Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations
CAUTIONARY NOTE ABOUT FORWARD-LOOKING STATEMENTS
The statements contained herein which are not historical facts are considered forward-looking statements under federal
securities laws and may be identified by words such as
"anticipates," "believes," "estimates," "expects," "intends," "plans," "potential," "predicts," "projects," "seeks," "will," or words of similar meaning and include, but are not limited to, statements
regarding the outlook for the Company's future business and financial performance. Such forward-looking statements are based on the current beliefs of our management as well as assumptions made by and
information currently available to them, which are subject to inherent uncertainties, risks and changes in circumstances that are difficult to predict. Actual outcomes and results may vary materially
from these forward-looking statements based on a variety of risks and uncertainties including those contained herein, in the Company's Annual Report on Form 10-K for the fiscal year ended
March 31, 2016, in the section entitled "Risk Factors," and the Company's other periodic filings with the Securities and Exchange Commission. All forward-looking statements are qualified by
these cautionary statements and speak only as of the date they are made. The Company undertakes no obligation to update any forward-looking statement, whether as a result of new information, future
events or otherwise.
Our
Management's Discussion and Analysis of Financial Condition and Results of Operations ("MD&A") is provided in addition to the accompanying Condensed Consolidated Financial Statements
and notes to assist readers in understanding our results of operations, financial condition and cash flows. The following discussion should be read in conjunction with the MD&A and our annual
consolidated financial statements and the notes thereto, included in our Annual Report on Form 10-K for the fiscal year ended March 31, 2016.
Overview
Our Business
We are a leading developer, publisher and marketer of interactive entertainment for consumers around the globe. We develop and publish products
through our two wholly-owned labels Rockstar Games and 2K. Our products are currently designed for console gaming systems such as Sony's PlayStation®4 ("PS4") and PlayStation®3
("PS3"), and Microsoft's Xbox One® ("Xbox One") and Xbox 360® ("Xbox 360"); and personal computers ("PC"), including smartphones and tablets. We deliver our
products through physical retail, digital download, online platforms and cloud streaming services.
We
endeavor to be the most creative, innovative and efficient company in our industry. Our core strategy is to capitalize on the popularity of video games by developing and publishing
high-quality interactive entertainment experiences across a range of genres. We focus on building compelling entertainment franchises by publishing a select number of titles for which we can create
sequels and
incremental revenue opportunities through add-on content, microtransactions and online play. Most of our intellectual property is internally owned and developed, which we believe best positions us
financially and competitively. We have established a portfolio of proprietary software content for the major hardware platforms in a wide range of genres, including action, adventure, family/casual,
racing, role-playing, shooter, sports and strategy, which we distribute worldwide. We believe that our commitment to creativity and innovation is a distinguishing strength, enabling us to
differentiate our products in the marketplace by combining advanced technology with compelling storylines and characters that provide unique gameplay experiences for consumers. We have created,
acquired or licensed a group of highly recognizable brands to match the broad consumer demographics we serve, ranging from adults to children and game enthusiasts to casual gamers. Another cornerstone
of our strategy is to support the success of our products in the marketplace through innovative marketing programs and global distribution on platforms and through channels that are relevant to our
target audience.
24
Table of Contents
Our
revenue is primarily derived from the sale of internally developed software titles and software titles developed by third-parties. Operating margins are dependent in part upon our
ability to release new, commercially successful software products and to manage effectively their development costs. We have internal development studios located in Canada, China, Czech Republic, the
United Kingdom and the United States.
Software
titles published by our Rockstar Games label are primarily internally developed. We expect Rockstar Games, our wholly-owned publisher of the
Grand Theft
Auto
,
Max Payne
,
Midnight Club
,
Red
Dead
and other popular franchises, to continue to be a leader in the action / adventure product category and to create groundbreaking entertainment by leveraging our existing
titles as well as by developing new brands. We believe that Rockstar has established a uniquely original, popular cultural phenomenon with its
Grand Theft
Auto
series, which is the interactive entertainment industry's most iconic and critically acclaimed brand and has sold-in over 245 million units. The latest installment,
Grand Theft
Auto V
, was released on Sony's PS3 and Microsoft's Xbox 360 in September 2013, on Sony's PS4 and Microsoft's Xbox One in
November 2014, and on PC in April 2015.
Grand Theft Auto V
includes access to
Grand Theft Auto
Online
, which initially launched in October 2013. Rockstar Games is also well known for developing brands in other genres, including the
L.A.
Noire
,
Bully
and
Manhunt
franchises. Rockstar Games continues to expand on our
established franchises by developing sequels, offering downloadable episodes, content and virtual currency, and releasing titles for smartphones and tablets.
Our
2K label has published a variety of popular entertainment properties across all key platforms and across a range of genres including shooter, action, role-playing, strategy, sports
and family/casual entertainment. We expect 2K to continue to develop new, successful franchises in the future. 2K's internally owned and developed franchises include the critically acclaimed,
multi-million unit selling
BioShock
,
Mafia
,
Sid Meier's
Civilization
and
XCOM
series. In May 2016, 2K launched
Battleborn
, a new brand
created by Gearbox Software, the makers of
Borderlands
. 2K also publishes externally developed
franchises, such as
Borderlands
and
Evolve
. 2K's realistic sports simulation titles include our flagship
NBA 2K
series, which continues to be the top-ranked NBA basketball video game, and the
WWE 2K
professional wrestling series.
We
are continuing to execute on our growth initiatives in Asia, where our strategy is to broaden the distribution of our existing products and expand our online gaming presence,
especially in China and South Korea. 2K has secured a multi-year license from the NBA to develop an online version of the NBA simulation game in China, Taiwan, South Korea and Southeast Asia. In
October 2012,
NBA 2K Online
, our free-to-play NBA simulation game, which was co-developed by 2K and Tencent, launched commercially on the Tencent Games
portal in China. In addition, in December 2015,
Civilization Online
, our free-to-play massively multiplayer online game developed by South Korean-based
studio XLGAMES, launched in South Korea.
Trends and Factors Affecting our Business
Product Release Schedule.
Our financial results are affected by the timing of our product releases and the commercial success of those
titles. Our
Grand Theft Auto
products in particular have historically accounted for a significant portion of our revenue. Sales of
Grand
Theft Auto
products generated 38.9% of our net revenue for the six months ended September 30, 2016. The timing of our
Grand Theft
Auto
product releases may affect our financial performance on a quarterly and annual basis.
Economic Environment and Retailer Performance.
We continue to monitor economic conditions that may unfavorably affect our businesses,
such as
deteriorating consumer demand, pricing pressure on our products, credit quality of our receivables, and foreign currency exchange rates. Our business is dependent upon a limited number of customers
that account for a significant portion of our revenue.
25
Table of Contents
Our
five largest customers accounted for 69.4% and 66.9% of net revenue during the six months ended September 30, 2016 and 2015, respectively. As of September 30, 2016 and
March 31, 2016, our five largest
customers comprised 69.6% and 73.9% of our gross accounts receivable, respectively, with our significant customers (those that individually comprised more than 10% of our gross accounts receivable
balance) accounting for 56.3% and 64.1% of such balance at September 30, 2016 and March 31, 2016, respectively. We had three customers who accounted for 23.3%, 20.5% and 12.5% of our
gross accounts receivable as of September 30, 2016 and three customers who accounted for 35.2%, 16.8% and 12.1% of our gross accounts receivable as of March 31, 2016. We did not have any
additional customers that exceeded 10% of our gross accounts receivable as of September 30, 2016 or March 31, 2016. The economic environment has affected our customers in the past, and
may do so in the future. Bankruptcies or consolidations of our large retail customers could seriously hurt our business, due to uncollectible accounts receivables and the concentration of purchasing
power among the remaining large retailers. Certain of our large customers sell used copies of our games, which may negatively affect our business by reducing demand for new copies of our games. While
the downloadable content that we now offer for certain of our titles may serve to reduce used game sales, we expect used game sales to continue to adversely affect our business.
