video games, by the numbers - michael pachter, wedbush securities

Wedbush Equity Research 13/11/13 1

Video GamingState of the Union

Presented By:

Michael PachterResearch Analyst, Entertainment Software, Wedbush Securities

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certification and important disclosure information.


London Games Conference 2013

The video gaming market is BIG!!–The addressable market (North America and PAL) purchased $22.6 billion of packaged software in 2008 and an estimated $3 billion in digital product sales, for total sales of $25.6 billion.–Packaged goods sales declined to $18.4 billion in 2011, $14.2 billion in 2012, and $13.8 billion in 2013 (estimated), but . . .–Digital product sales have grown to approximately $13 billion (up over 300%), for total sales of $26.8 billion in 2013.

Source of all figures NPD Group and Wedbush Securities estimates


What has kept sales high?–More people play on a greater number of devices

•Device proliferation—PCs, consoles, smart phones, iPods and tablets•Non-traditional gamers augment the core—games played by EVERYONE•Innovations—DS, Wii, Kinect, Move, Wii U, tablets, smart phones•New products—3DS, PS Vita, Wii U, PS4, Xbox One, tablets

–Lower price erosion for packaged software•Higher starting price points—$60 is the new $50, and $70 is the new $60•Stubborn price points—weighted ASP console/HH drops 1.5%/year

–New forms of distribution•Smart phone/tablet games distributed by carriers, Android/iTunes Stores•Online games, including Facebook and mid-core•New channels—Ouya, Gamestick and PS Vita TV



The console installed base has peaked:–Different content delivery mechanisms drive digital migration

•PSN, XBLA, Wii Channel, App Store

•Digital sales are impossible to track—no voluntary reporting

–Conventional measures are less relevant•Few people will buy a game on multiple devices (console, handheld, mobile device, PC)

•More choices = lower tie ratios = NPD data may not reflect the big picture

–Nontraditional gamers have different purchase habits•25 year-old women trained by Nintendo

•45 year-old women trained by Nintendo

•65 year-old women trained by Nintendo

•Nintendo is losing market share, period



The next generation of consoles is probably the last:–Wii U performance to date is underwhelming

•Essentially a DS split into two parts (game pad plus TV)

•Not innovative enough to drive huge interest, but . . .

•It’s possible (but unlikely) that exciting new titles will reinvigorate growth

–PS4 is impressive as a gaming device•Graphics are phenomenal, and huge RAM makes innovation likely

•Multimedia features remain unclear, but CPU power allows huge improvement

–Microsoft’s Xbox One is impressive as a multi-media device•We’re sticking with our prior prediction of a built-in TV tuner, Kinect bundled with every console, integration of Skype and a lot more (eventually)



The next generation of consoles is probably the last:–At current sales rate, Wii U likely to sell 30 million units lifetime

•The Wii sold 100 million units LTD•We think that the Wii U is too similar to current generation consoles, and priced too close to likely launch prices for PS4 and Xbox One to thrive

–PS4 is likely to sell 100 – 120 million units lifetime•PS3 sold 73 million units LTD

•Pricing is $399 and launch is not a year late

–Xbox One is likely to sell 90 – 110 million units lifetime•Xbox 360 sold 75 million LTD

•Pricing is $499—too high relative to PS4, people don’t understand why they must pay for Kinect

•TV functionality a huge driver, with ultimate potential for an MSO subsidy



The next generation of consoles is probably the last:–Total next generation sales will likely be 220 – 260 million

•Last generation has sold 246 million units LTD

•Our prediction has Nintendo losing market share, Sony/Microsoft gaining

–Technology may not advance much in the next 10 years•3D and 4K/8K TV broadcast requires increased bandwidth

•Without TV broadcast, displays are not likely to change much

–Instead of new console launches, we expect frequent model updates•7 Xbox 360 models, 12 PS3 models (so far)

•This compares to one Xbox and two PS2s

•New models are likely to enhance multimedia (wireless cable box powering multiple televisions?)



