Pinnacle Entertainment 10-Q 2012
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
(Amendment No. 1)
For the quarterly period ended September 30, 2011
For the transition period from to
Commission file number: 001-13641
PINNACLE ENTERTAINMENT, INC.
(Exact name of registrant as specified in its charter)
8918 Spanish Ridge Avenue
Las Vegas, NV 89148
(Address of principal executive offices) (Zip Code)
(Registrant’s telephone number, including area code)
(Former name, former address and former fiscal year, if changed since last report)
Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. YES x NO o
Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files). YES x NO o
Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, or a smaller reporting company. See the definitions of “large accelerated filer,” “accelerated filer” and “smaller reporting company” in Rule 12b-2 of the Exchange Act.
Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act). YES o NO x
As of the close of business on November 4, 2011, the number of outstanding shares of the registrant’s common stock was 62,134,794.
This Amendment No. 1 to the Quarterly Report on Form 10-Q (the “Amendment No. 1”) of Pinnacle Entertainment, Inc. (the “Company”) for the three and nine months ended September 30, 2011, originally filed with the Securities and Exchange Commission (the “SEC”) on November 9, 2011 (the “Form 10-Q”), is being filed to correct clerical errors in the certifications which were included in Exhibit 32 to the Form 10-Q pursuant to Section 906 of the Sarbanes-Oxley Act of 2002. As a result, the Company has included new certifications as reflected in Exhibits 31.1, 31.2 and 32. No other changes have been made to the Form 10-Q.
Except as set forth above, this Amendment No. 1 does not modify or update any disclosures in the Form 10-Q. While the Company is filing this Amendment No. 1 only to include new certifications in Exhibits 31.1., 31.2 and 32, for convenience and ease of reference, the Company is filing the entire Form 10-Q, including all exhibits. Accordingly, this Amendment No. 1 should be read in conjunction with the Company's other filings made with the SEC subsequent to the filing of the Form 10-Q, including any amendments made to those filings, as information in such filings may update or supersede certain information contained in those filings as well as this Amendment No. 1 and the Form 10-Q.
PINNACLE ENTERTAINMENT, INC.
TABLE OF CONTENTS
Item 1. Financial Statements
PINNACLE ENTERTAINMENT, INC.
CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS
(amounts in thousands, except per share data)
See accompanying notes to the unaudited Condensed Consolidated Financial Statements.
PINNACLE ENTERTAINMENT, INC.
CONDENSED CONSOLIDATED BALANCE SHEETS
(amounts in thousands, except share data)
See accompanying notes to the unaudited Condensed Consolidated Financial Statements
PINNACLE ENTERTAINMENT, INC.
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
(amounts in thousands)
See accompanying notes to the unaudited Condensed Consolidated Financial Statements
PINNACLE ENTERTAINMENT, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
Note 1—Summary of Significant Accounting Policies
Basis of Presentation and Organization: Pinnacle Entertainment, Inc. (“Pinnacle”) is an owner, operator and developer of casinos and related hospitality and entertainment facilities. We operate casinos located in southeastern Indiana (Belterra Casino Resort); Lake Charles, New Orleans and Bossier City, Louisiana (L’Auberge Lake Charles, Boomtown New Orleans and Boomtown Bossier City, respectively) and St. Louis, Missouri (River City Casino and Lumière Place Casino and Hotels). In addition, we own and operate a racetrack facility in southeast Cincinnati, Ohio (River Downs), which was purchased in January 2011 for approximately $45.2 million. We view each property as an operating segment, with the exception of our properties located in St. Louis, Missouri, which are aggregated into the “St. Louis” reporting segment. References in these footnotes to “Pinnacle,” the “Company,” “we,” “our” or “us” refer to Pinnacle Entertainment, Inc. and its subsidiaries, except where stated or the context otherwise indicates.
We have classified certain of our assets and liabilities as held for sale in our unaudited Condensed Consolidated Balance Sheets and include the related results of operations in discontinued operations. As of September 30, 2011, our Boomtown Reno property is considered held for sale and the related results of operations have been reclassified as discontinued operations. For further information, see Note 7, Discontinued Operations. Our unaudited Condensed Consolidated Statements of Cash Flows have not been adjusted for discontinued operations.
