<PAGE>
FORM 10-Q
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
---------------
[X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15 (d) OF THE
SECURITIES EXCHANGE ACT OF 1934
For the Quarterly Period Ended December 31, 1995
OR
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15 (d) OF THE
SECURITIES EXCHANGE ACT OF 1934
For the Transition Period from to
----- -----
Commission File No. 0-17948
ELECTRONIC ARTS INC.
(EXACT NAME OF REGISTRANT AS SPECIFIED IN ITS CHARTER)
Delaware 94-2838567
(STATE OR OTHER JURISDICTION OF (I.R.S. EMPLOYER
INCORPORATION OR ORGANIZATION) IDENTIFICATION NO.)
1450 Fashion Island Boulevard
San Mateo, California 94404
(ADDRESS OF PRINCIPAL EXECUTIVE OFFICES) (ZIP CODE)
(415) 571-7171
(REGISTRANT'S TELEPHONE NUMBER, INCLUDING AREA CODE)
Indicate by check mark whether the registrant (1) has filed all reports
required to be filed by Section 13 or 15 (d) of the Securities Exchange Act
of 1934 during the preceding 12 months (or for such shorter period that the
registrant was required to file such reports), and (2) has been subject to
such filing requirements for the past 90 days.
YES X NO
----- -----
Indicate the number of shares outstanding of each of the issuer's
classes of common stock, as of the latest practicable date.
Outstanding at
CLASS OF COMMON STOCK JANUARY 27,1996
$0.01 par value per share 52,624,309
<PAGE>
ELECTRONIC ARTS INC. AND SUBSIDIARIES
INDEX
PART I - FINANCIAL INFORMATION PAGE
Item 1. Consolidated Financial Statements
Consolidated Balance Sheets at
December 31, 1995 and March 31, 1995 3
Consolidated Statements of Income for
the Three Months Ended December 31, 1995 and 1994
and the Nine Months Ended December 31, 1995 and 1994 4
Consolidated Statements of Cash Flows for
the Nine Months Ended December 31, 1995 and 1994 5
Notes to Consolidated Financial Statements 6-10
Item 2. Management's Discussion and Analysis of
Financial Condition and Results of Operations 11-26
PART II - OTHER INFORMATION
Item 1. Legal Proceedings 27
Item 6. Exhibits and Reports on Form 8-K 27
SIGNATURES 28
<PAGE>
PART I - FINANCIAL INFORMATION
Item 1. Consolidated Financial Statements
ELECTRONIC ARTS INC. AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
(Dollars in thousands)
<TABLE>
<CAPTION>
December 31, March 31,
1995 1995
----------------------------
(unaudited)
<C> <C>
ASSETS
Current assets:
Cash and short-term investments $87,944 $174,121
Marketable securities 9,144 10,725
Receivables, less allowances of $33,989
and $33,567, respectively 162,500 56,389
Inventories 15,541 12,358
Prepaid royalties 14,216 8,318
Deferred income taxes 3,142 3,142
Other current assets 13,066 6,707
----------------------------
Total current assets 305,553 271,760
Property and equipment, net 65,513 30,528
Prepaid royalties 10,389 6,633
Long-term investments 14,200 14,200
Investments in affiliates 23,515 13,397
Deferred income taxes 655 77
Other assets 5,237 4,644
----------------------------
$425,062 $341,239
----------------------------
----------------------------
LIABILITIES, MINORITY INTEREST AND STOCKHOLDERS' EQUITY
Current liabilities:
Accounts payable $48,478 $34,247
Accrued liabilities 87,438 68,771
----------------------------
Total current liabilities 135,916 103,018
Minority interest in consolidated joint
venture 1,275 1,148
Stockholders' equity:
Preferred stock, $0.01 par value.
Authorized 1,000,000 shares
Common stock, $0.01 par value.
Authorized 70,000,000 shares;
issued and outstanding 52,489,478 and
50,863,455 shares, respectively. 526 509
Paid-in capital 96,671 77,144
Retained earnings 194,669 161,512
Unrealized depreciation of investments (2,787) (1,206)
Translation adjustment (1,208) (886)
----------------------------
Total stockholders' equity 287,871 237,073
----------------------------
$425,062 $341,239
</TABLE>
See accompanying notes to consolidated financial statements.
<PAGE>
ELECTRONIC ARTS INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF INCOME
(In thousands, except per share data)
(unaudited)
<TABLE>
<CAPTION>
Three Months Ended Nine Months Ended
December 31, December 31,
1995 1994 1995 1994
--------------------------------------------
<S> <C> <C> <C> <C>
Net revenues $239,683 $218,452 $413,375 $385,248
Cost of goods sold 127,014 125,986 217,792 211,628
--------------------------------------------
Gross profit 112,669 92,466 195,583 173,620
--------------------------------------------
Operating expenses:
Marketing and sales 30,914 26,165 57,477 47,703
General and administrative 10,699 9,867 24,212 23,410
Research and development 29,970 22,128 69,949 53,924
--------------------------------------------
Total operating expenses 71,583 58,160 151,638 125,037
Operating income 41,086 34,306 43,945 48,583
Interest and other income, net 2,532 832 4,834 11,648
--------------------------------------------
Income before provision for income
taxes and minority interest 43,618 35,138 48,779 60,231
Provision for income taxes 13,714 11,346 15,366 19,180
--------------------------------------------
Income before minority interest 29,904 23,792 33,413 41,051
Minority interest in consolidated
joint venture (620) 726 (256) 2,110
--------------------------------------------
Net income $29,284 $24,518 $33,157 $43,161
--------------------------------------------
--------------------------------------------
Net income per share: $0.54 $0.47 $0.61 $0.83
--------------------------------------------
--------------------------------------------
Number of shares used in computation 54,631 52,405 54,054 52,033
--------------------------------------------
--------------------------------------------
</TABLE>
See accompanying notes to consolidated financial statements.
<PAGE>
ELECTRONIC ARTS INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
(Dollars in thousands)
(unaudited)
<TABLE>
<CAPTION>
Nine Months
Ended December 31,
-----------------------
1995 1994
-----------------------
<S> <C> <C>
Operating activities: $33,157 $43,161
Net income
Adjustments to reconcile net income to net
cash used by operating activities:
Minority interest in consolidated joint venture 256 (2,110)
Depreciation and amortization 10,787 7,652
(Gain)/loss on sale of fixed assets (1,935) 8
Deferred rent (102) (81)
Change in operating assets and liabilities:
Receivables (106,111) (79,948)
Inventories (3,183) (7,703)
Prepaid royalties, net (9,654) (5,355)
Other assets (7,222) (3,618)
Accounts payable 14,231 8,762
Accrued liabilities 18,769 24,563
Deferred income taxes (578) (25)
-----------------------
Net cash used by operating activities ($51,585) ($14,694)
-----------------------
Investing activities:
Proceeds from sales of furniture and equipment $4,164 $429
Capital expenditures (47,731) (10,149)
Investments in affiliates (10,118) (5,810)
Change in short-term investments 13,475 21,200
Adjustment for effects of pooling in prior period - (1,661)
-----------------------
Net cash provided/(used) in investing
activities ($40,210) $4,009
Financing activities:
Proceeds from issuance of common stock $18,268 $4,331
Tax benefit from exercise of stock options 1,276 507
-----------------------
Net cash provided by financing activities $19,544 $4,838
Translation adjustment (322) 862
Minority interest on translation adjustment (129) 79
-----------------------
Decrease in cash and cash equivalents ($72,702) ($4,906)
Beginning cash and cash equivalents 143,421 93,918
-----------------------
Ending cash and cash equivalents 70,719 89,012
Short-term investments 17,225 15,200
-----------------------
Ending cash and short-term investments $87,944 $104,212
-----------------------
-----------------------
SUPPLEMENTAL CASH FLOW INFORMATION:
Cash paid during the year for income taxes $9,261 $1,475
-----------------------
-----------------------
NON-CASH INVESTING ACTIVITIES:
Unrealized depreciation of investment ($1,581) ($2,351)
Transfer of assets at net book value to affiliated
company - $6,003
-----------------------
-----------------------
</TABLE>
See accompanying notes to consolidated financial statements.
