Summary of SCIENTIFIC GAMES CORP

Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations

The following discussion addresses the results of operations of Scientific Games Corporation (together with its consolidated subsidiaries, "we," "us," "our" or the "Company" unless otherwise specified or the context otherwise requires), for the three and six months ended June 30, 2008, compared to the corresponding periods in the prior year. This discussion should be read in conjunction with "Management's Discussion and Analysis of Financial Condition and Results of Operations" for the fiscal year ended December 31, 2007 included in our 2007 Annual Report on Form 10-K.

Our results may vary significantly from period to period depending on the addition or disposition of business units in each period. The acquisition of OGT in May 2007 affects the comparability of operations for the three and six month periods ended June 30, 2008 and 2007.

The first and fourth quarters of the calendar year traditionally comprise the weakest season for our Diversified Gaming segment. As a result of inclement weather during the winter months, a number of racetracks do not operate and those that do operate often experience missed racing days. This adversely affects the amounts wagered and our corresponding service revenues. Additionally, the fourth quarter is the weakest quarter for Global Draw Limited ("Global Draw") due to reduced wagering during the holiday season. Wagering and lottery equipment sales and software license revenues usually reflect a limited number of large transactions, which do not recur on an annual basis. Consequently, revenues and operating results of our Lottery Systems Group can vary substantially from period to period as a result of the timing of revenue recognition for major equipment sales and software licensing transactions and any Powerball jackpot activity in the quarter. In addition, Printed Products sales may vary depending on the season and timing of contract awards, changes in customer budgets, inventory ticket levels, lottery retail sales and general economic conditions.

Background

We operate primarily in three business segments: Printed Products Group, Lottery Systems Group and Diversified Gaming Group. Our revenues consist of two major components: services revenues and sales revenues.

Printed Products Group

We provide instant tickets and related services. Instant ticket and related services include ticket design and manufacturing as well as value-added services, including game design, sales and marketing support, inventory management and warehousing and fulfillment services. Additionally, this division provides lotteries with over 80 licensed brand products, including Major League Baseball®, National Basketball Association, Harley-Davidson®, Wheel-of-Fortune®, Hasbro®, Corvette®, World Poker Tour® and Deal or No Deal™. This division also includes promotional instant tickets and pull-tab tickets that we sell to both lottery and non-lottery customers.

We are a worldwide manufacturer of prepaid phone cards, which entitle cellular phone users to a defined value of airtime. Prepaid phone cards offer consumers a cost-effective way to purchase cellular airtime, without requiring phone companies to extend credit or consumers to commit to contracts.

Prepaid phone cards utilize the secure process that we employ in the production of instant lottery tickets. This helps to ensure the integrity and reliability of the product, thus providing consumers in more than 50 countries with access to prepaid cellular phone service.

In the fourth quarter of 2007 we sold our interest in International Lotto Corp., SRL ("ILC"), which sale agreement was officially registered with a public notary in January 2008. In April 2008, the buyers of ILC informed us that they were voiding the sale agreement for certain specified reasons. We objected to their position and are now in arbitration in Peru with the buyers and are assessing our other legal rights and obligations.

Lottery Systems Group

Our lottery systems business includes the supply of transaction processing software for the accounting and validation of instant ticket, online and video lottery games, point-of-sale terminal hardware sales, central site computers and communication hardware sales, and ongoing support and maintenance services for these products. This business also includes software and hardware and support services for sports betting and operation of credit card processing systems.

