Take-Two Interactive Software Inc (TTWO) 2002 Q4 法說會逐字稿

Good morning, ladies and gentlemen, and welcome to the Take-Two Interactive year end financial results conference call.

At this time, all participants are in a listen-only mode.

A brief question and answer session will follow the formal presentation.

If anyone should require operator assistance during the conference, please press star 0 on our telephone keypad.

As a reminder, this conference is being recorded.

I would now like to turn the conference over to your host, Miss Cindy Buckwalter, Vice President of Finance for Take-Two Interactive.

Thank you, Miss Buckwalter you may begin.

Thank you.

Good morning, ladies and gentlemen.

Welcome to the conference call for Take-Two Interactive's fourth quarter and fiscal year end 2002 and thank you for joining us this morning.

You should all have a copy of our press release, which was distributed earlier this morning.

If you have not received a copy, please call Wolf Axelrod at 212-370-4500 to request a copy

I would first like to quickly review our Safe-Harbor statement by reminding everyone that the statements made during this call that are not historical facts are considered forward-looking statements under federal securities laws.

These forward-looking statements are based on the beliefs of our management as well as assumptions made by and information currently available to us at this time.

Actual operating results may vary significantly from these forward-looking statements based on a variety of factors.

These important factors are described in our filings with the SEC, including our annual report on form 10-K as amended for the fiscal year ended October 31, 2001, and our form 10-Q, for the third quarter ended July 31, 2002.

We have no obligation to update such forward-looking statements.

Before we begin the call, I would also like to mention that our current relationship with the SEC precludes us from discussing and answering questions regarding the status of the SEC investigation beyond what is disclosed in our SEC filings.

Today's call will consist of a presentation by our management team followed by a question and answer period.

With us today from Take-Two are Kelly Sumner, our CEO, Paul Eibeler, our President and Karl Winters, our CFO.

At this time, I'm pleased to introduce Kelly Sumner.

Kelly?

Thank you, Cindy, and good morning.

Thank you for joining us for Take-Two's fiscal 2002 fourth quarter and year end conference call.

As you can see from our earnings release, we've had a terrific fourth quarter, capping a great year.

Our progress seen on a number of fronts, the performance of our products in the marketplace, the growth of our revenue, earnings and cash generation, and a further strengthening of our balance sheet.

We're pleased with our accomplishments in fiscal 2002, and we're particularly proud of our successful efforts to build Take-Two for the future.

Before we go into detail on the financial results, let me review some of the more significant strategic actions of the past year.

First, let me talk about our products.

Clearly, great products and development resources are the foundations of a successful entertainment software company.

We completed a number of initiatives in 2002 to expand Take-Two's internal development capacity, and strengthen control of our intellectual property.

We acquired the ownership of the Metropane brand enhancing our ability to profit from the continued development of the $100 million franchise.

We strengthened Rockstar's internal development resources, by acquiring Angel Studios which created [INAUDIBLE] Midnight Club, and Smuggler's Run.

We also purchased Barking Dog Studios.

A group known for it's expertise in developing military action games.

This brings our internal development stock to approximately 435 people.

We launched Gotham games.

A new publishing label to expand our capabilities in making products that appeal to a wide range of consumers.

Gotham joins Rockstar and the Gathering as one of our three recognized global publishing labels.

During the year, we introduced several successful new brands, including State of Emergency, Mafia, and Conflict Desert Storm.

We have product extensions planned for each of these brands for fiscal 2003.

And clearly, we had a tremendous success with Grand Theft Auto franchise this year.

We shipped Grand Theft Auto 3 for the PlayStation 2 at the end of fiscal 2001.

And saw the product quickly gain incredible momentum in fiscal 2002.

By year end, we had sold about 8 million units worldwide making it the best-selling console game in North America and Europe.

Grand Theft Auto Vice City shipped domestically in late October and internationally in early November and is already off to a very strong start.

Looking forward, we feel very good about our product pipeline.

We currently have over 70 products in development, based on the combination of existing and new brands.

Over 25 of the products in development are Rockstar titles, which consist of eight different brands.

We are particularly excited about the introduction of two new Rockstar brands in 2003.

The Warriors, a brand we have code named Project Manhunt.

Paul will provide more details on other products in development later in the call.

We have also made important investments in Take-Two's future by building a strong management team.

As we previously announced, Jeffrey Lapin joins the company next month as Chief Executive Officer.

He's highly experienced both in interactive entertainment business and other industries.

And he's known for his product development, business development, and licensing expertise.

We have also recently announced the appointment of Richard Rodell to our board.

Richard is the former Chairman and CEO of BDO [CYBURN].

He's considered a financial expert under the new corporate governance rules and will serve as the head of our audit committee.

His appointment along with the addition of two other new board members this year complete the significant improvements we have made in expanding our financial management team and strengthened our internal controls.

To summarize, Take-Two has had an extremely successful year as measured by sales, earnings, and cash flow generations.

This is a direct result of our stong performance of our products.

What is especially important is that we're taking advantage of our success to strengthen and position the company for future growth.

I'm excited about Take-Two's prospects, I look forward to working with you in my new capacity heading our global PC publishing operations.

Now, I will turn the call over to Karl Winters, our CFO, who will review our financial results with you in more detail.

Thanks, Kelly, and good morning.

Net sales for the fourth quarter were $218 million, an increase of 79% compared to $122 million a year ago.

Net income for the quarter was $22.3 million, or 54 cents per share compared to a net loss of $4.7 million, or 13 cents per share in the fourth quarter of 2001.

Vice City contributed approximately 28% of our total revenue for the quarter with GTA 3 for PlayStation 2 and PC contributing 12%.

Our other top products for the quarter were Mafia, Stronghold Crusader, and Conflict Desert Storm, which combined represented about 17% of revenues for the quarter.

Our gross profit margin for the quarter was 38% compared to about 22% in the prior year.

