Good day everyone. Welcome to the GameStop Corporation's first quarter 2017 earnings conference call. A supplemental slide presentation is available at investor.gamestop.com. At the conclusion of the announcement, a question and answer session will be conducted electronically. Anyone wishing to ask a question may signal us by pressing the star key, followed by the digit 1. If you find that your question has been answered or asked, you may remove yourself by pressing the star key followed by the digit 2. I would like to remind you that this call is covered by the safe harbor disclosure contained in GameStop's public documents and is property of GameStop. It is not for rebroadcast or use by any other party without the prior written consent of GameStop. At this time, I would like to turn the call over to Mr. Paul Raines, CEO. Please go ahead, sir.
Thank you, operator. Good afternoon, and welcome to the GameStop earnings call. I want to start by thanking our worldwide team for another great effort in the first quarter in delivering outstanding customer service. We have our usual cast here today, Rob Lloyd, Tony Bartel, Mike Mauler, Mike Hogan, Mike Buskey, Matt Hodges, and Jason Ellis, our Senior Vice President of Technology Brands as well. I want to be brief today to allow more time for my colleagues to share good news about our performance this quarter. I am very pleased to report that we returned to growth this quarter. On the video game side, we set records with our Switch launch around the world, returning vibrancy to the physical video game category.
As the world's largest video game retailer, we expect to take full advantage of this exciting new product by working diligently to deliver as many units as possible to our customers all year long. One example of how we are succeeding is that we had 93% growth in our global omni-channel revenues. Our digital business showed some growth, mostly in the Kongregate mobile game publishing side. Our PowerUp Rewards loyalty program is at an all-time high of membership around the world, and we continue to add incremental paid members. Continuing to build our loyalty program helps us improve our per customer profitability and positively impacts key areas of our business, such as pre-owned and collectibles. Our Tech Brands division performed as expected and delivered 21.5% sales growth.
You will hear how we are in a transition in that business, moving from a purely wireless business to an integrated communications and media retailer. This transition is going to drive some additional training at our associate level, and it will take a few quarters to get to a good rhythm in all our stores. We are bullish on our ability to sell integrated bundles with DIRECTV. We are also excited about the business opportunities associated with the potential Time Warner acquisition, and we are already working on how to best partner with a combined AT&T Time Warner. Our collectibles business had another very strong quarter, with 39% sales growth. Our integration with ThinkGeek.com is progressing nicely. Our standalone collectible stores are also thriving in the United States and around the world. We are proud of our performance this quarter.
Understand we have a lot of work ahead of us to complete our transformation. Let's revisit the four pillars of our transformation strategy we presented to you in April of 2016, as seen on slide three of the supplemental presentation. Starting with physical gaming, we had solid results with the Nintendo Switch launch. We still have number one market share in 13 countries, and our PowerUp Rewards program now has 53 million members around the world, including a dramatic increase of new Pro members, paid members in the last year. Digital gaming continued to be a solid segment, although slower growth than some of our publishers. The Kongregate segment provided some growth in the quarter, and we expect strength in our DLC segment in conjunction with new software launches throughout the year.
Technology Brands had solid revenue growth, and we are definitely in a transition from wireless carrier to an integrated communications and media retailer with AT&T. Our relationship with AT&T is very strong, and we recently met with the AT&T senior team here in our offices to understand and align with their growth plans this year. Collectibles remains a high-growth area for our company, and we're spending a lot of time in this area. The industry is growing, and we are well-positioned to dramatically expand our market share and reach our goal of it becoming a $1 billion business by 2019. You see overall, the quarter showed non-physical earnings at 36.1% of our total operating earnings in a quarter with 2.3% comm growth, a continued milestone on our path to 50% non-physical earnings by 2019. We are bullish on our future and will continue to execute our strategy.
I will now turn the call over to Rob.
Thank you, Paul. Good afternoon. We had a stronger than expected first quarter based on the success of the Nintendo Switch. Our allocation and rapid sell-through led to outperformance in sales comps and earnings. Highlights include consolidated sales comps of 2.3%, including -2.4% in the U.S. and +17.1% internationally. Total sales growth of 3.8%, including hardware sales up 24.6% and Tech Brands up 21.5%. Growth in our Collectibles business is 39.1% to $114.5 million in sales. Consolidated gross margins were 34.3%, flat to last year despite the strong hardware growth as margin rates in pre-owned and Tech Brands both expanded. 36.1% of our operating earnings in the quarter came from sources other than physical gaming. We continue to expect 40% or more of our fiscal 2017 operating earnings to come from non-physical gaming. For a little more depth. Switch was the driver of the increase in hardware sales.
We've consistently and quickly sold out of our allocations. Our market share was very strong in all our markets around the world. As expected, new software sales declined 8.2%, driven by difficult comparisons to the division last year. The bright spot within software was that we sold more than one copy of the Switch version of Zelda for every Switch console we sold, indicating that consumers are coming to GameStop for additional games and accessories. Pre-owned sales declined 6.2% during the quarter, slightly outperforming new software. Digital receipts decreased 9% due to declines in the sales of hardware bundled with digital games. GAAP digital revenues increased 3.0%, primarily due to growth in Kongregate. As I mentioned, collectibles grew nearly 40% in the quarter, with growth in gross profit dollars of 23.1% and a margin rate of 30.7%.
