Electronic Arts (EA) is a leading developer of video games for consoles, PCs, phones and tablets. The company’s portfolio of intellectual property includes a handful of owned and licensed brands, including FIFA, Madden NFL, Star Wars, Battlefield, The Sims and Need for Speed. Most of those franchises have had sizable audiences for many years, with The Sims, Need for Speed, FIFA and Madden each (individually) amassing more than 100 million units sold since inception.
As noted in Electronic Arts' 10-K, its strategy is focused on a relatively short list of franchises:
“We maintain a relatively limited product portfolio … Many hit products within our industry are iterations of prior hit products with large established consumer bases and significant brand recognition, which makes competing in certain product categories challenging … A significant portion of our revenue historically has been derived from games and services based on a few popular franchises.”
The most important franchise is FIFA, which is consistently one of the best-selling video games in the world. It’s estimated that a recent FIFA launch sold 40 times more copies than Pro Evolution Soccer in the week following each game’s release. As CEO Andrew Wilson recently noted, there were 45 million people playing FIFA on consoles and PCs during 2019 - and 100 million more on mobile and PC free to play.
FIFA discs and full-game downloads accounted for a mid-teens percentage of Electronic Arts' revenues last year (it’s worth noting that downloads come with 80-85% gross margins, about 20 points higher than what the company makes on physical discs). That does not include sales attributable to Live Services, which for FIFA is primarily purchases associated with FIFA Ultimate Team (or FUT). EA does not disclose detailed financials, but the filings suggest that revenues from EA's key sports franchises account for roughly half the business (and a larger percentage of its earnings / free cash flow). As shown below, the company dominates that genre of the market.
https://userupload.gurufocus.com/1255277218.jpg
Growth in the company’s sports franchises, especially monetization after the initial purchase of the game, has led to a meaningful improvement in the company’s financials. Since fiscal 2015, revenues attributable to Ultimate Team have more than doubled to $1.4 billion. This revenue comes with outsized operating margins, which has led to a significant increase in Electronic Arts' profitability.
https://userupload.gurufocus.com/990256530.jpg
Unsurprisingly, the company is trying to replicate this success with its non-sports franchises. On that front, the company had a notable public blunder with Star Wars Battlefront II. On the other hand, the successful launch of Apex Legends in February 2019 was a nice surprise. It’s still early for that franchise, but I think there’s reason for some optimism in the years ahead.
Conclusion
Last year, Mr. Wilson said, “Change in the gaming industry is accelerating … we see more disruption coming in the next five years than we’ve seen in the last 45.”
The explosion in the global smartphone installed base is a boon for the video game industry. Gone are the days when gaming required the purchase of hardware (consoles, controllers, etc) that cost hundreds of dollars. For EA, that presents both risks and opportunities. I take comfort in the fact that the core sports franchises have historically looked like annuity streams. FIFA has benefited from the rise of online services (like Xbox Live) and is now riding the wave of eSports. From what I’ve seen, it seems likely this trend will continue (as noted on the fourth-quarter conference call, there was a more than 60% increase in total unique viewers for FIFA Global Series content over the past year). Engagement with the franchise is what will ultimately drive continued growth for Ultimate Team. If that plays out, it will lead to revenue growth for EA - and outsized growth in profitability. (It's also worth noting that the company has a strong balance sheet, with roughly $4.4 billion in net cash.)
As noted above, the industry is changing. Cloud gaming, mobile, subscription services, eSports, microtransactions (MTX) and the rise of "games" like Fortnite all present opporutnities and risks for game developers. I don’t think I’m in a position to intelligently speculate on what that means for EA, specifically on their non-sports franchises. But that’s an uncertainty I can live with at the right price.
I don’t think the stock price is there today, but it’s not far off. If market participants become pessimistic on EA's prospects like they did in late 2018, I would likely initiate a position.
Disclosure: None.
Read more here:
Costco: Maintaining Its Dominance
Dollar General: Another Step Forward
A Look at Dollar Tree's Start to Fiscal 2019
Not a Premium Member of GuruFocus? Sign up for a free 7-day trial here.
