**UNITEDSTATES**

**SECURITIES AND EXCHANGE COMMISSION**

**Washington, D.C. 20549**

 

**FORM 10-Q**

 

| **x**                                             | ** ** | **QUARTERLY  REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934**  |
|---------------------------------------------------|------------|-----------------------------------------------------------------------------------------------|
|                                              |       |                                                                                          |   |   |
| **For the quarterly period ended March 31, 2007** |
|                                              |       |                                                                                          |   |   |
| **OR**                                            |
|                                              |       |                                                                                          |   |   |
| **o**                                             | ** ** | **TRANSITION  REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934** |

 

**For the transition period from       to       **

 

**Commission File Number 0-4281**

 

**BALLY TECHNOLOGIES, INC.**

(Exact name of registrant as specified in its charter)

 

| **NEVADA**                               | ** ** | **88-0104066**      |
|------------------------------------------|------------|---------------------|
| (State or other jurisdiction of          |       | (I.R.S. Employer    |
| incorporation or organization)           |       | Identification No.) |
|                                     |       |                |
| **6601 S. Bermuda Rd.**                  |       |                |
| **Las Vegas, Nevada**                    | ** ** | **89119**           |
| (Address of principal executive offices) |       | (Zip Code)          |

 

Registrant’s telephone number: **(702) 584-7700**

 

Indicate by check mark whether the registrant: (1)has filed all reports required to be filed by Section 13 or 15(d) of theSecurities Exchange Act of 1934 during the preceding 12 months (or for suchshorter period that the registrant was required to file such reports), and (2)has been subject to such filing requirements for the past 90 days.

o  Yes x  No

 

Indicate by check markwhether the registrant is a large accelerated filer, an accelerated filer or anon-accelerated filer. See definition of “accelerated filer and largeaccelerated filer” in Rule 12b-2 of the Exchange Act. (Check one):

 

x  Large Accelerated Filer                                        o Accelerated Filer                                            o  Non-Accelerated Filer

 

Indicate by check markwhether the registrant is a shell company (as defined in Rule 12b-2 of theExchange Act).

o            Yesx  No

 

The number of shares ofCommon Stock, $0.10 par value, outstanding as of October 26, 2007, according tothe records of the registrant’s registrar and transfer agent was 54,393,000which does not include 587,000 shares held in treasury.

 

 

----

 

**EXPLANATORY NOTE**

 

As previously disclosedon the Form 12b-25 of Bally Technologies, Inc. (“Bally,” the “Company,” or “we”),filed with the Securities and Exchange Commission (the “SEC”) on August 30,2007, the filing of this Quarterly Report on Form 10-Q for the fiscal quarterended March 31, 2007 was originally delayed due to the significant amount ofadditional time and resources required to prepare and file our QuarterlyReports on Form 10-Q for the fiscal quarters ended September 30, 2006 andDecember 31, 2006, which were filed on June 20, 2007 (the “Form 10-Q’s”). As aresult of the delay in filing the Form 10-Q’s, we required additional time tocomplete this Quarterly Report on Form 10-Q for the fiscal quarter ended March31, 2007. Furthermore, the preparation of the financial information presentedin this Quarterly Report on Form 10-Q required additional time and resourcesbecause it was prepared while certain material weaknesses existed in ourinternal control over financial reporting which are described in Item 4,Controls and Procedures. Unless specifically stated otherwise, informationpresented in this Quarterly Report on Form 10-Q is as of and for the periodsended March 31, 2007.

 

**I N D E X**

 

 
| **PART I.**    | **FINANCIAL INFORMATION**                                                                                                                 | ** ** |
|----------------|-------------------------------------------------------------------------------------------------------------------------------------------|------------|
|           |                                                                                                                                      |       |
| Item 1.        | Financial  Statements                                                                                                                     |       |
|           |                                                                                                                                      |       |
|           | Unaudited Condensed  Consolidated Balance Sheet as of March 31, 2007 and Audited Condensed Balance  Sheet as of June 30, 2006             |       |
|           |                                                                                                                                      |       |
|           | Unaudited Condensed  Consolidated Statements of Operations for the Three Months and Nine Months  Ended March 31, 2007 and 2006 (restated) |       |
|           |                                                                                                                                      |       |
|           | Unaudited Condensed  Consolidated Statements of Cash Flows for the Nine Months Ended March 31,  2007 and 2006 (restated)                  |       |
|           |                                                                                                                                      |       |
|           | Notes to Unaudited Condensed  Consolidated Financial Statements                                                                           |       |
|           |                                                                                                                                      |       |
| Item 2.        | Management’s  Discussion and Analysis of Financial Condition and Results of Operations                                               |       |
|           |                                                                                                                                      |       |
| Item 3.        | Quantitative  and Qualitative Disclosures About Market Risk                                                                               |       |
|           |                                                                                                                                      |       |
| Item 4.        | Controls and  Procedures                                                                                                                  |       |
|           |                                                                                                                                      |       |
| **PART II.**   | **OTHER INFORMATION**                                                                                                                     | ** ** |
| ** **     | ** **                                                                                                                                | ** ** |
| Item 1.        | Legal Proceedings                                                                                                                         |       |
|           |                                                                                                                                      |       |
| Item 1A.       | Risk Factors                                                                                                                              |       |
|           |                                                                                                                                      |       |
| Item 6.        | Exhibits                                                                                                                                  |       |
|           |                                                                                                                                      |       |
| **SIGNATURES** |                                                                                                                                      |       |

 

2

----

 

**PART I**

**BALLY TECHNOLOGIES, INC. AND SUBSIDIARIES**

**UNAUDITED CONDENSEDCONSOLIDATED BALANCE SHEETS**

 
| ** **                                                                                                                                       | ** ** | **March 31,**                                  | ** ** | **June 30,** | ** ** |
|--------------------------------------------------------------------------------------------------------------------------------------------------|------------|-----------------------------------------------------|------------|-------------------|------------|
| ** **                                                                                                                                       | ** ** | **2007**                                            | ** ** | **2006**          | ** ** |
| ** **                                                                                                                                       | ** ** | **(in 000s, except share  amounts)** | ** ** |
| ASSETS                                                                                                                                           |       |                                                |       |              |       |
| Current assets:                                                                                                                                  |       |                                                |       |              |       |
| Cash and cash  equivalents                                                                                                                       |       | $                                                   | 15,227     |              | $          | 16,425 |   |
| Restricted cash                                                                                                                                  |       | 16,626                                              |       | 14,484            |       |
| Accounts and  notes receivable, net of allowances for doubtful accounts of $7,519 and  $8,073                                                    |       | 151,400                                             |       | 135,497           |       |
| Inventories                                                                                                                                      |       | 75,457                                              |       | 69,995            |       |
| Income taxes  receivable                                                                                                                         |       | 1,293                                               |       | 266               |       |
| Deferred tax  assets, net                                                                                                                        |       | 51,374                                              |       | 51,374            |       |
| Deferred cost of  revenue                                                                                                                        |       | 36,032                                              |       | 23,044            |       |
| Other current  assets                                                                                                                            |       | 13,192                                              |       | 18,269            |       |
| Total current  assets                                                                                                                            |       | 360,601                                             |       | 329,354           |       |
| Long-term  investments (restricted)                                                                                                              |       | 9,793                                               |       | 8,984             |       |
| Long-term  receivables                                                                                                                           |       | 8,634                                               |       | 6,436             |       |
| Property, plant  and equipment, net of accumulated depreciation of $49,538 and $49,756                                                           |       | 77,442                                              |       | 68,464            |       |
| Leased gaming  equipment, net of accumulated depreciation of $77,501 and $64,160                                                                 |       | 59,051                                              |       | 43,408            |       |
| Goodwill                                                                                                                                         |       | 161,648                                             |       | 161,303           |       |
| Intangible  assets, net of accumulated amortization of $27,736 and $23,963                                                                       |       | 25,164                                              |       | 27,656            |       |
| Deferred tax  assets, net                                                                                                                        |       | 18,240                                              |       | 20,048            |       |
| Long-term  deferred cost of revenue                                                                                                              |       | 23,739                                              |       | 14,659            |       |
| Other assets,  net                                                                                                                               |       | 6,376                                               |       | 7,569             |       |
| Total assets                                                                                                                                     |       | $                                                   | 750,688    |              | $          | 687,881 |   |
| LIABILITIES AND STOCKHOLDERS’  EQUITY                                                                                                       |       |                                                |       |              |       |
| Current  liabilities:                                                                                                                            |       |                                                |       |              |       |
| Accounts payable                                                                                                                                 |       | $                                                   | 37,351     |              | $          | 39,622 |   |
| Accrued  liabilities                                                                                                                             |       | 48,419                                              |       | 58,791            |       |
| Customer  deposits                                                                                                                               |       | 23,765                                              |       | 27,340            |       |
| Jackpot  liabilities                                                                                                                             |       | 13,459                                              |       | 13,139            |       |
| Deferred revenue                                                                                                                                 |       | 76,973                                              |       | 47,081            |       |
| Current  maturities of long-term debt and capital leases, including $3,800 and $6,600  owed to related parties                                   |       | 19,284                                              |       | 12,864            |       |
| Total current  liabilities                                                                                                                       |       | 219,251                                             |       | 198,837           |       |
| Long-term debt  and capital leases, net of current maturities, including $7,600 and $7,600  owed to related parties                              |       | 324,178                                             |       | 315,482           |       |
| Long-term  deferred revenue                                                                                                                      |       | 30,331                                              |       | 18,370            |       |
| Other  liabilities                                                                                                                               |       | 9,558                                               |       | 10,430            |       |
| Total  liabilities                                                                                                                               |       | 583,318                                             |       | 543,119           |       |
| Minority  interest                                                                                                                               |       | 628                                                 |       | 684               |       |
| Commitments and  Contingencies (Note 10)                                                                                                         |       |                                                |       |              |       |
| Stockholders’  equity:                                                                                                                      |       |                                                |       |              |       |
|                                                                                                                                             |       |                                                |       |              |       |
| Special stock,  10,000,000 shares authorized: Series E, $100 liquidation value; 115 shares  issued and outstanding                               |       | 12                                                  |       | 12                |       |
| Common stock,  $.10 par value; 100,000,000 shares authorized; 54,009,000 and 52,880,000  shares issued and 53,455,000 and 52,354,000 outstanding |       | 5,395                                               |       | 5,283             |       |
| Treasury stock  at cost, 554,000 and 526,000 shares                                                                                              |       | (1,172                                              | )          | (665              | )          |
| Additional  paid-in capital                                                                                                                      |       | 238,881                                             |       | 219,472           |       |
| Accumulated  other comprehensive income                                                                                                          |       | 1,163                                               |       | 1,351             |       |
| Accumulated  deficit                                                                                                                             |       | (77,537                                             | )          | (81,375           | )          |
| Total  stockholders’ equity                                                                                                                 |       | 166,742                                             |       | 144,078           |       |
| Total  liabilities and stockholders’ equity                                                                                                 |       | $                                                   | 750,688    |              | $          | 687,881 |   |

 

See accompanying notes to unaudited interim condensed consolidatedfinancial statements.

 

3

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**BALLY TECHNOLOGIES, INC. ANDSUBSIDIARIES**

**UNAUDITED CONDENSEDCONSOLIDATED STATEMENTS OF OPERATIONS**

 
| ** **                                               | ** ** | **Three Months Ended**                                 | ** ** | **Nine Months Ended**               | ** ** |
|----------------------------------------------------------|------------|------------------------------------------------------------------|------------|-----------------------------------------------|------------|
| ** **                                               | ** ** | **March 31,**                                               | ** ** | **March 31,**                            | ** ** |
| ** **                                               | ** ** | **2007**                                                         | ** ** | **2006 **                                | ** ** | **2007** | ** ** | **2006 ** | ** ** |
| ** **                                               | ** ** | ** **                                                       | ** ** | **(as restated,  see Note 2)** | ** ** | ** ** | ** ** | **(as restated,  see Note 2)** | ** ** |
| ** **                                               | ** ** | **(in 000s, except per share amounts)** | ** ** |
| Revenues:                                                |       |                                                             |       |                                          |       |   |   |   |   |
| Gaming equipment  and systems                            |       | $                                                                | 117,513    |                                          | $          | 102,213 |   | $ | 318,108 |   | $ | 237,988 |   |
| Gaming  operations                                       |       | 44,731                                                           |       | 38,570                                        |       | 125,770 |   | 110,851 |   |
| Casino  operations                                       |       | 12,974                                                           |       | 13,783                                        |       | 36,051 |   | 37,940 |   |
|                                                     |       | 175,218                                                          |       | 154,566                                       |       | 479,929 |   | 386,779 |   |
| Costs and  expenses:                                     |       |                                                             |       |                                          |       |   |   |   |   |
| Cost of gaming  equipment and systems (1)                |       | 63,452                                                           |       | 65,230                                        |       | 174,001 |   | 142,745 |   |
| Cost of gaming  operations                               |       | 18,645                                                           |       | 25,062                                        |       | 53,311 |   | 65,171 |   |
| Direct cost of  casino operations                        |       | 4,681                                                            |       | 4,880                                         |       | 13,583 |   | 14,102 |   |
| Selling, general  and administrative                     |       | 51,303                                                           |       | 47,481                                        |       | 151,150 |   | 130,946 |   |
| Research and  development costs                          |       | 12,536                                                           |       | 12,200                                        |       | 38,399 |   | 33,242 |   |
| Impairment  charges                                      |       | —                                                           |       | 13,953                                        |       | — |   | 13,953 |   |
| Depreciation and  amortization                           |       | 6,236                                                            |       | 6,125                                         |       | 17,111 |   | 18,387 |   |
|                                                     |       | 156,853                                                          |       | 174,931                                       |       | 447,555 |   | 418,546 |   |
| Operating income  (loss)                                 |       | 18,365                                                           |       | (20,365                                       | )          | 32,374 |   | (31,767 | ) |
|                                                     |       |                                                             |       |                                          |       |   |   |   |   |
| Other income  (expense):                                 |       |                                                             |       |                                          |       |   |   |   |   |
| Interest income                                          |       | 680                                                              |       | 925                                           |       | 2,004 |   | 2,417 |   |
| Interest expense                                         |       | (7,656                                                           | )          | (7,096                                        | )          | (25,777 | ) | (20,300 | ) |
| Other, net                                               |       | (37                                                              | )          | 164                                           |       | 1,143 |   | (252 | ) |
|                                                     |       |                                                             |       |                                          |       |   |   |   |   |
| Income (loss)  before income taxes and minority interest |       | 11,352                                                           |       | (26,372                                       | )          | 9,744 |   | (49,902 | ) |
| Income tax  (expense) benefit                            |       | (4,493                                                           | )          | 9,839                                         |       | (2,806) |   | 18,674 |   |
| Minority  interest                                       |       | (277                                                             | )          | (226                                          | )          | (3,100 | ) | (2,813 | ) |
|                                                     |       |                                                             |       |                                          |       |   |   |   |   |
| Net income  (loss)                                       |       | $                                                                | 6,582      |                                          | $          | (16,759 | ) | $ | 3,838 |   | $ | (34,041 | ) |
|                                                     |       |                                                             |       |                                          |       |   |   |   |   |
| Basic and  diluted earnings (loss) per share:            |       |                                                             |       |                                          |       |   |   |   |   |
| Basic earnings  (loss) per share                         |       | $                                                                | 0.12       |                                          | $          | (0.32 | ) | $ | 0.07 |   | $ | (0.65 | ) |
| Diluted earnings  (loss) per share                       |       | $                                                                | 0.12       |                                          | $          | (0.32 | ) | $ | 0.07 |   | $ | (0.65 | ) |
|                                                     |       |                                                             |       |                                          |       |   |   |   |   |
| Weighted average  shares outstanding:                    |       |                                                             |       |                                          |       |   |   |   |   |
| Basic                                                    |       | 53,220                                                           |       | 52,158                                        |       | 53,062 |   | 52,144 |   |
| Diluted                                                  |       | 55,662                                                           |       | 52,158                                        |       | 55,249 |   | 52,144 |   |

----

(1) Cost of gaming equipment and systems excludeamortization related to certain intangibles, including core technology andlicense rights, which are included in depreciation and amortization.

 

 

See accompanying notes to unaudited condensed consolidated financialstatements.

 

4

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**BALLY TECHNOLOGIES, INC. ANDSUBSIDIARIES**

**UNAUDITED CONDENSEDCONSOLIDATED STATEMENTS OF CASH FLOWS**

 
| ** **                                                                                           | ** ** | **Nine Months Ended  March 31,** | ** ** |
|------------------------------------------------------------------------------------------------------|------------|-------------------------------------------------|------------|
| ** **                                                                                           | ** ** | **2007**                                        | ** ** | **2006 ** | ** ** |
| ** **                                                                                           | ** ** | ** **                                      | ** ** | **(as restated,  see Note 2)** | ** ** |
| ** **                                                                                           | ** ** | **(in 000s)**                              | ** ** |
| Cash flows from  operating activities:                                                               |       |                                            |       |   |   |
| Net income  (loss)                                                                                   |       | $                                               | 3,838      |   | $ | (34,041 | ) |
| Adjustments to  reconcile net income (loss) to net cash provided by (used in) operating  activities: |       |                                            |       |   |   |
| Depreciation and  amortization                                                                       |       | 44,672                                          |       | 51,759 |   |
| Share-based  compensation                                                                            |       | 11,090                                          |       | 9,474 |   |
| Excess tax  benefit of stock option exercises                                                        |       | (526                                            | )          | — |   |
| Deferred income  taxes                                                                               |       | 1,809                                           |       | (19,389 | ) |
| Provision for  doubtful accounts                                                                     |       | 669                                             |       | 233 |   |
| Inventory and  other asset write-downs                                                               |       | 7,762                                           |       | 25,930 |   |
| Other                                                                                                |       | 5,564                                           |       | 5,482 |   |
| Changes in  operating assets and liabilities:                                                        |       |                                            |       |   |   |
| Accounts and  notes receivable                                                                       |       | (19,036                                         | )          | (21,940 | ) |
| Inventories                                                                                          |       | (67,568                                         | )          | (26,059 | ) |
| Other current  assets                                                                                |       | (2,488                                          | )          | 1,353 |   |
| Accounts payable                                                                                     |       | (3,050                                          | )          | (5,177 | ) |
| Accrued  liabilities and jackpot liabilities                                                         |       | (8,594                                          | )          | 28,136 |   |
| Deferred revenue                                                                                     |       | 19,785                                          |       | 3,657 |   |
| Net cash  provided by (used in) operating activities                                                 |       | (6,073                                          | )          | 19,418 |   |
|                                                                                                 |       |                                            |       |   |   |
| Cash flows from  investing activities:                                                               |       |                                            |       |   |   |
| Capital  expenditures                                                                                |       | (15,238                                         | )          | (10,269 | ) |
| Restricted cash  and investments                                                                     |       | (2,087                                          | )          | (639 | ) |
| Additions to  other long-term assets                                                                 |       | (3,299                                          | )          | (2,505 | ) |
| Net cash used in  investing activities                                                               |       | (20,624                                         | )          | (13,413 | ) |
|                                                                                                 |       |                                            |       |   |   |
| Cash flows from  financing activities:                                                               |       |                                            |       |   |   |
| Proceeds from  revolving credit facility                                                             |       | 15,000                                          |       | — |   |
| Payments on  revolving credit facility                                                               |       | (10,000                                         | )          | — |   |
| Reduction of  long-term debt                                                                         |       | (9,943                                          | )          | (7,126 | ) |
| Proceeds from  sale lease-back arrangements                                                          |       | 22,303                                          |       | — |   |
| Excess tax  benefit of stock option exercises                                                        |       | 526                                             |       | — |   |
| Proceeds from  exercise of stock options                                                             |       | 7,401                                           |       | 298 |   |
| Net cash  provided by (used in) financing activities                                                 |       | 25,287                                          |       | (6,828 | ) |
|                                                                                                 |       |                                            |       |   |   |
| Effect of  exchange rate changes on cash                                                             |       | 212                                             |       | 25 |   |
|                                                                                                 |       |                                            |       |   |   |
| Cash and cash  equivalents:                                                                          |       |                                            |       |   |   |
| Decrease for  period                                                                                 |       | (1,198                                          | )          | (798 | ) |
| Balance, beginning  of period                                                                        |       | 16,425                                          |       | 33,170 |   |
| Balance, end of  period                                                                              |       | $                                               | 15,227     |   | $ | 32,372 |   |

 

See accompanying notes to unaudited condensed consolidated financialstatements.

