I. Introduction
The purpose of this report is to analyze the financial performance of the company Electronic
Arts, Inc. Electronic Arts, Inc produces interactive software for various gaming consoles and
personal computers. Interactive software is a huge industry with millions of consumers. Some
are casual game players, while others consume their lives with these games. The company’s
main two competitors are Activison and Take-Two Interactive Software and produce similar
products.
To begin, background information will be given about Electronic Arts, Inc as well as the two
competitors. In depth analyses of ratios and the company’s financial performance will follow
as well as some recommendations for improvement. The report will end with a summary of
the information that was obtained and an overall conclusion.
II. The Firm & It’s Competitors
The firm we are analyzing is Electronic Arts, Inc. Electronic Arts is a software company that
creates, publishes, and sells products for various gaming systems, computers and wireless
devices. The company has achieved an immense amount of success from some of the top
selling games and franchises in the video game and computer software industry such as Need
for Speed, The Sims, Madden NFL and NBA Live. Electronic Arts produces games that
operate on Playstion, Xbox, and Nintendo consoles as well as personal computers, or PC’s.
The two competitors we will be analyzing are Activision and Take-Two Interactive Software.
Activision, Inc. is an international publisher of entertainment software products, very much
like Electronic Arts. The company has produced high profile series such as Guitar Hero, Call
of Duty, and Tony Hawk. Just like Electronic Arts, the company also produces games on all
gaming consoles as well as PC’s. Take-Two Interactive Software, Inc is again in the same
vein as it’s competitors, producing interactive gaming software. Take-Two has produced
highly popular series such as Grand Theft Auto and 2K Sports. All three companies don’t
really have any differences, except for the games that they produce. Each company has their
own set of highly successful series that have made each of the companies highly profitable.
III. Data Sources
Ratios were calculated manually using information taken from the website Morningstar. We
used the financial information given from the site as well as various information from the
financial statements for each of the companies. All information was taken from the years
2007, 2008, and 2009.
4. Extended Du Pont Analysis
By examining the Du Pont System for Electronic Arts, Inc. and its main competitors
(Activision Blizzard, Inc. and Take-Two Interactive Software, Inc.) for the most recent 3 years, a
declining trend for all 3 companies can be observed as a result of a declining economy as a
whole, a far below industry average return of equity ratio in 2009 for Electronic Arts, Inc. (29.12% compared to the industry 8.04%) shows a horribly performed year of the company. To
find reasons why Electronic Arts, Inc. had such a bad fiscal year, a detailed analysis in Du Pont
System is necessary.
A declining in Profit Margin of Electronic Arts, Inc. for the recent 3 years is following the
steps of the whole industry and is influenced by bad economic years. But a big loss and far
below average profit margin ratio in 2009 (-25.83% to 6.08% as an industry average) shows a
big weakness in making profits. To become a well-performed company, a big profit gain and a
significant improving in profitability are necessary for Electronic Arts, Inc. to satisfy its
stockholders.
An improving and a relatively stable Assets Turnover ratio show a slightly above industry
average. By comparing with its competitors, Electronic Arts, Inc. is in an about-average position
of using assets to generate sales. Such an assets turnover ratio doesn’t mean necessarily bad but
it indicates a high potential in improving in assets managements.
By comparing the Equity Multiplier, Electronic Arts, Inc. is in the average place among its
two main competitors. Even though a slightly improving trend from 2007 to 2009 can be
observed, the most recent Equity Multiplier still falls behind the industry average. To improve
the finance performance as whole, an improvement in debt management such as an above
average Equity Multiplier should be expected.
By looking at the Table 1 as a whole, Electronic Arts, Inc. shows a slightly above average
ratio in Asset turnover which means the company has a relatively strong ability in managing
assets. But a declining ratio in Profit Margin which is far below average shows a bad
performance in generating profits. Profitability is a horrible weakness of Electronic Arts. A
slightly below average Equity Multiplier shows a big possibility in improving the overall
financial performance by better managing debt. Detailed analysis of profitability, debt and asset
management is necessary to generate the ways to improve the overall performance of the whole
company.
5. Market Value Ratios
In 2007 Electronic Arts was a very solid company compared to the two other
competitors of which we conducted research along with the gaming industry as a whole.
Electronic Arts was operating with a market cap of $16.54 billion while its other competitors
Activision and Take Two Interactive Software were operating at $8.77 billion and $1.39 billion
respectively In 2008 electronic Arts still led the way with a market cap of $15.82 billion which is
over $4.4 billion dollars more than the market cap listed for Activision in 2008 at 11.34 billion
and almost $15 billion more than Take two Interactive Software which was listed at $.92 billion.
2009 was a year where the recession played a part in the operations of Electronic Arts which was
listed with a market cap of $5.27 billion. Its close competitor Activision was listed with a market
cap of almost 3 times as much with a listing of $14.09 billion while Take Two Interactive
Software was operating with a market cap of $.90 billion.
The next category that was analyzed was the Price/Earnings ratio. The average
Price/Earnings ratio the industry operated at was $19.62 billion which was not as high as the
2007 Price/Earnings ratio of Electronic Arts which was up to 211.80x. The reason why this ratio
is important to the investors of Electronic Arts is because it shows the ratio of the current share
price in relation to the per-share earnings. In 2008 and 2009 the Price/Earnings ratio was not
available due to the fact that the ratio was a negative number and negative numbers are not
accepted in the financial community.
Another ratio that was covered in Table 2 was the Price/Free Cash Flow. This ratio
explains a company’s financial health in the future. This cash flow measure does not include
depreciation or amortization. In all three examined years Electronic Arts was over six times
higher than the industry average at 8.10x. The Final ratio we analyzed was the Price/Book ratio
which compares the company’s market value to the book value of an individual stock. In 2007
Electronic Arts’ Price/Book ratio was listed at 3.88x which is similar to that of the industry
average of 3.9x. in 2009 that Price/Book ratio from 2007 was nearly cut in half and was listed at
1.87x. This decrease was due to the nationwide recession that had occurred between 2008 and
2009.
Things which I think are important:
1.， a big declining in market cap, due to big decrease in stock price (See P/B ratio,3rd point)
2, negative P/E ratio due to net loss
3, Big decline in P/B ratio due to stock price.
4. Well above average , P/Free cash flow, a well management in getting free cash/ confident for the
company in managing cash
Suggestion for the company : Improve performance, get rid of net loss, rebuild its reputation and
improve confidence of stockholders
Table3--- profitability ratios.
Table 3 took a look at Electronic Arts, Inc. Operating Efficiency. Operating efficiency tells firms
how profitable Electronic Arts, Inc. has been and is important to the successful growth of our
organization. Four ratios where used when looking Electronic Art’s operating efficiency and they include
profit margin, basic earning power, sales growth, and growth margin.
Electronic Arts, Inc. profit margin has continued to decline over the past 3 years reaching
(25.83%) in 2009. This decline can be attributed to its increasing net loss. Looking through their income
statement, revenue has continued to grow constantly but expenses have also grown at a higher rate
causing a net loss creating Electronic Arts negative profit margin. Compared to other competitors
Electronic Arts has the lowest profit margin however; every other firm also has a negative profit margin.
The industry average is 6.12% this tells us Electronic Arts, Inc. profit margin is significantly lower than
most of its competition. They may consider increasing sales through raising prices or reducing expenses
as a way to improve this ratio.
Electronic Arts, Inc.’s Basic earning power has also declined over the past several years this also
is due to its increasing net loss. In 2007 it had a basic earning power of .07% by 2009 this number has
declined to (17.68%). In 2009 Electronic Arts, Inc. had the lowest earning power of its main competitors.
Only one of its competitors had a positive ratio and that was Activision with a ratio of 1.92% which was
also fairly low. Electronic Arts, Inc. is earning less than its competition and this why they have the lowest
ratio of their 2 main competitors. In order to catch up with their competition they must find a way
maximize their earnings and use their assets more efficiently. Both EBIT and total assets have decrease
over the past three years. This decrease has created lower ratios because the gaps between EBIT and
total assets have continued to increase. Electronic Arts, Inc. must find ways to earn more or find ways to
put assets to better work to reduce this gap and create greater earning power ratio.
Electronic Arts, Inc.’s sales growth has decline since last year but is still much higher than the
4.7% they posted in 2007. This increase indicates that Electronic Arts, Inc.’s sale have increased
dramatically since 2007. However, sales did seem to drop between 2009 and 2008 dropping from 18.6%
to 14.9%. These increases can be a bit deceiving however because they look at revenue increases
throughout the years put do not factor in what it cost to make those revenues. Although revenue over
the past three years has increased so to have expenses. While the revenue has increased dramatically
since 2007 it has not generated in more profit for Electronic Arts, Inc. because their net income
continues to decline from expenses and other cost such as research and development a major function
of Electronic Arts, Inc.’s firm. Electronic Arts, Inc.’s competitor’s sales growths have been all over the
place. For example TTWO went from 56.6% sales growth to (37.0%) a negative sales growth. These
fluctuations in growth can make investor wary about investing in those firms. Investor can at feel a little
more confident with electronic arts, inc. and ACTVI because their sales growth have remained positive,
and although they have fluctuated since 2009 they still have increased even in a market as unstable as
today’s.
Electronic Arts, Inc.’s gross margin has declined 11.3 % since 2007 form 60.8% to 49.5%. Its
competition had lower gross margins in 2007 but both have increased since 2007. Compared to the
industry Electronic Arts, Inc. is slightly below average. However, it has had the highest gross margin of
the three companies since 2007 even while it declines. The declining gross margin tells us that cost of
goods has increase significantly more than revenue has increased and we are no efficiently managing
our expenses. It also indicates that Electronic Arts, Inc. is not doing as a good job at turning our expenses
for materials into products that can generate profit.
Electronic Arts, Inc. sport has a lot of room for improvement when it comes to operating
efficiency. Our profit margin and basic earning power have declined drastically since 2007 and continue
to drop. Our sales growth has increased since 2007 but has also fallen between 2009 and 2008. Our
gross margin has also declined from 2007 but still remains close to the industry average. It seems the
main cause for the declines are revenues that are not keeping up with rising expenses. From these ratios
it tells us Electronic Arts, Inc. is spending more than what it is making and it must take action to reduce
some of its expenses to once again become profitable. To get expense down Electronic Arts, Inc. may
look at cheaper ways to create or products or use different resources.
6. Table 4 Ratio Analysis
First off, the ratio’s that are being analyzed are Total Asset Turnover (TATO), Inventory Turnover
(ITO), Fixed Asset Turnover (FATO) and lastly Days Sales Outstanding (DSO). The reason why these
ratios are used is because they allow us to explore Electronic Arts and it competitors a little more closely
to really give us a feel for how they compare to the entire industry. By using TATO this allows us to
determine the amount of sales that are generated from each dollar of assets. It must be realized that
companies with low profit margins tend to have a larger TATO, and those with high profit margins have
low a TATO. Electronic arts lead its competitors in 2007, with a TATO of 0.65X but has sadly fallen
behind over the next two years. Next, the ITO will be discussed; we use this ratio because this
measures how regularly a company wipes out inventory from its system within a given financial
reporting period. The measure can be computed for any type of inventory such as work in progress
(WIP), supplies and materials used in delivery service or manufacturing, or even the entire collective
inventory. In most cases companies will usually try to keep a high (ITO), because this shows a positive
indication of operation efficiency on the other hand this doesn’t always mean that performance is
better. Putting some number is perspective. Electronic Arts has outweighed the competition and
industry average significantly for the last three years, with numbers of 19.7x in 2007, 15.7x in 2008, and
11.1x in 2009, with this being stated the industry average is 4.6x. But the (ITO) is hard to recognize good
performance as a measure within itself, and with that being said lets move on to Fixed Asset Turnover or
(FATO). (FATO) is a measure of a company's capability to produce net sales from fixed-asset
investments – mainly property, plant and equipment (PP&E). A larger (FATO) shows that the company
has been more successful in using their investments of fixed assets to produce cash flows. In the case of
Electronic Arts they have fallen way behind in this category, falling behind every competitor for the last
three years, but with no industry average of this measurement its hard to determine whether they’re
really that behind or not. Lastly let’s measure the Days Sales Outstanding or (DSO). Days Sales
Outstanding is a measure of the standard amount of days that a company takes to accumulate income
after a sale is made. Having a low (DSO) shows that the company needs less days to gather its accounts
receivable on the income statement. On the other hand a high (DSO) represents that the company is
selling its merchandise or product to their customers on credit and collect money over a longer period of
time. Electronic Arts have been on top of their game when it comes to (DSO), they have only been
behind once during the three years and that was to the competitor Activision (ATVI) in 2007 when their
(DSO) was 7.8 and Electronic Arts was 26.9. Besides that Electronic Arts has had the least (DSO)
overtime. With all of these facts being stated I believe it is easy to say that Electronic Arts right into
place among its competitors when it comes to Ratio Analysis, but will have to be explored further to
really see who is on top in the industry.
