動視暴雪 (ATVI) 2008 Q2 法說會逐字稿

Good day, everyone, and welcome to the Activision second quarter 2008 financial results conference call. Today's call is being recorded. At this time, for opening remarks and introductions, I would like to turn today's call over to the Vice President of investor relations, Kristin Southey. Please go ahead, ma'am.

Good afternoon and thank you for joining us today for Activision's Q2 fiscal 2008 conference call. As always I will start today's call with a review of our Safe Harbor disclosure followed by comments from Bobby Kotick, Chairman and CEO, Thomas Tippl, Chief Financial Officer, and Mike Griffith, President and CEO of Activision Publishing, Inc. With regard to our Safe Harbor disclosure I would remind everyone that statements will be made during this call not historical facts and are forward-looking statements. These forward-looking statements are based on current expectations and assumptions and are subject to risks and uncertainties. The Company cautions that a number of important factors could cause Activision's actual future results and other future circumstance to say differ materially from those expressed in any such forward-looking statements.

Such factors include, without limitation: Sales of the Company's titles during fiscal year 2008; shift in consumer spending trends; the seasonal and cyclical nature of the interactive game market; the Company's ability to predict consumer preferences among competing hardware platforms, including next-generation hardware; declines in software pricing, product returns and price protection; price delays; retail acceptance of our products; adoption rate and availability of new hardware and related software; industry competition; rapid changes in the technology and industry standards; protection of proprietary rights; maintenance of relationships with key personnel, customers, vendors, and third-party developers; international, economic, and political conditions; integration of recent acquisitions and the identification of suitable future acquisition opportunities; and foreign exchange rates.

Other such factors include; The further implementation, acceptance and effectiveness of the remedial measures recommended or adopted by the special subcommittee of independent directors established in July '06 to review our historical stock option grant practices by the board and by Activision, the outcome of the SEC's formal investigation and derivative litigation filed in July '06 against certain certain -- certain current and former directors and officers of Activision relating to Activision's stock-option granting practices; and the possibility that additional claims and proceedings will be commenced, including additional action by the SEC and/or other regulatory agencies and other litigation unrelated to stock-option granting practices. These important factors and other factors that potentially could affect the Company's financial results are described in the Company's most recent annual report on Form 10-K and the cautionary statements herein and exhibits thereto. The Company may change its intention, belief or expectation at any time, and with that notice, based on any changes in such factors in the Company's assumptions or otherwise. The Company undertakes no obligation to release publicly any revisions to any forward-looking statements to reflect events or circumstances after the date hereof or to reflect occupance of unanticipated events.

And now I would like to introduce Bobby Kotick, our Chairman and CEO.

Thank you, Kristin, and thank you all for joining us today. We're pleased to share with you our record second quarter results, a preview of our third quarter, which we expect to be our first $1 billion quarter, and our increased outlook for the fiscal year. In the second quarter net revenues and earnings exceeded our expectations and grew significantly over the prior year, driven by the Guitar Hero franchise and our newest intellectual property, Transformers. For the first half of the fiscal year we directed revenue and earnings driven by strong market conditions and the success of our balanced franchise portfolio in the U.S. as well as Europe. For the quarter Guitar Hero was the number three franchise overall and remains the number one video game franchise in North America for all of calendar '07. Transformers was the number two third-party title in Europe and the number one third-party handheld title worldwide. To date we have shipped more than three million units of Transformers worldwide.

In North America our console and handheld market share increased from 5% to 10% over the prior year. For the quarter international publishing net revenues grew 80% over last year and are up 145% for the first half of the year due to better execution in our largest markets. Strategically we continue to make the organizational infrastructural changes necessary to ensure our long-term leadership. Our institutionalized processes and thoughtful approach to our business has fueled growth and diversified our franchise portfolio. We continue to identify new market opportunities and reinvent our core brands through innovative game play that we validate through our consumer testing and support services with very highest quality development resources, we believe, in our industry.

In September we acquired Bizarre Creations, one of the preeminent UK-based development studios. They have over 160 employees, a strong track record of success, and the acquisition will bolster our development resources and enable Activision to enter the $1.4 billion global racing genre, which is the largest genre that we currently don't participate in. With almost $1 billion of cash we'll continue to make strategic investments that will expand our intellectual property portfolio, extend our next-generation development leadership and strengthen our global marketing and distribution footprint. We continue to reap the benefits of the investments we have made over the past few years which this holiday we expect will result in our first $1 billion quarter and $2 billion of revenues for the fiscal year. As of tomorrow we will have launched all of our major holiday titles in North America well in advance of the Thanksgiving selling season.

On October 28th we launched in North America Guitar Hero III on multiple platforms, including the long-awaited debut of Guitar Hero on the PS3 and the Nintendo Wii. Week one consumer sales of Guitar Hero III have already exceeded $100 million. The Guitar Hero franchise is one of the most successful entertainment properties in any medium; film, television, music or video games, and Guitar Hero III is by far the most successful product launch in Activision's history. Additionally, the multi-platform release also ranks as the largest hardware unit launch this cycle and is likely the largest hardware launch in the history of video games. Competitively we expect the Guitar Hero franchise to be the winner at retail this holiday. We have huge early consumer response well before the heavy selling periods of Thanksgiving or Christmas. We have an unprecedented amount of global supply. The product is available now on all console platforms. We have more than 30 million demonstration kiosks that will drive consumer awareness and purchase intent, and in the international markets this is the only game of its genre available.