The lower-than-usual margin rate is attributable to winding down the third-party fulfillment for ThinkGeek and post-holiday promotions to clear out inventory. We still expect the margin rate for our collectibles business to be 35% or more for the full year. Tech Brands revenues grew 21.5% given the growth in year-over-year store count. Tech Brands' gross margin was 71.8%, up 560 basis points from Q1 last year. Tech Brands' adjusted operating earnings were $18.4 million and were impacted by a slowdown in the wireless upgrade cycle, which affects store traffic, and by AT&T's changes in the underlying compensation programs. These changes were designed to pivot our sales efforts to emphasize entertainment products and services. As Tony pointed out in our March call, we expect this transition to affect our gross profit comp and profitability during the first half of the year.
Jason will provide more commentary on our Tech Brands business and our efforts to drive traffic and sales of entertainment products. SG&A as a percentage of sales increased from 26.4% in the prior year quarter to 27.5% for this quarter. The increase was due to the growth in Tech Brands, which carries a higher SG&A rate. We continue to remove costs from the video game store base. We incurred charges in the first quarter totaling $7.3 million relating to estimated costs for the Tech Brands store rationalization process we announced at year-end but completed during this quarter. International operating earnings in Q1 improved $3.3 million over last year's first quarter. Consolidated adjusted operating earnings were down 8.2% for the quarter. Interest expense increased by $3.1 million due to the senior notes being outstanding all quarter.
As we discussed in March, we had a tax benefit in Q1 from the planning work we did last year. Our effective tax rate was 32.3%. Non-GAAP net income decreased $4.8 million or 7.0% for the quarter. Non-GAAP EPS decreased 4.5% for the quarter. We closed a net of 27 video game stores and now have 3,902 in the U.S. and 1,998 internationally. We acquired 22 Tech Brands stores, opened 11 and closed 47, and now have 1,508. We opened nine collectible stores in the quarter and now have 95 worldwide. We received a lot of press coverage in March when we discussed our plans to close 2%-3% of our store base this year. Just to clarify, we've closed 2%-3% of our video game store base during each of the past six years as part of a strategy to optimize our store footprint.
This involves closing low-profit stores, transferring sales to other nearby stores, and leveraging fixed costs to increase store profits. Our closures are based upon a sound, long-term strategy using our PowerUp Rewards database. Now I will move on to second quarter commentary. Hardware in Q2 will be driven by the allocation of and demand for Switch. As of today, we do not have complete insight into the total number of units we can expect in Q2. New software will face a difficult comparison to Uncharted, Doom, and Overwatch from last May. Collectibles sales are expected to grow 35%-40% from the $90 million in sales in last year's second quarter. For the full year, we are maintaining our current EPS range of $3.10-$3.40 per share.
While our Q1 results exceeded our plan, Red Dead Redemption 2 moving out of our fiscal year, and not having complete visibility to allocations or demand for Switch for the entire year, keep us at our initial guidance range. Back in March, we guided that you could expect approximately 20% of our annual earnings to come in the first half. Updating for the results in Q1, you should now expect the percentage of our full-year earnings to come in the first half to be in the low twenties. I will now turn it over to Jason.
Thank you, Rob. Today, I will discuss our Technology Brands' first quarter results and give some color on where we are focused for the rest of 2017. As many of you know, over the past three years, we have experienced tremendous growth in revenue and store count. Today, we have 1,508 retail stores and remain both the largest wireless dealer in America and the largest Apple premier partner in America. Our most significant relationship continues to be with AT&T. It is clear that AT&T is transforming to become an integrated communications and media company. During the first quarter of this year, AT&T increased the focus on entertainment products and sales in our retail stores, specifically emphasizing DIRECTV and DIRECTV NOW products.
We continue to align with our most important partner. We are transitioning the core of our business to be focused on entertainment first, which is a shift from our wireless history. We will continue to build entertainment competencies into our retail sales teams. We believe the opportunity is tremendous once we are firing on all cylinders. In the first quarter, we experienced triple-digit year-over-year growth in DIRECTV sales, which we believe are early signs that the transition is working. Tony mentioned on the last earnings call that we successfully launched a business division focused on serving the needs of small to medium-sized businesses. We intend to leverage our retail store footprint and traffic to bring new wireless products and services to an underserved business community. We have also earned triple-digit growth in our business sales year-over-year. That will remain a focus for 2017.
While we have seen great results on our entertainment and business sales efforts, the quarter did not come without its challenges, most notably lower than expected upgrade customers visiting the retail stores. This is a macro trend that involves the entire wireless category and is directly correlated to the customer paying the entire cost of the handset. We expect that to continue until new high-profile and innovative devices from Samsung and Apple come to market later this year. During the first quarter of 2017, the Technology Brands division had revenues of $201.4 million, which is 21.5% growth from the same period last year. Gross profit was $144.6 million, up 31.8%. Adjusted operating income was $18.4 million, which was down 2.1% from the same period last year. Gross margin expanded to 72%, largely due to a change in the overall sales mix towards higher margin products.
