GameStop Corp (GME) 2004 Q4 法說會逐字稿

Good morning.

Welcome, ladies and gentlemen, to the GameStop Corporation's fourth quarter year-end earnings results conference call.

Today's call is being recorded.

At the conclusion of the announcement a question-and-answer session will be conducted electronically. [OPERATOR INSTRUCTIONS] I would like to remind you that this call is covered by the Safe Harbor disclosure contained in GameStop's public documents, and is the property of GameStop.

It is not for rebroadcast or for use by any other party without the prior written consent of GameStop.

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

Please go ahead, sir.

Thank you, Eric.

I'm Dick Fontaine, Chairman and CEO of GameStop.

With me this morning is David Carlson, GameStop's Executive VP and Chief Financial Officer.

Usually Dan DeMatteo also joins us, but today Dan is traveling so it will just be David and I.

This morning we released our fourth quarter and year-end results, and before David takes you through the numbers, my overriding recap of the year is that we had a very good year that prior to the huge industry-wide hardware shortages was heading towards a spectacular.

As a company, we had an excellent execution year in driving our business where we were in control.

Obviously we didn't have any control over the tremendous hardware shortages, and they did hurt, but we course-corrected quickly and focused on selling what we had to sell.

If nothing else, a surprising shortfall of hardware demonstrated that the Company could adjust quickly and make the absolute best of a disappointing situation.

In fact, one of the true tests maybe of a specialty retailer is how well they can adapt to changing circumstances.

In the fourth quarter, we passed that test with flying colors; and I'm very proud of the store organization group. 2004 was not only another successful year for GameStop but it was another year that better positioned us to do even more into the future, and we'll be talking about that a little bit later.

David will now discuss the year in more detail, and then I'll come back.

We'll talk about our forecast for 2005 and mention a number of other things that are going on at GameStop.

David?

Good morning.

Before the market opened today, we released our fourth quarter and full-year sales and earnings results for fiscal 2004.

GameStop sales were 708.7 million for the fourth quarter, an increase of 13.3% over the prior year quarter.

And full-year sales were 1.8428 billion, an increase of 16.7% over the prior year.

Sales were driven by the strong performance of two exceptional titles, Grand Theft Auto San Andreas from Take-Two Interactive and Halo 2 from Microsoft.

Both of these titles broke all previous sales records, selling upward of 800,000 units each in our store.

Due to the well-documented hardware shortages, comparable store sales increased a modest 0.2% for the fourth quarter and 1.7% for the full year.

For the fourth quarter, we reported net earnings of 34.5 million or $0.64 per diluted share, which included an after-tax charge of 3.3 million or $0.06 per diluted share, attributable to changes in lease accounting to conform with generally accepted accounting principles as recently clarified by the SEC.

Excluding this special charge, net earnings were 37.8 million, or $0.70 per diluted share, at the high end of our previously revised guidance.

For the full year of fiscal 2004, net earnings were 60.9 million, or $1.05 per diluted share, which included after-tax special charges of 6.8 million, or $0.12 per diluted share.

Excluding these special charges, net earnings grew to 67.7 million, or $1.17 per diluted share, an increase of 10.4% over the prior year EPS of $1.06.

Gross margin rates for the year increased 30 basis points as video game software increased from 63% of retail sales in the prior year to 66% of retail sales this year.

And pro forma SG&A expenses increased 70 basis points from the prior year, due primarily to new store openings and international infrastructure cost.

Our balance sheet remains very strong with 171 million in cash, even after buying back approximately 127 million of stock in the last 12 months.

Other financial highlights of the year include the spin-off from Barnes & Noble of their majority ownership in GameStop to the public, and the renewal of our revolving credit facility for another five years.

Inventory on a store-by-store basis decreased by over 20% from the prior year due to tight controls over buying and replenishment and secondarily due to less hardware than in the prior year.

Inventory turns improved from 4.9 times in 2003 to 5.4 times in 2004.

Capital expenditures for the year came in at approximately 96 million.

Of this amount, 28 million related to construction of our new general office and distribution center in Grapevine, Texas, that we will be relocating to in the next few months.