The increase margin was due to the more profitable mix of publishing, versus distribution business this year.

In the fourth quarter of 2002, our publishing business represented 72% of our total revenue, with distribution contributing the remaining 28%, compared to 56% publishing and 44% distribution in the fourth quarter of 2001.

We also benefited from the more significant contribution of revenue from Grand Theft Auto titles during the quarter.

An internally-developed and owned franchise which results in better margins.

This was offset by the writedown of approximately $5.8 million of prepaid royalties.

Gross margin prior to the writedown was approximately 41%.

With regard to writedown's, we continue to exercise prudent view in light of the past and current industry experience for commercial success of a title.

We're very comfortable with our pipeline and future titles, and we will continue to apply a level of performance expectations as we deploy funds in developing new products.

Our gross margin is also influenced by the platform mix in our publishing business.

As we have seen throughout the year, our platform mix for the fourth quarter has changed significantly since last year.

Our product mix has shifted in favor of console products, which carry lower margins than PC products.

For the fourth quarter of fiscal 2002, the platform mix for our publishing business was approximately three-quarters console software and one-quarter PC products.

Last year's fourth quarter was two-thirds console software, and roughly one-third PC products.

Our operating expenses increased on a dollar basis to support our significantly expanded business, but decreased as a percentage of revenue to 20% from 29% last year.

As expected, R&D expenses increased through the acquisition of Barking Dog Studios in the fourth quarter, as well as general additional staffing in our development area.

Depreciation and amortization expenses increased year over year due primarily to increased amortization of intellectual property as well as increased depreciation related to the influentation of a new computer system.

Now, I will move on to the full year results.

Our operations resulted in net sales of $794 million, more than a 75% increase over net sales of $449 million for fiscal 2001.

Earnings per share of $1.81 compares to a net loss of 25 cents per share last year.

On a pro forma basis, earnings per share of $1.83 for fiscal 2002, compares to pro forma earnings per share of 42 cents for fiscal 2001.

The primary reason for the upside of fiscal 2002 revenue, and earnings per share relative to our guidance is due to the better than expected performance of our pushing business.

For the year, our publishing business represented 72% of our revenue, with distribution accounting for the remaining 28%, compared to 54% publishing and 46% distribution in fiscal 2001.

The increase in our publishing business is a percentage of total revenue compared to last year reflects a strong sell-through of our published products.

Our Grand Theft Auto franchise is the largest source of revenue for the year with approximately 41% of revenue coming from this brand.

TCA3, which launched at the very end of fiscal 2001 for PlayStation 2 and in May for PC, contributed approximately 33% of our total revenue for the year, with Vice City contributing about 8%.

We also experienced strong sell-through from other new products we shipped during this year, including Max Payne, State of Emergency, Mafia, Stronghold Crusader, and Conflict Desert Storm.

As well as the continued strength of our catalog titles.

The Sony PlayStation 2 rates its program, which is introduced this year has also been a significant contributor to our publishing operations.

Both Midnight Club and Smuggler's Run entered the PlayStation 2 [INAUDIBLE] in the third quarter.

These other top products combined represented approximately 20% of our revenue for fiscal 2002.

Our gross profit margin for fiscal 2002 was 37.3%, compared to 31.8% last year.

The improved margin was due to the more profitable mix of publishing, versus distribution business this year as discussed earlier.

In addition, our publishing platform mix year-over-year has changed significantly.

For fiscal 2002, the platform mix for our publishing business was in excess of 80% for console software, about 15% from PC products and 5% from accessories and handheld products, compared to 57% console software, 36% PC products, and 7% accessories and handheld products in 2001.

Gross margin prior to the impact of writedowns was approximately 39% for the year.

Total operating expenses increased on a dollar basis year-over-year to support our increased revenue, but declined as a percentage of sales compared to last year.

General and administrative expenses have been running at a higher level earlier this year due principally to the additional expenses we incurred as a result of our forensic audit, accounting, legal and consulting fees related to our restatements.

But G&A expenses began to stabilize beginning in the third quarter.

Our selling and marketing expenses decreased as a percentage of revenue this year, but increased on a dollar basis from last year due to the growth of our business and the increased level of advertising and promotional support we provided for our new product launches and existing catalog titles.

Our R&D expenses increased significantly year-over-year due to the acquisition of Barking Dog Studios, the general expansion of our development staff, and additional compensation earlier this year for the developers of GTA 3.

We continue to operate on a cash flow positive basis.

Generating approximately $27 million in operating cash flow in comparison to positive cash flow of about $3 million during the fourth quarter of last year.

For the full year, we generated approximately $145 million in operating cash flow, compared to about $27 million in operating cash flow for fiscal 2001.

At the end of the quarter, we had approximately $108 million in cash with no borrowings under our lines of credit, as compared to $6 million in cash, and outstanding borrowings of about $54 million at the end of last year.

Now let's move to the balance sheet.

Net accounts receivable at the end of the year were approximately $108 million, compared to $95 million in receivables at the end of last year.

The fourth quarter receivable balance is higher than last year due to our expanded volume of business and the significant launch of Vice City in the final week of the quarter.

Our DSOs were 45 days in the fourth quarter, compared to 48 days in the third quarter, and 70 days in the fourth quarter of last year.

We expected that our DSOs will fluctuate going forward, primarily dependant upon the timing of our product release schedule.

Our accounts receivable reserve currently stands at about $28 million.

Representing approximately 20% of total receivables.

Our reserves on an absolute dollar basis increased slightly from last quarter and last year.

But decreases as a percentage of gross receivables, due to the strong sell-through of our products and the relatively modest markdowns and returns we have been experiencing.

We are very comfortable with our current reserve levels.

Inventories at the end of the quarter were approximately $74 million.

Up from about $62 million at the end of last year, and $50 million at the end of the third quarter.

Inventory levels at year end represent the amounts required for our peak holiday selling season, showing significant growth over last year.

