Tableof Contents

 

 

 

**UNITEDSTATES**

**SECURITIESAND EXCHANGE COMMISSION**

**Washington, D.C. 20549**

 

**FORM ****10-K**

** **
| **x**                                                 | **ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE  SECURITIES EXCHANGE ACT OF 1934** |
|-------------------------------------------------------|-----------------------------------------------------------------------------------------------------|
|                                                  |
| **For  the fiscal year ended December 31, 2008** |
|                                                  |
| **or**                                                |
|                                                  |
| **o**                                                 | **TRANSITION  REPORT UNDER SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF  1934**  |

 

**Forthe transition period from                    to                    **

 

**Commissionfile number: 000-25855**

 

**ElixirGaming Technologies, Inc.**

(Name ofregistrant as specified in its charter)

** **

| **Nevada**                                                        | ** ** | **91-1696010**                         |
|-------------------------------------------------------------------|------------|----------------------------------------|
| (State or other  jurisdiction of

incorporation or  organization) |       | (I.R.S. Employer

Identification  No.) |

 

**6650 Via Austi Parkway, Suite 170,Las Vegas, Nevada 89119**

(Address ofprincipal executive offices, including zip code)

 

**Registrant’stelephone number, including area code:  (702) 733-7195**

 

**Securitiesto be registered under Section 12(b) of the Act:**

** **
| **Title of each class to be so registered** | ** ** | **Name of each exchange on which registered** |
|--------------------------------------------------------------------------------|------------|-----------------------------------------------------------------------------|
| Common Stock                                                                   |       | NYSE Amex                                                                   |

 

**Securitiesto be registered under Section 12(g) of the Act:**

 

**None**

 

Indicate by check mark if the registrant is a well-known seasonedissuer, as defined in Rule 405 of the Securities Act.

Yes  o  No  x

 

Indicate by check mark if the registrant is not required to filereports pursuant to Section 13 or 15(d) of the Exchange Act.

Yes  o  No  x

 

Indicate by check mark whether the registrant (1) has filed allreports required to be filed by Section 13 or 15(d) of the SecuritiesExchange Act of 1934 during the past 12 months (or for such shorter period thatthe registrant was required to file such reports), and (2) has beensubject to such filing requirements for the past 90 days.

Yes x No  o

 

Indicate by check mark if disclosure of delinquent filers in responseto Item 405 of Regulation S-K is not contained herein, and will not becontained, to the best of the registrant’s knowledge, in definitive proxy orinformation statements incorporated by reference in Part III of this Form 10-Kor any amendment to this Form 10-K.  o

 

Indicate by check mark whether the registrant is a large acceleratedfiler, an accelerated filer, a non-accelerated filer or a smaller reportingcompany (as defined in Rule 12b-2 of the Act):

** **
| Large  accelerated filer o                     | Accelerated  filer o         |
|------------------------------------------------|------------------------------|
|                                           |                         |
| Non-accelerated  filer o                       | Smaller  reporting company x |
| (Do not check if  a smaller reporting company) |                         |

 

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

Yes  o  No  x

 

State the aggregate market value of voting and non-voting common equityheld by non-affiliates computed by reference to the price at which the commonequity was last sold, or the average bid and asked price of such common equity,as of the last business day of the registrant’s most recently completed secondfiscal quarter:  $63,790,168

 

State the number of shares outstanding of each of the registrant’sclasses of common stock, as of the latest practicable date: 114,956,667 sharesas of March 23, 2009.

 

**DOCUMENTSINCORPORATED BY REFERENCE**

** **

Portions of the proxy statement for the registrant’s 2009 annualmeeting of shareholders to be filed with the SEC within 120 days after the endof the fiscal year ended December 31, 2008 are incorporated by referencein Part III of this Form 10-K.

 

 

 

----

Table ofContents

 

**TABLE OF CONTENTS**

 
| ** **        | ** **                                                                                                            | **Page**   |
|-------------------|-----------------------------------------------------------------------------------------------------------------------|------------|
| ** **        | ** **                                                                                                            | ** ** |
| **PART I**   |
| ** **        | ** **                                                                                                            | ** ** |
| Item 1.           | Business                                                                                                              | 1          |
|              |                                                                                                                  |       |
| Item 1A.          | Risk Factors                                                                                                          | 13         |
|              |                                                                                                                  |       |
| Item 1B.          | Unresolved  Staff Comments                                                                                            | 17         |
|              |                                                                                                                  |       |
| Item 2.           | Properties                                                                                                            | 17         |
|              |                                                                                                                  |       |
| Item 3.           | Legal Proceedings                                                                                                     | 18         |
|              |                                                                                                                  |       |
| Item 4.           | Submission  of Matters to a Vote of Security Holders                                                                  | 18         |
|              |                                                                                                                  |       |
| **PART II**  |
| ** **        | ** **                                                                                                            | ** ** |
| Item 5.           | Market for  Registrant’s Common Equity, Related Stockholder Matters and Issuer  Repurchases of Equity Securities | 20         |
|              |                                                                                                                  |       |
| Item 6.           | Selected Financial  Data                                                                                              | 21         |
|              |                                                                                                                  |       |
| Item 7.           | Management’s  Discussion and Analysis of Financial Condition and Results of Operations                           | 21         |
|              |                                                                                                                  |       |
| Item 7A.          | Quantitative  and Qualitative Disclosures About Market Risk                                                           | 34         |
|              |                                                                                                                  |       |
| Item 8.           | Financial  Statements and Supplementary Data                                                                          | 35         |
|              |                                                                                                                  |       |
| Item 9.           | Changes in  and Disagreements with Accountants on Accounting and Financial Disclosure                                 | 70         |
|              |                                                                                                                  |       |
| Item 9A(T).       | Controls and Procedures                                                                                               | 70         |
|              |                                                                                                                  |       |
| Item 9B.          | Other Information                                                                                                     | 72         |
|              |                                                                                                                  |       |
| **PART III** |
| ** **        |
| Item 10.          | Directors,  Executive Officers and Corporate Governance                                                               | 73         |
|              |                                                                                                                  |       |
| Item 11.          | Executive Compensation                                                                                                | 73         |
|              |                                                                                                                  |       |
| Item 12.          | Security  Ownership of Certain Beneficial Owners and Management and Related Stockholder  Matters                      | 73         |
|              |                                                                                                                  |       |
| Item 13.          | Certain  Relationships and Related Transactions and Director Independence                                             | 73         |
|              |                                                                                                                  |       |
| Item 14.          | Principal Accountant Fees and Services                                                                                | 73         |
|              |                                                                                                                  |       |
| **PART IV**  |
| ** **        |
| Item 15.          | Exhibits and  Financial Statement Schedules                                                                           | 74         |
|              |                                                                                                                  |       |
| Signatures        |                                                                                                                  | 77         |

 

----

Table ofContents

 

**CAUTIONARY NOTICE**

 

This annual report on Form 10-Kcontains forward-looking statements within the meaning of Section 27A ofthe Securities Act of 1933, as amended, and Section 21E of the SecuritiesExchange Act of 1934, as amended.  Those forward-looking statementsinclude our expectations, beliefs, intentions and strategies regarding thefuture.  Such forward-looking statements relate to, among other things,overall industry environment, our working capital requirements and results ofoperations, the further approvals of regulatory authorities, adverse courtrulings, production and/or quality control problems, the denial, suspension orrevocation of privileged operating licenses by governmental authorities,competitive pressures and general economic conditions.  These and otherfactors that may affect our financial results are discussed more fully in “RiskFactors” and  “Management’s Discussion and Analysis of Financial Conditionand Results of Operations” included in this report.  We caution readersnot to place undue reliance on any forward-looking statements.  We do notundertake, and specifically disclaim any obligation, to update or revise suchstatements to reflect new circumstances or unanticipated events as they occur,and we urge readers to review and consider disclosures we make in this andother reports that discuss factors germane to our business.  See in particularour reports on Forms 10-K, 10-Q, and 8-K subsequently filed from time to timewith the Securities and Exchange Commission.

 

**PART I**

 

**ITEM 1.****                                 ****BUSINESS**

 

**OVERVIEW**

 

Elixir Gaming Technologies, Inc.is engaged in (i) the ownership and leasing of electronic gaming machinesin resorts, hotels, and other venues throughout Asia placed on a revenuesharing basis with venue owners; (ii) the design, manufacture anddistribution of table game products; and (iii) the design, manufacture andsale of component parts for the automotive industry. Our primary focus is onthe ownership and leasing of gaming machines on a revenue sharing basis across certaincountries in Asia.

 

Pursuant to the SecuritiesPurchase and Product Participation Agreement (“Product Participation Agreement”)dated June 12, 2007 (asamended by an amendment dated October 21, 2007) and which was subsequentlyterminated on November 6, 2008, our principal shareholder, Elixir GroupLimited (“Elixir Group”), a wholly-owned subsidiary of Melco International DevelopmentLimited, was our strategic partner in the electronic gaming machineparticipation business.  From September 2007 to November 6,2008, Elixir Group, through its wholly-owned subsidiary Elixir InternationalLimited, identified and secured on our behalf venues for the placement ofelectronic gaming machines and casino management systems, which track gameperformance and provide statistics on installed electronic gaming machinesowned and leased by us.  We contracted with the venue owners for the placementof the electronic gaming machines on a revenue sharing basis. Elixir Groupassisted the venue owners with the licensing and regulatory process, thephysical design of the gaming floor and the installation of electronic gamingmachines and systems.  Elixir Group acquired and installed the gamingmachines, casino management systems and other gaming peripherals and uponcompletion of the set-up of the gaming floor, sold us the gaming machines andsystems at its cost plus fifteen percent (15%).

 

As a result of thetermination of the Product Participation Agreement on November 6, 2008,Elixir Group ceased to have rights to identify suitable gaming venues for usand its exclusive rights to supply electronic gaming machines and relatedequipment to us.  Utilizing our developed operational experience andestablished market presence and key relationships, we on our own identify anddevelop new gaming venues, acquire the gaming machines, casino managementsystems and other gaming peripherals directly from the manufacturers and systemsuppliers and install the same in our contracted venues. In addition, we alsoassist the venue owners in brand-building and marketing promotions. A goodexample of this successful transition is the signing of an agreement with NagaWorldLimited, where we have evolved 

 

1

----

Table ofContents

 

from a pure machine lessorto a slot floor operator.  In NagaWorld, a five-starhotel casino resort in Cambodia, we manage jointly with thecasino owner the slot floor operations and design marketing programs and slotpromotions for our assigned gaming hall there. We also hire, train and manage the floor staff and set high expectationson the level of customer service.

 

In addition to theelectronic gaming machine participation business, we have historicallydeveloped, manufactured and distributed various table game devices used in thegaming industry, including automated card verification machines, electroniccard shuffling systems and high-frequency RFID-gaming chips.  However, in March 2009, we sold our cardverification and electronic card shuffling assets and have discontinued thoselines of products.

 

Through our July 2006 acquisitionof Dolphin Advanced Technologies Pty Ltd. (“Dolphin”), we also design,manufacture and sell component parts for the automotive industry, includinginner and remote door handles, fuel filler hinge assemblies, module brackets,steering wheel spoke covers, speaker grills, fasteners, safety products, andcosmetic components for automobiles.

 

We have offices in LasVegas, Hong Kong, Philippines, Cambodia and Australia.  We also havemanufacturing facilities in Guangdong Province, China and Melbourne, Australia.

 

Our executive office in theUnited States is located at:

 

Elixir Gaming Technologies, Inc.

6650 Via Austi Parkway, Suite 170

Las Vegas, Nevada, 89119

USA

 

The telephone and facsimilenumbers of our office in the United States are (702) 733-7195 and(702) 733-7197, respectively.

 

During fiscal 2008, we ownedor had rights to certain trademarks that we use in connection with the sale ofour products, including, but not limited to, the following: VendingDataTM, DeckCheckerTM, Random EjectionTM, Random PlusTM, PokerOneTM, ChipWasherTM, ShuffleProTM,DeckSetter® and DolphinTM. However, pursuant to the Purchase and SettlementAgreement entered into between Shuffle Master, Inc. and us on March 16,2009, we have sold to Shuffle Master our portfolio of automated cardverification machines and electronic card shuffling systems, all relatedintellectual property, and certain inventory of such products. As a result ofthis agreement, subsequent to the balance sheet date, we ceased to own therelevant trademarks of Random PlusTM, ShuffleProTM, and Deck CheckerTM. Other thanthe aforesaid trademarks, this report also makes reference to trademarks andtrade names of other companies.

 

**RECENTDEVELOPMENTS**

 

During fiscal 2008 andthrough the date of this report, we have engaged in the following:

 

**Supporting Arrangementsfrom Elixir Group Limited**

 

On November 6, 2008, weentered into the Machines Disposal Agreement (the “Disposal Agreement”) withElixir International, a wholly-owned subsidiary of Elixir Group. On the sameday, we entered into a letter of agreement terminating the Securities Purchaseand Product Participation Agreement and the amendments thereto (“the “ProductParticipation Agreement”) with Elixir Group (the “Termination Agreement”) andan Amendment of the Trade Credit Facility Agreement and Related Note withElixir International (the “Facility Amendment Agreement”).

 

2

----

Table ofContents

 

Pursuant to the DisposalAgreement, we agreed to return 715 electronic gaming machines to ElixirInternational and, as consideration for such return, Elixir Internationalagreed to extinguish a then current trade payable by us of approximately $14.0million. As a result of the Disposal Agreement, our balance sheet and liquidityposition have been improved and we also managed to reduce certain relatedinventory costs.

 

Based on the terms of the TerminationAgreement, we and Elixir Group agreed to terminate, with immediate effect uponsigning, the Product Participation Agreement save and except for certainprovisions therein regarding board representation, which includes but is notlimited to, the continued presence until September 10, 2009 of at leasttwo independent directors who served on the board since prior to the September 2007close of the Product Participation Agreement. With such termination, ElixirGroup ceased to have rights to identify suitable gaming venues for us andexclusive rights to supply electronic gaming machines and related equipment andsystems for our participation business and, as a result, Elixir Group no longeris entitled to earn an aggregate of 41.4 million additional shares of ourcompany pursuant to the Product Participation Agreement. In addition, ElixirGroup agreed to cancel warrants to purchase 66 million shares of our company’scommon stock, representing all of the outstanding warrants issued to ElixirGroup pursuant to the Participation Agreement.

 

According to the terms ofthe original Trade Credit Facility Agreement entered into between ElixirInternational and the Company dated April 21, 2008 (the “FacilityAgreement”), Elixir International provided trade credits to us for our purchaseof electronic gaming machines from Elixir International in exchange for ourissuance of unsecured notes to Elixir International bearing interest at a fixedrate of eight percent (8.0%) per annum. Upon entering into the Facility Agreement, we immediately issued apromissory note pursuant to the terms of the Facility Agreement for the thenprincipal amount of $15,000,000 (the “Initial Advance”).  The Initial Advance extinguished a thenexisting current trade payable of an equivalent amount to Elixir Internationalin respect to gaming machines previously acquired and we became obligated torepay the remaining principal, plus any accrued interest thereon, under theInitial Advance in 24 equal monthly installments after the date of issue.

 

As at September 30,2008, the unpaid principal balance under the Initial Advance was approximately$12,100,000 (the “Outstanding Principal”). Pursuant to the Facility AmendmentAgreement, Elixir International has surrendered the Initial Advance note to usin exchange for the issuance of a new promissory note for the OutstandingPrincipal amount (the “New Note”) with the following new repayment terms: (a) the Outstanding Principal amount and the interest accrued thereon shall berepaid in 24 equal monthly installments reset from January 1, 2009; (b) interestshall be accrued on the Outstanding Principal at the rate of five percent(5.0%) (previously of 8.0%) per annum starting from January 1, 2009; andno monthly repayment under the New Note was required for the months of October,November and December 2008.  Webegan paying our monthly installment of $529,490 under the New Note on January 1,2009.

 

**Strategic Alliance withScientific Games’ Wholly-Owned Subsidiary, Global Draw Ltd.**

 

**On December  5, 2008, we and Scientific Games’(Nasdaq: SGMS) wholly-owned subsidiary, The Global Draw Ltd. (“Global Draw”),announced that the two companies formed a strategic alliance to address newopportunities in Cambodia through placements of Global Draw’s server-based gamingmachines at our sourced venues.  Pursuantto this agreement, gaming machines from Global Draw are expected to be placedat venues on a revenue sharing basis and we and Global Draw will share in thenet win of the machines placed into operation. In addition to securing newlocations for the placement of Global Draw products, we will provide ongoingmarketing and technical support for the installed units.**

** **

While the recent regulatorychanges in Cambodia described further below, have delayed the first placementsof Global Draw machines under this agreement, we still intend to place GlobalDraw’s Silverball networked gaming machines in licensed casinos inCambodia.  Currently, we and Global Draw 

 

3

----

Table ofContents

 

are applying for thenecessary certifications and governmental approvals for the deployment of theSilverball machines in the Philippines and it is expected that the two companieswill enter into a similar revenue sharing agreement for the Philippines as soonas we obtain the relevant certifications and approvals.

 

**Sale of Certain Table Game Products to and Settlement of Litigationwith Shuffle Master, Inc.**

 

On March 16, 2009, we entered into a Purchase and SettlementAgreement with Shuffle Master, Inc. (the “Purchase and SettlementAgreement”) pursuant to which we have sold to Shuffle Master our portfolio of automated cardverification machines and electronic card shuffling systems, all relatedintellectual property, including but not limited to, the trademarks of Random PlusTM,ShuffleProTMand Deck CheckerTM, and certaininventory of such products.

 

In addition, Shuffle Master and we have settled all outstanding patentinfringement litigation with respect to U.S. Patent No. 6,665,684 dealingwith automated shuffler technology.  Thetotal consideration paid by Shuffle Master to us under the Purchase andSettlement Agreement is a base amount of $2.4 million, subject to an adjustmentof up to $400,000 related to the inspection of the condition of the finalinventory to be delivered by us, or up to $2.8 million in total. Also, as partof the transaction, we have agreed not to engage, directly or indirectly, inthe business related to the manufacturing or selling of automated cardverification machines and electronic card shuffling systems, anywhere in theworld, for a period of seven years from the date of closing.

 

Regarding the now settled litigation between Shuffle Master and us,this traces back to October 5, 2004, when Shuffle Master first filed apatent infringement action against us in the United States District Court,District of Nevada (Case No. CV-S-04-1373-JCM-LRL) claiming that the use,importation and offering for sale of our PokerOne shuffler infringed ShuffleMaster’s United States Patent, No. 6,655,684. We responded by denyingShuffle Master’s claim of patent infringement. On February 1, 2008, theDistrict Court granted our motion for summary judgment on all patent infringementclaims.  On February 29, 2008, Shuffle Master filed a notice ofappeal of the February 1, 2008 court ruling.  On February 15,2008, we delivered a demand to Shuffle Master for $3.0 million in damages forthe wrongful injunction they obtained in 2004.  We also filed a motion inDistrict Court to recover our attorney fees in the litigation.  ShuffleMaster initially filed an appeal from the District Court ruling, butsubsequently withdrew their appeal.

 

Although we had a reasonablelevel of confidence in the eventual favorable outcome of our claims for damagesand attorney fees, it was not a certainty. In addition, by pursuing the matterin courts, it could have possibility taken another lengthy period and we wouldhave incurred considerable additional legal expenses before we got a finalruling. As such we entered into the Purchase and Settlement Agreement withShuffle Master. We believe that this transaction is a mutually amicablesolution and has provided significant financial benefits to our Company as notonly does it improve our cash position but it frees up our resources to focuson addressing market opportunities that further our strategy of expanding ourelectronic gaming machine participation business.

 

**Regulatory Changes inCambodia**

 

OnDecember 2, 2008, Cambodia’s Prime Minister issued a directive whichrequires slot machine operators in the country to obtain licenses issued by theMinistry of Economy and Finance and to operate only in hotels certified by theMinistry of Tourism.  According to the directive, existing slot machineoperators have six months to comply.  In addition, the directive seeksstrict compliance with the foreigners-only rule that permits onlyforeigners or Cambodians with foreign passports to gamble in the country.

 

4

----

Table ofContents

 

OnFebruary 24, 2009, Cambodia’s Prime Minister called for the closure of thecountry’s sole bookmaker, Cambo Six, and said the government would not renewits license upon expiration in 2011.  Subsequent to this action, all buttwo of the approximately 70 slot clubs in Cambodia’s Phnom Penh area have beeneither temporarily or permanently closed. Our partner NagaWorld, which operatesunder an exclusive casino license in the Phnom Penh area, is one of the twogambling venues that remain open.

 

Currently,with the exception of the Premier Club at NagaWorld, all of our contractedvenues in Cambodia have beenclosed.  At this juncture, we do not intend to reopen our closed venuesand we have regained physical possession of our machines in these venues forfuture deployment.  At present, we plan to focus our resources in the Cambodia market on ouroperations at NagaWorld, which we expect will benefit from the widespread closuresof slot clubs in the Phnom Penh area.

 

**New Contract withNagaWorld Limited (“NagaWorld”)**

 

On January 5, 2009, we entered into a contractwith NagaWorld, a wholly-owned subsidiary of Hong Kong listed NagaCorp Ltd.(HKSE:3918), to place electronic gaming machines on a participation basis atits NagaWorld, a five-star hotel casino resort in Cambodia and the onlylicensed full service casino in Phnom Penh.

 

Under the terms of the agreement, we are obligatedto place electronic gaming machines in an assigned area of NagaWorld and willshare in the gross revenue generated by each machine we place.  We and NagaWorld have joint control over theoperation of the electronic gaming machines, including floor staff and respectiveaudit rights.

 

We will be entitled to 25% of the revenue generatedby the machines placed by us and NagaWorld will be entitled to 75% of suchrevenue. Most of the costs and expenses related to the operation of themachines placed by us, such as marketing funds, staff costs and staff meal expenses,will be shared 25% by us and 75% by NagaWorld. The agreement will be valid fora term of five years commencing from the actual day of launching the livecommercial operation of our machines in NagaWorld.

 

As at the date of thisfiling, we currently have approximately 200 machines in operation at NagaWorld.

 

**GAMING MACHINEPARTICIPATION**

 

**Overview**

 

Since September 2007,our primary business model has focused on the ownership and leasing ofelectronic gaming machines placed with venue owners on a revenue sharing basisacross certain countries in Asia. Pursuant to the Product Participation Agreement, our principalshareholder, Elixir Group, was our strategic partner in the electronic gamingmachine participation business from September 2007 to November 6, 2008. Elixir Group identified and secured, on our behalf, venues for the placement ofelectronic gaming machines and systems to be owned and leased by us, and thenassisted the venue owner with the physical design of the gaming floors andinstallation of electronic gaming machines and systems.

 

On November 6, 2008,Elixir Group and we agreed to terminate with immediate effect the ProductParticipation Agreement and Elixir Group’s rights to identify suitable gamingvenues on our behalf and to supply electronic gaming machines and relatedequipment to us.  Utilizing our developed operational experience andestablished market presence and key relationships, we now directly identify anddevelop new gaming venues, and acquire the gaming machines, casino managementsystems and other gaming peripherals and install the same in our contractedvenues.

 

5

----

Table ofContents

 

Electronic gaming machineparticipation operations began in September 2007 and comprised 28% of ourconsolidated revenues for the year ended December 31, 2008.

 

**Operations**

 

As a result of the terminationof the Product Participation Agreement effective on November 6, 2008(details of the termination are set out in Note 15 to the financialstatements), we contract with the venue owners or operators for the placementof the electronic gaming machines on a revenue sharing basis. In addition, wedirectly acquire and install the gaming machines and other gaming peripheralsat the relevant gaming venues.  The target market for ourelectronic gaming machine participation business is three-, four- and five-starhotels and resorts, and various other gaming venues across Asia.  We focuson underserved gaming markets that we believe are poised for significantgrowth, and many of the targeted venue owners have little or no gamingoperations experience.

 

We utilize electronic gamingmachines from leading manufacturers, including International Game Technology,Aristocrat Technologies, WMS Gaming, and Interblock.  As of March 23, 2009we had an inventory of 2,175 gaming machines and believe our current inventoryis adequate for our foreseeable needs over the next 12 months.

 

We market, design anddevelop the gaming venues of the venue owners to whom we lease our electronicgaming machines and related systems.  We contract with the venue owner forthe leasing and maintenance of the electronic gaming machines on a revenuesharing basis.  We provide thedevelopment and implementation of various related gaming services in the AsiaPacific region with a principal focus on Cambodia and the Philippines. Our solutions and offerings include:

 

·                  Developing thetechnical and network design, layout and overall space configuration of thegaming floor in order to best utilize and leverage the available floor spaceand present an appealing environment to customers; and

 

·                  Selecting theoptimal mix of electronic gaming machines for the property to optimize theeconomic potential of the gaming floor and overall experience for the venueowner’s customers.

 

We expect that the time from the initialexecution of the contract with the venue owner to the commencement ofelectronic gaming machine participation at the particular venue will beapproximately six to nine months depending on a number of factors, some ofwhich are outside of our control.  These factors include, but are notlimited to, the operator’s discretion, delays due to construction or renovationof the property, obtaining regulatory approvals business licenses by theoperator and staff training.  We assist the venue owner by providingtraining for its gaming floor personnel regarding the operation and maintenanceof the gaming machines and back-of-the-house accounting.  In addition, wemaintain all performance data and provide on-going technical and operationssupport in order to optimize game performance throughout the floor.

 

We expect that ourelectronic gaming machine participation revenues and gross margins will beinfluenced by a number of factors, including the delay between the date ofinstallation of the machines and date the machines “go-live” or are placed inservice and earning revenue; the number and type of machines in service; thelevels of play; and revenue sharing percentage.  In addition, we mayinitially install fewer electronic gaming machines than contracted for at avenue and increase the number of electronic gaming machines gradually as a wayto build demand for our product.  Our cost of sales will include thedepreciation, joint cost sharing (in limited cases) and other installation andmaintenance costs of the electronic gaming machines.

 

6

----

Table ofContents

 

**Competition**

 

The global gaming industryis highly competitive.  Competitors include RGB, a subsidiary of DreamgateCorp. an Asian distributor that places electronic gaming machines on a revenuesharing basis.  RGB is a distributor of Aruze, Ainsworth, Atronic and WMSgaming machines. Part of our operating strategy includes addressingmarkets and customers where we will face less competition and entry barriersdue to several factors including:

 

·                  **UnitedStates Gaming Laws:**  All of themajor gaming equipment suppliers are licensed by a large number of UnitedStates regulatory agencies.  In order for one of these companies to enterthe markets we serve in Asia on a direct revenue sharing model with a foreignoperator, the operator would be required to submit to various United Statesregulatory procedures.  We are not subject to this requirement as we havesurrendered all our gaming licenses in the United States.

 

·                  **LocalKnowledge:**  Through ourpast association with Elixir Group and our own operating experience, we have anextensive database of contacts and relationships throughout the Asian regionthat provides us with a unique opportunity to penetrate these undevelopedmarkets.

 

**Gaming Regulations andLicensing of Gaming Machine Participation**

 

The regulatory structure inthe Asian countries where we are pursuing our electronic gaming machineparticipation business, including the Philippines and Cambodia, is not asdeveloped or clearly defined as the United States.  In general, all of thecountries in which we currently operate require the venue owner to obtain agaming license in order to operate the electronic gaming machines leased byus.  In general, we are not considered to be an operator of the machinesbecause we lease the gaming machines to the venue owner, and we are notrequired to obtain any form of gaming license in either the Philippines orCambodia in order to engage in our business of owning and leasing electronicgaming machines on a revenue sharing basis in such jurisdictions. However, current gaming laws, including licensing requirements and otherregulatory obligations, could change or become more stringent resulting inadditional regulations being imposed upon us and our electronic gaming machineparticipation operations.  Any such adverse developments in the regulationof the gaming industry could be difficult to comply with and significantlyincrease our costs, which could cause our projects to be unsuccessful.

 

All of the countries inwhich we currently operate, including the Philippines and Cambodia, require thevenue owner to obtain a gaming license in order to operate the electronicgaming machines leased by us.  We demand that all of the venue owners towhom we lease electronic gaming machines, being our customers in thePhilippines and Cambodia, hold the required gaming licenses to operate theirvenues.

 

**TABLE GAME PRODUCTS**

 

**Overview**

 

For the past several years,we have developed, manufactured and sold through our distributor networkproducts that automate the current manual processes supporting casino tablegames and provide additional security to the gaming industry.  During thefiscal period ended December 31, 2008, our table game products included:

 

·                  The DeckCheckerTM, an automated playing card scanner that scans decks of playing cardsto ensure an accurate count and verifies that all of the playing cards arepresent.  This product confirms the integrity of each playing card andwill reject any non-conforming playing cards.

 

·                  The RandomPlusCard Shuffler, a shuffling device capable of shuffling up to eight decks ofplaying cards at once.  The RandomPlus utilizes state of the artelectronics for improved 

 

7

----

Tableof Contents

 

reliabilityand longevity and is designed with additional user accessible adjustments toaccommodate a wide variety of playing card types and conditions.

 

·                  The ShuffleProShuffler, a high-speed playing card-shuffler designed for use with one or twodeck table games such as standard poker room games and baccarat.

 

·                  The highfrequency RFID casino chip is a traditional casino chip embedded with a RFIDtag that allows casinos to identify counterfeit casino chips and track tableplay.  The high frequency 13.56 MHz RFID casino chip is designed toprovide real-time data capability, enhanced chip security, player tracking andaccounting management benefits for casinos. The high frequency RFID chipsenable casinos to read 1,000 chips per second and have a memory capacity ofover 10,000 bits.

 

·                  Traditionalcasino chips for various table games, including a wide range of American stylegaming chips with 30 different color combinations, various sizes and otherpersonalized printing combinations.

 

·                  The ChipWasher,the first fully-automated gaming chip cleaner that washes and sanitizes gamingchips. The build-up of oils and residue makes chips sticky and difficult fordealers and players to handle, which makes for slower play.

 

Pursuant to the Purchase and Settlement Agreement, we have sold to ShuffleMaster our portfolio of automated card verification machines and electroniccard shuffling systems, including Deck CheckerTM, RandomPlus Cardshuffler, ShufflePro shuffler, all related intellectual property, andcertain inventory of such products and, at the same time, settled with ShuffleMaster all outstanding patent infringement litigation with respect to U.S.Patent No. 6,665,684 dealing with automated shuffler technology.  The total consideration paid by ShuffleMaster to us under the Purchase and Settlement Agreement is a base amount of$2.4 million, subject to an adjustment of up to $400,000 related to theinspection of the condition of the final inventory to be delivered by us, or upto $2.8 million in total.

 

**Marketing and Distribution**

 

During the first half of2007, we distributed our table gaming products through direct sales andindirectly through distributors.  In February 2007, we began thediscontinuation of our direct sales and focused our sales and service throughthird-party distributors.

 

OnJanuary 6, 2006, we entered into a distribution agreement with ElixirGroup. The distribution agreement had an initial three-year term, with rolloverprovisions, and provided exclusive distribution rights for our high frequencyRFID casino chips for certain Southeast Asia casino properties andnon-exclusive distribution rights elsewhere in Asia. In October 2006 and February 2007,the distribution agreement was expanded to encompass our entire line of tablegame products.  We also extended Elixir Group’s exclusive distributionrights to include all of Asia, Australia and New Zealand. This distributionagreement, however, was subsequently terminated with effect on February 1,2009. 

 

InJune 2007, we entered into a distribution agreement with Suzo Happ Group,pursuant to which Suzo Happ Group serves as the exclusive distributor of ourtable game products in North, Central and South America, Europe, South Africaand the Russian Federation.  In order to pave the way for the sale of our portfolioof automated card verification machines and electronic card shufflingsystems to Shuffle Master under the Purchase and Settlement Agreement mentionedabove, this distribution agreement was subsequently terminated with effect on March 13,2009. Pursuant to the termination arrangement with Suzo Happ and indeed, underthe terms of the original distribution agreement, we shall purchase back theunsold inventory of our products from Suzo Happ and to reimburse it for thecosts incurred by it in relation to the certification of our products, upontermination of the distribution agreement.

