Medium Term looks promising
Nazara is expected to clock revenue of Rs11.4bn in FY24, at FY21-FY24E CAGR of 36.0%. Given the general gaming market frenzy, growing interest in platform businesses, and bright prospects of gaming industry in India, the stock can rise 20-50% from current levels. Our base case target price is for 23.8% upside in 12 months.
Strong presence across subsegments of online gaming:
Nazara has well recognized brands across 1) Gamified Early learning (Kiddopia); 2) eSports (Nodwin, Sportskeeda); 3) Freemium Games (WCC); 4) Online Real Money Games (Halaplay); 5) Telecom subscription business. Apart from legacy business of telecom subscription, other segments (especially eSports and Real Money Games) are expected to see sustained high growth, driven by rising popularity of online games among 18-35 years old. Planned expansion in the foreign market especially US has helped leverage its brand and IPs to promote growth.
Industry poised for high growth
Led by increasing smartphone penetration, increase in the number of mid/hard core gamers and gradual increase in In-app purchases, Indian Gaming industry is expected to achieve $3.5bn in 2023 from $1.5bn in 2020 at CAGR of 32.6%. The Covid19 lockdowns has seen more youth seriously exploring online gaming.
There's a huge growth opportunity as number of Mid/hard core gamers is expected to increase to 120mn by FY25 from 35mn (FY21) that will drive ARPU growth (currently ~$9/pa) through In-App purchases. Such purchases are merely 2-3% of subscribers in India, compared to 7% to 10% in bigger markets of US and China. Indian online gaming is at same level as was China in 2013 which recorded 12x increase in size of gaming industry over next 7 years.
- The company didn't grow between FY17-19 until it made strategic acquisitions across subsegments of the gaming industry. Legacy online games tend to lose engagement levels with audience and since, Nazara has not demonstrated its ability to build blockbuster games, acquisition is only way to achieve growth.
- Acquisitions are an expensive affair as they often come at premium valuation in this sector. Hence, it raises concern on the impact on shareholders returns. Acquisitions will require frequent equity dilution of a promoter holding that's already at low 20.7%.
- Barrier to entry is low as it is relatively easy to develop a mobile based game based on current technologies. There is no doubt about the growth of industry in coming years, but it is likely to be highly fragmented with few dominant games, unlikely to be part of any one company alone.
- Moat for the business may not be strong. We've seen best of games fall out of favor over time. Developing mobile games is a hit and miss business as several factors determine the success or failure of a game. Nazara is yet to develop a popular in-house mobile game.
Valuation and Target price: Given the long term uncertainty in this business, we initiate coverage with REDUCE Rating and target price of Rs 2,208 at EV/EBITDA(FY24E) of 25x, taking into account valuation multiples of global peers like Electronic Arts, Activision Blizzard, and Tencent Holding, (adjusted for 30% growth in Indian market compared to 12-15% growth in the US and Chinese gaming markets). The stock currently trades EV/EBITDA of 19.4x
Shares of Nazara Technologies Limited was last trading in BSE at Rs. 1922.85 as compared to the previous close of Rs. 1787.15. The total number of shares traded during the day was 78075 in over 8851 trades.
The stock hit an intraday high of Rs. 1949 and intraday low of 1786. The net turnover during the day was Rs. 148556740.