Also, it's important to remember that the majority of our inventory related to our distribution business.

In addition, we had some inventory [INAUDIBLE] at year end -- because we launched the product last week in the quarter, and we were gearing up for the international launch in early November.

Turning now to our prepaid royalties and software development costs.

Our short and long-term prepaid royalties and capitalized software stood in the aggregate at about $36 million at the end of the year, representing over 70 products and development.

Approximately 50% of this balance is related to our proven brand franchise.

We expect to ship approximately 40 of the products in development during fiscal 2003.

The remaining products in development are expected to ship in fiscal 2004 or later.

I would like to speak briefly about some of the other events that have occurred since we last spoke to you.

As I mentioned on our third quarter call, earlier this year we brought in Deloitte and Touche as consultants to further review and assess the financial and operating procedures throughout our domestic organization.

They have completed this process and we've retained them to performance an internal audit function for us effective November 1, the start of our 2003 fiscal year.

Also during the quarter we hired a Chief Information Officer in the October.

Michael Ernst is a seasoned information technology executive, most recently serving as a senior information technology management consultant for Deloitte and Touche.

Moving on to guidance.

Our guidance for fiscal 2003 has been increased to $950 million in net revenue, and $2.20 in earnings per share.

Our guidance for the first quarter has also been increased to $355 million in net revenue, and $1.14 in earnings per share.

We're providing initial guidance for the second quarter ending April 30, of $190 million in net revenue, and 34 cents in earnings per share.

I would like to provide some additional insight into the general financial trends we expect to see in fiscal 2003.

Coming off our strong performance this year, we're pleased to provide guidance for next year that provides significant top- and bottom-line growth.

We believe we can modestly increase our gross profit margins beyond the 37.3% level we have achieved this year.

Second, we expect our operating expenses to range from just under 20% in high-sales volume period to approximately 30% during the seasonally slow months of the year and average out in the low 20% range for the entire year.

Within our operating expenses, G&A expenses increased due to acquisitions late in 2002, and expanded the administration due to the growth in our business.

The first quarter G&A expense will include year end bonus compensation, so you should expect to see our G&A expenses at somewhat higher levels in the first quarter compared to the rest of the year.

For sales and marketing, we will continue to support our current portfolio and investments supporting new launches at levels modestly higher than fiscal 2002.

Our first quarter sales and marketing levels will also be at a high for the year due primarily on the investment we're making on the Grand Theft Auto franchise as well as to support other recent product introductions.

R&D expense will increase due to the acquisition of Angel Studios in November, and the 125 new employees from that studio.

At current staffing levels, we expect R&D to run at about $7 million per quarter next year, exclusive of any bonus compensation.

Lastly, we expect our corporate tax rate to remain at current levels of about 41%.

In summary, we're pleased with our operating results for fiscal 2002 and our current financial position.

Our revenue increased 75%, and we realized a $97 million increase in operative income year over year.

Our operating margin of 15.5% for fiscal 2002 is among the highest of our peer group.

We generated record operating cash flow of approximately $145 million in fiscal 2002.

We have over $100 million in cash and no debt.

And we're projecting bottom-line growth of 20% for fiscal 2003.

At this point, I would like to turn the call over to Paul Eibeler, our President, who will review Take-Two's business for the quarter and year in more detail.

Paul?

Thank you, Karl.

Today I would like to review the product highlights for Q4, recap our progress in Q1, give you a quick update on the balance of fiscal '03 and review the drivers for '04.

Our Q4 was driven by several key brands for both PC and console.

The PC business was highlighted by the successful introduction of Mafia.

Mafia has brought the underworld crime scene to life with it's startling graphics and game play.

We look forward to extending this brand to the console market.

Complementing the introduction of Mafia was an extension of our strong hold franchise for PC, Stronghold Crusade.

Also, the PC version of Conflict Desert Storm shift as part of the multi-platform domestic release for this new brand.

Our PC business also included continued catalog sales from both our Tropico and stronghold products and PC extensions of GTA 3, and Max Payne.

Two PlayStation 1 value titles, Spec Ops Airborne Assault and Austin Powers Pinball shift in Q4.

Our console business for Q4 was highlighted by two new domestic releases as well as strong catalog sales.

In September, Conflict Desert Storm shift to the domestic market for both PS2, and Xbox.

This topical title received tremendous national exposure based on the actual allowing the game play allowing the gamer to play its part of an elite special forces squad behind enemy lines during the simulated Gulf War.

Highlighting the fourth quarter was the release of our wholly owned Grand Theft Auto Vice City.

Grand Theft Auto Vice City for PlayStation 2 was in stores domestically on October 29, and the response from the market was extremely positive.

The October MPD numbers showed 1.4 million in units sold in just five days, making this the number one title for October.

And the biggest next-generation console release ever.

The November MPD numbers tracked this title again as number one, outselling its nearest competitor approximately 3 to 1.

Our Rockstar team has developed a compelling product that has exceeded market expectations.

Grand Theft Auto Vice City is built on our proprietary Grand Theft Auto, go where you want, when you want engine.

Smuggler's Run War Zones for Game Cube shift in August as part of our strategy to expand our IP to other platforms.

Our first two products were the Sony's Greatest Hits Program, Midnight Club and Smuggler's Run, also contributed strong sales during the quarter.

Our Jack-of-all-Games distribution business continues to be a predictable component of our revenue model.

Our focus to the distribution business remains on bottom-line improvements.

Our growing varied customer base and strong product mix of hardware, software, and accessories are the keys for improved performance in all three.

Our inventory mix remains healthy as we prepare for our Q1 demand and peak holiday sales.

Moving forward to 2003, the revenue drivers for Q1 are comprised of domestic reorders of Grand Theft Auto Vice City.

The international shipment and reorders of Grand Theft Auto Vice City, which was launched internationally the first week of November and continued catalog sales of both console and PC products.