<PAGE>
ELECTRONIC ARTS INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE 1. BASIS OF PRESENTATION
The consolidated financial statements are unaudited and reflect all
adjustments (consisting only of normal recurring accruals) that, in the
opinion of management, are necessary for a fair presentation of the results
for the interim periods. The results of operations for current interim
periods are not necessarily indicative of results to be expected for the
current year or any other period.
These consolidated financial statements should be read in conjunction with
the financial statements and notes thereto included in the Company's Annual
Report on Form 10-K for the fiscal year ended March 31, 1995 as filed with
the Securities and Exchange Commission on June 28, 1995.
Certain amounts in the fiscal 1995 financial statements have been
reclassified to conform with fiscal 1996 presentation.
NOTE 2. CASH AND SHORT-TERM INVESTMENTS
Cash equivalents consist of highly liquid investments with maturities of
three months or less at the date of purchase.
The Company adopted the provisions of SFAS 115 (Statement of Financial
Accounting Standards No. 115, "Accounting for Certain Investments in Debt and
Equity Securities") for investments held as of or acquired after April 1,
1994. The Company has accounted for investments in debt securities as
"available-for-sale" under the provisions of SFAS 115 and has stated
applicable investments at fair value, with unrealized gains and losses
reported as a separate component of stockholders' equity. The cost of
securities sold is based upon the specific identification method.
Cash and short-term investments at December 31, 1995 and March 31, 1995
consisted of (in thousands):
<TABLE>
DECEMBER 31, 1995 MARCH 31, 1995
----------------- --------------
<S> <C> <C>
Cash and cash equivalents $70,719 $143,421
Short-term investments 17,225 30,700
------- --------
$87,944 $174,121
------- --------
------- --------
</TABLE>
NOTE 3. MARKETABLE SECURITIES
Marketable securities consist of equity securities. The Company has
accounted for investments in equity securities as "available-for-sale" and
has stated applicable investments at fair value, with unrealized losses
reported as a separate component of stockholders' equity.
<PAGE>
ELECTRONIC ARTS INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(continued)
NOTE 4. SOFTWARE DEVELOPMENT COSTS
To date, the Company has not capitalized any software development costs in
accordance with Statement of Financial Accounting Standard (SFAS) No. 86
since the impact to the financial statements for all periods presented has
been immaterial.
NOTE 5. INVENTORIES
Inventories are stated at the lower of weighted average cost or market.
Inventories at December 31, 1995 and March 31, 1995 consisted of (in
thousands):
<TABLE>
DECEMBER 31, 1995 MARCH 31, 1995
----------------- --------------
<S> <C> <C>
Raw materials and work in process $4,064 $2,799
Finished goods 11,477 9,559
------ ------
$15,541 $12,358
------- -------
------- -------
</TABLE>
NOTE 6. ACCRUED LIABILITIES
Accrued liabilities at December 31, 1995 and March 31, 1995 consisted of (in
thousands):
<TABLE>
DECEMBER 31, 1995 MARCH 31, 1995
----------------- --------------
<S> <C> <C>
Accrued expenses $41,976 $26,138
Accrued income taxes 13,257 16,069
Accrued royalties 18,916 16,040
Accrued compensation and benefits 13,289 10,524
------- -------
$87,438 $68,771
------- -------
------- -------
</TABLE>
NOTE 7. NET INCOME PER SHARE
Net income per share is computed on the basis of the weighted average number
of common shares and common equivalent shares outstanding and is adjusted for
shares issuable upon exercise of stock options. The computation assumes the
proceeds from the exercise of stock options were used to repurchase common
shares at the average market price of the Company's common stock during each
period. There is no significant difference between primary and fully diluted
earnings per share.
<PAGE>
ELECTRONIC ARTS INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(continued)
NOTE 8. INVESTMENTS IN AFFILIATES AND JOINT VENTURE
THE 3DO COMPANY
At December 31, 1995, the Company has approximately 14.9% (3,818,168 shares
of 3DO stock) ownership interest in The 3DO Company ("3DO"). The Company
realized gain before taxes of $3,433,000 from the sale of 332,500 shares of
3DO stock for the quarter ended December 31, 1995. For the nine months ended
December 31, 1995, the Company realized gain before taxes of $4,225,000 from
the sale of 400,000 shares of 3DO stock.
ELECTRONIC ARTS VICTOR, INC.
The Company has a majority interest in a joint venture corporation,
Electronic Arts Victor, Inc. ("EAV"), for the development and distribution of
entertainment software products in Japan as well as certain Asian countries.
EAV is sixty-five percent owned by the Company and thirty-five percent owned
by Victor Entertainment Industries, Inc. ("VEI"), (formerly Victor Musical
Industries, Inc.), a wholly owned subsidiary of Victor Company of Japan,
Limited. The Company has consolidated 100% of the assets, liabilities and
results of operations for EAV. VEI's 35% interest in EAV and the net effect
therefrom have been reflected as "Minority interest in consolidated joint
venture" on the Company's Consolidated Financial Statements.
CREATIVE WONDERS, INC.
In December 1994, the Company and Capital Cities/ABC, Inc. announced the
formation of a joint venture company to develop and publish software for
personal computers and new generation entertainment machines. The new
venture, Creative Wonders, Inc., (formerly ABC/EA Home Software, Inc.)
publishes children's edutainment and interactive entertainment multimedia
titles as well as reference products under the name Creative Wonders. Under
the terms of the agreement, each company will maintain a 50% ownership
interest in the joint venture company. Electronic Arts distributes
interactive titles sold by the joint venture into the retail channel. The
investment is accounted for under the equity method. As part of the
agreement, the Company contributed assets consisting primarily of
inventories, prepaid royalties and certain intangible assets.
<PAGE>
ELECTRONIC ARTS INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(continued)
NOTE 9. OPERATIONS BY GEOGRAPHIC AREAS
The Company operates in one industry segment. Information about the
Company's operations in North America, Europe, South Asia Pacific and Japan
for the three months and nine months ended December 31, 1995 and 1994 is
presented below (in thousands). All intersegment sales among North American
entities (EA San Mateo, EA Canada Inc., EA Puerto Rico Inc., EA Productions
Inc. and Origin Systems, Inc.) have been eliminated. Therefore, intersegment
activity disclosed on this schedule reflects only the transactions that have
taken place between the geographic segments disclosed below.