Hardware Platforms.
We derive most of our revenue from the sale of products made for video game consoles manufactured by third-parties,
such as
Sony's PS4 and PS3 and Microsoft's Xbox One and Xbox 360, which comprised 83.0% of our net revenue by product platform for the six months ended September 30, 2016. The success of our
business is dependent upon the consumer acceptance of these consoles and continued growth in their installed base. When new hardware platforms are introduced, demand for software used on older
platforms typically declines, which may negatively affect our business during the market transition to the new consoles. We continually monitor console hardware sales. We manage our product delivery
on each current and future platform in a manner we believe to be most effective to maximize our revenue opportunities and achieve the desired return on our investments in product development.
Accordingly, our strategy is to focus our development efforts on a select number of the highest quality titles for these platforms, while also expanding our offerings for emerging platforms such as
tablets, smartphones and online games.
Online Content and Digital Distribution.
The interactive entertainment software industry is delivering a growing amount of content
through digital
online delivery methods. We provide a variety of online delivered products and offerings. Most of our titles that are available through retailers as packaged goods products are also available through
direct digital download (from websites we own and others owned by third-parties). In addition, we aim to drive ongoing engagement and incremental revenue from recurrent consumer spending on our titles
after their initial purchase through downloadable offerings, including add-on content, microtransactions and online play. We also publish an expanding variety of titles for tablets and smartphones,
which are delivered to consumers through digital download via the Internet. Note 12 to our Condensed Consolidated Financial Statements, "Segment and Geographic Information," discloses that net
revenue from digital online channels comprised 55.1% of our net revenue by distribution channel for the six months ended September 30, 2016. We expect online delivery of games and game
offerings to continue to grow and to become an increasing part of our business over the long-term.
26
Table of Contents
Product Releases
We released the following key titles during the six months ended September 30, 2016.
|
|
|
|
|
|
|
|
|
Title
|
|
Publishing
Label
|
|
Internal or External
Development
|
|
Platform(s)
|
|
Date Released
|
Battleborn
|
|
2K
|
|
External
|
|
Xbox One, PS4, PC
|
|
May 3, 2016
|
BioShock: The Collection
|
|
2K
|
|
Internal/External
|
|
Xbox One, PS4, PC (digital download only)
|
|
September 13, 2016
|
NBA 2K17
|
|
2K
|
|
Internal
|
|
Xbox 360, Xbox One, PS3, PS4, PC
|
|
September 20, 2016
|
XCOM 2
|
|
2K
|
|
Internal
|
|
Xbox One, PS4
|
|
September 27, 2016
|
Product Pipeline
We have announced the following future key titles to date (this list does not represent all titles currently in development):
|
|
|
|
|
|
|
|
|
Title
|
|
Publishing
Label
|
|
Internal or External
Development
|
|
Platform(s)
|
|
Expected Release Date
|
Mafia III
|
|
2K
|
|
Internal
|
|
Xbox One, PS4, PC
|
|
October 7, 2016 (released)
|
WWE 2K17
|
|
2K
|
|
Internal/External
|
|
Xbox 360, Xbox One, PS3, PS4
|
|
October 11, 2016 (released)
|
Sid Meier's Civilization VI
|
|
2K
|
|
Internal
|
|
PC
|
|
October 21, 2016 (released)
|
Red Dead Redemption 2
|
|
Rockstar Games
|
|
Internal
|
|
PS4, Xbox One
|
|
Fall 2017
|
Critical Accounting Policies and Estimates
Our most critical accounting policies, which are those that require significant judgment, include: revenue recognition; price protection and
allowances for returns; capitalization and recognition of software development costs and licenses; fair value estimates including inventory obsolescence, and valuation of goodwill, intangible assets
and long-lived assets; valuation and recognition of stock-based compensation; and income taxes. In-depth descriptions of these can be found in our Annual Report on Form 10-K for the fiscal year
ended March 31, 2016.
The
following is an update to our Critical Accounting Policies and Estimates disclosed in our Annual Report on Form 10-K for the fiscal year ended March 31, 2016.
Revenue Recognition
Because the service period for our online-enabled games with significant post-contract customer support ("PCS") is not an explicitly defined
period, we must make an estimate of the service offering period for purposes of recognizing revenue. As our franchise offerings with significant PCS are relatively new offerings, we have limited
historical data to assess end-user game playing patterns. Therefore, the estimated service period for current deferred title offerings is based on our estimate of the economic game life of the
respective title. Determining the estimated service period (or economic game life) is inherently subjective and is subject to regular revision based on numerous factors and considerations. The factors
that we primarily consider as part of our process of initially determining and subsequently reassessing estimated service periods for our
Grand Theft
Auto
and other franchise titles include:
-
-
the period of time over which the substantial majority of a respective title's estimated lifetime game sales and in-game virtual currency sales
are expected to occur;
-
-
the period of time over which we plan to provide free unspecified add-on content updates, maintenance or other remaining material online
support services associated with our online-enabled games;
-
-
the time over which we plan to dedicate internal resources to support the online functionality of a title;
27
Table of Contents
-
-
known and expected online gameplay trends;
-
-
the results from prior analyses;
-
-
the nature of the game (e.g., annual title, genre, period of time between franchise title releases, etc.); and
-
-
the disclosed service periods for competitors' games.
To
the extent we have recorded significant amounts of revenue deferred for specific titles, changes in the estimated service periods could materially impact the revenue recognition
reported in a particular period.
Recently Issued Accounting Pronouncements
Accounting for Stock Compensation
In March 2016, the Financial Accounting Standards Board ("FASB") issued Accounting Standards Update ("ASU") 2016-09,
CompensationStock Compensation. This new guidance identifies areas for simplification involving several aspects of accounting for share-based payment transactions, including income tax
consequences, classification of awards as either equity or liabilities, an option to recognize gross stock compensation expense with actual forfeitures recognized as they occur, as well as certain
classifications on the statement of cash flows. This update is
effective for annual periods beginning after December 15, 2016 (April 1, 2017 for the Company) and interim periods within those annual periods. Early adoption is permitted in any interim
or annual period. We are currently evaluating the impact of adopting this update on our Consolidated Financial Statements.
Accounting for Leases
In February 2016, the FASB issued ASU 2016-02, "Leases." This new guidance requires lessees to recognize a right-of-use asset and a lease
liability for virtually all leases (other than leases that meet the definition of a short-term lease). The liability will be equal to the present value of lease payments. The asset will be based on
the liability, subject to adjustment, such as for initial direct costs. For income statement purposes, the FASB retained a dual model, requiring leases to be classified as either operating or finance.
Operating leases will result in straight-line expense (similar to current operating leases) while finance leases will result in a front-loaded expense pattern (similar to current capital leases).
Classification will be based on criteria that are largely similar to those applied in current lease accounting. This update is effective for annual periods, and interim periods within those years,
beginning after December 15, 2018 (April 1, 2019 for the Company). This new guidance must be adopted using a modified retrospective approach whereby lessees and lessors are required to
recognize and measure leases at the beginning of the earliest period presented using a modified retrospective approach. Early adoption is permitted. We are currently evaluating the impact of adopting
this update on our Consolidated Financial Statements.
