GameStop Corp (GME) 2011 Q2 法說會逐字稿

Good morning.

Welcome to GameStop Corp.'s second-quarter 2011 earnings call.

Today's call is being recorded.

(Operator Instructions).

I'd 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 Mr.

Paul Raines, CEO of GameStop Corp.

Please go ahead, sir.

Good morning, and thank you for attending GameStop's second-quarter earnings call.

Joining me today are Tony Bartel, our President; Rob Lloyd, our Chief Financial Officer; Mike Mauler, our Executive Vice President of International; and Mike Hogan, our Senior Vice President of Preowned Merchandising and Marketing.

Before we get started, we would like to thank all of our GameStop associates worldwide who strive every day to deliver the best customer service and innovation in video gaming.

The second quarter demonstrated the resilience of the GameStop model.

As we projected on our first-quarter call, new software sales declined as the new title lineup was lighter than last year's second quarter, and hardware sales also decreased due to weak demand and product shortages.

At the same time, our focus on our preowned and digital businesses, as well as the productivity of our store-consolidation methodology, yielded positive benefits to our earnings during the quarter.

The GameStop model combines leading market share on new software, hardware, and digital content with the best value proposition in gaming through the preowned business.

We added millions of customers to our PowerUp Rewards program during the quarter to reach more than 12.5 million members, and they represent over 60% of our transactions in the United States.

We now estimate that the PowerUp Rewards customer base represents 25% to 30% of all video game consumption in the United States.

Our unique ability to consolidate customer demand into a reduced-store footprint while growing new digital businesses is proving to be a very productive business model, and our earnings in the quarter are a clear example of our strategy's effectiveness.

In terms of the preowned business, we saw strength around the world.

Growth in preowned was 12%, helping to drive overall gross margins to a five-year high of 31.2%.

The strategy we outlined at the beginning of the fiscal year continues to drive growth as we bring the power of in-store merchandising, dedicated leadership, and the PowerUp Rewards marketing weapons to the preowned business.

It is interesting to note that our preowned business is accelerating as competitors help us create more awareness among consumers about the value of preowned games.

We are also seeing that the launch of DLC in our stores is creating opportunities for attaching digital content to used titles.

The rate at which we attach DLC with a preowned copy of a game is similar to that of a new game.

Tony Bartel will provide some color on DLC, as well as how the launch of digital content is driving a new cycle of preowned selling and trading.

A word on retail competition in the preowned business.

We have watched all our competitors' new initiatives in the business closely, as we have watched the previous five to six attempts to enter the business during the last three years.

We have created significant competitive moats around the preowned business, and those moats are, one, proprietary pricing algorithms developed during 15 years of preowned merchandising.

Two, SKU-level balancing of inventory across market areas to drive demand and get the right titles in the right stores.

Three, world-class refurbishment capacity through a 200,000-square-foot, 1,000-employee high-tech facility in Grapevine, Texas, owned and operated by GameStop.

Four, detailed knowledge of secondhand dealer laws in over 2,000 municipalities to ensure compliance; and five, a rich in-store staffing model that gives consumers efficient trade processing and services.

Competitors can seek to understand these competitive moats, but consistent in-store execution proves to be far more difficult.

To further our competitive advantage, during the last two years we have added new stealthy weapons to our industry-dominant merchandising on the preowned business.

PowerUp Rewards brings the power of personal relationships with 12.5 million consumers who receive private communications and offers from GameStop and who are growing in their trading and purchasing activity.

We have added unique digital content that can be bought with trades, adding to the ecosystem for gamers.

We are even expanding the universe of trade currency by allowing iPod, iPhone, and iPads to be traded in many of our stores in a rapidly growing i-devices trade businesses.

As the leader in preowned sales, we know that we can never stop innovating and executing at a high level.

As we look at preowned sales and trades in our stores adjacent to big-box competitors, we do not see any significant impacts.

On the international front, we see continued progress, particularly in driving best-practice adoption in preowned and in cost reduction and consolidation.

We saw preowned sales and margins expand in all international markets.

We have added significant e-commerce capacity across the world, even using our online platforms to enter countries where we do not have brick-and-mortar stores.

Mike Mauler will provide more details on our work in the international area.

The digital business continues to grow at an accelerated rate.

The DLC launches have become a regular part of our GameStop ecosystem as we promote launches in-store, take reserves, and fulfill DLC through digital codes.

It is becoming clear to us that DLC exhibits the characteristics of a strong business.

Consumers are using trades to buy it.

It is attaching to used games as well as new, and PowerUp Rewards members are frequent buyers.

Publishers are learning the power of DLC, and you can expect to see regular DLC launches as part of all large titles in the future.

Our Impulse download engine has been integrated into our GameStop.com platform, and you are seeing the unique promotions we are bringing to the PC download business.

The Spawn beta test of streaming games is underway.

Our casual-game site, Kongregate, is growing traffic by over 40%.

In summary, the digital initiatives we announced earlier in the year are progressing on schedule and are contributing to profitability, representing approximately one-third of margin dollar growth in the second quarter.

Tony Bartel will give you greater details in his remarks.

Now, a word on our real estate transfers.

We are seeing that our ability to consolidate stores to yield greater profit contribution is a real source of margin growth.

