GPIC Gaming Partners International Corp.

ITEM 2.  MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS.

The following discussion is intended to assist in the understanding of our consolidated results of operations and our present financial condition and should be read in conjunction with our unaudited condensed consolidated financial statements and related notes and the other financial information included in this Quarterly Report on Form 10-Q. The unaudited condensed consolidated financial statements and the accompanying notes contain additional detailed information that should be referred to when reviewing this material. Statements in this discussion may be forward-looking. Such forward-looking statements involve risks and uncertainties that could cause actual results to differ significantly from those expressed. See Item 1A. “Risk Factors,” of our Annual Report on Form 10-K for the fiscal year ended December 31, 2016, filed with the SEC on March 24, 2017.

For a more extensive overview and information on our products, as well as general information, see Item 1. “Business” of our Annual Report on Form 10-K for the fiscal year ended December 31, 2016, filed with the SEC on March 24, 2017.

Overview of Our Business

We custom manufacture and supply casino currency, with multiple security and design options, playing cards, table layouts, gaming furniture, table accessories, dice, and roulette wheels. We also provide multiple RFID technologies including low- and high-frequency RFID casino currency, RFID solutions for casino currency (consisting of low- and high-frequency RFID casino currency readers, antennas, casino currency authentication software, casino currency inventory software applications, and software maintenance services). Our products and services are used with casino table games such as blackjack, poker, baccarat, craps, and roulette. GPIC sells its casino table game equipment under the brand names of Paulson ^® , Bourgogne et Grasset ^® (BG ^® ), Gemaco ^® , Blue Chip ^® (BC ^® ), Dolphin ^® , and Bud Jones ^® .

GPIC is headquartered in North Las Vegas, Nevada, with offices in Blue Springs, Missouri; Atlantic City, New Jersey; Gulfport, Mississippi; San Luis Rio Colorado, Mexico; Beaune, France; and Macau S.A.R., China. We primarily sell our products to licensed casinos worldwide. We operate in one segment and have three operating subsidiaries: GPI USA (including GPI Mexicana, our maquiladora manufacturing operation in Mexico, and our manufacturing operation in Blue Springs, Missouri), GPI SAS, and GPI Asia. Our subsidiaries have the following distribution and product focus:

Historically, we have experienced significant fluctuations in quarterly results primarily due to large, discrete currency orders as a result of casino openings, casino expansions, or large replacement orders. Our backlog, which reflects signed orders scheduled to be delivered over the following twelve months, was as follows at September 30, 2017 and 2016 (in millions):

Outlook

Our results are subject to substantial fluctuations from factors largely out of the Company’s control, most notably the timing of casino openings and major rebranding and reracking of casino currency. These uncertainties will continue to impact revenues and net income. In recent quarters, we disclosed that our results had been negatively impacted by manufacturing problems in our Blue Springs facility impacting the margins earned on playing cards. We made substantial progress in the third quarter toward resolving those issues and improving card margins.

Financial and Operational Highlights

For the third quarter of 2017, our revenues were $24.6 million, an increase of $2.0 million, or 9.2%, compared to revenues of $22.6 million for the same period of 2016. The increase in our revenues was mostly due to an increase in sales of casino currency, offset by a decrease in sales of RFID solutions and a decrease in playing cards sales. For the third quarter of 2017, our net income was $2.2 million, a decrease of $0.2 million, or 9.9%, compared to net income of $2.4 million for the same period in 2016. The decrease in our net income was primarily due to a decrease in RFID solutions sales, a write-down of $0.7 million on slow-moving inventory items and an accrual of $0.6 million for the workforce annual bonus, offset by an increase in currency sales. In the third quarter of 2017, our profitability on our playing cards product line improved compared to the same period in 2016 and compared to the first half of 2017.

For the first nine months of 2017, our revenues were $59.8 million, an increase of $0.8 million, or 1.4%, compared to revenues of $59.0 million for the same period of 2016. The increase in our revenues was mostly due to an increase in sales of casino currency, offset by a decrease in sales of RFID solutions and a decrease in playing cards sales. For the first nine months of 2017, our net income was $3.2 million, a decrease of $1.3 million, or 28.3%, compared to net income of $4.5 million for the same period of 2016. The decrease in our net income was primarily due to a decrease in sales of RFID solutions, a write-down of $0.7 million on slow-moving inventory items, an accrual of $0.6 million for the workforce annual bonus and a reduction in both sales and profitability on our playing cards product line.

Other Matters

See the discussion under “Contractual Obligations and Commercial Commitments” in Part I, Item 2, “Management’s Discussion and Analysis of Financial Condition and Results of Operations” of this Quarterly Report on Form 10-Q.