We are also developing a casino-hotel in Baton Rouge, Louisiana, which management currently expects will open in the summer of 2012. However, the ultimate opening date is dependent upon the Mississippi River water levels and obtaining regulatory approvals, among other factors.
On August 8, 2011, we closed on our agreement to acquire a 26% equity interest in Asian Coast Development (Canada) Ltd, a British Columbia corporation (“ACDL”) and secured the rights to manage a resort to be built in Vietnam, for a total purchase price of $95 million. For further details, see Note 6, Equity Method Investments.
Principles of Consolidation: The accompanying unaudited Condensed Consolidated Financial Statements have been prepared in accordance with the instructions of the Securities and Exchange Commission (“SEC”) to the Quarterly Report on Form 10-Q and, therefore, do not include all information and notes necessary for complete financial statements in conformity with the instructions for generally accepted accounting principles in the United States (“GAAP”). The results for the periods indicated are unaudited, but reflect all adjustments that management considers necessary for a fair presentation of operating results. The unaudited Condensed Consolidated Financial Statements include the accounts of Pinnacle Entertainment, Inc. and its subsidiaries. Investments in unconsolidated affiliates which are 50% or less owned are accounted for under the equity method. All significant intercompany accounts and transactions have been eliminated in consolidation.
The results of operations for interim periods are not indicative of a full year of operations. These unaudited Condensed Consolidated Financial Statements and notes thereto should be read in conjunction with the Consolidated Financial Statements and notes thereto included in our Annual Report on Form 10-K filed with the SEC for the fiscal year ended December 31, 2010.
Use of Estimates: The preparation of unaudited Condensed Consolidated Financial Statements in conformity with GAAP requires management to make estimates and assumptions that affect (i) the reported amounts of assets and liabilities, (ii) the disclosure of contingent assets and liabilities at the date of the consolidated financial statements, and (iii) the reported amounts of revenues and expenses during the reporting period. Estimates used by us include, among other things, the estimated useful lives for depreciable and amortizable assets, the estimated allowance for doubtful accounts receivable, estimated income tax provisions, the evaluation of the future realization of deferred tax assets, determining the adequacy of reserves for self-insured liabilities and our mychoice customer rewards program, estimated cash flows in assessing the recoverability of long-lived assets, asset impairments, goodwill and intangible assets, contingencies and litigation, and estimates of the forfeiture rate and expected life of share-based awards and stock price volatility when computing share-based compensation expense. Actual results may differ from those estimates.
Fair Value: Fair value measurements affect our accounting and impairment assessments of our long-lived assets, investments in unconsolidated affiliates, assets acquired in an acquisition, goodwill, and other intangible assets. Fair value measurements also affect our accounting for certain financial assets and liabilities. Fair value is defined as the price that would be received to sell an asset or paid to transfer a liability in an orderly transaction between market participants at the measurement date and is measured according to a hierarchy that includes: "Level 1" inputs, such as quoted prices in an active market for identical assets or liabilities; "Level 2" inputs, which are observable inputs for similar assets; or "Level 3" inputs,
which are unobservable inputs.
We measure our liability for deferred compensation on a recurring basis. As of September 30, 2011, our liability for deferred compensation had a balance and fair value of $1.4 million and was valued using Level 1 inputs.
During the third quarter of 2011, certain of our assets related to our Boomtown Reno operations, included in assets of discontinued operations held for sale, were measured on a non-recurring basis in connection with our impairment analysis, which is further discussed in Note 7, Discontinued Operations. See table below for values.
Land, Buildings, Riverboats and Equipment: Land, buildings, riverboats and equipment are stated at cost. Land includes land not currently being used in our operations, which totaled $29.2 million and $34.9 million at September 30, 2011 and December 31, 2010, respectively. We capitalize the costs of improvements that extend the life of the asset. Construction in progress at September 30, 2011 relates primarily to our Baton Rouge project. Interest expense is capitalized on internally constructed assets at our overall weighted average cost of borrowing.
We expense maintenance and repair costs as incurred. Gains or losses on the dispositions of land, buildings, riverboats and equipment are included in the determination of income.