During the second quarter, we closed 46 stores around the world, and the profit enhancement to adjacent stores is ahead of the targets we set at the beginning of the year.

We are also seeing that the sales and profit transfer is happening not only at the adjacent store, but there is a large subset of our customers who shop beyond the adjacent store, sometimes transferring their business to five or more stores.

We believe we are creating the most unique real estate tool in retailing and are only beginning to discover how we can mine the data produced by the integration of 12.5 million PowerUp Rewards customers' buying habits with our extensive real estate data.

That consumer data has become a valuable asset, in many ways far more valuable than the brick-and-mortar assets we traditionally measure.

Going forward, we can be fairly surgical on store openings and closings.

In terms of the back half of the year, we see a very strong lineup of new titles.

Reserves for back-half titles are running significantly ahead of last year as pent-up demand is developing ahead of juggernaut titles like Modern Warfare 3, Battlefield Bad Company 3, Gears of War 3, Assassin's Creed 3, and Elder Scrolls V Skyrim, and Batman Arkham City.

New hardware and digital content will become holiday items, and PowerUp Rewards will bring us more share of wallet from consumers than ever before.

We have reiterated our guidance for yearly earnings.

Rob Lloyd will provide more color on our forecast in his remarks.

In summary, we are clearly seeing a rapid pace of change in our markets, and there is a lot of transformation going on at GameStop.

Let me reiterate that we are committed to our strategy, which is working and built based on a detailed model of technology evolution and consumer chronology.

In April, we told you that the strategy includes significant capital and expense investments in digital platforms that are continuing.

The strategy also includes, as a foundational element, disciplined capital allocation.

We are targeting a return on invested capital of 17% by the year 2014, and you have seen us buy back 18% of our shares in last 20 months.

We currently have an open authorization of $348 million for further buybacks.

As we go forward, you can expect us to remain focused on our strategy for multi-channel growth with disciplined capital allocation.

As a final note, I would like to welcome Shane Kim to our Board of Directors.

Shane's extensive experience in the digital gaming landscape as one of the founders of the Xbox platform is a strong addition to our Board.

I will now turn the call over to Rob.

Thanks, Paul.

Good morning, everyone.

The revenue and comp challenges we outlined going into the quarter were more pronounced than we anticipated, especially on the hardware side.

Sales of the Nintendo 3DS did not meet expectations, and we were up against the introduction of the Xbox 360 Slim.

As we expected, software sales declined due to difficult comparisons to last year's strong title lineup.

As a result, total sales were $1.74 billion, a decrease of 3.1% compared to the second quarter of 2010.

Total comparable-store sales were down 9.1%, down 11% in the U.S.

and down 5.4% internationally.

Preowned sales were very strong in the quarter with a 12% increase, following the 9.5% growth in the first quarter.

Foreign-currency exchange accounted for approximately 4% of the increase.

Preowned sales were 36.3% of total sales, the highest for any quarter since 2005.

This growth reflects the efforts we've made to reposition our preowned product within the store, drive awareness of the value in the buy/sell/trade model, and use our PowerUp Rewards program to engage the preowned consumer.

Our digital business increased 69% over the second quarter of last year with strong growth in both console digital and PC digital, and we're on track to achieve our 2011 digital revenue target of $450 million.

Digital gross profit grew over 60%, contributing to gross profit growth.

Tony will give you more color on this increasingly exciting part of our business.

Despite the challenging sales environment, we were able to meet our earnings guidance based on several factors.

Strength in the preowned business, digital growth, gross margin expansion, expense control in light of sales trends, and better-than-expected results of our PowerUp Rewards-driven store-closing process were each positive contributors to the business.

The added profit from our store-closing sales transfer process is now a noticeable portion of our operating earnings.

Net earnings were $30.9 million and diluted earnings per share for the quarter were $0.22, in line with our guidance range.

As we've stated previously, during the quarter we continued to spend on our strategic initiatives, including expenses to integrate Impulse and prepare for beta tests for Spawn.

Gross margins for the quarter were 31.2%, the highest since 2006, driven by the strong preowned sales, digital growth, PowerUp Rewards, and the shift in sales mix from new hardware and software to preowned during this quarter.

Preowned margins were 46.2%, comparable to the second quarter of last year and in line with our expectations.

New hardware and new software margins were comparable to the prior-year quarter, while margin in the other category increased from 34.8% to 41.7%.

This margin-rate growth reflects the success of the Company's various digital initiatives and the success of the PowerUp Rewards Pro membership and the impact of the $15 membership fee on margins.

The following details will help to frame the gross margin improvement and highlight the impact digital and PowerUp are having on the business.

These are not necessarily data points we will share every quarter.

The increase in preowned sales as a percentage of total sales during the quarter accounted for approximately one-half of the 250 basis-point improvement in gross margin.

Growth in our digital businesses accounted for approximately 50 basis points of the improvement, and growth in PowerUp Rewards Pro members and related Game Informer subscriptions also contributed to the margin expansion.

Growth in digital gross profit accounted for approximately one-third of the growth in gross profit year over year.

SG&A expenses as a percentage of sales increased from 22.5% of sales in the second quarter of 2010 to 25.4% of sales.

