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Multimedia Games (NASDAQ:MGAM)

Q4 2007 Earnings Call

December 11, 20079:00 am ET


Clifton E. Lind- President and Chief Executive Officer

Randy S. Cieslewicz - CFO; Vice President Tax, Budget,Corporate Compliance

Shannon Brooks - Vice President and Controller

Howard Chalmers - Senior Vice President- Planning and CorporateCommunications


Ryan Worst - Brean Murray

Barry Kaplan - Maple Tree Capital


Good day, everyone and welcome to theMultimedia Games fourth quarter 2007 conference call and webcast. This call isbeing recorded.

At this time for opening remarks and introductions I wouldlike to turn the call over to Multimedia’s Chief Executive Officer, Mr. CliftonLind. Please go ahead, sir.

Clifton Lind

Thank you, operator. I want to thank everyone for joining uson the call. With me today are Randy Cieslewicz, Shannon Brooks and HowardChalmers. The Fiscal 2007 Fourth Quarter Operating results are reviewed intoday’s news announcement and Randy will provide additional financial detaillater on the call.

Q4 FY ’07 revenues were 31.2 million. EBITDA was 16.7million up from 15.6 million last year. And we reported net income ofapproximately 1.4 million representing diluted earnings per share of $0.05.This compares to net income of approximately .1 million of break even for the Q4FY ’06 period.

These Q4 FY ’07 Operating Results reflect modest quarterlysequential improvements in revenue and net income. This included severalnon-recurring items that in the aggregate impacted income by .8 million or$0.03 per diluted share.

During this morning’s call we will briefly review progressregarding our FY ’07 priorities as well as improvements in a number of ourmarkets which we believe positions Multimedia for upcoming growth. As always weconclude by taking questions from the analysts and the investors.

Before we continue I’m going to ask Howard Chalmers, SeniorVice President for Corporate Communications to review the Safe Harbor language for us. Howard.

Howard Chalmers

Thanks, Cliff. And I’d like to remind everyone that today’scall and simultaneous webcast may include forward-looking statements within themeaning of the Applicable Securities Law. These statements represent ourjudgment concerning the future and are subject to the risks and uncertaintiesthat could cause our actual operating results and financial condition to differmaterially.

Please refer to therisk factors section of our recent SEC filing. Today’s call and webcast mayinclude non-GAAP financial measures within themeaning of SEC regulation ‘G’. Areconciliation of allnon-GAAP financial measures to themost directly comparable financial measure calculated and presented inaccordance with GAAP can befound on our website www.multimediagames.comin theInvestor Relations Section.

I now return the call back to Clifton.

Clifton Lind

Thank you, Howard.

Our operating goals for Fiscal 2007 included the following:converting the significant portion of our installed base in our largest marketto one cent stand-alone games; supporting the growth of customer operations inMexico; developing new products and services for the Washington state marketthat would position us to capitalize on new unit and replacement marketopportunities; developing a new palette of products, services and games toaddress additional Class III market opportunities; completing the design andengineering phases for our new line of proprietary gaming cabinets; anddesigning the new line of mechanical real products that we will offer in all ofour markets.

With our successful execution of these initiatives we areconfident that Multimedia is positioned to achieve growth in FY ’08 from bothserving our current markets and entering new markets with new products.

In Oklahoma,we’ve been continuing to convert our installed base from multi-test Class IIand server-based compact games to stand-alone units. As of September 30, 2007these stand-aloneunits accounted for more than 57% of our total installed base in Oklahoma.And as of November 30, 2007these games accounted for roughly 66% of the installed base.

The higher level of player accesses for these stand-aloneunits has contributed to offsetting the impact of reductions in our revenueshare percentage which has accompanied this shift from Class II to Class IIIgames. This also is helping to increase the revenue from this market on aquarterly sequential basis.

Currently the majority of our One-touch units in Oklahomaare third-party vendor’s games. However, recently we began placing our firstproprietary Class III games on our new proprietary M-game cabinets in Oklahoma.And we now have approximately 70 of our proprietary stand-alone games deployedin that market. The near-term ramp-up in game themes, approval and deploymentin Oklahoma will provide afoundation for our move into several other traditional Class III markets.

While we are still early in the roll-out of our stand-aloneproducts we are encouraged by the initial performance of our proprietaryofferings as the represent a positive compliment to the mix of stand-aloneunits that we have deployed in Oklahomatoday. They are expected to help us grow our share of the gaming floor in thisimportant market. We can manufacture and offer these proprietary cabinets andgame themes more economically and at a significant savings over purchasingthird-party units.

In FY ’07 we expanded our agreement with our largestcustomer in Oklahoma bycommitting to provide approximately $6 million of the funding for the expansionof their Southern Oklahoma facility. When this expandedproperty begins operation in mid-calendar 2008, Multimedia will be in aposition to begin placing approximately 14,000 new units at this property. Allof these units are expected to be operational around the end of our fiscal FY’08 with more than 60% of them expected to come online in Q3 of FY ’08.

Combined with the positive initial response to ourstand-alone units in Oklahoma,this agreement positions us to grow our installed base in revenues in thismarket. Also with the completion of our share of the funding of the commitmentof this expansion we forecast significant free cash-flow generation beginningin Q3.

Our current installed base inMexico is nowabout 3,000 units at12 properties. This includes 2,854 units at11 properties operated by our initial customer inMexico and 200units at on propertybeing operated by anew second customer inMexico withwhom we entered into anagreement early in Q1FY ’08. For FY ’08 we will continue to support therollout of new planned facilities by both of our customers. We will alsosupport their efforts to drive Hope for Day through marketing and promotion programs.

Last month in Washington State we entered into two contractsfor the sale or refurbishment of player terminals. The first agreement was forthe sale of 300 units from existing Multimedia inventory and the upgrade of 220existing units at the customer’s property. The second was for the sale of 50units also from existing inventory. These transactions represent our initial successin addressing the new replacement and new unit market opportunities in thatstate. We believe the Washington Statemarket represents a meaningful channel for growth that will accelerate as wemove through FY ’08.

In New Yorkthere are currently slightly more than 13,000 BLTs installed at race tracksthroughout the state, all of which are operating on our central system. Revenuecontinues to grow on a monthly sequential basis and we are now operating atbreak-even in this market. The big leverage for our operations in New York will be when Aqueduct comes online. And while Ido not have any new information with regard to the timing of this opportunitythere does seem to be heightened interest from all stake holders in the stateto resolve the issues that have delayed the introduction of VLTs at Aqueduct.

Later this fiscal year we anticipate the deployment of ClassIII Casino Commander Game Management System that will provide operators in the ClassIII markets the features and functionality that we have previously demonstratedand deployed for server-based and downloadable gaming and charity Class III andthe Mexico markets. Our Casino Commander system has new features and isdeployed in seven domestic and international casinos.

In summary for FY’08 we expect revenue and unit growth inthe Oklahoma, Mexicoand Washington Statemarkets while also growing our presence in new domestic Class III, charitybingo and in international markets.

Randy Cieslewicz our CFO will now provide additionalinsights on the Q3 FY ’07 Operating results after which I’ll briefly reviewsome of our new products that we have demonstrated at G2E and then we’ll openup the call for your questions. Randy.

Randy S. Cieslewicz

Thanks, Clifton.

As noted in our press release this morning total revenue forthe September 2007 quarter declined on a year-over-year basis to 31.2 million.Yet on a quarterly sequential basis revenues increased 1%. The year-over-yearrevenue decline is primarily attributable to the removal early in the fiscal2007 third quarter of 565 Class II units from a high earning facility inSouthern Oklahoma, in order to facilitate the expansion of that property. Whenthat expansion is completed Multimedia will have approximately 2,400 of the6,000 units placed there.

Notwithstanding the removal of the Class II units revenuesgenerated from Oklahoma were 15.2million for the September2007 quarter versus 17.8 million in the June 2007quarter and 18.4 million in the September 2006 quarter. Revenues from Mexicowere 1.9 million for the September 2007 quarter versus 1.2 million in the June2007 quarter.

Prior to the contract right accretion adjustment of 739,000in Q4 net revenue per day for Oklahoma compact units decreased slightly on a quarterly sequential basis from $33.56 perday to $32.83 per day, or 2%. Class II revenues continue to be impacted by theproduction and the average installed player terminals as the majority of ourterminals in the market have been converted to one-touch stand-alone compactgames. However Class II hold per day increased 7% on a quarterly sequentialbasis reflecting the conversion of lowering performing units.

