Take-Two Interactive(NASDAQ: TTWO) shareholders leveled up in 2023. The video game developer's stock beat a rallying stock market by a wide margin, gaining more than 50% through mid-December. For comparison, shares of rival Electronic Arts rose just 16% over that period.
Investors are more excited about Take-Two these days because they believe the company will soon challenge EA for its spot near the top of the video game industry. A schedule that is chock-full of new game releases will help, and so will growth from its Zynga franchises. But new investors today are being asked to a pay high premium for all that potential.
Take a bow
Take-Two's 2023 results weren't impressive, especially considering the stock's rally. Bookings, a measure of sales to consumers, fell by 4% in the most recent quarter. Most Wall Street pros are expecting revenue to rise by 4% for its fiscal 2024, which runs through March. That's slightly slower than the pace at which EA has been growing its sales.
The profit picture is even worse. Take-Two has generated significant losses over the past few quarters while EA has remained consistently profitable. Sure, much of that red ink was due to one-time charges around game delays, cancellations, and the integration of its Zynga acquisition. But its net losses doubled to $780 million over the past two quarters. Results like that are never what investors want to see.
The path forward
All that said, the video game stock's rally has been driven by expectations for growth, which are quite high. Executives predict that sales will jump by more than 40% to $8 billion in fiscal 2025 Q1, which begins in April. That year will see a packed release calendar of dozens of titles, including several major releases and some new intellectual properties. A fresh installment in the blockbuster Grand Theft Auto franchise, the first in a decade, could be one of them.
Executives say these releases are going to put Take-Two on a similar sales and profit footing as EA, which generates about $8 billion in annual sales today from its large and diverse portfolio. "We believe there are many exciting upcoming catalysts that will enable our company to achieve new record levels of financial performance," management said in its November shareholder presentation.
The risks
There are two main risks to investing in Take-Two in advance of this highly anticipated flood of content. The first is that the launches of one or more of the upcoming titles could be delayed, or that games could fail to meet the quality desires of players. The developer aims to avoid these issues, of course, but they are common enough events in the video game industry.
The second big risk is more concrete: Those who buy now may be paying too high a price for the stock. Take-Two is valued today as if it has already achieved EA's level of diversification and earnings power. Despite its much lower sales footprint and its recent unprofitability, Take-Two is trading at a price-to-sales ratio of 5 right now -- the same ratio as profitable EA.
That's an acceptable premium if you believe Take-Two's next 18 months of game releases will go off as planned and that consumer spending will hold up well through that time. If you're more risk-averse, though, you might consider watching this stock from the sidelines until shares become cheaper or the company's path toward sustainable profits becomes more clear.
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Demitri Kalogeropoulos has no position in any of the stocks mentioned. The Motley Fool has positions in and recommends Take-Two Interactive Software. The Motley Fool recommends Electronic Arts. The Motley Fool has a disclosure policy.
