CD Projekt S.A. (CDR) Earnings Call Transcript & Summary

Good afternoon. My name is Michal Nowakowski and today marks my first time as joint CEO, hosting the CD Projekt Group's Annual Earnings Call. I will be co-presenting with Piotr Nielubowicz. Following our presentation, we invite you to participate in a Q&A session where we will be joined by Adam Kicinski. Without a doubt, the highlight of last year was the release of Cyberpunk 2077 Phantom Liberty. The launch of the expansion [indiscernible] with significant changes brought to the base gain by update 2.0 resulted in a relaunch effect generated in interest comparable to other major titles debuting in 2023. The expansion was enthusiastically received by gamers as well as critics with rave reviews and multiple industry awards, including two Golden Joysticks for Best Expansion and Best Trailer. In terms of sales performance, we've already had the pleasure to announce that Phantom Liberty sales had topped 5 million copies in 2023, achieving such a major milestone in such a short window proves the game's quality and the strength of the Cyberpunk franchise. Towards the end of the year, we also released Cyberpunk 2077: Ultimate Edition. The bundle includes the base game, the Phantom Liberty expansion and all updates and 3 DLCs released to date. It offers a way for players to experience the best night city has to offer. Cyberpunk 2077: Ultimate Edition is available digitally and physically for current generation consoles and PCs. Now let me give you a peek at a bigger picture. By 2023, Cyberpunk 2077 sales have already surpassed PLN 2.2 billion in revenues. The game continued to attract gamers interest held by regular updates and franchise flywheel activities, including Cyberpunk: Edgerunners, the Netflix anime series. Last year, owing to the successful release of Phantom Liberty, Cyberpunk 2077 further raised the revenue by PLN 3 billion. We are confident in the strength of our product, supported by the franchise flywheel we expect it to generate solid revenue flows for years to come, solidifying its status as a long seller. And while we're on the topic of a franchise flywheel, I'd like to remind you that last year, we initiated collaboration with Anonymous Content, a global media production company. Together, we will work on a live action project set in the immersive world of Cyberpunk. Having summarized the main events of 2023, let us now turn to the future. It's time to give you an update on where we stand with each of our upcoming projects. Let's begin with the Witcher franchise. Polaris will kick start a new trilogy expanding the universe presented in past Witcher games. At the moment, this is our most developed project. Although we're still in the preproduction stage, our plan is to begin production in the second half of the year. Next, we have Sirius, the game developed by The Molasses Flood in Boston with support from our developers. Last year, we defined a new framework for this project, which is why Sirius is currently in the early preproduction phase. The last project from The Witcher which franchise, codenamed Canis Majoris, is a remake of the first, which again, it is being developed by the Fool’'s Theory Studio under the supervision of CD PROJEKT RED. Work on this iconic game is now at a conceptual stage. It's worth noting that the title will be built from the ground up using Unreal Engine 5 and that it will use the tools that we have been developing for Polaris. Moving on to Cyberpunk franchise. As you may already know, Orion is the code name for the sequel to Cyberpunk 2077. In the fourth quarter of 2023, we opened a hub in Boston and kicked off work on the game. It is currently at a conceptual phase, supervised by seasoned studio veterans previously involved in development of Cyberpunk 2077 and Phantom Liberty expansion. Notably, this February, we announced that the Boston Hub would be hiring accomplished game industry professionals with experience in developing top-of-the-line AAA projects. And last but not least, let's shed more light on our third IP Hadar. At the moment of publication of our strategy update in late 2022, we had a small strike team laying the foundation for this new IP. This work is steadily progressing and the team is getting bigger. We are currently exploring key pillars of the game, and the IP is in the conceptual phase. We're really excited about what's coming up. Since I've just updated you on our projects, let me now briefly walk you through the current engagement of our dev teams. Compared to our previous update provided in November, the team responsible for maintenance of Cyberpunk 2077 and Phantom Liberty has shrunk with developers being reassigned to other projects following the release of Phantom Liberty and Update 2.0. The Polaris team, on the other hand, has grown to over 400 developers, reaching its target size for entering the production phase. This is scheduled for the second half of the year. As for the Sirius team, it has not changed in size compared to the last update. We are also introducing new categories for Orion and Hadar as these projects are growing along with the number of developers involved. In addition, a completely new group of developers has appeared on the chart under the shared services label. These are central teams, which become involved in various projects at different stages of production. They are not fully embedded in any particular project. Instead, they provide additional capabilities, which can be shared among Red teams. They can handle tasks such as localization, UX and QA as well as development of essential tools and technologies. Currently, half of this group serves the needs of Polaris, but this will fluctuate over time as other projects grow in size. With regards to our recruitment plans for our 2024, we plan to maintain the current employment structure. Recruitment will mainly focus on our Boston hub, which is still at an early stage, and we are building its structures. Finally, I'd like to take this opportunity and thank everyone who has been there with us for good and bad, our dedicated team, amazing fans and supportive shareholders. Your support means the world to us. Now let's move on to the financials. I'll hand it over to Piotr. The floor is yours. Thank you.