While we've worked hard to increase our global supply, given the exceptionally strong early consumer response there is a probability that this holiday we won't be able to satisfy all the demand for every platform, but we will have millions of Guitar Heros around the world. Tomorrow we'll launch one of our remaining third quarter releases, Call of Duty 4: Modern Warfare, in North America, and Call of Duty 4 is extremely anticipated. It's already receiving rave reviews from the gaming press, including a perfect ten from the official Xbox magazine. The team has done an incredible job delivering a product with production values and game play that truly capture the best of next-generation video games.

The combination of our record first half results, our strong holiday lineup, and the increased visibility that comes with launching all of our major holiday titles well before Thanksgiving has enabled us to increase our full-year revenues and earnings outlook. Our global leadership position continues to strengthen, and our competitive advantages derived from our focus on expanding our balanced franchise portfolio into opportunistic genres, leveraging our strong portfolio with best-in-class marketing programs, the exploitation of emerging market growth, and by ongoing initiatives to reduce expenses through organizational efficiencies. All of these efforts should lead to continued margin expansion and higher returns on invested capital in the future. We believe over the long term we can continue to provide superior returns to our shareholders, as we have over the past 17 years. Later in the call Mike will share more details on our Q3 titles and the remainder of this fiscal year, and provide a look at fiscal '09.

Now Thomas will provide a brief review of our operations during the last quarter. Thomas?

Thank you, Bobby, and good afternoon. For the September quarter net revenues were $318 million. This is $68 million higher than our prior outlook and up $130 million versus the prior year, due to the strong performance of premium priced Guitar Hero Rocks the 80s and the European launch of Transformers, in addition to continued sales of our first quarter launches. Before I continue with our financial review, I'd like to note that certain numbers I'll be giving you will not be in accordance with GAAP. Please refer to our earnings release for a full reconciliation. I would also like to remind everyone that as of and after the beginning of this call some of the numbers I will be share with you, particularly the outlook for Q3, Q4, and the full fiscal-year 2008 and beyond are forward-looking statements and not historical facts and based on current expectations and assumptions that are subject to the risks and uncertainties identified at the outset of the this call, in our earnings release and in our most recent annual report on Form 10-K.

So for the September quarter on a GAAP basis we delivered break-even earnings per share as compared to a loss per share of $0.09 in the same period of the prior year. Excluding the impact of equity-based compensation we delivered earnings per share of $0.02. This is higher than anticipated and a significant improvement versus the prior-year quarterly loss of $0.08. The main drivers was strong (inaudible) performance and operating leverage. Manufacturing and distribution expense for the quarter was 48% of revenues, down significantly from 68% in the prior year, due to improved mix and higher-price realization as consumers continue to trade up to next-generation platforms. Product creation costs for the quarter on a GAAP basis were 27% of revenues and excluding the impact of equity-based compensation were 26% of revenues. We define product creation costs as the sum of cost of sales, software royalties and amortization, cost of sales intellectual property licenses, and product development expense. Product creation costs were higher than the prior year, due mainly to a higher mix of licensed properties.

Sales and marketing expense for the quarter on a GAAP and non-GAAP basis were 16% of revenues, an improvement of more than 100 basis points versus the year ago. G&A as a percentage of revenues a GAAP basis was 12%, and excluding equity-based comp was approximately 11%, an improvement of 120 basis points over last year. We continue to make good year-over-year progress. However, the numbers still reflect the impact of high legal and professional fees, intangible amortization related to the (inaudible) obtained, and (inaudible) acquisitions. We generated high investment income for the quarter due to higher cash balances and higher interest rates [over] the prior year. Our effective tax rate for the quarter was 73%. Our tax rate this quarter was higher than expected due to a tax law change in the UK. However, we still expect our full-year tax rate to be around 34% to 35%.

Turning to the balance sheet, on September 30 we had $962 million in cash and short-term investments. This is in line with the last quarter and more than $210 million higher than last year due to strong operating performance. The accounts receivable balance was $110 million. This is down $88 million versus the prior quarter due to collections of our first-quarter revenues. The accounts receivable reserve as a percentage of trailing nine-months revenues was 9%. Inventories were $189 million, up $97 million versus last quarter. As noted on our last call, we expected inventories to be substantially higher as we prepared for the multi-platform launch of Guitar Heros III. On September 30 inventory was $155 million for the publishing business and $34 million for the distribution business. Capitalized software development costs were $132 million, an increase of $25 million versus the prior quarter due to the number of titles released in Q3. [Capital assets and intellectual property costs] were $82 million, in line with the prior quarter.

