Thunderful Group AB (THUNDR) Earnings Call Transcript

Hi, and welcome to Thunderful Group's Q3 presentation. My name is Anton Hoof, and I'm an equity analyst here at Redeye, and I will moderate today's Q&A session. [Operator Instructions] And with that, I leave it over to Martin and Per.

Thank you very much, Anton. So the agenda for today is that we will be presenting our Q3 highlights and financial results, but perhaps more important, also share more details about the strategic restructuring program that we announced this morning. And my name is Martin Walfisz. I'm the CEO. And with me today, I have Per Alnefelt, our Interim CFO. And then after the presentation, we will end with a Q&A session moderated by Anton, as Anton said. So if we look at the Q3 highlights and begin with the financial highlights, I will briefly summarize the numbers here, and then Per will go into a bit more detail. But our net revenue came in at SEK 74 million, and that is a bit lower than last year and primarily due to us not having any platform deals revenue in this quarter. However, once again, I am happy that good performance in transactional sales is helping to keep the revenue up. Our adjusted EBITDA is minus SEK 2 million, and our EBIT came in at minus SEK 69 million, obviously explained by quite substantial depreciations and write-downs in the quarter. We invested SEK 36 million in capitalized ongoing game projects developed by our internal studios as well as with third-party studios. Cash flow from our operations was minus SEK 36 million for the quarter, which is similar more or less to the cash flow we had in Q2, the operational cash flow we had in Q2. And our available liquidity as of end of September was SEK 120 million, which includes a bank credit facility of about the same amount. So moving to our operational highlights and starting with the publishing segment. So SteamWorld Heist II was released in early August, and it's received great reviews, over 80 in Metacritic and 95% on Steam. But despite being well reviewed, it has lacked commercial success, and it is performing below our expectations. It's proven difficult to reactivate the fan base of the previous game and to reach new audiences. ASKA was launched in early access just at the end of Q2, I think it was June 20, and it has continued to perform well during Q3. It is developed by an external third-party studio Sand Sailor Studio, and they are doing a great job to prepare the game for full launch next year. And again, like I said on the previous slide, I want to -- I'm very happy that our transactional sales are improving. And transactional sales is when our -- when we sell our games directly to consumers through online stores. So it's really the backbone of our business. And finally, I'm happy to mention that we announced 2 games at GamesCom in August. Both are coming out in 2025. The Eternal Die is a rogue-like spin-off from our great Lost in Random universe. And Reignbreaker is also a great-looking rogue-like game and developed by our Studio Fizbin in Germany. Moving on to our Co-Development & Services segment. The great teams at Coatsink continue with our close collaborations with Meta and other global partners. And they worked on the VR game Batman: Arkham Shadow, which was launched in October and has a fantastic 85 score at Metacritic. So well done by Coatsink and other studios who helped develop that game. On our services side with Robot Teddy, we're happy to mention that our partner, Doborog recently announced Clone Drone in the Hyperdome for launch in mid-December on Meta Quest and Steam VR. And that game is a much anticipated VR exclusive follow-up to the indie hit Clone Drone in the Danger Zone, which was first released in 2017. All right. That was my brief update on the operational highlights. Now we're moving into a few more details on the financials. Per, take it away.

