##### 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, 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
    
    13-3689915(State or Other Jurisdiction of
    
    (I.R.S. EmployerIncorporation or Organization)
    
    Identification No.)
 417 FIFTH AVENUE, NEW YORK, NY 10016
 (212) 726-6500
   þ o
 þ o




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ATARI, INC. AND SUBSIDIARIES
JUNE 30, 2005 QUARTERLY REPORT ON FORM 10-Q
TABLE OF CONTENTS
 PART I  FINANCIAL INFORMATION
 PageItem 1.
    
    Financial Statements:Consolidated Balance Sheets as of March 31, 2005 and June 30, 2005 (unaudited)
    
    
    3Consolidated Statements of Operations and Comprehensive Income for the Three Months Ended June 30, 2004 (unaudited) and 2005 (unaudited)
    
    
    4Consolidated Statements of Cash Flows for the Three Months Ended June 30, 2004 (unaudited) and 2005 (unaudited)
    
    
    5Consolidated Statements of Stockholders Equity for the Year Ended March 31, 2005 and Three Months Ended June 30, 2005 (unaudited)
    
    
    6Notes to the Consolidated Financial Statements
    
    
    7Item 2.
    
    Managements Discussion and Analysis of Financial Condition and Results of Operations
    
    
    21Item 3.
    
    Quantitative and Qualitative Disclosures about Market Risk
    
    
    32Item 4.
    
    Controls and Procedures
    
    
    32PART II  OTHER INFORMATIONItem 1.
    
    Legal Proceedings
    
    
    34Item 5.
    
    Other Information
    
    
    36Item 6.
    
    Exhibits and Reports on Form 8-K
    
    
    36Signature
    
    
    37EX-31.1: CERTIFICATIONEX-31.2: CERTIFICATIONEX-32.1: CERTIFICATIONEX-32.2: CERTIFICATION




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##### Table of Contents



PART I. FINANCIAL INFORMATION
 
 Item 1. Financial Statements
 
 ATARI, INC. AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
(in thousands)
 March 31,
    
    
    June 30,2005
    
    
    2005(unaudited)ASSETSCurrent assets:Cash
    
    $
    10,433
    
    
    $
    5,846Receivables, net
    
    
    42,179
    
    
    
    15,080Inventories, net
    
    
    25,209
    
    
    
    19,200Income taxes receivable
    
    
    1,533
    
    
    
    126Due from related parties
    
    
    248
    
    
    
    1,078Prepaid expenses and other current assets
    
    
    20,996
    
    
    
    16,845Assets of discontinued operations (Note 10)
    
    
    3,555
    
    
    
    3,348Total current assets
    
    
    104,153
    
    
    
    61,523Property and equipment, net
    
    
    8,289
    
    
    
    7,815Goodwill, net of accumulated amortization of $26,116 in both periods
    
    
    70,224
    
    
    
    70,224Other intangible assets, net of accumulated amortization of $1,969 and $2,138, at
March 31, 2005 and June 30, 2005, respectively
    
    
    731
    
    
    
    562Other assets
    
    
    6,642
    
    
    
    6,446Total assets
    
    $
    190,039
    
    
    $
    146,570LIABILITIES AND STOCKHOLDERS EQUITYCurrent liabilities:Accounts payable
    
    $
    27,756
    
    
    $
    19,063Accrued liabilities
    
    
    16,614
    
    
    
    14,287Restructuring reserve
    
    
    1,885
    
    
    
    2,514Royalties payable
    
    
    13,641
    
    
    
    12,532Income taxes payable
    
    
    500
    
    
    
    490Due to related parties
    
    
    5,421
    
    
    
    5,761Liabilities of discontinued operations (Note 10)
    
    
    2,685
    
    
    
    2,987Total current liabilities
    
    
    68,502
    
    
    
    57,634Deferred income
    
    
    478
    
    
    
    459Other long-term liabilities
    
    
    392
    
    
    
    264Total liabilities
    
    
    69,372
    
    
    
    58,357Commitments 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 121,307
shares issued and outstanding at March 31, 2005 and June 30, 2005,
respectively
    
    
    1,213
    
    
    
    1,213Additional paid-in capital
    
    
    736,790
    
    
    
    737,087Accumulated deficit
    
    
    (619,744
    )
    
    
    (652,561
    )Accumulated other comprehensive income
    
    
    2,408
    
    
    
    2,474Total stockholders equity
    
    
    120,667
    
    
    
    88,213Total liabilities and stockholders equity
    
    $
    190,039
    
    
    $
    146,570
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ATARI, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF OPERATIONS AND COMPREHENSIVE INCOME (LOSS)
(in thousands, except per share data)
(unaudited)
 Three Months
    
    
    Three MonthsEnded
    
    
    EndedJune 30,
    
    
    June 30,2004
    
    
    2005Net revenues
    
    $
    108,124
    
    
    $
    24,199Cost of goods sold
    
    
    50,864
    
    
    
    18,417Gross profit
    
    
    57,260
    
    
    
    5,782Research and product development
    
    
    15,511
    
    
    
    16,786Selling and distribution expenses
    
    
    16,707
    
    
    
    7,002General and administrative expenses
    
    
    7,515
    
    
    
    7,944Restructuring
expenses
    
    
    
    
    
    
    2,177Depreciation and amortization
    
    
    2,688
    
    
    
    2,329Operating income (loss)
    
    
    14,839
    
    
    
    (30,456
    )Interest expense, net
    
    
    (174
    )
    
    
    (48
    )Other income
    
    
    18
    
    
    
    9Income (loss) before provision for income taxes
    
    
    14,683
    
    
    
    (30,495
    )Provision for income taxes
    
    
    609
    
    
    
    Income (loss) from continuing operations
    
    
    14,074
    
    
    
    (30,495
    )(Loss) from discontinued operations of
Humongous Entertainment (Note 10)
    
    
    (2,018
    )
    
    
    (2,322
    )Net income (loss)
    
    $
    12,056
    
    
    $
    (32,817
    )Basic and diluted net income (loss) per share:Income (loss) from continuing operations
    
    $
    0.12
    
    
    $
    (0.25
    )(Loss) from discontinued operations
    
    
    (0.02
    )
    
    
    (0.02
    )Net income (loss)
    
    $
    0.10
    
    
    $
    (0.27
    )Basic weighted average shares outstanding
    
    
    121,249
    
    
    
    121,299Diluted weighted average shares outstanding
    
    
    121,334
    
    
    
    121,299Net income (loss)
    
    $
    12,056
    
    
    $
    (32,817
    )Other comprehensive income (loss):Foreign currency translation adjustments
    
    
    4
    
    
    
    66Recognition of cumulative translation adjustment
from liquidation of a foreign subsidiary
    
    
    (859
    )
    
    
    Comprehensive income (loss)
    
    $
    11,201
    
    
    $
    (32,751
    )
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ATARI, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
(in thousands)
(unaudited)
 Three Months
    
    
    Three MonthsEnded
    
    
    EndedJune 30,
    
    
    June 30,2004
    
    
    2005CASH FLOWS FROM OPERATING ACTIVITIES:Net income (loss)
    
    $
    12,056
    
    
    $
    (32,817
    )Adjustments to reconcile net income (loss) to net cash used in
operating activities:Loss from discontinued operations of Humongous Entertainment
    
    
    2,018
    
    
    
    2,322Non-cash restructuring charges
    
    
    
    
    
    
    267Depreciation and amortization
    
    
    2,688
    
    
    
    2,329Recognition of deferred income
    
    
    (2,049
    )
    
    
    (19
    )Recognition of cumulative translation adjustment from liquidation of a
foreign subsidiary
    
    
    (859
    )
    
    
    Accrued interest
    
    
    56
    
    
    
    17Amortization of deferred financing fees
    
    
    205
    
    
    
    190Write-off of property and equipment
    
    
    193
    
    
    
    11Changes in operating assets and liabilities:Receivables, net
    
    
    (30,003
    )
    
    
    27,094Inventories, net
    
    
    2,638
    
    
    
    6,004Due from related parties
    
    
    (14,873
    )
    
    
    (839
    )Due to related parties
    
    
    1,265
    
    
    
    434Prepaid expenses and other current assets
    
    
    133
    
    
    
    3,122Accounts payable
    
    
    6,944
    
    
    
    (8,656
    )Accrued liabilities
    
    
    3,521
    
    
    
    (2,281
    )Royalties payable
    
    
    (1,203
    )
    
    
    (1,109
    )Restructuring reserve
    
    
    
    
    
    
    576Income taxes payable
    
    
    431
    
    
    
    Income taxes receivable
    
    
    576
    
    
    
    1,403Other long-term liabilities
    
    
    (74
    )
    
    
    (56
    )Other assets
    
    
    21
    
    
    
    119Net cash used in continuing operations
    
    
    (16,316
    )
    
    
    (1,889
    )Net cash used in discontinued operations
    
    
    (1,139
    )
    
    
    (1,808
    )Net cash used in operating activities
    
    
    (17,455
    )
    
    
    (3,697
    )CASH FLOWS FROM INVESTING ACTIVITIES:Purchases of property and equipment
    
    
    (548
    )
    
    
    (839
    )Proceeds from sale of property and equipment
    
    
    7
    
    
    
    Net cash used in continuing operations
    
    
    (541
    )
    
    
    (839
    )Net cash used in discontinued operations
    
    
    (14
    )
    
    
    (5
    )Net cash used in investing activities
    
    
    (555
    )
    
    
    (844
    )CASH FLOWS FROM FINANCING ACTIVITIES:Borrowings under General Electric Capital Corporation Senior
Credit Facility, net
    
    
    9,654
    
    
    
    Proceeds from exercise of stock options
    
    
    
    
    
    
    30(Payments) under capitalized lease obligation
    
    
    
    
    
    
    (40
    )Net cash provided by (used in) financing activities
    
    
    9,654
    
    
    