In summary we finished the quarter well ahead of revenue and earnings outlook we provided, and based on our strong business momentum and increased visibility we are raising our fiscal '08 outlook. Specifically, for Q3 we're expecting net revenues of approximately $1.05 billion. For the third quarter on a GAAP basis the Company expects manufacturing and distribution costs of approximately 43% of revenues and operating expenses, including royalties, of about 35%. We project a tax rate of about 34% to 35% that can be used throughout the fiscal year and a diluted share count of about 316 million. Finally, we expect earnings per share of approximately $0.51. For the third quarter, excluding the impact of equity-based compensation, we expect operating expenses including royalties of 33% and earnings per share of approximately $0.55. All other line items are the same, as I mentioned a moment ago. For the fiscal fourth quarter on a GAAP basis we expect a loss per share of $0.05, and excluding the impact of equity-based compensation we expect a loss per share of $0.03.

For the second half of the fiscal year we expect the acquisition of the Bizarre Creations to be dilutive to earnings by approximately $0.02 to $0.03 and this is incorporated in the outlook I just provided. As for the full fiscal year we're increasing our outlook and we now expect net revenues of approximately $2.07 billion. On a GAAP basis we expect manufacturing and distribution costs of approximately 44% of revenues and we expect operating expenses, including royalties, of about 45%. We project the diluted share count of about 316 million. Finally, we expect earnings of approximately $0.55 per share. For the fiscal year, excluding the impact of equity-based compensation, we expect operating expenses, including royalties, of about 43% and earnings per share of approximately $0.65.

The last area I wanted to touch on was our balance sheet philosophy since this is a topic frequently brought up at our investor and analyst meetings. Our strong cash position enables us to continue making strategic investments in the future like we recently did with ]RedOctane. Transformers, DemonWare. and Bizarre Creations. We're sharply focused on investment opportunities that expand our intellectual property portfolio, expand our next-generation development leadership, strengthen our global marketing and distribution footprint, and most importantly create long-term shareholder value. Our (inaudible) over the past few years has been strong in this area, especially with respect to return on invested capital.

Our position process is thoughtful and rig -- is a very strict set of criteria that must satisfied. At a minimum we (inaudible) our investment to provide scale across geographies and platforms, the ability to generated an annual revenue stream and matched with proven development solution, and strong financial returns based on proven benchmarks. It is this institutionalized process that has kept us from justifying speculative investments in unproven business models and rewarded our shareholders with superior returns over many years. We see more opportunities that fit this approach and we plan to continue to capitalize on them with the help of our strong balance sheet and operating performance. And this brings me back to the near term. We expect that fiscal 2008 will be by far the largest and most profitable year in Activision's history. This year we will more than double our operating income and expect to deliver industry-leading operating margins and net income, all while still in the early phase of the cycle.

Let me now turn thing over to Mike Griffith, President and CEO of Activision Publishing, who will provide his thoughts on the balance of the fiscal '08 and fiscal '09.

Thank you, Thomas. Today my comments will focus on where we see the hardware and software markets for the balance of the year, our market position as we enter this holiday season, and our initial thoughts on fiscal 2009. Overall industry fundamentals are very strong and we expect they'll continue to improve. On September 30th, the install base of hardware in North America for current and next-generation systems, including handhelds, was approximately 137 million units. The large install base of the PS2 combined with the growing install base for all three of the next-gen systems plus handhelds continues to provide an attractive market dynamic, and recent hardware price reductions on next-gen platforms are further building opportunity. With respect to hardware -- the hardware market in total as of today, we expect the following increases in North America during the calendar year. We're estimatingPS2 will be up by four to five million units, and we're anticipating three million units of PS3. We expect Xbox 360 growth of four to five million units. We also expect about five to six million units from Nintendo's Wii. And finally we expect handholds -- handhelds will grow approximately 12 to 13 million units.

Moving to software, we define our market to include all major platforms in North America and Europe. For calendar 2007 we expect the combined North America and European software markets for current and next-gen consoles, handheld and PCs to grow in excess of 15%, driven in part by a strong install base of hardware. The overall market growth has been broad-based across platforms and across geographies, and even if you exclude the strong growth of the Nintendo consoles year over year, the software market would still be growing at a double-digit base. With respect to software pricing, today we continue to be pleased by the consumer and retail acceptance of the higher next-gen pricing, and we expect the traditional software pricing for the Xbox 360 and PS3 will continue to hold at $59.99 and the Wii at $49.99. Of course pricing decisions for front-line, current-gen console titles will be made on a title-by-title basis based on quality and other factors. And as always, we intend to monitor pricing conditions very closely this holiday and remain mindful of competitive practices.

Turning now to the balance of fiscal 2008, our Q3 performance will be driven by our slate of strong commercial execution, both in the U.S. and internationally. Our emphasis on consumer marketing, retail category management, and in-store execution against our largest markets and largest customers continues to be our focus. This quarter we're bringing an exceptionally strong game lineup to a marketplace that's poised to reward companies with well-established brands. Our slate is anchored by high-quality games based on our most successful franchises, including Tony Hawk, Spiderman, Call of Duty, Guitar Hero, as well as Enemy Territory: QUAKE Wars, and a game based on Dreamworks' new Bee Movie.

On October 16th we launched our first Q3 title, Tony Hawk's Proving Ground. The game builds on the foreign assets associated with Tony Hawk and deeper customization of the features most appreciated by the mass consumer. Tony Hawk is still the only skateboarder with mass market appeal and the Proving Ground game is targeted squarely at the broad holiday audience with strong merchandising and advertising throughout the season. Proving Ground will also be available on more platforms than any other skateboarding game and it will be the only game of its kind on the PS2 platform with the largest install base.