 

5

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**BALLY TECHNOLOGIES, INC.**

**FORM 10-Q**

Notes to Unaudited CondensedConsolidated Financial Statements

 

**1.             BASIS OF PRESENTATION**

 

*Principlesof presentation and consolidation*

 

Theaccompanying unaudited condensed consolidated financial statements have beenprepared in accordance with generally accepted accounting principles andpursuant to the rules and regulations of the SEC and reflect all adjustments,consisting of normal recurring adjustments, which management believes arenecessary to fairly present the financial position, results of operations andcash flows of Bally Technologies, Inc., a Nevada corporation, and itssubsidiaries for the respective periods presented. Certain information and notedisclosures normally included in annual financial statements prepared inaccordance with generally accepted accounting principles have been condensed oromitted pursuant to those rules and regulations, although the Company believesthat the disclosures made are adequate to make the information not misleading. Theresults of operations for an interim period are not necessarily indicative ofthe results that may be expected for any other interim period or the year as awhole. The accompanying unaudited condensed consolidated financial statementsshould be read in conjunction with the audited consolidated financialstatements and notes thereto in the Company’s Annual Report on Form 10-K forthe fiscal year ended June 30, 2006 as filed with the SEC on March 15, 2007.

 

Bally is adiversified, worldwide gaming company that designs, manufactures, distributesand operates gaming machines and computerized monitoring systems for gamingmachines and owns and operates one casino.

 

The Company is thegeneral partner of Rainbow Casino Vicksburg Partnership (“RCVP”), whichoperates the Rainbow Casino in Vicksburg, Mississippi. Pursuant to transactionsconsummated in March 1995, the Rainbow Corporation, which was the formergeneral partner of RCVP, became a limited partner entitled to receive 10% ofthe net available cash flows of RCVP after debt service and other items, as definedin the limited partnership agreement, which increases to 20% of the incrementalamount of revenues in excess of $35.0 million, payable quarterly throughDecember 31, 2010. The Company holds the remaining economic interest in thepartnership. The Company consolidates RCVP and records an adjustment to reflectthe portion of the earnings of RCVP attributable to the minority shareholders.

 

The Company alsoconsolidates certain Atlantic City progressive trusts in accordance withFinancial Accounting Standards Board (“FASB”) Interpretation (“FIN”) 46R, *Consolidation of Variable Interest Entities,* which addressesconsolidation by a business enterprise of variable interest entities (“VIE’s”)that either: (1) do not have sufficient equity investment at risk to permit theentity to finance its activities without additional subordinated financialsupport or (2) hold a significant variable interest in, or have significantinvolvement with, an existing VIE. As of March 31, 2007 and June 30, 2006, theCompany consolidated $5.7 million and $4.7 million, respectively, in totalassets and liabilities, primarily consisting of restricted cash accounts andrestricted investments (included in other assets in the condensed consolidatedbalance sheets) and related jackpot liabilities. The following revenues andcosts were also consolidated:

 
| ** **                 | ** ** | **Three Months Ended  March 31,** | ** ** | **Nine Months Ended  March 31,** | ** ** |
|----------------------------|------------|--------------------------------------------------|------------|-------------------------------------------------|------------|
| ** **                 | ** ** | **2007**                                         | ** ** | **2006**                                        | ** ** | **2007** | ** ** | **2006** | ** ** |
| ** **                 | ** ** | **(in 000s)**                               | ** ** |
| Gaming operations  revenue |       | $                                                | 1,453      |                                            | $          | 1,941 |   | $ | 5,455 |   | $ | 6,278 |   |
| Cost of gaming operations  |       | 1,660                                            |       | 1,312                                           |       | 3,466 |   | 4,585 |   |
|                            |            |                                                  |            |                                                 |            |  |  |  |  |  |  |  |  |

 

All intercompany accountsand transactions have been eliminated in consolidation.

 

6

----

 

*Reclassifications*

 

Certain reclassificationshave been made to the prior period financial statements to conform to thecurrent period presentation, the most significant of which was to reclassifyrevenue and cost of gaming operations from revenue and cost of gaming equipmentand systems in the unaudited condensed consolidated statements of operations.

 

*Inventories*

 

Inventories are stated atthe lower of cost, determined on a first in, first out basis, or market. Costelements included in work-in-process and finished goods include raw materials,freight, direct labor and manufacturing overhead. Inventories consist of thefollowing:

 
| ** **      | ** ** | **March 31,  2007** | ** ** | **June 30,  2006** | ** ** |
|-----------------|------------|--------------------------|------------|-------------------------|------------|
| ** **      | ** ** | **(in 000s)**       | ** ** |
| Raw materials   |       | $                        | 55,281     |                    | $          | 40,412 |   |
| Work-in-process |       | 709                      |       | 7,696                   |       |
| Finished goods  |       | 19,467                   |       | 21,887                  |       |
| Total           |       | $                        | 75,457     |                    | $          | 69,995 |   |

 

The Company recorded inventorywrite-downs totaling approximately $1.5 million and $2.5 million, and $7.8million and $10.6 million for the three and nine months ended March 31, 2007and 2006, respectively. These charges are classified in cost of gamingequipment and systems in the consolidated statements of operations.

 

*Property,plant and equipment and leased gaming equipment*

 

Property,plant and equipment is stated at cost and depreciated over the estimated usefullives or lease term, if less, using the straight line method as follows:buildings and improvements, 28 to 40 years; gaming equipment, 4 to 7 years;furniture, fixtures and equipment, 3 to 7 years; and leasehold improvements, 5to 10 years. Leased gaming equipment is stated at cost and depreciated over theestimated useful lives ranging from 2 to 31⁄2 years.

 

*Recently Issued AccountingPronouncements*

 

In February 2007, theFASB issued Statement of Financial Accounting Standards (“SFAS”) No. 159, *The Fair Value Option for Financial Assets and Financial Liabilities*.SFAS No.159 provides companies with an option to report selected financialassets and liabilities at fair value. It also establishes presentation anddisclosure requirements to facilitate comparisons between companies usingdifferent measurement attributes for similar types of assets and liabilities.The statement is effective for fiscal years beginning after November 15, 2007,and accordingly, the Company expects to adopt SFAS No. 159 beginning in fiscal2009. Earlier application is permitted provided the Company also applies theprovisions of SFAS No. 157, *Fair Value Measurements*.The Company is currently in the process of evaluating the impact SFAS No. 159will have on its consolidated results of operations, financial position andcash flows.

 

In September 2006, theFASB issued SFAS No. 157, *Fair Value Measurements*,which defines fair value, establishes a framework for measuring fair value ingenerally accepted accounting principles, and expands disclosures about fairvalue measurements. SFAS No. 157 does not require any new fair valuemeasurements, rather it applies to existing accounting pronouncements thatrequire or permit fair value measurements. SFAS No. 157 is effective for fiscalyears beginning after November 15, 2007, and accordingly, the Company expects toadopt SFAS No. 157 beginning in fiscal 2009. The Company is currently in theprocess of evaluating the impact SFAS No. 157 will have on its consolidatedresults of operations, financial position and cash flows.

 

In September 2006, theSEC issued Staff Accounting Bulletin (“SAB”) No. 108, *Considering the Effects of Prior Year Misstatementswhen Quantifying Misstatements in Current Year Financial Statements*,providing guidance on how prior year misstatements should be taken intoconsideration when quantifying misstatements in current year financialstatements for purposes of determining whether the current year’s financialstatements are materially misstated. The provisions of SAB No. 108 wereeffective beginning with the Company’s fiscal year ending June 30, 2007.

 

7

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In July 2006, theFASB issued FIN 48, *Accounting for Uncertainty in Income Taxes, an interpretation of FASB Statement No. 109, Accounting for Income Taxes*,which creates a single model to address uncertainty in income tax positions andprescribes the minimum recognition threshold a tax position is required to meetbefore being recognized in the financial statements. It also provides guidanceon derecognition, measurement, classification, interest and penalties,accounting in interim periods, disclosure and transition. FIN 48 is effectivefor fiscal years beginning after December 15, 2006, and accordingly, theCompany will adopt FIN 48 beginning in fiscal 2008. The Company is currently inthe process of evaluating the impact FIN 48 will have on its consolidatedresults of operations, financial position and cash flows.

 

**2.             RESTATEMENT**

 

Subsequent to the issuance of the Company’sconsolidated financial statements for the year ended June 30, 2006 and inconnection with the year-end closing process for fiscal 2007, the Companydetermined that certain adjustments were required to be made for corrections oferrors in its previously issued unaudited condensed consolidated financialstatements for the three and nine month periods ended March 31, 2006, amongothers. These errors related to:

 

•                                          Certainexpenses that had been reported in prior periods as selling, general andadministrative expenses, depreciation and amortization expense and otherexpenses which should have been recorded either as cost of sales or ascontra-revenue;

 

•                                          Certainpromotional expenses, representing coupons redeemable for cash incentives,should have been presented as an offset against casino operations revenue inaccordance with Emerging Issues Task Force (“EITF”) Issue No. 00-22, *Accounting for “Points” and Certain Other Time-Based or Volume-BasedSales Incentive Offers, and Offers for Free Products or Services to BeDelivered in the Future*, and EITF Issue No. 01-09, *Accounting for Consideration Given by a Vendor to a Customer (Includinga Reseller of the Vendor’s Products)*;

 

•                                          Additionsto leased gaming equipment previously reported as cash used in investingactivities in its consolidated statements of cash flows for all periods prior toMarch 31, 2007 should have been presented as a change in inventory under cashused in operating activities; and

 

•                                          Certainsales sourced from the United States directly to foreign customers were includedin revenue and operating income (loss) attributable to the United Statesgeographic region and should have been classified as Europe or Other Foreignbased on the location of the customer. Specifically, revenue of $8.3 millionand $14.6 million and operating income of $2.8 million and $2.6 million for thethree and nine months ended March 31, 2006, respectively, should not have beenclassified as being attributable to the United States geographic region. SeeNote 8. 

 

As a result of these andother immaterial errors, the condensed consolidated statements of operationsand statements of cash flows for thethree and nine month periods ended March 31, 2006, among others, have beenrestated from the amounts previously reported. The restatement had no effect onthe condensed consolidated balance sheets, or reported net income (loss) forany period.

 

The following is a summary of the effects of therestatement on the accompanying unaudited condensed consolidated financialstatements:

 
| ** **                                                                 | ** ** | **Three  Months Ended  March 31, 2006** | ** ** | **Nine Months  Ended  March 31, 2006** | ** ** |
|----------------------------------------------------------------------------|------------|-----------------------------------------|------------|----------------------------------------|------------|
| ** **                                                                 | ** ** | **As  previously  reported**            | ** ** | **Reclassification (1)**          | ** ** | **Adjustments** | ** ** | **As  restated** | ** ** | **As  previously  reported** | ** ** | **Reclassification (1)** | ** ** | **Adjustments** | ** ** | **As  restated** | ** ** |
| *Statement of Operations*                                                  |       |                                    |       |                                   |       |   |   |   |   |   |   |   |   |   |   |   |   |
| Revenue:                                                                   |       |                                    |       |                                   |       |   |   |   |   |   |   |   |   |   |   |   |   |
| Gaming  equipment and systems                                              |       | $                                       | 141,221    |                                   | $          |  (38,570 | ) | $ | (438 | ) | $ | 102,213 |   | $ | 349,977 |   | (110,851 | ) | $ | (1,138 | ) | $ | 237,988 |   |
| Gaming  operations                                                         |       | —                                  |       | 38,570                                 |       | — |   | 38,570 |   | — |   | 110,851 |   | — |   | 110,851 |   |
| Casino  operations                                                         |       | 15,090                                  |       | —                                 |       | (1,307 | ) | 13,783 |   | 41,137 |   | — |   | (3,197 | ) | 37,940 |   |
| Total  revenue                                                             |       | 156,311                                 |       | —                                 |       | (1,745 | ) | 154,566 |   | 391,114 |   | — |   | (4,335 | ) | 386,779 |   |
|                                                                       |       |                                    |       |                                   |       |   |   |   |   |   |   |   |   |   |   |   |   |
| Cost  of gaming equipment and systems (2)                                  |       | 89,862                                  |       | (25,062                                | )          | 430 |   | 65,230 |   | 204,025 |   | (65,171 | ) | 3,891 |   | 142,745 |   |
| Cost  of gaming operations                                                 |       | —                                  |       | 25,062                                 |       | — |   | 25,062 |   | — |   | 65,171 |   | — |   | 65,171 |   |
| Direct  cost of casino operations                                          |       | 4,880                                   |       | —                                 |       | — |   | 4,880 |   | 14,102 |   | — |   | — |   | 14,102 |   |
| Selling,  general and administrative expense                               |       | 49,281                                  |       | —                                 |       | (1,800 | ) | 47,481 |   | 138,130 |   | — |   | (7,184 | ) | 130,946 |   |
| Depreciation  and amortization                                             |       | 6,383                                   |       | —                                 |       | (258 | ) | 6,125 |   | 19,207 |   | — |   | (820 | ) | 18,387 |   |
| Operating  loss                                                            |       | (20,248                                 | )          | —                                 |       | (117 | ) | (20,365 | ) | (31,545 | ) | — |   | (222 | ) | (31,767 | ) |
| Other  income (expense), net                                               |       | 47                                      |       | —                                 |       | 117 |   | 164 |   | (474 | ) | — |   | 222 |   | (252 | ) |
| Loss  from continuing operations before income taxes and minority interest |       | (26,372                                 | )          | —                                 |       | — |   | (26,372 | ) | (49,902 | ) | — |   | — |   | (49,902 | ) |
|                                                                            |            |                                         |            |                                        |            |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |

 

----

(1) As discussedin Note 1.

(2)   Costof gaming equipment and systems exclude amortization related to certainintangibles, including core technology and license rights, which are includedin depreciation and amortization.

 

8

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| ** **                                                                             | ** ** | **Nine Months Ended  March 31, 2006** | ** ** |
|----------------------------------------------------------------------------------------|------------|-----------------------------------------------------------|------------|
| ** **                                                                             | ** ** | **As previously  reported**                          | ** ** | **Adjustments** | ** ** | **As restated** | ** ** |
| ** **                                                                             | ** ** | **(in 000s)**                                        | ** ** |
| *Statement  of Cash Flows*                                                             |       |                                                      |       |   |   |   |   |
| Other  adjustments to reconcile net loss to net cash provided by operating  activities |       | $                                                         | 4,368      |   | $ | 1,114 |   | $ | 5,482 |   |
| Change in  inventories                                                                 |       | 1,374                                                     |       | (27,433 | ) | (26,059 | ) |
| Cash flows  provided by operating activities                                           |       | 45,737                                                    |       | (26,319 | ) | 19,418 |   |
| Capital expenditures                                                                   |       | (9,990                                                    | )     | (279 | ) | (10,269 | ) |
| Additions to  leased gaming equipment                                                  |       | (26,598                                                   | )          | 26,598 |   | — |   |
| Cash flows used  in investing activities                                               |       | (39,732                                                   | )          | 26,319 |   | (13,413 | ) |
|                                                                                        |            |                                                           |            |  |  |  |  |  |  |  |

 

**3.             EARNINGS (LOSS) PER SHARE**

 

The computation of basicand diluted earnings (loss) per share applicable to the Company’s common stockis as follows:

 
| ** **                                  | ** ** | **Three Months Ended  March 31,**                 | ** ** | **Nine Months Ended  March 31,** | ** ** |
|---------------------------------------------|------------|------------------------------------------------------------------|------------|-------------------------------------------------|------------|
| ** **                                  | ** ** | **2007**                                                         | ** ** | **2006**                                        | ** ** | **2007** | ** ** | **2006** | ** ** |
| ** **                                  | ** ** | **(in 000s, except per share amounts)** | ** ** |
| Net income  (loss)                          |       | $                                                                | 6,582      |                                            | $          | (16,759 | ) | $ | 3,838 |   | $ | (34,041 | ) |
|                                        |       |                                                             |       |                                            |       |   |   |   |   |
| Weighted average  common shares outstanding |       | 53,220                                                           |       | 52,158                                          |       | 53,062 |   | 52,144 |   |
| Effect of dilutive  securities              |       | 2,442                                                            |       | —                                          |       | 2,187 |   | — |   |
| Diluted                                     |       | 55,662                                                           |       | 52,158                                          |       | 55,249 |   | 52,144 |   |
|                                        |       |                                                             |       |                                            |       |   |   |   |   |
| Basic income  (loss) per share              |       | $                                                                | 0.12       |                                            | $          | (0.32 | ) | $ | 0.07 |   | $ | (0.65 | ) |
| Diluted income  (loss) per share            |       | $                                                                | 0.12       |                                            | $          | (0.32 | ) | $ | 0.07 |   | $ | (0.65 | ) |

 

Certain securities wereexcluded from the diluted per share calculation because their inclusion wouldbe anti-dilutive. For the three month and nine month periods ended March 31,2007, all options and warrants outstanding with an exercise price that exceedsthe fair market value of the underlying stock have been excluded. For the threemonth and  nine month periods ended March31, 2006, all potentially dilutive securities were excluded from the dilutedper share calculation as their inclusion would have been anti-dilutive due tothe net loss reported. Such securities consist of the following:

 
| ** **       | ** ** | **Three Months Ended** | ** ** | **Nine Months Ended** | ** ** |
|------------------|------------|----------------------------------|------------|---------------------------------|------------|
| ** **       | ** ** | **March 31,**               | ** ** | **March 31,**              | ** ** |
| ** **       | ** ** | **2007**                         | ** ** | **2006**                        | ** ** | **2007** | ** ** | **2006** | ** ** |
| ** **       | ** ** | **(in 000s)**               | ** ** |
| Stock options    |       | 1,634                            |       | 9,198                           |       | 1,940 |   | 8,986 |   |
| Warrants         |       | 100                              |       | 100                             |       | 100 |   | 100 |   |
| Restricted stock |       | —                           |       | 554                             |       | — |   | 554 |   |
| Total            |       | 1,734                            |       | 9,852                           |       | 2,040 |   | 9,640 |   |

 

The Company also hascertain related party debt outstanding which is convertible into common stockat the Company’s discretion. As of March 31, 2006, the potential dilution fromthis convertible debt has not been included in the diluted loss per sharecomputation for the three month period and the nine month periods ended March31, 2006, due to the reported net loss for the periods. Assuming the conversionoccurred on March 31, 2006, an additional 0.7 million shares, respectively,would have been outstanding as a result of the conversion. The effect of

 

9

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the convertible debt hasbeen included in the diluted per share calculation for three month period andnine month periods ended March 31, 2007.

