GOLDEN ENTERTAINMENT, INC. - Quarter Report: 2005 October (Form 10-Q)

UNITED STATES SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

Form 10-Q

Commission File No. 0-24993

LAKES ENTERTAINMENT, INC.

(Exact name of registrant as specified in its charter)

(952) 449-9092

(Registrant’s telephone number, including area code)

     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 o          No þ

      Indicate by check mark whether the registrant is an accelerated filer (as defined in Rule 12b-2 of the Exchange Act).     Yes þ          No o

      Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act).     Yes o          No þ

      As of December 9, 2005, there were 22,299,909 shares of Common Stock, $0.01 par value per share, outstanding.

LAKES ENTERTAINMENT, INC. AND SUBSIDIARIES

INDEX

LAKES ENTERTAINMENT, INC. AND SUBSIDIARIES

Consolidated Balance Sheets

October 2, 2005 and January 2, 2005

The accompanying notes are an integral part of these consolidated financial statements.

LAKES ENTERTAINMENT, INC. AND SUBSIDIARIES

Consolidated Statements of Loss

The accompanying notes are an integral part of these consolidated financial statements.

LAKES ENTERTAINMENT, INC. AND SUBSIDIARIES

Consolidated Statements of Comprehensive Loss

The accompanying notes are an integral part of these consolidated financial statements.

LAKES ENTERTAINMENT, INC. AND SUBSIDIARIES

Consolidated Statements of Loss

The accompanying notes are an integral part of these consolidated financial statements.

LAKES ENTERTAINMENT, INC. AND SUBSIDIARIES

Consolidated Statements of Comprehensive Loss

The accompanying notes are an integral part of these consolidated financial statements.

LAKES ENTERTAINMENT, INC. AND SUBSIDIARIES

Condensed Consolidated Statements of Cash Flows

The accompanying notes are an integral part of these condensed consolidated financial statements.

LAKES ENTERTAINMENT, INC. AND SUBSIDIARIES

Notes to Unaudited Condensed Consolidated Financial Statements

      Lakes Entertainment, Inc. and Subsidiaries, a Minnesota corporation (“Lakes” or the “Company”), has development agreements for various Indian-owned casino properties and intends to manage such casinos when applicable regulatory approvals have been received and other contingencies have been satisfied. Lakes is also involved in other businesses, including development of a Company-owned casino and the purchase/license or development of new table game concepts for licensing to other casinos. In addition, as of October 2, 2005, Lakes owned approximately 62% of WPT Enterprises, Inc. (“WPTE”), a separate publicly held media and entertainment company principally engaged in the development, production and marketing of poker-themed televised programming, the licensing and sale of branded products and the sale of corporate sponsorships. Lakes’ unaudited condensed consolidated financial statements include the results of operations of WPTE, and in recent periods, all of Lakes’ revenues have been derived from WPTE’s business.

      Lakes, through various subsidiaries, has entered into the following contracts for the development, and management of new casino operations, all of which are subject to various regulatory approvals and in some cases resolution of legal proceedings:

      Lakes entered into consulting agreements and management contracts with the Kickapoo Traditional Tribe of Texas (the “Kickapoo Tribe”) effective as of January 2005 to improve the performance of the Kickapoo Tribe’s existing Lucky Eagle Casino in Eagle Pass, Texas, located approximately 140 miles southwest of San Antonio. During the third quarter of fiscal 2005 the Company’s relationship with the Kickapoo Tribe deteriorated and in November 2005, Lakes and the Kickapoo Tribe terminated their business relationship (Note 10).

      The unaudited condensed consolidated financial statements of the Company have been prepared pursuant to the rules and regulations of the Securities and Exchange Commission (“SEC”) applicable to interim

LAKES ENTERTAINMENT, INC. AND SUBSIDIARIES

Notes to Unaudited Condensed Consolidated Financial Statements — (Continued)

financial information. Accordingly, certain information normally included in the annual financial statements prepared in accordance with accounting principles generally accepted in the United States has been condensed or omitted. For further information, please refer to the annual audited consolidated financial statements of the Company, and the related notes, as restated (Note 2) included within the Company’s Annual Report on Form 10-K for the year ended January 2, 2005, previously filed with the SEC on December 2, 2005, from which the balance sheet information as of that date is derived.

      In the opinion of management, all adjustments considered necessary for a fair presentation have been included, consisting only of normal recurring adjustments. The results for the current interim period are not necessarily indicative of the results to be expected for the full year.

      In addition to the restatements discussed in Note 3, certain amounts, as previously reported, have been reclassified to conform to the current period presentation.

      As of December 9, 2005, Lakes’ unaudited cash balance, excluding WPTE cash, was approximately $5.5 million. Lakes’ future quarterly corporate costs are expected to approximate $3.5 million and future quarterly development project-related costs are expected to approximate $3.5 million, however, a portion of these costs are discretionary and could be deferred if necessary. It is anticipated that Lakes will require additional capital through either public or private financings to fund operating expenses and development project-related costs during the remainder of 2005 and 2006 and the Company is currently considering various financing alternatives. The Company believes that its assets provide sufficient collateral to obtain the necessary financing. The assets of Lakes include common shares of WPTE that have an estimated fair value of $82.6 million as of December 9, 2005, based on the public trading price, on that date, which may not be indicative of what Lakes could realize in a sale of its WPTE shares. The Company believes the shares of WPTE could be the source or part of the collateral for the additional financing. In addition, the Company continues to pursue engaging an investment banking firm to explore strategic alternatives for the Company’s shares of common stock of WPTE which may include the sale of part or all of such shares to fund Lakes’ operational and development needs. See Note 11 — subsequent events regarding Financing Facility.

      During 2005, as a result of discussions with the staff of the SEC, the Company re-evaluated its accounting methodology surrounding its contractual relationships with Indian tribes and determined that it should have separately recognized the separate elements of its development and management agreements with the Indian tribes. Historically the Company recorded its advances to Indian tribes as notes receivable and deferred recognition of interest income due to the contingent repayment terms of the notes. The Company has now determined that as advances are made to the tribe pursuant to the development relationship it should have given separate recognition to the contractual notes receivable established and the related interests in management contracts that are acquired in conjunction with the development agreements. As a result the accompanying unaudited condensed consolidated financial statements for the three and nine months ended as of October 3, 2004 have been restated from amounts previously reported to reflect these accounting changes

LAKES ENTERTAINMENT, INC. AND SUBSIDIARIES

Notes to Unaudited Condensed Consolidated Financial Statements — (Continued)

retroactively. A summary of the effects of the restatement on the results of operations for the quarterly period and nine month period ended October 3, 2004, follows (in thousands, except per share data):

The following table illustrates the effect of the restatement on retained earnings:

      On July 15, 2005, the Company received a $5.0 million payment from Metroflag Polo, LLC (“Metroflag”), in full satisfaction of the Company’s membership interest in Metroflag, which approximated the carrying value of the asset on the unaudited condensed consolidated balance sheet. Accordingly, no gain or loss will be recorded in future periods related to this transaction.

      The Company accounts for its employee stock option plans under the recognition and measurement principles of Accounting Principles Board Opinion No. 25, Accounting for Stock Issued to Employees, and related Interpretations.

      The following table illustrates the effect on net loss and loss per share if the Company had applied the fair value recognition provisions of Statement of Financial Accounting Standards No. 123, Accounting for Stock-

LAKES ENTERTAINMENT, INC. AND SUBSIDIARIES

Notes to Unaudited Condensed Consolidated Financial Statements — (Continued)

Based Compensation (SFAS No. 123), to stock-based employee compensation (in thousands, except per share data).

      For all periods, basic loss per share, is calculated by dividing the loss by the weighted average number of common shares outstanding. The effects of stock options and warrants have not been included in diluted loss per share for the three months ended or nine months ended October 2, 2005 and October 3, 2004 as the effect would have been anti-dilutive as a result of losses.

      In accordance with SFAS No. 109, Lakes evaluated the ability to utilize deferred tax assets arising from net operating loss carry forwards, deferred tax assets and other ordinary items and determined that a valuation allowance was appropriate at October 2, and January 2, 2005. Lakes evaluated all evidence and determined net losses generated over the past three years outweighed the current positive evidence that the Company believes exists surrounding its ability to generate significant income from its long-term assets related to Indian casino projects. Therefore, the Company recorded a 100% valuation allowance against these items at October 2, and January 2, 2005. However, the Company has recognized a deferred tax asset related to capital losses during 2001 to 2004. The realization of these benefits is dependant on the generation of capital gains. The Company believes it will have sufficient capital gains in the foreseeable future to utilize these benefits due to significant appreciation in its investment in WPTE, which has a minimal cost basis. The Company owns approximately 12.5 million shares of WPTE common stock valued at approximately $82.6 million as of December 9, 2005 based upon the closing stock price as reported by Nasdaq on December 9, 2005 of $6.62.

