Majesco Entertainment's CEO Discusses Q1 2014 Results - Earnings Call Transcript

Mar.12.14 | About: Majesco Entertainment (COOL)

Majesco Entertainment Company (NASDAQ:COOL)

Q1 2014 Earnings Conference Call

March 12, 2014 16:30 ET

Executives

Stephanie Prince - Investor Relations, LHA

Jesse Sutton - Chief Executive Officer

Mike Vesey - Chief Financial Officer

Analysts

Ed Woo - Ascendiant Capital

Ted Caldwell - Lookout Mountain Capital

Operator

Good afternoon, and welcome to the Majesco Entertainment Company Q1 Fiscal 2014 Earnings Conference Call. All participants will be in listen-only mode. (Operator Instructions) Please note this event is being recorded.

I would now like to turn the conference over to Stephanie Prince of LHA. Please go ahead, Ms. Prince.

Stephanie Prince - Investor Relations, LHA

Thank you, Denise, and good afternoon, everyone. Welcome the Majesco Entertainment’s first quarter fiscal 2014 earnings conference call for the quarter ended January 31, 2014. With me on today’s call are Jesse Sutton, Chief Executive Officer and Mike Vesey, Chief Financial Officer.

Before we get started, I would like to remind you that this call is being recorded and an audio broadcast and replay of the teleconference will be available in the Investor Relations section of the company’s website after the conclusion of this call. As a reminder, this call may contain forward-looking statements, including statements regarding management’s intention, hope, expectations, representations, plans or predictions about the future. Such statements are forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995. These forward-looking statements are subject to risks and uncertainties that could cause actual results or actual future results to differ materially from the expectations set forth in the forward-looking statements. Factors that could cause actual results to differ materially are specified in the company’s Annual Report on Form 10-K for the fiscal year ended October 31, 2013 and other filings with the SEC.

The company does not undertake and specifically disclaims any obligation to release publicly the results of any revision that may be made to any forward-looking statements to reflect the occurrences of the anticipated or unanticipated events or circumstances after the date of such statements.

In addition, in order to facilitate a comparison between the reported periods, the company has presented both GAAP and non-GAAP financial measures. GAAP financial measures include expenses related to non-cash compensation, changes in the fair value of warrants, severance costs and the benefits from the sale of certain state income tax benefits derived from net operating losses.

Operating income, net income and diluted income per share have been adjusted to report non-GAAP financial measures that exclude these items. These non-GAAP measures are provided to enhance investors’ overall understanding of the company’s current financial performance and the company’s prospects for the future. These measures should be considered in addition to results prepared in accordance with GAAP, but should not be considered as substitute or superior to GAAP results. Reconciliation between GAAP and non-GAAP financial measures is included in the earnings press release issued earlier this afternoon.

I would now like to turn the call over to Jesse Sutton. Jesse?

Jesse Sutton - Chief Executive Officer

Thanks, Stephanie. Today, in an effort to articulate a clear picture of our strategy amidst the current industry dynamics, Mike will review our first quarter financial results first and then I will layout our strategy for the year ahead, speak about industry developments and conclude with some comments on our upcoming releases before opening up the floor for questions.

As we said on our year end call in January, the holiday retail season was soft again this year and our holiday releases met with mixed sales results. Demand for casual games is still sluggish reflecting the ongoing transition to next-gen console platforms and the fragmentation of the market into online, mobile and social platforms, which is giving consumers more choices.

I would now like to pass the call to Mike Vesey, our Chief Financial Officer to provide a financial review of our first quarter, the financial outlook for the balance of fiscal 2014. Mike?

Mike Vesey - Chief Financial Officer

Thank you, Jesse. I will begin by recapping our results for the first quarter fiscal 2014 before closing with some comments about our balance sheet, liquidity position and the outlook for the balance of fiscal 2014. As is our custom, I will use non-GAAP results when discussing our financial operations.

Net revenue for the three months ended January 31 was $21.9 million, a 7% decline from the $23.5 million reported in the first quarter of last year. On a net basis, the decrease is due to lower licensing fees for our Zumba Fitness titles in Europe. This resulted in net revenue in European market of $3 million compared to $6.1 million in the first quarter last year. However, there are some timing issues that impacted the comparability of our quarterly results year-over-year domestically. We released Zumba Fitness World Party and Zumba Kids during our first quarter fiscal 2014. While our new Zumba release for the prior holiday selling season, Zumba Core was released late in the fourth quarter of fiscal 2012. Therefore, approximately $11 million of launch revenue was included in our fourth quarter results of fiscal 2012, while all launch revenue for World Party and Kids are in our first fiscal quarter of the current year. Overall, Zumba sales accounted for 72% of our net revenue during the three months ended January 31, 2014, compared to 67% in the prior year period.

Gross margin was 15% for the first quarter compared to 30% for the comparable period last year. The decrease reflects development and licensing costs of our new Zumba releases, higher development and licensing costs compared on our newest Zumba releases when compared to the prior year. We incur a fixed development and licensing fees to develop a game and amortize these costs based on expected sales of the game. When sales volumes decreased, amortize development and licensing costs increase as a percent of revenue because they are spread over a smaller revenue base. We developed our latest sequel Zumba Fitness World Party for both current gen and next gen console platforms resulting in higher development expenses relative to revenue when compared to previous titles.

On a non-GAAP basis operating expenses were $7.1 million compared to $8.1 million last year. The decline was primarily due to lower product development costs related to a smaller game slate and closure of our social game development studio last year. This was partially offset by $400,000 of higher selling and marketing expenses primarily for our mobile game releases. The 2013 first quarter including the charge of $800,000 for severance related to the closing of our social games development studio and reduction of certain other fixed expenses in favor of a variable cost model. This has enabled us to be more flexible and better allocate our resources based on seasonality and changing market conditions.

In the first quarter of 2014 we recorded a charge of $247,000 representing our 50% share of Pariplay’s net loss. We account for our investment in GMS/ Pariplay as a joint venture under an equity method and accordingly report 50% – our 50% share of Pariplay’s earnings on a quarterly basis. We reported non-GAAP net loss of $4.1 million for the first quarter fiscal 2014 compared to a non-GAAP net loss of $1.1 million during the same quarter in the prior year. Non-GAAP net loss per share for the quarter was $0.09 compared to a $0.02 net loss in last year’s first quarter. Per share results are based on 44.7 million weighted average shares outstanding compared to 40.5 million for the first quarter last year. The change primarily reflects the sale of common stock to a former investor in Pariplay in the third quarter of last year.

Now turning to our balance sheet, we ended first quarter with $12.3 million in cash and equivalents and another $3.6 million available to us under our accounts receivable factoring agreement. We continue to have no long-term debt. Net cash provided by operating activities for the three months ended January 31, 2014, was $1 million compared to $8.8 million in the comparable period last year. The change was primarily due to a larger operating loss and timing related to our seasonal working capital needs. As of January 31, we have approximately $2.1 million invested in capitalized software and prepaid license fees primarily representing unamortized development costs for games that were released in the first quarter. We ended the quarter with $3 million in inventory compared to $4.9 million at the end of last year’s first quarter reflecting our smaller slate of releases.

Now, regarding our outlook for the balance of fiscal 2014, as Jesse had mentioned the retail market for casual video game software for dedicated handheld and console platforms particularly the Nintendo Wii and DS systems, for which we previously derived the majority of our sales, has experienced a decline related to the transition to next-gen consoles and computing online and mobile platforms. As a result, we have implemented initiatives to focus on segments with higher expected growth such as online, mobile and casino, as well as selected opportunities on next-gen consoles as the installed base develops.

We believe these segments will offer the best opportunities for us to deploy our traditional model of carefully managing our capital resources and diversifying risk among several projects with reasonable budgets. As these initiatives are in their early stages, we are not providing specific guidance for the year. However, given that our first fiscal quarter generally has the significant impact on our full year results due to seasonality, we expect a revenue decline and a corresponding net operating loss for 2014.

As a final point, you will note from our previous filings that we have been informed by NASDAQ that our shares’ common stock are subject to delisting has not met the minimum bid price requirement of $1 for a specified period. We have scheduled the hearing to present a plan of compliance in NASDAQ, which includes a reverse stock split, which was proposed to our shareholders in our proxy statement filed on February 28. I will refer you to these publicly filed documents for further information.

