SCi Entertainment Group Plc (‘SCi) is one of the world’s leading publishers of computer and video games. Its brands, published under the Eidos label, include Tomb Raider, Hitman, Championship Manager, Just Cause and Battlestations: Midway.
* Non GAAP EBITDA is stated before exceptional items £14.4m (2006: £1.8m) and share based compensation £2.2m (2006: £4.4m) and the effect of exceptionally high price protection charges, £14.5m (2006: £nil).
Key points
Update on potential offer: On 4 September 2007 the Board confirmed it had received an approach regarding a possible offer for the Company. Since then it has received further approaches and discussions are ongoing with a number of potential acquirers. Results for the year: Revenue for the year fell principally due to timing of product launches and weaker retail prices on old generation platforms. Both of these factors reflect the hardware transition in the video games market. An exceptional provision of £13.8m has been established against the carrying value of capitalised development costs.
Commenting on these results, Jane Cavanagh, Chief Executive of SCi said: ‘Despite the challenges posed in a hardware transition year the Board has continued to focus on the objective of building long-term value. We have made significant investments in the year to increase and broaden our product pipeline, improve the long-term efficiency of our development studios and grow our New Media business. We have the strongest portfolio of products moving forward in the history of the company’.
Chairman’s statement
During the financial year, the Group experienced challenging trading conditions in a market strongly affected by the transition from old hardware platforms to next generation platforms. However, the Group continued to make progress through a number of strategic actions to ensure that we are well positioned for the future and the anticipated growth and pricing model on next generation consoles.
Results
As set out in note 2, EBITDA before exceptional items £14.4m (2006: £1.8m) and share based compensation payment £2.2m (2006: £4.4) and before the impact of exceptionally high price protection charges was £15.0m (2006: £28.8m). Pre-tax loss was £30.0m (2006: Profit £8.1m). In addition, as previously indicated, we have incurred significant charges in two important areas both strongly related to the consequences of the hardware transition. As previously announced the Group incurred exceptionally high price protection charges of £14.5m. These charges, recorded as a deduction from revenue, arose from lower retail prices, particularly on PlayStation 2 products. The Group has carefully assessed its level of capitalised development costs.
We have previously indicated that we would establish a provision of approximately £4m against our expenditure on PlayStation 3 products. The Board continues to believe in the long-term commercial success of PlayStation 3 but believes this may take more time than originally forecast by Sony. The Board is of the opinion that the key driver to the acceleration of the installed base of PlayStation 3 will be a further hardware price cut. Therefore until such time that such a price move is announced by Sony, the Board believes that it is prudent to increase our provision to £13.8m against the carrying value of certain capitalised development costs. This is recorded as an exceptional charge.
Update on potential offer
On 4 September 2007 we announced that we had received an approach regarding a possible offer for the Company. Since that time, we have received further approaches and discussions are ongoing with a number of potential acquirers. There remains no certainty that any offer for the Company will be made or as to the terms of any such offer were one to be made. A further announcement will be made in due course. Board changes As the Group continues to grow we have recognised the need to expand the senior management team.
Accordingly I am delighted that Phil Rogers, who joined the Group in February 2007 as Corporate Development Director, has been promoted to the PLC Board as Chief Financial Officer replacing Rob Murphy. Phil was previously Vice President Corporate Development at Electronic Arts and is a Chartered Accountant. In relation to this promotion there are no matters to disclose in accordance with Listing Rule 9.6.13R. Bill Ennis, formerly Commercial Director, becomes Managing Director – Publishing and Rob Murphy, formerly CFO, becomes Managing Director – Studios. These changes have immediate effect.
Strategic actions
Despite challenging trading conditions, the Group continued to make strong strategic progress during the financial year: We completed a series of agreements with Warner Bros. Entertainment, one of the world’s leading media companies. Under these arrangements, Warner Bros. has made a significant investment of £44m in the ordinary share capital of the Group and we have entered into a series of licensing arrangements with Warner Bros. to create and publish games based on a series of their properties – including Batman, Looney Tunes and the Hanna Barbera catalogue. These titles are now in production. The first of these titles will be released in 2008. We have grown our New Media division through the strategic acquisitions of Rockpool Games, Bluefish Media and Morpheme. These acquisitions increase our scale in online and mobile gaming and distribution.