The mychoice Customer Loyalty Program: Our customer loyalty program, mychoice, offers incentives to customers who gamble at certain of our casinos. Under the program, customers are able to accumulate reward credits that they may redeem at their discretion under the terms of the program. Reward credits are redeemable for free credit that must be replayed in the slot machine, at table games, cash back, or benefits such as shopping, dining or hotel stays. The reward credit balance will be forfeited if the customer does not earn any reward credits over the prior six-month period. We accrue a liability for the estimated cost associated with reward credits as the benefits are earned in accordance with US GAAP. To arrive at the estimated cost associated with reward credits, estimates and assumptions are made regarding incremental marginal costs of the benefits, breakage rates, and the mix of goods and services for which reward credits will be redeemed. We use historical data to assist in the determination of estimated accruals. At September 30, 2011 and December 31, 2010, we had accrued $5.8 million and $9.6 million, respectively, for the estimated cost of mychoice credit redemptions. Such amounts are included in "Other accrued liabilities" in our unaudited Condensed Consolidated Balance Sheets.
In addition, customers earn a tier status based on their level of play. As customers earn a tier status, they become eligible to receive certain benefits associated with the various tier levels. We accrue a liability for the estimated costs associated with providing benefits for these tiers by using assumptions and estimates regarding breakage rates and costs of providing the benefits as the benefits are earned in accordance with US GAAP. At September 30, 2011, we have accrued $5.7 million for the estimated cost of these benefits. Such amount is included in "Other accrued liabilities" in our unaudited Condensed Consolidated Balance Sheets.
Goodwill and Other Intangible Assets: Goodwill and other indefinite-lived intangible assets are subject to an annual assessment for impairment during the fourth quarter, or more frequently if there are indications of possible impairment, by applying a fair-value-based test. There were no impairments to goodwill during the three and nine months ended September 30, 2011 and 2010, respectively. In January 2011, we recorded goodwill totaling $35.8 million related to the purchase of River Downs.
Gaming Taxes: We are subject to taxes based on gross gaming revenues in the jurisdictions in which we operate, subject to applicable jurisdictional adjustments. These gaming taxes are an assessment on our gaming revenues and are recorded as a gaming expense in the unaudited Condensed Consolidated Statements of Operations.
Pre-opening and Development Costs: Pre-opening and development costs are expensed as incurred. For the three and nine months ended September 30, 2011 and 2010, respectively, they consist of the following:
Comprehensive Income: Our comprehensive income is as follows:
Earnings per Share: Diluted earnings per share assume exercise of in-the-money stock options (those options with exercise prices at or below the weighted average market price for the periods presented) outstanding at the beginning of the period or at the date of issuance. We calculate the effect of dilutive securities using the treasury stock method. As of September 30, 2011 and 2010, our share-based awards issued under our stock option plans consisted primarily of common stock option grants, restricted stock units and phantom stock units.
For the three and nine months ended September 30, 2011 and 2010, we recorded a net loss. Accordingly, the potential dilution from the assumed exercise of stock options is zero, or anti-dilutive. As a result, basic earnings per share is equal to diluted earnings per share for the three and nine months ended September 30, 2011 and 2010. The weighted average of options and securities that could potentially dilute basic earnings per share in the future that were not included in the computation of diluted earnings per share were 505,199 and 513,153 for the three and nine months ended September 30, 2011, respectively, and 333,062 and 350,276 for the three and nine months ended September 30, 2010, respectively.
Recently Issued Accounting Pronouncements
In September 2011, the Financial Accounting Standards Board ("FASB") issued authoritative guidance regarding annual goodwill impairment tests. This amendment will allow an entity to first assess qualitative factors to determine whether it is necessary to perform the two-step quantitative goodwill impairment test. An entity would not be required to calculate the fair
value of a reporting unit unless the entity determines, based on a qualitative assessment, that it is more likely than not that its fair value is less than its carrying amount. This guidance is effective for annual and interim goodwill impairment tests performed for fiscal years beginning after December 15, 2011. Early adoption is permitted. We expect that the adoption of this guidance will not have a material impact on our unaudited Condensed Consolidated Financial Statements.
A variety of proposed or otherwise potential accounting standards are currently under review and study by standard-setting organizations and certain regulatory agencies. Because of the tentative and preliminary nature of such proposed standards, we have not yet determined the effect, if any, that the implementation of any such proposed or revised standards would have on our unaudited Condensed Consolidated Financial Statements.
