2023-11-07 03:10:31 ET
Summary
- Electronic Arts has potential for further upside based on strong net booking growth and healthy free cash flow generation.
- Net bookings and net revenues have continued to see growth, driven in part by the success of the EA SPORTS FC gaming title.
- The company's solid financial position and growth in free cash flow indicate the ability to fund further growth and potentially increase dividend payouts.
Investment Thesis: I take the view that Electronic Arts has the potential for further upside, based on strong net booking growth and healthy free cash flow generation.
In a previous article back in September, I made the argument that Electronic Arts (EA) has the capacity to see further upside going forward, on the basis of an impressive rebound in net booking growth and an improving cash flow position.
Since then, the stock has ascended to a price of $128.38 at the time of writing:
The purpose of this article is to assess whether Electronic Arts has the ability to see continued growth from here taking recent performance into consideration.
Performance
When looking at Q2 FY24 earnings results for Electronic Arts (as released on November 1), we can see that net bookings have continued to see growth YoY, up by 3.7% from that of Q2 2023.
Moreover, when looking at a breakdown of net revenue, it is interesting to note that while growth in net revenue was modest - this was due to growth across the full game segment, with live services and other having actually seen a decline over the period.
I had previously pointed out that a significant source of uncertainty surrounding the performance of Electronic Arts going forward was the eventual performance of the EA SPORTS FC gaming title, rebranded from the original FIFA gaming title. Specifically, I had made reference to the fact that given FIFA was a key revenue source for the company - it was uncertain as to whether sales would remain buoyant following the rebrand.
With that being said, it is notable that upon the release of EA SPORTS FC - the gaming title had over 14.5 million active accounts within the first four weeks of its launch globally. With the game having been released September 29, the full extent of the gaming titles' success has yet to be seen. However, the fact that we have continued to see growth in net bookings and net revenues for this quarter is quite encouraging, and for this reason I remain optimistic that we can continue to see similar levels of growth in net bookings and revenues as we did with the original FIFA title.
With regards to short-term liquidity, we can see that the quick ratio of Electronic Arts (calculated as cash and cash equivalents plus receivables, net all over total current liabilities) has increased to above 1 - indicating that Electronic Arts now has sufficient liquid assets to meet its current liabilities.
Mar 2023 | Jun 2023 | Sep 2023 | |
Cash and cash equivalents | 2424 | 2259 | 1946 |
Receivables, net | 684 | 517 | 1047 |
Total current liabilities | 3285 | 2800 | 2788 |
Quick ratio | 0.95 | 0.99 | 1.07 |
Source: Figures sourced from Electronic Arts Q1 and Q2 FY24 Earnings Release. Quick ratio calculated by author.
Additionally, it is also notable that free cash flow has continued to see significant growth - with free cash flow up by 28% on a trailing twelve month basis.
In this regard, the fact that net bookings have continued to see growth and Electronic Arts has also been able to bolster free cash flow is encouraging.
My Perspective
As regards my take on the above results and the implications for the growth trajectory of the stock going forward, I am optimistic that net booking growth can continue from here given the welcome reception of the new EA SPORTS FC title.
In addition, the fact that the company has managed to bolster its quick ratio to above 1 while also continuing to grow free cash flow is encouraging - and indicates that it is in a solid financial position to fund further growth going forward.
Electronic Arts started paying dividends in 2020 and has made one dividend increase during that period. However, growth in free cash flow may put the company in a good position to further grow dividend payouts in the future.
I had previously stated that I estimated Electronic Arts to be fairly valued at the $120 mark, given that the stock was trading at a similar level to that seen in 2018 - when the company's P/E ratio and earnings per share were also trading at a similar level.
Over the course of the month, we have seen little movement in the P/E ratio, but we have seen earnings per share continue to rise:
In this regard, given that we have seen price ascend to $128 over the course of the past month - I take the view that continued growth in earnings could push the stock back to a high of $140-150, a level we saw at the beginning of 2021 when pandemic restrictions had led to significant demand across the gaming industry.
Risks
In terms of the potential risks to Electronic Arts at this time, we have previously seen that over the past four years - net bookings have typically been highest in Q3. As a result, should we see net bookings fall short of that achieved in the previous year - then this could place downward pressure on the stock due to disappointed investor expectations.
Additionally, Q3 will represent the first full quarter that the success of EA SPORTS FC can be gauged accurately. While the title is off to a good start, it could still be the case that the title fails to bolster net bookings to the extent that the FIFA title would have previously done.
In spite of these risks, I take the overall view that performance for this quarter has been quite impressive, and I am optimistic on growth prospects for the company going forward.
Conclusion
In my previous article, I had expressed my view that if net bookings see further growth - particularly on the back of the EA Sports FC release - then this would cause me to take a more bullish view on the stock. This has proven to be the case, along with encouraging growth in free cash flow. Given these factors, I now revise my rating on Electronic Arts from hold to buy.
For further details see:
Electronic Arts: Net Booking Growth Strong On The Back Of EA SPORTS FC Release