I will now turn it back to Jesse to go through our strategy and our upcoming product releases. Jesse?

Jesse Sutton - Chief Executive Officer

Thanks Mike. In our hit driven industry, Majesco has had a long history of identifying market opportunities during periods of change and responding quickly. We are confident that we can do so with them. Our strategy is focused on four business units: retail console publishing and distribution, digital publishing and distribution under our Midnight City label, mobile games, and lastly, our 50% ownership of PowerPlay, which focuses on online lottery and online gambling. By managing our financial resources conservatively, while we carry out the strategy, we are giving ourselves an opportunity for few hits in the portfolio to build on.

I will discuss each in more detail after I take my view of whatever the industry is relative to our business. As we have said, the videogame industry has been going through a rocky transition to new platforms and new business models. Let me address each separately. As far as the retail console business, the battle for the next console weather is underway. Each results post the holiday season suggest that Sony’s PS4 has taken an initial lead and retailers are hungry for more software. However, Microsoft’s Xbox One is not far behind and the release of Titanfall, EA’s Titanfall exclusively for that platform yesterday serves as notice that this battle will be a marathon rather than a sprint.

Nintendo has been struggling with its console platforms and is lagging behind the other two. We feel that the combination of Nintendo possibly lowering the Wii U price point, along with innovative and exclusive AAA content that they have historically been known for is the only way for them to regain market share. The handheld 3DS is doing okay. However, the smartphone market has become a real alternative to that game play experience. The fastest growing area of the console business has been the India games digital download category. With the independent developer community making better and better games every year, we see this as a growth category.

Regarding the smartphone and tablet market, we believe that for the next 12 months the leading publishers you see today will remain at the top of the leader boards. This is due to the incredibly high price for customer installs which only the biggest games can afford to pay without losing money. We believe that investments in this category has extremely higher risk attached to them as well as significantly higher cash expenses that has been shown historically. And given the speed of change in this market, we are cautious to project anything beyond 12 months.

Now, on to our individual strategy, in our retail console business, we continue to believe that there still is a place for innovative or well-timed branded products and an opportunity to strengthen our position as competitors leave the fields. As a result, we will look to be opportunistic in publishing or distributing products for new and legacy consoles, but with a very conservative cost approach. Our newest Zumba release, Zumba Fitness World Party was launched in November. However, sales in the platform transitioned, where we expect a slower build in the installed base of casual gamers than we saw for past Zumba titles. This was an important factor in our decision to not develop a new Zumba game in 2014.

As we said previously, we made a significant investment in Zumba Fitness World Party using all of the latest technology to provide an innovative game experience. Our investment in the newest game was larger than past durations as it was built for use on both the legacy and next generation Nintendo and Microsoft consoles. Because the installed base will take longer to develop and we invested more heavily than past Zumba titles, we know it will take longer to recoup our investment. For this reason, it makes sense to us to continue marketing world party throughout the year into holiday 2014 rather than investing to develop a new title this year.

In our mobile business, we intend to take an opportunistic approach by investing in smaller games with development partners who have demonstrated success in free-to-play games and mobile games in general. We are reducing our investment in this area, where we gain more experience in this category and become comfortable with the business formula that will deliver consistent results.

GMS Entertainment, our 50% partnership in online, social and casino gaming is working on several exciting new projects, including live scratch and instant win games in several U.S. states that are expected to launch during the coming months. We are now live since late January with four games on INTRALOT’s video lottery terminals, or VLTs in Idaho. And we expect our partner, INTRALOT, the maker of these VLTs to place these terminals in more states over the next few months. As we have more months of sales under our belts, we will have a clearer picture of the growth prospects for this business.

Midnight City games, our independent game publishing and distribution division leverages Majesco’s traditional core competencies, our sales and marketing expertise, strong industry relationships and broad distribution reach. Midnight City made several impressive partnerships and game announcements early this week in advance of the Game Developers Conference that begins next week in San Francisco. These include partnerships with the highly regarded developers, Double Fine Productions and The Fullbright Company. We believe that these partnerships will strengthen the Midnight City brand in the marketplace and within the indie games community.

