Paradox Interactive Ab - ...if just one more expansion

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There seem to be a few Paradox owners on the forum, so let’s open a thread for this little giant of strategy games.

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Swedish Paradox Interactive is a game developer and publisher focusing on strategy and role-playing games. The main platform is PC. The most famous game series include Crusader Kings, Europa Universalis, and Hearts of Iron series. The company also publishes, among others, the Cities Skylines game series by Tampere-based Colossal Order.

The company has its roots in the 90s, like many other game companies. Growth-hungry Paradox listed on the stock exchange in 2015.

The company’s games are a real treasure trove for players: one strategy game can take hundreds of hours over the years! For me, the more familiar ones are Europa Universalis IV, Hearts of Iron 2, and 4. DLCs and a large modding community significantly extend the lifespan of the games. The best mods for Hearts of Iron 2, released in the early 2000s, are still being updated, and despite its slightly outdated graphics, the game is perfectly satisfying for an armchair general looking for challenges.

From an investor’s perspective, Paradox’s model is astonishingly good. As I understand it, developing strategy games doesn’t require a very large team or budget, so they don’t need to sell millions. On top of a 60-euro game, there are loads of relatively easy-to-produce add-ons, which usually cost 20 euros. For example, Europa Universalis IV, released in 2013, has had so much DLC over the years that the entire package still costs 240 EUR on Steam!

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Paradox has a somewhat bad reputation for releasing its games unfinished. This shortcoming is compensated by a large modding community that creates loads of additional features for the games for free.

Most game series are already old, and their fans are likely to return to new versions again and again.

This has also been reflected in the company’s profitability. In the Helsinki Stock Exchange, mainly Admicom adorns the same profitability level, with Paradox’s operating profit margin being ~40%.

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The company’s portfolio has diversified over the years, which significantly lowers risks. In addition, the company’s game portfolio is truly strong and long-lasting, which further deepens the moats.

The only problem is probably the share price, with a P/E ratio of around 50x. A lot of good is already priced in. I finally became an owner myself during the spring’s corona turmoil. The share price has been sluggish for a few years after it really soared in 2018.

Still, time is the best friend of excellent business.

Here is also a link to the company’s investor pages Investors - Paradox Interactive

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The company also released its Q1 results today.

https://www.paradoxinteractive.com/en/interim-report-first-quarter-2020/

Games and their expansions, which are on average over four years old, are still selling like hotcakes.

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Having spent 2000+ hours on EU4, CK2 and Victoria2, it’s interesting to see the progress of this company.

In my opinion, the DLC model has worked quite well, even though the content hasn’t always been sufficient. I’m keen to see how the company’s planned subscription model will work.

Worrying for the company is the incompleteness of the latest big games: Stellaris, HOIV and Imperator, as mentioned by Verner. Stellaris was perhaps turned into a good reception after just over a year, but HOIV flopped, at least considering the cult status of its predecessors.

The company has dug its own grave a bit with the scope of its games, meaning it can’t meet the content level demanded by fans at launch. This will be the next challenge when Paradox releases a new version of its hit success Crusader Kings 2.

Still, the company is riding the megatrend of player aging, where players are willing to pay a lot for their games. If I pay 360 euros a year to watch football, I could just as well pay 20-30e/month for some Paradox membership. A membership might also reduce the expectation associated with game releases if the lump sum purchase price of the game could be lowered.

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I’m not the owner of Prdx, but as a big fan of Eu4, I can use the title of an experienced expert :face_savoring_food:

The game has renewed quite a bit within its core. Game mechanics have been tweaked over the years, so instead of shedding its skin, this snake is recreating its insides. The downside of a grand strategy game is the differences in saves between different patch versions. Since the game’s timeline is hundreds of years and in real life tens of hours, as an adult, you can’t carve out time to play the game. The thought of “well, I’ll have to start over anyway” raises the threshold for returning to the game.

For Eu4, improvements are being made to make the game more accessible. Old veterans will find what they want on different screens, but the increasing complexity of content and mechanics would already require some culling. It would be important for the business to get new players so that it doesn’t become just a thing for old geezers.

