PolarityTE Inc (PTE) 2006 Q4 法說會逐字稿

Good day, ladies and gentlemen, and welcome to the Majesco Entertainment fourth quarter and fiscal year end 2006 earnings conference call. My name is Onika, and I will be the operator for today. At this time, all participants are in listen-only mode.

We will conduct a question and answer session towards the end of this conference. [OPERATOR INSTRUCTIONS]

As a reminder, this conference is being recorded for replay purposes. At this time, I would now like to turn the call over to Ms. Mary Magnani. Please proceed, ma'am.

Thank you, and thank you very much for joining us today, as management will provide an overview of Majesco's fourth quarter and year-end financial results. Before we get started, I will provide the Safe Harbor statements.

This conference call will contain forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995, Section 27A of the Securities Act of 1933 as amended, and Section 21E of the Securities Exchange Act of 1934, also as amended.

These forward-looking statements might be identified by reference to future periods or by the use of forward-looking terminology, such as may, will, intends, should, anticipate, estimate, or continue or the negatives thereof, other comparable terminology. The company's actual results could differ material from those anticipated in such forward-looking statements due to a variety of factors.

These factors include, but are not limited to, the demand for our products, timely development and release of our products, the availability to secure licenses to valuable entertainment properties on favorable terms, continued customer acceptance of the gaming platforms on which our products operate and our products -- competitive factors in the businesses in which we compete, fulfillment of orders preliminarily made by customers, the ability to attract and retain key personnel, adverse changes in the securities market, and the ability of and costs associated with sources of liquidity.

The company does not undertake and specifically disclaims any obligation to release publicly the results of any revisions that may be made to any forward-looking statement to reflect the occurrence of anticipated or unanticipated events or circumstances after the date of such statements.

To supplement the company's consolidated financial statements, presented in accordance with GAAP, Majesco uses non-GAAP measures of certain components of financial performance, including operating loss and net loss data, which are adjusted from results based on GAAP to exclude certain expenses.

These measurements should be considered in addition to results prepared in accordance with GAAP, but should not be considered a substitute for, or superior to, GAAP results. We have attached a reconciliation scheduled between our GAAP results and our non-GAAP results to our earnings press release, which also can be accessed on our website at majescoentertainment.com.

On our call today, we have Jesse Sutton, Majesco's president and interim Chief Executive Officer and John Gross, our Chief Financial Officer.

Jesse will handle the opening and introductions, John will review the financials and then Jesse will conclude with a summary and outlook. I will now turn the call over Jesse Sutton.

Jesse?

Thank you, Mary. Good afternoon and thank you for joining us today. I will open the call with some highlights of the year, as well as provide you with a strategic overview. Then John will provide the financial review for our fiscal fourth quarter and full year ending October 31st. I will conclude the call with some insight into what we expect for 2007.

Now, fiscal 2006, we made significant improvements to our financial results over last year. We increased net revenue to $66.7 million from $59.7 million in fiscal 2005, while transitioning out of the premium console business.

We significantly reduced our operating loss to $3 million, as compared to an operating loss of $70 million in 2005. We improved gross margins to 30% and we generated positive operating cash flow of $200,000 for fiscal 2006, as compared to a cash use of $55 million in 2005.

This dramatic improvement was a direct result of the company's change in strategy and our efforts to significantly reduce our development, marketing, and fixed costs.

While we still have a lot of work to do, it is readily apparent that our financial situation is much improved versus this time last year. Regarding our product strategy, we are taking great strides to transition our business away from big-budget video games to a more balanced product portfolio, comprised mainly of quality, easy-to-play, affordable games for the mass market.

In the first quarter of 2006, we shipped a few of the remaining big-budget video games we had in development. For the remainder of the year, however, our product line was mainly comprised of games with significantly lower development budgets. Specifically, during fiscal 2006, we published 13 games for the Nintendo DS, two games for the Nintendo Game Boy Advance, two games for the Sony Playstation 2, two games for the Microsoft Xbox and one PC game.

One of our highlight titles this year and an excellent example of the types of games we want to offer going forward is Cooking Mama for the Nintendo DS. Its intuitive use of the touch screen, appealing content, wide target audience, and consumer-friendly $19.99 price point made it a solid retail performer.