Revenue from Contracts with Customers
In May 2014, the FASB issued ASU 2014-09, Revenue from Contracts with Customers ("ASU 2014-09"), as a new Topic, Accounting Standards
Codification Topic 606. The new revenue recognition standard provides a five-step analysis of transactions to determine when and how revenue is recognized. The core principle is that a company should
recognize revenue to depict the transfer of promised goods or services to customers in an amount that reflects the consideration to which the entity expects to be entitled in exchange for those goods
or services. In March 2016, the FASB amended ASU 2014-09 by issuing ASU 2016-08, Revenue from Contracts with Customers: Principal versus Agent Considerations (Reporting Revenue Gross versus Net),
which clarifies the implementation guidance on principal versus agent considerations included in ASU 2014-09. The guidance includes
28
Table of Contents
indicators
to assist an entity in determining whether it controls a specified good or service before it is transferred to customers. In April 2016, the FASB amended ASU 2014-09 by issuing ASU 2016-10,
Revenue from Contracts with Customers: Identifying Performance Obligations and Licensing, which clarifies the implementation guidance on licensing and identifying performance obligations. In May 2016,
the FASB further amended ASU 2014-09 by issuing ASU 2016-12, Revenue from Contracts with Customers: Narrow-Scope Improvements and Practical Expedients, which does not change the core principles of the
standard, but clarifies the guidance on assessing collectibility, presenting sales taxes, measuring noncash consideration, and certain transition matters. ASU 2014-09 and its amendments can be adopted
retrospectively to each period presented or as a cumulative-effect adjustment as of the date of adoption. In July 2015, the FASB voted to defer the effective date by one year to annual and interim
years beginning after December 15, 2017 (April 1, 2018 for the Company). Early adoption is permitted, but no earlier than the original effective date of annual and interim periods
beginning after December 15, 2016 (April 1, 2017 for the Company). While we continue to evaluate the impact and available implementation approaches, we believe adoption of ASU 2014-09,
as amended, may have a material impact on the allocation and timing of revenue recognition and associated cost of goods sold.
Results of Operations
The following table sets forth, for the periods indicated, our Condensed Consolidated Statements of Operations, net revenue by geographic
region, net revenue by platform and net revenue by distribution channel:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Three Months Ended September 30,
|
|
Six Months Ended September 30,
|
|
|
|
2016
|
|
2015
|
|
2016
|
|
2015
|
|
Net revenue
|
|
$
|
420,167
|
|
|
100.0
|
%
|
$
|
346,974
|
|
|
100.0
|
%
|
$
|
731,719
|
|
|
100.0
|
%
|
$
|
622,271
|
|
|
100.0
|
%
|
Cost of goods sold
|
|
|
205,605
|
|
|
48.9
|
%
|
|
143,940
|
|
|
41.5
|
%
|
|
396,985
|
|
|
54.3
|
%
|
|
346,555
|
|
|
55.7
|
%
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Gross profit
|
|
|
214,562
|
|
|
51.1
|
%
|
|
203,034
|
|
|
58.5
|
%
|
|
334,734
|
|
|
45.7
|
%
|
|
275,716
|
|
|
44.3
|
%
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Selling and marketing
|
|
|
80,187
|
|
|
19.1
|
%
|
|
54,876
|
|
|
15.8
|
%
|
|
151,321
|
|
|
20.7
|
%
|
|
100,443
|
|
|
16.2
|
%
|
General and administrative
|
|
|
49,685
|
|
|
11.8
|
%
|
|
49,961
|
|
|
14.4
|
%
|
|
96,428
|
|
|
13.2
|
%
|
|
98,996
|
|
|
15.9
|
%
|
Research and development
|
|
|
30,005
|
|
|
7.2
|
%
|
|
24,413
|
|
|
7.1
|
%
|
|
63,905
|
|
|
8.7
|
%
|
|
58,555
|
|
|
9.4
|
%
|
Depreciation and amortization
|
|
|
7,491
|
|
|
1.8
|
%
|
|
7,353
|
|
|
2.1
|
%
|
|
14,869
|
|
|
2.0
|
%
|
|
13,928
|
|
|
2.2
|
%
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total operating expenses
|
|
|
167,368
|
|
|
39.9
|
%
|
|
136,603
|
|
|
39.4
|
%
|
|
326,523
|
|
|
44.6
|
%
|
|
271,922
|
|
|
43.7
|
%
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Income from operations
|
|
|
47,194
|
|
|
11.2
|
%
|
|
66,431
|
|
|
19.1
|
%
|
|
8,211
|
|
|
1.1
|
%
|
|
3,794
|
|
|
0.6
|
%
|
Interest and other, net
|
|
|
(7,078
|
)
|
|
(1.7
|
)%
|
|
(8,396
|
)
|
|
(2.4
|
)%
|
|
(11,584
|
)
|
|
(1.6
|
)%
|
|
(15,930
|
)
|
|
(2.6
|
)%
|
Gain on long-term investments, net
|
|
|
|
|
|
|
%
|
|
|
|
|
|
%
|
|
1,350
|
|
|
0.2
|
%
|
|
|
|
|
|
%
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Income (loss) before income taxes
|
|
|
40,116
|
|
|
9.5
|
%
|
|
58,035
|
|
|
16.7
|
%
|
|
(2,023
|
)
|
|
(0.3
|
)%
|
|
(12,136
|
)
|
|
(2.0
|
)%
|
Provision for income taxes
|
|
|
3,684
|
|
|
0.8
|
%
|
|
3,300
|
|
|
0.9
|
%
|
|
112
|
|
|
0.0
|
%
|
|
152
|
|
|
0.0
|
%
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net income (loss)
|
|
$
|
36,432
|
|
|
8.7
|
%
|
$
|
54,735
|
|
|
15.8
|
%
|
$
|
(2,135
|
)
|
|
(0.3
|
)%
|
$
|
(12,288
|
)
|
|
(2.0
|
)%
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
29
Table of Contents
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Three Months Ended September 30,
|
|
Six Months Ended September 30,
|
|
|
|
2016
|
|
2015
|
|
2016
|
|
2015
|
|
Net revenue by geographic region:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
United States
|
|
$
|
252,483
|
|
|
60.1
|
%
|
$
|
185,102
|
|
|
53.3
|
%
|
$
|
445,584
|
|
|
60.9
|
%
|
$
|
328,540
|
|
|
52.8
|
%
|
International
|
|
|
167,684
|
|
|
39.9
|
%
|
|
161,872
|
|
|
46.7
|
%
|
|
286,135
|
|
|
39.1
|
%
|
|
293,731
|
|
|
47.2
|
%
|
Net revenue by platform:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Console
|
|
$
|
353,038
|
|
|
84.0
|
%
|
$
|
301,029
|
|
|
86.8
|
%
|
$
|
607,064
|
|
|
83.0
|
%
|
$
|
523,603
|
|
|
84.1
|
%
|
PC and other
|
|
|
67,129
|
|
|
16.0
|
%
|
|
45,945
|
|
|
13.2
|
%
|
|
124,655
|
|
|
17.0
|
%
|
|
98,668
|
|
|
15.9
|
%
|
Net revenue by distribution channel:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Digital online
|
|
$
|
230,759
|
|
|
54.9
|
%
|
$
|
202,426
|
|
|
58.3
|
%
|
$
|
402,837
|
|
|
55.1
|
%
|
$
|
356,411
|
|
|
57.3
|
%
|
Physical retail and other
|
|
|
189,408
|
|
|
45.1
|
%
|
|
144,548
|
|
|
41.7
|
%
|
|
328,882
|
|
|
44.9
|
%
|
|
265,860
|
|
|
42.7
|
%
|
Three Months Ended September 30, 2016 Compared to September 30, 2015
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
(thousands of dollars)
|
|
2016
|
|
%
|
|
2015
|
|
%
|
|
Increase/
(decrease)
|
|
% Increase/
(decrease)
|
|
Net revenue
|
|
$
|
420,167
|
|
|
100.0
|
%
|
$
|
346,974
|
|
|
100.0
|
%
|
$
|
73,193
|
|
|
21.1
|
%
|
Internal royalties
|
|
|
77,425
|
|
|
18.4
|
%
|
|
54,918
|
|
|
15.8
|
%
|
|
22,507
|
|
|
41.0
|
%
|
Software development costs and royalties(1)
|
|
|
45,194
|
|
|
10.8
|
%
|
|
40,014
|
|
|
11.5
|
%
|
|
5,180
|
|
|
12.9
|
%
|
Product costs
|
|
|
55,059
|
|
|
13.1
|
%
|
|
38,777
|
|
|
11.2
|
%
|
|
16,282
|
|
|
42.0
|
%
|
Licenses
|
|
|
27,927
|
|
|
6.6
|
%
|
|
10,231
|
|
|
3.0
|
%
|
|
17,696
|
|
|
173.0
|
%
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Cost of goods sold
|
|
|
205,605
|
|
|
48.9
|
%
|
|
143,940
|
|
|
41.5
|
%
|
|
61,665
|
|
|
42.8
|
%
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Gross profit
|
|
$
|
214,562
|
|
|
51.1
|
%
|
$
|
203,034
|
|
|
58.5
|
%
|
$
|
11,528
|
|
|
5.7
|
%
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
-
(1)
-
Includes
$5,566 and $4,110 of stock-based compensation expense in 2016 and 2015, respectively, in software development costs and royalties.
