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Talking Tech is produced by the Progressive Tech Team of George O’Connor, Ian Robertson and Gareth Evans. Our aim is to bring you up to date with the tech news cycle each week. We comment via blog and podcast on the slings and arrows of the sector at a time of huge change.

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June 5, 2024

Video Games: Time to play?

Is it time to draw a line under 2023, an ‘annus horribilis’ across the US$211.2bn video games industry? In 2023 the video games industry buckled under the strain of weak demand as a soggy consumer environment led to a funding desert and cancelled game debuts, with inevitable consequences for revenue, jobs, executive reshuffles and industry-wide restructuring. If you invested £1 in UK video gaming stocks in January 2023, you would have 45p now. The macro remains fragile, caution pervades (Nintendo, EA negative guidance), but sector M&A (Keywords) and fledgling green shoots (Roblox, Frontier Dev) suggest a softly improving path. Note that March games spending was +4% Y/Y vs annual estimate -2% (source: Circana). The industry has been here in the past – recall the US video games sales crashed in 1983. To be sure, nervousness still pervades, competitor performance is mixed, but we explore why investors should be encouraged for as evidence of recovery builds, so too will valuation. In the segment we prefer tinyBuild.

Key investment considerations

The economy & the impact on consumer spending

The world in 2022 and 2023 was characterised by a weak global economic environment, rising interest rates and geopolitical tension. For the games sector, these translated to falling sales volumes, game debut cancellations, redundancies and business closures. The lesson was that the video games sector is not recession-proof. It too suffers from price pressure and discounts from an overheated market.

For 2024, the economic backdrop remains fragile, but the industry is showing some signs that it might be starting to recover, and like elsewhere in the tech economy, companies are now focused on profit and FCF generation more than growth.

The industry is still nervous – Nintendo, EA and Sega results

  • Nintendo released FY results (ended 31 March) on 7 May. Net sales were +4.4% Y/Y to ¥1.7tn (US$11bn) with gross profit +7.8% to ¥954.3bn (US$6.2bn) and operating profit: ¥528.9bn (US$3.4bn, +4.9% Y/Y) despite declines in hardware and software sales. Nintendo guided for a tough 2024, expecting a 20% fall in net sales for FY ended 31 March 2025. This follows the 199.7m Switch games sold in FY24 which was down 6.7% Y/Y, and in FYQ4 (ended March 31) Nintendo sold 1.96m Switch units down from 3.06m Y/Y and 35.72m games, down from 41.85m Y/Y. Positively, Digital revenue was +9.4% Y/Y to ¥44.3bn (US$286.6m) and Switch had 123m annual playing users, 116m Y/Y.
  • Electronic Arts Q4 results (period to 31 March) on 7 May featured revenue US$1.78bn -5% Y/Y but a net income US$182m, reversing the US$12m loss from last year. In addition, net bookings of US$1.67bn were -14% Y/Y. FY guidance was revenue range c.-6%, with net income dropping between 14% and 29% and Q1 net bookings expected to be down between 21% and 27%.
  • SegaSammy finals (31 March) on 10 May featured 20% Y/Y revenue growth to ¥468bn (c.US$3bn) as sales growth was fuelled by the Rovio acquisition. However, profit slumped 28% Y/Y to ¥33.1bn (c.US$212m) as the European restructuring sapped profitability. Sega’s flagship Sonic franchise declined 27% to 5.92m unit sales. Sega downgraded FY25 expectations, guiding to a 5% dip in sales with profit to increase by 18% Y/Y.


But consumer spending data suggests a recovery of sorts…

According to industry analysts Circana, US total spending on video game hardware, content and accessories grew 4% Y/Y in March 2024 to US$4.9bn. Mobile content spending grew 15% Y/Y, video game hardware -32% to US$391m. Mobile was 89% of the Y/Y growth in video game content spend.

…and some improving numbers reflect the recovery motion

  • Q4 results from Ubisoft (15 May) saw 27% sales growth to €2.3bn with bookings +34% Y/Y to €2.32bn, and EBIT of €313.6m reversed the €586m loss from last year. In addition, back-catalogue sales of €1.5bn were +49% Y/Y. The company is undergoing a cost reduction plan, with the FY23-24 fixed cost base of €1.6bn down €150m, but the main strategic push is to ‘grow recurrence’. Looking ahead Ubisoft flagged that Star Wars Outlaws would be released on 30 August and Assassin’s Creed Shadows would launch on 15 November. Also, it guided for Q1 bookings of €275m, +3% Y/Y.
  • Q1 results from Roblox (9 May) featured FCF +133% Y/Y, benefitting from capital expenditure being down c.50%. Revenue of US$801.3m was +22% Y/Y, with bookings at US$923.8m, +19% Y/Y.  Of note is the customer momentum, with average Daily Active Users of 77.7m being +17% Y/Y, and average bookings/DAU at US$11.89, +2% Y/Y. That said, Roblox did lower FY bookings guidance by c.4%.

Industry change & structure: Where are the continuing pressure points?

  • The traditional transactional independent publisher developer relationship is under pressure. It is an easy-to-replicate business model. Indie publishers used to be the gatekeepers to consoles and platforms like Steam, but this is no longer the case. As the number of mid-sized publishers exceeds the number of good games being developed, we have a saturated market with too many competing products. This has pushed the industry value towards distribution from creation (think of the ‘Spotify’ effect).
  • Game overcrowding and discoverability are two persistent issues making less ‘space’ for new titles.
  • Concentrated customer and third-party platform base. A small number of third-party platforms distribute games, and control consumer access to games. The platforms include Apple, Meta, Microsoft, Nintendo, Sony, Valve and Epic Games.
  • The business model structure may well continue to change. For example, there is much discussion about advertising-led models. To recover the costs of development, we understand that EA is looking at putting in-game ads into AAA games. ‘We’ll be very thoughtful as we move into that’, says CEO Andrew Wilson. Of note, Mr Wilson also announced that the development team for the upcoming Battlefield game was the largest in the franchise’s history.


Tamtastic – despite the shock of the 2023 decline, the industry sees recovery

According to data analysts Statista, the video games market is projected to recover and reach revenue of US$282.3bn in 2024, vs US$249.6bn in 2023, and then experience an 8.76% annual growth rate between 2024 and 2027, resulting in a projected market volume of US$363.2bn by 2027. While investors might balk at the bounce back, there is precedent from history.

US video games sales crashed in 1983. Suffering for saturation in the number of video game consoles and available games (many poor quality), plus waning interest in console games in favour of PCs, revenue in the home video game industry collapsed from US$3.2bn in 1983 to US$100m in 1985. The crash shook the booming video game industry and led to the bankruptcy of several companies producing home computers and video game consoles. The crash ended as a new generation of console video gaming reinvigorated the market.

By 2027, the number of users in the video games market is expected to reach 1,472.0m, as user penetration rate is predicted to increase from 16.9% in 2024 to 18.5% by 2027 (source: Statista). The average revenue per user (ARPU) in the video games market is projected to be US$215.20 in 2024. However, of the projections we note that China is expected to generate the most revenue, US$94,490.00m in 2024.

Note that the market is composed of a number of segments, namely:

  • Video game software firms (includes developers, studios, developer/publishers and publishers that release games for use with console systems, PC devices, tablets and mobile phones, as well as software accessed online). The distribution of physical software (eg, game cartridges or disks) is also included in this sector.
  • Video game consoles, hardware and peripherals firms (includes consoles, gaming-specific PCs, core processor technologies and gaming-specific peripherals such as game controllers, joysticks, headphones, gaming keyboards, etc).
  • Video game-related support services and activities including artistic, graphic and audio support firms, firms specialising in in-game marketing and monetization technologies and associated interactive media and streaming platforms such as Twitch.
  • Video game specific retail outlets focused on selling video games, consoles, hardware and peripherals. GameStop, RazerStore and Games Workshop are physical with e-commerce platforms Steam and others.
  • Other distinct, but video game specific, activities (eg, marketing or PR firms focused on the video game industry; specialised education providers related to the development of video games; trade and business associations).

Market backdrop: What derailed the video game industry?

In the US, two out of three people play video games. It is no longer just an entertainment medium; it is a lifestyle. Yet in 2023, the video game industry morphed from high growth to a level of disappointment that went beyond ‘speed bumps’ and growing pains, to a situation now where balance sheets are being repaired and management teams refreshed as the industry starts to recover. We can discern a number of distinct market phases from the early enthusiasm, a technology-enabled boost from new faster GPU hardware (remember Nvidia started here), but also the maturity of game playing and the development of multi-media formats and gaming morphing from solitary to team-based, and solitary also watching games attracting huge audiences (as participation moved from playing to observing – again we are reminded of the parallels with Hollywood). Video gaming is more family, enthusiast/fan and community driven, and yet the appeal to youth remains umbilical.

