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Glu Mobile, Inc. (NASDAQ:GLUU)

B. Riley & Co. Investor Conference

May 22, 2013 18:30 ET

Executives

Greg Cannon - VP, Finance, Corporate Controller

Analysts

Eric Wold - B. Riley & Co.

Eric Wold - B. Riley & Co.

So good afternoon everybody. We’re going to get started, very pleased to have Glu Mobile presenting with us today. We have Greg Cannon VP of Finance. We’re doing this in the traditional style, the presentation and Q&A afterwards. We currently have Glu rated neutral or obviously in a transition phase as they work through some of the monetization improvements for their games. We’re optimistic that they are on the right track and hopefully we will hear some update on that. Greg, take it away.

Greg Cannon

Great. Thanks Eric. So Glu Mobile’s at the center of two of the hottest trends in video games today. The first is growth in gaming on mobile devices primarily smart phones and tablets, and the second growth is the growth in our business model of freemium video games, giving away a game for free and generating revenue through in-app purchases, ads, and offers.

So Glu has been in business for around 11 years now, in the first seven or eight we focused entirely on the left-hand side of the screen. We developed and published simple 2D graphic games for feature phones; we licensed brands from the likes of Activision, Atari and Hasbro and had gross margins in the low 70%. Our titles were premium priced and had no community or social features. What’s exciting is where we have evolved to today which is the right hand side of the screen. We’re a 100% smartphone and tablet focused. We've also been successful at generating and creating our own original IP, substantially increasing our gross margins and our games are freemium, they are persistent on the app stores. They have connected, social and other game features.

What’s also exciting for Glu is where we’re today in the upgrade cycle of users from feature phones to smartphones. One analyst estimates that currently today there is 5 billion mobile devices in the marketplace, but yet only 1 billion of those are smartphones. So therefore, the addressable market of consumers who will be interested in our content is going to continue to grow substantially over the next few years.

Equally exciting for us is the growth in the adoption of tablets around the world. As you can see these have continued to outpace some analysts’ estimates of shipments compared to the laptops and PCs, and for Glu, given our high-end 3D graphics we tend over index on iPads and other tablet devices, so if you look at the top grossing rankings both on the iPad we’re up there higher in the rankings as well as generating more revenue from tablets than we’re even from the iPhone.

So this is a quick overview of our stock price over the past three years when we began this evolution from feature phones to smartphones. We had a few good run-ups timed with Zynga’s IPO as well as a few other successful product launches, but I would also like to highlight a few other recent announcements here in the last couple of quarters. We hired a new President of Studios who is focused on improving the monetization within our games and evolving our product types. We've launched our Glu publishing business which I will elaborate on more bringing high value ARPDAU games from APAC into the Western World. We’ve hired a new President of publishing from a very large ad network to also focus on monetization, and we have entered into the real money gambling space with a partnership with Probability, PLC.

As I mentioned, we’ve been successful in transitioning from feature phones to smart phones, this last quarter only 10% of our revenues were from feature phones and we’re quite happy with this transition has taken place over the past few years. And keep in mind that this is a similar type of transition that the likes of Electronic Arts is doing from console to digital as well as Zynga transitioning from Facebook to mobile.

As I mentioned previously, we’ve been successful at creating our own original IP driving our gross margins up over 2000 basis points over the past few years. And this is also important in the fact that we launched sequels to many of our games which when they launched they are already having a brand awareness as well as interest in the marketplace.

So many people think that launching and becoming successful on smartphones and tablets these days is a very simple task, and to be honest it is actually quite the opposite. There is fragmentation at multiple layers and it takes a company like Glu that’s been in business on mobile for the past 10 or 11 years to be able to succeed. There is fragmentation at the distribution level having to have relationships with Apple, Google, Amazon and Windows, which we have. You need to be able to integrate multiple technology layers within the games, being able to differentiate between Apple’s Game Center versus the recently announced Google Play game services as well as supporting thousands of devices in the world, not just your iPhone and your tablet but also hundreds of android devices across the world.

Glu has a strong portfolio in our catalog and as a result of our relationships and ability to handle all this technology fragmentation, we’ve been successful at gathering featuring for most of our games at launch driving downloads and ultimately monetization within the games.