Okay. Thank you, Martin, and hello, everyone. So let's get straight into the numbers for the quarter and a bit of repetition here. But net revenue amounted to SEK 74 million compared to SEK 83 million in Q3 last year. The drop is mainly due to lower sales in the publishing segment. Adjusted EBITDA for the quarter amounted to minus SEK 2 million compared to SEK 32 million last year. And again, this drop is mainly explained by the revenue drop itself, lower capitalization of development cost. I think you heard me saying that last time that we are not anymore capitalizing for other expenses apart from our own staff costs, which wasn't the case last year. And the released premium fund last year, which boosted the EBITDA numbers at that -- in that period. EBIT amounted to minus SEK 69 million compared to minus SEK 10 million last year, and that includes the write-downs, as Martin mentioned. We have written down one game, and we have also 2 games that were recently launched. And therefore, they are in their sort of highest depreciation level on the depreciation curve. We do depreciate 33% of the total value of the game in the first quarter after launch. So let's move to the next slide, please, which is about the headcount development. At the end of Q3, the number of FTEs, which is short for full-time equivalents accounted for 315 people, and that was a reduction of 14% compared to the same quarter last year and a drop by 25% compared to Q4 2023. And again, this is in line and even a bit below the restructuring program as was communicated in January this year. Let's take the next one. Moving into the segments and starting with the publishing segment. Net revenue amounted to SEK 44 million, which was SEK 11 million below last year, and this was mainly due to lack of platform deals, which was -- we had quite a bit of last year. Adjusted EBITDA amounted to minus SEK 8 million, which was a drop by SEK 18 million compared to last year. This was primarily due to lower revenue, lower capitalization of development costs and higher royalty costs, but this was partly balanced by lower personnel costs in the publishing segment. EBIT amounted to minus SEK 72 million and the larger deviation versus last year on the EBIT level is due to the write-downs of capitalized development cost of SEK 9 million for 1 game that I mentioned. And the 2 games that were in the first depreciation period, and that represented SEK 19 million of depreciations in those 2 games only. And moving over to Co-Development & Services segment. Net revenue increased by SEK 2 million to SEK 31 million. So there is a minor growth in this segment on the revenue level. Adjusted EBITDA amounted to SEK 6 million, which was SEK 70 million below last year, and this is primarily explained by higher staff costs as well as the release of provisions last year. EBIT for the segment was SEK 3 million, also SEK 17 million below last year. Let's move over to the cash flow. And cash flow from operating activities after changes in working capital amounted to minus SEK 36 million, out of which SEK 28 million relates to discontinued business. which included the net working capital price adjustment of approximately SEK 40 million, which relates to the sale of the Bergsala and Amo distribution business in Q2. The investments of SEK 36 million was primarily capitalization of development costs, but also about SEK 7 million in publishing rights. Among the financial activities, repayments of earn-outs was the most significant item amounting to SEK 58 million. And the last slide from my side, the available liquidity at the end of Q2 amounted to SEK 120 million, which includes unused credit facilities of SEK 100 million, and net debt amounted to SEK 23 million at the end of the quarter. That's all that I was going to mention. So thank you, and back to you, Martin.

