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Article by DailyStocks_admin    (11-14-08 06:26 AM)

Electronic Arts Inc. CEO JOHN RICCITIELLO bought 42500 shares on 11-04-2008 at $24.5

BUSINESS OVERVIEW

Business

Overview

Electronic Arts develops, markets, publishes and distributes video game software and content that can be played by consumers on a variety of platforms, including:


• Video game consoles such as the Sony PlayStation ® 2 and PLAYSTATION ® 3, Microsoft Xbox 360 tm and Nintendo Wii tm ,

• Personal computers, including the Macintosh (we refer to personal computers and the Macintosh together as “PCs”),

• Handheld game players such as the PlayStation ® Portable (“PSP tm ”) and Nintendo DS tm and iPod ® , and

• Cellular handsets.

In fiscal 2008, excluding cell phones, we developed or published products for 10 different platforms and since our inception, we have published games for over 50 different platforms. In fiscal 2008 we also published over 30 games for cellular handsets.

We also provide online game-related services ( e.g. , matchmaking and subscription services) for these platforms.

We generate net revenue primarily from sales of packaged goods, online subscriptions, online and mobile downloads, micro-transactions, and advertising.

Our ability to publish games across multiple platforms has been, and will continue to be, a cornerstone of our product strategy. Historically, there have been multiple video game consoles and handheld game players available to consumers, and there has been vigorous competition among hardware manufacturers. In previous hardware cycles, Sony’s PlayStation and PlayStation 2 consoles have significantly outsold their competitors. The current hardware cycle is characterized by fierce competition from three strong and viable competitors — Microsoft’s Xbox 360, the Nintendo Wii and Sony’s PLAYSTATION 3. In fiscal 2008, we developed and published 20 titles for the Xbox 360, 17 titles for the PLAYSTATION 3, 15 titles for the PlayStation 2, 14 titles for the Wii, two titles for the Xbox and one title for the Nintendo GameCube. The PC also continues to be an important interactive game platform. In fiscal 2008, we published 29 titles for the PC (including the Macintosh). Similarly, there is also competition in the handheld games hardware business, where the Nintendo DS and Sony’s PSP are both viable platforms. In fiscal 2008, we published 12 titles for the Nintendo DS, nine titles for the PSP and one title for the Game Boy Advance. Many of our PC, PlayStation 2, PLAYSTATION 3, Wii, Xbox 360, Xbox and PSP titles include online functionality which enables consumers to participate in online communities and play against one another via the Internet.

Our games span a diverse range of categories, including action-adventure, casual, sports, family, fantasy, racing, music, role-playing, simulation, extreme sports and strategy. We have created, licensed and acquired a strong portfolio of intellectual property, which we market and sell to a variety of consumers. Our portfolio of wholly-owned properties includes established brands such as Need for Speed tm , The Sims tm and Battlefield, and games scheduled to debut in fiscal 2009 such as Spore tm , Mirror’s Edge tm and Dead Space tm . Our portfolio of games based on licensed intellectual property includes sports-based titles such as Madden NFL Football, FIFA Soccer and Tiger Woods PGA Tour ® , and titles based on popular culture such as Harry Potter, The Godfather ® , and the yet-to-be released Warhammer ® Online . Through our EA Partners business, we also co-develop, co-publish and distribute video games that are developed and published by other companies, including the MTV Games/Harmonix game Rock Band . Beginning in fiscal 2009, we also expect to release video games based on board games and toys from Hasbro, including NERF, MONOPOLY and TRIVIAL PURSUIT .

Another cornerstone of our strategy is to publish products that can be iterated, or sequeled. For example, many of our sports products, such as Madden NFL Football, come out in a new edition each year. Other products, such as The Sims and Godfather, can be sequeled on a less-frequent basis. We refer to these successful, iterated product families as “franchises”.

We develop our games using both internal and external resources. We have development studios and related functions located worldwide, such as BioWare (Canada and United States), Black Box (Canada), Blueprint (United States), Bright Light (United Kingdom), Criterion (United Kingdom), DICE (Sweden), EA Canada, EA India, EA Los Angeles (United States), EA Montreal (Canada), EA Redwood Shores (United States), EA Romania, EA Salt Lake City (United States), Mythic Entertainment (United States), Pogo (United States and China), Pandemic (United States and Australia), Phenomic (Germany), The Sims (United States) and Tiburon (United States). We also have quality and assurance functions located in several countries such as China, India, Korea, Singapore and Spain and localization functions located in several countries such as France, Germany, Italy, Japan, Romania and Spain. We also engage third-parties to assist with the development of our games at their own development and production studios.

Our global sales network allows us to market, publish and distribute games in over 35 countries throughout the world. In North America, we generate a significant portion of our net revenue from direct sales to retailers. Outside of North America, we generate net revenue primarily from direct-to-retail sales although, in some of our smaller territories, we also work with third parties to distribute our games. Our games are also available via online stores, including our own online store, and via direct digital download from our website. We also market and distribute games and other content for cellular handsets through wireless carriers.

In fiscal 2008, sales of Rock Band , distributed for three platforms, represented approximately 10 percent of our total net revenue. In fiscal 2007, we had two titles, Need for Speed Carbon and Madden NFL 07 , published on 10 platforms, each of which represented approximately 11 percent of our total net revenue. In fiscal 2006, we had one title, Need for Speed Most Wanted , published on eight platforms, which represented approximately 10 percent of our total net revenue.

We were initially incorporated in California in 1982. In September 1991, we reincorporated under the laws of Delaware. Our principal executive offices are located at 209 Redwood Shores Parkway, Redwood City, California 94065 and our telephone number is (650) 628-1500.

Significant Business Developments in Fiscal 2008

Label Reorganization

As described in more detail below, in fiscal 2008, we reorganized our business into four operating “labels” — EA Games, EA SPORTS, The Sims and EA Casual Entertainment — and an additional group that works closely with the labels — Global Publishing, which operates in three regions, North America, Europe and Asia. Acquisition of Bioware and Pandemic Studios

In January 2008, we acquired VG Holding Corp. (“VGH”), owner of both BioWare Corp. and Pandemic Studios, LLC, game development studios that create action-adventure and role-playing games, such as Mass Effect tm (BioWare) and Mercenaries tm (Pandemic). BioWare has development studios in Edmonton, Canada and Austin, Texas and Pandemic Studios are located in Los Angeles, California and Brisbane, Australia.

Transition to New Video Game Consoles

The video game software industry is cyclical, driven by video game hardware systems, which have historically had a life cycle of four to six years. The current cycle began with Microsoft’s launch of the Xbox 360 in 2005, and continued in 2006 when Sony and Nintendo launched their next-generation systems, the PLAYSTATION 3 and the Wii, respectively. During fiscal 2008, the installed base of each of these systems continued to expand and, as a result, sales of our products for these systems have also increased significantly. At the same time, however, demand for video games for prior-generation systems, particularly the original Xbox and the Nintendo GameCube, has declined. Given its significant installed base and ongoing popularity outside of North America, we expect to continue developing and marketing new titles for the PlayStation 2 in fiscal 2009. We only expect to release one title for the original Xbox and no titles for the Nintendo GameCube in fiscal 2009. The new systems are more complex than their predecessors ( e.g. , some use multi-processor technology, new and unique game controllers, online gameplay functionality and high definition video capabilities) and development costs have been greater on a per-title basis than development costs for prior-generation video game systems.

Proposed Acquisition of Take-Two Interactive Software

In the fourth quarter of fiscal 2008, we announced a proposal to acquire all of the issued and outstanding shares of common stock of Take-Two Interactive Software, Inc. (“Take-Two”), for a total purchase price of approximately $2.1 billion (including fees and expenses). Take-Two’s Board of Directors has stated that our offer undervalues the company and is not in the best interests of stockholders. If we were to acquire Take-Two, we expect the acquisition would have a material impact on our future financial position and results of operations and cash flows. Although the offer is not conditional upon any financing arrangements, our Board of Directors has authorized us to obtain additional financing, a portion of which may be used in part to fund the acquisition. There can be no assurance that we will acquire Take-Two.

Our Operating Structure

Following our fiscal 2008 reorganization, our business is organized around four operating labels — EA Games, EA SPORTS, The Sims and EA Casual Entertainment — and an additional group that works closely with the labels — Global Publishing. Each label is structured to operate globally and includes several key functions including development studios, product marketing, and planning for products and services. Global Publishing operates in three regions, North America, Europe and Asia. Global Publishing works in partnership with the labels and is responsible for strategic planning, field marketing, sales, distribution, operations, product certification, quality assurance, motion capture, art outsourcing and localization within the local markets in which we operate.

In fiscal 2008, we generated approximately 55 percent of our net revenue from games developed by our studios that were initially released during the year, as compared to approximately 65 percent in fiscal 2007. Excluding titles developed for cellular handsets, during fiscal 2008 we released 34 titles developed by our studios compared to 32 titles in fiscal 2007. For the fiscal years ended March 31, 2008, 2007 and 2006, research and development expenses were $1,145 million, $1,041 million and $758 million, respectively.

EA Games Label

The EA Games label is home to the largest number of our studios and development teams, which together create an expansive and diverse portfolio of games, such as action-adventure, role playing, racing and combat games, marketed under the EA brand. In addition to traditional packaged-goods games, EA Games also develops massively-multiplayer online role-playing games which are persistent state virtual worlds where thousands of other players can interact with one another. For example, we expect to launch Warhammer Online in the coming fiscal year. The EA Games portfolio includes several established franchises such as Need for Speed, Battlefield, Mercenaries and Burnout. In addition, EA Games has recently launched new franchises including SKATE and Army of Two, and has additional titles in development. EA Games titles are developed primarily at the following EA studios: Bioware (located in Edmonton, Canada and Austin, Texas), Black Box (located in Vancouver, Canada), Criterion (located in Guildford, England), DICE (located in Stockholm, Sweden), EA Los Angeles, EA Montreal, EA Redwood Shores, Maxis (located in Emeryville, California), EA Mythic (located in Fairfax, Virginia), Pandemic Studios (located in Los Angeles, California and Brisbane, Australia) and Phenomic (located in Ingelheim, Germany).

EA Games also includes the EA Partners group, which teams with external game developers and third party companies, to provide these partners with a variety of services including development, publishing, and distribution. For example, in fiscal 2008, through a co-publishing agreement with Crytek, we released Crysis ® on the PC, and we signed a distribution agreement with Harmonix, a subsidiary of Viacom, to distribute Rock Band .

EA SPORTS Label

The EA SPORTS label brings together a wide collection of sports-based video games marketed under the EA SPORTS brand. EA SPORTS games range from simulated sports titles with realistic graphics based on real-world sports leagues, players, events and venues to more casual games with arcade-style gameplay and graphics. We seek to release new iterations of many of our EA SPORTS titles on a regular basis (often annually), in connection with the commencement of a sports league’s season or a major sporting event when appropriate. Our EA SPORTS franchises include FIFA Soccer, Madden NFL Football, Fight Night, NBA Live, NCAA Football, NCAA March Madness, Tiger Woods PGA Tour, NHL Hockey, Nascar and Rugby. EA SPORTS games are developed primarily at our EA Canada (located in Vancouver, British Columbia) and EA Tiburon studios (located in Orlando, Florida), and, to a lesser extent, use several development studios highlighted in the EA Games label description above.

In addition to packaged goods games, the EA SPORTS label offers online-only games and entertainment. In Korea, EA SPORTS currently offers EA SPORTS FIFA Online , a free-to-play online game in which players may purchase additional in-game content from us (we refer to these consumer purchases of small elements of additional content as “micro-transactions”). We expect to introduce other online games under the EA SPORTS brand in the future. In fiscal 2009, EA SPORTS will also seek to increase its global presence through the introduction of new web-based communities centered on our portfolio of sports games.

