Ubisoft Entertainment SA (UBI) Earnings Call Transcript & Summary

Ladies and gentlemen, welcome to Ubisoft Full Year 2023 Earnings Conference Call. [Operator Instructions] I will now turn the conference over to Yves Guillemot, Chairman and CEO of Ubisoft. Please go ahead.

Welcome, everyone, and thank you for joining the call today. While the past year was challenging for the industry and for Ubisoft, it was pivotal for the company. We reinforced our strategic focus on our biggest opportunities, initiated a meaningful cost reduction plan and provided additional development time for our strong pipeline of content. We have implemented significant evolutions throughout our organization over the past 3 years, and we will continue to adapt to the fast-moving environment. The industry's prospects are promising, and Ubisoft has a great opportunity to transform its brand into truly global phenomenon and build an increasingly recurring business. As such, our '23-'24 lineup will reflect our key strategic pillars with new releases across big brands and long-lasting Live games. Before I let Frederick detail our full year performance, I would like to spend some time on Ubisoft's unique organic development model. It relies on a robust iterative design process which proved successful to enter the Open World and Live Services market. Our commitment has been that it will allow us to successfully enter the free-to-play segment. While mastering free-to-play is hard, and it is very important to remain prudent, recent developments are encouraging. We believe these are first visible signs that we are on the right path to bring our brands to significantly larger audiences. One of the recent positive development is the XDefiant closed beta that received strong viewership, community feedback and retention. Similarly, we were very happy to see that the gameplay reveal of the The Division Heartland has been well received by players. We also expect Rainbow Six Mobile and The Division Resurgence upcoming tests to illustrate our progress. While it is still early, and again, let's remain prudent, we are clearly making visible iterative progress on which we can build the next steps toward ultimately delivering a breakthrough in this market. I will now let Frederick detail our full year's performance.

