Big news came out of California on Feb. 1 when video game publisher Electronic Arts (EA 0.12%) reported its third-quarter results for the three months ended in December. The company put up great growth numbers across its portfolio with time spent across its games up 20% year over year in fiscal year 2022. Electronic Arts is firing on all cylinders right now.
However, the stock is down 6% in the past 12 months. This bifurcation between the stock price and business fundamentals provides a great opportunity for investors to pick up some shares of this high-quality stock. Here are four reasons why Electronic Arts (EA) is a no-brainer investment right now.
1. Consistent industry tailwind
EA has put up strong returns over the years -- the stock is up 27,000% since going public a little over three decades ago. A large reason is the consistent growth in consumer spending on video games. In 1990, right around the time when EA went public, the video game industry was $31.4 billion worldwide. In 2021, it was estimated that consumers spent $178.4 billion on video games -- and that number is expected to hit $269 billion in 2025.
This consistent growth, along with EA's execution and competitive advantages, has led the company to grow its annual revenue from less than $500 million in the early 1990s to $6.5 billion over the past 12 months. With almost $100 billion in new spending expected to come to video games within the next five years, EA's top-line growth should benefit mightily.
One concern investors might have is EA's focus on console/PC games vs. mobile games. Mobile is the largest and fastest-growing segment within the overall gaming market, which is likely to continue over the next decade. However, while EA has struggled with mobile in the past, it has recently made some strong moves to bolster its mobile portfolio.
EA purchased two studios last year, Glu Mobile and Playdemic, for $2.4 billion and $1.4 billion, respectively, to bring more mobile titles and developers under its umbrella. The FIFA Soccer mobile game, which has struggled to gain as much popularity as the console/PC version, just got a revamp that will hopefully have it climbing the top-grossing charts on mobile over the next few years. Apex Legends, EA's second-most popular game after FIFA Soccer, is putting out a mobile version this year.
These initiatives led EA to grow its mobile bookings (the revenue equivalent for video game companies) by 68% year over year in Q3 to $320 million. Investors should expect this strong growth to continue if EA successfully rolls out more mobile titles in the next three to five years.
2. Duopoly on sports games
One thing that makes EA such a durable business is the monopoly or duopoly it has on a lot of its sports titles. EA Sports has an exclusive license to publish football simulation video games through 2026, giving Madden NFL a monopoly with its game.
FIFA Soccer, EA's other large sports franchise, does not have an exclusive license to produce a soccer simulation game but does have licenses from hundreds of leagues around the world that give it exclusive access to the majority of top soccer players. This has led the franchise to become a virtual monopoly within soccer video games, greatly outselling its competitor Pro Evolution Soccer over the past decade.
EA is more than just sports with plenty of other major franchises like Apex Legends, the Sims, and Battlefield driving growth for the company. But a lot of the company's profits do come from FIFA Soccer and Madden NFL, two franchises that dominate their respective markets and generate highly predictable revenue streams each year.
3. Cheap valuation
EA is expecting to generate $1.9 billion in cash flow from operations -- which is the best profitability metric for video game companies -- in its fiscal year that ends in March. This will be slightly down from last year, but that is because EA had to absorb four acquisitions this year that added a bunch of one-time expenses. Once these fall off the income statement next year, EA is on a path to generate well north of $2 billion in operating cash flow annually.
EA has a market cap of $38 billion as of this writing. Assuming the company can generate at least $2 billion in cash flow next fiscal year, the stock trades at a forward price-to-operating cash flow (P/OCF) of 19. For a company with a strong track record of revenue growth and a dominant position in football and soccer video games, a P/OCF of 19 seems like a steal for investors focused on the long term.
4. Strong capital returns
Let's wrap up with EA's increasingly impressive track record of returning excess cash to shareholders. Over the past 12 months, EA repurchased 9.4 million shares of its common stock, which helped to reduce the overall amount of shares outstanding. Why is this helpful? If you are a remaining shareholder of EA, your ownership of the business has risen, which is beneficial as long as EA's fundamentals remain intact (and they have).
EA has consistently reduced its share count over the past five years, bringing its stock outstanding down from around 305 million to 281 million today. On top of these share repurchases, EA has instituted a quarterly dividend, currently yielding 0.50%. While that isn't huge, if EA continues to generate excess cash flow, management can steadily grow this dividend payout over the next decade and beyond.