Edgar Filing: ELECTRONIC ARTS INC.

Document

UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

WASHINGTON, D.C. 20549

FORM 10-Q


þ	QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

For the Quarterly Period Ended June 30, 2018


¨	TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

For the Transition Period from to

Commission File No. 000-17948

ELECTRONIC ARTS INC.

(Exact name of registrant as specified in its charter)



Delaware	94-2838567
(State or other jurisdiction of incorporation or organization)	(I.R.S. Employer Identification No.)
209 Redwood Shores Parkway Redwood City, California	94065
(Address of principal executive offices)	(Zip Code)

(650) 628-1500

(Registrant’s telephone number, including area code)

Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. YES þ NO ¨

Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files). YES þ NO ¨

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, a smaller reporting company, or an emerging growth company. See the definitions of “large accelerated filer,” “accelerated filer,” “smaller reporting company,” and “emerging growth company” in Rule 12b-2 of the Exchange Act.



Large accelerated filer	þ	Accelerated filer	¨
Non-accelerated filer	¨	Smaller reporting company	¨
Emerging growth company	¨	(Do not check if a smaller reporting company)	¨

If an emerging growth company, indicate by check mark if the registrant has elected not to use the extended transition period for complying with any new or revised financial accounting standards provided pursuant to Section 13(a) of the Exchange

Act. ¨

Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act). YES ¨ NO þ

As of August 3, 2018, there were 304,818,260 shares of the Registrant’s Common Stock, par value $0.01 per share, outstanding.

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ELECTRONIC ARTS INC.

FORM 10-Q

FOR THE PERIOD ENDED JUNE 30, 2018

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		Page
Part I - FINANCIAL INFORMATION
Item 1.	Condensed Consolidated Financial Statements (Unaudited)
	Condensed Consolidated Balance Sheets as of June 30, 2018 and March 31, 2018	3
	Condensed Consolidated Statements of Operations for the Three Months Ended June 30, 2018 and 2017	4
	Condensed Consolidated Statements of Comprehensive Income for the Three Months Ended June 30, 2018 and 2017	5
	Condensed Consolidated Statements of Cash Flows for the Three Months Ended June 30, 2018 and 2017	6
	Notes to Condensed Consolidated Financial Statements	7
	Report of Independent Registered Public Accounting Firm	35
Item 2.	Management’s Discussion and Analysis of Financial Condition and Results of Operations	36
Item 3.	Quantitative and Qualitative Disclosures About Market Risk	52
Item 4.	Controls and Procedures	54

Part II - OTHER INFORMATION
Item 1.	Legal Proceedings	55
Item 1A.	Risk Factors	55
Item 2.	Unregistered Sales of Equity Securities and Use of Proceeds	65
Item 3.	Defaults Upon Senior Securities	65
Item 4.	Mine Safety Disclosures	65
Item 6.	Exhibits	65
Exhibit Index		66
Signature		66

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PART I – FINANCIAL INFORMATION


Item 1.	Condensed Consolidated Financial Statements (Unaudited)

ELECTRONIC ARTS INC. AND SUBSIDIARIES

CONDENSED CONSOLIDATED BALANCE SHEETS



(Unaudited) (In millions, except par value data)	June 30, 2018			March 31, 2018 ^(a)
ASSETS
Current assets:
Cash and cash equivalents	$	3,876		$	4,258
Short-term investments	1,095			1,073
Receivables, net of allowances of $4 and $165, respectively	371			385
Other current assets	282			288
Total current assets	5,624			6,004
Property and equipment, net	440			453
Goodwill	1,886			1,883
Acquisition-related intangibles, net	107			71
Deferred income taxes, net	92			84
Other assets	98			89
TOTAL ASSETS	$	8,247		$	8,584

LIABILITIES AND STOCKHOLDERS’ EQUITY
Current liabilities:
Accounts payable	$	47		$	48
Accrued and other current liabilities	815			821
Deferred net revenue (online-enabled games)	602			1,622
Total current liabilities	1,464			2,491
Senior notes, net	993			992
Income tax obligations	276			250
Deferred income taxes, net	1			1
Other liabilities	253			255
Total liabilities	2,987			3,989
Commitments and contingencies (See Note 13)
Stockholders’ equity:
Common stock, $0.01 par value. 1,000 shares authorized; 305 and 306 shares issued and outstanding, respectively	3			3
Additional paid-in capital	339			657
Retained earnings	4,944			4,062
Accumulated other comprehensive loss	(26		)	(127		)
Total stockholders’ equity	5,260			4,595
TOTAL LIABILITIES AND STOCKHOLDERS’ EQUITY	$	8,247		$	8,584

See accompanying Notes to Condensed Consolidated Financial Statements (unaudited).

(a) Derived from audited Consolidated Financial Statements.

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ELECTRONIC ARTS INC. AND SUBSIDIARIES

CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS



(Unaudited)	Three Months Ended June 30,
(In millions, except per share data)	2018		2017
Net revenue:
Product	$	202	$	828
Service and other	935		621
Total net revenue	1,137		1,449
Cost of revenue:
Product	68		64
Service and other	147		90
Total cost of revenue	215		154
Gross profit	922		1,295
Operating expenses:
Research and development	362		325
Marketing and sales	140		121
General and administrative	114		105
Amortization of intangibles	6		1
Total operating expenses	622		552
Operating income	300		743
Interest and other income (expense), net	19		6
Income before provision for income taxes	319		749
Provision for income taxes	26		105
Net income	$	293	$	644
Earnings per share:
Basic	$	0.96	$	2.08
Diluted	$	0.95	$	2.06
Number of shares used in computation:
Basic	306		309
Diluted	310		313

See accompanying Notes to Condensed Consolidated Financial Statements (unaudited).

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ELECTRONIC ARTS INC. AND SUBSIDIARIES

CONDENSED CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME



(Unaudited)	Three Months Ended June 30,
(In millions)	2018			2017
Net income	$	293		$	644
Other comprehensive income (loss), net of tax:
Net gains (losses) on derivative instruments	93			(56		)
Foreign currency translation adjustments	(15		)	4
Total other comprehensive income (loss), net of tax	78			(52		)
Total comprehensive income	$	371		$	592

See accompanying Notes to Condensed Consolidated Financial Statements (unaudited).

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ELECTRONIC ARTS INC. AND SUBSIDIARIES

CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS



(Unaudited)	Three Months Ended June 30,
(In millions)	2018			2017
OPERATING ACTIVITIES
Net income	$	293		$	644
Adjustments to reconcile net income to net cash provided by operating activities:
Depreciation, amortization and accretion	38			31
Stock-based compensation	70			48
Change in assets and liabilities:
Receivables, net	169			135
Other assets	48			80
Accounts payable	8			(44		)
Accrued and other liabilities	(85		)	(116		)
Deferred income taxes, net	(74		)	55
Deferred net revenue (online-enabled games)	(347		)	(657		)
Net cash provided by operating activities	120			176
INVESTING ACTIVITIES
Capital expenditures	(32		)	(33		)
Proceeds from maturities and sales of short-term investments	207			438
Purchase of short-term investments	(228		)	(693		)
Acquisition, net of cash acquired	(50		)	—
Net cash used in investing activities	(103		)	(288		)
FINANCING ACTIVITIES
Proceeds from issuance of common stock	1			30
Cash paid to taxing authorities for shares withheld from employees	(89		)	(95		)
Repurchase and retirement of common stock	(300		)	(150		)
Net cash used in financing activities	(388		)	(215		)
Effect of foreign exchange on cash and cash equivalents	(11		)	10
Decrease in cash and cash equivalents	(382		)	(317		)
Beginning cash and cash equivalents	4,258			2,565
Ending cash and cash equivalents	$	3,876		$	2,248
Supplemental cash flow information:
Cash paid during the period for income taxes, net	$	28		$	7

See accompanying Notes to Condensed Consolidated Financial Statements (unaudited).

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ELECTRONIC ARTS INC. AND SUBSIDIARIES

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

(Unaudited)

(1) DESCRIPTION OF BUSINESS AND BASIS OF PRESENTATION

We are a global leader in digital interactive entertainment, with a mission to inspire the world to play. We develop, market, publish and distribute games, content and services that can be played on a variety of platforms including game consoles, PCs, mobile phones and tablets. In our games and services, we use brands that we either wholly own (such as Battlefield, Mass Effect, Need for Speed, The Sims, Plants v. Zombies and Titanfall) or license from others (such as FIFA, Madden NFL and Star Wars). We develop and publish games and services across diverse genres such as sports, first-person shooter, action, role-playing and simulation.

Our fiscal year is reported on a 52- or 53-week period that ends on the Saturday nearest March 31. Our results of operations for the fiscal year ending March 31, 2019 contains 52 weeks and ends on March 30, 2019. Our results of operations for the fiscal year ended March 31, 2018 contained 52 weeks and ended on March 31, 2018. Our results of operations for the three months ended June 30, 2018 and 2017 contained 13 weeks each and ended on June 30, 2018 and July 1, 2017, respectively. For simplicity of disclosure, all fiscal periods are referred to as ending on a calendar month end.

