Get Your Game On

 | May 10, 2012 | 11:00 AM EDT
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Gaming sure has changed since I was a kid. My old Intellivision seems positively Stone Age compared to online gaming experiences available today. There are games with graphics that make you feel like you are in a movie, games that use motion technology and actually give you a workout while you play online, and one even allows you to play thousands of games on your smartphone. Some of these games go viral in a matter of weeks -- the next Words with Friends -- bringing the developing company overnight success.

Old established names such as Electronic Arts (EA) and Activision Blizzard (ATVI) have to stay on their toes just to maintain their edge with new players like Zynga (ZNGA) coming out of nowhere.

Merger-and-acquisition activity in this space will be robust, as the large players consistently add new companies and titles to their portfolios.

Let's look at two speculative small-cap gaming stocks that appear interesting on their own, but also would make logical acquisition targets that could richly reward shareholders.

Majesco Entertainment (COOL) develops and markets video games for mass-market consumers primarily in the U.S. and Europe. Four reasons COOL is a solid high-risk/high-reward play at just over $2 a share:

  • Let's start with the basics. The stock is cheap at 63% of annual revenues, a low five-year projected Price/Earnings/Growth Ratio (0.47), and more than $20 million in net cash on its balance sheet (approximately 25% of market capitalization).
  • The Edison, N.J., company has momentum on a couple of other financial fronts as wells. It has gone from negative operating cash flow of $3.5 million in 2009 to positive cash flow of over $9 million in OCF in 2011. This trend is continuing in 2012. In addition, COOL went from few international sales in 2010 to having 25% of sales coming from international sources in its most recent quarter.
  • COOL has developed a niche with its Zumba Fitness titles, which now make up 77% of sales. This relationship has worked extremely well with the motion-sensing technology of Xbox Kinect. COOL plans to launch new interactive fitness titles with celebrity trainer Harley Pasternak, whose clients include Megan Fox, Lady Gaga and Robert Downey Jr. This core fitness-game business could attract acquisition bids from bigger players trying to fill out their product lines.
  • Majesco is spending $4 million to $5 million in 2012 to develop social and mobile games. It has a game for Facebook (Mini Putt Park) that will launch soon and will allow you to build a golf course and play on your friend's designs, which looks like it could be a hit.

Glu Mobile (GLUU) designs, markets and sells mobile games worldwide. It develops original games based on its intellectual property, such as the Big Time Gangsta and Contract Killer franchises. Four reasons GLUU has considerable upside from its current price above $4 a share:

  • The San Francisco-based company is growing rapidly. Revenues are expected to increase more than 25% in 2012 and more than 35% in 2013.
  • GLUU has consistently beaten earnings estimates, blowing past them for the last six quarters by more than 50%.
  • The company has nearly $30 million in net cash on its balance sheet, and projects positive net income of $0.17 per share in 2013.
  • GLUU Mobile is significantly below analysts' price targets. The median analysts' price target on GLUU by the seven analysts that cover the stock is $7 per share. It is also a regular target of buyout rumors.

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