Sony (NYSE:SNE) recently announced that it was selling its entire 8.2% stake in Square Enix for approximately $47 million. Sony, which invested in the company in the early 2000s, is likely cutting its losses after Square Enix's disappointing 45% decline over the past decade.
Yet to many gamers, the end of Sony's investment in Square Enix also marks the end of a golden age for Sony, when Square's Final Fantasy franchise and other RPGs helped its original PlayStation crush Nintendo's (NASDAQOTH:NTDOY) N64 in the 1990s. Unfortunately, Square Enix's heyday eventually passed, and Japanese RPGs -- the company's core competency -- dissolved into a stagnant quagmire of sequels and spin-offs.
As Square Enix faded, better partners emerged for Sony. Take-Two's (NASDAQ:TTWO) Grand Theft Auto series was to the PlayStation 2 what Final Fantasy VII was to the original PlayStation. In the handheld market, Capcom's Monster Hunter series became the PSP's answer to Nintendo's Pokémon franchise.
Although Square Enix has fallen out of favor with Sony, its abrupt divestment could also represent a fascinating new opportunity for Nintendo -- if Square Enix can get back on the right track first.
The problem with Square Enix
Square Enix's key problem is that its sales have topped off. For the first nine months ending on Dec. 31, 2013, Square Enix's sales fell 0.3% year-over-year, although it was able to reverse a net loss from the previous year and return to profitability. However, that disparity indicates that Square is now relying on cheaper, higher-margin titles to offset its lack of top-line growth.
Indeed, its top title during those nine months was Final Fantasy XIV: A Realm Reborn, an MMORPG that recently topped 2 million players. The base game costs $30, and requires a $13 to $15 per month subscription to play. It's the typical built-to-last World of Warcraft business model that is built to generate consistent revenue for several years.
However, Final Fantasy XIV: A Realm Reborn is a big step back from the early days of Square Enix, when the two separate companies -- Square and Enix -- would release ambitious single-player labors of love like Chrono Trigger, Xenogears, and Dragon Quest VII.
When those two companies merged in 2003 as Square Enix, former CEO Yoichi Wada emphasized franchise expansion over innovation instead. Wada broke the unwritten rule that each Final Fantasy title was a self-contained story, launching wild spin-off sequels like Final Fantasy X-2 and Final Fantasy XIII-2. Final Fantasy was later spun off onto mobile devices and handhelds, and Square Enix even started adding microtransactions to its games. It then released Final Fantasy XIV in 2010, a game so reviled that the company had to relaunch the title as Final Fantasy XIV: A Realm Reborn three years later to rectify those mistakes.
All of that unchecked excess culminated in Wada's resignation last March, after the company reduced its full year net profit forecast from ¥3.5 billion ($34 million) to a loss of ¥13 billion ($127 million).
How Nintendo and Square Enix could save each other
Although Square and Enix were two of Nintendo's staunchest allies during the 8-bit and 16-bit eras, their interests diverged with the launch of the N64. Nintendo was intent on sticking with the low-capacity cartridge format, while Sony's PlayStation was designed for high-capacity CDs. To Nintendo, CDs meant slow loading times and piracy, but to Square and Enix, they represented better graphics and full motion videos.
The dispute resulted in Square's exclusive launch of Final Fantasy VII for the PlayStation. The commercial success of that title, which sold nearly 10 million copies worldwide, convinced other developers that the CD-ROM format was the future. As a result, developers broke ties with Nintendo and the PlayStation emerged as a leading home console.
Fast forward to today. By dumping all of its Square Enix shares, Sony has mostly given up its right to demand exclusive Square Enix titles. Nintendo, however, could actually benefit from acquiring a controlling stake in Square Enix.
An investment in Square Enix would benefit Nintendo in two ways. First, it would add more cross-platform titles to its portfolio. Currently, titles published by Nintendo are only released for Nintendo consoles. Adding acclaimed franchises like Final Fantasy and Tomb Raider to its portfolio will allow it to generate sales from competing hardware platforms without diluting its flagship franchises. Nintendo could also demand more exclusive Square Enix titles for the Wii U and 3DS, or cross over its flagship characters with Square's, just as Square Enix and Disney (NYSE: DIS) did with Kingdom Hearts.
Second, Nintendo could help Square Enix tap into its treasure trove of nostalgia, which spans back nearly three decades. Under Nintendo's guidance, Square Enix could remind gamers of the company's illustrious past with new chapters of beloved franchises like Chrono Trigger, Secret of Mana, and Dragon Quest.
Making those new games exclusive to the 3DS and Wii U could help Nintendo push back against Sony and Microsoft (NASDAQ: MSFT), which are both focusing on newer triple-A titles like Infamous: Second Son and Titanfall instead.
The bottom line
In conclusion, Sony's exit from Square Enix opens up a rare windows of opportunity for Nintendo. Despite their rocky relationship in the past, the two companies could mutually benefit from stronger ties. Considering that Nintendo is sitting on $12 billion in cash and Square Enix has a market cap of $2 billion, I believe it would be a wise long-term investment that could help Nintendo remind older gamers why they loved Square and Enix when they were kids.
This is how disruption happens
Let's face it, every investor wants to get in on revolutionary ideas before they hit it big. Like buying PC-maker Dell in the late 1980s, before the consumer computing boom. Or purchasing stock in e-commerce pioneer Amazon.com in the late 1990s, when it was nothing more than an upstart online bookstore.
The problem is, most investors don't understand the key to investing in hyper-growth markets. The real trick is to find a small-cap "pure-play" and then watch as it grows in EXPLOSIVE lockstep with its industry. Our expert team of equity analysts has identified one stock that's poised to produce rocket-ship returns with the next $14.4 TRILLION industry. Click here to get the full story in this eye-opening report.
Leo Sun has no position in any stocks mentioned. The Motley Fool recommends Take-Two Interactive. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy.