2K Sports 2003 Annual Report Download - page 27

Gross margins relating to our distribution business have been
historically narrow which increases the impact of variations in
costs on our operating results. As a result of intense price competi-
tion, our gross margins in our distribution business have historically
been narrow and we expect them to continue to be narrow in the
future. We receive purchase discounts from suppliers based on vari-
ous factors, including volume purchases. These purchase discounts
directly affect our gross margins. It may become more difficult for us
to achieve the percentage growth in sales required to continue to
receive volume purchase discounts.
We may not be able to adequately adjust our cost structure
in a timely fashion in response to a sudden decrease in demand.
A significant portion of our selling and general and administrative
expense is comprised of personnel and facilities. In the event of a
significant decline in net sales, we may not be able to exit facilities,
reduce personnel, or make other significant changes to our cost
structure without significant disruption to our operations or without
significant termination and exit costs. Management may not be able
to implement such actions in a timely manner, if at all, to offset an
immediate shortfall in net sales and gross profit.
Our distribution business is dependent on suppliers to maintain
an adequate supply of products to fulfill customer orders on a
timely basis. Our ability to obtain particular products in required
quantities and to fulfill customer orders on a timely basis is critical to
our success. In most cases, we have no guaranteed price or delivery
agreements with suppliers. In certain product categories, limited price
concessions or return rights offered by publishers may have a bearing
on the amount of product we may be willing to purchase. Our indus-
try may experience significant hardware supply shortages from time
to time due to the inability of certain manufacturers to supply certain
products on a timely basis. As a result, we have experienced, and
may in the future continue to experience, short-term hardware inven-
tory shortages. In addition, manufacturers or publishers who currently
distribute their products through us may decide to distribute, or
to substantially increase their existing distribution, through other
distributors, or directly to retailers.
We are subject to the risk that our inventory values may
decline and protective terms under supplier arrangements may
not adequately cover the decline in values. The interactive enter-
tainment software and hardware industry is characterized by the intro-
duction of new and enhanced generations of products and evolving
industry standards. These changes may cause inventory to decline
substantially in value or to become obsolete. We are also exposed to
inventory risk in our distribution business to the extent that supplier
price concessions are not available on all products or quantities and
are subject to time restrictions. In addition, suppliers may become
insolvent and unable to fulfill price concession obligations.
We are subject to risks and uncertainties of international trade.
Sales in international markets, primarily in the United Kingdom and
other countries in Europe, have accounted for a significant portion of
our net sales. Sales in international markets accounted for approxi-
mately 27.9%, 20.0% and 23.6%, respectively, of our net sales for the
years ended October 31, 2003, 2002 and 2001. We are subject to
risks inherent in foreign trade, including increased credit risks; tariffs
and duties; fluctuations in foreign currency exchange rates; shipping
delays; and international political, regulatory and economic develop-
ments, all of which can have a significant impact on our operating
results. All of our international sales are made in local currencies.
The market price for our common stock may be highly volatile.
The market price of our common stock has been and may continue to
be highly volatile. Factors such as our operating results, announce-
ments by us or our competitors and various factors affecting the inter-
active entertainment software industry may have a significant impact
on the market price of our common stock.
We are subject to rapidly evolving regulation affecting financial
reporting, accounting and corporate governance matters. In
response to recent corporate events, legislators and government
agencies have focused on the integrity of financial reporting, and
regulatory accounting bodies have recently announced their intention
to issue several new accounting standards, including accounting for
stock options as compensation expense, certain of which are signifi-
cantly different from current accounting standards. We cannot predict
the impact of the adoption of any such proposals on our future
financial results. Additionally, recently enacted legislation focused
on corporate governance, auditing and internal accounting controls
imposes compliance burdens on us, and will require us to devote
significant financial, technical and personnel resources to address
compliance issues.
We are subject to SEC proceedings that may result in sanctions
and monetary penalties. We received a Wells Notice from the Staff
of the SEC stating the Staff’s intention to recommend that the SEC
bring an enforcement action seeking an injunction and monetary
damages against us alleging that we violated certain provisions of
the federal securities laws. The proposed allegations stem from the
previously disclosed SEC investigation into certain accounting matters
related to our financial statements, periodic reporting and internal
accounting controls. The investigation is continuing and we expect
to receive additional requests for information.
Restatements of our financial statements could result in
lawsuits. The Staff of the SEC has raised issues with respect to our
revenue recognition policies and certain sales transactions and their
impact on our current and historical financial statements. After a
detailed review, we restated our previously issued financial state-
ments to reflect our revised revenue recognition policy with respect
to establishing reserves for price concessions for our published
products, as well as to increase our provision for returns at October
31, 2000 with respect to certain sales transactions, primarily to retail
customers with a corresponding reduction in the returns provision
in 2001. Although we have entered into discussions with the Staff
to address the issues raised in the Wells Notice, we are unable to
predict the outcome of these discussions. We may be subject to
class action lawsuits seeking damages as a result of the restatements.
See Note 2 to Consolidated Financial Statements.
We are uncertain about the future of our management and key
personnel. Our Chairman has received a Wells Notice from the Staff
of the SEC. Our Chairman founded the company and we depend on
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