Thinking Points

  • Capcom (TYO: 9697) is just getting started with digital distribution.
  • With strong Intellectual Property (IP) like Street Fighter and Resident Evil, Capcom is well grounded.
  • If you missed the Activision and/or Electronic Arts digital distribution wave, you might want to consider looking at Capcom.

Why did I look at Capcom?

Today’s post will be almost purely qualitative.

Just about a year ago, I was digging into video game companies like Activision (ATVI), Electronic Arts (EA), and Take-Two Interactive (TTWO). Two key things I realized about these companies were that

  1. Everybody is moving toward digital distribution of video games.
  2. Every investor and analyst on the planet had this information, and the stocks for these video game companies seemed expensive.

Needless to say, my interest level for investing in the video game industry was somewhere between modest and non-existent at the time.

Fast forward one year and I came across a strange article on the Nikkei which mentioned a study that looked into the correlation between a CEO’s picture being on the company website and the company’s investment performance. The details of the study don’t really matter, but Capcom, a prominent Japanese video game developer was commended for its openness with investors. Having grown up playing Capcom games like Street Fighter, Biohazard (Resident Evil in the US), and Rockman (Megaman in the US), I couldn’t help but dig into them.

The first thing I looked at was an EV/EBIT comparison on YCharts:

Capcom’s EV/EBIT seems to go up and down about in line with Activision and EA over the past few years, except this year.

Maybe Capcom’s low multiple is justified by its slow adoption of digital distribution. Even today, of the 42.1 Billion yen video game console content revenues, only 10.9 Billion Yen (25.9%) comes through digital distribution (FY 2016). In comparison, there are foreign competitors with 40+% digital revenues.

Going Digital

Earlier, I mentioned that Capcom was commended for its openness to investors. The same goes applies to non-Japanese investors. They are one of the very few Japanese companies with a comprehensive English IR page.

Though the IR page is about as transparent as they come, there are always details that aren’t fully captured. For example, I ran into an IT Media article (Japanese) that described Capcom’s heightened focus on data analytics. According to the article, Capcom has historically been a silo organization, with each game title having its own silo. This means that each silo developed their own systems and had their own way of collecting data. What tends to happen in silo organizations is the inefficient use of shared resources.

In November of 2016, Capcom established an analytics team, which is primarily tasked to standardize infrastructure for online games. This is important for many reasons, but one clear positive I see is better data on gamer behaviour.

Video game development used to end after product launch. However, with the rise of the internet, game devs can add more content and fix bugs after launch day. Over the past 10 years or so, the video game industry has become rather creative with monetization. Concepts like micro transactions and downloadable content are commonplace now. Capcom has been slow to adopt the new ways of video gaming; and that is changing.

With strong Intellectual Property (IP), it’s never too late

I’m not ashamed to admit that I’ve been in tune with the nerdy gamer scene for most of my life, and that includes my entire adult life minus the past two years. I can tell you firsthand that if you go to any nerdy convention, like Comic-Con, you’ll see passionate nerds dressed in Capcom IP, mostly of the Street Fighter variety (Ken, Ryu, Chun-Li, etc).

Sure, Capcom’s IP is not Nintendo-level strong, but people in the gaming scene recognize most Capcom IP. Here are some of the strongest Capcom IP:

  • Street Fighter
  • Biohazard (Resident Evil)
  • Rockman (Megaman)
  • Devil May Cry
  • Monster Hunter

Perhaps, even those not into video games have heard of the movie series Resident Evil. According to Box Office Mojo, the Resident Evil series takes up 3 of the top 10 spots for highest lifetime grossing video game adaptation movies.

The bottom line

As I write this post and reread what I’ve written so far, I realize almost everything is qualitative. My intention here isn’t so much to provide an investable idea, but rather to introduce an interesting company. Though a little late to the game, Capcom is in an interesting transitory period. The company is just starting to focus on digital – and I think there’s a lot of opportunity here, especially given Capcom’s well grounded IP.

Capcom’s EV/EBIT is ~9x (the chart above shows YChart EV/EBIT for Capcom’s ADR). One important thing to keep in mind is that the company set record level operating income for FY2017. Still, I can’t help but think that this company is priced for mediocrity. If you missed the Activision and Electronic Arts digital distribution wave, it’s time to look at Capcom – they’re just getting started.

Kenkyo Investing
Kenkyo Investing

Kenkyo Investing applies a value investing approach to Japanese equities, providing insights that are often unavailable to non-Japanese speakers.