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.

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

     As of August 5, 2005, there were 121,331,717 of the registrant’s Common Stock outstanding.

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

     We are a global publisher and developer of video game software for both gaming enthusiasts and the mass-market audience, as well as a distributor of video game software in North America. We publish and distribute games for all platforms, including Sony PlayStation and PlayStation 2; Nintendo Game Boy, Game Boy Advance, GameCube, and DS; Microsoft Xbox; and personal computers, referred to as PCs. We also publish and sub-license games for the wireless, internet, and other evolving platforms. Our diverse portfolio of products extends across every major video game genre, including action, adventure, strategy, children, family, driving and sports games.

     Through our relationship with our majority stockholder, Infogrames Entertainment S.A., a French corporation (“IESA”), listed on Euronext, our products are distributed exclusively by IESA throughout Europe, Asia and certain other regions. Similarly, we exclusively distribute IESA’s products in the United States and Canada. Furthermore, we distribute product in Mexico through various non-exclusive agreements. At June 30, 2005, IESA owns approximately 52% of us directly and through its wholly-owned subsidiary California U.S. Holdings, Inc. (“CUSH”) and its majority-owned subsidiary Atari Interactive, Inc. (“Atari Interactive”).

     Due to major shifts in product release dates and increased development investment for future product releases, our results of operations for the first quarter of fiscal 2006 were not in line with prior year or with management expectations. Our net revenues for the first quarter of fiscal 2006 were only 22.4% of those in the same quarter of fiscal 2005. Primarily because of this, we had a net loss of $32.8 million in the first quarter of fiscal 2006, compared with net income of $12.1 million in the same period of the prior year. For the remainder of the 2006 fiscal year, we expect to release significantly fewer titles than we have historically. This trend will continue during fiscal 2007. As a result, our revenue will not be in line with its historical levels. While we have taken, and continue to take, steps to reduce costs, it is unlikely that our cost reductions will fully compensate for the lower revenues.

     Because of the results for the first quarter and the projected results for the remainder of fiscal 2006, we obtained waivers and modifications of financial covenants in our principal credit agreement (Note 9). Management believes they will be able to meet these modified financial covenants, however, unless our results improve, we may have to seek additional waivers or modifications in the future.

     A new generation of game consoles is being introduced in late 2005 and early 2006. While we anticipate that these consoles will be able to play titles developed for the current generation, in order to remain fully competitive, we will have to develop or format titles for the new generation. That will require us to make significant expenditures. We will need new capital to be able to make those expenditures. While we anticipate obtaining some funding from IESA through sales of assets or shares to it, in order to provide liquidity through fiscal 2006, that funding probably will not be sufficient to meet our longer term needs. Therefore, we will have to seek additional capital, and it is possible we will not be able to obtain it.

     In recognition that IESA’s stockholding in Atari is IESA’s most critical investment, the Boards of Directors of IESA have agreed in principle to enter into a series of transactions which improves our financial flexibility and augments our short-term liquidity (Note 13). Furthermore, on August 9, 2005, the Board of IESA approved a provision by IESA of additional capital to Atari sometime during the second quarter of fiscal 2006 in the form of cash and/or IESA stock. It is anticipated that such additional capital to be provided by IESA would approximate at least $12 million. The provision of such capital may be achieved through Atari’s sale to IESA or subsidiary(ies) of IESA of various assets and is currently being negotiated.

     Our accompanying interim consolidated financial statements are unaudited, but in the opinion of management, reflect all adjustments, consisting of normal recurring accruals, necessary for a fair presentation of the results for the interim period in accordance with instructions for Form 10-Q. Accordingly, they do not include all information and notes required by generally accepted accounting principles for complete financial statements. These interim consolidated

financial statements should be read in conjunction with the consolidated financial statements and notes thereto included in our Annual Report on Form 10-K for the year ended March 31, 2005.

     The consolidated financial statements include our accounts and our wholly-owned subsidiaries. All material intercompany transactions and balances have been eliminated.

     The preparation of financial statements in conformity with generally accepted accounting principles in the United States of America requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosures of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenues and expenses during the reporting period. Actual results could materially differ from those estimates.

     Revenue is recognized when title and risk of loss transfer to the customer, provided that collection of the resulting receivable is deemed probable by management.

     We are not contractually obligated to accept returns except for defective product. However, we may permit our customers to return or exchange product and we provide allowances for estimated returns, price concessions, or other allowances on a negotiated basis. We estimate such returns and allowances based upon management’s evaluation of historical experience, market acceptance of products produced, retailer inventory levels, budgeted customer allowances, the nature of the title and existing commitments to customers. Such estimates are deducted from gross sales and provided for at the time revenue is recognized.

     Research and product development costs related to the design, development and testing of new software products, whether internally or externally developed, are charged to expense as incurred. Research and product development costs also include payments for royalty advances (milestone payments) to third-party developers for products that are currently in development.

     Rapid technological innovation, shelf-space competition, shorter product life cycles and buyer selectivity have made it difficult to determine the likelihood of individual product acceptance and success. As a result, we follow the policy of expensing milestone payments as incurred, treating such costs as research and product development expenses. Due to recently implemented enhancements in our internal project planning and acceptance process and anticipated additional improvements in our ability to assess post-release consumer acceptance, we are currently considering a change from expensing such costs when incurred to a method of deferral and amortization over each product’s life cycle. Should management change its method of accounting for product development costs, such change will be implemented prospectively. Management believes that the ability to amortize such costs over the product’s life cycle will result in a better matching of costs and revenues.

     Licenses for intellectual property are capitalized as assets upon the execution of the contract when no significant obligation of performance remains with the third party. If significant obligations remain, the asset is capitalized when payments are due or when performance is completed as opposed to when the contract is executed. These licenses are amortized at the licensor’s royalty rate over unit sales. Management evaluates the carrying value of these capitalized licenses and records an impairment charge (as research and product development expense) in the period management determines that such capitalized amounts are not expected to be realized.

     Financial Accounting Standards Board (“FASB”) Statement No. 142, “Goodwill and Other Intangible Assets”, eliminated goodwill amortization over its estimated useful life. Goodwill is subject to at least an annual assessment for impairment by applying a fair-value based test. Additionally, acquired intangible assets are separately recognized if the benefit of the intangible asset is obtained through contractual or other legal rights, or if the intangible asset can be sold, transferred, licensed, rented or exchanged, regardless of our intent to do so. Intangible assets with finite lives are

amortized over their useful lives. As of March 31, 2005, our annual fair-value based assessment did not result in any impairment of goodwill or intangibles. As of June 30, 2005, we do not believe that there are any indications of impairment of goodwill or intangibles. However, future changes in the facts and circumstances relating to our goodwill and other intangible assets could result in an impairment of intangible assets in subsequent periods.