Another highlight for the year was JAWS Unleashed for the Playstation 2 and Microsoft Xbox and PC. Although this title was initiated prior to revising our strategy, it too is a good example of the types of games we'd like to bring to market in the future.

Its well-known license, unique game content, and appealing price point helped us to ship almost 600,000 units worldwide, since it first launched in May 2006. Other highlights include receiving two industry awards for Age of Empires, Age of Kings, for the Nintendo DS, including the Canadian Award for the Electronic and Animated Arts in the category of Best Design, and the British Academy of Film and Television Arts, BAFTA, game award for the best strategy game.

I should also note Cooking Mama received several industry honors, including Most Innovative DS design of E3 2006, from leading video game website IGN, and GameDaily's Nod award, which called Cooking Mama, a fun DS game that uses the stylus to near perfection.

And, lastly, as an initial step in pursuing opportunities in growing areas of digital entertainment, we signed digital distribution agreements with Macrovision's Trymedia Network, and Steam, the leading online platform for PC games, a symbol of our catalog titles, including Psychonauts, BloodRayne 1 and 2 and Advent Rising.

Now, I'd like to turn the call over to John, and he can take you through the financial review. John?

Thanks, Jesse, and good afternoon, everyone. I'm going to briefly cover our reported results for the quarter and year and add some color to the numbers. Then I will provide you with a quick review of our business model and clarify the components of our P&L and ongoing costs associated with our business. First, the results for the quarter ended October 31st.

Net revenue for the 2006 fourth quarter was $21.5 million, compared to $4.6 million reported for the same period last year. As Jesse said earlier, the improvement in revenue is related to our change in strategy and movement in some big budget titles from the fourth quarter of 2005 to the first quarter of 2006, such as Aeon Flux and Infected. Gross profit for the quarter was $4.3 million up from a loss of $4.6 million in the fourth quarter last year.

The total operating expenses for the quarter were $6.1 million, down from $29.8 million in the fourth quarter of last year. Operating expenses have several components, which I'll review now. Product research and development costs for the quarter were $0.7 million, down from $0.9 million in the same period last year.

Selling and marketing expenses decreased $2.4 million from -- decreased to $2.4 million from $6.6 million in 2005. G&A increased to $3.2 million in the fourth quarter of 2006, from $2 million in the same period of 2005.

The increase was primarily attributable to charges related to stock-based compensation and legal fees. Other expenses during the quarter were reported as $1 million, compared to $0.4 million in the same period last year. The operating loss was $1.9 million for the fourth quarter, versus an operating loss of $34.4 million for the same period one year ago, which included impairment charges of $20.2 million.

Included in the operating loss in 2006 for the quarter are $1.2 million in stock-based compensation. Non-GAAP operating loss for the 2006 quarter was $0.7 million, compared to non-GAAP operating loss of $34.3 million for the same period one year ago.

The net loss for the quarter was $2.9 million, or $0.13 per share, compared to a net loss of $34.2 million, or $1.54 per share, for the same period last year. The non-GAAP net loss for the 2006 quarter was $1.6 million, or $0.07 per share, compared to a non-GAAP net loss of $34.2 million, or $1.54 loss per share for the same period last year.

Now I will review our results for the year. Net revenue for the year increased to $66.7 million, compared to $59.7 million last year. Gross profit was $19.8 million, compared to a gross loss of $1.4 million last year.

Total operating expenses were $22.8 million for 2006, down from $68.8 million in 2005. Product research and development costs for the year decreased to $2.6 million from $3.4 million in 2005. For the year, selling and marketing expenses decreased to $10.9 million from $24.2 million a year ago. And G&A increased to $11.3 million in 2006 from $10.9 in 2005.

The increase was primarily attributable to charges related to stock-based compensation and higher legal fees. During the year ended October 31st, we recorded gains on settlements and other of $4.7 million, consisting of $1.5 million related to negotiated reductions in royalties for certain video and video game titles, $0.5 million gain on the rights of certain video game titles, and a $2.7 million gain on the settlement of accounts payable for legal, marketing, and development expenses for less than the invoiced amount.