For
the three months ended September 30, 2016, net revenue increased by $73.2 million as compared to the prior year. This increase was due primarily to (i) an
increase of $113.5 million in net revenues from our
NBA 2K
franchise, mainly due to the recognition of previously-deferred revenues from
NBA 2K16;
and
(ii) an aggregate increase of $44.0 million in net revenues from
BioShock: The
Collection
and
XCOM 2
for Sony's PS4 and Microsoft's Xbox One, both of which released in September 2016, and
Battleborn
, which
released in May 2016. This increase was partially offset by (i) a decrease of $71.7 million in revenue from our
Grand Theft Auto
franchise due primarily to lower net revenues from
Grand Theft Auto V
and
Grand Theft Auto Online,
and (ii) a decrease of $22.7 million in net revenue from
Evolve
.
Net
revenue from console games increased by $52.0 million, and accounted for 84.0% of our total net revenue for the three months ended September 30, 2016, as compared to
86.8% for the same period in the prior year. The increase in net revenue from console games was due primarily to higher net revenues from
NBA 2K16
,
BioShock: The
Collection
and
XCOM 2
partially offset by lower net revenues from
Grand Theft Auto V
and
Evolve
. Net revenue from PC and other increased by $21.2 million and
accounted for 16.0% of our total net revenue for the three months ended September 30, 2016, as compared to 13.2% for the prior year's period. The increase in net revenue from PC and other was
due primarily to higher net revenues from
Grand Theft Auto V
,
WWE Supercard
and
NBA 2K16
, partially offset
by lower net revenues from
Evolve
.
30
Table of Contents
Net
revenue from digital online channels increased by $28.3 million and accounted for 54.9% of our total net revenue for the three months ended September 30, 2016, as
compared to 58.3% for the same period in the prior year. The increase in net revenue from digital online channels was due to higher net revenue from
NBA
2K16
and
BioShock: The Collection
, partially offset by lower net revenues from
Grand Theft Auto
Online
and
Grand Theft Auto V
. Recurrent consumer spending (including add-on content, microtransactions and online play)
decreased by $5.6 million and accounted for 55.9% of net revenue from digital online channels for the three months ended September 30, 2016, as compared to 66.4% of net revenue from
digital online channels for the three months ended September 30, 2015. The decrease in recurrent consumer spending was primarily due to lower net revenues from
Grand
Theft Auto Online
and
NBA 2K15
partially offset by higher net revenues from
NBA
2K16
. Net revenue from physical retail and other channels increased by $44.9 million, and accounted for 45.1% of our total net revenues for the three months ended
September 30, 2016, as compared to 41.7% for the same period in the prior year. The increase in net revenue from physical retail and other channels was due primarily to higher net revenues from
NBA 2K16
and
BioShock: The Collection
, which was partially offset by lower net revenues from
Grand Theft Auto V
.
Gross
profit as a percentage of net revenue for the three months ended September 30, 2016 was 51.1%, as compared to 58.5% for the prior year period. The decrease was due primarily
to higher internal royalties as a percentage of net revenue due to the timing of when internal royalties are earned and higher license expenses due to increased net revenue from
NBA 2K16
in the current
period.
Net
revenue earned outside of the United States increased by $5.8 million, and accounted for 39.9% of our total net revenue for the three months ended September 30, 2016,
as compared to 46.7% in the prior year. The increase in net revenue outside of the United States was due primarily to an increase in net revenues from
NBA
2K16
, which was partially offset by a decrease in net revenues from
Grand Theft Auto V
and
Evolve
. Changes in foreign currency
exchange rates decreased net revenue by $2.6 million and decreased gross profit by $0.8 million for
the three months ended September 30, 2016 as, compared to the prior year.
Operating Expenses
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
(thousands of dollars)
|
|
2016
|
|
% of net
revenue
|
|
2015
|
|
% of net
revenue
|
|
Increase/
(decrease)
|
|
% Increase/
(decrease)
|
|
Selling and marketing
|
|
$
|
80,187
|
|
|
19.1
|
%
|
$
|
54,876
|
|
|
15.8
|
%
|
$
|
25,311
|
|
|
46.1
|
%
|
General and administrative
|
|
|
49,685
|
|
|
11.8
|
%
|
|
49,961
|
|
|
14.4
|
%
|
|
(276
|
)
|
|
(0.6
|
)%
|
Research and development
|
|
|
30,005
|
|
|
7.2
|
%
|
|
24,413
|
|
|
7.1
|
%
|
|
5,592
|
|
|
22.9
|
%
|
Depreciation and amortization
|
|
|
7,491
|
|
|
1.8
|
%
|
|
7,353
|
|
|
2.1
|
%
|
|
138
|
|
|
1.9
|
%
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total operating expenses(1)
|
|
$
|
167,368
|
|
|
39.9
|
%
|
$
|
136,603
|
|
|
39.4
|
%
|
$
|
30,765
|
|
|
22.5
|
%
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
-
(1)
-
Includes
stock-based compensation expense, which was allocated as follows (in thousands):
|
|
|
|
|
|
|
|
|
|
2016
|
|
2015
|
|
Selling and marketing
|
|
$
|
2,279
|
|
$
|
2,112
|
|
General and administrative
|
|
$
|
9,774
|
|
$
|
9,070
|
|
Research and development
|
|
$
|
614
|
|
$
|
1,028
|
|
Changes
in foreign currency exchange rates decreased total operating expenses by $2.8 million for the three months ended September 30, 2016, as compared to the prior year.
