Last week’s data confirmed the contrasting fortunes of British and Chinese consumers. The Office of National Statistics reported that UK retail sales are falling, supported by subdued trading statements from Dixons, John Lewis, Mothercare and Primark.
Over in China, though, household spending is rocketing as average salaries rise. The Chinese premier, Wen Jiabao, is aiming to increase per-capita income by 7% a year in real terms over the next five years. This will be funded by redistributing some of the $183bn trade surplus into boosting personal consumption, along with improving social security and healthcare. Both of my tips are well placed to cash in.
Ubisoft is Europe’s number-three games developer, best known for its blockbuster Assassin’s Creed (Tom Clancy series), Just Dance and Prince of Persia franchises. During periods of consumer belt-tightening, escapist entertainment prospers as it offers a cheap night in. So, if I’m right about Europe heading into another slump, many cash-strapped families will soon be hunkering-down again – cocooning themselves indoors to save a few pennies. That’s bad news for restaurants and shops, but potentially perfect for home software sales.
Better still, this French firm has terrific growth opportunities in China. Currently, Ubisoft is only scratching at the surface in this 1.3 billion populous region. Thanks to its strong links with the major console platforms (Nintendo, Microsoft and Sony), the firm could be catapulted alongside them into this booming sector. According to Digi-Capital, the Chinese games market will double over the next four years, and represent a quarter of the world’s total by 2014.
So why then are the shares languishing at near six-year lows? Well, it’s mainly because profits are being cannibalised by the launch of its own free-to-play browser – punters only pay when downloading extra content. CEO Yves Guillemot argues that this strategy will be profitable in the future, once it begins making money out of valuable ‘eyeball time’. The approach seems to be working – from a standing start, the firm’s CSI: Crime City title has already attracted an average of two million users per month on Facebook.
All told, Guillemot expects sales for the year ending March 2011 to be up 17% to €1,020m, alongside lower earnings and cash flow. On this basis, I would rate the group on one-times turnover. After adjusting for the €40m in net cash, that delivers an intrinsic worth of €10.50 per share.
Ubisoft Entertainment (Euronext: UBI), rated a BUY by BMO Capital
Let’s also not forget that this is an industry where huge synergies can be created through mergers. For example, in a take-over, which could eliminate duplicate distribution channels and back-office operations, a trade buyer could realise savings of approximately €200m per year. After being taxed at 35% and discounted back at 12%, that adds a chunky €10 per share in value to the enlarged entity. Obviously, an acquirer would aim to retain the bulk of these synergies, but even so a price tag of above €13 per share looks feasible.
It’s not going to be all plain sailing though. Competition, foreign-exchange fluctuations and the unpredictability of developing expensive new franchises could affect the firm’s prospects. Preliminary results are due out on Thursday 12 May. BMO Capital has a €10 target price.
• Paul Hill also writes a weekly share-tipping newsletter, Precision Guided Investments.