Note 2—Long-Term Debt
Long-term debt at September 30, 2011 and December 31, 2010 consists of the following:
Senior Secured Credit Facility: On August 2, 2011, we entered into the Fourth Amended and Restated Credit Agreement ("Credit Facility"), which matures in August 2016. We increased the revolving credit commitment to $410 million from $375 million. As of September 30, 2011, we had $32 million in borrowings outstanding under the Credit Facility, and had $9.8 million committed under letters of credit for various self-insurance programs.
As disclosed in Amendment No. 1 to our Quarterly Report on Form 10-Q for the three and six months ended June 30, 2011 filed with the Securities and Exchange Commission on November 2, 2011, we restated the unaudited condensed consolidated financial statements and other financial information to properly account for the expense related to our mychoice customer loyalty program. In connection with the restatement of our financial statements for the three and six months ended June 30, 2011, respectively, we notified the lenders under our Credit Facility that there was a default because our second quarter financial statements delivered to the lenders were not in accordance with U.S. generally accepted accounting principles. On November 1, 2011, we received a waiver of this default from our lenders under our Credit Facility. There were no defaults under our senior and senior subordinated note indentures.
Interest expense, net of capitalized interest was as follows:
The increase in interest expense before capitalized interest for the nine months ended September 30, 2011 from the same 2010 period was due to higher debt levels and the replacement of less expensive revolver borrowings with new, long-term notes. We believe the longer maturity, fixed interest rate and less-restrictive covenants of the new, long-term notes warranted the higher debt levels and interest rate. We began capitalizing interest on our Baton Rouge project during the fourth quarter of 2010. In addition, we began capitalizing interest on our equity method investment during the third quarter of 2011. See Note 6, Equity Method Investment.
Loss on early extinguishment of debt: During the three months ended September 30, 2011, we made open market purchases, at par and from cash on hand, of $10.0 million of our outstanding 7.50% Senior Subordinated Notes due 2015. The notes have been extinguished from an accounting perspective, although they remain outstanding from a legal perspective. We do not intend to re-sell the notes. We recorded a $0.2 million loss on early extinguishment of debt as a result of these transactions, related to the ratable write off of unamortized deferred financing fees and original issuance discounts. During the nine months ended September 30, 2010, we incurred a loss on early extinguishment of debt of $1.9 million for the write off of unamortized debt issuance costs related to the modification of our Credit Facility.
Fair Value of Financial Instruments: The estimated fair value of our long-term debt at September 30, 2011 was approximately $1.2 billion, with a book value of $1.2 billion. At December 31, 2010, the estimated fair value was approximately $1.3 billion, with a book value of $1.2 billion. The estimated fair value of our senior notes and senior subordinated notes was based on quoted market prices on or about September 30, 2011 and December 31, 2010. The fair value of our Credit Facility was based on estimated fair values of comparable debt instruments on or about September 30, 2011.
Note 3—Income Taxes
Our effective income tax rate for continuing operations for the three and nine months ended September 30, 2011 was an expense of $1.0 million, or 7.5%, and $2.6 million, or 17.2%, as compared to a benefit of $5.4 million, or 123.6%, and $7.0 million, or 15.8%, for the prior-year periods. In the prior-year periods, our income tax benefit was based on our estimated annual tax rate. We are now using the actual year-to-date tax rate for the nine months ended September 30, 2011 to record our income tax expense for the interim periods. We believe applying the actual year-to-date effective tax rate for the nine months ended September 30, 2011 is now the best estimate of our annual effective tax rate. Our tax rate differs from the statutory rate of 35.0% due to the effects of permanent non-deductible expenses and the recording of a valuation allowance against a portion of our deferred tax assets generated in the current year. It is reasonably possible that the total amount of unrecognized tax benefits may increase by approximately $0.5 million to $2.0 million during the next twelve months.
Note 4—Employee Benefit and Other Plans
Share-based Compensation: As of September 30, 2011, we had approximately 5.7 million share-based awards outstanding, approximately 246,600 of which are restricted stock units and other share based awards, and the rest of which are common stock options. In addition, we had approximately 1.9 million share-based awards available for grant. We recorded share-based compensation expense as follows:
The unamortized compensation costs not yet expensed related to stock options totaled approximately $17.9 million at September 30, 2011 and the weighted average period over which the costs are expected to be recognized is approximately three years. The aggregate amount of cash we received from the exercise of stock options is described below. The associated shares were newly issued common stock.