The Sims Label

The Sims label develops and markets life-simulation games and online communities with an emphasis on creativity, community and humor.

The Sims has sold over 100 million units world-wide since it was originally launched in 2000. A significant factor in its success has been the regular introduction of expansion packs with new content and gameplay features that can be purchased and used in connection with our core products, The Sims and The Sims 2 . In fiscal 2008, The Sims label launched two expansion packs for The Sims 2 .

In addition to our expansion packs, The Sims label also launched several console products in fiscal 2008, most notably MySims tm — a newly created franchise for the Wii and Nintendo DS — and The Sims 2 Castaway on the Wii, Nintendo DS, PlayStation 2 and PSP.

The Sims 2 online community has 4 million unique visitors monthly, with localized communities in 15 countries. The centerpiece of this community is the user exchange, where users can download both EA and user-created content for use in their The Sims 2 core game. To date, there have been over 60 million downloads of content from The Sims 2 exchange.

The Sims label offers a variety of other online communities including The Sims On Stage — a creative community featuring karaoke, comedy, poetry, and movie mashups.

EA Casual Entertainment Label

The EA Casual Entertainment label is focused on creating compelling casual games for a mass audience of core and non-core gamers alike. Casual games are intended to be easily accessible, requiring a minimum time commitment to learn, play and enjoy. EA Casual Entertainment is responsible for a broad portfolio of games designed for consoles, handhelds and PCs (including Pogo.com , our online casual games and community website), as well as cellular phones (through EA Mobile).

Pogo tm . Through our Pogo online service, we offer casual games such as card games, puzzle games and word games. We had over 1.6 million paying Club Pogo subscribers as of March 31, 2008, up from 1.5 million paying subscribers as of March 31, 2007. In addition to paid subscriptions, Pogo also generates revenue through online advertising and sales of digital content. We are continuing to expand our Pogo offerings in Europe.

EA Mobile. Through EA Mobile, we are a leading global publisher of games and other content (ringtones, images, etc.) for cellular handsets. Our customers typically purchase and download our games through a wireless carrier’s branded e-commerce service accessed directly from their cellular handsets.

We engage third parties to develop games for cellular handsets on our behalf at their own development and production studios and, to a lesser extent, we develop cellular handset games internally at our development and production studios located in the United States, Canada, the United Kingdom, Romania and India. In fiscal 2008, we released over 30 games for cellular handsets.

Many of our EA Mobile games are designed to take advantage of multimedia enhancements in the latest generation of cellular handsets, including high-resolution color displays, increased processing power, improved audio capabilities and increased memory capabilities. We publish games in multiple categories designed to appeal to a broad range of wireless subscribers.

Hasbro. In August 2007, we entered into a strategic relationship with Hasbro through which we can create digital games based upon a significant number of Hasbro’s classic board games and toys, including MONOPOLY , SCRABBLE (North America only), YAHTZEE, TRIVIAL PURSUIT, NERF, G.I. JOE, and LITTLEST PET SHOP . We intend to develop Hasbro’s properties into video games for children, families and casual gamers and to publish them across a variety of platforms including cellular handsets, handhelds, PCs and consoles.

Console, Handheld and PC Games. EA Casual Entertainment works with third party developers and oversees internal studios and development teams located in Los Angeles, Montreal, Salt Lake City and the United Kingdom that are responsible for console, handheld and PC games geared primarily towards children, families, and other casual gamers. In fiscal 2008, these games included Harry Potter and the Order of the Phoenix tm , Boogie tm , and Smarty Pants tm . For fiscal 2009, EA Casual is releasing a number of new titles, including Harry Potter and the Half-Blood Prince tm , Boom Blox tm , and ZUBO tm as well as several new titles based on well-known Hasbro games and toys.

Global Publishing Organization

Our Global Publishing Organization operates in three regions, North America, Europe and Asia. These organizations work closely with each label to publish ( i.e., market, sell and distribute) our products (other than EA Mobile games).

Our North America publishing organization is headquartered in Redwood City, California. We have local offices in several states including California, Washington and New York, among others. We also have a distribution center in Kentucky. North America net revenue increased by 17 percent to $1.942 billion, or 53 percent of total net revenue in fiscal 2008, as compared to $1.666 billion, or 54 percent of total net revenue in fiscal 2007.

Internationally, we conduct business and have wholly-owned subsidiaries throughout the world, including offices in Europe, Australia, Asia and Latin America. International net revenue increased by 21 percent to $1.723 billion, or 47 percent of total net revenue in fiscal 2008, compared to $1.425 billion, or 46 percent of total net revenue in fiscal 2007.

Our international and European regional publishing organization headquarters is located in Geneva, Switzerland. We have local offices in several European countries including England, France and Germany, among others. We also have European distribution centers in the Netherlands and elsewhere in Europe.

We also have a regional publishing headquarters located in Singapore. We have local offices in several Asia Pacific countries including Australia, Japan and New Zealand.

The amounts of net revenue and long-lived assets attributable to each of our geographic regions for each of the last three fiscal years are set forth in Note 18 of the Notes to Consolidated Financial Statements, included in Item 8 of this report.

The console, PC and handheld games that we publish are made available to consumers as packaged goods (usually in Blu-ray Disc, CD, DVD, cartridge or Universal Media Disc format) that are typically sold in retail stores and through online stores (including our own online store). In North America and Europe, our largest markets, we sell these packaged goods products primarily to retailers, including mass market retailers (such as Wal-Mart), electronics specialty stores (such as Best Buy) or game software specialty stores (such as GameStop). Many of our PC products and related content (such as booster packs, expansion packs and smaller pieces of game content) can also be purchased over the Internet through digital download.

Our global sales network allows us to market, publish and distribute games for all labels in over 35 countries throughout the world. We generated approximately 95 percent of our North American net revenue from direct sales to retailers in fiscal 2008, with the remaining net revenue being generated through a limited number of specialized and regional distributors and rack jobbers in markets where we believe direct sales would not be economical. Outside of North America, we derive revenue primarily from direct sales to retailers. In a few of our smaller markets, we sell our products through distributors with whom we have agreements. We also distribute products of other companies through our rack jobbing business in Switzerland. We had direct sales to GameStop Corp. which represented approximately 13 percent and 12 percent of total net revenue in fiscal 2008 and 2007, respectively. We also had direct sales to Wal-Mart Stores, Inc. which represented approximately 12 percent of total net revenue in fiscal 2008 and 13 percent of total net revenue in both fiscal 2007 and 2006, respectively.

Marketing activities conducted by the Global Publishing Organization primarily focus on television and online advertising, but also include print advertising, retail merchandising, website development, event sponsorship, and trade shows.

Our Central Development Services group, which is part of our Global Publishing Organization, provides development services to our labels, such as product localization, quality assurance and certification, motion capture, art outsourcing and media mastering. Each service is essential to the development and publishing of our games. By grouping these services together within a single, centralized organization, we expect to achieve cost savings through greater scale and efficiency, while improving the overall quality of our games by providing more sophisticated and robust services than any of our labels could sustain on its own. Key components of Central Development Services’ strategy are outsourcing to third parties and moving work offshore to lower-cost markets.


CEO BACKGROUND

Mr. Riccitiello has served as Chief Executive Officer and a Director of Electronic Arts since April 2007. Prior to re-joining Electronic Arts, he was a co-founder and Managing Partner at Elevation Partners, a private equity fund. From October 1997 to April 2004, he served as President and Chief Operating Officer of Electronic Arts. Prior to joining Electronic Arts, Mr. Riccitiello served as President and Chief Executive Officer of the worldwide bakery division at Sara Lee Corporation. Before joining Sara Lee, he served as President and CEO of Wilson Sporting Goods Co. and has also held executive management positions at Haagen-Dazs, PepsiCo, Inc. and The Clorox Company. Mr. Riccitiello holds a B.S. degree from the University of California, Berkeley.

Mr. Brown has served as Executive Vice President, Chief Financial Officer since April 2008. Prior to re-joining Electronic Arts, he served as Chief Operating Officer and Chief Financial Officer of McAfee, Inc., a security technology company from March 2006 until March 2008. From January 2005 until March 2006, Mr. Brown was McAfee’s Executive Vice President and Chief Financial Officer. Mr. Brown served as President and Chief Financial Officer of MicroStrategy Incorporated, a business intelligence software provider, from 2000 until 2004. From October 1998 until February 2000, Mr. Brown served as Chief Financial Officer of one of EA’s business units and then Chief Operating Officer of EA’s studio organization in Redwood City, CA. Prior to that time, Mr. Brown was co-founder and Chief Financial Officer of DataSage, Inc. Mr. Brown also held several senior financial positions with Grand Metropolitan from 1990 until 1995. Mr. Brown received an M.B.A. from the Sloan School of Management of the Massachusetts Institute of Technology and a B.S. in Chemistry from the Massachusetts Institute of Technology.

Mr. Gibeau was named President, EA Games Label in June 2007. Prior to that time, he had served as Executive Vice President, General Manager, North America Publishing beginning in September 2005. From 2002 until September 2005, he was Senior Vice President of North American Marketing. Mr. Gibeau has held various publishing positions since joining the company in 1991. Mr. Gibeau holds a B.S. degree from the University of Southern California and an M.B.A. from Santa Clara University.

Mr. Moore was named President, EA Sports, in September 2007. From January 2003 until he joined Electronic Arts, Mr. Moore was with Microsoft where he served as head of Xbox marketing and was later named as Corporate Vice President, Interactive Entertainment Business, Entertainment and Devices Division, a position in which he led both the Xbox and Games for Windows businesses. Prior to joining Microsoft, Mr. Moore was president and Chief Operating Officer of SEGA of America, where he was responsible for overseeing SEGA’s video game business in North America. Before joining SEGA, Mr. Moore was Senior Vice President of Marketing at Reebok International Ltd. Mr. Moore holds a bachelor’s degree from Keele University, United Kingdom, and a master’s degree from California State University, Long Beach.

Mr. Pleasants was named President, Global Publishing and Chief Operating Officer in March 2008. Prior to joining EA, Mr. Pleasants was an investor in, and served as an advisor to, various privately-held companies. From September 2005 until June 2007, Mr. Pleasants served as President and Chief Executive Officer of Revolution Health Group, a comprehensive consumer-directed healthcare company. From November 1996 until September 2005, Mr. Pleasants held various senior positions at IAC/InterActiveCorp, including, most recently, President and Chief Executive Officer of Ticketmaster (a division of IAC). Mr. Pleasants holds a B.A. in political science from Yale University and an M.B.A. from Harvard Business School.

Ms. Smith was named President, The Sims in June 2007. From September 2005 until June 2007, Ms. Smith was Executive Vice President, General Manager, The Sims Franchise. From March 1998 until September 2005, she served as Executive Vice President and General Manager, North American Publishing. From October 1996 to March 1998, Ms. Smith served as Executive Vice President, North American Sales. She previously held the position of Senior Vice President of North American Sales and Distribution from July 1993 to October 1996 and as Vice President of Sales from 1988 to 1993. Ms. Smith has also served as Western Regional Sales Manager and National Sales Manager since she joined Electronic Arts in 1984. Ms. Smith holds a B.S. degree in management and organizational behavior from the University of San Francisco.