      The Company is currently under examination for income and franchise tax matters. See Note 8 regarding the IRS Tax Audit and the Louisiana Department of Revenue Litigation Tax Matter.

LAKES ENTERTAINMENT, INC. AND SUBSIDIARIES

Notes to Unaudited Condensed Consolidated Financial Statements — (Continued)

      The Company’s development agreements with its tribal partners require the Company to provide financial support related to project development, in the form of loans.

      For the Pokagon Casino project, the Company has agreed to provide additional financing from its own funds if financing to the Pokagon Band at an interest rate not to exceed 13% is not available from third parties. If this occurs and Lakes is required to provide all financing, this would be an additional commitment of up to approximately $54 million. Based on discussions with prospective lenders, management presently believes that third-party financing will be available for this project. However, there can be no assurance that third-party financing will be available at the time the project begins construction.

      Once the Pokagon Casino is open and Lakes is the manager of the casino, the Company will be obligated to pay an amount to an unrelated third party related to a settlement and release agreement associated with Lakes obtaining the management contract with the Pokagon Band. The obligation is payable quarterly for five years so long as Lakes is the manager of the casino, and the maximum liability over the five-year period is approximately $11 million.

      Lakes may be required to provide a guarantee of tribal debt financing or otherwise provide support for the tribal obligations related to any of the projects. Any guarantees by Lakes will be recorded as a liability on the Company’s consolidated financial statements at the fair value of the guarantee at its inception.

      WPTE violated certain securities laws in connection with its initial public offering by sending out written email communications to individuals that did not contain all of the information required to be in a prospectus and were not preceded or accompanied by a prospectus meeting the requirements for a prospectus. These violations could require WPTE to repurchase shares sold in the offering to direct recipients of the email communications for a period of up to one year at the offering price plus interest. WPTE sold 75,200 shares in the offering that were subject to such repurchase rights, and these shares were classified as common shares subject to repurchase as of January 2, 2005. As of August 9, 2005, the one-year anniversary of WPTE’s initial public offering, WPTE’s repurchase obligation with respect to such shares expired, and these shares were reclassified as equity as of October 2, 2005.

LAKES ENTERTAINMENT, INC. AND SUBSIDIARIES

Notes to Unaudited Condensed Consolidated Financial Statements — (Continued)

      The Company’s federal income tax returns are under audit by the Internal Revenue Service (“IRS”) for the fiscal years ended 2001 and 2000 related to the treatment of income categorized as a capital gain. If the Company is unsuccessful in sustaining its position the Company may be required to pay up to approximately $3.2 million plus interest and penalties related to tax on ordinary income, but this would be offset by re-establishing capital losses that would then be available to offset future capital gains, if any. The Company believes it will have sufficient capital gains in the foreseeable future to utilize these benefits due to significant appreciation in its investment in WPTE. The Company owns approximately 12.5 million shares of WPTE common stock valued at approximately $82.6 million as of December 9, 2005 based upon the closing stock price as reported by Nasdaq on December 9, 2005 of $6.62. Lakes’ basis in the WPTE common stock is minimal.

      The Company leases certain property and equipment, including an airplane, under non-cancelable operating leases. The Company’s airplane lease contained a residual value guarantee of $7.5 million. Rent expense, under non-cancelable operating leases, exclusive of real estate taxes, insurance, and maintenance expense was $0.2 million and $0.1 million for the three month period ended October 2, 2005 and October 3, 2004, respectively and $1.3 million and $0.3 million for the nine month period ended October 2, 2005 and October 3, 2004, respectively. During 2004, the Company determined that the value of the aircraft had decreased to $6.1 million. Therefore, the Company began accruing the expected deficiency over the remaining term of the lease. This resulted in additional expense of $0.6 million in the fourth quarter of fiscal 2004 and $0.8 million in fiscal 2005. At the end of the lease term in April 2005 a determination of the actual deficiency was made and based on that determination a payment of $1.4 million was made during August 2005.

      The airplane lease was amended on May 1, 2005, which allows for a base term of one year and two one-year renewal terms. Total future minimum lease payments due under this lease are approximately $1.7 million payable ratably over the three-year lease term. Under the lease agreement, the Company has the option of renewing the lease, purchasing the airplane at amounts which range from approximately $5.2 million to $5.8 million or facilitating the sale of the aircraft at the end of each term included in the up to three year lease term; however at the conclusion of the lease, the Company is required to purchase the airplane or facilitate the sale of the airplane. The Company’s airplane lease contains a residual value guarantee of $5.2 million at the end of the three year lease term.

      In 1994, William H. Poulos filed a class-action lawsuit in the United States District Court for the Middle District of Florida against various parties, including Lakes’ predecessor Grand Casinos and numerous other parties alleged to be casino operators or slot machine manufacturers. This lawsuit was followed by several additional lawsuits of the same nature against the same, as well as additional defendants, all of which were subsequently consolidated into a single class-action pending in the United States District Court for the District of Nevada. Following a court order dismissing all pending pleadings and allowing the plaintiffs to re-file a single complaint, a complaint has been filed containing substantially identical claims, alleging that the defendants fraudulently marketed and operated casino video poker machines and electronic slot machines, and asserting common law fraud and deceit, unjust enrichment and negligent misrepresentation and claims under the federal Racketeering-Influenced and Corrupt Organizations Act. Various motions were filed by the defendants seeking to have this new complaint dismissed or otherwise limited. In December 1997, the Court, in general, ruled on all motions in favor of the plaintiffs. The plaintiffs then filed a motion seeking class certification and the defendants opposed it. In June 2002, the Court entered an order denying class

LAKES ENTERTAINMENT, INC. AND SUBSIDIARIES

Notes to Unaudited Condensed Consolidated Financial Statements — (Continued)

certification. On August 10, 2004, the Ninth Circuit Court of Appeals affirmed the District Court’s denial of class certification. On September 14, 2005, the United States District Court for the District of Nevada granted the defendants’ motions for summary judgment, and judgment was entered against the plaintiffs on that same day. The defendants have also filed motions seeking the payment of costs and attorney fees and defendants have until December 28, 2005 to complete their briefing on the motions.

      The Company has not recorded any liability for this matter as currently an estimate of any possible loss cannot be made. Management currently believes that the final outcome of this matter is not likely to have a material adverse effect upon the Company’s consolidated financial statements.

      On October 24, 2003, Lakes announced that it had been named as one of a number of defendants in a counterclaim filed in state court in Harris County, Texas by Willard Eugene Smith involving Kean Argovitz Resorts, LLC (KAR) and related persons and entities. In the counterclaim, Smith asserted that, under an alleged oral agreement with Kevin Kean, he is entitled to a percentage of fees to be received by the KAR Entities or their principals relating to the Shingle Springs and Jamul Casinos that Lakes’ subsidiaries are developing in California. Smith also sought recovery of damages through the remedy of either attachment of the management fees generated from the projects or avoidance of buyout agreements between Lakes and KAR based on their conduct with respect to the alleged agreement. Trial for the above litigation commenced in April 2005. In May 2005, the jury in the state court case reached a verdict in favor of Lakes and the other defendants. The jury in the case found that there was no agreement with Smith relating to the ongoing monthly payments for the percentage of management fees. The jury also found that Smith was not entitled to damages. As a result of the verdict against Smith, a second phase of the trial, which would have sought to recover from Lakes any damages awarded, will not be necessary. Smith filed a Motion for a Partial Retrial on the issue of damages which was denied automatically by operation of law. Smith failed to timely file an appeal to the Texas Court of Appeals, so the judgment has become final.

      On January 3, 2003, El Dorado County filed an action in the Superior Court of the State of California, seeking to prevent the construction of a highway interchange that was approved by a California state agency. The action, which was consolidated with a similar action brought by Voices for Rural Living and others, does not seek relief directly against Lakes. However, the interchange is necessary to permit the construction of a casino to be developed and managed by Lakes through a joint venture.

