UBSFF - Ubisoft: A Turnaround Is Around The Corner

Summary

• Ubisoft's core titles still held up despite downturn in the industry.
• The gaming market is expected to rebound.
• Mobile expansion is expected to drive up Ubisoft's revenue.

Intro

Ubisoft (UBSFY) is one of the world's biggest video game studios that has seen its stock price balloon, only to inevitably pop in the post-pandemic world. The gaming market contracted for the first time in 2022, and it did not help Ubisoft that it missed several of its release deadlines which greatly hurt revenue. However, Ubisoft’s fundamentals have stabilized, and the company is pursuing new initiatives for a turnaround. Furthermore, the stock is now trading at a very reasonable price after waves of selloffs. As a result, Ubisoft could just be one of the winners as the industry recovers.

Sound Fundamentals

In the second quarter, net bookings were 406.1 million euros, which is up 3.6% YoY. This is led by greater player engagement with its backlog and the fruition of revenue from its mobile partnerships. Specifically, recurring revenue, most of which comes from in-game microtransactions, increased by 21% YoY to 422 million euros. In addition, Rainbow Six Siege continues to outperform, with management reporting an 18% YoY growth in revenue with record-breaking DARPU (Daily Active Revenue Per User).

Losses increased notably, to 139 million euros. However, management reports that it's primarily due to increased R&D depreciation, as Ubisoft strives to become leaner as a company by focusing on a few large titles with a higher probability of success while scraping projects with lower ROIs.

Ubisoft’s revenue of $404.76M beat estimates by an impressive $128.88M, however, it's still a decline of 11.67% YoY. This isn’t surprising, given that Ubisoft is experiencing the same cyclical downturn as the rest of the gaming industry. Still, management is optimistic and estimates 400 million euros in operating income for FY 2023, which would mean a return to FY 2021 levels and a 14% YoY increase from FY 2022. This will be achieved through some major launches by Ubisoft, including Just Dance 2023, additional content for Rainbow Six Siege Year 7 Season 4, and most importantly from its collaboration with Nintendo with the release of ??Mario+Rabbids: Sparks of Hope – already receiving strong initial reception with a 97% OpenCritic recommendation score.

Furthermore, the video game industry is poised for a recovery in 2023. One of the biggest culprits behind declining sales in 2022 was the lack of new titles, which publishers strategically pushed back due to supply chain disruptions. With the chip shortage easing, console manufacturers can ramp up production and improve software sales. In fact, according to NPD Group , video game software sales rebounded in October of 2022 and increased 2% YoY to $4 billion. Finally, a report from Morgan Stanley found that consumers have historically kept spending on video games even during recessions, as it is a cheaper form of entertainment compared to a traditional night out.

Mobile opportunity

One of the biggest upcoming revenue drivers is Ubisoft’s mobile partnerships: it partners with a third-party publisher and brings its flagship triple-A titles to mobile devices. This is a high-margin business, as Ubisoft is not involved in the development process and merely sells licensing for its IP. From only 10% of Ubisoft’s total bookings, in just a year, mobile now represents 38% of all of Ubisoft’s bookings.

With Tencent as a major investor in the company (9.99% ownership), there is also another opportunity for Ubisoft’s mobile games to penetrate the Chinese market. Overall, Ubisoft’s entry into the mobile market represents a high-margin revenue driver and helps to diversify the company–picking up the slack from sluggish sales on PC and Consoles.

Acquisition target

Throughout 2022, there were continued rumors as to a possible acquisition of Ubisoft. Here is a summary of the rationale behind a possible acquisition.

Management stated that they were open to reviewing offers from buyers back in February 2022 Ubisoft attracted preliminary takeover interest from private equity firms like Blackstone and KKR The gaming industry has seen a massive increase in consolidation as M&A activity in the industry has broken records in the past year.

Although Tencent’s stake in the company has made an acquisition less likely, the possibility still exists. In fact, with its market cap halved to around 3 billion dollars, it's even more attractive as an M&A target. Still, this is a heavily speculative development.

Valuation

Since the stock peaked in January 2021, it has seen its price slashed by over 70%. Its P/S ratio is now at a meager 1.52x, well below even pre-pandemic valuations.

With the tailwinds present for the company, analysts are optimistic as well. In fact, the average price target is 34.2 euros, well above its current share price.

ESG Risks

In recent years Ubisoft has faced scrutiny and controversy related to its work culture, which many employees have dubbed as “toxic.” There were reports of sexual harassment, a misogynist work culture, and racial pay disparities. The company has acknowledged this point, disclosing it in their Universal Registration Document (equivalent to annual reports filed to the SEC in France) as a risk that could lead to loss of talent. This was a significant issue as 25% of employees had said they were victims or had witnessed misconduct, and 34% of those who reported an incident did not feel supported by management. As a result, the company has already fired many high-level managers and executives, and enacted reforms and the additional training within the company. Still, employees have said that the reforms were superficial and that the underlying toxic culture remains. It’s no wonder then that its turnover rate is so high, at 12% compared to competitors like Take-Two (8%), EA (9%), and Epic Games (7%). Axio reports that many of the top talents at Ubisoft have left and that it was a big contributor to the delays that Ubisoft faced.

Conclusion

Ubisoft has had a rough 2022, and there are still problems to be dealt with internally at the company. However, the market has overreacted and sent its stock price down to an attractive level for investors. With a plethora of tailwinds behind the company, like its mobile expansion, new titles, and the recovery of the gaming market, Ubisoft is due for a great turnaround. In addition, the company’s prospects of an M&A deal are still on the table, further adding possible upside potential for investors.

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