    (10
    )Effect of exchange rates on cash
    
    
    (14
    )
    
    
    (36
    )Net decrease in cash
    
    
    (8,370
    )
    
    
    (4,587
    )Cash  beginning of fiscal period
    
    
    9,607
    
    
    
    10,433Cash  end of fiscal period
    
    $
    1,237
    
    
    $
    5,846SUPPLEMENTAL CASH FLOW INFORMATIONSUPPLEMENTAL DISCLOSURE OF NON-CASH
OPERATING ACTIVITIES:Cash paid for interest
    
    
    88
    
    
    
    52Income tax refunds
    
    
    397
    
    
    
    1,403
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ATARI, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF STOCKHOLDERS EQUITY
(in thousands)
 AccumulatedCommon
    
    
    
    
    
    
    Additional
    
    
    
    
    
    
    OtherStock
    
    
    Common
    
    
    Paid-In
    
    
    Accumulated
    
    
    ComprehensiveShares
    
    
    Stock
    
    
    Capital
    
    
    Deficit
    
    
    Income
    
    
    TotalBalance, April 1, 2004
    
    
    121,231
    
    
    $
    1,212
    
    
    $
    735,964
    
    
    $
    (625,436
    )
    
    $
    3,323
    
    
    $
    115,063Net income
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    5,692
    
    
    
    
    
    
    
    5,692Foreign currency translation adjustment
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    (56
    )
    
    
    (56
    )Cashless exercise of warrants
    
    
    44
    
    
    
    1
    
    
    
    (1
    )
    
    
    
    
    
    
    
    
    
    
    Recognition of cumulative translation
adjustment from
liquidation of a foreign subsidiary
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    (859
    )
    
    
    (859
    )Exercise of stock options
    
    
    21
    
    
    
    
    
    
    
    44
    
    
    
    
    
    
    
    
    
    
    
    44Issuance of stock options to related party
    
    
    
    
    
    
    
    
    
    
    48
    
    
    
    
    
    
    
    
    
    
    
    48Modification of stock options
    
    
    
    
    
    
    
    
    
    
    735
    
    
    
    
    
    
    
    
    
    
    
    735Balance, March 31, 2005
    
    
    121,296
    
    
    
    1,213
    
    
    
    736,790
    
    
    
    (619,744
    )
    
    
    2,408
    
    
    
    120,667Net loss
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    (32,817
    )
    
    
    
    
    
    
    (32,817
    )Foreign currency translation adjustment
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    66
    
    
    
    66Exercise of stock options
    
    
    11
    
    
    
    
    
    
    
    30
    
    
    
    
    
    
    
    
    
    
    
    30Modification of stock options
    
    
    
    
    
    
    
    
    
    
    267
    
    
    
    
    
    
    
    
    
    
    
    267Balance, June 30, 2005 (unaudited)
    
    
    121,307
    
    
    $
    1,213
    
    
    $
    737,087
    
    
    $
    (652,561
    )
    
    $
    2,474
    
    
    $
    88,213
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ATARI, INC. AND SUBSIDIARIES
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
(unaudited)
 NOTE 1  SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES AND OTHER MATTERS
 Nature of Business
   Key Challenges
     Basis of Presentation
  Page 7




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Principles of Consolidation
  Use of Estimates
  Revenue Recognition
   Research and Product Development Costs
   Licenses
  Goodwill and Other Intangible Assets
  Page 8




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Fair Values of Financial Instruments
  Long-Lived Assets
  Income Taxes
  Net Income (Loss) Per Share
  Three MonthsEndedJune 30,2004
    
    
    2005Basic and diluted earnings per share calculation:Income (loss) from continuing operations
    
    $
    14,074
    
    
    $
    (30,495
    )(Loss) from discontinued operations of Humongous Entertainment
    
    
    (2,018
    )
    
    
    (2,322
    )Net income (loss)
    
    $
    12,056
    
    
    $
    (32,817
    )Basic weighted average shares outstanding
    
    
    121,249
    
    
    
    121,299Dilutive potential common shares:Employee stock options and warrants
    
    
    85
    
    
    
    Diluted weighted average shares outstanding
    
    
    121,334
    
    
    
    121,299Basic and diluted income (loss) from continuing operations
per share
    
    $
    0.12
    
    
    $
    (0.25
    )Basic and diluted (loss) from discontinued operations of
Humongous
Entertainment per share
    
    
    (0.02
    )
    
    
    (0.02
    )Basic and diluted net income (loss) per share
    
    $
    0.10
    
    
    $
    (0.27
    )
 Page 9




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Stock-Based Compensation
   Three MonthsEndedJune 30,2004
    
    
    2005Income (loss) from continuing operations:Basic and diluted  as reported
    
    $
    14,074
    
    
    $
    (30,495
    )Plus: Fair value of stock-based employee
compensation expense, net of
related tax effects
    
    
    (1,259
    )
    
    
    (290
    )Basic and diluted  pro forma income (loss) from
continuing operations
    
    $
    12,815
    
    
    $
    (30,785
    )Income (loss) from continuing operations per share:Basic and diluted  as reported
    