Thank you, Yves, and hello, everybody. The industry continues to shift towards megabrands and long-lasting titles that can reach players across the world, across platforms and business model. In this context and considering the challenges Ubisoft and the industry have faced, our fiscal year performance came out in line with our recently revised financial targets. Q4 net bookings stood at EUR 313 million, reflecting the trends observed this year, with lower revenues from back-catalog and new releases. Additionally, there was no significant new release this quarter, while Q4 of last year benefited from a strong release slate, with Assassin's Creed Dawn of Ragnarok and Rainbow Six Extraction. Last year also included the Game Pass partnership on the Rainbow Six franchise. Fiscal year 2023 net bookings reached EUR 1.7 billion, down 18% year-on-year. Back-catalog net bookings reached EUR 1 billion. Across console and PC, unique active users stood at 133 million this fiscal year, slightly up year-on-year, and MAUs stood at 36 million, slightly down year-on-year. We have provided details on the performance of our key franchises in our press release. I will just highlight the positive momentum of Rainbow Six Siege in a highly competitive environment, the continued engagement records delivered by the Assassin's Creed franchise as well as the growing net bookings for The Division 2. We continue to create amazing experiences, content and updates for many of our titles years after release. Our teams have been supporting Rainbow Six Siege for 8 years, For Honor for 6 years, The Crew 2 for 5 years and both The Division 2 and Anno 1800 for 4 years. Total digital net bookings reached EUR 1.5 billion and represented 85% of our total net bookings. PRI stood at EUR 1 billion, representing 58% of our total net bookings. Within the PRI category, Mobile amounted to EUR 543 million. As a reminder, this figure includes the upfront revenue linked to the mobile licensing partnership announced last July that was fully booked over the first 9 months of the year. Let me now go into the details of our earnings, starting on Slide 8 with our P&L. Gross margin stood at 87.5% broadly stable year-on-year. SG&A were down 6%, reflecting lower marketing expenses but were partly offset by the expected increase in our structure costs. After a strong 18% growth in H1, our structure costs started decreasing, with second half down 2% year-on-year and down 7% at constant exchange rates. I will review R&D in the following slide. Non-IFRS operating income stood at minus EUR 500 million, in line with our revised financial targets. As usual, please refer to our press release appendix for the full IFRS to non-IFRS reconciliation. Of note, the noncurrent operating expense includes a restructuring charge of EUR 21 million incurred in the second half. Turning now to Slide 9. P&L R&D stood at EUR 1.4 billion, up significantly year-on-year, mostly reflecting the EUR 500 million of accelerated depreciation. For its part, total cash R&D was up 11% year-on-year. It reflects the investment in our biggest pipeline of products ever to support our upcoming multiyear significant top line growth. After strong year-on-year growth of plus 17% in H1, cash R&D growth materially slowed down in H2 to plus 5%. Looking at our cash flow statement on Slide 10. Free cash flow stood at minus EUR 426 million versus minus EUR 282 million in fiscal '22. This mostly reflects the decrease in cash flow from operations as well as the increase in working capital requirement. Non-IFRS net debt stood at EUR 662 million and available cash amounts to around EUR 1.5 billion. We expect positive cash flow from operations in fiscal year '24 and the upcoming years. I would now like to provide an update on the cost reduction plan we announced back in January. Among other things, we are implementing a tight control on hiring, targeted restructurings, the continued convergence of our technologies and real estate cost reduction initiatives. We are already starting to see the results from the actions we have implemented. Total headcount is down by more than 700 since the end of September 2022. The slowdown in growth for our cash R&D, coupled with the reduction of our structure costs that I mentioned earlier, led to an overall non-variable cost structure of around EUR 1.75 billion in fiscal '23. This is approximately EUR 35 million lower than previously anticipated, of which EUR 25 million thanks to our tight control on recruitment, and for the rest to favorable exchange rates. Most of this EUR 35 million figure is cash and did not materially impact our P&L. We are on the way to deliver at least EUR 200 million of non-variable cost reduction over the next 2 years, taking the fiscal '23 base of EUR 1.75 billion as a revised reference. Before I turn to forward-looking comments, I will say a few words on our organic, iterative-driven business model, which will resonate with Yves's earlier comments. As you know, our model is more talent intensive and requires time for the iterative design process to fully deliver. Another way to look at it, and that demonstrates in a striking way how it is significantly different than most of our peers, is to look at the level of intangible assets on our respective balance sheets. As you can see on Slide 12, we have developed internally a large portfolio of IPs with significantly lower levels of intangible assets. This is an important consideration when comparing operational metrics but it also comes with material accounting differences. Ubisoft intangibles, mostly made of the amount we spend on R&D, impact our free cash flow figures and adjusted earnings. This is why we believe once our strong investment over the past 4 years will start to pay off, along with our increased focus on our biggest opportunities and cost reduction plan, the true return on capital employed of our organic model will be more visible. Today, we confirm our guidance for fiscal year '24. We expect strong net booking growth, non-IFRS EBITDA of approximately EUR 400 million and positive cash flow from operations. Our strong top line growth will be driven by a significantly lower -- significantly larger lineup of new releases to support the development of big brands as well as long-lasting Live games. Development of this year's lineup is progressing well with big IPs like Assassin's Creed, Avatar, Rainbow Six and The Division, as well as on long-lasting Live service titles like Skull and Bones, The Crew Motorfest and XDefiant. More will be disclosed at our upcoming forward events. On the free-to-play side, while it is important to remain prudent, recent developments are encouraging. We expect the upcoming pulse points to continue to illustrate our iterative progress with a 6-week closed beta for Rainbow Six Mobile that starts on June 6, the next testing phase for The Division Resurgence this summer and the closed beta later this year for The Division Heartland. On the cost side, we expect R&D and SG&A to end up at the high end of the historical range of, respectively, 35% to 40% and 25% to 30% of net bookings. Please note that fiscal '24 R&D will see a meaningful increase in performance-based royalties and profitability bonuses as well as profit sharing. As I said, we are already starting to see the results of these actions, and in fiscal '24, we expect our non-variable cost to continue to decrease, with the majority of the impact to be seen in fiscal year '25. We will provide updates on targeted restructuring and the disposal of noncore assets as we reach the relevant milestones. A few fiscal '24 housekeeping items for modeling purposes. The stock-based compensation is expected at around EUR 65 million. The non-IFRS net financial charge is expected at around EUR 45 million, reflecting higher financing costs. The non-IFRS tax rate is expected at between 30% and 35% and the number of diluted shares is expected at around EUR 140 million. Looking at Q1, we expect net bookings of approximately EUR 240 million, reflecting general prudence and the fact that there will be no significant new release. We are now ready to take your questions.

[Operator Instructions] We are now taking the first question. And the first question from Charles-Louis Scotti from Kepler Cheuvreux.