 

Since pursuant to the Purchase and Settlement Agreement, we haveundertaken to Shuffle Master for a period of seven years after closing of thePurchase and Settlement Agreement, not to engage or participate, directly or indirectly,in the manufacturing and selling of automated card verificationmachines and electronic card shuffling systems, we believe the termination ofthe distribution 

 

8

----

Table of Contents

 

agreements with Elixir Group and Suzo Happ will not have any materialadverse effect on our overall business.

 

**Customer Service**

 

In December 2007, wecompleted the transfer of responsibility for sales and service of our tablegames products to Suzo Happ Group, our exclusive distributor of table gamesproducts in North and South America, Europe and South Africa.  Pursuant tothat arrangement, Suzo Happ would enter into service contracts directly withthe purchasers of the table game products. Following the termination of the distribution agreement with Suzo HappGroup on March 13, 2009, it is agreed that Suzo Happ shall continue toprovide repair service to our products sold via them until the expiration ortermination date of the currently existing service contracts.

 

**Competition**

 

The gaming industry isextremely competitive.  We compete with many established gaming companies,almost all of which are substantially larger in the table games segment, havemore substantial histories, backgrounds, experience and records of successfuloperations, greater technical, marketing and other resources, more employeesand more extensive facilities than we have or will have in the foreseeablefuture.  During the fiscal period ended December 31, 2008, our mostsignificant competitors in the table game products segment were Shuffle Masterand Gaming Partners International Corporation.

 

**Gaming Regulations andLicensing**

 

In connection with thenegotiation and development of the Product Participation Agreement with ElixirGroup, we decided to focus our primary business operations on the ownership andleasing of electronic gaming machines in Asia.  In order to mostefficiently accomplish our goals and objectives with respect to the Asianelectronic gaming machine market, we decided to surrender our gaming licensesin the United States. This process was completed in early 2008.

 

In most jurisdictions, ourtable game products fall within the general classification of “associatedequipment”, which is defined as equipment that is not classified as a “gamingdevice,” but which has an integral relationship to the conduct of licensedgaming.  Regulatory authorities in some jurisdictions have discretion torequire manufacturers and/or distributors to meet licensing or suitabilityrequirements prior to or concurrently with the use of associatedequipment.  Additionally, in most jurisdictions, the regulatoryauthorities must approve associated equipment after testing in an appropriate testinglab (either state run or independent) in advance of its use at licensedlocations.  During fiscal 2008, in those jurisdictions in the U.S. thatallow the sale of our approved table game products through a licenseddistributor, we sold through Suzo Happ Group, our then exclusive distributorfor North and South America, Europe and South Africa. The distributionagreement with Suzo Happ Group was subsequently terminated on March 13,2009 as explained above. In other jurisdictions where sales through a distributorare not allowed, including New Jersey, Mississippi, Indiana and Washington, ourproducts are not available.  In the Asian markets, our products weredistributed by Elixir Group, pursuant to the terms of the January 2006distribution agreement as amended in 2007. This distribution agreement wassubsequently terminated with effect on February 1, 2009.

 

**Product Development,Manufacturing and Assembly**

 

As part of our cost cuttingmeasures and focus on our core participation business, on December 31,2008, we scaled down the facility for the manufacture and assembly of our tablegame products in Xiaolan, China.  This facility focused on enhancements toour shuffler and deck checker product lines. As a result of the sale to Shuffle Master of ourportfolio of automated card verification machines and electroniccard shuffling systems, all related intellectual property, and certaininventory of such products 

 

9

----

Table ofContents

 

pursuant to the Purchase andSettlement Agreement as set out above, we intend to close down the Chinafacility during the second quarter of 2009.

 

**Suppliers**

 

During fiscal 2008, mostcomponents for our Shufflers and DeckChecker products were sourced in China.Shuffler and DeckChecker assembly was conducted in China and final units wereshipped to our Macau warehouse for distribution to the North American, Asian,Australian and European markets. As a result of our recent sale of ourportfolio of automated card verification machines and electroniccard shuffling systems and all related intellectual property to ShuffleMaster, it is expected that the related sourcing of materials and the assemblyand production of such products will be discontinued. The manufactureof RFID casino chips is performed at Dolphin, our subsidiary in Australia,which specializes in plastic injection molding. Dolphin has licensed certainRFID technology from Magellan Technology Pty Ltd in Sydney, Australia, theowner of the intellectual property for RFID technology. Dolphin has sourcedtheir RFID tags from Progressive Gaming International Corporation in the past.Since the acquisition of Progressive Gaming International Corporation’s assetsby International Game Technology (“IGT”) in January 2009, it isanticipated that we will source RFID tags from IGT going forward.

 

**NON-GAMING OPERATIONS**

 

Dolphin specializes intool-making, custom injection molding and clean room manufacture of high precisionplastic products. We have non-gaming product lines of high-quality products forthe automotive industry.  From our state of the art facility in Melbourne,Australia, we produce various automotive components including: inner remotedoor handles, fuel filler hinge assemblies, module brackets, steering wheelspoke covers, speaker grills, fasteners, safety products, and vehicle cosmeticcomponents. In addition to Australia, Dolphin supplies components to automanufacturers in several countries around the world including Argentina,Mexico, Germany, Malaysia, and Thailand.

 

**Marketing and Distribution**

 

We market our automotiveproducts through automotive organizations and institutions and are a preferredsupplier to General Motors Holden, Toyota, Autoliv, and Bridgestone, all ofwhom typically include us among the suppliers from whom they solicit bids onsupply contracts.

 

**Competition**

 

The automotive tool-makingand injection molding products businesses are highly competitive.  Ourcompetitors include, ITW Deltar; Hook Plastics; Palm Plastics &Tooling; Hasico and Sneddon & Kingston Plastics, all of whom havegreater financial resources, infrastructure and experience.

 

**Product Development,Manufacturing and Assembly**

 

Automotive componentsmanufactured by our Dolphin division are used for both internal and externalapplications and some are safety products.  We use our experience andexpertise in engineering, tool-making and process technology in partnershipwith leading automakers. We provide to our customers full design, developmentand prototyping of new products.  Simultaneous engineering and Production Part ApprovalProcess, a process which includes 19 procedures that a supplier must adhere toand must be approved by customers, is standard for automotive componentsmanufactured at the Dolphin subsidiary.

 

In addition, we occasionallyengage research and development consultants to complement our skill set inspecific areas of engineering activities.  We hire contract personnel on avaried basis depending upon production and installation volumes.

 

10

----

Table ofContents

 

**RESEARCH AND DEVELOPMENT**

 

The research and developmentcenter, located in Zhuhai, China was closed down at the end of 2008. It isanticipated that moving forward, all research and development related tonon-gaming operations will be performed at our facilities in Melbourne,Australia.  Our current research and development emphasis is to improveour existing product lines and we spent $968,922 in 2008 and $974,870 in 2007on research and development activities.

 

**INTELLECTUAL PROPERTY**

 

We have secured and endeavorto secure, to the extent possible, exclusive rights to our table game products,primarily through federal and foreign intellectual property rights, such aspatents, copyrights and trademarks. We have applied for various patents withrespect to other concepts and products, including potential non-gamingapplications of our technologies.

 

With respect to ourshufflers, the United States Patent and Trademark Office (the “USPTO”) hasissued ten patents, Patent Nos. 5,584,483, 5,676,372, 6,019,368, 6,293,546,6,299,167, 6,698,756 and 6,719,288, 6,886,829, 6,959,925 and 7,066,464 inaddition to two design patents, Patent Nos. D488,193 and D490,481. Thesepatents expire on dates between April 2014 and April 2024. Inaddition, there are seven patent applications on file with the USPTO and nineapplications pending in foreign countries. Our shufflers have also been issuedtwo patents in Australia, one patent in Canada and one Patent CooperationTreaty (“PCT”) patent.

 

The USPTO have issued twopatents, Patent No. 6,629,894 and 6,726,205 related to theDeckChecker.  These patents are valid until August 2020.  Inaddition, we currently hold patents on the DeckChecker in Australia, China,Europe and South Africa, together with one application pending in Canada andone PCT application to file.

 

As part of the transactionregarding the sale to Shuffle Master of our portfolio of automated cardverification machines and electronic card shuffling systems, all relatedintellectual property, and certain inventory of such products, all of theaforesaid shuffler and DeckChecker patents have been sold to Shuffle Masterpursuant to the Purchase and Settlement Agreement.

 

There is currently oneChipWasher patent application on file with the USPTO and five applicationspending in foreign jurisdictions.

 

In October 2005, weacquired the rights to U.S. Patent No. 6,659,875, which covers a uniqueprocess for manufacturing RFID chips and plaques. We also hold patents coveringsimilar processes issued by Australia and the United Kingdom. In addition, in February 2007,we filed a new provisional specification in Australia to protect additionalenhancements in the manufacture of RFID chips and plaques.

 

For those intellectualproperty applications, claims and rights that do not form part of the subjectmatter of the transaction under the Purchase and Settlement Agreement withShuffle Master and continue to be held by us, there can be no assurance thatany of the claims contained in our pending United States or foreign patent ortrademark applications will be issued, that any of these rights will not beinfringed by others or that already issued patents or trademark registrationswill not be invalidated or canceled. Third parties could infringe on our rightsor successfully duplicate our products without infringing on our legal rights.

 

Many elements incorporatedin our proprietary products are in the public domain or otherwise not amenableto legal protection and the steps taken by us will not, in and of themselves,preclude competition with our proprietary products.

 

11

----

Table ofContents

 

**EMPLOYEES**

 

As of March 23, 2009,we had approximately 17 full time employees in Hong Kong, 6 full-time employeesin the United States, 34 full-time employees in the Philippines, 57 full-timeemployee in Cambodia and 88 full-time employees in Australia. None of ourUnited States, Hong Kong, Philippines, or Cambodia employees are represented bya labor union, and we consider our relationships with our employees to besatisfactory.

 

**AVAILABLE INFORMATION**

 

Our website is located atwww.elixirgaming.com.  The information on or accessible through ourwebsite is not part of this annual report on Form 10-K.  A copy ofthis annual report on Form 10-K is located at the SEC’s Public Reference Room at100 F Street, NE, Washington, D.C. 20549. Information on the operation of thePublic Reference Room can be obtained by calling the SEC at1-800-SEC-0330. The SEC maintains an internet site that contains reports, proxyand information statements and other information regarding our filings atwww.sec.gov.

 

**EXECUTIVE OFFICERS OF THEREGISTRANT**

 

The names of our executiveofficers and their ages, titles and biographies as of March 23, 2009 areset forth below.

 
| **Name**                 | ** ** | **Age** | ** ** | **Position**                                                  |
|--------------------------|------------|---------|------------|---------------------------------------------------------------|
| Clarence (Yuk Man) Chung |       | 46      |       | Chairman of the Board,  President and Chief Executive Officer |
| Joe Pisano               |       | 51      |       | Executive Vice President                                      |
| Andy (Kin Ming) Tsui     |       | 39      |       | Vice President, Finance                                       |

 

Our executive officers areappointed by, and serve at the discretion of, our board of directors. Eachexecutive officer is a full-time employee. There are no family relationshipsbetween any of our executive officers or directors.

 

Clarence (Yuk Man) Chungjoined our board in October 2007 and has served as chief executive officersince October 2008. Mr. Chung has been an executive director of MelcoInternational Development Ltd since May 2006 and as its chief operatingofficer since July 2006. Mr. Chung joined Melco in December 2003and assumed the role of the chief financial officer. Prior to joining Melco, hehad been a director and the chief financial officer of Megavillage Group, avice-president at Lazard Asia managing an Asian buy-out fund, and avice-president at Pacific Century Regional Development Limited, a Singapore listedcompany with businesses in infrastructure, financial services and technology. Mr. Chungholds a Master of Business Administration degree from Kellogg School ofManagement of Northwestern University and is a qualified accountant in theUnited Kingdom and Hong Kong.

 

Joe Pisano joined our boardof directors in September 2007 and has served as senior vice presidentsince September 2007 and executive vice president since February 2008.Mr. Pisano served as general manager of gaming for Elixir Group from August 2006to September 2007. From March 2002 to July 2006, Mr. Pisanoserved as business development manager-Asia Pacific for IGT (Australia) PtyLtd, a wholly-owned subsidiary of International Game Technology (NYSE:IGT), adesigner, developer and manufacturer of microprocessor based gaming products. Mr. Pisanohas a Masters degree in Businessand Technology from the University of New South Wales in Australia.

 

Andy (Kin Ming) Tsui hasserved as vice president of finance since July 2008. Prior to joining ourcompany, Mr. Tsui had been the regional finance controller-Asia for MinteqInternational Inc., a wholly owned subsidiary of Minerals Technologies Inc.(NYSE: MTX) based in Shanghai since June 2005. From March 2003 to May 2005,Mr. Tsui served as manager of financial analysis at the corporate officeof

 

12

----

Table of Contents

 

Minteq International Inc. inNew York. Mr. Tsui holds a Master of Business Administration degree fromBaruch College, City University of New York and is a certified publicaccountant in the United States.

 

**ITEM1A.****                                           ****RISKFACTORS**

 

In this report we make, andfrom time-to-time we otherwise make, written and oral statements regarding ourbusiness and prospects, such as projections of future performance, statementsof management’s plans and objectives, forecasts of market trends, and othermatters that are forward-looking statements within the meaning of Section 27Aof the Securities Act of 1933 and Section 21E of the Securities ExchangeAct of 1934.  Statements containing the words or phrases “will likelyresult,” “are expected to,” “will continue,” “is anticipated,” “estimates,”“projects,” “believes,” “expects,” “anticipates,” “intends,” “target,” “goal,”“plans,” “objective,” “should” or similar expressions identify forward-lookingstatements, which may appear in documents, reports, filings with the Securitiesand Exchange Commission, news releases, written or oral presentations made byofficers or other representatives made by us to analysts, stockholders,investors, news organizations and others, and discussions with management andother of our representatives.  For such statements, we claim theprotection of the safe harbor for forward-looking statements contained in thePrivate Securities Litigation Reform Act of 1995.

 

Our future results,including results related to forward-looking statements, involve a number ofrisks and uncertainties.  No assurance can be given that the resultsreflected in any forward-looking statements will be achieved. Anyforward-looking statement speaks only as of the date on which such statement ismade.  Our forward-looking statements are based upon assumptions that aresometimes based upon estimates, data, communications and other information fromsuppliers, government agencies and other sources that may be subject torevision.  Except as required by law, we do not undertake any obligationto update or keep current either (i) any forward-looking statement toreflect events or circumstances arising after the date of such statement, or (ii) theimportant factors that could cause our future results to differ materially fromhistorical results or trends, results anticipated or planned by us, or whichare reflected from time to time in any forward-looking statement.

 

In addition to other mattersidentified or described by us from time to time in filings with the SEC, thereare several important factors that could cause our future results to differmaterially from historical results or trends, results anticipated or planned byus, or results that are reflected from time to time in any forward-lookingstatement. Some of these important factors, but not necessarily all importantfactors, include those set out below.

 

***We have a history ofsignificant operating losses and anticipate continued operating losses for atleast the near term.*** For the years ended December 31, 2008and 2007, we have incurred net losses of $26,955,196 and $234,598,580, respectively,and our operations have used $30,096,613 and $11,601,905 of cash, respectively.As of December 31, 2008, we had an accumulated deficit of $354,511,609. Weexpect to continue to experience negative cash flows from operations until suchtime as we are able to substantially increase revenues and control expenses tolevels that will allow us to operate on a positive cash flow basis. Whilemanagement will endeavor to generate positive cash flows from our placement ofelectronic gaming machines in Asia, there can be no assurance that we will besuccessful in generating positive cash flows from operations.

 

***The termination of theProduct Participation Agreement with Elixir Group represents a material changein our business model, and that business model has not been proven by us.*** On November 6,2008, we terminated the Product Participation Agreement with Elixir Group andconsequently Elixir Group ceased to have rights to identify suitable gamingvenues on our behalf and to supply us with electronic gaming machines andrelated equipment. We believe we have developed the operational experienceand have established the market presences and key relationships necessary toassume all of Elixir Group’s previous responsibilities to identify and developnew gaming venues and to

 

13

----

Table of Contents

 

acquire and install thegaming machines, casino management systems and other gaming peripherals directlyfrom the manufacturers on competitive terms. However, no assurance can be made that we will be successfullyfulfilling these functions on our own.

 

***Our revenues from ourgaming machine participation operations are difficult to predict and may varyfrom our projections because the business model is new and the venues are notoperated by us.***  Our primary focus now is on the ownership andleasing of gaming machines on a revenue sharing basis across certain countriesin Asia.  We focus on targeting venue owners in underserved gaming marketswho have little or no gaming operations or experience.  Since weparticipate on a revenue sharing basis with these venue owners, our revenuegenerated from the revenue sharing arrangements will be dependent to a significantdegree on the efforts and capabilities of the venue owners.  Our revenuesand results of operations from our gaming machine participation may bedifficult to predict and may vary depending on the ability of the venue ownersto manage the gaming operations of their venues.  Accordingly, there can be no guarantee thatthe venue owners will be able to manage the gaming operations successfully orthat the gaming venues operated by them will perform at levels consistent withour financial projections and underlying forecasts and assumptions. Further, wehave very limited past business relationships with the venue operators andassume that the venue operators are reputable. In the event that any of thevenue operators are not reputable this would expose us to the risk of beingunable to collect the revenue to which we are entitled under the revenue sharearrangements and protect our gaming machine assets.

 

***We will require additionalfunding in the future to continue to operate our business.***   Asof December 31, 2008 we had working capital of approximately$7.6 million.  Since December 31,2008, our working capital has been negatively effected by continuing lossesfrom operations and positively effected by our sale of our card shuffler andDeckchecker products line for $2.4 million of cash, with a possible additional$400,000 based on a final inventory evaluation. We believe we have sufficient cash on hand to fulfill all currentobligations as they become due.  Based on our internal revenueprojections, existing contemplated machine placement rollout plans, ourinventory of electronic gaming machines, and strategic relationships withthird-party manufacturers, we believe we have the needed capital to fund ouroperations over the next 12 months. However, if our revenue projectionsfail to meet our existing internal projections, we are required to procureadditional gaming machines for projects not currently contemplated, and/or weare unable to come to agreeable terms with strategic third parties that weanticipate will provide us access to electronic gaming machines on attractiveterms, we would need to raise capital within the next 12 months.  We will endeavor to raise additional fundsthrough various financing sources, including the sale of our equity and debtsecurities and the procurement of commercial debt financing, whether throughElixir Group or other parties with a bias toward debt financing over equityraisings. However, there can be no guarantees that such funds will be availableon commercially reasonable terms, if at all. If such financing is not availableon satisfactory terms, we may be unable to expand or continue our business asdesired and operating results may be adversely affected. Any debt financingwill increase expenses and must be repaid regardless of operating results andmay involve restrictions limiting our operating flexibility. If we issue equitysecurities to raise additional funds, the following results can occur:

 

·                  the percentageownership of our existing stockholders will be reduced;

·                  ourstockholders may experience additional dilution in net book value per share;and/or

·                  the new equitysecurities may have rights, preferences or privileges senior to those of theholders of our common stock.

 

***We rely on third partydistributors or agents in all our markets and our limited sales experience inforeign countries could cause us to lose sales.***All sales ofour products are achieved through third party distributors or agents, includingbut not limited to the sale of our automotive products through automotiveorganizations and institutions. We believe such distributors and agents that wehave engaged are

 

14

----

Table of Contents

 

experienced and reputable,however, if we are unable to manage these relationships, our ability togenerate revenue and profits may be adversely affected.

 

***Our growth into marketsoutside the United States exposes us to risks inherent in internationalbusiness operations.*** We intend to market our gaming machineparticipation business and sell our remaining line (excluding the portfolio of automated cardverification machines and electronic card shuffling systems which we have soldto Shuffle Master pursuant to the Purchase and Settlement Agreement) of tablegame products outside the United States. We intend to focus our sales effortsin Asia, but our international expansion efforts may not be successful. Ourinternational operations expose us to risks and challenges that we wouldotherwise not face if we conducted our business only in the United States, suchas:

 

·                  increased costof enforcing our intellectual property rights;

·                  heightenedprice sensitivity from customers in emerging markets;

·                  our ability toestablish local manufacturing, support and service functions, and to formchannel relationships with resellers in non-U.S. markets;

·                  localization ofour electronic gaming machines and components, including translation intoforeign languages and the associated expenses;

·                  compliance withmultiple, conflicting and changing governmental laws and regulations;

·                  foreigncurrency fluctuations;

·                  laws favoringlocal competitors;

·                  weaker legalprotections of contract terms, enforce recoveries of receivables andintellectual property rights and mechanisms for enforcing those rights;

·                  marketdisruptions created by public health crises in regions outside the U.S., suchas Avian flu, SARS and other diseases;

·                  difficulties instaffing and managing foreign operations, including challenges presented byrelationships with workers’ councils and labor unions; and

·                  changing regionaleconomic, political and regulatory conditions.

 

***We may be unable toadequately protect our intellectual property rights.*** Our success inbusinesses other than gaming machine participation is impacted by maintainingthe confidentiality and proprietary nature of our intellectual property rights.Our ability to compete may be damaged, and our revenues may be reduced if weare unable to protect our intellectual property rights adequately. To protectthese rights, we rely principally on a combination of:

 

·                  contractualarrangements providing for non-disclosure and prohibitions on use;

·                  patents andpending patent applications;

·                  trade secret,copyright and trademark laws; and

·                  certainbuilt-in technical product features.

 

Patent, trade secret,copyright and trademark laws provide limited protection. The protectionsprovided by laws governing intellectual property rights do not prevent ourcompetitors from developing, independently, products similar or superior to ourproducts and technologies. In addition, effective protection of copyrights,trade secrets, trademarks, and other proprietary rights may be unavailable orlimited in certain foreign countries. We may be unaware of certain non-publiclyavailable patent applications, which, if issued as patents, could relate to ourservices and products as currently designed or 

 

15

----

Table of Contents

 

as we may modify them in thefuture. Legal or regulatory proceedings to enforce our patents, trademarks orcopyrights could be costly, time consuming, and could divert the attention ofmanagement and technical personnel.

 

***It is possible that ourproducts, excluding our gaming machine participation business, will be thesubject of future patent litigation if the products are sold and installed inthe United States and, if commenced, could subject us to continuing litigationcosts and risks.*** To the extent that we introduce new products thatincorporate the same or similar technology, it is likely that a competitor willbring one or more claims against us seeking damages, injunctive or otherequitable relief, or both. We cannot predict the outcome of any present orfuture litigation that may occur.

 

If our future productsincorporate technologies that infringe the proprietary rights of third partiesand we do not secure licenses from them, we could be liable for substantialdamages that would cause a material reduction in revenues and impair ourprospects for achieving growth and profitability.

 

In furtherance of thedevelopment of our services or products, we may need to acquire licenses forintellectual property to avoid infringement of third party rights or claims ofinfringement. These licenses may not be available on commercially reasonableterms, if at all. Claims for infringement, if made, could damage our businessprospects, our results of operations and financial condition, whether or notthe claims have merit, by:

 

·                  consumingsubstantial time and financial resources required to defend against them;

·                  diverting theattention of management from growing our business and managing operations;

·                  resulting incostly litigation; and

·                  disruptingproduct sales and shipments.

 

If any third party prevailsin an action against us for infringement of its proprietary rights, we could berequired to pay damages and either enter into costly licensing arrangements orredesign our products so as to exclude the infringing technology. As a result,we would incur substantial costs and delays in product development, sales andshipments, our revenues may decline substantially and we may not be able toachieve the growth required for us to achieve profitability.

 

***Our common stock may bedelisted from the NYSE Amex and if this occurs you may have difficultyconverting your investment into cash efficiently***.  The NYSE Amex (formerly known as the AmericanStock Exchange) has established certain standards for the delisting of asecurity from the NYSE Amex.  Thestandards for delisting from the stock market include, among other things,common stock selling for a substantial period of time at a low price per share,if the issuer fails to effect a reverse split of such shares within areasonable time after being notified that the stock exchange deems such actionto be 

 

16

----

Table of Contents

 

appropriate.  Our common stock has continuously tradedbelow $1.00 since August 2008. While we have not received anycommunication to date from the NYSE Amex concerning the selling price of ourcommon shares, there can be no assurance that the NYSE Amex will take action todelist our common stock from the exchange due to the low selling price of theshares.  If that were to occur, we wouldconsider effecting a reverse split of our common stock in order to raise ourshare price to a level satisfactory to the NYSE Amex.  However, reverse splits of thinly tradedshares have, at times, resulted in declining share price after a proportionaladjustment in shares price to give effect to the split.  If our common stock were to be excluded fromNYSE Amex, or if we elected to conduct a reverse split in order to maintain thelisting, the price of our common stock and the ability of holders to sell suchstock could be materially adversely affected.

 

***Our board of directors mayissue blank check preferred stock, which may affect the voting rights of ourholders and could deter or delay an attempt to obtain control of us.*** Our board ofdirectors is authorized, without stockholder approval, to issue preferred stockin series and to fix and state the voting rights and powers, designation,preferences and relative, participating, optional or other special rights ofthe shares of each such series and the qualifications, limitations andrestrictions thereof. Preferred stock may rank prior to our common stock withrespect to dividends rights, liquidation preferences, or both, and may havefull or limited voting rights. Accordingly, issuance of shares of preferredstock could adversely affect the voting power of holders of our common stockand could have the effect of deterring or delaying an attempt to obtain controlof us.

 

***The global recession hasnegatively impacted the demand for automobiles, which in turn could make itdifficult to collect on accounts receivables from our Dolphin subsidiarycustomers. ***For the yearsended December 31, 2008 and 2007, we have incurred net account receivablesof $535,983 and $1,180,915 respectively, from the automotive segment of ourDolphin subsidiary. Due to the global recession and subsequent reduced demandfor automobiles, many auto manufacturers, which include some of our Dolphinsubsidiary’s customers, are experiencing financial and operatingdifficulties.  These difficulties could impact our customers’ ability topay us and our ability to collect on receivables due from these customers.

 

***We have identifiedmaterial weaknesses in our internal control over financial reporting and cannotassure you that additional material weakness will not be identified in thefuture.  Our failure to implement andmaintain effective internal control over financial reporting could result inmaterial misstatement in our financial statements.***  In connection with management’s assessment ofthe effectiveness of our internal control over financial reporting for theperiod covered by this report, management has identified four materialweaknesses in our internal control over financial reporting and concluded as ofDecember 31, 2008, our internal control over financial reporting was noteffective.  Despite our efforts to ensurethe integrity of our financial reporting process, we cannot assure you that additionalmaterial weakness of significant deficiencies in our internal control overfinancial reporting will not be identified in the future.  See “Item 9A(T) – Controls and Procedures”.

 

**ITEM1B.****                                           ****UNRESOLVEDSTAFF COMMENTS**

 

Not applicable.

 

**ITEM 2.****                                                    ****PROPERTIES**

 

Prior to March 2008,our US office was located at 1120 Town Center Drive, Suite 260, Las Vegas,Nevada, which consisted of approximately 7,000 square feet of officefacilities. In March 2008, we moved our U.S. office address to 6650 ViaAusti Parkway, Suite 170, Las Vegas, Nevada, which consists ofapproximately 2,600 square feet of office facilities used for accounting andadministration.  The lease requires monthly payments of approximately$7,200 and expires in March 2010.

 

In early December 2008,as part of the cost-cutting measures, we relocated all our staff in Macau toour Hong Kong office, and as a result, we ceased to have a representativeoffice in Macau since then.  Meanwhile,after the expiration of our current lease of Hong Kong office in May 2009,we intend to re-allocate to a smaller office and to attempt to contain themonthly rental to an amount not exceeding $8,000.

 

Apart from the US office, wealso lease the following offices throughout Asia and in Australia:

 

17

----

Table of Contents

 
| **Location/Activities**                                         | ** ** | **Expiration Date********of Lease** | ** ** | **Monthly********Lease********Payment********(USD)** | ** ** | **Area  (sq. ft.)** |
|-----------------------------------------------------------------|------------|-------------------------------------|------------|------------------------------------------------------|------------|---------------------|
| Hong Kong; Administrative office                                |       | May 2009                       |       | 15,500                                               |       | 3,500               |
| Melbourne, Australia; Manufacturing and  Administrative offices |       | December 2013                  |       | 17,000                                               |       | 32,000              |
| Melbourne, Australia; Warehouse facilities                      |       | January 2014                   |       | 16,000                                               |       | 32,000              |
| Philippines; Administrative office                              |       | April 2012                     |       | 5,200                                                |       | 5,100               |
| Philippines; Warehouse facilities                               |       | March 2009                     |       | 2,900                                                |       | 5,800               |
| Cambodia; Administrative office                                 |       | April 2013                     |       | 4,000                                                |       | 9,500               |
| Cambodia; Warehouse facilities                                  |       | September 2010                 |       | 3,800                                                |       | 2,600               |
| Guangdong, China; Manufacturing facilities                      |       | April 2009                     |       | 7,000                                                |       | 50,000              |

 

**ITEM 3.****                                                    ****LEGALPROCEEDINGS**

 

On October 5, 2004, Shuffle Master filed a patent infringementaction against us in the United States District Court, District of Nevada (CaseNo. CV-S-04-1373-JCM-LRL) claiming that the use, importation and offeringfor sale of our PokerOne shuffler infringed Shuffle Master’s United StatesPatent, No. 6,655,684. We responded by denying Shuffle Master’s claim ofpatent infringement. On February 1, 2008, the District Court granted ourmotion for summary judgment on all patent infringement claims.  On February 29,2008, Shuffle Master filed a notice of appeal of the February 1, 2008court ruling.  On February 15, 2008, we delivered a demand to ShuffleMaster for $3.0 million in damages for the wrongful injunction they obtained in2004.  We also filed a motion in District Court to recover our attorneyfees in the litigation.  Shuffle Master initially filed an appeal from theDistrict Court ruling, but subsequently withdrew their appeal.

 

While originally the case would have gone back to the District Court toresolve our claims for damages and attorney fees, on March 16, 2009, weentered into a Purchase and Settlement Agreement with Shuffle Master (the“Purchase and Settlement Agreement”) pursuant to which we have sold to ShuffleMaster our portfolio of automated card verification machines and electroniccard shuffling systems, all related intellectual property, including butnot limited to, the trademarks of Random PlusTM,ShuffleProTMand Deck CheckerTM, and certaininventory of such products. In addition, we and Shuffle Master have settled alloutstanding patent infringement litigation with respect to U.S. Patent No. 6,665,684dealing with automated shuffler technology. The total consideration paid by Shuffle Master to us under the Purchaseand Settlement Agreement is a base amount of $2.4 million, subject to anadjustment of up to $400,000 related to the inspection of the condition of thefinal inventory to be delivered by us, or up to $2.8 million in total.

 

On October 5, 2007,William Purton and two entities under his control (“Purton”) filed suit in theSupreme Court of Victoria, Australia for claims totaling approximately$1,203,500 he alleges to be owed under the July 2006 share sale agreementpursuant to which we purchased Dolphin Advanced Technologies, Pty Ltd. fromPurton.  We filed a defense and counterclaim against Purton alleging thatPurton owes us in excess of $1,000,000 pursuant to certain breaches of hisrepresentations, warranties and covenants in the share sale agreement. Thematter is proceeding toward trial and we currently intend to vigorously defendour position and prosecute our counterclaim.

