Take-Two Interactive Software (NASDAQ:TTWO) has been on a roll. The stock is up nearly 200% in three years driven primarily from sales of one game -- Grand Theft Auto V -- as well as the company's progress to generate more consistent cash flow from recurrent consumer spending.
Take-Two is scheduled to report its fiscal third quarter results on Feb. 7, and the company's results will largely rest on performance of Grand Theft Auto V and NBA 2K17. Investors (and gamers) will also be eager to hear hints about the highly anticipated Red Dead Redemption 2.
The upcoming year will not be without challenges, however, as the game publisher will need to fill the void of slowing Grand Theft Auto V sales ahead of the launch of Red Dead Redemption 2 in fall 2017.
Key games to watch
Grand Theft Auto V has sold more than 70 million copies since it launched in 2013, making it by far the most successful release since the series began in 1997. Nearly perfect review scores on Metacritic have helped drive sales of the latest installment of the series. Going into 2017, management expects sales of the game to begin moderating due to the title's age.
NBA 2K17, which came out in September 2016, should have also generated strong sales performance during the quarter that ended at the end of December. On the last conference call, management indicated the game had its most successful launch in series history, selling 4.5 million copies to date. The game's additional digital content -- virtual currency and the mobile companion app -- has been key a contributor to Take-Two's growth in recurrent consumer spending. The more copies that are sold, the more Take-Two can create consistent revenue and cash flow year-round.
Management will likely receive questions from analysts about plans to monetize its top games after sale. Grand Theft Auto Online and NBA 2K's virtual currency have been successful in this effort. In the last quarter, bookings from recurrent consumer spending (including virtual currency, downloadable add-in content, and online games) increased 63% year over year and accounted for 24% of total bookings.
The extent that Take-Two can develop consistent revenue will have ramifications on future profitability. Activision Blizzard and Electronic Arts have significantly expanded margins and cash flow thanks to digital revenue. It's almost at the point where Take-Two is at a competitive disadvantage stemming from the relative financial strength of its two largest competitors. The Grand Theft Auto publisher needs to catch up.
Management expects free cash flow to be about $250 million for the current fiscal year ending in March. This would be an increase over the previous year's $224 million.
The big catalyst
For fiscal 2018, which starts in April, management expects cash flow growth to be driven by Red Dead Redemption 2. There is a lot of buzz building for Take-Two's Wild West version of Grand Theft Auto. The first Red Dead Redemption sold 14 million copies, placing it on par with early Grand Theft Auto releases. Analysts are predicting the sequel to sell on par with the first. But no one really knows.
What is important to note is that this will be the first Red Dead Redemption released on the current-generation consoles, which are more powerful, graphically, than the previous generation. Further advancement in graphics technology provides a tailwind for these highly immersive, story-driven games, as it allows developers to make the games more expansive and visually lifelike. As a result, the highest-rated games get better, and this explains part of the success of Grand Theft Auto V.
The stakes are high for Take-Two. Another top-rated franchise to place along Grand Theft Auto would be a major catalyst for investors. More importantly, it would be a significant confidence-booster for long-term shareholders who want to see if Take-Two can build the business beyond dependency on one game.
John Ballard owns shares of Activision Blizzard. The Motley Fool owns shares of and recommends Activision Blizzard and Take-Two Interactive. The Motley Fool recommends Electronic Arts. The Motley Fool has a disclosure policy.