Mad Catz Interactive, Inc. (NYSEMKT:MCZ) F3Q2012 Earnings Conference Call February 8, 2012 5:00 PM ET
Norberto Aja – Investor Relations
Darren Richardson – President and Chief Executive Officer
Allyson Evans – Chief Financial Officer
Ronald Rotter – RLR Partners
Elliot Christian Huber [ph]
David Brigham – Brigham Investments
Stan Trilling – Credit Suisse
Joseph Miranda [ph]
Ladies and gentlemen, thank you for standing by, and welcome to the Mad Catz Interactive fiscal 2012 third quarter results conference call. (Operator instructions) As a reminder, the conference is being recorded, Wednesday, February 8, 2012. I would now like to turn the conference over to Norberto Aja, Investor Relations. Please go ahead.
Thank you, operator. Good afternoon everyone and welcome to Mad Catz's fiscal 2012 third quarter earnings conference call. With me on the call today are Darren Richardson, Mad Catz's President and Chief Executive Officer; and Allyson Evans, Mad Catz's Chief Financial Officer.
Darren will provide an overview of the results, his perspective on the industry environment and the company's upcoming product set. Afterwards, Allyson will review the financial results in greater detail, before turning the call back to Darren for some closing remarks.
Before we begin, however, let me just make a few remarks regarding the Safe Harbor language. Today's discussion will contain forward-looking statements about the company's financial results, estimates and business prospects that involve substantial risks and uncertainties.
The company assumes no obligation to update the forward-looking statements contained in this conference call as a result of new information or future events or developments. You can identify these statements by the fact that they use the words such as anticipate, estimate, expect, project, intend, plan, believe and other words and terms of similar meaning in connection with any discussion of future operating or financial performance.
Among the factors that could cause actual results to differ materially are the following; the ability to maintain or renew the company's licenses, competitive developments affecting the company's current products, first party price reductions, the ability to successfully market both new and existing products domestically, as well as internationally, difficulties or delays in manufacturing, or a downturn in the market or industry.
A further list and description of these risks, uncertainties and other matters can be found in the company's reports filed with the Securities and Exchange Commission and the Canadian Securities Administrators. A further list and description of these risks and uncertainties and other matters can be found in the company's reports filed with the appropriate regulatory authorities.
Today's call, February 8, 2012 and web cast includes non-GAAP financial measures within the meaning of the SEC Regulation G. When required, a reconciliation of all non-GAAP financial measures to the most directly comparable financial measure calculated and presented in accordance with GAAP can be found in today's press release.
With that, I would now like to introduce Darren Richardson, President and CEO of Mad Catz. Darren?
Thank you, Norberto. Good afternoon everyone and thank you for joining us on the call today. The current quarter results are meaningfully below the record [ph] year ago levels, and we can easily identify the factors that led to this outcome. Most significantly, the decline in sales of video game specific products related to titles such as Rock Band 3 and Call of Duty, the discontinuation of a third party distribution agreement in Europe, and missing plan release dates with several high-profile products.
However, the quarter also brought several accomplishments for Mad Catz, most notably, the year-over-year sales increases in the fiscal 2012 third quarter of the company’s Tritton, Cyborg and Saitek branded products, and the extremely positive product reviews we’re seeing.
To best understand where we’re in the face of the challenging economy, the console life cycle, the rapid emergence of smart phones and tablets as gaming platforms, and the evolving retail landscape, I want to take a few minutes to review Mad Catz evolution over the past several years. This will provide you with a deeper perspective, not only on the recent quarter’s results, but more importantly how we’re positioning the company for the future and a return to growth.
In the past, Mad Catz was known as a value price producer of control pads and accessories that sold at a discount to first party products. Four years ago, control pads accounted for 35% of our sales, about $30 million of net sales on an annualized basis. This quarter control pads accounted for 9% of sales and $13 million of net sales over the last 12 months, a decline of $17 million.
More importantly, there is a distinct difference in our product strategy over this period, and a significant percentage of our control pads sold today are at premium prices to first party products, rather than at a discount. Four years ago, the sale of accessories, commodity items like batteries, charging solutions, cases and cables, accounted for 48% of sales and over $40 million in net sales on an annualized basis. This quarter, accessory sales accounted for 9% of sales and $30 million on an annualized basis, a decline of $29 million.
