##### Table of Contents



UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
 WASHINGTON, D.C. 20549
 FORM 10-Q
 þ
    
    QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
 For the quarterly period ended June 30, 2008
 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
 þ o
  Large accelerated filer o
    
    Accelerated filer o
    
    Non-accelerated filer o
    
    Small reporting company þ(Do not check if a smaller reporting company)
 o þ




---



##### 



ATARI, INC. AND SUBSIDIARIES
JUNE 30, 2008 QUARTERLY REPORT ON FORM 10-Q
TABLE OF CONTENTS
 PART
I  FINANCIAL INFORMATION
 PageItem 1. Financial Statements (unaudited):Condensed Consolidated Balance Sheets as of March 31, 2008 and June 30, 2008
    
    
    3Condensed Consolidated Statements of Operations for the Three Months Ended
June 30, 2007 and 2008
    
    
    4Condensed Consolidated Statements of Cash Flows for the Three Months Ended
June 30, 2007 and 2008
    
    
    5Condensed
Consolidated Statement of Stockholders Deficiency and Comprehensive
Income for the Three Months Ended June 30, 2008
    
    
    7Notes to the Condensed Consolidated Financial Statements
    
    
    8Item 2. Managements Discussion and Analysis of Financial Condition and Results
of Operations
    
    
    29Item 3. Quantitative and Qualitative Disclosures about Market Risk
    
    
    41Item 4T. Controls and Procedures
    
    
    41
 PART II  OTHER INFORMATION
 Item 1. Legal Proceedings
    
    
    43Item 4. Submission of Matters to a Vote of Security Holders
    
    
    44Item 6. Exhibits
    
    
    45
 Signatures
    
    
    46EX-31.1: CERTIFICATIONEX-31.2: CERTIFICATIONEX-32.1: CERTIFICATIONEX-32.2: CERTIFICATION




---



##### Table of Contents



PART I. FINANCIAL INFORMATION
 
 Item 1. Financial Statements
 ATARI, INC. AND SUBSIDIARIES
 
 CONDENSED CONSOLIDATED BALANCE SHEETS
 (in thousands, except share data)
 March 31,
    
    
    June 30,2008
    
    
    2008Note 1
    
    

(unaudited)ASSETSCurrent assets:Cash
    
    $
    11,087
    
    
    $
    12,354Receivables, net of allowances of $1,912 and $15,409 at March 31, 2008
and June 30, 2008, respectively
    
    
    640
    
    
    
    23,257Inventories, net (Note 4)
    
    
    4,276
    
    
    
    3,869Due from related parties (Note 6)
    
    
    885
    
    
    
    1,132Prepaid expenses and other current assets (Note 4)
    
    
    8,188
    
    
    
    4,869Total current assets
    
    
    25,076
    
    
    
    45,481Property and equipment, net of accumulated depreciation of $21,813 and $22,100 at
March 31, 2008 and June 30, 2008, respectively
    
    
    6,313
    
    
    
    6,015Security deposits
    
    
    1,373
    
    
    
    1,379Other assets
    
    
    671
    
    
    
    534Total assets
    
    $
    33,433
    
    
    $
    53,409LIABILITIES AND STOCKHOLDERS DEFICIENCYCurrent liabilities:Accounts payable
    
    $
    5,378
    
    
    $
    7,063Accrued liabilities (Note 4)
    
    
    14,472
    
    
    
    10,417Royalties payable
    
    
    2,825
    
    
    
    4,429Credit facility (Note 8)
    
    
    14,000
    
    
    
    14,000Related Party Credit facility (Note 8)
    
    
    
    
    
    
    16,000Due to related parties (Note 6)
    
    
    1,197
    
    
    
    1,783Total current liabilities
    
    
    37,872
    
    
    
    53,692Due to related parties  long-term (Note 6)
    
    
    3,576
    
    
    
    4,130Related party license advance (Note 1, 6)
    
    
    5,296
    
    
    
    5,483Other long-term liabilities
    
    
    7,101
    
    
    
    6,993Total liabilities
    
    
    53,845
    
    
    
    70,298Commitments and contingencies (Note 7)Stockholders deficiency:Preferred stock, $0.01 par value, 5,000,000 shares authorized, none issued or
outstanding
    
    
    
    
    
    
    Common stock, $0.10 par value, 30,000,000 shares authorized, 13,477,920
shares issued and outstanding at March 31, 2008 and June 30, 2008
    
    
    1,348
    
    
    
    1,348Additional paid-in capital
    
    
    760,712
    
    
    
    760,790Accumulated deficit
    
    
    (784,945
    )
    
    
    (781,490
    )Accumulated other comprehensive income
    
    
    2,473
    
    
    
    2,463Total stockholders deficiency
    
    
    (20,412
    )
    
    
    (16,889
    )Total liabilities and stockholders deficiency
    
    $
    33,433
    
    
    $
    53,409
  Page 3




---



##### Table of Contents



ATARI, INC. AND SUBSIDIARIES
 
 CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS
 (in thousands, except per share data)
 (unaudited)
 Three MonthsEndedJune 30,2007
    
    
    2008Net revenues
    
    $
    10,420
    
    
    $
    40,285Costs and expenses:Cost of goods sold
    
    
    6,766
    
    
    
    24,388Research and product development
    
    
    4,411
    
    
    
    1,225Selling and distribution expenses
    
    
    3,550
    
    
    
    6,327General and administrative expenses
    
    
    5,701
    
    
    
    2,671Restructuring expenses
    
    
    949
    
    
    
    738Depreciation and amortization
    
    
    414
    
    
    
    305Atari trademark license expense
    
    
    555
    
    
    
    555Total costs and expenses
    
    
    22,346
    
    
    
    36,209Operating (loss) income
    
    
    (11,926
    )
    
    
    4,076Interest expense, net
    
    
    (13
    )
    
    
    (620
    )Other income
    
    
    19
    
    
    
    19(Loss)
income from continuing operations before income taxes
    
    
    (11,920
    )
    
    
    3,475Provision for (benefit from) income taxes
    
    
    
    
    
    
    (Loss) income from continuing operations
    
    
    (11,920
    )
    
    
    3,475Loss from discontinued operations of
Reflections Interactive Ltd., net of tax
    
    
    (21
    )
    
    
    (20
    )Net (loss) income
    
    $
    (11,941
    )
    
    $
    3,455Basic net
(loss) income per share:(Loss) income from continuing operations
    
    $
    (0.88
    )
    
    $
    0.26Loss from discontinued operations of
Reflections Interactive Ltd., net of tax
    
    
    (0.01
    )
    
    
    (0.00
    )Net (loss) income
    
    $
    (0.89
    )
    
    $
    0.26Diluted net
(loss) income per share:(Loss) income from continuing operations
    
    $
    (0.88
    )
    
    $
    0.26Loss from discontinued operations of
Reflections Interactive Ltd., net of tax
    
    
    (0.01
    )
    
    
    (0.00
    )Net (loss) income
    
    $
    (0.89
    )
    
    $
    0.26Weighted
average basic shares outstanding
    
    
    13,477
    
    
    
    13,478Weighted
average diluted shares outstanding
    
    
    13,477
    
    
    
    13,546
   Page 4




---



##### Table of Contents



ATARI, INC. AND SUBSIDIARIES
 
 CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
 (in thousands)
 (unaudited)
 Three monthsEndedJune 30,2007
    
    
    2008CASH FLOWS FROM OPERATING ACTIVITIES:Net (loss) income
    
    $
    (11,920
    )
    
    $
    3,475Adjustments to reconcile net (loss) income to net cash used in operating activities:Loss from
discontinued operations of Reflections, net of tax
    
    
    (21
    )
    
    
    (20
    )Recognition
of deferred income
    
    
    (19
    )
    
    
    (19
    )Stock-based compensation expense
    
    
    205
    
    
    
    78Non-cash expense on cash collateralized security deposit
    
    
    23
    
    
    
    Atari name license expense
    
    
    555
    
    
    
    555Depreciation and amortization
    
    
    414
    
    
    
    305Amortization of deferred financing fees
    
    
    52
    
    
    
    95Accrued interest
    
    
    1
    
    
    
    211Accrued interest on related party license
    
    
    
    
    
    
    188Write-off of fixed assets
    
    
    
    
    
    
    9Changes in operating assets and liabilities:Receivables, net
    
    
    5,901
    
    
    
    (22,620
    )Inventories, net
    
    
    815
    
    
    
    405Due from related parties
    
    
    (3,543
    )
    
    
    (248
    )Due to related parties
    
    
    (908
    )
    
    
    546Prepaid expenses and other current assets
    
    
    1,514
    
    
    
    3,317Accounts payable
    
    
    (269
    )
    
    
    1,685Accrued liabilities
    
    
    1,772
    
    
    
    (4,053
    )Royalties payable
    
    
    274
    
    
    
    1,604Restructuring
    
    
    531
    
    
    
    (163
    )Long-term liabilities
    
    
    823
    
    
    
    (90
    )Other assets
    
    
    17
    
    
    
    33Net cash used in continuing operating activities
    
    
    (3,783
    )
    
    
    (14,707
    )Net cash used in discontinued operations
    
    
    (50
    )
    
    
    Net cash used in operating activities
    
    
    (3,833
    )
    
    
    (14,707
    )CASH FLOWS FROM INVESTING ACTIVITIES:Purchases of property and equipment
    
    
    (261
    )
    
    
    (16
    )Net cash used in continuing investing activities
    
    
    (261
    )
    
    
    (16
    )CASH FLOWS FROM FINANCING ACTIVITIES:Borrowings under related party credit facility
    
    
    
    
    
    
    16,000Payments under capitalized lease obligation
    
    
    (31
    )
    
    
    (8
    )Net cash (used in) provided by continuing financing activities
    
    
    (31
    )
    
    
    15,992Effect of foreign exchange rates on cash
    
    
    2
    
    
    
    (2
    )Net (decrease) increase in cash
    
    
    (4,123
    )
    
    
    1,267Cash  beginning of fiscal period
    
    
    7,603
    
    
    
    11,087Cash  end of fiscal period
    
    $
    3,480
    
    
    $
    12,354
 Page 5




---



##### Table of Contents



ATARI, INC. AND SUBSIDIARIES
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
(in thousands, except share data)
(unaudited)
 SUPPLEMENTAL CASH FLOW INFORMATIONCash paid for interest
    
    
    28
    
    
    
    369SUPPLEMENTAL DISCLOSURE OF NON-CASH OPERATING,
INVESTING, AND FINANCING ACTIVITIESConsideration accrued for purchase of capitalized licenses
    
    
    1,005
    
    
    
    Capitalization of leasehold improvements funded by landlord
    
    
    2,792
    
    
    
    
  Page 6




---



##### Table of Contents



ATARI, INC. AND SUBSIDIARIES
 
 CONDENSED CONSOLIDATED STATEMENT OF STOCKHOLDERS DEFICIENCY

AND COMPREHENSIVE INCOME
 (in thousands)
 (unaudited)
 AccumulatedCommon
    
    
    
