Perhaps The Worst Is Behind CD Projekt S.A. (OTCMKTS:OTGLF)

Office building with CD Projekt Headquarters. CD Projekt S.A. is a Polish video game developer, publisher and distributor based in Warsaw.

RobsonPL/iStock Editorial by way of Getty Images

As I discussed in my final article – and most articles that contact on gaming firms, I do not make a secret that I like gaming, and have accomplished so for round 30 years. When I’m not working my firm or writing, or doing lots of the different gratifying issues in life, I’m having fun with visible and auditory leisure within the type of video video games.

So, revisiting CD Projekt (OTCPK:OTGLY) (OTCPK:OTGLF) appears logical, regardless of the volatility within the firm that has prevented me from really investing within the enterprise.

While the corporate fulfills a really fascinating requirement – investing in one thing that you just love – that is not sufficient if the substance is unsure. As we’ll study, there’s some uncertainty about this “substance” nonetheless.

Let’s revisit the corporate.

Going again to CD Projekt

We first described the corporate in full in my final article discovered right here.

The latest set of outcomes would not precisely trigger me to have renewed, long-term religion within the firm. I laid out in my preliminary article that the corporate’s failure in Cyberpunk 2077 may have a far-reaching shopper confidence influence. As I see, this has been confirmed given how the corporate has acted since then.

It appears all however apparent at this level that the corporate has roughly deserted CP77 as a long-term venture. Sure, we’ll see updates and bug fixes for the sport to ensure prospects cannot declare they had been cheated. But will we see large quantities of content material, tv-shows, and spin-offs like for The Witcher 3?

Absolutely not. I’d be keen to wager cash on it.

No, the indicators out of CD Projekt is that the corporate is at the very least beginning to transfer on. As I’m writing this text, it is not that way back that the corporate launched data that they’re engaged on a fourth installment in “The Witcher” franchise, however with a special important character focus than the primary character up to now 3 video games.

There are a couple of different issues that additionally indicate to me that CP77 was an enormous wake-up name for the corporate, and that, at the very least implied, the corporate would not need to lose its picture as a consumer-centric gaming firm – one of many “good ones”. Which, previous to CP77, it was.

Chief amongst these indicators is that CD Projekt has deserted its personal improvement engine in favor of Unreal. CP77 was constructed utilizing an in-house, proprietary engine. Doing it this fashion provides you full management, but in addition will increase integration complexity by an element of a number of multiples. At least part of the difficulty with CP77 and why it wasn’t what we anticipated it to be was the issues with the in-house engine. CD Projekt is not the one studio scuffling with its personal improvement engines – Bethesda is one other studio well-known for the restrictions of its engine, that at this level is greater than 10 years previous.

So, a shift to Unreal will simplify issues and allow the corporate to deal with precise improvement, fairly than needing to ensure issues work. This is an efficient factor – nevertheless it’s additionally an indication of warning.

The means I view this announcement, in addition to the timeframe for the manufacturing, is principally equal to saying “We know we really screwed up, we need to make sure our next product is 100% solid.”

So, that is the way in which I view the latest data out of the corporate. To be clear with you, pricey readers, I need this firm to succeed. I like their merchandise. I’m a fan of the TV present, the spin-offs, all the pieces, actually. I’m the corporate’s greatest cheerleader – and in addition the corporate’s greatest critic after they screw up.

And 3Q21, the corporate’s newest quarter, was not a very good quarter.

In 3Q21 or 9M21, digital gross sales of CP77 had been the primary income driver. Reviews for the product have, regardless of all its points, been good. But if you happen to consider {that a} complete common of 76/100, which is the typical total for CP77 is what the corporate is in enterprise for, then you do not know CD Projekt.

CD Projekt desires to construct video games that go as much as 90-95/100 – just like the Witcher. Despite some analysts saying the present tendencies are successful, they’re little in comparison with what issues may have been.

While fundamentals by way of the corporate’s merchandise remained comparatively stable, the corporate’s publishing of CP77 and Witcher 3 for next-gen consoles has been delayed to early 2022. This postponement lowered the estimates and earnings for 2021. The firm additionally needed to considerably low cost CP77 to drive gross sales because of the product’s preliminary poor high quality.

Sales platform efficiency for GOG was destructive for 9M21, struggling destructive gross sales for among the firm’s Witcher spinoffs Thronebreaker and GWENT.

In 9M21, CD Projekt acquired two studios in North America: in March, 100% of Digital Scapes (8 staff, who beforehand labored on Warhammer and Dying Light, amongst others), which has robust know-how within the space of multi-player video games and is now CD Projekt RED Vancouver, and in October, 60% of Boston-based Indie studio The Molasses Flood, whose crew has developed amongst others e.g. BioShock (Take-Two), Halo (Microsoft), The Flame within the Flood (75/100 on common on Steam), and Drake Hollow (80/100) up to now. The Molasses Flood might be working by itself venture based mostly on one in all CD Projekt’s IPs.

CD projet M&A

CD Projekt M&A (CD Projekt)

Nothing on this quarter’s outcomes means that traders needs to be hopeful a couple of turnaround in money flows or revenues within the close to time period. The gross sales of next-gen will usher in a burst of gross sales of previous merchandise – however the present firm pipeline for 2022 and as much as at the very least 2024 appears to be like very skinny, with only a few new merchandise available on the market. That means the corporate should depend on continued gross sales of previous video games and content material for these previous video games. As we all know from historic outcomes, these gross sales are typically weak, particularly in comparison with robust product gross sales years.

CD Projekt stays an fascinating funding although. The firm has very motivated main shareholders within the three founders/co-founders who collectively personal 30%+ of the voting rights.

CD projekt Costs

CD Projekt Costs (CD Projekt IR)

Still, a gaming firm’s income and income stay largely on the massively profitable efficiency and launch of key merchandise.

CD Projekt unequivocally failed with its Cyberpunk 2077 product in comparison with what was promised, and what it could possibly be. I consider that and hope that the corporate has discovered its lesson right here that needs to be comparatively primary. Underpromise and Overdeliver.

The firm did precisely the alternative and truly delivered a product, that for consoles, didn’t really work correctly. This was a really unhealthy precedent for the corporate, and so they do must get better from this.

It additionally ought to imply that the corporate is “cheap”.

CD Projekt Valuation

So – the funding thesis for CD Projekt is straightforward. What you need is to purchase the corporate at a value that ensures a stable RoR when its subsequent product is launched.

Don’t count on large outperformance on an RoR foundation till that product is slated for launch – a couple of years. Don’t count on large yields both. The firm cannot afford it till then. In reality, as we transfer into heavier cycles of manufacturing, the corporate’s prices will enhance – check out the historical past to see how this could look.

My valuation technique for CD Projekt relies on DCF, NAV, and friends, in addition to taking a look at and weighting different analyst targets and historic efficiency. In DCF, I assume a standardized video video games world development quantity based mostly on the revenues for GWENT, Witcher, CP77, and the Monster Slayer recreation beginning in 2021-2022. This requires, based mostly on a WACC of seven.7%, an implied EV/Share of between 270-280 ZL per share, denoting a theoretical present undervaluation. However, I warning you that it is extraordinarily tough to account for improvement and manufacturing prices as we transfer from one part to a different – so low cost this by 10-20% or so.

Peers within the group are apparent. They embrace Blizzard (ATVI), Electronic Arts (EA), Take-Two (TTWO), Ubisoft (OTCPK:UBSFY), and others. These commerce at common P/E multiples of 21X. CD Projekt is at the moment at over 20X for a really low 2021 however often trades at a median of 15-18X based mostly on a extra normalized P/E, together with among the “sales years”. Still, on the idea of EBITDA, Book values and Yields, CD Projekt is at excessive multiples right here, and I would not name the enterprise overvalued right here.

For NAV, we apply a sector common a number of for the corporate’s important sector, and a straight DCF mannequin for the GOG phase. This brings us to round 9B ZL for the corporate – or simply south of 90 ZL by way of NAV/share, which is after all solely round half of what the corporate is at the moment buying and selling at.

Weighting this firm in any means besides if we assume a excessive weighting on the DCF provides us an overvaluation at at the moment’s share value. S&P Global confirms the uncertainty in pricing by a goal vary of 110 ZL all the way in which as much as 233 ZL per share. I consider the targets nearer to 100 ZL extra precisely replicate a long-term FV goal for the corporate. The S&P Global common is round 158 ZL/share. My personal goal weighs NAV heavier, and I’m at 120 ZL/share.

Still, even at S&P Global targets, the corporate is 7% overvalued, with all however 3 out of 18 analysts both at “HOLD”, “Underperform”, or “SELL”.

The image, due to this fact, crystallizes by way of valuation.

The increased above that 100-120 ZL you go, the extra you account for an outsized quantity of income and money circulate development on the corporate that doesn’t correspond to historic tendencies given its present manufacturing pipeline.

Once the corporate goes under 120, I consider that this firm can ship Alpha over a 5-year interval.

That’s why my PT for CD Projekt is 120 ZL/share.


My thesis for CD Projekt is as follows:

  • CD Projekt is an impressively-managed recreation firm that produces among the finest video games on earth. It’s additionally had a latest fizzle within the type of Cyberpunk 2077, and this can weigh on the corporate for a while but.
  • The firm’s pipeline is weighted in direction of past 2023, which signifies that any funding within the firm must be forward-looking with an at the very least 3-5-year timeframe.
  • I consider you may make a reputable case for a 100-200% RoR when the corporate’s subsequent blockbuster title releases if you happen to purchase the corporate at under 120 ZL/share. The additional under this, the higher.

This varieties the present foundation of my thesis.

Remember, I’m all about:

  1. Buying undervalued – even when that undervaluation is slight and never mind-numbingly large – firms at a reduction, permitting them to normalize over time and harvesting capital features and dividends within the meantime.
  2. If the corporate goes nicely past normalization and goes into overvaluation, I harvest features and rotate my place into different undervalued shares, repeating #1.
  3. If the corporate would not go into overvaluation however hovers inside a good worth, or goes again all the way down to undervaluation, I purchase extra as time permits.
  4. I reinvest proceeds from dividends, financial savings from work, or different money inflows as laid out in #1.

This course of has allowed me to triple my internet price in lower than 7 years – and that’s all I intend to proceed doing (even when I do not count on the identical charges of return for the subsequent few years).

If you are involved in considerably increased returns, then I’m most likely not for you. If you are involved in 10% yields, I’m not for you both.

If you, nonetheless, need to develop your cash conservatively, safely, and harvest well-covered dividends whereas doing so, and your timeframe is 5-30 years, then I is likely to be for you.

CD Projekt is a “HOLD” right here.

Thank you for studying.

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