    $
    0.12
    
    
    $
    (0.25
    )Basic and
diluted  pro forma
    
    $
    0.11
    
    
    $
    (0.25
    )Net income (loss):Basic and diluted  as reported
    
    $
    12,056
    
    
    $
    (32,817
    )Plus: Fair value of stock-based employee
compensation expense, net of
related tax effects
    
    
    (1,259
    )
    
    
    (290
    )Basic and diluted  pro forma net income (loss)
    
    $
    10,797
    
    
    $
    (33,107
    )Net income (loss) per share:Basic and diluted  as reported
    
    $
    0.10
    
    
    $
    (0.27
    )Basic and
diluted  pro forma
    
    $
    0.09
    
    
    $
    (0.27
    )
  Page 10




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Three MonthsEndedJune 30,2004
    
    
    2005Dividend yield
    
    
    0
    %
    
    
    0
    %Anticipated volatility
    
    
    120
    %
    
    
    289
    %Weighted average risk-free interest rate
    
    
    2.44
    %
    
    
    3.75
    %Expected lives
    
    4 years
    
    3 years
 Recent Accounting Pronouncements
       NOTE 2  RECEIVABLES, NET
  March 31,
    
    
    June 30,2005
    
    
    2005Trade accounts receivable
    
    $
    66,464
    
    
    $
    36,213Less: Allowances for bad debts, returns, price protection and other
customer promotional programs
    
    
    (24,285
    )
    
    
    (21,133
    )$
    42,179
    
    
    $
    15,080
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NOTE 3  INVENTORIES, NET
  March 31,
    
    
    June 30,2005
    
    
    2005Finished goods
    
    $
    23,991
    
    
    $
    19,951Return inventory
    
    
    3,379
    
    
    
    1,297Raw materials
    
    
    281
    
    
    
    30627,651
    
    
    
    21,554Less: Obsolescence reserve
    
    
    (2,442
    )
    
    
    (2,354
    )$
    25,209
    
    
    $
    19,200
 NOTE 4  PREPAID EXPENSES AND OTHER CURRENT ASSETS
  March 31,
    
    
    June 30,2005
    
    
    2005Licenses short-term
    
    $
    6,795
    
    
    $
    7,473Atari name license
    
    
    3,350
    
    
    
    2,535Prepaid
manufacturing expenses
    
    
    
    
    
    
    1,400Royalties receivable
    
    
    6,551
    
    
    
    1,231Prepaid insurance
    
    
    1,130
    
    
    
    928Other prepaid expenses and current assets
    
    
    3,170
    
    
    
    3,278$
    20,996
    
    
    $
    16,845
 NOTE 5  ACCRUED LIABILITIES
  March 31,
    
    
    June 30,2005
    
    
    2005Accrued distribution services
    
    $
    3,332
    
    
    $
    3,104Accrued salary and related costs
    
    
    3,296
    
    
    
    2,492Accrued third-party development expenses
    
    
    2,551
    
    
    
    2,344Accrued professional fees and other services
    
    
    1,418
    
    
    
    1,395Accrued advertising
    
    
    1,810
    
    
    
    1,137Accrued freight and handling fees
    
    
    1,141
    
    
    
    510Other
    
    
    3,066
    
    
    
    3,305$
    16,614
    
    
    $
    14,287
 NOTE 6  INCOME TAXES
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NOTE 7  RELATED PARTY TRANSACTIONS
  Three MonthsEndedJune 30,2004
    
    

2005Net revenues
    
    $
    108,124
    
    
    $
    24,199Related party activity:Royalty income
    
    
    14,770
    
    
    
    Sale of goods
    
    
    456
    
    
    
    102Quality and assurance testing and other services
    
    
    366
    
    
    
    367Total related party net revenues
    
    
    15,592
    
    
    
    469Cost of goods sold
    
    
    (50,864
    )
    
    
    (18,417
    )Related party activity:Royalty expense
    
    
    (5,822
    )
    
    
    (617
    )Total related party cost of goods sold
    
    
    (5,822
    )
    
    
    (617
    )Research and product development
    
    
    (15,511
    )
    
    
    (16,786
    )Related party activity:Development expense
    
    
    (3,398
    )
    
    
    (4,043
    )Other miscellaneous development expenses
    
    
    (30
    )
    
    
    (22
    )Total related party research and product development
    
    
    (3,428
    )
    
    
    (4,065
    )Selling and distribution expenses
    
    
    (16,707
    )
    
    
    (7,002
    )Related party activity:Miscellaneous purchase of services
    
    
    (14
    )
    
    
    (8
    )Tolal related party selling and distribution expenses
    
    
    (14
    )
    
    
    (8
    )General and administrative expenses
    
    
    (7,515
    )
    
    
    (7,944
    )Related party activity:Management fee revenue
    
    
    750

    
    
    
    750Management fee expense
    
    
    (750
    )
    
    
    (750
    )Office rental and other services
    
    
    (97
    )
    
    
    (93
    )Total related party general and administrative expenses
    
    
    (97
    )
    
    
    (93
    )Interest expense, net
    
    
    (174
    )
    
    
    (48
    )Related party activity:Interest income
    
    
    113
    
    
    
    Total related party interest expense, net
    
    
    113
    
    
    
    Loss from discontinued operations
    
    
    (2,018
    )
    
    
    (2,322
    )Related party activity:Royalty income from discontinued operations
    
    
    31
    
    
    
    10Total related party income from discontinued operations
    
    
    31
    
    
    
    10
 Royalty agreement
  Three MonthsEndedJune 30,2004
    
    
    2005Income (expense)Royalty income (1)
    
    $
    14,770
    
    
    $
    Royalty expense (2)
    
    
    (5,822
    )
    
    
    (617
    )Net royalty income (expense)
    
    $
    8,948
    
    
    $
    (617
    )
    March 31,
    
    
    June 30,2005
    
    
    2005Receivable (payable)Royalties receivable
    
    $
    1,673
    
    
    $
    1,060Royalties payable
    
    
    (6,001
    )
    
    
    (3,325
    )Net
royalties (payable)
    
    $
    (4,328
    )
    
    $
    (2,265
 )
 Development expenses
  Three MonthsEndedJune 30,2004
    
    
    2005Eden Studios SAS
    
    $
    605
    
    
    $
    1,730Paradigm Entertainment, Inc.
    
    
    2,793
    
    
    
    1,370Atari Melbourne House Pty Ltd
    
    
    
    
    
    
    943Total development expenses
    
    $
    3,398
    
    
    $
    4,043
  Page 13




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##### Table of Contents



IESA liquidity
  Civilization
     NOTE 8  COMMITMENTS AND CONTINGENCIES
 Litigation
  Page 14




---



##### Table of Contents



Knight Bridging Korea v. Infogrames, Inc. et al
       Atari, Inc., Atari Interactive, Inc., and Hasbro, Inc. v. Games, Inc., Roger W. Ach, II , and
Chicago West Pullman LLC
  Page 15




---



##### Table of Contents



inter alia
       Codemasters, Inc. v. Atari, Inc.
  Page 16




---



##### Table of Contents



NOTE 9  DEBT
 Credit Facilities
 HSBC Loan and Security Agreement
   GECC Senior Credit Facility
   NOTE 10  DISCONTINUED OPERATIONS
  Balance Sheets
  Page 17




---



##### Table of Contents



March 31, 2005
    
    
    June 30, 2005Assets:Cash
    
    $
    6
    
    
    $
    7Inventory, net
    
    
    1,104
    
    
    
    985Prepaid expenses and other
current assets
    
    
    259
    
    
    
    171Property and equipment, net
    
    
    452
    
    
    
    451Other non-current assets
    
    
    1,734
    
    
    
    1,734Total assets
    
    $
    3,555
    
    
    $
    3,348Liabilities:Accounts payable
    
    $
    31
    
    
    $
    45Accrued liabilities
    
    
    2,078
    
    
    
    1,972Restructuring reserve
    
    
    
    
    
    
    526Royalty payable
    
    
    386
    
    
    
    268Other non-current liabilities
    
    
    190
    
    
    
    176Total liabilities
    
    $
    2,685
    
    
    $
    2,987
 Restructuring
  Results of Operations
  Three MonthsEndedJune 30,2004
    
    
    2005Net revenues
    
    $
    2,172
    
    
    $
    262Loss from discontinued operations
    
    $
    (2,018
    )
    
    $
    (2,322
    )
  NOTE 11  RESTRUCTURING
  Page 18




---



##### Table of Contents



Three MonthsEndedJune 30, 2005Severance and retention expenses
    
    $
    1,324Modification of stock options
    
    
    267Lease related costs
    
    
    394Miscellaneous costs
    
    
    192Total
    
    $
    2,177
   Balance at
    
    
    
    
    
    
    
    
    
    
    Balance atMarch 31, 2004
    
    
    Accrued Amounts
    
    
    Cash payments
    
    
    March 31, 2005Severance and retention
    
    $
    
    
    
    $
    4,219
    
    
    $
    (2,414
    )
    
    $
    1,805Miscellaneous costs
    
    
    
    
    
    
    117
    
    
    
    (37
    )
    
    
    80Total
    
    $
    
    
    
    $
    4,336
    
    
    $
    (2,451
    )
    
    $
    1,885
 Balance at
    
    
    
    
    
    
    
    
    
    
    Balance atMarch 31, 2005
    
    
    Accrued Amounts
    
    
    Cash payments
    
    
    June 30, 2005Severance and retention
    
    $
    1,805
    
    
    $
    1,324
    
    
    $
    (1,043
    )
    
    $
    2,086Miscellaneous costs
    
    
    80
    
    
    
    586
    
    
    
    (238
    )
    
    
    428Total
    
    $
    1,885
    
    
    $
    1,910
    
    
    $
    (1,281
    )
    
