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We’ve talked with Carl Armfelt about the key things investors look in young and ambitious video game companies. Carl, who was recently appointed the chairman of the board at Quixel AB, manages over USD 2.3 billion with investments in CD Projekt, THQ Nordic, Paradox Interactive, Frontier Developments, Starbreeze Studios and other companies. He was kind enough to give some insights into his work.
80lv: Carl, could you give us a little introduction? Tell us how does one become an investment manager?
I’ve been working in the investment management industry for the past 10 years. My job working with equity funds is really about finding the most interesting listed companies to invest in long-term. My current focus is on small and medium-sized companies. And while I primary focus on companies in the Nordic region, one of the funds also has a global scope.
My background is a strong interest in equities. I started my career as a research analyst for a Swedish hedge fund looking at European equities. Besides investing, I’ve always been interested in sports, especially track and field.
These days I spend most of my time meeting companies. On average we meet with 500 companies a year. I think the number one factor to be successful in investments is to spend as much time as possible actually meeting people and interesting companies, especially if your focus is smaller companies. Spending time in front of the computer in the office is rarely the right approach to generate returns.
80lv: What do you look for in a company? What are the key factors that you take into consideration when you’re thinking of investing?
In our small-cap innovation fund, the common denominator between our holdings is often a small company with high growth, and at the same time, high profitability. Often, the high profitability comes from a business model, patent, or technical innovation, that makes them a global market leader in a small niche. Quite a few of our best companies have a global market share of above 30% in their main market.
If you dig beyond that, you will see that a lot of our holdings are either 1) in gaming companies — where the attractiveness lies in moats through digital brands that are technology agnostic; 2) in software companies — where the software is hard to switch out, and hence pricing is attractive; 3) in medical technology companies. The difference here from the software industry is that once you are a global winner in a category, hospitals and the medical industry tend to be a lot more conservative to change, and hence that creates a greater moat.
80lv: What is your ambition with joining the board of directors in Quixel? Will you be involved in the creative choices or is it purely business?
What I find attractive with Quixel is that the company, as of today, has a world-leading product in Megascans. Just like many companies we invest in, I would say they are a world category leader in a small niche. However, in middleware, my experience is that the landscape is everchanging. It’s either up or out.
What I hope to bring to the board is helping to build a company that is innovative and successful in the long term. There needs to be great internal innovation — but beyond that — I also think Quixel, over time, could be a great platform and consolidating force that finds other small teams with really innovative products; and that this is what will help creatives be more efficient and even more creative.
One thing we have learned is that technology is ever changing. However, we believe that the companies with strong digital brands will be winners over time in a digital economy. One good example is Take-Two and the Civilization franchise — it’s almost 25 years old, but still, every single new edition seems to be doing better and better. Another great example is GTA V. The game is 5 years old, but engagement is at an all-time high thanks to digital distribution and expansion to the original base game.
Darksiders 3 from THQ Nordic
The most important fact when we look at any games developer is that they have strong IP and also a diverse financial profile so that they will not go bust just because one game is unsuccessful. We also like games developers who are also publishers. Being both a developer and a publisher creates a lot of synergies.
It’s always difficult to assess which titles will be real hits and which will not. But when you read the annual report of, say, Paradox, Frontier Developments, and Take-Two, you realize all these guys have similar playbooks: owning their IP, working a lot more with DLC and expansion once they have found an engaging gameplay, and treating their customers as a community, not consumers.
Witcher 3: Blood and Wine by CD Project
The most attractive gaming companies will own their own IP, own their own tech, and be great at developing fun games. In addition, they will be doing all of this with financial stability across their portfolio of games. However, most often when we make our first investment in a company, they will rarely have all of the above. In those situations, the key factor for us is to see a long-term ambition to strive for that.
80lv: The technology was, for a long time, seen as a gimmick. The dot-com bubble had such a huge impact that, to this day, investors view these things as tricky. What do you think are the prospects here, not only for the video game market but also for the tools and middleware market?
Our trick is to avoid hope companies that “might” be profitable in the future. Investing in successful middleware or gaming companies with profitability and growth mitigates a lot of that risk. The happenings of the dot-com bubble are still great for us because the average generalist investor still tends to be rather skeptical. That means that if we do our homework and really look hard for attractive technology names, we face less competition, in relative terms.
80lv: Overall, what would be your advice to a technological company looking for investors?
That is a very general question, so it is hard to give a precise answer. First and foremost, focus on the product in one market. There is no point in attracting external capital and trying to grow abroad before you have a core. I think the pivotal moment is when you have success in one region and want to expand geographically. Be open with your passion and your long-term vision — because that will attract the right kind of investor, no matter what stage of the expansion you are in.
Carl Armfelt, Portfolio Manager at Swedbank Robur
Interview conducted by Kirill Tokarev