      The casino will be owned by the Shingle Springs Tribe. The matter was tried to the court on August 22, 2003. On January 2, 2004, Judge Lloyd G. Connelly, Judge of the Superior Court for the State of California, issued his ruling on the matter denying the petition in all respects except one. As to the one exception, the court sought clarification as to whether the transportation conformity determination used to determine the significance of the air quality impact of the interchange operations considered the impact on attainment of the state ambient air quality standard for ozone. The California Department of Transportation (CalTrans) prepared and filed the clarification addendum sought by the court. Prior to the court’s determination of the adequacy of the clarification, El Dorado County and Voices for Rural Living appealed Judge Connelly’s ruling to the California Court of Appeals on all of the remaining issues.

      A ruling with respect to the addendum was issued June 21, 2004 by the Superior Court of California, County of Sacramento. The ruling indicated that the addendum provided to the court by CalTrans did not provide a quantitative showing to satisfy the court’s earlier request for a clarification on meeting the state ambient ozone standard. The court recognized that the information provided by CalTrans does qualitatively show that the project may comply with the state standard, but concluded that a quantitative analysis is necessary even though the court recognized that the methodology for that analysis “is not readily apparent”.

LAKES ENTERTAINMENT, INC. AND SUBSIDIARIES

Notes to Unaudited Condensed Consolidated Financial Statements — (Continued)

In addition, the ruling specifically stated, “Moreover such methodology appears necessary for the California Environmental Quality Act analysis of transportation projects throughout the state, including transportation projects for which respondents (i.e. CalTrans) have approval authority.” CalTrans, the Shingle Springs Tribe and Lakes responded to the court with a revised submission in August 2004. Representatives of the California Air Resources Board and the Sacramento Area Council of Governments filed declarations supporting the revised submission to the court. Opposition to that revised submission was filed, a hearing on the revised submission took place on August 20, 2004, and the court again found the revised submission of CalTrans, the Shingle Springs Tribe and Lakes to be inadequate. That ruling was separately appealed to the California Court of Appeals (the “Court”) and an oral argument for these appeals and the appeals of El Dorado County and Voices of Rural Living was held before the Court on August 29, 2005. The Court issued its decision on these appeals on November 8, 2005. The Court ruled in favor of CalTrans’ appeal, rejecting the El Dorado County’s argument that the transportation conformity analysis did not conform to state standards. The Court also rejected all but two of the legal claims asserted in the appeal by El Dorado County and Voices for Rural Living against the environmental impact report (“EIR”) prepared by CalTrans for the interchange that will connect Highway 50 to the Shingle Springs Rancheria. For the remaining two issues, the Court held that CalTrans must supplement its environmental analysis by adding some discussion to the air quality chapter to further explain the project’s contribution to overall vehicular emissions in the region, and that CalTrans also must evaluate whether a smaller casino and hotel would reduce environmental impacts. The Court acknowledged CalTrans lacks jurisdiction to require the Tribe to develop a smaller casino, but nevertheless required some discussion of this alternative in the interchange EIR.

      The Company has not recorded any liability for this matter as management believes the Courts’ rulings will ultimately allow the project to commence. However there can be no assurance that the final outcome of this matter is not likely to have a material adverse effect upon the Company’s unaudited condensed consolidated financial statements.

      In connection with the establishment of Lakes as a public corporation on December 31, 1998, via a distribution of its common stock to the shareholders of Grand Casinos, the Company and Grand Casinos entered into an agreement governing the sharing or allocation of tax benefits accruing to Grand Casinos and certain affiliated companies of Grand Casinos. Lakes asserted claims against Grand Casinos for amounts to which Lakes believed it was entitled under the tax sharing agreement. On December 1, 2004, Lakes entered into a settlement agreement with Grand Casinos and its parent company, Park Place Entertainment Corporation (now known as Caesars Entertainment, Inc.), pursuant to which Lakes received $11.3 million in December 2004 in satisfaction of its prior claim and its future rights to the tax benefits that were the subject of the dispute. Lakes will be required to provide reimbursement for its share of the disallowed benefits, if any.. This settlement income has been recorded as other income in the consolidated statement of loss for the year ended January 2, 2005. Lakes has not recorded any tax related to the settlement payment of $11.3 million, as Lakes believes this settlement is not taxable to Lakes.

      The Louisiana Department of Revenue maintains a position that Lakes owes additional Louisiana corporation income tax for the period ended January 3, 1999 and the tax years ended December 31, 1999 through December 31, 2001 and additional Louisiana corporation franchise tax for the tax years ended December 31, 2000 through December 31, 2002. This determination is the result of an audit of Louisiana tax returns filed by Lakes for the tax periods at issue and relates to the reporting of income earned by Lakes in connection with the managing of two Louisiana-based casinos. On December 20, 2004, the Secretary of the Department of Revenue of the State of Louisiana filed a petition to collect taxes against Lakes in the 19th Judicial District Court, East Baton Rouge Parish, Louisiana, Docket No. 527596, Section 23. In the

LAKES ENTERTAINMENT, INC. AND SUBSIDIARIES

Notes to Unaudited Condensed Consolidated Financial Statements — (Continued)

petition to collect taxes the Department of Revenue of the State of Louisiana asserts that additional corporation income tax and corporation franchise tax in the amount of $8.6 million, excluding interest, are due by Lakes for the taxable periods set forth above. Lakes maintains that it has remitted the proper Louisiana corporation income tax and Louisiana corporation franchise tax for the taxable periods at issue. On February 14, 2005, Lakes filed an answer to the petition to collect taxes asserting all proper defenses and maintaining that no additional taxes are owed and that the petition to collect taxes should be dismissed. Management intends to vigorously contest this action by the Louisiana Department of Revenue. However, Lakes may be required to pay up to the $8.6 million assessment plus interest if Lakes is not successful in this matter. The Company has recorded a reserve related to this examination which is reflected as part of income taxes payable on the Company’s consolidated balance sheets.

      On September 19, 2005, WPTE filed suit in the California Superior Court seeking to keep the Travel Channel, LLC from interfering with WPTE’s prospective contractual relationship with third party networks in connection with the sale of the broadcast rights to the Professional Poker Tour (“PPT”), and to clarify and enforce WPTE’s rights with respect to the World Poker television episodes. Under WPTE’s existing agreement with TRV for the World Poker Tour program (the “WPT Agreements”), TRV is afforded the right to negotiate exclusively with WPTE with respect to certain types of programming developed by WPTE during a 60 day period. Pursuant to the WPT Agreements, WPTE submitted the PPT to TRV and began negotiations but failed to reach an agreement with TRV within the allotted negotiation window. Consequently, WPTE began discussions with other networks. While WPTE later revived its attempts to reach a deal with TRV after TRV’s exclusive bargaining window had ended, WPTE ultimately received an offer from ESPN. WPTE submitted this offer to TRV pursuant to TRV’s contractual last right to match the deal as specified under the WPT Agreements. Thereafter, TRV sent letters to WPTE and ESPN asserting, among other things, that WPTE was not entitled to complete a deal for the PPT with a third party. Following TRV’s letters, WPTE filed suit on September 19, 2005, alleging that TRV breached the WPT Agreements and interfered with WPTE’s prospective contractual relationship with ESPN, and seeking a judicial declaration of WPTE’s rights under the WPT Agreements to produce non-World Poker Tour branded programs covering poker tournaments. Subsequent to WPTE filing, ESPN withdrew its offer to WPTE to acquire the broadcast rights to the PPT. On September 22, 2005, TRV and Discovery Communications, Inc. filed an answer and cross-complaint and subsequently filed a motion for judgment on the pleadings and an “anti-SLAPP” motion, both of which were denied on November 10, 2005. Despite WPTE’s dispute with TRV, WPTE remains committed to fulfilling its obligations to TRV in connection with the World Poker Tour series.

      Lakes is involved in various other inquiries, administrative proceedings, and litigation relating to contracts and other matters arising in the normal course of business. While any proceeding or litigation has an element of uncertainty, management currently believes that the final outcome of these matters is not likely to have a material adverse effect upon the Company’s consolidated financial statements.

      Lakes’ principal business is the development and management of gaming related properties. Additionally, the Company is the majority owner of WPTE, owning approximately 62% of WPTE’s outstanding common stock. Substantially, all operations of the Company and WPTE are conducted in the United States. Episodes of the World Poker Tour television series produced by WPTE are distributed internationally by a third party distributor. The segments reported below (in millions) are the segments of the Company for which separate financial information is available and for which operating results are evaluated by the chief operating decision-maker in deciding how to allocate resources and in assessing performance. The amounts in the Corporate and

LAKES ENTERTAINMENT, INC. AND SUBSIDIARIES

Notes to Unaudited Condensed Consolidated Financial Statements — (Continued)

Eliminations column below have not been allocated to the other segments because these costs are not easily allocable and to do so would not be practical.

      During the second quarter of 2004, the BIA issued its final determination denying the application of the Nipmuc Nation of Massachusetts (“Nipmuc Nation”) for federal recognition. Although the Nipmuc Nation is appealing the determination with the BIA, Lakes made a decision to discontinue funding the project. Lakes recorded an unrealized loss on notes receivable of $0.8 million related to the fair value of the note receivable from the Nipmuc Nation. Lakes also recorded an impairment charge of $5.8 million related to other long-term assets related to the Nipmuc Nation Indian casino project.

      Lakes entered into consulting agreements and management contracts with the Kickapoo Tribe effective January 2005 to improve the performance of the gaming operations conducted at the Kickapoo Tribe’s existing Lucky Eagle Casino in Eagle Pass, Texas, located approximately 140 miles southwest of San Antonio. During the third quarter of fiscal 2005 the Company’s relationship with the Kickapoo Tribe deteriorated and in November 2005, Lakes and the Kickapoo Tribe terminated their business relationship. Lakes recognized an impairment charge of $0.1 million related to the intangible asset related to the acquisition of the management contract during the three months ended October 2, 2005. In addition during the three months ended

LAKES ENTERTAINMENT, INC. AND SUBSIDIARIES

Notes to Unaudited Condensed Consolidated Financial Statements — (Continued)

October 2, 2005, the Company recorded an unrealized loss on notes receivable of $4.1 million related to the Kickapoo project. Included in the $4.1 million are unrealized losses of approximately $3.8 million related to project costs incurred that Lakes may be required to pay as a result of the terminated relationship, and approximately $0.3 million related to advances made by Lakes on the note receivable from the Kickapoo Tribe. During the nine months ended October 2, 2005, the Company recognized unrealized losses on notes receivable of approximately $5.9 million. Included in the $5.9 million are unrealized losses of approximately $5.0 million related to project costs incurred that Lakes may be required to pay as a result of the terminated relationship, and approximately $0.9 million related to advances made by Lakes on the note receivable from the Kickapoo Tribe. As of October 2, 2005, Lakes owns approximately 18 acres of land near the Kickapoo site with a cost basis of approximately $0.7 million.

      The Company is negotiating with the Kickapoo Tribe to resolve all of the financial terms of the contracts including repayment of the advances, payment of unpaid project costs incurred, a possible sale of the land owned by Lakes to the Kickapoo Tribe, and to formally terminate the gaming operations consulting agreement, management contract, and related ancillary agreements relating to the project.

      On December 16, 2005, Lakes closed on a $20 million financing facility with the Lyle Berman Family Partnership (the “Partnership”). An initial draw of $10 million was made under the facility on December 16, 2005, and the remaining $10 million can be drawn in $5 million increments over time as needed. Any funds drawn under the facility bear interest at the rate of 12% per annum and are due and payable on the third anniversary of the first advance drawn. No commitment fees, closing fees or loan servicing fees were assessed or paid in connection with the facility. Lakes may prepay the facility in whole or in part without penalty. Lyle Berman, Lakes’ Chairman and Chief Executive Officer, does not have an ownership or other beneficial interest in the Partnership. Neil Sell, a Director of Lakes, is one of the trustees of the irrevocable trusts that are the partners in the Partnership.

      The financing facility is secured by substantially all of the personal property of Lakes and its subsidiaries other than WPTE, including all fees or rights to cash flow from Lakes’ casino projects, as well as by its real property located at 130 Cheshire Lane, Minnetonka, Minnesota (which is the location of the Company’s principal offices), its real estate mortgage from the Pokagon Band and its shares of WPTE. The financing facility is also guaranteed by certain of the Company’s subsidiaries other than WPTE. The facility permits Lakes to separately sell up to 3.5 million WPTE shares without application of the proceeds from such sale to pay down draws under the financing facility so long as the per share price of WPTE shares does not fall below $3.00 per share, in which case the pro rata portion of the proceeds shall be applied to the financing facility based upon the difference between the share price and the minimum share price of $3.00. The sale of WPTE shares above 3.5 million shares will trigger mandatory prepayment of the financing facility.

      In consideration for the financing facility, Lakes issued to the Partnership warrants for the purchase of up to 2 million shares of its common stock at a purchase price of $7.88 per share that expire in December 2012. The warrants contain customary demand and piggyback registration rights for the shares of common stock underlying the warrants. The warrants will not become exercisable if Lakes’ borrowings under the facility do not exceed $10 million in the aggregate and all amounts owed under the facility are repaid in full on or before February 28, 2006. In addition, Lakes agreed to use its best efforts to cause WPTE to file a registration statement by no later than April 15, 2006 thus allowing for the possible resale of all WPTE shares pledged by Lakes to the Partnership. If Lakes were to sell more than the 3.5 million shares of WPTE, such proceeds would first be used to pay down the financing facility. Lakes has agreed to pay substantially all of the costs incurred in the preparation and filing of such registration statement.

LAKES ENTERTAINMENT, INC. AND SUBSIDIARIES

Notes to Unaudited Condensed Consolidated Financial Statements — (Continued)

      At October 2, 2005, WPTE had a nominal investment, consisting of a 15% ownership interest in (carried at cost), and a loan receivable from PokerTek, a company that offers an electronic poker table called the PokerPro system that provides a fully automated poker room environment to tribal and commercial casinos and card clubs. On October 14, 2005, PokerTek announced a public offering of 2,000,000 shares of common stock at a price of $11 per share. Concurrently with the public offering, WPTE’s ownership interest was diluted to 11.7% (1,080,000 shares), and PokerTek repaid WPTE the outstanding loan amount at its maturity value of $185,000. WPTE’s shares in PokerTek are restricted, thus prohibiting any sale of such shares in the market for six months. Nevertheless, in accordance with Statement of Financial Accounting Standards (SFAS) No. 115, Accounting for Certain Investments in Debt and Equity Securities, WPTE will adjust its investment to fair market value and classify it as “available for sale” in the fourth quarter of 2005, since WPTE does not expect to have any cash needs or plans to sell these shares in the foreseeable future. Accordingly, WPTE will record net unrealized gains and losses from this investment in a separate component of shareholder’s equity (i.e. within the “accumulated other comprehensive earnings” line item in the stockholders’ equity section of the balance sheet) beginning in the fourth quarter of 2005.

      The following Management’s Discussion and Analysis of Financial Condition and Results of Operations reflect the adjustments relating to the restatement described in Note 3 in the unaudited condensed consolidated financial statements.

Overview

      Lakes develops Indian-owned casino properties and intends to manage such casinos when applicable regulatory approvals have been received and we have satisfied other contingencies. Lakes currently has development and management agreements with five separate tribes for one new casino operation in Michigan, two in California, and with two tribes in Oklahoma for five various casino projects. Lakes is also involved in other businesses, including development of a non-Indian casino and the development of new table games for licensing to casinos. In addition, as of October 2, 2005, Lakes owned approximately 62% of WPTE, a separate publicly held media and entertainment company principally engaged in the development, production and marketing of gaming themed televised programming, the licensing and sale of branded products and the sale of corporate sponsorships. Lakes’ consolidated financial statements include the results of operations of WPTE, and in recent periods, all of Lakes’ revenues have been derived from WPTE’s business.

Financial Overview

      In the three and nine months ended of the fiscal year ended January 1, 2006 (“fiscal 2005”) and the three and nine months ended of the fiscal year ended January 2, 2005 (“fiscal 2004”), all of Lakes’ consolidated revenues have been derived from the WPTE business, mainly from license fees for domestic telecast of World Poker Tour television episodes (“WPT”) and product licensing fees associated with the World Poker Tour brand and logo. There were minimal product licensing revenues in fiscal 2004. License fees have depended on the number of episodes delivered to The Travel Channel (“TRV”) in a particular period. Revenues from other parts of the WPTE business are relatively small but continue to grow.