The operating loss for the year was $3 million, as compared to a fiscal 2005 operating loss of $70.2 million. Included in the loss for 2006 are capitalized cost write-offs of $2.3 million. The loss for 2005 included capitalized cost write-offs of $26.3 million.

The 2006 non-GAAP operating loss was $0.7 million, compared to $68.8 million for 2005, and for the year we reported a net loss of $5.4 million, or $0.24 per share, which included a $2.2 million charge related to stock-based compensation and $200,000 related to the issuance of warrants.

This compared to a net loss of $72 million, or $3.48 per share, which included a $1.4 million non-cash stock-based compensation charge last year. The non-GAAP net loss for 2006 was $3.1 million, or $0.14 per share, compared to a non-GAAP net loss attributable to common shareholders of $70.6 million, or $3.41 per share for 2005.

And, finally, in 2006, we generated $200,000 in cash flow from operations, compared to an operating cash use of $55 million in 2005. The 2006 cash flow included a $9.1 million benefit from the sale of titles in development to other publishers.

This significant improvement in our results was primarily attributable to the company's strategy change, which substantially reduced development costs, significantly decreased marketing costs, and lowered our fixed costs. While our work is not finished, we've made good progress.

In addition to the items I've already described, we've made substantial progress in the health of our balance sheet, reducing current liabilities by $12.7 million, or almost 50%, to $13.3 million, which included a $7.5 million reduction in accounts payable and accrued expense, decreasing capitalized software development costs by $15.8 million from $17.3 million in 2005 to $1.5 million this year and improving the [factor] relationship by $8.2 million from a liability due to factor of $7 million to a receivable due from factor of $1.2 million.

As a reminder, due from factor is defined as total receivables less allowances and cash advances from our factor. We have also reduced inventories by almost 70% to $2.4 million.

Now I'd just like to cover a few points that investors should keep in mind when analyzing our business. Gross profit is the excess of net revenues over our product costs and the amortization of software development and license fees. Development costs and license fees are generally incurred upfront and amortized to the cost of sales.

The recovery of these costs and total gross profit is dependent upon reaching a certain sales volume, which varies by title. Value titles typically have a lower gross profit than premium titles, primarily due to their lower selling price. The products we're producing under our new strategy have a lower financial risk associated with the recovery of upfront development and license fees than the big-budget console titles of prior years.

Sales and marketing expenses include the fixed costs of all sales and marketing employees, including the rent and administrative costs of our European office, as well as variable costs for all for our marketing and promotional programs related to specific products. It also includes variable selling costs for items such as freight and broker fees.

Our G&A line includes non-marketing employee costs and the administrative costs of running our business. As I said before, this includes expenses related to stock-based compensation and higher legal costs related to our settlements.

In terms of fixed costs, we consider our fixed costs of running the businesses as all costs related to all employees, as well as traditional fixed items such as rent and professional fees, which exist before the first dollar of revenue. These costs are spread across general and administrative expenses and in the sales and marketing lines. We hope this proves to be helpful when analyzing our business.

We're proud of the hard work we did in 2006 towards getting Majesco better positioned from a financial standpoint. We're not there yet, but we believe we're on the right track.

While we still face uncertainties and significant challenges, we've improved the stability and predictability of our business and are heading towards profitability with a lower-risk model. We are aware that we have more work to do, but are encouraged by the progress we made in 2006. I will now turn the call back to Jesse.

Jesse?

Thanks, John. Looking to 2007, the core of our lineup will continue to include a variety of titles for a variety of systems and demographic targets. We will continue to support the increasingly popular Nintendo DS system. With an installed base of 9.1 million units as of December 2006, there are no signs that the popularity of this handheld is slowing down, we believe the Nintendo DS will be very popular with the mainstream gamers across a broad demographic.

We currently have several games in development for the DS, based on popular licenses that we believe will appeal to the mass market audience. Examples of these titles include New York Times Crossword, an interactive mystery featuring the world's most recognizable teen sleuth, Nancy Drew, and Cake Mania, a DS version of the hit casual online game.