Diversified Gaming Group

Our Diversified Gaming Group provides services and systems to private and public operators in the wide area gaming markets and in the pari-mutuel wagering industry. Our product offering includes server-based gaming machines (including our Nevada™ dual screen terminals, which can offer Great Britain regulated Category B2 or B3 content on the same machines), video lottery terminals ("VLTs"), monitor games, wagering systems for the pari-mutuel racing industry, sports betting systems and services and Great Britain regulated Category C Amusement With Prize ("AWP") and Skill With Prize ("SWP") terminals. Business units within the Diversified Gaming Group include: Global Draw, a leading supplier of gaming terminals, systems and monitor games to licensed bookmakers, primarily in the U.K., Austria and Mexico; Scientific Games Racing LLC, a leading worldwide supplier of computerized systems for pari-mutuel wagering; Games Media Limited ("Games Media"), our AWP and SWP terminal supplier in the U.K. public house (or pub) market; and our pari-mutuel gaming operations in Connecticut, Maine and the Netherlands.

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Results of Operations

Three Months Ended June 30, 2008 Compared to Three Months Ended June 30, 2007

The following analysis compares the results of operations for the quarter ended June 30, 2008 to the results of operations for the quarter ended June 30, 2007.

Overview

Revenue Analysis

For the quarter ended June 30, 2008, total revenue was $306.0 million compared to $269.6 million for the quarter ended June 30, 2007, an increase of $36.4 million or 14%. Our service revenue for the quarter ended June 30, 2008 was $264.7 million compared to $234.7 million for the quarter ended June 30, 2007, an increase of $30.0 million, or 13%. The increase was primarily attributable to an additional month of service revenue from OGT, which was acquired in May 2007 ($8.8 million), a full three months of instant lottery tickets in China in late March 2008 ($11.7 million), increased sales of instant tickets in other venues, increased revenue from our licensed games ($3.5 million) and increased revenue from instant ticket validation services in China ($6.4 million), partially offset by the impact of the re-priced Pennsylvania cooperative services contract, which began impacting revenue during the fourth quarter 2007 ($5.0 million). Our sales revenue for the quarter ended June 30, 2008 was $41.3 million compared to $34.9 million in the quarter ended June 30, 2007, an increase of $6.4 million or 18%. The increase primarily reflects the sale of Wave™ terminals in Italy ($9.4 million), the sale of instant ticket vending machines in Pennsylvania, the sale of VLTs to West Virginia and an up-front license of game software by Global Draw. The increase in sales revenue was partially offset by decreased sales from Games Media reflecting the expected decline in sales of analog AWP terminals as a result of the roll-out of digital AWP terminals, which are being deployed under revenue participation agreements.

Expense Analysis

Cost of services of $152.5 million for the quarter ended June 30, 2008 was $22.8 million or 18% higher than for the quarter ended June 30, 2007. The increase was primarily due to the sale of instant lottery tickets in China including costs for air freight and duty on delivery of instant lottery tickets to China and costs resulting from the increase in revenues from instant tickets and licensed games. Cost of sales of $29.7 million for the quarter ended June 30, 2008 was $3.2 million or 12% higher than the quarter ended June 30, 2007 primarily reflecting increased costs associated with the sale of Wave™ terminals in Italy, the sale of instant ticket vending machines in Pennsylvania and the sale of VLTs to West Virginia, partially offset by reduced costs as a result of the restructuring of our phone card manufacturing in the U.K., lower costs as a result of a decline in sales in Germany and reduced sales from Games Media.

Selling, general and administrative expense of $49.1 million for the quarter ended June 30, 2008 was $8.6 million or 21% higher than for the quarter ended June 30, 2007. The increase was primarily attributable to increased research and development costs, increased legal, compliance and business development costs, our expanded business in China, increased stock-based compensation expense and increased costs from the Global Draw earn-out ($1.7 million). The increase was partially offset by reduced costs from OGT and reduced costs from ILC as a result of our disposal of the business in January 2008.

Depreciation and amortization expense of $35.1 million for the quarter ended June 30, 2008 increased $2.8 million or 9% from the same period in 2007, primarily due to increased costs associated with our new printing press in Georgia and increased depreciation from Global Draw. The increase was partially offset by decreased amortization on licensed property contracts, reduced depreciation from ILC as a result of our disposal of the business in January 2008 and reduced amortization on the South Carolina and Korea contracts.