Results of Operations

      All revenues in fiscal 2005 and 2004 were related to WPTE business. Total revenues increased by $1.0 million for the nine months ended October 2, 2005, compared to the same period in the prior year. Domestic television license revenues decreased by $3.6 million in the first nine months of fiscal 2005 compared to the first nine months of fiscal 2004. The reduction in domestic television license revenue reported in the first nine months of fiscal 2005 reflected the delivery of only thirteen episodes of Season Three and one episode of Season Four compared to 24 Season Two episodes that were delivered during the fiscal 2004 period. International television licensing revenues increased by $0.9 million for the nine months ended October 2, 2005, compared to the nine months ended October 3, 2004, as we increased distribution to more territories in the current period. Revenues for the nine months ended October 2, 2005, also included $2.9 million more in product licensing revenues than the nine months ended October 3, 2004 as WPTE licensees had substantially more product in the marketplace in fiscal 2005.

      TRV exercised its option for Seasons Three and Four in May 2004 and March 2005, respectively, and has additional options for the following three seasons (Seasons Five through Seven) under which WPTE would receive fixed license fees for each episode WPTE produces. For each season covered by an option exercised by TRV, TRV will have exclusive rights to exhibit the programs in that season an unlimited number of times on its television network (or any other television network owned by the Discovery Channel) in the U.S. for four years.

      Production costs are associated with WPTE costs of producing television series. WPTE cost of revenues increased by $1.1 million in the first nine months of fiscal 2005 as compared to the first nine months of fiscal 2004, and accordingly, overall gross margins were 36.7% in the first nine months of fiscal 2005 compared to 40.3% in the first nine months of fiscal 2004. Cost of revenues for the first nine months of fiscal 2005 included approximately $3.2 million related to the premiere season of the PPT, as well as $3.9 million and $0.2 million in production costs for Season Three and Season Four episodes, respectively, of the WPT. PPT production costs were expensed in this period rather than being capitalized because WPTE does not capitalize television production costs until a licensing agreement has been executed or WPTE has a firm commitment of revenue for the series. For the first nine months of fiscal 2004, cost of revenues of $7.1 million were related primarily to the production of Season Two episodes of the WPT. There were no PPT production costs incurred during the first nine months of fiscal 2004. Additionally, cost of revenues in the first nine months of fiscal 2005 included approximately $0.8 million of non-cash compensation expense related to consultant stock options compared to $0.5 million in the first nine months of fiscal 2004. Excluding the non-cash compensation expenses and PPT production costs expensed during the first nine months of fiscal 2005, gross margin for the first nine months of fiscal 2005 would have been 67.9% compared to 44.6% for the corresponding period in 2004, with the higher margin in fiscal 2005 due to increased revenues from product licensing, international licensing and sponsorship.

      Selling, general and administrative expenses increased by $10.3 million to $20.4 million for the nine months ended October 2, 2005 from $10.1 million for the nine months ended October 3, 2004. WPTE selling, general and administrative costs increased by $5.4 million for the nine months ended October 2, 2005, compared to the nine months ended October 3, 2004. This increase is primarily due to additional headcount costs, product licensing commissions, marketing expenses associated with online gaming and legal and audit fees incurred during the 2005 period associated with business development, increased product licensing revenues, online gaming launch, growth and regulatory compliance costs related to being an independent public company following WPTE’s initial public offering in the third quarter of fiscal 2004. Lakes’ selling, general and administrative costs were $11.5 million for the nine months ended October 2, 2005 and $6.6 million for the nine months ended October 3, 2004. This increase of $4.9 million is due to $1.0 million in additional rent expense primarily related to a deficiency in the guaranteed residual value of the aircraft the Company leases, $2.0 million related to increased head count and related costs due to the casino projects in Texas and Oklahoma, $1.4 million in professional service fees related to the casino projects in Texas and Oklahoma as well as regulatory compliance costs and $0.5 million in development costs associated with an “Automated System For Playing Live Casino Table Games.”

      Impairment losses were $0.1 million and $5.8 million during the nine months ended October 2, 2005 and October 3, 2004, respectively. The Company recognized a $0.1 million impairment charge related to the intangible asset related to the acquisition of the management contract during the three months ended October 2, 2005 related to the Kickapoo casino project. During the third quarter of fiscal 2005 the Company’s relationship with the Kickapoo Tribe deteriorated and in November 2005, Lakes and the Kickapoo Tribe terminated their business relationship. During the nine months ended October 3, 2004, the Company recognized a $5.8 million impairment charge related to long-term assets related to the Nipmuc Nation project. Lakes also recorded an unrealized loss on notes receivable of $0.8 million related to the fair value of the note receivable from the Nipmuc Nation. In June 2004, the BIA issued its final determination denying the Nipmuc Nation’s application for federal recognition. Although the Nipmuc Nation is appealing the determination with the BIA, Lakes made a decision to discontinue funding the project in the second quarter of 2004. At that time, Lakes recorded the impairment charge and an unrealized loss on notes receivable. Should the Nipmuc Nation become federally recognized and successfully open a casino operation (with or without Lakes’ assistance) Lakes is entitled to receive payment in full of its advances and deferred interest.

      Net unrealized gains (losses) on notes receivable were ($0.2) million and $1.3 million for the nine months ended October 2, 2005 and October 3, 2004, respectively, related to the adjustment to fair value of the

Company’s notes receivable from Indian Tribes. These fair value calculations are determined based on current assumptions related to the projects as discussed below under “Accounting for long-term assets related to Indian casino projects”. Included in net unrealized losses on notes receivable of ($0.2) million for the nine months ended October 2, 2005 are unrealized losses of $5.9 million related to the Kickapoo project as a result of the termination of the business relationship between the Kickapoo Tribe and Lakes. The unrealized loss is partially offset by unrealized gains primarily related to an increase in probability associated with the Pokagon Casino project.

      Other income increased $1.1 million. Interest income was $1.3 million for the nine months ended October 2, 2005 compared to $0.2 million for the same period in the prior year. This increase is primarily due to an increase in cash and equivalents and short-term investments related to WPTE raising proceeds and becoming a public entity in August 2004 and cash settlements and cash proceeds from real estate sales received by Lakes in fiscal 2004.

      The Company recorded a tax provision of $1.1 million for the nine-month period ended October 2, 2005 compared to a tax benefit of $1.7 million for the nine-month period ended October 3, 2004. The loss before income taxes, equity in earnings (loss) of investments and minority interest was $15.1 million for the nine months ended October 2, 2005 compared to a loss of $10.1 million for the nine months ended October 3, 2004. In accordance with Statement of Financial Accounting Standards No. 109, Accounting for Income Taxes (SFAS No. 109), Lakes evaluated the ability to utilize deferred tax assets relating to net operating loss carry forwards, deferred interest on advances made to Indian tribes and other ordinary items and determined that a valuation allowance was appropriate. Lakes evaluated all evidence and determined the net losses generated over the past three years outweighed the current positive evidence that the Company believes exists surrounding its ability to generate significant income from its long-term assets related to Indian casino projects and its investments in its non-Indian casino business. The Company recorded a 100% valuation allowance against these items at October 2, 2005 and January 2, 2005. In addition, the Company recognized a deferred tax asset for capital losses related to asset impairment charges. The realization of these benefits is dependent on the generation of capital gains. The Company believes it will have sufficient capital gains in the future to utilize these benefits.

      For the nine months ended October 2, 2005, basic and diluted losses per common share were $0.66, compared to basic and diluted losses of $0.37 per common share, for the same period in the prior year. Net loss for the nine months ended October 2, 2005 was $14.8 million compared to $8.2 million for the nine months ended October 3, 2004. This increase is primarily due to the loss from operations increasing $6.0 million primarily due to WPTE’s production costs associated with the introduction of PPT production costs in 2005, with no associated revenues, and an increase in selling and administrative expenses, principally as a result of WPTE’s marketing and operating costs of launching WPTE’s online gaming initiative, and overall growth of compliance expenses resulting from being an independent public company. Lakes’ selling general and administrative expenses increased $4.9 million but were offset by an impairment loss of $5.8 million recognized in the prior year.

      All revenues in fiscal 2005 and fiscal 2004 were related to WPTE business. Total revenues decreased by $0.8 million for the three months ended October 2, 2005 as compared the same period in the prior year. Domestic television license revenues decreased by $1.9 million in the three months ended October 2, 2005 compared to the three months ended October 3, 2004. The reduction in domestic television license revenue

reported in the third quarter of fiscal 2005 reflected the delivery of one Season Four episode compared to six Season Two episodes delivered during the third quarter of fiscal 2004. International television licensing revenues increased by $0.1 million for the three months ended October 2, 2005 compared to the three months ended October 3, 2004 as WPTE increased distribution to more territories in the current period. Revenues for the three months ended October 2, 2005 also included $0.8 million more in product licensing revenues than the three months ended October 3, 2004 as WPTE licensees had substantially more product in the marketplace in fiscal 2005.