Ms. Vrabeck was named President, EA Casual Entertainment in May 2007. Prior to joining Electronic Arts, from August 1999 until April 2006, Ms. Vrabeck held various positions at Activision, Inc., an interactive entertainment company, including President of Activision Publishing, Executive Vice President, Global Publishing and Brand Management, and Executive Vice President, Global Brand Management. Following her departure from Activision, Ms. Vrabeck served as a consultant with various companies, including EA. Prior to joining Activision, Ms. Vrabeck was Senior Vice President/General Manager with ConAgra Foods, Inc., and also served in various marketing and sales roles for the Pillsbury Company and held positions at Quaker Oats Company and Eli Lilly & Company. Ms. Vrabeck serves on the Board of Trustees at DePauw University. Ms. Vrabeck received a B.A. degree from DePauw University and an M.B.A. degree from Indiana University.

Dr. Florin has served as Executive Vice President, Publishing — Americas and Europe since August 2007. From June 2007 until August 2007, Dr. Florin served as Executive Vice President, Global Publishing. From September 2005 until June 2007, Dr. Florin served as Executive Vice President, International Publishing, and from April 2003 until September 2005, he served as Senior Vice President and Managing Director, European Publishing. From 2001 until September 2005, he served as Vice President, Managing Director for European countries. From the time he joined EA in 1996 until 2001, Dr. Florin was the Managing Director for German speaking countries. Prior to joining EA, Dr. Florin held various positions at BMG, the global music division of Bertelsmann AG, and worked as a consultant with McKinsey. Dr. Florin holds Masters and Ph.D. degrees in Economics from the University of Augsburg, Germany.

Mr. Linzner has served as Executive Vice President, Business and Legal Affairs since March 2005. From April 2004 to March 2005, he served as Senior Vice President, Business and Legal Affairs. From October 2002 to April 2004, Mr. Linzner held the position of Senior Vice President of Worldwide Business Affairs and from July 1999 to October 2002, he held the position of Vice President of Worldwide Business Affairs. Prior to joining Electronic Arts in July 1999, Mr. Linzner served as outside litigation counsel to Electronic Arts and several other companies in the video game industry. Mr. Linzner earned his J.D. from Boalt Hall at the University of California, Berkeley, after graduating from Brandeis University. He is a member of the Bar of the State of California and is admitted to practice in the United States Supreme Court, the Ninth Circuit Court of Appeals and several United States District Courts.

Ms. Toledano has served as Executive Vice President, Human Resources since April 2007. From February 2006 to April 2007, Ms. Toledano held the position of Senior Vice President, Human Resources. Prior to joining Electronic Arts, Ms. Toledano worked at Siebel Systems, Inc. from July 2002 to February 2006 where she held a number of positions, including Senior Vice President of Human Resources. From September 2000 to June 2002, she served as Senior Director of Human Resources for Microsoft Corporation, and from September 1998 until September 2000, she served as Director of Human Resources and Recruiting for Microsoft. Ms. Toledano earned both her undergraduate degree in Humanities and her graduate degree in Education from Stanford University.

Mr. Barker has served as Senior Vice President, Chief Accounting Officer since April 2006. From June 2003 to April 2006, Mr. Barker held the position of Vice President, Chief Accounting Officer. Prior to joining Electronic Arts, Mr. Barker was employed at Sun Microsystems, Inc., as Vice President and Corporate Controller from October 2002 to June 2003 and Assistant Corporate Controller from April 2000 to September 2002. Prior to that, he was an audit partner at Deloitte. Mr. Barker graduated from the University of Notre Dame with a B.A. degree in Accounting.

Mr. Bené has served as Senior Vice President, General Counsel and Corporate Secretary since October 2004. From April 2004 to October 2004, Mr. Bené held the position of Vice President, Acting General Counsel and Corporate Secretary, and from June 2003 to April 2004, he held the position of Vice President and Associate General Counsel. Prior to June 2003, Mr. Bené had served as internal legal counsel since joining EA in March 1995. Mr. Bené earned his J.D. from Stanford Law School, and received his B.S. in Mechanical Engineering from Rice University. Mr. Bené is a member of the Bar of the State of California.

MANAGEMENT DISCUSSION FROM LATEST 10K

OVERVIEW

The following overview is a top-level discussion of our operating results as well as some of the trends and drivers that affect our business. Management believes that an understanding of these trends and drivers is important in order to understand our results for the fiscal year ended March 31, 2008, as well as our future prospects. This summary is not intended to be exhaustive, nor is it intended to be a substitute for the detailed discussion and analysis provided elsewhere in this Form 10-K, including in the “Business” section and the “Risk Factors” above, the remainder of “Management’s Discussion and Analysis of Financial Condition and Results of Operations”, or the Consolidated Financial Statements and related notes.

About Electronic Arts

We develop, market, publish and distribute video game software and content that can be played by consumers on a variety of platforms, including video game consoles (such as the Sony PlayStation ® 2 and PLAYSTATION ® 3, Microsoft Xbox 360 tm and Nintendo Wii tm ), personal computers, handheld game players (such as the PlayStation ® Portable (“PSP tm ”) and the Nintendo DS tm ) and cellular handsets. Some of our games are based on content that we license from others ( e.g. , Madden NFL Football, Harry Potter and FIFA Soccer), and some of our games are based on our own wholly-owned intellectual property ( e.g. , The Sims tm , Need for Speed tm and POGO tm ). Our goal is to publish titles with global mass-market appeal, which often means translating and localizing them for sale in non-English speaking countries. In addition, we also attempt to create software game “franchises” that allow us to publish new titles on a recurring basis that are based on the same property. Examples of this franchise approach are the annual iterations of our sports-based products ( e.g. , Madden NFL Football, NCAA ® Football and FIFA Soccer), wholly-owned properties that can be successfully sequeled ( e.g. , The Sims, Need for Speed and Battlefield) and titles based on long-lived literary and/or movie properties ( e.g. , Lord of the Rings and Harry Potter).

Special Note Regarding Deferred Net Revenue

The ubiquity of high-speed Internet access and the integration of network connectivity into new generation game consoles are expected to continue to increase demand for games with online-enabled features. To address this demand, many of our software products are developed with the ability to be connected to, and played via, the Internet. In order for consumers to participate in online communities and play against one another via the Internet, we (either directly or through outsourced arrangements with third parties) maintain servers which support an online service we offer to consumers for activities such as matchmaking. In situations where we do not separately sell this online service, we account for the sale of the software product as a “bundle” sale, or multiple element arrangement, in which we sell both the software product and the online service for one combined price.

Through fiscal 2007, for accounting purposes, vendor-specific objective evidence of fair value (“VSOE”) existed for the online service. Accordingly, we allocated the revenue collected from the sale of the software product between the online service offered and the software product and recognized the amounts allocated to each element separately. However, starting in fiscal 2008, for accounting purposes, the required vendor-specific objective evidence of fair value did not exist for the online service related to certain of our online-enabled software products. This prevented us from allocating and separately recognizing revenue related to the software product and the online service. Accordingly, starting in fiscal 2008, we began to recognize all of the revenue from the sale of our online-enabled software products for the PC, PlayStation 2, PLAYSTATION 3, Wii and the PSP on a deferred basis over an estimated online service period, which we estimate to be six months beginning in the month after shipment. On a quarterly basis, the deferral amount will vary significantly depending upon the number of titles we release, the timing of their release, sales volume, returns and price protection provided for these online-enabled software products. In addition, we expense the cost of goods sold related to these transactions during the period in which the product is delivered (rather than on a deferred basis), which inherently creates volatility in our reported gross margin percentages.

As of March 31, 2008, we had an accumulated balance of $387 million of deferred net revenue related to online-enabled packaged goods and digital content, substantially all of which was driven by sales made during the six months ended March 31, 2008. As of March 31, 2007, we had an accumulated balance of $32 million of deferred net revenue related to online-enabled packaged goods and digital content.

Financial Results

Total net revenue for the fiscal year ended March 31, 2008 was $3.665 billion, up 19 percent as compared to the fiscal year ended March 31, 2007. The impact of deferrals related to packaged goods and digital content for the fiscal year ended March 31, 2008 decreased our reported net revenue and operating income by $355 million. Net revenue was driven by sales of Rock Band, Madden NFL 08 , FIFA 08 , Need for Speed ProStreet, and The Simpsons tm Game.

Net loss for the fiscal year ended March 31, 2008 was $454 million as compared to net income of $76 million for the fiscal year ended March 31, 2007. Diluted loss per share for the fiscal year ended March 31, 2008 was $1.45 as compared to diluted income per share of $0.24 for the fiscal year ended March 31, 2007. Net income decreased during fiscal 2008 as compared to fiscal 2007 primarily due to (1) an increase in cost of goods sold of $593 million, (2) an increase in sales of online-enabled titles for which we were unable to establish VSOE that resulted in the net deferral of $355 million of net revenue out of fiscal 2008 and into future periods, (3) an increase of $135 million in acquired in-process technology primarily due to our acquisition of VG Holding Corp., (4) losses on strategic investments of $118 million, (5) an increase of $108 million in personnel-related costs, (6) an increase of $90 million in marketing, advertising and promotional expenses primarily to support our launch of new franchises and incremental spending on recurring franchises, and (7) an increase of $88 million in restructuring charges primarily as a result of our fiscal 2008 reorganization. These items were partially offset by (1) an increase in $574 million in net revenue and (2) $119 million lower income tax expense.

We generated $338 million of cash from operating activities during the year ended March 31, 2008, as compared to $397 million for fiscal 2007. The decrease in cash provided by operating activities for fiscal 2008 as compared to fiscal 2007 was primarily due to (1) an increase in operating expenses paid resulting from an increase in advertising and marketing costs, external development expenses and personnel-related expenses, and (2) a $90 million increase in incentive-based cash compensation paid in fiscal 2008 which were earned with respect to fiscal 2007 performance. These decreases were significantly offset by higher net revenue collected during fiscal 2008 as compared to fiscal 2007.

Management’s Overview of Historical and Prospective Business Trends

Fiscal 2008 Reorganization. In fiscal 2008, we reorganized our business into four operating “labels” — EA Games, EA SPORTS, The Sims and EA Casual Entertainment — and an additional group that works closely with the labels — Global Publishing. Each label is structured to operate globally and includes several key functions including development studios, product marketing, and planning for products and services. Global Publishing operates in three regions, North America, Europe and Asia, and is responsible for strategic planning, field marketing, sales, distribution, operations, product certification, quality assurance, motion capture, art outsourcing and localization.

In October 2007, our Board of Directors approved a plan of reorganization (“fiscal 2008 reorganization plan”). Since the inception of the fiscal 2008 reorganization plan through March 31, 2008, we incurred charges associated with (1) the closure of our Chertsey, England and Chicago, Illinois facilities, which included asset impairment and lease termination costs, (2) employee-related expenses, and (3) other costs including other contract terminations as well as IT and consulting costs to assist in the reorganization of our business support functions. During the fourth quarter of fiscal 2008, we completed the closure of our Chertsey facility and consolidated our local operations and employees into our Guildford, England facility. Over the next 18 months, we expect to continue to incur IT and consulting costs to assist in the reorganization of our business support functions.

Including charges incurred through March 31, 2008, we expect to incur cash and non-cash charges between $115 million and $125 million by fiscal 2010 related to our fiscal 2008 reorganization plan. These charges will consist primarily of employee-related costs (approximately $10 million in cash charges), facility exit costs (approximately $60 million in cash and non-cash charges), as well as other reorganization costs including other contract terminations and IT and consulting costs to assist in the reorganization of our business support functions (approximately $50 million in cash and non-cash charges).