Interest expense of $14.4 million for the quarter ended June 30, 2008 increased $0.1 million or 1% from the same period in 2007, primarily attributable to increased borrowings, partially offset by a decline in interest rates.

Equity in earnings of joint ventures primarily reflects our share of the earnings from the Italian joint venture Consorzio Lotterie Nazionali ("CLN") in connection with the operation of the Italian Gratta e Vinci instant lottery, our share of the equity of Roberts Communications Network, LLC ("RCN") and our interest in Guard Libang. For the quarter ended June 30, 2008, our share of CLN's income totaled $15.8 million compared to $10.4 million in the quarter ended June 30, 2007. The increase in income for the quarter ended June 30, 2008 reflects continued growth of instant ticket sales in Italy. For the quarter ended June 30, 2008, our share of the earnings of RCN was $0.9 million and our share of the earnings of Guard Libang was $1.4 million.

Early extinguishment of long-term debt of $3.0 million for the three months ended June 30, 2008 reflects the write off of unamortized deferred financing fees related to the Company's credit agreement, dated as of December 23, 2004, as amended and restated as of January 24, 2007 (the "2004 Credit Agreement"), which was extinguished and replaced with the agreement, dated as of June 9, 2008 (the "Credit Agreement"), among SGI, as borrower, the Company, as guarantor, and the several lenders from time to time parties thereto.

Income tax expense was $12.3 million for the quarter ended June 30, 2008 versus $10.3 million for the quarter ended June 30, 2007. The effective income tax rates for the quarters ended June 30, 2008 and 2007 were approximately 29.8% and 27.6% respectively. The increase in the effective income tax rate was primarily due to higher U.S. income taxes in the second quarter of 2008.

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Segment Overview

Printed Products

For the quarter ended June 30, 2008, total revenue for Printed Products was $155.3 million compared to $137.0 million in the quarter ended June 30, 2007, an increase of $18.3 million or 13%. For the quarter ended June 30, 2008, service revenue for Printed Products was $146.8 million compared to $127.0 million in the corresponding period in the prior year, an increase of $19.8 million or 16%. The increase was primarily attributable to an additional month of service revenue from OGT, which was acquired in May 2007 ($8.8 million) and the sale of instant lottery tickets in China ($11.7 million), increased sales of instant lottery tickets in other venues and increased revenue from our licensed games, partially offset by the impact of the re-priced Pennsylvania cooperative services contract, which began impacting revenue during the fourth quarter 2007 ($5.0 million).

Printed Products sales revenue for the quarter ended June 30, 2008 was $8.5 million compared to $10.1 million for the quarter ended June 30, 2007, a decrease of $1.6 million or 16%. The decrease was primarily the result of a decrease in sales in Germany.

Cost of services of $87.4 million for the quarter ended June 30, 2008 was $16.5 million or 23% higher than from the same period in 2007. The increase was primarily due to the sale of instant lottery tickets in China, including costs for air freight and duty on delivery of instant lottery tickets to China and costs resulting from the increase in revenues from instant lottery tickets and licensed games.

Cost of sales of $5.6 million for the quarter ended June 30, 2008 was $2.8 million or 33% lower than for the quarter ended June 30, 2007 primarily due to reduced costs as a result of the restructuring of our phone card manufacturing in the U.K. and lower costs as a result of a decline in sales in Germany.

Selling, general and administrative expense of $15.8 million for the quarter ended June 30, 2008 was $0.1 million or 1% higher than in the quarter ended June 30, 2007. The increase was primarily attributable to increased legal, compliance and business development costs, our expanded business in China and increased stock-based compensation expense, partially offset by reduced costs from OGT and reduced costs from ILC as a result of our disposal of the business in January 2008.