This success plays out when you look at some of the top grossing charts and the largest app stores in the world. Glu is one of the leading public companies, both in the US, as well as in Asia, and we’re quite happy and quite pleased with the success that we have shown both in China and Korea. We localized our games in over 12 languages when we launched globally and are continuing to focus on Asia as a hotbed of places not only for our own games, but also for our third-party publishing business that I'll talk about later.

Glu has been successful in developing a large audience base. We ended the first quarter with over 50 million downloads of our games or 400 million lifetime to-date with 3.9 million daily active users or 40 million monthly active users in the end of March which is significant when you have a large catalog and portfolio of games like we have, being able to cross promote new title launches to ensure that they are successful once they come out to market.

In terms of our conversion metrics, here's a sample of some of the games metrics here from Q1. Glu, and we have been very public about this, is slightly under indexing on a percentage of people that are paying within our games. Generally, the market is around 1% to 2% and we’re addressing this through the hiring of our President of Studios and the supporting team in R&D, as well as through the reason recent hire of President of publishing.

It turns of ARPDAU we’re averaging around 6.4 cents for this handful of titles, which is two to three times that of what Zynga is doing on mobile. So we’re quite pleased with that but are continuing to make strides within our monetization and that will be a huge focus for us in future product launches this year and next year.

And we have already started to see some proof of our improvements in monetization. Two of our games that we launched in the first quarter, Heroes of Destiny and Dragon Storm had ARPDAU rates that were 2 to 3 times the average of what Glu did in 2012. So we’re quite happy with the fact that we know that we can produce games that will increase daily active revenue from our users. We've also updated legacy games such as Indestructible adding player versus environment modes and as I said, we’ve hired additional people within the Studio and publishing organization solely focused on improving our monetization going forward.

So what does the future of mobile gaming look like? I think stepping back and looking at social gaming 1.0 a lot of these were resource management games and are actually really keen on bringing more and more people to know that you could play games on your mobile devices. These were much more simple and casual in nature, had low end graphics and where we think mobile gaming is going is what we have dubbed social gaming 2.0.

In social gaming 1.0 you could be successful in the four categories or four pillars that we list here. Core game play, production values, consumer reach, and monetization systems, and to be honest Glu nailed the first three of those with monetization really being the one that was lagging behind.

To be successful in mobile gaming 2.0 you’re going to need to nail all four of these, core game play, multi-player and player versus player mechanics, having in-game communities and leader boards, longer session times and we have this through one of our acquisitions called GameSpy which is a scalable back-end server infrastructure that will help power these games in social gaming 2.0.

You need to have high production values, Glu focuses solely on 3D, high quality games and so we have already nailed that one. In terms of consumer reach you need to focus not just on the iPhone and the iPad but also on Android, on Windows, additionally other platforms such as the Mac App store and perhaps TVs in the future, and lastly you need to have strong monetization systems not just your traditional harvesting mechanic within Farmville but weapon upgrade systems, mystery boxes within the games and to be - and Glu is focusing on improving all four of these in the long run.

So as Eric mentioned we also announced our third party publishing division. Glu is a developer ourselves so we have expertise in knowing how to bring a successful game out to market. What we’re doing is a high touch play and this is somewhat different from a lot of what our competitors are doing, we’re focusing solely on high ARPDAU, high LTV games in China, in Korea that are already successful in the marketplace. We’re working with those partners to bring their games to the Western World by localizing the languages into EFIGS, Portuguese and Russian.

We’re also working with them to cover all the handsets for Google as well as introducing them to our context with Apple to be able to ensure that we get store front featuring and downloads.

And so far to date after announcing this just in the first quarter we have hired a VP to head up this group as well as few other head count. We’ve signed two contracts and have one binding LOI, so three titles currently already executed, and we hope to have six titles launched by the end of this year, and again the reason for this is supplementing the topline revenue without having to invest all the upfront R&D cost to be able to launch a game.

So what does that mean for Glu? We’re calling this the Quad Screen Future. We already know that we can nail smartphones and tablets and be able to deliver games to these devices quite successfully. We have also begun to take our games to the Mac App Store bringing some of our more successful titles scaling it to a larger form factor.

And what you can see is the completion of that Quad Screen Future is ultimately bringing these to TVs and set-top boxes. It won't be too far when your Apple TV or Google TV controls everything within your living room and it will take the company like Glu that can handle fragmentation across all of these screen sizes and devices to be able to succeed in all four of those.

