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US equities
Everything you wanted to know about video
games but were afraid to ask
Chief Investment Office GWM | 23 April 2019 7:24 pm BST
Robert Samuels, Consumer Discretionary and Media Analyst Americas, robert.samuels@ubs.com; Reid Gilligan, Equity Associate Analyst Americas,
reid.gilligan@ubs.com
• Although growth is slowing, the video game market
continues to expand driven by macro tailwinds, new titles
and in-game expenditures.
• Mobile devices eclipse consoles and PCs as the primary tool
for gaming.
• Revenue model is in flux with the rise in popularity of free-
to-play games like Fortnite.
• Subscription gaming services and cloud gaming are likely to Fig. 1: 2018 video game revenue by region
disrupt the industry over the next several years. Latin America
Europe,
4%
Middle East &
Africa
The video game industry has seen explosive growth over the past 22%
few years driven by favorable demographics, a growing addressable
market, improving product quality, and faster internet speeds.
Asia-Pacific
We expect these trends to continue although competition within 49%
the space, and for share of the consumer's wallet and time, is
likely to make share gains for individual game publishers more
challenging. Furthermore, the popularity of free-to-play games such
as Fortnite has altered the industry's revenue model, which creates North America
both opportunity and risk for game makers. 25%
Before jumping into some of the most frequently asked questions Source: Newzoo, UBS
around gaming, there are several macro trends to understand that
help expand the landscape. The success of current video games
relies on fast and dependable network speeds as more consumers
are playing online. Today, the majority of video game players live
in China, the US, Japan, and Europe—areas of the world where
access to high broadband speeds is prevalent. As access to reliable
broadband becomes more widespread, the number of potential
gamers increases correspondingly. This also applies to the global
smartphone market, which is expanding the potential number of
consumers given the growth of mobile gaming.
This report has been prepared by UBS Financial Services Inc. (UBS FS). Analyst certification and required disclosures begin on page 8.
UBS does and seeks to do business with companies covered in its research reports. As a result, investors should be
aware that the firm may have a conflict of interest that could affect the objectivity of this report. Investors should
consider this report as only a single factor in making their investment decision.
US equities
1. How big is the video game market? Fig. 2: Global video games market
Consumer spending on entertainment is rising and the gaming sub- (USD billions)
segment is expected to experience the fastest growth. According $160.5
$174.0
$148.1
to market intelligence firm Newzoo, global video game revenues $134.9
$121.7
reached roughly USD 135 billion in 2018, an 11% increase over the
prior year. While the gaming market is likely to grow at a slower
pace than it has over the past several years, revenues are forecast
to grow 8.4% annually from 2019 to 2021. We see a number of
secular tailwinds that will help support growth over the next several
2017 2018 2019E 2020E 2021E
years, including a growing installed base, increased engagement,
Source: Newzoo
and in-game expenditures. In terms of users, Newzoo estimates that
there were almost 2.5 billion gamers worldwide in 2018, mainly
located in China and the United States.
2. I've seen my kids playing games on their phones and Fig. 3: 2018 Global gaming market device
tablets. How big is the market for mobile gaming? breakdown
The installed base mentioned above consists of consoles (Xbox, Console
28% PC
Playstation, etc.), PCs, and mobile. While the console installed 25%
base has certainly increased, the mobile gaming audience has Boxed/Downladed PC
Browser PC
grown exponentially thanks to the prevalence of smartphones,
USD 134.9 bn Tablet
increased quality, and free or very inexpensive games. In fact, Tablet
10% Smartphone
mobile gaming revenue surpassed USD 60 billion last year. Looking
Console
forward, Newzoo estimates that mobile sales will grow at a 12.6% Smartphone
37%
annually compounded growth rate from 2019 to 2021 to USD 91.2 Mobile
47%
billion and be over 50% of global video-game revenues.
Source: Newzoo
The growth of mobile gaming is vital to the overall health of the
industry given the global installed base of smartphones compared
to consoles and PCs. With already fast internet speeds and the
coming of 5G, mobile users have access to games with astounding Fig. 4: Percentage of revenue by device over
graphics, almost on par with Xbox or PC. In fact, Activision Blizzard time
announced that the newest version of its popular Diablo game will 23% 22% 21% 20% 19%
be released on mobile and not PC. Apple is also diving deeper into 4% 3% 2% 2% 1%
the mobile gaming market with the launch of Apple Arcade later 27% 28% 28% 27% 27%
Boxed/Downloaded PC
this year. Thousands of games are available on both the iOS and 10% 10% 9% Browser PC
10% 10%
Android app stores, with a majority of them being free. Free games Console
Tablet
make money by selling advertisements within the game or incorpo- 36% 37% 39% 41% 43%
Smartphone
rating in-game purchases. The vast number of free games is a sign
of the low barriers to entry in the mobile space. 2017 2018 2019E 2020E 2021E
Source: Newzoo
3. I've owned a Playstation 4 and Xbox One for several years
already. When can I expect to see a new console?