Again, a key differentiating factor over this period is that the bulk of accessories we sell today are licensed or unique. The value segment of our business has been significant to our decline for a few years going from over 80% of net sales 4 years ago to well under 15% today. Given the macro factors discussed earlier, the value price segment has the potential for further decline. Fortunately, our exposure to this segment is now limited from a sales perspective, and is even more limited from a gross profit perspective.
We are not abandoning value price casual gaming altogether, but we’re doing a smaller number of nicer [ph] products. As we deemphasize the value segment, we shifted the company’s focus towards creating products for passionate hard-core consumers, and we have made solid progress on this plan. Our Tritton, Cyborg and Saitek branded products all reported double-digit sales growth on a year-to-date basis, and we continue to garner positive critical reviews, including four recent CES innovations award nominations for design and engineering.
Despite several new SKUs being delayed for this holiday season, the sales of Tritton gaming audio products increased by 62% on a year-to-date basis. In total, sales of audio products accounted for 38% of year-to-date sales, and $44 million on an annualized basis. This current rate puts us within range of the target we set last year of 40% to 50% of sales for fiscal 2012. It is also a stark contrast to four years ago when audio products accounted for just 2% of sales, and less than $2 million on an annualized basis.
Sales of Cyborg PC and Mac gaming products increased by 43% year-over-year, and now account for 15% of sales and $18 million on an annualized basis, compared to 8% of sales and $9 million on an annualized basis four years ago. The critically acclaimed R.A.T. gaming mice continued to gather momentum in the marketplace, augmented by broadening distribution and the launch of new products, including the M.M.O.7 and F.R.E.Q. 5 headset.
As I noted earlier, sales of Mad Catz branded products fell sharply in Q3, largely due to the decline in the sale of game specific products, including Rock Band 3 and Call of Duty. However, the underlying long-term trend is more positive. Four years ago, sales of specialty controllers, including Mad Catz branded products, such as light sticks, steering wheels, and music game products accounted for 5% of sales and $4 million on an annualized basis, compared to 24% of sales in the latest quarter, and $32 million on an annualized basis.
We are now selling more refined portfolio of products over a broader geographical base. The transition in the business has happened overnight and it is still ongoing. But we believe we are approaching an inflection point, where we will return to driving top line growth. More importantly, we expect product life cycles to be longer and growth more sustainable.
In summary, we are disappointed with the results of a quarter, but feel confident that we’re on the correct path for the long term. With that, I would now like to turn the call over to Allyson Evans, our Chief Financial Officer, for a more in-depth review of the financial results. Allyson.
Thanks Darren. Let me begin by reviewing the income statement. Net sales for the fiscal 2012 third quarter were $46.2 million, down 50% from $93 million in the fiscal 2011 third quarter. As Darren stated, the decline was primarily driven by the difficult comparison with the prior year quarter, in which we saw very strong sales of game specific products and our third-party distribution agreement that are not continuing.
Partially offsetting the loss of these revenues were strong sales of a number of products under our Tritton, Cyborg and Saitek brands. We saw continued acceptance of our Tritton headsets, with the AX 720, AX Pro, Detonator and Trigger models selling well during the quarter. In addition, our Cyborg desktop gaming mike, including the R.A.T. 9 and new contagion models performed very well, as did our Saitek flight simulation products, such as rudders, whips [ph] and yokes.
In our Mad Catz brand, partially offsetting the significant decrease related to game specific product sales were sales increases from products such as steering wheels, AMPX headsets, and AV cables.
Looking at our sales by region, fiscal 2012 third quarter North American net sales fell 61% to $21.8 million and represented 48% of quarterly net sales. The principal factors behind the decline in North American net sales mirrored the overall net sales decline, particularly given that the US market was the primary source of revenue for Rock Band 3 and Call of Duty products in the third fiscal quarter of 2011.
European net sales decreased 35% to $22.8 million and represented 49% of quarterly net sales. The principal factor behind the decline in European net sales relates to the termination of a third-party distribution agreement, which contributed $7.9 million to gross sales in the prior year period. Net sales to other geographies rose 14% to $1.6 million or 3% of quarterly net sales, primarily driven by increased sales to Japan.
Gross profit fell 57% to $11.2 million from $26.4 million in the same quarter of the prior year, while our gross profit margin also declined by four percentage points to 24%. The decline in gross profit and gross profit margin was due largely to the lower sales volumes, and increased inventory reserves taken during the quarter, primarily related to Rock Band 3 products. Total operating expenses for the third fiscal quarter of 2012 declined 14% to $9 million and represented 19% of net sales, compared to 11% a year ago.
