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Majesco Entertainment (NASDAQ:COOL)

Q3 2012 Earnings Call

September 10, 2012 4:30 pm ET

Executives

Stephanie Prince

Jesse Sutton - Chief Executive Officer and Director

Michael Vesey - Chief Financial Officer and Principal Accounting Officer

Jeffrey Anderson - Senior Vice President of Social Games

Analysts

Edward M. Woo - Ascendiant Capital Markets LLC, Research Division

Sean P. McGowan - Needham & Company, LLC, Research Division

John Taylor

Operator

Good afternoon, and welcome to the Majesco Entertainment Third Quarter Fiscal 2012 Financial Results Conference Call. [Operator Instructions] Please also note that today's event is being recorded. At this time, I would like to turn the conference call over to Ms. Stephanie Prince of LHA. Please go ahead, Ms. Prince.

Stephanie Prince

Thank you, Jamie, and good afternoon, everyone. Welcome to Majesco Entertainment's Third Quarter Fiscal 2012 Earnings Conference Call for the quarter ended July 31, 2012. With me on today's call are Jesse Sutton, Chief Executive Officer; Mike Vesey, Chief Financial Officer; and Jeff Anderson, SVP of Social and Mobile.

Before we get started, I would like to remind you that the 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. 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 materials -- 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 year ended October 31, 2011, 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 anticipated or unanticipated events or circumstances after the date of such statements.

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 benefit 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 a 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. Jesse?

Jesse Sutton

Thanks, Stephanie. Today, I'll start my remarks with some highlights and an overview of our performance in the third quarter. Mike will then review our financial results. I'll then conclude with a recap of our product slate for the fourth quarter and the holiday season, and then we'll open the call up for questions.

Our third quarter came in about as expected, as retail conditions for interactive entertainment remained challenging amid the typical summer seasonal slowness.

Our Zumba Fitness products continued a strong performance, ranking among the top interactive dance and fitness titles. Overall, the Zumba Fitness franchise has now sold over 8 million units and maintained its standing as the second largest fitness franchise in the entire video game industry, and is also the best-selling fitness franchise on Kinect.

We reported revenue of $9.1 million compared to $19.5 million in the third quarter last year. The year-over-year decrease is impacted by industry-wide decreases in retail sales attributable to the end of life cycle for several gaming platforms, including the Nintendo Wii and DS. As a result, non-GAAP earnings per share were a loss of $0.09 compared with non-GAAP income of $0.03 a year ago.

Looking ahead, we are very excited about our holiday release slate, beginning with the formal introduction of NBA Baller Beats tomorrow and the launch of Mini Putt Park on zynga.com last week. We are optimistic about the opportunities for growth in the dynamic interactive entertainment industry.

I would now like to pass the call to Mike Vesey, our Chief Financial Officer, to provide a financial review of our third quarter results. I will then discuss our holiday release schedule. Mike?

Michael Vesey

Thank you, Jesse. I'll begin by recapping our results for the third quarter and close with some comments about our outlook for the full year fiscal 2012. As is our custom, I use non-GAAP results when discussing our financial results.

Revenue for the 3 months ended July 31 was $9.1 million, down from $19.5 million reported in the third quarter last year. The decrease is primarily due to decreased sales in the U.S. attributable to the slow retail market for video games, the late life cycle for the Nintendo Wii and DS platform, and some changes in timing of our Zumba Fitness releases in Europe over the year.

International sales in the third quarter were $2 million or 22% of revenue compared to $5.3 million or 27% of revenue in the third quarter of fiscal 2011. The decrease reflects the change in timing of the release of our Zumba Fitness products in Europe. In 2011, we released Zumba Fitness for the Wii in our second fiscal quarter. However, its best-selling quarter was the third fiscal quarter of 2011. Comparably, in fiscal 2012, we released Zumba Fitness 2 in our first fiscal quarter for the holiday, with larger initial order quantities due to its track record. Total revenue from Zumba Fitness products accounted for approximately 79% of sales compared to 80% in the same quarter a year ago.