Next, we continue to diversify our super hero portfolio and broaden our leadership in the category with the release of our new Marvel title Spider-Man; Friend or Foe, which is targeted towards a younger demographic and is a perfect title for the holiday season. This game is off to a strong start and is likely to benefit from the momentum and advertising spend created by the recent DVD launch of Spider-Man 3. Beyond providing a positive environment for Spider-Man: Friend or Foe this should also benefit continued sales of the Spider-Man 3 game, which was launched initially in Q1. On October 29th we released the Bee Movie Game based on the Dreamworks' film that stars Jerry Seinfeld and opened this past weekend. Bee Movie is our first full console title to come from our internal studio in Canada, where we've been building capability to help match costs with opportunities. For this title we were able to significantly lower the costs of the development spending and early reviews are strong.

Next as Bobby mentioned, tomorrow will mark the highly-anticipated launch of Call of Duty 4: Modern Warfare. The Call of Duty franchise was our largest seller in fiscal 2007, and this title marks the fourth consecutive annual release. This is a wholly-owned internally developed title and we're very pleased with the exceptional reviews it's been receiving. We're also encouraged with the introduction of the modern day element to this franchise significantly increases future opportunity for the Call of Duty brand with a new leg on the stool. With game quality and reviews comparable to Halo III, consumer interest is very high and preorders are up significantly versus the prior year and set a new Company presell record, although only briefly as it was surpassed by Guitar Hero III preorders, which I'll discuss in a minute. We also plan to continue to drive momentum on Call of Duty through the holiday and into next calendar year with a variety of downloadable content available in months ahead.

Finally, October 28th marked the largest product launch in Activision history with Guitar Hero III: Legends of Rock. Guitar Hero is another internally-developed, wholly-owned franchise that continues to build the genre it created. Sell through to consumers topped $100 million in the first week, setting a new Company record. As you know, we've been working vigorously for the last nine months to increase our guitar manufacturing capacity. We put an experienced product supply organization in place with on-the-ground resources in North America, Europe, and China to manage the complex logistics. Thanks to the hard work of this group around the world, we were able to increase our production significantly to launch across four different console platforms with an unprecedented level of supply and significantly more units than a year ago.

A week ago we would have told you we had adequate supply in place, but given initial consumer demand it's possible that demand will out strip supply in certain platforms before Christmas. The strength of this product has resulted in extraordinary interest from our retailers, the media and consumers. To help ensure we continue our momentum we have over 30,000 in-store kiosks worldwide where consumers can demo the game. This is more than triple the number of kiosks we had last year. Guitar Hero III offers tremendous value with over 70 songs available at purchase. The game features a strong sound track, including master tracks, by such artists as Aerosmith, Sex Pistols, Metallica, Guns N' Roses, The Rolling Stones, Beastie Boys, Pearl Jam, as well as new original songs by Slash and Tom Morello. Guitar Hero III will also offer a robust slate of new downloadable content for the Xbox 360 and the PS3. The game builds on its signature easy-to-play but difficult-to-master game play and adds new features, including [bostals], where players can challenge Slash and Tom Morello in side-by-side and head-to-head play. And finally, the all new wireless guitar controllers are available for all platforms.

We're equally excited about the upcoming launch of Guitar Hero III in Europe later this month. The large and growing European market offers us tremendous opportunity, and the Guitar Hero III will, for the first time, provide localized song content with music from a selection of popular European bands in addition to being the only game of its kind available this holiday season. As you know, one of our core tenants to achieving sustainable growth and margin expansion is driving our independent studio model as a long-term competitive advantage, and our execution this holiday reaffirms our strategic choice. A prime example of the strength of our model is the seamless transition of bringing Guitar Hero development in-house. The team at Neversoft has done an exceptional job bringing innovation to the franchise while keeping the game true to what made it part of pop culture, all in a relatively short period of time.

Another example of our studio strength is that our large Q3 product lineup was completed early this year, giving us additional sell-through potential in making us the only independent publisher who did not delay a holiday release. In terms of expertise, our studios are executing at a high level on the PS3, a technically challenging platform where many are struggling. To understand this significant of this, play Call of Duty 4 on the PS3 and compare the experience to other PS3 games. Finally, the acquisition of Bizarre Creations significantly broadens our internal development expertise and bolsters our development resources. The 160 developers are working on two major properties, including one new intellectual property for the large and profitable racing genre.

So in summary, our fiscal 2008 lineup is the strongest in the Company's history, and with our improved visibility and strong execution, we're once again increasing our fiscal 2008 outlook marking our first $2 billion a year and our 16th consecutive year of growth. Beyond this fiscal 2009 already looks robust. The market conditions are expected to improve further, and we intend to have a broad lineup of titles for both movie and non-movie games. Movie games will include the new upcoming James Bond, which has been significantly revitalized by Casino Royal, Dreamworks' Kung Fu Panda, which we're expecting to be the next Shrek-sized franchise, Madagascar 2, and the newly-added Monsters vs. Aliens late in the fiscal year. Next year we'll also focus on driving Guitar Hero further globally, as it's likely we'll still be trying to catch up with consumer demand, and we have a number of new exciting dimensions for the franchise. We'll also broaden our core franchises, like Call of Duty. with a new title across more platforms next year than this year, and Tony Hawk.