Depreciation and amortization expense of $9.5 million for the quarter ended June 30, 2008 decreased $0.6 million or 6% lower compared to the quarter ended June 30, 2007, primarily due to decreased amortization on licensed property contracts and reduced depreciation from ILC as a result of our disposal of the business in January 2008, partially offset by increased costs associated with our new printing press in Georgia.

Lottery Systems

For the quarter ended June 30, 2008, total revenue for Lottery Systems was $85.8 million compared to $63.3 million in the quarter ended June 30, 2007, an increase of $22.5 million or 36%. Lottery Systems service revenue for the quarter ended June 30, 2008 was $61.3 million compared to $52.8 million for the quarter ended June 30, 2007, an increase of $8.5 million or 16%. The increase was primarily due to increased revenue from instant ticket validation services in China ($6.4 million), an increase in service revenues resulting from favorable exchange rate changes in Europe, and higher jackpots domestically.

Lottery Systems sales revenue for the quarter ended June 30, 2008 was $24.5 million compared to $10.5 million for the quarter ended June 30, 2007, an increase of $14.0 million. The increase was primarily due to the sale of Wave™ terminals in Italy ($9.4 million), the sale of instant ticket vending machines in Pennsylvania and the sale of VLTs to West Virginia.

Cost of services of $31.2 million for the quarter ended June 30, 2008 was $3.1 million or 11% higher than in the quarter ended June 30, 2007. The increase was primarily due to costs associated with our new online contract in Connecticut and increased costs on international Lottery Systems contracts.

Cost of sales of $20.9 million for the quarter ended June 30, 2008 was $15.0 million higher than in the quarter ended June 30, 2007, primarily due to costs associated with the sale of Wave™ terminals in Italy, the sale of instant ticket vending machines in Pennsylvania and the sale of VLTs to West Virginia.

Selling, general and administrative expense of $9.6 million for the quarter ended June 30, 2008 was $2.3 million or 32% higher than in the quarter ended June 30, 2007. The increase was primarily attributable to increased legal, compliance and business development costs, our expanded business in China and increased stock-based compensation expense.

Depreciation and amortization expense of $15.4 million for the quarter ended June 30, 2008 increased $0.2 million or 1% as compared to the quarter ended June 30, 2007, primarily due to increased amortization of deferred installation costs for our Lottery Systems contract in Mexico, partially offset by reduced amortization on the South Carolina and Korea contracts.

Diversified Gaming

For the quarter ended June 30, 2008, total revenue for Diversified Gaming was $64.8 million compared to $69.3 million in the quarter ended June 30, 2007, a decrease of $4.5 million or 6%. Diversified Gaming service revenue for the three months ended June 30, 2008 was $56.5 million compared to $54.9 million for the quarter ended June 30, 2007, an increase of $1.6 million or 3%. The increase in service revenue primarily reflects increased revenue from Global Draw, partially offset by lower revenue on our pari-mutuel contract in Germany as a result of changing to a fixed fee revenue structure and decreased revenue from our venue management business due to lower dollars wagered, or handle.

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The Diversified Gaming sales revenue for the quarter ended June 30, 2008 was $8.3 million compared to $14.4 million in the same quarter in the prior year, a decrease of $6.1 million or 42%. The decrease was primarily due to decreased sales from Games Media ($10.1 million) reflecting the expected decline in sales of analog AWP terminals, as a result of the roll-out of digital AWP terminals, which are being deployed under revenue participation agreements. The decrease was partially offset by an up-front license of game software by Global Draw.

Cost of services of $34.0 million for the quarter ended June 30, 2008 was $3.2 million or 10% higher than for the quarter ended June 30, 2007. The increase was primarily due to cost associated with increased revenue from Global Draw and increased costs associated with our domestic pari-mutuel business. The increase was partially offset by a decline in costs on our pari-mutuel contract in Germany as a result of changing to a fixed fee revenue structure and reduced costs from our venue management business.

Cost of sales of $3.2 million for the quarter ended June 30, 2008 was $9.0 million or 74% lower than for the quarter ended June 30, 2007, primarily due to reduced sales from Games Media.