    $
    2,514
  NOTE 12  OPERATIONS BY REPORTABLE SEGMENTS
      Page 19




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##### Table of Contents



Publishing
    
    
    Distribution
    
    
    Corporate
    
    
    TotalThree months ended June 30, 2004:Net revenues
    
    $
    97,491
    
    
    $
    10,633
    
    
    $
    
    
    
    $
    108,124Operating income (loss)
    
    
    20,053
    
    
    
    1,703
    
    
    
    (6,917
    )
    
    
    14,839Depreciation and amortization
    
    
    (869
    )
    
    
    
    
    
    
    (1,819
    )
    
    
    (2,688
    )Interest expense
    
    
    
    
    
    
    
    
    
    
    (174
    )
    
    
    (174
    )Three months ended June 30, 2005:Net revenues
    
    $
    12,759
    
    
    $
    11,440
    
    
    $
    
    
    
    $
    24,199Operating loss
    
    
    (18,927
    )
    
    
    (719
    )
    
    
    (10,810
    )
    
    
    (30,456
    )Depreciation and amortization
    
    
    (594
    )
    
    
    
    
    
    
    (1,735
    )
    
    
    (2,329
    )Interest expense
    
    
    
    
    
    
    
    
    
    
    (48
    )
    
    
    (48
    )
 NOTE 13  SUBSEQUENT EVENTS
  Sale of Humongous to Atari Interactive
  Payment of certain development liabilities via the issuance of common stock
  Settlement of certain liabilities via the issuance of common stock
  Page 20




---



##### 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 Form 10-Q 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 Form 10-K for the year ended March 31, 2005 on file
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
   Key Challenges
  Page 21




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##### Table of Contents



Pending Related Party Transactions Affecting Liquidity
 Sale of Humongous to Atari Interactive
  Payment of certain development liabilities via the issuance of common stock
  Settlement of certain liabilities via the issuance of common stock
  Potential Related Party Transactions Affecting Liquidity
  Industry
  Company Reorganization
  
    
    Restructuring
  
    
    Discontinued Operations
  Page 22




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##### Table of Contents



Three MonthsEndedJune 30,2004
    
    
    2005Net revenues
    
    $
    2,172
    
    
    $
    262Loss from discontinued operations
    
    $
    (2,018
    )
    
    $
    (2,322
    )
 Critical accounting policies
  Page 23




---



##### Table of Contents



Sales returns, price protection, other customer related allowances and allowance for doubtful
accounts
    Inventories
  Research and Product Development Costs
  Licenses
  Page 24




---



##### Table of Contents



Income taxes
   Related Party Transactions
  Results of operations
 Three
months ended June 30, 2005 (unaudited) versus the three months
ended June 30, 2004 (unaudited)
 Consolidated Statement of Operations (dollars in thousands):
 Three
    
    
    
    
    
    
    ThreeMonths
    
    
    % of
    
    
    Months
    
    
    % ofEnded
    
    
    Net
    
    
    Ended
    
    
    NetJune 30,
    
    
    Revenues
    
    
    June 30,
    
    
    Revenues
    
    
    Favorable/2004
    
    
    2004
    
    
    2005
    
    
    2005
    
    
    (Unfavorable)Net revenues
    
    $
    108,124
    
    
    
    100.0
    %
    
    $
    24,199
    
    
    
    100.0
    %
    
    $
    (83,925
    )Cost of goods sold
    
    
    50,864
    
    
    
    47.0
    %
    
    
    18,417
    
    
    
    76.1
    %
    
    
    32,447Gross profit
    
    
    57,260
    
    
    
    53.0
    %
    
    
    5,782
    
    
    
    23.9
    %
    
    
    (51,478
    )Research and product development
    
    
    15,511
    
    
    
    14.3
    %
    
    
    16,786
    
    
    
    69.4
    %
    
    
    (1,275
    )Selling and distribution expenses
    
    
    16,707
    
    
    
    15.5
    %
    
    
    7,002
    
    
    
    28.9
    %
    
    
    9,705General and administrative expenses
    
    
    7,515
    
    
    
    7.0
    %
    
    
    7,944
    
    
    
    32.9
    %
    
    
    (429
    )Restructuring expenses
    
    
    
    
    
    
    0.0
    %
    
    
    2,177
    
    
    
    9.0
    %
    
    
    (2,177
    )Depreciation and amortization
    
    
    2,688
    
    
    
    2.5
    %
    
    
    2,329
    
    
    
    9.6
    %
    
    
    359Operating income (loss)
    
    
    14,839
    
    
    
    13.7
    %
    
    
    (30,456
    )
    
    
    (125.9
    )%
    
    
    (45,295
    )Interest expense, net
    
    
    (174
    )
    
    
    (0.1
    )%
    
    
    (48
    )
    
    
    (0.1
    )%
    
    
    126Other income
    
    
    18
    
    
    
    0.0
    %
    
    
    9
    
    
    
    0.0
    %
    
    
    (10
    )Income (loss) before provision for income
taxes
    
    
    14,683
    
    
    
    13.6
    %
    
    
    (30,495
    )
    
