美商藝電 (EA) 2003 Q4 法說會逐字稿

Good day, everyone, and welcome to the Electronic Arts fourth quarter and fiscal year 2003 Earnings Conference Call.

Today's call is being recorded.

And now for opening remarks and introductions, I would like to turn the call over to Ms. Karen Sansot.

Please go ahead.

Hello and good afternoon, everyone, and welcome to our fourth quarter and fiscal 2003 Earnings Conference Call.

Today on the call we have Larry Probst, Chairman and Chief Executive Officer, John Ricatello, President and Chief Operating Officer, and Warren Jenson, Chief Financial and Administrative Officer.

Before we begin, I would like to remind you that you may find copies of our S.E.C. filings, this earnings release and a replay of the webcast on our website at investor.ea.com.

Shortly after the call, we will also be posting a copy of Warren's remarks on our website.

This will serve as the official record of the call.

Throughout this conference call, we will be presenting both GAAP and non-GAAP financial results.

Specifically, we will reference the following non-GAAP measures, non-GAAP operating income, non-GAAP net income and non-GAAP EPS.

These Non-GAAP results include charges associated with restructuring and impairment other than temporary impairment of investments, acquired end-process technology and amortization of intangibles.

As a supplemental schedule to our earnings release, we have provided a tabular reconciliation of non-GAAP measures to the corresponding GAAP measures.

All non-GAAP measures are provided as a compliment to our GAAP results, and we encourage all investors to consider all measures before making an investment decision.

During the course of this conference call, we may make forward-looking statements regarding future events and/or the future financial performance of the company.

These statements are judgments made as of May 6, 2003, and we caution you that actual events and results may differ materially.

We refer you to our Form 10-K for the period ended March 31, 2002, and Form 10-Q for the period ended December 31, 2002, and today's earnings release.

These S.E.C. filings and our release provide a discussion of important factors that could cause our actual results to differ materiality from those discussed today.

We make these statements as of May 6, 2003, and disclaim any duty to update them.

And now I'd like to turn the call over to Warren.

Thanks, Karen.

Good afternoon and thanks for joining us.

We're pleased to report a terrific year.

Net revenues were a record 2.5 billion, up 44% over the prior year.

Sales were strong in every geography.

North America, 1.4 billion, up 31%.

Europe, 879 million, up 69%.

Japan and Asia-Pacific combined 168 million, up 50%.

Creatively we had a strong year.

EA won 13 awards from the Academy of Interactive Arts and Sciences for Battlefield 1942, which was named game of the year, Medal of Honor: Allied Assault, Medal of Honor: Front Line, Madden NFL 2003, The Lord of the Rings: The Two Towers, The Sims On-Line, The Sims Unleashed and Need for Speed: Hot Pursuit 2.

Our gross margin reached a record 57%.

EA.com.

In fairness, we had a miss, and we took significant asset impairment restructuring charges, and TSO is not where we want it to be.

That said, operating income was a record 456 million at an 18% margin.

Non-GAAP operating income was 445 million, at a 22% margin.

Diluted earnings per share were 217, up 206%.

Non-GAAP diluted EPS was $2.63, up over 180%.

Our operating cash flow was a record 714 million, or $4.88 per share.

Next, our balance sheet is strong.

Cash of 1.6 billion, or 67% of total assets.

Across the board we believe we are appropriately reserved.

Our capital investment is generating significant returns.

For the year our return on invested capital was 42%.

Cycle to date our average annual ROIC is 28%, and we have significant strategic flexibility given our liquidity and outlook for continued strong cash generation.

As we look ahead to our new fiscal year, we do so from a position of strength and with several important advantages.

First, as Warren Buffett would say, we are a business with a significant mode.

We are fortunate to have the leading interactive studio and publishing organizations in the world.

A large portfolio of recurring franchises.

We had 22 platinum titles this past year.

These franchises will be back year in and year out.

And with execution, bigger and better.

This is a huge part of our mode and a significant proprietary advantage.

We start every year with a great lineup already in place.

By way of contrast, in movies the average new film grossed roughly 20 million at the box office last year.

Our new releases averaged over 30 million.

In television there are 22 hours in prime time.

While we couldn't lay claim to leadership in each hour, we can say that we'd be pretty close to number per one on each night of the week.

Second, we are the global leader and have a global opportunity.

Just as we are not dependent on any one franchise for growth, we are likewise not dependent on one geography, either.

In fiscal 2003, 42% of our revenues came from outside North America.

Two years ago, this percentage was 37%.

Globalization will continue to be a key part of our growth for many years to come.

Third, this is a great business.

Consider our margin since fiscal 2001, the transition year, and the lowest point in the cycle.

Gross margin at the lowest point was 50% and at the highest 57%.

Operating cash flow: at the lowest point we generated 194 million and at the highest 714 million.

Operating cash flow excluding ea.com: at the lowest point we generated 326 million of cash net after tax at a cash margin of 25%.

And at the highest, 750 million at a cash margin of 30%.

Return on invested capital, as I said, 42% ROIC this year.

And cycle to date, an average annual return of 28%.

And when you think about sustainability, remember, we don't pay royalties to the Sims or their agents.

