##### Table of Contents



UNITED STATES SECURITIES AND EXCHANGE COMMISSION
 WASHINGTON, D.C. 20549
 FORM
10-Q/A
 (Amendment
No. 1)
 þ
    
    QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
 For the quarterly period ended September 30, 2005
 OR
 o
    
    TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
 For the transition period from  to
 Commission File No. 0-27338
 ATARI, INC.
  DELAWARE
(State or Other Jurisdiction of
Incorporation or Organization)
    
    13-3689915
(I.R.S. Employer
Identification No.)
 417 FIFTH AVENUE, NEW YORK, NY 10016
 (212) 726-6500
 o þ
 þ o
 o þ




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##### 



ATARI, INC. AND SUBSIDIARIES
 SEPTEMBER
30, 2005 QUARTERLY REPORT ON AMENDMENT NO. 1 ON FORM 10-Q/A
 EXPLANATORY PARAGRAPH
  TABLE OF CONTENTS
 PagePART I  FINANCIAL INFORMATIONItem 1.
Financial Statements (unaudited):Condensed Consolidated Balance Sheets as of March 31, 2005 and September 30, 2005
    
    
    3Condensed Consolidated Statements of Operations and Comprehensive Income (Loss) for the
Three Months
and Six Months Ended September 30, 2004 and 2005
    
    
    4Condensed Consolidated Statements of Cash Flows for the Six Months Ended September 30, 2004
 (as restated see Note 13) and 2005
    
    
    5Condensed Consolidated Statement of
Stockholders Equity for the Six Months Ended September 30, 2005
    
    
    7Notes
to the Condensed Consolidated Financial Statements
    
    
    8Item 2. Managements Discussion and Analysis of Financial Condition and Results
of Operations
    
    
    26Item 3. Quantitative and Qualitative Disclosures about Market Risk
    
    
    41Item 4.
Controls and Procedures
    
    
    41PART II  OTHER INFORMATIONItem 1. Legal Proceedings
    
    
    42Item 2. Unregistered Sales of Equity Securities and Use of Proceeds
    
    
    45Item 4. Submission of Matters to a Vote of Security Holders
    
    
    45Item 6. Exhibits
    
    
    46Signature
    
    
    48EX-31.1: CERTIFICATIONEX-32.1: CERTIFICATION




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##### Table of Contents



PART I. FINANCIAL INFORMATION
 
 Item 1. Financial Statements
 ATARI, INC. AND SUBSIDIARIES
 
 CONDENSED CONSOLIDATED BALANCE SHEETS
(in thousands)
(unaudited)
 March 31,
    
    
    September 30,2005
    
    
    2005ASSETSCurrent assets:Cash
    
    $
    10,433
    
    
    $
    2,457Receivables, net
    
    
    42,179
    
    
    
    16,014Inventories, net
    
    
    25,209
    
    
    
    34,171Income taxes receivable
    
    
    1,533
    
    
    
    78Due from related parties (Note 7)
    
    
    248
    
    
    
    4,019Prepaid expenses and other current assets
    
    
    20,996
    
    
    
    17,762Assets of discontinued operations (Note 10)
    
    
    3,555
    
    
    
    176Total current assets
    
    
    104,153
    
    
    
    74,677Property and equipment, net
    
    
    8,289
    
    
    
    7,306Goodwill
    
    
    70,224
    
    
    
    66,398Other intangible assets, net of accumulated amortization of $1,969 and $2,306, at
March 31, 2005 and September 30, 2005, respectively
    
    
    731
    
    
    
    394Other assets
    
    
    6,642
    
    
    
    5,889Total assets
    
    $
    190,039
    
    
    $
    154,664LIABILITIES AND STOCKHOLDERS EQUITYCurrent liabilities:Accounts payable
    
    $
    27,756
    
    
    $
    34,749Accrued liabilities
    
    
    16,614
    
    
    
    18,787Restructuring reserve
    
    
    1,885
    
    
    
    1,550Royalties payable
    
    
    13,641
    
    
    
    7,205Income taxes payable
    
    
    500
    
    
    
    204Due to related parties (Note 7)
    
    
    5,421
    
    
    
    6,652Liabilities of discontinued operations (Note 10)
    
    
    2,685
    
    
    
    761Total current liabilities
    
    
    68,502
    
    
    
    69,908Deferred income
    
    
    478
    
    
    
    440Long-term liabilities
    
    
    392
    
    
    
    266Total liabilities
    
    
    69,372
    
    
    
    70,614Commitments and contingenciesStockholders equity:Preferred stock, $0.01 par value, 5,000 shares authorized, none issued or
outstanding
    
    
    
    
    
    
    Common stock, $0.01 par value, 300,000 shares authorized, 121,296 and 134,749
shares issued and outstanding at March 31, 2005 and September 30, 2005,
respectively
    
    
    1,213
    
    
    
    1,347Additional paid-in capital
    
    
    736,790
    
    
    
    758,048Accumulated deficit
    
    
    (619,744
    )
    
    
    (677,772
    )Accumulated other comprehensive income
    
    
    2,408
    
    
    
    2,427Total stockholders equity
    
    
    120,667
    
    
    
    84,050Total liabilities and stockholders equity
    
    $
    190,039
    
    
    $
    154,664
  Page 3




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##### Table of Contents



ATARI, INC. AND SUBSIDIARIES
 
 CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS AND COMPREHENSIVE INCOME (LOSS)
(in thousands, except per share data)
(unaudited)
 Three Months
    
    
    Six MonthsEnded
    
    
    EndedSeptember 30,
    
    
    September 30,2004
    
    
    2005
    
    
    2004
    
    
    2005Net revenues
    
    $
    67,984
    
    
    $
    38,402
    
    
    $
    176,108
    
    
    $
    62,601Costs and expenses:Cost of goods sold
    
    
    40,889
    
    
    
    24,970
    
    
    
    92,077
    
    
    
    43,446Research and product development
    
    
    15,526
    
    
    
    17,113
    
    
    
    30,714
    
    
    
    33,840Selling and distribution expenses
    
    
    15,046
    
    
    
    7,855
    
    
    
    31,752
    
    
    
    14,857General and administrative expenses
    
    
    9,708
    
    
    
    8,221
    
    
    
    17,224
    
    
    
    16,164Restructuring expenses
    
    
    
    
    
    
    1,524
    
    
    
    
    
    
    
    3,701Depreciation and amortization
    
    
    2,533
    
    
    
    2,259
    
    
    
    5,220
    
    
    
    4,589Total costs
and expenses
    
    
    83,702
    
    
    
    61,942
    
    
    
    176,987
    
    
    
    116,597Operating (loss)
    
    
    (15,718
    )
    
    
    (23,540
    )
    
    
    (879
    )
    
    
    (53,996
    )Interest expense, net
    
    
    (527
    )
    
    
    (297
    )
    
    
    (701
    )
    
    
    (345
    )Other income (expense)
    
    
    14
    
    
    
    (245
    )
    
    
    33
    
    
    
    (236
    )(Loss) before (benefit from) provision for
income taxes
    
    
    (16,231
    )
    
    
    (24,082
    )
    
    
    (1,547
    )
    
    
    (54,577
    )(Benefit from) provision for income taxes
    
    
    (228
    )
    
    
    (283
    )
    
    
    382
    
    
    
    (283
    )(Loss) from continuing operations
    
    
    (16,003
    )
    
    
    (23,799
    )
    
    
    (1,929
    )
    
    
    (54,294
    )(Loss) from discontinued operations of
Humongous Entertainment (Note 10)
    
    
    (888
    )
    
    
    (1,412
    )
    
    
    (2,906
    )
    
    
    (3,734
    )Net (loss)
    
    $
    (16,891
    )
    
    $
    (25,211
    )
    
    $
    (4,835
    )
    
    $
    (58,028
    )Basic and diluted net (loss) per share:(Loss) from continuing operations
    
    $
    (0.13
    )
    
    $
    (0.19
    )
    
    $
    (0.02
    )
    
    $
    (0.44
    )(Loss) from discontinued operations
    
    
    (0.01
    )
    
    
    (0.01
    )
    
    
    (0.02
    )
    
    
    (0.03
    )Net (loss)
    
    $
    (0.14
    )
    
    $
    (0.20
    )
    
    $
    (0.04
    )
    
    $
    (0.47
    )Basic and diluted weighted average shares
outstanding
    
    
    121,277
    
    
    
    123,773
    
    
    
    121,263
    
    
    
    122,543Net (loss)
    
    $
    (16,891
    )
    
    $
    (25,211
    )
    
    $
    (4,835
    )
    
    $
    (58,028
    )Other comprehensive (loss) income:Foreign currency translation adjustments
    
    
    (10
    )
    
    
    (47
    )
    
    
    (6
    )
    
    
    19Recognition of cumulative translation
adjustment from liquidation of a foreign
subsidiary
    
    
    
    
    
    
    
    
    
    
    (859
    )
    
    
    Comprehensive (loss)
    
    $
    (16,901
    )
    
    $
    (25,258
    )
    
    $
    (5,700
    )
    
    $
    (58,009
    )
   Page 4




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ATARI, INC. AND SUBSIDIARIES
 
 CONDENSED
CONSOLIDATED STATEMENTS OF CASH FLOWS
(in thousands)
(unaudited)
 Six MonthsEndedSeptember 30,2004
    