     Other intangible assets approximate $0.7 million and $0.6 million, net of accumulated amortization of $2.0 million and $2.1 million at March 31, 2005 and June 30, 2005, respectively.

     FASB Statement No. 107, “Disclosure About Fair Value of Financial Instruments”, requires certain disclosures regarding the fair value of financial instruments. Cash, accounts receivable, accounts payable, accrued liabilities, restructuring reserve, royalties payable, assets and liabilities of discontinued operations, and amounts due to and from related parties are reflected in the consolidated financial statements at fair value due to the short-term maturity and the denomination in U.S. dollars of these instruments.

     We review long-lived assets, such as fixed assets to be held, for impairment annually or whenever events or changes in circumstances indicate that the carrying amount of an asset may not be fully recoverable. If the estimated fair market value of the asset is less than the carrying amount of the asset plus the cost to dispose, an impairment loss is recognized as the amount by which the carrying amount of the asset plus the cost to dispose exceeds its fair value, as defined in FASB Statement No. 144, “Accounting for the Impairment of Long-Lived Assets and for Long-Lived Assets to be Disposed Of”.

     We account for income taxes using the asset and liability method of accounting for income taxes. Under this method, deferred tax assets and liabilities are determined based on differences between financial reporting and tax bases of assets and liabilities and are measured using the enacted tax rates in effect for the years in which the differences are expected to reverse. We record an allowance to reduce tax assets to an estimated realizable amount. We monitor our tax liability on a quarterly basis and record the estimated tax obligation based on our current year-to-date taxable income and expectations of the full year results.

     Basic net income (loss) per share is computed by dividing net income (loss) by the weighted average number of shares of common stock outstanding for the period. Diluted net income (loss) per share reflects the potential dilution that could occur from shares of common stock issuable through stock-based compensation plans, including stock options and warrants, using the treasury stock method. The following is a reconciliation of basic and diluted net income (loss) per share (in thousands, except per share data):

     The number of antidilutive shares that were excluded from the diluted earnings per share calculation for the three months ended June 30, 2004 and 2005 were 6,747,000 and 9,697,000, respectively. For the three months ended June 30, 2004, the shares were antidilutive due to stock options and warrants in which the exercise price was greater than the average market price of the common shares during the period. For the three months ended June 30, 2005, the shares were antidilutive due to the net loss for the period.

     We account for employee stock option plans under the intrinsic value method prescribed by Accounting Principles Board (“APB”) Opinion No. 25, “Accounting for Stock Issued to Employees” and related interpretations. Any equity instruments issued, other than to employees, for acquiring goods and services are accounted for using fair value at the date of grant. We have also adopted the disclosure provisions of FASB Statement No. 123, “Accounting for Stock-Based Compensation”, as amended by FASB Statement No. 148, “Accounting for Stock-Based Compensation – Transition and Disclosure – an Amendment to FASB Statement No. 123”.

     At June 30, 2005, we had three stock option plans. All options granted under those plans generally have an exercise price equal to the market value of the underlying common stock on the date of grant; therefore, no compensation cost is recognized. The following table illustrates the effect on the income (loss) from continuing operations per share and net income (loss) if we had applied the fair value recognition provisions of the FASB Statement No. 123, “Accounting for Stock-Based Compensation”, to stock-based employee compensation (in thousands, except per share data):

     The fair market value of options granted under stock option plans during the three months ended June 30, 2004 and 2005 was determined using the Black-Scholes option pricing model utilizing the following assumptions:

     In December 2004, the FASB issued Statement No. 153, “Exchanges of Nonmonetary Assets”. This Statement requires that exchanges of nonmonetary assets be measured based on the fair value of the assets exchanged. Statement No. 153 is effective for nonmonetary asset exchanges occurring in fiscal periods beginning after June 15, 2005. Management believes that the issuance of this statement will not have any effect on our results of operations.

     In December 2004, the FASB issued Statement No. 123-R, “Share Based Payments”. Statement No. 123-R is a revision of Statement No. 123, “Accounting for Stock-Based Compensation” and supersedes APB Opinion No. 25, “Accounting for Stock Issued to Employees”. Statement No. 123-R eliminates the alternative to use the intrinsic value method of accounting that was provided in Statement No. 123, which generally resulted in no compensation expense recorded in the financial statements related to the issuance of equity awards to employees. Statement No. 123-R establishes fair value as the measurement objective in accounting for share-based payment arrangements and requires all companies to apply a fair value based measurement method in accounting for generally all share-based payment transactions with employees.

     We plan to adopt Statement No. 123-R using a modified prospective application. Under this application, companies are required to record compensation expense for all awards granted after the required effective date and for the unvested portion of previously granted awards that remain outstanding at the date of adoption. The provisions of Statement No. 123-R are effective as of the beginning of the first annual reporting period that begins after June 15, 2005, but early adoption is encouraged. As of June 30, 2005, management is currently reviewing the effect that the adoption of Statement No. 123-R will have on our result of operations.

     In May 2005, the FASB issued Statement No. 154, “Accounting Changes and Error Corrections—a replacement of APB Opinion No. 20 and FASB Statement No. 3”. Statement No. 154 requires that voluntary changes in accounting principle be retroactively applied to prior period financial statements unless it is impracticable to determine the period-specific effects or the cumulative effect of the accounting change. As of June 30, 2005, management is currently reviewing the effect, if any, that the adoption of Statement No. 154 will have on our results of operations.

     In June 2005, the Emerging Issues Task Force (“EITF”) issued EITF Issue No. 05-6, “Determining the Amortization Period for Leasehold Improvements Purchased after Lease Inception or Acquired in a Business Combination”. Issue No. 05-6 states that leasehold improvements that are placed in service significantly after the beginning of the lease term should be amortized over the shorter of the useful life of the assets or a term that includes required lease periods and renewals that are deemed to be reasonably assured at the date the leasehold improvements are purchased. The pronouncement is effective for leasehold improvements that are purchased or acquired in reporting periods beginning after June 29, 2005. We do not expect that the adoption of this issue will have a material impact on our results of operations.

