Investing in the Video Game Paradigm Shift

The video game industry could see one of the most meaningful shakeups that we've seen in a number of years. Comcast and Electronic Arts might be partnering to stream games via the TV set through a service that would bypass major entertainment consoles. With this new partnership, EA games would be available to Comcast subscribers.

The move is mutually beneficial. It'll help Comcast protect itself from the likes of the Microsoft Xbox One and Sony PlayStation 4, which both consider themselves entertainment systems rather than just gaming consoles. Gamers who use Comcast's platform to play games will be able to use their tablets as controllers.

Just how big is this deal?
The move will also better position Comcast to compete with and its FireTV, as well as Apple and its Apple TV. If the Comcast-Time Warner merger goes through, the merged company would be the largest cable provider in the U.S. That makes the deal even more significant for EA.

The deal comes as EA is trying to take on the secular decline of video consoles head on. Hopefully Comcast will help EA further monetize its robust portfolio of game franchises, including FIFA and Madden NFL. However, EA has actually been doing really well in other areas, which include increasing its revenues from digital downloads.

The other key for EA is that it has a partnership with Disney that will let it develop games based on upcoming Star Wars movies.

The competition
One of EA's biggest competitors is Activision Blizzard . Activision's top franchises include Call of Duty, Skylanders, and World of Warcraft. Activision still relies heavily on these key franchises--together, the three accounted for 80% of its 2013 revenue. This could become a big issue for Activision since its World of Warcraft franchise is in decline. At the end of 2013, its World of Warcraft game only had 7.8 million subscribers, compared to 9.6 million at the end of 2012. 

Both EA and Activision announced their earnings earlier this month. EA popped 12% in a single day after beating fiscal fourth-quarter earnings estimates and raising its guidance. EA beat the earnings consensus by 330%. It guided for fiscal 2015 earnings to come in at $1.85, which was well above the $1.52 consensus.

Activision also increased its guidance, but nowhere near as much. It also beat the consensus, by 90%. The company is also seeing strength in digital. Its digital-channel revenue was up 23% year-over-year last quarter and this made up 68% of its total revenue. Unfortunately, it lost 200,000 subscribers for its World of Warcraft during the quarter.

How the shares stack up
EA trades at around 16.7 times next year's earnings estimates. In comparison, Activision trades at 14.5 times. When you look at the two companies on a P/E to growth, or PEG, ratio basis, EA is the better buy. Its PEG ratio is 0.8 while Activision's ratio is 1. EA also has a debt-to-equity ratio that's well below that of Activision, as the companies have ratios of 24% and 62%, respectively. Where Activision does win out is on income--Activision's dividend yield is 1%, while EA currently doesn't pay a dividend. 

As far as Comcast goes, it trades at a P/E of 15 based on next year's earnings estimates. Its PEG is also a reasonable 1, and its dividend is higher than that of Activision at 1.8%. However, Comcast has an 89% debt-to-equity ratio.

Bottom line
EA is ahead of its competition in the process of diversifying beyond revenue from console games. The Comcast deal would be a key move for both companies. Even with the run-up in shares, investors who are interested in adding some video game exposure to their portfolios should give EA a closer look.

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Marshall Hargrave has no position in any stocks mentioned. The Motley Fool recommends AAPL, AMZN, ATVI, and DIS. The Motley Fool owns shares of AAPL, AMZN, ATVI, DIS, and MSFT. 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.

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