ii) commissions from pari-mutuel wagering. Other operating revenues consist of hotel rooms revenue, food and beverage sales and other miscellaneous income. Revenues do not include the retail amount of hotel rooms, food and beverage and other miscellaneous goods and services provided without charge to customers as promotional items. The estimated direct cost of providing these items has been charged to the casino through interdepartmental allocations and is included in gaming expenses in the consolidated statement of earnings.

For the casino operations, the difference between the amount wagered by bettors and the amount paid out to bettors is referred to as the win. The win is included in the amount recorded in our consolidated financial statements as gaming revenue. The Delaware State Lottery Office sweeps the win from the casino operations, collects the State's share of the win and the amount due to the vendors under contract with the State who provide the slot machines and associated computer systems, collects the amount allocable to purses for harness horse racing and remits the remainder to us as our commission for acting as a Licensed Agent. Gaming expenses include the amounts collected by the State
(i) for the State's share of the win, (ii) for remittance to the providers of the slot machines and associated computer systems, and (iii) for harness horse racing purses. We recognize revenues from sports wagering commissions when the event occurs. We recognize revenues from pari-mutuel commissions earned from live harness horse racing and importing of simulcast signals from other race tracks when the race occurs. Revenues from hotel rooms, food and beverage sales and other miscellaneous income are recognized at the time the service is provided.


Year Ended December 31, 2012 vs. Year Ended December 31, 2011

Gaming revenues decreased by $14,360,000, or 6.6%, to $203,055,000 in 2012 as a result of lower win from slot machine play partially offset by an increase in table game revenue. We believe that the decrease in slot win was primarily due to lower attendance at our facility from the opening of a large casino at Arundel Mills Mall in Maryland in June 2012 and their subsequent expansion in September 2012.

Other operating revenues were $22,857,000 in 2012 as compared to $22,527,000 in 2011. Rooms revenue increased $737,000 in 2012 mainly due to an increase in convention sales. Food and beverage revenues decreased $411,000 to $14,172,000 from $14,583,000 in 2011 due primarily to lower sales in our Festival Buffet and lower revenues in many of our other food and beverage outlets from the lower casino attendance. Partially offsetting these decreases was an increase in banquet sales and higher revenues in our Garden Café restaurant. Other operating revenues do not include the retail amount of promotional allowances which are provided to customers on a complimentary basis of $20,471,000 and $20,375,000 in 2012 and 2011, respectively.

Gaming expenses decreased by $10,441,000 primarily from lower gaming taxes as a result of the lower gaming revenues, lower license fees and lower marketing and other expenses in 2012.

On June 28, 2012, the State enacted the Delaware Gaming Competitiveness Act of 2012 which among other things eliminates and restructures certain fees currently paid by video lottery agents. For the period July 1, 2011 to June 30, 2012, we paid a $1,540,000 gaming license fee which has been eliminated beginning July 1, 2012. For the period July 1, 2012 to June 30, 2013, we paid a $2,241,000 table game license fee which will be reduced beginning July 1, 2013. Based on current business levels, we estimate that this fee will be approximately $1,000,000 for the period July 1, 2013 to June 30, 2014.

Other operating expenses decreased slightly to $16,359,000 in 2012 from $16,510,000 in 2011 primarily due to the lower food and beverage revenues which have a higher cost of sales.

General and administrative expenses were $6,034,000 in 2012 as compared to $6,288,000 in 2011. The decrease was primarily due to lower employee benefit costs during 2012, primarily from freezing our pension plan effective July 31, 2011 and lower stock based compensation costs.

Depreciation expense decreased to $10,297,000 in 2012 as compared to $11,665,000 in 2011 primarily as a result of certain assets becoming fully depreciated.

Interest expense decreased by $1,067,000 due to lower outstanding borrowings during 2012 and lower interest rates as a result of entering into a new credit facility on June 17, 2011.

Our effective income tax rate was 43.2% in 2012 as compared to 41.6% in 2011.