 

**4.****             SHARE-BASEDCOMPENSATION**

 

In December 2001, the Company’s shareholdersapproved the 2001 Long-Term Incentive Plan (as amended, the “2001 Plan”). The2001 Plan provides for the issuance of up to 10,550,000 shares of common stockto Company employees, directors and designated paid consultants, which amountconsists of up to 900,000 shares of restricted stock or Restricted Stock Units(“RSUs”). Generally, options are granted at the fair value of the Company’scommon stock at the date of grant and are exercisable over ten years.

 

Effective July 1, 2005, the Company adopted theprovisions of SFAS No. 123R, *Share-Based Payment*, whichestablished accounting for equity instruments exchanged for employee services.SFAS No. 123R requires employee stock options and rights to purchaseshares under stock participation plans to be accounted for under the fair valuemethod, and eliminates the ability to account for these instruments under theintrinsic value method prescribed by the Accounting Principles Board (“APB”)Opinion No. 25, *Accounting for StockIssued to Employees*. Under the provisions of SFAS No. 123R,share-based compensation cost is measured at the grant date, based on thecalculated fair value of the award, and is recognized as an expense over theemployee’s requisite service period (generally the vesting period of the equitygrant). In March 2005, the SEC issued SAB No. 107,  *Share-Based Payment,*whichprovided interpretive guidance on SFAS No. 123R valuation methods,assumptions used in valuation models, and the interaction of SFAS No. 123Rwith existing SEC guidance. SAB No. 107 also requires the classificationof share-based compensation expense in the same financial statement line ascash compensation, and therefore, impacted the Company’s cost of gamingequipment and systems, casino operations (and related gross profits andmargins), research and development costs, and selling, general andadministrative expenses.

 

The following table presents share-based compensationexpense included in the Company’s condensed consolidated statements ofoperations:

 

| ** **                                  | ** ** | **Three Months Ended  March 31** | ** ** | **Nine Months Ended  March 31** | ** ** |
|---------------------------------------------|------------|-------------------------------------------------|------------|------------------------------------------------|------------|
| ** **                                  | ** ** | **2007**                                        | ** ** | **2006**                                       | ** ** | **2007** | ** ** | **2006** | ** ** |
| ** **                                  | ** ** | **(in 000s)**                                   | ** ** |
|                                        |       |                                            |       |                                           |       |   |   |   |   |
| Selling, general and administrative         |       | $                                               | 2,501      |                                           | $          | 3,261 |   | $ | 9,778 |   | $ | 8,633 |   |
| Research and development                    |       | 437                                             |       | 275                                            |       | 1,204 |   | 771 |   |
| Cost of gaming and equipment                |       | 40                                              |       | 24                                             |       | 108 |   | 70 |   |
| Share-based compensation expense before tax |       | 2,978                                           |       | 3,560                                          |       | 11,090 |   | 9,474 |   |
| Income tax benefit                          |       | 1,042                                           |       | 1,246                                          |       | 3,882 |   | 3,316 |   |
| Net share-based compensation expense        |       | $                                               | 1,936      |                                           | $          | 2,314 |   | $ | 7,208 |   | $ | 6,158 |   |

 

As of March 31, 2007, there was $24.8 million oftotal unrecognized compensation expense related to the unvested portion ofstock options which will be recognized over the subsequent 2.71 years.

 

The Company estimates the fair value of stock optionsusing the Black-Scholes valuation model. Key input assumptions used to estimatethe fair value of stock options include the exercise price of the award, theexpected option term, the expected volatility of the Company’s common stockover the option’s expected term, the risk-free interest rate over the option’sexpected term and the Company’s expected annual dividend yield. The Companybelieves that the valuation technique and the approach utilized to develop theunderlying assumptions are appropriate in calculating the fair values of theCompany’s stock options granted. Estimates of fair value are not intended topredict actual future events, or the value ultimately realized by persons whoreceive equity awards.

 

10

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The fair value of each option granted during theperiods referenced below was estimated on the grant date using theBlack-Scholes valuation model with the following assumptions:

 
| ** **                      | ** ** | **Three Months Ended  March 31,** | ** ** | **Nine Months Ended  March 31,** | ** ** |
|---------------------------------|------------|--------------------------------------------------|------------|-------------------------------------------------|------------|
| ** **                      | ** ** | **2007**                                         | ** ** | **2006**                                        | ** ** | **2007** | ** ** | **2006** | ** ** |
| Weighted Average:               |       |                                             |       |                                            |       |   |   |   |   |
| Expected option term (in years) |       | 6.25                                             |       | 5.79                                            |       | 6.19 |   | 6.25 |   |
| Expected volatility             |       | 56.84                                            | %          | 60.06                                           | %          | 57.35 | % | 61.61 | % |
| Risk-free interest rate         |       | 4.83                                             | %          | 4.35                                            | %          | 4.77 | % | 3.86 | % |
| Expected annual dividend yield  |       | —                                           |       | —                                          |       | — |   | — |   |

 

Stock option activity as of and for the nine monthsended March 31, 2007 is summarized below:

 
| ** **                                    | ** ** | **Weighted Average** | ** ** |
|-----------------------------------------------|------------|---------------------------|------------|
| ** **                                    | ** ** | **Shares**                | ** ** | **Exercise  Price** | ** ** | **Remaining  Contractual  Term** | ** ** | **Aggregate  Intrinsic  Value** | ** ** |
| ** **                                    | ** ** | **(in 000s)**        | ** ** | **(per share)** | ** ** | **(years)** | ** ** | **(in 000s)** | ** ** |
| Balance outstanding as of June 30, 2006  |       | 9,640                     |       | $ | 14.61 |   | 6.41 |   | $ | 32,290 |   |
| Granted                                       |       | 983                       |       | 18.42 |   |   |   |   |   |
| Exercised                                     |       | (1,086                    | )          | 8.46 |   |   |   |   |   |
| Forfeited or expired                          |       | (742                      | )          | 16.25 |   |   |   |   |   |
| Balance outstanding as of March 31, 2007 |       | 8,795                     |       | $ | 15.65 |   | 7.09 |   | $ | 71,083 |   |
| Exercisable as of March 31, 2007         |       | 5,304                     |       | $ | 16.49 |   | 6.12 |   | $ | 38,938 |   |

 

Restricted stock and RSU activity as of and for thenine months ended March 31, 2007 is summarized below:

 
| ** **                                    | ** ** | **Weighted Average** | ** ** |
|-----------------------------------------------|------------|---------------------------|------------|
| ** **                                    | ** ** | **Shares**                | ** ** | **Grant Date  Fair Value** | ** ** |
| ** **                                    | ** ** | **(in 000s)**        | ** ** | **(per share)** | ** ** |
| Balance outstanding as of June 30, 2006  |       | 647                       |       | $ | 15.51 |   |
| Granted                                       |       | 84                        |       | 16.37 |   |
| Forfeited or expired                          |       | (2                        | )          | 17.00 |   |
| Balance outstanding as of March 31, 2007 |       | 729                       |       | $ | 15.60 |   |
|                                          |       |                      |       |   |   |
| Vested as of March 31, 2007              |       | 420                       |       | $ | 15.20 |   |

 

11

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**5.****             GOODWILL ANDINTANGIBLE ASSETS**

 

*Finite lived intangible assets*

 

Substantially all of theCompany’s recorded intangible assets are subject to amortization. Finite livedintangible assets are comprised of the following:

 
| ** **                          | ** ** | **March 31,  2007** | ** ** | **June 30,  2006** | ** ** |
|-------------------------------------|------------|--------------------------|------------|-------------------------|------------|
| ** **                          | ** ** | **(in 000s)**       | ** ** |
| Amortizable intangible assets:      |       |                     |       |                    |       |
| Patents and gaming related products |       | $                        | 19,664     |                    | $          | 19,583 |   |
| Less: accumulated amortization      |       | (9,164                   | )          | (7,061                  | )          |
|                                |       | 10,500                   |       | 12,522                  |       |
|                                |       |                     |       |                    |       |
| Licenses and other                  |       | $                        | 33,236     |                    | $          | 32,036 |   |
| Less: accumulated amortization      |       | (18,572                  | )          | (16,902                 | )          |
|                                |       | 14,664                   |       | 15,134                  |       |
|                                |       |                     |       |                    |       |
| Total                               |       | $                        | 25,164     |                    | $          | 27,656 |   |

 

*Goodwill*

 

The changes in thecarrying amount of goodwill for the nine month period ended March 31,2007, are as follows:

 
| ** **                              | ** ** | **(in 000s)** | ** ** |
|-----------------------------------------|------------|--------------------|------------|
| Balance at June 30, 2006           |       | $                  | 161,303    |   |
| Foreign currency translation adjustment |       | 345                |       |
| Balance at March 31, 2007          |       | $                  | 161,648    |   |

 

**6.****             LONG-TERM DEBT ANDCAPITAL LEASES**

 

Long-termdebt and capital leases consist of the following:

 
| ** **                                                  | ** ** | **March 31,** | ** ** | **June 30,** | ** ** |
|-------------------------------------------------------------|------------|--------------------|------------|-------------------|------------|
| ** **                                                  | ** ** | **2007**           | ** ** | **2006**          | ** ** |
| ** **                                                  | ** ** | **(in 000s)** | ** ** |
| Revolving credit facility                                   |       | $                  | 5,000      |              | $          | — |   |
| Term loan facility                                          |       | 308,757            |       | 311,382           |       |
| Capital lease obligations                                   |       | 18,039             |       | 2,399             |       |
| Related party debt (see Note 7)                             |       | 11,400             |       | 14,200            |       |
| Other, generally unsecured                                  |       | 266                |       | 365               |       |
| Long-term debt and capital leases                           |       | 343,462            |       | 328,346           |       |
| Less current maturities                                     |       | 19,284             |       | 12,864            |       |
| Long-term debt and capital leases, less current  maturities |       | $                  | 324,178    |              | $          | 315,482 |   |

 

TheCompany’s debt structure at March 31, 2007 consists primarily of a termloan facility and a $75.0 million revolving credit facility, which are limitedby a current leverage ratio and debt owed to related parties. The term loanrequires principal reductions of approximately 1% per annum paid quarterly,with a balloon payment due in September 2009. The revolving creditfacility commitment reduces annually until it comes due in September 2008.As of March 31, 2007, the term loan had an interest rate of 8.61%, basedon LIBOR plus 3.25%, and the revolving credit facility had an interest rate of7.86%, based on LIBOR plus 2.50%. In July 2007, the Company initiated itsnext LIBOR-based term loan interest rate period (for a term of six months)based on the interest rate formula of LIBOR plus 3.25%,  which was 8.64%.

 

12

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Theterm loan and the revolving credit facility are collateralized by substantiallyall of the Company’s domestic property and are guaranteed by each of theCompany’s domestic subsidiaries, other than the entity that holds the Company’sinterest in its Rainbow Casino operations, and are secured by a pledgeagreement. The bank loan agreement governing the term loan and the revolvingcredit facility (the “Loan Agreement”) contains a number of maintenance andother covenants that, among other things, restrict the ability of the Companyand the ability of certain of its subsidiaries to dispose of assets, incuradditional indebtedness or issue preferred stock, pay dividends or make otherdistributions, enter into certain acquisitions, repurchase equity interests orsubordinated indebtedness, issue or sell equity interests of the Company’ssubsidiaries, engage in mergers or acquisitions or certain transactions withsubsidiaries and affiliates, and that otherwise restrict corporate activities. TheCompany was in compliance with these covenants as of March 31, 2007.

 

As of March 31,2007, the Company was also in compliance with its financial covenantsconsisting of a leverage ratio, a fixed charges coverage ratio and a minimum ofEarnings Before Interest, Taxes, Depreciation and Amortization (“EBITDA”) (asEBITDA is defined in the Loan Agreement). The leverage ratio is computed astotal average debt outstanding during the quarter divided by the trailing 12months EBITDA, excluding certain cash and non-cash charges. The Company’sleverage ratio as of March 31, 2007 was 3.01 times versus a maximumallowable of 3.75 times. The maximum allowable leverage ratio declines to 3.50as of September 30, 2007, through the remaining term of the LoanAgreement.

 

As a result of theadditional time required to complete the year end closing process for fiscal2007, the Company failed to deliver to lenders its 2007 audited financialstatements by September 28, 2007, and therefore, was not in compliancewith certain debt covenants under the Loan Agreement. The Loan Agreement providesfor a 25-business day grace period to cure the default which was cured bydelivering its 2007 audited financial statements simultaneously with the filingof its 2007 Form-10K within the grace period.

 

In October 2006, the Company executed anamendment to the Loan Agreement, which, among other things, (i) extendedthe due date for the  delivery of the Company’s audited financialstatements for the fiscal year ended June 30, 2006 to December 31,2006, (ii) provided that the Company deliver its quarterly reports on Form 10-Qfor the fiscal quarters ended September 30, 2005, December 31, 2005and March 31, 2006 no later than December 31, 2006, (iii) modifiedthe definition of EBITDA to exclude up to $10.0 million of certain cashcharges and (iv) clarified that the definitionof EBITDA includes interest income on trade receivables. Inexchange for the concessions granted under the amendment, the Company paid anadministrative fee of $1.0 million which was expensed in the quarter ended December 31,2006.

 

In December 2006,the Company executed an additional amendment to the Loan Agreement, whichextended the due date for the  delivery of the Company’s quarterly reporton Form 10-Q for the fiscal quarter ended March 31, 2006 and itsaudited financial statements for the fiscal year ended June 30,2006 to March 15, 2007. In exchange for the concessions granted underthe amendment, the Company paid an administrative fee of $1.2 million which wasexpensed in the quarter ended December 31, 2006.

 

In March 2007, theCompany executed an additional amendment to the Loan Agreement, which (i) increasedthe limit of all outstanding letters of credit from $20.0 million to $35.0million, (ii) increased the limit of all indebtedness and contingentobligations with respect to performance bonds from $20.0 million to $35.0million, and (iii) permitted liens on cash equivalents securingindebtedness. In exchange for the concessions granted under the amendment, theCompany paid an administrative fee of $0.1 million which was expensed in thequarter ended March 31, 2007.

 

Capital lease obligationsrepresent amounts owed under lease or sale-lease back transactions primarilyrelated to equipment used in the Company’s Gaming Equipment and Systems segment.The leases are payable in thirty-six equal installments with interest imputedat a weighted average rate of 9.11%.

 

TheCompany’s related party debt, which totaled approximately $11.4 million as of March 31,2007, consists primarily of the debt owed to the former principals of SierraDesign Group (“SDG”) and MindPlay LLC (“MindPlay”). See Note 7, Related PartyTransactions, below regarding related party debt.

 

13

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**7.****            ****RELATED PARTY TRANSACTIONS**

 

The Company completed the acquisition of all of theassets of SDG during fiscal 2005 and substantially all of the assets andliabilities of MindPlay during fiscal 2004. In each acquisition, a portion ofthe consideration included subordinated debt issued to the former principals ofeach business. Certain of the former principals are now employees of theCompany, and therefore, such debt is considered to be owed to related parties. Theinterest rates on the outstanding debt range from a variable rate of LIBOR plus2% to a fixed rate of 6%. The following table presents the outstanding relatedparty debt and interest rates as of the period referenced:

 
| ** **                                  | ** ** | **March 31, 2007** | ** ** | **June 30, 2006** | ** ** |
|---------------------------------------------|------------|------------------------------|------------|-----------------------------|------------|
| ** **                                  | ** ** | **Interest  Rate**           | ** ** | **Outstanding  Debt**       | ** ** | **Interest  Rate** | ** ** | **Outstanding  Debt** | ** ** |
| ** **                                  | ** ** | **(in 000s)**           | ** ** |
| SDG                                         |       | 7.33                         | %          | $                           | 8,400      |   | 6.39 | % | $ | 11,200 |   |
| MindPlay                                    |       | 6.00                         | %          | 3,000                       |       | 6.00 | % | 3,000 |   |
| Related party debt                          |       |                         |       | 11,400                      |       |   |   | 14,200 |   |
| Less current maturities                     |       |                         |       | 3,800                       |       |   |   | 6,600 |   |
| Related party debt, less current maturities |       |                         |       | $                           | 7,600      |   |   |   | $ | 7,600 |   |

 

The note payable to theformer principals of SDG of $8.4 million is payable in annual installmentsthrough 2009. At the Company’s discretion, the principal and accrued interestthereon can be paid in cash, or can be converted into shares of the Company’scommon stock using the average stock price for the 20 business days prior tothe delivery of such shares.