The international launch of Vice City in Q1 mirrored the domestic launch.

The sale as sales of this product exceeded our expectations.

In addition, we also move Max Payne to the PlayStation 2 Greatest Hits program in the first quarter.

The sales of the first three of our Greatest Hits products.

Midnight Club, Smuggler's Run, and Max Payne, now give us additional revenue drivers as the product lives of these brands are extended.

Now turning to Q2 releases.

We recently announced Midnight Club 2, the sequel to our successful PlayStation 2 launch brand Midnight Club.

The ship date for Midnight Club 2 is early February.

We also announced the extension of this brand to both PC and Xbox.

We are very excited about the sequel based on its strong consistent sales since its launch in October '01.

Midnight Club 2 will take to you to three new cities: Paris, Tokyo, and Los Angeles and 32 new vehicles including motorcycles.

This extension of our Midnight Club brand to PC and Xbox is another example of our ability to drive additional sales and use the other platforms for incremental revenue.

Also targeted for February is State of Emergency for Xbox.

We have added more game play in additional levels to take advantage of the Xbox technology.

We will also move our PlayStation 2 State of Emergency game to the Sony Greatest Hits program.

Our Q2 plans also include the launch of Viet Cong for PC.

Viet Cong combines lethal jungle warfare in a first-person action shooter.

Viet Cong challenges the gamer to fight as a member of the U.S.

Special Forces for honor and freedom in over 30 missions.

Based on the launch sales, we anticipate solid results as we bring Conflict Desert Storm to the Nintendo GameCube in the second quarter.

We will also continue to support a successful Tropico franchise for the PC with the sequel, Tropico 2, Pirate Cove.

Now, I am pleased to highlight our product plans for the second half of fiscal '03.

We will continue to introduce new brands, extend our existing brands and enjoy our growing catalog sales.

We look forward to the multi-platform release of Celebrity Death Match based on the popular MTV show.

Celebrity Death Match will combine humor with audio taunts and comedic game play.

For the domestic market, we will introduce a new product, the Great Escape for multiple platforms.

The Great Escape is based on the all-time classic hit movie that stars Steve McQueen.

Also planned for fiscal '03 is the sequel for Conflict Desert Storm, Conflict Desert Sabre, which will be available on multi-platforms for the domestic market.

Grand Theft Auto Vice City will be extended to the PC market.

Three additional PC sequels are also planned for 2003, Hidden and Dangerous 2, Railroad Tycoon 3, and Serious Sam 2.

Worldwide, like-to-date the sales on each of these three PC franchises are over 500,000 pieces.

As I stated earlier, Mafia will be extended from PC to both Xbox and PlayStation 2.

Additionally, for next year's holiday season in fiscal '03, our Rockstar game play is developing a wholly owned, internally-produced brand that has the working title Project Manhunt.

The early buzz is building as this game is developed by the same studio, Rockstar North in Edinborough Scotland that produced our Grand Theft Auto franchise.

We will give more update about the product in the next few months.

As we move to fiscal '04, the key product highlights again include extensions and new brands.

Our wholly-owned Max Payne franchise has produced over $100 million in retail sales.

The sequel, Max Payne 2, is one of the most anticipated products for next year.

Rockstar will also bring to market a new game based on the 1979 cult film "Warriors." "Warriors" has been developed internally by our Toronto studio.

This game combines graphics and game play to capture the gritty gang drama of this unique film property.

Additional '04 product sequels and extensions include Spec Ops, Viet Cong, State of Emergency, and Grand Theft Auto.

From any industry standpoint, there has been much discussion and different conclusions drawn from the overall MPD November numbers.

First, let me say it's important to note that the November '02 numbers cannot be easily compared to the November '01 numbers, due to the launch of Xbox and Game Cube in November '01.

However, in terms of specific supporting numbers for Take-Two, we are very pleased with the MPD industry numbers.

The November and year-to-date numbers provide support that our strategy is right on track.

As you are all aware, PlayStation 2 hardware sales are up significantly in both November and year-to-date comparisons.

We remain committed to Take-Two's publishing strategy built on supporting PlayStation 2 and using the other game systems to further extend our brands.

Our year-to-date market share as the number two PlayStation 2 publisher is 18%, and 11% of all consoles.

This leadership position on next generation consoles gives Take-Two the leverage for consistent future growth.

We would also note that pricing remains in tact for Triple-A titles.

The strength of our existing brands and proven abilities to create new brands is what makes Take-Two an exciting company.

We bring to market the strongest catalog of brands in Take-Two history.

For fiscal '02, we have 5 titles that sold over 1 million units in worldwide sales.

Additionally for fiscal '02,, we have 5 titles that sold over 500,000 in worldwide sales.

Now, we're ready to respond to your questions.

Due to the large number of participants and in an effort to respond to all of you, we request that each of you limit your question to one.

Thank you very much.

Thank you, at this time, we will be conducting a question-and-answer session.

If you would like to ask a question, please press star 1 on your telephone keypad.

To remove your question from the queue, please press star 2.

For participants using speaker equipment, it might be necessary to pick up your handset before pressing the star keys.

Our first question is from Mr.Tony Gikas with U.S.

Bancorp Piper Jaffray.

Good morning, guys, congratulations on a good quarter.

Thank you.

Looking at the product line, um, looking forward, could you just review the SKU plan for us as it breaks down between PC, PS2, and other platforms and then talk a little about, since, you know, you have had such great successes recently, cash positions have improved.

Are you going to pour, um, more money into research and development and what plans do you have for, um, moving into other genres or perhaps doing more games in the T and E rated categories.

Particularly with Jeffrey Lapin coming in and a lot of experience with doing younger titles.

Are there any plans to broaden the product line in those areas?

Was that one question, Tony?

Sorry about that.

That's a number of people.

Um, for the SKUs 2003, um, twelve PlayStation 2, eight PlayStation 1, five Xbox, three Game Boy, fourteen PC, and four GameCube.

