I like everything about fast-growing video games industry specialist Keywords Studios (LSE: KWS), except its valuation. But the firm’s growth has been well balanced with revenue, cash flow and earnings all rising together. The financial record over the past few years shows that cash flowing into the business has lent strong support to profits.
Meanwhile, City analysts following the company expect earnings to grow by robust double-digit percentages in 2018 and 2019, and the compound annual growth rate for operating cash flow over the past few years runs close to 36%. Maybe Keywords Studios is worth its forward price-to-earnings ratio which, at today’s share price of 1,874p or so sits around 36 for 2019. I know that dismissing great companies on the grounds of a high valuation has kept me out of some seriously strong performers on the stock market in the past and one glance at the share price chart for Keyword Studios reveals how well it has done for its investors so far.
Consolidating the industry
The company claims to be “the leading” international technical services provider to the global video games industry. If ever there was a firm in the right place at the right time, I reckon Keyword Studios is it. Gaming is everywhere, and there’s no sign that the pursuit will be going out of fashion soon. But the market is highly fragmented, according to the directors, and a large element of the firm’s strategy involves the drive to consolidate it, as the firm’s vibrant acquisition programme demonstrates.
Operations span several trading areas. The interim report out today reveals that during the first six months of the year, 21% of revenue came from functional testing, 20% from localisation and translation services, 16% from art creation, 14% from player support, 12% from audio services, 9% from localisation testing, and 8% from engineering. These activities generate good business. Total currency-adjusted revenue for H1 came in at almost €110m, up 84% on last year, due to organic growth and a string of acquisitions in the period. The firm bought four companies over the past six months alone and announced the acquisition of Brighton-based The TrailerFarm Ltd today. Consolidation carries on apace, it seems.
A massive global market opportunity
The like-for-like revenue figure moved 8.6% higher, suggesting a good performance with organic growth, which I reckon we can assume is due to customers liking the firm’s offering. Meanwhile, adjusted earnings per share shot the lights out by moving up 53%. You’ve got to like the figures, and the directors seem to because they pushed up the interim dividend by 10% to celebrate.
The directors think the global market for video game software is $109bn (US) and should grow to $129bn by 2020. The size of the firm’s opportunity is immense. The growth plan works on the premise that there’s a “fundamental” imbalance between very large, global games companies and the “many hundreds” of small, highly-specialised service companies that support them “territory by territory.” Keyword Studios aims to sort out that imbalance and I wouldn’t bet against a good outcome for the firm’s investors from where we are now.