Fourth, our revenues and cash flows have demonstrated predictability.

While we will have up and down quarters based on the timing of product releases, as long as we execute, we can count on our franchises to be back year in and year out.

Consider that Madden is entering its 15th year, CIFA its 11th year, Need for Speed its 10th, Sims City its 9th, and Medal of Honor its 5th year.

In our 14-year history as a company, we have not had a year of negative operating cash flow, even with a significant investment in ea.com.

In transition years historically cash flows have remained strong.

Consider that in fiscal 2001 our operating cash flow was 194 million.

Excluding ea.com, operating cash flow was 326 million.

Fifth, we have great friends.

The console manufacturers continue to innovate, expand existing markets and open new global opportunities.

Technology.

Over the past decade, the single most important innovation in entertainment has been digital.

For many entertainment companies, digital is a cost strategy.

For EA, digital is our revenue strategy.

We are a digital pure play.

As technology advances, so does the richness of our content and the quality of our game play.

Demographic trends.

We live in an interactive world and one where the global population is growing up with interactivity being a significant source of entertainment.

As people age, the games might change, but the passion continues.

The tide is with us.

In summary, fiscal 2003 was a great year creatively and in terms of our overall performance.

We have a passion for great execution and innovation.

We come to work every day taking nothing for granted.

Focused execution is number one on everyone's list.

Our historical performance demonstrates an entertainment business with competitive advantage, a global opportunity, excellent performance characteristics, world class talent, historically stable and predictable revenues and cash flows, and a digital tide that will likely with be us for many years to come.

That's EA today and our position entering our new fiscal year.

For the next few minutes I'd like to discuss the March quarter in detail.

I will then share our perspective on the industry and provide guidance for the June quarter and fiscal 2004.

I'll focus my remarks in three areas.

First I'll talk about our consolidated Q4 results as well as the [INAUDIBLE] impairment and restructuring charges.

Second, our market outlook, third, our financial guidance.

Following my comments, Larry, John and I will open it to your questions.

First our consolidated results.

Consolidated revenues for the quarter were 463 million, down 1% year-over-year.

The slight decline in sales was driven by the timing of product release dates.

In the quarter 12 products were released as compared to 20 in the prior year.

This performance demonstrates in spades the strengths of our titles in the marketplace.

Four franchises sold over a million units in the quarter, the Sims, Sim City, Command and Conquer, Lord of the Rings.

Four other franchises sold over 500,000 units in the quarter, FIFA, Medal of Honor, James Bond and Battlefield 1942.

We're also pleased to say that MVP Baseball is the number 1 baseball game on the PS2 and on next generation consoles in general.

We're now number 1 in all major sports.

Next our revenues by platform.

Please keep in mind that our U.S. segment shares are based on NPD TRIS data through March 2003.

In Europe segment share is based on EA estimates as no service comparable to NPD TRIS exists.

First on the Playstation 2, PS2 revenues were 34% of total revenues, or 158 million, up 40% year-over-year.

In the U.S. our segment share was an industry-leading 23% with 7 top 20 titles.

The Sims made its way to consoles in style and was the number 3 best-selling game in the U.S.

In Europe we estimate that we had 4 of the top 10 titles and approximately 24% segment share.

This performance was driven by the Sims, SIFA 2003, Lord of the Rings and Bond Night Fire.

On the PC, PC revenues were 26% of total revenues, or 121 million.

PC revenues were down 11% year-over-year as a result of stronger catalog sales in the prior year driven principally by the Sims and Harry Potter.

In the U.S., EA had seven of the top 10 PC titles and a 26% segment share.

Titles occupying these top spots included Sim City 4, Command and Conquer Generals, The Sims Deluxe, The Sims Unleashed, Battlefield 1942: The Road to Rome, Battlefield 1942, and Harry Potter and the Chamber of Secrets.

In Europe we estimate EA had eight of the top 10 titles and over a 30% segment share.

Command and Conquer Generals, Sim City 4, Sims Unleashed, Sims Deluxe, Battlefield 1942: Road to Rome, Harry Potter and the Chamber of Secrets, Medal of Honor: Allied Assault, Spear Head and FIFA 2003.

Xbox and GameCube.

Sales on these platforms together represented 15% of total revenues or 68 million in the quarter.

On the Xbox our segment share an was industry-leading 20%.

We had three of the top 10 titles.

On the Nintendo GameCube, EA had a 14% segment share in the U.S. and was number 2 behind Nintendo.

In Europe we estimate our segment share to be approximately 19% on Xbox and 17% on GameCube.

Co-publishing and distribution revenues were 16% of total revenues or 75 million, driven by Battlefield 1942 and its expansion pack, Road to Rome.

Subscription and on-line package goods revenues.

These revenues were up 73% to 17 million versus 10 million a year ago.

The dollar increase was driven by increased subscription levels on the Sims On-line, Earth and Beyond and Ultima On-line.

Active players.

We ended the quarter with a total of 390,000 active players using our subscription services versus 255,000 a year ago.

TSO has approximately 97,000 active users.

Our churn rate for paying subscribers has been averaging between 20 and 25% over the past couple of months, which is in line with our expectations.