While we saw lower sales volumes, compared with the prior year quarter, we continued to make investments in our business, allocating additional resources to our sales and marketing efforts, particularly in connection with our new sales office in Japan. Additionally with the continued development of new and innovative products for passionate gamers, our research and development spending grew by 18% over the prior year quarter.
We believe this increase in spending positions us for long-term growth, by providing us with a strong and diverse pipeline we need to best serve our market. As a result, and despite the significant decline in net sales, the company reported operating income of $2.2 million in the quarter. This compares to operating income of $16 million in the prior year quarter. Foreign exchange loss for the third quarter of fiscal 2012 was $0.5 million, compared to a loss of $0.7 million in the prior year period.
Mad Catz recorded a $0.2 million benefit related to the revaluation of a liability associated with warrants issued in the April 2011 private placement. This is a non-cash item, and we expect to continue evaluating the liability on a quarterly basis, as it will likely fluctuate based on a number of factors, including predominantly changes in the company’s stock price.
After this benefit, and including an income tax benefit of less than $0.1 million, net income for the third quarter of fiscal 2012 was $1.5 million or $0.02 per diluted share. This compares to income tax expense of $4.6 million and net income of $9.7 million or $0.15 per diluted share in the third quarter last year. Adjusted EBITDA in the quarter was $2.5 million compared to $16 million in the third quarter of fiscal 2011.
Moving on to the balance sheet, as of December 31, 2011, inventory of $36.2 million is up 11% from $32.5 million last year. The increase is primarily related to the fact that purchase orders for our Tritton headsets for Xbox 360 were placed on factories will the expectation that the product would be in market in time for the 2011 holiday selling season.
Since these products weren’t received in time for the holiday season, inventory levels were higher than normal at December 31, 2011. We continue to receive placements for these products, and don’t anticipate a problem with the inventory selling through over the course of the upcoming year. Inventory turns on a trailing four quarter basis were 2.6 times compared to 4.3 times in the prior four quarter period.
Accounts receivable of $26.1 million was also down significantly from $51.2 million in the prior year quarter, primarily reflecting the year-over-year decline in net sales in the quarter. On a trailing three-month basis, our growth DSOs were 50 days compared to 44 days a year ago. Accounts payable of $31.6 million was up from $29.5 million in the prior year quarter, primarily reflecting higher inventory balances. Net working capital in the quarter was $10.5 million, down from $18.6 million in the prior year.
We ended the fiscal 2012 third quarter with borrowings under our revolving credit facility of $18.9 million versus $25.8 million in the prior year. We reported an acquisition of bank loan less cash at December 31, 2011 of $15.5 million compared with $15.9 million at December 31, 2010. At December 31, 2011, we were in violation of free cash flow covenant associated with the line of credit, and we have obtained a waiver from Wells Fargo in connection with this violation.
In summary, while the fiscal 2012 third quarter was disappointing when compared with the record results in the prior year, we were pleased to generate a positive bottom line, while demonstrating our ability to cultivate a solid core business, and grow our Tritton, Cyborg and Saitek brands. We believe that the recent investments we made in innovative new products positions the company for sustainable long-term growth.
I'd now like to turn the call back to Darren for some closing remarks. Darren.
Thanks, Allyson. Looking ahead, we have numerous initiatives that we believe will be successful in fiscal 2013. Our audio products are going into wide distribution in the United States and they are doing well in other parts of the world. We intend to increase marketing efforts for our universally acclaimed Cyborg R.A.T. PC and Mac products and plan to introduce more products to fill up the Cyborg line.
The upcoming launch of Nintendo’s Wii console and the recent launch of Sony’s PlayStation Vita provide new product opportunities. We will continue to carefully pursue software opportunities that pose manageable downside risk, by complementing our high-growth initiatives. We will continue to expand and strengthen our geographic distribution footprint and further develop our product development investment. And we are also committed to supporting the professional gaming community and developing products that live up to their exacting standards.
We are in the process of delivering some of the most anticipated products in the company’s history. We have started shipping the Mad Catz Pro Circuit Controller and we are about to start selling preorders for the Cyborg M.M.O. 7 mouse. Undoubtedly, our most highly anticipated product is the upcoming Tritton Warhead headset for the Xbox 360 that is expected to launch in Q1 of fiscal 2013.
