美商藝電 (EA) 2014 Q2 法說會逐字稿

Welcome, and thank you for standing by.

At this time, all participants are in a listen-only mode.

(Operator Instructions)

Today's conference is being recorded.

If you have any objections, you may disconnect at this time.

I would like to turn the meeting over to Mr. Rob Sison, Vice President of Investor Relations.

Thank you.

You may begin.

Thank you.

Welcome to EA's fiscal 2014 second-quarter earnings call.

With me on the call today are Andrew Wilson, our CEO, and Blake Jorgensen, our CFO.

Peter Moore, our COO, and Patrick Soderlund, our EVP of EA Studios, will be joining us for the Q&A portion of the call.

Please note that our SEC filings and our earnings releases are available at IR.

EA.com.

In addition, we have posted earnings slides to accompany our prepared remarks.

Lastly, after the call, we will post our prepared remarks and audio replay of this call in a transcript.

This presentation and our comments include forward-looking statements regarding future events, and the future financial performance of the Company.

Actual events and results may differ materially from our expectations.

We refer you to our most recent Form 10-Q for discussion of risks that could cause actual results to differ materially from those discussed today.

Electronic Arts makes these statements as of October 29, 2013, and disclaims any duty to update them.

During this call, unless otherwise stated, the financial metrics will be presented on a non-GAAP basis.

Our earnings release and earnings slides provide a reconciliation of our GAAP to non-GAAP measures.

These non-GAAP measures are not intended to be considered in isolation from, as a substitute for, or superior to our GAAP results.

We encourage investors to consider all measures before making an investment decision.

All comparisons made in the course of this call are against the same period in the prior year, unless otherwise stated.

Now, I will turn the call over to Andrew.

Thanks, Rob.

I'm happy to be here today, and pleased to join my first earnings call as CEO of Electronic Arts, with positive news to report.

Before I get into our results, and a few other thoughts, let's take a moment to recognize the launch of Battlefield 4 in North America today, the culmination of efforts by the incredible teams at our DICE studios.

Patrick Soderlund and his team have done a spectacular job to deliver a game that not only represents the pinnacle of this console generation, but one that is also a defining title for the next gen consoles launching in November.

We're also launching Battlefield 4 Premium across current gen and next gen consoles to extend and enhance the experience, making this the biggest Battlefield ever.

Congratulations to the team.

We are proud to add Battlefield 4 to the list of hit titles including Madden NFL 25, FIFA 14, and others that were delivered to gamers this past quarter.

As we get started here today, I'll cover a few things.

A quick top line of our Q2 performance and key drivers, the opportunity in front of us, and how we're positioning EA to deliver great games and services, and a quick look at EA's goals for the rest of FY 2014 and beyond.

Turning first to our quarterly results, EA delivered Q2 revenue and earnings above our guidance.

Digital revenue, cost controls, and delivering against our product plan all contributed to a very strong quarter.

However, much of our work for this year remains ahead of us, as we prepare to launch our titles for the next gen consoles this holiday.

Digital revenue remained a major driver in our overall performance, as we delivered games and live services for our core brands across multiple platforms.

We are tracking to meet or exceed our goal of generating more than 40% of our total non-GAAP FY 2014 revenue from our digital businesses.

From a product perspective, we delivered successful on-time launches in a second quarter for our major console titles from EA Sports, including NCAA Football 14, Madden NFL 25, NHL 14, and, of course, FIFA 14.

Madden NFL 25 and FIFA 14 also launched on iOS and Android this quarter, and of course, the much-anticipated Plants vs.

Zombies 2 landed on iOS in August.

In line with our previous guidance, our current gen EA Sports titles have seen some initial softness in sell-through, a trend we expect in moving into a console transition.

However, this is tempered by the unique opportunity we have with versions of Madden NFL 25, FIFA 14, Battlefield 4, Need For Speed Rivals, and NBA Live 14, all launching on Xbox One and Playstation 4 in November.

Cost control measures delivered better than expected results in Q2, coming in $51 million ahead of our guidance.

Our operating margin expansion effort is a great indicator of our increased financial discipline, and focus on growing EA's bottom line.

We are confident that we can continue to move faster and further than we already have on a go-forward basis.

With these factors driving our current outlook, we are raising full-year guidance today.

Looking ahead, EA's in a strong position as we move into a momentous season for our Company and the gaming industry at large.

Our studio teams put the finishing touches on a powerful lineup of titles for Xbox One and Playstation 4. We continue to be encouraged by the market reception and growing consumer excitement.

The latest indicators from Microsoft and Sony, along with pre-order data, show strong demand for the new consoles.

Both Sony and Microsoft have also committed that they will continue to fully support the existing Playstation 3 and Xbox 360 platforms.

Meanwhile, our industry is far more dynamic and diverse, moving into this console transition than ever before.

The global player base for mobile games is expanding, and we're also seeing strong performance in PC-based free-to-play games around the world.

Our strategy is directly aligned to each of these key growth opportunities, next gen consoles, mobile, and free-to-play PC.

EA's blueprint for success is visible with fan favorite brands, such as FIFA, where we offer experiences tailored for each of these environments.

FIFA 14 for consoles, including Xbox One and Playstation 4, FIFA 14 for iOS and Android mobile devices, as well as free-to-play online experiences for PC, such as FIFA Online 3 in Korea.

Tens of millions of fans are engaging with our games every day.

These titles are live services, with connected features and new content keeping the experience fresh for players, long after launch.

Recent changes that we've made to EA's structure will help us more aggressively capture these opportunities.