On a comparable store basis, retail traffic was down 7%. We experienced a 19% decline in same-store gross profit for the quarter. The majority of the same-store decline was due to the upgrade trends I mentioned earlier. We do believe there is pent-up demand in the marketplace and anticipate with the right innovation, we will experience a super cycle of customers upgrading devices later in the year. We have built into our plan an iPhone launch that would be comparable to last year's launch of the iPhone 7. We believe there is upside to the plan if the iPhone 8 is significantly improved from the existing form factors in the market. We also anticipate increasing demand for AT&T's DIRECTV product as we educate our customers on the value in bundling those services together and as we continue to improve our sales proficiency.
Our expectation is that the second half of the year will be significantly stronger than the first. New innovation will drive demand to the retail stores. Until that happens, we will remain focused on improving our sales in the entertainment and business categories. Together, those will drive us to positive traffic and gross profit comps and ultimately to our guidance of $120 million in operating income for the fiscal 2017. I would like to close by thanking our employees that continue to work tirelessly to make us the very best in the business. Thank you for your time, and I will now turn it over to Tony.
Thanks, Jason. Good afternoon, everyone. Today, I'm going to provide some color on our performance in the GameStop branded stores and our omni-channel platform. I'm also going to provide more details on the collectibles category and our growing leadership, both through our stores and our ThinkGeek.com. Finally, I'll update you on the success that we're having driving customer engagement with our growing PowerUp Rewards program. Our GameStop branded stores generated a 2.3% comp during the quarter as growth in collectibles and Switch more than offset a weaker launch calendar. Beginning with physical video games, we are pleased with our market leading share of Switch product and related software and accessory attach. We pre-sell most of our Switch hardware before it hits our warehouse through our web and store process that allows customers to ship the product to their home while still using trade currency to fund their purchase.
This means that the product is selling out even before we receive it. We are attaching nearly six pieces of software and accessories to each Switch unit sold. This attach rate is nearly double that of the rest of the industry, and it also means that we are 50% more profitable than the rest of the industry for each Switch unit that we sell. When you factor in the revenue that we get from related trades, this number increases to 75% more profit per transaction than the rest of the industry. During the launch period, we were heavily allocated on Switch product and allocated at a level below our typical next-gen market share. As a result, we lost market share during the quarter. The Switch is off to a very strong start. To put this into perspective, it has outpaced the Wii launch by 10% in the first two months.
We continue to partner with Nintendo to leverage our PowerUp Rewards database to drive higher allocations of Switch and to generate additional trades. We expect the strong demand for the Switch to continue to outpace supply for much of the year, we expect to continue to have market-leading share and attractive attach and profit. Our overall software sales declined 8.2% due to a weaker launch overlap. Our pre-owned sales were down 6.2%, yet generated a strong gross margin increase to 48.2% during the quarter. Our buy-sell trade model worked well to support the strong Switch launch as we increased hardware trades by 19% during the quarter. As we have said in the past, pre-owned sales are driven by trades, having a high-demand console on the market will benefit this part of our business.
Our strategic investments in our global omni-channel platform are paying off as we leveraged all of our assets to quickly sell collectibles and the Switch and related software and accessories. We grew our omni-channel business a record 93% during the quarter as we effectively mobilized our diverse offering and delivery mechanisms. Our omni-channel ecosystem is a strategic weapon as it drives much stronger customer engagement. We know that 60% of our customers visit our sites before they come into a store, over 25% of our sales are impacted by an omni-channel visit for customers that visit the site within 72 hours of a purchase. Not only are we able to drive strong attach to in-demand product, we are also able to educate them on our buy-sell trade process. In fact, customers who access the trade section of our site trade at twice the rate as average customers.
As you can see on slide 17, our omni-channel platform meets customers where they are allows them to purchase in the way that they want. Directly from gamestop.com and thinkgeek.com, from our mobile app, we can sell from our stores and ship product from either the gamestop.com or thinkgeek.com website directly to a customer's home. They can order product online pick it up in our stores, we can ship product that a customer purchases online from our store directly to their home, significantly increasing the inventory that we can offer online. Our web and store capability is uniquely important to us as it allows customers to take advantage of our trade currency to purchase an endless aisle of products directly from our sites. We expect our omni-channel business to continue to have double-digit growth for the year.
Moving to collectibles, we grew sales 39% during the quarter and are on track to achieve our $650 million-$700 million goal for the year. By leveraging our design team at ThinkGeek.com and continuing to expand both our standalone stores and our linear feet in our GameStop-branded stores, we were able to gain significant share in this large and growing category. We have quickly become the leader in collectibles, and we continue to expand our offerings at a fast pace. We haven't spent a lot of time discussing this important category, so I would like to take some time to dimensionalize the size of the category and let you know why we are expanding so rapidly. This is a robust, growing category that has been around for years and is being accelerated by a deep launch schedule of new and evergreen intellectual property.
There is also a deeply loyal fan base that has significant overlap with our PowerUp Rewards base. The curated segment of collectibles that GameStop targets is a $13 billion category in the U.S. today, and is growing at $1.5 billion annually. By 2019, we expect this category to be $16 billion, which will make it larger than video games. It is driven predominantly by five large categories, as shown on slide 15: toys and board games, apparel, consumer electronics, housewares, and accessories. While much of the growth comes from new gaming and entertainment IP, approximately 60% of the revenue annually comes from IP that has been relevant for more than 30 years. Brands like Star Wars, Batman, Spider-Man, Star Trek, and Pokémon have long histories of success and strong and growing fan bases.