Our gross margin was 38% in the third quarter compared to 41% a year ago. The decrease was primarily due to the change in mix of revenues between our U.S. and international operations. On a non-GAAP basis, operating expenses increased approximately $100,000 to $6.7 million, primarily due to higher selling and marketing expenses of $2.7 million compared to $2.3 million in the year-ago third quarter.

We spent approximately $500,000 on prelaunch activities for our NBA Baller Beats during the quarter in 2012. Partially offsetting the higher selling and marketing expenses was the absence of charges to write off canceled game projects in development. In the third quarter of fiscal 2011, we recorded a charge of $150,000 for cancellations.

Research and development expenses were comparable in the 2012 and 2011 third quarter at approximately $1.9 million. In the current period, higher expenses for the development of social games generally offset lower internal costs of our other development activities. Overall, we spent approximately $1.1 million developing mobile social games this quarter. General and administrative expenses decreased by approximately $100,000 to $2.0 million in the third quarter of 2012. As a result, we reported non-GAAP -- a non-GAAP net loss of $3.2 million compared to non-GAAP net income of $1.1 million in the prior year. Non-GAAP diluted net loss per share for the quarter was $0.09 compared to income of $0.03 in the same period last year.

Now reviewing our year-to-date results. Revenue for the 9 months ended July 31, 2012 was $105.7 million, a 6% increase compared to $100.2 million reported in the comparable period last year. The increase was primarily due to the release of Zumba Fitness 2 to do Wii and Zumba Fitness Rush on the Kinect Xbox 360, particularly in the European market.

International net revenue increased to $25.2 million dollars from $8.7 million in the same period a year ago. The increase reflects the positive impact of the Zumba releases and the benefits of selling finished goods to redistribution agreement in certain markets in fiscal 2012 whereas in the prior year, we licensed manufacturing rights to another publisher in all markets.

Overall, sales of Zumba products accounted for approximately 79% of our sales during the 9-month period compared with 70% a year ago. Our gross margin for the 9-month period was 37%, down from 41% in the same period a year ago. The decrease was primarily due to lower gross margins on some of our new release titles in our first fiscal quarter and higher license cost and promotional allowances to retailers on some of our Zumba Fitness products.

Operating expenses were $31 million in the current 9-month period, an increase of $4.8 million from the prior year. Approximately 3/4 of the increase was due to increased media, advertising, and variable sales costs related to Zumba Fitness and other titles. The bulk of the remaining variance reflects higher research and development costs associated with the internal development of social and mobile games. Today we have spent $3.2 million, putting us on track to invest approximately $4 million to $5 million during fiscal 2012 on our social and mobile initiative.

As a result, non-GAAP net income for the 9-month period decreased to $7.1 million compared to $13.9 million in the prior year. Non-GAAP diluted earnings per share for the 9 months decreased to $0.17 compared to $0.35 in the same period last year.

Turning now to our balance sheet. We ended the third fiscal quarter with $27.3 million in cash and equivalents. An additional $2.9 million is available to us under our factoring agreement, giving us total cash and availability of roughly $30 million. The net cash provided by operating activities for the 9 months ended July 31, 2012 was $15.1 million compared to $16.6 million during the same period in the prior year. The decrease is primarily due to the timing of payments of license fees.

As of July 31, we had approximately $7.7 million invested in capitalized software development and prepaid royalties, with another $5.1 million committed to complete these games in progress.

We ended the quarter with $6.1 million of inventory compared to $4.6 million at the end of the third quarter of 2011. As in prior years, we expect to utilize a substantial portion of our cash balance to fund seasonal inventory and other working capital needs related to the holiday selling season. We've historically replenished this cash balance in our first and second fiscal quarters of the following fiscal year, as we collect receivables related to the holiday.

Now turning to our 2012 outlook. Given the impact of the end of life cycle of the Nintendo Wii and Nintendo DS on our catalog products, we expect to be at the lower end of our previously issued guidance of approximately $130 million to $140 million in net revenue, and $0.20 to $0.30 in non-GAAP earnings per share for the fiscal year ended October 31, 2012. This compares to approximately $125 million in net revenue and $0.28 in non-GAAP earnings per share in the prior year.