Transition to a New Generation of Consoles. Video game hardware systems have historically had a life cycle of four to six years, which causes the video game software market to be cyclical as well. The current cycle began with Microsoft’s launch of the Xbox 360 in 2005, and continued in 2006 when Sony and Nintendo launched their next-generation systems, the PLAYSTATION 3 and the Wii, respectively. During fiscal 2008, the installed base of each of these systems continued to expand and, as a result, sales of our products for these systems have also increased significantly. At the same time, however, demand for video games for prior-generation systems, particularly the original Xbox and the Nintendo GameCube, has declined significantly. Although we expect to continue developing and marketing new titles for the prior-generation PlayStation 2 in fiscal 2009, we only expect to release one title for the original Xbox and no titles for the Nintendo GameCube. As a result, we expect our sales of video games for prior-generation systems will continue to decline. The decline in prior-generation product sales, particularly the PlayStation 2, may be greater or faster than we anticipate, and sales of products for the new platforms may be lower or increase more slowly than we anticipate. Moreover, we expect development costs for the new video game systems continue to be greater on a per-title basis than development costs for prior-generation video game systems.

We have incurred increased costs during this transition as we have continued to develop and market new titles for certain prior-generation video game platforms, while also making significant investments in products for the new generation platforms. We expect research and development expenses to increase on an absolute basis in fiscal 2009 as compared to fiscal 2008 (although not necessarily as a percentage of net revenue).

Online. Today, we generate net revenue from a variety of online products and services, including casual games and downloadable content marketed under our Pogo brand, persistent state world games such as Ultima Online tm and Dark Age of Camelot ® , PC-based downloadable content and online-enabled packaged goods. In addition, we are anticipating the release of a new massively multiplayer online role-playing game, Warhammer ® Online . We intend to make significant investments in online products, infrastructure and services and believe that online gameplay will become an increasingly important part of our business in the long term.

Expansion of Mobile Platforms. Advances in mobile technology have resulted in a variety of new and evolving platforms for on-the-go interactive entertainment that appeal to a broader demographic of consumers. Our efforts to capitalize on the growth in mobile interactive entertainment are focused in two broad areas — packaged goods games for handheld game systems and downloadable games for cellular handsets.

We have developed and published games for a variety of handheld platforms for several years. More recently, the Sony PSP and the Nintendo DS, with their enhanced graphics, deeper gameplay, and online functionality, provide a richer mobile gaming experience for consumers.

We expect sales of games for handhelds and cellular handsets to continue to be an important part of our business worldwide.

Acquisitions and Investments. We have engaged in, evaluated, and expect to continue to engage in and evaluate, a wide array of potential strategic transactions, including acquisitions of companies, businesses, intellectual properties, and other assets. Since the beginning of fiscal 2007, we have announced and/or completed several acquisitions and investments, including:


• In January 2008, we completed our acquisition of VG Holding Corp. (“VGH”), owner of both BioWare Corp. and Pandemic Studios, LLC, which create action, adventure, and role-playing games. VGH was headquartered in Menlo Park, California. BioWare Corp. and Pandemic Studios are located in Edmonton, Canada; Los Angeles, California; Austin, Texas; and Brisbane, Australia.

• In May 2007, we entered into a licensing agreement with and made a strategic equity investment in The9 Limited, a leading online game operator in China. The licensing agreement gives The9 exclusive publishing rights for EA SPORTS tm FIFA Online in mainland China.

• In April 2007, we expanded our commercial agreements with and made strategic equity investments in Neowiz Corporation and a related online gaming company, Neowiz Games (we refer to Neowiz Corporation and Neowiz Games collectively as “Neowiz”). Based in Korea, Neowiz is an online media and gaming company with which we partnered in 2006 to launch EA SPORTS FIFA Online in Korea.

• In October 2006, the remaining outstanding shares of Digital Illusions C.E. (“DICE”) located in Sweden, were purchased, thereby completing the acquisition of the remaining minority interest of DICE.

• In July 2006, we acquired Mythic Entertainment, Inc., located in Virginia, as part of our efforts to accelerate our growth in the massively multiplayer online role-playing market.

In the fourth quarter of fiscal 2008, we announced a proposal to acquire all of the issued and outstanding shares of common stock of Take-Two Interactive Software, Inc.(“Take-Two”), for a total purchase price of approximately $2.1 billion (including fees and expenses). Take-Two’s Board of Directors has stated that our offer undervalues the company and is not in the best interests of stockholders. If we were to acquire Take-Two, we expect the acquisition would have a material impact on our future financial position and results of operations and cash flows. Although the offer is not conditional upon any financing arrangements, our Board of Directors has authorized us to obtain additional financing, a portion of which may be used in part to fund the acquisition. There can be no assurance that we will acquire Take-Two.

International Operations and Foreign Currency Exchange Impact. International sales are a fundamental part of our business. Net revenue from international sales accounted for approximately 47 percent of our total net revenue during fiscal 2008 and approximately 46 percent of our total net revenue during fiscal 2007. Our international net revenue was primarily driven by sales in Europe and, to a much lesser extent, in Asia. Year-over-year, we estimate that foreign exchange rates had a favorable impact on our net revenue of $125 million, or 4 percent, for the year ended March 31, 2008. We believe that in order to succeed internationally, it is important to locally develop content that is specifically directed toward local cultures and consumers.

Stock-Based Compensation. Beginning on April 1, 2006, we adopted Statement of Financial Accounting Standard No. 123 (revised 2004) (“SFAS No. 123(R)”), “ Share-Based Payment ”, and applied the provisions of Staff Accounting Bulletin (“SAB”) No. 107, “ Share-Based Payment ”, to our adoption of SFAS No. 123(R). During fiscal 2008, we recognized stock-based compensation of $150 million, pre-tax, and $123 million, net of tax. During fiscal 2007, we recognized stock-based compensation of $133 million, pre-tax, and $107 million, net of tax. Stock-based compensation expense has been reflected in the respective functional line items on our Consolidated Statements of Operations.

RESULTS OF OPERATIONS

Our fiscal year is reported on a 52 or 53-week period that ends on the Saturday nearest March 31. For simplicity of disclosure, all fiscal periods are referred to as ending on a calendar month end. Our results of operations for the fiscal years ended March 31, 2008 and 2007 contained 52 weeks and ended on March 29, 2008 and March 31, 2007, respectively. Our results of operations for the fiscal year ended March 31, 2006 contained 53 weeks and ended on April 1, 2006.

Comparison of Fiscal 2008 to Fiscal 2007

Net Revenue

Net revenue consists of sales generated from (1) video games sold as packaged goods and designed for play on hardware consoles (such as the PlayStation 2, PLAYSTATION 3, Xbox 360 and Wii), PCs and handheld game players (such as the Sony PSP, Nintendo DS and Nintendo Game Boy Advance), (2) video games for cellular handsets, (3) interactive online-enabled packaged goods, digital content, and online services associated with these games, (4) services in connection with some of our online games, (5) programming third-party web sites with our game content, (6) allowing other companies to manufacture and sell our products in conjunction with other products, and (7) advertisements on our online web pages and in our games.

During fiscal 2008 and 2007, we recognized total net revenue of $3,665 million and $3,091 million, respectively. Our total net revenue during fiscal 2008 includes $831 million recognized from sales of certain online-enabled packaged goods and digital content for which we were not able to objectively determine the fair value (as defined by U.S. Generally Accepted Accounting Principles for software sales) of a free online service that we provided in connection with the sale. The deferral of net revenue related to certain of our packaged goods and digital content sales, which will be recognized in future periods, decreased our reported net revenue by $355 million during fiscal 2008, as compared to the same period a year ago.

North America

For fiscal 2008, net revenue in North America was $1,942 million, driven by sales of Rock Band, Madden NFL 08, and NCAA Football 08 .

Net revenue for fiscal 2008 increased 17 percent as compared to fiscal 2007. The deferral of net revenue related to certain of our packaged goods and digital content sales, which will be recognized in future periods, decreased our reported net revenue by $158 million during fiscal 2008. From an operational perspective, the increase in net revenue was driven by (1) a $445 million increase in net revenue from co-publishing and distribution titles (which does not include an additional $10 million of deferred net revenue that will be recognized in future periods), and (2) a $118 million increase in net revenue from sales of titles for the Wii (which does not include an additional $17 million of deferred net revenue that will be recognized in future periods). These increases were partially offset by (1) a $208 million decrease in net revenue from sales of titles for the PlayStation 2 (this decrease will be partially offset, however, by $29 million of deferred net revenue that will be recognized in future periods), and (2) a $105 million decrease in net revenue from sales of titles for the Xbox.

We continue to expect net revenue in North America to increase during fiscal 2009 as compared to fiscal 2008.

Europe

For fiscal 2008, net revenue in Europe was $1,541 million, driven by sales of FIFA 08, Need for Speed ProStreet, and The Simpsons Game . Net revenue for fiscal 2008 increased 22 percent as compared to fiscal 2007. We estimate that foreign exchange (primarily the Euro and the British pounds sterling) increased reported net revenue by approximately $113 million, or 9 percent, for fiscal 2008 as compared to fiscal 2007. Excluding the effect of foreign exchange rates, we estimate that net revenue increased by approximately $167 million, or 13 percent, for fiscal 2008 as compared to fiscal 2007.

The deferral of net revenue related to certain of our packaged goods and digital content sales, which will be recognized in future periods, decreased our reported net revenue by $169 million during fiscal 2008. From an operational perspective the increase in net revenue was driven by (1) a $109 million increase in net revenue from sales of titles for the PLAYSTATION 3 (which does not include an additional $86 million of deferred net revenue that will be recognized in future periods), (2) $108 million of net revenue from sales of titles for the Wii (which does not include an additional $8 million of deferred net revenue that will be recognized in future periods), and (3) a $77 million increase in net revenue from sales of titles for the Nintendo DS.

We continue to expect net revenue in Europe to increase during fiscal 2009 as compared to fiscal 2008.

Asia

For fiscal 2008, net revenue in Asia was $182 million, driven by sales of Need for Speed ProStreet , The Simpsons Game , and FIFA 08 . Net revenue for fiscal 2008 increased 11 percent as compared to fiscal 2007. We estimate that foreign exchange increased reported net revenue by approximately $12 million, or 7 percent, for fiscal 2008 as compared to fiscal 2007. Excluding the effect of foreign exchange rates, we estimate that net revenue increased by $6 million, or 4 percent during fiscal 2008 as compared to fiscal 2007.

The deferral of net revenue related to certain of our packaged goods and digital content sales, which will be recognized in future periods, decreased our reported net revenue by $28 million during fiscal 2008. From an operational perspective, the increase in net revenue was driven by (1) a $12 million increase in sales of titles for the PLAYSTATION 3 (which does not include an additional $14 million of deferred net revenue that will be recognized in future periods), (2) $12 million increase in net revenue from sales of titles for the Wii (which does not include an additional $1 million of deferred net revenue that will be recognized in future periods), and (3) an $11 million increase in net revenue from sales of titles for the Nintendo DS. These increases were partially offset by (1) a $9 million decrease in net revenue from sales of titles for the PC (this decrease will be offset, however, by $3 million of deferred net revenue that will be recognized in future periods), (2) a $6 million decrease in net revenue from sales of titles for the Xbox, and (3) a $6 million decrease in net revenue from sales of titles for the PSP (this decrease will be offset, however, by $4 million of deferred net revenue that will be recognized in future periods).