The first one, can you tell us what explained the quite steep sequential deterioration of the net booking growth in Q4? Is it the fact that there was fewer recognition of the mobile licensing agreement? I'm just curious to hear what happened in Q4. My second question, we have not heard much on Skull and Bones recently, whereas if I'm not mistaken, the game was slated for the very first part of the year. So I'm just curious again to hear, is the game has been delayed internally? And same question for Assassin's Creed Mirage because we have seen a couple of press report about it. Third question, sorry, on XDefiant. Again, if I'm not mistaken, the game was not officially slated for fiscal year '24 previously. So what made you change your mind? Is it the success of the closed beta? And when can we expect the game to be released? And finally, also if we will -- give us more details on the weak free cash flow generation this year, especially the very unfavorable working capital outflow, whereas there was no major release during the year-end. And also, I see the debt rising, and what should we expect in terms of free cash flow generation in fiscal year '24?

Charlie, so on your first question, as we had mentioned earlier, the full upfront fee for the licensing mobile agreement was fully reflected over the first 3 quarters of the year, so naturally, there was nothing in Q4. And as I mentioned, the reason for the reduced Q4 versus last year is that we were coming from a high base last year with the combination of the launch of Dawn of Ragnarok, Rainbow Six Extraction and the partnership with -- on the Game Pass on the Rainbow Six franchise.

So on Skull and Bones, we are very happy with the progress the team is making on the game. We are doing lots of play tests and research with external partners. And the game is progressing well, and it will be like other games at the Ubisoft Forward, so you will hear more then.

Yes, we are very pleased with the latest polishing and balancing work that was brought to Skull and Bones. As Yves mentioned, we are collecting regular tests through -- especially through our insider program, and feedback is really good. So I will tell you more soon. On the XDefiant game -- so you had first a question on Mirage. What we can say is that, as we said, we will hear more about information on our lineup on June 12 during our Ubisoft Forward event, so stay tuned for that. On XDefiant, yes, we -- as we mentioned, and we've been very happy with the result of the closed beta. As we mentioned, we need to stay prudent, but the reception from players has been really good. And there is still some work to be done, but we now have a good enough visibility indeed to announce that XDefiant will be released in fiscal '24. On the cash side, yes. So naturally, as we had the small slate of new releases, we did consume cash this year as expected. The working capital requirements increase is primarily related to working -- increasing working capital from taxes, notably due to the fact that we of course recognize tax income this year with no cash in, as well as a reduction in other liabilities and notably, a reduction in provisions of bonuses as well as profit sharing, among those elements. In terms of what we can expect for fiscal '24, we will have positive cash flow for operations on the back of very powerful lineup that will [ stay ] change, of course, the level of cash in together with the first impact from our cost reduction program. So we're looking at positive cash flow for operations for fiscal '24 and beyond. And as you have noted, we're now relying on the stable EUR 1.5 billion of cash and cash equivalents, so that stayed stable over the last 2 months without any new financing.

Just to clarify on the finance, you said we have now enough visibility to confirm the game for fiscal year '24?

Yes.

We are now taking the next question. The next question from Omar Sheikh from Morgan Stanley.

I just got a couple of questions if I could, please. First of all, I wonder if you could just talk about the comment you made about the Assassin's Creed headcount within the total development stuff. You said you're going to increase the headcount added to the franchise by 40% over the coming years. Could you talk about the extent to which that's going to be a reallocation from other games? Or is that going to entail the total headcount going up? And then if you could maybe just sort of put that in the context of your broader plans about the portfolio going forward? So are there any plans to further streamline the number of franchises that you support after the 7 or so releases or 7 or so franchises that you chose to end in the last 18 months? That's the first question. And then secondly, I just wanted to just clarify, Frederick, if I could, on the cost reduction. You said the majority of the cost savings would be the P&L cost savings that come through in 2025. Just want to clarify that point or confirm that point? And then what will drive the cost reductions in 2024? Is that going to be more kind of focus on minimizing headcount increases? Is there anything structural in terms of disposals that you're assuming there? And then finally, I guess, related to that, I'm not sure you gave a clear guidance on cash R&D in 2024, fiscal '24? It would be helpful if you could give us some color there, too.

So on -- yes, Assassin's Creed, it'd be -- the resources will come from all the games, so it's a reallocation of resources to go to Assassin's Creed to grow the brand big time, and it's really in our focus to put more emphasis on our own term brands.

