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Edited Transcript of G5EN.ST earnings conference call or presentation 7-Nov-17 10:59am GMT

Q3 2017 G5 Entertainment AB (publ) Earnings Call

Jan 9, 2020 (Thomson StreetEvents) -- Edited Transcript of G5 Entertainment AB (publ) earnings conference call or presentation Tuesday, November 7, 2017 at 10:59:00am GMT

TEXT version of Transcript

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Corporate Participants

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* Stefan Wikstrand

G5 Entertainment AB (publ) - CFO & Deputy CEO

* Vladislav Suglobov

G5 Entertainment AB (publ) - Co-Founder, CEO & Director

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Presentation

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Vladislav Suglobov, G5 Entertainment AB (publ) - Co-Founder, CEO & Director [1]

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Hello, everyone. Thanks for dialing in, and we're going to start on our Q3 report highlights. So we continued strong year-over-year growth in revenue and audience metrics. And the portfolio of our licensed and wholly-owned games grew at about the same pace. So we had growth in both parts of our portfolio, about the same rate of growth. We have released the first ever game based entirely on Match-3 mechanics and also developed completely by G5 and wholly owned.

Revenues went about 112% up year-over-year, and we saw continued growth in Asia as in the previous quarters. We had strong positive cash flow of about SEK 32 million, and cash on the account increased to about SEK 100 million. Monetization metrics, the monthly average gross revenue per paying user was healthy at about USD 40.1, one of the highest we've had.

With that, we can move on to Slide 3. And what I can say about the growth, if we look at year-over-year figures, we see that the growth has continued in Asia, and most of that actually in Japan. There was a continued trend for the increase of revenue coming through smartphones, and that is just the trend that we are riding in the industry. As the screens of the device continue to increase on average with the release of new larger models, we see more revenue come from those devices with larger screens. Our games are more enjoyable and better to play on larger screens. So there is a correlation between the size of the screen and the revenue per user, and that is a very clear correlation for us that we are seeing. So as screens go big and larger and larger on mobile phones, just over time, we naturally see more revenue come from users using those devices. And last year, we were able to cross the threshold where we started actively acquiring users on smartphones, and we could do that profitably. Thanks to the increase in the average screen size on smartphones.

Operating profit was at SEK 32.6 million, and that is EBIT margin of 12.2%, and this is actually after the write-down of SEK 1.8 million. So adjusted for that write-down, profit margin in the quarter was actually higher. And that just, again, demonstrates that we have expanding profit margins as the company continues to grow because of the leverage in the business model that we have.

We had some positive effect on earnings margin from other operating income expense items connected to warrant program and currency exchange rates. The write-down was connected to the free-to-play game -- a licensed free-to-play game that is not performing according to expectations. And it's -- compared to the scale of our operations, these adjustments may happen in the future, but they're not that large at this point.

Cash flow was at SEK 31.5 million. And the company is generating significant positive cash flow, and cash and equivalents amounted to SEK 98.7 million at the end of the quarter.

Let's move on to Slide 4. And we can see that there is a continuing trend for expansion of Asia in the breakdown of our revenue by geography. So the region is now responsible for more than 1/4 of our total revenues, 26% compared to just 11% last year. This is again happening as we continue to actively acquire customers, users in Asia, specifically in Japan, but also in China and South Korea. And we see very good traction there with our games, and it's working out real well, and we continue to see a lot of potential in the region for future growth. But the growth was actually across all regions. North America went up 61% year-over-year; Asia was the largest growth, 400%; Europe grew 112%; and rest of the world about 150% year-over-year.

And let's move on to Slide 5. You can see on this chart on the left that the quarterly revenue was a sequential decline from second quarter when expressed in Swedish Krona but internal reports actually show sequential growth in USD terms, about 6% Q2 to Q3. The exchange rates affected the result. And almost 70% of our revenue we actually receive in U.S. dollars and Japanese Yen because U.S. -- North America and Japan are our largest regions by revenue, and Swedish Krona has actually strengthened against both of these currencies quite considerably since the beginning of the year, but also there was another jump during Q3, which interestingly kind of reversed at the beginning of Q4. So this currency exchange situation has affected the result in the third quarter. But fundamentally, we internally saw the result of Q3 just continuing the trend of sequential growth in the company.

Free-to-play games went up by 121% year-over-year. As you can see unlockable games now account for less than 1% of total revenue. And I mean they're becoming absolutely insignificant. Last year, they were about 6%, now down to 1%.