    2005(as
restated see Note 13)CASH FLOWS FROM OPERATING ACTIVITIES:Net (loss)
    
    $
    (4,835
    )
    
    $
    (58,028
    )Adjustments to reconcile net (loss) to net cash used in
operating activities:Loss from discontinued operations of Humongous Entertainment
    
    
    2,906
    
    
    
    3,734Non-cash restructuring charges
    
    
    
    
    
    
    701Loss on sale of IESA shares
    
    
    
    
    
    
    239Depreciation and amortization
    
    
    5,220
    
    
    
    4,589Recognition of deferred income
    
    
    (2,068
    )
    
    
    (38
    )Recognition of cumulative translation adjustment from liquidation of a
foreign subsidiary
    
    
    (859
    )
    
    
    Accrued interest
    
    
    334
    
    
    
    32Amortization of deferred financing fees
    
    
    411
    
    
    
    282Write-off of property and equipment
    
    
    200
    
    
    
    11Changes in operating assets and liabilities:Receivables, net
    
    
    (6,142
    )
    
    
    26,157Inventories, net
    
    
    5,276
    
    
    
    (8,745
    )Due from related parties
    
    
    (12,573
    )
    
    
    (3,445
    )Due to related parties
    
    
    301
    
    
    
    9,014Prepaid expenses and other current assets
    
    
    333
    
    
    
    1,305Accounts payable
    
    
    1,131
    
    
    
    7,040Accrued liabilities
    
    
    4,237
    
    
    
    (226
    )Royalties payable
    
    
    (791
    )
    
    
    (4,710
    )Restructuring reserve
    
    
    
    
    
    
    (388
    )Income taxes payable
    
    
    150
    
    
    
    (284
    )Income taxes receivable
    
    
    908
    
    
    
    1,453Short-term and long-term deferred income
    
    
    
    
    
    
    68Other long-term liabilities
    
    
    (79
    )
    
    
    (13
    )Other assets
    
    
    523
    
    
    
    724Net cash used in continuing operations
    
    
    (5,417
    )
    
    
    (20,528
    )Net cash used in discontinued operations
    
    
    (2,039
    )
    
    
    (2,997
    )Net cash used in operating activities
    
    
    (7,456
    )
    
    
    (23,525
    )CASH FLOWS FROM INVESTING ACTIVITIES:Proceeds from sale of IESA shares
    
    
    
    
    
    
    10,051Purchases of property and equipment
    
    
    (1,219
    )
    
    
    (1,753
    )Proceeds from sale of property and equipment
    
    
    21
    
    
    
    Net cash
(used in) provided by continuing operations
    
    
    (1,198
    )
    
    
    8,298Net cash
(used in) discontinued operations
    
    
    (14
    )
    
    
    (5
    )Net cash
(used in) provided by investing activities
    
    
    (1,212
    )
    
    
    8,293CASH FLOWS FROM FINANCING ACTIVITIES:Proceeds from issuance of common stock
    
    
    
    
    
    
    7,268Proceeds from exercise of stock options
    
    
    54
    
    
    
    115(Payments) under capitalized lease obligation
    
    
    
    
    
    
    (90
    )Net cash provided by financing activities
    
    
    54
    
    
    
    7,293Effect of exchange rates on cash
    
    
    (8
    )
    
    
    (37
    )Net decrease in cash
    
    
    (8,622
    )
    
    
    (7,976
    )Cash  beginning of fiscal period
    
    
    9,607
    
    
    
    10,433Cash  end of fiscal period
    
    $
    985
    
    
    $
    2,457
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Six MonthsEndedSeptember 30,2004
    
    
    2005SUPPLEMENTAL CASH FLOW INFORMATIONCash paid for interest
    
    
    279
    
    
    
    125Income tax refunds
    
    
    731
    
    
    
    1,403SUPPLEMENTAL DISCLOSURE OF NON-CASH
OPERATING ACTIVITIES:Receipt of IESA stock for prepayment of Humongous, Inc. inventory
and other costs
    
    
    
    
    
    
    1,972Issuance of
1,557,668 shares of common stock in lieu of partial royalty
payment
    
    
    
    
    
    
    2,113Offset of
certain related party trade payables against short-term notes
receivable from related parties
    
    
    1,317
    
    
    
    SUPPLEMENTAL DISCLOSURE OF NON-CASH
INVESTING ACTIVITIES:Sale of Humongous Entertainment in exchange for shares of IESA stock
    
    
    
    
    
    
    8,318SUPPLEMENTAL DISCLOSURE OF NON-CASH
FINANCING ACTIVITIES:Issuance of
6,145,051 shares of common stock in lieu of payment of net related party
payables
    
    
    
    
    
    
    7,988
  Page 6




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ATARI, INC. AND SUBSIDIARIES
 
 CONDENSED
CONSOLIDATED STATEMENT OF STOCKHOLDERS EQUITY
(in thousands)
(unaudited)
 AccumulatedCommon
    
    
    
    
    
    
    Additional
    
    
    
    
    
    
    OtherStock
    
    
    Common
    
    
    Paid-In
    
    
    Accumulated
    
    
    ComprehensiveShares
    
    
    Stock
    
    
    Capital
    
    
    Deficit
    
    
    Income
    
    
    TotalBalance, March 31, 2005
    
    
    121,296
    
    
    $
    1,213
    
    
    $
    736,790
    
    
    $
    (619,744
    )
    
    $
    2,408
    
    
    $
    120,667Net (loss)
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    (58,028
    )
    
    
    
    
    
    
    (58,028
    )Foreign currency translation adjustment
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    19
    
    
    
    19Exercise of stock options
    
    
    47
    
    
    
    
    
    
    
    116
    
    
    
    
    
    
    
    
    
    
    
    116Modification of stock options
    
    
    
    
    
    
    
    
    
    
    404
    
    
    
    
    
    
    
    
    
    
    
    404Issuance of common stock in lieu of partial royalty
payment
    
    
    1,558
    
    
    
    16
    
    
    
    2,097
    
    
    
    
    
    
    
    
    
    
    
    2,113Sale of Humongous Entertainment
    
    
    
    
    
    
    
    
    
    
    3,503
    
    
    
    
    
    
    
    
    
    
    
    3,503Issuance of common stock in lieu of payment of
net related party payables (Note 7)
    
    
    6,145
    
    
    
    61
    
    
    
    7,927
    
    
    
    
    
    
    
    
    
    
    
    7,988Issuance of common stock
    
    
    5,703
    
    
    
    57
    
    
    
    7,211
    
    
    
    
    
    
    
    
    
    
    
    7,268Balance, September 30, 2005
    
    
    134,749
    
    
    $
    1,347
    
    
    $
    758,048
    
    
    $
    (677,772
    )
    
    $
    2,427
    
    
    $
    84,050
  Page 7




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ATARI, INC. AND SUBSIDIARIES
 
 NOTES
TO THE CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(unaudited)
 NOTE 1  SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES AND OTHER MATTERS
 Nature of Business
   Key Challenges
    
    
    Sale of Humongous Entertainment On August 22, 2005, we sold the Humongous Business
(Humongous) to IESA in exchange for 4,720,771 of their shares valued at $8.3 million.
See Note 10 for further details.
    
    Issuance of common stock as settlement of certain net related party balances In September
2005, we entered into two transactions with our majority stockholder, IESA, to settle
certain outstanding net related party balances totaling $8.0 million through the issuance
of an aggregate of 6,145,051 shares of our common stock. See Note 7 for further
details.
    
    Sale of common stock to third party investors On September 15, 2005, we entered into a
Securities Purchase Agreement, with each of Sark Master Fund Ltd (SARK Fund) and CCM
Master Qualified Fund, Ltd., a current shareholder (CCM Fund), to issue them an aggregate
of 5,702,590 shares of our common stock in private
 Page 8




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##### Table of Contents



placement transactions. The shares were sold for cash at $1.30 per share for an aggregate
offering price of $7.4 million. In connection with the sale, we paid a placement agent fee
of approximately $0.1 million.
  Basis of Presentation
  Principles of Consolidation
  Use of Estimates
  Reclassifications
  Revenue Recognition
   Research and Product Development Costs
   Page 9




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##### Table of Contents



Licenses
  Goodwill and Other Intangible Assets
   Fair Values of Financial Instruments
  Long-Lived Assets
  Income Taxes
  Net (Loss) Per Share
  Page 10




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Three Months
    
    
    Six MonthsEnded
    
    
    EndedSeptember 30,
    
    
    September 30,2004
    
    
    2005
    
    
    2004
    
    
    2005Basic and diluted earnings per share calculation:(Loss) from continuing operations
    
    $
    (16,003
    )
    
    $
    (23,799
    )
    
    $
    (1,929
    )
    
    $
    (54,294
    )(Loss) from discontinued operations of Humongous
Entertainment
    
    
    (888
    )
    
    
    (1,412
    )
    
    
    (2,906
    )
    
    
    (3,734
    )Net (loss)
    
    $
    (16,891
    )
    
    $
    (25,211
    )
    
    $
    (4,835
    )
    
    $
    (58,028
    )Basic and diluted weighted average shares
outstanding
    
    
    121,277
    
    
    
    123,773
    
    
    
