Glu Mobile IPO Could Stick It to EA

The gamemaker could appeal to investors as a pure play in the mobile-application space.
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Taking a successful business model and transplanting it to a hot new platform can make for a promising investment. That seems to be the proposition behind

Glu Mobile's

(GLUU) - Get Report

initial public offering.

Glu, the San Mateo, Calif.-based maker of games for cell phones and other mobile devices, priced 7.3 million shares late Wednesday at $11.50 a share, in the higher end of the $10 to $12 a share range it had forecast. The company, whose stock will trade under the ticket GLUU, raised $84 million with the offering.

In an IPO market that has been friendly to some companies and cold to others, that makes for a warm welcome for Glu. The stock finished 7% higher on its first day of trading Thursday at $12.29.

The market for mobile games is nothing if not encouraging. According to market research firm Juniper Research, the global market for games on mobile devices will grow from $3.1 billion this year to $10.5 billion in 2009. That's a compound growth rate of slightly more than 50% a year.

Nearly every company that has a successful business that involves reaching customers on their PCs through the Internet is hoping for even more success on mobile devices.

Right now, bandwidth constraints and chip and memory capacity are limiting how sophisticated applications can be on mobile phones.

But those barriers are destined to be toppled, and companies are jostling for position under a rising new sun that promises to be bright indeed. And Glu is an early entrant in the race to become to mobile phones what

Electronic Arts

(ERTS)

was to PCs and consoles.

So Glu is playing the right game. The question then is, is Glu the best player? It's a question that Glu investors will need to consider, and one that has yet to be answered definitively.

Games for mobile devices differ from consoles and PC games in significant ways. They cost less to develop and distribute; they tend to have longer life cycles. They aren't wedded to a particular device like

Microsoft's

(MSFT) - Get Report

Xbox or

Nintendo's

(NYDOY)

Wii, and they don't necessarily become useless when a new generation of devices is rolled out.

Then there's the freedom to be played anywhere -- on subways, in airports, even in interminable business meetings while you pretend to be checking email. However, as Glu notes in its prospectus: "Once developed, mobile games may need to be customized, or ported, to more than 1,000 different handset models."

The Obstacle Course

The biggest obstacle to Glu's becoming the Electronic Arts of mobile devices is none other than ... Electronic Arts. The gaming giant bought Jamdat, the largest maker of mobile games, in December 2005. That puts Glu in third place, behind EA Mobile and Gameloft, owned by France-based

Ubisoft

.

But Glu's offering price values the company at 8 times revenue, compared with the price-to-sales ratio of 5 at Electronic Arts.

Like many video-game makers, Glu relies on licenses from well-known names for many of its popular brands. Of its top-five selling games, four --

Monopoly, Sonic the Hedgehog, World Series of Poker Texas Hold'em

and

Who Wants to Be a Millionaire

use licensed content. The fifth,

Super KO Boxing

, was developed in-house.

Such easily recognized brands are good for the top line. Glu's revenue grew 80% last year to $46.2 million after more than tripling in 2005. But it can add up further down the income statement. In 2006, Glu's gross margin was 67.8%, up significantly from 50% a year earlier.

Overall, 88% of Glu's revenue last year involved licensed brands, up from 81% in 2005. Such brands are especially useful in winning a spot on the tiny mobile-phone screens. Glu is marketing its games to 1 billion subscribers through 150 wireless carriers.

But it comes with its share of risks: Bigger companies like EA have their own libraries of titles they don't have to pay royalties on and pre-existing relationships with other brand owners. And those licenses tend to last between two and five years.

Licenses that expire this year made up 53% of Glu's revenue in 2006. Renewing them won't be a sure thing: Just last week, Driver Mobile ended its contract with Glu in favor of rival Gameloft. Ubisoft is also releasing Driver games for the PC and Wii.

Then there is the risk that seems to be mattering less and less to the IPO market these days: Glu has yet to post a profit. But it's getting there. Losses in 2004 exceeded that year's revenue. In 2005 the net loss was equal to 70% of revenue and last year it was equal to 27%.

Glu is a leader in a growing, young market. But it's not the strongest player. EA is bigger, better financed and better valued for now. Still, Glu may appeal to some investors as a pure play in the mobile-application space.

If the stock slumps in the wake of its IPO, it could offer investors a better opening to get in than the IPO did.