 

In February 2004,the Company acquired substantially all of the assets and liabilities ofMindPlay. The initial purchase price included, among other things, the issuanceof a $4.0 million note payable. As provided for in the acquisition agreement,under certain circumstances, the Company may offset 50% of all damages(including reasonable attorneys’ fees) up to the entire amount due under thepromissory note in connection with an indemnification claim against the formershareholders of MindPlay related to the Company’s patent lawsuit with ShuffleMaster, Inc. (“Shuffle Master”) and International Game Technology (“IGT”)which is described below in Note 10, Commitments and Contingencies.

 

The Company leases awarehouse and office facility from an entity owned by Mr. Robert Luciano,a former principal of SDG and the Company’s Chief Technology Officer. Rentalpayments totaled $112,000 and $103,000, and $347,000 and $309,000 for the threeand nine month periods ended March 31, 2007 and 2006, respectively.

 

14

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**8.****             SEGMENTS ANDGEOGRAPHICAL INFORMATION**

 

The Company operates intwo business segments: (i) Bally Gaming Equipment and Systems whichdesigns, manufactures, assembles, distributes and operates gaming machines andcomputerized monitoring and bonusing systems for gaming machines, and (ii) CasinoOperations which owns and operates a casino in Vicksburg, Mississippi. Theaccounting policies of these segments are consistent with the Company’spolicies for the unaudited condensed consolidated financial statements.

 

The table below presentsinformation as to the Company’s revenues and operating income (loss) bysegment:

 
| ** **                    | ** ** | **Three Months Ended  March 31,** | ** ** | **Nine Months Ended  March 31,** | ** ** |
|-------------------------------|------------|--------------------------------------------------|------------|-------------------------------------------------|------------|
| ** **                    | ** ** | **2007**                                         | ** ** | **2006**                                        | ** ** | **2007** | ** ** | **2006** | ** ** |
| ** **                    | ** ** | **(in 000s)**                               | ** ** |
| Revenues:                     |       |                                             |       |                                            |       |   |   |   |   |
| Gaming Equipment and Systems  |       | $                                                | 162,244    |                                            | $          | 140,783 |   | $ | 443,878 |   | $ | 348,839 |   |
| Casino Operations             |       | 12,974                                           |       | 13,783                                          |       | 36,051 |   | 37,940 |   |
| Total revenues                |       | $                                                | 175,218    |                                            | $          | 154,566 |   | $ | 479,929 |   | $ | 386,779 |   |
|                          |       |                                             |       |                                            |       |   |   |   |   |
| Inter-segment revenues:       |       |                                             |       |                                            |       |   |   |   |   |
| Gaming Equipment and Systems  |       | $                                                | 113        |                                            | $          | 87 |   | $ | 300 |   | $ | 390 |   |
| Casino Operations             |       | —                                           |       | —                                          |       | — |   | — |   |
| Total inter-segment revenues  |       | $                                                | 113        |                                            | $          | 87 |   | $ | 300 |   | $ | 390 |   |
|                          |       |                                             |       |                                            |       |   |   |   |   |
| Operating income (loss):      |       |                                             |       |                                            |       |   |   |   |   |
| Gaming Equipment and Systems  |       | $                                                | 20,596     |                                            | $          | (18,231 | ) | $ | 40,449 |   | $ | (24,579 | ) |
| Casino Operations             |       | 5,483                                            |       | 5,281                                           |       | 13,453 |   | 13,708 |   |
| Corporate/other               |       | (7,714                                           | )          | (7,415                                          | )          | (21,528 | ) | (20,896 | ) |
| Total operating income (loss) |       | $                                                | 18,365     |                                            | $          | (20,365 | ) | $ | 32,374 |   | $ | (31,767 | ) |

 

TheCompany’s operations are based primarily in the United States with sales anddistribution offices in Europe, China and South America. The table belowpresents information as to the Company’s revenues and operating income (loss)by geographic region:

 
| ** **                    | ** ** | **Three Months Ended  March 31,** | ** ** | **Nine Months Ended  March 31,** | ** ** |
|-------------------------------|------------|--------------------------------------------------|------------|-------------------------------------------------|------------|
| ** **                    | ** ** | **2007**                                         | ** ** | **2006**                                        | ** ** | **2007** | ** ** | **2006** | ** ** |
| ** **                    | ** ** | ** **                                       | ** ** | **(As restated,  See Note 2)**                  | ** ** | ** ** | ** ** | **(As restated,  See Note 2)** | ** ** |
| ** **                    | ** ** | **(in 000s)**                               | ** ** |
| Revenues:                     |       |                                             |       |                                            |       |   |   |   |   |
| United States                 |       | $                                                | 155,179    |                                            | $          | 137,426 |   | $ | 425,651 |   | $ | 349,808 |   |
| Europe                        |       | 7,020                                            |       | 6,454                                           |       | 22,019 |   | 17,022 |   |
| Other foreign                 |       | 13,019                                           |       | 10,686                                          |       | 32,259 |   | 19,949 |   |
| Total revenues                |       | $                                                | 175,218    |                                            | $          | 154,566 |   | $ | 479,929 |   | $ | 386,779 |   |
|                          |       |                                             |       |                                            |       |   |   |   |   |
| Operating income (loss):      |       |                                             |       |                                            |       |   |   |   |   |
| United States                 | ** ** | $                                                | 15,442     |                                            | $          | (23,148 | ) | $ | 25,590 |   | $ | (33,378 | ) |
| Europe                        |       | 1,067                                            |       | 574                                             |       | 4,553 |   | (40 | ) |
| Other foreign                 |       | 1,856                                            |       | 2,209                                           |       | 2,231 |   | 1,651 |   |
| Total operating income (loss) | ** ** | $                                                | 18,365     |                                            | $          | (20,365 | ) | $ | 32,374 |   | $ | (31,767 | ) |

 

15

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**9.****             SUPPLEMENTAL CASHFLOW INFORMATION**

 

The followingsupplemental information is related to the condensed consolidated statements ofcash flows:

 
| ** **                                                                                   | ** ** | **Nine Months Ended  March 31,** | ** ** |
|----------------------------------------------------------------------------------------------|------------|-------------------------------------------------|------------|
| ** **                                                                                   | ** ** | **2007**                                        | ** ** | **2006** | ** ** |
| ** **                                                                                   | ** ** | **(in 000s)**                              | ** ** |
| Cash paid for interest                                                                       |       | $                                               | 25,681     |   | $ | 15,816 |   |
| Cash paid for income taxes                                                                   |       | 1,127                                           |       | 2,329 |   |
|                                                                                         |       |                                            |       |   |   |
| Non-cash investing and financing transactions:                                               |       |                                            |       |   |   |
| Reclassify property, plant and equipment to  inventory (1)                                   |       | $                                               | 6,026      |   | $ | 8,683 |   |
| Transfer of inventory to leased gaming equipment (1)                                         |       | 48,998                                          |       | 26,319 |   |
| Inventory in transit                                                                         |       | 409                                             |       | — |   |
| Capital expenditure accruals                                                                 |       | 580                                             |       | — |   |
| Assets acquired through sale lease-back transactions                                         |       | 11,681                                          |       | — |   |
| Unrealized gain on sale lease-back transactions                                              |       | 3,333                                           |       | — |   |
| Value of restricted stock issued to employees                                                |       | 1,383                                           |       | — |   |
| Receipt of Company’s common stock as consideration  for employee stock option exercises |       | 507                                             |       | — |   |
| Consolidation of variable interest entities                                                  |       | 1,000                                           |       | (1,330 | ) |

 

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(1)     TheCompany has one process to procure raw materials for the assembly of bothinventory and leased gaming equipment. The materials requisition planningprocess considers the number of devices the Company expects to build for saleand for use in its gaming operations division during a particular period, butit does not separately earmark purchases for leased gaming equipment. Withoutsuch an earmarking process, the Company is unable to determine whether the cashexpended to construct leased gaming equipment during a particular period camefrom inventory on hand at the beginning of the period or was constructed frominventory procured during the period of deployment, thus requiring theexpenditure of cash. As a result of the inability to separately identify thecash flows associated with the construction of leased gaming equipment, theCompany has included all additions to leased gaming equipment as a change ininventory under cash provided by (used in) operating activities in theconsolidated statement of cash flows. In addition, cash generated from the saleof used gaming equipment classified as leased gaming equipment is also includedin cash provided by (used in) operating activities in the consolidatedstatement of cash flows.

 

**10.****          COMMITMENTS ANDCONTINGENCIES**

 

In June and July 2004,putative class actions were filed against the Company and its officers,Robert Miodunski, Robert Saxton, Mark Lerner and Steven Des Champs, in theUnited States District Court for the District of Nevada. The nearly identicalcomplaints alleged violations of the Securities Exchange Act of 1934, asamended (the “Exchange Act”), stemming from revised earnings guidance, declinesin the stock price and sales of stock by insiders. The complaints soughtdamages in unspecified amounts. The Federal District Court granted theplaintiffs’ unopposed motions to consolidate the cases and to appoint a leadcounsel and a lead plaintiff, and the plaintiffs filed a consolidatedcomplaint, all as is customary in such cases. The Company and the otherdefendants moved to dismiss the complaint. Thereafter, activity in the case wasstopped and the parties participated in a mediation process during which theparties agreed on the terms of a settlement. The parties negotiated andexecuted settlement documents settling both the consolidated class actionand the derivative case discussed below. Under the settlement an aggregate of$16.0 million in cash, plus certain interest, was paid to settle the securitiesclass action as well as the derivative litigation as discussed below. TheCompany accrued $1.25 million related to the settlement during the year ended June 30,2006, which was paid in late February 2007. In addition to certaingovernance actions the Company agreed to undertake in connection with thesettlement, the Company’s directors and officers insurer contributedapproximately $14.75 million to the settlement. The court approved thesettlement on August 9, 2007, ending the case.

 

16

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InJuly 2004, two derivative lawsuits were filed in Nevada state courtagainst the members of the board of directors and the officers listed above.The Company was named as a nominal defendant in the derivative lawsuits as theclaims were purportedly asserted for the benefit of Bally Technologies, Inc.These lawsuits asserted claims for breach of fiduciary duty and waste ofcorporate assets arising out of the same events as those giving rise to the class actionsdescribed above, and sought injunctive relief and damages in unspecifiedamounts. These two cases were consolidated, and the Company and the otherdefendants moved to dismiss the case. In February 2005, the state districtcourt granted the defendants’ motion and dismissed the case. The plaintiffsappealed the dismissal to the Nevada Supreme Court, which referred the matterto its settlement conference program. The parties met with a court-appointedsettlement judge on December 15, 2005, and agreed to settle the case for$8,000, and on February 2, 2006, the Nevada Supreme Court entered itsorder dismissing the appeal and ending the case.

 

OnMarch 27, 2006, shortly after the aforementioned derivative suit wasdismissed in the Nevada state court, another derivative lawsuit was filed inthe United States District Court for the District of Nevada against individualdefendants Robert Miodunski, Robert Saxton, Steven Des Champs, Mark Lerner, DavidRobbins, Anthony DiCesare, Joel Kirschbaum, Kevin Verner, Richard Haddrill,Stephen Race, Jacques André and nominal defendant Bally Technologies, Inc.Based on factual allegations that are similar to those alleged in the federalsecurities class action complaints and the previous derivative actionsthat were dismissed by the District Court, the derivative complaint allegedbreach of fiduciary duty, abuse of control, gross mismanagement, waste ofcorporate assets, unjust enrichment and violation of the Sarbanes-Oxley Act of2002. The parties reached a settlement as discussed more fully above. The courtapproved the settlement on June 22, 2007, ending the case.

 

In February 2005,the SEC initiated an informal inquiry and requested documents and informationregarding matters related to the allegations in the class actions andsimilar matters. In August 2005, the SEC notified the Company that itsinvestigation had entered a formal phase, and requested additional informationfrom the Company covering the same general areas that were addressed in theinformal inquiry. Management is cooperating fully with the SEC in this matter.

 

In August 2004,Shuffle Master sued the Company in the United States District Court for theDistrict of Nevada, alleging infringement of various patents in connection withthe Company’s MindPlay product line and seeking injunctive relief and damagesin an unspecified amount. In June 2005, it was announced that IGT hadacquired an interest in the patents at issue in the case, and thereafter IGTjoined the case as a plaintiff. In December 2005, the DistrictCourt issued a ruling construing the claim terms of all the patents in thesuit. A hearing on the parties’ dispositive motions is set for December 2007.Management believes the plaintiffs’ lawsuit to be without merit, and theCompany is vigorously defending against the lawsuit.

 

In September 2004,a United States District Court jury in the District of Nevada entered a $7.4million verdict against the Company in a suit filed by Action Gaming (“AGI”)and IGT. The suit alleged that the multi-hand video poker game deployed by theCompany’s former subsidiary, United Coin, infringed the plaintiffs’ patents.The Federal District Court ruled on summary judgment that the game did notinfringe the patents. However, the court left to the jury the question whetherthe use of “autohold,” a specific, optional feature of the game, caused it toinfringe under the “doctrine of equivalents,” a doctrine of patent law. Thejury determined that the game with the autohold option enabled did infringeunder the doctrine of equivalents and awarded damages accordingly. The featurehas been disabled on all affected games in the field, and the decision permitscontinued deployment of the game as long as the autohold feature is notincluded. The Company appealed the decision to the United States Court ofAppeals for the Ninth Circuit and posted a cash bond totaling $7.6 million tostay payment of the judgment and accrued interest pending the appeal. On July 11,2006, the federal circuit court of appeals affirmed the district courtjudgment, denying the appeals for both parties, and thereafter, the judgmentwas satisfied out of the posted bond.

 

On December 7, 2004,IGT filed a patent infringement lawsuit against the Company in the UnitedStates District Court for the District of Nevada. The complaint asserts thatthe Company’s wheel-based games, such as Monte CarloÔ,Lucky WheelÔ and Cash For LifeÔ,its games with a reel in the top box, such as Bonus FrenzyÔ,and its iVIEWÔ products infringe on patents held by IGT, andseeks injunctive relief and damages in unspecified amounts. The Companybelieves IGT’s claims are without merit and is vigorously defending itselfagainst the lawsuit. As part of its defense, the Company has assertedcounterclaims against IGT, including claims that IGT’s patents are invalid,unenforceable and not infringed, as well as several claims that IGT hasengaged in anti-competitive conduct in violation of state and federal antitrustlaws. By its counterclaims, the Company is seeking

 

17

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damages and other relieffrom IGT. IGT’s motion to dismiss the Company’s antitrust claims wasdenied in January 2006, and in March 2007, the court denied IGT’smotions for summary judgment with respect to the antitrust claims dealing withthe wheel game market. The court issued claims construction rulings in May 2007.Trial is tentatively scheduled for May 2008.

 

In September 2006,the Company filed a patent infringement lawsuit against IGT in the UnitedStates District Court for the District of Nevada. The complaint asserts thatcertain of IGT’s bonus wheel games infringe patents held by the Company, andseeks injunctive relief and damages. IGT filed an answer generally denying theclaims. The case is in the discovery phase and no trial date has been set.

 

In May 2006, IGTfiled a patent infringement lawsuit against the Company in the United StatesDistrict Court for the District of Delaware. The complaint asserts that theCompany’s Bally Power BonusingÔproducts infringe patents held by IGT, and seeks injunctive relief and damagesin unspecified amounts. The court took IGT’s motion for a preliminaryinjunction off-calendar and set a November 2008 trial date. The Companybelieves IGT’s claims, including its request for preliminary relief, arewithout merit and is vigorously defending itself against the lawsuit.

 

The Company is also aparty to various lawsuits relating to routine matters incidental to ourbusiness. Management does not believe that the outcome of such litigation,including the matters above, in the aggregate, will have a material adverseeffect on our consolidated financial position, results of operations or cashflows. The Company has not recorded any loss accruals for these contingenciesunless otherwise noted above.

 

**11.****          SUBSEQUENT EVENTS**

 

In August 2007 theCompany prepaid $15.0 million under the term loan facility described under Note6.

 

In September 2007the Company issued a letter of credit to the Oregon State Lottery to secure theperformance under a contract to provide 2,300 games.

 

In September 2007the Company agreed to repurchase $6.0 million in common stock from Mr. RobertLuciano, the Company’s Chief Technology Officer. The purchase price for eachshare of common stock will be determined by calculating the average per shareclosing price of the Company’s common stock for three business days before theclosing date. The Company anticipates the closing will occur in November 2007.

 

In October 2007 the Companyacquired technology to be used in future enhancements of its system productsfor $4.9 million.

 

18

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**ITEM 2.****                 MANAGEMENT’SDISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS**

 

We begin this Management’sDiscussion and Analysis of Financial Condition and Results of Operations withan overview of our key operating business divisions and significant trends asof March 31, 2007. This overview is followed by a detailed analysis of ourresults of operations and our financial condition as of, and for, the three andnine months ended March 31, 2007. Thefinancial information set forth in the following Management’s Discussion andAnalysis gives effect to the restatement as discussed in Note 2 to theunaudited condensed consolidated financial statements, Restatement ofPreviously Issued Financial Statements.

 

**ForwardLooking Statements**

 

Certain statements madeor incorporated by reference in this Quarterly Report on Form 10-Q, in ourother filings with the SEC, in our press releases and in statements made by orwith the approval of authorized personnel constitute “forward lookingstatements” within the meaning of Section 27A of the Securities Act of1933, as amended (the “Securities Act”) and Section 21E of the SecuritiesExchange Act of 1934, as amended (the “Exchange Act”), and are subject to thesafe harbor created thereby. Forward-looking statements reflect intent, beliefor current expectations with respect to, among other things, future events andfinancial trends affecting us. Forward looking statements are typicallyidentified by words such as “believes,” “expects,” “anticipates” and similarexpressions.