This reflects deleveraging from negative same-store sales, the continued investment in initiatives, and swings in currency exchange rates.

The change in currency rates drove $19 million of the increase in SG&A over the prior-year period.

SG&A for the quarter-before currency movement was less than we expected when we gave guidance, as we focused on expense control throughout the quarter.

Total Company inventory decreased 6% and 6.6% per store as we continued to focus on disciplined purchasing and inventory management to reflect sales trends.

Keep in mind that our growth in digital does not require any investment in inventory, making our use of capital more efficient.

We ended the quarter with 6,582 stores.

We added six net new stores in the U.S.

after opening 38 new and closing 32.

As we said, our store transfer process is yielding positive results as we are increasing profits in the stores nearby ones we have closed.

Again, a positive impact of our PowerUp Rewards data.

You will recall that we expected that a 40% to 60% sales transfer rate would yield an additional 20% to 30% of the combined profits of the closings in nearby stores.

The added profit from our sales transfer process has exceeded our expectations.

Internationally, we added three net new stores, opening in better-performing markets such as Italy and France, while closing stores in underperforming markets like Spain and Nordic.

Year to date, we've opened 117 stores, the fewest number of first-half openings since 2002.

We also closed or divested 205 stores.

During the quarter, we repurchased approximately 1.365 million shares for a total of $34.6 million.

As of the end of the quarter, we had approximately $348 million remaining under our current authorization.

In the last 12 months, we've repurchased $314 million in stock and $200 million in debt, or 114% of the free cash flow in the same time period.

In just over 18 months, we've repurchased $614 million in stock, or 18.5% of our outstanding shares.

We remain firmly committed to our capital allocation plan, and you can see us execute on that through focus on inventory management, controlling our store portfolio, and returning cash to shareholders.

Now for the third-quarter outlook.

We forecast same-store sales to range from plus 2% to plus 4%.

We expect diluted earnings per share to range from $0.38 to $0.41.

This compares to $0.38 per share in the third quarter of 2011(Sic).

During the quarter, we will continue to invest in our strategic initiatives.

The impact on the third quarter is expected to be approximately $0.03 per share.

As we shared with you on our investor day, and have spoken of since, our investments in strategic initiatives have a strong, long-term payoff in shareholder returns.

We are reiterating our previously-announced full-year 2011 earnings per share guidance of a range from $2.82 to $2.92, representing an EPS growth rate of 6% to 10% based on 2010's EPS of $2.65.

We are revising our full-year comparable-store sales guidance to range from plus 1% to 3%, and our full-year revenue guidance to range from plus 4.5% to 6.5%.

This change reflects the reality of the second quarter.

It's important to clarify that we have not changed our outlook for the back half of the year.

Now I'll turn it over to Tony for his comments.

Thanks, Rob.

As expected, Q2 was a difficult quarter for new physical games, as major title launches in 2011 could not overcome the successful launches of 2010 and the 3DS underperformed our expectations.

As a result, our Q2 new software sales were down 10% and our new hardware sales were down 12%.

We expect the next two quarters to be very strong from both a physical and a digital perspective.

We continue to see strong growth in our digital initiatives.

And I'm going to provide you with an update on our digital integration as well as give some commentary on the physical game opportunity that we see in the next two quarters.

We remain on target to deliver at least 50% digital growth for the fiscal year, as our digital revenue increased 69% in the second quarter and has grown 61% year to date.

During the second quarter, console digital revenue grew 72%, while PC digital revenue grew 64%.

The integration of our two most recent acquisitions, Spawn Labs and Impulse, is proceeding on schedule.

Spawn recently began its first beta and is currently live, testing the streaming of Xbox 360, PS3, and PC games from a data center in Austin, Texas.

As previously announced, this is a closed beta consisting of GameStop associates that will help us fine-tune our data center environment.

The initial results of the tests are positive, and we are on track to broaden our testing in Q4 through a national beta and for a nationwide launch in the first half of 2012.

We continue to get positive feedback from our publishing partners about the pro-console, low investment model that we have chosen.

We also integrated Impulse, our new PC download platform, into GameStop.com and into our stores during the quarter, as planned.

Leveraging our strong relationships with our publishing partners, we have increased our catalog by adding hundreds of new titles, including some games that will not be available from other competitors.

We will continue our integration efforts throughout the year to leverage PowerUp Rewards and to streamline the discovery, acquisition, and payment process for our customers.

Kongregate continued its rapid growth, increasing traffic as measured by Google Analytics by 42% over last year and increasing revenue by 64%.

Our Q2 comScore traffic grew 40% over prior year.

Our focus on adding highly-monetizing, free-to-play games continues to be the key source of growth for Kongregate, and this revenue accounted for the majority of sales during the quarter.

Earlier this month, we launched a multichannel effort to promote one of Kongregate's most profitable games, Tyrant.

This game was supported by in-store merchandising, our PowerUp Rewards program, GameStop TV, and our websites.

We also began to offer Kreds, Kongregate's online currency, in our stores as DLC.

We are seeing strong consumer action to this program, and it has contributed to the record level of site traffic.

In addition, customers sent from GameStop are monetizing at six times the rate of other players of Tyrant.

We also launched Kongregate Arcade Pro, a paid version of our popular Android app that provides customers the ability to play hundreds of free games with no advertising.