The DLC policy is understandable; if an NHL series dares to be resold every year with minor updates to the previous one, I don’t care how the development team stays in business.

As I understand it, a new game engine is being developed in the background, which will raise the management of content and mechanics (in terms of coding) to a higher level of abstraction. Modifying text files is not really current, and a proper content/mechanics editor also streamlines Paradox’s own operations and gives the company better tools for finding game balance. Currently, small patches often relate to finding game balance, when the complex game world with its various parameters appears as silly bugs or oddities.

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{“content”:“I also have a couple of decades of experience here (sounds harsh when said like that :sweat_smile: ). EU2 was the first Paradox game I played, and after that, various versions of HOI, CK, and Victoria (clearly the least) games joined the list.\n\nEU2 is probably still my favorite in terms of feel. The current DLC model is understandable but a bit annoying for my taste; I usually pick up expansions from Steam/Humble Bundle sales. Most of the EU4 expansions are so unnecessary that I don’t even bother buying them on sale – though someone else might disagree.\n\nI had the same thoughts as Verneri, but I sat on my hands in mid-March, and well, now I can just watch the curve from the sidelines :cold_face:\n\nRegarding the investment case, I’ve been wondering the same as above: how much market or new players there are for those micromanagement grand strategy games – besides us old farts :smiley:\n\nCK3 is the next one out of that series, and it uses the new engine.”}

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And time is needed. At this growth rate, if the price remains at its current level, we will be at some reasonable valuation level in five years. Now is possibly the worst time ever to buy gaming companies, as they have been caught in the stay-at-home economy hype after the initial dip. The corona peak does not provide sustainable support for valuation levels. Insiders subscribe to options and sell at market price.

Business development looks good to the eye.

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I’ve also been following the company and own a little bit of it. The direction seems good. And at least I see the industry’s development as quite positive in the longer term.

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For me, strategy has been the go-to genre, but it’s a very niche sector. It also doesn’t particularly benefit from the big megatrends right now.
“Total esports viewership is expected to grow at a 9% compound annual growth rate (CAGR) between 2019 and 2023, up from 454 million in 2019 to 646 million in 2023, per Business Insider Intelligence estimates. That puts the audience on pace to nearly double over a six-year period, as the 2017 audience stood at 335 million.”

Before, musicians sold records, now to some extent, but the monetization logic has changed. Similarly, esports constantly changes its monetization logic, which is why a couple of the biggest games in recent years, like Blizzard’s Overwatch, are free.
Esports will surely continue to grow, and many games will surpass traditional sports in popularity.
But unlike in sports, where no one owns, for example, the IP for football, in esports, owning this IP is a big deal.
The team fee for Blizzard’s Overwatch League, for example, is $20 million, and in Kansas, the first esports team has been listed on the stock exchange.
Later, in the distant future, a ReadyPlayerOne-like scenario, where the “world” or IP ownership plays a big role, and in that, big game companies like Blizzard are at the forefront (and also the margins are fantastic and the valuation is PE35).

Esports is still partly looking for its monetization logic, but purely as the audience ages over time, advertising opportunities improve. Leagues are also still taking shape and games are changing, but big game companies like Blizzard (StarCraft (where, by the way, a Finn is a world champion), Warcraft, Overwatch, Hearthstone, Call of Duty, etc.).
And for streaming, leagues, virtual environments, etc., games work brilliantly and are served by megatrends. I.e., I would even be willing, as a pretty stingy value investor, to pay a high valuation for these.

When I think about the future of strategy, it’s mostly just game updates via DLC routes. No one wants to see me play one Civilizations game for 50 hours or corner camp with dwarves in WH.

So this wasn’t really any deep analysis, but esports is genuinely a super interesting megatrend, and many technologies like VR and AR only strengthen and support it. And the monetization logic of IP is changing.
Strategy game companies, from this aspect, seem primarily like stuck value targets that just haven’t been priced as value targets (and yes, I recognize that gaming in general is a growing trend, including strategy, and strategy is served by an older player base that is willing to sink money into DLCs, etc.).

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I’ll challenge your otherwise meritorious message a bit. Long strategy games might not be ideal Esports, but I wouldn’t completely rule them out of the future scene either. Whereas faster-paced games have tournaments/leagues lasting several rounds, for example, with EUIV, one game could be chopped into two-hour segments, effectively representing an entire tournament.