The growth in the licensed games was driven by Hidden City game, our #1 by revenue as in the previous quarters, but we had very good pace of growth in our own portfolio as well. We entered Q3 with a really good momentum in the first month. But then probably because of seasonality and of some balance and monetization experiments we have made that didn't work out that well, we had a slower second half of the quarter, which affected the result for the quarter in whole. But as we go into the beginning of Q4, and we now have a whole month that is already past October, we have seen that our top grossing positions for most of our games went up considerably compared to Q3. And we had really good momentum there.

So another positive factor that we have seen in Q4, the beginning of Q4, is the reversal in exchange rate trends that are kind of helping us right now in terms of the revenue. So it's a great start of the fourth quarter. People reacted really well to the Halloween event. And once again, the chart positions for our main games were very often at all-time high positions. So we're excited about the Q4, and we will see how that plays out.

Let's move on to Slide 6 and look at our costs. So our admin costs increased in line with the growth of the organization and the platform just to maintain our operations and maintain the number of teams that we need. We have seen increase in research and development both in parts that are responsible for developing games and increasing the capacity there, creating new teams to be able to work actively on more games. And we needed to be able to support the games that we have in the market and also to make new games. As long as the game is actively developed and being updated, we have to keep a team assigned to it. So to start a new game, we have to create new ones. The only time where we can reuse the capacity that we already have is when we move some of our games to the harvest mode when we officially give up on them, and then we can use resources that were dedicated to that game to create something new. So this creates certain demand for new resources and new teams as long as we want to continue expanding our actively maintained portfolio of games.

The capitalization ratio was lower year-over-year. And it has to do with the fact that we also strengthened our platform team. The platform team is the one that's responsible for the cross-selling systems, the G5 Friends network and all the other subsystems and all the [coal] that helps us maintain the publishing platform and is game independent. So that part of development is not capitalized, and we see some increase there as the portfolio grows and the demands for that platform also grow.

Sales and marketing. User acquisition expenses stood at about 24% of revenues compared to 17% in 2016. And this is a higher level, not the highest we had, but it's a higher level and we continue to go on with user acquisition expenses even when we saw the slower second half of Q3 because we anticipate that we can fix the issues that we've had. And the users that we would acquire in Q3 will benefit in -- benefit us and the company's results in the fourth quarter, and that's pretty much how it played out for October. So despite kind of a slower growth in Q3 sequentially, we decided not to drop user acquisition expenses too much and stay at a high enough spending level, and this is paying off in Q4.

Let's move on to Slide #7 and look at our EBIT margin. So EBIT went up sequentially quarter-to-quarter and also year-over-year, of course. And we had some positive effects from currency exchange and intercompany loans. Yes, but then EBIT margin was at 12.2% compared to 10.4% a year ago, and we continue to see our profit margins expand. As we said many times, the business model has this leverage in it and the more -- the higher revenue we report, the higher should our profit margins go.

Let's move on to Slide 8 and look at the situation with the capitalization. So for a couple of quarters, we have this balance between capitalized expenses and amortization in the quarter. But since then, we've decided that we need more capacity in our R&D, and we need to develop more games and focus more on improving our existing games but also on starting new games. So we have been adding quite a bit of development staff throughout the year, and you can see the result of that. We are actually capitalizing more than we are amortizing. So capitalization, net of amortization, actually went up to SEK 5.1 million. And amortization went up a little compared to last year, but that wasn't enough to balance the increase in capitalization.

The total value of games on the balance sheet was up a little bit compared to last year. And you can see that because we released a couple of games, certain amounts have moved from the not released games free-to-play to the released games free-to-play. We have 0 value assigned to not released unlockable games, so we are done with that. There are no more unlockable games in our pipeline. And we have a small amount still tied to -- relate to the unlockable games, but that is a minor amount.

The amount of games -- the free-to-play games that are not released yet reflect the amounts put on the balance sheet when it comes to the games that we are developing now and that have not yet been released. As I was saying in previous calls, the absolute amount on the balance sheet is not a good indication of how many games we are developing. We have said before, we plan to launch 2 to 4 games a year, but we also try to be smarter about how much we spend on a game before we bring it to the market. We want to do it faster, we want to spend less money in the period before we release the game. So it does not necessarily mean that we're making less games than before or these games are of different level of quality. We can quite often reuse a lot of what we have developed before, and that really helps us keep costs under control when it comes to the development of new games in the stage before they are brought to the market.

So free-to-play games now represent 99% of the total game portfolio value. Once again, unlockable games are very insignificant at this point. And our -- the number of actively maintained free-to-play games is now up to 18 with the 2 recent launches.

