2023-04-26 18:31:52 ET
Summary
- EA Sports easily dominated the sports games market with its soccer and football franchises.
- However, they are a very small player in the mobile market, which could lead to difficulties in the future.
- And, unfortunately, they have a premium rating, even though I think they are not as good as other publishers.
Thesis
Electronic Arts ( EA ), through its EA Sports division, is the clear leader in the sports gaming market on consoles and PC. FIFA in particular, but also Madden, dominates the competition in terms of revenue and market share. But the big problem for EA is that it is a very minor player in the important mobile games sector.
If they do not improve dramatically in the mobile market, their business prospects are likely to be worse than those of some of their competitors. And the high growth rate of the mobile market will make it even more important in the future.
Analysis
EA is seen as a premium company in the games market, which we can clearly see in the EV/EBIT multiple, as it is at a premium to most of its competitors. With a multiple of over 20, they are clearly not cheap, but most of the time quality companies can justify this valuation with better business prospects or metrics.
EA dominates the soccer games market with its FIFA series, winning the market share battle against Konami's (KNAMF) Pro Evolution Soccer/Winning Eleven. While PES may have been the better game in the past, the lack of licensing for teams and players helped FIFA win, as it was too much work for casual gamers to give players and teams their real names in PES.
So the licenses in FIFA and Madden are a real competitive advantage. In terms of NBA Live, they had a strong competitor who also had the licenses in NBA2k from Take-Two (TTWO) and they lost the battle against the better franchise.
If you are interested in an analysis of Take-Two, you can read it by clicking on the link provided .
The FIFA ecosystem they have created with FIFA Ultimate Team is a clever one. Fans buy their games every year at full price, with only minor changes to the game in most cases, and in Ultimate Team they have to buy packs to get the players they want if they want to compete against the best. From the next version this game will be called EA Sports FC, and we will see what they do as they have more freedom now with the name change. It will be quite interesting.
Most Played/Streamed Games
Looking at the most streamed games in 2022 , combining Twitch, YouTube, and Facebook streams, we see Apex Legend in 4th place. This is a very good result for EA, and if we look at another site , we can also see FIFA and Madden in the top 30. And if you look at the top-grossing game franchises of all time , we have FIFA at 7 and The Sims at 11. So they clearly have some top franchises.
Mobile Games
But in the mobile games market, which will dominate gaming in the future even more than it does today , EA is clearly a minor player. Looking at the top-grossing publishers for mobile games, EA is only in 28th place . While companies similar to EA such as Bandai (NCBDF) and Take-Two with Zynga are in the top 10. The difficulties in the games market are also illustrated by the fact that EA cancelled Battlefield Mobile and Apex Legends Mobile because they did not meet players' expectations .
In my opinion, their mobile games are currently not suited to the audience on that platform, but I could see the Lord of the Rings mobile game becoming a success, depending on the quality of the game.
If you look at the profitability tab , EA gets an A-, and I would argue that they have good numbers, but they are not an A. Net profit margins, while still good, have fallen to 14%. And if we compare that with a company like Nintendo (NTDOY), which has a net profit margin of 27%, it shows that there are competitors who are even better.
Nintendo is an interesting company in this space with a super cheap valuation that could be interesting to look at .
Other metrics that are important to me, such as ROC and ROE, had 5-year averages of ~12% and ~20% respectively, while both have declined in recent years and are on a downward trend. Both of these figures are quite good, but coupled with a premium price tag, they are nothing to get excited about.
Buying back shares when they are undervalued is a good way to use free cash flow, but in my view the shares have been overvalued in the past and the cash flow could have been used more efficiently. Diluted EPS at the end of March 2016 was $3.5 and TTM diluted EPS is currently $3.71. So despite the share buyback, there is not much difference in EPS over this period.
Another way to return money to shareholders is through a dividend, and I could see EA becoming a dividend growth stock . They clearly have the cash flow and could increase the dividend over a long period of time.
Reverse DCF
To see what is priced into the share price, I like to look at the reverse DCF and using the TTM diluted EPS of $3.71, I conclude that EA needs to grow EPS by 15% over the next 10 years. And looking at the EPS comparison from the previous chapter and the future growth opportunities, I do not see them achieving that.
So I would argue that the shares are overvalued at the moment.
Conclusion
With a decent balance sheet, where total cash and ST investments are greater than total debt, and good free cash flow, I see EA as having the opportunity to be a better company in the next 5 years.
They also have excellent IPs to build on in the future, but their weak position in the mobile market is something they really need to address. If EA did not have such a premium to its share price I would not be so harsh, but at this valuation, I would not recommend building a new position. But for existing shareholders, my recommendation would be to hold, as they are still a good company but too expensive at the moment.
For further details see:
Electronic Arts: Top Of The Class In Sports Games, But That's Not Enough