GameStop Corp (GME) 2002 Q3 法說會逐字稿

Good afternoon, everyone.

Welcome to the GameStop third quarter earnings release conference call.

Just as a reminder, today's conference is being recorded.

At the conclusion of the announcement, a question-and-answer session will be conducted electronically.

Anyone wishing to ask a question may signal by pressing the "*" key, followed by the digit "1".

If you find your question has been asked, you may remove yourself by pressing the '£' key.

I would like to remind you that this call is covered by the Safe Harbor disclosure contained in GameStop's public document and is the property of GameStop.

It is not for re-broadcast or used by any other party without the prior written consent of GameStop.

At this time, I would like to turn the call over to Dick Fontaine, Chairman and Chief Executive Officer of GameStop Corporation.

Please go ahead, sir.

Thanks for joining us today for our third quarter conference call.

As mentioned, I'm Dick Fontaine, the Chairman and Chief Executive Officer.

With me today is Dan DeMatteo, our President and Chief Operating Officer, and David Carlson, our Executive Vice President.

As in prior conference calls, David will take you through the key numbers which were released today earlier, then Dan and I will comment on some specific elements of the third quarter performance and then we will wrap it up with some questions from the field.

So David over to you.

Good afternoon.

After the market closed today, we released our third quarter sales and earnings results for fiscal 2002.

GameStop sales were $286.7m for the third quarter - an increase of 44.3% over the prior year.

Comparable store sales increased 30.3% for the quarter, driven by strong sales across all video game categories, with new video game software running especially strong.

For the third quarter, we reported earnings of $0.16 per share, significantly beating consensus estimates.

This is in comparison to actual EPS of $0.01 and pro-forma EPS of $0.08 in the prior year quarter.

As expected, growth margin rates decreased by approximately 170 basis points due primarily to a shift in sales mix to new video game software in comparison to the prior year.

New and used video game software both increased significantly during the quarter, climbing 65% over the prior year.

But new releases during the quarter such as Madden NFL 2003 and Grand Theft Auto: Vice City, plus the skewing of the sales mix in favor of new video games with the accompanying decrease in margin rates.

In addition, SG&A expenses decreased by approximately 260 basis points due to tight expense control, as well as leverage from the sales increase.

In reference to the NPD industry data that was released late last week, NPD reported that industry revenues increased approximately 38% during the third quarter.

In contrast to that, GameStop grew 54% in the video game category during the same time period, thus increasing our market share quite significantly.

Finally, we also reiterated our fourth quarter guidance for earnings of between $0.62 and $0.68 per share and comparable store sales between 8% and 12%.

This brings our full year EPS guidance to between $0.97 and $1.03 per share.

Now, I will turn the call back over to Dick for his comments.

Thanks, David.

As you might expect, we continue to be very enthused about the momentum in the video game business.

The GameStop model, with a healthy mix between our new and used products and a balance mix between strip and mall stores, we feel puts us in an excellent position to capitalize on a growing install base of game users.

You know inevitably when we talk about the third quarter, there are a whole host of titles that generate the most attention and we'll touch on a few of those.

But one of the things that makes me very excited about the direction of this business is to take a look at the growth of what we call our annuity titles.

These are titles that are published year in and year out - mostly sports titles.

This year two titles - Madden 2003 and NBL Live 2003 both set records for sales during the period.

With new engines and better graphics, they seem to show that not only are there more gamers, but they really are better games.

Indeed, I would say that better games are creating more gamers.

You heard me speak in the past about all the enthusiasm and the focus of hardware and appropriately so from a technology standpoint.

But the real genius of this business I continue to believe is in the creativity of the people who are creating video games and we haven't seen anything yet.

I couldn't let the quarter go by without talking about the exceptional launch of Grand Theft Auto: Vice City which could very well sell more copies in the first three months than its predecessor GTA3 sold in over a year.

I might add that GTA3 is the best selling video game of all times - definitely momentum, better games and more gamers.

The sales in the software area and the hardware growth really are only one part of the total story, as you know.

I'm very very happy with some other areas of our business.

During the quarter we opened 63 new stores, bringing our year-to-date store count to 163.

That compares by the way to last year during the quarter, we opened [four].

As you might expect, we have made some significant investments to prepare for this rapid growth.