As a reminder, our EPS range includes approximately $0.10 to $0.12 in expenses for our investment in our online games development.

In summary, our third quarter came in as expected given typical seasonal softness and a challenging retail environment. We also have incurred some prelaunch expenses related to NBA Baller Beats during the quarter, which is being rolled out tomorrow.

We look forward to the launch of our holiday slate, especially the launch of NBA Baller Beats and the upcoming launches of Zumba Fitness Core. Equally important is progress we are making in reaching our longer-term goals in building our freemium games business with the launch of Mini Putt Park in partnership with Zynga, and the release of our -- upcoming release of our first 2 freemium titles for smartphones and iPad.

As a reminder our business is seasonal, with the majority of our holiday sales typically being recorded in our first fiscal quarter, which begins on November 1. We'll be releasing 2 significant titles on our fourth fiscal quarter of 2012, Zumba Fitness Core and NBA Baller Beats.

Our -- since our year-ends on October 31, we expect a significant portion of sales related to these products to be reflected in our first fiscal quarter of fiscal 2013, as retailers reorder during the holiday selling season.

Jesse will now speak in further detail about the holiday releases. Jesse?

Jesse Sutton

Thanks, Mike. I will now provide some comments on our lineup for the rest of 2012. This year, our holiday lineup is our most diverse ever, reflecting the shifting landscape in our industry. We are launching several products around proven brands such as Zumba Fitness, Cooking Mama, Hello Kitty, targeting the large install base and attractive price points of established platforms like the Nintendo Wii, which are in the late stage of their life cycles.

This is complemented by innovative new products -- product launches, designed to take advantage of new technologies and longer-term growth opportunities and motion-based gaming, digital download, networks and online social and mobile gaming on platforms such as iPhones and iPads. We are excited about the opportunities provided by the new platforms and innovations being introduced into the industry.

Tomorrow, NBA Baller Beats launches as the first-ever full body motion-based NBA licensed video game that lets you perform like a pro using a real basketball. This fun, high-energy and first-of-its-kind participative basketball video game, exclusively on Kinect for Xbox 360 will be on shelf in all major retailers.

Baller Beats comes packaged with an official licensed NBA game-day replica ball from Spalding and will retail at $59.99. NBA Baller Beats gets players up and on their feet using a real basketball to develop real ball handling skills by dribbling and performing skill moves to the beats of an eclectic soundtrack. Master crossovers, palm fakes, behind-the-back, around-the-world and more, as you bounce the ball to the beat of 30 licensed tracks that span across decades and genres, including hip-hop, rock, old school classics from artists like Kanye West, LMFAO, Karmin, Janelle Monae, Run DMC, Missy Elliott, Queen and many more.

We are really excited about NBA Baller Beats based on feedback we've received all summer long from retailers, athletes, celebrities, the media and consumers. The Seattle Times has called NBA Baller Beats the Motion Game of the Year. Family-Friendly Gaming has given it the Silver Award for Best Sports Game of the Year; and Cred, which measures social media influence, cited NBA Baller Beats as the Second Most Buzzed-About Game at E3 this year. We have over 4 million views of our prelaunch videos on YouTube and close to 700,000 Twitter followers, which is more than any other video game franchise or platform, and the game hasn't even launched yet.

Everywhere we've demoed Baller Beats, the reception has been overwhelmingly enthusiastic. This includes at E3, at summer youth camps in partnership with ProCamps basketball camps that offer kids from ages 7 to 18 the opportunity to get hands-on basketball instruction with some of the best players in the NBA and WNBA, throughout the Tristate, New York tristate area, with the New York Knicks and Liberty Fitness initiatives and most recently, our MTV VMA after-party. Deron Williams, 2012 Olympic gold medal winner, 3-time NBA All-Star play guard and the cover athlete for this game, and NBA legend, TNT commentator and Baller Beats narrator, Kenny Smith, are out there supporting the introduction as well. Today, Deron will demo the game live on BET's #1 rated show, 106 & Park. And he also hosted a media day talking to reporters from Maxim, The Source, XXL, and TMZ, The Associated Press and more. Kenny has done numerous interviews including New York Times, LA Times, ESPN Radio, NBA TV, Game Trailers, Machinima and more.

