Fortnite is Changing the Game

My little brother is one of millions of crazed Fortnite fans. His current routine involves playing the online game in his toy room with headphones in, while simultaneously watching someone else play on his iPad.

For context, he’s in primary school (it’s complicated) and he’s clearly not alone. It’s allegedly injuring elite sportspeople, being cited as a cause of divorce and doctors are saying it’s as addictive as heroin. I hear middle-aged men in suits discussing Fortnite strategy on my commute to work.

For those of you who aren’t familiar with the game, it starts with one hundred competitors dropping from a virtual flying bus onto a colourful cartoon island. The aim is to be the last one standing at the end of the “Battle Royale”. There is killing involved, but it’s not visual. There is no gory detail, which has almost certainly contributed to the game’s mass adoption.

I’m not a gamer. But as an analyst, if people are obsessing over something, then I want to know more about it.

Scale is important, but it isn’t everything

Gaming is already a big business. Generating more than $120bn in annual revenue, the global games market dwarfs the takings of Hollywood. The industry has grown more than 10% annually for the last five years and doesn’t look like it will slow down any time soon.

Shareholders of the three industry giants, Take-Two Interactive Software (Nasdaq:TTWO), Electronic Arts (Nasdaq:EA) and Activision Blizzard (Nasdaq:ATVI) have done exceptionally well. Even with the recent price falls, a five-year investment in these stocks would have returned more than 300%, 200% and 100% respectively.

And for good reason. Video games can cost upwards of $200 million to develop. They require large teams and lots of experience. This creates significant barriers to entering the industry.

Fortnite’s new business model

Fortnite is both a threat and an opportunity to the existing cabal. Epic Games created it. They’ve been around for some time, but aren’t one of the big three. That, presumably, means the barriers to entry aren’t insurmountable.

But I still think big budgets and experienced teams are likely to win the day. And the economics of these new free-to-play games are mouthwatering. Distribution is online, cutting out the margin to distributors like Gamestop (NYSE:GME), which is currently trading almost 80% lower than its 2013 highs.

And, despite being “free”, they generate bucketloads of revenue. Fortnite generated US$2.4 billion in revenue in 2018—the highest yearly takings of any video game ever. Last reported player numbers stood at 200 million, and there is speculation that there were 10 million concurrent players during a recent online concert. Revenue is generated through in-game purchases—largely costumes, which are referred to as ‘skins’.

The ability to continue updating the game with new seasons (approximately every 10 weeks) means that revenue should keep flowing for years.

Big boys enter the fray

Electronic Arts recently released their own free-to-play, ‘Battle Royale’ title, Apex Legends.  

The marketing strategy for Apex Legends was very different to EA’s historical releases. For one, it was only announced within a few days of the official release date. There were no teasers or heavy public relations campaigns—the company relied on “influencers” to market the game. EA reported ten million registered users and one million concurrent players within the first 72 hours.

At the one week mark, 25 million players and two million concurrent players were announced. These numbers are significantly higher than the Fortnite launch. It’s too early to tell whether Apex Legends will be more popular than Fortnite. Or whether EA will be successful in monetising the game. What is clear, though, is that these new releases are gaining traction much faster than their predecessors.

Creating games with addictive gameplay and high skill curves, like shoot-em-up hit Halo, should continue to be a profitable business. The new free-to-play model has the potential to be even bigger. Entrenched industry players with large budgets are in a good position if they can work out how to best capitalise on current trends.

We don’t own any of the stocks mentioned, yet.

 

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Chloe Stokes
Research Analyst
Forager

Chloe joined Forager at the end of 2017 as a research analyst for the Forager International Shares Fund. She was previously employed by both KPMG and Deloitte in corporate finance roles, working on M&A advisory and restructuring engagements.

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