     In June 2005, the FASB issued FASB Staff Position (“FSP”) No. FAS 150-5. This FSP clarifies that freestanding warrants and other similar instruments on shares that are redeemable (either puttable or mandatorily redeemable) should be accounted for as liabilities under FASB Statement No. 150, “Accounting for Certain Financial Instruments with Characteristics of Both Liabilities and Equity”, regardless of the timing of the redemption feature or price, even though the underlying shares may be classified as equity. This FSP is effective for the first reporting period beginning after June 30, 2005. As of June 30, 2005, we do not expect that the adoption of this statement will have a material impact on our financial statements.

     Receivables consist of the following (in thousands):

     Inventories consist of the following (in thousands):

     Prepaid expenses and other current assets consist of the following (in thousands):

     Accrued liabilities consist of the following (in thousands):

     As of June 30, 2005, we have combined net operating loss carryforwards of approximately $510.2 million for federal and state tax purposes. These loss carryforwards are available to offset future taxable income, if any, and will expire beginning in the years 2009 through 2025. We experienced an ownership change in 1999 as a result of the acquisition by IESA. Under Section 382 of the Internal Revenue Code, when there is an ownership change, the pre-ownership-change loss carryforwards are subject to an annual limitation which could reduce or defer the utilization of these losses. Pre-acquisition losses of approximately $186.8 million are subject to an annual limitation (approximately $7.2 million). A full valuation allowance has been recorded against the net deferred tax asset based on our historical operating results and the conclusion that it is more likely than not that such asset will not be realized. Management reassesses its position with regard to the valuation allowance on a quarterly basis.

     During the three months ended June 30, 2005, no tax provisions were recorded due to the taxable loss recorded for the quarter. During the three months ended June 30, 2004, we recorded federal and state alternative minimum tax provisions of approximately $0.3 million and regular provisions for state taxes of approximately $0.3 million.

     The following table provides a detailed break out of related party amounts within each line of our Consolidated Statements of Operations (in thousands):

     Royalties transactions are as follows (in thousands):

     As of March 31, 2005 and June 30, 2005, the following amounts are outstanding with regard to related party royalty transactions and are included in due from related parties (in thousands):

     We engage certain related party development studios to provide services such as product development, design, and testing. Development transactions are as follows (in thousands):

     With respect to these related party development studios, payables of $0.4 million and $2.5 million, respectively, were outstanding as of March 31, 2005 and June 30, 2005 and were included in due to related parties.

     IESA distributes our products in Europe, Asia, and certain other regions, and pays us royalties in this respect. IESA also develops products which we distribute in the U.S., Canada, and Mexico, and for which we pay royalties to IESA. Both IESA and Atari Interactive, through the ownership of intellectual property or through the development of products, are material sources of products which we market in the United States and Canada. During fiscal 2005, Atari Interactive was the source of approximately 38% of our net revenue and we generated approximately 5% of our net revenue from royalties on IESA’s distribution of our products in Europe, Asia, and certain other regions. For the three months ended June 30, 2005, Atari Interactive was the source of approximately 37% of our net revenues and we generated a nominal amount of net revenues from royalties on IESA’s distribution of our products in Europe, Asia, and certain other regions.

     As of the date of this report, IESA beneficially owns, directly and indirectly, approximately 52% of our stock. IESA has incurred significant continuing operating losses and is highly leveraged. IESA has taken steps to improve its financial situation, including (i) restructuring its outstanding debt obligations such that the debt amount is reduced and the debt maturity schedule is more favorable, (ii) reducing operating expenses, (iii) raising capital by selling (through CUSH) 11,000,000 of its shares in Atari, pursuant to a registration statement, (iv) entering into banking arrangements to fund operations and position itself for the new hardware cycle, (v) selling assets, such as its rights in the Civilization franchise and certain of its rights under its previous license with Hasbro, and (vi) entering into production fund agreements to finance certain game development projects. However, IESA has not yet completed all of the actions it plans to take in order to improve its operations and reduce its debt. As a result, IESA’s current ability to fund, among other things, its subsidiaries’ operations is limited.

     There can be no assurance that IESA will complete sufficient actions to assure its future financial stability. If IESA is unable to complete its action plan, address its liquidity problems, and fund its working capital needs, IESA would likely be unable to fund its subsidiaries’ video game development operations, including that of Atari Interactive and us. Therefore, our results of operations could be materially impaired, as any delay or cessation in product development could materially decrease our revenue from the distribution of products. In addition, based on the proposed transactions between us and IESA that are disclosed in this filing, if IESA fails to complete such transactions this will negatively affect our results of operations and our liquidity. If our results of operations and/or liquidity are materially impaired, this could result in a breach of one or more of the covenants contained in our revolving credit facility with HSBC.

     If the above contingencies occurred, we probably would be forced to take actions that could include, but would not necessarily be limited to, a significant reduction in our expenditures for internal and external new product development and the implementation of a comprehensive cost reduction program to reduce our overhead expenses. These actions, should they become necessary, could result in a significant reduction in the size of our operations and could have a material adverse effect on our revenue and cash flows. At present there can be no assurance regarding any of the foregoing contingencies and management will continue to monitor these developments closely.

     Not withstanding the foregoing, IESA has represented to Atari’s management that they will fund transactions between us, as discussed above, through a variety of means, including additional funding, capital contribution, modification of the terms of existing indebtedness and related party licensing arrangements, and the sale of IESA stock and/or assets for cash. It is our understanding that IESA’s current financial position would not prohibit IESA’s ability to consummate any such transactions.

     Additionally, though Atari is a separate and independent legal entity and we are not a party to, or a guarantor of, and have no obligations or liability in respect of IESA’s indebtedness (except that we have guaranteed the Beverly, MA lease obligation of Atari Interactive), because IESA owns a majority of our stock, potential investors and current and potential business/trade partners may view IESA’s financial situation with its creditors as relevant to an assessment of Atari. Therefore, if IESA is unable to address its financial issues with its creditors, it may taint our relationship with our suppliers and distributors, damage our business reputation, affect our ability to generate business and enter into agreements on financially favorable terms, and otherwise impair our ability to raise and generate capital. IESA continues to focus on ways to address and improve its financial situation.

     During the three months ended June 30, 2005, no significant claims were asserted against or by us that, in management’s opinion, the likely resolution of which would have a material adverse affect on our liquidity, financial condition or results of operations, although we are involved in various claims and legal actions arising in the ordinary course of business. The following is a summary of pending litigation matters in which there were material developments during the quarter. With respect to matters in which we are the defendant, we believe that the underlying complaints are without merit and intend to defend ourselves vigorously.