The game was also featured at preview events this past weekend at the Microsoft flagship store in Bellevue, Washington, and GameStop's New York flagship store. Needless to say, we are excited around the hype of this game's launch and its holiday sales potential.

Next up is the release of Zumba Fitness Core on both the Wii and Kinect for Xbox 360 on October 16. Core is breaking new ground in the fitness space, as the first and only game designed to sculpt your abs and strengthen your core. The consumer-driven schematic is backed by research results from 28,000 women in our target demographic who confirmed that abs are the #1 part of their body that they would like to transform. We are excited to offer players a fun and effective alternative to crunches, delivered within Zumba's signature dance fitness party workout. Core also layers in a huge range of licensed music across 33 different dance files, the most styles of any Zumba game to date, and more than any other dance or fitness game on the market now.

We have also added new fitness features including goals, plus and nutrition and lifestyle content to ensure that Core is offering consumers the deepest, richest Zumba experience to date.

At E3, Core earned an Xbox 360 Globe Award from Family-Friendly Gaming and subsequent events since then have highlighted at both media and retail are embracing our Core content. From a strategic perspective, Zumba Fitness Core underlines our focus on growing our #1 franchise in smart, marketable ways that offer competitive differentiation and real consumer value.

Beyond dance fitness, we see market opportunity in offering players access. Access to the same workout and celebrity trainer that major celebrities use to get in shape for the big screen and red carpet. Harley Pasternak's Hollywood Workout lets players train with Harley himself, the fitness expert behind many of Hollywood's hottest bodies including Lady Gaga, Megan Fox, Katy Perry, Jennifer Hudson, Robert Pattinson, Kanye West and many more. What celebrities have learned and we are making available to the general public is that Harley's 5-Factor fitness program requires just 25 minutes a day, 5 days a week. This easy, approachable workout, coupled with the 5-Factor diet, is a highly effective program that can transform your body fast.

This game launches next week on September 18, and Harley himself is hosting press and celebrities at his home studio to demo the game. You'll see Harley promoting the game on national TV news programs, daytime talk shows and news magazines in the coming weeks.

We've realized success with our previous Hello Kitty handheld game and believe the strong brand has an opportunity on 3DS as that install base grows. Hello Kitty Picnic with Sanrio Friends features a pop icon in all the signature brand characters in fun touchscreen activities centered around the picnic party. The game is set to launch in North America this holiday.

We are also re-releasing some of our best-selling Cooking Mama titles in 3 separate 2-for-1 value packs which make great gifts, attract new fans with the strong value proposition and take advantage of the large install base of established Cooking Mama fans of the Nintendo DS and Wii.

In the digital download space, Double Dragon Neon is a solid brawler based on the top-selling classic with a built-in fan base that launches September 11 on PlayStation Network and Xbox LIVE Arcade. We've once again partnered with WayForward, the award-winning team known for bringing classic properties back to audiences in exciting new ways. We’re thrilled that the WayForward team has put their signature spin on the father of all brawlers, Double Dragon, and believe this fresh take on an arcade throwback will attract players with this exciting mix of over-the-top combat, retro aesthetics and memorable soundtrack.

We’ve stated in the past that our strategic focus for our console games is building new experiences around big brands. This holiday's lineup is a true reflection of our strategy, as we release games featuring Zumba, the NBA, Harley Pasternak, Hello Kitty, Cooking Mama and Double Dragon. We are just as focused on being successful in the digital space, and we are launching a number of social and mobile games to further diversify our portfolio and capitalize on these growing market segments. Mini Putt Park, our first internally developed social game, was released on zynga.com just last week. Our strategic partnership with Zynga gives us access to Zynga's base of over 300 million monthly users as marketing and promotional support. Mini Putt Park continues to be available on Facebook.