<TABLE>
<CAPTION>
NORTH SOUTH ASIA
AMERICA EUROPE PACIFIC JAPAN ELIMINATIONS TOTAL
-------- ------- ----------- -------- ------------ --------
<S> <C> <C> <C> <C> <C> <C>
THREE MONTHS ENDED DECEMBER 31, 1995
Net revenues from unaffiliated customers $142,714 $72,449 $8,168 $16,352 - $239,683
Intersegment net revenues 24,687 2,894 13 10 $(27,604) -
-------- ------- ----------- -------- ------------ --------
Total net revenues $167,401 $75,343 $8,181 $16,362 $(27,604) $239,683
-------- ------- ----------- -------- ------------ --------
-------- ------- ----------- -------- ------------ --------
Operating income/(loss) $22,933 $ 14,496 $1,877 $1,780 - $41,086
Identifiable assets $306,937 $86,258 $10,204 $21,663 - $425,062
NINE MONTHS ENDED DECEMBER 31, 1995
Net revenues from unaffiliated customers $251,999 $114,524 $16,084 $30,768 - $413,375
Intersegment net revenues 37,980 6,478 32 75 $(44,565) -
-------- ------- ----------- -------- ------------ --------
Total net revenues $289,979 $121,002 $16,116 $30,843 $(44,565) $413,375
-------- ------- ----------- -------- ------------ --------
-------- ------- ----------- -------- ------------ --------
Operating income/(loss) $17,332 $22,328 $3,626 $659 - $43,945
THREE MONTHS ENDED DECEMBER 31, 1994
Net revenues from unaffiliated customers $154,779 $45,172 $5,075 $13,426 - $218,452
Intersegment net revenues 22,179 1,310 8 - $(23,497) -
-------- ------- ----------- -------- ------------ --------
Total net revenues $176,958 $46,482 $5,083 $13,426 $(23,497) $218,452
-------- ------- ----------- -------- ------------ --------
-------- ------- ----------- -------- ------------ --------
Operating income/(loss) $26,250 $9,148 $918 $(2,010) - $34,306
Identifiable assets $258,747 $67,942 $5,884 $17,123 - $349,696
NINE MONTHS ENDED DECEMBER 31, 1994
Net revenues from unaffiliated customers $269,480 $79,740 $9,332 $26,696 - $385,248
Intersegment net revenues 33,490 2,891 52 34 $(36,467) -
-------- ------- ----------- -------- ------------ --------
Total net revenues $302,970 $82,631 $9,384 $26,730 $(36,467) $385,248
-------- ------- ----------- -------- ------------ --------
-------- ------- ----------- -------- ------------ --------
Operating income/(loss) $38,069 $15,178 $1,488 $(6,152) - $48,583
</TABLE>
The segmental results for the three months and nine months ended December 31,
1994 have been reclassified to reflect the Company's revised intercompany
pricing policies, which took effect during 1995 Fiscal Year. Segmental
profitability more appropriately reflects the underlying investments and
return on development and distribution activities and the associated risks
incurred by the entities with respect to those activities.
<PAGE>
NOTE 10. SUBSEQUENT EVENT
In January 1996, the Company issued approximately 60,000 shares of Common
Stock in exchange for all of the outstanding capital stock of Manley &
Associates, Inc., an independent developer of interactive entertainment and
education software based in Issaquah, Washington. The acquisition will be
accounted for under the pooling of interests method.
<PAGE>
Item 2. Management's Discussion and Analysis of Financial Condition and Results
of Operations
The following information should be read in conjunction with the
consolidated financial data and the notes thereto included in Item 1 of
this Quarterly Report and Management's Discussion and Analysis of Financial
Condition and Results of Operations contained in the Company's Annual
Report on Form 10-K for the fiscal year ended March 31, 1995 as filed with
the Securities and Exchange Commission on June 28, 1995.
Except for the historical information contained in this Form 10-Q, the
matters discussed herein are forward looking statements about the Company's
view of the business for the coming year. The actual results that the
Company achieves could differ materially from these statements, depending
on a number of factors described in the text below and in the Section
entitled "Risk Factors" appearing later in this Form 10-Q.
<TABLE>
<CAPTION>
December 31, December 31,
NET REVENUES 1995 1994 % change
- ------------ -------------------------------------------------
<S> <C> <C> <C>
CONSOLIDATED NET REVENUES
Three Months Ended $239,683,000 $218,452,000 9.7%
Nine Months Ended $413,375,000 $385,248,000 7.3%
NORTH AMERICA NET REVENUES
Three Months Ended $142,714,000 $154,779,000 (7.8%)
as a percentage of
net revenues 59.5% 70.9%
Nine Months Ended $251,999,000 $269,480,000 (6.5%)
as a percentage of net
revenues 61.0% 70.0%
INTERNATIONAL NET REVENUES
Three Months Ended $96,969,000 $63,673,000 52.3%
as a percentage of
net revenues 40.5% 29.1%
Nine Months Ended $161,376,000 $115,768,000 39.4%
as a percentage of net
revenues 39.0% 30.0%
</TABLE>
The Company derives revenues from shipments of EA Studio cartridge
products, EA Studio CD and floppy-disk personal computer products, EA
Studio CD products on dedicated entertainment and educational systems,
licenses of EA Studio products and shipments of Affiliated Label and other
branded publisher floppy-disk and CD products.
Consolidated net revenues increased 9.7% for the three months and 7.3% for
the nine months ended December 31, 1995 compared to the same periods last
year due to the increase in sales of CD based products for both personal
computers and dedicated entertainment systems, offset by a decrease in
shipments of 16-bit cartridge products.
North American net revenues decreased 7.8% for the three months and 6.5%
for the nine months ended December 31, 1995 compared to the same periods
last year due to the decrease in sales of 16-bit cartridge products,
partially offset by the increase in shipments of CD based products for both
personal computers and dedicated entertainment systems.
International net revenues increased 52.3% for the three months and 39.4%
for the nine months ended December 31, 1995 compared to the same periods
last year due to higher sales of CD and Super Nintendo products, partially
offset by a decrease in revenues from the sale of floppy-disk and Sega
products. The Company derives revenues from the sale of SNES products in
Europe in the current year, whereas last year these products were licensed
to a third party.
<PAGE>
EA STUDIO NET REVENUES:
<TABLE>
<CAPTION>
16-BIT VIDEOGAME PRODUCT NET REVENUES December 31, December 31,
1995 1994 % change
---------------------------------------------
<S> <C> <C> <C>
Three Months Ended $125,183,000 $149,345,000 (16.2%)
as a percent of net revenues 52.2% 68.4%
Nine Months Ended $187,952,000 $240,715,000 (21.9%)
as a percent of net revenues 45.5% 62.5%
</TABLE>
The Company released nine new 16-bit videogame products, six titles for
Sega Genesis and three titles for SNES, during the third quarter of fiscal
1996 including MADDEN FOOTBALL '96, FIFA INTERNATIONAL SOCCER '96, NBA LIVE
'96 for the Sega Genesis and SNES and PGA TOUR GOLF '96 for the Sega
Genesis. Sega cartridge sales were $82,115,000 for the three months ended
December 31, 1995 compared to $99,152,000 for the same period in the prior
year when seven new titles were released. SNES sales were $43,068,000 for
the three months ended December 31, 1995 compared to $50,193,000 for the
same period last year when five new titles were released.