 

**ITEM 4.****                                                    ****SUBMISSIONOF MATTERS TO A VOTE OF SECURITY HOLDERS**

 

On September 8, 2008,we held our annual meeting of shareholders in Hong Kong.  Out of114,956,667 common shares issued and outstanding as of the record date andentitled to vote at such annual meeting, there were present at such meeting, inperson and by proxy, shareholders holding 92,202,861 of our votingshares.  We held the annual meeting of shareholders, for the purposes of:

 

·                  Electing elevendirectors, each to serve until our 2009 annual meeting of shareholders;

 

18

----

Table ofContents

 

·                  Adopting theElixir Gaming Technologies, Inc. 2008 Stock Incentive Plan; and

 

·                  Ratifying theappointment of Ernst & Young, as our independent registered publicaccounting firm for the fiscal year ending December 31, 2008.

 

All of the persons nominatedto serve on our board of directors, namely Clarence Chung, Gordon Yuen, JoePisano, Lorna Patajo-Kapunan, Major General Paul A. Harvey, Vincent L. DiVito,John W. Crawford, Samuel Tsang, Ted Chan, Anthony Tyen and Daniel Sham, wereelected to our board of directors for terms of one year each.

 
| ** **               | ** ** | **For**    | ** ** | **Withheld** | ** ** | **Abstained** | ** ** |
|--------------------------|------------|------------|------------|--------------|------------|---------------|------------|
| Clarence (Yuk Man) Chung |       | 85,821,918 |       | 6,380,943    |       | —        |       |
| Gordon Yuen (1)          |       | 77,165,444 |       | 15,037,417   |       | —        |       |
| Joe Pisano               |       | 77,112,944 |       | 15,089,917   |       | —        |       |
| Vincent DiVito           |       | 87,328,526 |       | 4,874,335    |       | —        |       |
| Paul Harvey              |       | 87,330,626 |       | 4,872,235    |       | —        |       |
| Lorna Patajo-Kapunan     |       | 87,208,612 |       | 4,994,249    |       | —        |       |
| John Crawford            |       | 87,345,640 |       | 4,857,221    |       | —        |       |
| Samuel (Yuen Wai) Tsang  |       | 85,817,215 |       | 6,385,646    |       | —        |       |
| Ted (Ying Tat) Chan      |       | 85,702,501 |       | 6,500,360    |       | —        |       |
| Anthony (Kanhee) Tyen    |       | 87,343,340 |       | 4,859,521    |       | —        |       |
| Daniel (Sui Leung) Sham  |       | 87,338,840 |       | 4,864,021    |       | —        |       |

 

----

(1)   Gordon Yuen resigned as a director as well as the president and chiefexecutive officer of the Company on October 1, 2008.

 

Our shareholders approved toadopt the 2008 Stock Incentive Plan.

 
| Shares voted for  |   | 52,119,182 |   |
|-------------------|--------|------------|--------|
| Shares against    |   | 19,060,052 |   |
| Shares abstaining |   | 273,530    |   |

 

Our shareholders approvedthe ratification of Ernst & Young as our independent registered publicaccounting firm.

 
| Shares voted for  |   | 91,692,310 |   |
|-------------------|--------|------------|--------|
| Shares against    |   | 199,042    |   |
| Shares abstaining |   | 311,509    |   |

 

There were no brokernon-votes cast on any of the above matters.

 

19

----

Table of Contents

 

**PART II**

 

**ITEM 5.              MARKETFOR REGISTRANT’S COMMON EQUITY, RELATED STOCKHOLDER MATTERS AND ISSUERREPURCHASES OF EQUITY SECURITIES**

 

**Market Information**

 

Our common stock currentlytrades on the NYSE Amex (formerly known as the American Stock Exchange) underthe symbol “EGT.”

 

The following table setsforth the high and low closing sale prices of our common stock, as reported bythe NYSE Amex, for each quarter during the past two fiscal years:

 
| **2008**       | ** ** | **Low** | ** ** | **High** | ** ** |
|----------------|------------|---------|------------|----------|------------|
| Fourth Quarter |       | $       | **0.03**   |     | $          | **0.36** |   |
| Third Quarter  |       | $       | **0.25**   |     | $          | **1.22** |   |
| Second Quarter |       | $       | **1.15**   |     | $          | **2.23** |   |
| First Quarter  |       | $       | **1.71**   |     | $          | **4.74** |   |
|           |       |    |       |     |       |
| **2007**       | ** ** | **Low** | ** ** | **High** | ** ** |
| Fourth Quarter |       | $       | **3.41**   |     | $          | **5.78** |   |
| Third Quarter  |       | $       | **2.60**   |     | $          | **4.37** |   |
| Second Quarter |       | $       | **2.63**   |     | $          | **4.05** |   |
| First Quarter  |       | $       | **1.87**   |     | $          | **2.90** |   |

 

**Holders of Record**

 

As of March 23, 2009,we had outstanding 114,956,667 shares of common stock, held by approximately244 shareholders of record.

 

**Dividend Policy**

 

We have never declared orpaid cash dividends on our common stock. We presently intend to retain earningsto finance the operation and expansion of our business and do not anticipatedeclaring cash dividends in the foreseeable future.

 

**Equity Compensation Plan Information**

 

In September 2008, our shareholdersapproved the adoption of our 2008 Stock Incentive Plan. We previously had twoother stock options plans, our Amended and Restated 1999 Stock Option Plan andour Amended and Restated 1999 Directors’ Stock Option Plan, both of whichexpired in January 2009.  However,all options previously granted under our expired stock option plans remainoutstanding.  Pursuant to theaforementioned plans, as of December 31, 2008, there were optionsoutstanding to purchase 15,246,267 shares of our common stock with a weightedaverage exercise price per share of $2.28 and options available for futureissuance to purchase 5,000,000 shares of our common stock. In September 2007,our stockholders approved the issuance of options to purchase five millionshares of our common stock pursuant to the initial closing of the transactionsunder the Product Participation Agreement to certain employees andnon-employees. Each option had an exercise price of $2.90 per share and willvest over a three-year period and have a five-year term.

 

The following table setsforth certain information as of December 31, 2008 about our stock plansunder which our equity securities are authorized for issuance.

 

20

----

Table ofContents

 
| **Plan Category**                                     | ** ** | **(a)   Number of Securities  to be Issued Upon  Exercise of  Outstanding  Options, Warrants  and Rights** | ** ** | **(b)  Weighted-Average  Exercise Price of  Outstanding  Options,  Warrants and  Notes Rights** | ** ** | **(c)  Number of Securities  Remaining Available for  Future Issuance Under  Equity Compensation  Plans  (Excluding Securities  Reflected In Column (A))** | ** ** |
|------------------------------------------------------------|------------|---------------------------------------------------------------------------------------------------------------------------------------------------------|------------|----------------------------------------------------------------------------------------------------------------|------------|-------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|------------|
| Equity compensation plans approved by security holders     |       | 15,246,267                                                                                                                                              |       | $                                                                                                              | 2.28       |                                                                                                                                                                                                              | 5,000,000  |   |
| Equity compensation plans not approved by security holders |       | —                                                                                                                                                  |       | —                                                                                                         |       | —                                                                                                                                                                                                            |       |
| Total                                                      |       | 15,246,267                                                                                                                                              |       | $                                                                                                              | 2.28       |                                                                                                                                                                                                              | 5,000,000  |   |

 

The first column reflectsoutstanding stock options to purchase (i) 10,201,667 shares of commonstock pursuant to our Amended and Restated 1999 Stock Option Plan, (ii) 144,600shares of common stock pursuant to our Amended and Restated 1999 Directors’Stock Option Plan, (iii) 4,900,000 shares of common stock pursuant to theoptions approved our stockholders in September 2007 and (iv) nilshares of common stock pursuant to our 2008 Stock Incentive Plan.

 

The third column reflects5,000,000 shares remaining for issuance under our 2008 Stock Incentive Plan.

 

**ITEM 6.              SELECTEDFINANCIAL DATA**

 

Not applicable.

 

**ITEM 7.              ****MA****NAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTSOF OPERATIONS**

 

**OVERVIEW**

 

We intend for thisdiscussion to provide the reader with information that will assist inunderstanding our financial statements, the changes in certain key items inthose financial statements from year to year, and the primary factors thataccounted for those changes, as well as how certain accounting principlesaffect our financial statements.  The discussion also provides informationabout the financial results of the various segments of our business to providea better understanding of how those segments and their results affect ourfinancial condition and results of operations as a whole.  This discussionshould be read in conjunction with our consolidated financial statements andaccompanying notes as of and for the fiscal years ended December 31, 2008and 2007 included elsewhere in this report.

 

Our operations currentlyconsist of three segments:

 

·                  *Gamingmachine participation*, which focuses on our ownership ofelectronic gaming machines placed in resorts, hotels, and other venues acrosscertain countries in Asia placed on a revenue sharing basis;

 

·                  *Tablegame products,*which focuses on the design, manufacture anddistribution of table game products, including traditional and RFID casinochips, and chip washers; and

 

·                  *Non-gamingproducts,* which focuses on the design, manufacture and saleof component parts primarily for the automotive industry.

 

During the 2008 year, wefocused on the growth of our gaming machine participation operations, which arethe leasing of electronic gaming machines placed with venue owners on a revenueshare basis 

 

21

----

Table of Contents

 

across certain countries inAsia.  Revenue from our electronic gaming machine participation operationscomprised twenty eight percent (28%) of our total revenues for the year ended December 31,2008.

 

Our Dolphin business, whichis located in Melbourne, Australia, engages in the design, manufacture anddistribution of traditional and RFID casino chips and component parts primarilyfor the automotive industry.  Revenue from our Dolphin non-gaming operationswas approximately fifty seven percent (57%) of our total revenue in fiscal2008.

 

For fiscal year 2008,revenue from our table game products comprised fifteen percent (15%) of ourtotal revenue.

 

**RESULTS OF OPERATIONS - YEARSENDED DECEMBER 31, 2008 AND 2007**

 

The following is a scheduleshowing summarized operating results on a consolidated basis and separately byeach of our three segments:  gaming machine participation, table gameproducts and non-gaming products.

 
| ** **                       | ** ** | ** ** | ** **  | ** ** | ** ** | **Increase/(Decrease)** | ** ** |
|----------------------------------|------------|------------|-------------|------------|------------|-------------------------|------------|
| ** **                       | ** ** | ** ** | ** **  | ** ** | ** ** | **from 2007 to 2008**   | ** ** |
| ** **                       | ** ** | **2008**   | ** **  | **2007**   | ** ** | **Dollar Amount**       | ** ** | **% Amount** | ** ** |
| Total:                           |       |       |        |       |       |                    |       |   |   |
| Revenues                         |       | $          | 12,309,881  |       | $          | 12,240,563              |       | $ | 69,318 |   | 1 | % |
| Gross loss                       |       | $          | (5,053,559  | )          | $          | (486,849                | )          | $ | (4,566,710 | ) | 938 | % |
| Gross margin percentage          |       | (41        | )%          | (4         | )%         | (37                     | )%         | 925 | % |
| Operating loss                   |       | $          | (27,767,209 | )          | $          | (234,648,661            | )          | $ | 206,881,453 |   | (88 | )% |
| Net loss                         |       | $          | (26,955,196 | )          | $          | (234,598,580            | )          | $ | 207,643,384 |   | (89 | )% |
|                             |       |       |        |       |       |                    |       |   |   |
| Basic and diluted loss per share |       | $          | (0.23       | )          | $          | (4.55                   | )          | $ | (4.31 | ) | (95 | )% |
|                             |       |       |        |       |       |                    |       |   |   |
| Gaming machine  participation:   |       |       |        |       |       |                    |       |   |   |
| Revenues                         |       | $          | 3,433,096   |       | $          | 389,596                 |       | $ | 3,043,500 |   | 781 | % |
| Gross loss                       |       | $          | (5,638,343  | )          | $          | (288,129                | )          | $ | (5,350,214 | ) | 1,857 | % |
| Gross margin percentage          |       | (164       | )%          | (74        | )%         | (93                     | )%         | 126 | % |
|                             |       |       |        |       |       |                    |       |   |   |
| In-service units                 |       | 977        |        | 320        |       | 657                     |       | 205 | % |
|                             |       |       |        |       |       |                    |       |   |   |
| Table game products:             |       |       |        |       |       |                    |       |   |   |
| Revenues                         |       | $          | 1,805,174   |       | $          | 5,206,076               |       | $ | (3,400,902 | ) | (65 | )% |
| Gross loss                       |       | $          | (327,535    | )          | $          | (181,406                | )          | $ | (146,128 | ) | 81 | % |
| Gross margin percentage          |       | (18        | )%          | (3         | )%         | (15                     | )%         | (500 | )% |
|                             |       |       |        |       |       |                    |       |   |   |
| Units sold:                      |       |       |        |       |       |                    |       |   |   |
| Shufflers                        |       | 334        |        | 177        |       | 157                     |       | 89 | % |
| DeckCheckers                     |       | 1          |        | 98         |       | (97                     | )          | (99 | )% |
| ChipWashers                      |       | 2          |        | 4          |       | (2                      | )          | (50 | )% |
| RFID Chips                       |       | 144,400    |        | 1,005,502  |       | (861,102                | )          | (86 | )% |
|                             |       |       |        |       |       |                    |       |   |   |
| Non-gaming products:             |       |       |        |       |       |                    |       |   |   |
| Revenues                         |       | $          | 7,071,611   |       | $          | 6,644,891               |       | $ | 426,720 |   | 6 | % |
| Gross profit/(loss)              |       | $          | 912,319     |       | $          | (17,314                 | )          | $ | 929,632 |   | N/A |   |
| Gross margin percentage          |       | 13         | %           | —     | %          | 218                     | %          | N/A |   |
|                                  |            |            |             |            |            |                         |            |  |  |  |  |  |  |

 

**Overview**

 

Total revenues increasedslightly and the gross loss increased in fiscal 2008 over the prior yearprimarily due to the increase in gaming machine depreciation. Participationrevenue was increased by 

 

22

----

Table of Contents

 

$3,043,500, reflecting thesignificant growth in the number of gaming machines in operation.  However, table game product sales decreasedas a result of the slowdown in new property openings in Macau.

 

We incurred a net loss of$26,955,196 and $0.23 per share in fiscal 2008 as a result of higher operatingexpenses including depreciation of gaming machines and corporate overheadcosts. In addition, the operating loss and loss per share in fiscal 2008 werenegatively impacted by non-recurring transactions, most of which resulted innon-cash charges, as follows:

 

·                  $1.4 million ofimpairment to prepaid commissions.

 

·                  Restructuringcharges of $666,125 due to staff reductions and closure of the research anddevelopment center located in Zhuhai, China and administrative office in theU.S.

 

**Gaming MachineParticipation**

 

In September 2007, we began ourelectronic gaming machine participation operations in Asia as part of ourprimary focus on placing gaming machines on a revenue sharing basis. Revenuefrom our gaming machine participation operations during fiscal year 2008 was$3,433,096 compared to revenues of $389,596 for fiscal 2007.  The increase in revenue was primarily theresult of a full year operations in fiscal 2008 compared to four months ofstart-up operations in fiscal 2007.  Ourgross loss from gaming machine participation operations for fiscal 2008 was$5,638,343 compared to a gross loss of $288,129 for fiscal 2007.  Our costs of goods sold for fiscal 2008included $8,292,582 of depreciation of electronic gaming machines and aftergiving no effect to depreciation expenses we had a gross income of $2,654,239for fiscal 2008.

 

As of December 31, 2008we had a total number of gaming machines of 2,075 of which 1098 machines wereheld in inventory and 977 machines were in operation and generating revenue infive venues in the Philippines and three venues in Cambodia. The term “gamingmachines” refers to gaming machine “seats” as multi-player gaming machines havemore than one seat.

 

**On December 2,2008, Cambodia’s Prime Minister issued a directive which requires slot machineoperators in the country to obtain licenses issued by the Ministry of Economyand Finance and to operate only in hotels certified by the Ministry ofTourism.  According to the directive, existing slot machine operators havesix months to comply.  In addition, the directive seeks strict compliancewith the foreigners-only rule that permits only foreigners or Cambodianswith foreign passports to gamble in the country.**

** **

OnFebruary 24, 2009, Cambodia’s Prime Minister called for the closure of thecountry’s sole bookmaker, Cambo Six and said the government would not renew itslicense upon expiration in 2011.  Subsequent to this action, all but twoof the approximately 70 slot clubs in Cambodia’s Phnom Penh area were eithertemporarily or permanently closed. Our partner NagaWorld, which operates underan exclusive casino license in the Phnom Penh area, is one of the two gamblingvenues that remain open.

 

As of March 23, 2009,we have one venue in Cambodia. Our sole venue in operation in Cambodia is PremierClub at NagaWorld, which has an exclusive casino license within a 200 kilometerradius of the capital city of Phnom Penh. As at the date of this filing, wecurrently have approximately 200 machines in operation at NagaWorld.  As of March 23, 2009, we had 1,033 machinesin operation and generating revenue in five venues in the Philippines and onevenue in Cambodia, and we held 1,142 machines in inventory.

 

**We anticipate additional machineplacements in 2009 through the addition of machines in existing high-performingvenues and through the rollout of new contracts in the Philippines and theIndo-China region.  However, in the eventgaming machine performance at a contracted venues does not meet our**

** **

**23**

----

**Tableof Contents**

** **

**expectations, we may choose towithdraw all or a portion of our gaming machines from that venue for futureredeployment in new or existing venues with better performance.**

 

**Table Game Products**

 

Table game products revenuedecreased primarily as a result of decreases in shuffler revenue and chiprevenue.  Deck Checker revenue decreased by approximately $1,026,000 to$149,000 for the year ended December 31, 2008 compared to $1,175,000 inthe prior year.  The decrease in Deck Checker revenue is a result of theslow down of new casino openings in Macau and the decrease in chip revenue of$1,686,000 from $2,266,000 in fiscal 2007 to $580,000 in fiscal 2008 is due tothe same reason.

 

In fiscal 2008, table gameproduct sales were approximately $1,805,000, compared to sales of $5,206,000 infiscal 2007.  Our gross loss on tablegame products increased in fiscal 2008 over the prior year mainly due to thedecrease in sales volume.

 

**Non-Gaming Products**

 

Non-gaming products revenue,which consists of automotive tooling and parts, increased in fiscal 2008 overfiscal 2007 primarily due to a strong demand for automotive parts during thefirst half of 2008.

 

Gross margins improved significantlydue to improvements in production efficiencies, reduced production headcountand strong sales volume in 2008.  In 2006, we converted our productionline for a new long-term automotive contract incurring costs of $1.8 million.  Barring any unforeseen circumstances andregardless of the recent downturn in the global car industry, we remainconfident in our non-gaming business, in particular, due to a recent increasein our orders trends as a result of some of our competitors having closed down.

 

**Operating Expenses**

 

The following is a scheduleshowing expenses on a consolidated basis:

 
| ** **                                                                            | ** ** | ** **    | ** **     | ** **      | ** ** | **Increase/(Decrease)** | ** ** |
|---------------------------------------------------------------------------------------|------------|---------------|----------------|-----------------|------------|-------------------------|------------|
| ** **                                                                            | ** ** | ** **    | ** **     | ** **      | ** ** | **from 2007 to 2008**   | ** ** |
| ** **                                                                            | ** ** | **2008**      | ** **     | **2007**        | ** ** | **Dollar Amount**       | ** ** | **% Amount** | ** ** |
| **Selling, general and administrative (including  stock-based compensation expense)** |       | **$**         | **17,875,704** | ** **      | **$**      | **18,139,530**          | ** ** | **$** | **(263,826** | ) | **(1** | )% |
| **Impairment of assets**                                                              |       | **2,118,660** |           | **40,458,972**  |       | **(38,340,312**         | )          | **(95** | )% |
| **Restructuring charges**                                                             |       | **666,125**   |           | **1,362,750**   |       | **(696,625**            | )          | **(51** | )% |
| **Research and development**                                                          |       | **968,922**   |           | **974,870**     |       | **(5,948**              | )          | **(1** | )% |
| **Depreciation and amortization**                                                     |       | **1,084,239** |           | **1,002,607**   |       | **81,632**              |       | **8** | % |
| **Contract acquisition cost**                                                         |       | **—**    |           | **170,857,000** |       | **(170,857,000**        | )          | **(100** | )% |
| **Loss on extinguishment of debt**                                                    |       | **—**    |           | **1,366,083**   |       | **(1,366,083**          | )          | **(100** | )% |
| **Total**                                                                             |       | **$**         | **22,713,650** | ** **      | **$**      | **234,161,812**         | ** ** | **$** | **(211,448,162** | ) | **(90** | )% |

 

***Selling, General andAdministrative Expenses***

 

Duringfiscal 2008, selling, general and administrative expenses decreased by $0.3million.   Stock-based compensation expenses decreased by $3.3million to $2.6 million compared to $5.9 million in the prior year due toaccelerated vesting of outstanding options triggered by the change of controlwhich occurred in September 2007 and 5,000,000 options granted toexecutive management and to affiliates of Elixir Group.  Salaries andwages increased by $1.6 million in 2008 over the prior year primarily due to anincrease in the number of senior management executives. The remaining increaseof $2.4 million was due to an increase in expenses relating to investorrelations, travel, insurance, rent, bad debt, taxes and 

 

24

----

Table of Contents

 

otherrelated office expenses. This had been partially offset by a decrease in legalfees of $1.0 million as a result of heavy litigation costs with Shuffle Masterin 2007.

 

***Impairment of Goodwill,Intangibles and Other Long-Lived Assets***

 

Intangible assets consist ofpatents, customer relationships, trademarks and goodwill. They are recorded atcost and are amortized, except goodwill, on the straight-line basis over theperiod of time the asset is expected to contribute directly or indirectly tofuture cash flows, which range from 10 to 13 years. The straight-lineamortization method is utilized because we believe there is not a more reliablydeterminable method of reflecting the pattern in which the economic benefits ofthe intangible assets are consumed or otherwise used up.

 

We measure and test goodwilland intangible assets for impairment in accordance with Statement of FinancialAccounting Standards SFAS No. 142, *Goodwill and OtherIntangible Assets*, (“SFAS No. 142”), and SFAS No. 144, *Accounting for the Impairment or Disposal of Long-Lived Assets*(“SFAS No. 144”), at least annually on December 31 or more often ifthere are indications of impairment.

 

Long-lived assets anddefinite-life intangible assets are reviewed for impairment quarterly orwhenever events or circumstances indicate that the carrying amounts of assetsmay not be recoverable in accordance with SFAS No. 144.  We evaluate recoverability of assets to beheld and used by comparing the carrying amount of an asset to future netundiscounted cash flows to be generated by the asset. If such assets areconsidered to be impaired, the impairment to be recognized is measured as theamount by which the carrying amount of the assets exceeds the fair value of theassets. Such reviews assess the fair value of the assets based upon ourestimates of the future cash flows we expect the assets to generate. Inresponse to changes in industry and market conditions, we may be required tostrategically realign our resources in the future which, in turn, could resultin an impairment of long-lived assets.

 

At the end of 2008, weassessed the potential impairment of intangible assets subject to amortizationbased upon the factors identified above in accordance with SFAS No. 144. Management believes that there is no indication of impairment losses onlong-lived assets since Dolphin has generated positive cash flows in 2008 and thereare no significant events that cause a decrease in asset value.  While management foresees a downturn in thelocal automotive sector in the first part of 2009, Dolphin has been awarded amajor contract for RFID chips with a new casino opening in April 2009.  This will boost cash flows in the first partof 2009.  We also expect that the localautomotive market will slowly recover in the second part of 2009.

 

The following tablesummarizes the impairment of goodwill and intangible assets:

 
| ** **                 | ** ** | ** **  | ** **  | ** **    | ** ** | **Increase/(Decrease)** | ** ** |
|----------------------------|------------|-------------|-------------|---------------|------------|-------------------------|------------|
| ** **                 | ** ** | ** **  | ** **  | ** **    | ** ** | **from 2007 to 2008**   | ** ** |
| ** **                 | ** ** | **2008**    | ** **  | **2007**      | ** ** | **Dollar Amount**       | ** ** | **% Amount** | ** ** |
| **Goodwill**               |       | **$**       | **—**  | ** **    | **$**      | **10,576,526**          | ** ** | **$** | **(10,576,526** | ) | **(100** | )% |
| **Customer relationships** |       | **—**  |        | **2,535,898** |       | **(2,535,898**          | )          | **(100** | )% |
| **Trademarks**             |       | **—**  |        | **45,000**    |       | **(45,000**             | )          | **(100** | )% |
| **Patents**                |       | **695,743** |        | **—**    |       | **695,743**             |       | **100** | % |
| **Total**                  |       | **$**       | **695,743** | ** **    | **$**      | **13,157,424**          | ** ** | **$** | **(12,461,681** | ) | **(95** | )% |

 

***Restructuring Charge***

 

In accordance with SFAS No. 146,*Accounting for Cost Associated with Exit orDisposal Activities*, on September 10, 2007, as part of theinitial closing of the transactions under the Participation Agreement withElixir Group, we announced a change in executive management.  As part ofthe restructuring, in October 2007 we gave termination notices to allservice technicians, inventory management personnel, 

 

25

----

Table of Contents

 

some regulatory compliancepersonnel and some administrative staff.  All these costs were paid after December 31,2007.  Restructuring charges have been included in operating costs andexpenses in the consolidated statement of operations.  During 2008, we incurred a restructuringcharge of $666,125 for severance wages and benefits based upon contractual andother agreements with employees which only includes charges for terminationbenefits measured at the estimated fair value at the termination date.  Itdoes not include charges for services yet to be rendered.  The headcountreduction in 2008 was approximately 8% of total workforce.

 

***Research and DevelopmentExpenses***

 

Research and developmentexpenses decreased as a result of reduced expenses in 2008 related to thedevelopment of ShufflePro and Chip Washer products.  As a result of oursale to Shuffle Master of our portfolio of automated card verificationmachines and electronic card shuffling systems, all related intellectualproperty, and certain inventory of such products pursuant to the Purchase andSettlement Agreement as set out above, it is anticipated that our futureresearch and development will be focused on non-gaming product enhancements.

 

***Depreciation and AmortizationExpenses***

 

Depreciation andamortization expenses increased as a result of 2008 being the first full yearof operations of the gaming business. We owned over $48 million of gamingmachines and related systems as of December 31, 2008, most which weresubject to depreciation and amortization, respectively, during the year.

 

**Other Income/(Expenses)**

 
| ** **                        | ** ** | **2008** | ** ** | **2007** | ** ** | **2008 vs. 2007** | ** ** |
|-----------------------------------|------------|----------|------------|----------|------------|-----------------------------|------------|
|                              |       |     |       |     |       |                        |       |   |   |
| Interest expense and finance fees |       | $        | (737,028   | )        | $          | (2,066,361                  | )          | $ | 1,329,333 |   | (64 | )% |
| Interest income                   |       | 706,552  |       | 323,312  |       | 383,240                     |       | 119 | % |
| Acquisition costs                 |       | —   |       | (195,431 | )          | 195,431                     |       | (100 | )% |
| Gain on dispositions of assets    |       | 89,324   |       | —   |       | 89,324                      |       | 100 | % |
| Foreign currency gains            |       | 252,568  |       | 714,094  |       | (461,526                    | )          | (65 | )% |
| Patent sale                       |       | —   |       | 500,000  |       | (500,000                    | )          | (100 | )% |
| Other                             |       | 291,275  |       | 21,342   |       | 269,933                     |       | 1,265 | % |
| Total other income/(expenses)     |       | $        | 602,691    |     | $          | (703,044                    | )          | $ | 1,305,735 |   | (186 | )% |

 

***Income Tax Provision***

 
| ** **           | ** ** | **2008** | ** ** | **2007** | ** ** | **2008 vs. 2007** | ** ** |
|----------------------|------------|----------|------------|----------|------------|-----------------------------|------------|
| Interest tax benefit |       | $        | 209,322    |     | $          | 753,125                     |       | $ | (543,803 | ) | (72 | )% |
|                      |            |          |            |          |            |                             |            |  |  |  |  |  |

 

The effective tax rate in2008 was 0.8% which was significantly lower than the federal statutory rate dueprimarily to the valuation allowance against the Company’s deferred tax assets(see Note 16).

 

***Interest Expense andFinance Fees***

 

The decrease in interestexpense and finance fees was due to the lower average principal balance onnotes payable and the lower interest rate on notes payable in fiscal 2008versus fiscal 2007. The long-term debt of $11.0 million accruing interest at13% was paid off in November 2007. We signed a note agreement of $15.0 million with Elixir Internationalaccruing 8% interest in April 2008. The interest rate was subsequentlyreduced to 5% in November 2008.

 

26

----

Table ofContents

 

***Interest Income***

 

Interest income increased asa result of the increase in our cash and cash equivalents held in overnightmoney market accounts.  We received large funding from the privateplacement of common stock in the fourth quarter of 2007 and the average cashposition was high at the start of 2008 and only depleted over the year.  The average cash holdings per month werehigher in 2008 than in 2007.

 

***Foreign CurrencyTransactions***

 

Gains as a result of foreigncurrency transactions occurred primarily as a result of U.S. dollar denominatedpayables in the Philippine subsidiary, which commenced operations in fiscal2007 and whose functional currency is the Philippine peso.

 

**FINANCIAL CONDITION**

** **

**Liquidity and Capital Resources**

** **

**At December 31,2008, we had total cash and cash equivalents of $14.5 million and a workingcapital balance of $7.6 million.  Subsequent to December 31, 2008,our working capital has been negatively effected by purchases of gamingmachines and losses from operations; however our working capital has also beenpositively effected by the sale of our Deckchecker and card shuffler assets for$2.4 million of cash, with a possible additional $400,000 based on a finalinventory evaluation.**

** **

**During thetwelve-month period ended December 31, 2008, we incurred negative cashflow from operations of approximately $30.1 million.  Our current gamingmachine inventory level is approximately 1,100 gaming machines, which we willseek to re-deploy into new projects and existing sites. We intend to purchase alimited number of gaming machines during 2009 to augment our existing inventoryof machines and enhance game floor mix to better optimize performance atanticipated new and existing venues. With limited exceptions, we believe we will be able to purchasesecond-hand machines at significantly discounted prices.  We will alsopurchase casino management systems during 2009 for placement in previouslypurchased or new gaming machines depending upon our business plan’s execution.Based on our existing growth plans, we anticipate capital expenditures will belimited to approximately $3.0 million in 2009.**

** **

**Based on:**

** **

**·**                  ourextensive costs cutting measures, which involve, amongst others initiatives,the closing down of our China factory and Macau office and significantreductions in traveling and entertainment expenses, which once fullyimplemented in the third quarter of 2009 should result in annualized cashselling, general and administrative cost savings of approximately 30% comparedto 2008 levels;

** **

**·**                  thereceipt of the sale proceeds from the sale of our portfolio of automated cardverification machines and electronic card shuffling systems, all relatedintellectual property, and certain inventories of such products to ShuffleMaster, Inc. in March 2009; and

** **

**·**                  ourassumption that we will be successful in our endeavors to ramp up the revenuebase by focusing our placement of gaming machines in better performing venuesand plans to provide value-added services, such as promotion and marketingadvisory services, to certain venues with a view to improving net win permachine, we believe our available working capital, along with cash expected tobe generated from operations, will allow us to meet our working capital needsfor the next 12 months.

 

**27**

----

**Table of Contents**

** **

**However, ifwe were to undertake any major new projects in addition to those in our currentgrowth plans, or if we fail to realize our working capital assumptions, we mayrequire additional funding in 2009, in which case we will look into the optionsfor raising additional funds through various financing sources, including thesale of debt or equity securities and the procurement of commercial debtfinancing and vendor financing. However, there can be no guarantees that suchfunds will be available on commercially reasonable terms, if at all. If suchfinancing is not available on satisfactory terms, we may be unable to expand orcontinue our business as desired and operating results may be adverselyaffected. Any debt financing will increase expenses and must be repaidregardless of operating results and may involve restrictions limiting ouroperating flexibility and any equity financing will be dilutive to our presentstockholders.**

** **

**In additionto the cost cutting initiatives referred to directly above, during 2008 weundertook the follow steps to reduce and restructure our balance sheetliabilities and payables:**

** **

**·**                  In November 2008, we returned 715 gaming machines toElixir International at their net book value as of September 30, 2008, inreturn for Elixir International’s reduction of approximately $13.9 million intrade payables owed by us.