The Condensed Consolidated Financial Statements are unaudited and reflect all adjustments (consisting only of normal recurring accruals unless otherwise indicated) that, in the opinion of management, are necessary for a fair presentation of the results for the interim periods presented. The preparation of these Condensed Consolidated Financial Statements requires management to make estimates and assumptions that affect the amounts reported in these Condensed Consolidated Financial Statements and accompanying notes. Actual results could differ materially from those estimates. The results of operations for the current interim periods are not necessarily indicative of results to be expected for the current year or any other period.

These Condensed Consolidated Financial Statements should be read in conjunction with the Consolidated Financial Statements and Notes thereto included in our Annual Report on Form 10-K for the fiscal year ended March 31, 2018, as filed with the United States Securities and Exchange Commission (“SEC”) on May 23, 2018.

Recently Adopted Accounting Standards

On April 1, 2018, we adopted six new accounting standards which are discussed below. Other than Accounting Standards Codification (“ASC”) Topic 606, Revenue From Contracts with Customers (the “New Revenue Standard” or “ASC 606”), these other accounting standards did not have a material impact to our Condensed Consolidated Financial Statements.

In May 2014, the FASB issued the New Revenue Standard, which replaced ASC Topic 605, Revenue Recognition (the “Old Revenue Standard” or “ASC 605”), including industry-specific requirements, and provided companies with a single principles-based revenue recognition model for recognizing revenue from contracts with customers. The core principle of the New Revenue Standard is that a company should recognize the amount of revenue to which it expects to be entitled for the transfer of promised goods or services to customers.

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We adopted the New Revenue Standard on April 1, 2018, the beginning of fiscal year 2019, using the modified retrospective method. We elected to apply the New Revenue Standard only to contracts that were not completed as of the adoption date. The comparative information for periods prior to April 1, 2018 has not been restated and continues to be reported under the accounting standards in effect for those periods. The net cumulative effect adjustment upon adoption resulted in an increase to retained earnings of $590 million, net of tax, and included the impact from the following adjustments to our Condensed Consolidated Balance Sheet at April 1, 2018:



BALANCE SHEETS (In millions)	Balance at March 31, 2018			Adjustments due to New Revenue Standard Adoption			Balance at April 1, 2018
Assets
Receivables, net	$	385		$	158		$	543
Deferred income taxes, net	84			(64		)	20

Liabilities
Accrued and other current liabilities
Sales return and price protection reserves	$	—		$	158		$	158
Deferred net revenue (other)	108			(3		)	105
Deferred net revenue (online-enabled games)	1,622			(673		)	949

Stockholders’ Equity
Retained earnings	$	4,062		$	590		$	4,652
Accumulated other comprehensive (loss)	(127		)	22			(105		)

The most significant impacts of the New Revenue Standard are:

•

The accounting for our transactions as multiple elements or “bundled” arrangements. Under prior software revenue recognition accounting standards, because we did not have vendor-specific objective evidence of fair value (“VSOE”) for unspecified future updates or online hosting, we were not able to account for performance obligations separately, and therefore, the entire sales price of most transactions that had multiple performance obligations was recognized ratably over the period we expected to provide the future updates and/or online hosting performance obligations (the “Estimated Offering Period”). Under the New Revenue Standard, this VSOE requirement is eliminated and is replaced with a requirement for us to determine our best estimate of the stand-alone selling price of each performance obligation and allocate the transaction price to each distinct performance obligation on a relative stand-alone selling price basis. Therefore, we are able to account for performance obligations separately.

For example, for an individual sale of a game with both online and offline functionality, we typically have three distinct performance obligations; (1) the software license; (2) a right to receive future updates; and (3) online hosting. The software license performance obligation represents the game that is delivered digitally or via physical disc at the time of sale and typically provides access to offline core game content. The future update rights performance obligation includes updates on a when-and-if-available basis such as software patches or updates, and/or additional free content to be delivered in the future. The online hosting performance obligation consists of providing the customer with a hosted connection for online playability.

Since we do not sell the performance obligations on a stand-alone basis, we consider market conditions and other observable inputs to estimate the stand-alone selling price for each performance obligation. For games with services under the New Revenue Standard, generally 75 percent of the sales price is allocated to the software license performance obligation and recognized at a point in time upon delivery (which is usually at or near the same time as the booking of the transaction), and the remaining 25 percent is allocated to the future update rights and the online hosting performance obligations and recognized ratably over the Estimated Offering Period. For sales prior to April 1, 2018, our deferred revenue balances decreased by $740 million upon adoption of the New Revenue Standard because the software license performance obligation had been delivered in the prior fiscal year.

•

Mobile platform fees. The adoption of the New Revenue Standard also changed how we present mobile platform fees after March 31, 2018. Previously, mobile platform fees retained by third-party application storefronts such as the Apple App Store and Google Play, were reported on a net basis (i.e. as a reduction of net revenue) because we previously determined that generally, the third party was considered the primary obligor. Upon adoption of the New

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Revenue Standard, we concluded that we are the principal in the transactions, resulting in mobile platform fees now being reported within cost of revenue rather than as a reduction of net revenue. We recognized $64 million of mobile platform fees at April 1, 2018 as an increase to our deferred revenue balances. Mobile platform fees for the three months ended June 30, 2018 was $49 million, and accordingly increased both service and other net revenue and cost of revenue by this amount relative to the same period a year ago. While this change also decreased our gross margin percentage, it does not have a material impact on our annual total gross profit or overall profitability.

•

Increased portion of our sales from games with services are presented as service revenue. The amount of the transaction price allocated to future update rights and the online hosting performance obligations are presented as service revenue under the New Revenue Standard (previously, revenue associated with future update rights were generally presented as product revenue). Therefore, for the three months ended June 30, 2018, approximately $186 million of revenue for future update rights are now presented as service revenue under the New Revenue Standard as compared to product revenue under the Old Revenue Standard.


•	Sales returns and price protection reserves. Upon adoption, our sales returns and price protection reserves are now presented within accrued and other liabilities (previously, these allowances were presented as contra-assets within receivables on our Condensed Consolidated Balance Sheets). We reclassified $158 million of sales returns and price protection reserves on April 1, 2018.

The adoption of the New Revenue Standard impacted our Condensed Consolidated Balance Sheet as of June 30, 2018 and our Condensed Consolidated Statement of Operations for the three months ended June 30, 2018 as follows:



	As of June 30, 2018
BALANCE SHEETS (In millions)	Under New Revenue Standard			Under Old Revenue Standard			$ Change
Assets
Receivables, net	$	371		$	242		$	129
Other current assets	282			277			5
Deferred income taxes, net	92			118			(26		)

Liabilities
Accrued and other current liabilities
Sales return and price protection reserves	$	129		$	—		$	129
Deferred net revenue (other)	63			89			(26		)
Deferred net revenue (online-enabled games)	602			900			(298		)
Other liabilities	253			257			(4		)

Stockholders’ Equity
Retained earnings	$	4,944		$	4,644		$	300
Accumulated other comprehensive income (loss)	(26		)	(33		)	7

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	Three Months Ended June 30, 2018
(In millions, except per share data)	Under New Revenue Standard		Under Old Revenue Standard		$ Change			% Change
Net revenue:
Product	$	202	$	716	$	(514	)	(72	)%
Service and other	935		700		235			34	%
Total net revenue	1,137		1,416		(279		)	(20	)%
Cost of revenue:
Product	68		78		(10		)	(13	)%
Service and other	147		88		59			67	%
Total cost of revenue	215		166		49			30	%
Gross profit	922		1,250		(328		)	(26	)%
Operating expenses:
Total operating expenses	622		622		—			—	%
Operating income	300		628		(328		)	(52	)%
Interest and other income (expense), net	19		19		—			—	%
Income before provision for income taxes	319		647		(328		)	(51	)%
Provision for income taxes	26		64		(38		)	(59	)%
Net income	$	293	$	583	$	(290	)	(50	)%
Earnings per share:
Basic	$	0.96	$	1.91	$	(0.95	)	(50	)%
Diluted	$	0.95	$	1.88	$	(0.93	)	(49	)%

The adoption of the New Revenue Standard accelerated the revenue recognition of prior period game sales into retained earnings, which will result in a one-time increase in cash taxes paid on our Condensed Consolidated Statement of Cash Flows for the fiscal year ending March 31, 2019.

Refer to the following sections of our Condensed Consolidated Financial Statements for the additional disclosures required by the New Revenue Standard:


•	See Note 2 — Summary of Significant Accounting Policies, for our updated revenue accounting policy, including significant judgments, under ASC 606. For a discussion of our revenue recognition policy as it relates to revenue transactions accounted for prior to April 1, 2018, which were accounted for under ASC 605, refer to our Annual Report on Form 10-K for the fiscal year ended March 31, 2018.