We are currently in the eighth generation of video game con-
soles, which encompasses all consoles released since 2012. This
includes Microsoft's xBox One, Sony's PlayStation 4, and Nintendo's
Switch. While the original consoles were released in 2012 and 2013,
upgraded consoles such as the PlayStation 4 Pro and the Xbox One
X have been developed and released in recent years, which is still
considered part of the 8th generation. Console cycles have histor-
ically lasted five to eight years but with continued additions and
upgrades we expect this cycle to last slightly longer than those in
years past. The 8th generation console installed base ended 2018 at
roughly 125 million units, up from 89 million in 2016, which lends
credence that there are a growing number of consumers to spend
money on games.
2US equities
The market generally believes this generation of consoles will be Fig. 5: Facebook's Occulus
coming to an end in the next year or two, with expected announce-
ments of the 9th generation to occur in 2019 and a release date in
2020. We expect the 9th generation to hold more competitors than
simply the popular Xbox, Playstation, and Switch. Virtual reality and
cloud streaming will also play a role. As the hardware continues to
improve and the price points come down, we expect to see a rise in
VR headset popularity. PlayStation VR and Gear VR have so far been
a success for Sony and Samsung, respectively. Facebook's Oculus
is also gaining traction especially with the Oculus One, which does
not need to be hooked up to a computer as in previous iterations. Source: Facebook website
4. Who are the biggest players in the video game industry?
Given economies of scale and M&A over the past decade, the video
game market is dominated by a small number of companies. In fact,
the ten largest companies comprise greater than 50% of the overall Fig. 6: Top public companies by gaming revenue
global market. There are currently three publicly traded video game 25
publishers in the US: Activision Blizzard, Electronic Arts and Take- 20
Two Interactive.
USD (billions)
15
5. How do video game companies make money?
10
Historically, companies sold games for an upfront price in the USD
30-60 range. However, over the past few years, the industry has 5
trended towards a more recurring and diversified revenue stream.
0
This transition occurred as (1) games became much more social
and (2) the focus shifted towards digital downloads (rather than
purchasing a physical disc), in-game purchases of downloadable 2017 2018
content (DLC), and microtransactions (see Fig. 7). According to Source: Newzoo
SuperData, global in-game purchases totaled USD 87 billion last
year, up more than 11% from 2017. Finally, digital revenue made
up 73% of total revenue for the major US video game makers com- Fig. 7: Revenue tree
pared to 37% in 2009.
The ability to offer new maps, characters, achievements, and more Video
Game
helps extend the lifespan of a game because it offers new and
Publisher
exciting opportunities for the fan base over a longer period. Digital Revenue
purchases and transactions also enhance game profitability. The
margin on a digital download and DLC is approximately in the
mid-60% range while microtransactions are even higher at approx-
imately mid-80%. While mobile is 100% digital downloads and PC
is greater than 90%, console digital downloads are still in the 50%
range, meaning there is still room for growth in the digital download Digital Physical
space. A large reason for the lower console percentage is due to · Digital download · Disc
the fact that physical discs are a popular gift giving item and the
memory limitations.
6. Why do I hear my kids talking to other people while they
play video games? I thought they were playing by them-
selves? DLC (downloadable content) Microtransactions
Looking back at popular games of the past, including Super · Season pass · Characters / costumes
· Expansion pack · Loot Boxes
Mario Brothers, Legend of Zelda, and Doom, gamers predomi- · Maps · Emotes / Dance moves
nantly played by themselves. Today, gaming has become much more Source: UBS
social given the live services enhancement to gameplay that enables
players to compete with friends and strangers in real time. Increased
user engagement with more social aspects increases widespread
popularity and extends the lifespan of a game. In addition to playing
with people, gamers can also watch others play on a live stream,
most commonly on Amazon's Twitch platform and Alphabet's
Youtube. As a quick explanation, people can stream their game-
3US equities
play on Twitch for anyone to watch for free, while making money
from advertisements, paid subscriptions, and donations. According
to Newzoo, people spent 8.9 billion hours watching live Twitch
content in 2018, up from 6.3 billion in 2017.
7. My child wants to become a professional video game
player, is this a good idea?