And with that you end up with a derisked franchise creation testing the games on smartphones and tablets, seeing which ones succeed and bringing those ultimate winners in the long run to all of these new platforms.

So with that let me just pause and put up our demo slide here for second half of this year. And for those of you on the webcast this is on our investor website as well; the first game is ‘Zombies Ate My friends’ [inaudible] battling against your friends and zombies, second game is ‘Tons of Guns’ [inaudible]; Mobsters and Gangstas, which is a sequel to one of our previous success of Big Time Gangsta, apparently we lost the sound here. But again high-end [inaudible], and lastly sequel to one of our more popular franchises. So we’re quite excited about our upcoming title release slate both from our internal studios as well as our third party publishing group.

So now turning to our financials, as I have mentioned we have transitioned ourselves to being smartphone focused, end of Q1 only 10% of our revenues were from feature phones and that will continue to decline when you look at our full year guidance less than 5% on an annual basis will be from feature phones.

In terms of where we generate our revenue, approximately 63% of our Q1 revenues came from the Apple platform and 28% came from Android. That trend has been relatively consistent here the past few years and we believe that will probably continue to be that way here into the near future.

In terms of revenue by category or type 73% of our revenue in the first quarter was from in-app purchases or power ups within the game and 16% were from ads and offers, and as I mentioned previously with a hiring of our President of publishing from Tapjoy, we’re really focusing on the advertising dollars at being able to increase those revenues on a go forward basis.

Glu was not a one hit wonder; we have a strong catalog and portfolio of games. No single quarter - or no single game in the first quarter generated more than 15% of revenues and even titles that launched over a year ago, Deer Hunter Reloaded, Frontline Commando still generated significant revenues to the most recent quarter.

In terms of the revenue by region, as I mentioned earlier we’re seeing significant growth in APAC particularly in China and Korea and it's even more shown out at the percentage contribution chart here where localizing the games, having store front managers working with the local Apple, China or Google Play Korea are really showing - starting to show their proof in our model. We’re also looking at Japan with our President of Publishing who is responsible for opening offices in Korea and Japan really growing that market as well, and then lastly some of the areas like Latin America as users continue to upgrade their devices from feature phones to smartphones in that area, we’re expecting good things coming out of that region as well.

Here is a snapshot of our Q1 results which met or exceeded guidance and all metrics. We ended the first quarter with a strong balance sheet, $21 million of cash, DSOs less than 60 days and no debt on the books.

In terms of our guidance here is our Q2 guidance as well as our full year 2013 guidance and you will note that the top-line revenue although it's decreasing in aggregate year-over-year we’re still showing a 7% to 13% increase in our smartphone revenues year-over-year.

And we’re also guiding to $14 million of cash by the end of the year without having to tap the capital or equity market.

We have significant scale in our business, we don’t need to hire anymore sales or marketing or G&A folks to manage Apple or Google or cut their checks. So really after breaking even there is significant leverage in the model where incremental revenue above breakeven will flow to the bottom-line targeting with 20% to 25% EBITDA margins in the long-run.

Here is a few key statistics about our stock, we’re highly liquid trading over 4 million shares per day; we’re highly transparent. We update this deck as well as this slide with key metrics about our business on a quarterly basis and you can obtain that on our investor website.

So in conclusion Glu is at the center of the exploding, freemium, social, smartphone gaming market. We have been successful at delivering our own original IP and we will be bringing third party brands to our catalog as well and we’re well positioned to succeed in the next evolution of mobile gaming 2.0.

So with that I think we have a couple of minutes left. I’ll open it up to any Q&A.

Question-and-Answer Session

Unidentified Analyst

Yeah, so you talk about your four stream plan or four quarter plan, how do think development expenses change as you move from the handheld gaming to the TV gaming and when you get the TV segment are you, do you think you’re taking share from consoles or are you really targeting kind of a new area of demand on TV?.

Greg Cannon

So the first question was what are the incremental cost of bringing games to the TV? So I will address that one here first. For us being able to scale our games from a small form factor smartphone or tablet to even just the Mac App Store is really just some extra art and some extra engineering, so it's not a huge incremental amount of effort. You can already play our game and stream it over Apple TV on a 1080p HD widescreen TV and it already looks visually appealing. So we’re already there on the production values; what all kind of need to come to fruition is ultimately what is the controller for the Apple TV or the Google TV going forward, what’s going to be that store front, so in the long run there may be some incremental to really work on - make our games work for those new store fronts and the controller but it's not going to be millions of dollars, we’re talking $50,000, $100,000 going forward.