•	See Note 10 — Balance Sheet Details, for a discussion on our contract liabilities (“deferred net revenue”) and our remaining performance obligations. We had an immaterial amount of contract assets as of April 1, 2018 and June 30, 2018.


•	See Note 16 — Segment Information, for our disaggregations of revenue.

In January 2016, the FASB issued ASU 2016-01, Financial Instruments (Topic 825-10), which requires that most equity investments be measured at fair value, with subsequent changes in fair value recognized in net income. The ASU also impacts financial liabilities under the fair value option and the presentation and disclosure requirements for financial instruments. The adoption did not have a material impact on our Condensed Consolidated Financial Statements.

In March 2016, the FASB issued ASU 2016-04, Liabilities – Extinguishments of Liabilities (Subtopic 405-20): Recognition of Breakage for Certain Prepaid Stored-Value Products. The amendments in the ASU are designed to provide guidance and eliminate diversity in the accounting for derecognition of prepaid stored-value product liabilities. Typically, a prepaid stored-value product liability is to be derecognized when it is probable that a significant reversal of the recognized breakage amount will not subsequently occur. This is when the likelihood of the product holder exercising its remaining rights becomes remote. This estimate shall be updated at the end of each period. The adoption did not have a material impact on our Condensed Consolidated Financial Statements.

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In August 2016, the FASB issued ASU 2016-15, Statement of Cash Flows (Topic 230): Classification of Certain Cash Receipts and Cash Payments. This update is intended to reduce the existing diversity in practice in how certain transactions are classified in the statement of cash flows. The adoption did not have a material impact on our Condensed Consolidated Financial Statements.

In November 2016, the FASB issued ASU 2016-18, Statement of Cash Flows (Topic 230): Restricted Cash (a consensus of the FASB Emerging Issues Task Force), which requires amounts generally described as restricted cash and restricted cash equivalents be included with cash and cash equivalents when reconciling the beginning-of-period and end-of-period total amounts shown in the statement of cash flows. The adoption did not have a material impact on our Condensed Consolidated Financial Statements.

In February 2018, the FASB issued ASU 2018-02, Income Statement-Reporting Comprehensive Income (Topic 220): Reclassification of Certain Tax Effects from Accumulated Other Comprehensive Income. This update gives the option to reclassify to retained earnings tax effects related to items in accumulated other comprehensive income that the FASB refers to as having been stranded in accumulated other comprehensive income as a result of the Tax Cuts and Jobs Act. The adoption did not have a material impact on our Condensed Consolidated Financial Statements.

Other Recently Issued Accounting Standards

In February 2016, the FASB issued ASU 2016-02, Leases (Topic 842). The FASB issued this standard to increase transparency and comparability among organizations by recognizing lease assets and lease liabilities on the balance sheet and disclosing key information about leasing arrangements. We anticipate adopting this standard beginning in the first quarter of fiscal year 2020, when the updated guidance is effective for us. We are currently evaluating the impact of this new standard on our Condensed Consolidated Financial Statements and related disclosures.

In August 2017, the FASB issued ASU 2017-12, Derivatives and Hedging (Topic 815): Targeted Improvements to Accounting for Hedging Activities. This update is intended to make more financial and nonfinancial hedging strategies eligible for hedge accounting. It also amends the presentation and disclosure requirements and changes how companies assess effectiveness. This update is effective for us beginning in the first quarter of fiscal year 2020. Early adoption is permitted. We are currently evaluating the timing of adoption and impact of this new standard on our Condensed Consolidated Financial Statements and related disclosures.

In June 2016, the FASB issued ASU 2016-13, Financial Instruments—Credit Losses (Topic 326). The standard changes the methodology for measuring credit losses on financial instruments and the timing of when such losses are recorded. ASU2016-13 is effective for us beginning in the first quarter of fiscal year 2021. Early adoption is permitted beginning in the first quarter of fiscal year 2020. We are currently evaluating the timing of adoption and impact of this new standard on our Condensed Consolidated Financial Statements and related disclosures.

(2) SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES

As discussed in Note 1 — Description of Business and Basis of Presentation, we adopted the New Revenue Standard on April 1, 2018. Other than adoption of this New Revenue Standard, there were no significant changes to our accounting policies during the three months ended June 30, 2018. Refer to Note 1 — Description of Business and Summary of Significant Accounting Policies in our Annual Report on Form 10-K for the year ended March 31, 2018 for a summary of our other significant accounting policies.

Revenue Recognition

We derive revenue principally from sales of our games, and related extra-content and services that can be played by customers on a variety of platforms which include game consoles, PCs, mobile phones and tablets. Our product and service offerings include, but are not limited to, the following:

•

full games with both online and offline functionality (“Games with Services”), which generally includes (1) the initial game delivered digitally or via physical disc at the time of sale and typically provide access to offline core game content (“software license”); (2) updates on a when-and-if-available basis, such as software patches or updates, and/or additional free content to be delivered in the future (“future update rights”); and (3) a hosted connection for online playability (“online hosting”);


•	full games with online-only functionality which require an Internet connection to access all gameplay and functionality (“Online-Hosted Service Games”);

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•	extra content related to Games with Services and Online-Hosted Service Games which provides access to additional in-game content;


•	subscriptions, such as Origin Access and EA Access, that generally offers access to a selection of full games, in-game content, online services and other benefits typically for a recurring monthly or annual fee; and


•	licensing our games to third parties to distribute and host our games.

Effective April 1, 2018, we evaluate revenue recognition based on the criteria set forth in ASC 606, Revenue from Contracts with Customers.

We evaluate and recognize revenue by:


•	identifying the contract(s) with the customer;


•	identifying the performance obligations in the contract;


•	determining the transaction price;


•	allocating the transaction price to performance obligations in the contract; and


•	recognizing revenue as each performance obligation is satisfied through the transfer of a promised good or service to a customer (i.e., “transfer of control”).

Online-Enabled Games

Games with Services. Our sales of Games with Services are evaluated to determine whether the software license, future update rights and the online hosting are distinct and separable. Sales of Games with Services are generally determined to have three distinct performance obligations: software license, future update rights, and the online hosting.

Since we do not sell the performance obligations on a stand-alone basis, we consider market conditions and other observable inputs to estimate the stand-alone selling price for each performance obligation. We recognize revenue from these arrangements upon transfer of control for each performance obligation. For the portion of the transaction price allocated to the software license, revenue is recognized when control of the license has been transferred to the customer. For the portion of the transaction price allocated to the future update rights and the online hosting, revenue is recognized as the services are provided.

Online-Hosted Service Games. Sales of our Online-Hosted Service Games are determined to have one distinct performance obligation: the online hosting. We recognize revenue from these arrangements as the service is provided.

Extra Content. Revenue received from sales of downloadable content are derived primarily from the sale of virtual currencies and digital in-game content to our customers to enhance their gameplay experience. Sales of extra content are accounted for in a manner consistent with the treatment for our Games with Services and Online-Hosted Service Games as discussed above, depending upon whether or not the extra content has offline functionality.

Subscriptions

Revenue from subscriptions is recognized over the subscription term as the service is provided.

Licensing Revenues

In certain countries, we utilize third-party licensees to distribute and host our games in accordance with license agreements, for which the licensees typically pay us a fixed minimum guarantee and/or sales-based royalties. These arrangements typically include multiple performance obligations, such as a time-based license of software and future update rights. We recognize as revenue a portion of the minimum guarantee when we transfer control of the license of software (generally upon commercial launch) and the remaining portion ratably over the contractual term in which we provide the licensee with future update rights. Any sales-based royalties are generally recognized as the related sales occur by the licensee.

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Revenue Classification

We classify our revenue as either product revenue or service and other revenue. Generally, performance obligations that are recognized upfront upon transfer of control are classified as product revenue, while performance obligations that are recognized over the Estimated Offering Period or subscription period as the services are provided are classified as service revenue.

Product revenue. Our product revenue includes revenue allocated to the software license performance obligation. Product revenue also includes revenue from the licensing of software to third-parties.

Service and other revenue. Our service revenue includes revenue allocated to the future update rights and the online hosting performance obligations. This also includes revenue allocated to the future update rights from the licensing of software to third-parties, software that offers an online-only service such as our Ultimate Team game mode, and subscription services.

Significant Judgments around Revenue Arrangements

Identifying performance obligations. Performance obligations promised in a contract are identified based on the goods and services that will be transferred to the customer that are both capable of being distinct, (i.e., the customer can benefit from the goods or services either on its own or together with other resources that are readily available), and are distinct in the context of the contract (i.e., it is separately identifiable from other goods or services in the contract). To the extent a contract includes multiple promises, we must apply judgment to determine whether those promises are separate and distinct performance obligations. If these criteria are not met, the promises are accounted for as a combined performance obligation.

Determining the transaction price. The transaction price is determined based on the consideration that we will be entitled to receive in exchange for transferring our goods and services to the customer. Determining the transaction price often requires significant judgment, based on an assessment of contractual terms and business practices. It further includes review of variable consideration such as discounts, sales returns, price protection, and rebates, which is estimated at the time of the transaction. See below for additional information regarding our sales returns and price protection reserves. In addition, the transaction price does not include an estimate of the variable consideration related to sales-based royalties. Sales-based royalties are recognized as the sales occur.

Allocating the transaction price. Allocating the transaction price requires that we determine an estimate of the relative stand-alone selling price for each distinct performance obligation. Determining the relative stand-alone selling price is inherently subjective, especially in situations where we do not sell the performance obligation on a stand-alone basis (which occurs in the majority of our transactions). In those situations, we determine the relative stand-alone selling price based on various observable inputs using all information that is reasonably available. Examples of observable inputs and information include: historical internal pricing data, cost plus margin analyses, third-party external pricing of similar or same products and services such as software licenses and maintenance support within the enterprise software industry. The results of our analysis resulted in a specific percentage of the transaction price being allocated to each performance obligation.

Determining the Estimated Offering Period. The offering period is the period in which we offer to provide the future update rights and/or online hosting for the game and related extra content sold. Because the offering period is not an explicitly defined period, we must make an estimate of the offering period for the service related performance obligations (i.e., future update rights and online hosting). Determining the Estimated Offering Period is inherently subjective and is subject to regular revision. Generally, we consider the average period of time customers are online when estimating the offering period. We also consider the estimated period of time between the date a game unit is sold to a reseller and the date the reseller sells the game unit to the customer (i.e., time in channel). Based on these two factors, we then consider the method of distribution. For example, games sold at retail would have a composite offering period equal to the online gameplay period plus time in channel as opposed to digitally-distributed software licenses which are delivered immediately via digital download and therefore, the offering period is estimated to be only the online gameplay period.

Additionally, we consider results from prior analyses, known and expected online gameplay trends, as well as disclosed service periods for competitors’ games in determining the Estimated Offering Period for future sales. We believe this provides a reasonable depiction of the transfer of future update rights and online hosting to our customers, as it is the best representation of the time period during which our games are played. We recognize revenue for future update rights and online hosting performance obligations ratably on a straight-line basis over this period as there is a consistent pattern of delivery for these performance obligations. These performance obligations are generally recognized over an estimated nine-month period beginning in the month after shipment for software licenses sold through retail and an estimated six-month period for digitally-distributed software licenses.

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Deferred Net Revenue

Because the majority of our sales transactions include future update rights and online hosting performance obligations, which are subject to a recognition period of generally six to nine months, our deferred net revenue balance is material. This balance increases from period to period by the revenue being deferred for current sales with these service obligations and is reduced by the recognition of revenue from prior sales that were deferred. Generally, revenue is recognized as the services are provided.

Principal Agent Considerations

We evaluate sales to end customers of our full games and related content via third-party storefronts, including digital storefronts such as Microsoft’s Xbox Store, Sony’s PlayStation Store, Apple App Store, and Google Play Store, in order to determine whether or not we are acting as the principal in the sale to the end customer, which we consider in determining if revenue should be reported gross or net of fees retained by the third-party storefront. An entity is the principal if it controls a good or service before it is transferred to the end customer. Key indicators that we evaluate in determining gross versus net treatment include but are not limited to the following:


•	the underlying contract terms and conditions between the various parties to the transaction;


•	which party is primarily responsible for fulfilling the promise to provide the specified good or service to the end customer;


•	which party has inventory risk before the specified good or service has been transferred to the end customer; and


•	which party has discretion in establishing the price for the specified good or service.

Based on an evaluation of the above indicators, except as discussed below, we have determined that generally the third party is considered the principal to end customers for the sale of our full games and related content. We therefore report revenue related to these arrangements net of the fees retained by the storefront. However, for sales arrangements via Apple App Store and Google Play Store, EA is considered the principal to the end customer and thus, we report revenue on a gross basis and mobile platform fees are reported within cost of revenue.

Payment Terms

Substantially all of our transactions have payment terms, whether customary or on an extended basis, of less than one year; therefore, we generally do not adjust the transaction price for the effects of any potential financing components that may exist.

Sales and Value-Added Taxes

Revenue is recorded net of taxes assessed by governmental authorities that are imposed at the time of the specific revenue-producing transaction between us and our customer, such as sales and value-added taxes.

Sales Returns and Price Protection Reserves

Sales returns and price protection are considered variable consideration under ASC 606. We reduce revenue for estimated future returns and price protection which may occur with our distributors and retailers (“channel partners”). Price protection represents our practice to provide our channel partners with a credit allowance to lower their wholesale price on a particular game unit that they have not resold to customers. The amount of the price protection for permanent markdowns is the difference between the old wholesale price and the new reduced wholesale price. Credits are also given for short-term promotions, temporarily reducing the wholesale price. In certain countries we also have a practice for allowing channel partners to return older products in the channel in exchange for a credit allowance.

When evaluating the adequacy of sales returns and price protection reserves, we analyze the following: historical credit allowances, current sell-through of our channel partners’ inventory of our products, current trends in retail and the video game industry, changes in customer demand, 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 in subsequent periods.

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(3) FAIR VALUE MEASUREMENTS

There are various valuation techniques used to estimate fair value, the primary one being the price that would be received from selling an asset or paid to transfer a liability in an orderly transaction between market participants at the measurement date. When determining fair value, we consider the principal or most advantageous market in which we would transact and consider assumptions that market participants would use when pricing the asset or liability. We measure certain financial and nonfinancial assets and liabilities at fair value on a recurring and nonrecurring basis.

Fair Value Hierarchy

The three levels of inputs that may be used to measure fair value are as follows:


•	Level 1. Quoted prices in active markets for identical assets or liabilities.

•

Level 2. Observable inputs other than quoted prices included within Level 1, such as quoted prices for similar assets or liabilities, quoted prices in markets with insufficient volume or infrequent transactions (less active markets), or model-derived valuations in which all significant inputs are observable or can be derived principally from or corroborated with observable market data for substantially the full term of the assets or liabilities.


•	Level 3. Unobservable inputs to the valuation methodology that are significant to the measurement of the fair value of assets or liabilities.

Assets and Liabilities Measured at Fair Value on a Recurring Basis

As of June 30, 2018 and March 31, 2018, our assets and liabilities that were measured and recorded at fair value on a recurring basis were as follows (in millions):



			Fair Value Measurements at Reporting Date Using
			Quoted Prices in Active Markets for Identical Financial Instruments		Significant Other Observable Inputs		Significant Unobservable Inputs
	As of June 30, 2018		(Level 1)		(Level 2)		(Level 3)		Balance Sheet Classification
Assets
Bank and time deposits	$	30	$	30	$	—	$	—	Cash equivalents
Money market funds	2,239		2,239		—		—		Cash equivalents
Available-for-sale securities:
Corporate bonds	613		—		613		—		Short-term investments
U.S. Treasury securities	213		213		—		—		Short-term investments
U.S. agency securities	74		—		74		—		Short-term investments
Commercial paper	119		—		119		—		Short-term investments and cash equivalents
Foreign government securities	54		—		54		—		Short-term investments
Asset-backed securities	50		—		50		—		Short-term investments
Certificates of deposit	2		—		2		—		Short-term investments
Foreign currency derivatives	59		—		59		—		Other current assets and other assets
Deferred compensation plan assets ^(a)	11		11		—		—		Other assets
Total assets at fair value	$	3,464	$	2,493	$	971	$	—
Liabilities
Contingent consideration ^(b)	$	122	$	—	$	—	$	122	Other liabilities
Foreign currency derivatives	17		—		17		—		Accrued and other current liabilities and other liabilities
Deferred compensation plan liabilities ^(a)	11		11		—		—		Other liabilities
Total liabilities at fair value	$	150	$	11	$	17	$	122

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	Fair Value Measurements Using Significant Unobservable Inputs (Level 3)
		Contingent Consideration
Balance as of March 31, 2018		$	122
Additions		—
Change in fair value		—
Balance as of June 30, 2018		$	122



			Fair Value Measurements at Reporting Date Using
			Quoted Prices in Active Markets for Identical Financial Instruments		Significant Other Observable Inputs		Significant Unobservable Inputs
	As of March 31, 2018		(Level 1)		(Level 2)		(Level 3)		Balance Sheet Classification
Assets
Bank and time deposits	$	286	$	286	$	—	$	—	Cash equivalents
Money market funds	1,876		1,876		—		—		Cash equivalents
Available-for-sale securities:
Corporate bonds	624		—		624		—		Short-term investments
U.S. Treasury securities	210		210		—		—		Short-term investments
U.S. agency securities	78		—		78		—		Short-term investments
Commercial paper	150		—		150		—		Short-term investments and cash equivalents
Foreign government securities	52		—		52		—		Short-term investments
Certificates of Deposit	2		—		2		—		Cash equivalents
Foreign currency derivatives	4		—		4		—		Other current assets and other assets
Deferred compensation plan assets ^(a)	10		10		—		—		Other assets
Total assets at fair value	$	3,292	$	2,382	$	910	$	—
Liabilities
Contingent consideration ^(b)	$	122	$	—	$	—	$	122	Other liabilities
Foreign currency derivatives	56		—		56		—		Accrued and other current liabilities and other liabilities
Deferred compensation plan liabilities ^(a)	11		11		—		—		Other liabilities
Total liabilities at fair value	$	189	$	11	$	56	$	122


(a)	The Deferred Compensation Plan assets consist of various mutual funds. See Note 14 in our Annual Report on Form 10-K for the fiscal year ended March 31, 2018, for additional information regarding our Deferred Compensation Plan.

(b)

The contingent consideration represents the estimated fair value of the additional variable cash consideration payable in connection with our acquisition of Respawn Entertainment, LLC (“Respawn”) that is contingent upon the achievement of certain performance milestones. We estimated fair value using a probability-weighted income approach combined with a real options methodology, and applied a discount rate that appropriately captures the risk associated with the obligation. At June 30, 2018, the discount rates used ranged from 3.2 percent to 3.8 percent. There were no material changes in the fair value of the contingent consideration during the three months ended June 30, 2018. At March 31, 2018, the discount rates used ranged from 3.3 percent to 3.6 percent. See Note 6 in our Annual Report on Form 10-K for the fiscal year ended March 31, 2018, for additional information regarding the Respawn acquisition.

(4) FINANCIAL INSTRUMENTS

Cash and Cash Equivalents

As of June 30, 2018 and March 31, 2018, our cash and cash equivalents were $3,876 million and $4,258 million, respectively. Cash equivalents were valued using quoted market prices or other readily available market information.

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Short-Term Investments

Short-term investments consisted of the following as of June 30, 2018 and March 31, 2018 (in millions):



	As of June 30, 2018									As of March 31, 2018
	Cost or Amortized Cost		Gross Unrealized					Fair Value		Cost or Amortized Cost		Gross Unrealized					Fair Value
	Cost or Amortized Cost		Gains		Losses			Fair Value		Cost or Amortized Cost		Gains		Losses			Fair Value
Corporate bonds	$	618	$	—	$	(5	)	$	613	$	629	$	—	$	(5	)	$	624
U.S. Treasury securities	215		—		(2		)	213		212		—		(2		)	210
U.S. agency securities	75		—		(1		)	74		79		—		(1		)	78
Commercial paper	89		—		—			89		109		—		—			109
Foreign government securities	54		—		—			54		53		—		(1		)	52
Asset-backed securities	50		—		—			50		—		—		—			—
Certificates of Deposit	2		—		—			2		—		—		—			—
Short-term investments	$	1,103	$	—	$	(8	)	$	1,095	$	1,082	$	—	$	(9	)	$	1,073

The following table summarizes the amortized cost and fair value of our short-term investments, classified by stated maturity as of June 30, 2018 and March 31, 2018 (in millions):



	As of June 30, 2018				As of March 31, 2018
	Amortized Cost		Fair Value		Amortized Cost		Fair Value
Short-term investments
Due within 1 year	$	587	$	585	$	521	$	520
Due 1 year through 5 years	516		510		561		553
Due after 5 years	—		—		—		—
Short-term investments	$	1,103	$	1,095	$	1,082	$	1,073

(5) DERIVATIVE FINANCIAL INSTRUMENTS

The assets or liabilities associated with our derivative instruments and hedging activities are recorded at fair value in other current assets/other assets, or accrued and other current liabilities/other liabilities, respectively, on our Condensed Consolidated Balance Sheets. As discussed below, the accounting for gains and losses resulting from changes in fair value depends on the use of the derivative instrument and whether it is designated and qualifies for hedge accounting.

We transact business in various foreign currencies and have significant international sales and expenses denominated in foreign currencies, subjecting us to foreign currency risk. We purchase foreign currency forward contracts, generally with maturities of 18 months or less, to reduce the volatility of cash flows primarily related to forecasted revenue and expenses denominated in certain foreign currencies. Our cash flow risks are primarily related to fluctuations in the Euro, British pound sterling, Canadian dollar, Swedish krona, Australian dollar, Chinese yuan and South Korean won. In addition, we utilize foreign currency forward contracts to mitigate foreign currency exchange risk associated with foreign-currency-denominated monetary assets and liabilities, primarily intercompany receivables and payables. The foreign currency forward contracts not designated as hedging instruments generally have a contractual term of approximately three months or less and are transacted near month-end. We do not use foreign currency forward contracts for speculative trading purposes.

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Cash Flow Hedging Activities

Certain of our forward contracts are designated and qualify as cash flow hedges. The effectiveness of the cash flow hedge contracts, including time value, is assessed monthly using regression analysis, as well as other timing and probability criteria. To qualify for hedge accounting treatment, all hedging relationships are formally documented at the inception of the hedges and must be highly effective in offsetting changes to future cash flows on hedged transactions. The derivative assets or liabilities associated with our hedging activities are recorded at fair value in other current assets/other assets, or accrued and other current liabilities/other liabilities, respectively, on our Condensed Consolidated Balance Sheets. The effective portion of gains or losses resulting from changes in the fair value of these hedges is initially reported, net of tax, as a component of accumulated other comprehensive income (loss) in stockholders’ equity. The gross amount of the effective portion of gains or losses resulting from changes in the fair value of these hedges is subsequently reclassified into net revenue or research and development expenses, as appropriate, in the period when the forecasted transaction is recognized in our Condensed Consolidated Statements of Operations. In the event that the gains or losses in accumulated other comprehensive income (loss) are deemed to be ineffective, the ineffective portion of gains or losses resulting from changes in fair value, if any, is reclassified to interest and other income (expense), net, in our Condensed Consolidated Statements of Operations. In the event that the underlying forecasted transactions do not occur, or it becomes remote that they will occur, within the defined hedge period, the gains or losses on the related cash flow hedges are reclassified from accumulated other comprehensive income (loss) to interest and other income (expense), net, in our Condensed Consolidated Statements of Operations.

Total gross notional amounts and fair values for currency derivatives with cash flow hedge accounting designation are as follows (in millions):



	As of June 30, 2018						As of March 31, 2018
	Notional Amount		Fair Value				Notional Amount		Fair Value
	Notional Amount		Asset		Liability		Notional Amount		Asset		Liability
Forward contracts to purchase	$	224	$	—	$	13	$	329	$	2	$	4
Forward contracts to sell	$	1,352	$	59	$	3	$	1,575	$	1	$	48

The net impact of the effective portion of gains and losses from our cash flow hedging activities in our Condensed Consolidated Statements of Operations was a loss of $15 million and a gain of $17 million for the three months ended June 30, 2018 and 2017, respectively.

During the three months ended June 30, 2018 and 2017, we reclassified an immaterial amount of the ineffective portion of gains or losses resulting from changes in fair value into interest and other income (expense), net.

The amount excluded from the assessment of hedge effectiveness was a gain of $7 million during the three months ended June 30, 2018 and recognized in interest and other income (expense), net. The amount excluded from the assessment of hedge effectiveness was immaterial for the three months ended June 30, 2017.

Balance Sheet Hedging Activities

Our foreign currency forward contracts that are not designated as hedging instruments are accounted for as derivatives whereby the fair value of the contracts are reported as other current assets or accrued and other current liabilities on our Condensed Consolidated Balance Sheets, and gains and losses resulting from changes in the fair value are reported in interest and other income (expense), net, in our Condensed Consolidated Statements of Operations. The gains and losses on these foreign currency forward contracts generally offset the gains and losses in the underlying foreign-currency-denominated monetary assets and liabilities, which are also reported in interest and other income (expense), net, in our Condensed Consolidated Statements of Operations.

Total gross notional amounts and fair values for currency derivatives that are not designated as hedging instruments are accounted for as follows (in millions):



	As of June 30, 2018						As of March 31, 2018
	Notional Amount		Fair Value				Notional Amount		Fair Value
	Notional Amount		Asset		Liability		Notional Amount		Asset		Liability
Forward contracts to purchase	$	249	$	—	$	1	$	210	$	1	$	1
Forward contracts to sell	$	241	$	—	$	—	$	257	$	—	$	3

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The effect of foreign currency forward contracts not designated as hedging instruments in our Condensed Consolidated Statements of Operations for the three months ended June 30, 2018 and 2017 was as follows (in millions):



	Statement of Operations Classification	Amount of Gain (Loss) Recognized in the Statement of Operations
		Three Months Ended June 30,
		2018		2017
Foreign currency forward contracts not designated as hedging instruments	Interest and other income (expense), net	$	9	$	(6	)

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(6) ACCUMULATED OTHER COMPREHENSIVE INCOME (LOSS)

The changes in accumulated other comprehensive income (loss) by component, net of tax, for the three months ended June 30, 2018 and 2017 are as follows (in millions):



	Unrealized Net Gains (Losses) on Available-for-Sale Securities			Unrealized Net Gains (Losses) on Derivative Instruments			Foreign Currency Translation Adjustments			Total
Balances as of March 31, 2018	$	(8	)	$	(89	)	$	(30	)	$	(127	)
Cumulative-effect adjustment from the adoption of ASC 606	—			22			—			22
Cumulative-effect adjustment from the adoption of ASU 2018-02	—			1			—			1
Balances as of April 1, 2018	(8		)	(66		)	(30		)	(104		)
Other comprehensive income (loss) before reclassifications	—			78			(15		)	63
Amounts reclassified from accumulated other comprehensive income (loss)	—			15			—			15
Total other comprehensive income (loss), net of tax	—			93			(15		)	78
Balances as of June 30, 2018	$	(8	)	$	27		$	(45	)	$	(26	)



	Unrealized Net Gains (Losses) on Available-for-Sale Securities			Unrealized Net Gains (Losses) on Derivative Instruments			Foreign Currency Translation Adjustments			Total
Balances as of March 31, 2017	$	(3	)	$	32		$	(48	)	$	(19	)
Other comprehensive income (loss) before reclassifications	—			(39		)	14			(25		)
Amounts reclassified from accumulated other comprehensive income (loss)	—			(17		)	(10		)	(27		)
Total other comprehensive income (loss), net of tax	—			(56		)	4			(52		)
Balances as of June 30, 2017	$	(3	)	$	(24	)	$	(44	)	$	(71	)

The effects on net income of amounts reclassified from accumulated other comprehensive income (loss) for the three months ended June 30, 2018 and 2017 were as follows (in millions):



	Amount Reclassified From Accumulated Other Comprehensive Income (Loss)
Statement of Operations Classification	Three Months Ended June 30, 2018		Three Months Ended June 30, 2017
(Gains) losses on cash flow hedges from forward contracts
Net revenue	$	14	$	(19	)
Research and development	1		2
Total, net of tax	$	15	$	(17	)

(Gains) losses on foreign currency translation
Interest and other income (expense), net	$	—	$	(10	)
Total, net of tax	$	—	$	(10	)

Total net (gain) loss reclassified, net of tax	$	15	$	(27	)

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(7) BUSINESS COMBINATIONS

GameFly Cloud Gaming

On May 3, 2018, we acquired cloud gaming technology assets and personnel from a wholly-owned subsidiary of GameFly, Inc. based in Israel (“GameFly Cloud Gaming”) for total cash consideration of $50 million. The purchase price was allocated to the acquired net tangible and intangible assets based on their estimated fair values as of May 3, 2018, resulting in $43 million allocated to intangible assets, and $7 million allocated to goodwill that consists largely of expected synergies and workforce, substantially all of which is expected to be deductible for tax purposes. Subsequent to the acquisition, we also granted approximately $4 million in long-term equity in the form of restricted stock units to certain employees.

The results of operations attributable to the assets and personnel acquired in the GameFly Cloud Gaming acquisition and the fair value of the assets acquired have been included in our Condensed Consolidated Financial Statements since the date of acquisition. Pro forma results of operations have not been presented because the effect of the acquisition was not material to our Condensed Consolidated Statements of Operations.

During the three months ended June 30, 2017, there were no acquisitions.

(8) GOODWILL AND ACQUISITION-RELATED INTANGIBLES, NET

The changes in the carrying amount of goodwill for the three months ended June 30, 2018 are as follows (in millions):



	As of March 31, 2018			Activity		Effects of Foreign Currency Translation			As of June 30, 2018
Goodwill	$	2,251		$	7	$	(4	)	$	2,254
Accumulated impairment	(368		)	—		—			(368		)
Total	$	1,883		$	7	$	(4	)	$	1,886

Goodwill represents the excess of the purchase price over the fair value of the underlying acquired net tangible and intangible assets.

Acquisition-related intangibles consisted of the following (in millions):



	As of June 30, 2018							As of March 31, 2018
	Gross Carrying Amount		Accumulated Amortization			Acquisition- Related Intangibles, Net		Gross Carrying Amount		Accumulated Amortization			Acquisition- Related Intangibles, Net
Developed and core technology	$	460	$	(417	)	$	43	$	417	$	(414	)	$	3
Trade names and trademarks	161		(111		)	50		161		(107		)	54
Registered user base and other intangibles	5		(5		)	—		5		(5		)	—
Carrier contracts and related	85		(85		)	—		85		(85		)	—
In-process research and development	14		—			14		14		—			14
Total	$	725	$	(618	)	$	107	$	682	$	(611	)	$	71

The fair value of acquisition-related intangible assets acquired in the GameFly Cloud Gaming acquisition was $43 million, all of which was allocated to developed and core technology, and has a useful life of approximately 4.0 years.

Amortization of intangibles for the three months ended June 30, 2018 are classified in the Condensed Consolidated Statement of Operations as follows (in millions):



	Three Months Ended June 30,
	2018		2017
Cost of service and other revenue	$	—	$	—
Cost of product revenue	1		—
Operating expenses	6		1
Total	$	7	$	1

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Acquisition-related intangible assets are amortized using the straight-line method over the lesser of their estimated useful lives or the agreement terms, ranging from 1 to 9 years. As of June 30, 2018 and March 31, 2018, the weighted-average remaining useful life for acquisition-related intangible assets was approximately 4.1 years and 4.3 years, respectively.

As of June 30, 2018, future amortization of finite-lived acquisition-related intangibles that will be recorded in the Condensed Consolidated Statement of Operations is estimated as follows (in millions):



Fiscal Year Ending March 31,
2019 (remaining nine months)	$	19
2020	22
2021	22
2022	22
2023	8
Thereafter	—
Total	$	93

(9) 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 products.

During the three months ended June 30, 2018 and 2017, we did not recognize any material losses or impairment charges on royalty-based commitments, respectively.

The current and long-term portions of prepaid royalties and minimum guaranteed royalty-related assets, included in other current assets and other assets, consisted of (in millions):



	As of June 30, 2018		As of March 31, 2018
Other current assets	$	53	$	68
Other assets	32		34
Royalty-related assets	$	85	$	102

At any given time, depending on the timing of our payments to our co-publishing and/or distribution affiliates, content licensors, and/or independent software developers, we classify any recognized unpaid royalty amounts due to these parties as accrued liabilities. The current and long-term portions of accrued royalties, included in accrued and other current liabilities and other liabilities, consisted of (in millions):



	As of June 30, 2018		As of March 31, 2018
Accrued royalties	$	145	$	171
Other liabilities	69		74
Royalty-related liabilities	$	214	$	245

As of June 30, 2018, we were committed to pay approximately $897 million to content licensors, independent software developers, and co-publishing and/or distribution affiliates, but performance remained with the counterparty (i.e., delivery of the product or content or other factors) and such commitments were therefore not recorded in our Condensed Consolidated Financial Statements. See Note 13 for further information on our developer and licensor commitments.

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(10) BALANCE SHEET DETAILS

Property and Equipment, Net

Property and equipment, net, as of June 30, 2018 and March 31, 2018 consisted of (in millions):



	As of June 30, 2018			As of March 31, 2018
Computer, equipment and software	$	742		$	744
Buildings	338			336
Leasehold improvements	136			139
Equipment, furniture and fixtures, and other	82			84
Land	66			66
Construction in progress	9			7
	1,373			1,376
Less: accumulated depreciation	(933		)	(923		)
Property and equipment, net	$	440		$	453

During the three months ended June 30, 2018 and 2017 depreciation expense associated with property and equipment was $30 million and $29 million, respectively.

Accrued and Other Current Liabilities

Accrued and other current liabilities as of June 30, 2018 and March 31, 2018 consisted of (in millions):



	As of June 30, 2018		As of March 31, 2018
Other accrued expenses	$	262	$	260
Accrued compensation and benefits	216		282
Accrued royalties	145		171
Sales return and price protection reserves	129		—
Deferred net revenue (other)	63		108
Accrued and other current liabilities	$	815	$	821

Deferred net revenue (other) includes the deferral of subscription revenue, advertising revenue, licensing arrangements, and other revenue for which revenue recognition criteria has not been met.

As a result of the adoption of the New Revenue Standard, as of June 30, 2018, our sales returns and price protection reserves are now classified within accrued and other liabilities (previously, these allowances were classified as a contra-asset within receivables on our Condensed Consolidated Balance Sheets).

Deferred net revenue

Deferred net revenue as of June 30, 2018 and April 1, 2018, as adjusted, consisted of (in millions):



	As of June 30, 2018		As of April 1, 2018 (as adjusted)
Deferred net revenue (online-enabled games)	$	602	$	949
Deferred net revenue (other)	63		105
Deferred net revenue (noncurrent)	11		5
Total Deferred net revenue	$	676	$	1,059

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Total deferred net revenue decreased by $383 million, from April 1, 2018, as adjusted, to June 30, 2018. During the three months ended June 30, 2018, we recognized revenue of $885 million, of which $768 million related to revenue recognized in the current period that was included in the deferred revenue balance at the beginning of the period. This was offset by the deferral of $502 million of revenue during this period.