** **

**·**                  In April 21, 2008, we entered into a Trade CreditFacility Agreement (the “Facility Agreement”) with Elixir International. Upon entering into the Facility Agreement, we immediately issued the firstpromissory note pursuant to the terms of the Facility Agreement in theprincipal amount of $15.0 million (the “Initial Advance”).  The InitialAdvance extinguished a then existing current trade payable of an equivalentamount to Elixir International in respect to gaming machines previouslyacquired.  In November 2008, weagreed with Elixir International to amend the Facility agreement to allow us torepay the then current principal amount of the Initial Advance of $12.1million, plus any accrued interest thereon, in 24 equal monthly installmentscommencing January 1, 2009 and to reduce the fixed interest rate on theInitial Advance to five percent (5.0%) from eight percent (8.0%) perannum.  This results in our making equal monthly payments of principal andaccrued interest to Elixir International in the amount of $529,490 with thefirst payment in January 2009.  Wecurrently do not expect to obtain any further amount of credit with ElixirInternational under the Facility Agreement.

** **

**Cash Flow Summaries**

 
| ** **                              | ** ** | **2008**    | ** **  | **2007**    | ** ** | **Increase/(Decrease)  from 2007 to 2008** | ** ** |
|-----------------------------------------|------------|-------------|-------------|-------------|------------|-----------------------------------------------------------|------------|
| Cash provided by/(used in):             |       |        |        |        |       |                                                      |       |
| Operations                              |       | $           | (30,096,613 | )           | $          | (11,601,905                                               | )          | $ | (18,494,708 | ) |
| Investing                               |       | (19,999,590 | )           | (10,313,674 | )          | (9,685,916                                                | )          |
| Financing                               |       | (3,440,858  | )           | 89,868,511  |       | (93,309,369                                               | )          |
| Effect of exchange rate changes on cash |       | (245,326    | )           | —      |       | (245,326                                                  | )          |
| Net change                              |       | $           | (53,782,387 | )           | $          | 67,952,932                                                |       | $ | (121,735,319 | ) |

 

***Operations***

 

Cash used in operationsincreased as a result of the increase in our net loss (after giving affect tonon-cash charges) including one-time payments for the restructuring andprepayments on insurance and leased office deposits.

 

***Investing***

 

Cash used in investingactivities increased as a result of the purchase of electronic gaming machinesvia Elixir Group and other suppliers.  Electronic gaming machines andproperty, plant and equipment in the net amount of $20.1 million, net of returnof approximately $13.9 million, were purchased in the fiscal year 2008.

 

28

----

Table ofContents

 

***Financing***

 

Cash provided by financingactivities decreased as a result of a private placement of our common shareswith institutional investors in the fourth quarter of fiscal 2007.  In October 2007,we completed a transaction whereby we sold 15 million shares of newly issuedcommon stock to institutional investors at a price of $3.50 per share,generating net proceeds to the Company, after issuance costs, of $49.8million.  In December 2007, Elixir Group entered into a privatetransaction with institutional investors whereby Elixir Group sold 16,000,000warrants to purchase our common shares with an exercise price of $2.65 per sharefor $0.86 per warrant.  As a condition of the sale, the warrants wereimmediately exercised at the closing and the Company received $40.7 million innet proceeds.

 

**Financial Condition**

 
| **** ****                      | **** **** | ****2008****   | **** **** | ****2007****   | **** **** | ****Increase/(Decrease)**************from  2007 to 2008**** | **** **** |
|-------------------------------------|----------------|----------------|----------------|----------------|----------------|-------------------------------------------------------------|----------------|
| **Total assets**                    | ** **     | **$**          | **76,413,722** | ** **     | **$**          | **123,594,217**                                             | ** **     | **$** | **(47,180,495** | **)** | **(38** | **)%** |
| **Total liabilities**               | ** **     | **18,930,387** | ** **     | **39,306,284** | ** **     | **(20,375,897**                                             | **)**          | **(52** | **)%** |
| **Total stockholders’ equity** | ** **     | **$**          | **57,483,335** | ** **     | **$**          | **84,287,933**                                              | ** **     | **$** | **(26,804,598** | **)** | **(32** | **)%** |

 

Changes from 2007 to 2008are due to the following:

 

·                  Total assetsand liabilities decreased as a result of the sale and return of 715 electronicgaming machines to Elixir International, who agreed to extinguish a thencurrent trade payable of approximately $13.9 million of ours to ElixirInternational as consideration for the transaction.

 

·                  Stockholders’equity decreased primarily as a result of operating losses incurred during the2008 year.

 

**Contractual CashObligations and Off Balance Sheet Arrangements**

 

Our contractual cashobligations under debt agreements, capital leases and operating leasesincluding interest payments, for the next five years as of December 31,2008 are as follows:

 
| ** **                  | ** ** | ** ** | ** ** | **Payments Due by Period** | ** ** |
|-----------------------------|------------|------------|------------|----------------------------|------------|
| **Contractual Obligations** | ** ** | **Total**  | ** ** | **1 Year**                 | ** ** | **2-3 Years** | ** ** | **4-5 Years** | ** ** | **After 5 Years** | ** ** |
| Debt agreements             |       | $          | 12,098,509 |                       | $          | 5,913,421 |   | $ | 6,185,088 |   | $ | — |   | $ | — |   |
| Capital leases              |       | 737,795    |       | 269,371                    |       | 258,553 |   | 209,871 |   | — |   |
| Operating leases            |       | 3,476,512  |       | 939,777                    |       | 1,468,305 |   | 1,049,897 |   | 18,533 |   |
| Interest expense            |       | 796,405    |       | 527,844                    |       | 250,520 |   | 18,041 |   | — |   |
| Total                       |       | $          | 17,109,221 |                       | $          | 7,650,413 |   | $ | 8,162,466 |   | $ | 1,277,809 |   | $ | 18,533 |   |

 

**CRITICAL ACCOUNTINGPOLICIES AND ESTIMATES**

 

Our consolidated financialstatements were prepared in conformity with accounting principles generallyaccepted in the United States. Accordingly, we are required to make estimatesincorporating judgments and assumptions we believe are reasonable based on ourhistorical experience, contract terms, observance of known trends in ourCompany and the industry as a whole, as well as information available fromother outside sources. Our estimates affect amounts recorded in the financialstatements and actual results may differ from initial estimates.

 

We consider the followingaccounting estimates to be the most critical to fully understanding andevaluating our reported financial results. They require us to make subjectiveor complex judgments about matters that are inherently uncertain or variable.Senior management has discussed the development, 

 

29

----

Table of Contents

 

selection and disclosure ofthe following accounting estimates, considered most sensitive to changes fromexternal factors, with the audit committee of our board of directors.

 

*Intangible Assets,including Goodwill*

 

Intangible assets consist ofpatents, customer relationships, trademarks and goodwill. Intangible assets,other than goodwill, are recorded at cost and are amortized on thestraight-line basis over the period of time the asset is expected to contributedirectly or indirectly to future cash flows, which range from 10 to13 years. The straight-line amortization method is utilized because webelieve there is not a more reliably determinable method of reflecting thepattern in which the economic benefits of the intangible assets are consumed orotherwise used up.

 

We adopted SFAS No. 142,*Goodwill and Other Intangible Assets*, whereby goodwill isno longer amortized but is subject to periodic impairment tests. Otherintangible assets with finite lives, such as patents, customer relationshipsand trademarks will continue to be amortized over their useful lives.

 

Impairment testing forgoodwill and other intangibles requires judgment, including the identificationof reporting units, allocation of related goodwill, assignment of corporateshared assets and liabilities to reporting units, estimated future cash flows,and determinations of fair value. While we believe our estimates of futurerevenues and future cash flows are reasonable, different assumptions could materiallyaffect the assessment of useful lives, recoverability and fair value. If actualfuture cash flows fall below initial forecasts, we may need to recordadditional amortization and/or impairment charges.

 

*Inventory*

 

The determination ofobsolete or excess inventory requires us to estimate the future demand for ourproducts within specific time horizons, generally one year or less. If weexperience a significant unexpected decrease in demand for our products or ahigher occurrence of inventory obsolescence because of changes in technology orcustomer requirements, we could be required to increase our inventoryprovisions. Our inventories totaled $1.1 million and $1.7 million at December 31,2008 and 2007, respectively, after giving effect to inventory provisions. We recorded a provision of approximately $0.4 million for obsolete inventoryfor the year ended December 31, 2008.

 

*Consignment Inventory*

 

At December 31, 2008,we had consignment inventory of service supplies and parts of $235,318, net ofa provision for obsolescence of $372,698.  Revenue is not recognized, andthe title to the inventory remains with us, until ownership of the product andtitle passes to the distributor which occurs upon the distributor’s use of theproducts or sales to third-party customers.

 

*Gaming Equipment andSystems*

 

Gaming equipment and systemsare stated at cost.  We depreciate electronic gaming machines and systemsover a five-year useful life to a minimal salvage value, once placed inservice.

 

*Property and Equipment*

 

We are also required toestimate salvage values and useful lives for our property and equipment,including electronic gaming machines.  Trends in market demand andtechnological obsolescence may require us to record impairment charges. No impairments to property and equipment were recorded in 2008 and 2007.

 

30

----

Table ofContents

 

*Revenue Recognition*

 

We recognize revenue whenall of the following have been satisfied:

 

·                  persuasiveevidence of an arrangement exists;

·                  the price tothe customer is fixed and determinable;

·                  delivery hasoccurred and any acceptance terms have been fulfilled;

·                  no significantcontractual obligations remain; and

·                  collection isreasonably assured.

 

*Gaming MachineParticipation Revenue*

 

We earn recurring revenue byproviding customers with fully operational gaming floors consisting ofelectronic gaming machines and casino management systems.  Revenues arerecognized on the contractual terms of the participation agreements between usand the venue owners and are based on our share of net winnings, net of anypromotional and marketing expense which are contractually agreed to be sharedwith venue owners.

 

*Gaming and Non-GamingProduct Sales*

 

We recognize revenue fromthe sale of our products to end users based on shipments against customercontracts or purchase orders. Revenue from shuffler rentals is recorded at thefirst of each month in accordance with rental contract terms.  Wecompleted our transition to outsourcing all future sales to third-partydistributors during the fourth quarter 2007 and, thereafter, no longer recordrentals on our table game products.

 

We recognize revenue fromour sales to independent distributors based on shipments against distributorcontracts or purchase orders.  We recognize revenue on consignmentinventory when ownership of the product and title passes to the distributorwhich occurs when the distributor uses the product in its service organizationor sells to an end user.

 

The maintenance componentsthat are part of long-term sales contracts are recorded as deferred revenue andamortized over the remaining lives of the sales agreements after the initial90-day warranty as required by the Emerging Issues Task Force Issue No. 00-21,*Revenue Arrangements with Multiple Deliverables*.We provide for estimated warranty repair costs associated with sales contracts.Although there are no extended warranties offered for our products, we providefor maintenance contracts that are billed and recognized on a monthly basis. Asnoted above, future sales will be through our third-party distributors and wewill no longer directly offer long-term sales contracts or service tocustomers.  Therefore, as of December 31,2008, we have no remaining obligations to perform maintenance on gaming andnon-gaming products sold to end users.

 

*Stock-Based Compensation*

 

The Company adopted SFAS No. 123R, *Share-Based Payment*, to account for allits stock-based compensation beginning January 1, 2006, and elected themodified prospective method of transition. Under the fair value recognitionprovisions of SFAS No. 123R, for stock-based compensation accrued toemployees and non employee directors, the Company recognizes stock-basedcompensation expense for all service-based awards with graded vesting scheduleson a straight-line basis over the requisite service period for the entireaward. Initial accruals of compensation expense are based on the estimatednumber of shares for which requisite service is expected to be rendered.Estimates are revised if subsequent information indicates that forfeitures willdiffer from previous estimates, and the cumulative effect on compensation

31

----

Table ofContents

 

cost of a change in the estimated forfeitures isrecognized in the period of the change. For non-employee awards, the Company remeasures compensation cost eachperiod until the service condition is complete and recognizes compensation coston a straight-line basis over the requisite service period. Option valuationmodels require the input of highly subjective assumptions, and changes in theassumptions can materially affect the fair value estimate. Judgment is requiredin estimating stock price volatility, forfeiture rates, expected dividends, andexpected terms that options remain outstanding. Stock-based compensation expensetotaled $2.6 million and $5.9 million for the years ended December 31,2008 and 2007, respectively, and is included in selling, general andadministrative expense in the consolidated statements of operations.

 

*Contract Acquisition Fees*

 

The transactions under theParticipation Agreement are accounted for pursuant to EITF 96-18.  Inaccordance with EITF 96-18, we valued the initial issuance of 25,000,000 commonshares based on the market price of our stock and warrants to purchase88,000,000 common shares based on a Black-Scholes option-pricing calculation onthe measurement date, which occurred when the first performance milestone was achieved. The fair value of the common shares was initially capitalized in accordancewith SFAS 91, *Accounting for Non-Refundable Fees and CostsAssociated with Originating or Acquiring Loans and Initial Directs of Leases*,based on the market price of our stock and the fair value of the warrants wasdeferred.

 

In accordance with SFAS No. 144,this asset was tested for recoverability using present value techniques basedon estimated future cash flows and, as a result, contract acquisition fees of$77.8 million were reflected in the statement of operations for the year ended December 31,2007.

 

Immediately following theinitial closing of the transactions under the Participation Agreement, ElixirGroup became a related party and, in accordance with SFAS No. 13, initialdirect costs between related parties should not be capitalized.  As aresult, on the achievement of the future performance milestones by ElixirGroup, the remaining shares of common stock to be issued and future vesting ofwarrants were required to be expensed as incurred.  Accordingly, anadditional $93.1 million of contract acquisition fees were reflected in theconsolidated statement of operations for the year ended December 31, 2007.

 

*Income Taxes*

 

We are subject to incometaxes in the U.S. (including federal and state) and several foreignjurisdictions in which we operate. Deferred income tax balances reflect theeffects of temporary differences between the carrying amounts of assets andliabilities and their tax bases and are stated at enacted tax rates expected tobe in effect when taxes are actually paid or recovered. SFAS No. 109, *Accounting for Income Taxes,* requires that deferred taxassets be evaluated for future realization and reduced by a valuation allowanceto the extent it is believed deferred tax assets are not more likely than notto be realized in the future. Many factors are considered when assessing thelikelihood of future realizations of deferred tax assets, including recentcumulative earnings experience and expectations of future taxable income by theappropriate taxing jurisdiction, the carry-forward periods available for taxreporting purposes, and other relevant factors.

 

Significant judgment isrequired in evaluating tax positions and determining the provision for incometaxes. During the ordinary course of business, there are many transactions andcalculations for which the ultimate tax determination is uncertain. Effective January 1,2007, we adopted the provisions of FIN No. 48, *Accounting**for Uncertainty in Income Taxes and Interpretationof FASB Statement No. 109*, which contains a two-step approachto recognizing and measuring uncertain tax positions accounted for inaccordance with SFAS No. 109. The first step is to evaluate the taxposition for recognition by determining if the weight of available evidenceindicates it is more likely than not that the position will be sustained onaudit, including resolution of related appeals or litigation processes, if any.The second step 

 

32

----

Table of Contents

 

is to measure the taxbenefit as the largest amount which is more than 50% likely to be realized uponultimate settlement.  Many factors are considered when evaluating andestimating tax positions and tax benefits which may require periodicadjustments and which may not accurately anticipate actual outcomes.

 

We are subject to income taxexamination by tax authorities in jurisdictions in which we operate. There arecurrently no income tax returns under examination by the Internal RevenueService or any other major tax authorities.

 

*Recently Issued AccountingStandards*

 

In December 2007, theFinancial Accounting Standards Board issued Statement of Financial AccountingStandards No. 141(R), *Business Combinations*(“SFAS No. 141(R)”) which replaced SFAS No. 141, *BusinessCombinations*, but retains the requirement that the purchase methodof accounting for acquisitions be used for all business combinations. SFAS No. 141(R) expandson the disclosures previously required by SFAS No. 141, better defines theacquirer and the acquisition date in a business combination, and establishesprinciples for recognizing and measuring the assets acquired (includinggoodwill), the liabilities assumed and any non-controlling interests in theacquired business. SFAS No. 141(R) also requires an acquirer torecord an adjustment to income tax expense for changes in valuation allowancesor uncertain tax positions related to acquired businesses. SFAS No. 141(R) iseffective for all business combinations with an acquisition date falling in thefirst annual period following December 15, 2008 and early adoption is notpermitted. This accounting standard will be adopted as of January 1, 2009and management is currently evaluating the impact this will have on futureconsolidated financial statements.

 

In December 2007, theFASB issued SFAS No. 160, *Non-Controlling Interestin Consolidated Financial Statements, an Amendment of ARB No. 51*.This statement established accounting and reporting standards for ownershipinterests in subsidiaries held by parties other than the parent and for thedeconsolidation of a subsidiary where appropriate.  The standard also clarifies that anon-controlling interest in a subsidiary is an ownership interest in theconsolidated entity that should be reported as equity in the consolidatedfinancial statements. SFAS No. 160 changed the way the consolidated incomestatement is presented by requiring consolidated net income to be reported atamounts that include the amount attributable to both the parent and thenon-controlling interests. The statement also established reportingrequirements that provide sufficient disclosures to clearly identify anddistinguish between the interests of the parent and those of thenon-controlling owners. This statement became effective for fiscal yearsbeginning on or after December 15, 2008. There is no material impact onour financial position, results of operations or cash flows.

 

In September 2006, theFASB issued SFAS No. 157, *Fair Value Measurements*(“SFAS No. 157”), which clarifies the definition of fair value,establishes guidelines for measuring fair value, and expands disclosuresregarding fair value measurements. SFAS No. 157 does not require any newfair value measurements but eliminates inconsistencies in guidance found invarious prior accounting pronouncements. SFAS No. 157 was meant to beeffective to the Company on January 1, 2008. In February 2008,however, the FASB issued FASB Staff Position (FSP) SFAS No. 157-2, *Effective Date of FASB Statement No. 157*, that deferredthe effective date of SFAS No. 157 for one year for certain non-financialassets and non-financial liabilities. The Company has adopted SFAS No. 157 with respect to its financialassets and liabilities only and the adoption of this statement did not have amaterial impact on the Company’s financial position and results of operations.We are currently evaluating the impact, if any, of adopting fair value measurementfor non-financial assets and non-financial liabilities on our financialposition and results of operations.

 

InFebruary 2007, the FASB issued SFAS No. 159,*The Fair Value Option for Financial Assets andFinancial Liabilities*. SFAS No. 159 permits entities to chooseto measure at fair value many financial 

 

33

----

Table of Contents

 

instrumentsand certain other items that are not currently required to be measured at fairvalue.  Unrealized gains and losses onitems for which the fair value options have been elected are to be reported inearnings.  SFAS No. 159 is effective for fiscal years beginning afterNovember 15, 2007. The Company has elected not to adopt the SFAS 159fair value option.

 

**ITEM 7A.****                                           ****QUANTITATIVEAND QUALITATIVE DISCLOSURES ABOUT MARKET RISK**

 

Not applicable.

 

34

----

Table of Contents

 

**ITEM 8.****                                                    ****FINANCIALSTATEMENTS AND SUPPLEMENTARY DATA**

 

**INDEX TO FINANCIAL STATEMENTS**

 
| ** **                                                                                               | ** ** | **Page** |
|----------------------------------------------------------------------------------------------------------|------------|----------|
|                                                                                                     |       |     |
| Report of Independent  Registered Public Accounting Firm                                                 |       | 36       |
|                                                                                                     |       |     |
| Balance Sheets at December 31,  2008 and 2007                                                       |       | 38       |
|                                                                                                     |       |     |
| Statements of Operations for  the Years Ended December 31, 2008 and 2007                            |       | 39       |
|                                                                                                     |       |     |
| Statements  of Changes In Stockholders’ Equity for the Years Ended December 31, 2008  and 2007 |       | 40       |
|                                                                                                     |       |     |
| Statements  of Cash Flows for the Years Ended December 31, 2008 and 2007                            |       | 41       |
|                                                                                                     |       |     |
| Notes to  Financial Statements                                                                           |       | 42       |

 

35

----

Table ofContents

 

REPORT OF ERNST & YOUNG, INDEPENDENT REGISTERED PUBLICACCOUNTING FIRM

 

To the Board of Directorsand Stockholders of Elixir Gaming Technologies, Inc.:

 

We have audited theaccompanying consolidated balance sheet of Elixir Gaming Technologies, Inc.and Subsidiaries (the “Company”) as of December 31, 2008, and the relatedconsolidated statements of operations, stockholders’ equity and cash flows forthe year then ended. These financial statements are the responsibility of theCompany’s management. Our responsibility is to express an opinion on thesefinancial statements based on our audit.

 

We conducted our audit inaccordance with the standards of the Public Company Accounting Oversight Board(United States). Those standards require that we plan and perform the audit toobtain reasonable assurance about whether the financial statements are free ofmaterial misstatement.  We were not engaged to perform an audit of theCompany’s internal control over financial reporting. Our audit includesconsideration of internal control over financial reporting as a basis fordesigning audit procedures that are appropriate in the circumstances, but notfor the purpose of expressing an opinion on the effectiveness of the Company’sinternal control over financial reporting.  Accordingly, we express nosuch opinion.  An audit includes examining, on a test basis, evidencesupporting the amounts and disclosures in the financial statements. An auditalso includes assessing the accounting principles used and significantestimates made by management, as well as evaluating the overall financialstatement presentation. We believe that our audit provides a reasonable basisfor our opinion.

 

In our opinion, thefinancial statements referred to above present fairly, in all materialrespects, the consolidated financial position of the Company as of December 31,2008 and the consolidated results of its operations and its cash flows for theyear then ended, in conformity with accounting principles generally accepted inthe United States.

 

 

/s/ERNST & YOUNG

Hong Kong SAR

March 30, 2009

 

36

----

Table ofContents

 

REPORT OF ERNST &YOUNG LLP, INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM

 

To the Board of Directors and Stockholders ofElixir Gaming Technologies, Inc.:

 

We have audited the accompanying consolidatedbalance sheet of Elixir Gaming Technologies, Inc. and Subsidiaries (the“Company”) as of December 31, 2007, and the related consolidatedstatements of operations, stockholders’ equity and cash flows for the year thenended. These financial statements are the responsibility of the Company’smanagement. Our responsibility is to express an opinion on these financialstatements based on our audit.

 

We conducted our audit in accordance with thestandards of the Public Company Accounting Oversight Board (United States).Those standards require that we plan and perform the audit to obtain reasonableassurance about whether the financial statements are free of materialmisstatement.  We were not engaged to perform an audit of the Company’sinternal control over financial reporting. Our audit includes consideration ofinternal control over financial reporting as a basis for designing auditprocedures that are appropriate in the circumstances, but not for the purposeof expressing an opinion on the effectiveness of the Company’s internal controlover financial reporting.  Accordingly, we express no such opinion. An audit includes examining, on a test basis, evidence supporting the amountsand disclosures in the financial statements. An audit also includes assessingthe accounting principles used and significant estimates made by management, aswell as evaluating the overall financial statement presentation. We believethat our audit provides a reasonable basis for our opinion.

 

In our opinion, the financial statements referredto above present fairly, in all material respects, the consolidated financialposition of the Company as of December 31, 2007 and the consolidatedresults of its operations and its cash flows for the year then ended, inconformity with accounting principles generally accepted in the United States.

 

As discussed in Note 16 to the consolidatedfinancial statements, effective January 1, 2007, the Company adopted theprovisions of Financial Accounting Standards Board Interpretation No. 48,Accounting for Uncertainty in Income Taxes.

 

 

/s/ERNST & YOUNGLLP

Las Vegas, Nevada

March 31, 2008

 

37

----

Table ofContents

 

**ELIXIR GAMING TECHNOLOGIES, INC. AND SUBSIDIARIES**

**Consolidated Balance Sheets**

 
| ** **                                                                                                                      | ** ** | **As of December 31** | ** ** |
|---------------------------------------------------------------------------------------------------------------------------------|------------|--------------------------------------|------------|
| ** **                                                                                                                      | ** ** | **2008**                             | ** ** | **2007** | ** ** |
| **ASSETS**                                                                                                                      |       |                                 |       |   |   |
| Current assets:                                                                                                                 |       |                                 |       |   |   |
| Cash and cash equivalents                                                                                                       |       | $                                    | 14,504,433 |   | $ | 68,286,820 |   |
| Accounts receivable, trade, net of allowance for  uncollectibles of  $923,603 in 2008 and  $176,666 in 2007                |       | 1,336,261                            |       | 1,689,909 |   |
| Due from a related party                                                                                                        |       | 531,109                              |       | — |   |
| Other receivables                                                                                                               |       | 78,082                               |       | 298,940 |   |
| Inventories                                                                                                                     |       | 1,096,046                            |       | 1,686,670 |   |
| Prepaid expenses and other current assets                                                                                       |       | 1,299,487                            |       | 855,738 |   |
| Total current assets                                                                                                            |       | 18,845,418                           |       | 72,818,077 |   |
|                                                                                                                            |       |                                 |       |   |   |
| Accounts  receivable, trade, net of current portion                                                                             |       | —                               |       | 60,421 |   |
| Gaming  equipment and systems, net of accumulated depreciation of $7,081,817 in 2008  and $569,926 in 2007                      |       | 48,351,545                           |       | 39,193,962 |   |
| Property and equipment, net of accumulated  depreciation of $2,917,153 in 2008 and $3,039,933 in 2007                           |       | 3,724,467                            |       | 3,934,532 |   |
| Intangible assets, net of accumulated amortization  of $2,356,271 in 2008 and $1,689,096 in 2007                                |       | 4,123,403                            |       | 5,486,321 |   |
| Goodwill                                                                                                                        |       | 84,210                               |       | 84,210 |   |
| Prepaid  commissions                                                                                                            |       | —                               |       | 1,398,800 |   |
| Deposits and  other assets                                                                                                      |       | 1,284,679                            |       | 617,894 |   |
| Total  assets                                                                                                                   |       | $                                    | 76,413,722 |   | $ | 123,594,217 |   |
|                                                                                                                            |       |                                 |       |   |   |
| **LIABILITIES  AND STOCKHOLDERS’ EQUITY**                                                                                  |       |                                 |       |   |   |
| Current liabilities:                                                                                                            |       |                                 |       |   |   |   |   |
| Accounts payable                                                                                                                |       | $                                    | 806,538    |   | $ | 1,798,459 |   |
| Amount due to a related party                                                                                                   |       | 27,672                               |       | 29,601,448 |   |
| Accrued expenses                                                                                                                |       | 2,712,758                            |       | 5,248,458 |   |
| Short-term debt                                                                                                                 |       | 29,372                               |       | 31,893 |   |
| Notes payable to a related party, current portion                                                                               |       | 5,884,049                            |       | — |   |
| Capital lease obligations, current portion                                                                                      |       | 269,371                              |       | 480,663 |   |
| Customer deposits                                                                                                               |       | 1,525,569                            |       | 197,019 |   |
| Total current  liabilities                                                                                                      |       | 11,255,329                           |       | 37,357,940 |   |
|                                                                                                                            |       |                                 |       |   |   |
| Notes payable to  a related party, net of current portion                                                                       |       | 6,185,088                            |       | — |   |
| Capital lease  obligations, net of current portion                                                                              |       | 468,424                              |       | 916,444 |   |
| Other  liabilities                                                                                                              |       | 525,986                              |       | 99,966 |   |
| Deferred tax  liability                                                                                                         |       | 495,560                              |       | 931,934 |   |
| Total  liabilities                                                                                                              |       | 18,930,387                           |       | 39,306,284 |   |
|                                                                                                                            |       |                                 |       |   |   |
| Stockholders’ equity:                                                                                                      |       |                                 |       |   |   |
| Common stock, $.001 par value, 300,000,000 shares  authorized;  114,956,671 and  114,914,934 shares issued and outstanding |       | 114,958                              |       | 114,916 |   |
| Additional paid-in-capital                                                                                                      |       | 413,987,828                          |       | 411,323,072 |   |
| Accumulated other comprehensive income                                                                                          |       | (2,107,842                           | )          | 406,358 |   |
| Accumulated  deficit                                                                                                            |       | (354,511,609                         | )          | (327,556,413 | ) |
| Total  stockholders’ equity                                                                                                |       | 57,483,335                           |       | 84,287,933 |   |
| Total  liabilities and stockholders’ equity                                                                                |       | $                                    | 76,413,722 |   | $ | 123,594,217 |   |

 

## The notes to consolidated financial statementsare an integral part of these consolidated statements.

 

38

----

## Table of Contents

 

**ELIXIRGAMING TECHNOLOGIES, INC. AND SUBSIDIARIES**

## **Consolidated Statements ofOperations**

 
| ** **                                           | ** ** | **Years Ended December 31,** | ** **  |
|------------------------------------------------------|------------|---------------------------------------------|-------------|
| ** **                                           | ** ** | **2008**                                    | ** **  | **2007** | ** ** |
| **Revenues:**                                        | ** ** | ** **                                  | ** **  | ** ** | ** ** |
| Table game products                                  |       |                                        |        |   |   |
| Related party                                        |       | $                                           | 536,421     |   | $ | 758,888 |   |
| Third party                                          |       | 1,268,753                                   |        | 4,447,188 |   |
|                                                 |       | 1,805,174                                   |        | 5,206,076 |   |
| Gaming machine participation                         |       | 3,433,096                                   |        | 389,596 |   |
| Non-gaming products                                  | ** ** | 7,071,611                                   |        | 6,644,891 |   |
|                                                 |       | 12,309,881                                  |        | 12,240,563 |   |
|                                                 |       |                                        |        |   |   |
| **Operating costs and expenses:**                    |       |                                        |        |   |   |
| Cost of table game products                          |       |                                        |        |   |   |
| Related party                                        |       | 482,367                                     |        | 241,813 |   |
| Third party                                          |       | 1,650,342                                   |        | 5,145,669 |   |
|                                                 |       | 2,132,709                                   |        | 5,387,482 |   |
| Cost of gaming machine participation                 |       | 9,071,439                                   |        | 677,725 |   |
| Cost of non-gaming products                          |       | 6,159,292                                   |        | 6,662,205 |   |
| Selling, general and administrative                  |       | 17,875,704                                  |        | 18,139,530 |   |
| Research and development                             |       | 968,922                                     |        | 974,870 |   |
| Depreciation and amortization                        |       | 1,084,239                                   |        | 1,002,607 |   |
| Impairment of goodwill, intangibles and other assets |       | 2,118,660                                   |        | 40,458,972 |   |
| Contract acquisition fees                            |       | —                                      |        | 170,857,000 |   |
| Restructuring charges                                | ** ** | 666,125                                     |        | 1,362,750 |   |
| Loss on extinguishment of debt                       |       | —                                      |        | 1,366,083 |   |
|                                                 |       | 40,077,090                                  |        | 246,889,224 |   |
|                                                 |       |                                        |        |   |   |
| Loss from operations                                 |       | (27,767,209                                 | )           | (234,648,661 | ) |
|                                                 |       |                                        |        |   |   |
| **Other income/(expenses):**                         |       |                                        |        |   |   |
| Interest expense and finance fees                    |       | (737,028                                    | )           | (2,066,361 | ) |
| Interest income                                      |       | 706,552                                     |        | 323,312 |   |
| Acquisition costs                                    |       | —                                      |        | (195,431 | ) |
| Gain on dispositions of assets                       |       | 89,324                                      |        | — |   |
| Foreign currency gains                               |       | 252,568                                     |        | 714,094 |   |
| Others                                               |       | 291,275                                     |        | 521,342 |   |
|                                                 | ** ** | 602,691                                     |        | (703,044 | ) |
| Net loss before income tax benefit                   |       | (27,164,518                                 | )           | (235,351,705 | ) |
|                                                 |       |                                        |        |   |   |
| Income tax benefit                                   |       | 209,322                                     |        | 753,125 |   |
| ** **                                           |       |                                        |        |   |   |
| **Net loss for the year**                            |       | $                                           | (26,955,196 | ) | $ | (234,598,580 | ) |
|                                                 |       |                                        |        |   |   |
| **Basic and diluted loss per share**                 |       | $                                           | (0.23       | ) | $ | (4.55 | ) |