Overall we had a fantastic year in all areas that we control, and I want to thank all of our associates for their efforts and energy in achieving these goals.

With that I will turn it back over to Dick.

Thanks, David.

Before we get into the 2005 numbers, I'd like to take you through our thinking regarding some of the industry-wide growth for the year.

These form the basis of the assumptions that we have made to try to build our 2005 models.

In broad strokes, we're anticipating the total video game business will grow by about 10%, predominantly driven by the launch of PSP tomorrow, or maybe to be more precise, at midnight tonight.

As a matter of fact, if any of you want to get a real sense of the excitement and the enthusiasm surrounding this product, might be a good idea to drop by one of our stores in your area.

This launch is going to be an absolute blowout success.

We anticipate that we are going to sell through these products very, very rapidly.

And, in fact, I'm also enthused about the fact that there are more products launching behind this title than perhaps at any other time. 17 new titles, 22 accessories at launch, another 21 titles have already been announced plus 11 more accessories and movies to come.

This could really be a breakthrough product, and as you can tell we're very enthused about it.

In addition, we're expecting the launch of Xbox2 to be probably in November of this year.

We're forecasting that to have a $299 price point.

We are also forecasting that we will have continued tight supply of the original Xbox towards the first part of the year and becoming even much more tighter as it gets closer to the launch of Xbox2.

We're looking for better in-stock position throughout the year on the slimmed-down PS2, and we're looking for consistent demand both from new users and from existing PS2 owners switching to the new design.

At this time we're not forecasting a price drop on either the PS2 or the original Xbox, although certainly with the PS2 it is possible in the fourth quarter.

We believe that total industry hardware sales will grow between 30 and 40%; but obviously, are highly dependent on both (ph) product availability and launch dates being met.

We believe last year's hardware problems were more an aberration and not a problem likely to be repeated.

Software is projected to grow in the low single digits with the portable platforms contributing a significant portion of that growth.

We're looking, as is usually the case at this time in the cycles, with total software prices declining about 8%.

And to that end we're seeing a more value-driven consumer this year, and we will be making changes to improve our offerings in those areas.

Accessories should grow by at least 10% as historically new platform users are also new accessory purchasers.

Based on these assumptions and expecting, once again, that GameStop is going to continue to gain market share in 2005, we're forecasting 2005 revenue to be between 15 and 20% growth.

Comparable sales, while very difficult to forecast at this time, we are forecasting to be between flat to plus 5%.

Full-year earnings per share are expected to range between $1.30 and $1.40 per diluted share, which translates into an earnings growth between 11 and 20%.

While we realize that this represents a fairly wide range, given the fact that so much of the year is still ahead of us with so little confirmed hard information, and the fact that historically most of the releases are not revealed until the E3 and convention in May, I believe the range is a reasonable estimate at this time.

Obviously the products for the first quarter are much more visible and therefore we have more insight into our first quarter; and as such, we're forecasting to have comp growth in the first quarter between 5 and 7% with fully diluted earnings per share from $0.16 to $0.17 which is an earnings growth of 14 to 21%.

Clearly some strong titles have appeared and are going to be released in the first quarter.

Grand Turismo 4 from Sony for PS2, NBA Street Volume 3 and Fight Night Round 2 both from EA for all platforms, Doom 3 from Activision for Xbox, Devil May Cry 3 from Capcom for PS2, and others.

The only thing somewhat modifying our enthusiasm for the first quarter is that while shipment flow has improved on PS2 hardware, we still do have weekly shortages and even more so for the Xbox.

It's nowhere near as bad as the holiday season.

I don't want to mislead you.

In fact, our unit sales will likely be up from last year, but the inventory position is not as good as we would like.

We don't expect this to be a problem going forward from April on for the PS2, but we're likely to experience continued short supplies of Xbox throughout the year.

To summarize 2 ‘05 in broad terms, we're confident of a solid first quarter, becoming somewhat more confident of a decent second quarter given some recent software announcements, although we are up against some hardware price cuts in the prior year.

We're realistic about the third quarter, where it's going to be very difficult to comp.

We had an extremely strong comp year last year.

Grand Theft Auto San Andreas released, and that indeed will give us some comp hurdles.

We're cautiously optimistic about the fourth quarter.

