Why EA’s Focus On Recurring Revenue Makes Sense
Electronic Arts (NASDAQ:EA) and other gaming companies are increasingly focusing on improving the monetization of their existing user bases, especially for their successful franchises. Our price estimate for Electronic Arts stands at $120, implying a slight premium to the market price. Nearly 25% of this price estimate is tied to the expectation that the company’s Services Revenue per Unit Sold, a key driver of its recurring revenue, will increase from nearly $57 in 2016 to over $100 by the end of our forecast period. If this growth were to slow and the figure remained around current levels, our price estimate for EA’s stock would be as much as 25% lower. Needless to say, it is imperative for the company to sustain the improvement it has seen in the last couple of years. Much of the company’s growth going forward will be driven by its focus on high-margin digital revenue, replicating successful in-game models across multiple titles and the mobile push.
EA Hopes To Replicate Early Successes
FIFA Ultimate Team has been a big success for EA, allowing the company to earn from matchmaking services. The company has launched similar Ultimate Team services for other sports games such as Madden NFL and NHL. Moreover, EA is reaping profits from digital content related to other titles as well. For example, the company has released expansion packs in digital content for its FPS franchises such as Titanfall and Battlefield. With enhanced technology, the next-generation consoles are built to support digital streams and accordingly, future games are likely to have more DLC (downloadable content) packs than previous iterations.
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There is another advantage to the digital push as well. The cost of revenue for physical products sold is twice as high as a percentage of revenue compared to that for online and digital services. These higher margins for digital revenues have led Electronic Arts to significantly increase its focus on the digital medium, which also gives it a distribution advantage. In 2010, just 9% of the company’s revenues came from Services, while in 2016 the revenue contribution was more than 60%. Going forward, we expect the company to continue to focus on the digital streams, which should boost both its top line and margins.
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