With IP launches occurring on a near weekly basis, we are finding that collectibles provides us a consistent revenue stream and traffic driver in our stores and to our websites. We know a lot about the collectible customer as there is a high overlap with the customers who visit our various gaming channels. Nearly one half of our 53 million PowerUp Rewards customers buy collectibles, and those that do buy spend more money on collectibles than they do on video games, an encouraging dynamic given the growth projections we noted earlier. They are also very loyal to their brands as they report an 82% repurchase intent. With our acquisition of ThinkGeek.com, we not only have the largest collectible-focused website, but we also have a strong development arm that allows us to produce the coveted exclusives that these fans desire.
In addition, we are leveraging our strong relationships with the publishers to reach their entertainment counterparts and develop additional unique products. We not only have a strong release schedule that drives traffic into our stores, but we also have the ability to develop our own products and generate our own traffic. For example, we have a very strong relationship both on the video game side and the collectible side with Time Warner. We also have a very strong relationship with AT&T. If this acquisition occurs, we have worked with both parties to optimize the expansion of licensed product throughout our entire company, providing us with another great growth opportunity in this category. To accommodate this in our store base, we added nine standalone stores and have nearly doubled the linear feet dedicated to collectibles in 900 U.S. GameStop-branded stores.
We're on track to achieve our guidance for this year and to exceed the $1 billion of collectibles by 2019 that we presented at last year's Investor Day. I've mentioned PowerUp Rewards several times today, I wanted to give you an update on our progress that continuing to expand our engagement with our customers. Globally, we now have more than 53 million members. More importantly, we grew the paid tier of our PowerUp Rewards base by 1 million members in the last year. As a reminder, these paid members are five times more profitable than an average gaming customer. We will continue to evolve our loyalty program to provide more value, including deeper integration with omni-channel and expansion into the fast-growing collectible category.
In closing, we are excited about the innovation that the Switch and collectibles are bringing to our GameStop- branded stores and our omni-channel platform. We look for continued growth as the year progresses. With that, I'll turn the call over to Mike Mauler.
Thanks, Tony. Good afternoon, everyone. GameStop's international businesses had a very strong first quarter, exceeding expectations with improved market share and a 17.1% increase in same-store sales. All international segments generated double-digit comp growth led by Australia with 18.2%, which drove a significant increase in international operating earnings versus Q1 2016. During the quarter, outstanding hardware, accessories, and collectibles performance were the significant contributors to growth versus prior year. The successful launch of the Nintendo Switch in all markets was a major driver of hardware growth, followed by a double-digit increase in PS4 hardware sales versus the prior year. The Switch hardware performance, along with a solid attach rate of accessories and software driven by our knowledgeable store associates, resulted in one of the strongest hardware launches of all time.
Based on current consumer demand, we believe the Switch could be a real catalyst for the video game industry and great for GameStop. While the industry is typically focused on the top software launches such as The Legend of Zelda: Breath of the Wild or Mass Effect, actually, there were approximately 100 new software titles launched in the first quarter. Many of these titles performed very well for GameStop, such as Nioh, Persona 5, and of course, GameTrust's Has-Been Heroes for the Switch. As the global leader in video games, we are focused on having the greatest selection of titles and expanding the breadth of available software by working with our publishing partners to bring even more titles to market. By curating these titles based on our extensive loyalty data, combined with compelling trade-in promotions, we continue to provide differentiating value for our customers.
Outside of the video game category, the acceleration of collectible sales in the international businesses continued with 65% sales growth versus the prior year. This rapid growth was driven by our continued expansion of the category in GameStop and standalone stores, improved merchandising expertise, and the expansion of our ThinkGeek product range in international markets. ThinkGeek continues to have a strong focus on securing international licenses, creating exciting new products, expanding channels of distribution, and developing dedicated sections in GameStop stores in several markets. During the quarter, we continued to expand the space devoted to collectibles in our GameStop branded stores. The average international store now has between 20% and 30% of the space devoted to collectibles. We also continued to convert more stores to a 50% collectibles model.
These stores not only see significant increases in collectible sales, they also see an increase in video game software and hardware sales driven by the increased traffic and expanded demographics that the broader selection of collectibles generates. All of which has driven a significant increase in sales and profits versus the prior year for these stores. The standalone collectible stores, which internationally are branded Zing Pop Culture, continue to perform well and are beating our IRR target of 20%. We ended the quarter with 66 Zing stores internationally and 29 ThinkGeek stores in the U.S. On a strategic note, we have long looked for ways to effectively enter the rapidly growing market of Latin America. We have invested in a joint venture distribution business in Latin America as a way to service a growing market without a large capital investment.
This partnership, named JBL, allows us to distribute a variety of product categories, including Nintendo hardware and software, licensed merchandise, and accessories to all major retailers across the region. During the quarter, this business drove a 140% increase in sales versus prior year, exceeding our expectations, as we continue to increase the portfolio of products that we distribute. These results were driven primarily by a very successful launch of the Nintendo Switch, the growth of licensed merchandise and collectible sales, and the continued rapid expansion of Roku in Mexico. Global investments in our omni-channel businesses continue to return benefits. During the quarter, we saw a 62% increase in omni-channel revenue versus prior year. This was driven by strong growth in all channels, especially order online, pickup in store, and web in store.