 

Although we believe theexpectations reflected in any forward looking statements are reasonable,readers are cautioned that forward looking statements involve known and unknownrisks and uncertainties, are not guarantees of future performance and thatactual results, performance or achievements may differ materially from anyfuture results, performance or achievements expressed or implied by suchforward-looking statements. These differences can arise as a result of therisks described in Item 1A, Risk Factors included in our Annual Report on Form 10-Kfor the fiscal year ended June 30, 2006, as well as other factors such asthe impact of competition, our ability to service debt, product development,foreign operations, dependence on key personnel, the ability to integratefuture acquisitions, regulation by gaming authorities, the outcome of pendinglitigation matters, gaming taxes, market risks and the potential adverseeffects to our financial condition, results of operations or prospects.

 

Forward lookingstatements in this Quarterly Report on Form 10-Q speak only as of the datehereof, and forward-looking statements in documents incorporated by referencespeak only as of the date of those documents. Unless otherwise required by law,we undertake no obligation to publicly update or revise these forward lookingstatements, whether as a result of new information, future events or otherwise.In light of these risks and uncertainties, we cannot assure you that theforward looking statements contained in this Quarterly Report on Form 10-Qwill, in fact, transpire.

 

**Restatement**

 

Subsequent to the issuanceof our consolidated financial statements for the year ended June 30, 2006and in connection with the year-end closing process for fiscal 2007, wedetermined that certain adjustments were required to be made for corrections oferrors in our previously issued consolidated financial statements for the yearsended June 30, 2006 and 2005 and certain periods within such years. On October 29,2007, after consultation with management, our Board of Directors determinedthat a restatement of the condensed consolidated financial statements for theaffected periods was required. The restatement related primarily: 

 

•           Certainexpenses that had been reported in prior periods as selling, general andadministrative expenses, depreciation and amortization expense and otherexpenses which should have been recorded either as cost of sales or ascontra-revenue;

 

•              Certainpromotional expenses, representing coupons redeemable for cash incentives,should have been presented as an offset against casino operations revenue inaccordance with EITF Issue No. 00-22, *Accounting for “Points”and Certain Other Time-Based or Volume-Based Sales Incentive Offers, and Offersfor Free Products or Services to Be Delivered in the Future,* andEITF Issue No. 01-09, *Accounting for ConsiderationGiven by a Vendor to a Customer (Including a Reseller of the Vendor’s Products)*;

 

•              Additionsto leased gaming equipment previously reported as cash used in investingactivities in our consolidated statements of cash flows for all periods priorto March 31, 2007 should have been presented as a change in inventoryunder cash used in operating activities; and

 

•              Certainsales sourced from the United States directly to foreign customers were includedin revenue and operating income (loss) attributable to the United Statesgeographic region and should have been classified as Europe or Other Foreignbased on the location of the customer. Specifically, revenue of $8.3 millionand $14.6 million and operating income of $2.8 million and $2.6 million for thethree and nine months ended March 31, 2006, respectively, should not have beenclassified as being attributable to the United States geographic region. SeeNote 8 to the unaudited condensed consolidated financial statements, Segmentsand Geographic Information.

 

As a result of these and other immaterial errors, ourcondensed consolidated statements of operations and statements of cash flowsfor the three and nine month periods ended March 31, 2006, among otherperiods, have been restated from the amounts previously reported. Therestatement had no effect on the condensed consolidated balance sheets orreported net income (loss) for any period. See Note 2 to the unauditedcondensed consolidated financial statements, Restatement of Previously IssuedFinancial Statements.

 

19

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Thefinancial information set forth in the following Management’s Discussion andAnalysis gives effect to the restatement. The following is a summary ofthe effects of the restatement.

 

 
| ** **                                                                 | ** ** | **Three Months Ended  March 31, 2006** | ** ** | **Nine Months Ended  March 31,2006** | ** ** |
|----------------------------------------------------------------------------|------------|---------------------------------------------|------------|-------------------------------------------|------------|
| ** **                                                                 | ** ** | **As  previously  reported**                | ** ** | **Reclassification (1)**             | ** ** | **Adjustments** | ** ** | **As  restated** | ** ** | **As  previously  reported** | ** ** | **Reclassification (1)** | ** ** | **Adjustments** | ** ** | **As  restated** | ** ** |
| *Statement of Operations*                                                  |       |                                        |       |                                      |       |   |   |   |   |   |   |   |   |   |   |   |   |
| Revenue:                                                                   |       |                                        |       |                                      |       |   |   |   |   |   |   |   |   |   |   |   |   |
| Gaming equipment and systems                                               |       | $                                           | 141,221    |                                      | (38,570    | ) | $ | (438 | ) | $ | 102,213 |   | $ | 349,977 |   | (110,851 | ) | $ | (1,138 | ) | $ | 237,988 |   |
| Gaming operations                                                          |       | —                                      |       | 38,570                                    |       | — |   | 38,570 |   | — |   | 110,851 |   | — |   | 110,851 |   |
| Casino operations                                                          |       | 15,090                                      |       | —                                    |       | (1,307 | ) | 13,783 |   | 41,137 |   | — |   | (3,197 | ) | 37,940 |   |
| Total revenue                                                              |       | 156,311                                     |       | —                                    |       | (1,745 | ) | 154,566 |   | 391,114 |   | — |   | (4,335 | ) | 386,779 |   |
|                                                                       |       |                                        |       |                                      |       |   |   |   |   |   |   |   |   |   |   |   |   |
| Cost of gaming equipment and systems(2)                                    |       | 89,862                                      |       | (25,062                                   | )          | 430 |   | 65,230 |   | 204,025 |   | (65,171 | ) | 3,891 |   | 142,745 |   |
| Cost of gaming operations                                                  |       | —                                      |       | 25,062                                    |       | — |   | 25,062 |   | — |   | 65,171 |   | — |   | 65,171 |   |
| Direct cost of casino operations                                           |       | 4,880                                       |       | —                                    |       | — |   | 4,880 |   | 14,102 |   | — |   | — |   | 14,102 |   |
| Selling, general and administrative expense                                |       | 49,281                                      |       | —                                    |       | (1,800 | ) | 47,481 |   | 138,130 |   | — |   | (7,184 | ) | 130,946 |   |
| Depreciation and amortization                                              |       | 6,383                                       |       | —                                    |       | (258 | ) | 6,125 |   | 19,207 |   | — |   | (820 | ) | 18,387 |   |
| Operating loss                                                             |       | (20,248                                     | )          | —                                    |       | (117 | ) | (20,365 | ) | (31,545 | ) | — |   | (222 | ) | (31,767 | ) |
| Other income (expense), net                                                |       | 47                                          |       | —                                    |       | 117 |   | 164 |   | (474 | ) | — |   | 222 |   | (252 | ) |
| Loss from continuing operations before income taxes  and minority interest |       | (26,372                                     | )          | —                                    |       | — |   | (26,372 | ) | (49,902 | ) | — |   | — |   | (49,902 | ) |
|                                                                            |            |                                             |            |                                           |            |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |

 

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(1) As discussed inNote 1 to the unaudited condensed consolidated financial statements, Basis ofPresentation.

(2)     Costof gaming equipment and systems exclude amortization related to certainintangibles, including core technology and license rights, which are includedin depreciation and amortization.

 
| ** **                                                                            | ** ** | **Nine Months Ended March 31, 2006** | ** ** |
|---------------------------------------------------------------------------------------|------------|---------------------------------------------------------------|------------|
| ** **                                                                            | ** ** | **As previously  reported**                              | ** ** | **Adjustments** | ** ** | **As restated** | ** ** |
| ** **                                                                            | ** ** | **(in 000s)**                                            | ** ** |
| *Statement of Cash Flows*                                                             |       |                                                          |       |   |   |   |   |
| Other adjustments to reconcile net loss to net cash  provided by operating activities |       | $                                                             | 4,368      |   | $ | 1,114 |   | $ | 5,482 |   |
| Change in inventories                                                                 |       | 1,374                                                         |       | (27,433 | ) | (26,059 | ) |
| Cash flows provided by operating activities                                           |       | 45,737                                                        |       | (26,319 | ) | 19,418 |   |
|                                                                                  |       |                                                          |       |   |   |   |   |
| Capital Expenditures                                                                  |       | (9,990                                                        | )          | (279 | )  | (10,269 | )  |
| Additions to leased gaming equipment                                                  |       | (26,598                                                       | )          | 26,598 |   | — |   |
| Cash flows used in investing activities                                               |       | (39,732                                                       | )          | 26,319 |   | (13,413 | ) |
|                                                                                       |            |                                                               |            |  |  |  |  |  |  |  |

 

**OurBusiness**

 

We are a diversified,worldwide gaming company that designs, manufactures, distributes and operatesgaming machines and computerized monitoring systems for gaming machines. Inaddition to selling our gaming devices, we also offer our customers a widerange of lease and rental options. Our primary technologies include gamingdevices for land based, riverboat and Native American casinos, video lotteryand central determination markets and specialized system-based hardware andsoftware products. Our specialized hardware and software products provide casinoswith a wide-range of marketing, data management, accounting, security and othersoftware applications and tools to more effectively manage their operations. Wealso own and operate a riverboat, dockside casino in Vicksburg, Mississippi.

 

We derive our revenuesfrom the following four sources:

 
| •*     **Gaming Equipment*  | - | Sale of gaming  devices;                                                                                                    |
|-----------------------------------------------------------|---|-----------------------------------------------------------------------------------------------------------------------------|
| •*     **Gaming Operations* | - | Operation of  wide-area progressive, lottery and centrally determined systems and the lease  and rental of gaming machines; |
| •*     **Systems*           | - | Sales of  computerized monitoring systems and related recurring hardware and software  maintenance revenue; and             |
| •*     **Casino Operations* | - | Operation of the  Rainbow Casino.                                                                                           |

 

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We design, manufacture, assemble, sell and operate a fullrange of technology-based gaming devices through our Gaming Equipment division.These devices are not mass produced and are normally configured to specificrequirements based on a customer’s particular order. Gaming devices aredifferentiated from one another by a number of factors including, but notlimited to, graphic design and theme, cabinet style, pay table, game layout,betting denomination and minimum/maximum betting amount.

 

Each gaming device contains an operating system referred toas a game platform. The operating system manages the software needed to run thedevice. Game platforms and the related computer systems are constantly updatedand revised to keep pace with the ever-increasing complexity of modern gameplay requirements. The change in game play requirements is driven by, amongother things, changes in consumer demand, capacity, security and regulation. Infiscal 2005, we completed the successful migration from our legacy platforms,including the V7000 and EVOTM, to the Linux-based ALPHA OSTM platform. In fiscal2006, we also extended the transition to the ALPHA OS to our mechanical reelspinning devices. ALPHA OS is now the platform for each of our gamingdevice product offerings and, as a result, marketing of our legacy products hasgenerally been discontinued.

 

The ALPHA OS is designed to separate the gaming operatingsystem from the game layer, which enables game development in a much shortertime. ALPHA OS is also designed to incorporate bonusing, free spin, scatter andother advanced game features, while providing internal and third-partydevelopers with a secure, easy-to-use programming environment that incorporatesan advanced set of development tools. Moreover, ALPHA OS is designed to supportserver-based gaming initiatives, including download of game results,configuration and game content. Additionally, our layered architecture andmodular design allow for adaptability and simplified requirement changes. Theoperating system, which is Linux-based, is compatible with the most commonaccounting, ticketing and bonusing systems and supports 50-plus bet lines,various game bonusing, top boxes, multi-denomination, multi-game and multi-paytable game configurations. ALPHA OS also supports stand alone, local andwide-area progressive products.

 

In addition to sellingour gaming devices, we also offer our customers a wide range of lease andrental options through our Gaming Operations division. Specifically, thesearrangements are available under four business models: linked progressivesystems, rental and daily fee games, lottery systems and centrally determinedsystems. In most cases, operating gaming devices under a lease or rentalarrangement requires us to invest capital in manufacturing the gaming deviceand related equipment, purchasing signs and seating, and, in certain cases,acquiring certain intellectual property rights.

 

We alsodesign, program, test, market and support casino enterprise systems for a widerange of customers of varying size and complexity through our Systems division.These systems typically provide casino operators features such as active,real-time monitoring tools for gaming devices, tools to collect and managecustomer data, security to protect against theft and data loss, and marketingprograms to enhance the gaming experience. The use of system technology ingaming has grown in the past ten years from basic automation of manualactivities to highly integrated mission critical applications. We believe weare the only provider in the industry that offers a selection of technologyplatform options to its customers. Our products operate on platforms suchas Windows, AS/400 (iSeries) and UNIX which allow our customers to choose atechnology solution that meets their existing or future infrastructurerequirements.

 

The primarysystems we sell our customers are products for slot floor management, casinomanagement, cashless systems and iVIEWTM gaming machine displays. IVIEW is asmall, horizontal liquid-crystal display screen and accompanying hardware andsoftware that resides in the gaming devices and serves as a communication toolto players sitting at the machine. iVIEW is also designed to work with ourBally Power BonusingTM suite of products and other new technologies underdevelopment. We market our system product solutions under the broad categoriesof Bally CMS® (Casino Management Systems), Bally SMS® (Slot Management Systems)and Bally TMS® (Table Management Systems).

 

We spent approximately 9% of revenue generated fromour Bally Gaming Equipment and Systems segment for the nine months ended March 31,2007 on research and development to accelerate the use of technology in ourgaming products.

 

21

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Our Rainbow Casinois one of four casinos currently operating in the Vicksburg, Mississippi marketand is run through our Casino Operations division. The facility includes a33,000-square foot casino with 845 gaming devices and 10 table games, a224-seat buffet-style restaurant and a 20,000-square foot conference center. TheCasino also includes the 89-room Rainbow Hotel, which is owned andoperated by a third party. Rainbow is marketed as a “locals” casino and drawsmid-level gaming customers principally from within a 75-mile radius ofVicksburg. Our promotions are focused primarily on direct mail and specialpromotional events. A new casino project adjacent to the Rainbow Casino isunder construction and is scheduled to open in July 2008. There may beother new casinos constructed in the Vicksburg market in the future aspreviously existing and new Gulf Coast properties continue to open in theaftermath of the 2005 hurricane season. These properties will provideadditional competition to our business.

 

**Resultsof Operations**

 

Our results of operationsinclude the accounts of Bally Technologies, Inc., and its subsidiaries. Wereport our revenue and income in two segments: the Bally Gaming Equipment andSystems segment, which includes our Gaming Equipment, Gaming Operations andSystems divisions, and our Casino Operations segment. Revenue from our BallyGaming and Systems segment represents approximately 93% of our total revenuesfor the nine months ended March 31, 2007.

 

***Bally Gaming Equipment and Systems***

 

The summary financial results and operatingstatistics for our Bally Gaming Equipment and Systems segment for the three andnine months ended March 31, 2007 and 2006 are as follows:

 

| ** **                          | ** ** | **Three Months Ended March 31,** | ** ** | **Nine Months Ended March 31,** | ** ** |
|-------------------------------------|------------|------------------------------------------------------|------------|-----------------------------------------------------|------------|
| ** **                          | ** ** | **2007**                                             | ** ** | **% Rev**                                      | ** ** | **2006** | ** ** | **% Rev** | ** ** | **2007** | ** ** | **% Rev** | ** ** | **2006** | ** ** | **% Rev** | ** ** |
| Revenues                            |       |                                                 |       |                                                |       |   |   |   |   |   |   |   |   |   |   |   |   |
| Gaming Equipment                    |       | $                                                    | 86.7       |                                                | 53         | % | $ | 63.5 |   | 45 | % | $ | 219.4 |   | 50 | % | $ | 153.7 |   | 44 | % |
| Gaming Operations                   |       | 44.7                                                 |       | 28                                                  | %          | 38.6 |   | 27 | % | 125.8 |   | 28 | % | 110.9 |   | 32 | % |
| Systems                             |       | 30.8                                                 |       | 19                                                  | %          | 38.7 |   | 28 | % | 98.7 |   | 22 | % | 84.3 |   | 24 | % |
| Total revenues                      |       | $                                                    | 162.2      |                                                | 100        | % | $ | 140.8 |   | 100 | % | $ | 443.9 |   | 100 | % | $ | 348.9 |   | 100 | % |
|                                |       |                                                 |       |                                                |       |   |   |   |   |   |   |   |   |   |   |   |   |
| Gross Margin                        |       |                                                 |       |                                                |       |   |   |   |   |   |   |   |   |   |   |   |   |
| Gaming Equipment (1)                |       | $                                                    | 30.6       |                                                | 35         | % | $ | 11.3 |   | 18 | % | $ | 74.8 |   | 34 | % | $ | 32.6 |   | 21 | % |
| Gaming Operations                   |       | 26.1                                                 |       | 58                                                  | %          | 13.5 |   | 35 | % | 72.5 |   | 58 | % | 45.7 |   | 41 | % |
| Systems (1)                         |       | 23.4                                                 |       | 76                                                  | %          | 25.7 |   | 66 | % | 69.3 |   | 70 | % | 62.6 |   | 74 | % |
| Total gross margin                  |       | $                                                    | 80.1       |                                                | 49         | % | $ | 50.5 |   | 36 | % | $ | 216.6 |   | 49 | % | $ | 140.9 |   | 40 | % |
|                                |       |                                                 |       |                                                |       |   |   |   |   |   |   |   |   |   |   |   |   |
| Selling, general and administrative |       | $                                                    | 41.8       |                                                | 26         | % | $ | 37.7 |   | 27 | % | $ | 124.0 |   | 28 | % | $ | 103.6 |   | 30 | % |
| Impairment charges                  |       | —                                               |       | —                                              | %          | 14.0 |   | 10 | % | — |   | — | % | 14.0 |   | 4 | % |
| Research and development costs      |       | 12.5                                                 |       | 8                                                   | %          | 12.2 |   | 9 | % | 38.4 |   | 9 | % | 33.2 |   | 9 | % |
| Depreciation and amortization       |       | 5.2                                                  |       | 3                                                   | %          | 4.9 |   | 3 | % | 13.8 |   | 3 | % | 14.7 |   | 4 | % |
| Operating income (loss)             |       | $                                                    | 20.6       |                                                | 13         | % | $ | (18.3 | ) | (13 | )% | $ | 40.4 |   | 9 | % | $ | (24.6 | ) | (7 | )% |

 

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(1)          GrossMargin from Gaming Equipment and Systems excludes amortization related tocertain intangibles including core technology and license rights, which areincluded in depreciation and amortization.