    
    
    
    Additional
    
    
    
    
    
    
    OtherStock
    
    
    Common
    
    
    Paid-In
    
    
    Accumulated
    
    
    ComprehensiveShares
    
    
    Stock
    
    
    Capital
    
    
    Deficit
    
    
    Income
    
    
    TotalBalance, March 31, 2008
    
    
    13,478
    
    
    $
    1,348
    
    
    $
    760,712
    
    
    $
    (784,945
    )
    
    $
    2,473
    
    
    $
    (20,412
    )Comprehensive Income:Net Income
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    3,455
    
    
    
    
    
    
    
    3,455Foreign currency translation adjustment
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    (10
    )
    
    
    (10
    )Total comprehensive income
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    3,445Stock-based compensation expense
    
    
    
    
    
    
    
    
    
    
    78
    
    
    
    
    
    
    
    
    
    
    
    78Balance, June 30, 2008
    
    
    13,478
    
    
    $
    1,348
    
    
    $
    760,790
    
    
    $
    (781,490
    )
    
    $
    2,463
    
    
    $
    (16,889)
  Page 7




---



##### Table of Contents



ATARI, INC. AND SUBSIDIARIES
 
 NOTES TO THE CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
 (unaudited)
 NOTE 1
 SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES AND BASIS OF
PRESENTATION
 Nature of Business
   Going Concern
    Agreement and Plan of Merger
  Page 8




---



##### Table of Contents



Credit Agreement
  Waiver, Consent and Fourth Amendment
        Page 9




---



##### Table of Contents



NASDAQ Delisting Notice
        Basis of Presentation
  Principles of Consolidation
  Revenue recognition, sales returns, price protection, other customer related allowances and
allowance for doubtful accounts
  Page 10




---



##### Table of Contents



Concentration of Credit Risk
  Use of Estimates
  Fair Values of Financial Instruments
  Long-Lived Assets
  Research and Product Development Expenses
   Page 11




---



##### Table of Contents



Licenses
  Atari Trademark License
  Net
Income (Loss) Per Share
  Recent Accounting Pronouncements
   Page 12




---



##### Table of Contents



NOTE 2  STOCK-BASED COMPENSATION
   Page 13




---



##### Table of Contents



Three Months EndedJune, 302007
    
    2008Research and product development
    
    $
    85
    
    
    
    5Selling and distribution expenses
    
    $
    29
    
    
    
    8General and administrative expenses
    
    $
    91
    
    
    
    65
   Three Months EndedJune 30,2007
    
    2008Expected volatility
    
    
    68
    %
    
    
    74
    %Expected dividend yield
    
    
    0
    %
    
    
    0
    %Expected term
    
    
    4
    
    
    
    4
   Page 14




---



##### Table of Contents



WeightedAverageShares
    
    
    Exercise Price(in thousands)Options outstanding at March 31, 2008
    
    
    927
    
    
    $
    7.18Granted
    
    
    20
    
    
    
    1.64Forfeited
    
    
    (22
    )
    
    
    3.73Expired
    
    
    (24
    )
    
    
    81.92Options outstanding at June 30, 2008
    
    
    901
    
    
    $
    5.19Options exercisable at June 30, 2008
    
    
    158
    
    
    $
    20.19
  Page 15




---



##### Table of Contents



NOTE 3  CONCENTRATION OF CREDIT RISK
  For the year endedMarch 31,
    
    March 31,2008
    
    2008% of Accounts Receivable
    
    % of Net Revenues (1)Customer 1
    
    
    30
    %
    
    
    27
    %Customer 2
    
    
    17
    %
    
    
    7
    %Customer 3
    
    
    13
    %
    
    
    12
    %Customer 4
    
    
    11
    %
    
    
    19
    %71
    %
    
    
    65
    %
  For the three months endedJune 30,
    
    June 30,2008
    
    2008% of Accounts Receivable
    
    % of Net Revenues (1)Customer 1
    
    
    37
    %
    
    
    32
    %Customer 2
    
    
    14
    %
    
    
    15
    %Customer 3
    
    
    11
    %
    
    
    9
    %62
    %
    
    
    56
    %
 
 (1)
    
    Excluding international royalty, licensing, and other income.  NOTE 4  BALANCE SHEET DETAILS
 Inventories
  March 31,
    
    
    June 30,2008
    
    
    2008Finished goods, net
    
    $
    3,847
    
    
    $
    3,490Return inventory, net
    
    
    424
    
    
    
    372Raw materials, net
    
    
    5
    
    
    
    7$
    4,276
    
    
    $
    3,869
 Page 16




---



##### Table of Contents



Prepaid Expenses and Other Current Assets
  March 31,
    
    
    June 30,2008
    
    
    2008Licenses short-term
    
    $
    4,361
    
    
    
    1,326Royalties receivable
    
    
    494
    
    
    
    383Reflections escrow receivable
    
    
    28
    
    
    
    28Deferred financing fees
    
    
    380
    
    
    
    380Taxes receivable
    
    
    156
    
    
    
    156Prepaid insurance
    
    
    911
    
    
    
    761Receivable from landlord
    
    
    448
    
    
    
    448Trade deposits and other professional retainers
    
    
    997
    
    
    
    707Other prepaid expenses and current assets
    
    
    413
    
    
    
    680$
    8,188
    
    
    $
    4,869
 Accrued Liabilities
  March 31,
    
    
    June 30,2008
    
    
    2008Accrued third party development expenses
    
    $
    4,122
    
    
    $
    769Accrued advertising
    
    
    629
    
    
    
