The video game market has taken a tumble in 2022. Due to a weakening economy and tight hardware supplies, industry experts estimate the video game market declined by 5% year over year in the third quarter. This has especially hurt the mobile games market, which has more casual users and is getting hurt by a slowdown in digital advertising. Take-Two Interactive (TTWO +0.40%) -- owner of mobile games publisher Zynga -- is one games publisher feeling the pain. Its shares are down 14% over the past month after it reduced its full-year revenue guidance.
With the stock down 45% this year amid another disappointing earnings report, you might think now is the time to throw in the towel on Take-Two Interactive stock. But that couldn't be further from the truth. Here's why now is a great time to consider adding Take-Two to your portfolio.
Q2 earnings show a slowdown in the mobile market
Take-Two reported its Q2 earnings on Nov. 7. At first glance, its numbers looked fine, with net bookings (the revenue equivalent for a video games company) of $1.505 billion, which was within its previous guidance of $1.5 billion to $1.55 billion. Cash flow also looks fine, with management expecting to generate an adjusted operating cash flow of $650 million for the fiscal year ending in March.
However, the big problem was management's sharp reduction in bookings guidance for this fiscal year. Previously, management expected to generate $5.8 billion to $5.9 billion in net bookings, but now only expects the company to fall within a range of $5.4 billion to $5.5 billion. Some of this drop is from foreign exchange headwinds and the timing of game releases, but a lot has to do with softness in the mobile market. Take-Two spent $12.7 billion to acquire Zynga earlier this year, and so far the acquisition is not going swimmingly.
NASDAQ: TTWO
Key Data Points
Grand Theft Auto VI strengthens its product pipeline
So if the business is struggling at the moment, why is Take-Two's stock a buy today? A few reasons. First, it has a huge game pipeline. Since 2015, Take-Two has almost tripled its development headcount to over 6,000 people as it prepares to release 87 new titles over the next three fiscal years.
Most of these games are inconsequential on their own, but the most important will be the launch of the next Grand Theft Auto title, the sixth game in the series that Rockstar Games confirmed is in development earlier this year. The previous title -- Grand Theft Auto V -- was released nine years ago and is the most commercially successful individual title in video game history, selling over 170 million copies as of the last earnings update.
We do not know the exact release date for GTA VI, but it will likely come out within a year or two. If it sells around 40 million copies like its predecessor within its first calendar year, that should equate to $2.4 billion in bookings just from full game purchases. And this doesn't include the boatloads of money Take-Two will likely make from recurring and add-on content, which now makes up the majority of its business.
Take-Two should win in mobile over the long run
Mobile is a thorn in Take-Two's side today but presents a fantastic opportunity over the long term. On the company's quarterly conference call, CEO Strauss Zelnick reiterated that the mobile market is expected to reach $160 billion in global net bookings within four years, which should provide a nice tailwind for all industry participants. He also made sure to note that engagement with Zynga's games is not down; it is just that fewer consumers are choosing to spend money on mobile games at the moment.
This industry tailwind should not only help Zynga's existing portfolio of casual games, but should help the combined mobile teams across 2K games, Rockstar, and Zynga to create some fantastic mobile titles from well-loved brands like Grand Theft Auto, Red Dead Redemption, and Borderlands. Over the long term, Zelnick and the team think that the combination with Zynga can produce $500 million in annual net bookings opportunities on top of its existing mobile business. If you combine this estimation with the coming launch of GTA VI, then Take-Two's business looks poised to be much larger a few years from now.
The stock is cheap at today's price
After the recent price drop, Take-Two's stock trades at a market cap of $15.8 billion. This doesn't look that cheap versus its forward cash-flow guidance of $650 million this year. But investors should remember that this is a huge investment year for Take-Two, meaning that it will likely grow its cash flow significantly within the next two to three years once all of its games are released. As such, if you believe the next GTA game and this new mobile games strategy will be successful, Take-Two stock is an easy buy at these prices.