      Production costs are associated with WPTE costs of producing television series. WPTE cost of revenues decreased by $1.4 million in the third quarter of 2005 as compared to the third quarter of fiscal 2004, and accordingly, overall gross margins were 73.7% in the third quarter of fiscal 2005 compared to 34.7% in the third quarter of fiscal 2004. Cost of revenues for the third quarter of fiscal 2005 included approximately $0.2 million related to the premiere season of the PPT, as well as $0.2 million in production costs relating to the delivery of WPT episodes. PPT production costs were expensed in this period rather than being capitalized because WPTE does not capitalize television production costs until a licensing agreement has been executed or WPTE has a firm commitment of revenue for the series. For the third quarter of fiscal 2004, cost of revenues of $1.9 million was related primarily to the production of Season Two episodes of the WPT. There were no PPT production costs incurred during the third quarter of fiscal 2004.

      Selling and administrative expenses increased by $3.2 million for the three months ended October 2, 2005, compared to the three months ended October 3, 2004. WPTE’s selling general and administrative expenses increased by $1.8 million for the three months ended October 2, 2005, compared to the three months ended October 3, 2004. This increase is primarily due to additional headcount costs, product licensing commissions, marketing expenses associated with online gaming and legal and audit fees incurred during the 2005 period associated with business development, increased product licensing revenues, online gaming launch, growth and regulatory compliance costs related to being an independent public company following our initial public offering in the third quarter of 2004. Lakes’ selling general and administrative expenses increased by $1.4 million for the three months ended October 2, 2005, compared to the three months ended October 3, 2004 primarily due to $0.8 million related to increased head count and related costs due to the casino projects in Texas and Oklahoma, $0.1 million in professional service fees related to the casino projects in Texas and Oklahoma as well as regulatory compliance costs, $0.3 million in increased maintenance costs associated with the Company’s airplane it leases as well as its information technology system, and $0.2 million in development costs associated with an “Automated System For Playing Live Casino Table Games”.

      Net unrealized gain (loss) on notes receivable was ($2.1) million and $0.8 million for the three months ended October 2, 2005 and October 3, 2004, respectively, related to the adjustment to fair value of the Company’s notes receivable from Indian Tribes. These fair value calculations are determined based on current assumptions related to the projects as discussed below under “Accounting for long-term assets related to Indian casino projects”. The unrealized loss for the three months ended October 2, 2005 is primarily due to an unrealized loss of $4.1 million related to amounts advanced or costs incurred on behalf of the Kickapoo Tribe during the three months ended October 2, 2005 as a result of the termination of the business relationship between the Kickapoo Tribe and Lakes. The unrealized loss is partially offset by unrealized gains of $2.0 million on the Company’s other Indian casino projects.

      The Company recorded a tax provision of $0.4 million during the three months ended October 2, 2005 compared to a tax benefit of $0.8 million during the three months ended October 3, 2004. The loss before income taxes, equity in earnings (loss) of investments and minority interest was $7.3 million for the three months ended October 2, 2005 compared to a loss of $1.9 million for the three months ended October 3, 2004. In accordance with Statement of Financial Accounting Standards No. 109, Accounting for Income Taxes

(SFAS No. 109), Lakes evaluated the ability to utilize deferred tax assets relating to net operating loss carry forwards, deferred interest on advances made to Indian tribes and other ordinary items and determined that a valuation allowance was appropriate. Lakes evaluated all evidence and determined the net losses generated over the past three years outweighed the current positive evidence that the Company believes exists surrounding its ability to generate significant income from its long-term assets related to Indian casino projects and its investments in its non-Indian casino business. The Company recorded a 100% valuation allowance against these items at October 2, 2005 and January 2, 2005. In addition, the Company recognized a deferred tax asset for capital losses related to asset impairment charges. The realization of these benefits is dependent on the generation of capital gains. The Company believes it will have sufficient capital gains in the future to utilize these benefits.

      For the three months ended October 2, 2005, basic and diluted losses per common share were $0.32, compared to basic and diluted losses of $0.05 per common share, for the same period in the prior year. Net loss for the three months ended October 2, 2005 was $7.0 million compared to $1.2 million for the three months ended October 3, 2004. The increase in net loss is primarily due an increase in loss from operations of $5.7 million primarily due to increased selling general and administrative expenses related to both WPTE and Lakes as well as an increase in the net unrealized loss on notes receivable of $2.9 million related to the adjustment to fair value of the Company’s notes receivable from Indian Tribes.

      At October 2, 2005, Lakes’ unaudited condensed consolidated balance sheet included unrestricted cash and cash equivalents and short-term investment balances of $44.2 million. Included in this amount was Lakes’ cash of $13.7 million. Also included were WPTE cash of $3.0 million and WPTE short-term investments of $27.5 million. WPTE cash and investments will not be used in Lakes’ business. As of October 2, 2005, Lakes’ has had no operating revenues from casino operations since the expiration of the management contract with the Coushatta Tribe in January 2002.

      In August and September 2004, WPTE raised a total of approximately $32.4 million in cash proceeds from its initial public offering, net of underwriting discounts and estimated offering expenses. WPTE’s cash resources are expected to be used for WPTE’s business and will not be available for Lakes’ casino projects or other non-WPTE businesses. The initial public offering resulted in the termination of Lakes’ obligation to fund WPTE operations under a limited revolving note receivable. As of October 2, 2005, Lakes holds approximately 12.5 million shares or approximately 62% of WPTE’s common stock. Lakes’ will be subject to Rule 144 regarding volume limitations for sales of WPTE common stock.

      The Company’s primary source of cash for its development of casino projects during fiscal 2004 and during the nine months ended October 2, 2005 has been from the planned sale of assets. During fiscal 2004, the 2022 Ranch land, which was owned by Lakes and its joint venture partner Land Baron West, LLC, was sold. Lakes received cash in the amount of approximately $2.5 million related to the sale of the land as well as through the settlement of a title dispute. Lakes received proceeds of $5.9 million in fiscal 2004 in connection with the sale of the Polo Plaza and adjacent Travelodge property and an additional $5.0 million received during 2005, pursuant to an option agreement with Metroflag. We expect that proceeds from the sale of assets will decrease in future periods. Additionally in December 2004, Lakes received $11.3 million in settlement of a tax sharing agreement with Grand Casinos. For a discussion of Lakes’ current efforts to secure financing for its operational and development needs see Note 11.

      Our management contracts with our tribal partners require that we provide financial support for project development in the form of loans. These loans are interest bearing; however, the loans and related interest are not due until the casino is built and has established profitable operations. In the event that the casinos are not built, our only recourse is to attempt to liquidate assets of the development, if any, excluding any land in trust. A portion of the advances due from the Pokagon Band in the approximate amount of $24.1 million resulted

from funds advanced by the Company for the Pokagon Band’s purchase of the land. The Company has a first deed of trust against this property, which will be relinquished when the BIA places the land into trust.

      We currently believe that our existing casino development projects included in the table below (except for the project with the Kickapoo Tribe — see Note 10) will be constructed and achieve profitable operations; however, no assurance can be made that this will occur. If this does not occur, it is likely that Lakes would incur substantial or complete losses on its notes receivable from Indian tribes and related intangible assets associated with the acquisition of the management contracts. In addition, if Lakes’ current casino development projects are not completed or, upon completion, fail to successfully compete in the highly competitive market for gaming activities, Lakes may lack the funds to compete for and develop future gaming or other business opportunities and Lakes’ business could be adversely affected to the extent that it may be forced to cease its operations entirely.

      Following is a table summarizing remaining contractual obligations as of October 2, 2005 (in millions):

Casino Development Advances/ Commitments

As of October 2, 2005

      During the three months ended October 2, 2005, the Company incurred development costs of approximately $5.0 million relating to the non-Indian casino it is developing in Vicksburg, Mississippi. The Company is working toward obtaining all necessary approvals to move forward with this project.