We continue to improve game play by adding new futures such as neighborhood links, Semolian trading systems, and casino and store options.

We now expect active player accounts for TSO to reach 125,000 at the end of fiscal 2004.

Advertising, programming and other on-line revenue were $4 million, down from 14 million a year ago.

On a go forward basis, we expect the natural run rate to be roughly in this range.

The reduction in revenues is a direct result of lower AOL advertising revenues.

Moving on to the rest of the income statement, gross profit in the quarter was 299 million, up 13%.

Gross margin was a record 65% versus 56% in the year ago quarter.

Our margin improvement was driven by a higher mix of wholly-owned intellectual properties, driven by the strong performance of The Sims, Sim City and Command and Conquer Generals; an increase in the mix of higher margin co-publishing arrangements versus lower margin distribution deals; lower average manufacturing royalty rates; and a higher mix of next gen console based revenues.

Asset impairment and restructuring charges.

Total asset impairment charges of 65 million were taken during the quarter.

These charges related principally to ea.com.

In the quarter we also had restructuring charges of approximately 7 million, which related to the consolidation of our Las Vegas and Irvine studios into our Los Angeles hub facility and the acquisition of class B options and outstanding warrants.

The majority of outstanding class B options and shares were acquired or exchanged for class A equity during the quarter and EA.com was consolidated into the company's core operations.

As a result the company intends to eliminate dual class reporting as of April 1, 2003, the start of ea's new fiscal year.

Onto the bottom line.

First I'd like to cover GAAP results and then our non-GAAP measures.

GAAP results: operating income was 10 million versus 67 million in the year ago quarter.

Our operating margin was 2% in the quarter.

Although our gross margin increased, our operating income dropped as a result of asset impairments and restructuring charges, and to a lesser extent because of higher operating expenses as a percentage of revenues.

Net income was 9 million versus 47 million a year ago.

Diluted earnings per share were 6 cents versus 33 cents a year ago.

Operating cash flow was 714 million on a trailing 12-month basis.

The strengths of this result was driven by our operating performance and by a significant decrease in year-over-year working capital.

The working capital improvement was driven by the timing of product shipments.

Non-GAAP measures, the following measures are non-GAAP, we believe these measures help provide insight into the ongoing operations of the company.

In each non-GAAP measure, we have excluded 72 million of pretax asset impairments and restructuring charges as well as $1 million of charges for amortization of intangibles.

As an attachment to today's earnings release, we have provided a reconciliation of these non-GAAP measures to the corresponding GAAP measures.

Non-GAAP operating income was up 3% to 82 million, or 18% of revenues.

This increase was driven principally by higher gross margins.

Non-GAAP net income was up 7% to 59 million versus 56 million a year ago.

Non-GAAP diluted earnings per share were up 3% to 40 cents versus 39 cents a year ago.

Our diluted share counted ended at 147 million shares versus 144 million a year ago.

Now the balance sheet.

Cash, short-term investments and marketable securities ended at 1.589 billion, reflecting the strong cash characteristics of our business.

Net accounts receivable were 82 million.

Note that on a roughly flat top line, our receivables at the end of the year dropped by 108 million year-over-year.

This was due to the timing of product releases.

More titles shipped earlier in the quarter.

Reserves of against outstanding receivables were 165 million, or 67% of gross receivables.

In the year ago March quarter, AR reserves were 116 million or 38% of gross receivables.

The increase in reserves as a percentage of gross accounts receivable was driven by the absolute drop in receivables and as a natural result of higher sales volumes.

Reserves as a percentage of trailing 6 to 12-month revenues have remained relatively constant.

Ending net inventory was 25 million versus 33 million at December 31st and 24 million a year ago.

No title represents more than $2 million of net exposure.

The current portion of deferred income taxes increased to 117 million from 39 million as a direct result of a reclassification of R&D related credits from long-term to current and additional credits which were generated during the year.

Before discussing our market outlook, I'd like to take care of a couple of housekeeping items.

As we move into our new fiscal year, we intend to change a few items related to our reporting.

First, historically all write-downs of prepaid advances and/or royalties were included in Research and Development.

Going forward, if a product has launched and we subsequently take a write-down, we intend to include this cost as part of cost of goods sold.

This change has no impact on operating income or net income.

Rather, it is only an adjustment to income statement geography, moving expense from the R&D line into Cost of Goods Sold.

Looking back, this change will move the following amounts from the R&D line to COGS: in 2003, 10.8 million; in 2002, 7.2 million; and for 2001, 12.7 million.

Again, included in our release is a schedule which highlights the impact of this change.

Again, no impact on net income or EPS, only income statement geography.

Next, effective Q1 fiscal 2004, we will no longer break out ea.com as a business segment, and dual reporting will disappear.

We will continue to provide subscription and revenue metrics.

Managerially, we do not intend to track this business separately.

Last, our shelf registration statement has been reviewed by the S.E.C., and there are no outstanding accounting issues.

I'll conclude my portion of today's call with our market outlook and financial guidance.

Our estimates for calendar 2003 hardware and industry software sales remain unchanged.