In closing, over the last several years, our international businesses have continued to make great strides in driving margin expansion, growing the membership of our loyalty programs, and rapidly increasing the size of our collectibles category to provide our customers with the entertainment products they love. The focus on these key initiatives has expanded our market share and has driven a significant increase in same-store sales this quarter. These efforts, combined with the addition of the exciting new Switch console and a growing install base on two other platforms, will continue to provide international growth opportunities in 2017. Now I will turn it over to Paul.
Thank you, Mike. At this point, operator, I will turn it over for question and answers with the audience.
Thank you. If you would like to ask a question, please signal by pressing star one on your telephone keypad. If you are using a speakerphone, please make sure your mute function is turned off to allow your signal to reach our equipment. Again, that is star one if you would like to ask a question. We'll pause for just a moment to allow everyone the opportunity to signal for questions. Our first question comes from Brian Nagel with Oppenheimer. Please go ahead.
Hi, good evening.
Hey, Brian.
A couple of questions here. First off, maybe a simple one, but a pretty significant spread between comp store sales growth domestically and then international. Mike, you talked a lot about this, that what drove the international comp space. Is there anything we should take something away from that between this overall performance of the two businesses? I have a follow-up.
Mike, you want to take that?
Yes, sir. Same-store sales really vary by quarter, by region, on a lot of different factors, the types of products that are launching, the competition differences, and lately, also some macroeconomic differences as the economies in Europe seem to be picking up a little bit. In the first quarter, I would say internationally, we've had typically higher Nintendo market share in quite a few of our markets. I think that played a role in terms of the Switch launch. We also saw, like I had mentioned, double-digit strong PS4 hardware sales. For us, Sony has a lot more market share internationally, especially in Europe, than in the U.S. Finally, the 65% collectibles growth, I think, had an impact on same-store sales as well. You put all that together, and we saw a very strong quarter.
We've also got to give Mike and his international team some credit, Brian. They've done a great job of focusing on the fundamentals. You remember this call just two, three years ago, we would talk about how international margins on pre-owned were 10 points lower. They're now matching. They've got a reservations process that are sophisticated like the U.S. There's been a lot of good fundamentals work done in the international markets.
Got it. That's great. The second question I have, just with regard to the Switch, obviously both domestically, internationally, a great start here, and GameStop is clearly benefiting from the demand. As we think about this product going forward and the GameStop model, should it work similar to the Sony and the Microsoft hardware in that it plays into a razor-and-razor blade type strategy that there will be more and more software sales for the device it's going to lend to pre-owned? Any type of comment on full game downloads or add-on content for these games?
Yeah, I'm going to let Tony answer that. Just one observation I would say because we're all veterans of the Wii launch. The fact that this is ahead of the Wii launch for us is very significant. Tony, you want to talk about Switch?
Sure. As Rob talked about, Zelda was a good example where we actually sold more games than units that we had sold. That's a good example. I also mentioned that we have a 6 attach ratio, which is close to double that of the whole rest of the category. We tend to do very well at GameStop with the razor-razor blade strategy. I also mentioned we had a 19% increase in hardware trades towards this, it lends itself very well. Also, the form factor of the games lends itself very well to a trade-in model. We anticipate that there will be a high percentage of trade-ins of these games. We are already seeing that trades are a major part of funding for this product, we see very strong demand for the games that are launched.
We see this as operating actually very consistent with the Sony and the Microsoft offerings, if not slightly better from a GameStop perspective.
Another observation, Brian, is that if Sony and Microsoft full game downloads are at, I think we forecast 35% this year, our share is probably 5%, so we're at a disadvantage there. I'd say Nintendo has very low-
Yes
full game download penetration. We don't see that as a real threat. Yeah.
Just one final. Is it a different customer that's buying the Nintendo machine, or is it someone adding a Nintendo machine to the library where they already have a Sony or Microsoft machine?
Well, I think it's a very different customer in that it's moms, it's casual gameplay, it's more kids. Many of those Sony and Microsoft customers, Michael Hogan, fair to say, are sort of the leading edge rocket ship kind of players.
Yeah, I think a couple of thoughts there. One is we continue to see really strong and broad interest for this Switch across both the core gamer and the expanded audience. Because it's so early on, a very high percentage of the purchases that we see today are PowerUp members. As you would expect, the early adopters are there, but we're seeing a very broad interest. You would see the same thing historically with Nintendo in broad audience as well. Our hope is. We also see, by the way, this is the second or third console for a lot of people, so there's a lot of people who own an Xbox, who own a PS4, that are adding this to their collection. They've been waiting for Zelda or some other hardware-driving game to come out.
Finally, we have big hopes that with the success of this console launch over the next year, that it will continue to expand the category, much as we saw back in sort of 2007, 2008, 2009. We think there's a great potential for that as well.
All right. Well, thank you very much.
Thanks, Brian.
Our next question comes from Ben Schachter with Macquarie. Please go ahead.
