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Video game consumers’ ongoing transition to smartphones and tablets as the favored hardware platform continues to negatively impact Nintendo (NTDOY). The failure of Wii U coupled with lower expectation for 3DS dragged down shares by 17.0% ($3.06) to close at $14.90 on Jan 17, 2014.

Nintendo recently revised down the full-year 2014 guidance citing lower Wii U and 3DS sales in the international markets. Despite a price cut prior to the holiday season, Wii U failed to gain any traction in the U.S. and Europe. Management slashed unit sales expectation by 70.0% to 2.8 million from an earlier projection of 9 million.

Despite being in the market for a much longer period than Microsoft’s (MSFT - Analyst Report) and Sony’s (SNE - Snapshot Report) next-generation consoles, Wii U’s failure indicates growing preference for smartphones and tablets as well as lack of compelling gaming titles on the platform.

Since Nov 2012, Nintendo sold 5.3 million units of Wii U, compared with Sony’s 4.4 million PlayStation 4 and Microsoft’s 3.1 million Xbox One, which were released in Nov 2013. The fast growth in both the consoles was also driven by the availability of premier titles such as Battlefield 4 and Call of Duty: Ghosts.

Nintendo’s flagship 3DS sales also faltered by a significant margin in the U.S. and Europe, partially offset by strong growth in Japan. Per NPD data, 3DS was the top-selling hardware platform (in terms of unit) in U.S. in 2013. However, actual sales were well short of management’s expectations.

In Europe, France was the only country where 3DS reported strong sales. As per Nintendo, sales in other countries lagged management’s expectations by a massive range. Nintendo revised down 3DS unit sales expectation to 13.5 million from a prior outlook of 18.0 million.

These revisions are expected to negatively impact full-year 2014 revenues by 330 billion yen. Higher manufacturing costs, increasing advertising expense (up by 8 billion yen) and research & development expense (up by 15 billion yen) will negatively impact operating profit by 35 billion yen.

The dismal performance of Wii U has made its future uncertain. We believe that the comparatively better performance by 3DS might compel Nintendo to put Wii U on the backburner.

Nintendo should also rethink its policy regarding developing gaming titles for other platforms including Apple’s (AAPL - Analyst Report) iOS as well as Google’s Android in the near future. This will not only expand its market share but also help to revive its profitability over the long term.

Currently, Nintendo has a Zacks Rank #3 (Hold).

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