In the near term, sales are tracking slightly behind Q4 of last year, and while we expect some uplift as new products roll out, we don’t expect to see a meaningful sales impact until the key retail reset in the April May timeframe.
With that I would like to turn the call back to the operator and take this opportunity to answer your questions. Operator?
(Operator instructions) And our first question comes from the line of Ronald Rotter with RLR Partners. Please proceed. Your line is open.
Ronald Rotter - RLR Partners
Yes, hi guys. Inventories 11% on sales down 50% obviously doesn’t bode very well and I understand a decent part of the problem was the late shipment of the Tritton products, which then weren’t able to hit the shelves in time for the holiday period. But now they are in the shelves of retailers, can you give us some indication was it one, because it didn’t make it for the holiday period or is it selling briskly now that it is on the retailers’ shelves?
Yes, there is two parts to that Ron. One is, a lot of retailers have fixed reset dates, where you have to actually have the product in store by a particular date. And for the holiday period that is usually in the September, October timeframe, and we missed a lot of those reset dates, which prevented us from actually getting product on shelves, and then the new reset dates typically in that April May timeframe.
So we have for retailers that are a lot more flexible, which are predominantly smaller retailers, or retailers that do have the flexibility to put product on shelves of outside of reset dates. We have got some products flowing. But basically it has impacted the getting product to market, and will continue to be sitting in the warehouse until we actually get to those reset date. So that is a critical point.
On the second front, the product that has gone in is starting to sell well. But I think January for the entire videogame space was not exactly one of the greatest Januarys that have been out there. So it is not like having product on shelf in November, December, I will put it that way. But yes, we are very pleased with the results we are getting, and what we really need to do now is ramp up the marketing on those products to start to drive that forward.
Ronald Rotter - RLR Partners
And accounts payable were up also on sales being down, usually doesn’t bode well, and I take it that because of the what you just mentioned the audio products, Tritton products sitting waiting to be delivered. What about the terms, are the terms of payment for those products, which I imagine is a meaningful part of your accounts payable, is that any issue? Usually it is a 90 day payable, which obviously is going to take you longer than 90 days to pay for it. So, maybe you can clarify that?
Yes, I think the key there is the shift from when we receive the product as well. Typically receiving product in that September, October, November timeframe so that the receivable of a payable actually falls due within the quarter, and have to do with the payable in the quarter. In this instance, a lot of the products were arriving either in the last couple of weeks of December, and in some instances the first couple of weeks of January, but they are already, you know, in transit numbers.
So it is about three weeks on the order from China, and so it takes a while for the product to actually get here. So we end up with a double whammy of having it on our inventory. It is going to be on the receivables, and obviously it is going to create some cash flow issues in the sort of short medium term here because until we kind of get that inventory down, it is not where you want to be.
Our asset based financings allows us to borrow 85% of receivables, but only about 50%, 55% of the inventory value and so I would rather have a large receivable than a large inventory pool. So we’re working hard to get product out into the marketplace, and we have had some success in getting it to a lot of retailers that have the flexibility to put it in. But for retailers who have hard reset dates, when they change out the planogram on day one across all their stores, you are allowed to being able to put product in at that particular time. So we will be sitting on that product for the next month or two.
Ronald Rotter - RLR Partners
And then finally, you also mentioned that you now have wider distribution for your audio products, any names, any larger names in that wider distribution that you care to mention?
Well, I mean, really our distribution footprint has expanded, we have got great distribution throughout Europe. We have got pretty good distribution throughout North America with the three SKUs that have shipped today being in Best Buy, GameStop, Amazon, and then a couple of others. So it is going well, but we still have lot more work to do. And we have got a lot of commitments from retailers as well to pick up additional SKUs that they will be picked up in that April, May time frame.
Ronald Rotter - RLR Partners
Okay, very good. Thank you.
Okay. Thank you.
(Operator instructions) We do have a question from the line of Elliot Christian Huber [ph], who is a private investor, and your line is open.
Elliot Christian Huber
Yes, hi Darren. How are you?
Good. Thank you, Elliot.
Elliot Christian Huber
Thank you for taking the time to give a recap of the last several years, because I think it is important to see where you were and what you are becoming. One of the things that you did not mention was that part of the redo of Mad Catz was to try to equalize somewhat the revenue stream from quarter to quarter so that we were not dependent upon the third quarter for the bulk of the earnings of the company. Can you please comment on how you see that going as you continue to reform at Mad Catz?