 

22

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| ** **                               | ** ** | **Three Months Ended  March 31,** | ** ** | **Nine Months Ended  March 31,** | ** ** |
|------------------------------------------|------------|--------------------------------------------------|------------|-------------------------------------------------|------------|
| ** **                               | ** ** | **2007**                                         | ** ** | **2006**                                        | ** ** | **2007** | ** ** | **2006** | ** ** |
| Operating Statistics                     |       |                                             |       |                                            |       |   |   |   |   |
| New gaming devices sold                  |       | 6,032                                            |       | 5,901                                           |       | 14,131 |   | 12,364 |   |
| OEM units sold                           |       | —                                           |       | 324                                             |       | 1,605 |   | 650 |   |
| New unit average selling price           |       | $                                                | 12,984     |                                            | $          | 9,082 |   | $ | 12,628 |   | $ | 9,981 |   |
|                                     |       |                                             |       |                                            |       |   |   |   |   |
| Gaming monitoring units installed base   |       |                                             |       |                                            |       | 289,000 |   | 262,000 |   |
| Casino management systems installed base |       |                                             |       |                                            |       | 575 |   | 525 |   |
| Systems managed cashless games           |       |                                             |       |                                            |       | 237,000 |   | 174,000 |   |
|                                     |       |                                             |       |                                            |       |   |   |   |   |
| End of period installed base:            |       |                                             |       |                                            |       |   |   |   |   |
| Wide-area progressive                    |       |                                             |       |                                            |       | 904 |   | 1,189 |   |
| Local-area progressive                   |       |                                             |       |                                            |       | 485 |   | 648 |   |
| Total linked progressive systems         |       |                                             |       |                                            |       | 1,389 |   | 1,837 |   |
|                                     |       |                                             |       |                                            |       |   |   |   |   |
| Rental and daily-fee games               |       |                                             |       |                                            |       | 5,331 |   | 2,865 |   |
| Lottery systems                          |       |                                             |       |                                            |       | 7,736 |   | 8,023 |   |
| Centrally determined systems             |       |                                             |       |                                            |       | 33,275 |   | 25,627 |   |
|                                          |            |                                                  |            |                                                 |            |  |  |  |  |  |  |  |  |

 

**ThreeMonths Ended March 31, 2007 Compared to Three Months Ended March 31,2006**

 

Total revenues for ourBally Gaming Equipment and Systems segment increased $21.4 million, or 15%, inthe three months ended March 31, 2007, when compared to the same periodlast year, as a result of the following:

 

*GamingEquipment.*Gaming Equipment revenue increased by $23.2million, or 37%, primarily as a result of:

 

•                  An increase in new gaming devicesales to 6,032 units in the three months ended March 31, 2007, when comparedto 5,901 units in the same period last year; and

 

•                  A 43% increase in the Average SellingPrice (“ASP”) of new gaming units, excluding OEM sales, as a result of:

 

•                  Low introductory pricing in the prioryear related to the roll-out of devices based on the ALPHA OS platform;

 

•                  Increased pricing on a number ofproducts during the second quarter of fiscal 2007; and

 

•                  Reduced discounts offered to ourcustomers due to increased acceptance of our products.

 

*GamingEquipment Gross Margin*. Gaming Equipment gross marginincreased to 35% in the three months ended March 31, 2007 from 18%, in thesame period last year, primarily as a result of:

 

•                  A 43% increase in the ASP per unit;

 

•                  A $1.2 million decrease in inventorycharges in the three months ended March 31, 2007, when compared to thesame period last year. Inventory charges were higher in fiscal 2006 as a resultof the decision to move to a single platform and the related disposal oflegacy products and inventory;

 

•                  A $3.6 million increase in parts andconversion kits revenue in the three months ended March 31, 2007 whencompared to the same period last year; and

 

•                  Manufacturing efficiencies due toincreased volumes and lower manufacturing costs.

 

*GamingOperations.*Gaming Operations revenue increased $6.1million, or 16%, primarily as a result of:

 

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•                  An increase of $12.7 million, or 66%,in participation and rental revenue derived from:

 

•                  Our installed base of centrallydetermined games increased 30% from 25,627 units as of March 31, 2006 to33,275 units as of March 31, 2007 primarily due to games added inWashington,  Florida,  Mexico, Texas and Wisconsin;

•                  Our installed base of rental anddaily fee games increased 86% from 2,865 units as of March 31, 2006 to5,331 units as of March 31, 2007. The net change was primarily due to thepopularity of our Hot Shots product line with an installed base of 1,844 unitsat March 31, 2007; and

•                  Our installed based of lottery unitsdecreased 4% from 8,023 units as of March 31, 2006 to 7,736 units as of March 31,2007. The net change was primarily due to additions of units at Yonkers Racewayin New York in late 2006 offset by the removal of 3,580 lottery systems in Iowain May 2006 after a change in the state’s law.

 

•                  A decrease of $4.0 million, or 35%,in content license revenue in the three months ended March 31, 2007 whencompared to the same period last year due to a decrease in lottery licenserevenue due to the removal of lottery systems in Iowa in May 2006 after achange in the state’s law; and

 

•                  A decrease in wide-area progressiverevenue of $2.6 million, or 32%, due to a 24% decrease in the installed base ofgames during the year, from 1,189 units as of March 31, 2006 to 904 unitsas of March 31, 2007. There has been a decrease in our wide-areaprogressive revenue year over year due to the declining popularity of our oldergames.

 

*GamingOperations Gross Margin*. Gross margin increased to 58% in thethree months ended March 31, 2007 from 35%, in the same period last year,primarily as a result of:

 

•                  A decrease in depreciation expense of$5.4 million in the three months ended March 31, 2007 when compared to thesame period last year. A change in fiscal 2006 in the estimated useful life andsalvage values for certain gaming equipment used in the Gaming Operationsdivision resulted in an increase in depreciation expense charged to cost ofgaming operations in the three months ended March 31, 2006; and

 

•                  A decrease of $2.1 million, or 60%,in expenses related to funding the progressive jackpot liability due to thedecrease in the installed base of games and related revenue during the year.

 

*Systems: *Systems revenue decreased $7.9 million,or 20%. During the three month period ended March 31, 2007, we deferred asignificant amount of revenue relating to the Systems division because it didnot meet the criteria for revenue recognition. Deferred revenue at March 31,2007 increased to $107.3 million from $65.5 million at June 30, 2006. Weanticipate that a substantial portion of this deferred revenue will berecognized over the next twelve months.

 

*SystemsGross Margin.*Systems gross margin increased to 76% in thethree months ended March 31, 2007 from 66%, in the same period last year,primarily as a result of a reduction in customer discounts of $1.2 million inthe three months ended March 31, 2007 when compared to the same periodlast year.

 

*Selling,General and Administrative***.**Selling, general and administrative expense increased $4.2 million, or 11%, inthe three months ended March 31, 2007, when compared to same period lastyear, primarily as a result of:

 

•                  An increase in payroll and relatedexpenses of $5.0 million, or 18%, primarily due to increased staffing levels required to manage thebusiness and the increase in revenue. In addition, there was $0.9 million inincreased bonuses and commissions related to improvements in operating results,$0.6 million in increased share-based compensation and restricted stockamortization expense, and $0.4 million in increased severance pay; and

 

•                  A decrease in outside services andtemporary labor of $1.2 million due to the hiring of permanent staff and areduction in the use of outside agencies.

 

*Researchand Development Costs*. Research and development costsincreased 2% year over year as a result of our focus on technology assets andthe competitive landscape that requires a continual investment in futuregenerations of gaming products and systems.

 

24

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*ImpairmentCharges*. During the three months ended March 31, 2006,we recorded impairment charges of $14.0 million primarily related to intangibleassets related to tradenames and other intellectual property that were nolonger recoverable.

 

*Depreciationand Amortization*. Depreciation and amortization expenseincreased 6% in the three months ended March 31, 2007, when compared tosame period last year, primarily as a result of the acceleration ofdepreciation for certain assets during fiscal 2006 some of which became fullydepreciated during the current period.

 

**NineMonths Ended March 31, 2007 Compared to Nine Months Ended March 31,2006**

 

Total revenues for ourBally Gaming Equipment and Systems segment increased $95.0 million, or 27%, inthe nine months ended March 31, 2007, compared to the same period lastyear, as a result of the following:

 

*GamingEquipment.*Gaming Equipment revenue increased by $65.7million, or 43%, primarily as a result of:

 

•                  An increase in new gaming devicesales to 14,131 units in the nine months ended March 31, 2007, as comparedto 12,364 units in the same period last year; and

 

•                  A 27% increase in the ASP of newgaming units, excluding OEM sales, as a result of:

 

•                  Low introductory pricing in the prioryear related to the roll-out of devices based on the ALPHA OS platform;

•                  Increased pricing on a number ofproducts during the second quarter of fiscal 2007; and

•                  Reduced discounts offered to ourcustomers due to increased acceptance of our products.

 

*GamingEquipment Gross Margin*. Gaming Equipment gross marginincreased to 34% in the nine months ended March 31, 2007 from 21%, in thesame period last year, primarily as a result of:

 

•                  A 27% increase in the average sellingprice per unit;

 

•                  A $2.9 million decrease in inventorycharges in the nine months ended March 31, 2007, when compared to the sameperiod last year. Inventory charges were higher in fiscal 2006 as a result ofthe decision to move to a single platform and the related disposal oflegacy products and inventory; and

 

•                  A $8.5 million increase in parts andconversion kits revenue in the nine months ended March 31, 2007 whencompared to the same period last year.

 

*GamingOperations.*Gaming Operations revenue increased $14.9million, or 13%, primarily as a result of:

 

•                  An increase of $29.0 million, or 53%,in participation and rental revenue derived from:

 

•                  Our installed base of centrally determinedgames increased 30% from 25,627 units as of March 31, 2006 to 33,275 unitsas of March 31, 2007 primarily due to games added in Washington,  Florida, Mexico, Texas and Wisconsin;

•                  Our installed base of rental anddaily fee games increased 86% from 2,865 units as of March 31, 2006 to5,331 units as of March 31, 2007. The net change was primarily due to thepopularity of our Hot Shots product line with 1,844 new units installed duringthe period; and

•                  Our installed based of lottery unitsdecreased 4% from 8,023 units as of March 31, 2006 to 7,736 units as of March 31,2007 primarily due to additions of units at Yonkers Raceway in New York in late2006 offset by the removal of 3,580 lottery systems in Iowa in May 2006after a change in the state’s law.

 

•                  A decrease of $5.2 million, or 19%,in content license revenue in the nine months ended March 31, 2007 whencompared to the same period last year due to the removal of lottery systems inIowa in May 2006 after a change in the state’s law; and

 

25

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•                  A decrease in wide-area progressiverevenue of $8.8 million, or 32%, due to a decrease in the installed base ofgames and related revenue during the year. There has been a decrease in ourwide-area progressive revenue year over year due to the declining popularity ofour older games.

 

*GamingOperations Gross Margin*. Gross margin increased to 58% in thenine months ended March 31, 2007 from 41%, in the same period last year,primarily as a result of:

 

•                  A decrease in depreciation expense of$5.7 million in the nine months ended March 31, 2007 when compared to thesame period last year. A change in fiscal 2006 in the estimated useful life andsalvage values for certain gaming equipment used in the Gaming Operations divisionresulted in an increase in depreciation expense charged to cost of gamingoperations in the nine months ended March 31, 2006; and

 

•                  A decrease of $9.3 million, or 70%,in expenses related to funding the progressive jackpot liability due to the decreasein the installed base of games and related revenue during the year, whichdecreased 24%, from 1,189 units as of March 31, 2006 to 904 units as of March 31,2007.

 

*Systems.*Systems revenue increased $14.4 million, or 17%, primarily as a result of:

 

•                  An increase in our gaming monitoringunits installed base by 10% in the nine months ended March 31, 2007, whencompared to the same period last year, and an increase in our systems managedcashless games by 36% in the nine months ended March 31, 2007, whencompared to same period last year; and

 

•                  An increase of $3.4 million, or 16%,to $25.0 million, in systems hardware and software service and maintenancerevenue in the nine months ended March 31, 2007, when compared to the sameperiod last year, which is related to new and renewed contracts with customers.

 

*SystemsGross Margin.*Systems gross margin decreased to 70% in thenine months ended March 31, 2007 from 74% in the same period last year,primarily as a result of an increase in customer discounts of $2.2 million inthe nine months ended March 31, 2007 when compared to the same period lastyear.

 

*Selling,General and Administrative*. Selling, general andadministrative expense increased $20.3 million, or 20%, in the nine monthsended March 31, 2007, when compared to same period last year, primarily asa result of:

 

•                  An increase in payroll and relatedexpenses of $17.0 million, or 22%, primarily due to increased staffing levelsrequired to manage the business and the increase in revenue. In addition, therewas $1.8 million in increased bonuses and commissions related to improvementsin operating results, $1.5 million in increased share-based compensation andrestricted stock amortization expense, and $0.7 million in increased severancepay; and

 

•                  An increase in legal and litigationfees of $2.5 million, or 27%.

 

*Researchand Development Costs*. Research and development costsincreased 16% year over year as a result of our focus on technology assets andthe competitive landscape that requires a continual investment in futuregenerations of gaming products and systems.

 

*ImpairmentCharges*. During the nine months ended March 31, 2006, werecorded impairment charges of $14.0 million primarily related to acquiredintangible assets related to tradenames and other intellectual property thatwere no longer recoverable.

 

*Depreciationand Amortization*. Depreciation and amortization expensedecreased 6% in the nine months ended March 31, 2007, when compared tosame period last year, primarily as a result of the acceleration ofdepreciation for certain assets during fiscal 2006, some of which became fullydepreciated during the current period.

 

26

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***CasinoOperations***

 

Our Rainbow Casino is oneof four casinos currently operating in the Vicksburg, Mississippi market. Ourcasino draws customers primarily from within a 75-mile radius surroundingVicksburg which includes Jackson, Mississippi. While a number of propertieslocated on the Gulf Coast sustained heavy damage during the 2005 hurricaneseason, our casino was not damaged. Although it was temporarily closed, wereopened the property for business within four days of Hurricane Katrina oncepower was restored to the general area. While the play levels at our casinoincreased somewhat during the months following the reopening, the play levelsreturned to a more typical level once some of the other Gulf Coast casinosreopened.

 

The summary of our financial results and operatingstatistics for our Casino Operations is as follows:

 
| ** **                          | ** **                        | **Three Months Ended March 31,** | ** ** | **Nine Months Ended March 31,** | ** ** |
|-------------------------------------|-----------------------------------|------------------------------------------------------|------------|-----------------------------------------------------|------------|
| ** **                          | ** **                        | **2007**                                             | ** ** | **% Rev**                                      | ** ** | **2006** | ** ** | **% Rev** | ** ** | **2007** | ** ** | **% Rev** | ** ** | **2006** | ** ** | **% Rev** | ** ** |
| ** **                          | ** **                        | **(dollars in millions)**                  | ** ** |
| Revenue                             |                              | $                                                    | 13.0       |                                                | 100        | % | $ | 13.8 |   | 100 | % | $ | 36.1 |   | 100 | % | $ | 37.9 |   | 100 | % |
|                                |                              |                                                 |       |                                                |       |   |   |   |   |   |   |   |   |   |   |   |   |
| Selling, general and administrative |                              | $                                                    | 2.1        |                                                | 16         | % | $ | 2.7 |   | 20 | % | $ | 6.7 |   | 19 | % | $ | 7.5 |   | 20 | % |
| Depreciation and amortization       |                              | $                                                    | 0.7        |                                                | 5          | % | $ | 0.9 |   | 7 | % | $ | 2.3 |   | 6 | % | $ | 2.7 |   | 7 | % |
| Operating income                    |                              | $                                                    | 5.5        |                                                | 42         | % | $ | 5.3 |   | 38 | % | $ | 13.5 |   | 37 | % | $ | 13.6 |   | 36 | % |
|                                |                              |                                                 |       |                                                |       |   |   |   |   |   |   |   |   |   |   |   |   |
|                                | Operating  statistics:            |                                                 |       |                                                |       |   |   |   |   |   |   |   |   |   |   |   |
|                                | Average number  of gaming devices |                                                 |       |                                                |       |   | 845 |   |   |   | 893 |   |   |   |
|                                | Average number  of table games    |                                                 |       |                                                |       |   | 10 |   |   |   | 12 |   |   |   |
|                                     |                                   |                                                      |            |                                                     |            |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |

 

**ThreeMonths Ended March 31, 2007 Compared to Three Months Ended March 31,2006**

 

*CasinoOperations**.***Casino Operationsrevenue decreased 6% for the three months ended March 31, 2007 whencompared to the same period last year. During the period, there was a 5%reduction in the average number of gaming devices to 845 in the current periodfrom 893 in the prior period. In order to improve profitability, the Casinoeliminated certain slot machines that had higher rental fees and lower margins,and reduced its table games due to the renovation of its buffet restaurant andthe addition of entrance ramps. Net revenue declined primarily due to there-opening and expansion of the Gulf Coast casinos after the hurricaneseason of 2005.

 

*Selling,General and Administrative*. Selling, general andadministrative expenses decreased by 22% for the three months ended March 31,2007, when compared to the same period last year, as a result of continuedimprovements in cost reductions and decreases in advertising and promotionalexpenditures. Marketing costs decreased with the implementation of e-Cash, asystem where customers download cash incentives directly from the slot machine,reducing the historical costs associated with mailing, tracking and redeemingcash cards and coupons.

 

*Depreciationand Amortization*. Depreciation and amortization expensedecreased 22% for the three months ended March 31, 2007, when compared tothe same period last year, as a result of the decrease in the number of slotmachines and reduced capital expenditures during the period.

 

**NineMonths Ended March 31, 2007 Compared to Nine Months Ended March 31,2006**

 

*CasinoOperations**.***Casino Operationsrevenue decreased 5% for the nine months ended March 31, 2007 whencompared to the same period last year. During the period, there was a 5%reduction in the average number of gaming devices to 845 in the current periodfrom 893 in the prior period. Net revenue declined primarily due to there-opening and expansion of the Gulf Coast casinos after the hurricaneseason of 2005.

 

*Selling,General and Administrative*. Selling, general andadministrative expenses decreased by 11% for the nine months ended March 31,2007, when compared to the same period last year, as a result of continuedimprovements in cost reductions and decreases in advertising and promotionalexpenditures. Marketing costs decreased with the implementation of e-Cash, asystem where customers download cash incentives directly from the slot machine,reducing the historical costs associated with mailing, tracking and redeemingcash cards and coupons.