CRITICAL ACCOUNTING ESTIMATES

Our condensed consolidated financial statements included in this Quarterly Report on Form 10-Q, while unaudited, have been prepared in accordance with U.S. GAAP. Financial statement preparation requires management to make estimates and judgments that affect the reported amounts of assets, liabilities, revenue and expenses, and disclosure of contingent assets and liabilities. The accompanying unaudited condensed consolidated financial statements are prepared using the same critical accounting estimates discussed in our Annual Report on Form 10-K for the fiscal year ended December 31, 2016, filed with the SEC on March 24, 2017. Management bases its estimates on historical experience and on various other assumptions that are believed to be reasonable under the circumstances, the results of which form the basis for making judgments about the carrying values of assets and liabilities that are not readily apparent from other sources. Actual results may differ from these estimates under different assumptions or conditions.

The following tables present certain data by geographic area (dollars in thousands) and as a percentage of revenues:

The following tables present our revenues by product line (dollars in thousands) and as a percentage of revenues:

Comparison of Operations for the Three and Nine Months Ended September 30, 2017 and 2016

Revenues . For the three months ended September 30, 2017, our revenues were $24.6 million, an increase of $2.0 million, or 9.2%, compared to revenues of $22.6 million for the same period of 2016.

For the nine months ended September 30, 2017, our revenues were $59.8 million, an increase of $0.8 million, or 1.4%, compared to revenues of $59.0 million for the same period of 2016.

The increase in revenues was primarily attributable to an increase in sales of casino currency, offset by a decrease in sales of RFID solutions and a decrease in playing cards sales.

Cost of Revenues. For the three months ended September 30, 2017, cost of revenues was $17.5 million, an increase of $2.4 million, or 16.1%, compared to the same period in 2016. As a percentage of revenues, our cost of revenues increased to 70.9% in 2017 compared to 66.7% in 2016.

For the nine months ended September 30, 2017, cost of revenues was $43.0 million, an increase of $2.8 million, or 6.9%, compared to cost of revenues of $40.2 million for the same period in 2016. As a percentage of revenues, our cost of revenues increased to 71.8% in 2017 compared to 68.1% in 2016.

The increase in cost of revenues as a percentage of revenues was driven by the same factors described under Revenues above and Gross Profit below.

Gross Profit. For the three months ended September 30, 2017, gross profit was $7.2 million, a decrease of $0.3 million, or 4.6%, compared to gross profit of $7.5 million for the same period in 2016. As a percentage of revenues, our gross profit decreased to 29.1% from 33.3%. The gross profit decrease was primarily attributable to a decrease in sales of RFID solutions and a write-down of $0.7 million on slow-moving inventory items, offset by an increase in casino currency sales.

For the nine months ended September 30, 2017, gross profit was $16.9 million, a decrease of $1.9 million, or 10.4%, compared to gross profit of $18.8 million for the same period in 2016. As a percentage of revenues, our gross profit decreased to 28.2% from 31.9%. The gross profit decrease was primarily attributable to a decrease in sales of RFID solutions, a write-down of $0.7 million on slow-moving inventory items, and a reduced gross profit on our playing cards product line, offset by an increase in casino currency sales.

Selling, Administrative, and Research and Development Expenses . The following table presents the selling, administrative, and research and development expenses (dollars in thousands) and as a percentage of revenues:

For the three months ended September 30, 2017, selling, administrative, and research and development expenses were $4.1 million, an increase of $0.1 million, or 2.2%, compared to selling, administrative, and research and development expenses of $4.0 million during the same period in 2016.

Marketing and sales expenses remained relatively unchanged in the third quarter of 2017 compared to the same period in 2016. However, the third quarter of 2017 includes an additional $0.2 million expense in compensation and related costs. This is offset by a reduction of $0.2 million in trade-show expense because in 2017 the Global Gaming Expo of Las Vegas (G2E Vegas) took place in October while in 2016 the G2E Vegas was held in September.

General and administrative expenses and research and development expenses remained relatively unchanged in the third quarter of 2017 compared to the same period in 2016.

The following table presents the selling, administrative, and research and development expenses (dollars in thousands) and as a percentage of revenues

For the nine months ended September 30, 2017, selling, administrative, and research and development expenses were $12.3 million, a decrease of $0.2 million, or 1.7%, compared to selling, administrative, and research and development expenses of $12.5 million during the same period in 2016.

Marketing and sales expenses increased by $0.1 million, or 2.2%, during the first nine months of 2017 compared to the same period in 2016, primarily due to a one-time reduction in a deferred compensation item in 2016 for an employee that left the Company and an additional $0.2 million expense in compensation and related costs in 2017, offset by a reduction of $0.2 million in trade-show expense in 2017 as discussed above.