Yes, no problem. In fact, I think if you compare this year once we get the full year, but even if you did it on a trailing 12 month basis, you will actually get a reduced seasonality, markedly reduced seasonality compared to last year. Honestly, I don’t take an awful lot of comfort from that because a lot of the reduced seasonality came as a result of missing a number of key shipments in that Q3 period. So frankly yes, seasonality is heading in the right direction, but I think for all the wrong reasons.
Now when we look at launching new products, a lot of the new products that we have coming out at the moment a little bit late, and they are going to be hitting more Q1 and Q2 going forward. So we’re going to be having reduced seasonality without any question, but I’m not sure that is through great execution as much as the consequences of missing the Q3 on this year.
That said, the growth in the more evergreen products that we have registered strong growth in, things like headsets, the Cyborg line, and then also the Saitek line do have reduced seasonality across the course of the business. And so, as we do – as we have done in the last year, game specific events, which typically happen in that Q3 because that is when the big game titles are launched, then we will have a lot of seasonality.
But at this stage it is not clear to me that we have got a fundamental change in the seasonality of the business, but I will be comfortable saying we are making progress on that commitment. We’re still very much committed to the task, but we need to wait to see how these products turnout in terms of seasonality in the marketplace. Given for a lot of the products has been a little irregular, it is hard to kind of look at, and then the (inaudible) for fiscal 2011 frankly, was extremely seasonal because of the Rock Band project.
So I just want to get a little bit more track record going to be able to say, okay, we’re making progress on that. And right now I don’t feel like the progress has been where we want it to be.
Elliot Christian Huber
Okay. Thank you. with regard to Saitek and really being the leader in that field, and I realize this is a question that is pretty wide ranging, but you also have the cutbacks in military spending that seem to be coming. Is there an opportunity that you can foresee for Saitek to get a market that it did not otherwise have as the military cutbacks reflect both the change in personnel and actual flying time for members of the various armed services that will need to keep their skills up even though they won’t actually have a chance to fly planes as much as they have in the past?
Yes, it is an interesting point, and to be honest we haven’t explored that. One of the things that we are working through on the Saitek line is getting approval to be able to use our products as approved training devices, and there is a process that you need to do to go through that, and we’re not far off having that completed. One of the things with the Saitek product line is if we can do that that has significantly less seasonality than most of the other parts of the business. And that is an initiative frankly that will improve seasonality, but we’re not at the point yet where we have made significant progress, beside impacting the overall business.
Elliot Christian Huber
Okay, and my last question or second to last question, if I look back over the last four years, the margins for the third quarter with the exception of last year, with the exception of last year, have really not changed very much. I don’t know whether that is because it also reflects the turmoil that the overall economy has been going through, but how do you see the opportunity to improve the margins as you go forward.
Yes, in fact I would say that the margins have been a continuing disappointment for us. As the management team, we’re focused on getting margins up north of 30%. In fact for a while there we were up into the almost the mid-30s, and then we have slipped back down. Now last year we had a little bit of margin erosion as a result of selling bundles, which were software bundles for Rock Band, which were very low margin products for us. But we do need to tackle that.
In this holiday period, there has been a lot of pressure at retail, and with the, I don’t know if you saw NPD numbers, or Chart Track numbers or anything like that, but the video game industry took a fairly big hit in terms of year-over-year growth, and the bulk of that hit was the casual gaming section, and very much a rapid transition to casual gaming being much more iPad and smart phone based. And so within retail there is a lot of pressure on pricing on those kind of more sort of casual value priced gaming items.
And so we have had some market cleanup to do on that front. The Nintendo’s Wii, as we transition to the Nintendo’s Wii U required addressing some product in the marketplace to move it through during the holiday to avoid further inventory issues. And part of that was the actual Wii Rock Band product out in the market place as well. And what we’re seeing is Wii sales have fallen off quite dramatically.
So frankly I think we’re coming through a lot of that sort of those issues at retail and cleaning up inventory. There is going to be a little bit more that will pop-up in Q4, because Q4 is typically the quarter where we see a lot of those issues, but things that didn’t sell through that need to be addressed. But I think at this stage we have definitely broke the back of a bulk of it.