We are also very excited about the possibilities around Nintendo's Wii console. With its appealing price point and unique play mechanics, this console seems to be attracting the mainstream gamer in our target market. According to the article in the New York Times on Friday, since the Wii's launch on November 19th, through December 31st, it has sold over 3 million consoles, putting it well on its way to its target of 6 million by March.

The Wii's mass appeal, combined with its relatively affordable development costs, fits within our strategy. As such, we now have three games in development for this system, including a follow-up to our highly successful Cooking Mama DS title, called Cooking Mama, Cook Off, Bust-A-Move Bash, based on the well-known puzzle franchise, and a third to-be-announced title targeted for a 2007 holiday release.

Moving forward, although we're predominantly focused on traditional game systems now, our ultimate strategic vision is to create quality, affordable, mass-market games that capitalize on trends and popular licenses that can be leveraged across leading digital entertainment outlets.

Turning to our financial guidance for 2007, as we have said many times, during fiscal 2006, we shifted our strategy from spending millions of dollars on premium games to developing games and related products that are priced more affordably, appeal to a broad audience, and cost a fraction of what we were previously spending on development.

However, when we decided to make this shift in the strategy, we had already invested resources in the development of several of what we call premium titles. At that time, we sold the rights to some of the titles we had in development, canceled some, and moved forward with completing others that were farther along on the development process.

Some of those titles, such as Aeon Flux and Infected, shipped in the first quarter of 2006. Therefore, a portion of the annual revenue we reported today includes revenue from those higher-priced games and our operating loss includes some of the expenses that went along with the development of those games.

2007, however, will be the first year that our revenue is derived almost entirely from products developed in line with our revised strategy.

We expect that 2007 annual results will be a better base from which to measure the company as we see ourselves going forward, a company with a focus on maximizing our return on investment. We are optimistic about 2007 and will continue to execute our new strategy of publishing affordable, mass-market games with relatively short development cycles and low development costs.

Based solely on our current release schedules, we expect fiscal 2007 annual revenue to decline approximately 10% compared to fiscal 2006 revenue, with the fourth quarter being the strongest.

Of course, as many of you know, it is not unusual in this business to have some slippage in development milestones and therefore some shipment dates might shift. In addition, we have limited visibility into our international sales distribution agreement at this time, and therefore our current 2007 net revenue outlook includes minimum contribution from international sales.

That said, we also believe we can benefit from our ability to turn around product in as little as three to six months. There is also the possibility of picking up finished games, as for example, in the case of Cooking Mama in 2006.

So, with nearly nine months remaining in the year, we will of course continue to pursue additional [buyings], as well as other low-risk digital entertainment growth opportunities to augment our 2007 product lineup and forecasted revenues.

We will update you each quarter on material changes in our product schedule or expectations for the year. In conclusion, our focus is on running a more profitable business. Our current strategy allows us to better control spending and take on less risk. For 2007, we expect to achieve higher gross margins and move towards profitability.

I will now turn the call over to the operator for questions. Operator?

Thank you. [OPERATOR INSTRUCTIONS]

Your first question comes from the line of Mike Hickey with Janco. Please proceed.

Hey, guys. Can you talk a little bit more about your guidance for '07? Obviously, you're going to see a reduction in top line by 10 to 15%, but when you say move towards profitability, does that mean that we're not going to get there maybe next year based on higher revenues? And then in Q1, obviously, that's almost in the books for you as January 29, can we have any directional guidance on that quarter?

Mike, this is John. As we've said, we're not going to provide profit guidance for 2007. Having said that, we did indicate that we believe our margins are going to improve on an annual basis based on the type of games that we're making. In addition, we're also not providing quarterly guidance, largely because of the volatility of the historical aspect of titles moving from one quarter to another.

Okay. How many SKUs do you guys expect to devote to the Wii and the NDS for fiscal '07?

I'm sorry, I didn't hear.

How many SKUs do you expect to devote to the Wii and the NDS platform for fiscal '07?

Well, we've currently announced three Wii titles, and approximately five DS that we've announced so far.