Key studio leaders Patrick Soderlund and Lucy Bradshaw have been elevated to lead our development efforts across next gen consoles and PC.

Frank Gibeau is leading a consolidation and double down of our mobile efforts.

COO Peter Moore continues to lead and transform our operational and publishing teams, and bring our games to market, and Rajat Teneja, our CTO, continues to lead development of our world-class technology platforms.

While not dramatic changes, these refinements will help us better leverage our IP, and integrate successful development practices across our entire portfolio.

In a moment, I'll hand over to Blake to walk through the specifics of our financial results, but this is my first quarterly call as CEO, I wanted to take a moment to speak about three elemental beliefs that I have for EA moving forward.

First, delivering amazing games and services for gamers must be at the core of everything we do.

The central strand of our DNA that defines who we are and the experiences we work to create.

Our reputation as a company is built on our ability to develop strong relationships with players through the games we make, and we are committed to strengthening that bond.

Second, EA's biggest strengths are our people and our strategy.

Our deeply talented developers and business leaders are the lifeblood of EA, enabling us to bring powerful IP like Madden, FIFA, Battlefield, The Sims, Star Wars, and more to gamers around the globe.

Combined with our strategy to take these titles across different platforms, geographies, and ways to play, EA has a foundation for decades of healthy growth.

Third, making games profitably is vital to EA's future.

Simply put, we are great games to our players, and strong returns to our shareholders.

Each of these beliefs is borne out of my experience as a passionate long-time employee of this company, having the had the benefit of working in multiple parts of our business across a number of continents.

These are the defining characteristics of a new era at EA, one that I'm incredibly excited to lead for our gamers, for our teams, and for our shareholders.

With that, I'll turn the call over to Blake Jorgensen.

Thanks, Andrew.

Turning to our Q2 results, EA's non-GAAP net revenue was $1.04 billion, which was above our guidance, and 4% lower than last year.

This quarter's revenue was driven by our sports titles and continued strength in our catalog offerings like FIFA 13, SimCity, Star Wars - The Old Republic and Battlefield 3. In line with our guidance, all of our sports titles accept for FIFA 14 sold in less than the prior year.

Lastly, positive foreign currency gains of $9 million also added to the revenue upside.

Q2 non-GAAP digital net revenue also contributed to the quarterly -- solid quarterly performance.

Digital net revenue increased by 11% year over year to $348 million.

Our digital business continues to be a diversified mix of high growth, profitable segments.

The trailing 12-month digital net revenue was up 22% over the prior year, to a record $1.75 billion.

Breaking down our digital revenue into its key components highlights the performance of each business.

First, extra content and free-to-play contributed $127 million, up 11% over the prior year, led by continued growth in FIFA Ultimate Team, FIFA Online 3, and Star Wars - The Old Republic.

This revenue relates to businesses on PCs or consoles where consumers can enhance or extend their gaming experience by buying additional digital content.

One exciting trend to note, our year-to-date results for each of our sports Ultimate Team businesses, Hockey Ultimate Team, NCAA, Football Ultimate Team, Madden Ultimate team, and of course, FIFA Ultimate Team demonstrated revenue growth year over year.

However, our decision to sunset several of our social titles offsets some of this growth, as we saw revenues declines from The Sims Social, and SimCity Social.

Second, our mobile business generated $105 million for the quarter, up 19% over the prior year.

Smartphones and tablets continue to represent a majority of the revenue, accounting for $87 million of the $105 million total, and growing 34% year over year.

The Simpsons - Tapped Out, The Sims Free Play, and Real Racing 3 continue to be key revenue generators, and the launch of Plants vs.

Zombies 2 also contributed to our mobile revenue.

Mobile growth was dampened by a $15 million decline in our Japanese FIFA World Class Soccer business.

This product was developed and hosted on social mobile platforms, and Japanese gamers have migrated to apps built natively for the iOS and Android platforms.

Going forward, we are developing and will roll out games built for the iOS and Android platforms in Japan and other key regions.

Third, full-game downloads represented $54 million, up 42% over the prior year.

This revenue was driven by PC-centric products, strong demand for SimCity, as well as the deferral of Q1 SimCity revenue into Q2, were the drivers for the significant increase.

And fourth, subscriptions, advertising and other digital revenue contributed $62 million, down 16% over the same period last year.

In the previous year, the Star Wars - Old Republic was a subscription-only based MMO.

This year, some of the revenue was recognized in the free-to-play category, as we expanded this title to be both a subscription and a free-to-play business.

Moving on to gross margin, our non-GAAP gross margin for the quarter was 61.7%, up over last year's 60.1%, and slightly better than our guidance.

The improvement was due to our growth in digital, lower processing fees as we move away from the social business, and the benefits of our new digital platform.

Operating expenses for the quarter were $499 million, down $82 million from last year, and $51 million lower than our guidance.

Lower operating expenses this quarter illustrate that our cost control programs are taking hold.

However, we believe all of this benefit should not be factored into the full-year results.

There continues to be risks associated with the transition to next generation consoles.

These risks could impact sales and marketing, and R&D expenses.

In addition, some of our positive variances are due to phasing of marketing expenses into the holiday quarter.

As we continue to manage expenses and headcount, we are progressing towards our goal of flat to down operating expenses, something we have not previously accomplished in a console transition year.

Achieving this goal will help our efforts to deliver operating margins above 20%.

The resulting non-GAAP EPS was $0.33 per share.