      During 2005, Lakes’ corporate costs, excluding WPTE, which is not expected to require additional capital from Lakes, will approximate $12.5 million. Development project-related costs are expected to approximate $24.0 million during 2005. Lakes’ unaudited cash balance, excluding WPTE cash was approximately $5.5 million as of December 9, 2005. Lakes’ on-going quarterly corporate costs are expected to approximate $3.5 million and on-going quarterly development project-related costs are expected to approximate $3.5 million, however a portion of these costs are discretionary and could be deferred if necessary. Additionally, the Company may be required to pay taxes, ranging from $0 to approximately $12 million plus interest and penalties, in 2006 related to two tax matters. It is anticipated that Lakes will require additional capital through public or private financings or the sale of some or all of the Company’s shares of WPTE to meet operating expenses and development project-related costs during the remainder of 2005 and 2006 and the Company is currently considering various financing alternatives. In December 2005, Lakes obtained a $20 million financing facility from the Lyle Berman Family Partnership and received a $10 million draw on this facility on December 16, 2005 (see Note 11). Lakes plans to continue pursuing other financing alternatives, and the Company believes the assets of Lakes provide sufficient collateral to obtain the necessary financing. The assets of Lakes include common shares of WPTE that have an estimated fair value of $82.6 million as of December 9, 2005, based on the public trading price, on that date, which may not be indicative of what Lakes could realize in a sale of its shares. The Company believes the shares of WPTE could be the source or part of the collateral for the additional financing.

      Our major use of cash over the past three years has been pre-construction financing provided to our tribal partners. Lakes also anticipates that it may incur additional pre-construction costs which would require the Company to obtain additional sources of financing. These development costs do not include construction-related costs that would be incurred if any of the projects were to begin construction during the next twelve months. Management anticipates that it will be necessary to raise additional capital when any of the projects begin construction and believes such financing will be available based on preliminary discussions with prospective lenders. However, such financings may not be available when needed on terms acceptable to Lakes or at all. Moreover, any additional equity financings may be dilutive to Lakes’ shareholders, and any

debt financing may involve additional restrictive covenants. An inability to raise such funds when needed might require Lakes to delay, scale back or eliminate some of its expansion and development goals.

      In addition, the construction of the Company’s Indian casino projects may depend on the ability of the tribes to obtain financing for the projects. If such financing cannot be obtained on acceptable terms, it may not be possible to complete these projects, which could have a material adverse effect on Lakes’ results of operations and financial condition. In order to assist the tribes, Lakes may be required to guarantee the tribes’ debt financing or otherwise provide support for the tribes’ obligations. Any guarantees by Lakes, if any, will increase Lakes’ potential exposure in the event of a default by any of these tribes.

      For the Pokagon Casino project, the Company has agreed to finance all phases of the project entirely from its own funds if financing at an interest rate of 13% or less is not available from the capital markets. If this occurs and Lakes is required to provide all financing, this would be an additional commitment of up to approximately $54 million. Currently, management believes that third-party financing will be available for this project. However, there can be no assurance third-party financing will be available and that Lakes will not be required to provide this additional financing.

      As a part of the transaction establishing Lakes as a separate public company on December 31, 1998, the Company agreed to indemnify Grand Casinos through December 28, 2004 against all costs, expenses and liabilities incurred in connection with or arising out of certain pending and threatened claims and legal proceedings against Grand Casinos and to pay all related settlements and judgments. The indemnification period expired on December 28, 2004 and Lakes does not have any further obligations. Lakes incurred no costs related to this matter in 2004.

      Our consolidated unaudited financial statements and accompanying notes are prepared in accordance with U.S. GAAP. Preparing financial statements requires management to make estimates and assumptions that affect the reported amounts of assets, liabilities, revenue, and expenses. These estimates and assumptions are affected by management’s application of accounting policies. The significant accounting policies that Lakes believes are the most critical to aid in fully understanding and evaluating its reported financial results include the following: revenue recognition, long-term assets related to Indian casino projects and income taxes.

      Revenue recognition: Revenue from the management of Indian-owned casino gaming facilities is recognized in accordance with our policy described below under the caption “Accounting for long-term assets related to Indian casino projects.”

      Revenue from the domestic and international distribution of WPTE’s television series is recognized as earned under the following criteria established by the American Institute of Certified Public Accountants Statement of Position (SOP) No. 00-2, Accounting by Producers or Distributors of Films:

      In accordance with the terms of the TRV agreement, WPTE recognizes domestic television license revenues upon the receipt and acceptance of completed episodes. However, due to restrictions and practical limitations applicable to WPTE’s operating relationships with foreign networks, WPTE currently does not consider collectibility of international television license revenues to be reasonably assured, and accordingly, WPTE does not recognize such revenue until the distributor has received payment. Additionally, WPTE presents international distribution license fee revenues net of the distributor’s fees, as the distributor is the primary obligor in the transaction with the ultimate customer pursuant to the Financial Accounting Standards

Board (FASB) Emerging Issues Task Force (EITF) 99-19, Reporting Revenue Gross as a Principal versus Net as an Agent.

      Product licensing revenues are recognized when the underlying royalties from the sales of the related products are earned. WPTE recognizes minimum revenue guarantees ratably over the term of the license or as earned royalties based on actual sales of the related products, if greater. WPTE presents product licensing fees gross of licensing commissions, which are recorded as selling and administrative expenses as WPTE is the primary obligor in the transaction with the ultimate customer pursuant to EITF 99-19.

      Online gaming revenues are recognized monthly based on detailed statements received from WagerWorks, WPTE’s online gaming partner, for online poker and casino activity throughout the previous month. In accordance with EITF 99-19, WPTE presents online gaming revenues gross of WagerWorks costs, including WagerWorks management fee, royalties, credit card processing and chargebacks that are recorded as cost of revenues, since WPTE has the ability to adjust price and specifications of the online gaming site, WPTE bears the majority of the credit risk and WPTE is responsible for the sales and marketing of the gaming site.

      Event hosting fees are paid by host casinos for the privilege of hosting the events and are recognized as the episodes that feature the host casino are aired, and sponsorship revenues are recognized as the episodes that feature the sponsor are aired. Licensing advances and guaranteed payments collected, but not yet earned, by WPTE, as well as casino host fees and sponsorship receipts collected prior to the airing of episodes, are classified as deferred revenue in the accompanying balance sheets.

      Deferred television costs: WPTE accounts for deferred television costs in accordance to SOP No. 00-2. Deferred television costs include capitalizable direct costs, production overhead and development costs and are stated at the lower of cost or net realizable value based on anticipated revenue. WPTE has not currently anticipated any revenues in excess of those subject to existing contractual relationships, since WPTE has insufficient operating history to enable such anticipation. Accordingly, television costs related to the new PPT series will continue to be expensed as incurred until a licensing agreement has been executed or WPTE has a firm commitment of revenue for the series. Marketing, distribution and general and administrative costs are expensed as incurred. Capitalized television production costs for each episode are expensed as revenues are recognized upon delivery and acceptance by the Travel Channel of the completed episode. Management of WPTE currently estimates that 44% of capitalized deferred television costs at October 2, 2005, are expected to be expensed in connection with episode deliveries by the end of fiscal 2005.

      Lakes is involved as the exclusive developer and manager of Indian-owned casino projects. The Company has formal procedures governing its evaluation of opportunities for potential development projects that it follows before entering into agreements to provide financial support for the development of these properties. Lakes determines that there is probable future economic benefit prior to recording any asset related to the Indian casino project. No asset related to an Indian casino project is recognized unless it is considered probable that the project will be built and result in an economic benefit to Lakes sufficient to recover the asset. Lakes initially evaluates the following six factors involving critical milestones that affect the probability of developing and operating a casino:

      In addition to the above factors, Lakes also considers economic and qualitative factors affecting Lakes’ future economic benefits from the project, including the following:

      The development phase of each relationship commences with the signing of the respective contracts and continues until the casinos open for business; thereafter, the management phase of the relationship, governed by the management contract, continues for a period of up to seven years. Lakes, as developer and manager, has the exclusive right and obligation to develop, manage, operate and maintain the casino and to train tribal members and others in the operation and maintenance of the casino during the term of the contract. The Company also makes advances to the tribes to fund certain portions of the projects, which bear interest generally at prime plus 1% or 2%. Repayment of the advances and accrued interest is only required if the casino is successfully opened and distributable profits are available from the casino operations. Under the management contract Lakes typically earns a management fee calculated as a percentage of the net income of the operations. In addition, repayment of the loans and the manager’s fees under the management contracts are subordinated to certain other financial obligations of the respective operations. Generally, the order of priority of payments from the casinos’ cash flows is as follows: a certain minimum monthly priority payment to the tribe, repayment of various senior debt associated with construction and equipping of the casino with interest accrued thereon, repayment of various debt with interest accrued thereon due to Lakes, management fee to Lakes, and other obligations, with the remaining funds distributed to the tribe.