    121,263
    
    
    
    122,543Basic and diluted (loss) from continuing operations
per share
    
    $
    (0.13
    )
    
    $
    (0.19
    )
    
    $
    (0.02
    )
    
    $
    (0.44
    )Basic and diluted (loss) from discontinued
operations of Humongous Entertainment per share
    
    
    (0.01
    )
    
    
    (0.01
    )
    
    
    (0.02
    )
    
    
    (0.03
    )Basic and diluted net (loss) per share
    
    $
    (0.14
    )
    
    $
    (0.20
    )
    
    $
    (0.04
    )
    
    $
    (0.47
    )
  Stock-Based Compensation
   Three Months
    
    
    Six MonthsEnded
    
    
    EndedSeptember 30,
    
    
    September 30,2004
    
    
    2005
    
    
    2004
    
    
    2005(Loss) from continuing operations:As reported
    
    $
    (16,003
    )
    
    $
    (23,799
    )
    
    $
    (1,929
    )
    
    $
    (54,294
    )Add:
Stock-based employee compensation expense, included in reported
(loss) from continuing operations, net of related tax effects
    
    
    
    
    
    
    137
    
    
    
    
    
    
    
    404Less: Fair value of stock-based employee
compensation expense, net of related
tax effects
    
    
    (1,552
    )
    
    
    (649
    )
    
    
    (2,809
    )
    
    
    (1,205
    )Pro forma (loss) from
continuing operations
    
    $
    (17,555
    )
    
    $
    (24,311
    )
    
    $
    (4,738
    )
    
    $
    (55,095
    )(Loss) from continuing operations per share:Basic and diluted  as reported
    
    $
    (0.13
    )
    
    $
    (0.19
    )
    
    $
    (0.02
    )
    
    $
    (0.44
    )Basic and diluted  pro forma
    
    $
    (0.15
    )
    
    $
    (0.20
    )
    
    $
    (0.04
    )
    
    $
    (0.45
    )Net (loss):As reported
    
    $
    (16,891
    )
    
    $
    (25,211
    )
    
    $
    (4,835
    )
    
    $
    (58,028
    )
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Three Months
    
    
    Six MonthsEnded
    
    
    EndedSeptember 30,
    
    
    September 30,2004
    
    
    2005
    
    
    2004
    
    
    2005Add:
Stock-based employee compensation expense, included in net
(loss), net of related tax effects
    
    
    
    
    
    
    137
    
    
    
    
    
    
    
    404Less: Fair value of stock-based employee
compensation expense, net of related
tax effects
    
    
    (1,552
    )
    
    
    (649
    )
    
    
    (2,809
    )
    
    
    (1,205
    )Pro forma net (loss)
    
    $
    (18,443
    )
    
    $
    (25,723
    )
    
    $
    (7,644
    )
    
    $
    (58,829
    )Net (loss) per share:Basic and diluted  as reported
    
    $
    (0.14
    )
    
    $
    (0.20
    )
    
    $
    (0.04
    )
    
    $
    (0.47
    )Basic and diluted  pro forma
    
    $
    (0.15
    )
    
    $
    (0.21
    )
    
    $
    (0.06
    )
    
    $
    (0.48
    )
  Three Months
    
    Six MonthsEnded
    
    EndedSeptember 30,
    
    September 30,2004
    
    2005
    
    2004
    
    2005Dividend yield
    
    
    0
    %
    
    
    0
    %
    
    
    0
    %
    
    
    0
    %Anticipated volatility
    
    
    108
    %
    
    
    97
    %
    
    
    108
    %
    
    
    97
    %Expected lives
    
    4 years
    
    
    4 years
    
    
    4 years
    
    
    4 years
  Recent Accounting Pronouncements
     Page 12




---



##### Table of Contents



NOTE 2  RECEIVABLES, NET
  March 31,
    
    
    September 30,2005
    
    
    2005Trade accounts receivable
    
    $
    66,464
    
    
    $
    33,082Less: Allowances for bad debts, returns, price protection and other
customer promotional programs
    
    
    (24,285
    )
    
    
    (17,068
    )$
    42,179
    
    
    $
    16,014
  NOTE 3  INVENTORIES, NET
  March 31,
    
    
    September 30,2005
    
    
    2005Finished goods
    
    $
    23,991
    
    
    $
    33,609Return inventory
    
    
    3,379
    
    
    
    2,497Raw materials
    
    
    281
    
    
    
    44727,651
    
    
    
    36,553Less: Obsolescence reserve
    
    
    (2,442
    )
    
    
    (2,382
    )$
    25,209
    
    
    $
    34,171
 NOTE 4  PREPAID EXPENSES AND OTHER CURRENT ASSETS
  March 31,
    
    
    September 30,2005
    
    
    2005Licenses short-term
    
    $
    6,795
    
    
    $
    9,061Atari name license
    
    
    3,350
    
    
    
    1,698Royalties receivable
    
    
    6,551
    
    
    
    1,466Prepaid manufacturing expenses
    
    
    
    
    
    
    1,451Prepaid insurance
    
    
    1,130
    
    
    
    543Other prepaid expenses and current assets
    
    
    3,170
    
    
    
    3,543$
    20,996
    
    
    $
    17,762
 Page 13




---



##### Table of Contents



NOTE 5  ACCRUED LIABILITIES
  March 31,
    
    
    September 30,2005
    
    
    2005Accrued third-party development expenses
    
    $
    2,551
    
    
    $
    3,734Accrued distribution services
    
    
    3,332
    
    
    
    3,362Accrued advertising
    
    
    1,810
    
    
    
    2,993Accrued salary and related costs
    
    
    3,296
    
    
    
    2,783Accrued professional fees and other services
    
    
    1,418
    
    
    
    2,109Accrued freight and handling fees
    
    
    1,141
    
    
    
    507Other
    
    
    3,066
    
    
    
    3,299$
    16,614
    
    
    $
    18,787
 NOTE 6  INCOME TAXES
   NOTE 7  RELATED PARTY TRANSACTIONS
  Three Months
    
    
    Six MonthsEnded
    
    
    EndedSeptember 30,
    
    
    September 30,Income (expense)
    
    2004
    
    
    2005
    
    
    2004
    
    
    2005Net revenues
    
    $
    67,984
    
    
    $
    38,402
    
    
    $
    176,108
    
    
    $
    62,601Related party activity:Royalty income
    
    
    1,492
    
    
    
    3,671
    
    
    
    16,293
    
    
    
    3,671Sale of goods
    
    
    577
    
    
    
    160
    
    
    
    1,034
    
    
    
    262Quality and assurance testing and other services
    
    
    878
    
    
    
    321
    
    
    
    1,240
    
    
    
    687Total related party net revenues
    
    
    2,947
    
    
    
    4,152
    
    
    
    18,567
    
    
    
    4,620Cost of goods sold
    
    
    (40,889
    )
    
    
    (24,970
    )
    
    
    (92,077
    )
    
    
    (43,446
    )Related party activity:Distribution
fee for Humongous, Inc. products (Note 10)
    
    
    
    
    
    
    (1,227
    )
    
    
    
    
    
    
    (1,227
    )Royalty expense
    
    
    (4,493
    )
    
    
    (1,557
    )
    
    
    (10,315
    )
    
    
    (2,173
    )Total related party cost of goods sold
    
    
    (4,493
    )
    
    
    (2,784
    )
    
    
    (10,315
    )
    
    
    (3,400
    )Research and product development
    
    
    (15,526
    )
    
    
    (17,113
    )
    
    
    (30,714
    )
    
    
    (33,840
    )Related party activity:Development expenses
    
    
    (2,316
    )
    
    
    (4,239
    )
    
    
    (5,714
    )
    
    
    (8,283
    )Other miscellaneous development expenses
    
    
    
    
    
    
    (48
    )
    
    
    (27
    )
    
    
    (70
    )Total related party research and product
development
    
    
    (2,316
    )
    
    
    (4,287
    )
    
    
    (5,741
    )
    
    
    (8,353
    )
 Page 14




---



##### Table of Contents



Three Months
    
    
    Six MonthsEnded
    
    
    EndedSeptember 30,
    
    
    September 30,Income (expense)
    
    2004
    
    
    2005
    
    
    2004
    
    
    2005Selling and distribution expenses
    
    
    (15,046
    )
    
    
    (7,855
    )
    
    
    (31,752
    )
    
    
    (14,857
    )Related party activity:Miscellaneous purchase of services
    
    
    (15
    )
    
    
    
    
    
    
    (29
    )
    
    
    (8
    )Total related party selling and distribution
expenses
    
    
    (15
    )
    
    
    
    
    
    
    (29
    )
    
    
    (8
    )General and administrative expenses
    
    
    (9,708
    )
    
    
    (8,221
    )
    
    
    (17,224
    )
    
    
    (16,164
    )Related party activity:Management fee revenue
    
    
    750
    
    
    
    463
    
    
    
    1,500
    
    
    
    1,213Management fee expense
    
    
    (750
    )
    
    
    (750
    )
    
    
    (1,500
    )
    
    
    (1,500
    )Office rental and other services
    
    
    (76
    )
    
    
    62
    
    
    
    (173
    )
    
    
    (31
    )Total related party general and administrative
expenses
    
    
    (76
    )
    