And then the second question was do we think that those TVs and stores will be channelizing the console market? I think we have already started to see where Facebook gaming as well as the console market has continued to shrink over the past few years with people switching to smartphones and tablet gaming so will this be disruptive to the legacy businesses? I’m sure it will be but we’re just excited about the opportunity when and if that really gains momentum.

Is there another question there?

Unidentified Analyst

What’s the average age of your customers, or the demographics?

Greg Cannon

So the question was for those on the webcast, what’s the demographics of our players. As you can tell from the demos they are very action skill based games geared much more towards males. We do have some casual games like Zombies Ate My Friends or Stardom: Hollywood that are geared also to more of the female category but primarily late teens, mid-20s early 30s is really male is what we’re gearing towards, and those tend to be the users that end up monetizing the best.

Unidentified Analyst

What’s the longevity of the game?

Greg Cannon

The question is what’s the longevity of a game. We’ve had games like Gun Bros that we launched in Q4 of 2010 that has generated $12 million since launch and it's still contributing hundreds of thousands of dollars every quarter. So I think as our games even become even sticker in the future with player versus player and multiplayer capabilities, the longevity of the game will continue to grow beyond one year to two years but even two to three in that sense.

Unidentified Analyst

How many titles do you have in your library?

Greg Cannon

So in our library, the number of titles we have is upwards of 20 – we launch about 20 per year give or take, I think we launched that many last year, planning to launch 18 this year, so I mean the catalog is 30, 40, 50 smartphone games currently under our belt.

Unidentified Analyst

Do you spend like a [inaudible] certain amount for launch or [inaudible]?

Greg Cannon

Sure, so the question is how much do we spend on a product launch and what are the economics there. Our development cycles are 9 to 12 months; we have around 15 to 20 people on a development team. So all-in cost of just pure R&D is around a $1 million. Our studios are located primarily offshore Moscow, Beijing, Toronto, so not really [inaudible] but call it mid-cost so we have helped reduce the R&D investment there and then we would launch a game trying to spend our dollars wisely probably $0.5 million driving it up the charts which then creates organic downloads so you’re not having to pay continually for user acquisition.

Unidentified Analyst

As you switch [inaudible] including more third-party publishing games in the mix [inaudible] how does that change the overall margin profile of the company?

Greg Cannon

Sure so the question is how does third party publishing change the margin of the company. In the long-run the third party publishing division would have the same EBITDA margin as what our internal studios will have. Obviously in the near term the gross margin will be impacted because we’re having to pay a rev share back to those partners initially so I think that’s where we have seen our guidance for 2013. We have brought down our full year guidance to 88% on the gross margin basis to allow for those rev shares but ultimately by reducing the R&D investment on the third party publishing you still get to a - the similar long term EBITDA margin.

Eric Wold - B. Riley & Co.

[Inaudible]

Greg Cannon

Exactly, with de-risked. Yeah.

Eric Wold - B. Riley & Co.

And the quick follow-up on real money gaming, you’ve taken so far a pretty risk free approach so far with the licensing IP to Probability. [Inaudible]. At what point does that become a meaningful contributor to company and what point would you need to see to consider going full blown and possibly trying to get license for the US?

Greg Cannon

Sure, so on the real money gambling front we have launched two slot games through Probability, Samurai Vs Zombies as well as Contract Killer. So we’re starting to see some of the metrics in the revenues from those titles. We obviously guided that this is not going to be material contribution to 2013. We’re also launching a white label product of a Glu Casino Suite with a back end powered by Probability and that will have Bingo slots, Roulette and Black Jack, and again that’s going to be launching later this year and we will see what that real money gambling casino looks like but certainly for 2013 like you said we have taken a bit of a cautious approach working through partnerships.

Obviously long term you will want to be in the U.S. but the legislation with Nevada and New Jersey is still too early to tell where does Glu fit in that, do we want to go after our own license? Do we want to just work with partners? So we will evaluate that and use the knowledge and experience for gaming with working with Probability to determine that long term strategy.

Great. Well thank you very much.

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