     Our management believes that the ultimate resolution of any of the matters summarized below and/or any other claims which are not stated herein will not have a material adverse effect on our liquidity, financial condition or results of operations.

     On September 16, 2002, Knight Bridging Korea Co., Ltd. (“KBK”), a distributor of electronic games via the Internet and local area networks, filed a lawsuit against Gamesonline.com, Inc. (“Gamesonline”), a subsidiary of Interplay Entertainment Corp. (“Interplay”), and us in Superior Court of California, Orange County. KBK alleges that on or about December 15, 2001, KBK entered into a contract with Gamesonline to obtain the right to localize and distribute electronically in Korea, Neverwinter Nights and certain back list games. The Complaint further alleges that Gamesonline and we conspired to prevent KBK from entering the market with Neverwinter Nights or any back title of Gamesonline. The Complaint alleges the following causes of action against us: misappropriation of trade secrets under the California Uniform Trade Secrets Act; common law misappropriation; intentional interference with contract; negligent interference with contract; intentional interference with prospective economic advantage; negligent interference with prospective economic advantage; and violation of Business & Professions Code Section 17200 et seq. The Complaint seeks $98.8 million for each of these causes of action.

     An Amended Complaint was filed on December 3, 2002, alleging all of the foregoing against us, adding Atari Interactive as a named defendant, and alleging that we managed and directed Atari Interactive to engage in the foregoing alleged acts. We and Atari Interactive filed Answers on January 9, 2003. On or about January 28, 2003, Gamesonline answered the original Complaint and served a Cross-Complaint against KBK. On April 29, 2003, KBK named defendants Does 2, 3 and 4 as “Infogrames Asia Pacific”, “Infogrames Korea” and “Interplay, Inc.”, respectively. On October 29, 2003, Interplay filed a cross-complaint against us, Atari Interactive, Infogrames Korea and Roes 101 through 200. We and Atari Interactive filed an Answer on December 3, 2003. On March 25, 2004 KBK filed a Second Amended Complaint for Damages adding new causes of action for fraud against Gamesonline and Interplay; seeking rescission of the Electronic Distribution Agreement between KBK and Gamesonline; for “breach of third party beneficiary rights” against Atari Interactive; for unlawful restraint of trade against all defendants; for RICO Act violations against all defendants; and for civil conspiracy against all defendants; and adds allegations of alter ego status between Gamesonline and Interplay and as between us, Atari Interactive, and Atari Korea.

     We and Atari Interactive prevailed on a Motion for Leave to File a Cross-Complaint against Interplay and Gamesonline. We and Atari Interactive also prevailed on a Motion for Summary Adjudication on the RICO Act claim.

     On July 1, 2004, KBK filed a Third Amended Complaint whereby certain previous allegations were either omitted or clarified as a result of the Court’s rulings at the June 17, 2004 hearings.

     On or about October 1, 2004, KBK’s litigation counsel resigned. On October 8, 2004, we and Atari Interactive filed an ex parte application to strike KBK’s pleadings or, in the alternative, for an order shortening the time to hear such application as noticed motions. The ex parte application was heard and denied on October 11, 2004 but the Court did grant the application for a shortened period of time to hear such application as noticed motions. On October 19, 2004, the Court granted our Motion to Strike KBK’s pleadings due to the fact that KBK has no counsel to represent it in the litigation and did not file any opposition to the motion. The Court dismissed KBK’s complaint without prejudice.

     On June 27, 2005, the Court entered judgment in favor of the Company and the other defendants and dismissed the cross-claims without prejudice.

Atari, Inc., Atari Interactive, Inc., and Hasbro, Inc. v. Games, Inc., Roger W. Ach, II , and Chicago West Pullman LLC

     On May 17, 2004, we and Atari Interactive together with Hasbro, Inc. (“Hasbro”) filed a complaint against Games, Inc., its CEO, Roger W. Ach, II (“Ach”), and Chicago West Pullman LLC in the United States District Court for the Southern District of New York and sought a temporary restraining order and preliminary injunction to stop Games, Inc.’s and Ach’s use of certain trademarks and copyrights owned by Atari Interactive and Hasbro. The plaintiffs allege that an interim license that we granted to Games, Inc. for the development and publication of certain games in a specified online format expired by its terms when Games, Inc. failed to pay us certain fees by April 30, 2004, pursuant to an Asset Purchase, License and Assignment Agreement between us and Games, Inc. dated December 31, 2003, as amended. The plaintiffs allege that Games, Inc.’s failure to pay voided an expected transfer of the “Games.com” domain name and certain web site assets from us to Games, Inc. and constituted a breach of contract and that Chicago West Pullman LLC’s failure to pay constituted a breach of guarantee. The plaintiffs further allege that upon the expiration of the interim license, all intellectual property rights granted under that license reverted back to us, but that Games, Inc. nevertheless continued to

use plaintiffs’ intellectual property. On May 18, 2004, the Court granted a temporary restraining order against Games, Inc. and Ach and scheduled a preliminary injunction hearing for May 28, 2004, which was postponed until June 11, 2004. Prior to that hearing, Games, Inc. agreed to the preliminary injunction and the Court signed an order granting the preliminary injunction pending the outcome of the case.

     On June 16, 2004, Games, Inc. served its Answer and Counterclaim to the Complaint. In its counterclaim, Games, Inc. alleges that plaintiffs breached the Asset Purchase, License and Assignment Agreement and a Settlement Agreement dated March 31, 2004 by, inter alia, licensing other web sites to use on-line play of certain Atari and Hasbro games that Games, Inc. claimed were part of its exclusive license under the Agreement.

     On February 23, 2005, the Court issued an order granting plaintiffs’ motion to dismiss certain of Games, Inc.’s counterclaims, and on March 11, 2005, the court granted our motion for summary judgment on its breach of contract claim and dismissed Games, Inc.’s remaining counterclaims. The Court denied Games, Inc.’s motion for reconsideration on April 4, 2005. On May 4, 2005, the Court issued a memorandum order granting us and Atari Interactive damages in the following amount: (1) immediate payment of approximately $3.1 million, plus interest at an annual rate of nine percent from April 30, 2004; (2) immediate redemption of 10,250 shares of Games, Inc. stock for $1.025 million, plus interest at an annual rate of nine percent from April 30, 2004; (3) immediate redemption of 10,000 additional shares of Games, Inc. stock for $1 million; (4) redemption of the remaining 10,000 shares at any time after December 29, 2005. The order provides that the “judgment runs directly against Games, Inc. but in the event Games fails to satisfy it, it runs secondarily against Chicago West Pullman LLC and Ach.” The Court’s order also lifts the preliminary injunction imposed at the outset of the case.

