Cyberpunk 2077 - sensitivity analysis

    The purpose of the post below is to perform a sensitivity analysis of the model used in the previous article. I analyzed three parts of the model: expected sales, margins and market multipliers. The result is the creation of a matrix with the obtained CD Projekt Red share prices at different assumed variable levels.

Introduction

    The previous paper was published on December 9, the day before its release. My goal in writing that article was to "transfer" the share price into the expected sale, because if investors are rational, the share price must reflect the future cash flow to the company. Such considerations are extremely difficult if we don't see the final product. It seemed that after December 10 it would be easier to evaluate the company and make predictions for the future. The release, however, gave us more questions than answers: on the one hand, the company informed about 13 million copies sold by December 20[1], and on the other hand, the terrible quality of workmanship for older generation consoles (PS4 and Xbox One), which resulted in the suspension of sales on these consoles[2]. The withdrawallof the console version is perhaps the first time such an AAA game has been released.

The uncertainty about the value of shares is best seen in the high volatility of share prices over the past month. The chart below shows the CD Projekt Red share price in the last month.

Chart 1. CD Projekt share price in the last month

Source: www.stooq.pl [accesed 27 November 2020].

    Since the release of the game, the value of shares has decreased by over 40%, which means that investors' expectations have lowered significantly. However, it should be remembered how highly I rated the expectations of investors in the model (sales at the level of the most popular AAA game in history). Later in the post I will go to the sensitivity analysis.

Sensitivity analysis

In the analysis, I decided to analyze three components, namely sales, margins and multipliers. Naturally, much larger changes can be made (e.g. it seems impossible to me due to significant deficiencies of Cyberpunk, the premiere of the multiplayer version at the end of 2021 / beginning of 2022, but for simplicity it will not change another assumption).

Sales:

The model assumes sales of 32.5 million copies in the first year (same as GTA V), the analysis uses the following expected sales: 15, 20, 25 and 35 million copies in the first year. The historical sales data of Witcher 3 and GTA V were used to estimate sales in the next two years.

Table 1: Expected sales in the second and third years

	Second year	Thirth year
Witcher 3	42.1%	47.4%
GTA V	38.5%	46.2%
Average	40.3%	46.8%

Source: Financial statements of CD Projekt and Statista.com

Multipliers:

The basic attribute used for the comparative valuation are the multipliers relating to comparable companies. Their value significantly affects the value of the company shares. The analysis assumes  multipliers decrease by 25% or 10%, and also their growth by 10% and 25%.Margins:

The model assumed margins at the same level as in 2015-2017 (the first years after the release of Witcher 3 with additions). The sensitivity analysis assumed a decrease in margins by 10 and 5 percentage points and their increase by the same level.

The tables below show the sensitivity analysis.

Table 2. Sales/Multipliers sensitivity analysis

Sales/Multipliers	Multipliers down 25%	Multipliers down 10%	Base level	Multipliers  up 10%	Multipliers  up 25%
15 million	32.60 €	38.94 €	43.16 €	47.39 €	53.73 €
20 million	41.23 €	49.29 €	54.67 €	60.05 €	68.11 €
25 million	49.85 €	59.65 €	66.17 €	72.70 €	82.49 €
Base sales	62.07 €	74.31 €	82.46 €	90.62 €	102.85 €
35 million	67.11 €	80.36 €	89.18 €	98.01 €	111.26 €

Source: Own study

Table 3. Sales/Margins sensitivity analysis

Sales/margin	Margin down 10 pp.	Margin down 5 pp.	Base level	Margin up 5 pp.	Margin up 10 pp.
15 million	36.01 €	39.59 €	43.16 €	46.74 €	50.32 €
20 million	45.57 €	50.12 €	54.67 €	59.22 €	63.77 €
25 million	55.12 €	60.65 €	66.17 €	71.70 €	77.23 €
Base sales	68.65 €	75.56 €	82.46 €	89.37 €	96.27 €
35 million	74.24 €	81.71 €	89.18 €	96.66 €	104.13 €

Source: Own study

Table 4. Margin/Multipliers sensitivity analysis

Margin/ Multipliers	Multipliers down 25%	Multipliers down 10%	Base level	Multipliers up 10%	Multipliers up 25%
Margin down 10 pp.	51.71 €	61.88 €	68.65 €	75.43 €	85.59 €
Margin down 5 pp.	56.89 €	68.09 €	75.56 €	83.02 €	94.22 €
Base level	62.07 €	74.31 €	82.46 €	90.62 €	102.85 €
Margin up 5 pp.	67.25 €	80.52 €	89.37 €	98.21 €	111.48 €
Margin up 10 pp.	72.43 €	86.73 €	96.27 €	105.81 €	120.11 €

Source: Own study

Conclusion

Before the game's release, investors, perhaps encouraged by massive marketing, believed in Cyberpunk as a milestone in the development of such entertainment. This is evidenced by the earlier sales forecast which hovered around 60 million copies - the highest level in history. Also, the margin had to be at the highest level (their high level is rather certain, as the pre-orders were sufficient to cover the production and marketing costs, which were estimated at over PLN 1.2 billion). The biggest problems of the game are the quality on older consoles and a large number of bugs resulting from deficiencies. The game seems unfinished and unfinished - it lacks many of the promised mechanisms. In my opinion, it takes at least a few months to finish the game to fix the most serious bugs yet.

Rescheduling resulting from these actions will result in further delays. It seems that the multiplayer will not be presented on the announced date - Multiplayer is one of the expected sources of money. The delay will most likely affect the announced add-ons - it will result in even lower revenues.

However, the biggest problem of the studio is much more difficult to count - the game will probably gain a great financial success anyway (its sales for the first 10 days after its release are higher than the sales of The Witcher 3 in the first year after release) and will allow for further gigantic productions. What is the problem? I think the biggest problem is loss reputation of a studio producing almost perfect worlds with a quality that surpasses the almost mass-produced blockbusters of global developers. The recovery of reputation and reconstruction of the studio is the biggest challenge managers.

[1] https://gadgets.ndtv.com/games/news/cyberpunk-2077-sales-13-million-refunds-sony-microsoft-cd-project-red-bugs-console-version-ps4-xbox-one-2342371 [accesed 27 December 2020].

[2] https://www.benzinga.com/news/20/12/18851236/sony-suspends-cyberpunk-2077-from-playstation-store [accesed 27 December 2020].