Next, we plan to release 2 mobile titles for iPhones, iPads and iPod Touches in time for the holiday season. First is Sci-Fi Heroes, our first internally designed mobile game, will be available in October. This free-to-play interstellar adventure lets players of all ages lead a team of heroes to victory over an evil galactic empire. With its exciting gameplay and engaging co-op fun, Sci-Fi Heroes is the perfect title to showcase our new social and mobile capabilities.

Next, Legends of Loot takes players in an unlikely adventure through mysterious mazes, diabolical puzzles and dangerous foes. We also expect for this dungeon crawler role-playing game to also launch in October, delivering its unique style of combat to iOS and Android users everywhere.

In summary, we are very excited by our holiday releases, especially NBA Baller Beats and Zumba Fitness Core, and believe we'll see a strong return on the resources we've invested developing and bringing these sales to market. We look forward to reporting back to you on the 2012 holiday season.

Operator, please open the call up for questions.

Question-and-Answer Session

Operator

[Operator Instructions] Our first question comes from Ed Woo from Ascendiant Capital.

Edward M. Woo - Ascendiant Capital Markets LLC, Research Division

I have a question. You released Mini Putt Park last week. What was the initial reception on that game?

Jesse Sutton

As I've said, on the phone with us is Jeff Anderson, our Senior VP of Mobile and Social Games. Jeff, you want to take that?

Jeffrey Anderson

Yes. Glad to. I think the initial feedback has been positive. We've already had some feedback running for a while now on Facebook. We've been gearing up for the formal hard launch of the product. Obviously working in concert now with Zynga. Since it just came out at the end of last week, it's going to take us a little bit of time to work with them to fully open up the market and promotional opportunities and let all the users into the product and really kick it off in earnest. So I'd say so far at this point, we've had very positive feedback.

Edward M. Woo - Ascendiant Capital Markets LLC, Research Division

Has there -- with some of the issues going on with Zynga, has there been any effect on your strategy on social mobile gaming?

Jeffrey Anderson

Could you be a little bit more specific on what issues you're referring to?

Edward M. Woo - Ascendiant Capital Markets LLC, Research Division

Sure. We obviously see the declines in Zynga stock price, some of the clients they had and players for their games. Has that impacted your view on the long-term opportunities in this market?

Jeffrey Anderson

Jesse, did you want me to take that one or...

Jesse Sutton

Jeff, why don't you take it, you can.

Jeffrey Anderson

Sure. I'd say that obviously, we have a very enthusiastic viewpoint on how the continual evolution of the digital market goes, that we're bullish on where both social and mobile will continue to grow. It's a key part of our strategy as we move forward to add those portfolio of products into our market. And I think that we see that even Zynga has particular challenges or opportunities, it really is independent for us. I mean, we are focused on what Majesco does in the products that we're delivering across as many product platforms and opportunities as possible. So I don't think that we see ourselves intimately tied to Zynga in that way.

Michael Vesey

It's Mike. I think the one thing I would to add that is Zynga has a billion-dollar-a-year revenue business that they built there, so we still see it as a viable market for us. More importantly, we see the freemium business model becoming pervasive in other areas, it's bleeded over to iOS, it's bleeding into mid-core and core games. And we look at it as more of a long-term build in building -- getting some expertise in freemium games and what we think is an important part is just being a casual game player over time.

Jesse Sutton

And I guess I'll close it off, Ed, by saying that Zynga has been a great partner thus far and has really worked together with us, continues to work together with us to bring the best product to market based on all of their analytical research and history that they've had in the freemium space, which we think will add great benefits to us to bring in expertise into the company that we didn't have, given their infrastructure and history. And we're excited about not only using it for this game but bringing it to all of our other freemium experiences.

Edward M. Woo - Ascendiant Capital Markets LLC, Research Division

Great. And the other question I have is we're going -- we're getting close to when you should be launching this holiday. Have you seen any major change in terms of how Nintendo is viewing the Wii or the 3DS and DS heading to this holiday?