We have invested £68.5m in new products and technologies to increase our product pipeline and improve the long-term efficiency of our studios. Importantly we have increased our focus on the highly successful Nintendo Wii and DS platforms with 10 titles to be released by Christmas 2007 and currently over 20 products for these platforms scheduled for the 2008 calendar year. We opened a new development studio in Montreal, demonstrating our commitment to expand our development resources in cost effective locations. Montreal is already benefiting from our strategy of technology sharing.
During the past three months we have also established an operating base in China to further our strategy of utilising cost effective outsourcing. During the year our recently established studio in Budapest enjoyed number one chart success with its first release Battlestations: Midway. A recent report from PWC’s Global Entertainment Outlook predicts the global video games market to grow from $26bn in 2005 to $45bn in 2010. We believe that through our investments and strategy we are well positioned to take full advantage of this growth.
Chief Executive’s statement
Our results for the year reflect the trading conditions experienced as a result of the transition from old platforms to next-generation platforms. Exceptionally high price protection charges and the changes to our release schedule resulted in revenues and EBITDA being below our original expectations. From an overall market perspective, the past twelve months have confirmed the changing ways in which people purchase and play games, the platforms on which they play them and a significant expansion of the age range and interest of game players.
It was a year which confirmed that the transition which is currently being experienced by the video games industry is much more than simply a console upgrade; it is an opportunity to introduce new games and gaming genres, develop games for previously untapped audiences, deliver games in new and innovative ways to the end consumer and expand business with better potential margins. To address this market backdrop over the past twelve months the company has made good progress in making sure we are well positioned to exploit the opportunities of being a global publisher of interactive entertainment software. We have increased our focus on Nintendo Wii and DS platforms.
We recently announced plans to release thirty new titles for these platforms by the end of the calendar year 2008. An example of our success on these platforms is Pony Friends, which was launched in May and illustrates our ability to create new franchises for Nintendo’s younger and broader audience. This product has shipped in excess of our original expectations and marks the beginning of another new franchise for the Group. We have today confirmed the release date of Kane and Lynch: Dead Men which will be in store from 20th November in the US and 23rd November in Europe. With the movie rights already optioned by Lionsgate Films, this is a hugely anticipated title which we believe will prove to be a multi-million unit franchise from our acclaimed studio Io Interactive, creators of Hitman.
Also eagerly anticipated are the Nintendo Wii and Xbox 360 versions of Tomb Raider Anniversary which are due for a pre-Christmas launch. Our commitment to invest in technology, expand our studios and New Media group and broaden our product portfolio – through both expanding our wholly owned original intellectual properties and building strategic partnerships with companies such as Warner Bros. – demonstrates our commitment to long-term growth and building shareholder value.
Results to 30 June 2007
Overview Total revenues for the year were £144.0m, down 20% compared to prior year. However, these revenues are stated after £14.5m of exceptionally large price protection charges and therefore on an adjusted basis, revenues were £158.5m, a decrease of 12% compared to 2006.
Just Cause, Tomb Raider Anniversary and Battlestations: Midway were the largest contributors to the results of our Publishing division. Tomb Raider Anniversary celebrated ten years of our world-leading franchise with a number one hit and one million units shipping on launch. We successfully launched new titles, Just Cause and Battlestations: Midway, and both became number one hits. Over one million units of Just Cause were shipped during the year. We launched Battlestations: Midway, a title developed by our Budapest studio, in February. Importantly, both titles are wholly owned properties, both properties have sequels in development and we believe both titles have the potential to be long-term franchises.
The largest contributor to distribution revenues was continued sales of Lego Star Wars. In addition, sales of Justice League Heroes, distributed by the Group on behalf of Warner Bros, were strong. SCi made a gross profit of £57.0m for the financial year which was 40% of revenue. This compares to a gross profit of £103.8m or 58% of revenue, in the prior year. The reduction in gross profit was due to a much higher proportion of distribution revenue, on which the Group earns lower margins, plus pricing pressure reflected in an exceptionally high charge for price protection.