Again, we don't have a whole lot of the information that we need to be more definite, but I think cautious optimism is indeed the right word.

November comps are clearly going to be difficult.

Halo 2 released last year, as David mentioned.

One of the record setting titles, but we're thinking December and January could be strong.

If we get decent supplies of PSP and Xbox2 and no shortfall of the PS2 minis, plus the hinted release of some of the new titles that could very well be on the shelves, such as The Legend of Zelda and Final Fantasy 12, we could indeed have a very decent fourth quarter.

As mentioned in our press release this morning, we intend to remain on an aggressive growth path, and we'll be opening between 370 and 400 new stores during the year with approximately 340 of these being in the U.S. and the remaining international.

Our CapEx for the year will be approximately $74 million.

To ensure that we maintain tight controls, and on previous calls you have heard me say we are not going to be expanding so fast we run in front of our headlights, but we are well aware that this rapid growth of the last few years continues to challenge us all.

To that end, we have made some key changes in our senior management group to better organize and get in front of our growth opportunities.

Dan DeMatteo, who many of you have met, has been promoted to the position of Vice Chairman and COO.

Dan and I've worked together for many years, and this position will recognize his growing responsibility for managing more of the day-to-day operations of our Company; and frankly, give me more time to devote to the strategic planning and new business development as well as taking more time to look at our overall organizational structure.

Joe DePinto has joined us as our new President.

Joe comes to us from 7-Eleven where he was the Vice President of Operations with total operating responsibility and profitability for over 5800 7-Eleven stores.

Joe clearly brings some new energy, broad chain-store experience and real leadership to our team.

He's going to be joined by Jack Beuttell who has joined us in the newly-created position of Senior Vice President of Marketing and Merchandising.

He's last with The Bombay Company as President of Bombay International and previously held senior marketing positions with Ben and Jerry's, Mattel, and going back quite a few years was also with the original Atari.

I'm extremely happy that we have been able to attract these two people to our Company, and they're going to make a significant impact over time.

Clearly, GameStop is confident in our business model and the continued growth of the industry.

We're going to continue to invest in our people and our infrastructure, and we're going to aggressively pursue all growth opportunities available.

While video gaming might not be a totally predictable quarter-to-quarter business, an ever increasing installed base of users coupled with the dynamics of new technology and entertainment creativity make this a great business at the beginning stages of another explosive growth period, and we feel GameStop is beautifully positioned to take advantage of all the opportunities.

Thank you.

And with that, we'll now open it up for questions.

[OPERATOR INSTRUCTIONS] Liz Osur, Smith Barney.

Thanks.

I just had two quick questions.

I was hoping that you guys could provide some of your hardware unit forecasts for the U.S. market for this year, and also maybe speak to the gross margin progression throughout the year.

(inaudible – background noise) real quickly.

We're looking at probably 4.5 to 5.5 million PS2s, somewhere between 4 and 4.5 million PSPs, a launch quantity on Xbox2 of about 1.5 million.

And GameCube somewhere between 1.5 and 2 million units.

And the second part of your question, I think, Liz, was the gross margin implication of that hardware growth, and I believe in the forecast that we have gross margin, because of the heavier tilt to hardware being reduced by about 50 to 70 basis points.

Okay.

Thanks.

[OPERATOR INSTRUCTIONS] David Magee, SunTrust Robinson Humphrey.

Hi, good morning, it's actually Jennifer Neal [ph] calling in for David.

Congratulations.

Thank you.

And I just have one quick question.

And I just wanted to find out if you all had any visibility into software releases, anything strong in maybe the third or fourth quarter of this year.

Thank you.

Right now we don't have a very good sense of what's coming out in the third and fourth quarter.

Obviously some of the perennial titles, Madden will be a very big title again this year and NCA Football and some of those types of titles, but other than that it's still up to getting to E3 and really seeing what the publishers have on their plate, so at this point, no.

Nothing overly specific.

I would add to that, however, again with the PSP as I alluded to in my opening comments, it looks like we're going to get tremendous backing from the publishing community for that platform, and there have been a number of titles, 21 titles, as a matter of fact, that have been announced for release later in the year.

