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Edited Transcript of 263750.KQ earnings conference call or presentation 7-Nov-19 11:00pm GMT

Q3 2019 PearlAbyss Corp Earnings Call

ANYANG Nov 23, 2019 (Thomson StreetEvents) -- Edited Transcript of PearlAbyss Corp earnings conference call or presentation Thursday, November 7, 2019 at 11:00:00pm GMT

TEXT version of Transcript

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Corporate Participants

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* Kyung In Jung

Pearl Abyss Corp. - CEO & Director

* Seok Woo Cho

Pearl Abyss Corp. - CFO

* Young Heo Jin

Pearl Abyss Corp. - COO

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Conference Call Participants

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* Jong Hwa Sung

eBest Investment Securities Co. Ltd, Research Division - Analyst

* Min Jung Kim

HI Investment & Securities Co., Ltd., Research Division - Research Analyst

* Minuh Cha

Goldman Sachs Group Inc., Research Division - Analyst

* Stanley Yang

JP Morgan Chase & Co, Research Division - Analyst

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Presentation

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Operator [1]

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[Interpreted] Good morning, and good evening. First of all, thank you all for joining this conference call. And now we'll begin the Conference of the Fiscal Year 2019 Third Quarter Earnings Results by Pearl Abyss. (Operator Instructions) Now we shall commence the presentation on the fiscal year 2019 third quarter earnings results by Pearl Abyss.

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Unidentified Company Representative, [2]

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[Interpreted] Yes, greetings, this is [Jong Jin Gyu], Head of the Finance team at Pearl Abyss. First of all, let me express my thanks to all analysts and investors from Korea and abroad for joining us at this third quarter 2019 earnings call today despite your busy schedule.

Before beginning today's earnings presentation, I would like to seek your understanding on the following matters. Please be advised that the financial performance and business results in our earnings release today have been prepared for the convenience of our investors and are subject to change, depending upon final closing of our books. Also, please be reminded that no guarantees are provided on the accuracy or completeness of the financial and business results materials, therefore, the company shall not be responsible for providing future updates on materials presented herein, which are based on current facts at the time of writing.

This morning, we have with us members of the management, including our CEO, Mr. Jung Kyung In; CBO, [Mr. Kim Jong Man]; COO, Mr. Heo Jin Young; and CFO, Mr. Cho Seok Woo. CFO Cho Seok Woo will first take us through the business highlights, followed by a Q&A session.

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Seok Woo Cho, Pearl Abyss Corp. - CFO [3]

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[Interpreted] Good morning. This is Cho Seok Woo, CFO at Pearl Abyss. Again, thank you very much for taking part in our earnings call despite your very busy schedule.

First of all, I would like to walk you through some of our major business activities and results for the third quarter of 2019. Overall, we have continued to work hard to solidify the value of our IP portfolio across multiple platforms, engaging in diverse activities to prolong the product life cycle of our titles. For Black Desert, for instance, we have been working to provide simultaneous global updates and making Secret Quest available across all service regions and [growing] Black Desert's position as a truly global game. In addition, we have been expanding our distribution channels, making [Steam] services available in the Southeast Asian region in order to increase our user base and boost sales.

In the case of Black Desert Mobile, we have been working to increase users through diverse updates and collaborations. In Korea, we had a collaboration marking the launch of new class Lahn, which resulted in improvement in our user indicators, with the number of return users increasing by 220% and new users by 164%, respectively, in turn allowing us to see stable financial results.

For Japan, where we are now into our third quarter post launch, we have seen a decline in revenue as the initial launch effect is starting to wear off and as we scale back market activities. Nonetheless, every time there is a major update like Awakening, we are seeing a rebound in our rankings, moving back up to the upper 10th place or so, thanks to our efforts to solidify our core user base.

For consoles, we continue to see stable results. Black Desert for Xbox, which was released in March, has been maintaining solid in-game sales through diverse updates. Also with Black Desert's launch of PlayStation 4 in North America, Europe, Japan, Korea and Australia as of August 23, which was, in fact, our second console service expansion, we were able to further diversify our revenue sources. Notably, we recorded a very positive result in Japan, the home place of the PlayStation, recording #1 ranking for about 2 weeks on the PlayStation online store.

We've also been strengthening our user communication channels following Black Desert TV for Black Desert users in the second quarter. We started our first official creator service for Black Desert Mobile users, which allows us to produce development notes to our users in real time as part of our efforts to always think and communicate from the user's perspective. We're also trying to engage in closer communications with not only online but also mobile users through subsidized clan get-together dinners, et cetera. We've also held a Fanfest tour for global users together with our [Iceland] subsidiary, visiting a total of 6 cities up to the third quarter, engaging in direct communications as a form of care for our long-time loyal users, further reinforcing game fandom.