Okay, and then can you go over really quickly the [depth] cost that would be associated with a Wii game on the value side? Is it $500,000, is it $1million to development for that sort of game?

You said a Wii game on the value side. In terms of the Wii games, we would basically target cost anywhere between a $0.25 million to $0.5 million to around $1 million. I mean, obviously, in any particular case, it could be a little more or a little less.

Okay. And then for fiscal '07, what do you expect will be your top-selling titles?

At this time, we're not giving guidance on that kind of specific information.

Okay. Thanks.

You're welcome.

[OPERATOR INSTRUCTIONS]

Your next question comes from the line of John Taylor with Arcadia. Please proceed.

Hi, I've got a couple of questions for you. John, you broached the subject of fixed costs, so I wonder if you could go into that a little bit more and kind of give us a sense of what the human costs are on a quarterly basis and overhead, that sort of thing, so that we can kind of back into a breakeven number.

Again, John, at this point, we're not giving guidance to that level of specificity. We're trying to work along the way to help you with the model, but we're not at the point where we're giving guidance to that of specificity?

Could we get a headcount number, then, to maybe help us with that?

The headcount is 70 people. And that includes six people in our U.K. office.

Okay, good, and so just to make this clear, the revenue guidance you're giving assumes almost no international business. It assumes the three plus five that you talked about in terms of new releases and it does not include, at this point, anything that you may have in the works or pick up at a later date.

It does not include anything that we haven't picked up yet and might pick up at a later date. That's correct. I think all of your statements are correct.

Yes, okay. To switch to a balance sheet question, so based on where your financial resources are in borrowing capacity, et cetera, can you give us a sense of kind of what level of business you might be able to support revenue wise, run-rate wise, on your current balance sheet?

Well, at this point I would say that we feel that we're able to support the business that we've projected on the basis of the cash and the availability with our factor and the resources that we have now.

Obviously, if the business grows beyond that, there could be a situation where, depending on the timing of that, you'd have to seek additional availability.

Okay, but as far as your sort of 12-month guidance goes right now, you're feeling like you've got the financial flexibility to handle that?

Yes, we believe we have the cash to support our plan for at least the next 12 months, correct.

Okay, all right, great. And then I wonder if you could talk a little bit about reserve levels and accruals for markdowns and stuff like that, specifically in the fourth quarter, kind of what you took and where your reserves stand now against gross receivables? Thanks.

Just from a general practice point of view, we look at the reserve not only in the sense of the quarter, but also we evaluate the total adequacy of the reserve for all of our products during the year. In the quarter, what we do is we first look at it and we have a different reserve level depending on the type of product it is, with typically higher percentages for the higher-priced products and the lower percentages that basically ratchets its way down as the price of the products goes down.

In addition to that, we then look at the retail inventory and make an evaluation with our senior sales people as to what, if any, actions might be needed to be taken in the future to move that product out.

So, specifically to Q4, can you give us a sense of kind of what you accrued for in the quarter and what the reserve stands at at the end of the fiscal?

Yes, we accrued $1.6 million in the fourth quarter and the allowance stands at $4 million at the end of the quarter.

Okay, great. Thank you.

Your next question comes from the line of Eric Gerster with SAC Capital. Please proceed.

Yes, hi, guys. Just a question on the international business. Your partner there is who, again?

DHQ.

Okay, and how does that work? I mean, you have six people in the U.K., basically managing that part of the relationship? Is that how that's working?

That's exactly it. We have six people that manage that distribution relationship. They focus on the marketing efforts of [TSU] through their distribution pipelines in the different territories, and along with TSU, we have some smaller distribution agreements with some other smaller distributors in different territories, as well.

But, essentially, it's based on -- it's done on an annual basis and we're revisiting that now. We're revisiting our international distribution relationships now that we [see].

And should we expect that all that the titles that you will have in North America this year, they'll all be launched internationally, as well?

Some titles, for example, Cooking Mama Wii, we have U.S. rights for, not European rights for.

Okay, and you mentioned that you felt like you had the cash to support the business now, but it certainly seems like talking to some of the retailers out there that you have some games that they'd like to get more of if they could. And I'm just wondering, do you feel like your level of cash is constraining you from producing enough product to meet demand?