Yes. And we'll continue as well, and together with this focus on our biggest growth opportunities, to accelerate our effort also on the long-lasting Live services. But notably, not only -- but not only on our biggest brands. On the cost savings, so yes, I mentioned that we'll have an impact of cost reduction in fiscal '24 with an even bigger impact in fiscal '25 and even more so in fiscal '26. What we can say is that we will pursue what we kicked off with good momentum since the beginning of January. So that would be a combination of very strict recruitment control while making sure, of course, that we continue filling in critical jobs as well as making sure our production are well staffed, and we'll continue hiring top talents. We will pursue some targeted restructuring like we started doing a few months ago. And we will proceed with the sale of noncore assets, but we'll share with you more information when we pass specific milestones. On -- in terms of guidance on cash R&D. So total cash R&D will go up in fiscal '24 versus fiscal '23 on the back of a stronger performance-based royalties and stronger profitability bonuses and profit sharing. When you exclude these variable elements, the fixed part of our cash R&D will go down. So in total, in fiscal '24, we can now expect our total fixed cost base to go down, including structural costs as well.

Okay. If I may just follow up on Assassin's Creed. Could you give us a broad idea of what proportion of your development headcount is currently involved with that franchise?

So today, we have around 2,000 talents working on the franchise.

We are taking the next question. The next question from Nick Dempsey from Barclays.

I've got 3. So first of all, regarding the net bookings for fourth quarter 2023, did those come in lower than you had hoped they would when you gave us an update in January? Or were you always understanding internally that more than 10% decline would be an 18% decline? And if it was worse, what caused that to be weaker? Second question. So you've been helpful there talking about cash R&D. Should we therefore expect that gap between P&L R&D and cash R&D to be back to sort of something like a historical level closer to FY '22 which was EUR 400-ish million? It's -- just been thinking about that kind of gap or notably smaller gap in FY '24? And the third question, EUR 240 million in Q1, you said you're being prudent there. I understand that there are no new releases and I know that you don't have the benefit of large ones in the last few quarters, but I don't think you've done a number that low since one of the quarters in FY '18. So how much prudence are you taking here? Or why would it be lower than you've achieved for really quite a long time?

Nick, so on the -- your first question, yes, our net booking came in line with expectations, and as well as our EBIT for the full year as part of our revised guidance mentioned in January. In terms of the gap between P&L and cash R&D in fiscal '24, it's planned to be material and on the back of a big lineup to be delivered as well as for the outer years. On the medium to longer term, we should expect the gap to reduce notably due to the cost reduction program. And on the Q1, yes, we are reflecting general prudence in our back-catalog. That will be the biggest part of Q1 is about consistent with back-catalog rhythm we've seen in Q4 of fiscal '23.

We are now taking the next question. And the next question from Nicolas Langlet from Exane Paribas.

I've got 3 questions, please. The first one on the free-to-play initiative in full year '24, are you able to share kind of revenue and adjusted EBIT contribution you expect from PC, Console and Mobile free-to-play initiatives? And I remember in the past, you were cautious on the first year profit generation for this game. Is it still the case for full year '24? Second question, taking into account the market condition, the pipeline and your focus on non-variable costs, what is the mid-term ambition in terms of adjusted EBIT margin? Do you see a potential to go beyond the previous peak at 22%? And finally, you mentioned the Generative AI and the work you have done already. Curious to get your view on whenever you think it could be a lever for margin or better ROI in the mid- to long-term? Or you plan to mostly reinvest the gain you can generate with this too?

Nicolas, so on your first question, yes. Considering this is the first year of -- first fiscal year of release, we, of course, want to stay prudent in terms of profit contribution for our free-to-play game, so we expect limited contribution for this first fiscal year. As we said, we are very happy with the progress, but of course we need to stay prudent on that point. On the second question, yes. On the back of a very strong lineup for next years, we expect a significant top line growth as well as significant EBIT growth. And yes, we plan to progressively get back to around the levels where we were over the last years.

And on the [ LLM ], in fact, we think it will really improve our games. We expect creativity to grow a lot using those models, and it will also improve the workflow. They will give more time for our teams to improve the quality of our games, and it will also give an opportunity for players to also have more access of those games, to actually be part of the creation of events and content in those games. So there's a lot coming there, and we also have a lot of data in the company from all our brands that we will be able to take advantage of to create easily lots of content. So it's really good, and we've been working a lot on that in the last few years. So it would be a good growth coming from that.

Okay. And Yves, when do you think we will see the first real benefits of the [ stores ]? Is it something in 2, 3 years? Or it's more of a medium-term?

But we see benefits already every day from the people using those systems to actually improve their workflow. And in the games, it will take a little bit more time. But in the creation of code, in -- there are lots of places where it's already beneficial.

We are now taking the next question. And the next question from Michael Hickey from The Benchmark Company.