We are also continuing to prepare for the future in many different ways. Of particular note, we are watching the cloud-based game streaming market with interest as we explore underlying market feasibility. As an example of these efforts, we made Black Desert available for demo on Microsoft's new cloud streaming platform, xCloud, and continue to work in collaboration with many other different global platform providers as well and always have a keen eye out of the latest market developments to identify future changes in the market.

Additionally, we own robust cross-platform technologies that allow us to service a single IP across multiple different platforms. Advancements in telecommunications technology and peripheral devices are now making it more difficult than ever to predict how the content and video game markets may change. However, our technological advantages will increasingly serve as a very important technology access in this context.

Next, let me take you through our Q3 financial performance results. First, our operating revenue decreased by 11.8% Q-on-Q, recording KRW 134.4 billion. Our operating profit and net profit were down 30.6% and 13.8%, respectively, versus Q2, reporting KRW 39.5 billion and KRW 44.5 billion, respectively. Our operating profit ratio and net profit ratio each recorded 29% and 33%, respectively.

Let me explain in further detail about our operating revenue, first by IP. Operating revenue from Black Desert posted KRW 119.8 billion, dropping 12.8% from the previous quarter. And the initial launch effect from Black Desert Mobile, which was released in Japan in the first quarter, diminished. In terms of our sci-fi IP, we reported operating revenue of KRW 14.6 billion, a drop by 2% Q-on-Q.

In terms of operating revenue by region, driven by the drop in Black Desert Mobile sales in Japan in the third quarter, the share of Asian region sales dropped by 2 percentage points quarter-on-quarter to 43%. The share of North America and Europe increased slightly quarter-on-quarter by 1 percentage point to 29%.

Moving on to operating revenue by platform. 31% of third quarter operating revenue was from the PC platform; 57% from mobile; 12% of total revenue came from consoles, which have been maintaining stable top line trends. Due to deferral accounting treatment, there is a slight difference between the accounting numbers for revenue versus total sales or bookings. For your information, as a percentage of total sales or bookings, consoles now account for 16% of the total. The share of revenue generated from the mobile and console platforms are expected to increase going forward in light of the global planned launch of Black Desert Mobile in December and also in considering that deferred Q3 revenue will be fully reflected in fourth quarter results.

Next, moving on to operating expenses. Operating expenses in the third quarter posted KRW 94.9 billion, recording a 0.5% drop Q-on-Q. Labor expenses came in at KRW 26.7 billion, a 4.8% Q-o-Q increase driven by the 7.2% increase in headcount. Labor expenses as a percentage of revenue was 19.9%. And for your information, the number of employees now stands at 1,151 as of the end of the third quarter, which is an increase by 77 persons compared to the second quarter. We have 709 developers, and the percentage of developers to total headcount now stands at 61.6%. We expect to continue hiring talented [general] resources for the time being as we continue to expand our service lineup and develop new games.

Our commissions, meanwhile, recorded KRW 41 billion, dropping 6.5% Q-on-Q, thanks to a decrease in platform commissions and also efforts to reduce infrastructure-related costs. The ratio of commissions as a percentage of revenue was 30.5%. While marketing and advertising costs recorded a slight increase of 2.6%, posting KRW 15.8 billion due to marketing activities following the release of PlayStation 4, we did enact marketing cost discipline in other areas.

And finally, let me outline some key highlights for the fourth quarter of 2019. We have been building on our stable IP portfolio to consistently expand our service offerings and develop new IPs as we work toward our goal of becoming a world-class game studio. We intend to further reinforce the value of our existing IP by continuing to provide users with rich content and services to enjoy into the fourth quarter as well. We have diverse new updates in the works, including new characters and new regions.

For Black Desert, we hope to inject more interesting elements for users to enjoy, such as a succession update as one example. For Black Desert Mobile, we are planning to hold mobile user meetings efficient to our new territory, the Great Desert content update.

We intend to improve our connectivity and interface with users by taking part in G-STAR events. We have many ideas and plans we're working on at the moment, including in-service game demos, hands-on tryout events, among others. We're planning on an arena of Archer PVP battle to do 2-on-2 tournaments, et cetera, for users, to keep them engaged and interested.

We also intend to continue to expand our existing IP services. First, Black Desert Mobile Global will be rolled out in 150 countries sometime in December. Preregistrations [we opened] starting September 24 have already recorded 2.5 million in just 1 month or so, which is very encouraging, especially considering limited marketing activity. We did a soft launch on October 24 in 7 select countries, which will be followed up with targeted marketing for different regions as full services are launched and as we continue to work to deliver successful services.