     Ach filed a motion for reconsideration concerning the Court’s ruling that the judgment would run directly against Ach, and Atari requested that the Court issue a permanent injunction and clarify certain aspects of the judgment. On May 27, 2005, the Court issued an order denying Ach’s motion for reconsideration and confirming its earlier ruling that the judgment would run against Ach personally. The Court also clarified that after December 29, 2005, Atari is entitled to an additional $1 million, representing the cash redemption value of the last 10,000 shares of Games, Inc. stock. The Court also issued a permanent injunction barring Games, Inc. from “selling or distributing any product that contains the intellectual property” that is the subject of the asset purchase agreement. The remaining elements of the original judgment remained in place.

     On June 29, 2005, the Clerk of the District Court entered an amended judgment, stating that Atari was entitled to the following damages: (1) immediate payment of $3,104,108, plus interest at the annual rate of 9% from April 30, 2004, (2) immediate redemption of the initial 10,250 shares for $1.025 million, plus interest at the annual rate of 9% from April 30, 2004, (3) immediate redemption of 10,000 additional shares for $1 million, (4) the $50,000 bond that plaintiffs posted on May 19, 2004 to secure a temporary restraining order in this case is exonerated, (5) redemption of the remaining 10,000 shares at any time after December 29, 2005 at a price of $100 per share, for a total of $1 million, (6) plaintiffs collectively are entitled to recoup their $150 filing fee, (7) this judgment runs directly against Games, but in the event Games fails to satisfy it, it runs secondarily against Chicago West Pullman and Ach, (8) the preliminary injunction is lifted, and (9) defendant Games, Inc. is enjoined from selling or distributing any product that contains the intellectual property it licensed in its contract with Atari, Inc.

     On June 30, 2005, defendants filed a Notice of Appeal to the United States Court of Appeals for the Second Circuit.

     On July 6, 2005, defendants filed a motion for a stay of enforcement of amended judgment pending resolution of appeal. On July 13, 2005, the Court of Appeals granted a temporary stay of execution and ordered defendants to post a supersedeas bond in the amount of $1 million to be posted on or before July 20, 2005 for the stay to continue. On July 19, 2005, plaintiffs filed their opposition to defendants’ motion. On July 26, defendants filed a Letter of Credit issued to Atari, Inc. as beneficiary.

     On August 2, 2005, the Court of Appeals heard oral argument on defendants’ motion for a stay. On August 3, 2005, the Court of Appeals denied defendants’ motion for a stay, holding that defendants did not show a substantial likelihood of success on appeal or that they would suffer irreparable injury if a stay was not issued. On August 4, 2005, the Court of Appeals set a schedule for defendants’ appeal.

     On January 13, 2005, we were served with a Complaint filed by Codemasters, Inc. (“Codemasters”), against us in New York Supreme Court, County of New York. The causes of action arise out of contractual disputes regarding payments owed by each party to the other. Codemasters’ causes of action include breach of contract, failure to respond to submitted statements of account and unjust enrichment. Codemasters is seeking relief in the amount of approximately $0.9 million and such other relief as may be just and proper, including interests, costs associated with the suit. In February 2005, we answered the Complaint and also served Counterclaims. The parties settled the matter on May 5, 2005. Pursuant to the Settlement Agreement, we paid Codemasters approximately $0.3 million.

     HSBC Loan and Security Agreement

     On May 13, 2005 (last amended August 9, 2005), we obtained a one year $50.0 million revolving credit facility with HSBC, pursuant to a Loan and Security Agreement, to fund our working capital and general corporate needs. Loans under the revolving credit facility are determined based on percentages of our eligible receivables and eligible inventory for certain seasonal peak periods. The revolving credit facility bears interest at prime for daily borrowings or LIBOR plus 1.75% for borrowings with a maturity of 30 days or greater. We are required to pay a commitment fee of 0.25% on the average unused portion of the facility quarterly in arrears and closing costs of approximately $0.1 million. The revolving credit facility contains certain financial covenants that require us to maintain enumerated EBITDA, tangible net worth, and working capital minimums. In addition, amounts outstanding under the revolving credit facility are secured by liens on substantially all of our present and future assets, including accounts receivable, inventory, general intangibles, fixtures, and equipment and excluding certain non-U.S. assets. As of June 30, 2005, no borrowings were outstanding under the revolving credit facility; however $1.2 million of letters of credit were outstanding. Additionally, a nominal amount of accrued interest was included in accrued liabilities as of June 30, 2005.

     As of June 30, 2005, we did not meet the financial covenants in our HSBC revolving credit facility. We have secured a waiver of those covenants for the first quarter and have executed an amendment, reducing the financial thresholds for the remaining quarters of fiscal 2006. Management believes they will be able to meet the modified financial covenants, however, we cannot guarantee that we will meet the revised covenants going-forward. If we do not meet those financial covenants, we cannot guarantee that we will be able to obtain necessary waivers or amendments. In the event we cannot secure waivers or amendments, the HSBC revolving credit facility may no longer be available for use, which would negatively impact our operations and operating results. Management is prepared to take significant actions to compensate for the loss of the credit facility which include the sale of major assets, a reduction in our expenditures for internal and external new product development, and further reduction in overhead expense. These actions, should they become necessary, will result in a significant reduction in the size of our operations.

     GECC Senior Credit Facility

     On November 12, 2002, we obtained a 30-month $50.0 million secured revolving credit facility (“Senior Credit Facility”) with General Electric Capital Corporation (“GECC”) to fund our working capital and general corporate needs. Loans under the Senior Credit Facility were based on a borrowing base comprised of the value of our accounts receivable and short-term marketable securities. The Senior Credit Facility bore interest at prime plus 1.25% for daily borrowings or LIBOR plus 3% for borrowings with a maturity of 30 days or greater. A commitment fee of 0.5% on the average unused portion of the facility was payable monthly and we paid $0.6 million as an initial commitment fee at closing.

     The senior credit facility expired on May 12, 2005.

     In the fourth quarter of fiscal 2005, following the guidance established under FASB Statement No. 144 “Accounting for the Impairment or Disposal of Long-Lived Assets”, management committed to a plan to divest of our Humongous Entertainment development studio (“Humongous”). This is expected to occur in the twelve months following the end of fiscal 2005.