In addition, we'll be supporting our leadership position in the super hero category with two new releases. And of course we expect to have an especially strong catalog coming from our fiscal 2008 lineup. More details of our fiscal year 2009 slate will be announced on a later call, but in fiscal 2009 we can see the market continuing to expand at a double-digit rate, see our portfolio of brands continue to grow and continue to find upside opportunity in our largest franchises, see increasing revenues from emerging markets, and lastly, we'll continue to focus on shareholder value creation through operational discipline.

So with that, thank you very much for listening and the opportunity to share our initiatives with you for the future. And I'll now open up the call for your questions. Thank you.

(OPERATOR INSTRUCTIONS) We will take our first question from Tony Gikas with Piper Jaffray.

Good afternoon, guys. Congratulations on a good quarter. Couple of questions. Given that you continue to exceed sales estimates, could you give us a little update on your outlook for operating margin prospects and what line items do you see the most leverage on? Is that R&D? And then the second question, retail sell through on Guitar Hero III, could you break that down or give us some visibility on the platform -- platform breakdown?

Hey, Tony, this is Thomas. I'll take the first one and then Mike is going to speak to Guitar Hero. Our plan for margin expansion hasn't changed. We're supremely focused on it. To date we are tracking ahead of the plans we said originally. There's a good chance this year is going to be a year of record margins for us, higher than at the previous peak, and we are (inaudible) early in the cycle. We've set a goal for 15% to 18% for the peak of this cycle and obviously the fact that our strategies so far are tracking ahead are giving us confidence that we can get there. In terms of where expansion is coming from, it's really coming from all line items, so the expanding gross margins for a couple -- with a couple of drivers, first one being that our publishing business, which is higher margin, is growing faster than our distribution business.

Within publishing the shift to trading up of consumers to next-generation consoles gives us vertical margin expansion, because we're selling those at 20% price premium as you know. And then lastly, we've also started to tackle the supply chain in order to optimize and get efficiencies from there and we've done that in most of our business except Guitar Hero, where we are -- we're so far squarely focused on expanding capacity, so that's going to be a priority for that franchise next year. Product creation costs we made progress. I think we've explained on previous occasions that we are very deliberate with that, qualifying every step of the way the interventions that we are making. And Mike mentioned the Bee Movie success we are seeing with offshoring a complete game. So all of this is going in the right direction, but because that's the life of the Company we're taking a credible approach. And then lastly, you have already seen the efficiency improvement in trade and marketing spending, and we would expect to continue to see scaled leverage on the G&A line as the top line is growing at a double-digit pace.

And Tony, on your Guitar Hero question, as we said, we're pleased that we've sold through more than $100 million in the first week. What I can tell you is it's broad based across platforms and proportional. We started the franchise on the PS2, and then migrated it to the Xbox 360 last March. We've now franchised [like] to date, sold more than seven million units through to the consumer, and I think our initial experience with Guitar Hero III across all platforms reinforces that it's a proposition that plays well across all platforms on which it's offered.

Just a quick follow-up then. Are there any key markets that Guitar Hero III will not launch in that might come next year?

In terms of geographies, you mean?

Correct.

No, it's going to launch in all of our key Activision geographies, so it has launched first in North America, it launches across all of our European geographies in late November, and then it will also be available in Asia-Pacific, although we expect most of the business there to be our more traditional markets such as Australia.

But as we pointed out, Tony, there may be some supply constraints as we get into the balance of the year.

Okay. Great job, guys. Thanks.

Thanks.

We will take our next question from Michael Savner with Banc of America Securities.

Thanks very much. If I could also follow up on the margin question in light of Thomas' comments. Even after adjusting for the Bizarre acquisition, I would have expected maybe a little bit more flow through of earnings from the revenue upside given that presumably your increased optimism on revenue is coming from success of higher- margin titles like Guitar Hero and Call of Duty. So is there something that could be offsetting? Is there pricing weakness away from the core titles that could offset or are you just being conservative, because if I do the math correctly for the adjustment it's a little over 100 basis points of incremental op margin that you're forecasting, so how should we think about that flow through?

I think -- first of all we are still early in the holiday season, so I don't think there's any reason to get ahead of ourselves for the whole year. I think this is very much in line with the philosophy that we have employed over the last couple of years. And second, part of the revenue gain and increasing guidance is also related due to the weaker dollar and restraints of the pound and the Euro, specifically, and of course, that's revenue increase that doesn't just fall through to the bottom line because the cost that is associated with those revenues go up more or less the same ratios, since we are producing the products in Europe and we're marketing them in Europe, and our people in Europe are paid in pounds and Euros.

Great, that's helpful. Thanks. And then one follow up. As we think about Guitar Hero in '09 -- and I know you're obviously very happy with the success here and don't want to get ahead of yourselves -- but as we think what the opportunity is in '09, is there anything that would prohibit you from adding new functionality, like additional instruments to a version further down the road? And can you talk about how the economics of the game have changed at all as you've gone to master track, if at all?