    3,152Accounts receivable credit balances (See Note 3)
    
    
    2,619
    
    
    
    Accrued distribution services
    
    
    247
    
    
    
    119Accrued salary and related costs
    
    
    743
    
    
    
    843Accrued professional fees and other services
    
    
    1,991
    
    
    
    1,153Restructuring reserve (Note 10)
    
    
    1,759
    
    
    
    1,596Taxes payable
    
    
    453
    
    
    
    453Accrued freight and handling fees
    
    
    136
    
    
    
    327Delisting penalty owed to shareholder
    
    
    200
    
    
    
    151Deferred income
    
    
    277
    
    
    
    277Other
    
    
    1,296
    
    
    
    1,577$
    14,472
    
    
    $
    10,417
 NOTE 5  INCOME TAXES
     Page 17




---



##### Table of Contents



NOTE 6  RELATED PARTY TRANSACTIONS
 Relationship with IESA
    Summary of Related Party Transactions
  Page 18




---



##### Table of Contents



Three MonthsEndedJune 30,Income (expense)
    
    2007
    
    
    2008Net revenues
    
    $
    10,420
    
    
    $
    40,285Related party activity:Royalty income (1)
    
    
    1,635
    
    
    
    386Sale of goods
    
    
    144
    
    
    
    408Production and quality and assurance testing
Services
    
    
    766
    
    
    
    427Total related party net revenues
    
    
    2,545
    
    
    
    1,221Cost of goods sold
    
    
    (6,766
    )
    
    
    (24,388
    )Related party activity:Distribution fee for Humongous, Inc. product
    
    
    (164
    )
    
    
    (2,806
    )Royalty expense (2)
    
    
    (865
    )
    
    
    (5,523
    )Total related party cost of goods sold
    
    
    (1,029
    )
    
    
    (8,329
    )Research and product development
    
    
    (4,411
    )
    
    
    (1,225
    )Related party activity:Development expenses (3)
    
    
    
    
    
    
    Other miscellaneous development services
    
    
    5
    
    
    
    (58
    )Total related party research and product
Development
    
    
    5
    
    
    
    (58
    )Selling and distribution expenses
    
    
    (3,550
    )
    
    
    (6,327
    )Related party activity:Miscellaneous purchase of services
    
    
    
    
    
    
    Total related party selling and distribution
Expenses
    
    
    
    
    
    
    General and administrative expenses
    
    
    (5,701
    )
    
    
    (2,671
    )Related party activity:Management fee revenue
    
    
    750
    
    
    
    652Management fee expense
    
    
    (750
    )
    
    
    Office rental and other services (4)
    
    
    46
    
    
    
    (2
    )Total related party general and administrative
Expenses
    
    
    46
    
    
    
    650Restructuring expenses
    
    
    (949
    )
    
    
    (738
    )Related party activity:Related party rent expense (4)
    
    
    
    
    
    
    Total related party restructuring expenses
    
    
    
    
    
    
    Interest expenses, net
    
    
    (13
    )
    
    
    (620
    )Related party activity:Related party interest on Credit Facility
    
    
    
    
    
    
    (40
    )Total related party interest expense
    
    
    
    
    
    
    (40
    )(Loss) income from discontinued operations of
Reflections Interactive Ltd., net of tax
    
    
    (21
    )
    
    
    (20
    )Related party activity:Royalty income (1)
    
    
    
    
    
    
    License income (1)
    
    
    
    
    
    
    Total related party loss from discontinued
operations
    
    
    
    
    
    
    
 
 (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. Additionally, we earn license income from related parties Glu Mobile
(see below). Page 19




---



##### Table of Contents



(2)
    
    We have also entered into a distribution agreement with IESA and Atari Europe, which
provides for our 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.(3)
    
    We engage certain related party development studios to provide services such as product
development, design, and testing.(4)
    
    In July 2002, we negotiated a sale-leaseback transaction between Atari Interactive and an
unrelated party. As part of this transaction, we guaranteed the lease obligation of Atari
Interactive. The lease provides for minimum monthly rental payments of approximately $0.1
million escalating nominally over the ten-year term of the lease. During fiscal 2006, when the
Beverly studio (which held the office space for Atari Interactive) was closed, rental payments
were recorded to restructuring expense. We also received indemnification from IESA from costs,
if any, that may be incurred by us as a result of the full guarantee.We received a $1.3 million payment for our efforts in connection with the sale-leaseback
transaction. Approximately $0.6 million, an amount equivalent to a third party brokers
commission, was recognized during fiscal 2003 as other income, while the remaining balance of
$0.7 million was deferred and is being recognized over the life of the sub-lease. Accordingly,
during the nine months ended December 31, 2006 and 2007, a nominal amount of income was
recognized in each period. As of December 31, 2007, the remaining balance of approximately $0.3
million is deferred and is being recognized over the life of the sub-lease. Although the
Beverly studio was closed in fiscal 2006 as part of a restructuring plan, the space was not
sublet; the lease expired June 30, 2007.Additionally, we provide management information systems services to Atari Australia for which we
are reimbursed. The charge is calculated as a percentage of our costs, based on usage, which is
agreed upon by the parties.(5)
    
    Represents interest charged to us from the license advance from the Test Drive license. See
Note 1 and Test Drive Intellectual Property License below.  March 31,
    
    
    June 30,2008
    
    
    2008Due from/(Due to)  currentIESA (1)
    
    $
    
    
    