EPS exceeded our guidance of $0.12 per share due to lower operating expenses, stronger revenues, and slightly higher gross profit margins.

Our cash and short term investments at the end of the quarter were $1.42 billion, or approximately $4.60 per share.

Roughly 60% of this cash and short-term investment balance is held outside the US.

Also, as seen in our GAAP to non-GAAP reconciliation, this quarter, we recognized a $40 million GAAP-only charge for the expected litigation settlement and license expenses related to our college football business.

Net cash used in operating activities for the quarter was $6 million.

On a trailing 12-month basis, operating cash flow was $342 million.

During the quarter, we did not repurchase any shares.

We remain committed to our program, and as a reminder, it is a $500 million share repurchase program initiated a year ago.

At this point, total shares repurchased under this program remain at 22 million, at a total cost of $278 million.

Now, turning to guidance.

Last week, we announced that Titanfall will launch in this current fiscal year while The Sims 4 will be released next year.

We do not expect this change to have a material impact on our previous non-GAAP guidance, as the launch date and the Q4 forecast for Titanfall is broadly similar to that of The Sims 4. Non-GAAP revenue and gross margin guidance remain at $4 billion and 66%, respectively.

However, due to the favorable results of our cost control efforts, we are now estimating operating expenses to be reduced to approximately $2.1 billion, and we are raising our EPS guidance to $1.25 per share.

The GAAP guidance is expected to be $3.55 billion in revenue, and a loss per share of $0.72.

As we have pointed out in past quarters, our consumers are playing our games online, over longer periods of time.

And this longer period affects the lengths of time over which we are required to recognize GAAP revenue.

This fiscal year, we are lengthening this recognition period, resulting in an estimated $450 million of net revenue being deferred into fiscal 2015.

This longer service period has no impact on non-GAAP revenue, or on cash flows.

With respect to Q3 guidance, GAAP revenue is expected to be $775 million, as compared to $922 million in the prior year.

GAAP loss per share is expected to be $1.42, as compared to $0.15 per share in the prior year.

Again, this is primarily due to the longer revenue recognition period.

Non-GAAP revenue for the quarter is expected to be $1.65 billion, a 40% increase over last year's $1.18 billion.

Our fiscal third quarter is expected to account for more than 40% of our full-year revenue.

This quarter, we are launching major titles for current and next gen consoles.

Our Q3 non-GAAP revenue guidance is being impacted by certain upgrade programs we have rolled out, in connection with the console transition.

We are required to defer revenue associated with our current gen marketing programs that allow consumers to buy a next gen game at a discount.

As a result, we believe there will be some deferral of revenue into Q4, as some gamers delay taking advantage of this upgrade program.

Our non-GAAP gross margin is forecasted to be approximately 68%, better than prior year, due to our digital growth and revenue mix.

Operating expenses will be impacted by the phasing of some expenses from our previous quarters.

We expect our total non-GAAP operating expenses to be $600 million.

This results in a non-GAAP diluted EPS of $1.22 per share, as compared to $0.57 last year.

Regarding cash flow, we are maintaining our estimates for fiscal 2014 operating cash flow and capital expenditures of at least $400 million and $100 million, respectively.

This implies expected free cash flow generation of over $300 million, or approximately 1.4 times what we generated in fiscal 2013.

While the higher EPS guidance should generate more cash flow, the $40 million GAAP-only charge related to our college football business that I mentioned earlier will likely offset this benefit, causing us to maintain our previous projections.

In summary, we recognize the first-half results were ahead of our guidance, but as I noted earlier, the upside is driven mainly by our cost control programs taking hold, and phasing some of our operating expenses into the second half of the year.

Q3 represents more than 40% of our total non-GAAP revenue, and 98% of our annual EPS.

Similar to the World Series, where the remaining game or two will determine the season for Peter Moore's beloved Boston Red Sox, the next few months will determine the success of our fiscal year.

Our team is battle-tested and ready, and today, we are sending our ace, Battlefield 4, to the mound.

Now, with that, that I'll turn it back to Andrew.

Thanks, Blake.

Q2 was an exceptional quarter for EA.

With digital growth, improved cost management, and a slate of successful titles giving us strong momentum, moving into the second half of the year.

Our attention is now looking forward to our next gen launches, ramping up our mobile efforts, and positioning our long-term IP development to deliver amazing new experiences to our gamers, wherever they want to play.

When the next gen consoles begin to ship next month, EA will deliver an unprecedented lineup in the launch window.

Battlefield 4, Madden NFL 25, and FIFA 14 will be available day one for both Playstation 4 and Xbox One.

NBA Live 14 and Need For Speed Rivals then join our next gen roster, just a few days later.

In March, we'll launch Titanfall, a thrilling new first-person action experience from our partners at Respawn Entertainment.

In mobile, games like Plants Vs.

Zombies 2, FIFA 14, The Simpsons Tapped Out, and Real Racing 3, are showing how major brands can break through the cluttered ranks to continually engage players on smartphones and tablets.

We will lean heavily into our key brands, as we double down on mobile development to accelerate our growth in this vital segment.

In the last two weeks, you've also seen several announcements about our product slate for the remainder of this year and into FY 2015.

We are refining our focus on our biggest brands and great new IP in development, including The Sims 4, EA Sports UFC, FIFA World Cup, and Dragon Age - Inquisition.

Looking further out, we have a strong pipeline of new IP taking shape, including Star Wars - Battlefront.

At our core, we will resolved to continue strengthening EA's relationship with the hundreds of millions of gamers that play our games around the world.