31
Table of Contents
Selling and marketing
Selling
and marketing expenses increased by $25.3 million for the three months ended September 30, 2016, as compared to the prior year, due primarily to
$25.0 million in higher advertising expenses. Advertising expenses were higher in the current year period due primarily to the release of
Mafia
III
in October 2016 and, to a lesser extent,
BioShock: The Collection
and
XCOM 2
for PS4 and Xbox One, both of which were released in September 2016 as well as due to the timing of spend on
NBA 2K17
as compared to
NBA 2K16
.
General and administrative
General
and administrative expenses decreased by $0.3 million for the three months ended September 30, 2016, as compared to the prior year, due primarily
to decreases in bonus accruals, severance, and allowances for bad debt, which were mostly offset by higher expenses associated with unclaimed property and stock-based compensation.
General
and administrative expenses for the three months ended September 30, 2016 and 2015 include occupancy expense (primarily rent, utilities and office expenses) of
$3.9 million and $4.3 million, respectively, related to our development studios.
Research and development
Research
and development expenses increased by $5.6 million for the three months ended September 30, 2016, as compared to the prior year, due primarily to
higher production expenses for new titles in development that have not reached technological feasibility.
Depreciation and Amortization
Depreciation
and amortization expenses increased by $0.1 million for the three months ended September 30, 2016, as compared to the prior year, due
primarily to information technology infrastructure build-outs.
Interest and other, net
Interest and other, net was an expense of $7.1 million for the three months ended September 30, 2016, as compared to
$8.4 million for the three months ended September 30, 2015. The decrease to expense was due primarily to $1.1 million of higher foreign exchange transaction gains and
higher interest income related to our short-term investments, partially offset by higher interest expense on our Convertible Notes.
Provision for Income Taxes
The provision for income taxes was $3.7 million for the three months ended September 30, 2016, as compared to $3.3 million
for the three months ended September 30, 2015. The increase in tax expense is primarily attributable to an increase in taxable income that was partially offset by changes in valuation
allowances for tax loss and credit carryforwards and deferred tax assets anticipated to be utilized.
Our
effective tax rate differed from the federal statutory rate due primarily to changes in valuation allowances related to tax loss and tax credit carryforwards anticipated to be
utilized. As disclosed in our Annual Report on Form 10-K for the fiscal year ended March 31, 2016, we recognized an income tax benefit based on becoming eligible to claim certain tax
deductions in the UK on applicable video games. It is possible that we will become eligible to claim tax deductions on additional video games in future periods, which could result in tax benefits that
could have a material impact on our effective tax rate.
32
Table of Contents
We
are regularly audited by domestic and foreign taxing authorities. Audits may result in tax assessments in excess of amounts claimed and the payment of additional taxes. We believe
that our tax positions comply with applicable tax law, and that we have adequately provided for reasonably foreseeable tax assessments.
Net income and earnings per share
For the three months ended September 30, 2016, our net income was $36.4 million, as compared to $54.7 million in the prior
year's period. For the three months ended September 30, 2016, basic earnings per share was $0.42 as compared to $0.63 in the prior year's period and diluted earnings
per share was $0.39 as compared to $0.55 in the prior year's period. Basic weighted average shares of 85.4 million were 1.5 million shares higher as compared to the prior year, due
primarily to the vesting of restricted stock awards. See Note 10 to our Condensed Consolidated Financial Statements for additional information regarding earnings (loss) per share.
Six Months Ended September 30, 2016 Compared to September 30, 2015
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
(thousands of dollars)
|
|
2016
|
|
%
|
|
2015
|
|
%
|
|
Increase/
(decrease)
|
|
% Increase/
(decrease)
|
|
Net revenue
|
|
$
|
731,719
|
|
|
100.0
|
%
|
$
|
622,271
|
|
|
100.0
|
%
|
$
|
109,448
|
|
|
17.6
|
%
|
Internal royalties
|
|
|
137,098
|
|
|
18.7
|
%
|
|
160,747
|
|
|
25.8
|
%
|
|
(23,649
|
)
|
|
(14.7
|
)%
|
Software development costs and royalties(1)
|
|
|
108,853
|
|
|
14.9
|
%
|
|
90,507
|
|
|
14.5
|
%
|
|
18,346
|
|
|
20.3
|
%
|
Product costs
|
|
|
100,038
|
|
|
13.7
|
%
|
|
78,718
|
|
|
12.7
|
%
|
|
21,320
|
|
|
27.1
|
%
|
Licenses
|
|
|
50,996
|
|
|
7.0
|
%
|
|
16,583
|
|
|
2.7
|
%
|
|
34,413
|
|
|
207.5
|
%
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Cost of goods sold
|
|
|
396,985
|
|
|
54.3
|
%
|
|
346,555
|
|
|
55.7
|
%
|
|
50,430
|
|
|
14.6
|
%
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Gross profit
|
|
$
|
334,734
|
|
|
45.7
|
%
|
$
|
275,716
|
|
|
44.3
|
%
|
$
|
59,018
|
|
|
21.4
|
%
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
-
(1)
-
Includes
$9,952 and $8,804 of stock-based compensation expense in 2016 and 2015, respectively, in software development costs and royalties.
For
the six months ended September 30, 2016, net revenue increased by $109.4 million as compared to the prior year. This increase was due primarily to (i) an
increase of $215.5 million in revenues from our
NBA 2K
franchise, due primarily to the recognition of previously-deferred revenues from
NBA 2K16;
and
(ii) an aggregate increase of $36.5 million in net revenues from
BioShock: The
Collection
, and
XCOM 2
for Sony's PS4 and Microsoft's Xbox One, both of which were released in September 2016. The increase was
partially offset by (i) a decrease of $113.1 million in revenue from our
Grand Theft Auto
franchise, due primarily to lower net revenues
from
Grand Theft Auto V
and
Grand Theft Auto Online,
and (ii) a decrease of $44.1 million
in revenues from
Evolve
.
Net
revenue from console games increased by $83.5 million and accounted for 83.0% of our total net revenue for the six months ended September 30, 2016, as compared to 84.1%
for the same period in the prior year. The increase in net revenue from console games was due primarily to higher net revenues from
NBA 2K16
partially
offset by lower net revenues from
Grand Theft Auto V
. Net revenue from PC and other increased by $26.0 million and accounted for 17.0% of our
total net revenue for the six months ended September 30, 2016, as compared to 15.9% for the prior year's period. The increase in net revenue from PC and other was due primarily to higher net
revenues from
Grand Theft Auto V
and
Grand Theft Auto Online
, NBA 2K16, and
XCOM:2,
which released on the PC
in February 2016, partially offset by lower net revenues from
Evolve
.
Net
revenue from digital online channels increased by $46.4 million and accounted for 55.1% of our total net revenue for the six months ended September 30, 2016, as
compared to 57.3% for the
33
Table of Contents
same
period in the prior year. The increase in net revenue from digital online channels was due to higher net revenue from
NBA 2K16,
partially offset by
lower net revenues from
Grand Theft Auto Online
and
Grand Theft Auto V
. Recurrent consumer spending
(including add-on content, microtransactions and online play) increased by $9.0 million and accounted for 56.2% of net revenue from digital online channels for the six months ended
September 30, 2016, as compared to 61.0% of net revenue from digital online channels for the six months ended September 30, 2015. The increase in recurrent consumer spending was
primarily due to higher net revenues from
NBA 2K16
partially offset by lower net revenues from
Grand Theft Auto
Online
and
NBA 2K15
. Net revenue from physical retail and other channels increased by $63.0 million and accounted for
44.9% of our total net revenues for the six months ended September 30, 2016, as compared to 42.7% for the same period in the prior year. The increase in net revenue from physical retail and
other channels was due primarily to higher net revenues from
NBA 2K16
, which was partially offset by lower net revenues from
Grand Theft Auto V
.
