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Should You Buy Electronic Arts Inc. Stock? 3 Pros, 3 Cons

Ian Bezek

Electronic Arts Inc. (NASDAQ:EA) has been a solid winner for investors. EA stock has rallied 42% over the past year and hit new all-time highs.

Despite these gains, however, EA stock badly trailed its key rivals within the gaming industry. A disastrous game launch late in the year led to poor sales and a fresh boycott of the company. On top of that, its 2018 release calendar is looking a little light.

Can EA overcome these cons and power higher anyways?

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EA Stock Cons

Public Relations Nightmare: Star Wars: Battlefront 2‘s launch caused a fiasco for EA. The company loaded the game with microtransactions. This forced players to pay additional fees to access key game features, including iconic characters like Luke Skywalker.

Microtransactions have long been the key to the monetization of mobile games. For traditional console/PC games, however, it is risky to charge for additional content that players feel should be included in the base game’s cost. Players pay a big sticker price for the game, and don’t expect to be nickel and dimed to get gameplay features that were free in past editions of the game.

EA suffered previous reputational blows after getting too greedy. The SimCity series, for example, effectively died off with Sim City 2013’s messy copy-protection scheme and forced-online play at its launch. The Sims 4 has also slumped compared to previous editions of the series, with too much overpriced downloadable content largely to blame.

EA rolled back its bad decision on Battlefront 2, but by then the damage was done. First-week boxed sales in the UK plummeted more than 60% versus its predecessor, Star Wars Battlefront, and declined 50% compared to Battlefield 1 — just a month after retailers forecast that the game would top Battlefield 1 sales.

Not Much In 2018: Electronic Arts has no major releases coming this year until the holidays. Even for the holidays, it only has Anthem coming up. And, so far, little is known about this new EA franchise. Anthem could be a big winner, but for now it’s hard to predict — sequels based on established IP are far more predictable.

Battlefield 2 whiffed, and a lot of gamers are continuing their boycott of EA due to that incident. With no big releases to pull them back, EA could be troubled with slow sales for much of the year.

Expensive Stock: EA stock is currently trading at 30x trailing earnings and 24x forward earnings. And, as we’ve seen above, it’s generous to estimate that earnings will increase that much in 2018 given the weak roster of games coming out this year.

EA stock also looks expensive on other metrics such as price/book and price/sales. It’s hard to make the case for paying such a premium for EA stock. After all, it remains a cyclical and hits-driven company. A few quarters of weak sales, and investors would slash their valuations for EA going forward.

I know the whole sector is on fire. Take-Two Interactive Software Inc (NASDAQ:TTWO) soared 127% over the past year. Activision Blizzard, Inc. (NASDAQ:ATVI) is up a healthy 76% over the past year.

Sure, gaming is a growing business. But there will still be winners and losers, and right now EA stock is at risk if they release more duds.

EA Stock Pros

Strong Mobile Presence: EA has done a great job of tapping the mobile gaming market. This has been responsible for a number of favorable developments, including rising profit margins and steadier revenue streams.

Mobile games tend to be cheap or free, and rely heavily on microtransactions to provide ongoing income for EA. EA blundered by trying to turn its hardcore gamers — who have already paid a premium for a base game — into microtransaction buyers. But the business model is working great for the casual gamer.

Mobile revenues rallied 9% over the last year, powered by sports games and the continuing strength of  two-year-old Galaxy Of Heroes.

Ultimately, a strong lineup of casual/mobile games reduces the risk of EA stock as it moves away from relying on blockbuster new game releases.

Great Balance Sheet: EA has developed a fantastic balance sheet over the years. It has built up a cash pile of more than $4 billion against just $1 billion in debt. That cash level has doubled since 2013.

This gives EA a great deal of flexibility going forward, particular for acquisitions.

Over the years, EA has taken over numerous key gaming franchises by buying up other development studios. With how quickly trends and fashions change in gaming, EA’s war-chest gives it the necessary ammo to buy up the hot new developers for years to come.

Untouchable Sports Franchises: While rival games remains a key factor for gaming companies, EA has a better than average competitive position. Companies like Zynga Inc (NASDAQ:ZNGA) had a hot game or two. But shares quickly sunk after competition ripped off their best games with similar new launches.

EA, on the other hand, has franchises such as FIFA and Madden that simply have no match.

In many cases, EA can obtain exclusive license to make the game for a given sport. Even in sports where there is competition, EA generally holds the vast majority of market share. The company has a virtual license to print money with each year’s new Madden launch.

That in turn gives it a sizable competitive edge.

EA Stock Verdict

EA has successfully navigated the tricky move from traditional PC/console gaming into mobile. Revenues continue to power higher in that all-important category. This, along with yearly staples like Madden and FIFA, helps insulate EA stock from the ravages of a bad game launch or two.

That said, they whiffed badly (again) on the new Star Wars game. And there isn’t much on the calendar for 2018.

Given that backdrop, it’s hard to see the stock, already at a generous 30x earnings, moving much higher over the next several quarters.

At the time of this writing, the author had no positions in any of the aforementioned securities. You can reach him on Twitter at @irbezek.

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