Thank you, Per. So now let's move into talking about the strategic restructuring program that we announced this morning. So I have a couple of slides to share and add some more details. So first of all, just as a reminder, Thunderful is divided into the 2 segments we talked about previously. The publishing segment covers all publishing activities, but also includes all our development studios that are not working on co-development. And then, of course, the Co-Development & Services segment primarily focused on co-development for global clients. So to be clear, the strategic restructuring that we announced this morning only impacts the publishing segment. And to give a bit of color and detail on the current situation, why have we decided on implementing another restructuring program. So we have a number of reasons. First of all, our revenues this year have come in below our expectations. They haven't improved as much as we hope they would. We are seeing important improvements. But looking at the cash flow, it is not increasing fast enough. And in addition, we have some delays in game projects that are putting a clear pressure on our short-term liquidity balance. So in essence, our forecasts internally show that Thunderful is not currently on a state or in a path towards a sustainable future. And when we made a more detailed sensitivity analysis, meaning we've made different business modeling with changes in our revenue forecasts, we see that there is a clear risk of moving into negative liquidity, which we, of course, want to avoid. So we have worked on a number of mitigations to avoid this situation. So obviously, working hard to increase our revenue levels. That is an important part, but it hasn't been enough. We have also looked at various financing opportunities, both on a company level, but also on finding co-development work for some of our teams. But unfortunately, nothing has materialized in time. What is left now really is to reduce our cost side and also rethink our investment strategy. So that's why we have this strategic restructuring program. And one of the things we have considered quite clearly when it comes to this program is the balance between internal versus external development and realize that we need to do a strategic shift. And I want to go into a bit of detail into our thinking about this. So if you look at the pros and cons, if you start with internal development, so of course, sole IP control, owning and controlling the IP is a big pro in internal development. We also get all the revenue. We don't need to share the revenue with any external partner. And also very important is the long-term expertise building that over time, we build up more and more expertise in our internal teams. So all of that is great in internal development, but we also have a number of cons and a number of negatives. And the first one is, of course, that internal development means a lot of fixed costs. And those are particularly affecting cash flow negatively during off and on-ramping between projects when we have people in the company that don't necessarily have anything very concrete to do and to work on. And another concern with internal development is that it typically takes longer time to market. We need to include all the concepting and the prototyping of such projects. So those projects typically take a lot longer time than externally developed projects that we can sign. So if we look at external projects, so the pros that we see them, first of all, there is obviously many, many, many more teams and studios available outside of Thunderful. So there is a big amount of potential opportunities to pick up. It also allows us to be a bit more diverse and plan a bit more around our portfolio and also allows us for go-to-market flexibility when it comes to picking the right titles into the right launch slots. So if we know that, okay, we have an available launch slot here, mid or end of 2026, we can look at what is available from third-party developers and see if something fits our slate. Then of course, there are some negatives connected to third-party development as well. First of all, we're not the only publisher out there. So there is competition for the opportunities. Then also revenue sharing, the royalty component so that when we release a game with a third-party developer, we first recoup our investment in the actual development of the game, but then we share everything that comes after that. So obviously, we don't have revenue sharing in our internally developed titles. And then with external titles, the rights for the IP are typically limited or not entirely ours at least. And sometimes they are entirely kept by the development team. So to summarize this very simply, internal development is typically -- it requires typically higher investment levels upfront and thus increases the risk profile, whereas external development is lower on upfront investment levels and thus has a somewhat lower risk profile. So how this will play out is that we will increase and start signing external third-party games again. So we have been -- even though we haven't signed any title recently, we have been scouting and have good contacts with very interesting teams. And the idea is to start signing new titles again soon. And as mentioned, even though we are downsizing our internal development studios, we will still retain some internal development capacity. And those projects, we will typically have slightly bigger budget or somewhat bigger budgets for our internal studios compared to the projects we signed with external studios, external partners. And also one thing that we will be looking at to mitigate the risk level of internal studios is to see if there are interesting IP acquisition opportunities from external developers. Sometimes you have a good studio, external studio, they make a great game, but they're not so interested in making a sequel. Those kinds of opportunities could be potentially interesting for Thunderful to pick up and see what we can do when we add more production values and budgets to those projects. Yes. Okay, so the effects of the restructuring of the publishing segment. So the immediate change, and I'm repeating myself a bit here, but we are decreasing our upfront risk profile and refocusing the organization on third-party publishing. This means that we will have redundancies of between 80 and 100 people and primarily in our internal development studios. We will also do some additional overhead reductions and cost optimizations and then, of course, increase our investments in third-party publishing and sign new titles for launch in 2026 and beyond. And then as I've been saying, I think, in every quarterly report, an important part of improving Thunderful is to make continued improvements in our operational processes and structures and methods. The expected outcome of this is, first of all, that the announced titles we have for 2025, they will still be launched as planned. We will have a release cadence of 4 to 5 games per year, which is similar to our plans before as well. And as mentioned, we will keep some internal development capacity, but we will decrease the average investment levels per game that we produce. And we really need to improve our average return on investment for our upcoming releases. That is the foundational shift that needs to happen for Thunderful. The financial impact of this restructuring. So we estimate one-off costs for the program -- for implementing the program of about SEK 25 million to SEK 30 million, one-off write-downs of between SEK 220 million and SEK 240 million. We will have annual cost savings of about SEK 80 million to SEK 90 million. But then as part of this strategic shift, we will increase our investments in external publishing rights to SEK 30 million to SEK 40 million. So on balance, this will improve the cash flow with about SEK 50 million per year. Okay. So key takeaways. Q3 overall, I would say, has been on track. But obviously, the sales of SteamWorld Heist II has been a bit disappointing and below our expectations. Again, saying -- I said this many times before, but our transactional sales continue to improve. Very happy to see that. And then the strategic restructuring of the publishing segment will shift our investments to third-party publishing and in that sense, derisk our investment strategy. And then, of course, we still need to improve the organization. We need to improve everything we do so that our games that are coming out in 2025 are both creatively fantastic, but not least also commercially successful. All right. That was the presentation. So moving on to the Q&A with Anton.