The other is we do have a significant fixed cost running through our COGS there because we have certain parts of our Asian infrastructure, as well as our distribution standards and then also some product development that gets booked in through the COGS area. And so as we have lower sales, we do get a mechanical effect of winding down margins. So getting sales up is one of the first steps to making sure that we get margins up.
But we are very, very focused on margins then. You know, as I have said before, I think the key for us is margins over 30 points, and operating expense under 20 points. So we are working hard to bring Opex down, and we are working hard to take margins back up. And so there has been a lot of work done, but we won’t see the actual benefits of that for some time.
Elliot Christian Huber
I am sorry, when you say for some time, are you talking in terms of quarters, are you talking in terms of years?
Elliot Christian Huber
Okay. And my last question, obviously last year there was some money that came in from a competitor to Tritton that is not there any more because the distribution didn’t make sense with Tritton ramping up. Are there other opportunities for non-competitive products that to be very frank the distribution system that is now part of the overall Mad Catz, is there the opportunity to have other people utilize that distribution system again on a non-competitive basis that would add money to the overall revenue of Mad Catz?
Yes, and we are always open to opportunistic opportunities that don’t require significant investment that we can leverage the distribution platform. I think a good example of that in this last corner was the (inaudible) game where we had no investment in the actual product, just some inventory. I think we never expected the game to be a meaningful contributor to the quarter. But announced it will pick up, and if it was a surprise on the upside, which it wasn’t, then it may have been a nice sort of hit.
At the moment, the industry is going through a state of flux, there is no question about that, as everybody is reassessing, where they are at and where they are going, and what some of these industry’s’ transitions on an economic backdrop and then how retailers are also responding to that. we are seeing much more activity in private label programs, for value priced items, and I think one of the positives that where we are today is we have looked at that quite a few years ago, and saw that inevitable event.
And so for a couple of years we have been trying to steer our way around that winding down those parts of the businesses that frankly are not particularly high margin, and secondly are exposed to those events, and looking for opportunistic things that can actually bridge the gap to try and cover off those sales declines. And one of the things I was trying to lay out on the call today is when you look at what is going away, we’re talking about really material numbers over the last couple of years, but I think the exciting part is, I think we have been able to build new businesses that are higher quality businesses, and also put together a fairly solid run rate, which demonstrates the entrepreneurial capability of the organization.
So I think we are very close to being able to hit an inflection point here where if we can continue to drive growth in the things that are working, we don’t have a lot to lose on the things that are going away. They are pretty much gone, and so, what we’re looking at now is that turnaround point where we can keep moving forward. Obviously, if we had a better economy, if the industry was stronger and retailers felt more confident about the future of the industry, that it will be much, much easier to post better results, but that said I feel like we’ve positioned the company well given the macro environment that are difficult for the entire space, and we are positive about the future.
Our next question comes from the line of David Brigham with Brigham Investments, and your line is open.
David Brigham – Brigham Investments
Good afternoon gentlemen. Regarding the third quarter delays in getting the product to the shelves, is that something that was totally outside your control, can you make adjustments to make that less likely to happen in the future would you say?
You know what it is a good question. If you look at the prior year, I think we had a year of executional excellence, where pretty much everything we did came together and worked out perfectly. This year we had a couple of things that were inside our control, where we were delayed and running late, and that was very much our problem.
And then the problem you have is once you are running late going into the actual production cycle, you then get impacted by a lot of things that are outside your control. And so, you know, I don’t want to say it was all about luck, because part of the problem was definitely an internal problem, and an execution problem, but once you start having those execution problems, then they compound. And so, we have learnt a lesson. I don’t think there is anybody here that is very happy with the performance either as a group, and then comprises our own performance including myself.
And so, we are very much focused on making some changes, realigning a lot of things, scaling back how ambitious kind of like the product development program is so that we have a better chance of getting fewer products to the market, by getting our products to market quickly. So we have learnt a lot. I don’t think this is going to be something we’re going to be repeating every year.
But the nature of the business is you can’t have issues getting highly technical products to market. On the positive front, the products we are bringing to market are incredibly technical, and the products I think it is one [ph]. And when you see the reviews, I think you will see people talking about products that absolutely are the best products in class. And so, I would rather have best product in class a couple of months late then we got there on time and the product has a problem, because we have done that as well, and I can tell you that is not a long-term winning strategy.
David Brigham – Brigham Investments
So, now if I could follow up, so now that the products are here and available, you are happy with the performance of them, I think you are saying, in other words they are performing up to expectations technically?