Also, the EVE Online Korean localization version will be launched later on November 14, as announced in March. The game, which is loved by many global users around the world, will be showcased at the G-STAR events, where users could get an opportunity to test it out themselves.

In addition, we are also in the process of planning a spinoff game using Black Desert IP called Shadow Arena. We have already done several rounds of focus group testing, and Shadow Arena will enter closed beta testing with users 2 weeks from now, on November 21. Once finished, the game should be playable not only on PCs but across multiple platforms.

Lastly, as was disclosed in our press release yesterday, our lineup of 4 new titles, including Shadow Arena, will be unveiled at G-STAR. The lineup includes Plan B (sic) [PLAN 8], which is a fast-paced exosuit MMO shooter game; DokeV, which is a collectible open-world MMORPG for all ages that the entire family can enjoy; and Crimson Desert, which is expected to become the next flagship MMORPG for Pearl Abyss. As you can see, this diverse lineup of different genre will appeal to many different game users and different regions, helping us to achieve more stable growth going forward. We will be prepared to talk more about the new games at next week's G-STAR.

All employees and members of the management including our CEO at Pearl Abyss are doing our very best so that you can have more to look forward to, and we ask for your continued interest and support.

(foreign language)

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Questions and Answers

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Operator [1]

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[Interpreted] Now Q&A session will begin. (Operator Instructions) The first question will be given by Eric Cha from Goldman Sachs.

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Minuh Cha, Goldman Sachs Group Inc., Research Division - Analyst [2]

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[Interpreted] Yes, this is Eric Cha from Goldman Sachs. It does seem that in the third quarter, overall, relative to the second quarter and your outlook in the second quarter, performance has been a bit down for Black Desert Mobile. So I think previously, you suggested that you are expecting positive product life cycle management. So what changed versus your earlier projection in the second quarter? And in the fourth quarter, with many of your competitors set to release blockbuster new products, what is your strategy in terms of defense for Black Desert Mobile? And what are your revenue projections for the fourth quarter?

The second question has to do with Black Desert Mobile Global, where you did a soft launch already. Are you ready to share any of the results with us, including any metrics?

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Kyung In Jung, Pearl Abyss Corp. - CEO & Director [3]

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[Interpreted] So regarding your question about Black Desert Mobile, let me share with you some revenue trends that we have been observing for different regions in the third quarter and our outlook for the fourth quarter.

So in terms of the current status by region, let me start with Korea. In terms of our Google average ranking, we are currently maintaining around seventh place, which is 3 steps down from the second quarter. This shift in ranking is mostly due to competition among the higher ranking games, which resulted in what we see as a rather marginal difference in terms of revenue outcome. Despite the slight change in ranking, our third quarter revenue was quite stable still, in relative terms.

In the third quarter, our competitors started [marketing] their blockbuster MMORPG games slated for release in the fourth quarter, which resulted in many users delaying payment on existing games, which we believe may have partially impacted us as well.

So in the fourth quarter, we do expect intense competition due to the initial launch effects of new rollouts. However, we have been preemptively engaged in various market activities to climb back up the ranks by bringing back return users.

We are also planning major updates for the upcoming winter season, including the Great Desert, which is a large-scale PVP content and also Black Desert PC, popular class, which we expect will help us achieve a rebound in both user indicators and revenue at the same time.

In Japan, our third quarter revenue did decline as the initial effect following the launch diminished, but we observed a comeback in the rankings to upper 10th place or so at every update, and we believe we are currently establishing a pattern for long-term commercial success in the Japanese market, where the MMORPG genre tends to be weak.

Given our current stable core user base as well as the impact of future updates, we believe that the revenue stabilization trend in Japan will be played out and result in part within the fourth quarter.

In Q4, we will be unveiling services specialized for the Japanese market, including a collaboration with another company, so that we can drive a recovery in revenue and build up the basis for long-term stable services, which we'll continue to work to achieve in Japan.

For Taiwan, we engaged in various events and updates, including a new character, [Don], and new territory, Hadum, in order to bolster our user indicators. In the fourth quarter, we will do our best to achieve a revival in Black Desert Mobile in Taiwan by ensuring same availability of content as Korea through fast content updates.

Also, we're in the process of exploring effective marketing strategies for our different service regions.

In the first quarter, we focused our marketing on acquiring new users, whereas in the second and third quarters, our focus is more on efficient execution of marketing expenses in existing service regions for improved profitability.

We are currently comparing the trade-off from these 2 strategies, one focused on driving revenue growth through expanded marketing spend, versus one focused on improving profitability through efficient marketing, to determine which strategy may be best in terms of prolonging the life cycle of our products.