Modern Warfare 3.

Second, more than 70% of our DLC is purchased with currency other than a credit card, such as trade credits, cash, and gift cards.

So we are reaching a new audience that has previously been shut out from purchasing digital content.

In fact, a recent survey of DLC purchasers showed that 50% of the people who purchased DLC at a GameStop had never purchased DLC before.

So we are significantly growing the category by driving digital sales.

This same survey revealed a very high 87% satisfaction rate with the GameStop experience, fueled in order by the availability of PowerUp Rewards, the knowledge of our associates, and flexible payment options.

So, our strategy in DLC is working to thrill our customers, to drive incrementality through discovery, and to drive our digital revenue.

Our Game Informer digital magazine continues to grow with more than 500,000 subscribers and is growing sequentially at more than 50,000 subscribers per month.

Finally, as Paul mentioned earlier, we are very excited about the product launches in the back half of the year.

We are expecting an unprecedented year in which we believe we will have more million-plus reservation titles in the back half of this year than we have had in our entire previous history.

This shows not only the quality of the titles that are being launched, but also the many benefits that customers enjoy at GameStop such as exclusive content, PowerUp Rewards, knowledgeable associates, and the ability to trade in their old games for currency to purchase their new games.

With that, I'll turn it over to Mike Mauler.

Thanks, Tony.

Good morning, everyone.

International results varied by segment in the second quarter with overall performance meeting our expectations.

Total sales decreased 2.2% versus the second quarter of 2010, excluding the impact of currency.

Similar to the U.S., the decline in new software and hardware sales was due to 2010's very strong new release lineup, including StarCraft, Red Dead Redemption, and the launch of the 360 Slim.

In Europe, we outperformed the market, gaining share and improving our gross margin rate.

As communicated during investor day, we are executing our strategy of controlled growth and investments in our high potential markets, such as Italy and France, and we are seeing strong results in these markets.

In struggling markets such as Iberia and areas of northern Europe, we are making progress on restructuring, consolidating our infrastructure, and reducing our store base with a focus on driving down costs and increasing ROIC.

During the quarter, 14 underperforming stores were closed, and international average inventory per store was managed down 5.9% versus the prior year.

As discussed on previous calls, our intense focus on rolling out best practices and improving the buy/sell/trade model continues to reap benefits.

Driven by the continued rollout of GameStop's preowned inventory management system and investments in refurbishment, the international preowned gross margin rate increased over 200 basis points versus 2010.

In addition, due to the quality of new titles scheduled to be released in the back half of this year and the improved effectiveness of our buy/sell/trade model, we currently have more than double the number of reservations on upcoming new releases compared to this time last year.

During the quarter, we continued implementing our strategic initiatives globally.

We expanded our e-commerce business by launching sites in New Zealand and the UK, which is the largest video game market outside of the U.S.

International e-commerce sales in the second quarter increased double digits versus the prior year, and the expansion into additional markets will continue.

Finally, based on the success of our loyalty program in France and the tremendous results with PowerUp Rewards in the U.S., we are in the process of implementing related programs in our international markets.

Now I will turn it over to the operator to begin the Q&A session.

Thank you.

(Operator Instructions).

Brian Nagel, Oppenheimer.

The first question I want to ask -- on your -- I just want to discuss your loyalty program further.

You've talked about it a lot in the conference call today.

You mention it in the press release.

You've talked about a lot in past meetings.

But it's clearly been a big driver of your business.

The question I have is, where are we as far as penetration of the PowerUp Rewards program?

How far could that get?

And then, as you think about the benefits to your business model of this program, is it a linear function as we get better and better penetration?

Or are there certain thresholds where you meet -- you reach a certain point of your consumer population when you got a stepped-up function as the benefit goes?

Thanks, Brian.

This is Paul.

Let me start that off, and then I'll let Mike Hogan, who is our expert on PowerUp Rewards, sort of take you deeper on it.

I would say that what we're discovering with PowerUp is it's far beyond a loyalty relationship with consumers.

It's become a multichannel relationship management that's online.

It's in-store, it's in mobile, it's at Kongregate.

In other words, it's multiple touch points.

So your question around linear, I just don't -- we just really don't know what the limits are.

Because as Tony brings in acquisitions and we launch new digital businesses, we see that the program is able to reach consumers in so many different ways.

In addition to that, as Mike Mauler told you, there's 16 other countries out there where we have potential.

But Mike -- I'll let Mike Hogan give you some more of his thoughts around what he's seeing with the program, and whether it's a linear function or not.

Sure.

So, I think -- Paul mentioned earlier that we're already at about 60% of sales.

So, we're getting to a pretty healthy number, penetration-wise.

We think that the program has a lot of upside.

But I wouldn't measure that upside just in terms of that particular metric, right?

So a couple of things that I think are worth mentioning.

One would be where we have a lot of rich data.

We have millions of people in the program, more than, like, 12 million people in the program, and that allows us to know with a very deep level of specificity about what those consumers' needs are, personalized things for them, and so on.

I know a lot of times when people talk about loyalty data, they're talking about maybe millions of people who haven't even been in a store in a year or so.

And keep in mind that we've only been national on this program for about nine months, and we're already over 12 million people, so we have a very engaged group of people.