 

27

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*Depreciationand Amortization*. Depreciation and amortization expensedecreased 15% for the nine months ended March 31, 2007, when compared tothe same period last year, as a result of the decrease in the number of slotmachines and reduced capital expenditures during the period.

 

***ParentCompany***

 

The summary financial results of Bally Technologies, Inc.,our parent entity, are set forth below. These results also include certainother income and expenses that are otherwise not allocated to a specific businesssegment.

 
| ** **                    | ** ** | **Three Months Ended March 31,** | ** ** | **Nine Months Ended March 31,** | ** ** |
|-------------------------------|------------|------------------------------------------------------|------------|-----------------------------------------------------|------------|
| ** **                    | ** ** | **2007**                                             | ** ** | **2006**                                            | ** ** | **2007** | ** ** | **2006** | ** ** |
| ** **                    | ** ** | **(dollars in millions)**                  | ** ** |
| General and administrative    |       | $                                                    | 7.4        |                                                | $          | 7.1 |   | $ | 20.5 |   | $ | 19.8 |   |
| Depreciation and amortization |       | 0.3                                                  |       | 0.3                                                 |       | 1.0 |   | 1.0 |   |
| Total expense                 |       | $                                                    | 7.7        |                                                | $          | 7.4 |   | $ | 21.5 |   | $ | 20.8 |   |
|                          |       |                                                 |       |                                                |       |   |   |   |   |
| Other income (expense)        |       |                                                 |       |                                                |       |   |   |   |   |
| Interest income               |       | $                                                    | 0.7        |                                                | $          | 0.9 |   | $ | 2.0 |   | $ | 2.4 |   |
| Interest expense              |       | (7.7                                                 | )          | (7.1                                                | )          | (25.8 | ) | (20.3 | ) |
| Other, net                    |       | —                                               |       | 0.2                                                 |       | 1.1 |   | (0.2 | ) |
| Total other expense           |       | $                                                    | (7.0       | )                                                   | $          | (6.0 | ) | $ | (22.7 | ) | $ | (18.1 | ) |
|                          |       |                                                 |       |                                                |       |   |   |   |   |
| Income tax benefit (expense)  |       | $                                                    | (4.5       | )                                                   | $          | 9.8 |   | $ | (2.8 | ) | $ | 18.7 |   |
| Minority interest             |       | $                                                    | (0.3       | )                                                   | $          | (0.2 | ) | $ | (3.1 | ) | $ | (2.8 | ) |

 

**ThreeMonths Ended March 31, 2007 Compared to Three Months Ended March 31,2006**

 

*Generaland Administrative.*General and administrative expenseincreased $0.3 million, or 4%, in the three months ended March 31, 2007,when compared to the same period last year, primarily as a result of:

 

•                  An increase in accounting fees of$1.1 million in the three months ended March 31, 2007, when compared tothe same period last year, due to additional review work required while theCompany strives to become current with its public filings.

 

•                  A decrease in consulting fees of $0.4million in the three months ended March 31, 2007, when compared to thesame period last year, due to the completion of certain projects during fiscal2006.

 

*Depreciationand amortization**.***Depreciationand amortization expense was comparable during the three months ended March 31,2007, to the same period last year.

 

*OtherIncome (Expense).*Other expense increased $1.0 million, or16%, in the three months ended March 31, 2007, when compared to the sameperiod last year, primarily as a result of an increase in interest expense dueto higher rates on notes outstanding. Virtually all of our debt is based on avariable interest rate, therefore, future interest rate expense will beimpacted by changes in LIBOR, which is the base rate for the majority of ourinterest payments. In addition, there was $0.1 million in administrative feespaid for concessions granted for an additional amendment to the loan agreementin March 2007.

 

*MinorityInterest.*Minority interest increased primarily due to theconsolidation of certain variable interest entities and earnings from thepartnership interest in Rainbow Casino. We consolidate the Rainbow CasinoVicksburg Partnership ("RCVP") and record an adjustment to reflectthe portion of RCVP's earnings attributable to minority shareholders. See Note1 to the unaudited condensed consolidated financial statements, Basis ofPresentation.

 

**NineMonths Ended March 31, 2007 Compared to Nine Months Ended March 31,2006**

 

*Generaland Administrative.*General and administrative expenseincreased $0.7 million, or 3%, in the nine months ended March 31, 2007,when compared to the same period last year, primarily as a result of:

 

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•                  An increase in accrued bonuses of$2.3 million in nine months ended March 31, 2007, when compared to thesame period last year due to improvements in revenue and operating income whichincreased during the same periods.

 

•                  An increase in accounting fees of$0.7 million in the nine months ended March 31, 2007, when compared to thesame period last year, due to additional review work required while the Companystrives to become current with its public filings.

 

•                  A decrease in consulting fees of $0.8million in the nine months ended March 31, 2007, when compared to the sameperiod last year, due to the completion of certain projects during fiscal 2006.

 

*Depreciationand amortization**.***Depreciationand amortization expense was comparable during the nine months ended March 31,2007, to the same period last year.

 

*OtherIncome (Expense).*Other expense increased $4.6 million, or 25%,in the nine months ended March 31, 2007, when compared to the same periodlast year, primarily as a result of an increase in interest expense due tohigher rates on notes outstanding and $2.3 million in administrative feesincurred upon the amendments of the Loan Agreement. Virtually all of our debtis based on a variable interest rate, therefore, future interest rate expensewill be impacted by changes in LIBOR, which is the base rate for the majorityof our interest payments.

 

*Incometax (expense) benefit.*The effective income tax rate for thenine months ended March 31, 2007 was approximately 29% based on the actualeffective tax rate for the year ended June 30, 2007. The effective taxrate for the current year will be impacted by non-deductible share basedcompensation expense recognized for book purposes and approximately $1.1million in income tax credits related to the retroactive reinstatement in December 2005of research and development tax credits.

 

*MinorityInterest.*Minority interest increased primarily due to theconsolidation of certain variable interest entities and earnings from thepartnership interest in Rainbow Casino. We consolidate RCVP and record anadjustment to reflect the portion of RCVP's earnings attributable to minorityshareholders. See Note 1 to the unaudited condensed consolidated financialstatements, Basis of Presentation.

 

**FinancialCondition**

 

Selected balance sheetaccounts are as follows:

 
| ** **                              | ** ** | **March 31,** | ** ** | **June 30,** | ** ** | **Increase (decrease)** | ** ** |
|-----------------------------------------|------------|--------------------|------------|-------------------|------------|-------------------------|------------|
| ** **                              | ** ** | **2007**           | ** ** | **2006**          | ** ** | **Amount**              | ** ** | **%** | ** ** |
| ** **                              | ** ** | **(in 000s)** | ** ** |
| Cash and cash equivalents               |       | $                  | 15,227     |              | $          | 16,425                  |       | $ | (1,198 | ) | (7 | )% |
|                                    |       |               |       |              |       |                    |       |   |   |
| Total long-term debt and capital leases |       | $                  | 343,462    |              | $          | 328,346                 |       | $ | 15,116 |   | 5 | % |
|                                    |       |               |       |              |       |                    |       |   |   |
| Total current assets                    |       | $                  | 360,601    |              | $          | 329,354                 |       | $ | 31,247 |   | 9 | % |
| Total current liabilities               |       | $                  | 219,251    |              | $          | 198,837                 |       | $ | 20,414 |   | 10 | % |
| Net working capital                     |       | $                  | 141,350    |              | $          | 130,517                 |       | $ | 10,833 |   | 8 | % |

 

As of March 31, 2007, we had $15.2 million inconsolidated cash and cash equivalents which included approximately $3.9million of cash utilized in our Casino Operations segment that is held invaults, cages or change banks. Pursuant to various state gaming regulations,certain cash accounts are maintained to ensure availability of funds to paywide-area progressive jackpot awards. At March 31, 2007, these accountshad an aggregate value of approximately $16.6 million, which are classified asrestricted cash on our condensed consolidated balance sheet. In addition, wepurchase U.S. Treasury Strip Securities for the benefit of jackpot winners whoelect to receive winnings as annual or weekly installment payments rather thanone lump sum. These securities are included in restricted long-term investmentsin the accompanying condensed consolidated balance sheet, and totaled $13.5million as of March 31, 2007.

 

Our net working capital increased $10.8 million forthe nine months ended March 31, 2007. Key factors related to the workingcapital increase included a $15.9 million net increase in accounts and notesreceivable and a $13.0 million increase in deferred cost of revenue offset by a$29.9 million increase in deferred revenue due to the timing of revenuerecognition and receipts of customer payments. Other factors include a $16.2million decrease in accounts payable and

 

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accrued liabilities due to increases in payments tovendors due to improvements in cash flows, offset by a $6.4 million increase incurrent maturities of long-term debt and capital leases due to the addition ofcapital lease obligations.

 

Our debt structure consists primarily of a term loanfacility and a $75.0 million revolving credit facility, which is limited by acurrent leverage ratio, and debt owed to related parties. The term loanrequires principal reductions of approximately 1% per annum paid quarterly,with a balloon payment due in September 2009. The revolving creditfacility commitment reduces annually until it comes due in September 2008.There was $5.0 million outstanding under our revolving credit facility as of March 31,2007.

 

The bank loan agreement governing the term loan andthe revolving credit facility (the “Loan Agreement”) contains a number ofmaintenance and other significant covenants that, among other things, restrictour ability to dispose of assets, incur additional indebtedness or issuepreferred stock, pay dividends or make other distributions, enter into certainacquisitions, repurchase equity interests or subordinated indebtedness, issueor sell equity interests of the our subsidiaries, engage in mergers oracquisitions or certain transactions with subsidiaries and affiliates, and thatotherwise restrict corporate activities.

 

The financial covenants under the Loan Agreementconsist of a leverage ratio, a fixed charges coverage ratio, and a minimum ofEarnings Before Interest, Taxes, Depreciation and Amortization (“EBITDA”) (asthat term is defined in the Loan Agreement) ratio. The leverage ratio iscomputed as total average debt outstanding during the quarter divided by thetrailing 12 months EBITDA, excluding certain cash and non-cash charges, and isfurther adjusted to remove EBITDA from discontinued operations at the timethose operations are sold. Our leverage ratio as of March 31, 2007 was3.01 times versus the covenant maximum of 3.75 times. The maximum allowable leverageratio declined to 3.50 as of September 30, 2007, through the remaining term ofthe Loan Agreement. We were in compliance with all financial covenants as of March 31,2007.

 

As a result of theadditional time required to complete the year end closing process for fiscal2007, we failed to deliver to our lenders our 2007 audited financial statementsby September 28, 2007, and therefore, were not in compliance with certainof our debt covenants under the Loan Agreement. The Loan Agreement provides fora 25-business day grace period to cure the default which was cured bydelivering our 2007 audited financial statements simultaneously with the filingof its 2007 Form-10K within the grace period.

 

In October 2006, we executed an amendment to theLoan Agreement, which, among other things, (i) extended the due datefor the  delivery of our audited financial statements for thefiscal year ended June 30, 2006 to December 31, 2006, (ii) providedthat we deliver our quarterly reports on Form 10-Q for the fiscal quartersended September 30, 2005, December 31, 2005 and March 31, 2006no later than December 31, 2006, (iii) modified the definition ofEBITDA to exclude up to $10 million of certain cash charges and (iv) clarifiedthat the definition of EBITDA includes interest income on tradereceivables. In exchange for the concessions granted under the amendment, wepaid an administrative fee of $964,000, which was expensed in the quarter endedDecember 31, 2006.

 

In December 2006, weexecuted an additional amendment to the Loan Agreement, which extended the duedate for the  delivery of our quarterly report on Form 10-Q for thefiscal quarter ended March 31, 2006 and our audited financialstatements for the fiscal year ended June 30, 2006 to March 15,2007. In exchange for the concessions granted under the amendment we paid anadministrative fee of $1.2 million, which was expensed in the quarter ended December 31,2006.

 

In March 2007, weexecuted an additional amendment to the Loan Agreement, which (i) increasedthe average effective amount limit of all outstanding letters of credit from$20.0 million to $35.0 million, (ii) increased the average effectiveamount limit of all indebtedness and contingent obligations with respect toperformance bonds from $20.0 million to $35.0 million, and (iii) permittedliens on cash equivalents securing indebtedness. In exchange for theconcessions granted under the amendment, we paid an administrative fee of $0.1million, which was expensed in the quarter ended March 31, 2007.

 

Management believes that cash flows from currentoperating activities and the availability under the revolving credit facilitywill provide us with sufficient capital resources and liquidity to operate ourbusiness for at least the next 12 months. At March 31, 2007, we had nomaterial future commitments for capital expenditures.

 

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***CashFlow Summary***

 

Cash flows from operating activities are derivedprimarily from the cash receipts from the sale of gaming equipment and systems,the operation of wide-area progressive systems, daily fee and lease payments,and monthly cash receipts from maintenance agreements from our casino systemscustomers. In addition, we generate cash through our casino operations. Weutilize our cash to acquire materials for the manufacture of goods for resaleor lease, to pay payroll and selling, general and administrative expenses, aswell as to service our debt.

 

Cash flows from operating activities decreased $21.8million in the nine months ended March 31, 2007 as compared to the sameperiod last year. The 2007 decrease in cash flows provided by operatingactivities was primarily the result of an increase in inventory and a decreasein inventory and other asset write-downs during the same period.

 

Cash used for the purchase of inventory, which isincluded in cash flows from operating activities, was $67.6 million in the ninemonths ended March 31, 2007 as compared to $26.1 million in the same periodlast year. We only have one process to procure raw materials for the assembly ofboth inventory and leased gaming equipment. The materials requisition planningprocess considers the number of devices we expect to build for sale and for usein our gaming operations division during a particular period, but we do notseparately earmark purchases for leased gaming equipment. Without such anearmarking process, we are unable to determine whether the cash expended toconstruct leased gaming equipment during a particular period came frominventory on hand at the beginning of the period or was constructed frominventory procured during the period of deployment, thus requiring theexpenditure of cash. As a result of our inability to separately identify thecash flows associated with the construction of leased gaming equipment, we haveincluded all additions to leased gaming equipment as a change in inventoryunder cash used in operating activities. During the nine months ended March 31,2007 we transferred $49.0 million from inventory to leased gaming equipmentcompared to $26.3 million in the same period last year.

 

Cash flows used ininvesting activities totaled $20.6 million in the nine months ended March 31,2007 as compared to $13.4 million in the same period last year primarily as aresult of:

 

•                  Capital expenditures of $15.2 millionin the nine months ended March 31, 2007 as compared to $10.3 million inthe same period last year;

•                  Reductions in restricted cash andinvestments of $2.1 million in the nine months ended March 31, 2007 ascompared to $0.6 million in same period last year; and

•                  Additions to other long-term assetsof $3.3 million in the nine months ended March 31, 2007 as compared to$2.5 million in the same period last year.

 

Cash provided byfinancing activities totaled $25.3 million in the nine months ended March 31,2007 as compared to cash used in financing activities of $6.8 million in sameperiod last year as a result of:

 

•                  Principal payments on capital leasesand other long term debt of $9.9 million in the nine months ended March 31,2007 as compared to $7.1 million in the same period last year;

•                  Cash provided from exercise of stockoptions and warrants of $7.4 million the nine months ended March 31, 2007as compared to $0.3 million in the same period last year;

•                  Cash proceeds from the sale andlease-back of certain equipment for Yonkers Raceway of $22.3 million during thenine months ended March 31, 2007; and

•                  Net borrowing on the Company’s lineof credit of $5.0 million consisting of $15.0 million in proceeds offset by$10.0 million in payments during the third quarter of fiscal 2007.

 

***ContractualCommitments***

 

During the nine monthsended March 31, 2007, we entered into a capital leases for certainequipment used in our Gaming Operations for approximately $20.7 million. Basedon different installation dates over a four month period, three separatepayment streams of thirty-six equal installments were created with an aggregatemonthly payment of approximately $655,000 at an average interest rate of 9.11%.

 

**CriticalAccounting Policies**

 

A description of ourcritical accounting policies can be found within management discussion andanalysis of financial condition and results of operation in the Form 10-Kfor the year ended June 30, 2006. There were no material changes to thosepolicies during the three and nine months ended March 31, 2007.

 

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***RecentlyIssued Accounting Pronouncements***

 

In February 2007,the FASB issued SFAS No. 159, *The Fair Value Option forFinancial Assets and Financial Liabilities*. SFAS No.159 providescompanies with an option to report selected financial assets and liabilities atfair value. It also establishes presentation and disclosure requirements tofacilitate comparisons between companies using different measurement attributesfor similar types of assets and liabilities. The statement is effective forfiscal years beginning after November 15, 2007 and accordingly, we expectto adopt SFAS No. 159 beginning in fiscal 2009. Earlier application ispermitted provided the Company also applies the provisions of Statement 157, *Fair Value Measurements*. The Company is currently in theprocess of evaluating the impact SFAS No. 159 will have on ourconsolidated results of operations, financial position and cash flows.

 

In September 2006,the FASB issued SFAS No. 157, *Fair Value Measurements*,which defines fair value, establishes a framework for measuring fair value ingenerally accepted accounting principles, and expands disclosures about fairvalue measurements. SFAS No. 157 does not require any new fair valuemeasurements, rather it applies to existing accounting pronouncements thatrequire or permit fair value measurements. SFAS No. 157 is effective forfiscal years beginning after November 15, 2007, and accordingly, theCompany expects to adopt SFAS No. 157 beginning in fiscal 2009. TheCompany is currently evaluating the impact SFAS No. 157 will have on theconsolidated results of operations, financial position and cash flows.

 

In September 2006,the SEC issued SAB No. 108, *Considering the Effects ofPrior Year Misstatements when Quantifying Misstatements in Current YearFinancial Statements*, providing guidance on how prior yearmisstatements should be taken into consideration when quantifying misstatementsin current year financial statements for purposes of determining whether thecurrent year’s financial statements are materially misstated. The provisions ofSAB No. 108 were effective beginning with our fiscal year ending June 30,2007.

 

In July 2006, theFASB issued FIN 48, *Accounting forUncertainty in Income Taxes, an interpretation of FASB Statement No. 109**, Accounting for IncomeTaxes*, which creates a single model to address uncertainty in incometax positions and prescribes the minimum recognition threshold a tax positionis required to meet before being recognized in the financial statements. Italso provides guidance on derecognition, measurement, classification, interestand penalties, accounting in interim periods, disclosure and transition. FIN 48is effective for fiscal years beginning after December 15, 2006, andaccordingly, the Company will adopt FIN 48 beginning in fiscal 2008. TheCompany is currently evaluating the impact FIN 48 will have on the consolidatedresults of operations, financial position and cash flows.

