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24
The following discussionof fiscal 2007 expected results excludes equity based compensation, such as the
impact of expensing stock options under SFAS 123R, “Share-Based Payment” (“SFAS No. 123R”), a
revision of SFAS No. 123, that we will adopt in our first quarter of fiscal 2007. We expect cost of sales to
decline slightly as a percentage of net sales in fiscal 2007 compared to fiscal 2006. License amortization and
royalties expense, as a percentage of net sales, are expected to decline in fiscal 2007 as we have more
original properties in our product mix. Software development amortization, as a percentage of net sales, is
expected to increase in fiscal 2007 as compared to fiscal 2006, primarily due to the higher development
costs for games on next-generation platforms and product development expense is expected to decrease in
fiscal 2007 as manynext generation titles have reached technological feasibility. General and
administrative costs are expected to remain constant in absolute dollars and decline as a percentage of net
sales. We expect operating margins to improve from 4% in fiscal 2006 to 8 to 9% in fiscal 2007. The
effective tax rate in fiscal 2007 is expected to be 30% and is subject to change based on changes in
geographical profits and other factors. Based on an expected fully diluted share count of 68 million, we
expect earnings per share of $0.90 to $1.00 infiscal 2007. For fiscal 2007, we expect the impact of equity
based compensation to be approximately $0.16 per fully diluted share.
Prospective Business Trends
Transition to next-generation console systems. Our industry is currently in a transition phase as sales of
games for the existing platforms decline and sales of games for new platforms begin to accelerate as new
hardware installed bases grow. Microsoft recently launched Xbox 360; Sony and Nintendo have announced
plans to introduce new console platforms in calendar 2006 and in fiscal 2005 Nintendo and Sony each
launched new handheld platforms. In terms of volume and pricing, sales of interactive entertainment
software have traditionally decreased in transition years, as consumers decrease their purchases of software
for current generation hardware while they wait for the release of the new platforms. Our strategy during
this transition is to: leverage our currentbrands and catalog titles and selectively introduce high-potential
new franchises for the growing installed base of current-generation hardware and the high-end PC market;
establish unique new intellectual properties early inthe cycle on next-generation platforms; leverage our
handheld leadership; continue to grow wireless revenues and profitability; and pursue emerging revenue
opportunities.
Increase in development costs. The next-generation consoles have increased functionality (e.g., realistic
environments, artificial intelligence and on-line game play) over their current generation counterparts. The
increased functionality delivers a more exciting gaming experience but adds complexity to the development
of video games for these new consoles. This complexity increases the overall cost to develop these games
and accordingly, during fiscal 2007, we expect our average software development costs to increase as we
develop games for these new consoles.
Software pricing. We expect the average selling price of video games on current generation systems will
continue to decline as the industry transitions to next-generation console systems. Traditionally video game
sales have decreased in transition years, as consumers decrease their purchases of software for current
generation hardware while they wait for the release of the new platforms. As the installed base of next-
generation hardware grows, and as net sales of video games made for play on those next-generation
consoles increases, we expect the average selling price of video games to increase, having a positive impact
on our margin.
Increase in installed base. With the introduction of new console platforms, the overall installed base of
video game platforms has historically increased. Platform manufactures have reduced pricing on their
existing consoles and we expect to continue to shipboth new titles and games from our expansive catalog
of previously released titles made for play on these consoles. As the installed base of next-generation
console platforms increases, we plan to release titles based on our most popular owned and licensed