On September 9, 2011, we completed a value-for-value option exchange program for certain of our outstanding employee stock options. The option exchange program permitted eligible employees to surrender certain outstanding underwater stock options in a value-for-value exchange for a lesser number of new stock options with a lower exercise price. The option exchange program resulted in no additional shared-based compensation expense for the three and nine months ended September 30, 2011. The following table summarizes information related to our common stock options under our stock option plans, and includes the changes resulting from the option exchange program.
The status of our unvested shares, which include restricted stock units and other share based awards, as of September 30, 2011 was as follows:
Note 5—Write-downs, reserves and recoveries, net
Write-downs, reserves and recoveries, net consist of the following:
Loss on disposal of assets: In April 2011, we donated land with a book value of $5.7 million to the City of Lake Charles, Louisiana, and recognized a loss accordingly. The remainder of the balance for the three and nine months ended September 30, 2011 relates to the disposal of slot and other equipment and other equipment at our properties. During the nine months ended September 30, 2010, we sold our corporate jet, two seaplanes, a warehouse and slot equipment at our properties for a net loss.
Legal settlement expense (recoveries): During March 2010, we received a $6.5 million legal settlement related to the recovery of legal fees.
Note 6— Equity Method Investments
We have invested $95 million in ACDL in exchange for a 26% ownership interest, which is accounted for under the equity method. Under the equity method, the carrying value is adjusted for our share of ACDL's earnings and losses, as well as capital contributions to and distributions from ACDL. Distributions in excess of equity method earnings, if any, are recognized as a return of investment and recorded as investing cash flows in the unaudited Condensed Consolidated Statement of Cash Flows.
We evaluate our investment in unconsolidated affiliates for impairment whenever events or changes in circumstances indicate that the carrying value of our investment may have experienced an "other-than-temporary" decline in value. If such conditions exist, we would compare the estimated fair value of the investment to its carrying value to determine if an impairment is indicated. In addition, we would determine if the impairment is "other-than-temporary" based on our assessment of all relevant factors, including consideration of our intent and ability to retain the investment. To estimate fair value, we would use a discounted cash flow analysis based on estimated future results of the investee and market indicators of terminal year capitalization rates.
We have capitalized interest on our investment in ACDL, as ACDL has not begun its principal operations, the operation of the Ho Tram Strip beachfront complex of integrated resorts and residential developments in southern Vietnam. ACDL currently has activities in progress to commence these planned operations, and is using all funds to acquire assets for the future operations. Once ACDL opens Phase 1 of this operation, which is expected to occur in 2013, the investment will no longer qualify for capitalization of interest. Capitalized interest on this investment was $1.1 million for the three and nine months ended September 30, 2011.
Note 7—Discontinued Operations
Discontinued operations as of September 30, 2011 consist of our Boomtown Reno operations, Atlantic City operations, our former President Casino operations, our former Casino Magic Argentina operations, our former Casino Magic Biloxi operations and our former operations at The Casino at Emerald Bay in The Bahamas.
Boomtown Reno: In the third quarter of 2011, we made the decision to sell our Boomtown Reno operations. We have reflected the business as discontinued operations and the related assets and liabilities as held for sale. According to authoritative guidance, a disposal group classified as held for sale shall be measured at the lower of its carrying value or the fair value less cost to sell. As the fair value less cost to sell was less than the carrying value of our Boomtown Reno disposal group, an impairment of $11.9 million was taken in the third quarter of 2011.
Atlantic City: In the first quarter of 2010, we made the decision to sell our Atlantic City operations. During the twelve months following our decision to sell, we have actively marketed our Atlantic City operations, however, events and circumstances beyond our control have extended the period to complete the sale of this operation beyond one year. We have continued to reflect our Atlantic City operations as discontinued operations and the related assets and liabilities as held for sale, as we expect to sell our operations within the next year.
During the second quarter of 2011, we determined that a triggering event had occurred due to the extended time frame in which the operation has been listed for sale and the market conditions in Atlantic City. We reviewed the carrying value of both our land and our New Jersey Casino Reinvestment Development Authority investments and recorded impairment charges of $4.9 million and $9.4 million, respectively. In addition, during the second quarter of 2011, we increased our legal accruals by $6.0 million.
President Casino: We closed the President Casino on June 24, 2010, and have reflected the entity in discontinued operations and the remaining assets and liabilities as held for sale. In October 2010, we sold The Admiral Riverboat, on which the President Casino formerly operated.