Yeah, a couple questions on Red Dead and a few on pre-owned. On Red Dead, how much did it change the guidance you presented today versus what it would have been if it were still in the year? Do you expect other publishers to potentially shift their release dates around that might benefit you? On the pre-owned, could you just talk a little bit more about what drove the gross margin increase? Are the pre-owned hardware gross margins higher or lower than software? Anything, if you can add to guidance on how we should be thinking about pre-owned for 2Q in the year. Thanks.
Thank you, Ben. That's a few questions. I think we got them all. Rob, you want to take the guidance change or no change on Red Dead?
Yeah. Red Dead was a factor, as we talked about. When you get a game like Red Dead, or what Red Dead was expected to do in the fall, it's going to suck some dollars away from some of the other games. It's not an entire impact when it moves. You'll get some of the buyers that would have bought Red Dead buying Call of Duty or some of the other games, Destiny, some of the other things that come out. The impact is not complete. The other factor that we noted with respect to the annual guidance was that we don't have great visibility into what the supply of the Switch is going to be. I'd say those two factors kept us with the same guidance.
I also think at E3, for those of you that will go to E3, you'll see some of the excitement around some of the games that we have that will help to share with you why we felt comfortable keeping that there. As to the pre-owned, our margin, the margin question, Ben, is very comparable on pre-owned hardware and pre-owned software, so those are very comparable. We had slightly less discounting during the quarter, which is what drove the margin increase. Again, it's going to fluctuate between that 46%-49% range for the year.
Fair to say, Rob, we've been pretty conservative so far on our outlooks because we've learned that better to be conservative and not be surprised. That's where we're at.
Thanks.
By the way, Ben, we also didn't spend a lot of time talking about VR. We are still very focused on VR. PlayStation VR continues to be our number one product. We're kind of waiting for E3 on that one. More news to come.
Our next question comes from David Schick with Consumer Edge Research.
Thanks for taking the call. This is Ray on for Dave. A bigger picture question here. New software SKUs carried in your store have certainly fallen over the past several years, and we see what you're doing with GameTrust. Where do you see new software SKUs going, I guess, this year, next year, and maybe over the next five years, if you can kind of give us a sense for that?
Let me start that off. I think the industry is producing less big titles, but as Mike pointed out, there's a lot of small titles that need support that maybe aren't getting it, and that's where we're trying to step in. Tony, I don't know if you want to talk about sort of new software trends.
We have seen a reduction in new software trends. It feels like we've hit a point where we have a point of stasis where there's not a lot of reduction taking place now. With the Switch, we're seeing new games come out. With VR, we just saw Farpoint come out. We do have some new platforms that are coming out with some new games and driving some new IPs as well. You'll see Arms, for instance, that is coming out, and that's a new IP. I'd say the Switch, just like the Wii did, is driving a lot of new innovations. I would expect in the next year, you will actually see an increase in the number of games.
As Mike and Paul both said, we also see a trend where we have a lot of these smaller games that we're able to bring to market and really bring some new people into.
There's an indie games opportunity that we see that GameTrust is just a part of it. It's really not the biggest strategy there. We are actively in discussions with a lot of our publishing partners or even developers who don't have a publishing partner to give them big title treatment in exchange for margin profitability. There's a lot of that going on. I think you'll see more of that. Indie games is a real trend in the console space.
That's great. Then a quick follow-up. You called out Kongregate as a good driver this quarter. I think we've seen a little bit in our data. How should we think about that within your business going forward? Is there any way that that can be a needle mover when it comes to your earnings over the next couple of years?
Mike, you want to take that or?
I would say that Kongregate has been a good business for us. We continue to be interested in the mobile gaming category. I think the way to think about it is part of our overall digital strategy and our overall commitment to digital. Whether it's mobile games or whether it's full game downloads or whether it's in-game content or whatever, we continue to remain committed across that. I think that it's also fair to say that we gained some experience via Kongregate in terms of publishing games, which we started probably three years ago, that's now manifesting itself on the console side with GameTrust. I think as Paul mentioned a minute ago, I think we're excited about the opportunity to participate in bringing new IP to market, regardless of what the platform is. We'll continue to develop those relationships.
The last thing is it's also helped us, I think, not just on the IP relationship side. For example, we have a good relationship with FoxNext Games around a game that we launched with Kongregate last year. There's a lot of IP out there that's owned by people other than video game publishers that we have relationships with that we think could be really useful on the collectible side.
Kongregate is a really important asset for us, but it also brings us great partnerships, as Mike said. That's an interesting opportunity for us, and we've tried to maximize it where we can.
Great. Thanks so much.
Our next question comes from Sen Phan with Mizuho. Please go ahead.
Hi. You mentioned the Nintendo Switch allocation. When do you expect to hear from Nintendo on your new Switch allocations? Is this timeframe similar to what you've seen in prior console launches?
Seth, that's a great question. When are we going to hear from Nintendo?
Daily would be the answer to that question, Seth. I think the real question you're asking is when will we be out of allocation? That is very hard to predict at this point. Like I shared, literally, we have the product sold before they hit our warehouse, which is a good cash flow position to be in. We haven't seen supply even come close to catching demand at this point, I'm not sure exactly what it's going to be.
Yeah, San, look, this Switch allocation discussion, there is a contest among all the retailers, online and in-store, with our good friends at Nintendo. We've been working on this Switch launch for, Tony, a year and a half?
Yes.