Midnight City plans to provide publishing and distribution services to approximately 10 indie game titles on various digital platforms in 2014, including previously announced titles like Slender: The Arrival, VIDEOBALL, and the well-known Gone Home. This game builds on the highly successful console release with exclusive support for online coop play. Later this year, Midnight City will publish Costume Quest 2 on PC and digital consoles under the Midnight City label. This game is being developed by Tim Schafer’s Double Fine Productions and stars candy-crazed crusaders Wren and Reynold who must once again protect Halloween from untold horrors and grown-ups. The characters come armed with a new batch of costumes that they wear to transform into giant super-powered fantasy Hallowarriors. Fans of the original Costume Quest can look forward to a sweet upgraded battle system and a story that is unmistakably Double Fine.

We are very excited about these recent announcements. We believe that our focus on the indie games community and digital platforms can open up new avenues for our business by aligning us with up and coming developers and new potential franchises.

With respect to games for release during the current quarter on console on the balance of the year, Mama’s back. In April, we are launching Gardening Mama 2: Forest Friends on Nintendo 3DS. In it we celebrate Mama’s return to the garden in a brand new stylus-based experience that challenges players to grow 50 fresh flowers, fruits and vegetables for animal friends to sell in their woodland shops. Cooking Mama 5: Bon Appetit! will launch this holiday on Nintendo 3DS starring Mama from the best-selling franchise that defined the cooking genre. Players can create over 60 mouthwatering recipes from classic fare to exotic cultural dishes and sweet treats. Players will also keep busy with new household activities and games set within Mama’s bustling Burger Shop.

In this spring, we will be distributing Bound by Flame for consoles and PC. This game puts players in the role of a mercenary possessed by a flame demon in a desperate world ravaged by seven Ice Lords and their Dead-Army. In this RPG where all your choices lead to consequences, you must choose between unleashing the powers of the beast within and rejecting the demonic influence that wants to claim your humanity. Players can freely develop their abilities and combat style through three skill trees:

Swing the heavy weapons of the Fighter, wield the sneaky dual daggers of the Ranger, or use the devastating flame spells of the Pyromancer. Players can also recruit companions who will live, love, and hate and fight alongside you against the dreadful creatures of Vertiel, in real-time epic battles based on tactics and reaction. As I mentioned next week is a Game Developer Conference in San Francisco and Majesco will be swamped with meeting to support all four of our business units. We will be working on providing that opportunities for the 2014 holiday season that fit our business model and build our portfolio of products.

We look forward to reporting on the progress we made there on our next call. We will also be announcing additional titles for our 2014 lineup as we get closer to the important (Eastry) industry event in early June. In closing we continue to see opportunity in our traditional console market while we develop new titles for online, mobile and social platforms. Our 25 years of operations which includes several industry transitions and periods of uncertainty support our belief that we have the staying power to work through to strengthen Majesco during this industry transition.

We will now open the call up for questions. Operator?

Question-and-Answer Session

Operator

Thank you. We will now begin the question-and-answer session. (Operator Instructions) And our first question will come from Ed Woo of Ascendiant Capital. Please go ahead.

Ed Woo - Ascendiant Capital

Yes, congratulations. Good to see Mama coming back.

Jesse Sutton

Thank you, Ed.

Ed Woo - Ascendiant Capital

Thank you, Ed. I did have a question, you mentioned on the gambling initiative that there is already been a launch of operations in some states. Do you see that as a roll-off that’s going to happen pretty quickly across the board or if it’s going to be very targeted initially?

Jesse Sutton

Right now we’re in Idaho. And on the VLTs or the video lottery terminals Intralot who support the state with VLTs. And they’re going to be bringing those that same mechanic and that same business model to other states in the coming months. We anticipate that our games will be on those models as well and once we start getting in some real sales numbers of February and March in Idaho and we start seeing what that means in terms of extrapolating out numbers into other states etcetera, we’ll be able to have a better handle on where the potential of that business could go.