    
    (126.0
    )%
    
    
    (45,178
    )Provision for income taxes
    
    
    609
    
    
    
    0.6
    %
    
    
    
    
    
    
    0.0
    %
    
    
    609Income (loss) from continuing operations
    
    
    14,074
    
    
    
    13.0
    %
    
    
    (30,495
    )
    
    
    (126.0
    )%
    
    
    (44,569
    )(Loss) from discontinued operations of
Humongous
Entertainment
    
    
    (2,018
    )
    
    
    (1.8
    )%
    
    
    (2,322
    )
    
    
    (9.6
    )%
    
    
    (304
    )Net income (loss)
    
    $
    12,056
    
    
    
    11.2
    %
    
    $
    (32,817
    )
    
    
    (135.6
    )%
    
    $
    (44,873
    )
 Page 25




---



##### Table of Contents



Net Revenues
 Net Revenues by Segment (in thousands):
 Three MonthsEndedJune 30,
    
    
    Favorable/2004
    
    
    2005
    
    
    (Unfavorable)Publishing
    
    $
    97,491
    
    
    $
    12,759
    
    
    $
    (84,732
    )Distribution
    
    
    10,633
    
    
    
    11,440
    
    
    
    807Total
    
    $
    108,124
    
    
    $
    24,199
    
    
    $
    (83,925
    )
  
    
    There were no major new releases during the three months ended June 30, 2005, the
primary reason for the significant shrink in revenues. We expect this trend to continue
through the second quarter due to product release shifts as part of our increased focus on
product quality. Publishing net revenues for the period included new
releases Roller Coaster Tycoon 3: Soaked! and Boiling Point, as well
as replenishment sales for various Dragon Ball Z titles and Roller
Coaster Tycoon titles launched in prior periods. In the prior comparable period, we recorded strong sales as we had several major
releases led by DRIV3R, which generated net U.S. revenues of $33.1 million on nearly 1.2
million units shipped. Other new releases in the prior quarter included Transformers
(PlayStation 2), Shadow Ops: Red Mercury(Xbox), Duel Masters: Sempai Legends(Game Boy
Advance), and Dragon Ball Z: Super Sonic Warriors(Game Boy Advance), which produced net
U.S. revenues aggregating approximately $18.6 million.
    
    Publishing net revenues for the three months ended
June 30, 2005 include virtually no international royalty income due to the lack of new releases during the quarter
and higher than expected international product returns. Publishing net revenue during the
three months ended June 30, 2004 included international royalties of $14.8 million earned
on IESAs international sales of our titles. These royalties included income of $13.4
million on approximately 1.5 million units from international sales
of DRIV3R, released internationally on June 22, 2004.
    
    During the three months ended June 30, 2004, we recognized deferred revenue of
approximately $4.0 million related to the release of DRIV3Ron Xbox paid by Microsoft. No
such revenues were recorded in the current period.
    
    The overall average sales price (ASP) of the publishing business has decreased by
30.9% over the prior year from $22.15 to $15.30 due to a significant shift in platform mix
toward a higher percentage mix of PC sales. The current year to date mix consisted of 39.5% console
product and 60.5% PC product. The prior years mix consisted of 84.8% console product and
15.2% PC product.
    
    Total distribution net revenues for the three months ended June 30, 2005 increased
approximately $0.8 million or 7.6% from the comparable 2004 period due to more new titles
launched in the current period by the third parties for whom we distribute.
 Page 26




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##### Table of Contents



Gross Profit
 Platform mix for the three months ended June 30, 2004 and 2005 is summarized below:
 Publishing Platform Mix2004
    
    
    2005PC
    
    
    15.2
    %
    
    
    60.5
    %PlayStation 2
    
    
    46.8
    %
    
    
    17.8
    %Game Cube
    
    
    1.9
    %
    
    
    10.3
    %Xbox
    
    
    23.0
    %
    
    
    5.7
    %Game Boy Advance
    
    
    11.7
    %
    
    
    4.7
    %Nintendo DS
    
    
    0.0
    %
    
    
    0.6
    %PlayStation
    
    
    1.3
    %
    
    
    0.4
    %Game Boy Color
    
    
    0.1
    %
    
    
    0.0
    %Total
    
    
    100.0
    %
    
    
    100.0
    %
  
    
    higher distribution net revenues (on which we incur higher costs) as a percentage of
total net revenues, which increased from 9.8% for the three months ended June 30, 2004 to
47.3% for the three months ended June 30, 2005, and
    
    the prior periods benefit of a significant amount of international royalty income,
which has a lower associated royalty expense, compared with the current periods margin
reflecting a nominal amount of international royalty income.
 Research and Product Development Expenses
  
    
    higher costs for current titles in development related to our
focus on product quality,
    
    increased spending for certain projects currently in
development at our related party development studios
due to our plan to improve product quality, offset by
    
    savings in salary and other related expenses, including bonus expense, due to reduced
headcount and open positions resulting from managements restructuring plan.
  Selling and Distribution Expenses
  
    
    a significant savings in the current period on advertising ($2.8 million in the current
period as compared to $10.1 million in the prior period) due to fewer new titles released
and stricter rationalization of advertising funds,
 Page 27