Selling, general and administrative expense of $7.3 million for the quarter ended June 30, 2008 was $2.1 million or 40% higher than for the quarter ended June 30, 2007. The increase was primarily due to increased costs from the Global Draw earn-out ($1.7 million) and increased costs from Games Media.

Depreciation and amortization expense of $10.0 million for the quarter ended June 30, 2008 increased $3.3 million or 49% from the quarter ended June 30, 2007, primarily due to increased depreciation from Global Draw and Games Media plus increased depreciation from our domestic pari-mutuel business.

Six Months Ended June 30, 2008 Compared to Six Months Ended June 30, 2007

The following analysis compares the results of operations for the six months ended June 30, 2008 to the results of operations for the six months ended June 30, 2007.

Overview

Revenue Analysis

For the six months ended June 30, 2008, total revenue was $563.0 million compared to $511.8 million for the six months ended June 30, 2007, an increase of $51.2 million or 10%. Our service revenue for the six months ended June 30, 2008 was $498.6 million compared to $445.7 million for the six months ended June 30, 2007, an increase of $52.9 million, or 12%. The increase was primarily attributable to an additional four months of service revenue from OGT, which was acquired in May 2007 ($30.7 million), the launch of instant lottery tickets in China ($12.8 million), increased sales to Italy and other venues and revenue from instant ticket validation services in China ($6.4 million). The increase in service revenue was partially offset by the impact of the re-priced Pennsylvania cooperative services contract, which began impacting revenue during the fourth quarter 2007 ($9.6 million). Our sales revenue for the six months ended June 30, 2008 was $64.4 million compared to $66.2 million in the six months ended June 30, 2007, a decrease of $1.8 million or 3%. The decrease primarily reflects decreased sales from Games Media reflecting the expected decline in sales of analog AWP terminals as a result of the roll-out of digital AWP terminals, which are being deployed under revenue participation agreements, the absence of a one-time sale of ticket checker machines in Canada during the first six months of 2007 and a decline in phone card sales. The decrease was partially offset by the sale of Wave™ terminals in Italy ($9.4 million), Lottery Systems sales in Hungary and Norway, the sale of instant ticket vending machines in Pennsylvania, the sale of VLTs to West Virginia and an up-front license of game software by Global Draw.

Expense Analysis

Cost of services of $282.9 million for the six months ended June 30, 2008 was $36.5 million or 15% higher than for the six months ended June 30, 2007. The increase was primarily related to a full six months of costs from OGT, which was acquired in May 2007, and the launch of instant lottery tickets in China, including costs for air freight and duty on delivery of instant lottery tickets to China and costs resulting from the increased sales of instant lottery tickets in Italy and other venues. Cost of sales of $46.6 million for the six months ended June 30, 2008 was $2.3 million or 5% lower than the six months ended June 30, 2007 primarily reflecting the decreased level of phone card sales, lower costs as a result of a decline in sales in Germany, a reduction in cost as a result of the absence of a one-time sale of instant ticket checker machines in Canada during the first six months of 2007 and reduced sales from Games Media. The decrease was partially offset by costs associated with the sale of Wave™ terminals in Italy, the sale of instant ticket vending machines in Pennsylvania and the sale of VLTs in West Virginia.

Selling, general and administrative expense of $98.8 million for the six months ended June 30, 2008 was $19.2 million or 24% higher than for the six months ended June 30, 2007. The increase was primarily attributable to costs from OGT, which was acquired in May 2007, increased expense associated with the restructuring of phone card manufacturing in the U.K. ($3.1 million), increased costs from the Global Draw earn-out ($3.3 million), our expanded business in China, increased stock-based compensation costs and increased legal, compliance and business development costs. The increase was partially offset by reduced costs from OGT and reduced costs from ILC as a result of our disposal of the business in January 2008.