General and administrative expenses decreased by $0.4 million, or 5.6% during the first nine months of 2017 compared to the same period in 2016, primarily due to decreases of $0.3 million in bad debt expense or recovery of accounts receivable and $0.3 million in legal fees, offset by a $0.3 million impairment charge for fixed assets.

Research and development expenses remained relatively unchanged during the first nine months of 2017 compared to the same period in 2016.

Other Income and (Expense), net . The following tables present other net income and (expense) (dollars in thousands) and as a percentage of revenues:

GPI SAS uses the euro as its functional currency. At September 30, 2017 and December 31, 2016, the U.S. dollar to euro exchange rates were $1.18 and $1.05, respectively, which represents a 12.2% weaker dollar compared to the euro. The average exchange rates for the nine months ended September 30, 2017 and 2016 were $1.11 and $1.12, respectively, which represents a 0.9% stronger dollar compared to the euro.

GPI Mexicana uses the U.S. dollar as its functional currency. At September 30, 2017 and December 31, 2016, the Mexican peso to U.S. dollar exchange rates were 18.30 pesos and 20.75 pesos, respectively, which represents a 11.8% weaker dollar compared to the Mexican peso. The average exchange rates for the nine months ended September 30, 2017 and 2016 were 18.90 pesos and 18.31 pesos to the U.S. dollar, respectively, which represents a 3.2% stronger dollar compared to the Mexican peso.

GPI Asia uses the U.S. dollar as its functional currency. At September 30, 2017 and December 31, 2016, the Macau pataca to U.S. dollar exchange rates were 8.05 patacas and 8.20 patacas, respectively, which represents a 1.8% weaker dollar compared to the Macau pataca The Macau pataca to U.S. dollar average exchange rates for the nine months ended September 30, 2017 and 2016 were 8.16 patacas and 8.17 patacas, respectively, which represents a 0.1% weaker dollar compared to the Macau pataca.

Income Taxes. Our effective income tax rate for the three months ended September 30, 2017 and 2016 was 28.5% and 30.6%, respectively. Our effective tax rate for the three months ended September 30, 2017 was unfavorably affected by our Subpart F income adjustment and non-statutory stock options that expired during 2017, partially offset by the foreign rate differential on the income from our Macau S.A.R. subsidiary, GPI Asia, and the benefit from research and low wage tax credits from our French subsidiary, GPI SAS. Our effective tax rate for the three months ended September 30, 2016 was favorably affected by the foreign rate differential on income from GPI Asia and the benefit from a research credit from GPI SAS, partially offset by our Subpart F income adjustment.

Our effective income tax rate for the nine months ended September 30, 2017 and 2016 was 29.8% and 29.3%, respectively. Our effective tax rate for the nine months ended September 30, 2017 was favorably affected by the foreign rate differential on income from GPI Asia and the benefit from research and low wage tax credits from GPI SAS, partially offset by our Subpart F income adjustment and non-statutory stock options that expired during 2017. Our effective tax rate for the nine months ended September 30, 2016 was favorably affected by the foreign rate differential on income from GPI Asia, and the benefit from a research credit from GPI SAS, partially offset by our Subpart F income adjustment.

We account for uncertain tax positions in accordance with applicable accounting guidance. At December 31, 2016, we reported unrecognized tax benefits related to the on-going French Tax Administration’s examination of GPI SAS for tax years 2013 and 2012. It is reasonably possible that the amount of the unrecognized benefit with respect to our unrecognized tax position could change within the next 12 months. This change may be the result of settlement of the ongoing audit or competent authority proceedings. At this time, an estimate of the range of the reasonably possible outcomes cannot be made. We do not expect the examination to be completed within the next twelve months. In addition to the on-going French Tax Administration examination of GPI SAS for tax years 2013 and 2012, the Company received notification in August 2017, of a federal income tax examination by the Internal Revenue Service for the 2015 tax year. As of September 30, 2017, there was no change to the unrecognized tax benefits reported at December 31, 2016.

Liquidity and Capital Resources

Sources of Liquidity and Capital Resources . Historically, our primary source of liquidity and capital has been cash from operations. On June 26, 2015, the Company entered into a Credit Agreement with Nevada State Bank for a combined $15.0 million credit facility, consisting of a $10.0 million seven-year term loan and a $5.0 million five-year revolving loan. The Company borrowed the full amount under the term loan and has not drawn any funds under the revolving loan. Additional information can be found at Note 9 to the unaudited condensed consolidated financial statements included in Part I, Item 1, of this Quarterly Report on Form 10-Q. This description of the material terms and conditions of the Credit Agreement does not purport to be complete and is qualified in its entirety by reference to the full texts of the Credit Agreement, the Pledge and Security Agreement and Irrevocable Proxy, and the Guaranty, which were filed as Exhibits 10.1, 10.2 and 10.3 to the Form 8-K filed with the SEC on July 2, 2015.