Casino Magic Argentina: On April 29, 2010, we entered into an agreement to sell our Argentina operations. On June 30, 2010, we completed the sale of our Argentina operations for approximately $40.0 million.
Casino Magic Biloxi: Casino Magic Biloxi closed after significant damage from Hurricane Katrina in 2005. In February 2010, we settled all remaining insurance claims in exchange for a final payment of approximately $23.4 million. We received payments totaling approximately $215 million from our insurers related to this asset. Prior insurance advances that exceeded the book value of destroyed assets and certain insured expenses were recorded as a deferred gain of $18.3 million. As a result of this final settlement, we recognized this deferred gain in February 2010 in addition to the gain associated with the proceeds.
The Casino at Emerald Bay: The Casino at Emerald Bay in The Bahamas was closed during the first quarter of 2009. In February 2011, we completed the sale of the final asset and we recorded a gain on sale of $0.1 million.
Revenue, expense and net income for entities and operations included in discontinued operations are summarized as follows:
Net assets for entities and operations included in discontinued operations are summarized as follows:
Note 8—Commitments and Contingencies
Guaranteed Maximum Price Agreement for L'Auberge Casino & Hotel Baton Rouge: On April 5, 2010, we entered into an Agreement for Guaranteed Maximum Price Construction Services with a general contractor for the construction of L'Auberge Casino & Hotel Baton Rouge. On May 26, 2011, we entered into an amendment to the agreement, which, among other things, provides that the contractor will complete the construction of the casino for the total guaranteed maximum price of approximately $229 million and provides for a guaranteed date of substantial completion of May 31, 2012. We expect L'Auberge Casino & Hotel Baton Rouge to open in the summer of 2012. The guaranteed maximum price set by the amendment to the agreement is a portion of the total budget for the project. Due to construction disruption and previously unanticipated site preparation work, we expect the construction budget to increase by up to 3.0% from the prior budget of $357 million.
Redevelopment Agreement: In connection with our Lumière Place Casino and Hotel, we have a redevelopment agreement, which, among other things, commits us to oversee the investment of $50.0 million in residential housing, retail or mixed-use developments in the City of St. Louis within five years of the opening of Lumière Place. Such investment can be made with partners and partner contributions and project debt financing, all of which count toward the $50.0 million investment commitment. We are also obligated to pay an annual fee of $1.0 million to the City of St. Louis, which obligation began after our River City Casino opened in March 2010. The redevelopment agreement also contains certain contingent payments in the event of certain defaults. If we and any development partners collectively fail to invest $50.0 million in residential housing, retail, or mixed-use developments within five years of the opening of the casino and hotels, we would be obligated to pay an additional annual service fee of $1.0 million, less applicable credits, in year six, $2.0 million in years seven and eight, and $2.0 million annually thereafter, adjusted by the change in the consumer price index.
Lease and Development Agreement for River City Casino: In connection with our River City Casino, we have a lease and development agreement with the St. Louis County Port Authority which, among other things, commits us to lease 56 acres for 99 years (subject to certain termination provisions). We have invested the minimum requirement of $375.0 million, pursuant to the agreement. From April 1, 2010 through the expiration of the term of the lease and development agreement, we are required to pay to St. Louis County as annual rent the greater of (a) $4.0 million, or (b) 2.5% of annual adjusted gross receipts, as that term is defined in the lease and development agreement. We are also required to invest an additional $75 million in the
second phase of the project to construct: (a) a hotel with a minimum of 200 guestrooms, (b) a meeting room/event space with at least 10,000 square feet, and (c) a parking garage with a minimum of 1,600 parking spaces. We are required to achieve substantial completion of the second phase by October 31, 2013. In the event that the second phase is not substantially completed by October 31, 2013, we are required to pay liquidated damages of $2.0 million beginning on November 1, 2013. In each subsequent year that the second phase is not opened, the amount of liquidated damages increases by $1.0 million hence, $3.0 million in 2014, $4.0 million in 2015, $5.0 million in 2016 and $6.0 million in 2017. As a result, the maximum amount of liquidated damages that we would have to pay if the second phase is not completed is $20.0 million.
