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Majesco Entertainment Company (NASDAQ:COOL)

Q2 2014 Earnings Conference Call

June 9, 2014 4:30 PM ET

Executives

Stephanie Prince - IR, LHA

Jesse Sutton - CEO

Mike Vesey - CFO

Analysts

Ed Woo - Ascendiant Capital

Operator

Good day, and welcome to the Majesco Entertainment Company’s Second Quarter Fiscal 2014 Earnings Conference Call. All participants will be in listen-only mode. (Operator Instructions) After today’s presentation there will be an opportunity to ask questions. (Operator Instructions) Please note this event is being recorded.

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

Stephanie Prince

Thank you, Laura, and good afternoon, everyone. Welcome to Majesco Entertainment’s second quarter fiscal 2014 earnings conference call for the quarter ended April 30, 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 Web site 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 expectation 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

Thanks Stephanie. I am going to open with some brief comments before turning the call over to Mike to review our second quarter results. Then I’ll review our strategy for 2014 and close with some comments on our upcoming releases before opening up the floor for questions. On our last call in March, I talked in detail about our strategy for 2014 that is focused on diversifying our revenue streams from higher growth business segments, such as online, digital and casino.

During the past months, we have been busy building our product portfolio in these areas to bring us closer to cash flow positive. Majesco had a quiet second quarter with no major new releases in shipping. Our new business units continue to develop and we’re pleased with that progress. In our traditional console business we are on top of developing trends in order to capture the selected opportunities that play to our strengths.

We released Bound by Flame under a distribution agreement with Focus Entertainment in May, which falls into our third fiscal quarter and we plan to release several retail and online games in our fourth fiscal quarter, several of which I will detail in a few minutes. We’re encouraged by the success of Sony and Microsoft’s next-gen platforms and we’re beginning to uncover opportunities that meet our business model in both retail and digital distribution as we continue building a product pipeline to take us into fiscal 2015.

I’ll now pass the call to Mike Vesey, our Chief Financial Officer to provide a financial review of our second quarter and the financial outlook for the balance of fiscal 2014. Mike?

Mike Vesey

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

Net revenue for the three months ended April 30th was 3.2 million, a 67% decrease from the 9.7 million reported in the second quarter of last year. The second quarter is historically is seasonally softer quarter and included just one newly released game, Gardening Mama for the Nintendo 3DS. Accordingly our sales consisted almost entirely of catalogue sales of our existing products. Comparatively we released Monster High which contributed more significantly to sales than last year’s second quarter. In addition Zumba sales continued to be soft accounting for 48% of net revenue compared to 65% in the prior year period. This is due to two factors. First is the continuing decline of software sales for the Wii U platform in general which was the major platform for the fixed category, secondly our Zumba titles have been into market since 2010, so sales of the product are reflecting the maturity of the product.

These issues impacted sales in Europe as well. Net revenue in the European market was $100,000 in 2014 second quarter, compared to 1.5 million in the second quarter of last year. Gross margin declined to 2% for the second quarter compared to 31% for the comparable period last year. The decrease reflects higher development and licensing costs relative to sales for our latest Zumba releases. We developed our latest sequel, Zumba Fitness World Party for both current gen and next-gen console platforms which resulted in higher development expenses when compared to development expenses for previous Zumba titles.

On a non-GAAP basis, operating expenses were $3.2 million compared to 4.8 million last year. The decline primarily reflects lower product development costs, lower personnel and competition costs compared to the second quarter of last year. We realigned our business model to a more variable cross model in fiscal 2013 enabling us to be more flexible and better allocate our resources in reaction to the changing market conditions. In the second quarter of 2014 we recorded a charge of $200,000 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 our 50% of Pariplay’s earnings on a quarterly basis.

We reported a non-GAAP net loss of 3.3 million for the second quarter of fiscal 2014 compared to a non-GAAP net loss of 1.9 million during the same quarter of last year. Non-GAAP net loss per share for the quarter was $0.07 compared to a $0.05 net loss in last year’s second quarter. Per share results are based on 44.8 million weighted average shares outstanding compared to 40.5 million for the second quarter of last year. The increase primarily reflects the sale of common stock to a former investor in Pariplay in the third quarter of last year.

For the six months of fiscal 2014, net revenues were 25.2 million, a 24% decline from the 33.2 million in the year ago period. Gross margin was 14% compared to 31% last year. The decrease primarily reflects lower average net selling prices and higher fixed development costs and license fees in the current period as a percentage of sales. The non-GAAP net loss was 7.5 million or $0.17 per fully diluted share, compared to a non-GAAP net loss of 3 million or $0.07 per share in 2013. Overall, Zumba sales accounted for 69% of our net revenues during the six months ended April 30, 2014, compared to 66% for the same period in the prior year.