 

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**ITEM 3.****     QUANTITATIVE AND QUALITATIVEDISCLOSURES ABOUT MARKET RISK**

 

*Interest Rate Risk*

 

As of March 31, 2007, we had total debtoutstanding of approximately $343.5 million, consisting primarily of the $308.8million term loan under our senior credit facilities, $5.0 million under ourrevolving line of credit facility, $11.4 million in related party debt and$18.3 million in capital lease obligations. The interest rate for the term loanis variable, based on LIBOR, and resets every six months. Approximately $8.4million of related party debt is variable and is based on LIBOR. If the LIBORrates were to increase or decrease by 100 basis points, with all other factorsremaining constant, earnings would decrease or increase by approximately $3.4million annually, on a pre-tax basis.

 

*ForeignCurrency Exchange Rate Risk*

 

Our foreign subsidiariesgenerally use their domestic currency as their functional currency. A 10%fluctuation in the exchange rates of these currencies against the U.S. dollarwould result in a corresponding change in earnings reported in the consolidatedgroup of approximately $0.4 million.

 

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# **ITEM4.**     CONTROLS ANDPROCEDURES

# ** **

**Disclosure Controls and Procedures**

 

Asrequired by Rule 13a-15(b) promulgated under the Exchange Act, ourmanagement, with the participation of our Chief Executive Officer and ChiefFinancial Officer, evaluated the effectiveness of the design and operation ofour disclosure controls and procedures, as defined in Exchange Act Rule 13a-15(e),as of the end of the period covered by this report. Based on this evaluation,our Chief Executive Officer and Chief Financial Officer concluded that, as of March 31,2007, our disclosure controls and procedures were not effective due to theexisting material weaknesses in our internal control over financial reportingpreviously identified and discussed in our Annual Report on Form 10-K forthe fiscal year ended June 30, 2006 and below under “—Internal ControlOver Financial Reporting —Material Weakness in Internal Control Over FinancialReporting Previously Reported.”

 

Inview of the fact that the financial information presented in this quarterlyreport on Form 10-Q for the fiscal quarter ended March 31, 2007, wasprepared in the absence of effective internal control over financial reporting,we have devoted a significant amount of time and resources to the analysis ofthe financial statements contained in this report. In particular, we have reviewedthe significant account balances and transactions reflected in the financialstatements contained in this report and otherwise analyzed the transactionsunderlying our financial statements to verify the accuracy of the financialstatements. Accordingly, management believes that the financial statementsincluded in this report fairly present, in all material respects, our financialcondition, results of operations, and cash flows.

 

Nevertheless,there can be no assurance that either this review process or our existingdisclosure controls and procedures will prevent or detect all errors and allfraud, if any, or result in accurate and reliable disclosure. A control systemcan provide only reasonable and not absolute assurance that the objectives ofthe control system are met. Because of the inherent limitations in all controlsystems, no evaluation of controls can provide absolute assurance that allcontrol issues and instances of fraud, if any, have been detected.Additionally, judgments in decision-making can be faulty and breakdowns incontrols can occur because of simple errors or mistakes that are not detectedon a timely basis.

 

**Internal Control Over Financial Reporting**

 

Ourmanagement acknowledges its responsibility for establishing and maintaining adequateinternal control over financial reporting that includes effective accountingpolicies and procedures. Our continuing progress in establishing adequateinternal control over financial reporting is described below.

 

*Certain Changes in InternalControl Over Financial Reporting during the Fiscal Quarter Ended March 31,2007*

 

Duringthe quarter ended March 31, 2007, management continued its remediationsteps to address the previously reported material weaknesses known at that timeand discussed in greater detail below. These remediation steps were developedthrough investigation and review of the processes and activities surroundingthe material weaknesses and include changes to these processes and thedevelopment of test and review programs designed to prevent or detect similarfuture occurrences. This remediation effort continued through the fourthquarter of the fiscal year ended June 30, 2007 and accordingly there were nosignificant changes to the previously reported material weaknesses as of March31, 2007. During the second half of the fiscal year ended June 30, 2007 the Companyalso identified an additional material weakness pertaining to insufficientresources to adequately perform analytical procedures as more fully describedbelow. There were no other changes to our internal control over financialreporting during the three months ended March 31, 2007 that managementbelieves have materially affected, or are reasonably likely to materiallyaffect, our internal control over financial reporting.

 

*MaterialWeakness in Internal Control Over Financial Reporting Previously Reported*

 

**Ineffectivecontrols related to the financial closing process.** In August 2006,upon discovery that certain transactions were improperly recorded we determinedit was necessary to restate our consolidated financial statements as of June 30,2005 and 2004, and for each of the three years in the period ending June 30,2005. This restatement was not completed until our Annual Report on Form 10-K/Afor the fiscal year ended June 30, 2005 was filed on October 31, 2006.  These closing procedures did not include the designed level ofdocumentation review. Consequently, we used abbreviated financial closingprocedures for fiscal 2006 which are not sustainable in our normal financialreporting process as they include significant manual procedures and look backprocedures. Additionally, our designed controls over the preparation, reviewand support of journal entries did not operate effectively. We also did not perform thedesigned level of analytical procedures on the financial statements ofnon-corporate operations.

 

During the third quarterof the fiscal year ended June 30, 2007, we begun the process of revalidatingthe description and responsibilities for all closing controls and enhancing ourcontrols over journal entry review, balance sheet reconciliations and closingchecklists.

 

**Insufficient personnel resources to adequatelyperform analytical review procedures.** The Company did nothave sufficient qualified personnel to adequately analyze revenue andexpenditure activities for proper classification of amounts in the consolidatedstatements of operations and statements of cash flows. This resulted in: (i)certain charges originally classified as selling, general and administrative expensesbeing restated to reflect an increase to cost of sales or reduction of revenue;(ii) certain gaming operations transactions being reclassified betweeninvesting and operating activities in the consolidated statements of cashflows; and (iii) certain revenue and operating income (loss) amounts previouslypresented under the United States in the segment and geographic footnotedisclosure being reclassified to Europe or Other foreign regions. Theseadjustments resulted in the restatement of prior consolidated financialstatements.

 

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**Ineffective control related to fraud risk assessment.**We concluded that the overalloperating effectiveness of our fraud risk assessment did not operate asdesigned primarily due to delays in our financial closing process as describedabove.

 

**Inadequateand ineffective control related to revenue recognition, including gamingoperations revenue recognition and the associated existence of fixed assetmachines, system sales revenue recognition and the processing of customercredits.**We did not have appropriate and/or effectiveinternal controls related to the recognition of revenue for gaming operations,including the lack of comprehensive controls to adequately capture and analyze:(i) the terms and conditions of all contracts to ensure the properrecording of revenue; (ii) the accuracy of authorized daily fees andrevenue share percentages; (iii) the security and electronic transmissionto and from our network operating center(s) and its subsequent documentationand backup; and (iv) the existence of the related fixed asset machines.

 

We did not have effectiveinternal control related to the recognition of revenue for system salespertaining to (i) the review of terms and conditions on contract upgradesand change orders to ensure proper recording of revenue and (ii) theaccuracy and authorization of billing amounts for upgrades, change orders andmaintenance fees.

 

We also did not haveeffective internal control related to the recognition of revenue pertaining tothe complete and timely recording of credit memos resulting from customerreturns or allowances.

 

During the third quarterof the fiscal year ended June 30, 2007, we began the redesign of our gamingoperations control structure to reconcile changes in periodic billings back tocontract amounts, terms and conditions and to tie all units billed back to ourfixed asset subsidiary ledger. We also began the enhancement of our process forperforming analytical reviews of fluctuations in periodic billings. 

 

**Ineffectivecontrol related to the existence and valuation of inventory.**We identified several deficiencies related to the existence and valuation ofinventory, including those related to: (i) year-end adjustments to our rawmaterials balance due to ineffective periodic counting procedures, inadequatephysical safeguards and inadequate control over transaction processing; (ii) therestocking of excess inventory pulled for work orders which was not alwaysproperly identified and/or removed from the related bill of materials; (iii) costsassociated with the creation of new kits and assemblies that were noteffectively calculated and monitored resulting in incorrect valuation ofinventories; (iv) lack of adequate review and analysis of certaininventory variances between the perpetual records and the general ledger; and (v) determiningallowances for obsolete inventory.

 

During the third quarterof the fiscal year ended June 30, 2007, we began the process of enhancing ourcontrol structure over safeguarding inventory and determining allowances forobsolete inventory.

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**PART II**

 

# **ITEM1.**     LEGAL PROCEEDINGS

# ** **

***Litigation***

 

In June and July 2004,putative class actions were filed against the Company and its officers,Robert Miodunski, Robert Saxton, Mark Lerner and Steven Des Champs, in theUnited States District Court for the District of Nevada. The nearly identicalcomplaints alleged violations of the Securities Exchange Act of 1934, as amended(the “Exchange Act”), stemming from revised earnings guidance, declines in thestock price and sales of stock by insiders. The complaints sought damages inunspecified amounts. The Federal District Court granted the plaintiffs’unopposed motions to consolidate the cases and to appoint a lead counsel and alead plaintiff, and the plaintiffs filed a consolidated complaint, all as iscustomary in such cases. The Company and the other defendants moved to dismissthe complaint. Thereafter, activity in the case was stopped and the partiesparticipated in a mediation process during which the parties agreed on theterms of a settlement. The parties have negotiated and executed settlementdocuments settling both the consolidated class action and the derivativecase discussed below. Under the settlement an aggregate of $16.0 million incash, plus certain interest, was paid to settle the securities class actionas well as the derivative litigation as discussed below. The Company accrued$1.25 million related to the settlement during the year ended June 30,2006, which was paid in late February 2007. In addition to certaingovernance actions the Company has agreed to undertake in connection with thesettlement the Company’s directors and officers insurer contributed approximately$14.75 million to the settlement. The court approved the settlement on August 9,2007, ending the case.

 

InJuly 2004, two derivative lawsuits were filed in Nevada state courtagainst the members of the board of directors and the officers listed above.The Company was named as a nominal defendant in the derivative lawsuits as theclaims were purportedly asserted for the benefit of Bally Technologies, Inc.These lawsuits asserted claims for breach of fiduciary duty and waste ofcorporate assets arising out of the same events as those giving rise to the class actionsdescribed above, and sought injunctive relief and damages in unspecifiedamounts. These two cases were consolidated, and the Company and the otherdefendants moved to dismiss the case. In February 2005, the state districtcourt granted the defendants’ motion and dismissed the case. The plaintiffsappealed the dismissal to the Nevada Supreme Court, which referred the matterto its settlement conference program. The parties met with a court-appointedsettlement judge on December 15, 2005, and agreed to settle the case for$8,000, and on February 2, 2006, the Nevada Supreme Court entered itsorder dismissing the appeal and ending the case.

 

OnMarch 27, 2006, shortly after the aforementioned derivative suit wasdismissed in the Nevada state court, another derivative lawsuit was filed inthe United States District Court for the District of Nevada against individualdefendants Robert Miodunski, Robert Saxton, Steven Des Champs, Mark Lerner, DavidRobbins, Anthony DiCesare, Joel Kirschbaum, Kevin Verner, Richard Haddrill,Stephen Race, Jacques André and nominal defendant Bally Technologies, Inc.Based on factual allegations that are similar to those alleged in the federalsecurities class action complaints and the previous derivative actionsthat were dismissed by the District Court, the derivative complaint allegedbreach of fiduciary duty, abuse of control, gross mismanagement, waste ofcorporate assets, unjust enrichment and violation of the Sarbanes-Oxley Act of2002. The parties reached a settlement as discussed more fully above. The courtapproved the settlement on June 22, 2007, ending the case.

 

In February 2005,the SEC initiated an informal inquiry and requested documents and informationregarding matters related to the allegations in the class actions andsimilar matters. In August 2005, the SEC notified the Company that itsinvestigation had entered a formal phase, and requested additional informationfrom the Company covering the same general areas that were addressed in theinformal inquiry. Management is cooperating fully with the SEC in this matter.

 

In August 2004,Shuffle Master sued the Company in the United States District Court for theDistrict of Nevada, alleging infringement of various patents in connection withthe Company’s MindPlay product line and seeking injunctive relief and damagesin an unspecified amount. In June 2005, it was announced that IGT hadacquired an interest in the patents at issue in the case, and thereafter IGTjoined the case as a plaintiff. In December 2005, the DistrictCourt issued a ruling construing the claim terms of all the patents in thesuit. A hearing on the parties’

 

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dispositive motions isset for December 2007. Management believes the plaintiffs’ lawsuit to bewithout merit, and the Company is vigorously defending against the lawsuit.

 

In September 2004,a United States District Court jury in the District of Nevada entered a $7.4million verdict against the Company in a suit filed by Action Gaming (“AGI”)and IGT. The suit alleged that the multi-hand video poker game deployed by theCompany’s former subsidiary, United Coin, infringed the plaintiffs’ patents.The Federal District Court ruled on summary judgment that the game did notinfringe the patents. However, the court left to the jury the question whetherthe use of “autohold,” a specific, optional feature of the game, caused it toinfringe under the “doctrine of equivalents,” a doctrine of patent law. Thejury determined that the game with the autohold option enabled did infringeunder the doctrine of equivalents and awarded damages accordingly. The featurehas been disabled on all affected games in the field, and the decision permitscontinued deployment of the game as long as the autohold feature is notincluded. The Company appealed the decision to the United States Court ofAppeals for the Ninth Circuit and posted a cash bond totaling $7.6 million tostay payment of the judgment and accrued interest pending the appeal. On July 11,2006, the federal circuit court of appeals affirmed the district courtjudgment, denying the appeals for both parties, and thereafter, the judgmentwas satisfied out of the posted bond.

 

On December 7, 2004,IGT filed a patent infringement lawsuit against the Company in the UnitedStates District Court for the District of Nevada. The complaint asserts thatthe Company’s wheel-based games, such as Monte CarloÔ,Lucky WheelÔ and Cash For LifeÔ,its games with a reel in the top box, such as Bonus FrenzyÔ,and its iVIEWÔ products infringe on patents held by IGT, andseeks injunctive relief and damages in unspecified amounts. The Companybelieves IGT’s claims are without merit and is vigorously defending itselfagainst the lawsuit. As part of its defense, the Company has assertedcounterclaims against IGT, including claims that IGT’s patents are invalid,unenforceable and not infringed, as well as several claims that IGT hasengaged in anti-competitive conduct in violation of state and federal antitrustlaws. By its counterclaims, the Company is seeking damages and other relieffrom IGT. IGT’s motion to dismiss the Company’s antitrust claims wasdenied in January 2006, and in March 2007, the court denied IGT’smotions for summary judgment with respect to the antitrust claims dealing withthe wheel game market. The court issued claims construction rulings in May 2007.Trial is tentatively scheduled for May 2008.

 

In September 2006,the Company filed a patent infringement lawsuit against IGT in the UnitedStates District Court for the District of Nevada. The complaint asserts thatcertain of IGT’s bonus wheel games infringe patents held by the Company, andseeks injunctive relief and damages. IGT filed an answer generally denying theclaims. The case is in the discovery phase and no trial date has been set.

 

In May 2006, IGTfiled a patent infringement lawsuit against the Company in the United StatesDistrict Court for the District of Delaware. The complaint asserts that theCompany’s Bally Power BonusingÔproducts infringe patents held by IGT, and seeks injunctive relief and damagesin unspecified amounts. The court took IGT’s motion for a preliminaryinjunction off-calendar and set a November 2008 trial date. The Companybelieves IGT’s claims, including its request for preliminary relief, arewithout merit and is vigorously defending itself against the lawsuit.

 

The Company is also aparty to various lawsuits relating to routine matters incidental to ourbusiness. Management does not believe that the outcome of such litigation,including the matters above, in the aggregate, will have a material adverseeffect on our consolidated financial position, results of operations or cashflows.

 

**ITEM 1A.****                                           ****RISK FACTORS**

 

The Company is subject to risks and uncertaintiesthat could cause our actual results to differ materially from the expectationsexpressed in the forward-looking statements. Factors that could cause ouractual results to differ from expectations are described under “Item 1A. RiskFactors” in our Annual report on Form 10-K for the year ended June 30,2006, to which there were no material changes during the period covered by thisQuarterly Report on Form 10-Q.

 

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**ITEM 6.****    ****EXHIBITS**

 
| **Exhibits** | ** ** | **Description**                                                                                                                                                 |
|--------------|------------|-----------------------------------------------------------------------------------------------------------------------------------------------------------------|
|         |       |                                                                                                                                                            |
| 31.1         |       | Certification of  Chief Executive Officer, pursuant to Rule 13a-14(a) of the  Securities Exchange Act of 1934, as amended.                            |
|         |       |                                                                                                                                                            |
| 31.2         |       | Certification of  Chief Financial Officer, pursuant to Rule 13a-14(a) of the  Securities Exchange Act of 1934, as amended.                            |
|         |       |                                                                                                                                                            |
| 32.1         |       | Certification of  Chief Executive Officer, pursuant to 18 U.S.C. Section 1350, as adopted  pursuant to section 906 of the Sarbanes-Oxley Act of 2002. |
|         |       |                                                                                                                                                            |
| 32.2         |       | Certification of  Chief Financial Officer, pursuant to 18 U.S.C. Section 1350, as adopted  pursuant to section 906 of the Sarbanes-Oxley Act of 2002. |

 

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**SIGNATURES**

 

Pursuant to therequirements of the Securities Exchange Act of 1934, the registrant has dulycaused this report to be signed on its behalf by the undersigned thereunto dulyauthorized.

 
| BALLY  TECHNOLOGIES, INC. | Date: November 2,  2007                                     |
|--------------------------------|------------------------------------------------------------------|
|                           |                                                             |
|                           |                                                             |
| By                             | /s/Richard  Haddrill                                             |   |   |
|                           | Richard Haddrill                                                 |   |
|                           | President and  Chief Executive Officer                           |   |
|                           | (Principal  Executive Officer)                                   |   |
|                           |                                                             |   |
|                           |                                                             |   |
| By                             | /s/Robert C.  Caller                                             |   |   |
|                           | Robert C. Caller                                                 |   |
|                           | Executive Vice  President, Chief Financial Officer and Treasurer |
|                           | (Principal  Financial and Accounting Officer)                    |   |

 

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