      The Company accounts for its advances to the tribes and its management contracts as separate elements. The advances made to the tribes are accounted for as structured notes in accordance with the guidance contained in Emerging Issues Task Force Consensus No. 96-12 Recognition of Interest Income and Balance Sheet Classification of Structured Notes (EITF No. 96-12). Because repayment of the notes is required only if a casino is successfully opened, Lakes’ advances may be at risk to not be repaid for reasons other than failure of the borrower to pay the contractual amounts due because if the casinos are not built the notes will not become contractually due. Accordingly, pursuant to the guidance in EITF No. 96-12, Lakes records its advances to tribes at estimated fair value. Because the stated rate of the notes receivable alone is not commensurate with the risk inherent in these projects, the estimated fair value of the notes receivable is generally less than the amount advanced. At the date of each advance, the difference between the estimated fair value of the note receivable and the actual amount advanced is recorded as an intangible asset related to the acquisition of the management contract. Subsequent to the initial recording, the two assets are accounted for separately.

      Subsequent to its initial recording at estimated fair value, the note receivable portion of the advance is adjusted to its current fair value at each balance sheet date based on current assumptions related to the projects. The notes receivable are not adjusted to an amount in excess of the face value of the note plus accrued interest. Changes in estimated fair value are recorded as unrealized gains or losses on notes receivable in the Company’s statement of operations.

      The determination of estimated fair value requires that assumptions be made and judgments be applied regarding casino opening dates, interest rates, discount rates and probabilities of the projects opening based on a review of critical milestones. If casino opening dates, interest rates, discount rates or the probabilities of the projects opening change significantly, the estimated fair value of the related note receivable is adjusted accordingly and the Company could experience unrealized gains or losses that could be material.

      Upon opening of the casino Lakes may conclude that it is no longer reasonably possible that the advances to Indian tribes would be at risk to not be repaid for reasons other than failure of the borrower to pay the contractual amounts due. In such situations, the notes receivable will be accounted for under the effective interest method upon opening of the casino and will no longer be adjusted to fair value at each balance sheet date. Any difference between the then fair value of the advances and the amount contractually due under the notes will be amortized into income using the effective interest method over the remaining term of the note. Such notes would then be evaluated for impairment pursuant to Statement of Financial Accounting Standards No. 114 “Accounting by Creditors for Impairment of a Loan.”

      Intangible assets related to the acquisition of the management contracts are accounted for using the guidance in Statement of Financial Accounting Standards No. 142 Goodwill and Other Intangible Assets (FASB No. 142). Pursuant to that guidance, the assets are periodically evaluated for impairment based on the estimated cash flows from the management contract on an undiscounted basis. In the event the carrying value of the intangible assets, in combination with the carrying value of land held for development and other assets associated with the Indian casino projects described below, were to exceed the undiscounted cash flow, an impairment would be recorded. Such an impairment would be measured based on the difference between the fair value and carrying value of the assets. Lakes, in accordance with FASB No. 142, will amortize the intangible assets related to the acquisition of the management contracts under the straight-line method over the lives of the contracts which will commence when the related casinos open. In addition to the intangible asset associated with the cash advances to tribes described above, these assets include actual costs incurred to acquire Lakes’ interest in the projects from third parties.

      Included in land held for development is land held for possible transfer to Indian tribes for use in certain of the future casino resort projects. In the event that this land is not transferred to the tribes, the Company can sell it. Lakes evaluates these assets for impairment in combination with intangible assets related to acquisition of management contracts and other assets related to the Indian casino projects as discussed above.

      Included in this category are costs incurred related to the Indian casino projects, which have not yet been included as part of the notes receivable because of timing of the payment of these costs. These amounts will ultimately be allocated between notes receivable and intangible assets related to the acquisition of management contracts and will be evaluated for changes in fair value or impairment, respectively, as described above. These amounts vary from period to period due to timing of payment of these costs.

      In addition, Lakes incurs certain costs related to the projects that are not included in notes receivable, which are expensed as incurred. These costs include salaries, travel and certain legal costs.

      The consolidated balance sheets as of October 2, 2005 (unaudited) and January 2, 2005 include long-term assets related to Indian casino projects of $142.5 million and $125.6 million, respectively, primarily related to three separate projects. The amounts are summarized by project (in thousands) as follows:

      The key assumptions used to estimate the fair value of the notes receivable are estimated casino opening date, projected interest rates, discount rates and probability of projects opening. The estimated casino opening date used in the valuation reflects the weighted average of three scenarios: a base case (which is based on the Company’s forecasted casino opening date) and one and two years out from the base case. The projected interest rates are based upon the one year U.S Treasury Bill spot yield curve per Bloomberg and the specific assumptions on contract term, stated interest rate and casino opening date. The discount rate for the projects is based on the yields available on certain financial instruments at the valuation date, the risk level of equity investments in general, and the specific operating risks associated with open and operating gaming enterprises similar to each of the projects. In estimating this discount rate, market data of other public gaming related companies was considered. The probability applied to each project is based upon a weighting of four different scenarios with the fourth scenario assuming the casino never opens. The first three scenarios assume the casino opens but applies different opening dates as discussed above. The probability weighting applied to each scenario captures the element of risk in these projects and is based upon the status of each project, review of the critical milestones and likelihood of achieving the milestones.

      The following table provides the key assumptions used to estimate the fair value of the notes receivable (dollars in thousands):

      Pokagon Band:

      A portion of the notes due from the Pokagon Band include funds advanced of approximately $24.1 million by the Company for the Pokagon Band’s purchase of land. The Company has a first deed of trust against substantially all of this property, which will be relinquished when the Bureau of Indian Affairs (“BIA”) places the land into trust.

      The estimated probability rate was increased from 75% to 85% during the three months ended April 3, 2005, due to an evaluation of all critical milestones and due to the favorable federal judge ruling issued in March 2005 that will allow the land to be taken into trust by the Federal Government. Subsequently the Taxpayers of Michigan Against Casinos (“TOMAC”) filed for an appeal. The appeal hearing date was held on December 8, 2005 and a decision is pending. Due to the delay related to this litigation the weighted average estimated casino opening date was extended from April 2008 to July 2008 during the three-month period ended October 2, 2005.

      TOMAC commenced the litigation against the Federal Government in 2001 after the U.S. Department of Interior issued a finding of no significant impact and recommended that land be taken into trust on behalf of the Pokagon Band. The land in trust issue has been the most significant critical milestone delaying the opening of the casino.

      See further discussion included below under “Description of each Indian casino project and evaluation of critical milestones — Pokagon Band.”

      Shingle Springs Tribe:

      As a result of delays related to litigation surrounding access to the reservation via an interchange, the weighted average estimated casino opening date was extended from July 2008 to November 2008 during the three-month period ended October 2, 2005 (see further discussion below included under the caption “Description of each Indian casino project and evaluation of critical milestones — Shingle Springs”).

      Jamul Tribe:

      As a result of delays related to getting land contiguous to the reservation placed into trust, the weighted average estimated casino opening date was extended from July 2008 to November 2008 during the three-month period ended October 2, 2005. Because of the slow process, during August of 2005, the Jamul Tribe and Lakes formally announced plans to build the casino on the approximate six acres of reservation land held by the Jamul Tribe. Reservation land qualifies for gaming without going through a land in trust process (see further discussion below included under the caption “Description of each Indian casino project and evaluation of critical milestones — Jamul Tribe”).

      The fair value estimation requires that assumptions be made and judgments be applied regarding estimated casino opening dates, projected interest rates, discount rates and probabilities of the projects opening. If the assumptions used in the fair value calculation change significantly the Company could be exposed to unrealized gains or losses that could be material.

      The following table represents a sensitivity analysis prepared by the Company of the notes receivable from the Jamul Tribe, Pokagon Band and Shingle Springs Tribe, based upon a change in the probability rate of the casino opening by five percentage points and the estimated casino opening date by one year:

      The assumption changes used in the sensitivity analysis above are hypothetical. The effect of the variation in the probability assumption and estimated opening date on the estimated fair value of the notes receivable from Indian tribes was calculated without changing any other assumptions; in reality, changes in these factors may result in changes in another. For example, the change in probability could be associated with a change in discount rate, which might magnify or counteract the sensitivities.

      The following represents the nature of the advances to the tribes. The table represents the total amount of advances, which represent the principal amount of the notes receivable, as of October 2, 2005 and January 2, 2005. The notes receivable are carried on the consolidated balance sheets at October 2, 2005 (unaudited) and January 2, 2005 at their estimated fair values of $77.8 million and $67.1 million, respectively.