Cost of Goods Sold

Cost of goods sold for our packaged-goods business consists of (1) product costs, (2) certain royalty expenses for celebrities, professional sports and other organizations and independent software developers, (3) manufacturing royalties, net of volume discounts and other vendor reimbursements, (4) expenses for defective products, (5) write-offs of post-launch prepaid royalty costs, (6) amortization of certain intangible assets, (7) personnel-related costs, and (8) distribution costs. We generally recognize volume discounts when they are earned from the manufacturer (typically in connection with the achievement of unit-based milestones), whereas other vendor reimbursements are generally recognized as the related revenue is recognized. Cost of goods sold for our online products consists primarily of data center and bandwidth costs associated with hosting our web sites, credit card fees and royalties for use of third-party properties. Cost of goods sold for our web site advertising business primarily consists of server costs.

For fiscal 2008, cost of goods sold increased by 10.1 percent as a percentage of total net revenue as compared to fiscal 2007. This increase was primarily due to:


• Higher co-publishing and distribution royalty costs of approximately 8 percent as a percentage of total net revenue primarily driven by sales of Rock Band , and, to a lesser extend, other co-publishing and distribution titles that have a lower gross margin, and

• The increase in net revenue deferrals of $355 million related to certain online-enabled packaged goods and digital content. Overall, we estimate the deferral of net revenue negatively impacted cost of goods sold as a percent of total net revenue by 4 percent.

As a percentage of total net revenue, the overall increase in cost of goods sold was partially offset by lower license royalty rates of approximately 1 percent as a percentage of total net revenue primarily due to a higher proportion of sales in fiscal 2008 from our owned intellectual property franchises that have lower royalty rates as compared to fiscal 2007.

Although there can be no assurance, and our actual results could differ materially, in the short term we expect our gross margin as a percentage of total net revenue to increase in fiscal 2009 as compared to fiscal 2008 as a result of (1) a decrease in the change in deferred net revenue related to certain online-enabled packaged goods (we expense the cost of goods sold related to these transactions when delivered) and (2) a favorable mix of EA Studio revenue.

Marketing and Sales

Marketing and sales expenses consist of personnel-related costs and advertising, marketing and promotional expenses, net of qualified advertising cost reimbursements from third parties.

MANAGEMENT DISCUSSION FOR LATEST QUARTER

Three Months Ended September 30, 2008
Total net revenue for the three months ended September 30, 2008 was $894 million, up $254 million as compared to the three months ended September 30, 2007. The impact of deferrals related to sales of online-enabled packaged goods and digital content for the three months ended September 30, 2008 decreased our reported net revenue by $232 million as compared to a decrease of $296 million for the three months ended September 30, 2007. Net revenue was driven by Rock Band ™ , Madden NFL 09 , and NCAA Football 09 .
Net loss for the three months ended September 30, 2008 was $310 million as compared to a net loss of $195 million for the three months ended September 30, 2007. Diluted loss per share for the three months ended September 30, 2008 was $0.97 as compared to diluted loss per share of $0.62 for the three months ended September 30, 2007. Net loss increased during the three months ended September 30, 2008 as compared to the three months ended September 30, 2007 primarily as a result of (1) a $162 million increase in cost of goods sold, (2) a $92 million increase in personnel-related costs primarily as a result of increases in salaries, incentive-based compensation and stock-based compensation, (3) a $37 million increase in external development costs due to a greater number of projects in development as compared to the prior year, (4) a $34 million impairment charge related to our losses on strategic investments, (5) a decrease in interest and other income of $25 million primarily resulting from lower yields on our cash, cash equivalent and short-term investments, and (6) a charge of $21 million related to our decision not to pursue an acquisition of Take-Two. These were partially offset by (1) an increase of $254 million in net revenue due to increased sales of our games and (2) a $34 million higher income tax benefit.
During the six months ended September 30, 2008, we used $415 million of cash in operating activities as compared to $296 million for the six months ended September 30, 2007. The increase in cash used in operating activities for the six months ended September 30, 2008 as compared to the six months ended September 30, 2007 was primarily due to an increase in personnel-related expenses and advertising and marketing costs.
Management’s Overview of Historical and Prospective Business Trends
Economic Environment. As a result of the recent national and global economic downturn, overall consumer spending has declined. Retailers globally, and particularly in North America, appear to be taking a more conservative stance in ordering game inventory, particularly for older catalog titles ( i.e., sales of games that were released in a previous quarter). Historically, our industry has been resilient to economic recessions with sales being significantly influenced by technology drivers such as the introduction and widespread consumer adoption of new video game consoles. While the installed base of the Xbox 360, the PLAYSTATION 3 and the Wii is expected to continue to grow significantly, we are cautious about our sales in the near term, and in particular, for the upcoming holiday season.
Transition to a New Generation of Consoles. Video game hardware systems have historically had a life cycle of four to six years, which causes the video game software market to be cyclical as well. The current cycle began with Microsoft’s launch of the Xbox 360 in 2005, and continued in 2006 when Sony and Nintendo launched their next-generation systems, the PLAYSTATION 3 and the Wii, respectively. During the three months ended September 30, 2008, the installed base of each of these systems continued to expand and, as a result, sales of our products for these systems have also increased significantly. At the same time, however, demand for video games for prior-generation systems, particularly the original Xbox and the Nintendo GameCube, has declined significantly. In fiscal 2009, we expect to significantly reduce the number of titles we develop and market for the prior-generation PlayStation 2, release only one title for the original Xbox and do not expect to release any titles for the Nintendo GameCube. As a result, we expect our sales of video games for prior-generation systems will continue to decline. The decline in prior-generation product sales, particularly the PlayStation 2, may be greater or faster than we anticipate, and sales of products for the new platforms may be lower or increase more slowly than we anticipate. Moreover, we expect development costs for the new video game systems to continue to be greater on a per-title basis than development costs for prior-generation video game systems. We expect research and development expenses to increase on an absolute basis in fiscal 2009 as compared to fiscal 2008 (although not necessarily as a percentage of net revenue).
Online. Today, we generate net revenue from a variety of online products and services, including casual games and downloadable content marketed under our Pogo brand, massively-multiplayer online role-playing games (such as Warhammer ® Online: Age of Reckoning ™ , Ultima Online ™ , and Dark Age of Camelot ® ), PC-based downloadable content and online-enabled packaged goods. We intend to make significant investments in online products, infrastructure and services and believe that online gameplay will become an increasingly important part of our business in the long term.
Mobile Platforms . Advances in mobile technology have resulted in a variety of new and evolving platforms for on-the-go interactive entertainment that appeal to a broader demographic of consumers. Our efforts in mobile interactive entertainment are focused in two broad areas – packaged goods games for handheld game systems and downloadable games for wireless devices. We expect sales of games for handhelds and wireless devices to continue to be an important part of our business worldwide.
Acquisitions and Investments. We have engaged in, evaluated, and expect to continue to engage in and evaluate, a wide array of potential strategic transactions, including acquisitions of companies, businesses, intellectual properties, and other assets. Since the beginning of fiscal 2008, we have announced and/or completed several acquisitions and investments, including:
• In May 2008, we acquired ThreeSF, Inc. Based in San Francisco, California, ThreeSF’s Rupture service is an online social network for gamers.

• In May 2008, we acquired certain assets of Hands-On Mobile Inc. and its affiliates relating to its Korean Mobile games business based in Seoul, Korea.

• In January 2008, we acquired VG Holding Corp. (“VGH”), owner of both BioWare Corp. and Pandemic Studios, LLC, which create action, adventure, and role-playing games. BioWare Corp. and Pandemic Studios are located in Edmonton, Canada; Los Angeles, California; Austin, Texas; and Brisbane, Australia. The development of the projects for which we incurred an acquired-in-process technology charge in connection with the acquisition continued to be in-progress at September 30, 2008.

• In May 2007, we entered into a licensing agreement with and made a strategic equity investment in The9 Limited, a leading online game operator in China. The licensing agreement gives The9 exclusive publishing rights for EA SPORTS ™ FIFA Online in mainland China.

• In April 2007, we expanded our commercial agreements with and made strategic equity investments in Neowiz Corporation and a related online gaming company, Neowiz Games (we refer to Neowiz Corporation and Neowiz Games collectively as “Neowiz”). Based in Korea, Neowiz is an online media and gaming company with which we are currently partnering to launch EA SPORTS NBA STREET Online in Asia.
On March 13, 2008, we commenced an unsolicited $26.00 per share cash tender offer for all of the outstanding shares of Take-Two Interactive Software, Inc., a Delaware corporation (“Take-Two”), for a total purchase price of approximately $2.1 billion. On August 18, 2008, we allowed the tender offer to expire without purchasing any shares of Take-Two and, on September 14, 2008, we announced that we had terminated discussions with, and would not be making a proposal to acquire, Take-Two. During the six months ended September 30, 2008, we incurred but had not yet recognized certain costs in our Condensed Consolidated Statements of Operations in connection with the abandoned acquisition of Take-Two. As a result of the terminated discussions, during the three months ended September 30, 2008, we recognized $21 million in related costs consisting of legal, banking and other consulting fees.
International Operations and Foreign Currency Exchange Impact. International sales are a fundamental part of our business. Net revenue from international sales accounted for approximately 42 percent of our total net revenue during the first six months of fiscal 2009 and approximately 49 percent of our total net revenue during the first six months of fiscal 2008. Our international net revenue was primarily driven by sales in Europe and, to a much lesser extent, in Asia. We believe that in order to succeed internationally, it is important to locally develop content that is specifically directed toward local cultures and consumers. Year-over-year, we estimate that foreign exchange rates had a favorable impact on our net revenue of $59 million, or 6 percent, for the six months ended September 30, 2008. During October 2008, the U.S. dollar grew stronger against other currencies, including the Euro and the British pound sterling. If the U.S. dollar continues to strengthen against these currencies, then foreign exchange rates may have an unfavorable impact on our net revenue.

CRITICAL ACCOUNTING POLICIES AND ESTIMATES
Our Condensed Consolidated Financial Statements have been prepared in accordance with accounting principles generally accepted in the United States. The preparation of these Condensed Consolidated Financial Statements requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities, contingent assets and liabilities, and revenue and expenses during the reporting periods. The policies discussed below are considered by management to be critical because they are not only important to the portrayal of our financial condition and results of operations, but also because application and interpretation of these policies requires both judgment and estimates of matters that are inherently uncertain and unknown. As a result, actual results may differ materially from our estimates.
Revenue Recognition, Sales Returns, Allowances and Bad Debt Reserves
We derive revenue principally from sales of interactive software games designed for play on video game consoles (such as the PlayStation 2, PLAYSTATION 3, Xbox 360 and Wii), PCs and mobile platforms including handheld game players (such as the PSP and Nintendo DS), and wireless devices. We evaluate the recognition of revenue based on the criteria set forth in Statement of Position (“SOP”) 97-2, “Software Revenue Recognition” , as amended by SOP 98-9, “Modification of SOP 97-2, Software Revenue Recognition, With Respect to Certain Transactions” and Staff Accounting Bulletin (“SAB”) No. 104, “Revenue Recognition” . We evaluate and recognize revenue when all four of the following criteria are met:
• Evidence of an arrangement . Evidence of an agreement with the customer that reflects the terms and conditions to deliver products that must be present in order to recognize revenue.

• Delivery . Delivery is considered to occur when a product is shipped and the risk of loss and rewards of ownership have been transferred to the customer. For online game services, delivery is considered to occur as the service is provided. For digital downloads that do not have an online service component, delivery is considered to occur generally when the download occurs.

• Fixed or determinable fee . If a portion of the arrangement fee is not fixed or determinable, we recognize revenue as the amount becomes fixed or determinable.

