Electronic Arts Inc. (EA) Q3 2011 Earnings Report, Transcript and Summary

Good afternoon. My name is Casey, and I will be your conference operator today. At this time, I would like to welcome everyone to the third quarter fiscal year 2011 earnings conference call. [Operator Instructions] I will now turn the conference over to Peter Ausnit, Vice President of Investor Relations. Mr. Ausnit, you may begin.

Thank you. Welcome to EA's Fiscal 2011 Third Quarter Earnings Call. Today on the call, we have John Riccitiello, our Chief Executive Officer; Eric Brown, our Chief Financial Officer; and John Schappert, our Chief Operating Officer. Please note that our SEC filings and our earnings release are available at investor.ea.com. In addition, we have posted earnings slides to accompany our prepared remarks. Lastly, after the call, we will post our prepared remarks, an audio replay of this call, and a transcript. This presentation and our comments include forward-looking statements regarding future events and the future financial performance of the company. Actual events and results may differ materially from our expectations. We refer you to our most recent Form 10-Q for a discussion of risks that could cause actual results to differ materially from those discussed today. Electronic Arts makes these statements as of February 1, 2011, and disclaims any duty to update them. Throughout this call, we will discuss both GAAP and non-GAAP financial measures. Our earnings release and the earnings slides provide a reconciliation of our GAAP to non-GAAP measures. These non-GAAP measures are not intended to be considered in isolation from, as a substitute for, or superior to our GAAP results. We encourage investors to consider all measures before making an investment decision. All comparisons made in the course of this call are against the same period in the prior year unless otherwise stated. Now I'll turn the call over to John Riccitiello. John?

Thanks, Peter. We are pleased to report a very good Q3 with non-GAAP EPS at the very high end of our guidance range and ahead of expectations. We are revising our full year non-GAAP EPS guidance upward from a range of $0.50 to $0.70 to a revised range of $0.60 to $0.70, and today, we are also announcing a $600 million share buyback. EA continues its focus on our three strategic objectives to drive shareholder value: producing fewer, better, bigger packaged goods games, driving growth in digital, controlling costs and creating operating efficiencies. In Q3, we delivered against these objectives. Fewer, better, bigger. We had five intellectual properties, each of which sold in over 5 million units collectively approaching 35 million units to date. Our Digital business is on a roll. We are tracking to our FY '11 non-GAAP Digital revenue target of $750 million. In Q3, Digital revenues were up 39% year-over-year. We are focused on the largest and fastest-growing digital segments across PCs, mobile devices and consoles and the most lucrative business models, microtransactions and free-to-play. Digital revenues derived from Packaged Goods were up over 100% year-over-year. Our focus on cost is working. Year-to-date, our operating expenses are down 7%, thanks to lower headcount and a more focused portfolio. Driving hits, building our digital business, aggressively managing costs. These three strategies put us in a position to raise our non-GAAP EPS guidance and build shareholder value. We are also creating shareholder value through our capital structure. Based on the operational progress we're making and the improved visibility we have in our business, we're announcing a $600 million share repurchase program. Now I'll turn the call over to Eric.

