GameStop Corp (GME) 2009 Q3 法說會逐字稿

Good morning.

Welcome to GameStop Corporation's third quarter 2009 earnings conference call.

Today's call is being recorded.

(Operator Instructions).

We ask that you limit yourself to one question to allow everyone an opportunity to ask their question.

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 use by any other party, without the prior written consent of GameStop.

At this time, I'd like to turn the call over to Dan DeMatteo, Chief Executive Officer of GameStop Corporation.

Please go ahead, sir.

Thank you, moderator, and welcome to GameStop's third quarter conference call.

With me today are Paul Rains, our COO, Cathy Smith, our EVP and CFO and Tony Bartel, our EVP of Merchandising and Marketing.

This morning we released our third quarter financial results and our forecast for Q4 and the full year.

Given the state of the worldwide economy, we couldn't be more pleased with our results.

In spite of softness in the industry, we managed our business well and had earnings at the high end of the range.

In addition, as our release indicates, we once again gained significant market share as a budget strapped consumer migrated to the value provided by our buy, sell, trade model.

New software sales grew 9.4% and used software sales grew 19%, as comps declined 7.8%, primarily due to new hardware sales declines.

In the quarter, we opened 86 stores, 48 in the US and 38 internationally.

Also, we brought online new ecommerce sites in Australia, Italy and a bilingual site in Canada.

Next year, we plan on completing our ecommerce expansion into the remaining countries where we have significant retail door presence.

Just two weeks ago, we announced a new executive in charge of our digital and ecommerce business, ShaWn Freeman.

He will be leading our efforts to make our ecommerce sites important portals for the distribution of not only box product, but digital also as well as integrating our sites with our vast store network.

Last week, we attended the BMO Capital Markets conference and announced several new initiatives.

Working with our publisher partners and platform holders, we are developing the capability to market add-on digital content in our stores and providing a seamless method for consumers to purchase this content.

We believe this segment of the industry underperforms due to lack of awareness and friction points in the purchasing transaction, which we will eliminate.

Fresh add-on content extends game play and satisfaction, thus maintaining higher ARPs later in the cycle, and provides an add-on source of income for the developer and retailer.

Earlier in the quarter, we announced the formation of a digital ventures group led by Chris Petrovich.

The charter for this group is to explore investment opportunities that would benefit through association with GameStop as we understand that gamers are playing games on many platforms.

I'm pleased to announce that we have acquired a majority interest in Jolt Games, a developer of browser games based in Ireland.

Their model converts existing IP from many of our publisher partners, and ports it into a browser environment.

Working with Jolt we plan on promoting their games in our retail doors, thus increasing traffic and therefore revenue.

With that, I'll turn it over to Cathy, for more in-depth financial review and then Paul will discuss in more detail what we see driving sales and our plans for Q4.

Cathy?

Thank you, Dan.

Good morning, everyone.

Before the market opened today, GameStop released its financial results for the third quarter of our fiscal 2009.

Sales and earnings in this third quarter were the highest for any third quarter in the Company's history.

Total sales increased 8.2% to $1.83 billion, as compared to $1.7 billion in the prior fiscal quarter.

Comparable store sales declined 7.8%, mainly the result of a decline in hardware sell through, and a tough comparison to last year's title lineup, primarily in October when Stable 2, Fallout 3 and Saints Row 2 launched.

Our European segment comparable store sales outperformed the rest of the Company segment.

Much of Europe entered into a recessionary period earlier than the US, and is now seeing somewhat easier comparisons as it begins to recover.

New software sales grew just over 9%, demonstrating GameStop once again gained a significant amount of market share as compared to industry declines reported by MPD of 12%.

Store traffic increased during the quarter, driven by strong new titles including Madden NFL 2010, Halo 3 ODST, Batman Arkham Asylum, NBA 2K10 and Wii Sports Resort.

New hardware sales declined 2% during the third quarter with weaker than expected sales of Nintendo's Wii, offset by the strength from the price cut of Sony PlayStation 3.

