DEEP ANALYSIS: Gaming Industry Guidance for Investors

The following is an excerpt from a report compiled by Michael Pachter of Wedbush Securities.

This newsletter lists the key events (including key game releases and financial news) in June, previews our expectations for July, and provides our views of the current state of the video game industry.

In June, Majesco (NASDAQ:COOL) reported results that were above expectations.

The E3 Electronics Entertainment Expo was held June 5 – 7 at the Los Angeles Convention Center. Nintendo’s (PINK:NTDOY) Wii U was shown for the second time, with a release scheduled this holiday. Microsoft’s (NASDAQ:MSFT) SmartGlass (due fall 2012), which integrates the Xbox 360 with tablets and smart phones, was impressive.  Sony revealed “Cross-Play”, connecting up to four players at once, using both PS3 controllers and the PS Vita. Several new titles were shown, including Activision’s  Call of Duty: Black Ops II, Electronic Arts’ (NASDAQ:EA) Medal of Honor: Warfighter and SimCity Social for Facebook (NASDAQ:FB), Microsoft’s Halo 4, Nintendo’s Miiverse universe, Pikmin 3, and first-party 3DS releases, Take-Two’s Borderlands 2, THQ’s (NASDAQ:THQI) South Park: The Stick of Truth, Ubisoft’s Assassin’s Creed III, Far Cry 3, and Tom Clancy’s Splinter Cell: Blacklist.

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The Wedbush Video Game Index—our market cap-weighted index of video game companies—underperformed the broader market averages with a June decrease of 1% due to worse-than-expected domestic console sales growth (both software and hardware) for May, according to NPD. The Russell 2000 and S&P 500 increased 5% and 4%, respectively, due to some relief regarding the European debt crisis toward the end of June. Share prices for each of our covered companies apart from Activision and Nintendo decreased in June, with Take-Two down 18% after once again failing to provide an update on Grand Theft Auto V’s release date at E3. Activision was up 2% for the month after its Call of Duty: Black Ops II reveal at E3 and reports indicating a potential sale or spin-off by majority stakeholder Vivendi. On a constant f/x basis, the index decreased 1%. The index decreased 2%, excluding Nintendo, also on a constant f/x basis.

Total U.S. console software sales for May were $255 million, down 32% from last year’s $376 million, and well below our estimate of $350 million (down 7%), making May 2012 the lowest software sales month since May 2004. Unit sales were down 30%, with average selling prices down 2%. PC software sales (excluded from the console sales figure above) were $80 million, up 228% due to the release of Activision Blizzard’s Diablo III, which sold 981,000 units.

We expect June game releases to be led by Take-Two’s  Spec Ops: The Line (PS3, 360, PC), Nintendo’s  Pokémon Conquest (DS), and Warner Bros’ Lollipop Chainsaw (PS3, 360). Fellow June releases include Warner Bros’ Batman 2: DC Super Heroes (PS3, PS Vita, 360, DS, 3DS, Wii, PC), Activision’s (NASDAQ:ATVI) The Amazing Spider-Man (PS3, 360, DS, Wii) and Take-Two’s Max Payne 3 PC version. We believe a relatively weak lineup will keep sales challenged, despite an easy down 6% comp. In this unprecedented eighth year of the current cycle, we expect software sales to be more concentrated than in the past, with sales peaks accompanying blockbuster releases and valleys occurring in historically weak months.

Despite recent weakness, we think that the game publishers remain undervalued as a group, and believe that many will appreciate substantially should software sales return to positive territory.

Key June headlines:

o 6/5-6/7 – E3 Electronic Entertainment Expo video game conference in Los Angeles, CA.

o 6/11 – Majesco reported solid Q2:12 results, but lowered FY:12 EPS guidance due to a challenging retail environment.

o 6/14 – NPD announced weak May U.S. console software and hardware sales that were below our expectations.

o 6/20 – THQ announced that the  Saints Row: The Third – Enter the Dominatrix expansion, scheduled for release in

September 2012, will be delayed, and instead will be released as a full CY:13 sequel.

o 6/26 – Zynga held its Zynga Unleashed conference in San Francisco, CA.

Key July events:

o 7/9 – THQ shares to begin trading on a split-adjusted basis (1-10 reverse stock split).

o 7/12 – June NPD U.S. video game sales data release.

o 7/19 – Ubisoft to report Q1 sales ⇔ UBI

o 7/19 (est.) – Microsoft to report Q4 results ⇔ GME

o 7/30-8/3 (est.) – Electronic Arts to report Q1 results. ⇑ EA

o 7/30-8/3 (est.) – Nintendo to report Q1 results. ⇓ NTDOY

Michael Pachter is an analyst at Wedbush Securities.

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