Sega cartridge sales were $130,669,000 for the nine months ended December
31, 1995 compared to $178,367,000 for the same period in prior year. SNES
sales were $57,283,000 for the nine months ended December 31, 1995 compared
to $62,348,000 for the same period in prior year.
Since the 16-bit videogame market has matured, sales of hardware and
software have declined and are expected to continue to do so. The
Company's net revenues derived from 16-bit videogames declined 16.2% during
the third quarter of fiscal 1996 and 21.9% during the first nine months
compared to the same periods in the prior year.
Under the terms of a licensing agreement entered into with Sega
Enterprises, Ltd., ("Sega") in July 1992 ("the 16-bit Sega Agreement"), the
Company is authorized to develop and distribute ROM-cartridge software
products compatible with the Sega Genesis system through December 1995.
Additionally, the Company may continue to distribute remaining products in
its inventory or in process of manufacture at December 1995 for an
additional six months. Genesis cartridges are manufactured by the Company
in Puerto Rico under the terms of the 16-bit Sega Agreement. A shortage of
components, or other factors outside the control of the Company could
impair the Company's ability to obtain an adequate supply of cartridges.
The Company is currently discussing an extension of the term of the 16-bit
Sega agreement. While the Company is optimistic that this negotiation will
be successful, there can be no assurances that such an extension will be
agreed to by Sega, or that the terms of any such extension will be
favorable.
Under the terms of its licensing agreement with Nintendo, the Company
engages Nintendo to manufacture its SNES cartridges for distribution. The
Company has little ability to control its supply of cartridges or the
timing of their delivery. A shortage of microchips, or other factors
outside the control of the Company could impair the Company's ability to
obtain an adequate supply of cartridges. Nintendo maintains a policy of
not accepting returns. Considering these and other factors, carrying an
inventory of cartridges entails additional investments and risks.
Videogame cartridges, particularly SNES, are more expensive to produce than
floppy-disks and CDs and are produced in higher volumes. Accordingly, if
the Company's sales mix of SNES videogame products increases, it will be
exposed to greater inventory costs and increased risks of unexpected
returns of unsold products.
<PAGE>
32-BIT VIDEOGAME PRODUCT NET REVENUES
<TABLE>
<CAPTION>
December 31, December 31,
1995 1994 % change
----------------------------------------------
<S> <C> <C> <C>
Three Months Ended $33,739,000 $11,410,000 195.7%
as a percentage of net revenues 14.1% 5.2%
Nine Months Ended $46,075,000 $19,769,000 133.1%
as a percentage of net revenues 11.1% 5.1%
</TABLE>
The Company released fourteen new 32-bit CD Fbased products during the third
quarter of fiscal 1996, including FIFA INTERNATIONAL SOCCER '96, HI-OCTANE,
and THEME PARK for both the Sony PlayStation and Sega Saturn, ROAD RASH,
SHOCKWAVE ASSAULT and VIEWPOINT for the Sony Playstation. In addition, PGA
TOUR GOLF '96, PSYCHIC DETECTIVE, SHOCKWAVE 2, FOES OF ALI, and J-LEAGUE
VIRTUAL BASEBALL were released for the 3DO Interactive Multiplayer
compared to two new 3DO titles that were released in the third quarter of
fiscal 1995. Sony PlayStation products were first released during the
second quarter of fiscal 1996 and Sega Saturn products had their initial
release in the third quarter of fiscal 1996.
As a result of the videogame market's current transition to 32-bit hardware
platforms, particularly the launches of the Sony PlayStation and Sega
Saturn, the Company's sales of the related software for CD based dedicated
entertainment systems is expected to increase as the Company continues to
focus its development efforts on supporting these new platforms. As 32-bit
CD based products frequently include more content and are more complex and
time-consuming to develop due to the use of newly developed development tools
and early and changing versions of programming libraries. As a result, the
Company has and will continue to be exposed to higher risks with respect to its
product development schedules.
In the quarter ending December 31, 1995, the Company experienced delays in
development and release of a significant number of products for 32-bit and
PC-CD platforms and experienced higher development costs, including advance
write-offs, associated with these products. The results of future quarters
may also be affected by these factors.
Under the terms of a licensing agreement entered into with Sony Computer
Entertainment of America in July 1994 (the "Sony Agreement"), the Company
is authorized to develop and distribute CD based software products
compatible with the Sony PlayStation. Pursuant to the Sony Agreement, the
Company engages Sony to supply its PlayStation CDs for distribution by the
Company. Accordingly, the Company has limited ability to control its
supply of PlayStation CD products or the timing of their delivery.
In the quarter ending December 31, 1995, the Comapny experienced delays in
manufacturing from these sources which caused additional delays in shipping
products for this platform. Results of future quarters may be affected by
similar delays.
Under the terms of a licensing agreement entered into with Sega
Enterprises, Ltd. in January 1995 (the "Sega Saturn Agreement"), the
Company is authorized to develop and distribute CD based software products
compatible with the Sega Saturn. Pursuant to the Sega Saturn Agreement,
the Company engages various third party manufacturers approved by Sega to
supply its Saturn CDs for distribution. Accordingly, the Company has
limited ability to control its supply of Saturn CD products or the timing
of their delivery.
<PAGE>
PERSONAL COMPUTER CD PRODUCT NET REVENUES
<TABLE>
<CAPTION>
December 31, December 31,
1995 1994 % change
----------------------------------------------
<S> <C> <C> <C>
Three Months Ended $45,222,000 $24,877,000 81.8%
as a percentage of net revenues 18.9% 11.4%
Nine Months Ended $95,243,000 $41,457,000 129.7%
as a percentage of net revenues 23.0% 10.8%
</TABLE>
The Company released seven new CD based personal computer products in the
third quarter of the current fiscal year, five for the IBM personal
computer and two for the Macintosh, compared to five for the same period
last year. As mentioned above and elsewhere in this report, the
significant increase in absolute dollars and as a percentage of total net
revenues reflects the market transition from 16-bit cartridge systems to CD
based platforms and the Company's strategy to focus its development efforts
on CD based products. The Company expects revenues from CD based products
to grow, but as revenues for CD based products increase, the Company does
not expect to maintain these growth rates.
FLOPPY-DISK PRODUCT NET REVENUES
<TABLE>
<CAPTION>
December 31, December 31,
1995 1994 % change
----------------------------------------------
<S> <C> <C> <C>
Three Months Ended $505,000 $5,816,000 (91.3%)
as a percentage of net revenues .2% 2.7%
Nine Months Ended $2,859,000 $22,895,000 (87.5%)
as a percentage of net revenues .7% 6.0%
</TABLE>
The Company released no new floppy-disk based personal computer titles in
the third quarter of the current fiscal year, compared to one for the same
period in the prior year. The decrease in net revenue derived from
shipments of EA Studio floppy-disk based personal computer products
reflects the market trend toward CD based personal computer products. The
Company does not plan to release any new floppy-disk products for the
remainder of fiscal 1996 and accordingly, revenue for this platform is
expected to continue to decline and remain immaterial.