    
    (225
    )
    
    
    (173
    )
    
    
    (318
    )Interest expense, net
    
    
    (527
    )
    
    
    (297
    )
    
    
    (701
    )
    
    
    (345
    )Related party activity:Interest income
    
    
    113
    
    
    
    
    
    
    
    226
    
    
    
    Total
related party interest income, net
    
    
    113
    
    
    
    
    
    
    
    226
    
    
    
    Loss from discontinued operations
    
    
    (888
    )
    
    
    (1,412
    )
    
    
    (2,906
    )
    
    
    (3,734
    )Related party activity:Royalty income from discontinued operations
    
    
    4
    
    
    
    
    
    
    
    35
    
    
    
    10Total related party income from discontinued
operations
    
    
    4
    
    
    
    
    
    
    
    35
    
    
    
    10
 Issuance of Common Stock to Related Parties
 Related Party Payables Settlement of
Indebtedness
 
    
    Related Party Payables
  
    
    Settlement of Indebtedness
  Royalty agreement
  Three Months
    
    
    Six MonthsEnded
    
    
    EndedSeptember 30,
    
    
    September 30,Income (expense)
    
    2004
    
    
    2005
    
    
    2004
    
    
    2005Royalty income (1)
    
    $
    1,492
    
    
    $
    3,671
    
    
    $
    16,293
    
    
    $
    3,671Royalty expense (2)
    
    
    (4,493
    )
    
    
    (1,557
    )
    
    
    (10,315
    )
    
    
    (2,173
    )Net royalty income (expense)
    
    $
    (3,001
    )
    
    $
    2,114
    
    
    $
    5,978
    
    
    $
    1,498
 Page 15




---



##### Table of Contents



(1)
    
    We have entered into a distribution agreement with IESA and Atari Europe which
provides for IESAs and Atari Europes distribution of our products across Europe, Asia, and
certain other regions pursuant to which IESA, Atari Europe, or any of their subsidiaries, as
applicable, will pay us 30.0% of the gross margin on such products or 130.0% of the royalty rate
due to the developer, whichever is greater. We recognize this amount as royalty income as part
of net revenues, net of returns.(2)
    
    We have also entered into a distribution agreement with IESA and Atari Europe, which
provides for the distribution of IESAs (or any of its subsidiaries) products in the United
States, Canada and Mexico, pursuant to which we will pay IESA either 30.0% of the gross margin
on such products or 130.0% of the royalty rate due to the developer, whichever is greater. We
recognize this amount as royalty expense as part of cost of goods sold, net of returns.  March 31,
    
    
    September 30,Receivable (payable)
    
    2005
    
    
    2005Royalties receivable
    
    $
    1,673
    
    
    $
    4,705Royalties payable
    
    
    (6,001
    )
    
    
    (5,087
    )Net royalties (payable)
    
    $
    (4,328
    )
    
    $
    (382
    )
 Development expenses
  Three Months
    
    
    Six MonthsEnded
    
    
    EndedSeptember 30,
    
    
    September 30,2004
    
    
    2005
    
    
    2004
    
    
    2005Eden Studios SAS
    
    $
    798
    
    
    $
    1,647
    
    
    $
    1,403
    
    
    $
    3,377Paradigm Entertainment, Inc.
    
    
    1,518
    
    
    
    1,483
    
    
    
    4,311
    
    
    
    2,853Atari Melbourne House Pty Ltd
    
    
    
    
    
    
    1,157
    
    
    
    27
    
    
    
    2,123Total development expenses
    
    $
    2,316
    
    
    $
    4,287
    
    
    $
    5,741
    
    
    $
    8,353
  Related Party Transactions with Employees or Former Employees
 Driver 4
 Page 16




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##### Table of Contents



IESA liquidity
  Civilization
     Page 17




---



##### Table of Contents



NOTE 8  COMMITMENTS AND CONTINGENCIES
 Litigation
   Atari, Inc., Atari Interactive, Inc., and Hasbro, Inc. v. Games, Inc., Roger W. Ach, II , and
Chicago West Pullman LLC
  inter alia
   Page 18




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##### Table of Contents



Page 19




---



##### Table of Contents



American Video Graphics, L.P., v. Electronic Arts, Inc. et al.
    iEntertainment Network, Inc. v. Epic Games, Inc., Atari, Inc. Valve Corporation, Sierra
Entertainment, Inc., Sony Corporation of Japan, Sony Corporation of America, Sony Computer
Entertainment America, Inc. and Sony Online Entertainment, Inc.
  Page 20




---



##### Table of Contents



Mr. M.L. Edmondson v. Reflections Interactive Limited
  Bouchat
v. Champion Products, et al. (Accolade)
  Indigo Moon Productions, LLC v. Hasbro, Inc., et al.
 Clue Clue Clue
Mysteries
 NOTE 9
 DEBT
 Credit Facilities
 HSBC Loan and Security Agreement
  Page 21




---



##### Table of Contents



GECC Senior Credit Facility
   NOTE 10  DISCONTINUED OPERATIONS
 Sale of Humongous
 Sale of Humongous
      Balance Sheets
  Page 22




---



##### Table of Contents



March 31, 2005
    
    
    September 30, 2005Assets:Cash
    
    $
    6
    
    
    $
    7Inventory, net
    
    
    1,104
    
    
    
    Prepaid expenses and other
current assets
    
    
    259
    
    
    
    1Property and equipment, net
    
    
    452
    
    
    
    168Other non-current assets
    
    
    1,734
    
    
    
    Total assets
    
    $
    3,555
    
    
    $
    176Liabilities:Accounts payable
    
    $
    31
    
    
    $
    Accrued liabilities
    
    
    2,078
    
    
    
    Restructuring reserve
    
    
    
    
    
    
    693Royalty payable
    
    
    386
    
    
    
    Other non-current liabilities
    
    
    190
    
    
    
    68Total liabilities
    
    $
    2,685
    
    
    $
    761
 Restructuring
  Results of Operations
  Three Months
    
    
    Six MonthsEnded
    
    
    EndedSeptember 30,

    
    September 30,2004

    
    2005

    
    2004

    
    2005Net revenues
    
    $
    3,408
    
    
    $
    318
    
    
    $
    5,579
    
    
    $
    580Loss from discontinued operations
    
    $
    (888
    )
    
    $
    (1,412
    )
    
    $
    (2,906
    )
    
    $
    (3,734
    )
  Results of Continuing Involvement with Humongous, Inc.
  Three Months

    
    Six MonthsEnded

    
    EndedSeptember 30,

    
    September 30,2004

    
    2005

    
    2004

    
    2005Net revenues
    
    $
    
    
    
    $
    1,718
    
    
    $
    
    
    
    $
    1,718Cost of
goods sold
    
    
    
    
    
    
    (1,192
    )
    
    
    
    
    
    
    (1,192
    )Total
    
    $
    
    
    
    $
    526
    
    
    $
    
    
    
    $
    526
 Page 23




---



##### Table of Contents



NOTE 11  RESTRUCTURING
  Three Months
    
    
    Six MonthsEnded
    
    
    EndedSeptember 30, 2005
    
    
    September 30, 2005Severance and retention expenses
    
    $
    457
    
    
    $
    1,781Lease related costs
    
    
    378
    
    
    
    772Modification of stock options
    
    
    137
    
    
    
    404Fixed asset write offs
    
    
    297
    
    
    
    297Miscellaneous costs
    
    
    255
    
    
    
    447Total
    
    $
    1,524
    
    
    $
    3,701
   Balance at
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    Balance atMarch 31, 2004
    
    
    Accrued Amounts
    
    
    Reclasses
    
    
    Cash payments
    
    

March
31, 2005Severance and retention
    
    $
    
    
    
    $
    4,219
    
    
    $
    
    
    
    $
    (2,414
    )
    
    $
    1,805Severance and retention  long term
    
    
    
    
    
    
    52
    
    
    
    
    
    
    
    
    
    
    
    52Miscellaneous costs
    
    
    
    
    
    
    117
    
    
    
    
    
    
    
    (37
    )
    
    
    80Total
    
    $
    
    
    
    $
    4,388
    
    
    $
    
    
    
    $
    (2,451
    )
    
    $
    1,937
 Balance
atMarch 31, 2005
    
    
    Accrued Amounts
    
    
    Reclasses
    
    

Cash
paymentsnet
    
    

Balance
atSeptember
30, 2005Severance and retention
    
    $
    1,805
    
    
    $
    1,781
    
    
    $
    52
    
    
    $
    (2,667
    )
    
    $
    971Severance and retention  long term
    
    
    52
    
    
    
    
    
    
    
    (52
    )
    
    
    
    
    
    
    Lease related costs
    
    
    
    
    
    
    772
    
    
    
    
    
    
    
    (265
    )
    
    
    507Miscellaneous costs
    
    
    80
    
    
    
    447
    
    
    
    
    
    
    
    (455
    )
    
    
    72Total
    
    $
    1,937
    
    
    $
    3,000
    
    
    $
    
    
    
    $
    (3,387
    )
    
    $
    1,550
  NOTE 12  OPERATIONS BY REPORTABLE SEGMENTS
  Page 24




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##### Table of Contents



Publishing
    
    
    Distribution
    
    
    Corporate
    
    
    TotalThree months ended September 30, 2004:Net revenues
    
    $
    54,629
    
    
    $
    13,355
    
    
    $
    
    
    
