Electronic Arts: Not the Best Way to Profit From Video Games

In 2011, consumers spent roughly $74 billion on video games and related gear, such as consoles and controllers. By 2015, that number is expected to skyrocket to $112 billion.

Even so, gaming companies face a lot of risks. For one, they have to spend a huge amount of money on research and marketing just to get a shot at producing the next hit game. And even if they’re successful, there’s an excellent chance that an even more popular game will quickly come along and knock it off its throne.

Right now, Activision Blizzard ATVI leads the online gaming market with its hugely popular World of Warcraft, which boasts over 10 million subscribers. Looking to close that gap, rival Electronic Arts EA rolled out its latest online game, Star Wars: The Old Republic, in December 2011.

Star Wars Overshadowed Electronic Arts’ Latest Earnings—and Not in a Good Way

It was against that backdrop that the company reported its latest earnings on Monday night.

Without unusual items, Electronic Arts said that it earned $56 million, or $0.17 a share, in its fiscal 2012 fourth quarter, which ended March 31, 2012. That’s down from $83 million, or $0.25 a share, a year ago. Despite the decline, the company’s latest earnings were ahead of the Street’s forecast of $0.16 a share.

Sales fell from $995 million to $977 million, but that was still ahead of the $966 million that analysts were expecting.

(It’s important to keep in mind that Electronic Arts makes most of its money around Christmas, which falls in the third quarter, and only makes small profits, or posts losses, in the other quarters.)

There were two major black spots on Electronic Arts’ earnings report that grabbed investors’ attention, however. The main one was that the company said that it expects to lose $0.40 to $0.45 a share in the first quarter, which was a steeper loss than the $0.33 a share that analysts expected.

As well, Electronic Arts said that Star Wars subscriptions had fallen 24% in the fourth quarter, to 1.3 million from 1.7 million at the end of the third quarter.

That prompted investors to overlook the earnings beat and send the stock down 4.3% on Tuesday, and an additional 2.5% on Wednesday.             

Declining Star Wars Subscriptions Are a Concern for Electronic Arts

Electronic Artsexecutive Frank D. Gibeau explained the declining Star Wars numbers this way:

“What we’re seeing is that some of the initial casual customers have gone through a billing cycle and decided not to subscribe to the game. But for the most part, we’re seeing very good retention amongst core users. So the percentage of paying subscribers from our peak until now has actually gone up.”

Many in the investment community weren’t convinced, however, including Justin Fritz of wallstreetdaily.com, who wrote:

“Sure, any game is bound to have its fair share of short-term players who just want to kick the tires for a few weeks. But 24% is a huge hit, especially considering such a wildly popular game should have been adding enough new subscribers to make up for those heading for the exit.”

Even more worrying is the fact that, as BBC News reported, Star Wars’ subscriber numbers fell during a period when the company was increasing its promotional spending on the game. It also launched Star Wars in Australia, New Zealand, Hong Kong and Singapore in March.

Fritz, a gamer himself, thought Electronic Arts had rushed Star Wars out before it was ready. He lists a number of faults that he experienced as evidence:

“For a while, it seemed like there was a new glitch to deal with every week. Like getting stuck in walls, characters’ eyes changing to silver during conversations, or entire characters becoming shadows. And then there’s my personal favourite, companions falling on the ground randomly, appearing to play dead for 10 seconds and then standing back up.”

Look to Hasbro for Lower-Risk Gaming Gains

One way to tap into rising video game demand with less risk is to buy shares of companies that are exposed to—but not totally dependent on—this volatile market.

A good example is Hasbro Inc. HAS. As I highlighted on February 7, 2012, the company makes video games, but it also has a wide range of other products.

Hasbro is best known for making board games, like Monopoly. However, it also controls some of the most established brands in the toy business, including G.I. Joe, Transformers, Play-Doh, Tonka, Nerf and Playskool.

In addition to selling these brands of toys and games directly, the company is profiting by licensing them to video game makers and movie studios. (In Hasbro’s latest quarter, licensing revenue jumped 19% from a year ago, to $24.6 million, partly due to ongoing box office revenue from the latest Transformers film.)

Hasbro’s overall sales have been held back by ongoing weakness in North America. However, the company is working to offset that by boosting its presence overseas. In its latest quarter, sales outside North America rose 14%, to $289.7 million.

To top it off, unlike most pure video game makers, Hasbro pays a dividend, and an attractive one at that: quarterly payments of $0.36 a share yield 4.05% on an annual basis. I much prefer Hasbro to Electronic Arts as a top dividend investment.

Article originally posted here.