Madden 2006, The Godfather from Electronic Arts look like they could be very good.

Grand Theft Auto for the PSP should be good.

NBA Street and MVP Baseball.

Again, all of these are for PSP.

It's kind of ironic that we maybe have a little bit more visibility through announcements for the new platform than some of the legacy platforms.

Right.

And then that's on top of the 17 that are available?

Exactly.

Okay.

Great.

Thank you very much.

[OPERATOR INSTRUCTIONS] We'll pause for just a moment.

Arvind Bhatia, Southwest Securities.

Good morning, guys.

Good morning.

If you go back and look at FuncoLand and how those stores performed in the transition year, especially the used business, what sort of trend should we expect this year for that part of your business?

Well, we're looking at growth again in the used business.

That is coming from, I think, what -- partially what you're alluding to is that the drivers for the used business are many.

Probably nothing is as strong, however, as new platforms, new hardware being introduced.

Of course, the price points are higher.

Frequently our customers need to bring in products to lower their out of pocket costs, and with PSP and with Xbox2, we certainly anticipate that that therefore will be a good year.

In addition to that, strong new titles also always bring a lot of old product out of the closet and also, as you know, the key factor to driving your used business is how smartly and how well you're able to buy product back in.

So we see some things lining up externally that should make this a strong year for us in the used business, but I'm almost as enthused about some of the internal changes that we have made both from a systems and an operational standpoint to streamline that whole part of the business.

I think that is going to give us some lift as well, and obviously for confidentiality purposes, I'm really not going to go into those; but net-net this should be a good year for used games.

Those changes that you're talking about, Dick, those have already been implemented, or you plan to do those during the course of the year?

Some of them have been implemented already in this first quarter.

A number of them that we're working on that will be tied to some systems changes will be in place more for the second half.

And the margin trend on the used business, is that being pretty consistent with your past?

I think it's going to be, by and large, flat with where we've been historically.

So no -- so competition isn't trying to hurt the margins by maybe offering better deals or anything like that?

Well, there is some of that going on, but the -- as you've heard me say, perhaps in the past, is that our used business is one of the areas where there really is true price elasticity, because you've got two levers.

Not only the sell side price, but the buy side price.

And working those better, you can move the margins around, and furthermore, you can move the margins around significantly different between the ultra trailing platforms, like N64, and the more current platforms.

So to be honest, I would say some of the competitors out there giving what you might expect us to say unreasonable and maybe even foolish buy-side prices, some of our customers have been aware of that.

But we have other things that we do and have been doing to compete and yet maintain that margin level.

And I think that will continue.

I'm not going to make a statement and say that there will be no slight downward tick of used margins over the course of the two-, three-year period, but I feel a lot more optimistic that there are more things that we can do to keep our margin levels in the range that they are now.

Okay.

So conceptually, the internal changes that you were mentioning, those are more related to the buy side of the equation?

Would that be fair?

Yes, they are definitely related to the -- well, that's not true.

They're related to the buy, sell, and there's a third portion in there -- I don't want to mislead you -- that are really focusing on operational efficiency, getting people in and out quickly in that used area is essential during your peak periods.

Okay.

One last question.

On the -- I guess on the Electronic Arts conference call they mentioned catalog sales coming under pressure.

What would be your comments vis-a-vis that?

Well, I think if you -- I think that's generally true.

It was certainly true during the fourth quarter.

Certainly Electronics Arts' announcement here a couple of days ago alluded to the fact that there were somewhat weak catalog sales.

From our standpoint, I was a little bit surprised by what seemed to surprise them.

We have been saying that this almost pandemic shortage of hardware during the fourth quarter, not just for us, but for the industry as a whole, had a significant effect, and I think what EA is seeing downstream is that the installed base was so much less than it could have been, and by definition a large portion of those are new users.

New users that, therefore, probably would have been buying the best of the catalog titles, but did not have the machines that it looks like they took a hit from that, and I think there's still some of that in our sales as well.

Great.

Thanks, guys.

Ed Williams, Harris Nesbitt.

Good morning.

Couple of questions.

I got on late.