And, Tony, this is Karl.

With regard to the R&D spending, I indicated would be about $7 million quarterly run rate.

That's up significantly from this past year and, um, I think as we've hinted or talked about quite bluntly that R&D is an area that we continue to dedicate resources towards and that we've expanded nicely this past year.

We certainly will be further on the lookout as we go forward as we have a number of things that we're working on, and you know, we would like to continue to further develop that pipeline.

And, Paul, maybe with regard to genres.

The whole focus of our Gotham game's group is to do more mass-related, mass-quality, or mass-demanded products.

We launched that label just several months ago.

You will see in 2003 and 2004, a lot of products being brought to market that, you know, don't have the mature rating.

I will remind you that although Grand Theft Auto 3 has had tremendous success, we have a lot of teen products that have done extremely well, such as Midnight Club, Smuggler's Run, et cetera, and our strong PC line with titles like Stronghold and Tropico.

Okay.

Thanks, guys.

Thank you.

Thanks, Tony.

Our next question is from Heath Terry with CS First Boston.

Sir, please state your question.

Um, I was wondering, one, a couple of points of clarification, um, the guidance for the quarter, I mean for next year is obviously going up significantly, and I'm sure it's due in large part to the confidence around, um, Vice City sales so far, but can you talk about, um, the assumptions that went into that for your non-Vice City business, as well as, um, maybe Karl just talking about, and I'm assuming, that um, Duke Nukem is not in these numbers.

But how conservative do you see the numbers being, as you look out to the rest of the year, and also, one point of confirmation, um, as I understand it, what you're saying, Paul is that fiscal '04 is when we will see the next version of Max Payne.

Will that be prior to the holiday season?

Will that be a holiday season launch?

Or do you just not know at this point?

Well, this is a multifaceted question.

In regards to Duke Nukem, you're right, it's not in the guidance. 3D Relms are working extremely hard, they have a 20-plus person team, and we remain consistent that when we feel 110% confident, um in the actual ship date of the product, about 90 days prior to the shipment will advise the market and start the whole, marketing muscle behind the product.

It still remains one of the most highly anticipated brands in the market place and we'll do it not just on PC but also on console.

I think with regard to guidance for the year, obviously we have been very pleased with our, you know, performance and we're, um, at this point, demonstrating the 20% growth from the bottom line, you know, year over year.

I think that's significant for the company and also for the industry.

Um, you know, with regard to the shorter-term expectations, obviously we're very pleased with the sales of a number of our franchises and the Grand Theft Auto franchise continues to perform very well.

So, we have increased it significantly, I think we'll keep a watchful eye on the further future but we're confident about '03 and what we see coming down the road.

You can -- you can, I guess, um, and -- you can just -- of the growth, how similar is the growth that you're expecting in total revenue next year, um, to the growth you're expecting in the Grand Theft Auto franchise year over year?

Grand Theft Auto franchise is obviously a significant contributor, I mean it was 40, 41% of '02, as you know, we typically don't get into specific product mix when we're looking into the future, but suffice it to say, we expect it to be a very significant contributor for '03, and um, we're very excited about how that franchise has performed.

Great, Max Payne 2, is that a holiday release or after?

Um, when we look at the back half of '03, you know, and it continues, we'll continue to support our strategy of establishing new brands and then taking the extensions and sequels, I just want to go back.

We have Celebrity Death Match, the Great Escape, Conflict Desert Sabre, we're moving Grand Theft Auto Vice to PC, we're doing three PC sequels, Hidden and Dangerous 2, Railroad Tycoon 3, Serious Sam 2.

We're taking Mafia to PlayStation 2 and Xbox, and we're introducing the new brand, Manhunt that has a lot of buzz.

Um, what I did say is that in '04, we'll have Max Payne 2, Warriors, and extensions for sequel and sequels for Spec Ops, Viet Cong, State of Emergency, and Grand Theft Auto.

At this time, we feel real strong about that release schedule but, um, that's as much information as we want to give out now.

We will give more information regarding the exact timing of the '04 dates as we get further in '03.

What we did do in 2002 was move products to make sure that we met our guidance projects.

I think you will continue to see us do that.

Sure.

Okay, thanks a lot.

Our next question comes from Richard Zimmerman with Commerce Capital Markets.

Sir, please state your question.

Congratulation on the nice quarter, guys.

Thanks, Richard.

You can talk about next year, what you think your mix of publishing and distribution will go to from this year?

And also, can you talk about what assumptions you're making regarding software pricing and hardware pricing, throughout the year?

The mix, you know, roughly for next year, Richard, we would expect, you know, to be similar to our year performance for this past year, about 70% publishing, and 30% distribution.

In terms of pricing, both Kelly and I have spoken to several retailers in the United States and Europe, and we feel and they feel strongly that Triple A titles will still command the $49.99 price point.

There will be some move on some mass titles that we have, and I'm sure all the other publishers have planned in their '03 numbers to the 39 price point.

But the big titles will still be at $49.99 and we feel we have several of them.

And hardware pricing?

I think, the next hardware, you know, pricing move will be the result of when those hardware companies review the Christmas sales and probably revolve around, um, decisions made in '03.

At any point, I mean it's hard to project, but any point do you think there will be any irrational behavior by some of your competition, competitors or even from the hardware manufactures giving some of the softness that they're seeing in their business?

I don't think irrational behavior, but I think that all three hardware companies are extremely strong financially, and they may get more aggressive promotionally to make sure they hold their market share.

Um, we're just very fortunate that the majority of our businesses is on the leader of PlayStation 2.

And that we used other two systems to extend the brands, and will give us incremental opportunities in 2003.

Great, thank you.

Our next question is from Shaun Miln with Soundview Technology Group.

Sir, please state your question.

Thank you, just a quick question, um, in terms of the guidance going forward, you guys took up the revenue guidance pretty significantly heading out next year and the earnings went up, revenue went up by about $120 million or so, and the earnings only went up about 20 cents, suggesting the pretty low margin on the extra dollar.

