Seeking Alpha
Profile| Send Message|
( followers)  

From The Cody Report: Tech spending is steady and accelerating and Vista’s just starting to hit. A rate cut from the Fed is on the table if the economy away from tech cools any further. And if the non-techonomy heats back up on its own without a Fed cut? Well, tech spending will still accelerate along with the broader economy.

I’ve already detailed much of that analysis previously, especially the first one which I called “Five Stocks for the Echo Techo Bubble.” But the very bullish outlook for big cap tech isn’t just about networking and Vista and the huge returns on those investments which have spurred the current techonomical boom.

We’re also on the cusp of a major new video game cycle that, like Vista, has been pushed out and put off for years. And that means there’s a lot of pent up demand ready, waiting and willing to jump in head first when the gaming consoles are finally all out and hitting critical mass in the mainstream.

Microsoft’s (MSFT) Xbox 360 has been out in the market place since November 2005. And it’s been a relative success, despite its minor incremental improvement over the original Xbox, which itself was a pretty awesome machine when it came out back in November 2001. Softee’s sold more than 3 million units of the 360. Not bad, but certainly not the type of numbers that spur an entire industry’s fundamentals forward. Consider that Sony (SNE) sold 10.61 million PS2s in its first year of existence and that there are now some 111.25 million units of PS2 that have been sold.

As you can see, in past cycles when new console generations are rolled out, there is tremendous unit growth in the first two to three years of each cycle. But as the following chart shows, analysts believe that this cycle will be different, with slow growth over the next three years.

3GGCC 1

Regardless of past cycle trends, for some reason most of Wall Street seems convinced that the new machines from Nintendo (OTCPK:NTDOY), Sony and the Xbox 360 upgrades to HD are no big deal. They look at the mediocre success that the Xbox 360 has experienced in the last year and extrapolate that trend out into eternity. The non-HD Xbox 360 isn’t even a next-gen console. If PS3 is 3G as the third generation of the PlayStation, Xbox 360 is 2.5G.

3GGCC 2

The Nintendo Wii along with the PS3 are likely to really kickstart the 3G cycle, which counter-intuitively will also spur Xbox 360 sales, as developers create new games and killer apps for this generation of consoles.

Here are five stocks that will benefit from this burgeoning 3G video game cycle.


Electronic Arts (ERTS)
– The standard by which all video game software companies are judged. These guys have created juggernaut after juggernaut of video game franchises, led first and foremost by their remarkably fun and always current Madden franchise. The stock has gone nowhere for the last couple years of the 2G cycle and as PS3 et al have been pushed out repeatedly, ERTS has had its fair sure of fundamental problems. But this will be a cash generating machine into the next couple years and analyst estimates are way too low at $1.34 for the March 08 fiscal year.

Look for that $1.34 to climb up closer to $2 and for the stock to trade at a 30 multiple on whatever analysts extrapolate out from that explosive earnings action. I could see ERTS at 80 in a year and I wouldn’t be surprised.

3GGCC3

3GGCC4

3GGCC5

3GGCC6

Sony (SNE) – Yeah, Sony. Before you hit alt-tab to switch over to your email and fire up a flaming exclamation of disgust to me, might I point out that whatever your reasoning for hating Sony is why this stock is such a buy right now ahead of the mass release of the awesome PS3 upgrade is already priced into the stock. I ask readers – when was the last time this company had any good fundamental news? They just recalled 8 trillion laptop batteries because 7 of them blew up when some idiot left his laptop running in his computer bag for two hours. Okay, I’m exaggerating, but the fact is that you want to buy a stock when it’s hated right in front of a new cycle. Just when everybody’s given up on it. Sony’s trading at the same levels it was five years ago. It’s not a company I want to own as a secular growing long-term investment, but it’s a great trade for the next couple years.

3GGCC7

3GGCC8

3GGCC9

3GGCC10

3GGCC11

Broadcom (BRCM)
– I think it’s time I face the truth: the DoJ, the IRS and especially the SEC are going to completely fail in their mission of protecting investors and prosecuting white-collar criminals when it comes to this options backdating travesty. Broadcom’s management team misled investors about some $1.5 billion in earnings power over the last few years, but apparently they are indeed going to get away with it.

Meanwhile, the company’s really hitting their stride from a fundamental perspective aside from some lingering inventory build up issues in their channels. But from Ethernet transceivers that go into every Xbox 360 to the WiFi, Bluetooth and sensor components in every Wii box, Broadcom’s gonna sell a lot of very high margin chips into the 3GVG cycle.

click to enlarge
3GGCC12

3GGCC13

3GGCC14

3GGCC15

Marvell (MRVL) – Another company, like Broadcom, which lied to investors about the earnings power of the company for years. And, like Broadcom, they’re going to get away with it. And it’s not just in the options thievery where Broadcom and Marvell compete. Marvell seems to have followed in Broadcom’s very smart footsteps of rolling up disparate chip technologies and companies and leveraging their economies of scale. Marvell’s got at least three chips going into every single PS3, and they’re going to ride the Sony coattails higher during the 3GVG cycle.

3GGCC16

3GGCC17

3GGCC18

3GGCC19

And then there’s Advanced Micro Devices (AMD) again. I cited AMD last month as a great way to play the Vista cycle. And the company’s also going to benefit from the Xbox 360 cycle, as their recent acquisition of ATI makes them the second most important graphics processor company behind Nvidia. AMD’s management has been flamed for this acquisition, as they’re currently actually buying more from Nvidia as ATI’s new graphics chips are a bit behind schedule.

Once again, Wall Street’s “what have you done for me lately” approach to tech stocks gives the opportunity to get into a great company at a cheap price. Realize that AMD spun off the low margin, commoditized Spansion memory business last December and has now acquired the much higher margin, much better business of ATI’s graphics chips. AMD’s going have some problems staying up with Intel’s CPU business over the next few years, as Intel’s scale will enable them to once again rule in PCs. But AMD’s still going show impressive growth from both the CPU business and the graphics chips business.

AMD’s going earn a couple bucks per share in 2008 and the stock will likely trade at a 20 plus multiple, making a double in the next couple years a serious possibility.
3GGCC20

3GGCC21

3GGCC22

Source: Five Stocks For The 3rd Generation Game Console Cycle