LICENSE/OEM NET REVENUES
<TABLE>
<CAPTION>
December 31, December 31,
1995 1994 % change
----------------------------------------------
<S> <C> <C> <C>
Three Months Ended $7,586,000 $4,689,000 61.8%
as a percentage of net revenues 3.2% 2.1%
Nine Months Ended $18,742,000 $11,682,000 60.4%
as a percentage of net revenues 4.5% 3.0%
</TABLE>
The increase in license/OEM net revenues for the three and nine months
ended December 31, 1995 compared to the same period last year was primarily
a result of an increase in the Company's licensing of personal computer
software products to third parties, as well as increased distribution of
its products through OEMs.
<PAGE>
OTHER REVENUES
<TABLE>
<CAPTION>
December 31, December 31,
1995 1994 % change
----------------------------------------------
<S> <C> <C> <C>
Three Months Ended $3,224,000 $4,448,000 (27.5%)
as a percentage of net revenues 1.3% 2.0%
Nine Months Ended $5,200,000 $12,862,000 (59.6%)
as a percentage of net revenues 1.3% 3.3%
</TABLE>
Other revenues for the three and nine months ended December 31, 1995
consisted of sales of products for the Gameboy, GameGear and the Sega 32X
platforms. The net revenues generated in the comparable periods of the
prior year related mainly to products for the Gameboy, GameGear and the
Sega Genesis CD platforms. The Company does not plan to release any new
products for hand-held equipment or the Sega 32X for the remainder of
fiscal 1996 and accordingly, revenues for these platforms are expected to
continue to decline.
AFFILIATED LABEL NET REVENUES:
<TABLE>
<CAPTION>
December 31, December 31,
1995 1994 % change
----------------------------------------------
<S> <C> <C> <C>
Three Months Ended $24,224,000 $17,867,000 35.6%
as a percentage of net revenues 10.1% 8.2%
Nine Months Ended $57,304,000 $35,868,000 59.8%
as a percentage of net revenues 13.9% 9.3%
</TABLE>
The increase in Affiliated Label net revenues for the three and nine months
ended December 31, 1995 compared to the prior year periods reflects the
significant expansion of the Company's distribution business, mainly in
North America and Europe. Affiliated Label CD based product net revenues
represented approximately 93% and 89%, respectively, of total Affiliated
Label net revenues for the three and nine months ended December 31, 1995,
compared to 48% and 50%, respectively, for the same periods last year. In
addition to the traditional Affiliated Labels distributed by the Company,
the Company also derived revenues from the exclusive distribution of PC
entertainment and 3DO products to key accounts on behalf of other third
party publishers. There were no such sales in the same period of the prior
year.
<PAGE>
COST OF GOODS SOLD
<TABLE>
<CAPTION>
December 31, December 31,
1995 1994 % change
----------------------------------------------
<S> <C> <C> <C>
Three Months Ended $127,014,000 $125,986,000 0.8%
as a percentage of net revenues 53.0% 57.7%
Nine Months Ended $217,792,000 $211,628,000 2.9%
as a percentage of net revenues 52.7% 54.9%
</TABLE>
Cost of goods sold decreased, as a percentage of net revenues, for the
three and nine months ended December 31, 1995 compared to the same periods
last year primarily due to an increase in the sale of higher margin CD
based products and decrease in the sale of lower margin 16-bit videogame
products, partially offset by growth in the lower margin distribution
business. Overall, the margins in the Affiliated Label business have
decreased due to the exclusive distribution business and a move toward
consignment-based arrangements in which the Company no longer bears the
costs, or risks, of carrying the third party inventory.
MARKETING AND SALES
<TABLE>
<CAPTION>
December 31, December 31,
1995 1994 % change
----------------------------------------------
<S> <C> <C> <C>
Three Months Ended $30,914,000 $26,165,000 18.2%
as a percentage of net revenues 12.9% 12.0%
Nine Months Ended $57,477,000 $47,703,000 20.5%
as a percentage of net revenues 13.9% 12.4%
</TABLE>
The increase in marketing and sales expenses was primarily attributable to
co-op advertising and trade show expenses. Also affecting the increase was
additional headcount and higher facility related expenses associated with
additional sales offices in the international market.
GENERAL AND ADMINISTRATIVE
<TABLE>
<CAPTION>
December 31, December 31,
1995 1994 % change
----------------------------------------------
<S> <C> <C> <C>
Three Months Ended $10,699,000 $9,867,000 8.4%
as a percentage of net revenues 4.5% 4.5%
Nine Months Ended $24,212,000 $23,410,000 3.4%
as a percentage of net revenues 5.9% 6.1%
</TABLE>
General and administrative expenses increased slightly for the three and
nine months ended December 31, 1995 compared to the same periods last year
primarily due to additional headcount, increased facility related expenses
associated with additional office space acquired in order to accommodate
growth, and other expenses associated with the worldwide expansion of the
business, offset by the higher bad debt expense incurred by Japan in the
prior year.
<PAGE>
RESEARCH AND DEVELOPMENT
<TABLE>
<CAPTION>
December 31, December 31,
1995 1994 % change
----------------------------------------------
<S> <C> <C> <C>
Three Months Ended $29,970,000 $22,128,000 35.4%
as a percentage of net revenues 12.5% 10.1%
Nine Months Ended $69,949,000 $53,924,000 29.7%
as a percentage of net revenues 16.9% 14.0%
</TABLE>
The increase in research and development expenses was primarily due to
continued investment in development for new CD based platforms, higher
average product development costs for new platforms, higher prepaid royalty
write-offs, and additional headcount resulting from more in-house
development.
OPERATING INCOME
<TABLE>
<CAPTION>
December 31, December 31,
1995 1994 % change
----------------------------------------------
<S> <C> <C> <C>
Three Months Ended $41,086,000 $34,306,000 19.8%
as a percentage of net revenues 17.1% 15.7%
Nine Months Ended $43,945,000 $48,583,000 (9.5%)
as a percentage of net revenues 10.6% 12.6%
</TABLE>
Operating income increased for the three months ended December 31, 1995
compared to the same period last year due to increased revenues, partially
offset by increased research and development expenses and marketing and
sales expenses. For the nine months ended December 31, 1995, operating
income decreased as compared to the same period last year primarily due to
increased research and development expenses and marketing and sales
expenses.
INTEREST AND OTHER INCOME, NET
<TABLE>
<CAPTION>
December 31, December 31,
1995 1994 % change
----------------------------------------------
<S> <C> <C> <C>
Three Months Ended $2,532,000 $832,000 204.3%
as a percentage of net revenues 1.1% 0.4%
Nine Months Ended $4,834,000 $11,648,000 (58.5%)
as a percentage of net revenues 1.2% 3.0%
</TABLE>
Interest and other income, net, increased for the three months ended
December 31, 1995 compared to the same period last year primarily due to
the sale of property and equipment and higher interest income. The
decrease for the nine months ended December 31, 1995 compared to the same
period last year was primarily due to a one time payment of $8,600,000, net
of costs of $1,400,000 incurred by the Company, associated with the
termination of a merger agreement in fiscal 1995.
<PAGE>
INCOME TAXES
<TABLE>
<CAPTION>
December 31, December 31,
1995 1994 % change
----------------------------------------------
<S> <C> <C> <C>
Three Months Ended $13,714,000 $11,346,000 20.9%
effective tax rate 31.4% 32.3%
Nine Months Ended $15,366,000 $19,180,000 (19.9%)
effective tax rate 31.5% 31.8%
</TABLE>
The Company's effective tax rate decreased for the three and nine months
ended December 31, 1995 compared to the same periods last year, primarily
due to the impact of the prior year loss generated by the Company's joint
venture in Japan.
