East Side Games is a Buy, says iA Capital

Looking for an undervalued gaming stock? Neehal Upadhyaya of iA Capital Markets has one for you in East Side Games (East Side Games Stock Quote, Chart, News TSX:EAGR). Upadhyaya initiated coverage on East Side Games recently with a “Buy” rating and $5/share target price for a projected return of 122.2 per cent.

Formerly known as LEAF Mobile, Vancouver-based East Side Games Group creates free-to-play mobile games through its studio network and partners on both iOS and Android while also licensing its Idle Kit technology platform to other game developers.

The company has built up a portfolio of original and licensed IP mobile games that include: Archer: Danger Phone, Bud Farm Idle Tycoon, Cheech & Chong Bud Farm, The Goldbergs: Back to the 80s, It’s Always Sunny: The Gang Goes Mobile, Trailer Park Boys Grea$y Money, RuPaul’s Drag Race Superstar and The Office: Somehow We Manage. In addition, East Side also has Doctor Who and Star Trek: Lower Decks super-marquee titles in the pipeline.

“We expect EAGR to continue building off its strong portfolio of games through several initiatives,” Upadhyaya said in her May 19 coverage launch. “Specifically, we expect the healthy pipeline of unannounced IP partnerships, along with the two super marquee games to be launched this year to help revenue grow organically.”

East Side recently released its first quarter financial results for the 2022 fiscal year, headlined by $35.6 million in revenue for a 24 per cent sequential increase and 55 per cent year-over-year increase, along with adjusted EBITDA of $3 million and a net income of $0.5 million.

The company ended the quarter with $6.2 million in cash, down from the $9.2 million in cash the company had at the end of the previous quarter.

“Given the slate of titles we intend to launch this year and early 2023, we expect to lean in and invest heavily into growth which will result in lower near-term EBITDA. We believe growth now will create a substantially larger cash flow stream once these titles mature and is an extremely attractive use of shareholder capital,” said Jason Bailey, newly appointed CEO of ESGG in a May 12 press release. Given our strong balance sheet, we are fully funded to achieve significant organic growth in 2022/2023 with existing liquidity available to the company and without access to equity capital markets. Since founding the business in 2011, I have never been so energized about the forward-looking growth prospects of Eastside.”

In terms of resources, the company has approximately $6.2 million in cash available compared to $2 million in debt including lease obligations, according to Upadhyaya, who also noted that the company has approximately 90 per cent of its $17.1 million credit facility available for potential M&A opportunity, though he expects funding for those activities to continue coming from its free cash flow.

With positive momentum from the opening quarter, Upadhyaya forecasts continued growth for East Side Games, setting a 2022 revenue target of $150.5 million for a potential year-over-year increase of 61.5 per cent. Looking ahead to 2023, Upadhyaya projects an increase to $208.7 million in revenue for a potential year-over-year increase of 38.7 per cent.

From a valuation perspective, Upadhyaya forecasts the company’s EV/Sales multiple to drop from the reported 1.9x in 2021 to a projected 1.2x in 2022, then to a projected 0.9x in 2023.

On the margins, Upadhyaya projects the company’s adjusted EBITDA to drop from $7.4 million in 2021 to $6 million in 2022 for an implied margin of four per cent. Looking ahead to 2023, Upadhyaya forecasts an increase to $12.5 million, with a slightly wider margin projection of six per cent.

In terms of valuation, Upadhyaya projects an increase in the company’s EV/EBITDA multiple from the reported 24.1x in 2021 to a projected 29.8x in 2022, then dropping to a projected 14.3x in 2023.

At present, Upadhyaya has the company trading at 0.9x his 2023 revenue target, which presents as a significant discount to the North American Gaming and Platform comparables at 3.7x, the Global Mobile Gaming and Platform comparables at 1.8x, and the IP-Based Gaming Companies comparables of 4.8x, presenting a beat on the overall peer group average of 3.7x.

“Management has shown its ability to responsibly grow the business through positive FCF generation, and given the Company’s robust Game Kit technology, superior organic growth profile of the business, successful underlying metrics of its games (ARPDAU, DAU, and DAU/MAU), and M&A upside, we believe the risk/reward profile is compelling at these levels,” Upadhyaya said.

East Side Games Group has seen its stock price go south to a 35.4 per cent loss in 2022, dropping off after an early peak of $4.25/share on February 1 and falling as low as $2.05/share on April 29.