Jesse Sutton

Yes. I think that with the impending launch of the Wii U coming out this holiday, Nintendo's -- I think Nintendo's focus will be to do this, which was focused on building a new platform or getting the initial launch of the new platform to be successful while maintaining and building the Wii platforms as a platform that focuses more on the mass market, and will be at much more mass market price points, both at the hardware and the retail level -- the hardware and software level.

Edward M. Woo - Ascendiant Capital Markets LLC, Research Division

So we should still see continued support of the Wii through this holiday?

Jesse Sutton

Absolutely. There's still a tremendous install base out there.

Operator

Our next question comes from Sean McGowan from Needham & Company.

Sean P. McGowan - Needham & Company, LLC, Research Division

I have a couple, if I can. Can you talk about generally what your expectations are on the success of Zumba Core relative to some of the prior versions? Are you expecting it to do as well, not as well, better, et cetera? Without getting too specific?

Jesse Sutton

I think that that's a good question, Sean. I think that the way we go about forecasting for -- knowing that we have franchises like we have historically with Cooking Mama and now with Zumba is basically we will look at the overall market and we'll say where is the market per se on that individual platform. Right now, I would say we're being pretty conservative in our forecast, given the market transitions and the platform transitions. And we are hopeful that there's a good transition between the Wii, as the largest install base motion-sensing device to the Microsoft Kinect, which is the second largest and more current motion-sensing device.

Sean P. McGowan - Needham & Company, LLC, Research Division

So no comment on whether you're actually expecting to sell more or as much as previous versions?

Jesse Sutton

We don't usually comment on the individual product, but other than to say that we think that we're going to take a conservative approach given the marketplace.

Sean P. McGowan - Needham & Company, LLC, Research Division

Okay. Looking at Baller Beats, I think when we saw the product at E3, we talked generally about the possibility of follow-on ideas for the form factor and the technology. Have you done any further work on that? Either other activities, other sports, et cetera, or other versions for basketball?

Jesse Sutton

I would tell you that we are very excited about the technology that we developed for the Baller Beats game, and that we are actively looking at bringing that kind of technology to other genres or categories. It's a little bit challenging, and it’s something that we've talked about all the time here. But it is an area of opportunity that we think we should continue to explore, and will.

Sean P. McGowan - Needham & Company, LLC, Research Division

Okay. And maybe, Mike, if you can -- could you give us a little bit more color on the nature of the capitalized R&D, and as well as kind of where the bets are being placed on software development going into the holiday season? We had a couple of years now where some guesses that were bad side to be kind of written down and we didn't have that in this quarter like we did last year in this quarter. But could you just give us more color on what's in there now and what's coming up?

Michael Vesey

Yes. There's a couple of shifts. I would say if we compare it to last year, we had a pretty big bet on the launch of the 3DS as the new platform. And what we really found was we're better off putting that money towards the names, okay? Now the difference in the accounting between the mobile games and the 3DS games was console and handheld games we would capitalize across until the game's released. So that if it wasn't successful in a holiday, a lot of times we'd have kind of a write-off or a charge in the period it was released. But that risk goes away with the mobile games because we expense them as incurred. So to extent, we're probably taking -- I would say 1/3 of our capital pool in the prior year was leaning towards the 3DS. This year, that was reallocated to social mobile that we expensed as incurred, that's one element. That leaves us with what's left, okay. So with what's left, the Zumba launch is a big piece of the remaining pool. And we think that's a pretty safe bet because it's a sequel. We always said that sequels have the lower risk of any type of impairment like that. And our more speculative plays this year are really 3 items, just the Hello Kitty, the Harley Pasternak and the Baller Beats are the kind of new entrants into the market. And each one of those is within our kind of normal threshold of keeping our investments between $700,000 to $2 million on any particular product. So we think the -- we don't think -- it's a portfolio approach. We don't think all 3 of those are going to end up being charges or anything like that.