In fact, our average member already has more than five transactions with GameStop.

That doesn't include things like all their web visits, the service that they do, coming to midnight events at our stores, and all the other ways.

So, we have a large group of people that are very deep into the program, and we also have over 150 million titles captured already in the library.

So, we know great things about you as a gamer that we're really just beginning to tap into the PowerUp.

So, for example, we don't just know if you're a gamer or if you like Xbox over Wii.

We know things like you like sports games the best, but you like football better than basketball, and you want someone to buy the new Madden game for your birthday, so that level of depth of detail that we have.

And I think what -- so what you're -- a lot of what you're going to see is increased -- not just in the number of members, not just in the percent of sales, but in the depth to which we mine all this.

The second point I think I would make is that we are gathering and utilizing this data across all of our channels.

These are transactional channels, but also engagement channels.

And this provides us a much more holistic view of the consumer, but it also gives us a lot more potential touchpoints and opportunities for us to take and leverage our large and engaged consumer base that we have in stores and introduce them to some of our fast-growing digital properties, like a Kongregate, like an Impulse.

So it's not just about what happens in the store.

So, for example, we are now able to look into things like, if you're an engaged gamer, are you also playing games on Kongregate?

Have you used the convenience of our hold online and pickup in store program at GameStop.com?

Have you downloaded at Impulse?

So each of these tells us more about you, who you are, if you might fit the profile, and we have the opportunity to introduce you to that.

We also can look at the member's trading behavior.

And we're using PowerUp to increase the number of people who trade, which frankly is one reason why our preowned business has grown so much this year.

So our goal is really to say at every touchpoint we know each consumer individually and we provide the opportunities that are most valuable.

And then, the last point I would make is just that we're less than a year into this program and we're just beginning to tap the full potential of it, which again goes way beyond just how money people are in the program.

So, for example, most of our communication is now customized to the needs and preferences of individual consumers, customized by console ownership or game preference or spend level or what have you.

So we do very little mass communication anymore.

We've done a number of successful title promotions, and the results show that PowerUp Rewards marketing increased pre-orders, it increased pickups, it can increase event participation, and our publisher partners know that it drives total sales of the title larger than they would've otherwise been.

So we're getting very, very strong positive reaction from our publishers and strong participation.

Tony mentioned about DLC.

We're using PUR to pre-sell DLC with games and deliver it to consumers -- to members through their digital locker.

And we've even gone so far as to send messages to individual consumers telling them about a specific trade offer towards the purchase of a specific game that they want.

These offers are getting well above an average response because they are relevant to 100% of the consumers that are receiving the offer, and they really contain unique and compelling value that only GameStop can do.

So I think for all of those reasons, we see the program as having a lot of upside and, again, that's measured in many, many more ways than just how many members or what percent of sales.

But if you're looking for a limit on percent of sales, our French business, Micromania, that Mike Mauler manages, their percent of sales going through their Megacarte loyalty program is over 86%.

So, we've got some good examples internally of how high it can go.

That's great.

Thanks for all this.

It's very helpful.

Thanks for all the detail.

A shorter-term question, clearly concerns of a macro slowdown are weighing upon most investors' minds at this point.

Any commentary you can make about recent trends in your business late in the quarter or even here early in August?

Well, let me talk about the macro, Brian.

I think that obviously we would -- we are watching employment closely.

We have a very good sense on what's going on, for example, with real estate development.

We're in touch with lots of strip and mall developers, and we see the consumer pressure that's out there.

Having said that, I would make a couple of points.

One is that we've seen historically that our business is more about the title lineup than about the macro.

Remember that video gaming is very inexpensive entertainment.

I think we used to use a number that the average video game was 30 to 40 hours of entertainment.

They may be more today because they're so rich.

But we know that in a tough consumer environment, gaming is value, and particularly our preowned games are extreme value, so we are bullish about that.

We also look at the title lineup Tony mentioned, and we're bullish about that.

And then, frankly, buy/sell/trade makes every game cheaper, and we expect that we will have the best value proposition at holiday as we usually have, and PowerUp is bringing us new ways to do that, so we think that on the value side, we will be very competitive.

Tony, maybe you can comment on some of that as well.

Let me answer the second part of your question, Brian.

In terms of recent trends, clearly we've had two major events recently with the price drop on the 3DS and then the price drop on the PS3 platform.

That has seen a significant increase in the rate of sale of those platforms, as you would expect.

So we see that as a good barometer for what is going to take place in terms of the installed base in the back half of the year.

And then, the second data point I would give you is one that we shared is clearly as we look out, and we are forecasting that we will have more million-plus reservation titles.

We clearly see reservations at a very strong clip currently.

Scott Tilghman, Caris & Company.

Wanted to touch on two things.

First, following up on Brian's question and the rewards data that you're amassing at this point.

You've talked quite a bit about the internal marketing opportunities and the store heat maps, if you will.

What are the external opportunities?

How anxious are the publishers to get their hands on this data, or the manufacturers, for that matter?

Great question, Scott.

Mike, why don't you take that?

Sure.

So I think there is a couple of things there.

The most obvious one is how are we working with the publishers already, and I mentioned we've done a number of very successful title-specific promotions.