Thank you, Michal. Let's start with our consolidated profit and loss account on Slide 9. In 2023, our consolidated sales revenue driven by Cyberpunk 2077 and Phantom Liberty reached PLN 1.230 billion. That's nearly 30% above the revenues of the strong comparative period, which was marked by the release of Cyberpunk: Edgerunners anime and the EDGERUNNERS update. This means that 2023 was our second consecutive year of sales growth after the release of Cyberpunk and also our second best year ever. The launch of the expansion in 2023 made a big impact not only on [ CD PROJEKT ] RED but also on gog.com which enjoyed a 25% sales revenue increase versus the preceding year. Our cost of sales increased as well, primarily driven by the initial amortization of Phantom Liberty and accelerated amortization of the base addition of Cyberpunk. During the second half of 2023, we amortized a significant 40% of Phantom Liberty development budget and 40% of remaining Cyberpunk 2077 undepreciated expenditures as of the end of June 2023. Hence, more than double increasing cost of products and services sold in 2023. Moving on to operating costs. Our selling expenses increased by PLN 54 million to nearly PLN 244 million. This was mainly driven by PLN 116 million total budget dedicated to Cyberpunk and Phantom Liberty marketing and promotion in 2023. As regards administrative expenses, apart from salaries and general cost growth, the increase in this category was driven mainly by costs related to the introduction of our new incentive programs as well as expenses on early phase works on new products, so-called research phase, growing especially towards the end of the year when after the release, the Phantom Liberty team started relocating to new projects. Moving further to other operating income and expenses. The positive balance of nearly PLN 30 million was supported by the partial reversal and partial write-off of our development expenditures related to Project Sirius. As discussed during our Q1 call, all in all, Sirius impairment adjustments improved our EBIT for this year by nearly PLN 19 million. This year's results were further supported by financial operations. The reported surplus here at PLN 69 million came from usual drivers such as interest from deposits and T-bonds but also from bookings related to the merger of the [– CD PROJEKT ] and Spokko. As discussed during our call dedicated to Q3 results, we included Spokko's current year cost and revenues in [ CD PROJEKT's ] 2023 profit and loss statement. This decreased our 2023 results by approximately PLN 3 million. Spokko retained earnings decreased our equity in the retained earnings position as Spokko had been part of [ CD PROJEKT ] in the past. We also included Spokko assets and liabilities amongst other products, assets and liabilities. Naturally, all transactions between Spokko and [ CD PROJEKT RED ] were eliminated book-wise. And therefore, as we recorded, Spokko assets and liabilities as well as current and historic negative results in our books, we also reversed the historic write-down of Spokko shares in the amount of PLN 27 million which is part of the discussed financial income line item. Moving further to our income tax. Although the absolute tax amount in 2023 was higher than in 2022, it was actually proportionally lower when compared to the gross results before taxation. The effective tax rate in 2023 was slightly below 11%, mainly thanks to the application of the IP box tax regime. All in all, our net profit for 2023 amounted to PLN 481 million, 39% more than what we achieved in the very solid comparative period. Net profitability of the [– CD PROJEKT RED ] segment exceeded 45%, while for GOG, this factor was close to 4.5%. I always like to take a long-term perspective of our results. Please take a moment to look at the chart on the next page, which illustrates CD PROJEKT Group's consolidated revenues for the last 5 years. All the efforts to improve and update Cyberpunk to enrich the universe with new merchandise and a Edgerunners Anime and the release of Phantom Liberty and the Ultimate Edition all paid off resulting in sustained revenue growth in the recent years. Moving on to the chart on the next page, #11, which presents something I'm also very proud of. In recent years, solid revenues allowed us to achieve steady profits, which we have been reinvesting to finance the development of new games and projects. Some of the surplus was also shared with our shareholders in the form of buyback or dividend. Actually, we shared PLN 1 billion with investors over the last 5 years. Also today, the company's Management Board decided to recommend to the general meeting the payment of a 2023 dividend to shareholders. The proposed amount is PLN 100 million. Let's now move on to the next slide, #13, our consolidated balance sheet. On the asset side, first, expenditures on the development projects, the core of our business. The balance here increased by PLN 52 million in 2023. This was mainly due to our works in Phantom Liberty, Polaris and Sirius. The new developments were responsible for a PLN 265 million increase parallel to the decrease coming from depreciation of PLN 232 million, driven mainly by Cyberpunk and Phantom Liberty. At the same time, among current assets, our trade receivables grew by PLN 28 million, thanks to higher sales this Q4 versus the Q4 of 2022. And last but not least, overall, the most significant increase on the balance sheet is the total value of cash deposits and treasury bonds, which are included in the three asset items marked with an asterisk. The total is summed up under the table and amounts to PLN 1.309 billion as of the end of December 2023. I will have a cash flow dedicated slide to give some more insight on our main cash flow drivers last year. Moving forward to the second part of the balance sheet, Slide 14. Despite paying the dividend, our equity increase driven mainly by the profits of the current reporting period up to PLN 2.4 billion. At the same time, our total liabilities decreased by PLN 35 million. The decrease was distributed quite evenly between the three subcategories presented in the table. Now please move on to the next Slide, #15. So the prior grads expenditures on research development and service of released games presented here annually since 2021. Over the time, we've limited our involvement in servicing our games shown in yellow and shifted towards the development of new games, painted blue. At the end of 2023, we also accelerated research works on new projects. among [ Polaris ], Orion, Canis Majoris and Hadar, included in the green slides. We expect this category to grow further in 2024. And finally, our simplified cash flow on Slide 16. Cash-wise, the PLN 481 million in net book profit was supported by PLN 245 million in depreciation and amortization for the period. At the same time, cash-wise, we invested nearly PLN 273 million in the development of new games and technologies. During the reporting period, we also invested PLN 58 million into tangible and intangible assets, mainly into servers, network infrastructure and developer workstations, but also in construction works on the [ CD PROJEKT ] Campus in Warsaw aimed at its further adaptation to our specific game development needs. Another PLN 58 million comes from the change in receivables, liabilities and provisions. As it was visible in the balance sheet slide, we experienced a rare situation of growing receivables and decreasing liabilities. This should support our 2024 cash flows. But as far as 2023 is concerned, this change was accountable for nearly PLN 58 million cash decrease. During 2023, we also paid out a dividend of almost PLN 100 million. After all, our financial reserves capped in cash, bank deposits and T-bonds increased by PLN 218 million over the reporting period, reaching PLN 1.3 billion. That's all from me for now. We can now move on to the Q&A session. Thank you.