Year Ended December 31, 2011 vs. Year Ended December 31, 2010

Gaming revenues increased slightly to $217,415,000 in 2011 from $217,267,000 in 2010 as a result of higher revenue from having a full year of table game operations. Our table game operations began on June 25, 2010 with 40 tables including blackjack, poker, craps and roulette. In July 2010, we added 12 poker tables. Largely offsetting this increase was lower win from slot machine play in our casino. Continuing challenging economic conditions and the related impact on consumer spending and increased competition contributed to the lower slot win. Additionally, Hurricane Irene forced the closure of our facility for almost an entire weekend in August contributing to the decline. Our average number of slot machines was 2,612 in 2011 as compared to 2,824 in 2010. The lower number of slot machines resulted from the removal of machines to make room for our table game operations.

Other operating revenues were $22,527,000 in 2011 as compared to $20,882,000 in 2010. Rooms revenue increased $393,000 in 2011 mainly due to an increase in convention and tour and travel sales and cash sales from our casino customers. Food and beverage revenues increased $909,000 to $14,583,000 from $13,674,000 in 2010 due primarily to higher banquet sales, increased beverage sales in many of our outlets and higher revenues in our Race & Sports book and Michele's fine dining restaurant. Additionally, we opened a new temporary outlet during Dover


International Speedway's (a company related through common ownership) two race event weekends that provided a new source of food & beverage revenues. Higher ticket sales for our live concert and boxing events and the promotion of two additional events in 2011 also contributed to the increase. Other operating revenues do not include the retail amount of promotional allowances which are provided to customers on a complimentary basis of $20,375,000 and $18,306,000 in 2011 and 2010, respectively.

Gaming expenses increased by $5,099,000, or 2.7%, primarily as a result of having a full year of our table game operations and higher marketing costs. Partially offsetting these increases were the lower gaming taxes, vendor fees and harness horse racing purses that result from lower slot machine gaming revenues.

Other operating expenses increased by $383,000, or 2.4%, due to the higher revenues. This increase was partially offset by efforts to control costs in our rooms and food and beverage departments.

General and administrative expenses were $6,288,000 in 2011 as compared to $6,922,000 in 2010. The decrease was primarily due to lower employee benefit costs during 2011, primarily from freezing our pension plan, and the expensing of costs related to our terminated merger agreement with Dover Motorsports, Inc during 2010.

Depreciation expense decreased to $11,665,000 in 2011 as compared to $12,059,000 in 2010 primarily as a result of certain assets becoming fully depreciated partially offset by depreciation related to asset additions associated with our table game operations.

Interest expense decreased by $382,000 due to lower outstanding borrowings during 2011 and lower interest rates during the second half of 2011 as a result of entering into a new credit facility during the year.

Our effective income tax rate remained consistent at 41.6% in 2011 as compared to 41.3% in 2010.

Liquidity and Capital Resources

Net cash provided by operating activities was $13,166,000 in 2012 compared to $15,651,000 in 2011. The decrease was primarily due to lower net earnings and higher cash paid for taxes, partially offset by the timing of annual license fee payments on our table game operations. We paid two annual license fees on our table game operations in 2011 totaling $4,513,000, which related to the 12 months ended June 30, 2011 and the 12 months ended June 30, 2012. In 2012, we paid one table game license fee of $2,241,000 for the 12 months ending June 30, 2013.

Net cash used in investing activities was $2,625,000 in 2012 compared to $1,930,000 in 2011 and was primarily related to capital improvements. Capital expenditures in 2012 related primarily to the renovation of our Festival Buffet, the construction of additional meeting space, upgrading our computer systems and equipment purchases. Capital expenditures in 2011 related primarily to upgrading our computer systems, replacing our casino carpet and other facility improvements.

Net cash used in financing activities was $14,182,000 in 2012 compared to $13,906,000 in 2011. During 2012, we had net repayments of $10,500,000 on our credit facility compared to $9,600,000 during 2011. We paid $3,575,000 and $3,888,000 in cash dividends during 2012 and 2011, respectively. We repurchased and retired $107,000 of our outstanding common stock during 2012 compared to $150,000 during 2011. On June 17, 2011, we entered into a new credit agreement and paid $268,000 in closing costs.

