Description

UBISOFT (UBI FP)

Ubisoft is a video game publisher beset by a handful of solvable problems. Alli718 posted a good Ubisoft writeup back in December 2020, and the investment opportunity is even more attractive now. The situation today is one where all the bad news is known and none of the coming potential good news is being given any weight by the market. Pessimism is near an all-time high with Ubisoft, mostly for good reason, but that logic is backward-looking. Management execution in the past 2 years has been abysmal with ongoing game launch delays and numerous thorny cultural issues inside the company, but there are signs of positive progress on each of those fronts. There is very little optimism priced into shares while the company is heading into a prolonged season of compelling new game launches. The current share price offers an asymmetric opportunity. We believe the stock could more than double in the next 2-3 years as the company grows top-line faster than current expectations, operating margin expands due to higher in-game monetization for its top titles, and the multiple re-rates closer to its AAA publishing peers.

Long Thesis

Ubisoft is drastically undervalued compared to its game publishing peers due to management missteps that are in the rearview mirror. The company’s upcoming slate of new game launches is very attractive for the next 3 years, and today’s share price does not reflect any of the upside potential for these new releases. The negative narrative driven by Ubisoft’s game delays has earned the company a discounted multiple and lowered revenue/EBITDA estimates. These lowered expectations provide an attractive backdrop for an investment. We do not need perfect execution going forward, just improved execution from extremely depressed levels.  

Content drives video game companies, and Ubisoft is bringing some big-time titles to the market: Far Cry 6 launching in October 2021, Riders Republic in October 2021, Rainbow Six Extraction in January 2022, Mario + Rabbids Sparks of Hope in 2022, Avatar at year-end 2022, For Honor (likely) in 2023, Beyond Good and Evil (likely) in 2023, and Star Wars (likely) in 2023. Ubisoft has also committed to ongoing expansion of the Assassin’s Creed franchise through AC: Infinity. Perhaps we finally get Skull & Bones and Prince of Persia: The Sands of Time Remake released as well. A conservative view of units sold for each of these titles still leads to nice incremental revenue/EBITDA growth not currently imagined by consensus estimates.

Ubisoft is platform agnostic with a growing mobile effort around its most popular IP. The company has a massive content library with long-tailed, high-engagement games for all ages and all skill levels. Just Dance, Anno, and Rayman are not headline-grabbing videogames, but they are solidly profitable titles that engage a wide variety of player types. The company is adapting its monetization strategies and its game delivery approach in response to the ongoing evolution within the video game industry. Ubisoft wants to reduce its reliance on tentpole franchises and on $70 upfront game costs. The industry is clinging to $70 games, but the general trend is towards lower upfront commitment and higher ongoing engagement/monetization through ongoing services and game updates.  

Ubisoft is partnering with Tencent to launch mobile games in China. Ubisoft games have historically found larger audiences in Europe and in North America so this partnership could fuel unexpected growth in China. Ubisoft just launched Rabbids: Adventure Party in China on August 5^th. This is an exclusive game for Nintendo Switch, and it offers a window into new revenue streams in China for Ubisoft.

Ubisoft is a prime activist target. We would love to see management get replaced by a highly competent team that keeps its global gaming studios accountable for budgets and for launch dates. Ubisoft needs a strong CFO like Ruth Porat to drive value uplift through rational expense management and improved financial disclosures. But an immediate executive change is not necessary. We just need management to go from completely incompetent to slightly incompetent. It would be challenging to get worse from this point. Management can signal improvement to the investor community by staying committed to launch dates and by focusing on game expansion/customization for successful titles instead of spending time on projects with vague return profiles like its Discovery Tour video series.     

Cultural issues at Ubisoft are being resolved (albeit slowly). Personnel have been fired, voluntarily resigned, or have been reassigned within the company. The negative news cycle from this problem is closer to the end than the beginning.