Yet even with these necessary up-front investments, we are able to reduce our SG&A by 260 basis points.

Strong sales, tight expense control and increased efficiency in distribution and store operations, aided I might add by some very timely systems investments, are a very important part of our quarter and indeed of our future.

As such, I want to re-emphasize what David pointed out and again draw your attention to the very strong operating earnings for the quarter of 5.6%.

I think this is testimony to the fact that we have concentrated on all aspects of our business to achieve superior results.

Finally, before I turn it over to Dan, I would like to mention that during the third quarter, we had a very significant event.

In Dallas, we held a Training and Sales Conference for every one of our store managers and all of our field personnel.

Where in four days of intense training going over the products for the season and all aspects of store preparation, we got better prepared than I think we have ever been.

We have got a great group of store managers who are excited about our business and are really ready for the holidays. [Inaudible] in a business that is as exciting as the one we operate in, we some times lose sight of the fact that particularly during the fourth quarter, the intense fourth quarter, execution on the store level is very very important and should never be overlooked in terms of the company being as successful as it might be.

Let me just end my portion by saying in that regard, we have never been better prepared and I have never been more confident in a group of store managers in the years that I have been in the business.

With that, I would like to turn it over to Dan.

Good afternoon.

This is Dan DeMatteo.

This afternoon I would like to talk a little bit about the fourth quarter and what we see driving our sales plans.

We believe that we have the breadth and depth of product to support our sales plans, which will be driven by primarily the sales of games into an ever-increasing install base of PS2, Xbox and GameCube players.

Some specific games on our Christmas best seller list are obviously Grand Theft Auto: Vice for the PS2, Madden Football for all platforms, WWE Smackdown for PS2, Tom Clancy's Splinter Cell for Xbox, [NetWare] Prime for GameCube and Legend of Zelda for Gameboy Advance.

In addition to all the games, we expect sales of consuls to be tremendous at these price points which are about $100.00 less than they were at this time last year, but bringing into the players group yet another level of consumers.

This new player base will help drive the sales of accessories and games right after Christmas of an intercourse into all of next year.

Now we are ready for questions and answers at this time.

Thank you.

The question-and-answer session will be conducted electronically.

If you would like to ask a question, please do so by pressing the "*" key, followed by the digit "1" on your touch-tone telephone.

If you are using a speakerphone, please make sure your mute function is turned off to allow your signal to reach our equipment.

We will proceed in the order that you signal us and we will take as many questions as time permits.

Once again, it is "*" "1" on your telephone if you do have a question and we will pause for just one moment to assemble our roster.

We'll take our first question from Jill [Crewtech](pf) with Salomon Smith Barney.

Thank you very much.

Good afternoon.

Could you give us a sense of what the outlook looks like for the November and December months specifically?

Maybe secondly you could talk a little about the used inventory - what you are seeing and how that may compare to last year at the same time?

Finally, in terms of new stores and sort of original profile of those stores - if you are seeing any sort of saturation issues that might be cropping up in specific markets.

Thanks very much.

Alright, Jill.

Let me see if we can break them down.

The first portion is relative to November, December.

Let me extend that to the fourth quarter.

We continue, as our press release indicated, to be very positive about our fourth quarter.

Indeed, our press release indicated that while we are reiterating our guidance of 8% to 12%, we did say that that is a strong fourth quarter and that's how we continue to feel.

We have got a great line-up of titles.

As I mentioned, we see the momentum in the business as we move into the fourth quarter.

And as we have said before, we are not only primarily attracting the game users, but there is a whole new group of gift-givers out there that give the fourth quarter some unique factors.

There are some macro-economic issues that we are all aware of out there that perhaps have not been totally clear and have played out.

But that aside, we feel that it is going to be a strong quarter and that's consistent with our 8% to 12% given that last year, our comps during the quarter, our comparable comps were almost right at 60%.

Second question has to do with-

Used inventory Jill.

Our used inventory on a per-store basis and in total is up significantly over the prior year without giving out an absolute number.

It has continued to build and is higher than the prior year.

I think your third question had to do with new stores and saturation.

We are very pleased with our new store performance this year.

Our stores as a group, are exceeding the plans that we had established for them and the pro-forma P&L.

