Good day, and welcome to the GameStop Corporation’s first quarter 2015 earnings conference call. A supplemental slide presentation is available at investor.gamestop.com. At the conclusion of the announcement, a question-and-answer session will be conducted electronically. [Operator Instructions] I would like to remind you that this call is covered by the Safe Harbor disclosure contained in GameStop’s public documents and is the property of GameStop. It is not for rebroadcast or use by any other party without the prior written consent of GameStop. At this time, I would like to turn the call over to Paul Raines, chief executive officer. Please go ahead, sir.

Thank you very much. Good afternoon, and welcome to the GameStop earnings call. We always start our calls the same way, but let me just thank every single associate in our organization for extraordinary service and execution this quarter. This was a great quarter, and GameStop once again demonstrated that we will protect our family of associates, customers, and investors going forward. I want to welcome our cast of characters here today: Tony Bartel, our chief operating officer; Rob Lloyd, our chief financial officer; Mike Mauler, our president of international; Mike Hogan, our executive vice president of strategy and business development; Mike Buskey, our president of U.S. stores; and Matt Hodges, our vice president of investor and public relations. Let me say it again. What a quarter. Comps of 8.6%, new software growth of 9.6%, and earnings per share growth of 15%. Starting with core, we couldn’t be prouder of our associates in stores and SSCs around the world, as GameStop grew market share to record levels. The base model of reserving games, providing unique content and trade currency, and delivering midnight launches continues to differentiate us in the market. Digital growth was also tremendous at 17.2%, led by DLC, mobile, and Steam cards. The big idea of offering every company add-on digital content for their physical games continues to play well with publishers and gamers around the world. We are also seeing great growth at our congregate unit on mobile games and are targeting 12 games for publishing this year. Pre-owned business had flattish growth with very high margins. As you know, new software took a little longer to grow last year as we overlapped the decline of old gen. A similar phenomenon is happening in our preowned business, with next-gen pre-owned showing great growth as old gen declines.…

Thank you, Paul. Good afternoon everyone. I’d like to start today by covering the results of the quarter. We had a fantastic quarter. Here are the highlights. Overall results exceeded our expectations in terms of revenue growth, same-store sales, operating margin, net income, and EPS. Sales increased 3.2% in the quarter, driven by next-gen software growth. Comparable store sales increased 8.6%, exceeding the high end of our guidance range by over 300 basis points. Gross margins declined 40 basis points on the strength of 10% new software growth and the resulting shift in sales mix. SG&A as a percentage of sales was 23.3%, down from 24.1% in the prior year quarter due to leveraging the sales growth. Operating earnings increased 17% for the quarter on the strength of our sales results. Interest expense increased $4.8 million due to the $350 million in debt outstanding. Net income increased 8.5% and EPS increased 15.3%. Foreign currency moves cost nearly $100 million in sales, but had minimal impact on EPS. Now, let’s look at sales and margin during the quarter for some of the categories. Hardware sales increased 40 basis points in the quarter, but increased 5.1% excluding FX because of strong demand for the Play Station 4 handheld units. Software sales grew 9.6% or 15.8% excluding FX, driven by our market leading position on strong new titles such as Mortal Kombat X, Battlefield Hardline, and Dying Light. Pre-owned revenue was down 3.4% but actually increased 0.8% excluding FX. At 49.1%, pre-owned margin rates for the quarter were 140 basis points higher than Q4 and comparable to the prior year quarter. Digital receipts on a non-GAAP basis grew 17.2%, or 23.3% excluding FX, to over $220 million for the quarter. As we said in the release, growth was led by sales of DLC…

Thanks, Rob. As Rob and Paul have already shared, Q1 was a strong quarter for GameStop and showed the power of our diversification efforts. We achieved record Q1 market share, gained share in digital, met our pre-owned expectations, and grew technology brands, all while maintaining high customer satisfaction levels. We remain focused on being the premier videogame destination, and we drove 360 basis points of total videogame market share growth during the quarter. We increased our Xbox One and PS4 software share by 420 basis points to 54%, and our new gen hardware share by 260 basis points to 38.5%. On a combined basis, GameStop sold 46% of all Xbox One and PS4 hardware and software combined during the quarter, up 610 basis points from last year. We continue to gain share in a new cycle that is significantly outpacing previous launches. The month of April was even more impressive than the quarter, as we captured 47.6% of all software sold. We sold 57% of all Xbox One and PS4 software during the month and nearly half of all the new gen hardware and software combined. A promotion that we recently ran shows the power of our unique value proposition. During the month of April, we partnered with Microsoft to run a promotion where customers could buy a new Xbox One console for $275 with the trade in of either a PS3 or an Xbox 360 console. We nearly doubled our Xbox One market share during the month, but more importantly, GameStop drove two-thirds of the 63% industry growth that Xbox One experienced during the month. We are providing unprecedented value that is fueling this cycle’s growth. We also gained share in digital receipts as we grew 17.2% after the impact of FX to outpace aggregate growth of our top…

Thanks, Tony. Good afternoon everyone. GameStop’s international business has had a solid first quarter, exceeding expectations with a 6.9% same-store sales increase, record market share, and a significant improvement in operating earnings over Q1 2014. We have now entered our third consecutive year of positive same-store sales growth. Along with growth in the preowned and digital categories, one significant global driver of GameStop same-store sales and profitability increase during the quarter was the expansion of our license, merchandise, and collectables category, or what our customers like to call loot. Driven by exciting new products such as Zelda Monopoly, Game of Thrones Pop Vinyls and Minecraft Lego, this is our fastest growing global category during the quarter, and was accretive to our overall margin rate. As we have mentioned on previous calls, over the last several years, GameStop has focused on expanding its franchise marketing efforts, especially around the launch of major new releases. The global focus on selling related products that tie to software IP, such as Call of Duty, Batman, or Pokemon has helped increase the sales and gross margin per customer transaction and has also been met with enthusiastic demand from our customers, extending the consumer’s experience with the brand they love. Driven by the high demand for these types of products and feedback from our customers through Power Up Rewards, our team in Australia piloted expanding the range of loot in all locations to include other gaming and pop culture related products such as cards, board games, t-shirts, and exclusive collectables related to popular games, movies, and TV shows. With dedicated in store sections and expanded assortment, sales and margin have increased rapidly. Finally, due to the success of our in store loot expansion in Australia, we have also been testing over the past nine months a…

Thank you, Mike, and with that, I think we’ll open it up for Q&A. Operator?

[Operator instructions.] Our final question will come from Mike Olson with Piper Jaffray.

When you talk about the third-party data that suggests only 3% of games purchased were full game downloads, can you just describe how that’s different than maybe what the publishers are talking about with 15% to 20% of software sold as full game downloads? Do publisher numbers include PC or other categories and the third-party data only includes console? Or what else would describe that?

I think what I’ve heard the publishers say typically is they’ll describe their attach rate on a game for a specific timeframe. What DSC Intelligence does is actually talk to consumers about where they actually spend their dollars. So much broader perspective. And they break it down into categories of saying they spent this much into the AAA digital downloads in the downloadable content, this much in the indy games and so forth. So we believe it’s a much more accurate metric. So I think what you’re hearing on the 15% to 20%, as I’ve been listening, is that typically responds to a game for a specific timeframe, generally around the launch period.

But you know, Mike, this is an obscure area, so you’ve got to be careful. We’re reporting on industry data. Our publishing partners report on their own data. So somewhere in between we’ll see what the truth is. All we can do is go by what the industry data is, the third-party data.

Okay, and then for preowned, you’re essentially saying that similar to new software sales growth last year being delayed by legacy gen decline, it’s kind of the same now with preowned legacy gen, essentially bogging that down. You expect that it will kind of tick up later in the year? Is that the right way to read that?

Yes, Mike. That is exactly the right way to read it. Typically you’ll have about a six month lag in that timeframe is what we historically see. So we fully expect for the preowned growth rates to eventually exceed the new growth rates in the back half of the year.

Our next question will come from Arvind Bhatia of Sterne Agee.

I wanted to spend just a quick second on the technology brands, if I could. I know that you mentioned the operating income was down in the quarter. But I still wonder if the tech brands actually outperformed overall versus your expectations this quarter. That’s one. And then just going back to Mike’s question on downloads for a second, you know, whether it’s 3% or 15%, I guess the trend is that increasingly more games are going towards that format. And I just would love to hear your latest thoughts on some of the efforts that you guys are looking forward to putting into gain market share in that and how we can kind of look back at DLC and your success there.

Rob, why don’t you start us off on tech brands? Did they outperform versus our expectations?

I would say that they performed at our expectations. We knew we were going to need to invest in the infrastructure in order to support the level of store openings that we’ve got going on. And so that was sort of baked into our thinking about their performance during the quarter. I’d say they hit that. We are still tremendously pleased with performance on new stores and performance on acquisitions that exceed our targeted IRR. I think there’s still a slide in the deck that you can find on our website about that. And so the individual store contributions that we’re seeing, the performance against those IRRs, as Tony mentioned in his remarks, warrant additional investment.

Let me get this started, Tony. The thing on the downloads, and I know it’s been controversial, but if you look at the numbers that we have, it says that full game downloads, we sell full game downloads. It’s a pretty good experience [unintelligible] low volume, 40% smaller, I think, Tony, than DLC. You know, we would love to sell more full game downloads. The consumer is just not ready for it, right Tony?

Absolutely. And so, Arvind, I’ll go back to your comments on downloadable content where we had a 41% market share in the first quarter. And honestly, what we do there, we do a great job of helping people discover that content, because it’s great content, but not a lot of people know about it, and then as we talked about before, a lot of that content is actually purchased with trade credits at our store, so we make it affordable. I think the same model applies to the digital full game downloads as well, and so we’ll continue to help people discover the full game downloads. And, you know, we’re really, we really are very customer centric on this, but if they want to buy digital, we sell them digital. If they want to buy physical and get the residual benefits of being able to use it for trade credit, we’re going to sell them physical. Like I shared, though, we have some exciting things planned that we will share in the future about what is a bigger category, which is indy and catalog games. And that’s a much bigger category than both DLC and the full game AAA downloads combined.

Yeah, I think if you do the research, right guys? I mean, [DFC] would tell us that indy and catalog are fairly significant compared to… Rob, you want to mention something on other forms of media?

Yeah, you know, Tony mentioned that what we’re trying to do is give the customer what they want, whether that’s digital or physical. And so we spent some time in the past few months and we’ve talked to many of you about this, studying other forms of media and what the customer adoption has been in terms of digital versus physical. On the book side of the business, somewhere between 25% and 27% of the book business is now digital. The remainder, obviously, would be physical, and that industry has reached an equilibrium in terms of digital versus physical. Movies, I think, are around 42% based upon some data that was put together for us by Tony [Weibel]. And then the music industry is in the mid-forties in terms of physical and digital split. And so the way that we approach this is in thinking about our business, we have the most expensive form of media, we have the most established second hand market, there’s a little bit of one for books, there really isn’t for music or movies anymore. Customers know that their games are worth $20 to $25, and our form of media is also the most difficult to download. So as you think about where the consumer might go, it just doesn’t seem logical to us that they would extend digital adoption past the point of any of those other forms of media.

But if they do, we can sell them that download, and it will be a good experience like anything else.

Absolutely.

You know, when you started DLC, it started off, if I recall correctly, a little bit slow, and then it took you guys a little bit of time to convince all the other players, console companies and the publishers, and then it just took off. Are we kind of in that stage right now where there are negotiations going on, and is there any hurdles on that front that once you clear those, then this can take off for you as well?

Let me say, there’s negotiations going on all the time everywhere, on everything. So that’s not unusual. But I think you have to look at this and say, DLC were smaller file sizes. That’s why we chose that business to go after as aggressively as we did. I think the bigger file sizes, it’s still going to be tougher to get there. Now, they will sell some and they’ll give them away free, and they’ll do advance downloads and so forth, but it’s going to be hard to build that business under the current technological infrastructure. That will change, though.

Next we’ll hear from Brian Nagel with Oppenheimer.

A question I think someone already addressed, I want to just jump back on that topic. And you spent a lot of time talking in your prepared comments too. But just so we understand, if you look at the results, if you look at the sales results by category, [unintelligible] an outlier for this quarter [unintelligible]. As we look at it right now in Q1, is it more a function of supply or demand? Because I think I heard you say that to a certain extent it’s the consumer switching now to the new gen games. There just isn’t the number of those titles in your used business. So is it more of a supply or demand issue at this point?

It is definitely a supply issue. As we get the inventory and we’re turning it very quickly on the Xbox One and PS4, and we’re turning it at normal rates on the PS3 and Xbox 360. So it’s purely an issue of supply.

Is that consistent, then, with the past cycle or cycles, the timing of this?

It is absolutely consistent. The only difference is that, if you recall in the last cycle, we didn’t have a significant decline in the previous generation. So that’s the only thing that’s different. But in terms of the inventory and supply position, this is very similar to what happened in the last cycle.

And if you recall, when we quoted the last cycle, you know, we never quoted it specifically as a model. We said the last cycle demonstrated historical growth. I think we probably all missed the decline of current gen being as fast and as aggressive as it has been. And you know, I think that’s everybody’s miss. But if you look at this growth Tony has here, 148% on the next gen inventory, that’s pretty strong.

And the last follow up I’ll ask on [use], and the conversation I have a lot with our clients is as we talk about DLC and these games becoming more complex, are you seeing a tendency for your customers, your gamers to hold onto games longer. And if that’s happening, that’s slowing the rate of those games coming into your used inventory?

No, we’re not seeing that. Actually, what we see is that when great games come out, or when new games come out on PS4 and Xbox One, you see a lot of trades coming in towards those games. So actually, what happens with DLC is a fascinating thing, but you’ll see people that will buy a game, they’ll bring it back in and then they’ll buy it preowned again when the next iteration of DLC comes out. So we actually have a very high preowned game attach rate to downloadable content when it gets launched. So you definitely have people bringing games back in as currency for the next new game that they want, and then buying that game preowned when the DLC comes out.

And remember… We go way back on this, but I remember the early discussion with publishers was that they didn’t want to sell DLC because it would cheapen the content of the game. There was a lot of publishers who missed the original wave of DLC. I would say Activision was an early leader on DLC, and one of the reasons is they weren’t afraid of it. And I think now every title that comes out has [unintelligible] attached to it. And I think that to the degree that you see more of that, I think it will help drive the DLC rate. That’s why we say, you know, the full game downloads is an interesting business, but it’s not nearly the potential business that the DLC business is.

Our next question will come from Tony Wible of Janney Capital Markets.

You guys provided a lot of qualitative comments around the second quarter pipeline. Can you guys talk about the third quarter and the title that you see out there and the comps you have versus last year, and is there a chance, or do you guys feel like there’s a chance at E3 that we could see some titles that kind of fall into the third quarter to kind of fill the void with some of those comps? And then also, I was hoping on the mobile side of the business, can you guys just give us a sense for what you’re same-store sales is? I know it’s been a little bit more than a year now that you guys have had these stores. Any kind of trends that are starting to show up there?

Well, in terms of titles, and what you’re going to see on E3, obviously I’ll talk more about the back half of the year, then we could come back in and talk about that, but you’ve got some big games that have been announced already. And obviously we can’t talk about the ones that haven’t been announced. We’ve got Madden and FIFA which are coming out. And then later on in the year you’ve got Halo 5 and Call of Duty. You’ve got Guitar Hero that is now coming out as well. So I think there’s going to be a lot of game play at E3, and we’re excited to see that. We’re excited to have others see what we’ve seen already, which is fantastic innovation among these games. I think the other thing that is going to take a lot of space and time at E3 is virtual reality. I think that’s going to be something that a lot of people spend a lot of time on there.

Do you see a chance that something could get slated as soon as third quarter if it’s announced at E3?

Nothing that I could comment on at this point.

The mobile business, I think we’re limited in our agreements with AT&T and Apple to talk about specifics around comp growth. So Rob, anything you want to add to that? I mean, same-store sales grew profits, that kind of thing, but anything else?

Yeah, what I’ll add is that our wireless stores are not included in our comp base. And as we got into this business, as a public company, we looked at the other public company that operates wireless retail as a reseller for the carriers, and comps are not an element of revenue measurement in that the same-store sales are highly dependent upon the types of programs that the carriers are running at any given point in time. For example, we’ve talked about how the Next program had a dramatic impact on sales dollars. But not necessarily gross profit dollars. So our guys who have been running the business, Jason Ellis, who Paul has mentioned, has been doing this for about 14, 15 years. And the focus that they put on each store is what the gross profit per opportunity or customer that you sign up is, as well as what the gross profit volume is for the store on a month over month and year over year kind of basis. And so we’ve been very pleased with the profitability and productivity that Jason and his team have been able to drive in our stores in terms of that gross profit per door, is what they call it.

And was your comment about used for the growth of the year including FX, or was that without FX consideration?

[unintelligible]

Our next question will come from David MaGee with Suntrust.

A couple of questions. One is, did you comment about the value piece of the preowned business and the performance of that?

No, we did not. We generated $32.5 million of value product this quarter, which was up from $20 million last quarter. So about 65% growth, value product.

Is that year over year?

Year over year, yes.

And then how important are some of the product movements within the tech brands? I’m thinking specifically about getting allocation of the iPhone or the tablet business being down for other retailers. How important are those trends to the performance you’re seeing at tech brands overall?

They’re fairly important.

Yeah, very important. That allocation of product and availability of product is very important. Now, what is nice is we can do direct fulfilment in our AT&T stores, which means that every AT&T store, whether it’s corporate owned or whether it’s a dealer store, has the same opportunity given the fact that our stores are the most productive in the entire dealer infrastructure. It means that we over perform on that direct fulfil piece of it, so it’s actually beneficial for us, when you have an in demand product.

At this time, we have time for two more questions. Our next question will come from Sean McGowan with Needham.

First, going back to Brian’s question earlier, would you say that the decline of last gen being greater than anybody thought, do you think that’s a function of how rapid this new generation is being adopted, that one explains the other?

I think, and these guys can comment on it, the adoption of hardware has been extraordinary in this generation. And you know, if you remember, for years, we would say we’ve never gone into a console cycle with Power Up Rewards. It’s a massive tool. We provided you tremendous trade credit. We communicated with you, and when we launched, we achieved extraordinary market share. And I think that’s where a lot of the dollars have gone early.

It is. The other thing is, the early adopters generally bring their entire clans with them, and so what you’re seeing is the advent of online play is much stronger this launch than it was last launch. So I think that once you move to a new platform, you move your whole clan there, and you pretty well move your entire gameplay at that point.

Makes sense. And then Rob, looking at some of the gross margin in the revenue buckets, some higher than I thought, some lower than I thought. But particularly with the comments we just got on the value portion, do you think that the gross margin in preowned is sustainable at this level, and can you comment on the sustainability of the various other buckets as we go through the year?

You know, a year ago, we talked about the value category and we thought it would have an impact on the preowned business. And a year, or actually probably five quarters into it, it really hasn’t had much of an impact. And so while the 49.1 and the 49.5 we posted in these quarters last year is actually a little higher than our historical range, I think we’re still comfortable saying high forties for preowned margin. So we do believe that is sustainable. And then I think what you see in the digital category is in an increase of margin rate from the mid-sixties to the high seventies is a function of how we’ve accounted for Congregate differently this year. And I would say that that business looks sustainable as well. The bulk of our revenues on the digital side of our business are now reported on that commission basis, and so we think that is the pattern. And then the other category is impacted by what Mike Mauler described with his commentary around the collectables and [unintelligible] merchandise. And as we continue to grow that business, we think that it’s going to be beneficial for that category and for the business overall. I will say it’s probably a little early for me to give you a range to where you can expect that margin rate to be for other.

And our final question today will come from Curtis Nagle with Bank of America.

Just one question on the collectables category. You said, I think it was $500 million in revenue in about three years. But I guess where does that stand now, and what would be the geographical breakdown? Just a quick follow up, was there any change, or I guess what was the attach rate you guys saw for next-gen AAA DLC?

Mike, you want to take that geographical distribution? It’s kind of a guess.

Sure. This will be the first year where we’re really selling this category in all stores. We ended Q4 last year of having it rolled out, and as I mentioned, we’re now expanding those sections that will be completed with that expansion by the end of the second quarter. So for this year, we’re estimating somewhere between $150 million and $200 million. But there’s still a lot of road left for the year and we’ll see how that plays out. But yes, that $500 million in three years is what we’re targeting.

One thing you might say about geography, Curtis, is the United States is a big beast, as Tony and Bob [Puson] roll out, and Mike [Buskey] and the team roll out in the U.S., they will quickly become dominant. Australia, though, has a very high sales per store number. Part of it is because they’ve been at this for two years. Europe probably less so. So that’s a little bit. We’ve probably got to update that on future calls. But that’s a little bit of what’s going on with that [unintelligible] business. And then Tony, attach rates?

Attach rates are still very strong, Curtis. In fact, we just had one of the highest attach rates ever on Mortal Kombat X. So still remain very strong on the new platforms.

Great. Thank you, ladies and gentlemen, for attending our call today. Thank you for your support of GameStop and we’ll look forward to seeing you in the future.