Used product sales increased 19% for the second consecutive quarter as budget conscious consumers continued to utilize our buy, sell, trade model.

Net earnings for the third quarter were $52.3 million, a 12% increase from the prior year's Q3 net earnings of $46.7 million.

Diluted earnings per share for the quarter were $0.31, including one cent of debt retirement costs.

Gross margins improved 60 basis points as our product mix shifted from low margin hardware sales to higher margin software sales.

Category margins varied when compared with the prior year.

Hardware and new software margins improved as a result of strong co-op advertising by our vendor partners.

Used product margins improved 150 basis points sequentially to 47.3%, but declined 90 basis points compared to last year's third quarter.

We are pleased with the dynamic growth in our European used business during this quarter.

However, due to the immaturity of the European used video game markets, their increased contribution pressured the overall Company used margin rate.

The influence of the European used sales on total GameStop used sales will have a temporary impact on our used margins of up to 100 basis points as we mature these markets and used businesses.

We are deploying US best practices such as hardware and software refurbishment, stock balancing and inventory management, which will bring European used margins in line with the historical US performance.

On a positive note, the US used margins were back at the top end of our historical ranges in the quarter.

SG&A expenses on a per store basis increased 11%, driven primarily by deleveraging fixed costs due to negative same-store sales in the quarter.

Now, turning to the balance sheet.

We have a strong balance sheet with over $290 million in cash at the end of the quarter.

Inventory levels increased 15.5% on a per store basis.

This change was mainly caused by Call of Duty Modern Warfare 2 inventory being in the stores prior to the release date.

During the quarter, we bought back $50 million of senior notes completing our authorized debt buy back program.

We now have $450 million of senior notes remaining on our balance sheet.

We continue to expect to generate free cash flow by the end of our fiscal year of approximately $400 million to $425 million, after having invested $175 million in capital improvements.

This morning we also reaffirmed guidance for the fourth quarter of fiscal 2009, and raised the low end of EPS guidance for the full fiscal year.

For the fourth quarter of fiscal 2009, we still expect comparable store sales to decline between 1% and 7%.

Over the first two weeks of November, clearly Call of Duty Modern Warfare 2 has provided a terrific start.

Consumer traffic and demand for new titles have been in line with our expectations and we are projecting positive new software growth for the fourth quarter.

As a reminder, last year there was an extraordinary demand for new hardware systems at price points significantly higher than this year.

Given this demand, we are up against a 22% total sales growth in last year's fourth quarter.

This fourth quarter, the Wii is priced 20% less and the PS3 is 25% less than last year.

Full year 2009 comparable store sales are now projected to decline between 4% and 7%.

Earnings per share for the full year are projected to range from $2.45 to $2.63, representing EPS growth between 2% and 10%.

For the industry, we forecast the new video game software sales growth will be flat to minus 5%.

We look forward to providing an update on our holiday sales on Thursday, January 7.

With that, I'll turn it over to Paul now for his comments.

Thanks, Kathy.

I would now like to discuss the drivers of sales for the third quarter as well as providing insight into what we see in the fourth quarter.

As Dan mentioned, we saw some great launches of new titles in the third quarter with strong reservation flow and launch events growing our new software share.

Hit titles that customers have been awaiting, unleashed pent up demand from core gamers.

Hardware sales were highlighted by the launch of the new PS3 Slim as well as price cuts on all three platforms.

The used business grew well indicating that GameStop is the destination for the value-priced consumer.

To give you some color on our unique product launch process, over 4,200 GameStop stores hosted events at midnight this last Monday for Call of Duty Modern Warfare 2.

Hundreds of thousands of customers across the United States came out to enjoy the unique experience that is a GameStop title launch, and they were not disappointed.

As an example, our San Juan Puerto Rico stores hosted an event at the local baseball stadium that brought several thousand customers, food vendors and even the local National Guard in support.

In the fourth quarter, we expect continued strength in new software with Modern Warfare 2, Assassins Creed 2, Left For Dead 2 and Super Mario Brothers leading the way.