At this point, I don't believe that our cash and availability is restricting us from meeting demand, no.

Okay, thanks.

Your next question is a follow-up question from the line of Mike Hickey with Janco. Please proceed.

Thanks. Are you guys still -- Jesse, are you still looking for a new CEO or are you just going to maintain that role for a while, or what are your plans there?

This is a board decision, not a management decision, so that's something that's out of our control.

So, can you update us on the interview process? Have you gotten candidates?

Right now, like I said, that's a board decision, and it's not a management decision. And, as a result, my focus is purely on executing our 2007 plan and that will play out over time. There's been no direction from the board as to any eventual changes that will be made.

Great, thanks.

Your next question is a follow-up question from the line of John Taylor, with Arcadia. Please proceed.

Hi, okay, got a couple more here. If you look at the fiscal 2006 revenues, could you break those down into baskets for us that would reflect kind of the new strategy, stuff that you were transitioning out of from the old strategy and what you might call contract revenues or other just sort of non-publishing, but other stuff you've got going on?

And I understand the old is going to kind of go away, the new is going to hopefully grow and I wonder what's going to happen to that other category. Are you going to continue to pursue those kinds of things?

I apologize, could you repeat some of that question?

Yes, I'm looking for a 2006 revenue breakdown by sort of the new strategy, which is low price value, low risk kind of thing, old revenues, which would be Aeon Flux and other things that sort of, where you're still working your way out of, and then contract manufacture, other, whatever else, plug and play, whatever else might be in and out of the category. And what are you going to do with that other category as you move forward? Is that still going to be a management focus?

We're still going to opportunistically work on that category regarding contract manufacturing of product. We think that we have a unique capability of doing it well and we have some excellent relationships to try to capitalize on that.

However, it's more right now that we recognize it as an incremental part of the business, as opposed to the main aspect of our revenues going forward. As far as the makeup of 2006, according to your question, John, do you want to address that?

Sure. We're not giving specific guidance in terms of exact dollars, but what I would say is that obviously we did Aeon Flux and Infected in the first quarter of last year and, as we've said, we think this 2007 year is the first period that's really pretty much clean of that. And I would say that each quarter more or less there was progressively less product related to the old business.

But that's not something -- I mean, we're looking backwards here. That's not something you want to sort of help us understand so we know not to build on that as we're thinking about kind of new revenue generation potential?

At this time, we're not going to be giving guidance and explaining breakdown.

Okay, well, that's not really guidance. That's sort of more history, but -- yes.

Mike, it's really a factor of we don't really disclose the title-by-title performance in terms of dollars.

No, but it would be helpful. We're all trying to get a sense of kind of what the healthy part of the business looks like, and that definitely is left in the operating room and it would be helpful kind of to know what that is.

Well, I think you could say that without those things, if you subtract those things from 2006, that the 2007 year would be a growth year, and we'll work on improving our communication on that over time.

Okay, that's helpful. And then, with the new business model, focusing on value, low risk, et cetera. I mean, is there a sort of best-case scenario of an operating margin goal, or is there something that you're kind of driving to? Is there a range, a minimum that you might be able to get to over several years of successful execution on the new strategy?

I guess what I'm looking for is do we have a shot at low doubles, or do we max out at high singles or can you give us a sense of what might be possible?

Sure. One clarification I would make is we're not just doing value titles. We're doing handheld titles, some of which are priced above what we refer to as the value price range. So I want to be very clear that this is not just strictly a low-price exercise.

Having said that, I believe our margins for the year last year came out at around 30%, and I think in our comments that we made earlier in terms of insights into next year, we do believe those margins, the gross margins, are going to improve. And I think over time we'd look to continue that.

In terms of a specific number, we'd rather not give that level of guidance at this point. But we definitely expect it to be improving?

Okay, thank you.

At this time, there are no questions in queue. I would now like to turn the call back over to Jesse Sutton for closing remarks.

Thanks again for joining us today, and we look forward to speaking with you on our first quarter conference call in March.

Ladies and gentlemen, this concludes the presentation. You may now disconnect. Thank you, and have a good day.