MINORITY INTEREST IN CONSOLIDATED JOINT VENTURE
<TABLE>
<CAPTION>
December 31, December 31,
1995 1994 % change
----------------------------------------------
<S> <C> <C> <C>
Three Months Ended $(620,000) $726,000 (185.4%)
as a percentage of net revenues (0.3%) 0.3%
Nine Months Ended $(256,000) $2,110,000 (112.1%)
as a percentage of net revenues (0.1%) 0.5%
</TABLE>
The Company has a majority interest in a joint venture corporation,
Electronic Arts Victor, Inc. ("EAV"), in Japan for the development and
distribution of entertainment software products in Japan as well as certain
Asian countries. EAV is sixty-five percent owned by the Company and
thirty-five percent owned by Victor Entertainment Industries, Inc. ("VEI"),
(formerly Victor Musical Industries, Inc.) a wholly owned subsidiary of
Victor Company of Japan, Limited. The minority interest represents VEI's
35% interest in EAV. The decrease in impact from the minority interest
for the three and nine months ended December 31, 1995 is due to reported
income for EAV compared to the same periods in the prior year when EAV
reported losses.
NET INCOME
<TABLE>
<CAPTION>
December 31, December 31,
1995 1994 % change
----------------------------------------------
<S> <C> <C> <C>
Three Months Ended $29,284,000 $24,518,000 19.4%
as a percentage of net revenues 12.2% 11.2%
Nine Months Ended $33,157,000 $43,161,000 (23.2%)
as a percentage of net revenues 8.0% 11.2%
</TABLE>
The increase in net income for the three months ended December 31, 1995 as
compared to the same period last year was primarily related to higher
revenues offset by higher operating expenses. The decrease for the nine
months ended December 31, 1995 as compared to the same period last year was
primarily related to higher operating expenses combined with the prior year
impact of the after-tax net gain of approximately $6,000,000 from a
one-time payment of a merger termination fee.
<PAGE>
LIQUIDITY AND CAPITAL RESOURCES
As of December 31, 1995, the Company's working capital was $169,637,000
compared to $168,742,000 at March 31, 1995. Cash and short term
investments decreased by $86,177,000 during the nine months as the Company
used $51,585,000 of cash in operations.
During the nine months ended December 31, 1995, the Company invested
approximately $21,200,000 in the purchase of land and buildings in Austin,
Texas in which it plans to house its Texas-based development group.
Additionally, the Company made investments in Novalogic, Creative Wonders
and SportsLab.
Reserves for bad debts and sales returns increased slightly from
$33,567,000 at March 31, 1995 to $33,989,000 at December 31, 1995.
Management believes these reserves are adequate based on historical
experience and its current estimate of potential returns and allowances.
Inventory levels at December 31, 1995 increased compared to March 31, 1995
primarily due to expansion of the Company's distribution business in Europe.
In connection with the Company's purchases of cartridges to be distributed
in North America, Nintendo of America, Inc. requires irrevocable Letters of
Credit ("LC") prior to accepting purchase orders from the Company. At
December 31, 1995, the Company had one LC totaling approximately
$2,410,000 issued and outstanding.
In connection with the Company's purchases of cartridges to be distributed
in Japan and Europe, Nintendo of Japan requires cash deposits in lieu of
letters of credit. In connection with the Company's purchases of Sony
products to be distributed in Japan, Sony of Japan requires cash deposits
totaling one-third of the purchase orders. At December 31, 1995, the
Company had $145,000 of cash deposits to Sony. EAV utilizes a line of
credit to fund deposits and purchases of Nintendo cartridges and Sony CD
products. At December 31, 1995, EAV had an outstanding balance on this
line of approximately $8,700,000.
The Company's principal source of liquidity is $87,944,000 in cash and
short-term investments. Management believes the existing cash, cash
equivalents, short-term investments, marketable securities and cash
generated from operations will be sufficient to meet cash and investment
requirements for the foreseeable future.
<PAGE>
RISK FACTORS
The Company's business is subject to a number of risks. Some of those
risks are described below. Other risks are presented elsewhere in this
report.
RAPID TECHNOLOGICAL CHANGE
Currently, the interactive software industry is undergoing another
significant change due in part to the introduction or planned introduction
of new hardware platforms, as well as remote and electronic delivery
systems. The new generation of systems is based on 32-bit and 64-bit
microprocessors that incorporate dedicated graphics chipsets. Many of
these systems utilize CD-ROM drives. The Company began development of
32-bit software products over three years ago by creating the original
software development system for the first of these advanced products, the
3DO Interactive Multiplayer, which began selling in calendar 1993. Sega
and Sony each began distribution of their next generation hardware systems
(named the "Saturn" and "PlayStation", respectively) in Japan during the
quarter ended December 1994. Sega began limited shipment of the Saturn in
North America in May 1995 and Sony commenced shipping the PlayStation in
North America in September 1995. The team of Nintendo and Silicon Graphics
has announced plans to manufacture and distribute the Ultra 64 advanced
system for initial shipment in the spring of 1996 in Japan and the fall of
1996 in North America and Europe. In October 1995, the 3DO Company
announced an agreement to license its next generation system, the "M2", to
Matsushita Electric Industrial Co., Ltd. ("MEI").
New entrants in the interactive entertainment and multimedia
industries, such as cable television, telephone and diversified media and
entertainment companies, and a proliferation of new technologies, such as
on-line networks and the Internet, are making market forecasting and
prediction of financial results increasingly difficult for the Company.
However, in the near term, the Company expects that the transition from
16-bit cartridge-based game machines to the advanced systems described
above will continue to adversely affect the near term financial results of
the Company. An increasing portion of the Company's new product releases
in its 1996 fiscal year are for advanced platforms, including the IBM PC-CD
and compatibles, the Sega Saturn and Sony PlayStation, which will, in the
near term, have substantially smaller installed bases than the current
16-bit videogame systems. In the near term, the increase in unit sales of
advanced platforms may be less than the decline in unit sales of 16-bit
systems. Therefore, the Company's potential market during this transition
period may be smaller. The Company expects to release fewer titles during
fiscal 1996 than during fiscal 1995, and the majority of these new products
will be for the PC-CD and 32-bit systems. This set of circumstances will
continue to adversely affect the financial results of the Company in fiscal
1996, while Sega and Sony continue the North American roll-out of the
Saturn and the PlayStation, respectively.
<PAGE>
As 16-bit hardware sales continue to decline, software sales for these
systems are declining rapidly as a percentage of the Company's business.
This trend is expected to continue through fiscal 1996 and future years.
In addition, sales in the 16-bit software market have become more "hits"
driven. Fewer products in that market are successful and publishers of
these games, including the Company, must incur additional marketing and
sales expenses to promote retailers' sales of 16-bit products. In fiscal
1996, the Company is releasing fewer products for these platforms and has
concentrated its releases during the holiday season, while it focused
marketing efforts on the promotion of hit products.
