By Rick Aristotle Munarriz (TMF Edible)
September 11, 2000

Electronic Arts Inc.

Ticker: (Nasdaq: ERTS)
Phone: 650-628-1500
Website: www.ea.com
Price (9/8/00): $49 1/2 (adjusted for 9/11 split)

How Did It Double?

Like a hot software title, shares of Electronic Arts have become an addictive game for investors. The strength of its established product lines along with high expectations for next month's release of PlayStation 2 has the gamemaker's stock doubling off its springtime lows.

Sony (NYSE: SNE) has high hopes for the stateside release of the PlayStation 2 game console, and Electronic Arts is projected to land as much as half of the console's video game sales this holiday season.

While the company has taken an ambitious stance with its online gaming venture -- EA.com -- the popularity of its signature sport lines and hot new entries like The Sims seem to be outweighing any dot-com risks going forward.

Business Description

California-based Electronic Arts is the world's leading maker of home entertainment software. The company produces games for the personal computer market as well as the popular Nintendo, Sony, and Sega game console formats. EA was founded in 1982.

Financial Facts

Income Statement
12-month sales: $1389.1 million
12-month income: $72.2 million
12-month EPS: $0.53*
Profit Margin: 5.2%
Market Cap: $7,019.1 million*
(*As reported, adjusted for 9/11 2-for-1 stock split)

Balance Sheet
Cash: $299.2 million
Current Assets: $525.7 million
Current Liabilities: $149.5 million
Long-term Debt: None

Ratios
Price-to-earnings: 93.4
Price-to-sales: 5.1

How Could You Have Found This Double?

According to PC Data, The Sims was the top grossing computer game over the first half of the year. Closing in on 2 million units sold worldwide and translated into 13 different languages, EA has another hit franchise on its hands.

Just like Ultima or Madden Football, EA's impressive roster of games has created opportunities for fans to quickly snatch up the sequels and annual sports upgrades. The Sims is already out with its Livin' Large expansion pack, which provides more options for the player-controlled community like, well, umm, vibrating beds.

But why was the stock trading so low back in May? Home console history has proved time and again that gamemakers make a killing when new systems roll out. Gamers pack the older systems in the attic or unload them on their younger siblings and immediately begin to build up a library of titles for the new system.

The United States debut of the PlayStation 2, which has already sold millions in Japan, was not news back in May when the stock was trading for less than half of today's price. It's no surprise that the company, already a leader with the original PlayStation, is now projected to be the dominant software player for the new system. The pieces were all there and not that difficult to put together this time.

Where to From Here?

EA.com, eh? Right now, the site is letting beta users work out the kinks in the system before a November launch. Eventually, the plan is for users to subscribe for access to a wide array of games. By charging users between $5-10 a month for exclusive online games and interactive Internet gameplay for owners of existing CD-ROM titles, EA hopes to succeed at what so many have failed to do in the past -- pay for play.

The company's early projections are modest. EA sees just $50 million in ea.com sales this fiscal year, and twice that next year. But if the company is able to hook 10 million users at $10 a month, that's $1.2 billion in annual revenue for the venture as a whole before we consider any ad or sponsorship deals. That figure is fueled by a shot of optimism but even at lower levels it still presents a worthwhile return on the $150 million the company has invested in the medium over the past two years. But how will gamers find EA.com?

Back in November, Electronic Arts hooked up with America Online (NYSE: AOL). In exchange for $50 million and royalty guarantees of at least $31 million, EA became the exclusive online developer for AOL's gaming properties, including its popular games channel. EA will receive the bulk of the rewards during the five-year deal, having to hand over just 5% of the subscription proceeds and 30% of generated ad revenues back to AOL.

With 26 million users spread throughout AOL's services, and tens of millions more who happen across AOL.com, EA has aimed well in targeting prized eyeballs that have been broken into the practice of paying a premium for content access.

However, just six million of those users play the AOL games regularly and many of those will rarely venture beyond the free basic parlor offerings. With sites like Sony's The Station and MPlayer serving up quality multiplayer games for free, it is going to be an uphill battle.

For now, there is no compelling reason why anyone would pay up for dull fare like Running Back Challenge, but if any company is capable of a dot-com makeover to put out a fancy spread of worthwhile games it is probably EA. Released last month, Madden NFL 2001 goes as far as featuring online fantasy football leagues.

Investors can count on the AOL deal to deliver the players and EA's history to provide the gameplay. If all goes well and if the market climate is right, EA might spin-off EA.com to the public next summer. If all doesn't go well, it was a worthy effort and investors have the cushion of PlayStation 2 success to fall back on. It's a Win-Draw scenario, and that's how you play the game.

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