Last Friday Pat answered a question from a Member of his Inner Circle on a high risk stock that makes software for gambling (see the article here). This week, he responds to a question on one of the largest companies in the video games industry, Electronic Arts. While the company’s shares have doubled in the last year, Pat considers the pressure on the company to turn out successful new games, and whether a popular trend is likely to translate into a good long-term investment.
Q: Hi, Pat: Can you provide your fundamental analysis of Electronic Arts? Thanks.
A: Electronic Arts Inc. (symbol EA on Nasdaq; www.ea.com) makes video games for a variety of devices, including computers, consoles (such as the Sony PlayStation, Microsoft Xbox and Nintendo Wii) and mobile devices (including the iPhone and iPad).
The company sells a number of sports-based titles it reissues annually. It has licensing deals with most major professional sports organizations, including the National Football League, National Basketball Association, National Hockey League, FIFA (soccer) and PGA Tour golf.
Electronic Arts also develops its own game franchises and constantly releases sequels and new versions that give it ongoing revenue. Top-selling examples include The Sims (a life-simulation game), Need for Speed (car racing), Battlefield (war), Plants vs. Zombies (strategy) and Dragon Age (a fantasy role-playing game). In addition, Electronic Arts makes games based on popular movies, such as Star Wars.
The company’s games sell strongly around the world. It now gets over 50% of its revenue from outside of North America.
In its 2015 fiscal year, which ended March 31, 2015, Electronic Arts’ revenue jumped 26.3%, to $4.5 billion from $3.6 billion in fiscal 2014.
Revenue from physical discs and downloaded games (57% of the total) rose 20.3%. The remaining 43% came from selling subscription-based online games and extra downloadable content; revenue from this business jumped 35.1%.
Without unusual items, earnings jumped 50.9% during the year, to $806 million, or $2.51 a share, from $534 million, or $1.69.
The company spends a high 24% of its revenue on research, which helps it compete with other software firms and adapt its games to new devices. Electronic Arts holds cash of $3.0 billion, or $9.75 a share. Its long-term debt is just $31 million.
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High risk stocks: Electronic Arts counting on strong demand for new Star Wars game
The most important factor for Electronic Arts is the successful launch of new games. For example, it should see strong demand for its Star Wars: Battlefront game, due to be launched in November 2015. That’s because the latest movie in the Star Wars franchise, The Force Awakens, is slated for release the following month.
In 2016, the company plans to release sequels to its popular Mass Effect and Mirror’s Edge games.
Electronic Arts’ shares have nearly doubled in the past year, thanks to the company’s rising online and mobile game revenue and successful cost cutting. It recently said it plans to buy back up to $1 billion worth of its shares over the next two years.
The stock now trades at 26.7 times the $2.75 a share Electronic Arts will likely earn in fiscal 2016. That’s a high multiple in light of fickle consumer tastes and the fact that games can quickly fall out of favour. It’s also difficult to develop games for many different platforms—and that frequently delays their launch.
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Last Friday Pat answered a question from a Member of his Inner Circle on a high risk stock that makes software for gambling (see the article here). This week, he responds to a question on one of the largest companies in the video games industry, Electronic Arts. While the company’s shares have doubled in the last year, Pat considers the pressure on the company to turn out successful new games, and whether a popular trend is likely to translate into a good long-term investment.