Other potential sources of capital include, but are not limited to, additional bank credit facilities and the sale of stock. We believe that we have the resources to satisfy our operating needs for working capital, capital expenditures, purchases of common stock under our stock repurchase program, litigation, dividends or acquisitions for our operations for a minimum of the next twelve months.

At September 30, 2017, we had $12.2 million in cash and cash equivalents. Of this amount, $6.1 million was held by GPI USA, $3.8 million was held by GPI ASIA, and $2.2 million was held by GPI SAS. Of those amounts held in France by GPI SAS and in Mexico by GPI Mexicana, we would be subject to taxation in the United States if we were to repatriate those amounts, although foreign tax credits may be available to offset such taxes. All of the amounts held by GPI Asia, $3.8 million, could be repatriated without further U.S. tax consequences because U.S. federal income taxes have already been paid on these funds. Except for the amounts previously subject to U.S. taxation (e.g. deemed dividends under Subpart F), we continue to assert that earnings from GPI Asia will be permanently reinvested. We may repatriate amounts from GPI SAS and, accordingly, our unaudited condensed consolidated financial statements reflect the tax impacts that would result from repatriation.

Working Capital . The following summarizes our cash and cash equivalents, marketable securities, and working capital (dollars in thousands), and our current ratio:

Cash Flows . The following summarizes our cash flows (dollars in thousands):

The increase in cash flows provided by operating activities was primarily caused by an increase in depreciation adjustment and a decrease in assets, partially offset by a decrease in net income.

The decrease in cash flows used by investing activities was primarily due to a decrease in capital expenditures partially offset by the acquisition of 20% of the outstanding shares of Onlive Gaming SAS. See Note 8 to the unaudited condensed consolidated financial statements included in Part I, Item 1, of this Quarterly Report on Form 10-Q.

C apital Expenditures . We currently intend to purchase approximately $1.0 million in property and equipment during the remainder of 2017.

Cash Dividend. Our Board of Directors has no current plans to pay a regular dividend on our common stock, but may evaluate the merit of paying a special dividend from time to time.

Backlog . At September 30, 2017, our backlog of signed orders for the following twelve months was $22.2 million, consisting of $11.0 million for GPI USA, $10.8 million for GPI ASIA, and $0.4 million for GPI SAS. At September 30, 2016, our backlog of signed orders for the following twelve months was $19.1 million, consisting of $10.1 million for GPI ASIA, $8.4 million for GPI USA, and $0.6 million for GPI SAS.

Contractual Obligations and Commercial Commitments

On May 11, 2016, the Company purchased certain assets dedicated to the design and manufacture of chips and plaques for gaming tables from EGT and Dolphin as described in Note 2 to the unaudited condensed consolidated financial statements included in Part I, Item 1, of this Quarterly Report on Form 10-Q.

Forward-Looking Information Statements and Risk Factors

Throughout this Quarterly Report on Form 10-Q, we make some forward-looking statements which do not relate to historical or current facts, but are forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995. These statements relate to analyses and other information based on forecasts of future results and estimates of amounts not yet determinable that, while considered reasonable by us, are inherently subject to significant business, economic, and competitive risks and uncertainties, many of which are beyond our control and are subject to change. The statements also relate to our future prospects and anticipated performance, development, and business strategies such as statements relating to anticipated future sales or the timing thereof, potential acquisitions, the long-term growth and prospects of our business or any jurisdiction, the duration or effects of unfavorable economic conditions which may reduce our product sales, and the long-term potential of the RFID gaming chips market and our ability to capitalize on any such growth opportunities. These statements are identified by their use of terms and phrases such as anticipate, believe, could, would, estimate, expect, intend, may, plan, predict, project, pursue, will, continue, feel, or the negative or other variations thereof, and other similar terms and phrases, including references to assumptions.

Although we believe that the expectations reflected in any of our forward-looking statements are reasonable, actual results could differ materially from those expressed or implied. Our future financial condition and results of operations, as well as any forward-looking statements, are subject to change and to inherent known and unknown risks and uncertainties such as those identified in Part I-Item 1A. “Risk Factors,” of our Annual Report on Form 10-K for the fiscal year ended December 31, 2016, filed with the SEC on March 24, 2017. We do not intend, and undertake no obligation, to update our forward-looking statements to reflect future events or circumstances.