So, we do not believe that we have hit the saturation levels and indeed, see room for lots of store growth yet.

Great.

Thank you very much.

We will now move on to David Magee with Suntrust Robinson-Humphrey.

Good afternoon and great quarter.

I would like to just focus for a minute here on the gross margin and just trying to understand the factors driving it down year-to-year in the third quarter versus what happened say in the second quarter.

Is it just a function between the new and used software titles - is that basically it?

Yes, David, that's basically the explanation.

In the second quarter the used businesses is much stronger with the kids out of school and riding their bikes and fewer releases of new software as well.

In the third quarter, the new releases were very plentiful.

Probably the most titles that have ever been released during the third quarter in the history of the video game industry and that brought the margin down from the prior year.

However, it is very similar to the first and second quarter margins.

I would just like to add to that, David, that David's point is that with three major and powerful competitors out there, it is not only that we have had some very strong new titles, but the number of new titles has been significant.

Indeed, we will and this is exciting in its own way, we will be expecting 72 new titles between today and Thanksgiving.

So that gives you an indication of the influx of new titles that are coming into the retail environment for really four different platform systems.

Now, was there anything different with regard to the platform versus software mix that would be driving this away in the third quarter?

Well as we reported, if I am understanding your question correctly, is that it is a mix issue.

We went from about 18% hardware down to 15%.

Most notable element of mix is what David stressed is that I believe over 60% of our sales being generated in the software area, that was very very aggressive and very high.

I think, David, maybe another way to look at it, is that the third quarter of last year was aberrant, not the third quarter this year.

It was aberrant because obviously the PlayStations, the GameCube and Xbox haven't been released yet and there were very few new titles for the PS2 because they were holding them for the fourth quarter when the GameCube and Xbox headlined.

Last thing, on that point.

As we formulate the numbers or projections for the fourth quarter, any sense for what we should look for in the gross margin now?

Yes, the gross margins for the fourth quarter should definitely increase from the prior year.

We are looking at gross margins somewhere between 23% and 24%, versus the 21.5% that we have had in the prior year.

Thanks a lot, guys.

We will take our next question from Harry [Katicco](pf) with Southwest Securities.

Good afternoon and congratulations on a great quarter.

I would like to add a follow-up to the last question and I was trying to do a little bit of arithmetic in my head.

Can you just give us some vague idea of the magnitude of the mix change between new and used software that would support that significant of a decline in gross margin?

I think the key thing, Harry, is to keep in mind without breaking the numbers out specifically which as you know we don't do, is that both the used and the new grew at a very rapid rate during the quarter.

It purely was a function.

Were not at any man, or shape or form, disappointed with the used, but it was a quarter of so many new titles and so many huge sales of those new titles, that it was much more of a driving effect.

Our used sales in both the strips and the malls were quite strong.

Can you just elaborate on what the expectations are in terms of the fourth quarter and how the mix works out?

When you say you expect gross margins to be in the 23% to 24% range, does that reflect a significant reduction in the hardware mix?

Can you comment on whether the relative mix of new and used software will change much in the fourth quarter?

We are definitely looking at the hardware mix in the fourth quarter coming down from the prior year when the launches took place of Xbox and GameCube.

Last year we had 29% sales mix in hardware and this year we should come in somewhere around 20% of the sales mix being hardware.

Software-wise we should increase our software mix as well pretty significantly, somewhere into the low 60% for the fourth quarter.

I believe that was 54% last year.

Dave, would you expect the mix of new to used hardware to be roughly the same in the fourth quarter as it was in the third quarter?

I would expect it to be similar, yes.

At what point would you see that starting to flip back over, or do you?

Well, there is pointing factors and if you look at the quarter there is a huge element of December sitting right in the middle and during the December quarter the used as a percent, always goes down.

The new titles, new anything takes on a much bigger role during the gift-giving period.

Relative to your question, we would expect that to reverse in January.

So would it be fair to say that in the first and second quarter of next year with this torrent of new games that will be sitting in everybody's living room, that it ought be a pretty good environment for the used business, first half of next year?

I would say that is a fair statement because we have always said that new drives used, and used drives new.

You are 100% right - we have got a tremendous amount of new titles sitting here now, that by the time we go into next year, these will be the hot used games.