GameStop's unique reservation process, trade currency, exclusive content, and prelaunch marketing increasingly drives the new game consumer to us as the preferred source for new titles.

Our used business, which is an opening price point channel that provides needed value to budget-conscious consumers will grow well and the trade currency we provide consumers will fund new game and console purchases.

On the hardware front, we see momentum from the new PS3 and expect lower price points to sustain sales on all three platforms.

We have seen the decline in Wii sales that others are seeing in the channel, but many years of experience have taught us that Nintendo is a very strong brand at holiday, and we plan to have the right products for that consumer when the peak shopping days arrive.

Our stores are better prepared than ever for the holiday shopping season.

Our efforts to continue reducing turnover have given us the most tenured store manager core in the industry and our year-long investment in associate learning pays off at holiday and consumer preference.

Our trusted game advisers are the authority for consumers searching for the right gift to buy, and we are staffing greeters to help guide customers as they arrive in store.

We have invested in new registers in over 600 high volume stores to reduce wait times at check out.

Our supply chain is best in class for speed to market, and our automated ordering algorithms can replenish any out-of-stock SKU to improve availability and sell through of hot titles and hardware.

Now, all of these investments produce very high customer satisfaction metrics indicated by our record Net Promoter score results.

Record gains in market share this quarter tell us that consumers are voting with their feet and going to GameStop.

A couple of comments on the consumer.

Like many retailers, we are conscious about consumer confidence heading into holiday.

For that reason, we are focused on providing consumers the strongest value proposition in video gaming.

On the new game side, we will promote over 2500 games under $20 during our holiday campaign, and will feature many of these in our holiday FSIs.

Our unique buy, sell, trade model offers consumers the opportunity to bring their old games back for cash or credit on new games and consoles.

We have seen in the past quarter that the level of trade credits going back into new games is growing and we expect trade credits to fund a large amount of new title purchases.

At the same time, we also know that the opening price point in used games and consoles are a great holiday gifting item.

As a strategy for a difficult spending environment, the buy-sell-trade ecosystem uniquely positions GameStop to drive both new releases as well as opening price point value.

We look forward to a great fourth quarter of 2009, and with that, I'd like to turn it over to the moderator for question-and-answer.

Thank you.

(Operator Instructions).

We'll take our first question from Colin Sebastian with Lazard Capital Markets.

Thanks very much.

Good morning.

It's Lazard Capital Markets.

Congratulations on the quarter.

I have a couple of quick questions.

First off, following on the strong launch of Modern Warfare, there's been some concern whether we'd see that strength carry over to titles like Assassin's Creed.

So I was curious in your confidence level that these other key titles for the holidays are shaping up to perform well out of the gates.

Secondly, it seems to be clear you guys are taking share still despite some additional competition.

I wanted to put a finer point on that, if you could talk about new software sales on a comparable store basis.

And then lastly, pardon me, I was hoping you could talk in a little more detail about the digital strategy that you've been outlining, a number of different initiatives here and maybe specifically on the acquisition of -- or acquisition of part of Jolt Games, the strategy behind making the shift in your business and how that fits into keeping traffic coming to your stores?

Okay.

Thanks, Colin.

This is Dan and I'm going to pass it over to Tony.

I think we'll have answers for everything but the cop software -- new software number.

We do not have that.

We don't track it.

We don't track that.

But, Tony, I'll pass it over to you and talk about the new titles and then also the digital strategy.

Well, clearly we saw pent up demand that was unleash requested Call of Duty Modern Warfare 2, and I know there was concern on the next three titles that launched, Super Mario, Assassins Creed, and Left 4 Dead 2.

We have high expectations for all of those titles.

Those are meeting our high expectations.

What we are seeing is pent up demand that is being unleashed and it gives us a lot of confidence as a great bellwether for the fourth quarter.

As to our digital vision, our digital vision really is built on leveraging the strong store foundation that we currently have in place.

Our first goal is to pursue adjacent opportunities such as the sale of downloadable content on the Microsoft and Sony platforms directly from our store, and from our web sites and on building on our web sites to be both global and more stream lined.

As Dan mentioned earlier, we recently opened Italy, Canada, Australia and we'll build out Europe next year.

As our west coast digital office that we call Digital Ventures, we continue to assess opportunities how to leverage our channel with this new digital content.

We're still learning here and our recent acquisition of Jolt is an example of the testing that we are doing in this area.

We like the business model that Dan articulated earlier of Jolt's ability to take IP from existing publishers and port it over into the browser space and allow us to sell that through our distribution channel.

Next question, please.

We'll take our next question from Ben Schachter with Broadpoint.

Hi, guys, congratulations on the quarter.

Thank you.

Two questions for you.

One, can you estimate what your overall industry share is this past quarter versus 2008 and then, Cathy, I was wondering if we could get some detail on the timing of getting the European used margin, if we could just get some more detail on that.

And then, you've discussed in the past what you thought 2010 might look like on the new software sales, and I think you had mentioned that it looks maybe like 2008 and 2008 was a 20% plus software growth environment.

Is that how we should be thinking about 2010?

Are you all thinking about 20% plus in the industry software growth?

Thanks.

This is Dan.

Thank you for the questions and thanks for the comment.

On the market share, we don't give out the absolute number on our market share growth on games.

Other than we had significant growth.

We gave out the growth number, correct?

But we're not going to give out -- we don't give out the absolute number.

On the second or the third part of your question, on 2010 growth, a lot of titles as we all know slipped into 2010 and we are expecting growth but we don't have our budget complete yet.

We are expecting strong single digit to maybe low double digit growth.

I don't know that we're going to get 20% growth like we did in 2008 because that was driven a lot by high ARPs with music.

And then I'll take your -- Ben, your question on the timing of the used margins and the maturity of that -- the European business, used business.

It's a great opportunity.

We know how and have a demonstrated track record of getting the US used margin to some very healthy levels and so maturing those markets, specifically Europe is an opportunity for a margin expansion in time.

Realistically, it could take several quarters, up to a year to get those margins kind of more in line and it really relies on the maturity of the used market.

So explaining to customers how -- what a used market really means, but it also more importantly, leveraging our US best practices.

So regional software balancing, pricing model and then the whole refurbishment capabilities are key and the great news is we're well under way of deploying those.

Okay.

Our next question is from Bill Armstrong with CL King & Associates.

Good morning.

As a follow-up to that, then, so the European used margins are below US not necessarily because of more competition, but just -- it sounds like more of an inventory management practice issue?

It's really -- it's just a maturing of that business.

So, initially you have to drive more used inventory into the stores and explain to the customers how to deal with a buy, sell, trade model and then it's really leveraging the US best practices with regional stock balancing.

We have tremendous pricing algorithms in our used business as you know and great refurbishing businesses.

And most of Europe didn't have business practices to that same level.

So if US margins are in the 40 to 50% range, what would European margins be at this stage?

Yes, they're just less and we don't normally disclose that.

The good news is, as I said in the quarter, we actually saw the US return to the high end of our historical ranges and so as you can just see, it's just the -- it's the over influence of the European contribution that's putting a little pressure right now and we see that as an opportunity and temporary.

Okay.

Great.

And your inventories, you explained that a little bit, inventory per store looked like it was up 9% year-over-year and some of that was Call of Duty.

Was that the entire -- would that account for the entire increase or if we stripped out Call of Duty inventory, what would the change -- year-over-year change look like?

No, it really is really attributed to the Call of Duty, the timing of bringing in the inventory ahead of the launch.

Okay.

So now that we're past that launch, is your -- your year-over-year change sort of more in line with your general sales trend?

Well, there is a seasonal aspect to the inventory.

We try to make sure, one of our key competitive advantages is making sure that we're there for the consumer during the holidays.

So we -- we do typically run a little heavier on inventory during this time.

But that -- but it's pretty normal.

Understood.

Okay.

Finally, your tax rate, your effective tax rate, it looked like it was only 32.5% for the quarter.

Was there anything going on there?

