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Grab your console: Investors bet on video game opportunities

Nicki Bourlioufas  |  08 Sep 2020Text size  Decrease  Increase  |  
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The video gaming industry is growing quickly and covid-19 has added to its momentum as becoming a key form of entertainment.

For investors, the opportunities are huge. However, with key companies largely listed offshore, actively managed or exchange-traded funds may be the best options for investors to get exposure.

Key global players include China’s Tencent (00700), NetEase Games (NTES), Activision Blizzard (ATVI) in the US and Nintendo (7974) in Japan. Outside of gaming, e-sports too is attracting large revenue streams. With global covid-19 social restrictions and lockdowns, these companies have seen significant share price appreciation since March lows, all outstripping gains in the NASDAQ over the year to date.

Thomas Rice, portfolio manager of the Perpetual Global Innovation Share Fund, which invests in gaming and electronic sports (e-sports) companies, says the best investment opportunities are global.

“Gaming is the fastest growing segment of consumer entertainment, and there are demographic tailwinds that will drive growth for decades to come,” says Rice.

“Newzoo, a specialist gaming market research firm, estimates that the global gaming industry was worth US$159 billion in 2019 and will grow to US$201 billion ($275 billion) by 2023, a rate of 8.3 per cent per year. How fast individual game publishers grow will depend on their [games] releases.”

Investors can get exposure to gaming by buying shares directly, investing in a global managed fund that holds gaming companies or through a dedicated gaming ETF. However, investors need to check whether the fund actually holds video games and e-sports stocks.

“You might be surprised that many global funds largely ignore this theme despite the structural growth potential,” says Rice.

The Perpetual Global Innovation Share Fund’s biggest gaming position is in CD Projekt in Poland, which Rice claims is one of the best game developers in the world. The fund also invests in NCSoft, a South Korean video game developer, Nintendo in Japan, where the company continues to exceed expectations around unit sales of the Switch console, as well as the US’s games company Activision Blizzard.

Damien Klassen, head of investments at fund manager Nucleus Wealth, says the reasons to invest in the sector are its huge growth, especially with mobile gaming.

“Historically, digital games were the preserve of PCs and then consoles. Today, mobile games generate almost twice the revenue of PC and consoles combined,” he says, adding that the smartphone market appears to be a complement to the PC/console experience rather than a competitor.

Finding local opportunties

On the ASX, there are few investment gaming options, says Klassen.

“If we exclude microcaps (under $50 million capitalisation), the only real candidate is Aristocrat Leisure (ASX: ALL), which provides entertainment from casino-themed games … At the microcap end of the ASX market, there are a number of companies that offer exposure to the gaming landscape. However, most of these are at a very early stage and are capital hungry. They should be regarded as venture capital stage opportunities, not dissimilar to listed biotechs where risk to capital is high,” he says.

“For a more pure-play exposure to this growth, investors need to invest in US-listed video game companies like Activision Blizzard, Take-Two Interactive (TTWO), and Electronic Arts (EA). For a more diversified exposure you can get access through Sony (SNE), Google, Apple and Microsoft.”

“Alternatively, for a more targeted Asian focus investors could target some of the big Chinese stocks like Tencent. But buyer beware. There is political risk in these stocks, as the situation currently unfolding with TikTok highlights.”

Morningstar analyst Neil Macker echoes this point, noting that US President Donald Trump has escalated the trade war with China through his banning of US transactions with the TikTok and WeChat apps and their respective owners, ByteDance and Tencent. This could also impact the larger established gaming companies.

“While the US President had been attacking TikTok, the addition of WeChat and Tencent to the ban was a surprise … While WeChat has a limited user base outside China, Tencent is the largest video game software firm globally by revenue thanks to its dominant position in China and its numerous investments,” Macker said in a research note.

“Tencent is the local partner for many Western gaming firms in China and Asia, including Take-Two, EA, Activision Blizzard, and Ubisoft. Given the regulatory requirement for a local partner in China, severing these relationships will not be easy and would likely cause the US firms to lose a large share of their revenue in the world’s second-largest video gaming market,” says Macker.

The VanEck Vectors Video Gaming and e-sports ETF (ASX: ESPO) will begin trading on the ASX on 10 September. ESPO will focus on investing in the largest pure-play video gaming and e-sports companies globally. The ETF invests only in companies that generate at least 50 per cent of their revenues from video gaming and/or e-sports.

Video gaming and e-sports names under Morningstar coverage

Video gaming and e-sports names under Morningstar coverage

Source: Morningstar Direct

E-sports category races ahead

E-sports too have also emerged as a new form of gaming events. These events are usually sponsored by the game publisher as part of their games' ecosystem.  Game developers, publishers and live broadcasting platforms all benefit from e-sports tournaments through higher gross game revenues and higher audience traffic to view the tournaments, says Colin Liang, Head of China Research for the RWC Emerging and Frontier Markets Team.

“Live broadcasting platforms have become the key distribution channel for e-sports and we see the highest growth coming from this segment. Major players include Twitch (owned by Amazon), Huya TV, DouYu, and Bilibili,” says Liang.

According to a report from PwC, the continued adoption of new technology such as 5G, and cloud-based gaming and e-sports will fuel strong growth in the gaming industry over the next five years.

“The rollout of the 5G network infrastructure coupled with advancement in cloud technologies is set to make gaming on a mobile device become ubiquitous,” says PwC in a report, Interactive games and e-sport. 

“While it is hard to predict if another game will dominate culture and generate as much revenue as Fortnite: Battle Royale, its success has been a huge contributor to increasing non-traditional gaming audiences and continuing the community-focused gaming trend,” the report says.

The issue of gaming is becoming mainstream too after Epic Games’ Fortnite was blocked on the Google Play Store, as well as Apple’s app store after Epic added an unauthorised payment system that avoided the tech giants’ 30 per cent commission on app purchases.

Epic’s response has been to sue Apple and Alphabet Inc in the US to get the game reinstated. The global headlines of the battle highlight just how important its outcome is to the video gaming and digital entertainment industry.

According to Perpetual’s Rice, it is unlikely that other video game providers will join this battle given the short-term cost of doing so.

“I think it’s a noble fight, but it’s unlikely that other video game providers will join this battle given the short-term cost of doing so. Epic Games is able to do it because they’re in a relatively unique position of both being highly profitable and being controlled by an individual, CEO and founder Tim Sweeney, who isn’t beholden to investors or financial markets,” says Rice.

 

Morningstar's Global Best Ideas list is out now. Morningstar Premium subscribers can view the list here.

See also Morningstar Guide to International Investing

 

 

is a Morningstar contributor.

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