    $
    67,984Operating
(loss) income
    
    
    (8,285
    )
    
    
    2,070
    
    
    
    (9,503
    )
    
    
    (15,718
    )Depreciation and amortization
    
    
    (824
    )
    
    
    
    
    
    
    (1,709
    )
    
    
    (2,533
    )Interest expense, net
    
    
    
    
    
    
    
    
    
    
    (527
    )
    
    
    (527
    )Three months ended September 30, 2005:Net revenues
    
    $
    22,612
    
    
    $
    15,790
    
    
    $
    
    
    
    $
    38,402Operating (loss) income
    
    
    (15,367
    )
    
    
    2,639
    
    
    
    (10,812
    )
    
    
    (23,540
    )Depreciation and amortization
    
    
    (553
    )
    
    
    
    
    
    
    (1,706
    )
    
    
    (2,259
    )Interest expense, net
    
    
    
    
    
    
    
    
    
    
    (297
    )
    
    
    (297
    )Six months ended September 30, 2004:Net revenues
    
    $
    152,120
    
    
    $
    23,988
    
    
    $
    
    
    
    $
    176,108Operating income (loss)
    
    
    11,648
    
    
    
    3,893
    
    
    
    (16,420
    )
    
    
    (879
    )Depreciation and amortization
    
    
    (1,692
    )
    
    
    
    
    
    
    (3,528
    )
    
    
    (5,220
    )Interest expense, net
    
    
    
    
    
    
    
    
    
    
    (701
    )
    
    
    (701
    )Six months ended September 30, 2005:Net revenues
    
    $
    35,371
    
    
    $
    27,230
    
    
    $
    
    
    
    $
    62,601Operating (loss) income
    
    
    (34,320
    )
    
    
    1,945
    
    
    
    (21,621
    )
    
    
    (53,996
    )Depreciation and amortization
    
    
    (1,148
    )
    
    
    
    
    
    
    (3,441
    )
    
    
    (4,589
    )Interest expense, net
    
    
    
    
    
    
    
    
    
    
    (345
    )
    
    
    (345
    )
 NOTE 13  RESTATEMENT OF CASH FLOWS
   As PreviouslySix Months Ended September 30, 2004
    
    Reported
    
    
    Adjustment
    
    
    As RestatedCash Flows From Operating Activities:Due to related parties
    
    $
    (1,016
    )
    
    $
    1,317
    
    
    $
    301Net cash (used in) continuing operations
    
    
    (6,734
    )
    
    
    1,317
    
    
    
    (5,417
    )Net cash (used in) discontinued operations
    
    
    (2,039
    )
    
    
    
    
    
    
    (2,039
    )Net cash (used in) operating activities
    
    $
    (8,773
    )
    
    $
    1,317
    
    
    $
    (7,456
    )Cash Flows From Investing Activities:Repayment of short-term notes
receivable to related parties
    
    $
    1,317
    
    
    $
    (1,317
    )
    
    $
    Net cash provided by (used in) continuing operations
    
    
    119
    
    
    
    (1,317
    )
    
    
    (1,198
    )Net cash (used in) discontinued operations
    
    
    (14
    )
    
    
    
    
    
    
    (14
    )Net cash provided by (used in) investing activities
    
    $
    105
    
    
    $
    (1,317
    )
    
    $
    (1,212
    )
 SUPPLEMENTAL DISCLOSURE OF NON-CASHOPERATING ACTIVITIES:
    


    
    


    
    
    As RestatedOffset of certain related party trade payables against
short-term notes receivable from related parties
    

    
    
    
    
    
    
    
    

    
    1,317
 Page 25




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##### Table of Contents



Item 2. Managements Discussion and Analysis of Financial Condition and Results of Operations
 This document includes statements that may constitute forward-looking statements made pursuant
to the Safe Harbor provisions of the Private Securities Litigation Reform Act of 1995. We caution
readers regarding certain forward-looking statements in this document, press releases, securities
filings, and all other documents and communications. All statements, other than statements of
historical fact, including statements regarding industry prospects and future results of operations
or financial position, made in this Quarterly Report on Amendment No.
1 on Form 10-Q/A are forward looking. The words
believe, expect, anticipate, intend and similar expressions generally identify
forward-looking statements. While we believe in the veracity of all statements made herein,
forward-looking statements are necessarily based upon a number of estimates and assumptions that,
while considered reasonable by us, are inherently subject to significant business, economic and
competitive uncertainties and contingencies and known and unknown risks. As a result of such
risks, our actual results could differ materially from those expressed in any forward-looking
statements made by, or on behalf of, us. Some of the factors which could cause our results to
differ materially include the following: the loss of key customers, such as Wal-Mart, Best Buy,
Target, GameStop and Electronics Boutique; delays in product development and related product
release schedules; inability to secure capital; loss of our credit facility; adapting to the
rapidly changing industry technology, including new console technology; maintaining relationships
with leading independent video game software developers; maintaining or acquiring licenses to
intellectual property; fluctuations in the Companys quarterly net revenues and results of
operations based on the seasonality of our industry; and the termination or modification of our
agreements with hardware manufacturers. Please see the Risk
Factors in our Annual Report on Amendment No. 3 on Form
10-K/A for the year ended March 31, 2005 or in our other filings with the Securities and Exchange Commission for a
description of some, but not all, risks, uncertainties and contingencies. Except as otherwise
required by the applicable securities laws, we disclaim any intention or obligation publicly to
update or revise any forward-looking statements, whether as a result of new information, future
events or otherwise.
 Overview
  Business and Operating Segments
   Page 26




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##### Table of Contents



Key Challenges
    
    
    Sale of Humongous Entertainment On August 22, 2005, we sold Humongous to IESA in
exchange for 4,720,771 of their shares valued at $8.3 million.
    
    Issuance of common stock as settlement of certain net related party balances In September 2005, we
entered into two transactions with our majority stockholder, IESA, to settle certain
outstanding net related party balances totaling $8.0 million through
the issuance of an
aggregate of 6,145,051 shares of our common stock.
    
    Sale of common stock to third party investors On September 15, 2005, we entered into a
Securities Purchase Agreement, with each of SARK Fund and CCM Fund, to issue them an
aggregate of 5,702,590 shares of our common stock in a private placement transaction. The
shares were sold for cash at $1.30 per share for an aggregate offering price of $7.4
million. In connection with the sale, we paid a placement agent fee of approximately $0.1
million.
  Industry
  Company Reorganization
  Page 27




---



##### Table of Contents




    
    Restructuring
  
    
    Discontinued Operations
        Page 28




---



##### Table of Contents



Three Months

    
    Six MonthsEnded

    
    EndedSeptember 30,

    
    September 30,2004

    
    2005

    
    2004

    
    2005Net revenues
    
    $
    3,408
    
    
    $
    318
    
    
    $
    5,579
    
    
    $
    580Loss from discontinued operations
    
    $
    (888
    )
    
    $
    (1,412
    )
    
    $
    (2,906
    )
    
    $
    (3,734
    )
  Three Months

    
    Six MonthsEnded

    
    EndedSeptember 30,
    
    September 30,2004

    
    2005

    
    2004

    
    2005Net revenues
    
    $
    
    
    
    $
    1,718
    
    
    $
    
    
    
    $
    1,718Cost of goods sold
    
    
    
    
    
    
    (1,192
    )
    
    
    
    
    
    
    (1,192
    )Total
    
    $
    
    
    
    $
    526
    
    
    $
    
    
    
    $
    526
 Critical accounting policies
   Revenue
recognition, sales returns, price protection, other customer related allowances and allowance for doubtful
accounts
     Page 29




---



##### Table of Contents



Inventories
  Research and Product Development Costs
   Licenses
  Income Taxes
   Related Party Transactions
  Page 30




---



##### Table of Contents



Results of operations
 Three months ended September 30, 2005 versus the three months ended September
30, 2004
 Condensed
Consolidated Statement of Operations (dollars in thousands):
 Three
    
    
    
    
    
    
    ThreeMonths
    
    
    % of
    
    
    Months
    
    
    % ofEnded
    
    
    Net
    
    
    Ended
    
    
    NetSeptember 30,
    
    
    Revenues
    
    
    September 30,
    
    
    Revenues
    
    
    (Unfavorable)/2004
    
    
    2004
    
    
    2005
    
    
    2005
    
    
    FavorableNet revenues
    
    $
    67,984
    
    
    
    100.0
    %
    
    $
    38,402
    
    
    
    100.0
    %
    
    $
    (29,582
    )Costs and
expenses:Cost of goods sold
    
    
    40,889
    
    
    
    60.2
    %
    
    
    24,970
    
    
    
    65.0
    %
    
    
    15,919Research and product development
    
    
    15,526
    
    
    
    22.8
    %
    
    
    17,113
    
    
    
    44.6
    %
    
    
    (1,587
    )Selling and distribution expenses
    
    
    15,046
    
    
    
    22.1
    %
    
    
    7,855
    
    
    
    20.5
    %
    
    
    7,191General and administrative expenses
    
    
    9,708
    
    
    
    14.3
    %
    
    
    8,221
    
    
    
    21.4
    %
    
    
    1,487Restructuring expenses
    
    
    
