Game Trader: Why you should buy Nintendo, Apple and Take-Two now

Asif A Khan, CFO of Virtue LLC, provides expert analysis of the stock market for anyone interested in trading video game stocks. His "Game Trader" column runs exclusively on GamesIndustry International. His latest note, written following the unveiling of the Xbox One, is below.

Changes to our ratings

I am upgrading Apple Inc. to Super Mega Buy from Buy. I am downgrading EA to Hold from Buy. I am downgrading GameStop to Do Not Buy from Buy. I am downgrading Google and Zynga to Do Not Buy from Hold. I am dropping coverage of THQ (rated Do Not Buy since the inception of the Game Trader Article), because they went bankrupt.

Super Mega Buys

Apple Inc. - AAPL

• 6/23/10 price $270.97
• 1/22/11 price $326.72
• 1/31/12 price $456.48
• 5/31/12 price $577.73
• 5/21/13 close $439.66
• 62.3 percent Gain since coverage initiated at Buy on 6/23/10
• 52 Week High $705.07
• 52 Week Low $385.10

Apple's stock chart went temporarily parabolic in September of 2012 and was incredibly overbought on relative strength indicators when it hit another resistance point at $705/share. I still believe Apple offers tremendous upside from here. In fact, I am going out on a limb here and saying that it is a Super Mega Buy. Apple's stock trades like a toilet paper company and the mainstream media constantly says that they are no longer innovating. Apple Inc. is a lot like Willy Wonka's Chocolate Factory. If they do have an everlasting gobstopper in development, they are not going to telegraph it. At 10 times forward earnings and 0.50 PEG ratio, AAPL is incredibly cheap. They announced the most aggressive buyback in the history of corporate America and that will lead to a 15 percent decrease of the float if the share price stays here. So if their earnings and revenue don't grow at all in the next two years and the stock doesn't move, earnings per share will grow 15 percent. Even in this terrible scenario I have described, Apple is trading at a discount to that hypothetical growth.

Now what if Steve Jobs actually left them with an amazing pipeline? A number of potential revenue growth drivers exist at Apple. They most likely will get into the payments, television, and wearable computing industries in the next few years. None of this is priced into the stock at its depressed valuation. I have had the same long position in Apple since 1997, and have not sold a single share. Shareholders are being paid a nice 2.8 percent dividend to wait and see if there is one more thing left on the shelf in Cupertino.

Nintendo - NTDOY

• 6/23/10 price $37.40
• 1/22/11 price $34.14
• 1/31/12 price $16.94
• 5/31/12 price $14.32
• 5/21/13 close $13.99
• -21.1 percent return since the stock was upgraded to Super Mega Buy on 1/31/12
• 52 Week High $17.75
• 52 Week Low $11.36

Maybe if I downgrade Nintendo, the stock will go up? I have been dead wrong about this stock being a buy since the Game Trader article began in June of 2010. I would like to point out that Nintendo trades at 1.17 times book value, has turned profitable, and actually has a 2.3 percent dividend yield. Not bad for a company that is circling the drain on a media declared death watch. I suggested to my editor that we put a countdown clock for the death of Nintendo somewhere on the main page.

The company has decided to forego their flagship press conference at E3 in favor of some other smaller less flashy events. In a recent article David Cole said that Nintendo "forgot marketing 101." I am not sure if they have forgotten it or if they are just not taking as many risks on this console generation. The Wii U name is confusing to consumers. Most people still think it is just another peripheral for the original Wii, just like 3DS was misunderstood as another DS, not a new handheld system. Nintendo is being cautious with their money when it comes to marketing, focusing on Nintendo Direct instead of conventional TV ads. This is great for exciting your core group of fans, but what about the mass market appeal that the company used to be known for?

Bring back the cereal! Nintendo needs to show us that they still have the marketing chops to come up with wacky things like cereal or Pokemon cartoons. Nintendo still has great brands, but they are not being levered properly. Putting near field communications technology into the Wii U Gamepad controller without a single use of it 7 months after launch is another great example of how cautious they are being.  

Cautious? Maybe I am being too nice. Perhaps David Cole is right and they have completely forgotten how to market a must have product in the USA? I think Nintendo management is on their heels after two terrible fiscal years, and they don't want to blow it. With their recently provided lofty internal earnings projections, they can't risk wasting any money. They want to be around for the next next generation, if there is one.

Hopefully they will come out with something new at E3, not just another Mario or Zelda. If they do, these current gripes could be overshadowed by the hype of a cool, new Miyamoto intellectual property. If they don't, they could always bring back the cereal!

The Buy

Take-Two Interactive - TTWO

• 6/23/10 price $9.57
• 1/22/11 price $12.15
• 1/31/12 price $15.60
• 5/31/12 price $11.52
• 5/21/13 close $16.07
• 3 percent return since the stock was upgraded to a Buy from Hold on 1/31/12.
• 52 Week High $17.54
• 52 Week Low $7.37

Even though GTA V will be a glaring omission from the Xbox One launch lineup, I expect Take-Two to have an amazing back half of the year. GTA is a great intellectual property and it wouldn't surprise me to see another company attempt to acquire them if for some reason GTA V isn't the blockbuster I expect it will be. With a 14.8 Forward P/E and a PEG ratio below 1, it is by far the cheapest standalone 3rd party software company trading in the US stock market.

Holds

Activision Blizzard - ATVI

• 6/23/10 price $11.21
• 1/22/11 price $11.24
• 1/31/12 price $12.34
• 5/31/12 price $11.74
• 5/21/13 close $15.57
• 38.5 percent gain since the stock was downgraded to a Hold from Buy on 1/22/11.
• 52 Week High $15.75
• 52 Week Low $10.45

Did anyone else hear that yawn at the Xbox One reveal when we were force fed some diatribe on Dog mapping technology? I have said it before and I will say it again, Activision is the master of diluting intellectual property value. It remains to be seen if Call of Duty will make a graceful transition to the next generation and keep gamers addicted, but I point to Tony Hawk and Guitar Hero as examples of hugely popular franchises that Activision pounded into the mud. Call of Duty is at risk of being next, but at least they have Skylanders. The stock is not cheap at 15 times forward earnings and a PEG ratio over 2. It does pay a 1.3 percent dividend, which is not that great when you compare it to a number of better positioned tech companies.

Electronic Arts - EA

• 6/23/10 price $15.29
• 1/22/11 price $15.13
• 1/31/12 price $18.58
• 5/31/12 price $13.62
• 5/21/13 close $21.97
• 43.7 percent gain for those who took advantage of the Buy rating made on 6/23/10
• 52 Week High $22.84
• 52 Week Low $10.77

After a huge run during the time EA had been Buy rated at Game Trader, it is time to take your gains, if you bought shares. I am not saying EA is a short, just that the stock has priced in a lot of the bull case that we presented back in 2010. It also trades at 15 times forward earnings and above a 1 PEG ratio. I may give it another look if the stock comes back into the teens, but with the recent management turnover it has become a show me stock. I am downgrading it to Hold from Buy as a result. I hope some of our readers were able to take advantage of this call as a 43 percent gain in 2 years is nothing to scoff at.

Microsoft - MSFT

• 6/23/10 price $25.31
• 1/22/11 price $28.02
• 1/31/12 price $29.53
• 5/31/12 price $29.19
• 5/21/13 close $34.85
• 37.7 percent gain since coverage initiated at Hold on 6/23/10
• 52 Week High $35.27
• 52 Week Low $26.26

Xbox One solves problems that didn't exist. It addresses a market that doesn't really speak to their core demographic. So much time was spent talking about Live TV, that they forgot most of their users cut the cord years ago. I believe Xbox One is a preemptive strike by Microsoft at a non-existent Apple product (iPanel). I will reserve my full judgment of the potential of Xbox One until after E3. It is entirely possible that they will show off a game that steals the show, but if they don't Sony could be positioned very well to win this console generation. Microsoft's stock will not be saved by the Xbox One. Windows 8 has had a mediocre adoption rate, and the broader PC market is in decline. The stock is not absurdly expensive, but after its recent run I would not be a buyer. It does pay a nice safe dividend of 2.6 percent, if you are into that sort of thing.