Ed Woo - Ascendiant Capital

Great. And the other question I have is you mentioned about the next-gen console cycle seed to be doing pretty well and that’s one of the areas of growth. Have you announced anything specifically for that and do you see that development cost would be manageable for casual games?

Jesse Sutton

So in terms of our products chose next-gen platforms, right now we’re essentially looking at it from a conservative standpoint, looking at projects that might be – being developed by either independent developers or publishers from different territories who want presence in the U.S. or a publishing partner at a reasonable cost. From that perspective we – the announcement of Bound by Fire is a distribution deal that incorporates the PlayStation 3 and Xbox 360 and a PlayStation 4 title, which is really the leading platform for it. So those are the kinds of deals that we are looking at now and as the market develops a bigger installed base and opportunities come to us that are within our budget and strategy, we will continue to announce more of those.

Ed Woo - Ascendiant Capital

Do you see a big rise in development cost for the next-gen versus the last gen?

Jesse Sutton

In terms of the blockbuster games, there is a bigger cost. I don’t see the cost as – I don’t see the difference in development costs going from PlayStation 3 to PlayStation 4 and Xbox 360 to Xbox One as intensive difference as it was from PlayStation 2 to PlayStation 3 and Xbox, the original Xbox to Xbox 360.

Ed Woo - Ascendiant Capital

Great. Well, thank you and good luck.

Jesse Sutton

Thank you.

Operator

(Operator Instructions) Our next question will come from Ted Caldwell of Lookout Mountain Capital. Please go ahead.

Ted Caldwell - Lookout Mountain Capital

Yes. Is Majesco receiving timely payment from the retail outlets that it sells through?

Jesse Sutton

Yes. Mike?

Mike Vesey

Hi. Yes, as you know we primarily sell to big box retailers, Wal-Mart, Target, GameStop, Best Buy and none of those retailers are slowing their payments or showing any signs of any financial difficulties for us we can say.

Ted Caldwell - Lookout Mountain Capital

Okay. As a follow-up question again, is Majesco slowing its payments to any of its game providers?

Mike Vesey

No.

Ted Caldwell - Lookout Mountain Capital

Is Majesco in compliance with the terms of the contracts it has within providers?

Mike Vesey

Yes, absolutely.

Ted Caldwell - Lookout Mountain Capital

Good. And then could you provide a little more color on what portion of your names you see in the future that would come from downloadable games versus the traditional best?

Jesse Sutton

Sure, I will take that. Right now, when you look at the opportunities that are in the market within our cost range and budget, you are looking more along the lines of products that are digital delivery oriented. But that being said, there are also opportunities that are coming up now taking advantage of Majesco’s built-in infrastructure and distribution capabilities and publishing capabilities that we are finding. And so to create a clear answer to you of what percentage is going to be, you know what, I would tell you we have more of a clear answer after we finish going through our next two device conferences, Game Developers Conference and E3 probably end of Q2.

Ted Caldwell - Lookout Mountain Capital

Okay. Then with specifically addressing the next one or two quarters as this transition begins, will Majesco remain in compliance with its contractual obligations to the game providers that it distributes to?

Jesse Sutton

I am sorry you went a little – it wasn’t clear.

Ted Caldwell - Lookout Mountain Capital

Yes. Over the next quarter or two as this transition – as the industry makes a shift, do you see Majesco remaining in compliance with the contracts it has – the existing contracts it has with its game providers?

Jesse Sutton

So just to put into perspective, Majesco has been around for a long time. And we built a fantastic relationship with the development community. And although during the course of the 26 years that I have been here, you are always going through discussions and debates about aspects of a particular relationship. Everyone we have I am very proud of. So but there is a particular project that you are talking about, feel free to let me know, I am pretty clear that we have tremendous relationship among developers.

Operator

And ladies and gentlemen, at this time we will conclude the question-and-answer session. I would like to turn the conference back over to Jesse Sutton for his closing remarks.

Jesse Sutton - Chief Executive Officer

Thank you all for joining us today. And we look forward to reporting back to you on our second quarter call in mid June.

Operator

Ladies and gentlemen, the conference has now concluded. We thank you for attending today’s presentation. You may now disconnect your lines.

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