We expect console prices to be reduced this year.

Software prices, we expect that premium titles will continue to hold the $49 price point but that lesser titles will move toward $39.

In North America we expect growth in software sales as follows: for the PS2, up 25 to 30%.

For the Xbox, up 20 to 25%.

For the Nintendo GameCube, up 15 to 20%.

For the PC, up 0 to 5%.

In North America we expect the following in next gen unit sales: PS2, between 9 and 10 million units.

Xbox, between 2 1/2 and 3 million units.

Nintendo GameCube, between 2 and 2 1/2 million units.

In Europe we expect the following next gen unit sales: PS2, between eight and nine.

Xbox, between two and two and a half.

Nintendo GameCube between one and a half and two million units.

Again no changes here.

Our financial guidance, our guidance reflects our best thinking as of today.

There are plenty of unknowns and several things that could happen which could cause our actual results to be materially different.

We ask you to carefully consider our risk factors when evaluating these estimates.

I'll cover our financial guidance in two parts.

First I'll discuss the first quarter of 2004, and then our outlook for the full year.

For the quarter ending June 30, 2004, we expect revenues to be flat to slightly up year-over-year.

In the prior year quarter, revenues were 332 million.

Net income to be roughly breakeven.

We hope you can tell from this guidance how pleased we are with the launch performance of Death Jam Vendetta and NBA Street 2, as well as the prospects for Sims Superstar.

Remember that last year FIFA World Cup and Medal of Honor each sold over 2 million units in the June quarter.

In just five days, Death Jam Vendetta became the new premier PS2 title in the U.S. for the entire month of March.

To date, we have sold over 650,000 units.

NBA Street 2 received an impressive 94 IGN score and has already sold in more than 750,000 units.

In Q1 we expect to ship eight skus in North America and 10 in Europe.

Death Jam Vendetta on PS2 and GameCube, NBA Street 2 on PS2, Xbox and GameCube, Sims Superstar on PC, Formula One Career Challenge on PS2 and PC.

In Europe we also intend to ship Formula One on Xbox and GameCube.

This guidance demonstrates our belief in the strength of our titles and the marketplace.

Full year guidance, for the full year we expect revenues to be up between 13 to 17% or 2.8 to 2.9 billion.

Diluted earnings per share to be between 310 and 325, up 43 to 50%.

In addition, we expect to ship between 85 and 95 skus and expect to have a strong lineup of titles.

In sports the proven cast will be back, better and bigger, led by the strong performance of Madden, FIFA and NBA Live EA Games will be anchored by The Sims, Sim City, Medal of Honor: Rising Sun, Underground, which will be part of the Need for Speed franchise, Harry Potter Quiddich, Bond, and Lord of the Rings: Return of the King.

EA Sports Big is already off to a strong start with Death Jam Vendetta and NBA Street 2.

We also will add a new SSX title this fall.

Further, we expect revenues to follow roughly the same pattern as they did this past year, although Q4 will be a bit stronger and Q2 a bit lower as a percentage of the total year.

Gross margin to be roughly flat for the year, driven by lower effective royalty rates and less off-site development, both offset by an expectation of overall lower industry pricing.

Operating margin to exceed 20% and our fully diluted share count to be about 152 million shares.

Before opening it up to your questions, let me wrap up with a few thoughts.

This was a historic year for EA.

Record revenues, record earnings and record cash flow.

Our performance highlights the strength of our business.

We're not just a growth company.

We're a growth company that generated a lot of cash at an excellent rate of return.

We're fortunate to be a company with a significant mode, and many of those advantages are proprietary to EA.

We are 110% focused on execution and we take nothing for granted.

Make no mistake, our objective this coming year is to extend our lead.

And finally, we're exactly where we want to be heading into this new year: number one globally, with big franchises in place, and we know how to build even more.

We look forward to reporting our results on the quarters ahead.

With that, Larry, John and I will open it up to your questions.

Operator?

Thank you, sir.

Today's question and answer session will be conducted electronically.

If anyone wish uses to ask a question today, please do so by pressing star 1.

We will take only one question per caller.

Once again, that is star 1 to ask a question, and we will limit you to one question.

I will pause now to give everyone a chance to respond.

We move first to Heath Terry with Credit Suisse First Boston.

Great.

I was wondering first if you could give us a breakdown on the 85 to 95 skus, which platforms are those going to be across?

And you mentioned in your prepared remarks that this was the 14th year that we've seen cash flow growth, operating cash flow growth.

I'm wondering if you can give us an idea of how you expect that to continue through the -- through the next transition.

Should we believe that there's gonna be sequential growth in cash flow even through the transition years?

And then, just finally on the operating margin front, obviously we've seen just incredible growth in operating margins through this cycle.

When you look out towards -- look out to this next transition, where do you see those going during the transition year?

I know that's asking a lot early on given that a lot of different things can happen during the transition.

But I just want to kind of get an idea where your thoughts are there.

And then, just finally what do you expect cap ex to be this year?

Lawrence Probst, III: Heath, this is Larry.

Was that one question?

Well, I was hoping you weren't going to hold me to that.

Lawrence Probst, III: I'll take the part about the platform breakdown.