The quarter Oklahomacompact and Class II revenues for the September 2007 quarter reflect accretionof contract rights by each product line’s revenue. Our prior quarterly numbersreflect this accretion adjustment against Class II revenues only. Please referto the table in the press release regarding this reclassification and if thereare any questions in this I can address them in the upcoming Q&A session.

In future periods we will allocate the accretion of contractrights for development agreements by each product line’s revenue.

SG&A expenses of 15.6 million for the September 2007quarter reflect a modest quarterly sequential increase. In a year-over-yearbasis SG&A expenses decreased approximately 2.1 million primarily due toreduced employee cost and shared compensation expense. We expect SG&A toincrease to the 16 to 16.5 million range in Q1 due to the G2E Trade Showrelated expenses incurred in Q1.

Depreciation and amortization expense of 14 milliondecreased 800,000 on aquarterly sequential basis. Thedecrease indepreciation and amortization was primarily due to areduction in networkvalue of contract rights that were associated with the560 Class II removals earlier inthe fiscal year. Weexpect depreciation and amortization expense to decrease by 1.2 million inQ1 compared to Q4 levels. Theprojected decrease indepreciation and amortization will primarily reflect approximately 1,400 Californiaunits rolling off thedepreciation schedule.

Our expected Q1 FY ’08 capital expenditures of 10 to 12million include purchases of approximately 250 third-party stand-alone units,component pats for in-game cabinets and maintenance CapEx, including CapExassociated with therefurbishment of player terminals that arebeing deployed inMexico.

Our CapEx numbers inthe next severalquarters will bedependant on thetiming of purchases related to thedevelopment agreement expansion inSouthern Oklahoma. Following thecompletion if this expansion and thecompletion of our converging thePlatt Street units inOklahoma we expect our CapExnumbers to decline significantly.

We had a total of 400 third party stand-alone units thathave been purchased but not yet deployed as of September 30, 137 of which werepurchased on the last day of the quarterand as I just mentioned, we will purchase an additional 250 units by the end ofDecember.

Our CapEx for Q4 was higher than expected due to thepurchase of seven stand-alone third-party units very late inthe quarter plushigher than expected purchases of component parts for in-game cabinets.

Net income in Q4 includes interest income primarily relatedto imputed interest from capital advances associated with our developmentagreements of approximately 700,000. This compares to imputed interest incomeof 1.2 million in the year ago period and 550,000 in the June 2007 quarter. Weexpect to record imputed interest income of approximately 800,000 in Q1.

We are calculating imputed interest on interest-free loansto calculate the contract right or discount on our development agreementreceivables. We calculate the discount on each interest-free note receivablebased on our cost per capital. The discount is then booked to contract rightsand is amortized against revenue for the life of the agreement.

Income taxes benefited from non-recurring items ofapproximately 800,000. We also expect to benefit in fiscal 2008 income taxesrelated to our R&B credit claims of prior years. In addition we’ve enteredinto an agreement with the IRS to settle our ongoing audit for a cost ofapproximately 67,000 plus interest.

Loads from operations in the September 2007 quarter were 7.1million compared to 4.7 million in Q3 and approximately 11 million in Q2. Iremind you that the lower than normal level of cash flow from operations in Q3were primarily due to the timing of accounts payable payments for Class IIIpurchases.

Cash used by investing activities of 18 million includes16.3 million of CapEx and 16 million inadvances on new development agreement which was offset primarily by developmentagreement repayments of 14.9 million. Of the14.9 million received approximately 12.2 was related to thecollection of notes receivable and 2.7 was related to modifications on oursmall development arrangements with our largest customer.

As previously disclosed we committed 66 million to facilityexpansion at Southern Oklahoma. We funded 24.8 millionof this amount as of September 30, 2007 and will continue to plan approximately 1.2 million perweek, until our commitment is fulfilled in May, 2008. Our fundings in Q1 willapproximate 20 million which will leave us with approximately 21.2 million offundings which we will make between January and May 2008. With respect todevelopment agreement receipts I expect we will receive approximately 5 millionin repayments from development agreements in the first quarter.

During Q4 FY ’07 we have net borrowings under our new creditfacility of approximately 38.9 million primarily reflecting completion early inthe quarter of the 25 million modified Dutch auction tender offer and we hadtotal outstanding borrowings under our new credit facility of approximately 82million at the end of the fiscal year. In early October we admitted our creditfacility into two components, a $75 million term loan and a $75 millionrevolver. As of today we have approximately 88 million outstanding.

Reflecting a high level of outstanding borrowings in highergrid pricing we expect Q1 interest expense to increase by approximately 300,000over Q4.

I will now turn the call back over to Clifton.

Clifton Lind

Thank you, Randy.

As we’ve already mentioned in this morning’s call we havemade progress in FY ’07 regarding the number of initiatives that address bothour current and potential future markets. We believe that in FY ’08 we willbegin to see tangible economic evidence of our success in the form of improvingoperator results.

This year’s G2E Trade Show represented a major milestone forMultimedia Games. In 2002 we began a transition to become a full-service gamingcompany. G2e ’07 signaled the completion of a five year journey to change ourcompany from that of a niche Class II server based bingo provider for NativeAmerica tribes to a full-service gaming company. At G2E we demonstrated to ourcustomers that we are ready to compete for the first time with a full paletteof products to offer to the gaming community.

Our work in FY ’07 created the foundation that should allowFY ’08 to be a great year for us. Our new products are targeted at serving thestand-alone gaming market while we continue to deliver technically advancedofferings for the server-based market. Over the next few weeks we will turn allstand-alone units in Rhode Island.And in Q3 FY ’08 we expect to deploy additional stand-alone units in Class IIImarkets we have not previously served.

In addition to introducing more than 40 new game themes weare particularly proud of our new entry into the community games category. Ournew titles Bonus Revolutions, Sport of Teams and Emperor’s Fortunes each linkmultiple players in bonus round activities via side bets. Bonus Revolutionrepresents a unique breakthrough among community bonus games because first, itsshared bonusing feature can be adding to both new and existing titles, secondeach machine displays a portion of the synchronized animation creating avisually impressive player experience. And finally it’s scalable to suit theneeds of different size casino floors, from a single bank of machines tohundreds of units.

We’ve also made great strides in hardware development overthe last two years and we will soon be offering a complete new line of our ownproprietary in-game cabinets in six configurations. This provides us with acomplete selection of cabinets to meet the needs of all types of operators andin a variety of facilities.

In the gaming systems arena in addition to our CasinoCommander system mentioned earlier in-game casino management system is a fullfeatured system that will be further upgraded this year and marketed morebroadly to charity and gaming operators, international and bingo markets inboth Class II and Class III Casinos.

We also introduced a new currency system at G2E and have anadditional currency system that is about to come out of the lab so we will beable to interface with any casino’s currency system supporting bothserver-based units and stand-alone offerings.

We believe our new products will lead us into new markets inaddition to enabling us to provide additional products and services to existingmarkets. We will continue to focus on improving the yield of our installedbased of 14,000 recurring revenue units. And we believe we have the productsand tools we need to significantly move the needle in the average on the averagehold per day in each market.

In addition we are going to increase our marketing businessdevelopment and sales activities in all markets and we’ll be gearing up oursales staff to do just that. We hope it’s evident to you that we’re seriousabout Multimedia’s future role in the gaming industry, and we believe we havethe basis for our growing optimism and confidence.

Operator, let’s open up the floor for questions.



Thank you. [Operator instructions] We’ll take our firstquestion from Ryan Worst from Brean Murray.

Ryan Worst - Brean Murray

Thanks, good morning, guys. Just, Clifton,can you talk about the outlook for converting the rest of the game base or as muchas you’re planning on converting in Oklahoma?It seems like there’s about 2,000 Class II and over-compacted games still inthe market.

Clifton Lind

Certainly, Ryan, that is correct and we intend throughout FY’08 to move ahead smartly and systematically changing out the majority of thoseremaining units. We still have some location where our Class II games areearning as much as any of the Class III games that we offer. So our urgency topswitch those out in the short-term is somewhat relieved. In other casinos we’regoing to move ahead smartly and use a large number of our own new proprietarythemes as well as third-party themes to complete the transition.

This week we’re scheduled to be a very large week forconversions for us, but as you know Oklahomais in the midst of a significant ice storm right now. All of those have beendelayed. The closer we get to the Christmas holidays the harder it is toschedule time to do conversions. We may have put off a number of scheduledconversions until the first week in January because of this weather.

In any event, we’re going to move ahead smartly and thinkabout the end of FY ’08. All of the units in Oklahomathat we intend to convert from Class II will be converted.

Ryan Worst - Brean Murray

Okay, and then could you talk about the plans of yourpartner in Mexicoas far as openings?

Clifton Lind

I think that they’ve gotten into a rhythm. We’re about 10sites a year from our largest customer is what they’re publicly discussing thatthey can easily achieve. What we have learned is that even though there may bemore than that on the schedule that that is what they can accomplish. We intendto support whatever they do. I think that’s a reasonable number to assume thatthey will proceed at for the immediate future.

Ryan Worst - Brean Murray

There hasn’t been a change in their aggressiveness since thetax rate increase?

Clifton Lind

No, no change whatsoever. As you know we talk to them on adaily basis and they remain committed and the only changes have to do with theconstruction schedule. As you know we have a long list of planned openings thatgo beyond our FY ’08 period.

Ryan Worst - Brean Murray

Okay, then just one last question. You talked about someClass II placements in Fiscal Q3 ’08. Could you expand on that or are theygoing to be for sale units or revenue share or are the community gamingproducts?

Clifton Lind

I think you’re referring to my comments about new markets. Ithink they will certainly bea combination ofrevenue share and some for sale. That of course will bein addition to allthe new Class IIIunits that we plan to place, and theunits that we plan to sell inthe market.

Ryan Worst - Brean Murray

Okay, those Class III markets are they travel casinos or arethey more commercial?

Clifton Lind

Now that we’ve gotten the layouts with our Rhode Island machines, we’re now in the layouts for our GLI11 units and we’ll soon be in the layouts for the GLI Twin units which areaimed at the broader Class III market. We’ll certainly start with NativeAmerica tribes that we have done business with for many years for our firstClass III placements, that’s done in Washington State, Oklahoma and Rhode Island.

Ryan Worst - Brean Murray

Okay, great, thanks, Clifton.

Clifton Lind

Thank you.


Thank you. [Operator instructions] We’ll move next to BarryKaplan of Maple Tree Capital.

Barry Kaplan – MapleTree Capital

Good morning. My question is about the balance sheet. You’vegot roughly 49 million in notes receivable on the balance sheet. Can you talkabout as you go forward, in terms of the money you’re going to put out for thedevelopment agreements in Oklahoma,minus what you’re going to be getting back, kind of where that number peaks at?I guess philosophically is there any reason why we then shouldn’t think aboutthat as basically an offset of the company on the balance sheet. It’s notreally included as an output when they’re calculating the enterprise value ofthe company.

And then similarly, your debt which was about 74 million,where do you think that’s going to peak out? Will it probably be the middle offiscal’08?

Randy S. Cieslewicz

The balance of $49 million is all related to basically thedevelopment agreements. We will have the federal fund about $20 million in Q1and about $21.2 million in Q2 and Q3. That will put it about 90 less thereceivable portion of that. Assuming we receive as I said 5 million thisquarter, the timing is always a little bit iffy in terms of payment, becauseit’s based on the operational results of the facilities. But let’s assume thatwe get conservatively get 10 million in receivables to 15 million, when we’redone with the Southern Oklahoma facility it would besomewhere between 70 an 80, where we peak out.

Of course the line of credit is pretty equivalent to thatnumber receivables with the exception of the tender offer that we did. Thatincreased it by about 25 million. I would assume right now that’s it’s going topeak out about 25 million dollars higher than that peak that’s in ourreceivable. If we said 80, it would be about 105 to 110, theoretically.

Clifton Lind

This is Clifton,as far as the comment about enterprise value, I think a fair view is to takethe view that we have virtually no debt because certainly all of thatreceivable in reality will come in in a reasonably short period of time and beavailable to pay down that debt. I think you are correct I think looking at theenterprise value; we’re not giving the credit for that that we should be.

Randy S. Cieslewicz

The other thing I would add is we will purchase a number ofunits for the expansion so that may also impact the payable in the short-termso that may increase somewhat over that 110 level but not much beyond that.

Barry Kaplan – MapleTree Capital

Thank you.


And it appears we have no further questions at this time.I’d like to turn the conference back over for any additional or closingremarks.

Clifton Lind

Thank you, Operator. And I’d like to thank everyone forjoining us on this call. Finally I’d like to thank our talented and loyal staffwho has worked so hard to build the future of this company. I look forward tospeaking with you again when we report our Q1 FY ’08 results early next year.Have a good day.


Thank you and once again, Ladies and Gentlemen that willconclude today’s conference. We thank you for your participation. And you maydisconnect at this time.

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