    
    
    
    0.0
    %
    
    
    1,524
    
    
    
    3.9
    %
    
    
    (1,524
    )Depreciation and amortization
    
    
    2,533
    
    
    
    3.7
    %
    
    
    2,259
    
    
    
    5.9
    %
    
    
    274Total costs
and expenses
    
    
    83,702
    
    
    
    123.1
    %
    
    
    61,942
    
    
    
    161.3
    %
    
    
    21,760Operating (loss)
    
    
    (15,718
    )
    
    
    (23.1
    )%
    
    
    (23,540
    )
    
    
    (61.3
    )%
    
    
    (7,822
    )Interest expense, net
    
    
    (527
    )
    
    
    (0.8
    )%
    
    
    (297
    )
    
    
    (0.8
    )%
    
    
    230Other income (expense)
    
    
    14
    
    
    
    0.0
    %
    
    
    (245
    )
    
    
    (0.6
    )%
    
    
    (259
    )(Loss) before (benefit from) income taxes
    
    
    (16,231
    )
    
    
    (23.9
    )%
    
    
    (24,082
    )
    
    
    (62.7
    )%
    
    
    (7,851
    )(Benefit from) income taxes
    
    
    (228
    )
    
    
    (0.4
    )%
    
    
    (283
    )
    
    
    (0.7
    )%
    
    
    55(Loss) from continuing operations
    
    
    (16,003
    )
    
    
    (23.5
    )%
    
    
    (23,799
    )
    
    
    (62.0
    )%
    
    
    (7,796
    )(Loss) from discontinued operations of
Humongous
Entertainment
    
    
    (888
    )
    
    
    (1.3
    )%
    
    
    (1,412
    )
    
    
    (3.7
    )%
    
    
    (524
    )Net (loss)
    
    $
    (16,891
    )
    
    
    (24.8
    )%
    
    $
    (25,211
    )
    
    
    (65.7
    )%
    
    $
    (8,320
    )
 Net Revenues
 Net Revenues by Segment (in thousands):
 Three MonthsEndedSeptember 30,
    
    
    Favorable/2004
    
    
    2005
    
    
    (Unfavorable)Publishing
    
    $
    54,629
    
    
    $
    22,612
    
    
    $
    (32,017
    )Distribution
    
    
    13,355
    
    
    
    15,790
    
    
    
    2,435Total
    
    $
    67,984
    
    
    $
    38,402
    
    
    $
    (29,582
    )
 Publishing Platform Mix2004
    
    
    2005PC
    
    
    26.1
    %
    
    
    36.9
    %Plug and Play
    
    
    0.0
    %
    
    
    24.4
    %Game Boy Advance
    
    
    17.4
    %
    
    
    15.1
    %PlayStation 2
    
    
    37.7
    %
    
    
    13.7
    %Xbox
    
    
    12.6
    %
    
    
    7.9
    %Game Cube
    
    
    4.3
    %
    
    
    1.4
    %Nintendo DS
    
    
    0.0
    %
    
    
    0.6
    %PlayStation
    
    
    1.9
    %
    
    
    0.0
    %Total
    
    
    100.0
    %
    
    
    100.0
    %
  
    
    Publishing net revenues decreased $32.0 million or 58.6% from $54.6 million for the
three months ended September 30, 2004 to $22.6 million for the three months ended September
30, 2005. The change is due to fewer new releases as compared to the prior comparable
quarter, compounded by a decrease in product reorders.
 o
    
    Net product sales of new releases during the current quarter were
approximately $12.5 million. This includes Atari Flashback 2(Plug and Play),
Indigo Prophecy(PC, PlayStation 2, and Xbox), and Dragon Ball Z: Transformation
(Game Boy Advance).o
    
    Net product sales of new releases in the prior years comparable quarter
were approximately $17.2 million and included Test Drive: Eve of Destruction
(PlayStation 2 and Xbox), Dragon Ball Z: Buus
 Page 31




---



##### Table of Contents



Fury(Game Boy Advance), Terminator
3: The Redemption(PlayStation 2, Xbox, and GameCube), Demon Stone(PlayStation 2),
and YuYu Hakusho: Dark Tournament(PlayStation 2).o
    
    Back catalogue reorder sales decreased by approximately 63.4% from the
prior year. The prior comparable periods sales included strong
reorders of DRIV3R, released in the first quarter of fiscal 2005.
 
    
    Publishing net revenue during the current quarter includes $3.7 million of international
royalties earned on IESAs international sales of our titles, primarily for sales of Indigo
Prophecy, released in September 2005. The three months ended September 30, 2004 includes
international royalties of $1.5 million earned primarily on IESAs international sales of
DRIV3R, Terminator 3: The Redemption,and Shadow Ops: Red Mercury.
    
    The overall average sales price (ASP) of the publishing business has declined slightly
from $17.20 in the prior comparable quarter to $16.93 in the current period. The slight
decrease ASP is due to the shift in the mix towards a greater percent of PC product which
carries a lower average sales price ($12.42 in the current period), offset by the plug and
play product sales in the current period, for which the ASP is $21.10.
    
    Total distribution net revenues for the three months ended September 30, 2005 increased
approximately $2.4 million or 18.2% from the comparable 2004 period due to an increase in
ASP for distribution products from $14.74 in the 2004 period to $17.31 in the current
period, as well as the inclusion of Humongous, Inc. as a distributed third party in the
current period.
 Cost
of Goods Sold
  
    
    higher distribution net revenues (on which we incur higher costs) as a percentage of
total net revenues, which increased from 19.6% for the three months ended September 30,
2004 to 41.1% for the three months ended September 30, 2005, offset by
    
    higher international royalty income in the current period, which has a lower associated
royalty expense.
 Research and Product Development Expenses
  Page 32




---



##### Table of Contents




    
    increased spending for certain projects currently in development at our related party
development studios while spending for projects in
development with external developers has remained consistent with the comparable prior
period.
  Selling and Distribution Expenses
  
    
    a significant savings in the current period on advertising ($3.4 million in the current
period as compared to $8.3 million in the prior period) due to fewer new titles released in
the current period,
    
    savings in salaries and related overhead costs due to reduced headcount resulting from
managements restructuring plan, and
    
    lower variable distribution costs, including freight, shipping and handling, on lower
sales.
 General and Administrative Expenses
  
    
    a reduction of rent and other overhead costs due to the closure of the Beverly and Santa
Monica offices and their inclusion in restructuring expense in the current period,
    
    a reduction in salary and other related expenses due to office closures and reduced headcount, offset by
    
    an increase of $0.7 million in professional fees,
including $0.2 million for a settlement with AVG.
 Restructuring Expenses
  Depreciation and Amortization
  Interest Expense, net
  
    
    a decrease in credit facility interest expense of
$0.3 million due to decreased borrowings, offset by
 Page 33




---



##### Table of Contents




    
    $0.1 million of interest income recorded in the prior period on related party notes
receivable from Atari Interactive and Paradigm. No such interest income was record in the
current period.
 Other Income (Expense)
  Benefit from Income Taxes
  (Loss) from Discontinued Operations of Humongous Entertainment
  Six
months ended September 30, 2005 versus the six months ended September 30, 2004
 Condensed
Consolidated Statement of Operations (dollars in thousands):
 Six
    
    
    
    
    
    
    SixMonths
    
    
    % of
    
    
    Months
    
    
    % ofEnded
    
    
    Net
    
    
    Ended
    
    
    NetSeptember 30,
    
    
    Revenues
    
    
    September 30,
    
    
    Revenues
    
    
    (Unfavorable)/2004
    
    
    2004
    
    
    2005
    
    
    2005
    
    
    FavorableNet revenues
    
    $
    176,108
    
    
    
    100.0
    %
    
    $
    62,601
    
    
    
    100.0
    %
    
    $
    (113,507
    )Costs and
expenses:Cost of goods sold
    
    
    92,077
    
    
    
    52.3
    %
    
    
    43,446
    
    
    
    69.4
    %
    
    
    48,631Research and product development
    
    
    30,714
    
    
    
    17.4
    %
    
    
    33,840
    
    
    
    54.1
    %
    
    
    (3,126
    )Selling and distribution expenses
    
    
    31,752
    
    
    
    18.0
    %
    
    
    14,857
    
    
    
    23.7
    %
    
    
    16,895General and administrative expenses
    
    
    17,224
    
    
    
    9.8
    %
    
    
    16,164
    
    
    
    25.9
    %
    
    
    1,060Restructuring expenses
    
    
    
    
    
    
    0.0
    %
    
    
    3,701
    
    
    
    5.9
    %
    
    
    (3,701
    )Depreciation and amortization
    
    
    5,220
    
    
    
    3.0
    %
    
    
    4,589
    
    
    
    7.3
    %
    
    
    631Total costs
and expenses
    
    
    176,987
    
    
    
    100.5
    %
    
    
    116,597
    
    
    
    186.3
    %
    
    
    60,390Operating (loss)
    
    
    (879
    )
    
    
    (0.5
    )%
    
    
    (53,996
    )
    
    
    (86.3
    )%
    
    
    (53,117
    )Interest expense, net
    
    
    (701
    )
    
    
    (0.4
    )%
    
    
    (345
    )
    
    
    (0.5
    )%
    
    
    356Other income (expense)
    