Remaining Performance Obligations

As of June 30, 2018, revenue allocated to remaining performance obligations represents contracted revenue that has not yet been recognized, which includes our deferred revenue balance of $676 million and amounts to be invoiced and recognized as revenue in future periods of $29 million. These balances exclude any estimates for future variable consideration as we have elected the optional exemption to exclude sales-based royalty revenue. We expect to recognize substantially all of these balances as revenue over the next 12 months.

(11) INCOME TAXES

The provision for income taxes for the three months ended June 30, 2018 is based on our projected annual effective tax rate for fiscal year 2019, adjusted for specific items that are required to be recognized in the period in which they are incurred.

Our effective tax rate for the three months ended June 30, 2018 was 8.2 percent as compared to 14.0 percent for the same period in fiscal year 2018. The effective tax rate for the three months ended June 30, 2018 was impacted by the lower U.S. statutory tax rate as a result of the U.S. Tax Cuts and Jobs Act enacted on December 22, 2017 (the “U.S. Tax Act”) and earnings realized in countries that have lower statutory tax rates, partially offset by less excess tax benefits from stock-based compensation recognized in the current period as compared to the same period in fiscal year 2018.

When compared to the statutory rate of 21.0 percent, the effective tax rate for the three months ended June 30, 2018 was lower due to earnings realized in countries that have lower statutory tax rates and the recognition of excess tax benefits from stock-based compensation. Excluding excess tax benefits, our effective tax rate would have been 11.3 percent for the three months ended June 30, 2018.

The U.S. Tax Act significantly revised the U.S. corporate income tax system by, among other things, lowering the U.S. corporate income tax rates to 21.0 percent, generally implementing a territorial tax system and imposing a one-time transition tax on the deemed repatriation of undistributed earnings of foreign subsidiaries (the “Transition Tax”).

We recorded a provisional tax expense of $235 million related to the U.S. Tax Act for the year ended March 31, 2018, $192 million of which relates to the Transition Tax. During the three months ended June 30, 2018, we made no adjustments to these provisional amounts. The final calculation of taxes attributable to the U.S. Tax Act may differ from our estimates, potentially materially, due to, among other things, changes in interpretations of the U.S. Tax Act, our further analysis of the U.S. Tax Act, or any updates or changes to estimates that we have utilized to calculate the transition impacts.

Reasonable estimates of the impacts of the U.S. Tax Act are provided in accordance with SEC guidance that allows for a measurement period of up to one year after the enactment date of the U.S. Tax Act to finalize the recording of the related tax impacts. We expect to complete the accounting under the U.S. Tax Act as soon as practicable, but in no event later than one year from the enactment date of the U.S. Tax Act.

The U.S. Tax Act creates new U.S. taxes on foreign earnings. Our provision for income taxes for the quarter ended June 30, 2018 provisionally does not reflect any deferred tax impacts of the U.S. taxes on foreign earnings. Because of the complexity of the rules regarding the new tax on foreign earnings, we are continuing to evaluate this accounting policy election.

On July 24, 2018, the Ninth Circuit Court of Appeals issued an opinion in Altera Corp. v. Commissioner (“the Altera opinion”) requiring related parties in an intercompany cost-sharing arrangement to share expenses related to stock-based compensation. This opinion reversed the prior decision of the United States Tax Court. On August 7, 2018, the Altera opinion was withdrawn for reconsideration. We will continue to monitor ongoing developments and potential impacts to our condensed consolidated financial statements. If the Altera opinion stands, it could result in material changes to our condensed consolidated financial statements.

We file income tax returns and are subject to income tax examinations in various jurisdictions with respect to fiscal years after 2008. The timing and potential resolution of income tax examinations is highly uncertain. While we continue to measure our uncertain tax positions, the amounts ultimately paid, if any, upon resolution of the issues raised by the taxing authorities may differ materially from the amounts accrued. It is reasonably possible that a reduction of up to $56 million of unrecognized tax benefits may occur within the next 12 months, a portion of which would impact our effective tax rate. The actual amount could

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vary significantly depending on the ultimate timing and nature of any settlements and tax interpretations, including the Altera opinion.

(12) FINANCING ARRANGEMENTS

Senior Notes

In February 2016, we issued $600 million aggregate principal amount of 3.70% Senior Notes due March 1, 2021 (the “2021 Notes”) and $400 million aggregate principal amount of 4.80% Senior Notes due March 1, 2026 (the “2026 Notes,” and together with the 2021 Notes, the “Senior Notes”). Our proceeds were $989 million, net of discount of $2 million and issuance costs of $9 million. Both the discount and issuance costs are being amortized to interest expense over the respective terms of the 2021 Notes and the 2026 Notes using the effective interest rate method. The effective interest rate is 3.94% for the 2021 Notes and 4.97% for the 2026 Notes. Interest is payable semiannually in arrears, on March 1 and September 1 of each year.

The carrying and fair values of the Senior Notes are as follows (in millions):



	As of June 30, 2018			As of March 31, 2018
Senior Notes:
3.70% Senior Notes due 2021	$	600		$	600
4.80% Senior Notes due 2026	400			400
Total principal amount	$	1,000		$	1,000
Unaccreted discount	(1		)	(2		)
Unamortized debt issuance costs	(6		)	(6		)
Net carrying value of Senior Notes	$	993		$	992

Fair value of Senior Notes (Level 2)	$	1,030		$	1,038

As of June 30, 2018, the remaining life of the 2021 Notes and 2026 Notes is approximately 2.7 years and 7.7 years, respectively.

The Senior Notes are senior unsecured obligations and rank equally with all our other existing and future unsubordinated obligations and any indebtedness that we may incur from time to time under our Credit Facility.

The 2021 Notes and the 2026 Notes are redeemable at our option at any time prior to February 1, 2021 or December 1, 2025, respectively, subject to a make-whole premium. Within one and three months of maturity, we may redeem the 2021 Notes or the 2026 Notes, respectively, at a redemption price equal to 100% of the aggregate principal amount plus accrued and unpaid interest. In addition, upon the occurrence of a change of control repurchase event, the holders of the Senior Notes may require us to repurchase all or a portion of the Senior Notes, at a price equal to 101% of their principal amount, plus accrued and unpaid interest to the date of repurchase. The Senior Notes also include covenants that limit our ability to incur liens on assets and to enter into sale and leaseback transactions, subject to certain allowances.

Credit Facility

In March 2015, we entered into a $500 million senior unsecured revolving credit facility (“Credit Facility”) with a syndicate of banks. The Credit Facility terminates on March 19, 2020. The Credit Facility contains an option to arrange with existing lenders and/or new lenders to provide up to an aggregate of $250 million in additional commitments for revolving loans. Proceeds of loans made under the Credit Facility may be used for general corporate purposes.

The loans bear interest, at our option, at the base rate plus an applicable spread or an adjusted LIBOR rate plus an applicable spread, in each case with such spread being determined based on our consolidated leverage ratio for the preceding fiscal quarter. We are also obligated to pay other customary fees for a credit facility of this size and type. Interest is due and payable in arrears quarterly for loans bearing interest at the base rate and at the end of an interest period (or at each three month interval in the case of loans with interest periods greater than three months) in the case of loans bearing interest at the adjusted LIBOR rate. Principal, together with all accrued and unpaid interest, is due and payable on March 19, 2020.

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The credit agreement contains customary affirmative and negative covenants, including covenants that limit or restrict our ability to, among other things, incur subsidiary indebtedness, grant liens, dispose of all or substantially all assets and pay dividends or make distributions, in each case subject to customary exceptions for a credit facility of this size and type. We are also required to maintain compliance with a capitalization ratio and maintain a minimum level of total liquidity.

The credit agreement contains customary events of default, including among others, non-payment defaults, covenant defaults, cross-defaults to material indebtedness, bankruptcy and insolvency defaults, material judgment defaults and a change of control default, in each case, subject to customary exceptions for a credit facility of this size and type. The occurrence of an event of default could result in the acceleration of the obligations under the credit facility, an obligation by any guarantors to repay the obligations in full and an increase in the applicable interest rate.

As of June 30, 2018, no amounts were outstanding under the Credit Facility. $2 million of debt issuance costs that were paid in connection with obtaining this credit facility are being amortized to interest expense over the 5-year term of the Credit Facility.

Interest Expense

The following table summarizes our interest expense recognized for the three months ended June 30, 2018 and 2017 that is included in interest and other income (expense), net on our Condensed Consolidated Statements of Operations (in millions):



	Three Months Ended June 30,
	2018			2017
Amortization of debt issuance costs	$	(1	)	$	(1	)
Coupon interest expense	(10		)	(10		)
Total interest expense	$	(11	)	$	(11	)

(13) COMMITMENTS AND CONTINGENCIES

Lease Commitments

As of June 30, 2018, we leased certain facilities, furniture and equipment under non-cancelable operating lease agreements. We were required to pay property taxes, insurance and normal maintenance costs for certain of these facilities and any increases over the base year of these expenses on the remainder of our facilities.