So yes, I think that's a fair assumption.

Last question.

You handily beat your own expectations for same store sales.

Is there any reason why you wouldn't be able to demonstrate the same kind of results in the fourth quarter?

Well it's as I said, the fourth quarter is highly unusual.

As we have been saying since the first time we forecast the year, the wildcard is that we are dealing with a consumer who is gift orientated and therefore probably more effected by the macro economics of the unemployment rates or what have you.

What has been shown through the first three-quarters and definitely in this quarter is that the gamer buying for himself or herself, is absolutely out there and continues to buy.

The gift-giver that predominantly is all ahead of us.

I think that the 8% to 12% that we have forecast, and I want to reiterate that, on top of the 60% margins last year and on top of the variables that I just spoke to is a pretty appropriately aggressive fourth quarter and we still feel confident within that range.

Thank you very much.

Once again, if you do have a question at this time, please press "*" "1" on your telephone.

We'll take our next question from William Armstrong with CL King & Associates.

Yes.

Not to beat a dead horse, but I guess I was also surprised given that you had a lower percentage of hardware and a higher percentage of software.

So, maybe you could just run it through us again in terms of the average margins you get on used games versus new.

My recollection is that there is about a 20% to 30% point differential.

Is that in the ballpark?

The new software runs in the low 20% and new hardware runs anywhere from 30% to 50% , depending on the category.

That's correct.

Okay.

So that's -- the fact that -- let me ask one other question on that.

Would you characterize used game sales as above, below or in-line with your expectations for the third quarter?

I would say they are in-line with what we had anticipated as we went into the quarter.

Again we clearly knew the amount of new titles that were coming into the quarter.

So as I said before, we are not disappointed with our new sales.

We had always expected our gross margin to be similar to the first and second quarter gross margins, not the gross margin in the third quarter last year.

As Dan stated, it was an aberrant quarter with very very few new titles released.

So, this is not a surprise.

Okay.

Another topic Toys R Us had a conference call this morning.

They stated fairly explicitly that they were seeing deflation in new software titles including top tier you know $49.99 type titles.

Whether it was initial markdowns or some sort of back-door couponing sort of thing.

Are you seeing that either within your business or within your competitor's businesses?

Absolutely not.

All of our purchase orders for the fourth quarter etc have been in place for quite some time.

The cost in retails are well known.

The manufacturers have not done anything to decrease the retail price.

As usual, at this time of year, there are situational promotions that selected retailers will run on a title now and again, that will offer usually a rebate or a sale price on a particular title.

We do not see that volume anywhere near abnormal over what we have seen in the past.

Indeed it seems in line with what we have seen in the past.

Our average retail price is right in line for new video games.

Okay.

Just two other quick questions.

Could you give us your planned store openings for the fourth quarter and the tie ratios for the major consul platforms?

I'll handle the new stores and David can talk about the tie ratios.

We will open a minimum of 37 stores in the fourth quarter.

That will bring our year's number to the 200 level.

As you will recall, we gave guidance and went into the year saying we would open between 150 and 200.

We will definitely be at the 200 range and depending upon a number of factors pertaining to the build-out in the season, we could go somewhat beyond that.

We will be making those decisions a little bit closer to the turnover time.

But I can tell you that we will definitely finish the year at least at the 200 level.

Your question on the tie ratios.

We had a great line-up of titles in the third quarter as we have said a couple of times.

That actually caused our [tie ratios to be a little bit above our expectations.

The PS2 tied at 23:1, the Xbox tied at 13:1 and the GameCube tied at 11:1.

Is that software units to hardware, or software and accessories to hardware?

That is just software to hardware.

Okay.

Thank you.

We will now move on to Mike Wallace with UBS Warburg.

Hi.

The first question.

Could you guys talk about the health of the hardware business, specifically Xbox and GameCube.

I know GameCube has been lagging.

Have you seen any pick-up of some of the bundling deals and are your expectations that Metroid starts to bring GameCube up out of the basement?

This is Dan.

Yes, Mike, there were bundles that came out as you know several weeks ago for both the GameCube and Xbox.

That has lifted both of their sales.

So, yes they are more in line now with our expectations.