On January 23, 2013, our Board of Directors suspended the quarterly dividend.

On October 23, 2002, our Board of Directors authorized the repurchase of up to 3,000,000 shares of our outstanding common stock. The purchases may be made in the open market or in privately negotiated transactions as conditions warrant. The repurchase authorization has no expiration date, does not obligate us to acquire any specific number of shares and may be suspended at any time. No purchases of our equity securities were made pursuant to this authorization during 2012 or 2011. At December 31, 2012, we had remaining repurchase authority of 1,653,333 shares. At present we are not permitted to make such purchases under our credit facility.


Based on current business conditions, we expect to make capital expenditures of approximately $1,500,000 - $2,000,000 during 2013.

At December 31, 2012, we had an $85,000,000 credit agreement with a bank group. The maximum borrowing limit under the facility reduces to $80,000,000 as of March 31, 2013, $75,000,000 as of March 31, 2014 and the facility expires June 17, 2014. Interest is based upon LIBOR plus a margin that varies between 150 and 225 basis points (200 basis points at December 31, 2012) depending on the ratio of funded debt to earnings before interest, taxes, depreciation and amortization (the "leverage ratio"). The credit facility contains certain covenants including minimum interest coverage, maximum funded debt to earnings before interest, taxes, depreciation and amortization and minimum tangible net worth. Material adverse changes in our results of operations could impact our ability to satisfy these requirements. In addition, the credit agreement includes a material adverse change clause. The credit facility provides for seasonal funding needs, capital improvements and other general corporate purposes. At December 31, 2012, we were in compliance with all terms of the facility and there was $58,500,000 outstanding at a weighted average interest rate of 2.21%. At December 31, 2012, $26,500,000 was available pursuant to the facility; however, in order to maintain compliance with the required quarterly debt covenant calculations as of December 31, 2012 $5,637,000 could have been borrowed as of that date.

Effective January 15, 2009, we entered into an interest rate swap agreement that effectively converted $35,000,000 of our variable-rate debt to a fixed-rate basis, thereby hedging against the impact of potential interest rate changes on future interest expense. The agreement terminated on April 17, 2012. Pursuant to this agreement, we paid a fixed interest rate of 1.74%, plus a margin that varied between 150 and 225 basis points depending on our leverage ratio. In return, the issuing lender refunded to us the variable-rate interest paid to the bank group under our revolving credit agreement on the same notional principal amount, excluding the margin.

Additional gaming venues have recently opened in Maryland, Pennsylvania and New Jersey. These new venues - particularly a large casino at Arundel Mills Mall in Maryland which opened in June 2012 - are having a significant adverse effect on our visitation numbers, our revenues and our profitability. Management has estimated that approximately 34% of our total gaming win comes from Maryland patrons and approximately 65% of our Capital Club® member gaming win comes from out-of-state patrons. As of December 31, 2012, we were in compliance with all terms of our revolving credit facility; however, our projections indicated that we would not be able to comply with certain financial covenants in the facility throughout 2013. As of December 31, 2012, we have $58,500,000 outstanding under our revolving credit facility which expires on June 17, 2014. On March 12, 2013, we amended our credit agreement to provide for different financial covenants effective for the March 31, 2013 period and for all subsequent periods through the end of the credit agreement, reduce the total maximum borrowing limit and prohibit the payment of dividends. As a result of the amendment, we expect to be in compliance with the financial covenants, and all other covenants, for all measurement periods during the next twelve months.

We expect that our net cash flows from operating activities and funds available from our credit facility will be sufficient to provide for our working capital needs and capital spending requirements at least through the next twelve months. We expect cash flows from operating activities and funds available from our credit facility to also provide for long-term liquidity.