We've been mining our 53 million members around the world, seeing who wants Switch, who wants what features, testing price points. We take that data to Nintendo, we talk about it and negotiate it. Our favorable allocations are the product of a year and a half's worth of negotiation. Going forward, I think our assets, tools, and weapons around the world are better positioned than anyone else. We expect to continue to be a significant player on the Switch allocation.
Okay, did I hear you correctly when you said you're lower than typical hardware allocations at launch, given that's early and they want to spread the wealth a bit.
Yes
It impacted both your hardware and software market share, or was it just the hardware?
Yes. We were lower than what we would call our average next gen market share. That's typical whenever you have a highly allocated product. It would take an incredibly bold company to allocate us at our normal market share. The calls they would get from our competitors would be I can't imagine. It would be a very bold move, and it has never happened. This is typical when there is a launch of a heavily allocated product. Even though we were able, like Rob shared, to sell more "Zelda" than we sold units, people are going to buy some of the software when they buy the hardware. We were slightly down. We were more down on hardware than we were on software share.
Remember that our share of Sony and Microsoft is close to 50% on the consoles.
San, this launch was a great share for us of a Nintendo product.
Yes.
Better than any console from Nintendo that we'd seen in the past. While it doesn't mirror what we do with Sony or Microsoft, it was very successful for us.
Okay, that's very helpful. Is that something we can expect to continue until the product is no longer sold out everywhere?
Yes.
Yep.
Okay.
That's probably a fair assumption.
I'm just curious, can you tell us a bit more what customers are trading in when they pick up Switch products?
Well, they're trading in a lot of hardware, like we talked about. As Mike shared, you have a lot of people that have three consoles. It's a little bit across the board, but a lot of it, the majority of it is next gen hardware that is coming in. We have, obviously, a lot of Wii Us coming in, and that is a predominant console that is traded in towards it.
Mike, do you want to add anything for international?
No, I'd say that's exactly right. We're seeing a lot of Wii Us getting traded in. Former Nintendo fans that really maybe weren't as satisfied with the Wii U, were really looking forward to some of the new titles like "Zelda" and "Mario Kart 8" for the Switch, and we're seeing them transitioning as soon as we get inventory in stock.
We also take phones and tablets, by the way, on trades. You've probably seen a few of those.
I've seen your recent ads. Yes, all right. Thank you. Appreciate it.
Great. Thank you, San.
Thank you, San.
Our next question comes from David Magee with SunTrust Robinson Humphrey. Please go ahead.
Yes. Hi. Good afternoon, guys.
Hey, Dave.
My question is on Tech Brands. If Tech Brands is sort of flat in the first half of the year, it's going to require a pretty strong second half to make that EBIT number. I just want to just sort of test your confidence level in that and maybe talk about the new products. It seems like that you sort of rationalize, get involved with this, with the mobile business, just given the tactile nature of phones and need for stores there. It seems like some of these newer products that you're selling people just buy off the web. Anyway, any color there would be helpful.
I'm going to let Jason answer that, just one observation, Dave, is that AT&T is the largest and most successful network in the United States. The speed that they're moving to transform themselves into something much more than a wireless carrier is pretty breathtaking. When they sit in our office and talk to us about that, we can't help but really get excited about the opportunity. I would just say it is an exciting space to be in spite of whatever transitional costs we've got. You want to talk about products and transitions?
Yeah. The second half of the year has both the highly anticipated iPhone 8, which we believe will drive a lot of demand. We think there's a lot of customers that have held onto the 5 and 6, and they're waiting for new innovation. I think in my script, I called it a super cycle that we're anticipating. We also have some pent-up demand for Samsung's Note product based off of the challenges of the Note 7 last year. There are customers that are really hopeful that the new Note 8 will be robust and innovative. In terms of online, really one of the things that's great about the category that we're in is it's been incredibly resilient to online activation. We're not seeing across the board much growth at all in any of the carriers business online.
We expect those customers will come buy the new innovation. They'll want to see it and transact in our retail stores.
David, I'd add a couple of points. This is Rob. The first is that the result in the profitability in the first quarter was expected. We're on the path to the $120 million of operating profit that we guided to previously. That path or that amount of operating profit holds us within our aggregate model for the money we've invested in Tech Brands to the 20% IRR that we were shooting for. I'd say that we reviewed at a very detailed level what the ramp is in terms of the small business emphasis that Jason talked about, as well as the sales of entertainment products. We've gotten comfort around what that looks like throughout the quarters of this year in order to help us achieve our goals.
Great. Thanks, Rob. Good luck.
Thanks, Dave.
Our next question comes from Curtis Nagle with Bank of America Merrill Lynch. Sir, please go ahead.
Good evening. Thanks very much for taking the question.
Curtis.
Yeah. Hey, Paul, how you doing?
Good man.
Good. Not to belabor a point, and I understand what drove such relatively good comp results internationally, but could you dig a little more into what drove a negative 2.4% comp, given what hardware did, and really just what were the more detailed drivers there? I'm not sure I still understand.
Sure. Look, the overlaps are something, I'll let Tony talk about this stuff, the overlaps, we got to take into consideration and the size of our market. Do you want to talk about it?