• Collection is deemed probable . We conduct a credit review of each customer involved in a significant transaction to determine the creditworthiness of the customer. Collection is deemed probable if we expect the customer to be able to pay amounts under the arrangement as those amounts become due. If we determine that collection is not probable, we recognize revenue when collection becomes probable (generally upon cash collection).
Determining whether and when some of these criteria have been satisfied often involves assumptions and judgments that can have a significant impact on the timing and amount of revenue we report in each period. For example, for multiple element arrangements, we must make assumptions and judgments in order to (1) determine whether and when each element has been delivered, (2) determine whether undelivered products or services are essential to the functionality of the delivered products and services, (3) determine whether VSOE exists for each undelivered element, and (4) allocate the total price among the various elements we must deliver. Changes to any of these assumptions or judgments, or changes to the elements in a software arrangement, could cause a material increase or decrease in the amount of revenue that we report in a particular period. For example, in connection with some of our packaged goods product sales, we offer an online service without an additional fee. Prior to fiscal 2008, we were able to determine VSOE for the online service to be delivered; therefore, we were able to allocate the total price received from the combined product and online service sale between these two elements and recognize the related revenue separately. However, starting in fiscal 2008, VSOE no longer existed for the online service to be delivered for certain platforms and all revenue from these transactions is recognized over the estimated online service period. More specifically, starting in fiscal 2008, we began to recognize the revenue from sales of certain online-enabled packaged goods on a straight-line basis over a six month period beginning in the month after shipment. Accordingly, this relatively small change (from having VSOE for the online service to no longer having VSOE) has had a significant effect on our reported results.
Determining whether a transaction constitutes an online game service transaction or a download of a product requires judgment and can be difficult. The accounting for these transactions is significantly different. Revenue from product downloads is generally recognized when the download occurs (assuming all other recognition criteria are met). Revenue from an online game service is recognized as the service is rendered. If the service period is not defined, we recognize the revenue over the estimated service period. Determining the estimated service period is inherently subjective and is subject to regular revision based on historical online usage.
Product revenue, including sales to resellers and distributors (“channel partners”), is recognized when the above criteria are met. We reduce product revenue for estimated future returns, price protection, and other offerings, which may occur with our customers and channel partners. Price protection represents the right to receive a credit allowance in the event we lower our wholesale price on a particular product. The amount of the price protection is generally the difference between the old price and the new price. In certain countries, we have stock-balancing programs for our PC and video game system products, which allow for the exchange of these products by resellers under certain circumstances. It is our general practice to exchange products or give credits rather than to give cash refunds.
In certain countries, from time to time, we decide to provide price protection for our products. When evaluating the adequacy of sales returns and price protection allowances, we analyze historical returns, current sell-through of distributor and retailer inventory of our products, current trends in retail and the video game segment, changes in customer demand and acceptance of our products, and other related factors. In addition, we monitor the volume of sales to our channel partners and their inventories, as substantial overstocking in the distribution channel could result in high returns or higher price protection costs in subsequent periods.
In the future, actual returns and price protections may materially exceed our estimates as unsold products in the distribution channels are exposed to rapid changes in consumer preferences, market conditions or technological obsolescence due to new platforms, product updates or competing products. For example, the risk of product returns and/or price protection for our products may continue to increase as the PlayStation 2 console moves through its lifecycle. While we believe we can make reliable estimates regarding these matters, these estimates are inherently subjective. Accordingly, if our estimates changed, our returns and price protection reserves would change, which would impact the total net revenue we report. For example, if actual returns and/or price protection were significantly greater than the reserves we have established, our actual results would decrease our reported total net revenue. Conversely, if actual returns and/or price protection were significantly less than our reserves, this would increase our reported total net revenue. In addition, if our estimates of returns and price protection related to online-enabled packaged goods products change, the amount of net deferred revenue we recognize in the future would change.
Significant judgment is required to estimate our allowance for doubtful accounts in any accounting period. We determine our allowance for doubtful accounts by evaluating customer creditworthiness in the context of current economic trends and historical experience. Depending upon the overall economic climate and the financial condition of our customers, the amount and timing of our bad debt expense and cash collection could change significantly.
Fair Value Estimates
The preparation of financial statements in conformity with accounting principles generally accepted in the United States often requires us to determine the fair value of a particular item in order to fairly present our financial statements. Without an independent market or another representative transaction, determining the fair value of a particular item requires us to make several assumptions that are inherently difficult to predict and can have a material impact on the conclusion on the appropriate accounting.
There are various valuation techniques used to estimate fair value. These include (1) the market approach where market transactions for identical or comparable assets or liabilities are used to determine the fair value, (2) the income approach, which uses valuation techniques to convert future amounts (for example, future cash flows or future earnings) to a single present amount, and (3) the cost approach, which is based on the amount that would be required to replace an asset. For many of our fair value estimates, including our estimates of the fair value of acquired intangible assets, acquired in-process technology and equity instruments granted for services, we use the income approach. Using the income approach requires the use of financial models, which require us to make various estimates including, but not limited to (1) the potential future cash flows for the asset, liability or equity instrument being measured, (2) the timing of receipt or payment of those future cash flows, (3) the time value of money associated with the delayed receipt or payment of such cash flows, and (4) the inherent risk associated with the cash flows (risk premium). Making these cash flow estimates are inherently difficult and subjective, and, if any of the estimates used to determine the fair value using the income approach turns out to be inaccurate, our financial results may be negatively impacted. Furthermore, relatively small changes in many of these estimates can have a significant impact to the estimated fair value resulting from the financial models or the related accounting conclusion reached. For example, a relatively small change in the estimated fair value of an asset may change a conclusion as to whether an asset is impaired.
While we are required to make certain fair value assessments associated with the accounting for several types of transactions, the following areas are the most sensitive to the assessments:
Business Combinations . We must estimate the fair value of assets acquired, liabilities assumed and acquired in-process technology in a business combination. Our assessment of the estimated fair value of each of these can have a material affect on our reported results as intangible assets are amortized over various lives and acquired in-process technology is expensed upon consummation. Furthermore, a change in the estimated fair value of an asset or liability often has a direct impact on the amount to recognize as goodwill, an asset that is not amortized. Often determining the fair value of these assets and liabilities assumed requires an assessment of expected use of the asset, the expected cost to extinguish the liability or our expectations related to the timing and the successful completion of development of an acquired in-process technology. Such estimates are inherently difficult and subjective and can have a material impact on our financial statements.
Assessment of Impairment of Assets. Current accounting standards require that we assess the recoverability of purchased intangible assets and other long-lived assets whenever events or changes in circumstances indicate the remaining value of the assets recorded on our Condensed Consolidated Balance Sheets is potentially impaired. In order to determine if a potential impairment has occurred, management must make various assumptions about the estimated fair value of the asset by evaluating future business prospects and estimated cash flows. For some assets, our estimated fair value is dependent upon predicting which of our products will be successful. This success is dependent upon several factors, which are beyond our control, such as which operating platforms will be successful in the marketplace. Also, our revenue and earnings are dependent on our ability to meet our product release schedules.
Statement of Financial Accounting Standard (“SFAS”) No. 142, “Goodwill and Other Intangible Assets” requires at least an annual assessment for impairment of goodwill by applying a fair-value-based test. Application of the goodwill impairment test requires judgment, including identification of reporting units, assignment of assets and liabilities to reporting units, assignment of goodwill to reporting units, and determination of the fair value of each reporting unit. Determining the estimated fair value for each reporting unit could be materially affected by changes in estimates and assumptions, which could trigger impairment.
Stock-Based Compensation. We are required to estimate the fair value of share-based payment awards on the date of grant. The estimated fair value of stock options and stock purchase rights granted pursuant to our employee stock purchase plan is determined using the Black-Scholes valuation model, which requires us to make certain assumptions about the future. Determining the estimated fair value is affected by our stock price, as well as assumptions regarding subjective and complex variables such as expected employee exercise behavior and our expected stock price volatility over the term of the award. We estimated the following key assumptions for the Black-Scholes valuation calculation:
• Risk-free interest rate . The risk-free interest rate is based on U.S. Treasury yields in effect at the time of grant for the expected term of the option.

• Expected volatility . We use a combination of historical stock price volatility and implied volatility computed based on the price of options publicly traded on our common stock for our expected volatility assumption.

• Expected term . The expected term represents the weighted-average period the stock options are expected to remain outstanding. The expected term is determined based on historical exercise behavior, post-vesting termination patterns, options outstanding and future expected exercise behavior.

• Expected dividends .
Changes to our underlying stock price, our assumptions used in the Black-Scholes option valuation calculation and our forfeiture rate, which is based on historical data, as well as future equity granted or assumed through acquisitions could significantly impact compensation expense to be recognized in future periods.
Royalties and Licenses
Our royalty expenses consist of payments to (1) content licensors, (2) independent software developers, and (3) co-publishing and distribution affiliates. License royalties consist of payments made to celebrities, professional sports organizations, movie studios and other organizations for our use of their trademarks, copyrights, personal publicity rights, content and/or other intellectual property. Royalty payments to independent software developers are payments for the development of intellectual property related to our games. Co-publishing and distribution royalties are payments made to third parties for the delivery of product.
Royalty-based obligations with content licensors and distribution affiliates are either paid in advance and capitalized as prepaid royalties or are accrued as incurred and subsequently paid. These royalty-based obligations are generally expensed to cost of goods sold generally at the greater of the contractual rate or an effective royalty rate based on the total projected net revenue. Significant judgment is required to estimate the effective royalty rate for a particular contract. Because the computation of effective royalty rates requires us to project future revenue, it is inherently subjective as our future revenue projections must anticipate a number of factors, including (1) the total number of titles subject to the contract, (2) the timing of the release of these titles, (3) the number of software units we expect to sell, which can be impacted by a number of variables, including product quality and competition, and (4) future pricing. Determining the effective royalty rate for our titles is particularly challenging due to the inherent difficulty in predicting the popularity of entertainment products. Accordingly, if our future revenue projections change, our effective royalty rates would change, which could impact the royalty expense we recognize. Prepayments made to thinly capitalized independent software developers and co-publishing affiliates are generally made in connection with the development of a particular product and, therefore, we are generally subject to development risk prior to the release of the product. Accordingly, payments that are due prior to completion of a product are generally expensed to research and development over the development period as the services are incurred. Payments due after completion of the product (primarily royalty-based in nature) are generally expensed as cost of goods sold.
Our contracts with some licensors include minimum guaranteed royalty payments, which are initially recorded as an asset and as a liability at the contractual amount when no performance remains with the licensor. When performance remains with the licensor, we record guarantee payments as an asset when actually paid and as a liability when incurred, rather than recording the asset and liability upon execution of the contract. Minimum royalty payment obligations are classified as current liabilities to the extent such royalty payments are contractually due within the next twelve months. As of September 30, 2008 and March 31, 2008, approximately $23 million and $10 million, respectively, of minimum guaranteed royalty obligations had been recognized.
Each quarter, we also evaluate the future realization of our royalty-based assets, as well as any unrecognized minimum commitments not yet paid to determine amounts we deem unlikely to be realized through product sales. Any impairments or losses determined before the launch of a product are charged to research and development expense. Impairments or losses determined post-launch are charged to cost of goods sold. In either case, we rely on estimated revenue to evaluate the future realization of prepaid royalties and commitments. If actual sales or revised revenue estimates fall below the initial revenue estimate, then the actual charge taken may be greater in any given quarter than anticipated. During the three and six months ended September 30, 2008, we recognized an impairment charge of $5 million. We did not recognize any impairment charges during the three months ended September 30, 2007. During the six months ended September 30, 2007, we recognized impairment charges of less than $1 million.


