Ubisoft - Assassin's Game Theory - Model Update
All,
Please find attached our updated analysis on Ubisoft here.
We like this name because it allows for a tactical position that is also asset covered. But in particular, the tactical aspect required a little more game theory. We have given particular attention to two paths the Guillemots have at their disposal to put pressure on the bonds. But both remain fairly blunt, and the more likely is weakest on the priorities in the brothers’ list.
Investment Rationale:
- We are long the '27s for 5% of NAV at 81.5 c/€ on the tactical, "bet" that, in the next months, we will hear of a bank financing solution that will layer the bonds, but at the same time provide the liquidity to address the '27s. On the downside, we see these bonds asset covered, since even after devising our Assassin's Path (see Legal), an insolvency threat to the bonds remains blunt and therefore an LME could not leverage it to force large discount. At most, a simultaneous voluntary offer in the 70s to both bonds could put pressure on the '27s to follow the '31s. We are not in the '31s, since they are a more fundamental bet on the ambitious turnaround.
- We expect to receive par for these bonds at the latest in 12-15 months time, which should earn us at least 17% IRR and approx 10% return from today, more and faster if Ubisoft raise the cash earlier - which they did at least on occasion of the '26 convertible put (and have to, considering the model runs out of cash by summer next year).
Key Conclusions:
- We are expecting the announcement of a financing solution any day. Even if we struggle to believe management's hockey stick scenario, we think the reorganisation is wide ranging and could deliver the necessary cost cuts to let revenue lift earnings sufficiently over the next years. H226 revenue fell a little deeper than expected, but margins hold up better; an encouraging sign that there may be a profitable core to concentrate on (Current Trading).
- Because Ubisoft generates persistently negative free cash flow, a conventional DCF framework does not produce meaningful results. We instead triangulate enterprise value using the Tencent Vantage Studios transaction, industry M&A benchmarks, and trading comparables, then assemble a sum-of-the-parts valuation of near €1.5bn, assigning €2.2bn to Ubisoft’s retained 75% stake in Vantage Studios by assuming Tencent overpaid by 50% — a deliberately conservative haircut to a strategic transaction price. We value the remaining creative houses at about €400m using recently reduced revenue trading multiples and subtract roughly €1.1bn for normalised negative cash flow capitalised at sector EBITDA multiples (Valuation).
- The Guillemot brothers would not execute a crown-jewel "drop-down" into Vantage Studios one year before roughly €1bn of redemptions and maturities commence without having a financing solution in hand. We consider a French Sauvegarde or Conciliation extremely unlikely. While we have found a way to put the 27s under pressure, we think the risk/return is unattractive for the brothers. That in turn, weakens any stick with which the brothers could instigate any coercive LME. Additional joint ventures or minority stake sales remain possible but unnecessary if a simple refinancing delivers sufficient capacity (Ubisoft’s Options, Legal).
- The most credible solution is new structurally senior secured bank financing raised at an intermediate holding level against the retained Vantage Studios stake. This structure almost replicates drop-down economics while maintaining investor alignment and execution certainty. Several signals support this view: management emphasized financing first when discussing refinancing mechanics; the company is replacing the revolving credit facility with a new structure; the Tencent deal establishes a third-party valuation anchor; and financing could have been arranged alongside the transaction. Credit Agricole stands out as a logical lender given its existing exposure. This could be accompanied by a voluntary exchange offer to both bonds. (Ubisoft’s Options, Legal).
- Announced cost savings alone will not restore breakeven without meaningful revenue growth. We make no adjustments to R&D capitalization because spending levels and accounting treatment follow industry standards and only mildly exceed amortisation. Even after the Vantage Studios stake sale, internal cash resources will not cover the 27 Notes due to continued heavy cash leakage and front-loaded restructuring costs. When addressing the 2026 put, Ubisoft already needs a solution for its 2027s, which become current around the same time. Our model runs out of cash in summer '27 (Model).
Key Value Drivers:
- Even sr. Secured bank financing should drive the value of the 2027 bonds, the likely target of the proceeds. The 2031s ('29 put) would be left behind, layered on the main assets and exposed to higher interest cost - a bet on improving operations, which management indicate would take as long. Another asset sale would produce a similar effect. The 27s should rise, and the 31s pay for it.
- Collaboration with Tencent on its main IP could indeed turn them into annual billionaire brands, as the Guillemots say, but that will have to come within three years.
Key Risks:
- A drop-down LME would be slightly cheaper, since the coercive element could achieve an off-market deal at a lower coupon than what French banks would demand at market. But the difference should be marginal, since the Guillemots have no draconian Conciliation / Sauvegarde "alternative case" to point to. Creditors would call that bluff before its made. So we don't think LME is the way to go.
- An aggressive HF could lend money to an intermediate holdco and create a consenting class to put the '27s under pressure. But that would already flush the company with cash, defeating the insolvency stick once again. Alternatively, we could envision a simultaneous voluntary offer to both bonds to roll up into the MidCo and take a haircut. That would at least have some limited chance of success.
- The turnaround plan could misfire. The aim, we understand, is to "Achieve more with a smaller team", an equity story, not a credit story.
Here to discuss the name with you,
Wolfgang
T: +44 203 744 7003
www.sarria.co.uk