Why Does Electronic Arts Think "Fortnite" Is Good for Its Business?

In this segment of the MarketFoolery podcast, host Mac Greer is joined by Motley Fool analysts Andy Cross and Matt Argersinger to parse the latest earnings from video game powerhouse Electronic Arts (EA 0.54%), which overdelivered on first-quarter expectations.

One reason: the continued growth of sales through its digital channel, where margins are significantly higher than for games solid on physical media. Another: the power of esports. As for rival games like Fortnite, the theory is that their surging popularity is growing the market for everyone. 

A full transcript follows the video.

This video was recorded on May 9, 2018.

Mac Greer: Another stock having a good day, Electronic Arts shares up on Wednesday on stronger than expected earnings. EA also announcing a $2.4 billion stock buyback. EA is known for video games like FIFA and Battlefield. Matt, there's a little game called Fortnite right now which is the hottest game in the world. That is not an EA game. And yet, EA says Fortnite was good for business.

Matt Argersinger: Yeah, well, we'll see about that.

Greer: [laughs]

Argersinger: I think that's a safe thing to say right now for Electronic Arts, but there are certainly a lot of eyeballs and gamers going to Fortnite right now. It's a Tencent property -- well, it's owned by a few other publishers. We'll have to see if that affects EA's sales in the medium-term down the road.

But, it was certainly a great quarter for Electronic Arts. It's been a great bunch of years for Electronic Arts and video game stocks, the industry in general. They topped revenue and profit estimates. What I always look at is the digital net bookings. They were up 17% year over year to about $3.5 billion. Now, digital revenue, digital sales are about 70% of Electronic Arts' total revenue. That's a far cry from where they were just five years ago. And that's been huge for EA's margins. If you look over the last ten years, Electronic Arts' margins and the margins for the whole video game industry have just trended higher because digital sales are so much more profitable than physical game sales.

Then of course, we know esports is becoming a big trend. I thought this was interesting. Last quarter, 18 million players engaged in competitive gaming across FIFA 18 and Madden NFL 18. That's a huge number, up 75% year over year. So, the excitement around competitive gaming just plays right into Electronic Arts. They've been known for having their sports brands over the years, and that's really paying off.

Andy Cross: Are they saying, the Fortnite connection is just because it's bringing more players online, into the world?

Greer: Yes. They're saying it's growing the appetite, especially with younger people, they're playing more games. And, you know, I heard that back in the day when Starbucks really caught on, and there were independent coffee shops saying, "Actually, Starbucks is good for our business, because they're creating this whole new coffee-drinking culture." Now, I mean, I don't know what else you're supposed to say. Like, "Hey, we're dying out here."

Cross: Yeah, I think that's true. And I think, even in the esports space, Matt, the Maddens and the FIFAs aren't even really the big drivers. It's the Fortnites.

Argersinger: That's right. The multiplayer arena-based combat games are the ones that are really attracting a lot of attention. And to what extent that feeds off into sports-related gaming, I don't know. They seem like different players to me.

Greer: Fortnite is brilliant in that they're free-to-fee. I've learned this from my two sons. My one son is like, "It's not even a good game!" I'm like, "Well, it was free, though." And that was smart. Give it away, right, and then find ways -- to your point, Matt -- to charge people. Those in-app purchases, that's filthy. Those almost should be against the law. I know I'm sounding like an old man at this point.

Cross: You are.

Greer: What a racket.

Argersinger: It's funny. EA, Activision, a lot of these companies, really, they brushed that off. That free-to-play, freemium model, let's call it, was kind of a mobile gaming concept for many years. And they ignored it. They said, "We're never going to make money doing that. We're happy selling our $50-60 games and trying to sell a lot of those copies every quarter, every year." But the model has definitely changed. They're embracing that model.

Cross: It's a really interesting market, Mac. I was listening today to a Goldman Sachs podcast, and they said that only 20% of active real gamers have gone to an e-arena, a sports arena, to actually watch this, but there are actually companies that are building specific stadiums for esports.

Greer: It's amazing.

Cross: And there's millions and millions of people across the world, really heavily into the Asian market as well as here in the U.S., that are really embracing this gaming. It's a fantastic growth opportunity for investors in there.

Greer: Yeah. And we talked earlier about Disney and the licensing with Marvel. I just learned that Fortnite now has a deal where Thanos, who's the villain in Avengers, is going to be integrated into Fortnite.

Cross: Yeah, I saw that!

Greer: That's brilliant. Just when you thought, "OK, it's about to go away," it gets a new life.