I think we're -- we're branching out, obviously, beyond that.

There's a lot of things other than just titles.

There's times of the year, occasions, targeted consumer groups, and so on.

But we started with this really even last fall, and we've had a lot of success in working with publishers around key titles.

The opportunity I think can be a little different for each title, depending on what it is, and that's kind of the point of the program, right, is to identify the relatively smaller group of consumers that can really move the needle in what way for that title.

We've been able to demonstrate that we almost surgically target that group of consumers, come in with a compelling proposition.

It might be aimed at driving reservations.

It might be aimed at driving pickup.

It might be aimed at driving a trade-off for an advance which increases total sales.

There's a number of different things that we've done, and we've done those very successfully.

So we're experiencing very, very strong interest from the publisher community.

And I think you saw some of that with the EA partnership that was announced, leveraging our (multiple speakers)

One thing I was going to say about the relationship with our publishing partners is obviously with a weapon like PowerUp Rewards, we are very cognizant of having great offers that are very exclusive, and so our publishing partners have been very good at working with us to provide very compelling, exclusive offers using this stealthy tool that Paul often talks about.

Great.

That's helpful.

And then, just more of a housekeeping item.

Rob, you touched on the continued initiative spending.

I wanted to make sure that $26 million was still a good number for the year and that the second-quarter spend basically trended as expected.

The second-quarter spend was maybe a little lighter than we expected because of the -- part of the process of what we're trying to do, especially when you look at a Spawn or an Impulse, is bring the people onto the teams necessary to get the technologies in place and where we want them to be.

And that hiring has lagged our expectations a little bit.

And so for that reason, I don't know that we necessarily catch up with that in the back half of the year.

So, we'll probably come in a little bit lighter, that $26 million.

But as I said, we expect it to be $0.03 in the third quarter.

Mike Olson, Piper Jaffray.

Just more specifically on the fiscal-year guidance, it seems to imply high single-digit comp in the January quarter.

And I realize that the release schedule improves materially in Q4, but can you just talk more specifically?

Is there something beyond the title lineup that gives you optimism there, in that comp-store sales in the high single digits, or is that really the majority of it?

I think the optimism -- this is Rob -- stems from the confidence we have in that title lineup.

Also keep in mind, Mike, if you followed this last year, you know that we made a decision to accelerate the rollout of PowerUp Rewards.

And that was -- it was a tough call, really, for us, but what we saw at holiday is that we gained share.

We're going now -- a full year later, we're going into holiday with millions more PowerUp members than we've had in the past, which, coupled with our extraordinary merchandising ability to drive reserves and so forth, is part of what you see with our optimism around the back half.

And then just, as far as store count, can you separate store count by U.S.

and international at the end of the July quarter?

And just taking that one step further, any thoughts you can give us on store count for this year and next year?

Should we anticipate that between openings and closings, it's a net zero store change in 2011 and 2012?

Let me start it off, and then I'll let Rob give you the exact numbers.

We've said, going back to -- it might've been -- I think it was a Credit Suisse event back in January, we said we were targeting net zero square footage in the United States and opportunistic growth overseas.

In the U.S., we've talked about 200 openings, 200 closings.

That's still our target.

I think that's a good model.

As far as 2012, I think the net zero footage is a good model.

We will wait and see what it looks like after holiday, but that's -- our goal is to drive more and more productivity out of the existing store base and be opportunistic about where we enter, based on our consumer data.

Rob, do you want to give detailed numbers?

Yes, there were 4,440 stores in the U.S.

The rest, obviously, were international.

Edward Williams, BMO Capital Markets.

Just a couple quick questions.

Can you comment a little bit about the DLC attach rates?

How they -- really, what are we looking at for games that actually have downloadable content available at the time of the packaged-goods sale?

And also, how does that compare to the used product?

And then, looking at it on the international side, can you talk about how DLC in the U.S.

compares to what you're experiencing in international sales?

Let me -- thanks, Ed.

Let me start us off with a comment, and then Tony will cover the attach rate, and then Mike Mauler can give us his perspective on DLC growth.

One comment on DLC, guys, is that if you remember back in the -- after the end of the year, we made a comment in one of these calls that said we were introducing Mom and Dad to DLC, and what we're trying to say with that is is we have an ability to broaden the consumer base, based on our relationships.

Tony pointed out some great data, that 50% of DLC buyers are people who have never bought DLC before.

We see that dynamic playing out in category after category -- PC download, casual gaming, mobile gaming, et cetera.

So, Tony, do you want to share some of the attach data?

Sure.

We don't provide specific rates on the test data, but as we mentioned a couple of times through this, the attach rate is very similar between a new product that is sold and then a used product that is sold as well.

So we have a very similar attach rate of DLC, so it is impacting both of our businesses.

One of the things that we have seen that has really driven attach rates significantly higher, though, is our ability to presell DLC.

So, a customer comes in in advance of the DLC being launched, they are actually able to pay -- they actually pay for the full amount of that DLC, so it really is a guaranteed sale that we then deliver digitally to their digital locker, like we talked about.

So that is significantly increasing our attach rate, not only on the new side of the business, but also on the used side of the business.

And like we talked about earlier, DLC is also driving the sale of product because 50% of our tickets with DLC also have a physical good attach to them.