I think you can expect to see a similar number of Playstation 2 titles as we published this past year.

So, I would say a number that's between 20 and 25.

A number in the mid to high teens each on GameCube and Xbox.

A similar number as what we published last year on PC.

And where you'll see a few more skus is on the Game Boy Advanced platform.

Heath, I'll go ahead and take the questions on operating cash flow.

I think, you know, one point that I want to clarify, the statement that I made was not about growth in each year.

It was about never having had a year in our history as a public company of negative cash flow.

Okay.

The second point that I want to make is that even during a transition year, the cash characteristics of this business have remained very, very strong.

As you know, cash can be affected by a lot of things, like working capital and different changes.

So, you're gonna have fluctuations over time.

Nonetheless, if you look back to 2001, excluding ea.com, our cash margins, and this is net after tax, were 25%, and then in our highest year, which would have obviously been this year, again excluding the investment in ea.com, was 750 million a 30% March .

The point is, looking back at history, this has been a very stable business both through -- speaking of EA specifically -- through transition years and in terms of the non-transition years, as well.

Looking ahead to operating margin, I think it's just too far out for us to really be projecting beyond this.

We'll stick to delivering 20- plus percent margin in this coming year.

Thank you.

Next we move to Shawn Milne with Soundview Technology Group.

Thank you.

And I guess I will stick to one question here.

Lawrence Probst, III: Thank you.

Just on the margin front, gross margin was much better than I expected.

And you talked about some of the pieces.

Could you give any color between those pieces on which one had the bigger magnitude in terms of driving the gross margin expansion?

And as that relates to your guidance -- I'm still talking about gross margins here, so I think that's okay -- think about that next year.

Obviously you get lower royalty rates, but you talked about a little bit of lower pricing.

I wonder if you could just add a little meat to the bone on that.

Thanks.

Certainly.

Let me give you a little more color on the gross margin front.

In looking at gross margin, virtually on every platform our margin was up.

That's one point.

The second thing that I would point to is you could look at it really being, you know, 50% due to mix and 50% due to product cost.

If there was a driver, the biggest chunk of it was the PC, probably followed by margin improvements on the GameCube, margin improvements in affiliate label.

But a big way to think about it is product cost 50%, and then again mix being another 50.

Lawrence Probst, III: The only thing I would add to that is --The Sims on consoles, it tends to be a higher margin product because we own the intellectual property.

Right.

Thank you.

This is John.

You asked a little bit about coming year on pricing, in terms of how that affects it.

We're still confident that we can hold pricing on our biggest megahits.

I think many people might have doubted that we could hold $49 pricing on titles like Death Jam and NBA Street 2 on PS2 and the other consoles.

And we have.

We do not have all of our titles in the coming year programmed at $49.

The key titles like FIFA, Bond and Lord of the Rings, we think it holds.

That's helpful.

Thank you.

Next we move to Arvind Bhatia with Southwest Securities.

Good afternoon, guys.

Congratulations.

A quick question on the Superman license that you guys just announced recently, can you talk about the timing of the product there and what you expect from a performance standpoint given the competition?

This is John.

At this point in time, Warner Brothers is still bouncing around a little bit on the final plans.

They've given us more information, but not yet for public disclosure.

At this point we believe the movie will be 2005.

So, the title is not in our fiscal '04 plan.

So, we're thinking more about fiscal '05.

It is a multi-year deal, as we announced, and we expect to be releasing games pretty much throughout the PS3, Xbox 2, GameCube 2 cycle.

Great.

Thanks.

Next we move to Edward Williams with Gerard Klauer Mattison.

Good afternoon.

Just a quick question for you.

Can you comment a little bit about what the catalog or the library contributed to the quarter and the year and how you guys see that on a going forward basis with regards to the December quarter?

Ed, let me just kind of give you a breakdown.

Basically if you look at the quarter, it was about, I'd say 37 percent new skus, 47% older SKUs or more catalog-driven, and affiliate label was about 16% roughly.

And that is really just within an eyelash almost identical to the prior year.

I think if you looked at overall statistics, you'd probably see it more 60% new, 23% catalog-driven and sort of 16% affiliate label.

But year-over-year the pattern's almost identical.

But to the year it's going to be much more driven by new skus.

Lawrence Probst, III: The numbers that Warren gave you are for fiscal '02.

For fiscal '03 the number is about 68 percent new, 17 catalog, 15 AL.

Which, just as a perspective, it's the 80/20 rule.

A hit title will sell about 80% of its volume in the year that it's introduced.

And those are year-over-year comparisons.

And that's not changed a lot for us.

So, you know, when you get that 68/17, the balance being AL, you strip that out and just look at individual titles, figure about 80% of it ships in the year that it's launched.

Okay.

Do you have any comments as to the December quarter releases that we should be looking for?

Yeah.

This is John again.

From EA sports, the big launch title in the quarter would include NBA Live and FIFA.

Along the EA Games line, the titles that are probably going to catch the most attention would be Lord of the Rings: Return of the King, Medal of Honor: Rising Sun and Bond.

And each of these titles is looking very, very strong.