---



##### Table of Contents




    
    lower variable distribution costs, including freight, shipping and handling, on lower
sales,
    
    savings in salaries and related overhead costs due to reduced headcount and open
positions resulting from managements restructuring plan,
    
    bonus expense of $0.4 million in the prior period versus a nominal expense in the
current period, and
    
    reduced inventory warehousing costs due to increased inventory turn (5.5 in the first
quarter of fiscal 2005 versus 6.0 in the first quarter of fiscal 2006) and a reduced number
of active titles.
 General and Administrative Expenses
  
    
    the inclusion in the prior year of a $0.9 million translation gain from the liquidation
of a dormant foreign subsidiary and
    
    an increase of $0.4 million in professional fees including audit, legal, and
Sarbanes-Oxley compliance fees, offset by
    
    a reduction in bonus expense ($0.7 million in the prior period compared with $0.1
million in the current period).
 Restructuring Expenses
  Depreciation and Amortization
  Interest Expense, net
  Provision for Income Taxes
  (Loss) from Discontinued Operations of Humongous Entertainment
  Page 28




---



##### Table of Contents



Liquidity and Capital Resources
 Overview
     Cash Flows
 (in thousands)
 March 31,
    
    
    June 30,2005
    
    
    2005Cash
    
    $
    10,433
    
    
    $
    5,846Working Capital
    
    $
    35,651
    
    
    $
    3,889
 Three Months EndedJune 30,2004
    
    
    2005Cash used in operating activities
    
    $
    (17,455
    )
    
    $
    (3,697
    )Cash used in investing activities
    
    
    (555
    )
    
    
    (844
    )Cash provided by (used in) financing activities
    
    
    9,654
    
    
    
    (10
    )Effect of exchange rates on cash
    
    
    (14
    )
    
    
    (36
    )Net decrease in cash
    
    $
    (8,370
    )
    
    $
    (4,587
    )
 Page 29




---



##### Table of Contents



DRIV3R
      Credit Facilities
 HSBC Loan and Security Agreement
   Page 30




---



##### Table of Contents



GECC Senior Credit Facility
  Contractual Obligations
  Contractual ObligationsPayments Due by PeriodWithin 1 Year
    
    
    1-3 Years
    
    
    4-5 Years
    
    
    After 5 Years
    
    
    TotalRoyalty and license advances (1)
    
    $
    1,058
    
    
    $
    907
    
    
    $
    
    
    
    $
    
    
    
    $
    1,965Milestone payments (2)
    
    
    15,800
    
    
    
    7,425
    
    
    
    
    
    
    
    
    
    
    
    23,225Operating lease obligations (3)
    
    
    5,557
    
    
    
    6,040
    
    
    
    1,400
    
    
    
    117
    
    
    
    13,114Capital lease obligations (4)
    
    
    190
    
    
    
    190
    
    
    
    
    
    
    
    
    
    
    
    380Total
    
    $
    22,605
    
    
    $
    14,562
    
    
    $
    1,400
    
    
    $
    117
    
    
    $
    38,684
 (1)
    
    We have committed to pay advance payments under certain royalty and license
agreements. Most of the payments of these obligations are not 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 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 31




---



##### Table of Contents



Item 3. Quantitative and Qualitative Disclosures about Market Risk
  Foreign Currency Exchange Rates
  
 Item 4. Controls and Procedures
 Evaluation of Disclosure Controls and Procedures
 Page 32




---



##### Table of Contents



Changes in Internal Control Over Financial Reporting
 Page 33




---



##### Table of Contents



PART II. OTHER INFORMATION
 
 Item 1. Legal Proceedings
   Knight Bridging Korea v. Infogrames, Inc. et al
       Page 34




---



##### Table of Contents



Atari, Inc., Atari Interactive, Inc., and Hasbro, Inc. v. Games, Inc., Roger W. Ach, II , and
Chicago West Pullman LLC
  inter alia
      Page 35




---



##### Table of Contents



Codemasters, Inc. v. Atari, Inc.
  
 Item 5.
Other Information
  
 Item 6. Exhibits
 (a)
    
    Exhibits ++31.1
    
    Chief Executive Officer Certification pursuant to Section 302 of the Sarbanes-Oxley Act of 2002.31.2
    
    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
    
    Chief Financial Officer Certification pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.
 
 *
    
    Exhibit indicated with an * symbol is a management or compensatory plan arrangement filed
pursuant to Item 6(a) of Form 10-Q.++
    
    Certain schedules and exhibits to the documents listed in this index are not being filed
herewith or have not been previously 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 36




---



##### Table of Contents



SIGNATURE
  ATARI, INC.By:

/s/
Diane Price BakerDiane Price BakerExecutive Vice-President and Chief Financial Officer
(Principal Financial Officer and Duly Authorized Officer)  Page 37




---



##### 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
    
    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
    
    Chief Financial Officer Certification pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.
 Page 38