For EA and THQ, Is a Turnaround in Their Future?

The last couple of years have been rough ones for Electronic Arts and THQ. Rapid changes in the video game landscape and an unlucky string of underperforming titles has taken its toll on both companies’ stock prices.

Medal of Honor
Medal of Honor

This week, though, both companies showed some signs of life as they reported earnings, giving investors hope that the long awaited turnaround for each company might be about to begin.

EA on Tuesdayannounced slightly better-than-expected third quarter results – though it still saw net revenue fall 15 percent from the previous year. A share buyback and solid forecast for this quarter sent the stock upward, though. THQ , meanwhile, also beat expectations, but lowered its guidance and was punished by investors.

Analysts, though, say there was some good news to be found from both companies.

At EA, there are a couple of items that are raising eyebrows. The first is the company’s solid growth in the mobile and digital space. Mobile sales were up 16 percent during the last three months of 2010, while digital sales spiked 74 percent year over year. The company is maintaining its forecast of digital revenues of $750 million for the current fiscal year.

That’s a number expected to grow substantially in fiscal 2012. EA is currently the top publisher on the Apple iPhone and iPad, as well as Microsoft’s Windows Phone 7, RIM’s Blackberry’s App World and Amazon’s ( Kindle – and has a strong presence in the Android Marketplace. And through its PlayFish subsidiary, it estimates it has 290 million people on Facebook playing 3.5 hours per month.

Later this year, it’s expected to launch “Star Wars: The Old Republic,” a subscription-based massively multiplayer game that will compete against titles like Sony “EverQuest” and Activision-Blizzard’s “World of Warcraft”. And there’s where analysts see real room for growth.

“EA will be profitable at only 500,000 subscribers, and solidly profitable at higher levels,” says Michael Pachter of Wedbush Securities. “Given the popularity of the ‘Star Wars’ franchise … we believe ‘The Old Republic’ has a strong chance of passing 1 million subscribers relatively quickly. … We estimate that the addressable market for the game is around 12 million current MMO subscribers in the Western world, and that EA is likely to capture 15 percent of these early on.”

EA’s also in the process of reducing the number of titles it releases each year, opting for a quality over quantity mode – which could mean higher overall margins and lower operating costs.

“We expect further cuts in low margin console titles, while a successful launch of ‘Star Wars’ and profitable growth in smartphone and table games could provide a meaningful step-up to about 10 percent operating margins,” says Colin Sebastian of Lazard Capital Markets.

At THQ, the lowered guidance is frustrating, but the company could benefit from a slew of titles in the coming fiscal year that appeal to the core gamer, which is becoming more and more important to video game publishers. Among the titles in the lineup are “Homefront” (which envisions a North Korean-occupied U.S.) and “Saints Row 3,” a “Grand Theft Auto” style game that is also being made into a major motion picture.

The company is also finally stepping back from games licensed from kid’s movies (a once profitable segment for the company, but one that has essentially died off) and saw remarkable success with its uDraw tablet for the Wii last year – one of the few standout third-party games for the Nintendo system.

Sebastian calls THQ “a stronger company than just a year ago” and says he “continue(s) to expect THQ to demonstrate accelerating growth and higher margins in the next fiscal year.”

Still, concerns remain. Some analysts are worried the company seems dead-set on releasing some of its more promising titles directly against two very high profile games from Take-Two Interactive Software , a company that often creates a vacuum with its big releases. (Last year’s “Red Dead Redemption,” for example, complete sunk Microsoft’s “Alan Wake”.)

“We’re concerned on management’s decision to move forward with a May release of ‘Red Faction: Armageddon’ and ‘MX vs. ATV Alive,’ which should feel considerable competitive pressure from both ‘L.A. Noire’ and ‘Duke Nukem Forever;’ both of which are driving significant gamer buzz,” says Mike Hickey of Janco Partners. “We would strongly advise management to reconsider their May release window for these two important fiscal 2012 releases.”

And the continued dependence on properties tied to other entertainment vehicles, such as the WWE and UFC, could cause THQ to continue to struggle.

“The company pins its hopes on its lineup of owned IP, and while we think that the prospects for success are relatively high, we remain concerned about further erosion of THQ’s core licensed business,” says Pachter.

Questions? Comments?