Okay. Thank you for that. And yes, we'll start with the updated strategy and the restructuring program. If I understood it correctly, the pipeline that is shown in the Q3 report is not impacted at all? Or can you elaborate on this?

The announced titles, so the titles that don't have a code name, they are not impacted, but we will have an impact on other lines of the titles in the report.

Okay. But those titles are most tilted in late 2025 or 2026 or?

Yes. The biggest impact is on titles beyond 2025.

Good. And you also mentioned here in the presentation, but maybe if you can expand on the balance going forward in terms of external versus internal IPs.

Yes. So I mean, Thunderful right now has a big focus on internal IPs and internal development. So that is what needs to shift so that we invest comparatively a lot more in third-party development and less in internal. I don't know if that really answers your question.

I mean does third-party games equals to external IPs? Or can it also be internal IPs that you shift to external studios?

Good. Okay. Now I understand. Well, yes, so I think third-party games will typically -- IPs from those developers. But sometimes we might find opportunities where we have one of our internal IPs and find a great developer to do that. So I would say both. But on balance, I think it will be a little bit more on IPs developed by the external third-party partner.

And also, if I understood it correctly, you're going down in size in terms of project value in external studios. And also when it comes to internal projects, you mentioned EUR 2 million to EUR 4 million now?

Yes, correct.

And I mean, if we -- moving on to the report, we see that the publishing segment continues to have some headwinds, and we see that SteamWorld Heist II did not meet your expectations. I mean, how does this outcome and the new strategy impact the SteamWorld franchise going forward?

Well, the SteamWorld franchise, I still think it's a fantastic franchise, but obviously, we are disappointed that the last 2 launches haven't been commercially successful or at least not to our expectations. So it is definitely something that we are reviewing internally and trying to figure out what is the best approach for the future.

And on the positive note, you highlight ASKA, which has continued to perform well. Can you give some more flavor here? I mean, what are your expectations of the title going forward?

Well, I think we were very happy with the early access launch in June. And yes, it has continued to perform. And we and Sand Sailor Studio are gearing up for a full launch sometime next year. And I think this is the kind of game that can live on for many, many years. So yes, we have high hopes that it's going to continue attracting players and generating nice revenues for many years to come.

So just to make it clear, they are not impacted by today's news.

They are not. They are an external development studio, so they are a perfect example of what we want to do more of.

Good. And I mean, if we take a broader view, do you think it will be easier to release games in 2025 compared to 2024? If so, why?

I don't think -- it's never easy to release games. It's -- this industry we operate in, it's -- there is a lot of content available. So I do think that we will see an effect of the overall industry challenges and see sort of a downward pressure on amount of games coming out. So that will make it a bit easier perhaps to stand out in a crowded market. But the core of it is just us, we need to do a great job with the games we launch and make sure that we -- the games themselves are fantastic and that our publishing and marketing teams really connect -- make sure that the games and the marketing connects with a substantial audience.

And if we move on to Co-Development & Service segment, here, we see that sales rebounded somewhat from Q1 and Q2 levels. Can you give some more color here, what drove sales in the quarter?

Well, the segment obviously is mostly consists of Coatsink, revenue from Coatsink. And I mean, that is a relatively stable business. So there will always be some ups and downs between quarters because of periodization, is that the word in English? Of when the revenue comes in and is recognized. But overall, it just continues to be a good stable business at Coatsink.