The recovery from pandemic highs – what does normal look like?

The industry stuttered into the pandemic suffering as next generations of Xbox Series X/S and PlayStation 5, which had been planned for 2020, were delayed. Yet, demand remained vibrant from games as players released from school and work used their newfound freedoms. The market enjoyed 20% Y/Y growth in 2020 as easily learned and highly social interactive games were popular; games like Animal Crossing: New Horizons, Fall Guys and Among Us. In addition, adoption accelerated with the introduction of Free2Play (F2P) and multiplayer online (MMO) games.

As the pandemic wore on, the industry suffered from the impact of the global semiconductor chip shortage on hardware manufacturing. The three major console vendors – Nintendo, Microsoft and Sony – were impacted by availability of core components, for the latter two limiting the launch of their new consoles. The shortage also affected PC gamers, while the shortage artificially raised prices and made it difficult to purchase newer components.

More recently, weak consumer spending coupled with changed habits (The Great Return) made for a difficult time. Funding dried up. In response, publishers held back new title releases, which in turn depressed revenue growth. For example, Devolver delayed new titles The Plucky Squire, Anger Foot, Pepper Grinder and Stick It to the Stickman. In addition, privacy-related concerns continued to surface in 2023, with studies showing that 90% of mobile games failed GDPR compliance. This was despite premium brands and ad networks increasingly insisting on using only compliant data. Ignorance from mobile game publishers means that millions of users have no control over how their personal data is used.

At tinyBuild, the challenged markets led to a lower contribution from platform deals and the under-performance of Red Cerberus and its then newly acquired indie games publisher Versus Evil. That said, the full extent of the downturn was better captured by competitor Embracer, which a year ago reported a catalogue of misses with game delays, weaker consumer demand, lacklustre reception for notable releases, a major strategic partnership falling through, impairments related to ongoing cancelled game development projects, pipeline shifts, weaker ROI in the PC/Console Games segment, a softer gaming market and cost inflation factors.

There are signs of a nascent recovery (but you have to look)

  • The aforementioned March spending data illustrating that US total spending on video game hardware, content, and accessories gained 4% Y/Y in March 2024 to US$4.9bn.
  • The acquisition of Rovio reminds that cheap valuations/IP are acknowledged by the industry buyers.
  • The latest crop of financial results (Frontier, Team 17, Devolver, tinyBuild and even Microsoft,) have outlook commentaries that signal a nascent renaissance, which is supported by demand-side and industry research.
  • The insertion of AR, VR and GenAI technologies offer the opportunity for unprecedented levels of engagement and realism. GenAI is already part of game development, but AI will overtake more than half of the game development process in the coming five to 10 years, according to Bain & Company. This next generation will enhance the game quality, game experience and expedite game release dates. GenAI also has potential for increased productivity.
  • As the sector suffered from a weak economy, a strengthening economy becomes supportive. This should result in a general positive ripple effect with a more accessible (mobile) internet, continued affluence (a crutch for pricing) and the availability of gaming as an affordable activity.


The changing competitive landscape, following the industry-wide restructuring

The video games market remains highly competitive, spanning big corporations producing AAA games through to independent development studios and publishers. Among the AAA grouping are Nintendo, Sony, Microsoft, Electronic Arts, Epic Games, Sega, Roblox, Ubisoft, Gameloft, Capcom, Take-Two Interactive, Square Enix, Tencent, Apple and Konami Games. According to Statista, Nintendo, Sony and Microsoft (including Activision) accounted for a c.30% share in the global gaming market. Among the ranks of the independents on the Steam platform are c.44,000 game developers, responsible for almost 70,000 games – yet the majority only release one game, with c.500 developers making it into double digits. The biggest indie studios include Supergiant Games, InnerSloth LLC, Devolver Digital and Team17.

Facing this are an estimated 3.38bn players globally (source: Newzoo Games Market Reports and Forecasts). Despite the AAA game multi-million-dollar investments, indie games continue to hold appeal. The indie segment has more creative freedom, can develop innovative concepts and has opportunities to produce unique games.

Beware…still a possibility of ‘wrinkles’

We note Grand Theft Auto VI (GTA 6) is one of the most anticipated games by Take-Two Interactive Software subsidiary Rockstar Games. On 29 March, Bloomberg reported that it is behind schedule and could be delayed until 2026, the reason being that Rockstar Games is discontinuing remote work in April and has made it compulsory to work from the office. The concern is that the developers may leave in response.