You know, we can give you a much richer list if that's what you're looking for perhaps after the call.

Lawrence Probst, III: What I would add to that is SSX3, which is launching in the December quarter, as well.

That's Big Mountain.

SSX3 is Big Mountain.

Okay.

Great.

Thank you.

Next we move to David Farina with William Blair.

Good afternoon.

When you look at what's happening on the on-line business going forward, clearly we're consolidating that business, but conceptually is there a model here, or is it just kind of attached to the PC games and maybe into the next generation of console games as an add-on?

Or do you still think there's a stand-alone business here in terms of on-line contact two, three, four years out?

In terms of it being consolidated with the core business, I think that's a reflection of it really being much more intimately linked to the rest of our products than it was originally envisioned when we established that business.

As we look at it now, I think there's several different pieces.

There is an ongoing business with the Sims On-line and NBA and Ultima On-line.

Each of them has different performance characteristics and we'll be growing those businesses in the coming year.

The biggest noise you're going to hear is from Sony and Microsoft around their connected console strategies, Microsoft called Xbox Live, Sony On-line.

I think in this generation there's only very modest revenue potential for either of those platforms on-line, which has to be proven, but I think represents a significant opportunity if we can play it out properly, is added revenue generation capability on the back-ends.

Instead of just selling Madden at 49, we may be able to generate subscription on the back of that.

At this point that's frankly more speculative than it is, you know, substantive.

But that's what we're going to be working on over the balance of the cycles.

What is interesting is consumers seem to love to play console games on-line.

The tie ratio of Madden to the installed base of the on-line adaptor with Sony is about 80%.

So, a staggering kind of tie ratio.

People checked into it even today, this much after the Super Bowl, you see hundreds of people on-line playing Madden in a matchup scenario on the PS2.

So, it looks like there's something there, but it's currently not in our financial models and it's not something that I can give any kind of concrete answers on.

Lawrence Probst, III: In addition, I would say that we believe that there is potentially a subscription business around the web-based games offering.

If you take a look at the traffic on our site in the month of March, there were 7 billion minutes spent on the site, people tend to spend about an hour each time that they visit the site.

So, you're going to see us experiment with some subscription pricing in the back half of this year, and we're gonna try to turn that into a business, as well.

Okay.

Thank you.

Thank you, sir.

Next we move to Mike Wallace with UBS Warburg.

Hi.

Warren, about the on-line business, I know you're not gonna be breaking it out, but will this be a drag on earnings throughout the fiscal year as -- even though it's not stand-alone?

Could you give us an idea of, you know, when that stops dragging the earnings down or when it gets to a breakeven point?

Mike, as you said, we won't be tracking the business separately for the year.

So -- and we're not even budgeting it that way for the coming year as this will really be folded right back into the core operation.

Obviously, the restructuring charges will benefit us, and that will be around 15 cents.

So beyond that I'd explain it this way: clearly if you look at the drivers of some of the negative operating performance, it was the heavy investment in development in the Sims On-line and heavy marketing.

We'd expect that to be less for the year.

I think we've also taken, you know, several cost measures obviously to drive the losses down.

Okay.

And as far as revenue growth of 13 to 17, I assume it's the PC business, since it's about a third of what you're doing, that's dragging that down.

Are there major PC games that you could talk about that are coming out this fiscal year?

Lawrence Probst, III: Well, I'll let John respond on the major PC games, but if you recall, we talked about the PC business overall being flat to up 5%.

And so, clearly we don't expect the kind of growth on the PC that we're expecting on the next generation consoles.

As for the PC titles, this is actually a year where we've got some pretty stupendous titles.

Probably most notable late in the fiscal year we'll be launching The Sims 2.0.

As you probably know, The Sims is the number 1 selling PC title of all time.

One description for the game is incredibly good game play with graphics that look several years old.

The game that we're launching this coming spring is just spectacular-looking.

Beyond that, we've got Medal of Honor: Rising Son.

Modal of Honor was the top-selling per person share in the category.

The update this year takes you from Europe to the Pacific theater.

I think that's going to do very well.

And then a lot of our multi sku franchises that have key PC titles within them, from Bond to Lord of the Rings to Madden.

FIFA always puts up big numbers.

We have a strong year.

And the addition to that is we've got two expansion packs on the Sims.

And as you know, the Sims expansion packs have done exceedingly well.

In June we've got Sims Superstar, which takes you out of playing house and into the world of Hollywood.

I think that's going to get a lot of attention.

So, by and large it's a good year for EA in the on-line business.

Which were just launched in the March quarter, so we ought to get some residual effects from those as we go through this fiscal year.

Just a clarification, Warren.

You said earnings 310, 325, up 43 to 50%.

So, that's going off the 217 which had charges.

The 310 to 325, is that a clean pro forma number, or does that include any charges that are going to be throughout the year.

That is a clean number.

Okay.

Thanks.

Thank you.

Thank you, sir.

Next we move to Tony Gikas with U.S.

Bancorp Piper Jaffray.

Good afternoon, guys.

A couple quick questions for you.

On your software growth estimates for calendar '03, if we just look at the three current generation video game platforms, kind of a back of the envelope growth rate, it looks like it's close to 23%, depending on how you weight it.

If you factor in the previous generation platforms as well, where do your software growth estimates come out as a whole?

Is it in the mid to upper teens?

Second question: you didn't change your hardware assumptions for the U.S. and Europe and Sony recently indicated they're going to cut their shipments by at much as 10% over the next 12 months.

Should we assume that those cuts are primarily in Asia-Pacific issue?

I'll address the hardware piece of that initially.

The numbers that Sony talked about had to do with factory shipments.

They did not talk about sell-through.

And I think what they're attempting to do is balance inventories in the channel so that they have less inventory at the end of this fiscal year than they had at the end of the previous fiscal year.

So, we stand by our estimates on sell-through on the Playstation 2 platform.

On the forward forecast for the industry, I think the headline point is the numbers we gave previously on the next generation consoles are those that we stand behind.

You asked what the total industry weighted, including the Playstation, et cetera.

The way we tend to look at that is weighted to our mix as a business.

And so, you know, we don't do as much on the Game Boy Advanced, for example, as some companies, like THQ, focuses more on that platform.

Weighted to our mix, our cut of the industry is in the mid-teens.

And when we put up growth numbers beyond that, it's because we think we can grow share.

Okay.

Then just a follow-up real quickly.

Pricing trends in the U.S. versus Europe.

Is pricing expected to hold up better in Europe this year?

Hardware or software?

Software.

Excuse me.

No.

By and large you know, we're expecting a pretty similar thing to happen in both North America and Europe where the most premium of titles, the most robust titles, things like Lord of the Rings or FIFA or Madden can hold current pricing.

But we expect to see declines of about $10 a unit for titles that don't have the same strength.

Okay.

Thanks.

Thank you.

Next we move to Bill Lennan with wrhendrick.com

Hi.

The last guy got both of my questions, but I had another one.

In your guidance, could you give us an idea what you think -- I've been using the term replacement rate for Harry Potter.

You don't have a Potter movie coming out next year, but just a ballpark, do you think you'll do -- your guidance reflects 50% replacement of what you did last year or 75, a hundred?

Just an idea where you think Harry Potter will come in.

Lawrence Probst, III: We think it's going to come in, we're not going to give you the percentage, but it's less.

And we have two introductions just for clarity's sake.

We're taking the first book and bringing that to the PS2, and we're also launching a Quiddich title.

And the Quiddich title is a full breadth of platforms.

So, we've got two kicks at it.

Just one quick follow-up.

Do you think bond without a movie comes in the neighborhood of where it was or up or down?

I guess I'm just trying to get a feel for we don't have many data points on how games do without a movie.

And I'm wondering what your thinking is.

We think we can do better with bonds this year than last.

Thank you.

Thank you, sir.

Next we move to John Taylor with Arcadia Investment.

Hi.

I want to poke around a little more on gross margin, if I can.

Can you give us a sense of what the percentage of revenues generated by internally-owned IP was versus, you know, some license?

And I don't know where that cutoff is but you probably can guess where I'm going with this.

That's the first part of it.

The second is with that 67%, you know, coverage on your gross accounts receivables, did you have to trim your accrual rate in Q4 that might have shown up in gross margin a little bit?

And I guess the final thing is maybe give us a sense of what happened as -- in terms of royalty rates per unit?

If you could do that, that might shed some color on kind of what the format guys are getting out of all this and what they're not getting.

Thanks.

John, I'll start off on the gross margin question and then hand it back to John in terms of the revenue mix.

I think -- you know, a couple of things.

One, I'd go back to what I said relative to -- you know, earlier we had strong improvement due to our PC shipment and we had margin improvement across the board on each of the platforms.

We also had lower overall effective royalty rates.

If you take a look at reserves, what I can tell you is that comparing reserves to accounts receivable really doesn't mean much because it's not the right .

And for us the better way to look at it is to go back and look at some sort of trailing revenue, whether that's six to 12 months trailing revenue.

And what you'll find is that it's been very, very constant in sort of the 8 to 10% range.

So, these really nothing out of line in terms of where these reserves are.

The other thing, as I mentioned in the script, was to take a look at the absolute balance in AR, which because of the earlier launch of our titles in the quarter allowed us to collect the receivables sooner, which obviously helped us on the cash flow standpoint and also in terms of working capital.

John, if you want to comment on revenue?

You're right, it's a little challenging to make some of these divisions.

But in rough numbers figure about 40% sports, 30% intellectual properties that we own and 30% intellectual properties that we rent.

Some of the challenges are things like Death Jam Vendetta.

Death Jam's a music intellectual property but it's a wrestling game.

It has a license that isn't as expensive as the Harry Potter license.

The key growth in terms of percentages of the last few years has been in our own intellectual property.

These are things like SSX, Medal of Honor, The Sims, Sim City, CNC Generals.

These have all been chart-topping titles that have allowed us to drive that part of our business faster than any other.

The other part that's been growing obviously is what we've been doing with movie licenses.

What we've been getting with Lord of the Rings, Harry Potter and Bond have been really stellar successes.

Sports has continued to grow, but it's declined as a percentage of the total as our other businesses have grown faster.

And I would say overall, coming back to the margin question, John, if you look at FY '04, our gross margin on the PC was roughly 78%, on the Xbox about 57%, and on the PS2, in the same sort of number.

Okay.

Thank you.

John, the clarification.

The 40/30/30, is that kind of like a fiscal year number is that a fourth quarter number?

That's a rough guesstimate of where we are right now.

It's not one that added up exactly, so, I would say comprised of both.

We had a few percentage points in either direction.

In the old days, if it was a 50/50, was it a 30/20 split, or what did that look like?

I think directionally the trend is a larger percentage driven by our wholly-owned intellectual properties.

I think that trend will continue in FY '04.

We have high expectations for Medal of Honor, we have the same for SSX3, which didn't exist in last year's mix.

And that number will get larger in '04 relative to '03.

Thank you.

Thank you.

Next we move to Gary Cooper with Bank of America Securities.

Hi.

Last year's Q2, I believe you had Need for Speed was on the fence, and you had Madden NCAA Football and NASCAR.

Is there a fence title in that core this year?

Secondly, can you give us some idea of maybe a percentage of what you think your 85 to 90 SKUs will come out at 49.99 versus 39.99?

Thanks.

The first part of your question, you should expect to see all of those same titles in Q2 this year.

And what we'll ship in addition will be the full lineup of NHL products in the month of September.

So, incrementally one significant additional title in that quarter.

As to the pricing point, I think you need to reference a particular platform because this pricing adjustment isn't relevant for the PC.

We tend to price those at 39 or 49 depending on the property, not really around where we are in the cycle.

How about the PS2?

PS2 is a bench mark.

We've done two titles so far this year, both at 49.

Larry indicated approximately 20 titles when he gave the response earlier today.

I'd say that more than half of them are going to be at $49.

And remember, the more than half will be our strongest title.

So, the units will be even more stilted towards the $49 price point in North America.

I think the percentage will be slightly less outside of the United States.

The reason for that is that things like Madden and NCAA and NBA Live that are so strong for us here don't have the same position around the world.

Thank you.

Next we move to Jeff Vilenski with Bear Stearns.

Mr. Vilenski, your line is open, sir.

Sorry.

Thank you.

You have been successful with titles coming out of EA Big.

What's the strategy going forward?

Are you guys gonna expand any areas you are delving into and any new sports titles coming this year?

Lawrence Probst, III: We think of EA Sports Big as sorts of our extreme sports brands.

And obviously we just launched Def Jam.

That has started off tremendously well and we have high expectations for that and we think we can build a franchise out of that longer term.

We just launched NBA Street Volume II, off to a great start, as well.

Later in the year we have SFX 3.

And we probably have one or two addition to that line-up that we're not prepared to talk about today.

We're going to continue to build that brand and push aggressively on that brand.

We think it's going to be a significant part of our business.

Larry, the additions, will they come this year or next year or --

Lawrence Probst, III: They are likely to be either Q4 of this year or Q1 of next year.

That's why we don't want to talk about them right now.

Okay.

One more question on the affiliate labor business or the co-pub business.

Can you tell me how many co-pub titles in the June quarter and possibly for the year and how we should model this in terms of guidance?

I don't think we've got the statistics in front of us in terms of title count for the June quarter.

We'll from to get back to you on that.

Okay.

How about modeling this business unit going forward?

It looks like you're doing 15 to 20% of revenues consistently per quarter.

Is that a way to look at the business or --

Yeah.

That is exactly how -- just keep it right where it is.

Lawrence Probst, III: Yeah, but think about it as an annual because it's really -- you know, being 15 to 20% of our business, it will bounce up and down more than our core business will around key title launchers.

Okay.

Thanks a lot.

Operator, we have time for one more question.

Yes, ma'am.

We'll move to Stewart Halpern with RBC Capital Markets.

I've got a two-part question related to pricing.

First on the software, talking about the hold on the top product at the current prices, the rest of the product $10 less.

If you look at sort of an average software price underlying your guidance, the way you could characterize that, with the ASP down 10%, 15%?

Lawrence Probst, III: I don't have a weighted average for you.

I can tell you that, you know, PC pricing is holding.

Console pricing is coming down, but on less than half of our volume.

Warren may have a blended average.

I'd say, you know, in going through our planning process, we felt the industry would be down somewhere around -- a bench mark to use would be about 10% overall.

And we would expect to be down less than that given the strength of our premium titles.

Great.

And then on the hardware side, a lot of debate about price cuts, when it happens.

Would you say if there is not a price cut effective around the time of E3 and the hardware guys wait until September, would there be any impact on your Q1 and Q2?

Lawrence Probst, III: I don't think it matters much whether the hardware prices are reduced in May as opposed to August.

I fully expect they'll be down by Labor Day.

And gun to my head, I believe they'll be down sooner rather than later.

Great.

Thanks a lot.

I'll now turn the conference back to you for any closing or further comments

Thank you, everyone, for joining us on our call today.

If you have any other questions, please feel free to call us afterwards.

That does conclude today's conference.

Thank you all for your participation.

You may now disconnect.