Yes, happy with the products. The products we are doing exceptionally well, and it didn’t – at CES this year, we were nominated for four innovations design and engineering awards for products, which is an absolute first for us to be recognized by so many products across three of our brands. We have got a Mad Catz product in there, we have got a couple of Cyborg products, and we have got a Tritton product, and I know a lot of the focus is being particularly on the Warhead that is coming out, and there is a lot of excitement in the market about that.
But we also missed on a couple of other key products, including the Mad Catz Pro Gaming Controller, the Pro Circuit Controller, and also the M.M.O. 7 house, which frankly has a lot of potential, has reviewed exceptionally well. And if we had that product shipping back in September, October, each of those products could have made a very meaningful contribution. So they are coming to market now, happy to have them to market now, but yes, we have definitely learnt a lesson.
David Brigham – Brigham Investments
One more if I may, going back a couple of years, more than that actually, you had then what you called an InAir Technology that was promising, but I guess it never panned out. It seemed exciting at the time, can that be reintroduced, or can that technology be used in some way to move the ball for you?
I think the technology, interestingly is patented. I think the product needs to have a rethink and a rework, and more importantly it needs to have a marketing program that goes behind it that really explains the features and benefits, which are a little bit complicated to people who have not actually used it. Once you use it, you find all sorts of applications for it, but it is difficult to tell that story on a retail shelf. So it needs a much more expansive marketing program, and frankly we have just not been in a position to commit the funds to that, given a lot of the other things that are on the table, but we’re still retaining the product, and I think at some stage, it has a chance to have a second life, particularly as we are building our audio platform.
It makes it much easier to sell a product like that once you are doing sort of, $40 million, $50 million, $60 million worth of audio products. It fits into where we are going nicely. The real thing is the timing of bringing that out, and right now we are focused on getting our core gaming products out in the market, and then we can worry about double back and trying to exploit some of those things.
David Brigham – Brigham Investments
And one more if I may, an earlier questionnaire brought up the issue of simulation. I think you was driving it, there was some exciting announcements a year or two ago about that, maybe less now, defense simulations, anything going on there that you can discuss?
No, we have never done any announcements about defense simulation. I think where we are trying to position the product is we have got the entire console that we have available is to be able to have people who are pilots and the like, configure the product line to be able to replicate their own aircraft dashboard, and that is what people are doing with it today.
In terms of defense, that is not something we have looked at, and maybe at some point it would make sense, but right now that is not where we are trying to take it.
David Brigham – Brigham Investments
Thank you very much.
Okay. Thank you.
Our next question comes from the line of Stan Trilling with Credit Suisse. Your line is open.
Stan Trilling - Credit Suisse
Good afternoon gentlemen. A couple of questions, first of all in your presentation you said that highly anticipated Tritton wireless headset is not going to be shipped until the first quarter of the year, is that…
That is correct, yes.
Stan Trilling - Credit Suisse
Can you be any more specific whether it is going to be beginning, or the end, and can you also, is there any way you can explain, because this is almost – that still puts it almost 9 or 10 months behind where you anticipated initially releasing the product. And can you at least tell us some of the issues that you had run into the delayed it?
Yes, absolutely. First of all, we had a number of products that slipped not just that one. So we have got a couple of key products. The Warhead, in particular, has a lot of excitement, and I think the product itself is going to be an exceptional product.
In terms of the timing, it is not just a matter of when the products are ready, but also how you actually launch the product and what the retail launch plans are for that product. And as I said before, a lot of the major retailers actually have their planogram resets locked down until that April, May time period. So even if we wanted to ship it into them today, they can’t do it because their planogram is locked. So that is one factor that also impacts the launch of the product.
In terms of the expectation, yes, the expectation for holiday 2011, and so I don’t think we’re nine months late. I don’t think we have actually had a date on there, that we said, hi, we are going to be out nine months late, but would put this back in sort of June or July. And frankly, there is no way we could have ever done that product within that time frame.
So we definitely missed holiday, the product is a complicated product. Some of the implementations have not been done before. We are using 5.8 GHz wireless, which is in itself quite important because it gives you incredible range for that product, and the Primer uses a very similar thing. But also the chat implementation, and then a lot of the actual functionality of the product is quite extraordinary.