I just want to, at this point, you talked about R&D going up a bit, and G&A, if sales were to exceed the plan now, would a lot of those operating expenses then be fixed at the new level, um, i.e., would we see more revenue dollars drop to the bottom line if you guys keep chugging along on the top line?

Um, Shaun, obviously in terms of the variability of our operating expenses the sales and marketing line is perhaps the most variable, um, the rest of the spending, you know, we have given out a fair amount of concrete guidance this morning with regard to the fixed nature of some of the items.

Admittedly, you know, the sales and marketing we think is up sequentially a little bit year-over-year, but we think that is a smart strategy on our part to support, you know, the launches of our new products and the success that we have had with regard to our major franchises, I think demonstrates that thesis.

So we do expect to see, you know, some increased spending.

As I indicated, you know, the SG&A, and the low-end of the range would be 20 or under 20%, you know, at the highest level in our light seasonal period, approaching 30%.

The short answer to your question is certainly as we incur further revenue, um, a lot of that does flow, you know, toward the bottom line, and we'll have to see how the year progresses.

A quick follow-up, you indicated there was some of the bonus payments, year-end bonus payments would come in in the first quarter.

In your guidance for the full year, do you have your bonus payments for development related to Vice City in those numbers and how are those bonus payments related to the bonus payments paid out for Grand Theft Auto, GTA 3, thanks.

I think it's sufficient to say that we have certainly priced into our guidance, you know, all compensation elements and with with regard to the G&A amounts they indicated, since we're giving out a fair amount of precision, I just wanted to make sure we put you on notice that in the first quarter, we traditionally do have some amount of bonus compensation and expect to see a bump in the G&A area in Q1.

Okay, thank you.

Thank you.

Our next question comes from Stewart Halpern with RBC Capital Markets.

Sir, please state your question.

Um, thank you.

First, just for clarification.

When you talk about the pricing, stickiness on frontline titles, are you saying you would assume even through, you know, holiday season next year, you would expect, um, $49.99 still for frontline products and then, um, the question as opposed to the clarification is, um, imbedded into your numbers for next year, other than Vice City, would you be expecting any title to be doing greater than a million units?

I don't need the name of the title but --

In regards to Triple-A pricing, we think that certain titles like the Grand Theft Auto franchise will still hold at the 49 price point through next Christmas.

Okay.

And, um, yeah, clearly the quality of Vice, we're obviously trying to replicate the quality that we have already produced.

Will substantiate the high retail price and, yet, there are a number of titles out this year that will exceed a million units.

This year, we had five titles that exceeded one million units and the further five titles exceeded 500,000 units and we would expect that to carry forward to next year.

Great, thanks.

Thank you.

Your our next question is from Arvin Batia with SWS Securities.

Sir, you may ask your question.

Good morning guys and congratulations.

Thank you.

A couple of questions, Paul, you mentioned the November data was sort of an anomaly, and I think this might be a little bit of crystal ball gazing, but do you have any sense where the industry might, um, end up being in terms of growth for December.

November was 7% growth in software.

Would you care to share your opinion on what numbers for December might look like?

That's my first question.

Second, I don't know if you guys mentioned it, what are the life-to-date numbers for Vice City both domestically, um, and internationally?

Going to, um, the December numbers, um, what I felt and what we felt necessary to state, because there was some reaction and confusion over the November MPD data, is that our business is slightly different, some of our competitors.

The fact that we're really focused on the PlayStation 2, and we enjoyed strong sales based on their strong sales of hardware.

I talked to several retailers and they they feel very good about both hardware and software this past week, you know, going into the holiday season, and everyone also feels very, very bullish that the week after Christmas and January will be extremely strong.

Especially for software.

Um, so I don't want to attach, you know, numbers to it.

And what was the?

Grand Theft Auto numbers, Vice City numbers, life to date, um.

As you know, we don't, um, we don't -- we use MPD data and, um, at the moment, Paul gave you the October-November MPD data.

There is some data coming out of Europe at the moment, we show very, very strong sales but would like to give you more of an update in our next call.

And final question, um, you guys talked about the SKU breakdown by platform.

Yeah.

Can you break that down by percentage, PlayStation 2, um, with the -- was there any difference in trends?

Well, um, I can give you the overall breakdown, um, of products and development by SKU, the percentage. 34% of our development resources targeted the PlayStation 2, 26% is PC 15% on Xbox, 10% on PlayStation 1, 10% on GameCube, 5% on Game Boy.

I think that really shows you from where we go, where we were, where we're going, you know, we feel very strongly of PlayStation 2 is, um, the market leader, um, that's about 70, um, 70 plus SKUs, those percentages, and we also see a significant opportunity on PC, up, going forward, And I personally think that's's an opportunity for myself as well.

And we have used our PC business to extend those titles into the console and they, you know, as shown by Max Payne, has performed very, very well for us.

Sure.

Great, um, and again, congratulations on a fabulous quarter.

Thank you very much.

Our next question comes from, Paul [INAUDIBLE] with Starty and Company.

Sir, please state your question..

Good morning, with respect to Conflict Desert Sabre, is that going to be a co-published product, I assume?

It comes from the same stable as Conflict Desert Storm.

North America only?

North America, yeah.

Okay, are you guys looking at possibly, um, purchasing or acquiring that IP or -- .

We don't comment on potential acquisition on the call.

Um, but we're very, very happy with the way the Conflict Deseret Storm is performing, um, both in November and October had strong sales and it continues to see strong sales through Christmas.

Clearly, you know, been working on the past year, you know, our strategy of bringing in house our significant titles.

We have a watchful aye on our current lineup, and we'll continue to make investments in that arena as appropriate.

Can you give us an update on the Halo engine?

Of course.

For people who are not aware, part of the Halo engine is available to Take-Two.