Bear Points

1.      Management’s incompetence knows no bounds. Skull & Bones 8-year delay is endemic to the culture that values game perfection over game profitability. This executive team would view a highly-rated but unprofitable game as a ‘win’ and that is a big problem for investors.

a.      Reframe: management clearly values high-quality content and they are protecting high quality IP. Game delays eventually get resolved, and Ubisoft is loaded right now with tons of new content getting released in the next 2 years. The game launches for Avatar and Star Wars are notable because they will force Ubisoft to stick to the game launch date. The company cannot risk launching late and missing out on all the marketing dollars spent in support of the associated movies. Not every game is going to be delayed 8 years, and yet the market is valuing Ubisoft as though such game delays are normative instead of the exception. COVID caused real problems for game development across the industry and Ubisoft was no different. The company can reverse this negative news cycle with Far Cry 6 and with Riders Republic launching in October 2021.   

2.      Ubisoft over-experiments and over-diversifies instead of putting investment behind its largest titles.

a.      Reframe: The company is reimagining itself for where the industry is heading. There will be more free-to-play titles, more mobile-first titles, and increasing player customization. Ubisoft’s effort to provide players with enhanced cross-platform playability should be lauded, not derided. The transition away from $70 upfront games is going to be messy for the whole industry, and Ubisoft is not sitting idly while change happens to them. Management is taking steps to get the highest-quality content monetized through all avenues. The latest announcement about expanding the Tom Clancy universe with free-to-play title Tom Clancy’s XDefiant is just the first of many examples to come.  

3.      None of Ubisoft’s games carry volume numbers nor the cultural weight of games like ATVI’s Call of Duty or EA’s FIFA.

a.      Reframe: This makes Ubisoft more resilient and less reliant on major hits. The company’s titles have broad appeal from hardcore, professional gamers to complete novices. Ubisoft will move 20 million units across 2-3 titles instead of just 1 title. The key issue going forward will be Ubisoft’s enhanced support and monetization of these titles through upgrades and customizations, which have been lacking to-date.   

4.      The video game industry boomed during COVID and there will inevitably be a pullback in spending and shift to other forms of entertainment

a.      Reframe: Video game spending has continued to grow in 2021. COVID was not a one-time pull forward. It was a level up in spending for the whole industry as new gamers came into the fold and are staying and spending more. The console cycle has been slowed and elongated due to supply chain issues so PS5 and Xbox Series X installed bases have been suppressed throughout the COVID period. Console additions and improved mobile gaming options such as the next generation of smart phones, Nintendo Switch models, and Steam Deck will drive further game purchases in the next 2-3 years. Any publisher releasing strong content will do so into a growing marketplace, and Ubisoft is well-positioned with its lineup of games. AR/VR interest will continue growing as well, though any substantial impact is likely 2025 and beyond for Ubisoft.  

Valuation

We estimate slightly higher revenue and EBITDA projections than consensus estimates, but the real uplift will be in the multiple expansion as management delivers on its gaming schedule. The company needs to regain the market’s trust. We project price/volume ranges for the key gaming title launches, and we can get to low-teens growth with conservative assumptions around known titles. There is upside to those estimates if non-AAA and if free-to-play titles start to really take off. We think in-game monetization efforts with Assassin’s Creed, Rainbow Six, and Tom Clancy titles will improve as those gaming worlds expand and become permanent hubs with several spoke additions over time rather than annual, discrete game launches. There’s also the Tencent partnership, which will open up a very large market to Ubisoft titles. Looking 2-3 years out, the company can generate €800 million in EBIT and it should garner an 18x multiple, which makes shares more than a double from today’s €50/share price point. On the low end, assume Ubisoft only generates €450 million in EBIT (management guidance of €420-€500 million for FY2022) and garners a 15x multiple, that would put shares around today’s price. The downside seems fully priced in at these levels. We assume modest share buybacks over our investment horizon.

Catalyst

New game launches

Management changes

Improved in-game monetization