Every day, we hear from our gamers about what they would like to see next from EA.

This feedback is incredibly valuable, and shapes our decisions about the games we make.

Providing great experiences for our gamers, supporting our talent, and executing on our strategy, as well as delivering profitable growth.

These are the fundamental beliefs that define EA today.

Combined, they drive us to deliver every day on commitments to our most important stakeholders.

A commitment to support our talented teams, as they create the absolute best games and services.

A commitment to do the work needed to be known, loved, and respected by gamers, for the games that we create, and a commitment to deliver profitable growth and continually improve returns to shareholders.

I look forward to sharing our successes with all of you in the years to come.

With that, Blake, Peter, Patrick and I will take your questions.

Colin Sebastian from Robert Baird & Company.

Your line is open.

Congratulations on the good quarter.

First off, just to the launch of Battlefield, wonder if you would comment on some of the initial feedback, and if the game has ended up in line with your own quality expectations.

And then secondly, Andrew, I wonder if you could expand a bit on you see the next gen cycle impacting EA and the direction you're taking the Company?

And moving to the Studio level, maybe Patrick, along those same lines, how do you see this playing out in terms of the expense structure, and development structure?

Thank you.

I'll start, it's Patrick, I'll started on the Battlefield question first.

It's very early, and we launched the game yesterday in North America, it's coming out in a couple days in Europe.

Early fans were positive, the reviews are strong.

I think we have to reflect upon what the DICE team in Sweden have built.

It's a game that we are launching on five platforms.

It has features that have never been seen before in a game, like you can connect via tablet and play the game in a meaningful way.

There are other features like 64 players in 60 frames that console players will see for the first time.

And overall, the reviews, as I said, have been positive.

We're seeing a 9.5 from GameTrailers, we've seen a 9.5 from Machinima, we've seen a 9.0 from Joystiq, and on.

Peter can probably comment more on market dynamics, but from a product perspective, we're very pleased with it.

Colin, it's Peter.

To your question of where we feel from a publishing perspective, the market has embraced it.

We've certainly hit our planned sell-in numbers.

If you hit retail, and I know you do, you'll see end caps, and aisle stuff, you've seen our marketing on television and online.

To Patrick's point, it's still early.

We just shipped in the last few hours obviously, in the United States, and Canada, we're yet to ship in Europe.

We'll have a better feel for initial sell-through by the end of the week, but so far, so good, we feel all of the core elements are in place.

As you see with other AAA launches in the last few weeks, current gen seems to be holding up.

We're very, very excited.

And you've seen a lot of footage that Patrick and his team at DICE have put out on next gen, and we're also excited about what we're seeing on pre-orders for that.

So from our perspective, when we look at what the key dynamics are right now, feeling very good.

I can tell you that in Origin, the PC version, the pre-orders are up 35% versus Battlefield 3, and that's a good precursor for the PC version of that game, and we're seeing strong engagement online already for the PC version of Battlefield 4. But early days yet, Colin.

And certainly to answer the question around next gen and the strategy for the Company, I'd start by saying this is my third major transition at this Company, and so I've had the great benefit to see the good, the bad and the ugly, as we have come through transitions.

And certainly, coming out of the last transition, we were resolute in our desire to ensure we didn't have that kind of challenge again.

So as we approach this transition, I would say we started work earlier than we ever had done before, and we worked more closely with both Microsoft and Sony throughout the entire process, and the end result is, we have a launch slate of games that are the best transition games that I've ever seen come out of this Company.

And so as I take that and look forward, I think we are starting this console generation far stronger than we've done before, and the platform and the foundation that we have built, I believe, is going to serve to ensure that we can deliver great games to gamers for many, many years to come.

Edward Williams from BMO Capital Markets.

Your line is open.

Quick question, looking at next gen consoles, what's your thought as to the relative significance that we will see out of next gen consoles for revenues for properties such as FIFA, Madden, Battlefield, this year?

How do we gauge what to expect on those, over the last, call it, five months of the year?

Let me start, Ed, and I'll have Peter talk about the market.

As you know, we've guided that next gen for fiscal 2014 as a relatively small part of our overall business.

Clearly, we'll be putting out five next gen titles this quarter.

We'll have a better feeling for how quick the uptake is and what the attach rate is to those, and we believe things like Battlefield will do extremely well in next gen, but we also understand that the market is going to take time to build, and so our forecast for full-year assumes relatively low next gen uptick of our core business.

Peter might want to talk about what he's hearing.

So, Edward, you and I have been through many of these transitions together, and you're familiar with the way this thing climbs and builds in the install base, and then the attach rates.

What I talked to our friends at both Sony and Microsoft, and trying to get some indications in the numbers that are going to be available for sale by the end of our fiscal year on March 31, and aggregate them, I think I can squint and see 10 million units combined, very easily.

Both Sony and Microsoft are proposing this could be their best launches, ever as in regards to their production numbers, and their ability to globalize this business quickly.

So we feel bullish about our ability, to Blake's point, of having five truly next gen titles available for that.

As regard to attach rates, we typically see maybe three titles per unit, and depending on how aggressive bundling goes on with the first parties, but I don't see any indication that there would be any less than that right now, from what we're seeing and hearing from our retail partners.

So I think overall, we feel very bullish, we have the right product at the right time.

We've not had some of the problems some of our fellow publishers in the industry have in getting our quality titles ready for next gen.

We feel, as we have said on previous earning calls, we're well ahead of this transition, and we're going to nail it.