Now turning to our balance sheet, we ended the second quarter with $10.9 million in cash and equivalents and another 1.2 million available to us under our accounts receivable factoring agreement. Our total working capital was approximately $8.5 million. We continue to have no long-term debt. Net cash used in operating activities for the six months ended April 30, was $300,000 compared to net cash provided by operating activities at 7.7 million in the comparable period last year. The change was primarily due to a larger net loss in the current period and fluctuations in accounts receivable collections due to the timing of our holiday releases around our fiscal year-end cut off.

As of April 30th we have approximately $1.7 million invested in capitalized software and prepaid license fees primarily representing development costs for digital games to be released later in the year. We ended the quarter with 2.3 million in inventory compared to 4.9 million at the end of last year’s second quarter reflecting our smaller release rate.

Now turning to our outlook for the balance of fiscal 2014, due to the uncertainty in the market and lack of history in our new initiatives, we’re not providing specific guidance for fiscal 2014. However, we will provide some insight into our business model for the rest of the fiscal year. We have been managing our financial resources conservatively in response to the changing market. As noted above, our total operating expenses for the quarter we just completed, on a non-GAAP basis, were $3.2 million. Approximately 500,000 of that amount was through variable expenses, beating us with the fixed operating expense run rate of approximately $2.7 million per quarter.

We’re planning for several releases in our traditional video game business between now and the end of our fiscal year which we expect to provide a positive contribution towards these fixed expenses. During May, which falls in our third fiscal quarter we released Bound by Flame, a three-console platforms under a distribution arrangement with Focus Entertainment. Bound by Flame will be recorded as a new release in our third quarter results. During our fourth fiscal quarter, we expect to release at least one more title at retail under a distribution agreement along with Cooking Mama 5 as a publisher.

Additionally, we will release several digital games on various platforms under the Midnight City label including Costume Quest 2 as a publisher and Gone Home under a publishing services agreement. When we release titles as a publisher we generally invest in fixed upfront development costs and have high leverage to the upside if the title performs well. Under our publishing service or our distribution agreements, we invest less in upfront development costs, taking less downside risk, and accordingly sharing on a lower percentage of the game profits. I will also point out that our fiscal year ends October 31st, which is prior to the holiday selling period.

Regarding our iCasino and iLottery initiative through Power Play the venture has announced several licensing partnerships and continues to expand its online gaming platform with clients under its B2B model, which is up and running. However, the business is still early stage and has not reached the level of maturity where we can provide any specific guidance. We record a net share of earnings on the equity method and any future investment decisions are made on a joint basis with Majesco and our operating partner.

As a final note, you will note from our previous filings that we have been informed by NASDAQ that our shares of common stock are subject to delisting as they have not met the minimum bid price requirement of $1 for a specified period. The plan of compliance that we presented to NASDAQ in late March was accepted and we have until June 30, 2014, to regain compliance. At this time, we intend to effectuate a reverse stock split in order to remain complaint with our obligation in NASDAQ. We expect to provide further information on the split in the upcoming days.

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

Jesse Sutton

Thanks Mike. As we said on our last call, our strategy is focused on the business which we believe offer the best opportunities for growth during the ongoing industry transition and which positioned us to benefit from the market fragmentation into online mobile and social platforms. These businesses include Majesco’s traditional retail console, publishing and distribution, digital publishing and distribution under our Midnight City label and our 50% ownership of Power Play, which focuses on online lottery and online gambling. We are particularly excited about our Power Play partnership in our online, social and casino gaming. We’re currently focused on developing two areas in this segment, both on the B2B side of the business.

In the iGaming space, we announced important fields during the second quarter for branded content. These include a strategic partnership with Atari to launch their video game brands across real-money gambling including, iLottery, social, online, and mobile platforms. We also announced a similar partnership with Valiant Entertainment, a leading comic book publishing company within an award winning library of more than 1,700 characters. We are focused on building our product portfolio with 888 Games and others, and we expect these brands will play a significant role in that process.

We also plan on launching our real-money gambling or RMG Three Stooges game in the coming weeks as our first branded game together. In the iLottery space, our partner INTRALOT, the manufacturer of video lottery terminals or VLP’s is still building its presences in the U.S. As we said on the last quarter call, we are live in Idaho since late January with four games and INTRALOT just announced their entry into Vermont. We expect other states to open up overtime as well.