 

## The notes to consolidated financial statementsare an integral part of these consolidated statements.

 

39

----

Table of Contents

 

## **ELIXIRGAMING TECHNOLOGIES, INC. AND SUBSIDIARIES**

## **ConsolidatedStatements of Changes in Stockholders’ Equity**

## **YearsEnded December 31, 2008 and 2007**

 
| ** **                                                            | ** ** | **Common Stock** | ** ** | **Additional  Paid-in** | ** ** | **Treasury** | ** ** | **Accumulated  Other  Comprehensive** | ** ** | ** ** | ** ** | ** **   | ** ** |
|-----------------------------------------------------------------------|------------|-----------------------|------------|-------------------------|------------|--------------|------------|---------------------------------------|------------|------------|------------|--------------|------------|
| ** **                                                            | ** ** | **Shares**            | ** ** | **Dollars**             | ** ** | **Capital**  | ** ** | **Stock**                             | ** ** | **Income** | ** ** | **Deficit**  | ** ** | **Total** | ** ** |
| Balance at  January 1, 2007                                      |       | 30,015,099            |       | $                       | 30,016     |         | $          | 97,872,787                            |       | $          | (846,820   | )            | $          | — |   | $ | (92,957,833 | ) | $ | 4,098,150 |   |
| Exercise of  employee options                                         |       | 2,050,944             |       | 2,051                   |       | 3,833,242    |       | —                                |       | —     |       | —       |       | 3,835,293 |   |
| Exercise of  warrants                                                 |       | 21,243,343            |       | 21,244                  |       | 50,264,116   |       | —                                |       | —     |       | —       |       | 50,285,360 |   |
| Stock issued for  conversion of debt                                  |       | 1,652,048             |       | 1,652                   |       | 4,870,516    |       | —                                |       | —     |       | —       |       | 4,872,168 |   |
| Stock issued for  services                                            |       | 153,500               |       | 153                     |       | 472,627      |       | —                                |       | —     |       | —       |       | 472,780 |   |
| Exchange of  treasury warrants for stock                              |       | —                |       | —                  |       | (842,340     | )          | 846,820                               |       | —     |       | —       |       | 4,480 |   |
| Stock issued  pursuant to participation agreement                     |       | 40,000,000            |       | 40,000                  |       | 130,810,000  |       | —                                |       | —     |       | —       |       | 130,850,000 |   |
| Vesting of  warrants pursuant to participation agreement (22 million) |       | —                |       | —                  |       | 40,007,000   |       | —                                |       | —     |       | —       |       | 40,007,000 |   |
| Warrants issued  as prepaid sales incentive                           |       | —                |       | —                  |       | 28,837,200   |       | —                                |       | —     |       | —       |       | 28,837,200 |   |
| Stock-based  compensation                                             |       | —                |       | —                  |       | 5,349,930    |       | —                                |       | —     |       | —       |       | 5,349,930 |   |
| Vesting of  warrants                                                  |       | —                |       | —                  |       | 94,235       |       | —                                |       | —     |       | —       |       | 94,235 |   |
| Sale of stock                                                         |       | 15,000,000            |       | 15,000                  |       | 49,758,559   |       | —                                |       | —     |       | —       |       | 49,773,559 |   |
| Warrants  exchanged for common stock                                  |       | 4,800,000             |       | 4,800                   |       | (4,800       | )          | —                                |       | —     |       | —       |       | — |   |
| Foreign currency translations                                         |       | —                |       | —                  |       | —       |       | —                                |       | 406,358    |       | —       |       | 406,358 |   |
| Net loss                                                              |       | —                |       | —                  |       | —       |       | —                                |       | —     |       | (234,598,580 | )          | (234,598,580 | ) |
|                                                                  |       |                  |       |                    |       |         |       |                                  |       |       |       |         |       |   |   |
| Balance at  December 31, 2007                                    |       | 114,914,934           |       | $                       | 114,916    |         | $          | 411,323,072                           |       | $          | —     |         | $          | 406,358 |   | $ | (327,556,413 | ) | $ | 84,287,933 |   |
|                                                                  |       |                  |       |                    |       |         |       |                                  |       |       |       |         |       |   |   |
| Exercise of  employee options                                         |       | 41,737                |       | 42                      |       | 70,760       |       | —                                |       | —     |       | —       |       | 70,802 |   |
| Stock-based  compensation                                             |       | —                |       | —                  |       | 2,593,996    |       | —                                |       | —     |       | —       |       | 2,593,996 |   |
| Unrealized  actuarial loss                                            |       | —                |       | —                  |       | —       |       | —                                |       | (8,995     | )          | —       |       | (8,995 | ) |
| Foreign currency  translations                                        |       | —                |       | —                  |       | —       |       | —                                |       | (2,505,205 | )          | —       |       | (2,505,205 | ) |
| Net loss                                                              |       | —                |       | —                  |       | —       |       | —                                |       | —     |       | (26,955,196  | )          | (26,955,196 | ) |
|                                                                  |       |                  |       |                    |       |         |       |                                  |       |       |       |         |       |   |   |
| Balance at  December 31, 2008                                    |       | 114,956,671           |       | $                       | 114,958    |         | $          | 413,987,828                           |       | $          | —     |         | $          | (2,107,842 | ) | $ | (354,511,609 | ) | $ | 57,483,335 |   |

** **

## Thenotes to consolidated financial statements are an integral part of theseconsolidated statements.

 

40

----

Table of Contents

 

## **ELIXIRGAMING TECHNOLOGIES, INC. AND SUBSIDIARIES**

## **ConsolidatedStatements of Cash Flows**

##  

| ** **                                                                    | ** ** | **Years Ended December 31** | ** **  |
|-------------------------------------------------------------------------------|------------|--------------------------------------------|-------------|
| ** **                                                                    | ** ** | **2008**                                   | ** **  | **2007** | ** ** |
| Cash flows used in operating activities:                                      |       |                                       |        |   |   |
| Net loss                                                                      |       | $                                          | (26,955,196 | ) | $ | (234,598,580 | ) |
| Adjustments to reconcile net loss to net  cash used in operating activities:  |       |                                       |        |   |   |
| Impairment of goodwill and intangibles                                        |       | 695,743                                    |        | 13,157,424 |   |
| Impairment of prepaid sales commissions                                       |       | 1,368,829                                  |        | 27,301,548 |   |
| Impairment of fixed assets                                                    |       | 54,088                                     |        | — |   |
| Loss on extinguishment of debt                                                |       | —                                     |        | 1,366,083 |   |
| Contract acquisition fees                                                     |       | —                                     |        | 170,857,000 |   |
| Income tax benefit                                                            |       | (209,322                                   | )           | (753,125 | ) |
| Foreign currency gains                                                        |       | (252,554                                   | )           | (714,094 | ) |
| Depreciation of EGM’s, property and  equipment                           |       | 9,087,606                                  |        | 1,148,497 |   |
| Amortization of intangible assets                                             |       | 667,175                                    |        | 869,342 |   |
| Amortization of debt discount                                                 |       | —                                     |        | 973,689 |   |
| Amortization of prepaid sales commissions                                     |       | 29,971                                     |        | 136,852 |   |
| Stock-based compensation                                                      |       | 2,593,995                                  |        | 5,916,945 |   |
| Provision for obsolete inventory                                              |       | 447,894                                    |        | 1,577,383 |   |
| Provision for bad debt expenses                                               |       | 887,650                                    |        | 129,493 |   |
| Provision for value-added tax input                                           |       | (345,058                                   | )           | — |   |
| (Gain)/loss on disposal of assets                                             |       | (89,324                                    | )           | 33,954 |   |
| Changes in operating assets and liabilities:                                  |       |                                       |        |   |   |
| Accounts receivable                                                           |       | (71,893                                    | )           | 126,593 |   |
| Inventories                                                                   |       | 863                                        |        | 162,447 |   |
| Prepaid expenses and other current assets                                     |       | (431,662                                   | )           | (809,367 | ) |
| Deposits and other assets                                                     |       | (726,969                                   | )           | (64,608 | ) |
| Accounts payable                                                              |       | (804,690                                   | )           | 196,509 |   |
| Amount due to related parties                                                 |       | (15,079,627                                | )           | — |   |
| Accrued expenses and other current  liabilities                               |       | (964,132                                   | )           | 1,384,110 |   |
| Net cash used in operating activities                                         |       | (30,096,613                                | )           | (11,601,905 | ) |
|                                                                          |       |                                       |        |   |   |
| Cash flows used in investing activities:                                      |       |                                       |        |   |   |
| Acquisition of property and equipment                                         |       | (20,149,999                                | )           | (10,319,288 | ) |
| Proceeds from the disposition of property  and equipment                      |       | 150,409                                    |        | 5,614 |   |
| Net cash used in investing activities                                         |       | (19,999,590                                | )           | (10,313,674 | ) |
|                                                                          |       |                                       |        |   |   |
| Cash flows provided by financing  activities:                                 |       |                                       |        |   |   |
| Proceeds from sale of stock and warrants  and exercise of options             |       | 70,803                                     |        | 101,432,693 |   |
| Proceeds from stock subscription payable                                      |       | —                                     |        | 2,650,000 |   |
| Repayment of notes payable and capital  lease obligations                     |       | (3,511,661                                 | )           | (14,214,182 | ) |
| Net cash (used in)/provided by financing  activities                          |       | (3,440,858                                 | )           | 89,868,511 |   |
|                                                                          |       |                                       |        |   |   |
| Effect of exchange rate changes on cash                                       |       | (245,326                                   | )           | — |   |
| (Decrease)/increase in cash and cash  equivalents                             |       | (53,782,387                                | )           | 67,952,932 |   |
| Cash and cash equivalents at beginning of  year                               |       | 68,286,820                                 |        | 333,888 |   |
| Cash and cash equivalents at end of year                                      |       | $                                          | 14,504,433  |   | $ | 68,286,820 |   |
|                                                                          |       |                                       |        |   |   |
| Supplemental cash flow information:                                           |       |                                       |        |   |   |
| Cash paid for interest                                                        |       | $                                          | 461,181     |   | $ | 1,362,681 |   |
| Cash paid for taxes                                                           |       | $                                          | 6,144       |   | $ | 701,527 |   |
| Non-cash investing and financing activities:                                  |       |                                       |        |   |   |
| Loans converted to common stock                                               |       | $                                          | —      |   | $ | 4,872,168 |   |
| Electronic gaming machines purchased from  related party payables             |       | $                                          | —      |   | $ | 29,601,448 |   |
| Electronic gaming machines returned to  related party as reversal of payables |       | $                                          | (13,915,499 | ) | $ | — |   |

##  

The notes to consolidated financial statements are an integral part ofthese consolidated statements. 

 

41

----

Tableof Contents

 

**ELIXIR GAMING TECHNOLOGIES, INC. AND SUBSIDIARIES**

**NOTES TO CONSOLIDATED FINANCIALSTATEMENTS**

 

**1.****            ****DESCRIPTIONOF BUSINESS AND SIGNIFICANT ACCOUNTING POLICIES**

 

The principal businessactivities of Elixir Gaming Technologies, Inc. and its subsidiaries is theowning and leasing of electronic gaming machines placed in resorts, hotels, andother venues across certain countries in Asia and the developing anddistributing of products related to the gaming and automotive industries. Theseproducts include RFID casino chips and component parts for the automotiveindustry.

 

***Basis of Presentation***

 

These consolidated financialstatements are prepared pursuant to generally accepted accounting principles inthe United States. Certain previously reported amounts have been reclassifiedto conform to the current period presentation.

 

***Principles ofConsolidation***

 

These consolidated financialstatements include the accounts of Elixir Gaming Technologies, Inc. andall its subsidiaries.

 

***Use of Estimates***

 

The Company is required to makeestimates, judgments and assumptions that it believes are reasonable based onits historical experience, contract terms, observance of known trends in theCompany and the industry as a whole, and information available from otheroutside sources.  These estimates affect the reported amounts of assets,liabilities, revenues and expenses and related disclosures of contingent assetsand liabilities.  On a regular basis, the Company evaluates its estimates,including those related to revenue recognition, product returns, long-livedassets, inventory obsolescence, stock-based compensation, income taxes, baddebts, warranty obligations, long-term contracts, contingencies andlitigation.  Actual results may differ from those estimates.

 

***Cash and Cash Equivalents***

 

All highly liquidinstruments with original maturities of three months or less are consideredcash equivalents.  The Company places its cash and temporary investmentswith financial institutions.  At December 31, 2008, the Company haddeposits with financial institutions in excess of Federal Deposit InsuranceCorporation (FDIC) insured limits by $14.3 million.

 

***Accounts Receivable andAllowance for Doubtful Accounts***

 

Accounts receivable arestated at face value less any allowances for doubtful accounts. Allowances for doubtful accounts are maintained at levels determined by theCompany’s management to adequately provide for uncollectible amounts.  Indetermining the estimated uncollected amounts, the Company evaluates acombination of factors, including, but not limited to, activity in the relatedmarket, financial condition of customers, specific customer collectionexperience and history of write-offs and collections.

 

***Inventories***

 

Inventories are stated atthe lower of cost, determined using the first-in, first-out method, ormarket.  Cost elements included in work-in-process and finished goodsinclude raw materials, direct

 

42

----

Table of Contents

 

labor, and manufacturingoverheads.  The Company reviews inventory quantities regularly and recordscharges for excess and obsolete products.  Inventory provisions of$447,894 and $1,577,383 were recorded in cost of table game products in theconsolidated statement of operations for the years ended December 31, 2008and 2007, respectively.

 

***Long-Lived Assets***

 

The Company accounts forimpairment of long-lived assets in accordance with Statement of FinancialAccounting Standard (“SFAS”) No. 144, *Accounting for theImpairment or Disposal of Long-Lived Assets*. Long-lived assets arereviewed for impairment whenever events or changes in circumstances indicatethat the carrying amount of an asset may not be recoverable. In such instances,the Company estimates the undiscounted future cash flows  that result from the use of the asset and itsultimate disposition. If the sum of the undiscounted cash flows is less thanthe carrying value, the Company recognizes an impairment loss, measured as theamount by which the carrying value exceeds the fair value of the asset,determined principally using discounted cash flows. The Company recorded noimpairment charges for long-lived assets for 2008.

 

***Prepaids, Deposits andOther Assets***

 

Prepaids, deposits and otherassets consist primarily of prepaid value-added taxes in foreign countries,sales tax in dispute, restricted cash for treasury operations and depositsrelated to gaming machine orders. The Company has restricted deposits in theamount of $100,000 at December 31, 2008 and 2007, in the form of acertificate of deposit as security on a lease.  This certificate ofdeposit has been recorded in deposits and other assets in the consolidatedbalance sheets.  The restriction will be removed in February 2012upon termination of the lease.  The Company also has restricted deposits inthe aggregate amount of $310,557 at December 31, 2008, which arerestricted for use in treasury management in Cambodia venue.   Theamount is recorded in deposits and other assets in the consolidated balancesheets.  This restricted cash has beenreleased in February 2009 due to closure of certain Cambodia venues.

 

***Consignment Inventory***

 

At December 31, 2008,the Company had consignment inventory of service supplies and parts of $235,318(2007: $65,908), net of a provision for obsolescence of $372,698.  Revenue is not recognized, and the title tothe inventory remains with the Company, until ownership of the product andtitle passes to the distributor, which occurs upon the distributor’s use of theproducts or sales to third-party customers.

 

***Gaming Equipment andSystems***

 

Gaming equipment is statedat cost.  The Company depreciates gaming equipment and systems over afive-year useful life once placed in service. Depreciation of gaming equipmentof $8,292,582 and $569,926 were included in cost of gaming machineparticipation in the consolidated statements of operations for the years ended December 31,2008 and 2007, respectively.

 

***Property and Equipment***

 

Property and equipment andequipment rented to customers are stated at cost (Note 7). Depreciation iscomputed using the straight-line method over the useful lives of the assetscurrently estimated to be 3 to 5 years, which, in the case of leaseholdimprovements, is limited to the life of the lease and renewal period so long asrenewal is intended. Depreciation of rental and manufacturing equipment of$795,024 and $445,304 are included the respective cost of operations (gamingproducts or non-gaming products) in the consolidated statements of operationsfor the years ended December 31, 2008 and 2007, respectively.

 

43

----

Table of Contents

 

***Goodwill and IntangibleAssets***

 

Goodwill primarily resultedfrom a business combination. The Company adopted SFAS No. 142,*Goodwill and Other Intangible Assets,*effective January 1,2002.  Under SFAS No. 142, goodwill is no longer amortized but issubject to periodic impairment tests.

 

The Company measures andtests goodwill for impairment using the two-step approach under SFAS No. 142,at least annually on December 31 or more often if there are indicators ofimpairment. If the carrying amount of goodwill exceeds its implied fair value,an impairment loss is recognized equal to that excess.

 

Intangible assets consist ofpatents, customer relationships and trademarks. They are recorded at cost andare amortized, on the straight-line basis over the period of time the asset isexpected to contribute directly or indirectly to future cash flows, which rangefrom 10 to 13 years. The straight-line amortization method is utilizedbecause the Company believes there is not a more reliably determinable methodof reflecting the pattern in which the economic benefits of the intangibleassets are consumed or otherwise used up.

 

The amortization expenseswere $667,175 and $869,342 for the years ended December 31, 2008 and 2007,respectively.

 

Impairment testing forgoodwill and other intangibles requires judgment, including the identificationof reporting units, allocation of related goodwill, assignment of corporateshared assets and liabilities to reporting units, estimated future cash flows,and determinations of fair values. While the Company believes its estimates offuture revenues and future cash flows are reasonable, different assumptionscould materially affect the assessment of useful lives, recoverability and fairvalues. If actual future cash flows fall below initial forecasts, the Companymay need to record additional amortization and/or impairment charges.

 

Impairment expense totaled$695,743 and $13,157,424 for the years ended December 31, 2008 and 2007,respectively.

 

***Litigation and OtherContingencies***

 

The Company is involved invarious legal matters, litigation and claims of various types in the ordinarycourse of its business operations. The Company has regular litigation reviews,including updates from corporate and outside counsel, to assess the need foraccounting recognition or disclosure of these contingencies. The status ofsignificant claims is summarized in Note 18.

 

SFAS No. 5, *Accounting for Contingencies,* requires that liabilities forcontingencies be recorded when it is probable that a liability has beenincurred and that the amount can be reasonably estimated. Significantmanagement judgment is required related to contingent liabilities and theoutcome of litigation because both are difficult to predict. For a contingencywhere an unfavorable outcome is reasonably possible and which is significant,the Company discloses the nature of the contingency and, where feasible, anestimate of the possible loss.

 

***Revenue Recognition***

 

The Company recognizesrevenue when all of the following have been satisfied:

 

·                  persuasive evidence of an arrangement exists;

 

44

----

Table of Contents

 

·                  the price to the customer is fixed anddeterminable;

·                  delivery has occurred and any acceptanceterms have been fulfilled;

·                  no significant contractual obligationsremain; and

·                  collection is reasonably assured.

 

*Gaming and Non-GamingProduct Sales*

 

The Company recognizesrevenue from the sale of its products to end users upon shipment againstcustomer contracts or purchase orders. Revenue from shuffler rentals isrecorded at the first of each month in accordance with rental contract terms.

 

The Company recognizesrevenue from its sales to independent distributors upon shipment to thedistributors against distributor contracts or purchase orders of ourproduct.  The Company recognizes revenue on consignment inventory whenownership of the product and title passes to the distributor which occurs uponthe distributor’s use of the product in its service organization or to an enduser.

 

The maintenance componentsthat are part of long-term sales contracts are recorded as deferred revenue andare amortized over the remaining life of the sales agreement after the initial90-day warranty as required by the Emerging Issues Task Force Issue (“EITF”) No. 00-21,*Revenue Arrangements with Multiple Deliverables*.The Company provides for estimated warranty repair costs associated with salescontracts. Although there are no extended warranties offered for its products,the Company provides for maintenance contracts that are billed and recognizedon a monthly basis. As noted above, the Company’s future sales will be throughits third-party distributors and it will no longer offer long-term salescontracts or service to customers.  Therefore, as of December 31,2008, the Company had no remaining obligations to perform maintenance on gamingand non-gaming products sold to end users.

 

*Participation Revenue*

 

The Company earns recurringrevenue by providing customers with electronic gaming machines and casinomanagement systems which track game performance and provide statistics oninstalled electronic gaming machines owned by the Company and leased to venueowners. Revenues are recognized on the contractual terms of the participationagreements between the Company and the venue owners and are based on theCompany’s share of net winnings.

 

***Advertising Expense***

 

The cost of advertising ischarged to expense as incurred.  The cost of advertising was $114,009 and$26,081 for the years ended December 31, 2008 and 2007, respectively.

 

***Stock-Based Compensation***

 

TheCompany adopted SFAS No. 123R, Share-Based Payment, to account for all itsstock-based compensation beginning January 1, 2006, and elected themodified prospective method of transition. Under the fair value recognitionprovisions of SFAS No. 123R, for stock-based compensation accrued toemployees and non employee directors, the Company recognizes stock-basedcompensation expense for all service-based awards with graded vesting scheduleson a straight-line basis over the requisite service period for the entireaward. Initial accruals of compensation expense are based on the estimatednumber of shares for which requisite service is expected to be rendered.Estimates are revised if subsequent information indicates that forfeitures willdiffer from previous estimates, and the cumulative effect on compensation costof a change in the estimated forfeitures is recognized in the period of thechange.  For non-employee

 

45

----

Table of Contents

 

awards,the Company remeasures compensation cost each period until the servicecondition is complete and recognizes compensation cost on a straight-line basisover the requisite service period. Option valuation models require the input ofhighly subjective assumptions, and changes in the assumptions can materiallyaffect the fair value estimates. Judgment is required in estimating stock pricevolatility, forfeiture rates, expected dividends, and expected terms thatoptions remain outstanding. Stock-based compensation expense totaled $2.6million and $5.9 million for the years ended December 31, 2008 and 2007,respectively, and is included in selling, general and administrative expense inthe consolidated statements of operations.  See Note 13 for additionalinformation regarding these assumptions.

 

***Contract Acquisition Fees***

 

The transactions under theSecurities Purchase and Product Participation Agreement (“ParticipationAgreement”) are accounted for pursuant to EITF 96-18, *Accountingfor Equity Instruments That Are Issued to Other Than Employees for Acquiring,or in Conjunction with Selling, Goods or Services*.  Inaccordance with EITF 96-18, the Company valued the initial issuance of commonshares based on the market price of its stock and warrants based on aBlack-Scholes option-pricing model calculation on the measurement date, whichoccurred when the first performance milestone was achieved.  The fairvalue of the common shares was initially capitalized in accordance with SFAS91, *Accounting for Non-Refundable Fees and CostsAssociated with Originating or Acquiring Loans and Initial Directs of Leases*,and the fair value of the warrants was deferred.

 

In 2007, the Company testedthis asset for recoverability using present value techniques based on estimatedfuture cash flows and, accordingly, recorded a charge to contract acquisitionfees of $77.8 million in the statement of operations for the year ended December 31,2007.

 

Immediately following theinitial closing of the transactions under the Participation Agreement, ElixirGroup became a related party and, in accordance with SFAS No. 13, *Accounting for Leases*, initial direct costs between relatedparties should not be capitalized.  Accordingly, upon the achievement ofthe future performance milestones by Elixir Group, the remaining shares ofcommon stock to be issued and future vesting of warrants were expensed asincurred. Elixir Group achieved the second performance milestone in September 2007and, accordingly, the Company recorded additional contract acquisition feesexpense of $93.1 million.

 

No contract acquisition feeswere incurred for the year ended December 31, 2008.

 

***Research and Development***

 

Research and developmentcosts are charged to expense as incurred.  Employee related costsassociated with product development are included in research and developmentcosts. The Company incurred $968,922 and $974,870 for the years ended December 31,2008 and 2007, respectively.

 

***Income Taxes***

 

The Company is subject toincome taxes in the U.S. (including federal and state) and several foreignjurisdictions in which it operates. Deferred income tax balances reflect theeffects of temporary differences between the carrying amounts of assets andliabilities and their tax basis and are stated at enacted tax rates expected tobe in effect when taxes are actually paid or recovered. SFAS No. 109, *Accounting for Income Taxes,* requires that deferred taxassets be evaluated for future realization and reduced by a valuation allowanceto the extent the Company believes deferred tax assets are not more likely thannot to be realized. The Company considers many factors when assessing thelikelihood of future realization of its deferred tax assets, including itsrecent cumulative earnings experience and expectations of future taxable incomeby

 

46

----

Table of Contents

 

taxing jurisdiction, thecarry-forward periods available to the Company for tax reporting purposes, andother relevant factors.

 

The Company accounts foruncertain tax positions in accordance with FASB Interpretation No.48, *Accounting**for Uncertainty in IncomeTaxes, Interpretation of FASB Statement No. 109*(“FIN 48”),which contains a two-step approach to recognizing and measuring uncertain taxpositions accounted for in accordance with SFAS No. 109. The first step isto evaluate the tax position for recognition by determining if the weight ofavailable evidence indicates it is more likely than not that the position willbe sustained on audit, including resolution of related appeals or litigationprocesses, if any. The second step is to measure the tax benefit as the largestamount which is more than 50% likely of being realized upon ultimatesettlement. The Company considers many factors when evaluating andestimating its tax positions and tax benefits, which may require periodicadjustments and which may not accurately anticipate actual outcomes.

 

The Company is subject toincome tax examination by tax authorities in jurisdictions in which itoperates. There are currently no income tax returns under examination by theInternal Revenue Service or any other major tax authorities.

 

***Loss Per Share***

 

Basic loss per share iscomputed by dividing the reported net loss by the weighted average number ofshares of common stock outstanding during the year. There is no difference indiluted loss per share from basic loss per share as the assumed exercise ofcommon stock equivalents would have an anti-dilutive effect due to losses.

 

***Foreign CurrencyTranslations and Transactions***

 

The functional currency ofthe Company’s international subsidiaries is generally the local currency. For these subsidiaries, the Company translates the assets and liabilities atexchange rates in effect at the balance sheet date and income and expenseaccounts at average exchange rates during the year.  Resulting currencytranslation adjustments are recorded directly to accumulated othercomprehensive income within stockholders’ equity.  Gains and lossesresulting from transactions in non-functional currencies are recorded in operations.

 

***Recently Issued AccountingStandards***

 

In December 2007, theFinancial Accounting Standards Board (“FASB”) issued SFAS No. 141(R), *Business Combinations*. SFAS No. 141(R) replacesSFAS No. 141, *Business Combinations*,but retains the requirement that the purchase method of accounting foracquisitions be used for all business combinations. SFAS No. 141(R) expandson the disclosures previously required by SFAS No. 141, better defines theacquirer and the acquisition date in a business combination, and establishesprinciples for recognizing and measuring the assets acquired (includinggoodwill), the liabilities assumed and any non-controlling interests in theacquired business. SFAS No. 141(R) also requires an acquirer torecord an adjustment to income tax expense for changes in valuation allowancesor uncertain tax positions related to acquired businesses. SFAS No. 141(R) iseffective for all business combinations with an acquisition date in the firstannual period following December 15, 2008; early adoption is notpermitted. The Company will adopt this statement as of January 1, 2009.Management is currently evaluating the impact SFAS No. 141(R) willhave on its consolidated financial statements.

 

In December 2007, theFASB issued SFAS No. 160, *Non-Controlling Interestin Consolidated Financial Statements, an Amendment of ARB No. 51*.This statement establishes accounting and reporting

 

47

----

Table of Contents

 

standards for ownershipinterests in subsidiaries held by parties other than the parent and for thedeconsolidation of a subsidiary. It also clarifies that a non-controllinginterest in a subsidiary is an ownership interest in the consolidated entitythat should be reported as equity in the consolidated financial statements.SFAS No. 160 changes the way the consolidated income statement ispresented by requiring consolidated net income to be reported at amounts thatinclude the amount attributable to both the parent and the non-controllinginterests. The statement also establishes reporting requirements that providesufficient disclosure that clearly identify and distinguish between theinterest of the parent and those of the non-controlling owners. This statementis effective for fiscal years beginning on or after December 15, 2008.Based on the management’s assessment, there is no material impact on theCompany’s financial position, results of operations or cash flows.

 

In September 2006, theFASB issued SFAS No. 157,*Fair ValueMeasurements*, which clarifies the definition of fair value,establishes guidelines for measuring fair value, and expands disclosuresregarding fair value measurements. SFAS No. 157 does not require any newfair value measurements and eliminates inconsistencies in guidance found invarious prior accounting pronouncements. In February 2008, the FASB issuedFASB Staff Position (FSP) SFAS No. 157-2,*Effective Date of FASB Statement No. 157,* that deferred theeffective date of SFAS No. 157 for one year for certain non-financialassets and non-financial liabilities. The Company has adopted SFAS No. 157with respect to its financial assets and liabilities only and the adoption ofthis statement did not have a material impact on the Company’s financialposition and results of operations.  Weare currently evaluation the impact, if any, of adopting fair value measurementfor non-financial assets and non-financial liabilities on our financialposition and results of operations.

 

InFebruary 2007, the FASB issued SFAS No. 159,*The Fair Value Option for Financial Assets andFinancial Liabilities*. SFAS No. 159 permits entities to chooseto measure at fair value many financial instruments and certain other itemsthat are not currently required to be measured at fair value.  Unrealizedgains and losses on items for which the fair value options have been electedare to be reported in earnings.  SFAS No. 159 is effective for fiscalyears beginning after November 15, 2007. The Company has elected not to adopt the SFAS 159 fair value option.

