Electronic Arts (EA, Financial) is a multimedia and graphic software company that delivers content for video game consoles, PCs, smartphones, and tablets worldwide. The company competes in the gaming world with the likes of Take-Two (TTWO, Financial), Activision Blizzard (ATVI, Financial), and King Digital Entertainment (KING, Financial). The best thing about Electronic Arts is that it has many titles that generate regular revenue. Unlike Take-Two, Electronic Arts doesn’t rely heavily on any game to boost its revenue and earnings. Hence, I think that Electronic Arts is the best stock to buy in the gaming market.
Strong growth of new-gen consoles
The success of new-generation gaming consoles is one of the growth catalysts for Electronic Arts. For example, according to a report from IDG, currently there are about 34 million units of the new-generation console, and this is slated to touch 50 million units by the end of this year. In the long run, by 2019, this is expected to reach 110 million units, representing more than 100% growth from 2016 through 2019.
Electronic Arts is looking to make the most of this growth by releasing several titles like FIFA 2016, NHL etc. These titles have been successful year after year and I expect this trend to continue. Hence, I think Electronic Arts is well positioned to benefit from the growth in next-gen consoles.
Subscription-based revenue model
Electronic Arts’ Access service will increase the share of assured recurring revenue and facilitate the shift toward a more profitable digital content in the revenue mix. This service provides Xbox One users an access to a library of titles, starting with FIFA 14, Madden NFL 25, Peggle 2, and Battlefield 4, with more promised to be added to the library down the line.
Also, subscribers will get a 10% discount on all digital purchases on Xbox One and will also be able to download and play upcoming EA games before they’re released for a limited time.
Mobile gaming market potential is huge
According to a report, the mobile games market is projected to grow to over $40 billion by the end of 2017. Electronic Arts is already gaining substantial traction in this segment. For example, nearly three years after launch, The Simpsons: Tapped Out clocked more than 16 million monthly players throughout fiscal 2015. Also, players are going deeper into SimCity BuildIt, clocking over 2.4 billion game sessions in the fourth quarter.
Moreover, Madden NFL Mobile continues to draw in more gamers, with gameplay up 25% sequentially. The company’s presence in the mobile market further exemplifies its diversification, and this is exactly why this is my favorite stock in the gaming industry.
Shifting focus to digital content
During the fourth-quarter fiscal 2015, digital revenues contributed 52% to total sales. So, digital business remains the key growth catalyst for Electronic Arts, and this will offset any weakness in the traditional package-goods games.
For example, in fiscal 2016, the packaged-goods games are expected to decline 11% year-over-year, and digital revenue is expected to be up 14% year-over-year. So, the shift of focus to digital content will more than make up for the loss in the packaged-goods segment.
With the increasing weight of digital content revenue in the sales mix, and disciplined management of operating expenses, achieving an operating margin of 30% doesn’t look impossible in the long run. During fiscal 2015 the company’s margin expanded 700 basis points to 25%.
Wrapping up
Electronic Arts has been performing well, and the stock as rallied strongly after the fourth-quarter fiscal 2015 results. The company is gradually shifting focus to subscription-based business model and digital content, and this is panning out well.
Also, new games and bolstering the existing franchise will also be driving growth. Secular growth of gaming console is another growth catalyst. Analysts expect next five-year growth rate to be at a CAGR of 13.18% versus industry and sector growth of 9.28% and 12.92%, respectively. Forward P/E of 19.25 is also attractive, looking at the growth prospects of the company.
Also, the board has authorized a fresh $1 billion share buyback program. The company has a strong balance sheet with cash of over $3 billion and debt of around $633 million.
Hence, this is a good stock to buy for the long run