Sony - SNE

• 6/23/10 price $27.74
• 1/22/11 price $34.22
• 1/31/12 price $18.22
• 5/31/12 price $13.24
• 5/21/13 close $22.91
• 25.7 percent return since we upgraded the stock to a Hold from Don't Buy on 1/31/12.
• 52 Week High $23.10
• 52 Week Low $9.57

As I said above, Sony's PS4 could actually win this generation. The stock has had a monster run since our upgrade to Hold from Do Not Buy, and much of it is attributable to Dan Loeb's call for a breakup. I have been saying for years that Sony is worth more broken up than it is as a giant conglomerate. They never maximized their synergies and it seems like they are finally giving the breakup consideration. They still trade at a discount to book value which means there is further upside to the stock in the event of a breakup. I don't usually buy stocks because they are looking to divest things in lieu of growth, but Sony has the tailwind of a weakening Yen behind them as well. Things may finally be turning around for this once iconic company, but I will stick with investing in the much cheaper and more hated Nintendo.

Do Not Buy

GameStop - GME

• 6/23/10 price $18.89
• 1/22/11 price $20.90
• 1/31/12 price $23.36
• 5/31/12 close $19.18
• 5/21/13 close $36.78
• 91.8 percent return for our readers that listened to the Buy upgrade on 5/31/12
• 52 Week High $39.87
• 52 Week Low $15.32

Wow, that sure was a hell of a short squeeze in GameStop. Two words to anyone who is still long, get out! There is a chance that the stock can continue to squeeze shorts a bit higher towards $50/share, but that move will be entirely technically driven. When I said to buy GME last year, it was a hated stock trading below book value. It still has a huge 46 percent short interest, but that is no reason to believe in the company's future. Xbox One, PS4, and Wii U are all making the used games industry look more and more obsolete by the day. Adding to GameStop's likely demise is increased competition from Amazon, Best Buy and Walmart. This article is called Game Trader, and if you don't take the 91.8 percent gain since our last report it is your fault. I am downgrading GameStop two notches to Do Not Buy from Buy, and I would advise those who want to short the stock to instead use put options. This will limit your risk in case the short squeeze does continue into the fall console hardware launches. I will be shocked if GameStop is still above $30/share by this time next year. I am not sure if they can adapt their business model fast enough to compete in the increasingly online world of gaming.

Google - GOOG

• 1/22/11 price $611.83
• 1/31/12 price $580.11
• 5/31/12 price $580.86
• 5/21/13 close $906.97
• 52 Week High $909.31
• 52 Week Low $556.52
• 56.34 percent gain since the Hold call made on 1/31/12

When I am wrong, I admit it. I was wrong about Google. Their shenanigans in China were just a dog and pony show. They have taken huge market share in smartphones and clearly the stock should have been Buy rated. I do wonder how they can continue to grow when they are 75 percent of the smartphone market. Google Glass is not ready for primetime, the autonomous car is still being developed, and they still really haven't made a major entrance into gaming. I debated dropping coverage altogether on this stock but instead I am going to put my head on the chopping block. The Do Not Buy rating is being given to Google because I believe the stock has discounted much of the good news to come. It trades at 16.7 times forward earnings, a premium to its long term growth rate. I believe that much of its capital appreciation came from the flood of money leaving Apple over the last half a year. Google is in a similarly precarious situation as Apple was in September of 2012, and I would not want to be a buyer above $900.

Zynga - ZNGA

• 1/31/12 price $10.49
• 5/31/12 price $6.26
• 5/21/13 close $3.45
• -44.9 percent since the stock was upgraded to Hold from Do Not Buy

I tried to get cute when I upgraded Zynga to Hold from Do Not Buy last year. I should have stuck with my initial analysis, and I am downgrading it back to Do Not Buy. Zynga is a poster child for the FaceBook/App Store bubble. At one point Zynga had a larger market cap than Sony and Nintendo. Any meaningful rallies in this stock can be shorted. The bull case being made these days is that Zynga will get into online gambling; if that happens maybe I will reassess my negative investment thesis. The company is not profitable, and hasn't really told investors when they think they will return to profitability. Stay away from this company until there is a real reason to own it.

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Full Disclosure:

At the time of this article Asif A. Khan, CPA, his family members and/or Virtue LLC had the following positions:

• Long Apple
• Long Nintendo
• Long Take-Two Interactive (Through Call Options)
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• Short GameStop (Through Put Options)
• Short Google (Through Put Options)