Michael, I think on the Guitar Hero, as we said before we're blessed with a title that has an awful lot of opportunity and different directions that you could go and our key challenge is prioritizing those for the broadest appeal. So we're looking at a number of exciting new vectors and directions to take the franchise for next fiscal, and as Bobby had said, we're adding capacity quickly to take full advantage of international markets. So we're not ready to talk the specific plans for Guitar Hero on '09, but suffice it to say that it will continue to have a broad-based launch across platforms and across geographies, and certainly working actively toward adding additional functionality.

And the part about the economics on master tracks?

The economics are pretty solid across versions of the brand, and we really don't anticipate significant change in the economics. There are -- while today we're focusing largely on increasing our capacity, we've also found some logistics efficiencies along the way. We think over time we're going to find substantially more efficiencies on the supply side of this franchise, and so while master tracks are a little more expense than rerecords -- and we have a blend of those in our game -- they're not substantially more and thus far we've been successful offsetting them.

Thank you very much.

Michael, remember we have a higher price -- wholesale price on virtually all the products that have just been released in Guitar Hero III, and I think when you see next year -- we'd like to provide more insight into the details for next year, but there's no shortage of opportunity on this franchise. As Mike pointed out, it's prioritization of opportunity that continues to be the challenge.

Bobby.

We'll take our next question from Mark Wienkes with Goldman Sachs.

All right, thanks. Good afternoon. First I was wondering can you share thought on any divergences you're seeing in the retailer positioning for the holiday period, meaning the big box retailers versus -- are they on the same page as the specific game retailers, any differences there? And then any prospect on pricing? And then on Skate versus Tony Hawk, at retail specifically, any surprises versus your expectations and how are those sales trending?

Could you just give me a little more clarification on your retailer positioning question?

Yes. As far as -- retailers are seeing some tough times right now. I guess from a square footage allocation perspective have you seen them increase the square footage making available for video games this holiday season?

I got it. Thank you. We're seeing across all geographies very strong retailer support to the video game space in general and certainly to our titles. The one trend that continues from previous years is that retailers are certainly focusing disproportionately on the largest opportunities, so I think that publishers with disproportionately well-established slates are going to continue to see disproportional benefit from retailers. But in total we're seeing strong support across all retailer formats this year.

On your second question on Tony Hawk, no, I don't think it's anything we haven't expected here. Obviously it's a competitive year for Tony Hawk and I think in the near term having an additional title out there is going to help drive awareness to the total segment. which is still a relatively small percentage of total video games. So, while near term I think we're probably sharing some of the hard core and early adapters, longer term we think the market has expansive potential in this. Tony has always been a mass market-oriented game and it's always skewed late in the quarter. It's really a December title. It's a good game. This year we've got very strong merchandising and marketing setup really through the quarter and Thanksgiving and on into December. We've got a broader number of platforms available than the competitive title, and we expect strong performance on Tony through the balance of the quarter. But like always, Tony is going to be a back-end quarter game.

Right. Thanks. Just one quick follow up if I could. Using your new targets targets for 2Q, 3Q, implied revenue for 4Q is roughly 200, a little over $200 million, or two-thirds of fourth quarter a year ago, so is that a reflection for an expectation for the increased competition from some of the other titles from publishers that pushed them out in the March quarter or just less visibility that far out?

I think we messed up again. Last year we had the launch of the PS3 in Europe (inaudible) period, we don't have that this year. We're getting all the PS3 titles out in all geographies already in Q3, so that's probably the biggest (inaudible).

Okay, thanks very much.

We'll take our next question from [Brent Sill] with Citi.

Thanks. Thomas, just curious if you had a percent of revenue as it relates to Guitar Hero in the quarter and how you're thinking about that for the year?

You're asking for Q3?

For Q2.

Yes, Guitar Hero -- we don't provide the revenue numbers for specific title, but it was in the -- between the roughly 30% range, so not surprising. It was the one title that had a new launch this quarter with Rock the 80s on the PS2 and then performed very well. Guitar Hero downloads all of the song packs continue to perform very well, so it's one -- it's our leading franchise at this point.

And just as it relates to the European rollout, any different dynamic you expect as it rolls out there?

As we said, Europe -- the way we look at the business is we are more than a year behind with establishing the brand in Europe because initially it was supply constrained and focused on North America. This is really the first year where we're providing our international markets the tools to be successful as we have been in the U.S. We have much more supply available. We have for the first time localized content available with European bands, which allowed us to establish the same kind of marketing and promotional programs that we have executed over the last two years in North America. And of course retailers in Europe are watching what's happening over here in the states and are now getting fully behind the product, and over the original space constraints that we faced maybe when you look back a year ago, so we are very bullish about the prospects we have in Europe. Music is a universal genre. From our perspective there's really no reason why this business can't be successful in Europe, and we've already seen this in other parts of the music genre with Sony Singstar being extremely successful in Europe, so we think we're going to make major progress there not only this year but even more so then next year.

Thanks.

Moving on we'll hear from Ben Scheckter of UBS Securities.

