MKM Remains Bullish On EA, Activision Blizzard, Take-Two

• Electronic Arts Inc. EA shares declined 3 percent since December 21, while shares of Activision Blizzard, Inc. ATVI were down 10 percent and Take-Two Interactive Software, Inc. TTWO lost 6 percent.
• MKM Partners’ Eric Handler has a Buy rating for all three companies.
• Handler expressed optimism regarding the prospects for growth for these companies.

Electronic Arts

An $84 price target price target has been maintained for the company. Analyst Eric Handler said that the recent pullback in Electronic Arts’ shares does not take into account the company’s strong growth prospects over the next 12-15 months. He added that the company could beat Street forecasts for both 3QFY16 and FY17.

For 3QFY16, Handler projected revenue of $1.795bn, representing 26 percent growth, and EPS of $1.82, representing a 50 percent jump. This compares with guidance of $1.775bn and $1.75 and consensus of $1.805bn and $1.81, respectively.

With signs of an aging business cycle in the domestic economy, both the videogames industry and the largest publishers “remain on firm ground.”

The analyst further wrote, “EA in particular is in the midst of a positive content cycle, is a significant beneficiary of the secular tailwinds associated with digital revenue opportunities, has consistently exceeded forecasts and management has steadily increased guidance.”

Activision Blizzard

Handler maintained a price target of $38 for the company. He mentioned that Activision’s 4Q results could beat the Credit Suisse estimates for revenue and EPS of $2.215bn and $0.85, respectively. These estimates are marginally higher than the guidance of $2.150bn and $0.82.

The analyst commented that Activision had “multiple growth levers” for 2016. The strong release slate included “Destiny 2 from Activision Publishing along with multiple Blizzard Studio releases such as new IP Overwatch, a World of Warcraft expansion pack and multiple mission packs for StarCraft 2: Legacy of the Void.”

Handler added that the acquisition of King Digital Entertainment PLC KING remained on track, and could be closed in late 1Q16. Higher digital contributions could boost gross margin to nearly 70 percent, from more than 68 percent in 2015. This would help operating margin to reach a record of nearly 36 percent, up from more than 32 percent in 2015.

“Led by a strong release slate, we believe Activision is on track to grow EPS in the mid-teens to $1.65 for its core operations. In addition, bolting on roughly $0.50 per share from the King acquisition (30% accretion) could drive EPS toward $2.15, excluding any synergies,” the Credit Suisse report added.

Take-Two

The price target for the company has been maintained at $40. “With WWE 2K as the only significant new release in 3QFY16, the quarter's results should prove relatively uneventful (with modest upside to estimates a likely event),” Handler wrote.

For the quarter, he projected revenue of $440mn, down 54 percent, and EPS of $0.48, down 74 percent, which are at the higher end of the guidance of $400mn-$500mn and $0.40-$0.50, respectively.

A stronger franchise release slate, including new IP Battleborn and Mafia 3, would boost higher y/y EPS growth in FY17, the analyst commented. The increased sales volume should drive slight gross margin expansion, from an estimated 47.5 percent in FY16 to 48.1 percent in FY17.

Costs are expected to increase almost 8 percent, as compared to 24 percent revenue growth. This takes the operating margin estimate up from an estimated 11.0 percent in FY16 to 16.2 percent. “A big swing factor for the year could be the release of a new Red Dead game (an event we believe is getting closer in light of a six year absence since 2010's Red Dead Redemption), which in our view could push EPS above $3,” Handler added.