But I hope you guys didn't address this issue, but I'm curious as to what you're thinking the hardware mix is likely to be this fiscal year, and then if you can give us some insight into both the first and the fourth quarters, what you're thinking specifically in those quarters as far as your hardware mix.

Sure.

We're looking at probably a hardware mix -- this last year we had about 16% of our sales in hardware.

We're looking anywhere between, oh, 18 and 21% hardware for this coming year.

So quite a bit higher.

Quarter by quarter, we really haven't looked at it that carefully.

Obviously, the first quarter with the launch of the PSP is going to be heavily hardware-driven, and the fourth quarter, assuming that the Xbox2 comes out will be also heavily hardware-driven.

Okay.

So your assumption at this point is Xbox2 is in the fourth quarter of your fiscal year?

That is what we're assuming, yes.

Okay.

And then also if you can just comment a little about your SG&A as the year progresses.

Are you assuming any improvement on the SG&A margin or any efficiencies there?

Sure, actually we're assuming that our SG&A will be -- for the year will be flat to just slightly negative, as a percentage of sales.

That has to do with, obviously, the amount of stores we're opening and our international infrastructure getting some leverage as well as our new DC and general office.

All those together, though, we've always said that we thought we would start looking at leverage in our SG&A, and I think we'll come very close this year.

Indeed, depending upon some of the top-line variables and the like, I think it's fair to say that we could see flat SG&A to last year.

That certainly is within the realm of possibility.

And again, I would say, Ed, that is with growing our new store base, again very rapidly and still having a large amount of immature stores.

While it is true that each year our base of mature to new as a percentage begins to go down, which helps SG&A, we still have many, many stores, I think something like 800 plus, that we could consider still immature stores from that standpoint.

Okay.

And what is the plan for new stores this year?

We announced that we are going to open between 370 and 400 stores.

Approximately 340 of those will be in the U.S., the remainder would be international.

Okay.

And the international stores, are they solely in the UK, or --?

No, our international operations are predominantly actually in Ireland and Northern Ireland, and we are just entering the United Kingdom.

So included in that is an expansion outside of Ireland?

Yes.

All right.

Thank you very much.

And we have time for two more questions.

Mike Wallace, UBS.

Hi.

Couple of questions.

First, just as far as the Xbox2 launch and managing from Xbox1 and Xbox2, in the past a lot of times into a transition, sales have kind of slowed, or game orders haven't been as high as expected.

Could you just talk about the potential issues that you see in going from Xbox1 to Xbox2 this year, and maybe how the talk of two SKUs may impact managing shelf space, that sort of thing, and talk about opportunities for you guys to take share, if there are any, in this console transition?

I think there are -- I want to state at the beginning that we should have a much better insight to this later in the month, when we will sit down and actually meet with Microsoft.

We started our conversation about hardware this year as far as Xbox by saying that we saw relatively tight supply throughout the year.

We just don't think that we are going to have ample supply at all, and that's kind of how we modeled the year.

I think as we get into the second half, we're going to see, assuming an announcement of Xbox2 and assuming a date, we're going to see a continued decline of that.

We are still seeing, to some degree, continued support for the Xbox on the software side, the long developmental lead time, so there clearly is going to be software around, but it may very well be as we get into the second half of the year our model will be selling far fewer of the Xboxes and quite possibly will be selling more of the used Xboxes as people begin to trade those in, in anticipation of the new machine.

And I think that gives us an opportunity relative to your other question to kind of really capitalize maybe disproportionately on this hardware transition, at least for Xbox.

Okay.

And you mentioned the opportunity to gain some share.

What do you estimate your U.S. share is right now, and I assume you're gaining at the expense of toys.

Maybe talk about other people who you think are getting bigger or getting smaller in the category.

Sure.

Our market share ranges, and obviously this is based on estimates from NPD, and as we all know, NPD doesn't include Wal-Mart's share.

But that being said, we believe our market share is somewhere between 10 and 13%.

And as far as market share is concerned, and the directions of market share, it's -- certainly I think the growers in the market share you would certainly lead this off with Wal-Mart.

They obviously can't open 265 new Supercenters a year without growing their market share, and we believe they are.

We're clearly growing our market share.

I believe ED has announced that they are growing their market share and anticipate that that will continue.