In short, no. There are thousands of people attempting to make
money by live streaming themselves playing video games or by
playing in competitions, meaning it is exceedingly difficult to stand
out from the crowd. However, that does not mean it is impos-
sible. As an extreme example, the most popular Fortnite player, Tyler
"Ninja" Blevins, earns over USD 500,000 per month. While this level
of celebrity is not easily earned, it speaks to the huge amount of
money people are willing to spend not just to play a game, but
simply watch someone else play it.
eSports is another way to make a career out of gaming. We believe Fig. 8: eSports sources of revenue
the eSports phenomenon continues to offer a significant oppor- 500
450
tunity for video games. eSports, or competitive video gaming, has 400 +34.3%
USD (millions)
350 YoY
taken the world by storm and is now the fastest growing spectator 300
250
sport in the world. Given the demographics that eSports cater to 200 +41.8%
YoY
— millennials and gen Z — and the global reach of gaming, we are 150
100
+14.8%
YoY +22.4% -3.0%
likely still in the very early innings of growth. According to research 50
0
YoY YoY
firm Newzoo, the eSports industry is projected to generate more Sponsorship Media Rights Advertising Merchandise Game
& Tickets Publisher Fees
than USD 1 billion in revenue this year and grow to the size of
Source: Newzoo
approximately USD 1.65 billion in 2021. Compared to the USD 138
billion video game software industry, it is relatively small but has a
big impact by driving expanded popularity and attachment.
Technology consulting firm Activate estimates that there were 270
million global fans of eSports in 2016 and projects that number to Fig. 9: 2018 largest eSports games by total com-
grow to 495 million in 2020. Already, eSports has a larger audience bined prize pool
45
than two of the major sports leagues in the United States (MLB 40
and NHL) because of the global audience. So what are the most 35
USD (millions)
30
popular eSports games? Dota 2 (PC) is by far the most popular 25
eSports game with a whopping combined USD 41.26 million prize 20
15
pool in 2018. Others include Fortnite, Overwatch, Call of Duty, and 10
Counter-strike. While there are individual competitions throughout 5
0
the year, there is a growing number of leagues. Blizzard's Overwatch
League (owned by Activision) is near the top of the list with 12
teams competing for a total prize pool of USD 3.5 million. Players
have to be at least 18 years old and salaries range from USD 50,000
to USD 150,000 — not too shabby for playing video games for a Source: esportsobserver.com
living. Interestingly, these teams are branded and localized to a geo-
graphic area with team ownership ranging from Bob Kraft (owner
of the New England Patriots) to Kroenke Sports and Entertainment
(owners of the Los Angeles Rams, Denver Nuggets and Arsenal FC). Fig. 10: Global eSports audience growth
Just recently eSports organization Gen.G, which fields eight profes- 700
sional eSports leagues, announced that it has raised USD 46 million 600
People (millions)
500
from investors including actor Will Smith and Los Angeles Clippers
400
minority owner Dennis Wong. 300
200
8. It sounds like eSports could make a good investment. How
100
can I invest? 0
We have received questions on how to invest in eSports. As a 2017 2018 2019E 2022E
short answer, it is very difficult to invest in a pure play eSports eSports Enthusiasts Occasional Viewers
company. Game publishers only have a small portion of their Source: Newzoo
revenue coming from eSports leagues. The platforms used to watch
4US equities
eSports such as Twitch, Youtube, Ustream, and Livestream are
all owned by Amazon, Alphabet, IBM, and Vimeo, respectively.
Amazon, Alphabet, and IBM are not eSports investments and Vimeo
was purchased by IAC. If investors are looking for a eSports focused
investment, they likely have to look in the private markets for the
time being.
9. What makes a good video game?
The importance of strong intellectual property in the video game
industry is paramount to success because of the highly compet-
itive landscape. Titles with a strong following like EA's FIFA and
Activision's Call of Duty franchise offer a more secure revenue base.
Another opportunity we see are companies with strong IP re-making
popular games of the past with live services in order to capture the
nostalgia of millennials and baby boomers. Games that target older
generations can also capture consumers with higher disposable
income.
10. What are some trends that are likely to disrupt the video
game industry over the next several years?
Subscription services and cloud-streaming of games are two trends
that we are keeping an eye on.Think of how Netflix turned tra-
ditional media on its head. Subscription services entail paying a
recurring fee for access to a number of games. For example, EA's
subscription service 'EA Access', costing either USD 5/month or USD
30/year, offers subscribers the ability to purchase new titles at a dis-
count and the ability to download over 50 additional games.
With continued advances in technology, the video game industry Fig. 11: Google's Stadia controller
is on the cusp of turning into a streaming model rather than the
downloading or purchasing of disc-games. In fact, Google recently
unveiled a new cloud gaming service named Stadia that is expected
to launch this year. While we don't know how much it will cost or
what games will be available at launch, consumers will have instant
access to play games on laptops, desktops, TVs, tablets, and phones
without having to purchase a console or download the game.