CONF CALL

Tricia Gugler

Great. Thank you. Welcome to our second quarter fiscal 2009 earnings call. Today on the call we have John Riccitiello, our Chief Executive Officer; Eric Brown, our Chief Financial Officer and John Pleasants, our Chief Operating Officer.

Before we begin, I’d like to remind you that you may find copies of our SEC filings, our earnings release and a replay of this webcast on our web site at investor.ea.com. Shortly after the call we will post a copy of our prepared remarks on our website. Throughout this call we will present both GAAP and non-GAAP financial measures. Non-GAAP measures exclude the following items: amortization of intangibles, stock-based compensation, acquired in-process technology, restructuring charges, losses on strategic investments, certain abandoned acquisition-related costs, and the impact of the change in deferred net revenue related to certain packaged goods and digital content.

In addition, starting with its fiscal 2009 results, the company began to apply a fixed, long-term projected tax rate of 28% to determine its non-GAAP results. Prior to fiscal 2009, the company’s non-GAAP financial results were determined by excluding the specific income tax effects associated with the non-GAAP items and the impact of certain one-time income tax adjustments.

Our earnings release provides a reconciliation of our GAAP to non-GAAP measures. These non-GAAP measures are not intended to be considered in isolation from, a substitute for, or superior to our GAAP results and we encourage investors to consider all measures before making an investment decision.

All comparisons made in the course of this call are against the same period for the prior year, unless otherwise stated.

Please see our earnings release and the supplemental information on our website for a detailed GAAP to non-GAAP reconciliation and our trailing twelve month segment shares and a summary of our financial guidance.

During the course of this call we may make forward-looking statements regarding future events and the future financial performance of the company. We caution you that actual events and results may differ materially. We refer you to our most recent Form 10-K for a discussion of risk factors that could cause our actual results to differ materially from those discussed today. We make these statements as of October 30, 2008 and disclaim any duty to update them.

Now I would like to turn the call over to John.

John S. Riccitiello

Thanks, Tricia. Let me update briefly on a few items on our agenda today. I am going to start with a review of Q2, talk about our back-half of the year, the economy, and an update on how things are working at EA. Eric will review our Q2 results in detail and provide our specific guidance for FY09. He will also discuss our cost reduction initiatives. John Pleasants will discuss key learnings from Q2, the current retail environment, our holiday slate and our progress in our digital direct-to-consumer businesses. Then I’ll wrap up with a few closing thoughts. After that, Eric, John and I will be happy to take your questions.

Q2 results -- we came in as expected on the top and bottom line. Our Sports franchises, especially Madden, performed well. SPORE and Warhammer Online met our high expectations. And I want to call out the teams behind Madden, Tiger, NHL, FIFA, SPORE, Dead Space and Warhammer for creating some incredibly innovative, high-quality titles.

Looking forward, we have an outstanding slate of great titles for the second half of our fiscal year and especially for the crucial holiday quarter. Despite this strength, we believe it is now prudent to lower our guidance for the balance of the fiscal year. As you know, we have moved Harry Potter to FY10 with the slip of the movie, which is particularly hard -- costing us $0.13 EPS -- as we have completed and expensed a solid game but won’t see revenues until next year. And in recent weeks, we have experienced sharply adverse foreign exchange. The recent spike up in the dollar compared to where it was when we provided guidance in May and July, if it holds, will reduce our earnings per share by approximately $0.12. Third, we are seeing continued weakness with catalog sales and are starting to see weakness at retail in October. These factors, balanced against our total set of puts and takes, have us reducing our range by $0.30 EPS both at the top and bottom end.

There are four areas I would like to address before turning the microphone over to Eric: first, the broad economic environment; second, EA’s recent operational performance; third, the flow through of top line revenue at EA to bottom line EPS; and fourth, the reduction in force we announced earlier today and other planned future cost reductions.

In addressing the economic environment, I’ll start by telling you what I believe most of you know -- the game industry has been very resilient in past recessions. History shows us that the technology driver of new consoles has outweighed the negative of a recession. And this time we have three strong and well differentiated consoles, each in growth mode. Having three strong players at one time is unprecedented.

And I am sure you know just how good a value games are to the consumer. A single $60 game can deliver 50 to 100 hours of play, a far better consumer value than a trip to the movies or a live music or sports event. We also note just how strong games sales have been thus far this year, up 30% in North America and we estimate 22% in Europe. Retailers, both in Europe and North America, have added space for the game industry. Still, we recognize these times are unprecedented and so far in October, there are indicators that consumers and retailers are being more cautious. We remain optimistic for our sector longer term but cautious in the short term.

Turning to EA’s operational performance, let me start with some of the negatives. We’ve experienced a few slips and kills. Recently, we killed Tiberium, a move we made for quality reasons. And Saboteur is moving to FY10. And, as I mentioned, we are also seeing continued weakness in our catalog sales.

On the positive side, we are seeing across-the-board improvements in innovation and quality of our games, whether on PC, consoles, mobile phones or in Sports or with our new IPs. Overall, our metacritic scores are up. This is translating to solid front line sales for both our sequel titles and new intellectual properties. On-time delivery of games is up in all four of our labels. And EA Partners continues to perform well in sales and in signing new profitable deals.

Now on to the question of how revenue flows thru to our margins -- if you look at our growth year-over-year, we expect to add over $1 billion in revenue this year, with overall operating margins increasing up to 300 basis points. There are three aspects of this performance that I would like to peel apart for you: our core business, our EAP business, and our investments in digital direct initiatives.

EA’s business, excluding co-publishing and distribution, is expected to grow from $3.3 billion in fiscal year ’08 to over $4 billion in fiscal year ’09. We are expecting at least 500 basis points of operating leverage year-over-year. We’re not yet where we want to be but we expect a doubling in operating margin year-over-year.

We expect to deliver this performance even while making significant up-front online investments. These investments include our spending on the Star Wars: The Old Republic MMO, developing seven of our franchises into mid-session games, the infrastructure to self-publish micro-transaction games in Asia, our Nucleus online registration and billing system and other platform technologies to build direct-to-consumer business models for our core packaged goods games. We think these investments are crucial to EA’s long term success because in the future we see slower growth in the basic packaged goods business and higher margins, greater growth and reduced cyclicality with these new direct-to-consumer businesses. We’re investing approximately $150 million in these activities. We believe this investment, while compressing near term results, sets us up for success longer term.

Our EAP business is growing very rapidly, increasing our co-pub and distribution revenue from approximately $700 million in FY08 to over $1 billion in FY09. Operating margins in this business, while solid, are less than our own business and this year are expected to be single digit.

The FY09 negative for the P&L is the result of the recent success we’ve had in signing new properties from some of the best developers in the world. Each of these new co-development deals involves some up-front investment, and in FY09 we’re running about $35 million ahead of FY08 on these investments with no associated revenue. This development is expensed now with significant returns expected in the future.

If we were to cut short our investments in EAP and digital direct, our operating profit would look much better today, with approximately 350 points of more operating margin. Although this would help for the short term, cutting these investments is not the right answer for the long term.

Now I’d like to turn to the cost actions we announced today. Given the uncertain economic environment and the ever present need to drive greater efficiencies, earlier today we announced that we are reducing headcount. We are taking costs out, both now and as we progress thru our FY10 planning. We’ve made the decision to eliminate positions totaling approximately 6% of our current workforce and will manage headcount additions aggressively going forward. And as we go through our FY10 planning process we will continue to focus on costs and efficiencies and eliminate marginal SKUs.

Now, I would like to turn the call over to Eric.

Eric F. Brown

Thank you, John and good afternoon everyone. For Q2, we delivered record non-GAAP revenue of $1.125 billion, our top and bottom line came in as we expected -- overall a solid quarter.

A few highlights -- as usual, Q2 was a big sports quarter. Madden NFL 09 was our best selling title in the quarter selling 4.5 million copies; while units were flat to last year, we did this on two fewer platforms. NCAA Football 09 sold 1.8 million copies, up 5% year-over-year. Tiger Woods PGA TOUR 09 sold 1.5 million copies and the Wii title is one of the highest rated recently released games. NHL 09 is our highest rated sports titles so far this cycle, with a metacritic rating of 89 on the Xbox 360 and PS3. Sell thru has been up over 85% year-over-year on these platforms. Overall our core sports titles delivered as expected in the quarter.

Before leaving sports, I would also like to mention FIFA 09, which is a Q3 title. It is off to its strongest start in history with the first three weeks of sell thru up an estimated 30% year-over-year.

Q2 was also about new IP. During the quarter, we launched 3 new games. SPORE is off to a great start selling nearly 2 million copies and is the number one PC title in North America and is number three in Europe year-to-date. Mercenaries 2 sold 1.9 million copies and Warhammer Online: Age of Reckoning had a strong debut selling 1.2 million copies.

In addition, through our EA Partners business, we shipped Rock Band 2 software exclusively for the Xbox 360. Combined with the original Rock Band, the franchise sold over 1.5 million copies in the quarter. Calendar year to date, Rock Band is the number one title across all platforms in North America.

And finally, during the quarter we recognized $110 million in digital direct-to-consumer revenue, up $27 million or 33% year-over year and 22% sequentially. This is the first time this revenue stream has hit the $100 million mark in a quarter. This growth was fueled by digital downloads, wireless, advertising and POGO subscriptions.

In the quarter, we had $16 million of sales through our EA Store and other third party sites, up $12 million from last year. SPORE alone generated $5 million. Since the launch of our new EA Store last September, we’ve had over one million downloads. We are now up and running in 31 countries.

Our wireless business also experienced strong growth, up $8 million year-over-year or 21%.

I would now like to spend some time discussing Q2 in more detail. Please note that all of the following references to second quarter results are non-GAAP, unless otherwise stated.

Q2 non-GAAP revenue was $1.126 billion, up 20% year-over-year. Foreign exchange positively impacted the top-line by 2%. As expected, our Q2 revenue was primarily driven by the launches of Madden NFL 09, SPORE, Mercenaries 2, NCAA Football 09, Tiger Woods PGA Tour 09, Warhammer Online and the continued sales of MTV Games and Harmonix Rock Band.

By geography -- North America non-GAAP revenue was $746 million, up $221 million or 42%, primarily due to growth in distribution and PC revenue. International non-GAAP revenue was $380 million, down $31 million – down $31 million – or 8% and down 12% at constant currency rates. The year-over-year decline traces to a comparison to Q208 which included approximately $120 million of FIFA. This year, FIFA 09 launched in Q309. Revenue in the quarter was driven by Rock Band, SPORE, Mercenaries 2 and Warhammer.

Moving to the rest of the income statement, non-GAAP gross profit was $573 million, up 4% year-over-year. Non-GAAP gross profit margin was 50.9% versus 58.7%, down 7.8 percentage points due to a higher mix of co-publishing and distribution revenue.

Operating Expenses -- before getting into the details, let me remind you that this year we are recording our bonus expense in a straight-line fashion instead of recognizing the expense in proportion to quarterly profitability as we have in the past. This impacts the quarterly phasing of our bonus expense. As we said on our last call, this change will negatively impact Q1, Q2 and Q409 and have a corresponding favorable impact on expenses in Q3. During the quarter, this resulted in an approximate $29 million overall increase to operating expenses year-over-year.

Marketing and sales -- marketing and sales expense, excluding stock-based compensation, was $192 million, up $33 million primarily due to increased advertising to support our Q2 releases and higher personnel-related costs, including the bonus phasing. As a percentage of revenue marketing and sales was 17% of non-GAAP revenue, consistent with last year.