And what sort of tax rate should we model for Q4?

Yes.

Great -- great call on the effective tax rate.

It was 32.5% and that was really driven by some FIN 48 reserve reversals.

As you know with FIN 48, we have to establish reserves and reverse them as we move through the IRS process.

That's what's driving for the quarter, but more normally for the fourth quarter, I would look to our 36, 37% we typically have been doing.

We'll go next to David Magee with SunTrust Robinson Humphrey.

Hi, good morning.

A couple of questions.

One, how significant is the price discounting you think during the holiday season right now for new titles?

I don't know, David, that we're seeing anything significant over what we have seen before.

Of course, like most consumers and retailers, we've seen everybody's Thanksgiving SSIs and there's some price discounting in those SSIs, so -- but we have it also, we have price discounts also.

And so I think we're at about the normal rate and from what I've seen, which I think I've seen just about everybody so far, haven't we, Tony.

Yes.

We've seen --

Pretty much all out on public --

Pretty much all out on the internet.

I don't think it's any different -- much different than what we've seen.

We're very comfortable with our competitive position for Black Friday.

Is your advertising up year to year right now as a percent of sales?

Advertising is up slightly year to year as a percent of sales and we are also going to have higher spending in the fourth quarter to support the initiatives that Paul talked about, the 2500 games under $20.

Thank you.

And then lastly, you're obviously taking a more proactive position with regard to digital and how much of that reflects -- or let me ask it I guess a different way.

Do you think that the share of the business that digital in total will comprise of the sector next year, are you thinking change in that in the last six months?

I don't think our position has -- well, in the last six months we've done -- last six months, I guess, last 18 months we've really studied the digital market and adjacent markets very extensively and we do believe in the initiatives that we are investing in as we believe they will grow.

Will it be significant portion of our business next year, no.

Will it be a growing portion, yes.

But significant, no.

And I don't think it will -- it will take years for it to be anything significant.

We'll go next to Tony Wible with Janney.

Good morning.

I was hoping you could comment on how the foreign exchange builds into the used margins now that you have the foreign exchange and you're building that business?

And can you break out what the foreign exchange benefits were in the quarter I guess with the dollar's drop?

Yes, I don't have it off the top of my head, Tony, the used margin influence of FX.

Total FX for the quarter was actually pretty minimal.

It was less than a penny.

It was, I think, $1.5 million or so in earnings.

Okay.

And then the Wii commentary that you guys made about the Wii traction, was that both on hardware and software or was that just hardware?

What do you guys see on the horizon that Nintendo could be doing to reverse that?

Is it a content, is it extra features?

Just a little bit more color on what might reverse some of the Wii momentum.

I think as we shared earlier, we always see and for years we have seen that Nintendo becomes incredibly strong during the holiday season both from a hardware perspective and a software perspective and clearly with the large install base that Nintendo has, we expect it to be a very strong year for Nintendo software as well.

In terms of commenting on future development at Nintendo, I cannot comment on that.

Your comments on the Wii, was that both hardware and software where you said you were seeing a little bit of weakness in demand?

Well, we are seeing -- we have seen a bit of weakness on the Wii software as well and, again, what we expect to see is during the holiday season for that to increase significantly.

Great.

Last question, could you just remind us last year in the fourth quarter, I guess the used margins kind of dipped sequentially.

What was in that fourth quarter that drove the margins lower?

Last year in Q4, we had three buy two get one free events compared to a normal year when we have -- compared to a normal year when we have two.

This year we have two planned.

That doesn't mean that we may not have a third one if we believe that's in the best interests of our earnings and what the consumer is desiring.

We'll go next to Arvind Bhatia with Sterne, Agee.

Thank you, that's Sterne, Agee.

Just a little bit more color on the used sales for the fourth quarter.

Given the tougher comparison, I'm wondering how we should think about that and your comments that you just made about the promotions, just wondering sequentially therefore we should still look for flattish margins in the used category given the pressure that you talked about in Europe or just help us understand how you're thinking about the margins as of right now.