Gross
profit as a percentage of net revenue for the six months ended September 30, 2016 was 45.7% as compared to 44.3% for the prior year period. The increase was due primarily to
lower internal royalties as a percentage of net revenues due to the timing of when internal royalties are earned, which was partially offset by higher license expenses due to increased net revenues
from
NBA 2K16
in the current period and impairment of capitalized software costs.
Net
revenue earned outside of the United States decreased by $7.6 million and accounted for 39.1% of our total net revenue for the six months ended September 30, 2016, as
compared to 47.2% in the prior year. The decrease in revenue was due primarily to a decrease in net revenues from
Grand Theft Auto V
and
Evolve
outside of
the United States, which was partially offset by increased net revenues from
NBA 2K16
.
Changes in foreign currency exchange rates decreased net revenue by $3.2 million and increased gross profit by $0.1 million for the six months ended September 30, 2016 as compared
to the prior year.
Operating Expenses
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
(thousands of dollars)
|
|
2016
|
|
% of net
revenue
|
|
2015
|
|
% of net
revenue
|
|
Increase/
(decrease)
|
|
% Increase/
(decrease)
|
|
Selling and marketing
|
|
$
|
151,321
|
|
|
20.7
|
%
|
$
|
100,443
|
|
|
16.2
|
%
|
$
|
50,878
|
|
|
50.7
|
%
|
General and administrative
|
|
|
96,428
|
|
|
13.2
|
%
|
|
98,996
|
|
|
15.9
|
%
|
|
(2,568
|
)
|
|
(2.6
|
)%
|
Research and development
|
|
|
63,905
|
|
|
8.7
|
%
|
|
58,555
|
|
|
9.4
|
%
|
|
5,350
|
|
|
9.1
|
%
|
Depreciation and amortization
|
|
|
14,869
|
|
|
2.0
|
%
|
|
13,928
|
|
|
2.2
|
%
|
|
941
|
|
|
6.8
|
%
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total operating expenses(1)
|
|
$
|
326,523
|
|
|
44.6
|
%
|
$
|
271,922
|
|
|
43.7
|
%
|
$
|
54,601
|
|
|
20.1
|
%
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
-
(1)
-
Includes
stock-based compensation expense, which was allocated as follows (in thousands):
|
|
|
|
|
|
|
|
|
|
2016
|
|
2015
|
|
Selling and marketing
|
|
$
|
4,828
|
|
$
|
4,495
|
|
General and administrative
|
|
$
|
16,479
|
|
$
|
19,563
|
|
Research and development
|
|
$
|
2,074
|
|
$
|
2,544
|
|
Changes
in foreign currency exchange rates decreased total operating expenses by $4.2 million for the six months ended September 30, 2016 as compared to the prior year.
Selling and marketing
Selling
and marketing expenses increased by $50.9 million for the six months ended September 30, 2016, as compared to the prior year, due primarily to
$51.7 million in higher
advertising expenses. Advertising expenses were higher in the current year period due primarily to the recent release of
Mafia III
in October 2016, the
release of
Battleborn
in May 2016 and, to a lesser extent, the release of
34
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NBA 2K17
and
BioShock: The Collection
in September 2016. These were slightly offset by the absence of advertising expenses
related to the February 2015 release of
Evolve
.
General and administrative
General
and administrative expenses decreased by $2.6 million for the six months ended September 30, 2016, as compared to the prior year, due primarily to
a decrease of $3.1 million in stock-based compensation expense, as the prior year period included ZelnickMedia's stock-based compensation for the awards granted under the 2011 Management
Agreement, lower restructuring and severance costs due to a studio closure in the prior year, and lower rent expense under our operating leases. Partially offsetting the decrease to general and
administrative expenses were higher expenses associated with unclaimed property and higher allowances for bad debt in the current year.
General
and administrative expenses for the six months ended September 30, 2016 and 2015 include occupancy expense (primarily rent, utilities and office expenses) of
$7.6 million and $9.1 million, respectively, related to our development studios.
Research and development
Research
and development expenses increased by $5.4 million for the six months ended September 30, 2016 as compared to the prior year due to higher
production expenses for new titles in development that have not reached technological feasibility, which were slightly offset by lower IT expenses.
Depreciation and Amortization
Depreciation
and amortization expenses increased by $0.9 million for the six months ended September 30, 2016, as compared to the prior year, due primarily
to higher purchases of fixed assets for studios and information technology infrastructure build-outs.
Interest and other, net
Interest and other, net was an expense of $11.6 million for the six months ended September 30, 2016, as compared to
$15.9 million for the six months ended September 30, 2015. The decrease to expense was due primarily to $3.6 million of higher foreign exchange transaction gains and higher
interest income related to our short-term investments, partially offset by higher interest expense on our Convertible Notes.
Provision for Income Taxes
The provision for income taxes was $0.1 million for the six months ended September 30, 2016, as compared to $0.2 million
for the six months ended September 30, 2015. The decrease in tax expense is attributable primarily to discrete items recognized during the quarter.
Our
effective tax rate differed from the federal statutory rate due primarily to changes in valuation allowances related to tax loss and tax credit carryforwards anticipated to be
utilized. As disclosed in our Annual Report on Form 10-K for the fiscal year ended March 31, 2016, we recognized an income tax benefit based on becoming eligible to claim certain tax
deductions in the UK on applicable video games. It is possible that we will become eligible to claim tax deductions in the UK on additional video games in future periods, which could result in tax
benefits that could have a material impact on our effective tax rate.
We
are regularly audited by domestic and foreign taxing authorities. Audits may result in tax assessments in excess of amounts claimed and the payment of additional taxes. We believe
that our tax
35
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positions
comply with applicable tax law, and that we have adequately provided for reasonably foreseeable tax assessments.
Net loss and loss per share
For the six months ended September 30, 2016 our net loss was $2.1 million, as compared to $12.3 million in the prior year's
period. For the six months ended September 30, 2016, basic and diluted loss per share was $0.03 as compared to $0.15 in the prior year's period. Basic and diluted weighted average shares of
85.0 million were 1.7 million shares higher as compared to the prior year, due primarily to the vesting of restricted stock awards. See Note 10 to our Condensed Consolidated
Financial Statements for additional information regarding earnings (loss) per share.
Liquidity and Capital Resources
Our primary cash requirements have been to fund (i) the development, manufacturing and marketing of our published products,
(ii) working capital, (iii) acquisitions and (iv) capital expenditures. We expect to rely on cash and cash equivalents as well as on short-term investments, funds provided by our
operating activities and our Credit Agreement to satisfy our working capital needs.
Short-term Investments
As of September 30, 2016, we had $404.6 million of short-term investments, which are highly liquid in nature and represent an
investment of cash that is available for current operations. From time to time, we may purchase additional short-term investments depending on future market conditions and liquidity needs.
Credit Agreement
In April 2016, we entered into a Sixth Amendment to our Second Amended and Restated Credit Agreement (as amended, the "Credit Agreement"). The
Credit Agreement provides for borrowings of up to $100.0 million which may be increased by up to $100.0 million pursuant to the terms of the Credit Agreement, and is secured by
substantially all of our assets and the equity of our subsidiaries. The Credit Agreement expires on August 18, 2019. Revolving loans under the Credit Agreement bear interest at our election of
(a) 0.25% to 0.75% above a certain base rate (3.75% at September 30, 2016), or (b) 1.25% to 1.75% above the LIBOR Rate (approximately 1.77% at September 30, 2016), with the
margin rate subject to the achievement of certain average liquidity levels. We are also required to pay a monthly fee on the unused available balance, ranging from 0.25% to 0.375% based on
availability.
