Intellectual property (IP) is highly regarded by investors valuing video game companies. Our analysis of video game peers indicates that Sumo Group PLC (LON:SUMO) business is more IP-driven than perceived by many investors. Sumo plans to announce 2019 results on 1 April.
- Sumo’s IP is an outlier: We analysed the relationship between gross margin and IP revenues in the UK video game sector. Our analysis indicates that video game company gross margins are directly correlated with the percentage of IP revenues. However, Sumo stands out as an outlier in our regression analysis, with high gross margins yet low perceived IP revenues. We believe this indicates the level of IP in Sumo’s business is misunderstood by investors. Sumo’s high gross margins suggest actual IP levels of 27%-30%, in our view, rather than 2%-8%.
- Tools, libraries and technologies are proprietary and leverageable: We believe Sumo’s development fees, which most investors assume to contain no IP, is actually partly IP driven. Development revenues are delivered using technologies that can be reused and leveraged across many contracts and customers, in a similar way to IP. Sumo’s proprietary systems accelerate build times and streamline integrations with external game engines and its libraries of tools and technologies boost the efficiency of project processes.
- Technology is undervalued: Sumo is more IP-driven than perceived by the market and its shares deserve a re-rating. Sumo shares trade at a 17% discount (11.5x 2021 EV/ EBITDA) to UK peer average multiples (13.9x) partly due to investor perceptions of low IP. Our analysis indicates higher IP-driven revenues, suggesting shares should trade at a significant premium to peers, in our view.
- Ideal mix: While offering significant IP, Sumo uniquely offers higher revenue reliability through long-term contracts, negligible cancellation rates and high market demand. We believe Sumo offers investors an ideal combination of high margins/ IP and revenue reliability that we believe is undervalued. Sumo plans to announce 2019 results on 1 April.
