Video gaming is the largest entertainment category in the world. Yes, you heard that right. In fact, with over $200 billion in customer spending each year, video games generate more revenue than the movie, music, and book industries combined.
Video game use is skewed toward younger people, meaning this dominance should only continue over the next few decades. Some analysts expect the video game industry to hit over $600 billion in annual spending sometime after 2030. That would make it one of the largest industries in the world.
There is a massive tailwind here for investors to take advantage of now. Smart investors will find the highest-quality brands within gaming, buy their stocks, and hold them for many years. This perfectly defines Take-Two Interactive (TTWO 0.72%), the one video game stock I would buy in 2024.
Grand Theft Auto VI is coming
Take-Two Interactive owns three major gaming studios: 2K, Rockstar, and Zynga. Zynga is a mobile-focused studio recently acquired by Take-Two that operates dozens of smaller mobile titles. Its sales will generally rise along with the broader mobile gaming market. The 2K studio makes its bread from the NBA 2K franchise, which is the dominant basketball simulation game and one of the most popular sports games worldwide.
These are good assets, especially the sports franchises. But the crown jewel of this business is Rockstar Games. The long-running studio is the maker of Grand Theft Auto, which is arguably the most lucrative single franchise in all of gaming. Its last title -- Grand Theft Auto V -- has sold 190 million units since its release over 10 years ago. At an estimated average selling price of $60, that equates to $11.4 billion in revenue from just one video game title.
On top of this, Take-Two sells recurring in-game items to its players, which actually make up the majority of its revenue. Taking this into consideration, it is possible that the last Grand Theft Auto game helped Take-Two generate over $20 billion in revenue.
Now, we know that the next Grand Theft Auto game is coming thanks to a trailer recently released by Rockstar Games. It is expected to arrive in 2025, although that is subject to change. Next fiscal year, Take-Two is expecting its net bookings -- the revenue equivalent for video game companies -- to hit $8 billion, up from around $5.5 billion over the last 12 months. Most of this is due to the new Grand Theft Auto title.
After an initial sales surge, investors can expect even more growth to come for Take-Two's revenue. Just take a look at its revenue growth in the years after Grand Theft Auto V launched in 2013.
TTWO Revenue (TTM) data by YCharts
Three markers of a great business
Investors should be excited about the next big game coming from Take-Two Interactive. But over the longer term, investors should be focused on whether Take-Two is a high-quality business. Take-Two has multiple markers that indicate it should generate outsized profits for years to come. First, it has fantastic unit economics. Video games have minimal physical costs for development, which means high gross margins for publishers despite the fact they pay an estimated 30% of digital sales to gaming platforms like Xbox and PlayStation.
Second, Take-Two's franchises have proven durability. Grand Theft Auto has been around for more than two decades. NBA 2K has dominated the basketball video game scene for many years. This indicates they have loyal fanbases that will stick around playing new games from these franchises over the next decade as well.
Last -- and most important -- is pricing power. Video games are priced at significant discounts compared to other forms of media. A typical video game costs around four times the average movie ticket. Immersive games such as Grand Theft Auto can provide hundreds of hours of enjoyment for players over multiple years. A movie is rarely over three hours long. If the new Grand Theft Auto game is priced at $100 instead of $60, that would be a 66% boost in revenue assuming the same number of units are sold.
Take-Two likely won't raise prices by 66% for this new title, but it has plenty of room to incrementally increase prices in the coming years.
But is the stock cheap?
So, we've established that Take-Two is a high-quality business. But the stock is up over 50% in the past 12 months. Does that mean investors have missed their chance to buy shares on the cheap?
I don't think so. As of this writing, the stock has a market capitalization of $27 billion. Once Take-Two scales its revenue to $8 billion and starts earning profits on all the development costs going into the upcoming Grand Theft Auto title, it should start to earn a 20% margin similar to its peer Electronic Arts. That would give Take-Two earnings power of $2 billion. This should continue to grow in the years following.
TTWO EBITDA Margin (TTM) data by YCharts
A $27 billion market cap divided by $2 billion in earnings (if that result comes to fruition) equals a price-to-earnings ratio (P/E) of 13.5, or around half the market average. From my seat, this is still a cheap price for investors to buy Take-Two stock at, and it is why this is the one video game stock I would buy in 2024.