Self-Insurance: We self-insure various levels of general liability and workers' compensation at all of our properties and medical coverage at most of our properties. Insurance reserves include accruals for estimated settlements for known claims, as well as accruals for estimates of claims not yet made, which are included in “Accrued compensation” and “Other accrued liabilities” on the Condensed Consolidated Balance Sheets.
Madison House Litigation: On December 23, 2008, Madison House Group, L.P. (“Madison House”) filed suit in Superior Court of New Jersey, Chancery Division, Atlantic County against ACE Gaming, LLC, a wholly owned subsidiary of the Company (“ACE”), and one other defendant. We acquired ACE as part of our acquisition of the entities owning the former Sands Hotel & Casino (the “Sands”) in Atlantic City, New Jersey in November 2006. The lawsuit arose out of a lease dated December 18, 2000 between Madison House as landlord and ACE as tenant for the Madison House hotel in Atlantic City, New Jersey. The lawsuit alleged in part that ACE breached certain obligations under the lease, including, among other things, by failing to operate and maintain the hotel as required by the lease, which was alleged to have resulted in substantial damages to the hotel. The lawsuit further alleged that the Company, as the ultimate parent entity of ACE, should be jointly and severally liable with ACE for the damages sought, and separately alleged certain other independent actions against the Company. The lawsuit sought specific performance of ACE's obligations under the lease, including restoration of the hotel, as well as unspecified compensatory and exemplary damages, and attorneys' fees, against the Company and ACE. ACE continues to make its payment obligations under the lease, which expires in December 2012.
On March 17, 2010, Madison House moved to dismiss its complaint and ACE's counterclaim without prejudice, which motion was heard on April 28, 2010. The court ruled that it was granting the motion to dismiss Madison House's complaint, without prejudice, but that it was denying the motion to dismiss ACE's counterclaim. The court also ruled that the case would be moved from the Chancery Division to the Law Division. On September 20, 2010, Madison House moved to dismiss ACE's counterclaim, which was heard on October 15, 2010. On January 13, 2011, the court denied Madison House's motion to dismiss the counterclaim. On August 31, 2011, the parties filed a consent order for dismissal of ACE's counterclaims without prejudice. The court entered the order on September 8, 2011.
Indiana Tax Dispute: In 2008, the Indiana Department of Revenue (“IDR”) commenced an income tax examination of the Company's Indiana income tax filings for the 2005 to 2007 period. In February 2010, the Company received a notice of proposed adjustment from the field agent in the amount of $7.3 million, excluding interest and penalties of $2.3 million, challenging the treatment of income and gain from certain asset sales, including the sale of the Hollywood Park Racetrack in 1999, and other transactions outside of Indiana, such as the Aztar merger termination fee in 2006, which we reported on our Indiana state tax returns for the years 2000 through 2007. In March 2010, the Company timely filed a protest with the IDR requesting abatement of all tax, interest and penalties. In September 2010, a hearing was held with the IDR where the Company restated significant facts and positions which the Company believed the field agent had not taken into consideration in issuing the assessment. On March 30, 2011, the IDR issued a letter of finding which denied all issues protested in the hearing but sustained the Company's request to waive penalties. On April 28, 2011, the Company timely filed a rehearing request of which the IDR promptly granted. A rehearing was conducted on June 22, 2011, with the Company presenting additional clarifying facts and technical support for our tax positions. The IDR has 60 days to review the additional data presented and will issue its supplemental findings. As of September 30, 2011, the Company is still awaiting the issuance of the supplemental findings.
Other: We are a party to a number of other pending legal proceedings. Management does not expect that the outcome of such proceedings, either individually or in the aggregate, will have a material effect on our financial position, cash flows or results of operations.
Note 9—Consolidating Condensed Financial Information
Our subsidiaries (excluding a subsidiary that owns 26% of the equity in ACDL; a subsidiary with approximately $10.5 million in cash and cash equivalents as of September 30, 2011; a subsidiary with approximately $4.1 million in cash and cash equivalents as of September 30, 2011; and certain non-material subsidiaries) have fully and unconditionally and jointly and severally guaranteed the payment of all obligations under our senior and senior subordinated notes, as well as our Credit Facility. Our Atlantic City subsidiaries do not guarantee our Credit Facility. Separate financial statements and other disclosures regarding the subsidiary guarantors are not included herein because management has determined that such information is not material to investors. In lieu thereof, we include the following: