Thoughts on Nintendo’s Q3 Earnings (2017)

Nintendo released their earnings for the third quarter of 2017 (12/31/17). Naturally, we are going to go over every juicy detail.

Predictions:

I made some predictions for Nintendo’s sales figures. Below is a summary of those predictions and an explanation.

 

Switch: Just over 14 million* (around 14.5)

Zelda: 8 million **
Mario Kart 8 Deluxe: 7.6 million **
Odyssey: 7 million **
Splatoon: 4.5 million**
ARMS: 2.25 million
1-2-Switch: 1.75
Xenoblade: Less than 1 million (though I expect that it will break 1 million by 3/31/17)

* Switch sales: As of 12/3/17, Nintendo sold 4.8 million units in the US. In December, they sold 1.5 million. Since there is some overlap with the 4.8 and the 1.5 by three days, it should be about 6.2 million in the US. According to Nintendo’s Q2 numbers, the US makes up about 40 percent of all Switch sales. So 6.2 divided by 40% is 15.5. I think this number is a tad high. If you look at Japan, they have sold about 3.3 million. If you take their 27 percent, sales would be 12.2 million (if I use 25%, it comes out to 13.2 so you can see what I’m dealing with here). It wouldn’t be that low since the US sold around 6 million and 40% of 12.2 is 4.8. Essentially I’m taking the difference between the two and applying some judgment. If I was to give a reasonable range, it would be as low as 13.5 million and as high as 15 million.

** Game sales – These are all based on the above
Zelda – 55%
Mario – 60%
MK8 – 55%
Splatoon – 20%

For Mario, I assumed the rest of the world was closer to 40% as 3D Mario mostly sells in the US. For Splatoon, I weighed the game to 50% in Japan (though Splatoon 2 came out lower than I expect) ARMS, 1-2-Switch and Xenoblade are all just educated guesses.

With that, I decided to compare my results to actual.

I ended up over predicting Zelda and ARMS and underpredicting Super Mario Odyssey and Xenoblade Chronicle 2. What is interesting is that if I applied my assumption that I made of Odyssey to Zelda, I would have been spot on. Super Mario Odyssey was about 60 percent of Switch’s sales. If I take my 14.5 million, subtract the US’s 6.2, and multiply it by 40 percent, I’d get 3.2. At 55 percent of 6.2, you get 3.4. Added together, this would be 6.6 million, only 0.1 million off from the actual results. My judgment on ARMS and Xenoblade were a bit off as well. Nonetheless, 50 percent isn’t too bad.

With that said, let’s dive into some of the more interesting results.

Xenoblade Chronicles 2

One of the bigger surprises is that Xenoblade managed to sell over 1 million in less than a month. Now, Xenoblade sales can partially be blamed on the success of the Switch. As the saying goes, the rising tide lifts all boats as the saying goes. What is interesting, however, has been some of the reactions I’ve seen of the game. Browsing Nintendo communities, this games often come up with how much players were surprised by it and how much they enjoyed it. Xenoblade will likely be the Switch’s cult classic, thanks in part to the sales of the Switch.

That said, I would keep a close eye on Monolith. Its clear Xenoblade has some issues that will prevent it from being a mainstream success. However, the pieces are in place for a monstrous hit. If Monolith soft can tap into what makes their games loved and make that reach a wider audience, the game would be huge. I expect that would happen with a new series, not necessarily Xenoblade.

Super Mario Odyssey

With Super Mario Odyssey doing quite well (and beating my estimates), let’s look at another 3D Mario game in a similar situation: Super Mario Galaxy. As of Q3 of 2007, the game sold 5.19 million. The next quarter, it sold another 910,000 bringing sales to 6.10 million. Now, Super Mario Odyssey sold quite well, but it could have a wind-down period after the initial holiday rush. Mario Galaxy went on to sell 12.76 million over the Wii’s lifespan. It did not from short-term sales, but long-term sales (also dubbed “evergreen”). We’ll have to see. Interestingly, Super Mario 3D Land also saw a similar slowdown after the holidays.

New Super Mario Bros 2

Perhaps the biggest surprise was New Super Mario Bros 2. Despite releasing back in 2012, the sold 1.6 million units. The other 3DS games to sell over 1 million was Mario Kart 7 and Pokemon Ultra Sun/Ultra Moon. I think this, more than anything, highlights the strength of 2D Mario for Nintendo. Analysts want to focus on Pokemon on Nintendo Switch. I say focus on 2D Mario. The game could have a much bigger effect.

Software Sales

First, there is a significant split between software sales on the Switch and the 3DS. Every 1st party Nintendo Switch game the company released in 2017 has sold over 1 million copies. Conversely, only one game released on Nintendo 3DS this year sold over 1 million. Mind you, Nintendo released numerous titles for the system this year: Metroid Samus Returns, Hey Pikmin, Mario Party, and Fire Emblem Echoes. All of them fell below 1 million units. While Nintendo claims they 3DS will be supported in 2018, expect that the support will quietly stop over the next year.

 

On a similar note, the Nintendo Switch sold 52 million software units, just below their projection of 53 million. While this speaks volume to the success of software on Nintendo Switch, the vast majority of it still comes from Nintendo. The major complaint of third parties is that software doesn’t sell on Nintendo systems. This may be due to the lack on strong third-party software on the system, and several third-party titles are doing well, but how successful the Switch will be for third parties has yet to be seen.

Gross Margin

To close, I want to touch on something interesting I noticed while looking at Nintendo’s sales figures. Despite profits being up, it didn’t seem like much of an increase. So, I decided to look at the Gross Margin. Here are the results

Q3 16 Q4 17 Q1 17 Q2 17 Q3 17
Gross Margin (%) 45 40 42 38 38

 

Since the release of the Switch, the gross margin has steadily declined. In total, gross margin declined by 7 percent over the last 4 quarters. Part of this is the Nintendo Switch being more expensive to produce than other systems. Typically, the cost per unit declines over time as parts become cheaper. Since the Switch is a new product, its cost will be higher than the 3DS. Additionally, the decline could be evidence that Nintendo’s games are becoming more expensive to make as well as Gross Margin declined even after the quarter the Switch was introduced. I expect the gross margin will stay around 38 percent until Switch cost come down.

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