Sure. I think there's a couple things. Again, we are heavily allocated on the Switch, as Mike said. There was a higher share provided internationally than there was domestically, which drove it. To be honest with you, the collectibles business has grown faster on the international side. By its nature, the collectibles business is a difficult business to scale. When you're talking about close to 4,000 or 3,900 stores in the U.S., scaling out that business, we are behind where the international teams have been, both in terms of our ability to get product, the number of SKUs that they're able to get at scale, the ability to expand within our stores. I think, as I look at the business, and even to reference an earlier question about this, the U.S. is growing very quickly and very rapidly.
They are expanding the amount of linear footage in the stores to drive that collectibles business and move it up to the international average. That is a strong growth provider for us in the future. In order to do that, we have developed and are developing a very robust collectibles merchandising team that can buy this at scale. There is a ramp-up curve to that. I feel like we're coming off of that ramp-up curve, that's why you're seeing some strong growth. We grew at half the rate that international did this quarter, that's what drove a large portion of that comp difference.
This is Rob. I'll add that the way that the titles lined up benefited the international markets as well. Mike talked about that the international markets have a much stronger weighting towards PlayStation than does the U.S. You had a PlayStation-only title that helped with the software internationally. As well, some of the international markets, like Mike said, that share impact we talked about with respect to Nintendo, is not as dramatic as it is internationally.
Just one quick follow-up, if I could. What exactly were the paid PRO member numbers, and how did that compare to last year?
Yeah, who wants to? Are we-
Do we want to disclose that?
Have we disclosed that in the past, guys?
It's been a while since we disclosed what our paid membership was. I'll say that it's about, call it 16%-17% higher than it was a year ago.
Okay. Thanks very much.
Those PRO members pay $14.99 a year. It's an interesting format. As loyalty programs go, it's an interesting one where you have a segment of it is non-paid. Another segment is paid with different benefits for each. You can imagine, we look at that all the time and go, "Can we go higher with the paid segment?" We're testing some of that, can we offer some different benefits, collectibles still don't have any benefits. There's a lot of activity going on in that space.
We have time for one more, we'll take that question from Seth Sigman with Credit Suisse. Please go ahead.
Thanks a lot for squeezing me in. I'll get a couple in here. If I could just start with the Tech Brands business, can you just update us on the growth strategy at this point? How many stores are planned for this year, organic versus acquisitions? I guess just in general, what are you seeing as sort of the incremental growth opportunities from a store perspective?
We had talked about at the beginning of the year, there might be 50 of the white space stores. We had also talked about the opportunity for continued expansion through acquisitions of other AT&T retailers. The transition that we're going through with respect to the entertainment products has us on pause a little bit with respect to the white space store growth, as it does on the retailer acquisitions as well. Obviously, what impact has will affect the valuations in the retailer space, and we want to make sure that we've had adequate time to understand what's the right amount to be paying as we have acquisition opportunities.
Just given your size today relative to a couple of years ago, are there any limitations from a growth perspective, how many AT&T stores you can have?
I think that if you'd have asked that question three years ago, even one year ago, we would've told you that we weren't sure that AT&T would allow us to get to the size that we are. We believe that as long as we continue to be their best-performing partner, they're going to continue to provide more opportunities for us and with us. We're actually bullish still that there's room for us to grow in the space. We just need to do a better job of executing on entertainment business.
Seth, the AT&T team, their strategy is to continue to grow into integrated media and entertainment. If they get through this, when they get through this, they will have a ton of properties. I think they have a serious appetite for divesting some of their own stores at some point down the road. I think there's still a lot of growth here. We just need to understand, first of all, we got to get it under control. These guys have gone from 70 stores to 1,500 in two and a half years so it's not a light challenge. I do think, we continue to be very bullish on our ability to grow that business.
Got it. Okay. Can you just help us reconcile the 7% decline in Tech Brands traffic with the 19% decline in, I think it was gross profit comps. Is that a conversion issue, or is that a change in the economics of the individual transactions? How should we be thinking about that?
I think there's two components to it. One is the upgrade cycle that Jason talked about. You get traffic in the stores to help deal with phones that people aren't ready to trade in. Maybe they need a repair on it. They need something with respect to it, a new case or whatever. The traffic is impacted some, but the lack of upgrade transaction impacts the gross profit. As well, it's what AT&T is doing in terms of the underlying compensation plans and how they pay us and transitioning to the sales of the entertainment products.
Got it.
Obviously, based upon history, we're doing a lot more in terms of straight wireless transactions than we are entertainment. We're working to, as we said, train the sales staff to shift that and drive the traffic to support that.
The improvement embedded for the second half of the year in Tech Brands reflects an improving mix of those ancillary services, a combination of that and also the iPhone, or how should we be thinking about that improvement?
Well, you should think about it in terms of the iPhone and other products that can drive the traffic, and drive that upgrade cycle, as well as our sales proficiency with respect to the entertainment products.
Got it. All right. Thanks a lot.
That concludes the question and answer session. Mr. Paul Raines, at this time, I'd like to turn the call back over to you for any additional or closing remarks.
Okay. Thank you, operator. We thank you for your support, especially, I know it's ahead of a Memorial Day weekend, so thank you for being on the call, and we'll look forward to seeing you in the future. Bye-bye.
Ladies and gentlemen, that does conclude today's presentation. Thank you for your participation. You may now disconnect.