Availability
under the Credit Agreement is unrestricted when liquidity is at least $300.0 million. When liquidity is below $300.0 million, availability under the Credit
Agreement is restricted by our United States and United Kingdom based accounts receivable and inventory balances. The Credit Agreement also allows for the issuance of letters of credit in an aggregate
amount of up to $5.0 million.
As
of September 30, 2016, there was $98.3 million available to borrow under the Credit Agreement and we had $1.7 million of letters of credit outstanding. At
September 30, 2016, we had no outstanding borrowings under the Credit Agreement.
The
Credit Agreement contains covenants that substantially limit us and our subsidiaries' ability to: create, incur, assume or be liable for indebtedness; dispose of assets outside the
ordinary course of business; acquire, merge or consolidate with or into another person or entity; create, incur or allow any lien on any of their respective properties; make investments; or pay
dividends or make distributions (each subject to certain limitations); or optionally prepay any indebtedness (subject to certain exceptions, including an exception permitting the redemption of our
unsecured convertible senior notes
36
Table of Contents
upon
the meeting of certain minimum liquidity requirements). In addition, the Credit Agreement provides for certain events of default such as nonpayment of principal and interest, breaches of
representations and warranties, noncompliance with covenants, acts of insolvency, default on indebtedness held by third parties and default on certain material contracts (subject to certain
limitations and cure periods). The Credit Agreement also contains a requirement that we maintain an interest coverage ratio of more than one to one for the trailing twelve month period, if certain
average liquidity levels fall below $30.0 million.
1.75% Convertible Notes Due 2016
On November 16, 2011, we issued $250.0 million aggregate principal amount of 1.75% Convertible Notes due 2016 (the "1.75%
Convertible Notes"). Interest on the 1.75% Convertible Notes is payable semi-annually in arrears on June 1st and December 1st of each year, commencing on June 1,
2012. The 1.75% Convertible Notes mature on December 1, 2016, unless earlier repurchased by us or converted. We do not have the right to redeem the 1.75% Convertible Notes prior to maturity.
The
1.75% Convertible Notes are convertible at an initial conversion rate of 52.3745 shares of our common stock per $1,000 principal amount of 1.75% Convertible Notes (representing an
initial conversion price of approximately $19.093 per share of common stock for a total of approximately 13,094,000 underlying conversion shares) subject to adjustment in certain circumstances. As of
June 1, 2016 until the close of business on the business day immediately preceding the maturity date, holders may convert their 1.75% Convertible Notes at any time. Prior to
September 27, upon conversion, the 1.75% Convertible Notes were eligible to be settled, at our election, in cash, shares of our common stock, or a combination of cash and shares of our common
stock. On September 27, 2016, we elected to settle our conversion obligations in connection with the 1.75% Convertible Notes solely in shares of our common stock and accordingly notified the
Trustee. As such, we have continued to classify these 1.75% Convertible Notes as long-term debt.
The
indenture governing the 1.75% Convertible Notes contains customary terms and covenants and events of default.
1.00% Convertible Notes Due 2018
On June 18, 2013, we issued $250.0 million aggregate principal amount of 1.00% Convertible Notes due 2018 (the "1.00% Convertible
Notes" and together with the 1.75% Convertible Notes, the "Convertible Notes"). The 1.00% Convertible Notes were issued at 98.5% of par value for proceeds of $246.3 million. Interest on the
1.00% Convertible Notes is payable semi-annually in arrears on July 1st and January 1st of each year, commencing on January 1, 2014. The 1.00% Convertible Notes
mature on July 1, 2018, unless earlier repurchased by us or converted. We do not have the right to redeem the 1.00% Convertible Notes prior to maturity. We also granted the underwriters a
30-day
option to purchase up to an additional $37.5 million principal amount of 1.00% Convertible Notes to cover overallotments, if any. On July 17, 2013, we closed our public offering of
$37.5 million principal amount of our 1.00% Convertible Notes as a result of the underwriters exercising their overallotment option in full on July 12, 2013, bringing the proceeds to
$283.2 million.
The
1.00% Convertible Notes are convertible at an initial conversion rate of 46.4727 shares of our common stock per $1,000 principal amount of 1.00% Convertible Notes (representing an
initial conversion price of approximately $21.52 per share of common stock for a total of approximately 13,361,000 underlying conversion shares) subject to adjustment in certain circumstances. Holders
may convert the 1.00% Convertible Notes at their option prior to the close of business on the business day immediately preceding January 1, 2018 only under the following circumstances:
(1) during any fiscal quarter commencing after September 30, 2013, if the last reported sale price of the common stock for at least 20 trading days (whether or not consecutive) during a
period of 30 consecutive trading days
37
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ending
on the last trading day of the preceding fiscal quarter is greater than or equal to 130% of the applicable conversion price on each applicable trading day; (2) during the five business
day period after any 10 consecutive trading day period (the "measurement period") in which the trading price per $1,000 principal amount of 1.00% Convertible Notes for each day of that measurement
period was less than 98% of the product of the last reported sale price of our common stock and the applicable conversion rate on each such day; or (3) upon the occurrence of specified
corporate events. On and after January 1, 2018 until the close of business on the business day immediately preceding the maturity date, holders may convert their 1.00% Convertible Notes at any
time, regardless of the foregoing circumstances. Upon conversion, the 1.00% Convertible Notes may be settled, at our election, in cash, shares of our common stock, or a combination of cash and shares
of our common stock. Our common stock price exceeded 130% of the applicable conversion price per share for at least 20 trading days during the 30 consecutive trading days ended September 30,
2016. Accordingly, as of October 1, 2016 the 1.00% Convertible Notes may be converted at the holder's option through December 31, 2016. During the three months ended September 30,
2016, 1.00% Convertible Notes due 2018 with an aggregate principal amount of $8.4 million were tendered for conversion, with October 2016 settlement dates. We elected to settle in shares of our
common stock, and our intent and ability, given our option, would be to settle future conversions in shares of our common stock. As such, we have continued to classify these 1.00% Convertible Notes as
long-term debt.
The
indenture governing the 1.00% Convertible Notes contains customary terms and covenants and events of default.
Financial Condition
We are subject to credit risks, particularly if any of our receivables represent a limited number of customers or are concentrated in foreign
markets. If we are unable to collect our accounts receivable as they become due, it could adversely affect our liquidity and working capital position.
Generally,
we have been able to collect our accounts receivable in the ordinary course of business. We do not hold any collateral to secure payment from customers. We have trade credit
insurance on the majority of our customers to mitigate accounts receivable risk.
A
majority of our trade receivables are derived from sales to major retailers and distributors. Our five largest customers accounted for 69.4% and 66.9% of net revenue during the six
months ended September 30, 2016 and 2015, respectively. As of September 30, 2016 and March 31, 2016, five customers accounted for 69.6% and 73.9% of our gross accounts receivable,
respectively. Customers that individually accounted for more than 10% of our gross accounts receivable balance comprised 56.3% and 64.1% of such balances at September 30, 2016 and
March 31, 2016, respectively. We had three customers who accounted for 23.3%, 20.5% and 12.5% of our gross accounts receivable as of September 30, 2016 and three customers who accounted
for 35.2%, 16.8% and 12.1% of our gross accounts receivable as of March 31, 2016. We did not have any additional customers that exceeded 10% of our gross accounts receivable as of
September 30, 2016 or March 31, 2016. Based upon performing ongoing credit evaluations, maintaining trade credit insurance on a majority of our customers and our past collection
experience, we believe that the receivable balances from these largest customers do not represent a significant credit risk, although we actively monitor each customer's credit worthiness and economic
conditions that may affect our customers' business and access to capital. We are monitoring the current global economic conditions, including credit markets and other factors as it relates to our
customers in order to manage the risk of uncollectible accounts receivable.