2023: The year of Microsoft – starts the recovery mode

One of the defining features of 2023 was the acquisition in October by Microsoft of Activision Blizzard, which is noted for games such as Call of Duty, World of Warcraft, Diablo, Hearthstone, Overwatch and Candy Crush Saga. The acquisition creates a new force multiplied in the games industry, with a greater opportunity to drive gaming into the fabric of daily lives, and in turn create a ripple effect through the industry.

At Q3 results (25 April), Microsoft announced that Xbox content and services revenue increased 62%, driven by 61 points of net impact from the Activision acquisition as it set third quarter records for game streaming hours, console usage and monthly active devices. Results were ahead of expectations primarily driven by Call of Duty. Xbox hardware revenue decreased 31% Y/Y. On guidance for the gaming segment, Microsoft expects revenue growth in the low to mid-40s, with c.50 points of net impact from the Activision acquisition, Xbox content and services revenue growth in the high-50s, driven by c.60 points of net impact from the Activision acquisition, with hardware revenue to ‘decline again year-over-year’.

The impact of GenAI

Given that 2023 was defined by black swan events, we are conscious of the impact of externalities. The biggest of these on the horizon is that there will be a range of GenAI-built devices to debut later in 2024, through 2025 and beyond. The early adopters will be the gaming industry, with a range of new titles that now only exist on a storyboard.

GenAI has the potential to revolutionise every aspect of game design, development post-production and play (ie, autoplay). It can automate game development, enhance graphics and visuals, and improve gameplay mechanics. With its ability to generate realistic environments and characters. With AI assistance, game developers can create breath-taking virtual worlds and life-like characters and elevate the overall visual experience for players. We believe that it has the potential to provide players with more immersive experiences as the technology allows for greater customisation of visual assets in video games. This should give players more control over the appearance of their characters and environments, providing a level of customisation that adds ‘personal touch’ to the game and thereby enhances player immersion.

This coming generation will feature a step change in user experience, which in turn could widen the audience, possibly increasing ARPU by bringing in a new generation of casual gamers and those who may not typically engage with traditional video games. Research by Bain (How Will Generative AI Change the Video Game Industry?) sees the impacts as:

  • Story generation and nonplayable characters (NPCs): Generative AI could enable limitless interactive stories personalised for each player. NetEase, a Chinese game publisher, has already announced that it will use generative AI to create an NPC chat function in the upcoming mobile version of its massively multiplayer online game Justice Online.
  • Game assets: As confidence in the tools grows, generative AI could be used beyond concept art, for example to fill in or even generate drafts of whole maps.
  • Live ops: While executives focus mostly on the ability to rapidly generate new in-game assets, such as personalised skins, there is a significant opportunity ahead for generative AI to improve community management and player support.
  • User-generated content: Giving players access to generative AI tools could allow them to play a more central role in the story, increasing engagement and inviting players to support the never-ending demand for content.

This comes about as PC hardware (next generation graphics cards) and software enhancements mean these tools become more intelligent assistants, anticipating needs, suggesting relevant documents, automating repetitive tasks and predicting deadlines. With context-aware software and voice control, we see a redefinition of a more immersive entertainment experience giving unparalleled visuals, advanced VR and AR headsets.

The data

Video Gaming share prices, since January 2023

Source: Company data, Yahoo Finance

Gaming revenue by category

Source: Statista

Gaming penetration rates by market

Source Statista


Valuation heatmap: Attracted to attractive ratios

Source: Company data, Yahoo Finance, Technology Investment Services

This communication is provided for information purposes only, and is not a solicitation or inducement to buy, sell, subscribe, or underwrite securities or units. Investors should seek advice from an Independent Financial Adviser or regulated stockbroker before making any investment decisions. Progressive Equity Research Ltd (“PERL”) does not make investment recommendations.

Opinions contained in this communication represent those of PERL and/or our affiliates at the time of publication and PERL does not undertake to provide updates to any opinions or views expressed. PERL does not hold any positions in the securities mentioned in this communication, however, PERL’s directors, officers, employees, contractors and affiliates may hold a position,  and/or may perform services or solicit business from, any of the companies or related securities mentioned.

Any prices quoted in our research are as at the previous day’s close.