Glu Mobile Inc. (F3Q08) Earnings Call Transcript

Nov. 4.08 | About: Glu Mobile (GLUU)

Glu Mobile Inc. (NASDAQ:GLUU)

F3Q08 Earnings Call

November 04, 2008 at 4:30 pm ET


Greg Ballard - Chief Executive Officer

Eric Ludwig - Chief Financial Officer

Jill Braff - Senior Vice President of Global Publishing

Stacie Bosinoff - Investor Relations, Blueshirt Group


Tavis McCourt - Morgan, Keegan & Company

Mark May - Needham and Company

Jonathan Goldberg - Deutsche Bank

Todd Greenwald - Signal Hill Group LLC

[Nate Cornell] - Private Wealth Partners


Good afternoon. My name is Crystal and I will be your conference coordinator. At this time, I would like to welcome everyone to the Glu Mobile's third quarter 2008 financial results conference call. Today's call is being recorded. All lines have been placed on mute. After the speaker's remarks, there will be a question-and-answer period.

Stacie Bosinoff will begin the call. Please go ahead.

Stacie Bosinoff

Good afternoon everyone and thank you for joining us on the Glu Mobile's third quarter 2008 financial results conference call. This is Stacie Bosinoff from the Blueshirt Group. On the call today, we have CEO, Greg Ballard; CFO, Eric Ludwig and Senior Vice President of Global Publishing, Jill Braff.

Before turning the call over to the Company, I would like to advise you that during the course of this call, we will make forward-looking statements regarding future events and the future financial performance of the Company. Generally, these statements are identified by use of the words such as expect, believe, anticipate, intend, and other words that denote future events. These forward-looking statements are subject to material risks and uncertainties that could cause actual results to differ materially from those in the forward-looking statements.

We caution you to consider the important risk factors that could cause actual results to differ materially from those in the forward-looking statements, in the press release and this conference call. These risk factors are described in our press release and are more fully detailed under the caption “Risk Factors” in the Form 10-Q filed with the Securities and Exchange Commission on August 14, 2008.

During this call, we will present both GAAP and non-GAAP financial measures. Non-GAAP measures that exclude amortization of intangibles, stock-base compensation charges and the non equity component of the MIG earn out, acquired in-process research and development, restructuring charges and additional expenses, gain on sale fof assets and impairment of investments and auction rate securities and the goodwill impairment. These non-GAAP measures are not intended to be considered an isolation from, a substitute for, or superior to our GAAP results and we encourage investors to consider all measures before making an investment decision.

For complete information regarding our non-GAAP financial information, the most directly comparable GAAP measures and a quantitative reconciliation of those figures, please refer to today's press release regarding our third quarter result and certain non-GAAP financial information available in the Investor Relations section of our website,

The press release also has been furnished to the SEC as part of the Form 8-K. In addition, please note the date of this conference call is November 4, 2008 and any forward-looking statements that we make today are based on assumptions that we believe to be reasonable as of this date. We undertake no obligation to update these statements as the result of future events.

Lastly, this conference call is the property of Glu Mobile and any recording, reproduction or rebroadcast of this conference call without the expressed written permission of Glu is strictly prohibited. With that, I will turn the call over to the Company. Greg?

Greg Ballard

Thanks, Stacie, and thank you all for joining today's call. Revenue for the quarter was $23.9 million, an increase of 44% over the third quarter last year. On a GAAP basis our net loss for the third quarter was $56.9 million or a loss of $1.93 per basic share. We reported a non-GAAP net loss of $3 million or a loss of $0.10 per basic share. This was primarily driven by a significant impact from foreign currency exchange rate and a larger than expected royalty impairment. Eric will spend on these points further on his remarks later in the call.

We are disappointed in our results this quarter and in our fourth quarter outlook. The deteriorating economic conditions in the US and increasingly to the other parts of the world have negatively affected our game sales for this quarter. We expect these conditions to continue and these assumptions reflected in our fourth quarter outlook. Moreover, even on those worldwide regions that are doing well in unit sales, our revenues are being impacted by the sudden and dramatic fluctuations in currency exchanges. These economic conditions are occurring at the time where it matters a significant shift in the mobile game market and next generation platforms.

While this has presented Glu wit some short term challenges, we believe that the shift will ultimately be the path to renewed growth for the industry in general and for Glu in particular. I will talk about the third quarter operating results first and then discuss these larger trends in more details.

We had an active release schedule in Q3. For example, The Dark Knight achieve top-seller status with carriers in the US, Europe, Latin America and Australia. Family Feud reached the number one position with T-Mobile and top-seller status with Alltel and AT&T. We were very pleased to extend our partnership with Fremantle to bring Family Feud and The Price is Right to Europe, Australia and parts of Asia. In France, Wheel of Fortune quickly climbed to the top five on both SFR and Orange France while is Spain we saw a great success with our original title Brain Genius 2, SEGA Olympics and Beijing 2008 and on Telefonica, [Tosa Palabra] has remained in the top 10 since January.

In the coming quarter, we will continue our active release schedule with launches including Madagascar's Escape to Africa, Call of Duty, World at War, The Price is Right, Deer Hunter 3, Superman/Batman Heroes United, Pro Evolution Soccer and Who Wants to be a Millionaire?

Despite having a strong title lineup and market share that remains largely stable in the quarter, we expect the current economic conditions will continue to create challenges for our business. We expect the consumers spending will continue to decline. According to recently published data, Q3 handset unit sales were down slightly from Q2 and up only 5% from the year earlier and new market data suggest a further decline in new handset unit in 2009. Carriers and other content suppliers have indicated that this is an issue across the board for carrier-base content. Titles that are hit today are not generating the same revenue that we would have seen for a hit last year and this slowdown has clearly spread to parts of Europe and is even beginning to show in China.

Let me take the next few minutes to expand on these larger trends that we are seeing in the industry and how we believe this will impact us in the future.

First, we have seen substantial growth in the adoption smart phones such as Blackberry and Window Mobile Devices so we will stay to see this trend that have had to date only a modest impact on our carrier business. In fact, for many consumers when they move to these smart phone devices, they become [interred] from the games business. This is because the smart phones are not yet directly integrated into all of the carriers positioning infrastructure. This means they cannot sell games directly to consumers and they said they rely on third parties like Handango and BPlay. This is a more cumbersome process for consumers and a small revenue share for publishers. This is however changing both AT&T and T-Mobile now sell games over these devices directly and they have in turn become among the best-selling game handsets for us. We believe that other carriers may also be preparing to make this move and over time we expect this part of the carrier business to grow.

Second, the introduction of iPhone, Android and N-gage has had the most significant impact from the industry. So we believe that these new platforms are entirely positive for the industry and for Glu. They have had the initial effects of growing some of best-downloading customers away from the carrier-base business. Data from my metrics fairly shows the number of people downloading on carrier-base handsets has diminished since the launch of the iPhone. Thus, the new platforms and devices have actually slowed the growth from the carrier business and more mature market which is impacting our business in the short term.

On the other hand, the introduction of iPhone, Android and N-gage has spurred a wave of innovation among handset manufacturers where themselves coming out with new high-end devices to compete with these handsets. New devices from Samsung, LG, Motorola and others will stuck up to the iPhone very well in terms of consumer experience and technological capabilities and many of these higher end carrier-base phones are also being sold with a limited data package accelerating our impact on the market. We expect that the launch of these new handsets will create a renewed growth face in the traditional carrier business although it is still maybe several quarters before this becomes clear.

This shift from carrier-controller networks to open platforms introduced by companies like Apple, Google and to an extent, Nokia will take some time to completely unfold with its expected impact only beginning to show in 2009 and more substantially in 2010 and beyond. Despite the short-term dislocation of these new platforms and carrier transitions have caused in our current business, we expect these changes will ultimately be very positive for the industry and for Glu. Accordingly, we have been increasing our investment in this next gen handset and have already shifted nearly 30% of our development resources for 2009 products currently in development to higher-end devices. We believe that this has enabled us to prepare for a robust rollout of a next gen title plan without increasing our overall R&D expenditures.

Let us discuss the contest of this increased investment in next generation handset and what it will mean in the coming year.

We remained enthusiastic about the prospects in '09 for N-gage. The platform is still in its early stage and the revenue being generated for any publishers is not yet meaningful but it is growing quickly week to week as more N-gage devices hit the market and Europeans will tell you that the N-gage to them has much phenomenon as the iPhone is in the States. We have an aggressive title plan for N-gage in '09 but we are already well positioned for the platform. Our World Series of Poker Pro Challenge launched with the platform and continue to sell well. It is now the number game on N-gage.

With the recent launch of Android, we worked with Google in much the same way as we have worked with other handset manufacturers on embed deals. At launch, we have two games available on the Android market. This game has an early insight into the platform and access to the Google Android team which we think will pay dividends to us in 2009. So far, the initial results from the launch of the T-Mobile G1 have been very encouraging. Our two games have been among the most downloaded application and tens of thousands of people are now playing our games on the G1.

Our Android strategy was shaped by our iPhone experience. We took a previously measured approach for the iPhone. We will launch one original title, Space Monkey, in order to maintain maximum flexibility to test quickly and cost effectively various pricing and marketing approaches to understand the elasticity of the up store which was unknown at the time. The insight link game has been very valuable. For example, at the trying a number of price points, we offered Space Monkey for free for just over a week. Within days, it became the number two up and the number one free game with an impressive number of downloads. It also received exceptional reviews with an average of four out of five stars. We have made update and improvements for the game and we released it for $0.99. Our sales increased ten folds and then reentered the top 50 paid games for a time.

The measured approach we took to iPhone have saved us many other times from committing too soon to have with the mobile business that proved to be short lived or unsuccessful. Perhaps we may have been too cautious with our iPhone approach; however, given the results we have seen from our competitors through a considerably more aggressive launches, it does not appear that we have missed out significantly out of short-term revenue opportunity. Neither EA nor [Game Wap] appears to have gotten the substantial lift from the iPhone in Q3. But our learning over the past few months has poised us to take advantage of the much more significant opportunity in 2009 and beyond.

Our title plan for this next gen handset is geared to 2009 and at the fourth quarter but we are actively working to reassert our leadership. In 2009, we will bring both license and original games to all of these new platforms. We are also actively exploring a wider range of business models in the new platforms and we are able to explore in the carrier-control business. Though we learned that, we will continue to learn which will be the most effective. We have developed models that suggest other approaches beyond the pure play for download model and effectively monetize successful game offering. We also intend to invest to create a marketing and technical capability to enable us to create value and the ability to track and market the consumers directly which has proven to be a key to success on the internet.

The directly consumer or dealers to the marketplace has been relatively insignificant until now, we believe that this direct connection to the consumers will be accelerated to their purchases on these new platforms and by their increasing use on the mobile web. A number of analysts have properly asked how companies will create advantage of the iPhone and the Android marketplace in which porting and carrier relationships are no longer the gating factors. We have always believed that our greatest advantage in any of our market has been our ability to create high-quality titles specifically designed for mobile devices and our ability to launch those titles across multiple mobile platforms. We continue to believe that this will be the core of our advantage going forward as well. Our early but clear experience in developing a top title in N-gage, iPhone and now, Android proves our capability. We will develop high quality and compelling games and then create visibility and momentum for those games by the breadths of our reach across the mobile universe. A title that launches success in iPhone will lift the sales in the horizon and vice versa. That approach will remain the capability limited to a small number of global mobile publishers.

We also believe that we have an inherit cost advantage over other pure play entrance into these next generations platforms. We can create games for several next gen platforms as a part of a slightly more expensive development project that also yields Java, BREW, Microsoft and Blackberry version thus for perhaps a 30% premium over our current development cost, we will have these additional platforms and a lower cost in the solitary platform effort and leveraging our work on other handsets. For this reason, we now plan to publish every major title on at least one of the next generation handset as we move through '09.

As the industry continues to evolve, we are optimistic about the opportunities we have seen in 2009 and beyond to launch of the new iPhone, the debut of the Android platform and Nokia's N-gage initiative have demonstrated the market's enthusiasm for new platforms and we believe consumer demand for this will continue to gain traction and actually, accelerate the mobile industry's evolution. We remain focus on our core strategy, the ability to create high quality, compelling games and distribute them globally to thousands of handsets and a lot of new platform.

And with that, I will turn it over the Eric.

Eric Ludwig

Thank you, Greg. As Greg mentioned, our third quarter revenue was $23.9 million, a 44% increase over $16.7 million in the third quarter of 2007. On a pro forma basis including MIG and Superscape in the prior year will be 14%.

In the quarter, MIG and Superscape contributed approximately $5.6 million in revenue which is a decline of $1.1 million from the second quarter of 2008. You will recall that last quarter, we recognized an extra amount of revenue from China Mobile and we adopt accrual accounting for that carrier. Without that extra amount of revenue, total Glu revenue would have increased by approximately 4% over the second quarter of 2008. Reviewing some of the specific revenue metrics, our top 10 titles represented 28% of revenue, down from 32% in the second quarter of 2008, and 59% in the third quarter a year ago. The average revenue per top 10 titles was $678,000 in the third quarter of 2009. That is down both sequentially and compared to the third quarter of 2007. Our largest title is 5% revenue reflecting a broader portfolio of games launched in 2008.

Our mix of revenue between license titles and original IP was consistent with last quarter with original IP making a 28% of revenue. This is a big increase over 11% one year ago largely to the addition of games from MIG and Superscape. Revenue for new titles represent 48% of revenue in the third quarter of 2008 compared to 43% in the third quarter of 2007.

Our top four carriers represented approximately 44% of revenue in the third quarter of 2008 compared to 49% in the third quarter of 2007. We had one carrier in the third quarter of 2008 that represent 10% or more of revenue arising at 21%.

By geography, revenue for the third quarter of 2008 was 49% in North America, 29% in EMEA and 22% in the rest of the world. Royalties in the current quarter were $5.8 million, which represented 24.1% of revenue compared to 27.5% in the third quarter of last year. We also recorded and impairment on prepaid royalty agreements totaling $1.9 million during the third quarter of 2008. This is primarily due to significant impairments on two distribution deals, a portion of which was interacted to kind of foreign currency exchange rates. There were also a couple of individual titles for the forecast have come down making at the rest the impairment.

Gross margin was 54%, which is down from 63% last quarter primarily due to royalty impairment. When excluding the amortization of intangibles, gross margin was 68% in the third quarter of 2008. The decline in gross margin is directly related to the royalty impairment offset by increases in contribution from original IP.

This is most evident when looking out our full year non GAAP gross margin percentage which we are forecasting to be flat compared to the 2007 results despite the $1.9 million in royalty impairment.

Moving on to the rest of the income statement; and please note that my comments on expenses are exclusive of amortization of intangibles, stock-based compensation and the non equity component of the MIG earn out, acquired in-process R&D, restructuring and traditional expenses which I will address separately.

Operating expenses in the third quarter of 2008 were $17.2 million, down from last quarter reflecting the cost synergies realized in the integration of Superscape primarily in G&A. R&D was $8.8 million or 37% of revenue. Sales and marketing expense was $4.1 million or 17% of revenue. G&A was $4.4 million or 18% of revenue for the quarter. Stock-based compensation was $2.1 million in the current quarter.

In the third quarter of 2008, we also recorded a charge for amortization of intangibles of $67,000, $622,000 of earn out expenses related to the MIG acquisition, a $126,000 restructuring charge and $347,000 of transitional expenses.

During the quarter, we performed our annual FAS 142 review of our goodwill and determined that we had impairment in two of our three reporting events. For those of you who are not familiar with FAS 142, there are two drivers in determining an impairment is being the first a forecast for our America in immediate reporting unit have decreased due to our lowered estimates and second, our amount of capitalization and the capitalization of our multi comparables have declined significantly since September 2007 when we last performed this test and our stock price is around $9 a share. As a result, we recorded a non cash goodwill impairment charge this quarter of $46.6 million.

The company had an operating loss on a GAAP basis in the quarter of approximately $54.2 million. I do want to pause for a moment to talk to our non GAAP operating margin with a volatility in the global economy including FX rates and our tax profile, I believe that non GAAP operating margin most accurately reflects how the core business is performing. Additionally, it shows whether we are driving leverage to our long-term target operating model and is the best measure to consistently evaluating how we are managing our business.

On our prospective basis, we will talk specifically to this measure and provide guidance as well on it but we will continue to report non GAAP EPS in a consistent fashion as before. On a non GAAP basis, excluding the impact of stock base compensation, amortization of intangibles, restructuring and other nonrecurring expenses, our non GAAP operating loss was $1 million in the third quarter of 2008. That result includes the $1.9 million royalty impairment. For those of you who are new with Glu, I will point that we do not exclude royalty impairments from our non GAAP metrics even though they are non recurring because prepaid royalties are the coil of our business model.

We recorded $97,000 of net interest income in the quarter and included a net other income line item on the income statement that recorded an impairment of $682,000 related to investments and auction rate securities, a $1.3 million foreign currency exchange loss and a loss from sales of $6,000 to $9,000.

I want to talk for a moment about our foreign exchange losses and specifically why should we not hedge our currency exposure. It is worth noting for starters that the $1.3 million FX loss in Q3 is a non cash, non operating charge primarily related to the reevaluation of inner company balance sheet account and also generally holds the cost of the hedging offsets the benefit in most quarters. This quarter was noticeably different. We are spending hard cash that would have been a good investment; however, historically our analysis shows that there are more quarters that not would have cause for that out weight to benefit.

By example, over the last four years, our total cumulative foreign exchange gain including the $1.3 million this quarter has been a positive $101,000 or roughly $6,000 per quarter. By contrast, it would have caused $600,000 per quarter to purchase option contracts to protect the downside where we could have purchase [puts in calls] and we would have the risk of losing hard cash to protect a non cash reevaluation. In the current environment including the fourth quarter which is looking as unpredictable as the third quarter, we have chose to maintain this approach.

Our net tax expense for the quarter was $822,000 million and consisted of $587,000 of foreign withholding taxes and tax expense of $235,000. Our GAAP net loss for the quarter was $56.9 million or a loss of $1.93 per basic share.

Non-GAAP net loss, which excludes amortization of intangibles, stock-based compensation and big earn out expense, IP R&D, restructuring, and transitional expenses, impairment of auction rate securities and the goodwill impairment was $3 million or a loss of $0.10 per basic share. It is worth noting that $0.07 of the less relates to our royalty impairment and $0.04 was due to the FX loses.

Let me now turn to the balance sheet; cash, short-term investments and marketable securities were $20.7 million as of September 30, 2008 compared to $25.7 million at the end of June. In the third quarter of 2008, the Company used approximately $3.2 million from operations which includes prepaid of royalties. Additionally, we used $330,000 of CapEx and generated $73,000 with stock exercises. We also experienced a $733,000 reduction to the foreign exchange translations on foreign cash accounts and $682,000 write down of auction rate securities.

Now, I will brief up there in our auction rate securities. In early October, our sponsoring growth had notified us that they will be repurchasing the entire 42.8 million of auction rate securities at par. Once we receive the funds which we believe will be in the fourth quarter, we will reverse our prior write down and will then take a $2 million gain as we move to full auction rate balance in the cash and cash equivalents from short-term investments.

I will take a minute now to talk about our cash position and the review the impact of the MIG earn out. I currently expect that we will end the year with approximately $17 million in cash, short-term investments and marketable securities. We have an additional $8 million of cash available to us under in credit facility which has not been drawn down on. We anticipate that base on MIG estimated results for the full year, we will pay additional consideration totaling $25 million in cash and stock to MIG's shareholders which is staged to install entering 2009.

The first installment is $19.8 million we will do during the first half of 2009, the exact timing will determined based upon the closing of the MIG financial report for the full year 2008. Of this $19.8 million, approximately $12.1 million is due in cash, $5.2 million is due in cash or stock at the company's discretion and $2.5 million is due in stock.

The second installment is $5.2 million where we will do in the fourth quarter of 2009 with $1.9 million due in cash, $800,000 due in cash or stock at the company's discretion and $2.5 million due in stock. The stock portion of each installment will be valued in the first half of 2009 when the accounts are finalized.

In additional to the MIG earn out payments, we will also continue to make prepayments for licensing arrangements in 2009. We believe we have the means to address our cash in 2009; however, in a tough certain times, we are exploring a number of alternatives to expand the liquidity. Accounts receivable at the end of the quarter was $21.2 million down from $21.6 million at the end of the second quarter.

Turning now to guidance. For the fourth quarter of 2008, we currently expect the revenue to be in the range of $21 million to $22 million. Gross margin excluding amortization, is estimated to be approximately 75%. Operating expenses are forecasted to be approximately $16.3 million to $16.4 million which reflects in approximately 8% since the second quarter of 2008. Our lowered operating expenses are due to the cost synergies from acquiring Superscape being realized, general belt tightening and a favorable impact in expenses from our four locations due to the strengthening dollar. Non-GAAP operating margin is forecasted to range from a loss of $600,000 to a profit of $100,000. It should be noted that we intend to show quarter-over-quarter improvements in 2009 on our non GAAP operating margin. Foreign currency exchanges losses are currently expected to be a loss of $1.5 million this quarter due principally to the continued weakness in the Great British pound as compared to the US dollar.

As we previously discussed, our FX losses are given primarily from non cash, non operating reevaluation of inter company balances between our subsidiaries and our US entity. Incomes taxes are expected to be $1.1 million. GAAP net loss for the fourth quarter is expected to be between $6.7 million and $7.4 million for a loss of between $0.23 and $0.25 per basic share.

Non GAAP net loss is expected to be between $2.4 million and $3.1 million or $0.08 to $0.11 loss per basic share. Remember that the non GAAP amount includes the $1.5 million forecast of FX loss for the quarter but excludes $3.3 million for amortization of intangibles, approximately $2.8 million of anticipated stock-based compensation and MIG earn ut expense and $2 million in anticipated gain and auction rate securities and approximately $245,000 of anticipated restructuring and transitional expenses.

Weighted average common shares outstanding for the fourth quarter of 2008 are expected to be approximately $29.5 million basic and $30 million diluted. For the full year, we are now forecasting revenue to be within a range of $89.2 million to $90.2 million. Our non GAAP operating margin is forecasted to be a loss of $300,000 to a loss of $1 million or breakeven non GAAP operating margin to a 1% loss.

On a GAAP basis, we expect a net loss for the full-year of between $76.2 million and $76.9 million to a loss of between $2.69 to a loss of $2.62 for basic share. On a non GAAP basis, we expect a net loss of the for the full year between $5.2 million and $5.9 million or a loss of $0.18 to $0.20 per basic share which excludes $11.6 million for amortization of intangibles, approximately $10.8 million to stock base compensation and MIG earn out expense, $1.1 million of IP R&D, approximately $1.8 million of combined restructuring and transitional expenses, $806,000 for reversal of previous impairment of auction rate securities and a $46.6 million goodwill impairment charge.

Weighted average common share outstanding from the calendar of 2008 are expected to be approximately $29.4 million basic and $29.9 million diluted.

With that we will open up for questions.

Question-and-Answer Session


(Operator's instruction) Your first question comes from the line of Tavis McCourt - Morgan, Keegan & Company.

Tavis McCourt - Morgan, Keegan & Company

Yes, I guess two questions. First in terms of the Q4 guidance, it presumes that a pretty big deceleration in your growth and I am wondering how much of that is title driven and how much of that is weariness over the economy and basically trying to take conservative stands and then my second question is in terms of the operating expense reductions, where are you cutting in kind of where do you refuse to cut given to build some kind of leverage for future growth?

Greg Ballard

This is Greg. Let me take the first part of that and Eric and I can kind of share the responsibility on the second one. As far as the revenue outlook for Q4 is concerned, there is much less title sensitivity in there than it is just a general weariness about the economic conditions and frankly, go back to those economic conditions seem to be spreading to other parts of the world. This quarter, Q4, is the first quarter that we have seen for example softness in the China market. It is of course continued to be the case that we are seeing softness in the US and in Western Europe. In addition to that, the currency changes that we have seen even the last month or so has had an substantial impact on the revenue that we have been expecting from Latin America and from parts of Asia.

So, we have seen the parts of other, the rest of the world that have always been big contributor to our growth slowdown mainly because of currency issues. So, it is not our title plan. Our title plan, I think, right now we would say is probably the best title plan that we have ever had. It really is the economic circumstances that we find ourselves in and the currency fluctuations that are result to that.

Eric Ludwig

Yes, Travis, on the OpEx from Q3 to Q4 the guidance is coming down so much across the board against all spend categories and functions. However, from the Q2, 8% drop that I mentioned, it is more heavily in that against G&A given we got rid of all of the G&A folks at Superscape and that was just realized in the third quarter and then Greg, you want to answer the second?

Greg Ballard

Yes, I mean I think one of the things that we have been very, very careful about as we have looked at our cost is to make sure that everything that we are doing is being done as efficiently as possible but we are still committed to growing this Company in the long run. We believe the opportunities for '09 and '10 are profoundly exciting. We believe that they offer a chance for this Company to grow and so we are not going to try and shrink our way out of this. We in fact are committed to investing but as I mentioned on my prepared remarks, the way we have done that is by moving resources that were previously being used on titles for the carrier business into some of the higher end next generation handset and really that has been a function now as having extra studio capacity that got as a result of the Superscape transaction.

So, we are going to have in 2009, we would expect roughly the same number of titles that we have in 2007 but those titles will now generate versions on a much wider range of handsets and platforms than we saw in the past. So we are tightening the belt to make sure that we are not spending money unnecessarily but will continue to invest in the future.


Your next question comes from the line of Mark May - Needham and Company.

Mark May - Needham and Company

A couple of questions. Your fourth quarter guidance, what does it imply in terms of cash burn?

Eric Ludwig

Yes, so we were currently exiting Q3 with $20.7 million in cash then we are guiding down to $17 million. It was about $3.7 million of cash usage.

Mark May - Needham and Company

Okay, sorry you did say that. You have got the $12 million in cash payment due in the first half, another $2 million call it with the second half of next year. You mentioned the $8 million line of credit, it has been a while since I have looked at the terms of that but I recall there were some restrictions in terms of the amount of net cash and other things that you have to have. If I look at $17, let us call it 14, would you be in compliance with the line of credit terms by the second half of '08?

Eric Ludwig

Yes, actually we just filed an 8-K today about 30 minutes ago talking about an amendment to that agreement to get us in compliance with some of those old, old covenants and then we are in the process also of working to extend that in 2010. It currently expires in February 2009 so we are working to extend it into 2010.

Mark May - Needham and Company

And I am surprised that you did not address the cash burn and what you are doing. I understand that the entire focus really of the call seem to be about growth rather than preservation. I thought you might try to address what you are doing to get your cash burn down and make us comfortable that you are going to be, not going to be in a position you do not want to find yourself over the next couple of quarters.

Greg Ballard

Well, Mark I think it is an appropriate question; however, we did talk about the fact that we have reduced our operating expenses by 8% over the last couple of quarters. We have got a line of credit expand the availability of capital. As far as the other things that we are doing, a lot of those are the kinds of things that you, I will leave to your imagination but obviously we are working throughout the organization to find places that we can preserve cash and we are doing all the things that you would expect the company will do to preserve cash in that situation. So, we are focus on growth but at the same time, we are looking to squeeze as much efficiency as we can over the company and also to do the typical things that a company does to preserve cash in a situation where it is not dire but nonetheless we have to be careful with everything that we are spending.

Eric Ludwig

And Mark, right now our current operations, our non GAAP operating margins pretty much mimics except for big license prepayments or cash flow in general. So, our business in the first half and the second half of 2009 will be breakeven or adding the cash except for the MIG earn out payment.

Mark May - Needham and Company

Okay, thanks for that and then my last question on the royalty impairment, can you just provide some more color on exactly what that was or where that it relates to?

Eric Ludwig

Yes, sure. So, we incurred royalty impairments of $1.9 million in this quarter, approximately $1.5 million related to two large distribution deals. Of that $1.5 million for distribution deals, roughly 15% of that related to impairments due to lower revenue, due to unfavorable FX for these deals which are signed from time ago in the forecast assumption were based on local currency but the guarantees are doing US dollars but the remainder of that impairment, the distribution of impairment is due to lower actual forecast of revenue from these titles due to the expectations of market growth that did not transpire. The balance of $400,000 was just related to the several other titles that have not if we look at the forecast.

Mark May - Needham and Company

And I recall that you have some minimum guaranteed royalty payments going forward as well. Is there, given the market environment, is there a chance that you might have similar impairments on some of the other deals that you have?

Eric Ludwig

Yes, so we assess this every quarter and what we do is we look the role in four quarter forecast and so right now, with the lower guidance, we came up with the impairments that we did so we will assess in every quarter but right now the assumption is that there is not but we will assess it every quarter.

Mark May - Needham and Company

Oh, so this impairment takes into account what you, I got you. Okay, thank you.


Your next question comes from the line of Jonathan Goldberg - Deutsche Bank.

Jonathan Goldberg - Deutsche Bank

I just have a couple housekeeping questions, you maybe have answered them already. So, first on the quarter, what was your cash loss from operations?

Eric Ludwig

A loss of $3.2 million. So that is predominantly due to license prepayments.

Jonathan Goldberg - Deutsche Bank

Right and then in the guidance, you mentioned that income tax is $1.1 million, is that a benefit or expense?

Eric Ludwig

That is expense.

Jonathan Goldberg - Deutsche Bank

Expense, okay. And then I was just hoping if you could just give a little bit color on your cost structure and you operating expenses. Assuming you do not land in the cash problems, liquidity issues next year, how should we think about R&D, sales and marketing, your fix stable cost, what the goal look like during the year?

Eric Ludwig

Yes, we are not obviously giving guidance on 2009 quite yet but…

Jonathan Goldberg - Deutsche Bank


Eric Ludwig

Yes, qualitatively speaking, G&A is in a grow very, very small percentage increases. Sales and marketing will grown with revenue at the percentage probably five percentage of incremental revenue and then R&D will be really invest probably more than the other two components as we just continue invest in the high end. But assume we tampered growth on OpEx, very tampered growth.

Jonathan Goldberg - Deutsche Bank

How is it for you to cut those number if you think of them?

Greg Ballard

We are in a situation today where if we cut let us say in the services side of our business, it means fewer handsets get ported and typically our experience and our analysis tells us that when we pour the handset, it is a positive ROI on that handset. So, the problem that we have in terms of cutting expenses especially on the R&D side is that it typically would reduce revenue. So with the exception of what we have previously discussed about belt tightening, we really believe that the path forward for us is to grow our revenue not necessarily to shrink our overhead. That is a mean that we are continuing to look wherever we can to reduce expenses but if we cut a title for example by cutting that title, we will reduce expenses. If we cut handset, we reduce revenue. So there are no whole lot of places that we have to cut that do not have in our opinion a resulting reduction in revenue.

On the other hand, the good news is we are at roughly breakeven right now so every dollar that comes into the end of the business in '09 should come in as incremental upside to the business. So we are in a position right now where we think every million dollar that we bring into the business is going to result in substantial impact on the bottom line. So we are trying to drive this business forward by finding those pockets of revenue we think that exist with the iPhone, to the Android, N-gage and some of the high end handsets on the carriers docks and think that that will result on upside for the year next year.


Your next question comes from the line of Todd Greenwald - Signal Hill Group LLC.

Todd Greenwald - Signal Hill Group LLC

Just some brief housekeeping questions, I am just wondering if you could just update us on what is your organic growth was year-over-year sequential and then also just talk about your original title, how that decline about 30% or so year over year, what is coming there and then just for one stop, if you could elaborate on some of the new monetization models you hint to that for '09 as in the time that it passed the board of games or more of a direct consumer approach? Just any part of there is appreciated.

Eric Ludwig

Great, thanks Todd, I will take the first two and Greg can wrap up. On the average for top 10 title, in Q3 it was partly due to a matter of timing in some of our largest titles that do not launch until late August and September, an absolute dollars of the large titles because they are having a less of an impact than in Q3 '07 and to remind you in Q3 '07, we had Transformers which is our biggest, largest single title launch in any given quarter ever. On a prospective basis, we anticipate that our top 10 titles will be approximately 30% to 35% of total revenue and then on an organic basis, we grew revenue 44% year-over-year and then on pro forma basis including MIG and Superscape, in Q3 '07 we grew 14% and then on a pro forma basis excluding cash flow from the prior year comps, we do 28% year over year.

Greg Ballard

So as far as the new business models that we are looking at, there are wide range of them now that exist throughout the world; everything from item-base pricing to advertising models and even within the advertising models, there are many variation. In the carrier world, we had difficulties doing a lot of experimentations not only because the carriers business structures themselves did not commit it but also because we had an existing installed base of games that we are producing a fair amount of revenue to do anything to experimental risk cannibalizing that revenue. In this new world of the iPhone, Android, etc, we do not have it big installed base for existing games and we have a system that is a little bit more flexible than the carrier models to tryout some of these new business formats.

So we intend to do it. You will see us doing that over the course of the next few months. We do not know that the result of those experiments will be but it certainly opens up a couple of different paths to monetizing games that perhaps did not exist for us even six months ago.


Your next question comes from the line of [Nate Cornell] - Private Wealth Partners LLC.

[Nate Cornell] - Private Wealth Partners LLC

Can you talk how much revenue or net income MIG has produced in the first nine months?

Eric Ludwig

We have not simply broken out that in the past and we will this quarter but it certainly more than we were expecting which is why we are obviously tracking the MIG earn out.

[Nate Cornell] - Private Wealth Partners LLC

And so I am looking at, you had $25 million market value right now at Glu, you are effectively paying out $25 million from MIG and can you just take me to the process as to how you design this earn out given that it does not look that it has really made any meaningful impact on your business.

Eric Ludwig

Well, it is always easier to make those kinds of judgment I guess in retrospect. The actual reality is that MIG has contributed a lot in terms of revenue and it has contributed even more in terms of net income to the business.

[Nate Cornell] - Private Wealth Partners LLC

So, why do not you break it out if it has contributed a lot?

Eric Ludwig

Yes, it is just on the way we thought in the past three quarters.

Greg Ballard

As the fact of the matter is, at the time using the multiples that we had for Glu and evaluating it at that time, our conclusion was that if the MIG team was able to achieve the numbers that trigger the earn out that using those multiples then the deal was highly lucrative which it was. They have in fact achieve the milestones, in fact they have moved past those milestones substantially and now we are faced obviously with the end portion as of paying it off in an environment in which our stock price is not where it was when we purchase MIG. That does make it certainly an uncomfortable reality for us but it is difficult for me to second guess the judgment we made back then based on the economic circumstance that we do not think anybody could have predicted. When we did the deal, it was December or January of last year if you recall and I do not remember a whole lot of people who are predicting the economic circumstances that we find ourselves in worldwide today. Have we known that, we might have second guessed on the other hand, it has been a valuable contributor to our revenues and to our net income.


At this time, I am showing there are no further questions. I would now like to turn the call back over the Greg.

Greg Ballard

With that, I thank you all for joining us and we will talk again next quarter. Thank you very much.


This concludes today's conference call. You may now disconnect.

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