Is It Wise to Trade on Subsidiary Closures?

Includes: DIS, EA, THQIQ
by: Benzinga

By Louis Bedigian

This week, Disney (NYSE:DIS) confirmed that it had closed Propaganda Games, a small development studio that it acquired in 2005.

At the moment, shares are trading up 0.49% - a negligible amount that might have nothing to do with Disney's decision. But if it does, you should ask yourself: is it really that wise to trade on subsidiary closures?

In simple terms, Disney is just doing business as usual. Six years ago the Mickey Mouse creator saw an opportunity to make buckets of cash from an exciting and fast-growing industry. Disney, like so many other companies, thought that it was better to invest in existing video game studios instead of building its own. Accordingly, the company began to buy up new and/or notable studios, including Black Rock Studio (a former subsidiary of Climax Group) and Junction Point Studios (Warren Spector's company).

Without question, Propaganda was the weakest among Disney's acquisitions. But it was a weak studio from day one; its most prominent release was the atrocious remake of the Turok franchise. Regardless, Disney must have seen some value in the studio or else it wouldn't have made the investment. Initially, that investment paid off as Turok went on to sell a million copies.

Since that time, Propaganda has only been given the chance to develop and release one other game: Tron Evolution. Propaganda's third game, Pirates of the Caribbean: Armada of the Damned, was cancelled last October.

Thus, in just two games and one eliminated project, Disney decided to pull the plug. This development was not entirely unexpected; after Disney's interactive entertainment division posted a massive loss, the company indicated that it was going to gradually walk away from video games. Of course, you can be sure that Epic Mickey's epic sales will keep Disney from walking away completely.

But Disney is not the first company in the game industry to put itself in this position. THQ Inc. (THQI) killed off three of its subsidiaries (which were once indie development studios) during the economic crisis in 2008. Pandemic Studios, which had a solid career as an indie firm for nearly 10 years, was closed less than 24 months after being acquired by Electronic Arts (ERTS).

Clearly, no corporation would close a subsidiary that was profitable, or one that it expected to be profitable in the near future. But these closures rarely occur without warning; more often than not, they are preceded by a severe drop in sales and/or or stock price.

For that reason, now may not be the time to buy or to sell. Rather, it should be the time to take a hard look at companies that make hasty acquisitions, and consider whether those investments will truly pay off – or become a punching bag whenever times get tough.

Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.