    $
    (40
    )Atari Europe (2)
    
    
    94
    
    
    
    747Eden Studios (3)
    
    
    125
    
    
    
    125Humongous, Inc. (4)
    
    
    (537
    )
    
    
    (1,103
    )Atari Interactive (5)
    
    
    (79
    )
    
    
    (609
    )Other miscellaneous net receivables
    
    
    85
    
    
    
    229Net due to related parties  current
    
    $
    (312
    )
    
    $
    (651
    )Due from/(Due to)  long-termDeferred related party license advance
    
    
    
    
    
    
    Atari Interactive (see Atari Licensebelow)
    
    
    (3,576
    )
    
    
    (4,130
    )Net due to related parties
    
    $
    (3,888
    )
    
    $
    (4,781
    )
  March 31,
    
    
    June 30,2008
    
    
    2008Due from related parties
    
    $
    885
    
    
    $
    1,132Due to related parties
    
    
    (1,197
    )
    
    
    (1,783
    )Net (due to) due from related parties  current
    
    $
    (312
    )
    
    $
    (651
    )
 
 (1)
    
    Balances comprised primarily of the management fees charged to us by IESA and other
charges of cost incurred on our behalf. Page 20




---



##### Table of Contents



(2)
    
    Balances comprised of royalty income or expense from our distribution agreements with
IESA and Atari Europe relating to properties owned or licensed by Atari Europe.(3)
    
    Represents net payables for related party development activities.(4)
    
    Represents primarily distribution fees owed to Humongous, Inc., a related party,
related to sale of their product, as well as liabilities for inventory purchased.(5)
    
    Comprised primarily of royalties owed to Atari Interactive, offset by receivables
related to management fee revenue and production and quality and assurance testing services
revenue earned from Atari Interactive. Atari Name License
  Sale of Hasbro Licensing Rights
  Test Drive Intellectual Property License
  Page 21




---



##### Table of Contents



NOTE 7  COMMITMENTS AND CONTINGENCIES
 Contractual Obligations
  Contractual ObligationsRoyalty andlicense
    
    
    Milestone
    
    
    Operating lease
    
    
    Capital leaseThrough
    
    advances (1)
    
    
    payments (2)
    
    
    obligations (3)
    
    
    obligations
    
    
    TotalJune 30, 2009
    
    $
    
    
    
    $
    300
    
    
    $
    1,561
    
    
    $
    5
    
    
    $
    1,866June 30, 2010
    
    
    
    
    
    
    
    
    
    
    1,794
    
    
    
    
    
    
    
    1,794June 30, 2011
    
    
    
    
    
    
    
    
    
    
    1,756
    
    
    
    
    
    
    
    1,756June 30, 2012
    
    
    
    
    
    
    
    
    
    
    1,406
    
    
    
    
    
    
    
    1,406June 30, 2013
    
    
    
    
    
    
    
    
    
    
    1,329
    
    
    
    
    
    
    
    1,329Thereafter
    
    
    
    
    
    
    
    
    
    
    11,340
    
    
    
    
    
    
    
    11,340Total
    
    $
    
    
    
    $
    300
    
    
    $
    19,186
    
    
    $
    5
    
    
    $
    19,491
 
 (1)
    
    We have committed to pay advance payments under certain royalty and
license agreements. The payments of these obligations are dependent on the delivery
of the contracted services by the developers.(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 office leases as operating leases, with expiration
dates ranging from fiscal 2008 through fiscal 2022. These are future minimum annual
rental payments required under the leases net of $0.6 million of sublease income to
be received in fiscal 2008 and fiscal 2009. Rent expense and sublease income for
the three months ended June 30, 2007 and 2008 is as follows (in thousands): Three months endedJune 30,2007
    
    2008Rent expense
    
    $
    1,107
    
    
    
    825Sublease income
    
    
    (281
    )
    
    
    (317
    )
 
   Renewal of New York leaseDuring June 2006, we entered into a new lease with our current landlord at our New
York headquarters for approximately 70,000 square feet of office space for our
principal offices. The term of this lease commenced on July 1, 2006 and is to expire
on June 30, 2021. Upon entering into the new lease, our prior lease, which was set
to expire in December 2006, was terminated. The rent under the new lease for the
office space was approximately $2.4 million per year for the first five years,
increased to approximately $2.7 million per year for the next five years, and
increased to $2.9 million for the last five years of the term. In addition, we must
pay for electricity, increases in real estate taxes and increases in porter wage
rates over the term. The landlord is providing us with a one year rent credit of
$2.4 million and an allowance of $4.5 million to be used for building out and
furnishing the premises, of which $1.2 million has been recorded as a deferred credit
as of March 31, 2007; the remainder of the deferred credit will be recorded as the
improvements are completed, and will be amortized against rent expense over the life
of the lease. A nominal amount of amortization was recorded during the year ended
March 31, 2007. For the nine months ended December 31, 2007, we recorded an
additional deferred credit of $2.8 million and amortization against the total
deferred credits of approximately $0.2 million. Shortly after signing the new lease,
we
provided the landlord with a security deposit under the new lease in the form of a
letter of credit in the Page 22