So all in all, early days with either of them, both the launch effort -- feeling good about product quality from their end, production quality from their end, franchise quality from our end, and our ability to attach strongly to the boxes by the end of the fiscal year.

Great, and Blake, if you could comment a little bit about the phasing issue with regards to marketing.

How much have you scaled back your marketing that you traditionally would have spent at this point, in recognition that these new consoles are launching in November?

Our guidance originally had already made some adjustments for the new boxes being launched at Christmas time, and we're trying to be prudent in all our expenses, as you know, and there's a small amount of phasing that's going on.

It's not a huge number, but we wanted to be careful that you don't roll all of our savings for the first half of the year into the back half of the year.

We're also, as we talked about, trying to save some dry powder for further marketing if it's required during the holiday season, because we fully appreciate it's going to be a competitive time frame for titles among all publishers.

Great, thank you.

Justin Post of Bank of America, your line is open.

This is Ryan Gee in for Justin.

Blake, this is probably a question for you.

Talking about the softness you were seeing on the current gen titles, I'm wondering for 3Q, how much of the guidance assumes that you make up some of that shortcoming on next gen with sports titles, be it Madden or FIFA?

How much do the next gen console launches help you in 3Q, or is it really just predicated on the front line titles hitting?

I'm trying to get a sense of the risk for the quarter, if maybe Madden or FIFA don't see much of a bump.

We've started the year, we forecasted that all the sports titles, with the exception of FIFA, would be down.

And that has -- year to date, that has proven to be exactly as we forecasted it, in line with our guidance.

We are assuming that will continue in back half of the year, and thus, the mix that we originally forecasted on gen 4 versus gen 3 will continue as we guide it, and as we are continuing to observe in our guidance, that $4 billion for the full year.

I would say if there's greater interest in next gen boxes, or the software attach rate is higher, then that's upside for us, because we have not built that in as a critical component of our business plan for the year, since most of our titles shift before the next gen boxes.

So long winded way of saying it's basically in line with our original guidance, and we're still seeing that play out in the marketplace, and we're confident going forward that will be consistent in the back half.

Okay.

Great.

And looking ahead, just to the next gen, it might be a little early, but you've already have talked about Star Wars, and we know Titanfall is commenting.

Can you give us a sense for your next gen endeavors beyond those two?

Either talk about your percent of resources that are being allocated towards next gen, or maybe even just the number of titles you have in the works, one of your competitors today talked about the number of next gen titles they have coming.

If you could do anything around that, that would be great.

I don't know that we have a lot to share at this point, other than, you can expect us to continue to invest behind the big brands that we've talked about today.

The second piece, I would say, is that we are continuing to invest heavily both in our Frostbite engine and our Ignite engine, and our underlying digital platform, and while we certainly have incubation going on through the Company, we believe those engines in and of themselves will ensure that any products that we bring out in the future will certainly be genre defining and hopefully industry defining titles.

And we have, as you know, we've talked about, without specifics on timing, we've talked obviously about titles like UFC, which is being developed, and will be introduced next year.

Obviously, we have FIFA World Cup.

We've talked about Dragon Age, and obviously the Star Wars titles ultimately in the future years.

So there's a lot going on, and much of our cost base is turning from gen 3 development to gen 4 development.

Historically, that's been a problem for us.

This time, I think we've managed it extremely well.

That's why we're able to hold our costs down, and we will continue to reduce our costs in gen 3 development as our gen 4 takes over the full development.

But we will have gen 3 and gen 4 titles in the mix, for a long time to come.

Just as no different than we still ship occasional gen 2 titles that we're still making.

It's part of how we operate the business, and I think we have a very good handle on the costs in that shift, and should help us continue to bring our costs down in the future.

Okay.

Very good, thanks, guys.

Doug Creutz from Cowen and Company, your line is open.

I wonder if you could talk about FIFA, but I think in your prepared comments, you implied you are selling for FIFA and the December quarter was not down year-over-year.

We certainly have seen some evidence that the sell through has been weak.

Can you talk about how that is trending, is embedded in your December quarter guidance a little bit less reorders of FIFA than you might normally expect to see in a year?

Thanks.

Doug, it's Peter.

Yes, we hit our sell-in numbers as you know.

Our sell-through right now was a little softer than we projected, but nothing that we didn't expect ultimately, given the commentary you've heard from Blake here.

I think the important thing to look at here is data that we can see, is the engagement levels that we are enjoying on FIFA right now, and they are certainly up year-on-year versus FIFA 13.

Why is that important?

Because of the amount of digital revenue we can continue to drive.

You know very well the importance of FIFA Ultimate Team and the other Ultimate Teams that Blake alluded to in his prepared comments, and how important that is to the growth going forward.

Engagement is what we're looking at right now.

FIFA has a very long tail, and next gen will give it a boost on top of that.

We are ready for an exciting next gen FIFA.

You've seen the trailer this week that we launched.

We've think that helps us enormously.

And current gen, certainly on a global basis, a global title like this will be very important for a number of years to come.

So yes, sell-in was a plan.

I think replenishment will continue, engagement is above plan, which is very important to us, and we'll continue to push hard, as we always do.

I think, remember as well that we're doing some bundling with Microsoft in Europe around Xbox One, and while we think we've done a good job of predicting, it's hard to determine how much of that may have impacted sell through in any key markets, and that product obviously is built into the Q3 and Q4 forecast.

But remember also, that part of the reason that Q3 revenues shifted into Q4, is some of the upgrade programs where we've -- we were providing an upgrade for users from a gen 3 title to a gen 4. We won't recognize that revenue until Q4, and thus some of the phasing difference.