Metroid we do expect a line-up our first party Nintendo well known titles [inaudible] for GameCube hardware platform at the holiday gift-giving period, especially when they are marketing success.

Are you re-allocating shelf space accordingly depending on what is selling.

In other words, are you putting less Xbox and GameCube titles out on the shelves?

I can't say.

No, we're buying virtually all the titles we want to buy and what we do is, we take reads from our fields and figure out how many we should buy of each one.

So we haven't cut our buying on any platform, although we continuously read the tea leaves out there, trying to figure out what the right order quantities are.

Okay.

Just to follow up on the pricing question.

I know people like Toys have been aggressive on pricing because they're losing market share and they have to do something to get people into the stores.

I assume that's why you have been insulated from pricing.

I think the expectations from a publisher side is that maybe by spring next year, you see the $50.00 prices down at $40.00.

What is your expectation for AAA titles fully migrate $50.00 down to $40.00?

I don't think it will certainly be in the year 2003 if we use our guidance.

As for price points, will probably decline on the hardware sometime next year.

Until that hardware gets to $99.00, which it won't be, we are not going to see first line titles drop to $39.99.

As it relates to Toys, I'm not quite sure if obviously they have lots of market share as the business has shifted from somewhat a younger more Nintendo oriented consumer to other.

But if my memory is correct, there was a Christmas holiday guide came out a week ago and 99% of the titles they had in that guide price were $49.99.

So if they are losing market share, they certainly didn't take a price action to help solve it because their holiday guide is out.

Okay.

Thanks.

Once again, if you do have a question, it is "*" "1" on your telephone.

Richard Zimmerman from Commercial Capital Markets has our next question.

Commercial Capital Markets.

Good afternoon.

Congratulations.

If you could talk about first in the quarter, was there any disparity in the comps month-by-month and also strip versus mall?

Let me take the latter.

As you know, we do not break those out.

We're very happy with the comps with both of the strategies.

Mall sales comps very well, as did the strips.

David, if you want to comment briefly on the month-by-month.

Monthly - all three months were very very strong.

It did get better as the quarter went on and more of the holiday titles were released.

There wasn't a huge differentiation between the months.

Okay.

When you look at your strip versus your mall store growth, can you talk about what your mix is right now and how many strip and mall, and what your plans are for next year?

Sure.

At this point we have 539 mall stores and 647 strip center stores.

Next year we anticipate opening approximately 200 stores, the majority of which will be strip center stores.

Okay.

Just another question related to store growth.

You hear in the news like a company like Blockbuster acquired Game Station internationally to get familiarity with the trading business.

Is there any opportunity, or have you guys looked at any opportunity of growing your business outside the United States and if so, would any of that growth next year include any international business?

We do not at this point in time have any immediate plans although it is safe to say that we have been doing our research outside the US.

We have a lively interest in any potential expansion opportunities.

At this point in time, saying anything would be premature.

But I can assure you that we have been making contacts and doing our homework.

Okay.

One of the questions I have relates to a comment you made that you are definitely getting the core gamer and clearly, outside of the mass gamer.

That's one of the concerns I guess everyone has.

With your strip centers how good do you feel about your ability to get those mass gamers during the quarter and going forward?

Are you getting some of those people and don't you think you will be able to maintain that kind of attraction?

Yes.

Thank you, Richard.

This is Dan here.

We clearly see ourselves serving equally well both core groups.

Both the mass gamers and the early adopters.

Yes indeed, our strip centers do service more of the mass gamers and our malls a little bit more the early adopters.

However, with our business formula and our mix, which focuses on both new and used games.

We think we have a value proposition that holds up and supports both.

Indeed, if you look at our market share at the end of the last cycle, which was the changeover year 1999, our market share actually went up.

So, we do not see ourselves as a business that does well in early years and not as well in the other years.

We see our business proposition holding up equally well throughout the entire cycle.

Thank you, Dan.

Just one last question.

On the gross margin side can you just comment on what the percentage decrease was in used game inventory as a percentage of sales year-over-year?

No.

We don't comment on that.

Okay.

No problem.

Thanks a lot.

Good luck.

Once again, it is "*" "1" on your telephone if you do have a question at this time.

We will take our next question from Anthony Rose of JP Morgan.

Hi.

Just one question.

With used inventory up on a per-store basis, are you allocating more space to used?

Our inventories are somewhat by plan, although not up as much as our sales increase.

It really varies by store.

We don't take a one covers all approach.

We look at the sales history, the trends.

We try to let the consumer lead us in terms of what it is they want.

So you would find in some stores, that could very well be true that it will give the majority of the space to the used.

Whereas in another one we may feature more new, more accessories.

We try not to be one covers all and leave that somewhat to the demographics of the stores.

Thanks.

We will now move on to Donald Trough with Jefferies & Company.

Hi.

It's John Elford for Don.

I have a few questions.

The first is on the margin issue.

If you look sequentially at your new software categories and look at Q2 versus Q3, would the margins be flat or would they be down?

Margin rates on the install?

Yes.

They are basically flat.

Okay.

The second I have is in the accessories business.

I know that that was the one business that might have had sporadic shortages from the California docks work stoppage.

Was there any change in mix there?

We, like some other retailers who have focused on this, we had in advance so we did not experience any shortage on video game accessories.

Indeed, we are in great stock as we speak right now.

Okay.

Great.

Thank you.

We will take a follow-up from Mike Wallace.

Dan could you tell me about the GVA market a little bit.

I know it's not as important, but I know that's been kind of flat lining for a while.

Do you see anything changing there and maybe the new machine Nintendo is talking about early next year - will that help?

I'll just talk about it for the fourth quarter.

As you probably know, Mike, the fourth quarter is everything and that for Gameboy Advance, the Gameboy category.

Indeed, over the last two or three weeks, we have seen sales increasing daily on Gameboy Advance titles.

Also, this week with the launch of Metroid Fusion from Nintendo, we expect that to be a big driver of Gameboy Advance sales.

So, I would say it is too early for me to comment on the Gameboy Advance business in terms of it meeting our expectations for the fourth quarter because there is so much of it in front of us at this point.

We are cautiously optimistic and we will make our plan on the Gameboy Advance.

Okay.

I know you mentioned some of the big titles.

Is there anything out there that you see is kind of asleep or anything that is doing well that you didn't expect?

I guess that WWE last week hit our stores and it did better than expected.

We thought the WW franchise was a little cooler than it is and it exceeded our expectations.

Of course the Hitman 2 titles from [Idox] runs both PS2 and Xbox and GameCube I guess.

Does it run on all three?

No it is PS2 and Xbox have done better than expected.

We also continue to be very very happy with the strength of Kingdom Hearts, which has started strong and run very very well.

Okay.

Harry Potter off to a good start?

Harry Potter is just starting this past weekend.

So, I think -- sort of like the Gameboy category - that's all in front of us yet.

Okay.

Thanks, guys.

We will take our last question from John Taylor of Arcadia.

Hi.

Have you guys seen any increase, any measurable increase, in the aggressiveness of publishers to offer any kind of inducements to support titles?

With all the new titles that are coming down the pipe, we hear a lot of stories of people passing on them.

Have you seen any measurable increase in their willingness to help support some of these things?

John, I think we always get great support from our publishers because we have always been a full line retailer.

In other words we're not just [inaudible], we are a full line retailer.

So, I say we have always got good co-operation and good marketing support from our publishers because of that.

I don't know that I would say I've seen incremental, I would say I've seen the same good marketing support.

Okay.

Alright.

Then come spring time, can you kind of characterize how you think the market is going to look in terms of how [claim] sale through is going to be and whatever issues there might be in cleaning up tag ends as we go into next year.

I can't speak for other retailers.

I would say that for the most part, we are buying commensurate with demand.

I will say, I have been pleasantly surprised with many publishers who have published titles that didn't meet their expectations in say the second and third quarter - price adjust them so that they would move through in the fourth quarter.

I have seen a lot of activity in that regard.

A lot more than one might expect still going into the fourth quarter, but that is good because I think they are going to move the goods while the traffic is there.

Okay.

Did you experience any measurable impact from the extremely promotional pricing on Vice City?

Did you have to match price or anything at $39.00 to have any impact at all?

It had absolutely no impact at all.

No-one even asked us to match it.

Consumers are just happy to get it.

Okay.

Thank you.

That does conclude our conference everyone.

Thank you for participating today.

Thank you for joining us.

Thank you.