     At June 30, 2005, the assets and liabilities of Humongous are presented separately on our Consolidated Balance Sheets. The components of the assets and liabilities of discontinued operations are as follows (in thousands):

     As a result of management’s plan to divest of Humongous, during the first quarter of fiscal 2006, following the guidance established under FASB Statement No. 146, “Accounting for Costs Associated with Exit or Disposal Activities”, we recorded a severance charge of approximately $0.5 million for the termination of Humongous employees. This charge is included in the loss from discontinued operations for the three months ended June 30, 2005, and the liability for this charge is included in liabilities of discontinued operations.

     As Humongous represents a component of our business and its results of operations and cash flows can be separated from the rest of our operations, the results for the periods presented are disclosed as discontinued operations on the face of the Consolidated Statements of Operations and Comprehensive Income (Loss). Net revenues and loss from discontinued operations for the three months ended June 30, 2004 and 2005 are as follows (in thousands):

     Prior to the recording of discontinued operations, Humongous was reported as part of our publishing segment (Note 12).

     During the fourth quarter of fiscal 2005, following the guidance established under FASB Statement No. 146, “Accounting for Costs Associated with Exit or Disposal Activities”, management announced a restructuring plan to strengthen our competitive position in the marketplace as well as enhance shareholder value. During the three months ended June 30, 2005, we recorded restructuring expenses of $2.2 million, which include the termination of several key executives as well as severance and other charges related to the closing of the Beverly, MA, and Santa Monica, CA, publishing studios and the transfer of all publishing operations to the New York office. The charge of $2.2 million is comprised of the following (in thousands):

     We expect to incur an additional $3.0 million to $6.0 million in order to complete management’s restructuring plan. We will incur these costs through early fiscal 2007.

     The following is a reconciliation of our restructuring reserve from inception through June 30, 2005 (in thousands):

     The charge of $0.3 million for the modification of stock options was recorded as an increase to additional paid-in capital.

     We have three reportable segments: publishing, distribution and corporate. Publishing was comprised of two studios located in Santa Monica, California and Beverly, Massachusetts. As part of our restructuring plan, the Beverly studio was closed in the first quarter of fiscal 2006 and the Santa Monica studio will be closed before the end of fiscal 2006; all publishing operations are currently being transferred to the New York office. Distribution constitutes the sale of other publishers’ titles to various mass merchants and other retailers. Corporate includes the costs of senior executive management, legal, finance, administration, and restructuring charges. The majority of depreciation expense for fixed assets is charged to the corporate segment and a portion is recorded in the publishing segment. This amount consists of depreciation on computers and office furniture in the publishing unit. Historically, we do not separately track or maintain records, other than fixed asset records, which identify assets by segment and, accordingly, such information is not available.

     The accounting policies of the segments are the same as those described in the summary of significant accounting policies. We evaluate performance based on operating results of these segments.

     The results of operations for Humongous are not included in our segment reporting as they are classified as discontinued operations in our Consolidated Financial Statements (Note 10).

     Our reportable segments are strategic business units with different associated costs and profit margins. They are managed separately because each business unit requires different planning, and where appropriate, merchandising and marketing strategies.

     The following summary represents the consolidated net revenues, operating income (loss), depreciation and amortization, and interest expense by reportable segment for the three months ended June 30, 2004 and 2005:

     The Board of Directors of both IESA and Atari, Inc. have approved in principle a series of transactions which would improve our financial flexibility and augment our short-term liquid as follows:

     Atari Interactive has agreed in principle to buy, either directly or through a newly formed subsidiary, the intellectual property for $7.0 million and assume certain license liabilities of the Humongous Entertainment development studio. At the current sale price, we do not expect to record a loss as a result of this transaction. Furthermore, under the guidelines established by generally accepted accounting principles, we will not record a gain from the sale and any excess consideration received over the net book value of the net assets sold will be recorded as additional paid-in capital from IESA, our majority stockholder. As the Humongous development studio is a component of our publishing business, a portion of the goodwill, approximating $3.3 million, will be assigned to the net assets disposed upon the closing of this transaction. Furthermore, we will continue to distribute the remaining Humongous products under development through a new distribution agreement to be negotiated as part of this transaction. Management expects this transaction to close on or about August 31, 2005.

     IESA has agreed to accept common stock in lieu of cash as payment for certain development costs. Currently, certain of IESA’s development studios are working on various development projects for us. In the second quarter of fiscal 2006, we expect to incur liabilities or owe amounts totaling approximately $4.6 million which we will pay using our common stock. We expect these shares to be issued during the second quarter of fiscal 2006. Management expects an agreement regarding this arrangement to close on or about August 31, 2005.

     IESA has agreed to accept common stock in lieu of cash as payment for a settlement of certain liabilities owed by one of our foreign subsidiaries. These liabilities of approximately £0.9 million resulted from payments made by Atari UK, Ltd, a wholly-owned subsidiary of IESA, on behalf of GT Interactive UK Ltd, (“GT UK”) our now dormant wholly-owned subsidiary. These payments represented various legal and accounting fees and trade payables owed by GT UK incurred and accrued for as of March 31, 2000 in connection with the cessation of its operations. We expect this transaction to close on or about August 15, 2005.

     This document includes statements that may constitute forward-looking statements made pursuant to the Safe Harbor provisions of the Private Securities Litigation Reform Act of 1995. We caution readers regarding certain forward-looking statements in this document, press releases, securities filings, and all other documents and communications. All statements, other than statements of historical fact, including statements regarding industry prospects and future results of operations or financial position, made in this Quarterly Report on Form 10-Q are forward looking. The words “believe”, “expect”, “anticipate”, “intend” and similar expressions generally identify forward-looking statements. While we believe in the veracity of all statements made herein, forward-looking statements are necessarily based upon a number of estimates and assumptions that, while considered reasonable by us, are inherently subject to significant business, economic and competitive uncertainties and contingencies and known and unknown risks. As a result of such risks, our actual results could differ materially from those expressed in any forward-looking statements made by, or on behalf of, us. Some of the factors which could cause our results to differ materially include the following: the loss of key customers, such as Wal-Mart, Best Buy, Target, GameStop and Electronics Boutique; delays in product development and related product release schedules; inability to secure capital; loss of our credit facility; adapting to the rapidly changing industry technology, including new console technology; maintaining relationships with leading independent video game software developers; maintaining or acquiring licenses to intellectual property; fluctuations in the Company’s quarterly net revenues and results of operations based on the seasonality of our industry; and the termination or modification of our agreements with hardware manufacturers. Please see the “Risk Factors” in our Annual Report on Form 10-K for the year ended March 31, 2005 on file with the Securities and Exchange Commission for a description of some, but not all, risks, uncertainties and contingencies. Except as otherwise required by the applicable securities laws, we disclaim any intention or obligation publicly to update or revise any forward-looking statements, whether as a result of new information, future events or otherwise.

