CD Projekt – reasonable valuation or the largest bubble in central Europe?

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by independenttrader

Warsaw Stock Exchange (WSE) performance over the last several years has not brought anything special to investors. It can be said that it is at a similar level as 10 years ago. This is mainly due to fact that during this cycle capital has been focused mainly on U.S. market, bypassing emerging markets including Poland.

Nevertheless, even on the WSE we can find sector that arouses investors’ emotions. In this case, it is gaming industry.

Although there are many interesting gaming companies in Poland, one of them definitely stands out in foreground, as evidenced by having 50% share in “WIG.GAMES” index. It is all about CD Projekt.

Current and future valuation of the company are still exciting, especially since expectations for the next production (Cyberpunk 2077) became huge. So let’s have a look at the current market valuation and how it may change after the new game release.


Indicators better than real ones

Last decade has been a great period for CD Projekt shareholders. Over that time, company has generated fantastic results, especially over the years 2016-2018 (after The Witcher 3 success) when share prices exploded in similar manner like those of Amazon or Netflix.

Currently, CD Projekt share prices are worth roughly 210 PLN.

There have been 4 years since release of the last game. Company is trying to find new projects to generate profit (e.g. CD Projekt store opening), which does not change the fact that it is in a certain stagnation. The Witcher 3 profits have fallen quite significantly, and current valuation increases are already discounting future success of Cyberpunk 2077 (release date is scheduled for April 16, 2020).

Anyway, we need to look at CD Projekt valuation indicators. At this moment Price to Earnings is 196, while Price to Book value equals 20. Both ratios are 10 times higher than Polish gaming sector median. Such levels suggest huge relative overvaluation of CD Projekt.

We could justify the company for reasons mentioned above (specific period just before next big game release), if it were not one fact that has been pointed out by dr Jacek Welc during the last Wall Street Conference in Karpacz. During his lecture, he showed that gaming companies in Europe have more flexible financial reporting rules than U.S. companies.

For clarity: in Europe we have IFRS and in the U.S, GAAP.

What is the difference? Well, in case of the United States, when company is working on a new game, all expenses associated with it must be included in costs. In this way, company’s profit decreases. This is completely normal approach, as required by GAAP.

On the other hand, in Europe situation is radically different. Gaming companies may classify large part of expenses incurred for new productions as “expenditures on development projects” and record them as intangible assets. In this way, expenses related to new game are treated not as a cost, but as an investment. In the end, profit is not reduced – unless, of course, the company chooses such a way of accounting.

How does this issue look like in case of CD Projekt?

At the end of 2017, in the “expenditures on development projects” category, company booked 143 mln PLN. At the end of 2018, it was 243 mln. It can be assumed that almost entire amount is related to Cyberpunk production, because this project is the biggest priority of the company.

243-143 = 100 mln PLN -> such amount in 2018 have been put into tangible assets. In turn, official profit for that year was 112 mln PLN. If the company reported according to conservative GAAP standards, its profit would actually amount to 12 mln PLN. In other words: its price to earning ratio would be close to 2000.

To give you a certain point of reference, total value of CD Projekt’s assets at the end of 2018 was 1.1 bln PLN, so the above mentioned “expenditures on development projects” had 21.5% assets’ share.

source: dr Jacek Welc presentation, Wall Street Conference in Karpacz

In 2019, this share in balance sheet may turn out to be even larger.

Until now, we have only paid attention to the fact that investors are constantly raising the company’s price, discounting future Cyberpunk 2077 success. After lecture of dr Welc, we concluded that the company itself is also discounting future high sales in its balance sheet.


Sale of Cyberpunk 2077 – optimistic scenario

We realize that regardless of the current CD Projekt indicators (which in reality are even higher), many people will stick to main argument: great sale of Cyberpunk 2077 game. Let’s think about how the sale of this game may look, taking a few optimistic assumptions, namely that:

– game will be bigger success than The Witcher,

– game will be sold out in 25 mln copies over the first year.

As for the last point, it is worth referring to size of the market. 140 mln people own Xbox One and Play Station 4. At time of the game release, it will be 150-160 mln people. Therefore, we assume very optimistically that in the first year, game will be purchased by every sixth user of one of the two consoles.

Another issue – price of the game. Here, again, let’s be optimistic assuming it will cost 60 USD, and yet sell in gigantic amount of 25 mln copies (The Witcher needed two years to achieve such sales). It is worth to mention that “Red Dead Redemption 2”, produced by Rockstar Games has also cost 60 USD at the time of release.

And finally: a margin. Real assumption is profitability of 30%, and that is after paying all intermediaries and taking into account production costs.

We count:

60 USD x 0.3 = 18 USD net income per one copy.

Let’s assume USDPLN exchange rate = 3.8

18 x 3.8 – 68.4 PLN net income per game.

25 000 000 x 68.4 = 1.7 bln profit after the first year of game sale.

From this profit, one should subtract some of the nearly 250 mln that CD Projekt contributed to intangible assets. Ultimately, we are dealing with depreciation. Let’s subtract 100 mln.

Then you have to take into account that until release of CD Projekt’s new game, they will still incur considerable costs. The company says that quality is a priority, and that means spending. Let us assume, therefore, that they will amount to roughly 200 mln PLN.

Another cost is marketing related to the game, which will absorb substantial resources, let’s assume 100 mln PLN.

1.3 bln profit is left. At current price, it would mean price to earnings ratio slightly above 16. For comparison, same index for entire Warsaw Stock Exchange is 11.5.

Described scenario assumes that:

– Cyberpunk 2077 will be a bigger success than The Witcher, which in itself was a huge success,

– in the near future, there will be no turmoils in the markets that could cause foreign capital outflow from Poland,

– there will be no serious economic slowdown that could force CD Projekt to lower the game price,

– profit from the game over the first year will oscillate around 1.5 bln PLN, while net profit from The Witcher 3 over the first 1.5 years amounted to more than 600 mln PLN,

– there will be no new player on the market that will succeed similar to what CD Projekt done several years ago.



Success of CD Projekt is undeniable and also shows that gaming sector on the WSE is in a good shape. On the other hand, if there is only one industry that is doing very well, then investors’ attention automatically focuses only on several companies which creates a bubble. This is exactly what happened in case of CD Projekct which has grown by 700% over the last 3 years.

Current price of the company already includes huge success of the next game. At the same time, there is long list of factors that may somewhat thwart company’s plans.

Of course, there is a chance that CD Projekt shares prices will increase even further. Skillfully conducted marketing can make this happen. Chance will increase even more if the FED turns to more strongly loosening monetary policy and we will see another pump of stocks and bonds prices as well as great capital inflow to emerging markets.

Anyway, in our opinion optimism around CD Projekt will come to an end before the Cyberpunk 2077 release. All those who smartly exploit markets’ euphoria, will realize that it is necessary to escape because investors’ expectations are simply too high.

We will not estimate size of future declines of CD Projekt, because potential inflation increase may reduce this discount. We just want to emphasize that there are much better stocks for 2020-2025, which are smaller, undervalued companies.


Independent Trader Team



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