Thank you.

Drew Crum from Stifel Nicolaus.

Your line is open.

Blake, I wonder if you could dig in a little deeper on the gross margin guidance for the third quarter.

68% looks relatively high to prior quarters, and you would think they would be lower given the console launch for Battlefield.

And then a question on Titanfall, we have history with The Sims.

You're suggesting that the slate shift will be neutral to earnings.

Can you talk about your assumptions or expectations for Titanfall, and can you let us know if this is a timed exclusive or not?

Thanks.

Yes.

So first on the gross margin, gross margin guidance of 68% relative to 66% in Q3 FY 13, excuse me, is higher for a couple reasons.

One, higher shift of packaged goods to digital, a big shift.

Overall revenue mix shift, and obviously Battlefield is a very high margin title, relative to what we saw in Q3 of last year.

So we're very confident in that gross margin forecast, and much of it has to do with both Battlefield and the digital piece.

On Titanfall versus The Sims, a couple of things to note.

First, with our partners at Respawn, who have done an amazing job developing what looks like a fabulous game, they've done a fantastic job keeping that on schedule and possibly ahead of schedule in some ways.

We saw an opportunity in a launch window in the fourth quarter, because of some of the critical titles that were planned to be there moving out of the quarter, like [Watch Dog], or [The Crew], or some other titles that look like they're being delayed.

Titanfall is a title that also has an amazing following already in the market.

Ever since it was shown at E3, people have been highly interested in it.

Microsoft wanted to include it in its marketing campaign associated with Xbox, which you're seeing in the market today, and all of that led us to decide to move it into the year.

The Sims is a title that can be shipped almost any time in the year.

The Sims 3 was shipped in June 2009, it can ship in the summer, in the winter, in the fall.

It's a title that has a huge following, and we can always continue to develop, because much of that title is based on not just the base title, but also expansion packs, and so we use the additional time to continue to develop greater expansion packs and the product.

In terms of the forecast, both products were expected to ship in the last part of the quarter, essentially the middle of March.

So it's only two weeks of sales.

In the case of Titanfall, it's a brand new IP, and it is exclusive only for the life of the title on Xbox One, and Xbox 360 and PCs.

It's a first person shooter, and two of the biggest shooters are our own shooter, Battlefield, and obviously, Call of Duty will have already shipped for the holiday.

So we're being somewhat conservative in our forecast for what the revenue is, and it's similar to what we expected for The Sims.

Second, The Sims is a high margin product because it's wholly-owned IP.

Titanfall is obviously a product that we share, the revenues, the profits with Respawn, but as any of our developed titles through our partnership agreements, we typically invest in the title and expense those costs along the way.

And so for the year, the profitability of Titanfall is similar to The Sims, because we've already expensed the bulk of that R&D.

And thus, the tradeoff and profitability is equal, and we found that it was a good time to shift one for the other.

That's the quick story, and we're extremely excited about both Titanfall and The Sims, and we think it's going to help make not just this year, but next year, very, very strong.

Great, thanks, very helpful.

Stephen Ju from Credit Suisse.

Your line is open.

Andrew, sorry to sound like a worrywart, and Blake, you addressed there, but frankly we're not used to seeing game release dates come early.

It's usually the other way, so we're wondering if Titanfall is being rushed a bit, and what extra steps you might be taking to ensure the quality is there, as this first release should hopefully be one of many.

And Blake, in your quarterly disclosure, you have some off-balance sheet liabilities reaching about $1.3 billion right now, so I'm wondering what -- if you can give color as to where this is coming from?

Thanks.

Stephen, let me start with the off balance sheet item, and I'll have Patrick and Andrew talk to Titanfall.

Patrick's been very close to the Titanfall development.

And a simple reminder, we always said Titanfall was spring of this year, so we are always planning either March, April, May, right in there, so it's not a big movement in title, but Patrick has been working with the team at Respawn, he can talk to that.

On the off balance sheet liabilities, I know that's a question that comes up, because I've heard it from quite a few investors as well as analysts, and people tend to worry about anything they see as off balance sheet.

I think critical in our business is, we want to make sure people understand what our forward commitments are for any of our developer or licensor agreements.

We have those with sports league, with athletes, a whole variety of people.

The key to remember is those are tied to products, so the risk would be, we've stopped making the product, and I don't think we're going to stop making FIFA any time soon, and thus, any of those future commitments that are associated with FIFA revenue, a royalty for FIFA revenue, we would continue to be able to make.

So the case out there that says the off balance sheet liabilities are a problem, have to imply that we would actually exit products, and be on the hook for those liabilities.

And in most cases, they are tied directly to products like FIFA, like Madden, like Star Wars, where we have all intentions of making the product, and all intentions of making a really strong product that will easily cover the royalties within the goals of our profitability plans going forward.

So with that, let me turn it to Patrick, and Andrew on the Respawn ship dates.

This is Patrick.

On the quality side, and if we're rushing a game, I would say no, we're not doing that at all.

This is a very experienced, seasoned team, once of the best in the industry.

They've got a bunch of great games under their belt.

We have been monitoring and working with them for a long time.

This has been a game that's been in development for multiple years, and all the data we have in front of us suggests that this game will not only be highly rated but very highly rated.

I feel better than I would normally do at this time, on a game like this.

And certainly, I think your perception is right, in our industry, but having seen the game, having seen what's coming, we are very, very excited about the launch of Titanfall, and truly believe it's going to define this platform generation from the outset.