---



##### Table of Contents



initial amount of $1.7 million, which has been cash
collateralized and is included in security deposits on our condensed consolidated
balance sheet. On August 14, 2007, we and our new landlord, W2007 Fifth Realty, LLC,
amended the lease under which we occupy space in 417 Fifth Avenue, New York City, to
reduce the space we occupy by approximately one-half, effective December 31, 2007. As
a result, our rent under the amended lease will be reduced from its current
approximately $2.4 million per year to approximately $1.2 million per year from
January 1, 2008 through June 30, 2011, approximately $1.3 million per year for the
five years thereafter, and approximately $1.5 million per year for the last five
years of the term. Litigation
  Bouchat v. Champion Products, et al. (Accolade)
  Ernst & Young, Inc. v. Atari, Inc.
  Research in Motion Limited v. Atari, Inc. and Atari Interactive, Inc.
  Page 23




---



##### Table of Contents



Stanley v. IESA, Atari, Inc. and Atari, Inc. Board of Directors
    Letter from Coghill Capital Management, LLC
  NOTE 8  DEBT
 Credit Facilities
 Guggenheim Credit Facility
  Page 24




---



##### Table of Contents



Waiver, Consent and Fourth Amendment
   IESA Credit Agreement
   Page 25




---



##### Table of Contents



NOTE 9  RESTRUCTURING
  Three Months EndedJune 30,2007
    
    
    2008May 2007 severance and retention expenses
(1)
    
    $
    787
    
    
    $
    November 2007 severance and retention
expenses (2)
    
    
    
    
    
    
    June 2008 severance and retention expenses
(3)
    
    
    
    
    
    
    322Restructuring consultants and legal fees (2)
    
    
    
    
    
    
    386Lease related costs
    
    
    162
    
    
    
    30Miscellaneous costs
    
    
    
    
    
    
    Total
    
    $
    949
    
    
    $
    738
 
 (1)
    
    In the first quarter of fiscal 2008, management announced a plan to reduce our total
workforce by 20%, primarily in general and administrative functions.(2)
    
    In the third quarter of fiscal 2008, as part of the removal of the Board of Directors
and the hiring of a restructuring firm, management announced an additional workforce
reduction of 30%, primarily in research and development and general and administrative
functions. This restructuring is anticipated to cost us approximately $5.0 to $6.0 million
dollars of which $1.0 to $1.5 million would relate to severance arrangements (See Note 1). Page 26




---



##### Table of Contents



(3)
    
    In the first quarter of fiscal 2009, as part of our continual refocus and as part of
reducing our cost structure as previously announced in November 2007, we reduced our
workforce by an additional 30%, primarily in general and administrative functions. This
restructuring is anticipated to cost us approximately $0.8 to $1.2 million dollars all of
which would relate to severance arrangements.  Balance at
    
    
    
    
    
    
    
    
    
    
    Cash payments,
    
    
    Balance atMarch 31, 2008
    
    
    Accrued Amounts
    
    
    Reclasses
    
    
    net
    
    

June 30, 2008Short termSeverance and
retention expenses
(1) (2) (4)
    
    $
    669
    
    
    $
    322
    
    
    $
    
    
    
    $
    (482
    )
    
    $
    509Restructuringconsultants and
legal fees (2)
    
    
    1,090
    
    
    
    386
    
    
    
    
    
    
    
    (389
    )
    
    
    1,087Lease related costs
    
    
    
    
    
    
    30
    
    
    
    
    
    
    
    (30
    )
    
    
    Total
    
    $
    1,759
    
    
    
    738
    
    
    
    
    
    
    
    (901
    )
    
    $
    1,596
 NOTE 10  OPERATIONS BY REPORTABLE SEGMENTS
      Publishing
    
    Distribution
    
    Corporate
    
    TotalThree months ended June 30, 2007:Net revenues
    
    $
    9,733
    
    
    $
    687
    
    
    $
    
    
    
    $
    10,420Operating income (loss) (1)
    
    
    (4,500
    )
    
    
    72
    
    
    
    (6,549
    )
    
    
    (10,977
    )Depreciation and amortization
    
    
    (70
    )
    
    
    
    
    
    
    (344
    )
    
    
    (414
    )Interest expense, net
    
    
    
    
    
    
    
    
    
    
    (13
    )
    
    
    (13
    )Three months ended June 30, 2008:Net revenues
    
    $
    36,659
    
    
    $
    3,626
    
    
    $
    
    
    
    $
    40,285
 Page 27




---



##### Table of Contents



Publishing
    
    Distribution
    
    Corporate
    
    TotalOperating income (loss) (1)
    
    
    7,675
    
    
    
    509
    
    
    
    (3,370
    )
    
    
    4,814Depreciation and amortization
    
    
    (42
    )
    
    
    
    
    
    
    (263
    )
    
    
    (305
    )Interest expense, net
    
    
    26
    
    
    
    
    
    
    
    (646
    )
    
    
    (620
    )
 
 (1)
    
    Operating loss for the Corporate segment for the three months ended June 30, 2007 and
2008, excludes restructuring charges of $0.9 million and $0.7 million, respectively.
Including restructuring charges, total operating income for the three months ended June 30,
2007 and 2008 is $11.9 million and $4.1 million, respectively. Page 28




---



##### 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 expected future results of
operations or financial position, made in this Quarterly Report on Form 10-Q are forward looking.
The words believe, expect, anticipate, intend and similar expressions generally identify
forward-looking statements. 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, and GameStop; delays in product development and
related product release schedules; inability to secure capital; loss of our credit facility;
inability to adapt to the rapidly changing industry technology, including new console technology;
inability to maintain relationships with leading independent video game software developers;
inability to maintain or acquire licenses to intellectual property; fluctuations in our quarterly
net revenues or 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 Form 10-K for the year ended March 31, 2007, or in our other filings with the
Securities and Exchange Commission (SEC) 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.
 Going Concern
    Agreement and Plan of Merger
   Page 29