The toy retailers, KB Toys, Toys-R-Us, certainly declining market share, and Game Rush, although I think the numbers are quite small, are probably picking up share just because they've opened a lot of stores last year.

Whereas Game Crazy I would guess possibly is in the flat range, but that would be a guess.

Okay.

Just one more question, Dave.

You talked about PSP, I think you said 4 to 4.5 million units is the assumption.

What are you thinking on GBA and DS?

Are you thinking the whole hand-held market grows with the BSP?

Is there cannibalization on the GBA side?

I think there's probably some cannibalization on the GBA side.

I don't think it's realistic to say it's all incremental business.

But that being said, we're looking at probably 3 to 3.5 million DSes and -- I believe last year there were 7.5 million GBAs, maybe 5 to 6 million GBAs.

Okay.

Thanks.

Tony Gikas, Piper Jaffray.

Hey, good morning, guys.

Great job on the quarter.

Thanks, Tony.

Couple questions for you.

What are your pricing assumptions for 2005 and then again in 2006?

Just sort of average selling prices across the board?

And then the second question, are you seeing any consumers hold off on purchases of current generation product in anticipation of these new hardware platforms that are coming, including the PSP and the Xbox2, or are you not seeing that at all?

Then the third question, where do you see growth in the future in this sector overall in terms of the software side of the business?

And I don't mean by platform, but what genres or categories do you see the real opportunity in?

Is it in adult oriented games or younger kids' games or sports products?

If you have any view on that, I 'd appreciate it.

Well, let me take the first question real quickly on the pricing assumptions.

For 2005, we're looking at average software prices to decline somewhere between 8 and 10%.

That's been typical over other cycles.

Last year, obviously, was somewhat of an aberration with a flat to slightly -- I guess it was a slight increase in average selling price; but we're looking about 8 to 10% decrease this year. 2006, we really haven't gone that far out to think about on average pricing, but with the launch of Xbox2 and potentially launch of the PS3 and Nintendo system next year, you could easily have increase in average selling price with those new systems.

As far as genres are concerned, I really don't have a crystal ball.

That probably would be a great question for our Game Informer staff who tend to operate further out front and may very well have an opinion on this.

I think the basic genres that we have now will continue to be refined.

Obviously the annuity titles, all of the sports annuity titles will continue to be power houses on all of these systems.

The area that I would like to see more breakthrough products, I will tell you, is in the youth oriented, the younger user area, and as I've said before, while Nintendo appears with the DS and some of their other things to want to move up the age ladder, I would feel a lot better if they would -- if they would continue to introduce great games to the younger audience, the new gamers, if you will.

I think while it's not so much maybe a new genre, I really think that there's some tremendous potential with this PSP to be a crossover product.

A combination of a great video game machine, roughly the power of PS2 in your hand, and a cool machine at that, along with MP3 music that is going to be good, but not likely to knock off the iPod, and then the wildcard are movies.

I think this machine has the potential to draw in a whole new -- call it a thirtysomething crowd, because it's a cool machine, and through that I have a feeling these people might migrate to games that they haven't played at all.

And while it is not a new genre, and it's only partially, I guess, addressing your question, this machine having the potential to fuse all of the entertainment, at least music, movies, and video games in one very cool unit may be the biggest thing going forward that we've seen in many years in this business.

Beyond that, I think you've triggered a question and we will ask our Game Informer people the same question, and I guess David can pass on the answer if they've got an opinion.

Incidentally it gives me a great opportunity, however, to pitch our Game Informer.

As you know, it's a magazine that has been wildly successful.

Our group operates out of Minneapolis.

We passed the 2 million certified circulation on Game Informer.

It's now the 26th largest circulation magazine in the country.

And when you break it down demographically, young male, it's the fifth largest magazine in the country.

We're beginning to attract national non-game advertisers as well as game advertisers, and it gives us also a real insight into some of the coming trends because of how far in advance our editors up there work, although in this case I guess I haven't asked them the right question, but glad I was able to get that plug in for us.

And with that, thank you so much for joining us.

We appreciate your continued support.

And that's all the time we have for questions today, and that does conclude today's call.

We thank everyone for your participation.

You may now disconnect.