Thanks.

Arvind Bhatia from Sterne Agee, your line is open.

My question is on FIFA 14, Xbox will bundle in Europe.

Blake, can you help us maybe understand the economics and accounting a little better?

Will the profitability of FIFA 14 be similar, maybe a little better, because you get some help from Microsoft or is it a little less but you make it up on volume?

Just curious how it's going to work.

I can't comment on the specifics.

What I would say is it's a part of a Microsoft bundle, and so thus, we're not reserving any sales reserves or price protection that we might normally reserve on a normal product in the channel.

It's going in through a Microsoft box.

But you should trust that we're not employing a major discounts on the product, we want to maintain the profitability of the FIFA franchise, and that's critical to us.

What we're really trying to do is help introduce new players to FIFA, and Microsoft is trying to build the bigger share in tournament for Xbox, and those two fit really well together.

Peter, do you want to?

And the third leg of that is the fact that the more people that get FIFA in their hands, the more opportunity we have to be able to provide them with the digital service that is FIFA Ultimate Team, particularly in the European market, where we see very strong engagement levels.

So to Blake's points, this is about Xbox one being driven hard with a world class game, that gamers particular in the European Market, play a lot, too.

It allows us to get 100% of those consoles attached to FIFA, and as a result, our attach rate to digital consumers and the digital services in the form of FIFA Ultimate Team benefit us.

I think it's a win/win for both companies.

One bigger picture, longer term question for you on the management team.

Have you forecast and look out in the next generation, I know that previously a lot of people were thinking this coming generation is going to be perhaps slightly small letter than last gen.

As you now think about everything you know, the titles that are coming out, the number of units, et cetera, in terms of consoles, has your opinion shifted at all one way or the other?

Are you incrementally more bullish, are you thinking the next cycle is going to be similar, bigger, smaller?

Just curious how you think about the next five years or so.

I think it's a great question.

Certainly, as we look at this console generation, I think we as a Company have always been excited about it.

What has made us progressively more excited, and more bullish, I believe, as we have come through this year, is as we've seen kind of excitement at a consumer level, really start to resonate.

It really started to heat up at E3.

We saw an energy around our industry that we hadn't seen in a little while.

It certainly reached a roar by GamesCon, which is a consumer-driven show, and we really saw an energy there, and again, when you look at the success of a console generation, it's the combination of two things.

Great consoles and great software.

And as I talked about earlier, I think that our launch software this time is head and shoulders above where we were last time, and certainly, will I believe, satiate the appetite for gamers, and actually grow the industry over time.

So we are certainly bullish as we come into this platform generation, particularly as well as we have executed.

I think the other thing to remember is we're a completely different company than we were in the last console transition.

A huge portion, over a $1.75 billion of our revenue is coming from digital, and what that really means is we're looking for ways to not just diversify our revenue, but also to enter new parts of the market that didn't exist before.

Mobile, free-to-play PC, many of these didn't exist in the last console transition, certainly weren't monetized like they are today, we're trying to make sure we're focused on all those areas.

And we're trying to take our current product strength and extend that through building the life of the product, in a much more exciting game play that goes on for a year or two years.

We were selling in Q2 of this year, Battlefield 3, and the reason for that is Battlefield premium, the love for the product, and the excitement around the product, we'd like all of our products to have that type of life that is extending the game play over time, and we think that's critical to our success.

One more point, actually, a couple more be points on that.

This is the third transition I've gone through, and both companies here have pieces of hardware that feel to me, certainly from my experience, that their pricing can come down pretty aggressively in the next few years.

Sony is starting off a full what, $200 cheaper than they did in their previous generation, the services attached to these consoles now are incredibly sticky, and both companies are touting their entertainment features, which make this a must-have device, not just for hard core gamers, but households of families.

When you bring all that together, our ability to be able as a company to take advantage of that is huge.

But to Blake's point, we're a different company than we were eight years ago when this previous generation started, and the diversification of our content offerings, our ability to deliver live services, allows us to be somewhat inoculated from the bumpiness of console transitions.

And I think you're seeing, you've certainly seen that in this past quarter, and you're going to see that going forward here.

But certain amount of bullishness that I can talk about, and what retailers talk to me about, versus maybe where we were 6 months ago, when we were looking at this console generation transition.

Ben Schachter from Macquarie Research, your line is open.

A couple of high-level questions, and then one quick housekeeping one.

I'm not asking for guidance, but over the next few years, how do you think ASPs or ARPU can really differ on this next gen versus the current gen?

And what do you think are the key drivers for that?

And second one is just on mobile, understanding that franchises and big franchises are key on mobile, but aside from that, what are the other big advantages you can bring to mobile because of the scale of EA?

I'll take a crack at that.

Certainly, I think it's hard to predict the average return per user over time, and certainly as part of the console generation, but here is what I would say, is that our games are in fact engaging gamers for longer and with greater immersion than they've ever had.

So, when you think about a gamer that is has a certain entertainment spend apportioned in their wallet from week to week, month to month, the more of their engagement time we can drive and the greater and deeper experiences that we can drive, we should almost certainly benefit from the greater proportion of that predetermined entertainment spend.

So, as we look forward, when we think about developing games, we now always build games plus services.

We're moving from product to product plus service.

You've seen it in the trailing 12 to 18 months, and you'll certainly see it on a go forward basis, and that's good for us, and it's good for gamers, and we believe that's the future of this Company.