---



##### Table of Contents



Credit Agreement
  Waiver, Consent and Fourth Amendment
        Related party transactions
  Page 30




---



##### Table of Contents



Business and Operating Segments
   Key Challenges
  Test Drive
 Page 31




---



##### Table of Contents



Critical Accounting Policies
   Revenue recognition, sales returns, price protection, other customer related allowances and
allowance for doubtful accounts
     Inventories
  Research and product development costs
 Page 32




---



##### Table of Contents



Licenses
  Atari Trademark License
  Page 33




---



##### Table of Contents



Results of operations
 Three months ended June 30, 2007 versus the three months ended June 30, 2008
 Condensed Consolidated Statements of Operations (dollars in thousands):
 Three
    
    
    
    
    
    
    ThreeMonths
    
    
    % of
    
    
    Months
    
    
    % ofEnded
    
    
    Net
    
    
    Ended
    
    
    Net
    
    
    (Decrease)/June 30,
    
    
    Revenues
    
    
    June 30,
    
    
    Revenues
    
    
    Increase2007
    
    
    
    
    
    2008
    
    
    
    
    
    $
    
    
    %Net revenues
    
    $
    10,420
    
    
    
    100.0
    %
    
    $
    40,285
    
    
    
    100.0
    %
    
    $
    29,865
    
    
    
    286.6
    %Costs and expenses:Cost of goods sold
    
    
    6,766
    
    
    
    64.9
    %
    
    
    24,388
    
    
    
    60.5
    %
    
    
    17,622
    
    
    
    260.5
    %Research and product development
    
    
    4,411
    
    
    
    42.3
    %
    
    
    1,225
    
    
    
    3.1
    %
    
    
    (3,186
    )
    
    
    (72.2
    )%Selling and distribution expenses
    
    
    3,550
    
    
    
    34.1
    %
    
    
    6,327
    
    
    
    15.7
    %
    
    
    2,777
    
    
    
    78.2
    %General and administrative expenses
    
    
    5,701
    
    
    
    54.8
    %
    
    
    2,671
    
    
    
    6.6
    %
    
    
    (3,030
    )
    
    
    (53.2
    )%Restructuring expenses
    
    
    949
    
    
    
    9.1
    %
    
    
    738
    
    
    
    1.8
    %
    
    
    (211
    )
    
    
    (22.2
    )%Depreciation and amortization
    
    
    414
    
    
    
    4.0
    %
    
    
    305
    
    
    
    0.8
    %
    
    
    (109
    )
    
    
    (26.3
    )%Atari trademark license expense
    
    
    555
    
    
    
    5.3
    %
    
    
    555
    
    
    
    1.4
    %
    
    
    0
    
    
    
    (0.0
    )%Total costs and expenses
    
    
    22,346
    
    
    
    214.5
    %
    
    
    36,209
    
    
    
    89.9
    %
    
    
    13,863
    
    
    
    62.0
    %Operating (loss) income
    
    
    (11,926
    )
    
    
    (114.5
    )%
    
    
    4,076
    
    
    
    10.1
    %
    
    
    16,002
    
    
    
    134.2
    %Interest expense, net
    
    
    (13
    )
    
    
    (0.1
    )%
    
    
    (620
    )
    
    
    (1.6
    )%
    
    
    (607
    )
    
    
    (4,469.2
    )%Other income
    
    
    19
    
    
    
    0.2
    %
    
    
    19
    
    
    
    0.1
    %
    
    
    0
    
    
    
    0.0
    %Income (loss) before provision for
income taxes
    
    
    (11,920
    )
    
    
    (114.4
    )%
    
    
    3,475
    
    
    
    8.6
    %
    
    
    15,395
    
    
    
    129.2
    %Provision for income taxes
    
    
    
    
    
    
    0.0
    %
    
    
    
    
    
    
    0.0
    %
    
    
    0
    
    
    
    0.0
    %Income (loss) from continuing operations
    
    
    (11,920
    )
    
    
    (114.4
    )%
    
    
    3,475
    
    
    
    8.6
    %
    
    
    15,395
    
    
    
    129.2
    %(Loss) from discontinued operations of
Reflections Interactive Ltd., net of
tax
    
    
    (21
    )
    
    
    (0.2
    )%
    
    
    (20
    )
    
    
    (0.1
    )%
    
    
    1
    
    
    
    4.8
    %Net (loss) income
    
    $
    (11,941
    )
    
    
    (114.6
    )%
    
    $
    3,455
    
    
    
    8.6
    %
    
    $
    15,396
    
    
    
    128.9
    %
 Net Revenues
 Net Revenues by Segment (in thousands):
 Three MonthsEndedJune 30,
    
    
    (Decrease)2007
    
    
    2008
    
    
    / IncreasePublishing
    
    $
    9,733
    
    
    $
    36,659
    
    
    $
    26,926Distribution
    
    
    687
    
    
    
    3,626
    
    
    
    2,939Total
    
    $
    10,420
    
    
    $
    40,285
    
    
    $
    29,865
 Page 34




---



##### Table of Contents



Publishing Sales Platform Mix
 Three MonthsEndedJune 30,2007
    
    2008Xbox 360
    
    
    3.4
    %
    
    
    42.4
    %PlayStation 3
    
    
    0.0
    %
    
    
    20.0
    %PC
    
    
    36.2
    %
    
    
    13.1
    %PlayStation 2
    
    
    14.0
    %
    
    
    12.0
    %Wii
    
    
    2.8
    %
    
    
    8.9
    %PSP
    
    
    26.5
    %
    
    
    2.2
    %Nintendo DS
    
    
    17.0
    %
    
    
    1.1
    %Other miscallenous platforms
    
    
    0.1
    %
    
    
    0. 3
    %Total
    
    
    100.0
    %
    
    
    100.0
    %
  
    
    Net publishing product sales during the three months ended June 30, 2008 were driven by
new releases of Dragon Ball Z Burst Limit (Xbox 360 and PS3)and Alone in the Dark (Xbox
360, Wii, PS2, and PC). These titles comprised approximately 79% of our net publishing
product sales. The three months ended June 30, 2007 sales were driven by back catalogue
sales (approximately 86% of all publishing net product sales).
    