We can use the Halo engine for two renditions of games on any platform.

We haven't used a Halo engine at the moment.

Basically, we're very, very busy on developing Max Payne, Grand Theft Auto, Project Manhunt, Warriors, et cetera.

We're reviewing the engine at the moment, um, it's not in our guidance but we would expect to use that in the future.

Okay, is that included at all in the 70 plus SKUs and development?

It's not, no.

Okay, thanks a lot.

Look forward to playing Manhunt, by the way. [ Laughter ]

So do we.

We look forward to you playing as well.

Thanks.

Our next question is from Joanna Makris with Adams, Harkness & Hill.

Please state your question.

Hi there, I'm wondering in your assumptions for fiscal year 2003, what percentage of revenue could new brands represent in 2003, and some comment on where you see new brands in 2004.

Thank you.

Um, obviously we're very, um, confident that the brands we're going introduce have, um, will meet successful introductions, such as Max Payne and State of Emergency and the Grand Theft Auto, et cetera, but, um, at present, we haven't detailed, um, that information.

I think with regard to our recent past, we have demonstrated that a number of our titles, if we had at least a half a dozen in the past year, contributing upwards toward 20% of our revenue mix.

The company has clearly demonstrated its ability to have a diversified portfolio and with the lifting, all of it done I think comprehensively this morning, we have very good expectations for the future.

Thank you.

Thank you.

Our next question is from Zach Gordon with Arcadia Investment Corp.

Sir, please state your question.

Hi, it's J.T.for Zach.

Good morning, I have a -- I have a couple of questions as well --

Zach, it's a little frightening.

You're starting to sound like J.T..

The operating margin of 15.5 in '02, um, you're suggesting that might go higher into '03.

You can give us -- I didn't hear, did you say that might have a shot at 20% this year?

No, we were talking about 20% at the bottom line of, you know, an admirable goal for something, you know, higher on the P&L.

Okay.

We clearly expect that the gross margin, we think can show some modest improvement as we continue to weight the business with internally-owned brands and, you know, I think generally, you know, we expect some modest improvement in the operating profit line as well over this past year.

Okay, so I guess what I'm getting at, I guess, is the benefit to being a PlayStation 2-only franchise was with Grand Theft Auto, um, do you think you have seen the bulk of the benefit, operating margin benefit of that, um, exclusivity in fiscal '02, or are we going to see most of it in '03?

There were a number of benefits.

With the, um, the -- actually exclusive, because we can still release the product on to Game Boy, and we can release it on PC as well, but it was not just -- it wasn't just a financial enhancement.

It was also a strategic relationship, you know, we're working very, very closely with Sony, we have done for sometime, we clearly believe that they're -- they have shown they are the market leaders, and you know, we're working closely in acquiring IP as you know, that we work with Sony music to produce the, um, music for Vice City, so it wasn't purely a marginal thing.

I would say that the exclusivity benefits really weigh equally with regard to GTA 3 versus Vice City.

It was a comprehensive agreement and reached forward to Vice City.

I guess what I'm getting at is there something is kind of equally influencing both years or is there no windfall coming in the current year, I guess, is what I'm getting at.

There is no lumpiness in terms of how the exclusivity behaves.

It's related to volume and as Kelly eluded, other benefits, by way of support and things like that from Sony, but it does weigh out equally.

Okay, and then last question, um, the, um, the GTA title you eluded too to in fiscal '04, is that likely to be another extension of GTA 3, or is that the long-awaited GTA 4?

At this time, we feel real good about what we did with Vice City, and we'll leave that up to our marketing people as to how they want to position it.

I don't think that whether it's four or whatever the name is really will affect it.

But the Rockstar group is just totally committed to delivering another extremely compelling game.

Using essentially the same engine?

We'd rather not comment and the reason we'd rather not comment at the moment is because all of our competitors are looking to us to see what we're doing, and we would rather not give them any lead or indication of where we're going.

Okay, thank you.

We do think that that underlying technology is tremendous, so you will see us build on it.

Okay.

Thank you very much.

Thank you.

Our next question comes from Edward Williams with Gerard Klauer Madison.

Sir, please state your question.

A couple quick questions for you.

Looking into the the January quarter, you can just comment about where we might see inventory at the end of the quarter and what cash flow might be like for the quarter in cash-flow operations and what the revenue mix might be on a geographic basis.

In no particular order, the cash flow expects to be positive.

We'll leave that right there for the moment.

Inventory levels we would expect to decline, you know, the exact magnitude of that, I think, would be a significant decline.

We're not going to get into specific numbers this morning, and that would be in keeping with, you know, the seasonal nature of the businesses.

We do move some inventory out in the month of January, with regard to post holiday purchases for people who bought hardware and they go out and buy further software.

On a geographic basis, Edward, we obviously expect the international business to do slightly more, um, as has been historically because we obviously launched Grand Theft Auto Vice in the first quarter, so all of their shipments, um, for Christmas are based in the first quarter, so the will do slightly more than they have been tracking, at least.

Okay, thanks.

Karl, can you refresh my memory, what did you generate in cash flow from operations last year in the first quarter?

Last year, Q1 --

I think it was short of, um, just north of $70 million.

Yeah.

Okay, great.

Thank you.

Our next question is from Gary Cooper with Banc of America Securities.

Sir, please state your question.

Hi, guys, a couple of questions, um, in the -- try to understand, um, SKU-release schedule for next holiday season.

I guess I would ask, is the next GTA game a potential to get out before December 25, 2003?

And along those same lines of Max Payne 2 and State of Emergency sequel and so forth, which of those games, if any, could potentially get into the fiscal year '03, and then secondly, you mentioned Mafia on the Xbox and the PS2 and then Manhunt.

Will those games be, I guess, Q4 releases?

Do you anticipate that they are full-priced product next year?

Thanks.

What we have said today is that the titles that we feel confident will be in the back half of '03.