Paradox’s YouTube channel actually currently has a “Dev Clash” where EUIV developers play against each other. Two 40-50 minute episodes come out each week, and the videos seem to attract tens of thousands of viewers (plus those watching via Twitch).

I still wouldn’t acquire Paradox shares based on an Esports perspective, as the company has no evidence in that direction. The point is just that, in my opinion, heavy strategy games can also be Esports in the future if someone puts in the effort. The games must, of course, also be popular enough and technically feasible to play competitively.

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eSports is a trend that has captured the attention of many investors, but I don’t believe it’s at Paradox’s expense? Strategy games have their own, rather large, player base. Note: especially Hoi4 is, as far as I understand, relatively focused on multiplayer, so gaming can also be social with strategy games (could we form a Hoi4 etc. group here? :D)

I’m not sure if Paradox is involved in eSports in any way.

Addition, @Fundamies already commented on the topic more meritoriously above.

Our domestic stock exchange’s game company, Remedy, on the other hand, has proven in its own narrative, focused triple-A niche how one can succeed by following their own path.

That current stock price is the biggest turn-off. The forward P/E is now 50x… On the supportive side, there is a zero-interest rate environment, a super-favorable megatrend, predictable business, and the stock exchange’s most profitable business, but still. Of course, Paradox is one of those “always expensive” cases, but not quite this expensive. :smiley:

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Short-sellers don’t seem to consider it overpriced :thinking: or is that just an indication that previous positions became expensive for short-sellers

https://twitter.com/borsredaktion/status/1260566528669429760?s=21

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Paradox is expanding its publishing horizons into new territories with Vampire: The Masquerade: Bloodlines 2. It should be released this autumn. It’s a sequel to the game released in 2004 and it’s a first-person RPG. So, a big investment from Paradox as well.

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It’s also interesting that Tencent, the buyer of Supercell, appears on the ownership list with a 5% stake.

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Verneri, how do you assess the valuations of these gaming and tech companies? One should know the company’s true valuation to determine whether the stock is priced too low, appropriately, or too high. Companies can, of course, also be evaluated based on qualitative and binary factors (does it fit a megatrend, true or false?), but these only narrow down the shopping list without scaling.

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Not very sophisticatedly: I don’t build complex valuation models for every company, as analysts would. I do try to outline the earnings expectations for the coming years with simple assumptions. If I can’t outline it in any way, I don’t touch it. This, of course, requires the company to be very predictable (in the case of a gaming company, a portfolio of many games, knowing the games are good, etc.). In Paradox’s case, I know the games quite well, and the company is familiar from years past, so I dare to make certain assumptions with the company.

I’ve been keeping an eye on Paradox for a long time, but when the company, along with everything else, came down in March and the P/E dropped to “only” around 30x at around 130 kronor, I concluded that for a company capable of 15-20% earnings growth in the coming years with a broad, successful portfolio and a loyal fan base, the price was reasonable. Not cheap, though. I was supposed to buy a bit more at 115 kronor, but I chickened out when the stock went there. Classic overthinking, then. :smiley:

The investment is also a bit of a fan investment for me, but of course, I wanted to see potential for return at the purchase price.

I personally believe quite a lot in evaluating qualitative features in investing. Part of the reason for this is my own inability, of course, to create DCF models (like proper adult models) plus algorithms, robots, and thousands of other actors know how to calculate and crush quantitative things. Qualitative work still genuinely requires human brains, and algorithms, as I understand it, don’t do that yet. Of course, the qualitative side is quite subjective, but everything has its flaws.

It doesn’t scale, but when I only have about 10-15 companies in my portfolio at the same time, it doesn’t have to. :slight_smile:

With Remedy, fortunately, Aten’s analysis and valuation have been supportive, so it’s been easier to adopt my own view supported by it.

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The latest releases have definitely gone completely off the rails. Imperator has, of course, now developed into a good game, but the game’s release was the most dismal in recent history.

