Video Game Stocks Face More Trouble Ahead

Investors have high hopes for video-game makers as the industry transitions to digital distribution and cloud streaming, but as the holiday season approaches, those hopes are crashing hard. Shares of Electronic Arts Inc. (EA) and Activision Blizzard Inc. (ATVI) are both down more than 15% on the year, and Take-Two Interactive Software Inc. (TTWO), while up nearly 3% this year, has fallen significantly from the year’s highs.

Why Video Game Stocks Are No Fun

 Stock  Change from 2018 High
 Electronic Arts  - 40.7%
 Activision Blizzard  - 35.8%
 Take-Two  - 18.1%

Source: Yahoo! Finance, as of 4pm EST 11/15

Despite the myriad of benefits that the cloud revolution may bring to the video-gaming industry, content is still king. In order to stay competitive, video-game companies must continually make strong content, which is not an easy thing to do, even for companies with strong game franchises like Activision’s Call of Duty or Take-Two’s Grand Theft Auto. “We don’t think making a larger volume of compelling content in a creative business is simple,” wrote Cowen analyst Doug Creutz, according to Barron’s. He added, “Quantity is often the enemy of quality.”

What It Means

While EA and Activision both beat earnings estimates for the most recent quarter, both provided weaker guidance in their reports. EA reported earnings of 83 cents per share compared to analysts’ expectations of 58 cents per share, but the weaker guidance prompted analysts to lower their revenue and earnings forecasts for the company. Some technical analysts see another 12% drop in the company’s stock.

Activision reported earnings of 52 cents a share, above estimates of 50 cents a share, but reported a loss of 7 million monthly active users and predicted that the coming fourth quarter, which coincides with the holiday season, would bring in just $3.05 billion in revenue compared to estimates of $3.06 billion. That translates to forecasted earnings of $1.06 per share compared to analysts’ predictions of $1.34 a share, and that’s following new releases during the third quarter of popular games like Call of Duty: Black Ops 4 and World of Warcraft: Battle for Azeroth.

Creutz is among a number of analysts who have recently lowered their price target on Activision’s stock. He lowered his target to $56 last Friday, which at that time was the lowest on Wall Street, according to FactSet.

"We worry that recently accelerating R&D spending and disappointing margin performance across the industry is indicative of a zero-sum content arms race that expands costs without expanding revenue"—Doug Creutz, Cowen

Take-Two, on the other hand, not only beat estimates—reporting $288.3 million in adjusted revenue compared to estimates of $258.4 million—but also raised its guidance for the fiscal year ending 31 March. The favorable outlook was boosted by the success of the company’s recent launch of the anticipated Red Dead Redemption 2, which raked in a record-setting $725 million in its ‘opening weekend’. Only the mid-week three-day launch of Grand Theft Auto 5—another Take-Two release—in 2013 brought in more at $1 billion. But that just goes to show that creating record-breaking content is not easy.

What’s Next

Of course, if content is king then all it takes is one hit game to boost profits and flip investor sentiment. In the long term, gaming companies should expect to see some increasing benefits from cloud computing, but in the short term, it may be a rather unhappy holidays for video-game-company investors.

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