Analysts mixed on EA holiday flop

Electronic Arts has given investors very little to feel confident about in the past couple of months. After posting a second-quarter $391 million loss and a 17 percent staff reduction in November, EA said yesterday that it would not be hitting its revenue forecast of $3.6 billion to $3.9 billion for the fiscal year ending March 31, 2010. Instead, revenues are expected to come in at $3.6 billion to $3.675 billion, news that sent the publisher's stock tumbling in next-day trading by nearly 8 percent.

Today, a number of analysts responded to EA's announcement, offering withering criticism alongside an optimistic outlook. Perhaps most vociferous in his criticism was Wedbush's Michael Pachter. Speaking to the Associated Press, Pachter said, "This company lacks introspection. Their core business is not performing well and they can't explain why." Officially, EA said that its revenue shortfall came as a result of an underperforming European market and a shift toward lower-margin distribution products, such as the EA Partners-published Left 4 Dead 2 and Rock Band.

Pachter also took exception to EA's industry guidance for 2010, which the publisher said yesterday would come in flat to down 5 percent. "We think that EA management is somewhat shell-shocked by its second holiday preannouncement in two years, and think that the negative industry growth forecast was made out of an overdeveloped sense of vigilance about not making the same mistake for three years in a row," he said.

"The game lineup in 2010 is vastly improved over 2009, with at least double the number of big sellers in the first half, and with a solid Wii release schedule likely to contribute to stronger tie ratios for that console," Pachter continued. "On balance, we think that 10 percent growth is highly likely, and think that EA's initial forecast will prove to be way too low. Thus, we think that EA's overall revenues will likely rise by $300 million, and think that the company's pessimistic industry forecast is merely a function of its desire to under promise so that it is not in a position to preannounce negatively once again next holiday."

FBR Capital Markets' Heath Terry also saw EA's poor holiday performance as a reflection of what consumers actually wanted. "The failure of products like Saboteur, Brutal Legend, and [Dead Space: Extraction] to gain traction with consumers remains the biggest concern, as the company launches five new products in the March quarter and enters fiscal 2011 with little product visibility," he wrote.

Still, Terry believes that EA has significant potential in 2010, thanks to investments in its digital distribution business and a strong product lineup that includes a new Medal of Honor, Sims on consoles, Dead Space 2, and its EA Sports slate. "We believe that, at current levels, with a stronger, more focused release schedule, a growing digital business, and expectations at a more reasonable level, the risk-reward [ratio] is favorable," he said.

Pacific Crest's Evan Wilson also believes EA is primed for a significant upside in 2010, though a contributing factor in that growth stems from the publisher's deep layoffs and other cost-cutting measures. "We believe margins and [earnings per share] will be higher due to (1) continued growth in its digital services businesses, (2) 'sharply' lower distribution revenues, and (3) the elimination of over 20 percent of its underperforming head count," Wilson said.

On the other hand, Signal Hill Capital Group's Todd Greenwald believes that those cuts, including "over a dozen" unannounced games, will adversely impact EA's revenue during its 2011 fiscal year, which runs April 1, 2010, to March 31, 2011. Notably, EA believes that it will not see a contribution from BioWare's highly anticipated massively multiplayer online role-playing game Star Wars: The Old Republic during the period.

"We continue to expect EA to endure another difficult year in [fiscal year 2011], as a result of a shrinking slate of titles, fewer distribution deals, weak retail environment, with all of this only slightly offset by a rapidly growing digital business," he wrote. Greenwald also expects the publisher to see a significant drop in its distribution revenue, "as EA will likely stop publishing other companies' titles like Rock Band and Left 4 Dead."