    
    33
    
    
    
    0.0
    %
    
    
    (236
    )
    
    
    (0.4
    )%
    
    
    (269
    )(Loss) before (benefit from) income taxes
    
    
    (1,547
    )
    
    
    (0.9
    )%
    
    
    (54,577
    )
    
    
    (87.2
    )%
    
    
    (53,030
    )Provision for (benefit from) income taxes
    
    
    382
    
    
    
    0.2
    %
    
    
    (283
    )
    
    
    (0.5
    )%
    
    
    665(Loss) from continuing operations
    
    
    (1,929
    )
    
    
    (1.1
    )%
    
    
    (54,294
    )
    
    
    (86.7
    )%
    
    
    (52,365
    )(Loss) from discontinued operations of
Humongous
Entertainment
    
    
    (2,906
    )
    
    
    (1.6
    )%
    
    
    (3,734
    )
    
    
    (6.0
    )%
    
    
    (828
    )Net (loss)
    
    $
    (4,835
    )
    
    
    (2.7
    )%
    
    $
    (58,028
    )
    
    
    (92.7
    )%
    
    $
    (53,193
    )
 Page 34




---



##### Table of Contents



Net Revenues
 Net Revenues by Segment (in thousands):
 Six MonthsEndedSeptember 30,
    
    
    Favorable/2004
    
    
    2005
    
    
    (Unfavorable)Publishing
    
    $
    152,120
    
    
    $
    35,371
    
    
    $
    (116,749
    )Distribution
    
    
    23,988
    
    
    
    27,230
    
    
    
    3,242Total
    
    $
    176,108
    
    
    $
    62,601
    
    
    $
    (113,507
    )
 Publishing Platform Mix2004
    
    
    2005PC
    
    
    19.4
    %
    
    
    45.5
    %Plug and play
    
    
    0.0
    %
    
    
    15.5
    %PlayStation 2
    
    
    43.4
    %
    
    
    15.1
    %Game Boy Advance
    
    
    14.0
    %
    
    
    11.3
    %Xbox
    
    
    18.9
    %
    
    
    7.1
    %Game Cube
    
    
    2.8
    %
    
    
    4.7
    %Nintendo DS
    
    
    0.0
    %
    
    
    0.6
    %PlayStation
    
    
    1.5
    %
    
    
    0.2
    %Total
    
    
    100.0
    %
    
    
    100.0
    %
  
    
    Publishing net revenues decreased $116.7 million from $152.1 million for the six months
ended September 30, 2004 to $35.4 million for the six months ended September 30, 2005. The
decrease is due to fewer new releases in the current period, and the highly successful
release of DRIV3R in the prior comparable period.
 o
    
    Net product sales for all new releases during the current period were
$14.0 million and include Atari Flashback 2(Plug and Play), Indigo Prophecy(PC,
PlayStation 2, and Xbox), Dragon Ball Z: Transformations(Game Boy Advance), and
Roller Coaster Tycoon 3: Soaked!(PC).o
    
    Prior period net revenues for DRIV3Rwere approximately $37.9 million
alone, and other new releases in the prior year aggregating an additional $38.8
million included Transformers(PlayStation 2), Test Drive: Eve of Destruction
(PlayStation 2 and Xbox), Dragon Ball Z: Super Sonic Warriors(Game Boy Advance),
Duel Masters: Sempai Legends(Game Boy Advance), and Shadow Ops: Red Mercury(Xbox).o
    
    Back catalogue reorder sales decreased by approximately 49.3% from the
prior year. The prior comparable periods sales included strong reorders of Unreal
Tournament 2004, Dragon Ball Z: Budokai 2, and Enter the Matrix.
 
    
    Publishing net revenue during the current period includes $3.7 million of international
royalties earned on IESAs international sales of our titles, primarily for sales of Indigo
Prophecy, released in September 2005. Publishing net revenue during the six months ended
September 30, 2004 included international royalties of $16.3 million, primarily from $14.6
million from international sales of DRIV3R.
    
    The overall average sales price (ASP) of the publishing business has decreased by
18.2% over the prior year from $19.92 to $16.30 due to a significant shift in platform mix
toward a higher percentage mix of PC sales (which carries an ASP of $12.71 in the current
period), offset by the inclusion in the current period of plug and play sales, which have
an ASP of $21.09. The current year to date mix consisted of 45.5% PC product, 39.0%
console product, and 15.5% plug and play product. The prior years mix consisted of 80.6%
console product and 19.4% PC product.
    
    Total distribution net revenues for the six months ended September 30, 2005 increased
approximately $3.2 million or 13.5% from the comparable 2004 period due to an increase in
ASP for distribution products from $14.87 in the 2004 period to $17.33 in the current
period, as well as the inclusion of Humongous, Inc. as a distributed third party in the
current period.
 
 Page 35




---



##### Table of Contents



Cost
of Goods Sold
  
    
    higher distribution net revenues (on which we incur higher costs) as a percentage of
total net revenues, which increased from 13.6% for the three months ended September 30,
2004 to 43.5% for the three months ended September 30, 2005,
offset by
    
    higher international royalty income in the prior period, which has a lower associated
royalty expense.
 Research and Product Development Expenses
  
    
    increased spending for certain projects currently in development at our related party
development studios, compounded by
    
    higher costs for current titles in development with external developers.
  Selling and Distribution Expenses
  
    
    a significant savings in the current period on advertising ($6.2 million in the current
period as compared to $18.3 million in the prior period) due to fewer new titles released,
    
    savings in salaries and related overhead costs due to reduced headcount resulting from
managements restructuring plan,
    
    lower variable distribution costs, including freight, shipping and handling, on lower
sales.
 
 Page 36




---



##### Table of Contents



General and Administrative Expenses
  
    
    a reduction in salary and other related expenses due to office closures and reduced
headcount,
    
    a reduction of rent and other overhead costs due to the closure of the Beverly and Santa
Monica offices, offset by
    
    an increase of $1.1 million in professional fees, including $0.2 million for a settlement with AVG.
 Restructuring Expenses
  Depreciation and Amortization
  Interest Expense, net
  Other Income (Expense)
  Provision for (Benefit from) Income Taxes
  (Loss) from Discontinued Operations of Humongous Entertainment
  Page 37




---



##### Table of Contents



Liquidity and Capital Resources
 Overview
   Cash Flows
 (in thousands)
 March 31,
    
    
    September 30,2005
    
    
    2005Cash
    
    $
    10,433
    
    
    $
    2,457Working capital
    
    $
    35,651
    
    
    $
    4,769
 Six Months EndedSeptember 30,2004
    
    
    2005Cash (used
in) operating activities
    
    $
    (7,456
    )
    
    $
    (23,525
    )Cash (used
in) provided by investing activities
    
    
    (1,212
    )
    
    
    8,293Cash provided by financing activities
    
    
    54
    
    
    
    7,293Effect of exchange rates on cash
    
    
    (8
    )
    
    
    (37
    )Net decrease in cash
    
    $
    (8,622
    )
    
    $
    (7,976
    )
   Page 38




---



##### Table of Contents



Credit Facilities
 HSBC Loan and Security Agreement
  GECC Senior Credit Facility
  Page 39




---



##### Table of Contents



Contractual Obligations
  Contractual Obligations
Payments Due by Period
 Within 1 Year
    
    
    1-3 Years
    
    
    4-5 Years
    
    
    After 5 Years
    
    
    TotalRoyalty and license advances (1)
    
    $
    878
    
    
    $
    1,058
    
    
    $
    150
    
    
    $
    
    
    
    $
    2,086Milestone payments (2)
    
    
    3,228
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    3,228Operating lease obligations (3)
    
    
    4,801
    
    
    
    3,988
    
    
    
    1,342
    
    
    
    
    
    
    
    10,131Capital lease obligations (4)
    
    
    194
    
    
    
    144
    
    
    
    
    
    
    
    
    
    
    
    338Total
    
    $
    9,101
    
    
    $
    5,190
    
    
    $
    1,492
    
    
    $
    
    
    
    $
    15,783
  (1)
    
    We have committed to pay advance payments under certain royalty and license
agreements. These commitments are accrued when significant
obligations of performance are met and due and payable upon delivery
of those performances or predetermined dates.(2)
    
    Milestone payments represent royalty advances to developers for products that are
currently in development. Although milestone payments are not guaranteed, we expect to
make these payments if all deliverables and milestones are met timely and accurately.(3)
    
    We account for our leases as operating leases, with expiration dates ranging from
fiscal 2006 through fiscal 2013. These are future minimum annual rental payments
required under the leases, including a related party sub-lease with Atari Interactive.(4)
    
    We entered into several capital leases for computer equipment beginning in the
third quarter of fiscal 2005. Per FASB Statement No. 13, Accounting for Leases, we
account for capital leases by recording them at the present value of the total future
lease payments. They are amortized using the straight-line method over the minimum lease
term. IESA Liquidity
  Civilization
  Page 40




---



##### Table of Contents



Recent Accounting Pronouncements
      
 Item 3. Quantitative and Qualitative Disclosures about Market Risk
  Foreign Currency Exchange Rates
  
 Item 4. Controls and Procedures
 Evaluation
of Disclosure Controls and Procedures
 Changes in Internal Control Over
Financial Reporting
  Page 41




---



##### Table of Contents



PART II. OTHER INFORMATION
 
 Item 1. Legal Proceedings
   Atari, Inc., Atari Interactive, Inc., and Hasbro, Inc. v. Games, Inc., Roger W. Ach, II , and
Chicago West Pullman LLC
  inter alia
   Page 42




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##### Table of Contents



Page 43




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##### Table of Contents



American Video Graphics, L.P., v. Electronic Arts, Inc. et al.
    iEntertainment Network, Inc. v. Epic Games, Inc., Atari, Inc. Valve Corporation, Sierra
Entertainment, Inc., Sony Corporation of Japan, Sony Corporation of America, Sony Computer
Entertainment America, Inc. and Sony Online Entertainment, Inc.
  Page 44




---



##### Table of Contents



Mr. M.L. Edmondson v. Reflections Interactive Limited
  Bouchat v. Champion Products, et.al. (Accolade)
  Indigo Moon Productions, LLC v. Hasbro, Inc., et al.
 Clue Clue Clue
Mysteries
 
 Item 2. Unregistered Sales of Equity Securities and Use of Proceeds.
  
