Turnaround for Electronic Arts As CEO Resigns?

Ryan is a member of The Motley Fool Blog Network -- entries represent the personal opinion of the blogger and are not formally edited.

Video-game publisher Electronic Arts (NASDAQ: EA)  has come on hard times in recent years as the company has attempted to transition itself into a cutting-edge gaming provider and not just a disc and console-centric developer. The stock has lost around 64 percent over the last five years and the company's CEO, John Riccitiello, resigned last week after "shortcomings" in EA's financial results for the last fiscal year.

Under Riccitiello, Electronic Arts shifted its focus from disc-based games for consoles such as the PlayStation and XBOX to a more well-rounded approach, including games for PCs, social networks and mobile devices. Shifting trends in the gaming industry have also weighed on competitors such as Activision Blizzard (NASDAQ: ATVI), the leading game publisher, and Take Two Interactive (NASDAQ: TTWO).

Although all of these companies have been able to deliver hits from time to time, consistent financial metrics have been a different story. In particular, EA and Take-Two Interactive have delivered inconsistent revenue and a string of financial losses. Activision, on the other hand, has done a little better. The company has reported rising net income in each of the past four years, although sales growth has only been tepid.

Across this market sub-sector, revenue growth has been nonexistent, but some upcoming catalysts may improve the forward-looking outlook. Electronic Arts also hurt itself by not being out in front of the trends in mobile gaming, and playing catch up has cost the company a lot of money in terms of acquisitions.

Acquisitions and iPad

During the CEO's tenure, the company purchased PlayFish Ltd. for $275 million and spent a whopping $1.3 billion on PopCap Games. Worst yet, investors have to wonder if the strategy even made sense as leading internet and social gaming companies such as Zynga have come on hard times themselves.

One place where the company has made significant headway, however, is on the iPad platform where its games are top sellers. In 2011, Riccitiello said that iPad was the company's fastest growing gaming platform and that the tablet market was the future. Nevertheless, investors have been disappointed with choppy revenues in recent years and a string of losses as EA attempts to navigate the rapidly evolving gaming landscape.

The company's stock was a strong performer throughout the late 90s and early 2000s, primarily due to Electronic Arts' strong offering of games for consoles such as its Madden NFL franchise, FIFA soccer franchise and a host of other titles across genres. As the company continues to transition itself, however, CEO Riccitiello became a casualty of the need to meet shareholder and Wall Street expectations.

CEO Resignation and Disappointing Guidance

In a letter to employees announcing his resignation, he wrote "It currently looks like we will come in at the low end of, or slightly below, the financial guidance we issued to the Street, and we have fallen short of the internal operating plan we set one year ago," he said in the letter. "For that, I am 100% accountable."

The company, which is set to report its current quarter results on May 7, said that earnings and revenue would be at the low end or slightly below its previous forecast of earnings between $0.57 and $0.72 per share on revenue of $1.03 billion to $1.13 billion. While Electronic Arts has struggled, its competitors have done their best to take advantage of the situation.

The Competition; Activision and Take-Two

Activision Blizzard, for example, was an incredible stock to own in the early and mid-2000s. Over the last 5 years, the stock has also significantly outperformed EA, rising around 8 percent compared to EA's better than 60 percent loss. Activision, which has a market-cap of nearly $16 billion versus Electronic Art's market-cap of a little over $5 billion, has developed a series of hit games across genres and platforms. These include the Guitar Hero series, Call of Duty series, and the World of Warcraft franchise.

Although Activision has only experienced moderate revenue growth in recent years, the company's net income and margins have been rising sharply. Activision revenue has gone from roughly $4.279 billion in fiscal 2009 to $4.856 billion in fiscal 2012. This underscores the fact that even the best companies in this sector are only experiencing marginal top-line growth. Trends, however, may accelerate in the near future as next-gen consoles are rolled out.

Smaller competitor Take-Two Interactive, which owns Grand Theft Auto publisher Rockstar Games, has seen its share price fall around 38 percent over the last 5 years with nearly all of the losses coming in late 2008 -- similar to EA. This company, with a market-cap of only $1.5 billion, underscores the difficult nature of the industry right now. Take-Two has reported losses in three out of the last four fiscal years.

Take-Two relies, to a large extent, on hit titles and as a result its revenue has been very choppy in recent years. Nevertheless, shares are rising an uptrend, and have risen around 44 percent in 2013. In their own ways, all three of these companies are having difficulties reacting to the evolving gaming landscape, but the sector may still offer large rewards for the winners.

The management shake-up at Electronic Arts may be a positive catalyst for the company, but investors have pushed the stock lower since Riccitiello's resignation due to the poor guidance and elevated uncertainty.

The EA Turnaround?

The executive will be replaced by Larry Probst, who is the company's current Chairman and had previously served as CEO of Electronic Arts prior to Mr. Riccitiello's hiring in 2007. Investors may take some comfort in the appointment of Mr. Probst, who oversaw EA in better days and has been with the company since 1984.

There are other potential catalysts for the stock going forward as well. Electronic Arts and Insomniac Games recently announced the release date for an ambitious third-person shooting game called Fuse. The game strives to intertwine tactical four player co-op, with a gun-wielding romp in the future, according to a press release. Fuse goes on sale in North America on May 28th and will make its European debut on May 31.

Next-Gen Consoles and the Video Game Upgrade Cycle

The other significant catalyst going forward is the highly awaited release of next-gen consoles, which are expected out later this year. In February, EA's chief technology officer Rajat Taneja said that the next wave of consoles will usher in a new era of gaming.

"The console technology itself is a gigantic leap for our industry," Taneja said. "Any which way you look at the specifications, it is step function over what exists today. The new consoles are between 8 and 10 times the power of the current generation."

Specifically, the PlayStation4, which is expected to be released during the holiday selling season in the United States, and the XBOX 720, which is expected to be announced in April, will trigger a major upgrade cycle in the video game industry. The millions of gamers that purchase the new consoles will also be purchasing new game titles for the consoles.

Wedbush Raises Price Target; Bullish on EA

Analysts at Wedbush acknowledged this upgrade cycle which is coming in a client note on Monday. The firm reiterated its Outperform rating on the stock and raised its 12-month price target from $23 to $25, citing improving industry conditions ahead of the release of the next-gen consoles.

Although the road has been rocky in recent years for Electronic Arts, the recent management change along with upcoming title releases and a major catalyst in a next-gen console upgrade cycle should help the stock going forward. Competitors Activision Blizzard and Take-Two Interactive are also stocks to watch as the release of the PlayStation 4 and XBOX 720 should push these names higher into the Fall of 2013.

Ryan Glosier has no position in any stocks mentioned. The Motley Fool recommends Activision Blizzard and Take-Two Interactive . The Motley Fool owns shares of Activision Blizzard. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy. Is this post wrong? Click here. Think you can do better? Join us and write your own!

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