     We are a global publisher and developer of video game software for gaming enthusiasts and the mass-market audience, and as a distributor of video game software in North America. We publish and distribute games for all platforms, including Sony PlayStation and PlayStation 2; Nintendo Game Boy, Game Boy Advance, GameCube and DS; Microsoft Xbox; and personal computers, referred to as PCs. We also publish and sublicense games for the wireless, internet, and other evolving platforms. Our diverse portfolio of products extends across most major video game genres, including action, adventure, strategy, role-playing, and driving. Our products are based on intellectual properties that we have either created internally and own or which have been licensed from third parties. We leverage both internal and external resources in the development of our games, assessing each project independently to determine which development team is best suited to handle the product based on technical expertise and historical development experience, among other factors. Additionally, through our relationship with IESA, our products are distributed exclusively by IESA throughout Europe, Asia and other regions. Through our distribution agreement with IESA, we have the rights to publish and sublicense certain intellectual properties either owned or licensed by IESA or its subsidiaries, including Atari Interactive. We also manage the development of product at studios owned by IESA that focus solely on game development.

     In addition to our publishing and development activities, we also distribute video game software in North America for titles developed by certain third-party publishers with whom we have contracts (“Distribution Business”). As a distributor of video game software throughout the U.S., we maintain what we believe to be state-of-the-art distribution operations and systems, reaching well in excess of 30,000 retail outlets nationwide. The distribution channels for interactive software have expanded significantly in recent years. Consumers have access to interactive software through a variety of outlets, including mass-merchant retailers such as Wal-Mart and Target; major retailers, such as Best Buy and Toys ‘R’ Us; and specialty stores such as Electronics Boutique and GameStop. Additionally, our games are made available through various Internet and online networks. Our sales to key customers Wal-Mart, Target, Best Buy, and GameStop accounted for approximately 38.7%, 17.6%, 9.8%, and 4.8%, respectively, of net revenues for the three months ended June 30, 2005.

     Due to major shifts in product release dates and increased development investment for future product releases, our results of operations for the first quarter of fiscal 2006 were not in line with prior year or with management expectations. Our net revenues for the first quarter of fiscal 2006 were only 22.4% of those in the same quarter of fiscal 2005. Primarily because of this, we had a net loss of $32.8 million in the first quarter of fiscal 2006, compared with net income of $12.1 million in the same period of the prior year. For the remainder of the 2006 fiscal year,

we expect to release significantly fewer titles than we have historically. This trend will continue during fiscal 2007. As a result, our revenue will not be in line with its historical levels. While we have taken, and continue to take, steps to reduce costs, it is unlikely that our cost reductions will fully compensate for the lower revenues.

     Because of the results for the first quarter and the projected results for the remainder of fiscal 2006, we obtained waivers and modifications of financial covenants in our principal credit agreement (Note 9). Management believes they will be able to meet these modified financial covenants, however, unless our results improve, we may have to seek additional waivers or modifications in the future.

     A new generation of game consoles is being introduced in late 2005 and early 2006. While we anticipate that these consoles will be able to play titles developed for the current generation, in order to remain fully competitive, we will have to develop or format titles for the new generation. That will require us to make significant expenditures. We will need new capital to be able to make those expenditures. While we anticipate obtaining some funding from IESA through sales of assets or shares to it, in order to provide liquidity through fiscal 2006, that funding probably will not be sufficient to meet our longer term needs. Therefore, we will have to seek additional capital, and it is possible we will not be able to obtain it.

     In recognition that IESA’s stockholding in Atari is IESA’s most critical investment, the Board of Directors of IESA has approved in principle a series of transactions which would improve our financial flexibility and augment our short-term liquidity as discussed below.

  Sale of Humongous to Atari Interactive

     Atari Interactive has agreed in principle to buy, either directly or through a newly formed subsidiary, the intellectual property for $7.0 million and assume certain license liabilities of the Humongous Entertainment development studio. At the current sale price, we do not expect to record a loss as a result of this transaction. Furthermore, under the guidelines established by generally accepted accounting principles, we will not record a gain from the sale and any excess consideration received over the net book value of the net assets sold will be recorded as additional paid-in capital from IESA, our majority stockholder. As the Humongous development studio is a component of our publishing business, a portion of goodwill, approximating $3.3 million, will be assigned to the net assets disposed upon the closing of this transaction. Furthermore, we will continue to distribute the remaining Humongous products under development through a new distribution agreement to be negotiated as a part of this transaction. Management expects this transaction to close on or about August 31, 2005.

     IESA has agreed to accept common stock in lieu of cash as payment for certain development costs. Currently, certain of IESA’s development studios are working on various development projects for us. In the second quarter of fiscal 2006, we expect to incur liabilities or owe amounts totaling approximately $4.6 million which we will pay using our common stock. We expect these shares to be issued during the second quarter of fiscal 2006. Management expects an agreement regarding this arrangement to close on or about August 31, 2005.

     IESA has agreed to accept common stock in lieu of cash as payment for a settlement of certain liabilities owed by one of our foreign subsidiaries. These liabilities of approximately £0.9 million resulted from payments made by Atari UK, Ltd, a wholly-owned subsidiary of IESA, on behalf of GT Interactive UK Ltd, (“GT UK”) our now dormant wholly-owned subsidiary. These payments represented various legal and accounting fees and trade payables owed by GT UK incurred and accrued for as of March 31, 2000 in connection with the cessation of its operations. We expect this transaction to close on or about August 15, 2005.

     Furthermore, on August 9, 2005, the Board of IESA agreed to a provision by IESA of additional capital to Atari sometime during the second quarter of fiscal 2006 in the form of cash and/or IESA stock, which Atari would resell. It is anticipated that such additional capital to be provided by IESA would approximate at least $12.0 million. The provision of such capital may be achieved through Atari’s sale to IESA or subsidiary(ies) of IESA of various assets and is currently being negotiated.