The interactive software market has historically been a volatile and
highly dynamic industry affected by seasonality, changing technology,
limited hardware platform life cycles, hit products, competition, component
supplies, consumer spending and other economic trends. Each of these
factors affect the operating results of the Company, often in combinations
that make predicting those operating results difficult. In particular, the
Company believes that consumer spending trends are adversely affecting the
interactive software market at this time, and that retailers, in reaction
to the rapidly declining 16-bit market, are attempting to reduce their
inventories by buying more cautiously. These factors can be expected to
continue to depress sales of the Company's software products for the 16-bit
market as it is succeeded by the 32-bit market.
The Company believes that early investment in products for the 32-bit
market is strategically important, and the Company is therefore continuing
its aggressive development activities for 32-bit platforms. This
investment in advanced technology development, together with declining
revenues from 16-bit products during this period may result in slow or
insignificant growth in revenue and a decline in earnings for the 1996
fiscal year.
The eventual increase in the 32-bit market will in large part depend
on the success of the new hardware platforms. Slower than anticipated
acceptance by consumers will slow the growth and prolong the transition
from the 16-bit to 32-bit platforms. Additionally, the anticipated
introduction of 64-bit systems, such as the "Ultra 64" from Nintendo and
"M2" from MEI into the market in calendar year 1996 may adversely affect
the growth and success of 32-bit systems.
<PAGE>
COMPETITION
The interactive consumer software market is highly competitive.
Important factors in marketing both entertainment and educational software
include content quality and entertainment value, product features,
manufacturing quality and reliability, brand recognition, hardware
compatibility, ease of understanding and operation, dealer merchandising,
access to existing distribution channels and retail shelf space,
advertising, pricing, and availability and quality of support services. A
variety of companies offer products that compete directly with one or more
of the Company's products. These direct competitors vary in size from very
small companies with limited resources to companies with financial,
managerial and technical resources comparable to or greater than those of
the Company. Manufacturers of hardware platform systems, videogame
cartridges and CD based systems such as Nintendo, Sega and Sony (together
with their licensees) diversified media and entertainment companies such as
Disney and Viacom and publishers of personal computer software such as
Microsoft Corporation also compete directly with the Company in providing
interactive software products to consumers. In addition, companies in
industries such as cable television and telecommunications, many of which
have significant financial resources, have begun to diversify or have
announced plans to enter the interactive software market. These new
entrants have the potential to become significant competitors.
PRODUCTS AND PRODUCT DEVELOPMENT
Interactive entertainment software products typically have life spans
of only 3 to 12 months. Accordingly, the Company must constantly develop
and bring to market new products that achieve market acceptance quickly.
The Company's future success will depend in large part on its ability to
develop and introduce new products on a timely basis. New products must
keep pace with competitive offerings, adapt to new hardware platforms and
emerging industry standards and provide additional functionality. If the
Company were unable, due to resource constraints or technological or other
reasons, to develop and introduce such products in a timely manner, this
inability would have a material adverse effect on its operating results and
financial condition.
The Company currently develops or publishes products for 9 different
hardware platforms and has from time to time developed and marketed
products on 32 different and incompatible platforms in the past. The
Company makes substantial investments in research and development of
products for operation on new hardware platforms which the Company
anticipates will become more popular. Such investment occurs one to two
years in advance of shipment of products on such platforms. If the Company
invests in a platform that does not achieve significant market penetration,
the Company's planned revenues from those products will not be achieved and
the Company may not recover its development investment. Conversely, if the
Company does not choose to develop for a platform that achieves significant
market success, its revenue growth may also be adversely affected. There
can be no assurance that the Company will correctly make such platform
choices.
<PAGE>
The Company's current and planned product introductions are
predominantly for 32-bit platforms such as the IBM PC and compatibles, the
Apple Macintosh, the Sega Saturn and the Sony PlayStation and 16-bit
platforms such as the SNES and the Genesis videogame systems.
The Company believes that compact discs have emerged as the
preferred medium for interactive entertainment, education, and information
software for the next several years. The Company has continued its
investment in the development of CD-ROM tools and technologies and has 62
titles in development for CD based platforms, including the IBM PC and
compatibles, the Apple Macintosh, the 3DO Interactive Multiplayer, the Sega
Saturn and the Sony PlayStation. Most of these products will be convertible
for use on multiple advanced hardware systems.
Product development schedules, particularly for new hardware
platforms, are difficult to predict because they involve creative processes,
use of new development tools for new platforms and the learning process
associated with development for new technologies, as well as other factors.
CD based products frequently include more content, including video, and are
more complex, time-consuming and costly to develop than cartridge products
and, accordingly, cause additional development and scheduling risk. As a
result, development advances, including advances for video productions, to
outside developers are frequently greater for development of CD based
products than for development of 16 bit products. Accordingly, the actual
amounts of advance payment write-offs has and may continue to increase with
the development of increasingly sophisticated and costly CD based products.
In addition, these development risks for CD based products can cause
particular difficulties in predicting quarterly results because brief
manufacturing lead times allow finalization of products and projected
release dates late in a quarter. Failure to meet product development
schedules may cause a shortfall in shipments in any quarter and may cause
the operating results for such quarter to fall significantly below
anticipated levels.
As noted above, one of the existing 32-bit platforms is the 3DO
Interactive Multiplayer. The Company currently owns approximately 14.9% of
the common stock of 3DO. The Company has achieved a leading position in
3DO software sales and has generated profits from sales of 3DO products in
fiscal 1995 and 1996. The Company also derives revenues from the exclusive
distribution of 3DO products to key accounts on behalf of other third party
publishers. However, the Company's 3DO products have not achieved the
sales levels of the Company's Genesis products primarily because the 3DO
Interactive Multiplayer has not achieved significant market acceptance
comparable to the Genesis and SNES platforms and is now competing directly
with Sega's and Sony's new 32-bit systems. However, 3DO has announced its next
generation technology, the "M2", that it anticipates to be marketed in the
second half of 1996 and claims that it will run software developed for the
3DO Interactive Multiplayer. 3DO also recently announced the license of
the "M2" to MEI for $100,000,000. There can be no assurance that the "M2"
will ship into the market, that it will be able to run software developed
for the 3DO Interactive Multiplayer or that it will be successful in the
market. There can be no assurance that 3DO will be successful as a company.
Because of the Company's equity stake in and historical association with
3DO, a material adverse effect on the business or prospects of 3DO or a
substantial adverse change in the stock price of 3DO could have a material
adverse effect on the Company's stock price.
<PAGE>
Additionally, the Company produces film and videotape to include in
certain products utilizing personnel whose services are subject to
agreements between certain of the Company's subsidiaries and the Screen
Actors Guild and Actors Equity Association. However, the costs of film and
video production are significantly higher than for software production, and
for products which include a substantial amount of video (such as products
in the interactive movie category), the costs of producing the video component
is significantly higher than the cost of developing the software component,
resulting in higher overall development costs for such products.
Accordingly, significantly more units of such products must be sold to
recoup the development and production costs. Extensive use of film or
video in some of the Company's products, particularly its products in the
interactive movie category, are substantial product development
expenditures for the Company and there can be no assurance that the
significantly higher sales levels required to make these products
successful will be achieved.