Going forward, we will conduct further testing to determine which is most suited for stable service operations, and we'll do our best to achieve the highest level of both live services and also financial performance.

Now let me talk to you about the Black Desert Mobile Global soft launch.

Black Desert Mobile Global recorded 2.5 million preregistrations in just 1 month after opening for preregistration on September 27.

We did a soft launch in 7 select countries, including Canada, Australia, Ireland, Sweden, Turkey, Malaysia and Chile, on October 24, in order to assess the reaction of different regions and to engage in customized marketing, with the full scope launch planned for some time in December.

With the soft launch, we are now in the process of checking on what factors may be required for successful game services.

First, we are seeing very high user retention, which is quite positive, and it gives us reason to believe that the game is likely to do very well upon full-scale launch. We also confirm that the game works well on different types of devices that vary by region.

We conducted focus group tests to prepare a build that best reflects the environment and views of local users, and they have already received very good reviews from major gaming media outlets.

We will continue to build on our years of experience of successfully running Black Desert Mobile, and we have worked very hard to prepare for global through early studies and testing, and we'll continue to pay attention to what our users are saying to provide successful services on a long-term basis.

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Unidentified Company Representative, [4]

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[Interpreted] So that was our CEO, Jung Kyung In; and Mr. Heo Jin Young, COO, who provided the answer. Now, we'll move on to the next question.

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Operator [5]

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[Interpreted] The following question is by Stanley Yang from JPMorgan.

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Stanley Yang, JP Morgan Chase & Co, Research Division - Analyst [6]

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[Interpreted] Yes. This is Stanley Yang from JPMorgan. I also have 2 questions. It seems that you are preparing to showcase some of your new titles on November 14. So from that point on until actual launch of those products, what kind of time line do you have in mind? So I would imagine that you would have a pretty long period from that point until actual launch. So in the meanwhile, what plans do management have in terms of boosting stock prices and also corporate value? So I want to hear more about those policies. I'm asking because in the case of other companies like Polish CD RED (sic) [CD PROJEKT RED] gaming company, even after first uncovering Cyberpunk, their new title, they continued to show new contents through various game shows to build up expectation for the company and helping boost their corporate value and stock prices. So what kind of strategies, [I'd like to know first], I'd like to hear more about.

And regarding EVE: Echoes, I heard that as OBT is slated for December, it will be done by NetEase. So in Korea, OBT is understood to be synonymous with commercialization, whereas, I don't know, in China, do they differentiate between OBT versus commercialization? I'd like to know first. And then would OBT or commercialization likely happen in terms of the time line? It seems that the EVE: Echoes would likely be directed to the global markets rather than the Chinese market. So what kind of expectations do you have in terms of global sales outlook?

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Kyung In Jung, Pearl Abyss Corp. - CEO & Director [7]

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[Interpreted] So let me answer the question regarding our new titles. First, I'll take you through some of our new game plans first. In terms of our new products, we have a lineup of a total of 4 games, including Shadow Arena, PLAN 8, DokeV and Crimson Desert.

So as was unveiled through the press release and teaser yesterday, PLAN 8 is a exosuit MMO shooter game, previously called Project K as a codename.

And DokeV is a collectible open-world MMO. This is Project V. And lastly, Crimson Desert is an open-world MMORPG game set against the medieval times.

So with the exception of Shadow Arena, the 3 new games are all built on our next-generation engine or with the goal to launch for both console and the PC platform simultaneously. And we are considering expansion onto mobile class -- cross platforms, excuse me, and also game streaming going forward.

And Shadow Arena is a close-quarter combat action PC game cast in a fantasy world. It's a battle royal game for fans who enjoy combat games and RPGs.

After release in June, we underwent many rounds of internal beta testing and focus group testing, and we're now in the process of polishing the game further based on insights gained.

We will be operating a demo and trial zone at G-STAR so that users can test it out themselves. And we're also planning a closed beta test for global users in November. Also, the release date has not been finalized yet, but we are working to launch formal services quickly within the first half of next year.

So the new lineup of 4 games, including Shadow Arena, will be unveiled and showcased at the G-STAR event next week. So we look forward to your great interest and affection.

And regarding all 4 new games, we are actually working, just as the other competitors are doing, to build up expectation on the market among our users by continuing our developments in line with the development milestones.

And our big unveil at G-STAR next week may be understood as the first big milestone, and we seek your understanding on our not being able to provide any further details beyond that today.