Hey, guys, congratulations on a nice quarter. Bobby, for as long as I can remember you've been talking about the idea of having more concentration among the top-tier publishers, and if you look at some of the MPD data there have been months of 80% plus of revenues come from the first party and the top five. How much more concentrated can that really get? How do you position yourself there to gain share against some of the other big guys? And then separately, there's been a lot of activity in Asia -- the capital market's looking at that -- and the margins over there are just spectacular compared to what you get in the U.S. and Europe and different business models. How does Activision potentially play in that space? Thanks.

So as we've said share gains are going to be something that you see concentrated in the top-tier publishers and that's happening. We're probably the best example of that this year. When you look out over the next few years we continue to see franchise consolidation, developer resource consolidation, retail distribution consolidation to only the very, very top-tier companies. And you will see the benefit of that at retail and with the consumer with our product line this year and next year. As far as what's happening in Asia, we're looking at it very carefully. We are starting to see great dynamics. The great news for us is that in the markets markets like U.S., the UK, France and Germany there's still a lot of upside for us to grow our business, especially in Europe, and so we're going to capitalize on that for the next few years. But we are starting to see some great opportunities emerge in Korea and in China, and we're going to be looking actively at those markets for the long term for growth. Does that answer your question, Ben?

Yes, thanks. One quick follow up. How important are some of the ancillary hardware pieces for Guitar Hero? You see the face plates and all that kind of stuff all over the stores at Best Buy and et cetera.

You know, when you have a popular cultural phenomenon like this, all of these things are -- they're additive and they demonstrate the investment that the consumers are making into the brand, and we're seeing -- the Guitar Hero is being integrated into TV shows now like Gossip Girls and it's just -- it's a phenomenon that we haven't seen before where it's one of these few video game properties that has really infiltrated popular culture. And when we talk about the prioritization of opportunity, you're really seeing the strength of this brand, the power of this franchise, and it's one of those things where how much is up when you look at the opportunities for downloadable content, when you look at some of the opportunities we're pursuing in new categories that relate to new types of experiences with the guitar for next year. It really is one of the -- it is a great problem of prosperity to have, but prioritization of opportunity is the great challenge. When you think about $100 million of revenues in the first week generated by this product, now you start to see this is a property that has transcended video games and is now one of the most valuable franchises in entertainment.

Great. Thanks.

We will take our next question from Shawn Milne with Oppenheim.

Thank you, good afternoon. Just a couple quick questions. One on the Bizarre Creations acquisition, you made that acquisition I believe the 00 there was no specific time for the racing title, and actually I think it was -- in the release you said it wasn't in fiscal '09. Can you update us on that? And then, Bobby, can you just talk a little bit more about Guitar Hero on the supply side? Are you feeding North American retail hand to mouth? Are you building inventory along the supply chain? Just more color on -- to the extent that you think you may see stock outs. Clearly we're seeing some in our checks already, but it obviously got a very big push out the door. Any more color there would be helpful. Thank you.

Let me start with the answer on the answer on Bizarre. These guys have been [historically] on a two-year development cycle and that's worked well for them. That's how they consistently launched (inaudible) games and that's why we said we may not take position, that the first title coming in the racing genre will be after FY '09, so that hasn't changed.

Okay.

And as far as the supply chain is concerned, without getting into too much detail, we think we've got a very good handle. As Mike pointed out, we've got a terrific team on the ground here, in Europe, in Asia. We are working really hard at managing both the cost of goods and our ability to secure inventories to supply to the demand. And so as compared to last year we were able to launch millions of units around the U.S. in every retailer, and we had some fantastic trade marketing and consumer marketing programs that I would say they're probably the best in the history of the Company. So -- but we're continuing to manage through the supply, and I guess the good news here is that even we didn't anticipate the popularity of the product in the first week.

Thomas, can you break out Guitar Heros percent of inventory?

Well, the increase that you saw from the end of the first quarter to the end of the second quarter was driven by Guitar Hero.

Thank you.

Just to be clear, we are in a continuous manufacturing process here, so we keep cranking out new guitars, full platforms every week, so we will be able to continue to supply the retail channel with additional units during this holiday season and in Q4.

And moving on we will hear from Heath Terry with Credit Suisse.

Great. Thank you. Forgive me if this sounds like I'm harping on the issue, but I was wondering if you could give us an idea of what kind of tie ratio you have -- you've seen for the guitar -- for extra guitars. So what percentage of users are buying multiple guitars, and to what degree you feel like there is a -- still a significant gap between supply and demand? This is the third year of -- the third iteration of Guitar Hero and it seems like really from -- from nearly from the start there hasn't been a consistent supply of the extra guitars on shelves at retail. So we're just trying to get an idea how much pent-up demand is out there for you ultimately to be able to fill as you're able to get hardware to consumers?

It's in our interest to drive the install base of the game, and therefore during the period of time that we were supply constrained our priority was to use the guitar supply in [bottled] products in order to get the product in the hands of as many consumers as we possibly could. That's what you're also seeing still with Guitar Hero III, with the vast majority of product being sold as a bottled product. Now as we catch up with demand, we will see the percentage of stand-alone guitars also increase, but there's no doubt that there's at this point probably some pent-up demand there. Although we'll have to see how we come out of the Guitar Hero III launch this is an opportunity for people that bought Guitar Hero II on the Xbox 360 to buy a another bundle and that way get to the second part and we are going to monitor and read this carefully throughout this holiday season.

