This Stock Appears To Be A Better Bet Over Electronic Arts

We think that Take-Two Interactive stock (NASDAQ: TTWO) currently is a better pick compared to Electronic Arts stock, given its market valuation and better financials. TTWO stock trades at 27x trailing EBIT, compared to 47x for EA. Although both the companies have seen a pickup in demand during the pandemic, as people were confined to their homes, eschewing more public forms of entertainment, the gradual opening up of economies has resulted in user engagement levels seeing slower growth over the recent quarters. Electronic Arts, in particular, has been on an acquisition spree with Playdemic, Codemasters, Metalhead Software, and Glu Mobile acquisitions announced this year. However, there is more to the comparison. Let’s step back to look at the fuller picture of the relative valuation of the two companies by looking at historical revenue growth as well as operating margin growth. Our dashboard Electronic Arts vs Take-Two Interactive: Industry Peers; Which Stock Is A Better Bet? has more details on this. Parts of the analysis are summarized below.

1. Take-Two Interactive Revenue Growth Has Been Stronger

Both Electronic Arts as well as Take-Two Interactive has seen their revenue decline 1% over the last twelve-month period. However, if we look at this over the last three fiscal years, Take-Two Interactive revenues grew at a CAGR of 23%, much stronger than just 3% CAGR for Electronic Arts. Take-Two Interactive has benefited from its Grand Theft Auto, NBA2K, and Red Dead Redemption franchises over the recent years, while FIFA has been the key growth driver for Electronic Arts. Our Electronic Arts Revenues dashboard provides more insight on the company’s revenues.

With economies now opening up gradually, the user engagement levels for gaming are expected to decline, when compared to 2020, but remain higher compared to the pre-pandemic levels. With new game launches planned over the coming years, both the companies are expected to see a rise in revenues and earnings. For Take-Two Interactive the launch of Grand Theft Auto VI in the next couple of years is expected to be massive, while the updated version of the Grand Theft Auto V for the newer generation consoles will aid the sales in the near term. For Electronic Arts, its Battlefield 2042 game, scheduled for November release this year, will bolster its sales growth.

2. Take-Two Interactive’s Margins Are Superior

Similar to the pattern seen in revenue growth, Take-Two Interactive’s operating margin of 21% over the last twelve month period is much better than the 16% for Electronic Arts, and it compares with 8% and 20% figures seen in 2019, before the pandemic, respectively. Even if we were to look at the last three fiscal year change in operating margin, Take-Two Interactive’s 12% growth is much better than the -1.5% change for Electronic Arts. Overall, for Take-Two Interactive, the margins are on a rise, while they are trending downward for Electronic Arts.

The Net of It All

Now that over half of the U.S. population is fully vaccinated against Covid-19, with overall economic activity picking up, the demand for gaming may see a slowdown, compared to 2020. That said, new game launches, and the holiday season, will likely aid the overall revenue growth in the near-term for both the companies.

Now, Take-Two Interactive’s current valuation is more attractive than that of Electronic Arts, with TTWO stock trading at about 5.8x trailing revenues, versus 7.4x for EA. Take-Two Interactive has demonstrated better revenue growth and it is more profitable. Not only that, even if we were to look at financial risk, Take-Two Interactive has a better cash position with 40% cash as percentage of assets, compared to 29% for Electronic Arts. Also, total debt for Take-Two Interactive is minimal at just under $200 million, compared to around $2.0 billion for Electronic Arts.

Overall, Take-Two Interactive trumps Electronic Arts in most of the metrics that matter for investors and we think this gap in valuation between the two companies is not justified. In fact, looking forward, it is likely that the gap in valuation of these two companies will narrow in favor of the less expensive stock – TTWO – with its better profitability and lower risk.

While TTWO stock may see higher levels, 2020 has created many pricing discontinuities which can offer attractive trading opportunities. For example, you’ll be surprised how counter-intuitive the stock valuation is for Tyler Technologies vs. Take-Two Interactive.

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