So, it's working in both ways.

I'll turn it over to Mike for the second part of the question.

For DLC internationally, we have been working with Microsoft.

We launched a test in France, and the results were very comparable to the U.S.

We're now working with Microsoft to solve the very complex tax and VAT issues of rolling this out across Europe.

We're also in the process of developing a plan with Sony, which we'll see in the near future.

One thing to add to that, too, is Mike and I were recently in France at Micromania, and the interesting part, particularly the French market, is it's a highly networked, high rich broadband kind of country.

A lot of population density.

So, the broadband characteristics are maybe even more favorable than the U.S.

for download, yet we are clearly ahead of really even the publishers on DLC.

So we have a lot of optimism around that business growing there, but it's still very early, much earlier than the U.S.

Just another quick question for Mike on the international market.

Can you talk a little bit about how the used games business is performing as a percentage of, say, looking at the corporate average?

Where are you now internationally and what's the growth rate like there?

That's a good question.

As we've talked about in the past, we've really focused a lot over the last year on rolling out the best practices from the U.S., such as the proprietary pricing model, refurbishment, and some of our other key processes.

And during the quarter, international used growth was in the high single digits.

I don't have the exact number in front of me.

Hold on just one second (inaudible).

So, it was in the high single digits during the quarter, and margin rates increased 200 basis points versus prior year.

So we're pleased with the results, and I think the benefits that we're seeing from these best practices seem to be accelerating in several key markets.

David Magee, SunTrust Robinson Humphrey.

Is it possible at this point to get a good sense for the size and the growth rate of the DLC marketplace out there in total, and then obviously to see what your market share is doing over time?

Let me start that one off.

Tony may have some thoughts on market share.

The size of the DLC, we probably don't have anything we want to change from the investor day forecast that we showed you.

Having said that, we see a lot of excitement around DLC with publishers as they learn that we can presell, launch it, fulfill it through digital lockers, as Mike Hogan's team works with them on marketing.

I would say DLC is probably the closest adjacent business for us digitally.

There's a lot of excitement on it.

Tony, do you want to talk about market share?

Sure.

As we talked about -- just to reiterate your point, as we talked about, it's slated to be a $6.2 billion market globally by 2014, so there's a lot of growth rate.

We talked about it being a 24% CAGR at the investor conference that we had in April.

In terms of market share, we don't provide market share at that granular of a level.

Clearly, it's increasing as we are outpacing -- significantly outpacing the growth of the industry for DLC and actually driving the growth of DLC, so we're -- we believe that we are -- that we have a very strong increase in market share.

I will say, though, that there are not a lot of good metrics for determining market share on DLC in the marketplace today.

So, it's very difficult for us to say with a lot of certainty exactly what our market share is.

But it sounds like that, generally speaking and directionally, you feel like it may be a bigger market than you would have thought even back at the analyst day.

I'd say that we -- the recent information that we got, we knew that we were going to drive the market when we entered it.

The fact that 50% of the people that buy DLC from GameStop had never purchased DLC before actually exceeded our expectations.

So we think that we will have a very dramatic impact and may actually drive even faster than what we anticipated at the investor day.

The thing that has surprised us, David, is the value of trade credits paying for DLC.

In other words, you're paying for digital content with old games and the high value people put on PowerUp points.

Those are two new factors now that we've got to put into our thinking.

Right.

We knew the associate knowledge would be there, but the PowerUp Rewards piece has been very fulfilling.

But you know, not to put words in your mouth, but despite the success of DLC as a sector and you all within that, you haven't changed your thinking regarding the viability of mainstream downloading of big titles in the future?

The timeline there, I would guess, would be sort of unchanged.

No, we have not.

You know, I think what's different, David, for us is we still -- our market model still doesn't show the kind of broadband adoption that would facilitate consumer full-game downloads beyond just sort of a leading edge.

Having said that, we're prepared to sell full games.

You know, our PC download business now, we're merchandising Deus Ex in-store and we're doing some things.

We're prepared to sell and we think there is a great business there, if the technology would allow it, based on our in-store experience, trade credits, and multichannel approach, and PowerUps.

We have time for two more questions.

Next, we'll hear from Tony Wible, Janney.

I was hoping you can update me on the Spawn Labs, the pricing that you might be contemplating.

And then on the hardware side, can we get a sense for timeframe from when we might start to see some of the refurbished tablet products showing up?

And also, there's a lot of stuff happening on the hardware side.

You've had the price cuts from the older systems.

You have some new systems coming out.

I was hoping you might be able to just give us a sense for what your expectations are as we kind of see those things flow through this quarter and into next year.

Let me start us off, and then I'll ask Tony, maybe, to talk about Spawn.

I think it's early on Spawn pricing.

Obviously, we have an internal market model and we've got some sensitivity work that needs to be done, et cetera, but nothing, I don't think, we'd want to share.

As far as the Spawn progress, Tony, do you want to update them on that?

Sure.

Like I shared, we did just start our first beta and we are testing -- we have done some consumer testing on pricing algorithms, but as Paul said, it's too early to really share where our pricing is going to be on that.

Clearly, as we came out, there's a couple of models that we're looking at.

One is try before you buy, then a potential extension service of our -- of games that are purchased at GameStop, so there's a very pro-console way.

But we have the closed beta we're going through, then we have the open beta that will happen later on this quarter, and we will most likely announce pricing in the first half of 2012.

On the hardware side, like I shared earlier, we have seen a significant acceleration in the sale of PS3 and the 3DS.

So, we do expect for there to be an increase, although these were not unexpected price decreases that we had or price reductions that we had -- we had projected some of these.

Obviously, the 3DS was somewhat larger than what we had anticipated.

But we do see that that will spark demand in the third and fourth quarter for these.

And in terms of the new units that have been announced so far, we really don't see that having a large impact, obviously, this year.

Tony, one thing that's interesting is, you know, you heard Rob talk about the digital margin dollar growth.

We're learning about how these digital margin dollars are contributing incrementally to our profitability.

As we look at pricing around Spawn, that's one of the things we've got to model a couple of different ways because the digital measurement of digital profitability -- there's no inventory, yet there is incremental, there is some marketing costs.

We've got to understand that well.

One other point on the tablets, we have been pretty happy with our i-devices test here in Dallas, and we really don't want to say much more than that, but just -- we think that's attractive.

Once we see some flow of that, you'll see us move very aggressively with refurbishment around tablets, as well as all those other product lines.

You know, we're seeing a lot around the TV, and I guess it's my own belief that we're going to see kind of a smart revolution around the TV and maybe that's why Google is looking at Motorola.

I guess coming back to Spawn, even though it hasn't launched yet, should we expect at some point Spawn applications being embedded within a broader set of consumer electronic devices?

And do you have to have the product launch before you can have those discussions with some of the CE guys?

This is Tony.

Those conversations are taking place today.

Clearly, there is a whole cadre of services that GameStop can offer far beyond just Spawn, but Spawn is one of the services that we're talking with the CE players about leveraging their Internet connectivity.

And as we shared at investor day, the beauty of Spawn is it can take a very large assortment of games.

There's really no restriction as long as it's an Xbox 360 and a PS3 games.

But we're also experimenting with PC game delivery as well, but we can take that to any Internet-connected device, including TVs.

So clearly as part of our acquisition forethought, we anticipated being involved in smart TVs as well.

Tony, we're not trying to be coy.

The Spawn client can be installed on any smart device.

It's a software client.

We have seen, though -- you know, it's been said imitation is the most sincere form of flattery, so we're feeling very flattered lately in some of the things we're doing by our competitors, so probably don't want to say much more in that about Spawn.

Great.

Sounds exciting.

Thanks.

Gary Balter, Credit Suisse.

Good morning.

This is Seth.

Just a couple of quick questions on the used business.

The used growth this quarter was obviously very impressive.

Can you just elaborate on what's driving that acceleration?

Maybe how much was helped by weaker new sales in the quarter?

How much is being driven by some of the specific marketing efforts that you have in this category, and maybe some specific examples?

That would be great.

Seth, good morning.

We said back in -- you'll recall, back in April when we started this -- actually in January, we wanted to reposition that pre-owned business.

We took some very aggressive moves organizationally, as well as in-store visual merchandising and in the use of PowerUp.

One of the things, and I'm going to let Mike Hogan really give you some details, but one of the things we're trying to accomplish is PowerUp Rewards needs to be tightly integrated with the used business.

In fact, as we look at our businesses internally, we don't want to see any separation.

We don't want to see any light between the pre-owned business and PowerUp.

They need to be very tightly integrated.

And that's, I think, some of the effectiveness that Mike and his team are driving.

But, Mike, why don't you give him some of the examples?

Sure.

You know, I think Rob mentioned a couple of things earlier.

The first thing he mentioned was awareness in the merchandising.

We've done some pretty significant enhancements in store to really help consumers see the product, to romance the product, to make sure the space allocation is right; from an inventory perspective, to manage our out of stocks, things like that.

Also around delivering the value.

But as Paul mentioned, one of the big factors has been PowerUp, and I mentioned before, we can look at things like consumers' individual purchase behavior.

PowerUp members represent a very large percentage of our total preowned business, both on the trade side and on the sales side.

So, we have a much greater ability than we had in the past to understand those people's behavior.

Have you not participated in this category before?

If so, do you understand the value of it?

For those who do participate in it, making sure that they are aware of the value and the opportunities.

We've done some things around trade promotions.

We do these buy two, get one sales quarterly or so, and we've found that when we can take that message out to a very targeted group of PowerUp members, we get a very specific and almost instantaneous and measurable response.

So we think our ability to pinpoint market it has really helped a lot.

And actually, if you would activate your PowerUp Rewards card, you would actually have access to all of these offers.

We're watching you, Seth.

Okay, I think we're going to wrap up after that one.

Thank you very much for your support of GameStop.

As we close, I just want to reiterate that the strategy that you saw outlined in April at our investor day continues to be the strategy that we are focused on.

You can expect us to continue to make investments to grow these digital businesses.

As you see, they are contributing at an increasingly important rate.

You can expect that to continue, and we also have a lot of optimism around the back half in terms of our title count.

Thanks for your support of GameStop, and power to the players.

That does conclude today's conference call.

Thank you for your participation and have a nice day.