Nintendo eats its Super Mario Mushrooms

I love a good investment megatrend. Your chance of success is so much higher when you invest in a growing industry rather than trying to find the last surviving fish in a shrinking pool.

Back in July, I wrote here that gaming was doing incredibly well over lockdown and that the trend may continue. Whenever a large group of people are introduced to something new, a percentage of them will stick around even after lockdown. If you are a subscriber to BDLive or Financial Mail, you can find the August cover story on the gaming industry that I wrote for Financial Mail’s supplement publication Investors Monthly here.

With everyone stuck at home, many people turned to gaming (mobile and otherwise).

Growth in gaming has been a significant driver of earnings for companies like Nvidia and Tencent. Microsoft has done well with the Xbox. The real test of course is whether the earnings growth is sustainable.

The latest company to update the market with level-up earnings is Nintendo. Reporting solid growth between the end of the global lockdown period and the end of September bodes well for investors.

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Animal Crossing and Switch

Among Nintendo franchises, most of us will know Super Mario and Pokémon, but there’s a new kid on the block: Animal Crossing. The game proved to be extremely popular in recent months, selling over 3.6 million copies in the September quarter.

Earnings were boosted by an easing of supply chain issues and the Switch console finding its way back onto shelves. Switch will have a tough holiday season competing against new PlayStation and Xbox products, which may be part of why Nintendo has incorporated some conservatism into the updated forecasts for the remainder of the year.


Revised earnings that shareholders will like

Unlike on the JSE, major global stock exchanges require management teams to provide earnings forecasts to the market. I truly wish that would become the case in South Africa, along with a requirement to report earnings every quarter.

Nintendo’s share price has had a strong run this year, up 35% for the year-to-date (in Japanese Yen). The company is worth ¥7.6tn which equates to over R1.1tn. To give a South African reference point, Naspers is worth over R1.4tn.

Nintendo’s latest profit prediction is up 50% from the previous prediction. Its revenue forecast is up significantly, as is the sales volume forecast for the Switch console (24 million units).

From a profitability perspective, Nintendo smashed analyst estimates. Revenue was ¥90bn above estimates and operating profit was ¥50bn higher than expectations. The company achieved an operating profit margin above 35% which is juicy by any measure.

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If we roughly annualise operating profit based on the latest quarterly result, Nintendo may be capable of ¥550bn – ¥600bn annual operating profit. This puts the company on a forward operating profit multiple of over 12x.

To give some context to that number, Facebook trades on a trailing operating profit multiple (i.e. last 12 months, not next 12 months of earnings) of over 32x. If we assume that Facebook will grow operating profit by 20% in the next year, that’s a forward multiple over 27x.

When you consider that a core pillar of Facebook’s strategy is gaming revenue, Nintendo doesn’t look overly expensive for the kind of numbers it is achieving. You’re paying over two times more per unit of forward operating profit at Facebook vs. Nintendo.

This is a really simplified analysis. The companies are not directly comparable, even though Facebook does earn gaming revenue. One is in USD and the other is in Yen which further complicates things because valuations do change depending on the underlying currencies.

However, it does demonstrate that there is a world beyond FAANG.

Perhaps people are chasing the wrong N?

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