And then my second question is on hardware, where you are your margins were strong, in fact, I think the strongest I've seen, you mentioned co-op, but was there anything else special outside of that?

Cathy, I'll pass it to you.

Yes, I would think for the fourth quarter, I would think, based on what I said earlier, we're going to see a continued pressure of maybe up to 100 basis points from our more historical ranges and then because of the promotional activity that we normally do in the fourth quarter, it tends to dip a little bit below that.

But I would say it's going to be in that range, Arvind, about that 100 basis points pressure off of our -- off of our normal ranges.

And the second question was hardware margins, his question was hardware margins are higher than he has seen.

I think that's a reflection of the co-op advertising income that was a little bit higher than usual that went into the hardware margin.

Yes.

We have time for two more questions.

We'll go with Edward Williams with BMO Capital Markets.

Good morning.

Couple of questions.

First of all, can you just comment going back to the question on international versus, say, the US.

How did the revenues split between the US and Canadian and European or however you want to break it down on a geographic basis?

And then if you can just help us kind of think about it in terms of how the geographic sales mix compares to kind of the software versus hardware, the used mix that you've put out, just kind of puts and takes around that area.

And then going back over to the Wii for a moment, I know it's been just a couple of days, but can you give us some color as to what sort of an impact Mario has had, if any, on a material lift in Wii hardware sales?

Yes, so, I'll take the first two and I'm not going give you a great answer.

I'm going to tell you really wait until we file the 10-Q to get the segment data and that will be coming out shortly.

So the geographic split and then --

How about just thinking about it in terms of color?

Is it materially different in international versus US on a revenue split?

No.

Well, I think it would -- it's material in that France is in our -- would be in our sales mix for the first time in Q3, the first -- last year in Q3, it was not there and this year it is.

But outside of that, I don't think there would be anything different than what you normally see.

And as to Wii hardware sales, we do see a pickup when we launch great titles like Super Mario, so we have seen it pick up, which we did expect in Wii hardware with the sale of the Super Mario game.

Okay.

And then last quick question for you is what's your fear at this stage of the 2010 release schedule and the potential of it being too crowded, at least in the first few months?

Tony, you want to take that?

I feel very comfortable with the pacing of the 2010 title schedule right now.

I don't see a lot of crowding.

There are some great titles, like Bioshock 2 and Battlefield Bad Company, we've got Final Fantasy 13, Gran Turismo 5, a lot of great titles out there, but they're actually paced quite well.

So we are very, very excited about the first two quarters of next year and again 2010 will be the largest year ever for software titles.

So we're very excited about that.

And I will also add on the titles, many of those are targeting different segments of the gaming community, so there's not -- they're not all overlapping.

Okay.

We'll take our last question from Anthony Chukumba with FTN Equity Capital Markets.

Good morning, a quick question.

The one thing I was interested in is the fact that you sold 2.5 million units of Modern Warfare 2 in the first 72 hours.

Are you seeing any sort of sequential increases in terms of your market share of these tentpole titles, these highly anticipated titles, the Grand Theft Autos, the Maddens of the world, or is your market share -- are you seeing any differences there?

We are seeing a steady increase in the launch share of key tentpole titles.

I think at Paul mentioned earlier, a lot of that is due to the increased percentage of those games that are funded by trade credits.

That's where our buy, sell, trade ecosystem works very well especially in this value environment.

Also on practically every new release we now have exclusive content and we are also marketing heavier around the tentpole titles.

Those three things are helping to drive sequential market share gains on launches.

In a crowded space, Anthony, the ability to free market and differentiate becomes more important every time with every release.

Got it.

That's really helpful.

Thanks.

Okay.

Thank you.

As you can see, we are very optimistic about the industry and GameStop's positioning.

We are focused on continuing to open new stores as they are great investments with very flexible lease terms.

We are investing in ecommerce worldwide as we see these portals as very important to the future and we are investing in a line gaming strategies that we can promote in our stores and help grow.

Thank you for attending today and have a great Thanksgiving.

This concludes today's conference call.

Thank you for your participation.