MARKETING AND DISTRIBUTION
As discussed above, the 16-bit videogame business has become
increasingly "hits" driven, requiring significantly greater expenditures
for advertising, particularly for television advertising. There can be no
assurance that the Company will continue to produce "hit" products or that
advertising expenditures will increase sales sufficiently to recoup the
advertising expenditures.
The Company has stock-balancing programs for its personal computer
products (whether floppy-disk or CD based) that, under certain
circumstances and up to a specified amount, allow for the exchange of
personal computer products by resellers. The Company also typically
provides for price protection for its personal computer and videogame
system products that, under certain conditions, allows the reseller a price
reduction from the Company for unsold products. The Company maintains a
policy of exchanging products or giving credits, but does not give cash
refunds. The risk of price protection requirements is increasing as a
result of the maturing and the increasingly "hits" driven nature of the
16-bit market. Moreover, the risk of product returns may increase as new
hardware platforms become more popular or market factors force the Company
to make changes in its distribution system. The Company monitors and
manages the volume of its sales to retailers and distributors and their
inventories as substantial overstocking in the distribution channel can
result in high returns or the requirement for substantial price protection
in subsequent periods. The Company believes that it provides adequate
reserves for returns and price protection which are based on estimated
future returns of products, taking into account promotional activities, the
timing of new product introductions, distributor and retailer inventories
of the Company's products and other factors, and that its current reserves
will be sufficient to meet return and price protection requirements for the
foreseeable future. However, there can be no assurance that actual returns
or price protection will not exceed the Company's reserves.
<PAGE>
The distribution channels through which consumer software products are
sold have been characterized by change, including consolidations and
financial difficulties of certain distributors and retailers and the
emergence of new retailers such as general mass merchandisers. The
bankruptcy or other business difficulties of a distributor or retailer
could render the Company's accounts receivable from such entity
uncollectible, which could have an adverse effect on the operating results
and financial condition of the Company. In addition, an increasing number
of companies are competing for access to these channels. The Company's
arrangements with its distributors and retailers may be terminated by
either party at any time without cause. Distributors and retailers often
carry products that compete with those of the Company. Retailers of the
Company's products typically have a limited amount of shelf space and
promotional resources for which there is intense competition. There can be
no assurance that distributors and retailers will continue to purchase the
Company's products or provide Electronic Arts' products with adequate
levels of shelf space and promotional support.
SEASONALITY
The Company's business is highly seasonal. The Company typically
experiences its highest revenues and profits in the calendar year-end
holiday season and a seasonal low in revenues and profits in the quarter
ending in June.
EMPLOYEES
The Company believes that its ability to attract and retain qualified
employees is an important factor in its growth and development and that its
future success will depend, in large measure, on its ability to continue to
attract and retain qualified employees. To date, the Company has been
successful in recruiting and retaining sufficient numbers of qualified
personnel to conduct its business successfully. However, competition for
employees in the interactive software business is intense and increasing as
competition in the industry increases and there can be no assurance that
the Company will continue to be able to attract and retain enough qualified
employees in the future. None of the Company's employees are subject to a
collective bargaining agreement, and the Company believes that its employee
relations are excellent.
<PAGE>
OTHER RISK FACTORS
In addition to those discussed above, the Company's business is
subject to a number of other risks. Some of those risks are described
below. Other risks are presented elsewhere in this report.
A substantial majority of the total revenue of the Company in any
quarter typically results from orders received in that quarter and products
introduced in that quarter. The Company's expenses are based, in part, on
expected future revenues. Certain overhead and product development
expenses do not vary directly in relation to revenues. As a result, the
Company's quarterly results of operations are difficult to predict, and
small delays in product deliveries may cause quarterly revenues, operating
results and net income to fall significantly below anticipated levels. The
Company's revenues and net income could also be materially and adversely
affected by cancellation of orders, changes in customer base or product
mix, delays in processing, acceptance and delivery by manufacturers and
increased competition.
The Company typically receives orders shortly before shipments, making
backlog, particularly early in any quarter, an unreliable indicator of
quarterly results. Therefore, quarterly results may be difficult to
predict until the end of the quarter. A shortfall in shipments at the end
of any particular quarter may cause the results of that quarter to fall
significantly short of anticipated levels. Due to analysts' expectations
of continued growth and other factors, any such shortfall in earnings could
have an immediate and significant adverse effect on the trading price of
the Company's common stock in any given period. As a result of the
foregoing factors and other factors that may arise in the future, the
market price of the Company's common stock may be subject to significant
fluctuations over a short period of time. These fluctuations may be due to
factors specific to the Company, to changes in analysts' earnings
estimates, or to factors affecting the computer, software, entertainment,
media or electronics industries or the securities markets in general.
Because of the foregoing factors, as well as other factors affecting
the Company's operating results and financial condition, past financial
performance should not be considered a reliable indicator of future
performance, and investors should not use historical trends to anticipate
results or trends in future periods.
<PAGE>
PART II - OTHER INFORMATION
ITEM 1. LEGAL PROCEEDINGS
The Company is subject to pending claims. Management, after review
and consultation with counsel, considers that any liability from the
disposition of such lawsuits in the aggregate would not have a
material adverse effect upon the consolidated financial position or
results of operations of the Company.
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K
(a) Exhibits - The following exhibits are filed as part of this report:
None
Number Exhibit Title
- ------ -------------
(b) No reports on Form 8-K were filed by the Registrant during the three
months ended December 31, 1995.
<PAGE>
SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934, the
Registrant has duly caused this report to be signed on its behalf by the
undersigned thereunto duly authorized.
ELECTRONIC ARTS INC.
(Registrant)
/s/ E. STANTON MCKEE
-----------------------------
DATED: E. STANTON MCKEE
February 13, 1996 Senior Vice President and
Chief Financial and Administrative Officer
(Duly authorized officer)
<TABLE> <S> <C>
<PAGE>
<ARTICLE> 5
<MULTIPLIER> 1,000
<S> <C>
<PERIOD-TYPE> 9-MOS
<FISCAL-YEAR-END> MAR-31-1996
<PERIOD-START> APR-01-1995
<PERIOD-END> DEC-31-1995
<CASH> 87,944
<SECURITIES> 9,144
<RECEIVABLES> 196,489
<ALLOWANCES> 33,989
<INVENTORY> 15,541
<CURRENT-ASSETS> 305,553
<PP&E> 99,497
<DEPRECIATION> 33,984
<TOTAL-ASSETS> 425,062
<CURRENT-LIABILITIES> 135,916
<BONDS> 0
0
0
<COMMON> 526
<OTHER-SE> 287,345
<TOTAL-LIABILITY-AND-EQUITY> 425,062
<SALES> 413,375
<TOTAL-REVENUES> 413,375
<CGS> 217,792
<TOTAL-COSTS> 217,792
<OTHER-EXPENSES> 151,638
<LOSS-PROVISION> 2,329
<INTEREST-EXPENSE> 76
<INCOME-PRETAX> 48,779
<INCOME-TAX> 15,366
<INCOME-CONTINUING> 33,413
<DISCONTINUED> 0
<EXTRAORDINARY> 0
<CHANGES> 0
<NET-INCOME> 33,157<F1>
<EPS-PRIMARY> 0.61
<EPS-DILUTED> 0.61
<FN>
<F1>Includes the effect of minority interest in consolidated joint venture
of 256
</FN>
</TABLE>