Sean P. McGowan - Needham & Company, LLC, Research Division

Right. Right. Otherwise, you wouldn't be doing them. Last question, and just circling back to Edward's earlier question, do you have any specific plans in place right now to do a particular title with Zynga? I mean -- not saying with Zynga -- like on zynga.com? Or is it just at this point more of an open-ended relationship?

Jesse Sutton

Jeff, you want to help describe our relationship with Zynga?

Jeffrey Anderson

You mean beyond the Mini Putt Park project?

Sean P. McGowan - Needham & Company, LLC, Research Division

Right. Are there plans for any particular titles rather than just sort of a general working relationship?

Jeffrey Anderson

Well, that's obviously the focus right now. It's how we built that up but we're excited about the opportunity there. Beyond that, we haven't made any other announcements of products that we might be working with them on.

Operator

[Operator Instructions] Our next question comes from John Taylor.

John Taylor

I want to kind of go with Sean's question, maybe from a different angle in terms of capitalized software development cost and license fees. So it sounds like you had about $0.5 million increase in sales and marketing. I assume that was -- correct me if I'm wrong, but I assume that was promotional spending or whatever related to E3 because you guys have pretty big presence in a lot of MBA guys and whatnot. So I'm kind of wondering about how the timing, the pacing of sales and marketing spending is going? And kind of what kind of a bet you've got on sort of prepaid royalties or royalty guarantees or something, because you've got a lot of famous humans involved in the lineup this year, and you're setting expectations kind of -- it sounds like, conservatively -- could you talk a little bit about sort of the intersection of what's capitalized and what your promotional spend both for the sponsorship, tie-ins and the demand creation might look like in Q4 and then sort of going over into the holiday period? I hope that question made sense.

Jesse Sutton

Yes, yes, for sure. So managing the risk on any upfront prepaid royalties, the way we looked at it is that we wanted to keep all-in. The amount of risk within our normal threshold is $700,000 to $2 million. So what that means is when we enter into a lot of these talent agreements, we want to keep the upfront or the minimum guarantees underneath -- so when you add them all up underneath that minimum commitment, and then they earn whatever their revenue share is as we sell the products. So we kind of favor a variable cost model over a heavily front-loaded model since it's not a sequel, it's a first-time product. So total risk is within our normal parameters. And then what we intend to do is once we see how the product gains traction, we'll try and make determinations whether it should get more marketing support, or what level of marketing support it should get going forward is kind of where we're looking at that. Is that helpful or?

John Taylor

Yes. So I guess to really sort of to bring it home, how are you thinking about -- you've sort of given us a pretty good range of how to guess at what revenue is going to look like for Q4. I'm wondering -- and you've already sort of front-loaded in a way some of the promotional expense, probably PR, I don't know. But in the E3 quarter, you're going to have some obviously during Q4, and then you're going to have some more in Q1. So is your sales and marketing number, is that line likely to kind of increase, do you think, faster than revenues in Q4? And maybe you'd get some of that back in Q1 or vice versa? I mean, how are you thinking about the pacing that way?

Michael Vesey

Okay. I see what you're getting at. So in Q4, there will be an uptick in marketing. But we try and do is match as much as we can with the holiday sales period. So the increase in marketing in Q4, it might be $0.5 million to $1 million more than what we incurred during this quarter, but not many millions more. And then as we move into our first quarter next year, we would spend more as we see sales develop. So it's [indiscernible] before.

John Taylor

Yes. I think part of the concern here is that with all the sort of end of life cycle hardware systems out there, and maybe people paying attention to other things, the demand creation cost could go up as you try to stay, not just you, but everybody in the industry tries to stay relevant and top-of-mind, right?

Michael Vesey

Right.

Operator

[Operator Instructions] And gentlemen, at this time I'm showing no questions. That concludes our question-and-answer session. I'd like to turn the conference call back over to management for any closing remarks.

Jesse Sutton

I want to thank everybody for coming on the call today. We look forward to speaking to everyone at our year-end call in January, as well as give everyone an update on the holiday season. Have a great day.

Operator

The conference is now concluded. We do thank you for attending today's presentation. You may now disconnect your telephone lines.

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