     Generally, the video game software industry has experienced an increased rate of change and complexity in the technological innovations of video game hardware and software. In addition to these technological innovations, there has been greater competition for shelf space and creative talent as well as increased buyer selectivity. As a result, the video game industry has become increasingly hit-driven, which has led to higher per game production budgets, longer and more complex development processes, and generally shorter product life cycles. The importance of the timely release of hit titles, as well as the increased scope and complexity of the product development process, have increased the need for disciplined product development processes that limit costs and overruns. This, in turn, has increased the importance of leveraging the technologies, characters or storylines of existing hit titles into additional video game software franchises in order to spread development costs among multiple products. We expect these trends to continue and our operating results will be impacted by our ability to keep pace with technological developments and to timely produce high quality products.

     Historically, our sales growth and profitability have not been at the same level as our more successful competitors. During the fourth quarter of fiscal 2005, we announced that as part of an overall strategic plan, we would implement structural, financial, and creative restructuring initiatives with the goal of improving profitability and competitive position. Specifically, we and our majority stockholder are considering ways to simplify our corporate structure. The following are key steps that management has taken as of June 30, 2005:

     Our discussion and analysis of financial condition and results of operations are based upon our consolidated financial statements, which have been prepared in accordance with accounting principles generally accepted in the United States. The preparation of these financial statements requires us to make estimates and judgments that affect the reported amounts of assets, liabilities, revenues and expenses, and related disclosure of contingent assets and liabilities. On an on-going basis, we evaluate our estimates, including those related to accounts and notes receivable, inventories, intangible assets, investments, income taxes and contingencies. We base our 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 could differ materially from these estimates under different assumptions or conditions.

     We believe the following critical accounting policies affect our more significant judgments and estimates used in the preparation of our consolidated financial statements.

Sales returns, price protection, other customer related allowances and allowance for doubtful accounts

     Sales are recorded net of estimated future returns, price protection and other customer related allowances. We are not contractually obligated to accept returns; however, based on facts and circumstances at the time a customer may request approval for a return, we may permit the return or exchange of products sold to certain customers. In addition, we may provide price protection, co-operative advertising and other allowances to certain customers in accordance with industry practice. These reserves are determined based on historical experience, market acceptance of products produced, retailer inventory levels, budgeted customer allowances, the nature of the title and existing commitments to customers. Although management believes it provides adequate reserves with respect to these items, actual activity could vary from management’s estimates and such variances could have a material impact on reported results.

     We maintain allowances for doubtful accounts for estimated losses resulting from the inability of our customers to make payments when due or within a reasonable period of time thereafter. If the financial condition of our customers were to deteriorate, resulting in an impairment of their ability to make required payments, additional allowances may be required.

     For the three months ended June 30, 2004 and 2005, we recorded allowances for bad debts, returns, price protection and other customer promotional programs of approximately $23.0 million and $9.1 million, respectively. As of March 31, 2005 and June 30, 2005, the aggregate reserves against accounts receivable for bad debts, returns, price protection and other customer promotional programs were approximately $24.3 million and $21.1 million, respectively.

     We write down our inventories for estimated slow-moving or obsolete inventories equal to the difference between the cost of inventories and estimated market value based upon assumed market conditions. If actual market conditions are less favorable than those assumed by management, additional inventory write-downs may be required. For the three months ended June 30, 2004 and 2005, we recorded obsolescence expense of approximately $0.5 million and $0.8 million, respectively. As of March 31, 2005 and June 30, 2005, the aggregate reserve against inventories was approximately $2.4 million in both periods.

     Research and product development costs relate to the design, development, and testing of new software products, whether internally or externally developed. Rapid technological innovation, shelf-space competition, shorter product life cycles and buyer selectivity have made it difficult to determine the likelihood of individual product acceptance and success. As a result, we follow the policy of expensing our research and product development costs including external developer royalty advances (milestone payments) as incurred. Generally, developers are paid an advance upon the signing of a contract with us. Subsequent payments are due as the specific contractual milestones are met by the developer and approved by us. The timing of when these contracts are entered into and when milestone payments are made could vary significantly from budgeted amounts and, because these payments are expensed as incurred, they could have a material impact on reported results in a given period. Due to recently implemented enhancements in our internal project planning and acceptance process and anticipated additional improvements in our ability to assess post-release consumer acceptance, we are currently considering a change from expensing such costs when incurred to a method of deferral and amortization over each product’s life cycle. Should management change its method of accounting for product development costs, such change will be implemented prospectively. Management believes that the ability to amortize such costs over the product’s life cycle will result in a better matching of costs and revenues.

     Licenses for intellectual property are capitalized as assets upon the execution of the contract when no significant obligation for performance remains with the third party. If significant obligations remain, the asset is capitalized when due or when performance is completed as opposed to when the contract is executed. These licenses are amortized at the licensor’s royalty rate over unit sales. Management evaluates the carrying value of these capitalized licenses and records an impairment charge (as research and product development expense) in the period management determines that such capitalized amounts are not expected to be realized.

     As part of the process of preparing our consolidated financial statements, we are required to estimate our income taxes in each of the jurisdictions in which we operate. This process involves estimating our current tax exposures in each jurisdiction including the impact, if any, of additional taxes resulting from tax examinations as well as making judgments regarding the recoverability of deferred tax assets. To the extent recovery of deferred tax assets is not likely based on our estimation of future taxable income in each jurisdiction, a valuation allowance is established. The estimated effective tax rate is adjusted for the tax related to significant unusual items. Changes in the geographic mix or estimated level of annual pre-tax income can affect the overall effective tax rate.

     As of June 30, 2005, we have combined net operating loss carryforwards of approximately $510.2 million for federal and state tax purposes. These loss carryforwards are available to offset future taxable income, if any, and will expire beginning in the years 2009 through 2025. We experienced an ownership change in 1999 as a result of the acquisition by IESA. Under Section 382 of the Internal Revenue Code, when there is an ownership change, the pre-ownership-change loss carryforwards are subject to an annual limitation which could reduce or defer the utilization of these losses. Pre-acquisition losses of approximately $186.8 million are subject to an annual limitation (approximately $7.2 million). A full valuation allowance has been recorded against the net deferred tax asset based on our historical operating results and the conclusion that it is more likely than not that such asset will not be realized. Management reassesses its position with regard to the valuation allowance on a quarterly basis.

     We are involved in numerous related party transactions with IESA and its subsidiaries. These related party transactions include, but are not limited to, the purchase and sale of product, game development, administrative and support services and distribution agreements. See Note 7 and the Notes to the Consolidated Financial Statements contained in our Annual Report on Form 10-K filed with the Securities and Exchange Commission for the year ended March 31, 2005 for details.

     Net revenues for the three months ended June 30, 2005 decreased approximately $83.9 million or 77.6% from $108.1 million to $24.2 million.