What changed?–Social Games/Free-to-Play Games

•In the West, Nintendo trained FTP gamers

•Low barriers to entry—average cost is $50,000 – 500,000

•Constantly changing economies—balance is key to success

•Facebook gaming flat; non-Facebook gaming proliferating

–Mobile Gaming Platforms•Smart phones and tablets are cannibalizing dedicated handheld market

•Tablets are the new laptops—games getting more sophisticated

–Gaming in the cloud ? ? ?•OnLive an early flame out . . . but

•Sony’s acquisition of Gaikai may reinvigorate the cloud

•Single player cloud based games easy to implement



Digitally accessed games will continue to gain share–The migration to digital is an opportunity, not a threat

•If managed properly, digital revenues should supplement, not cannibalize•Nintendo expanded the market to non-traditional gamers

–Publishers should embrace new business models, not fear them•DLC averages 10 – 15% of packaged goods sales (for games with DLC)•Next generation hard drives are big, likely to become huge (except for Wii U), making full-game downloads likely; expect 1 – 2 TB drives in 2015•Smart phones and tablets train gamers or gamers’ parents—this is why Nintendo should consider placing GBA content on phones/tablets•Social/FTP games as an opportunity on any platform—EA mobile success

–Learn from others’ success/failures•World of Warcraft subscription model/Riot Games FTP model•Call of Duty multiplayer opportunity/failure?•Zynga lack of profitability•Clash of Clans/Hay Day success—$2 million per day/$1.5 BILLION exit?



On the positive side:–Consumer choice/demand is driving digital growth

•More consumers want games in bite-sized chunks•Free-to-play has the right price = $0.00!

–The casual/social opportunity is attracting new entrants•Low barriers to entry•Phenomenal success stories—Rovio, Supercell, King.com•Proliferation of phones and tablets creates a growing opportunity•Facebook made casual/social gaming socially acceptable

On the negative side:–Low barriers to entry keep some players away (Activision)–Free-to-play is “free”, making profits elusive for most



Looking into my crystal ball . . .–Consoles may not be relevant in 10 years

•Devices are increasingly more connected–Smart TVs might not be necessary at all; however . . . –The device connected to the TV must be smart—includes PC

•Storage will become less essential, if . . .–The cloud works (a big if—see SimCity launch), and–Consumers are willing to embrace the cloud

•Console gaming is increasingly multiplayer–1 million players in 2003, 6 million in 2007, 35 million in 2013

–Packaged goods will lose share to digital distribution•Still few, if any, day-date downloads•That will change with next gen Sony/Microsoft consoles



Looking further into my crystal ball . . . –The gamer demographic will continue to broaden

•Traditional gamers with high standards; non-traditional with low standards

•Games “everywhere”; some players may be device agnostic

•Smarter devices allow the same experience on multiple devices

–Games will evolve into multi-faceted options•Packaged goods will still exist for traditional gamers—used games are safe

•Full downloads will be offered of every game (or no downloads)

•Games may be sold in installments

•Microtransactions will become ubiquitous

•Subscriptions will become ubiquitous



Looking even further into my crystal ball . . .–Every game will have a digital component

•Traditional games may split single/multiplayer into two•Single player sold at high price•Multiplayer sold as a subscription or in installments—Destiny???

•Technology may allow same game progress on multiple devices

–The non-traditional audience will continue to grow•Today’s Nintendads are tomorrow’s Candy Crush moms

•Games are more socially acceptable than ever

–Non-traditional business models will continue to evolve•Advertising is likely to proliferate, especially in FTP games

•Better balancing of economies could drive higher revenues



PREDICTIONS . . .–Microsoft loses the next generation (until they cut price)

•The TV tuner and Skype are killer apps that people won’t pay for

•Both lend to subsidies from MSOs or ISPs—that changes the playing field

–Sony thrives in the next generation•Still playing catch-up, but gamer focus, Gaikai and content are advantages

–Nintendo software still king, but . . .•Console hardware sales will be challenged

•Handheld hardware sales will lose share to smart phones/tablets

–We won’t lose any more publishers to bankruptcy–We may see consolidation–The PC as gaming device will make a comeback



Thank you for your indulgence.

Questions?



ANALYST CERTIFICATIONI, Michael Pachter, certify that the views expressed in this presentation accurately reflect my personal opinion and that I have not and will not, directly or indirectly, receive compensation or other payments in connection with my specific recommendations or views contained in this presentation.

IMPORTANT DISCLOSURESThe analysts responsible for preparing this presentation do not receive compensation based on specific investment banking activity. The analysts receive compensation that is based upon various factors including WS’ total revenues, a portion of which are generated by WS’ investment banking activities.

WS makes a market in the securities mentioned herein.For a complete analysis of the companies mentioned in this presentation that are covered by the Research Department, please refer to the respective research reports.

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video games, by the numbers - michael pachter, wedbush securities

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