Ck III, in my opinion, determines the direction of this ship. If the biggest and most beautiful brand flops, then that’s it. After the Hoi4 and Imperator flops, there’s no longer unambiguously room to mess up.

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What I’ve liked about Paradox is that despite seemingly obvious flops like Hoi4, their games actually sell quite well, or judging by Paradox’s numbers, excellently in relation to their budgets. The games have a long lifespan, and I guess many players just accept that by buying DLC later and waiting two years for updates, the game gets better. Unbelievable but… true. :sweat_smile:

I do agree that this can’t go on forever.

On the other hand, my own consumption behavior with Paradox is that I wait two or three years before I’d consider buying a “new” game so that it has been fixed enough. :sweat_smile: And they might still sell it to me for 60€ with a couple of DLCs included… :woozy_face:

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I used to play a lot of games back when you could buy them in cardboard boxes from brick-and-mortar stores. The difficulty is estimating what kind of game will eventually become a success and how that success is defined. There are games that are simply wonderful experiences, which you play through once and then forget. Then there are games that just hook you, making you come back to them again and again. Thirdly, there are games you want to spend money on because of a successful business model. In investing, the business model is key. I believe that you should get something concrete in return for your money, which perhaps favors the relatively low-margin sale of expansions or second versions. The other extreme is mobile games, where players are apparently willing to micro-pay for the temporary removal of artificial restrictions.

Of course, I favor the first model, because the second seems quite foolish, but am I just an old geezer behind the times? Should a company make a game like movies are made, with a big budget and aiming for critical acclaim? It’s like a work of art, and when admiring a work of art, you don’t calculate first-day retention rates and consider the right moment to present the first call to purchase to the player. It feels like, for example, Counter-Strike’s popularity really took off only with microtransactions. The revenue generated should be used to maintain the brand and audience (e.g., e-sports), not just distributed as dividends. Sometimes it’s hard to grasp what a game company’s success ultimately depends on.

I hope Paradox succeeds because I like its games. Perhaps the company is supported more by game sales than by stock purchases. On the other hand, good brands also attract the interest of investors.

Paradox’s Wikipedia page is interesting reading:

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It’s worth reading Remedy’s comprehensive report; even though Remedy’s games and business model are completely different, the report gives a good overview of the game market.

For example, DLCs are precisely the most profitable sales because their production is cheaper than creating the entire game. As I understand it, some game companies don’t even expect to make a profit from the first game, considering the big budget and marketing.

Paradox is still a relatively small company, and budgets are small, but the fan base is all the more stable in this small niche area. This makes game sales more predictable, or at least you can confidently expect that there won’t be multiple complete flops at the same time. :sweat_smile:

Correction: numerous typos in the comment written early in the morning have been corrected.

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A few more additions about what I would look at in gaming companies when considering them as investment targets.

i) Quality of the game portfolio: what games and IPs does the company own and develop: how old are the game series? How predictable is their success? Fundamentally, a sequel to a previously successful game series is less risky than a completely new IP.

ii) Business risk management: how many games are in the company’s portfolio, does the company do less risky subcontracting at the same time, etc. For example, Remedy’s Control was a riskier release because it was a new IP, but at the same time, the company’s subcontracting work with Crossfire brought security to investors.

iii) Company’s past history: has the company grown organically or was it just cobbled together from several different studios and then listed on the stock exchange? I prefer companies with a long, organic, and understandable story.

iv) Focus. The smaller the house, the more important focus and risk management are. If a game company simultaneously tries to invest in VR, release a new game itself, and work on other projects on the side, and all this is done with limited financial resources, it would take a miracle for disaster not to strike. :sweat_smile:

v) Financial position. A large net cash balance protects against setbacks that are bound to occur in this industry.

vi) Subjective assessment of management’s capabilities and commitment. None of the above matters if management doesn’t focus on risks and pushes too hard.

vii) All of the above concerned the company’s characteristics: then one still has to somehow figure out whether the stock is priced too high or too low in relation to the risks and potential. In this industry, many cheaper stocks easily have traps, and expensive ones are expensive for a good reason.

It would be interesting to hear @Atte_Riikola’s comments on what you look at in gaming companies when you keep an eye on them alongside following Remedy and NG? :ghost:

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