Development, Celebrity, League and Content Licenses: Payments and Commitments

The products we produce in our studios are designed and created by our employee designers, artists, software programmers and by non-employee software developers (“independent artists” or “third-party developers”). We typically advance development funds to the independent artists and third-party developers during development of our games, usually in installment payments made upon the completion of specified development milestones. Contractually, these payments are generally considered advances against subsequent royalties on the sales of the products. These terms are set forth in written agreements entered into with the independent artists and third-party developers.

In addition, we have certain celebrity, league and content license contracts that contain minimum guarantee payments and marketing commitments that may not be dependent on any deliverables. Celebrities and organizations with whom we have contracts include, but are not limited to: FIFA (Fédération Internationale de Football Association), FIFPRO Foundation, FAPL (Football Association Premier League Limited), and DFL Deutsche Fußball Liga E.V. (German Soccer League) (professional soccer); National Basketball Association (professional basketball); National Hockey League and NHL Players’ Association (professional hockey); National Football League Properties and PLAYERS Inc. (professional football); William Morris Endeavor Entertainment LLC (professional mixed martial arts); ESPN (content in EA SPORTS games); Disney Interactive (Star Wars); and Fox Digital Entertainment, Inc. (The Simpsons). These developer and content license commitments represent the sum of (1) the cash payments due under non-royalty-bearing licenses and services agreements and (2) the minimum guaranteed payments and advances against royalties due under royalty-bearing licenses and services agreements, the majority of which are conditional upon performance by the counterparty. These minimum guarantee payments and any related marketing commitments are included in the table below.

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The following table summarizes our minimum contractual obligations as of June 30, 2018 (in millions):



			Fiscal Years Ending March 31,
			2019
			(Remaining
	Total		nine mos.)		2020		2021		2022		2023		2024		Thereafter
Unrecognized commitments
Developer/licensor commitments	$	897	$	169	$	233	$	213	$	201	$	80	$	1	$	—
Marketing commitments	326		55		88		83		74		26		—		—
Operating leases	225		29		39		39		32		25		19		42
Senior Notes interest	206		27		41		41		20		20		19		38
Other purchase obligations	104		29		34		14		9		5		3		10
Total unrecognized commitments	1,758		309		435		390		336		156		42		90

Recognized commitments
Senior Notes principal and interest	1,014		14		—		600		—		—		—		400
Transition Tax	39		1		—		1		4		4		7		22
Licensing and lease obligations	96		18		25		26		27		—		—		—
Total recognized commitments	1,149		33		25		627		31		4		7		422

Total commitments	$	2,907	$	342	$	460	$	1,017	$	367	$	160	$	49	$	512

The unrecognized amounts represented in the table above reflect our minimum cash obligations for the respective fiscal years, but do not necessarily represent the periods in which they will be recognized and expensed in our Condensed Consolidated Financial Statements.

In addition, the amounts in the table above are presented based on the dates the amounts are contractually due as of June 30, 2018; however, certain payment obligations may be accelerated depending on the performance of our operating results. Furthermore, up to $30 million of the unrecognized amounts in the table above may be payable, at the licensor’s election, in shares of our common stock, subject to a $10 million maximum during any fiscal year. The number of shares to be issued will be based on their fair market value at the time of issuance.

In addition to what is included in the table above, as of June 30, 2018, we had a liability for unrecognized tax benefits and an accrual for the payment of related interest totaling $237 million, of which we are unable to make a reasonably reliable estimate of when cash settlement with a taxing authority will occur.

In addition to what is included in the table above, as of June 30, 2018, we may be required to pay up to $140 million of cash consideration in connection with the December 1, 2017 acquisition of Respawn based on the achievement of certain performance milestones through the end of calendar year 2022. As of June 30, 2018, we have recorded $122 million of contingent consideration on our Condensed Consolidated Balance Sheet representing the estimated fair value.

Legal Proceedings

On July 29, 2010, Michael Davis, a former NFL running back, filed a putative class action in the United States District Court for the Northern District of California against the Company, alleging that certain past versions of Madden NFL included the images of certain retired NFL players without their permission. In March 2012, the trial court denied the Company’s request to dismiss the complaint on First Amendment grounds. In January 2015, that trial court decision was affirmed by the Ninth Circuit Court of Appeals and the case was remanded back to the United States District Court for the Northern District of California, where the case is pending.

We are also subject to claims and litigation arising in the ordinary course of business. We do not believe that any liability from any reasonably foreseeable disposition of such claims and litigation, individually or in the aggregate, would have a material adverse effect on our Condensed Consolidated Financial Statements.

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(14) STOCK-BASED COMPENSATION

Valuation Assumptions

We estimate the fair value of stock-based awards on the date of grant. We recognize compensation costs for stock-based awards to employees based on the grant-date fair value using a straight-line approach over the service period for which such awards are expected to vest. We account for forfeitures as they occur.

The determination of the fair value of market-based restricted stock units, stock options and ESPP purchase rights is affected by assumptions regarding subjective and complex variables. Generally, our assumptions are based on historical information and judgment is required to determine if historical trends may be indicators of future outcomes. We determine the fair value of our stock-based awards as follows:


•	Restricted Stock Units and Performance-Based Restricted Stock Units. The fair value of restricted stock units and performance-based restricted stock units (other than market-based restricted stock units) is determined based on the quoted market price of our common stock on the date of grant.

•

Market-Based Restricted Stock Units. Market-based restricted stock units consist of grants of performance-based restricted stock units to certain members of executive management that vest contingent upon the achievement of pre-determined market and service conditions (referred to herein as “market-based restricted stock units”). The fair value of our market-based restricted stock units is determined using a Monte-Carlo simulation model. Key assumptions for the Monte-Carlo simulation model are the risk-free interest rate, expected volatility, expected dividends and correlation coefficient.

•

Stock Options and Employee Stock Purchase Plan. The fair value of stock options and stock purchase rights granted pursuant to our equity incentive plans and our 2000 Employee Stock Purchase Plan, as amended (“ESPP”), respectively, is determined using the Black-Scholes valuation model based on the multiple-award valuation method. Key assumptions of the Black-Scholes valuation model are the risk-free interest rate, expected volatility, expected term and expected dividends. 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 is based on a combination of historical stock price volatility and implied volatility of publicly-traded options on our common stock. Expected term is determined based on historical exercise behavior, post-vesting termination patterns, options outstanding and future expected exercise behavior.

There were no ESPP shares issued during the three months ended June 30, 2018 and 2017. There were an insignificant number of stock options granted during the three months ended June 30, 2018 and 2017.

The estimated assumptions used in the Monte-Carlo simulation model to value our market-based restricted stock units were as follows:



	Three Months Ended June 30,
	2018		2017
Risk-free interest rate	2.6	%	1.5% - 1.6%
Expected volatility	16 - 47%		17 - 46%
Weighted-average volatility	28	%	28	%
Expected dividends	None		None

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Stock-Based Compensation Expense

The following table summarizes stock-based compensation expense resulting from stock options, restricted stock units, market-based restricted stock units, performance-based restricted stock units, and the ESPP purchase rights included in our Condensed Consolidated Statements of Operations (in millions):



	Three Months Ended June 30,
	2018		2017
Cost of revenue	$	1	$	1
Research and development	47		28
Marketing and sales	7		7
General and administrative	15		12
Stock-based compensation expense	$	70	$	48

During the three months ended June 30, 2018, we recognized an $8 million deferred income tax benefit related to our stock-based compensation expense. During the three months ended June 30, 2017, we recognized a $10 million deferred income tax benefit related to our stock-based compensation expense.

As of June 30, 2018, our total unrecognized compensation cost related to restricted stock units, market-based restricted stock units, performance-based restricted stock units was $677 million and is expected to be recognized over a weighted-average service period of 2.3 years. Of the $677 million of unrecognized compensation cost, $549 million relates to restricted stock units, $94 million relates to market-based restricted stock units, and $34 million relates to performance-based restricted stock units at 104 percent average vesting target.

Stock Options

The following table summarizes our stock option activity for the three months ended June 30, 2018:



	Options (in thousands)		Weighted- Average Exercise Prices		Weighted- Average Remaining Contractual Term (in years)	Aggregate Intrinsic Value (in millions)
Outstanding as of March 31, 2018	1,615		$	30.28
Granted	1		119.83
Exercised	(24	)	30.17
Outstanding as of June 30, 2018	1,592		$	30.34	5.23	$	176
Vested and expected to vest	1,592		$	30.34	5.23	$	176
Exercisable as of June 30, 2018	1,592		$	30.34	5.23	$	176

The aggregate intrinsic value represents the total pre-tax intrinsic value based on our closing stock price as of June 30, 2018, which would have been received by the option holders had all the option holders exercised their options as of that date. We issue new common stock from our authorized shares upon the exercise of stock options.

Restricted Stock Units

The following table summarizes our restricted stock unit activity for the three months ended June 30, 2018:



		Restricted Stock Rights