Thank you, John. Non-GAAP revenue of $1,410,000,000 reflected solid front-line title performance on Need for Speed: Hot Pursuit, Medal of Honor and The Sims on console. Catalogue revenues of 30% were in line with seasonal patterns. Digital revenues were strong, growing 39% year-over-year. Q3 non-GAAP EPS was $0.59, exceeding consensus and at the higher end of our guidance range of non-GAAP EPS of $0.50 to $0.60 per share for the quarter. Q3 non-GAAP net revenue was up 5% year-over-year. Q3 GAAP net revenue of $1,053,000,000 was down by 15% year-over-year due to a higher percentage of our sales being subject to deferral. The effective foreign exchange rates on non-GAAP revenue year-over-year was an adverse impact of $19 million this quarter. Q3 non-GAAP gross profit margin was 58.7% compared to 51.6% a year ago due to a higher mix of EA on titles and a greater percentage of digital revenues at higher margins. On a GAAP basis, gross profit margin was 44.3% versus 47.4% a year ago, again due to a higher percentage of our sales being subject to deferral. For the 12 months ended Q3 fiscal '11, non-GAAP gross profit margins improved by over eight points from 52.3% to 60.4% on an improved mix of EA published titles and higher digital revenue. Trailing 12-month non-GAAP operating margins improved from minus 0.1% to positive 6.4%. Q3 non-GAAP operating income was $272 million versus non-GAAP operating income of $154 million a year ago, up approximately 75%. On a GAAP basis, operating loss was $303 million versus an operating loss of $107 million a year ago due to a $154 million restructuring charge in the quarter and lower GAAP revenue, again due to a higher percentage of our sales being subject to deferral. Non-GAAP earnings per share was $0.59 versus $0.33 a year ago, up over 75%. GAAP diluted loss per share was $0.97 versus a diluted loss per share of $0.25 a year ago, driven by one time restructuring charges. Headcount. We ended the quarter with 7,742 employees versus 8,537 a year ago and 7,820 in Q2 fiscal '11. 22% of our employees are now in low-cost locations. Cash flow from operations this quarter totaled $349 million versus $221 million a year ago. Our trailing 12-month operating cash flow has increased significantly to $320 million, which is up $206 million versus the 12 months ending Q3 last year. Capital expenditures have also declined and trailing 12-month free cash flow of $260 million is up by $221 million versus Q3 last year. EA is tracking to an estimated $200 million to $215 million in operating cash flow this year, including cash restructuring payments for actions concluded this quarter. EA has over $5.75 per share in cash, short-term investments and marketable securities and is debt-free. Inventory levels were well managed in the quarter and fell to $105 million from $144 million in the prior year. We are carrying significantly less distribution-related inventory compared to last year. DSOs also improved at 46 days this quarter versus 51 days for Q3 last year. Reserves for sales returns and allowances as a percentage of trailing six-month non-GAAP net revenue were 15%, up from 11% a year ago, and are up on a nine-month basis to 12% from 8% last year, driven by increased reserves relating to EA SPORTS Active 2. Sector performance. Overall, the Worldwide Interactive Entertainment segment, inclusive of Packaged Goods and Digital, was up an estimated 7% in calendar 2010. Packaged Goods were down 4% for the year and Digital continues to perform well and is up approximately 25% for the year. Packaged Goods. EA was the number one publisher in 2010 with 17% share in North America, 17% in Europe and 17% overall in the Western world, with 16% share coming from EA published titles excluding distribution versus 15% a year ago. Our share in Q3 fiscal '11 was 15% overall, with 14% in North America and 17% in Europe. Industry software sales on high-definition consoles and PCs remain strong and play to EA's portfolio strength on these platforms. In 2010, PC and high definition console software sales in the Western world grew by 17% and were up 23% for the quarter. For fiscal '11, we expect that approximately 80% of EA's total Packaged Goods revenue will be on these growing high-definition platforms. Software sales for low-definition and handheld platforms, including the Wii, PlayStation 2, PSP and Nintendo DS, are down by an estimated 24% for both the quarter and the year. In Q3, our key front-line Packaged Goods titles were Medal of Honor, Need for Speed: Hot Pursuit and The Sims on console. Medal of Honor and Need for Speed Hot Pursuit has each sold in over 5 million units to date. EA SPORTS Active 2 was well below our expectations for the quarter. EA's catalogue revenue in Q3 was 30% of our sales compared to 40% in Q3 last year. FIFA 11 and Madden NFL 11 were particularly strong catalog titles. Madden NFL 11 has sold in over 5.5 million units to date, and FIFA 11 has sold in over 11.5 million units to date. Need for Speed was a front-line title in Q3 this year and a catalogue title in Q3 last year. Digital. Q3 non-GAAP Digital revenue increased by 39% from $152 million to $211 million year-over-year, comprising 15% of total revenue this quarter. For the trailing 12 months, EA generated Digital revenues totaling $721 million, up 38% year-over-year. Mobile revenue was up 12% year-over-year and was up 31% sequentially at $64 million, thanks to growth in smartphone-related revenue, which more than offset a reduction in feature phone-related revenue. Notable digital contributors included FIFA 11 Ultimate Team mode on Consoles, Angry Birds on smartphones and DLC Light Battlefield: Bad Company 2 Vietnam. As of the end of Q3, we had approximately 98 million registered users in our Nucleus consumer registration system, up from 50 million a year ago. It is worth noting that we broke through to over 100 million registered users in January. Titles like FIFA 11, Battlefield: Bad Company 2, and Madden NFL 11 drove registrations in Q3. Please note that in addition to our Nucleus registered users, we have tens of millions of additional consumers playing our social and browser-based games. EA's 39 million monthly active social game users or MAUs and 7 million daily active users or DAUs. Playfish experience improved monetization on the continued strength of Pet Society, Restaurant City, FIFA Superstars and Madden Superstars. Restructuring update. We successfully completed our restructuring plan for certain license and development agreements this quarter. In Q3, we incurred a total GAAP charge of $154 million, with an expected additional GAAP charge of approximately $20 million in future quarters. This is consistent with the $180 million total charge we projected last quarter. Share repurchase program. We are initiating a $600 million share repurchase program to be executed over the next 18 months. We have a strong cash position, which is sufficient to meet small-scale acquisition requirements, and our earnings model is improving as our digital portfolio expands. We believe a share repurchase is a good way to deploy excess cash and improve returns for our long-term shareholders. Guidance. Based on results to date, we are raising the lower end of our fiscal '11 non-GAAP EPS guidance range to $0.60 to $0.70, up from $0.50 to $0.70 per share on 334 million diluted shares. This corresponds to a non-GAAP operating income margin of approximately 7.5% to 8.4%, with approximately $5 million in other income and expense. Our fiscal '11 GAAP net revenue guidance is $3.47 billion to $3.57 billion and our fiscal '11 GAAP EPS guidance is a loss of $0.90 to a loss of $0.70 per share, which includes restructuring charges. For Q4 fiscal '11, we expect non-GAAP net revenue between $850 million and $950 million, and we are raising our non-GAAP EPS guidance range to $0.15 to $0.25 per share. Non-GAAP gross profit margin is expected to be approximately 67% to 68%. Operating expense is expected to be approximately $505 million to $520 million, and share count is an estimated 337 million. Our updated guidance assumes the following foreign exchange rates for the balance of the fiscal year: USD $1.31 to the euro, USD $1 to the Canadian dollar, and USD $1.54 to the British pound. If spot rates as of January 26, 2011, persist during the fourth quarter, we anticipate a negligible impact to non-GAAP EPS and an approximate $10 million benefit to non-GAAP revenue for the year. On a non-GAAP basis, we expect a total of $3.68 billion to $3.78 billion in fiscal '11 revenue. Our Packaged Goods expectations call for publishing revenue ranging from $2.73 billion to $2.83 billion. Our distribution revenue expectations are for approximately $200 million, and we expect approximately $750 million in digital revenue. Our title schedule now assumes 37 titles in fiscal '11 versus 35 titles previously. EA plans to release 10 titles in Q4. Our top 20 titles for fiscal '11 are expected to generate approximately 77% of total non-distribution Packaged Goods revenue. This compares to 76% in fiscal '10. We expect full year non-GAAP operating expenses to be approximately $2 billion, and we expect 26% to 27% R&D, 19% to 20% marketing and sales and 7% G&A for the year as a percent of total revenue. EA is incurring significant development costs for the Star Wars MMO, which is expected to ship in calendar 2011 but after the close of fiscal '11. We expect to end fiscal '11 with total headcount of less than 8,000, and we continue to move resources from high-cost to low-cost locations. Total low-cost location headcount is expected to increase to 23% by the end of fiscal '11. We will provide fiscal '12 guidance when we report Q4 results. For now, we will provide only the highest level of framing for our fiscal '12 plans. For the sector overall, our expectations for calendar 2011 are very similar to calendar year 2010 actuals in terms of Digital, Packaged Goods and overall growth worldwide. We expect to increase fiscal '12 non-GAAP EPS by double digits percentage-wise and to continue to grow Digital revenue aggressively. We are expecting to ship Star Wars: The Old Republic in fiscal '12. We are also planning our NFL business conservatively, given the possibility of a lockout. In terms of phasing, we expect the year to be a bit more back-end loaded, given our expected title ship dates and to have Q1 fiscal '12 non-GAAP EPS come in approximately $0.15 to $0.20 below our Q1 fiscal '11 actuals due to fewer front-line title releases compared to last year and the absence of the FIFA World Cup title. We are optimistic about our fiscal '12 outlook and look forward to sharing our plans with you next quarter. Now I'll turn the call over to John Schappert.

Thanks, Eric. I'm going to start with a perspective on the industry and EA's retail performance. I'll finish with an update on our games and services. Regarding the industry, it is important to note that while retail software has declined overall, sales of Packaged Goods games for high-definition consoles are actually growing. In 2010, total worldwide Packaged Goods declined 4% but software for high-def platforms, PlayStation 3 and Xbox 360 grew by 22%. Recognizing the strong performance of PS3 and Xbox 360 is an important filter for understanding EA's business. Our portfolio strongly favors these growth platforms and we now command a 22% segment share on HD consoles and Western markets. Our second point about the industry relates to the reliability of retail tracking services and the near total absence of digital sales recorded by those databases. This is a point I made on our last call. Today, we estimate that digital sales represent roughly 30% of revenue in Western markets and roughly 45% worldwide, sales not captured in the retail tracking data. The exclusion of this data works to the disadvantage of investors and companies that participate in this sector. So my take away is this. Contrary to the headlines, there's a solid growth story for publishers that have invested in HD consoles, as well as digital goods and services. We've made smart bets on good platforms. Now I will review EA's performance in Q3. I'll start with Packaged Goods. As Eric mentioned, we were the number one publisher in Packaged Goods in 2010. In Western markets, our share in Q3 was 15% overall, 14% in North America and 17% in Europe. Our new releases delivered, including Medal of Honor, Need for Speed: Hot Pursuit, and The Sims 3 on console. Our catalog also continued to perform well. FIFA 11 is up 16% from last year, selling an over 11 million units to date. By now, you're familiar with our mantra, fewer, better, bigger. We have dramatically reduced our skewed [ph] plan, improved our overall product quality and focused on hits we can take to the top of the charts. This strategy is working and our average revenue per title is up 25% year-over-year. For 2010, we had five titles that sold over 5 million units, and five titles in the top 20 in the western world. And the quality will continue in Q4. Last month, we released Mass Effect 2 for the PlayStation 3 and earned a near-perfect 95 rating. The game shipped simultaneously as both a disk and a digital download and is doing well in both channels. Last week, we released Dead Space 2 from our Visceral Studio. The game launched with a 91 rating, and is approaching 2 million units sold in, with double the sell-through of the original Dead Space. And we will finish out the quarter with an armada of big titles: Need for Speed SHIFT 2, Dragon Age 2, Dark Spore, Tiger Woods PGA 12, the Masters, Fight My Champion, Crisis 2 and Bulletstorm. Now I'll turn to our Digital business. As Eric mentioned, we are on track to hit $750 million in total Digital non-GAAP revenue this fiscal year, a 30% increase over last year. The market for digital games continues to expand rapidly as millions of new and existing consumers purchase and play our franchises on smartphones, tablets, e-readers and online. In December, a well timed promotion of our iPhone and iPad games resulted in an unprecedented share and chart position for our title. The day after Christmas, when millions were activating their new devices, EA held 14 of the top 25 paid apps for the iPhone and 15 of the top 25 paid apps for the iPad. Needless to say, we had a record-breaking quarter on iOS. Each of these devices represent a new platform, a new revenue stream and millions of new consumers. Our strategy is to maintain and grow our leadership in this market, create new titles and extend our existing franchises onto these new platforms. At EA, we are particularly proud of our leadership in this space. We are the number one publisher on Apple's iOS platform, both iPhone and iPad, number one on Windows Phone 7, number one on Blackberry's App World, number one on Kindle and a top publisher on Android with two of the top five paid apps from Christmas to New Year's. On Kindle, our SCRABBLE game out sold all books to become the number one selling download in the Kindle store from Christmas to New Year's. And Angry Birds was the number one selling game for both iPhone and iPad in 2010. Another big Digital opportunity is on Facebook. Last year, we saw a drop-off in games related to changes on the Facebook platform, but we are encouraged by the recent turnaround. We're seeing an increase in game traffic on Facebook and believe this side has stabilized, with a current estimate of 290 million gamers playing an average of three and a half hours per month. EA Playfish is the number two publisher on this category, with a lot of potential for growth. Our leadership on mobile and smartphones taught us a great deal about how these new platforms evolve. We know that consumers are attracted to new experiences but quickly aggregate behind high quality and the brands and franchises they recognize from other media. At EA, we have the IP and multi-platform capability to leverage that consumer evolution. Last year, EA SPORTS launched Madden NFL Superstar and FIFA Superstars on Facebook. Both games have loyal followings and strong monetization. This week, in partnership with Hasbro, we launched Monopoly Millionaires on Facebook and our popular casual gaming site Pogo is in beta on Facebook. Dragon Age Legends is now in closed beta on Facebook and represents a new genre for social gaming based on BioWare's successful Dragon Age franchise. In 2011, you'll see more of EA's big franchises come to Facebook as well as new original offerings. That's our outlook, so let me summarize. In the Packaged Goods segment, we are seeing good growth on the PlayStation 3 and Xbox 360. EA's fewer, better, bigger strategy is working. We are generating more revenue and profits on fewer titles. And in Digital, EA is the clear leader on iPhone, iPad, Blackberry, Kindle and other rapidly growing platforms. We're number two on Facebook, with a solid strategy for introducing and monetizing high-quality, globally recognized properties. Games are rapidly transforming into a much bigger, much more accessible industry. EA has the brands, strategies and cross-platform capability to lead that transformation. Now I'll turn the call back to John Riccitiello.

Thanks, John. We started fiscal '11 with much to prove. We opened the year with a strong balance sheet and a plan to have fewer titles, drive stronger sales, and increase profitability. We also set the goal of growing our Digital business by more than 30% to $750 million. And to do these things while again cutting costs. We had much to prove and so far in fiscal '11, the proof is in our results. EA is executing against three strategic objectives. We are outpacing the industry in terms of digital growth, and we are creating meaningful digital revenue streams in a well-positioned Packaged Goods business. And we are proving that our IP is working well, not only on the growing high-definition platforms but also on casual platforms from social networks to mobile, helping drive our rapid growth on the digital side. We continue to lead in the most attractive segments of a growing game industry. Looking forward, we continue to be optimistic. Our Q4 slide is ready to go and headlined by great IP including Mass Effect, Dead Space, Dragon Age, Need for Speed and a new Masters Golf title. We also have two great shooters in Bulletstorm and Crisis 2. We are proud to call Epic and Crytek our partners. Net, we are pleased with our performance in fiscal year-to-date. We've continued to execute our three-core strategies. We are raising our full year non-GAAP EPS guidance. The strength of our business and balance sheet, together with improving visibility, are the reasons we are initiating a $600 million share repurchase. [Audio Gap] Our results demonstrate it's happening at EA. The share repurchase is good for shareholder value and it is also a strong demonstration of our belief in EA's digital strategy. With that, we are happy to take your questions.

[Operator Instructions] And we will take our first question from Brian Pitz of UBS.

Would you share with us your ARPU within the Facebook portfolio? Currently, any trends you can comment on with respect to monetization of the 298 million-plus users and any commentary on ARPU? Just generally, are they encouraging or not?

Brian, John Schappert. With respect to ARPU and Playfish or Facebook, we don't break that out per se. What I can tell you is, we are relatively light release schedule this quarter, and we've been focusing on improving our ARPU and monetization, and we're very happy with that. And in fact, our run rate of revenue and our ARPU are up double-digits quarter-to-quarter. So very pleased with the results there. And we're certainly seeing the platform stabilize. In fact, we're seeing some new life as some new competition has arrived with new players coming back there and certainly, the addition of Facebook credits we think is going to be a long-term positive, too.

Just on the Kinect, can you give us an update on your outlook for Kinect titles over the next calendar year? And do you think EA SPORTS Active 2 would have fared better if it were a Kinect title?

So first, EA SPORTS Active 2 was a Kinect title. In fact, it was only for the Kinect on the Xbox platform. And so I think it actually was a very good title for that platform. We think that Kinect did very, very well. We congratulate Microsoft on the success there. We were happy with our showing with Active as well as Harry Potter. We saw a nice lift on Harry Potter with the Kinect support in it. And we look forward to them continue to sell Kinect and continue to move hardware install base of the Xbox 360, where we're the number one publisher on that platform.

This is John. Just to add to that. Again, both Microsoft and Sony had good holidays with their hardware peripherals Kinect and Move. We're optimistic they're going to show continued growth and strength through the calendar year, and we'll be ready.

Our next question will come from Justin Post of Bank of America Merrill Lynch.

John, you had the buyback question for many years now. Can you give us more light on why now you're feeling better about EA's cash flows or margin structure? And then maybe on the other side of the coin, maybe your exposure to the NFL strike, how that might affect Madden and what payments to the NFL are kind of fixed versus variable?

I'm going to touch lightly on the buyback and have Eric go into that a little bit deeper, Justin, then I'll come back to that NFL. But in principle, what we've said on the call, was in terms of our previous comments, is pretty straightforward. We feel very good about our business. We're up year-over-year, year-to-date, very sharply in terms of our EPS, our margins are growing and we have improved visibility on our Digital business, given how strongly it's been growing several quarters in a row. That in combination with our -- use our stock as a bargain at its current price got us to move. Eric, you want to add on that?

Yes, the only thing we said is that we would largely finish up this fiscal year, assess uses of our capital vis-a-vis M&A. We've decided that number one, for the foreseeable future, we're not going to entertain large-scale M&A. We still reserve the right to do small-scale M&A like Chillingo, which has been working out quite likely for us. Our margin structure has been improving, our digital status is on track. We're confident we're going to hit the $750 million digital for the full year. And given the excess capital, we think that this is an appropriate time to return some of it to the stockholders.

In terms of the NFL, I could tell you that our base assumption going into the plan is a very conservative one. Of course we, like you, are looking forward to the NFL and the PA resolving their differences, and starting the season on-time this year. But in terms of a planning assumption, which is also baked into the limited guidance we provided, which was double-digit growth year-over-year in EPS, we baked in at least in our thinking, the most conservative assumption, meaning no season. We're optimistic it can be better than that, generate further upside.

Our next question will come from Edward Williams of BMO Capital Markets.

Can you comment a little bit how you are seeing DLC revenue for Packaged Goods sales? What sort of incremental revenue are you getting on a per game basis? And how should we think about kind of modeling it on a going forward basis?

This is Eric. Actually, we posted some additional slides on the website here that will show you examples of the DLC attach rates that we're seeing. We have titles like FIFA 11 turning towards $40 million in additional digital revenue. Battlefield Bad Company 2 generation to generation is now well into the double-digits of additional digital content. So net, DLC is performing well year-over-year as well as sequentially. At this point in time, all of our titles are digitally enabled with some form of additional DLC. So this is the highest, one of the highest growth sub-segments within digital overall, and we're fully pursuing it.

Just to add to that, I would say that where we are so far, it still feels like we're still scratching the surface. We try a lot of different things, not all of them work. Those that work, we do more of. A good example was with FIFA Ultimate Team, which was two years ago was a very good idea that we tried several things in other franchises and the sports business Ultimate Team took off, expanded across a range, we're getting good results across the range of our sports titles. Expect us to continue to learn and expand here. I think it's a great growth opportunity.

What are your thoughts with regards to expanding it specifically within sports or trying to drive that incremental sales in the sports properties? Are you considering ways to kind of going across brands to drive sports growth?

Without giving away too much of our F12 planning, the answer is yes. But I would tell you we'll expand more on that in the next quarter or so. But we've already expanded the Ultimate Team concept, which is a card-based collectible microtransaction game on the back end of our license sports game, and it's doing very well on all the franchises. It's something that we're very pleased with. And frankly, it's doing better this year than last, and we expect it to continue to grow. So we're already doing it on the range and there's more coming.

And I just might add that we also have it on Facebook with Madden Superstars and FIFA Superstars as well.

And then just lastly, switching to Star Wars for a moment. I understand it's somewhere between April 1 and December 31 but can you give us an idea as to maybe what the headcount is working on the project now, or a little bit more color about how to think about the business model as we start looking into the first 12 months of that game coming out? How the publishing revenue shapes out? How the subscription revenue shapes out?

So a couple of things, and I know I'm not going to satisfy you with this in answer because a fair amount of what you're asking about is either subject to NDA with our partnership with Lucas or alternatively, we don't generally put out headcount for individual titles. I will say the following things though. One is, we previously described to folks that -- 500,000 subscribers saw the game is substantially profitable but it's not the kind of thing that we would write home about. Anything north of 1 million subscribers it's a very profitable business. Essentially, it turns on $0.10 from being most likely -- quite sharply negative in terms of its EPS impact to positive, the day the product ships. So it's an important inflection point for us. I will add a little bit more color on a few things. One is there's been a fair amount of talk on various blogs, describing spends that are vastly higher than anything we've ever put in place. So don't need sort of gamer blogs as having any substance. Some of them are -- they bring a chuckle but they also bring a frustration for those that are being responsible in the management of EA's R&D dollars when they read sort of falsehoods out of the press. The second thing that I would tell you is that the game is looking very good. A number of you will have seen it in a variety of our consumer shows. It's only gotten stronger. We feel very good about the title. We're currently testing it with a large-scale consumer testing but not sort of at the beta scale level rise over the coming months. One of the reasons that we have pushed our guidance to May, which is where it's historically been over most of the life of Electronic Arts, is so we had a better insight on just this title and things like the NFL situation, so we can provide more precise guidance.

Our next question will come from Arvind Bhatia with Sterne Agee. Arvind Bhatia - Sterne Agee & Leach Inc.: First, can you touch on your 3DS strategy? I know you've got Madden as one of the titles, but how many do you think you'll have by June or say by the end of calendar year? And then, can you also touch on your margins that you're getting on digital? Eric, I know you've talked a little about it in the past, but if you could maybe update us on what kind of margins you're generating on the Digital side?

So this is John Schappert. I'll take the first question on 3DS. We have previously announced three titles for the 3DS: Madden, FIFA and The Sims. We expect to have two of those out on launch day and the other to follow obviously in the calendar year. So that's as much as we're providing right now for our 3DS strategy. But we do expect to have two of those out on launch day.

And Arvind, this is Eric. In terms of digital margins, they're continuing to improve. Again, we don't break it out discretely but as our mix of Digital business increases, right now, I would just note that we're at $721 million on a trailing 12-month actuals basis. So that's why we're confident hitting the $750 million target. For us, F12 will be a bit of a step function in Digital margins because the Star Wars franchise will ship. That's going to contribute significantly to digital revenue, digital margin. Our scale Digital businesses $100-plus million i.e. mobile, i.e. Pogo R&D the 20-plus, 30% fully allocated net out margin range and so what we aspire to is creating more business in that scale category to drive digital margins well north of 20% overall.

Basically, one way to think about our digital business in general, when they start their investments in small-scale obviously, they remain investments but what we're seeing pretty much across-the-board is at scale, they are higher margin than a traditional Packaged Goods business. They're far more predictable than a traditional Packaged Goods business and they have nowhere near the same level of seasonality. So there's a number of reasons to like these businesses and the transformation.

Our next question will come from Atul Bagga with ThinkEquity.

A couple of questions on Digital business. Number one, can you talk about how big is direct download on console right now? And what kind of growth you're seeing there? And also, if you can talk a little bit about your view on games as a service on console? Do you see that happening? Do you see microtransaction based business model -- purely microtransaction based business model, subscription based business model on console? And then lastly, other housekeeping, can you talk a little bit -- on a Mobile business, can you break out how much of the smartphone business versus feature phone?

This is Eric. We'll take this in a couple of parts. So in terms of digital revenue breakdown, actually, we provided some supplemental slides on our web site, and I'm going to give you some trailing 12-month non-GAAP numbers for four types of digital revenue. And so the sum total on a TTM basis of the extra content so it should include free-to-play, DLC and microtransaction-based content. That's $220 million. A full game downloads to your question which includes full-game PC downloads and full-game console downloads is $88 million. The overall Mobile business on a trailing 12-month basis is $228 million and the total of our subscription ads and other forms of digital revenue is a total of $185 million. So that puts to the $721 million trailing 12-month Digital revenue. I think the second part of your question, I think John already touched on it is the notion of leveraging properties within the portfolio. There is -- one of the things we are thinking about is ways to expand our subscription offerings both for PC and potentially console that seems to be an opportunity. Right now, we're quite focused on subscription in the PC space at the upcoming Star Wars MMO. And the third part of your question...

Before we get to mobile, you asked specifically about games as a service on console. When we originally launched FIFA Ultimate Team, we sold the client, and we provided a substantial amount of, if you will, what we now have as microtransactions, the cards as part of that original sale, which mitigated against people actually trying it. We ultimately decided to give away that Ultimate Team client and do microtransactions, which is essentially games as a service. We saw a dramatic uplift in revenues associated with Ultimate Team and the consequence of doing that. So I would argue that at the moment, we're already doing games as a service on console. In many ways, we pioneered this with The Sims by basically every five years releasing a core Packaged Goods title and then expanding it with expansion content over time and that consumers buy in very high percentage of our original purchasers, if you will, games as a service but managed through retail because online services weren't scaled enough and fast enough to support what you might think of as a direct consumer relationship. Today, every single one of EA's Packaged Goods games has some sort of a post-release business model and including all of our console games. Titles like Battlefield, Medal of Honor, Need for Speed, have rich and expansive post-release content. The only difference between, I would argue, it being games as a service and post-release downloadable content is the pricing model. We've already broken through that with FIFA in our sports titles, and I think over time, expect us to start to monetize that post-release revenue stream on either through subscription or ongoing microtransaction. My colleague, John, just reminds me by the way, we also did Mass Effect 2, day and date on the PlayStation Network on a download basis, which is again sort of getting at the larger question of direct services on console. We're building that in so many different ways it's almost hard to count. Your third question was mobile?

The third question was mobile. In respect to feature phone versus smartphone and the take away there is feature phones are dropping dramatically while smartphones are growing, or outpacing the falloff of feature phones in a large way. So we're very, very happy with our position on both but at the end of the day, feature phones are certainly falling, smart phones are outpacing that growth and frankly, that's really with the only mature store, if you will, right now is the Apple App Store but many others coming online in a big way. So we're seeing very, very good growth on iOS and very nice strong growth in handsets on Android and the others as well.

And how big the smartphone business could be out of overall Mobile business?

We don't break that out. Just this one color commentary on it. Up until this past quarter, I would say that our net revenue is also often more weighed by the smartphone business than they were by -- weighed down by the feature phone business than they were weighed up by smartphones. We sort of flipped a bit on that one in the past quarter and I think what's driving the boat right now for us is smartphones, iOS, Androids and the rest. So that's another transformation that's taken place inside our business.

Our next question will come from Andre Glukhov with Brean Murray. Andrey Glukhov - Brean Murray, Carret & Co., LLC: John, first of all, can you talk about -- I realize you don't want to kind of get into the details of the guide for next year, but I think you mentioned in the past that you expect to trim the front-line title slate again a little bit in 2012. Can you maybe update us on your thoughts on how that is going to play out? And then Eric, just on the housekeeping, when you talk about the double-digit EPS growth next year, what assumptions, if any, you're making on the buyback impact of that?

The first part of your question, you're right, I'm going to half dodge because we don't want to give half guidance today as opposed to full guidance later. I would say one of the interesting realities of calendar '10 is we grew share while cutting our title slate enormously. So that's that fewer, better, bigger that we keep talking about. And when we show you our F12 slate on the next call, I think you're going to see fewer, better and ginormous on a couple of our titles. So not to use bad word choice, but it's quite seriously, we're not intending to go backwards. We are intending to manage our intellectual properties intelligently and we've got some of the world's best intellectual properties, with Battlefield and The Sims, with Need for Speed and Madden, with FIFA and Dragon Age and Mass Effect. And so we're getting behind these core franchises and driving them ever harder.

This is Eric. I would just -- just to amplify that previous point a little bit, on a trailing 12-month basis on 26 EA titles x distribution, we've increased share versus 42 titles in the prior year trailing 12-month basis. So it really kind of punctuates the notion that we're gaining share with fewer titles. And the F12 guidance question, we do expect non-GAAP EPS to increase in the double-digits, excluding any benefit from buyback and share reduction.

Our next question will come from Colin Sebastian from Lazard.

One question on the smartphone business. I wonder if you could talk about the pricing strategy there? What appears to be fairly rapid compression to $0.99 at least through some of your promotions and how that translates in terms of volume and profitability in that segment? And then on the core business, Need for Speed and Medal of Honor, based on the performance there, do those have the potential to be annual franchises going forward?

John will take the Mobile piece and I'll do the Need for Speed, Medal of Honor.

Sure. With respect to Mobile what I think you're probably speaking to is our great sale that we had really through the whole holiday period on the Apple App Store, we had our own call out, and we put a lot of our titles on sale. And we did that because we knew a lot of people had iPhones and iPads under the tree and we wanted their first experiences with gaming on those devices to be with EA Games so we put a good number of them on sale. Our prices have since risen up. So it was a great way to kind of get them involved and have them have our EA Games installed where they can then explore other EA Games. So we're happy with the profit that we're making and we're happy with the volume that they drove. And with respect to pricing, while there is a lot of competition in that market, again, strong brands can command premium pricing in that market as well. And we see that on our properties when we release front-line games there.

With regard to Need for Speed and Medal of Honor, I think it's fair to say that Need for Speed has been an annual title and then some for Electronic Arts for many years. What shifted was three years ago, we were suffering from history just before that where the quality had been in decline and consequently, the franchise in decline. It's on a sharp uptick the last couple of years as we've driven high-quality titles ever higher in the charts, particularly in Europe but also in North America. In terms of Medal of Honor, the intention for us at least is to have strong FPS entries each year. I don't want to give away the thunder from our call but for quite a long time now, I've been saying that it's our long-term goal to take back first-person shooter category leadership. We made strong progress in calendar '10 over calendar '09. This year, with the trail end of Battlefield Bad Company 2 still doing well, Medal of Honor doing well, Crysis and Bulletstorm, we're clearly going to make more progress on our goal, and that's before we get to what I think is going to be a very exciting entry later in the year that we're not yet announcing.

Our next question will come from Mike Hickey with Janco.

I was just curious your view on the emergence of 3D smartphones and how that can impact your game business and potential pricing power and I guess also how important you think 3D is to the value proposition of any gaming handheld?

Well, this is a tough one because I'd have to say that first off, hats off to Nintendo for producing a very innovative device. Frankly, I personally interacted or tried just about anything and everything there is to play relative to 3D on a variety of devices. My personal view is the larger idea, at least for the present, it would be more the connected game, whether it's -- personally, I'm sort of more in the camp of believing that the IPTV is a bigger idea, at least for gaming, near term than the 3D is. It provides better social experience, and we know that consumers playing with one another is a very, very positive and powerful motivator. Whether it's a Facebook game, a console game, a PC game, or a game on a casual device. So while we're -- there's no doubt that our industry will have its share of Avatars, where 3D is a defining aspect of the game and we're certainly going to see some of those on the 3DS and other devices. In terms of the new wave of technology, I'm mostly interested with all the mobile devices that are coming out and how they're being connected to one another and have the same IP shared over-the-top. I think that's actually a bigger driver for Electronic Arts gaming industry in the near term.

And then Eric, I have a quick follow-up. Can you just explain the sales weakness in Q4 because it looks like you reiterated your pipeline and you also announced that Tiger Woods is going to ship in Q4. I think that's traditionally a Q1. And given that the first two games were also very strong in quality, I was a little surprised to see the slippage on the top line.

Well, a slight change in mix. Obviously, we have different catalog performance coming out of Q3 going into Q4. And to be very specific, last quarter, we gave guidance of $0.13 to $0.23 and we've upped it to $0.15 to $0.25. So net, we've increased guidance for Q4.

Our next question will come from Tony Gikas from Piper Jaffray.

International is becoming a bigger piece of the puzzle right now. Can you outline margin profile there and what type of improvement you might be seeing? And then second question, on Star Wars, and I know you don't need millions of users to be profitable, but how big do you think the market is? Is there a big market for MMO games here in the U.S. and Europe? I think the largest MMO game in the market isn't growing. It's actually in decline in terms of number of users. But how big is that opportunity in terms of number of users?

Well, I can comment briefly on the international exposure. We're doing very well internationally, particularly in Europe. Obviously, Asia remains relatively small for us. And our Packaged Goods business has a very similar margin profile domestically as it does in Europe. You might be getting at something else and I'm going to let Eric ponder that question to see if there's more to it. In terms of Star Wars and its potential. Well first off, I don't believe our leading competitor has announced that they've come down in subscribers. I think they actually announced an increase in subscribers. I'd love to know your source of data there. I would make these points though. Western markets, we estimate that the leading competitor has 6-ish million subscribers -- paying subscribers and that they've got approximately half of the market that seems to be growing in the 5% per annum basis on the number of subscribers. So call it 12 million people paying for subscription-based gaming, in the way that we would view as competition. We previously indicated that sort of 1 million subscribers or more rings our bell, does very well for us economically. So it's our view that we can be very successful without fundamentally challenging the market leader because we think we'll probably hit the smaller competitors harder when we get out there. Of course, we have no particular ambition to be a distant number two. Our ambitions are higher than that, but we throttle back a little bit relative to our financial projections.

In regards to the question about international, I would say that if we look year-over-year, Europe performed quite well for us. I mean, Europe grew 29% year-over-year for the quarter in terms of non-GAAP revenues. Part of that is attributable to the strength of the FIFA title. FIFA is already at 11-plus million units sold in and counting and obviously, that plays more to the European audience versus the North American audience. In other areas of the business, we see that microtransactions and free-to-play, there tends to be a higher level of monetization ARPU or RPPU for the North American consumer versus Europe. So that represents an opportunity in Europe on the digital side relative to where we are today.

In that regard, I think in general, what we tend to see with most of the business model evolution is Europe trails North America by a year, year and a half. I think it's done that historically in lots of different ways that I can point you over the years in the game industry. I think it's a function of the fact that North America has got such a large single target for the console makers and the publishers, and it just takes a while to get that same level of adoption to new business models in Europe when it's a little bit more, if you will, diffused against that series of national markets.

Just on the competitive game, I think they're stable at 12-plus million users, but I think the user base is shifting to Asia and we're seeing declines in Europe and the U.S. Do you think that market is really declining?

To be honest with you I think and let me stop by saying I'm not going to give a snide comment about a leading competitor. They've made a spectacular product, it's done exceptionally well for many years. I think what you're pointing to is it might be getting tired after so many years. I don't know that to be the case. I have not seen them announce that their western market numbers are coming down. But I do think that the market would be absolutely receptive to something fresh and new and differentiated, if you will, lightsabers versus swords. I think there's a marketplace for us here and we're going after it aggressively.

Our next question will come from Eric Handler from MKM Partners.

You've got a pretty sizable slate for the March quarter. I'm just curious if you could give us some commentary about what you're hearing about retail inventory levels and what the appetite is among retailers now in terms of their order flow?

This is Eric. I'll answer part of the question. We can give you some data on the Q4 title just launched about a week ago. Dead Space 2 rated 91 Metacritic and is selling through extremely well. In fact, when we comp it over Dead Space 1, which launched in a holiday period in the prior reiteration, it's outselling 2:1 on a comparable period basis. So that's one indicator that we have thus far on one of our key Q4 titles.

Yes, I think what we're actually hearing more than anything right now is the East Coast is under three feet of snow. So the one thing that we're also noticing is it's a little sluggish on the East Coast right now because consumers aren't getting out but it's not affecting -- it's not that big a deal. The consumer will come back when they clear the roads.

And I would just say the other data point we have for Q4 is Mass Effect 2, which we launched on PS3, which we said in our prepared remarks, was doing well in both retail and digitally online. So our first two big dogs out the door are doing well.

And I think if you want to get a sense of why our title count is where it's at, it's a little higher than what it was last year, it is [ph] higher than it was last year. We had announced we'd move Crysis from Q3 to Q4. I think we picked up a distribution title. If it weren't for that, we'd pretty much be tracking as we had originally planned in terms of our titles slate and I think the titles slate ended up a little richer that got captured in guidance two calls ago. So there's nothing sort of unusual in the quarter about the size of our title slate. Q4 is often been a great quarter for us. It's sort of a second quarter of emphasis in terms of product launches relative to Q3.

And just real quickly on Playfish, how are you seeing Playfish gaining traction internationally, now that it's pretty well established domestically?

Actually, Playfish has always had a very, very good international footprint so that continues. Playfish has had a very light release schedule. They didn't release any new products in the quarter. And again, we've been focused on the core franchises Restaurant City, Pet Society, Madden and FIFA Superstars, and doubling down on their ARPU and monetization while we ready new releases. We just released Monopoly Millionaires on Monday, Pogo is in beta and we also announced that Dragon Age Legends is also on beta. So we've got some good titles coming out the pipe which we think will post some nice growth for them.

Our last question will come from Daniel Ernst from Hudson Square Research.

Just going back to the -- much importance on this Digital growth strategy but looking at the slide you guys put out on the growth rates various segments, console-based digital growth up 130% year-over-year. So there was a lot of talk in the game industry about kind of the death of consoles and how digital is taking over. But it's interesting to look at how the fastest-growing area in Digital for you is actually on the consoles. I'm wondering how you think about that in terms of where you invest your R&D dollars or dollars for properties that are going to grow with Video business, given that the core console's actually delivering excellent growth in digital. And then second question, just to clarify a comment you made about the performance of catalogs from Q3 to Q4, you had some excellent selling numbers and wondering if that's sort of an implication for what the sell-through has been post-holiday?

With regard to Digital growth in console, I would also point to another fact that people have been, I think, misunderstanding the actual performance of the console marketplace. We have not been describing a demise of console. What we've been describing is a rise of digital and then within console, a rise of high-definition over the prior generations and the existing generation low-definition platforms. The high-definition consoles, both in hardware and in units of software sold, had a great 2010. And we have every expectation to see that repeated in 2011. That's a growth market. On top of that, we are seeing very substantial growth in the Digital revenue streams, whether it comes through microtransaction or pay-to-play download. And to one of the questions earlier, we're going to see more business model innovation there. So frankly, I'm really pleased with high-definition consoles and the PDLC that we're getting off the back of it.

So a couple of things I just wanted to add on to that. When you look at Mobile, what is misleading in Mobile, as we covered in one question is you're seeing feature phones drop off while smartphones increase. So that's not a fair apples-to-apples comp when you're looking at growth there because smartphones are growing dramatically year-over-year, and they're more than making up for the shortfall from feature phones. And obviously, social gaming is new to us so that's also growing very, very dramatically for us, too.

So to close it out, just to give you some stats on the high-definition software market. So Western world calendar year '10 versus '09. We'd estimate PS3 software is up 28% year-over-year and the 360 is up 16% year-over-year. So obviously, that's a high-growth area and we're heavily invested in DLC. The other part of your question was sell-in versus sell-through and what that means. Key thing to bear in mind is that we had less catalogue revenue this year. Again the key change year-over-year is Need for Speed. It launched in Q3 was a non-catalog title, i.e. front-line title this year versus last year. The other point I would make is we actually increased our SRA reserves. We had a bit of weakness in the EA SPORTS Active, we're very properly reserved against that title. So that's been taken into account in the ending Q3 balance sheet.

So thanks for joining us on the call. That concludes our comments.

Ladies and gentlemen, that does conclude today's conference call. Thank you for your participation. You may now disconnect.