And then the problem with audio is there is a certain black box element to audio, where you fix a particular problem, and in fixing the problem you create other problems down the line. And so it is a lot less straightforward than just here is all the parts, and putting it together, because as you move things around on PCBs you actually create new problems that you didn’t have before. And when you are talking about audio file level sound, you’re talking about eliminating very, very, very small amounts of noise out of different parts that come from laying out components.
And so each time you have a situation where you create that you then have to go back to do in some cases some fairly significant engineering problems. We are also breaking some new ground with that product. And sometimes those fixes take a lot longer to do than you would like because you have to go back and not only rebuild the part that didn’t work, but also a lot of different supporting elements to the product that is there.
The key is we have a great product that will come out when it comes out. And so that is the important part. So I think the product is going to be good, but we also have some other products that are just launching right now like the MLG Controller, the M.M.O. 7 R.A.T. that are going to drive some fairly significant sales here in the next period as well. So, I know, everyone is fixated on the Warhead, and it is going to be a great product when it gets there. But there are other products that are in the mix as well.
Stan Trilling - Credit Suisse
Our next question comes from the line of Nicholas [ph] who is a private investor. Sir your line is open.
Hi, Darren. I was just wondering, I don’t ever hear you speak anything about the current share price, I was just curious to know how if any is Mad Catz disappointed in the current share price, and what do you feel the fair value is.
Yes, at the end of the day I think it is investors that determine what the share price is. We are very focused on trying to build the business; we’re trying to explain the business either positively or negatively, as straightforward as possible. But I don’t control the share price. I mean, I make personal decisions about valuation on the share price myself, and if I think the share price is a good value buy, then I make that decision as do other people and as do investors.
I mean what we try and do is provide information in a straight forward, open, honest way, and we don’t try and sugarcoat the negatives, and we don’t try and over hype the positives. And based on that I think the share price is really going to be determined by the market.
And our final cost today will come from the line of Joseph Miranda [ph], whose is a private investor. Please proceed.
Yes, good afternoon Darren. A caller, few callers ago asked you about
the delay in getting back to market, and you responded that you learnt lessons from that, well, can you tell me any policies or procedures that are in place now to mitigate that type of delay?
Yes, we have made some structural changes. We will probably make some additional structural changes. We will probably scale back to a less aggressive product development schedule for this year so that we can actually have greater surety of hitting dates. I think the key and we tried to talk to it at the end of last year, where we knew we are up against a very difficult comp for this year.
I don’t think there is any question about that because we had a couple of non-recurring revenue streams that we were trying to comp. And so, we went very hard and very aggressive to try and get as many killer products to market for holiday as possible. If I had my time over again, I’ve probably would have scaled some of those back.
Okay. On the other front, the Connect, that Microsoft just put out, how has that affected the wireless controller sales?
Wireless controller sales.
Because you don’t need a controller, when it comes to the Connect if I am not mistaken.
Yes, well, we don’t do wireless controller sales for the Xbox in the first place. We have a Wii controller. And then for any of the specialty controllers that are predominantly wireless, they are the kind of products that frankly require the controller. So, to play rock band you need a guitar, you need a keyboard. To play street fighter, you need a fight stick. And that is part of the point I was trying to talk about before is as casual gaming moves into more Connect system, even some of the Wii interface systems and then increasingly to smart phone and tablets, that whole business for you know, value priced controllers has gone away, but when you look at pro gaming and hard-core gaming, that is predominantly people who will always use a controller.
And in most cases will use a wired controller because they are really concerned about latency and performance. And so our entire product development process has been geared around developing excellent products for pro gamers and for hard core gamers, who are really dedicated and really want performance. And so in terms of the Connect, we really don’t do anything in terms of plastic wands or those kinds of things that are more basic products for the Connect. That is the kind of business that four or five years ago was a significant part of our business.
And frankly I don’t think we have got a product that fits that bill. There is a lot of other companies who do. So there is a business there, we just don’t think that that is a business that has a business where you can build brands, build consumer loyalty, and build a longer term profitable business.
And ladies and gentlemen, that is all that time we have for questions today. Sir, I will turn the call back to you.
Okay. Thank you everybody for joining us on the call, and thank you for all of the good questions today. I think it was helpful to be able to explain some of the questions, and we look forward to updating you on our progress when we get to fourth quarter results for fiscal 2012. Thanks again.
And ladies and gentlemen, that does conclude the conference call for today, and we thank you for your participation and ask that you please disconnect your lines.
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