 

48

----

Table of Contents

 

**2.            ****SEGMENTS**

 

The Company currentlyoperates in three operating segments: (i) table game products operations, (ii) gamingmachine participation operations and (iii) non-gaming products operations,consisting primarily of the Dolphin automotive sector. The accounting policiesof these segments are consistent with the Company’s policies for theconsolidated financial statements. The following table presents financialinformation for each of the Company’s operating segments.

 
| ** **                                        | ** ** | **Year Ended December 31** | ** **  |
|---------------------------------------------------|------------|-------------------------------------------|-------------|
| ** **                                        | ** ** | **2008**                                  | ** **  | **2007** | ** ** |
| Revenues:                                         |       |                                      |        |   |   |
| Table game product operations                     |       | $                                         | 1,805,174   |   | $ | 5,206,076 |   |
| Gaming machine participation operations           |       | 3,433,096                                 |        | 389,596 |   |
| Non-gaming product operations                     |       | 7,071,611                                 |        | 6,644,891 |   |
| Total revenues                                    |       | $                                         | 12,309,881  |   | $ | 12,240,563 |   |
|                                              |       |                                      |        |   |   |
| Operating profit/(loss):                          |       |                                      |        |   |   |
| Table game product operations                     |       | $                                         | (327,534    | ) | $ | (13,338,831 | ) |
| Gaming machine participation operations           |       | (5,638,343                                | )           | (288,129 | ) |
| Non-gaming product operations                     |       | 912,318                                   |        | (17,314 | ) |
| Corporate and other operating costs and  expenses |       | (22,713,650                               | )           | (221,004,387 | ) |
| Total operating loss                              |       | $                                         | (27,767,209 | ) | $ | (234,648,661 | ) |
|                                              |       |                                      |        |   |   |
| Identifiable assets:                              |       |                                      |        |   |   |
| Table game product operations                     |       | $                                         | 5,981,913   |   | $ | 8,388,949 |   |
| Gaming machine participation operations           |       | 54,923,865                                |        | 40,811,398 |   |
| Non-gaming product operations                     |       | 4,873,469                                 |        | 3,634,420 |   |
| Corporate                                         |       | 10,634,475                                |        | 70,759,450 |   |
| Total identifiable assets                         |       | $                                         | 76,413,722  |   | $ | 123,594,217 |   |
|                                              |       |                                      |        |   |   |
| Goodwill:                                         |       |                                      |        |   |   |
| Table game product operations                     |       | $                                         | 84,210      |   | $ | 84,210 |   |
| Gaming machine participation operations           |       | —                                    |        | — |   |
| Non-gaming product operations                     |       | —                                    |        | — |   |
| Corporate                                         |       | —                                    |        | — |   |
| Total goodwill                                    |       | $                                         | 84,210      |   | $ | 84,210 |   |
|                                              |       |                                      |        |   |   |
| Capital expenditures:                             |       |                                      |        |   |   |
| Table game product operations                     |       | $                                         | 21,347      |   | $ | 250,488 |   |
| Gaming machine participation operations(1)        |       | 32,713,772                                |        | 39,023,178 |   |
| Non-gaming product operations                     |       | 42,030                                    |        | 256,402 |   |
| Corporate                                         |       | 1,288,348                                 |        | 390,668 |   |
| Total capital expenditures                        |       | $                                         | 34,065,497  |   | $ | 39,920,736 |   |
|                                              |       |                                      |        |   |   |
| Depreciation and amortization:                    |       |                                      |        |   |   |
| Table game product operations                     |       | $                                         | 732,969     |   | $ | 944,390 |   |
| Gaming machine participation operations           |       | 8,292,582                                 |        | 569,926 |   |
| Non-gaming product operations                     |       | 270,327                                   |        | 272,906 |   |
| Corporate                                         |       | 458,903                                   |        | 230,617 |   |
| Total depreciation and amortization(2)            |       | $                                         | 9,754,781   |   | $ | 2,017,839 |   |

 

----

(1) Includes $12.0million of gaming machines in note payables.

 

(2) Includes $8,536,111and $569,926 for the years ended December 31, 2008 and 2007, respectively,which was reported in the respective cost of operations on the consolidatedstatements of operations (see Note 1).

 

49

----

Table of Contents

 

Geographic segment revenuesfor the years ended December 31, 2008 and 2008 are as follows:

 
| ** **    | ** ** | **Year Ended December 31** | ** ** |
|---------------|------------|-------------------------------------------|------------|
| ** **    | ** ** | **2008**                                  | ** ** | **2007** | ** ** |
| Asia          |       | $                                         | 3,438,184  |   | $ | 3,374,161 |   |
| United States |       | 1,191,300                                 |       | 1,858,242 |   |
| Australia     |       | 7,680,397                                 |       | 6,808,038 |   |
| Europe        |       | —                                    |       | 143,012 |   |
| Other         |       | —                                    |       | 57,110 |   |
|          |       | $                                         | 12,309,881 |   | $ | 12,240,563 |   |

 

Within the non-gamingproducts segment, during the year ended December 31, 2008, one customerrepresented 39% of total non-gaming product sales.

 

Long-lived assets andgoodwill identified by geographic segments are as follows:

 
| ** **    | ** ** | **Year Ended December 31** | ** ** |
|---------------|------------|-------------------------------------------|------------|
| ** **    | ** ** | **2008**                                  | ** ** | **2007** | ** ** |
| Asia          |       | $                                         | 49,498,721 |   | $ | 39,459,415 |   |
| United States |       | 4,838,470                                 |       | 4,669,128 |   |
| Australia     |       | 1,946,434                                 |       | 4,570,482 |   |
|          |       | $                                         | 56,283,625 |   | $ | 48,699,025 |   |

 

**3.             INVENTORIES**

 

Inventories at December 31,2008 and 2007 consist of the following:

 
| ** **                                 | ** ** | **Year Ended December 31** | ** ** |
|--------------------------------------------|------------|-------------------------------------------|------------|
| ** **                                 | ** ** | **2008**                                  | ** ** | **2007** | ** ** |
| Raw materials                              |       | $                                         | 1,309,765  |   | $ | 1,453,110 |   |
| Work-in-progress                           |       | 202,837                                   |       | 147,238 |   |
| Finished goods                             |       | 1,278,123                                 |       | 1,260,478 |   |
|                                       |       | 2,790,725                                 |       | 2,860,826 |   |
| Less: allowances & other reserves |       | (1,694,679                                | )          | (1,174,156 | ) |
|                                       |       | $                                         | 1,096,046  |   | $ | 1,686,670 |   |

 

During the years ended December 31,2008 and 2007, the Company recorded provisions for obsolete inventory of $447,894and $1,577,382, respectively.

 

**4.             PREPAID EXPENSES AND OTHER CURRENT ASSETS**

 

Prepaid expenses and othercurrent assets at December 31, 2008 and 2007 consist of the following:

 
| ** **                               | ** ** | **December 31** | ** ** |
|------------------------------------------|------------|----------------------|------------|
| ** **                               | ** ** | **2008**             | ** ** | **2007** | ** ** |
| Prepaid taxes                            |       | $                    | 276,042    |   | $ | 701,527 |   |
| Prepaid service and licensing agreements |       | —               |       | 71,879 |   |
| Prepayment of suppliers                  |       | 172,500              |       | 26,860 |   |
| Deposits on gaming machine orders        |       | 740,209              |       | — |   |
| Other                                    |       | 110,736              |       | 55,472 |   |
|                                     |       | $                    | 1,299,487  |   | $ | 855,738 |   |

 

50

----

Table of Contents

 

**5.             RECEIVABLES**

 

Receivables at December 31,2008 and 2007 consist of the following:

 
| ** **                            | ** ** | **December 31** | ** ** |
|---------------------------------------|------------|----------------------|------------|
| ** **                            | ** ** | **2008**             | ** ** | **2007** | ** ** |
| Trade accounts                        |       | $                    | 2,259,864  |   | $ | 1,926,996 |   |
| Less: allowance for doubtful accounts |       | (923,603             | )          | (176,666 | ) |
| Net                                   |       | $                    | 1,336,261  |   | $ | 1,750,330 |   |
| Current portion                       |       | 1,336,261            |       | 1,689,909 |   |
| Non-current portion                   |       | $                    | —     |   | $ | 60,421 |   |

 

Other receivables at December 31,2008 and 2007 consist of the following:

 
| ** **                           | ** ** | **December 31** | ** ** |
|--------------------------------------|------------|----------------------|------------|
| ** **                           | ** ** | **2008**             | ** ** | **2007** | ** ** |
| Contract sales and notes receivables |       | $                    | 20,713     |   | $ | 171,209 |   |
| Other                                |       | 57,369               |       | 127,731 |   |
| Total                                |       | $                    | 78,082     |   | $ | 298,940 |   |

 

Changes in the allowance fordoubtful accounts consist of the following:

 
| ** **                          | ** ** | **2008** | ** ** | **2007** | ** ** |
|-------------------------------------|------------|----------|------------|----------|------------|
| Balance at January 1 |       | $        | 176,666    |     | $          | 267,154 |   |
| Provision for bad debts             |       | 887,650  |       | 129,493  |       |
| Write-offs                          |       | (140,713 | )          | (219,981 | )          |
| Balance at December 31         |       | $        | 923,603    |     | $          | 176,666 |   |

 

Bad debts expenses for theyear ended December 31, 2008 and 2007 were $887,650 and $129,493respectively, which were recorded in selling, general and administrativeexpenses in the consolidated statement of operations.

 

**6****.             GAMING EQUIPMENT AND SYSTEMS**

 

**The major categories of gamingequipment and systems and accumulated depreciation are presented below:**

 
| ** **                     | ** ** | **Useful Life** | ** ** | **December 31** | ** ** |
|--------------------------------|------------|----------------------|------------|----------------------|------------|
| ** **                     | ** ** | **(years)**          | ** ** | **2008**             | ** ** | **2007** | ** ** |
| Gaming equipment               |       | 5                    |       | $                    | 49,282,197 |   | $ | 36,809,750 |   |
| Systems                        |       | 5                    |       | 6,151,165            |       | 2,954,138 |   |
|                           |       |                 |       | 55,433,362           |       | 39,763,888 |   |
| Less: accumulated depreciation |       |                 |       | (7,081,817           | )          | (569,926 | ) |
|                           |       |                 |       | $                    | 48,351,545 |   | $ | 39,193,962 |   |

 

**Depreciation expenses for theyears ended December 31, 2008 and 2007 were $8,292,582 and $569,926,respectively, which were recorded in cost of gaming machine participation inthe consolidated statements of operations.**

 

51

----

Table of Contents

 

**7.             PROPERTY AND EQUIPMENT**

** **

**Property and equipment consistsof the following at December 31, 2008 and 2007:**

 
| ** **                                      | ** ** | **Useful Life** | ** ** | **December 31** | ** ** |
|-------------------------------------------------|------------|----------------------|------------|----------------------|------------|
| ** **                                      | ** ** | **(years)**          | ** ** | **2008**             | ** ** | **2007** | ** ** |
| Equipment rented by customers                   |       | 3 - 5                |       | $                    | 14,606     |   | $ | 85,011 |   |
| Equipment and vehicles, furniture and  fixtures |       | 3 - 5                |       | 5,789,631            |       | 6,329,146 |   |
| Leasehold improvements                          |       | 5                    |       | 837,383              |       | 560,308 |   |
|                                            |       |                 |       | 6,641,620            |       | 6,974,465 |   |
| Less: accumulated depreciation                  |       |                 |       | (2,917,153           | )          | (3,039,933 | ) |
|                                            |       |                 |       | $                    | 3,724,467  |   | $ | 3,934,532 |   |

 

**Of the Company’s equipment rentedby customers at December 31, 2008 and 2007, $14,606 and $85,011,respectively, represent assets that are held under capital leases(Note 11).**

** **

**8.             GOODWILL ANDINTANGIBLE ASSETS**

 

*Definite-Life Intangible Assets*

 

All of the Company’sdefinite-life intangible assets are subject to amortization. Definite-lifeintangible assets are comprised of the following:

 
| ** **                           | ** ** | **Useful Life** | ** ** | **December 31** | ** ** |
|--------------------------------------|------------|-----------------|------------|-----------------|------------|
| ** **                           | ** ** | **(years)**     | ** ** | **2008**        | ** ** | **2007** | ** ** |
| Definite-life intangible assets:     |       |            |       |            |       |   |   |
| Patents                              |       | 10              |       | $               | 4,986,316  |   | $ | 4,986,316 |   |
| Less: Impairment provision           |       |            |       | (695,743        | )          | — |   |
| Less:  accumulated amortization |       |            |       | (1,666,533      | )          | (1,147,900 | ) |
|                                 |       |            |       |            |       |   |   |
| Customer relationships               |       | 10-13           |       | 1,684,101       |       | 1,684,101 |   |
| Less:  accumulated amortization |       |            |       | (588,292        | )          | (478,712 | ) |
|                                 |       |            |       |            |       |   |   |
| Trademarks                           |       | 10-13           |       | 505,000         |       | 505,000 |   |
| Less:  accumulated amortization |       |            |       | (101,446        | )          | (62,484 | ) |
| Total                                |       |            |       | $               | 4,123,403  |   | $ | 5,486,321 |   |

 

The Company amortizesdefinite-life intangible assets, such as customer relationships, patents andtrademarks on the straight-line method over their estimated useful lives. The Company assessed the potential impairment of intangible assets subject toamortization. Amortization expense for definite-life intangible assets was$667,175 and $869,342 for the years ended December 31, 2008 and 2007,respectively.  Annual estimatedamortization expense for each of the five succeeding fiscal years is asfollows:

 
| 2009       |   | $         | 589,058   |   |
|------------|--------|-----------|-----------|--------|
| 2010       |   | 589,058   |      |
| 2011       |   | 589,058   |      |
| 2012       |   | 589,058   |      |
| 2013       |   | 589,058   |      |
| Thereafter |   | 1,178,113 |      |
| Total      |   | $         | 4,123,403 |   |
|            |        |           |           |        |  |

 

52

----

Table of Contents

 

*Impairment of Intangible Assetsand Goodwill*

 

In accordance with SFAS No. 142and SFAS No. 144, the Company reviews goodwill and intangible assets forimpairment on an annual basis (December 31) or more frequently if eventsor circumstances indicate that the carrying values may not be recoverable.

 

In 2007, following anin-depth review of its Dolphin operations, the Company recorded an impairmentto goodwill of $10.6 million, which was recorded in its 2007 consolidatedstatement of operations.  After giving effect to the impairment, theCompany’s goodwill as of December 31, 2007 was $84,210. There is noimpairment charge recorded for the 2008 year.

 

In 2007, the Companydetermined that the carrying value of the Dolphin customer relationships andtrademarks for the non-gaming products segment would be recoverable, but notrecoverable for the gaming products segment, based upon the Company’scalculation of the assets’ fair value based on the discounted projected netcash flows expected to result from those assets, including any eventualdisposition.  Accordingly, the Companyrecorded impairments to customer relationships and trademarks of the gamingproducts segment of $2,535,898 for the year ended December 31, 2007.

 

The Company is graduallyphasing out its gaming product manufacturing operations in China. During thefourth quarter of 2008, the Company recorded an impairment charge to the patentfor automated shuffler technology of $695,743, based upon the Company’scalculation of the assets’ fair value based on the discounted projected netcash flows expected to result from those assets, including any eventualdisposition, to reduce its carrying value to the estimated fair value at December 31,2008. On March 16, 2009, the Company entered into a Purchase andSettlement Agreement with Shuffle Master, Inc. to sell its portfolio ofautomated card verification machines and electronic card shuffling system andall related intellectual property (see Note 20).

 

**9.            ****PREPAID COMMISSIONS, DEPOSITS ANDOTHER ASSETS**

 

*Prepaid Commissions*

 

On January 25, 2007,the Company issued warrants to purchase up to 16,000,000 shares of its commonstock (the “2006 Warrants”) to Elixir Group, which at the time was its Asiandistributor of table game products, as an incentive to meet certain salestargets.  These warrants were accounted for in accordance with theEmerging Issues Task Force (“EITF”) No. 96-18, *Accountingfor Equity Instruments That are Issued to Other than Employees for Acquiring,or in Conjunction with Selling Goods or Services*.  The 2006Warrants were classified in the Company’s balance sheet as prepaid commissionssubject to amortization to commission expense at a rate of 8% of the grossrevenue generated by the distributor.

 

In September 2007, theCompany conducted the initial closing of the transactions under theParticipation Agreement between it and Elixir Group.  In accordance withthe Participation Agreement, the Company agreed that upon the initial placementof 1,000 electronic gaming machines with gaming operators identified by ElixirGroup, the Company would reduce by $1.00 the exercise price of 10 million ofthe 2006 Warrants, which originally had exercise prices ranging from $2.65 pershare to $5.50 per share.  When the cumulative number of electronic gamingmachines under contract reached 2,000 units and the cumulative number ofelectronic gaming machines placed in operation reaches 1,000 units, the Companyagreed to further reduce by $1.00 the exercise prices of the 10 millionwarrants. When the cumulative number of electronic gaming machines undercontract reaches 3,000 units and the cumulative number of electronic gamingmachines placed in operation reaches 2,000 units, the Company will furtherreduce by $1.00 the exercise prices of the 10 million 2006 Warrants. As of thedate of this report, the 

 

53

----

Table of Contents

 

Company has reduced theexercise price of the 10 million 2006 Warrants by $2.00 based on the achievementof the related performance milestones.

 

In accordance with SFAS No. 123R,the reduction in exercise price constituted a modification in terms of the 2006Warrants and required a recalculation of fair value.  The modificationincreased the fair value of the warrants by $22.7 million bringing theunamortized balance of the prepaid sales commission to $28.8 million. Per SFAS No. 144,a long-lived asset (asset group) shall be tested for recoverability wheneverevents or changes in circumstances indicate that its carrying amount may not berecoverable including an accumulation of costs significantly in excess of theamount originally expected for the acquisition.

 

The Company estimated fairvalue using present value techniques based on estimates of cash flows.  Inaccordance with SFAS No. 144, an impairment loss shall be recognized ifthe carrying amount of an intangible asset is not recoverable and its carryingamount exceeds its fair value. After an impairment loss is recognized, theadjusted carrying amount of the intangible asset shall be its new accountingbasis.  For the first half of 2008, table game revenues have not met theCompany’s expectations and the future order placements indicated the remainingvalue of the prepaid commissions is not recoverable; as a result, the Companyrecorded an impairment of $1,368,829 to the asset and changed this amount tothe consolidated statement of operations.

 

*Deposits and Other Assets*

 

Deposits and other assets atDecember 31, 2008 and 2007 consist of the following:

 
| ** **                           | ** ** | **December 31** | ** ** |
|--------------------------------------|------------|----------------------|------------|
| ** **                           | ** ** | **2008**             | ** ** | **2007** | ** ** |
| Office and equipment rental deposits |       | $                    | 83,613     |   | $ | 67,505 |   |
| Sales tax in dispute (Note 18)       |       | 433,513              |       | 418,449 |   |
| Restricted deposits                  |       | 419,256              |       | 104,363 |   |
| Prepaid value-added tax              |       | 346,213              |       | — |   |
| Others                               |       | 2,084                |       | 27,577 |   |
| Total                                |       | $                    | 1,284,679  |   | $ | 617,894 |   |

 

**10****.          A****CCRUEDEXPENSES**

 

Accrued expenses at December 31,2008 and 2007 consist of the following:

 
| ** **                                  | ** ** | **December 31** | ** ** |
|---------------------------------------------|------------|----------------------|------------|
| ** **                                  | ** ** | **2008**             | ** ** | **2007** | ** ** |
| Payroll and related costs                   |       | $                    | 724,450    |   | $ | 1,832,175 |   |
| Interest                                    |       | 150,864              |       | — |   |
| Restructuring and severance costs (Note 17) |       | —               |       | 1,290,837 |   |
| Legal, accounting and tax                   |       | 23,141               |       | 419,516 |   |
| Litigation (Note 18)                        |       | 1,066,190            |       | 1,318,994 |   |
| Others                                      |       | 748,113              |       | 386,936 |   |
| Total                                       |       | $                    | 2,712,758  |   | $ | 5,248,458 |   |

 

**Included in accrued liabilities at December 31, 2008is $1.2 million related to potential charges in relation to a lawsuit with theformer owner of Dolphin (Note 18).  Seediscussion of restructuring and severance costs at Note 17.**

 

54

----

Table of Contents

 

**11.          NOTESPAYABLE AND CAPITAL LEASE OBLIGATIONS**

** **

**As of December 31, 2008 and2007, notes payable to a related party and capital lease obligations are asfollows:**

** **
| ** **                                                                                                 | ** ** | **December 31** | ** ** |
|------------------------------------------------------------------------------------------------------------|------------|----------------------|------------|
| ** **                                                                                                 | ** ** | **2008**             | ** ** | **2007** | ** ** |
| Notes payable to a related party at  interest of 5%                                                        |       | $                    | 12,069,137 |   | $ | — |   |
| Short-term line of credit at an Australian  bank                                                           |       | 29,372               |       | 31,893 |   |
| Capital  lease obligation to an Australian bank at various interest rates and  collateralized by equipment |       | 663,400              |       | 1,051,713 |   |
| Capital lease obligations for furniture,  tooling and equipment                                            |       | 74,395               |       | 345,394 |   |
| Total                                                                                                      |       | $                    | 12,836,304 |   | $ | 1,429,000 |   |
| Current portion                                                                                            |       | $                    | 6,182,792  |   | $ | 512,556 |   |
| Non-current portion                                                                                        |       | $                    | 6,653,512  |   | $ | 916,444 |   |

** **

**On September 30, 2008, in accordance with the amendedTrade Credit Facility Agreement, Elixir International surrendered the initialadvance of $15.0 million to the Company in exchange for a new promissory notefor the outstanding principal amount of $12.1 million. The outstandingprincipal and the interest accrued (revised from 8% to 5%) thereon shall berepaid in 24 equal monthly installments reset from January 1, 2009 (Note15).**

** **

**Scheduled maturities of notes payable, short-term debt andcapital lease obligations as of December 31, 2008, are summarized asfollows:**

 
| ** **                    | ** ** | **Note Payable** | ** ** | **Capital Leases** | ** ** | **Other** | ** ** | **Total**  | ** ** |
|-------------------------------|------------|-----------------------|------------|-------------------------|------------|-----------|------------|------------|------------|
| 2009                          |       | $                     | 6,353,877  |                    | $          | 327,386   |       | $          | 29,372     |   | $ | 6,710,635 |   |
| 2010                          |       | 6,353,878             |       | 191,976                 |       | —    |       | 6,545,854  |       |
| 2011                          |       | —                |       | 148,307                 |       | —    |       | 148,307    |       |
| 2012                          |       | —                |       | 227,912                 |       | —    |       | 227,912    |       |
| Future minimum lease payments |       | 12,707,755            |       | 895,581                 |       | 29,372    |       | 13,632,708 |       |
| Less interest component       |       | (638,618              | )          | (157,786                | )          | —    |       | (796,404   | )          |
|                          |       | 12,069,137            |       | 737,795                 |       | 29,372    |       | 12,836,304 |       |
| Current portion               |       | (5,884,049            | )          | (269,371                | )          | (29,372   | )          | (6,182,792 | )          |
| Non-current portion           |       | $                     | 6,185,088  |                    | $          | 468,424   |       | $          | —     |   | $ | 6,653,512 |   |

 

**12.          SECURITIES PURCHASE AND PRODUCTPARTICIPATION AGREEMENT**

 

On June 12, 2007, theCompany entered into the Securities Purchase and Product ParticipationAgreement (“Product Participation Agreement”) with Elixir Group Limited(“Elixir Group”). Pursuant to the Product Participation Agreement, the Companyagreed to issue to Elixir Group its common shares and warrants to purchase itscommon shares, subject to Elixir Group’s identification of venues located inthe general Asia region for the placement of electronic gaming machines withvenue owners on the Company’s behalf.  The Company agreed to placeelectronic gaming machines with venue owners pursuant to lease agreementsbetween it and the venue owners under what are commonly referred to as revenuesharing arrangements, which provide for the Company to receive variable rentalpayments for its electronic gaming machines as lessor.  Elixir Group alsoagreed to sell to the Company the electronic gaming machines to be placed underthe lease agreements at its cost plus fifteen percent (15%). According to theterms of the Product Participation Agreement, Elixir Group had the right to“earn-in” an equity interest in the Company based on the achievement of variousperformance milestones in terms of (a) the cumulative number of electronicgaming machines contracted to be placed and leased pursuant to lease agreementsentered into between the Company and the venue owners sourced and identified by

 

55

----

Table of Contents

 

Elixir Group (the “gamingmachines under contract”) and (b) the cumulative number of electronicgaming machines physically placed by the Company and in operation in the gamingpremises of venue owners pursuant to the lease agreements (the “gaming machinesin operation”).

 

On September 10, 2007,the Company conducted an initial closing of the transactions under theParticipation Agreement. At the initial closing, the Company issued to ElixirGroup, 25,000,000 common shares of the Company’ common stock based on ElixirGroup’s placement of electronic gaming machines and warrants, with an exerciseprice of $2.65 per share, to purchase up to 88,000,000 additional shares of theCompany’s common stock. The warrants were to vest and first become exercisablebased on the achievement of certain performance milestones with respect to thenumber of gaming machines under contract and gaming machines in operation. On September 13,2007, the Company issued an additional 15,000,000 shares of the Company’scommon stock to Elixir Group based on Elixir Group’s placement of additionalelectronic gaming machines.  Elixir Group was entitled to earn a total of55,000,000 shares of the Company’s common stock (inclusive of the 25,000,000shares issued at the initial closing and the 15,000,000 shares issued on September 13,2007) and the 88,000,000 warrants would vest and become exercisable subject toachieving the following performance milestones with respect to the cumulativenumber of gaming machines under contract and gaming machines in operation:

 
| ** ** | ** ** | **Cumulative  Gaming Machines  Under Contract** | ** ** | **Cumulative  Gaming Machines  in Operation** | ** ** | **Shares  Earned  by Elixir Group** | ** ** | **Vesting of  Warrants  Earned by  Elixir Group** | ** ** |
|------------|------------|-----------------------------------------------------------|------------|---------------------------------------------------------|------------|-----------------------------------------------|------------|------------------------------------------------------------------|------------|
|       |       | 1,000                                                     |       | 1,000                                                   |       | 25,000,000                                    |       | —                                                           |       |
|       |       | 2,000                                                     |       | 1,000                                                   |       | 15,000,000                                    |       | 22,000,000                                                       |       |
|       |       | 3,000                                                     |       | 2,000                                                   |       | 10,000,000                                    |       | 22,000,000                                                       |       |
|       |       | 4,000                                                     |       | 3,000                                                   |       | 5,000,000                                     |       | 22,000,000                                                       |       |
|       |       | 5,000                                                     |       | 4,000                                                   |       | —                                        |       | 22,000,000                                                       |       |
| Total      |       | 5,000                                                     |       | 4,000                                                   |       | 55,000,000                                    |       | 88,000,000                                                       |       |

 

In addition to the above,the Company agreed that upon the initial placement of 1,000 gaming machineswith venue owners identified by Elixir Group, the Company would reduce by $1.00the exercise price of all warrants (other than 6,000,000 common share warrantspriced at $2.65) sold to Elixir Group pursuant to a securities purchaseagreement entered into in October 2006 (the “2006 Warrants”). When thecumulative number of gaming machines under contract reaches 2,000 units and thecumulative number of gaming machines in operation reaches 1,000 units, theCompany agreed to further reduce by $1.00 the exercise prices of the 2006Warrants. When the cumulative number of gaming machines under contract reaches3,000 units and the cumulative number of gaming machines in operation reaches2,000 units, the Company will further reduce by $1.00 the exercise prices ofthe 2006 Warrants.

 

In connection with theinitial closing of the transactions under the Participation Agreement, theCompany entered into a registration rights agreement with Elixir Group. Theregistration rights agreement, as amended, required the Company to file aselling shareholder registration statement with the SEC, within 30 daysfollowing the initial closing of the transactions under the ParticipationAgreement, for purposes of registering the resale of the shares of theCompany’s common stock issued to Elixir Group pursuant to the transaction,including all shares that are issued, or may be issued, upon exercise of thewarrants. Pursuant to the registration rights agreement, as amended, theholders of the common stock are also entitled to certain demand and piggybackregistration rights.  In conjunction with a Securities Amendment andExchange Agreement (the “Exchange Agreement”) entered into with Elixir Group inOctober 2007, Elixir Group agreed to defer its registration rights for oneyear (see Note 14).

 

The transactions under theParticipation Agreement are accounted for pursuant to EITF 96-18*. *In accordance with EITF 96-18, the Company valuedthe initial 25,000,000 common shares and 88,000,000 

 

56

----

Table of Contents

 

unvested warrants at fairvalue on the measurement date which occurred when the first performancemilestone was achieved.  The common shares were initially capitalized in amanner consistent with the guidance provided in SFAS No. 91, *Accounting for Nonrefundable Fees and Costs Associated with Originatingor Acquiring Loans and Initial Direct Costs of Leases — An Amendment of FASBStatements No. 13, 60, and 65 and a Rescission of FASB Statement No. 17*,and fair value of the warrants was deferred.  The fair value of the commonshares totaled $77.8 million and the fair value of the warrants totaled $160.0million.

 

In accordance with SFAS No. 144,the Company tested this asset for recoverability using present value techniquesbased on estimated future cash flows and, accordingly, recorded an impairmentof $77.8 million of contract acquisition fees in the consolidated statement ofoperations for the year ended December 31, 2007.

 

The initial closing of thetransactions under the Participation Agreement, including the issuance of theCompany’s common shares and warrants to Elixir Group, were approved by theCompany’s shareholders at a special meeting of shareholders held on September 10,2007.  Based on the aforementioned common stock issuances, as of December 31,2007, the Company had 114,914,934 shares of its common stock issued andoutstanding, of which 45,800,000 (or 39.86%) were held by Elixir Groupincluding 1,000,000 shares purchased by Elixir Group in January 2007 and4,800,000 shares issued in the warrant exchange transaction in December 2007(see Note 14).

 

Immediately following theinitial closing of the transactions under the Participation Agreement, ElixirGroup became a related party (see Note 16) and in accordance with SFAS No. 13,initial direct costs between related parties should not be capitalized. Accordingly, upon the achievement of the second performance milestone by ElixirGroup on September 13, 2007, the 15,000,000 shares of the Company’s commonstock that were issued (valued at $53.1 million based on market price of ourstock) and the vesting of the 22,000,000 warrants (valued at $40.0 millionbased on a Black-Scholes option-pricing model calculation (see Note 14 forvaluation assumptions)) was recorded as contract acquisition fees expense inthe consolidated statement of operations for the year ended December 31,2007.

 

In October 2007, theCompany entered into the Exchange Agreement with Elixir Group, pursuant towhich the Company agreed to issue to Elixir Group up to 31.2 million shares ofcommon stock in exchange for Elixir Group’s cancellation of up to 78 million ofthe 88 million warrants it received under the Participation Agreement.  Atthe annual meeting of shareholders held on December 17, 2007, a majorityof our voting shares (excluding shares held by Elixir Group) voted to approvethe Exchange Agreement.  Elixir immediately surrendered 12 million vestedwarrants in exchange for 4.8 million shares of our common stock.  Inaccordance with SFAS No. 123R, this exchange represented a modification ofthe original issuance of the warrants.  The Company re-valued the sharesbased upon the fair value at the date of modification.  The fair value ofthe modified award was less then the fair value of the original awardimmediately before the modification thus in accordance with SFAS No. 123R,no additional costs were recorded.

 

On November 6, 2008,the Company entered an agreement with Elixir Group to terminate the ProductParticipation Agreement and the amendments thereto (the “TerminationAgreement”). Pursuant to the termination agreement, Elixir Group and theCompany agreed to terminate, with immediate effect upon signing, the ProductParticipation Agreement save and except for certain provisions thereinregarding board representation, which include but are not limited to, thecontinued presence until September 10, 2009 of at least two independentdirectors who have served on the board since prior to September 2007 andthe close of the Product Participation Agreement. With such termination, ElixirGroup ceased to have rights to identify suitable gaming venues for the Companyand exclusive rights to supply electronic gaming machines and related equipmentand systems for the participation business and, as a result, Elixir 

 

57

----

Table of Contents

 

Group was no longer entitledto earn an aggregate of 41.4 million additional shares of the Company. Inaddition, Elixir Group agreed to cancel warrants to purchase 66 million sharesof common stock, representing all of the outstanding warrants issued to ElixirGroup pursuant to the Product Participation Agreement, which were subject tothe Exchange Agreement between the parties dated October 21, 2007.

 

**13.          STOCK-BASED COMPENSATION**

 

*Options*

 

The Company has two stockoptions plans, the Amended and Restated 1999 Stock Option Plan and the Amendedand Restated 1999 Directors’ Stock Option Plan (the “Stock Option Plans”),through which 15,000,000 shares and 300,000 shares are authorized,respectively. As of December 31, 2007, there were options for the purchaseof 3,218,369 shares of common stock issued under the two plans.

 

In May 2007, stockoptions for the purchase of 5,000,000 common stock were granted by the board ofdirectors outside of the Stock Option Plans pursuant to the initial closing ofthe transactions under the Purchase and Product Participation Agreement(“Product Participation Agreement”) with Elixir Group Limited (“Elixir Group”),to certain employees and non-employees of Elixir Group and their parent MelcoInternational Development Limited.  Each option had an exercise price of$2.90 per share and vests over a three-year period and has a five-year term.

 

During the twelve-monthperiod ended December 31, 2008, stock options for the purchase of11,073,539 shares of common stock were granted with a weighted average exerciseprice of $2.94 and will vest over a three-year period.  As of December 31, 2008, there wereoptions for the purchase of 15,246,267 shares of common stock issued andoutstanding under the Stock Option Plans and stock options for purchases ofcommon stock granted under the Product Participation Agreement.

 

A summary of the StockOption Plans as of December 31, 2008 and 2007, and changes during the yearthen ended, is presented in the following table:

 
| ** **                               | ** ** | **Number of  Shares** | ** ** | **Weighted  Average  Exercise Price** | ** ** | **Weighted Average  Remaining  Contractual Life  (in years)** | ** ** | **Aggregate  Intrinsic Value** | ** ** |
|------------------------------------------|------------|----------------------------|------------|--------------------------------------------|------------|------------------------------------------------------------------------------|------------|-------------------------------------|------------|
| Outstanding as of December 31, 2006 |       | 4,807,762                  |       | $                                          | 1.97       |                                                                         | —     |                                | $          | 11,268,452 |   |
| Granted                                  |       | 5,585,000                  |       | $                                          | 2.85       |                                                                         | —     |                                | $          | 8,075,345 |   |
| Exercised                                |       | (2,050,944                 | )          | $                                          | 1.99       |                                                                         | —     |                                | $          | 3,917,960 |   |
| Forfeited of expired                     |       | (123,449                   | )          | $                                          | 2.08       |                                                                         | —     |                                | $          | 388,799 |   |
| Outstanding as of December 31, 2007 |       | 8,218,369                  |       | $                                          | 2.56       |                                                                         | 3.92       |                                | $          | 14,311,016 |   |
| Exercisable as of December 31, 2007 |       | 3,202,369                  |       | $                                          | 2.03       |                                                                         | 3.16       |                                | $          | 7,291,976 |   |

 
| ** **                               | ** ** | **Number of  Shares** | ** ** | **Weighted  Average  Exercise Price** | ** ** | **Weighted Average  Remaining  Contractual Life  (in years)** | ** ** | **Aggregate  Intrinsic Value** | ** ** |
|------------------------------------------|------------|----------------------------|------------|--------------------------------------------|------------|------------------------------------------------------------------------------|------------|-------------------------------------|------------|
| Outstanding as of December 31, 2007 |       | 8,218,369                  |       | $                                          | 2.56       |                                                                         | —     |                                | —     |   |
| Granted                                  |       | 11,073,539                 |       | $                                          | 2.94       |                                                                         | —     |                                | $          | 94,500 |   |
| Exercised                                |       | (41,737                    | )          | $                                          | 1.70       |                                                                         | —     |                                | $          | 52,419 |   |
| Forfeited of expired                     |       | (4,003,904                 | )          | $                                          | 4.68       |                                                                         | —     |                                | —     |   |
| Outstanding as of December 31, 2008 |       | 15,246,267                 |       | $                                          | 2.28       |                                                                         | 5.09       |                                | $          | 94,500 |   |
| Exercisable as of December 31, 2008 |       | 5,175,499                  |       | $                                          | 2.65       |                                                                         | 3.34       |                                | —     |   |

 

58

----

Table of Contents

 

Outstanding stock optionshad an aggregate intrinsic value of $94,500 and exercisable stock options hadno aggregate intrinsic value as of December 31, 2008 due to the fairmarket value of the Company’s stock as of that date.

 

During the year ended December 31,2008, options with an intrinsic value of $52,419 were exercised and optionsthat vested had no fair value due to the fair market value of the Company’sstock as of that date.

 

The weighted average fairvalue at the date of grant for options granted during 2008 and 2007 asdescribed above was $1.02 per share in 2008 and $1.59 per share in 2007.

 

*Recognition andMeasurement*

 

The fair value of eachstock-based award to employees and non-employee directors is estimated on themeasurement date which generally is the grant date while awards tonon-employees are measured at the earlier of the performance commitment date orthe service completion date using the Black-Scholes-Merton option-pricingmodel. Option valuation models require the input of highly subjectiveassumptions, and changes in assumptions used can materially affect the fairvalue estimates. The Company estimates the expected life of the award by takinginto consideration the vesting period, contractual term, historical exercisedata, expected volatility, blackout periods and other relevant factors.Volatility is estimated by evaluating the Company’s historical volatility data.The risk-free interest rate on the measurement date is based on U.S. Treasuryconstant maturity rates for a period approximating the expected life of the award.The Company historically has not paid dividends, nor does it expect to paydividends in the foreseeable future and, therefore, the expected dividend rateis zero.

 

The following tablesummarizes the range of assumptions utilized in the Black-Scholes-Mertonoption-pricing model for the valuation of stock options and warrants grantedduring the years ended December 31, 2008 and 2007:

 
| ** **                     | ** ** | **2008** | ** ** | **2007** | ** ** |
|--------------------------------|------------|----------|------------|----------|------------|
| **Range of values:** | ** ** | **Low**  | ** ** | **High** | ** ** | **Low** | ** ** | **High** | ** ** |
| Expected volatility            |       | 60.00    | %          | 214.79   | %          | 60.00 | % | 60.00 | % |
| Expected dividends             |       | —   |       | —   |       | — |   | — |   |
| Expected term (in years)       |       | 3.00     |       | 10.00    |       | 3.01 |   | 5.00 |   |
| Risk free rate                 |       | 1.45     | %          | 4.01     | %          | 3.86 | % | 4.92 | % |

 

For stock-based compensationaccrued to employees and non employee directors, the Company recognizesstock-based compensation expense for all service-based awards with gradedvesting schedules on the straight-line basis over the requisite service periodfor the entire award. Initial accruals of compensation expense are based on theestimated number of shares for which requisite service is expected to berendered. Estimates are revised if subsequent information indicates thatforfeitures will differ from previous estimates, and the cumulative effect oncompensation cost of a change in the estimated forfeitures is recognized in theperiod of the change.

 

Fornon-employee awards, the Company remeasures compensation cost each period untilthe service condition is complete and recognizes compensation cost on thestraight-line basis over the requisite service period.

 

TheCompany estimates forfeitures and recognizes compensation cost only for thoseawards expected to vest assuming all awards would vest and reverses recognizedcompensation cost for forfeited awards when the awards were actually forfeited.During the second half of 2008, the Company experienced significant staffturnover including the departure of key executives, therefore, the actualforfeitures were

 

59

----

Table of Contents

 

higherthan the initial estimates. Accordingly, the Company recorded a cumulativeadjustment of $2.0 million to the stock compensation expense based on theactual forfeitures for the year ended December 31, 2008.

 

For awards with service conditionsand graded vesting that were granted prior to the adoption of SFAS No. 123R,the Company estimates the requisite service period and the number of sharesexpected to vest, and recognizes compensation expense for each tranche on thestraight-line basis over the estimated requisite service period.

 

At the annual shareholdersmeeting on September 8, 2008, a new stock option plan, the “2008 StockIncentive Plan” (the “2008 Plan”), was voted on and became effective on January 1,2009, which replaced two previous plans, the Amended and Restated 1999 StockOption Plan and the Amended and Restated 1999 Directors’ Stock Option Plan (the“Stock Option Plans”), thereby expiring both of the Stock Option Plans on December 31,2008.

 

The 2008 Plan allows forincentive awards to eligible recipients consisting of:

 

·                  Options to purchase shares of common stock,that qualify as incentive stock options within the meaning of the InternalRevenue Code;

 

·                  Non-statutory stock options that do notqualify as incentive options;

 

·                  Restricted stock awards; and

 

·                  Performance stock awards, which are subjectto future achievement of performance criteria or be free of any performance orvesting.

 

The maximum number of sharesreserved for issuance under the 2008 Plan is 5,000,000, the exercise priceshall not be less than 100% of the fair market value of one share of commonstock on the date of grant, unless the participant owns more than 10% of thetotal combined voting power of all classes of stock of the Company or anyparent or subsidiary corporation of the Company, in which case the exerciseprice shall then be 110% of the fair market value.

 

*Warrants*

 

A summary of the status ofthe Company’s warrants outstanding at December 31, 2008 and 2007 andchanges during the year then ended is presented in the following tables.

 
| ** **                               | ** ** | **Warrants** | ** ** | **Weighted Average  Exercise Price** | ** ** | **Weighted  Average  Remaining  Contractual Life  (in years)** | ** ** | **Aggregate  Intrinsic Value** | ** ** |
|------------------------------------------|------------|--------------|------------|------------------------------------------------|------------|--------------------------------------------------------------------------|------------|-------------------------------------|------------|
| Warrants, as of December 31, 2006   |       | 5,990,000    |       | $                                              | 1.79       |                                                                     | —     |                                | $          | 142,505,069 |   |
| Granted                                  |       | 105,625,000  |       | $                                              | 2.57       |                                                                     | —     |                                | —     |   |
| Exercised                                |       | (31,528,625  | )          | $                                              | 2.58       |                                                                     | —     |                                | —     |   |
| Cancelled                                |       | (325,000     | )          | $                                              | 2.00       |                                                                     | —     |                                | —     |   |
| Warrants, as of December 31, 2007   |       | 79,761,375   |       | $                                              | 2.51       |                                                                     | 4.76       |                                | $          | 142,505,069 |   |
| Exercisable as of December 31, 2007 |       | 13,761,375   |       | $                                              | 1.86       |                                                                     | 3.60       |                                | $          | 33,605,069 |   |

 

60

----

Table of Contents

 
| ** **                               | ** ** | **Warrants** | ** ** | **Weighted Average  Exercise Price** | ** ** | **Weighted  Average  Remaining  Contractual Life  (in years)** | ** ** | **Aggregate  Intrinsic Value** | ** ** |
|------------------------------------------|------------|--------------|------------|------------------------------------------------|------------|--------------------------------------------------------------------------|------------|-------------------------------------|------------|
| Warrants, as of December 31, 2007   |       | 79,761,375   |       | $                                              | 2.51       |                                                                     | 4.76       |                                | $          | 142,505,069 |   |
| Cancelled                                |       | (66,636,375  | )          | $                                              | 2.64       |                                                                     | —     |                                | —     |   |
| Warrants, as of December 31, 2008   |       | 13,125,000   |       | $                                              | 1.86       |                                                                     | 3.59       |                                | —     |   |
| Exercisable as of December 31, 2008 |       | 13,125,000   |       | $                                              | 1.86       |                                                                     | 3.59       |                                | —     |   |
|                                          |            |              |            |                                                |            |                                                                          |            |                                     |            |  |  |

 

Outstanding and exercisable warrantshave no aggregate intrinsic value as of December 31, 2008 and 2007 due tothe fair market value of the Company’s stock as of these dates.

 

There were no warrantsgranted during 2008 and there were 16 million warrants granted to Elixir Groupon January 25, 2007 and modified in September 2007 (Note 12).

 

The amount recorded as anexpense in the consolidated statement of operations for the year ended December 31,2007 related to warrants issued in fiscal 2007 was $67.3 million.

 

**14.          EQUITY TRANSACTIONS**

 

On October 19, 2007,the Company entered into a securities purchase agreement and a registrationrights agreement with certain accredited investors for the private placement of15,000,000 shares of its common stock at a price of $3.50 per share, for aggregategross proceeds of $52.5 million.  The purchase and sale of the commonshares closed on October 25, 2007. The securities purchase agreementincludes customary representations, warranties, and covenants by the investorsand the Company and an indemnity from the Company. Pursuant to the terms of theregistration rights agreement, the Company agreed to cause a resaleregistration statement covering the shares to be filed within 30 days afterclosing.

 

On September 7, 2007,the Company entered into a Waiver and Amendment to Warrants (the “Amendment”)with four investment funds managed by Bricoleur Capital Management, of SanDiego, California (the “Bricoleur Funds”). The Amendment modified certain termsof the notes and warrants the Company issued to the Bricoleur Funds pursuant toan 8% Senior Secured Note Purchase Agreement dated May 1, 2006 (the “NotePurchase Agreement”). Pursuant to the Note Purchase Agreement, the BricoleurFunds purchased from the Company 8% senior secured notes (the “Notes”) in the principalamount of $13,000,000 and warrants (“Warrants”) to purchase up to 2,600,000shares of the Company’s common stock at an exercise price of $2.00 pershare.  The fair value of the warrants at issuance was $3,380,000, usingthe relative fair value method, and recorded as a debt discount.

 

The Notes included a changein control provision that would have allowed the Bricoleur Funds to acceleratethe payment of the outstanding principal amount under the Notes upon theissuance of the Company’s equity securities pursuant to the ParticipationAgreement dated June 12, 2007 between the Company and Elixir Group. Inaddition, 50% of the net proceeds from certain equity issuances by the Companywere to be used to reduce the principal balance of the Notes and, accordingly,the Company owed the Bricoleur Funds $825,000 in principal as a result of anequity issuance by the Company in September 2007.

 

Pursuant to the Amendment,the Company agreed with the Bricoleur Funds to (a) amend the Warrants toadd net exercise provisions to the Warrants, (b) effect a net exercise ofWarrants representing the right to purchase 2,275,000 shares of the Company’scommon stock at a mutually agreed value of $3.50 per share for purposes ofeffecting such net exercise, resulting in the issuance of 975,000 shares of theCompany’s common stock to the Bricoleur Funds in exchange for the cancellationof 2,275,000 Warrants, (c) waive 

 

61

----

Table of Contents

 

any application of thechange in control provision of the Notes with respect to the transactions underthe Participation Agreement, and (d) defer the $825,000 in principalamount owed by the Company and allow the Company to pay such amount inaccordance with the payment terms of the Notes as though the September 2007equity issuance had not occurred.

 

In accordance with SFAS No. 123R,the amendment has been treated as a modification to the equity instrument andincremental compensation costs measured as the excess, if any, of the fairvalue of the modified award over the original fair value.  The estimatedfair value of the award as modified was less than the original estimated fairvalue, and accordingly, there was no accounting effect due to the modificationof the terms.

 

On May 3, 2007, theCompany entered into an agreement with four investors for the Company’s sale of600,000 shares of its common stock for the aggregate price of $1,650,000 ($2.75per share) paid in cash.

 

On March 28, 2007, theCompany completed the sale of 1,625,000 shares of the Company’s common stockand warrants to purchase 1,625,000 shares of common stock to an institutionalinvestor for the aggregate price of $4,306,250. The warrants are exercisable atan exercise price of $2.65 per share for a period of five years beginning on March 28,2007.  The relative fair value of the stock and warrants were classifiedin equity in accordance with Accounting Principals Board (“APB”) No.14, *Accounting for Convertible Debt Issued with Stock Purchase Warrants*and EITF 00-19, *Accounting for Derivative FinancialInstruments Indexed to, and Potentially Settled in a Company’s Own Stock*.The Company also granted the investor certain registration rights requiring theCompany to file a selling shareholder registration statement with the SEC, forpurposes of registering the resale of the shares of the Company’s common stockissued to the investor pursuant to the transaction, including all shares thatare issued, or may be issued, upon exercise of the warrants. The Company wasrequired to pay the investor a cash penalty in the event of a failure to filethe registration statement by June 15, 2007 or the Company’s failure toachieve and maintain the effectiveness of the registration statement asprovided in the registration rights agreement, however the investor agreed towaive the penalty for failure to file by June 15, 2007 and to extend thefiling deadline to November 23, 2007.  The Company complied with thefiling date and no penalty was assessed.

 

**15.          RELATED PARTY TRANSACTIONS**

 

On September 13, 2007,the second performance milestone was achieved by Elixir Group (the principalshareholder of the Company) and 15,000,000 shares of the Company’s common stockwere issued and 22,000,000 of the 88,000,000 warrants to purchase common stockvested.  As this transaction was between related parties and in accordancewith SFAS No. 13, and SFAS No. 91, the fair value of the commonshares and the vested portion of the warrants were recorded as expense whenincurred.  Accordingly, the Companyrecorded $93.1 million of contract acquisition fees in the consolidatedstatement of operations for the year ended December 31, 2007.

 

During the year ended December 31, 2007, theCompany purchased $39.8 million of electronic gaming machines and systems fromElixir Group, at cost plus fifteen percent (15%).  At December 31,2007, the Company had accounts payable of $29.6 million due to Elixir Group forthese purchases.  The payables had cash terms of fifty percent (50%) dueupon placement and the balance 45 days thereafter with no required interestpayments.  The Company recorded sales of $193,700 to Elixir Group afterbecoming related parties.

 

On April 21, 2008, theCompany entered into a Trade Credit Facility Agreement (the “FacilityAgreement”) with Elixir International, a wholly-owned subsidiary of ElixirGroup.  Pursuant to the FacilityAgreement, Elixir International provided trade credits to the Company for itspurchase of 

 

62

----

Table of Contents

 

electronic gaming machinesfrom Elixir International in exchange for the Company’s issuance of unsecurednotes to Elixir International bearing interest at a fixed rate of eight percent(8.0%) per annum.  Title of any gamingmachines offered in exchange for the notes passes to the Company upon issuanceof the notes.

 

Upon entering into theFacility Agreement, the Company immediately issued the first note pursuant tothe terms of the Facility Agreement in the principal amount of $15.0 million(the “Initial Advance”),  therebyextinguishing the payable of an equivalent amount to Elixir International inrespect to gaming machines previously acquired. The Company was obligated to repay the principal, plus any accruedinterest thereon, of the Initial Advance in 24 equal monthly installments.  The Initial Advance was subject to demand byElixir International for immediate payment only if there was either an event ofdefault or a change of control as defined in the Facility Agreement.

 

During 2008, the Companypurchased $32.6 million of electronic gaming machines, casino managementsystems and other peripherals from Elixir International.

 

On November 6, 2008,the Company entered into a Machines Disposal Agreement (the “DisposalAgreement”) with Elixir International. On the same day, the Company enteredinto an agreement to terminate the Securities Purchase and ProductParticipation Agreement and the amendments thereto (“the “Product ParticipationAgreement”) with Elixir Group (the “Termination Agreement”) and an Amendment ofthe Trade Credit Facility Agreement and Related Note with Elixir International(the “Facility Amendment Agreement”).

 

Pursuant to the DisposalAgreement, the Company agreed to return 715 electronic gaming machines toElixir International, which as consideration for such sale and return, agreedto extinguish an existing current trade payable of approximately $13.9 millionof the Company to Elixir International.

 

Pursuant to the TerminationAgreement, Elixir Group and the Company agreed to terminate, with immediateeffect upon signing, the Product Participation Agreement save and except forcertain provisions therein regarding board representation, which includes butis not limited to, the continued presence until September 10, 2009 of atleast two independent directors who served on the board since prior to the September 2007close of the Product Participation Agreement. With such termination, ElixirGroup ceased to have rights to identify suitable gaming venues for the Companyand exclusive rights to supply electronic gaming machines and related equipmentand systems for the Company’s participation business and, as a result, ElixirGroup no longer is entitled to earn an aggregate of 41.4 million additionalshares of the Company. In addition, Elixir Group agreed to cancel warrants topurchase 66 million shares of the Company’s common stock, representing all ofthe outstanding warrants issued to Elixir Group pursuant to the ParticipationAgreement.

 

Pursuant to the FacilityAmendment Agreement, Elixir International surrendered the Initial Advance tothe Company in exchange for the issuance of a new promissory note for $12.1 million(the “Outstanding Principal”), the outstanding principal at the time of theexchange, with the following new repayment terms: (a) the New Note and theinterest accrued thereon shall be repaid in 24 equal monthly installments resetfrom January 1, 2009; (b) interest shall be accrued on theOutstanding Principal at the rate of five percent (5.0%) (instead of 8.0%) perannum starting from January 1, 2009; and no monthly repayment under theInitial Advance was required for the months of October, November and December 2008.

 

63

----

Table of Contents

 

After the return of $13.9million of electronic gaming machines, the Company had a receivable balance of$0.5 million and a note payable of $12.1 million as of December 31,2008.  In addition, at December 31, 2008, the Company had deposits onorders with Elixir International totaling $348,232 for gaming machines, whichwere subsequently delivered in early 2009.

 

On June 1, 2008, theCompany purchased certain office equipment, furniture and other assets fromElixir International for use at its offices in the Philippines.  The total value of such assets, which wereacquired at net book value with no mark-up, was approximately $352,084. For theyear ended December 31, 2008 and 2007, the Company recorded sales of table gameproducts of $536,421 and $758,888, respectively.

 

During the period from January 1,2008 until early December 2008 when we reallocated our staff in Macau toour Hong Kong office, we shared our office premises in both Hong Kong and Macauwith Elixir Group Limited and Elixir International Limited respectively.  Since the leases of such office premises wereentered into by the respective Elixir Group companies, we paid our share ofrentals and management fees in proportion to the areas that we actuallyoccupied to Elixir Group companies without any mark up. The total amount ofsuch rentals and management fees paid by us to Elixir Group companies for theyear ended December 31, 2008 was $205,553 and for the year ended December 31,2007 was nil.

 

Significant revenues,purchases and expenses arising from transactions with related parties for eachof the year ended December 31, 2008 are as follows:

 
| **Elixir International Limited**        |   |   |       |
|-----------------------------------------|--------|--------|------------|
| Purchase of fixed assets, net of return |   | $      | 19,333,565 |   |
| Other Purchases                         |   | $      | 216,498    |   |
| Trade, sales of gaming products         |   | $      | 536,421    |   |
| Interest payment                        |   | $      | 612,046    |   |
| Office rental                           |   | $      | 205,553    |   |
| Expenses paid on behalf                 |   | $      | 177,762    |   |
|                                    |   |   |       |
| **Melco Crown Entertainment**           |   |   |       |
| Deposit received from sales orders      |   | $      | 1,364,564  |   |
| Purchase of fixed assets                |   | $      | 27,672     |   |

 

**16.          INCOME TAXES**

 

The components of theprovision for income taxes are as follows:

 
| ** **        | ** ** | **Year ended December 31** | ** ** |
|-------------------|------------|-------------------------------------------|------------|
| ** **        | ** ** | **2008**                                  | ** ** | **2007** | ** ** |
| Federal           |       |                                      |       |   |   |
| Current           |       | $                                         | (165,848   | ) | $ | — |   |
| Deferred          |       | —                                    |       | — |   |
| State             |       |                                      |       |   |   |
| Current           |       | —                                    |       | — |   |
| Deferred          |       | —                                    |       | — |   |
| Foreign           |       |                                      |       |   |   |
| Current           |       | —                                    |       | (80,324 | ) |
| Deferred          |       | 375,170                                   |       | 833,449 |   |
| Total Tax Benefit |       | $                                         | 209,322    |   | $ | 753,125 |   |

 

64

----

Table of Contents

 

The reconciliation of thestatutory federal income tax rate and the Company’s effective tax rate is asfollows:

 
| ** **                                      | ** ** | **December 31,** | ** ** |
|-------------------------------------------------|------------|-----------------------|------------|
| ** **                                      | ** ** | **2008**              | ** ** | **2007** | ** ** |
|                                            |       |                  |       |   |   |   |   |   |   |
| Federal benefit at statutory rates              |       | $                     | 9,235,941  |   | 34.0 | % | $ | 80,019,580 |   | 34.0 | % |
| Difference in jurisdictional tax rates          |       | (884,869              | )          | (3.3 | )% | (1,117,080 | ) | (0.5 | )% |
| Participation agreement warrant expense         |       | —                |       | — |   | (5,591,300 | ) | (2.4 | )% |
| Prepaid distribution agreement warrant  expense |       | (470,330              | )          | (1.7 | )% | (6,089,926 | ) | (2.6 | )% |
| Goodwill impairment                             |       | —                |       | — |   | (3,806,154 | ) | (1.6 | )% |
| Write-off of net operating losses               |       | —                |       | — |   | (41,591,395 | ) | (17.7 | )% |
| Change in valuation allowance                   |       | (7,474,316            | )          | (27.5 | )% | (21,202,683 | ) | (9.0 | )% |
| Other                                           |       | (197,104              | )          | (0.7 | )% | 132,083 |   | 0.1 | % |
|                                            |       |                  |       |   |   |   |   |   |   |
| Total tax benefit                               |       | $                     | 209,322    |   | 0.8 | % | $ | 753,125 |   | 0.3 | % |

 

The effective tax rate for the year wassignificantly lower than the federal statutory rate due primarily to thevaluation allowance against the Company’s deferred tax assets.  Some prioryear amounts in the table above have been reclassified between individual linesto appropriately reflect the Company’s income tax expense/benefit.

 

Consolidated loss before taxes for domesticand international operations is as follows:

 
| ** **    | ** ** | **December 31,** | ** **  |
|---------------|------------|-----------------------|-------------|
| ** **    | ** ** | **2008**              | ** **  | **2007** | ** ** |
| Domestic      |       | $                     | (18,884,309 | ) | $ | (231,461,115 | ) |
| International |       | (8,280,209            | )           | (3,890,590 | ) |
|          |       |                  |        |   |   |
| Total         |       | $                     | (27,164,518 | ) | $ | (235,351,705 | ) |

 

The primary tax affected components of theCompany’s net deferred tax assets are as follows:

 
| ** **                     | ** ** | **December 31,** | ** ** |
|--------------------------------|------------|-----------------------|------------|
| ** **                     | ** ** | **2008**              | ** ** | **2007** | ** ** |
| **Deferred tax assets:**       |       |                  |       |   |   |
| Prepaid commission agreement   |       | $                     | 1,935,766  |   | $ | 2,581,021 |   |
| Net operating losses           |       | 52,932,148            |       | 48,645,024 |   |
| Stock options                  |       | 2,545,890             |       | — |   |
| Other                          |       | 2,429,443             |       | 1,863,053 |   |
| Valuation allowance            |       | (59,482,712           | )          | (52,538,683 | ) |
|                           |       | 360,535               |       | 550,415 |   |
|                           |       |                  |       |   |   |
| **Deferred tax liabilities:**  |       |                  |       |   |   |
| Goodwill                       |       | (449,808              | )          | (709,478 | ) |
| Other                          |       | (406,287              | )          | (772,871 | ) |
|                           |       | (856,095              | )          | (1,482,349 | ) |
|                           |       |                  |       |   |   |
| **Net deferred tax liability** |       | $                     | (495,560   | ) | $ | (931,934 | ) |

 

Some prior year amounts inthe table above have been reclassified between individual lines toappropriately reflect the Company’s deferred tax assets and liabilites.

 

The Company adopted theprovisions of FIN 48, *Accounting for Uncertaintyin Income Taxes*, on January 1, 2007. Previously, the Companyhad accounted for tax contingencies in accordance with SFAS No. 5, *Accounting for Contingencies*.  As required by FIN 48, which clarifies SFAS No. 109*, Accounting for Income Taxes*, the Company recognizes thefinancial statement benefit of a tax position only after determining that therelevant tax authority would more likely than not sustain the position.  For tax 

 

65

----

Table of Contents

 

positions meeting the morelikely than not threshold, the amount recognized in the financial statements isthe largest benefit that has a greater then 50 percent (50%) likelihood ofbeing realized upon ultimate settlement with the relevant tax authority.  At the adoption date, the Company applied FIN48 to all tax positions for which the statute of limitations remained open.

 

As a result of theimplementation of FIN 48, the Company identified approximately $1,979,099 ofunrecognized tax benefits.  The totalgross amount of unrecognized tax benefits of December 31, 2008 and 2007was approximately $1,979,099 and $1,211,607, respectively.  A reconciliation of the beginning and endingamounts of unrecognized tax benefits is as follows:

 
| **Balance at January 1, 2007**            |   | $       | —    |   |
|------------------------------------------------|--------|---------|-----------|--------|
| Increases in tax positions from prior years    |   | 688,356 |      |
| Decreases in tax positions from prior years    |   | —  |      |
| Increases in tax positions from current  years |   | 523,251 |      |
| Decreases in tax positions from current  years |   | —  |      |
| Settlements with taxing authorities            |   | —  |      |
| Lapses of statutes of limitations              |   | —  |      |
|                                           |   |    |      |
| **Balance at December 31, 2007**          |   | $       | 1,211,607 |   |
| Increases in tax positions from prior years    |   | —  |      |
| Decreases in tax positions from prior years    |   | —  |      |
| Increases in tax positions from current  years |   | 767,492 |      |
| Decreases in tax positions from current  years |   | —  |      |
| Settlements with taxing authorities            |   | —  |      |
| Lapses of statutes of limitations              |   | —  |      |
| **Balance at December 31, 2008**          |   | $       | 1,979,099 |   |

 

The amount of uncertain tax benefits at December 31,2008 that would affect the effective income tax rate if recognized is $265,814.

 

The Company revised the tabular roll-forwardof unrecognized tax benefits to include unrecognized tax benefits beforeoffsetting for available net operating losses. This revision did not impact the reported amounts in the balance sheetfor deferred tax assets, valuation allowance, or unrecognized tax benefit(reported as a component of other non-current liabilities), as net operatinglosses resulting from uncertain tax positions were offset against thecorresponding unrecognized tax benefit.

 

The Company files income tax returns in the U.S. andin various states and foreign jurisdictions. The Company is subject to federal,state and local, or foreign income tax examinations by tax authorities injurisdictions which it operates. The Company is not presently under examinationby any major tax jurisdiction.  TheCompany’s 2003 to 2006 U.S. income tax returns remain subject to examination bythe IRS and the Company’s 2003 to 2006 Australian income tax returns remainsubject to examination by the Australian Tax Office.

 

The Company recognizes interest and penalties, ifany, related to unrecognized tax benefits in the provision for income taxes onthe statement of operations. At December 31, 2008, the Company hasinterest and penalties of $43,365 accrued in the balance sheet or statement ofoperations.  The Company does not expecta significant increase or decrease in unrecognized tax benefits over the nexttwelve months.

 

Domestic operating loss carryforwards were $171.3million and $159.0 million for the years ended December 31, 2008 and 2007,respectively, which are subject to limitations under Section 382 of theInternal Revenue Code. These domestic operating losses begin to expire in2016.  During 2007, the Company wrote off$41.6 million of domestic operating losses that it determined would expire as aresult of limitations under Section 382 of the Internal Revenue Code.  Operating loss carryforwards of foreignsubsidiaries were $9.7 million and $5.0 million for the years ended December 31,2008 and 2007 respectively.

 

At December 31, 2008 and 2007, there werevaluation allowances of $61.2 million and $53.7 million, respectively, providedon the domestic and foreign operating loss carry forwards and other deferredtax 

 

66

----

Table of Contents

 

assets because management believe these assets didnot meet the “more likely than not” criteria for recognition under SFAS No. 109.

 

As of December 31, 2008 there were no materialundistributed earnings of subsidiaries.

 

**17.          RESTRUCTURING CHARGES**

 

In accordance with SFAS 146,*Accounting for Cost Associated with Exit orDisposal Activities*, in 2008 the Company incurred restructuringcharges of $666,125 for severance wages and benefits based upon contractual andother agreements with employees which only include charges for terminationbenefits measured at the estimated fair value at the termination date.  Itdoes not include charges for services yet to be rendered.  The headcountreduction in 2008 was approximately 8% of the total workforce.  In 2007,as part of the initial closing of the transactions under the ProductParticipation Agreement with Elixir Group, the Company announced a change inexecutive management.  As part of the restructuring, in October 2007the Company gave termination notice to all service technicians, inventorymanagement personnel, some regulatory compliance personnel and someadministrative staff.  The Company accrued $1,290,837 for restructuringand severance costs and all of these costs were paid subsequent to December 31,2007.

 

**18.          COMMITMENTS AND CONTINGENCIES**

 

*Leases*

 

The Company is obligatedunder non-cancelable leases for office and warehouse facilities expiring in2011 and 2009, respectively. The Company also leases office space in otherlocations including China, Australia, Philippines, Hong Kong, and Cambodia andcertain office equipment under non-cancelable operating leases with remainingterms in excess of one year.