We
believe our current cash and cash equivalents, short term investments and projected cash flow from operations, along with availability under our Credit Agreement will provide us with
sufficient liquidity to satisfy our cash requirements for working capital, capital expenditures and commitments on both a short-term and long-term basis.
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Table of Contents
As
of September 30, 2016, the amount of cash and cash equivalents held outside of the U.S. by our foreign subsidiaries was $265.5 million. These balances are dispersed
across various locations around the world. We believe that such dispersion meets the business and liquidity needs of our foreign affiliates. In addition, we expect in the foreseeable future to have
the ability to generate sufficient cash domestically to support ongoing operations. Consequently, it is our intention to indefinitely reinvest undistributed earnings of its foreign subsidiaries. In
the event we needed to repatriate funds outside of the U.S., such repatriation may be subject to local laws and tax consequences including foreign withholding taxes or U.S. income taxes. It is not
practicable to estimate the tax liability and we would try to minimize the tax effect to the extent possible. However, any repatriation may not result in significant cash payments as the taxable event
would likely be offset by the utilization of the then available tax credits.
Our
Board of Directors has authorized the repurchase of up to 14,217,683 shares of our common stock. We did not repurchase any shares under this program during the six months ended
September 30, 2016. As of September 30, 2016, we have repurchased a total of 5,171,330 shares of our common stock and have remaining availability of 9,046,353 shares under our share
repurchase authorization. We are authorized to purchase shares from time to time through a variety of methods, including in the open market or through privately negotiated transactions, in accordance
with applicable securities laws. Repurchases are subject to the availability of stock, prevailing market conditions, the trading price of the stock, our financial performance and other conditions. The
program may be suspended or discontinued at any time for any reason.
Our
changes in cash flows were as follows:
|
|
|
|
|
|
|
|
|
|
Six Months Ended
September 30,
|
|
(thousands of dollars)
|
|
2016
|
|
2015
|
|
Net cash (used in) provided by operating activities
|
|
$
|
(50,809
|
)
|
$
|
20,014
|
|
Net cash povided by (used in) investing activities
|
|
|
55,858
|
|
|
(193,181
|
)
|
Net cash used in financing activities
|
|
|
(29,478
|
)
|
|
(27,409
|
)
|
Effects of foreign currency exchange rates on cash and cash equivalents
|
|
|
(4,310
|
)
|
|
1,169
|
|
|
|
|
|
|
|
|
|
Net decrease in cash and cash equivalents
|
|
$
|
(28,739
|
)
|
$
|
(199,407
|
)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
At
September 30, 2016, we had $770.0 million of cash and cash equivalents, compared to $798.7 million at March 31, 2016. The decrease in cash and cash
equivalents was due primarily to cash used in operating and financing activities offset by cash provided by investing activities. Net cash used in operating activities was due primarily to development
spend for upcoming releases. Net cash used in financing activities was primarily related to net share settlements of our stock-based awards. These decreases to cash and cash equivalents were partially
offset by net cash provided by investing activities due primarily to the maturity of bank time deposits.
Contractual Obligations and Commitments
We have entered into various agreements in the ordinary course of business that require substantial cash commitments over the next several
years. Other than agreements entered into in the ordinary course of business and in addition to the agreements requiring known cash commitments as reported in Part II, Item 7 of our
Annual Report on Form 10-K for the fiscal year ended March 31, 2016, we did not have any significant changes to our commitments since March 31, 2016.
Legal and Other Proceedings:
We are, or may become, subject to demands and claims (including intellectual property claims) and are
involved in
routine litigation in the ordinary course of business which we do not believe to be material to our business or financial statements. We have appropriately accrued amounts related to certain of these
claims and legal and other proceedings. While it is reasonably possible that a loss may be incurred in excess of the amounts accrued in our financial statements, we believe that such losses, unless
otherwise disclosed, would not be material.
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On April 11, 2016, we filed a declaratory judgment action in the United States District Court for the Southern District of New York seeking, among other
things, a judicial declaration that Leslie Benzies, the former president of one of our subsidiaries with whom we had been in ongoing discussions regarding his separation of employment, is not entitled
to any minimum allocation or financial parity with any other person under the applicable royalty plan. We believe we will prevail in this matter, although there can be no assurance of the outcome. On
April 12, 2016, Mr. Benzies filed a complaint in the Supreme Court of the State of New York, New York County against us, and certain of our subsidiaries and employees. We removed this
case to the United States District Court for the Southern District of New York, but the case was subsequently remanded to state court. The complaint claims damages of at least $150 million and
contains allegations of breach of fiduciary duty; fraudulent inducement and fraudulent concealment; aiding and abetting breach of fiduciary duty; breach of various contracts; breach of implied duty of
good faith and fair dealing; tortious interference with contract; unjust enrichment; reformation; constructive trust; declaration of rights; constructive discharge; defamation and fraud. We believe
that we have meritorious defenses to these claims, and we intend to vigorously defend against them and to pursue any counterclaims.
Off-Balance Sheet Arrangements
As of September 30, 2016 and March 31, 2016, we did not have any material relationships with unconsolidated entities or financial
parties, such as entities often referred to as structured finance or variable interest entities, which would have been established for the purpose of facilitating off-balance sheet arrangements or
other contractually narrow or limited purposes. As such, we are not exposed to any financing, liquidity, market or credit risk that could arise if we had engaged in such relationships.
International Operations
Net revenue earned outside of the United States is principally generated by our operations in Europe, Asia, Australia, Canada and Latin America.
For the three months ended September 30, 2016 and 2015, 39.9% and 46.7%, respectively, and for the six months ended September 30, 2016 and 2015, 39.1% and 47.2%, respectively, of our net
revenue was earned outside of the United States. We are subject to risks inherent in foreign trade, including increased credit risks, tariffs and duties, fluctuations in foreign currency exchange
rates, shipping delays and international political, regulatory and economic developments, all of which can have a significant effect on our operating results.
Fluctuations in Quarterly Operating Results and Seasonality
We have experienced fluctuations in quarterly and annual operating results as a result of the timing of the introduction of new titles;
variations in sales of titles developed for particular platforms; market acceptance of our titles; development and promotional expenses relating to the introduction of new titles; sequels or
enhancements of existing titles; projected and actual changes in platforms; the timing and success of title introductions by our competitors; product returns; changes in pricing policies by us and our
competitors; the accuracy of retailers' forecasts of consumer demand; the size and timing of acquisitions; the timing of orders from major customers; and order cancellations and delays in product
shipment. Sales of our products are also seasonal, with peak shipments typically occurring in the fourth calendar quarter as a result of increased demand for products during the holiday season. For
certain of our software products with multiple element revenue arrangements where we do not have vendor specific objective evidence ("VSOE") for each element and the deliverables are deemed
more-than-inconsequential, we defer the recognition of our net revenues over an estimated service period which generally ranges from 12 to 36 months. As a result, the quarter in
which we generate the highest net sales volume may be different from the quarter in which we recognize the highest amount of net revenues. Quarterly comparisons of operating results are not
necessarily indicative of future operating results.
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