Total development costs charged to the income statement for the year were £32.8m (2006 £28.1m). This represents 44% of revenue from published products, compared to 19% in the previous year. Total charges include an exceptional provision of £13.8m against capitalised development costs. This includes provision against our investment in certain PlayStation 3 products and technologies. The charge for other administrative overhead costs of £41.3m (2006 £47.8m) includes £15.3m (2006 £14.8m) of depreciation and amortisation charges and £2.2m (2006 £4.4m) of share based compensation. Therefore the underlying level of cash based overheads was £23.8m (2006 £28.6m). The underlying level of overhead expenditure has remained relatively constant. However, the Group has classified approximately £6m of costs including the cost of Quality Assurance as development rather than administration. After allowing for all exceptional costs plus non-cash amortisation charges loss before tax was £30.0m (2006: profit before tax £8.1m).
Our achievements
We remain focused on delivering solid, long-term, shareholder value through growing our player base, improving our customer offerings, investing in intellectual properties and broadening our product base. We believe financial year 2007 can be summarised as a year in which we made good progress against these objectives and is a year in which we made important strategic investments. Our success with Pony Friends on Nintendo’s handheld DS device illustrates our ability to create new franchises for a younger and broader audience.
Following the release in May in Europe and June in North America, Pony Friends had shipped 0.3 million units by the financial year-end, ahead of original expectations, and has continued to sell extremely well post year end establishing another wholly owned original intellectual property. Nintendo’s Wii and DS platforms have revolutionised gaming with their innovative and simple approach to entertaining. Designed for a pick-up-and-play gamer the success of these platforms has opened up our market to new audiences.
The creation in 2007 of our dedicated Casual Games division enables us to focus on driving growth from this consumer trend. A version of Pony Friends for the Nintendo Wii is planned and the Group has 10 further titles for the Nintendo platforms scheduled for release by Christmas 2007 and currently over 20 products for Nintendo DS and Wii for the 2008 calendar year.
Our New Media group’s acquisitions this year of Rockpool Games, Bluefish Media and Morpheme demonstrates our belief that online connectivity and mobile games represents a significant opportunity to grow our revenue streams over the next cycle. We believe that the growth and success of broadband and mobile infrastructures will present many opportunities including extending the life span of our products, enabling us to offer new content and sell to consumers through online micro-transactions and extending and continuing our game-play across different devices. Battlestations: Midway and Just Cause utilised the online capability of Microsoft’s Xbox Live Marketplace to good effect in 2007; Battlestations: Midway generated over 1 million downloads of additional online content from the demo, wallpapers and videos and the Just Cause single player game-demo generated over 800,000 downloads itself. We have invested across our core business in 2007. We have continued to expand our internal development capabilities with the opening of a studio in Montreal and invested further in technology to keep us at the cutting edge of next-generation game development. Today our development processes are benefiting from a backbone of shared technologies, engines and game assets which we will look to further enhance over the coming year.
Over the year our in house development resource is over 600 employees and we expect to continue to build our studios in terms of size and skills, especially in locations that allow us to keep development costs low. We have invested significantly in the 2008 and future pipeline of products and we are looking forward with much anticipation to the sequels to Just Cause and Battlestations: Midway, which are already in development – and new versions of world-leading franchises Tomb Raider and Hitman. We will also be launching brand new IP into the market in the shape of Kane and Lynch: Dead Men, which is generating a considerable amount of press interest prior to November launch. Our distribution business provides a low-risk, profitable source of revenue that makes most effective use of our global sales and distribution infrastructure.
Over the year we secured agreements with numerous companies to distribute strong third-party product including Justice League Heroes from Warner Bros., Bionicle Heroes from Travellers Tales and through Proein, our 100% owned Spanish subsidiary, Final Fantasy XII from Square Enix. We created some winning partnerships with world leading media groups. In early 2007, production began on the new Hitman film from 20th Century Fox, starring Timothy Olyphant and Dougray Scott, this was shot on location in Europe and is currently scheduled for a worldwide theatrical release this Autumn.
Our Priorities and Outlook
The investment in our business over the past twelve months gives us a strong product pipeline for financial year 2008 and well into 2010. Our publishing business is planning 13 core game new releases on over 34 SKU in the next 12 months compared to 10 core game new releases in FY07. We are also scheduled to more than double the number of games launched by our New Media and Casual Games groups. Over the next year we believe we will see further expansion of our target audiences and really see the power of next-generation platforms. Therefore our future priorities are set clearly on establishing our new games firmly in the market place and appealing to this expanding demographic across a broader platform base. We will also continue to build on our existing franchises of 13 intellectual properties which have sold over 1 million units each, including the Tomb Raider franchise which has now sold over 32 million units and whose story line and game innovation continues to evolve.