7. Debt Management Ratios for ERTS, ATVI and TTWO
The ratios we used to determine debt ratios for ERTS, ATVI, and TTWO were equity
multiplier, debt to asset, current ratio, and quick ratio. These are all ratios that can help
investigate management strengths and weaknesses of each company. The Equity Multiplier is
total assets divided by common stockholder’s equity, and what this does is measure leverage.
The higher the ratio the more a company relies on debt to finance its asset base. In 2009
Electronic Arts, Inc‘s equity multiplier was 1.49 as compared to the industries 1.9. This indicates
that when compared to the industry ERTS depends less on debt to finance its assets, while on
average the industry uses more debt and can possibly be at a greater risk.
Next we found the debt to assets ratio of ERTS and its competitors. The debt to asset
ratio is found by dividing Total Liabilities by the Total assets of our company. This gives us the
measure of how our company can pay debts. In 2009 our debt to assets ratio was 33%, while
our competitor Activision’s was 21.6% and Take-Two Interactive Software, Inc’s was 49.8%. This
indicates that as compared to our top competitors we are only 2nd best in repaying our debt. I
believe a good way to make our percentage lower and essentially better would be to cut back
on some unnecessary liabilities if possible or to increase total assets with better advertising or
potentially better products. Our ability to borrow could make our firm an even bigger one so
this would be an area that can be improved.
The current ratio of ERTS is another very important ratio to compute. The current ratio
shows a company’s ability to pay debt obligations that are short-term. If the ratio is high then it
means the company is more liquid. We calculated the current ratio by dividing currents assets
by the company’s current liability. We found ERTS to have a current ratio of 2.75 in 2009, while
Activision had a current ratio of 2.13 and TTWO had one of 1.77. This statistic shows that our
company has a reasonably decent short-term financial standing. Our current ratio is even
higher than the industry average so when looking at short term debt we pay it off fairly quickly
and easily. Our competitor Activision is also doing pretty good, but TTWO seems to be
struggling a little with a 1.77 current ratio.
The final ratio we used to take a look at our company’s debt management was the quick
ratio. This is a ratio that measures our company’s liquidity and its capability to meet any
obligations it may have. The quick ratio is configured by subtracting inventories from current
assets and then dividing it by the current liabilities of the company. Electronic Arts quick ratio
based on last year is 2.32x meaning that for every dollar of current liability there are two dollars
and thirty-two cents of convertible assets that can be retrieved quickly. The industry’s quick
ratio is 2.1x, Activision’s is 1.59x, and TTWO’s is 0.85x. This proves that our company is above
average when it comes to the convertible cash and would be accepted by most creditors. TTWO
would have a hard time with creditors because their quick ratio is less than 1.
Reason why we use these ratios:
These are ratios to show how the company is managing debts. Or show if the company’s
ability to make essential payment .
D/A indicates how much percentage the assets are financed by debt, Current ratio and
quick ratio indicate the company have no problem to make required payment(short term debt),
different between these two shows the company have no problem in managing
inventory(inventories are not a big problem, and inventory turnover ratio is good, so why the
company is inefficiency is mainly due to general management in selling and administration)
Good: good liquidity ratios.
Below average equity ratio is not necessarily bad, but the company can rely more on
debt.
Suggestion: generally, no problem in managing debt. But since a below average euity
multiplier, this indicate the company can reasonably increase its reliance in debt to improve
overall performance.