 

In March 2008, theCompany moved its U.S. office and entered into a new non-cancelable lease fornew office space.  In February 2008, the Company entered into asublease for the balance of the remaining term on the previous officespace.  The proceeds from the sublease have been netted against the futureminimum lease payments.

 

Future minimum lease paymentcommitments, net of sublease proceeds and including scheduled escalationprovisions as of December 31, 2008, under the leases are as follows:

 
| ** ** | ** ** | **Total Payments** | ** ** | **Sublease Proceeds** | ** ** | **Net Payments** | ** ** |
|------------|------------|-------------------------|------------|----------------------------|------------|-----------------------|------------|
| 2009       |       | $                       | 1,215,723  |                       | $          | 275,946               |       | $ | 939,777 |   |
| 2010       |       | $                       | 1,087,848  |                       | $          | 278,955               |       | $ | 808,893 |   |
| 2011       |       | $                       | 932,535    |                       | $          | 273,122               |       | $ | 659,413 |   |
| 2012       |       | $                       | 591,449    |                       | $          | 14,637                |       | $ | 576,812 |   |
| 2013       |       | $                       | 473,086    |                       | $          | —                |       | $ | 473,086 |   |
| Thereafter |       | $                       | 18,533     |                       | $          | —                |       | $ | 18,533 |   |

 

Rent expenses on alloperating leases were $1,299,808 and $918,215 for the years ended December 31,2008 and 2007, respectively.

 

*Legal Matters*

 

The Company is a party tocertain claims, legal actions, and complaints, including a patent infringementaction between the Company and one of its main competitors and the sales taxdispute

 

67

----

Table of Contents

 

discussed in the followingparagraph. The Company cannot estimate the probable loss, if any, or predictthe likely outcome of any such matters and, accordingly, no accrual has beenmade.

 

On October 5, 2004, Shuffle Master filed a patent infringementaction in the United States District Court, District of Nevada (Case No. CV-S-04-1373-JCM-LRL)claiming that the use, importation and offering for sale of the PokerOneshuffler infringed Shuffle Master’s United States Patent, No. 6,655,684.The Company responded by denying Shuffle Master’s claim of patent infringement.On February 1, 2008, the District Court granted the Company’s motion forsummary judgment on all patent infringement claims.  On February 15,2008, the Company delivered a demand to Shuffle Master for $3.0 million indamages for the wrongful injunction it obtained in 2004.  The Company also filed a motion in DistrictCourt to recover its attorneys’ fees in the litigation.  While ShuffleMaster initially filed an appeal, they subsequently withdrew the appeal.

 

While originally the case would have gone back to the District Court toresolve claims for damages and attorneys’ fees, on March 16, 2009,the Company entered into a Purchase and Settlement Agreement with ShuffleMaster (the “Purchase and Settlement Agreement”), and pursuant to which theCompany has sold to Shuffle Master the portfolio of automated card verification machines andelectronic card shuffling systems, all related intellectual property,including but not limited to, the trademarks of Random PlusTM, ShuffleProTM and Deck CheckerTM, and certaininventory of such products. In addition, Shuffle Master and the Company hassettled all outstanding patent infringement litigation with respect to U.S.Patent No. 6,665,684 dealing with automated shuffler technology.  The total consideration paid by ShuffleMaster under the Settlement Agreement is a base amount of $2.4 million subjectto an adjustment of up to $400,000 related to the inspection of the conditionof the final inventory to be delivered, or up to $2.8 million in total.  We expect that the inspection will be completedduring the second quarter of 2009.

 

On October 5, 2007,William Purton, the former owner of Dolphin, filed an action against theCompany in the Supreme Court of Victoria at Melbourne, Australia claiming he isowed monies under the July 2006 Share Sale Agreement by which the Companyacquired Dolphin.  In addition, Purton is claiming he is owed money for anindependent contractor agreement that he claims he was offered.  TheCompany has filed a counterclaim.  The matter is proceeding toward trialand the Company currently intends to vigorously defend its position.

 

*Sales Tax Audit*

 

In February 2004, theState of Nevada initiated a sales/use tax audit of the Company’s equipmentlessors. As of the date of this filing, the State of Nevada has not made adetermination if there has been a shortfall in the payment of the sales/usetax. If the State of Nevada determines that the sales of the products to theequipment lessors is the level at which sales/use tax should have beencollected, liability of the leasing companies could be passed on to the Companyand may not be recoverable. The outcome could range from a refund of $144,000to a potential liability with interest and penalties of up to $500,000.However, no probable loss, if any can be estimated.  Accordingly, noaccrual has been made for any possible losses in connection with this matter.

 

68

----

Table of Contents

 

**19.          LOSS PER SHARE**

 

The following table providesa reconciliation of basic and diluted loss per share for the years ended December 31,2008 and 2007:

 
| ** **                       | ** ** | **December 31,** | ** **  |
|----------------------------------|------------|-----------------------|-------------|
| ** **                       | ** ** | **2008**              | ** **  | **2007** | ** ** |
| Net loss                         |       | $                     | (26,955,196 | ) | $ | (234,598,580 | ) |
|                             |       |                  |        |   |   |
| Weighted average common shares:  |       |                  |        |   |   |
| Basic and diluted                |       | $                     | 114,948,384 |   | $ | 51,574,786 |   |
|                             |       |                  |        |   |   |
| Basic and diluted loss per share |       | $                     | (0.23       | ) | $ | (4.55 | ) |

 

Dilutive stock options andwarrants of nil and 39.2 million for the years ended December 31, 2008 and2007, respectively, have not been included in the computation of diluted lossper share as their effect would be anti-dilutive.

 

**20.          SUBSEQUENT EVENTS**

 

Set forth below are the major developments ofour Company and events that have a material impact on our business whichoccurred during the period from January 1, 2009 through the date of thisreport.

 

**Sale of Certain Table Game Products to andSettlement of Litigation with Shuffle Master, Inc.**

 

On March 16, 2009, we entered into aPurchase and Settlement Agreement with Shuffle Master, Inc. (the “Purchaseand Settlement Agreement”) pursuant to which we have sold to Shuffle Master ourportfolio of automatedcard verification machines and electronic card shuffling systems, allrelated intellectual property, including but not limited to, the trademarks of Random PlusTM, ShuffleProTM and DeckCheckerTM, and certain inventory of such products.

 

In addition, Shuffle Master and the Companyhave settled all outstanding patent infringement litigation with respect toU.S. Patent No. 6,665,684 dealing with automated shuffler technology.  The total consideration paid by ShuffleMaster to us under the Purchase and Settlement Agreement is a base amount of$2.4 million, subject to an adjustment of up to $400,000 related to theinspection of the condition of the final inventory to be delivered by us, or upto $2.8 million in total. Also, as part of the transaction, we have agreed notto engage, directly or indirectly, in the business related to the manufacturingor selling of automatedcard verification machines and electronic card shuffling systems, anywhere inthe world, for a period of seven years from the date of closing.

 

Regarding the now settled litigation between Shuffle Master and us,this traces back to October 5, 2004, when Shuffle Master first filed apatent infringement action against us in the United States District Court,District of Nevada (Case No. CV-S-04-1373-JCM-LRL) claiming that the use,importation and offering for sale of our PokerOne shuffler infringed ShuffleMaster’s United States Patent, No. 6,655,684. We responded by denyingShuffle Master’s claim of patent infringement. On February 1, 2008, theDistrict Court granted our motion for summary judgment on all patentinfringement claims.  On February 29, 2008, Shuffle Master filed anotice of appeal of the February 1, 2008 court ruling.  On February 15,2008, we delivered a demand to Shuffle Master for $3.0 million in damages forthe wrongful injunction they obtained in 2004.  We also filed a motion inDistrict Court to recover our attorney fees in the litigation.  ShuffleMaster initially filed an appeal from the District Court ruling, butsubsequently withdrew their appeal.

 

69

----

Table of Contents

 

**Regulatory Changes inCambodia**

 

Asreported in our Current Reports on Forms 8-K filed on January 2, 2009, January 16,2009, and March 2, 2009, Cambodia’s Prime Minister issued a directive on December2, 2008 which requires slot machine operators in the country to obtain licensesissued by the Ministry of Economy and Finance and to operate only in hotelscertified by the Ministry of Tourism.  According to the directive, existing slotmachine operators have six months to comply.  In addition, the directive seeks strictcompliance with the foreigners-only rule that permits only foreigners orCambodians with foreign passports to gamble in the country.

 

OnFebruary 24, 2009, Cambodia’s Prime Minister called for the closure of thecountry’s sole bookmaker, Cambo Six and said the government would not renew itslicense upon expiration in 2011.  Subsequent to this action, all but two of theapproximately 70 slot clubs in Cambodia’s Phnom Penh area have been eithertemporarily or permanently closed. Our partner NagaWorld, which operates underan exclusive casino license in the Phnom Penh area, is one of the two gamblingvenues that remain open.

 

Currently,with the exception of the Premier Club at NagaWorld, all of our clubs inCambodia have been closed.  At thisjuncture, we do not intend to reopen our closed clubs and we have regained physical possession of ourmachines in these venues for future deployment. At present, we plan to focus our resources in the Cambodia market on ouroperations at NagaWorld, which we expect will benefit from the widespreadclosures of slot clubs in the Phnom Penh area.

 
| **ITEM  9.** | **CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON  ACCOUNTING AND FINANCIAL DISCLOSURE** |
|--------------|-------------------------------------------------------------------------------------------|

 

Not applicable.

 
| **ITEM  9A(T).** | **CONTROLS AND PROCEDURES** |
|------------------|-----------------------------|

 

(a)*  Evaluation of Disclosure Controls andProcedures.*

 

Our management, with the participation of our chief executive officerand vice president of finance who serves as our principal finance officer,evaluated the effectiveness of our disclosure controls and procedures pursuantto Rule 13a-15 under the Securities Exchange Act of 1934, as amended (the“Exchange Act”). Based upon that evaluation and for the reasons stated insection (c) below, our management, including our chief executive officer andprincipal financial officer concluded that our disclosure controls andprocedures were not effective as of December 31, 2008 in ensuring all materialinformation required to be filed has been made known in a timely manner.

70

----

Table of Contents

 

(b)*  Changes in internal control over financialreporting.*

 

Except as indicated in section (c) below, there were no other changesin our internal control over financial reporting that occurred during thefourth quarter of 2008 that have materially affected, or are reasonably likelyto materially affect, our internal control over financial reporting.

 

(c)*  Management’s report on internal control overfinancial reporting.*

 

Our management is responsible for establishing and maintaining adequateinternal control over financial reporting, as defined under Rule 13a-15(f)under the Securities Exchange Act of 1934. Management has assessed the effectiveness of our internal control overfinancial reporting as of December 31, 2008 based on the framework establishedin Internal Control – Integrated Framework issued by the Committee of SponsoringOrganizations of the Treadway Commission (“COSO”). 

 

Based on the Company’s evaluation under the COSO framework, managementconcluded that material weaknesses, as defined in the U.S. Securities andExchange Commission’s “Guidance Regarding Management’s Report on InternalControl Over Financial Reporting”, existed in the Company’s internal controlover financial reporting at December 31, 2008. In making its assessment, management identified four material weaknesses.

 

First, a material weakness in tracking and accounting for electronicgaming machines (EGMs) was attributable to late implementation of certainpolicies and procedures during the significant growth of our gamingparticipation business in Asia. This weakness related to ineffective controlsover and resulting in insufficient records of machine movement, incorrectcapitalization of costs and improper recording of disposals. In late 2008,management introduced additional procedures and controls to better track andaccount for EGMs in service and transferred within the group, including a fullphysical count of EGMs was conducted at December 31, 2008.  These procedures have been graduallyimplemented during the fourth quarter of 2008 and will continue to beimplemented in order to achieve effective control over EGM movements in 2009.  In order to ensure our EGMs balance wascorrect as of December 31, 2008, we also performed a physical count of EGMs atDecember 31, 2008 and noted no material discrepancy.

 

Management also concluded there were three material weaknesses in thefinancial statement closing process which resulted in audit adjustments at yearend.  One material weakness related todeficiencies in our controls over the accounting for foreign currency transactionsand translation whereby foreign currency translation amounts were improperlyrecorded in other comprehensive income instead of the statement ofoperations.  A second material weaknessrelated to deficiencies in our controls over the calculation and recording ofstock-based compensation, and the third material weakness is the aggregate ofdeficiencies in our controls over the valuation of inventory, receivables andintangible assets.  All of theseweaknesses were associated with transactions that were complex and non-routinein nature and were attributable to inadequate

71

----

Table of Contents

 

reviews over account balances at the reporting date.  We will continue to train our financialaccounting reporting staff with respect to the appropriate considerations andreview procedures relating to judgmental and complex non-recurring transactionsand balances, and our principal financial officer will perform a thorough reviewof critical estimates and account balances at each reporting date. 

 

We willcontinue to monitor and to test our internal controls to insure the materialweaknesses have been remediated.

 

This annualreport does not include an attestation report of our registered publicaccounting firm regarding internal control over financial reporting.  Our management’s report was not subject toattestation by our registered public accounting firm pursuant to temporaryrules of the Securities and Exchange Commission that permit us to provide onlymanagement’s report in this annual report.

 

**ITEM  9B.****                                        ****OTHERINFORMATION**

 

Not applicable.

 

72

----

Table of Contents

 

**PART III**

 

Except as set forth below,the information required by Items 10 through 14 is set forth under the captions“Election of Directors,” “Ratification of Independent Registered PublicAccounting Firm,” “Security Ownership of Certain Beneficial Owners andManagement”, “Executive Compensation,” “Certain Relationships and Related PartyTransactions” and “Section 16(a) Beneficial Ownership Reporting Compliance” inElixir Gaming Technologies, Inc.’s definitive proxy statement for its 2009annual meeting of stockholders, to be filed with the Securities and ExchangeCommission pursuant to Regulation 14A of the Securities Exchange Act of 1934,as amended, which sections are incorporated herein by reference as if set forthin full.

 
| **ITEM  10.** | **DIRECTORS, EXECUTIVE OFFICERS AND CORPORATE  GOVERNANCE** |
|---------------|-------------------------------------------------------------|

 

Except as set forth below,the information required by this Item is incorporated by reference to ourdefinitive proxy statement.

 

We have adopted a code ofethics for our chief executive officer, principal financial officer andprincipal accounting officer or controller, or persons performing similarfunctions, which is available on our website, under the link entitled “Code ofEthics”.

 

Information concerning ourexecutive officers is set forth In “Item 1, Business” above in this annualreport.

 
| **ITEM  11.** | **EXECUTIVE COMPENSATION** |
|---------------|----------------------------|

 

Except as set forth below,the information required by this Item is incorporated by reference to ourdefinitive proxy statement.

 

Information relating tosecurities authorized for issuance under our equity compensation plans is setforth in “Item 5, Market for Registrant’s Common Stock, Related StockholderMatters and Issuer Purchases of Equity Securities” above in this annual report.

 
| **ITEM  12.** | **SECURITY OWNERSHIP OF  CERTAIN BENEFICIAL OWNERS AND MANAGEMENT AND RELATED STOCKHOLDER MATTERS** |
|---------------|-----------------------------------------------------------------------------------------------------|

 

The information required bythis Item is incorporated by reference to our definitive proxy statement.

 
| **ITEM  13.** | **CERTAIN RELATIONSHIPS  AND RELATED TRANSACTIONS AND DIRECTOR INDEPENDENCE** |
|---------------|-------------------------------------------------------------------------------|

 

The information required bythis Item is incorporated by reference to our definitive proxy statement.

 
| **ITEM  14.** | **PRINCIPAL ACCOUNTING FEES AND SERVICES** |
|---------------|--------------------------------------------|

 

The information required bythis Item is incorporated by reference to our definitive proxy statement.

 

73

----

Table of Contents

 

**PART IV**

 

**ITEM15.****                                             ****EXHIBITS AND FINANCIAL STATEMENTSCHEDULES**

 

(a) Financial statements

 

Reference is made to theIndex and Financial Statements under Item 8 in Part II hereof where thesedocuments are listed

 

(b) Financial statementschedules

 

Financial statementschedules are either not required or the required information is included inthe consolidated financial statements or notes thereto filed under Item 8 in PartII hereof.

 

(c) Exhibits

 

The exhibits to this AnnualReport on Form 10-K are set forth below. The exhibit index indicates eachmanagement contract or compensatory plan or arrangement required to be filed asan exhibit.

 

**Exhibit Index**

 
| **Number** | ** ** | **Exhibit Description**                                                                                                                                                                                                                                                                         |
|------------|------------|-------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|
| 3.1        |       | Amended and Restated  Articles of Incorporation dated June 7, 2003. (Incorporated by reference from  the registrant’s current report on Form 8-K filed on June 18, 2003).                                                                                                                  |
|       |       |                                                                                                                                                                                                                                                                                            |
| 3.2        |       | Amended and Restated Bylaws  of the registrant dated November 13, 2002. (Incorporated by reference from  the registrant’s current report on Form 8-K filed on January 8, 2003).                                                                                                            |
|       |       |                                                                                                                                                                                                                                                                                            |
| 3.3        |       | Certificate of Amendment  to Articles of Incorporation dated August 23, 2005. (Incorporated by reference  from the registrant’s annual report on Form 10-KSB filed on April 13, 2007).                                                                                                     |
|       |       |                                                                                                                                                                                                                                                                                            |
| 3.4        |       | Certificate of Amendment  to Articles of Incorporation dated January 9, 2007. (Incorporated by  reference from the registrant’s annual report on Form 10-KSB filed on April 13,  2007).                                                                                                    |
|       |       |                                                                                                                                                                                                                                                                                            |
| 3.5        |       | Certificate of Amendment  to Articles of Incorporation dated September 10, 2007. (Incorporated by  reference from the registrant’s quarterly report on Form 10-QSB filed on  November 14, 2007).                                                                                           |
|       |       |                                                                                                                                                                                                                                                                                            |
| 10.3       |       | Lease Agreement dated December  29, 2006, by and between the registrant and Howard Hughes Properties, Limited  Partnership. (Incorporated by reference from the registrant’s annual report  on Form 10-KSB/A filed on November 13, 2007).                                                  |
|       |       |                                                                                                                                                                                                                                                                                            |
| 10.4       |       | Form of Indemnification  Agreement, incorporated by reference from the registrant’s quarterly report  on 10-QSB/A filed on August 19, 2003.                                                                                                                                                |
|       |       |                                                                                                                                                                                                                                                                                            |
| 10.5       |       | Amended and Restated 1999  Stock Option Plan.* (Incorporated by reference from the registrant’s  quarterly report on 10-QSB/A filed on August 19, 2003).                                                                                                                                   |
|       |       |                                                                                                                                                                                                                                                                                            |
| 10.14      |       | Patent Purchase Agreement  dated October 1, 2005 among registrant, William Westmore Purton, Dolphin  Products Pty Ltd. and Dolphin Advanced Technologies Pty Ltd. (Incorporated by  reference to Exhibit 10.27 to the registrant’s annual report on Form 10-KSB  filed on March 31, 2006). |
|       |       |                                                                                                                                                                                                                                                                                            |
| 10.19      |       | Senior Secured Note  Purchase Agreement dated May 2, 2006 among registrant and the Bricoleur  Funds. (Incorporated by reference to Exhibit 10.1 to the registrant’s Current  Report on Form 8-K dated May 2, 2006).                                                                        |

 

74

----

Table of Contents

 
| 10.20  |   | Securities Put Agreement  dated May 2, 2006 among registrant and the Bricoleur Funds. (Incorporated by  reference to Exhibit 10.2 to the registrant’s Current Report on Form 8-K  dated May 2, 2006).                                                             |
|--------|--------|------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|
|   |   |                                                                                                                                                                                                                                                                   |
| 10.21  |   | Security Agreement dated  May 2, 2006 among registrant and the Bricoleur Funds. (Incorporated by  reference to Exhibit 10.3 to the registrant’s Current Report on Form 8-K  dated May 2, 2006).                                                                   |
|   |   |                                                                                                                                                                                                                                                                   |
| 10.22  |   | Registration Rights  Agreement dated May 2, 2006 among registrant and the Bricoleur Funds.  (Incorporated by reference to Exhibit 10.3 to the registrant’s Current Report  on Form 8-K dated May 2, 2006).                                                        |
|   |   |                                                                                                                                                                                                                                                                   |
| 10.23  |   | Share Sale Agreement dated  July 5, 2006 among registrant and William Westmore Purton, and Synwood Pty  Ltd. (Incorporated by reference to Exhibit 10.8 to the registrant’s Quarterly  Report on Form 10-QSB filed on August 14, 2006).                           |
|   |   |                                                                                                                                                                                                                                                                   |
| 10.24  |   | Registration Rights  Agreement dated July 11, 2006 among registrant and William Westmore Purton,  and Synwood Pty Ltd. (Incorporated by reference to Exhibit 10.8 to the  registrant’s Quarterly Report on Form 10-QSB filed on August 14, 2006).                 |
|   |   |                                                                                                                                                                                                                                                                   |
| 10.25  |   | Alliance Agreement dated  October 11, 2006 between registrant and Elixir Group Limited. (Incorporated  by reference to Exhibit 10.1 to the registrant’s Quarterly Report on Form 10-QSB  filed on November 14, 2006).                                             |
|   |   |                                                                                                                                                                                                                                                                   |
| 10.26  |   | Amended and Restated Sales  Representative Agreement dated October 11, 2006 between registrant and Elixir  Group Limited. (Incorporated by reference to Exhibit 10.2 to the registrant’s  Quarterly Report on Form 10-QSB filed on November 14, 2006).            |
|   |   |                                                                                                                                                                                                                                                                   |
| 10.27  |   | Securities Purchase  Agreement dated October 11, 2006 between registrant and Elixir Group Limited.  (Incorporated by reference to Exhibit 10.3 to the registrant’s quarterly  report on Form 10-QSB filed on November 14, 2006).                                  |
|   |   |                                                                                                                                                                                                                                                                   |
| 10.29  |   | Securities Purchase  Agreement dated March 27, 2007. (Incorporated by reference from the  registrant’s current report on Form 8-K filed on March 30, 2007).                                                                                                       |
|   |   |                                                                                                                                                                                                                                                                   |
| 10.30  |   | Registration Rights  Agreement dated March 28, 2007. (Incorporated by reference from the  registrant’s current report on Form 8-K filed on March 30, 2007).                                                                                                       |
|   |   |                                                                                                                                                                                                                                                                   |
| 10.31  |   | Common Stock Purchase  Warrant dated March 28, 2007. (Incorporated by reference from the  registrant’s current report on Form 8-K filed on March 30, 2007).                                                                                                       |
|   |   |                                                                                                                                                                                                                                                                   |
| 10.32  |   | Securities Purchase  Agreement dated May 3, 2007. (Incorporated by reference from the registrant’s  quarterly report on Form 10-QSB filed on May 15, 2007).                                                                                                       |
|   |   |                                                                                                                                                                                                                                                                   |
| 10.33  |   | Registration Rights  Agreement dated May 3, 2007. (Incorporated by reference from the registrant’s  quarterly report on Form 10-QSB filed on May 15, 2007).                                                                                                       |
|   |   |                                                                                                                                                                                                                                                                   |
| 10.34  |   | Securities Purchase and  Product Participation Agreement dated June 12, 2007 between registrant and  Elixir Group Limited. (Incorporated by reference from the registrant’s  current report on Form 8-K filed on June 13, 2007).                                  |
|   |   |                                                                                                                                                                                                                                                                   |
| 10.35  |   | Securities Purchase Agreement  by and among the registrant and the purchasers identified on the signature  pages thereto, dated as of October 19, 2007. (Incorporated by reference from  the registrant’s current report on Form 8-K filed on October 23, 2007).  |
|   |   |                                                                                                                                                                                                                                                                   |
| 10.36  |   | Registration Rights  Agreement by and among the registrant and the purchasers identified on the  signature pages thereto, dated as of October 19, 2007. (Incorporated by  reference from the registrant’s current report on Form 8-K filed on October 23,  2007). |
|   |   |                                                                                                                                                                                                                                                                   |
| 10.38  |   | Waiver and Amendment to  Warrants dated September 7, 2007. (Incorporated by reference from the  registrant’s quarterly report on Form 10-QSB filed on November 14, 2007).                                                                                         |

 

75

----

Table of Contents

 
| 10.39  |   | Warrant Purchase Agreement  by and among, Elixir Group Ltd, the registrant and the purchasers identified  on the signature pages thereto, dated as of December 11, 2007. (Incorporated  by reference from the registrant’s current report on Form 8-K filed on  December 11, 2007). |
|--------|--------|------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|
|   |   |                                                                                                                                                                                                                                                                                     |
| 10.40  |   | Registration Rights  Agreement by and among the registrant and the purchasers identified on the  signature pages thereto, dated as of December 11, 2007. (Incorporated by  reference from the registrant’s current report on Form 8-K filed on December 11,  2007).                 |
|   |   |                                                                                                                                                                                                                                                                                     |
| 10.41  |   | Distribution, Service and  Support Agreement dated June 4, 2007 between registrant and Suzo Happ Group.  (Incorporated by reference from the registrant’s annual report on From 10-K  filed on March 31, 2008).                                                                     |
|   |   |                                                                                                                                                                                                                                                                                     |
| 10.42  |   | Trade Credit Facility  Agreement between registrant and Elixir International Limited dated as of  April 21, 2008. (Incorporated by reference from the registrant’s annual  report on From 10-K filed on April 29, 2008).                                                            |
|   |   |                                                                                                                                                                                                                                                                                     |
| 10.43  |   | Separation Agreement  between Gordon Yuen and registrant.* (Incorporated by reference from the  registrant’s current report on From 8-K filed on November 14, 2008).                                                                                                                |
|   |   |                                                                                                                                                                                                                                                                                     |
| 10.44  |   | Letter of agreement  between registrant and Elixir Group Ltd dated as of November 6, 2008  terminating the Securities Purchase and Product Participation Agreement.  (Incorporated by reference from the registrant’s current report on From 8-K  filed on November 14, 2008).      |
|   |   |                                                                                                                                                                                                                                                                                     |
| 10.45  |   | Machines Disposal Agreement  between registrant and Elixir International Limited dated as of November 6,  2008. (Incorporated by reference from the registrant’s current report on From  8-K filed on November 14, 2008).                                                           |
|   |   |                                                                                                                                                                                                                                                                                     |
| 10.46  |   | Amendment of the Trade  Credit Facility Agreement and Related Note between registrant and Elixir  International Limited dated as of November 6, 2008. (Incorporated by  reference from the registrant’s current report on From 8-K filed on November 14,  2008).                    |
|   |   |                                                                                                                                                                                                                                                                                     |
| 10.47  |   | Purchase and Settlement  Agreement between registrant and Shuffle Master, Inc. dated as of March 16,  2009.                                                                                                                                                                              |
|   |   |                                                                                                                                                                                                                                                                                     |
| 10.48  |   | Termination Agreement  between registrant and Happ Controls, Inc. (Suzo Happ) dated as of March 13,  2009.                                                                                                                                                                               |
|   |   |                                                                                                                                                                                                                                                                                     |
| 10.49  |   | Machines Operation and  Participation Agreement by and among the registrant, Elixir Gaming  Technologies (Hong Kong) Limited and NagaWorld Limited dated as of December 13,  2008.                                                                                                       |
|   |   |                                                                                                                                                                                                                                                                                     |
| 10.50  |   | Heads of Terms for Supply  of Gaming Terminals between Elixir Gaming Technologies (Hong Kong) Limited  and Scientific Games World Limited dated as of November 19, 2008.                                                                                                                 |
|   |   |                                                                                                                                                                                                                                                                                     |
| 21.1   |   | List of subsidiaries of  registrant.                                                                                                                                                                                                                                                     |
|   |   |                                                                                                                                                                                                                                                                                     |
| 23.1   |   | Consent of Ernst &  Young.                                                                                                                                                                                                                                                           |
|   |   |                                                                                                                                                                                                                                                                                     |
| 23.2   |   | Consent of Ernst &  Young, LLP.                                                                                                                                                                                                                                                      |
|   |   |                                                                                                                                                                                                                                                                                     |
| 31.1   |   | Certification under  Section 302 of the Sarbanes-Oxley Act of 2002.                                                                                                                                                                                                                      |
|   |   |                                                                                                                                                                                                                                                                                     |
| 31.2   |   | Certification under  Section 302 of the Sarbanes-Oxley Act of 2002.                                                                                                                                                                                                                      |
|   |   |                                                                                                                                                                                                                                                                                     |
| 32.1   |   | Certifications Pursuant to  Section 906 of the Sarbanes-Oxley Act of 2002, 18 U.S.C. Section 1350.                                                                                                                                                                                       |

----

* Indicates management compensatory plan,contract or arrangement.

 

76

----

Table of Contents

 

**SIGNATURES**

 

Pursuant to the requirementsof Section 13 or 15(d) of the Securities Exchange Act of 1934, the Registranthas duly caused this annual report on Form 10-K to be signed on its behalf bythe undersigned, thereunto duly authorized.

 
|                        | **ELIXIR GAMING TECHNOLOGIES, INC.** |
|-----------------------------|--------------------------------------|
|                        |                                 |
|                        |                                 |
| Date:   March 30, 2009 | By:                                  | /s/Clarence  Chung |
|                        |                                 | Clarence  Chung |
|                        |                                 | Chief  Executive Officer |

 

Pursuant to the requirementsof the Securities Exchange Act of 1934, this report has been signed below bythe following persons on behalf of the registrant and in the capacities and onthe dates indicated.

 
| **Signature**                | ** ** | **Title**                                               | ** ** | **Date**       |
|------------------------------|------------|---------------------------------------------------------|------------|----------------|
|                         |       |                                                    |       |           |
| /s/Clarence  Chung           |       | Chief  Executive Officer                                |       | March 30, 2009 |
| Clarence  Chung              |       | (Principal  Executive Officer)                          |       |           |
|                         |       |                                                    |       |           |
| /s/Andy  Tsui                |       | Vice  President Finance                                 |       | March 30, 2009 |
| Andy  Tsui                   |       | (Principal  Financial and Principal Accounting Officer) |       |           |
|                         |       |                                                    |       |           |
| /s/Joseph  Pisano            |       | Director  and Executive Vice President                  |       | March 30, 2009 |
| Joseph  Pisano               |       |                                                    |       |           |
|                         |       |                                                    |       |           |
| /s/Vincent  L. DiVito        |       | Director                                                |       | March 30, 2009 |
| Vincent  L. DiVito           |       |                                                    |       |           |
|                         |       |                                                    |       |           |
| /s/Maj.  Gen. Paul A. Harvey |       | Director                                                |       | March 30, 2009 |
| Maj.  Gen. Paul A. Harvey    |       |                                                    |       |           |
|                         |       |                                                    |       |           |
| /s/Lorna  Patajo-Kapunan     |       | Director                                                |       | March 30, 2009 |
| Lorna  Patajo-Kapunan        |       |                                                    |       |           |

 

77

----

Table of Contents

 
| **Signature**              | ** ** | **Title** | ** ** | **Date**       |
|----------------------------|------------|-----------|------------|----------------|
|                       |       |      |       |           |
| /s/John  W. Crawford, J.P. |       | Director  |       | March 30, 2009 |
| John  W. Crawford, J.P.    |       |      |       |           |
|                       |       |      |       |           |
| /s/Samuel  Tsang           |       | Director  |       | March 30, 2009 |
| Samuel  Tsang              |       |      |       |           |
|                       |       |      |       |           |
| /s/Ted  Chan               |       | Director  |       | March 30, 2009 |
| Ted  Chan                  |       |      |       |           |
|                       |       |      |       |           |
| /s/Anthony  Tyen, Ph.D.    |       | Director  |       | March 30, 2009 |
| Anthony  Tyen, Ph.D.       |       |      |       |           |
|                       |       |      |       |           |
| /s/Daniel  Sham            |       | Director  |       | March 30, 2009 |
| Daniel  Sham               |       |      |       |           |

 

78

----