    International royalty income decreased slightly by $0.1 million as we have less titles
being developed and sold internationally.
    
    The overall average unit sales price (ASP) of the publishing business has increased
 from $18.19 in the prior comparable quarter to $27.66 in the current period due to
a higher percentage of next generation product sales as compared to the prior years
comparable quarter.
 Backyard Baseball 2008 Wii, PS2 and PC
 Cost of Goods Sold
  
    
    the majority of revenue during the period were comprised of next generation product
carrying a better margin than back catalogue product (which comprised the majority of prior
comparable period sales), offset by
 Page 35




---



##### Table of Contents




    
    a higher mix of higher cost IESA product under the new distribution agreement which
accounted for approximately 34% of the sales in the period.
 Research and Product Development Expenses
  Selling and Distribution Expenses
  
    
    increased spending on advertising of $2.8 million to support the periods new releases
(Dragon Ball Z: Burst Limitand Alone in the Dark) , offset by
 
    
    savings in salaries and related overhead costs due to reduced headcount resulting from
personnel reductions.
 General and Administrative Expenses
  
    
    a reduction in salaries and other overhead costs of $0.9 million due to personnel and
facility reductions, and
 
    
    savings in legal, audit fees and other professional fees of approximately $2.0 million.
 Restructuring Expenses
  Interest expense, net
  Page 36




---



##### Table of Contents



Liquidity and Capital Resource
 Overview
    Cash Flows
 (in thousands)
 March 31,
    
    June 30,2008
    
    2008Cash
    
    $
    11,087
    
    
    $
    12,354Working
capital deficiency
    
    $
    (12,796
    )
    
    $
    (8,211
    )
 Three Months EndedJune 30,2007
    
    
    2008Cash used in operating activities
    
    $
    (3,833
    )
    
    $
    (14,711
    )Cash used in investing activities
    
    
    (261
    )
    
    
    (16
    )Cash provided by financing activities
    
    
    (31
    )
    
    
    15,992Effect of exchange rates on cash
    
    
    2
    
    
    
    2Net
(decrease) increase in cash
    
    $
    (4,123
    )
    
    $
    1,267
 Page 37




---



##### Table of Contents



Selected Balance Sheet Accounts
 Receivables, net
  Page 38




---



##### Table of Contents



Due from Related Parties/Due to Related Parties
  Prepaid and other current assets
  NASDAQ Delisting Notice
        Credit Facilities
 Guggenheim Credit Facility
  Page 39




---



##### Table of Contents



Waiver, Consent and Fourth Amendment
   IESA Credit Agreement
  Page 40




---



##### Table of Contents



Effect of Relationship with IESA on Liquidity
  Recent Accounting Pronouncements
  
 Item 3. Quantitative and Qualitative Disclosures about Market Risk
  Foreign Currency Exchange Rates
  
 Item 4T. Controls and Procedures
 Evaluation of disclosure controls and procedures
  Page 41




---



##### Table of Contents



Changes in Internal Control over Financial Reporting
  Page 42




---



##### Table of Contents



PART II. OTHER INFORMATION
 
 Item 1. Legal Proceedings
 Litigation
  Bouchat v. Champion Products, et al. (Accolade)
  Ernst & Young, Inc. v. Atari, Inc.
  Research in Motion Limited v. Atari, Inc. and Atari Interactive, Inc.
  Stanley v. IESA, Atari, Inc. and Atari, Inc. Board of Directors
  Page 43




---



##### Table of Contents



Letter from Coghill Capital Management, LLC
  
 Item 4. Submission of Matters to a Vote of Security Holders
 None
 Page 44




---



##### Table of Contents



Item 6. Exhibits
  31.1
    
    Chief Executive Officer Certification pursuant to Section 302 of the Sarbanes-Oxley Act of 2002.31.2
    
    Acting Chief Financial Officer Certification pursuant to Section 302 of the Sarbanes-Oxley Act of 2002.32.1
    
    Chief Executive Officer Certification pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.32.2
    
    Acting Chief Financial Officer Certification pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.
 Page 45




---



##### Table of Contents



SIGNATURE
  ATARI, INC.By:
    
    /s/ James WilsonName: James WilsonTitle: Chief Executive OfficerDate: August 13, 2008By:
    
    /s/ Arturo RodriguezName: Arturo RodriguezTitle: Acting Chief Financial OfficerDate: August 13, 2008
 Page 46




---



##### Table of Contents



INDEX TO EXHIBITS
 Exhibit No.
    
    Description31.1
    
    Chief Executive Officer Certification pursuant to Section 302 of the Sarbanes-Oxley Act of 2002.31.2
    
    Acting Chief Financial Officer Certification pursuant to Section 302 of the Sarbanes-Oxley Act of 2002.32.1
    
    Chief Executive Officer Certification pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.32.2
    
    Acting Chief Financial Officer Certification pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.
 Page 47