Google is using its data centers across the globe to facilitate high
resolution streaming, something that has been a major sticking
point when attempting to stream games in the past. Also, Stadia
Source: Google's website
will be directly tied to YouTube, meaning a consumer can share
their own gameplay to YouTube, watch others play and facilitate
playing alongside professionals. By creating the service with "pro-
fessional streamers" in mind, YouTube is taking steps to compete
with Amazon's Twitch on a larger scale. Google is launching its
own game development studio and will allow others to build their
own titles and offer it on the platform. As for the user experience,
Stadia enables cross-platform gameplay. The only physical piece of
this new platform is a custom controller (see Fig 11), the company
built but isn’t required as it will support other game pads as well.
While Google launched their own game development studio, it
takes a lot of time and money to develop high quality games. In
the near term, we expect Google to form partnerships with current
developers such as Activision Blizzard, EA, and Take Two Interactive
to entice consumers to join Stadia because of the loyal fan-base
certain games have. Google was the first to announce their cloud-
gaming platform, and may be the first to launch, but there is
also speculation that other firms may be building their own cloud
streaming service.
5US equities
Amazon already has the largest footprint in the video-game
streaming world with Twitch, and may want to build upon it while
also using their expertise in cloud-computing. Although Microsoft
doesn't have a streaming service, the firm is best positioned to
combine their Azure cloud prowess with original software content
creation.
In the near term, strong IP remains essential to draw a large enough
fan-base to drive revenues, which bodes well for major game devel-
opers. The total addressable market (TAM) may increase as well with
the decreasing consumer barriers to entry such as expensive con-
soles and PCs. Over the long term, investors should be wary of the
increased competition between game studios for the consumer's
time and money.
11. What are Apple's plans in the video game space? Fig. 12: Apple Arcade
Apple recently announced Apple Arcade, a subscription gaming
service that it plans to launch later this year, offering subscribers
access to over 100 exclusive games. The company has yet to
announce the cost of this new service. The collection of games
available will be updated monthly and will include original releases
from renowned creators such as Ken Wong, Will Wright and
Hironobu Sakaguchi. Some reports suggest that Apple is set to
spend over USD 500 million on the new service. Currently, Apple's
App store revenues are dominated by free-to-play games that make
money from advertisements and microtransactions. Apple Arcade's
focus on premium games without the pay-to-play mechanics may
provide a welcome path for gamers as the mobile segment con- Source: Apple Website
tinues to grow.
12. My kids are obsessed with Fortnite. What do I need to
know about this game and its popularity?
Fortnite, which is produced by Epic Games, revolves around a simple
'Battle Royale' format where gamers search for weapons and armor
to fight one another and build structures for protection all while the
world they are playing in becomes smaller and smaller until there is
only one player left standing. The game is free to download, simple
to play and its cartoonish-style has made it a cultural phenomenon,
with almost 250 million registered users to date since launching in
2017.
While the game is free to play, Fornite makes money by selling
V-bucks, which cost USD 9.99 per 1,000, and can be spent on
customization items such as emotes, or dance moves, and skins,
which are outfits and accessories. Gamers can also purchase battle
passes, which unlock various challenges and rewards for the 10-
week season. According to Nielsen's SuperData tracking arm, the
game made nearly USD 2.5 billion in sales last year. Quite an accom-
plishment given the fact that this game is free to play. Finally, the
game's popularity has actually expanded the number of gamers,
with a notable increase in female gamers.
6US equities
13. So what are going to be some of the must-have games
this year?
In 2019, there are numerous popular titles that have been
announced to the public. More games are in development and
could be announced later, especially with the launch of Stadia and
Apple Arcade, but some titles we know are coming is as follows:
2019 Video Game Releases
Game Title Publisher
Anthem EA
Apex Legends EA
Borderlands 3 Take Two
Civilization VI: Gathering Storm Take Two
Crackdown 3 Microsoft
Crash Team Racing: Nitro-Fueled Activision Blizzard
Days Gone Sony
Far Cry New Dawn Ubisoft
Gears of War 5 Microsoft
Halo Infinite Microsoft
Madden NFL 2020 EA
Mortal Kombat 11 Warner Brother Games
Pokemon Sword and Shield Nintendo
Resident Evil 2 Capcom
Sekiro: Shadows Die Twice Activision Blizzard
Star Wars: Jedi Fallen Order EA
Super Mario Maker 2 Nintendo
The Legend of Zelda: Link's Awakening Nintendo
Source: Company data
We certainly expect to see developers launch games around the
2019 holiday season, similar to last year with big-name releases such
as Red Dead Redemption II, Call of Duty: Black Ops 4, and Battlefield
V.
7US equities
Appendix
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reflect his or her personal views about those securities or issuers; and (2) no part of his or her compensation was, is,
or will be, directly or indirectly, related to the specific recommendations or views expressed by that research analyst
in the research report.
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geopolitical conditions and other important variables.
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8US equities
Appendix
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9US equities
Appendix
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