We are very excited about the games we are creating as well as the platform we’ve created them on which we believe can build significant value for Majesco. As we have previously discussed, Midnight City games our independent game, publishing and distribution division was formed to leverage Majesco’s traditional core competencies that include our sales and marketing expertise, strong industry relationships, and broad distribution reach. Midnight City’s recently partnerships with Double Fine Productions and The Fullbright Company developer of Gone Home have helped to raise the visibility of the Midnight City brand in the marketplace and within any game community bringing us additional opportunities with up and coming developers.

For Halloween, Midnight City will publish Costume Quest 2 on PC and digital consoles. 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.

Later this year, Midnight City will publish Gone Home one of the best games of 2013 on digital consoles. The Fullbright Company’s runaway hit brings the explorative Greenbriar family experience to a whole new audience. Gone Home extends an invitation into an ordinary family’s mysterious past as a young woman who discovers an empty house that’s much more than it seems.

In our retail console business, we are continuing to be opportunistic and financially conservative in publishing or distributing products for new and legacy consoles, as we believe that there is still a place for innovative and well-timed branded products. For example, our latest Zumba release, Zumba Fitness World Party was launched last November and built with the latest next-generation technology, which resulted in a largest upfront investment than past Zumba titles. As we know it will take longer to recoup this larger investment, we elected not to develop another Zumba game in 2014. We will continue marketing World Party throughout the year, into holiday 2014, while the next-gen install base continuous to grow.

For the holiday season, we are launching Cooking Mama 5: Bon Appétit! the newest title in this best selling franchise on Nintendo 3DS. 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 mid-May, we began distributing the popular Bound by Flame for consoles and PC. This highly anticipated release 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.

This week is the annual E3 industry conference on the West Coast. The Majesco team attending the conference is focused on finding opportunities for our retail and digital distribution business that fit our strategy. We look forward to discussing our impression from the conference with you on our next call. We also expect to make additional 2014 product announcements in the coming months.

In closing, a few recent releases such as Bound by Flame and Gardening Mama 2 combined with other upcoming releases and business developments through this year and next. Make us more comfortable that Majesco is heading in the right direction back toward profitability in the future. Majesco has a long history of indentifying market opportunities during periods of change and responding quickly. We continue to see opportunity in our traditional console market and are excited about the opportunities we are pursuing for online, digital and social platforms.

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.

Ed Woo - Ascendiant Capital

Yes. Thanks for taking my question. I had a question of, what do you see out there in the retail environment, I know we get some positive press about the install base the next-gen is launching but at the same time current gen seems to be declining faster, has there been any noticeable change this year?

Jesse Sutton

I think, Ed this is Jesse. I think that when you talk about the current retail environment, there is no question that next-gen is leading the leading the way right now with sales and the Xbox 1 and PlayStation 4 and even Nintendo 3DS had a good month last month. And it is starting to build its team, Nintendo of course just launched Mario Kart 8 and, on Wii U and that has had some impact as well. On a previous gen, it’s been primarily, what I would call the AAA titles that continue to do well there and some value product for the casual customer, now that those install bases have been built big enough. My expectations are as it has been historically proving where the holiday season is where a significant portion of the business is done and where we’ll see the biggest products launched and the most excitement surrounding retail.

Ed Woo - Ascendiant Capital

Great. Then one question on Zumba now that I guess for this holiday you plan to discontinue selling the catalog title. Is the profitability on that improved, have you guys amortized most of your development costs on that?

Jesse Sutton

Well, we’ll continue selling it throughout the holiday, the plan is to continue to managing that product, that retail with promotions and what have you and really when holiday season comes around again, give the Zumba community another opportunity to acquire the last title, especially since the install base, we expect the install base on previous generations to continue to grow, through the casual market. Mike you want to talk about…?

Mike Vesey

Yes. On the amortization, and the development question we are matching up against the first 12 month sales, so we released just the Zumba World Party titles somewhere around November 1st, last year. So the amortization we continue through approximately November 1st of this year.

Ed Woo - Ascendiant Capital

Great. Well, thank you and good luck.

Mike Vesey

Thanks, Ed.

Jesse Sutton

Thank you, Ed.

Operator

And this will conclude our question-and-answer session I would like to turn the conference back over to Jesse Sutton for any closing remarks.

Jesse Sutton

Thank you and thank you all for joining us today. We look forward to reporting back to you on our third quarter call in mid-September.

Operator

The conference is now concluded. Thank you for attending today’s presentation. You may now disconnect.

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