General and administrative -- G&A expense excluding stock-based compensation was $79 million, up $5 million. The increase was driven primarily by the bonus phasing.

Research and development -- R&D, excluding stock-based compensation, was $337 million, up $100 million. Of the $100 million, $29 million is related to the acquisition of VGH, $32 million in contracted services due to a greater number of projects under development and EAP advances, and $20 million related to bonus phasing.

R&D headcount ended the quarter at roughly 7,400, up 7% year-over-year adjusted for M&A.

Below the operating income line, other income and expense was $7 million, down $25 million from a year ago due to a decline in interest income and foreign exchange losses.

Income taxes -- on a GAAP basis, we recorded $81 million of tax benefit. On a non-GAAP basis, we recorded taxes at 28%.

GAAP diluted loss per share was $0.97 versus diluted loss per share of $0.62 a year ago. This quarter, our GAAP loss included $21 million of pre-tax acquisition-related charges associated with the abandonment of the Take-Two transaction.

Non-GAAP diluted loss per share was $0.06 versus diluted earnings per share of $0.27 a year ago.

Our trailing twelve month operating cash flow was $219 million versus $145 million for the prior period. We’re expecting to generate significant positive cash flows for the remainder of the year.

Turning to the balance sheet, cash and short term investments were $1.825 billion at quarter end, down $122 million from last quarter due to cash used in operations. With respect to our cash and our short term investment portfolio, we managed to navigate the downturn in the capital markets relatively well and for the quarter, we realized only a small net gain and incurred no impairment charges on the portfolio.

Marketable equity securities and other investments were $648 million, down $104 million from last quarter due to declines in the market value of our strategic investments.

During the quarter, we recognized a pre-tax loss of $34 million in the P&L related to our investment in Neowiz. At quarter end after the write down, we had a net unrealized gain of $438 million, comprised of a $441 million unrealized gain on Ubisoft and a $3 million unrealized loss on The9.

Gross accounts receivable were $715 million versus $609 million a year ago, an increase of 17% primarily due to the growth in non-GAAP revenue.

Reserves against outstanding receivables totaled $168 million, down $17 million from a year ago. Reserve levels were 10% of trailing six month non-GAAP revenue, down four points. As a percentage of trailing nine month non-GAAP revenue, reserves were 6%, down three points. The decrease year-over-year is related to A, a higher mix of our revenue coming from our distribution business for which we have less return risk, and lower channel exposure in Europe.

Inventory was $328 million, up $105 million sequentially. Only a small portion of this increase is for our own titles where we carry full inventory risk.

Ending deferred net revenue from packaged goods and digital content was $424 million, up $232 million sequentially primarily due to a build of deferred net revenue related to our Q2 releases.

Now to our outlook -- let’s start with the industry. We continue to expect software sales to grow 20% or more this year combined for North America and Europe. Keep in mind that year-over-year comparables will get more difficult in the holiday quarter given the robust growth experienced a year ago.

Now for our guidance -- before, I get into the numbers, I would like to provide some detail on our recently announced cost reduction plan. Beginning in our third fiscal quarter, we expect to reduce our worldwide staff by approximately 6% across the labels, publishing and corporate divisions. We expect to incur cash charges of approximately $10 million, the majority of which will be incurred in our fiscal third quarter. We expect this action to result in annual operating cost savings of approximately $50 million.

As part of this cost reduction initiative, we expect to reduce hiring and continue to expand in lower cost locations. At the end of FY09, we expect to have fewer employees in high cost locations versus the end of last year. Also, as we enter our planning process for FY10, we expect to carefully scrutinize all operating expense budgets and optimize the company SKU plan.

Now for the GAAP guidance -- for the full year, we expect: GAAP revenue to be between $4.9 billion and $5.15 billion; GAAP EPS to be between a diluted loss per share of $0.21 to diluted earnings per share of $0.07; GAAP gross margin to be between 54% and 55%; diluted share count to be approximately 325 million shares.

We expect to end the year with roughly $500 million in deferred net revenue related to online-enabled packaged goods.

Now our non-GAAP guidance -- as John indicated, we are lowering our full year EPS guidance by $0.30 on both the top and bottom end of the range for various items including: the shift of Harry Potter, which is $0.13 of EPS; foreign exchange impact, which is $0.12 of EPS; catalog weakness and other factors. including the slip of Saboteur.

For the full year, we now expect: non-GAAP revenue to be between $5.0 billion and $5.3 billion; non-GAAP EPS to be between $1.00 and $1.40 per share; non-GAAP gross margin to be between 55.5% and 56.5%; diluted share count to be approximately 325 million shares.

Please see our press release for the difference between our expected GAAP and non-GAAP guidance.

Let me provide some additional detail. FX assumptions -- foreign exchange rates have been volatile in the last few weeks and for purposes of guidance, we are taking into account current spot rates. To the extent the U.S. dollar continues to strengthen against the Euro and GBP, we may have downside EPS exposure.

On Non-GAAP expenses -- R&D; given our headcount reduction, more focus on headcount additions through the back half of the year and the weaker Canadian dollar, we now expect non-GAAP R&D will increase roughly 25% to 27% year-over-year. Core R&D expenses are expected to grow at a high single digit percentage year-over-year.

We expect sales and marketing to be flat as a percentage of revenue versus last year, and we expect G&A to be down 1 to 1.5 points as a percentage of revenue versus last year.

On non-GAAP operating margins, we expect a non-GAAP operating margin of 8.5% to 11.25% for FY09, or an increase of 50 to 325 basis points from fiscal ‘08.

Below the operating income line, we expect that non-GAAP other income and expense will be roughly $35 million this year, down from our last estimate and down significantly from last year as a result of steep declines in interest rates and foreign exchange losses.

Income taxes -- we expect our non-GAAP tax rate for FY09 to be 28%. You can also use this 28% rate to model the quarters. On a GAAP basis, we expect $35 million to $70 million of tax expense. Please note that our GAAP tax rate can be particularly volatile at lower levels of pretax income as a relatively small change can produce a big swing in our annual effective tax rate.

A few things you need to keep in mind for the quarters. Given the change in mix of our revenue, we expect our non-GAAP gross profit margin to be in the mid 50s for Q3 and low 60s for Q4.

On bonus phasing, we expect to incur $35 million to $40 million in bonus expense in each quarter, given the straight line accounting. Relative to last year, this will result in less bonus expense in Q309 versus Q308. Last year, the bulk of the full year bonus expense was booked in Q308.

Now our Q3 title slate -- we have 21 titles and 56 SKUs slated for Q3 versus 10 titles and 38 SKUs a year ago. Please see the supplemental deck on our website for the complete listing.

We made the decision to launch Lord of the Rings Conquest in a better ship window, January 09.

From EA Partners, we expect to ship 13 SKUs, including Left 4 Dead and Rock Band Track Packs.

From EA Mobile, we plan to release 12 games, including Need for Speed, FIFA and Trivial Pursuit.

That concludes our guidance and outlook commentary.

I would now like to turn the call over to John Pleasants, our Chief Operating Officer.

John Pleasants

Thank you, Eric and good afternoon, everybody. I would like to cover a few topics. First, go a bit deeper on Q2 and discuss some of our learnings and observations. Second, discuss what we are seeing at retail and key titles we have for the upcoming holiday quarter. And third, wrap up with what we are doing in our digital direct-to-consumer businesses.

As John and Eric indicated, Q2 came in as expected but we wanted to share a few observations.

First in sports -- we raised a question on the July earnings call as to whether quality and innovation would trump soft pre-orders. We now have the answer -- it does. Every one of our sports simulation titles was up in quality this year and our sales trend has turned positive.

Second, SPORE met our initial expectations as a packaged goods PC product and we are pleased to report it’s the most successful North American new IP launch on PC, beating both The Sims and World of Warcraft. So we’re off to a great start. What is also interesting is the strong user engagement we are seeing -- over 40 million creations have been shared online, and on YouTube 150,000 videos have been uploaded and viewed over 30 million times. That makes us very confident that we can build SPORE into a platform for years to come. We have two expansion packs coming over the next six months with much more on the way.

Third, we are also making progress with non-traditional forms of marketing. This is an important initiative for us as we look to drive efficiencies in our cost of customer acquisition. We continue to experiment with viral and online marketing and are thrilled with the response from our Tiger Woods and Mercenaries campaigns, in particular. If you haven’t already done so, you should check out the Tiger Woods walk on water YouTube video, which has received over 2.3 million viewings so far.

Now let me shift to the retail environment and our holiday slate. As you know well, the overall retail environment is tough -- foot traffic is soft, consumer spending is down and total retail forecasts for the holiday are down. However, in our category retailers are betting on the video game sector this holiday. Major retailers are continuing to add space to the sector; particularly Walmart and Best Buy in North America and Asda and Tesco in Europe. Specialty retailers continue to add hundreds of stores. Although these are positive indicators, the overall economic environment is leading retailers to be more conservative with their open-to-buys and general inventory management. Based on what we have seen in October, retailers are being cautious, particularly in North America.

In addition, we are seeing weakness in catalog particularly in games with limited online connectivity. This is something we are addressing directly with post launch content such as on NBA Live, where the game is refreshed daily. You’ll see more of this in our upcoming launches.

For EA, we’ve got an incredibly strong slate of titles that we believe positions us well this holiday. We’ve got tent pole games -- Need for Speed Undercover, FIFA, NBA Live and My Sims. We’ve got new innovative IP, including critically acclaimed Mirror’s Edge and Dead Space. We’ve got our casual line up, including Littlest Pet Shop and Nerf-n-Strike from Hasbro. We’re thrilled to be expanding into this important genre and finally, we’ve got a broad slate of Nintendo games. We’ve released 10 SKUs and have 30 coming, including Nerf-n-Strike, Skate it and MySims Kingdom.

Now let me switch gears and talk about a key long term strategic initiative for EA, our digital direct-to-consumer businesses. We are back in the MMO business with the launch of Warhammer Online. Currently, 800,000 people are playing online worldwide. In North America, we have 250,000 subscribers in less than two weeks and are seeing conversions of over 70%. Although it is still early days, we like what we are seeing. In addition, we announced we have Star Wars: The Old Republic MMO under development in EA’s BioWare studio in partnership with Lucas Arts.

We are making good progress in Asia with our mid-session games. Today we have nine instances of our FIFA and NBA Street franchises in closed beta in various countries across Asia and we expect to be generating revenue on all of them by year-end. That compares to just one game last year.

We are starting to make progress on premium downloadable content. Burnout Paradise was our first full download game on the PlayStation Network, with over 20,000 downloads in a three week period. In Tiger Woods PGA TOUR 09, consumers have purchased 90,000 pieces of content in just over five weeks, driving micro-transaction revenue up 5x that of last year.

On the PC side, we just launched the Sims 2 store and so far, we have generated $14.50 per paying user in micro-transactions. Although the dollars are all relatively small, the growth is significant.

Our wireless business is also delivering, with revenue up 25% for the first six months. This business is on track to generate over $185 million in revenue this year, consistent with our previous guidance.

With that, I’ll turn it back to John.

John S. Riccitiello

Thanks, John. Before we take your questions I want to emphasize a few thoughts. First, reducing our guidance is a big deal and we take it seriously. We’re proactively making cost adjustments now and will continue to do so as we plan the next fiscal year. Second, we are in a fast growing industry driven by innovation and technology. Third, we are making significant progress on the business and have the right long term strategy and are driving towards our FY11 targets.

In summary, while we are very bullish longer term, we are more cautious in the short term. With that, we would be happy to take your questions.


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