 Item 4. Submission of Matters to a Vote of Security Holders.
  Page 45




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##### Table of Contents



Proposal 1
 For
    
    
    WithheldCLASS IThomas A. Heymann
    
    
    95,358,902
    
    
    
    22,262,795Thomas Schmider
    
    
    95,980,641
    
    
    
    21,641,056
 
 
 Proposal 2
 For
    
    Against
    
    
    Abstain
    
    
    Non-Votes94,829,947
    
    
    8,221,322
    
    
    
    73,990
    
    
    
    14,496,438
 Proposal 3
 For
    
    Against
    
    
    Abstain116,168,378
    
    
    1,418,265
    
    
    
    35,054
  
 Item 6. Exhibits ++
 (a)
    
    Exhibits
 10.1
    
    First Amendment to Loan and Security Agreement, dated as of June 30, 2005,
between the Company and HSBC Business Credit (USA) Inc. is incorporated by reference
to exhibit 10.1 to the Companys Quarterly Report on Form 10-Q for the period ended
September 30, 2005.
 10.2
    
    Agreement for Purchase and Sale of Assets, dated August 22, 2005, between the
Company and Humongous, Inc. is incorporated by reference to exhibit 10.2 to the
Companys Quarterly Report on Form 10-Q for the period ended September 30, 2005.
 10.3
    
    Stock Transfer Agreement, dated August 22, 2005, between the Company and
Infogrames Entertainment, S.A. and Atari Interactive, Inc. (English Translation) is
incorporated by reference to exhibit 10.3 to the Companys Quarterly Report on Form
10-Q for the period ended September 30, 2005.
 10.4
    
    Liquidity Agreement, dated August 22, 2005, between the Company and
Infogrames Entertainment, S.A. is incorporated by reference to exhibit 10.4 to the
Companys Quarterly Report on Form 10-Q for the period ended September 30, 2005.
 10.5
    
    Distribution Agreement, dated August 22, 2005, between the Company and
Humongous, Inc. is incorporated by reference to exhibit 10.5 to the Companys
Quarterly Report on Form 10-Q for the period ended September 30, 2005.
 10.6
    
    Amendment No. 1 Trademark License Agreement, dated August 22, 2005, among the
Company, Atari Interactive, Inc., and Infogrames Entertainment, S.A. is incorporated
by reference to exhibit 10.6 to the Companys Quarterly Report on Form 10-Q for the
period ended September 30, 2005.
 10.7
    
    Agreement Regarding Issuance of Shares, dated September 15, 2005, between the
Company and Infogrames Entertainment, S.A. is incorporated by reference to exhibit
10.7 to the Companys Quarterly Report on Form 10-Q for the period ended September 30,
2005.
 10.8
    
    GT Interactive UK Settlement of Indebtedness Agreement, dated as of September
15, 2005, among the Company and Atari UK, Infogrames Entertainment, S.A. and all of
its subsidiaries is incorporated by reference to exhibit 10.8 to the Companys
Quarterly Report on Form 10-Q for the period ended September 30, 2005.
 10.9
    
    Form of Securities Purchase Agreement, dated September 15, 2005, between the
Company and the listed investors is incorporated by reference to exhibit 10.9 to the
Companys Quarterly Report on Form 10-Q for the period ended September 30, 2005.
 10.10*
    
    Atari, Inc. 2005 Stock Incentive Plan is incorporated by reference to exhibit 10.10
to the Companys Quarterly Report on Form 10-Q for the period ended September 30,
2005.
 31.1
    
    Chief Executive Officer and Acting Chief Financial Officer Certification pursuant to Section 302 of the Sarbanes-Oxley Act of 2002.32.1
    
    Chief Executive Officer and Acting Chief Financial Officer Certification pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.99.1
    
    First Amendment to Confidential License Agreement for
Nintendo GameCube, effective March 29, 2005, between the Company
and Nintendo of America Inc. is incorporated by reference to exhibit
99.1 to the Companys Quarterly Report on Form 10-Q for the period ended
September 30, 2005.
 
 *
    
    Exhibit indicated with an * symbol is a management or
compensatory plan arrangement.++
    
    Certain schedules and exhibits to the documents listed in this index are not being filed
because we believe that the information contained
therein is not material. Upon request therefore, we agree to furnish supplementally a copy of any
schedule or exhibit to the Securities and Exchange Commission. Page 46




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##### Table of Contents



SIGNATURE
  ATARI, INC.By:

/s/
Bruno BonnellBruno BonnellChief Executive Officer and Acting Chief Financial Officer  Page 47




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##### Table of Contents



INDEX
TO EXHIBITS++
 Exhibit No.
    
    Description
 10.1
    
    First Amendment to Loan and Security Agreement, dated as of June 30, 2005,
between the Company and HSBC Business Credit (USA) Inc. is incorporated by reference
to exhibit 10.1 to the Companys Quarterly Report on Form 10-Q for the period ended
September 30, 2005.
 10.2
    
    Agreement for Purchase and Sale of Assets, dated August 22, 2005, between the
Company and Humongous, Inc. is incorporated by reference to exhibit 10.2 to the
Companys Quarterly Report on Form 10-Q for the period ended September 30, 2005.
 10.3
    
    Stock Transfer Agreement, dated August 22, 2005, between the Company and
Infogrames Entertainment, S.A. and Atari Interactive, Inc. (English Translation) is
incorporated by reference to exhibit 10.3 to the Companys Quarterly Report on Form
10-Q for the period ended September 30, 2005.
 10.4
    
    Liquidity Agreement, dated August 22, 2005, between the Company and
Infogrames Entertainment, S.A. is incorporated by reference to exhibit 10.4 to the
Companys Quarterly Report on Form 10-Q for the period ended September 30, 2005.
 10.5
    
    Distribution Agreement, dated August 22, 2005, between the Company and
Humongous, Inc. is incorporated by reference to exhibit 10.5 to the Companys
Quarterly Report on Form 10-Q for the period ended September 30, 2005.
 10.6
    
    Amendment No. 1 Trademark License Agreement, dated August 22, 2005, among the
Company, Atari Interactive, Inc., and Infogrames Entertainment, S.A. is incorporated
by reference to exhibit 10.6 to the Companys Quarterly Report on Form 10-Q for the
period ended September 30, 2005.
 10.7
    
    Agreement Regarding Issuance of Shares, dated September 15, 2005, between the
Company and Infogrames Entertainment, S.A. is incorporated by reference to exhibit
10.7 to the Companys Quarterly Report on Form 10-Q for the period ended September 30,
2005.
 10.8
    
    GT Interactive UK Settlement of Indebtedness Agreement, dated as of September
15, 2005, among the Company and Atari UK, Infogrames Entertainment, S.A. and all of
its subsidiaries is incorporated by reference to exhibit 10.8 to the Companys
Quarterly Report on Form 10-Q for the period ended September 30, 2005.
 10.9
    
    Form of Securities Purchase Agreement, dated September 15, 2005, between the
Company and the listed investors is incorporated by reference to exhibit 10.9 to the
Companys Quarterly Report on Form 10-Q for the period ended September 30, 2005.
 10.10*
    
    Atari, Inc. 2005 Stock Incentive Plan is incorporated by reference to exhibit 10.10
to the Companys Quarterly Report on Form 10-Q for the period ended September 30,
2005.
 31.1
    
    Chief Executive Officer and Acting Chief Financial Officer Certification pursuant to Section 302 of the Sarbanes-Oxley Act of 2002.32.1
    
    Chief Executive Officer and Acting Chief Financial Officer Certification pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.99.1
    
    First Amendment to Confidential License Agreement for
Nintendo GameCube, effective March 29, 2005, between the Company
and Nintendo of America Inc. is incorporated by reference to exhibit
99.1 to the Companys Quarterly Report on Form 10-Q for the period ended
September 30, 2005.
 
 *
    
    Exhibit indicated with an * symbol is a management or
compensatory plan arrangement.++
    
    Certain schedules and exhibits to the documents listed in this index are not being filed
because we believe that the information contained
therein is not material. Upon request therefore, we agree to furnish supplementally a copy of any
schedule or exhibit to the Securities and Exchange Commission. Page 48