Electronic Arts Gains on Digital Business: Time to Invest?

Zacks

We updated our research report on Electronic Arts Inc. EA on Jun 2, 2015.

Electronic Arts reported solid third-quarter fiscal 2015 results comfortably beating the Zacks Consensus Estimate for both earnings and revenues. The better-than-expected results came on the back of strong game line-up and consistent growth in mobile markets. Going forward, we believe that the growing digital sales and cost containment will boost margin expansion. In addition, increased consumer spending on smartphones and tablets will aid the company’s online business.

The Zacks Rank #1 (Strong Buy) stock significantly gained from the ongoing shift from physical to digital versions of video games. The digital business is expected to remain a key driver for the company and should offset weak growth in traditional packaged-goods games. The company expects the digital business (50% of revenues) to continue to grow in fiscal 2015 and beyond, primarily backed by the strong mobile business. Currently, EA SPORTS titles are a major hit among mobile gamers. In addition, the company’s freemium and extra content services are generating significant market traction, driving top-line growth.

Nevertheless, video games have to remain popular to generate revenues. Though EA has a powerful line of games that can be repeatedly upgraded, there is no assurance that a particular game will be a hit. So the underperformance of any title would affect results, with sales and earnings missing expectations. The video game business is highly cyclical and heavily dependent on regular upgrade or new game software and hardware system launch.

Further, the video game publishing industry is intensely competitive with major player like Take-Two Interactive Software Inc. TTWO, Activision Blizzard, Inc. ATVI and King Digital Entertainment plc KING. The resultant pressure could hamper margins and lead to market share losses. Lower volume of packaged goods sales further adds to the margin pressure. EA’s continued investment in the digital market may also hurt its near-term profitability. Moreover, in an effort to enhance brand identity, the company is investing in increased promotional activity, which is expected to be a drag on the margins.

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