And then your second question regarding Echoes. So as you mentioned, for the sci-fi mobile, there is a beta test planned for December this year. So by open beta test here, it's actually something different from how OBTs are typically understood in Korea. Usually, in [Korean] context, we consider OBT to have it right immediately before commercialization. But for our purposes, I think it's fair to just say that it's a opportunity to do open beta testing. And in terms of probability or possibility of success, as you may know, the sci-fi game IP has been in service for a long time, over 15 years, and is a game that is much beloved by users and gamers around the world. And we expect it to deliver good results, given the solid position of the IP franchise, especially in the western countries, consistent updates, thanks to vast PC-based resources and world-class mobile development capabilities of our partner.

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Unidentified Company Representative, [8]

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[Interpreted] The answer was provided by our CEO, Mr. Jung. We'll accept the next question, please.

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Operator [9]

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[Interpreted] The following question is by Min Jung Kim from HI Investment Securities (sic) [HI Investment & Securities.]

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Min Jung Kim, HI Investment & Securities Co., Ltd., Research Division - Research Analyst [10]

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[Interpreted] Okay. I have just 3. First, I understand that Black Desert Mobile was launched on One store. So can you give us an update on the status of sales on One store? And also, console total sales or bookings, can you give us the split between packaging versus in-game sales? And also regard, can we get an update on the license issue regarding Echoes?

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Young Heo Jin, Pearl Abyss Corp. - COO [11]

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[Interpreted] So first, regarding One store. Black Desert Mobile was listed on One store as of October 18 to expand distribution of Black Desert Mobile services.

So commissions at One store are lower than other markets, it's around 20%, which means scope for improved margin, if we can increase our One store sales. However, since Black Desert Mobile has already been in service for close to 1.5 years already now in Korea, there may be (technical difficulty) through the One store channel.

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Seok Woo Cho, Pearl Abyss Corp. - CFO [12]

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[Interpreted] And then second, regarding console sales, you asked for a split between packing -- or packaging versus in-game sales. So overall, console sales are moving in line with sales trends of Black Desert in the North American market. For Xbox, which was recently launched, about 80% to 90% of sales for the current period are coming from in-game sales. So for PS4, which was more recently launched in the third quarter, it did have a higher percentage of packaging sales, but into the month of September and October we have been observing that in-game sales actually have been coming up considerably, recording around 60% to 70%.

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Kyung In Jung, Pearl Abyss Corp. - CEO & Director [13]

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[Interpreted] And then regarding the third question about the current status of service preparation for Echoes in China. Actually, there's been growing interest within China for the sci-fi genre overall. So regarding the EVE: Echoes, we are considering not only global launch, but also launch of services within the Chinese market, and that is how we are developed -- that's the basis of our development and service preparations. However, the license from the authorities has not been approved yet, but we will update you as soon as it does become available.

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Unidentified Company Representative, [14]

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[Interpreted] Thank you. So the 3 answers were provided by the CBO, CFO and CEO, respectively.

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Operator [15]

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[Interpreted] The following question is by Jong Hwa Sung from eBest Investment Securities.

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Jong Hwa Sung, eBest Investment Securities Co. Ltd, Research Division - Analyst [16]

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[Interpreted] Yes. I would like to ask more about consoles as well. If you could provide a breakdown of console sales between Xbox and PS4, that would be helpful.

So initially, we had considered that PS4, since it was launched in the third quarter -- or excuse me, August 23, that quarter had more business days. And not only was it launched in North America, but also in Korea, Japan as well. We thought that, at the very least, PS4 sales in the third quarter should be at least 2x or more higher than Xbox sales recorded in the first quarter. But I think relative to our expectations, the actual results for Q3 have been a bit low. So could you explain what actually happened? It seems that other assumptions pretty much have been played out, except there was a discrepancy just for the console side, if you could explain further?

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Seok Woo Cho, Pearl Abyss Corp. - CFO [17]

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[Interpreted] So let me provide a sales breakdown for the PlayStation 4 and Xbox versions. So based on a comparison within the same period, PS4 sales or revenue trends actually have been about 30% higher than Xbox sales trends. So however -- so only a portion of PS4 sales in the third quarter actually were accounted for in the third quarter, considering service began in the current period. So what happens is only 55% of third quarter revenue was accounted for in the books, and the rest was deferred to the next quarter.

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Unidentified Company Representative, [18]

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[Interpreted] That was Mr. Cho, our CFO. With that, we will now conclude the third quarter earnings call for Pearl Abyss 2019. Thank you for taking part. Thank you.

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Operator [19]

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[Interpreted] This concludes the fiscal year 2019 third quarter earnings results by Pearl Abyss. Thank you for your participation.

[Portions of this transcript that are marked Interpreted were spoken by an interpreter present on the live call.]