The back half of our fiscal '03.

With Celebrity Death Match, The Great Escape, Conflict Desert Sabre, Vice City for PC, the three PC sequels, Hidden and Dangerous to Railroad Tycoon 3 and Serious Sam 2.

Mafia will move to PlayStation 2 and Xbox and we'll wait on the market, um, but we feel based on what the game will deliver that it has the potential to be a full-price, but we'll wait and see, um, where the hardware pricing is at that time.

We did announce that in fiscal '03, the new brand Project Manhunt will be in the marketplace, and again, we'll wait on that title to see what the hardware pricing is, but we feel we're going deliver a very, very strong product.

Um, what we -- what I did say is that in '04, we would bring Max Payne 2, Warriors, um, and then the extensions for Grand Theft Auto, um, extension/sequels, for Spec Ops, Viet Cong and State of Emergency, and we haven't announced which one of those titles or which, several of those totals will fall pre-Christmas or post Christmas.

As you know, we haven't given guidance for '04, and as we go further in the year, we will guide at some stage for '04 and give a more detailed outlook.

At the moment, we obviously because of our strong development capability we have a reasonable amount of flexibility.

Is Manhunt just a PS2 product at this point?

It's lead SKU is PlayStation 2, but we're not saying that it won't go on to any other platform at this point.

Okay.

Thanks.

Thank you, Gary.

Our next question comes from Felicia Cantor with Lehman Brothers.

Madame, please state your question.

Hi, I have one question.

Um, just regarding to your reserves, you are at 20% significantly lower than your competition.

Granted some of your competition does not have nearly your strength of lineup that you do, but there is one competitor in particular that, um, you know, does have equally strong if not stronger and deeper portfolio, who are much more significantly reserved.

Again, um, attributing to the strength of your games and brands, understandable why the reserves percentage is so low, but just wondering if you feel comfortable that there is some kind of cushion built in there in case things at the retail level don't go as planned?

I think, you know, it's important to note our reserves in terms of absolute dollars from the last quarter, I'm sorry, you still there?

We heard noises.

I'm here.

Okay, we heard a noise in the back of the line.

With regard to last year, increased to absolute dollars as well, and I think you're correct in observing that the reserve really behaves in relationship to the quality of revenue.

And with regard to you know, future expectations with the inventory, let's say out in the field.

The strength of our franchises, um, I think has really afforded us the opportunity to receive very favorable performance in both return arena and, you know, markdown allowances, and I think that's the direct reflection of the strategy by the senior management here in terms of how we run the sales departments and how we deal with the trade.

I also think, that um, our products have performed exceedingly well this year and we're benefiting from that experience.

Since the methodology is applied here, or consistently applied, you will benefit from experience if you come out with a high-quality portfolio and if you manage the trade appropriately.

I think we're very pleased with our reserve performance this year, we're very satisfied with our current levels and I won't get into a discussion of liberal conservatives, you know, labels like that.

We think it's very appropriate for where we are today.

Operator, we'll take one more question.

Our final question comes from Bob DeLean with Morgan Keegan and Company.

Sir, please state your question.

I'm glad I made the queue. [ Laughter ] Questions, Karl, a couple of housekeeping.

One, you said you had a $5.8 million writedown of repaid royalties in Q4.

How many titles is that?

It's a handful of titles and, I think similar with our prior quarters, we continue to look very prudently at, you know, our pipeline.

We will weed out things that we don't have absolute confidence in them in terms of bringing to the marketplace, but we will try things from time to time and with 70 SKUs in development, we think we have a positive, diverse pipeline for the future.

But from time to time, we're going to take some things out and move them aside and not get distracted with the projects we don't think will provide extraordinary returns.

You said there is a certain amount of Vice inventory that was in the warehouse at the end of Q4.

Obviously November 8th, you shipped internationally.

You can give us, can you quantify that, um, what dollar amount of the inventory was Vice?

It was significant enough to worthy mention on the call this morning but, you know, the exact dollar amount at this point, I don't think think it's worth our distraction or time.

The distribution part of the inventory we feel very, very good about, very healthy, and we're off to a great Q1 selling season as far as the distribution business.

I would note that the inventory is weighted three quarters with our distribution product and about 25% for our publishing division.

If that helps you range it a little bit.

That's helpful, thank you.

With respect to GTA 3, I have seen several retailers advertised at $39.99.

Have you guys provided any markdown dollars for that product yet?

No, none at all.

Not anywhere in the world.

We said in previous calls that we felt confident of maintaining the price point through Christmas.

We have done that.

Any incentives that the retailers are given off their own back with no incentive from us, and we'll obviously review the franchise as we come out of Christmas.

The timing on that.

Would you go to 39 or 29 on that product?

We'll review the franchise as we come out of Christmas.

Can we get any straight answers out of you guys?

We'll review the franchise after Christmas.

What did GTA 3 cost to develop on PS2?

The amount of investment for that product is not unlike others, that we really had in the past.

This is a company that has been very successful with internal development and operating it's R&D staff principally in low cost neighborhoods.

We don't come anywhere near as high as some of the numbers we hear other spending on major Triple-A titles.

But it's significant.

I don't think we have done anything to date that exceeded $5 million.

I know it sounds like I'm monopolizing the call, since I'm last, I could keep going.

One more question.

You said $5 million, that's the most you would spend on a next-gen title, what is your average cost development?

Actually, to be fair to Karl there was one title which is slightly higher than that but not very much higher than that.

Um, the average cost of the next-gen title was $3 million.

$3 million.

And that was -- we would love that to be the last question, if you don't mind, Bob.

Okay, thank you, guys.

Thank you very much.

Thank you, if you have any follow-up questions, Cindy, Dawn and myself will be around the whole day.

Please give us a call.

Thank you for your support in '02, and we look forward to a great '03.

Thank you very much, gentlemen.

This concludes today's teleconference.

Thank you all for your participation.