TTWO

Business Context and Reporting Period

Company: Take-Two Interactive Software, Inc.
Filing Type: Form 10-Q (Quarterly Report)
Period Ended: January 31, 2010
Business Overview: A global publisher and developer of interactive entertainment software operating through wholly-owned labels Rockstar Games and 2K. The company focuses on publishing internally developed titles for consoles, PC, and handheld devices.

Key Financial Metrics

Note: Debt figures reflect the carrying amount of $138 million in Convertible Senior Notes due 2014, net of unamortized discount.

Material Changes vs. Prior Period

• Revenue Growth: Net revenue increased 9.3% year-over-year, driven by the 2K label (specifically Borderlands and the NBA franchise). This was partially offset by a $17.6 million decline in Grand Theft Auto franchise sales.
• Margin Expansion: Gross margin improved from 31.2% to 38.5%. This was primarily due to a significant reduction in internal royalty expenses (down $18.4 million) linked to lower Grand Theft Auto revenue, despite higher royalties on externally developed titles.
• Expense Reduction: Total operating expenses decreased 13.1% to $89.4 million. General and administrative expenses dropped 25.4% due to a $6.8 million decrease in legal fees and settlement costs. R&D expenses fell 26.2% due to higher capitalization rates for development costs.
• Discontinued Operations: The company completed the sale of its "Jack of all Games" distribution business in February 2010. Results for this segment are now classified as discontinued operations, showing a loss of $0.1 million in Q1 2010 compared to income of $3.5 million in Q1 2009.
• Cash Flow: Operating cash flow turned positive ($4.0 million) compared to a significant outflow in the prior year, largely due to the collection of accounts receivable from Q4 2009 releases.

Guidance, Outlook, and Risks

• Product Pipeline: Key upcoming releases include Red Dead Redemption (May 2010), L.A. Noire, Mafia II, Max Payne 3, and Civilization V (all Fiscal 2010).
• Liquidity: The company maintains $106.0 million in cash and $131.9 million in available borrowings under its credit facility. Management believes this is sufficient to meet obligations for the next 12 months.
• Legal Proceedings:
  • Grand Theft Auto: San Andreas consumer class actions were settled on non-class basis and dismissed by the court in February 2010.
  • A securities class action regarding San Andreas and option backdating is subject to a proposed settlement of approximately $20.1 million (with ~$15.3 million covered by insurance).
  • Derivative actions regarding option backdating remain pending.
• Risk Factors: Risks include concentration of revenue among five largest customers (52.1% of revenue), foreign currency exchange fluctuations, and the impact of used game sales on new software demand. The company also faces potential limitations on using net operating loss carryforwards if an ownership change occurs.

Investor Verification Checklist

• Debt Structure: Verify the impact of the $138 million Convertible Notes (4.375% due 2014) on future interest expense and potential dilution, noting the non-cash amortization of the debt discount.
• Legal Settlements: Confirm the final approval of the $20.1 million securities class action settlement and the status of remaining derivative litigation.
• Revenue Concentration: Monitor the creditworthiness of the top five customers, who accounted for over 50% of revenue and 80% of gross accounts receivable.
• Product Execution: Assess the commercial performance of the upcoming Red Dead Redemption and L.A. Noire releases, which are critical for Fiscal 2010 profitability.
• Discontinued Operations: Ensure financial analysis excludes the distribution business results, which have been reclassified as discontinued operations.