[Operator Instructions] Our first question is today from Nick Dempsey, calling from Barclays.

I've got two questions, please. The first one, have you considered licensing either of your big IPs to third parties to make mobile games. Mobile hasn't really been a big feature of your development internally. So is that something that we could perhaps expect a one-off licensing fee at some point for that kind of project? And the second question, just when we're thinking about expenditure on development projects in 2024, can we assume that the Boston project that you preferred to here is going to lead to a notable step up in the line there or just a small step up?

So I'm going to take the first one. Sure, the licensing of IPs to make mobile games. So the answer is pretty simple here. The answer is yes, we are considering such move. And in fact, we were pursuing through conversations, opportunities like that. We have nothing to announce just yet, but when the time comes, we would. And as of a one-off or other business model related to any such potential partnership, we would not comment on the specifics here to be honest, plus there is nothing in place that we are talking about. So -- but there is no like predesign, maybe offering it like that. There's no predesigned business model we're looking at, in this case, whether one-off or some share profits, that's not the story. But when the time comes, we'll definitely share information.

Our next question is from Alex...

There was one more question regarding the Boston project.

Please go ahead sir.

I assume the question was related to the new team that we started in Boston that is working on the Orion project. So comparing this for 2024 to 2023, yes, we will see an increase of people, an increase of investments going there. As in 2023, the team was not existent. Still the project is planned to be in the research phase, as it was mentioned by Michal, during the first part of the call.

Our next question is coming from Alexey Philippov from JPMorgan.

Congratulations with a very strong set of results. I have a few questions. The first one is on your incentive program. So basically, your new KPIs for the next stage of the incentive program. I think they imply that you plan to release one game in 2026 and another game in 2027. Maybe you can comment whether it's a fair assessment of your plans? That's my first question. Another question would be on the remake of the original Witcher. How many developers are working on that project now? And maybe you could talk about the amount of work needed to be done for that project given it is a remake and not a standard game. And my final question would be on that media project that you talked through. Maybe you can share some additional color what is happening there? What type of monetization bring this partnership with anonymous content production to you? Is just one-off payment and licensing agreements. So how it can be monetized if this project goes through?

Alexey. I'll take the first one and the second. So in terms of incentive program, we can't comment on this. I mean, of course, we have our plans and those goals are based on those plans, but we cannot just confirm any releases, time will come, and then we'll start talking about dates. But as our strategy stays, we show where we are heading with franchises and developments, but we cannot unfortunately talk anything about specific release date. And the second one, the team on remake. It's mostly done externally by The Molasses Flood. So it's on them. It's -- sorry, Fool's Theory. Yes, sorry, sorry. I confuse the name. Fool's theory, of course, Fool's Theory, and Canis Majoris which is remake to The Witcher 1. And Fool's Theory is independent, and they build their team to work on this. We are in early phases. Conceptual -- preproduction phase. I mean it's not development yet. But -- so we are preparing designs with them. And that -- so it's an early phase, and that's all we can share with you as for now. And the third, Michal will take.

Thanks, Adam. Yes, I'll respond to the media project question with the autonomous content. So -- there is not a lot of additional color as you put it. I can get here, but I can definitely mention there's been steady progress actually in that project. The announcements in projects like that, they usually comes when we reach certain points that actually are useful to the moment of making such announcements, meaning they actually have some supportive meaning for the so-called package that we're preparing here. And that we later on will be looking to position with a partner that's going to be responsible for basically displaying the project to the outside world, distributing it. So we're not at this stage, obviously. And when it comes to the question of monetization, it really is something we definitely wouldn't comment on. So no additional color in this one. But the progress is actually pretty steady here. We're happy with where we are.

Yes. That's very clear. Maybe if I can squeeze one last question. You mentioned that the most developed game is Witcher 4. Can you say what is the second most developed game in your pipeline?

Well, yes, I can mention, I mean, just looking at the headcount, the second one is Project Sirius developed by The Molasses Flood in Boston.

[Operator Instructions] We'll now move to Sebastian Patulea calling from Jefferies.

I've got three, please. Firstly, if I may follow up on a previous question, please. you're expecting Witcher 4 to enter the production phase in the second half of the year. And on average, it takes the industry 2 to 3 years to go from production phase to launch. Would you say that's what we should expect in this case as well? Or should we expect more given you're working with a new engine that probably takes time to learn. It's also a large title and so on. Secondly, please, can you please discuss some of the risks that you're planning to take or some of the innovative elements of Project Polaris, even if you'd be painting it with a broad brush, that would be really helpful. And my last question, please, is regarding cloud streaming. What are the economics of the partnership that you've recently announced with Amazon Luna, please?