And let's move on to Slide #9 and look at our cash flow. So cash flow from operating activities was SEK 47.5 million. We had a slight positive impact from changes in working capital. The company is generating significant positive cash flow as we are supposed to. We paid taxes in the amount of SEK 2.2 million, and the cash flow was at SEK 31.5 million.

The investing activities went up year-over-year. That is mostly the game development as we discussed. And some financing activities that you can see in the cash flow statements are related to warrant program. And during the quarter, we granted warrants in -- according with the general meeting decision, which expanded our warrant program to almost 100 employees, which I think is great for alignment of interest of the key employees and the shareholders.

With that, let's move on to questions and answers, if we have any.

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Questions and Answers

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Operator [1]

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(Operator Instructions) There are no questions registered, so I'll return the conference back to the speakers.

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Stefan Wikstrand, G5 Entertainment AB (publ) - CFO & Deputy CEO [2]

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Yes, we've got a question over e-mail, from [Marcus] that there was a goal communicated by G5 for Q3 to have month-by-month sales growth. It seems it did not happen and why? And also how come UA was reduced with this goal in mind?

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Vladislav Suglobov, G5 Entertainment AB (publ) - Co-Founder, CEO & Director [3]

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All right. Thank you for the question. I think I tried answering it a little bit, but let me explain again. The situation was that the -- initially, in Q3, we had very good growth momentum in the beginning of the quarter. But we -- the work on our games is ongoing at all times, and we try things, we try to improve things. And quite often, it works out, but sometimes things don't really go our way, and that's what happened in Q3. There was a little bit of seasonality as well. We found it more difficult to acquire new users towards the end of the quarter, but our main theory is that we also have made certain negative changes to the games. This did not affect our active user audience.

However, it affected the revenue they were generating. And because we still have to provide a reasonable profit margin in the quarter, we always try to do that, because of that, we had to reduce the user acquisition expenses slightly to provide that profit margin. But at the same time, we worked on updates that were supposed to fix things that went wrong. And those updates came out in the beginning of the first -- of the fourth quarter, and the situation has changed dramatically since then. And we had really nice momentum in Q4, in the beginning -- in the month of October. And we can see this continue into early days of November from what we can see. But we were able to identify new sources of user acquisition and the revenues working better for us and the audience seems to be more responsive to the holiday content.

So we see seasonality play here as well because the audience gets much more engaged with the popular holiday content like Halloween content, for example. So Halloween is usually big for us, and we've seen it happen in the fourth quarter again. And I think Q3 is a little bit slower in terms of -- and a little bit less engaging in terms of content that you can have in Q3, which is more generic and less tied to specific holiday events. And like I said, there were some changes that affected the games monetization negatively, which were fixed towards the end of the quarter, and then kind of these obstacles were removed for the fourth quarter. So I hope it answers the question.

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Stefan Wikstrand, G5 Entertainment AB (publ) - CFO & Deputy CEO [4]

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We also got a question on the -- any comments on potential for Pirates & Pearls?

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Vladislav Suglobov, G5 Entertainment AB (publ) - Co-Founder, CEO & Director [5]

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We are quite happy with the launch of the game, and we are seeing -- we don't see any red flags. We are seeing some positive signs. And obviously, the first thing we have to do is to bring up the number of levels that the game has. Because right now, it's -- it is at about maybe 10%, 15% of the amount of content compared to its largest competitors in the market. And that's what the team is focused on right now, and we hope to have news for you very soon in this regard.

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Stefan Wikstrand, G5 Entertainment AB (publ) - CFO & Deputy CEO [6]

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Yes. And we also got a question on the user acquisition cost per user. If we see some inflation in that number, so is that getting more and more expensive?

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Vladislav Suglobov, G5 Entertainment AB (publ) - Co-Founder, CEO & Director [7]

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I wouldn't say so. I think we are doing -- our UA team is doing an amazing job of scaling user acquisition efforts while keeping costs under control. And I think, overall, when you are increasing the amount of traffic you are buying, you're certainly seeing some increase, but it hasn't been in our trend that would affect anything for us, at least not yet. And I think that just speaks about the quality of the games that we have in our lineup and the ability to support marketing team.

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Stefan Wikstrand, G5 Entertainment AB (publ) - CFO & Deputy CEO [8]

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That was it. Over to you now.

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Vladislav Suglobov, G5 Entertainment AB (publ) - Co-Founder, CEO & Director [9]

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All right. Thank you for the questions. And if there are no more questions, then this is the end of our call, and thanks again for participating.