EA transition continues to test investors' patience
It looks like another tough year of grinding out revenues and earnings
EA reported its earnings today for its fiscal year first quarter, and they came in a little under the expected numbers. It's a tough environment out there, and the future is getting increasingly hard to predict. That's the conclusion you can draw from EA's guidance for the rest of FY 2013, which ranges from a loss of 17 cents per share to a gain of 5 cents per share (using GAAP). That's a pretty wide range, and it points to the difficulty EA has in predicting just how various trends are going to continue for the next year.
One of the key factors EA acknowledged on its investors conference call is a slowdown in social games; EA expects "weaker growth in the social space," according to CEO John Riccitiello. At the same time EA touted good numbers from The Sims Social, which has generated some $50 million in revenue since its launch, and early numbers on SimCity Social look good so far with 10 million monthly average users (MAU) in only a few weeks.
EA made it clear that they don't consider the Wii U a hot product for the holidays; Peter Moore, in response to an analyst question, said "you're probably right that Wii U got a lackluster response" at E3. More to the point, EA hasn't announced any other titles than Mass Effect 3 for the Wii U. No other big spending on the Wii U or next-gen consoles was noted, nor is their forecasting specifically calling out the Wii U as a major positive coming up. Translation: EA doesn't expect great sales from the Wii U.
"EA made it clear that they don't consider the Wii U a hot product for the holidays"
Still, EA will no doubt be "opportunistic" as interim CFO Ken Barker noted. That means if the Wii U takes off, EA will jump on it, even though it means getting to the party late. This is pretty much how EA (and other major publishers) approached the Wii last time; little support at launch, but once it proved a hit resources were shifted to take advantage of it. The minimum 1-year delay this causes will not help the Wii U in its quest to get established. The other implication of this is that EA will not be putting great effort into specific Wii U development; any titles that are started are likely to be ports, without much resource spent on adapting to the gamepad controller.
Star Wars: The Old Republic was confirmed as the major disappointment of the quarter, while Battlefield Premium "largely offset" the Star Wars shortfall. SWTOR subscriptions dropped below 1 million, and although President of EA Labels Frank Gibeau noted that the break-even point for them is 500,000 subscribers, it's clear that SWTOR is not going to be a big positive. Last earnings call EA talked about the major marketing push coming, and lots of new DLC for SWTOR... none of which apparently made much difference. The new plan is to go free-to-play, sort of; up to level 50 you can play for free, but if you pay $15 per month you'll get all the content and some in-game currency to spend. It sounds possible, but rebalancing a game design along those lines is certainly not trivial. It's akin to redesigning an aircraft's airframe and engine while flying cross-country, and hoping to avoid a crash.
EA is looking for their Battlefield Premium service to make up for the disappointing revenue of Star Wars: The Old Republic. With 1.3 million subscriptions sold to date, they are quite pleased with the response. Will it be sustainable in the long-term? From the tone of their comments, EA's execs will be exerting a great deal of effort to make that happen.
Digital is the white knight riding to the rescue of packaged goods. EA derived two-thirds of its revenue from digital sales in the first quarter; it increased 57 percent over last year. Free-to-play games were up 87 percent in revenue. Overall, revenue is down from last year as the softness in retail stores isn't quite made up by the growth in digital. On the plus side, though, John Riccitiello noted that gross margins on digital products range from the 70s to the 90s, while gross margins on packaged goods are typically in the 60s. This explains quite nicely why EA would prefer its revenue to be all digital. Still, packaged goods help the digital sales along; in response to an analyst question, Frank Gibeau noted that a good $400 million of EA's $1.3 billion in digital revenue over the last 12 months came from console products. This points to the continued importance of console products as a driver of digital sales.
"EA derived two-thirds of its revenue from digital sales in the first quarter"
EA's response to concerns about its stock price is straightforward: a $500 million stock buyback. Since EA's cash on hand is about $1.4 billion, EA is clearly signaling that they think their current stock price is undervalued, and that this is the best use of more than a third of their cash. Will investors agree? Watch the stock price and find out.
We can expect EA to continue to push forward hard on multiple digital fronts, and probably to invest only in surefire console and PC products. New IP can be introduced in much less risky ways, most likely on mobile platforms where the costs are so much lower.
EA's FY13 looks like another year of transition, with shifting business models and uncertain trend lines in many key markets. They are not forecasting any windfalls, but on the other hand, EA feels they are diversified enough in their revenue source to be able to find a path to profits regardless of the gyrations of the marketplace. It's a tough sell to investors who continue to wait for strong, sustained growth before they bid up the stock price.
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