On June 28, 2012, the State enacted the Delaware Gaming Competitiveness Act of 2012 (the "Act"), under which Delaware's video lottery agents will be authorized to offer, through their websites, internet versions of their table games (including poker) and video lottery offerings. All games will remain under the control and operation of the Delaware Lottery. These internet gaming offerings capitalize on a recent United States Department of Justice ruling clarifying that wagering within a state's boundaries does not violate the federal Wire Act.

Internet lottery games will, at least initially, be offered solely to persons within the State of Delaware. This territorial limitation would not apply to gaming pursuant to an interstate compact. Internet gaming participation will be limited to persons who meet the age requirements for equivalent non-internet games.

Revenues from the internet versions of table games and video lottery games will be distributed generally pursuant to the formula currently applicable to those games, with the exception that internet service provider costs will be deducted first, and the Lottery will retain the first $3.75 million of state-wide net proceeds. The Act also eliminates and restructures certain fees currently paid by video lottery agents to incentivize agents to make capital


expenditures, spend on marketing and promotions, and make debt service payments. For the period July 1, 2011 to June 30, 2012, we paid a $1,540,000 gaming license fee which has been eliminated beginning July 1, 2012. For the period July 1, 2012 to June 30, 2013, we paid a $2,241,000 table game license fee which will be reduced beginning July 1, 2013. Based on current business levels, we estimate that this fee will be approximately $1,000,000 for the period July 1, 2013 to June 30, 2014.

We anticipate that we will begin offering internet gaming in the third quarter of 2013 once the Delaware Lottery adopts regulations and secures contracts with internet service providers.

Contractual Obligations



At December 31, 2012, we had the following contractual obligations:



                                                               Payments Due by Period
                               Total           2013        2014 - 2015      2016 - 2017      Thereafter
Revolving line of
credit(a)                   $ 58,500,000    $         -    $ 58,500,000    $           -    $          -
Estimated interest
payments on revolving
line of credit(b)              1,884,000      1,292,000         592,000                -               -
                            $ 60,384,000    $ 1,292,000    $ 59,092,000    $           -    $          -



(a) Our current credit facility expires on June 17, 2014.

(b) The future interest payments on our revolving credit agreement were estimated using the current outstanding principal as of December 31, 2012 and current interest rates.

Related Party Transactions

See NOTE 10 - Related Party Transactions to our consolidated financial statements included elsewhere in this document for a full description of related party transactions.

Critical Accounting Policies

The accounting policies described below are those considered critical by us in preparing our consolidated financial statements and/or include significant estimates made by management using information available at the time the estimates are made. As described below, these estimates could change materially if different information or assumptions were used.

Property and Equipment

Property and equipment are recorded at cost. Depreciation is provided for financial reporting purposes using the straight-line method over estimated useful lives ranging from 3 to 10 years for furniture, fixtures and equipment and up to 40 years for facilities. These estimates require assumptions that are believed to be reasonable. We perform reviews for impairment of long-lived assets whenever events or changes in circumstances indicate that the carrying value of an asset may not be recoverable. An impairment loss would be measured as the amount by which the carrying amount of the asset exceeds its fair value. Generally, fair value will be determined using valuation techniques such as the present value of future cash flows.

Accrued Pension Cost

On June 15, 2011, we decided to freeze participation and benefit accruals under our pension plans. The freeze was effective July 31, 2011. The benefits provided by our defined-benefit pension plans are based on years of service and employee's remuneration through July 31, 2011. Accrued pension costs are developed using actuarial principles and assumptions which consider a number of factors, including estimates for the discount rate and expected long-term rate of return on assets. Changes in these estimates would impact the amounts that we record in our consolidated financial statements and our funding contributions to the plans.


Recent Accounting Pronouncements

There have been no new accounting pronouncements made effective during the year ended December 31, 2012, or that are not yet effective, that have significance, or potential significance, to our consolidated financial statements.

Factors That May Affect Operating Results; Forward-Looking Statements

This report and the documents incorporated by reference may contain forward-looking statements. In Item 1A of this report, we disclose the important factors that could cause our actual results to differ from our expectations.

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