When you think about mobile and what we can do there, again, if I think about how gamers play, more and more gamers are playing, and they're playing for more and more time, and the desire for more integrated immersion experiences with high fidelity controls, high fidelity graphics, stronger story [outages] greater levels of engagement opportunity overall.

That starts to play to our strengths.

And so when we think about mobile on a go-forward basis, some of the greatest things we've been doing through the history of this Company really start to become a strength, as the personality of mobile gamers advances and evolves, and that's platform hardware, increases in processing, GPU output, and memory.

So all things considered, if you combine the services against console that we begin are the foundation for the future of this Company, and you look at where mobile is going and how that plays into the strength of the Company, where potentially some of the newer competitors do not share, we feel very good about the future.

Quick housekeeping, I came on a little late, but Peter, I think you said 10 million units combined for the next gen, was that your fiscal year?

That's the estimate for us, speaking with our partners at Sony and Microsoft.

Those are available for sale, on the shelf by March 31, 2014.

Brian Pitz with Jefferies, your line is open.

It's Tim O'Shea for Brian.

Just given the strong competitive launch, and some of the new hardware on the horizon, I'm wondering if you can give us a high level sense for what you're seeing at retail?

To what extent do you see consumers trimming the spend, I'm curious of the EA Sports upgrade program might address some of this behavior.

And quickly, do you think we could ever expect to see this type of upgrade plan for other games like Battlefield?

Thanks.

Yes, Tim, this is Peter.

Certainly what we're seeing now at retail is a great expectation on next gen.

In fact, I was in retail yesterday, and you can see, you all visit retailers, the big box guys like Wal-Mart and Best Buy, especially guys like GameStop are getting ready for next gen.

I want to remind everyone on the call, this is the first time that we've had two major console launches in the same couple of weeks, never happened before with the magnitude we're seeing.

If you're paying any attention at all, I know you are, on television, you're starting to see Microsoft and Sony gear up for what should be a massive investment in marketing over the period between now and the holidays, and I think retailers in particular are starting to see that.

You've seen a recent AAA launch, when you have the right content that catches the imagination of gamers blow through the roof.

And I think that bodes well for retail.

Certainly, we're enjoying the fact that they have clearly had a very strong month, and that gives them the bullishness and the investment levels to be able to invest going forward, both in current gen and next gen.

But I, for one, couldn't more excited about what I'm feeling right in the marketplace.

Retailers around the world are gearing up with great anticipation, and our partners at Sony and Microsoft are about, I believe, to embark on a level of unprecedented spend that we've never seen in this industry, so I think it's coming together very well.

A clarification, if I understood your question, we have up grade programs on sports titles.

We also have it on Battlefield 4 for Sony, that's running through their program for gen 3 to gen 4 upgrades.

And to be clear on that, if everybody is not familiar, it's a way of allowing consumers to invest in current gen, and yet protect their investment, if and when they get a next gen box, which in most cases, they can spend $9.99 and get the next gen version of the same game.

Our programs are two-fold.

One is to protect people's Ultimate Team investment as it transitions from gen 3 to gen 4, as well as to upgrade people with the physical title or electronic title from gen 3 to gen 4.

Our last question comes from Mike Olson from Piper Jaffrey.

Your line is open.

Two quick ones here.

Blake, regarding the op margin target, you reiterated you're pushing towards the 20%-plus.

Not to put you on the spot, but what would you be willing to offer, under what time frame do you think about achieving that range of op margin?

And then, the other question on Battlefield, Battlefield 4 shipped today, so know you don't want to talk about Battlefield 5, but it would be important for fiscal 2015, could you provide some thoughts on why it would or would not make sense to annualize Battlefield versus coming out with another first person shooter to fill its place every other year?

Thanks.

Well, I'll take a crack at the first part of the question, and then I'll let Patrick, since he's the guy who has got to build it, I'll let Patrick answer the second part.

So on the op margin, we talked publicly about our goal of moving our operating margins into the 20s, and we talked that over a three year period, without providing explicit guidance.

This is the first year in that three year period and we're making the right moves to start to move that number up.

We guided to a higher number, and we have been exceeding that in the first half of the year.

We're very focused on, I would say we're all 100% aligned on making that happen.

It's a journey we need to continue to move on, out through the next couple of years, but then on into the future.

It's going to require great products, stuff that consumers gravitate to and love, and a huge portion of that being delivered either digitally or mobile-ly, as well as continuing to have build off the great franchises we have like Battlefield.

This is Patrick.

Whether it comes to Battlefield on an annual basis, I mean from my perspective, this is a day where we today launched Battlefield 4, and there's been a lot of long hours that have gone into making -- getting it into the market, and again, I think it's a major achievement from our dev teams.

I don't have anything to announce, as relates to Battlefield, apart from the fact that we need to lick our wounds on this one, enjoy the success, and then come back at a later time.

We were highly conscious of the fact that if Battlefield is as successful as we believe it will be, that sets ourself up for a challenge next year.

But remember, we're introducing NBA this year, we're introducing UFC next year.

We have Sims next year, we would most likely possibly have Dragon Age next year.

And so World Cup next year as well, and so there's a lot to fill the deep holes that Battlefield may create, which would be a good problem to have.

But you'll hear more about our ultimate revenue and plans and title plans when we give guidance later in the year.

And whether Patrick says lick his wounds, that's Swedish for enjoying the launch of what is a (laughter).

Yes, yes.

Thank you, everybody.

Thank you so much.

Thank you.

That does conclude today's conference, thank you for your participation.

You may now disconnect from the audio portion.