Investors sour on video games

With no new consoles and declining game sales, it's been a double whammy for video game developers.

By MSN Money Partner Aug 2, 2012 1:26PM

By Therese Poletti


Like many industries in transition to a more digital, mobile world, video games appear to be caught in a shift away from games played on consoles and PCs.


But the bigger problem is that the staple of the industry -- the video game consoles that drive sales of new games -- are old and in need of an upgrade. Last year, the industry saw sales of physical software sink to its lowest levels since 2007, with sales of $9.3 billion in the U.S., down 8% from $10.1 billion in 2010, according to data from the NPD Group.


So with both issues converging at the same time, the industry is getting hit with a double whammy. Earnings this week from video game developers highlighted some of the shifts, and investors continue to sour on the stocks.


"Traditionally in this space, the transition is pretty challenging," said Colin Sebastian, an analyst with R.W. Baird, of the shift to new hardware consoles. "This time around, this other X-factor is the overall transition to other platforms, smartphones and tablets, and that is adding another element of complexity and cost and uncertainty."


This year, the stocks of video game developers are among the worst performers in the tech sector. On a year-to-date basis, Electronic Arts (EA) is down nearly 44% since January, Take-Two Inc. (TTWO)  is off nearly 41%, GameStop (GME) is off about 33% since January.


On Wednesday, however, shares of both EA and GameStop ticked up slightly


Activision Blizzard (ATVI), which reports earnings today, is down only 3.29% so far this year, and is the outlier. It hasn't been investing as heavily in the new platforms, as the far more diverse EA clearly has been. It remains focused on its two big franchises, "Call of Duty," and "World of Warcraft" and has done some recent investing in mobile games.


Both EA and Take-Two showed how difficult the transition to digital games can be. While EA's digital revenue grew 55%, its overall revenue fell.


The company said that even though the release of its large Internet multi-player game, "Star Wars -- The Old Republic," did well at its initial launch in December, "subscriptions have been on a declining trajectory and have now slipped below 1 million."


"The message from players exiting the game is clear," said Frank Gibeau, president of labels at Electronic Arts. "Forty percent say they were turned off by the monthly subscription, and many indicate they would come back if we offer a free-to-play model."


This news could actually have a positive effect on EA's revenue going forward, according to Michael Pachter, an analyst with Wedbush Securities. Pachter wrote in a note Wednesday that the "introduction of a lower MSRP [manufacturers suggested retail price] for Star Wars in August and a free-to-play option in November should result in long-term incremental revenue growth and margin expansion."


Take-Two missed Wall Street's consensus estimates, in part due to its increased investment in development costs, while at the same time it saw its digital revenue grow 33%.


The lack of new game consoles for this coming holiday season from either Microsoft (MSFT) or Sony (SNE) also hung over the industry's big annual conference, E3, this spring, and further depressed stocks. (Microsoft owns and publishes TechBiz, an MSN Money site.)


Expectations, though, are now for new consoles to start arriving for the fourth quarter of 2013 from Sony and possibly Microsoft. Nintendo is due to launch this November. But because of the recent data showing the drop in sales of physical games, some investors are questioning whether new consoles will provide the growth boost that the industry needs.


"Is there still a full cycle coming for that?" asked Sebastian.


Pachter of Wedbush believes that there is.


"Mobile tablet stuff is largely cannibalizing Nintendo," Pachter said. "People playing ‘Call of Duty' are not giving it up to play ‘Angry Birds.' There is no chance they are doing that," Pachter said of the hard-core gamers. "Gamers are getting sequel after sequel after sequel and they are getting bored."


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