All right. I'll try to take care of the first two questions. When it comes to the question about the years, I can't really respond to that question with a precision that you probably would be hoping for because doing so would basically mean leading on to the release date, which is not something that we've historically done and are not going to do it right now. I mean revealing the release date is basically part of the marketing plan, and that's not something we're willing to do here. Now when it comes to the risks of innovative elements, making new game is always a creative risk, especially since we're trying to push new boundaries and explore new fields, do something we haven't actually done before. So I'd say it's [ inundated ]. This is a pretty broad paint brush stroke for sure. But I cannot go into too much detail without actually talking about the game per se. But basically, I guess what I'm saying is it should not be expecting just a Witcher 3 in new clothing of sorts. I mean it's actually -- of course, we're building on the shoulders of what was done before and on the learnings of what was done before, but we will be adding new things, new elements, new gameplay elements, new mechanics that you have not seen in our previous games so far. And I'd say doing those new things is always a risk. It's not just repeating what was done before. And I'll pass with the third one to, I think, Adam Kicinski.

Thank you, Michal. So it was about GOG and Amazon Luna and the collaboration between them aims to enhance game sales through Amazon's exclusive customer base, obviously, while maintaining the existing revenue share model for developers. So this collaboration seeks to elevate GOG's market presence and -- let's call this draw in high LTV users while at the same time, bolstering GOG's value proposition to game developers and publishers. So in practice, this arrangement grants GOG's access to Amazon's huge customer base and device ecosystem, including Fire TV and [ TV sent more ] and gamers who subscribe to Amazon Luna can play their GOG games through Luna. Of course, I'm talking about streaming service. And that obviously enhances their experience. And additionally, game publishers associated with GOG are participating in the Luna program -- those who are participating in the Luna program can benefit from different forms of exposure through Amazon channels. So it's a very collaborative and valuable proposition for all parties around. But of course, that's all we can say without any -- revealing any detail business details between us and Amazon.

A follow up. Are you allowed please, to discuss any of the economics, anything about commissions? Or how does it work? Because frankly, I don't know anything about it.

No, unfortunately, unfortunately not.

As we have no further audio questions at this time, we turn the call over to questions that were submitted over the web. Thank you. We will now be taking web questions.

So the first question comes from Piotr Zielonka from Santander Bank. Congratulations on the results. My question relates to cost outlook for 2024, especially employment level. You have above 600 games and around 1,200, 1,300 total employment level. Do you think you could still optimize employment, especially in ex-game devs departments despite -- still despite 10% layoffs already announced last year? Adam, you volunteered.

Yes, I can take it. I'm not pretty sure what kind of optimizing employment the question is referring to. But I would say that we are, as for now, very well tuned for the phases our projects are in. So for this year, we feel good. And I would expect kind of flat here in terms of the size of the teams. Of course, with some exceptions, of course, Boston team is growing. But generally, overall, within the group, I would expect early last year in terms of the size of the team. And that said, because I thought that was a question about cost, but not. Yes. That's it.

Okay. The second question comes from Piotr Zielonka again. Any update on AI initiatives on how they could impact employment?

We internally think that it can fit our concept of having not too gigantic teams working on games. I mean we were sharing this -- I mean we've been sharing this for quite a while that we want to keep our teams working on being games fairly not too huge. I mean like 400, 500 team members, and letting them enhancing the capabilities with AI is a great opportunity. So it fits our strategy. So that's something we can say. We are not expecting any cut in terms of -- cost cutting, in terms of shrinking any teams because of the AI.

Okay. The third question comes from [ Jeff Thoroski], AmBank. It's just 17 developers working on Cyberpunk 2077 and up for support of the game?

Adam Kicinski again. Yes, it's enough. It's definitely enough. We are finally since last year, very happy with the state of the game, both the base game and Phantom Liberty, Phantom Liberty from the very beginning actually. And we think that this team is enough, it might even shrink a bit because as for now, at least, we are not planning any further big update. But of course, we are still looking at this game and things one day might change. But that's -- as for now, 17 is enough.

As it seems we have no more questions, I would like to thank you again for joining us today. And if you have any follow-up questions, feel free to contact our great IR team, and I wish you all a nice evening. Goodbye. Thank you.