Depreciation and amortization expense of $69.6 million for the six months ended June 30, 2008 increased $8.3 million or 14% from the same period in 2007, primarily due to increased costs associated with our new printing press in Georgia, increased depreciation from Global Draw and increased depreciation from our domestic pari-mutuel business. The increase was partially offset by reduced amortization on the South Carolina and Korea contracts.

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Interest expense of $28.3 million for the six months ended June 30, 2008 increased $1.1 million or 4% from the same period in 2007, primarily attributable to increased borrowings, partially offset by a decline in interest rates.

Equity in earnings of joint ventures primarily reflects our share of the earnings from CLN in connection with the operation of the Italian Gratta e Vinci instant lottery, our share of the equity of RCN and our interest in Guard Libang. For the six months ended June 30, 2008, our share of CLN's income totaled $31.0 million compared to $22.0 million in the six months ended June 30, 2007. The increase in income for the six months ended June 30, 2008 reflects continued growth of instant ticket sales in Italy. For the six months ended June 30, 2008, our share of the earnings of RCN was $1.9 million and our share of the earnings of Guard Libang was $2.3 million.

Early extinguishment of long-term debt of $3.0 million for the six months ended June 30, 2008 reflects the write off of unamortized deferred financing fees related to the Company's credit agreement, dated as of December 23, 2004, as amended and restated as of January 24, 2007, which was terminated and replaced with the credit agreement, dated as of June 9, 2008, among SGI, as borrower, the Company, as guarantor, and the several lenders from time to time parties thereto.

Income tax expense was $20.8 million for the six months ended June 30, 2008 versus $19.8 million for the six months ended June 30, 2007. The effective income tax rates for the six months ended June 30, 2008 and 2007 were approximately 29.9% and 27.6% respectively. The increase in the effective income tax rate was primarily due to higher U.S. income taxes in the first six months of 2008.

Segment Overview

Printed Products

For the six months ended June 30, 2008, total revenue for Printed Products was $291.2 million compared to $250.9 million in the six months ended June 30, 2007, an increase of $40.3 million or 16%. For the six months ended June 30, 2008, service revenue for Printed Products was $274.0 million compared to $231.6 million in the corresponding period in the prior year, an increase of $42.4 million or 18%. The increase was primarily attributable to an additional four months of service revenue from OGT, which was acquired in May 2007 ($30.7 million), the launch of instant lottery tickets in China ($12.8 million) and increased sales in Italy and other venues, partially offset by the impact of the re-priced Pennsylvania cooperative services contract, which began impacting revenue during the fourth quarter 2007 ($9.6 million).

Printed Products sales revenue for the six months ended June 30, 2008 was $17.2 million compared to $19.4 million for the six months ended June 30, 2007, a decrease of $2.2 million or 11%. The decrease was primarily the result of a continuing decline in phone card prices and volumes reflecting a market shift to lower priced products plus a decrease in sales in Germany.

Cost of services of $158.2 million for the six months ended June 30, 2008 was $31.7 million or 25% higher than from the same period in 2007. The increase was primarily due to a full six months of costs from OGT which was acquired in May 2007, the launch of instant lottery tickets in China, including costs for air freight and duty on delivery of instant lottery tickets to China, and increased sales of instant lottery tickets in Italy and other venues, partially offset by reduced costs from ILC as a result of our disposal of the business in January 2008.

Cost of sales of $11.9 million for the six months ended June 30, 2008 was $4.1 million or 26% lower than for the six months ended June 30, 2007 primarily due to the decreased level of phone card sales plus lower costs as a result of a decline in sales in Germany.

Selling, general and administrative expense of $33.5 million for the six months ended June 30, 2008 was $6.3 million or 23% higher than for the six months ended June 30, 2007. The increase was primarily attributable to costs from OGT, which was acquired in May 2007, increased expense associated with the restructuring of phone card manufacturing in the U.K. ($3.1 million), increased costs from our business in China, increased stock-based compensation costs and increased legal, . . .