Take-Two Interactive Software Inc (TTWO) 2004 Q4 法說會逐字稿

Good afternoon, ladies and gentlemen.

Welcome to the Take-Two Interactive fourth quarter earnings conference call. (OPERATOR INSTRUCTIONS) If anyone should require operator assistance, press star 0.

This conference is being recorded.

It's my pleasure to introduce your host, Ms. Cindy Buckwalter, Executive Vice President of Take-Two Interactive software.

Thank you.

Ms. Buckwalter, you may begin.

Thank you.

Good afternoon ladies and gentlemen.

Welcome to the conference call for Take-Two's fourth quarter of fiscal 2004, and thank you for joining us today.

You should all have a copy of our press release which was distributed this afternoon.

If you have not received a copy, please visit our website at www.take2games.com.

I'd 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 S.E.C., including our annual report on Form 10K for the fiscal year ended October 31, 2003 and Form 10-Q for the quarter ended July 31st, 2004.

Today's call will consistent of a presentation by our management team followed by a Q&A period.

With me today from Take-Two are Richard Roedel, our Chairman and CEO, Paul Eibeler, our President, and Karl Winters, our CFO.

At this time I am pleased to introduce Richard Roedel, Rich?

Thanks Cindy.

Good afternoon and thank you for joining us today.

As you read in the release, we reported revenue of 438 million and earnings per share of $1.36 in the fourth quarter.

For the year we reported revenue of $1 billion, 130 million and earnings per share of $1.43.

Excluding the accrual related to the S.E.C. investigation, we earned $1.52 per share in the quarter and $1.60 for the year.

I will discuss the S.E.C. matter in a minute.

The key driver in the 4th quarter was the successful worldwide launch of Grand Theft Auto San Andreas, at the end of October.

We are incredibly proud of the success of this extraordinary product, and I would like to personally thank everyone at Rockstar and Rockstar North for their tremendous effort and dedication to the product.

Paul will discuss the recent developments regarding the NFL in a few moments.

Overall, we are pleased with our success with the ESPN sports titles.

We brought terrific energy to this product and proved that our approach to brand development and our distribution strengths are relevant to diverse markets.

As you read in the press release, the Company has accrued a $7.5 million expense in the 4th quarter associated with the S.E.C. investigation.

This accrual, which was not included in the Company's guidance is based on a settlement offer the company made to the staff of the S.E.C. in November, which the staff has agreed to recommend to the S.E.C..

If approved, the proposed settlement would fully resolve all claims related to the investigation by the SEC that began in December 2001.

Pursuant to the offer of settlement,t under which the company would neither admit nor deny the allegations, the company would agree to pay a non-tax deductible civil penalty of $7.5 million and would be enjoined from future violations of the federal securities laws.

Other than what we've stated in the press release, we cannot make any further comments nor answer questions regarding the S.E.C. investigation.

In fiscal 2004 we achieved a number of significant accomplishments.

Most importantly with the release of Grand Theft Auto San Andreas we completed the biggest product launch in the Company's history.

Arguably the most successful launch of any video game, furthering strengthening both our Rockstar label and the Company's financial position.

Rockstar also developed two new internally owned, internally developed brands.

Red Dead Revolver and Manhunt.

Both of these titles met our internal expectations for sales of new brands.

In keeping with our commitment to diversify our product portfolio, we signed a variety of high profile license properties, including selected sports titles to expand Take-Two's product line.

We expanded internal development resources and through studio acquisitions, we added important handheld and next generation platform development capabilities.

Take-Two is strategically, operationally, and financially well positioned to be extremely competitive and responsive to emerging trends.

The industry is robust, providing tremendous opportunity for us to grow our business even further.

I'd like to turn the call over to Karl to discuss our financial results and guidance.

Thanks.

Good afternoon.

Net sales in the 4th quarter were 438 million, compared to 277.6 million a year ago.

Including the 7.5 million accrual for the reserve we established in the quarter related to the S.E.C. settlement, net income was 62.6 million or $1.36 per share, compared to net income of 26.3 million, or $0.58 per share in the 4th quarter of 2003.

Excluding the accrual we earned 70.1 million, or $1.52 per share in the quarter.

Before we analyze our 4th quarter results, let's briefly compare our full year results for the guidance we issued in early September.

For fiscal 2004, we reported net sales of 1.13 billion, compared to net sales of 1.03 billion for fiscal 2003.

Including the 7.5 million accrual we established in the 4th quarter for the proposed S.E.C. settlement, net income for the year was 65.4 million, compared to 98.1 million last year.

With EPS of $1.43 compared to $2.27 per share last year.

Excluding the accrual, which was not included in the guidance we provided last quarter, we earned 72.9 million, $1.60 per share for the year.

Our earnings per share excluding the reserve, was in in line with our guidance, our revenue was slightly below guidance.

On the positive side, sales of Grand Theft Auto San Andreas were higher than we originally forecasted, primarily because we completed and shipped a German localized version of the title, prior to year end, which was originally forecast to ship in Q1.

On the other hand, revenues for our Jack of all Games distribution business came in below our expectations during the fourth quarter.

Specifically, the industry wide issue of limited hardware availability, reduced Jack's hardware revenue.

As a result, this dampened demand from certain of our retail customers for related value software, since orders for hardware are typically placed in tandem with sales orders for value software.

On a positive note, the hardware availability remains tight.

Our distribution business appears to be improving in Q1, based on the results we have seen for the first six weeks of the quarter.

Sales of value priced software are picking up and we're seeing signs of hardware availability improving.

We've also seen our distribution business increase in several market segments, including the specialty retailers, mass merchants and wholesale clubs.

Turning now to our Q4 year-over-year results, the majority of increase in revenue from last year is from the release of Grand Theft Auto San Andreas.

Additionally, we realized increased sales from our new ESPN sports video games, which we didn't have last year.

The strength of these titles, helped shift our publishing business to a greater percentage of total revenue than where we had previously guided.

For Q4 our publishing/distribution split was 80%/20%, compared with last year's 4th quarter numbers of 54% versus 46%.

San Andreas represented approximately 54% of total Q4 revenue with the four ESPN titles generating approximately 10% of revenue.

Our platform mix differed considerably from last year's fourth quarter.

We had significantly more PC business last year due primarily to the release of several new PC titles in that quarter.

This year, our platform breakdown was dominated by console software, primarily due to the release of San Andreas and the ESPN titles.

In Q4 this year, 94% of our publishing business came from console titles, with only 3% of sales from PC products. 2% from handheld and 1% from accessories.

In contrast, last year's 4th quarter consisted of 59% console products, 39% PC products and 2% accessories.

Turning to Jack of All Games, Jack's 4th quarter business was down year-over-year due to the factors I outlined earlier.

However, we are pleased with the pickup in business we have seen over the past six weeks, and demands for software has strengthened as we enter the heart of the holiday season.

We anticipate Mono scores for Jack in the first quarter, as continued consumer interest in value product and the strong slate of new software releases from Take-Two and other publishers drives consumer demand.

Our gross profit margin for the quarter was approximately 40%, compared to about 36% last year.

The primary reason for the increased margin related to our business mix.

As our higher margin publishing business represented a larger percentage of revenue compared to last year's 4th quarter.

And a significant percentage of our publishing business came from our internally owned and developed Grand Theft Auto franchise.

It was approximately 59% in Q4 this year, versus 18% last year.

Royalties increased on both a dollar basis and as a percentage of publishing revenue, due to the amortization of prepaid royalties for externally developed titles released in the quarter, such as the ESPN series, as well as incentive compensation paid to our internal development teams.

Software development costs increased in dollars and as a percentage of publishing revenue, due primarily due to the amortization of capitalized software related to Grand Theft Auto San Andreas.

We also wrote-off approximately $3 million in capitalized software costs in the quarter, related to a product that was terminated.

All categories of our operating expenses in the fourth quarter increased in dollars as our business grew, but declined as a percentage of revenue compared to last year.

The increase in sales and marketing expenses compared with Q4 last year, relates primarily to expanded advertising and promotional support for our products, led by our advertising campaigns for San Andreas and ESPN sports titles.

General and administrative expenses increased from last year, as we've expanded our financial and operational infrastructure to support our continued growth.

R&D expenses increased from Q4 last year due to several development studio acquisitions.

We've also added additional staffing in our development studios, reflecting our strategy of bringing more development in house.

Our head count in R&D has increased over 30% from October 2003 to about 755 people at the end of October 2004.

Depreciation and amortization expenses increased over last year due principally to the continued roll-out and improvement of our systems, and the buildout of office space earlier this year.

Now I'll move on to the full year results.

Our top 10 products represented about 46% of total revenue for the year compared to about 51% last year.

San Andreas was our top selling product for the year followed by the Grand Theft Auto Double Pack for Xbox.

Our Grand Theft Auto franchise represented about 34% of revenue for the year.

Our other top products for the year were primarily titles based on our proven Rockstar brands, Max Pain 2, Manhunt, and Red Dead Revolver.

We also realized strong sales from our new line of ESPN titles, which represented approximately 8% of our publishing business for the year.

Our gross profit margin for fiscal 2004 was 33.5% compared to 38.3% last year.

While our mix in publishing and distribution business remained about the same compared to fiscal 2003, the lower gross margins this year were primarily due to the mix within our publishing business, which included a much smaller percentage of higher margin PC business compared to last year.

Total operating expenses increased on a dollar basis year-over-year to support our increased revenue.

Sales and marketing expenses increased in both dollars and as a percentage of revenue due to the higher level of advertising and promotional support we provided for our new product launches and catalog titles.

General and administrative expenses remained about flat as a percentage of revenue, but increased in absolute dollars from last year due to the growth of our business and expanded infrastructure to support current and expected growth.

Our R&D expenses increased significantly year-over-year on both a dollar and percentage of revenue basis.

Due to the development studio acquisitions as well as additional general staffing in our development area.

Our depreciation and amortization expense levels appear to be flat compared to last year.

In fiscal 2003, we incurred a $4.4 million charge in conjunction with the consolidation of our distribution facilities.

Excluding that charge last year, depreciation amortization expenses would have increased this year due to the continued roll-out of our systems and the buildout of office space earlier this year.

Finally, our tax rate for the full year was approximately 32%.

Earlier this year we mentioned the implementation of a new tax structure for our worldwide operations that would result in a reduced tax rate going forward.

We have in fact seen a downward trend in our tax rate throughout the year.

Our Q4 effective tax rate of about 31% was further reduced due to our geographic mix in the quarter, as we had a significant contribution of business from our international operations, while we operate at lower effective tax rates.

As expected and as we indicated in our 3rd quarter conference call, we were cash flow negative in the 4th quarter which is consistent with last year.

Our cash flow used in operations was approximately 21 million, compared to cash used in operations of about 44 million in the 4th quarter of last year.

Our cash flow deficit was primarily attributable to the late October release of Grand Theft Auto San Andreas, which shipped just a few days before the end of the quarter. , and the ramp-up and distribution inventory for the holiday selling season.

Additionally, during fiscal 2004, we made significant investments in signing and beginning development work on a variety of new licensed properties.

This is in line with our continued execution on our strategy of further expanding our portfolio breadth and depth.

At the end of the fiscal year, we had about 155 million in cash with no debt, as compared to 183 million in cash at the end of last year.

We would expect to be cash flow positive in the 1st quarter as we collect on our holiday receivables.

I'd like to briefly review some of our other key balance sheet items.

Net accounts receivable at the end of the 4th quarter were approximately 286 million, compared to 167 million in receivables at the end of last year.

The majority of the receivable balance is for our publishing business again due to the significant launch of San Andreas.

Our DSOs were 59 days, compared to 44 days in the third quarter, and 54 days in the 4th quarter last year.

Our DSO level reflects the late October shipment of San Andreas.

Our DSOs based on the month of October alone, were only about 25 days compared to 24 days in October of 2003.

Our accounts receivable reserve stood at about 72 million at the end of the quarter, representing approximately 20% of gross receivables.

The increased reserve levels from Q3 are due to the large volume of business shipped in the 4th quarter.

However, our reserves as a percentage of gross receivables are lower than last quarter and last year, because San Andreas represents a large percentage of the increase in receivables, and loser reserves are needed for this title, due to the strong sell through of the product.

Our reserves are approximately 12% of trailing six months revenue and about 10% of trailing 9 months revenue, relatively consistent with last quarter's levels.

Inventories at the end of the quarter were approximately 154 million, up from about 97 million last quarter and 102 million at last year's end.

About 70% relates to our distribution business with over 80% of the domestic distribution inventory consisting of products with cost of good sold below $14.99.

Jack of All Games built its inventory levels prior to year-end in anticipation of a busy holiday season.

With the high demand on manufacturers like Sony and Microsoft to produce all the new front line titles for the holiday season, Jack needed to ensure the goods would be received in time for the selling season.

Turning now to our prepaid loyalties and software development costs.

Our short and long-term prepaid royalties and capitalized software totalled about 70 million at the end of the quarter, the same level as Q3 and roughly a $33 million increase compared to our fiscal 2003 year-end balance.

The increase in our prepaid royalties since the end of fiscal 2003, relates to new licensed products we have signed such as the ESPN games and the Warner Brothers properties.

The increase in our capitalized software balances since year-end is primarily related to our internally developed Rockstar titles, such as Grand Theft Auto, Midnight club 3 and the Warriors.

We currently have over 100 products in various stages of development, of which approximately 55 are planned for fiscal 2005.

In addition to the 55 capitalized SKUs for fiscal 2005, we expect to ship an additional 5 to 10 products this year, which had no capitalized balance as of the end of fiscal 2004.

Moving on to guidance.

We are reiterating our first quarter guidance of $1.00 to $1.10 per share, while narrowing the range of top line guidance to 440 to 460 million in net sales.

We have moved Midnight Club 2, Double edition to Q2 and the Warriors to Q3.

For the 2nd quarter we are providing initial guidance of 170 to 190 million in net sales and a loss per share of 10 to 20 cents.

We are reiterating our fiscal 2005 EPS guidance of $2.00 to $2.20 per share, while also narrowing the range of our net sales guidance to $1.2 billion to $1.25 billion.

The slight reduction in top line full year guidance, primarily reflects the removal of the ESPN NFL title from our fiscal 2005 lineup, which had minimal bottom line impact.

Our full year guidance represents top line growth of approximately 6 to 10% reflecting a strong global product pipeline and contributions from our distribution business.

Our expected bottom line growth of 25 to 38% is being driven by higher revenue volume and strength of our publishing products, partially offset by the investment of additional resources and development, including current and next generation console and handheld products.

While the publishing distribution revenue mix was very heavily weighted toward publishing in Q4, due to the release of San Andreas, we would expect our publishing distribution mix in fiscal 2005 to revert back to more typical levels.

We would expect a business mix of 65 to 70% publishing, and 30 to 35% distribution on both a quarterly and annual basis.

However, with a strong lineup of new products in Q3, including the launch of Grand Theft Auto San Andreas on Xbox, we would expect our publishing revenue to be a somewhat larger contributor.

With regard to our 2005 guidance, we provided some detail in our last call regarding the expected contributions of the more significant publishing products for the year which remains unchanged.

However in our last call we said we expected Grand Theft Auto San Andreas to contribute approximately 30% of our 2005 publishing revenue.

This percentage was based on the PlayStation 2 and PC titles as well as distribution of both titles in Japan.

With today's announcement of a San Andreas Xbox title in Q3, and consumer and retail demand for the PS2 title remaining strong, we have increased our expectations to in excess of 40% of our 2005 publishing revenue for the title across all platforms.

We expect our fiscal 2005 operating expenses to remain relatively constant as a percentage of revenue compared to fiscal 2004.

This difference from comments made on our last call based on support for our recently acquired development studios, the continued investment in next generation products, and added expense recompensation incentive plans that are closely tied to performance.

Lastly, moving on to our tax position, we now expect a corporate tax rate in the area of 32% in fiscal 2005.

We look forward to speaking with you again when we report our 1st quarter results.

At this point I'll turn the call over to Paul to cover our product lineup and additional corporate developments.

Paul?

Thanks, Karl.

Now I'll give some color to our Q4 and update you on our plans for the fiscal year.

Q4 was highlighted by Grand Theft Auto San Andreas.

I would be remiss in not taking this opportunity to congratulate the Rockstar games and Rockstar North teams for once again delivering a product that raised the bar for the entire interactive industry.

Consumer reaction, retail reception, and the editor's reviews have all been outstanding.

Two quotes sum up the market's reaction to this product.

OPM gave the product a perfect 5 out of 5, stating "the gain promises just about everything and somehow manages to deliver even more than you expected."

IGN wrote in their review, "I'm not going to beat around the bush, Grand Theft Auto San Andreas is the single best PS 2 game I have ever played."

It's a terrific unending masterpiece of the game and one that will never fall victim to an overexaggeration of its lofty status.

Both the North American and European launches were extremely successful in Q4, although previously planned for a Q1 ship, Rockstar North was able to complete a German version in time for us to simultaneously ship with the global launch in '04.

The high level of demand for Grand Theft Auto San Andreas allowed us to ship slightly greater quantities in Q4.

We focused on managing the launch to match demand and reorders to keep the appropriate retail inventory in the marketplace.

Although the market is very competitive, especially this holiday season, we have benchmarked this title against Vice City, arguably the best selling video game of all time .

On a life-to-date basis, global sales of Grand Theft Auto San Andreas are tracking more than 30% higher than Vice City.

According to NPD, Grand Theft Auto San Andreas was the top selling PS2 game in both October and November.

Sales remain strong as we continue to support this product with significant marketing efforts.

San Andreas has clearly delivered the gaming experience that builds unprecedented brand loyalty for the Rockstar label.

In October, taking advantage of the launch, we shipped Grand Theft Auto for Nintendo Game Boy Advance.

On a separate note we are extremely disappointed by the decision made by the NFL and NFL PA to grant an exclusive license for NFL based video games.

We feel these actions do a tremendous disservice to the consumer.

The licensed NFL game we distributed for Sega, was not a material contributor to our profitability to date and was expected to be a small contributor in our '05 guidance.

Regardless of the NFL issue we are pleased with our progress in sports.

Sports based products are a part of our diversification strategy.

We remain committed to diversification and feel confident that our proven ability to innovate will create and drive future opportunities.

Continuing our Q1 overview, we shipped ESPN NHL 2K5 and ESPN NBA 2K5 for both PlayStation 2 and XBOX.

Both titles are selling well and have received reviews and ratings from the gaming editors that are stronger and more favorable than our competitors.

In Q4, North American launch sales for Conflict Vietnam, part of our successful conflict series are performing very well in the market.

Vietcong Purple Haze, Robotech Invasion, and Outlaw Golf 2 shipped for the console market.

Our first product under the cartoon network license for Code Name Kids next-door shipped on GBA.

For PC we shipped worldwide the sequel Cohan 2 Kings of War.

Distribution business, Jack of All Games was effected in Q4 by the limited amount of console hardware available.

Fortunately this revenue shortfall has little bottom line impact, but was unexpected as we anticipated additional quantities to be shipped late in the quarter.

Moving to Q1, in addition to continued strong shipments of Grand Theft Auto San Andreas, we shipped ESPN college hoops 2K5, which is the highest rated college basketball game in the market.

Most of you have probably watched our holiday TV commercial featuring our spokesman, Terrell Owens, promoting our full line of ESPN sports titles, including NBA, College, and NHL products.

Sales remain strong as a result of this marketing support.

Also in Q1, we shipped the GBA title for Dora the Explorer license, and Outlaw Golf 2 for PlayStation 2.

We have moved Midnight Club Doub edition to Q2.

This is the third installment of this $3 million plus unit franchise.

We are moving this product to allow additional development time for this highly anticipated, open-ended street racing game for both PS2 and XBOX.

The first quarter is off to a strong start for Jack of all Games distribution business.

We have sufficient software inventory to capitalize on holiday sales, and the business has performed very well despite limited availability of hardware.

On the acquisition front, we have purchased Indie, a Microsoft development studio in Salt Lake City.

It studio has developed a successful amp snowboarding franchise along with Top Spin, one of the best selling tennis games.

More importantly, this studio has considerable expertise in next generation development.

We are active in acquiring development resources and content as we build a more diversified product portfolio.

For Q2, in addition to Midnight Club 3 Doub edition, we plan to ship the PC sequel Stronghold 1, and Close Combat, first to fight for PC and Xbox, and Motocross Mania for PlayStation 2.

We will also release ESPN Major League Baseball for PlayStation 2 and XBOX.

In Q3 we'll continue to build on the success of Grand Theft Auto San Andreas.

First, we'll be introducing Grand Theft Auto San Andreas to the Japanese market.

Grand Theft Auto 3 and Vice City have ranked among the most successful western titles in Japan, and we look further to exploit the opportunity from the globalization of interactive games.

Next to the extension of Grand Theft Auto to other platforms with our plans to ship Grand Theft Auto San Andreas for both PC and Xbox.

Q3 will include the much anticipated Warriors.

Rockstar strongly feels that the structure, style and setting of this movie translates perfectly into a video game and expect the license to work very, very well in the market.

Also in Q3 we look forward to being a part of this summer's blockbuster movie with a multi-platform release for Warner brothers' full feature release of Charley and the chocolate factory.

This movie stars Johnny Depp and is directed by Tim Burton.

Our Rockstar lead studio is focused on the portable market and will bring two title to market near the launch of the PSP.

These products are based on premiere Rockstar brands that will be extended to this new exciting technology.

During the second half of calendar '05 we anticipate continued expansion of opportunities in console sales to attract more casual family gamers, our plans include extending two successful licenses, Dora the Explorer and Code name Kids-Next Door, to the console market .

Rockstar will reach into it's existing catalog and ship one additional product in Q4 2005, and the other for the '05 holiday season.

I have outlined an exciting year for Take-Two.

Today we are well positioned to leverage our strength as a top tier publisher.

We are propelled by the success of Grand Theft Auto San Andreas, the industry's biggest original product and our wholly owned IP.

We are committed to build a more diverse and expanded product portfolio.

Our strategic direction is well established and we have the management, financial, and operational resources to successfully execute this plan.

We are very enthusiastic about the industry's growth potential and confident in our abilities to capture market share and maintain our leadership position going forward.

We'll now open up the call to questions.

Certainly. (OPERATOR INSTRUCTIONS) We ask to please limit yourself to one question.

Thank you.

Our first question is Edward Williams, Harris Nesbitt.

Good afternoon.

I'll try and limit it to one, but I think I've got a little more than one question to -- approach.

The ESPN license, looking at NBA specifically, what are your plans with making sure that NBA remains open, or do you feel as though the NBA might actually take this one exclusive?

In response to that, we feel we have a great game.

We feel that competition in the marketplace is key especially in the industry, we have a very good relationship with the NBA and we're continuing to talk to them.

We would like an open marketplace and we'll give you updates.

All our licenses are similar to licensing agreements right now of our competitors.

Do you have the license for next season?

We don't comment on individual terms of licenses, but they're similar to the other competitors in the marketplace.

Looking at the quarterly flow of revenues and earnings, should we presume that the 3rd quarter of this year is the more profitable quarter than this past fiscal year was?

Ed, I think that's somewhat consistent with the guidance comments that we made that we would expect to see more profitability in that part of the second half of the year.

We're just not going to get too overly precise as to exactly where that is.

Can you give us more details about Indie, how much you paid, was it for cash or stock and what they're working on at this point?

We'll update some of the details on that acquisition when we file the 10-K.

We feel very good about the studio, they've made some great gains in the marketplace and again, it's part of our diversification.

They also have done a lot of work on next gen, we feel will be a real asset going forward.

Then the timing of the S.E.C. settlement is that something that could come?

Other than what we stated in the press release we can't make any further comments or answer any questions regarding the investigation.

Our next question from Heath Terry of Credit Suisse First Boston.

In the press release, you talked about having two of your Rockstar titles for PlayStation Portable.

Are there any plans beyond those two, if there are any, for '05, and should we expect that any of those are going to be available on launch?

We have announced that two titles, we have announced that they are extensions of two of the premiere brands from Rockstar.

Our guys really like working on this system, they think it's great product from that company that develop the Walkman, so we have high expectations in terms of the hardware.

We haven't announced other titles, but I would anticipate that with that -- that based on the success that our guys have with developing product that we'll support that system fully.

As far as kind of next generation hardware, the development, the development you're doing so far, if we are to see one of the systems launch holiday next year, are you where you need to be, to have games on launch in that and in terms of spending for development spending, how close are we, do you think, to kind of hitting peak development spending for the organization versus where you want to be?

Let me go back.

This is Paul .

On the PSP, we said both of those titles will be near or at launch, and then we'll announce additional titles.

As far as next gen, we have great relationships with the hardware companies and we're working very, very closely with them.

In terms of development our guys -- are excited from what they know about both hardware systems, but it's still very early at this stage.

Based on our position in the marketplace, both hardware companies would benefit and would enjoy having some of our products near the launch of the hardware.

Until we get more information, I really can't comment more.

Thanks Paul.

Next question is from Mike Wallace of UBS.

Paul, I was wondering if you could talk a little more about the ESPN arrangement.

Are there any obligations on your part to continue to make a football product, are you obligated at this point to exercise the option to buy the division and is that something that you would still look to do, assuming you could get extensions with the NBA and baseball and so forth?

Let me go back, Mike.

First, we were real pleased with what we added to the partnership and our arrangement was a distribution deal for these products, but I think we added some innovation in terms of marketing and we enjoyed working with the visual concept teams very, very much.

With this news from the NFL we are committed in terms of diversifying our product line, but we're taking some time to strategically look at this and study it.

We do feel that great product in the marketplace is certainly good for the business.

In terms of what we have told people is that we did have the option to acquire the assets at the end of this partnership, which was long-term, and we're taking it day-by-day right now and studying the marketplace.

There was no obligation to have another football game though in terms of that specific, if you were asking that.

Okay.

You don't have to pull the products from the shelves at some point, do you, for football?

Absolutely not.

It's an orderly transition after the football season, which sales normally slow up anyway.

It's just the next year, starting next year.

So you can't do another one then before a football season starts with an NFL license?

Right, we cannot do another NFL licensed product.

Are you going to mention how many GTA units you've done sold so far?

We typically don't comment precisely on the units.

We gave out the revenue contribution for the quarter I think you can draw some fairly safe conclusions from that.

We do feel good about, the nearest benchmark is Vice City and we're selling globally and selling at 30% higher than Vice City at the same time, life to date.

Thanks.

Thank you.

Our next question, from Tony Gikas from Piper Jaffray.

Were you aware of the bidding process on the NFL license or were you involved in that, I should say, second question, what is your view of when the next cycle begins?

It appears that investor willingness to own these names a couple years in advance of the next cycle is certainly evident.

Do you believe the next cycle starts before two years out from now?

And also maybe you could give us a little update on the state of the international markets, what type of growth you're seeing in Europe and the UK.

Thanks .

Three questions.

The first one, the NFL and all the leagues, it's generally a partnership with the different leagues on the licensing arrangement and there are proposals that go back and forth on a regular basis.

This is a segment of the business, the sports, that's always been driven by competition in the marketplace, so we were surprised at the NFL's decision to do that .

In terms of the cycle, I think that investors are reacting differently, and I think the whole world is interacting differently, video games, interactive gaming, it's lifestyle.

When you have two strong hardware companies and three strong companies with Nintendo, but Microsoft and Sony, you know that they are driving business, content is King, we develop great content.

The transition will be different.

There is a commitment, by Sony in particular, they have a longer lifecycle for their hardware.

We're now seeing the advent of the portable market, for companies like ourselves where we can extend our brands and use that platform to introduce new brands.

It looks like it will appeal to us a slightly older audience.

It's a real driver for us.

There is a different type of transition.

The industry has grown up tremendously if I could use that term.

Just as truly lifestyle.

In terms of the international markets, our business is very, very strong over there.

We were very, very pleased with the launch of San Andreas in that market.

We feel good as we expand our distribution capabilities in Europe.

Okay.

Let me go back.

I don't think I got an answer on, When do you think the next cycle starts?

When in your mind do you think the next cycle starts, because it really looks to me like calendar '05 and calendar '06 are relatively flat years in the industry and holiday '06 is really when we would see the next pickup in the next cycle.

Would you characterize it as similarly as two years out, or perhaps there's an earlier ramp coming, and what's your view on the international market, the growth you're seeing right now, not just for Take-Two, but is the growth significantly greater than you're expecting or in line?

to go back, it's somewhat inappropriate for us to comment on the hardware cycle.

We feel there is a tremendous amount of growth left in this cycle, the Playstation 2 in particular, based on the success they've had with Playstation 1.

We think the hardware companies will drive the business.

I don't see quite the same transition that has been in the previous cycles.

In terms of the international markets, it's much more heavily weighted towards one hardware company in the international market.

So there's an opportunity in that market, for another hardware company to try to perform and compete.

We're seeing solid growth, similar to the domestic market.

What is your expectation for mix of sales in the coming year, here distribution versus publishing?

Distribution vs. publishing, we're living in that same 65%/35% distribution.

As Karl alluded to, certain quarters, third quarter, you might see that move up a little bit.

In general we're living at the 65/35% range.

Our Jack of All Games business is a very, very strong company, services 20,000 retail doors.

Management team there has done a great job.

Thanks.

Thanks.

Next question from Karen Russillo of Merrill Lynch.

In respect to the ESPN franchise that you have obviously coming out in July, the football title did a lot better than you were expecting relatively speaking on the NBA titles and the NHA titles, would you was that they are meeting your expectations or are they exceeding?

How are those titles doing relative to what you were thinking?

The whole opportunity for us to partner with Sega and ESPN, it was a long-term plan and the first part was to affect the market with great product, some innovative and marketing distribution strength.

Our football game came out extremely strong.

What we were most pleased with was the reception to the marketplace in terms of the quality of the games, and then both our hockey and basketball games have had the same type of response in the marketplace.

Both from selling and performing very well to the reception of how strong they are, as evidenced by the reviews and the rankings that they get .

Significantly for us, the ESPN line gave us a significant driver in terms of diversifying our portfolio, and in that regard we are pleased.

I will mention we took on this challenge fairly early in the late summertime frame and our company showed a real discipline and real ability to react to the marketplace.

Our success speaks quite loudly to our ability to develop brands our distribution strengths, our imagination, the creativity as an organization.

We're very proud of what we've accomplished in a relatively short period of time.

I think you should be.

I had one other quick question.

With respect to the GTA launch on X-BOX in the summer, do you have any thoughts or expectations on where that will perform relative to Vice City?

A lot of people that I've talked to, with San Andreas being such a huge success, we've seen a lot of people that were Xbox users, become dual platform households.

What are you guys thinking with respect to that and how you think about the X-BOX launch?

We use Vice City as a comparison or benchmark.

Vice City and Grand Theft Auto 3 were on the PlayStation 2 system first.

We look at that as a benchmark.

We think it will perform well for those owners that aren't dual households .

We're excited about the ability to further extend that brand to another console.

I think just to follow up on that, the strength we saw with KLo2 just indicates the demand that there is for X-BOX owners for good quality products like San Andreas.

Thank you very much.

Thanks.

Thank you.

Thank you.

Our next question is from Garrett Edson, Monarch Research.

Regarding Midnight Club 3 and the Warriors, moving it over to the 2nd quarter and 3rd quarter, regarding Midnight Club, are you afraid that (Grand Treason 4) is going to get a release date soon, if this is why you moved it and what happens if they decide to release the game close to your potential release date, and regarding the Warriors, is this a delay just to move to 3rd quarter or is this a development delay?

First of all we think and believe that Grand Theft Auto 3 Doub Edition, is going to be and is a very, very strong product.

We think that added customization, some of the new features that we have in the product will stand alone.

In this business we always, ourselves and our competitors are always looking for different windows to ship.

Although (Grand Treason) is a great product, maybe they'll move their ship date around the release of ours so it doesn't come in the same exact time frame.

We'll adjust our schedule based on the marketplace.

Warriors was always planned for late in the quarter and we just moved it one month to give it a little more time.

So there are no product delays on -- rather development delays on the Warriors; is that correct?

Nothing significant.

Thank you very much.

Thank you.

Next question from John Taylor of Arcadia.

It's actually Brian Rogers asking for JT.

I have four-mini questions.

What is the quarterly run rate on the R&D spend both expensed and capitalized?

That would be the first question.

Brian, I think our R&D has been trending up in recent quarters.

We expect to see it live somewhat in comparison to where it's been very recently, if we're looking at approximately $11 million in the 4th quarter, it could trend up slightly as we move into the earlier quarters of fiscal '05 based on some of the acquisitions we've done.

You shouldn't see a large amount of movement in that line item.

What was G&A spend on legal and accounting, and fiscal year '04, and will this go down if S.E.C. agrees?

We typically don't break out that fine of detail.

As any company, we have ongoing legal and accounting fees, some of the regulatory environment has certainly not decreased those fees.

Having said that I don't expect to have a significant drop in fees next year. '04 in comparison to '05 should behave somewhat similarly, and Sarbanes-Oxley is certainly a compliance effort that the company is ongoing with and expects to complete successfully.

San Andreas split between U.S. and international?

We don't typically give the breakout.

We gave an indication of where the product has performed overall, as Paul's comments on the 30% above Vice City, We think that's significant.

The product has been hugely successful.

We're very pleased with it's performance in both marketplaces.

So similar to Vice City then?

Comparable.

This is more general.

Go over product line in the fourth quarter.

You're substituting for JT very well.

I'm not sure I understand the question.

Are you looking for a platform breakdown?

I know that was in the press release on the product line in terms of platform breakdown, but in terms of the titles specific.

We gave the percentage out for Grand Theft Auto San Andreas, we certainly laid out what the distribution business did, Paul alluded to the Cohan series that has performed very well.

I'll just ask him to be more specific next time.

Thank you.

Next question is [Ruth DesMissour] of Citigroup.

I have some questions of distribution business.

I'm interested in how the value product is doing this holiday season.

I was surprised to hear you say that the hardware situation has gotten better recently because every store I walk into there seems to continue to be a hardware shortage.

Could you give us an update on that?

Our Jack of All Games business offers various programs in terms of valuated opportunities to all types of retailers.

They are selling it pretty much across the board to large and smaller retailers.

It's a very volume driven business.

There is a mix of products that go in, there are different types of products that sell very well.

Our management guys have a good handle on that.

In terms of hardware we're getting a little bit more in terms of shipments.

I know there is limited availability at retail and there's just a tremendous demand this year for the hardware.

Do you have any sense of how far it will take into next year to kind of get a balance between supply and demand on the hardware?

We don't have that visibility at this time.

Thank you .

Our next question, Gary Cooper of Banc of America Securities.

A couple of questions, take them one at a time.

Can you say if you've entered into or planned to enter into talks with Microsoft for GTA exclusivity for the XBOX 2?

We don't comment on that type of detail, but Microsoft is a great partner and we have some great gains on their system so we have a very good relationship and we talk to him all the time.

The same with Sony.

Okay.

Karl, maybe you could talk a little about the gross margin here.

You've got your distribution number down as a percentage of sales, ETA up huge as it's owned EP.

I would have thought it might have been a little higher, your gross margin.

Is the expense to the development studio, is that in gross margin or is that a pretty healthy element of your cost of goods here?

I want to make sure I answer that precisely.

When we talk about cost of goods sold, we have various categories, straight product cost, royalty expenses, and the cap software.

We're talking about the internal studios we're going to live in the cap software area.

The product costs absolutely affect the weighting in the business, the margin is up year-over-year.

We did have PC business in the 4th quarter of last year.

Having said that, the Grand Theft Auto Series and San Andreas performs at a very strong margin.

We did reasonably well this well in fourth quarter, 33.5%.

And we certainly have some added royalty expense coming in part from expansion of Global Star business line, and the acquisition of third-party developed products, so the amortization of those costs drive through the numbers, as well as continued external royalty expenses for products once they are released into the marketplace.

A little bit of added royalty expense, may be part of the piece you're looking for .

On Q4, on Rockstar title you've mentioned today, I wonder if you think that will be enough to comp against GTA or is there something else out there?

Is Max Pain 3 that title, and whatever that title is, would you expect it to be an XBOX 2 launch?

I think we've different about as much clarity as we can for the beginning of next year's holiday season.

We're sitting in December of this holiday somebody and I think it's fair to say that we haven't put daylight on all the specific parts on the back end of next year, and we typically do add to that as we get closer to that part of the holiday season.

So stand by for further details .

We certainly have touched on some of the larger contributors.

Let me ask this, do you think you'll have an Xbox 2 launch title when the platform launches?

I think we're committed to being successful with launches of new hardware as they developed, and we have every intention of being there at appropriate times with appropriate games and quantities.

We're pleased that -- pleased that you're looking forward to the highly anticipated release of some of the other Rockstar titles.

Thank you.

Next question is from Michael Pachter of Wedbush Morgan Securities.

I'd like to invite you to be a bit more shareholder friendly, and point out that in the after market, your stock is trading at a 50% discount to Electronic Arts, you've told us you have very strong cash flow and it sounds to us like the S.E.C. issue is imminently to be settled.

That would lead me to believe that you would consider a stock buy back program.

Could you respond to that and I'd like to invite you guys to rethink your position for giving unit ship in numbers for San Andreas.

Each of your competitors seems not to be shy about telling the street what their unit ship in numbers are.

Microsoft is bragging about Halo has outside Grand Theft Auto.

I think your shareholders would like to know how many units you've shipped in.

Thank you very much.

With respect to the buyback program I would tell you that the Board will actively consider a buyback program at an appropriate time.

And with regard to the unit's shipments, Michael, we hear your point and will take it under advisement and consider it going forward.

I would think, Michael, that the shareholders are very pleased with the benchmark that we talked about in terms of that it's selling 30% higher on a global basis than Vice City, which is a pretty high benchmark to establish -- it could be established against.

There is MPD data and other vehicles out there and we'll take that into consideration .

Next question from Jennifer Jordan of Wells Fargo.

Please pose your question.

I think most of my questions by this point have been answered.

I want to go back to the discussion about the ESPN titles and see what your thoughts are with regard to whether it's worth pursuing exclusivity yourselves with some of the other partners, or other players or associations-like the NBA particularly when you're getting better reviews at this point than Electronic Arts for the game.

When we look at diversification and the opportunity in sports, we are looking at every aspect of the marketplace.

Until last week, most of the leagues or the majority of the leagues, I would say the leagues are licenses that have great product in the marketplace.

We're like the competitive marketplace.

With this news on the NFL, we have to rethink our strategy and rethink our proposals to the leagues as well as the leagues are, you know, rethinking or repositioning their strategy.

I can tell you that in prior conversations with the various leagues, they did like the competition in the marketplace, they liked the fact that it forced innovation, that there was a tremendous amount of discussion or a buzz about the games with the fan base.

So we'll take one day at a time.

We do have a great product.

Do you feel that the decision to use a value pricing strategy had any influence on their decision to go exclusive?

If you look at the past history, you know, some of these Sega products for the majority of the past two seasons were at value pricing so I really don't believe that.

This was a strategic approach to getting more competition particularly in the football market.

Most retailers I've talked to saw an expansion in their business.

They sold not only more units, but more dollars so we think it was good for the consumers and the market place and we are looking to build on that going forward.

As you're looking to add additional kind of third party or IP like Warner Brothers relationship, do you see any trends in negotiations as you look at this idea of exclusivity, what those companies are demanding in terms of royalty?

Is that trending upwards or is it a fairly steady state?

The royalties have increased from several years ago and we try to negotiate theft and we hope that the partners go with companies they feel can sell the most product in the marketplace and make the right gains in a timely fashion for the various licenses.

Based on our distribution strength and our ability to innovate, we have attracted a lot of interest from all the major studios and the licensing players in the business, so it's an opportunity for us or a new opportunity for us.

In terms of the leagues, we're just taking it each day as we decide what to do going forward with the sports strategy.

Great.

Then I have one last follow-up question.

I think it was on Tony's question.

He was asking you about when you think the new cycle starts.

I'm more interested in how long do you think -- do you believe that the current levels of pricing are sustainable for a longer period of time on the PlayStation 2 platform, for example, than they were in past cycles?

It seems to me like we may not see the abrupt kind of trailoff we saw in pastimes, just because we're now at 71 million X-BOX, PS 2 and GameCube platforms.

I think we're all pleased in the business, particularly the publishers are pleased, retailers also, that there still is premium pricing for premium quality games, and that pricing has held up.

We do have to take into account that as hardware gets a lower retail price point, that there has to be some connection I guess to the software resail pricing, but we do believe AAA titles will still come in AAA pricing, and we have experienced with not only in the sports another, but other games at lower prices to differentiate other products in the marketplace.

And we have a lot of experience, because the Jack of all games business, as the hardware prices go lower and the system becomes more mass market, more family, that pricing is more important, as big a factor in the purchase decision, so that is why I believe that part of our strategy -- especially with Dora the Explorer and Code name Kids next-door, you'll see us on console because -- it appeals to the family audience, the younger audience.

I think it's you timely we're partnering with Warner Brothers, on a major motion release of a classic brand like Charley and the chocolate factory.

Thank you.

Thank you.

Operator, we'll take one more question.

Certainly.

Our final question will come from Evan Wilson of Pacific Crest.

I didn't know there was such a thing as mini-questions, but I've got two.

Do we expect to see Charley and the chocolate factory and Dora on the Nintendo DS in Q3 and Q4 respectively?

We haven't announced that, but we think that the DS is performing extremely well in the marketplace, is a great system.

Our guys are all playing it in our studios so we're looking to put some of our brands on that product and we'll get to you with that information.

And then finally, what share count are you using for your fiscal 2005 EPS guidance?

We're generally working in the neighborhood of 46 million shares.

Thanks a lot.

Thank you all for joining us today.

We'll be available after the call for follow-up questions and we look forward to speaking with you on our next call.

Thank you.