I will say I think we've been surprised at the sell through in the first week, and I think that there is an enormous amount of pent-up demand, especially that the product is now available for the first time on platforms like the Wii. So while we didn't accurately anticipate the demand on launch, I think over the next year or so we'll get production in line and start to be able to deliver more to the demand.

Great. Not to try and nail you down to a number, but is there a sense that you have of what percentage of those Guitar Her -- of that Guitar Hero install base that's out there actually has been able to buy multiple guitars?

It is a very small percentage today.

Great. Thank you.

Moving on we will take our next question from Jeetil Patel with Deutsche Securities.

Hey, guys, a couple of questions. I guess from a platform development standpoint, it's probably early thinking right now, but do you have to now start to make decisions on which platforms you're going to be supporting with your entire lineup as you look at calendar 2008 fiscal '09, I guess relating specifically to the PlayStation 3 given the lower install base there or is it too early to tell? And then second, can you talk about -- in fiscal '09 obviously it's still another good growth year coming for the industry as a whole. Do you think that the overall year will be characterized as more of a margin expansion type of opportunity or a market share gain type of opportunity in terms of how you prioritize your product lineup and your targets as you look at the upcoming year?

Let me tell you first on the platforms as we make development decisions going forward, our strategy is to support all viable platforms and we really don't see that changing. We think all platforms that are out there now continue to be viable through fiscal '09. We are seeing encouraging growth from the PlayStation 3, particularly as they've started to implement their price reductions in Europe. And so we think Sony, across both the PS3 and the PSP, will continue to be a major factor, so our development strategy is broad-based against all of the viable platforms. And I think in terms of fiscal '09 specifically. we're planning on year-over-year growth just as we have every year, and we've got a robust slate shaping up, anchored by a strong movie schedule with Kung Fu Panda, which as I said earlier we think will be one of the larger Dreamworks' offerings, Madagascar 2. Madagascar 1 performed very well for us, so we're encouraged by that.

We've got another Dreamworks' film, Monsters vs. Aliens, coming late in the year, and we've got James Bond, which as you know is a revitalized franchise. We've talked already about upside on Guitar Hero and Call of Duty, which will be a major focus for '09 and a number of other titles, of course including Tony Hawk and more super heros. So I think the slate along with increasingly attractive fundamentals in the market and a foundation of strong catalog titles that we're launching now for next year really put us in a very attractive position to continue our growth and margin expansion into fiscal '09.

Got it, and a quick follow up on Ben's question. But it seems like Guitar Hero has, obviously, quite a big social phenomenon, almost resembles what Audition is doing in the Asia-Pac region between Korea and increasingly China, but have you thought about porting that title into more of the MMO space for Asia and I guess how fast can you do that if you were to go into Asia-Pac with that type of a product offering?

We probably don't want to get into too much of the product plans for next year now, but obviously we said that we think that there's a great strategic opportunity for certain kinds of products in the Asian market, particularly in Korea and China., and remember, this is a category of product that has had some success even in Japan.So when we look out at all of the prioritization of opportunity that we need to do, clearly those are things that fall into the realm of opportunity for us for the future.

Mr. Patel, do you have anything further?

Great, I'm set. Thanks.

We have time for one more question. This comes from Ralph Schackart with William Blair.

Good afternoon. Congrats on another good quarter. You touched on briefly about the catalog sales of Spidey 3. Just curious if you could give us a little bit more color on your thoughts of catalog for Spidey 3, Shrek and Transformers for the holiday quarter with the DVD releases? Thanks.

Sure. I think if you go back to the beginning of the year, we're pleased that between Shrek, Spider-Man Movie 3 and Transformers we had a leading share -- in fact a majority share of all the movie-related games thus far this year, and all three of these games are supported by DVD launches in Q3; Shrek, Spidey, and Transformers. And I think as we also mentioned earlier, Spider-Man: Friend or Foe launches, as well as Shrek (inaudible) and Drongys, and both of these, besides opportunities in and of themselves combined with the DVD launches and give us a real umbrella merchandising opportunity to continue to sell the catalog from the Q1 movie titles. And we're focused on strong programs throughout the gift-giving holiday season on that. Transformers, as we said, is really a breakout title for us. It's already shipped more than three million units, and we fully expect both Spider-Man and Shrek franchises to grow year over year as well.

And Ralph, we have really -- I tell you, being so dominant at retail right now and having what we believe is probably the best selling organization in video games, we're finding that the opportunities to tie into trade marketing programs on the DVD, having now had so many years of expertise and experience doing it, this is where you really get the benefit of the combined trade marketing expertise of the studios DVD organizations and our selling organization, so we're getting a great benefit there.

Great. Thanks, Bobby.

Sure.

This does conclude the question-and-answer session. At this time, I will turn it back over to Kristin Southey for additional or closing remarks.

I'd like to thank -- we'd like to thank you all for your time and the opportunity to shard our initiatives for the future. Thank you very much.

And once again, this does conclude today's call. Thank you for joining us, and have a great day.