Long Engagement Sims And Digital Distribution Will Support A Stronger Long Term Earnings Profile

Catalysts

About Frontier Developments

Frontier Developments is a video game developer and publisher focused on creative management simulation and complex strategy titles across PC and console.

What are the underlying business or industry changes driving this perspective?

• Increasing digital distribution and closer platform partnerships give Frontier more direct access to players, which can support higher full game and PDLC revenue and improve overall earnings quality.
• Growing engagement in creator style and simulation games, shown by rising player hours and active users across Frontier’s franchises, supports a model built around long engagement tails and can underpin recurring revenue and steadier gross profit.
• A clear pipeline with one major creative management sim launch per year through at least FY '28, including sequels to successful titles, can support multi year visibility on franchise contributions to revenue and adjusted operating profit.
• Expanded monetization models such as in game currency and ship sales in Elite Dangerous, alongside higher attachment rates on PDLC for games like Planet Coaster 2, point to more revenue per player and potential improvement in net margins as content scales on existing tech and teams.
• Cost discipline after headcount reductions, together with CMS development budgets typically in the £12 million to £15 million range and complex games around half that level, provides a framework where additional unit sales and PDLC uptake can have a meaningful impact on operating leverage and cash profit.

Assumptions

How have these above catalysts been quantified?

• Analysts are assuming Frontier Developments's revenue will decrease by 1.7% annually over the next 3 years.
• Analysts assume that profit margins will shrink from 19.4% today to 6.8% in 3 years time.
• Analysts expect earnings to reach £6.6 million (and earnings per share of £0.25) by about January 2029, down from £20.0 million today. However, there is a considerable amount of disagreement amongst the analysts with the most bullish expecting £10.5 million in earnings, and the most bearish expecting £5.9 million.
• In order for the above numbers to justify the price target of the analysts, the company would need to trade at a PE ratio of 41.5x on those 2029 earnings, up from 8.9x today. This future PE is greater than the current PE for the GB Entertainment industry at 13.6x.
• Analysts expect the number of shares outstanding to decline by 2.9% per year for the next 3 years.
• To value all of this in today's terms, we will use a discount rate of 9.57%, as per the Simply Wall St company report.

Risks

What could happen that would invalidate this narrative?

• Analysts are assuming Frontier Developments' revenue will decline by 1.7% a year over the next 3 years. If the CMS and creator style genre stops attracting new players or engagement tails shorten, it could become harder to keep franchises such as Jurassic World Evolution, Planet Zoo and Planet Coaster growing, which would pressure revenue and earnings.
• The same analyst set expects profit margins to move from 19.4% to 6.8% over 3 years. If content costs, platform fees, royalties on licensed IP like Jurassic World and higher wages offset the benefit of PDLC and in-game monetization, the group could remain on a structurally lower profitability profile, which would weigh on net margins and cash profit.
• Analysts expect earnings to move from £20.0 million to £6.6 million by around January 2029, with a wide range of outcomes between £5.9 million and £10.5 million. This suggests meaningful uncertainty about how durable current franchise performance really is and whether future CMS launches in FY '27 and FY '28 can repeat past success, creating risk for earnings and earnings per share.
• The analyst price target implies a 2029 P/E of 41.5x compared to 8.9x today and 13.6x for the GB Entertainment industry. If investors are not willing to value a business with low forecast growth and shrinking margins at a much higher multiple, the share price may not track that implied re-rating, even if the company hits analyst earnings expectations, which would limit the impact of any earnings progress on equity value.
• Analysts expect the share count to fall by 2.9% a year, but Frontier is already returning cash through buybacks while still funding multiple CMS and complex games with budgets in the £6 million to £15 million range. If one or more of those titles underperforms or if subscription deals and promotions become less attractive, management could have less flexibility to keep reducing the share count, which would constrain earnings per share growth and cash generation.

Stay updated on the most important news stories for Frontier Developments by adding it to your watchlist or portfolio. Alternatively, explore our Community to discover new perspectives on Frontier Developments.

Valuation

How have all the factors above been brought together to estimate a fair value?

• The analysts have a consensus price target of £6.16 for Frontier Developments based on their expectations of its future earnings growth, profit margins and other risk factors.
  
• In order for you to agree with the analysts, you'd need to believe that by 2029, revenues will be £97.8 million, earnings will come to £6.6 million, and it would be trading on a PE ratio of 41.5x, assuming you use a discount rate of 9.6%.
  
• Given the current share price of £4.8, the analyst price target of £6.16 is 22.1% higher. Despite analysts expecting the underlying business to decline, they seem to believe it's more valuable than what the market thinks.
  
• We always encourage you to reach your own conclusions though. So sense check these analyst numbers against your own assumptions and expectations based on your understanding of the business and what you believe is probable.